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): March 12, 1996
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Merrill Lynch & Co., Inc.
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(Exact Name of Registrant as Specified in Charter)
Delaware 1-7182 13-2740599
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(State or Other (Commission (I.R.S. Employer
Jurisdiction of File Number) Identification No.)
Incorporation)
World Financial Center, North Tower, New York, New York 10281-1332
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(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (212) 449-1000
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(Former Name or Former Address, if Changed Since Last Report)
<PAGE>
Item 5. Other Events
- ---------------------
Exhibits are filed herewith in connection with various registration statements
filed from time to time by Merrill Lynch & Co., Inc. ("ML&Co."). These exhibits
set forth the audited financial statements for ML&Co. for its 1995 fiscal year
and other supplementary information.
Item 7. Financial Statements and Exhibits
- -----------------------------------------
(23) Independent Auditors' Consent
(99) Additional Exhibits
(i) -- Financial Highlights
-- Selected Financial Data
-- Management's Discussion and Analysis
-- Statements of Consolidated Earnings
-- Consolidated Balance Sheets
-- Statements of Changes in Consolidated Stockholders'
Equity
-- Statements of Consolidated Cash Flows
-- Notes to Consolidated Financial Statements
-- Independent Auditors' Report
-- Five-Year Financial Summary
-- Statistical Data
-- Quarterly Information
(ii) Independent Auditors' Report
2
<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.
MERRILL LYNCH & CO., INC.
-------------------------
(Registrant)
By: /s/ Joseph T. Willett
-----------------------
Joseph T. Willett
Senior Vice President,
Chief Financial Officer
Date: March 12, 1996
3
<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
MERRILL LYNCH & CO., INC.
EXHIBITS TO CURRENT REPORT ON
FORM 8-K DATED MARCH 12, 1996
Commission File Number 1-7182
<PAGE>
EXHIBIT INDEX
-------------
Exhibit No. Description
- ----------- -----------
(23) Independent Auditors' Consent
(99) Additional Exhibits
(i) -- Financial Highlights
-- Selected Financial Data
-- Management's Discussion and Analysis
-- Statements of Consolidated Earnings
-- Consolidated Balance Sheets
-- Statements of Changes in Consolidated Stockholders'
Equity
-- Statements of Consolidated Cash Flows
-- Notes to Consolidated Financial Statements
-- Independent Auditors' Report
-- Five-Year Financial Summary
-- Statistical Data
-- Quarterly Information
(ii) Independent Auditors' Report
4
EXHIBIT 23
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in the following Registration
Statements of Merrill Lynch & Co., Inc. (the "Company") of our reports dated
February 26, 1996 relating to the Company's 1995 financial statements and
related financial statement information which are included in the Company's
Current Report on Form 8-K dated March 12, 1996.
Filed on Form S-8:
Registration Statement No. 33-41942 (1986 Employee Stock Purchase Plan)
Registration Statement No. 33-17908 (Incentive Equity Purchase Plan)
Registration Statement No. 33-33336 (Long Term Incentive Compensation
Plan)
Registration Statement No. 33-51831 (Long Term Incentive Compensation
Plan)
Registration Statement No. 33-51829 (401(k) Savings and Investment Plan)
Registration Statement No. 33-54154 (Non-Employee Directors' Equity Plan)
Registration Statement No. 33-54572 (401(k) Savings and Investment Plan
(Puerto Rico))
Registration Statement No. 33-56427 (1994 Deferred Compensation Plan
for a Select Group of Eligible Employees)
Registration Statement No. 33-55155 (1995 Deferred Compensation Plan
for a Select Group of Eligible Employees)
Registration Statement No. 33-60989 (1995 Deferred Compensation Plan
for a Select Group of Eligible Employees)
Registration Statement No. 33-00863 (401(k) Savings & Incentive Plan)
<PAGE>
Filed on Form S-3:
Debt Securities
Registration Statement No. 33-54218
Registration Statement No. 2-78338
Registration Statement No. 2-89519
Registration Statement No. 2-83477
Registration Statement No. 33-03602
Registration Statement No. 33-17965
Registration Statement No. 33-27512
Registration Statement No. 33-35456
Registration Statement No. 33-42041
Registration Statement No. 33-45327
Registration Statement No. 33-49947
Registration Statement No. 33-51489
Registration Statement No. 33-52647
Registration Statement No. 33-60413
Registration Statement No. 33-61559
Registration Statement No. 33-65135
Medium Term Notes
Registration Statement No. 2-96315
Registration Statement No. 33-03079
Registration Statement No. 33-05125
Registration Statement No. 33-09910
Registration Statement No. 33-16165
Registration Statement No. 33-19820
Registration Statement No. 33-23605
Registration Statement No. 33-27549
Registration Statement No. 33-38879
Other Securities
Registration Statement No. 33-19975 (Remarketed Preferred Stock, Series C)
Registration Statement No. 33-33335 (Common Stock)
Registration Statement No. 33-45777 (Common Stock)
Registration Statement No. 33-55363 (Preferred Stock)
/s/ Deloitte & Touche LLP
New York, New York
March 12, 1996
Exhibit 99(i)
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FINANCIAL HIGHLIGHTS
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Graph titled "NET EARNINGS"
Presented is a bar graph (in millions) showing Merrill Lynch & Co., Inc.'s net
earnings for the past five years of $696, $894, $1,359, $1,017, and $1,114 for
the years ended 1991, 1992, 1993, 1994 and 1995, respectively.
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Graph titled "STOCKHOLDERS' EQUITY"
Presented is a bar graph (in millions) showing Merrill Lynch & Co., Inc.'s
stockholders' equity for the past five years of $3,818, $4,569, $5,486, $5,818
and $6,141 at year-end 1991, 1992, 1993, 1994 and 1995, respectively.
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Graph titled "RETURN ON AVERAGE COMMON STOCKHOLDERS' EQUITY"
Presented is a bar graph showing Merrill Lynch & Co., Inc.'s return on average
common stockholders' equity for the past five years of 20.8%, 22.0%, 27.3%,
18.6% and 20.1% for the years ended 1991, 1992, 1993, 1994 and 1995,
respectively.
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Graph titled "PRIMARY EARNINGS PER SHARE"
Presented is a bar graph showing Merrill Lynch & Co., Inc.'s primary earnings
per share for the past five years of $3.01, $3.92, $5.98, $4.75 and $5.44 for
the years ended 1991, 1992, 1993, 1994 and 1995, respectively.
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Graph titled "DIVIDENDS PAID PER COMMON SHARE"
Presented is a bar graph showing Merrill Lynch & Co., Inc.'s dividends paid per
common share for the past five years of $.50, $.575, $.70, $.89 and $1.01 for
the years ended 1991, 1992, 1993, 1994 and 1995, respectively.
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Graph titled "BOOK VALUE PER COMMON SHARE"
Presented is a bar graph showing Merrill Lynch & Co., Inc.'s book value per
common share for the past five years of $17.88, $21.37, $26.17, $28.87 and
$32.41 for the years ended 1991, 1992, 1993, 1994 and 1995, respectively.
<PAGE>
<TABLE><CAPTION>
Year Ended Last Friday in December
------------------------------------------------------
(Dollars in Millions, Except Per Share Amounts) 1991 1992 1993 1994 1995
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(52 Weeks) (52 Weeks) (53 Weeks) (52 Weeks) (52 Weeks)
<S> <C> <C> <C> <C> <C>
Operating Results
Total Revenues $12,353 $ 13,413 $ 16,588 $ 18,234 $ 21,513
Net Revenues $ 7,246 $ 8,577 $ 10,558 $ 9,625 $ 10,265
Net Earnings $ 696 $ 894 $ 1,359 $ 1,017 $ 1,114
Pretax Margin (a) 14.0% 18.9% 23.0% 18.0% 17.6%
Profit Margin (b) 9.6% 11.1% 13.2% 10.6% 10.8%
Return on Average Common
Stockholders' Equity 20.8% 22.0% 27.3% 18.6% 20.1%
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Financial Position
Total Assets $86,259 $107,024 $152,910 $163,749 $176,857
Total Stockholders' Equity $ 3,818 $ 4,569 $ 5,486 $ 5,818 $ 6,141
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Per Common Share
Primary Earnings $ 3.01 $ 3.92 $ 5.98 $ 4.75 $ 5.44
Fully Diluted Earnings $ 2.95 $ 3.91 $ 5.95 $ 4.74 $ 5.42
Dividends Paid $ .50 $ .575 $ .70 $ .89 $ 1.01
Book Value $ 17.88 $ 21.37 $ 26.17 $ 28.87 $ 32.41
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Private Client Assets (in Billions)
Assets in Worldwide Private
Client Accounts $ 440 $ 487 $ 557 $ 568 $ 703
Assets Under Management $ 124 $ 139 $ 161 $ 164 $ 196
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Global Debt and Equity
Underwriting (c)
Volume (in Billions) $ 109.9 $ 149.9 $ 191.9 $ 137.2 $ 147.7
Market Share 12.7% 13.0% 12.8% 12.6% 13.8%
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Full-Time Employees 38,300 40,100 41,900 43,800 46,000
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Common Shares
Outstanding (d) (in Millions) 205.4 207.2 204.0 181.5 171.4
</TABLE>
(a) Earnings Before Income Taxes and Cumulative Effect of Changes in Accounting
Principles to Net Revenues.
(b) Earnings Before Cumulative Effect of Changes in Accounting Principles to Net
Revenues.
(c) Full credit to book manager. All market share data are derived from
Securities Data Co.
(d) Does not include unallocated reversion shares held in the Employee Stock
Ownership Plan, which are not considered outstanding for accounting
purposes.
<PAGE>
SELECTED FINANCIAL DATA
<TABLE><CAPTION>
Year Ended Last Friday in December
----------------------------------------------------------
(Dollars in Millions, Except Per Share Amounts) 1995 1994 1993 1992 1991
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(52 Weeks) (52 Weeks) (53 Weeks) (52 Weeks) (52 Weeks)
<S> <C> <C> <C> <C> <C>
Operating Results
Revenues $ 21,513 $ 18,234 $ 16,588 $ 13,413 $ 12,353
Interest Expense 11,248 8,609 6,030 4,836 5,107
-------- -------- -------- -------- --------
Net Revenues 10,265 9,625 10,558 8,577 7,246
-------- -------- -------- -------- --------
Non-Interest Expenses 8,454 7,895 8,133 6,956 6,229
-------- -------- -------- -------- --------
Earnings Before Income Taxes and Cumulative Effect
of Changes in Accounting Principles 1,811 1,730 2,425 1,621 1,017
Income Tax Expense 697 713 1,031 669 321
-------- -------- -------- -------- --------
Earnings Before Cumulative Effect of Changes in
Accounting Principles $ 1,114 $ 1,017 $ 1,394 $ 952 $ 696
======== ======== ======== ======== ========
Net Earnings $ 1,114 $ 1,017 $ 1,359 $ 894 $ 696
======== ======== ======== ======== ========
Net Earnings Applicable to Common Stockholders $ 1,066 $ 1,004 $ 1,354 $ 887 $ 678
======== ======== ======== ======== ========
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Financial Position
Total Assets $176,857 $163,749 $152,910 $107,024 $ 86,259
Short-Term Borrowings (a) $ 86,363 $ 78,304 $ 79,632 $ 51,180 $ 38,698
Long-Term Borrowings $ 17,340 $ 14,863 $ 13,469 $ 10,871 $ 7,964
Total Stockholders' Equity $ 6,141 $ 5,818 $ 5,486 $ 4,569 $ 3,818
- ----------------------------------------------------------------------------------------------------------------------
Tax Information
Other Taxes, Principally Payroll and Property $ 291 $ 255 $ 223 $ 222 $ 191
Total Taxes (b) $ 988 $ 968 $ 1,254 $ 891 $ 513
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Common Share Data
(In Thousands, Except Per Share Amounts)
Primary:
Earnings Before Cumulative Effect of Changes in
Accounting Principles $ 5.44 $ 4.75 $ 6.14 $ 4.18 $ 3.01
Net Earnings $ 5.44 $ 4.75 $ 5.98 $ 3.92 $ 3.01
Fully Diluted:
Earnings Before Cumulative Effect of Changes in
Accounting Principles $ 5.42 $ 4.74 $ 6.11 $ 4.17 $ 2.95
Net Earnings $ 5.42 $ 4.74 $ 5.95 $ 3.91 $ 2.95
Weighted-Average Shares Outstanding:
Primary 195,997 211,241 226,331 226,402 225,350
Fully Diluted 196,660 211,695 227,480 226,854 229,916
Shares Outstanding at Year-End (c) 171,388 181,479 203,990 207,203 205,444
Shares Repurchased 20,012 29,989 16,346 10,654 5,920
Average Share Repurchase Price $ 46.95 $ 37.96 $ 42.55 $ 24.36 $ 19.70
Book Value $ 32.41 $ 28.87 $ 26.17 $ 21.37 $ 17.88
Total Taxes (b) $ 5.04 $ 4.58 $ 5.54 $ 3.94 $ 2.27
Dividends Paid $ 1.01 $ .89 $ .70 $ .575 $ .50
- ----------------------------------------------------------------------------------------------------------------------
Financial Ratios
Pretax Margin (d) 17.6% 18.0% 23.0% 18.9% 14.0%
Profit Margin (e) 10.8% 10.6% 13.2% 11.1% 9.6%
Common Dividend Payout 16.9% 17.5% 10.9% 13.5% 15.2%
Return on Average Assets 0.6% 0.6% 1.0% 0.8% 0.8%
Return on Average Common Stockholders' Equity 20.1% 18.6% 27.3% 22.0% 20.8%
Average Leverage 32.7x 32.0x 27.4x 25.1x 24.1x
Average Adjusted Leverage (f) 19.5x 18.9x 16.6x 15.9x 16.3x
- ----------------------------------------------------------------------------------------------------------------------
Other Statistics
Number of Full-Time Employees 46,000 43,800 41,900 40,100 38,300
Number of Financial Consultants and Account
Executives 13,800 13,400 13,100 12,700 12,100
</TABLE>
(a) Short-Term Borrowings include repurchase agreements, and commercial paper
and other short-term borrowings.
(b) Excludes $25 and $73 of income taxes in 1993 and 1992, respectively,
related to the cumulative effect of changes in accounting principles.
(c) Does not include 4,013, 6,427, 8,932, 11,202, and 13,637 unallocated
reversion shares held in the Employee Stock Ownership Plan at year-end
1995, 1994, 1993, 1992, and 1991, respectively, which are not considered
outstanding for accounting purposes.
(d) Earnings Before Income Taxes and Cumulative Effect of Changes in Accounting
Principles to Net Revenues.
(e) Earnings Before Cumulative Effect of Changes in Accounting Principles to
Net Revenues.
(f) Average total assets less average resale agreements and securities
borrowed to average total stockholders' equity.
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
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BUSINESS ENVIRONMENT
Merrill Lynch & Co., Inc. and its subsidiaries (collectively referred to as the
"Corporation") conduct their businesses in global financial markets that are
influenced by a number of factors, including economic and market conditions,
political events, and investor sentiment. The reaction of issuers and investors
to a particular condition or event is unpredictable and can increase volatility
in the marketplace. While higher volatility increases risk, it may also increase
order flow, which drives many of the Corporation's businesses. Other global
market and economic conditions, including the liquidity of secondary markets,
the level and volatility of interest rates, currency exchange rates, and
security valuations, competitive conditions, and the size, number, and timing of
transactions may also affect earnings. As a result, revenues and net earnings
can vary significantly from year to year, and from quarter to quarter.
Global financial markets, which steadily weakened during most of 1994,
generally improved during 1995, led by a more stable U.S. economy, declining
interest rates, and heightened investor activity. Inflationary fears eased
throughout 1995 as key U.S. economic statistics indicated slow to moderate
growth. The Federal Reserve decreased short-term interest rates in July and
December 1995 following seven rate increases between February 1994 and February
1995. Investors reacted favorably to these events and were more active in stock
and bond markets during 1995, contributing to higher earnings for most U.S.
securities firms.
U.S. equity markets posted significant gains in 1995, reflecting increases
in most industry sectors. The Dow Jones Industrial Average ("DJIA") daily
closing index reached a record high close of 5,216 during the 1995 fourth
quarter. The Nasdaq Composite Index also showed significant gains, particularly
in the technology sector, advancing 35% from year-end 1994, to close at 1,052.
In addition, the New York Stock Exchange ("NYSE") and Nasdaq average daily
trading volumes reached record levels in 1995.
The U.S. Treasury yield curve, the relationship between interest rates and
maturities, flattened during 1995 as long-term interest rates declined more than
short-term rates. The decline in long-term interest rates contributed to a rally
in the U.S. bond market and the third best year for fixed-income investors as
30-year U.S. Treasury bonds returned 34%, including reinvested interest.
Nevertheless, certain short duration fixed-income products were negatively
impacted throughout most of the year due to the flattening yield curve.
In many European countries, interest rates declined while stocks rose an
average of 12% in 1995, as measured by the Financial Times-Stock Exchange
Eurotrack 100 Index. In Asia, market performance was mixed. Hong Kong's Hang
Seng Index rose 23% during 1995, as short-term interest rates declined.
Conversely, Japan's Nikkei 225 Index was virtually unchanged for the year,
although the Japanese market rebounded in the second half of 1995 after hitting
a low for the year in July. Financial markets in the Americas (excluding the
U.S.) also experienced varied results. Toronto's Stock Exchange Index rose 12%,
as positive effects of declining interest rates were somewhat offset by
political uncertainty due to the independence referendum in Canada's Quebec
province. In Mexico, the Bolsa Index rose 17% in 1995. Nevertheless, economic
reforms, recession, and an exodus by foreign investors led to a substantial
devaluation of the peso in 1995, causing the Bolsa to drop 23% in U.S. dollar
terms.
The stronger U.S. and international financial markets in 1995 led to
increased retail investor activity, higher fee-based revenues, and improved
trading profits industrywide.
U.S. underwriting volume, which weakened industrywide throughout the last
three quarters of 1994 and the first quarter of 1995, improved steadily
throughout the remainder of 1995, leading to a slight increase over 1994. Issuer
activity increased, primarily in the last three quarters of 1995, due to rising
stock prices, lower interest rates, and heightened investor demand.
Strategic services revenues improved in 1995 due to record merger and
acquisition volume. Companies seeking strategic alliances were helped by a
stronger economy, higher cash flows related to improved operating results and
balance sheet restructurings, and continued globalization trends.
Fiscal 1995 was characterized by strong financial markets and improved
economic conditions. Nevertheless, the financial services industry is cyclical.
As a result, the Corporation's businesses are evaluated across market cycles for
profitability and alignment with long-term strategic objectives. The Corporation
seeks to mitigate the effect of market downturns by expanding its global
presence, monitoring costs and risks, and continuing to diversify revenue
sources.
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RESULTS OF OPERATIONS
Net earnings for 1995 were $1.1 billion or $5.44 per common share primary
($5.42 fully diluted), up 10% from 1994 earnings of $1.0 billion or $4.75 per
common share primary ($4.74 fully diluted). In 1993, net earnings reached a
record $1.4 billion or $5.98 per common share primary ($5.95 fully diluted). The
Corporation's return on average common stockholders' equity was 20.1% in 1995,
compared with 18.6% in 1994 and 27.3% in 1993.
Results for 1993 included a non-recurring pretax lease charge totaling $103
million ($60 million after income taxes), related to the Corporation's decision
to vacate certain space at the World Financial Center Headquarters facility. The
1993 results also included an after-tax charge of $35 million ($.16 per common
share primary and fully diluted) for the adoption of Statement of Financial
Accounting Standards ("SFAS") No. 112, "Employers' Accounting for Postemployment
Benefits".
In 1995, the Corporation acquired Smith New Court PLC ("Smith New Court"),
a U.K.-based global securities firm, for approximately $800 million. The
Corporation recorded approximately $530 million of goodwill related to the
acquisition. The Corporation's 1995 results included Smith New Court operations
since mid-August 1995 and related goodwill amortization.
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
(continued)
Total revenues for 1995 were a record $21.5 billion, up 18% from 1994 and
up 30% from 1993. In 1995, net revenues (revenues after interest expense)
totaled $10.3 billion, up 7% from $9.6 billion in 1994 and down 3% from $10.6
billion in 1993. Non-interest expenses were $8.5 billion in 1995, up 7% from
1994 and up 4% from 1993.
The following discussion provides details of major categories of revenues
and expenses and other pertinent information regarding the Corporation's
business activities, financial condition, liquidity, and risks. Certain limited
reclassification and format changes have been made to prior years' amounts to
conform to the current year presentation.
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COMMISSIONS
Commission revenues advanced 9% in 1995 to a record $3.1 billion due
primarily to higher levels of listed and over-the-counter securities
transactions and mutual fund commissions, partially offset by lower revenues
from commodities.
Commissions from listed and over-the-counter securities advanced 17% from
1994 to $1.7 billion, due primarily to higher trading volumes on most major U.S.
and international exchanges and the Corporation's expanded global market
presence.
Mutual fund commissions increased 3% in 1995 to $906 million due primarily
to higher distribution and redemption fees. Distribution fees from
deferred-charge funds increased due to strong fund sales in prior periods and
higher asset levels. Redemption fees increased as clients repositioned invested
assets. Revenues from front-end mutual fund sales were virtually unchanged.
Increased sales of domestic stock and bond funds were substantially offset by
decreased sales of offshore funds as investors shifted assets to the strong U.S.
financial markets.
Other commission revenues decreased 2% to $542 million in 1995 due to
declines in commodity and money market instrument commission revenues, partially
offset by improved sales of over-the-counter options and third party annuity
contracts.
Commission revenues of $2.9 billion in 1994 remained virtually unchanged
from 1993. Higher revenues from mutual fund and commodity transactions were
offset by lower revenues from money market instruments and listed securities
transactions.
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INTEREST AND DIVIDENDS
Significant components of interest and dividend revenues and interest expense
for 1995, 1994, and 1993 follow:
(in millions) 1995 1994 1993
- -------------------------------------------------------------------------------
INTEREST AND DIVIDEND REVENUES
Trading assets $ 3,832 $3,431 $2,493
Securities borrowed 2,940 2,285 1,521
Resale agreements 2,810 1,807 1,161
Margin lending 1,394 1,018 779
Other 1,245 1,037 1,145
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Subtotal 12,221 9,578 7,099
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INTEREST EXPENSE
Borrowings 4,330 3,381 2,515
Repurchase agreements 3,680 2,414 1,383
Trading liabilities 2,205 1,997 1,252
Other 1,033 817 880
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Subtotal 11,248 8,609 6,030
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Net interest and dividend profit $ 973 $ 969 $1,069
====== ====== ======
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The Corporation hedges its long-term payment obligations with interest rate
and currency swaps. The effect of these hedges, which is included in the
"Borrowings" caption above, reduced interest expense for 1995, 1994, and 1993 by
$45 million, $153 million, and $326 million, respectively. See "Financing and
Other Non-Trading Derivatives" in Note 4 to the Consolidated Financial
Statements for further information.
Interest and dividend revenues and expenses are a function of the level and
mix of interest-earning assets and interest-bearing liabilities and the
prevailing level, term structure, and volatility of interest rates. Net interest
and dividend profit was $973 million, virtually unchanged from $969 million in
1994, with increases in net interest-earning assets offset by declining interest
spreads due to the flattening of the U.S. Treasury yield curve.
In 1994, net interest and dividend profit declined 9% from 1993 to $969
million. A significant increase in short-term relative to long-term interest
rates, year over year, led to a substantial flattening of the yield curve,
causing interest spreads to decline, and financing and hedging costs to increase
in 1994.
<PAGE>
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PRINCIPAL TRANSACTIONS
Principal transactions revenues rose 8% from 1994 to $2.5 billion in 1995.
Increases in equities and equity derivatives and taxable fixed-income trading
revenues were partially offset by decreases in trading revenues from municipal
securities, foreign exchange and commodities, and interest rate and currency
swaps.
