UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1998 Commission file number 1-6214
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WELLS FARGO & COMPANY
(Exact name of Registrant as specified in its charter)
Delaware 13-2553920
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
420 Montgomery Street, San Francisco, California 94163
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: 1-800-411-4932
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to
such filing requirements for the past 90 days.
Yes X No
----- -----
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Shares Outstanding
July 31, 1998
------------------
Common stock, $5 par value 85,136,765
FORM 10-Q
TABLE OF CONTENTS
PART I FINANCIAL INFORMATION Page
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Item 1. Financial Statements
Consolidated Statement of Income . . . . . . . . . . . . . . . 2
Consolidated Balance Sheet . . . . . . . . . . . . . . . . . . 3
Consolidated Statement of Changes in Stockholders' Equity. . . 4
Consolidated Statement of Cash Flows . . . . . . . . . . . . . 5
Note to Financial Statements . . . . . . . . . . . . . . . . . 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
Summary Financial Data . . . . . . . . . . . . . . . . . . . . 7
Overview . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
Proposed Merger with Norwest Corporation . . . . . . . . . . . 10
Line of Business Results . . . . . . . . . . . . . . . . . . . 11
Earnings Performance . . . . . . . . . . . . . . . . . . . . . 17
Net Interest Income. . . . . . . . . . . . . . . . . . . . . 17
Noninterest Income . . . . . . . . . . . . . . . . . . . . . 21
Noninterest Expense. . . . . . . . . . . . . . . . . . . . . 23
Earnings/Ratios Excluding Goodwill and Nonqualifying CDI . . 25
Balance Sheet Analysis . . . . . . . . . . . . . . . . . . . . 26
Investment Securities. . . . . . . . . . . . . . . . . . . . 26
Loan Portfolio . . . . . . . . . . . . . . . . . . . . . . . 28
Commercial real estate . . . . . . . . . . . . . . . . . . 28
Nonaccrual and Restructured Loans and Other Assets . . . . . 29
Changes in total nonaccrual loans. . . . . . . . . . . . . 29
Changes in foreclosed assets . . . . . . . . . . . . . . . 32
Loans 90 days past due and still accruing. . . . . . . . . 32
Allowance for Loan Losses. . . . . . . . . . . . . . . . . . 33
Other Assets . . . . . . . . . . . . . . . . . . . . . . . . 35
Deposits . . . . . . . . . . . . . . . . . . . . . . . . . . 36
Capital Adequacy/Ratios. . . . . . . . . . . . . . . . . . . 36
Derivative Financial Instruments . . . . . . . . . . . . . . 38
Liquidity Management . . . . . . . . . . . . . . . . . . . . 39
Item 3. Quantitative and Qualitative Disclosures About Market Risk . . 40
PART II OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . . . . . . 41
SIGNATURE . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 43
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The information furnished in these interim statements reflects all
adjustments which are, in the opinion of management, necessary for a fair
statement of the results for such periods. Such adjustments are of a normal
recurring nature, unless otherwise disclosed in this Form 10-Q. The results
of operations in the interim statements are not necessarily indicative of the
results that may be expected for the full year. In addition, this Form 10-Q
includes forward-looking statements that involve inherent risks and
uncertainties. Wells Fargo & Company (the Company) cautions readers that a
number of important factors could cause actual results to differ materially
from those in the forward-looking statements. Those factors include
fluctuations in interest rates, inflation, government regulations, customer
disintermediation, technology changes (including the Year 2000 issue) and
economic conditions and competition in the geographic and business areas in
which the Company conducts its operations. The interim financial information
should be read in conjunction with the Company's 1997 Annual Report on Form
10-K.
1
PART I - FINANCIAL INFORMATION
WELLS FARGO & COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF INCOME
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Quarter Six months
ended June 30, ended June 30,
--------------------- ---------------------
(in millions) 1998 1997 1998 1997
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INTEREST INCOME
Federal funds sold and securities
purchased under resale agreements $ 10 $ 6 $ 16 $ 11
Investment securities 130 190 275 398
Loans 1,515 1,507 3,027 3,057
Other 21 13 43 24
------ ------ ------ ------
Total interest income 1,676 1,716 3,361 3,490
------ ------ ------ ------
INTEREST EXPENSE
Deposits 403 429 811 851
Federal funds purchased and securities sold under
repurchase agreements 20 34 61 65
Commercial paper and other short-term borrowings 4 3 11 6
Senior and subordinated debt 73 78 148 159
Guaranteed preferred beneficial interests in
Company's subordinated debentures 25 25 51 50
------ ------ ------ ------
Total interest expense 525 569 1,082 1,131
------ ------ ------ ------
NET INTEREST INCOME 1,151 1,147 2,279 2,359
Provision for loan losses 170 140 350 245
------ ------ ------ ------
Net interest income after provision for loan losses 981 1,007 1,929 2,114
------ ------ ------ ------
NONINTEREST INCOME
Fees and commissions 272 234 527 448
Service charges on deposit accounts 222 214 430 434
Trust and investment services income 114 112 228 221
Investment securities gains 18 3 23 7
Other 109 116 252 209
------ ------ ------ ------
Total noninterest income 735 679 1,460 1,319
------ ------ ------ ------
NONINTEREST EXPENSE
Salaries 303 316 608 656
Incentive compensation 61 49 114 89
Employee benefits 80 81 171 176
Equipment 100 98 197 192
Net occupancy 98 95 199 196
Goodwill 81 81 162 164
Core deposit intangible 57 67 117 129
Operating losses 25 180 56 222
Other 292 279 565 539
------ ------ ------ ------
Total noninterest expense 1,097 1,246 2,189 2,363
------ ------ ------ ------
INCOME BEFORE INCOME TAX EXPENSE 619 440 1,200 1,070
Income tax expense 282 212 548 502
------ ------ ------ ------
NET INCOME $ 337 $ 228 $ 652 $ 568
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NET INCOME APPLICABLE TO COMMON STOCK $ 333 $ 222 $ 643 $ 551
------ ------ ------ ------
------ ------ ------ ------
EARNINGS PER COMMON SHARE $ 3.91 $ 2.49 $ 7.52 $ 6.12
------ ------ ------ ------
------ ------ ------ ------
DILUTED EARNINGS PER COMMON SHARE $ 3.87 $ 2.47 $ 7.45 $ 6.06
------ ------ ------ ------
------ ------ ------ ------
DIVIDENDS DECLARED PER COMMON SHARE $ 1.30 $ 1.30 $ 2.60 $ 2.60
------ ------ ------ ------
------ ------ ------ ------
Average common shares outstanding 85.2 89.0 85.5 89.9
------ ------ ------ ------
------ ------ ------ ------
Diluted average common shares outstanding 86.1 89.9 86.4 90.9
------ ------ ------ ------
------ ------ ------ ------
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2
WELLS FARGO & COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
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JUNE 30, December 31, June 30,
(in millions) 1998 1997 1997
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ASSETS
Cash and due from banks $ 7,130 $ 8,169 $ 8,037
Federal funds sold and securities
purchased under resale agreements 590 82 224
Securities available for sale 8,449 9,888 11,530
Loans 64,320 65,734 65,689
Allowance for loan losses 1,835 1,828 1,850
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Net loans 62,485 63,906 63,839
------- ------- --------
Due from customers on acceptances 88 98 97
Accrued interest receivable 466 507 519
Premises and equipment, net 2,017 2,117 2,262
Core deposit intangible 1,592 1,709 1,835
Goodwill 6,837 7,031 7,231
Other assets 3,546 3,949 4,606
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Total assets $93,200 $97,456 $100,180
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------- ------- --------
LIABILITIES
Noninterest-bearing deposits $23,411 $23,953 $ 24,284
Interest-bearing deposits 47,039 48,246 49,464
------- ------- --------
Total deposits 70,450 72,199 73,748
Federal funds purchased and securities
sold under repurchase agreements 1,262 3,576 4,237
Commercial paper and other short-term borrowings 287 249 208
Acceptances outstanding 88 98 97
Accrued interest payable 193 175 196
Other liabilities 2,256 2,403 2,869
Senior debt 1,684 1,983 1,734
Subordinated debt 2,731 2,585 2,686
Guaranteed preferred beneficial interests in
Company's subordinated debentures 1,299 1,299 1,299
STOCKHOLDERS' EQUITY
Preferred stock 275 275 275
Common stock - $5 par value,
authorized 150,000,000 shares; issued and
outstanding 85,091,451 shares, 86,152,779 shares
and 88,078,690 shares 425 431 440
Additional paid-in capital 8,347 8,712 9,305
Retained earnings 3,837 3,416 3,064
Cumulative other comprehensive income 66 55 22
------- ------- --------
Total stockholders' equity 12,950 12,889 13,106
------- ------- --------
Total liabilities and stockholders' equity $93,200 $97,456 $100,180
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3
WELLS FARGO & COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
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Six months ended June 30,
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1998 1997
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STOCK- COMPRE- Stock- Compre-
HOLDERS' HENSIVE holders' hensive
(in millions) EQUITY INCOME Equity Income
- -------------------------------------------------------------------------------------------------
PREFERRED STOCK
Balance, beginning of period $ 275 $ 600
Preferred stock redeemed -- (325)
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Balance, end of period 275 275
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COMMON STOCK
Balance, beginning of period 431 457
Common stock issued under employee benefit and
dividend reinvestment plans 1 1
Common stock repurchased (7) (18)
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Balance, end of period 425 440
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ADDITIONAL PAID-IN CAPITAL
Balance, beginning of period 8,712 10,287
Common stock issued under employee benefit and
dividend reinvestment plans 52 44
Common stock repurchased (417) (1,026)
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Balance, end of period 8,347 9,305
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RETAINED EARNINGS
Balance, beginning of period 3,416 2,749
Net income 652 $652 568 $568
Preferred stock dividends (9) (17)
Common stock dividends (222) (236)
------- -------
Balance, end of period 3,837 3,064
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CUMULATIVE OTHER COMPREHENSIVE INCOME
Balance, beginning of period 55 19
Unrealized gains on investment securities arising
during the period, net of tax of $17 million
and $2 million 25 25 3 3
Reclassification adjustment for investment securities
gains included in net income, net of tax of
$9 million and $3 million (14) (14) (4) (4)
Foreign currency translation adjustments, net of tax
of ($4) million -- -- 4 4
------- ---- ------- ----
Balance, end of period 66 22
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COMPREHENSIVE INCOME $663 $571
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---- ----
Total stockholders' equity $12,950 $13,106
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4
WELLS FARGO & COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
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Six months ended June 30,
-------------------------
(in millions) 1998 1997
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CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 652 $ 568
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for loan losses 350 245
Depreciation and amortization 466 414
Investment securities gains (23) (7)
Gains on sales of loans (53) (13)
Gains from dispositions of operations (71) (8)
Net decrease in accrued interest receivable 41 146
Net increase in accrued interest payable 18 25
Net decrease (increase) in loans originated for sale 569 (294)
Other, net (51) 603
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Net cash provided by operating activities 1,898 1,679
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CASH FLOWS FROM INVESTING ACTIVITIES:
Securities available for sale
Proceeds from sales 54 255
Proceeds from prepayments and maturities 2,751 2,224
Purchases (1,324) (505)
Net (increase) decrease in loans resulting from
originations and collections 58 1,553
Proceeds from sales (including participations) of loans 548 108
Purchases (including participations) of loans (81) (128)
Proceeds from dispositions of operations 473 8
Proceeds from sales of foreclosed assets 78 85
Net increase in federal funds sold and securities
purchased under resale agreements (508) (37)
Other, net (98) 238
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Net cash provided by investing activities 1,951 3,801
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CASH FLOWS FROM FINANCING ACTIVITIES:
Net decrease in deposits (1,749) (8,073)
Net increase (decrease) in short-term borrowings (2,276) 2,015
Repayment of senior debt (293) (375)
Proceeds from issuance of subordinated debt 250 --
Repayment of subordinated debt (100) (251)
Proceeds from issuance of guaranteed preferred
beneficial interests in Company's
subordinated debentures -- 149
Proceeds from issuance of common stock 53 45
Redemption of preferred stock -- (325)
Repurchase of common stock (424) (1,044)
Payment of cash dividends on preferred stock (9) (17)
Payment of cash dividends on common stock (222) (236)
Other, net (118) (1,067)
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Net cash used by financing activities (4,888) (9,179)
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NET CHANGE IN CASH AND CASH EQUIVALENTS (DUE
FROM BANKS) (1,039) (3,699)
Cash and Cash Equivalents at Beginning of Period 8,169 11,736
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CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 7,130 $ 8,037
------- -------
------- -------
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest $ 1,064 $ 1,106
Income taxes $ 339 $ 450
Noncash investing activities:
Transfers from loans to foreclosed assets $ 33 $ 53
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5
WELLS FARGO & COMPANY AND SUBSIDIARIES
NOTE TO FINANCIAL STATEMENTS
MERGER WITH FIRST INTERSTATE BANCORP (MERGER)
On April 1, 1996, the Company completed its acquisition of First Interstate
Bancorp (First Interstate). The Merger was accounted for as a purchase
transaction.
The major components of management's plan for the combined company included the
realignment of First Interstate's businesses to reflect Wells Fargo's structure,
consolidation of retail branches and administrative facilities and reduction in
staffing levels. As a result of this plan, the adjustments to goodwill since
April 1, 1996 included accruals totaling approximately $324 million
($191 million after tax) related to the disposition of premises, including an
accrual of $127 million ($75 million after tax) associated with the dispositions
of traditional former First Interstate branches in California and out of state
that were completed by June 30, 1998. The California dispositions included 175
branch closures during 1996, 47 branch closures during 1997 and one branch
closure in the first quarter of 1998. The Company also sold 17 former First
Interstate branches located in California, including deposits, in 1997. The
out-of-state dispositions included 88 branch closures that were completed in
1997, 30 branch closures in the first quarter of 1998 and 38 branch closures in
the second quarter of 1998. The Company also sold 87 former First Interstate
out-of-state branches, including deposits, in 1997. (See Noninterest Income
section for information on other branch dispositions.) Additionally, the
adjustments to goodwill included accruals of approximately $452 million
($267 million after tax) related to severance of former First Interstate
employees who were displaced by June 30, 1998.
