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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2001
COMMISSION FILE NUMBER 1-13805
HARRIS PREFERRED CAPITAL CORPORATION
(Exact name of registrant as specified in its charter)
MARYLAND #36-4183096
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
111 WEST MONROE STREET, 60603
CHICAGO, ILLINOIS (Zip Code)
(Address of principal executive offices)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE:
(312) 461-2121
------------------------
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 [ ]
The number of shares of Common Stock, $1.00 par value, outstanding on
November 13, 2001 was 1,000.
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HARRIS PREFERRED CAPITAL CORPORATION
TABLE OF CONTENTS
Part I FINANCIAL INFORMATION
Item 1. Financial Statements:
Balance Sheets.............................................. 2
Statements of Operations and Other Comprehensive Income..... 3
Statements of Changes in Stockholders' Equity............... 4
Statements of Cash Flows.................................... 5
Notes to Financial Statements............................... 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations............... 6
Part II OTHER INFORMATION
Item 6. Reports on Form 8-K......................................... 21
Signatures............................................................... 21
HARRIS PREFERRED CAPITAL CORPORATION
BALANCE SHEETS
(UNAUDITED)
SEPTEMBER 30, DECEMBER 31, SEPTEMBER 30,
2001 2000 2000
------------- ------------ -------------
(IN THOUSANDS)
ASSETS
Cash on deposit with Harris Trust and Savings Bank...... $ 1,070 $ 819 $ 812
Securities purchased from Harris Trust and Savings Bank
under agreement to resell............................. 21,001 3,000 22,004
Notes receivable from Harris Trust and Savings Bank..... 68,659 102,960 112,560
Securities available-for-sale:
Mortgage-backed....................................... 213,775 352,965 351,180
U.S. Treasury......................................... 199,724 24,850 --
Securing mortgage collections due from Harris Trust and
Savings Bank.......................................... 2,403 2,786 1,527
Other assets............................................ 1,520 2,559 2,648
-------- -------- --------
TOTAL ASSETS..................................... $508,152 $489,939 $490,731
======== ======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Accrued expenses........................................ $ 21 $ 115 $ 61
-------- -------- --------
Commitments and contingencies........................... -- -- --
STOCKHOLDERS' EQUITY
7 3/8% Noncumulative Exchangeable Preferred Stock,
Series A ($1 par value); liquidation value of
$250,000; 20,000,000 shares authorized,10,000,000
shares issued and outstanding......................... 250,000 250,000 250,000
Common stock ($1 par value); 1,000 shares authorized,
issued and outstanding................................ 1 1 1
Additional paid-in capital.............................. 240,733 240,733 240,733
Earnings in excess of distributions..................... 13,833 536 10,098
Accumulated other comprehensive income -- net unrealized
gains/(losses) on available-for-sale securities....... 3,564 (1,446) (10,162)
-------- -------- --------
TOTAL STOCKHOLDERS' EQUITY....................... 508,131 489,824 490,670
-------- -------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY....... $508,152 $489,939 $490,731
======== ======== ========
The accompanying notes are an integral part of these financial statements.
2
HARRIS PREFERRED CAPITAL CORPORATION
STATEMENTS OF OPERATIONS
AND OTHER COMPREHENSIVE INCOME
(UNAUDITED)
QUARTER ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
---------------------- -----------------------
2001 2000 2001 2000
---- ---- ---- ----
(IN THOUSANDS, EXCEPT PER SHARE DATA)
INTEREST INCOME:
Securities purchased from Harris Trust and
Savings Bank under agreement to resell...... $ 365 $ 646 $ 1,280 $ 1,420
Notes receivable from Harris Trust and Savings
Bank........................................ 1,198 1,884 4,164 6,061
Securities available-for-sale:
Mortgage-backed............................. 5,832 5,450 17,251 16,266
U.S. Treasury............................... 73 126 360 300
--------- --------- ---------- ---------
Total interest income..................... 7,468 8,106 23,055 24,047
NON-INTEREST INCOME:
Gain on sale of securities..................... 2,593 257 4,796 257
--------- --------- ---------- ---------
OPERATING EXPENSES:
Loan servicing fees paid to Harris Trust and
Savings Bank................................ 56 90 195 290
Advisory fees paid to Harris Trust and Savings
Bank........................................ 8 15 28 45
General and administrative..................... 50 29 157 168
--------- --------- ---------- ---------
Total operating expenses.................. 114 134 380 503
--------- --------- ---------- ---------
Net income....................................... 9,947 8,229 27,471 23,801
Preferred dividends.............................. 4,609 4,609 13,828 13,828
--------- --------- ---------- ---------
NET INCOME AVAILABLE TO COMMON STOCKHOLDER....... $ 5,338 $ 3,620 $ 13,643 $ 9,973
========= ========= ========== =========
Basic and diluted earnings per common share...... $5,338.00 $3,620.00 $13,643.00 $9,973.00
========= ========= ========== =========
Net income....................................... $ 9,947 $ 8,229 $ 27,471 $ 23,801
Other comprehensive income -- net unrealized
gains on available-for-sale securities......... 6,652 4,410 5,010 7,030
--------- --------- ---------- ---------
Comprehensive income............................. $ 16,599 $ 12,639 $ 32,481 $ 30,831
========= ========= ========== =========
The accompanying notes are an integral part of these financial statements.
3
HARRIS PREFERRED CAPITAL CORPORATION
STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(UNAUDITED)
NINE MONTHS ENDED
SEPTEMBER 30
-----------------------
2001 2000
---- ----
(IN THOUSANDS)
Balance at January 1........................................ $489,824 $473,891
Net income................................................ 27,471 23,801
Other comprehensive income................................ 5,010 7,030
Dividends -- common stock................................. (346) (224)
Dividends- Series A preferred stock....................... (13,828) (13,828)
-------- --------
Balance at September 30..................................... $508,131 $490,670
======== ========
The accompanying notes are an integral part of these financial statements.
