Exhibit 13.4
CONSOLIDATED STATEMENT OF INCOME - State Street Boston Corporation
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(Dollars in millions, except per share data) Year ended December 31, 1996 1995 1994
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FEE REVENUE
Fiduciary compensation...................................................... $ 1,018 $ 824 $ 750
Foreign exchange trading.................................................... 126 141 114
Servicing and processing.................................................... 125 113 115
Other....................................................................... 33 41 38
------- ------- -------
Total fee revenue...................................................... 1,302 1,119 1,017
NET INTEREST REVENUE
Interest revenue............................................................ 1,443 1,336 936
Interest expense............................................................ 892 907 544
------- ------- -------
Net interest revenue - Note L.......................................... 551 429 392
Provision for loan losses - Note D.......................................... 8 8 11
------- ------- -------
Net interest revenue after provision for loan losses................... 543 421 381
------- ------- -------
TOTAL REVENUE.......................................................... 1,845 1,540 1,398
OPERATING EXPENSES
Salaries and employee benefits - Note O..................................... 775 651 588
Transaction processing services............................................. 164 125 113
Equipment................................................................... 138 124 112
Occupancy................................................................... 100 84 73
Other - Note M.............................................................. 221 190 172
------- ------- -------
Total operating expenses............................................... 1,398 1,174 1,058
------- ------- -------
Income before income taxes............................................. 447 366 340
Income taxes - Note P....................................................... 154 119 120
------- ------- -------
NET INCOME............................................................. $ 293 $ 247 $ 220
======= ======= =======
EARNINGS PER SHARE
Primary.................................................................. $ 3.59 $ 2.98 $ 2.66
Fully diluted............................................................ 3.56 2.95 2.64
AVERAGE SHARES OUTSTANDING (in thousands)
Primary.................................................................. 81,633 83,058 82,823
Fully diluted ........................................................... 82,311 83,843 83,454
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The accompanying notes are an integral part of these financial statements.
CONSOLIDATED STATEMENT OF CONDITION - State Street Boston Corporation
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(Dollars in millions) December 31, 1996 1995
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ASSETS
Cash and due from banks - Note K..................................................... $ 1,623 $ 1,422
Interest-bearing deposits with banks................................................. 7,565 5,975
Securities purchased under resale agreements and securities borrowed - Note F........ 4,613 5,407
Federal funds sold................................................................... 1,155 348
Trading account assets............................................................... 255 504
Investment securities (principally available for sale) - Notes C and F............... 9,387 6,359
Loans (less allowance of $73 and $63) - Note D....................................... 4,640 3,923
Premises and equipment - Notes E and H............................................... 468 467
Customers' acceptance liability...................................................... 35 57
Accrued income receivable............................................................ 442 392
Other assets......................................................................... 1,341 931
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TOTAL ASSETS.................................................................. $ 31,524 $ 25,785
======== ========
LIABILITIES
Deposits:
Noninterest-bearing............................................................... $ 6,395 $ 5,082
Interest-bearing:
Domestic........................................................................ 2,071 2,151
Non-U.S......................................................................... 11,053 9,414
-------- --------
Total deposits................................................................ 19,519 16,647
Securities sold under repurchase agreements - Note F................................. 7,387 5,121
Federal funds purchased.............................................................. 117 467
Other short-term borrowings.......................................................... 649 443
Notes payable - Note G............................................................... 86 175
Acceptances outstanding.............................................................. 35 57
Accrued taxes and other expenses - Note P............................................ 657 562
Other liabilities.................................................................... 823 598
Long-term debt - Note H.............................................................. 476 127
-------- --------
TOTAL LIABILITIES............................................................. 29,749 24,197
STOCKHOLDERS' EQUITY - NOTES H, I, J, K AND Q
Preferred stock, no par: authorized 3,500,000; issued none
Common stock, $1 par: authorized 112,000,000; issued 83,615,000 and 82,695,000....... 84 83
Surplus.............................................................................. 105 40
Retained earnings.................................................................... 1,694 1,465
Net unrealized gain on available-for-sale securities................................. 12 13
Treasury stock, at cost (2,461,000 and 307,000 shares)............................... (120) (13)
-------- --------
TOTAL STOCKHOLDERS' EQUITY.................................................... 1,775 1,588
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TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY.................................... $ 31,524 $ 25,785
======== ========
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The accompanying notes are an integral part of these financial statements.
CONSOLIDATED STATEMENT OF CASH FLOWS - State Street Boston Corporation
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(Dollars in millions) Year ended December 31, 1996 1995 1994
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OPERATING ACTIVITIES
Net income................................................................. $ 293 $ 247 $ 220
Noncash charges for depreciation, amortization, provision for
loan losses and deferred income taxes................................... 221 140 172
------- ------- -------
Net income adjusted for noncash charges............................... 514 387 392
Adjustments to reconcile to net cash provided (used) by operating activities:
Securities gains, net................................................... (5) (12) (2)
Net change in:
Trading account assets................................................ 249 24 (285)
Other, net............................................................ (161) (88) (49)
------- ------- -------
NET CASH PROVIDED BY OPERATING ACTIVITIES........................... 597 311 56
INVESTING ACTIVITIES
Payments for purchases of:
Available-for-sale securities........................................... (6,912) (2,152) (4,712)
Held-to-maturity securities............................................. (906) (2,125) (3,743)
Lease financing assets.................................................. (539) (621) (643)
Premises and equipment.................................................. (114) (96) (125)
Proceeds from:
Maturities of available-for-sale securities............................. 3,442 556 1,409
Maturities of held-to-maturity securities............................... 870 2,529 3,009
Sales of available-for-sale securities.................................. 465 3,654 1,525
Principal collected from lease financing................................ 52 63 41
Net (payments for) proceeds from:
Interest-bearing deposits with banks.................................... (1,590) (1,128) 301
Federal funds sold, resale agreements and securities borrowed........... (14) (3,099) (130)
Loans................................................................... (572) (633) (435)
------- ------- -------
NET CASH USED BY INVESTING ACTIVITIES............................... (5,818) (3,052) (3,503)
------- ------- -------
FINANCING ACTIVITIES
Proceeds from issuance of:
Long-term debt.......................................................... 350
Notes payable........................................................... 177 175
Nonrecourse debt for lease financing.................................... 404 501 513
Common and treasury stock............................................... 12 5 6
Payments for:
Maturity of notes payable............................................... (257) (150)
Nonrecourse debt for lease financing.................................... (66) (62) (39)
Long-term debt.......................................................... (1) (1) (1)
Cash dividends.......................................................... (61) (56) (45)
Purchase of common stock................................................ (131) (17)
Net proceeds from:
Deposits................................................................ 2,872 2,049 909
Short-term borrowings................................................... 2,123 471 1,809
------- ------- -------
NET CASH PROVIDED BY FINANCING ACTIVITIES........................... 5,422 3,065 3,002
------- ------- -------
NET INCREASE (DECREASE)............................................. 201 324 (445)
Cash and due from banks at beginning of period............................. 1,422 1,098 1,543
------- ------- -------
CASH AND DUE FROM BANKS AT END OF PERIOD............................ $ 1,623 $ 1,422 $ 1,098
======= ======= =======
SUPPLEMENTAL DISCLOSURE
Interest paid........................................................... $ 885 $ 903 $ 545
Income taxes paid....................................................... 97 98 70
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The accompanying notes are an integral part of these financial statements.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY - State Street Boston Corporation
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(Dollars in millions, except per share data) Year ended December 31, 1996 1995 1994
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COMMON STOCK
Balance at beginning of year............................................... $ 83 $ 83 $ 82
Common stock issued (920,016, 247,850 and 601,215 shares).................. 1 1
------- ------- -------
Balance at end of year................................................. 84 83 83
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SURPLUS
Balance at beginning of year............................................... 40 37 26
Common stock issued........................................................ 77 5 11
Treasury stock issued...................................................... (12) (2)
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Balance at end of year................................................. 105 40 37
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RETAINED EARNINGS
Balance at beginning of year............................................... 1,465 1,273 1,093
Net income................................................................. 293 247 220
Cash dividends declared ($.76, $.68 and $.60 per share).................... (61) (56) (45)
Currency translation....................................................... (3) 1 5
------- ------- -------
Balance at end of year................................................. 1,694 1,465 1,273
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TREASURY STOCK, AT COST
Balance at beginning of year............................................... (13)
Common stock acquired (2,698,900 and 416,200 shares)....................... (131) (17)
Treasury stock issued (545,591 and 108,916 shares)......................... 24 4
------- ------- -------
Balance at end of year................................................. (120) (13)
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NET UNREALIZED GAIN (LOSS) ON AVAILABLE-FOR-SALE SECURITIES
Balance at beginning of year............................................... 13 (56)
Changes in unrealized gain (loss).......................................... (1) 69 (56)
------- ------- -------
Balance at end of year................................................. 12 13 (56)
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TOTAL STOCKHOLDERS' EQUITY............................................. $ 1,775 $ 1,588 $ 1,337
======= ======= =======
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The accompanying notes are an integral part of these financial statements.
