UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D. C. 20549

 

 

FORM 10-Q

 

(Mark One)

ý  QUARTERLY REPORT UNDER SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended June 30, 2003

 

or

 

o  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 1-10521

 

 

CITY NATIONAL CORPORATION

(Exact name of registrant as specified in its charter)

 

Delaware		95-2568550
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

 

City National Center

400 North Roxbury Drive, Beverly Hills, California      90210

(Address of principal executive offices)                         (Zip Code)

 

Registrant’s telephone number, including area code  (310) 888-6000

 

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 ý                                                                                   NO  o

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).

 

YES ý                                                                                   NO  o

 

Number of shares of common stock outstanding at July 31, 2003:  48,482,668

 

 

PART 1 - FINANCIAL INFORMATON

ITEM 1. FINANCIAL STATEMENTS

 

CITY NATIONAL CORPORATION

CONSOLIDATED BALANCE SHEET

(Unaudited)

 

Dollars in thousands, except per share amounts		June 30, 2003			December 31, 2002			June 30, 2002
Assets
Cash and due from banks		$	451,291		$	497,273		$	442,343
Federal funds sold		650,000			460,000			165,000
Securities available-for-sale - cost $2,935,401; $2,169,444 and $1,886,817 at June 30, 2003, December 31, 2002 and June 30, 2002, respectively		2,992,686			2,226,656			1,919,985
Trading account securities		88,035			172,211			68,832
Loans		7,590,226			7,999,470			7,854,530
Less allowance for credit losses		170,927			164,502			157,647
Net loans		7,419,299			7,834,968			7,696,883
Premises and equipment, net		64,966			61,208			60,016
Deferred tax asset		50,488			36,578			39,186
Goodwill		254,627			229,834			230,161
Intangibles		48,597			27,007			30,959
Bank owned life insurance		61,554			60,119			60,505
Affordable housing investments		66,532			68,848			55,761
Other assets		200,613			186,766			201,393
Customers’ acceptance liability		6,145			8,924			11,396
Total assets		$	12,354,833		$	11,870,392		$	10,982,420
Liabilities
Demand deposits		$	4,916,678		$	4,764,234		$	3,973,435
Interest checking deposits		689,658			692,261			610,217
Money market deposits		3,140,203			2,929,501			2,472,224
Savings deposits		211,010			198,288			222,241
Time deposits-under $100,000		210,333			218,447			226,116
Time deposits-$100,000 and over		998,924			1,036,967			1,292,934
Total deposits		10,166,806			9,839,698			8,797,167
Federal funds purchased and securities sold under repurchase agreements		167,084			266,727			110,665
Other short-term borrowings		115,125			125,125			421,125
Subordinated debt		318,282			303,795			282,043
Long-term debt		283,954			68,682			169,144
Other liabilities		126,703			126,303			110,804
Acceptances outstanding		6,145			8,924			11,396
Total liabilities		11,184,099			10,739,254			9,902,344
Minority interest in consolidated subsidiaries		26,044			21,179			6,738
Commitments and contingencies
Shareholders’ Equity
Preferred Stock authorized - 5,000,000 : none outstanding		—			—			—
Common Stock-par value-$1.00; authorized - 75,000,000; Issued - 50,455,363; 50,282,743 and 50,122,921 shares at June 30, 2003, December 31, 2002 and June 30, 2002, respectively		50,455			50,283			50,123
Additional paid-in capital		404,741			400,866			396,058
Accumulated other comprehensive income		39,781			40,400			25,673
Retained earnings		745,017			675,195			601,484
Deferred equity compensation		(7,595		)	—			—
Treasury shares, at cost - 2,027,574; 1,299,312; and 0 shares at June 30, 2003, December, 31, 2002 and June 30, 2002, respectively		(87,709		)	(56,785		)	—
Total shareholders’ equity		1,144,690			1,109,959			1,073,338
Total liabilities and shareholders’ equity		$	12,354,833		$	11,870,392		$	10,982,420

 

See accompanying Notes to the Unaudited Consolidated Financial Statements.

 

2

 

CITY NATIONAL CORPORATION

CONSOLIDATED STATEMENT OF INCOME AND COMPREHENSIVE INCOME

(Unaudited)

 

