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Securities and Exchange Commission
Washington, D.C. 20549
Form 10-K
Annual Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the fiscal year ended December 31, 2000
Commission file number 1-7436
HSBC USA Inc.
(Exact name of registrant as specified in its charter)
452 Fifth Avenue
New York, New York 10018
(Address of principal executive offices)
Telephone: (212) 525-6100
IRS Employer Identification No.: State of Incorporation:
13-2764867 Maryland
Securities registered on the New York Stock Exchange pursuant to Section 12(b)
of the Act:
Depositary Shares, each representing a one-fourth interest in a share of
Adjustable Rate Cumulative Preferred Stock, Series D
$1.8125 Cumulative Preferred Stock
$2.8575 Cumulative Preferred Stock
7% Subordinated Notes due 2006
8.375% Debentures due 2007
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) had 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 by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of the Form 10-K or any amendment to this
Form 10-K. [X]
All voting stock (704 shares of Common Stock $5 par value) is owned by HSBC
North America Inc., an indirect wholly owned subsidiary of HSBC Holdings plc.
Documents incorporated by reference: None
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TABLE OF CONTENTS
Page
Part I
- --------------------------------------------------------------------------------
1. Business 4
2. Properties 6
3. Legal Proceedings 6
4. Submission of Matters to a Vote of Security Holders 6
Part II
- --------------------------------------------------------------------------------
5. Market for the Registrant's Common Equity and
Related Stockholder Matters 6
6 Selected Financial Data 7
7. Management's Discussion and Analysis of Financial
Condition and Results of Operations 10
7A. Quantitative and Qualitative Disclosures About
Market Risk 31
8. Financial Statements and Supplementary Data 37
9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure 79
Part III
- --------------------------------------------------------------------------------
10. Directors and Executive Officers of the Registrant 79
11. Executive Compensation 83
12. Security Ownership of Certain Beneficial Owners
and Management 85
13. Certain Relationships and Related Transactions 86
Part IV
- --------------------------------------------------------------------------------
14. Exhibits, Financial Statement Schedules and Reports
on Form 8-K 87
3
PART I
Item 1. Business
HSBC USA Inc. (the Company) is a New York State based bank holding company
registered under the Bank Holding Company Act of 1956, as amended. At December
31, 2000, the Company had assets of $83.0 billion and employed approximately
14,200 full and part time employees.
All of the Company's common stock is owned by HSBC North America Inc. (HNAI), an
indirect wholly owned subsidiary of HSBC Holdings plc (HSBC). HSBC, the ultimate
parent company of HSBC Bank plc, The Hongkong and Shanghai Banking Corporation
Limited (HongkongBank), and other financial services companies, is an
international banking and financial services organization with major commercial
and investment banking franchises operating in the Asia-Pacific region, Europe,
the Americas, the Middle East and Africa. The principal executive offices of
HSBC are located in London, England. HSBC, with assets of $674 billion at
December 31, 2000, is one of the world's largest banking and financial services
organizations.
The Company's principal subsidiary HSBC Bank USA (the Bank), had assets of $80.1
billion and deposits of $56.9 billion at December 31, 2000. The Company also is
a participant in a joint venture, Wells Fargo HSBC Trade Bank.
The Bank's domestic operations encompass the State of New York as well as two
branches in Pennsylvania, seven branches in Florida and three branches in
California. Selected commercial and consumer banking products are offered on a
national basis. The Bank is engaged in a general commercial banking business,
offering a full range of banking products and services to individuals, including
high-net-worth individuals, corporations, institutions and governments. Through
its affiliation with HSBC, the Bank offers its customers access to global
markets and services. In turn, the Bank plays a role in the delivery and
processing of other HSBC products. In addition to its domestic offices, the Bank
maintains foreign branch offices, subsidiaries and/or representative offices in
the Caribbean, Europe, Panama, Asia and Latin America.
On August 1, 2000, the Company purchased the banking operations of Chase
Manhattan Bank, Panama (Chase Panama). The transaction was accounted for as a
purchase. Accordingly, the results of Chase Panama are included with those of
the Company for the period subsequent to the date of acquisition. The branch
operations had over $750 million in assets and $720 million in deposit
liabilities.
On December 31, 1999, HSBC acquired Republic New York Corporation (Republic),
which it subsequently merged with the Company, and Safra Republic Holdings S.A.,
subsequently renamed HSBC Republic Holdings (Luxembourg) S.A. (HRH). As part of
the integration of Republic into HSBC, various transactions have either taken
place, or are planned to take place in 2001. Certain operations of non-U.S.
branches and subsidiaries of the Company have been transferred to foreign
operations of HSBC, such as the sale of a branch in Tokyo to the Asia Pacific
operations of HSBC. Such plans also involve the reorganization of much of the
international private banking business of HSBC outside the Americas (including
operations owned by the Company and other HSBC members) to operate through one
global private banking organization based in Switzerland and operating in
various locations throughout the world.
4
PART I Continued
Item 1. Business Continued
The Bank had a 49% investment in HRH, a holding company, principally engaged in
international private banking and commercial banking with assets of $24.4
billion at December 31, 1999. HSBC held the remaining 51% ownership interest in
HRH. In connection with HSBC's internal international private banking operations
reorganization in December 2000, the Company distributed its interest in HRH to
HNAI, its parent. The distribution, in the form of a return of capital in the
amount of $2.8 billion, included its investment in a Bahamian subsidiary in
addition to the $2.5 billion investment in HRH.
The Bank is supervised and routinely examined by the State of New York Banking
Department and the Board of Governors of the Federal Reserve System (the Federal
Reserve), and it is subject to banking laws and regulations which place various
restrictions on and requirements regarding its operations and administration,
including the establishment and maintenance of branch offices, capital and
reserve requirements, deposits and borrowings, investment and lending
activities, payment of dividends and numerous other matters. The Federal Reserve
Act restricts certain transactions between banks and their nonbank affiliates.
The deposits of the Bank are insured by the Federal Deposit Insurance
Corporation (FDIC) and subject to relevant FDIC regulations.
The enactment of the Gramm-Leach-Bliley Act of 1999 (GLB Act), effective March
11, 2000, provides expanded opportunities for banks, other depository
institutions, insurance companies and securities firms to enter into
combinations that permit a single financial services organization to offer a
more complete line of financial products and services. Further competitive
pressures are anticipated from industry consolidations in the wake of the
passage of the GLB Act. The GLB Act also requires banks, securities firms and
insurance companies to adopt written privacy policies, which are designed to
safeguard consumers' privacy, and to provide copies of those policies to their
customers on or before July 1, 2001. The Company will be devoting significant
resources in 2001 to this endeavor.
The Company and the Bank are subject to risk-based capital and leverage
guidelines issued by the Federal Reserve. The Federal Reserve is required by law
to take specific prompt actions with respect to financial institutions that do
not meet minimum capital standards. Five capital standards have been identified,
the highest of which is well-capitalized. A well-capitalized bank must have a
Tier 1 risk-based capital ratio of at least 6%, a total risk-based capital ratio
of at least 10% and a leverage ratio of at least 5% and not be subject to a
capital directive order. The Company and the Bank's ratios at December 31, 2000
exceeded all ratios required for the well-capitalized category.
The Company and its subsidiaries face competition in all the markets they serve,
competing with other financial institutions, including commercial banks,
investment banks, savings and loan associations, credit unions, consumer finance
companies, money market funds and other non-banking institutions such as
insurance companies, major retailers, brokerage firms and investment companies.
Many of these institutions are not subject to the same laws and regulations
imposed on the Company and its subsidiaries.
5
Item 2. Properties
The principal executive offices of the Company are located at 452 Fifth Avenue,
New York, New York 10018, which is owned by the Bank. The principal executive
offices of the Bank are located at One HSBC Center, Buffalo, New York 14203, in
a building under a long-term lease. The Bank has more than 420 other banking
offices in New York State located in 50 counties, two branches in Pennsylvania,
seven branches in Florida and three branches in California. Approximately 38% of
these offices are located in buildings owned by the Bank and the remaining are
located in leased quarters. In addition, there are branch offices and locations
for other activities occupied under various types of ownership and leaseholds in
states other than New York, none of which is materially important to the
respective activities. The Bank owns properties in: Buenos Aires, Argentina;
Santiago, Chile; Panama City, Panama; Montevideo, Uruguay; Mexico City, Mexico
and London, England.
Item 3. Legal Proceedings
The information contained in Note 26 to the Financial Statements on page 68 of
this report is incorporated herein by reference.
Item 4. Submission of Matters to a Vote of Security Holders
Reference is made to Item 5.
P A R T II
Item 5. Market for the Registrant's Common Equity and Related Stockholder
Matters
Since all common stock of the Company is owned by HSBC North America Inc.,
shares of the Company's common stock are not listed or traded on a securities
exchange.
6
Item 6. Selected Financial Data
HSBC acquired Republic New York Corporation (Republic) and merged it with the
Company on December 31, 1999. The acquisition was accounted for as a purchase by
the Company so that the fair value of the assets and liabilities of Republic are
included in balances at year end 1999. Accordingly, the results of operations of
Republic are included with those of the Company for the period subsequent to the
acquisition.