During 1997, the Bank signed a definitive agreement to sell its Institutional
Custody businesses to The Bank of New York and its affiliate, BNY Western Trust
Company. Transfer of the accounts occurred in several stages, the last of which
was during the second quarter of 1998. Substantially all of the businesses were
acquired as part of the acquisition of First Interstate; therefore, the excess
of the related proceeds over the attributable costs of the net assets sold on
that portion of the sale was deducted from goodwill. Conversely, net proceeds
of approximately $9 million attributable to business originated by the Company
were recorded as a gain in the first half of 1998, including approximately
$7 million in the second quarter of 1998.
The $7,198 million excess purchase price over fair value of First Interstate's
net assets acquired (goodwill) is amortized using the straight-line method over
25 years.
6
FINANCIAL REVIEW
SUMMARY FINANCIAL DATA
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% Change
Quarter ended June 30, 1998 from Six months ended
---------------------------- -------------------- ------------------
JUNE 30, Mar. 31, June 30, Mar. 31, June 30, JUNE 30, June 30, %
(in millions) 1998 1998 1997 1998 1997 1998 1997 Change
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FOR THE PERIOD
Net income $ 337 $ 315 $ 228 7% 48% $ 652 $ 568 15%
Net income applicable to common stock 333 311 222 7 50 643 551 17
Earnings per common share $ 3.91 $ 3.62 $ 2.49 8 57 $ 7.52 $ 6.12 23
Diluted earnings per comon share 3.87 3.58 2.47 8 57 7.45 6.06 23
Dividends declared per comon share 1.30 1.30 1.30 -- -- 2.60 2.60 --
Average common shares outstanding 85.2 85.8 89.0 (1) (4) 85.5 89.9 (5)
Diluted average common shares outstanding 86.1 86.6 89.9 (1) (4) 86.4 90.9 (5)
Profitability ratios (annualized)
Net income to average total assets (ROA) 1.45% 1.34% .92% 8 58 1.40% 1.12% 25
Net income applicable to common stock to
average common stockholders' equity (ROE) 10.66 10.07 6.88 6 55 10.37 8.46 23
Efficiency ratio (1) 58.2% 58.9% 68.2% (1) (15) 58.5% 64.2% (9)
Average loans $64,397 $65,067 $ 64,618 (1) -- $64,730 $ 65,053 --
Average assets 93,148 95,258 99,739 (2) (7) 94,197 102,569 (8)
Average core deposits 69,807 69,858 73,524 -- (5) 69,833 75,562 (8)
Net interest margin 6.22% 6.01% 5.93% 3 5 6.12% 6.03% 1
NET INCOME AND RATIOS EXCLUDING
GOODWILL AND NONQUALIFYING CORE DEPOSIT
INTANGIBLE AMORTIZATION AND BALANCES
("CASH" OR "TANGIBLE") (2)
Net income applicable to common stock $ 444 $ 423 $ 338 5 31 $ 866 $ 781 11
Earnings per common share 5.21 4.92 3.79 6 37 10.13 8.69 17
Diluted earnings per common share 5.15 4.88 3.75 6 37 10.03 8.59 17
ROA 2.11% 1.98% 1.51% 7 40 2.04% 1.71% 19
ROE 37.78 37.46 29.27 1 29 37.62 33.06 14
Efficiency ratio 51.2 51.7 60.6 (1) (16) 51.5 56.7 (9)
AT PERIOD END
Securities available for sale $ 8,449 $ 8,676 $ 11,530 (3) (27) $ 8,449 $ 11,530 (27)
Loans 64,320 64,504 65,689 -- (2) 64,320 65,689 (2)
Allowance for loan losses 1,835 1,830 1,850 -- (1) 1,835 1,850 (1)
Goodwill 6,837 6,943 7,231 (2) (5) 6,837 7,231 (5)
Assets 93,200 94,820 100,180 (2) (7) 93,200 100,180 (7)
Core deposits 70,209 72,041 73,545 (3) (5) 70,209 73,545 (5)
Common stockholders' equity 12,675 12,528 12,831 1 (1) 12,675 12,831 (1)
Stockholders' equity 12,950 12,803 13,106 1 (1) 12,950 13,106 (1)
Tier 1 capital (3) 6,425 6,141 6,101 5 5 6,425 6,101 5
Total capital (Tiers 1 and 2) (3) 9,491 9,161 9,329 4 2 9,491 9,329 2
Capital ratios
Common stockholders' equity to assets 13.60% 13.21% 12.81% 3 6 13.60% 12.81% 6
Stockholders' equity to assets 13.90 13.50 13.08 3 6 13.90 13.08 6
Risk-based capital (3)
Tier 1 capital 8.08 7.76 7.49 4 8 8.08 7.49 8
Total capital 11.94 11.58 11.45 3 4 11.94 11.45 4
Leverage (3) 7.53 7.04 6.67 7 13 7.53 6.67 13
Book value per common share $148.96 $146.90 $ 145.68 1 2 $148.96 $ 145.68 2
Staff (active, full-time equivalent) 31,620 32,414 33,216 (2) (5) 31,620 33,216 (5)
COMMON STOCK PRICE
High $387.25 $337.88 $ 287.88 15 35 $387.25 $ 319.25 21
Low 329.13 295.00 246.00 12 34 295.00 246.00 20
Period end 369.00 331.25 269.50 11 37 369.00 269.50 37
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(1) The efficiency ratio is defined as noninterest expense divided by the total
of net interest income and noninterest income.
(2) Nonqualifying core deposit intangible (CDI) amortization and average
balance excluded from these calculations are, with the exception of the
efficiency ratio, net of applicable taxes. The after-tax amounts for the
amortization and average balance of nonqualifying CDI were $30 million and
$913 million, respectively, for the quarter ended June 30, 1998 and
$61 million and $928 million, respectively, for the six months ended June
30, 1998. Goodwill amortization and average balance (which are not tax
effected) were $81 million and $6,902 million, respectively, for the
quarter ended June 30, 1998 and $162 million and $6,946 million,
respectively, for the six months ended June 30, 1998.
(3) See the Capital Adequacy/Ratios section for additional information.
7
OVERVIEW
Wells Fargo & Company (Parent) is a bank holding company whose principal
subsidiary is Wells Fargo Bank, N.A. (Bank). In this Form 10-Q, Wells Fargo
& Company and its subsidiaries are referred to as the Company.
Net income for the second quarter of 1998 was $337 million, compared with
$228 million for the second quarter of 1997, an increase of 48%. Earnings
per share for the second quarter of 1998 were $3.91, compared with $2.49 in
the second quarter of 1997, an increase of 57%. Net income for the first six
months of 1998 was $652 million, or $7.52 per share, compared with $568
million, or $6.12 per share, for the first six months of 1997.
Return on average assets (ROA) was 1.45% and 1.40% in the second quarter and
first half of 1998, respectively, compared with .92% and 1.12% in the same
periods of 1997. Return on average common equity (ROE) was 10.66% and 10.37%
in the second quarter and first half of 1998, respectively, compared with
6.88% and 8.46% in the same periods of 1997.
Earnings before the amortization of goodwill and nonqualifying core deposit
intangible ("cash" or "tangible" earnings) in the second quarter and first
half of 1998 were $5.21 and $10.13 per share, respectively, compared with
$3.79 and $8.69 per share in the same periods of 1997. On the same basis,
ROA was 2.11% and 2.04% in the second quarter and first half of 1998,
respectively, compared with 1.51% and 1.71% in the same periods of 1997; ROE
was 37.78% and 37.62% in the second quarter and first half of 1998,
respectively, compared with 29.27% and 33.06% in the same periods of 1997.
Net interest income on a taxable-equivalent basis was $1,154 million and
$2,285 million in the second quarter and first half of 1998, respectively,
compared with $1,150 million and $2,366 million in the same periods of 1997.
The Company's net interest margin was 6.22% for the second quarter of 1998,
compared with 5.93% in the same quarter of 1997 and 6.01% in the first
quarter of 1998. The increase in net interest margin for the second quarter
of 1998 compared with the same period of 1997 was primarily due to interest
received on previously charged off loans (including loans where interest had
previously been applied to principal) and the improvement in the funding mix
based on reductions in the levels of cash and float.
Noninterest income was $735 million and $1,460 million in the second quarter
and first half of 1998, respectively, compared with $679 million and $1,319
million in the same periods of 1997. The increase in noninterest income for
the second quarter of 1998 compared with the same period of 1997 was
primarily due to a $58 million gain on the sale of the mortgage servicing
business and higher fee income, largely offset by increased losses on
dispositions of premises and equipment and a $33 million write-down of auto
lease residuals.
Noninterest expense in the second quarter and first half of 1998 was $1,097
million and $2,189 million, respectively, compared with $1,246 million and
$2,363 million for the same periods of 1997. The decrease in noninterest
expense for the second quarter of 1998 compared with the same period of 1997
was mostly due to a decrease in operating losses.
8
The provision for loan losses in the second quarter and first half of 1998
was $170 million and $350 million, respectively, compared with $140 million
and $245 million for the same periods in 1997. During the second quarter of
1998, net charge-offs totaled $165 million, or 1.02% of average loans
(annualized). This compared with $178 million, or 1.11%, during the first
quarter of 1998 and $212 million, or 1.32%, during the second quarter of
1997. The allowance for loan losses of $1,835 million was 2.85% of total
loans at June 30, 1998, compared with 2.84% at March 31, 1998 and 2.82% at
June 30, 1997.
Total nonaccrual and restructured loans were $517 million, or .8% of total
loans, at June 30, 1998, compared with $537 million, or .8% of total loans,
at December 31, 1997 and $612 million, or .9% of total loans, at June 30,
1997. Foreclosed assets amounted to $127 million at June 30, 1998, $158
million at December 31, 1997 and $194 million at June 30, 1997.
Common stockholders' equity to total assets was 13.60% at June 30, 1998,
compared with 13.21% and 12.81% at March 31, 1998 and June 30, 1997,
respectively. The Company's total risk-based capital ratio at June 30, 1998
was 11.94% and its Tier 1 risk-based capital ratio was 8.08%, exceeding
minimum guidelines of 8% and 4%, respectively, for bank holding companies and
the "well capitalized" guidelines for banks of 10% and 6%, respectively. At
March 31, 1998, the risk-based capital ratios were 11.58% and 7.76%,
respectively; at June 30, 1997, these ratios were 11.45% and 7.49%,
respectively. The Company's leverage ratios were 7.53%, 7.04% and 6.67% at
June 30, 1998, March 31, 1998 and June 30, 1997, respectively, exceeding the
minimum regulatory guideline of 3% for bank holding companies and the "well
capitalized" guideline of 5% for banks.
The Company has bought in the past shares to offset common stock issued or
expected to be issued under the Company's employee benefit and dividend
reinvestment plans. In addition to these shares, the Board of Directors
authorized in April 1996 the repurchase of up to 9.6 million shares of the
Company's outstanding common stock under a repurchase program begun in 1994.
In October 1997, the Board of Directors authorized the repurchase from time
to time of up to an additional 8.6 million shares of the Company's
outstanding stock under the same program. Under these programs, the Company
has repurchased 7.7 million shares (net of shares issued) in 1996, 5.3
million shares (net of shares issued) in 1997 and 1.1 million shares (net of
shares issued) in the first half of 1998, including .2 million shares (net of
shares issued) in the second quarter of 1998. In connection with its
proposed merger with Norwest Corporation, the Company rescinded all of its
share repurchase programs effective June 7, 1998. In addition, the Company
intends to issue approximately 2.5 million shares to cure a portion of
previously repurchased "tainted" shares and, thus, allow the merger to be
accounted for as a pooling of interests.
9
PROPOSED MERGER WITH NORWEST CORPORATION
On June 8, 1998, the Company announced that it had entered into a definitive
agreement with Norwest Corporation (Norwest) to merge the two companies. The
name of the combined company will be Wells Fargo & Company and its corporate
headquarters will be in San Francisco. Minneapolis will be the headquarters
for the combined Midwest banking business. The merger is intended to be
accounted for as a pooling of interests. The consummation of the merger is
subject to various conditions, including required approvals of the Company's
and Norwest's shareholders and receipt of all requisite regulatory approvals.
There is no assurance as to when or whether the required approvals would be
obtained, and if obtained, as to what conditions or restrictions would be
imposed. Subject to these conditions, the merger is currently expected to
close in the fourth quarter of 1998.
The combined Board of Directors will consist of an equal number of
representatives from each of the companies. Under the terms of the merger
agreement, the Company's shareholders will receive a tax-free exchange of ten
shares of Norwest common stock for each share of the Company's common stock.
At June 30, 1998, Norwest had assets of $93 billion and was the twelfth
largest bank holding company in the nation. Norwest had 3,935 financial
services stores in all 50 states, Canada, the Caribbean, Latin America and
elsewhere internationally. At June 30, 1998, the Company had 1,875 physical
distribution offices in ten western states.
The Company and Norwest anticipate that, in order to comply with Department
of Justice merger guidelines, the companies will be requested to sell a
modest level of deposits. In this connection, the companies expect to
propose divestitures in various markets in Arizona and Nevada. The impact of
such divestitures is not expected to be material.
The combined companies expect to achieve approximately $650 million ($430
million after tax) in annual cost savings within three years of the merger date.
The savings are expected to result from the conversion to one systems
platform, the elimination of duplicate systems development and maintenance,
the consolidation of operations and branches and the elimination of duplicate
overhead functions.
The combined companies expect to incur approximately $950 million ($625
million after tax) in transition-related expenses. The estimated
transition-related expenses consist primarily of employee-related expense and
costs associated with systems integration and operations.