4
HARRIS PREFERRED CAPITAL CORPORATION
STATEMENTS OF CASH FLOWS
(UNAUDITED)
NINE MONTHS ENDED
SEPTEMBER 30
----------------------
2001 2000
---- ----
(IN THOUSANDS)
OPERATING ACTIVITIES:
Net Income................................................ $ 27,471 $ 23,801
Adjustments to reconcile net income to net cash provided
by operating activities:
Gain on sale of securities............................. (4,796) (257)
Net decrease (increase) in other assets................ 1,039 (61)
Net decrease in accrued expenses....................... (94) (36)
--------- ---------
Net cash provided by operating activities............ 23,620 23,447
--------- ---------
INVESTING ACTIVITIES:
Net increase in securities purchased from Harris Trust and
Savings Bank under agreement to resell................. (18,001) (7,004)
Repayments of notes receivable from Harris Trust and
Savings Bank........................................... 34,301 24,189
Decrease in securing mortgage collections due from Harris
Trust and Savings Bank................................. 383 1,598
Purchases of securities available-for-sale................ (413,304) (144,825)
Proceeds from maturities and sales of securities
available-for-sale..................................... 387,426 116,197
--------- ---------
Net cash used in investing activities................ (9,195) (9,845)
--------- ---------
FINANCING ACTIVITIES:
Cash dividends paid on preferred stock.................... (13,828) (13,828)
Cash dividends paid on common stock....................... (346) (224)
--------- ---------
Net cash used by financing activities................ (14,174) (14,052)
--------- ---------
Net increase (decrease) in cash on deposit with Harris
Trust and Savings Bank................................. 251 (450)
Cash on deposit with Harris Trust and Savings Bank at
beginning of period.................................... 819 1,262
--------- ---------
Cash on deposit with Harris Trust and Savings Bank at end
of period.............................................. $ 1,070 $ 812
========= =========
The accompanying notes are an integral part of these financial statements.
5
HARRIS PREFERRED CAPITAL CORPORATION
NOTES TO FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
Harris Preferred Capital Corporation (the "Company") is a Maryland
corporation whose principal business objective is to acquire, hold, finance and
manage qualifying real estate investment trust ("REIT") assets (the "Mortgage
Assets"), consisting of a limited recourse note or notes (the "Notes") issued by
Harris Trust and Savings Bank (the "Bank") secured by real estate mortgage
assets (the "Securing Mortgage Loans") and other obligations secured by real
property, as well as certain other qualifying REIT assets. The Company holds its
assets through a Maryland real estate investment trust subsidiary, Harris
Preferred Capital Trust. Harris Capital Holdings, Inc., a wholly-owned
subsidiary of the Bank, owns 100% of the Company's common stock.
The accompanying financial statements have been prepared by management from
the books and records of the Company, without audit by independent certified
public accountants. These statements reflect all adjustments and disclosures
which are, in the opinion of management, necessary for a fair statement of the
results for the interim periods presented and should be read in conjunction with
the notes to financial statements included in the Company's 2000 Form 10-K.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted pursuant to the rules and regulations of the
Securities and Exchange Commission.
2. COMMITMENTS AND CONTINGENCIES
Legal proceedings in which the Company is a defendant may arise in the
normal course of business. There is no pending litigation against the Company.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD-LOOKING INFORMATION
The statements contained in this Report on Form 10-Q that are not purely
historical are forward-looking statements within the meaning of Section 27A of
the Securities Act of 1933 and Section 21E of the Securities Exchange Act of
1934, including statements regarding the Company's expectation, intentions,
beliefs or strategies regarding the future. Forward-looking statements include
the Company's statements regarding tax treatment as a real estate investment
trust, liquidity, provision for loan losses, capital resources and investment
activities. In addition, in those and other portions of this document, the words
"anticipate," "believe," "estimate," "expect," "intend" and other similar
expressions, as they relate to the Company or the Company's management, are
intended to identify forward-looking statements. Such statements reflect the
current views of the Company with respect to future events and are subject to
certain risks, uncertainties and assumptions. It is important to note that the
Company's actual results could differ materially from those described herein as
anticipated, believed, estimated or expected. Among the factors that could cause
the results to differ materially are the risks discussed in the "Risk Factors"
section included in the Company's Registration Statement on Form S-11 (File No.
333-40257), with respect to the Preferred Shares declared effective by the
Securities and Exchange Commission on February 5, 1998. The Company assumes no
obligation to update any such forward-looking statement.
RESULTS OF OPERATIONS
THIRD QUARTER 2001 COMPARED WITH THIRD QUARTER 2000
The Company's net income for the third quarter of 2001 was $9.9 million.
This represented a $1.7 million or 21% increase from 2000 earnings of $8.2
million. Earnings increased primarily because of gains realized from the sale of
investment securities.
6
HARRIS PREFERRED CAPITAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Third quarter 2001 interest income on the Notes totaled $1.2 million and
yielded 6.4% on $75.1 million of average principal outstanding for the quarter
compared to $1.9 million and a 6.4% yield on $118 million average principal
outstanding for third quarter 2000. The decrease in income was attributable to a
reduction in the Notes balance because of customer payoffs on the Securing
Mortgage Loans. The average outstanding balance of the Securing Mortgage Loans
for third quarter 2001 and 2000 was $91 million and $146 million, respectively.
Interest income on securities available-for-sale for the current quarter was
$5.9 million resulting in a yield of 6.31% on an average balance of $374
million, compared to $5.6 million with a yield of 6.92% on an average balance of
$322 million for the same period a year ago. The increase in interest income is
primarily attributable to growth in the investment securities portfolio
partially offset by a reduction in yield. As securities mature or are sold,
proceeds have been invested in lower yielding securities as market interest
rates have been declining in recent months. There were no Company borrowings
during the quarter.
Third quarter 2001 operating expenses totaled $114 thousand, a decrease of
$20 thousand or 15% from the third quarter of 2000. Loan servicing expenses
totaled $56 thousand, a decrease of $34 thousand or 37% from a year ago. This
decrease is attributable to the reduction in the principal balance of the Notes,
thereby reducing servicing fees payable to the Bank. Advisory fees for the third
quarter 2001 were $8 thousand compared to $15 thousand a year earlier. General
and administrative expenses totaled $50 thousand, an increase of $21 thousand
over third quarter 2000.
At September 30, 2001 and 2000, there were no Securing Mortgage Loans on
nonaccrual status.
The Company does not currently maintain an allowance for loan losses due to
the over-collateralization of the Notes represented by the Securing Mortgage
Loans.
NINE MONTHS ENDED SEPTEMBER 30, 2001 COMPARED WITH SEPTEMBER 30, 2000
The Company's net income for the nine months ended September 30, 2001 was
$27.5 million. This represented a $3.7 million or 16% increase from 2000
earnings of $23.8 million. Earnings increased primarily because of gains
realized from the sale of investment securities.
Interest income on securities purchased under agreement to resell for the
nine months ended September 30, 2001 was $1.3 million, a decrease of $140
thousand from the same period in 2000. Interest income on the Notes for the nine
months ended September 30, 2001 totaled $4.2 million and yielded 6.40% on $87
million of average principal outstanding compared to $6.1 million of income
yielding 6.40% on $126 million of average principal outstanding for the same
period in 2000. The decrease in income was attributable to a reduction in the
Note balance because of customer payoffs on the Securing Mortgage Loans.