Trading, hedging, and financing activities affect the recognition of both
principal transactions revenues and net interest and dividend profit. In
assessing the profitability of its trading activities, the Corporation views net
interest and principal transactions revenues in the aggregate. For financial
reporting purposes, however, realized and unrealized gains and losses on trading
positions, including hedges, are recorded in principal transactions
revenues.
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
(continued)
The net interest carry (i.e., the spread representing interest earned
versus financing costs) for trading positions, including hedges, is recorded
either as principal transactions revenues or net interest profit, depending on
the nature of the specific instruments. Changes in the composition of trading
inventories and hedge positions can cause the recognition of revenues within
these categories to fluctuate.
The following table provides information on aggregate trading profits,
including related net interest. Interest revenue and expense components are
based on financial reporting categories and management's assessment of the cost
to finance trading positions, after consideration of the underlying liquidity of
these positions.
NET
PRINCIPAL INTEREST NET
TRANSACTIONS REVENUE TRADING
(in millions) REVENUE (EXPENSE) REVENUE
- --------------------------------------------------------------------
1995
Equities and equity derivatives $ 912 $ (89) $ 823
Taxable fixed-income 516 255 771
Interest rate and currency swaps 732 (63) 669
Municipals 273 - 273
Foreign exchange and
commodities 86 (6) 80
------ ----- ------
Total $2,519 $ 97 $2,616
====== ===== ======
1994
Equities and equity derivatives $ 625 $(106) $ 519
Taxable fixed-income 471 352 823
Interest rate and currency swaps 750 (8) 742
Municipals 380 7 387
Foreign exchange and
commodities 109 (8) 101
------ ----- ------
Total $2,335 $ 237 $2,572
====== ===== ======
1993
Equities and equity derivatives $ 872 $ (44) $ 828
Taxable fixed-income 972 411 1,383
Interest rate and currency swaps 604 30 634
Municipals 315 1 316
Foreign exchange and
commodities 158 (9) 149
------ ----- ------
Total $2,921 $ 389 $3,310
====== ===== ======
Equities and equity derivatives trading revenues, in the aggregate, were
$912 million, up 46% from 1994, as trading revenues from most equity products
increased. Convertible and over-the-counter securities trading revenues advanced
significantly as a result of higher stock prices, lower interest rates, and
increased demand. International equities trading revenues benefited from
improved United Kingdom market conditions and the contribution of Smith New
Court in the latter part of 1995. Equity derivatives declined in 1995 due to
reduced demand for structured derivative transactions.
Taxable fixed-income trading revenues increased 10% in 1995 to $516 million
as lower interest rates and tighter credit spreads led to increased demand and
higher inventory values. Corporate bond and preferred stock trading revenues
benefited from lower interest rates and higher trading volume in U.S. and
international markets, as well as increased investor demand for fixed-rate
preferred stock issuances. Trading revenues from high-yield bonds increased as a
result of declining interest rates and improved credit ratings of certain
issuers. Non-U.S. governments and agencies trading revenues also advanced from
1994 levels due to increased trading activity in European, Australian, and
certain South American emerging market government instruments. These increases
were partially offset by lower revenues from Canadian government instruments,
which were affected by ongoing political uncertainty. Taxable fixed-income
trading revenues were negatively affected by a loss in mortgage-backed
securities due to reduced market liquidity for non-generic products.
Nevertheless, trading results from mortgage-backed products, which include net
interest revenues, were positive. U.S. Government and agencies securities
trading revenues were down, due to tighter spreads between U.S. Treasury
securities and related futures hedges, as well as reduced retail investor demand
attributable to lower interest rates.
Municipal securities revenues decreased 28% to $273 million. This decrease
resulted from reduced demand as investors remained wary of continuing
discussions on possible U.S. tax law revisions that would eliminate tax
advantages of municipal securities, and sought higher returns from equity and
taxable fixed-income securities.
Foreign exchange and commodities revenues, in the aggregate, declined 22%
to $86 million. Commodities trading revenues decreased due to lower volumes.
Increases in foreign exchange trading revenues resulted from higher customer
volume caused by the strengthening of the U.S. dollar versus other major
currencies during 1995.
Trading revenues from interest rate and currency swaps were down 2% to $732
million. A decrease in revenues from U.S. dollar-denominated transactions,
resulting from lower margins and reduced volume in structured products, was
substantially offset by an increase in revenues from non-U.S. dollar-denominated
transactions, particularly in Japanese and European markets.
In 1994, principal transactions revenues were down 20% from 1993 record
levels to $2.3 billion. Rising interest rates, a declining U.S. dollar, and
volatile world financial markets led to lower trading revenues in many products,
including taxable fixed-income securities (down 52%), equities and equity
derivatives (down 28%), and foreign exchange and commodities (down 31%).
Offsetting these declines were increases in trading revenues from interest rate
and currency swaps (up 24%) and municipal securities (up 21%) due to increased
demand.
- ------------------------------------------------------
INVESTMENT BANKING
- ------------------------------------------------------
(in millions) 1995 1994 1993
---- ---- ----
Underwriting revenues $ 964 $ 989 $1,647
Strategic services revenues 344 251 184
------ ------ ------
Total $1,308 $1,240 $1,831
====== ====== ======
Overall, investment banking revenues increased 5% from 1994. Underwriting
revenues declined 3%, due to lower revenues from equities, private placements,
high-yield debt,
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
(continued)
and mortgage-backed securities underwriting, partially offset by increased
revenues from corporate bonds and preferred stock and defined asset funds.
Rising interest rates and falling share prices in an uncertain economic
environment caused a steady decline in industrywide underwriting activity after
the first six weeks of 1994 that continued through the first quarter of 1995.
Thereafter, declining interest rates and rising equity values increased issuer
and investor demand, leading to an increase in underwriting revenues each
quarter, both sequentially and year over year, during the last three quarters of
1995.
The Corporation retained its position as top underwriter of total debt and
equity issuances for the eighth consecutive year in the U.S., and for the
seventh consecutive year globally. The Corporation's domestic and global market
shares of debt and equity underwriting volume increased in 1995 to 17.9% and
13.8%, respectively, versus 16.5% and 12.6% in 1994 according to Securities Data
Co.
Strategic services revenues, which include fees for merger and acquisition
activity, debt restructuring, and other advisory services, increased 37% to a
record $344 million in 1995 as companies worldwide sought strategic partners to
promote growth while cutting costs and increasing efficiencies.
Investment banking revenues decreased 32% in 1994 as market conditions
deteriorated from more favorable 1993 conditions. Higher interest rates and
lower share prices in 1994 led to a decline industrywide in underwriting of
domestic debt and equity securities to its lowest level since 1991.
- --------------------------------------------------------------------------------
ASSET MANAGEMENT AND PORTFOLIO
SERVICE FEES
- --------------------------------------------------------------------------------
(in millions) 1995 1994 1993
------ ------ ------
Asset management fees $ 856 $ 794 $ 706
Portfolio service fees 477 437 369
Other fees 557 508 483
------ ------ ------
Total $1,890 $1,739 $1,558
====== ====== ======
Revenues from asset management and portfolio service fees rose 9% in 1995 to a
record $1.9 billion.
Asset management fees, which include fees earned on mutual funds sponsored
by the Corporation and third parties, increased 8% from 1994 due primarily to
growth in client assets. Total client assets in worldwide private client
accounts were $703 billion at year-end 1995, compared with $568 billion at
year-end 1994. New money investments accounted for approximately 40% of the
increase. Assets under management by Merrill Lynch Asset Management increased
$32 billion to a record $196 billion in 1995, with growth in money market,
equity, and bond funds. New money investments accounted for approximately 75% of
the increase. In 1995, approximately 91% of asset management fees were
attributable to Merrill Lynch-sponsored funds, as compared with 90% in 1994.
Portfolio service fees increased 9% in 1995. Fee revenues from Asset
Power(Registered Trademark), an asset-based fee product, and Mutual Fund
Advisor(Service Mark), a personalized portfolio management service, advanced
due to increases in the number of accounts and asset values. Fees from Merrill
Lynch Consults(Registered Trademark) ("ML Consults"), a portfolio management
service, decreased in 1995 due to lower average asset levels during the year
as well as a reduction in the number of accounts. Other portfolio service fees,
principally insurance and trust fees, increased from 1994.
Other fee-based revenues were up 10%, due primarily to increased revenues
from mutual fund transfer agency, custody, and mortgage servicing activities.
In 1994, asset management and portfolio service fees increased 12% from
1993 due principally to growth in money market and stock funds, higher
revenues from ML Consults, and increased revenues from mutual fund transfer
agency, CMA(Registered Trademark), IRA, and Keogh fees.
- --------------------------------------------------------------------------------
OTHER REVENUES
Other revenues decreased 5% in 1995 to $449 million. Other revenues include
investment gains and losses, partnership distributions, transaction processing
fees, and proxy activities.
In 1995, net investment gains related to merchant banking activities were
$23 million, compared with $81 million a year ago. Merchant banking positions
are carried at the lower of cost or estimated net realizable value. Loss
provisions related to these investments are established, as appropriate, to
reduce the carrying value to estimated net realizable value. In certain
instances, sales of merchant banking positions are subject to restrictions,
limiting the Corporation's ability to dispose of these instruments until
required holding periods expire (see "Non-Investment Grade Holdings and
Highly Leveraged Transactions"). Distributions from partnerships held as
investments increased 45% to $64 million in 1995. Revenues generated
from transaction processing and other activities increased 5% to $362 million.
In 1994, other revenues were up 65% to $471 million. Net investment gains
related to merchant banking activities were $81 million, compared with losses of
$133 million in 1993, as restrictions on certain investments lapsed and market
conditions changed, enabling the Corporation to dispose of certain merchant
banking investments.
<PAGE>
- --------------------------------------------------------------------------------
NON-INTEREST EXPENSES
Non-interest expenses totaled $8.5 billion in 1995, up 7% over the prior
year. The largest expense category, compensation and benefits, increased 6% from
1994 to $5.3 billion due to increased production-related compensation, a rise in
incentive compensation, and a 5% increase in the number of full-time employees.
Production-related compensation was up due to heightened business activity
and strong volumes in many businesses, while incentive compensation increased
due to the Corporation's improved profitability and return on average common
stockholders' equity.
Overall, full-time personnel totaled 46,000, compared with 43,800 at
year-end 1994, mainly due to the addition of employees through business
acquisitions, including Smith New Court. Selective hiring in 1995 consisted
primarily of
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
(continued)
revenue producers and sales assistants in private client and international
business areas. Compensation and benefits as a percentage of net revenues was
51.3% in 1995, slightly lower than 51.5% in 1994. The Corporation's ratio of
support employees and sales assistants to producers decreased to 1.43 to 1 in
1995, from 1.46 to 1 in 1994.
- --------------------------------------------------------------------------------
Graph titled "NET REVENUE CATEGORIES AND COMPENSATION AND BENEFITS"
Presented are side by side bar graphs comparing Merrill Lynch & Co., Inc.'s
net revenue categories with compensation and benefits expense levels for the
past five years. Graph is presented in billions, with net revenues comprised
of commissions, principal transactions, investment banking, asset management
and portfolio services fees, net interest and other. The graph shows total net
revenues of $7.2, $8.6, $10.6, $9.6, and $10.3 and compensation and benefits of
$3.9, $4.4, $5.3, $5.0, and $5.3 for the years ended 1991, 1992, 1993, 1994,
and 1995, respectively.
- --------------------------------------------------------------------------------
Communications and equipment rental expense was up 13% due to increased
levels of business activity and expanded use of market data services. Occupancy
costs rose 3% in 1995 due to international growth and the addition of Smith New
Court facilities. Depreciation and amortization expense increased 13% due
primarily to purchases of technology-related assets during the past year.
Professional fees advanced 16% from a year ago, due primarily to higher
legal fees and to increased systems development costs related to upgrading
technology and processing capabilities in customer, trading, and transaction
processing systems.
Advertising and market development expenses rose 6% as a result of
increased advertising, international travel, and sales promotion, primarily
related to international growth and the integration of Smith New Court.
Brokerage, clearing, and exchange fees increased 7% as a result of higher
securities volume, particularly in international markets. Other expenses were up
4%, due primarily to a $26 million first quarter charge for the write-off of
assets related to a technology contract and $14 million of goodwill amortization
related to Smith New Court.
In 1994, non-interest expenses declined 3% to $7.9 billion. Excluding the
1993 first quarter non-recurring lease charge of $103 million, non-interest
expenses declined 2%. Lower incentive and production-related compensation,
partially offset by increases in base wages, severance, and Financial Consultant
up-front hiring bonuses, led to a 6% decline in compensation and benefits
expense. Communications and equipment rental expense increased 12% due to
expanded use of market data, news, and statistical services. Occupancy costs
declined 7% (excluding the 1993 non-recurring lease charge) as a result of
continued relocation of support staff to lower-cost facilities. Depreciation and
amortization expense rose 5% due primarily to the acquisition of
technology-related equipment. Professional fees increased 26% due to the use of
systems and management consultants, as well as higher legal fees. Brokerage,
clearing, and exchange fees were up 20% as a result of increased international
equity volume and expanded risk management activities related to volatile global
market conditions.
- --------------------------------------------------------------------------------
INCOME TAXES
The Corporation's 1995 income tax provision of $697 million represented a
38.5% effective tax rate. In 1994 and 1993, income tax provisions were $713
million and $1.0 billion, respectively, representing effective tax rates of
41.2% in 1994 and 42.5% in 1993. The effective tax rate in 1995 decreased
primarily as a result of lower state income taxes, expanded international
business activities in jurisdictions with lower tax rates, and increases in
deductions for dividends received.
The Corporation records deferred tax assets for the effects of temporary
differences between the tax basis of an asset or liability and its reported
amount in the financial statements. The Corporation assessed its ability to
realize deferred tax assets based primarily on a strong earnings history and the
absence of negative evidence as discussed in SFAS No. 109, "Accounting for
Income Taxes". During the last 10 years, average pretax earnings were $1.0
billion per year. Accordingly, the Corporation believes it is more likely than
not that its deferred tax assets will be realized.
- --------------------------------------------------------------------------------
STOCKHOLDERS' EQUITY
Stockholders' equity at December 29, 1995 increased 6% to $6.1 billion from $5.8
billion reported at year-end 1994. The increase in 1995 resulted from net
earnings and a fair value adjustment related to SFAS No. 115, "Accounting for
Investments in Certain Debt and Equity Securities", offset by common share
repurchases and common and preferred dividends declared by the Corporation.
In 1995, the Corporation repurchased approximately 20 million common shares
at an average price of $46.95 per share for employee benefit plans and general
corporate purposes.
At December 29, 1995, total common shares outstanding, excluding the
unallocated Employee Stock Ownership Plan ("ESOP") reversion shares, amounted to
171.4 million, 6% lower than the 181.5 million shares outstanding at December
30, 1994. The decrease was principally attributable to common stock repurchases,
partially offset by employee stock grants and option exercises.
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
(continued)
- --------------------------------------------------------------------------------
LIQUIDITY AND LIABILITY MANAGEMENT
The primary objective of the Corporation's funding policies is to assure
liquidity at all times. There are three key elements to the Corporation's
liquidity strategy. The first element is to maintain alternative funding sources
such that all debt obligations maturing within one year, including commercial
paper, uncommitted bank loans, and the current portion of long-term debt, can be
funded when due without issuing new unsecured debt or liquidating any business
assets. The most significant alternative funding sources are the proceeds from
executing repurchase agreements and obtaining secured bank loans, both
principally employing unencumbered investment grade marketable securities. Other
alternative funding sources include liquidating cash equivalents; securitizing
additional home equity and other mortgage loan assets; and drawing on committed,
unsecured, revolving credit facilities ("Credit Facilities"), which at December
29, 1995 totaled $5.6 billion and have not been drawn upon.
As an additional measure, the Corporation regularly reviews the level and
mix of its assets and liabilities to ascertain its ability to conduct core
businesses beyond one year without reliance on issuing new unsecured debt or
drawing upon Credit Facilities. The composition of the Corporation's asset mix
provides a great degree of flexibility in managing liquidity. The Corporation's
liquidity position is enhanced since a significant portion of the Corporation's
assets turn over frequently and are typically match-funded with liabilities
whose cash flow characteristics closely match those of the assets. At December
29, 1995, approximately 97% of the Corporation's assets were considered readily
marketable by management.
As part of the Corporation's overall liquidity program, its insurance
subsidiaries regularly review the funding requirements of their contractual
obligations for in-force, fixed-rate life insurance and annuity contracts and
expected future acquisition and maintenance expenses for all contracts. The
Corporation's insurance subsidiaries primarily market variable life insurance
and variable annuity products. These products are not subject to the interest
rate, asset/liability matching, and credit risks attributable to fixed-rate
products, thereby reducing the risk profile and liquidity demands on the
insurance subsidiaries. At December 29, 1995, approximately 84% of invested
assets of insurance subsidiaries were considered liquid by management.
The second element of the Corporation's liquidity strategy is to
concentrate general purpose borrowings at the Merrill Lynch & Co., Inc. level,
except where tax regulations, time zone differences, or other business
considerations make this impractical. The benefits of this strategy are lower
financing costs; simplicity, control, and wider name recognition by creditors;
and flexibility to meet varying funding requirements within subsidiaries.
The third element is to expand and diversify the Corporation's funding
instruments and its investor and creditor base. The Corporation's funding
programs benefit from the ability to market its debt instruments through its own
sales force to a large, diversified customer base. The Corporation maintains
strict concentration standards for short-term lenders, which include limits for
any single investor. Commercial paper remains the Corporation's major source of
short-term general purpose funding. Commercial paper outstanding totaled $17.0
billion at December 29, 1995 and $14.8 billion at December 30, 1994, which
represented 10% and 9% of total assets at year-end 1995 and 1994, respectively.
Total term debt issuance in 1995 exceeded 1994 levels as the Corporation
continued to be active in both domestic and Euro debt markets, primarily through
public issues. Outstanding term debt at December 29, 1995 grew to $17.3 billion
from $14.9 billion at December 30, 1994.
At December 29, 1995, the Corporation's senior long-term debt was rated by
seven recognized credit rating agencies, as follows:
RATING AGENCY RATING
- ---------------------------------------
Duff & Phelps Credit Rating Co. AA-
Fitch Investors Service, Inc. AA
IBCA Ltd. AA-
The Japan Bond Research Institute AA
Moody's Investors Service, Inc. A1
Standard & Poor's Ratings Group A+
Thomson BankWatch, Inc. AA
- ---------------------------------------
The Corporation issued $9.6 billion of long-term debt during 1995. During
the same period, maturities and repurchases were $6.9 billion. In addition,
approximately $894 million of the Corporation's securities held by subsidiaries
were sold and $1.1 billion were purchased. At December 29, 1995, $11.7 billion
of term debt had maturity dates beyond one year. The average maturity on all
outstanding term debt was 3.5 years at both year-end 1995 and 1994 when measured
to maturity, and 3.1 and 3.0 years at year-end 1995 and 1994, respectively, when
measured to the earlier of call or put date.
Approximately $35.9 billion of the Corporation's indebtedness at December
29, 1995 is considered senior indebtedness as defined under various indentures.
- --------------------------------------------------------------------------------
CAPITAL RESOURCES AND CAPITAL ADEQUACY
The Corporation remains one of the most highly capitalized institutions whose
business is primarily in the U.S. securities industry. The Corporation has an
equity base of $6.1 billion at December 29, 1995, including $5.5 billion in
common equity, supplemented by $619 million in preferred stock. Average leverage
ratios, computed as the ratio of average month-end assets to average month-end
stockholders' equity, were 32.7x and 32.0x for 1995 and 1994, respectively.
Leverage ratios at the end of 1995 and 1994 were 28.8x and 28.1x, respectively.
To compute the Corporation's adjusted leverage ratios, resale agreements and
securities borrowed balances are subtracted from total assets. The average
adjusted leverage ratios were 19.5x and 18.9x for 1995 and 1994, respectively.
The Corporation's adjusted leverage ratios at the end of 1995 and 1994 were
18.2x and 16.9x, respectively.
The Corporation operates in many regulated businesses that require various
minimum levels of capital to conduct
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
(continued)
business (see Note 14 to the Consolidated Financial Statements). The
Corporation's broker-dealer, banking, insurance, and Futures Commission Merchant
activities are subject to regulatory requirements that may restrict the free
flow of funds to affiliates. Regulatory approval is required for payment of
dividends in excess of certain established levels, making affiliated
investments, and entering into management and service agreements with affiliated
companies.
The Corporation's overall capital needs are continually reviewed to ensure
that its capital base can support the estimated risks of its businesses as well
as the regulatory and legal capital requirements of subsidiaries. Based upon
these analyses, management believes that the Corporation's equity base is
adequate.
- --------------------------------------------------------------------------------
ASSETS AND LIABILITIES
The Corporation manages its balance sheet and risk limits according to market
conditions and business needs, subject to profitability and control of risk.
Asset and liability levels are primarily determined by order flow and fluctuate
daily, sometimes significantly, depending upon volume and demand. The liquidity
and maturity characteristics of assets and liabilities are monitored
continually. The Corporation monitors and manages the change of its balance
sheet using point-in-time average daily balances. Average daily balances are
derived from the Corporation's management information system, which summarizes
balances on a settlement date basis. Financial statement balances, as required
under generally accepted accounting principles, are recorded on a trade date
basis. The discussion that follows compares the changes in settlement date
average daily balances, not year-end financial statement balances.
In 1995, average daily assets were $191 billion, up 5% from $182 billion in
1994. Average daily liabilities in 1995 rose 5% to $186 billion from $177
billion in 1994.
The major components in the growth of average daily assets and liabilities
are summarized as follows:
- ---------------------------------------------
INCREASE
IN AVERAGE PERCENT
(in millions) ASSETS INCREASE
----------- --------
Resale agreements $3,438 8%
Securities borrowed 2,364 7
Customer receivables 2,177 12
Trading assets 1,515 2
- ---------------------------------------------
INCREASE
IN AVERAGE PERCENT
LIABILITIES INCREASE
----------- --------
Repurchase agreements $4,303 6%
Trading liabilities 3,339 10
Customer payables 1,716 36
- ---------------------------------------------
In managing its balance sheet, the Corporation strives to match-fund its
interest-earning assets with interest-bearing liabilities having similar
maturities and cash flow characteristics, such as repurchase and resale
agreements. Repurchase and resale agreements rose during 1995 as a result of
an increase in match-funded transactions involving U.S. Government and
agencies securities.
In 1995, trading assets and liabilities were up due to increases in trading
activity. On-balance-sheet hedges, included in trading liabilities, which are
used to reduce trading risks, also advanced due to increased market activity
during 1995. Securities borrowed increased primarily to facilitate security
deliveries to customers. Customer receivables and payables also advanced as
trading volume, on average, was higher.
- --------------------------------------------------------------------------------
NON-INVESTMENT GRADE HOLDINGS
AND HIGHLY LEVERAGED TRANSACTIONS
In the normal course of business, the Corporation underwrites, trades, and holds
non-investment grade securities in connection with its investment banking,
market making, and derivative structuring activities. During the past three
years, the Corporation has increased its non-investment grade trading
inventories to satisfy client demand for higher-yielding investments, including
emerging market and other international securities.
Non-investment grade securities have been defined as debt and preferred
equity securities rated as BB+ or lower, or equivalent ratings by recognized
credit rating agencies, certain sovereign debt in emerging markets, amounts due
under various derivative contracts from non-investment grade counterparties, and
other instruments that, in the opinion of management, are non-investment grade.
At December 29, 1995, long and short non-investment grade inventories accounted
for 6.3% of aggregate consolidated trading inventories, compared with 4.3% at
year-end 1994. Non-investment grade trading inventories are carried at fair
value.