The following discussions included in Line of Business Results, Earnings
Performance, and Balance Sheet Analysis sections of this report do not
reflect the expected impact of the Company's merger with Norwest.
10
LINE OF BUSINESS RESULTS
The line of business results show the financial performance of the Company's
major business units. The table on pages 12 and 13 presents the line of
business results for the second quarter and six months ended June 30, 1998
and 1997.
Changes in management structure and/or the allocation process may result in
changes in allocations, transfers and assignments. In that case, results for
prior periods would be (and have been) restated to allow comparability from
one period to the next.
11
The following table presents the line of business results (estimated) for the
Company's six major business units.
- -----------------------------------------------------------------------------------------------------------------------------
(income/expense in millions, Retail Business
average balances in billions) Distribution Banking Investment
Group Group Group
--------------------------------------------------------------------------------
1998 1997 1998 1997 1998 1997
QUARTER ENDED JUNE 30,
Net interest income (1) $ 233 $ 249 $ 195 $ 193 $ 178 $ 202
Provision for loan losses (2) -- -- 40 33 1 1
Noninterest income (3) 295 292 72 66 149 139
Noninterest expense (3) 435 467 101 104 168 164
---- ---- ---- ---- ---- ----
Income before income
tax expense (benefit) 93 74 126 122 158 176
Income tax expense (benefit) (4) 38 31 51 49 64 72
---- ---- ---- ---- ---- ----
Net income (loss) $ 55 $ 43 $ 75 $ 73 $ 94 $ 104
---- ---- ---- ---- ---- ----
---- ---- ---- ---- ---- ----
Average loans $ -- $ -- $ 6.4 $ 5.5 $ 2.3 $ 2.1
Average assets 2.5 2.9 8.1 7.2 2.8 2.9
Average core deposits 18.5 18.5 10.7 11.5 32.0 34.3
Return on equity (5) 22% 17% 38% 39% 51% 59%
Risk-adjusted efficiency ratio (6) 92% 95% 61% 62% 62% 58%
SIX MONTHS ENDED JUNE 30,
Net interest income (1) $ 463 $ 499 $ 386 $ 377 $ 362 $ 403
Provision for loan losses (2) -- -- 77 64 3 3
Noninterest income (3) 559 577 144 133 289 273
Noninterest expense (3) 887 944 199 205 337 326
---- ---- ---- ---- ---- ----
Income before income
tax expense (benefit) 135 132 254 241 311 347
Income tax expense (benefit) (4) 55 54 103 98 126 143
---- ---- ---- ---- ---- ----
Net income (loss) $ 80 $ 78 $ 151 $ 143 $ 185 $ 204
---- ---- ---- ---- ---- ----
---- ---- ---- ---- ---- ----
Average loans $ -- $ -- $ 6.3 $ 5.4 $ 2.2 $ 2.1
Average assets 2.5 3.1 7.9 7.3 2.7 3.0
Average core deposits 18.3 19.1 10.7 11.7 32.3 34.8
Return on equity (5) 16% 15% 38% 39% 51% 58%
Risk-adjusted efficiency ratio (6) 96% 97% 60% 61% 63% 58%
- -----------------------------------------------------------------------------------------------------------------------------
(1) Net interest income is the difference between actual interest earned on
assets (and interest paid on liabilities) owned by a group and a funding
charge (and credit) based on the Company's cost of funds. Groups are
charged a cost to fund any assets (e.g., loans) and are paid a funding
credit for any funds provided (e.g., deposits). The interest spread is the
difference between the interest rate earned on an asset or paid on a
liability and the Company's cost of funds rate.
(2) The provision allocated to the line groups is based on management's current
assessment of the normalized net charge-off ratio for each line of
business. In any particular year, the actual net charge-offs can be higher
or lower than the normalized provision allocated to the lines of business.
The difference between the normalized provision and the Company provision
is included in Other.
(3) The Retail Distribution Group's charges to the product groups are shown as
noninterest income to the retail distribution channels and noninterest
expense to the product groups. They amounted to $85 million and
$90 million for the quarters ended June 30,
12
- ----------------------------------------------------------------------------------------------------
Wholesale
Real Estate Products Consumer Consolidated
Group Group Lending Other Company
- ----------------------------------------------------------------------------------------------------
1998 1997 1998 1997 1998 1997 1998 1997 1998 1997
$ 119 $ 87 $ 174 $ 182 $ 268 $ 277 $ (16) $ (43) $1,151 $1,147
12 11 20 19 98 108 (1) (32) 170 140
56 30 93 85 146 112 (76) (45) 735 679
25 32 115 120 121 128 132 231 1,097 1,246
--------- ------- ------- ------- ------- ------- -------- ------- ------- -------
138 74 132 128 195 153 (223) (287) 619 440
56 31 54 52 79 63 (60) (86) 282 212
--------- ------- ------- ------- ------- ------- -------- ------- ------- -------
$ 82 $ 43 $ 78 $ 76 $ 116 $ 90 $(163) $(201) $ 337 $ 228
--------- ------- ------- ------- ------- ------- -------- ------- ------- -------
--------- ------- ------- ------- ------- ------- -------- ------- ------- -------
$10.4 $ 9.4 $17.7 $16.7 $22.2 $23.6 $ 5.4 $ 7.3 $ 64.4 $ 64.6
11.8 10.2 21.2 20.2 22.9 24.5 23.8 31.8 93.1 99.7
.5 .4 7.6 8.4 .5 .4 -- -- 69.8 73.5
28% 17% 18% 18% 34% 24% --% --% 11% 7%
49% 74% 79% 81% 59% 70% --% --% --% --%
$ 217 $ 199 $ 346 $ 384 $ 541 $ 550 $ (36) $ (53) $2,279 $2,359
24 21 39 38 199 218 8 (99) 350 245
126 48 189 171 270 210 (117) (93) 1,460 1,319
57 51 235 231 238 248 236 358 2,189 2,363
--------- ------- ------- ------- ------- ------- -------- ------- ------- -------
262 175 261 286 374 294 (397) (405) 1,200 1,070
107 72 106 117 151 121 (100) (103) 548 502
--------- ------- ------- ------- ------- ------- -------- ------- ------- -------
$ 155 $ 103 $ 155 $ 169 $ 223 $ 173 $(297) $(302) $ 652 $ 568
--------- ------- ------- ------- ------- ------- -------- ------- ------- -------
--------- ------- ------- ------- ------- ------- -------- ------- ------- -------
$10.5 $ 9.4 $17.5 $16.9 $22.5 $23.8 $ 5.7 $ 7.5 $ 64.7 $ 65.1
11.9 10.2 21.0 21.2 23.3 24.9 24.9 32.9 94.2 102.6
.4 .4 7.6 9.0 .5 .4 -- .2 69.8 75.6
27% 21% 18% 19% 32% 23% --% --% 10% 8%
53% 63% 80% 77% 60% 72% --% --% --% --%
- ----------------------------------------------------------------------------------------------------
1998 and 1997, respectively, and $168 million and $180 million for the six
months ended June 30, 1998 and 1997, respectively. These charges are
eliminated in the Other category in arriving at the Consolidated Company
totals for noninterest income and expense.
(4) Businesses are taxed at the Company's marginal (statutory) tax rate,
adjusted for any nondeductible expenses. Any differences between the
marginal and effective tax rates are in Other.
(5) Equity is allocated to the lines of business based on an assessment of the
inherent risk associated with each business so that the returns on
allocated equity are on a risk-adjusted basis and comparable across
business lines.
(6) The risk-adjusted efficiency ratio is defined as noninterest expense plus
the cost of capital divided by revenues (net interest income and
noninterest income) less normalized loan losses.
13
The following describes the major business units.
The Retail Distribution Group sells and services a complete line of retail
financial products for consumers and small businesses. In addition to the
24-hour Telephone Banking Centers and Wells Fargo's Online Financial Services
(the Company's personal computer banking services), the Group encompasses
Physical Distribution's network of traditional branches, in-store branches,
banking centers, business centers and ATMs. Retail Distribution also
includes the consumer checking business, which primarily uses the network as
a source of new customers.
As of June 30, 1998, the Company had 855 traditional branches, 570 in-store
branches, 373 banking centers and 34 business centers. Motor banking
facilities ("motorbanks") were available at 43 of the traditional branches.
There were 4,632 ATMs as of June 30, 1998.
Retail Distribution Group's net income for the quarter and six months ended
June 30, 1998 increased $12 million, or 28%, and $2 million, or 3%,
respectively. Net interest income for both periods declined largely due to
lower spreads on core deposits, partially offset by lower nonearning asset
(predominantly cash) balances. The increase in noninterest income for the
second quarter reflected higher consumer checking fees and service charges
and lower losses on the disposition of premises due to branch closures,
partially offset by lower sales and service charges to the product groups.
Noninterest income for the first six months of 1998 was lower primarily due
to higher losses on the disposition of premises due to branch closures.
Noninterest expense in both time periods improved due to branch closures and
merger-related cost savings.
The Business Banking Group provides a full range of credit products and
financial services to small businesses and their owners. These include lines
of credit, receivables and inventory financing, equipment loans and leases,
real estate financing, SBA financing, cash management, deposit and investment
accounts, payroll services, medical savings accounts and credit and debit
card processing. Business Banking customers are small businesses with annual
sales up to $10 million in which the owner of the business is also the
principal financial decision maker.
Business Banking's net income for the quarter and six months ended June 30,
1998 increased $2 million, or 3%, and $8 million, or 6%, respectively. The
increase in net interest income in both periods was due to higher volume and
spreads on commercial loans, partially offset by lower core deposit balances
and spreads. Noninterest income in both periods increased due to higher fees
on loans. Noninterest expense improved for the first six months due to lower
costs in the direct market lending area.
The Investment Group is responsible for the sales and management of savings
and investment products, investment management and fiduciary and brokerage
services to institutions, retail customers and high net worth individuals.
This includes the Stagecoach family of mutual funds as well as personal
trust, employee benefit trust and agency assets. It also includes product
management for market rate accounts, savings deposits, Individual Retirement
Accounts (IRAs) and time deposits. Within this Group, Private Client
Services operates as a fully integrated
14
financial services organization focusing on banking/credit, trust services,
investment management and full-service and discount brokerage.
The Group also includes Wells Capital Management, a registered investment
adviser and wholly owned subsidiary of the Bank. Wells Capital Management
provides investment management services to institutional clients as well as
the Bank's proprietary trust funds.
In 1997, the Bank signed a definitive agreement to sell its Institutional
Custody businesses to The Bank of New York and its affiliate, BNY Western
Trust Company. Transfer of accounts occurred in several stages, the first of
which was in the third quarter of 1997, and was completed in the second
quarter of 1998.
Also in 1997, the Bank entered into an alliance with Morgan Stanley Dean
Witter & Co., whereby Dean Witter provides technology, investment products,
services and sales and marketing support to Wells Fargo Securities and its
full-service brokerage clients. All of these services are now available to
Wells Fargo customers under private label.
In addition, the Bank entered into an alliance in December 1997 with BHC
Securities as its clearing broker which allows Wells Fargo Securities'
on-line brokerage (Wells Trade) to offer a broad range of investment products
to customers through the Internet and telephone channels.
Assets under management at June 30, 1998 were $67.6 billion, compared with
$59.2 billion at June 30, 1997.
The Investment Group's net income for the quarter and six months ended June
30, 1998 declined by $10 million, or 10%, and $19 million, or 9%,
respectively. Net interest income decreased in both periods due to lower
core deposit balances and spreads, which were partially offset in the first
six months by interest recoveries on loans previously charged off. The
increase in noninterest income for both periods was largely due to higher fee
income in the mutual funds, trust and brokerage areas and gains on the sale
of the Institutional Custody businesses. This was primarily offset by the
loss of ongoing fee income related to the businesses sold during 1997. The
increase in noninterest expense in both periods reflects higher sales force
growth and sales in the brokerage business which was partially offset by cost
savings realized after the sale of the Corporate Trust and Institutional
Custody businesses.
The Real Estate Group provides a complete line of services supporting the
commercial real estate market. Products and services include construction
loans for commercial and residential development, land acquisition and
development loans, secured and unsecured lines of credit, interim financing
arrangements for completed structures, rehabilitation loans, affordable
housing loans and letters of credit. Secondary market services are provided
through the Real Estate Capital Markets Group. Its business includes senior
loan financing, mezzanine financing, financing for leveraged transactions,
purchasing distressed real estate loans and high yield debt, origination of
permanent loans for securitization, loan syndications and commercial real
estate loan servicing.
15
The Real Estate Group's net income for the second quarter of 1998 increased
$39 million, or 91%. Net income for the six months ended June 30, 1998
increased $52 million, or 50%. Net interest income for both periods
increased primarily due to higher interest recoveries on loans where interest
had previously been applied to principal and higher average loan and
investment security balances. This was partially offset by narrower spreads
on loans. Noninterest income was higher in both periods primarily due to
gains from the securitization of loans as well as higher Acquisition,
Development and Construction (ADC) investment income, gains from investment
securities and income from equity investments. Noninterest expense for the
second quarter decreased due to higher foreclosed asset gains in 1998.
Noninterest expense for the first six months increased due to lower
foreclosed asset gains and higher incentive compensation expense partially
offset by lower operating losses.
The Wholesale Products Group serves businesses with annual sales in excess of
$5 million and maintains relationships with major corporations throughout the
United States. The Group is responsible for soliciting and maintaining
credit and noncredit relationships with businesses by offering a variety of
products and services, including traditional commercial loans and lines,
letters of credit, international trade facilities, foreign exchange services,
cash management and electronic products. The Group includes the majority
ownership interest in the Wells Fargo HSBC Trade Bank, which provides trade
and Eximbank (a public corporation offering export finance support programs
for American-made products) financing, letters of credit and collection
services.
