<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934.
For the quarterly period ended March 31, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ______________ to __________ .
COMMISSION FILE NUMBER 1-7367
PAINE WEBBER GROUP INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
<TABLE>
<S> <C>
DELAWARE 13-2760086
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification Number)
1285 AVENUE OF THE AMERICAS
NEW YORK, NEW YORK 10019
(Address of principal executive offices) (Zip Code)
</TABLE>
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (212) 713-2000
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES [X] NO [_]
On May 5, 2000 the Registrant had outstanding 145,625,835 shares of common stock
of $1 par value, which is the Registrant's only class of common stock.
<PAGE> 2
PAINE WEBBER GROUP INC.
FORM 10-Q
MARCH 31, 2000
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PART I. FINANCIAL INFORMATION Page
<S> <C> <C>
Item 1. Financial Statements.
Condensed Consolidated Statements of Income
(unaudited) for the Three Months Ended
March 31, 2000 and 1999. 2
Condensed Consolidated Statements of Financial
Condition (unaudited) at March 31, 2000
and December 31, 1999. 3
Condensed Consolidated Statements of Cash Flows
(unaudited) for the Three Months Ended
March 31, 2000 and 1999. 4
Notes to Condensed Consolidated Financial Statements
(unaudited). 5-13
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of
Operations. 14-19
PART II. OTHER INFORMATION
Item 1. Legal Proceedings. 20
Item 6. Exhibits and Reports on Form 8-K. 20-21
Signature. 22
</TABLE>
<PAGE> 3
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PAINE WEBBER GROUP INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
(In thousands of dollars except
share and per share amounts)
<TABLE>
<CAPTION>
Three Months Ended
March 31,
------------------------------------
2000 1999
------------ ------------
<S> <C> <C>
REVENUES
Commissions $ 676,172 $ 478,873
Principal transactions 309,289 314,208
Asset management 278,288 206,051
Investment banking 122,180 125,953
Interest 981,547 757,160
Other 37,645 41,065
------------ ------------
Total revenues 2,405,121 1,923,310
Interest expense 808,016 608,419
------------ ------------
Net revenues 1,597,105 1,314,891
------------ ------------
NON-INTEREST EXPENSES
Compensation and benefits 949,786 768,714
Office and equipment 96,592 81,452
Communications 44,123 42,203
Business development 38,901 23,867
Brokerage, clearing & exchange fees 27,303 24,390
Professional services 49,426 30,452
Other 100,755 78,794
------------ ------------
Total non-interest expenses 1,306,886 1,049,872
------------ ------------
INCOME BEFORE TAXES AND MINORITY INTEREST 290,219 265,019
Provision for income taxes 105,809 96,359
------------ ------------
INCOME BEFORE MINORITY INTEREST 184,410 168,660
Minority interest 8,061 8,061
------------ ------------
NET INCOME $ 176,349 $ 160,599
============ ============
Net income applicable to common shares $ 176,349 $ 154,650
============ ============
Earnings per common share:
Basic $ 1.22 $ 1.06
Diluted $ 1.16 $ 1.01
Weighted-average common shares:
Basic 145,019,159 145,598,619
Diluted 152,336,445 153,728,711
Dividends declared per common share $ 0.12 $ 0.11
</TABLE>
See notes to condensed consolidated financial statements.
2
<PAGE> 4
PAINE WEBBER GROUP INC.
CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (UNAUDITED)
(In thousands of dollars except share and per share amounts)
<TABLE>
<CAPTION>
March 31, December 31,
2000 1999
------------ ------------
<S> <C> <C>
ASSETS
Cash and cash equivalents $ 286,899 $ 176,401
Cash and securities segregated and on deposit for
federal and other regulations 849,756 823,059
Financial instruments owned 22,467,838 21,144,830
Securities received as collateral 809,168 1,079,976
Securities purchased under agreements to resell 15,873,737 15,923,948
Securities borrowed 10,129,834 10,526,638
Receivables, net of allowance for doubtful accounts of
$27,413 and $30,039 at March 31, 2000 and
December 31, 1999, respectively 11,363,652 10,287,937
Office equipment and leasehold improvements, net of accumulated
depreciation and amortization of $561,375 and $527,718 at
March 31, 2000 and December 31, 1999, respectively 628,310 579,819
Other assets 1,105,729 1,069,768
------------ ------------
$ 63,514,923 $ 61,612,376
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Short-term borrowings $ 1,855,495 $ 1,884,250
Financial instruments sold, not yet purchased 5,732,661 7,099,208
Securities sold under agreements to repurchase 27,762,648 25,740,196
Securities loaned 7,605,308 5,661,200
Obligation to return securities received as collateral 809,168 1,079,976
Payables 8,239,030 8,448,217
Other liabilities and accrued expenses 2,961,542 3,164,496
Long-term borrowings 5,114,910 5,223,826
------------ ------------
60,080,762 58,301,369
------------ ------------
Commitments and contingencies
Company-Obligated Mandatorily Redeemable Preferred Securities of Subsidiary
Trusts holding solely Company Guaranteed Related Subordinated Debt 393,750 393,750
Stockholders' Equity:
Common stock, $1 par value, 400,000,000 shares authorized, issued
194,530,404 shares and 193,145,152 shares at
March 31, 2000 and December 31, 1999, respectively 194,530 193,145
Additional paid-in capital 1,722,842 1,672,085
Retained earnings 2,329,992 2,171,080
Treasury stock, at cost; 49,393,807 shares and 47,557,064 shares at
March 31, 2000 and December 31, 1999, respectively (1,200,754) (1,113,736)
Accumulated other comprehensive income (6,199) (5,317)
------------ ------------
3,040,411 2,917,257
------------ ------------
$ 63,514,923 $ 61,612,376
============ ============
</TABLE>
See notes to condensed consolidated financial statements.
3
<PAGE> 5
PAINE WEBBER GROUP INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(In thousands of dollars)
<TABLE>
<CAPTION>
Three Months Ended
March 31,
2000 1999
----------- -----------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 176,349 $ 160,599
Adjustments to reconcile net income to cash
provided by (used for) operating activities:
Noncash items included in net income:
Depreciation and amortization 30,118 21,435
Deferred income taxes 31,841 11,198
Amortization of deferred charges 25,332 18,386
Stock-based compensation (1,596) 5,790
(Increase) decrease in operating assets:
Cash and securities on deposit (26,697) 32,778
Financial instruments owned (1,302,698) (2,074,670)
Securities purchased under agreements to resell 50,211 (1,071,797)
Securities borrowed 396,804 (702,443)
Receivables (1,073,089) (379,327)
Other assets (93,806) (156,608)
Increase (decrease) in operating liabilities:
Financial instruments sold, not yet purchased (1,366,547) 1,013,811
Securities sold under agreements to repurchase 2,022,452 4,119,870
Securities loaned 1,944,108 545,931
Payables (209,187) (1,576,819)
Other (198,042) (211,215)
----------- -----------
Cash provided by (used for) operating activities 405,553 (243,081)
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Payments for:
Office equipment and leasehold improvements (80,211) (45,492)
----------- -----------
Cash used for investing activities (80,211) (45,492)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net (payments for) proceeds from short-term borrowings (28,755) 195,116
Proceeds from:
Long-term borrowings 196,022 147,000
Employee stock transactions 54,447 37,576
Payments for:
Long-term borrowings (307,530) (37,600)
Repurchases of common stock (111,592) (56,404)
Dividends (17,436) (22,067)
----------- -----------
Cash (used for) provided by financing activities (214,844) 263,621
----------- -----------
Increase (decrease) in cash and cash equivalents 110,498 (24,952)
Cash and cash equivalents, beginning of period 176,401 228,359
----------- -----------
Cash and cash equivalents, end of period $ 286,899 $ 203,407
=========== ===========
</TABLE>
See notes to condensed consolidated financial statements.
