Exhibit 13.4
CONSOLIDATED STATEMENT OF INCOME State Street Corporation
(Dollars in millions, except per share data) Year ended December 31, 1997 1996 1995
- ------------------------------------------------------------------------------------------------
FEE REVENUE
Fiduciary compensation ....................................... $ 1,252 $ 1,018 $ 824
Foreign exchange trading ..................................... 245 126 141
Servicing and processing ..................................... 159 125 113
Other ........................................................ 17 33 41
------- ------- ------
Total fee revenue ........................................ 1,673 1,302 1,119
NET INTEREST REVENUE
Interest revenue ............................................. 1,755 1,443 1,336
Interest expense ............................................. 1,114 892 907
------- ------- ------
Net interest revenue - Note L ............................ 641 551 429
Provision for loan losses - Note D ........................... 16 8 8
------- ------- ------
Net interest revenue after provision for loan losses ..... 625 543 421
------- ------- ------
TOTAL REVENUE ............................................ 2,298 1,845 1,540
OPERATING EXPENSES
Salaries and employee benefits - Note O ...................... 973 775 651
Transaction processing services .............................. 184 164 125
Equipment .................................................... 164 138 124
Occupancy .................................................... 119 100 84
Other - Note M ............................................... 294 221 190
------- ------- ------
Total operating expenses ................................. 1,734 1,398 1,174
------- ------- ------
Income before income taxes ............................... 564 447 366
Income taxes - Note P ........................................ 184 154 119
------- ------- ------
NET INCOME ............................................... $ 380 $ 293 $ 247
======= ======= ======
EARNINGS PER SHARE - NOTE Q
Basic ...................................................... $ 2.37 $ 1.81 $ 1.50
Diluted .................................................... 2.32 1.78 1.47
AVERAGE SHARES OUTSTANDING (in thousands)
Basic ...................................................... 160,662 161,783 165,107
Diluted ...................................................... 163,789 164,375 167,687
- ------------------------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
State Street Corporation CONSOLIDATED STATEMENT OF CONDITION
(Dollars in millions, December 31, 1997 1996
- ------------------------------------------------------------------------------------------------
ASSETS
Cash and due from banks - Note K ..................................... $ 2,411 $ 1,623
Interest-bearing deposits with banks ................................. 10,080 7,565
Securities purchased under resale agreements and securities
borrowed - Note F .................................................. 5,544 4,613
Federal funds sold ................................................... 621 1,155
Trading account assets ............................................... 205 255
Investment securities (principally available for sale) - Notes C and F 10,375 9,387
Loans (less allowance of $83 and $73) - Note D ....................... 5,479 4,640
Premises and equipment - Notes E and H ............................... 500 468
Customers' acceptance liability ...................................... 45 35
Accrued income receivable ............................................ 566 442
Other assets ......................................................... 2,149 1,341
-------- --------
TOTAL ASSETS ................................................... $ 37,975 $ 31,524
======== ========
LIABILITIES
Deposits:
Noninterest-bearing ................................................ $ 7,785 $ 6,395
Interest-bearing:
Domestic ......................................................... 2,374 2,071
Non-U.S. ......................................................... 14,719 11,053
-------- --------
Total deposits ................................................. 24,878 19,519
Securities sold under repurchase agreements - Note F ................. 7,409 7,387
Federal funds purchased .............................................. 189 117
Other short-term borrowings .......................................... 609 649
Notes payable - Note G ............................................... 44 86
Acceptances outstanding .............................................. 45 35
Accrued taxes and other expenses - Note P ............................ 831 657
Other liabilities .................................................... 1,201 823
Long-term debt - Note H .............................................. 774 476
-------- --------
TOTAL LIABILITIES .............................................. 35,980 29,749
STOCKHOLDERS' EQUITY - NOTES H, I, J, K AND R
Preferred stock, no par: authorized 3,500,000; issued none
Common stock, $1 par: authorized 250,000,000; issued 167,223,000
and 83,615,000 .................................................... 167 84
Surplus .............................................................. 102 105
Retained earnings .................................................... 1,914 1,694
Net unrealized gain on available-for-sale securities ................. 17 12
Treasury stock, at cost (6,387,000 and 2,461,000 shares) ............. (205) (120)
-------- --------
TOTAL STOCKHOLDERS' EQUITY ..................................... 1,995 1,775
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY ..................... $ 37,975 $ 31,524
======== ========
- ------------------------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
CONSOLIDATED STATEMENT OF CASH FLOWS State Street Corporation
(Dollars in millions) Year ended December 31, 1997 1996 1995
- ------------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Net income .................................................. $ 380 $ 293 $ 247
Noncash charges for depreciation, amortization, provision for
loan losses and deferred income taxes ..................... 271 221 140
------- ------- -------
Net income adjusted for noncash charges ................. 651 514 387
Adjustments to reconcile to net cash provided (used) by
operating activities:
Securities gains, net ..................................... (2) (5) (12)
Net change in:
Trading account assets .................................. 50 249 24
Other, net .............................................. (449) (161) (88)
------- ------- -------
NET CASH PROVIDED BY OPERATING ACTIVITIES ............. 250 597 311
INVESTING ACTIVITIES
Payments for purchases of:
Available-for-sale securities ............................. (5,985) (6,912) (2,152)
Held-to-maturity securities ............................... (976) (906) (2,125)
Lease financing assets .................................... (992) (539) (621)
Premises and equipment .................................... (158) (114) (96)
Proceeds from:
Maturities of available-for-sale securities ............... 4,137 3,442 556
Maturities of held-to-maturity securities ................. 942 870 2,529
Sales of available-for-sale securities .................... 836 465 3,654
Principal collected from lease financing .................. 46 52 63
Net (increase) decrease in:
Interest-bearing deposits with banks ...................... (2,515) (1,590) (1,128)
Federal funds sold, resale agreements and securities borrowed (397) (14) (3,099)
Loans ..................................................... (630) (572) (633)
------- ------- -------
NET CASH USED BY INVESTING ACTIVITIES ................. (5,692) (5,818) (3,052)
------- ------- -------
FINANCING ACTIVITIES
Proceeds from issuance of:
Long-term debt ............................................ 300 350
Notes payable ............................................. 177 175
Nonrecourse debt for lease financing ...................... 792 404 501
Common and treasury stock ................................. 16 12 5
Payments for:
Maturity of notes payable ................................. (42) (257)
Nonrecourse debt for lease financing ...................... (67) (66) (62)
Long-term debt ............................................ (2) (1) (1)
Cash dividends ............................................ (69) (61) (56)
Purchase of common stock .................................. (110) (131) (17)
Net increase in:
Deposits .................................................. 5,358 2,872 2,049
Short-term borrowings ..................................... 54 2,123 471
------- ------- -------
NET CASH PROVIDED BY FINANCING ACTIVITIES ............. 6,230 5,422 3,065
------- ------- -------
NET INCREASE .......................................... 788 201 324