Year Ended December 31, 2000 1999 1998 1997 1996
--------- --------- --------- --------- --------
in millions
Net interest income $ 2,119.1 $ 1,225.9 $ 1,165.3 $ 1,173.4 $ 961.8
--------- --------- --------- --------- --------
Securities transactions 28.8 10.1 13.8 17.4 7.9
Interest on Brazilian tax settlement - 13.1 32.7 - -
Other operating income 803.6 440.8 413.6 342.0 303.0
--------- --------- --------- --------- --------
Total other operating income 832.4 464.0 460.1 359.4 310.9
--------- --------- --------- --------- --------
Other operating expenses 1,905.9 827.9 780.2 781.4 656.8
Provision for credit losses 137.6 90.0 80.0 87.4 64.7
--------- --------- --------- --------- --------
Income before taxes 908.0 772.0 765.2 664.0 551.2
Applicable income tax expense 340.5 308.3 238.1 193.0 171.0
--------- --------- --------- --------- --------
Net income $ 567.5 $ 463.7 $ 527.1 $ 471.0 $ 380.2
--------- --------- --------- --------- --------
Balances at year end (1)
Total assets $ 83,032 $ 87,253 $ 33,944 $ 31,518 $ 23,630
Goodwill and other acquisition intangibles 3,233 3,307 335 370 158
Long-term debt 5,097 5,885 1,748 1,708 1,080
Common shareholder's equity 6,843 6,728 2,228 2,039 1,875
Total shareholders' equity 7,343 7,228 2,228 2,039 1,973
Ratio of shareholders' equity to total assets 8.84% 8.28% 6.56% 6.47% 8.35%
--------- --------- --------- --------- --------
Selected financial data (1)(2)
Rate of return on
Total assets 0.69% 1.35% 1.60% 1.62% 1.83%
Total common shareholder's equity 8.19 20.31 24.93 22.93 21.33
Total shareholders' equity to total assets 8.56 6.67 6.44 7.14 8.90
--------- --------- --------- --------- --------
Quarterly Results of Operations
2000 1999
---------------------------------------- ---------------------------------------
4th Q 3rd Q(3) 2nd Q(3) 1st Q(3) 4th Q 3rd Q 2nd Q 1stQ
------- ------- -------- -------- ------- ------- ------- -------
in millions
Net interest income $ 523.9 $ 539.6 $ 527.5 $ 528.1 $ 302.2 $ 305.5 $ 306.9 $ 311.3
------- ------- -------- ------- ------- ------- ------- -------
Securities transactions 18.4 9.1 3.7 (2.4) 2.9 (0.1) 4.9 2.4
Interest on Brazilian tax settlement - - - - 13.1 - - -
Other operating income 194.0 202.5 193.7 213.4 109.4 108.2 104.0 119.2
------- ------- -------- ------- ------- ------- ------- -------
Total other operating income 212.4 211.6 197.4 211.0 125.4 108.1 108.9 121.6
------- ------- -------- ------- ------- ------- ------- -------
Other operating expenses 483.8 475.5 473.8 472.8 217.2 200.3 203.8 206.6
Provision for credit losses 31.0 50.6 28.0 28.0 22.5 22.5 22.5 22.5
------- ------- -------- ------- ------- ------- ------- -------
Income before taxes 221.5 225.1 223.1 238.3 187.9 190.8 189.5 203.8
Applicable income tax expense 83.0 84.4 83.7 89.4 74.0 75.9 76.0 82.4
------- ------- -------- ------- ------- ------- ------- -------
Net income $ 138.5 $ 140.7 $ 139.4 $ 148.9 $ 113.9 $ 114.9 $ 113.5 $ 121.4
======= ======= ======== ======= ======= ======= ======= =======
(1) Balances for 1999 were restated to exclude investments to HSBC North America
Inc. during 2000. See Note 1 for further discussion.
(2) Based on average daily balances.
(3) The 2000 quarterly results of operations as reported in the respective Form
10-Q's were restated to exclude investments transferred to HSBC North
America Inc. during 2000. See Note 1 for further discussion.
7
CONSOLIDATED AVERAGE BALANCES AND INTEREST RATES - THREE YEARS
The following table shows the average balances of the principal components of
assets, liabilities and shareholders' equity, together with their respective
interest amounts and rates earned or paid on a taxable equivalent basis. Average
balances for 1999 were restated to exclude investments transferred to HSBC North
America Inc. during 2000. See Note 1 for further discussion.
2000
---------------------------
Balance Interest Rate
-------- --------- ----
Assets
Interest bearing deposits with banks $ 4,425 $ 308.7 6.98%
Federal funds sold and securities purchased
under resale agreements 3,260 215.0 6.59
Trading assets 5,504 140.5 2.55
Securities 22,158 1,605.2 7.24
Loans
Domestic
Commercial 18,105 1,359.4 7.51
Consumer
Residential mortgages 14,543 1,086.3 7.47
Other consumer 3,189 366.4 11.49
-------- --------- ----
Total domestic 35,837 2,812.1 7.85
International 3,129 261.7 8.37
-------- --------- ----
Total loans 38,966 3,073.8 7.89
-------- --------- ----
Total earning assets 74,313 $ 5,343.2 7.19%
-------- --------- ----
Allowance for loan losses (606)
Cash and due from banks 1,794
Other assets 7,288
-------- --------- ----
Total assets $ 82,789
======== ========= ====
Liabilities and Shareholders' Equity
Interest bearing demand deposits $ 676 $ 8.0 1.18%
Consumer savings deposits 12,462 313.5 2.52
Other consumer time deposits 9,048 466.9 5.16
Commercial, public savings and other time deposits 7,188 358.3 4.98
Deposits in foreign offices 19,586 1,186.8 6.06
-------- --------- ----
Total interest bearing deposits 48,960 2,333.5 4.77
-------- --------- ----
Federal funds purchased and securities sold
under repurchase agreements 2,082 123.8 5.95
Other short-term borrowings 6,575 320.9 4.88
Long-term debt 5,771 420.3 7.28
-------- --------- ----
Total interest bearing liabilities 63,388 $ 3,198.5 5.05%
-------- --------- ----
Interest rate spread 2.14%
-------- --------- ----
Noninterest bearing deposits 6,063
Other liabilities 6,248
Total shareholders' equity 7,090
-------- --------- ----
Total liabilities and shareholders' equity $ 82,789
======== ========= ====
Net yield on average earning assets 2.89%
-------- --------- ----
Net yield on average total assets 2.59
======== ========= ====
Total weighted average rate earned on earning assets is interest and fee
earnings divided by daily average amounts of total interest earning assets,
including the daily average amount on nonperforming loans. Loan fees included
were $38 million for 2000, $36 million for 1999 and $28 million for 1998.
8
SCHEDULE CONTINUED
1999 1998
------------------------------ ------------------------------
Balance Interest Rate Balance Interest Rate
-------- --------- ---- -------- --------- ----
in millions
Assets
Interest bearing deposits with banks $ 1,795 $ 97.0 5.40% $ 2,377 $ 136.6 5.75%
Federal funds sold and securities purchased
under resale agreements 2,238 116.5 5.21 2,299 128.0 5.57
Trading assets 919 50.8 5.52 851 51.0 5.99
Securities 3,654 214.7 5.88 3,930 232.6 5.92
Loans
Domestic
Commercial 10,496 825.3 7.86 8,569 738.3 8.62
Consumer
Residential mortgages 9,382 656.9 7.00 9,531 684.7 7.18
Other consumer 2,432 285.6 11.74 2,652 319.8 12.06
-------- --------- ---- -------- --------- ----
Total domestic 22,310 1,767.8 7.92 20,752 1,742.8 8.40
International 1,075 75.4 7.02 640 44.6 6.96
-------- --------- ---- -------- --------- ----
Total loans 23,385 1,843.2 7.88 21,392 1,787.4 8.36
-------- --------- ---- -------- --------- ----
Total earning assets 31,991 $ 2,322.2 7.26% 30,849 $ 2,335.6 7.57%
-------- --------- ---- -------- --------- ----
Allowance for loan losses (379) (404)
Cash and due from banks 1,046 1,128
Other assets 1,572 1,274
-------- --------- ---- -------- --------- ----
Total assets $ 34,230 $ 32,847
======== ========= ==== ======== ========= ====
Liabilities and Shareholders' Equity
Interest bearing demand deposits $ 248 $ 2.3 0.91% $ 274 $ 3.0 1.09%
Consumer savings deposits 7,620 172.9 2.27 7,321 183.1 2.50
Other consumer time deposits 6,808 308.4 4.53 6,369 336.1 5.28
Commercial, public savings and other time deposits 4,265 153.3 3.59 3,244 134.2 4.13
Deposits in foreign offices 4,584 216.0 4.71 4,074 211.0 5.18
-------- --------- ---- -------- --------- ----
Total interest bearing deposits 23,525 852.9 3.63 21,282 867.4 4.08
-------- --------- ---- -------- --------- ----
Federal funds purchased and securities sold
under repurchase agreements 951 45.2 4.75 917 48.1 5.24
Other short-term borrowings 1,618 84.4 5.21 2,717 156.1 5.74
Long-term debt 1,867 111.7 5.98 1,469 96.1 6.54
-------- --------- ---- -------- --------- ----
Total interest bearing liabilities 27,961 $ 1,094.2 3.91% 26,385 $ 1,167.7 4.45%
-------- --------- ---- -------- --------- ----
Interest rate spread 3.35% 3.11%
-------- --------- ---- -------- --------- ----
Noninterest bearing deposits 3,111 3,665
Other liabilities 873 683
Total shareholders' equity 2,285 2,114
-------- --------- ---- -------- --------- ----
Total liabilities and shareholders' equity $ 34,230 $ 32,847
======== ========= ==== ======== ========= ====
Net yield on average earning assets 3.84% 3.79%
-------- --------- ---- -------- --------- ----
Net yield on average total assets 3.59 3.56
======== ========= ==== ======== ========= ====
9
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The Company reported pretax income of $908.0 million for 2000 compared with
$772.0 million in 1999. Pretax income after adding back goodwill amortization
was $1,084.2 million in 2000 compared with $805.3 million in 1999. Return on
average common shareholder's equity was 8.19% in 2000 and 20.31% in 1999.
