<PAGE> 1
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 March 31, 1998 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, Chicago, Illinois 60603
(Address of principal executive offices) (Zip Code)
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 May 14,
1998 was 1,000.
<PAGE> 2
HARRIS PREFERRED CAPITAL CORPORATION
TABLE OF CONTENTS
<TABLE>
<S> <C> <C>
Part I FINANCIAL INFORMATION
Item 1. Financial Statements................................................2
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations......................10
Part II OTHER INFORMATION
Item 2(d). Use of Proceeds....................................................20
Item 6. Exhibits and Reports on Form 8-K...................................20
Signatures ...................................................................21
</TABLE>
Page 1
<PAGE> 3
Part 1. Financial Information
Item 1. Financial Statements
HARRIS PREFERRED CAPITAL CORPORATION
BALANCE SHEET
MARCH 31, 1998
<TABLE>
<CAPTION>
MARCH 31,
(IN THOUSANDS EXCEPT SHARE DATA) 1998
- - -----------------------------------------------------------------------------------------------------
<S> <C>
ASSETS
Cash on deposit with parent $ 590
Securities purchased from parent under agreement to resell 7,004
Notes receivable from parent 348,960
Mortgage-backed securities available-for-sale 133,187
Other assets 2,591
---------------
TOTAL ASSETS $ 492,332
===============
LIABILITIES AND STOCKHOLDERS' EQUITY
Accrued expenses due to parent $ 151
Commitments and contingencies -
---------------
TOTAL LIABILITIES 151
---------------
STOCKHOLDERS' EQUITY
Common stock ($1 par value); 1,000 shares authorized, issued
and outstanding 1
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
Additional paid-in capital 241,103
Earnings in excess of distributions 1,632
Accumulated other comprehensive income - unrealized losses on available-for-sale
securities (555)
---------------
TOTAL STOCKHOLDERS' EQUITY 492,181
---------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 492,332
===============
</TABLE>
The accompanying notes to financial statements are an integral part of this
statement.
Page 2
<PAGE> 4
HARRIS PREFERRED CAPITAL CORPORATION
STATEMENT OF OPERATIONS
FROM INCEPTION (JANUARY 2, 1998) THROUGH
MARCH 31, 1998
<TABLE>
<CAPTION>
FROM INCEPTION
(JANUARY 2, 1998)
THROUGH
MARCH 31,
(IN THOUSANDS, EXCEPT PER SHARE DATA) 1998
- - --------------------------------------------------------------------------------------------------------------------------
<S> <C>
Interest income:
Securities purchased from parent under agreement to resell $ 18
Notes receivable from parent 3,127
Mortgage-backed securities available-for-sale 1,220
----------------------
Total interest income 4,365
Operating expenses:
Loan servicing fees paid to parent 141
Advisory fees paid to parent 7
General and administrative 24
----------------------
Total operating expense 172
Net income 4,193
Preferred dividends 2,561
----------------------
NET INCOME AVAILABLE TO COMMON STOCKHOLDER $ 1,632
======================
Basic and diluted earnings per common share $ 1,632.00
======================
Net income $ 4,193
Other comprehensive income - unrealized losses on available-for-sale-securities (555)
----------------------
Comprehensive income $ 3,638
======================
</TABLE>
The accompanying notes to financial statements are an integral part of this
statement.
Page 3
<PAGE> 5
HARRIS PREFERRED CAPITAL CORPORATION
STATEMENT OF CHANGES IN STOCKHOLDERS'
EQUITY
FROM INCEPTION (JANUARY 2, 1998) THROUGH
MARCH 31, 1998
<TABLE>
<CAPTION>
ACCUMULATED
ADDITIONAL EARNINGS IN OTHER
COMMON PREFERRED PAID-IN EXCESS OF COMPREHENSIVE STOCKHOLDERS'
(IN THOUSANDS EXCEPT PER SHARE DATA) STOCK STOCK CAPITAL DISTRIBUTIONS INCOME EQUITY
- - --------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balance at inception $ - $ - $ - $ - $ - $ -
Issuance of common stock 1 1
Initial public offering of 7 3/8%
Noncumulative Exchangable Preferred Stock,
Series A, par value $1, on February 11, 1998 - 250,000 - - - 250,000
Contribution to capital surplus - - 241,103 - - 241,103
Net income - - - 4,193 - 4,193
Other comprehensive income - - - - (555) (555)
Dividends (preferred stock $0.2561 per share) - - - (2,561) - (2,561)
--------- --------- -------- -------- ----------- -----------
Balance at March 31, 1998 $ 1 $ 250,000 $241,103 $ 1,632 $ (555) $ 492,181
========= ========= ======== ======== =========== ===========
</TABLE>
The accompanying notes to financial statements are an integral part of this
statement.