Cash and due from banks at beginning of period .............. 1,623 1,422 1,098
------- ------- -------
CASH AND DUE FROM BANKS AT END OF PERIOD .............. $ 2,411 $ 1,623 $ 1,422
======= ======= =======
SUPPLEMENTAL DISCLOSURE
Interest paid ............................................. $ 1,122 $ 885 $ 903
Income taxes paid ......................................... 112 97 98
- ------------------------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
State Street Corporation CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' REPORT
(Dollars in millions) Year ended December 31, 1997 1996 1995
- ------------------------------------------------------------------------------------------------
COMMON STOCK
Balance at beginning of year ................................ $ 84 $ 83 $ 83
Stock dividend, two-for-one split ........................... 83
Common stock issued (920,016 and 247,850 shares in 1996 and 1995) 1
------- ------- -------
Balance at end of year ................................... 167 84 83
SURPLUS
Balance at beginning of year ................................ 105 40 37
Common stock issued ......................................... 3 70 3
Treasury stock issued ....................................... (16) (12) (2)
Stock options exercised ..................................... 10 7 2
------- ------- -------
Balance at end of year ................................... 102 105 40
------- ------- -------
RETAINED EARNINGS
Balance at beginning of year ................................ 1,694 1,465 1,273
Stock dividend, two-for-one split ........................... (83)
Net income .................................................. 380 293 247
Cash dividends declared ($.44, $.38 and $.34 per share) ..... (69) (61) (56)
Currency translation ........................................ (8) (3) 1
------- ------- -------
Balance at end of year ................................... 1,914 1,694 1,465
------- ------- -------
TREASURY STOCK, AT COST
Balance at beginning of year ................................ (120) (13)
Common stock acquired (2,759,866, 2,698,900 and 416,200 shares) (110) (131) (17)
Treasury stock issued (1,293,832, 545,591 and 108,916 shares) 25 24 4
------- ------- -------
Balance at end of year ................................... (205) (120) (13)
------- ------- -------
NET UNREALIZED GAIN (LOSS) ON AVAILABLE-FOR-SALE SECURITIES
Balance at beginning of year ................................ 12 13 (56)
Changes in unrealized gain (loss) ........................... 5 (1) 69
------- ------- -------
Balance at end of year ................................... 17 12 13
------- ------- -------
TOTAL STOCKHOLDERS' EQUITY ............................... $ 1,995 $ 1,775 $ 1,588
======= ======= =======
- ------------------------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
NOTES TO FINANCIAL STATEMENTS State Street Corporation
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
State Street Corporation ("State Street," "the Corporation"), formerly State
Street Boston Corporation, is a financial services corporation that provides
banking, global custody, investment management, administration and securities
processing services to both U.S. and non-U.S. customers. State Street reports
three lines of business: Services for Institutional Investors include
accounting, custody, daily pricing, administration, foreign exchange, cash
management and information services to support institutional investors and for
large portfolios of investment assets. Investment Management provides an
extensive array of services that manage financial assets worldwide for both
institutional and individuals, and recordkeeping and investment services for
defined contribution plans. Commercial Lending activities include loans and
other credit services for regional middle-market companies, and in selected
industries nationwide, broker/ dealers, 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
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. 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, Statement of Financial Accounting Standard ("SFAS") No. 125,
"Accounting for Transfers and Servicing of Financial Assets and Extinquishements
of Liabilities" was issued. State Street adopted certain provisions of this
statement on January 1, 1997, which did not have a material impact on the
financial statements. The remaining provisions of this statement are effective
for fiscal years beginning after December 31, 1997 and these provisions are not
expected to have a material impact on the financial statements.
In 1997, SFAS No. 130, "Reporting Comprehensive Income," was issued. This
statement establishes standards for reporting comprehensive income and its
components and requires this disclosure be added as a new section in a financial
statement. This statement is effective for fiscal years beginning after December
31, 1997. State Street will adopt the new disclosures required by SFAS No. 130
in 1998.
In 1997, SFAS No. 131, "Disclosures about Segments of an Enterprise and Related
Information" was issued. This statement establishes standards for reporting
information about operating segments in annual and interim financial statements.
This statement is effective for annual periods beginning after December 15,
1997, and for interim periods beginning after December 15, 1998. State Street
will adopt the new disclosures required by SFAS No. 131 for the year ended
December 31, 1998. State Street does not expect its current disclosures to
change significantly under SFAS No. 131.
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.
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 adverse situations that may affect the borrowers' ability to
repay, timing of future payments, estimated value of underlying collateral and
the performance of individual credits in relation to contract terms and other
relevant factors. 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.
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.
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.
DERIVATIVE FINANCIAL INSTRUMENTS. State Street uses three methods to account for
derivative financial instruments: the deferral method, accrual method, and fair
value method.
Interest rate contracts that are used for balance sheet management are accounted
for under the deferral method. The basis of the contract is capitalized and any
gain or loss is deferred and amortized over the life of the hedged asset or
liability as an adjustment to the interest revenue or interest expense.
Interest rate swaps that are entered into as part of interest rate management
are accounted for using the accrual method. Interest receivable or payable
payments under the terms of the interest rate swap are accrued over the period
to which the payment relates. The interest payments accrued and any fees paid at
inception are recorded as an adjustment to the interest revenue or interest
expense of the underlying asset or liability.
In order to qualify for deferral or accrual accounting, interest rate contracts
must meet the following criteria: the item being hedged must expose State Street
to interest rate risk, it is probable that the contract will offset interest
rate risk associated with the hedged item, and the contract must be designated
as a hedge of the item. State Street periodically evaluates its positions
against these criteria.
Contracts entered into for trading purposes and contracts that do not meet the
criteria for deferral or accrual accounting are carried at fair value. These
contracts are recorded in other assets or other liabilities and are valued
periodically. The resulting gain or loss is recorded in fee revenue. State
Street uses the mark-to-market method to account for: foreign exchange trading
contracts, foreign exchange balance sheet management contracts, and interest
rate trading 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.
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. In 1997, SFAS No. 128, "Earnings Per Share" was issued. This
statement establishes standards for computing and presenting earnings per share.
The statement replaces primary earnings per share with basic earnings per share.
Basic earnings per share excludes all dilution and is computed by dividing
income available to common stockholders by the weighted average number of common
shares outstanding for the period. Diluted earnings per share is computed
similarly to the previously reported fully diluted earnings per share. Diluted
earnings per share reflects the potential dilution that could occur if stock
options and stock award grants were exercised. Diluted earnings per share also
includes the assumption that all convertible debt has been converted as of the
beginning of each period. All prior period amounts have been restated to conform
to SFAS No. 128.
