1
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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 March 31, 2005
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________
Commission file number 1-15403
MARSHALL & ILSLEY CORPORATION
(Exact name of registrant as specified in its charter)
Wisconsin 39-0968604
(State or other jurisdiction of (I.R.S. Employer
Incorporation or organization) Identification No.)
770 North Water Street
Milwaukee, Wisconsin 53202
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (414) 765-7801
None
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has
been subject to such filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated
filer (as defined by Rule 12b-2 of the Exchange Act).
Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Outstanding at
Class April 30, 2005
----- ----------------
Common Stock, $1.00 Par Value 228,957,293
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2
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
MARSHALL & ILSLEY CORPORATION
CONSOLIDATED BALANCE SHEETS (Unaudited)
($000's except share data)
March 31, December 31, March 31,
2005 2004 2004
-------------- ------------- ------------
Assets
------
Cash and cash equivalents:
Cash and due from banks $ 873,102 $ 838,668 $ 690,920
Federal funds sold and security resale agreements 86,822 72,515 22,867
Money market funds 53,594 76,955 43,371
------------ ------------ ------------
Total cash and cash equivalents 1,013,518 988,138 757,158
Investment securities:
Trading securities, at market value 24,379 18,418 46,554
Interest bearing deposits at other banks 17,272 23,105 69,364
Available for sale, at market value 5,459,388 5,358,999 5,207,164
Held to maturity, market value $730,046
($765,101 December 31, and $864,765 March 31, 2004) 698,826 726,386 802,452
------------ ------------ ------------
Total investment securities 6,199,865 6,126,908 6,125,534
Loans held for sale 135,006 81,662 112,984
Loans and leases:
Loans and leases, net of unearned income 30,447,652 29,455,110 25,942,941
Less: Allowance for loan and lease losses 358,280 358,110 353,687
------------ ------------ ------------
Net loans and leases 30,089,372 29,097,000 25,589,254
Premises and equipment, net 444,702 467,225 434,376
Goodwill and other intangibles 2,152,116 2,126,433 1,104,195
Accrued interest and other assets 1,605,942 1,550,036 1,352,934
------------ ------------ ------------
Total Assets $ 41,640,521 $ 40,437,402 $ 35,476,435
============ ============ ============
Liabilities and Shareholders' Equity
------------------------------------
Deposits:
Noninterest bearing $ 4,789,802 $ 4,888,426 $ 4,359,686
Interest bearing 20,911,906 21,566,661 18,791,325
------------ ------------ ------------
Total deposits 25,701,708 26,455,087 23,151,011
Federal funds purchased and security repurchase agreements 1,868,291 1,488,855 2,791,246
Other short-term borrowings 2,588,041 2,041,181 1,827,355
Accrued expenses and other liabilities 1,567,960 1,535,866 1,083,344
Long-term borrowings 5,892,119 5,026,599 3,221,121
------------ ------------ ------------
Total liabilities 37,618,119 36,547,588 32,074,077
Shareholders' equity:
Series A convertible preferred stock, $1.00 par value;
2,000,000 shares authorized -- -- --
Common stock, $1.00 par value; 244,432,222 shares issued
(244,432,222 shares at December 31, 2004 and 240,832,522
shares at March 31, 2004) 244,432 244,432 240,833
Additional paid-in capital 679,030 671,815 553,968
Retained earnings 3,630,259 3,508,477 3,167,467
Accumulated other comprehensive income,
net of related taxes (16,353) 23,338 38,230
Less: Treasury stock, at cost: 15,689,406 shares
(17,091,528 December 31, and
18,768,505 March 31, 2005 475,719 518,231 569,056
Deferred compensation 39,247 40,017 29,084
------------ ------------ ------------
Total shareholders' equity 4,022,402 3,889,814 3,402,358
------------ ------------ ------------
Total Liabilities and Shareholders' Equity $ 41,640,521 $ 40,437,402 $ 35,476,435
============ ============ ============
See notes to financial statements.
3
MARSHALL & ILSLEY CORPORATION
CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
($000's except per share data)
Three Months Ended
March 31,
----------------------------
2005 2004
------------- -------------
Interest income
---------------
Loans and leases $ 416,844 $ 325,952
Investment securities:
Taxable 51,943 48,317
Exempt from federal income taxes 15,407 14,171
Trading securities 69 89
Short-term investments 1,344 544
------------- -------------
Total interest income 485,607 389,073
Interest expense
----------------
Deposits 103,490 55,549
Short-term borrowings 21,962 15,836
Long-term borrowings 68,374 39,052
------------- -------------
Total interest expense 193,826 110,437
Net interest income 291,781 278,636
Provision for loan and lease losses 8,126 9,027
------------- -------------
Net interest income after
provision for loan and lease losses 283,655 269,609
Other income
------------
Data processing services 272,367 186,124
Item processing 10,565 11,432
Trust services 40,346 36,250
Service charges on deposits 23,570 25,523
Gains on sale of mortgage loans 6,937 5,199
Other mortgage banking revenue 1,033 1,765
Net investment securities gains (losses) 5,849 (529)
Life insurance revenue 6,209 6,680
Other 42,658 40,985
------------- -------------
Total other income 409,534 313,429
Other expense
Salaries and employee benefits 238,532 203,928
Net occupancy 22,364 19,195
Equipment 31,010 28,168
Software expenses 13,352 11,225
Processing charges 14,925 13,049
Supplies and printing 6,496 5,706
Professional services 10,886 9,072
Shipping and handling 19,635 16,424
Amortization of intangibles 8,092 5,452
Other 71,154 50,109
------------- -------------
Total other expense 436,446 362,328
------------- -------------
Income before income taxes 256,743 220,710
Provision for income taxes 87,163 74,601
------------- -------------
Net income $ 169,580 $ 146,109
============= =============
Net income per common share
Basic $ 0.75 $ 0.66
Diluted 0.73 0.65
Dividends paid per common share $ 0.210 $ 0.180
Weighted average common shares outstanding (000's):
Basic 227,557 222,301
Diluted 231,610 226,025
See notes to financial statements.
4
MARSHALL & ILSLEY CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
($000's)
Three Months Ended
March 31,
----------------------------
2005 2004
------------- -------------
Net Cash Provided by Operating Activities $ 178,844 $ 155,723
Cash Flows From Investing Activities:
Proceeds from sales of securities available for sale 16,286 4,412
Proceeds from maturities of securities available for sale 260,792 253,449
Proceeds from maturities of securities held to maturity 27,412 18,494
Purchases of securities available for sale (445,348) (660,834)
Net increase in loans (1,058,364) (850,516)
Purchases of assets to be leased (43,929) (52,302)
Principal payments on lease receivables 48,682 76,067
Sales (Purchases) of premises and equipment, net 4,812 (12,613)
Acquisitions, net of cash and cash equivalents acquired (12,308) (6,803)
Other 4,038 3,906
------------- -------------
Net cash used in investing activities (1,197,927) (1,226,740)
Cash Flows From Financing Activities:
Net (decrease) increase in deposits (733,197) 871,889
Proceeds from issuance of commercial paper 1,352,463 1,412,913
Principal payments on commercial paper (1,366,906) (1,393,722)
Net increase (decrease) in other short-term borrowings 699,661 (325,207)
Proceeds from issuance of long-term borrowings 1,153,537 575,596
Payments of long-term borrowings (21,832) (109,247)
Dividends paid (47,798) (39,888)
Purchases of common stock -- (98,381)
Other 8,535 22,596
------------- -------------
Net cash provided by financing activities 1,044,463 916,549
------------- -------------
Net increase (decrease) in cash and cash equivalents 25,380 (154,468)
Cash and cash equivalents, beginning of year 988,138 911,626
------------- -------------
Cash and cash equivalents, end of period $ 1,013,518 $ 757,158
============= =============
Supplemental cash flow information:
Cash paid during the period for:
Interest $ 186,011 $ 112,835
Income taxes 11,394 6,366
See notes to financial statements.
5
MARSHALL & ILSLEY CORPORATION
Notes to Financial Statements
March 31, 2005 & 2004 (Unaudited)
1. The accompanying unaudited consolidated financial statements should
be read in conjunction with Marshall & Ilsley Corporation's ("M&I"
or "Corporation") 2004 Annual Report on Form 10-K. The unaudited
financial information included in this report reflects all
adjustments consisting only of normal recurring accruals and
adjustments which are necessary for a fair statement of the
financial position and results of operations as of and for the three
months ended March 31, 2005 and 2004. The results of operations for
the three months ended March 31, 2005 and 2004 are not necessarily
indicative of results to be expected for the entire year. Certain
amounts in the 2004 consolidated financial statements and analyses
have been reclassified to conform with the 2005 presentation.
2. New Accounting Pronouncement
In December 2004, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards No. 123 (revised
2004) Share-based Payment ("SFAS 123(R)"). SFAS 123(R) replaces
FASB Statement No. 123, Accounting for Stock-Based Compensation and
supercedes Accounting Principles Board Opinion No. 25, Accounting
for Stock Issued to Employees. SFAS 123(R) requires that
compensation costs relating to share-based payment transactions be
recognized in financial statements. That cost is measured based on
the fair value of the equity or liability instruments issued. SFAS
123(R) covers a wide range of share-based compensation arrangements
including share options, restricted share plans, performance based
awards, share appreciation rights, and employee share purchase
plans. SFAS 123(R) also provides guidance on measuring the fair
value of share-based payment awards.
The Corporation was originally required to adopt SFAS 123(R)
beginning in the third quarter of 2005. In April 2005, the
Securities and Exchange Commission ("SEC") announced the adoption of
a new rule that amends the compliance dates for SFAS 123(R). The
new rule allows companies to implement SFAS 123(R) at the beginning
of their next fiscal year. The Corporation plans to adopt SFAS
123(R) effective January 1, 2006.
On March 29, 2005 the SEC released Staff Accounting Bulletin No.
107, "Share-based Payment" ("SAB 107"). SAB 107 expresses views of
the SEC Staff regarding the application of SFAS 123(R). SAB 107 is
intended to assist both public entities in applying the provisions
of SFAS 123(R) and investors and other users of financial statements
in analyzing the information provided under SFAS 123(R).
3. Comprehensive Income
The following tables present the Corporation's comprehensive income
($000's):
Three Months Ended March 31, 2005
-----------------------------------------
Before-Tax Tax (Expense) Net-of-Tax
Amount Benefit Amount
------------- ------------- -------------
Net income $ 169,580
Other comprehensive income:
Unrealized gains (losses) on securities:
Arising during the period $ (75,719) $ 26,739 (48,980)
Reclassification for securities
transactions included in net income 26 (9) 17
------------ ------------ ------------
Unrealized gains (losses) (75,693) 26,730 (48,963)
Net gains (losses) on derivatives
hedging variability of cash flows:
Arising during the period 11,191 (3,917) 7,274
Reclassification adjustments for
hedging activities included in net income 3,074 (1,076) 1,998
------------ ------------ ------------
Net gains (losses) $ 14,265 $ (4,993) 9,272
------------ ------------ ------------
Other comprehensive income (loss) (39,691)
------------
Total comprehensive income $ 129,889
============
6
MARSHALL & ILSLEY CORPORATION
Notes to Financial Statements - Continued
March 31, 2005 & 2004 (Unaudited)
Three Months Ended March 31, 2004
-----------------------------------------
Before-Tax Tax (Expense) Net-of-Tax
Amount Benefit Amount
------------- ------------- -------------
Net income $ 146,109
Other comprehensive income:
Unrealized gains (losses) on securities:
Arising during the period $ 42,444 $ (14,897) 27,547
Reclassification for securities
transactions included in net income -- -- --
------------ ------------ ------------
Unrealized gains (losses) 42,444 (14,897) 27,547
Net gains (losses) on derivatives
hedging variability of cash flows:
Arising during the period 3,297 (1,154) 2,143
Reclassification adjustments for
hedging activities included in net income 8,994 (3,148) 5,846
------------ ------------ ------------
Net gains (losses) $ 12,291 $ (4,302) 7,989
------------ ------------ ------------
Other comprehensive income (loss) 35,536
------------
Total comprehensive income $ 181,645
============
4. A reconciliation of the numerators and denominators of the basic and
diluted per share computations are as follows (dollars and shares in
thousands, except per share data):
Three Months Ended March 31, 2005
-----------------------------------------
Income Average Shares Per Share
(Numerator) (Denominator) Amount
------------- --------------- -----------
Basic Earnings Per Share
Income Available to Common Shareholders $ 169,580 227,557 $ 0.75
==========
Effect of Dilutive Securities
Stock Options, Restricted Stock
and Other Plans -- 4,053
------------ --------------
Diluted Earnings Per Share
Income Available to Common Shareholders $ 169,580 231,610 $ 0.73
==========
Three Months Ended March 31, 2004
-----------------------------------------
Income Average Shares Per Share
(Numerator) (Denominator) Amount
------------- --------------- -----------
Basic Earnings Per Share
Income Available to Common Shareholders $ 146,109 222,301 $ 0.66
==========
Effect of Dilutive Securities
Stock Options, Restricted Stock
and Other Plans -- 3,724
------------ --------------
Diluted Earnings Per Share
Income Available to Common Shareholders $ 146,109 226,025 $ 0.65
==========
Options to purchase shares of common stock not included in the
computation of diluted net income per share because the exercise
prices of the options were greater than the average market price of
the common shares are as follows (000's except price range data):
Three Months Ended March 31,
----------------------------------------
2005 2004
-------------------- ------------------
Shares 3,358 9
Price Range $41.870 - $44.200 $39.340 - $40.150
7
MARSHALL & ILSLEY CORPORATION
Notes to Financial Statements - Continued
March 31, 2005 & 2004 (Unaudited)
Statement of Financial Accounting Standards No. 123 ("SFAS 123"),
"Accounting for Stock-Based Compensation," establishes financial
accounting and reporting standards for stock based employee
compensation plans.