		For the three months ended June 30,						For the six months ended June 30,
In thousands, except per share amounts		2003			2002			2003			2002
Interest  Income
Loans		$	111,176		$	126,704		$	226,912		$	247,322
Securities available-for-sale		32,292			27,923			61,723			54,951
Federal funds sold and securities purchased under resale agreements		771			704			1,182			1,211
Trading account		94			180			192			385
Total interest income		144,333			155,511			290,009			303,869
Interest  Expense
Deposits		12,548			18,168			26,022			37,111
Subordinated debt		1,349			1,732			2,763			3,927
Other long-term debt		2,342			1,080			3,694			2,221
Federal funds purchased and securities sold under repurchase agreements		414			805			1,039			1,585
Other short-term borrowings		556			3,152			1,150			6,756
Total interest expense		17,209			24,937			34,668			51,600
Net interest income		127,124			130,574			255,341			252,269
Provision for credit losses		11,500			18,000			29,000			29,000
Net interest income after provision for credit losses		115,624			112,574			226,341			223,269
Noninterest  Income
Trust fees and investment fee revenue		21,505			15,736			36,985			30,010
Cash management and deposit transaction charges		10,660			10,025			21,577			20,394
International services		5,019			4,719			9,347			8,510
Bank owned life insurance		731			719			1,445			1,392
Gain on sale of loans and assets		—			1,320			102			2,999
Gain on sale of securities		1,272			184			2,502			872
Other		5,865			6,035			12,070			10,504
Total noninterest income		45,052			38,738			84,028			74,681
Noninterest  Expense
Salaries and employee benefits		54,516			49,642			106,321			97,112
Net occupancy of premises		7,862			6,495			14,831			12,675
Professional		6,769			5,182			13,205			10,411
Information services		4,302			4,661			8,555			9,021
Depreciation		3,019			3,336			6,138			6,728
Marketing and advertising		3,553			3,311			6,665			6,099
Office services		2,398			2,731			4,968			4,829
Amortization of intangibles		2,227			2,056			4,203			3,571
Equipment		638			789			1,304			1,271
Other operating		6,032			4,671			10,538			9,858
Total noninterest expense		91,316			82,874			176,728			161,575
Minority interest in net income of consolidated subisidiaries		1,065			85			1,540			157
Income before income taxes		68,295			68,353			132,101			136,218
Income taxes		22,214			22,593			42,365			46,222
Net income		46,081			45,760			89,736			89,996
Other comprehensive income
Unrealized gain (loss) on securities available-for-sale		414			38,496			(2,434		)	28,244
Unrealized gain (loss) on cash flow hedges		(43		)	1,342			485			(1,935		)
Less reclassification adjustment for (gain) loss included in net income		(3,341		)	232			(886		)	425
Income taxes (benefit)		1,562			16,652			(444		)	10,885
Other comprehensive gain (loss)		2,150			22,954			(619		)	14,999
Comprehensive income		$	48,231		$	68,714		$	89,117		$	104,995
Net income per share, basic		$	0.95		$	0.92		$	1.85		$	1.82
Net income per share, diluted		$	0.93		$	0.88		$	1.80		$	1.75
Shares used to compute income per share, basic		48,308			49,963			48,543			49,327
Shares used to compute income per share, diluted		49,524			52,083			49,824			51,443
Dividends per share		$	0.205		$	0.195		$	0.410		$	0.390

 

See accompanying Notes to the Unaudited Consolidated Financial Statements.

 

3

 

CITY NATIONAL CORPORATION

CONSOLIDATED STATEMENT OF CASH FLOWS

(Unaudited)

 

		For the six months ended June 30,
Dollars in thousands		2003			2002
Cash Flows From Operating Activities
Net income		$	89,736		$	89,996
Adjustments to net income:
Provision for credit losses		29,000			29,000
Amortization of intangibles		4,203			3,571
Depreciation		6,138			6,728
Deferred income tax benefit		(13,434		)	(7,929		)
Gain on sales of loans and assets		(102		)	(2,999		)
Gain on sales of securities		(2,502		)	(872		)
Net decrease (increase) in other assets		10,399			(24,889		)
Net decrease in trading securities		84,176			9,434
Other, net		9,108			(893		)
Net cash provided by operating activities		216,722			101,147
Cash Flows From Investing Activities
Purchase of securities		(1,602,880		)	(450,710		)
Sales of securities available-for-sale		111,240			88,529
Maturities and paydowns of securities		722,869			318,116
Loan principal collections (originations), net		380,151			(353,518		)
Purchase of premises and equipment		(10,906		)	(2,455		)
Net cash from (for) acquisitions		(39,907		)	35,633
Other, net		(3		)	3
Net cash used by investing activities		(439,436		)	(364,402		)
Cash Flows From Financing Activities
Net increase in deposits		327,108			227,502
Net decrease in federal funds purchased and securities sold under repurchase agreements		(99,643		)	(60,866		)
Net decrease in short-term borrowings, net of transfers from long-term debt		(25,000		)	(19,000		)
Repayment of long-term debt		(1,367		)	—
Net proceeds of issuance of senior debt		221,749			—
Proceeds from exercise of stock options		9,016			19,187
Stock repurchases		(45,217		)	—
Cash dividends paid		(19,914		)	(19,243		)
Net cash provided by financing activities		366,732			147,580
Net increase (decrease) in cash and cash equivalents		144,018			(115,675		)
Cash and cash equivalents at beginning of year		957,273			723,018
Cash and cash equivalents at end of period		$	1,101,291		$	607,343
Supplemental Disclosures of Cash Flow Information:
Cash paid during the period for:
Interest		$	31,309		$	51,029
Income taxes		44,000			28,500
Non-cash investing activities:
Transfer from loans to foreclosed assets		$	—		$	530
Transfer from long-term debt to short-term borrowings		15,000			25,000

 

See accompanying Notes to the Unaudited Consolidated Financial Statements.