NOTES TO FINANCIAL STATEMENTS - State Street Boston Corporation
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
State Street Boston Corporation ("State Street," "the Corporation") is a
financial services corporation and provides banking, trust, investment
management, global custody, administration and securities processing services to
both U.S. and non-U.S. customers. State Street reports three lines of business:
Financial Asset Services, Investment Management, and Commercial Lending.
Financial Asset Services provides global custody, accounting, administration,
foreign exchange, treasury, cash management, transaction settlement and
clearing, securities lending, and other services for investors with large pools
of investment assets worldwide such as mutual funds and pension plans; and
corporate trusteeship. Investment Management is comprised of the business
components that manage financial assets worldwide, for both institutional and
individuals, and provides related participant recordkeeping for defined
contribution plans. Commercial Lending activities include loans and other
banking services for regional middle-market companies, for nationwide companies
in selected industries and for broker/dealers. Other credit services include
asset-based finance, leasing and international trade finance.
The accounting and reporting policies of State Street and its subsidiaries
conform to generally accepted accounting principles. The significant policies
are summarized below.
BASIS OF PRESENTATION. The consolidated financial statements include the
accounts of State Street and its subsidiaries, including its principal
subsidiary, State Street Bank and Trust Company ("State Street Bank," "the
Bank"). The preparation of financial statements requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates. All significant intercompany balances and transactions have been
eliminated upon consolidation. The results of operations of businesses purchased
are included from the date of acquisition. Investments in 50%-owned affiliates
are accounted for by the equity method. During 1995, prior periods were restated
due to the acquisition of Investors Fiduciary Trust Company ("IFTC") which was
accounted for as a pooling of interests. Certain previously reported amounts
have been reclassified to conform to the current method of presentation.
For the Consolidated Statement of Cash Flows, State Street has defined cash
equivalents as those amounts included in the Consolidated Statement of Condition
caption, "Cash and due from banks."
In 1996, SFAS No. 125, "Accounting for Transfers and Servicing of Financial
Assets and Extinguishments of Liabilities" was issued. Certain provisions of
this statement have a postponed effective date of 1998. State Street will adopt
the required provisions of this statement in 1997, and the provisions are not
expected to have a material impact on the financial statements.
RESALE AND REPURCHASE AGREEMENTS; SECURITIES BORROWED. State Street purchases
U.S. Treasury and Federal agency securities ("U.S. Government securities") under
agreements to resell the securities. These purchases are recorded as securities
purchased under resale agreements, an asset in the Consolidated Statement of
Condition. These securities can be used as collateral for repurchase agreements.
It is State Street's policy to take possession or control of the security
underlying the resale agreement. The securities are revalued daily to determine
if additional collateral is necessary. State Street enters into sales of U.S.
Government securities under repurchase agreements, which are treated as
financings, and the obligations to repurchase such securities sold are reflected
as a liability in the Consolidated Statement of Condition. The dollar amount of
U.S. Government securities underlying the repurchase agreements remains in
investment securities.
Securities borrowed are recorded at the amount of cash collateral deposited with
the lender. State Street monitors daily its market exposure with respect to
securities borrowed transactions and requests that excess collateral be returned
or that additional securities be provided as needed.
SECURITIES. Debt securities are held in both the investment and trading account
portfolios. State Street accounts for debt and equity securities classified as
available for sale at fair value and the after-tax unrealized gains and losses
are reported as a separate component of stockholders' equity. Securities
classified as held to maturity are stated at cost, adjusted for amortization of
premiums and accretion of discounts. Gains or losses on sales of
available-for-sale securities are computed based on identified costs and
included in fee revenue. Trading account assets are held in anticipation of
short-term market movements and for resale to customers. Trading account assets
are carried at market value and the resulting adjustment is reflected in fee
revenue.
LOANS AND LEASE FINANCING. Loans are placed on a non-accrual basis when they
become 60 days past due as to either principal or interest, or when, in the
opinion of management, full collection of principal or interest is unlikely.
When the loan is placed on non-accrual the accrual of interest is discontinued
and previously recorded but unpaid interest is reversed and charged against
current earnings.
State Street provides asset-based financing to customers through a variety of
lease arrangements. Leveraged leases are carried net of nonrecourse debt.
Revenue on leveraged leases is recognized on a basis calculated to achieve a
constant rate of return on the outstanding investment in the leases, net of
related deferred tax liabilities, in the years in which the net investment is
positive. Gains and losses on residual values of leased equipment sold are
included in fee revenue.
ALLOWANCE FOR LOAN LOSSES. The adequacy of the allowance for loan losses is
evaluated on a regular basis by management. Factors considered in evaluating the
adequacy of the allowance include previous loss experience, current economic
conditions and their effect on borrowers, and the performance of individual
credits in relation to contract terms. The provision for loan losses charged to
earnings is based upon management's judgment of the amount necessary to maintain
the allowance at a level adequate to absorb probable losses.
State Street adopted Statement of Financial Accounting Standards ("SFAS") No.
114, "Accounting by Creditors for Impairment of a Loan," as amended by SFAS No.
118 on January 1, 1995. SFAS No. 114 requires that the allowance for loan losses
related to certain loans be evaluated based on discounted cash flows using the
loan's initial effective interest rate or the fair value of the underlying
collateral for certain collateral dependent loans. Prior to January 1, 1995, the
allowance for loan losses related to these loans was based on undiscounted cash
flows or the fair value of the collateral for collateral dependent loans. The
adoption of SFAS No. 114 did not have a material effect on the financial
statements of State Street.
PREMISES AND EQUIPMENT. Premises, equipment and leasehold improvements are
carried at cost less accumulated depreciation and amortization. Depreciation and
amortization charged to operating expenses are computed using the straight-line
method over the estimated useful life of the related asset or the remaining term
of the lease. State Street adopted SFAS No. 121, "Accounting for the Impairment
of Long-Lived Assets and for Long-Lived Assets to be Disposed Of," on January 1,
1996. This statement addresses how long-lived assets and certain identifiable
intangibles held and used should be evaluated for impairment whenever events or
changes in circumstances indicate that the carrying amount of the asset may not
be recoverable. The adoption of SFAS No. 121 did not have a material effect on
the financial statements of State Street.
REVALUATION GAINS AND LOSSES ON FINANCIAL CONTRACTS. The gross amount of
unrealized gains and losses on foreign exchange and interest rate contracts are
reported separately as other assets and other liabilities, respectively, in the
Consolidated Statement of Condition, except where such gains and losses arise
from contracts covered by qualifying master netting agreements.
CURRENCY TRANSLATION. The assets and liabilities of non-U.S. operations are
translated at month-end exchange rates, and revenue and expenses are translated
at average monthly exchange rates. Gains or losses from the translation of the
net assets of certain non-U.S. subsidiaries, net of any currency hedges and
related taxes, are credited or charged to retained earnings. Gains or losses
from other translations are included in fee revenue.
INTEREST RATE AND FOREIGN EXCHANGE CONTRACTS. State Street uses interest rate
contracts as part of its overall interest rate risk management. Gains and losses
on interest rate futures and option contracts that are designated as hedges and
effective as such are deferred and amortized over the remaining life of the
hedged assets or liabilities as an adjustment to interest revenue or interest
expense. Interest rate swap contracts that are entered into as part of interest
rate management are accounted for using the accrual method as an adjustment to
interest revenue or interest expense. Interest rate contracts related to trading
activities are adjusted to market value with the resulting gains or losses
included in fee revenue.
Foreign exchange trading positions are valued daily at prevailing exchange
rates, and the resulting gain or loss is included in fee revenue.
INCOME TAXES. The provision for income taxes includes deferred income taxes
arising as a result of reporting some items of revenue and expense in different
years for tax and financial reporting purposes.
EARNINGS PER SHARE. The computation of primary earnings per share is based on
the weighted average number of shares of common stock and common stock
equivalents outstanding during each period. Stock option and stock award grants
are included only in periods when the results are dilutive. The computation of
fully diluted earnings per share additionally includes the assumption that the
convertible debt had been converted as of the beginning of each period, with the
elimination of related interest expense less the income tax benefit.
NOTE B - ACQUISITIONS
In 1996, State Street acquired Princeton Financial Systems, Inc. ("PFS") in a
transaction accounted for as a purchase. PFS provides services and client/server
software for investment managers with particular focus on the insurance
industry. State Street issued to stockholders of PFS 923,072 shares of common
stock and cash. The proforma results of operations adjusted to include PFS for
the years ended December 31, 1995 and 1994 are not presented, as the results
would not have been significantly different.
In 1995, State Street acquired IFTC in a transaction accounted for as a pooling
of interests. IFTC was acquired for 5,972,222 shares of State Street common
stock. IFTC provides custody and fund accounting services to mutual funds,
insurance portfolios and bank portfolios.