Interest income on securities available-for-sale for the nine months ended
September 30, 2001 was $17.6 million resulting in a yield of 6.48% on an average
balance of $363 million, compared to $16.6 million of income with a yield of
6.95% on an average balance of $318 million a year ago. The increase in interest
income is primarily attributable to growth in the investment securities
portfolio partially offset by a reduction in yield. As securities mature or are
sold, proceeds have been invested in lower yielding securities as a result of
market interest rates declining in recent months. Gains from investment
securities sales for the nine months ended September 30, 2001 were $4.8 million
compared to $257 thousand a year ago. The average outstanding balance of the
Securing Mortgage Loans was $106 million for the nine months ended September 30,
2001 and $156 million for the same period in 2000. There were no Company
borrowings during either period.
Operating expenses for the nine months ended September 30, 2001 totaled
$380 thousand, a decrease of $123 thousand from a year ago. Loan servicing
expenses for the nine months ended September 30, 2001 totaled $195 thousand, a
decrease of $95 thousand or 33% from 2000. This decrease is attributable to the
reduction in the principal balance of the Notes because servicing costs vary
directly with these balances. Advisory fees for the nine months ended September
30, 2001 were $28 thousand compared to $45 thousand a
7
HARRIS PREFERRED CAPITAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
year ago primarily attributed to lower inter-company charges in the current
year. General and administrative expenses totaled $157 thousand, a decrease of
$11 thousand or 7% over the same period in 2000.
On September 30, 2001, the Company paid a cash dividend of $0.46094 per
share on outstanding preferred shares to the stockholders of record on September
15, 2001, as declared on August 30, 2001. On September 12, 2001, the Company
paid a cash dividend of $346 thousand on the outstanding common shares to the
stockholder of record on September 4, 2001, as declared on August 30, 2000. This
dividend completed the 2000 REIT tax compliance requirements. On September 30,
2000, the Company paid a cash dividend of $0.46094 per share on outstanding
preferred shares to the stockholders of record on September 15, 2000, as
declared on August 31, 2000. On September 12, 2000, the Company paid a cash
dividend of $224 thousand on the outstanding common shares to the stockholder of
record on December 30, 1999, as declared on August 31, 2000. This dividend
completed the 1999 REIT tax compliance requirements. On a year-to-date basis,
the Company has declared and paid $13.8 million of dividends to holders of
preferred shares for each of the nine-month periods ended September 30, 2001 and
2000.
LIQUIDITY RISK MANAGEMENT
The objective of liquidity management is to ensure the availability of
sufficient cash flows to meet all of the Company's financial commitments. In
managing liquidity, the Company takes into account various legal limitations
placed on a REIT.
The Company's principal liquidity needs are to maintain the current
portfolio size through the acquisition of additional Notes or other qualifying
assets and to pay dividends to its stockholders after satisfying obligations to
creditors. The acquisition of additional Notes or other qualifying assets is
funded with the proceeds obtained as a result of repayment of principal balances
by individual mortgages representing collateral for the Notes, or from
maturities or sales of securities. The payment of dividends on the preferred
shares will be made from legally available funds, principally arising from
operating activities of the Company. The Company's cash flows from operating
activities principally consist of the collection of interest on the Notes and
mortgage-backed securities. The Company does not have and does not anticipate
having any material capital expenditures.
In order to remain qualified as a REIT, the Company must distribute
annually at least 90% (95% for years prior to January 1, 2001) of its adjusted
REIT taxable income, as provided for under the Internal Revenue Code, to its
common and preferred stockholders. The Company expects to distribute dividends
annually equal to 90% or more of its adjusted REIT taxable income.
The Company anticipates that cash and cash equivalents on hand and the cash
flow from the Notes and mortgage-backed securities will provide adequate
liquidity for its operating, investing and financing needs.
As presented in the accompanying Statements of Cash Flows, the primary
sources of funds in addition to $23.6 million provided from operations during
the nine months ended September 30, 2001 were $34.3 million provided by
principal payments on the Notes and $387.4 million from the maturities and sales
of securities available-for-sale. In the prior period ended September 30, 2000,
the primary sources of funds other than from operations of $23.4 million were
$24.2 million provided by principal payments on the Notes and $116.2 million
from the sales and maturities of securities available-for-sale. The primary uses
of funds for the nine months ended September 30, 2001 were $413.3 million for
purchases of securities available-for-sale and $13.8 million in preferred stock
dividends paid. For the prior year's quarter ended September 30, 2000 the
primary uses of funds were $144.8 million for purchases of securities
available-for-sale and $13.8 million in preferred stock dividends paid.
8
HARRIS PREFERRED CAPITAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
MARKET RISK MANAGEMENT
The Company's market risk is composed primarily of interest rate risk.
There have been no material changes in market risk or the manner in which the
Company manages market risk since December 31, 2000.
ACCOUNTING PRONOUNCEMENTS
In July 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 141, "Business
Combinations." The Statement addresses financial accounting and reporting for
business combinations and supersedes APB Opinion No. 16, "Business
Combinations." It requires all business combinations within the scope of the
Statement to be accounted for using one method, the purchase method. It
establishes criteria for the initial recognition of intangible assets acquired
in a business combination. The provisions of the Statement apply to all business
combinations initiated after June 30, 2001 and to all business combinations
accounted for by the purchase method for which the date of acquisition is July
1, 2001 or later. The Company does not anticipate that there will be a material
impact of adopting the Statement on its financial position and results of
operations.
In July 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible
Assets." The Statement addresses financial accounting and reporting for acquired
goodwill and other intangible assets and supersedes APB Opinion No. 17,
"Intangible Assets." Under this Standard, goodwill and other intangible assets
that have indefinite useful lives will not be subject to amortization while
intangible assets with finite lives will be amortized. The Statement is
effective for fiscal years beginning after December 15, 2001. However, goodwill
and intangible assets acquired after June 30, 2001 will be subject immediately
to the nonamortization and amortization provisions of the Statement. The Company
does not anticipate that there will be a material impact of adopting the
Statement on its financial position and results of operations.
OTHER MATTERS
As of September 30, 2001, the Company believes that it is in full
compliance with the REIT tax rules, and expects to qualify as a REIT under the
provisions of the Code. The Company expects to meet all REIT requirements
regarding the ownership of its stock and anticipates meeting the annual
distribution requirements.
FINANCIAL STATEMENTS OF HARRIS TRUST AND SAVINGS BANK
The following unaudited financial information for the Bank is included
because the Company's preferred shares are automatically exchangeable for a new
series of preferred stock of the Bank upon the occurrence of certain events.