4
<PAGE> 6
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(IN THOUSANDS OF DOLLARS EXCEPT SHARE AND PER SHARE AMOUNTS)
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The condensed consolidated financial statements include the accounts of Paine
Webber Group Inc. ("PWG") and its wholly owned subsidiaries, including its
principal subsidiary PaineWebber Incorporated ("PWI") (collectively, the
"Company"). All material intercompany balances and transactions have been
eliminated. Certain reclassifications have been made to prior year amounts to
conform to current year presentations. The December 31, 1999 Condensed
Consolidated Statement of Financial Condition was derived from the audited
consolidated financial statements of the Company. The financial information as
of and for the periods ended March 31, 2000 and 1999 is unaudited. All normal
recurring adjustments which, in the opinion of management, are necessary for a
fair presentation have been made.
Certain financial information that is normally in annual financial statements
but is not required for interim reporting purposes has been condensed or
omitted. The condensed consolidated financial statements are prepared in
conformity with accounting principles generally accepted in the United States
which require management to make estimates and assumptions that affect the
amounts reported in the condensed consolidated financial statements and
accompanying notes. Actual results could differ from those estimates. These
financial statements should be read in conjunction with the Company's Annual
Report on Form 10-K for the year ended December 31, 1999. The results of
operations reported for interim periods are not necessarily indicative of the
results of operations for the entire year.
Statement of Cash Flows
Total interest payments, which relate principally to agreements to repurchase,
short-term borrowings, securities loaned and long-term borrowings, were $865,029
and $577,797 for the three months ended March 31, 2000 and 1999, respectively.
Income taxes paid were $86,657 and $63,680 for the three months ended March 31,
2000 and 1999, respectively.
Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which establishes revised accounting and
reporting standards for derivative instruments and for hedging activities. It
requires that an entity measure all derivative instruments at fair value and
recognize such instruments as either assets or liabilities in the consolidated
statements of financial condition. The accounting for changes in the fair value
of a derivative instrument will depend on the intended use of the derivative as
either a fair value hedge, a cash flow hedge or a foreign currency hedge. The
effect of the changes in fair value of the derivatives and, in certain cases,
the hedged items are to be reflected in either the consolidated statements of
income or as a component of other comprehensive income, based upon the resulting
designation. As issued, SFAS No. 133 was effective for fiscal years beginning
after June 15, 1999. In June 1999, the FASB issued SFAS No. 137, "Accounting for
Derivative Instruments and Hedging Activities -- Deferral of the Effective Date
of FASB Statement No. 133." SFAS No. 137 defers the effective date of SFAS No.
133 for one year to fiscal years beginning after June 15, 2000. The Company has
not yet determined the impact of this statement on the Company's Consolidated
Financial Statements, taken as a whole.
5
<PAGE> 7
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 2: FINANCIAL INSTRUMENTS OWNED AND SOLD, NOT YET PURCHASED
At March 31, 2000 and December 31, 1999, financial instruments owned and
financial instruments sold, not yet purchased consisted of the following:
<TABLE>
<CAPTION>
March 31, December 31,
2000 1999
----------- -----------
<S> <C> <C>
Financial instruments owned:
U.S. government and agencies $ 6,685,430 $ 5,864,331
Mortgages and mortgage-backed 9,087,219 9,012,415
Corporate debt 1,791,952 1,875,361
Commercial paper and other short-term debt 1,835,741 1,744,036
Equities and other 2,510,595 2,030,986
State and municipals 556,901 617,701
----------- -----------
$22,467,838 $21,144,830
=========== ===========
Financial instruments sold, not yet purchased:
U.S. government and agencies $ 3,998,570 $ 5,804,259
Mortgages and mortgage-backed 100,908 123,049
Corporate debt 1,238,058 785,890
Equities 379,992 348,485
State and municipals 15,133 37,525
----------- -----------
$ 5,732,661 $ 7,099,208
=========== ===========
</TABLE>
NOTE 3: LONG-TERM BORROWINGS
Long-term borrowings at March 31, 2000 and December 31, 1999 consisted of the
following:
<TABLE>
<CAPTION>
March 31, December 31,
2000 1999
---------- ----------
<S> <C> <C>
U.S. Dollar-Denominated:
Fixed Rate Notes due 2000 - 2014 $2,624,543 $2,757,851
Fixed Rate Subordinated Notes due 2002 174,787 174,765
Medium-Term Senior Notes 2,142,990 2,143,010
Medium-Term Subordinated Notes 85,200 148,200
Non-U.S. Dollar-Denominated:
Medium-Term Note due 2003 87,390 --
---------- ----------
$5,114,910 $5,223,826
========== ==========
</TABLE>
At March 31, 2000, interest rates on the U.S. dollar-denominated fixed rate
notes and fixed rate subordinated notes ranged from 6.25 percent to 9.25 percent
and the weighted-average interest rate was 7.19 percent. Interest on the notes
is payable semi-annually. The fixed rate notes and fixed rate subordinated notes
outstanding at March 31, 2000 had an average maturity of 5.8 years.
At March 31, 2000, the Company had outstanding U.S. dollar-denominated fixed
rate Medium-Term Notes of $1,324,040 and variable rate Medium-Term Notes of
$904,150. The Medium-Term Notes outstanding at March 31, 2000 had an average
maturity of 4.1 years and a weighted-average interest rate of 6.73 percent.
At March 31, 2000, the interest rate on the Non-U.S. dollar-denominated
Medium-Term note was 1.27 percent.
At March 31, 2000 and December 31, 1999, the fair values of long-term borrowings
were $4,975,067 and $5,140,331, respectively, as compared to the carrying
amounts of $5,114,910 and $5,223,826, respectively. The estimated fair value of
long-term borrowings is based upon quoted market prices for the same or similar
issues and pricing models. However, for substantially all of its fixed rate
debt, the Company enters into interest rate swap agreements to convert its fixed
rate payments into floating rate payments.
6
<PAGE> 8
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The net fair values of the interest rate swaps were $142,099 and $127,097
payable at March 31, 2000 and December 31, 1999, respectively. The fair value of
interest rate swaps used to hedge the Company's fixed rate debt is based upon
the amounts the Company would receive or pay to terminate the agreements, taking
into account current interest rates.