NOTE B - ACQUISITIONS
In November 1996, State Street acquired Princeton Financial Systems, Inc.
("PFS") for 923,072 shares of its common stock and cash 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. The
proforma results of operations adjusted to include PFS for the year ended
December 31, 1995, was not presented, as the results would not have been
significantly different.
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:
- -----------------------------------------------------------------------------------------------------------------
1997 1996
Amortized Unrealized Fair Amortized Unrealized Fair
(Dollars in millions) Cost Gains Losses Value Cost Gains Losses Value
- --------------------------------------------------------------------------------------------------------------
Available for sale:
U.S. Treasury and Federal agencies . $4,906 $ 15 $ 2 $4,919 $4,630 $ 18 $ 5 $4,643
State and political subdivisions ... 1,647 17 7 1,657 1,557 10 8 1,559
Asset-backed securities ............ 1,673 1 1 1,673 1,198 3 1 1,200
Collateralized mortgage obligations 574 1 4 571 638 1 8 631
Other investments .................. 654 9 1 662 485 12 2 495
------ ------ ------ ------ ------ ------ ------ ------
Total ............................ $9,454 $ 43 $ 15 $9,482 $8,508 $ 44 $ 24 $8,528
====== ====== ====== ====== ====== ====== ====== ======
Held to maturity:
U.S. Treasury and Federal agencies . $ 893 $ 1 $ 1 $ 893 $ 859 $ 2 $ 2 $ 859
====== ====== ====== ====== ====== ====== ====== ======
- --------------------------------------------------------------------------------------------------------------
The maturity information for available-for-sale and held-to-maturity securities
at December 31, 1997, is:
- -------------------------------------------------------------------------------
Years
(Dollars in millions) Under 1 1 to 5 6 to 10 Over 10
- --------------------------------------------------------------------------------
Available for sale:
Amortized cost $ 5,253 $ 3,587 $ 223 $ 391
Fair value 5,259 3,605 224 394
Held to maturity:
Amortized cost 644 249
Fair value .... 644 249
- --------------------------------------------------------------------------------
The maturity of asset-backed securities is based upon the expected principal
payments. Securities carried at $5.0 billion and $5.1 billion at December 31,
1997 and 1996, respectively, were designated as pledged securities for public
and trust deposits, borrowed funds and for other purposes as provided by law.
During 1997, gains of $3 million and losses of $1 million were realized on sales
of available-for-sale securities of $836 million. 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.
NOTE D - LOANS
The loan portfolio consisted of the following at December 31:
- -------------------------------------------------------------------------------
(Dollars in millions) 1997 1996
- -------------------------------------------------------------------------------
Commercial and financial:
Domestic .................... $ 3,623 $ 3,022
Non-U.S. .................... 900 854
Lease financing:
Domestic .................... 296 304
Non-U.S. .................... 669 415
Real estate .................. 74 118
------- -------
Total loans ............... 5,562 4,713
Less allowance for loan losses (83) (73)
------- -------
Net loans ............. $ 5,479 $ 4,640
======= =======
- -------------------------------------------------------------------------------
Non-accrual loans were $2 million and $12 million at December 31, 1997 and 1996,
respectively. Interest revenue for non-accrual loans under original terms was
less than $1 million and $1 million for 1997 and 1996, respectively. Interest
revenue recognized for non-accrual loans was less than $1 million for both 1997
and 1996.
Changes in the allowance for loan losses for the years ended December 31 were as
follows:
- -------------------------------------------------------------------------------
(Dollars in millions) 1997 1996 1995
- -------------------------------------------------------------------------------
Balance at beginning of year ...................... $ 73 $ 63 $ 58
Provision for loan losses ......................... 16 8 8
Loan charge-offs .................................. (8) (5) (7)
Recoveries ........................................ 2 7 4
---- ---- ----
Balance at end of year .......................... $ 83 $ 73 $ 63
==== ==== ====
- -------------------------------------------------------------------------------
NOTE E - PREMISES AND EQUIPMENT
Premises and equipment consisted of the following at December 31:
- -------------------------------------------------------------------------------
(Dollars in millions) 1997 1996
- -------------------------------------------------------------------------------
Buildings and land .............................. $ 294 $ 284
Leasehold improvements .......................... 157 134
Equipment and furniture ......................... 666 562
------ -----
1,117 980
Accumulated depreciation
and amortization ............................. (617) (512)
------ -----
Total premises and equipment ................. $ 500 $ 468
- -------------------------------------------------------------------------------
State Street has entered into noncancelable operating leases for premises and
equipment. At December 31, 1997, future minimum payments under noncancelable
operating leases with initial or remaining terms of one year or more totaled
$947 million. This consisted of $76 million, $79 million, $79 million, $78
million and $75 million for the years 1998 to 2002, respectively, and $560
million thereafter. The minimum rental commitments have been reduced by sublease
rental commitments of $16 million. Nearly all leases include renewal options.
Total rental expense amounted to $64 million, $55 million and
$42 million in 1997, 1996 and 1995, respectively. Rental expense has been
reduced by sublease revenue of $2 million for the year ended 1997 and $1 million
for each year ended 1996 and 1995.
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, 1997, was as follows:
- -------------------------------------------------------------------------------
U.S. Government Repurchase
Securities Sold Agreements
Amortized Fair Amortized
(Dollars in millions) Cost Value Cost Rate
- -------------------------------------------------------------------------------
Maturity of repurchase agreements:
Overnight ........................ $ 3,038 $ 3,046 $ 3,004 5.28%
2 to 30 days ..................... 274 277 273 5.13
31 to 90 days .................... 377 378 376 5.31
Over 90 days ..................... 15 15 15 4.63
------- ------- -------
Total ........................... $ 3,704 $ 3,716 $ 3,668 5.27
======= ======= =======
- -------------------------------------------------------------------------------
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, 1997, and 1996, there were $44 million and $86 million,
respectively, of two-year foreign currency denominated notes outstanding. At
December 31, 1997, the bank notes had an interest rate of 1.15% and will mature
in January 1998.
NOTE H - LONG-TERM DEBT
Long-term debt, less unamortized original issue discount, consisted of the
following at December 31:
- -------------------------------------------------------------------------------
(Dollars in millions) 1997 1996
- -------------------------------------------------------------------------------
8.035% Capital securities B due 2027 $ 300 $
7.94% Capital securities A due 2026 200 200
7.35% Notes due 2026 ............... 150 150
5.95% Notes due 2003 ............... 100 100
9.50% Mortgage note due 2009 ....... 21 23
7.75% Convertible subordinated
debentures due 2008 .............. 3 3
----- -----
Total long-term debt ............ $ 774 $ 476
===== =====
- -------------------------------------------------------------------------------
In 1997 and 1996, State Street established two statutory business trusts, which
collectively issued $500 million of cumulative semi-annual income securities
("capital securities"). The capital securities qualify as Tier 1 Capital under
federal regulatory guidelines. The proceeds of these issuances along with
proceeds of related issuances of common securities of the trusts, were invested
in junior subordinated debentures ("debentures") of State Street. The debentures
are the sole assets of the trusts. State Street owns all of the common
securities of the trusts.