SFAS 123 defines a fair value based method of accounting for
employee stock options or similar equity instruments. Under the
fair value based method, compensation cost is measured at the grant
date based on the fair value of the award using an option-pricing
model that takes into account the stock price at the grant date, the
exercise price, the expected life of the option, the volatility of
the underlying stock, expected dividends and the risk-free interest
rate over the expected life of the option. The resulting
compensation cost is recognized over the service period, which is
usually the vesting period.
Compensation cost can also be measured and accounted for using the
intrinsic value based method of accounting prescribed in Accounting
Principles Board Opinion No. 25 ("APBO 25"), "Accounting for Stock
Issued to Employees." Under the intrinsic value based method,
compensation cost is the excess, if any, of the quoted market price
of the stock at grant date or other measurement date over the amount
paid to acquire the stock.
The largest difference between SFAS 123 and APBO 25 as they relate
to the Corporation is the amount of compensation cost attributable
to the Corporation's fixed stock option plans and employee stock
purchase plan ("ESPP"). Under APBO 25 no compensation cost is
recognized for fixed stock option plans because the exercise price
is equal to the quoted market price at the date of grant and
therefore there is no intrinsic value. SFAS 123 compensation cost
would equal the calculated fair value of the options granted. Under
APBO 25 no compensation cost is recognized for the ESPP because the
discount (15%) and the plan meets the definition of a qualified plan
under the Internal Revenue Code and meets the requirements of APBO
25. Under SFAS 123 the safe-harbor discount threshold is 5% for a
plan to be non-compensatory. SFAS 123 compensation cost would equal
the initial discount (15% of beginning of plan period price per
share) plus the value of a one year call option on 85% of a share of
stock for each share purchased.
As permitted by SFAS 123, the Corporation continues to measure
compensation cost for such plans using the accounting method
prescribed by APBO 25. See Note 2.
Had compensation cost for the Corporation's ESPP and options granted
after January 1, 1995 been determined consistent with SFAS 123, the
Corporation's net income and earnings per share would have been
reduced to the following estimated pro forma amounts ($000's except
per share data):
Three Months Ended
March 31,
-----------------------
2005 2004
---------- ----------
Net Income, as reported $ 169,580 $ 146,109
Add: Stock-based employee compensation expense
included in reported net income, net of 1,072 1,422
Less: Total stock-based employee compensation
expense determined under fair value based
method for all awards, net of tax (5,567) (6,224)
--------- ---------
Pro forma net income $ 165,085 $ 141,307
========= =========
Basic earnings per share:
As reported $ 0.75 $ 0.66
Pro forma 0.73 0.64
Diluted earnings per share:
As reported $ 0.73 $ 0.65
Pro forma 0.71 0.62
The fair value of each option grant was estimated as of the date of
grant using the Black-Scholes closed form option-pricing model for
options granted prior to September 30, 2004. A form of a lattice
option-pricing model was used for options granted after September
30, 2004.
8
MARSHALL & ILSLEY CORPORATION
Notes to Financial Statements - Continued
March 31, 2005 & 2004 (Unaudited)
5. Business Combinations
The following acquisition, which was not considered a material
business combination, was completed during the first quarter of
2005:
In February 2005, Metavante completed the acquisition of all of the
outstanding stock of Prime Associates, Inc. ("Prime") of Clark, New
Jersey, for $24.5 million. Total consideration consisted of 563,114
shares of Marshall & Ilsley Corporation common stock valued at
$24.0 million and $0.5 million in cash. Prime is a provider of
anti-money laundering and fraud interdiction software and data
products for financial institutions, insurance companies and
securities firms. Additional consideration up to $4.0 million may
be paid based upon attainment of certain earnings levels in the year
ending December 31, 2005. Contingent payments, if made, would be
reflected as adjustments to goodwill. Initial goodwill, subject to
the completion of appraisals and valuations of the assets acquired
and liabilities assumed, amounted to $19.9 million. The estimated
identifiable intangible asset to be amortized (customer
relationships) with an estimated useful life of 10 years amounted to
$4.2 million. The goodwill and intangibles resulting from this
transaction are not deductible for tax purposes.
6. Selected investment securities, by type, held by the Corporation are
as follows ($000's):
March 31, December 31, March 31,
2005 2004 2004
-------------- -------------- --------------
Investment securities available for sale:
U.S. treasury and government agencies $ 4,219,316 $ 4,157,374 $ 4,204,236
State and political subdivisions 571,387 504,027 357,737
Mortgage backed securities 142,310 150,658 142,583
Other 526,375 546,940 502,608
------------- ------------- -------------
Total $ 5,459,388 $ 5,358,999 $ 5,207,164
============= ============= =============
Investment securities held to maturity:
State and political subdivisions $ 696,526 $ 724,086 $ 799,632
Other 2,300 2,300 2,820
------------- ------------- -------------
Total $ 698,826 $ 726,386 $ 802,452
============= ============= =============
The following table provides the gross unrealized losses and fair
value, aggregated by investment category and the length of time the
individual securities have been in a continuous unrealized loss
position, at March 31, 2005 ($000's):
Less than 12 months 12 months or more Total
------------------------- ------------------------- -------------------------
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
------------ ------------ ------------ ------------ ------------ ------------
U.S. treasury and
government agencies $ 3,414,261 $ 54,543 $ 140,149 $ 5,195 $ 3,554,410 $ 59,738
State and political
subdivisions 135,357 3,262 20,805 747 156,162 4,009
Mortgage backed
securities 135,109 1,996 -- -- 135,109 1,996
Other 6,999 1 1,802 17 8,801 18
----------- ----------- ----------- ----------- ----------- -----------
Total $ 3,691,726 $ 59,802 $ 162,756 $ 5,959 $ 3,854,482 $ 65,761
=========== =========== =========== =========== =========== ===========
The Corporation believes that the unrealized losses in the
investment securities portfolio resulted from increases in market
interest rates and not from deterioration in the creditworthiness of
the issuer.
9
MARSHALL & ILSLEY CORPORATION
Notes to Financial Statements - Continued
March 31, 2005 & 2004 (Unaudited)
7. The Corporation's loan and lease portfolio, including loans held for
sale, consists of the following ($000's):
March 31, December 31, March 31,
2005 2004 2004
-------------- -------------- --------------
Commercial, financial and agricultural $ 8,708,376 $ 8,483,046 $ 7,288,396
Cash flow hedging
instruments at fair value (28,333) (1,583) 36,058
------------- ------------- -------------
Commercial, financial and agricultural 8,680,043 8,481,463 7,324,454
Real estate:
Construction 2,565,783 2,265,227 1,794,206
Residential mortgage 8,926,430 8,548,029 7,246,141
Commercial mortgage 8,412,078 8,164,099 7,362,506
------------- ------------- -------------
Total real estate 19,904,291 18,977,355 16,402,853
Personal 1,456,111 1,540,024 1,761,886
Lease financing 542,213 537,930 566,732
------------- ------------- -------------
Total loans and leases $ 30,582,658 $ 29,536,772 $ 26,055,925
============= ============= =============
8. Sale of Receivables
During the first quarter of 2005, automobile loans with principal
balances of $106.5 million were sold in securitization transactions.
Net losses of $0.5 million were recognized and are reported in Other
income in the Consolidated Statements of Income. Other income
associated with auto securitizations, primarily servicing fees,
amounted to $1.0 million in the current quarter.
Key economic assumptions used in measuring the retained interests at
the date of securitization resulting from securitizations completed
during the first quarter were as follows (rate per annum):
Prepayment speed (CPR) 15-40 %
Weighted average life (in months) 20.0
Expected credit losses (based
on original balances) 0.22-0.74 %
Residual cash flow discount rate 12.0 %
Variable returns to transferees Forward one month LIBOR yield curve
At March 31, 2005, securitized automobile loans and other automobile
loans managed together with them, along with delinquency and credit
loss information consisted of the following ($000's):
Total
Securitized Portfolio Managed
----------- ----------- ------------
Loan balances $ 980,433 $ 249,888 $ 1,230,321
Principal amounts of loans
60 days or more past due 735 219 954
Net credit losses year to date 588 144 732
9. Goodwill and Other Intangibles
The changes in the carrying amount of goodwill for the three months
ended March 31, 2005 are as follows ($000's):
Banking Metavante Others Total
------------- ------------- ------------- -------------
Goodwill balance as of January 1, 2005 $ 815,086 $ 978,418 $ 5,412 $ 1,798,916
Goodwill acquired during the period -- 19,909 -- 19,909
Purchase accounting adjustments -- 9,484 -- 9,484
------------ ------------ ------------ ------------
Goodwill balance as of March 31, 2005 $ 815,086 $ 1,007,811 $ 5,412 $ 1,828,309
============ ============ ============ ============
Goodwill acquired for the Metavante segment includes initial
goodwill relating to the acquisition of Prime in the first quarter
of 2005.
10
MARSHALL & ILSLEY CORPORATION
Notes to Financial Statements - Continued
March 31, 2005 & 2004 (Unaudited)
Purchase accounting adjustments for Metavante in the first quarter
of 2005 represent the effect of a contingent payment made as a
result of achieving certain revenue and profitability targets for
the Printing For Systems, Inc. acquisition along with adjustments
made to the initial estimates of fair value associated with the
Kirchman Corporation, Advanced Financial Solutions, Inc. and its
affiliated companies, NYCE Corporation and Response Data Corp.
acquisitions.
At March 31, 2005, the Corporation's other intangible assets
consisted of the following ($000's):
March 31, 2005
-----------------------------------------
Accum-
Gross ulated Net
Carrying Amort- Carrying
Amount ization Value
------------- ------------- -------------
Other intangible assets
Core deposit intangible $ 154,015 $ 73,174 $ 80,841
Data processing contract rights/customer lists 254,448 20,367 234,081
Trust customers 4,750 901 3,849
Tradename 2,775 2,146 629
Other Intangibles 1,250 208 1,042
------------ ------------ ------------
$ 417,238 $ 96,796 $ 320,442
============ ============ ============
Mortgage loan servicing rights $ 3,365
============
10. The Corporation's deposit liabilities consists of the following
($000's):
March 31, December 31, March 31,
2005 2004 2004
-------------- -------------- --------------
Noninterest bearing demand $ 4,789,802 $ 4,888,426 $ 4,359,686
Savings and NOW 10,104,075 10,118,415 9,093,090
Cash flow hedge-Brokered MMDA (4,774) (1,445) --
------------- ------------- -------------
Total Savings and NOW 10,099,301 10,116,970 9,093,090
CD's $100,000 and over 5,672,869 5,592,947 5,242,748
Cash flow hedge-Institutional CDs (23,652) (8,977) 22,943
------------- ------------- -------------
Total CD's $100,000 and over 5,649,217 5,583,970 5,265,691
Other time deposits 2,884,075 2,721,214 2,591,887
Foreign deposits 2,279,313 3,144,507 1,840,657
------------- ------------- -------------
Total deposits $ 25,701,708 $ 26,455,087 $ 23,151,011
============= ============= =============
11. Derivative Financial Instruments and Hedging Activities
The following is an update of the Corporation's use of derivative
financial instruments and its hedging activities as described in its
Annual Report on Form 10-K for the year ended December 31, 2004.
Generally there were no substantive changes in the types of
derivative financial instruments the Corporation employs or its
hedging activities in the three months ended March 31, 2005.
Trading Instruments and Other Free Standing Derivatives
Loan commitments accounted for as derivatives are not material to
the Corporation and the Corporation does not employ any formal
hedging strategies.
Trading and free-standing derivative contracts are not linked to
specific assets and liabilities on the balance sheet or to
forecasted transactions in an accounting hedge relationship and,
therefore, do not qualify for hedge accounting under SFAS 133. They
are carried at fair value with changes in fair value recorded as a
component of other noninterest income.
11
MARSHALL & ILSLEY CORPORATION
Notes to Financial Statements - Continued
March 31, 2005 & 2004 (Unaudited)
At March 31, 2005, free standing interest rate swaps consisted of
$1.7 billion in notional amount of receive fixed/pay floating with
an aggregate negative fair value of $19.3 million and $1.0 billion
in notional amount of pay fixed/receive floating with an aggregate
positive fair value of $18.1 million.
At March 31, 2005, interest rate caps purchased amounted to $33.8
million in notional amount with a positive fair value of $0.3
million and interest rate caps sold amounted to $33.8 million in
notional amount with a negative fair value of $0.3 million.
At March 31, 2005, the notional value of interest rate futures
designated as trading was $3.3 billion with a negative fair value of
$0.4 million.
Fair Value Hedges
The following table presents updated information with respect to
selected fair value hedges.
Fair Value Hedges
March 31, 2005 Weighted
Notional Fair Average
Hedged Hedging Amount Value Remaining
Item Instrument ($ in mil) ($ in mil) Term (Yrs)
-------------------------- ------------------- ----------- ----------- ----------
Fixed Rate CDs Receive Fixed Swap $ 682.5 $ (15.5) 10.0
Medium Term Notes Receive Fixed Swap 366.9 (4.0) 8.3
Fixed Rate Bank Notes Receive Fixed Swap 838.6 (18.0) 8.2
Institutional CDs Receive Fixed Swap 5.0 (0.2) 14.0
The impact from fair value hedges to total net interest income for
the three months ended March 31, 2005 was a positive $7.1 million.
The impact to net interest income due to ineffectiveness was
immaterial.
Cash Flow Hedges
The following table updates the Corporation's cash flow hedges.