NOTE C - INVESTMENT SECURITIES
Available-for-sale securities are recorded at fair value and held-to-maturity
securities are recorded at amortized cost on the Consolidated Statement of
Condition. Investment securities consisted of the following at December 31:
- --------------------------------------------------------------------------------------------------------------------------------
1996 1995
Amortized Unrealized Fair Amortized Unrealized Fair
(Dollars in millions) Cost Gains Losses Value Cost Gains Losses Value
- --------------------------------------------------------------------------------------------------------------------------------
Available for sale (at fair value):
U.S. Treasury and Federal agencies $ 4,630 $ 18 $ 5 $ 4,643 $ 2,270 $ 18 $ 4 $ 2,284
State and political subdivisions.. 1,557 10 8 1,559 1,300 10 4 1,306
Asset-backed securities........... 1,273 4 2 1,275 1,673 4 12 1,665
Other investments................. 1,048 12 9 1,051 271 10 1 280
------- ---- ---- ------- ------- ---- ---- -------
Total .......................... $ 8,508 $ 44 $ 24 $ 8,528 $ 5,514 $ 42 $ 21 $ 5,535
======= ==== ==== ======= ======= ==== ==== =======
Held to maturity (at amortized cost):
U.S. Treasury and Federal agencies $ 859 $ 2 $ 2 $ 859 $ 824 $ 5 $ 829
======= ==== ==== ======= ======= ==== ==== =======
- --------------------------------------------------------------------------------------------------------------------------------
The amortized cost and fair value of available-for-sale and held-to-maturity
securities by maturity at December 31, 1996, were as follows:
- --------------------------------------------------------------------------------
0-1 1-5 5-10 Over
(Dollars in millions) Years Years Years 10 Years
- --------------------------------------------------------------------------------
Available for sale:
Amortized cost $ 3,365 $ 4,629 $ 274 $ 240
Fair value 3,363 4,646 277 242
Held to maturity:
Amortized cost.... 442 417
Fair value........ 442 417
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The maturity of asset-backed securities is based upon the expected principal
payments. Securities carried at $5.1 billion and $2.2 billion at December 31,
1996 and 1995, respectively, were designated as security for public and trust
deposits, borrowed funds and for other purposes as provided by law.
During 1996, gains of $8 million and losses of $3 million were realized on sales
of available-for-sale securities of $465 million. During 1995, gains of $17
million and losses of $5 million were realized on sales of available-for-sale
securities of $3.7 billion. During 1994, gains of $6 million and losses of $4
million were realized on sales of available-for-sale securities of $1.5 billion.
In November 1995, the Financial Accounting Standards Board issued a Special
Report, "A Guide to Implementation of Statement 115 on Accounting for Certain
Investments in Debt and Equity Securities." In accordance with provisions in
that Special Report, State Street chose to reclassify certain securities from
held to maturity to available for sale on December 1, 1995. At the date of
transfer, the amortized cost of those securities was $3.8 billion and the net
unrealized gain on those securities was $3 million, which was recorded net of
tax in stockholders' equity at the date of transfer.
NOTE D - LOANS
The loan portfolio consisted of the following at December 31:
- --------------------------------------------------------------------------------
(Dollars in millions) 1996 1995
- --------------------------------------------------------------------------------
Commercial and financial........ $ 2,982 $ 2,573
Real estate..................... 118 96
Consumer........................ 40 47
Non-U.S......................... 854 699
Lease financing................. 719 571
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Total loans.................. 4,713 3,986
Less allowance for loan losses.. (73) (63)
------- -------
Net loans.................... $ 4,640 $ 3,923
======= =======
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Non-accrual loans were $12 million and $16 million at December 31, 1996 and
1995, respectively. Interest revenue for non-accrual loans under original terms
was $1 million and $2 million for 1996 and 1995, respectively. Interest revenue
recognized for non-accrual loans was less than $1 million for 1996 and 1995.
Changes in the allowance for loan losses for the years ended December 31 were as
follows:
- --------------------------------------------------------------------------------
(Dollars in millions) 1996 1995 1994
- --------------------------------------------------------------------------------
Balance at beginning of year..... $ 63 $ 58 $ 54
Provision for loan losses........ 8 8 11
Loan charge-offs................. (5) (7) (10)
Recoveries....................... 7 4 3
---- ---- ----
Balance at end of year........ $ 73 $ 63 $ 58
==== ==== ====
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NOTE E - PREMISES AND EQUIPMENT
Premises and equipment consisted of the following at December 31:
- --------------------------------------------------------------------------------
(Dollars in millions) 1996 1995
- --------------------------------------------------------------------------------
Buildings and land..................... $ 284 $ 273
Leasehold improvements................. 134 135
Equipment and furniture................ 562 477
----- -----
980 885
Accumulated depreciation
and amortization................... (512) (418)
----- -----
Total premises and equipment....... $ 468 $ 467
===== =====
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State Street has entered into noncancelable operating leases for premises and
equipment. At December 31, 1996, future minimum payments under noncancelable
operating leases with initial or remaining terms of one year or more totaled
$600 million. This consisted of $58 million, $47 million, $44 million, $42
million and $42 million for the years 1997 to 2001, respectively, and $367
million thereafter. The minimum rental commitments have been reduced by sublease
rental commitments of $11 million. Nearly all leases include renewal options.
Total rental expense amounted to $55 million, $42 million and $35 million in
1996, 1995 and 1994, respectively. Rental expense has been reduced by sublease
revenue of $1 million for each year ended 1996, 1995 and 1994.
NOTE F - INVESTMENT SECURITIES SOLD UNDER REPURCHASE AGREEMENTS
State Street enters into sales of U.S. Government securities under repurchase
agreements that are treated as financings, and the obligations to repurchase
such securities sold are reflected as a liability in the Consolidated Statement
of Condition. The dollar amount of U.S. Government securities underlying the
repurchase agreements remains in investment securities.
Information on these U.S. Government securities, and the related repurchase
agreements including accrued interest, is shown in the table below. This table
excludes repurchase agreements that are secured by securities purchased under
resale agreements and securities borrowed.
Information at December 31, 1996, was as follows:
- --------------------------------------------------------------------------------
U.S. Government Repurchase
Securities Sold Agreements
Book Book
(Dollars in millions) Amount Market Amount Rate
- --------------------------------------------------------------------------------
Maturity of repurchase
agreements:
Overnight.......... $ 1,889 $ 1,893 $ 1,864 5.43%
2 to 30 days....... 696 697 688 5.20
31 to 90 days...... 472 472 466 5.15
Over 90 days....... 880 880 879 5.20
------- ------- -------
Total............ $ 3,937 $ 3,942 $ 3,897 5.30
======= ======= =======
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NOTE G - NOTES PAYABLE
State Street Bank issues bank notes from time to time, in an aggregate amount
not to exceed $750 million and with original maturities ranging from 14 days to
five years.
Bank notes, which are not subject to redemption, represent unsecured debt
obligations of State Street Bank. Bank notes are neither obligations of nor
guaranteed by State Street and are recorded net of original issue discount. At
December 31, 1996, there was a total of $86 million of two-year foreign currency
denominated notes outstanding. This included $43 million of notes due October
1997 with an interest rate of 1.05% and $43 million of notes due January 1998
with an interest rate of 1.15%. At December 31, 1995, there was a total of $175
million of bank notes outstanding. This included $127 million with an average
maturity of 45 days and a weighted average interest rate of 5.79%, and $48
million of two-year foreign currency denominated notes due October 1997 with an
interest rate of 1.05%.
NOTE H - LONG-TERM DEBT
Long-term debt, less unamortized original issue discount, consisted of the
following at December 31:
- --------------------------------------------------------------------------------
(Dollars in millions) 1996 1995
- --------------------------------------------------------------------------------
7.94% Capital securities due 2026.... $ 200 $
7.35% Notes due 2026................. 150
5.95% Notes due 2003................. 100 100
9.50% Mortgage note due 2009......... 23 24
7.75% Convertible subordinated
debentures due 2008............... 3 3
----- -----
Total long-term debt.............. $ 476 $ 127
===== =====
- --------------------------------------------------------------------------------
The capital securities consist of $200 million cumulative semi-annual income
securities, with a liquidation amount of $1,000 per security. The capital
securities qualify as Tier 1 capital under Federal regulatory guidelines. The
capital securities were issued in December 1996 by a statutory business trust
that is wholly owned by State Street. The trust used the proceeds of the capital
securities and other assets to purchase at par $206 million of junior
subordinated debentures ("debentures") of State Street due in 2026, the
debentures are the sole assets of the trust.
Payments to be made by the trust on the capital securities are dependent on
payments that State Street has undertaken to make, particularly the payments to
be made by State Street on the debentures. Compliance by State Street would have
the effect of providing a full, irrevocable and unconditional guarantee of the
trust's obligations under the capital securities.
Distributions on the capital securities are included in interest expense and are
payable from interest payments received on the debentures and are due
semi-annually at a rate of 7.94% of the liquidation amount, subject to deferral
for up to five years under certain conditions. Redemption of the capital
securities are payable at the liquidation amount from redemption payments
received on the debentures. State Street may redeem the debentures at par at any
time after December 30, 2006, at a price of approximately 104% in 2006,
declining annually to par in 2015. Upon the occurrence of certain tax treatment,
investment company regulation and/or capital treatment changes, State Street may
redeem the capital securities at a price of Treasury rate plus 1.05% before
December 31, 1997, and Treasury rate plus 0.50% after December 31, 1997.
Redemption of the capital securities is subject to Federal regulatory approval.