The Corporation provides financing and advisory services to, and invests in,
companies entering into leveraged transactions, which may include leveraged
buyouts, recapitalizations, and mergers and acquisitions. The Corporation
provides extensions of credit to leveraged companies in the form of senior and
subordinated debt, as well as bridge financing on a select and limited basis. In
addition, the Corporation syndicates loans for non-investment grade
counterparties or in connection with highly leveraged transactions. In
connection with these syndications, the Corporation may retain a residual
portion of these loans. At year-end 1995 and 1994, no bridge loans were
outstanding.
The Corporation holds direct equity investments in leveraged companies and
interests in partnerships that invest in leveraged transactions. The Corporation
has also committed to participate in limited partnerships that invest in
leveraged transactions. Future commitments to participate in limited
partnerships and other direct equity investments will be determined on a select
and limited basis.
Investment in non-investment grade securities and involvement in highly
leveraged transactions subject the Corporation to additional risks related to
the creditworthiness of the issuers and the liquidity of the market for such
securities. The Corporation recognizes such risks and, whenever possible,
employs strategies to mitigate exposures.
The specific components and overall level of non-investment grade and highly
leveraged positions may vary significantly from period to period as a result of
inventory turnover, investment sales, and asset redeployment. The Corporation
continually monitors credit risk by individual issuer and industry
concentration.
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
(continued)
In certain instances, the Corporation engages in hedging strategies to reduce
its exposure associated with owning a non-investment grade position by selling
short the related equity security or by entering into an offsetting derivative
contract. The Corporation also uses certain non-investment grade trading
inventories, principally non-U.S. governments and agencies securities, to hedge
the exposure arising from structured derivative transactions. Collateral,
consisting principally of U.S. Government securities, may be obtained to reduce
credit risk related to these transactions.
The Corporation's insurance subsidiaries hold non-investment grade
securities. As a percentage of total insurance investments, non-investment grade
securities were 4.2%, compared with 5.5% at year-end 1994. Non-investment grade
securities of insurance subsidiaries are classified as available-for-sale and
are carried at fair value.
A summary of the Corporation's highly leveraged transactions and
non-investment grade holdings follows:
- -------------------------------------------------------------
(in millions) 1995 1994
- -------------------------------------------------------------
Trading assets $5,489 $3,309
Trading liabilities 353 456
Insurance subsidiaries' investments 234 314
Loans (net of allowance for loan losses)(1) 489 257
Equity investments(2) 211 289
Partnership interests 91 93
- -------------------------------------------------------------
Additional commitments to invest in
partnerships $ 79 $ 80
Unutilized revolving lines of credit and other
lending commitments 127 62
- -------------------------------------------------------------
(1) Represented outstanding loans to 30 and 35 medium-sized companies
at year-end 1995 and 1994, respectively.
(2) Invested in 62 and 80 enterprises at year-end 1995 and 1994, respectively.
At December 29, 1995, the largest non-investment grade concentration
consisted of various issues of a South American sovereign totaling $674 million,
which primarily represented on-balance-sheet hedges for off-balance-sheet
instruments. No one industry sector accounted for more than 35% of total
non-investment grade positions. Included in the preceding table are debt and
equity securities of issuers in various stages of bankruptcy proceedings or in
default. At December 29, 1995, the carrying value of these securities totaled
$164 million, of which 75% resulted from the Corporation's market making
activities in such securities.
- --------------------------------------------------------------------------------
LITIGATION
Certain actions have been filed against the Corporation by Orange County,
California and others in connection with the Corporation's business activities
with the Orange County Treasurer-Tax Collector or from the purchase of debt
instruments issued by Orange County that were underwritten by the Corporation's
subsidiary, Merrill Lynch, Pierce, Fenner & Smith Incorporated. The information
set forth under the caption "Litigation" in Note 17 to the Consolidated
Financial Statements is incorporated by reference herein. Although the ultimate
outcome of these actions cannot be ascertained at this time and the results of
legal proceedings cannot be predicted with certainty, it is the opinion of
management that the resolution of these actions will not have a material adverse
effect on the financial condition or the results of operations of the
Corporation as set forth in the Consolidated Financial Statements contained
herein.
- --------------------------------------------------------------------------------
CASH FLOWS
The Corporation's net cash flows are principally associated with operating and
financing activities, which support the Corporation's trading, customer, and
investment banking activities.
The Corporation's cash and cash equivalents totaled $3.1 billion at December
29, 1995, an increase of $779 million and $1.3 billion, respectively, from the
end of 1994 and 1993.
Cash flows of $7.9 billion in 1995 were used for operating activities,
primarily to fund increases in net trading assets consistent with an increase in
the level of business activity. The Corporation's investing activities used cash
of $873 million in 1995, primarily for the purchase of Smith New Court.
Financing activities provided the Corporation with $9.5 billion of cash in
1995, reflecting proceeds from net increases in repurchase/resale agreements and
net issuances of commercial paper and long-term borrowings, partially offset by
repurchases of common stock.
In 1994, cash and cash equivalents increased $529 million to $2.3 billion.
Cash provided by operating and investing activities totaled $7.4 billion and
$322 million, respectively, while cash used for financing activities totaled
$7.2 billion.
Cash and cash equivalents increased $531 million to $1.8 billion in 1993.
Cash used for operating activities totaled $17.1 billion, while investing and
financing activities provided cash of $386 million and $17.3 billion,
respectively.
<PAGE>
- --------------------------------------------------------------------------------
RECENT DEVELOPMENTS
New Accounting Pronouncements
In October 1995, the Financial Accounting Standards Board issued SFAS No. 123,
"Accounting for Stock-Based Compensation," which is effective for fiscal years
beginning after December 15, 1995. The Corporation did not adopt SFAS No. 123 in
1995, and has not decided whether to adopt the cost recognition provisions of
SFAS No. 123 for 1996. The effect of adopting the cost recognition provisions
has not been computed.
- --------------------------------------------------------------------------------
GLOBAL OPERATIONS
The Corporation's international activities outside the U.S. are organized into
the following geographic regions: Europe, Africa, and the Middle East; Asia,
which includes Japan and Australia; and the Americas, excluding the U.S. In
1995, the Corporation continued to strategically expand its international
activities to further benefit from the ongo-
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
(continued)
ing globalization of financial markets, the increase in cross-border
transactions, and the demand for global investments.
In 1995, the Corporation's international businesses were influenced by many
of the same market conditions that positively affected U.S. operating results,
including declining interest rates, improved stock and bond markets, and
increased investor demand. These improved market conditions, combined with the
Corporation's expanded global presence, led to increases in both total and net
revenues in each geographic region from 1994 levels (see Note 18 to the
Consolidated Financial Statements).
- --------------------------------------------------------------------------------
EUROPE, AFRICA, AND THE MIDDLE EAST
The Corporation operates in Europe, Africa, and the Middle East as a dealer
in most products. The Corporation also provides investment banking, private
banking, and research services.
The Corporation continued its commitment to expand its businesses in Europe,
Africa, and the Middle East through the acquisition of Smith New Court, its
investment in Smith Borkum Hare in South Africa, and the establishment of a new
international banking operation in Dublin, Ireland. The acquisition of Smith New
Court, a major equity market maker and agency trader in the European market, has
enabled the Corporation to significantly expand its global equity trading and
research capabilities. The successful integration of Smith New Court has
enhanced the Corporation's ability to develop and capitalize on future business
opportunities within the region and beyond.
In 1995, total revenues for Europe, Africa, and the Middle East were $4.0
billion, up 15% from 1994. Net revenues totaled $1.3 billion, up 16% from 1994.
The region's earnings before income taxes decreased 12% to $155 million.
Trading results for the region improved from 1994. Higher trading revenues in
equities resulted from both the strong performance of European equity markets in
1995, and the added capacity achieved through the acquisition of Smith New
Court. Money market trading revenues and investment banking revenues also
increased from 1994. These improvements were offset by reductions in
equity-linked warrants and fixed-income trading revenues resulting from reduced
market volatility.
The decrease in earnings before income taxes is attributable to increased
trading-related costs, compensation and benefits expenses, start-up costs
resulting from ongoing expansion, and the amortization of goodwill. The number
of full-time employees in the region increased from 2,857 at year-end 1994 to
3,953 at the end of 1995, due primarily to personnel added through business
acquisitions.
In 1994, total revenues for Europe, Africa, and the Middle East were $3.5
billion, up 11% from 1993. Net revenues totaled $1.1 billion, down 16% from
1993. The region's earnings before income taxes were down 63% to $176 million.
Trading results for the region declined from 1993 due to decreases in
fixed-income securities trading revenues, as a result of rising interest rates
in 1994, and losses in structured money market products and equity-linked
warrants. Earnings before income taxes decreased due to higher financing and
other trading-related costs and an increase in compensation and benefits
expense.
- --------------------------------------------------------------------------------
ASIA
In Asia, the Corporation has a variety of operating centers serving a broad
retail and institutional client base. In Japan and China, the focus is
principally on institutional business opportunities, while in other locations,
such as Australia, Hong Kong, Korea, Singapore, and Taiwan, both retail and
institutional businesses are conducted. The Corporation has securities and
futures exchange memberships in the major financial centers and has increased
its trading and product capacity in Australia, Hong Kong, Japan, and Singapore.
In 1995, the Corporation also entered into strategic investments and joint
ventures in India, Indonesia, Malaysia, and Thailand.
Total revenues for Asia in 1995 were $1.2 billion, up 28% from 1994. Net
revenues and earnings before income taxes were $701 million and $81 million, up
27% and 8%, respectively.
Results in Asia benefited from an improved bond market, which led to
increased trading revenues for Japanese Government Bonds ("JGB") and other
fixed-income securities. After a slow start in 1995, equity trading increased
significantly with improved earnings and more favorable market conditions. The
acquisition of Smith New Court added significantly to the Corporation's equity
trading capabilities in the region.
In 1995, the number of full-time employees increased 22% to 1,805, almost
entirely due to the addition of personnel from the Smith New Court operations in
Hong Kong, Japan, and Singapore.
Total revenues in Asia in 1994 were $963 million, up 10% from 1993. Net
revenues and earnings before income taxes were $554 million and $75 million,
down 19% and 61% from 1993, respectively. Higher trading revenues from
non-dollar swaps, equity derivatives, and Australian debt were offset by reduced
JGB trading revenues and lower net interest profits.
<PAGE>
- --------------------------------------------------------------------------------
AMERICAS
In Latin America, the Corporation provides varied brokerage and investment
services. Included in the Latin American region are certain offices located in
the U.S. which primarily service Latin American clients. In 1995, the
Corporation expanded its equity trading operations in Brazil and, in the fourth
quarter, became the first U.S.-based firm to engage in broker-dealer activities
on the Mexican Bolsa. In Canada, the Corporation provides investment banking and
fixed-income sales and trading services.
Total revenues for the Americas increased to $704 million in 1995, up 14%
from 1994, and net revenues increased 4% to $347 million in 1995. Earnings
before income taxes were $127 million, down 7% from 1994.
The region benefited from increased high-yield financing and advisory
activity, mergers and acquisitions, global bond issuance, and growth of
cross-border activity, particularly in Canada. Latin American results also
benefited from equity and fixed-income sales to private banking
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
(continued)
clients. Investment banking activities in the Americas were down from 1994
levels due to market and political uncertainties. The devaluation of the Mexican
peso, which began in the fourth quarter of 1994 and continued into 1995, also
negatively affected securities valuations and investor demand.
The reduction in earnings before taxes resulted from increased compensation
and benefits expenses and initial start-up costs, both associated with the
growth in this region. Staffing increased from 914 at year-end 1994 to 978 at
December 29, 1995, primarily to meet the needs of the expanded equity trading
operations in Brazil and Mexico.
Total revenues in the Americas increased to $617 million in 1994, up 17% from
1993, while net revenues decreased 12% to $333 million in 1994. Earnings before
income taxes were $137 million, down 2% from 1993. Investment banking activities
in Latin America were lower than in 1993, while the region benefited from the
continued growth of matched-book activity and fixed-income trading in Canada,
and equity sales to private banking clients in Latin America.
- -------------------------------------------------------------------------------
DERIVATIVE FINANCIAL INSTRUMENTS
The Corporation, as a dealer, trades derivative financial instruments and
provides clients with customized derivative products. These transactions allow
clients to manage their exposure to interest rate, currency, security and
commodity price, and credit risks. The Corporation also uses derivative
financial instruments to manage and hedge its own risks related to its
proprietary trading strategies, client transactions, and non-trading activities.
Accounting standards define a derivative financial instrument as a future,
forward, swap, or option contract, or other financial instrument with similar
characteristics. Derivatives can be traded on an exchange or negotiated directly
between buyers and sellers in the over-the-counter markets. Derivative financial
instruments, unlike non-derivative (or cash) financial instruments, have both
on-and off- balance-sheet implications, depending upon the nature of the
contract. Forward contracts, for example, are treated as off-balance-sheet in
terms of notional amounts, with only unrealized gains and losses included in
trading assets or liabilities.
The Corporation conducts derivative activities through a number of wholly-
owned subsidiaries as part of its client-driven and proprietary business
transactions. Merrill Lynch Capital Services, Inc. ("MLCS") is the Corporation's
principal swaps dealer. Merrill Lynch Capital Markets PLC ("MLCM") is the
primary equity derivatives dealer of the Corporation. Merrill Lynch Derivatives
Products, Inc., a "AAA" rated entity, is the Corporation's swap subsidiary that
provides credit intermediation for interest rate and currency swaps, options,
and similar transactions between highly rated counterparties and MLCS. In
connection with these derivative activities, certain of these subsidiaries
purchase and sell cash instruments (debt and equity securities) for hedging
purposes.
The Corporation, directly or through its subsidiaries, enters into
derivative transactions to hedge certain proprietary positions, including other
derivatives. As an end-user, the Corporation also hedges its fixed-rate and
foreign currency-denominated debt issuances by entering into variable interest
rate swaps and foreign currency agreements with MLCS. MLCS then enters into
offsetting contracts with third parties as part of the Corporation's trading and
risk management strategies. The Corporation also hedges equity-related exposures
embedded in certain of its debt issuances with equity derivatives transacted
primarily through MLCM.
Derivatives facilitate risk transfer and enhance liquidity in the
marketplace. For issuers, derivatives may provide cost-effective funding
alternatives, while for investors, derivatives may provide alternative
investment options and the ability to hedge risk. Market participants include
dealers, such as banks and other financial institutions, and end-users such as
corporations, governments, pension funds, mutual funds, and other institutions.
Increased market participation and competition have helped increase liquidity
in conventional derivatives, such as interest rate swaps. Widespread acceptance
has also contributed to the development of more complex products structured for
specific clients. Rapid growth, complexity, and highly publicized losses,
particularly in 1994, have contributed to a perception that these products
possess additional risk to users and to financial markets. Although different in
form, both derivative and non-derivative financial instruments are subject to
market, credit, operational, and other similar risks. Credit considerations, for
example, exist for a corporate bond and an interest rate swap. In addition, both
of these instruments are sensitive to market risk due to movements in interest
rates that affect their respective pricing. The risks inherent in both types of
instruments need to be managed in a manner consistent with a company's overall
risk management policies (see "Risk Management").
- --------------------------------------------------------------------------------
ACCOUNTING AND VALUATION
Notional amounts of derivative instruments provide a common basis for compiling
and reporting outstanding transactions. Notional amounts do not represent a
measure of the Corporation's risk and are not recorded on the balance sheet.
Derivatives used in a dealer capacity and to hedge other trading positions are
marked-to-market. The unrealized gain or loss is recorded in trading assets or
liabilities on the Consolidated Balance Sheets with the related income or loss
reported in principal transactions revenues. Derivatives used to hedge the
Corporation's borrowings are generally recorded on an accrual basis. Interest is
accrued into income or expense over the life of the contract, which generally
matches the maturity of the related debt issue. Unrealized gains and losses on
derivatives used to hedge currency risk on borrowings are recognized currently.
The fair value of a derivative contract represents the amount the Corporation
would have to pay a third party to assume its obligations under the contract or
the amount a third party would pay to receive the Corporation's benefits under
the contract. The Corporation's derivative transactions are generally
marked-to-market by pricing models
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
(continued)
based on the present value of future cash flows using mid-market valuations with
adjustments, as required, for credit, liquidity, and ongoing costs. These
adjustments are integral components of the mark-to-market process.
Certain products may require additional market valuation adjustments. New,
complex products, where no established two-way market exists, may create a need
for liquidity adjustments. Modeling a complex product involves multiple
variables and assumptions, the precision of which will evolve over time. The
Corporation does not recognize the market value of these contracts determined
solely by the pricing model during the early stages of a product's life. Due to
limited markets for certain new, complex products, the pricing model may not
have the precision associated with a model for an existing product. As these
products develop, pricing models will be refined and hedging strategies
modified, based on experience, to more closely correlate the market movement of
these instruments.
Further valuation adjustments are recorded for significant derivative product
positions. These adjustments acknowledge the difficulty in disposing of any
large trading position in a short time period.
Most of the Corporation's derivative products are relatively short-term in
nature. At year-end 1995, the weighted-average maturity of the Corporation's
derivative contracts was 2.24 years, compared with 2.29 years at year-end 1994.
Administrative costs are incurred to service periodic cash streams and maintain
hedges over the life of the contract. A portion of income related to longer-term
contracts is recognized as the costs related to these contracts are incurred.
Sources of derivative revenues and their related components are regularly
reviewed by product, with profitability measured net of related hedging
activities.
- --------------------------------------------------------------------------------
CREDIT
The notional or contractual values of derivative transactions do not directly
represent credit risk exposure. Credit risk represents the amount of accounting
loss that the Corporation would incur if a counterparty failed to perform its
obligations under contractual terms and the collateral held, if any, were
deemed worthless. The Corporation, however, requires collateral from its
counterparties to mitigate credit risk, when appropriate. From an economic
standpoint, credit risk is evaluated net of related collateral. Credit
exposures are analyzed to assess current and potential credit risk. Current
credit exposure represents the replacement cost of those contracts in a gain
position, while potential credit exposures are based on estimates of future
replacement costs over the remaining life of the contract. Credit exposure
considerations are embedded in the mark-to-market process.
The Corporation attempts to enter into International Swaps and Derivatives
Association, Inc. master agreements or their equivalent ("master netting
agreements") with each of its counterparties; however, in some cases the
Corporation encounters practical difficulties in obtaining executed agreements.
Master netting agreements provide protection in bankruptcy in certain
circumstances and in some cases enable receivables and payables with the same
counterparty to be presented net on the Consolidated Balance Sheets,
providing for a more meaningful balance sheet presentation of credit exposure.
Derivative credit exposures are aggregated with credit exposures related to
non-derivative transactions to assess the total exposure to each counterparty
and compliance with country, industry, and product limits. Specific reserves may
be required for exposures to less creditworthy counterparties, as appropriate,
and are reviewed as part of the Corporation's Reserve Committee process (see
"Risk Management").
- --------------------------------------------------------------------------------
RISK MANAGEMENT
The Corporation operates in dynamic businesses that are subject to many risks
that are continually monitored and evaluated. The Corporation's management has
developed corporate governance policies and procedures which require specific
areas and units to assist in the identification, assessment, and control of
these risks. The Corporation's Global Risk Management Group ("Risk Management")
is primarily responsible for monitoring market exposure, trading limits, and
concentration levels (see "Market Risk"). Risk Management is headed by a Senior
Vice President who is a member of the Executive Management Committee and reports
directly to the President and Chief Operating Officer. Credit risk is monitored
primarily by the Credit Division ("Corporate Credit") in conjunction with
business unit personnel (see "Credit Risk"). Other units, including Finance,
Corporate Audit, Operations, and Law and Compliance ("Units"), perform oversight
reviews or other functions critical to managing risk.
In addition to independent risk management responsibilities, senior
management from these Units take an active role in the oversight of the risk
management process through the Risk Control Committee and the Reserve Committee.
The Risk Control Committee, which was established in 1995 to provide general
oversight of risk management for all institutional trading activities, is
chaired by the head of Risk Management and includes senior representatives from
each of the other Units. The Risk Control Committee is chartered by and reports
periodically to the Audit and Finance Committee of the Board of Directors, and
is independent of the Corporation's business units. Its activities are designed
to ensure compliance with the Corporation's commitment under the Derivatives
Policy Group's Framework for Voluntary Oversight.
The Reserve Committee monitors valuation and certain other risks associated
with assets and liabilities. The Corporation establishes reserves in the
Consolidated Balance Sheets for existing conditions, events, or circumstances
that may reduce the carrying value of an asset or incur a liability. The Reserve
Committee, chaired by the Chief Financial Officer, reviews and approves firmwide
reserve levels, as well as changes in reserve methodologies. The Reserve
Committee meets monthly to review current market conditions and act on specific
issues brought to its attention by Finance, Corporate Credit, Risk Management,
and business unit personnel.
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
(continued)
The Corporation's reserves take into account management's judgment and are
generally recorded based on (i) identification of risks and exposures, (ii)
formulas, (iii) aging, concentration, and liquidity analyses, or (iv)
combinations of these three methods.
- --------------------------------------------------------------------------------
MARKET RISK
The Corporation incurs market risk primarily in connection with its trading
activities. Disclosure of methods for assessing and managing risk provides
useful information on market risk exposures. Disclosure of derivatives alone,
however, does not provide users of financial statements with a complete analysis
of market risk. Derivative and cash financial instruments are subject to similar
market and credit risks and are used together as part of trading and risk
management strategies.
Market risk affects trading inventory values through changes in interest
rates, credit spreads, prices, currency exchange rates, liquidity, and market
volatility. The Corporation's trading activities are primarily client order
flow-driven rather than proprietary, with hedging transactions executed when
appropriate. This strategy helps reduce market risk and volatility in principal
transactions revenues.
Risk Management monitors the Corporation's exposure to potential losses in
the value of its trading inventories due to adverse market movements. Risk
Management sets and monitors all trading limits, actively monitors trading and
inventory exposures, approves new products in conjunction with the Corporation's
new product review process, and has the authority to require reductions in
specific trading desk exposures or to veto proposed transactions.
Risk Management is organized along product lines with independent
professionals responsible for maintaining daily contact with specific trading
areas. Trading systems and complementary risk monitoring systems allow these
professionals to track established limit levels and exposures. Certain classes
of transactions, including new financial products, certain proposed equity,
emerging market, and high-yield underwritings, and bridge loans are subject to
prior approval from Risk Management.
Trading systems are designed to assist traders in mitigating market and other
risks prevalent in trading. Risk Management also has access to trading systems
to allow for monitoring of positions and for performing computerized analytics
on various market situations and conditions.
Risk Management uses an analytical technique known as stress simulations to
measure and monitor exposure to market risk across all trading areas. Stress
simulations estimate gains or losses that each trading area could experience
under both moderate and severe market movements.
Each simulation considers a specific change in interest rates, credit
spreads, equity prices, currency exchange rates, commodity prices, or
volatilities, holding all other variables constant. Each trading area provides
Risk Management with daily information on the expected gain or loss from
different stress scenarios. Based on these simulations, market risks can be
monitored firmwide and portfolios rebalanced, as necessary.
Stress simulations provide hypothetical results under different market
scenarios. The Corporation, however, views actual results as the best indicator
of risk management performance. Analyzing actual net revenues over time best
illustrates the Corporation's tolerance for risk and the effectiveness of its
risk management strategies. The nature of the Corporation's trading-related
activities, which are principally client order flow-driven, combined with its
risk management strategies, help reduce volatility in net revenues. A
distribution of weekly net revenues (which includes principal transactions
revenues, net interest, and selling concessions) by product for the last three
years is presented in the graph below:
- --------------------------------------------------------------------------------
Graph titled "DISTRIBUTION OF WEEKLY NET REVENUES BY PRODUCT"
Presented is a bar graph showing Merrill Lynch & Co., Inc.'s distribution of
weekly net revenues by product for the past three years. The graph illustrated
the percentage of weeks that net revenues fell within the specified dollar
ranges for each product presented below.