Cash Flow Hedges
March 31, 2005 Weighted
Notional Fair Average
Hedged Hedging Amount Value Remaining
Item Instrument ($ in mil) ($ in mil) Term (Yrs)
-------------------------- ------------------- ----------- ----------- ----------
Variable Rate Loans Receive Fixed Swap $ 1,150.0 $ (28.3) 4.6
Institutional CDs Pay Fixed Swap 2,355.0 23.7 1.3
Federal Funds Purchased Pay Fixed Swap 300.0 (5.0) 2.1
FHLB Advances Pay Fixed Swap 920.0 21.6 3.2
Money Market Account Pay Fixed Swap 250.0 4.8 2.3
The impact to total net interest income from cash flow hedges,
including amortization of terminated cash flow hedges, for the three
months ended March 31, 2005 was a negative $2.8 million. The impact
due to ineffectiveness was immaterial.
12. Postretirement Health Plan
The Corporation sponsors a defined benefit health plan that provides
health care benefits to eligible current and retired employees.
Eligibility for retiree benefits is dependent upon age, years of
service, and participation in the health plan during active service.
The plan is contributory and in 1997 and 2002 the plan was amended.
Employees hired or retained from mergers after September 1, 1997
will be granted access to the Corporation's plan upon becoming an
eligible retiree; however, such retirees must pay 100% of the cost
of health care benefits. The plan continues to contain other cost-
sharing features such as deductibles and coinsurance.
12
MARSHALL & ILSLEY CORPORATION
Notes to Financial Statements - Continued
March 31, 2005 & 2004 (Unaudited)
Net periodic postretirement benefit costs for the three month
periods ended March 31, 2005 and 2004 includes the following
components ($000's):
Three Months Ended
March 31,
---------------------------
2005 2004
------------- -------------
Service cost $ 553 $ 631
Interest on APBO 1,159 1,366
Expected return on assets (149) --
Prior service amortization (681) (680)
Actuarial loss amortization 264 563
Other -- --
------------ ------------
$ 1,146 $ 1,880
============ ============
Benefit payments and expenses, net of participant contributions for
the three months ended March 31, 2005 amounted to $1.0 million.
As discussed in the Corporation's Annual Report on Form 10-K for the
year ended December 31, 2004 (Note 18 in Notes to the Consolidated
Financial Statements contained in Item 8), on January 21, 2005 final
regulations establishing how prescription drug benefit programs
under Medicare (Medicare Part D) will operate were published. After
evaluating the final regulations, the Corporation has determined
that the impact of the final regulations on its postretirement costs
was not material.
13. Segments
The following represents the Corporation's operating segments as of
and for the three months ended March 31, 2005 and 2004. There have
not been any changes to the way the Corporation organizes its
segments. Fees - Intercompany represent intercompany revenues
charged to other segments for providing certain services. Expenses
- Intercompany represent fees charged by other segments for certain
services received. For each segment, Expenses - Intercompany are
not the costs of that segment's reported intercompany revenues.
Intersegment expenses and assets have been eliminated ($ in
millions):
Three Months Ended March 31, 2005
---------------------------------------------------------------------------------
Reclass-
ifications Consol-
Corporate & Elimi- idated
Banking Metavante Others Overhead nations Income
------------ ------------ ------------ ------------ ----------- -------------
Net interest income $ 296.6 $ (8.0) $ 5.0 $ (1.8) $ -- $ 291.8
Other income
Fees - other 87.2 272.4 48.2 1.7 -- 409.5
Fees - intercompany 14.6 22.1 4.7 21.7 (63.1) --
----------- ----------- ----------- ----------- ---------- ------------
Total other income 101.8 294.5 52.9 23.4 (63.1) 409.5
Other expense
Expenses - other 153.6 229.4 31.1 21.7 0.6 436.4
Expenses - intercompany 39.3 10.4 12.5 1.5 (63.7) --
----------- ----------- ----------- ----------- ---------- ------------
Total other expense 192.9 239.8 43.6 23.2 (63.1) 436.4
Provision for loan
and lease losses 7.8 -- 0.3 -- -- 8.1
----------- ----------- ----------- ----------- ---------- ------------
Income (loss) before taxes 197.7 46.7 14.0 (1.6) -- 256.8
Income tax
expense (benefit) 64.6 18.5 5.4 (1.3) -- 87.2
----------- ----------- ----------- ----------- ---------- ------------
Segment income (loss) $ 133.1 $ 28.2 $ 8.6 $ (0.3) $ -- $ 169.6
=========== =========== =========== =========== ========== ============
Identifiable assets $ 39,324.7 $ 2,419.6 $ 669.2 $ 824.7 $ (1,597.7) $ 41,640.5
=========== =========== =========== =========== ========== ============
Return on average equity 16.3 % 19.6 % 14.1 % 17.3 %
=========== =========== =========== ============
13
MARSHALL & ILSLEY CORPORATION
Notes to Financial Statements - Continued
March 31, 2005 & 2004 (Unaudited)
Three Months Ended March 31, 2004
---------------------------------------------------------------------------------
Reclass-
ifications Consol-
Corporate & Elimi- idated
Banking Metavante Others Overhead nations Income
------------ ------------ ------------ ------------ ----------- -------------
Net interest income $ 274.8 $ (0.2) $ 6.4 $ (2.4) $ -- $ 278.6
Other income
Fees - other 83.1 186.1 43.3 0.9 -- 313.4
Fees - intercompany 15.7 18.9 4.8 17.5 (56.9) --
----------- ----------- ----------- ----------- ---------- ------------
Total other income 98.8 205.0 48.1 18.4 (56.9) 313.4
Other expense
Expenses - other 152.2 164.0 29.8 16.8 (0.5) 362.3
Expenses - intercompany 33.2 10.9 12.2 0.1 (56.4) --
----------- ----------- ----------- ----------- ---------- ------------
Total other expense 185.4 174.9 42.0 16.9 (56.9) 362.3
Provision for loan
and lease losses 8.3 -- 0.7 -- -- 9.0
----------- ----------- ----------- ----------- ---------- ------------
Income (loss) before taxes 179.9 29.9 11.8 (0.9) -- 220.7
Income tax
expense (benefit) 58.9 11.8 4.5 (0.6) -- 74.6
----------- ----------- ----------- ----------- ---------- ------------
Segment income (loss) $ 121.0 $ 18.1 $ 7.3 $ (0.3) $ -- $ 146.1
=========== =========== =========== =========== ========== ============
Identifiable assets $ 34,415.8 $ 979.9 $ 642.3 $ 496.2 $ (1,057.8) $ 35,476.4
=========== =========== =========== =========== ========== ============
Return on average equity 16.1 % 18.8 % 11.6 % 17.4 %
=========== =========== =========== ============
Total Revenue, net interest income plus other income, by type in
Others consists of the following ($ in millions):
Three Months Ended
March 31,
--------------------------
2005 2004
------------ ------------
Trust Services $ 39.6 $ 35.5
Residential Mortgage Banking 5.0 6.2
Capital Markets 0.7 (0.7)
Brokerage and Insurance 7.1 6.8
Commercial Leasing 3.4 4.0
Commercial Mortgage Banking 1.2 1.6
Others 0.9 1.1
----------- -----------
Total revenue $ 57.9 $ 54.5
=========== ===========
14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL POSITION
AND RESULTS OF OPERATIONS
MARSHALL & ILSLEY CORPORATION
CONSOLIDATED AVERAGE BALANCE SHEETS (Unaudited)
($000's)
Three Months Ended
March 31,
-------------------------------
2005 2004
-------------- --------------
Assets
------
Cash and due from banks $ 918,907 $ 771,175
Investment securities:
Trading securities 23,113 23,267
Short-term investments 186,993 212,512
Other investment securities:
Taxable 4,822,827 4,533,085
Tax-exempt 1,278,156 1,146,670
------------- -------------
Total investment securities 6,311,089 5,915,534
Loans and leases:
Loans and leases, net of unearned income 29,883,640 25,427,518
Less: Allowance for loan and lease losses 360,948 356,146
------------- -------------
Net loans and leases 29,522,692 25,071,372
Premises and equipment, net 450,806 438,386
Accrued interest and other assets 3,837,773 2,647,182
------------- -------------
Total Assets $ 41,041,267 $ 34,843,649
============= =============
Liabilities and Shareholders' Equity
------------------------------------
Deposits:
Noninterest bearing $ 4,693,268 $ 4,316,158
Interest bearing 20,540,811 18,198,398
------------- -------------
Total deposits 25,234,079 22,514,556
Federal funds purchased and security repurchase agreements 1,944,851 2,521,642
Other short-term borrowings 948,080 906,913
Long-term borrowings 7,205,154 4,242,589
Accrued expenses and other liabilities 1,729,543 1,283,938
------------- -------------
Total liabilities 37,061,707 31,469,638
Shareholders' equity 3,979,560 3,374,011
------------- -------------
Total Liabilities and Shareholders' Equity $ 41,041,267 $ 34,843,649
============= =============
15
OVERVIEW
--------
Management believes the first quarter of 2005 produced strong financial
results. Loan growth continued its strong momentum from 2004, the
improvement in credit quality continues to exceed management's
expectations and year-over-year growth in noninterest bearing deposits was
encouraging as was the continued growth in revenue and earnings by the
data processing segment ("Metavante").
Net income for the first quarter of 2005 amounted to $169.6 million
compared to $146.1 million for the same period in the prior year, an
increase of $23.5 million, or 16.1%. Diluted earnings per share were
$0.73 for the three months ended March 31, 2005, compared with $0.65 for
the three months ended March 31, 2004, an increase of 12.3%. The return
on average assets and average equity was 1.68% and 17.28%, respectively,
for the quarter ended March 31, 2005, and 1.69% and 17.42%, respectively,
for the quarter ended March 31, 2004.
Earnings growth for the three months ended March 31, 2005 compared to the
three months ended March 31, 2004 was attributable to a number of factors.
The increase in net interest income was driven by loan and deposit growth.
Net interest income growth was somewhat mitigated by the financing costs
associated with Metavante's 2004 acquisitions. The continued improvement
in credit quality resulted in lower provisions for loan and lease losses.
Metavante and the trust services reporting unit continued to exhibit
growth in both revenue and earnings. Metavante's growth in revenue and
earnings reflects, in part, higher transaction volumes and increased card
production and the impact of its acquisition and divestiture activities.
These activities included one acquisition completed in the first quarter
of 2005 and six acquisitions and two divestitures completed in 2004. For
the three months ended March 31, 2005, the Corporation realized a gain due
to the change in control of PULSE EFT Associates. These factors along
with continued expense management resulted in double-digit earnings growth
in the three months ended March 31, 2005 compared to the three months
ended March 31, 2004.
Current operating trends and financial results have been positive and are
a confirmation of the Corporation's overall strategy of driving earnings
per share growth by: (1) expanding banking operations into faster growing
regions beyond Wisconsin; (2) increasing the number of financial
institutions to which the Corporation provides correspondent banking
services; (3) expanding trust services and other wealth management product
and service offerings for high net-worth individuals; and (4) growing
Metavante's business through organic growth and acquisitions.
Management believes that there are some key factors that could affect
future operating trends and financial results. Management believes that
credit losses will likely return to historical levels. While it is
unclear when this will occur, management does not believe that current net
charge-off levels are sustainable indefinitely. The Federal Reserve
Board's current tightening cycle will eventually constrain economic
growth, which will in turn slow future loan growth. Rapidly shifting and
unstable yield curves make balance sheet management vulnerable to
potential earnings volatility. While the Corporation has taken what it
believes to be a conservative position relative to a generally rising
interest rate environment, shifts in customer behavior and re-pricing
characteristics present a persistent challenge. Competitive pressures on
product pricing for both loans and deposits may result in slower growth in
future periods to the extent such pressure results in spreads (profit) on
incremental business below levels the Corporation believes to be
economically prudent.
Management continues to believe that the 2005 outlook provided in the
Corporation's 2004 Annual Report on Form 10-K is still representative of
its expectations for the year ended December 31, 2005. The Corporation's
actual results for the year ended December 31, 2005 could differ
materially from those expected by management. See "Forward-Looking
Statements" in this Form 10-Q and the Corporation's 2004 Annual Report on
Form 10-K for a discussion of the various risk factors that could cause
actual results to be different than expected results.
NOTEWORTHY TRANSACTIONS AND EVENTS
----------------------------------
Some of the more noteworthy transactions and events that occurred in the
three months ended March 31, 2005 and 2004 consisted of the following:
First quarter 2005
------------------
On February 9, 2005, Metavante completed the acquisition of all of the
outstanding common stock of Prime Associates, Inc. ("Prime") of Clark, New
Jersey for $24.5 million. Total consideration consisted of 563,114 shares
of Marshall & Ilsley Corporation common stock valued at $24.0 million and
$0.5 million in cash. Prime is a provider of anti-money laundering and
fraud interdiction software and data products for financial institutions,
insurance companies and securities firms. See Note 5, Business
Combinations in the Notes to Financial Statements.
16
During the first quarter of 2005, the Corporation's banking segment's
investment in certain membership interests of PULSE EFT Associates
("PULSE") was liquidated by PULSE due to a change in control. The cash
received resulted in a gain of $5.3 million which is reported in Net
investment securities gains (losses) in the Consolidated Statements of
Income.
First Quarter 2004
------------------
On January 1, 2004, the Corporation's Banking segment completed the
purchase for cash of certain assets and the assumption of certain
liabilities of AmerUs Home Lending, Inc. ("AmerUs"), an Iowa-based
corporation engaged in the business of brokering and servicing mortgage
and home equity loans. Although not material to the Corporation, this
acquisition enhances the Corporation's wholesale lending activities by
expanding its broker network.
During the first quarter of 2004, the Corporation prepaid and retired
$55.0 million of higher cost fixed rate debt that resulted in a charge to
earnings of $4.9 million. The loss is reported in other in Other expense
in the Consolidated Statements of Income.
NET INTEREST INCOME
-------------------
Net interest income, which is the difference between interest earned on
earning assets and interest owed on interest bearing liabilities
represented approximately 41.6% and 47.1% of the Corporation's source of
revenues for the three months ended March 31, 2005 and 2004, respectively.