Payments to be made by the trusts 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, subject to deferral for up to five years under certain
conditions. The capital securities are subject to mandatory redemption in whole
at the stated maturity upon repayment of the debentures; with the optional
redemption at any time by State Street of the debentures upon the occurance of
certain tax treatment, investment company regulation or capital treatment
changes; or at any time after March 15, 2007 for the capital securities B and
after December 30, 2006 for the capital securities A. Redemptions are based on
declining redemption price to the terms of the trust agreements. All redemptions
are 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 or shares of its
preferred stock or both. 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,
1997, $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,
1997. The aggregate maturities of this mortgage note are $1 million for the
years 1998 through 2000 and $2 million for 2001 and 2002.
The 7.75% debentures are convertible to common stock at a price of $2.875 per
share, subject to adjustment for certain events. The debentures are redeemable
at par, at State Street's option. During 1997 and 1996, debentures were
converted into 168,692 and 5,217 shares of common stock, respectively. At
December 31, 1997, 937,391 shares of common stock had been reserved for issuance
upon conversion.
NOTE I - STOCKHOLDERS' EQUITY
The authorized number of common shares increased from 112,000,000 at December
31, 1996 to 250,000,000 at December 31, 1997. On May 28, 1997, State Street
distributed a two-for-one stock split in the form of a 100% stock dividend to
shareholders. The par value of these additional shares was capitalized by a
transfer from surplus to common stock. Prior period share and per share amounts
have been restated for the stock split.
The Board of Directors has authorized the repurchase of up to twelve million
shares, adjusted for the two-for-one stock split of State Street's common stock.
Shares purchased under the authorization can be used for employee benefit plans
and general corporate purposes. During 1997 and 1996, State Street purchased
2,759,900 and 5,379,800 shares of its common stock, respectively, at an average
cost of $40 and $24, respectively. As of December 31, 1997, total shares
purchased were 8,990,108.
Under the 1997 Equity Incentive Plan, stock options, stock appreciation rights
("SARs"), restricted and unrestricted stock awards, deferred stock awards and
performance units covering 8,000,000 shares of common stock may be issued. State
Street has stock options and performance units outstanding from previous plans
under which no further grants can be made.
Under these long-term incentive plans the exercise price of non-qualified and
incentive stock options may not be less than the fair value of such shares at
the date of grant and expire no longer than ten years from the 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 1997 and 1996, 352,966 and 600,000 shares, respectively, were
awarded under the stock award program, none of which were vested at December 31,
1997. Compensation expense related to performance units and stock awards was $27
million, $19 million and $7 million for 1997, 1996 and 1995, respectively.
Options outstanding and activity for the years ended December 31, consisted of
the following:
- -------------------------------------------------------------------------------
(Total dollars in millions, Option Price
shares in thousands) Shares Per Share Total
- -------------------------------------------------------------------------------
December 31, 1995 . 5,572 $ 5.62-22.66 $ 76
Granted ........ 2,076 26.41-33.88 62
Exercised ...... (1,066) 5.62-14.53 (12)
Canceled ....... (106) 16.13-33.88 (2)
------ ----
December 31, 1996 . 6,476 5.62-33.88 124
Granted ........ 1,393 36.36-56.25 73
Exercised ...... (766) 5.62-36.50 (15)
Canceled ....... (159) 9.31-29.41 (2)
------ ----
December 31, 1997 . 6,944 $ 6.02-56.25 $180
====== ====
In 1995, 654,000 options were exercised at per share prices of $3.21 to $18.19.
At December 31, 1997, a total of 2,433,885 shares under options were
exercisable. At December 31, 1997, 6,606,625 shares under the 1997 Equity
Incentive Plan were available for future grants.
Proforma results of net income and earnings per share using the fair value
method for accounting for stock-based employer compensation plans for the years
ended December 31, 1997, 1996 and 1995 are not presented, as results differ by
two percent or less from those reported.
For purposes of estimating the fair value of State Street's employee stock
options at the grant date, a Black-Scholes option pricing model was used with
the following weighted average assumptions for 1997, 1996 and 1995,
respectively; risk-free interest rates of 6.22%, 6.41%, and 7.11%, dividend
yields of 1.05%, 1.51%, and 2.30%; and volatility factors of the expected market
price of State Street common stock of 28%, 25% and 28%. The weighted average
life of the stock options is 5.5, 6.6 and 6.6 years as of December 31, 1997,
1996 and 1995, respectively. For purposes of the proforma calculation, the
estimated fair value of the options is amortized to expense over the options
vesting period.
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 four-hundredths share of a series of
participating preferred stock at an exercise price of $37.50, 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 $.0025
per right at any time prior to expiration or the acquisition of 20% of State
Street's common stock. 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. Failure to meet
minimum capital requirements can initiate certain mandatory and 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, 1997, 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.
Effective January 1, 1998, the Federal Reserve Board has amended
the risk-based capital standards to include the calculation of market risk
equivalent assets, to be included in total risk-weighted assets, for
institutions that meet certain requirements. State Street meets the requirements
under this standard and will adopt these amendments on January 1, 1998.
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 1997 1996 1997 1996
- -----------------------------------------------------------------------------------------------------
Risk-based ratios:
Tier 1 capital ............ 4% 6% 13.7% 13.4% 12.2% 12.1%
Total capital ............. 8% 10% 13.8 13.6 12.5 11.9
Leverage ratio .............. 3% 5% 5.9 5.9 5.2 5.3
Tier 1 capital .............. $ 2,259 $ 1,818 $ 1,996 $ 1,632
Total capital ............... 2,274 1,847 2,040 1,611
Risk-based assets:
On-balance sheet .......... $12,647 $10,311 $12,491 $10,234
Off-balance sheet ......... 3,825 3,249 3,825 3,249
------- ------- ------- -------
Total risk-based assets . $16,472 $13,560 $16,316 $13,483
======= ======= ======= =======
- -----------------------------------------------------------------------------------------------------
(1) The regulatory designation of "well capitalized" under prompt corrective action regulations is
not applicable to bank holding companies (State Street). Regulation Y defines well capitalized
for bank holding companies (State Street) for the purpose of determining eligibility for a
streamlined review process for acquisition proposals. For such purposes, well capitalized
requires a minimum Tier 1 risk-based capital ratio of 6% and a minimum total risk-based capital
ratio of 10%.