The carrying amounts of the interest rate swap agreements included in the
Company's Condensed Consolidated Statements of Financial Condition at March 31,
2000 and December 31, 1999 were net receivables of $12,956 and $12,075,
respectively. See Note 5 for further discussion of interest rate swap agreements
used for hedging purposes.
NOTE 4: CAPITAL REQUIREMENTS
PWI, a registered broker-dealer, is subject to the Securities and Exchange
Commission Uniform Net Capital Rule and New York Stock Exchange Growth and
Business Reduction capital requirements. Under the method of computing capital
requirements adopted by PWI, minimum net capital shall not be less than 2
percent of combined aggregate debit items arising from client transactions, plus
excess margin collected on securities purchased under agreements to resell, as
defined. A reduction of business is required if net capital is less than 4
percent of such aggregate debit items. Business may not be expanded if net
capital is less than 5 percent of such aggregate debit items. As of March 31,
2000, PWI's net capital of $1,177,824 was 9.5 percent of aggregate debit items
and its net capital in excess of the minimum required was $919,943.
NOTE 5: FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK
Held or Issued for Trading Purposes
Set forth below are the gross contract or notional amounts of the Company's
outstanding off-balance-sheet derivative and other financial instruments held or
issued for trading purposes. These amounts are not reflected in the Condensed
Consolidated Statements of Financial Condition and are indicative only of the
volume of activity at March 31, 2000 and December 31, 1999. They do not
represent amounts subject to market risks, and in many cases, limit the
Company's overall exposure to market losses by hedging other on- and
off-balance-sheet transactions.
<TABLE>
<CAPTION>
Notional or Contract Amount
--------------------------------------------------------------------------
March 31, 2000 December 31, 1999
-------------------------------- --------------------------------
Purchases Sales Purchases Sales
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Mortgage-backed forward contracts
and options written and purchased $15,768,316 $20,472,150 $14,417,186 $17,540,786
Foreign currency forward contracts,
futures contracts, and options
written and purchased 1,799,585 1,800,063 1,380,925 1,373,981
Equity securities contracts including
stock index futures, forwards, and
options written and purchased 201,171 470,999 144,034 239,682
Other fixed income securities contracts
including futures, forwards, and options
written and purchased 6,987,108 5,358,536 3,557,193 5,538,887
Interest rate swaps and caps 1,464,080 2,434,080 1,688,762 419,989
</TABLE>
7
<PAGE> 9
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Set forth below are the fair values of derivative financial instruments held or
issued for trading purposes as of March 31, 2000 and December 31, 1999. The fair
value amounts are netted by counterparty when specific conditions are met.
<TABLE>
<CAPTION>
Fair Value at Fair Value at
March 31, 2000 December 31, 1999
------------------------------ ------------------------------
Assets Liabilities Assets Liabilities
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Mortgage-backed forward contracts and
options written and purchased $ 78,782 $ 86,714 $159,228 $114,838
Foreign currency forward contracts,
futures contracts, and options
written and purchased 19,365 19,163 20,274 20,158
Equity securities contracts including
stock index futures, forwards, and
options written and purchased 132,908 58,919 152,024 48,835
Other fixed income securities contracts
including futures, forwards, and options
written and purchased 28,566 13,008 29,584 20,177
Interest rate swaps and caps 15,624 23,704 31,569 11,087
</TABLE>
Set forth below are the average fair values of derivative financial instruments
held or issued for trading purposes for the three months ended March 31, 2000
and the twelve months ended December 31, 1999. The average fair value is based
on the average of the month-end balances during the periods indicated.
<TABLE>
<CAPTION>
Average Fair Value Average Fair Value
Three Months Ended Twelve Months Ended
March 31, 2000 December 31, 1999
------------------------------ ------------------------------
Assets Liabilities Assets Liabilities
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Mortgage-backed forward contracts and
options written and purchased $ 93,071 $ 89,451 $171,113 $163,954
Foreign currency forward contracts,
futures contracts, and options
written and purchased 33,468 30,338 22,549 22,377
Equity securities contracts including
stock index futures, forwards, and
options written and purchased 136,105 51,531 63,624 40,321
Other fixed income securities contracts
including futures, forwards, and options
written and purchased 27,772 13,164 11,932 49,800
Interest rate swaps and caps 26,662 18,052 18,593 6,754
</TABLE>
The Company also sells securities, at predetermined prices, which have not yet
been purchased. The Company is exposed to market risk since to satisfy the
obligation, the Company must acquire the securities at market prices, which may
exceed the values reflected on the Condensed Consolidated Statements of
Financial Condition.
8
<PAGE> 10
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The off-balance-sheet derivative trading transactions are generally short-term.
At March 31, 2000 substantially all of the off-balance-sheet trading-related
derivative and other financial instruments had remaining maturities of less than
one year.
The Company's risk of loss in the event of counterparty default is limited to
the current fair value or the replacement cost on contracts in which the Company
has recorded an unrealized gain. These amounts are reflected as assets on the
Company's Condensed Consolidated Statements of Financial Condition and amounted
to $275,245 and $392,679 at March 31, 2000 and December 31, 1999, respectively.
Options written do not expose the Company to credit risk since they do not
obligate the counterparty to perform. Transactions in futures contracts are
conducted through regulated exchanges which have margin requirements, and are
settled in cash on a daily basis, thereby minimizing credit risk.
The following table summarizes the Company's principal transactions revenues by
business activity for the three months ended March 31, 2000 and 1999. Principal
transactions revenues include realized and unrealized gains and losses on
trading positions and principal investing activities, including hedges. In
assessing the profitability of its trading activities, the Company views net
interest and principal transactions revenues in the aggregate.
<TABLE>
<CAPTION>
Principal Transactions Revenues
------------------------------
Three Months
Ended March 31,
------------------------------
2000 1999
-------- --------
<S> <C> <C>
Taxable fixed income (includes futures, forwards,
options contracts and other securities) $ 57,771 $194,404
Equities (includes stock index futures, forwards
and options contracts) 206,822 84,907
Municipals (includes futures and options contracts) 44,696 34,897
-------- --------
$309,289 $314,208
======== ========
</TABLE>
Held or Issued for Purposes Other Than Trading
The Company enters into interest rate swap agreements to manage the interest
rate characteristics of its assets and liabilities. As of March 31, 2000 and
December 31, 1999, the Company had outstanding interest rate swap agreements
with commercial banks with notional amounts of $3,891,010 and $4,206,010,
respectively. These agreements effectively converted substantially all of the
Company's fixed rate debt at March 31, 2000 into floating rate debt. The
interest rate swap agreements entered into have had the effect of reducing net
interest expense on the Company's fixed rate debt by $282 and $5,753 for the
three months ended March 31, 2000 and 1999, respectively. The Company had no
deferred gains or losses related to terminated swap agreements on the Company's
long-term borrowings at March 31, 2000 and December 31, 1999. The Company is
subject to market risk as interest rates fluctuate. The interest rate swaps
contain credit risk to the extent the Company is in a receivable or gain
position and the counterparty defaults. However, the counterparties to the
agreements generally are large financial institutions, and the Company has not
experienced defaults in the past, and management does not anticipate any
counterparty defaults in the foreseeable future. See Note 3 for further
discussion of interest rate swap agreements used for hedging purposes.
