10-Q: Quarterly report pursuant to Section 13 or 15(d)
Published on August 16, 1999
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended June 30, 1999
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number: 1-6523
Exact name of registrant as specified in its charter:
Bank of America Corporation
State or other jurisdiction of incorporation or organization:
Delaware
I.R.S. Employer Identification Number:
56-0906609
Address of principal executive offices:
Bank of America Corporate Center
Charlotte, North Carolina 28255
Registrant's telephone number, including area code:
(704) 386-5000
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
On July 31, 1999, there were 1,727,403,256 shares of Bank of America Corporation
Common Stock outstanding.
Bank of America Corporation
Bank of America Corporation and Subsidiaries
Notes to Consolidated Financial Statements
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On September 30, 1998, BankAmerica Corporation (BankAmerica) merged with
and into NationsBank Corporation (the Merger). The combined company was renamed
BankAmerica Corporation and on April 28, 1999, BankAmerica Corporation changed
its name to Bank of America Corporation (the Corporation). The transaction was
accounted for as a pooling of interests. The consolidated financial statements
have been restated to present the combined results of the Corporation as if the
Merger had been in effect for all periods presented.
On January 9, 1998, the Corporation completed its merger with Barnett
Banks, Inc. (Barnett). The transaction was accounted for as a pooling of
interests. The consolidated financial statements have been restated to present
the combined results of the Corporation and Barnett as if the merger had been in
effect for all periods presented.
The Corporation is a Delaware corporation and a multi-bank holding company
registered under the Bank Holding Company Act of 1956, as amended, with its
principal assets being the stock of its subsidiaries. Through its banking and
nonbanking subsidiaries, the Corporation provides a diverse range of financial
services and products throughout the U.S. and in selected international markets.
Note One - Accounting Policies
The consolidated financial statements include the accounts of the
Corporation and its majority-owned subsidiaries. All significant intercompany
accounts and transactions have been eliminated.
The information contained in the consolidated financial statements is
unaudited. In the opinion of management, all normal recurring adjustments
necessary for a fair statement of the interim period results have been made.
Certain prior period amounts have been reclassified to conform to current period
classifications.
Accounting policies followed in the presentation of interim financial
results are presented on pages 56 to 61 of the Corporation's Annual Report on
Form 10-K for the year ended December 31, 1998.
In 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No.133, "Accounting for Derivative and Hedging
Activities" (SFAS 133). This standard requires all derivative instruments to be
recognized as assets or liabilities and measured at their fair values. In
addition, SFAS 133 provides for special hedge accounting, for fair value, cash
flow and foreign currency hedges, provided certain criteria are met. The
Corporation is required to adopt SFAS 133 on or before January 1, 2001. Upon
adoption, all hedging relationships must be redesignated and documented pursuant
to the provisions of the statement. The Corporation is in the process of
evaluating the impact of this statement on its risk management strategies and
processes, information systems and financial statements.
Note Two - Merger-Related Activity
On September 30, 1998, the Corporation completed its merger with
BankAmerica, a multi-bank holding company headquartered in San Francisco,
California. BankAmerica provided banking and other financial services throughout
the U.S. and in selected international markets to consumers and business
customers including corporations, governments and other institutions. As a
result of the Merger, each outstanding share of BankAmerica common stock was
converted into 1.1316 shares of the Corporation's common stock, resulting in the
net issuance of approximately 779 million shares of the Corporation's common
stock to the former BankAmerica shareholders. Each share of NationsBank
Corporation (NationsBank) common stock continued as one share in the new
company's common stock. In addition, approximately 88 million options to
6
purchase the Corporation's common stock were issued to convert similar stock
options granted to certain BankAmerica employees. This transaction was accounted
for as a pooling of interests. Under this method of accounting, the recorded
assets, liabilities, shareholders' equity, income and expenses of NationsBank
and BankAmerica have been combined and reflected at their historical amounts.
NationsBank's total assets, total deposits and total shareholders' equity on the
date of the Merger were approximately $331.9 billion, $166.8 billion and $27.7
billion, respectively. BankAmerica's total assets, total deposits and total
shareholders' equity on the date of the Merger amounted to approximately $263.4
billion, $179.0 billion and $19.6 billion, respectively.
In connection with the Merger, the Corporation recorded a $1,325 million
pre-tax merger-related charge in 1998 of which $725 million ($519 million
after-tax) and $600 million ($441 million after-tax) were recorded in the third
and fourth quarters of 1998, respectively. The total pre-tax charge for 1998
consisted of approximately $740 million primarily of severance and change in
control and other employee-related items, $150 million of conversion and related
costs including occupancy, equipment and customer communication expenses, $300
million of exit and related costs and $135 million of other merger costs
(including legal, investment banking and filing fees). In the second quarter of
1999, the Corporation also recorded a pre-tax merger-related charge of $200
million ($145 million after-tax) in connection with the Merger. The pre-tax
charge consisted of approximately $94 million primarily of severance and change
in control and other employee-related items, $7 million of conversion and
related costs including occupancy, equipment and customer communication
expenses, $97 million of exit and related costs and $2 million of other
merger costs. The Corporation anticipates recording an additional pre-tax
merger-related charge of approximately $325 million ($272 million after-tax) in
1999.
The following table summarizes the activity in the BankAmerica
merger-related reserve during the six months ended June 30, 1999:
On January 9, 1998, the Corporation completed its merger with Barnett
Banks, Inc., a multi-bank holding company headquartered in Jacksonville, Florida
(the Barnett merger). Barnett's total assets, total deposits and total
shareholders' equity on the date of the merger were approximately $46.0 billion,
$35.4 billion and $3.4 billion, respectively. As a result of the Barnett merger,
each outstanding share of Barnett common stock was converted into 1.1875 shares
of the Corporation's common stock, resulting in the net issuance of
approximately 233 million common shares to the former Barnett shareholders. In
addition, approximately 11 million options to purchase the Corporation's common
stock were issued to convert stock options granted to certain Barnett employees.
This transaction was also accounted for as a pooling of interests.
In connection with the Barnett merger, the Corporation incurred a pre-tax
merger-related charge during the first quarter of 1998, of approximately $900
million ($642 million after-tax), which consisted of approximately $375 million
primarily in severance and change in control payments, $300 million of
conversion and related costs including occupancy and equipment expenses
(primarily lease exit costs and the elimination of duplicate facilities and
other capitalized assets), $125 million of exit costs related to contract
7
terminations and $100 million of other merger costs (including legal, investment
banking and filing fees). In the second quarter of 1998, the Corporation
recognized a $430 million gain resulting from the regulatory required
divestitures of certain Barnett branches. As of June 30, 1999, substantially all
of the Barnett merger-related reserves have been utilized.
In 1996, the Corporation completed the initial public offering of 16.1
million shares of Class A Common Stock of BA Merchant Services, Inc. (BAMS), a
subsidiary of the Corporation. On December 22, 1998, the Corporation and BAMS
signed a definitive merger agreement on which the Corporation agreed to buy BAMS
outstanding shares of Class A Common Stock other than the shares owned by the
Corporation. On April 28, 1999, BAMS became a wholly-owned subsidiary of Bank of
America National Trust and Savings Association (Bank of America NT&SA) and each
outstanding share of BAMS common stock other than the shares owned by the
Corporation was converted into the right to receive a cash payment equal to
$20.50 per share without interest, or $339.2 million.
As of June 30, 1999, the Corporation operated its banking activities
primarily under three charters: Bank of America NT&SA, NationsBank, N.A. and
Bank of America, N.A. (USA). On March 31, 1999, NationsBank of Delaware, N.A.
merged with and into Bank of America, N.A. (USA), an Arizona corporation
(formerly known as Bank of America National Association), which operates the
Corporation's credit card business. On April 1, 1999, the mortgage business of
BankAmerica transferred to NationsBanc Mortgage Corporation, which changed its
name to Bank of America Mortgage. On April 8, 1999, the Corporation merged Bank
of America Texas, N.A. into NationsBank, N.A. On July 5, 1999, NationsBank, N.A.
changed its name to Bank of America, N.A. On July 23, 1999, Bank of America,
N.A. merged into Bank of America NT&SA, and the surviving entity of that merger
changed its name to Bank of America, N.A. The Corporation expects to continue
the consolidation of other banking subsidiaries (other than Bank of America,
N.A. (USA)) throughout the remainder of 1999.
Note Three - Trading Account Assets and Liabilities
The fair value of the components of trading account assets and liabilities
on June 30, 1999 and December 31, 1998 and the average fair value for the six
months ended June 30, 1999 were:
See Note Six of the consolidated financial statements on page 12 for
additional information on derivative-dealer positions, including credit risk.
8
Note Four - Loans and Leases
Loans and leases on June 30, 1999 and December 31, 1998 were:
The table below summarizes the changes in the allowance for credit losses
on loans and leases for the three months and six months ended June 30, 1999 and
1998:
The following table presents the recorded investment in specific loans that
were considered impaired on June 30, 1999 and December 31, 1998.
A loan is considered impaired when, based on current information and
events, it is probable that the Corporation will be unable to collect all
amounts due, including principal and interest, according to the contractual
terms of the agreement. Once a loan has been identified as impaired, management
measures impairment in accordance with Statement of Financial Accounting
9
Standards No. 114, "Accounting by Creditors for Impairment of a Loan" (SFAS
114). Impaired loans are measured based on the present value of payments
expected to be received, observable market prices, or for loans that are solely
dependent on the collateral for repayment, the estimated fair value of the
collateral. If the recorded investment in impaired loans exceeds the measure
of estimated fair value, a valuation allowance is established as a component of
the allowance for credit losses.
On June 30, 1999 and December 31, 1998, nonperforming loans, including
certain loans which are considered to be impaired, totaled $2.8 billion and $2.5
billion, respectively. Foreclosed properties amounted to $258 million and $282
million on June 30, 1999 and December 31, 1998, respectively.
Note Five - Debt
In the second quarter of 1999, the Corporation issued $2.2 billion in
senior and subordinated long-term debt, with maturities ranging from 2002 to
2039. Of the $2.2 billion issued, $1.7 billion was converted from fixed rates
ranging from 5.75 percent to 7.25 percent to floating rates through interest
rate swaps at spreads ranging from zero to 29 basis points over the three-month
London InterBank Offered Rate (LIBOR). The remaining $440 million of debt issued
bears interest at spreads ranging from five basis points below three-month LIBOR
to 20 basis points over three-month LIBOR, and at spreads equal to five basis
points below one-month LIBOR .