In April 1996, a shelf registration statement became effective that allows State
Street to issue up to $500 million of unsecured debt securities and/or shares of
its preferred stock. In June 1996, State Street issued $150 million of 7.35%
notes due 2026, redeemable at the option of the holder in 2006. At December 31,
1996, $350 million of the shelf registration was available for issuance.
The 5.95% notes are unsecured obligations of State Street.
The 9.50% mortgage note was fully collateralized by property at December 31,
1996. The aggregate maturities of this mortgage note are $1 million for the
years 1997 through 2000 and $2 million for 2001.
The 7.75% debentures are convertible to common stock at a price of $5.75 per
share, subject to adjustment for certain events. The debentures are redeemable,
at State Street's option, at a price of approximately 101%, declining annually
to par by 1998. During 1996 and 1995, debentures were converted into 5,217 and
25,734 shares of common stock, respectively. At December 31, 1996, 553,043
shares of common stock had been reserved for issuance upon conversion.
NOTE I - STOCKHOLDERS' EQUITY
The Board of Directors has authorized the repurchase of up to six million shares
of State Street's common stock. Shares purchased under the authorization could
be used for employee benefit plans or general corporate purposes. During 1996,
2,698,900 shares of State Street's common stock were purchased for both purposes
at an average cost of $48 per share. During 1995, 416,200 shares of State
Street's common stock were purchased for employee benefit plans at an average
cost of $41 per share.
Under the 1994 Stock Option and Performance Unit Plan, options and stock
appreciation rights ("SARs") covering 3,500,000 shares of common stock and
1,000,000 performance units may be issued. State Street has stock options and
performance units outstanding from previous plans under which no further grants
can be made.
State Street has long-term incentive plans from which stock options, stock
awards, SARs and performance units can be awarded. The exercise price of
non-qualified and incentive stock options may not be less than fair value of
such shares at date of grant and expire no longer than ten years from date of
grant. Performance units have been granted to officers at the policy-making
level. Performance units are earned over a performance period based on
achievement of goals. Payment for performance units is made in cash equal to the
fair market value of State Street's common stock after the conclusion of each
performance period. During 1996, 300,000 shares were granted under the stock
award program, none of which were exercisable at December 31, 1996. Compensation
expense related to performance units and stock awards were $10 million, $3
million and less than $1 million for 1996, 1995 and 1994, respectively.
Options outstanding and activity for the years ended December 31, consisted of
the following:
- --------------------------------------------------------------------------------
(Dollars in millions,
except per share amounts; Option Price
shares in thousands) Shares Per Share Total
- --------------------------------------------------------------------------------
December 31, 1994...... 2,802 $ 6.42-45.31 $ 70
Granted............. 378 32.50-44.00 13
Exercised........... (327) 6.42-36.38 (5)
Canceled............ (67) 20.72-45.31 (2)
----- -----
December 31, 1995...... 2,786 11.23-45.31 76
Granted............. 1,038 52.81-67.75 62
Exercised........... (533) 11.23-29.05 (12)
Canceled............ (53) 32.25-67.75 (2)
----- -----
December 31, 1996...... 3,238 $12.03-67.75 $ 124
===== =====
- --------------------------------------------------------------------------------
During 1994, 460,000 options were exercised at per share prices of $3.95 to
$32.25. At December 31, 1996, 1,059,837 shares under options were exercisable of
which 50,799 shares relate to an acquired plan. At December 31, 1996, 1,431,795
shares under options and SARs were available for future grants.
SFAS No. 123 "Accounting for Stock-Based Compensation," is effective for 1996.
This statement addresses accounting and reporting standards for stock-based
employee compensation plans. State Street has elected to continue to recognize
compensation expense using the intrinsic value-based method of accounting
prescribed by APB Opinion No. 25. Proforma results, using the fair value method,
are not presented, as results are not materially different than those reported.
NOTE J - SHAREHOLDERS' RIGHTS PLAN
In 1988, State Street declared a dividend of one preferred share purchase right
for each outstanding share of common stock. Under certain conditions, a right
may be exercised to purchase one two-hundredths share of a series of
participating preferred stock at an exercise price of $75, subject to
adjustment. The rights become exercisable if a party acquires or obtains the
right to acquire 20% or more of State Street's common stock or after
commencement or public announcement of an offer for 20% or more of State
Street's common stock. When exercisable, under certain conditions, each right
also entitles the holder thereof to purchase shares of common stock, of either
State Street or of the acquiror, having a market value of two times the then
current exercise price of that right.
The rights expire in September 1998, and may be redeemed at a price of $.005 per
right at any time prior to expiration or the acquisition of 20% of State
Street's common stock. Also, under certain circumstances, the rights may be
redeemed after they become exercisable and may be subject to automatic
redemption.
NOTE K - REGULATORY MATTERS
REGULATORY CAPITAL. State Street is subject to various regulatory capital
requirements administered by the Federal banking agencies. All guidelines are
consistent for State Street and State Street Bank, except for the leverage ratio
which is 5% for State Street Bank. 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 State
Street's financial statements. Under capital adequacy guidelines, State Street
must meet specific capital guidelines that involve quantitative measures of
State Street's assets, liabilities, and certain off-balance sheet items as
calculated under regulatory accounting practices. State Street's capital amounts
and classification are also subject to qualitative judgments by the regulators
about components, risk weightings and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require State Street and State Street Bank to maintain minimum risk-based and
leverage ratios as set forth in the table below. The risk-based capital ratios
are Tier 1 capital and Total capital to risk-based assets, and the leverage
ratio is Tier 1 capital to quarterly average assets.
As of December 31, 1996, the most recent filing with the Federal Reserve Bank,
State Street Bank was categorized as well capitalized under the regulatory
framework for prompt corrective action. To be categorized as well capitalized,
State Street Bank must exceed the well capitalized guideline ratios, as set
forth in the table, and meet certain other requirements. Management believes
that State Street Bank exceeds all well capitalized requirements and there have
been no conditions or events since the filing that management believes would
change the status of well capitalized.
The regulatory capital amounts and ratios were the following at December 31:
- -------------------------------------------------------------------------------------------------------------------------------
Regulatory Guidelines(1)
------------------------ State Street State Street Bank
Well ----------------------- ----------------------------
(Dollars in millions) Minimum Capitalized 1996 1995 1996 1995
- -------------------------------------------------------------------------------------------------------------------------------
Risk-based ratios:
Tier 1 capital.................. 4% 6% 13.4% 14.0% 12.1% 13.1%
Total capital................... 8% 10% 13.6 14.5 11.9 13.4
Leverage ratio..................... 3% 4% 5.9 5.6 5.3 5.2
Tier 1 capital..................... $ 1,818 $ 1,507 $ 1,632 $ 1,391
Total capital...................... 1,847 1,563 1,611 1,422
Risk-based assets:
On-balance sheet................ $ 10,311 $ 8,409 $ 10,234 $ 8,296
Off-balance sheet............... 3,249 2,339 3,249 2,339
-------- -------- -------- --------
Total risk-based assets....... $ 13,560 $ 10,748 $ 13,483 $ 10,635
======== ======== ======== ========
- -------------------------------------------------------------------------------------------------------------------------------
(1) The regulatory framework for prompt corrective action is not applicable to State Street (bank holding companies).
CASH, DIVIDEND, LOAN AND OTHER RESTRICTIONS. During 1996, subsidiary banks of
State Street were required by the Federal Reserve Bank to maintain average
reserve balances of $293 million.
State Street's principal source of funds for the payment of cash dividends to
stockholders is from dividends paid by State Street Bank. Federal and state
banking regulations place certain restrictions on dividends paid by subsidiary
banks to State Street. At December 31, 1996, State Street Bank had $486 million
of retained earnings available for distribution to State Street in the form of
dividends.
The Federal Reserve Act requires that extensions of credit by State Street Bank
to certain affiliates, including State Street, be secured by specific
collateral, that the extension of credit to any one affiliate be limited to 10%
of capital and surplus (as defined), and that extensions of credit to all such
affiliates be limited to 20% of capital and surplus.
At December 31, 1996, consolidated retained earnings included $18 million
representing undistributed earnings of 50%-owned affiliates.
State Street has a committed line of credit of $50 million to support its
commercial paper program.