The largest factor contributing to the increased net income between 2000 and
1999 was the acquisition of Republic New York Corporation (Republic) on December
31, 1999. The acquisition was accounted for as a purchase by the Company. The
fair value of the assets and liabilities of Republic were included in the
balance sheet of the Company as of December 31, 1999. Accordingly, the results
of operations of Republic are included with those of the Company for the period
subsequent to the acquisition.
Republic engaged in five principal lines of business: private banking; consumer
financial services; lending; treasury; and markets. Republic National Bank of
New York (Republic Bank) had 83 branches in the greater New York metropolitan
area, where it was the third-largest deposit taking institution, and 7 branches
in Florida, as well as 36 branches, representative offices or wholly owned
subsidiaries in Latin America, the Caribbean, Europe and Asia. Republic was a
world leader in banknotes and bullion trading and provided the fifth-largest
factoring service in the United States. In addition, it had significant
international private banking operations in New York, Miami, Los Angeles and
Asia. At December 31, 1999 Republic had total assets of $46.9 billion, deposits
of $29.9 billion and common shareholders' equity of $2.9 billion. Republic's net
income for 1999 was $418 million. See page 30 for additional analysis of
Republic.
In December 2000, as part of an internal international reorganization of the
HSBC Group's global private banking operations, the Company distributed its 49%
interest in HSBC Republic Holdings (Luxembourg) S.A. (HRH) from the Bank to its
parent HSBC North America Inc. (HNAI). The distribution, in the form of a return
of capital of $2.8 billion, included its investment in HSBC Investments
(Bahamas) Limited in addition to the $2.5 billion investment in HRH. The assets
transferred were acquired as a part of the acquisition and merger of Republic
New York Corporation (Republic) on December 31, 1999. See Note 2, Acquisitions.
The divestitures were accounted for as transfers of assets between companies
under common control at historical cost. The entities involved were acquired in
conjunction with the Republic merger. The accompanying consolidated financial
statements and related notes reflect a restatement of the December 31, 1999
consolidated balance sheets of the Company and the Bank to exclude the
transferred assets and liabilities as though they had not been acquired
(depooling). Restatement of the 1999 income statement was not required as no
income or expenses from Republic were included in the reported results.
This report includes forward-looking statements that involve inherent risks and
uncertainties. Statements that are not historical facts, including statements
about management's beliefs and expectations, are forward-looking statements. A
number of important factors could cause actual results to differ materially from
those contained in any forward-looking statements. Such factors include, but are
not limited to: sharp and/or rapid changes in interest rates; significant
changes in the economic conditions which could materially change anticipated
credit quality trends and the ability to generate loans; cost savings and
revenue enhancements as well as the nature, costs and timing of integration of
businesses relating to the acquisition;
10
technology changes; significant changes in accounting, tax or regulatory
requirements; and competition in the geographic and business areas in which the
Company conducts its operations.
A detailed review comparing 2000 operations with 1999 and 1998 follows. It
should be read in conjunction with the consolidated financial statements of the
Company which begin on page 37.
11
EARNINGS PERFORMANCE REVIEW
Net Interest Income
Net interest income is the total interest income on earning assets less the
interest expense on deposits and borrowed funds. In the discussion that follows,
interest income and rates are presented and analyzed on a taxable equivalent
basis, in order to permit comparisons of yields on tax-exempt and taxable
assets.
Increase(Decrease) Increase(Decrease)
--------------------------------- ------------------------------------------
2000 Amount % 1999 Amount % 1998
-------- -------- ------- -------- ------ ---- --------
in millions
Interest income $5,343.2 $3,021.0 130.1 $2,322.2 $(13.4) (.6) $2,335.6
Interest expense 3,198.5 2,104.3 192.3 1,094.2 (73.5) (6.3) 1,167.7
-------- -------- ------- -------- ------ ---- --------
Net interest income -
taxable equivalent basis 2,144.7 916.7 74.6 1,228.0 60.1 5.1 1,167.9
Taxable equivalent
adjustment 25.6 23.5 1,102.6 2.1 (.5) (17.5) 2.6
-------- -------- ------- -------- ------ ---- --------
Net interest income $2,119.1 $ 893.2 72.9 $1,225.9 $ 60.6 5.2 $1,165.3
-------- -------- ------- -------- ------ ---- --------
Average earning assets $ 74,313 $ 42,322 132.3 $ 31,991 $1,142 3.7 $ 30,849
Average nonearning assets 8,476 6,237 278.6 2,239 241 12.0 1,998
-------- -------- ------- -------- ------ ---- --------
Average total assets $ 82,789 $ 48,559 141.9 $ 34,230 $1,383 4.2 $ 32,847
-------- -------- ------- -------- ------ ---- --------
Net yield on:
Average earning assets 2.89% (.95)% (24.7) 3.84% .05% 1.3 3.79%
Average total assets 2.59 (1.00) (27.9) 3.59 .03 .8 3.56
======== ======== ======= ======== ====== ==== ========
Net interest income was $2,144.7 million in 2000 compared with $1,228.0 million
in 1999. The Republic acquisition was the principal factor contributing to the
increase in net interest income and average assets. The decrease in net yield in
2000 from 1999 was primarily due to a higher concentration of lower yielding
treasury assets and higher costing foreign deposits as a result of the Republic
acquisition.
The following table presents net interest income components on a taxable
equivalent basis, using marginal tax rates of 35%, and quantifies the changes in
the components according to "volume and rate".
12
Net Interest Income Components Including Volume/Rate Analysis
2000 Compared to 1999 1999 Compared to 1998
Increase(Decrease) Increase(Decrease)
------------------------------- ---------------------------------------
2000 Volume Rate 1999 Volume Rate 1998
-------- -------- ------- -------- ------ ------- --------
in millions
Interest income:
Interest bearing deposits
with banks $ 308.7 $ 176.6 $ 35.1 $ 97.0 $(31.8) $ (7.8) $ 136.6
Federal funds sold and
securities purchased under
resale agreements 215.0 62.1 36.4 116.5 (3.3) (8.2) 128.0
Trading assets 140.5 130.3 (40.6) 50.8 3.9 (4.1) 51.0
Securities 1,605.2 1,329.4 61.1 214.7 (16.2) (1.7) 232.6
Loans:
Domestic:
Commercial 1,359.4 572.9 (38.8) 825.3 155.6 (68.6) 738.3
Consumer
Residential mortgages 1,086.3 382.8 46.6 656.9 (10.6) (17.2) 684.7
Credit card receivables 180.1 (1.3) (5.5) 186.9 (21.0) (4.2) 212.1
Other consumer 186.3 72.3 15.3 98.7 (6.7) (2.3) 107.7
International 261.7 169.3 17.0 75.4 30.5 .3 44.6
-------- -------- ------- -------- ------ ------- --------
Total interest income 5,343.2 2,894.4 126.6 2,322.2 100.4 (113.8) 2,335.6
-------- -------- ------- -------- ------ ------- --------
Interest expense:
Interest bearing demand deposits 8.0 4.9 .8 2.3 (.2) (.5) 3.0
Consumer savings and
other time deposits 780.4 253.8 45.3 481.3 27.0 (64.9) 519.2
Commercial and public savings
and other time deposits 358.3 131.1 73.9 153.3 38.3 (19.2) 134.2
Deposits in foreign offices 1,186.8 892.8 78.0 216.0 25.0 (20.0) 211.0
Short-term borrowings 444.7 312.6 2.5 129.6 (55.2) (19.4) 204.2
Long-term debt 420.3 279.5 29.1 111.7 24.3 (8.7) 96.1
-------- -------- ------- -------- ------ ------- --------
Total interest expense 3,198.5 1,874.7 229.6 1,094.2 59.2 (132.7) 1,167.7
-------- -------- ------- -------- ------ ------- --------
Net interest income -
taxable equivalent basis $2,144.7 $1,019.7 $(103.0) $1,228.0 $ 41.2 $ 18.9 $1,167.9
======== ======== ======= ======== ====== ======= ========
The changes in interest income and interest expense due to both rate and volume
have been allocated in proportion to the absolute amounts of the change in each.
Average Balances and Interest Rates
Average balances and interest rates earned or paid for the past three years are
reported on pages 8 and 9. The Republic acquisition was the principal factor
contributing to the increase in net interest income, average assets and
liabilities and shareholders' equity for 2000. The favorable volume variance for
residential mortgages also reflects loan growth achieved for 2000. The overall
rate environment for 2000 was higher than 1999, with an approximate 1.2%
increase in average prime rate and a 1.1% increase in average LIBOR rate
year-to-year. The unfavorable rate variances for trading assets, domestic
commercial loans and credit card receivables for 2000 compared to 1999 reflect
the impact of lower yielding Republic assets. The rate variance for short-term
borrowings for 2000 compared to 1999 similarly reflects the impact of lower rate
Republic liabilities.