CASH, DIVIDEND, LOAN AND OTHER RESTRICTIONS. During 1997, subsidiary banks of
State Street were required by the Federal Reserve Bank to maintain average
reserve balances of $362 million.
Federal and state banking regulations place certain restrictions on dividends
paid by subsidiary banks to State Street. At December 31, 1997, State Street
Bank had $694 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, 1997, consolidated retained earnings included $24 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) 1997 1996 1995
- -----------------------------------------------------------------------------------------------------------------------
Interest Revenue:
Deposits with banks ....................................................................... $ 415 $ 337 $ 287
Investment securities:
U.S. Treasury and Federal agencies ...................................................... 361 260 244
State and political subdivisions (exempt from Federal tax) .............................. 76 68 53
Other investments ....................................................................... 161 127 133
Loans ..................................................................................... 341 278 242
Securities purchased under resale agreements, securities borrowed and Federal funds sold .. 393 356 357
Trading account assets .................................................................... 8 17 20
------ ------ ------
Total interest revenue ................................................................ 1,755 1,443 1,336
------ ------ ------
Interest Expense:
Deposits ................................................................................. 512 425 416
Other borrowings ......................................................................... 547 452 483
Long-term debt ........................................................................... 55 15 8
------ ------ ------
Total interest expense ................................................................. 1,114 892 907
------ ------ ------
Net interest revenue ................................................................... $ 641 $ 551 $ 429
====== ====== ======
- -----------------------------------------------------------------------------------------------------------------------
NOTE M - OPERATING EXPENSES-OTHER
The other category of operating expenses consisted of the following for the
years ended December 31:
- ----------------------------------------------------------------------------------------------------------------------
(Dollars in millions) 1997 1996 1995
- ----------------------------------------------------------------------------------------------------------------------
Professional services ...................................................................... $ 87 $ 61 $ 48
Advertising and sales promotion ............................................................ 48 34 26
Postage, forms and supplies ................................................................ 27 26 24
Telecommunications ......................................................................... 26 23 22
Other ...................................................................................... 106 77 70
---- ---- ----
Total operating expenses-other ......................................................... $294 $221 $190
==== ==== ====
- -----------------------------------------------------------------------------------------------------------------------
NOTE N - QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
The following is a tabulation of the unaudited quarterly results of operations:
- -------------------------------------------------------------------------------------------------------
(Dollars and shares in millions, 1997 Quarters 1996 Quarters
except per share data) Fourth Third Second First Fourth Third Second First
- -------------------------------------------------------------------------------------------------------
Fee revenue .................. $ 453 $ 442 $ 404 $ 374 $ 348 $ 324 $ 323 $ 307
Interest revenue ............. 480 452 425 398 386 369 342 346
Interest expense ............. 307 288 271 248 239 230 208 215
----- ----- ----- ----- ----- ----- ----- -----
Net interest revenue ...... 173 164 154 150 147 139 134 131
Provision for loan losses .... 5 5 3 3 2 2 2 2
----- ----- ----- ----- ----- ----- ----- -----
Total revenue ............. 621 601 555 521 493 461 455 436
Operating expenses ........... 473 451 419 391 375 350 345 328
----- ----- ----- ----- ----- ----- ----- -----
Income before income taxes 148 150 136 130 118 111 110 108
Income taxes ................. 47 49 44 44 40 37 39 38
----- ----- ----- ----- ----- ----- ----- -----
Net Income ................ $ 101 $ 101 $ 92 $ 86 $ 78 $ 74 $ 71 $ 70
===== ===== ===== ===== ===== ===== ===== =====
Earnings Per Share:
Basic ..................... $ .63 $ .63 $ .57 $ .54 $ .48 $ .46 $ .44 $ .43
Diluted ................... .61 .62 .56 .53 .47 .45 .44 .42
Average Shares Outstanding:
Basic ..................... 161 160 160 161 161 161 162 163
Diluted ................... 164 164 163 164 164 163 164 166
- -------------------------------------------------------------------------------------------------------
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) 1997 1996 1995
- -----------------------------------------------------------------------------------------------------------------------
Accumulated benefit obligation:
Vested ................................................................................... $ 139 $119 $113
Nonvested ................................................................................ 18 16 13
Additional benefits based on estimated future salary levels ................................ 27 25 23
----- ---- ----
Projected benefit obligation ........................................................... 184 160 149
Plan assets at fair value (primarily listed stocks and fixed income securities) ............ 202 193 178
----- ---- ----
Excess of plan assets over projected benefit obligation ................................ 18 33 29
Unrecognized net asset at transition (amortized over 17.2 years) ........................... (12) (14) (16)
Unrecognized net (gain) loss ............................................................... 3 (3) 8
Unrecognized prior service costs ........................................................... (3) (3) (3)
----- ---- ----
Total prepaid pension expense (included in other assets) ............................... $ 6 $ 13 $ 18
===== ==== ====
Pension expense:
Current service cost ..................................................................... $ 14 $ 13 $ 11
Interest cost on projected benefit obligation ............................................ 13 12 10
Actual return on plan assets ............................................................. (26) (26) (34)
Net amortization and deferral ............................................................ 5 6 16
----- ---- ----
Total pension expense .................................................................. $ 6 $ 5 $ 3
===== ==== ====
Actuarial assumptions:
Discount rate used to determine benefit obligation ................... 7.75% 8.50% 8.00%
Rate of increase for future compensation ............................. 6.00 6.00 5.00
Expected long-term rate of return on plan assets ........................ 10.25 10.25 10.25
- -----------------------------------------------------------------------------------------------------------------------
State Street has partially funded, non-qualified supplemental retirement plans
that provide certain officers with defined pension benefits in excess of
allowable tax deductions. At December 31, 1997, 1996 and 1995, the projected
benefit obligation of these plans was $24 million, $20 million and $15 million
and the related pension expense was $5 million, $4 million and $2 million,
respectively.