Net interest income for the first quarter of 2005 amounted to $291.8
million compared to $278.6 million reported for the first quarter of 2004,
an increase of $13.2 million or 4.7%. Loan growth and the growth in
noninterest bearing deposits were the primary contributors to the increase
in net interest income. Factors negatively affecting net interest income
over the prior quarter included the impact of lengthening liabilities in
order to reduce future volatility in net interest income due to interest
rate changes and the interest expense associated with the incremental debt
issued to fund Metavante's acquisitions in 2004.
Average earning assets in the first quarter of 2005 amounted to $36.2
billion compared to $31.3 billion in the first quarter of 2004, an
increase of $4.9 billion or 15.5%. Average loans and leases accounted for
$4.5 billion of the growth in average earning assets in the first quarter
of 2005 compared to the first quarter of 2004. Average investment
securities increased $0.4 billion over the prior quarter.
Average interest bearing liabilities increased $4.8 billion or 18.4% in
the first quarter of 2005 compared to the first quarter of 2004. Average
interest bearing deposits increased $2.3 billion or 12.9% in the first
quarter of 2005 compared to the first quarter of last year. Average total
borrowings increased $2.4 billion or 31.6% in the first quarter of 2005
compared to the same period in 2004.
Average noninterest bearing deposits increased $0.4 billion or 8.7% in the
three months ended March 31, 2005 compared to the same period last year.
17
The growth and composition of the Corporation's quarterly average loan and
lease portfolio for the current quarter and previous four quarters are
reflected in the following table ($ in millions):
Consolidated Average Loans and Leases
-------------------------------------
2005 2004 Growth Pct.
--------- --------------------------------------- ------------------
First Fourth Third Second First Prior
Quarter Quarter Quarter Quarter Quarter Annual Quarter
--------- --------- --------- --------- --------- -------- ---------
Commercial Loans and Leases
Commercial $ 8,460 $ 8,076 $ 7,796 $ 7,463 $ 7,142 18.4 % 4.7 %
Commercial real estate
Commercial mortgages 8,275 8,042 7,826 7,512 7,246 14.2 2.9
Construction 1,241 1,143 1,100 1,071 1,075 15.5 8.6
-------- -------- -------- -------- -------- ------- --------
Total commercial real estate 9,516 9,185 8,926 8,583 8,321 14.4 3.6
Commercial lease financing 398 402 395 393 399 (0.1) (1.0)
-------- -------- -------- -------- -------- ------- --------
Total Commercial
Loans and Leases 18,374 17,663 17,117 16,439 15,862 15.8 4.0
Personal Loans and Leases
Residential real estate
Residential mortgages 3,562 3,234 2,929 2,743 2,511 41.9 10.2
Construction 1,167 1,017 865 759 716 62.9 14.7
-------- -------- -------- -------- -------- ------- --------
Total residential real estate 4,729 4,251 3,794 3,502 3,227 46.6 11.3
Personal loans
Student 88 85 79 83 102 (14.3) 3.8
Credit card 217 208 214 244 230 (5.6) 4.5
Home equity loans and lines 5,131 5,035 4,894 4,688 4,439 15.6 1.9
Other 1,217 1,251 1,256 1,388 1,391 (12.5) (2.8)
-------- -------- -------- -------- -------- ------- --------
Total personal loans 6,653 6,579 6,443 6,403 6,162 8.0 1.1
Personal lease financing 128 135 146 164 177 (27.5) (5.2)
-------- -------- -------- -------- -------- ------- --------
Total Personal Loans and Leases 11,510 10,965 10,383 10,069 9,566 20.3 5.0
-------- -------- -------- -------- -------- ------- --------
Total Consolidated Average
Loans and Leases $ 29,884 $ 28,628 $ 27,500 $ 26,508 $ 25,428 17.5 % 4.4 %
======== ======== ======== ======== ======== ======= ========
Total consolidated average loans and leases increased $4.5 billion or
17.5% in the first quarter of 2005 compared to the first quarter of 2004.
Total average commercial loan and lease growth was $2.5 billion, a 15.8%
increase in the current quarter compared to the first quarter of the prior
year. The growth in total average commercial loans and leases was about
evenly split between commercial and industrial loans and commercial real
estate loans. Total average personal loans and leases increased $1.9
billion or 20.3% in the first quarter of 2005 compared to the first
quarter of 2004. This growth was driven primarily by growth in
residential real estate loans and home equity loans and lines. Average
indirect auto loans and leases declined in the current quarter compared to
the first quarter of the prior year which reflects, in part, the effect of
the sale and securitization of indirect auto loans. From a production
standpoint, residential real estate loan closings in the first quarter of
2005 were $0.3 billion or 42.5% greater than loan closings in the first
quarter of 2004 and were relatively unchanged compared to residential real
estate loan closings in the fourth quarter of 2004.
Total average commercial loan and lease growth continued to be strong in
the first quarter of 2005. This growth was spread relatively evenly
throughout the quarter, was experienced in all of the Corporation's
markets and came from both relatively new and existing customers across a
variety of industries. During the first quarter of 2005, the Corporation
began to experience pricing pressure that was driven primarily by
competition in the markets that it serves. The Corporation's continued
commitment to financially sound pricing discipline in an environment when
credit spreads are tightening makes it difficult to project whether loan
growth will continue at its current pace. The Corporation continues to
believe that low double-digit loan growth is a reasonable expectation for
the year ended December 31, 2005.
18
Home equity loans and lines, which includes M&I's wholesale activity,
continue to be the primary consumer loan product. The Corporation
anticipates these products will continue to drive growth in the consumer
side of its banking activities.
The Corporation sells some of its residential real estate production in
the secondary market. Selected residential real estate loans with
adjustable rate characteristics that are considered desirable are
periodically retained in the portfolio. Residential real estate loans
sold to investors amounted to $0.4 billion in the first quarter of 2005
compared to $0.3 billion in the first quarter of the prior year. At March
31, 2005 and 2004, the Corporation had approximately $103.9 million and
$113.0 million of mortgage loans held for sale, respectively. Gains from
the sale of mortgage loans amounted to $6.9 million in the first quarter
of 2005 compared to $5.2 million in the first quarter of 2004.
Auto loans securitized and sold in each of the first quarters of 2005 and
2004 were $0.1 billion. For the three months ended March 31, 2005, net
losses from the sale and securitization of auto loans amounted to $0.5
million compared to gains of $0.9 million in the first quarter of 2004.
The losses incurred in 2005 were primarily due to lower loan interest
spreads associated with new auto loan production in a rising interest rate
environment. Auto loans held for sale amounted to $31.1 million at March
31, 2005.
The Corporation anticipates that it will continue to divest itself of
selected assets through sale or securitization in future periods.
The growth and composition of the Corporation's quarterly average deposits
for the current and previous four quarters are as follows ($ in millions):
Consolidated Average Deposits
-----------------------------
2005 2004 Growth Pct.
--------- --------------------------------------- ------------------
First Fourth Third Second First Prior
Quarter Quarter Quarter Quarter Quarter Annual Quarter
--------- --------- --------- --------- --------- -------- ---------
Bank issued deposits
Noninterest bearing deposits
Commercial $ 3,263 $ 3,427 $ 3,280 $ 3,143 $ 2,988 9.2 % (4.8)%
Personal 930 923 902 908 855 8.7 0.8
Other 500 521 456 463 473 5.9 (4.0)
-------- -------- -------- -------- -------- ------- --------
Total noninterest
bearing deposits 4,693 4,871 4,638 4,514 4,316 8.7 (3.7)
Interest bearing deposits
Savings and NOW 3,281 3,402 3,452 3,395 3,303 (0.6) (3.5)
Money market 5,692 5,654 5,612 5,657 5,780 (1.5) 0.7
Foreign activity 904 887 849 943 909 (0.5) 1.9
-------- -------- -------- -------- -------- ------- --------
Total interest
bearing deposits 9,877 9,943 9,913 9,995 9,992 (1.2) (0.7)
Time deposits
Other CDs and time deposits 2,787 2,685 2,653 2,582 2,611 6.8 3.8
CDs greater than $100,000 1,074 906 805 660 632 70.0 18.5
-------- -------- -------- -------- -------- ------- --------
Total time deposits 3,861 3,591 3,458 3,242 3,243 19.1 7.5
-------- -------- -------- -------- -------- ------- --------
Total bank issued deposits 18,431 18,405 18,009 17,751 17,551 5.0 0.1
Wholesale deposits
Money market 1,073 1,096 747 72 75 1,326.0 (2.0)
Brokered CDs 4,761 4,960 5,009 4,498 3,854 23.5 (4.0)
Foreign time 969 811 869 1,188 1,035 (6.4) 19.4
-------- -------- -------- -------- -------- ------- --------
Total wholesale deposits 6,803 6,867 6,625 5,758 4,964 37.0 (0.9)
-------- -------- -------- -------- -------- ------- --------
Total consolidated
average deposits $ 25,234 $ 25,272 $ 24,634 $ 23,509 $ 22,515 12.1 % (0.2)%
======== ======== ======== ======== ======== ======= ========
19
Total consolidated average deposits increased $2.7 billion or 12.1% in the
first quarter of 2005 compared to the first quarter of 2004. Average
noninterest bearing deposits increased $0.4 billion or 8.7% while average
bank-issued interest bearing deposits increased $0.5 billion or 3.8% in
the current quarter compared to the first quarter of the prior year. The
Corporation has recently experienced success in competing for bank issued
time deposits without pricing above comparable wholesale levels.
The growth in bank issued deposits, especially noninterest bearing
deposits, includes both commercial and retail banking. Noninterest
bearing deposits are subject to seasonality and are influenced by the
interest rate environment. In commercial banking, the focus remains on
developing deeper relationships through the sale of treasury management
products and services along with revised incentive plans focused on
growing deposits. The retail banking strategy continues to focus on
aggressively selling the right products to meet the needs of customers and
enhance the Corporation's profitability. The Corporation continues to
emphasize the sale of checking products.
For the three months ended March 31, 2005, average wholesale deposits
increased $1.8 billion, or 37.0% compared to the three months ended March
31, 2004. The Corporation continues to make greater use of wholesale
funding alternatives, especially brokered money market deposits and
institutional certificates of deposits. These deposits are funds in the
form of deposits generated through distribution channels other than M&I's
own banking branches. These deposits allow the Corporation's bank
subsidiaries to gather funds across a wider geographic base and at pricing
levels considered attractive, where the underlying depositor may be retail
or institutional. Access to and use of these funding sources also provide
the Corporation with the flexibility to not pursue unprofitable single
service time deposit relationships.
During the first quarter of 2005, a new floating rate advance from the
Federal Home Loan Bank ("FHLB") aggregating $250.0 million was obtained.
The FLHB advance matures in 2011 and was converted to a fixed rate through
the use of an interest rate swap. During the first quarter of 2005, $900.0
million of senior bank notes with an annual weighted average coupon
interest rate of 4.13% were issued. The notes mature at various times
beginning in 2008 through 2017. In addition, during the first quarter of
2005, the Corporation issued $4.5 million of MiNotes with an annual
weighted average coupon interest rate of 5.02%. The MiNotes mature at
various times beginning 2012 through 2023.
During the first quarter of 2004, a fixed rate FHLB advance aggregating
$55.0 million with an annual coupon interest rate of 5.06% was prepaid and
retired resulting in a charge to earnings of $4.9 million.
20
The Corporation's consolidated average interest earning assets and
interest bearing liabilities, interest earned and interest paid for the
three months ended March 31, 2005 and 2004, are presented in the following
tables ($ in millions):
Consolidated Yield and Cost Analysis
------------------------------------
Three Months Ended Three Months Ended
March 31, 2005 March 31, 2004
------------------------------ ------------------------------
Average Average
Average Yield or Average Yield or
Balance Interest Cost (b) Balance Interest Cost (b)
----------- -------- --------- ----------- -------- ---------
Loans and leases: (a)
Commercial loans and leases $ 8,857.6 $ 118.5 5.43 % $ 7,540.9 $ 87.4 4.67 %
Commercial real estate loans 9,516.4 137.3 5.85 8,321.3 111.2 5.37
Residential real estate loans 4,729.0 66.6 5.71 3,226.7 44.6 5.56
Home equity loans and lines 5,130.8 72.6 5.74 4,438.2 59.1 5.35
Personal loans and leases 1,649.8 22.5 5.53 1,900.4 24.3 5.14
---------- ------- ------ ---------- ------- ------
Total loans and leases 29,883.6 417.5 5.67 25,427.5 326.6 5.17
Investment securities (b):
Taxable 4,822.8 51.9 4.37 4,533.1 48.3 4.34
Tax Exempt (a) 1,278.2 23.0 7.48 1,146.7 21.4 7.70
---------- ------- ------ ---------- ------- ------
Total investment securities 6,101.0 74.9 5.01 5,679.8 69.7 5.01
Trading securities (a) 23.1 0.1 1.23 23.3 0.1 1.57
Other short-term investments 187.0 1.3 2.91 212.5 0.5 1.03
---------- ------- ------ ---------- ------- ------
Total interest earning assets $ 36,194.7 $ 493.8 5.54 % $ 31,343.1 $ 396.9 5.11 %
========== ======= ====== ========== ======= ======
Interest bearing deposits:
Bank issued deposits:
Bank issued interest
bearing activity deposits $ 9,876.8 $ 33.6 1.38 % $ 9,991.9 $ 15.5 0.63 %
Bank issued time deposits 3,861.0 26.1 2.74 3,242.3 19.2 2.38
---------- ------- ------ ---------- ------- ------
Total bank issued deposits 13,737.8 59.7 1.76 13,234.2 34.7 1.06
Wholesale deposits 6,803.0 43.8 2.61 4,964.2 20.8 1.69
---------- ------- ------ ---------- ------- ------
Total interest bearing deposits 20,540.8 103.5 2.04 18,198.4 55.5 1.23
Short-term borrowings 2,892.9 21.9 3.08 3,428.5 15.8 1.86
Long-term borrowings 7,205.2 68.4 3.85 4,242.6 39.1 3.70
---------- ------- ------ ---------- ------- ------
Total interest
bearing liabilities $ 30,638.9 $ 193.8 2.57 % $ 25,869.5 $ 110.4 1.72 %
========== ======= ====== ========== ======= ======
Net interest margin (FTE) as a
percent of average earning assets $ 300.0 3.36 % $ 286.5 3.69 %
======= ====== ======= ======
Net interest spread (FTE) 2.97 % 3.39 %
====== ======
(a) Fully taxable equivalent basis (FTE), assuming a Federal income
tax rate of 35%, and excluding disallowed interest expense.