13
Other Operating Income
Other operating income was $832.4 million in 2000 compared with $464.0 million
in 1999 and $460.1 million in 1998.
Increase(Decrease) Increase(Decrease)
----------------------------- ---------------------------------------
2000 Amount % 1999 Amount % 1998
------ ------ ------- ------ ------ ----- ------
in millions
Trust income $ 84.9 $ 32.7 62.6 $ 52.2 $ 4.9 10.4 $ 47.3
Service charges 172.3 43.7 33.9 128.6 13.2 11.5 115.4
Mortgage banking revenue 32.5 2.0 6.7 30.5 (12.6) (29.4) 43.1
Letter of credit fees 53.5 21.0 64.6 32.5 6.6 25.5 25.9
Credit card fees 56.0 9.4 20.4 46.6 2.3 5.1 44.3
Other fee-based income 131.8 75.7 134.9 56.1 7.5 15.5 48.6
Investment product fees 59.0 26.6 82.1 32.4 5.7 21.3 26.7
Interest on Brazilian
tax settlement - (13.1) - 13.1 (19.6) (59.8) 32.7
Other income 73.4 21.5 41.5 51.9 (6.7) (11.4) 58.6
------ ------ ------- ------ ------ ----- ------
Nontrading income 663.4 219.5 49.5 443.9 1.3 .3 442.6
------ ------ ------- ------ ------ ----- ------
Trading revenues 140.2 130.2 1,300.0 10.0 6.3 170.6 3.7
Securities transactions 28.8 18.7 185.6 10.1 (3.7) (27.1) 13.8
------ ------ ------- ------ ------ ----- ------
Total other operating income $832.4 $368.4 79.4 $464.0 $ 3.9 .8 $460.1
====== ====== ======= ====== ====== ===== ======
Nontrading Income
Nontrading income was $663.4 million in 2000 compared with $443.9 million in
1999. The Republic acquisition was the principal factor contributing to the
increase. In addition, increases in trust income, investment product fees and
insurance income reflect growth achieved in our domestic wealth management
business. Mortgage banking revenue for 2000 increased only slightly as a result
of lower gains on sale of mortgages due to the higher interest rate environment
and competitive pricing pressures. The Company received interest of $13.1
million and $32.7 million in 1999 and 1998, respectively, as a result of the
settlement of previously disallowed income tax credits on Brazilian debt. Other
income in 1999 included a gain on the sale of a student loan business of $15.0
million.
14
Total Trading Revenues
Trading revenues are generated by the Company's participation in the foreign
exchange and precious metal markets, from trading derivative contracts,
including interest rate swaps, and trading securities. The following table
presents the components of total trading revenues. The product diversification
data in the table below includes net interest income earned/(paid) on trading
instruments, as well as an allocation by management to reflect the funding
benefit or cost associated with the trading positions. The Republic acquisition
was the principal factor contributing to the increase for 2000. Overall market
conditions for 2000 were stable. During the second half of 2000, the flatter
yield curve reduced opportunities in some markets.
2000 1999 1998
------ ----- -----
in millions
Trading revenues $140.2 $10.0 $ 3.7
Net interest income 52.1 4.6 8.0
------ ----- -----
Total trading related revenues $192.3 $14.6 $11.7
====== ===== =====
Product diversification:
Foreign exchange $ 94.9 $ 6.2 $ 5.5
Precious metals 51.7 - -
Trading account profits and commissions 45.7 8.4 6.2
------ ----- -----
Total trading related revenues $192.3 $14.6 $11.7
====== ===== =====
Securities Transactions
Securities transactions during 2000 resulted in net gains of $28.8 million
compared with net gains of $10.1 million in 1999. These gains resulted from the
sale of investments classified as available for sale and from the redemption of
certain held to maturity securities. Securities were sold as a result of the
rationalization of portfolios in light of the Republic acquisition.
Other Operating Expenses
Increase(Decrease) Increase(Decrease)
------------------------------- ---------------------------------------
2000 Amount % 1999 Amount % 1998
-------- -------- ----- ------ ------ ---- ------
in millions
Salaries and employee benefits $ 979.6 $ 558.3 132.5 $421.3 $11.0 2.7 $410.3
Net occupancy 169.0 80.0 89.9 89.0 (.4) (.5) 89.4
Equipment and software 121.1 67.4 125.6 53.7 2.3 4.4 51.4
Goodwill amortization 176.2 142.9 428.6 33.3 (4.4) (11.7) 37.7
Marketing 34.3 9.9 40.9 24.4 3.0 13.7 21.4
Outside services 105.4 56.3 114.9 49.1 (1.7) (3.5) 50.8
Professional fees 38.4 16.3 73.7 22.1 2.4 12.5 19.7
Other real estate and
owned asset expense (.5) 13.4 96.1 (13.9) 3.2 19.1 (17.1)
Other 282.4 133.5 89.7 148.9 32.3 27.7 116.6
-------- -------- ----- ------ ----- ---- ------
Total other operating expenses $1,905.9 $1,078.0 130.2 $827.9 $47.7 6.1 $780.2
-------- -------- ----- ------ ----- ---- ------
Personnel - average number 14,415 5,509 61.9 8,906 (32) (.4) 8,938
======== ======== ===== ====== ===== ==== ======
Other operating expenses were $1,905.9 million in 2000 compared with $827.9
million in 1999. The increase over 1999 was due primarily to the Republic
acquisition. Included in total other operating expenses for 2000 were $85.0
million of restructuring costs related to the Republic acquisition compared with
$26.7 million in 1999. See Note 2, Acquisitions, on pages 47 through 49 for
further discussion. Additional expenses were also incurred in 2000 to
15
support growth in our domestic wealth management business, as well as
information technology related initiatives including a comprehensive internet
banking product for personal banking customers. Average staffing levels (full
time equivalents) were 14,415 in 2000 compared with 8,906 in 1999. Other real
estate and owned asset expense in 2000 and 1999 benefited from gains on
disposals of properties.
Provision for Credit Losses
Provision for credit losses was $137.6 million in 2000 compared with $90.0
million in 1999. Net charge offs in the credit card portfolio were $60.2 million
and $74.9 million in 2000 and 1999, respectively. Commercial loan net charge
offs were $166.3 million in 2000 compared with $8.7 million in 1999. Although
the overall quality of the portfolio remains sound, there was some deterioration
in the quality of leveraged credits in 2000. These constitute a small portion of
total loans.
An analysis of the allowance for credit losses and the provision for credit
losses begins on page 26.
Income Taxes
The Company recognized income tax expense of $340.5 million and $308.3 million
in 2000 and 1999, respectively.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss carryforwards. The Company has a valuation allowance
for the portion of the Company's net deductible temporary differences which are
not expected to be realized. At December 31, 2000, the Company had a net
deferred tax asset of $92.4 million, as compared with a net deferred tax asset
of $120.7 million at December 31, 1999.
Business Segments
As a result of the Republic acquisition, the Company altered its business
segments that it uses to manage operations as of January 1, 2000. Prior year
disclosures have been conformed to the presentation of current segments. The
Company has four distinct segments that it uses for management reporting:
commercial banking, corporate and institutional banking, personal banking and
investment banking and markets. A description of each segment and the
methodologies used to measure financial performance are included in Note 24,
Business Segments, to the financial statements. The following summarizes the
results for each segment.
Average Liabilities/
Average Assets Equity Pretax Income
----------------------------- ---------------------------- ----------------------
2000 1999 1998 2000 1999 1998 2000 1999 1998
------- ------- ------- ------- ------- ------- ----- ---- ----
Segments: in millions
Commercial banking $14,219 $ 7,411 $ 6,782 $ 9,715 $ 6,065 $ 5,495 $ 249 $215 $216
Corporate/institutional
banking 5,703 3,799 1,940 4,814 2,258 1,440 113 132 78
Personal banking 20,527 12,452 12,835 27,931 16,169 15,852 503 374 392
Investment banking/
markets 38,990 8,401 9,323 30,922 6,816 7,160 310 25 26
Other 3,350 2,167 1,967 9,407 2,922 2,900 (267) 26 53
------- ------- ------- ------- ------- ------- ----- ---- ----
Total $82,789 $34,230 $32,847 $82,789 $34,230 $32,847 $ 908 $772 $765
======= ======= ======= ======= ======= ======= ===== ==== ====
16
The principal factor contributing to the increase in total average assets,
liabilities and equity and pretax income for 2000 was the Republic acquisition.
The decrease in pretax income for corporate/institutional banking segment
compared with 1999 reflects a higher provision for credit losses. The increase
in pretax income for personal banking segment compared with 1999 reflects growth
achieved in our domestic wealth management business. The pretax loss for 2000 in
the other segment includes $85.0 million of restructuring costs and $146.1
million of goodwill amortization related to the Republic acquisition.
The acquisition of commercial loans from the HongkongBank late in 1998
contributed to the increase in 1999 pretax income for the corporate/
institutional banking segment compared with 1998. Pretax income for 1999 in the
personal banking segment included a gain of $15.0 million on the sale of a
student loan business while 1998 included gains of $28.1 million from the sale
of certain credit card portfolios. Pretax income for 1999 in the other segment
included a $13.1 million Brazilian tax settlement compared with a $32.7 million
settlement for 1998.