Page 4
<PAGE> 6
HARRIS PREFERRED CAPITAL CORPORATION
STATEMENT OF CASH FLOWS
FROM INCEPTION (JANUARY 2, 1998) THROUGH
MARCH 31, 1998
<TABLE>
<CAPTION>
FROM INCEPTION
(JANUARY 2, 1998)
THROUGH
MARCH 31,
(IN THOUSANDS) 1998
- - -----------------------------------------------------------------------------------------------------------------------
<S> <C>
OPERATING ACTIVITIES:
Net Income $ 4,193
Adjustments to reconcile net income to net cash provided by operating
activities:
Net increase in accrued interest receivable (2,591)
Net increase in accrued expenses 151
---------------
Net cash provided by operating activities 1,753
---------------
INVESTING ACTIVITIES:
Net increase in securities purchased from parent under agreement to resell (7,004)
Net increase in notes receivable from parent (348,960)
Purchases of securities available-for-sale (134,442)
Proceeds from maturities of securities available-for-sale 700
---------------
Net cash used by investing activities (489,706)
---------------
FINANCING ACTIVITIES:
Proceeds from issuance of preferred stock 250,000
Proceeds from issuance of common stock 1
Contribution to additional paid-in capital, net of acquisition costs 241,103
Cash dividends paid on preferred stock (2,561)
---------------
Net cash provided by financing activities 488,543
---------------
Net increase in cash on deposit with parent 590
Cash on deposit with parent at January 2, 1998 -
---------------
Cash on deposit with parent at March 31, 1998 $ 590
===============
</TABLE>
The accompanying notes to financial statements are an integral part of this
statement.
Page 5
<PAGE> 7
HARRIS PREFERRED CAPITAL CORPORATION
NOTES TO FINANCIAL STATEMENTS
1. ORGANIZATION AND BASIS OF PRESENTATION
Harris Preferred Capital Corporation (the "Company") is a Maryland corporation
incorporated on September 24, 1997, pursuant to the Maryland General Corporation
Law. The Company's 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 issued by Harris Trust
and Savings Bank (the "Bank") secured by real estate mortgage assets and other
obligations secured by real property, as well as certain other qualifying REIT
assets. The Company's assets are held in a Maryland real estate trust. The
Company expects to be subject to tax as a REIT under the Internal Revenue Code
of 1986, as amended (the "Code"), and will generally not be subject to Federal
income tax to the extent that it distributes 95% of its earnings to its
stockholders and maintains its qualification as a REIT. All of the shares of the
Company's common stock, par value $1.00 per share (the "Common Stock"), are
owned by the Bank. The Bank is required to maintain direct or indirect ownership
of at least 80 % of the outstanding Common Stock of the Company for as long as
any 7 3/8% Noncumulative Exchangeable Preferred Stock, Series A (the "Preferred
Shares"), $1.00 par value, are outstanding. The Company was formed by the Bank
to provide investors with the opportunity to invest in residential mortgages and
other real estate assets and to provide the Bank with a cost-effective means of
raising capital for federal regulatory purposes.
On February 11, 1998, the Company consummated an initial public offering (the
"Offering") of 10,000,000 shares of the Company's Preferred Shares, receiving
proceeds of $242,125,000, net of underwriting fees. The Preferred Shares are
traded on the New York Stock Exchange. Concurrent with the issuance of the
Preferred Shares, the Bank contributed additional capital of $250 million to the
Company.
The Company used the proceeds raised from the initial public offering of the
Preferred Shares and the additional capital contributed by the Bank to purchase
$356 million of notes (the "Notes") from the Bank and $135 million of
mortgage-backed securities at their estimated fair value.
In the opinion of management, all adjustments necessary for a fair presentation
have been made to the accompanying statements for the period from inception
(January 2, 1998) through March 31, 1998, and all adjustments are of a normal
and recurring nature.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ALLOWANCE FOR POSSIBLE LOAN LOSSES
The allowance for possible loan losses is maintained at a level considered
adequate to provide for potential loan losses. The allowance is increased by
provisions charged to operating expense and reduced by net charge-offs. Known
losses of principal on impaired loans are charged off. The provision for loan
losses is based on past loss experience, management's evaluation of the loan
portfolio securing the Mortgage Assets under current economic conditions and
management's estimate of anticipated, but as yet not specifically identified,
loan losses. Such estimates are reviewed periodically and adjustments, if
necessary, are recorded during the periods in which they become known. At March
31, 1998, no allowance for possible loan losses was recorded under this policy.
Page 6
<PAGE> 8
INCOME TAXES
The Company expects to elect to be taxed as a REIT commencing with its taxable
year ending December 31, 1998 and intends to comply with the provisions of the
Code with respect thereto. The Company does not expect to be subject to Federal
income tax to the extent it distributes 95% of its income to stockholders and as
long as certain assets, income and stock ownership tests are met. Accordingly,
no provision for income taxes is included in the accompanying financial
statements.
SECURITIES
The Company classifies all securities as held-to-maturity or as
available-for-sale. Available-for-sale securities are reported at fair value
with unrealized gains and losses included as a separate component of
stockholders' equity. There were no held-to-maturity securities at March 31,
1998.