(b) Based on average balances excluding fair value adjustments for
available for sale securities.
The net interest margin, as a percent of average earning assets on a fully
taxable equivalent basis ("FTE"), decreased 33 basis points from 3.69
percent in the first quarter of 2004 to 3.36 percent in the first quarter
of 2005. The decrease in net interest margin was offset, in part, by the
increase in noninterest bearing deposits as previously discussed. When
comparing the net interest margin percentage for the first quarter of 2005
to the first quarter of 2004, the Corporation estimates that the
additional interest expense associated with the $1.0 billion of debt
issued in late July 2004 to finance Metavante's acquisitions lowered the
net interest margin by approximately 12 basis points in the first quarter
of 2005. Unlike a bank acquisition or loan growth, where the primary
source of revenue is interest income, the revenue impact of Metavante's
acquisitions is recorded in Other income and is not a component of the net
interest margin statistic. Compared to the fourth quarter of 2004, the
net interest margin, as a percent of average earning assets on a FTE
basis, decreased 3 basis points from 3.39 percent in the fourth quarter of
2004 to 3.36 percent in the first quarter of 2005.
21
The contraction of the net interest margin as a percent of average earning
assets is primarily driven by the continued growth in loan balances beyond
the Corporation's capacity to generate deposit growth at or below
wholesale costs of funds. Management expects modest downward pressure on
the net interest margin percentage to continue. Net interest income and
the net interest margin percentage can vary and continue to be influenced
by loan and deposit growth, product spreads, pricing competition in the
Corporation's markets, prepayment activity, future interest rate changes
and various other factors.
PROVISION FOR LOAN AND LEASE LOSSES AND CREDIT QUALITY
------------------------------------------------------
The following tables present comparative consolidated credit quality
information as of March 31, 2005, and the prior four quarters:
Nonperforming Assets
--------------------
($000's)
2005 2004
----------- -----------------------------------------------
First Fourth Third Second First
Quarter Quarter Quarter Quarter Quarter
----------- ----------- ----------- ----------- -----------
Nonaccrual $ 124,416 $ 127,722 $ 139,154 $ 137,845 $ 149,550
Renegotiated 220 236 244 253 261
Past due 90 days or more 5,314 4,405 3,148 6,902 6,296
---------- ---------- ---------- ---------- ----------
Total nonperforming
loans and leases 129,950 132,363 142,546 145,000 156,107
Other real estate owned 6,770 8,056 7,098 10,394 13,172
---------- ---------- ---------- ---------- ----------
Total nonperforming assets $ 136,720 $ 140,419 $ 149,644 $ 155,394 $ 169,279
========== ========== ========== ========== ==========
Allowance for
loan and lease losses $ 358,280 $ 358,110 $ 358,072 $ 357,898 $ 353,687
========== ========== ========== ========== ==========
Consolidated Statistics
-----------------------
2005 2004
----------- -----------------------------------------------
First Fourth Third Second First
Quarter Quarter Quarter Quarter Quarter
----------- ----------- ----------- ----------- -----------
Net charge-offs to average
loans and leases annualized 0.11 % 0.18 % 0.10 % 0.08 % 0.08 %
Total nonperforming loans and leases
to total loans and leases 0.42 0.45 0.51 0.53 0.60
Total nonperforming assets to total loans
and leases and other real est 0.45 0.48 0.53 0.57 0.65
Allowance for loan and lease losses
to total loans and leases 1.17 1.21 1.27 1.32 1.36
Allowance for loan and lease losses
to total nonperforming loans 276 271 251 247 227
22
Nonaccrual Loans and Leases By Type
-----------------------------------
($000's)
2005 2004
----------- -----------------------------------------------
First Fourth Third Second First
Quarter Quarter Quarter Quarter Quarter
----------- ----------- ----------- ----------- -----------
Commercial
Commercial, financial
and agricultural $ 37,587 $ 41,047 $ 49,714 $ 39,473 $ 45,714
Lease financing receivables 4,882 4,463 5,476 6,398 7,381
---------- ---------- ---------- ---------- ----------
Total commercial 42,469 45,510 55,190 45,871 53,095
Real estate
Construction and
land development 785 578 207 1,724 78
Commercial mortgage 28,115 31,852 33,817 38,561 46,172
Residential mortgage 52,056 49,206 48,715 50,776 49,528
---------- ---------- ---------- ---------- ----------
Total real estate 80,956 81,636 82,739 91,061 95,778
Personal 991 576 1,225 913 677
---------- ---------- ---------- ---------- ----------
Total nonaccrual
loans and leases $ 124,416 $ 127,722 $ 139,154 $ 137,845 $ 149,550
========== ========== ========== ========== ==========
Reconciliation of Allowance for Loan and Lease Losses
-----------------------------------------------------
($000's)
2005 2004
----------- -----------------------------------------------
First Fourth Third Second First
Quarter Quarter Quarter Quarter Quarter
----------- ----------- ----------- ----------- -----------
Beginning balance $ 358,110 $ 358,072 $ 357,898 $ 353,687 $ 349,561
Provision for loan
and lease losses 8,126 12,837 6,872 9,227 9,027
Allowance of banks
and loans acquired -- -- -- -- 27
Loans and leases charged-off
Commercial 6,036 5,453 4,403 4,015 2,904
Real estate 3,339 4,342 3,047 2,765 3,138
Personal 3,416 3,345 3,207 2,616 3,653
Leases 246 6,178 252 536 1,001
---------- ---------- ---------- ---------- ----------
Total charge-offs 13,037 19,318 10,909 9,932 10,696
Recoveries on loans and leases
Commercial 2,604 5,100 2,366 2,279 2,886
Real estate 1,380 387 611 1,336 1,555
Personal 719 765 900 906 756
Leases 378 267 334 395 571
---------- ---------- ---------- ---------- ----------
Total recoveries 5,081 6,519 4,211 4,916 5,768
---------- ---------- ---------- ---------- ----------
Net loans and
leases charge-offs 7,956 12,799 6,698 5,016 4,928
---------- ---------- ---------- ---------- ----------
Ending balance $ 358,280 $ 358,110 $ 358,072 $ 357,898 $ 353,687
========== ========== ========== ========== ==========
Nonperforming assets consist of nonperforming loans and leases and other
real estate owned (OREO).
OREO is principally comprised of commercial and residential properties
acquired in partial or total satisfaction of problem loans and amounted to
$6.8 million at March 31, 2005, compared to $8.1 million at December 31,
2004 and $13.2 million at March 31, 2004.
Nonperforming loans and leases consist of nonaccrual, renegotiated or
restructured loans, and loans and leases that are delinquent 90 days or
more and still accruing interest. The balance of nonperforming loans and
leases can fluctuate widely based on the timing of cash collections,
renegotiations and renewals.
23
Maintaining nonperforming assets at an acceptable level is important to
the ongoing success of a financial services institution. The
Corporation's comprehensive credit review and approval process are
critical to ensuring that the amount of nonperforming assets on a long-
term basis is minimized within the overall framework of acceptable levels
of credit risk. In addition to the negative impact on net interest income
and credit losses, nonperforming assets also increase operating costs due
to the expense associated with collection efforts.
At March 31, 2005, nonperforming loans and leases amounted to $130.0
million or 0.42% of consolidated loans and leases compared to $132.4
million or 0.45% of consolidated loans and leases at December 31, 2004,
and $156.1 million or 0.60% of consolidated loans and leases at March 31,
2004. Both in terms of absolute dollars and percent of total loans and
leases outstanding, the quarter ended March 31, 2005 represented the
eighth consecutive quarter-end in which there was a decline in
nonperforming loans. Nonaccrual loans and leases have been the primary
source of the decrease in nonperforming loans and leases since December
31, 2004. The net decrease was primarily due to continued reductions and
positive resolutions in several portfolio segments and improving credit
conditions throughout the loan and lease portfolios.
Net charge-offs amounted to $8.0 million or 0.11% of average loans and
leases in the first quarter of 2005 compared to $12.8 million or 0.18% of
average loans and leases in the fourth quarter of 2004 and $4.9 million or
0.08% of average loans and leases in the first quarter of 2004. The lower
level of net charge-offs experienced throughout 2004 and the first quarter
of 2005 has to some extent been the result of higher than normal
recoveries. Based on the status of some of the larger charge-offs
recognized in recent quarters, management expects recoveries will likely
return to lower levels in future periods. Recoveries in the first quarter
of 2005 were $1.4 million lower than recoveries in the fourth quarter of
2004 and $0.7 million lower than recoveries in the first quarter of 2004.
Credit quality continued to show improvement as evidenced by the decline
in nonperforming loans and leases and net charge-offs which were lower
than expected. Management expects the longer term level of nonperforming
loans and leases to be in the range of 50-60 basis points and expects
credit quality to trend to historical levels. While it is unclear when
this will occur, management does not believe that current net charge-off
levels are sustainable indefinitely.
The provision for loan and lease losses amounted to $8.1 million for the
three months ended March 31, 2005 compared to $12.8 million for the three
months ended December 31, 2004 and $9.0 million for the three months ended
March 31, 2004. The allowance for loan and lease losses as a percent of
total loans and leases outstanding was 1.17% at March 31, 2005, 1.21% at
December 31, 2004 and 1.36% at March 31, 2004.
OTHER INCOME
------------
Other income or noninterest sources of revenue represented approximately
58.4% and 52.9% of the Corporation's total sources of revenues for the
three months ended March 31, 2005 and 2004, respectively. Total other
income in the first quarter of 2005 amounted to $409.5 million compared to
$313.4 million in the same period last year, an increase of $96.1 million
or 30.7%. The increase in other income was primarily due to growth in
data processing services and trust services revenue.
Data processing services revenue amounted to $272.4 million in the first
quarter of 2005 compared to $186.1 million in the first quarter of 2004,
an increase of $86.3 million or 46.3%. Overall, revenue growth was
generally stronger than expected throughout all aspects of this segment
and was driven by higher transaction volumes in core processing and
payment processing, an increase in healthcare eligibility and payment card
production and revenue associated with acquisitions. Revenue associated
with Metavante's acquisitions completed in 2005 and 2004 net of revenue
lost from the 2004 divestitures, contributed approximately $81.0 million
to the revenue growth in the three months ended March 31, 2005, over the
comparable three months ended March 31, 2004. Total buyout revenue, which
varies from period to period, increased $2.8 million in the current
quarter compared to the first quarter of last year.
For the three months ended March 31, 2005, item processing revenue
amounted to $10.6 million compared to $11.4 million for the three months
ended March 31, 2004, a decrease of $0.8 million or 7.6%. Total buyout
revenue, which varies from period to period, increased $0.3 million in the
current quarter compared to the first quarter of last year. Lower volumes
and some lost business all contributed to the quarter over quarter
decline.
24
Trust services revenue amounted to $40.3 million in the first quarter of
2005 compared to $36.3 million in the first quarter of 2004, an increase
of $4.0 million or 11.3%. The increase in revenue was due to sales
efforts that continue to emphasize cross-selling and integrated delivery.
Assets under management were approximately $18.1 billion at March 31,
2005, compared to $18.3 billion at December 31, 2004, and $16.6 billion at
March 31, 2004. Service charges on deposits amounted to $23.6 million in
the first quarter of 2005 compared to $25.5 million in the first quarter
of 2004, a decrease of $1.9 million. A portion of this source of fee
income is sensitive to changes in interest rates. In a rising interest
rate environment customers receive a higher credit for maintaining
balances which results in lower fee income. Service charges on deposits
associated with commercial demand deposit accounts accounted for $1.7
million of the decline in revenue in the first quarter of 2005 compared to
the first quarter of 2004.
Total mortgage banking revenue was $8.0 million in the first quarter of
2005 compared with $7.0 million in the first quarter of 2004, an increase
of $1.0 million. For the three months ended March 31, 2005, the
Corporation sold $0.4 billion of residential mortgage loans to the
secondary market. Retained interests in the form of mortgage servicing
rights amounted to $0.2 million for the three months ended March 31, 2005.
For the three months ended March 31, 2004, the Corporation sold $0.3
billion of residential mortgage loans to the secondary market. Retained
interests in the form of mortgage servicing rights amounted to $0.4
million for the three months ended March 31, 2004.
Net Investment securities gains in the first quarter of 2005 amounted to
$5.8 million. As previously discussed, during the first quarter of 2005,
the Corporation's banking segment's investment in certain membership
interests of PULSE was liquidated by PULSE. The cash received resulted in
a gain of $5.3 million. Net investment securities activities for the
three months ended March 31, 2004 were not significant.
Other income in the first quarter of 2005 amounted to $42.7 million
compared to $41.0 million in the first quarter of 2004, an increase of
$1.7 million or 4.1%. During the first quarter of 2005, the Corporation
completed the required sale of a facility and realized a gain of $0.8
million. Lower auto securitization income, as previously discussed, and
lower trading income was offset by increases in card related fees and
other sources of income in the three months ended March 31, 2005 compared
to the three months ended March 31, 2004.