17
BALANCE SHEET REVIEW
Risk Management
The Company's organizational structure includes a Risk Management Committee
comprised of senior officers to oversee the risk management process. This
committee is charged with the review of the internal control framework which
identifies, measures, monitors and controls the risks undertaken by the various
business and support units and the Company as a whole. It is responsible for the
review of all risks associated with significant new products and activities and
their primary internal controls prior to implementation. The spectrum of risks
includes, but is not limited to, liquidity, market, credit, operational, legal
and reputational risk. The Asset and Liability Policy Committee manages the
details of liquidity and interest rate risk. The management of credit risk is
further discussed on page 22.
Asset/Liability Management
The principal objectives of asset/liability management are to ensure adequate
liquidity and to manage exposure to interest rate, currency and other market
risks. In managing these risks, the Company seeks to protect both its income
stream and the value of its assets.
Liquidity management requires maintaining funds to meet customers' borrowing and
deposit withdrawal requirements as well as funding anticipated growth. Interest
rate exposure management seeks to control both the near term and longer term
effects of interest rate movements on net interest income and other correlated
income.
The Company has a variety of available techniques for implementing asset/
liability management decisions. Overall balance sheet strategy is centralized
under the Asset and Liability Policy Committee, comprised of senior officers.
Authority and responsibility for implementation of the Committee's broad
strategy is controlled under a framework of defined balance sheet position
limits.
The Company employs a combination of market rate risk assessment techniques,
principally dynamic simulation modeling, capital at risk analysis, gap analysis
and Value at Risk (VaR) to assess the sensitivity of its earnings and capital
positions to changes in interest rates. In addition, VaR, stress testing and
other analyses are used for trading activities. These techniques take into
consideration all on-balance sheet and off-balance sheet items. In dynamic
simulation modeling, the primary technique currently used, reactions to a range
of possible future positive and negative interest rate movements are projected
with consideration given to known activities and to the behavioral patterns of
specific pools of assets and liabilities in the corresponding rate environments.
The optionality of some instruments such as mortgage backed securities and the
mortgage loan portfolio is taken into consideration. VaR attempts to capture the
potential loss resulting from unfavorable market developments within a given
time horizon (typically 10 days) and given a certain confidence level (99%).
Management of market risk is further discussed on page 31.
18
The Company maintains a strong liquidity position. The size and stability of the
deposit base are complemented by the maintenance of a surplus borrowing capacity
in the money markets, including the ability to issue additional commercial paper
and access unused lines of credit of $500 million at December 31, 2000.
Wholesale liabilities increased to $18,498 million at December 31, 2000 from
$17,237 million a year ago. The Company also has strong liquidity as a result of
a high level of assets available for immediate sale or pledge including
securities available for sale, trading assets, mortgages and other assets.
Diversification is also a principle employed in asset/liability management. The
Company is an active participant in international banking markets. Managing this
activity requires diversification of the risks among many countries and
counterparties throughout the world. Liabilities, which are primarily interest
bearing deposits and other purchased funds, are obtained from both domestic and
international sources. These sources of funds represent a wide range of
depositors, mostly individuals, and product types. The stability of the funding
base is enhanced by the diversification of the funding sources.
On January 1, 2001 the Company adopted Statement of Financial Accounting
Standards No. 133, Accounting for Derivative Instruments and Hedging Activities
(FAS 133) as amended by FAS 137 and FAS 138. FAS 133 requires that all
derivative financial instruments be recognized at fair value on the balance
sheet. To the extent these derivatives qualify for special hedge accounting
under FAS 133, changes in their value may be offset by the corresponding mark to
market of hedged assets, liabilities or firm commitments or for forecasted
transactions, deferred as component of shareholder's equity until the
transaction occurs. The ineffective portion of the change in value of a
derivative in a qualifying hedge relationship and derivative contracts that do
not qualify for hedge accounting under FAS 133 are recognized currently in
earnings.
Increased earnings volatility will result from the on-going mark to market of
certain economically viable derivative contracts that did not satisfy the
requirements of FAS 133, as well as from the hedge ineffectiveness associated
with the qualifying contracts. The Company expects however that it will be able
to continue to pursue its overall asset and liability risk management objectives
using a combination of derivatives and cash instruments.
Interest Rate Sensitivity
The Company is subject to interest rate risk associated with the repricing
characteristics of its balance sheet assets and liabilities. Specifically, as
interest rates change, interest earning assets reprice at intervals that do not
correspond to the maturities or repricing patterns of interest bearing
liabilities. This mismatch between assets and liabilities in repricing
sensitivity results in shifts in net interest income as interest rates move.
To help manage the risks associated with changes in interest rates, and to
optimize net interest income within ranges of interest rate risk that management
considers acceptable, the Company uses off-balance sheet derivative instruments
such as interest rate swaps, options, futures and forwards as hedges to modify
the repricing characteristics of specific on-balance sheet assets and
liabilities.
The following table shows the repricing structure of assets and liabilities as
of December 31, 2000. For assets and liabilities whose cash flows are subject to
change due to movements in interest rates, such as the sensitivity of
19
mortgage loans to prepayments, data is reported based on the earlier of expected
repricing or maturity. The resulting "gaps" are reviewed to assess the potential
sensitivity to earnings with respect to the direction, magnitude and timing of
changes in market interest rates. Data shown is as of one day, and one day
figures can be distorted by temporary swings in assets or liabilities.
Interest Bearing Funds
Noninterest ------------------------------------------
Bearing 0-90 91-180 181-365 Over 1
December 31, 2000 Funds Days Days Days Year Total
----------- ------- ------ ------- ------- -------
in millions
Assets $ 8,221 $37,697 $3,252 $ 4,422 $29,440 $83,032
Liabilities and shareholders'
equity 15,970 43,431 4,173 5,159 14,299 83,032
------- ------- ------ ------- ------- -------
Effect of derivative contracts - 1,329 4,137 (3,336) (2,130) -
------- ------- ------ ------- ------- -------
Gap position $(7,749) $(4,405) $3,216 $(4,073) $13,011 -
======= ======= ====== ======= ======= =======
Liabilities and shareholders' equity at year-end 2000 include time deposits of
$100,000 or more with maturity dates as follows: $2,880 million, 0-90 days; $799
million, 91-180 days; $613 million, 181-365 days, and $228 million over 1 year.
The Company does not use the static "gap" measurement of interest rate risk
reflected in the table above as a primary management tool. See pages 31 through
33 for further description of earnings at risk measurements and dynamic
simulation modeling employed by the Company to manage interest rate risk.
Commercial Loan Maturities and Sensitivity to Changes in Interest Rates
One Over One Over
Year Through Five
December 31, 2000 or Less Five Years Years
------- ---------- ------
in millions
Domestic:
Construction and mortgage loans $ 965 $2,584 $2,097
Other business and financial 7,972 4,309 270
International 2,945 318 251
------- ------ ------
Total $11,882 $7,211 $2,618
======= ====== ======
Loans with fixed interest rates $ 6,156 $2,603 $2,576
Loans having variable interest rates 5,726 4,608 42
------- ------ ------
Total $11,882 $7,211 $2,618
======= ====== ======
The table presents the contractual maturity and interest sensitivity of domestic
commercial and international loans at year-end 2000.
Securities Portfolios
Debt securities that the Company has the ability and intent to hold to maturity
are reported at amortized cost. Securities acquired principally for the purpose
of selling them in the near term are classified as trading securities and
reported at fair value, with unrealized gains and losses included in earnings.
All other securities are classified as available for sale and carried at fair
value, with unrealized gains and losses included in accumulated other
comprehensive income and reported as a separate component of shareholders'
equity.
20
The following table is an analysis of the carrying values of the securities
portfolios at the end of each of the last three years. The Company did not hold
any securities in the held to maturity category at December 31, 1998.
Held to
Available for Sale Maturity
-------------------------------- --------------------
December 31, 2000 1999 1998 2000 1999
------- ------- ------ ------ ------
in millions
U.S. Treasury $ 323 $ 1,522 $1,580 $ - $ -
U.S. Government agency obligations 9,119 16,383 1,913 3,530 4,092
Obligations of U.S. states and
political subdivisions - - - 718 666
Other domestic debt securities 4,653 4,435 569 12 12
Foreign debt securities 2,555 1,805 - - -
Equity securities 687 472 176 - -
------- ------- ------ ------ ------
Total $17,337 $24,617 $4,238 $4,260 $4,770
======= ======= ====== ====== ======
Equity securities in the table above include Federal Reserve Bank and Federal
Home Loan Bank stock totaling $463 million at December 31, 2000, $238 million at
December 31, 1999 and $156 million at December 31, 1998.
The following table reflects the distribution of maturities of debt securities
held at year-end 2000 together with the approximate taxable equivalent yield of
the portfolio. The yields shown are calculated by dividing annual interest
income, including the accretion of discounts and the amortization of premiums,
by the fair value of securities outstanding at December 31, 2000. Yields on
tax-exempt obligations have been computed on a taxable equivalent basis using
applicable statutory tax rates.