Bank of America, N.A. maintains a program to offer up to $35 billion of
bank notes from time to time with fixed or floating rates and maturities of 7
days or more from date of issue. On June 30, 1999 there were short-term and
long-term bank notes outstanding under current and former programs of $11.3
billion and $10.4 billion, respectively.
Since October 1996, the Corporation has formed thirteen wholly-owned
grantor trusts to issue trust preferred securities to the public. The grantor
trusts invested the proceeds of such trust preferred securities into junior
subordinated notes of the Corporation. Certain of the trust preferred securities
were issued at a discount. Such trust preferred securities may be redeemed prior
to maturity at the option of the Corporation. The sole assets of each of the
grantor trusts are the Junior Subordinated Deferrable Interest Notes of the
Corporation (the Notes) held by such grantor trusts. The terms of the
outstanding trust preferred securities at June 30, 1999 are summarized as
follows:
10
For additional information on trust preferred securities, see Note Nine of
the Corporation's 1998 Annual Report on Form 10-K on pages 71-72.
At June 30, 1999, the Corporation had commercial paper back-up lines of
credit totaling $1.1 billion, of which $669 million expires in October 1999 and
$479 million expires in October 2002. In addition, the Corporation had a $1.6
billion line of credit which expires in May 2001. At June 30, 1999, there were
no amounts outstanding under these credit facilities. These lines are supported
by fees paid to unaffiliated banks.
As of June 30, 1999, the Corporation had the authority to issue
approximately $4.7 billion of corporate debt and other securities under its
existing shelf registration statement. On July 22, 1999, the Corporation filed a
shelf registration statement for the issuance of $15.0 billion of corporate debt
and other securities. The SEC declared the shelf registration statement
effective as of August 5, 1999.
Under a joint Euro medium-term note program, the Corporation and Bank of
America, N.A. may offer an aggregate of $15.0 billion of senior long-term debt
or, in the case of the Corporation, subordinated notes exclusively to non-United
States residents. The notes bear interest at fixed or floating rates and may be
denominated in U.S. dollars or foreign currencies. The Corporation uses foreign
currency contracts to convert certain foreign-denominated debt into the economic
equivalent of U.S. dollars. On June 30, 1999, $3.9 billion of notes were
outstanding under this program. On June 30, 1999, $3.5 billion of notes were
outstanding under the former BankAmerica Euro medium-term note program, which
was terminated in connection with the Merger. As of July 30, 1999, the
Corporation and Bank of America, N.A. had the authority to issue approximately
$10.6 billion in the aggregate of debt securities under the current program.
In the second quarter of 1999, Bank of America, N.A. issued $2.5 billion in
senior long-term bank notes, with maturities in 2000 and 2001. Of the $2.5
billion issued, $1.52 billion bears interest at floating rates with spreads
ranging from 284 to 285 basis points below the prime rate. Of the remaining $1.0
11
billion, $783 million bears interest at spreads ranging from two to 15 basis
points above three-month LIBOR, and $188 million was issued with fixed rates
ranging from 5.19 percent to 5.64 percent which were converted to floating rates
through interest rate swaps at spreads ranging from 11 to 13 basis points below
three-month LIBOR. During the second quarter of 1999, Bank of America, F.S.B.
received advances from the Federal Home Loan Bank totaling $208 million, with
maturities ranging from 2004 to 2029. Of the $208 million in advances, $200
million bears interest at a floating rate of one basis point below three-month
LIBOR. The remaining $8 million bears interest at fixed rates ranging from 6.06
percent to 6.56 percent.
From July 1, 1999, through August 13, 1999, Bank of America, N.A. issued
$650 million of long-term bank notes.
From July 1, 1999, through August 13, 1999, the Corporation issued $476
million of long-term debt.
On May 25, 1999, Main Place Funding, LLC issued $1.5 billion in
Mortgage-Backed Bonds due May 28, 2002. The bonds were issued at a floating rate
of 12 basis points above three-month LIBOR.
Note Six - Commitments and Contingencies
Credit Extension Commitments
The Corporation enters into commitments to extend credit, standby letters
of credit and commercial letters of credit to meet the financing needs of its
customers. The commitments shown below have been reduced by amounts
collateralized by cash and amounts participated to other financial institutions.
The following summarizes outstanding commitments to extend credit:
Derivatives
Credit Risk Associated with Derivative-Dealer Activities
The table on page 13 presents the notional or contract amounts on June 30,
1999 and December 31, 1998 and the credit risk amounts (the net replacement cost
of contracts in a gain position) of the Corporation's derivative-dealer
positions which are primarily executed in the over-the-counter market. This
table should be read in conjunction with the Off-Balance Sheet section on pages
29 through 33 and Note Eleven of the Corporation's 1998 Annual Report on Form
10-K. The notional or contract amounts indicate the total volume of transactions
and significantly exceed the amount of the Corporation's credit or market risk
associated with these instruments. Credit risk associated with derivatives is
measured as the net replacement cost should the counterparties with contracts in
a gain position to the Corporation completely fail to perform under the terms of
those contracts and any collateral underlying the contracts proves to be of no
value. The credit risk presented in the following table does not consider the
value of any collateral, but generally takes into consideration the effects of
legally enforceable master netting agreements.
12
The table above includes both long and short derivative-dealer positions.
The average fair value of derivative-dealer assets for the six months ended June
30, 1999 and for year ended December 31, 1998 was $14.7 billion and $14.3
billion, respectively. The average fair value of derivative-dealer liabilities
for the six months ended June 30, 1999 and for the year ended December 31, 1998
was $15.1 billion and $13.3 billion, respectively. The fair value of
derivative-dealer assets at June 30, 1999 and December 31, 1998 was $13.8
billion and $16.4 billion, respectively. The fair value of derivative-dealer
liabilities at June 30, 1999 and December 31, 1998 was $13.5 billion and $16.8
billion, respectively.
The Corporation uses credit derivatives to diversify credit risk and lower
its risk portfolio by transferring the exposure of an underlying credit to
another counterparty. The Corporation also uses credit derivatives to generate
revenue by taking on exposure to underlying credits. On the client side, the
Corporation provides credit derivatives to sophisticated customers who wish to
hedge existing credit exposures or take on additional credit exposure to
generate revenue. The majority of the Corporation's credit derivative positions
consist of credit default swaps and total return swaps. As of June 30, 1999 and
December 31, 1998, the Corporation had a notional amount of $14.6 billion and
$16.9 billion, respectively, in credit derivatives.
Asset and Liability Management (ALM) Activities
The table on page 14 outlines the notional amount and fair value of the
Corporation's ALM contracts on June 30, 1999 and December 31, 1998. This table
should be read in conjunction with the Off-Balance Sheet section on pages 29
through 33 and Note Eleven of the Corporation's 1998 Annual Report on Form 10-K.
13
When-Issued Securities
On June 30, 1999, the Corporation had commitments to purchase and sell
when-issued securities of $15.4 billion and $17.9 billion, respectively. On
December 31, 1998, the Corporation had commitments to purchase and sell
when-issued securities of $1.3 billion and $2.4 billion, respectively.
Litigation
In the ordinary course of business, the Corporation and its subsidiaries
are routinely defendants in or parties to a number of pending and threatened
legal actions and proceedings, including actions brought on behalf of various
classes of claimants. In certain of these actions and proceedings substantial
money damages are asserted against the Corporation and its subsidiaries and
certain of these actions and proceedings are based on alleged violations of
consumer protection, securities, environmental, banking and other laws.
The Corporation and certain present and former officers and directors have
been named as defendants in a number of actions filed in several federal courts
that have been consolidated for pretrial purposes before a Missouri federal
court. The amended complaint in the consolidated actions alleges, among other
things, that the defendants failed to disclose material facts about
BankAmerica's losses relating to D.E. Shaw & Co., L.P. until mid-October
1998, in violation of various provisions of federal and state laws. The amended
complaint also alleges that the proxy statement-prospectus of August 4, 1998,
falsely stated that the Merger would be one of equals and alleges a scheme to
have NationsBank gain control over the newly merged entity. The Missouri
federal court has certified classes consisting generally of persons who were
shareholders of NationsBank or BankAmerica on September 30, 1998, or were
entitled to vote on the Merger, or who purchased or acquired securities of the
Corporation or its predecessors between August 4, 1998 and October 13, 1998.
Similar uncertified class actions (including one limited to California
residents) are pending in California state court, alleging violations of the
California Corporations Code and other state laws. The Corporation believes the
actions lack merit and will defend them vigorously. The amount of any ultimate
exposure cannot be determined with certainty at this time.
Management believes that the actions and proceedings and the losses, if
any, resulting from the final outcome thereof, will not be material in the
aggregate to the Corporation's financial position or results of operations.
Note Seven - Stock Repurchase Program
On June 23, 1999, the Corporation's Board of Directors authorized the
repurchase of up to 130 million shares of the Corporation's common stock at an
aggregate cost of up to $10.0 billion. At June 30, 1999, the Corporation
had repurchased 25 million shares of its common stock under an accelerated share
repurchase program, which reduced shareholders' equity by $1.7 billion. Upon
final settlement, the average per-share price of this accelerated share
14
repurchase was $72.63. The remaining buyback authority for common stock under
the current program totaled $8.3 billion at June 30, 1999.
Note Eight - Business Segment Information
Management reports the results of operations of the Corporation through
four business segments: Consumer Banking, which provides comprehensive retail
banking services to individuals and small businesses through multiple delivery
channels; Commercial Banking, which provides a wide range of commercial banking
services for businesses with annual revenues of up to $500 million; Global
Corporate and Investment Banking, which provides a broad array of financial and
investment banking products such as capital-raising products, trade finance,
treasury management, capital markets and financial advisory services to domestic
and international corporations, financial institutions and government entities;
and Principal Investing and Asset Management, which includes direct equity
investments in businesses and investments in general partnership funds, provides
asset management, banking and trust services for high net worth clients both in
the U.S. and internationally through its Private Bank, provides full service and
discount brokerage, investment advisory and investment management, as well as
advisory services for the Corporation's affiliated family of mutual funds.
The following table includes revenue and net income for the six months
ended June 30, 1999 and 1998, and total assets as of June 30, 1999 and 1998 for
each business segment:
There were no material intersegment revenues between the four business
segments.