OTHER EXPENSE
-------------
Total other expense for the three months ended March 31, 2005 amounted to
$436.4 million compared to $362.3 million for the three months ended March
31, 2004, an increase of $74.1 million or 20.5%.
Total other expense for the three months ended March 31, 2005 included the
operating expenses associated with Metavante's acquisitions of Kirchman
Corporation in May 2004, Advanced Financial Solutions, Inc. and its
affiliated companies in July 2004, the NYCE Corporation in July 2004,
Response Data Corp. in September 2004, NuEdge Systems LLC in October 2004,
VECTOR sgi Holdings, Inc. in November 2004 and Prime Associates, Inc. on
February 9, 2005. Total other expense for the three months ended March 31,
2005 excluded the operating expenses associated with the 401k Retirement
Plan Services operations and the direct customer base of Paytrust.com that
were sold in the fourth quarter of 2004.
Metavante's acquisitions and divestitures had a significant impact on the
period-to-period comparability of operating expenses in 2005 compared to
2004. Approximately $61.4 million of the operating expense growth in the
first quarter of 2005 compared to the first quarter of 2004 was
attributable to the acquisitions and divestitures. The operating expenses
of the acquired and divested entities have been included in or excluded
from the Corporation's consolidated operating expenses from the dates the
transactions were completed.
As previously discussed, during the first quarter of 2004, the Corporation
prepaid and retired $55.0 million of higher cost fixed rate debt that
resulted in a charge to earnings of $4.9 million.
The Corporation estimates that its expense growth in the first quarter of
2005 compared to the first quarter of 2004, excluding the effect of the
acquisitions and divestitures and the effect of the debt prepayment, was
approximately $17.6 million or 4.9%.
25
Expense control is sometimes measured in the financial services industry
by the efficiency ratio statistic. The efficiency ratio is calculated by
taking total other expense divided by the sum of total other income
(including Capital Markets revenue but excluding investment securities
gains or losses) and net interest income on a fully taxable equivalent
basis. The Corporation's efficiency ratios for the three months ended
March 31, 2005, and prior four quarters were:
Efficiency Ratios
-----------------
Three Months Ended
--------------------------------------------------------------
March 31, December 31, September 30, June 30, March 31,
2005 2004 2004 2004 2004
---------- ----------- ------------- ----------- ---------
Consolidated Corporation 62.0 % 61.6 % 62.2 % 60.2 % 60.4 %
Consolidated Corporation
Excluding Metavante 48.8 % 47.0 % 49.0 % 48.8 % 49.2 %
Salaries and employee benefits expense amounted to $238.5 million in the
first quarter of 2005 compared to $203.9 million in the first quarter of
2004, an increase of $34.6 million or 17.0%. Salaries and benefits
associated with acquisitions and divestitures previously discussed
accounted for approximately $28.5 million of the increase in salaries and
employee benefits expense in the first quarter of 2005 compared to the
first quarter of 2004.
For the first quarter of 2005, occupancy and equipment expense amounted to
$53.4 million compared to $47.4 million in the first quarter of 2004, an
increase of $6.0 million or 12.7%. The acquisitions and divestitures
accounted for approximately all of the increase in occupancy and equipment
expense in the first quarter of 2005 compared to the first quarter of
2004.
Software expenses, processing charges, supplies and printing, professional
services and shipping and handling expenses totaled $65.3 million in the
first quarter of 2005 compared to $55.5 million in the first quarter of
2004, an increase of $9.8 million or 17.7%. The acquisitions and
divestitures accounted for approximately $7.5 million of the increase in
these expense items in the first quarter of 2005 compared to the first
quarter of 2004.
Amortization of intangibles amounted to $8.1 million in the first quarter
of 2005 compared to $5.5 million in the first quarter of 2004, an increase
of $2.6 million. Amortization and valuation reserve adjustments
associated with mortgage servicing rights decreased amortization expense
$0.6 million in the first quarter of 2005 compared to the first quarter
of 2004. The carrying value of the Corporation's mortgage servicing
rights was $3.4 million at March 31, 2005. Amortization of core deposit
intangibles, which is based on a declining balance method, decreased $0.5
million in the first quarter of 2005 compared to the first quarter of the
prior year. For the three months ended March 31, 2005 compared to the
three months ended March 31, 2004, the acquisitions and divestitures
contributed approximately $3.9 million to the increase in intangibles
amortization expense in the respective periods.
Other expense amounted to $71.2 million in the first quarter of 2005
compared to $50.1 million in the first quarter of 2004, an increase of
$21.1 million or 42.0%. The acquisitions and divestitures accounted for
approximately $12.9 million of the increase in other expense in the first
quarter of 2005 compared to the first quarter of 2004. As previously
discussed, during the first quarter of 2004, the Corporation prepaid and
retired $55.0 million of higher cost fixed rate debt that resulted in a
charge to earnings of $4.9 million.
Other expense is affected by the capitalization of costs, net of
amortization associated with software development and customer data
processing conversions. Net software and conversion amortization was $5.8
million in the first quarter of 2005 compared to $3.0 million in the first
quarter of 2004, resulting in an increase to other expense over the
comparative quarters of $2.8 million. Approximately $1.7 million of that
increase was attributable to the acquisitions and divestitures.
Higher expenses associated with credit cards, travel, charitable
contributions and various other expenses and accruals accounted for the
remaining increase in other expense in the first quarter of 2005 compared
to the first quarter of 2004.
26
INCOME TAXES
------------
The provision for income taxes for the three months ended March 31, 2005
amounted to $87.2 million or 33.9% of pre-tax income compared to $74.6
million or 33.8% of pre-tax income for the three months ended March 31,
2004.
LIQUIDITY AND CAPITAL RESOURCES
-------------------------------
Shareholders' equity was $4.0 billion or 9.7% of total consolidated assets
at March 31, 2005, compared to $3.9 billion or 9.6% of total consolidated
assets at December 31, 2004, and $3.4 billion or 9.6% of total
consolidated assets at March 31, 2004. The increase in shareholders'
equity at March 31, 2005 was primarily due to earnings net of dividends
paid. During the first quarter of 2005, the Corporation issued 563,114
shares of its common stock valued at $24.0 million in conjunction with
Metavante's acquisition of Prime Associates, Inc. Also during the first
quarter of 2005, the Corporation issued 355,046 shares of its common stock
valued at $14.4 million to fund its 2004 obligations under its retirement
and employee stock ownership plans.
At March 31, 2005, the net loss in accumulated other comprehensive income
amounted to $16.3 million which represented a negative change in
accumulated other comprehensive income of $39.7 million since December 31,
2004. Net accumulated other comprehensive income associated with
available for sale investment securities was a net loss of $17.9 million
at March 31, 2005, compared to a net gain of $31.1 million at December 31,
2004, resulting in a net loss of $49.0 million over the three month
period. Net accumulated other comprehensive income associated with the
change in fair value of the Corporation's derivative financial instruments
designated as cash flow hedges was a net gain of $9.3 million over the
three month period.
The Corporation has a Stock Repurchase Program under which up to 12
million shares can be repurchased annually. No common shares were
acquired under the program in the first quarter of 2005. For the three
months ended March 31, 2004, 2.3 million common shares were acquired at an
aggregate cost of $88.5 million or an average price of $38.98 per common
share. As a result of the Metavante acquisitions, the Corporation does
not expect that it will acquire common shares under the Stock Repurchase
Program in the near term.
On April 26, 2005, the Corporation announced that its Board of Directors
increased the quarterly cash dividend on its common stock 14.3%, from
$0.21 per share to $0.24 per share.
The Corporation continues to have a strong capital base and its regulatory
capital ratios are significantly above the minimum requirements as shown
in the following tables.
RISK-BASED CAPITAL RATIOS
-------------------------
($ in millions)
March 31, 2005 December 31, 2004
--------------------------------- ---------------------------------
Amount Ratio Amount Ratio
--------------------------------- ---------------------------------
Tier 1 Capital $ 2,662 7.56 % $ 2,520 7.42 %
Tier 1 Capital
Minimum Requirement 1,408 4.00 1,358 4.00
-------------------------------- --------------------------------
Excess $ 1,254 3.56 % $ 1,162 3.42 %
================================ ================================
Total Capital $ 3,938 11.19 % $ 3,802 11.20 %
Total Capital
Minimum Requirement 2,817 8.00 2,716 8.00
-------------------------------- --------------------------------
Excess $ 1,121 3.19 % $ 1,086 3.20 %
================================ ================================
Risk-Adjusted Assets $ 35,210 $ 33,948
================= =================
LEVERAGE RATIOS
---------------
($ in millions)
March 31, 2005 December 31, 2004
--------------------------------- ---------------------------------
Amount Ratio Amount Ratio
--------------------------------- ---------------------------------
Tier 1 Capital $ 2,662 6.82 % $ 2,520 6.72 %
Minimum Leverage
Requirement 1,170 - 1,951 3.00 - 5.00 1,126 - 1,876 3.00 - 5.00
-------------------------------- --------------------------------
Excess $ 1,492 - 711 3.82 - 1.82 % $ 1,394 - 644 3.72 - 1.72 %
================================ ================================
Adjusted Average
Total Assets $ 39,011 $ 37,509
================= =================
27
M&I manages its liquidity to ensure that funds are available to each of
its banks to satisfy the cash flow requirements of depositors and
borrowers and to ensure the Corporation's own cash requirements are met.
M&I maintains liquidity by obtaining funds from several sources.
The Corporation's most readily available source of liquidity is its
investment portfolio. Investment securities available for sale, which
totaled $5.5 billion at March 31, 2005, represent a highly accessible
source of liquidity. The Corporation's portfolio of held-to-maturity
investment securities, which totaled $0.7 billion at March 31, 2005,
provides liquidity from maturities and amortization payments. The
Corporation's loans held-for-sale provide additional liquidity. These
loans represent recently funded loans that are prepared for delivery to
investors, which generally occurs within thirty to ninety days after the
loan has been funded.
Depositors within M&I's defined markets are another source of liquidity.
Core deposits (demand, savings, money market and consumer time deposits)
averaged $16.5 billion in the first quarter of 2005. The Corporation's
banking affiliates may also access the federal funds markets or utilize
collateralized borrowings such as treasury demand notes or FHLB advances.
The banking affiliates may use wholesale deposits. Wholesale deposits are
funds in the form of deposits generated through distribution channels
other than the Corporation's own banking branches. These deposits allow
the Corporation's banking subsidiaries to gather funds across a national
geographic base and at pricing levels considered attractive, where the
underlying depositor may be retail or institutional. Access to wholesale
deposits also provides the Corporation with the flexibility to not pursue
single service time deposit relationships in markets that have experienced
some unprofitable pricing levels. Wholesale deposits averaged $6.8
billion in the first quarter of 2005.
The Corporation utilizes certain financing arrangements to meet its
balance sheet management, funding, liquidity, and market or credit risk
management needs. The majority of these activities are basic term or
revolving securitization vehicles. These vehicles are generally funded
through term-amortizing debt structures or with short-term commercial
paper designed to be paid off based on the underlying cash flows of the
assets securitized. These vehicles provide access to funding sources
substantially separate from the general credit risk of the Corporation and
its subsidiaries. See Note 8 to the Consolidated Financial Statements for
an update of the Corporation's securitization activities in the first
quarter of 2005.
The Corporation's lead bank, M&I Marshall & Ilsley Bank ("the Bank"), has
implemented a bank note program which permits it to issue up to $7.0
billion of short-term and medium-term notes which are offered and sold
only to institutional investors. This program is intended to enhance
liquidity by enabling the Bank to sell its debt instruments in private
markets in the future without the delays which would otherwise be
incurred. Bank notes outstanding at March 31, 2005, amounted to $4.0
billion of which $0.9 billion is subordinated and qualifies as
supplementary capital for regulatory capital purposes. Bank notes issued
during the first quarter of 2005 amounted to $900.0 million.
The national capital markets represent a further source of liquidity to
M&I. M&I has filed a number of shelf registration statements that are
intended to permit M&I to raise funds through sales of corporate debt
and/or equity securities with a relatively short lead time.
During the second quarter of 2004, the Corporation filed a shelf
registration statement with the Securities and Exchange Commission which
will enable the Corporation to issue various securities, including debt
securities, common stock, preferred stock, depositary shares, purchase
contracts, units, warrants, and trust preferred securities, up to an
aggregate amount of $3.0 billion. At March 31, 2005, approximately $1.45
billion was available for future securities issuances.
During the fourth quarter of 2004, the Corporation filed a shelf
registration statement with the Securities and Exchange Commission which
will enable the Corporation to issue up to 6.0 million shares of its
common stock which may be offered and issued from time to time in
connection with the acquisition by M&I, Metavante and/or other
consolidated subsidiaries of businesses that the Corporation determines to
be to its advantage as they become available. At March 31, 2005, 5.4
million shares of common stock were available for future issuances.
Under other shelf registration statements, the Corporation may issue up to
$0.6 billion of medium-term Series F notes with maturities ranging from 9
months to 30 years and at fixed or floating rates. At March 31, 2005, no
Series F notes had been issued. The Corporation may issue up to $0.5
billion of medium-term MiNotes with maturities ranging from 9 months to 30
years and at fixed or floating rates. The MiNotes are issued in smaller
denominations to attract retail investors. At March 31, 2005, MiNotes
issued amounted to $0.2 billion. Additionally, the Corporation has a
commercial paper program. At March 31, 2005, commercial paper outstanding
amounted to $0.3 billion.