Securities - Contractual Final Maturities and Yield
Within After One After Five After
One but Within but Within Ten
Taxable Year Five Years Ten Years Years
equivalent --------------- --------------- --------------- ---------------
basis Amount Yield Amount Yield Amount Yield Amount Yield
- -------------------------- ------ ----- ------ ----- ------ ----- ------ -----
in millions
Available for sale:
U.S. Treasury $ 11 6.11% $ 150 5.16% $ 161 4.34% $ 1 6.65%
U.S. Government agency 85 6.66 1,507 6.08 305 6.92 7,222 6.93
Foreign debt securities 381 3.50 778 6.99 963 8.98 433 7.61
Other debt securities 419 5.25 1,332 6.69 885 6.91 2,017 7.25
---- ---- ------ ---- ------ ---- ------ ----
Total fair value $896 4.65% $3,767 6.45% $2,314 7.59% $9,673 7.03%
---- ---- ------ ---- ------ ---- ------ ----
Total amortized cost $896 $3,768 $2,291 $9,523
==== ==== ====== ==== ====== ==== ====== ====
Held to maturity:
U.S. Government agency $ 11 7.86% $ 54 7.97% $ 566 7.32% $3,027 7.64%
Obligations of U.S.
states and political
subdivisions 22 3.48 46 5.07 118 5.21 561 5.56
Other debt securities - - - - 1 7.50 11 6.57
---- ---- ------ ---- ------ ---- ------ ----
Total fair value $ 33 4.94% $ 100 6.62% $ 685 6.96% $3,599 7.31%
---- ---- ------ ---- ------ ---- ------ ----
Total amortized cost $ 33 $ 99 $ 662 $3,466
==== ==== ====== ==== ====== ==== ====== ====
The maturity distribution of U.S. Government agency obligations and other
securities which include asset-backed securities, primarily mortgages, are based
on the contractual due date of the final payment. These securities have an
anticipated cash flow that includes contractual principal payments and estimated
prepayments generally resulting in shorter average lives than those based on
contractual maturities.
21
Credit Risk Management
The credit approval and policy function is centralized under the control of the
Chief Credit Officer. The structure is designed to emphasize credit decision
accountability, optimize credit quality, facilitate control of credit policies
and procedures and encourage consistency in the approach to, and management of,
the credit process throughout the Company.
The Risk Management Committee is responsible for oversight of the credit risk
profile of the loan portfolio. The Chief Credit Officer is responsible for the
design and management of the credit function including monitoring and making
changes, where appropriate, to written credit policies.
In addition to active supervision and evaluation by lending officers, periodic
reviews of the loan portfolio are made by internal auditors, independent
auditors, the Board of Directors and regulatory agency examiners. These reviews
cover selected borrowers' current financial position, past and prospective
earnings and cash flow, and realizable value of collateral and guarantees. These
reviews also serve as an early identification of problem credits.
Loans Outstanding
The following table provides a breakdown of major loan categories as of year end
for the past five years.
2000 1999 1998 1997 1996
------- ------- ------- ------- -------
in millions
Domestic:
Commercial:
Construction and mortgage loans $ 5,646 $ 5,648 $ 3,096 $ 2,235 $ 2,085
Other business and financial 12,551 12,002 7,803 5,811 5,094
Consumer:
Residential mortgages 15,836 13,241 9,467 10,008 3,632
Credit card receivables 1,232 1,290 1,291 1,780 1,939
Other consumer loans 1,640 1,231 1,319 1,179 1,433
------- ------- ------- ------- -------
36,905 33,412 22,976 21,013 14,183
------- ------- ------- ------- -------
International:
Government and official institutions 302 444 331 345 359
Banks and other financial institutions 852 727 622 65 95
Commercial and industrial 2,359 3,747 120 199 55
------- ------- ------- ------- -------
3,513 4,918 1,073 609 509
------- ------- ------- ------- -------
Total loans $40,418 $38,330 $24,049 $21,622 $14,692
======= ======= ======= ======= =======
In the fourth quarter of 2000, HSBC acquired Credit Commercial de France. As
part of the consolidation of HSBC's commercial banking activities in the U.S.,
the Company acquired a commercial loan portfolio of approximately $500 million
of the New York office of Credit Commercial de France. Additionally, $2.4
billion of commitments to lend were assumed as part of the acquisition.
In the third quarter of 2000, the Company purchased the banking operations of
Chase Manhattan Bank, Panama. Approximately $390 million of consumer and $220
million of commercial loans were acquired from Chase Panama.
As a result of the Republic acquisition, loans increased approximately $14
billion at December 31, 1999 comprised of $6 billion commercial loans, $4
billion residential mortgages and $4 billion international loans. In 1998 the
Company acquired $1.7 billion of commercial loans from the U.S. corporate
22
banking unit of the HongkongBank completing the consolidation of HSBC's
commercial banking activities in the U.S. Credit card portfolios of
approximately $370 million were sold in 1998. Acquisitions in 1997 included a
commercial mortgage portfolio of approximately $400 million and a residential
mortgage portfolio of $5.1 billion.
During 2000, certain operations of non-U.S. branches and subsidiaries of the
Company were transferred to foreign operations of HSBC. Over $1 billion of
international loans were transferred or sold to other HSBC entities.
International loans to banks and other financial institutions included $297
million and $107 million at year ends 2000 and 1999, respectively, to the HSBC
Group. With respect to other business and financial commercial loans, no single
industry group's aggregate borrowings from the Company exceeded 10% of the total
loan portfolio at December 31, 2000.
Problem Loan Management
Borrowers who experience difficulties in meeting the contractual payment terms
of their loans receive special attention. Depending on circumstances, decisions
may be made to cease accruing interest on such loans.
The Company complies with regulatory requirements which mandate that interest
not be accrued on commercial loans with principal or interest past due for a
period of ninety days unless the loan is both adequately secured and in process
of collection. In addition, commercial loans are designated as nonaccruing when,
in the opinion of management, reasonable doubt exists with respect to
collectibility of all interest and principal based on certain factors, including
adequacy of collateral.
Interest that has been recorded but unpaid on loans placed on nonaccruing status
generally is reversed and reduces current income at the time loans are so
categorized. Interest income on these loans may be recognized to the extent of
cash payments received. In those instances where there is doubt as to
collectibility of principal, any cash interest payments received are applied as
principal reductions. Loans are not reclassified as accruing until interest and
principal payments are brought current and future payments are reasonably
assured.
23
Risk Elements in the Loan Portfolio at Year End
2000 1999 1998 1997 1996
------ ---- ----- ----- -----
in millions
Nonaccruing loans:
Domestic:
Construction and other commercial
real estate $ 35 $ 83 $ 104 $ 129 $ 176
Other domestic loans 372 255 233 181 181
------ ---- ----- ----- -----
Subtotal 407 338 337 310 357
International 16 6 - 1 -
------ ---- ----- ----- -----
Total nonaccruing loans 423 344 337 311 357
Other real estate and owned assets 21 14 9 12 14
------ ---- ----- ----- -----
Total nonaccruing loans, other real estate
and owned assets $ 444 $358 $ 346 $ 323 $ 371
====== ==== ===== ===== =====
Ratios:
Nonaccruing loans to total loans 1.05% .90% 1.40% 1.44% 2.43%
Nonaccruing loans, other real estate
and owned assets to total assets .53 .41 1.02 1.02 1.57
------ ---- ----- ----- -----
Accruing loans contractually past due 90 days or
more as to principal or interest (all domestic):
Residential real estate mortgages $ - $ 13 $ 2 $ 1 $ 12
Credit card receivables 1 1 5 33 35
Other consumer loans 12 3 10 10 12
All other 29 23 13 13 16
------ ---- ----- ----- -----
Total accruing loans contractually past
due 90 days or more $ 42 $ 40 $ 30 $ 57 $ 75
====== ==== ===== ===== =====
In certain situations where the borrower is experiencing temporary cash flow
problems, and after careful examination by management, the interest rate and
payment terms may be adjusted from the original contractual agreement. When this
occurs and the revised terms at the time of renegotiation are less than the
Company would be willing to accept for a new loan with comparable risk, the loan
is separately identified as restructured.
Nonaccruing loans at December 31, 2000 totaled $423 million compared with $344
million a year ago. Of the nonaccruing loans at December 31, 2000 over 34% are
less than 30 days past due as to cash payment of principal and interest.
Nonaccruing loans that have been restructured but remain in nonaccruing status
amounted to $8 million, $32 million and $21 million at December 31, 2000, 1999
and 1998, respectively. Cash payments received on loans on nonaccruing status
during 2000, or since loans were placed on nonaccruing status, whichever was
later, totaled $47 million, $24 million of which was recorded as interest income
and $23 million as reduction of loan principal.
Residential mortgages are generally designated as nonaccruing when delinquent
for more than ninety days. Loans to credit card customers that are past due more
than ninety days are designated as nonaccruing if the customer has agreed to
credit counseling. Other consumer loans are generally not designated as
nonaccruing and are charged off against the allowance for credit losses
according to an established delinquency schedule.
The Company identified impaired loans totaling $224 million at December 31, 2000
of which $109 million had an allocation from the allowance of $46 million. At
December 31, 1999, identified impaired loans were $216 million, of which $110
million had an allocation from the allowance of $64 million.
24
Cross-Border Net Outstandings
The following table presents total cross-border net outstandings in accordance
with Federal Financial Institutions Examination Council (FFIEC) guidelines.