Wholesale Products Group's net income in the second quarter of 1998 increased
$2 million, or 3%. Net income for the six months ended June 30, 1998
decreased $14 million, or 8%. Net interest income for both periods declined
due to lower core deposit balances and spreads. A significant portion of the
increase in noninterest income for both periods was due to higher income from
service charges on deposit accounts, foreign exchange and trust and
investment services. Noninterest expense for the second quarter decreased
primarily due to lower operating losses in 1998. A significant portion of
the increase in noninterest expense for the six months ended June 30, 1998
was due to expense recoveries in 1997 which were partially offset by lower
operating losses in 1998.
Consumer Lending offers a full array of consumer loan products, including
credit cards, transportation (auto, recreational vehicle, marine) financing,
home equity lines and loans, lines of credit and installment loans. The loan
portfolio for the second quarter averaged $22.2 billion, consisting of $4.6
billion in credit cards, $10.5 billion in equity/unsecured loans and $7.1
billion in transportation financing. This compares with $5.2 billion in
credit cards, $11.4 billion in equity/unsecured loans and $7.0 billion in
transportation financing in the second quarter of 1997.
In June 1998, the Company sold its mortgage servicing business to GMAC
Mortgage Corporation. (See page 22 for additional information.)
Consumer Lending's net income for the quarter and six months ended June 30,
1998 increased $26 million, or 29%, and $50 million, or 29%, respectively.
Net interest income for both
16
periods decreased due to lower credit card and equity/unsecured loan balances
and higher interest losses related to an increase in loans charged off in the
consumer portfolio which were partially offset by higher spreads on credit
cards and higher auto lease volume. The increase in noninterest income for
both periods was predominantly due to the gain on the sale of the mortgage
servicing business and higher fee income on credit cards which was partially
offset by a write-down of auto lease residuals.
The Other category includes the Company's 1-4 family first mortgage
portfolio, the investment securities portfolio, goodwill and the
nonqualifying core deposit intangible, the difference between the normalized
provision for the line groups and the Company provision for loan losses, the
net impact of transfer pricing loan and deposit balances, the cost of
external debt, the elimination of intergroup noninterest income and expense,
and any residual effects of unallocated systems and other support groups. It
also includes the impact of asset/liability strategies the Company has put in
place to manage interest rate sensitivity.
The net loss for the Other category for the quarter and six months ended June
30, 1998 decreased by $38 million from 1997, or 19%, and $5 million, or 2%,
respectively. Net interest income for both periods reflects lower funding
costs, partially offset by the impact of lower investment securities and
lower first mortgage balances. Noninterest expense for both periods improved
due to lower operating losses related to resolving various merger-related
operations and back office issues and other merger-related cost savings in
the systems and other support groups.
In 1997, the Financial Accounting Standards Board (FASB) issued FAS 131,
Disclosures about Segments of an Enterprise and Related Information. The
Statement requires that a public business enterprise report financial and
descriptive information about its reportable operating segments on the basis
that is used internally for evaluating segment performance and deciding how
to allocate resources to segments. While that is the basis of the above line
of business presentation, this Statement requires it to be part of the annual
audited financial statements effective year-end 1998.
EARNINGS PERFORMANCE
NET INTEREST INCOME
Individual components of net interest income and the net interest margin are
presented in the rate/yield table on pages 18 and 19.
17
AVERAGE BALANCES, YIELDS AND RATES PAID (TAXABLE-EQUIVALENT BASIS) (1) (2)
- ---------------------------------------------------------------------------------------------------------------------------------
Quarter ended June 30,
-------------------------------------------------------------------
1998 1997
------------------------------ -------------------------------
INTEREST Interest
AVERAGE YIELDS/ INCOME/ Average Yields/ income/
(in millions) BALANCE RATES EXPENSE balance rates expense
- ---------------------------------------------------------------------------------------------------------------------------------
EARNING ASSETS
Federal funds sold and securities purchased
under resale agreements $ 689 5.63% $ 10 $ 451 5.67% $ 6
Securities available for sale (3):
U.S. Treasury securities 2,086 6.12 32 2,688 6.06 41
Securities of U.S. government agencies
and corporations 3,331 6.56 54 5,926 6.44 96
Private collateralized mortgage obligations 2,246 6.66 37 2,939 6.64 49
Other securities 494 7.07 8 322 6.50 4
-------- ------ -------- ------
Total securities available for sale 8,157 6.51 131 11,875 6.40 190
Loans:
Commercial 20,657 8.96 462 18,432 9.10 418
Real estate 1-4 family first mortgage 8,123 7.45 151 9,927 7.53 187
Other real estate mortgage 11,788 9.98 293 11,573 9.23 266
Real estate construction 2,456 9.56 59 2,262 10.03 57
Consumer:
Real estate 1-4 family junior lien mortgage 5,478 9.35 128 6,035 9.37 141
Credit card 4,555 15.28 174 5,164 14.44 186
Other revolving credit and monthly payment 6,844 9.02 154 7,835 9.35 183
-------- ------ -------- ------
Total consumer 16,877 10.82 456 19,034 10.74 510
Lease financing 4,368 8.63 94 3,264 8.65 71
Foreign 128 7.48 2 126 6.43 2
-------- ------ -------- ------
Total loans 64,397 9.44 1,517 64,618 9.37 1,511
Other 1,225 7.19 21 721 6.84 13
-------- ------ -------- ------
Total earning assets $ 74,468 9.05 1,679 $ 77,665 8.87 1,720
-------- ------ -------- ------
-------- --------
FUNDING SOURCES
Deposits:
Interest-bearing checking $ 1,770 1.37 6 $ 1,895 1.33 6
Market rate and other savings 30,393 2.67 202 32,519 2.60 211
Savings certificates 14,966 5.10 190 15,669 5.09 199
Other time deposits 215 4.69 3 165 4.51 2
Deposits in foreign offices 136 4.95 2 833 5.45 11
-------- ------ -------- ------
Total interest-bearing deposits 47,480 3.40 403 51,081 3.37 429
Federal funds purchased and securities sold
under repurchase agreements 1,536 5.35 20 2,492 5.42 34
Commercial paper and other short-term borrowings 248 6.27 4 216 7.11 4
Senior debt 1,733 6.27 27 1,751 6.36 28
Subordinated debt 2,686 6.80 46 2,884 6.94 50
Guaranteed preferred beneficial interests in Company's
subordinated debentures 1,299 7.81 25 1,299 7.81 25
-------- ------ -------- ------
Total interest-bearing liabilities 54,982 3.83 525 59,723 3.83 570
Portion of noninterest-bearing funding sources 19,486 -- -- 17,942 -- --
-------- ------ -------- ------
Total funding sources $ 74,468 2.83 525 $ 77,665 2.94 570
-------- ------ -------- ------
-------- --------
NET INTEREST MARGIN AND NET INTEREST INCOME ON
A TAXABLE-EQUIVALENT BASIS (4) 6.22% $1,154 5.93% $1,150
----- ------ ----- ------
----- ------ ----- ------
NONINTEREST-EARNING ASSETS
Cash and due from banks $ 6,453 $ 7,654
Goodwill 6,902 7,271
Other 5,325 7,149
-------- --------
Total noninterest-earning assets $ 18,680 $ 22,074
-------- --------
-------- --------
NONINTEREST-BEARING FUNDING SOURCES
Deposits $ 22,678 $ 23,441
Other liabilities 2,686 3,273
Preferred stockholders' equity 275 371
Common stockholders' equity 12,527 12,931
Noninterest-bearing funding sources used to
fund earning assets (19,486) (17,942)
-------- --------
Net noninterest-bearing funding sources $ 18,680 $ 22,074
-------- --------
-------- --------
TOTAL ASSETS $ 93,148 $ 99,739
-------- --------
-------- --------
- ---------------------------------------------------------------------------------------------------------------------------------
(1) The average prime rate of Wells Fargo Bank was 8.50% for the quarters ended
June 30, 1998 and 1997 and 8.50% and 8.38% for the six months ended June
30, 1998 and 1997, respectively. The average three-month London Interbank
Offered Rate (LIBOR) was 5.69% and 5.81% for the quarters ended June 30,
1998 and 1997, respectively, and 5.68% and 5.69% for the six months ended
June 30, 1998 and 1997, respectively.
(2) Interest rates and amounts include the effects of hedge and risk management
activities associated with the respective asset and liability categories.
(3) Yields are based on amortized cost balances. The average amortized cost
balances for securities available for sale totaled $8,065 million and
$11,897 million for the quarters ended June 30, 1998 and 1997,
respectively, and $8,541 million and $12,503 million for the six months
ended June 30, 1998 and 1997, respectively.
(4) Includes taxable-equivalent adjustments that primarily relate to income on
certain loans and securities that is exempt from federal and applicable
state income taxes. The federal statutory tax rate was 35% for all periods
presented.
18
- ----------------------------------------------------------------
Six months ended June 30,
- ----------------------------------------------------------------
1998 1997
- ------------------------------ -----------------------------
INTEREST Interest
AVERAGE YIELDS/ INCOME/ Average Yields/ income/
BALANCE RATES EXPENSE balance rates expense
- ----------------------------------------------------------------
$ 559 5.65% $ 16 $ 413 5.56% $ 11
2,275 6.10 68 2,801 6.05 84
3,659 6.59 119 6,313 6.42 203
2,213 6.68 74 3,036 6.61 101
491 7.21 17 345 6.42 10
- -------- ------ -------- ------
8,638 6.52 278 12,495 6.38 398
20,340 9.04 913 18,419 9.04 827
8,394 7.47 313 10,080 7.47 376
11,961 9.58 569 11,562 10.06 576
2,398 9.61 114 2,280 9.89 112
5,598 9.44 262 6,102 9.34 283
4,694 15.13 355 5,247 14.25 374
6,961 9.08 314 8,052 9.30 372
- -------- ------ -------- ------
17,253 10.84 931 19,401 10.65 1,029
4,267 8.67 185 3,172 8.74 139
117 7.86 5 139 6.93 5
- -------- ------ -------- ------
64,730 9.41 3,030 65,053 9.47 3,064
1,187 7.32 43 713 6.55 24
- -------- ------ -------- ------
$ 75,114 9.02 3,367 $ 78,674 8.93 3,497
- -------- ------ -------- ------
- -------- --------
$ 1,748 1.42 12 $ 1,904 1.24 12
30,434 2.68 404 33,307 2.57 425
15,074 5.13 383 15,594 5.07 392
247 4.81 6 171 4.21 4
257 5.15 7 697 5.32 18
- -------- ------ -------- ------
47,760 3.43 812 51,673 3.32 851
2,256 5.41 61 2,459 5.30 65
354 6.07 10 223 6.06 6
1,822 6.29 57 1,876 6.27 58
2,632 6.95 91 2,911 6.93 101
1,299 7.80 51 1,275 7.83 50
- -------- ------ -------- ------
56,123 3.88 1,082 60,417 3.77 1,131
18,991 -- -- 18,257 -- --
- -------- ------ -------- ------
$ 75,114 2.91 1,082 $ 78,674 2.90 1,131
- -------- ------ -------- ------
- -------- --------
6.12% $2,285 6.03% $2,366
----- ------- ----- -------
----- ------- ----- -------
$ 6,629 $ 8,799
6,946 7,288
5,508 7,808
- -------- --------
$ 19,083 $ 23,895
- -------- --------
- -------- --------
$ 22,577 $ 24,757
2,705 3,819
275 459
12,517 13,117
(18,991) (18,257)
- -------- --------
$ 19,083 $ 23,895
- -------- --------
- -------- --------
$ 94,197 $102,569
- -------- --------
- -------- --------
- ----------------------------------------------------------------
19
Net interest income on a taxable-equivalent basis was $1,154 million in the
second quarter of 1998, compared with $1,150 million in the second quarter of
1997. The Company's net interest margin was 6.22% in the second quarter of
1998, compared with 5.93% in the second quarter of 1997 and 6.01% in the
first quarter of 1998. Net interest income on a taxable-equivalent basis was
$2,285 million in the first six months of 1998, compared with $2,366 million
in the first six months of 1997. The Company's net interest margin was 6.12%
in the first six months of 1998, compared with 6.03% in the first six months
of 1997. The Company expects the net interest margin to remain in the area
of 6.15% for the third quarter of 1998.
Interest income included hedging income of $20 million in the second quarter
of 1998, compared with $21 million in the second quarter of 1997. Interest
expense included hedging expense of $2 million in the second quarter of 1998,
compared with $3 million in the same quarter of 1997.
Loans averaged $64.4 billion in the second quarter of 1998, compared with
$64.6 billion in the second quarter of 1997 and $64.7 billion in the first
six months of 1998, compared with $65.1 billion in the first six months of
1997. The Company anticipates loan growth in the commercial portfolio in the
third quarter of 1998. This growth is expected to be offset by declines due
to decreased credit card marketing efforts and continuing run-off in the
residential mortgage and direct auto loan portfolios, where the Company has
withdrawn from the business of being an active originator.
Securities available for sale averaged $8.2 billion during the second quarter
of 1998, compared with $11.9 billion in the second quarter of 1997, and $8.6
billion in the first six months of 1998, compared with $12.5 billion in the
first six months of 1997. The decrease was predominantly due to maturities.
Average core deposits were $69.8 billion and $73.5 billion in the second
quarter of 1998 and 1997, respectively, and funded 75% and 74% of the
Company's average total assets in the second quarter of 1998 and 1997,
respectively. For the first six months of 1998 and 1997, average core
deposits were $69.8 billion and $75.6 billion, respectively, and funded 74%
of the Company's average total assets in both periods. The decrease in
average core deposits from the second quarter of 1997 was largely due to net
run-off. In addition, a significant portion of the decrease was due to sales
of branches in 1997, including $1.6 billion of core deposits.