<TABLE><CAPTION>
$(10) - 0 $0 - 20 $20 - 40 $40 - 60 over $60
<S> <C> <C> <C> <C> <C>
Taxable Fixed-Income .64% 15.92% 56.05% 21.02% 6.37%
Municipals 1.91% 98.09% - - -
Interest Rate & Currency Swaps 1.91% 87.26% 10.83% - -
Foreign Exchange & Commodities 14.01% 85.99% - - -
Equities & Equity Derivatives - 4.46% 50.96% 37.58% 7.01%
</TABLE>
- --------------------------------------------------------------------------------
<PAGE>
- --------------------------------------------------------------------------------
CREDIT RISK
Credit risk is monitored primarily by Corporate Credit in conjunction with
business unit personnel. Corporate Credit is headed by a Senior Vice President
who reports directly to the Chief Financial Officer.
Corporate Credit is organized geographically and along industry lines.
Credit officers perform credit analysis, set credit limits by country and by
counterparty, approve specific transactions, recommend credit reserves, manage
credit exposures, and participate in the new product review process. Credit
analysis, in many cases, is enhanced by due diligence meetings with
counterparties. Many types of transactions, including most derivatives, are
reviewed and are subject to prior approval from Corporate Credit. Corporate
Credit also works with the business units to develop and refine credit risk
measurement models and to analyze potential credit exposures for complex
derivative transactions.
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
(continued)
Within Corporate Credit, prescribed levels of authority have been established
for approval of standard transactions. Required authority levels are governed by
the counterparty's credit quality, as well as the maturity and potential risk of
the transaction. Transactions that exceed prescribed levels must be approved by
the Credit Committee, which is composed of several Directors of Credit and the
Chief Credit Officer.
The credit system tracks information from automated and manual sources. This
system aggregates credit exposure with each counterparty for various legal
entities, maintains overall counterparty and specific product limits, and
identifies limit review dates by counterparty. Detailed information on firmwide
inventory positions and executed transactions, including current and potential
credit exposure, is updated frequently and compared with limits. Collateral,
which reduces the Corporation's credit exposure, is obtained as needed and
tracked on the credit system. The system enables Corporate Credit, in
conjunction with the business units, to monitor counterparty, product, industry,
country, and credit quality concentrations.
Corporate Credit also monitors credit exposures related to the Corporation's
loan products, including mortgages and home equity lines of credit, customer
margin accounts, extensions of credit to high-net-worth individuals, and working
capital facilities to small businesses, as well as merchant banking-related
activities. Reserves are estimated based on specific identification of
exposures, formulas, and aging analyses.
- --------------------------------------------------------------------------------
CONCENTRATION RISK
Concentration risk, the risk that the Corporation's businesses will be dependent
upon a single source of revenue, product, or market, is periodically reviewed as
part of the Corporation's ongoing strategic and business planning process. In
recent years, the Corporation has diversified its global revenue sources to
ensure that it is less dependent on any single financial product, customer base,
or market to generate revenues.
- --------------------------------------------------------------------------------
OPERATIONAL RISK
Operational risk focuses on the Corporation's ability to accumulate, process,
and communicate information necessary to conduct business in a global market
environment. These risks are monitored on both a local and centralized basis.
Central to managing its operational risk, the Corporation maintains backup
facilities worldwide. Information systems provide operational risk assessments
on transactions in major markets. This technology allows the Corporation to
promptly respond to changing market conditions worldwide. As necessary, systems
and equipment are updated for changes in technology. This enables the
Corporation to compete effectively in the dynamic financial services industry.
Exception reports are also used to manage operational risk, highlight
reconciliation issues, and enable the Corporation to identify instances where
additional collateral is required. These reports also help identify potential
business risk exposures and promote compliance with both internal management
policies and regulatory requirements. Operations personnel provide support and
control for trading, clearance, and settlement activities, and perform custodial
functions for customer and proprietary assets. Operations personnel who are
responsible for entering trades report to operations or business managers, not
to traders.
<PAGE>
STATEMENTS OF CONSOLIDATED EARNINGS
<TABLE><CAPTION>
Year Ended Last Friday in December
(Dollars in Millions, Except Per Share Amounts) 1995 1994 1993
- --------------------------------------------------------------------------------------------------------------
(52 Weeks) (52 Weeks) (53 Weeks)
Revenues
<S> <C> <C> <C>
Commissions $ 3,126 $ 2,871 $ 2,894
Interest and dividends 12,221 9,578 7,099
Principal transactions 2,519 2,335 2,921
Investment banking 1,308 1,240 1,831
Asset management and portfolio service fees 1,890 1,739 1,558
Other 449 471 285
------- ------- -------
Total Revenues 21,513 18,234 16,588
Interest Expense 11,248 8,609 6,030
------- ------- -------
Net Revenues 10,265 9,625 10,558
------- ------- -------
Non-Interest Expenses
Compensation and benefits 5,270 4,952 5,255
Communications and equipment rental 487 432 386
Occupancy 449 436 573
Depreciation and amortization 367 325 308
Professional fees 425 367 290
Advertising and market development 398 375 377
Brokerage, clearing, and exchange fees 361 338 281
Other 697 670 663
------- ------- -------
Total Non-Interest Expenses 8,454 7,895 8,133
------- ------- -------
Earnings Before Income Taxes and Cumulative Effect of Change
in Accounting Principle 1,811 1,730 2,425
Income Tax Expense 697 713 1,031
------- ------- -------
Earnings Before Cumulative Effect of Change in Accounting Principle 1,114 1,017 1,394
Cumulative Effect of Change in Accounting Principle
(net of applicable income taxes of $25) - - (35)
------- ------- -------
Net Earnings $ 1,114 $ 1,017 $ 1,359
======= ======= ========
Net Earnings Applicable to Common Stockholders $ 1,066 $ 1,004 $ 1,354
======= ======= ========
- ------------------------------------------------------------------------------------------------------------
Primary Earnings Per Common Share
Earnings Before Cumulative Effect of Change in Accounting Principle $ 5.44 $ 4.75 $ 6.14
Cumulative Effect of Change in Accounting Principle - - (.16)
------- ------- -------
Net Earnings $ 5.44 $ 4.75 $ 5.98
======= ======= ========
Fully Diluted Earnings Per Common Share
Earnings Before Cumulative Effect of Change in Accounting Principle $ 5.42 $ 4.74 $ 6.11
Cumulative Effect of Change in Accounting Principle - - (.16)
------- ------- -------
Net Earnings $ 5.42 $ 4.74 $ 5.95
======= ======= ========
- ------------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Consolidated Financial Statements
<PAGE>
CONSOLIDATED BALANCE SHEETS
<TABLE><CAPTION>
December 29, December 30,
-------------------------
(Dollars in Millions, Except Per Share Amounts) 1995 1994
- -------------------------------------------------------------------------------------------------------------------
Assets
<S> <C> <C>
Cash and cash equivalents $ 3,091 $ 2,312
------- -------
Cash and securities segregated for regulatory purposes or deposited
with clearing organizations 5,412 4,953
------- -------
Marketable investment securities 2,365 2,325
------- -------
Trading assets, at fair value
Corporate debt and preferred stock 17,581 14,818
Contractual agreements 11,833 9,519
Equities and convertible debentures 10,843 6,263
Non-U.S. governments and agencies 6,744 6,468
U.S. Government and agencies 6,672 8,197
Mortgages, mortgage-backed, and asset-backed 3,749 5,224
Money markets 1,680 958
Municipals 1,001 1,292
------- -------
Total 60,103 52,739
------- -------
Resale agreements 44,257 44,459
------- -------
Securities borrowed 20,645 20,993
------- -------
Receivables
Customers (net of allowance for doubtful accounts of $37 in 1995 and $42 in 1994) 14,783 14,030
Brokers and dealers 9,267 6,487
Interest and other 4,741 4,361
------- -------
Total 28,791 24,878
------- -------
Investments of insurance subsidiaries 5,619 5,719
Loans, notes, and mortgages (net of allowance for loan losses of $131 in 1995
and $181 in 1994) 2,172 1,587
Other investments 961 888
Property, leasehold improvements, and equipment (net of accumulated depreciation
and amortization of $2,239 in 1995 and $1,867 in 1994) 1,605 1,588
Other assets 1,836 1,308
-------- --------
Total Assets $176,857 $163,749
======== ========
</TABLE>
<PAGE>
<TABLE><CAPTION>
December 29, December 30,
1995 1994
- --------------------------------------------------------------------------------------------------------------------
Liabilities and Stockholders' Equity
Liabilities
<S> <C> <C>
Repurchase agreements $56,817 $ 51,864
------- --------
Commercial paper and other short-term borrowings 29,546 26,440
------- --------
Trading liabilities, at fair value
Contractual agreements 10,907 8,382
U.S. Government and agencies 9,089 15,990
Equities and convertible debentures 6,642 3,990
Non-U.S. governments and agencies 4,418 4,010
Corporate debt and preferred stock 2,199 2,564
Municipals 95 166
------- -------
Total 33,350 35,102
------- -------
Customers 11,391 11,609
Insurance 5,391 5,689
Brokers and dealers 6,366 4,638
Other liabilities and accrued interest 10,515 7,726
Long-term borrowings 17,340 14,863
------- -------
Total Liabilities 170,716 157,931
------- -------
Stockholders' Equity
Preferred Stockholders' Equity 619 619
------- -------
Common Stockholders' Equity
Common stock, par value $1.33 1/3 per share; authorized: 500,000,000 shares;
issued: 1995 and 1994 - 236,330,162 shares 315 315
Paid-in capital 1,237 1,196
Foreign currency translation adjustment 11 4
Net unrealized gains (losses) on investment securities available-for-sale (net of
applicable income tax expense (benefit) of $13 in 1995 and $(31) in 1994) 25 (57)
Retained earnings 6,492 5,606
------- -------
Subtotal 8,080 7,064
Less:
Treasury stock, at cost:
1995 - 60,929,278 shares
1994 - 48,423,944 shares 2,241 1,627
Unallocated ESOP reversion shares, at cost:
1995 - 4,012,519 shares
1994 - 6,427,091 shares 63 101
Employee stock transactions 254 137
------- -------
Total Common Stockholders' Equity 5,522 5,199
------- -------
Total Stockholders' Equity 6,141 5,818
------- -------
Total Liabilities and Stockholders' Equity $176,857 $163,749
======== ========
</TABLE>
See Notes to Consolidated Financial Statements
<PAGE>
STATEMENTS OF CHANGES IN CONSOLIDATED STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
Year Ended Last Friday in December
----------------------------------
(Dollars in Millions, Except Per Share Amounts) 1995 1994 1993
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Preferred Stockholders' Equity
9% Cumulative Preferred Stock, Series A
$10,000 liquidation preference per share
Balance, beginning of year $ 425 $ - $ -
Issued (42,500 shares in 1994) - 425 -
------- ------- -------
Balance, end of year (42,500 shares in 1995 and 1994) 425 425 -
------- ------- -------
Remarketed Preferred Stock, Series C
$100,000 liquidation preference per share
Balance, beginning and end of year (3,000 shares in 1995,
1994, and 1993) 300 300 300
Remarketed Preferred Treasury Stock, at cost
Balance, beginning and end of year (1,062 shares in 1995,
1994, and 1993) (106) (106) (106)
------- ------- -------
Balance, end of year 194 194 194
------- ------- -------
Total Preferred Stockholders' Equity $ 619 $ 619 $ 194
======= ======= =======
Common Stockholders' Equity
Common Stock, par value $1.33 1/3
Balance, beginning of year (236,330,162 shares in 1995
and 1994; 234,692,848 shares in 1993) $ 315 $ 315 $ 313
Issued for employee benefit plans (1,637,314 shares in 1993) - - 2
------- ------- -------
Balance, end of year (236,330,162 shares in 1995,
1994, and 1993) $ 315 $ 315 $ 315
======= ======= =======
Paid-In Capital
Balance, beginning of year $ 1,196 $ 1,156 $ 1,081
Issuance of stock:
To employees (2) (9) (3)
For other activity, including employee stock grants (13) 13 14
To ESOP, including share allocations 56 36 64
------- ------- -------
Balance, end of year $ 1,237 $ 1,196 $ 1,156
======= ======= =======
Foreign Currency Translation Adjustment
Balance, beginning of year $ 4 $ (18) $ (6)
Translation adjustment (a) 7 22 (12)
------- ------- -------
Balance, end of year $ 11 $ 4 $ (18)
======= ======= =======
</TABLE>
<PAGE>
<TABLE><CAPTION>
Year Ended Last Friday in December
----------------------------------
1995 1994 1993
- ---------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Net Unrealized Gains (Losses) on Investment Securities
Available-for-Sale (net of applicable income taxes)
Balance, beginning of year $ (57) $ 21 $ --
Net unrealized gains (losses) on investment securities
available-for-sale 335 (410) 254
Other adjustments (b) (253) 332 (233)
------- ------- ------
Balance, end of year $ 25 $ (57) $ 21
======= ======= ======
Retained Earnings
Balance, beginning of year $ 5,606 $4,777 $3,571
Net earnings 1,114 1,017 1,359
Cash dividends declared:
9% Cumulative Preferred stock (38) (6) --
Remarketed Preferred stock (10) (7) (5)
Common stock ($1.01 per share in 1995; $.89 in 1994;
$.70 in 1993) (180) (175) (148)
------- ------- ------
Balance, end of year $ 6,492 $5,606 $4,777
======= ======= ======
Common Treasury Stock, at cost
Balance, beginning of year (48,423,944 shares in 1995;
23,408,139 in 1994; 16,288,488 in 1993) $(1,627) $ (696) $ (287)
Treasury stock purchased (20,011,821 shares in 1995;
29,988,523 in 1994; 16,345,568 in 1993) (939) (1,138) (695)
Issued out of treasury (net of reacquisitions):
Employees (822,818 shares in 1995; 1,026,321 in 1994;
955,391 in 1993) 37 42 33
Employee stock grants (6,683,669 shares in 1995;
3,946,397 in 1994; 8,270,526 in 1993) 288 165 253
------- ------- ------
Balance, end of year (60,929,278 shares in 1995;
48,423,944 in 1994; 23,408,139 in 1993) $(2,241) $(1,627) $ (696)
======= ======= ======
Unallocated ESOP Reversion Shares, at cost
Balance, beginning of year (6,427,091 shares in 1995;
8,932,332 in 1994; 11,201,672 in 1993) $ (101) $ (140) $ (176)
Allocation of shares to participants (2,414,572 shares in 1995;
2,505,241 in 1994; 2,269,340 in 1993) 38 39 36
------- ------- ------
Balance, end of year (4,012,519 shares in 1995;
6,427,091 in 1994; 8,932,332 in 1993) $ (63) $ (101) $ (140)
======= ======= ======
Employee Stock Transactions
Balance, beginning of year $ (137) $ (123) $ (121)
Net issuance of employee stock grants (192) (121) (115)
Amortization of employee stock grants 68 100 107
Repayment of employee loans 7 7 6
------- ------- ------
Balance, end of year $ (254) $ (137) $ (123)
======= ======= ======
Total Common Stockholders' Equity $ 5,522 $ 5,199 $5,292
======= ======= ======
Total Stockholders' Equity $ 6,141 $ 5,818 $5,486
======= ======= ======
</TABLE>
(a) Net of income tax benefit (expense) of $19 in 1995, $(8) in 1994, and $(2)
in 1993.
(b) Other adjustments consist of policyholder liabilities, deferred policy
acquisition costs, and deferred income taxes.
See Notes to Consolidated Financial Statements
<PAGE>
STATEMENTS OF CONSOLIDATED CASH FLOWS
<TABLE><CAPTION>
Year Ended Last Friday in December
----------------------------------
(Dollars in Millions) 1995 1994 1993
- --------------------------------------------------------------------------------------------------------------------
Cash Flows from Operating Activities:
<S> <C> <C> <C>
Net Earnings $ 1,114 $ 1,017 $ 1,359
Noncash items included in earnings:
Cumulative effect of change in accounting principle - - 35
Depreciation and amortization 367 325 308
Policyholder reserves 297 354 517
Other 672 658 683
(Increase) decrease in operating assets:
Trading assets (6,375) 6,610 (19,830)
Cash and securities segregated for regulatory purposes or deposited with
clearing organizations (459) (884) (645)
Securities borrowed 348 (1,992) (5,435)
Customers (771) (826) (3,481)
Maturities and sales of trading investment securities - 197 -
Purchases of trading investment securities - (213) -
Other 250 (273) (3,708)
Increase (decrease) in operating liabilities:
Trading liabilities (2,608) 5,642 7,088
Customers (1,377) (1,962) 3,674
Insurance (732) (1,855) (2,028)
Other 1,405 607 4,355
------ ------ ------
Cash (Used for) Provided by Operating Activities (7,869) 7,405 (17,108)
------ ------ ------
Cash Flows from Investing Activities:
Proceeds from (payments for):
Maturities of available-for-sale securities 1,453 2,610 -
Sales of available-for-sale securities 1,029 1,377 -
Purchases of available-for-sale securities (2,387) (2,296) -
Maturities of held-to-maturity securities 1,217 1,965 -
Purchases of held-to-maturity securities (1,094) (2,537) -
Maturities and sales of investments by insurance subsidiaries - - 3,983
Purchases of investments by insurance subsidiaries - - (2,439)
Marketable investment securities - - (575)
Purchase of Smith New Court, net of cash acquired (601) - -
Other investments and other assets (138) (391) (176)
Property, leasehold improvements, and equipment (352) (406) (407)
------ ------ ------
Cash (Used for) Provided by Investing Activities (873) 322 386
------ ------ ------
Cash Flows from Financing Activities:
Proceeds from (payments for):
Repurchase agreements, net of resale agreements 5,155 (10,875) 10,873
Commercial paper and other short-term borrowings 3,106 3,225 4,445
Issuance and resale of long-term borrowings 10,353 10,353 7,862
Settlement and repurchases of long-term borrowings (7,971) (9,090) (5,263)
Issuance of 9% Cumulative Preferred Stock - 425 -
Common stock transactions (894) (1,048) (511)
Dividends (228) (188) (153)
------ ------- ------
Cash Provided by (Used for) Financing Activities 9,521 (7,198) 17,253
------ ------- ------
Increase in Cash and Cash Equivalents 779 529 531
Cash and Cash Equivalents, beginning of year 2,312 1,783 1,252
------ ------- ------
Cash and Cash Equivalents, end of year $ 3,091 $ 2,312 $ 1,783
====== ======= =======
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
Supplemental Disclosure of Cash Flow Information
Cash paid for:
Income taxes totaled $557 in 1995, $1,190 in 1994, and $1,032 in 1993.
Interest totaled $11,229 in 1995, $8,452 in 1994, and $5,788 in 1993.
Supplemental Disclosure of Noncash Investing and Financing Activity
As part of the consideration for Smith New Court, the Corporation issued
approximately $115 of unsecured floating-rate notes due December 31, 2000 (the
"Notes"). The Notes are redeemable at the option of the holders on any quarterly
interest payment date on or after December 31, 1996.
See Notes to Consolidated Financial Statements
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in Millions, Except Per Share Amounts)
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The consolidated financial statements include the accounts of Merrill Lynch &
Co., Inc. and subsidiaries (collectively, the "Corporation"). All material
intercompany balances have been eliminated. Certain limited reclassification and
format changes have been made to prior years' amounts to conform to the current
year presentation.
The Corporation provides investment, financing, insurance, and related
services to individuals and institutions on a global basis through its principal
broker-dealer subsidiary, Merrill Lynch, Pierce, Fenner & Smith Incorporated
("MLPF&S"), and its broker, dealer, insurance, banking, and other financial
services subsidiaries. Such services include securities brokerage, trading,
underwriting, and clearance; investment banking and other corporate finance
advisory activities; investment advisory and other asset management services;
trading of foreign exchange instruments, futures, commodities, and other
derivatives; banking, trust, and lending services; and insurance sales and
underwriting services.
The consolidated financial statements are presented in accordance with
generally accepted accounting principles and prevailing industry practices,
both of which require management to make estimates regarding certain trading
inventory valuations, the outcome of litigation, goodwill, deferred tax asset
realization, insurance deferred acquisition costs, and other matters that
affect the reported amounts and disclosure of contingencies in the financial
statements. Estimates, by their nature, are based on judgment and available
information. As such, actual results could differ materially from those
estimates.
- -------------------------------------------------------------------------------
TRADING INSTRUMENTS
Trading assets and trading liabilities, which include securities sold but not
yet purchased and derivative instruments held for trading or to hedge trading
inventory positions, are recorded on a trade date basis at fair value. Fair
value is based on quoted market prices, pricing models (utilizing indicators of
general market conditions or other economic measurements), or management's
estimates of amounts to be realized on settlement, assuming current market
conditions and an orderly disposition over a reasonable period of time.
Derivative instruments include futures, forwards, options, and swaps
including swap options, caps, collars, and floors. Fair values for certain
exchange-traded derivatives, principally futures and certain options, are based
on quoted market prices. Fair values for over-the-counter ("OTC") derivative
financial instruments, principally forwards, options, and swaps, are based on
mid-market valuations adjusted, as required, to reflect amounts which would be
received from or paid to a third party in settlement of the instruments.
These adjustments are integral components of the mark-to-market process and
relate to credit spreads, market liquidity, concentrations,
close-out costs associated with unmatched positions, and funding and
administrative costs incurred over the life of the instrument.
Unrealized gains and losses from derivatives are reported separately as
assets and liabilities unless a legal right of setoff exists under a master
netting agreement enforceable at law. Balances related to swap and forward
transactions and foreign currency options are included in "Contractual
agreements" on the Consolidated Balance Sheets. All other derivative instrument
balances are recorded with the related trading asset or liability. The fair
value of equity security options purchased, for example, is recorded in the
"Equities and convertible debentures" trading asset caption.
The Corporation enters into when-issued and delayed delivery transactions.
Unrealized gains and losses from these transactions are recorded in the related
trading asset or liability account, respectively.
Principal transactions revenues are recognized on a trade date basis and
include net unrealized gains or losses from marking-to-market all trading
instruments. Realized gains and losses on trading instruments and any related
interest amounts are included in principal transactions revenues and interest
revenues and expenses, respectively.
- ------------------------------------------------------------------------------
FINANCING AND RELATED ACTIVITIES
The Corporation's objective is to match-fund the interest sensitivity of
its assets and liabilities. Funding is principally obtained from commercial
paper, repurchase agreements, and long-term borrowings. The Corporation utilizes
derivatives to reduce risk by managing interest rate, foreign currency, and
other exposures. Derivatives which modify the interest rate characteristics of
specified assets and liabilities are accounted for on an accrual basis, with
amounts to be paid or received recognized as adjustments to the specified assets
and liabilities and the related interest income or expense. Unrealized gains and
losses on all other financing derivatives are recognized currently. Realized
gains and losses on early terminations of interest rate contracts are deferred
over the remaining lives of the hedged assets or liabilities. At December 29,
1995, there were no deferred amounts related to terminated contracts.
Repurchase and resale agreements are accounted for as collateralized
financing transactions and are recorded at their contractual amounts, plus
accrued interest. The Corporation's policy is to obtain possession of collateral
with a market value equal to or in excess of the principal amount loaned under
resale agreements. Collateral is valued daily, and the Corporation may require
counterparties to deposit additional collateral or return collateral pledged,
when appropriate, to ensure that the market value of the underlying collateral
remains sufficient. Substantially all repurchase and resale agreement activities
are transacted under master netting agreements that give the Corporation the
right, in the event of default, to liquidate collateral held and to set off
receivables and payables with the same counterparty. The Corporation offsets
certain repurchase and resale agreement balances with the same counterparty on
the Consolidated Balance Sheets.
Securities borrowed and securities loaned are recorded at the amount of
cash collateral advanced or received. Securities borrowed transactions require
the Corporation to provide the counterparty with collateral in the form of cash,
letters of credit, or other securities. The Corporation receives collateral in
the form of cash or other securities for
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
securities loaned transactions. For these transactions, the fee received or
paid by the Corporation is recorded as interest revenue or expense. The
Corporation monitors the market value of securities borrowed or loaned against
the collateral value daily. Although substantially all securities borrowing and
lending activities are transacted under master netting agreements, the
Corporation does not offset the related receivables and payables with the
same counterparty on the Consolidated Balance Sheets.