NOTE L - NET INTEREST REVENUE
Net interest revenue consisted of the following for the years ended December 31:
- -----------------------------------------------------------------------------------------------------------------------------
(Dollars in millions) 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------------------------
INTEREST REVENUE
Deposits with banks.......................................................................... $ 337 $ 287 $ 209
Investment securities:
U.S. Treasury and Federal agencies......................................................... 260 244 184
State and political subdivisions (exempt from Federal tax)................................. 68 53 42
Other investments.......................................................................... 127 133 138
Loans........................................................................................ 278 242 183
Securities purchased under resale agreements, securities borrowed and Federal funds sold..... 356 357 156
Trading account assets....................................................................... 17 20 24
------ ------ -----
Total interest revenue.................................................................. 1,443 1,336 936
------ ------ -----
INTEREST EXPENSE
Deposits..................................................................................... 425 416 281
Other borrowings............................................................................. 452 483 255
Long-term debt............................................................................... 15 8 8
------ ------ -----
Total interest expense.................................................................. 892 907 544
------ ------ -----
Net interest revenue.................................................................... $ 551 $ 429 $ 392
====== ====== =====
- -----------------------------------------------------------------------------------------------------------------------------
NOTE M - OPERATING EXPENSES-OTHER
The other category of operating expenses consisted of the following for the years ended December 31:
- -----------------------------------------------------------------------------------------------------------------------------------
(Dollars in millions) 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------------------------------
Professional services........................................................................ $ 61 $ 48 $ 48
Advertising and sales promotion.............................................................. 34 26 23
Postage, forms and supplies.................................................................. 26 24 21
Telecommunications........................................................................... 23 22 22
Other........................................................................................ 77 70 58
------ ------ -----
Total operating expenses - other........................................................ $ 221 $ 190 $ 172
====== ====== =====
- -----------------------------------------------------------------------------------------------------------------------------------
NOTE N - QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
The following is a tabulation of the unaudited quarterly results of operations:
- ------------------------------------------------------------------------------------------------------------------------------
(Dollars and shares in millions, 1996 Quarters 1995 Quarters
except per share data) Fourth Third Second First Fourth Third Second First
- ------------------------------------------------------------------------------------------------------------------------------
Fee revenue.......................... $ 348 $ 324 $ 323 $ 307 $ 297 $ 284 $ 277 $ 262
Interest revenue..................... 386 369 342 346 346 341 330 319
Interest expense..................... 239 230 208 215 232 232 224 219
----- ----- ----- ----- ----- ----- ----- -----
Net interest revenue.............. 147 139 134 131 114 109 106 100
Provision for loan losses............ 2 2 2 2 2 2 2 2
----- ----- ----- ----- ----- ----- ----- -----
Total revenue..................... 493 461 455 436 409 391 381 360
Operating expenses................... 375 350 345 328 309 301 289 275
----- ----- ----- ----- ----- ----- ----- -----
Income before income taxes....... 118 111 110 108 100 90 92 85
Income taxes......................... 40 37 39 38 35 25 29 31
----- ----- ----- ----- ----- ----- ----- -----
Net Income........................ $ 78 $ 74 $ 71 $ 70 $ 65 $ 65 $ 63 $ 54
===== ===== ===== ===== ===== ===== ===== =====
Earnings Per Share:
Primary........................... $ .96 $ .91 $ .87 $ .85 $ .79 $ .78 $ .75 $ .66
Fully diluted..................... .95 .90 .87 .84 .78 .77 .75 .65
Average Shares Outstanding:
Primary........................... 82 81 82 82 83 83 83 83
Fully diluted..................... 82 82 82 83 84 84 84 83
- ------------------------------------------------------------------------------------------------------------------------------
NOTE O - EMPLOYEE BENEFIT PLANS
RETIREMENT PLANS. State Street and nearly all of its U.S. subsidiaries
participate in a noncontributory, cash balance defined benefit plan covering
employees based on age and service. The plan provides individual account
accumulations that are increased annually based on salary, service and interest
credits. State Street uses the projected unit credit method as its actuarial
valuation method. It is State Street's funding policy to contribute annually the
maximum amount that can be deducted for Federal income tax purposes. Employees
in non-U.S. offices participate in local plans, and the cost of these plans is
not material.
The following table sets forth the primary plan's funded status, actuarial
assumptions and amounts recognized in the Consolidated Financial Statements as
of and for the years ended December 31:
- -----------------------------------------------------------------------------------------------------------------------------
(Dollars in millions) 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------------------------
Accumulated benefit obligation:
Vested........................................................................ $ 119 $ 113 $ 92
Nonvested..................................................................... 16 13 9
Additional benefits based on estimated future salary levels...................... 25 23 17
------ ------ ------
Projected benefit obligation................................................ 160 149 118
Plan assets at fair value (primarily listed stocks and fixed income securities).. 193 178 157
------ ------ ------
Excess of plan assets over projected benefit obligation..................... 33 29 39
Unrecognized net asset at transition (amortized over 17.2 years)................. (14) (16) (18)
Unrecognized net (gain) loss..................................................... (3) 8 3
Unrecognized prior service costs................................................. (3) (3) (4)
------ ------ ------
Total prepaid pension expense (included in other assets).................... $ 13 $ 18 $ 20
====== ====== ======
Pension expense:
Current service cost.......................................................... $ 13 $ 11 $ 11
Interest cost on projected benefit obligation................................. 12 10 8
Actual return on plan assets.................................................. (26) (34) (3)
Net amortization and deferral................................................. 6 16 (15)
------ ------ ------
Total pension expense....................................................... $ 5 $ 3 $ 1
====== ====== ======
Actuarial assumptions:
Discount rate used to determine benefit obligation............................ 8.50% 8.00% 8.75%
Rate of increase for future compensation...................................... 6.00 5.00 5.00
Expected long-term rate of return on plan assets................................. 10.25 10.25 10.25
- -----------------------------------------------------------------------------------------------------------------------------
The projected rate of increase for future compensation was changed from 5% to 6%
in 1996, due to anticipated future salary increases.
State Street has non-qualified supplemental retirement plans that provide
certain officers with defined pension benefits in excess of allowable tax
deductions. At December 31, 1996, 1995 and 1994, the projected benefit
obligation of these plans was $20 million, $15 million and $5 million and the
related pension expense was $4 million, $2 million and less than $1 million,
respectively.
Total pension expense for all plans was $13 million, $8 million and $5 million
for 1996, 1995 and 1994, respectively.
Employees of State Street Bank and certain subsidiaries are eligible to
contribute a portion of their pre-tax salary to a 401(k) Salary Savings Plan.
State Street matches a portion of these contributions, and the related expense
was $9 million, $9 million and $7 million for 1996, 1995 and 1994, respectively.
POSTRETIREMENT PLAN. State Street Bank and certain subsidiaries provide health
care and life insurance benefits for retired employees. State Street funds
medical and life insurance benefit costs at the same level that expenses are
increased.
The discount rate used in determining the accumulated postretirement benefit
obligation ("APBO") was 8.50%, 8.00% and 8.75% for 1996, 1995 and 1994,
respectively. The assumed health care cost trend rate used in measuring the APBO
was no increase for the next two years, and 4.5% thereafter. If the health care
trend rate assumptions were increased by 1%, the APBO would have increased by 6%
as of December 31, 1996, and the aggregate expense for service and interest
costs for 1996 would have increased by 8%.
The following table sets forth the financial status of the postretirement plan
and amounts recognized in the Consolidated Financial Statements as of and for
the years ended December 31:
- ----------------------------------------------------------------------------------------------------------------------------
(Dollars in millions) 1996 1995 1994
- ----------------------------------------------------------------------------------------------------------------------------
Accumulated postretirement benefit obligation:
Retirees.............................................................................. $ 5 $ 5 $ 7
Fully eligible active employees....................................................... 5 5 5
Other active employees................................................................ 10 11 12
---- ---- ---
Total accumulated postretirement benefit obligation................................. 20 21 24
Unrecognized transition obligation (amortized over 20 years)............................. (18) (19) (20)
Unrecognized net gain.................................................................... 12 9 4
---- ---- ---
Accrued postretirement benefit costs (included in liabilities)...................... $ 14 $ 11 $ 8
==== ==== ===
Postretirement benefits expense:
Current service cost.................................................................. $ 1 $ 2 $ 2
Interest cost on APBO................................................................. 2 2 2
Net amortization and deferral......................................................... 1 1 1
---- ---- ---
Total postretirement benefits expense............................................. $ 4 $ 5 $ 5
==== ==== ===
- -----------------------------------------------------------------------------------------------------------------------------
NOTE P - INCOME TAXES
The provision for income taxes included in the Consolidated Statement of Income
consisted of the following:
- -------------------------------------------------------------
(Dollars in millions) 1996 1995 1994
- -------------------------------------------------------------
Current:
Federal..................... $ 43 $ 32 $ 27
State....................... 20 20 22
Non-U.S..................... 15 21 25
----- ----- ------
Total current............. 78 73 74
Deferred:
Federal..................... 60 33 34
State....................... 16 13 12
----- ----- ------
Total deferred............ 76 46 46
----- ----- ------
Total income taxes........ $ 154 $ 119 $ 120
===== ===== ======
- -------------------------------------------------------------
Current and deferred taxes for 1995 and 1994 have been reclassified to reflect
the tax returns as actually filed. Income tax benefits of $7 million, $2 million
and $5 million in 1996, 1995 and 1994, respectively, related to certain employee
stock option exercises, were recorded directly to stockholders' equity and are
not included in the table above. Income tax expense related to net securities
gains was $2 million, $5 million and $1 million for 1996, 1995 and 1994,
respectively.
Pre-tax income attributable to operations located outside the United States was
$91 million, $67 million and $76 million in 1996, 1995 and 1994, respectively.