20
NONINTEREST INCOME
- -----------------------------------------------------------------------------------------------------------------------------
Quarter Six months
ended June 30, ended June 30,
-------------- % ------------------- %
(in millions) 1998 1997 Change 1998 1997 Change
- -----------------------------------------------------------------------------------------------------------------------------
Fees and commissions:
Credit card membership and other credit card fees $ 62 $ 55 13 % $ 129 $ 100 29 %
ATM network fees 50 43 16 94 82 15
Charges and fees on loans 43 33 30 83 64 30
Debit and credit card merchant fees 25 24 4 47 46 2
Mutual fund and annuity sales fees 23 16 44 43 32 34
All other (1) 69 63 10 131 124 6
---- ---- ------ ------
Total fees and commissions 272 234 16 527 448 18
Service charges on deposit accounts 222 214 4 430 434 (1)
Trust and investment services income:
Asset management and custody fees 63 61 3 125 122 2
Mutual fund management fees 46 45 2 91 84 8
All other 5 6 (17) 12 15 (20)
---- ---- ------ ------
Total trust and investment services income 114 112 2 228 221 3
Investment securities gains 18 3 500 23 7 229
Income from equity investments accounted for by the:
Cost method 34 40 (15) 83 91 (9)
Equity method 16 15 7 31 30 3
Check printing charges 21 18 17 38 36 6
Gains on sales of loans 17 7 143 53 13 308
Gains from dispositions of operations 74 1 -- 71 8 788
Losses on dispositions of premises and equipment (42) (6) 600 (51) (36) 42
All other (11) 41 -- 27 67 (60)
---- ---- ------ ------
Total $735 $679 8 % $1,460 $1,319 11 %
---- ---- ---- ------ ------ ----
---- ---- ---- ------ ------ ----
- -----------------------------------------------------------------------------------------------------------------------------
(1) Includes mortgage loan servicing fees totaling $16 million and $25 million
for purchased mortgage servicing rights for the quarters ended June 30,
1998 and 1997, respectively, and $39 million and $49 million for the six
months ended June 30, 1998 and 1997, respectively. Also includes the
related amortization expense of $12 million and $18 million for the
quarters ended June 30, 1998 and 1997, respectively, and $30 million and
$35 million for the six months ended June 30, 1998 and 1997, respectively.
Fees and commissions increased $38 million, or 16%, from the second
quarter of 1997 reflecting increased fees in all major business units.
The increase in trust and investment services income for the first half
of 1998 reflected the growth in assets under management from $59.2
billion at June 30, 1997 to $67.6 billion at June 30, 1998. The
majority of this increase was offset by a reduction in income due to
the sale of the Corporate Trust and the Institutional Custody
businesses to The Bank of New York and its affiliate, BNY Western Trust
Company. Trust and investment services income for the second quarter
and first half of 1998 generated by the Corporate Trust and
Institutional Custody businesses was approximately $.2 million and $.6
million, respectively, and $6.6 million and $16.4 million for the
second quarter and first half of 1997, respectively. In the fourth
quarter of 1997, the Overland Express Funds totaling $5.6 billion were
merged into the Stagecoach family of mutual funds. The assets and fees
generated are not expected to change significantly as a result of the
merging of the two families of funds. The Company managed 38 mutual
funds consisting of $24.7 billion of assets at June 30, 1998, compared
with 42 mutual funds
21
consisting of $20.3 billion of assets (including 14 Overland Express Funds
consisting of $5.3 billion of assets) at June 30, 1997. In addition to
managing Stagecoach Funds, the Company also managed or maintained personal
trust, employee benefit trust and agency assets of approximately $126 billion
and $208 billion at June 30, 1998 and 1997, respectively. The decrease in
assets managed and maintained was due to the sale of the Institutional
Custody businesses.
The increase in gains on sales of loans was primarily due to gains from the
securitization of commercial mortgage loans.
In June 1998, the Company sold its mortgage servicing business to GMAC Mortgage
Corporation. Of the resulting pre-tax gain, $58 million was included in gains
from dispositions of operations in the second quarter, while the remainder of
approximately $5 million will be recorded in the third quarter when certain
conditions are met. Pre-tax income from the mortgage servicing business was $3
million and $7 million in the second quarter and first half of 1998,
respectively, compared with $4 million and $6 million in the same periods of
1997.
At December 31, 1997, the Company had a liability of $48 million related to the
disposition of premises and, to a lesser extent, severance and miscellaneous
expenses associated with 65 branches not acquired as a result of the acquisition
of First Interstate Bancorp (First Interstate) or with First Interstate branches
that were identified in the fourth quarter of 1997 for closure in 1998. Of this
amount, $21 million represented the balance of the fourth-quarter 1996 accrual
related to 32 traditional branches in California and $27 million represented the
fourth-quarter 1997 accrual for the disposition of 33 traditional branches
located mostly outside of California. Of the total 65 branches, 28 branches
were closed in the first half of 1998, including 25 in the second quarter of
1998. In the second quarter of 1998, the Company evaluated the remaining 37
scheduled branch closures and decided to retain 25 branches, which resulted in
reducing the liability by $14 million. The decision was made based on numerous
factors, including the need to maintain customer service levels, particularly
given the earlier unstable operating environment associated with integrating
First Interstate, as well as the review of profitability analyses demonstrating
increased customer usage and improved profitability for these 25 branches.
These developments were not anticipated or foreseen at the time these
accruals were originally recorded. The remaining balance of $19 million at
June 30, 1998 is for the expected closure of 12 branches by year-end 1998.
(See Note to Financial Statements for other, former First Interstate branch
dispositions.)
A major portion of the increase in losses on dispositions of premises and
equipment was due to accrued losses on the expected sales of a warehouse and
an office building, which closed or are scheduled to close in the third
quarter.
"All other" noninterest income in the second quarter of 1998 included a
$33 million write-down of auto lease residuals for those leases expected to go
to the end of their term over the next eighteen months.
22
At June 30, 1998, the Company had 855 traditional branches, 570 in-store
branches, 373 banking centers and 34 business centers. Motor banking facilities
("motorbanks") were available at 43 of the traditional branches.
NONINTEREST EXPENSE
- ------------------------------------------------------------------------------------------------------------------------------
Quarter Six months
ended June 30, ended June 30,
--------------------- % --------------------- %
(in millions) 1998 1997 Change 1998 1997 Change
- ------------------------------------------------------------------------------------------------------------------------------
Salaries $ 303 $ 316 (4)% $ 608 $ 656 (7)%
Incentive compensation 61 49 24 114 89 28
Employee benefits 80 81 (1) 171 176 (3)
Equipment 100 98 2 197 192 3
Net occupancy 98 95 3 199 196 2
Goodwill 81 81 -- 162 164 (1)
Core deposit intangible:
Nonqualifying (1) 51 59 (14) 103 113 (9)
Qualifying 6 8 (25) 14 16 (13)
Operating losses 25 180 (86) 56 222 (75)
Contract services 68 59 15 133 115 16
Telecommunications 33 36 (8) 64 73 (12)
Security 19 22 (14) 40 44 (9)
Postage 18 22 (18) 37 45 (18)
Outside professional services 29 21 38 48 36 33
Advertising and promotion 33 21 57 54 34 59
Stationery and supplies 12 16 (25) 26 36 (28)
Travel and entertainment 17 15 13 33 29 14
Check printing 12 14 (14) 24 30 (20)
Outside data processing 17 13 31 30 26 15
Foreclosed assets (5) 5 -- (1) (4) (75)
All other 39 35 11 77 75 3
------ ------ ------ ------
Total $1,097 $1,246 (12)% $2,189 $2,363 (7)%
------ ------ --- ------ ------ --
------ ------ --- ------ ------ --
- ------------------------------------------------------------------------------------------------------------------------------
(1) Amortization of core deposit intangible acquired after February 1992 that
is subtracted from stockholders' equity in computing regulatory capital for
bank holding companies.
Salaries expense decreased $13 million and $48 million in the second quarter and
first half of 1998, respectively, due to reduced staff levels. The Company's
active full-time equivalent (FTE) staff, including hourly employees, was 31,620
at June 30, 1998, compared with 33,216 at June 30, 1997.
Goodwill and CDI amortization resulting from the acquisition of First Interstate
on April 1, 1996 were $72 million and $51 million, respectively, for the quarter
ended June 30, 1998, compared with $73 million and $59 million, respectively,
for the quarter ended June 30, 1997. The core deposit intangible is amortized on
an accelerated basis based on an estimated useful life of 15 years. The impact
on noninterest expense from the amortization of the nonqualifying core deposit
intangible in 1998, 1999 and 2000 is expected to be $199 million, $178 million
and $162 million, respectively. The related impact on income tax expense is
expected to be a benefit of $81 million, $72 million and $66 million in 1998,
1999 and 2000, respectively.
23
The Company has determined that a significant number of its computer software
applications will need to be reprogrammed or, to a far lesser extent,
replaced in order to maintain their functionality as the year 2000
approaches. A comprehensive plan has been developed, with system conversions
and testing to be substantially completed by December 31, 1998. Additionally,
the Company continues to communicate with significant customers and vendors
to determine the extent of risk created by those third parties' failure to
remediate their own Year 2000 issue. However, it is not possible, at
present, to determine the financial effect if significant customer and vendor
remediation efforts are not resolved in a timely manner.
Cumulative charges to date to noninterest expense for incremental costs
associated with the Year 2000 issue were approximately $53 million, including
$23 million in the second quarter of 1998, $20 million in the first quarter
of 1998 and $10 million in 1997. The Company currently estimates that it
will incur (and expense) additional incremental, out-of-pocket costs in the
area of $70 million. Other costs associated with the redeployment of
internal systems technology resources to the Year 2000 issue are expected to
be significantly less than the incremental costs.
In February 1998, the FASB issued FAS 132, Employers' Disclosures about Pensions
and Other Postretirement Benefits, which will be effective for the year-end 1998
financial statements. FAS 132 only addresses disclosure issues; it does not
address measurement and recognition of pensions and other postretirement
benefits. FAS 132 requires the reconciliation of changes in benefit obligation
and plan assets for both pensions and other postretirement benefits, showing the
effects of the major components separately for each reconciliation. FAS 132
will be adopted at year-end 1998 and is not expected to materially change the
Company's current pension and other postretirement disclosures.
24
EARNINGS/RATIOS EXCLUDING GOODWILL AND NONQUALIFYING CDI
The following table reconciles reported earnings to net income excluding
goodwill and nonqualifying core deposit intangible ("cash" or "tangible") for
the quarter ended June 30, 1998:
- -----------------------------------------------------------------------------------------------
Quarter ended
(in millions) June 30, 1998
- -----------------------------------------------------------------------------------------------
Amortization
-----------------------
Nonqualifying
Reported core deposit "Cash"
earnings Goodwill intangible earnings
- -----------------------------------------------------------------------------------------------
Income before income tax expense $ 619 $ 81 $ 51 $ 751
Income tax expense 282 -- 21 303
----- ---- ---- -----
Net income 337 81 30 448
Preferred stock dividends 4 -- -- 4
----- ---- ---- -----
Net income applicable to common stock $ 333 $ 81 $ 30 $ 444
----- ---- ---- -----
----- ---- ---- -----
Earnings per common share $3.91 $.95 $.35 $5.21
----- ---- ---- -----
----- ---- ---- -----
Diluted earnings per common share $3.87 $.94 $.34 $5.15
----- ---- ---- -----
----- ---- ---- -----
- -----------------------------------------------------------------------------------------------
The ROA, ROE and efficiency ratios excluding goodwill and nonqualifying core
deposit intangible amortization and balances for the quarter ended June 30, 1998
were calculated as follows:
- ------------------------------------------------------------------------------------------------
Quarter ended
(in millions) June 30, 1998
- ------------------------------------------------------------------------------------------------
ROA: A*/ (C-E) = 2.11%
ROE: B*/ (D-E) = 37.78%
Efficiency: (F-G) / H = 51.20%
Net income $ 448(A)
Net income applicable to common stock 444(B)
Average total assets 93,148(C)
Average common stockholders' equity 12,527(D)
Average goodwill ($6,902) and after-tax nonqualifying core deposit intangible ($913) 7,815(E)
Noninterest expense 1,097(F)
Amortization expense for goodwill and nonqualifying core deposit intangible 132(G)
Net interest income plus noninterest income 1,886(H)
- ------------------------------------------------------------------------------------------------
* Annualized
These calculations were specifically formulated by the Company and may not be
comparable to similarly titled measures reported by other companies. Also,
"cash" or "tangible" earnings are not entirely available for use by management.
See the Consolidated Statement of Cash Flows on page 5 for other information
regarding funds available for use by management.
25
BALANCE SHEET ANALYSIS
INVESTMENT SECURITIES
The following table provides the cost and fair value for the major components
of securities available for sale (there were no securities held to maturity
at the end of the periods presented):
- -----------------------------------------------------------------------------------------------------------------------------
JUNE 30, December 31, June 30,
1998 1997 1997
--------------------- --------------------- ----------------------
ESTIMATED Estimated Estimated
FAIR fair fair
(in millions) COST VALUE Cost value Cost value
- -----------------------------------------------------------------------------------------------------------------------------
U.S. Treasury securities $1,934 $1,948 $2,535 $2,549 $ 2,613 $ 2,618
Securities of U.S. government
agencies and corporations (1) 3,105 3,139 4,390 4,425 5,696 5,711
Private collateralized mortgage
obligations (2) 2,830 2,836 2,390 2,396 2,897 2,884
Other 412 429 441 453 261 262
------ ------ ------ ------ ------- -------
Total debt securities 8,281 8,352 9,756 9,823 11,467 11,475
Marketable equity securities 57 97 40 65 26 55
------ ------ ------ ------ ------- -------
Total $8,338 $8,449 $9,796 $9,888 $11,493 $11,530
------ ------ ------ ------ ------- -------
------ ------ ------ ------ ------- -------
- -----------------------------------------------------------------------------------------------------------------------------
(1) All securities of U.S. government agencies and corporations are mortgage-
backed securities.
(2) Substantially all private collateralized mortgage obligations (CMOs) are
AAA rated bonds collateralized by 1-4 family residential first mortgages.