28
Short-term borrowings represent contractual debt obligations with
maturities of one year or less and amounted to $2.6 billion at March 31,
2005. Long-term borrowings amounted to $7.7 billion at March 31, 2005.
The scheduled maturities of long-term borrowings including estimated
interest payments at March 31, 2005 are as follows: $2.2 billion is due in
less than one year; $2.8 billion is due in one to three years; $1.6
billion is due in three to five years; and $3.5 billion is due in more
than five years. As previously discussed, during the first quarter of
2005, the Corporation issued its common stock valued at $14.4 million to
fund a portion of its 2004 obligations under its retirement and employee
stock ownership plans. There have been no other substantive changes to
the Corporation's contractual obligations as reported in the Corporation's
Annual Report on Form 10-K for the year ended December 31, 2004.
OFF-BALANCE SHEET ARRANGEMENTS
------------------------------
At March 31, 2005, there have been no substantive changes with respect to
the Corporation's off-balance sheet activities as disclosed in the
Corporation's 2004 Annual Report on Form 10-K. See Note 8 to the
Consolidated Financial Statements for an update of the Corporation's
securitization activities in the first quarter of 2005. The Corporation
continues to believe that based on the off-balance sheet arrangements with
which it is presently involved, such off-balance sheet arrangements
neither have, or are reasonably likely to have, a material impact to its
current or future financial condition, results of operations, liquidity or
capital.
CRITICAL ACCOUNTING POLICIES
----------------------------
The Corporation has established various accounting policies which govern
the application of accounting principles generally accepted in the United
States in the preparation of the Corporation's consolidated financial
statements. The significant accounting policies of the Corporation are
described in the footnotes to the consolidated financial statements
contained in the Corporation's Annual Report on Form 10-K and updated as
necessary in its Quarterly Reports on Form 10-Q. Certain accounting
policies involve significant judgments and assumptions by management that
may have a material impact on the carrying value of certain assets and
liabilities. Management considers such accounting policies to be critical
accounting policies. The judgments and assumptions used by management are
based on historical experience and other factors, which are believed to be
reasonable under the circumstances. Because of the nature of judgments
and assumptions made by management, actual results could differ from these
judgments and estimates which could have a material impact on the carrying
values of assets and liabilities and the results of the operations of the
Corporation. Management continues to consider the following to be those
accounting policies that require significant judgments and assumptions:
Allowance for Loan and Lease Losses
-----------------------------------
The allowance for loan and lease losses represents management's estimate
of probable losses inherent in the Corporation's loan and lease portfolio.
Management evaluates the allowance each quarter to determine that it is
adequate to absorb these inherent losses. This evaluation is supported by
a methodology that identifies estimated losses based on assessments of
individual problem loans and historical loss patterns of homogeneous loan
pools. In addition, environmental factors, including economic conditions
and regulatory guidance, unique to each measurement date are also
considered. This reserving methodology has the following components:
' Reserve. The Corporation's internal risk rating system is used
to identify loans and leases that meet the criteria as being "impaired"
under the definition in SFAS 114. A loan is impaired when, based on
current information and events, it is probable that a creditor will be
unable to collect all amounts due according to the contractual terms of
the loan agreement. For impaired loans, impairment is measured using one
of three alternatives: (1) the present value of expected future cash flows
discounted at the loan's effective interest rate; (2) the loan's
observable market price, if available; or (3) the fair value of the
collateral for collateral dependent loans and loans for which foreclosure
is deemed to be probable. In general, these loans have been internally
identified as credits requiring management's attention due to underlying
problems in the borrower's business or collateral concerns. Subject to a
minimum size, a quarterly review of these loans is performed to identify
the specific reserve necessary to be allocated to each of these loans.
This analysis considers expected future cash flows, the value of
collateral and also other factors that may impact the borrower's ability
to make payments when due.
Collective Loan Impairment. This component of the allowance for loan and
lease losses is comprised of two elements. First, the Corporation makes a
significant number of loans and leases, which due to their underlying
similar characteristics, are assessed for loss as homogeneous pools.
Included in the homogeneous pools are loans and leases from the retail
sector and commercial loans under a certain size that have been excluded
from the specific reserve allocation previously discussed. The
Corporation segments the pools by type of loan or lease and, using
historical loss information, estimates a loss reserve for each pool.
29
The second element reflects management's recognition of the uncertainty
and imprecision underlying the process of estimating losses. The internal
risk rating system is used to identify those loans within certain industry
segments that based on financial, payment or collateral performance,
warrant closer ongoing monitoring by management. The specific loans
mentioned earlier are excluded from this analysis. Based on management's
judgment, reserve ranges are allocated to industry segments due to
environmental conditions unique to the measurement period. Consideration
is given to both internal and external environmental factors such as
economic conditions in certain geographic or industry segments of the
portfolio, economic trends, risk profile, and portfolio composition.
Reserve ranges are then allocated using estimates of loss exposure that
management has identified based on these economic trends or conditions.
The following factors were taken into consideration in determining the
adequacy of the allowance for loan and lease losses at March 31, 2005:
In general, the Corporation's borrowing customers appear to have
successfully managed their businesses through the slower economic
conditions, the economy is improving and the Corporation's customer
base is showing signs of increased business activity as evidence by
the loan growth in this quarter.
At March 31, 2005, allowances for loan and lease losses continue to
be carried for exposures to manufacturing, healthcare, production
agriculture (including dairy and cropping operations), truck
transportation, accommodation, general contracting, motor vehicle
and parts dealers and the airline industries. The majority of the
commercial charge-offs incurred during the past two years were in
these industry segments. While most loans in these categories are
still performing, the Corporation continues to believe these sectors
have been more adversely affected by the previous economic slowdown.
Reduced revenues causing a declining utilization of the industry's
capacity levels have impacted manufacturing. As a result,
collateral values and the amounts realized through the sale or
liquidation of manufacturing plant and equipment have declined
accordingly.
During the first quarter of 2005, the Corporation's commitments to
Shared National Credits were approximately $2.7 billion with usage
averaging around 42%. Many of the Corporation's largest charge-offs
have come from the Shared National Credit portfolio. Although these
factors result in an increased risk profile, as of March 31, 2005
there were no Shared National Credit nonperforming loans. The
Corporation's exposure to Shared National Credits is monitored
closely given this lending group's loss experience.
The Corporation's primary lending areas are Wisconsin, Arizona,
Minnesota and Missouri. The Minnesota and Missouri markets continue
to represent relatively new geographic regions for the Corporation.
Each of these regions has cultural and environmental factors that
are unique to them. The uncertainty regarding the inherent losses
in their respective loan portfolios continue to present increased
risks which have been mitigated by the implementation of the
Corporation's credit underwriting and monitoring processes. At
March 31, 2005, total nonperforming loans and leases as a percent of
total loans and leases for the Minnesota and Missouri regions
combined was somewhat higher than the consolidated total of
nonperforming loans and leases as a percent of total consolidated
loans and leases.
At March 31, 2005, nonperforming loans and leases amounted to $130.0
million or 0.42% of consolidated loans and leases compared to $132.4
million or 0.45% of consolidated loans and leases at December 31,
2004, and $156.1 million or 0.60% of consolidated loans and leases
at March 31, 2004. Both in terms of absolute dollars and percent of
total loans and leases outstanding, the quarter ended March 31, 2005
represented the eighth consecutive quarter-end in which there was a
decline in nonperforming loans and leases. Nonaccrual loans and
leases have been the primary source of the decrease in nonperforming
loans and leases since December 31, 2004. The net decrease was
primarily due to continued reductions and positive resolutions in
several portfolio segments and improving credit conditions
throughout the loan and lease portfolios.
Net charge-offs amounted to $8.0 million or 0.11% of average loans
and leases in the first quarter of 2005 compared to $12.8 million or
0.18% of average loans and leases in the fourth quarter of 2004 and
$4.9 million or 0.08% of average loans and leases in the first
quarter of 2004. The lower level of net charge-offs experienced
throughout 2004 and the first quarter of 2005 has to some extent
been the result of higher than normal recoveries. Based on the
status of some of the larger charge-offs recognized in recent
quarters, management expects recoveries will likely return to lower
levels in future periods. Recoveries in the first quarter of 2005
were $1.4 million lower than recoveries in the fourth quarter of
2004 and $0.7 million lower than recoveries in the first quarter of
2004.
Credit quality continued to show improvement as evidenced by the
decline in nonperforming loans and leases and net charge-offs which
were lower than expected. Management expects the longer term level
of nonperforming loans and leases to be in the range of 50-60 basis
points and expects credit quality to trend to historical levels.
While it is unclear when this will occur, management does not
believe that current net charge-off levels are sustainable
indefinitely.
30
Based on the above loss estimates, management determined its best estimate
of the required allowance for loans and leases. Management's evaluation
of the factors described above resulted in an allowance for loan and lease
losses of $358.3 million or 1.17% of loans and leases outstanding at March
31, 2005. The allowance for loan and lease losses was $358.1 million or
1.21% of loans and leases outstanding at December 31, 2004. Consistent
with the improvement in credit quality trends noted above, the provision
for loan and lease losses amounted to $8.1 million for the three months
ended March 31, 2005. By comparison, the provision for loan and lease
losses amounted to $12.8 million in the fourth quarter of 2004 and $9.0
million in the first quarter of 2004. The resulting provisions for loan
and lease losses are the amounts required to establish the allowance for
loan and lease losses at the required level after considering charge-offs
and recoveries. Management recognizes there are significant estimates in
the process and the ultimate losses could be significantly different from
those currently estimated.
The Corporation has not materially changed any aspect of its overall
approach in the determination of the allowance for loan and lease losses.
There have been no material changes in assumptions or estimation
techniques as compared to prior periods that impacted the determination of
the current period allowance. However, on an on-going basis the
Corporation continues to refine the methods used in determining
management's best estimate of the allowance for loan and lease losses.
Capitalized Software and Conversion Costs
-----------------------------------------
Direct costs associated with the production of computer software that will
be licensed externally or used in a service bureau environment are
capitalized. Capitalization of such costs is subject to strict accounting
policy criteria, although the appropriate time to initiate capitalization
requires management judgment. Once the specific capitalized project is
put into production, the software cost is amortized over its estimated
useful life, generally four years. Each quarter, the Corporation performs
net realizable value tests to ensure the assets are recoverable. Such
tests require management judgment as to the future sales and profitability
of a particular product which involves, in some cases, multi-year
projections. Technology changes and changes in customer requirements can
have a significant impact on the recoverability of these assets and can be
difficult to predict. Should significant adverse changes occur, estimates
of useful life may have to be revised or write-offs would be required to
recognize impairment. For the three months ended March 31, 2005 and 2004,
the amount of software costs capitalized amounted to $9.0 million and
$10.1 million, respectively. Amortization expense of software costs
amounted to $14.8 million for the three months ended March 31, 2005
compared to $11.4 million for the three months ended March 31, 2004.
Direct costs associated with customer system conversions to the data
processing operations are capitalized and amortized on a straight-line
basis over the terms, generally five to seven years, of the related
servicing contracts.
Capitalization only occurs when management is satisfied that such costs
are recoverable through future operations or penalties (buyout fees) in
case of early termination. For the three months ended March 31, 2005 and
2004, the amount of conversion costs capitalized amounted to $2.9 million
and $1.6 million, respectively. Amortization expense of conversion costs
amounted to $2.8 million and $3.3 million for the three months ended March
31, 2005 and 2004, respectively.
Net unamortized costs were ($ in millions):
March 31,
--------------------------
2005 2004
------------ ------------
Software $ 157.2 $ 133.5
Conversions 26.7 29.0
----------- -----------
Total $ 183.9 $ 162.5
=========== ===========
The Corporation has not substantively changed any aspect to its overall
approach in the determination of the amount of costs that are capitalized
for software development or conversion activities. There have been no
material changes in assumptions or estimation techniques as compared to
prior periods that impacted the determination of the periodic amortization
of such costs.
31
Financial Asset Sales and Securitizations
-----------------------------------------
The Corporation utilizes certain financing arrangements to meet its
balance sheet management, funding, liquidity, and market or credit risk
management needs. The majority of these activities are basic term or
revolving securitization vehicles. These vehicles are generally funded
through term-amortizing debt structures or with short-term commercial
paper designed to be paid off based on the underlying cash flows of the
assets securitized. These financing entities are contractually limited to
a narrow range of activities that facilitate the transfer of or access to
various types of assets or financial instruments. In certain situations,
the Corporation provides liquidity and/or loss protection agreements. In
determining whether the financing entity should be consolidated, the
Corporation considers whether the entity is a qualifying special-purpose
entity ("QSPE") as defined in Statement of Financial Accounting Standards
("SFAS") No. 140, Accounting for Transfers and Servicing of Financial
Assets and Extinguishments of Liabilities. For non-consolidation, a QSPE
must be demonstrably distinct, have significantly limited permitted
activities, hold assets that are restricted to transferred financial
assets and related assets, and can sell or dispose of non-cash financial
assets only in response to specified conditions.
In December 2003, the Corporation adopted Financial Accounting Standards
Board Interpretation No. 46 ("FIN 46R"), Consolidation of Variable
Interest Entities (revised December 2003). This interpretation addresses
consolidation by business enterprises of variable interest entities.
Under current practice, entities generally have been included in
consolidated financial statements because they are controlled through
voting interests. This interpretation explains how to identify variable
interest entities and how an entity assesses its interests in a variable
interest entity to decide whether to consolidate that entity. FIN 46R
requires existing unconsolidated variable interest entities to be
consolidated by their primary beneficiaries if the entities do not
effectively disperse risks among parties involved. Variable interest
entities that effectively disperse risks will not be consolidated unless a
single party holds an interest or combination of interests that
effectively recombines risks that were previously dispersed. Transferors
to QSPEs and "grandfathered" QSPEs subject to the reporting requirements
of SFAS 140 are outside the scope of FIN 46R and do not consolidate those
entities. FIN 46R also requires certain disclosures by the primary
beneficiary of a variable interest entity or an entity that holds a
significant variable interest in a variable interest entity.
With respect to the Corporation's securitization activities, the adoption
of FIN 46R did not have an impact on its consolidated financial statements
because its transfers are generally to QSPEs.