Cross-border net outstandings are amounts payable to the Company by residents of
foreign countries regardless of the currency of claim and local country claims
in excess of local country obligations. Excluded from cross-border net
outstandings are, among other things, the following: local country claims funded
by non-local country obligations (U.S. dollar or other non-local currencies),
principally certificates of deposits issued by a foreign branch, where the
providers of funds agree that, in the event of the occurrence of a sovereign
default or the imposition of currency exchange restrictions in a given country,
they will not be paid until such default is cured or currency restrictions
lifted or, in certain circumstances, they may accept payment in local currency
or assets denominated in local currency (hereinafter referred to as constraint
certificates of deposits); and cross-border claims that are guaranteed by cash
or other external liquid collateral. The Company's cross-border net outstandings
excluded $682 million and $545 million of Brazilian assets funded by constraint
certificates of deposit, at December 31, 2000 and 1999, respectively.
Cross-border net outstandings include deposits in other banks, loans,
acceptances, securities available for sale, trading securities, revaluation
gains on foreign exchange and derivative contracts and accrued interest
receivable.
Cross-Border Net Outstandings Which Exceed .75% of Total Assets at Year End
Banks and Other Government and Commercial
Financial Official and
Institutions Institutions Industrial(1) Total
--------------- -------------- ------------ -----
in millions
December 31, 2000:
France $500 $15 $135 $650
Germany 889 6 77 972
United Kingdom 443 8 208 659
December 31, 1999:
Germany 853 15 60 928
United Kingdom 523 1 265 789
December 31, 1998:
France 345 - - 345
United Kingdom 52 - 641 693
==== === ==== ====
(1) Includes excess of local country claims over local country obligations.
25
Allowance for Credit Losses and Charge Offs
At year-end 2000, the allowance was $525 million, or 1.30% of total loans,
compared with $638 million, or 1.66% of total loans, a year ago. The ratio of
the allowance to nonaccruing loans was 124.06% at December 31, 2000 compared
with 185.72% a year earlier.
2000 1999 1998 1997 1996
------- ------- ------- ------- -------
in millions
Total loans at year end $40,418 $38,330 $24,049 $21,622 $14,692
Average total loans 38,966 23,385 21,392 20,049 13,905
Allowance for credit losses:
Balance at beginning of year $ 638.0 $ 379.7 $ 409.4 $ 418.2 $ 477.5
Allowance related to acquired
(sold) businesses (11.3) 268.6 - 40.3 3.4
Charge offs:
Commercial:
Construction and mortgage loans 11.2 - - - -
Other business and financial 173.0 27.0 27.9 28.3 69.8
Consumer:
Residential mortgages 5.2 12.1 10.2 7.7 2.6
Credit card receivables 70.9 86.5 105.0 137.2 97.9
Other consumer loans 10.9 9.5 9.5 13.5 11.2
International 1.8 - - - -
------- ------- ------- ------- -------
Total charge offs 273.0 135.1 152.6 186.7 181.5
------- ------- ------- ------- -------
Recoveries on loans charged off:
Commercial:
Construction and mortgage loans 3.3 - - - 1.1
Other business and financial 14.6 18.3 22.9 31.3 38.3
Consumer:
Residential mortgages 1.0 1.0 .8 1.0 .5
Credit card receivables 10.7 11.6 14.9 14.1 10.2
Other consumer loans 4.5 3.9 4.3 3.8 4.0
International .2 - - - -
------- ------- ------- ------- -------
Total recoveries 34.3 34.8 42.9 50.2 54.1
------- ------- ------- ------- -------
Total net charge offs 238.7 100.3 109.7 136.5 127.4
------- ------- ------- ------- -------
Translation adjustment .6 - - - -
------- ------- ------- ------- -------
Provision charged to income 137.6 90.0 80.0 87.4 64.7
------- ------- ------- ------- -------
Balance at end of year $ 525.0 $ 638.0 $ 379.7 $ 409.4 $ 418.2
------- ------- ------- ------- -------
Allowance ratios:
Total net charge offs to
average loans .61% .43% .51% .68% .92%
Year-end allowance to:
Year-end total loans 1.30 1.66 1.58 1.89 2.85
Year-end total nonaccruing loans 124.06 185.72 112.74 131.62 116.98
======= ======= ======= ======= =======
Charge offs of individual commercial loans and residential mortgages reflect
management's judgment with respect to the ultimate collectibility of all or part
of the specific loan. Charge offs of consumer loans, excluding residential
mortgages, occur according to an established delinquency schedule.
The allowance for credit losses is evaluated based on an assessment of the
losses inherent in the loan portfolio. This assessment results in an allowance
consisting of allocated and unallocated components.
The allocated component of the allowance includes specific reserves resulting
from the analysis of individual loans and formula-based reserves assigned to
pools of similar loans based on historical loss experience for each loan
category. The specific reserves are based on a regular analysis of all
26
significant commercial credits where the internal credit rating is at or below a
predetermined classification. All other commercial loans are grouped into pools
by credit facility grade. Formula reserves are established based on historical
one year default rates for each pool using data from the last eight quarters,
adjusted for known changes in the economic environment and management judgment.
The allocated portion of the allowance also includes management's determination
of the amounts necessary for loan concentrations.
Residential mortgage loans which are more than 90 days past due are individually
analyzed and appropriate specific reserves are assigned. Other residential
mortgages are grouped into pools based on delinquency status and formula
reserves are established to cover, at a minimum, twelve months of historical net
charge offs using data from the past twelve months' pool loss rates.
Other consumer loans, including credit card receivables, are grouped into pools
based on product and delinquency status. Formula reserves are established to
cover, at a minimum, twelve months of historical charge offs.
The unallocated portion of the allowance is determined based on management's
assessment of general economic conditions as well as specific economic factors
in the individual markets in which the Company operates. This determination
inherently involves a higher degree of uncertainty and considers current risk
factors that may not have yet manifested themselves in the Company's historical
loss factors used to determine the allocated component of the allowance, and it
recognizes that knowledge of the portfolio may be incomplete.
An allocation of the allowance by major loan categories follows.
Allocation of Allowance for Credit Losses
2000 1999 1998 1997 1996
------------- -------------- --------------- -------------- ---------------
% of % of % of % of % of
Loans Loans Loans Loans Loans
to to to to to
Total Total Total Total Total
Amount Loans Amount Loans Amount Loans Amount Loans Amount Loans
------ ----- ------ ----- ------ ----- ------ ----- ------ -----
in millions
Domestic:
Commercial:
Construction and
mortgage loans $ 28 14.0 $ 45 14.8 $ 23 12.8 $ 31 10.4 $ 21 14.2
Other business 163 31.0 163 31.3 62 32.4 53 26.9 75 34.7
Consumer:
Residential mortgages 10 39.2 43 34.5 12 39.4 30 46.3 7 24.7
Credit card receivables 62 3.0 40 3.4 45 5.4 60 8.2 55 13.2
Other consumer 31 4.1 17 3.2 12 5.5 17 5.4 9 9.8
International 117 8.7 116 12.8 31 4.5 26 2.8 26 3.4
Unallocated 114 - 214 - 195 - 192 - 225 -
---- ----- ---- ----- ---- ----- ---- ----- ---- -----
Total $525 100.0 $638 100.0 $380 100.0 $409 100.0 $418 100.0
==== ===== ==== ===== ==== ===== ==== ===== ==== =====
27
The allocations in the table are based on management's current allocation
methodologies. The use of other methods to allocate the allowance would change
the assigned allocation.
Management concludes that the allowance for credit losses, including the
unallocated component, is appropriately stated at December 31, 2000. The U.S.
banking industry continues to carefully assess credit risk considering, among
other things, (1) credit issues still remaining in U.S. consumer banking
businesses, (2) the effect that increasing energy prices will have on bank
customers, and (3) the likelihood of continued economic expansion and the effect
on loan portfolios.
Capital Resources
Total common shareholder's equity at year end 2000 was $6,843 million, compared
with $6,728 million at year end 1999. The equity base increased by $568 million
from net income and reduced by $600 million for common shareholder dividends
paid to HSBC and $28 million for dividends to preferred stock shareholders. The
equity base also increased from the change in unrealized gains on securities
available for sale of $175 million and decreased by $7 million for foreign
currency translation adjustments. The other capital contribution from the parent
of $8 million relates to an HSBC stock option plan in which almost all of the
Company's employees are eligible to participate.
The ratio of common shareholder's equity to total year-end assets was 8.24% at
December 31, 2000 compared with 7.71% at December 31, 1999. Although the
acquisition of Republic was effective December 31, 1999, payment to Republic
shareholders of $7,091 million was delayed, as agreed by the parties to the
transaction in advance, until January 7, 2000 in order to avoid settlement
crossing Year 2000. Had the payment been made at December 31, 1999, the ratio of
common shareholder's equity to total year-end assets would have been 8.39%.
Capital Adequacy
The Federal Reserve Board (FRB) has Risk-Based Capital Guidelines for assessing
the capital adequacy of U.S. banking organizations. The guidelines place balance
sheet assets into four categories of risk weights, primarily based on the
relative credit risk of the counterparty. Some off-balance sheet items such as
letters of credit and loan commitments are taken into account by applying
different categories of "credit conversion factors" to arrive at
credit-equivalent amounts, which are then weighted in the same manner as balance
sheet assets involving similar counterparties. For off-balance sheet items
relating to interest rate and foreign exchange rate contracts, the
credit-equivalent amounts are arrived at by estimating both the current
exposure, mark to market value, and the potential exposure over the remaining
life of each contract. The credit-equivalent amount is similarly assigned to the
risk weight category appropriate to the counterparty.