- -------------------------------------------------------------------------------
INVESTMENT SECURITIES
The Corporation holds debt and equity investments principally in non-broker-
dealer subsidiaries. These investments are classified as held-to-maturity,
trading, or available-for-sale.
Held-to-maturity investments are debt securities that the Corporation has
the positive intent and ability to hold to maturity. These investments are
recorded at amortized cost unless a decline in value is deemed
other-than-temporary, in which case the carrying value is adjusted. The
amortization of premium or accretion of discount and any unrealized loss deemed
other-than-temporary are included in current period earnings.
Debt and equity securities purchased principally for the purpose of resale
in the near term are recorded as trading investments and are reported at fair
value. Unrealized gains or losses on these investments are included in current
period earnings.
Other debt and equity securities that are not categorized as
held-to-maturity or trading are classified as available-for-sale and reported at
fair value. Unrealized gains or losses on these securities are reported as a
separate component of stockholders' equity, net of applicable income taxes and
other related items.
Restricted equity investment securities or equity investment securities
without available market quotations are reported at the lower of cost or
estimated net realizable value. Adjustments in carrying values are included in
current period earnings.
Realized gains and losses on investments are included in current period
earnings. The cost basis of each investment sold is specifically identified for
purposes of computing realized gains and losses.
- -------------------------------------------------------------------------------
COMMISSIONS AND RELATED EXPENSES
Commissions charged for executing customer transactions are accrued on a
trade date basis and included in current period earnings. Production-related
compensation and benefits expense is accrued to match revenue recognition.
- -------------------------------------------------------------------------------
INVESTMENT BANKING
Underwriting revenues and fees for mergers and acquisitions and advisory
assignments are recorded when services for the transaction are substantially
completed. Deal-related expenses are deferred and later expensed to match
revenue recognition.
- -------------------------------------------------------------------------------
INCOME TAXES
Merrill Lynch & Co., Inc. and certain of its wholly-owned subsidiaries file
a consolidated Federal income tax return. The Corporation uses the asset and
liability method in providing income taxes on all transactions that have been
recognized in the consolidated financial statements. The asset and liability
method requires that deferred taxes be adjusted to reflect the tax rates at
which future taxable amounts will be settled or realized. The effects of tax
rate changes on future deferred tax liabilities and deferred tax assets, as
well as other changes in income tax laws, are recognized in net earnings in
the period such changes are enacted. Valuation allowances are established when
necessary to reduce deferred tax assets to the amounts expected to be realized.
The Corporation does not provide for deferred income taxes on the undistributed
earnings of foreign subsidiaries, which are considered to be permanently
reinvested.
- -------------------------------------------------------------------------------
PROPERTY, LEASEHOLD IMPROVEMENTS, AND EQUIPMENT
Property (excluding land), leasehold improvements, and equipment are reported
at historical cost, net of accumulated depreciation and amortization.
Land is reported at historical cost.
Depreciation and amortization are computed using the straight-line method.
Property and equipment are depreciated over the estimated useful lives of the
assets, while leasehold improvements are amortized over the lesser of the
estimated economic useful life of the asset or the term of the lease. Most of
the Corporation's fixed assets are technology-based and have shorter lives,
generally three to five years. Maintenance and repair costs are expensed as
incurred.
Facilities-related depreciation and amortization expense was $142, $135,
and $140 in 1995, 1994, and 1993, respectively. Non-facilities-related
depreciation and amortization expense for 1995, 1994, and 1993 was $225, $190,
and $168, respectively.
- -------------------------------------------------------------------------------
GOODWILL
Goodwill, which represents the cost of acquired businesses in excess of
fair value of the related net assets at acquisition, is amortized on a
straight-line basis over periods not exceeding fifteen years and is evaluated
periodically for impairment.
- -------------------------------------------------------------------------------
INSURANCE
Insurance liabilities are future benefits payable under annuity and
interest-sensitive life contracts and include deposits received plus interest
credited during the contract accumulation period, the present value of future
payments for contracts which have annuitized, and a mortality provision for
certain products. Certain policyholder liabilities are also adjusted for those
investments classified as available-for-sale (discussion follows).
Interest-crediting rates range from 3.1% to 10.0%. Liabilities for unpaid claims
consist of the mortality benefit for reported claims and an estimate of
unreported claims based on prior experience. Policy deposits are recorded as
insurance liabilities when received. Policy withdrawal, maintenance, and other
fees are recognized as revenue when earned.
Substantially all investments of insurance subsidiaries, principally debt
securities, are classified as available-for-sale and recorded at fair value.
These investments support the
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
Corporation's in-force, universal life-type contracts. The Corporation records
adjustments to deferred acquisition costs and policyholder account balances
which, when combined, are equal to the adjustments that would have been
recorded if those available-for-sale investments had been sold at their
estimated fair values and the proceeds reinvested at current yields. The
corresponding credits or charges for these adjustments are recorded
as unrealized gains or losses in stockholders' equity, net of applicable income
taxes.
Certain variable costs related to the sale or acquisition of new and
renewal insurance contracts have been deferred to the extent such costs are
deemed recoverable from future income. Deferred costs are amortized over the
lives of the contracts in proportion to the estimated gross profit expected to
be realized for each group of contracts, utilizing an interest methodology.
The Corporation maintains separate accounts representing segregated funds
held for purposes of funding variable life and annuity contracts. Subsidiaries
of the Corporation receive various administrative and advisory fees for managing
such funds. Separate account assets are accounted for as customer assets since
the contract holders bear the risk of ownership, consistent with the
Corporation's other investment products. Accordingly, separate account assets
and the related liabilities are not consolidated with the assets and liabilities
of the Corporation.
- -------------------------------------------------------------------------------
TRANSLATION OF FOREIGN CURRENCIES
Assets and liabilities of foreign subsidiaries are translated at year-end
currency exchange rates, while revenues and expenses are translated at average
currency exchange rates during the year. Adjustments that result from
translating foreign currency financial statements, net of hedging gains or
losses and related tax effects, are reported as a separate component of
stockholders' equity. Gains or losses resulting from the effect of exchange rate
changes on foreign currency transactions are included in earnings of the current
period.
- -------------------------------------------------------------------------------
CASH FLOWS
For purposes of the Statements of Consolidated Cash Flows, the Corporation
defines cash equivalents as short-term, highly liquid securities and
interest-earning deposits with original maturities of 90 days or less, other
than those held for trading purposes.
- -------------------------------------------------------------------------------
INTEREST EXPENSE
Interest expense includes payments in lieu of dividends of $10, $23, and
$21 in 1995, 1994, and 1993, respectively.
- -------------------------------------------------------------------------------
NOTE 2. OTHER SIGNIFICANT EVENTS
ACCOUNTING CHANGES
In 1995, the Corporation adopted Statement of Financial Accounting
Standards ("SFAS") No. 114, "Accounting by Creditors for Impairment of a Loan",
SFAS No. 118, "Accounting by Creditors for Impairment of a Loan - Income
Recognition and Disclosures", and SFAS No. 122", "Accounting for Mortgage
Servicing Rights". The impact of adopting these pronouncements on 1995 results
of operations was not material.
In 1993, the Corporation adopted SFAS No. 112, "Employers' Accounting for
Postemployment Benefits". The cumulative effect of this change in accounting
principle reported in the 1993 Statement of Consolidated Earnings resulted in a
charge of $35 (net of applicable income taxes of $25).
At December 31, 1993, the Corporation adopted SFAS No. 115, "Accounting for
Certain Investments in Debt and Equity Securities". The increase to
stockholders' equity at that date totaled $21 (net of $12 in applicable income
taxes). The impact of the year-end adoption of SFAS No. 115 on the 1993 results
of operations was not material.
- -------------------------------------------------------------------------------
ACQUISITION
In 1995, the Corporation acquired Smith New Court PLC ("Smith New Court"),
a U.K.-based global securities firm, for approximately $800, and recorded
approximately $530 of goodwill related to the acquisition. The Corporation's
results of operations include those of Smith New Court since mid-August 1995.
- -------------------------------------------------------------------------------
OCCUPANCY CHARGE
The Corporation recorded a non-recurring pretax charge totaling $103 ($60
after income taxes) in 1993 related to the Corporation's decision not to occupy
certain office space at its World Financial Center Headquarters ("WFC") facility
and to sublease the unused space to third parties.
- -------------------------------------------------------------------------------
NOTE 3. TRADING ACTIVITIES
The Corporation trades both derivative and cash financial instruments. While
trading activities are primarily generated by client order flow, the Corporation
also takes proprietary positions in interest rate, foreign exchange, debt,
equity, and commodity instruments based on expectations of future market
movements and conditions. The Corporation's trading strategies rely on the joint
management of its client-driven and proprietary transactions, along with the
hedging and financing of these positions.
Detailed information on principal transactions revenues by product category
follows(1):
- -------------------------------------------------------------------------------
1995 1994 1993
------ ------ ------
Equities and equity derivatives $ 912 $ 625 $ 872
Interest rate and currency swaps 732 750 604
Taxable fixed-income 516 471 972
Municipals 273 380 315
Foreign exchange and commodities 86 109 158
------ ------ ------
Total $2,519 $2,335 $2,921
====== ====== ======
- ------------------------------------------------------------------------------
(1) The revenue amounts presented include gains and losses from cash instruments
and related derivatives including swaps, forwards, futures, and options as
applicable.
Interest revenue and expense from derivative and cash financial instruments
are integral components of trading activities. In assessing the profitability of
trading activities, the Corporation views net interest and principal
transactions revenues in the aggregate. See "Principal Transactions" in
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
Management's Discussion and Analysis (unaudited) for further
information on the Corporation's net trading results.
- -------------------------------------------------------------------------------
NOTE 4. FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK
Certain of the Corporation's financial instruments have off-balance-sheet
risk of accounting loss, which may consist of market and/or credit risk, in
excess of amounts recorded on the Consolidated Balance Sheets. Financial
instruments with off-balance-sheet market risk include derivatives, securities
sold but not yet purchased, and certain commitments and guarantees. These
instruments may also have off-balance-sheet credit risk. The credit risk of
off-balance-sheet instruments is discussed in Note 5, except to the extent that
the following off-balance-sheet market risk discussion includes the credit risk
of a derivative's underlying instrument.
- -------------------------------------------------------------------------------
DERIVATIVES
SFAS No. 119, "Disclosure about Derivative Financial Instruments and Fair
Value of Financial Instruments", defines a derivative as a future, forward,
swap, or option contract, or other financial instrument with similar
characteristics. The SFAS No. 119 definition excludes all on-balance-sheet
receivables and payables, including those that "derive" their values or
contractually required cash flows from the price of some other security or
index, such as mortgage-backed securities, interest-only and principal-only
obligations, and indexed debt instruments. It also excludes option features
embedded in on-balance-sheet receivables or payables. Conversion features and
call provisions embedded in convertible bonds, for example, do not qualify as
derivatives under the SFAS No. 119 definition.
Derivative contracts often involve future commitments to exchange interest
payment streams or currencies (such as in interest rate and currency swaps or
foreign exchange forwards) or to purchase or sell other financial instruments at
specified terms on a specified date. For instance, options can be purchased or
written on a wide range of financial instruments such as securities, currencies,
futures, and market indices. Options can require the writer to purchase or sell
a specified financial instrument or commodity, or to make a cash payment based
on changes in a reference index or interest rate. Different forward commitment
and option terms can also be combined to meet specialized needs. Interest rate
caps and floors provide the purchaser with protection against rising and falling
interest rates, respectively. Interest rate collars combine a cap and a floor,
providing the purchaser with a predetermined interest rate range. Swap options
provide the purchaser with an option to extend or cancel an existing swap
contract or enter into a new swap contract in the future.
The Corporation enters into various derivative financial instruments to
meet clients' needs and to manage its own market risks. See "Derivative
Financial Instruments" in Management's Discussion and Analysis (unaudited) for
further information.
- -------------------------------------------------------------------------------
MARKET RISK
Market risk is the potential change in value caused by fluctuations in
interest rates, foreign exchange rates, or market prices of an underlying
financial instrument or index. The level of market risk is influenced by the
volatility and the liquidity in the markets in which financial instruments are
traded.
The Corporation seeks to control market risk by developing and refining
hedging strategies that correlate price and currency movements of trading
inventories, non-trading assets and liabilities, and related hedges. In many
cases, derivative financial instruments are used to hedge other on- and
off-balance-sheet transactions.
The following discussion describes the types of market risk faced by the
Corporation and the relationship of derivatives, particularly those used for
trading purposes, to such risks.
- -------------------------------------------------------------------------------
INTEREST RATE RISK
Interest rate risk arises from the possibility that changes in interest
rates will affect the value of financial instruments. Interest rate swap
agreements are a common interest rate risk management tool. Eurodollar and U.S.
Treasury securities futures are also typically effective for managing interest
rate risk. The decision to manage interest rate risk using futures or swap
contracts, as opposed to buying or selling short U.S. Treasury securities,
depends on current market conditions and funding considerations.
Interest rate swap agreements used by the Corporation include caps,
collars, floors, swap options, basis swaps, and leveraged swaps. Basis
swaps are a type of interest rate swap agreement where rates received and paid
are variable based on different index rates. Leveraged swaps are another type of
interest rate swap where changes in the variable rate are multiplied by a
contractual leverage factor, such as four times three-month LIBOR (London
Interbank Offered Rate). The Corporation's exposure to interest rate risk
resulting from these leverage factors is hedged with other financial
instruments.
In addition to the credit risk of the counterparty, some swap agreements
and other derivatives subject to interest rate risk also expose the holder to
the credit risk of the underlying financial instrument. Total return swaps, for
instance, are typically designed to transfer all the risks and rewards of
ownership of an underlying debt instrument, including the risk of default, from
one party in the swap agreement to the other party, in exchange for a specified
interest rate.
- -------------------------------------------------------------------------------
CURRENCY RISK
Currency risk arises from the possibility that fluctuations in foreign
exchange rates will impact the value of financial instruments. Foreign exchange
forwards and options are commonly used to manage currency risk. Currency swaps
are also used primarily in situations where a long-dated forward market is not
available or where the end-user needs a customized instrument to hedge a foreign
currency cash flow stream. Parties to a currency swap initially exchange
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
principal amounts in two currencies, agreeing to exchange interest payments and
to re-exchange the currencies at a future date and agreed-upon rate. The
Corporation's foreign exchange contracts relate primarily to major currencies
such as the Japanese yen, German mark, and British pound.
- -------------------------------------------------------------------------------
EQUITY PRICE RISK
Equity price risk arises from the possibility that equity security prices will
fluctuate, affecting the value of contracts that derive their value from a stock
index, a particular stock, or a defined basket of stocks.
- -------------------------------------------------------------------------------
COMMODITY PRICE RISK
The Corporation views its commodity contracts as financial instruments since
they are generally settled in cash and not by delivery of the underlying
commodity. Market risk results from the possibility that the price of the
underlying commodity may rise or fall. Cash flows from commodity swaps are based
on the difference between an agreed-upon fixed price and a price that varies
with changes in a specified commodity index. Commodity contracts held by the
Corporation principally relate to natural resources and base metals.
- -------------------------------------------------------------------------------
TRADING DERIVATIVES
Many of the derivatives entered into by the Corporation are held for
trading purposes, which includes hedging other trading positions.
The contractual or notional amounts of derivatives provide only a measure
of involvement in these types of transactions and represent neither the amounts
subject to the various types of market risk, nor the future cash requirements
under these instruments. The contractual or notional amounts of derivatives used
for trading purposes by type of risk follow:
- -------------------------------------------------------------------------------
Interest Equity Commodity
Rate Currency Price Price
(in billions) Risk(1)(2) Risk(3) Risk Risk
- -------------------------------------------------------------------------------
December 29, 1995
- -----------------
Swap agreements $851 $106 $ 7 $ 3
Futures contracts 215 1 2 2
Options purchased 45 24 38 5
Options written 64 24 41 6
Forward contracts 33 118 - 25
- -------------------------------------------------------------------------------
December 30, 1994
- -----------------
Swap agreements $653 $ 73 $ 2 $ 2
Futures contracts 172 - 2 2
Options purchased 75 22 22 12
Options written 74 22 21 7
Forward contracts 29 103 - 7
- -------------------------------------------------------------------------------
(1) Certain derivatives subject to interest rate risk are also exposed to credit
risk of the underlying financial instrument, such as total return swaps and
similar instruments.
(2) Forward contracts subject to interest rate risk principally represent "To
Be Announced" mortgage pools which bear interest rate as well as principal
prepayment risk.
(3) Included in the currency risk category are certain contracts which are also
subject to interest rate risk.
Most of the Corporation's off-balance-sheet trading derivative transactions
are short-term in duration with a weighted-average maturity of approximately
2.24 years as of December 29, 1995 and 2.29 years as of December 30, 1994. The
remaining maturities for notional or contractual amounts outstanding at December
29, 1995 for trading derivatives follow:
- -------------------------------------------------------------------------------
Graph titled "REMAINING MATURITIES OF TRADING DERIVATIVES"
Presented is a bar graph showing Merrill Lynch & Co., Inc.'s remaining
maturities for notional or contractual amounts outstanding at December 29, 1995
of trading derivatives. The graph is presented in billions with trading
derivatives comprised of swap agreements, futures contracts, forward
contracts, options written, and options purchased. Remaining maturities for
these products in the aggregate total $1,610, $893, $632, $457, $342, $239, $197
and $152 at year-ends December 1995 through December 2001 and after 2001,
respectively.
- -------------------------------------------------------------------------------
FINANCING AND OTHER NON-TRADING DERIVATIVES
The Corporation's financing activities may create exposure to market risk, most
notably interest rate and currency risk. The Corporation issues dollar- and
foreign currency-denominated debt with both variable- and fixed-rate interest
payment terms. The Corporation generally enters into swap agreements to convert
fixed-rate interest payments on its debt obligations into variable-rate
payments. Interest obligations on variable-rate long-term debt and commercial
paper may also be modified through basis swaps, which change the underlying
interest rate basis or reset frequency.
The Corporation also issues debt that is linked to the performance of an
equity or other index (e.g., S&P 500) or an industry basket of stocks. These
debt features are often referred to as embedded options. The contingent
components of these indexed debt issuances and the related hedges are recorded
at amounts which approximate fair value.
For other non-trading activities, the Corporation uses interest rate swaps
to modify the interest rate characteristics of specified repurchase, resale, and
certain customer transactions. The Corporation also uses currency swaps to hedge
investments in and loans to foreign subsidiaries.
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
The contractual or notional amounts of these instruments used for financing
and other non-trading purposes follow:
- -------------------------------------------------------------------------------
December 29, December 30,
(in billions) 1995 1994
------------ ------------
Interest rate swap contracts(1) $31 $22
Foreign exchange contracts(1) 3 3
Equity options purchased 1 1
- -------------------------------------------------------------------------------
(1) Includes options embedded in swap contracts which hedge callable debt
totaling $1 billion notional.
Most of the above transactions are entered into with the Corporation's
swap and foreign exchange dealer subsidiaries, which intermediate the interest
rate and currency risk with third parties in the normal course of their trading
activities.
- -------------------------------------------------------------------------------
OTHER FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET MARKET RISK
In addition to derivatives, the Corporation has sold securities that it
does not currently own and will therefore be obligated to purchase such
securities at a future date. These transactions are recorded as trading
liabilities on the Consolidated Balance Sheets. The Corporation will incur a
loss if the market values of these securities subsequently increase.
- -------------------------------------------------------------------------------
NOTE 5. FINANCIAL INSTRUMENTS WITH CREDIT RISK
Credit risk is quantified by the amount of accounting loss that the Corporation
would incur if a counterparty failed to perform its obligations under
contractual terms and the collateral held, if any, were deemed worthless. Both
on- and off-balance-sheet instruments may expose the Corporation to credit risk.
The Corporation attempts to control credit risk by monitoring credit exposures,
obtaining collateral, limiting transactions with specific counterparties, and
continually assessing the creditworthiness of counterparties.
- -------------------------------------------------------------------------------
CREDIT RISK OF OFF-BALANCE-SHEET FINANCIAL INSTRUMENTS
For derivative contracts, credit risk is limited to the current cost of
replacing those contracts in a gain position (i.e., the accounting loss). The
notional or contractual values of futures, forward, and swap contracts do not
represent exposure to credit risk. For futures contracts, the Corporation
usually does not intend to take or make physical delivery of the underlying
security, asset, or index. Since futures contracts are exchange-traded and
require daily cash settlement, the related risk of accounting loss is generally
limited to a one-day net positive change in market value. Option contracts can
be exchange-traded or OTC contracts. Purchased options have credit risk to the
extent of their replacement cost. Written options represent a potential
obligation of the Corporation and, accordingly, do not subject the Corporation
to credit risk.
To reduce credit risk, the Corporation requires collateral, principally
U.S. Government and agencies securities, on certain derivative transactions.
Presented below is a summary of counterparty credit ratings for the
replacement cost (net of $2,186 collateral) of trading derivatives in a gain
position by maturity at December 29, 1995.
- -------------------------------------------------------------------------------
Years to Maturity Cross-
maturity
0-3 3-5 5-7 Over 7 netting(1) Total
---------------------------------------------------------------
Credit
Rating(2)
AAA $ 446 $ 130 $ 137 $ 461 $ (95) $ 1 079
AA+/AA 1,250 158 102 302 (316) 1,496
AA- 1,434 590 373 604 (550) 2,451
A+/A 1,807 759 316 260 (481) 2,661
A- 1,254 546 265 132 (332) 1,865
BBB 700 194 85 70 (125) 924
BB+ 360 247 64 25 (58) 638
Other 416 63 21 21 (23) 498
------ ------ ------ ------ ------- -------
Total $7,667 $2,687 $1,363 $1,875 $(1,980) $11,612
------ ------ ------ ------ ------- -------
- -------------------------------------------------------------------------------
(1) Represents netting of payable balances with receivable balances for the same
counterparty across maturity categories. Receivable and payable balances
with the same counterparty in the same maturity category, however, are net
within the maturity category.
(2) Represents rating agency equivalent.
The Corporation is also exposed to off-balance-sheet credit and market risk
from various commitments and guarantees. In the normal course of business, the
Corporation enters into commitments to extend credit, predominantly at variable
interest rates, in connection with certain merchant banking and loan syndication
transactions. Customers may also be extended lines of credit collateralized by
first and second mortgages on real estate, certain liquid assets of small
businesses, or securities. The Corporation also issues various guarantees to
counterparties in connection with certain leasing, agency securities lending,
securitization, and other transactions. These commitments and guarantees usually
have a fixed expiration date and are contingent on certain contractual
conditions that may require payment of a fee by the counterparty. Once
commitments are drawn upon or guarantees are issued, the Corporation may require
the counterparty to post collateral depending upon credit-worthiness and market
conditions.
The contractual amounts of these commitments and guarantees represent the
amounts at risk should the contract be fully drawn upon, the client default, and
the value of the existing collateral become worthless. The total amount of
outstanding commitments and guarantees may not represent future cash
requirements as guarantees and commitments may expire without being drawn
upon.
At December 29, 1995 and December 30, 1994, the Corporation had the
following commitments and guarantees:
- -------------------------------------------------------------------------------
1995 1994
------ ------
Commitments to extend credit $3,555 $2,072
Third party guarantees 887 520
- -------------------------------------------------------------------------------
The fair value of the outstanding guarantees was $31 and $22 at
December 29, 1995 and December 30, 1994, respectively.
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
- -------------------------------------------------------------------------------
CREDIT RISK FROM CUSTOMER AND OTHER ACTIVITIES
In the normal course of business, the Corporation incurs credit risk when
executing, settling, and financing various customer securities and commodity
transactions. Execution of these transactions includes the purchase and sale
(including "short sales") of securities. These activities may expose the
Corporation to credit risk arising from the potential that customers or
counterparties may fail to satisfy their obligations. In these situations, the
Corporation may be required to purchase or sell financial instruments at
unfavorable market prices to satisfy obligations to its customers or
counterparties. The Corporation seeks to control the risks associated with its
customer activities by requiring customers to maintain margin collateral in
compliance with regulatory and internal guidelines.