Interest income on securities, including amortization of discount or premium, is
included in earnings. Realized gains and losses, as a result of portfolio
securities sales, are included in securities' gains, with the cost of securities
sold determined on the specific identification basis.
The Company purchases U.S. Treasury and Federal agency securities from its
parent under agreements to resell identical securities. The amounts advanced
under these agreements represent short-term loans and are reflected as
receivables in the Balance Sheet. Securities purchased under agreement to resell
totaled $7 million at March 31, 1998. The securities underlying the agreements
are book-entry securities. Securities are transferred by appropriate entry into
the Company's account with the Bank under a written custodial agreement with the
Bank that explicitly recognizes the Company's interest in these securities.
MANAGEMENT'S ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
3. NOTES RECEIVABLE FROM PARENT
After capitalization on February 11, 1998, proceeds were used in part to
purchase $356 million of Notes at a rate of 6.4%. The Notes are secured by
mortgage loans originated by the Bank. The principal amount of the Notes equals
approximately 80% of the aggregate outstanding principal amount of the
collateralizing mortgage loans.
The Notes are recourse only to the securing mortgage loans that are secured by
real property. The Notes mature on October 1, 2027. Payments of principal and
interest on the notes are recorded monthly from payments received on the
securing mortgage loans. The Company has a security interest in the real
property securing the underlying mortgage loans and is entitled to enforce
payment on the securing mortgage loans in its own name if a mortgagor should
default. In the event of default, the Company has the same rights as the
original mortgagee to foreclose the mortgaged property and satisfy the
obligations of the Bank out of the proceeds. The securing mortgage loans are
serviced by the Bank, as agent of the Company.
The Company intends that each mortgage loan securing the Notes will represent a
first lien position and will be originated in the ordinary course of the Bank's
real estate lending activities based on the underwriting standards generally
applied (at the time of origination) for the Bank's own account. The Company
also intends that all Mortgage Assets held by the Company will meet market
standards, with any servicing guidelines promulgated by the Company and, in the
case of residential mortgage loans, with Federal National Mortgage Association
("Fannie Mae") and Federal Home Loan Mortgage Corporation ("FHLMC") guidelines
and procedures.
Page 7
<PAGE> 9
The balance of securing mortgage loans at March 31, 1998 was $415 million. The
weighted average interest rate on those loans was 7.387% at March 31, 1998.
None of the mortgage loans collateralizing the Notes was on nonaccrual status
at March 31, 1998.
A majority of the collateral securing the underlying mortgage loans is located
in Illinois and Arizona. The financial viability of customers in these states
is, in part, dependent on the states' economies. The Company's maximum risk of
accounting loss, should all customers in Illinois and Arizona fail to perform
according to contract terms and all collateral prove to be worthless, was
approximately $241 million and $80 million, respectively, as of March 31, 1998.
4. SECURITIES
Mortgage-backed securities represent Government National Mortgage Association
6 1/2% Platinum Certificates. The fair value, amortized cost and gross and net
unrealized losses of such securities aggregated $133.2 million, $133.7 million
and $(.56) million, respectively, as of March 31, 1998. The contractual
maturity is November 15, 2027. Expected maturities can differ from contractual
maturities since borrowers may have the right to call or prepay obligations
with or without call or prepayment penalties.
5. COMMON AND PREFERRED STOCK
On February 11, 1998, the Company issued 10,000,000 Preferred Shares at a price
of $25 per share pursuant to its Registration Statement on Form S-11. Proceeds
from this issuance, net of underwriting fees, totaled $242,125,000. The
liquidation value of each Preferred Share is $25 plus any authorized, declared
and unpaid dividends. Except upon the occurrence of certain events, the
Preferred Shares are not redeemable by the Company prior to March 30, 2003. On
or after such date, the Preferred Shares will be redeemable at the option of the
Company, in whole or in part, at the liquidation preference thereof, plus the
quarterly accrued and unpaid dividend, if any, to the date of redemption. Except
under certain limited circumstances, as defined, the holders of the Preferred
Shares have no voting rights. The Preferred Shares are automatically
exchangeable for a new series of preferred stock of the Bank upon the occurrence
of certain events.
Holders of Preferred Shares are entitled to receive, if declared by the Board of
Directors of the Company, noncumulative dividends at a rate of 7 3/8% per annum
of the $25 per share liquidation preference (an amount equivalent to $1.84375
per share per annum). Dividends on the Preferred Shares, if authorized and
declared, are payable quarterly in arrears on March 30, June 30, September 30,
and December 30 of each year. Dividends paid during the quarter ended March 31,
1998 to the holders of the Preferred Shares totaled $2,560,800.
Dividends on Common Stock are paid if and when authorized and declared by the
Board of Directors out of funds legally available after all preferred dividends
have been paid. No Common Stock dividends were declared or paid during the
quarter ended March 31, 1998.