A reconciliation of the total of the segments' net income to
consolidated net income follows:
15
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
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On September 25, 1998, BankAmerica Corporation reincorporated in Delaware
and on September 30, 1998, NationsBank Corporation (NationsBank) completed its
merger with the former BankAmerica Corporation (BankAmerica) and changed its
name to "BankAmerica Corporation". On April 28, 1999, BankAmerica Corporation
changed its name to Bank of America Corporation (the Corporation). In addition,
on January 9, 1998, the Corporation completed its merger with Barnett Banks,
Inc. (Barnett). The BankAmerica and Barnett mergers were each accounted for as a
pooling of interests and, accordingly, all financial information has been
restated for all periods presented.
This report on Form 10-Q contains certain forward-looking statements that
are subject to risks and uncertainties and include information about possible or
assumed future results of operations. Many possible events or factors could
affect the future financial results and performance of the Corporation. This
could cause results or performance to differ materially from those expressed in
our forward-looking statements. Words such as "expects", "anticipates",
"believes", "estimates", variations of such words and other similar expressions
are intended to identify such forward-looking statements. These statements are
not guarantees of future performance and involve certain risks, uncertainties
and assumptions which are difficult to predict. Therefore, actual outcomes and
results may differ materially from what is expressed or forecasted in, or
implied by, such forward-looking statements. Readers of the Corporation's Form
10-Q should not rely solely on the forward-looking statements and should
consider all uncertainties and risks discussed throughout this report, as well
as those discussed in the Corporation's 1998 Annual Report on Form 10-K filed
March 22, 1999. These statements are representative only on the date hereof, and
the Corporation undertakes no obligation to update any forward-looking
statements made.
The possible events or factors include the following: the Corporation's
loan growth is dependent on economic conditions, as well as various
discretionary factors, such as decisions to securitize, sell, or purchase
certain loans or loan portfolios; syndications or participations of loans;
retention of residential mortgage loans; and the management of borrower,
industry, product and geographic concentrations and the mix of the loan
portfolio. The rate of charge-offs and provision expense can be affected by
local, regional and international economic and market conditions, concentrations
of borrowers, industries, products and geographic locations, the mix of the loan
portfolio and management's judgments regarding the collectibility of loans.
Liquidity requirements may change as a result of fluctuations in assets and
liabilities and off-balance sheet exposures, which will impact the capital and
debt financing needs of the Corporation and the mix of funding sources.
Decisions to purchase, hold or sell securities are also dependent on liquidity
requirements and market volatility, as well as on- and off-balance sheet
positions. Factors that may impact interest rate risk include local, regional
and international economic conditions, levels, mix, maturities, yields or rates
of assets and liabilities, utilization and effectiveness of interest rate
contracts and the wholesale and retail funding sources of the Corporation.
Factors that may cause actual noninterest expense to differ from estimates
include the ability of third parties with whom the Corporation has business
relationships to fully accommodate uncertainties relating to the Corporation's
efforts to prepare its technology systems and non-information technology systems
for the Year 2000, as well as uncertainties relating to the ability of third
parties with whom the Corporation has business relationships to address the Year
2000 issue in a timely and adequate manner. The Corporation is also exposed to
the potential of losses arising from adverse changes in market rates and prices
which can adversely impact the value of financial products, including
securities, loans, deposits, debt and derivative financial instruments, such as
futures, forwards, swaps, options and other financial instruments with similar
characteristics.
In addition, the banking industry in general is subject to various monetary
and fiscal policies and regulations, which include those determined by the
Federal Reserve Board, the Office of the Comptroller of the Currency (OCC),
Federal Deposit Insurance Corporation, state regulators and the Office of Thrift
Supervision, which policies and regulations could affect the Corporation's
results. Other factors that may cause actual results to differ from the
forward-looking statements include the following: competition with other local,
16
regional and international banks, savings and loan associations, credit unions
and other nonbank financial institutions, such as investment banking firms,
investment advisory firms, brokerage firms, mutual funds and insurance
companies, as well as other entities which offer financial services, located
both within and outside the United States; interest rate, market and monetary
fluctuations; inflation; market volatility; general economic conditions and
economic conditions in the geographic regions and industries in which the
Corporation operates; introduction and acceptance of new banking-related
products, services and enhancements; fee pricing strategies, mergers and
acquisitions and their integration into the Corporation and management's ability
to manage these and other risks.
Earnings Review
Table One presents a comparison of selected operating results for the three
months and six months ended June 30, 1999 and 1998. Significant changes in the
Corporation's results of operations and financial position are discussed in the
sections that follow.
Net income for the three months ended June 30, 1999 decreased 16.7 percent
to $1.9 billion from $2.3 billion in the same period of 1998. Earnings per
common share and diluted earnings per common share were $1.10 and $1.07,
respectively, for the three months ended June 30, 1999, compared to $1.32 and
$1.28, respectively, in the comparable period of 1998. Operating net income (net
income excluding merger-related charges) for the three months ended June
30,1999, was $2.1 billion as compared to $2.0 billion from the same period in
1998. Operating earnings per common share and diluted operating earnings per
common share were $1.18 and $1.15, respectively, for the three months ended June
30, 1999, compared to $1.16 and $1.13 in the comparable period for 1998.
See Note Two of the consolidated financial statements on page 6 for additional
information on merger-related activity.
Operating net income for the six months ended June 30, 1999 remained
constant at $4.0 billion as compared to the six months ended June 30, 1998.
Operating earnings per common share and diluted operating earnings per common
share were $2.28 and $2.23, respectively, for the six months ended June 30, 1999
compared to $2.30 and $2.23 in the comparable prior year period. Including
merger-related charges for the six months ended June 30, 1999 of $200 million,
net income increased 5.5 percent to $3.8 billion from $3.6 billion for the six
months ended June 30, 1998, which included net merger-related charges of $470
million. The earnings per common share and diluted earnings per common share for
the six months ended June 30, 1999 were $2.20 and $2.15, respectively, compared
to $2.09 and $2.03 in the comparable prior year period.
Key performance highlights for the six months ended June 30, 1999 were:
o Taxable-equivalent net interest income for the six months ended June 30,
1999 remained constant at $9.3 billion as compared to the six months ended
June 30, 1998. The net interest yield decreased to 3.55 percent for the six
months ended June 30, 1999 compared to 3.81 percent for the six months
ended June 30, 1998 due primarily to higher levels of lower-yielding
investment securities.
o The provision for credit losses for the six months ended June 30, 1999
remained constant at $1.0 billion as compared to the same period in 1998.
Net charge-offs for the six months ended June 30, 1999 remained flat at
$1.0 billion in comparison to the same period in 1998. Net charge-offs as a
percentage of average loans and leases decreased to 0.58 percent for the
six months ended June 30, 1999 compared to 0.60 percent for the six months
ended June 30, 1998. Higher total commercial net charge-offs were offset by
lower net charge-offs in the consumer loan portfolio. Nonperforming assets
on June 30, 1999 were $3.1 billion compared to $2.8 billion at December 31,
1998, the result of higher commercial nonperforming loans.
o Noninterest income decreased 5.4 percent to $6.7 billion for the six months
ended June 30, 1999 compared to $7.1 billion in the same period of 1998.
This decrease was primarily attributable to lower levels of investment
banking income, mortgage servicing income and other income. The decrease
17
was partially offset by higher levels of income from trading account
profits and fees, credit card income and deposit account service charges.
o Other noninterest expense decreased 5.9 percent to $8.9 billion for the six
months ended June 30, 1999 compared to $9.5 billion for the six months
ended June 30, 1998. This decrease was attributable to merger-related
savings resulting in lower levels of personnel expense, professional fees,
other general operating expense and general administrative expense.
o Cash basis ratios, which measure operating performance excluding goodwill
and other intangible assets and the related amortization expense, improved
with cash basis diluted earnings per common share increasing by 4.8 percent
to $2.40 for the six months ended June 30, 1999 compared to $2.29 for the
same period a year ago. Excluding merger-related charges, cash basis
diluted earnings per common share were $2.48 and $2.49 for the six months
ended June 30, 1999 and 1998, respectively. For the six months ended June
30, 1999, return on average tangible common shareholders' equity excluding
merger-related charges decreased to 27.97 percent compared to 31.88 percent
for the same period in 1998. Including merger-related charges, the return
on average tangible common shareholders' equity was 27.05 percent and 29.25
percent for the six months ended June 30, 1999 and 1998, respectively.
o The cash basis efficiency ratio excluding merger-related charges was 52.71
percent for the six months ended June 30, 1999, an improvement of 208 basis
points from the same period in 1998, primarily due to the $561 million
decrease in other noninterest expense for the six months ended June 30,
1999.
18
19
Business Segment Operations
The Corporation provides a diversified range of banking and certain
nonbanking financial services and products through its various subsidiaries.
Management reports the results of the Corporation's operations through four
business segments: Consumer Banking, Commercial Banking, Global Corporate and
Investment Banking, and Principal Investing and Asset Management.
The business segments summarized in Table Two are primarily managed with a
focus on various performance objectives including net income, return on average
equity and operating efficiency. These performance objectives are also presented
on a cash basis, which excludes the impact of goodwill and other intangible
assets and related amortization expense. The net interest income of the business
segments reflects the results of a funds transfer pricing process which derives
net interest income by matching assets and liabilities with similar interest
rate sensitivity and maturity characteristics. Equity capital is allocated to
each business segment based on an assessment of its inherent risk.
See Note Eight of the consolidated financial statements on page 15 for
additional business segment information, including adjustments and a
reconciliation to consolidated net income.
Consumer Banking
The Consumer Banking segment provides comprehensive retail banking products
and services to individuals and small businesses through multiple delivery
channels including approximately 4,500 banking centers and 14,000 automated
teller machines (ATMs). These banking centers and ATMs are located principally
throughout the Corporation's franchise and serve approximately 30 million
households in 21 states and the District of Columbia. This segment also provides
specialized services such as the origination and servicing of residential
mortgage loans, issuance and servicing of credit cards, direct banking via
telephone and personal computer, student lending and certain insurance services.
The consumer finance component provides mortgage, home equity and automobile
loans to consumers, retail finance programs to dealers and lease financing to
purchasers of new and used cars.
Consumer Banking's earnings remained essentially unchanged at $1.9 billion
for the six months ended June 30, 1999 compared to the six months ended June 30,
1998. Taxable-equivalent net interest income decreased one percent to $5.9
billion, primarily reflecting the impact of securitizations, loan sales and
divestitures partially offset by average managed loan growth and reduced funding
costs from deposit expense management. As the Corporation continues to
securitize loans, its role becomes that of a servicer and the servicing income,
as well as the gains on securitizations, are reflected in noninterest income.