NOTE 6: RISK MANAGEMENT
Transactions involving derivative and non-derivative financial instruments
involve varying degrees of both market and credit risk. The Company monitors its
exposure to market and credit risk on a daily basis and through a variety of
financial, security position and credit exposure reporting and control
procedures.
Market Risk
Market risk is the potential change in value of the financial instrument caused
by unfavorable changes in interest rates, equity prices, and foreign currency
exchange rates. The Company has a variety of methods to monitor its market risk
profile. The senior management of each business group is responsible for
reviewing trading positions, exposures, profits and losses, and trading
strategies. The Company also has an independent risk management group which
reviews the Company's risk profile and aids in setting and monitoring risk
management policies of the Company, including monitoring adherence to the
established limits, performing market risk modeling, and reviewing trading
positions and
9
<PAGE> 11
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
hedging strategies. The Asset/Liability Management Committee, comprised of
senior corporate and business group managers, is responsible for establishing
trading position and exposure limits.
Market risk modeling is based on estimating loss exposure through sensitivity
testing. These results are compared to established limits, and exceptions are
subject to review and approval by senior management. Other market risk control
procedures include monitoring inventory agings, reviewing traders' marks and
holding regular meetings between the senior management of the business groups
and the risk management group.
Credit Risk in Proprietary Transactions
Counterparties to the Company's proprietary trading, hedging, financing and
arbitrage activities are primarily financial institutions, including banks,
brokers and dealers, investment funds and insurance companies. Credit losses
could arise should counterparties fail to perform and the value of any
collateral proves inadequate. The Company manages credit risk by monitoring net
exposure to individual counterparties on a daily basis, monitoring credit limits
and requiring additional collateral where appropriate.
Derivative credit exposures are calculated, aggregated and compared to
established limits by the credit department. Credit reserve requirements are
determined by senior management in conjunction with the Company's continuous
credit monitoring procedures. Historically, reserve requirements arising from
instruments with off-balance-sheet risk have not been material.
Receivables and payables with brokers and dealers, agreements to resell and
repurchase securities, and securities borrowed and loaned are generally
collateralized by cash, government and government-agency securities, and letters
of credit. The market value of the initial collateral received approximates or
is greater than the contract value. Additional collateral is requested when
considered necessary. The Company may pledge clients' margined securities as
collateral in support of securities loaned and bank loans, as well as to satisfy
margin requirements at clearing organizations. The amounts loaned or pledged are
limited to the extent permitted by applicable margin regulations. Should the
counterparty fail to return the clients' securities, the Company may be required
to replace them at prevailing market prices. At March 31, 2000, the market value
of client securities loaned to other brokers approximated the amounts due or
collateral obtained.
Credit Risk in Client Activities
Client transactions are entered on either a cash or margin basis. In a margin
transaction, the Company extends credit to a client for the purchase of
securities, using the securities purchased and/or other securities in the
client's account as collateral for amounts loaned. Receivables from customers
are substantially collateralized by customer securities. Amounts loaned are
limited by margin regulations of the Federal Reserve Board and other regulatory
authorities and are subject to the Company's credit review and daily monitoring
procedures. Market declines could, however, reduce the value of any collateral
below the principal amount loaned, plus accrued interest, before the collateral
can be sold.
Client transactions include positions in commodities and financial futures,
trading liabilities and written options. The risk to the Company's clients in
these transactions can be substantial, principally due to price volatility which
can reduce the clients' ability to meet their obligations. Margin deposit
requirements pertaining to commodity futures and exchange-traded options
transactions are generally lower than those for exchange-traded securities. To
the extent clients are unable to meet their commitments to the Company and
margin deposits are insufficient to cover outstanding liabilities, the Company
may take market action and credit losses could be realized.
Client trades are recorded on a settlement date basis. Should either the client
or broker fail to perform, the Company may be required to complete the
transaction at prevailing market prices. Trades pending at March 31, 2000 were
settled without material adverse effect on the Company's consolidated financial
statements, taken as a whole.
Concentrations of Credit Risk
Concentrations of credit risk that arise from financial instruments (whether on-
or off-balance-sheet) exist for groups of counterparties when they have similar
economic characteristics that would cause their ability to meet obligations to
be similarly affected by economic, industry or geographic factors. As a major
securities firm, the Company engages in underwriting and other financing
activities with a broad range of clients, including other financial
institutions, municipalities, governments, financing companies, and commercial
real estate investors and operators. These activities could result in
concentrations of credit risk with a particular counterparty, or group of
counterparties operating in
10
<PAGE> 12
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
a particular geographic area or engaged in business in a particular industry.
The Company seeks to control its credit risk and the potential for risk
concentration through a variety of reporting and control procedures described
above.
The Company's most significant industry concentration, which arises within its
normal course of business activities, is financial institutions including banks,
brokers and dealers, investment funds, and insurance companies.
NOTE 7: COMMITMENTS AND CONTINGENCIES
At March 31, 2000 and December 31, 1999, the Company was contingently liable
under unsecured letters of credit totaling $193,787 and $139,156, respectively,
which approximated fair value. At March 31, 2000 and December 31, 1999 certain
of the Company's subsidiaries were contingently liable as issuer of
approximately $45,000 of notes payable to managing general partners of various
limited partnerships pursuant to certain partnership agreements. In addition, as
part of the 1995 limited partnership settlements, the Company has agreed, under
certain circumstances, to provide to class members additional consideration
including assignment of fees the Company is entitled to receive from certain
partnerships. In the opinion of management, these contingencies will not have a
material adverse effect on the Company's consolidated financial statements,
taken as a whole.
In meeting the financing needs of certain of its clients, the Company may also
issue standby letters of credit which are collateralized by customer margin
securities. At March 31, 2000 and December 31, 1999, the Company had outstanding
$118,300 and $101,400, respectively, of such standby letters of credit. At March
31, 2000 and December 31, 1999, securities with fair value of $1,791,490 and
$2,536,073, respectively, had been loaned or pledged as collateral for
securities borrowed of approximately equal fair value.
In the normal course of business, the Company enters into when-issued
transactions, underwriting and other commitments. Also, at March 31, 2000 and
December 31, 1999, the Company had commitments of $1,070,416 and $858,122,
respectively, consisting of secured credit lines to real estate operators,
mortgage and asset-backed originators, and commitments to investment
partnerships, in certain of which key employees are limited partners. Settlement
of these transactions at March 31, 2000 would not have had a material
impact on the Company's consolidated financial statements, taken as a whole.
The Company has been named as defendant in numerous legal actions in the
ordinary course of business. While the outcome of such matters cannot be
predicted with certainty, in the opinion of management of the Company, after
consultation with various counsel handling such matters, these actions will be
resolved with no material adverse effect on the Company's consolidated financial
statements, taken as a whole.