Total pension expense for all plans was $18 million, $13 million and $8 million
for 1997, 1996 and 1995, 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 $11 million, $9 million and $9 million for 1997, 1996 and 1995,
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 post-retirement benefit
obligation ("APBO") was 7.75%, 8.50% and 8.00% for 1997, 1996 and 1995,
respectively. The assumed health care cost trend rate used in measuring the APBO
was 3% for 1998, 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,
1997, and the aggregate expense for service and interest costs for 1997 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) 1997 1996 1995
- -----------------------------------------------------------------------------------------------------------------------
Accumulated postretirement benefit obligation:
Retirees .................................................................................. $ 7 $ 5 $ 5
Fully eligible active employees ........................................................... 4 5 5
Other active employees .................................................................... 6 10 11
---- ---- ----
Total accumulated postretirement benefit obligation ...................................... 17 20 21
Unrecognized transition obligation (amortized over 20 years) ................................ (17) (18) (19)
Unrecognized net gain ....................................................................... 16 12 9
---- ---- ----
Accrued postretirement benefit costs (included in liabilities) .......................... $ 16 $ 14 $ 11
==== ==== ====
Postretirement benefits expense:
Current service cost ...................................................................... $ 1 $ 1 $ 2
Interest cost on APBO ..................................................................... 2 2 2
Net amortization and deferral ............................................................. 1 1
---- ---- ----
Total postretirement benefits expense .................................................. $ 3 $ 4 $ 5
==== ==== ====
- -----------------------------------------------------------------------------------------------------------------------
NOTE P - INCOME TAXES
The provision for income taxes included in the Consolidated Statement of Income
consisted of the following:
- -------------------------------------------------
(Dollars in millions) 1997 1996 1995
- -------------------------------------------------
Current:
Federal ................ $ 63 $ 44 $ 32
State .................. 26 20 20
Non-U.S. ............... 41 15 21
----- ----- -----
Total current ........ 130 79 73
Deferred:
Federal ................ 37 59 33
State .................. 17 16 13
----- ----- -----
Total deferred ....... 54 75 46
----- ----- -----
Total income taxes ... $ 184 $ 154 $ 119
===== ===== =====
- -------------------------------------------------
Current and deferred taxes for 1996 and 1995 have been reclassified to reflect
the tax returns as actually filed. Income taxes benefits recorded directly to
stockholders' equity for the years 1997, 1996 and 1995 included $10 million, $7
million and $2 million related to employee stock option exercises and other
stock transactions and ($3) million, less than $1 million and ($51) million
related to fair value adjustments for the investment portfolio. These taxes are
not included in the table above. Income tax expense related to net securities
gains was $1 million, $2 million and $5 million for 1997, 1996 and 1995,
respectively.
Pre-tax income attributable to operations located outside the United States was
$85 million, $42 million and $67 million in 1997, 1996 and 1995, respectively.
Significant components of the deferred tax liabilities and assets at December 31
were as follows:
- -------------------------------------------------
(Dollars in millions) 1997 1996
- -------------------------------------------------
Deferred tax liabilities:
Lease financing transactions .... $524 $429
Other ........................... 18 20
---- ----
Total deferred tax liabilities 542 449
---- ----
Deferred tax assets:
Operating expenses .............. 66 50
Allowance for loan losses ....... 36 31
Tax carryforwards ............... 5 13
Depreciation, net ............... 30 17
Other ........................... 14 12
---- ----
Valuation allowance ............. (5) (10)
---- ----
Total deferred tax assets .. 146 113
---- ----
Net deferred tax liabilities $396 $336
==== ====
- -------------------------------------------------
At December 31, 1997, State Street had non-U.S. tax loss carry-forwards of $10
million. If not used, $4 million of the non-U.S. tax losses will expire in the
years 1998 through 2002. 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:
- ------------------------------------------------------------------
1997 1996 1995
- ------------------------------------------------------------------
U.S. Federal income tax rate ........ 35.0% 35.0% 35.0%
Changes from statutory rate:
State taxes, net of Federal benefit 4.4 4.9 3.2
Tax-exempt interest revenue,
net of disallowed interest ....... (3.9) (4.5) (4.3)
Tax credits ....................... (1.9) (1.4) (1.7)
Other, net ........................ (1.0) .5 .4
---- ---- ----
Effective tax rate .............. 32.6% 34.5% 32.6%
==== ==== ====
- ------------------------------------------------------------------
The reduction in the 1995 state effective tax rate was due to a change in the
Massachusetts bank tax law and the settlement of a multi-year tax refund claim
with the Commonwealth of Massachusetts.
NOTE Q - EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per
share for the years ended December 31:
- ---------------------------------------------------------------------
(Dollars in millions,
except per share data) 1997 1996 1995
- ---------------------------------------------------------------------
Net Income ............... $ 380 $ 293 $ 247
======== ======== ========
Basic average shares ..... 160,662 161,783 165,107
Effect of dilutive securities:
Stock options and stock awards 2,068 1,482 1,436
7.75% convertible subordinated
debentures .............. 1,059 1,110 1,144
-------- -------- --------
Dilutive average shares .. 163,789 164,375 167,687
======== ======== ========
Basic earnings per share . $ 2.37 $ 1.81 $ 1.50
======== ======== ========
Diluted earnings per share $ 2.32 $ 1.78 $ 1.47
======== ======== ========
- ---------------------------------------------------------------------
NOTE R - 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 are held
by State Street in a fiduciary or custodial capacity and 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, 1997,
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 S - OFF-BALANCE SHEET FINANCIAL INSTRUMENTS, INCLUDING DERIVATIVES
Off-balance sheet derivative instrument is a contract or agreement whose value
is derived from interest rates, currency exchange rates 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.
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) 1997 1996
- -----------------------------------------------------------
Trading:
Interest rate contracts:
Swap agreements ............. $ 1,015 $ 880
Options and caps purchased .. 38 25
Options and caps written .... 186 116
Futures - short position .... 594 1,252
Options on futures purchased 5 430
Options on futures written .. 8 28
Foreign exchange contracts:
Forward, swap and spot ...... 91,742 62,109
Options purchased ........... 144 206
Options written ............. 138 60
Options on futures purchased 330
Balance Sheet Management:
Interest rate contracts:
Swap agreements ............. 243 296
Options and caps purchased .. 50 50
Foreign exchange contracts ..... 44 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 $1 billion and less than $1 billion at December 31,
1997 and 1996, respectively.
The foreign exchange contracts have been reduced by offsetting balances with the
same counterparty where a master netting agreement exists. 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, 1997
and 1996:
- -------------------------------------------------------------------
Average
(Dollars in millions) Fair Value Fair Value
- -------------------------------------------------------------------
1997
Foreign exchange contracts:
Contracts in a receivable position ..... $1,037 $1,064
Contracts in a payable position ........ 1,036 1,087
Other financial instrument contracts:
Contracts in a receivable position ..... 3 7
Contracts in a payable position .......... 2 5
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
- -------------------------------------------------------------------
Net foreign exchange trading revenue related to foreign exchange contracts
totaled $245 million, $126 million and $141 million for 1997, 1996 and 1995,
respectively. Gains/losses for other financial instrument contracts were a gain
of $1 million in both 1997 and 1996, and a loss of $1 million in 1995. 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.
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) 1997 1996
- ---------------------------------------------------------------
Indemnified securities on loan $ 57,465 $ 41,518
Loan commitments ............ 7,294 4,974
Standby letters of credit ... 1,821 1,777
Letters of credit ........... 179 160
- ---------------------------------------------------------------
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 $59 billion and $42.8 billion for indemnified securities on loan at
December 31, 1997 and 1996, respectively.