Excluding the impact of securitizations, acquisitions and divestitures, average
total loans and leases for the six months ended June 30, 1999 increased 14
percent over average levels for the six months ended June 30, 1998. Average
total deposits for the six months ended June 30, 1999 of $231.4 billion were
essentially unchanged compared to the six months ended June 30, 1998. The net
interest yield increased one basis point for the six months ended June 30, 1999
to 5.02 percent.
The provision for credit losses of $664 million for the six months ended
June 30, 1999 remained essentially unchanged from the same period during 1998.
Noninterest income in Consumer Banking declined nine percent to $3.0
billion for the six months ended June 30, 1999 due to lower mortgage servicing
and production fees and lower other income. Mortgage servicing and production
fees decreased primarily due to higher amortization expense and lower valuation
of servicing rights partially offset by increased mortgage servicing fees.
Noninterest expense decreased seven percent to $5.2 billion due to
reductions primarily in personnel expense, professional fees, other general
operating expense and data processing expense. These decreases mainly reflect
successful merger-related savings efforts. The cash basis efficiency ratio
was 55.4 percent, an improvement of 200 basis points over the six months ended
June 30, 1998. The return on tangible equity remained essentially unchanged
at 29 percent.
Commercial Banking
The Commercial Banking segment provides a wide range of commercial banking
20
services for businesses with annual revenues of up to $500 million. Services
provided include commercial lending, treasury and cash management services,
asset-backed lending and factoring. Also included in this segment are the
Corporation's commercial finance operations which provide: equipment loans and
leases, loans for debt restructuring, mergers and working capital, real estate
and health care financing and inventory financing to manufacturers, distributors
and dealers.
Commercial Banking's earnings decreased 19 percent to $417 million for the
six months ended June 30, 1999 compared to $516 million for the six months ended
June 30, 1998. Taxable-equivalent net interest income decreased $41 million from
the comparable period in 1998, primarily reflecting lower yields on earning
assets. Commercial Banking's average managed loan and lease portfolio during the
six months ended June 30, 1999 increased slightly to $56.7 billion compared to
$55.8 billion during the same period of 1998.
The provision for credit losses for the six months ended June 30, 1999 of
$88 million increased from $30 million for the six months ended June 30, 1998.
Noninterest income increased seven percent to $409 million over the six
months ended June 30, 1998 primarily due to increased revenue from investment
banking activities.
Noninterest expense for the period increased 10 percent to $743 million
primarily due to an increase in other general operating expense. The cash basis
efficiency ratio increased 500 basis points to 46.9 percent. The return on
tangible equity decreased to 24 percent from 27 percent.
Global Corporate and Investment Banking
The Global Corporate and Investment Banking segment provides a broad array
of financial and investment banking products such as capital-raising products,
trade finance, treasury management, investment banking, capital markets, leasing
and financial advisory services to domestic and international corporations,
financial institutions and government entities. Clients are supported through
offices in 37 countries in four distinct geographic regions: U.S. and Canada;
Asia; Europe, Middle East and Africa; and Latin America. Products and services
provided include loan origination, cash management, foreign exchange, leasing,
leveraged finance, project finance, real estate, senior bank debt, structured
finance and trade services. The Global Corporate and Investment Banking segment
also provides commercial banking services for businesses with annual revenues of
$500 million or more. Through a separate subsidiary, Banc of America Securities
LLC, Global Corporate and Investment Banking is a primary dealer of U.S.
Government Securities, underwrites and makes markets in equity securities, and
underwrites and deals in high-grade and high-yield corporate debt securities,
commercial paper, mortgage-backed and asset-backed securities, federal agencies
securities and municipal securities. Banc of America Securities LLC also
provides correspondent clearing services for other securities broker/dealers,
offers traditional brokerage service to high net worth individuals and provides
prime-brokerage services. Debt and equity securities research, loan
syndications, mergers and acquisitions advisory services and private placements
are also provided through Banc of America Securities LLC. Additionally, Global
Corporate and Investment Banking is a market maker in derivative products which
include swap agreements, option contracts, forward settlement contracts,
financial futures, and other derivative products in certain interest rate,
foreign exchange, commodity and equity markets. In support of these activities,
Global Corporate and Investment Banking takes positions in securities and
derivatives to support client demands and for its own account.
Global Corporate and Investment Banking's net income increased 17 percent
to $1.1 billion for the six months ended June 30, 1999 compared to $918 million
for the six months ended June 30, 1998. Taxable-equivalent net interest income
for the six months ended June 30, 1999 decreased one percent to $1.9 billion
primarily due to the impact of lower rates and spread compression on loans and
deposits. The average managed loan and lease portfolio increased eight percent
to $113.6 billion for the six months ended June 30, 1999 compared to $105.6
billion for the six months ended June 30, 1998.
The provision for credit losses decreased from $304 million for the six
months ended June 30, 1998 to $224 million during the same period of 1999. The
decrease is primarily attributable to financial problems in the Asian economies.
Noninterest income for the six months ended June 30, 1999 declined one
percent to $2.3 billion over the six months ended June 30, 1998, reflecting
lower principal investment income, brokerage income and other income partially
21
offset by an increase in trading account profits and fees. The decrease in
investment banking fees and brokerage income is partially attributable to the
sale of the investment banking operations of Robertson Stephens in the third
quarter of 1998.
Noninterest expense decreased six percent, due primarily to decreased
personnel expense and other general operating expense. The cash basis efficiency
ratio decreased to 53.2 percent for the six months ended June 30, 1999 compared
to 56.5 percent for the six months ended June 30, 1998. The return on tangible
equity increased three percent to 21 percent.
Principal Investing and Asset Management
The Principal Investing and Asset Management segment includes Asset
Management which provides asset management, banking and trust services for high
net worth clients both in the U.S. and internationally through its Private Bank.
In addition, this segment provides full service and discount brokerage,
investment advisory and investment management, as well as advisory services for
the Corporation's affiliated family of mutual funds. The Principal Investing
area includes direct equity investments in businesses and investments in general
partnership funds.
Principal Investing and Asset Management earned $392 million for the six
months ended June 30, 1999 compared to $367 million for the six months ended
June 30, 1998, an increase of seven percent. Taxable-equivalent net interest
income for the six months ended June 30, 1999 increased nine percent to $247
million compared to $227 million for the six months ended June 30, 1998,
reflecting increased loan volumes partially offset by increased funding costs.
The average managed loan and lease portfolio for the six months ended
June 30, 1999 increased 34 percent to $18.5 billion compared to $13.8
billion in the same period during 1998.
The provision for credit losses for the six months ended June 30, 1999
increased $34 million from the same period during 1998 primarily due to
portfolio growth.
Noninterest income for the six months ended June 30, 1999 fell three
percent to $1.1 billion compared to the six months ended June 30, 1998.
Investment banking fees decreased due to more favorable market conditions in
the first half of 1998. Asset management fees and brokerage income had strong
core growth in the first half of 1999 which was somewhat mitigated by the sale
of the investment management operations of Robertson Stephens.
Noninterest expense decreased 13 percent to $656 million, due primarily to
lower personnel expense, professional fees, other general operating expense and
data processing expense. The cash basis efficiency ratio decreased 740 basis
points to 48.4 percent. The return on tangible equity decreased to 30 percent
for the six months ended June 30, 1999 from 35 percent for the six months ended
June 30, 1998.
22
Results of Operations
Net Interest Income
An analysis of the Corporation's taxable-equivalent net interest income and
average balance sheet levels for the most recent five quarters and for the six
months ended June 30, 1999 and 1998 is presented in Tables Three and Four,
respectively.
Taxable-equivalent net interest income remained flat at approximately $4.7
billion for the three months ended June 30, 1999 and 1998 and amounted to $9.3
billion for the six months ended June 30, 1999 and 1998. Managed loan growth and
increases in core funding levels were offset by the impact of securitizations,
divestitures, asset sales and lower yields on investment securities. The impact
of lower market interest rates and continuing spread compression on loans and
deposits were materially offset by the favorable impact of these lower rates on
the interest rate spread of the investment securities and swap portfolios.
Average earning assets increased nearly $38.1 billion and $34.0 billion
from the three months ended and six months ended June 30, 1998, respectively, to
$530.0 billion and $526.9 billion in the same periods of 1999. These increases
are primarily attributable to higher levels of investment securities and 11
percent managed loan growth, offset by securitizations, loans sales and
divestitures. Managed consumer loans increased 16 percent, led by franchise-wide
growth in residential mortgages of 24 percent and strong growth in real-estate
secured consumer finance loans of 32 percent. As the Corporation continues to
securitize loans, its role becomes that of a servicer and the servicing income,
as well as the gains on securitizations, is reflected in noninterest income.
Loan growth is dependent on economic conditions as well as various discretionary
23
factors, such as decisions to securitize certain loan portfolios and the
management of borrower, industry, product and geographic concentrations.
The net interest yield decreased 27 basis points to 3.53 percent for the
three months ended June 30, 1999 and decreased 26 basis points to 3.55 percent
for the six months ended June 30, 1999, compared to 3.80 percent and 3.81
percent in the comparable periods of 1998, primarily due to higher levels of
lower-yielding investment securities.
Provision for Credit Losses
The provision for credit losses totaled $510 million and $1.0 billion for
the three months and six months ended June 30, 1999, respectively, compared to
$495 million and $1.0 billion for the same periods in 1998. Total net
charge-offs were essentially covered by the provision for credit losses. Higher
total commercial net charge-offs were offset by lower net charge-offs in the
total consumer loan portfolio. For additional information on the allowance for
credit losses, certain credit quality ratios and credit quality information on
specific loan categories see the "Allowance for Credit Losses" and
"Concentrations of Credit Risk" sections.
Gains on Sales of Securities
Gains on sales of securities were $52 million and $182 million for the
three months and six months ended June 30, 1999, respectively, compared to $120
million and $333 million in the respective periods for 1998. Securities gains
were lower in 1999 as a result of decreased activity connected with the
Corporation's overall risk management operations and less favorable market
conditions for certain debt instruments.