The guidelines include a measure for market risk inherent in the trading
portfolio. Under the market risk requirements, capital is allocated to support
the amount of market risk that relates to the Company's trading activities
including off-balance sheet derivative contracts associated with trading
activities.
The guidelines include the concept of Tier 1 capital and total capital. The
guidelines establish a minimum standard risk-based target ratio of 8%, of
28
which at least 4% must be in the form of Tier 1 capital. The following table
shows the components of the Company's risk-based capital.
December 31,
-----------------------------
2000 1999
------- -------
in millions
Common shareholder's equity $ 6,726 $ 6,778
Preferred stock 375 375
Guaranteed mandatorily redeemable
preferred securities of subsidiaries 712 710
Less: Goodwill and identifiable intangibles (3,233) (3,309)
Foreign currency translation adjustment (7) (1)
------- -------
Tier 1 capital 4,573 4,553
------- -------
Long-term debt qualifying as risk-
based capital 2,285 2,530
Qualifying aggregate allowance for
credit losses 525 638
45% of unrealized gains on available
for sale equity securities 10 2
------- -------
Tier 2 capital 2,820 3,170
------- -------
Total capital $ 7,393 $ 7,723
======= =======
The capital adequacy guidelines establish a limit on the amount of certain
deferred tax assets that may be included in (that is, not deducted from) Tier 1
capital for risk-based and leverage capital purposes. The deferred tax asset
recognized by the Company meets the criteria for capital recognition and has
been included in the calculation of the Company's capital ratios.
The Company's total risk adjusted assets and off-balance sheet items were
approximately $54.5 billion and $51.2 billion at year ends 2000 and 1999,
respectively. Risk adjusted capital ratios were 8.39% at the Tier 1 level and
13.56% at the total capital level. These ratios compared with 8.89% at the Tier
1 level and 15.08% at the total capital level at December 31, 1999 after being
restated.
Banking industry regulators also have guidelines that set forth the leverage
ratios to be applied to banking organizations in conjunction with the risk-based
capital framework. Under these guidelines, strong bank holding companies must
maintain a minimum leverage ratio of Tier 1 capital to quarterly average total
assets of 3%. At December 31, 2000, the Company had a 5.73% leverage ratio
compared with 14.49% at December 31, 1999 based on quarterly averages after
being restated. Based on period end assets, the ratio was 5.42% at December 31,
1999.
From time to time, the bank regulators propose amendments to or issue
interpretations of risk-based capital guidelines. Such proposals or
interpretations could, upon implementation, affect reported capital ratios and
net risk adjusted assets.
29
Republic Acquisition
As mentioned, the Company acquired Republic on December 31, 1999. The pro forma
combined income statement for the year ended December 31, 1999 reflects the
combination of historical operating results of the Company and Republic and
includes the amortization of necessary acquisition adjustments as if the
combination had taken place at the beginning of 1999. Historical adjustments
have been made to reflect restatement of 1999 Republic results to exclude
activity related to HRH and a Bahamian subsidiary divested in 2000 as part of
the reorganization of HSBC's internal international private banking operations.
Historical Amortization
------------------- of
HSBC Republic Historical Acquisition Pro Forma
Year Ended December 31, 1999 USA Inc. NY Corp. Adjustments Adjustments Combined
------- -------- ----------- ----------- ---------
in millions
Net interest income $1,226 $1,044 $ (48) $ 29 $2,251
Provision for credit losses 90 12 - - 102
------ ------ ----- ----- ------
Net interest income after
provision for credit losses 1,136 1,032 (48) 29 2,149
Other operating income 464 628 (208) (4) 880
------ ------ ----- ----- ------
1,600 1,660 (256) 25 3,029
Operating expenses 828 1,086 (12) 150 2,052
------ ------ ----- ----- ------
Income before taxes 772 574 (244) (125) 977
Income tax expense (benefit) 308 156 (83) (6) 375
------ ------ ----- ----- ------
Net income $ 464 $ 418 $(161) $(119) $ 602
====== ====== ===== ===== ======
The pro forma information may not be indicative of the results that actually
would have occurred if the purchase had been consummated on January 1, 1999 or
which may be obtained in the future. While the Company expects to achieve
certain operating cost savings as a result of the combination, no adjustment has
been included in the pro forma amounts for anticipated operating cost savings or
revenue enhancements. No adjustment has been made for the costs of integrating
businesses. Certain other foreign operations, not adjusted for in the pro forma
results above, were transferred to other HSBC Group members or are expected to
be transferred in the future.
Further, both the Company and Republic recognized certain one-time items in
their 1999 operating results. Pretax results for the Company included settlement
with the U.S. Internal Revenue Service on Brazilian tax credits of $13.1 million
and a gain on the sale of a student loan business of $15.0 million partially
offset by an acquisition related restructuring charge of $26.7 million.
Republic's 1999 pretax operating results included restructuring charges of $97.0
million (unrelated to the acquisition by the Company) partially offset by a gain
of $69.8 million relating to a real estate investment. Republic also benefited
in 1999 from securities gains and foreign exchange income related to Russia and
Brazil. These positions have been exited.
See Note 2 for an analysis of Republic goodwill at December 31, 2000. The
projected annual goodwill amortization expense related to Republic going forward
will be $149 million. This projected amortization is subject to change if
Republic assets and liabilities are subsequently sold.
30
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
In consideration of the degree of interest rate risk inherent in the banking
industry, the Company has interest rate risk management policies designed to
meet performance objectives within defined risk/safety parameters. In the course
of managing interest rate risk, a combination of risk assessment techniques,
including dynamic simulation modeling, gap analysis, and capital at risk
analysis are employed. The combination of these tools enables management to
identify and assess the potential impact of interest rate movements and take
appropriate action.
Certain limits and benchmarks that serve as guidelines in determining the
appropriate levels of interest rate risk for the institution have been
established. One such limit is expressed in terms of the Present Value of a
Basis Point (PVBP), which reflects the change in value of the balance sheet for
a one basis point movement in all interest rates. The institutional PVBP limit
as of December 31, 2000 was plus or minus $4.3 million, which includes distinct
limits associated with trading portfolio activities and off-balance sheet
instruments. Thus, for a one basis point change in interest rates, the policy
dictates that the value of the balance sheet shall not change by more than $4.3
million. As of December 31, 2000, the Company had a position of $(3.7) million
PVBP. Mortgage servicing rights are excluded from the PVBP determination as
their interest rate risk is significantly different from other balance sheet
items. The mortgage servicing rights risk is to lower interest rates, which is
managed through the purchase of appropriate hedges.
The Company also monitors changes in value of the balance sheet for large
movements in interest rates with an overall limit of +/- 10%, after tax, change
from the base case for a 200 basis point gradual rate movement. As of December
31, 2000, for a gradual 200 basis point increase in rates, the value was
projected to drop by 6.2% and for a 200 basis point gradual decrease in rates,
value was projected to drop by 8.2% were no management actions ever taken to
manage exposures to the changing environment.
In addition to the above mentioned limits, the Company's Asset and Liability
Policy Committee monitors, on a monthly basis, the impact of a number of
interest rate scenarios on net interest income. These scenarios include both
rate shock scenarios which assume immediate market rate movements of +/- 10% and
200 basis points, as well as rate change scenarios in which rates rise or fall
by 200 basis points over a twelve month period. The individual limit for such
gradual 200 basis point movements is currently +/- 10%, pretax, of base case
earnings over a twelve month period. Simulations are also performed for other
relevant interest rate scenarios including immediate rate movements and changes
in the shape of the yield curve or in competitive pricing policies. Net interest
income under the various scenarios is reviewed over a twelve month period, as
well as over a three year period. The simulations capture the effects of the
timing of the repricing of all on-balance sheet assets and liabilities, as well
as all off-balance sheet positions such as interest rate swaps, futures and
option contracts. Additionally, the simulations incorporate any behavioral
aspects such as prepayment sensitivity under various scenarios.
For purposes of simulation modeling, base case earnings reflect the existing
balance sheet composition, with balances generally maintained at current levels
by the anticipated reinvestment of expected runoff. These balance sheet levels
will however, factor in specific known or likely changes including material
increases, decreases or anticipated shifts in balances due to management
actions. Current rates and spreads are then applied to produce
31
base case earnings estimates on both a twelve month and three year time horizon.
Rate shocks are then modeled and compared to base earnings (earnings at risk),
and include behavioral assumptions as dictated by specific scenarios relating to
such factors as prepayment sensitivity and the tendency of balances to shift
among various products in different rate environments. It is assumed that no
management actions are taken to manage exposures to the changing environment
being simulated.
Utilizing these modeling techniques, a gradual 200 basis point parallel rise and
fall in the yield curve on January 1, 2001 would cause projected 2001 net
interest income to decrease by $19 million and increase by $17 million,
respectively. This +/- 2% change is well within the Company's +/- 10% limit. An
immediate 100 basis point parallel rise and fall in the yield curve on January
1, 2001, would cause projected 2001 net interest income to decrease by $36
million and increase by $5 million, respectively. A 200 basis point parallel
rise and fall would decrease projected net interest income by $23 million and
$78 million, respectively.
The projections noted above do not take into consideration possible complicating
factors such as the effect of changes in interest rates on the credit quality,
size and composition of the balance sheet. Therefore, although this provides a
reasonable estimate of interest rate sensitivity, actual results will vary from
these estimates, possibly by significant amounts.