9
HARRIS TRUST AND SAVINGS BANK AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CONDITION
(UNAUDITED)
SEPTEMBER 30 DECEMBER 31 SEPTEMBER 30
2001 2000 2000
------------ ----------- ------------
(IN THOUSANDS EXCEPT SHARE DATA)
ASSETS
Cash and demand balances due from banks............... $ 968,638 $ 1,292,694 $ 1,255,326
Money market assets:
Interest-bearing deposits at banks.................. 258,001 141,348 164,929
Federal funds sold and securities purchased under
agreement to resell.............................. 165,700 491,075 266,625
Trading account assets................................ 60,522 65,211 41,347
Securities available-for-sale (including $2.99 billion
and $3.30 billion of securities pledged as
collateral for repurchase agreements at September
30, 2001 and December 31, 2000, respectively)....... 6,372,401 6,500,164 6,607,878
Loans................................................. 10,464,900 10,768,712 11,303,774
Allowance for possible loan losses.................... (231,308) (118,951) (120,343)
----------- ----------- -----------
Net loans........................................... 10,233,592 10,649,761 11,183,431
Premises and equipment................................ 295,563 284,142 276,828
Customers' liability on acceptances................... 20,306 34,100 31,587
Bank-owned insurance investments...................... 940,182 906,103 894,330
Loans held for sale................................... 139,219 242,271 --
Goodwill and other valuation intangibles.............. 210,394 221,326 222,363
Other assets.......................................... 552,013 461,420 1,022,012
----------- ----------- -----------
TOTAL ASSETS................................... $20,216,531 $21,289,615 $21,966,656
=========== =========== ===========
LIABILITIES
Deposits in domestic offices -- noninterest bearing... $ 2,864,594 $ 3,067,296 $ 3,460,128
-- interest-bearing..... 6,736,662 7,065,300 7,268,436
Deposits in foreign offices -- noninterest
bearing............................................. 34,782 34,780 38,521
-- interest-bearing..... 1,915,640 2,326,001 2,286,646
----------- ----------- -----------
Total deposits................................. 11,551,678 12,493,377 13,053,731
Federal funds purchased and securities sold under
agreement to repurchase............................. 4,373,258 4,608,879 4,582,830
Other short-term borrowings........................... 453,046 1,489,730 1,361,444
Senior notes.......................................... 910,000 389,500 882,000
Acceptances outstanding............................... 20,306 34,100 31,587
Accrued interest, taxes and other expenses............ 314,503 213,794 150,107
Other liabilities..................................... 558,346 60,812 42,475
Minority interest -- preferred stock of subsidiary.... 250,000 250,000 250,000
Long-term notes -- subordinated....................... 225,000 225,000 225,000
----------- ----------- -----------
TOTAL LIABILITIES.............................. 18,656,137 19,765,192 20,579,174
----------- ----------- -----------
STOCKHOLDER'S EQUITY
Common stock ($10 par value); authorized 10,000,000
shares; issued and outstanding 10,000,000 shares.... 100,000 100,000 100,000
Surplus............................................... 619,463 613,365 612,558
Retained earnings..................................... 779,783 821,719 756,164
Accumulated other comprehensive income (loss)......... 61,148 (10,661) (81,240)
----------- ----------- -----------
TOTAL STOCKHOLDER'S EQUITY..................... 1,560,394 1,524,423 1,387,482
----------- ----------- -----------
TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY..... $20,216,531 $21,289,615 $21,966,656
=========== =========== ===========
The accompanying notes to the financial statements are an integral part of these
statements.
10
HARRIS TRUST AND SAVINGS BANK AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
QUARTER ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
-------------------- --------------------
2001 2000 2001 2000
---- ---- ---- ----
(IN THOUSANDS EXCEPT SHARE DATA)
INTEREST INCOME
Loans, including fees.................................... $170,175 $236,628 $583,009 $663,515
Money market assets:
Deposits at banks...................................... 1,535 2,021 3,014 4,483
Federal funds sold and securities purchased under
agreement to resell.................................. 3,948 4,326 11,794 12,167
Trading account.......................................... 829 775 2,265 2,262
Securities available-for-sale:
U.S. Treasury and Federal agency....................... 81,119 107,302 271,556 307,871
State and municipal.................................... 4 180 95 787
Other.................................................. 587 360 1,567 1,073
-------- -------- -------- --------
Total interest income............................. 258,197 351,592 873,300 992,158
-------- -------- -------- --------
INTEREST EXPENSE
Deposits................................................. 78,133 126,355 283,777 347,923
Short-term borrowings.................................... 42,876 94,210 186,625 262,797
Senior notes............................................. 9,581 16,752 27,244 41,532
Minority interest-dividends on preferred stock of
subsidiary............................................. 4,609 4,609 13,828 13,828
Long-term notes.......................................... 3,357 3,963 10,913 11,628
-------- -------- -------- --------
Total interest expense............................ 138,556 245,889 522,387 677,708
-------- -------- -------- --------
NET INTEREST INCOME...................................... 119,641 105,703 350,913 314,450
Provision for loan losses................................ 146,118 6,870 184,316 18,365
-------- -------- -------- --------
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES...... (26,477) 98,833 166,597 296,085
-------- -------- -------- --------
NONINTEREST INCOME
Trust and investment management fees..................... 21,850 22,332 67,049 75,705
Money market and bond trading............................ 4,950 2,446 14,671 5,686
Foreign exchange......................................... 1,885 1,900 5,280 5,800
Merchant and charge card fees............................ 1 6,229 66 18,249
Service fees and charges................................. 25,442 24,796 71,140 73,995
Securities gains......................................... 7,557 3,131 25,475 6,117
Gain on sale of corporate trust business................. -- -- -- 47,193
Bank-owned insurance investments......................... 11,859 11,262 35,183 33,273
Foreign fees............................................. 5,168 3,983 15,517 16,427
Other.................................................... 13,266 11,668 36,999 27,840
-------- -------- -------- --------
Total noninterest income.......................... 91,978 87,747 271,380 310,285
-------- -------- -------- --------
NONINTEREST EXPENSES
Salaries and other compensation.......................... 77,632 68,491 220,763 209,236
Pension, profit sharing and other employee benefits...... 12,907 9,567 39,708 37,095
Net occupancy............................................ 9,336 9,234 27,785 30,657
Equipment................................................ 12,623 12,270 38,007 37,552
Marketing................................................ 9,884 8,545 25,082 20,186
Other.................................................... 14,683 14,103 31,047 41,462
-------- -------- -------- --------
137,065 122,210 382,392 376,188
Goodwill and other valuation intangibles................. 5,994 5,666 17,627 16,980
-------- -------- -------- --------
Total noninterest expenses........................ 143,059 127,876 400,019 393,168
-------- -------- -------- --------
(Loss) Income before income taxes........................ (77,558) 58,704 37,958 213,202
Applicable income taxes.................................. (32,765) 15,611 (4,106) 62,313
-------- -------- -------- --------
NET (LOSS) INCOME...................................... $(44,793) $ 43,093 $ 42,064 $150,889
======== ======== ======== ========
EARNINGS PER COMMON SHARE (based on 10,000,000 average
shares outstanding)
Net (Loss) Income........................................ $ (4.48) $ 4.31 $ 4.21 $ 15.09
======== ======== ======== ========
The accompanying notes to the financial statements are an integral part of these
statements.