Significant components of the deferred tax liabilities and assets at December 31
were as follows:
- -----------------------------------------------------------
(Dollars in millions) 1996 1995
- -----------------------------------------------------------
Deferred tax liabilities:
Lease financing transactions......... $ 423 $ 326
Other................................ 17 21
Total deferred tax liabilities.... 440 347
----- -----
Deferred tax assets:
Operating expenses................... 45 37
Allowance for loan losses............ 31 27
Tax carryforwards.................... 18 22
Depreciation, net.................... 20 9
Other................................ 12 9
----- -----
Valuation allowance.................. (11) (10)
----- -----
Total deferred tax assets.......... 115 94
----- -----
Net deferred tax liabilities....... $ 325 $ 253
===== =====
- -----------------------------------------------------------
At December 31, 1996, State Street had non-U.S. tax losses carryforwards of $27
million and U.S. tax credit carryforwards of $9 million. If not used, $12
million of the losses will expire in the years 2001 and 2002. The tax credits
and the remaining tax losses carry forward indefinitely.
A reconciliation of the differences between the U.S. statutory income tax rate
and the effective tax rates based on income before taxes is as follows:
- --------------------------------------------------------------
1996 1995 1994
- --------------------------------------------------------------
U.S. Federal income tax rate........ 35.0% 35.0% 35.0%
Changes from statutory rate:
State taxes, net of Federal benefit 4.9 3.2 6.7
Tax-exempt interest revenue,
net of disallowed interest.... (4.5) (4.3) (4.1)
Tax credits....................... (1.4) (1.7) (2.3)
Other, net........................ .5 .4 ( .1)
---- ---- ----
Effective tax rate............. 34.5% 32.6% 35.2%
==== ==== ====
- --------------------------------------------------------------
For years beginning on or after January 1, 1995, the Commonwealth of
Massachusetts reduced the tax rate applicable to financial institutions and
permitted apportionment of income. The change in tax law resulted in a
revaluation of the deferred tax assets and liabilities which existed at the
beginning of 1995. This revaluation and the reduction of current year state tax
expense reduced the 1995 provision for state taxes. In addition, during 1995 a
settlement of prior years' state taxes resulted in a net $3.6 million reduction
of taxes. The settlement resolved a claim over the taxability of interest
revenue on certain Massachusetts bonds.
NOTE Q - CONTINGENT LIABILITIES
State Street provides banking, trust, investment management, global custody,
accounting, administration and securities processing services to both domestic
and global customers. Assets under custody and assets under management, held by
State Street in a fiduciary or custodial capacity, are not included in the
Consolidated Statement of Condition because such items are not assets of State
Street. Management conducts regular reviews of its responsibilities for these
services and considers the results in preparing its financial statements. In the
opinion of management, there are no contingent liabilities at December 31, 1996,
that would have a material adverse effect on State Street's financial position
or results of operations.
State Street is subject to pending and threatened legal actions that arise in
the normal course of business. In the opinion of management, after discussion
with counsel, these can be successfully defended or resolved without a material
adverse effect on State Street's financial position or results of operations.
NOTE R - OFF-BALANCE SHEET FINANCIAL INSTRUMENTS, INCLUDING DERIVATIVES
State Street uses various off-balance sheet financial instruments, including
derivatives, to satisfy the financing and risk management needs of customers, to
manage interest rate and currency risk and to conduct trading activities. In
general terms, derivative instruments are contracts or agreements whose value
can be derived from interest rates, currency exchange rates and/or other
financial indices. Derivative instruments include forwards, futures, swaps,
options and other instruments with similar characteristics. The use of these
instruments generates fee, interest or trading revenue. Associated with these
instruments are market and credit risks that could expose State Street to
potential losses.
Market risk relates to the possibility that financial instruments may change in
value due to future fluctuations in market prices. There may be considerable
day-to-day variation in market-risk exposure because of changing expectations of
future currency values or interest rates. State Street actively manages its
market-risk exposure.
Credit risk relates to the possibility that a loss may occur from the failure of
another party to perform according to the terms of a contract. The credit risk
associated with off-balance sheet financial instruments is managed in
conjunction with State Street's balance sheet activities. State Street minimizes
its credit risk by performing credit reviews of counterparties or by conducting
activities through organized exchanges. Historically, credit losses with respect
to these instruments have been immaterial.
State Street uses derivative financial instruments in trading and balance sheet
management activities. The objectives of trading activities are to act as an
intermediary in arranging transactions for customers and to assume positions in
interest rate or foreign currency markets based upon expectations of future
market movements. The objective of balance sheet management activities is to use
derivatives in minimizing the risk inherent in State Street's asset and
liability structure from interest rate and currency exchange movements.
Interest rate contracts involve an agreement with a counterparty to exchange
cash flows based on the movement of an underlying interest rate index. An
interest rate swap agreement involves the exchange of a series of interest
payments, either at a fixed or variable rate, based upon the notional amount
without the exchange of the underlying principal amount. An interest rate option
contract provides the purchaser, for a premium, the right but not the obligation
to buy or sell the underlying financial instrument at a set price at or during a
specified period. An interest rate futures contract is a commitment to buy or
sell at a future date a financial instrument at a contracted price and may be
settled in cash or through the delivery of the contracted instrument.
Foreign exchange contracts involve an agreement to exchange the currency of one
country for the currency of another country at an agreed upon rate and
settlement date. Foreign exchange contracts consist of swap agreements and
forward and spot contracts.
The following table summarizes the contractual or notional amounts of derivative
financial instruments held or issued by State Street for trading and balance
sheet management at December 31:
- ----------------------------------------------------------------
(Dollars in millions) 1996 1995
- ----------------------------------------------------------------
Trading:
Interest rate contracts:
Swap agreements...................... $ 880 $ 420
Options and caps purchased........... 25 25
Options and caps written............. 116 36
Futures - short position............. 1,252 1,042
Futures - long position.............. 8
Options on futures purchased......... 430 1,000
Options on futures written........... 28 800
Foreign exchange contracts:
Forward, swap and spot............... 62,109 54,965
Options purchased.................... 206 20
Options written...................... 60 43
Options on futures purchased......... 330
Balance Sheet Management:
Interest rate contracts:
Swap agreements...................... 296 217
Options and caps purchased........... 50 50
Foreign exchange contracts.............. 65
- ----------------------------------------------------------------
State Street's risk exposure from interest rate and foreign exchange contracts
results from the possibility that one party may default on its contractual
obligation or from movements in exchange or interest rates. Credit risk is
limited to the positive market value of the derivative financial instrument,
which is significantly less than the notional value. The notional value provides
the basis for determining the exchange of contractual cash flows. The exposure
to credit loss can be estimated by calculating the cost on a present value basis
to replace at current market rates all profitable contracts at year-end. The
estimated aggregate replacement cost of derivative financial instruments in a
net positive position was less than $1 billion at December 31, 1996 and 1995.
FINANCIAL INSTRUMENTS HELD OR ISSUED FOR TRADING. The following table represents
the fair value and average fair value of financial instruments held or issued
for trading purposes as of and for the years ended December 31, 1996 and 1995.
The following amounts have been reduced by offsetting balances with the same
counterparty where a master netting agreement exists:
- ------------------------------------------------------------------
Average
(Dollars in millions) Fair Value Fair Value
- ------------------------------------------------------------------
1996
Foreign exchange contracts:
Contracts in a receivable position. $ 620 $ 615
Contracts in a payable position.... 634 617
Other financial instrument contracts:
Contracts in a receivable position. 6 6
Contracts in a payable position.. 4 4
1995
Foreign exchange contracts:
Contracts in a receivable position. $ 539 $ 751
Contracts in a payable position.... 466 704
Other financial instrument contracts:
Contracts in a receivable position. 4 2
Contracts in a payable position.... 3 3
- -------------------------------------------------------------------------------
State Street is an active participant in the global foreign exchange market in
support of a large institutional customer base engaged in international
investing. Trading is conducted through eight treasury centers located in major
financial centers throughout the world. State Street operates in the spot and
forward markets in over 40 currencies and is active in the foreign exchange
interbank market. Trading occurs with approximately 225 counterparty banks
globally to facilitate customer transactions.
State Street Bank uses interest rate futures and, to a lesser extent, options on
interest rate futures to minimize the impact of the market valuation changes on
a portion of the bank's trading securities portfolio and to take positions on
interest rate movements.
Foreign exchange contracts and other contracts used in trading activities are
carried at fair value. The fair value of the instruments is recorded in the
balance sheet as part of other assets or other liabilities. Net foreign exchange
trading gains related to foreign exchange contracts totaled $126 million and
$141 million for 1996 and 1995, respectively. Gains/losses for other financial
instrument contracts were $1 million gain in 1996 and $1 million loss in 1995.
Trading gains and losses are recorded in fee revenue. Future cash requirements,
if any, related to foreign currency contracts are represented by the gross
amount of currencies to be exchanged under each contract unless State Street and
the counterparty have agreed to pay or receive the net contractual settlement
amount on the settlement date. Future cash requirements on other financial
instruments are limited to the net amounts payable under the agreements.
FINANCIAL INSTRUMENTS HELD OR ISSUED FOR BALANCE SHEET MANAGEMENT. State Street
enters into various interest rate and foreign exchange contracts in managing its
balance sheet risk. State Street uses interest rate swaps options and caps to
manage interest rate risk, and foreign exchange contracts to minimize currency
translation risk. Interest rate derivative contracts are used to convert
short-term floating rate liabilities into long-term fixed rate liabilities
corresponding to long-term balance sheet assets. Income or expense on financial
instruments used to manage interest rate exposure is recorded on an accrual
basis as an adjustment to the yield of the related interest-earning asset or
interest-bearing liability over the period covered by the contracts.