Liabilities to other brokers and dealers related to unsettled transactions
(i.e., securities failed-to-receive) are recorded at the amount for which the
securities were acquired and are paid upon receipt of the securities from other
brokers or dealers. In the case of aged securities failed-to-receive, the
Corporation may purchase the underlying security in the market and seek
reimbursement for losses from the counterparty.
The Corporation borrows and lends securities to finance securities
transactions and to facilitate the settlement process, utilizing both securities
owned by the Corporation and securities owned by customers collateralizing
margin debt. In addition, securities transactions are financed through resale
and repurchase agreements, generally collateralized by U.S. Government and
agencies securities, medium-term notes, asset-backed securities, or certain
non-U.S. governments and agencies securities.
The market value of securities owned by the Corporation that have been
loaned or were collateralizing either repurchase agreements or obligations
associated with various settlement processes at December 29, 1995 and
December 30, 1994, were $37,074 and $34,921, respectively.
- --------------------------------------------------------------------------------
CONCENTRATIONS OF CREDIT RISK
The Corporation's exposure to credit risk associated with its trading and other
activities is measured on an individual counterparty basis, as well as by groups
of counterparties that share similar attributes. Concentrations of credit risk
can be affected by changes in geographic, industry, or economic factors. To
alleviate the potential for risk concentration, credit limits are established
and monitored in light of changing counterparty and market conditions.
At December 29, 1995, the Corporation's most significant concentration of
credit risk was with the U.S. Government and its agencies. This concentration,
which arises from taking trading asset and investment security positions and
holding collateral on resale agreements, totaled $35,769 at December 29, 1995
and $40,018 at December 30, 1994.
At December 29, 1995, the Corporation had concentrations of credit risk
with other counterparties, including an Asian and a European sovereign rated
AA+ or above by a recognized credit rating agency. The total exposure to these
counterparties, excluding collateral held, was $3,642 or 2.1% of total assets.
At December 30, 1994, the Corporation had concentrations of credit risk with an
Asian and two European sovereigns totaling $2,615 or 1.6% of total assets,
excluding collateral held.
The Corporation's most significant industry credit concentration is
with domestic and foreign financial institutions. Financial institutions include
other brokers and dealers, commercial banks, automobile financing companies,
insurance companies, and mutual funds. This concentration arises in the normal
course of the Corporation's brokerage, trading, financing, and underwriting
activities. The Corporation also monitors credit exposures worldwide by region.
Within these regions, sovereign governments represent the most significant
concentration, followed by financial institutions and non-financial
institutions.
In connection with its mortgage trading activities, the Corporation held
whole loans with market values of $2,127 and $2,111 at December 29, 1995 and
December 30, 1994, respectively, as collateral for resale agreements with
financial institutions totaling $1,840 and $1,888, respectively.
In conjunction with its investment and merchant banking activities, the
Corporation provides extensions of credit and makes equity investments to
facilitate leveraged transactions. In the normal course of business, the
Corporation also purchases, sells, and makes markets in non-investment grade
securities. These activities expose the Corporation to a higher degree of credit
risk than is associated with investing, extending credit, underwriting, and
trading in investment grade instruments. At December 29, 1995, the Corporation's
aggregate exposure to credit risk (both on- and off-balance-sheet) associated
with non-investment grade securities and highly leveraged transactions amounted
to $7,073. See "Non-Investment Grade Holdings and Highly Leveraged Transactions"
in Management's Discussion and Analysis (unaudited) for further information.
- -------------------------------------------------------------------------------
NOTE 6. FAIR VALUE OF FINANCIAL INSTRUMENTS
At December 29, 1995 and December 30, 1994, respectively, approximately 98%
and 99% of financial instrument assets are carried at fair value or amounts
which approximate fair value.
<PAGE>
- --------------------------------------------------------------------------------
TRADING FINANCIAL INSTRUMENTS
Trading assets and liabilities, including derivative financial instruments used
for trading purposes, are carried at fair value as described in Note 1.
The table below presents the average fair values of the Corporation's
trading derivatives for 1995 and 1994, calculated on a monthly basis:
- -------------------------------------------------------------------------------
Average Fair Value
----------------------------------------------------
1995 1994
----------------------- -----------------------
Assets Liabilities Assets Liabilities
------- ----------- ------- -----------
Swap agreements $10,264 $9,072 $8,349 $7,023
Forward contracts 1,543 1,915 1,358 1,365
Options 2,957 1,939 1,714 1,643
- -------------------------------------------------------------------------------
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
- -------------------------------------------------------------------------------
FINANCING AND OTHER NON-TRADING FINANCIAL INSTRUMENTS
Derivatives used to hedge borrowings and other non-trading activities are
generally recorded on an accrual basis. The fair value of these instruments and
related hedges is estimated using current market prices and pricing models. The
carrying and fair values of these instruments are summarized as follows:
- --------------------------------------------------------------------------------
December 29, 1995 December 30, 1994
-------------------- --------------------
Carrying Fair Carrying Fair
Value Value Value Value
-------- -------- -------- --------
Long-term
borrowings $ 17,340 $ 17,901 $ 14,863 $ 14,368
Related derivative:
Assets (260) (781) (133) (168)
Liabilities 176 154 66 547
------- -------- -------- --------
Total $17,256 $ 17,274 $ 14,796 $ 14,747
======= ======== ======== ========
Commercial
paper $16,969 $ 16,972 $ 14,759 $ 14,755
Related derivative:
Assets (16) (17) - -
Liabilities - 1 - 6
------- -------- -------- --------
Total $16,953 $ 16,956 $ 14,759 $ 14,761
======= ======== ======== ========
Other non-trading
liabilities $ 1,554 $ 1,572 $ 1,635 $ 1,606
Related derivative:
Assets (3) (4) - (4)
Liabilities - 2 (3) 23
------- -------- -------- --------
Total $ 1,551 $ 1,570 $ 1,632 $ 1,625
======= ======== ======== ========
- -------------------------------------------------------------------------------
Short-term financial instruments are carried at amounts which approximate
fair value. Such instruments include cash and cash equivalents, cash and
securities segregated for regulatory purposes or deposited with clearing
organizations, repurchase and resale agreements, securities borrowed,
receivables, commercial paper and other short-term borrowings, payables to
customers and brokers and dealers, and insurance and other liabilities.
Marketable investment securities and certain investments of insurance
subsidiaries and other investments are carried as held-to-maturity, trading, or
available-for-sale securities as described in Note 1. These securities are
predominantly carried at fair value or amounts that approximate fair value as
disclosed in Note 7.
Other financial instruments with carrying values different than fair values
are presented below:
- -------------------------------------------------------------------------------
December 29, 1995 December 30, 1994
------------------ -------------------
Carrying Fair Carrying Fair
Value Value Value Value
--------- ----- -------- -----
Merchant banking
equity and debt
portfolio $ 394 $ 595 $ 556 $ 764
Loans, notes, and
mortgages(1) 2,082 2,149 1,417 1,428
Capitalized mortgage
servicing rights 136 184 107 154
- --------------------------------------------------------------------------------
(1) Excludes loans related to merchant banking.
In connection with its merchant banking activities, the Corporation holds
certain equity instruments, including partnership interests (both included in
Other Investments in the Consolidated Balance Sheets), and loans consisting
primarily of senior and subordinated debt. Fair value for equity instruments is
estimated using a number of methods, including earnings multiples, cash flow
analyses, and review of underlying financial conditions and other market
factors. These instruments may be subject to restrictions (e.g., minority
ownership, consent of other investors) that may limit the Corporation's ability
to realize currently the estimated fair value. Accordingly, the Corporation's
current estimate of fair value and its ultimate realization on these instruments
may differ. Loans made in connection with merchant banking activities are
carried at unpaid principal balances less a reserve for estimated losses. Fair
value is estimated using discounted cash flows.
The Corporation's estimate of fair value for its loans, notes, and
mortgages (excluding loans made in connection with merchant banking activities)
is determined based on loan characteristics. For certain homogeneous categories
of loans, including residential mortgages and home equity loans, fair value is
estimated using market price quotations or previously executed transactions for
securities backed by similar loans, adjusted for credit risk and other
individual loan characteristics. For the Corporation's variable-rate loan
receivables, carrying value approximates fair value.
Capitalized mortgage servicing rights, which represent the present value of
estimated future net servicing revenues for mortgages securitized by the
Corporation, are included in Other Assets on the Consolidated Balance Sheets.
Fair value is computed based on the present value of estimated future servicing
revenues (net of servicing expenses), using current market assumptions for
discount rates, prepayment speeds, default estimates, and interest rates.
The Corporation holds a passive minority interest in a privately held
limited partnership that provides information services. Due to the lack of a
ready market for this investment and contractual restrictions on the disposition
of the Corporation's interest, the fair value of this investment is not readily
determinable as of December 29, 1995. It is the opinion of management, however,
that the fair value of this investment significantly exceeds the carrying value
of $39.
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
- --------------------------------------------------------------------------------
NOTE 7. INVESTMENTS
The Corporation has several broad categories of investments on its
Consolidated Balance Sheets, including investments of insurance subsidiaries,
marketable investment securities, and other investments.
Investments of insurance subsidiaries, primarily debt securities, are used
to fund policyholder liabilities. Marketable investment securities consist of
equity and debt securities held for rating agency purposes or to manage cash
flows related to certain liabilities of the Corporation's banking subsidiaries.
Other investments consist principally of equity and debt securities which were
acquired primarily in connection with merchant banking activities. Certain
merchant banking investments are subject to restrictions which may limit the
Corporation's ability to realize its investment until such restrictions expire.
A reconciliation of the Corporation's investment securities to those
reported in the Consolidated Balance Sheets is presented below:
- -------------------------------------------------------------------------------
December 29, December 30,
1995 1994
------------ ------------
Investments of insurance
subsidiaries
Available-for-sale $4,145 $4,189
Non-qualifying 1,474 1,530
------ ------
Total $5,619 $5,719
====== ======
Marketable investment
securities
Available-for-sale $1,064 $ 486
Held-to-maturity 1,268 1,807
Trading 33 32
------ ------
Total $2,365 $2,325
====== ======
Other investments
Available-for-sale $ 165 $ 106
Held-to-maturity 43 27
Non-qualifying 753 755
------ ------
Total $ 961 $ 888
====== ======
- -------------------------------------------------------------------------------
Information regarding investment securities subject to SFAS No. 115 follows:
<TABLE><CAPTION>
- -----------------------------------------------------------------------------------------------------------------------------------
December 29, 1995 December 30, 1994
--------------------------------------------------- ---------------------------------------------------
Cost/ Gross Gross Estimated Cost/ Gross Gross Estimated
Amortized Unrealized Unrealized Fair Amortized Unrealized Unrealized Fair
Available-for-Sale(1) Cost Gains Losses Value Cost Gains Losses Value
--------------------------------------------------- ---------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Corporate debt $2,999 $145 $ (7) $3,137 $3,009 $21 $(143) $2,887
U.S. Government and
agencies 631 8 - 639 365 1 (6) 360
Municipals 168 1 - 169 225 8 (11) 222
Mortgage-backed securities 1,290 35 (2) 1,323 1,240 12 (41) 1,211
Other debt securities 57 1 - 58 53 1 - 54
------ ---- ---- ------ ------ --- ----- ------
Total debt securities 5,145 190 (9) 5,326 4,892 43 (201) 4,734
Equity securities 50 5 (7) 48 45 6 (4) 47
------ ---- ---- ------ ------ --- ------ ------
Total $5,195 $195 $(16) $5,374 $4,937 $49 $(205) $4,781
====== ==== ==== ====== ====== === ====== ======
- -----------------------------------------------------------------------------------------------------------------------------------
December 29, 1995 December 30, 1994
--------------------------------------------------- ---------------------------------------------------
Cost/ Gross Gross Estimated Cost/ Gross Gross Estimated
Amortized Unrealized Unrealized Fair Amortized Unrealized Unrealized Fair
Held-to-Maturity(1) Cost Gains Losses Value Cost Gains Losses Value
--------------------------------------------------- ---------------------------------------------------
Corporate debt $1,051 $13 - $1,064 $1,188 - $(17) $1,171
U.S. Government and agencies 23 - - 23 104 - (1) 103
Municipals 1 - - 1 1 - - 1
Mortgage-backed securities 169 - - 169 497 - (16) 481
Other debt securities 67 1 - 68 44 - - 44
------ --- ---- ------ ------ ----- ---- ------
Total $1,311 $14 - $1,325 $1,834 - $(34) $1,800
====== === ==== ====== ====== ===== ==== ======
- -----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
(1)In accordance with Financial Accounting Standards Board implementation
guidance on SFAS No. 115, the Corporation reassessed the classification
of all such securities and transferred held-to-maturity securities with
an amortized cost of $385 to the available-for-sale category on December
29, 1995. Net unrealized gains for these securities on the date of transfer
were $4.
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
The carrying value and estimated fair value of debt securities at December
29, 1995, by contractual maturity, for available-for-sale and held-to-maturity
investments follow:
- --------------------------------------------------------------------------------
Available-for-Sale Held-to-Maturity
------------------- --------------------
Estimated Estimated
Amortized Fair Amortized Fair
Cost Value Cost Value
--------- -------- --------- ---------
Due in one year
or less $ 926 $ 929 $ 613 $ 614
Due after one year
through five years 1,799 1,866 500 513
Due after five years
through ten years 972 1,037 2 2
Due after ten years 158 171 27 27
----- ----- ----- -----
Subtotal 3,855 4,003 1,142 1,156
Mortgage-backed
securities 1,290 1,323 169 169
----- ----- ----- -----
Total(1) $5,145 $5,326 $1,311 $1,325
====== ====== ====== ======
- --------------------------------------------------------------------------------
(1) Expected maturities will differ from contractual maturities because
borrowers may have the right to call or prepay obligations with or without
prepayment penalties.
The Corporation's insurance subsidiaries are required to adjust deferred
acquisition costs and certain policyholder liabilities associated with
investments classified as available-for-sale. These adjustments are recorded in
stockholders' equity and assume that the unrealized gain or loss on
available-for-sale securities was realized. The table below provides the
activity for the net unrealized gains (losses) recorded in stockholders' equity
for available-for-sale investments.
- --------------------------------------------------------------------------------
Dec. 29, Dec. 30, Dec. 31,
1995 1994 1993
------- ------ -------
Net unrealized gains (losses)
on investment securities
available-for-sale $ 335 $(410) $ 254
Adjustments for policyholder
liabilities (137) 215 (206)
Adjustments for deferred
policy acquisition costs (72) 74 (15)
Deferred income taxes (44) 43 (12)
------ ------ ------
Net activity 82 (78) 21
Net unrealized (losses) gains
on investment securities
classified as available-for-sale,
beginning of year (57) 21 -
------ ------ ------
Net unrealized gains (losses)
on investment securities
classified as available-for-sale,
end of year $ 25 $ (57) $ 21
====== ====== ======
- -------------------------------------------------------------------------------
The proceeds and gross realized gains (losses) from the sale of
available-for-sale investments are as follows:
- -------------------------------------------------------------------------------
1995 1994 1993
------ ------ ------
Proceeds $1,029 $1,377 $3,828
Gross realized gains 26 31 76
Gross realized losses (28) (34) (5)
- -------------------------------------------------------------------------------
Net unrealized gains (losses) from trading investment securities included
in the 1995 and 1994 Consolidated Statements of Earnings were $1 and $(7),
respectively.
- -------------------------------------------------------------------------------
NOTE 8. STOCKHOLDERS' EQUITY
PREFERRED EQUITY
The Corporation is authorized to issue 25,000,000 shares of undesignated
preferred stock, $1.00 par value per share. In 1994, the Corporation's Board of
Directors (the "Board") delegated to the Executive Committee of the Board the
authority to authorize the issuance, from time to time, of up to 100,000 shares
of previously undesignated preferred stock having an aggregate liquidation
preference not to exceed $600. All shares of currently outstanding preferred
stock constitute one and the same class and have equal rank and priority over
common stockholders as to dividends and in the event of liquidation.
<PAGE>
- -------------------------------------------------------------------------------
9% CUMULATIVE PREFERRED STOCK, SERIES A
In 1994, the Corporation issued 17,000,000 Depositary Shares, each
representing a one-four-hundredth interest in a share of 9% Cumulative Preferred
Stock, Series A, $10,000 liquidation preference per share ("9% Preferred
Stock"). The 9% Preferred Stock is a single series consisting of 42,500 shares
with an aggregate liquidation preference of $425.
Dividends on the 9% Preferred Stock are cumulative from the date of
original issue and are payable quarterly when declared by the authority of the
Board. The 9% Preferred Stock is redeemable on or after December 30, 2004 at
the option of the Corporation, in whole or in part, at a redemption price equal
to $10,000 per share, plus accrued and unpaid dividends (whether or not
declared) to the date fixed for redemption.
- -------------------------------------------------------------------------------
REMARKETED PREFERRED(Service Mark) STOCK, SERIES C
The Corporation has issued 3,000 shares of Remarketed Preferred Stock,
Series C ("RP(Registered Trademark) Stock") of which 1,938 shares were
outstanding as of December 29, 1995. The Corporation may redeem the RP Stock,
in whole or in part, on any dividend payment date at a redemption price of
$100,000 per share, plus accumulated dividends.
Dividends on the RP Stock are cumulative and payable when declared by the
authority of the Board. At the end of each dividend period, the RP Stock is
subject to a remarketing process, during which both the dividend period and the
dividend rate may be adjusted for periods of generally seven or 49 days with a
maximum dividend rate payable dependent on the credit rating assigned to the RP
Stock. Dividend rates in effect during 1995 on the RP Stock ranged from 4.15% to
5.20% per annum.
MLPF&S acts as one of the remarketing agents for the RP Stock. As a market
maker, MLPF&S may occasionally acquire a temporary position in the RP Stock. At
December 29, 1995, the RP Stock held by MLPF&S for the purpose of resale was not
material.
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
- --------------------------------------------------------------------------------
STOCKHOLDER RIGHTS PLAN
The Corporation's Stockholder Rights Plan provides for the distribution of
preferred purchase rights ("Rights") to common stockholders which separate from
the common stock ten days following: (a) an announcement of an acquisition by a
person or group ("acquiring party") of 20% or more of the outstanding common
shares of the Corporation; or (b) the commencement of a tender or exchange offer
for 30% or more of the common shares outstanding. One-half of a Right is
attached to each outstanding share of common stock and will attach to all
subsequently issued shares. The Rights entitle the holder to purchase fractions
of a share ("Units") of Series A Junior Preferred Stock, par value $1.00 per
share, at an exercise price of $100 per Unit. The Units are nonredeemable and
have voting privileges and certain preferential dividend rights. The exercise
price and the number of Units issuable are subject to adjustment to prevent
dilution.
If, after the Rights have been distributed, either the acquiring party
holds 25% or more of the Corporation's outstanding shares or the Corporation is
a party to a business combination or other specifically defined transaction,
each Right (other than those held by the acquiring party) will entitle the
holder to receive, upon exercise, Units of preferred stock or shares of common
stock of the surviving company with a value equal to two times the exercise
price of the Right. The Rights expire December 16, 1997 and are redeemable at
the option of a majority of the independent directors of the Corporation at $.01
per Right at any time until the tenth day following an announcement of the
acquisition of 20% or more of the Corporation's common stock.
- --------------------------------------------------------------------------------
COMMON EQUITY
In 1993, the Board declared a two-for-one common stock split, effected in
the form of a 100% stock dividend. All share and per share data presented in
this Annual Report to Stockholders reflect the effect of the split. In addition,
the Corporation issued 1,637,314 shares of common stock in connection with
certain employee benefit plans in 1993.
- --------------------------------------------------------------------------------
NOTE 9. PER COMMON SHARE COMPUTATION
The Corporation computed earnings per common share using the modified
treasury stock method ("modified method") in accordance with Accounting
Principles Board Opinion No. 15. The modified method is used when the number of
shares obtainable upon exercise of outstanding options, warrants, and their
equivalents exceeds 20% of the Corporation's outstanding common stock.
Under this method, all options, warrants, and their equivalents are assumed
exercised (whether dilutive or antidilutive), with the aggregate proceeds used
to repurchase up to 20% of the Corporation's outstanding common stock, subject
to certain limitations. If the combined effect of the assumed exercise is
dilutive, all options, warrants, and their equivalents are included in the
computation.
Primary earnings per common share is computed by dividing net earnings,
after deducting preferred stock dividend requirements of $48, $13, and $5 for
1995, 1994, and 1993, respectively, by the weighted-average number of common
shares and common stock equivalents outstanding during each year. Shares of
common stock issuable under various employee stock plans are considered common
stock equivalents ("incremental shares").
The weighted-average common and incremental shares included in the primary
and fully diluted per common share computations follow:
- -------------------------------------------------------------------------------
(in thousands) 1995 1994 1993
---- ---- ----
Primary
Weighted-average
common shares 176,563 195,661 209,276
Incremental shares 19,434 15,580 17,055
------- ------- -------
Total 195,997 211,241 226,331
======= ======= =======
Fully Diluted
Weighted-average
common shares 176,563 195,661 209,276
Incremental shares 20,097 16,034 18,204
------- ------- -------
Total 196,660 211,695 227,480
======= ======= =======
<PAGE>
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
NOTE 10. COMMERCIAL PAPER AND OTHER SHORT-TERM BORROWINGS
Commercial paper and other short-term borrowings at December 29, 1995 and
December 30, 1994 are presented below:
- -------------------------------------------------------------------------------
1995 1994
------- -------
Commercial paper $16,969 $14,759
Demand and time deposits 8,182 7,578
Securities loaned 2,857 2,180
Bank loans and other 1,538 1,923
------ -------
Total $29,546 $26,440
======= =======
- -------------------------------------------------------------------------------
The Corporation's weighted-average interest rates on its short-term
financing instruments, which include repurchase agreements, commercial paper,
and other short-term borrowings, were 6.20% in 1995 and 4.74% in 1994.
The weighted-average interest rates on these instruments modified through
swap agreements were 6.18% and 4.76% in 1995 and 1994, respectively.
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
- --------------------------------------------------------------------------------
NOTE 11. LONG-TERM BORROWINGS
Long-term borrowings at December 29, 1995 and December 30, 1994 consisted of the
following (rates and maturities presented are as of December 29, 1995):
- --------------------------------------------------------------------------------
1995 1994
------- -------
U.S. dollar-denominated fixed-rate
obligations due 1996 to 2019 at
interest rates ranging from 4.75%
to 10.375% $ 4,670 $ 4,983
Foreign currency-denominated
fixed-rate obligations due 1996 to
2002 at interest rates ranging from
2.55% to 15.0% 1,157 725
U.S. dollar-denominated
variable-rate obligations(1)(2) 630 890
Foreign currency-denominated
variable-rate obligations(2) 222 110
U.S. dollar-denominated
medium-term notes(3) 7,650 6,934
Foreign currency-denominated
medium-term notes(3) 3,011 1,221
------- -------
Total $17,340 $14,863
======= =======
- -------------------------------------------------------------------------------
(1) Included in U.S. dollar-denominated variable-rate obligations are
various equity-linked indexed instruments issued by the
Corporation. Payments on these instruments may be linked to a
specific index (e.g., S&P 500) or industry basket of stocks.
(2) Variable interest rates are generally based on rates such as
LIBOR, the U.S. Treasury Bill Rate, or the Federal Funds Rate.
(3) Maturities of medium-term notes may range from nine months to 30
years from the date of issue.