 

4

 

CITY NATIONAL CORPORATION

CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS’ EQUITY

(Unaudited)

 

		For the six months ended June 30,
Dollars in thousands		2003			2002
Common Stock
Balance, beginning of period		$	50,283		$	48,150
Stock issued for acquisitions		—			1,208
Stock options exercised		2			765
Restricted stock and units issued		170			—
Balance, end of period		50,455			50,123
Additional paid-in capital
Balance, beginning of period		400,866			301,022
Tax benefit from stock options		1,601			7,836
Stock options exercised		(5,279		)	18,422
Restricted stock and units issued		7,553			—
Excess of market value of shares issued for acquisitions over historical cost		—			68,778
Balance, end of period		404,741			396,058
Accumulated other comprehensive income
Balance, beginning of period		40,400			10,674
Other comprehensive income (loss) net of income taxes		(619		)	14,999
Balance, end of period		39,781			25,673
Retained earnings
Balance, beginning of period		675,195			530,731
Net income		89,736			89,996
Dividends paid		(19,914		)	(19,243		)
Balance, end of period		745,017			601,484
Deferred equity compensation
Balance, beginning of period		—			—
Unamortized cost of restricted stock and units		(7,595		)	—
Balance, end of period		(7,595		)	—
Treasury shares
Balance, beginning of period		(56,785		)	—
Purchase of shares		(45,217		)	—
Issuance of shares for stock options		14,293			—
Balance, end of period		(87,709		)	—
Total shareholders’ equity		$	1,144,690		$	1,073,338

 

See accompanying Notes to the Unaudited Consolidated Financial Statements.

 

5

 

CITY NATIONAL CORPORATION

NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

1.               City National Corporation (the “Corporation”) is the holding company for City National Bank (the “Bank”).  In light of the fact that the Bank comprises substantially all of the business of the Corporation, references to the “Company” mean the Corporation and the Bank together.

 

2.               The results of operations reflect the interim adjustments, all of which are of a normal recurring nature and which, in the opinion of management, are necessary for a fair presentation of the results for the interim period presented.  These unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements included in the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2002.  The results for the 2003 interim periods are not necessarily indicative of the results expected for the full year.

 

3.               Trading account securities are stated at market value.  Investments not classified as trading securities are classified as securities available-for-sale and recorded at fair value.  Unrealized holding gains or losses for securities available-for-sale, net of taxes are excluded from net income and are reported as other comprehensive income included as a separate component of shareholders’ equity.

 

4.               Certain prior periods’ data have been reclassified to conform to current period presentation.

 

5.               Reserves established as a purchase price adjustment for the February 29, 2000 acquisition of The Pacific Bank N.A. of $0.9 million for exit costs relating to surplus space remain as of June 30, 2003.  Reserves established as a purchase price adjustment for the February 28, 2002 acquisition of Civic BanCorp of $0.8 million for exit costs relating to surplus space remain as of June 30, 2003.

 

6.               On February 13, 2003, the Corporation issued $225 million of 5.125 percent Senior Notes due 2013 in a private placement.  A like amount of exchange notes were subsequently registered pursuant to the Securities Act of 1933 in April 2003 and 100 percent of the Senior Notes were exchanged for the registered notes in an exchange offering with the Senior Notes which closed on May 29, 2003.

 

7.               On January 22, 2003, the Board of Directors authorized a 1 million-share stock buyback program.  During the second quarter of 2003, 537,300 shares were repurchased under this program at an average price of $41.64 per share.  A total number of 750,100 shares have been repurchased under this program at an average price of $42.47 per share leaving 249,900 shares available for repurchase.  Shares will be repurchased on a selective basis from time to time in open market transactions.  The shares purchased under the buyback programs may be reissued for acquisitions, upon the exercise of stock options, or for other general corporate purposes. There were 2,027,574 treasury shares at June 30, 2003.

 

On July 15, 2003, the Board of Directors authorized the repurchase of 500,000 additional shares of City National Corporation stock, following completion of the Company’s current buyback initiative.

 

Basic earnings per share is based on the weighted average shares of common stock outstanding less unvested restricted shares and units.  Diluted earnings per share gives effect to all dilutive potential common shares which consists of stock options and restricted shares and units that were outstanding during the period.  At June 30, 2003, 1,189,835 stock options were antidilutive.