Foreign exchange contracts are used to minimize the exposure to currency loss
from balance sheet investments denominated in foreign currencies. The foreign
exchange contracts and the currency translation of the investment are marked to
market, and the unrealized gain or loss is recorded in other fee revenue.
CREDIT-RELATED FINANCIAL INSTRUMENTS. Credit-related financial instruments
include indemnified securities on loan, commitments to extend credit, standby
letters of credit and letters of credit. The maximum credit risk associated with
credit-related financial instruments is measured by the contractual amounts of
these instruments.
The following is a summary of the contractual amount of State Street's
credit-related, off-balance sheet financial instruments at December 31:
- ------------------------------------------------------------
(Dollars in millions) 1996 1995
- ------------------------------------------------------------
Indemnified securities on loan..... $ 41,518 $ 28,949
Loan commitments................... 4,974 3,626
Standby letters of credit.......... 1,777 1,286
Letters of credit.................. 160 179
- ------------------------------------------------------------
On behalf of its customers, State Street lends their securities to creditworthy
brokers and other institutions. In certain circumstances, State Street may
indemnify its customers for the fair market value of those securities against a
failure of the borrower to return such securities. State Street requires the
borrowers to provide collateral in an amount equal to or in excess of 102% of
the fair market value of the securities borrowed. The borrowed securities are
revalued daily to determine if additional collateral is necessary. State Street
held as collateral, cash and U.S. Government securities totaling $42.8 billion
and $30.2 billion for indemnified securities on loan at December 31, 1996 and
1995, respectively.
In conjunction with its lending activities, State Street enters into various
commitments to extend credit and issues letters of credit. Loan commitments
(unfunded loans and unused lines of credit), standby letters of credit and
letters of credit are issued to accommodate the financing needs of State
Street's customers. Loan commitments are essentially agreements by State Street
to lend monies at a future date, so long as there are no violations of any
conditions established in the agreement. Standby letters of credit and letters
of credit commit State Street to make payments on behalf of customers when
certain specified events occur.
These loan and letter-of-credit commitments are subject to the same credit
policies and reviews as loans on the balance sheet. Collateral, both the amount
and nature, is obtained based upon management's assessment of the credit risk.
Approximately 70% of the loan commitments expire in one year or less from the
date of issue. Since many of the extensions of credit are expected to expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements.
NOTE S - FAIR VALUE OF FINANCIAL INSTRUMENTS
State Street uses the following methods to estimate the fair value of financial
instruments.
For financial instruments that have quoted market prices, those quotes are used
to determine fair value. Financial instruments that have no defined maturity,
have a remaining maturity of 180 days or less, or reprice frequently to a market
rate, are assumed to have a fair value that approximates reported book value,
after taking into consideration any applicable credit risk. If no market quotes
are available, financial instruments are valued by discounting the expected cash
flow(s) using an estimated current market interest rate for the financial
instrument. For off-balance sheet derivative instruments, fair value is
estimated as the amounts that State Street would receive or pay to terminate the
contracts at the reporting date, taking into account the current unrealized
gains or losses on open contracts.
The short maturity of State Street's assets and liabilities results in having a
significant number of financial instruments whose fair value equals or closely
approximates reported balance sheet value. Such financial instruments are
reported in the following balance sheet captions: Cash and due from banks;
Interest-bearing deposits with banks; Securities purchased under resale
agreements and securities borrowed; Federal funds sold; Deposits; Securities
sold under repurchase agreements; Federal funds purchased; and Other short-term
borrowings. Fair value of trading accounts equals the balance sheet value. In
1996, the fair value of interest rate contracts used for balance sheet
management would be a payable of $6 million; in 1995, the fair value of such
interest rate contracts would be a payable of $4 million. There is no cost for
loan commitments.
The reported value and fair value for other balance sheet captions at December
31 are as follows:
- -----------------------------------------------------------
Reported Fair
(Dollars in millions) Value Value
- -----------------------------------------------------------
1996
Investment securities:
Available for sale................. $ 8,528 $ 8,528
Held to maturity................... 859 859
Net loans (excluding leases).......... 3,994 3,994
Notes payable......................... 86 88
Long-term debt........................ 476 463
1995
Investment securities:
Available for sale................. $ 5,535 $ 5,535
Held to maturity................... 824 829
Net loans (excluding leases).......... 3,415 3,415
Notes payable......................... 175 175
Long-term debt........................ 127 132
- -------------------------------------------------------------------------------
NOTE T - NON-U.S. ACTIVITIES
Non-U.S. activities, as defined by the Securities and Exchange Commission, are
considered to be those revenue-producing assets and transactions that arise from
customers domiciled outside the United States.
Due to the nature of State Street's business, it is not possible to segregate
precisely domestic and non-U.S. activities. The determination of earnings
attributable to non-U.S. activities requires internal allocations for resources
common to non-U.S. and domestic activities. Subjective judgments have been used
to arrive at these operating results for non-U.S. activities. Interest expense
allocations are based on the average cost of short-term domestic borrowed funds.
Allocations for operating expenses and certain administrative costs are based on
services provided and received.
The following table summarizes non-U.S. operating results and assets, based on
the domicile location of customers, for the years ended and as of December 31:
- ---------------------------------------------------------------------------------------------------------------------------------
(Dollars in millions) 1996 1995 1994
- ---------------------------------------------------------------------------------------------------------------------------------
Operating results:
Fee revenue............................................................................ $ 252 $ 226 $ 181
Interest revenue....................................................................... 489 451 309
Interest expense....................................................................... 359 343 223
-------- -------- --------
Net interest revenue.............................................................. 130 108 86
Provision for loan losses.............................................................. 1 4 2
-------- -------- --------
Total revenue..................................................................... 381 330 265
Operating expenses..................................................................... 273 241 187
-------- -------- --------
Net income before taxes........................................................... 108 89 78
Income taxes........................................................................... 40 32 32
-------- -------- --------
Net Income........................................................................ $ 68 $ 57 $ 46
======== ======== ========
Assets:
Interest-bearing deposits with banks................................................... $ 7,565 $ 5,975 $ 4,847
Loans and other assets................................................................. 1,486 1,447 785
-------- -------- --------
Total Assets...................................................................... $ 9,051 $ 7,422 $ 5,632
======== ======== ========
NOTE U - FINANCIAL STATEMENTS OF STATE STREET BOSTON CORPORATION (PARENT ONLY)
STATEMENT OF INCOME
- -----------------------------------------------------------------------------------------------------------------------------------
(Dollars in millions) Year ended December 31, 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------------------------------
Dividends from bank subsidiary......................................................... $ 88 $ 96 $ 37
Dividends and interest revenue......................................................... 10 12 7
Securities gains, net.................................................................. 3 5
----- ------ -----
Total revenue..................................................................... 101 113 44
Interest on commercial paper........................................................... 3 8 3
Interest on long-term debt............................................................. 13 6 6
Other expenses......................................................................... 3 4 1
----- ------ -----
Total expenses.................................................................... 19 18 10
Income tax benefit..................................................................... (1) (1)
----- ------ -----
Income before equity in undistributed income of subsidiaries...................... 83 95 35
Equity in undistributed income of subsidiaries and affiliate:
Consolidated bank................................................................... 192 132 161
Consolidated nonbank................................................................ 12 15 20
Unconsolidated affiliate............................................................ 6 5 4
----- ------ -----
210 152 185
----- ------ -----
Net Income........................................................................ $ 293 $ 247 $ 220
===== ===== =====
- -----------------------------------------------------------------------------------------------------------------------------------
STATEMENT OF CONDITION
- -----------------------------------------------------------------------------------------------------------------------------------
(Dollars in millions) December 31, 1996 1995
- -----------------------------------------------------------------------------------------------------------------------------------
ASSETS
Cash and due from banks........................................................................ $ 2 $ 1
Interest-bearing deposits with bank subsidiary................................................. 316 165
Available-for-sale securities.................................................................. 10 28
Investment in consolidated subsidiaries:
Bank........................................................................................ 1,778 1,455
Nonbank..................................................................................... 76 102
Investment in unconsolidated affiliate......................................................... 26 21
Notes receivable from nonbank subsidiaries..................................................... 57 15
Other assets................................................................................... 11 2
------- --------
Total Assets.............................................................................. $ 2,276 $ 1,789
======= =======
LIABILITIES
Commercial paper............................................................................... $ 8 $ 74
Accrued taxes and other expenses............................................................... 18 10
Other liabilities.............................................................................. 16 15
Long-term debt................................................................................. 459 103
------- --------
Total Liabilities......................................................................... 501 202
Stockholders' Equity........................................................................... 1,775 1,587
------- --------
Total Liabilities and Stockholders' Equity................................................ $ 2,276 $ 1,789
======= =======
- -----------------------------------------------------------------------------------------------------------------------------------
STATEMENT OF CASH FLOWS
- -----------------------------------------------------------------------------------------------------------------------------------
(Dollars in millions) Year ended December 31, 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Net income ....................................................................... $ 293 $ 247 $ 220
Equity in undistributed income of subsidiaries and affiliate ..................... (210) (152) (185)
Securities gains, net ............................................................ (3) (5)
Other, net ....................................................................... 6 17 (22)
----- ----- -----
Net Cash Provided by Operating Activities ................................. 86 107 13
INVESTING ACTIVITIES
Net (payments for) proceeds from:
Investment in bank subsidiary ............................................... (14) (4)
Investment in nonbank subsidiaries .......................................... (8) (2) (1)
Securities purchased under resale agreement ................................. 65
Purchase of available-for-sale securities ................................... (10) (13) (10)
Maturity of available-for-sale securities ................................... 10 5 35
Sales of available-for-sale securities ...................................... 18 25
Interest bearing deposits with banks ........................................ (150) 17 (183)
Notes receivable from nonbank subsidiaries .................................. (41) (10) (2)
----- ----- -----
Net Cash Provided (Used) by Investing Activities .......................... (195) 22 (100)
FINANCING ACTIVITIES
Net proceeds from commercial paper ............................................. (66) (61) 136
Proceeds from issuance of long-term debt ....................................... 356
Payment of long-term debt ...................................................... (10)
Proceeds from issuance of common and treasury stock ............................ 12 5 6
Payments for cash dividends .................................................... (61) (56) (45)
Payments for purchase of common stock .......................................... (131) (17)
----- ----- -----
Net Cash Provided (Used) by Financing Activities .......................... 110 (129) 87
----- ----- -----
Net Increase .............................................................. 1
----- ----- -----
Cash and due from banks at beginning of period ................................. 1 1 1
----- ----- -----
Cash and Due from Banks at End of Period .................................. $ 2 $ 1 $ 1
===== ===== =====
- -----------------------------------------------------------------------------------------------------------------------------------
REPORT OF INDEPENDENT AUDITORS - State Street Boston Corporation
The Stockholders and Board of Directors
State Street Boston Corporation
We have audited the accompanying consolidated statements of condition of State
Street Boston Corporation as of December 31, 1996 and 1995, and the related
consolidated statements of income, cash flows and changes in stockholders'
equity for each of the three years in the period ended December 31, 1996. These
financial statements are the responsibility of the Corporation's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to herein present fairly, in
all material respects, the consolidated financial position of State Street
Boston Corporation at December 31, 1996 and 1995, and the consolidated results
of its operations and its cash flows for each of the three years in the period
ended December 31, 1996 in conformity with generally accepted accounting
principles.