6. TRANSACTIONS WITH AFFILIATES
The Company entered into an advisory agreement (the "Advisory Agreement") with
the Bank pursuant to which the Bank administers the day-to-day operations of
the Company. The Bank is responsible for (i) monitoring the credit quality of
Mortgage Assets held by the Company, (ii) advising the Company with respect to
the reinvestment of income from and payments on, and with respect to the
acquisition, management, financing, and disposition of the Mortgage Assets held
by the Company, and (iii) monitoring the Company's compliance with the
requirements necessary to qualify as a REIT.
The Advisory Agreement has an initial term of one year and may be renewed for
additional one-year periods. The Bank is entitled to receive an advisory fee
equal to $50,000 per year, payable in equal quarterly installments.
The securing mortgage loans are serviced by the Bank pursuant to the terms of a
servicing agreement ("the Servicing Agreement"). The Bank will receive a fee
equal to 0.25% per annum on the principal balances of the loans serviced.
The Servicing Agreement requires the Bank to service the mortgage loans in a
manner generally consistent with accepted secondary market practices, with any
servicing guidelines promulgated by the Company and, in the case of the securing
mortgage loans, with Fannie Mae and FHLMC guidelines and procedures.
Page 8
<PAGE> 10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
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 REIT, liquidity,
provision for loan losses, capital resources and investment activities in
"Management's Discussion and Analysis of Financial Condition and Results of
Operation." 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.
OVERVIEW
Harris Preferred Capital Corporation is a Maryland corporation incorporated on
September 24, 1997, pursuant to the Maryland General Corporation Law. The
Company's principal business objective is to acquire, hold, finance and manage
assets consisting of a limited recourse note or notes issued by the Bank
secured by real estate mortgage assets and other obligations secured by real
property, as well as certain other qualifying REIT assets. The Company expects
to qualify as a REIT under the Code, and will generally not be subject to
federal income tax to the extent that it distributes 95% of its earnings to its
stockholders and maintains its qualification as a REIT. All of the shares of
the Company's Common Stock, are owned by the Bank. The Bank is required to
maintain direct or indirect ownership of at least 80% of the outstanding Common
Stock of the Company for as long as any Preferred Shares are outstanding. The
Company was formed by the Bank to provide investors with the opportunity to
invest in residential mortgage and other real estate assets and to provide the
Bank with a cost-effective means of raising capital for federal regulatory
purposes.
On February 11, 1998, the Company issued, in the Offering, 10,000,000 Preferred
Shares, $1.00 par value, which raised $250 million less $7.9 million of
underwriting fees. The Preferred Shares are traded on the New York Stock
Exchange. Concurrent with the issuance of the Preferred Shares, the Bank
contributed additional capital of $250 million to the Company.
RESULTS OF OPERATIONS
During the period from inception (January 2, 1998) through March 31, 1998, the
Company reported net income of $4.2 million.
The Company used the proceeds from its offering of Preferred Shares, coupled
with a capital contribution from the Bank, to purchase $356 million of Notes and
$135 million par value of mortgage-backed securities at an estimated fair value
of $134 million. As of March 31, 1998, the Company had $349 million invested in
notes. Management intends to continue to reinvest principal collections in
notes issued by the Bank secured by real estate mortgage assets, residential
mortgage loans to be purchased from either the Bank or its affiliates on a
periodic basis, or mortgage-backed securities.
Interest income on the Notes totaled $3.1 million and yielded 6.67% on average
principal outstanding. Interest income on mortgage-backed securities
available-for-sale was $1.2 million resulting in a yield of 6.83%. The average
Notes and securities available-for-sale balances for the period from February
11, 1998 through March 31, 1998 were $352 million and $134 million,
respectively. The average outstanding balance of the securing mortgage loans for
the same period was $430 million. There were no Company borrowings during the
quarter.
Operating expenses totaling $172 thousand were comprised of loan servicing fees
paid to parent, advisory fees paid to parent and general and administrative
expenses. Loan servicing expenses of $141 thousand were based on an annual
servicing fee
Page 9
<PAGE> 11
rate of 0.25% of the outstanding principal balances of the securing mortgage
loans. Advisory fees paid to parent for the three months ended March 31, 1998
totaled $7 thousand. General and administration expenses were $24 thousand.
On February 26, 1998, the Company declared a cash dividend of $.2561 per share
on the outstanding Preferred Shares to the stockholders of record on March 15,
1998. The dividend of $2.6 million was subsequently paid to holders of Preferred
Shares on March 30, 1998.
At March 31, 1998, there were no securing mortgage loans on nonaccrual status.
ALLOWANCE FOR LOAN LOSSES
The Company does not currently maintain an allowance for loan losses due to the
over-collateralization of the securing mortgage loans.
CONCENTRATIONS OF CREDIT RISK
A majority of the collateral securing the underlying mortgage loans is located
in Illinois and Arizona. The financial viability of customers in these states
is, in part, dependent on the states' economies. The Company's maximum risk of
accounting loss, should all customers in Illinois and Arizona fail to perform
according to contract terms and all collateral prove to be worthless, was
approximately $241 million and $80 million, respectively, at March 31, 1998.