 

8.               The Company applies APB Opinion No. 25 in accounting for stock option plans and, accordingly, no compensation cost has been recognized for its plans in the financial statements.  As a practice, the Corporation’s stock option grants are such that the exercise price equals the current market price of the common stock.  Had the Company determined compensation cost based on the fair value at the grant date for its stock options under SFAS No. 123 using the Black Scholes option-pricing model, the Company’s proforma net income would have been reduced to the proforma amounts indicated below:

 

6

 

		For the three months ended June 30,						For the six months ended June 30,
Dollars in thousands, except for per share amounts		2003			2002			2003			2002
Net income, as reported		$	46,081		$	45,760		$	89,736		$	89,996
Proforma net income		44,529			43,219			86,717			84,914
Net income per share, basic, as reported		0.95			0.92			1.85			1.82
Proforma net income per share, basic		0.92			0.86			1.79			1.72
Net income per share, diluted, as reported		0.93			0.88			1.80			1.75
Proforma net income per share, diluted		0.90			0.83			1.74			1.65
Percentage reduction in net income per share, diluted		3.32		%	5.68		%	3.33		%	5.71		%

 

During the latter part of the quarter, stock-based compensation performance awards for 2002 were granted to colleagues of the Company.  These performance awards for the first time included restricted stock grants with fewer stock options, which reduced the total number of shares awarded but better aligned the interests of shareholders and colleagues.  The Company recorded $129,000 in expense for restricted stock awards in the second quarter, and going forward expects to expense $387,000 quarterly for this stock award.

 

9.               In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities.”  Interpretation 46 clarifies the application of Accounting Research Bulletin No. 51, “Consolidated Financial Statements,” to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties.  The recognition and measurement provisions of Interpretation 46 are effective for newly created variable interest entities formed after January 31, 2003, and for existing variable interest entities, on the first interim or annual reporting period beginning after June 15, 2003.  The Company will adopt the provisions of Interpretation 46 for existing variable interest entities on July 1, 2003, which are not expected to have a material effect on the Company’s financial statements.

 

In April 2003, the FASB issued Statement No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities”.  Statement 149 amends and clarifies accounting for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities under Statement 133.  In particular, this Statement clarifies under what circumstances a contract with an initial net investment meets the characteristic of a derivative and when a derivative contains a financing component that warrants special reporting in the statement of cash flows.  This Statement is generally effective for contracts entered into or modified after June 30, 2003 and is not expected to have a material impact on the Company’s financial statements.

 

In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity” (SFAS No. 150).  SFAS No. 150 requires issuers to classify as liabilities (or assets in some circumstances) three classes of freestanding financial instruments that embody obligations for the issuer.  Generally, SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003.  SFAS No. 150 is to be implemented by reporting the cumulative effect of a change in an accounting principle for financial instruments created before May 15, 2003 and still existing at the beginning of the interim period of adoption.  The adoption of SFAS No. 150 is not expected to have a material effect on the Company’s financial statements, as the preferred securities of our subsidiary trusts will continue to be reported as a liability on the consolidated statements of financial condition.

 

10.         On April 1, 2003, the Corporation acquired Convergent Capital Management LLC, a privately held Chicago-based company, and substantially all of its asset management holdings, including its majority ownership interests in eight asset management firms and minority interests in two additional firms.  Combined, these 10 firms manage assets of approximately $6.9 billion as of June 30, 2003.  The purchase price was $49.0 million, comprised of cash and the assumption of approximately $7.5 million of debt.  The acquisition preliminarily resulted in $25.8 million in customer contract intangibles, which is being amortized over 20 years, and  $25.1 million in goodwill.

 

11.         On July 15, 2003, the Board of Directors approved a 37 percent increase in the Company’s quarterly common stock cash dividend.  The new quarterly dividend of $0.28 per share is up from the $0.205 per share previously paid.

 

7

 

CITY NATIONAL CORPORATION

FINANCIAL HIGHLIGHTS

(Unaudited)

 