11
HARRIS TRUST AND SAVINGS BANK AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(UNAUDITED)
QUARTER ENDED NINE MONTHS ENDED
SEPTEMBER 30 JUNE 30
--------------------- ----------------------
2001 2000 2001 2000
---- ---- ---- ----
(IN THOUSANDS)
Net (loss) income................................ $(44,793) $43,093 $ 42,064 $150,889
Other comprehensive income:
Cash flow hedges:
Cumulative effect of accounting change...... -- -- (7,976) --
Net unrealized gain on derivative
instruments, net of tax expense for the
quarter of $63 in 2001 and net of tax
expense for the year-to-date period of
$4,684 in 2001............................ 108 -- 7,976 --
Unrealized gains on available-for-sale
securities:
Unrealized holding gains arising during the
period, net of tax expense for the quarter
of $48,431 in 2001 and $26,165 in 2000 and
net of tax expense for the year-to-date
period of $57,862 in 2001 and $39,608 in
2000...................................... 73,505 39,762 87,374 60,190
Less reclassification adjustment for
realized gains included in income
statement, net of tax expense for the
quarter of $2,940 in 2001 and $1,218 in
2000 and net of tax expense for the
year-to-date period of $9,910 in 2001 and
$2,380 in 2000............................ (4,617) (1,913) (15,565) (3,737)
-------- ------- -------- --------
Other comprehensive income..................... 68,996 37,849 71,809 56,453
-------- ------- -------- --------
Comprehensive income............................. $ 24,203 $80,942 $113,873 $207,342
======== ======= ======== ========
The accompanying notes to the financial statements are an integral part of these
statements.
12
HARRIS TRUST AND SAVINGS BANK AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER'S EQUITY
(UNAUDITED)
2001 2000
---- ----
(IN THOUSANDS)
BALANCE AT JANUARY 1........................................ $1,524,423 $1,251,094
Net income................................................ 42,064 150,889
Contributions to capital.................................. 6,098 2,046
Dividends -- common stock................................. (84,000) (73,000)
Other comprehensive income................................ 71,809 56,453
---------- ----------
BALANCE AT SEPTEMBER 30..................................... $1,560,394 $1,387,482
========== ==========
The accompanying notes to the financial statements are an integral part of these
statements.
13
HARRIS TRUST AND SAVINGS BANK AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
NINE MONTHS ENDED
SEPTEMBER 30
----------------------------
2001 2000
---- ----
(IN THOUSANDS)
OPERATING ACTIVITIES:
Net income.................................................. $ 42,064 $ 150,889
Adjustments to reconcile net income to net cash provided by
operating activities:
Provision for loan losses................................. 184,316 18,365
Depreciation and amortization, including intangibles...... 51,257 52,393
Deferred tax expense (benefit)............................ 26,582 (2,769)
Gain on sales of securities............................... (25,475) (6,117)
Gain on sale of corporate trust business.................. -- (47,193)
Trading account net sales................................. 4,689 25,649
Net decrease (increase) in interest receivable............ 58,497 (13,902)
Net decrease in interest payable.......................... (7,651) (19,135)
Net decrease in loans held for sale....................... 103,052 58,417
Other, net................................................ (96,373) (42,902)
----------- -----------
Net cash provided by operating activities.............. 340,958 173,695
----------- -----------
INVESTING ACTIVITIES:
Net (increase) decrease in interest-bearing deposits at
banks.................................................. (116,653) 74,903
Net decrease in Federal funds sold and securities
purchased under agreement to resell.................... 325,375 31,375
Proceeds from sales of securities available-for-sale...... 1,417,046 130,221
Proceeds from maturities of securities
available-for-sale..................................... 6,026,533 4,831,701
Purchases of securities available-for-sale................ (7,170,579) (5,404,189)
Net decrease (increase) in loans.......................... 231,853 (1,310,115)
Purchases of premises and equipment....................... (45,051) (29,760)
Net increase in bank-owned insurance investments.......... (34,079) (121,751)
Other, net................................................ 478,045 (389,144)
----------- -----------
Net cash provided (used) by investing activities....... 1,112,490 (2,186,759)
----------- -----------
FINANCING ACTIVITIES:
Net (decrease) increase in deposits....................... (941,699) 1,924,044
Net decrease in Federal funds purchased and securities
sold under agreement to repurchase..................... (235,621) (156,748)
Net (decrease) increase in short-term borrowings.......... (1,036,684) 680,347
Proceeds from issuance of senior notes.................... 2,308,500 2,232,000
Repayment of senior notes................................. (1,788,000) (2,850,000)
Proceeds from the sale of corporate trust business........ -- 88,704
Cash dividends paid on common stock....................... (84,000) (73,000)
----------- -----------
Net cash (used) provided by financing activities....... (1,777,504) 1,845,347
----------- -----------
NET DECREASE IN CASH AND DEMAND BALANCES DUE FROM
BANKS................................................. (324,056) (167,717)
CASH AND DEMAND BALANCES DUE FROM BANKS AT JANUARY 1... 1,292,694 1,423,043
----------- -----------
CASH AND DEMAND BALANCES DUE FROM BANKS AT SEPTEMBER
30.................................................... $ 968,638 $ 1,255,326
=========== ===========
The accompanying notes to the financial statements are an integral part of these
statements.
14
HARRIS TRUST AND SAVINGS BANK AND SUBSIDIARIES
NOTES TO THE FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
Harris Trust and Savings Bank (the "Bank") is a wholly-owned subsidiary of
Harris Bankcorp, Inc. ("Bankcorp"), a wholly-owned subsidiary of Bankmont
Financial Corp. (a wholly-owned subsidiary of Bank of Montreal). The
consolidated financial statements of the Bank include the accounts of the Bank
and its wholly-owned subsidiaries. Significant intercompany accounts and
transactions have been eliminated. Certain reclassifications were made to
conform prior year's financial statements to the current year's presentation.