LIQUIDITY RISK MANAGEMENT
The object 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 from repayment of principal balances by individual
mortgagees. 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 95% of its adjusted REIT taxable income, as provided for under the Code,
to its common and preferred stockholders. The Company currently expects to
distribute dividends annually equal to 95% 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 Statement of Cash Flows, the primary sources of
funds during the period from inception (January 2, 1998) through March 31, 1998,
were $250 million from the issuance of Preferred Shares and $241 million
additional capital contributed by the Bank, net of acquisition costs. Additional
significant sources of funds were $7 million provided by principal payments on
the notes. The primary uses of funds were $349 million in purchases of Notes,
net of repayments, $134 million in purchases of mortgage-backed securities, and
$2.6 million in preferred stock dividends paid.
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OTHER MATTERS
As of March 31, 1998, 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 Harris Trust and Savings Bank
is included because the Preferred Shares are automatically exchangeable for a
new series of preferred stock of the Bank upon the occurrence of certain events.
Page 11
<PAGE> 13
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENT OF INCOME Harris Trust and Savings Bank and Subsidiaries
- - ---------------------------------------------------------------------------------------------------------------------------
Quarter Ended March 31
------------------------
(in thousands except share data) 1998 1997
- - ---------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
INTEREST INCOME
Loans, including fees $ 165,153 $ 167,365
Money market assets:
Deposits at banks 6,349 8,128
Federal funds sold and securities purchased under agreement to resell 1,852 2,810
Trading account 734 992
Securities available-for-sale:
U.S. Treasury and Federal agency 59,692 48,508
State and municipal 1,048 1,152
Other 316 315
---------- ----------
Total interest income 235,144 229,270
---------- ----------
INTEREST EXPENSE
Deposits 83,001 76,884
Short-term borrowings 41,037 34,641
Senior notes 9,597 8,946
Minority interest-dividends on preferred stock of subsidiary 2,561 -
Long-term notes 5,347 4,891
---------- ----------
Total interest expense 141,543 125,362
---------- ----------
NET INTEREST INCOME 93,601 103,908
Provision for loan losses 4,991 15,445
---------- ----------
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 88,610 88,463
---------- ----------
NONINTEREST INCOME
Trust and investment management fees 26,107 23,519
Trading account 1,476 848
Foreign exchange 1,650 889
Charge card fees 7,170 11,513
Service fees and charges 23,654 20,228
Portfolio securities gains 7,964 1,183
Gain on sale of credit card portfolio 12,000 -
Other 13,838 12,246
---------- ----------
Total noninterest income 93,859 70,426
---------- ----------
NONINTEREST EXPENSES
Salaries and other compensation 63,525 59,251
Pension, profit sharing and other employee benefits 11,512 11,928
Net occupancy 9,793 11,530
Equipment 10,887 8,621
Marketing 5,070 5,050
Communication and delivery 5,460 4,929
Deposit insurance 640 551
Expert services 6,429 4,925
Restructuring charges 5,564 -
Other 4,351 8,481
---------- ----------
123,231 115,266
Goodwill and other valuation intangibles 5,544 6,160
---------- ----------
Total noninterest expenses 128,775 121,426
---------- ----------
Income before income taxes 53,694 37,463
Applicable income taxes 16,926 11,846
---------- ----------
NET INCOME $ 36,768 $ 25,617
========== ==========
EARNINGS PER COMMON SHARE (based on 10,000,000 average shares outstanding)
Net Income $ 3.68 $ 2.56
========== ==========
The accompanying notes to financial statements are an integral part of this
statement.
- - --------------------------------------------------------------------------------------------------------------------------
</TABLE>
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<TABLE>
<CAPTION>
CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME Harris Trust and Savings Bank and Subsidiaries
- - --------------------------------------------------------------------------------------------------------------
Quarter Ended March 31
-----------------------------
(in thousands) 1998 1997
- - --------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Net income $ 36,768 $ 25,617
Other comprehensive income:
Unrealized gains on available-for-sale securities:
Unrealized holding gains/(losses) arising during period,
net of tax expense/(benefit) of $1,698 in 1998 and
($23,384) in 1997 2,636 (35,448)
Less reclassification adjustment for gains included in net
income, net of tax expense of $3,142 in 1998 and $470
in 1997 (4,822) (713)
------------- ------------
Other comprehensive income (loss) (2,186) (36,161)
------------- ------------
Comprehensive income (loss) $ 34,582 $ (10,544)
============= ============
</TABLE>
The accompanying notes to financial statements are an integral part of
this statement.