		At or for the three months ended									Percentage change June 30, 2003 from
Dollars in thousands, except per share amounts		June 30, 2003			March 31, 2003			June 30, 2002			March 31, 2003		June 30, 2002
For The Quarter
Net income		$	46,081		$	43,655		$	45,760		6	%	1	%
Net income per common share, basic		0.95			0.89			0.92			7		3
Net income per common share, diluted		0.93			0.87			0.88			7		6
Dividends, per common share		0.205			0.205			0.195			0		5
At Quarter End
Assets		$	12,354,833		$	12,012,472		$	10,982,420		3		12
Deposits		10,166,806			9,863,846			8,797,167			3		16
Loans		7,590,226			7,832,823			7,854,530			(3	)	(3	)
Securities		2,992,686			2,531,809			1,919,985			18		56
Shareholders’ equity		1,144,690			1,121,689			1,073,338			2		7
Book value per share		23.77			23.09			21.41			3		11
Average Balances
Assets		$	11,914,869		$	11,480,626		$	10,934,265		4		9
Deposits		9,774,905			9,373,839			8,551,230			4		14
Loans		7,793,863			7,964,338			7,889,005			(2	)	(1	)
Securities		2,900,785			2,441,796			2,029,742			19		43
Shareholders’ equity		1,131,682			1,117,573			1,047,042			1		8
Selected Ratios
Return on average assets		1.55		%	1.54		%	1.68		%	1		(8	)
Return on average shareholders’ equity		16.33			15.84			17.53			3		(7	)
Corporation’s tier 1 leverage		7.17			7.65			7.44			(6	)	(4	)
Corporation’s tier 1 risk-based capital		10.21			10.30			9.74			(1	)	5
Corporation’s total risk-based capital		14.45			14.46			14.24			0		1
Dividend payout ratio, per share		21.51			22.91			21.34			(6	)	1
Net interest margin		4.79			5.07			5.35			(6	)	(10	)
Efficiency ratio *		52.53			50.28			47.95			4		10
Asset Quality Ratios
Nonaccrual loans to total loans		0.91		%	1.27		%	0.82		%	(28	)	11
Nonaccrual loans and ORE to toal loans and ORE		0.92			1.28			0.83			(28	)	11
Allowance for credit losses to total loans		2.25			2.16			2.01			4		12
Allowance for credit losses to non accrual loans		246.37			169.93			244.67			45		1
Net charge-offs to average loans - annualized		(0.52		)	(0.64		)	(0.81		)	(19	)	(36	)

 

*   The efficiency ratio is defined as noninterest expense excluding ORE expense divided by total revenue (net interest income on a tax-equivalent basis and noninterest income).

 

8

 

ITEM 2.                  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

See “Cautionary Statement for Purposes of the ‘Safe Harbor’ Provisions of the Private Securities Litigation Reform Act of 1995”, below relating to “forward-looking” statements included in this report.

 

 

RESULTS OF OPERATIONS

 

Critical Accounting Policies

 

The Company’s accounting policies are fundamental to understanding management’s discussion and analysis of results of operations and financial condition.  The Company has identified four policies as being critical because they require management to make particularly difficult, subjective and/or complex judgments about matters that are inherently uncertain and because of the likelihood that materially different amounts would be reported under different conditions or using different assumptions.  These policies relate to the accounting for securities, the allowance for credit losses, derivatives and hedging activities and stock based performance plans.  The Company, in consultation with the Audit Committee, has reviewed and approved these critical accounting policies, which are further described in Management’s Discussion and Analysis and Note 1 (Summary of Significant Accounting Policies) to Financial Statements in the Company’s 2002 Form 10-K.

 

 Overview

 

The Corporation recorded net income of $46.1 million, or $0.93 per common share, for the second quarter of 2003, compared with net income of $45.8 million, or $0.88 per share, for the second quarter of 2002 on fewer common shares outstanding this year.

 

For the first half of 2003, City National Corporation recorded net income of $89.7 million, or $1.80 per share, compared with net income of $90.0 million, or $1.75 per share, reported for the first half of 2002.

 

HIGHLIGHTS

 

•                  Average core deposits for the second quarter were up 21 percent from a year ago, up 5 percent from the prior quarter and up 23 percent for the first six months from the same period last year.

 

•                  Average loans for the first six months were up 3 percent from the same period last year.  However, average loans for the second quarter declined 1 percent from a year ago and were 2 percent lower than the prior quarter.  These declines reflect the continued slow demand for commercial loans and the Company’s continuing attention to credit quality.

 

•                  Net interest income for the first half of 2003 increased 1 percent over the first half of 2002 but fell 3 percent in the second quarter compared with the year ago quarter. This decline is consistent with the compression in the net interest margin to 4.79 percent during the period.

 

•                  Nonaccrual loans fell by $30.4 million, or 30 percent, from March 31, 2003 to $69.4 million, contributing to a lower provision for credit losses of $11.5 million for the second quarter of 2003.

 

•                  Exposure to syndicated non-relationship commercial and purchased media and telecommunication loans declined 40 percent from March 31, 2003 to $52.2 million at June 30, 2003.

 

•                  Fueled by the acquisition of Convergent Capital Management (“CCM”) in April 2003, noninterest income continued to increase. It rose 16 percent over both the second quarter of 2002 and the first quarter of this year.  For the first six months, noninterest income was up 13 percent from the same period last year.

 

9

 

$ in millions, except per share		For the three months ended June 30,						% Change		For the three months ended March 31, 2003			For the six months ended June 30,						% Change
		2003			2002								2003			2002
Earnings Per Share		$	0.93		$	0.88		6		$	0.87		$	1.80		$	1.75		3
Net Income		46.1			45.8			1		43.7			89.7			90.0			(0	)
Average Assets		11,914.9			10,934.3			9		11,480.6			11,698.9			10,640.8			10
Return on Average Assets		1.55		%	1.68		%	(8	)	1.54		%	1.55		%	1.71		%	(9	)
Return on Average Equity		16.33			17.53			(7	)	15.84			16.09			18.21			(12	)

 

Return on average assets for the second quarter and the first six months of 2003 declined due to an increase in average assets, primarily lower-yielding securities.  The lower return on average shareholders’ equity was due primarily to a higher level of shareholders’ equity from retained net income, issuance of restricted shares to colleagues, and from the exercise of stock options, net of treasury share repurchases.