/s/ ERNST & YOUNG LLP
Boston, Massachusetts
January 14, 1997
SUPPLEMENTAL FINANCIAL DATA - State Street Boston Corporation
- -----------------------------------------------------------------------------------------------------------------------------------
CONDENSED AVERAGE STATEMENT OF CONDITION WITH NET INTEREST REVENUE ANALYSIS
(TAXABLE EQUIVALENT BASIS) 1996
- -----------------------------------------------------------------------------------------------------------------------------------
Average Average
(Dollars in millions) Balance Interest Rate
- -----------------------------------------------------------------------------------------------------------------------------------
ASSETS
Interest-bearing deposits with banks ............................................ $ 7,041 $ 336 4.78%
Securities purchased under resale agreements and securities borrowed ............ 6,010 326 5.43
Federal funds sold .............................................................. 561 30 5.35
Trading account assets .......................................................... 326 18 5.41
Investment securities:
U.S. Treasury and Federal agencies ........................................... 4,319 261 6.03
State and political subdivisions ............................................. 1,478 92 6.25
Other investments ............................................................ 2,111 127 6.01
-------- --------
Total investment securities ............................................... 7,908 480 6.06
Loans:
Commercial and financial ..................................................... 2,897 181 6.24
Real estate .................................................................. 106 9 8.76
Consumer ..................................................................... 41 4 8.47
Non-U.S ...................................................................... 815 52 6.40
Lease financing .............................................................. 654 44 6.73
-------- --------
Total loans ............................................................... 4,513 290 6.42
-------- --------
TOTAL INTEREST-EARNING ASSETS ............................................. 26,359 1,480 5.61
Cash and due from banks ......................................................... 1,164
Allowance for loan losses ....................................................... (70)
Premises and equipment .......................................................... 458
Customers' acceptance liability ................................................. 42
Other assets .................................................................... 1,530
--------
TOTAL ASSETS .............................................................. $ 29,483
========
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest-bearing deposits:
Savings ...................................................................... $ 2,097 86 4.10
Time ......................................................................... 150 8 5.26
Non-U.S ...................................................................... 10,372 331 3.19
-------- --------
Total interest-bearing deposits ........................................... 12,619 425 3.37
Securities sold under repurchase agreements ..................................... 7,819 394 5.05
Federal funds purchased ......................................................... 357 19 5.18
Other short-term borrowings ..................................................... 707 36 5.04
Notes payable ................................................................... 124 3 2.47
Long-term debt .................................................................. 213 15 6.95
-------- --------
TOTAL INTEREST-BEARING LIABILITIES ........................................ 21,839 892 4.08
--------
Noninterest-bearing deposits .................................................... 4,638
Acceptances outstanding ......................................................... 42
Other liabilities ............................................................... 1,346
Stockholders' equity ............................................................ 1,618
--------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY ................................ $ 29,483
========
Net interest revenue ...................................................... $ 588
=======
Excess of rate earned over rate paid ...................................... 1.53%
=====
NET INTEREST MARGIN(1) .................................................... 2.23%
=====
- -----------------------------------------------------------------------------------------------------------------------------------
(1) Net interest margin is taxable equivalent net interest revenue divided by average interest-earning assets.
1995 1994 1993 1992
- ------------------------------------------------------------------------------------------------------------------------------
Average Average Average Average Average Average Average Average
Balance Interest Rate Balance Interest Rate Balance Interest Rate Balance Interest Rate
- ------------------------------------------------------------------------------------------------------------------------------
$ 5,466 $ 287 5.25% $ 5,183 $ 209 4.04% $ 5,022 $ 202 4.01% $ 5,102 $ 258 5.05%
5,569 329 5.91 3,102 132 4.26 3,255 102 3.14 2,603 98 3.75
475 28 5.97 537 24 4.45 534 16 3.03 458 18 3.93
412 21 5.13 532 26 4.90 416 17 4.02 238 11 4.44
4,139 243 5.89 3,455 184 5.33 2,181 124 5.72 1,771 121 6.82
1,183 71 5.96 1,120 57 5.09 732 40 5.43 444 32 7.18
2,212 134 6.05 2,597 139 5.35 2,169 118 5.43 1,818 115 6.36
-------- ------ -------- ----- -------- ----- -------- -----
7,534 448 5.95 7,172 380 5.30 5,082 282 5.55 4,033 268 6.65
2,474 167 6.72 2,304 120 5.18 1,865 89 4.81 1,556 87 5.64
99 8 8.39 96 7 7.57 97 7 6.97 114 8 7.11
45 4 8.96 43 3 7.72 53 4 6.81 66 5 7.65
536 42 7.80 586 38 6.41 282 16 5.82 117 7 6.08
510 37 7.31 372 22 5.98 279 16 5.61 217 11 4.84
-------- ------ -------- ---- -------- ----- -------- -----
3,664 258 7.04 3,401 190 5.58 2,576 132 5.14 2,070 118 5.72
-------- ------ -------- ---- -------- ----- -------- -----
23,120 1,371 5.93 19,927 961 4.82 16,885 751 4.45 14,504 771 5.31
1,026 1,286 979 876
(62) (58) (58) (67)
481 462 435 361
63 30 33 52
1,554 1,148 653 529
-------- -------- -------- --------
$ 26,182 $ 22,795 $ 18,927 $ 16,255
======== ======== ======== ========
$ 1,913 85 4.45 $ 1,992 57 2.85 $ 2,253 55 2.45 $ 2,323 76 3.28
131 7 5.47 172 8 4.52 234 12 5.24 294 13 4.42
8,470 324 3.82 7,392 216 2.93 4,954 147 2.95 3,955 175 4.42
-------- ------ -------- ---- -------- ----- -------- -----
10,514 416 3.96 9,556 281 2.93 7,441 214 2.87 6,572 264 4.02
7,080 399 5.65 4,958 201 4.07 4,181 121 2.90 3,346 116 3.43
504 30 5.89 411 16 3.90 741 21 2.84 919 31 3.35
761 41 5.32 563 25 4.40 216 8 3.78 194 8 4.27
214 12 5.73 258 12 4.64 511 20 3.90 389 18 4.74
127 9 6.71 128 9 6.73 122 10 8.19 146 13 9.10
-------- ------ -------- ---- -------- ----- -------- -----
19,200 907 4.72 15,874 544 3.43 13,212 394 2.98 11,566 450 3.89
------ ---- ----- -----
4,113 4,701 4,059 3,305
64 30 34 52
1,322 906 497 362
1,483 1,284 1,125 970
-------- -------- -------- --------
$ 26,182 $ 22,795 $ 18,927 $ 16,255
========= ======== ======== ========
$ 464 $ 417 $ 357 $ 321
====== ===== ===== =====
1.21% 1.39% 1.47% 1.42%
==== ==== ==== ====
2.01% 2.09% 2.12% 2.21%
==== ==== ==== ====
- -------------------------------------------------------------------------------------------------------------------------------