The consolidated financial statements have been prepared by management from
the books and records of the Bank, without audit by independent certified public
accountants. However, these statements reflect all adjustments and disclosures
which are, in the opinion of management, necessary for a fair presentation of
the results for the interim periods presented.
Because the results of operations are so closely related to and responsive
to changes in economic conditions, the results for any interim period are not
necessarily indicative of the results that can be expected for the entire year.
2. LEGAL PROCEEDINGS
The Bank and certain of its subsidiaries are defendants in various legal
proceedings arising in the normal course of business. In the opinion of
management, based on the advice of legal counsel, the ultimate resolution of
these matters will not have a material adverse effect on the Bank's consolidated
financial position.
3. CASH FLOWS
For purposes of the Bank's Consolidated Statements of Cash Flows, cash and
cash equivalents is defined to include cash and demand balances due from banks.
Cash interest payments (net of amounts capitalized) for the nine months ended
September 30 totaled $530.0 million and $599.5 million in 2001 and 2000,
respectively. Cash income tax payments over the same periods totaled $62.0
million and $54.5 million, respectively.
4. PENDING ACCOUNTING CHANGES
In July 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 141, "Business
Combinations." The Statement addresses financial accounting and reporting for
business combinations and supersedes APB Opinion No. 16, "Business
Combinations." It requires all business combinations within the scope of the
Statement to be accounted for using one method, the purchase method. It
establishes criteria for the initial recognition of intangible assets acquired
in a business combination. The provisions of the Statement apply to all business
combinations initiated after June 30, 2001 and to all business combinations
accounted for by the purchase method for which the date of acquisition is July
1, 2001 or later.
In July 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible
Assets." The Statement addresses financial accounting and reporting for acquired
goodwill and other intangible assets and supersedes APB Opinion No. 17,
"Intangible Assets." Under this Standard, goodwill and other intangible assets
that have indefinite useful lives will not be subject to amortization while
intangible assets with finite lives will be amortized. The Statement is
effective for fiscal years beginning after December 15, 2001. However, goodwill
and intangible assets acquired after June 30, 2001 will be subject immediately
to the nonamortization and amortization provisions of the Statement. Upon
adoption of SFAS No. 142, the Bank will discontinue the amortization of goodwill
with an expected net carrying value of approximately $89 million at the date of
adoption and annual amortization of $9 million that resulted from business
combinations prior to the adoption of SFAS No. 141.
15
HARRIS TRUST AND SAVINGS BANK AND SUBSIDIARIES
NOTES TO THE FINANCIAL STATEMENTS -- (CONTINUED)
5. DERIVATIVES
ACCOUNTING FOR DERIVATIVES AND HEDGING ACTIVITIES
All derivative instruments are recognized at fair value in the Consolidated
Statements of Condition. All derivative instruments are designated either as
hedges or as held for trading or non-hedging purposes.
Derivative instruments that are used in the management of the Bank's risk
strategy may qualify for hedge accounting if the derivatives are designated as
hedges and applicable hedge criteria are met. On the date that the Bank enters
into a derivative contract, it designates the derivative as a hedge of the fair
value of a recognized asset or liability or an unrecognized firm commitment, a
hedge of a forecasted transaction or the variability of cash flows that are to
be received or paid in connection with a recognized asset or liability, a
foreign currency fair value or cash flow hedge, or a hedge of a net investment
in a foreign operation. Changes in the fair value of a derivative that is highly
effective (as defined) and qualifies as a fair value hedge, along with changes
in the fair value of the underlying hedged item, are recorded in current period
earnings. Changes in the fair value of a derivative that is highly effective (as
defined) and qualifies as a cash flow hedge, to the extent that the hedge is
effective, are recorded in other comprehensive income only until earnings are
recognized from the underlying hedged item. Net gains or losses resulting from
hedge ineffectiveness are recorded in current period earnings. Changes in the
fair value of a derivative that is highly effective (as defined) and qualifies
as a foreign currency hedge are recorded in either current period earnings or
other comprehensive income depending on whether the hedging relationship meets
the criteria for a fair value or cash flow hedge. For a derivative used as a
hedge of a net investment in a foreign operation, changes in the derivative's
fair value, to the extent that the hedge is effective, are recorded in the
cumulative translation adjustment account within other comprehensive income.
The Bank formally documents all hedging relationships at inception of hedge
transactions. The process includes documenting the risk management objective and
strategy for undertaking the hedge transaction and identifying the specific
derivative instrument and the specific underlying asset, liability, firm
commitment or forecasted transaction. The Bank formally assesses, both at
inception and on an ongoing quarterly basis, whether the derivative hedging
instruments have been highly effective in offsetting changes in the fair value
or cash flows of the hedged items and whether the derivatives are expected to
remain highly effective in future periods.
Hedge accounting is discontinued prospectively when the Bank determines
that the hedge is no longer highly effective, the derivative instrument expires
or is sold, terminated or exercised, it is no longer probable that the
forecasted transaction will occur, the hedged firm commitment no longer meets
the definition of a firm commitment, or the designation of the derivative as a
hedging instrument is no longer appropriate.
When hedge accounting is discontinued because a fair value hedge is no
longer highly effective, the derivative instrument will continue to be recorded
on the balance sheet at fair value but the underlying hedged item will no longer
be adjusted for changes in fair value. When hedge accounting is discontinued
because the hedged item no longer meets the definition of a firm commitment, the
derivative instrument will continue to be recorded on the balance sheet at fair
value and any asset or liability that was recorded to recognize the firm
commitment will be removed from the balance sheet and recognized as a gain or
loss in current period earnings. When hedge accounting is discontinued because
it is no longer probable that the forecasted transaction will occur, the gain or
loss on the derivative that was in accumulated other comprehensive income will
be recognized immediately in earnings. When hedge accounting is discontinued and
the derivative remains outstanding, the derivative may be redesignated as a
hedging instrument as long as the applicable hedge criteria are met under the
terms of the new contract.
Derivative instruments that are used as part of the Bank's dealer and
trading activities are marked to market and the resulting unrealized gains and
losses are recognized in noninterest income in the period of
16
HARRIS TRUST AND SAVINGS BANK AND SUBSIDIARIES
NOTES TO THE FINANCIAL STATEMENTS -- (CONTINUED)
change. Realized and unrealized gains and losses on interest rate contracts and
foreign exchange contracts are recorded in trading account income and foreign
exchange income, respectively.
DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
The Bank has an interest rate risk management strategy that incorporates
the use of derivative instruments to minimize significant unplanned fluctuations
in earnings that may be caused by interest rate volatility. The Bank manages
interest rate sensitivity by modifying the repricing or maturity characteristics
of certain fixed rate assets so that net interest margin is not adversely
affected, on a material basis, by movements in interest rates. As a result of
interest rate fluctuations, fixed rate assets will appreciate or depreciate in
market value. The effect of the unrealized appreciation or depreciation will
generally be offset by the gains or losses on the derivative instruments.
The Bank has a foreign currency risk management strategy that incorporates
the use of derivative instruments to minimize significant unplanned fluctuations
in earnings that may be caused by foreign currency exchange rate fluctuations.
Certain senior notes are denominated in foreign currency, creating exposure to
changes in exchange rates. The Bank uses cross currency interest rate swaps and
foreign currency forward exchange contracts to hedge this risk.
The Bank uses various interest rate and foreign exchange derivative
contracts as part of its dealer and trading activities. As dealer, the Bank
serves customers seeking to manage interest rate risk by entering into contracts
as a counterparty to their (customer) transactions. In its trading activities,
the Bank uses interest rate contracts to profit from expected future market
movements. The Bank is also a dealer in foreign exchange contracts.
Interest rate derivative contracts may create exposure to both credit and
market risk. Replacement risk, the primary component of credit risk, is the risk
of loss should a counterparty default following unfavorable market movements and
is measured as the Bank's cost of replacing contracts at current market rates.
The Bank manages credit risk by establishing credit limits for customers and
products through an independent corporate-wide credit review process and
continually monitoring exposure against those limits to ensure they are not
exceeded. Credit risk is, in many cases, further mitigated by the existence of
netting agreements, which provide for netting of contractual receivables and
payables in the event of default or bankruptcy. Netting agreements apply to
situations where the Bank is engaged in more than one outstanding derivative
transaction with the same counterparty and also has a legally enforceable master
netting agreement with that counterparty. Market risk is the potential for loss
arising from potential adverse changes in underlying market factors, including
interest and foreign exchange rates. The Bank manages market risk through the
imposition of integrated value-at-risk limits and an active, independent
monitoring process. Value-at-risk methodology is used for measuring the market
risk of the Bank's trading positions. This statistical methodology uses recent
market volatility to estimate the maximum daily trading loss that the Bank would
expect to incur, on average, 99 percent of the time. The model also measures the
effect of correlation among the various trading instruments to determine how
much risk is eliminated by offsetting positions.
Foreign exchange derivative contracts may create exposure to market and
credit risk, including replacement risk and settlement risk. Credit risk is
managed by establishing limits for customers through an independent
corporate-wide credit approval process and continually monitoring exposure
against those limits. In addition, both settlement and replacement risk are
reduced through netting by novation, agreements with counterparties to offset
certain related obligations. Market risk is managed through establishing
exposure limits by currency and monitoring actual exposure against those limits,
entering into offsetting positions, and closely monitoring price behavior.
17
HARRIS TRUST AND SAVINGS BANK AND SUBSIDIARIES
NOTES TO THE FINANCIAL STATEMENTS -- (CONTINUED)
FAIR VALUE HEDGES
The Bank uses interest rate swaps to alter the character of revenue earned
on certain long-term, fixed rate loans. Interest rate swaps convert the fixed
rate loans into variable rate loans. Interest rate swap contracts generally
involve the exchange of fixed and variable rate interest payments between two
parties, based on a common notional amount and maturity date.
For fair value hedges, as of September 30, 2001 the Bank recorded the fair
value of derivative instrument liabilities of $10.1 million in other
liabilities. Net losses recorded for the quarter-to-date and year-to-date
periods ended September 30, 2001 representing the ineffective portion of the
fair value hedges were not material to the consolidated financial statements of
the Bank. Gains or losses resulting from hedge ineffectiveness are recorded in
noninterest income.
CASH FLOW HEDGES
The Bank had used a total return swap to reduce the variability associated
with the cash flows from an equity security. The total return swap converted the
cash flows received on an available-for-sale equity security from variable to
fixed. Changes in the fair value of the swap were recorded in other
comprehensive income. The unrealized holding gain (loss) on the
available-for-sale equity security is recorded in other comprehensive income.
Prior to September 30, 2001 the Bank dedesignated the hedge due to the
expectation of diminished cash flows from the equity security. The unrealized
loss in accumulated other comprehensive income related to the total return swap
was not material to the consolidated financial statements of the Bank. As of
September 30, 2001 the swap, designated a nonhedging derivative, was marked to
market and the resulting unrealized gain was recorded in noninterest income.
DEALER AND TRADING ACTIVITIES
Trading activities include derivative transactions that are entered into
for risk management purposes and do not otherwise qualify for hedge accounting.
Foreign exchange contracts are used to stabilize any currency exchange rate
fluctuation for certain senior notes. The derivative instruments, primarily
cross currency interest rate swaps, do not qualify for hedge accounting.
The Bank has qualifying mortgage loan commitments that are intended to be
sold in the secondary market. These loan commitments are derivatives and are
accounted for at fair value, but since they are not firm commitments they do not
qualify for hedge accounting. The Bank enters into forward sales of mortgage-
backed securities to minimize its exposure to interest rate volatility. These
forward sales of mortgage-backed securities are also derivatives and are
accounted for at fair value.
The Bank utilizes various derivative instruments to meet its customers'
financing and risk management needs and produce fee income and trading profits.
Interest rate contracts include futures, forward rate agreements, option
contracts, guarantees (caps, floors and collars) and swaps. Foreign exchange
contracts include spot, futures, forwards, option contracts and swaps.
As of September 30, 2001 the Bank recorded the fair value of trading
derivative instrument assets of $340.3 million in other assets and trading
derivative instrument liabilities of $344.3 million in other liabilities. These
amounts reflect the netting of certain derivative instrument assets and
liabilities when the conditions in FASB Interpretation ("FIN") No. 39,
"Offsetting of Amounts Related to Certain Contracts," have been met.
18
HARRIS TRUST AND SAVINGS BANK AND SUBSIDIARIES
NOTES TO THE FINANCIAL STATEMENTS -- (CONTINUED)
6. CORPORATE TRUST SALE
In March 2000, the Bank sold its corporate trust business. In separate and
unrelated transactions, the indenture trust business was sold to a subsidiary of
The Bank of New York Company, Inc., and the shareholder services business to
Computershare Limited. The combined sales resulted in a pre-tax gain to Bankcorp
of $50.2 million in first quarter 2000. The Bank recognized $47.2 million of
that gain.