 

Outlook

 

Consistent with its July 15, 2003 second quarter earnings release, management currently expects net income per diluted common share for 2003 to be approximately 4 to 6 percent higher than net income per diluted common share for 2002 based on the business indicators below:

 

•                  Average loan growth flat to 2 percent

•                  Average deposit growth 10 to 13 percent

•                  Net interest margin 4.75 to 4.90 percent

•                  Provision for credit losses $50 million to $65 million

•                  Noninterest income growth 18 to 21 percent

•                  Noninterest expense growth 9 to 12 percent

•                  Effective tax rate 31 to 33 percent

 

Revenues

 

Revenues (net interest income plus noninterest income) increased 2 percent to $172.2 million in the second quarter of 2003 from $169.3 million in the second quarter of 2002 and increased 3 percent from the first quarter of 2003 due in part to the acquisition of CCM in April 2003.  For the first half of 2003, revenues increased 4 percent to $339.4 million compared with $327.0 million for the first half of 2002.

 

 

Net Interest Income

 

Net interest income for the second quarter of 2003 was $130.8 million on a fully taxable-equivalent basis, a 3 percent decrease from $134.3 million in the second quarter of 2002 due to lower interest rates and lower commercial loan demand. Fully taxable-equivalent net interest income for the first six months of 2003 was $262.6 million compared with $259.7 million for the first six months of 2002.

 

		For the three months ended June 30,						% Change		For the three months ended March 31, 2003			For the six months ended June 30,						% Change
$ in millions		2003			2002								2003			2002
Average Loans		$	7,793.9		$	7,889.0		(1	)	$	7,964.3		$	7,878.6		$	7,678.4		3
Average Securities		2,900.8			2,029.7			43		2,441.8			2,672.6			1,977.4			35
Average Deposits		9,774.9			8,551.2			14		9,373.8			9,575.5			8,244.1			16
Average Core Deposits		8,763.1			7,238.8			21		8,326.5			8,546.0			6,921.5			23
Fully Taxable-Equivalent Net Interest Income		130.8			134.3			(3	)	131.9			262.6			259.7			1
Net Interest Margin		4.79		%	5.35		%	(10	)	5.07		%	4.93		%	5.35		%	(8	)

 

 

Second-quarter and year-to-date 2003 average deposits continued to increase over the prior-year periods as well as from the prior quarter.

 

Average loans for the second quarter of 2003 declined compared with the same period last year and the prior quarter due to economic uncertainties and the emphasis on credit quality.  However, average loans for the first six months of 2003 increased over the same period last year.

 

The net interest margin narrowed due to a flattening yield curve, mortgage prepayment activity and low interest rates.

 

10

 

Compared with the prior-year second-quarter averages, commercial loans declined 8 percent, residential first mortgage loans rose 1 percent, real estate mortgage loans rose 6 percent, and real estate construction loans rose 9 percent.  Compared with the prior quarter, average real estate construction loans increased while all other loan categories fell.  Compared with the first six months of 2002, commercial loans decreased 2 percent, residential first mortgage loans rose 4 percent, real estate mortgage loans rose 9 percent, and real estate construction loans rose 9 percent.

 

Average securities, principally with lower yields and shorter durations, continued to increase as deposits grew strongly.  As of June 30, 2003 unrealized gains on securities available-for-sale were $57.3 million.

 

During the second quarter of 2003, average core deposits ¾ which include all deposits except time deposits of $100,000 or more ¾ rose to $8.8 billion, an increase of 21 percent over the $7.2 billion reported for the second quarter of 2002. They rose 5 percent over the first quarter of 2003.  For the first half of 2003, average core deposits increased 23 percent over the same period last year.  Average core deposits represented 90 percent of the total average deposit base for the second quarter of 2003, compared with 85 percent for the second quarter of 2002 and 89 percent for the first quarter of 2003.  For the first half of 2003, average core deposits were 89 percent of total average deposits compared with 84 percent for the first half of 2002.  New clients, additional trust and escrow deposits and higher client balances maintained as deposits to pay for services contributed to the continued growth of deposits.

 

The Bank’s prime rate was 4.00 percent as of June 30, 2003 compared with 4.75 percent a year earlier.