24
26
27
Noninterest Income
As presented in Table Five, noninterest income decreased three percent to
$3.5 billion and five percent to $6.7 billion for the three months and six
months ended June 30, 1999, respectively, reflecting lower levels of investment
banking income, other income, mortgage servicing income and nondeposit-related
service fees. These decreases were partially offset by higher levels of income
from trading account profits and fees, credit card income and deposit account
service fees.
o Mortgage servicing income decreased $82 million to $125 million and $122
million to $257 million for the three months and six months ended June 30,
1999, respectively, as higher service fees and gains from the
capitalization of mortgaging service rights were more than offset by higher
amortization of servicing rights. The average portfolio of loans serviced
increased 13 percent from $216 billion in the six months ended June 30,
1998 to $245 billion in the six months ended June 30, 1999. Mortgage loan
originations through the Corporation's mortgage units were $30.6 billion
for the six months ended June 30, 1999 compared to $30.7 billion in the
same period in 1998. Origination volume for the six months ended June 30,
1999 was composed of approximately $14.3 billion of retail loans and $16.3
billion of correspondent and wholesale loans.
In conducting its mortgage production activities, the Corporation is
exposed to interest rate risk for the period between loan commitment date
and subsequent delivery date. To manage this risk, the Corporation enters
into various financial instruments including forward delivery and option
contracts. The notional amount of such contracts was approximately $6
billion on June 30, 1999 with an associated net unrealized appreciation of
$30 million. These contracts have an average expected maturity of less than
90 days. To manage risk associated with changes in prepayment rates and the
impact on mortgage servicing rights, the Corporation uses various financial
instruments including options and certain swap contracts. The notional
amount of such contracts on June 30, 1999 was $37 billion with associated
net unrealized depreciation of $240 million.
o Investment banking income decreased 16 percent to $555 million and 26
percent to $943 million for the three months and six months ended June 30,
1999, respectively. The decrease was primarily attributable to lower levels
of securities underwriting fees and advisory services fees due to the sale
of the investment banking operations of Robertson Stephens in the third
quarter of 1998. Principal investing income decreased $39 million and $128
million for the three months and six months ended June 30, 1999,
respectively, compared to the same prior year periods, primarily due to
fewer sales of publicly-traded marketable equity securities. Other income
increased $56 million and $82 million for the three months and six months
28
ended June 30, 1999, respectively, primarily due to a $39 million gain on
the sale of securities in the second quarter of 1999. Investment banking
income by major business activity follows:
o Trading account profits and fees increased 70 percent to $395 million and
48 percent to $895 million for the three months and six months ended June
30, 1999, respectively, over the comparable 1998 periods. The increase is
primarily attributable to increased customer activity in interest-rate and
equity derivatives products during the three months ended June 30, 1999.
The fair value of the components of the Corporation's trading account
assets and liabilities on June 30, 1999 and December 31, 1998, as well as
their average fair value for the six months ended June 30, 1999 are
disclosed in Note Three of the consolidated financial statements on page 8.
Trading account profits and fees by major business activity follows:
o Credit card income increased 27 percent to $448 million and 20 percent to
$808 million for the three months and six months ended June 30, 1999,
respectively. This increase was primarily due to higher transaction and
merchant volumes, as well as higher excess servicing income, a result of
higher levels of securitizations compared to the three months and six
months ended June 30, 1998.
o Other income totaled $510 million and $935 million for the three months and
six months ended June 30, 1999, respectively, a decrease of $214 million
and $390 million over the same periods for 1998. The decline was primarily
due to a $110 million gain on the sale of a partial ownership interest in a
mortgage company in the first quarter of 1998 and a $84 million gain on the
sale of real estate in the second quarter of 1998. Other income includes
securitization gains of $32 million and $59 million for the three months
and six months ended June 30, 1999, respectively, compared to $89 million
and $116 million for the three months and six months ended June 30, 1998,
respectively.
29
Other Noninterest Expense
As presented in Table Six, the Corporation's other noninterest expense
decreased seven percent and six percent to $4.5 billion and $8.9 billion for the
three months and six months ended June 30, 1999, respectively, over the same
periods of 1998. This decrease was attributable to merger-related savings
resulting in lower levels of personnel expense, occupancy, professional fees,
other general operating expense and general administrative and other expenses.
A discussion of the significant components of other noninterest expense for
the three months and six months ended June 30, 1999 compared to the same periods
in 1998 follows:
o Personnel expense decreased $164 million and $271 million for the three
months and six months ended June 30, 1999, respectively, compared to the
same periods in 1998 due mainly to merger-related savings in salaries and
wages, incentive compensation and other employee compensation. On June 30,
1999, the Corporation had approximately 162,000 full-time equivalent
employees compared to approximately 171,000 full-time equivalent employees
on December 31, 1998.
o Professional fees decreased 21 percent to $166 million for the three months
ended June 30, 1999 and 28 percent to $292 million for the six months ended
June 30, 1999 compared to the same periods in 1998, primarily due to
decreases in outside legal and professional services.
o Other general operating expense decreased $82 million and $175 million for
the three months and six months ended June 30, 1999, respectively, mainly
as a result of decreases in supplies and other operating expenses.
o General administrative and other expense declined $30 million and $43
million for the three months and six months ended June 30, 1999,
respectively, due mainly to decreased travel expenses and franchise and
personal property taxes.
30
Year 2000 Project
The following is a Year 2000 Readiness Disclosure.
General
Because computers frequently use only two digits to recognize years, on
January 1, 2000, many computer systems, as well as equipment that uses embedded
computer chips, may be unable to distinguish between 1900 and 2000. If not
remediated, this problem could create system errors and failures resulting in
the disruption of normal business operations. Since 2000 is a leap year, there
could also be business disruptions as a result of the inability of many computer
systems to recognize February 29, 2000.
In October 1995, the Corporation began establishing project teams to
address Year 2000 issues. Personnel from these project teams and the
Corporation's business segments have identified and analyzed, and are correcting
and testing, computer systems throughout the Corporation ("Systems"). Personnel
have also taken inventory of equipment that uses embedded computer chips (i.e.,
"non-information technology systems" or "Infrastructure") and scheduled
remediation or replacement of this Infrastructure, as necessary. Examples of
Infrastructure include ATMs, building security systems, fire alarm systems,
identification and access cards, date stamps and elevators. The Corporation
tracks certain Systems and Infrastructure collectively ("Projects"). For
purposes of this section, the information provided for Systems and Projects is
generally provided on a combined basis.
State of Readiness
The Corporation's Year 2000 efforts are generally divided into phases for
analysis, remediation, testing and compliance. In the analysis phase, the
Corporation identifies Systems/Projects and Infrastructure that have Year 2000
issues and determines the steps necessary to remediate these issues. In the
remediation phase, the Corporation replaces, modifies or retires
Systems/Projects or Infrastructure, as necessary. During the testing phase, the
Corporation performs testing to determine whether the remediated
Systems/Projects and Infrastructure accurately process and identify dates. In
the compliance phase, the Corporation internally certifies the Systems/Projects
and Infrastructure that are Year 2000 ready and implements processes to enable
these Systems/Projects and Infrastructure to continue to identify and process
dates accurately through the Year 2000 and thereafter.
As of June 30, 1999, the Corporation has identified approximately 4,500
Systems/Projects. In addition, the Corporation has identified over 16,000
Infrastructure items that may have Year 2000 implications. For Systems/Projects
and Infrastructure, as of June 30, 1999, the analysis, remediation, testing and
compliance phases were all substantially complete. As of June 30, 1999, the
Corporation substantially completed all phases, in accordance with guidelines
established by the Federal Financial Institutions Examination Council (FFIEC),
as such guidelines are interpreted by the OCC.
The Corporation tracks Systems/Projects and Infrastructure for Year
2000-required changes based on a risk evaluation. Of the identified
Systems/Projects and Infrastructure, approximately 1,900 Systems/Projects and
approximately 850 Infrastructure items have been designated "mission critical"
(i.e., if not made Year 2000 ready, these Systems/Projects or Infrastructure
items would substantially impact the normal conduct of business). For mission
critical Systems/Projects and Infrastructure, as of June 30, 1999, the analysis,
remediation, testing and compliance phases were all substantially complete. The
Corporation is also performing additional "time machine testing" (i.e.,
emulating Year 2000 conditions in dedicated environments) on selected mission
critical Systems.
Ultimately, the potential impact of Year 2000 issues will depend not only
on corrective measures the Corporation undertakes, but also on the way in which
Year 2000 issues are addressed by governmental agencies, businesses and other
entities which provide data to, or receive data from, the Corporation, or whose
financial condition or operational capability is important to the Corporation as
borrowers, vendors, customers, investment opportunities (either for the
Corporation's accounts or for the accounts of others) or lenders. In addition,
the Corporation's business may be affected by the corrective measures taken by
31
the landlords and managers of buildings leased by the Corporation. Accordingly,
the Corporation is communicating with certain of these parties to evaluate any
potential impact on the Corporation.
In particular, the Corporation has contacted its service providers and
software vendors (collectively, "Vendors") and has requested information on
their Year 2000 project plans with respect to the services and products provided
by these Vendors. As of June 30, 1999, any Vendor which had not provided
appropriate documentation was placed in an "in process" category, which includes
those Vendors previously called "at risk." In addition, as of June 30, 1999, the
Corporation has designated approximately 36 percent of its Vendors as "mission
critical." As of June 30, 1999, the Corporation has confirmed or received
assurances that approximately 98 percent of the services and products provided
by its Vendors, and approximately 97 percent of the mission critical services
and products provided by its Vendors, are Year 2000 ready, the remainder of
which were "in process." In accordance with its contingency plans, the
Corporation will continue to focus on "in process" mission critical Vendors in
order to mitigate any potential risk.
The Corporation is also tracking the Year 2000 compliance efforts of
certain domestic and international agencies involved with payment systems for
cash and securities clearings. The Corporation has identified 202 agencies, all
of which have responded to the Corporation's inquiries that they are Year 2000
ready as of June 30, 1999.
In addition, the Corporation has completed Year 2000 risk assessments for
substantially all of its commercial credit exposure. By June 30, 1999, the
Corporation reassessed all customers deemed to be "high risk" and "medium risk."
For any customers deemed "high risk", on a quarterly basis, the Corporation's
Credit Review Committee reviews the results of customer assessments prepared by
the customers' relationship managers. Weakness in a borrower's Year 2000
strategy is part of the overall risk assessment process. Risk ratings and
exposure strategy are adjusted as required after consideration of all risk
issues. Any impact on the allowance for credit losses is determined through the
normal risk rating process.
The Corporation is also assessing potential Year 2000 risks associated with
its investment advisory and fiduciary activities. Each investment subsidiary has
a defined investment process and is integrating the consideration of Year 2000
issues into that process. When making investment decisions or recommendations,
the Corporation's investment research areas consider the Year 2000 issue as a
factor in their analysis and may take certain steps to investigate Year 2000
readiness, such as reviewing ratings, research reports and other publicly
available information. In the fiduciary area, the Corporation is continuing to
assess Year 2000 risks for business, real estate, oil and gas, and mineral
interests that are held in trust.