Maturities of long-term borrowings at December 29, 1995 consisted of the
following:
- -------------------------------------------------------------------------------
Maturities
1996 $ 5,617
1997 1,896
1998 1,856
1999 2,320
2000 2,228
2001 and thereafter 3,423
-----
Total $17,340
=======
- --------------------------------------------------------------------------------
Substantially all of the Corporation's fixed-rate obligations are swapped
into variable interest rates. In addition, the Corporation enters into swaps or
other derivatives to modify or hedge its exposures on variable-rate and
equity-linked obligations. See "Financing and Other Non-Trading Derivatives" in
Note 4 for further detail.
Effective weighted-average interest rates for long-term borrowings, which
include the impact of hedges, at December 29, 1995 and December 30, 1994 were:
- -------------------------------------------------------------------------------
1995 1994
----- -----
Fixed-rate obligations 6.47% 4.54%
Variable-rate obligations 6.38 4.54
Medium-term notes 5.87 4.40
- --------------------------------------------------------------------------------
Certain long-term borrowing agreements contain provisions whereby the
borrowings are redeemable at the option of the holder at specified dates prior
to maturity. Management believes, however, that a significant portion of such
borrowings may remain outstanding beyond their earliest redemption date.
Subsequent to year-end 1995 and through February 20, 1996, long-term
borrowings, net of repayments and repurchases, increased approximately $1,684.
- --------------------------------------------------------------------------------
NOTE 12. INCOME TAXES
Income tax provisions (benefits) on earnings before
cumulative effect of a change in accounting principle consisted of:
- --------------------------------------------------------------------------------
1995 1994 1993
---- ---- ----
Federal
Current $ 788 $ 680 $ 878
Deferred (164) (150) (275)
State and Local
Current 81 158 376
Deferred (30) 2 (58)
Foreign
Current (39) 5 165
Deferred 61 18 (55)
----- ----- -------
Total $ 697 $ 713 $1,031
===== ===== =======
- -------------------------------------------------------------------------------
The corporate statutory tax rate was 35.0% for the three years presented. A
reconciliation of the statutory Federal income tax to the Corporation's income
tax provisions for earnings before cumulative effect of an accounting change
follows:
- -------------------------------------------------------------------------------
1995 1994 1993
---- ---- ----
Federal income tax
at statutory rate $634 $605 $ 848
State and local income
taxes, net 33 104 207
Pension plan transaction 13 14 14
Foreign operations (4) 23 2
Tax-exempt interest (14) (18) (16)
Dividends received deduction (19) (17) (8)
Other, net 54 2 (16)
------ ------ ------
Total $697 $713 $1,031
====== ====== ======
- -------------------------------------------------------------------------------
For financial reporting purposes, the Corporation had no unrecognized net
operating loss or alternative minimum tax benefit carryforwards at December 29,
1995.
Deferred income taxes are provided for the effects of temporary differences
between the tax basis of an asset or liability and its reported amount in the
consolidated financial statements. These temporary differences result in taxable
or deductible amounts in future years.
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
Details of the Corporation's deferred tax assets and liabilities follow:
- -------------------------------------------------------------------------------
1995 1994 1993
---- ---- ----
Deferred tax assets
Valuation of inventory,
investments, and receivables $ 700 $ 638 $ 659
Total deferred compensation 228 192 91
Other 364 338 247
----- ----- -----
Subtotal 1,292 1,168 997
Valuation allowance - - (3)
----- ----- -----
Total deferred tax assets net of
valuation allowance 1,292 1,168 994
----- ----- -----
Deferred tax liabilities
Lease transactions 100 113 74
Accelerated tax depreciation 70 92 114
Unrealized gains on trading
inventory 18 29 36
Other 88 73 87
------ ------ ------
Total deferred tax liabilities 276 307 311
------ ------ ------
Net deferred tax asset $1,016 $ 861 $683
====== ====== ======
- -------------------------------------------------------------------------------
Income tax benefits of $34, $5, and $75 were allocated to stockholders'
equity related to employee compensation transactions for 1995, 1994, and 1993,
respectively.
Earnings before income taxes included approximately $128, $48, and $395 of
earnings attributable to foreign entities for 1995, 1994, and 1993,
respectively. Cumulative undistributed earnings of foreign subsidiaries were
approximately $848 at December 29, 1995. No deferred Federal income taxes have
been provided for the undistributed earnings, as these earnings have been and
will continue to be reinvested in the Corporation's foreign operations. Assuming
utilization of foreign tax credits, the Corporation estimates that approximately
$133 of Federal income taxes and $37 of foreign withholding taxes would be
incurred on the repatriation of the foreign subsidiaries' earnings.
- --------------------------------------------------------------------------------
NOTE 13. REVOLVING CREDIT AGREEMENTS
The Corporation has obtained committed, unsecured revolving credit facilities
aggregating $5,565 under agreements with 76 banks. The agreements contain
covenants that require, among other things, that the Corporation maintain
specified levels of net worth, as defined in the agreements, on the date of an
advance. To date, there have never been any borrowings under current or prior
revolving credit facilities.
The credit quality, amounts, and terms of the credit facilities are
continually monitored and modified as warranted by business conditions. Under
the existing agreements, the credit facilities mature as follows: $980 in March
1996; $1,565 in May 1996; $1,260 in June 1996; and $1,760 in October 1996. At
maturity, the Corporation may convert amounts then borrowed, if any, into term
loans that would mature in two years.
- --------------------------------------------------------------------------------
NOTE 14. REGULATORY REQUIREMENTS AND DIVIDEND RESTRICTIONS
MLPF&S, a registered broker-dealer, is subject to the net capital
requirements of Rule 15c3-1 under the Securities Exchange Act of 1934 ("SEA").
Under the alternative method permitted by this rule, the minimum required net
capital, as defined, shall not be less than 2% of aggregate debit items arising
from customer transactions. At December 29, 1995, MLPF&S's regulatory net
capital of $1,248 was 9% of aggregate debit items, and its regulatory net
capital in excess of the minimum required was $975.
In addition to amounts presented in the Consolidated Balance Sheets as cash
and securities segregated for regulatory purposes or deposited with clearing
organizations, securities with a market value of $100, primarily collateralizing
resale agreements, have been segregated in a special reserve bank account for
the exclusive benefit of customers pursuant to the reserve formula requirements
of SEA Rule 15c3-3.
Merrill Lynch Government Securities Inc. ("MLGSI"), a primary dealer in
U.S. Government securities and a subsidiary of the Corporation, is subject to
the capital adequacy requirements of the Government Securities Act of 1986. This
rule requires dealers to maintain liquid capital in excess of market and credit
risk, as defined, by 20% (a 1.2-to-1 capital-to-risk standard). At December 29,
1995, MLGSI's liquid capital of $658 was 209% of its total market and credit
risk, and liquid capital in excess of the minimum required was $280.
Merrill Lynch International Limited ("MLIL"), a United Kingdom registered
broker-dealer and a subsidiary of the Corporation, is subject to the capital
requirements of the Securities and Futures Authority ("SFA") of the United
Kingdom. Financial resources, as defined, must exceed the total financial
resources requirement of the SFA. At December 29, 1995, MLIL's financial
resources were $1,655, and exceeded the minimum requirement by $386.
The Corporation's insurance subsidiaries are subject to various regulatory
restrictions that limit the amount available for distribution as dividends. As
of December 29, 1995, $537, representing 84% of the insurance subsidiaries' net
assets, was unavailable for distribution to the Corporation.
In addition, over 55 other subsidiaries are subject to regulatory
requirements promulgated by the regulatory and exchange authorities of the
countries in which they operate. These regulatory restrictions may limit the
amounts that these subsidiaries can pay in dividends or advance to the
Corporation. At December 29, 1995, restricted net assets of all subsidiaries
were $5,183. In addition, to satisfy rating agency standards, a credit
intermediary subsidiary of the Corporation must also meet certain minimum
capital requirements. At December 29, 1995, this minimum capital requirement was
$350.
There are no restrictions on the Corporation's present ability to pay
dividends on common stock, other than (a) the Corporation's obligation first to
make dividend payments on its preferred stock; and (b) the governing provisions
of the Delaware General Corporation Law.
- --------------------------------------------------------------------------------
NOTE 15. EMPLOYEE BENEFIT PLANS
The Corporation provides retirement and other postemployment benefits to its
employees worldwide through defined contribution and defined benefit pension
plans and other postretirement and postemployment benefit plans. The
Corporation reserves the right to amend or terminate these plans at any time.
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
DEFINED CONTRIBUTION PENSION PLANS
The domestic defined contribution plans consist of the Retirement Accumulation
Plan ("RAP"), the Employee Stock Ownership Plan ("ESOP"), and the 401(k) Savings
& Investment Plan ("SIP"). The RAP, ESOP, and SIP cover substantially all U.S.
employees who have met age and service requirements.
The Corporation established the RAP and the ESOP (collectively, the
"Retirement Program") for the benefit of employees over the age of 21 with one
year of service. A separate retirement account is maintained for each
participant.
In 1989, the ESOP trust purchased 24,341,470 of common shares from the
Corporation with residual funds from a terminated defined benefit pension plan
("Reversion Shares") and loan proceeds from a subsidiary of the Corporation
("Leveraged Shares").
The Corporation credits a participant's account and records pension expense
under the Retirement Program based on years of service, age, and eligible
compensation. This expense is funded by quarterly allocations of Leveraged and
Reversion Shares and, if necessary, cash, to participants' accounts based on a
specified formula. Leveraged and Reversion Shares are released in accordance
with the terms of the ESOP. If the fair market value of the shares released does
not fund the formula allocation to the participants' accounts, cash
contributions are made to the RAP. Reversion Shares are allocated to
participants' accounts over a period of not more than eight years, ending in
1997. Leveraged Shares are allocated to participants' accounts, as principal on
the loan to the ESOP is repaid. Principal and interest on the loan are payable
quarterly upon receipt of dividends on certain shares of common stock or other
cash contributions.
ESOP shares are considered allocated (specifically assigned to
participants' accounts), committed (scheduled for release at a specified future
date but not yet legally released), or unallocated (not released, committed, or
allocated). Share information at December 29, 1995 follows:
- -------------------------------------------------------------------------------
Reversion Leveraged
Shares Shares
---------- ---------
Allocated 15,498,825 2,296,150
Committed 385,682 95,350
Unallocated 4,012,519 2,052,944
Cost of unallocated shares(1) $63 $33(2)
- -------------------------------------------------------------------------------
(1) The cost of the unallocated Reversion and Leveraged Shares are recorded as
reductions of Stockholders' Equity.
(2) Represents the ESOP loan balance.
Additional information on ESOP activity follows:
- --------------------------------------------------------------------------------
1995 1994 1993
---- ---- ----
Dividends used for debt service(1) $ 9 $ 11 $ 10
Compensation costs funded
with ESOP shares 143 109 110
- --------------------------------------------------------------------------------
(1) Dividends on all Leveraged and unallocated and committed Reversion Shares
are used for debt service. Dividends on allocated Reversion Shares are
credited to participants' accounts.
Employees can participate in the SIP by contributing, on a tax-deferred
basis, up to 15% of their eligible compensation but not more than the maximum
annual amount allowed by law. The Corporation's contributions are equal to
one-half of the first 4% of each participant's eligible compensation contributed
to the SIP, up to a maximum of fifteen hundred dollars annually. No corporate
contributions are made for participants who are also Employee Stock Purchase
Plan participants.
Internationally, the Corporation sponsors various defined contribution
plans. The costs of benefits under the RAP, SIP, and international plans are
expensed during the related service period.
- --------------------------------------------------------------------------------
DEFINED BENEFIT PENSION PLANS
The Corporation has purchased a group annuity contract which guarantees the
payment of benefits vested under a U.S. defined benefit plan that was terminated
in accordance with the applicable provisions of the Employee Retirement Income
Security Act of 1974 ("ERISA"). At December 29, 1995 and December 30, 1994, a
substantial portion of the assets supporting the annuity contract were invested
in U.S. Government and agencies securities. The Corporation, under a
supplemental agreement, may be responsible for, or benefit from, actuarial
experience and investment performance of these annuity assets. The Corporation
also maintains supplemental defined benefit plans for certain U.S. employees.
Employees of certain non-U.S. subsidiaries participate in various local
plans. These pension plans provide benefits that are generally based on years
of credited service and a percentage of the employee's eligible compensation
during the final years of employment. The Corporation's funding policy has been
to contribute annually the amount necessary to satisfy local funding standards.
<PAGE>
Net periodic pension cost includes the following components:
- --------------------------------------------------------------------------------
1995 1994 1993
----- ----- -----
Defined contribution plan cost $ 169 $ 165 $ 146
----- ----- -----
Defined benefit plans(1):
Service cost for benefits
earned during the year 19 16 12
Interest cost on
projected benefit
obligation 105 92 89
Actual return on plan assets (480) 146 (281)
Deferral and amortization
of unrecognized items 373 (243) 189
----- ----- -----
Total defined benefit plan cost 17 11 9
----- ----- -----
Total pension cost $ 186 $ 176 $ 155
===== ===== =====
- --------------------------------------------------------------------------------
(1) The following actuarial assumptions were used in calculating the defined
benefit cost and benefit obligations. Weighted-average rates as of
the beginning of the year are:
- --------------------------------------------------------------------------------
1996 1995 1994
---- ---- ----
Weighted-average discount rate 6.5% 8.1% 6.7%
Rate of compensation increase
(not applicable to terminated plan) 5.5 6.0 5.9
Expected long-term rate of return
on plan assets 6.7 8.2 6.7
- -------------------------------------------------------------------------------
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
The funded status of the defined benefit plans (including the terminated plan)
follows:
<TABLE><CAPTION>
- ----------------------------------------------------------------------------------------------------------
1995 1994
---------------------------- ----------------------------
Pension plans in which: Pension plans in which:
---------------------------- ----------------------------
Assets Accumulated Asset Accumulated
Exceeded Benefits Exceeded Benefits
Accumulated Exceeded Accumulated Exceeded
Benefits Assets(1) Benefits Assets(1)
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Accumulated benefit obligation
Vested $(1,429) $(110) $(1,189) $(41)
Non-vested (3) (7) (2) (4)
------- ----- ------- -----
Total (1,432) (117) (1,191) (45)
Effect of assumed increase in compensation
levels (23) (29) (13) (18)
------- ----- ------- -----
Projected benefit obligation (1,455) (146) (1,204) (63)
Plan assets at fair value 1,735 72 1,284 15
------- ----- ------- -----
Plan assets in excess of (less than)
projected benefit obligation 280 (74) 80 (48)
Unrecognized net liability at transition 3 2 4 3
Unrecognized net (gain) loss (106) 27 74 8
Unrecognized prior service (benefit) cost (7) (1) 4 (2)
------- ----- ------- -----
Prepaid (accrued) benefit cost $ 170 $ (46) $ 162 $(39)
======= ===== ======= =====
- ------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Consists primarily of domestic supplemental plans not subject to ERISA and
non-U.S. plans where funding strategies vary due to legal requirements and
local practice.
- --------------------------------------------------------------------------------
POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
The Corporation provides health and life insurance benefits to retired employees
under a plan that covers substantially all U.S. employees who have met age and
service requirements. The health care component is contributory, with retiree
contributions adjusted periodically. The life insurance component of the plan is
noncontributory. The accounting for costs of health care benefits anticipates
future changes in cost-sharing provisions. The Corporation pays claims as
incurred. Full-time employees of the Corporation become eligible for these
benefits upon attainment of age 55 and completion of ten years of service. The
Corporation also sponsors similar plans that provide health care benefits to
eligible employees of certain international subsidiaries. As of December 29,
1995, these plans had not been funded.
Net periodic postretirement benefit expense included the following
components:
- --------------------------------------------------------------------------------
1995 1994 1993
---- ---- ----
Service cost $ 4 $ 4 $ 5
Interest cost on accumulated
postretirement benefit obligation 10 9 11
Amortization of unrecognized gain (1) - -
--- --- ---
Total $13 $13 $16
=== === ===
- --------------------------------------------------------------------------------
The amounts recognized for the Corporation's postretirement benefit plans
follow:
- -------------------------------------------------------------------------------
1995 1994
---- ----
Accumulated postretirement benefit obligation
Retirees $ (80) $ (52)
Fully eligible active plan participants (34) (35)
Other active plan participants (57) (41)
----- -----
Total (171) (128)
Unrecognized net loss (gain) 3 (32)
----- -----
Postretirement benefits accrued liability $(168) $(160)
===== =====
- --------------------------------------------------------------------------------
The following actuarial assumptions were used in calculating the postretirement
benefit cost and obligations. Weighted-average rates as of the beginning of the
year are:
- --------------------------------------------------------------------------------
1996 1995 1994
---- ---- ----
Weighted-average discount rate 6.5% 8.2% 6.8%
Health care cost trend rates(1)
Initial 9.0 11.0 12.0
2011 and thereafter 5.5 6.0 4.5
- --------------------------------------------------------------------------------
(1) Assumed to decrease gradually until 2011 and remain constant thereafter.
The assumed health care cost trend rate has a significant effect on the
amounts reported above. Increasing the assumed trend rate by one percentage
point per year would increase the accumulated postretirement benefit obligation
as of December 29, 1995 and December 30, 1994 by $29 and $17, respectively, and
increase the aggregate of service and interest costs for 1995 and 1994 by $3 and
$2, respectively.
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
- --------------------------------------------------------------------------------
POSTEMPLOYMENT BENEFITS
The Corporation provides certain postemployment benefits for employees on
extended leave due to injury or illness and for terminated employees.
Employees that are disabled due to non-work-related illness or injury are
entitled to salary continuation, medical coverage, and life insurance. The
Corporation also provides severance benefits to terminated employees. In
addition, the Corporation is mandated by state and Federal regulations to
provide certain other postemployment benefits. The Corporation funds these
benefits through a combination of self-insured and insured plans.
The Corporation recognized $76, $76, and $79 in 1995, 1994, and 1993,
respectively (excluding the 1993 cumulative effect adjustment), of
postemployment benefits expense, which included severance costs for terminated
employees of $54, $66, and $60 in 1995, 1994, and 1993, respectively. Although
all full-time employees are eligible for severance benefits, no additional
amounts were accrued as of December 29, 1995 since future severance costs are
not estimable.
- --------------------------------------------------------------------------------
NOTE 16. EMPLOYEE INCENTIVE PLANS
The Corporation sponsors several employee compensation plans that provide
eligible employees with stock or deferred cash compensation or with options to
purchase shares.
- --------------------------------------------------------------------------------
LONG-TERM INCENTIVE COMPENSATION PLAN ("LTICP")
AND EQUITY CAPITAL ACCUMULATION PLAN ("ECAP")
LTICP and ECAP provide for grants of equity and equity-related instruments to
certain key employees. LTICP provides for the issuance of Restricted Shares,
Restricted Units, and Nonqualified Stock Options (discussions follow), as well
as Incentive Stock Options, Performance Shares, Performance Units, Stock
Appreciation Rights, and other securities of the Corporation. ECAP provides
for the issuance of Restricted Shares and Nonqualified Stock Options
(discussions follow), as well as Performance Shares. As of December 29, 1995,
no instruments other than Restricted Shares, Restricted Units, and Nonqualified
Stock Options had been granted.
- -------------------------------------------------------------------------------
RESTRICTED SHARES AND UNITS
Restricted Shares are shares of the Corporation's common stock which carry
voting and dividend rights. A Restricted Unit is deemed equivalent in fair
market value to one share of the Corporation's common stock, is payable in cash,
and receives cash payments equivalent to dividends thereon. Under both plans,
such shares and units are restricted from sale, transfer, or assignment until
the end of the restricted period and are subject to forfeiture during the
vesting period for LTICP grants or the restricted period for ECAP grants.
The activity with respect to Restricted Shares and Units under these plans
for the years ended December 29, 1995 and December 30, 1994 follows:
- -------------------------------------------------------------------------------
LTICP ECAP
------------------------ ----------
Restricted Restricted Restricted
Shares Units Shares
---------- ---------- ----------
Authorized for issuance 80,000,000 80,000,000 26,200,000
========== ========== ==========
Available for issuance
at December 29, 1995(1) 18,266,797 67,179,006 2,821,181
========== ========== =========
Outstanding,
beginning of 1994 1,732,154 1,898,268 2,091,790
Granted - 1994 1,355,638 1,495,948 6,360
Paid, forfeited, or released
from contingencies (136,991) (180,822) (157,654)
--------- --------- ---------
Outstanding, end of 1994 2,950,801 3,213,394 1,940,496
Granted - 1995 2,158,209 2,084,721 541,960
Paid, forfeited, or released
from contingencies (1,837,250) (1,974,341) (1,876,465)
---------- ---------- ----------
Outstanding, end of 1995(2) 3,271,760 3,323,774 605,991
========== ========== =========
- --------------------------------------------------------------------------------
(1) Net of shares reserved for issuance upon the exercise of stock options.
(2) Subsequent to year-end through February 1, 1996, 1,332,563 and
1,398,852 LTICP Restricted Shares and Units, respectively, and
1,438,859 ECAP Restricted Shares were granted to eligible employees.
- --------------------------------------------------------------------------------
NONQUALIFIED STOCK OPTIONS
Nonqualified Stock Options granted under LTICP in 1989 through 1995
generally become exercisable over four years in equal installments commencing
one year after the date of grant. Options granted in 1996 and thereafter
(including those related to 1995 performance) generally will become exercisable
over five years. The exercise price of these options is equal to 100% of the
Fair Market Value (as defined in LTICP) of a share of common stock on the date
of grant. Nonqualified Stock Options expire ten years after their grant date.
At December 29, 1995, approximately 17,059,375 options were exercisable at
prices ranging from $10.6875 to $62.0625. During 1995, the fair market value of
shares acquired by the exercise of Nonqualified Stock Options ranged from
$35.125 to $64.00.
The activity for Nonqualified Stock Options under LTICP for 1995 and 1994
follows:
- -------------------------------------------------------------------------------
Shares Subject to Option
------------------------
1995 1994
---------- ----------
Balance, beginning of year 28,407,933 27,004,771
Granted 6,456,462 4,527,100
Exercised (3,959,949) (2,649,411)
Forfeited or surrendered (831,129) (474,527)
---------- ----------
Balance, end of year(1) 30,073,317 28,407,933
========== ==========
- --------------------------------------------------------------------------------
(1) In January 1996, eligible participants were granted Nonqualified Stock
Options for 6,816,190 shares.
- --------------------------------------------------------------------------------
FINANCIAL CONSULTANT CAPITAL ACCUMULATION AWARD PLAN ("FCCAAP")
Under FCCAAP, eligible employees in the Corporation's private client group are
granted awards generally based upon their prior year's performance. Payment
for an award
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
is contingent upon continued employment for a period of time and is subject to
forfeiture during that period. The award is payable ten years from the date of
grant in a fixed number of shares of the Corporation's common stock unless the
fair market value of such shares is less than a specified minimum value plus
interest, in which case the minimum value is paid in cash.
A total of 20,222,830 shares of the Corporation's common stock are
authorized for issuance under FCCAAP. Only shares of common stock held as
treasury stock may be issued under FCCAAP. At December 29, 1995, shares subject
to awards made to eligible employees totaled 16,175,603 with 3,388,298 shares
available for issuance.
- --------------------------------------------------------------------------------
EMPLOYEE STOCK PURCHASE PLAN ("ESPP")
ESPP allows eligible employees to invest from 1% to 10% of their eligible
compensation to purchase the Corporation's common stock at a price equal to
85% of its fair market value. These purchases are made on four quarterly
investment dates through payroll deductions. Up to 25,000,000 shares of the
Corporation's common stock have been authorized for issuance under ESPP. The
activity in ESPP for the two most recent fiscal years follows:
- -------------------------------------------------------------------------------
ESPP Shares
-----------------------
1995 1994
--------- ---------
Available, beginning of year 5,857,449 6,930,356
Purchased through plan (861,186) (1,072,907)
--------- ---------
Available, end of year 4,996,263 5,857,449
========= =========
- -------------------------------------------------------------------------------
INCENTIVE EQUITY PURCHASE PLAN ("IEPP")
IEPP allowed selected employees to purchase shares of the Corporation's common
stock ("Book Value Shares") at a price equal to book value per share as of a
valuation date preceding the purchase date. Once held for six months, Book Value
Shares, which otherwise may not be resold, may be sold back to the Corporation
at book value (adjusted for certain non-recurring events) as of a valuation date
preceding the sale, or exchanged at any time for a specified number of freely
transferable common shares. Book Value Shares outstanding under IEPP were
1,221,500 at December 29, 1995 and 1,372,700 at December 30, 1994. In 1995, IEPP
was amended to reduce the authorized shares to zero and prohibit the reuse of
any surrendered shares. No further offerings will be made under this plan.