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 agreements by State Street to
lend monies at a future date, subject to 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. The amount and nature of collateral is obtained
based upon management's assessment of the credit risk. Approximately 70% of the
loan commitments expire within one year from the date of issue. Since many of
the commitments are expected to expire without being drawn, the total commitment
amounts do not necessarily represent future cash requirements.
NOTE T - 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 amount 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. As of
December 31, 1997, the fair value of interest rate contracts used for balance
sheet management was a payable of $4 million; as of December 31, 1996, the fair
value of such interest rate contracts was a payable of $6 million. There is no
reported 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
- -------------------------------------------------------
1997 Investment securities:
Available for sale ......... $ 9,482 $ 9,482
Held to maturity ........... 893 893
Net loans (excluding leases) .. 4,597 4,597
Notes payable ................. 44 45
Long-term debt ................ 774 892
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
- -------------------------------------------------------
NOTE U - 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) 1997 1996 1995
- ------------------------------------------------------------------------------------------------------
Fee revenue ........................................................... $ 327 $ 252 $ 226
Interest revenue ...................................................... 654 489 451
Interest expense ...................................................... 446 359 343
------- ------ ------
Net interest revenue .............................................. 208 130 108
Provision for loan losses ............................................. 10 1 4
------- ------ ------
Total revenue ..................................................... 525 381 330
Operating expenses .................................................... 373 296 263
------- ------ ------
Net income before taxes ........................................... 152 85 67
Income taxes .......................................................... 55 30 24
------- ------ ------
Net Income ........................................................ $ 97 $ 55 $ 43
======= ====== ======
Assets:
Interest-bearing deposits with banks ................................. $10,080 $7,565 $5,975
Loans and other assets ............................................... 2,713 1,486 1,447
------- ------ ------
Total Assets ..................................................... $12,793 $9,051 $7,422
======= ====== ======
- ------------------------------------------------------------------------------------------------------
NOTE V - FINANCIAL STATEMENTS OF STATE STREET CORPORATION (PARENT ONLY)
STATEMENT OF INCOME
- ------------------------------------------------------------------------------------------------------
(Dollars in millions) Year ended December 31, 1997 1996 1995
- ------------------------------------------------------------------------------------------------------
Dividends from bank subsidiary ......................................... $ 22 $ 88 $ 96
Dividends and interest revenue ......................................... 25 10 12
Securities gains, net .................................................. 3 5
----- ----- -----
Total revenue ..................................................... 47 101 113
Interest on commercial paper .......................................... 2 3 8
Interest on long-term debt ............................................ 53 13 6
Other expenses ........................................................ 4 3 4
----- ----- -----
Total expenses ..................................................... 59 19 18
Income tax benefit ..................................................... (13) (1)
----- ----- -----
Income before equity in undistributed income of subsidiaries ...... 1 83 95
Equity in undistributed income of subsidiaries and affiliate:
Consolidated bank ................................................... 369 192 132
Consolidated nonbank ................................................ 4 12 15
Unconsolidated affiliate ............................................ 6 6 5
----- ----- -----
379 210 152
----- ----- -----
Net Income ......................................................... $ 380 $ 293 $ 247
===== ===== =====
- ------------------------------------------------------------------------------------------------------
STATEMENT OF CONDITION
- -------------------------------------------------------------------------------------------------------
(Dollars in millions) December 31, 1997 1996
- -------------------------------------------------------------------------------------------------------
Assets:
Cash and due from bank subsidiary ........................................... $ 15 $ 2
Interest-bearing deposits with bank subsidiary .............................. 2 316
Securities purchased under resale agreements ................................ 320
Available-for-sale securities ............................................... 15 10
Investment in consolidated subsidiaries:
Bank ...................................................................... 2,233 1,778
Nonbank ................................................................... 100 76
Investment in unconsolidated affiliate ...................................... 32 26
Notes receivable from nonbank subsidiaries .................................. 72 57
Other assets ................................................................ 12 11
------- -------
Total Assets ............................................................ $ 2,801 $ 2,276
======= =======
Liabilities:
Commercial paper ............................................................ $ $ 8
Accrued taxes and other expenses ............................................ 22 18
Other liabilities ........................................................... 16 16
Long-term debt .............................................................. 768 459
------- -------
Total Liabilities ....................................................... 806 501
------- -------
Stockholders' Equity ........................................................ 1,995 1,775
------- -------
Total Liabilities and Stockholders' Equity .............................. $ 2,801 $ 2,276
======= =======
STATEMENT OF CASH FLOWS
- ------------------------------------------------------------------------------------------------------
(Dollars in millions) Year ended December 31, 1997 1996 1995
- ------------------------------------------------------------------------------------------------------
Operating Activities:
Net income ...................................................... $ 380 $ 293 $ 247
Equity in undistributed income of subsidiaries and affiliate .... (379) (210) (152)
Securities gains, net ........................................... (3) (5)
Other, net ...................................................... (4) 6 17
----- ----- -----
Net Cash (Used) Provided by Operating Activities ............ (3) 86 107
Investing Activities:
Net (payments for) proceeds from:
Investment in bank subsidiary ................................ (75) (14)
Investment in nonbank subsidiaries ........................... (21) (8) (2)
Securities purchased under resale agreement .................. (320)
Purchase of available-for-sale securities .................... (5) (10) (13)
Maturity of available-for-sale securities .................... 10 5
Sales of available-for-sale securities ....................... 18 25
Interest bearing deposits with banks ......................... 314 (150) 17
Notes receivable from nonbank subsidiaries ................... (15) (41) (10)
----- ----- -----
Net Cash (Used) Provided by Investing Activities ............ (122) (195) 22
Financing Activities:
Net payments for commercial paper ............................... (8) (66) (61)
Proceeds from issuance of long-term debt ........................ 309 356
Proceeds from issuance of common and treasury stock ............. 16 12 5
Payments for cash dividends ..................................... (69) (61) (56)
Payments for purchase of common stock ........................... (110) (131) (17)
----- ----- -----
Net Cash Provided (Used) by Financing Activities ............ 138 110 (129)
----- ----- -----
Net Increase ................................................ 13 1
----- ----- -----
Cash and due from banks at beginning of period .................. 2 1 1
----- ----- -----
Cash and Due from Banks at End of Period .................... $ 15 $ 2 $ 1
===== ===== =====
- ------------------------------------------------------------------------------------------------------
State Street Corporation REPORT OF INDEPENDENT AUDITORS
The Stockholders and Board of Directors
State Street Corporation
We have audited the accompanying consolidated statements of condition of State
Street Corporation as of December 31, 1997 and 1996, 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, 1997. These
financial statements are the responsibility of the Corporation's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to herein present fairly, in
all material respects, the consolidated financial position of State Street
Corporation at December 31, 1997 and 1996, and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
December 31, 1997 in conformity with generally accepted accounting principles.