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<PAGE> 15
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENT OF CONDITION Harris Trust and Savings Bank and Subsidiaries
- - -------------------------------------------------------------------------------------------------------------------------
March 31 December 31 March 31
(in thousands except share data) 1998 1997 1997
- - -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
ASSETS
Cash and demand balances due from banks $ 1,038,828 $ 1,251,609 $ 1,594,577
Money market assets:
Interest-bearing deposits at banks 290,921 598,062 620,847
Federal funds sold and securities purchased under agreement to resell 82,000 71,725 447,375
Trading account assets 45,783 53,209 44,234
Portfolio securities available-for-sale 4,266,201 3,879,399 3,674,321
Loans 8,716,586 8,088,060 8,493,031
Allowance for possible loan losses (101,318) (99,678) (110,978)
Net loans 8,615,268 7,988,382 8,382,053
Premises and equipment 231,984 231,594 198,587
Customers' liability on acceptances 46,688 46,480 66,859
Assets held for sale - 725,760 -
Goodwill and other valuation intangibles 266,411 279,897 292,918
Other assets 813,909 673,810 538,955
-------------- ------------- -------------
TOTAL ASSETS $ 15,697,993 $ 15,799,927 $ 15,860,726
============== ============= =============
LIABILITIES
Deposits in domestic offices - noninterest-bearing $ 2,674,863 $ 3,665,951 $ 3,394,790
- interest-bearing 5,585,785 5,233,744 4,838,244
Deposits in foreign offices - noninterest-bearing 18,701 18,431 54,391
- interest-bearing 1,284,496 1,741,459 1,935,401
-------------- ------------- -------------
Total deposits 9,563,845 10,659,585 10,222,826
Federal funds purchased and securities sold under agreement to repurchase 3,599,510 2,693,600 2,896,616
Other short-term borrowings 2,666 501,026 41,068
Senior notes 468,000 100,000 950,000
Acceptances outstanding 46,688 46,480 66,859
Accrued interest, taxes and other expenses 120,044 118,257 126,399
Other liabilities 72,947 76,548 77,146
Minority interest- preferred stock of subsidiary 250,000 - -
Long-term notes 325,000 325,000 310,000
-------------- ------------- -------------
TOTAL LIABILITIES 14,448,700 14,520,496 14,690,914
-------------- ------------- -------------
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 592,461 601,027 600,566
Retained earnings 554,030 573,416 519,518
Accumulated other comprehensive income - unrealized gains on securities
available-for-sale, net of deferred taxes of $1,827 in 1998, $3,271
and ($33,162) in 1997 2,802 4,988 (50,272)
-------------- ------------- -------------
TOTAL STOCKHOLDER'S EQUITY 1,249,293 1,279,431 1,169,812
-------------- ------------- -------------
TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY $ 15,697,993 $ 15,799,927 $ 15,860,726
=============== ============= =============
The accompanying notes to financial statements are an integral part of this statement.
- - -------------------------------------------------------------------------------------------------------------------------
</TABLE>
Page 14
<PAGE> 16
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENT OF CASH FLOWS Harris Trust and Savings Bank and Subsidiaries
- - ---------------------------------------------------------------------------------------------------------------------------
(in thousands) Quarter Ended March 31
-----------------------------
1998 1997
- - ---------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
OPERATING ACTIVITIES:
Net income $ 36,768 $ 25,617
Adjustments to reconcile net income to net cash (used) provided by operating activities:
Provision for loan losses 4,991 15,445
Depreciation and amortization, including intangibles 14,754 14,212
Deferred tax expense (benefit) 5,766 (1,254)
Gain on sales of portfolio securities (7,964) (1,183)
Gain on sale of credit card portfolio (12,000) -
Trading account net sales 7,426 66,121
Net decrease in interest receivable 20,912 6,367
Net increase in interest payable 10,315 944
Net (increase) decrease in loans held for resale (64,587) 19,924
Other, net (29,298) (9,156)
------------- ------------
Net cash used (provided) by operating activities (12,917) 137,037
------------- ------------
INVESTING ACTIVITIES:
Net decrease in interest-bearing deposits at banks 307,141 37,340
Net increase in Federal funds sold and securities purchased under agreement to resell (10,275) (131,100)
Proceeds from sales of securities available-for-sale 961,345 155,317
Proceeds from maturities of securities available-for-sale 3,521,305 2,094,342
Purchases of securities available-for-sale (4,865,118) (3,223,481)
Net increase in loans (534,693) (378,650)
Proceeds from sales of premises and equipment 11,967 2,980
Purchases of premises and equipment (23,921) (19,465)
Other, net (155,172) 80,177
------------- ------------
Net cash used by investing activities (787,421) (1,382,540)
------------- ------------
FINANCING ACTIVITIES:
Net (decrease) increase in deposits (1,095,740) 496,621
Net increase in Federal funds purchased and securities sold under agreement to repurchase 905,910 904,550
Net decrease in short-term borrowings (498,361) (303,304)
Proceeds from issuance of senior notes 2,448,000 1,230,000
Repayment of senior notes (2,080,000) (630,000)
Proceeds from the sale of the credit card portfolio 722,748 -
Proceeds from issuance of preferred stock of subsidiary 250,000 -
Cash dividends paid on common stock (65,000) (12,400)
------------- ------------
Net cash provided by financing activities 587,557 1,685,467
------------- ------------
NET (DECREASE) INCREASE IN CASH AND DEMAND BALANCES DUE FROM BANKS (212,781) 439,964
CASH AND DEMAND BALANCES DUE FROM BANKS AT JANUARY 1 1,251,609 1,154,613
------------- ------------
CASH AND DEMAND BALANCES DUE FROM BANKS AT MARCH 31 $ 1,038,828 $ 1,594,577
============= ============
The accompanying notes to financial statements are an integral part of this statement.
- - --------------------------------------------------------------------------------------------------------------------------
</TABLE>
Page 15
<PAGE> 17
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDER'S EQUITY Harris Trust and Savings Bank and Subsidiaries
- - --------------------------------------------------------------------------------------------------------------------------
(in thousands) 1998 1997
- - --------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
BALANCE AT JANUARY 1 $ 1,279,431 $ 1,192,567
Net income 36,768 25,617
Contributions to capital 280 189
Dividends - common stock (65,000) (12,400)
Other comprehensive income (loss), net of tax (2,186) (36,161)
------------- -------------
BALANCE AT MARCH 31 $ 1,249,293 $ 1,169,812
============= =============
The accompanying notes to financial statements are an integral part of this statement.
- - --------------------------------------------------------------------------------------------------------------------------
</TABLE>
Page 16
<PAGE> 18
NOTES TO FINANCIAL STATEMENTS Harris Trust and Savings Bank and Subsidiaries
- - --------------------------------------------------------------------------------
1. BASIS OF PRESENTATION Harris Trust and Savings Bank and
Subsidiaries (the "Bank") is a wholly-owned subsidiary
of Harris Bankcorp, Inc., 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 years' 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 is a defendant 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
Statement of Cash Flows, cash and cash equivalents are
defined to include cash and demand balances due from
banks. Cash interest payments (net of any amounts
capitalized) for the three months ended March 31,
totaled $131,229,000 and $124,418,000 in 1998 and 1997,
respectively. Cash income tax payments over the same
periods totaled $4,872,000 and $362,000 respectively.
Page 17
<PAGE> 19
FINANCIAL REVIEW Harris Trust and Savings Bank and Subsidiaries
- - --------------------------------------------------------------------------------
FIRST QUARTER 1998
COMPARED WITH
FIRST QUARTER 1997
- - --------------------------------------------------------------------------------
SUMMARY The Bank's first quarter 1998 net income was $36.8 million, an
increase of $11.2 million from first quarter 1997. For the
current quarter, annualized return on average common
stockholder's equity was 11.70 percent compared to 8.60
percent in the first quarter of 1997. Annualized return on
average assets was 0.95 percent compared to 0.72 percent a
year ago. This quarter was affected by the January, 1998 sale
of the Bank's credit card portfolio resulting in a pretax gain
of $12.0 million. In addition, the Bank recognized a one-time
pretax charge of $5.6 million for certain process improvements
and system conversions, including write-offs of discontinued
systems.
First quarter net interest income on a fully taxable
equivalent basis was $98.1 million, down $9.4 million or 9
percent from $107.5 million in 1997's first quarter. At the
time of the January credit card sale, outstanding credit card
loans amounted to approximately $700 million, resulting in a
reduction in net interest income compared to first quarter
1997. Average earning assets rose 8 percent to $13.24 billion
from $12.27 billion in 1997, primarily attributable to
increases in portfolio securities available-for-sale and
average loans of $836 million and $132 million, respectively.
Excluding the credit card portfolio, average loans rose $1.05
billion or 15 percent. Commercial, installment and residential
real estate lending were all strong contributors to this
growth. Net interest margin declined to 3.00 percent from 3.55
percent in the same quarter last year. The decline in the net
interest margin primarily reflects the impact of the sale of
the credit card loans earlier this quarter.
The first quarter provision for credit losses of $5.0
million was down $10.4 million from $15.4 million in the first
quarter of 1997. Net charge-offs decreased from $12.9 million
to $3.4 million, primarily reflecting the sale of the credit
card portfolio.
Noninterest income increased $23.4 million to $93.9
million for first quarter 1998 from the same quarter last
year. During first quarter 1998, the Bank sold its credit card
portfolio resulting in a pretax gain of $12.0 million. The
$12.0 million gain on the sale was partially offset by
writedowns in the value of certain accounts in the portfolio
prior to sale in addition to lower credit card fees, together
amounting to $8.5 million. In the current quarter, service
charge fees rose by $3.4 million and trust and investment
management fees improved by $2.6 million compared to first
quarter 1997. Net gains from debt portfolio securities sales
were $8.0 million in the current quarter compared to $1.2
million a year ago. Foreign exchange income increased $0.8
million and trading income increased $0.6 million. Excluding
the effect of the writedown in the value of certain credit
card accounts, other income including syndication fees, gains
from mortgage sales, foreign fees, income from bank-owned life
insurance and other miscellaneous items, increased $5.7
million over the previous year.
First quarter 1998 noninterest expenses of $128.8
million rose $7.3 million from first quarter last year.
Excluding the one-time cost for restructuring charges of $5.6
million, total expenses increased $1.7 million or 1 percent
compared to a year ago. Income tax expense rose by 43 percent,
reflecting higher pretax income.