- --------------------------------------------------------------------------------
FINANCIAL CONSULTANTS INVESTMENT CERTIFICATE PROGRAM ("FCICP")
Under FCICP, eligible employees in the Corporation's private client group are
issued investment certificates based on their performance. The certificates
mature ten years from the date issued and are payable in cash if certain
performance criteria are achieved and the employee is continuously employed
for the ten-year period, with certain exceptions. The certificates bear
interest commencing with the date the performance requirements are achieved.
As of December 29, 1995 and December 30, 1994, the Corporation had $188 and
$147 accrued under this plan, respectively.
- --------------------------------------------------------------------------------
OTHER DEFERRED COMPENSATION PLANS
The Corporation sponsors other deferred compensation plans in which eligible
employees may participate. Generally, contributions to the plans are made on a
tax-deferred basis to participants. Participants may contribute portions of
certain variable compensation, or the Corporation may contribute cash awards.
Contributions are generally invested at the direction of the participant, often
from a selection of mutual funds sponsored by the Corporation. The plans'
investments and the amounts accrued by the Corporation under the plans are
included in Other Investments and Other Liabilities, respectively, and totaled
$135 and $147, respectively, at December 29, 1995.
- --------------------------------------------------------------------------------
NOTE 17. COMMITMENTS AND CONTINGENCIES
LITIGATION
There are numerous civil actions, arbitration proceedings, and claims
pending against the Corporation as of December 29, 1995, some of which involve
claims for substantial amounts.
In addition, on January 12, 1995, an action was commenced in the United
States Bankruptcy Court for the Central District of California (the "Bankruptcy
Court") by Orange County, California (the "County") and the Orange County
Investment Pools (the "Pools"), both of which filed bankruptcy petitions in the
Bankruptcy Court on December 6, 1994 against the Corporation and certain of its
subsidiaries in connection with the corporation's business activities with the
Orange County Treasurer-Tax Collector. The Pools' bankruptcy petition
subsequently was dismissed.
The County and its current Treasurer-Tax Collector seek relief totaling in
excess of $2 billion in connection with various securities transactions between
the Orange County Treasurer-Tax Collector and the Corporation and its
subsidiaries. The complaint alleges, among other things, that these transactions
violated California law and should be adjudged null and void; that the
Corporation and its subsidiaries violated various provisions of the Bankruptcy
Code and Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5
promulgated thereunder; and that the Corporation and its subsidiaries breached a
fiduciary duty owed to the County and conspired to make unauthorized use of
public funds.
In addition, other actions have been brought against the Corporation and/or
certain of its officers, directors, and employees and certain of its
subsidiaries in the United States District Court for the Central District of
California, the United States District Court for the Southern District of New
York, and in the state courts in California, Illinois, and New York. These
include class actions and stockholder derivative actions brought by persons
alleging harm to themselves or to the Corporation arising out of the
Corporation's dealings with the Orange County Treasurer-Tax Collector, or from
the purchase of debt instruments issued by the County that were underwritten by
the Corporation's subsidiary, MLPF&S.
Although the ultimate outcome of these actions cannot be ascertained at
this time and the results of legal proceedings cannot be predicted with
certainty, it is the opinion of
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
management that the resolution of these matters will not have a
material adverse effect on the consolidated financial statements of the
Corporation contained herein.
- --------------------------------------------------------------------------------
LEASES
The Corporation has entered into various noncancelable long-term lease
agreements for premises and equipment that expire through 2024, including the
WFC. The Corporation has also entered into various noncancelable short-term
lease agreements which are primarily monthly commitments of less than one year
under equipment leases.
Future minimum rental commitments under noncancelable leases with initial
or remaining terms exceeding one year are presented below:
- --------------------------------------------------------------------------------
WFC Other Total
------ ------- ------
Minimum Rental Commitments
1996 $ 125 $ 194 $ 319
1997 126 186 312
1998 130 168 298
1999 142 152 294
2000 146 139 285
Thereafter 2,157 728 2,885
------ ------ ------
Total $2,826 $1,567 $4,393
====== ====== ======
- -------------------------------------------------------------------------------
Total minimum rental commitments have not been reduced by $1,246 of minimum
sublease rentals to be received in the future under noncancelable subleases.
Certain leases contain renewal or purchase options, or escalation clauses
providing for increased rental payments based upon maintenance, utility, and tax
increases.
Rent expense, net of sublease revenue, for each of the last three years is
presented below:
- --------------------------------------------------------------------------------
1995 1994 1993
---- ---- ----
Rent expense $399 $395 $412
Sublease revenue (87) (79) (60)
---- ---- -----
Net rent expense $312 $316 $352
==== ==== =====
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
OTHER COMMITMENTS
In the normal course of business, the Corporation enters into when-issued
transactions and underwriting commitments. Settlement of these transactions as
of December 29, 1995, would not have a material effect on the consolidated
financial condition of the Corporation.
The Corporation obtains letters of credit from issuing banks to satisfy
various counterparty collateral requirements in lieu of the Corporation
depositing collateral of securities or cash. Letters of credit aggregated $2,352
and $1,161 at December 29, 1995 and December 30, 1994, respectively.
The Corporation has service agreements with providers of communications and
data processing services. Under the terms of these agreements, the Corporation
receives various communications and market data services. As of December 29,
1995 and December 30, 1994, minimum fee commitments under these contracts
aggregated $30 and $55, respectively.
- --------------------------------------------------------------------------------
NOTE 18. INDUSTRY AND GLOBAL OPERATIONS
The Corporation operates principally in the financial services industry and
services individual and institutional clients. These services, due to certain
legal requirements, are conducted through various subsidiaries including those
operating as brokers and dealers, insurance companies, and banks.
The Corporation operates in both international and domestic markets. The
Corporation's international business activities are conducted through offices in
three regions: Europe, Africa, and the Middle East; Asia, including Japan and
Australia; and the Americas, excluding the U.S.
European, African, and Middle Eastern operations offer international
investment and private banking services, research, and dealer services in equity
and fixed-income securities, swaps, futures, commodity contracts, and options.
The Corporation's Asian operations conduct business throughout various countries
including Australia, China, Hong Kong, Japan, and Singapore. The Corporation has
exchange memberships in the region's major financial centers. Traditional retail
and institutional services are provided in virtually all locations. In Canada,
the Corporation is a broker for securities and commodities and a market maker
for bonds and money market instruments. The Corporation also provides investment
banking and research for Canadian customers. In Latin America, the Corporation
provides international banking, brokerage, and trust services and has been
instrumental in the privatization of many Latin American companies.
The principal methodology used in preparing the international data that
follows includes: (i) commission revenues are recorded based on the location of
the sales force; (ii) trading revenues are principally recorded based on the
location of the trader; (iii) investment banking revenues are recorded based on
the location of the client; and (iv) asset management and portfolio service fees
are recorded based on the location of the fund manager. Earnings before income
taxes include the allocation of certain shared expenses among regions. In
addition, intercompany transfers are based primarily on service agreements.
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
(Dollars in Millions, Except Per Share Amounts)
The information presented below, in management's judgment, provides a
reasonable representation of each region's contribution to the consolidated
amounts.
<TABLE><CAPTION>
- -----------------------------------------------------------------------------------------------------------------------
1995 1994 1993 1995 1994 1993
--------------------------------------- ----------------------------------------
Total Revenues Net Revenues
--------------------------------------- ----------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Europe, Africa, and Middle East $ 3,981 $ 3,464 $ 3,111 $ 1,319 $ 1,134 $ 1,358
Asia 1,232 963 879 701 554 683
Americas 704 617 526 347 333 377
--------- --------- -------- --------- --------- ---------
Subtotal 5,917 5,044 4,516 2,367 2,021 2,418
United States 16,107 13,754 13,475 8,092 7,703 9,309
Eliminations (511) (564) (1,403) (194) (99) (1,169)
--------- --------- --------- --------- --------- ---------
Total $ 21,513 $ 18,234 $ 16,588 $ 10,265 $ 9,625 $ 10,558
========= ========= ========= ========= ========= =========
<CAPTION>
Earnings Before Income Taxes Total Assets
----------------------------------- ------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Europe, Africa, and Middle East $ 155 $ 176 $ 481 $ 56,948 $ 44,297 $ 37,107
Asia 81 75 191 16,914 11,389 8,546
Americas 127 137 139 4,997 4,216 5,658
--------- --------- --------- --------- --------- ---------
Subtotal 363 388 811 78,859 59,902 51,311
United States 1,448 1,342 1,614 105,702 108,147 106,132
Eliminations - - - (7,704) (4,300) (4,533)
--------- --------- --------- --------- --------- ---------
Total $ 1,811 $ 1,730 $ 2,425 $ 176,857 $ 163,749 $ 152,910
========= ========= ========= ========= ========= =========
- ------------------------------------------------------------------------------------------------------------------------
</TABLE>
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of Merrill Lynch & Co., Inc.:
We have audited the accompanying consolidated balance sheets of Merrill Lynch &
Co., Inc. and subsidiaries as of December 29, 1995 and December 30, 1994 and the
related statements of consolidated earnings, changes in consolidated
stockholders' equity and consolidated cash flows for each of the three years in
the period ended December 29, 1995. These financial statements are the
responsibility of the Corporation's management. Our responsibility is to express
an opinion on these 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, such consolidated financial statements present fairly, in
all material respects, the financial position of the Corporation and its
subsidiaries at December 29, 1995 and December 30, 1994, and the results of
their operations and their cash flows for each of the three years in the period
ended December 29, 1995 in conformity with generally accepted accounting
principles.
As discussed in Note 2 to the consolidated financial statements, in 1993
the Corporation and its subsidiaries changed their method of accounting for
postemployment benefits and their method of accounting for certain investments
in debt and equity securities to conform with Statements of Financial Accounting
Standards No. 112 and No. 115, respectively.
/s/ Deloitte & Touche LLP
New York, New York
February 26, 1996
<PAGE>
FIVE-YEAR FINANCIAL SUMMARY
<TABLE><CAPTION>
- -------------------------------------------------------------------------------------------------------------------------
Year Ended Last Friday in December
--------------------------------------------------------------------------------------------
(Dollars in Millions) 1991 1992 1993 1994 1995
- -------------------------------------------------------------------------------------------------------------------------
Revenues (52 Weeks) (52 Weeks) (53 Weeks) (52 Weeks) (52 Weeks)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Commissions
Listed securities $ 1,065 8.6% $ 1,147 8.6% $ 1,404 8.5% $ 1,361 7.5% $ 1,558 7.2%
Mutual funds 519 4.2 668 5.0 846 5.1 879 4.8 906 4.2
Commodities 147 1.2 142 1.1 179 1.1 217 1.2 172 0.8
Money market instruments 176 1.4 191 1.4 165 1.0 109 0.6 92 0.4
Other 259 2.1 274 2.0 300 1.8 305 1.7 398 1.9
------- ---- ------- ---- ------- ---- ------ ---- ------- ----
Total 2,166 17.5 2,422 18.1 2,894 17.5 2,871 15.8 3,126 14.5
Interest and Dividends 5,761 46.7 5,807 43.3 7,099 42.8 9,578 52.5 12,221 56.8
Principal Transactions
Equities and equity
derivatives 534 4.3 614 4.6 872 5.2 625 3.4 912 4.2
Interest rate and currency
swaps 240 2.0 390 2.9 604 3.6 750 4.1 732 3.4
Taxable fixed-income 825 6.6 742 5.5 972 5.9 471 2.6 516 2.4
Municipals 240 2.0 262 1.9 315 1.9 380 2.1 273 1.3
Foreign exchange and
commodities 67 0.5 158 1.2 158 1.0 109 0.6 86 0.4
------- ---- ------- ---- ------- ---- ------ ---- ------- ----
Total 1,906 15.4 2,166 16.1 2,921 17.6 2,335 12.8 2,519 11.7
Investment Banking
Underwriting 1,020 8.2 1,309 9.8 1,647 9.9 989 5.4 964 4.5
Strategic services 156 1.3 175 1.3 184 1.1 251 1.4 344 1.6
------- ---- ------- ---- ------- ---- ------ ---- ------- ----
Total 1,176 9.5 1,484 11.1 1,831 11.0 1,240 6.8 1,308 6.1
Asset Management and
Portfolio Service Fees 1,004 8.1 1,253 9.3 1,558 9.4 1,739 9.5 1,890 8.8
Other 340 2.8 281 2.1 285 1.7 471 2.6 449 2.1
------- ---- ------- ---- ------- ---- ------ ---- ------- ----
Total Revenues 12,353 100.0 13,413 100.0 16,588 100.0 18,234 100.0 21,513 100.0
Interest Expense 5,107 41.3 4,836 36.0 6,030 36.4 8,609 47.2 11,248 52.3
------- ---- ------- ---- ------- ---- ------ ---- ------- ----
Net Revenues 7,246 58.7 8,577 64.0 10,558 63.6 9,625 52.8 10,265 47.7
------- ---- ------- ---- ------- ---- ------ ---- ------- ----
Non-Interest
Expenses
Compensation and benefits 3,868 53.4 4,365 50.9 5,255 49.8 4,952 51.5 5,270 51.3
Communications and
equipment rental 357 4.9 366 4.3 386 3.6 432 4.5 487 4.8
Occupancy 473 6.5 478 5.6 573 5.4 436 4.5 449 4.4
Depreciation and
amortization 276 3.8 281 3.3 308 2.9 325 3.4 367 3.6
Professional fees 235 3.3 257 3.0 290 2.7 367 3.8 425 4.1
Advertising and market
development 250 3.5 301 3.5 377 3.6 375 3.9 398 3.9
Brokerage, clearing, and
exchange fees 240 3.3 277 3.2 281 2.7 338 3.5 361 3.5
Other 530 7.3 631 7.3 663 6.3 670 6.9 697 6.8
------- ---- ------- ---- ------- ---- ------ ---- ------- ----
Total Non-Interest Expenses 6,229 86.0 6,956 81.1 8,133 77.0 7,895 82.0 8,454 82.4
------- ---- ------- ---- ------- ---- ------ ---- ------- ----
Earnings Before Income
Taxes and Cumulative
Effect of Changes in
Accounting Principles 1,017 14.0 1,621 18.9 2,425 23.0 1,730 18.0 1,811 17.6
Income Tax Expense 321 4.4 669 7.8 1,031 9.8 713 7.4 697 6.8
------- ---- ------- ---- ------- ---- ------ ---- ------- ----
Earnings Before Cumulative
Effect of Changes in
Accounting Principles 696 9.6 952 11.1 1,394 13.2 1,017 10.6 1,114 10.8
Cumulative Effect of
Changes in Accounting
Principles, Net of
Income Taxes - - (58) (.7) (35) (.3) - - - -
------- ---- ------- ---- ------- ---- ------ ---- ------- ----
Net Earnings $ 696 9.6% $ 894 10.4% $ 1,359 12.9% $ 1,017 10.6% $ 1,114 10.8%
======= ==== ======= ==== ======= ==== ====== ==== ======= ====
- -------------------------------------------------------------------------------------------------------------------------
</TABLE>
*Revenues and Interest Expense are presented as a percentage of Total Revenues.
Non-Interest Expenses, Cumulative Effect of Changes in Accounting Principles,
and Earnings are presented as a percentage of Net Revenues.
<PAGE>
STATISTICAL DATA
<TABLE><CAPTION>
Selected statistical data for the last five fiscal years are presented for
informational purposes below.
- -----------------------------------------------------------------------------------------------------------------------------------
Year Ended Last Friday in December
-----------------------------------------------------------------------------------------------
1991 1992 1993 1994 1995
- -----------------------------------------------------------------------------------------------------------------------------------
(52 Weeks) (52 Weeks) (53 Weeks) (52 Weeks) (52 Weeks)
<S> <C> <C> <C> <C> <C>
Private Client Assets (in billions):
Assets in Worldwide Private Client
Accounts $440 $487 $557 $568 $703
Assets in U.S. Private Client
Accounts $422 $463 $527 $537 $665
Assets under Professional Management:
Money Markets $ 67 $ 67 $ 66 $ 67 $ 82
Equities 12 16 30 37 47
Fixed Income 27 35 42 36 41
Private Portfolio 11 13 17 20 22
Insurance 7 8 6 4 4
---- ---- ---- ---- ----
Subtotal 124 139 161 164 196
ML Consults 5 12 17 14 17
Mutual Fund Advisor and Asset Power - - 1 3 6
---- ---- ---- ---- ----
Total $129 $151 $179 $181 $219
==== ==== ==== ==== ====
- -----------------------------------------------------------------------------------------------------------------------------------
Underwriting (dollars in billions) (a):
Global Debt and Equity:
Volume $109.9 $149.9 $191.9 $137.2 $147.7
Market Share 12.7% 13.0% 12.8% 12.6% 13.8%
U.S. Debt and Equity:
Volume $ 99.6 $139.6 $172.5 $116.1 $127.3
Market Share 17.0% 16.4% 16.4% 16.5% 17.9%
- -----------------------------------------------------------------------------------------------------------------------------------
Full-Time Employees:
U.S. 34,700 36,100 37,500 38,750 39,250
International 3,600 4,000 4,400 5,050 6,750
------ ------ ------ ------ ------
Total 38,300 40,100 41,900 43,800 46,000
====== ====== ====== ====== ======
Financial Consultants and Account
Executives Worldwide 12,100 12,700 13,100 13,400 13,800
Productivity Measures (dollars in
thousands):
Support Personnel to Producer
Ratio (b) 1.47 1.44 1.43 1.46 1.43
Net Revenues per Employee $189 $214 $252 $220 $223
Pretax Earnings per Employee $ 27 $ 40 $ 58 $ 39 $ 39
Compensation and Benefits Expense to
Net Revenues 53.4% 50.9% 49.8% 51.5% 51.3%
Compensation and Benefits Expense to
Total Non-Interest Expenses 62.1% 62.7% 64.6% 62.7% 62.3%
- -----------------------------------------------------------------------------------------------------------------------------------
Expense Coverage (in millions):
Fee-based Revenues (c) $1,697 $2,024 $2,429 $2,869 $3,101
Fixed and Semi-fixed Expenses $3,338 $3,656 $4,103 $4,306 $4,707
Fee-based Revenues to
Fixed and Semi-fixed Expenses 50.8% 55.4% 59.2% 66.6% 65.9%
- -----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
(a) Full credit to book manager. All market share data are derived from
Securities Data Co.
(b) Support personnel includes sales assistants.
(c) Fee-based revenues include principally asset management and portfolio
service fees and net margin interest.
<PAGE>
QUARTERLY INFORMATION
Presented below are the unaudited quarterly results of operations of the
Corporation by quarter for 1995 and 1994. The quarterly information is prepared
in conformity with generally accepted accounting principles and reflects all
adjustments, consisting only of normal recurring accruals, that are, in the
opinion of management, necessary for a fair presentation of the results of
operations for the periods presented. The nature of the Corporation's business
is such that the results of any interim period are not necessarily indicative of
results for a full year.
<TABLE><CAPTION>
- -----------------------------------------------------------------------------------------------------------------------------------
For the Quarter Ended
------------------------------------------------------------------------------------------------------
(Dollars in Millions, Dec. 29, Sept. 29, June 30, Mar. 31, Dec. 30, Sept. 30, July 1, April 1,
Except Per Share Amounts) 1995 1995 1995 1995 1994 1994 1994 1994
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Total Revenues $5,293 $5,431 $5,585 $5,204 $4,484 $4,530 $4,481 $4,739
Interest Expense 2,680 2,749 3,036 2,783 2,391 2,228 2,083 1,907
------ ------ ------ ------ ------ ------ ------ ------
Net Revenues 2,613 2,682 2,549 2,421 2,093 2,302 2,398 2,832
Non-Interest Expenses 2,131 2,197 2,085 2,041 1,838 1,912 1,965 2,180
------ ------ ------ ------ ------ ------ ------ ------
Earnings Before Income Taxes 482 485 464 380 255 390 433 652
Income Tax Expense 179 185 181 152 93 159 181 280
------ ------ ------ ------ ------ ------ ------ ------
Net Earnings $ 303 $ 300 $ 283 $ 228 $ 162 $ 231 $ 252 $ 372
====== ====== ====== ====== ====== ====== ====== ======
- -----------------------------------------------------------------------------------------------------------------------------------
Earnings Per Common Share:
Primary $ 1.49 $ 1.47 $ 1.40 $ 1.08 $ .76 $1.10 $ 1.18 $ 1.68
====== ====== ====== ====== ====== ====== ====== ======
Fully Diluted $ 1.49 $ 1.46 $ 1.39 $ 1.08 $ .75 $1.10 $ 1.18 $ 1.68
====== ====== ====== ====== ====== ====== ====== ======
- -----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
DIVIDENDS PER COMMON SHARE
(Declared and paid)
- ------------------------------------------------------------------------
1st Qtr. 2nd Qtr. 3rd Qtr. 4th Qtr.
- ------------------------------------------------------------------------
1995 $.23 $.26 $.26 $.26
- ------------------------------------------------------------------------
1994 $.20 $.23 $.23 $.23
- ------------------------------------------------------------------------
There are no restrictions on the Corporation's present ability to pay dividends
on common stock, other than (a) the Corporation's obligation first to make
dividend payments on its preferred stock and (b) the governing provisions of the
Delaware General Corporation Law. Certain subsidiaries' ability to declare
dividends may also be limited (see Note 14 to the Consolidated Financial
Statements).
STOCKHOLDER INFORMATION
Consolidated Transaction Reporting System prices for the specified calendar
quarters are noted below.
<TABLE><CAPTION>
- ------------------------------------------------------------------------------------------------
1st Qtr. 2nd Qtr. 3rd Qtr. 4th Qtr.
High Low High Low High Low High Low
- ------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
1995 $45 $34 5/8 $53 1/4 $42 5/8 $63 3/4 $51 7/8 $64 3/4 $50 1/8
- ------------------------------------------------------------------------------------------------
1994 $45 5/8 $36 1/2 $40 1/2 $34 1/4 $40 7/8 $34 1/4 $41 1/8 $32 1/4
- ------------------------------------------------------------------------------------------------
</TABLE>
The approximate number of record holders of common stock as of February 2, 1996
was 12,800.
Exhibit 99(ii)
INDEPENDENT AUDITORS' REPORT
We have audited, in accordance with generally accepted auditing standards, the
consolidated financial statements of Merrill Lynch & Co., Inc. and subsidiaries
(the "Company") as of December 29, 1995 and December 30, 1994 and for each of
the three years in the period ended December 29, 1995 and have issued our report
thereon dated February 26, 1996. Such financial statements and our report,
included herein as part of Exhibit 99(i) to the Company's Current Report on
Form 8-K dated March 12, 1996, are included in the Company's 1995 Annual
Report to Stockholders.
We have also previously audited, in accordance with generally accepted auditing
standards, the consolidated balance sheets of Merrill Lynch & Co., Inc. and
subsidiaries as of December 31, 1993, December 25, 1992 and December 27, 1991
and the related statements of consolidated earnings, changes in consolidated
stockholders' equity and consolidated cash flows for each of the two years in
the period ended December 25, 1992 (none of which are presented or incorporated
by reference herein); and we expressed unqualified opinions on those financial
statements. In our opinion, the information set forth in the Selected Financial
Data under the captions Operating Results, Financial Position and Common Share
Data, included herein as part of Exhibit 99(i), is fairly stated in all
material respects in relation to the consolidated financial statements from
which it has been derived.
/s/ Deloitte & Touche LLP
New York, New York
February 26, 1996