/s/ Ernst & Young LLP
Boston, Massachusetts
January 13, 1998
SUPPLEMENTAL FINANCIAL DATA State Street Corporation
- -----------------------------------------------------------------------------------------------------------
CONDENSED AVERAGE STATEMENT OF CONDITION WITH NET INTEREST REVENUE ANALYSIS
- -----------------------------------------------------------------------------------------------------------
Average Average
(Dollars in millions; taxable equivalent) Balance Interest Rate
- -----------------------------------------------------------------------------------------------------------
ASSETS
Interest-bearing deposits with banks .............................. $ 8,516 $ 415 4.88%
Securities purchased under resale agreements and securities borrowed 6,413 354 5.52
Federal funds sold ................................................ 708 39 5.57
Trading account assets ............................................ 153 9 5.60
Investment securities:
U.S. Treasury and Federal agencies ............................. 5,980 360 6.03
State and political subdivisions ............................... 1,645 105 6.37
Other investments .............................................. 2,659 163 6.12
------- ------
Total investment securities .................................. 10,284 628 6.11
Loans:
Commercial and financial ....................................... 3,494 215 6.15
Real estate .................................................... 99 9 8.72
Non-U.S. ....................................................... 882 61 6.98
Lease financing ................................................ 876 69 7.86
------- ------
Total loans .................................................. 5,351 354 6.61
------- ------
TOTAL INTEREST-EARNING ASSETS ................................ 31,425 1,799 5.73
Cash and due from banks ........................................... 1,119
Allowance for loan losses ......................................... (76)
Premises and equipment ............................................ 475
Customers' acceptance liability ................................... 68
Other assets ...................................................... 2,415
-------
TOTAL ASSETS ................................................. $35,426
=======
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest-bearing deposits:
Savings ........................................................ $ 2,081 87 4.17
Time ........................................................... 153 8 5.08
Non-U.S. ....................................................... 12,645 417 3.30
------- ------
Total interest-bearing deposits .............................. 14,879 512 3.44
Securities sold under repurchase agreements ....................... 9,598 499 5.20
Federal funds purchased ........................................... 291 15 5.26
Other short-term borrowings ....................................... 602 30 5.03
Notes payable ..................................................... 76 3 4.34
Long-term debt .................................................... 717 55 7.70
------- ------
TOTAL INTEREST-BEARING LIABILITIES ........................... 26,163 1,114 4.26
------
Noninterest-bearing deposits ...................................... 5,288
Acceptances outstanding ........................................... 68
Other liabilities ................................................. 2,060
Stockholders' equity .............................................. 1,847
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY ................... $35,426
=======
Net interest revenue ......................................... $ 685
======
Excess of rate earned over rate paid ......................... 1.47%
====
NET INTEREST MARGIN(1) ....................................... 2.18%
====
- -----------------------------------------------------------------------------------------------------------
(1) Net interest margin is taxable equivalent net interest revenue divided by average interest-earning assets.
1996 1995 1994 1993
- ----------------------------------------------------------------------------------------------------------------------------
Average Average Average Average Average Average Average Average
Balance Interest Rate Balance Interest Rate Balance Interest Rate Balance Interest Rate
- ----------------------------------------------------------------------------------------------------------------------------
$ 7,041 $ 336 4.78% $ 5,466 $ 287 5.25% $ 5,183 $ 209 4.04% $ 5,022 $ 202 4.01%
6,010 326 5.43 5,569 329 5.91 3,102 132 4.26 3,255 102 3.14
561 30 5.35 475 28 5.97 537 24 4.45 534 16 3.03
326 18 5.41 412 21 5.13 532 26 4.90 416 17 4.02
4,319 261 6.03 4,139 243 5.89 3,455 184 5.33 2,181 124 5.72
1,478 92 6.25 1,183 71 5.96 1,120 57 5.09 732 40 5.43
2,111 127 6.01 2,212 134 6.05 2,597 139 5.35 2,169 118 5.43
- ------- ------ ------- ----- ------- ----- ------- -----
7,908 480 6.06 7,534 448 5.95 7,172 380 5.30 5,082 282 5.55
2,938 185 6.30 2,519 171 6.79 2,347 123 5.24 1,918 93 4.85
106 9 8.76 99 8 8.39 96 7 7.57 97 7 6.97
815 52 6.40 536 42 7.80 586 38 6.41 282 16 5.82
654 44 6.73 510 37 7.31 372 22 5.98 279 16 5.61
- ------- ------ ------- ----- ------- ----- ------- -----
4,513 290 6.42 3,664 258 7.04 3,401 190 5.58 2,576 132 5.14
- ------- ------ ------- ----- ------- ----- ------- -----
26,359 1,480 5.61 23,120 1,371 5.93 19,927 961 4.82 16,885 751 4.45
1,164 1,026 1,286 979
(70) (62) (58) (58)
458 481 462 435
42 63 30 33
1,530 1,554 1,148 653
- -------- ------- ------- -------
$ 29,483 $26,182 $22,795 $18,927
======== ======= ======= =======
$ 2,097 86 4.10 $1,913 85 4.45 $ 1,992 57 2.85 $ 2,253 55 2.45
150 8 5.26 131 7 5.47 172 8 4.52 234 12 5.24
10,372 331 3.19 8,470 324 3.82 7,392 216 2.93 4,954 147 2.95
- ------- ------ ------- ----- ------- ----- ------- -----
12,619 425 3.37 10,514 416 3.96 9,556 281 2.93 7,441 214 2.87
7,819 394 5.05 7,080 399 5.65 4,958 201 4.07 4,181 121 2.90
357 19 5.18 504 30 5.89 411 16 3.90 741 21 2.84
707 36 5.04 761 41 5.32 563 25 4.40 216 8 3.78
124 3 2.47 214 12 5.73 258 12 4.64 511 20 3.90
213 15 6.95 127 9 6.71 128 9 6.73 122 10 8.19
- ------- ------ ------- ----- ------- ----- ------- -----
21,839 892 4.08 19,200 907 4.72 15,874 544 3.43 13,212 394 2.98
------ ----- ----- -----
4,638 4,113 4,701 4,059
42 64 30 34
1,346 1,322 906 497
1,618 1,483 1,284 1,125
- -------- ------- ------- -------
$ 29,483 $26,182 $22,795 $18,927
======== ======= ======= =======
$ 588 $ 464 $ 417 $ 357
====== ====== ===== =====
1.53% 1.21% 1.39% 1.47%
==== ==== ==== ====
2.23% 2.01% 2.09% 2.12%
==== ==== ==== ====
- ----------------------------------------------------------------------------------------------------------------------------