Following the merger with BankAmerica, the Corporation identified its
significant depositors and assessed the Year 2000 readiness of these customers.
The Corporation will continue to monitor these depositors for purposes of
determining any potential liquidity risks to the Corporation.
Costs
The Corporation currently estimates the total cost of the Year 2000 project
to be approximately $550 million. Of this amount, the Corporation has incurred
cumulative Year 2000 costs of approximately $477 million through June 30, 1999.
A significant portion of the costs through June 30, 1999 was not incremental to
the Corporation but instead constituted a reallocation of existing internal
systems technology resources and, accordingly, was funded from normal
operations. Remaining costs are expected to be similarly funded.
Contingency Plans
The Corporation has existing business continuity plans that address its
response to disruptions to business due to natural disasters, civil unrest,
utility outages or other occurrences. Using these existing plans, the
Corporation has developed supplements to address potential Year 2000 issues that
could impact its business processes.
The Corporation has completed approximately 1,100 supplemental plans, of
which approximately 784 are deemed "high risk" or "medium risk" plans that have
been tested to date. The remaining "high risk" supplemental plans, of which
there are currently four, will be tested prior to September 1, 1999. In addition
to these plans, the Corporation has designed and implemented an event management
32
communications center as a single corporate-wide point of coordination and
information about all Year 2000 events, whether internal or external, that may
impact normal business processes. In addition to this center, the Corporation
has developed regional and functional event management teams. The Corporation is
conducting regional and global exercises simulating multiple, simultaneous and
diverse events to practice communication and coordination skills and processes.
During October and November 1999, the Corporation has scheduled all "high
risk" business continuity plans to be reviewed and revalidated to ensure
readiness for possible implementation in 2000.
Risks
Although the Corporation's remediation efforts are directed at reducing its
Year 2000 exposure, there can be no assurance that these efforts will fully
mitigate the effect of Year 2000 issues and it is likely that one or more events
may disrupt the Corporation's normal business operations. In the event the
Corporation fails to identify or correct a material Year 2000 problem, there
could be disruptions in normal business operations, which could have a material
adverse effect on the Corporation's results of operations, liquidity or
financial condition. In addition, there can be no assurance that significant
foreign and domestic third parties will adequately address their Year 2000
issues. Further, there may be some parties, such as governmental agencies,
utilities, telecommunication companies, financial services vendors and other
providers, for which alternative arrangements or resources are not available.
Also, risks associated with some foreign third parties may be greater than those
of domestic parties since there is general concern that some third parties
operating outside the United States are not addressing Year 2000 issues on a
timely basis.
In addition to the foregoing, the Corporation is subject to credit risk to
the extent borrowers fail to adequately address Year 2000 issues, to fiduciary
risk to the extent fiduciary assets fail to adequately address Year 2000 issues,
and to liquidity risk to the extent of deposit withdrawals and to the extent its
lenders are unable to provide the Corporation with funds due to Year 2000
issues. Although it is not possible to quantify the potential impact of these
risks at this time, there may be increases in future years in problem loans,
credit losses, losses in the fiduciary business and liquidity problems, as well
as the risk of litigation and potential losses from litigation related to the
foregoing.
Forward-looking statements contained in the foregoing "Year 2000 Project"
section should be read in conjunction with the cautionary statements included in
the introductory paragraphs under "Management's Discussion and Analysis of
Results of Operations and Financial Condition" on pages 16 and 17.
Income Taxes
The Corporation's income tax expense for the three months and six months
ended June 30, 1999 was $1.1 billion and $2.2 billion, respectively, for
effective tax rates of 37 percent and 36 percent, respectively, or 36 percent
for both periods excluding merger-related charges. Income tax expense for the
three months and six months ended June 30, 1998 was $1.25 billion and $2.13
billion, respectively, for effective tax rates of 35 percent and 37 percent, or
35 percent and 36 percent excluding merger-related charges, respectively.
33
Balance Sheet Review and Liquidity Risk Management
The Corporation utilizes an integrated approach in managing its balance
sheet, which includes management of interest rate sensitivity, credit risk,
liquidity risk and its capital position. The average balances discussed below
can be derived from Table Four. The following discussion addresses changes in
average balances for the six months ended June 30, 1999 compared to the same
period in 1998.
Average levels of customer-based funds increased $5.1 billion to $290.1
billion for the six months ended June 30, 1999 compared to average levels for
the six months ended June 30, 1998. As a percentage of total sources, average
levels of customer-based funds decreased to 47.4 percent for the six months
ended June 30, 1999 from 49.4 percent for the six months ended June 30, 1998.
Average levels of market-based funds increased $18.6 billion for the six
months ended June 30, 1999 to $181.8 billion compared to $163.1 billion for the
six months ended June 30, 1998. In addition, 1999 average levels of long-term
debt increased by $7.1 billion over average levels during the same six month
period in 1998, mainly the result of borrowings to fund earning asset growth,
business development opportunities and share repurchases, and to replace
maturing debt.
Average loans and leases, the Corporation's primary use of funds, increased
$20.4 billion to $362.8 billion during the six months ended June 30, 1999.
Average managed loans and leases during the same period increased $37.9 billion,
or 10.8 percent, to $387.2 billion. This increase in average managed loans and
leases reflects strong loan growth in commercial and consumer products
throughout the franchise, partly attributable to continued strength in consumer
product introductions in certain regions.
The average securities portfolio for the six months ended June 30, 1999
increased $12.4 billion over 1998 levels, representing 12.6 percent of total
uses of funds in the first half of 1999 compared to 11.2 percent in the first
half of 1998. See the following "Securities" section for additional information
on the securities portfolio.
Average other assets and cash and cash equivalents increased $2.1 billion
to $85.6 billion for the six months ended June 30, 1999 due largely to increases
in the average balances of cash and cash equivalents, derivative-dealer assets
and secured accounts receivable, partially offset by a decrease in customers'
acceptance liability.
On June 30, 1999, cash and cash equivalents were $24.2 billion, a decrease
of $4.1 billion from December 31, 1998. During the six months ended June 30,
1999, net cash provided by operating activities was $1.7 billion, net cash used
in investing activities was $15.3 billion and net cash provided by financing
activities was $9.5 billion. For further information on cash flows, see the
Consolidated Statement of Cash Flows on page 4 in the consolidated financial
statements.
Liquidity is a measure of the Corporation's ability to fulfill its cash
requirements and is managed by the Corporation through its asset and liability
management process. The Corporation monitors its assets and liabilities and
modifies these positions as liquidity requirements change. This process, coupled
with the Corporation's ability to raise capital and debt financing, is designed
to cover the liquidity needs of the Corporation. Management believes that the
Corporation's sources of liquidity are more than adequate to meet its cash
requirements. The following discussion provides an overview of significant on-
and off-balance sheet components.
34
Securities
The securities portfolio on June 30, 1999 consisted of securities held for
investment totaling $1.5 billion and securities available for sale totaling
$75.0 billion compared to $2.0 billion and $78.6 billion, respectively, on
December 31, 1998.
On June 30, 1999 and December 31, 1998, the market value of the
Corporation's securities held for investment reflected net unrealized
depreciation of $188 million and $144 million, respectively.
The valuation allowance for securities available for sale, marketable
equity securities and certain servicing assets decreased shareholders' equity by
$1.4 billion on June 30, 1999, primarily reflecting pre-tax depreciation of $2.4
billion on debt securities and pre-tax appreciation of $128 million on
marketable equity securities. The valuation allowance increased shareholders'
equity by $303 million on December 31, 1998. The change in the valuation
allowance was primarily attributable to an upward shift in certain segments of
the U.S. Treasury yield curve during the first half of 1999.
The estimated average duration of securities held for investment and
securities available for sale portfolios were 6.86 years and 4.04 years,
respectively, on June 30, 1999 compared to 5.59 years and 4.14 years,
respectively, on December 31, 1998.
Allowance for Credit Losses
The Corporation performs periodic and systematic detailed reviews of its
loan and lease portfolios to identify risks inherent in and to assess the
overall collectibility of those portfolios. As discussed below, certain
homogeneous loan portfolios are evaluated collectively, while remaining
portfolios are reviewed on an individual loan basis. These detailed reviews,
combined with historical loss experience and other factors, result in the
identification and quantification of specific reserves and loss factors which
are used in determining the amount of the allowance and related provision for
credit losses. The actual amount of credit losses realized may vary from
estimated losses due to changing economic conditions or changes in industry or
geographic concentrations. The Corporation has procedures in place to limit
differences between estimated and actual credit losses, which include detailed
periodic assessments by senior management of the various credit portfolios and
the models used to estimate credit losses in those portfolios.
Due to their homogeneous nature, consumer loans and certain smaller
business loans and leases, which includes residential mortgages, home equity
lines, direct/indirect, consumer finance, bankcard, and foreign consumer loans,
are generally evaluated as a group, based on individual loan type. This
evaluation is based primarily on historical, current and projected delinquency
and loss trends and provides a basis for establishing an adequate level of
allowance for credit losses.
Commercial and commercial real estate loans and leases are generally
evaluated individually due to a general lack of uniformity among individual
loans within each loan type and business segment. If necessary, an allowance for
credit losses is established for individual impaired loans. A loan is considered
impaired when, based on current information and events, it is probable that the
Corporation will be unable to collect all amounts due, including principal and
interest, according to the contractual terms of the agreement. Once a loan has
been identified as impaired, management measures impairment in accordance with
SFAS 114. Impaired loans are measured based on the present value of payments
expected to be received, observable market prices, or for loans that are solely
dependent on the collateral for repayment, the estimated fair value of the
collateral. If the recorded investment in impaired loans exceeds the measure
of estimated fair value, a valuation allowance is established as a component of
the allowance for credit losses.
35
Portions of the allowance for credit losses are assigned to cover the
estimated probable losses in each loan and lease category based on the results
of the Corporation's detail review process as described above. Further
assignments are made based on general and specific economic conditions, as well
as performance trends within specific portfolio segments and individual
concentrations of credit, including geographic and industry concentrations. The
assigned portion of the allowance for credit losses continues to be weighted
toward the commercial loan portfolio, reflecting a higher level of nonperforming
loans and the potential for higher individual losses. The remaining unassigned
portion of the allowance for credit losses, determined separately from the
procedures outlined above, addresses certain industry and geographic
concentrations, including global economic uncertainty, covers exposures for
approved but unfunded legally binding commitments and minimizes the risk related
to the margin of imprecision inherent in the estimation of assigned reserves.