The securities available for sale portfolio includes both debt and marketable
equity securities. At June 30, 1998, the securities available for sale
portfolio had an unrealized net gain of $111 million, or less than 2% of the
cost of the portfolio, comprised of unrealized gross gains of $121 million
and unrealized gross losses of $10 million. At December 31, 1997, the
securities available for sale portfolio had an unrealized net gain of $92
million, comprised of unrealized gross gains of $112 million and unrealized
gross losses of $20 million. At June 30, 1997, the securities available for
sale portfolio had an unrealized net gain of $37 million, comprised of
unrealized gross gains of $84 million and unrealized gross losses of $47
million. The unrealized net gain or loss on securities available for sale is
included as a separate component of cumulative other comprehensive income in
stockholders' equity. At June 30, 1998, the amount included in cumulative
other comprehensive income on a net of tax basis was an unrealized net gain
of $66 million, compared with $55 million at December 31, 1997 and $22
million at June 30, 1997.
The major portion of the unrealized net gain in the securities available for
sale portfolio at June 30, 1998 was due to investments in mortgage-backed
securities. This unrealized net gain reflected current interest rates that
were lower than those at the time the investments were purchased. The
Company may decide to sell certain of the securities available for sale to
manage the level of earning assets (for example, to offset loan growth that
may exceed expected maturities and prepayments of securities).
26
Realized gross gains resulting from the sale of securities available for sale
were $23 million and $8 million in the first half of 1998 and 1997,
respectively. Realized gross losses were none and $1 million in the first
half of 1998 and 1997, respectively.
The following table provides the expected remaining maturities and yields
(taxable-equivalent basis) of debt securities within the investment portfolio.
- ----------------------------------------------------------------------------------------------------------------------------------
June 30, 1998
-------------------------------------------------------------------------------------------------------
Expected remaining principal maturity
-------------------------------------------------------------------------------------------------------
Weighted
average
expected After one year After five years
Weighted remaining Within one year through five years through ten years After ten years
Total average maturity --------------- ------------------ ----------------- ---------------
(in millions) amount yield (in yrs.-mos.) Amount Yield Amount Yield Amount Yield Amount Yield
- ----------------------------------------------------------------------------------------------------------------------------------
U.S. Treasury securities $1,934 6.10% 1-1 $1,152 6.07% $ 781 6.15% $ 1 6.70% $ -- --%
Securities of U.S.
government agencies and
corporations 3,105 6.71 2-2 1,409 7.03 1,368 6.44 270 6.78 58 5.23
Private collateralized
mortgage obligations 2,830 6.58 1-9 1,353 6.87 1,287 6.26 167 6.08 23 10.50
Other 412 7.81 4-9 47 6.48 209 7.54 114 8.49 42 8.79
------ ------ ------ ---- ----
TOTAL COST OF DEBT
SECURITIES(1) $8,281 6.58% 1-11 $3,961 6.69% $3,645 6.38% $552 6.92% $123 7.43%
------ ---- ---- ------ ---- ------ ---- ---- ---- ---- ----
------ ---- ---- ------ ---- ------ ---- ---- ---- ---- ----
ESTIMATED FAIR VALUE $8,352 $3,982 $3,684 $557 $129
------ ------ ------ ---- ----
------ ------ ------ ---- ----
- ----------------------------------------------------------------------------------------------------------------------------------
(1) The weighted average yield is computed using the amortized cost of
securities available for sale.
The weighted average expected remaining maturity of the debt securities
portfolio was 1 year and 11 months at June 30, 1998, compared with 1 year and 11
months at December 31, 1997 and 2 years and 2 months at June 30, 1997. The
short-term debt securities portfolio serves to maintain asset liquidity and to
fund loan growth.
At June 30, 1998, mortgage-backed securities included in securities of U.S.
government agencies and corporations primarily consisted of pass-through
securities and collateralized mortgage obligations (CMOs) and all were issued
or backed by federal agencies. These securities, along with the private
CMOs, represented $5,975 million, or 71%, of the Company's securities
available for sale portfolio at June 30, 1998. The CMO securities held by
the Company (including the private issues) are primarily shorter-maturity
class bonds that were structured to have more predictable cash flows by being
less sensitive to prepayments during periods of changing interest rates. As
an indication of interest rate risk, the Company has estimated the impact of
a 200 basis point increase in interest rates on the value of the
mortgage-backed securities and the corresponding expected remaining
maturities. Based on this rate scenario, mortgage-backed securities would
decrease in fair value from $5,975 million to $5,778 million and the expected
remaining maturity of these securities would increase from 1 year and 11
months to 2 years and 6 months.
27
LOAN PORTFOLIO
- -----------------------------------------------------------------------------------------------------------------------------
% Change
June 30, 1998 from
-----------------------
JUNE 30, Dec. 31, June 30, Dec. 31, June 30,
(in millions) 1998 1997 1997 1997 1997
- -----------------------------------------------------------------------------------------------------------------------------
Commercial (1)(2) $21,268 $20,144 $19,464 6 % 9 %
Real estate 1-4 family first mortgage 7,863 8,869 9,757 (11) (19)
Other real estate mortgage (3) 11,452 12,186 11,747 (6) (3)
Real estate construction 2,499 2,320 2,378 8 5
Consumer:
Real estate 1-4 family junior lien mortgage 5,413 5,865 6,008 (8) (10)
Credit card (4) 4,472 5,039 5,090 (11) (12)
Other revolving credit and monthly payment 6,757 7,185 7,749 (6) (13)
------- ------- -------
Total consumer 16,642 18,089 18,847 (8) (12)
Lease financing 4,458 4,047 3,373 10 32
Foreign 138 79 123 75 12
------- ------- -------
Total loans (net of unearned income,
including net deferred loan fees,
of $850, $832 and $712) $64,320 $65,734 $65,689 (2)% (2)%
------- ------- ------- --- ---
------- ------- ------- --- ---
- -----------------------------------------------------------------------------------------------------------------------------
(1) Includes loans (primarily unsecured) to real estate developers and real
estate investment trusts (REITs) of $1,961 million, $1,772 million and
$1,129 million at June 30, 1998, December 31, 1997 and June 30, 1997,
respectively.
(2) Includes agricultural loans (loans to finance agricultural production and
other loans to farmers) of $1,549 million, $1,599 million and
$1,393 million at June 30, 1998, December 31, 1997 and June 30, 1997,
respectively.
(3) Includes agricultural loans that are secured by real estate of
$356 million, $343 million and $325 million at June 30, 1998,
December 31, 1997 and June 30, 1997, respectively.
(4) As a result of reevaluating its credit card lending strategies, the Company
has decided to make available for sale certain accounts within the credit
card portfolio. Accordingly, approximately $721 million of primarily
out-of-franchise territory accounts are considered held for sale as of
June 30, 1998. As a result of an accepted bid, $280 million of this
portfolio is expected to be sold at a gain in the third quarter. The
remaining portion continues to be available for sale. If sold, it is
anticipated that a loss (charge-off) would result due to the credit
quality of this portion, which has been provided for in the allocation of
the allowance for loan losses. The Company intends to hold the remaining
credit card portfolio for the foreseeable future.
The table below presents comparative period-end commercial real estate loans.
- -----------------------------------------------------------------------------------------------------------------------------
% Change
June 30, 1998 from
----------------------
JUNE 30, Dec. 31, June 30, Dec. 31, June 30,
(in millions) 1998 1997 1997 1997 1997
- -----------------------------------------------------------------------------------------------------------------------------
Commercial loans to real
estate developers and REITs (1) $ 1,961 $ 1,772 $ 1,129 11 % 74 %
Other real estate mortgage 11,452 12,186 11,747 (6) (3)
Real estate construction 2,499 2,320 2,378 8 5
------- ------- -------
Total $15,912 $16,278 $15,254 (2)% 4 %
------- ------- ------- -- --
------- ------- ------- -- --
Nonaccrual loans $ 244 $ 252 $ 303 (3)% (19)%
------- ------- ------- -- --
------- ------- ------- -- --
Nonaccrual loans as a % of total 1.5% 1.5% 2.0%
------- ------- -------
------- ------- -------
- -----------------------------------------------------------------------------------------------------------------------------
(1) Included in commercial loans.
28
NONACCRUAL AND RESTRUCTURED LOANS AND OTHER ASSETS (1)
- -----------------------------------------------------------------------------------------------
JUNE 30, Dec. 31, June 30,
(in millions) 1998 1997 1997
- -----------------------------------------------------------------------------------------------
Nonaccrual loans:
Commercial (2)(3) $165 $155 $179
Real estate 1-4 family first mortgage 88 104 102
Other real estate mortgage (4) 213 228 283
Real estate construction 30 23 19
Consumer:
Real estate 1-4 family junior lien mortgage 18 17 17
Other revolving credit and monthly payment 3 1 2
---- ---- ----
Total nonaccrual loans (5) 517 528 602
Restructured loans (6) - 9 10
---- ---- ----
Nonaccrual and restructured loans 517 537 612
As a percentage of total loans .8% .8% .9%
Foreclosed assets 127 158 194
Real estate investments (7) 3 4 5
---- ---- ----
Total nonaccrual and restructured loans
and other assets $647 $699 $811
---- ---- ----
---- ---- ----
- -----------------------------------------------------------------------------------------------
(1) Excludes loans that are contractually past due 90 days or more as to
interest or principal, but are both well-secured and in the process of
collection or are real estate 1-4 family first mortgage loans or
consumer loans that are exempt under regulatory rules from being
classified as nonaccrual.
(2) Includes loans (primarily unsecured) to real estate developers and
REITs of $1 million at June 30, 1998, December 31, 1997 and June 30,
1997.
(3) Includes agricultural loans of $10 million, $13 million and
$17 million at June 30, 1998, December 31, 1997 and June 30, 1997,
respectively.
(4) Includes agricultural loans secured by real estate of $12 million,
$13 million and $17 million at June 30, 1998, December 31, 1997 and
June 30, 1997, respectively.
(5) Of the total nonaccrual loans, $330 million, $321 million and
$376 million at June 30, 1998, December 31, 1997 and June 30, 1997,
respectively, were considered impaired under FAS 114 (Accounting by
Creditors for Impairment of a Loan).
(6) In addition to originated loans that were subsequently restructured,
there were loans of $23 million, $23 million and $49 million at June
30, 1998, December 31, 1997 and June 30, 1997, respectively, that were
purchased at a steep discount whose contractual terms were modified
after acquisition. The modified terms did not affect the book balance
nor the yields expected at the date of purchase. Of the total
restructured loans and loans purchased at a steep discount,
$23 million, $23 million and $49 million were considered impaired
under FAS 114 at June 30, 1998, December 31, 1997 and June 30, 1997,
respectively.
(7) Represents the amount of real estate investments (contingent interest
loans accounted for as investments) that would be classified as
nonaccrual if such assets were loans. Real estate investments totaled
$162 million, $172 million and $158 million at June 30, 1998, December
31, 1997 and June 30, 1997, respectively.
The table below summarizes the changes in total nonaccrual loans.
- ----------------------------------------------------------------------
JUNE 30, June 30,
(in millions) 1998 1997
- ----------------------------------------------------------------------
BALANCE, BEGINNING OF QUARTER $ 503 $ 645
New loans placed on nonaccrual 224 112
Charge-offs (19) (39)
Payments (181) (109)
Transfers to foreclosed assets -- (2)
Loans returned to accrual (10) (5)
----- -----
BALANCE, END OF QUARTER $ 517 $ 602
----- -----
----- -----
- ----------------------------------------------------------------------
29
The Company generally identifies loans to be evaluated for impairment under FAS
114 (Accounting by Creditors for Impairment of a Loan) when such loans are on
nonaccrual or have been restructured. However, not all nonaccrual loans are
impaired. Generally, a loan is placed on nonaccrual status upon becoming 90
days past due as to interest or principal (unless both well-secured and in the
process of collection), when the full timely collection of interest or principal
becomes uncertain or when a portion of the principal balance has been charged
off. Real estate 1-4 family loans (both first liens and junior liens) are
placed on nonaccrual status within 150 days of becoming past due as to interest
or principal, regardless of security. In contrast, under FAS 114, loans are
considered impaired when it is probable that the Company will be unable to
collect all amounts due according to the contractual terms of the loan
agreement, including scheduled interest payments. For a loan that has been
restructured, the contractual terms of the loan agreement refer to the
contractual terms specified by the original loan agreement, not the contractual
terms specified by the restructuring agreement. Not all impaired loans are
necessarily placed on nonaccrual status. That is, restructured loans performing
under restructured terms beyond a specified performance period are classified as
accruing but may still be deemed impaired under FAS 114.
For loans covered under FAS 114, the Company makes an assessment for impairment
when and while such loans are on nonaccrual, or the loan has been restructured.
When a loan with unique risk characteristics has been identified as being
impaired, the amount of impairment will be measured by the Company using
discounted cash flows, except when it is determined that the sole (remaining)
source of repayment for the loan is the operation or liquidation of the
underlying collateral. In such cases, the current fair value of the collateral,
reduced by costs to sell, will be used in place of discounted cash flows.
Additionally, some impaired loans with commitments of less than $1 million are
aggregated for the purpose of measuring impairment using historical loss factors
as a means of measurement.
If the measurement of the impaired loan is less than the recorded investment in
the loan (including accrued interest, net deferred loan fees or costs and
unamortized premium or discount), an impairment is recognized by creating or
adjusting an existing allocation of the allowance for loan losses. FAS 114 does
not change the timing of charge-offs of loans to reflect the amount ultimately
expected to be collected.
The average recorded investment in impaired loans was $361 million and
$347 million during the second quarter and first half of 1998, respectively, and
$432 million and $456 million during the second quarter and first half of 1997,
respectively. Total interest income recognized on impaired loans was $2 million
and $5 million during the second quarter and first half of 1998, respectively,
and $4 million and $9 million during the second quarter and first half of 1997,
respectively. The interest income for all periods was recorded using the cash
method.