NOTE 8: COMPREHENSIVE INCOME
Comprehensive income is calculated in accordance with SFAS No. 130, "Reporting
Comprehensive Income." Comprehensive income combines net income and certain
items that directly affect stockholders' equity, such as foreign currency
translation adjustments. The components of comprehensive income for the three
months ended March 31, 2000 and 1999 were as follows:
<TABLE>
<CAPTION>
Three Months Ended
March 31,
---------------------------------
2000 1999
--------- ---------
<S> <C> <C>
Net income $ 176,349 $ 160,599
Foreign currency translation adjustment (882) (1,512)
--------- ---------
Total comprehensive income $ 175,467 $ 159,087
========= =========
</TABLE>
11
<PAGE> 13
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 9: EARNINGS PER COMMON SHARE
Earnings per common share are computed in accordance with SFAS No. 128,
"Earnings Per Share." Basic earnings per share excludes the dilutive effects of
options and convertible securities and is calculated by dividing income
available to common shareholders by the weighted-average number of common shares
outstanding for the period. Diluted earnings per share reflects all potentially
dilutive securities.
Set forth below is the reconciliation of net income applicable to common shares
and weighted-average common and common equivalent shares of the basic and
diluted earnings per common share computations:
<TABLE>
<CAPTION>
Three Months Ended
March 31,
----------------------------------------
2000 1999
------------- -------------
<S> <C> <C>
NUMERATOR:
Net income $ 176,349 $ 160,599
Preferred stock dividends -- (5,949)
------------- -------------
Net income applicable to common shares
for basic earnings per share 176,349 154,650
============= =============
Net income applicable to common shares
for diluted earnings per share $ 176,349 $ 154,650
============= =============
DENOMINATOR:
Weighted-average common shares for basic
earnings per share 145,019,159 145,598,619
============= =============
Weighted-average effect of dilutive
employee stock options and awards 7,317,286(1) 8,130,092
------------- -------------
Dilutive potential common shares 7,317,286 8,130,092
------------- -------------
Weighted-average common and common equivalent
shares for diluted earnings per share 152,336,445 153,728,711
============= =============
EARNINGS PER SHARE:
Basic $ 1.22 $ 1.06
============= =============
Diluted $ 1.16 $ 1.01
============= =============
</TABLE>
NOTE 10: SEGMENT REPORTING DATA
The Company offers a wide variety of products and services, primarily those of a
full service domestic broker-dealer to a domestic market, through its two
operating segments: Individual and Institutional. The Individual segment offers
brokerage services and products (such as the purchase and sale of securities,
insurance annuity contracts, mutual funds, wrap fee products, and margin and
securities lending), asset management and other investment advisory and
portfolio management products and services, and execution and clearing services
for transactions originated by individual investors. The Institutional segment
principally includes capital market products and services (such as the placing
of securities and other financial instruments for - and the execution of trades
on behalf of - institutional clients, investment banking services such as the
underwriting of debt and equity securities, and mergers and acquisitions
advisory services).
- ------------------
(1) Included in the calculation of employee stock options and awards was the
dilutive effect of 1,925,000 instruments related to convertible debentures.
12
<PAGE> 14
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Segment revenues and expenses in the table below consist of those that are
directly attributable to the segment under which they are reported, combined
with segment amounts based on Company allocation methodologies (for example,
allocating a portion of investment banking revenues to the Individual segment;
relative utilization of the Company's square footage for certain cost
allocations).
<TABLE>
<CAPTION>
Three months ended March 31, 2000 Three months ended March 31, 1999
--------------------------------------------- ---------------------------------------------
Individual Institutional Total Individual Institutional Total
------------- -------------- ---------------- -------------- --------------- --------------
<S> <C> <C> <C> <C> <C> <C>
Total revenues $1,470,751 $ 934,370 $ 2,405,121 $1,104,409 $818,901 $ 1,923,310
Net revenues 1,251,278 345,827 1,597,105 955,113 359,778 1,314,891
Income before taxes
and minority interest 199,194 91,025 290,219 155,483 109,536 265,019
</TABLE>
Total assets for the Individual and Institutional segments were $25,175,880 and
$38,339,043, respectively, at March 31, 2000 and $21,828,324 and $39,784,052,
respectively at December 31, 1999.
NOTE 11: SUBSEQUENT EVENTS
On April 27, 2000, PWG entered into an agreement and plan of merger (the "Merger
Agreement") with J.C. Bradford & Co. L.L.C. ("J.C. Bradford"), a leading
privately-held brokerage firm in the Southeast, pursuant to which a subsidiary
of PWG will merge with and into J.C. Bradford. The all cash transaction, valued
at $620 million, is expected to close in the third quarter of this year.
At the May 4, 2000 Annual Meeting of Stockholders, the Company approved to amend
the Restated Certificate of Incorporation of PWG to authorize the issuance of up
to 150,000,000 shares of Non-Voting Common Stock, par value of $1.00 per share.
13
<PAGE> 15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
GENERAL
The Company's principal business activities are, by their nature, affected by
many factors, including general economic and financial conditions, the level and
volatility of interest rates, currency and security valuations, competitive
conditions, counterparty risk, transactional volume, market liquidity and
technological changes. As a result, revenues and profitability have been in the
past, and are likely to continue to be, subject to fluctuations reflecting the
impact of these factors.
Certain statements included in this discussion and in other parts of this report
include "forward-looking statements" that involve known and unknown risks and
uncertainties including (without limitation) those mentioned above, the impact
of current, pending and future legislation and regulation, and other risks and
uncertainties. Actual results could differ materially from those projected in
the forward-looking statements. The Company disclaims any obligation or
undertaking to update publicly or revise any forward-looking statements.
During the first quarter of 2000, economic conditions in the U.S. were generally
positive, but the financial markets were volatile. The annualized rate of Real
Gross Domestic Product growth in the first quarter was 5.4 percent, versus 7.3
percent in the fourth quarter of 1999 and 3.7 percent in the first quarter a
year ago. However, inflation increased during the first quarter of 2000, as the
Consumer Price Index rose 4.0 percent, after rising 2.9 percent in the fourth
quarter of 1999. The yield on 10-year U.S. Treasury bonds was 6.03 percent on
March 31, 2000, a 42 basis point decline from the 6.45 percent at December 31,
1999, and a 78 basis point increase from 5.25 percent on March 31, 1999.
However, the yield on the 3-month Treasury bill increased 55 basis points during
the first quarter of 2000, from 5.33 percent at the end of 1999 to 5.88 percent
on March 31, 2000. The Federal Reserve raised the federal funds rate by a total
of 50 basis points during the first quarter of 2000, from 5.50 percent to 6.00
percent.
The equity markets were more volatile during the first quarter of 2000 than the
prior year quarter. The Dow Jones Industrial Average declined 5.0 percent in the
first quarter of 2000, compared to an increase of 6.6 percent during the first
quarter of 1999. The S&P 500 stock index appreciated 2.0 percent as compared
with 4.6 percent in the 1999 first quarter. The NASDAQ Composite Index advanced
12.4 percent in the first three months of 2000, as compared with 12.3 percent in
the first quarter of 1999. Stock market volume was heavy, easily beating the
1999 figures. Average daily volume on the New York Stock Exchange was 1,049
million shares in the first quarter of 2000, as compared with 799 million shares
in the first quarter of 1999. NASDAQ volume increased from 967 million average
daily shares in the first quarter of 1999 to 1,705 million shares in the first
quarter of 2000.