Due to the subjectivity involved in the determination of the unassigned portion
of the allowance for credit losses, the relationship of the unassigned component
to the total allowance for credit losses may fluctuate from period to period.
Management evaluates the adequacy of the allowance for credit losses based on
the combined total of the assigned and unassigned components.
The nature of the process by which the Corporation determines the
appropriate allowance for credit losses requires the exercise of considerable
judgment. After review of all relevant matters affecting loan collectibility,
management believes that the allowance for credit losses is appropriate given
its analysis of inherent credit losses on June 30, 1999.
36
37
Nonperforming Assets
As presented in Table Eight, on June 30, 1999, nonperforming assets were
0.84 percent of net loans, leases and foreclosed properties, compared to 0.86
percent on March 31, 1999, and 0.77 percent, on December 31, 1998. Nonperforming
loans increased to $2.8 billion on June 30, 1999 from $2.5 billion on December
31, 1998 due to higher commercial nonperforming loans. The increase in
nonperforming loans was attributable to a few large credits and several
smaller credits in various industries throughout the United States and overseas.
The increase was not concentrated in any single geographic region or industry.
The allowance coverage of nonperforming loans was 252 percent on June 30, 1999
compared to 287 percent on December 31, 1998.
The Corporation's investment in specific loans that were considered to be
impaired on June 30, and March 31, 1999 were $2.1 billion compared to $1.7
billion as of December 31, 1998. Note Four of the consolidated financial
statements on page 9 provides the reported investment in specific loans
considered to be impaired on June 30, 1999 and December 31, 1998.
Commercial-domestic impaired loans were $1.1 billion at June 30, and
March 31, 1999 from $0.8 billion at December 31, 1998. Commercial - foreign
impaired loans increased to $0.5 billion at June 30, and March 31, 1999 from
$0.3 billion at December 31, 1998. Commercial real estate - domestic impaired
loans decreased to $0.5 billion at June 30, and March 31, 1999 from $0.6 billion
at December 31, 1998.
38
Concentrations of Credit Risk
In an effort to minimize the adverse impact of any single event or set of
occurrences, the Corporation strives to maintain a diverse credit portfolio as
outlined in Tables Ten and Eleven. The following section discusses credit risk
in the loan portfolio, including net charge-offs by loan categories as presented
in Table Nine.
Commercial Real Estate - Total commercial real estate - domestic loans
totaled $25.1 billion and $26.9 billion on June 30, 1999 and December 31, 1998,
respectively, or 7 percent and 8 percent of loans and leases, respectively.
Total commercial real estate - domestic loans, the
portion of such loans which are nonperforming, and other credit exposures are
presented in Table Ten. The exposures presented represent credit extensions for
real estate-related purposes to borrowers or counterparties who are primarily in
the real estate development or investment business and for which the ultimate
repayment of the credit is dependent on the sale, lease, rental or refinancing
of the real estate.
Commercial real estate - domestic loans past due 90 days or more and
still accruing interest were $19 million, or 0.08 percent of commercial real
estate - domestic loans, on June 30, 1999 and $12 million, or 0.04 percent, on
December 31, 1998.
The exposures included in Table Ten do not include credit extensions which
were made on the general creditworthiness of the borrower for which real estate
was obtained as security and for which the ultimate repayment of the credit
is not dependent on the sale, lease, rental or refinancing of the real estate.
Accordingly, the exposures presented do not include commercial loans
secured by owner-occupied real estate, except where the borrower is a real
estate developer. In addition to the amounts presented in the tables,
on June 30, 1999, the Corporation had approximately $15 billion of commercial
loans which were not real estate dependent but for which the Corporation had
obtained real estate as secondary repayment security.
39
Commercial - Total commercial - domestic loans outstanding totaled $136.7
billion and $137.4 billion on June 30, 1999 and December 31, 1998, respectively,
or 38 percent and 39 percent of loans and leases, respectively. The Corporation
had commercial domestic loan net charge-offs for the six months ended June 30,
1999 of $328 million, or 0.48 percent of average commercial - domestic loans,
compared to $77 million, or 0.12 percent of average commercial - domestic loans
for the six months ended June 30, 1998. The increase was spread across several
borrowers without concentration in any single industry or geographic region.
Nonperforming commercial - domestic
40
loans were $1.1 billion, or 0.79 percent of commercial - domestic loans, on June
30, 1999, compared to $812 million, or 0.59 percent, on December 31, 1998.
Commercial - domestic loans past due 90 days or more and still accruing interest
were $192 million, or 0.14 percent of commercial domestic loans, on June 30,
1999 compared to $135 million, or 0.10 percent, on December 31, 1998.
Commercial - foreign loans outstanding totaled $30.5 billion and $31.5
billion on June 30, 1999 and December 31, 1998, respectively, or eight percent
and nine percent of loans and leases, respectively. The Corporation had
commercial - foreign loan net charge-offs for the six months ended June 30,
1999 of $113 million, or 0.74 percent of average commercial - foreign loans,
compared to $71 million, or 0.48 percent of average commercial - foreign
loans for the six months ended June 30, 1998. Nonperforming commercial -
foreign loans were $492 million, or 1.6 percent of commercial - foreign loans,
on June 30, 1999, compared to $314 million, or 1.0 percent, on December 31,
1998. Commercial - foreign loans past due 90 days or more and still accruing
interest were $64 million, or 0.21 percent of commercial - foreign loans, on
June 30, 1999 compared to $23 million, or 0.07 percent, on December 31, 1998.
For additional information see International Developments on page 42.
Consumer - On June 30, 1999 and December 31, 1998, total domestic consumer
loans outstanding totaled $167.4 billion and $157.6 billion, respectively, or 46
percent and 44 percent of loans and leases, respectively.
Average residential mortgage loans were $80.2 billion and $78.0 billion,
respectively, for the three months and six months ended June 30, 1999 compared
to $69.3 billion and $69.8 billion for the same prior year periods, reflecting
an increase in retail origination activity due to a decline in the general level
of interest rates.
Average managed bankcard receivables were $19.2 billion and $19.5 billion,
respectively, for the three months and six months ended June 30, 1999 compared
to $20.4 billion for both the periods in 1998.
Average other consumer loans for the three months and six months ended
June 30, 1999 were $75.9 billion and $74.5 billion, respectively, compared to
$70.9 billion and $71.2 billion for the same prior year periods. The increase
was net of the impact of approximately $4.5 billion of securitizations that
occurred throughout 1998 and $1.9 billion of securitizations for the six months
ended June 30, 1999. Average managed other consumer loans, which include direct
and indirect consumer loans and home equity lines of credit, as well as indirect
auto loan and consumer finance securitizations, totaled $86.5 billion and $84.9
41
billion in the three months and six months ended June 30, 1999, respectively,
and $75.1 billion and $74.4 billion in the same periods of 1998.
Total domestic consumer net charge-offs during the six months ended
June 30, 1999 decreased $273 million compared to the same period in 1998 due
mainly to lower bankcard and consumer finance net charge-offs.
Total consumer loans past due 90 days or more and still accruing interest
were $356 million, or 0.21 percent of total consumer loans, on June 30, 1999
compared to $441 million, or 0.27 percent, on December 31, 1998. Total consumer
nonperforming loans were $1.0 billion, or 0.60 percent of total consumer loans
and $1.1 billion, or 0.65 percent on June 30, 1999 and December 31, 1998,
respectively.
International Developments - During 1998, and continuing into 1999, a
number of countries in Asia, Latin America and Eastern Europe experienced
economic difficulties due to a combination of structural problems and negative
market reaction that resulted from increased awareness of these problems. While
each country's situation is unique, many share common factors such as: (1)
government actions which restrain normal functioning of free markets in physical
goods, capital and/or currencies; (2) perceived weaknesses of the banking
systems; and (3) perceived overvaluation of local currencies. In addition, since
these factors have resulted in capital movement out of the countries or in
reduced capital inflows, many of these countries are experiencing liquidity
problems in addition to the structural problems.
Where appropriate, the Corporation has adjusted its activities (including
its borrower selection) in light of the risks and opportunities discussed above.
The Corporation also has continued to reduce its exposures in Asia, Latin
America and Central and Eastern Europe throughout 1999. The Corporation will
continue to monitor and adjust its foreign activities on a country by country
basis depending on management's judgment of the likely developments in each
country and will take action as deemed appropriate. For a more comprehensive
discussion of the Corporation's risk management processes, refer to pages 29
through 35 of the Corporation's Annual Report on Form 10-K for the year ended
December 31, 1998.
Regional Foreign Exposure - Through its credit and market risk management
activities, the Corporation has been devoting special attention to those
countries that have been negatively impacted by increasing global economic
pressure. This includes special attention to those Asian countries that are
currently experiencing currency and other economic problems, as well as
countries within Latin America and Eastern Europe which are also experiencing
similar problems.
In connection with its efforts to maintain a diversified portfolio, the
Corporation limits its exposure to any one geographic region or country and
monitors this exposure on a continuous basis. Table Twelve sets forth selected
regional exposures as of June 30, 1999. On June 30, 1999, the Corporation's
total exposure was $31.7 billion, a decrease of $5.0 billion from
December 31, 1998.
42
The following table is based on the Federal Financial Institutions
Examination Council's instructions for periodic reporting of foreign exposures.
The table has been expanded to include "Gross Local Country Claims" as defined
in the table below and may not be consistent with disclosures by other financial
institutions.
43
Off-Balance Sheet Financial Instruments
Derivatives - Asset and Liability Management (ALM) Activities
Interest rate contracts are used in the Corporation's ALM process. These
contracts, which are generally non-leveraged generic interest rate and basis
swaps, options and futures, allow the Corporation to effectively manage its
interest rate risk position. Generic interest rate swaps involve the exchange of
fixed-rate and variable-rate interest payments based on the contractual
underlying notional amount. Basis swaps involve the exchange of interest
payments based on the contractual underlying notional amounts, where both the
pay rate and the receive rate are floating rates based on different indices.
Option products primarily consist of caps and floors. Interest rate caps and
floors are agreements where, for a fee, the purchaser obtains the right to
receive interest payments when a variable interest rate moves above or below a
specified cap or floor rate, respectively. Futures contracts used for ALM
activities are primarily index futures providing for cash payments based upon
the movements of a deposit rate index.