30
The table below shows the recorded investment in impaired loans by loan
category.
- -----------------------------------------------------------------------------
JUNE 30, Dec. 31, June 30,
(in millions) 1998 1997 1997
- -----------------------------------------------------------------------------
Commercial $114 $103 $106
Real estate 1-4 family first mortgage 5 2 1
Other real estate mortgage (1) 203 216 298
Real estate construction 28 22 18
Other 3 1 2
---- ---- ----
Total (2) $353 $344 $425
---- ---- ----
---- ---- ----
Impairment measurement based on:
Collateral value method $234 $256 $321
Discounted cash flow method 97 61 80
Historical loss factors 22 27 24
---- ---- ----
$353 $344 $425
---- ---- ----
---- ---- ----
- -----------------------------------------------------------------------------
(1) Includes accruing loans of $23 million, $23 million and $49 million
purchased at a steep discount at June 30, 1998, December 31, 1997 and June
30, 1997, respectively, whose contractual terms were modified after
acquisition. The modified terms did not affect the book balance nor the
yields expected at the date of purchase.
(2) Includes $22 million, $27 million and $24 million of impaired loans (with a
related FAS 114 allowance of $2 million) at June 30, 1998, December 31,
1997 and June 30, 1997, respectively.
The Company uses either the cash or cost recovery method to record cash receipts
on impaired loans that are on nonaccrual. Under the cash method, contractual
interest is credited to interest income when received. This method is used when
the ultimate collectibility of the total principal is not in doubt. Under the
cost recovery method, all payments received are applied to principal. This
method is used when the ultimate collectibility of the total principal is in
doubt. Loans on the cost recovery method may be changed to the cash method when
the application of the cash payments has reduced the principal balance to a
level where collection of the remaining recorded investment is no longer in
doubt.
The Company anticipates normal influxes of nonaccrual loans as it further
increases its lending activity as well as resolutions of loans in the nonaccrual
portfolio. The performance of any individual loan can be impacted by external
factors, such as the interest rate environment or factors particular to a
borrower such as actions taken by a borrower's management. In addition, from
time to time, the Company purchases loans from other financial institutions that
may be classified as nonaccrual based on its policies.
31
The table below summarizes the changes in foreclosed assets.
- ----------------------------------------------------------------------
JUNE 30, June 30,
(in millions) 1998 1997
- ----------------------------------------------------------------------
BALANCE, BEGINNING OF QUARTER $155 $207
Additions 13 27
Sales (40) (31)
Charge-offs (1) (3)
Write-downs (1) (2)
Other 1 (4)
---- ----
BALANCE, END OF QUARTER $127 $194
---- ----
---- ----
- ----------------------------------------------------------------------
LOANS 90 DAYS OR MORE PAST DUE AND STILL ACCRUING
The following table shows loans contractually past due 90 days or more as to
interest or principal, but not included in the nonaccrual or restructured
categories. All loans in this category are both well-secured and in the process
of collection or are real estate 1-4 family first mortgage loans or consumer
loans that are exempt under regulatory rules from being classified as nonaccrual
because they are automatically charged off after being past due for a prescribed
period (generally, 180 days). Notwithstanding, real estate 1-4 family loans
(first liens and junior liens) are placed on nonaccrual within 150 days of
becoming past due and such nonaccrual loans are excluded from the following
table.
- -----------------------------------------------------------------------------
JUNE 30, Dec. 31, June 30,
(in millions) 1998 1997 1997
- -----------------------------------------------------------------------------
Commercial $ 15 $ 8 $ 36
Real estate 1-4 family first mortgage 17 35 33
Other real estate mortgage 9 5 10
Real estate construction 1 1 2
Consumer:
Real estate 1-4 family junior lien mortgage 38 42 34
Credit card 116 133 127
Other revolving credit and monthly payment 7 19 16
---- ---- ----
Total consumer 161 194 177
Lease financing -- -- 1
---- ---- ----
Total $203 $243 $259
---- ---- ----
---- ---- ----
- -----------------------------------------------------------------------------
32
ALLOWANCE FOR LOAN LOSSES
- --------------------------------------------------------------------------------------------------------------
Quarter Six months
ended June 30, ended June 30,
--------------------- ---------------------
(in millions) 1998 1997 1998 1997
- --------------------------------------------------------------------------------------------------------------
BALANCE, BEGINNING OF PERIOD $1,830 $1,922 $1,828 $2,018
Provision for loan losses 170 140 350 245
Loan charge-offs:
Commercial (1) (46) (60) (95) (129)
Real estate 1-4 family first mortgage (4) (5) (8) (10)
Other real estate mortgage (10) (2) (11) (10)
Real estate construction (2) (2) (2) (3)
Consumer:
Real estate 1-4 family junior lien mortgage (2) (6) (6) (12)
Credit card (117) (133) (235) (248)
Other revolving credit and monthly payment (48) (57) (102) (113)
------ ------ ------ ------
Total consumer (167) (196) (343) (373)
Lease financing (11) (10) (22) (20)
------ ------ ------ ------
Total loan charge-offs (240) (275) (481) (545)
------ ------ ------ ------
Loan recoveries:
Commercial (2) 13 20 32 33
Real estate 1-4 family first mortgage 1 1 4 2
Other real estate mortgage 28 8 36 30
Real estate construction 1 -- 1 1
Consumer:
Real estate 1-4 family junior lien mortgage 1 1 3 3
Credit card 12 11 23 22
Other revolving credit and monthly payment 17 19 33 35
------ ------ ------ ------
Total consumer 30 31 59 60
Lease financing 2 3 6 6
------ ------ ------ ------
Total loan recoveries 75 63 138 132
------ ------ ------ ------
Total net loan charge-offs (165) (212) (343) (413)
------ ------ ------ ------
BALANCE, END OF PERIOD $1,835 $1,850 $1,835 $1,850
------ ------ ------ ------
------ ------ ------ ------
Total net loan charge-offs as a percentage
of average loans (annualized) 1.02 % 1.32 % 1.07 % 1.28 %
------ ------ ------ ------
------ ------ ------ ------
Allowance as a percentage of total loans 2.85 % 2.82 % 2.85 % 2.82 %
------ ------ ------ ------
------ ------ ------ ------
- --------------------------------------------------------------------------------------------------------------
(1) There were no charge-offs of loans (primarily unsecured) to real estate
developers and REITs for the periods presented.
(2) Includes recoveries from loans (primarily unsecured) to real estate
developers and REITs of $1 million or less for all periods presented.
33
The table below presents net charge-offs by loan category.
- -----------------------------------------------------------------------------------------------------------------------------
Quarter ended June 30, Six months ended June 30,
------------------------------------ -----------------------------------------
1998 1997 1998 1997
--------------- ---------------- ---------------- --------------------
% OF % of % OF % of
AVERAGE average AVERAGE average
(in millions) AMOUNT LOANS(1) Amount loans(1) AMOUNT LOANS(1) Amount loans(1)
- -----------------------------------------------------------------------------------------------------------------------------
Commercial $ 33 .64 % $ 40 .89 % $ 63 .63 % $ 96 1.05 %
Real estate 1-4 family first mortgage 3 .14 4 .15 4 .11 8 .15
Other real estate mortgage (18) (.60) (6) (.19) (25) (.44) (20) (.33)
Real estate construction 1 .10 2 .36 1 .09 2 .15
Consumer:
Real estate 1-4 family
junior lien mortgage 1 .10 5 .30 3 .11 9 .28
Credit card 105 9.26 122 9.47 212 9.10 226 8.68
Other revolving credit
and monthly payment 31 1.82 38 1.96 69 1.99 78 1.95
---- ---- ---- ----
Total consumer 137 3.27 165 3.47 284 3.32 313 3.26
Lease financing 9 .71 7 .81 16 .77 14 .84
---- ---- ---- ----
Total net loan charge-offs $165 1.02 % $212 1.32 % $343 1.07 % $413 1.28 %
---- ---- ---- ---- ---- ---- ---- ----
---- ---- ---- ---- ---- ---- ---- ----
- -----------------------------------------------------------------------------------------------------------------------------
(1) Calculated on an annualized basis.
The commercial loan category includes net charge-offs for the commercial loan
component of small business loans of $26 million (or 2.45% of average small
business loans in this category) in the second quarter of 1998, compared with
$33 million (or 3.31%) in the first quarter of 1998 and $23 million (or 2.43%)
in the second quarter of 1997. During the last half of 1997, the period of
charging off past due loans for the Business Direct product within this
portfolio was changed from 180 to 120 days. The target market for small
business loans is expected to experience higher loss rates on a recurring basis
than is the case with loans to middle market and corporate borrowers, and such
loans are priced at appropriately higher spreads.
The largest category of net charge-offs in the second quarter of 1998 and
1997 was credit card loans, comprising 64% and 58%, respectively, of total
net charge-offs. During the second quarter of 1998, credit card gross
charge-offs due to bankruptcies were $47 million, or 40%, of total credit
card gross charge-offs, compared with $46 million, or 39%, in the first
quarter of 1998 and $59 million, or 45%, in the second quarter of 1997. In
addition, credit card loans 30 to 89 days past due and still accruing totaled
$133 million at June 30, 1998, compared with $154 million at March 31, 1998
and $172 million at June 30, 1997. The total amount of credit card
charge-offs is expected to decline over the remainder of 1998 compared to
prior year levels. The percentage of net charge-offs to average credit card
loans is expected to continue for the remainder of 1998 at a level consistent
with or slightly lower than prior year levels.
The Company considers the allowance for loan losses of $1,835 million
adequate to cover losses inherent in loans, commitments to extend credit
and standby letters of credit at June 30, 1998. The Company's determination
of the level of the allowance and, correspondingly, the provision for loan
losses rests upon various judgments and assumptions, including general
(particularly California) economic conditions, loan portfolio composition,
prior loan loss experience and the Company's ongoing examination process and
that of its regulators. The Company made a $170 million provision in the
second quarter of 1998. To maintain the allowance at its approximate current
level, the Company anticipates that it will continue to make a
34
provision for loan losses of about $170 million (or less) for the third
quarter of 1998, which is expected to approximate net charge-offs.
OTHER ASSETS
- ---------------------------------------------------------------------------
JUNE 30, December 31, June 30,
(in millions) 1998 1997 1997
- ---------------------------------------------------------------------------
Nonmarketable equity investments $1,164 $1,113 $1,093
Trading assets 1,018 815 467
Net deferred tax asset 56 209 465
Certain identifiable intangible assets 167 479 478
Foreclosed assets 127 158 194
Other 1,014 1,175 1,909
------ ------ ------
Total other assets $3,546 $3,949 $4,606
------ ------ ------
------ ------ ------
- ---------------------------------------------------------------------------
Income from nonmarketable equity investments accounted for using the cost
method was $34 million and $40 million in the second quarter of 1998 and 1997,
respectively, and $83 million and $91 million in the six months ended June 30,
1998 and 1997, respectively.
Trading assets consist predominantly of securities, including corporate debt and
U.S. government agency obligations. Gains from trading assets were $18 million
and $22 million in the second quarter of 1998 and 1997, respectively, and
$38 million in both the six months ended June 30, 1998 and 1997.
The Company estimates that approximately $51 million of the $56 million net
deferred tax asset at June 30, 1998 could be realized by the recovery of
previously paid federal taxes; however, the Company expects to actually realize
the federal net deferred tax asset by claiming deductions against future taxable
income. The balance of approximately $5 million primarily relates to net
deductions that are expected to reduce future state taxable income. The Company
believes that it is more likely than not that it will have sufficient future
state taxable income to fully utilize these deductions. The amount of the total
deferred tax asset considered realizable, however, could be reduced in the near
term if estimates of future taxable income during the carry forward periods are
reduced.
Included in certain identifiable intangible assets were purchased mortgage
servicing rights of none, $292 million and $280 million at June 30, 1998,
December 31, 1997 and June 30, 1997, respectively. In June 1998, the Company
sold its mortgage servicing business to GMAC Mortgage Corporation. (See page 22
for additional information.)
35
The other identifiable intangible assets included in other assets are generally
amortized using an accelerated method, which is based on estimated useful lives
ranging from 5 to 15 years. Amortization expense was $6 million and $7 million
for the quarters ended June 30, 1998 and 1997, respectively.
DEPOSITS
- -----------------------------------------------------------------------------
JUNE 30, December 31, June 30,
(in millions) 1998 1997 1997
- -----------------------------------------------------------------------------
Noninterest-bearing $23,411 $23,953 $24,284
Interest-bearing checking 2,058 2,155 2,271
Market rate and other savings 29,743 29,940 31,088
Savings certificates 14,997 15,349 15,902
------- ------- -------
Core deposits 70,209 71,397 73,545
Other time deposits 202 205 162
Deposits in foreign offices 39 597 41
------- ------- -------
Total deposits $70,450 $72,199 $73,748
------- ------- -------
------- ------- -------
- -----------------------------------------------------------------------------
CAPITAL ADEQUACY/RATIOS
Risk-based capital (RBC) guidelines issued by the Federal Reserve Board (FRB)
establish a risk-adjusted ratio relating capital to different categories of
assets and off-balance sheet and market risk exposures. The Company's Tier 1
and Tier 2 capital components are presented on the following page. The
guidelines require a minimum total RBC ratio of 8%, with at least half of the
total capital in the form of Tier 1 capital. To supplement the RBC
guidelines, the FRB established a minimum leverage ratio guideline of 3% of
Tier 1 capital to average total assets.
The increase in the Company's ratios at June 30, 1998 compared with December 31,
1997 was primarily due to an increase in Tier 1 capital, primarily retained
earnings.
36
The table below presents the Company's risk-based capital and leverage ratios.