The Corporation sells financial assets in a two-step process that results
in a surrender of control over the assets as evidenced by true-sale
opinions from legal counsel, to unconsolidated entities that securitize
the assets. The Corporation retains interests in the securitized assets
in the form of interest-only strips and a cash reserve account. Gain or
loss on sale of the assets depends in part on the carrying amount assigned
to the assets sold allocated between the asset sold and retained interests
based on their relative fair values at the date of transfer. The value of
the retained interests is based on the present value of expected cash
flows estimated using management's best estimates of the key assumptions -
credit losses, prepayment speeds, forward yield curves and discount rates
commensurate with the risks involved. Actual results can differ from
expected results.
The Corporation reviews the carrying values of the retained interests
monthly to determine if there is a decline in value that is other than
temporary and periodically reviews the propriety of the assumptions used
based on current historical experience as well as the sensitivities of the
carrying value of the retained interests to adverse changes in the key
assumptions. The Corporation believes that its estimates result in a
reasonable carrying value of the retained interests.
The Corporation regularly sells automobile loans to an unconsolidated
multi-seller special purpose entity commercial paper conduit in
securitization transactions in which servicing responsibilities and
subordinated interests are retained. The outstanding balances of
automobile loans sold in these securitization transactions were $980.4
million at March 31, 2005. At March 31, 2005 the carrying amount of
retained interests amounted to $30.8 million.
The Corporation also sells, from time to time, debt securities classified
as available for sale that are highly rated to an unconsolidated
bankruptcy remote QSPE whose activities are limited to issuing highly
rated asset-backed commercial paper with maturities up to 180 days which
is used to finance the purchase of the investment securities. The
Corporation provides liquidity back-up in the form of Liquidity Purchase
Agreements. In addition, the Corporation acts as counterparty to interest
rate swaps that enable the QSPE to hedge its interest rate risk. Such
swaps are designated as free-standing derivative financial instruments in
the Corporation's Consolidated Balance Sheet.
At March 31, 2005, highly rated investment securities in the amount of
$292.9 million were outstanding in the QSPE to support the outstanding
commercial paper.
Income Taxes
------------
Income taxes are accounted for using the asset and liability method.
Under this method, deferred tax assets and liabilities are recognized for
the future tax consequences attributable to differences between the
financial statement carrying amounts of existing assets and liabilities
and their respective tax basis. Deferred tax assets and liabilities are
measured using enacted tax rates expected to apply to taxable income in
the years in which those temporary differences are expected to be
recovered or settled. The effect on tax assets and liabilities of a
change in tax rates is recognized in the income statement in the period
that includes the enactment date.
32
The determination of current and deferred income taxes is based on complex
analyses of many factors, including interpretation of Federal and state
income tax laws, the difference between tax and financial reporting basis
of assets and liabilities (temporary differences), estimates of amounts
currently due or owed, such as the timing of reversals of temporary
differences and current accounting standards. The Federal and state
taxing authorities who make assessments based on their determination of
tax laws periodically review the Corporation's interpretation of Federal
and state income tax laws. Tax liabilities could differ significantly
from the estimates and interpretations used in determining the current and
deferred income tax liabilities based on the completion of taxing
authority examinations.
FORWARD-LOOKING STATEMENTS
--------------------------
Items 2 and 3 of this Form 10-Q, "Management's Discussion and Analysis of
Financial Position and Results of Operations" and "Quantitative and
Qualitative Disclosures about Market Risk," respectively, contain forward-
looking statements within the meaning of the safe harbor provisions of the
Private Securities Litigation Reform Act of 1995. Such forward-looking
statements include, without limitation, statements regarding expected
financial and operating activities and results which are preceded by words
such as "expects", "anticipates" or "believes". Such statements are
subject to important factors that could cause the Corporation's actual
results to differ materially from those anticipated by the forward-looking
statements. These factors include those referenced in Item 1, Business,
of the Corporation's Annual Report on Form 10-K for the period ending
December 31, 2004 under the heading "Forward-Looking Statements" and as
may be described from time to time in the Corporation's subsequent SEC
filings, and such factors are incorporated herein by reference.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The following updated information should be read in conjunction with the
Corporation's 2004 Annual Report on Form 10-K. Updated information
regarding the Corporation's use of derivative financial instruments is
contained in Note 11, Notes to Financial Statements contained in Item 1
herein.
Market risk arises from exposure to changes in interest rates, exchange
rates, commodity prices, and other relevant market rate or price risk.
The Corporation faces market risk through trading and other than trading
activities. While market risk that arises from trading activities in the
form of foreign exchange and interest rate risk is immaterial to the
Corporation, market risk from other than trading activities in the form of
interest rate risk is measured and managed through a number of methods.
Interest Rate Risk
------------------
The Corporation uses financial modeling techniques to identify potential
changes in income under a variety of possible interest rate scenarios.
Financial institutions, by their nature, bear interest rate and liquidity
risk as a necessary part of the business of managing financial assets and
liabilities. The Corporation has designed strategies to limit these risks
within prudent parameters and identify appropriate risk/reward tradeoffs
in the financial structure of the balance sheet.
The financial models identify the specific cash flows, repricing timing
and embedded option characteristics of the assets and liabilities held by
the Corporation. Policies are in place to assure that neither earnings
nor fair value at risk exceed appropriate limits. The use of a limited
array of derivative financial instruments has allowed the Corporation to
achieve the desired balance sheet repricing structure while simultaneously
meeting the desired objectives of both its borrowing and depositing
customers.
The models used include measures of the expected repricing characteristics
of administered rate (NOW, savings and money market accounts) and non-rate
related products (demand deposit accounts, other assets and other
liabilities). These measures recognize the relative insensitivity of
these accounts to changes in market interest rates, as demonstrated
through current and historical experiences. However, during the second
quarter of 2003, the Corporation increased the proportion of these
accounts modeled as rate sensitive, in order to recognize the instability
of some of the recent balance growth in these accounts. This modeling
treatment will be maintained until the incremental balances can be
observed across a more complete interest rate cycle. In addition to
contractual payment information for most other assets and liabilities, the
models also include estimates of expected prepayment characteristics for
those items that are likely to materially change their payment structures
in different rate environments, including residential mortgage products,
certain commercial and commercial real estate loans and certain mortgage-
related securities. Estimates for these sensitivities are based on
industry assessments and are substantially driven by the differential
between the contractual coupon of the item and current market rates for
similar products.
33
This information is incorporated into a model that allows the projection
of future income levels in several different interest rate environments.
Earnings at risk are calculated by modeling income in an environment where
rates remain constant, and comparing this result to income in a different
rate environment, and then dividing this difference by the Corporation's
budgeted operating income before taxes for the calendar year. Since
future interest rate moves are difficult to predict, the following table
presents two potential scenarios - a gradual increase of 100bp across the
entire yield curve over the course of the year (+25bp per quarter), and a
gradual decrease of 100bp across the entire yield curve over the course of
the year (-25bp per quarter) for the balance sheet as of the indicated
dates:
Impact to Annual Pretax Income as of
--------------------------------------------------------------
March 31, December 31, September 30, June 30, March 31,
2005 2004 2004 2004 2004
---------- ----------- ------------- ----------- ---------
Hypothetical Change in Interest Rate
100 basis point gradual:
Rise in rates (0.2)% (0.1)% 0.4 % (0.6)% (0.7)%
Decline in rates 0.3 % 0.2 % (0.4)% 0.6 % (2.1)%
These results are based solely on the modeled parallel changes in market
rates, and do not reflect the earnings sensitivity that may arise from
other factors such as changes in the shape of the yield curve and changes
in spread between key market rates. These results also do not include any
management action to mitigate potential income variances within the
simulation process. Such action could potentially include, but would not
be limited to, adjustments to the repricing characteristics of any on- or
off-balance sheet item with regard to short-term rate projections and
current market value assessments.
Actual results will differ from simulated results due to the timing,
magnitude, and frequency of interest rate changes as well as changes in
market conditions and management strategies.
Another component of interest rate risk is measuring the fair value at
risk for a given change in market interest rates. The Corporation also
uses computer modeling techniques to determine the present value of all
asset and liability cash flows (both on- and off-balance sheet), adjusted
for prepayment expectations, using a market discount rate. The net change
in the present value of the asset and liability cash flows in different
market rate environments is the amount of fair value at risk from those
rate movements. As of March 31, 2005 the fair value of equity at risk for
a gradual 100bp shift in rates was no more than 2.0% of the market value
of the Corporation.
Equity Risk
-----------
In addition to interest rate risk, the Corporation incurs market risk in
the form of equity risk. M&I's Capital Markets Group invests in private,
medium-sized companies to help establish new businesses or recapitalize
existing ones. Exposure to the change in equity values for the companies
that are held in their portfolio exists. However, fair values are
difficult to determine until an actual sale or liquidation transaction
actually occurs. At March 31, 2005 the carrying value of total active
capital markets investments amounted to approximately $68.3 million.
As of March 31, 2005, M&I Trust Services administered $76.3 billion in
assets and directly managed a portfolio of $18.1 billion. Exposure exists
to changes in equity values due to the fact that fee income is partially
based on equity balances. While this exposure is present, quantification
remains difficult due to the number of other variables affecting fee
income. Interest rate changes can also have an effect on fee income for
the above stated reasons.
ITEM 4. CONTROLS AND PROCEDURES
We maintain a set of disclosure controls and procedures that are designed
to ensure that information required to be disclosed by us in the reports
filed by us under the Securities Exchange Act of 1934, as amended, is
recorded, processed, summarized and reported within the time periods
specified in the SEC's rules and forms. We carried out an evaluation,
under the supervision and with the participation of our management,
including our Chief Executive Officer and our Senior Vice President and
Chief Financial Officer, of the effectiveness of the design and operation
of our disclosure controls and procedures pursuant to Rule 13a-15 of the
Exchange Act. Based on that evaluation, our Chief Executive Officer and
our Senior Vice President and Chief Financial Officer concluded that our
disclosure controls and procedures are effective as of the end of the
period covered by this report.
There have been no changes in our internal control over financial
reporting identified in connection with the evaluation discussed above
that occurred during our last fiscal quarter that have materially
affected, or are reasonably likely to materially affect, our internal
control over financial reporting.
34
PART II - OTHER INFORMATION
ITEM 2. UNREGISTERED SALE OF EQUITY SECURITIES AND USE OF PROCEEDS
The following table reflects the purchases of Marshall & Ilsley
Corporation stock for the specified period:
Total Number of Maximum Number
Shares Purchased of Shares that
as Part of May Yet Be
Total Number Average of Publicly Purchased Under
of Shares Price Paid Announced Plans the Plans
Period Purchased(1) per Share or Programs or Programs
----------------- ------------- ----------- ------------------ -----------------
January 1 to
January 31, 2005 18,100 $ 43.35 -- 12,000,000
February 1 to
February 28, 2005 13,523 $ 37.77 -- 12,000,000
March 1 to
March 31, 2005 1,000 $ 30.32 -- 12,000,000
------------ --------- ---------------
Total 32,623 $ 40.64 --
============ ========= ===============
The Corporation's Share Repurchase Program was publicly reconfirmed in
April 2004 and again in April 2005. The Share Repurchase Program
authorizes the purchase of up to 12 million shares annually and renews
each year at that level unless changed or terminated by subsequent
Board action.
(1) Does not include 8,365 shares purchased by rabbi trusts, at an
average price paid per share of $42.47, pursuant to nonqualified
deferred compensation plans for the three months ended March 31,
2005.
35
ITEM 6. EXHIBITS
Exhibit 10 - Metavante Corporation Acquisition Performance
Incentive Plan.
Exhibit 11 - Statement Regarding Computation of Earnings Per
Share, Incorporated by Reference to NOTE 4 of Notes
to Financial Statements contained in Item 1 -
Financial Statements (unaudited) of Part 1 -
Financial Information herein.
Exhibit 12 - Statement Regarding Computation of Ratio of
Earnings to Fixed Charges
Exhibit 31(a) - Certification of Chief Executive Officer pursuant
to Rule 13a-14(a) under the Securities Exchange Act
of 1934, as amended.
Exhibit 31(b) - Certification of Chief Financial Officer pursuant
to Rule 13a-14(a) under the Securities Exchange Act
of 1934, as amended.
Exhibit 32(a) - Certification of Chief Executive Officer pursuant
to 18 U.S.C. Section 1350.
Exhibit 32(b) - Certification of Chief Financial Officer pursuant
to 18 U.S.C. Section 1350.
36
SIGNATURES
----------
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.
MARSHALL & ILSLEY CORPORATION
(Registrant)
/s/ Patricia R. Justiliano
__________________________________
Patricia R. Justiliano
Senior Vice President and
Corporate Controller
(Chief Accounting Officer)
/s/ James E. Sandy
__________________________________
James E. Sandy
Vice President
May 10, 2005
37
EXHIBIT INDEX
Exhibit Number Description of Exhibit
______________ ____________________________________________
(10) Metavante Corporation Acquisition Performance
Incentive Plan.
(11) Statement Regarding Computation of Earnings
Per Share, Incorporated by Reference to NOTE 4
of Notes to Financial Statements contained in
Item 1 - Financial Statements (unaudited) of
Part 1 - Financial Information herein.
(12) Statement Regarding Computation of Ratio of
Earnings to Fixed Charges.
(31)(a) Certification of Chief Executive Officer pursuant
to Rule 13a-14(a) under the Securities Exchange
Act of 1934, as amended.
(31)(b) Certification of Chief Financial Officer pursuant
to Rule 13a-14(a) under the Securities Exchange
Act of 1934, as amended.
(32)(a) Certification of Chief Executive Officer pursuant
to 18 U.S.C. Section 1350.
(32)(b) Certification of Chief Financial Officer pursuant
to 18 U.S.C. Section 1350.