 

As part of the Company’s long-standing asset liability management strategy, its “plain vanilla” interest rate swaps hedging loans, deposits and borrowings, with a notional value of $976.4 million, added $7.5 million to net interest income in the second quarter of 2003. That compared with $8.5 million in the second quarter of 2002 and $7.5 million for the first quarter of 2003.  These amounts included $5.2 million, $3.7 million and $4.5 million, respectively, for interest swaps qualifying as fair-value hedges.  Income from swaps qualifying as cash-flow hedges was $2.3 million for the second quarter of 2003, compared with $4.8 million for the second quarter of 2002 and $3.0 million for the first quarter of 2003.  For the first half of 2003, interest rate swaps added $15.0 million to net interest income, compared with $16.4 million for the first half of 2002.  These amounts include $9.7 million and $6.9 million, respectively, for interest swaps qualifying as fair value hedges.  Income from existing swaps qualifying as cash flow hedges of loans expected to be recorded in net interest income within the next 12 months is $8.5 million.

 

Interest income recovered on nonaccrual and charged-off loans included above was $0.4 million for the second quarter of 2003, compared with $0.6 million for the second quarter of 2002 and $0.6 million for the first quarter of 2003, respectively.

 

The following tables present the components of net interest income on a fully taxable-equivalent basis for the three and six months ended June 30, 2003 and 2002.  To compare the tax-exempt asset yields to taxable yields, amounts are adjusted to pre-tax equivalents based on the marginal corporate federal tax rate of 35 percent.

 

11

 

Net Interest Income Summary

 

		For the three months ended June 30, 2003								For the three months ended June 30, 2002
Dollars in thousands		Average Balance			Interest income/ expense (2)			Average interest rate		Average Balance			Interest income/ expense (2)			Average interest rate
Assets
Interest-earning assets
Loans
Commercial		$	3,402,342		$	44,309		5.22	%	$	3,687,873		$	55,856		6.07	%
Real estate mortgages		1,906,995			31,297			6.58		1,791,314			32,651			7.31
Residential first mortgages		1,733,015			26,737			6.19		1,718,680			29,468			6.88
Real estate construction		679,541			8,903			5.25		622,223			8,780			5.66
Installment		71,970			1,409			7.85		68,915			1,558			9.07
Total loans (1)		7,793,863			112,655			5.80		7,889,005			128,313			6.52
Securities available-for-sale		2,844,001			34,440			4.86		1,980,089			30,079			6.09
Federal funds sold and securities purchased under resale agreements		246,559			771			1.25		149,255			704			1.89
Trading account securities		56,784			97			0.69		49,653			184			1.49
Total interest-earning assets		10,941,207			147,963			5.42		10,068,002			159,280			6.35
Allowance for credit losses		(174,270		)						(160,779		)
Cash and due from banks		429,788								414,851
Other nonearning assets		718,144								612,191
Total assets		$	11,914,869							$	10,934,265
Liabilities and Shareholders’ Equity
Interest-bearing deposits
Interest checking accounts		$	711,609		304			0.17		$	627,118		405			0.26
Money market accounts		3,097,697			7,257			0.94		2,388,757			8,512			1.43
Savings deposits		205,378			239			0.47		229,726			504			0.88
Time deposits - under $100,000		212,060			931			1.76		226,137			1,339			2.37
Time deposits - $100,000 and over		1,011,850			3,817			1.51		1,312,423			7,408			2.26
Total interest - bearing deposits		5,238,594			12,548			0.96		4,784,161			18,168			1.52
Federal funds purchased and securities sold under repurchase agreements		146,000			414			1.14		201,489			805			1.60
Other borrowings		709,391			4,247			2.40		1,021,421			5,964			2.34
Total interest - bearing liabilities		6,093,985			17,209			1.13		6,007,071			24,937			1.67
Noninterest - bearing deposits		4,536,311								3,767,069
Other liabilities		152,891								113,083
Shareholders’ equity		1,131,682								1,047,042
Total liabilities and shareholders’ equity		$	11,914,869							$	10,934,265
Net interest spread								4.29	%							4.68	%
Fully taxable-equivalent net interest income					$	130,754							$	134,343
Net interest margin								4.79	%							5.35	%

 

(1)  Includes average nonaccrual loans of $79,818 and $58,210 for 2003 and 2002, respectively.

(2)  Loan income includes loan fees of $5,620 and $5,574 for 2003 and 2002, respectively.

 

12

 

Net Interest Income Summary

 