RESULTS OF OPERATIONS
Quarter Ended March 31, 2000 compared to Quarter Ended March 31, 1999
For the quarter ended March 31, 2000, the Company's net income was a record
$176.3 million, or $1.22 per basic share ($1.16 per diluted share) compared to
net income of $160.6 million, or $1.06 per basic share ($1.01 per diluted share)
earned during the first quarter of 1999. During the first quarter of 2000,
revenues, net of interest expense, were a record $1,597.1 million, 21.5 percent
higher than the first quarter of 1999.
Commission revenues earned during the first quarter of 2000 were a record $676.2
million, 41.2 percent higher than the $478.9 million earned during the prior
year quarter, reflecting increases in both individual and institutional
businesses. Mutual fund and insurance commissions increased $72.4 million or
58.0 percent, commissions from over-the-counter securities and commodities
increased $68.3 million or 100.3 percent and commissions on the sale of listed
securities and options increased $56.1 million or 19.6 percent compared to the
prior year quarter.
Principal transactions revenues declined slightly from the first quarter of 1999
to $309.3 million from $314.2 million, or 1.6 percent. The decline was
attributable to lower results in taxable fixed income reflecting reduced
customer flow due to a more difficult economic environment. Partially offsetting
the decline in fixed income were increases in equities, reflecting increased
market activity, and increases in municipals.
14
<PAGE> 16
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
Asset management fees increased $72.2 million, or 35.1 percent to a record
$278.3 million, reflecting higher revenues earned on managed and fee-based
accounts. Average assets in wrap and trust accounts during the first quarter of
2000 were approximately 53 percent higher than during the first quarter of 1999.
At March 31, 2000, assets in wrap and trust accounts reached a record $53.9
billion. The increase in revenues also reflects higher investment advisory fees
earned on assets managed in long-term and money market funds. The average assets
under management in money market, institutional and long-term mutual funds were
approximately $71 billion during the first quarter of 2000 and approximately $59
billion during the first quarter of 1999. At March 31, 2000, assets under
management reached a record $73.4 billion.
Investment banking revenues earned during the first quarter of 2000 were $122.2
million, $3.8 million less than the $126.0 million earned during the first
quarter of 1999. The current year quarter reflects decreases in municipal and
corporate securities underwriting fees, management fees and selling concessions
on lower volume of lead-managed and co-managed issues. Partially offsetting
these decreases were increases in private placement and other fees.
Net interest increased $24.8 million, or 16.7 percent to $173.5 million
primarily due to increased margin interest and an increased level of trading
positions during the quarter.
Compensation and benefits expenses for the quarter ended March 31, 2000 were
$949.8 million, a 23.6 percent increase as compared to $768.7 million during the
prior year quarter. The number of employees at March 31, 2000 increased 1,957,
or 10.8 percent, as compared to March 31, 1999 reflecting an additional 575
Private Client Group financial advisors, related financial advisor support
personnel, and technology specialists hired to implement the Company's
technology initiatives. Also, the Company's improved operating results for the
first quarter of 2000 versus the prior year quarter resulted in higher
production-based compensation to Private Client Group financial advisors, and
higher performance-based compensation. The ratio of compensation and benefits as
a percent of net revenues increased to 59.5 percent versus 58.5 percent in the
prior year quarter.
All other operating expenses increased $75.9 million, or 27.0 percent to $357.1
million, as compared to $281.2 million for the prior year quarter. Office and
equipment expenses increased $15.1 million, or 18.6 percent principally due to
an increase in office space and equipment necessary to support the additional
headcount, as well as normal escalation costs. Professional services expenses
increased $19.0 million, or 62.3 percent principally due to consultants used in
the Company's advanced technology implementation, recruiting fees and other
consulting expenses. Business development expenses increased $15.0 million, or
63.0 percent reflecting higher promotional costs associated with PaineWebber
EDGE and PaineWebber InsightOne and other expenses associated with increased
business activities. The ratio of non-compensation expenses as a percentage of
net revenues was 22.4 percent for the quarter ended March 31, 2000 compared to
21.4 percent for the prior year quarter.
The effective income tax rate was 36.5 percent for the quarter ended March 31,
2000 which was comparable to the 36.4 percent from the prior year quarter.
LIQUIDITY AND CAPITAL RESOURCES
The primary objectives of the Company's funding policies are to insure ample
liquidity at all times and a strong capital base. These objectives are met by
maximization of self-funded assets, diversification of funding sources,
maintenance of prudent liquidity and capital ratios, and contingency planning.
15
<PAGE> 17
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
Liquidity
The Company maintains a highly liquid balance sheet with the majority of assets
consisting of trading assets, securities purchased under agreements to resell,
securities borrowed, and receivables from clients, brokers and dealers, which
are readily convertible into cash. The nature of the Company's business as a
securities dealer results in carrying significant levels of trading assets and
liabilities in order to meet its client and proprietary trading needs. The
Company's total assets may fluctuate from period to period as the result of
changes in the level of trading positions held to facilitate client
transactions, the volume of resale and repurchase transactions, and proprietary
trading strategies. These fluctuations depend significantly upon economic and
market conditions, and transactional volume.
The Company's total assets at March 31, 2000 were $63.5 billion compared to
$61.6 billion at December 31, 1999, primarily attributable to an increase in
receivables from clients and financial instruments owned partially offset by
lower securities borrowed and securities received as collateral. The majority
of the Company's assets are financed by daily operations such as securities
sold under agreements to repurchase, free credit balances in client accounts
and securities lending activity. The Company regularly reviews its mix of
assets and liabilities to maximize self-funding. Additional financing sources
are available through bank loans and commercial paper, committed and
uncommitted lines of credit, and long-term borrowings.
The Company maintains committed and uncommitted credit facilities from a diverse
group of banks. The Company has a $1.2 billion unsecured revolving credit
agreement, which extends through September 2000, with provisions for renewal
through 2001. Certain of the Company's subsidiaries also have a secured
revolving credit facility to provide up to an aggregate of $1.0 billion through
August 2000. The secured borrowings under this facility can be collateralized
using a variety of securities. The facilities are available for general
corporate purposes and are tested on a regular basis. At March 31, 2000, there
were no outstanding borrowings under either facility. Additionally, the Company
had $4.9 billion in uncommitted lines of credit at March 31, 2000.
The Company maintains public shelf registration statements with the SEC for the
issuance of debt securities of the Company and for the issuance of preferred
securities of PWG Capital Trusts III, IV and V ("Preferred Trust Securities"),
business trusts formed under the Delaware law which are wholly owned
subsidiaries of the Company. During the first quarter of 2000, the Company
issued $124.4 million of debt under these registration statements. At March 31,
2000, the Company had $914.2 million in debt securities available for issuance
under a shelf registration statement and $706.2 million in Preferred Trust
Securities and debt securities of the Company available for issuance under
another registration statement.
Capital Resources and Capital Adequacy
The Company's businesses are capital intensive. In addition to a funding policy
that provides for diversification of funding sources and maximization of
liquidity, the Company maintains a strong capital base.
The Company's total capital base, which includes long-term borrowings, Preferred
Trust Securities and stockholders' equity, was approximately $8.5 billion at
March 31, 2000 and December 31, 1999. The composition of total capital changed
due to a net decrease in long-term borrowings of $108.9 million offset by a net
increase in stockholders' equity of $123.2 million.
The net decrease in long-term borrowings primarily reflected the maturity of
$200 million U.S dollar-denominated 7 percent senior notes on March 1, 2000 and
net maturities of U.S dollar-denominated medium-term notes of $56.0 million,
partially offset by the issuance of $85.5 million non-U.S. dollar-denominated
1.27 percent medium-term notes due on March 13, 2003. The increase in
stockholders' equity was primarily the result of net income for the three
months ended March 31, 2000 of $176.3 million and the issuance of approximately
2,473,000 shares of common stock related to employee compensation and stock
purchase programs. Issuances and tax credits related to these programs had the
net effect of increasing equity capital by $76.5 million in the first quarter
of 2000. These increases were offset by the repurchase in the first three
months of 2000 of approximately 2,930,000 shares of common stock for $111.6
million and dividends paid and accrued of $17.4 million. At March 31, 2000, the
remaining number of shares authorized to be repurchased, in the open market or
otherwise, under the Company's common stock repurchase program was
approximately 34 million.
16
<PAGE> 18
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
On May 4, 2000, the Board of Directors declared a regular quarterly cash
dividend on the Company's common stock of $0.12 per share payable on July 5,
2000 to stockholders of record on June 5, 2000.
PWI is subject to the net capital requirements of the Securities and Exchange
Commission, the New York Stock Exchange, Inc. and the Commodity Futures Trading
Commission which are designed to measure the financial soundness and liquidity
of broker-dealers. PWI has consistently maintained net capital in excess of the
minimum requirements imposed by these agencies. In addition, the Company has
other banking and securities subsidiaries, both domestic and foreign, which have
also consistently maintained net regulatory capital in excess of requirements.
Merchant Banking and Highly Leveraged Transactions
In connection with its merchant banking, principal investing, commercial real
estate, and asset finance activities, the Company has provided financing and
made investments in companies and other entities, some of which are involved in
highly leveraged transactions. Positions taken or commitments made by the
Company may involve credit or market risk from any one issuer or industry.
At March 31, 2000, the Company had investments which were affected by liquidity,
reorganization or restructuring issues amounting to $171.2 million. These
investments have not had a material effect on the Company's results of
operations.
The Company's activities include underwriting and market-making transactions in
high-yield corporate debt and non-investment-grade mortgage-backed securities,
and emerging market securities (collectively, "high-yield securities"). These
securities generally involve greater risks than investment-grade corporate debt
securities because these issuers usually have high levels of indebtedness and
lower credit ratings and are, therefore, more vulnerable to general economic
conditions. At March 31, 2000, the Company held $468.3 million of high-yield
securities, with approximately 21 percent of such securities attributable to
three issuers. The Company continually monitors its risk positions associated
with high-yield securities and establishes limits with respect to overall
market exposure, industry group and individual issuer. The Company accounts for
these positions at fair value, with unrealized gains and losses reflected in
principal transactions revenues. These high-yield securities have not had a
material effect on the Company's results of operations.
DERIVATIVE FINANCIAL INSTRUMENTS
A derivative financial instrument is a contractual agreement between
counterparties that derives its value from changes in the value of some
underlying asset such as the price of another security, interest rates, currency
exchange rates, specified rates (e.g. LIBOR) or indices (e.g. S&P 500), or other
value referenced in the contract. Derivatives, such as futures, certain option
contracts and structured products (e.g. indexed warrants) are traded on
exchanges, while derivatives such as forward contracts, certain option
contracts, interest rate swaps, caps and floors, and other structured products
are negotiated in over-the-counter markets.
In the normal course of business, the Company engages in a variety of derivative
transactions in connection with its proprietary trading activities and asset and
liability management, as well as on behalf of its clients. As a dealer, the
Company regularly makes a market in and trades a variety of securities. The
Company is also engaged in creating structured products that are sold to
clients. In connection with these activities, the Company attempts to reduce its
exposure to market risk by entering into offsetting hedging transactions, which
may include derivative financial instruments. The Company also enters into
interest rate swap contracts to manage the interest rate characteristics of its
assets and liabilities.
17
<PAGE> 19
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
The notional amount of a derivative contract is used to measure the volume of
activity and is not reflected on the Condensed Consolidated Statement of
Financial Condition. The Company had off-balance-sheet derivative contracts
outstanding with gross notional amounts of $60.6 billion and $50.5 billion at
March 31, 2000 and December 31, 1999, respectively. These amounts included $35.4
billion and $30.9 billion, respectively, related to "to be announced"
mortgage-backed securities requiring forward settlement. Also included in these
amounts were $3.9 billion and $4.2 billion notional amounts of interest rate
swap agreements used to change the interest rate characteristics of the
Company's fixed rate debt at March 31, 2000 and December 31, 1999, respectively.
For further discussion on the Company's derivative financial instruments, see
Note 5 in the Notes to Condensed Consolidated Financial Statements.
The Company records any unrealized gains and losses on its derivative contracts
used in a trading capacity by marking-to-market the contracts on a daily basis.
The unrealized gain or loss is recorded on the Condensed Consolidated Statements
of Financial Condition with the related profit or loss reflected in principal
transactions revenues. The Company accrues interest income and expense on
interest rate swap agreements used to change the interest rate characteristics
of the Company's fixed rate debt. These interest rate swap agreements had the
effect of reducing net interest expense on the Company's fixed rate debt by $0.3
million and $5.8 million for the three months ended March 31, 2000 and 1999,
respectively. The Company had no deferred gains or losses recorded at March 31,
2000 and December 31, 1999 related to terminated swap agreements on the
Company's long-term borrowings.
The fair value of an exchange-traded derivative financial instrument is
determined by quoted market prices, while over-the-counter derivatives are
valued based upon pricing models which consider time value and volatility, as
well as other economic factors. The fair values of the Company's derivative
financial instruments held for trading purposes at March 31, 2000 were $275.2
million and $201.5 million for assets and liabilities, respectively, and are
reflected on the Condensed Consolidated Statements of Financial Condition. The
fair values of these instruments at December 31, 1999 were $392.7 million and
$215.1 million for assets and liabilities, respectively.
The Company's exposure to market risk relates to changes in interest rates,
equity prices, foreign currency exchange rates or the market values of the
assets underlying the financial instruments. The Company's exposure to credit
risk at any point is represented by the fair value or replacement cost on
contracts in which the Company has recorded an unrealized gain. At March 31,
2000 and December 31, 1999, the fair values amounted to $275.2 million and
$392.7 million, respectively. The risks inherent in derivative financial
instruments are managed consistent with the Company's overall risk management
policies. (See Risk Management section below)
RISK MANAGEMENT
Risk is an inherent part of the Company's principal business activities.