19
HARRIS TRUST AND SAVINGS BANK AND SUBSIDIARIES
FINANCIAL REVIEW
THIRD QUARTER 2001 COMPARED WITH THIRD QUARTER 2000
SUMMARY
The Bank had a third quarter 2001 net loss of $44.8 million, a decrease of
$87.9 million from third quarter 2000. The third quarter 2001 results were
impacted by a special provision for loan losses of $121 million pre-tax. Cash
ROE was -11.89 percent in the current quarter compared to 16.55 percent one year
earlier, with the decrease primarily due to unrealized gains and losses on the
securities portfolio which are recorded directly to equity and the special
provision. Excluding these factors, cash ROE declined 429 basis points from last
year's third quarter.
Management's assessment of the adequacy of the allowance for possible loan
losses was based on a comprehensive review of the loan portfolio that considered
several quantitative and qualitative factors. This intense review, prompted by
the rapidly changing environment, weakening economic conditions and management's
expectation that economic recovery would be delayed from the end of 2001 until
mid-2002, resulted in recognition of a special $121 million provision for loan
losses.
Third quarter net interest income on a fully taxable equivalent basis was
$123.4 million, up $12.3 million or 11 percent from $111.1 million in 2000's
third quarter. Average earning assets decreased 5 percent to $17.30 billion from
$18.12 billion in 2000, primarily attributable to a decrease of $431 million in
average loans and $696 million in the investment securities portfolio, somewhat
offset by an increase in money market assets of $233 million. Net interest
margin rose to 2.84 percent from 2.44 percent in the same quarter last year,
primarily reflecting the impact of the declining interest rate environment
during 2001.
The third quarter provision for loan losses of $146.1 million, including
the $121 million special provision, increased from the $6.9 million in the third
quarter of 2000. Net charge-offs increased to $28.2 million compared to $2.7
million in the prior year. Most of this increase resulted from higher commercial
loan write-offs.
Third quarter noninterest income of $92.0 million increased $4.2 million
from the same quarter last year. Last year's third quarter results included
operating revenue for both the corporate trust business and the merchant card
business, each sold in 2000. Excluding the operating revenue from these
businesses, noninterest revenue increased 12 percent. Net gains from investment
securities sales increased $4.4 million, while bond trading profits increased
$2.5 million.
Third quarter 2001 noninterest expenses of $143.1 million increased $15.2
million or 12 percent from the year ago quarter. Excluding the operating
expenses of the corporate trust and merchant card businesses sold in 2000,
noninterest expenses increased 15 percent, reflecting expansion initiatives in
our corporate and investment banking and private client and retail banking
businesses.
Nonperforming assets at September 30, 2001 were $193 million or 1.84
percent of total loans, compared to $139 million or 1.32 percent at June 30,
2001, and $89 million or 0.79 percent a year ago. This increase is comprised of
fifteen loans in the shared national credit portfolio ranging in size from $7
million to $20 million, to borrowers in fourteen different industry sectors. At
September 30, 2001, the allowance for possible loan losses was $231 million,
equal to 2.21 percent of loans outstanding, compared to $120 million or 1.06
percent at the end of third quarter 2000. As a result, the ratio of the
allowance for possible loan losses to nonperforming assets declined from 135
percent at September 30, 2000 to 120 percent at September 30, 2001.
At September 30, 2001, Tier 1 capital of the Bank amounted to $1.55
billion, up from $1.50 billion one year earlier. The regulatory leverage capital
ratio was 7.78 percent for the third quarter of 2001 compared to 7.18 percent in
the same quarter of 2000. The Bank's capital ratio exceeds the prescribed
regulatory minimum for banks. The Bank's September 30, 2001 Tier 1 and total
risk-based capital ratios were 9.25 percent and 11.72 percent compared to
respective ratios of 8.25 percent and 10.09 percent at September 30, 2000.
20
HARRIS TRUST AND SAVINGS BANK AND SUBSIDIARIES
FINANCIAL REVIEW -- (CONTINUED)
NINE MONTHS ENDED SEPTEMBER 30, 2001 COMPARED WITH 2000
SUMMARY
The Bank had net income for the nine months ended September 30, 2001 of
$42.1 million, a decrease of $108.8 million from the same period a year ago,
excluding the $27.9 million after-tax gain on the sale of the corporate trust
business in the first quarter 2000. Year-to-year comparative results were also
affected by the sale of the merchant card business sold in the fourth quarter
2000 and the third quarter 2001 special provision for loan losses. Excluding the
impact of both of these divestitures and the special provision, earnings grew 6
percent for the first nine months of 2001.
Cash ROE was 5.27 percent in the current year. Excluding unrealized gains
and losses on the securities portfolio recorded directly to equity, the
corporate trust gain and the special loan loss provision, cash ROE was 14.82
percent last year.
Net interest income on a fully taxable equivalent basis was $364.0 million,
up $33.6 million or 10 percent from $330.4 million in 2000's year-to-date
period. Average earning assets remained essentially unchanged from a year ago.
Net interest margin rose slightly to 2.75 percent from 2.48 percent in 2000,
primarily reflecting the impact of the declining interest rate environment in
2001.
The year-to-date 2001 provision for loan losses of $184.3 million increased
from $18.4 million in 2000. Net charge-offs were $72.0 million, an increase of
$60.2 million from last year, primarily reflecting an increase in commercial
loan write-offs.
Noninterest income of $271.4 million decreased $38.9 million from the same
period last year. Excluding the $47.2 million gain on the sale of the corporate
trust business and the operating revenue from both the merchant card and
corporate trust businesses sold in 2000, noninterest income increased 16
percent. Most of this increase resulted from additional net gains from
securities sales of $19.4 million and higher bond trading profits of $9.0
million.
Noninterest expenses of $400.0 million increased $6.9 million or 2 percent
from the year ago period. Excluding the operating expense for the corporate
trust and merchant card businesses sold in 2000, noninterest expense increased 8
percent. Income tax expense decreased $66.4 million, reflecting lower pretax
income, including the gain on the sale of the corporate trust business.
21
PART II. OTHER INFORMATION
ITEMS 1, 2, 3, 4 AND 5 ARE BEING OMITTED FROM THIS REPORT BECAUSE SUCH ITEMS ARE
NOT APPLICABLE TO THE REPORTING PERIOD.
ITEM 6. (A) REPORTS ON FORM 8-K: NONE
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, Harris Preferred Capital Corporation has duly caused this
Report to be signed on its behalf by the undersigned, thereunto duly authorized
on the 13th day of November, 2001.
/s/ PAUL R. SKUBIC
--------------------------------------
Paul R. Skubic
Chairman of the Board and President
/s/ PAMELA PIAROWSKI
--------------------------------------
Pamela Piarowski
Chief Financial Officer
22