		For the six months ended June 30, 2003								For the six months ended June 30, 2002
Dollars in thousands		Average Balance			Interest income/ expense (2)			Average interest rate		Average Balance			Interest income/ expense (2)			Average interest rate
Assets
Interest-earning assets
Loans
Commercial		$	3,480,938		$	91,499		5.30	%	$	3,560,880		$	108,865		6.17	%
Real estate mortgages		1,907,770			62,949			6.65		1,754,779			63,548			7.30
Residential first mortgages		1,744,861			54,901			6.35		1,676,088			57,747			6.95
Real estate construction		671,791			17,743			5.33		616,582			17,174			5.62
Installment		73,267			2,909			8.01		70,059			3,165			9.11
Total loans (1)		7,878,627			230,001			5.89		7,678,388			250,499			6.58
Securities available-for-sale		2,616,060			65,900			5.08		1,922,114			59,233			6.21
Federal funds sold and securities purchased under resale agreements		190,088			1,182			1.25		139,530			1,211			1.75
Trading account securities		56,501			198			0.71		55,319			392			1.43
Total interest-earning assets		10,741,276			297,281			5.58		9,795,351			311,335			6.41
Allowance for credit losses		(171,860		)						(155,494		)
Cash and due from banks		435,402								419,075
Other nonearning assets		694,130								581,894
Total assets		$	11,698,948							$	10,640,826
Liabilities and Shareholders’ Equity
Interest-bearing deposits
Interest checking accounts		$	693,311		641			0.19		$	596,087		758			0.26
Money market accounts		3,043,562			14,830			0.98		2,261,972			16,259			1.45
Savings deposits		201,856			501			0.50		236,291			1,231			1.05
Time deposits - under $100,000		213,865			1,941			1.83		230,197			2,937			2.57
Time deposits - $100,000 and over		1,029,504			8,109			1.59		1,322,541			15,926			2.43
Total interest - bearing deposits		5,182,098			26,022			1.01		4,647,088			37,111			1.61
Federal funds purchased and securities sold under repurchase agreements		182,556			1,039			1.15		201,352			1,585			1.59
Other borrowings		662,676			7,607			2.31		1,088,880			12,904			2.39
Total interest - bearing liabilities		6,027,330			34,668			1.16		5,937,320			51,600			1.75
Noninterest - bearing deposits		4,393,383								3,596,974
Other liabilities		153,568								109,842
Shareholders’ equity		1,124,667								996,690
Total liabilities and shareholders’ equity		$	11,698,948							$	10,640,826
Net interest spread								4.42	%							4.66	%
Fully taxable-equivalent net interest income					$	262,613							$	259,735
Net interest margin								4.93	%							5.35	%

 

(1)  Includes average nonaccrual loans of $81,428 and $50,901 for 2003 and 2002, respectively.

(2)  Loan income includes loan fees of $11,048 and $11,891 for 2003 and 2002, respectively.

 

13

 

Net interest income is impacted by the volume, mix and rate of interest-earning assets and interest-bearing liabilities.  The following table shows changes in net interest income on a fully taxable-equivalent basis between the second quarter and the first six months of 2003 and the second quarter and the first six months of 2002, as well as between the second quarter and the first six months of 2002 and the second quarter and the first six months of 2001.

 

Changes In Net Interest Income

 

Dollars in thousands		For the three months ended June 30, 2003 vs 2002									For the three months ended June 30, 2002 vs 2001
		Increase (decrease) due to						Net increase (decrease)			Increase (decrease) due to						Net increase (decrease)
		Volume			Rate						Volume			Rate
Interest earned on:
Loans		$	(1,542	)	$	(14,116	)	$	(15,658	)	$	24,465		$	(26,972	)	$	(2,507	)
Securities available-for-sale		11,282			(6,921		)	4,361			5,697			(3,114		)	2,583
Federal funds sold and securities pruchased under resale agreements		358			(291		)	67			494			(658		)	(164		)
Trading account securities		23			(110		)	(87		)	(164		)	(310		)	(474		)
Total interest-earning assets		10,121			(21,438		)	(11,317		)	30,492			(31,054		)	(562		)
Interest paid on:
Interest checking deposits		51			(152		)	(101		)	42			(122		)	(80		)
Money market deposits		2,126			(3,381		)	(1,255		)	5,234			(9,365		)	(4,131		)
Savings deposits		(49		)	(216		)	(265		)	(120		)	(1,382		)	(1,502		)
Other time deposits		(1,572		)	(2,427		)	(3,999		)	(2,002		)	(10,789		)	(12,791		)
Other borrowings		(2,018		)	(90		)	(2,108		)	(404		)	(7,596		)	(8,000		)
Total interest-bearing liabilities		(1,462		)	(6,266		)	(7,728		)	2,750			(29,254		)	(26,504		)
		$	11,583		$	(15,172	)	$	(3,589	)	$	27,742		$	(1,800	)	$	25,942

 

 

Dollars in thousands		For the six months ended June 30, 2003 vs 2002									For the six months ended June 30, 2002 vs 2001
		Increase (decrease) due to						Net increase (decrease)			Increase (decrease) due to						Net increase (decrease)
		Volume			Rate						Volume			Rate
Interest earned on:
Loans		$	6,383		$	(26,881	)	$	(20,498	)	$	43,159		$	(63,875	)	$	(20,716	)
Securities		18,756			(12,089		)	6,667			11,637			(5,611		)	6,026
Federal funds sold and securities purchased under resale agreements		371			(400		)	(29		)	1,120			(1,380		)	(260		)
Trading account securities		8			(202		)	(194		)	(220		)	(753		)	(973		)
Total interest-earning assets		25,518			(39,572		)	(14,054		)	55,696			(71,619		)	(15,923		)
Interest paid on: