<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 8-K
CURRENT REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
Date of Report (Date of earliest event reported) Not applicable
DONALDSON, LUFKIN & JENRETTE, INC.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware
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(State or other jurisdiction of incorporation or organization)
1-6862 13-1898818
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(Commission File Number) (I.R.S. Employer
Identification No.)
277 Park Avenue, New York, New York 10172
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(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code: (212) 892-3000
<PAGE>
Item 5. Other Events
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Selected Consolidated Financial Data for each of the years in the
five-year period ended December 31, 1998; the consolidated financial statements
of Donaldson, Lufkin & Jenrette, Inc. and subsidiaries as of December 31, 1998
and 1997 and for each of the years in the three-year period ended December 31,
1998, together with the related notes and the report of KPMG LLP, independent
certified public accountants; and Management's Discussion and Analysis of
Results of Operations for the years ended December 31, 1998 and 1997 are filed
as an exhibit hereto and incorporated by reference.
Item 7. Financial Statements, Pro Forma Financial Information and Exhibits
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(c) Exhibit
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Exhibit 23 Consent of KPMG LLP.
Exhibit 99 Selected Consolidated Financial Data for each of the years in
the five-year period ended December 31, 1998; the consolidated
financial statements of Donaldson, Lufkin & Jenrette, Inc. and
subsidiaries as of December 31, 1998 and 1997 and for each of
the years in the three-year period ended December 31, 1998,
together with the related notes and the report of KPMG LLP,
independent certified public accountants; and Management's
Discussion and Analysis of Results of Operations for the years
ended December 31, 1998 and 1997.
<PAGE>
SIGNATURE
---------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this Report to be signed on its behalf by the
undersigned hereunto duly authorized.
Donaldson, Lufkin & Jenrette, Inc.
/s/ Anthony F. Daddino
-------------------------------------
Anthony F. Daddino
Executive Vice President and
Chief Financial Officer
March 16, 1999
<PAGE>
EXHIBIT INDEX
Sequentially
Exhibit Numbered
Number Exhibit Page
- ------ ------- ----
23 Consent of KPMG LLP.
99 Selected Consolidated Financial Data for each of the
years in the five-year period ended December 31, 1998;
the consolidated financial statements of Donaldson,
Lufkin & Jenrette, Inc. and subsidiaries as of December
31, 1998 and 1997 and for each of the years in the
three-year period ended December 31, 1998, together with
the related notes and the report of KPMG LLP, independent
certified public accountants; and Management's Discussion and
Analysis of Results of Operations for the years ended
December 31, 1998 and 1997.
<PAGE>
Consent of Independent Certified Public Accountants
---------------------------------------------------
The Board of Directors and Shareholders
Donaldson, Lufkin & Jenrette Inc.:
We consent to incorporation by reference in registration statements,
No. 333-65681, on Form S-8, No. 333-53499, on Form S-3, and No. 333-73405,
on Form S-3, of our report dated February 2, 1999, relating to the consolidated
statements of financial condition of Donaldson, Lufkin & Jenrette Inc. and
subsidiaries as of December 31, 1998 and 1997, and the related consolidated
statements of income, changes in stockholders' equity, and cash flows for each
of the years in the three-year period ended December 31, 1998, which report
appears in the December 31, 1998, annual report on Form 8-K of Donaldson,
Lufkin & Jenrette Inc.
/s/ KPMG LLP
New York, New York
March 16, 1999
<PAGE>
SELECTED CONSOLIDATED FINANCIAL DATA
<TABLE>
<CAPTION>
Years Ended December 31,
1998 1997 1996 1995 1994
-------- -------- -------- -------- --------
(In millions, except share and per share data)
<S> <C> <C> <C> <C> <C>
Income Statement Data:
Revenues
Commissions ................. $ 854.7 $ 690.2 $ 573.3 $ 460.2 $ 376.1
Underwritings ............... 1,077.7 905.6 755.6 473.3 290.7
Fees ........................ 1,191.7 767.3 470.0 369.1 281.3
Interest, net (1) ........... 2,189.1 1,652.1 1,074.2 904.1 791.9
Principal transactions-net:
Trading ................... (92.8) 363.2 394.0 333.1 136.1
Investment ................ 126.0 194.5 163.0 163.7 97.6
Other ....................... 60.6 67.6 60.7 55.1 35.0
---------- ---------- ---------- ---------- ----------
Total revenues .......... 5,407.0 4,640.5 3,490.8 2,758.6 2,008.7
---------- ---------- ---------- ---------- ----------
Costs and Expenses
Compensation and benefits .. 2,231.7 1,908.2 1,538.8 1,261.4 897.8
Compensation expense-
Restricted stock units ... - - - 6.2 -
Interest ................... 1,455.9 1,153.2 733.2 680.6 503.8
Brokerage, clearing, exchange
fees and other ........... 258.6 231.4 201.3 168.1 135.6
Occupancy and equipment ..... 269.9 189.9 159.3 127.1 90.1
Communications .............. 89.8 64.0 53.7 42.8 36.6
Other operating expenses .... 500.6 432.7 330.7 173.9 139.8
---------- ---------- ---------- ---------- ----------
Total costs and expenses 4,806.5 3,979.4 3,017.0 2,460.1 1,803.7
---------- ---------- ---------- ---------- ----------
Income before provision for
Income taxes ............... 600.5 661.1 473.8 298.5 205.0
Provision for income taxes .... 229.7 252.8 182.5 119.4 82.0
---------- ---------- ---------- ---------- ----------
Net income .................... $ 370.8 $ 408.3 $ 291.3 $ 179.1 $ 123.0
========== ========== ========== ========== ==========
Dividends on preferred stock .. $ 21.3 $ 12.2 $ 18.7 $ 19.9 $ 21.0
========== ========== ========== ========== ==========
Earnings applicable to
Common shares ............... $ 349.5 $ 396.1 $ 272.6 $ 159.2 $ 102.0
========== ========== ========== ========== ==========
Weighted average common
Shares outstanding (2):
Basic .................... 119,260 110,318 106,600 101,140 100,000
========== ========== ========== ========== ==========
Diluted .................. 131,980 125,498 118,712 103,160 102,950
========== ========== ========== ========== ==========
Earnings per common share (2):
Basic .................... $ 2.93 $ 3.59 $ 2.56 $ 1.58 $ 1.02
========== ========== ========== ========== ==========
Diluted .................. $ 2.65 $ 3.16 $ 2.30 $ 1.55 $ .99
========== ========== ========== ========== ==========
</TABLE>
1
<PAGE>
<TABLE>
<CAPTION>
Years Ended December 31,
1998 1997 1996 1995 1994
-------- -------- -------- -------- --------
(In millions, except share and per share data and financial ratios)
<S> <C> <C> <C> <C> <C>
Balance Sheet Data (at end of period):
Securities purchased under
agreements to resell and
securities borrowed.............. $ 44,031.0 $ 43,227.4 $ 29,954.2 $ 27,793.1 $ 19,166.9
Total assets....................... 72,282.2 70,505.8 55,503.7 44,576.5 33,261.6
Securities sold under agreements
to repurchase and securities 43,097.8 43,694.1 32,103.1 29,369.0 20,385.4
loaned..........................
Long-term borrowings............... 3,482.0 2,128.2 1,325.4 958.9 539.9
Redeemable preferred stock ........ 200.0 200.0 200.0 225.0 225.0
Stockholders' equity .............. 2,927.7 2,061.5 1,647.2 1,198.7 820.3
Other Financial Data (at end of period):
Book value per common share
outstanding...................... $ 20.44 $ 15.72 $ 12.40 $ 10.25 $ 8.21
Ratio of net assets to
stockholders' equity (3)........ 9.6x 13.2x 15.51x 14.00x 17.18x
Ratio of long-term borrowings
to total capitalization (4)...... 0.52 0.48 0.40 0.37 0.30
Return on average equity (5)....... 16.5% 24.1% 20.6% 17.1% 13.1%
Ratio of earnings to fixed charges. 1.13x 1.16x 1.16x 1.11x 1.10x
Ratio of earnings to combined
fixed charges and preferred
stock dividends (6)............. 1.13x 1.16x 1.16x 1.10x 1.09x
</TABLE>
(1) Interest is net of interest expense to finance U.S. government, agency and
mortgage-backed securities of $3.0 billion, $2.9 billion, $2.1 billion,
$2.0 billion and $1.6 billion, respectively.
(2) Basic earnings per common share amounts have been calculated by dividing
earnings applicable to common shares (net income less preferred dividends)
by the weighted average common shares outstanding i.e., excluding the
effect of potentially dilutive securities. Diluted earnings per common
share also include the dilutive effects of common stock issuable under the
Restricted Stock Unit Plan and the dilutive effect of options and
convertible debt under the treasury stock method and "if-converted" method,
respectively.
The weighted average common shares outstanding and earnings per common
share amounts are pro forma for the year ended December 31, 1994. Pro forma
diluted earnings per common share are calculated by dividing earnings
applicable to common shares (net income less preferred dividends), by the
pro forma weighted average number of diluted common shares outstanding. Pro
forma common shares outstanding represent actual historical shares
outstanding adjusted for the dilutive effect of the Restricted Stock Units
(RSUs) using the treasury stock method.
(3) Net assets are total assets excluding securities purchased under agreements
to resell and securities borrowed.
(4) Long-term borrowings and total capitalization (the sum of long-term
borrowings, preferred stock and stockholders' equity) exclude current
maturities (one year or less) of long-term borrowings.
(5) After payment of dividends on the Company's preferred stock.
(6) For the purpose of calculating the ratio of earnings to combined fixed
charges and preferred stock dividends (i) earnings consist of income before
the provision for income taxes and fixed charges and (ii) fixed charges
consist of interest expense and one-third of rental expense which is deemed
representative of an interest factor.
2
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
BUSINESS ENVIRONMENT
The Company's principal business activities, investment and merchant
banking, securities sales and trading and correspondent brokerage services are,
by their nature, highly competitive and subject to general market conditions,
volatile trading markets and fluctuations in the volume of market activity.
Consequently, the Company's net income and revenues have been and are likely to
continue to be, subject to wide fluctuations, reflecting the impact of many
factors beyond the Company's control including the state of the global economy,
securities market conditions, the level and volatility of interest rates,
competitive conditions and the size and timing of transactions.
The unprecedented volatility in the global capital markets in 1998 had
a significant negative impact on revenue and net earnings in the financial
services industry. The collapse of the Russian economy in mid-year and the
economic conditions in Japan, Asia and in worldwide emerging markets led to the
widespread sell-off of fixed income and equity securities throughout the world.
After the Russian crisis, there was a flight to quality resulting in increased
purchases of U.S. government securities and larger spreads between these and
almost all other fixed income securities. In the U.S. these conditions
diminished liquidity and greatly reduced fixed income and equity underwriting.
The effect was particularly damaging in the high yield sector and emerging
markets. These same conditions negatively impacted fixed income and equity
markets worldwide which resulted in efforts by the Federal Reserve Bank to
restore liquidity to the capital markets by cutting interest rates three times
in the latter stages of 1998. The investment climate improved so that most
market indices rebounded into positive returns.
Although the merger market was also impacted by the global market
turmoil in the third quarter, worldwide merger and acquisition activity
increased 54% over 1997. Equity and high yield underwriting declined
significantly during the third and fourth quarters due to extreme market
volatility and illiquidity. Initial public offering ("IPO") activity declined
for the second consecutive year.
RESULTS OF OPERATIONS
Year Ended December 31, 1998 Compared to Year Ended December 31, 1997
For 1998, total revenues of $5.4 billion increased $766.6 million or
16.5%. During 1998, revenues increased primarily as a result of increases in
commissions, fees, underwriting revenues and net interest income offset in part
by decreases in trading and investment gains. Changes in net revenues from
external sources for each of the Company's industry segments were: Banking Group
revenues increased by $271.3 million primarily as a result of increased
underwriting and fees; Capital Markets Group revenues decreased by $17.6 million
principally as a result of decreased trading revenues in fixed income offsetting
increases in commissions and underwriting revenues in institutional equities and
fixed income; Financial Services Group revenues increased $185.4 million
primarily as a result of increased brokerage and correspondent clearance
commissions and fees from asset management activities. Net revenues in 1998
include $5.0 million related to the Emerging Markets Group. This represents a
decrease of $112.8 million from net revenues in 1997 as a result of losses
incurred primarily from the collapse of the Russian economy. The Company ceased
its proprietary trading in emerging markets in September 1998 and eliminated the
bulk of its trading positions during the fourth quarter of 1998.
Commission revenues increased $164.5 million or 23.8% to $854.7 million
due to increased levels of activity in virtually all business groups. This
increase is consistent with the increased volume on major exchanges during the
year.
Underwriting revenues increased $172.1 million or 19.0% to $1,077.7
million. During 1998, the Company experienced market share increases in equity,
convertibles and high yield underwriting.
Fee revenues increased $424.4 million or 55.3% to $1,191.7 million.
These results primarily reflect the Company's continuing market share growth in
merger and acquisition advisory services. During 1998, asset management and
other advisory service activities also increased.
Interest, net of interest expense to finance U.S. government, agency
and mortgage-backed securities, increased $537.0 million or 32.5% to $2,189.1
million. The bulk of the increase occurred in the stock loan/borrowed business.
In addition, increases in domestic and foreign margin balances and higher levels
of foreign fixed income securities, primarily in the Emerging Markets area prior
to the Company's withdrawal from that activity, resulted in increases in
interest income.
3
<PAGE>
Principal transactions-net, trading revenues decreased by $456.0
million or 125.5% to $(92.8) million primarily in the Emerging Markets and High
Yield areas.
Principal transactions-net, investment revenues decreased $68.5 million
or 35.2% to $126.0 million. The decrease is primarily due to a lower amount of
realized gains from securities sold coupled with a reduced increase in fair
value of investments remaining in the portfolio, as a result of volatile market
conditions throughout the year, but in particular during the second half of the
year. In 1998, realized gains on sales of investments were $117.1 million, net
unrealized carrying values increased $8.9 million, including $5.6 million to
eliminate net unrealized depreciation on investments sold, and a $3.3 million
increase in net unrealized appreciation on retained investments.
Other revenues decreased $7.0 million or 10.3% to $60.6 million. Other
revenues consist primarily of dividends and miscellaneous transaction revenues.
Total costs and expenses for 1998 increased $827.2 million or 20.8% to
$4,806.5 million. During 1998, the Company started a non-dollar international
equities group, expanded its Banking Group in the U.S. and internationally,
established a high-yield business in London and generally increased capacity in
its processing oriented businesses to handle significantly increased levels of
activity.
Compensation and benefits increased $323.5 million or 17.0% to $2,231.7
million. Incentive and production-related compensation increased 9.0%. Base
compensation, including benefits and all payroll taxes, increased by 40.0% due
to the hiring of more senior level executives by various business groups.
Full-time personnel increased 1,412 or 20.0% to 8,465 at year-end 1998.
Interest expense increased $302.7 million or 26.2% to $1,455.9 million.
Most of this increase was related to the financing of Pershing's domestic and
foreign stock loan/borrowed business.
As noted below, all other expenses increased $201.0 million or 21.9% to
$1,119.0 million.
Brokerage, clearing, exchange fees and other expenses increased $27.2
million due to increased share volume and transaction fee payments. Occupancy
and equipment costs increased $80.1 million as a result of the Company's
domestic and international expansion. Communications costs increased $25.8
million due to expanded facilities and the overall growth in professional staff.
All other operating expenses increased $67.9 million. These expenses include
professional fees, travel and entertainment, and printing and stationery, which
increased $61.7 million reflecting an overall increase in business activity and
including the costs for the Year 2000 project (see "Year 2000").
The changes in income before income taxes for each industry segment
were: Banking Group pre-tax income increased by $33.9 million, as a result of
increased profitability in the Company's investment and merchant banking
activities; Capital Markets Group pre-tax income decreased by $128.6 million due
to decreased trading revenues in the fixed income area and the investment
spending related to the development of a non-dollar international equities
business; Financial Services Group pre-tax income increased by $28.0 million as
a result of increased commissions and fees from the Company's correspondent
clearing and asset management businesses.
The Company's income tax provision for 1998 and 1997 was $229.7 million
and $252.8 million, respectively, which represented a 38.3% and 38.2% effective
tax rate for each period.
Net income for 1998 decreased $37.5 million or 9.2% to $370.8 million.
Using the treasury stock method diluted earnings per common share were $2.65 for
1998 and $3.16 for 1997.
Year Ended December 31, 1997 Compared to Year Ended December 31, 1996
For 1997, total revenues of $4,640.5 million increased $1,149.7 million
or 32.9%. During 1997, revenues increased in all of the Company's major areas of
activity. Changes in net revenues from external sources for each of the
Company's industry segments were: Banking Group revenues increased by $375.3
million primarily as a result of increased underwriting activity and fees;
Capital Markets Group revenues increased by $192.3 million principally as a
result of increased commission revenues in domestic equities and increased fixed
income underwriting revenues particularly in the high yield group; Financial
Services Group revenues increased $113.2 million primarily as a result of an
increase in commissions and fees from asset management activities.
Commission revenues increased $116.8 million or 20.4% to $690.2 million
due to increased business in all areas. This increase is generally consistent
with the overall growth in listed share volume on major equity exchanges.
4
<PAGE>
Underwriting revenues increased $150.0 million or 19.8% to $905.6
million. During 1997, the Company experienced increases in all areas of
underwriting.
Fee revenues increased $297.3 million or 63.3% to $767.3 million.
Overall, revenue from merger and acquisition, private placements and other
advisory services activities increased during 1997. In 1997, private equity
capital raised for other investment organizations increased. In addition, fees
from the Company's asset management group increased due to an increase in assets
under management from $5.6 billion at year-end 1996 to $12.0 billion at year-end
1997.
Interest, net of interest expense to finance U.S. government, agency
and mortgage-backed securities, increased $577.9 million or 53.8% to $1,652.1
million. This increase was driven by higher levels of foreign fixed-income
financing instruments in the Company's newly-acquired London Global Securities
division and higher interest rates earned in the emerging markets business. The
remaining increase was due to higher levels of inventory in the Fixed Income
Division and increased customer margin balances at Pershing.
Principal transactions-net, trading revenues decreased $30.8 million or
7.8% to $363.2 million.
Principal transactions-net, investment revenues increased $31.6 million
or 19.4% to $194.5 million. During 1997, realized gains on sales of investments
were $160.0 million. Net unrealized carrying values increased $34.5 million,
including $45.6 million to eliminate net unrealized depreciation on investments
sold and a $11.1 million increase in net unrealized depreciation on retained
investments.
Other revenues increased $6.9 million or 11.4% to $67.6 million due to
increased revenue sharing arrangements at Pershing. Other revenues consist
primarily of dividends and miscellaneous transaction revenues.
Total costs and expenses for 1997 increased $962.4 million or 31.9% to
$3,979.4 million.
Compensation and benefits increased $369.4 million or 24.0% to $1,908.2
million. Most of the increase was due to increased variable incentive and
production-related compensation, which resulted from higher revenues and
operating results. Base compensation, including benefits and payroll taxes,
increased by 28.2% due to expansion in various business groups, consistent with
the growth of the Company's international businesses. Incentive and
production-related compensation increased 22.6%. Full-time personnel increased
1,168 or 19.8% to 7,053 at year-end 1997.
Interest expense increased $420.0 million or 57.3% to $1,153.2 million.
Most of this increase was related to expanded levels of inventory of
fixed-income related products in the Real Estate Finance department and as a
result of the London Global Securities acquisition.
As noted below, all other expenses increased $173.0 million or 23.2% to
$918.0 million.
Brokerage, clearing, exchange fees and other expenses increased $30.1
million due to increased share volume, underwriting expenses and transaction fee
payments. Occupancy and equipment costs increased $30.6 million as a result of
the full-year impact of the firm's relocation and expansion of the Company's
principal office in the U.S. and other domestic and international offices.
During the fourth quarter of 1997, the Company moved its principal London
operations to a new and expanded location. Communications costs increased $10.3
million due to expanded facilities and growth in professional staff. All other
operating expenses increased $102.0 million. These expenses include data
processing, professional fees, travel and entertainment, and printing and
stationery, which increased $110.5 million reflecting an overall increase in
business activity and costs for the Year 2000 project (see "Year 2000").
Increased advertising expenses relate primarily to a major national print,
television and online advertising campaign on behalf of DLJdirect, the Company's
online investing broker. This increase was offset by lower expenses on
previously underwritten mortgage-related securities, the assets of which were
sold in the fourth quarter of 1997.
The changes in income before income taxes for each industry segment
were: the Banking Group pre-tax income increased $116.0 million primarily as a
result of increased profits in the investment banking area; Capital Markets
Group pre-tax income increased $48.4 million as a result of increased
underwritings in the high yield area offset by losses in institutional equities;
and Financial Services Group pre-tax income increased $15.4 million due to
increased commissions and fees from the Company's asset management activities.
The Company's income tax provision for 1997 and 1996 was $252.8 million
and $182.5 million, respectively, which represented a 38.2% and 38.5% effective
tax rate for each period.
5
<PAGE>
Net income for 1997 rose $117.0 million or 40.1% to $408.3 million.
Using the treasury stock method diluted earnings per common share were $3.16 for
1997 and $2.30 for 1996.
LIQUIDITY AND CAPITAL RESOURCES
The Company's assets are highly liquid with the majority consisting of
securities inventories and collateralized receivables, both of which fluctuate
depending on the levels of proprietary trading and customer business. The
collateralized receivables consist primarily of resale agreements and securities
borrowed, both of which are secured by U.S. government and agency securities,
marketable corporate debt and equity securities. In addition, the Company has
significant receivables that turn over frequently from customers, brokers and
dealers. To meet client needs, as a securities dealer, the Company may carry
significant levels of trading inventories. As such, because of changes in
customer needs, economic and market conditions and proprietary trading
strategies, the Company's total assets or the components of total assets vary
significantly from period to period. A relatively small percentage of total
assets is fixed or held for a period of longer than one year. At December 31,
1998 and 1997, the Company's total assets were $72.3 billion and $70.5 billion,
respectively.
The majority of the Company's assets are financed through daily
operations by repurchase agreements, securities sold not yet purchased,
securities loaned, bank loans, and payables to brokers and dealers. Short-term
funding is generally obtained at rates related to Federal funds, LIBOR and money
market rates. Depending upon prevailing market conditions, other borrowing costs
are negotiated. The Company monitors overall liquidity by tracking the extent to
which unencumbered marketable assets exceed short-term unsecured borrowings.
During 1998, the Company amended its $2.0 billion revolving credit
facility to increase the aggregate commitment of banks thereunder to $2.8
billion, of which $1.7 billion may be unsecured. There were no borrowings
outstanding under this agreement at December 31, 1998.
Certain of the Company's businesses are capital intensive. In addition
to normal operating requirements, capital is required to cover financing and
regulatory requirements on securities inventories, merchant banking investments
and investments in fixed assets. The Company's overall capital needs are
continually reviewed to ensure that its capital base can appropriately support
the anticipated needs of its business units as well as the regulatory capital
requirements of subsidiaries. Based upon these analyses, management believes
that the Company's debt and equity base is adequate for current operating
levels. During 1998, the Company has been active in raising additional long-term
financing, including the issuance of $650.0 million 6 1/2% Senior Notes, $250.0
million 6% Senior Notes and $350.0 million medium-term notes. In the third
quarter of 1998, a subsidiary of the Company issued non-recourse Senior Secured
and Senior Subordinated Secured Floating Rate Notes in the principal amounts of
$200.0 million and $250.0 million due March 15, 2005 and September 15, 2005,
respectively. At December 31, 1998, a portfolio of investments, primarily senior
bank debt valued at $441.0 million, collateralizes the non-recourse notes. In
addition, in May 1998, the Company repaid its $325.0 million senior subordinated
revolving credit agreement and terminated the related credit facility.
In January 1998, the Company issued 3.5 million shares of
Fixed/Adjustable Rate Cumulative Preferred Stock, Series B, with a liquidation
preference of $50.00 per share ($175.0 million aggregate liquidation value).
In January 1998, the Company commenced a $1.0 billion commercial paper
program. Obligations issued thereunder (the "Notes") are exempt from
registration under the Securities Act of 1933, as amended under Section 4(2)
("the Securities Act."). The Notes rank pari passu with the Company's other
unsecured and unsubordinated indebtedness. At December 31, 1998, $30.9 million
of Notes were outstanding under this program.
In July 1998, the Company sold an aggregate of five million shares of
newly issued common stock to its parent companies, Equitable and AXA for $300.0
million in a transaction exempt from the registration requirements of the
Securities Act.
The Company's current credit ratings of its long-term debt and
commercial paper are as follows:
Long-Term Debt Commercial Paper
-------------- ---------------
Duff & Phelps A D-1
Fitch IBCA A F-1
Moody's A3 P-2
Standard & Poors A- A-2
Thomson Bank Watch A+ TBW-1
6
<PAGE>
The Company's principal wholly owned subsidiary, Donaldson, Lufkin &
Jenrette Securities Corporation ("DLJSC") is subject to the capital requirements
of the Securities and Exchange Commission, the New York Stock Exchange, Inc.,
the Commodities Futures Trading Commission and the Chicago Board of Trade, all
of which regulate the general capital adequacy and liquidity of broker-dealers
and/or futures commission merchants. DLJSC has consistently maintained capital
substantially in excess of the minimum requirements of such capital rules. At
December 31, 1998, DLJSC had aggregate regulatory "net capital," after
adjustments required by Rule 15c3-1 under the Exchange Act, of approximately
$1.2 billion, which exceeded minimum net capital requirements by approximately
$1.1 billion and which exceeded the net capital required by DLJSC's most
restrictive debt covenants by $777.0 million. Certain of the Company's
London-based broker-dealer subsidiaries are subject to the requirements of the
Securities and Futures Authority, a self-regulatory organization established
pursuant to the United Kingdom Financial Services Act of 1986. Other U.S. and
foreign broker-dealer subsidiaries of the Company are subject to net capital
requirements of their respective regulatory agencies. At December 31, 1998, the
Company and its broker-dealer subsidiaries were in compliance with all
applicable regulatory capital adequacy requirements.
The Company's overall capital and funding needs are continually
reviewed to ensure that its capital base can support the estimated needs of its
business units.
The Company continues to explore potential acquisition opportunities as
a means of expanding its business. Such opportunities may involve acquisitions
which are material in size and may require the raising of additional capital.
CASH FLOWS
Years Ended December 31, 1998, 1997 and 1996
At December 31, 1998, 1997 and 1996 cash and cash equivalents totaled
$1,049.3 million, $273.2 million and $158.8 million, respectively, an increase
of $776.1 million, $114.3 million and $51.1 million, respectively.
Cash used in operating activities totaled $2.4 billion, $5.3 billion
and $1.5 billion in 1998, 1997 and 1996, respectively. In 1998, there were
increases in assets including securities borrowed of $3.4 billion, receivables
from customers of $2.1 billion, and a decrease in financial instruments sold not
yet purchased of $1.5 billion. These changes were offset by an increase in
payables to customers of $1.8 billion and a decrease in financial instruments
owned of $3.3 billion. In 1997, securities borrowed increased $11.2 billion and
receivables from customers increased $1.2 billion. These increases in assets
were offset by increases in operating liabilities including securities loaned of
$5.0 billion, payables to customers of $1.2 billion and financial instruments
sold not yet purchased of $1.0 billion. In 1996, financial instruments owned
increased by $4.9 billion, receivables from brokers, dealers and other increased
by $2.3 billion, and receivables from customers increased by $0.8 billion. These
changes were offset by increases in financial instruments sold not yet purchased
of $2.7 billion, increases in payables to brokers, dealers and other of $2.5
billion and payables to customers of $1.3 billion.
In 1998, net cash used in investing activities of $334.0 million
consisted primarily of purchases to expand the Company's domestic and
international offices and net purchases of long-term corporate development
investments. In 1997 and 1996, net cash used in investing activities of $216.0
million and $107.0 million, respectively, consisted primarily of purchases to
move the Company's principal offices. Additionally, in 1997, cash was used for
the purchases of long-term corporate development investments. While in 1996 cash
was provided from the sales of long-term corporate development investments.
In 1998, 1997 and 1996, net cash provided by financing activities
totaled $3.5 billion, $5.6 billion, and $1.7 billion, respectively, of which
$1.7 billion, $4.9 billion and $1.2 billion, respectively, was provided by
short-term financings. In 1998, cash of $325.0 million was used to repay the
subordinated revolving credit agreement, while $893.6 million was provided by
issuing senior notes, $349.3 million was provided by issuing medium-term notes,
$450.0 million was provided by issuing senior secured floating rate notes,
$300.0 million was provided from the sale of Common Stock to Equitable/AXA, and
$175.0 million was provided by issuing Series B Preferred Stock. In 1997, $347.8
million was provided by issuing global floating-rate notes, $359.6 million was
provided by issuing medium-term notes and $118.5 million was provided by a
drawdown of the subordinated revolving credit agreement. In 1996, cash of $105.5
million was used to repay Swiss Franc Bonds, $249.5 million was provided by
issuing medium-term notes, $200.0 million was provided by issuing mandatorily
redeemable preferred securities by the Company's wholly owned Trust, and $200.0
million was provided by issuing Series A Fixed/Adjustable Rate Cumulative
Preferred Stock.
7
<PAGE>
DERIVATIVE FINANCIAL INSTRUMENTS
Derivatives are financial instruments, the payments on which are linked
to the prices, or relationships between prices, of securities or commodities,
interest rates, currency exchange rates or other financial measures
(collectively, "cash market instruments"). Derivatives enable the Company and
its clients to manage their exposure to interest rates and currency exchange
rates, and security and other price risks. Derivatives may include options,
forward and futures contracts and swaps. Certain types of derivatives, including
forwards and certain options, are traded in the over-the-counter ("OTC")
markets. Other types of derivatives, including futures contracts and listed
options, are traded on regulated exchanges. The Company uses derivatives
primarily to provide products to its clients, rather than to cover its own
positions.
The Company has focused its derivative activities on writing OTC
options contracts to accommodate its customers' needs, trading in forward
contracts in U.S. government and agency issued or guaranteed securities, trading
in futures contracts on equity-based indices, interest rate instruments, and
foreign currencies, and issuing structured products based on emerging market
financial instruments and indices.
Options:
The Company writes option contracts specifically designed to meet
customers' needs. Since the Company, not its counterparty, is obligated to
perform, the options do not expose the Company to credit risk. At the beginning
of the contract period, the Company receives a cash premium. During the contract
period, the Company bears the risk of unfavorable changes in the value of the
financial instruments underlying the options ("market risk"). To cover this
market risk, the Company purchases or sells cash or derivative financial
instruments on a proprietary basis. Such purchases and sales may include debt
and equity securities, forward and futures contracts and options. The
counterparties to these purchases and sales are reviewed to determine whether
they are creditworthy. Future cash requirements for options written equal the
fair value of the options. Option contracts are typically written for a duration
of less than 13 months and are included in the consolidated statements of
financial condition at fair value.
The notional (contract) value, or the market value for cash
instruments, of the written options was $5.1 billion at year-end 1998 and $5.4
billion at year-end 1997. These options contracts were covered by the following
financial instruments:
December 31,
1998 1997
------ ------
(In millions)
U.S. government, mortgage-backed
securities and options thereon........ $ 3,396 $ 3,773
Foreign sovereign debt securities....... 89 73
Forward rate agreements................. 38 -
Futures contracts....................... 76 219
Equities and other...................... 1,545 1,340
-------- --------
Total........................ $ 5,144 $ 5,405
======= =======
Forwards and Futures Trading:
The Company enters into forward purchases and sales contracts for
mortgage-backed securities and foreign currencies. In addition, the Company
enters into futures contracts on equity-based indices, foreign currencies and
other financial instruments as well as options on futures contracts. Forward and
futures contracts are treated as off-balance sheet items. Market risk is the
price movement on the notional value of the contracts.
For forward contracts, cash is generally not required at inception;
cash equal to the notional value on the contract is required at settlement. For
futures contracts, the original margin is required in cash at inception; cash
equal to the daily change in market value is required at settlement.
For the years ended December 31, 1998 and 1997, respectively the
average monthly fair values were approximately $(2.0) million and $(2.0) million
for forward contracts and $(23.0) million and $1.0 million for futures
contracts. At December 31, 1998 and 1997, respectively the receivables from or
payables to brokers, dealers and other captions in the Company's consolidated
statements of financial condition included net unrealized gains (losses) of
approximately $(6.0) million and $6.0 million related to
8
<PAGE>
forward contracts and approximately $3.0 million and $(2.0) million related to
futures contracts. For the years ended December 31, 1998, 1997 and 1996
unrealized gains and losses on forward and futures contracts are recorded in
earnings. Net trading gains (losses) on forward contracts were $7.0 million,
$(5.1) million and $39.0 million and net trading gains (losses) on futures
contracts were $(86.0) million, $(24.0) million and $8.0 million, respectively.
Off balance sheet values:
December 31,
1998 1997
------ ------
(In millions)
Forward Contracts:
Purchased at notional
(contract) value................. $ 41,254 $ 18,366
Sold at notional (contract)
value............................ $ 39,767 $ 27,028
Futures Contracts and Options on Future
Contracts:
Purchased at market value.......... $ 1,184 $ 988
Sold at market value............... $ 1,607 $ 2,767
Swaps
The notional (contract) value of swap agreements, consisting primarily
of interest rate and equity swaps, was approximately $8.0 billion and $686.9
million at December 31, 1998 and December 31, 1997, respectively. The notional
or contract amounts indicate the extent of the Company's involvement in the
derivative instruments noted above. They do not measure the Company's exposure
to market or credit risk and do not represent the future cash requirements of
such contracts.
MERCHANT BANKING AND BRIDGE LENDING ACTIVITIES
The Company's merchant banking activities include investments in
various partnerships, for which subsidiaries of the Company act as general
partner, as well as direct investments in connection with its merchant banking
activities. At December 31, 1998, in connection with these merchant banking
activities, the Company had investments of $380.7 million and had potential
commitments to invest up to an additional $718.0 million.
Equitable has committed, subject to approval by Equitable on a
transaction-by-transaction basis, to provide $750.0 million of subordinated debt
financing to the DLJ Bridge Fund. The Company has agreed to pay Equitable the
first $25.0 million of aggregate principal losses incurred by Equitable with
respect to all bridge loans. To the extent such payments by the Company do not
fully cover any such losses incurred by Equitable, Equitable is entitled to
receive all other distributions otherwise payable to the Company with respect to
DLJ Bridge Fund activities until such losses have been recovered. The Company
has also agreed to pay Equitable the amount, if any, by which any principal loss
on an individual loan exceeds $150.0 million. At December 31, 1998, the DLJ
Bridge Fund does not have any individual bridge loan outstanding in excess of
$150.0 million. At December 31, 1998, the DLJ Bridge Fund had extended $295.0
million of short-term bridge loans, which are expected to be refinanced in the
first quarter of 1999.
HIGH-YIELD AND NON-INVESTMENT GRADE SECURITIES
The Company underwrites, trades, sells and holds high-yield and
non-investment-grade securities. Non-investment-grade securities are securities
or loans to companies rated BB+ or lower as well as non-rated securities or
loans. Due to credit considerations, liquidity of secondary trading markets and
vulnerability to general economic conditions, these securities generally involve
greater risk than investment-grade holdings. During the third quarter, the
Company's high-yield and non-investment grade holdings were reduced in response
to the volatile market conditions. The Company ceased trading in its emerging
markets proprietary debt trading group in September 1998 and has made other
adjustments to lower its risk profile.
9
<PAGE>
The Company records high-yield securities at market value and records
non-investment grade holdings at market or fair value. Unrealized gains and
losses are recognized currently in earnings. Long and short holdings (excluding
derivatives and structured notes) are as follows:
1998 1997
---------------------- ----------------------
Long Short Long Short
---- ----- ---- ----
(in millions)
High-Yield................... $ 429.3 $ 345.3 $ 645.6 $ 389.6
Senior Bank Debt............. 1,261.6 - 864.1 -
Foreign Sovereign Debt....... 423.6 13.8 1,615.4 543.3
Mortgage Whole Loans ........ 722.3 - 1,555.7 -
Convertible Securities....... 460.6 8.0 534.8 3.1
Other Non-Investment Grade... 243.2 21.5 44.4 4.9
--------- ------- --------- -------
Totals............... $ 3,540.6 $ 388.6 $ 5,260.0 $ 940.9
========= ======= ========= =======
RISK MANAGEMENT
Exposure to risk and the ways in which the Company manages the various
types of risks on a day-to-day basis is critical to its survival and financial
success. Each day, the Company monitors its market and counterparty risk through
a number of control procedures designed to identify and evaluate the various
risks to which the Company is exposed. The Company has established an
Independent Risk Oversight function to oversee risk policies and risk monitoring
and management capabilities throughout the firm and coordinate the risk
management practices of the various business groups. This department is assisted
by a Risk Committee comprised of senior professionals from each of the operating
and key administrative groups.
To help senior management manage risk associated with investment
banking and merchant banking transactions the Company has established various
committees. These committees review potential clients and engagements, use
experience with similar clients and situations, analyze credit for certain
commitments and analyze the Company's potential role as a principal investor. To
control the risks associated with its banking activities, various committees
review the details of all transactions before accepting an engagement.
The Company has formed the following committees: the Fairness and
Valuation Opinion Committee, the Private Placement Committee, the Restructuring
Coordinating Committee, the Equity Commitment Committee, the High-Yield
Underwriting Committee, the Bridge Commitment Committee, the Banking Review
Committee, the Finance Committee and the Executive Committee.
From time to time, the Company invests in certain merchant banking
transactions or other long-term corporate development investments. DLJ's
Merchant Banking Group has established several investment entities, each of
which has formed its own investment committee. These committees decide on all
investments and dispositions with respect to potential and existing portfolio
companies. In addition, each quarter, senior officers of the Company meet to
review merchant banking and corporate development investments. After discussing
the financial and operational aspects of the companies involved, the senior
officers recommend carrying values for each investment to the Finance Committee.
The Finance Committee then reviews such recommendations and determines fair
value.
The Company often acts as principal in customer-related transactions in
financial instruments that expose the Company to market risks. The Company also
engages in proprietary trading and arbitrage activities and makes dealer markets
in equity securities, investment-grade corporate debt, high-yield securities,
U.S. government and agency securities, mortgages and mortgage-backed securities
and selected derivatives. As such, to facilitate customer order flow the Company
may be required to maintain certain amounts of inventories. The Company covers
its exposure to market risk by limiting its net long or short position by
selling or buying similar instruments and by using various derivative financial
instruments in the exchange-traded and OTC markets.
Position limits in trading and inventory accounts are established and
monitored continuously on an ongoing basis. Current and proposed underwriting,
corporate development, merchant banking and other commitments are subject to due
diligence reviews by senior management and by professionals in the appropriate
business and support units involved.
10
<PAGE>
Trading activities generally result in inventory positions. Each day,
position and exposure reports are prepared by operations staff in each of the
business groups engaged in trading activities for traders, trading managers,
department managers, division management and group management. These reports are
independently reviewed by the Company's corporate accounting group. The
corporate accounting group prepares a consolidated summarized position report
listing long and short exposure, and approved limits. The position report is
distributed to various levels of management throughout the Company, including
the Chief Executive Officer, and it enables senior management to control
inventory levels and monitor results of the trading groups. The Company also
reviews and monitors inventory aging, pricing, concentration and securities
ratings.
In addition to position and exposure reports the Company produces a
daily revenue report that summarizes the trading, interest, commissions, fees,
underwriting and other revenue items for each of the business groups. Daily
revenue is reviewed for various risk factors and is independently verified by
the corporate accounting group. The daily revenue report is distributed to
various levels of management throughout the Company, including the Chief
Executive Officer, and together with the position and exposure report, enables
senior management to monitor and control overall activity of the trading groups.
Market risk
Market risk represents the potential loss as a result of absolute and
relative price movements in financial instruments due to changes in interest
rates, foreign exchange rates, equity prices, and other factors. The Company's
exposure to market risk is directly related to its role as financial
intermediary in customer-related transactions and to its proprietary trading
activities. As of December 31, 1998, the Company's primary market risk exposures
include interest rate risk, credit spread risk and equity price risk. Interest
rate risk results from maintaining inventory positions and trading in interest
rate sensititive financial instruments and arises from various sources including
changes in the absolute and relative level of interest rates, interest rate
volatility, mortgage prepayment rates and the shape of the yield curves in
various markets. To cover its exposure to interest rate risk, the Company enters
into transactions in U.S. government securities, options and futures and forward
contracts designed to reduce the Company's risk profile. The Company's
investment grade and high-yield corporate bonds, mortgages, equities,
derivatives and convertible debt activities, also expose it to the risk of loss
related to changes in credit spreads. Credit spread risk arises from the
potential changes in an issuer's credit rating that affect the value of
financial instruments. Equity price risk results from maintaining inventory
positions and making markets in equity securities and arises from changes in the
level or volatility of equity prices, equity index exposure and equity index
spreads, which affect the value of equity securities. To cover its exposure to
equity price risk, the Company enters into transactions in options and futures
designed to reduce the Company's risk profile.
Value at risk
In 1997 the Company developed a Company-wide Value-at-Risk (VAR) model.
This model used a variance-covariance approach with a confidence interval of 95%
and a one-day holding period, based on historical data for one year. The Company
has made changes to the model in the course of 1998. In response to the volatile
and illiquid markets of the third quarter of 1998, which departed markedly from
the normal statistical distributions that underlie the variance-covariance
approach, the Company has estimated VAR by using an historical simulation model
based on two years of weekly historical data, a 95% confidence interval, and a
one-day holding period. The effect of this change in approach was not material.
The VAR number is the statistically expected maximum loss on the fair
value of the Company's market sensitive instruments for 19 of 20 trading days.
In other words, on one of 20 trading days, the loss is expected to be
statistically greater than the VAR number. However, the model does not indicate
how much greater.
VAR models are designed to assist in risk management and to provide
senior management with one probabilistic indicator of risk at the firm level.
VAR numbers should not be interpreted as a predictor of actual results. The VAR
model has been specifically tailored for the Company's risk management needs and
risk profile.
The VAR model includes the following limitations: (1) a daily VAR does
not capture the risk inherent in trading positions that cannot be liquidated or
hedged in one day, (2) VAR is based on historical market data and assumes that
past trading patterns will predict the future, (3) all inherent market risks
cannot be perfectly modeled, and (4) correlations between market movements can
vary, particularly in times of market stress.
11
<PAGE>
The Company believes that a Company-wide VAR analysis is an important
advance in risk management, but it is aware of the limitations inherent in any
statistical analysis. Because a VAR model alone is not a sufficient tool to
measure and monitor market risk, the Company will continue to use other risk
management measures, such as stress testing, independent review of position and
trading limits and daily revenue reports.
At December 31, 1998 and December 31, 1997 the Company-wide VAR for
trading was approximately $22.0 million and $11.0 million, respectively. The
Company-wide VAR for non-trading market risk sensitive instruments is not
separately disclosed because the amount is not significant. Due to the benefit
of diversification the Company-wide VAR is less than the sum of the individual
components. At December 31, 1998 and December 31, 1997 the three main components
of market risk, expressed in terms of theoretical fair values, had the following
VAR:
December 31,
1998 1997
---------- ----------
(In millions)
Trading:
Interest rate risk...................... $ 16 $ 8
Equity risk............................. $ 11 $ 8
Foreign currency exchange risk.......... $ - $ 1
The increase in value at risk in 1998 over 1997 is due largely to the
dramatic increase in volatility across a broad range of financial instruments.
Credit risk
Credit risk related to various financing activities is reduced by the
industry practice of obtaining and maintaining collateral. Each day the Company
monitors its exposure to counterparty risk through the use of credit exposure
information and monitoring collateral values.
To establish appropriate exposure limits for a variety of transactions,
all counterparties are reviewed on a periodic basis. Specific transactions are
analyzed to assess the potential exposure and the counterparty's credit is
reviewed to determine whether it supports such exposure. The Company also
analyzes market movements that could affect exposure levels. To determine
trading limits the Company considers four main factors: the settlement method;
the time it will take for a trade to settle (i.e., the maturity of the trade);
the volatility that could affect the value of the instruments involved in the
trade; and the size of the trade. In addition to determining trading limits, the
Company actively manages its credit exposure by performing the following
activities: enters into master netting agreements when feasible; monitors the
creditworthiness of counterparties and the related trading limits on an ongoing
basis and requests additional collateral when deemed necessary; diversifies and
limits exposure to individual counterparties and geographic locations; and
limits the duration of exposure. To mitigate credit risks, in certain cases, the
Company may also close out transactions or assign them to other counterparties
when deemed necessary or appropriate.
YEAR 2000
The Company has been actively engaged in addressing Year 2000 issues.
Such issues relate to potential problems resulting from non-Year 2000 compliant
systems processing transactions using two-digit date fields rather than four
digit date fields for the year of a transaction. If these systems are not
identified and reconfigured, Year 2000 transactions would be processed as year
"00," which could lead to processing inaccuracies and potential inoperability
and could have a material adverse effect on the Company's business.
As a result of the Company's recent expansion, entry into new product
markets and move to its new corporate headquarters, many of the Company's
communications and data processing systems are Year 2000 compliant. However, the
Company, has undertaken a Year 2000 Project to identify and modify any non-Year
2000 compliant systems. The Year 2000 Project is the Company's highest priority.
The Year 2000 Project is decentralized by functional area and is focused on both
information technology and non-information technology systems. A written Year
2000 Plan has been developed for each unit (Business Units and Administrative
Units) and the units are responsible for all steps necessary to ensure that
their respective assets and systems are Year 2000 compliant. The Year 2000
Project is overseen by two Project Management Offices: one for the Company's
correspondent clearance business and the other responsible for the
12
<PAGE>
Company's remaining functional units. The Project Managers report to a Steering
Committee, comprised of Senior Business Managers, which in turn reports to the
Company's Chief Financial Officer and Chief Executive Officer. The Company has
also retained the services of several consulting firms having considerable
expertise in advising corporations on Year 2000 issues.
As of December 31, 1998, the Company has inventoried all systems,
identified mission critical systems (those systems where loss of their function
would result in an immediate stoppage or significant impairment to core business
areas) and determined which of these systems are not Year 2000 compliant. By the
end of the first quarter of 1999 the Company's correspondent clearance business
expects to renovate, test and return all of its non-Year 2000 compliant
applications to production after remediation has been completed. With respect to
the rest of the Company's systems, by the first quarter of 1999, all mission
critical systems are expected to be renovated, implemented and tested. The same
process will be performed for non-critical systems and is expected to be
completed by the second quarter of 1999. None of the Company's other major
information technology projects have been affected significantly due to the
implementation of the Year 2000 Project.
The Company has identified all significant third parties, such as
fiduciary agents, vendors, custodial banks, correspondents and facility
operators, and has contacted them regarding their Year 2000 readiness. All such
parties have assured the Company that they are taking the necessary steps to
prepare for the Year 2000.
The Company has initiated and is actively involved in various types of
testing including the Securities Industry Association's industry-wide beta
testing, electronic file testing with correspondents and vendor-supplied
business applications testing. For each of the tests in which it has
participated, the Company has achieved successful results. Throughout 1999,
internal and external systems will continue to be tested to ensure that all
remediated systems remain compliant.
Costs
The total cost to ensure that the Company's systems are Year 2000
compliant is not expected to be material to the Company's financial position.
Based upon current information, the total cost of the Year 2000 project is
currently estimated to be between $85 and $90 million, which has been approved
by the Board of Directors of the Company. Based on progress to date, the current
funding level has been found to be adequate. More than half of the Year 2000
budget is allocated to renovate and test applications. The budget includes Year
2000 compliance testing, full system testing, peer to peer testing with industry
agencies, correspondents and third party vendors and other industry-wide
testing. The budget also includes developing a contingency plan. Costs related
to the Year 2000 project are expensed as incurred. At December 31, 1998, costs
since inception totaled $77.0 million. The cost of the project is being funded
by operations.
Risks
The Year 2000 issue includes many risks including the possibility that
the Company's computer and non-information technology systems will fail. The
Company cannot ensure that the schedule for compliance outlined above will be
met or that the systems of other companies on which the Company depends will be
timely converted. Due to this uncertainty, the Company is unable to determine
whether the Year 2000 will have a material impact on the Company's business,
results of operations or financial condition. If the Year 2000 risks are not
remedied, the Company may experience business interruption or shutdown,
financial loss, regulatory actions, damage to the Company's global franchise and
legal liability. However, the Year 2000 Project is expected to reduce
significantly the Company's level of uncertainty regarding the Year 2000
readiness of internal and third-party systems. The Company believes that with
the completion of the Project as scheduled, the possibility of significant
interruptions of normal operations as a result of the Year 2000, should be
reduced.
Contingencies
The Company's action plan is designed to safeguard the interests of the
Company and its customers; however, except as discussed below, a formal
contingency plan does not exist. The Company is assessing contingency
requirements and by the end of the second quarter of 1999 will develop a
contingency plan. DLJ' s correspondent clearance business has a written general
contingency plan, which covers a variety of independent events that may require
recovery/contingency plans, including Year 2000 system failures. To enhance this
plan, Year 2000-specific scenarios are being developed.
13
<PAGE>
To the fullest extent permitted by law, the foregoing discussion is a
"Year 2000 Readiness Disclosure" within the meaning of the Year 2000 Information
and Readiness Disclosure Act 105 P.L. 271.
Forward looking statements contained under "YEAR 2000" above should be
read in conjunction with the Company's disclosure under the heading "FORWARD
LOOKING STATEMENTS" below.
RECENT ACCOUNTING DEVELOPMENTS
In June 1998, the Financial Accounting Standards Board (FASB) issued
SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities,"
which requires all derivatives to be recognized in the statement of financial
condition at fair value. SFAS No. 133 is effective for fiscal years beginning
after June 15, 1999 and should be applied prospectively. Earlier application is
permitted. Since most of the Company's derivatives are carried at fair value,
the adoption of this statement is not expected to have a material impact on the
Company's results of operations or its consolidated statement of financial
condition.
FORWARD-LOOKING STATEMENTS
The Company has made in this report, and from time to time may
otherwise make in its public filings, press releases and discussions with
Company management, forward looking statements concerning the Company's
operations, economic performance and financial condition, as well as its
strategic objectives, including, without limitation, global expansion. Such
forward looking statements are subject to various risks and uncertainties and
the Company claims the protection afforded by the safe harbor for
forward-looking statements contained in the Private Securities Litigation Reform
Act of 1995. Actual results could differ materially from those currently
anticipated due to a number of factors in addition to those discussed elsewhere
herein and in the Company's other public filings, press releases and discussions
with Company management, including (i) the volatile nature of the securities
business, which is affected by, among other things, the availability of capital,
the level and volatility of interest rates and the uncertainties of the global
and U.S. economies, (ii) the competitive nature of the securities business,
(iii) the effect of extensive federal, state and foreign regulation on the
Company's business, (iv) market, credit and liquidity risks associated with the
Company's underwriting, securities trading, market-making and arbitrage
activities, (v) potential losses that could result from the Company's merchant
banking activities as a result of its capital intensive nature, (vi) risks
associated with the Company's use of derivative financial instruments, (vii) the
availability of adequate financing to support the Company's business, (viii)
potential restrictions on the business of, and withdrawal of capital from,
certain subsidiaries of the Company due to net capital requirements, (ix)
potential liability under federal and state securities and other laws, (x) the
effect of any future acquisitions, (xi) the risks associated with Year 2000
issues, including failure to meet the schedule for Year 2000 compliance, the
uncertainty surrounding Year 2000 readiness of third parties, and increased
costs associated with the implementation of the Year 2000 project and (xii)
factors that may affect the timeliness of Year 2000 compliance include the
ability to locate, correct and successfully test all relevant computer code
according to schedule, the continued availability of certain resources including
personnel, timely responses and corrections by third-parties and suppliers and
the compatibility of new systems with those systems not being replaced.
14
<PAGE>
Independent Auditors' Report
The Board of Directors and Stockholders
Donaldson, Lufkin & Jenrette, Inc.
We have audited the accompanying consolidated statements of financial condition
of Donaldson, Lufkin & Jenrette, Inc. and subsidiaries as of December 31, 1998
and 1997, and the related consolidated statements of income, changes in
stockholders' equity, and cash flows for each of the years in the three-year
period ended December 31, 1998. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Donaldson, Lufkin &
Jenrette, Inc. and subsidiaries as of December 31, 1998 and 1997, and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 1998, in conformity with generally accepted
accounting principles.
/s/ KPMG LPP
New York, New York
February 2, 1999
15
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Consolidated Statements of Financial Condition
(In thousands, except share and per share data)
<TABLE>
<CAPTION>
December 31, December 31,
1998 1997
------------ ------------
<S> <C> <C>
ASSETS
Cash and cash equivalents.................................................... $ 1,049,253 $ 273,164
Cash and securities segregated for regulatory purposes or deposited with
clearing organizations.................................................... 1,043,225 832,093
Collateralized short-term agreements:
Securities purchased under agreements to resell........................... 20,063,348 22,628,782
Securities borrowed....................................................... 23,967,639 20,598,639
Receivables:
Customers................................................................. 6,523,568 4,397,668
Brokers, dealers and other................................................ 3,773,251 3,162,970
Financial instruments owned, at value:
U.S. government and agency................................................ 5,973,394 6,834,996
Corporate debt............................................................ 4,441,492 5,577,023
Foreign sovereign debt.................................................... 423,736 1,624,235
Mortgage whole loans...................................................... 722,284 1,555,685
Equities and other........................................................ 1,634,201 943,782
Long-term corporate development investments............................... 473,756 315,774
Office facilities, at cost, (net of accumulated depreciation and amortization
of $297,959 and $216,230, respectively)................................... 450,706 388,677
Other assets and deferred amounts ........................................... 1,742,383 1,372,357
------------ ------------
Total Assets................................................................. $ 72,282,236 $ 70,505,845
============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
16
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Consolidated Statements of Financial Condition
(In thousands, except share and per share data)
<TABLE>
<CAPTION>
December 31, December 31,
1998 1997
------------ ------------
<S> <C> <C>
LIABILITIES AND STOCKHOLDERS' EQUITY
Commercial paper and short-term borrowings.................................. $ 515,646 $ 1,121,352
Collateralized short-term financings:
Securities sold under agreements to repurchase.......................... 35,775,580 36,006,656
Securities loaned....................................................... 7,322,186 7,687,416
Payables:
Customers............................................................... 6,847,046 5,071,653
Brokers, dealers and other.............................................. 3,053,337 2,912,218
Financial instruments sold not yet purchased, at value:
U.S. government and agencies............................................ 5,935,629 7,671,498
Corporate debt.......................................................... 523,909 854,155
Foreign sovereign debt.................................................. 40,744 553,852
Equities and other...................................................... 2,438,667 1,376,395
Accounts payable and accrued expenses....................................... 2,282,413 2,119,131
Other liabilities........................................................... 937,377 741,870
------------ ------------
65,672,534 66,116,196
------------ ------------
Long-term borrowings........................................................ 3,482,003 2,128,159
------------ ------------
Total liabilities.................................................. 69,154,537 68,244,355
------------ ------------
Company-obligated mandatorily redeemable preferred securities
of subsidiary trust holding solely debentures of the Company............ 200,000 200,000
------------ ------------
Stockholders' Equity:
Preferred stock, 50,000,000 shares authorized:
Series A Preferred Stock, at $50.00 per share liquidation
preference (4,000,000 shares issued and outstanding)............... 200,000 200,000
Series B Preferred Stock, at $50.00 per share liquidation
preference (3,500,000 shares issued and outstanding).............. 175,000 -
Common stock ($0.10 par value; 300,000,000 shares
authorized; 122,812,558 and 111,852,762 shares issued
and outstanding, respectively)....................................... 12,281 11,185
Restricted stock units (10,358,294 units authorized; 2,082,236
and 6,562,414 units issued and outstanding, respectively)............ 21,333 67,255
Paid-in capital......................................................... 858,066 440,926
Retained earnings....................................................... 1,657,710 1,338,220
Accumulated other comprehensive income.................................. 3,309 3,904
Employee deferred compensation stock trust.............................. 12,329 12,061
Common stock issued to employee deferred compensation trust............. (12,329) (12,061)
------------ -------------
Total stockholders' equity......................................... 2,927,699 2,061,490
------------ ------------
Total Liabilities and Stockholders' Equity.................................. $ 72,282,236 $ 70,505,845
============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
17
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Consolidated Statements of Income
(in thousands, except per share data)
<TABLE>
<CAPTION>
Years Ended December 31,
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Revenues:
Commissions.................................................. $ 854,679 $ 690,156 $ 573,335
Underwritings................................................ 1,077,712 905,607 755,627
Fees......................................................... 1,191,655 767,259 469,986
Interest, net of interest to finance U.S. government,
agency and mortgage-backed securities of $3,045,391,
$2,859,042 and $2,132,593, respectively.................... 2,189,108 1,652,135 1,074,223
Principal transactions-net:
Trading.................................................... (92,782) 363,190 393,938
Investment................................................. 126,031 194,527 162,975
Other........................................................ 60,639 67,595 60,672
---------- ---------- ----------
Total revenues............................................ 5,407,042 4,640,469 3,490,756
---------- ---------- ----------
Costs and Expenses:
Compensation and benefits.................................... 2,231,655 1,908,201 1,538,754
Interest..................................................... 1,455,851 1,153,167 733,207
Brokerage, clearing,
exchange fees and other.................................... 258,625 231,402 201,292
Occupancy and equipment...................................... 269,975 189,915 159,330
Communications............................................... 89,793 63,965 53,657
Other operating expenses..................................... 500,643 432,719 330,716
---------- ---------- ----------
Total costs and expenses.................................. 4,806,542 3,979,369 3,016,956
---------- ---------- ----------
Income before provision for income taxes......................... 600,500 661,100 473,800
---------- ---------- ----------
Provision for income taxes....................................... 229,700 252,850 182,500
---------- ---------- ----------
Net income....................................................... $ 370,800 $ 408,250 $ 291,300
========== =========== ==========
Dividends on preferred stock..................................... $ 21,310 $ 12,144 $ 18,653
========== =========== ==========
Earnings applicable to common shares............................. $ 349,490 $ 396,106 $ 272,647
========== =========== ==========
Earnings per common share:
Basic....................................................... $ 2.93 $ 3.59 $ 2.56
========== =========== ==========
Diluted..................................................... $ 2.65 $ 3.16 $ 2.30
========== =========== ==========
Weighted average common shares outstanding:
Basic....................................................... 119,260 110,318 106,600
========== =========== ==========
Diluted..................................................... 131,980 125,498 118,712
========== =========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
18
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Consolidated Statements of Changes in Stockholders' Equity
For the Years Ended December 31, 1996, 1997 and 1998
(In thousands, except per share data)
<TABLE>
<CAPTION>
Accumulated
Restricted Other
Preferred Common Stock Paid-in Retained Comprehensive
Stock Stock Units Capital Earnings Income Total
------- -------- ----------- ------- ---------- ------ -------
<S> <C> <C> <C> <C> <C> <C> <C>
Balances at December 31,
1995....................... $ 0 $ 10,659 $106,163 $ 358,664 $ 723,859 $ (625) $ 1,198,720
Net income.................. - - - - 291,300 - 291,300
Translation adjustment...... - - - - - 2,522 2,522
Total comprehensive
income................. - - - - - - 293,822
Dividends:
Common stock ($0.25 per
share)................... - - - - (26,650) - (26,650)
Preferred stock ($8.29 per
share)................... - - - - (18,653) - (18,653)
Forfeiture of restricted
stock units................ - - (1,996) 1,996 - - -
Issuance of Series A
Preferred stock............. 200,000 - - - - - 200,000
--------- -------- -------- --------- ----------- ------- -----------
Balances at December 31,
1996....................... 200,000 10,659 104,167 360,660 969,856 1,897 1,647,239
Net income.................. - - - - 408,250 - 408,250
Translation adjustment...... - - - - - 2,007 2,007
Total comprehensive
income.................. 410,257
Dividends:
Common stock ($0.25 per
share).................... - - - - (27,742) - (27,742)
Preferred stock ($3.036
per share)................ - - - - (12,144) - (12,144)
Forfeiture of restricted
stock units................ - - (156) 156 - - -
Conversion of restricted
stock units to common stock - 358 (36,756) 45,041 - - 8,643
Conversion of debentures.... - 138 - 28,641 - - 28,779
Exercise of stock options... - 30 - 6,428 - - 6,458
--------- -------- -------- --------- ----------- ------- -----------
Balances at December 31,
1997....................... 200,000 11,185 67,255 440,926 1,338,220 3,904 2,061,490
Net income................... - - - - 370,800 - 370,800
Translation adjustment....... - - - - - (595) (595)
Total comprehensive income 370,205
Dividends:
Common stock ($0.25 per
share).................... - - - - (30,000) - (30,000)
Preferred stock ($2.84 per
share).................... - - - - (21,310) - (21,310)
Issuance of Series B
Preferred Stock............ 175,000 - - - - - 175,000
Sale of common stock to
Equitable/AXA............. - 500 - 299,500 - - 300,000
Exercise of stock options.... - 148 - 37,840 - - 37,988
Conversion of restricted
stock units to common
stock ...................... - 448 (45,890) 70,870 - - 25,428
Forfeiture of restricted
stock units................. - - (32) 32 - - -
Tax benefit on distribution
of employee stock trust..... - - - 8,898 - - 8,898
--------- -------- -------- --------- ----------- ------- -----------
Balances at December 31,
1998....................... $ 375,000 $ 12,281 $ 21,333 $ 858,066 $ 1,657,710 $ 3,309 $ 2,927,699
========= ======== ======== ========= =========== ======= ===========
</TABLE>
See accompanying notes to consolidated financial statements.
19
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(In thousands)
<TABLE>
<CAPTION>
Years Ended December 31,
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income......................................................... $ 370,800 $ 408,250 $ 291,300
Adjustments to reconcile net income to net cash used in operating
activities:
Depreciation and amortization................................... 84,802 61,428 53,831
Deferred taxes.................................................. 27,943 (134,233) (120,022)
Decrease in net unrealized (depreciation) appreciation of
long-term corporate development investments................... (8,939) (34,524) 50,283
----------- ------------ ------------
474,606 300,921 275,392
(Increase) decrease in operating assets:
Cash and securities segregated for regulatory
purposes or deposited with clearing organizations............. (211,132) 4,313 (381,936)
Securities purchased under agreements to resell.. 5,463,657 (4,622,196) 9,191
Securities borrowed............................................. (3,369,000) (11,243,155) (310,574)
Receivables from customers...................................... (2,125,900) (1,228,375) (813,320)
Receivables from brokers, dealers and other..................... (610,281) 921,011 (2,342,428)
Financial instruments owned, at value........................... 3,340,614 (807,663) (4,906,785)
Other assets and deferred amounts............................... (359,115) (179,958) (147,335)
Increase (decrease) in operating liabilities:
Securities sold under agreements to repurchase... (5,463,657) 4,622,196 (9,191)
Securities loaned............................................... (365,230) 4,962,643 100,560
Payables to customers........................................... 1,775,393 1,173,836 1,336,559
Payables to brokers, dealers and other............................ 141,119 (946,845) 2,511,614
Financial instruments sold not yet purchased, at value.......... (1,516,951) 1,014,230 2,737,243
Accounts payable and accrued expenses........................... 163,282 397,876 323,790
Other liabilities............................................... 245,320 310,230 89,551
Translation adjustment............................................ (595) 2,007 2,522
----------- ------------ ------------
Net cash used in operating activities................................ $(2,417,870) $ (5,318,929) $ (1,525,147)
----------- ------------ ------------
</TABLE>
See accompanying notes to consolidated financial statements.
20
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(In thousands)
<TABLE>
<CAPTION>
Years Ended December 31,
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Cash flows from investing activities:
Net (payments for) proceeds from:
Purchases of long-term corporate development investments........... $ (347,033) $ (194,777) $ (87,600)
Sales of long-term corporate development investments............... 197,990 117,930 117,412
Office facilities.................................................. (145,742) (162,568) (142,597)
Other assets....................................................... (39,217) 23,375 5,818
----------- ---------- ----------
Net cash used in investing activities.................................. (334,002) (216,040) (106,967)
----------- ---------- ----------
Cash flows from financing activities:
Net proceeds from (payments for):
Short-term financings.............................................. 1,728,652 4,854,182 1,187,338
Senior notes....................................................... 893,552 - -
Medium-term notes.................................................. 349,337 359,646 249,515
Subordinated revolving credit agreement............................ (325,000) 118,500 (43,500)
Senior secured floating rate notes................................. 450,000 - -
Global floating rate notes......................................... 448 347,760 -
Other long-term debt............................................... (14,493) (13,753) (2,858)
Convertible debentures............................................. - 18,779 43,500
Swiss Franc Bonds.................................................. - - (105,513)
Dividends.......................................................... (51,310) (39,886) (45,303)
Issuance of Company obligated mandatorily redeemable preferred
securities...................................................... - - 200,000
Sale of common stock to Equitable/AXA.............................. 300,000 - -
Issuance of Series A Preferred Stock............................... - - 200,000
Issuance of Series B Preferred Stock............................... 175,000 - -
Exercise of stock options.......................................... 21,775 4,074 -
----------- ---------- ----------
Net cash provided by financing activities.............................. 3,527,961 5,649,302 1,683,179
----------- ---------- ----------
Increase in cash and cash equivalents.................................. 776,089 114,333 51,065
Cash and cash equivalents at beginning of year........................ 273,164 158,831 107,766
----------- ---------- ----------
Cash and cash equivalents at end of year.............................. $ 1,049,253 $ 273,164 $ 158,831
=========== ========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
21
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 1998
1. Summary of Significant Accounting Policies
The consolidated financial statements include Donaldson, Lufkin & Jenrette, Inc.
and its subsidiaries (the "Company"). All significant intercompany balances and
transactions have been eliminated. The Company is a majority-owned subsidiary of
the Equitable Companies Incorporated and its subsidiaries (together,
"Equitable"). The Company's separate financial statements reflect Equitable's
cost basis, established in 1985 when Equitable acquired the Company.
The Company is a leading, integrated investment and merchant bank serving
institutional, corporate, government and individual clients. The Company's
businesses include securities underwriting; sales and trading; investment and
merchant banking; financial advisory services; investment research; venture
capital; correspondent brokerage services; online, interactive brokerage
services; and asset management.
To prepare consolidated financial statements in conformity with generally
accepted accounting principles ("GAAP"), management must estimate certain
amounts that affect the reported assets and liabilities, disclosure of
contingent assets and liabilities, and reported revenues and expenses. Actual
results could differ from those estimates.
Substantially all of the Company's financial assets and liabilities, as well as
financial instruments with off-balance sheet risk, are carried at market or fair
values or are carried at amounts that approximate fair value because of their
short-term nature. Fair value is estimated at a specific point in time, based on
relevant market information or the value of the underlying financial instrument.
These estimates do not generally reflect any premium or discount that could
result from offering for sale at one time the Company's entire holdings of a
particular financial instrument.
Cash equivalents include all demand deposits held in banks and certain
highly liquid investments with maturities of 90 days or less, other than those
held for sale in the ordinary course of business.
Securities sold under agreements to repurchase (repurchase agreements) and
securities purchased under agreements to resell (resale agreements) are treated
as financing arrangements and are carried at contract amounts that reflect the
amounts at which the securities will be subsequently repurchased or resold.
Interest on such contract amounts is accrued and is included in the accompanying
consolidated statements of financial condition in receivables from and payables
to brokers, dealers and other. The Company takes possession of the assets
purchased under agreements to resell and obtains additional collateral when the
market value falls below the contract value. In the consolidated financial
statements, repurchase and resale agreements are presented net if they are with
the same counterparty, have the same maturity date, settle through the Federal
Reserve system, and are subject to master netting agreements.
Securities borrowed and securities loaned are financing arrangements that are
recorded at the amount of cash collateral advanced or received. For securities
borrowed, the Company deposits cash, letters of credit or other collateral with
the lender. For securities loaned, the Company receives collateral in cash or
other collateral that exceeds the market value of securities loaned. Each day,
the Company monitors the market value of securities borrowed and loaned and
obtains or refunds additional collateral, as necessary.
Receivables from and payables to customers include amounts due on cash and
margin transactions. For receivables, securities owned by customers are held as
collateral. Such collateral is not reflected in the consolidated financial
statements.
U.S. government and agency securities, mortgage-backed securities, options,
forward and futures transactions and certain other debt obligations are recorded
in the consolidated financial statements on a trade date basis. All other
securities are recorded on a settlement date basis and, if significant,
adjustments are made to a trade date basis.
Other than long-term corporate development investments and senior bank debt,
financial instruments owned are carried at market value. Changes in unrealized
appreciation (depreciation) arising from fluctuations in market value or upon
realization of security positions are reflected in principal transactions-net,
trading revenues, in the consolidated statements of income.
22
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
To the extent that the Company has surrendered control, transfers of financial
assets are accounted for as sales.
Long-term corporate development investments represent the Company's involvement
in private debt and equity investments. These investments generally have no
readily available market or may be otherwise restricted as to resale under the
Securities Act of 1933; therefore, these investments are carried at estimated
fair value as determined by the Finance Committee of the Board of Directors. The
cost of these investments was $472.3 million at year-end 1998 and $323.2 million
at year-end 1997. In 1998 net unrealized appreciation of long-term corporate
development investments increased $8.9 million. In 1997 and 1996, the decrease
in net unrealized appreciation (depreciation) amounted to $(34.5) million and
$50.3 million, respectively. Changes in net unrealized appreciation
(depreciation) arising from changes in fair value or upon realization are
reflected in principal transactions-net, investment revenues in the consolidated
statements of income.
Office facilities are carried at cost and are depreciated on a straight-line
basis over the estimated useful life of the related assets, ranging from three
to eight years. Leasehold improvements are amortized over the lesser of the
useful life of the improvement or term of the lease. Exchange memberships owned
by the Company are included in other assets and are carried at cost.
Changes in unrealized gains and losses, as well as realized gains and losses at
settlement on all derivative instruments (options, forward and futures contracts
and swaps), are included in principal transactions-net, trading revenues, in the
consolidated statements of income. Related offsetting amounts are included in
receivables from or payables to brokers, dealers and other in the consolidated
statements of financial condition. Fair value of options includes any deferred
unamortized premiums. Such premiums are recognized over the life of the option
contracts on a straight-line basis or are recognized through the change in the
fair value of the option in principal transactions-net, trading revenue in the
consolidated statements of income. Swap transactions entered into for
non-trading purposes to modify the interest rate and foreign currency exposure
associated with certain assets and liabilities are accounted for on an accrual
basis. Under the accrual basis, the net amount to be received or paid is accrued
as part of interest expense in the consolidated statements of income. Cash flows
from derivative instruments are included as operating activities in the
consolidated statements of cash flows.
Assets and liabilities of foreign subsidiaries denominated in foreign currencies
are translated at exchange rates prevailing at the date of the consolidated
statements of financial condition. Revenues and expenses are translated at
average exchange rates during the period. Gains and losses from translating
foreign currency financial statements into U.S. dollars are included as a
separate component of stockholders' equity. Gains and losses from foreign
currency transactions are included in the consolidated statements of income.
Effective January 1, 1997, Equitable's ownership for tax purposes declined to
less than 80%; therefore, the Company files its own U.S. consolidated Federal
income tax return.
All liabilities related to postretirement and postemployment benefits have been
provided for and the related costs are not significant.
The Company accounts for stock-based compensation related to stock options in
accordance with APB Opinion No. 25, "Accounting for Stock Issued to Employees",
and accordingly, does not recognize any compensation cost associated with such
plans in the consolidated financial statements. In accordance with SFAS No. 123,
"Accounting for Stock-Based Compensation", the Company provides pro forma net
income and pro forma earnings per share disclosures for employee stock option
grants as if the fair-value-based method had been applied.
Basic and diluted earnings per common share amounts are calculated by dividing
earnings applicable to common shares (net income less preferred dividends) by
the weighted average common shares outstanding. Basic earnings per share
excludes the dilutive effects of stock options, non-vested restricted stock
units and convertible debt. Diluted earnings per share reflects all potentially
dilutive securities.
In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities," which
requires all derivatives to be recognized in the consolidated statements of
financial condition at fair value. SFAS No. 133 is effective for fiscal years
beginning after June 15, 1999 and should be applied prospectively. Since most of
the Company's derivatives
23
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
are currently carried at fair value, the adoption of this statement is not
expected to have a material effect on the Company's results of operations or its
consolidated statements of financial condition.
To conform to the 1998 presentation, certain reclassifications have been made to
prior year consolidated financial statements.
2. Common Stock Split
In February 1998, the Board of Directors declared a two-for-one stock split (the
"stock split") of the Company's common stock, subject to stockholder approval to
increase the number of authorized common shares. In April 1998, stockholders
approved an amendment to the Company's Certificate of Incorporation which
increased the number of total authorized shares of common stock to 300 million
and the number of total authorized shares of preferred stock to 50 million. The
stock split was effected in the form of a 100% stock dividend to stockholders of
record on April 27, 1998, and was paid on May 11, 1998. The par value of the
common stock remained at $0.10 per share. To preserve the value of the
post-split shares, an adjustment was made from paid-in capital to common stock.
In the accompanying consolidated financial statements all common share, per
common share, restricted stock unit and option data have been restated for the
effect of the stock split.
3. Related Party Transactions
In the normal course of business, the Company provides brokerage services
including clearance, investment banking and related activities for Equitable and
certain of its affiliates. The amounts related to such activities are not
significant.
The Company is the sponsor of the $750.0 million DLJ Bridge Fund ("the Bridge
Fund"), which is funded by a commitment from Equitable. The Bridge Fund provides
short-term loans in connection with the Company's merchant banking and financial
advisory businesses. The Bridge Fund has a commitment of subordinated debt from
Equitable for the total amount of the loans. Any loans made by the Bridge Fund
would be expected to be refinanced, and the outstanding amounts repaid, within a
short-term period. At December 31, 1998, the Bridge Fund had extended $295.0
million of short-term bridge loans.
For the years ended December 31, 1998, 1997 and 1996, dividends on common stock
paid or accrued to Equitable were $21.7 million, $21.3 million and $21.4
million, respectively.
4. Cash and Securities Segregated Under Federal and Other Regulations
Cash of $13.7 million at December 31, 1997 and securities with a market value of
$883.0 million and $711.0 million at December 31, 1998 and 1997, respectively
were segregated in special reserve bank accounts to benefit customers in
accordance with regulations of the Securities and Exchange Commission and the
Commodities Futures Trading Commission.
5. Borrowings
Short-term borrowings are generally demand obligations with interest
approximating Federal fund rates. Such borrowings are generally used to
facilitate the securities settlement process, to finance securities inventories,
and to finance securities purchased by customers on margin. At December 31, 1998
there were no borrowings secured by Company-owned securities. At December 31,
1997, certain of these borrowings were secured by Company-owned securities
aggregating $190.5 million.
Short-term borrowings and repurchase agreements:
<TABLE>
<CAPTION>
Weighted Average
Interest Rates
December 31, December 31,
1998 1997 1998 1997
------ ------ ------ ------
(In millions)
<S> <C> <C> <C> <C>
Securities sold under repurchase agreements....... $ 35,776 $ 36,007 4.89% 6.04%
Bank loans........................................ $ 391 $ 988 5.79% 6.57%
Borrowings from other financial institutions...... $ 125 $ 133 5.72% 6.21%
</TABLE>
24
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
In January 1998, the Company introduced a $1.0 billion commercial paper program.
Obligations issued under this program (the "Notes") are exempt from registration
under the Securities Act of 1933, as amended under Section 4(2) (the "Securities
Act"). At December 31, 1998, $30.9 million of notes were outstanding under this
program.
Long-term borrowings:
<TABLE>
<CAPTION>
December 31,
1998 1997
-------- --------
(In thousands)
<S> <C> <C>
Senior notes 6%-6.875%, due various dates through 2008............. $ 1,391,036 $ 497,484
Medium-term notes 5.402% - 6.90%, due various dates through 2016... 1,046,647 697,310
Senior subordinated revolving credit agreement, due 2000........... - 325,000
Senior secured floating rate notes, due 2005....................... 450,000 -
Global floating rate notes, due 2002............................... 348,357 347,909
Subordinated exchange notes 9.58%, due 2003........................ 225,000 225,000
Other.............................................................. 20,963 35,456
----------- -----------
Total long-term borrowings.................................... $ 3,482,003 $ 2,128,159
=========== ===========
Current maturities................................................. $ 100,973 $ 1,623
=========== ===========
</TABLE>
For the years ended December 31, 1998, 1997 and 1996, interest paid on all
borrowings and financing arrangements was $4.6 billion, $3.9 billion and $2.8
billion, respectively.
Scheduled maturities of long-term borrowings are as follows:
<TABLE>
<CAPTION>
December 31,
1998 1997
-------- --------
(In thousands)
<S> <C> <C>
1998..................................... $ - $ 1,623
1999..................................... 100,973 153
2000..................................... 189,987 514,926
2001..................................... 369,265 33,610
2002..................................... 358,348 357,897
2003..................................... 374,397 225,000
2004-2016................................ 2,089,033 994,950
----------- -----------
$ 3,482,003 $ 2,128,159
=========== ===========
</TABLE>
In connection with its 1998 and 1997 financings, the Company:
1998
Issued an initial $175.0 million Fixed/Adjustable Rate Cumulative Preferred
Stock, Series B, from the $300.0 million shelf established in 1997.
Issued $650.0 million of 6.5% Senior Notes that mature in 2008 and $350.0
million Medium-Term Notes with interest ranging from 5.402% - 6.28% that mature
at various dates through 2003.
Issued $250.0 million of 6% Senior Notes that mature in 2001 from the $1.0
billion shelf established in 1997. To convert these fixed rate notes into
floating rate notes based upon the London Interbank Offered Rate ("LIBOR"), the
Company entered into interest rate swap transactions.
Issued Senior Secured and Senior Subordinated Secured Floating Rate Notes for
$200.0 million and $250.0 million, due March 15, 2005 and September 15, 2005,
respectively. These notes are collateralized by a portfolio of investments,
primarily senior bank debt valued at $441.0 million. Senior bank debt consists
of interests in senior corporate debt, including term loans, revolving loans and
other corporate debt.
Amended the $2.0 billion revolving credit facility to increase the aggregate
commitment of banks thereunder to $2.8 billion, of which $1.7 billion may be
unsecured. At year-end 1998, no borrowings were outstanding under this
agreement.
25
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
Repaid the $325.0 million senior subordinated revolving credit agreement and
terminated the related credit facility.
1997
Borrowed an additional $118.5 million under its senior subordinated revolving
credit agreement and extended the maturity date to January 30, 2000. Interest is
based on LIBOR and was 6.69% at year-end 1997 and 6.38% at year-end 1996.
Established a $300.0 million Medium-Term Note program. At year-end 1997, $200.0
million was outstanding with a weighted average interest rate of 6.48%. To
convert $190.0 million of such fixed rate notes into floating rate notes based
upon LIBOR, the Company entered into interest rate swap transactions. At
year-end 1997, the weighted average effective interest rate on these notes was
6.08%.
Established a $1.0 billion senior or subordinated debt securities shelf
registration, under which up to $500.0 million can be offered as Medium-Term
Notes due nine months or more from the date of issuance. At year-end 1997, notes
outstanding under this registration included $150.0 million at a fixed rate of
6.90% and $100.0 million at a floating rate of 6.28% based upon LIBOR. Using
interest rate swaps, these floating rate notes were converted into fixed rate
notes at 6.94%.
Issued $350.0 million of Global Floating Rate Notes with interest at a floating
rate equal to LIBOR plus 0.25%. These notes mature in 2002 and can be redeemed
by the Company in whole or in part on any interest payment date on or after
September 2000.
Completed a shelf registration to offer up to $300.0 million of senior or
subordinated debt securities or preferred stock.
Repaid in full $88.0 million 7.88% Medium-Term Notes plus accrued interest.
Replaced several individual credit facilities aggregating $1.9 billion with a
$2.0 billion revolving credit facility, of which $1.0 billion may be unsecured.
At year-end 1997, no borrowings were outstanding under this agreement.
6. Income Taxes
Income taxes included in the consolidated statements of income include the
following:
<TABLE>
<CAPTION>
December 31, December 31, December 31,
1998 1997 1996
----------------------------------------------
(In thousands)
<S> <C> <C> <C>
Current:
U.S. Federal..................... $ 128,980 $ 299,091 $ 222,225
Foreign.......................... 45,701 25,131 16,045
State and local.................. 27,076 62,861 64,252
--------- ---------- ---------
Total current....................... 201,757 387,083 302,522
--------- ---------- ---------
Deferred:
U.S. Federal..................... 19,019 (117,622) (88,970)
State and local.................. 8,924 (16,611) (31,052)
--------- ---------- ---------
Total deferred...................... 27,943 (134,233) (120,022)
--------- ---------- ---------
Total provision for income taxes.... $ 229,700 $ 252,850 $ 182,500
========= ========== =========
</TABLE>
26
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
The following summarizes the difference between the "expected" tax provision,
which is computed by applying the statutory tax rate to income before provision
for income taxes, and the effective provision for income taxes, which is
computed by using the effective tax rate:
<TABLE>
<CAPTION>
1998 1997 1996
------------------------ ------------------------ ------------------------
Percent Percent Percent
of of of
Pre-tax Pre-tax Pre-tax
Amount Income Amount Income Amount Income
-------- -------- -------- -------- -------- --------
(In thousands) (In thousands) (In thousands)
<S> <C> <C> <C> <C> <C> <C>
Computed "expected"
tax provision........... $ 210,175 35.0% $ 231,385 35.0% $ 165,830 35.0%
Non-taxable income
and expense items....... (3,875) (0.6) (8,598) (1.3) (4,910) (1.1)
State and local taxes,
net of related Federal
income tax benefit...... 23,400 3.9 30,063 4.5 21,580 4.6
----------- -------- ----------- -------- ----------- -----
Provision for income taxes.. $ 229,700 38.3% $ 252,850 38.2% $ 182,500 38.5%
========= ====== ========= ====== ========= =====
</TABLE>
Deferred tax assets and deferred tax liabilities are generated by the following
temporary differences:
<TABLE>
<CAPTION>
1998 1997
-------- -------
(In thousands)
<S> <C> <C>
Deferred tax assets:
Inventory..................................... $ 1,633 $ 6,657
Investments................................... 45,690 35,617
Other liabilities and accrued expenses........ 523,476 517,673
Office facilities............................. 8,892 4,552
Deferred tax liabilities:
Investments................................... (45,858) (31,458)
Office facilities............................. (42,243) (12,584)
Other......................................... (1,947) (2,871)
--------- ----------
Net deferred tax asset............................. $ 489,643 $ 517,586
========= =========
</TABLE>
Management has determined that taxable income from carryback years and
anticipated future reversals of existing taxable temporary differences are
sufficient to offset the tax benefit of deductible temporary differences. As a
result, at year-end 1998 and 1997, valuation allowances have not been recorded
against deferred tax assets. Although realization is not assured, management
believes it is more likely than not that all of the deferred tax assets will be
realized. However, if estimates of future taxable income during the carryforward
period are reduced, the amount of the deferred tax assets considered realizable
could also be reduced.
In 1998, 1997 and 1996, respectively, the Company paid $101.3 million, $293.8
million and $267.5 million in federal income taxes including $4.1 million, $18.6
million and $267.5 million of federal income tax equivalents paid to Equitable.
7. Net Capital
The Company's wholly owned principal subsidiary, Donaldson, Lufkin & Jenrette
Securities Corporation ("DLJSC") is a registered broker-dealer, a registered
futures commission merchant and member firm of The New York Stock Exchange, Inc.
(the "NYSE"). Accordingly, DLJSC is subject to the minimum net capital
requirements of the Securities and Exchange Commission, the NYSE and the
Commodities Futures Trading Commission. As such, it is also subject to the
NYSE's net capital rule, which conforms to the Uniform Net Capital Rule under
rule 15c3-1 of the Securities Exchange Act of 1934. Under the alternative method
permitted by this rule, the required net capital may not be less than two
percent of aggregate debit balances arising from customer transactions or four
percent of segregated funds, whichever is greater. If a member firm's capital is
less than four percent of aggregate debit balances, the NYSE may require the
firm to reduce its business. If a member firm's net capital is less than five
percent of aggregate debit balances, the NYSE may prevent the firm from
expanding its business and declaring cash dividends. At December 31, 1998,
27
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
DLJSC's net capital of approximately $1.2 billion was 20 percent of aggregate
debit balances and exceeded the minimum requirement by approximately $1.1
billion.
Certain of the Company's London-based broker-dealer subsidiaries are subject to
the requirements of the Securities and Futures Authority, a self-regulatory
organization established under the United Kingdom Financial Services Act of
1986. Other U.S. and foreign broker-dealer subsidiaries of the Company are
subject to net capital requirements of their respective regulatory agencies. At
December 31, 1998 and 1997, the Company and its broker-dealer subsidiaries
complied with all applicable regulatory capital adequacy requirements.
8. Derivative Financial Instruments
The Company enters into certain contractual agreements referred to as
derivatives or off-balance sheet financial instruments primarily to provide
products for its clients. Under these agreements, the Company performs the
following activities: writes over-the-counter ("OTC") options to accommodate
customers' needs; trades in forward contracts in U.S. government and agency
issued or guaranteed securities; trades in futures contracts on equity-based
indices, interest rate instruments and currencies; enters into swap transactions
to manage foreign currency, interest rate and equity risks; and issues
structured products based on emerging market financial instruments and indices.
The Company is not significantly involved in commodity derivative instruments.
Options
The Company writes option contracts specifically designed to meet customers'
needs. Since the Company, not its counterparty, is obligated to perform, the
options do not expose the Company to credit risk. At the beginning of the
contract period, the Company receives a cash premium. During the contract
period, the Company bears the risk of unfavorable changes in the value of the
financial instruments underlying the options ("market risk"). To cover this
market risk, the Company purchases or sells cash or derivative financial
instruments on a proprietary basis. Such purchases and sales may include debt
and equity securities, forward and futures contracts and options. The
counterparties to these purchases and sales are reviewed to determine whether
they are creditworthy. Future cash requirements for options written equal the
fair value of the options. Option contracts are typically written for a duration
of less than 13 months and are included in the consolidated statements of
financial condition at fair value.
The notional (contract) value, or the market value for cash instruments, of the
written options was $5.1 billion at year-end 1998 and $5.4 billion at year-end
1997. These options contracts were covered by the following financial
instruments:
December 31,
1998 1997
------ ------
(In millions)
U.S. government, mortgage-backed
Securities and options thereon.......... $ 3,396 $ 3,773
Foreign sovereign debt securities............ 89 73
Forward rate agreements...................... 38 -
Futures contracts............................ 76 219
Equities and other........................... 1,545 1,340
-------- --------
Total............................. $ 5,144 $ 5,405
======= =======
The trading revenues from writing options (net of related interest expense) were
approximately $79.2 million, $84.9 million and $71.2 million for the years ended
December 31, 1998, 1997 and 1996, respectively. The fair value of certain
written options is measured by the unamortized premiums and the intrinsic value
determined from various pricing sources. The average fair value of the options
was approximately $304.3 million for 1998 and $223.3 million for 1997. The fair
value of the options was approximately $397.1 million at year-end 1998 and
$196.4 million at year-end 1997.
Forwards and Futures
The Company enters into forward purchases and sales contracts for
mortgage-backed securities and foreign currencies. In addition, the Company
enters into futures contracts on equity-based indices,
28
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
foreign currencies and other financial instruments as well as options on futures
contracts. Forward and futures contracts are treated as off-balance sheet items.
Market risk is the price movement on the notional value of the contracts.
For forward contracts, cash is generally not required at inception; cash equal
to the notional value on the contract is required at settlement. For futures
contracts, the original margin is required in cash at inception; cash equal to
the daily change in market value is required at settlement.
Since forward contracts are subject to the financial reliability of the
counterparty, the Company is exposed to credit risk. To monitor this credit
risk, the Company limits transactions with specific counterparties, reviews
credit limits and adheres to internally established credit extension policies.
For futures contracts and options on futures contracts, the change in the market
value is settled with the exchanges in cash each day. As a result, the credit
risk with the futures exchange is limited to the net positive change in the
market value for a single day.
The Company generally enters into forward and futures transactions for periods
of 90 days or less. The remaining maturities for all forwards and futures are
less than 13 months.
Off-balance sheet values:
December 31,
1998 1997
---- ----
(In millions)
Forward Contracts:
Purchased at notional (contract) value........... $ 41,254 $ 18,366
Sold at notional (contract) value................ $ 39,767 $ 27,028
Futures Contracts and Options on Futures Contracts:
Purchased at market value........................ $ 1,184 $ 988
Sold at market value............................. $ 1,607 $ 2,767
Values included in the consolidated financial statements:
December 31,
1998 1997
---- ----
(In millions)
Forward Contracts:
Average fair values included in liabilities during
the year........................................ $ 2 $ 2
Unrealized gains included in total assets at
year-end........................................ $ 263 $ 56
Unrealized losses included in total liabilities
at year-end..................................... $ 269 $ 50
Futures Contracts:
Average fair values included in (liabilities)
assets during the year.......................... $ (23) $ 1
Unrealized gains included in total assets at
year-end........................................ $ 4 $ -
Unrealized losses included in total liabilities
at year-end..................................... $ 1 $ 2
Average fair values were computed using month-end averages. For forward
contracts, the fair values are estimated based on dealer quotes, pricing models
or quoted prices for financial instruments with similar characteristics. For
futures contracts, the fair values are measured by reference to quoted market
prices.
Net trading gains (losses) on forward contracts were $7.0 million, $(5.1)
million and $39.0 million and net trading gains (losses) on futures contracts
were $(86.0) million, $(24.0) million and $8.0 million for the years ended
December 31, 1998, 1997 and 1996, respectively.
Swaps
The notional (contract) value of swap agreements, consisting primarily of
interest rate and equity swaps, was approximately $8.0 billion and $686.9
million at December 31, 1998 and December 31, 1997, respectively. The notional
or contract amounts indicate the extent of the Company's involvement in the
derivative instruments noted above. They do not measure the Company's exposure
to market or credit risk and do not represent the future cash requirements of
such contracts.
9. Financial Instruments With Off-Balance Sheet Risk
In the normal course of business, the Company's customer, trading and
correspondent clearance activities include executing, settling and financing
various securities and financial instrument transactions. To execute these
transactions, the Company purchases and sells (including "short sales")
29
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
securities, writes options, and purchases and sells forward contracts for
mortgage-backed securities and foreign currencies and financial futures
contracts. If the customer or counterparty to the transaction is unable to
fulfill its contractual obligations, and margin requirements are not sufficient
to cover losses, the Company may be exposed to off-balance sheet risk. In these
situations, the Company may be required to purchase or sell financial
instruments at prevailing market prices, which may not fully cover the
obligations of its customers or counterparties. This risk is limited by
requiring customers and counterparties to maintain margin collateral that
complies with regulatory and internal guidelines. Additionally, with respect to
the Company's correspondent clearance activities, introducing correspondent
brokers are required to guarantee the performance of their customers to meet
contractual obligations.
As part of the Company's financing and securities settlement activities, the
Company uses securities as collateral to support various secured financing
sources. If the counterparty does not meet its contracted obligation to return
securities used as collateral, the Company may be exposed to the risk of
reacquiring the securities at prevailing market prices to satisfy its
obligations. The Company controls this risk by monitoring the market value of
securities pledged each day and by requiring collateral levels to be adjusted in
the event of excess market exposure. As of December 31, 1998, pledged securities
with a market value of approximately $2.1 billion are used as collateral for
securities borrowed with a market value of approximately $2.1 billion. In
accordance with industry practice, these securities borrowed and pledged are not
reflected in the consolidated statements of financial condition.
The Company enters into forward contracts under which securities are delivered
or received in the future at a specified price or yield. If counterparties are
unable to perform under the terms of the contracts or if the value of securities
and interest rates changes, the Company is exposed to risk. Such risk is
controlled by monitoring the market value of the securities contracted for each
day and by reviewing the creditworthiness of the counterparties. The settlement
of these transactions is not expected to have a material adverse effect on the
Company's consolidated financial statements.
Risks associated with letters of credit, guarantees and underwriting commitments
are not significant.
10. Concentrations of Credit Risk
As a securities broker and dealer, the Company is engaged in various securities
trading and brokerage activities servicing a diverse group of domestic and
foreign corporations, governments, and institutional and individual investors. A
substantial portion of the Company's transactions is executed with and on behalf
of institutional investors including other brokers and dealers, mortgage
brokers, commercial banks, U.S. government agencies, mutual funds and other
financial institutions. These transactions are generally collateralized. Credit
risk is the amount of accounting loss the Company would incur if a counterparty
failed to perform its obligations under contractual terms and the collateral
held, if any, was deemed insufficient. This credit risk can be directly affected
by volatile securities markets, credit markets and regulatory changes. To
establish exposure limits for a variety of transactions, all counterparties are
reviewed regularly. In certain cases, specific transactions are analyzed to
determine the amount of potential exposure that could arise, and the
counterparty's credit is reviewed to determine whether it supports such
exposure. The Company also analyzes market movements that could affect exposure
levels. To set trading limits, the Company considers the following four factors:
the settlement method; the time it will take for a trade to settle (i.e., the
maturity of the trade); the volatility that could affect the value of the
securities involved in the trade; and the size of the trade. The Company
actively manages the credit exposure relating to its trading activities by
entering into master netting agreements when feasible; monitoring the
creditworthiness of counterparties and the related trading limits on an ongoing
basis; requesting additional collateral when deemed necessary; diversifying and
limiting exposure to individual counterparties and geographic locations; and
limiting the duration of exposure. In certain cases, the Company may also close
out transactions or assign them to other counterparties.
The Company's customer securities activities are transacted either in cash or on
a margin basis, in which the Company extends credit to the customer. The Company
seeks to control the risks associated with its customer activities by requiring
customers to maintain margin collateral to comply with various regulatory and
internal guidelines. Each day, the Company monitors required margin levels and
requires customers to deposit additional collateral, or reduce positions, when
necessary.
11. Preferred Securities
In 1996, the Company and its wholly owned trust, DLJ Capital Trust I (the
"Trust"), completed an offering of $200.0 million of the Trust's 8.42%
mandatorily redeemable preferred securities. The Trust exists for
30
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
the sole purpose of issuing preferred securities and common securities and
investing the proceeds in an equivalent amount of junior subordinated debentures
of the Company. At December 31, 1998 and 1997, the only assets of the Trust were
$200.0 million of 8.42% Junior Subordinated Debentures of the Company due 2046.
The Junior Subordinated Debentures are redeemable by the Company, in whole or in
part, on or after August 31, 2001. The Trust must redeem its preferred
securities having an aggregate liquidation amount equal to the aggregate
principal amount of junior subordinated debentures redeemed.
To the extent the Company has made principal and interest payments on the Junior
Subordinated Debentures, the Company guarantees payment to the holders of the
preferred securities issued by the Trust. The Company has issued a full and
unconditional guarantee of the Trust's obligations under the preferred
securities of the Trust.
12. Stockholders' Equity
In January 1998, under a shelf registration statement filed previously, the
Company issued 3.5 million shares of Fixed/Adjustable Rate Cumulative Preferred
Stock, Series B, with a liquidation preference of $50.00 per share ($175.0
million aggregate liquidation value). Dividends on the preferred stock are
cumulative and payable quarterly at 5.30% per annum through January 2003,
subject to adjustment in later years. The preferred stock is redeemable, in
whole or in part, at the option of the Company, on or after January 15, 2003.
In 1998 and 1997, respectively, approximately 4.4 million and 1.8 million
restricted stock units ("RSU's") vested and were converted into common stock
from the Company's authorized and unissued shares. Approximately 3.0 million of
these shares were deposited in a grantor trust pursuant to the Executive
Deferred Compensation Plan, which was effective January 1, 1997. In October
1998, approximately 1.8 million of such shares were distributed by the trust to
employees.
In July 1998, the Emerging Issues Task Force ("EITF") reached a consensus on
EITF Issue 97-14, "Accounting for Deferred Compensation Arrangements Where
Amounts Earned are Held in a Rabbi Trust and Invested" ("EITF 97-14"). Under
EITF 97-14, assets of the trust should be consolidated with those of the
employer and the value of the employer's stock held in the rabbi trust should be
classified in stockholders' equity in a manner similar to Treasury Stock. The
Company adopted EITF 97-14 as of September 30, 1998. At December 31, 1998,
approximately 1.2 million shares of the Company's stock are included in the
rabbi trust. The shares and the corresponding liability to employees are shown
as components of stockholders' equity in the Company's consolidated statements
of financial condition.
In July 1998, the Company sold an aggregate of five million shares of newly
issued common stock to its parent companies, Equitable and AXA for $300.0
million in a transaction exempt from the registration requirements of the
Securities Act. As a result, Equitable and its affiliates' beneficial ownership
of the Company increased to approximately 73 percent on an undiluted basis.
In 1997, the Company exercised its option to redeem all of the outstanding
convertible debentures issued in connection with the acquisition of a London
based financial advisory firm. As a result, the holders of such debentures
elected to convert such debentures into an aggregate of 1,370,408 shares of
common stock of the Company.
In 1996, the Company issued 4.0 million shares of Fixed/Adjustable Rate
Cumulative Preferred Stock, Series A, with a liquidation preference of $50.00
per share. Dividends on the preferred stock are cumulative and payable quarterly
at 5.94% per annum through November 30, 2001. Thereafter, the dividend rate will
be adjusted, based on various indices, to be at least 6.44% but less than
12.44%. The preferred stock is redeemable, in whole or in part, at the option of
the Company, on or after November 30, 2001. At December 31, 1998 and 1997, 4.0
million shares of such preferred stock were authorized, issued and outstanding.
13. Earnings per Share
Basic and diluted earnings per common share amounts are calculated by dividing
earnings applicable to common shares (net income less preferred dividends) by
the weighted average common shares outstanding. Diluted earnings per common
share also include the dilutive effects of shares of common stock issuable under
the Restricted Stock Unit Plan, and options and convertible debt under the
treasury stock method and "if-converted" method, respectively. In February 1998,
approximately 4.4 million RSU's
31
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
vested and were converted into the Company's common stock; this transaction is
included in the calculation of earnings per common share. All earnings per share
amounts have been restated for the effect of the stock split.
The numerators and denominators of the basic and diluted earnings per common
share computations include the following reconciling items:
<TABLE>
<CAPTION>
December 31, December 31, December 31,
1998 1997 1996
------------ ------------ ------------
Income Shares Income Shares Income Shares
------ ------ ------ ------ ------ ------
(in thousands)
<S> <C> <C> <C> <C> <C> <C>
Basic EPS
Earnings applicable to common
shares...................... $ 349,490 119,260 $ 396,106 110,318 $ 272,647 106,600
Effect of Dilutive Securities
Restricted stock units...... - 2,348 - 7,046 - 10,304
Stock options............... - 10,372 - 7,660 - 1,808
Convertible debt............ - - 308 474 - -
--------- -------- ---------- --------- --------- --------
Diluted EPS..................... $ 349,490 131,980 $ 396,414 125,498 $ 272,647 118,712
========= ======== ========== ========= ========= ========
</TABLE>
14. Employee Compensation and Benefit Plans
1996 Incentive Compensation Plan
Awards under the 1996 Incentive Compensation Plan (the "Incentive Plan") are
determined by the Compensation and Management Committee of the Board of
Directors (the "Compensation Committee"). The Incentive Plan creates short-term
and long-term award pools for key employees of the Company. Short-term award
pools are for a performance period up to two years and are based on 10% of
pre-tax earnings, as defined. Long-term award pools are for a performance period
of three to ten years and are based on a percentage of pre-tax earnings that
varies with the Company's average return on common equity during the performance
period. Participants may receive awards in cash, options, shares or restricted
stock units; however, stock-based payments are limited to a total of 17.6
million shares. Under certain circumstances participants may defer the receipt
of part or all of any award. Each unit granted under the Plan is equal to a
percentage interest in the long-term award pool. The units vest at the rate of
33 1/3% per year during the performance period. During 1997, the Compensation
Committee authorized a long-term award pool for the performance period from
January 1, 1997 to December 31, 1999. For the years ended December 31, 1998,
1997 and 1996, the amount charged to expense was $165.5 million, $185.5 million
and $190.5 million, respectively.
1995 Restricted Stock Unit Plan
In 1995, the Company adopted the 1995 Restricted Stock Unit Plan (the "Plan").
Each RSU granted under the Plan represents the right to receive a share of
common stock under certain circumstances. These RSU's may be forfeited in
certain circumstances and vest annually in specified proportions from February
1997 through February 2000. RSU's that are forfeited will become available for
subsequent grants. Under the Plan, 10,358,294 units were granted. As of December
31, 1998, 212,954 RSU's were forfeited and 8,063,104 RSU's vested and were
converted to common stock from the Company's authorized and unissued shares.
Stock Option Plans
In 1995, the Company adopted the 1995 and 1996 Stock Option Plans. Under the
1995 Stock Option Plan, options were granted to certain employees to purchase an
aggregate of 18,337,356 shares of Common Stock (the maximum allowable under the
1995 Stock Option Plan) with an exercise price of $13.50. The options may be
forfeited in certain circumstances, vested in equal installments in February
1997 and February 1998, and are exercisable for up to ten years from the date of
the grant. Options that are forfeited under the 1995 Stock Option Plan will
become available for subsequent grant under the 1996 Stock Option Plan.
Under the 1996 Stock Option Plan (the "1996 Plan") options are available to
purchase a maximum of 17,579,702 shares of Common Stock, exclusive of
forfeitures from the 1995 Stock Option Plan. The options are exercisable for up
to ten years from the date of grant, may be forfeited in certain
32
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
circumstances, and vest in four equal annual installments starting one year
after the date of grant. Options that are forfeited under the 1996 Plan become
available for subsequent grant under that plan.
In 1996, the Company adopted the Non-Employee Directors Stock Plan (the "Stock
Plan") to provide equity compensation to the Company's non-employee directors.
Under the Stock Plan, stock options are granted at a price equal to the fair
value of the stock at the date of grant. The options are exercisable for up to
10 years from the date of grant and vest in four equal annual installments
starting one year from the date of grant. Under the Stock Plan, 200,000 shares
are issuable. Any shares issued under the Stock Plan will reduce the number of
shares issuable under the 1996 Plan.
The following summarizes the stock option activity for all plans:
<TABLE>
<CAPTION>
Weighted Average
Options Exercise Price
--------- ----------------
<S> <C> <C>
Outstanding at December 31, 1995..................... 18,337,356 $ 13.50
----------- -------
Granted.............................................. 4,268,000 $ 16.27
Forfeited............................................ (344,692) $ 13.50
------------- -------
Outstanding at December 31, 1996..................... 22,260,664 $ 14.03
----------- -------
Granted.............................................. 6,431,668 $ 30.54
Forfeited............................................ (133,866) $ 16.01
Exercised............................................ (296,370) $ 13.76
------------ -------
Outstanding at December 31, 1997..................... 28,262,096 $ 17.78
----------- -------
Granted.............................................. 1,508,489 $ 38.59
Forfeited............................................ (60,000) $ 17.31
Exercised............................................ (1,458,366) $ 14.91
------------ -------
Outstanding at December 31, 1998..................... 28,252,219 $ 19.04
=========== =======
</TABLE>
The following summarizes information related to stock options outstanding at
December 31, 1998:
<TABLE>
<CAPTION>
Weighted Average Weighted Average
Exercise Prices Number Outstanding Exercise Price Remaining Life (Years)
--------------- ------------------ ---------------- ----------------------
<S> <C> <C> <C>
$13.50-25.99 22,268,858 $ 14.59 7.1
$26.00-38.99 5,048,672 $ 33.94 8.8
$39.00-52.875 934,689 $ 44.65 9.4
---------- ------- ---
Total 28,252,219 $ 19.04 7.5
========== ======= ===
</TABLE>
At December 31, 1998, 21,378,671 options were exercisable at prices ranging from
$13.50 to $38.00. The weighted average exercise price of such options was
$15.05. At December 31, 1997, there were 9,885,382 options exercisable at
exercise prices ranging from $13.50 to $17.99. The weighted average exercise
price of these options was $13.79. At December 31, 1996, no options were
exercisable.
The Company accounts for its stock option plans in accordance with APB Opinion
No. 25 and, accordingly, does not recognize any compensation cost associated
with such plans in the consolidated financial statements. If the Company had
calculated compensation cost under SFAS No. 123 (based on the fair value at the
grant date), the Company would have reported the following net income and
earnings per common share:
<PAGE>
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C> <C>
Net income (in thousands) As reported $ 370,800 $ 408,250 $ 291,300
Pro forma $ 349,700 $ 388,000 $ 273,700
Basic earnings per common share As reported $ 2.93 $ 3.59 $ 2.56
Pro forma $ 2.75 $ 3.41 $ 2.40
Diluted earnings per common share As reported $ 2.65 $ 3.16 $ 2.30
Pro forma $ 2.49 $ 3.00 $ 2.18
</TABLE>
33
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
The fair value of each option is estimated on the date of grant using the
Black-Scholes option-pricing model. For options granted during 1998, 1997 and
1996, respectively, the Company used the following weighted average assumptions:
dividend yield of 0.69%, 0.86% and 1.54%; expected volatility of 40%, 33% and
25%; risk-free interest rates of 5.53%, 5.96% and 6.07%; and an expected life of
five years for all grants. The weighted average fair value per share of options
granted during 1998, 1997 and 1996 was $16.27, $10.81, and $4.03, respectively.
Other Plans
The Company has a defined contribution employee benefit plan covering
substantially all of the Company's full-time and certain qualified part-time
employees. Company contributions to this plan are determined by the Board of
Directors of the Company annually and were $9.6 million, $9.6 million and $7.4
million for 1998, 1997 and 1996, respectively.
Certain key employees of the Company also participate in the following deferred
compensation arrangements: equity investments in selected merchant banking
activities of the Company funded by deferred compensation; certain non-funded,
non-qualified deferred compensation plans that include managed investments; and
other non-qualified plans that are funded by the Company with insurance
contracts.
15. Leases, Commitments and Contingent Liabilities
The Company leases office space and equipment under cancelable and
non-cancelable lease agreements that expire on various dates through 2021. Rent
expense for the years ended December 31, 1998, 1997 and 1996 was $115.6 million,
$89.9 million and $76.6 million, respectively. Sublease revenue was $0.1 million
for each of the years ended December 31, 1998 and 1997 and $1.0 million for the
year ended December 31, 1996.
At December 31, 1998, non-cancelable leases in excess of one year, excluding
sublease revenue, escalation and renewal options had the following minimum lease
commitments:
Period
------ (In thousands)
1999......................... $ 116,947
2000......................... 109,589
2001......................... 106,680
2002......................... 107,463
2003......................... 104,923
2004-2021.................... 1,573,867
------------
Total................. $ 2,119,469
===========
In the normal course of business, the Company enters into underwriting
commitments. Transactions relating to such underwriting commitments that were
open at December 31, 1998, and were subsequently settled, had no material effect
on the consolidated financial statements. The Company also issues letters of
credit for which it is contingently liable for $657.5 million and $244.0 million
at December 31, 1998 and 1997, respectively.
The Company has outstanding commitments, expiring on March 16, 2000, to finance
$150.0 million to third parties to be secured by mortgage loans on real estate
properties. At December 31, 1998, unfunded commitments outstanding under this
facility amounted to $74.0 million. In addition, the Company enters into
commitments to extend credit to non-investment grade borrowers in connection
with the origination and syndication of senior bank debt. At December 31, 1998,
unfunded senior bank loan commitments outstanding were $589.5 million.
At December 31, 1998, the Company has commitments of $718.0 million to invest on
a side-by-side basis with merchant banking partnerships.
16. Industry Segment and Geographic Area Data
In 1998 and prior years, the Company operated in three principal segments in the
financial service industry: Banking Group, Capital Markets Group and Financial
Services Group. Such segments are
34
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
managed separately based on types of products and services offered and their
related client bases. The Company evaluates the performance of its segments
based primarily on income before income taxes.
o The Banking Group raises and invests capital and provides financial advice
to companies throughout the U.S. and abroad. Through this group, the
Company manages and underwrites public offerings of securities, arranges
private placements, provides client advisory and other services, pursues
direct investments in a variety of areas and provides venture capital to
institutional investors.
o The Capital Markets Group trades, conducts research on, originates and
distributes equity and fixed-income securities, and places private equity
investments.
o The Financial Services Group provides a broad array of services to
individual and high-net-worth investors and the financial intermediaries
that represent them, including correspondent brokerage services, online
investment services, research and trading services, cash management and
investment advisory services.
For internal management reporting, the Company allocates certain revenues to its
operating segments in excess of the amount realized on the related transactions.
Such excess amounts are eliminated in consolidation. The Company also allocates
to segments a pro rata share of amounts for leased facilities, equipment and
certain general overhead expenses based upon specified amounts, usage criteria
or agreed rates, and allocates interest expense based upon capital utilization
at rates that approximate market. All other accounting policies of the segments
are the same as those described in the summary of significant accounting
policies.
<TABLE>
<CAPTION>
Capital Financial
Banking Markets Services Elimination
Group Group Group and Other Total
------- ------- --------- ----------- -----
(in millions)
<S> <C> <C> <C> <C> <C>
December 31, 1998:
- ------------------
Net revenues from external sources.......... $ 1,488.0 $ 1,139.1 $ 979.0 $ (388.2) $ 3,217.9
---------- --------- --------- ---------- ---------
Net intersegment revenues................... - (3.9) 54.2 (50.3) 0.0
---------- --------- --------- ---------- ---------
Net interest revenue........................ (1.2) 138.1 215.2 381.2 733.3
---------- --------- --------- ---------- ---------
Depreciation and amortization............... 19.2 27.8 31.5 9.6 88.1
---------- --------- --------- ---------- ---------
Income before income taxes.................. 415.8 190.8 185.6 (191.7) 600.5
---------- --------- --------- ---------- ---------
Segment assets.............................. $ 1,132.1 $48,378.5 $19,925.0 $ 2,846.6 $72,282.2
---------- --------- --------- ---------- ---------
Expenditures for long-lived assets.......... $ 37.4 $ 26.9 $ 77.3 $ 12.2 $ 153.8
---------- --------- --------- ---------- ---------
December 31, 1997:
- ------------------
Net revenues from external sources.......... $ 1,216.7 $ 1,156.7 $ 793.6 $ (178.4) $ 2,988.6
---------- --------- --------- ---------- ---------
Net intersegment revenues................... 1.3 0.7 46.0 (48.0) 0.0
---------- --------- --------- ---------- ---------
Net interest revenue........................ 2.2 104.8 169.3 222.4 498.7
---------- --------- --------- ---------- ---------
Depreciation and amortization............... 15.0 21.0 16.6 7.5 60.1
---------- --------- --------- ---------- ---------
Income before income taxes.................. 381.9 319.4 157.6 (197.8) 661.1
---------- --------- --------- ---------- ---------
Segment assets.............................. $ 709.6 $47,950.1 $18,124.3 $ 3,721.8 $70,505.8
---------- --------- --------- ---------- ---------
Expenditures for long-lived assets.......... $ 68.7 $ 44.0 $ 83.1 $ 28.2 $ 224.0
---------- --------- --------- ---------- ---------
December 31, 1996:
- ------------------
Net revenues from external sources.......... $ 841.4 $ 964.4 $ 680.4 $ (69.7) $ 2,416.5
---------- --------- --------- ---------- ---------
Net intersegment revenues................... 0.8 (1.1) 32.5 (32.2) 0.0
---------- --------- --------- ---------- ---------
Net interest revenue........................ 11.2 105.1 114.7 110.0 341.0
---------- --------- --------- ---------- ---------
Depreciation and amortization............... 8.5 18.3 20.2 5.9 52.9
---------- --------- --------- ---------- ---------
Income before income taxes.................. 265.9 271.0 142.2 (205.3) 473.8
---------- --------- --------- ---------- ---------
Segment assets.............................. $ 416.9 $42,104.2 $ 8,903.8 $ 4,078.8 $55,503.7
---------- --------- --------- ---------- ---------
Expenditures for long-lived assets.......... $ 16.9 $ 21.7 $ 43.4 $ 60.6 $ 142.6
---------- --------- --------- ---------- ---------
</TABLE>
<PAGE>
The Company ceased its proprietary trading in emerging markets in September 1998
and eliminated the bulk of its trading positions during the fourth quarter of
1998. As a result of this and a subsequent reorganization, the activities of the
Emerging Markets Group are included in the Elimination and Other
35
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
column in the above table. Related net revenues from external sources were $5.0
million, $117.8 million and $109.9 million and earnings (losses) before income
taxes were $(58.7) million, $32.5 million and $28.1 million for 1998, 1997 and
1996, respectively. The related assets were $1,124.2 million, $2,680.3 million
and $3,565.8 million at December 31, 1998, 1997 and 1996, respectively.
The following is a reconciliation of the Company's reported segment revenues,
income before provision for income taxes and segment assets to the Company's
consolidated totals:
<TABLE>
<CAPTION>
December 31, December 31, December 31,
1998 1997 1996
--------------------------------------------------
(in millions)
<S> <C> <C> <C>
Revenues:
Total net revenues for reported segments............. $ 4,008.5 $ 3,491.3 $ 2,749.4
All other revenues................................... 148.7 166.2 147.7
Consolidation/elimination (1)........................ (206.0) (170.2) (139.6)
--------- ---------- ----------
Total consolidated net revenues................... $ 3,951.2 $ 3,487.3 $ 2,757.5
========= ========= =========
Income before provision for income taxes:
Total income for reported segments..................... $ 792.2 $ 858.9 $ 679.1
All other income (losses).............................. 46.0 (25.7) (69.6)
Consolidation/elimination (1).......................... (237.7) (172.1) (135.7)
---------- ---------- ---------
Total income before provision for income taxes...... $ 600.5 $ 661.1 $ 473.8
========== ========== ========
Segment assets:
Total assets for reported segments..................... $ 69,435.6 $ 66,784.0 $ 51,424.9
All other assets....................................... 2,717.8 4,026.6 4,151.1
Consolidation/elimination (1).......................... 128.8 (304.8) (72.3)
---------- ---------- ----------
Total segment assets................................ $ 72,282.2 $ 70,505.8 $ 55,503.7
========== ========== ==========
</TABLE>
(1) Consolidation/elimination represents intercompany accounts/intersegment
revenue-sharing arrangements that are eliminated in consolidation.
The Company's principal operations are located in the United States. The Company
maintains offices in Europe, Latin America and Asia, with the majority of
business done through the London offices. The following are net revenues by
geographic region:
<TABLE>
<CAPTION>
December 31, December 31, December 31,
1998 1997 1996
--------------------------------------------------
(in millions)
<S> <C> <C> <C>
United States.......................................... $ 3,623.9 $ 3,116.2 $ 2,474.3
Emerging markets....................................... 5.0 117.8 109.9
Other foreign.......................................... 322.3 253.3 173.3
---------- ---------- ----------
Total............................................ $ 3,951.2 $ 3,487.3 $ 2,757.5
========== ========= ==========
</TABLE>
For the year ended December 31, 1998, foreign net revenues decreased primarily
as a result of the reduction in revenues in the Emerging Markets Group of $112.8
million.
The following are long-lived assets by geographic region:
<TABLE>
<CAPTION>
<S> <C> <C> <C>
United States......................................... $ 384.7 $ 356.3 $ 277.2
Foreign............................................... 128.0 98.9 14.2
------- ------- -------
Total........................................... $ 512.7 $ 455.2 $ 291.4
======= ======= =======
</TABLE>
36
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
17. Legal Proceedings
The Company has been named as a defendant in a number of actions relating to its
various businesses including various civil actions and arbitrations arising out
of its activities as a broker-dealer in securities, as an underwriter and as an
employer and arising out of alleged employee misconduct. From time to time, the
Company is also involved in proceedings with, and investigations by, government
agencies and self-regulatory organizations. Some of the actions have been
brought on behalf of various classes of claimants and seek damages of material
or indeterminate amounts. Although the ultimate outcome of litigation involving
the Company cannot be predicted with certainty, after reviewing these actions
with its counsel, management believes it has meritorious defenses to all such
actions and intends to defend each of these vigorously.
Although there can be no assurance that such actions, proceedings,
investigations and litigation will not have a material adverse effect on the
results of operations of the Company in any future period, depending in part on
the results for such period, in the opinion of management of the Company, based
upon advice of counsel, the ultimate resolution of such actions, proceedings,
investigations and litigation against the Company will not have a material
adverse effect on the consolidated financial condition and/or results of
operations of the Company; except that, for the four actions described below,
based upon information currently available to it, management cannot predict
whether or not such litigation will have a material adverse effect on the
Company's results of operations in any particular period.
Beginning on March 25, 1991, Dayton Monetary Associates and Charles Davison,
along with more than 200 other plaintiffs, filed several complaints against
DLJSC and a number of other financial institutions and several individuals in
the U.S. District Court for the Southern District of New York. The plaintiffs
allege that DLJSC and other defendants violated civil provisions of RICO by
inducing plaintiffs to invest over $40 million during the years 1978 through
1982 in The Securities Groups, a number of tax shelter limited partnerships. The
plaintiffs seek recovery of the loss of their entire investment and an
approximately equivalent amount of tax-related damages. Judgments for damages
under RICO are subject to trebling. Discovery is complete. DLJSC's motions for
summary judgments were denied in April 1998. Trial has been scheduled for May
17, 1999. DLJSC believes that it has meritorious defenses to the complaints and
is contesting the suits vigorously.
In October 1995, DLJSC was named as a defendant in a purported class action
filed in a Texas State Court on behalf of the holders of $550.0 million
principal amount of subordinated redeemable discount debentures of National
Gypsum Corporation ("NGC") canceled in connection with a Chapter 11 plan of
reorganization for NGC consummated in July 1993. The State Court named plaintiff
also filed an adversary proceeding in the U.S. Bankruptcy Court for the Northern
District of Texas seeking a declaratory judgment that the confirmed NGC plan of
reorganization does not bar the class action claims. Subsequent to the
consummation of NGC's plan of reorganization, NGC's shares traded for values
substantially in excess of, and in 1995 NGC was acquired for a value
substantially in excess of, the values upon which NGC's plan of reorganization
was based. The two actions arise out of DLJSC's activities as financial advisor
to NGC in the course of NGC's Chapter 11 reorganization proceedings. The class
action complaint alleges that the plan of reorganization submitted by NGC was
based upon projections by NGC and DLJSC which intentionally understated
forecasts, and provided misleading and incorrect information to hide NGC's true
value and that defendants breached their fiduciary duties by, among other
things, providing false, misleading or incomplete information to deliberately
understate the value of NGC. The class action complaint seeks compensatory and
punitive damages purportedly sustained by the class. On October 10, 1997, DLJSC
and others were named as defendants in a new adversary proceeding in the
Bankruptcy Court brought by the NGC Settlement Trust, an entity created by the
NGC plan of reorganization to deal with asbestos-related claims. The Trust's
allegations are substantially similar to the claims in the State Court action.
On January 21, 1998, the Bankruptcy Court ruled that the State Court plaintiff's
claims were not barred by the NGC plan of reorganization insofar as they alleged
nondisclosure of certain cost reductions announced by NGC in October 1993. DLJSC
has appealed the Bankruptcy Court's ruling. On May 7, 1998, DLJSC and others
were named as defendants in a second action in a Texas State Court brought by
the NGC Settlement Trust. The allegations of this second Texas State Court
action are substantially similar to those of the earlier class action pending in
State Court. In an amended order dated January 5, 1999, the State Court granted
the class action plaintiff's motion for class certification. Discovery is
proceeding in both State Court actions. In early February 1999, DLJSC filed
motions for summary judgment which are pending. Trial in the two State Court
actions is expected in May 1999. DLJSC intends to defend itself vigorously
against all of the allegations contained in the complaints.
37
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
On January 26, 1996, a purported purchaser of certain notes and warrants to
purchase shares of common stock of Rickel Home Centers, Inc. ("Rickel") filed a
class action complaint against DLJSC and certain other defendants for
unspecified compensatory and punitive damages in the U. S. District Court for
the Southern District of New York. The suit was brought on behalf of the
purchasers of 126,457 units consisting of $126,457,000 aggregate principal
amount of 13 1/2% senior notes due 2001 and 126,457 warrants to purchase shares
of common stock of Rickel (the "Units") issued by Rickel in October 1994. The
complaint alleges violations of federal securities laws and common law fraud
against DLJSC, as the underwriter of the Units and as an owner of 7.3% of the
common stock of Rickel, Eos Partners, L.P. and General Electric Capital
Corporation, each as owners of 44.2% of the common stock of Rickel, and members
of the board of directors of Rickel, including a DLJSC managing director. The
complaint seeks to hold DLJSC liable for alleged misstatements and omissions
contained in the prospectus and registration statement filed in connection with
the offering of the Units, alleging that the defendants knew of financial losses
and a decline in value of Rickel in the months prior to the offering and did not
disclose such information. The complaint also alleges that Rickel failed to pay
its semi-annual interest payment due on the Units on December 15, 1995 and that
Rickel filed a voluntary petition for reorganization pursuant to Chapter 11 of
the Bankruptcy Code on January 10, 1996. In April 1998, DLJSC's motion to
discuss the complaint against it was denied, and plaintiff's motion for class
certification was denied. In December 1998, the motion of two other potential
class representatives to intervene in the action was denied. DLJSC intends to
defend itself vigorously against all of the allegations contained in the
complaint.
On January 24, 1997, various money management firms and others who allegedly
purchased and/or beneficially owned $116 million aggregate principal amount of
Senior Subordinated Notes (the "Notes") issued in May 1994 by Mid-American Waste
Systems, Inc. ("Mid-American") filed a complaint against DLJSC and a number of
other financial institutions and several former officers and directors of
Mid-American in the Court of Common Pleas, Franklin County, Ohio. The action
seeks rescission, compensatory and punitive damages. The suit alleges violations
of federal securities laws and the Ohio Securities Act, and common law fraud,
aiding and abetting common law fraud, negligent misrepresentation, breach of
contract, breach of fiduciary duty/acting in concert and negligence. DLJSC was
an underwriter for the initial offering of the Notes. The Notes went into
default in February 1996 and Mid-American filed a voluntary petition for
reorganization pursuant to Chapter 11 of the United States Bankruptcy Code in
January 1997. The complaint seeks to hold DLJSC liable for various alleged
misrepresentations and omissions contained in the prospectus for the Notes and
other filings and for various oral representations concerning the Notes, which
plaintiffs claim were false and misleading. Fact discovery is complete and
expert discovery is ongoing. Both DLJSC and plaintiffs filed motions for summary
judgment, all of which are pending. Trial is currently scheduled to commence on
May 4, 1999. Other alleged purchasers and/or beneficial owners of an additional
$15 million aggregate principal amount of the Notes issued by Mid-American
described above filed two additional lawsuits against DLJSC both in the U.S.
District Court for the Southern District of Ohio, on April 14, 1997 and December
30, 1997. The allegations are substantially similar to those described above.
Discovery in these actions, consolidated with fact discovery in the Ohio state
court action described above, is still ongoing. No trial date has been set in
either case. On July 31, 1998, DLJSC filed a motion to dismiss the later filed
action for lack of timely service of valid process, which is pending. DLJSC
believes that it has meritorious defenses to all of the allegations contained in
all of the complaints described above and is contesting the suits vigorously.
On January 20, 1999, the Plan Administrator for the bankruptcy estate of
Mid-American, represented by counsel for plaintiffs in the Ohio state court
action against DLJSC described above, filed another action against DLJSC and
other financial institutions, several individuals and two law firms in the
Supreme Court of the State of New York based on factual allegations similar to
those made in the Ohio state court action. The actions seeks compensatory and
punitive damages. The plaintiff alleges claims against DLJSC for breach of
fiduciary duty, aiding and abetting breach of fiduciary duty, professional
malpractice, common law fraud, constructive fraud, aiding and abetting common
law fraud, negligence, negligent misrepresentation and breach of contract. The
complaint alleges that, as an underwriter, DLJSC is liable for alleged
misrepresentations and omissions in the prospectus for the Mid-American Senior
Subordinated Notes, and that, as Mid-American's financial advisor after the
initial offering, DLJSC allegedly knew or should have known about and should
have disclosed to Mid-American that Mid-American's financial condition was
precarious and that publicly disclosed documents were false and misleading
regarding Mid-American's finances and operations. There has been no discovery or
other proceedings in this action. DLJSC believes that it has meritorious
defenses to all of the allegations contained in the complaint and will contest
the suit vigorously.
38
<PAGE>
DONALDSON, LUFKIN & JENRETTE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements-(Continued)
18. Quarterly Data (Unaudited)
<TABLE>
<CAPTION>
Income Basic Diluted
Before Earnings Earnings
Provision Per Per
Total For Income Net Common Common
Revenues Taxes Income Share* Share*
-------- ---------- ------- -------- --------
<S> <C> <C> <C> <C> <C>
1998:
First quarter................... $ 1,493,421 $ 217,250 $ 134,150 $ 1.12 $ 1.00
Second quarter.................. 1,556,745 230,500 142,300 1.17 1.05
Third quarter................... 1,069,827 41,600 25,700 0.17 0.15
Fourth quarter.................. 1,287,049 111,150 68,650 0.52 0.47
----------- --------- ---------- ------ ------
Total year........ $ 5,407,042 $ 600,500 $ 370,800 $ 2.93 $ 2.65
=========== ========= ========= ====== ======
1997:
First quarter................... 981,403 $ 144,000 $ 86,400 $ 0.77 $ 0.69
Second quarter.................. 1,061,180 167,000 100,200 0.88 0.79
Third quarter................... 1,268,496 188,100 120,300 1.06 0.93
Fourth quarter.................. 1,329,390 162,000 101,350 0.88 0.77
----------- --------- --------- ------ ------
Total year........ $ 4,640,469 $ 661,100 $ 408,250 $ 3.59 $ 3.16
=========== ========= ========= ====== ======
</TABLE>
* Due to the effect of averaging the number of shares of common stock and
common stock equivalents throughout the year, the sum of the quarters'
earnings per common share may not equal the total year amounts.
39