Nonperforming assets at March 31, 1998 were $18
million or 0.2 percent of total loans, compared to $8 million
or 0.1 percent at December 31, 1997, and $25 million or 0.3
percent a year ago. At March 31, 1998, the allowance for
possible loan losses was $101 million, equal to 1.2 percent of
loans outstanding, compared to $111 million or 1.3 percent at
the end of first quarter 1997. As a result, the ratio of the
allowance for possible loan losses to nonperforming assets
increased from 444 percent at March 31, 1997 to 561 percent at
March 31, 1998.
Page 18
<PAGE> 20
FINANCIAL REVIEW Harris Trust and Savings Bank and Subsidiaries
- - --------------------------------------------------------------------------------
FIRST QUARTER 1998
COMPARED WITH
FIRST QUARTER 1997 (CONTINUED)
- - --------------------------------------------------------------------------------
At March 31, 1998 equity capital of the Bank
amounted to $1.25 billion, down from $1.28 billion one
year earlier. The regulatory leverage capital ratio was
7.98 percent for the first quarter of 1998 compared to
6.59 percent in the same quarter of 1997. The Bank's
capital ratio exceeds the prescribed regulatory minimum
for banks. The Bank's March 31, 1998 Tier 1 and total
risk-based capital ratios were 8.70 percent and 11.72
percent compared to respective ratios of 7.19 percent
and 10.34 percent at March 31, 1997.
Page 19
<PAGE> 21
HARRIS PREFERRED CAPITAL CORPORATION
PART II OTHER INFORMATION
ITEMS 1, 2(A), 2(B), 2(C), 3, 4 AND 5 ARE BEING OMITTED FROM THIS REPORT BECAUSE
SUCH ITEMS ARE NOT APPLICABLE TO THE REPORTING PERIOD.
ITEM 2(D). USE OF PROCEEDS
On February 5, 1998, the effective date of the Company's Registration Statement
(Securities and Exchange Commission file number 333-40257), the Company offered
10,000,000 shares of its 7 3/8% Noncumulative Exchangeable Preferred Stock,
Series A (the "Preferred Shares"), par value $1.00 per share, for $25.00 per
share or an aggregate price of $250,000,000. All 10,000,000 of the Preferred
Shares were issued February 11, 1998 in exchange for $250,000,000 of gross
proceeds less $7,875,000 of underwriting discount and $970,584 of other expenses
(total expenses of $8,845,584), or $241,154,416 of net proceeds. Merrill Lynch
Pierce, Fenner & Smith Incorporated; Goldman, Sachs & Co.; PaineWebber
Incorporated; Prudential Securities Incorporated; Smith Barney, Inc.; and
Nesbitt Burns Securities Inc. ("NBSI") served as the managing underwriters.
NBSI, an affiliate of the Bank, received underwriting fees totaling $787,500.
Concurrent with the issuance of the Preferred Shares, the Bank contributed
additional capital of $249,999,000 to the Company, bringing total common equity
to $250,000,000. The Company used the net proceeds of the Preferred Share
issuance and the capital contributed by the Bank to purchase $356,000,000 of
Notes from the Bank and $135,456,349 face value of mortgage-backed securities
from the Bank at their estimated fair value of $134,440,426.
ITEM 6. (A) EXHIBITS:
*3(a)(i) Articles of Incorporation of the Company
*3(a)(ii) Form of Articles of Amendment and Restatement of the
Company establishing the Series A Preferred Shares
*3(b) Bylaws of the Company
*4 Specimen of certificate representing Series A
Preferred Shares
*10(a) Form of Servicing Agreement between the Company and
the Bank
*10(b) Form of Advisory Agreement between the Company and
the Bank
*10(c) Form of Bank Loan Agreement between the Company and
the Bank
*10(d) Form of Mortgage Loan Assignment Agreement between
the Company and the Bank
27 Financial Data Schedule
*Incorporated by reference to the exhibit of the same number filed with
the Company's Registration Statement on Form S-11 (Securities and
Exchange Commission file number 333-40257)
(B) REPORTS ON FORM 8-K:
None
Page 20
<PAGE> 22
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
14th day of May, 1998.
/s/
-----------------------------
Michael D. Williams
Chairman of the Board
/s/
-----------------------------
Pierre O. Greffe
Chief Financial Officer
/s/
-----------------------------
Paul R. Skubic
President
Page 21
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-02-1998
<PERIOD-END> MAR-31-1998
<CASH> 590
<SECURITIES> 133,187
<RECEIVABLES> 348,960
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 492,332
<PP&E> 0
<DEPRECIATION> 0
<TOTAL-ASSETS> 492,332
<CURRENT-LIABILITIES> 151
<BONDS> 0
0
250,000
<COMMON> 1
<OTHER-SE> 242,180
<TOTAL-LIABILITY-AND-EQUITY> 492,332
<SALES> 0
<TOTAL-REVENUES> 4,365
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 172
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 4,193
<INCOME-TAX> 0
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 4,193
<EPS-PRIMARY> 1,632
<EPS-DILUTED> 1,632
</TABLE>