- ----------------------------------------------------------------------------------
JUNE 30, Dec. 31, June 30,
(in billions) 1998 1997 1997
- ----------------------------------------------------------------------------------
Tier 1:
Common stockholders' equity $ 12.7 $12.6 $12.8
Preferred stock .3 .3 .3
Guaranteed preferred beneficial interests in
Company's subordinated debentures 1.3 1.3 1.3
Goodwill and other deductions (1) (7.9) (8.1) (8.3)
------ ----- -----
Total Tier 1 capital 6.4 6.1 6.1
------ ----- -----
Tier 2:
Mandatory convertible debt .1 .1 .2
Subordinated debt and unsecured senior debt 2.0 2.0 2.0
Allowance for loan losses allowable in Tier 2 1.0 1.0 1.0
------ ----- -----
Total Tier 2 capital 3.1 3.1 3.2
------ ----- -----
Total risk-based capital $ 9.5 $ 9.2 $ 9.3
------ ----- -----
------ ----- -----
Risk-weighted balance sheet assets $ 75.1 $77.6 $78.7
Risk-weighted off-balance sheet items:
Commitments to make or purchase loans 9.3 9.4 9.7
Standby letters of credit 1.5 1.6 1.7
Other 1.2 .7 .6
------ ----- -----
Total risk-weighted off-balance sheet items 12.0 11.7 12.0
------ ----- -----
Market risk equivalent assets (2) 1.0 -- --
Goodwill and other deductions (1) (7.9) (8.1) (8.3)
Allowance for loan losses not included in Tier 2 (.8) (.8) (.9)
------ ----- -----
Total risk-weighted assets $ 79.4 $80.4 $81.5
------ ----- -----
------ ----- -----
Risk-based capital ratios:
Tier 1 capital (4% minimum requirement) 8.08 % 7.61 % 7.49 %
Total capital (8% minimum requirement) 11.94 11.49 11.45
Leverage ratio (3% minimum requirement) (3) 7.53 % 6.95 % 6.67 %
- ----------------------------------------------------------------------------------
(1) Other deductions include CDI acquired after February 1992 (nonqualifying
CDI) and the unrealized net gain (loss) on securities available for sale.
(2) As the Company met certain trading thresholds at June 30, 1998 as
defined by the FRB, its risk-based capital ratios now include a
regulatory measurement for market risk, which represents the risk of
loss in trading activities that result from movements in market prices.
(3) Tier 1 capital divided by quarterly average total assets (excluding
goodwill, nonqualifying CDI and other items which were deducted to arrive
at Tier 1 capital).
Under the Federal Deposit Insurance Corporation Improvement Act of 1991, a
"well capitalized" bank must have a Tier 1 RBC ratio of at least 6%, a
combined Tier 1 and Tier 2 ratio of at least 10% and a leverage ratio of at
least 5%. At June 30, 1998, the Bank had a Tier 1 RBC ratio of 8.13%, a
combined Tier 1 and Tier 2 ratio of 11.29% and a leverage ratio of 7.12%.
37
DERIVATIVE FINANCIAL INSTRUMENTS
The following table summarizes the aggregate notional or contractual amounts,
credit risk amount and net fair value of the Company's derivative financial
instruments at June 30, 1998 and December 31, 1997.
- -----------------------------------------------------------------------------------------------------------------------------
JUNE 30, 1998 December 31, 1997
----------------------------------------- -----------------------------------------
NOTIONAL OR CREDIT ESTIMATED Notional or Credit Estimated
CONTRACTUAL RISK FAIR contractual risk fair
(in millions) AMOUNT AMOUNT (2) VALUE amount amount (2) value
- -----------------------------------------------------------------------------------------------------------------------------
ASSET/LIABILITY MANAGEMENT HEDGES
Interest rate contracts:
Swaps (1) $20,391 $259 $217 $16,301 $233 $174
Futures 5,307 -- -- 6,259 -- --
Floors purchased (1) 18,665 39 39 20,727 63 63
Caps purchased (1) 226 1 1 240 1 1
Options purchased 35 -- -- 42 -- --
Foreign exchange contracts:
Forwards (1) 123 1 -- 57 1 1
CUSTOMER ACCOMMODATIONS
Interest rate contracts:
Swaps (1) 4,001 22 6 3,158 13 4
Futures 8,473 -- -- 2,387 -- --
Floors purchased (1) 1,124 13 13 1,141 13 13
Caps purchased (1) 2,954 3 3 2,836 8 8
Floors written 1,086 -- (14) 1,122 -- (13)
Caps written 2,991 -- (4) 2,871 -- (9)
Options purchased (1) -- -- -- 37 -- --
Options written (1) -- -- -- 27 -- --
Forwards (1) 377 6 3 59 2 2
Foreign exchange contracts:
Forwards and spots (1) 2,523 31 2 1,853 29 3
Options purchased (1) 54 2 2 110 -- --
Options written 26 -- (2) 110 -- --
- -----------------------------------------------------------------------------------------------------------------------------
(1) The Company anticipates performance by substantially all of the
counterparties for these or the underlying financial instruments.
(2) Credit risk amounts reflect the replacement cost for those contracts in a
gain position in the event of nonperformance by counterparties.
The Company enters into a variety of financial contracts, which include
interest rate futures and forward contracts, interest rate floors and caps
and interest rate swap agreements. The contractual or notional amounts of
derivatives do not represent amounts exchanged by the parties and therefore
are not a measure of exposure through the use of derivatives. The amounts
exchanged are determined by reference to the notional amounts and the other
terms of the derivatives. The contractual or notional amounts do not
represent exposure to liquidity risk. The Company is not a dealer but an
end-user of these instruments and does not use them speculatively. The
Company also offers contracts to its customers, but offsets such contracts by
purchasing other financial contracts or uses the contracts for
asset/liability management.
38
The Company also enters into foreign exchange derivative financial
instruments (forward and spot contracts and options) primarily as an
accommodation to customers and offsets the related foreign exchange risk with
other foreign exchange derivative financial instruments.
The Company is exposed to credit risk in the event of nonperformance by
counterparties to financial instruments. The Company controls the credit
risk of its financial contracts (except futures contracts and floor, cap and
option contracts written for which credit risk is DE MINIMUS) through credit
approvals, limits and monitoring procedures. Credit risk related to
derivative financial instruments is considered and, if material, provided for
separately from the allowance for loan losses. As the Company generally
enters into transactions only with high quality counterparties, losses
associated with counterparty nonperformance on derivative financial
instruments have been immaterial.
In June 1998, the FASB issued FAS 133, Accounting for Derivative Instruments
and Hedging Activities, which will be effective for the Company's financial
statements for periods beginning January 1, 2000. The new standard requires
companies to record derivatives on the balance sheet, measured at fair value.
Changes in the fair values of those derivatives would be accounted for
depending on the use of the derivative and whether it qualifies for hedge
accounting. The key criterion for hedge accounting is that the hedging
relationship must be highly effective in achieving offsetting changes in fair
value or cash flows. The Company has not yet determined when it will
implement the Statement nor has it completed the complex analysis required to
determine the impact on the financial statements.
LIQUIDITY MANAGEMENT
Liquidity for the Parent Company and its subsidiaries is generated through
its ability to raise funds in a variety of domestic and international money
and capital markets, and through dividends from subsidiaries and lines of
credit. In 1996, the Company filed a shelf registration with the Securities
and Exchange Commission (SEC) that allows for the issuance of $3.5 billion of
senior or subordinated debt or preferred stock. The proceeds from the sale
of any securities will be used for general corporate purposes. As of June
30, 1998, the Company had issued $.2 billion of preferred stock and $.7
billion of medium-term notes under this shelf registration, with $2.6 billion
of securities remaining unissued.
39
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the exposure to loss resulting from changes in interest rates,
foreign currency exchange rates, commodity prices and equity prices. The
primary market risk to which the Company is exposed is interest rate risk.
Interest rate risk occurs when assets and liabilities reprice at different
times as interest rates change. For example, if fixed-rate assets are funded
with floating-rate debt, the spread between asset and liability rates will
decline or turn negative if rates increase. The Company refers to this type
of risk as "term structure risk." There is, however, another source of
interest rate risk which results from changing spreads between asset and
liability rates. The Company calls this type of risk "basis risk;" it is the
Company's main source of interest rate risk and is significantly more
difficult to quantify and manage than term structure risk.
The Company employs a sensitivity analysis in the form of a net interest
income simulation to help characterize the market risk arising from changes
in interest rates in the other-than-trading portfolio. The Company's net
interest income simulation includes all other-than-trading financial assets,
financial liabilities, derivative financial instruments and leases where the
Company is the lessor. It captures the dynamic nature of the balance sheet
by anticipating probable balance sheet and off-balance sheet strategies and
volumes under different interest rate scenarios over the course of a one-year
period. This simulation measures both the term structure risk and the basis
risk in the Company's positions. The simulation also captures the option
characteristics of products, such as caps and floors on floating rate loans,
the right to prepay mortgage loans without penalty and the ability of
customers to withdraw deposits on demand. These options are modeled directly
in the simulation either through the use of option pricing models, in the
case of caps and floors on loans, or through statistical analysis of
historical customer behavior, in the case of mortgage loan prepayments or
non-maturity deposits.
The Company uses four standard scenarios - rates unchanged, expected rates,
high rates and low rates - in analyzing interest rate sensitivity. The
expected scenario is based on the Company's projected future interest rates,
while the high-rate and low-rate scenarios cover 90% probable upward and
downward rate movements based on the Company's own interest rate models.
The current interest rate risk limit using the net interest income simulation
allows up to 30 basis points (.30%) of sensitivity in the expected average
net interest margin over the next 12 months. As of June 30, 1998, the
simulation showed a decline in the net interest margin of 8 basis
points (.08%, or $58 million decline in net interest income over the
next 12 months) for the low-rate scenario case relative to the expected case.
The Company uses interest rate derivative financial instruments as an
asset/liability management tool to hedge mismatches in interest rate
exposures indicated by the net interest income simulation described above.
They are used to reduce the Company's exposure to interest rate fluctuations
and provide more stable spreads between loan yields and the rates on their
funding sources.
40
PART II - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
2 Agreement and Plan of Merger by and between Wells Fargo &
Company and Norwest Corporation dated as of June 7, 1998,
incorporated by reference to Exhibit 2 to Form 8-K filed
by the Company on June 18, 1998. The Company hereby
agrees to furnish supplementally a copy of any omitted
schedule to the Securities and Exchange Commission upon
request.
3 (ii) By-Laws
4 The Company hereby agrees to furnish to the Commission
upon request a copy of each instrument defining the
rights of holders of securities of the Company.
11 Computation of Earnings Per Common Share
27 Financial Data Schedule
99(a) Computation of Ratios of Earnings to Fixed Charges -- the
ratios of earnings to fixed charges, including interest
on deposits, were 2.11 and 1.73 for the quarters ended
June 30, 1998 and 1997, respectively, and 2.05 and 1.90
for the six months ended June 30, 1998 and 1997,
respectively. The ratios of earnings to fixed charges,
excluding interest on deposits, were 5.05 and 3.57 for
the quarters ended June 30, 1998 and 1997, respectively,
and 4.58 and 4.11 for the six months ended June 30, 1998
and 1997, respectively.
(b) Computation of Ratios of Earnings to Fixed Charges and
Preferred Dividends -- the ratios of earnings to fixed
charges and preferred dividends, including interest on
deposits, were 2.09 and 1.70 for the quarters ended
June 30, 1998 and 1997, respectively, and 2.02 and 1.85
for the six months ended June 30, 1998 and 1997,
respectively. The ratios of earnings to fixed charges
and preferred dividends, excluding interest on deposits,
were 4.83 and 3.34 for the quarters ended June 30, 1998
and 1997, respectively, and 4.36 and 3.76 for the six
months ended June 30, 1998 and 1997, respectively.
41
(b) The Company filed the following reports on Form 8-K during the second
quarter of 1998 and through the date hereof:
(1) April 3, 1998 under Item 5, announcing that on April 2, 1998
Wells Fargo Bank, N.A. and GMAC Mortgage Corporation entered
into a letter of intent with respect to the acquisition by
GMAC Mortgage of Wells Fargo's mortgage servicing business
(2) April 21, 1998 under Item 5, containing the Press Release that
announced the Company's financial results for the quarter
ended March 31, 1998
(3) May 21, 1998 under Item 5, announcing that on May 15, 1998 a
definitive agreement was signed by Wells Fargo Bank, N.A. and
GMAC Mortgage regarding the sale of Wells Fargo's mortgage
servicing business to GMAC Mortgage and announcing the
election of Rod Jacobs as President and Director of Wells
Fargo & Company and the election of Ross Kari as Chief
Financial Officer
(4) June 8, 1998 under Item 5, containing the Press Release
announcing that on June 7, 1998 the Company and Norwest
Corporation (Norwest) entered into an Agreement and Plan of
Merger, pursuant to which the Company will merge with and into
Norwest and containing the investor presentation materials
dated June 8, 1998 regarding the proposed merger between the
Company and Norwest
(5) June 9, 1998 under Item 5, containing the final analyst
presentation materials dated June 8, 1998 regarding the
proposed merger between the Company and Norwest
(6) June 11, 1998 under Item 5, containing the Press Release
announcing the rescission of all of the Company's stock
repurchase programs
(7) June 18, 1998 under Item 5, containing the Agreement and Plan
of Merger by and between the Company and Norwest, dated
June 7, 1998, the Stock Option Agreement between the Company,
as Issuer, and Norwest, as Grantee, dated June 7, 1998 and the
Stock Option Agreement between Norwest, as Issuer, and the
Company, as Grantee, dated June 7, 1998
(8) July 21, 1998 under Item 5, containing the Press Release that
announced the Company's financial results for the quarter
ended June 30, 1998
(9) July 24, 1998 under Item 5, containing the abridged analyst
presentation materials dated June 8, 1998 regarding the
proposed merger between the Company and Norwest
42
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized, on August 13, 1998.
WELLS FARGO & COMPANY
By: FRANK A. MOESLEIN
---------------------------------------
Frank A. Moeslein
Executive Vice President and Controller
(Principal Accounting Officer)
43