The amount of net realized deferred gains associated with terminated ALM
swaps were $246 million and $294 million at June 30, 1999 and December 31, 1998,
respectively. The amount of net realized deferred losses associated with
terminated ALM futures and forward rate contracts was $16 million and $1 million
at June 30, 1999 and December 31, 1998, respectively. The amount of net realized
deferred gains associated with terminated ALM options were $41 million and $26
million at June 30, 1999 and December 31, 1998, respectively. See Note Six of
the consolidated financial statements on page 12 for information on the notional
amount and fair value of the Corporation's ALM interest rate contracts.
In addition, the Corporation uses foreign currency contracts to manage the
foreign exchange risk associated with foreign-denominated assets and
liabilities, as well as the Corporation's equity investments in foreign
subsidiaries. Foreign exchange contracts, which include spot, forward and
futures contracts, represent agreements to exchange the currency of one country
for the currency of another country at an agreed-upon price, on an agreed-upon
settlement date. At June 30, 1999, these contracts had a notional amount of $8.8
billion and an unrealized loss of $10.0 million.
The fair values of the ALM interest rate and foreign exchange portfolios
should be viewed in the context of the overall balance sheet. The value of any
single component of the balance sheet or off-balance sheet positions should not
be viewed in isolation.
For a discussion of the Corporation's management of risk associated with
mortgage production and servicing activities, see the "Noninterest Income"
section on page 28.
Market Risk Management
In the normal course of conducting its business activities, the Corporation
is exposed to market risks including price and liquidity risk. Market risk is
the potential for loss arising from adverse changes in market rates and prices,
such as interest rates (interest rate risk), foreign currency exchange rates
(foreign exchange risk), commodity prices (commodity risk) and prices of equity
securities (equity risk). Financial products that expose the Corporation to
market risk include securities, loans, deposits, debt and derivative financial
instruments such as futures, forwards, swaps, options and other financial
instruments with similar characteristics. Liquidity risk arises from the
possibility that the Corporation may not be able to satisfy current or future
financial commitments or that the Corporation may be more reliant on alternative
funding sources such as long-term debt.
Market risk is managed by the Corporation's Finance Committee, which
formulates policy based on desirable levels of market risk. In setting desirable
levels of market risk, the Finance Committee considers the impact on both
earnings and capital of the current outlook in market rates, potential changes
in market rates, world and regional economies, liquidity, business strategies
and other factors.
With the exception of securities available for sale, which had an
unrealized loss of $2.4 billion at June 30, 1999, compared to an unrealized gain
of $0.4 billion at December 31, 1998, the expected maturities, unrealized gains
and losses and weighted average effective yields and rates associated with the
44
Corporation's significant non-trading, on-balance sheet financial instruments
at June 30, 1999 were not significantly different from those at
December 31, 1998. For a discussion of non-trading, on-balance sheet financial
instruments see page 30 and Table Nine on page 31 of the Market Risk Management
section of the Corporation's 1998 Annual Report on Form 10-K.
Risk management interest rate contracts are utilized in the ALM process.
Such contracts, which are generally non-leveraged generic interest rate and
basis swaps, futures, forwards, and options, allow the Corporation to
effectively manage its interest rate risk position. As reflected in Table
Thirteen, the notional amount of the Corporation's receive fixed and pay fixed
interest rate swaps on June 30, 1999 was $68.1 billion and $24.5 billion,
respectively. The receive fixed interest rate swaps are primarily converting
variable-rate commercial loans to fixed-rate. The net receive fixed position on
June 30, 1999 was $43.6 billion notional compared to $34.7 billion notional on
December 31, 1998. In addition, the Corporation had $8.4 billion notional of
basis swaps at June 30, 1999 linked primarily to loans and long-term debt.
Table Thirteen also summarizes the estimated duration, weighted average pay
and receive rates and the unrealized gains and losses on June 30, 1999 of the
Corporation's ALM interest rate swaps, as well as the estimated duration and
unrealized gains and losses on June 30, 1999 of the Corporation's ALM basis
swaps and options contracts. Unrealized gains and losses are based on the last
repricing and will change in the future primarily based on movements in one-,
three- and six-month LIBOR rates. The ALM swap portfolio had an unrealized loss
of $811 million at June 30, 1999 and an unrealized gain of $942 million at
December 31, 1998. The change is primarily attributable to an increase in
interest rates. The net unrealized loss in the estimated value of the ALM
interest rate contracts should be viewed in the context of the overall balance
sheet. The value of any single component of the balance sheet or off-balance
sheet positions should not be viewed in isolation.
For a discussion of the Corporation's management of risk associated with
mortgage production and servicing activities, see the "Noninterest Income"
section on page 28.
The table on the following page sets forth the calculated value-at-risk
(VAR) amounts for the six months ended June 30, 1999 for the Corporation's
trading activity. The amounts are calculated on a pre-tax basis. The first
45
calculation assumes that each portfolio segment experiences adverse price
movements at the same time (i.e., the price movements are perfectly correlated).
The second calculation assumes that these adverse price movements within the
major portfolio segments do not occur at the same time (i.e., they are
uncorrelated). While the Corporation's trading positions resulted in improved
trading results in the six months ended June 30, 1999, compared to the same
period in 1998, the Corporation continued to lower its market risk. For
additional discussion of market risk associated with the trading portfolio, the
VAR model and how the Corporation manages its exposure to market risk, see pages
32 and 33 of the Corporation's 1998 Annual Report on Form 10-K. The composition
of the trading portfolio and the related fair values are included in Note Three
of the consolidated financial statements on page 8.
Capital Resources and Capital Management
Presented below are the Corporation's regulatory capital ratios on June
30, 1999 and December 31, 1998. The Corporation and its significant banking
subsidiaries were considered "well-capitalized" on June 30, 1999.
The regulatory capital guidelines measure capital in relation to the credit
and market risk of both on- and off-balance sheet items using various risk
weights. Under the regulatory capital guidelines, Total Capital consists of
three tiers of capital. Tier 1 Capital includes common shareholders' equity and
qualifying preferred stock, less goodwill and other adjustments. Tier 2 Capital
consists of preferred stock not qualifying as Tier 1 Capital, mandatory
convertible debt, limited amounts of subordinated debt, other qualifying term
debt and the allowance for credit losses up to 1.25 percent of risk-weighted
assets. Tier 3 Capital includes subordinated debt that is unsecured, fully paid,
has an original maturity of at least two years, is not redeemable before
maturity without prior approval by the Federal Reserve and includes a lock-in
clause precluding payment of either interest or principal if the payment would
cause the issuing bank's risk-based capital ratio to fall or remain below the
46
required minimum. At June 30, 1999, the Corporation had no subordinated debt
that qualified as Tier 3 Capital.
The Corporation's and its significant banking subsidiaries' regulatory
capital ratios on June 30, 1999 exceeded the regulatory minimums of four
percent for Tier 1 risk-based capital, eight percent for total risk-based
capital and the leverage guidelines of 100 to 200 basis points above the
minimum ratio of three percent.
47
48
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
See "Management's Discussion and Analysis of
Results of Operations and Financial Condition -
Market Risk Management" on page 44 and the
sections referenced therein for Quantitative and
Qualitative Disclosures about Market Risk.
- --------------------------------------------------------------------------------
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Part II. Other Information
Item 1. Legal Litigation
Proceedings
In the ordinary course of business, the Corporation and its subsidiaries
are routinely defendants in or parties to a number of pending and threatened
legal actions and proceedings, including actions brought on behalf of various
classes of claimants. In certain of these actions and proceedings substantial
money damages are asserted against the Corporation and its subsidiaries and
certain of these actions and proceedings are based on alleged violations of
consumer protection, securities, environmental, banking and other laws.
The Corporation and certain present and former officers and directors have
been named as defendants in a number of actions filed in several federal courts
that have been consolidated for pretrial purposes before a Missouri federal
court. The amended complaint in the consolidated actions alleges, among other
things, that the defendants failed to disclose material facts about
BankAmerica's losses relating to D.E. Shaw & Co., L.P. until mid-October 1998,
in violation of various provisions of federal and state laws. The amended
complaint also alleges that the proxy statement-prospectus of August 4, 1998,
falsely stated that the Merger would be one of equals and alleges a scheme to
have NationsBank gain control over the newly merged entity. The Missouri federal
court has certified classes consisting generally of persons who were
shareholders of NationsBank or BankAmerica on September 30, 1998, or were
entitled to vote on the Merger, or who purchased or acquired securities of the
Corporation or its predecessors between August 4, 1998 and October 13, 1998.
Similar uncertified class actions (including one limited to California
residents) are pending in California state court, alleging violations of the
California Corporations Code and other state laws. The Corporation believes the
actions lack merit and will defend them vigorously. The amount of any ultimate
exposure cannot be determined with certainty at this time.
Management believes that the actions and proceedings and the losses, if
any, resulting from the final outcome thereof, will not be material in the
aggregate to the Corporation's financial position or results of operations.
49
Item 6. Exhibits a) Exhibits
and Reports on
Form 8-K
Exhibit 11-Earnings Per Common Share Computation
Exhibit 12(a)-Ratio of Earnings to Fixed Charges
Exhibit 12(b)-Ratio of Earnings to Fixed Charges
and Preferred Dividends
Exhibit 27-Financial Data Schedule
b) Reports on Form 8-K
The following reports on Form 8-K were filed by the
Corporation during the quarter ended June 30, 1999:
Current Report on Form 8-K dated April 19, 1999
and filed April 23, 1999, Items 5 and 7.
Current Report on Form 8-K dated April 28, 1999 and
filed May 7, 1999, Items 5 and 7.
Current Report on Form 8-K dated June 9, 1999 and
filed June 15, 1999, Items 5 and 7.
Current Report on Form 8-K dated June 23, 1999 and
filed June 30, 1999, Items 5 and 7.
50
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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.
Bank of America Corporation
---------------------------
Registrant
Date: August 16 , 1999
---------------- /s/ MARC D. OKEN
-----------------
MARC D. OKEN
Executive Vice President and
Principal Financial Executive
(Duly Authorized Officer and
Chief Accounting Officer)
51
Bank of America Corporation
Form 10-Q
Index to Exhibits
- --------------------------------------------------------------------------------
Exhibit Description
11 Earnings Per Common Share Computation
12(a) Ratio of Earnings to Fixed Charges
12(b) Ratio of Earnings to Fixed Charges and Preferred Dividends
27 Financial Data Schedule
52