Managing risk is critical to the Company's profitability and to reducing the
likelihood of earnings volatility. The Company's risk management policies and
procedures have been established to continually identify, monitor and manage
risk. The Company's principal risks are market, credit, liquidity, legal and
operating risks. Included below is a discussion on market risk. For further
discussion on the Company's principal risks, see the Company's 1999 Annual
Report to Stockholders.
The Company seeks to manage risk and its impact on earnings volatility through
strategic planning and by focusing on the diversification of its business
activities. Through capital allocation, and the establishment of trading limits
by product and credit limits by counterparty, the Company manages the risk
associated with the various businesses. The Company may reallocate or deploy
capital to the business groups based upon changes in market conditions or
opportunities in the marketplace that are consistent with the Company's
long-term strategy.
The discussion of the Company's principal risks and the estimated amounts of the
Company's market risk exposure generated from the sensitivity analysis performed
by the Company are forward-looking statements assuming certain adverse
conditions occur. Actual results in the future may differ materially from these
projected results due to actual events in the markets in which the Company
operates and other factors. The analysis methods used by the Company to assess
and mitigate risks discussed below should not be considered projections of
future events or losses.
Market Risk
All financial instruments involve market risk. Market risk is the potential
change in value of the financial instrument caused by unfavorable changes in
interest rates, equity prices and foreign currency exchange rates. Market risk
is inherent to both derivative and non-derivative financial instruments.
18
<PAGE> 20
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
The Company actively monitors its market risk profile through a variety of
control procedures including market risk modeling, review of trading positions
and hedging strategies, and monitoring adherence to established limits. Each
department's trading positions, exposures, profits and losses, and trading
strategies are reviewed by the senior management of each business group.
Independent of the trading departments is a risk management group. The Company's
risk management group reviews the Company's risk profile and adherence to
established trading limits, and aids in the development of risk management
policies. In addition, the Company has in place committees and management
controls to review inventory positions, other asset accounts and asset agings on
a regular basis.
Trading position and exposure limits are established by the Asset/Liability
Management Committee, which meets regularly and is comprised of senior corporate
and business group managers.
The following is a discussion of the Company's primary market risk exposures at
March 31, 2000 and December 31, 1999 and how those exposures are managed:
Interest Rate Risk
In connection with the Company's dealer activities, the Company is exposed to
interest rate risk due to changes in the level or volatility of interest rates,
changes in the yield curve, mortgage prepayments and credit spreads. The Company
attempts to mitigate its exposure to interest rate risk by entering into hedging
transactions such as U.S. government and Eurodollar forwards and futures
contracts, options, and interest rate swap and cap agreements. The Company also
issues fixed rate instruments in connection with its nontrading activities,
which expose the Company to interest rate risk. The Company enters into interest
rate swap agreements that are designed to mitigate its exposure by effectively
converting its fixed rate liabilities into floating rate liabilities.
Equity Price Risk
In connection with the Company's dealer activities, the Company buys and sells
equity and equity derivative instruments. The Company is exposed to equity price
risk due to changes in the level or volatility of equity prices. The Company
attempts to mitigate its exposure to equity price risk by entering into hedging
transactions including equity option agreements.
Sensitivity Analysis
For purposes of the SEC disclosure requirements, the Company has elected to use
a sensitivity approach to express the potential loss in future earnings of its
financial instruments. In preparing the analysis, the Company has combined both
derivative and non-derivative financial instruments held for trading purposes
with those held for purposes other than trading because the amounts were not
material.
The sensitivity calculation employed to analyze interest rate risk on its fixed
income financial instruments was based on a proprietary methodology which
converted substantially all the Company's interest rate sensitive financial
instruments at March 31, 2000 and December 31, 1999, into a uniform benchmark (a
ten year U.S. Treasury note equivalent), and evaluated the impact assuming an 11
basis point change to the ten-year U.S. Treasury note at March 31, 2000 and
December 31, 1999, respectively. The hypothetical basis point change was derived
from a proprietary model which uses a one-day interval and a 95 percent
confidence level, and was based on historical data over a one-year period. This
analysis does not consider other factors that may influence these results, such
as credit spread risk, prepayment risk on mortgage-backed securities or changes
in the shape of the yield curve. The sensitivity calculation employed to analyze
equity price risk on its equity financial instruments was based on a proprietary
model which stress tests the firm inventory positions by shocking those
positions for a two standard deviation move in the market (95 percent confidence
interval) using historical data over a one-year period. Based upon the
aforementioned methodologies, the Company's potential daily loss in future
earnings at March 31, 2000 was approximately $5 million and $0.3 million for
interest rate risk and equity price risk, respectively, and the Company's
potential daily loss in future earnings at December 31, 1999 was approximately
$3 million and $0.1 million for interest rate risk and equity price risk,
respectively.
19
<PAGE> 21
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
No significant events have occurred since the filing of the Company's Annual
Report on Form 10-K for the fiscal year ended December 31, 1999.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) Proxies for the Annual meeting of Stockholders held on May 4, 2000 were
solicited by the Company pursuant to Regulation 14A of the Securities Act
of 1934, as amended.
(c) Matters voted upon at the Annual Meeting of Stockholders:
(1) The election of five directors to the Board of Directors to hold office
for a term of three years. There was no solicitation in opposition of
the nominees and all such nominees were elected. There were no broker
non-votes with respect to the election of Directors.
<TABLE>
<CAPTION>
Votes for Votes Withheld
--------- --------------
<S> <C> <C>
E. Garrett Bewkes, Jr. 131,827,835 4,429,256
Frank P. Doyle 132,455,496 3,801,595
Naoshi Kiyono 115,297,428 20,959,663
Edward Randall, III 133,010,855 3,246,236
Ken-ichi Sekiguchi 132,969,423 3,287,668
</TABLE>
(2) The approval to amend the Restated Certificate of Incorporation of
Paine Webber Group Inc. to authorize the issuance of up to 150,000,000
shares of Non-Voting Common Stock, par value $1.00 per share.
Votes for: 110,256,096
Votes against: 6,688,277
Abstentions: 671,390
(3) The ratification of the selection by the Board of Directors of Ernst &
Young LLP as the Company's independent public accountants for the 2000
fiscal year.
Votes for: 135,524,877
Votes against: 373,208
Abstentions: 359,006
20
<PAGE> 22
PART II - OTHER INFORMATION (continued)
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The following exhibits are filed herewith:
Exhibit 12.1 - Computation of Ratio of Earnings to Fixed Charges
Exhibit 12.2 - Computation of Ratio of Earnings to Combined Fixed
Charges and Preferred Stock Dividends
Exhibit 27 - Financial Data Schedule
(b) Reports on Form 8-K:
The Company filed a Current Report on Form 8-K dated April 25, 2000 with
the Securities and Exchange Commission reporting under "Item 5 - Other
Events" and "Item 7 - Exhibits" relating to the Company's press release
which, among other things, reported financial results for the three month
period ending March 31, 2000.
The Company filed a Current Report on Form 8-K dated May 5, 2000 with the
Securities and Exchange Commission reporting under "Item 5 - Other Events"
and "Item 7 - Exhibits" relating to the Company's press release which
reported that the Company entered into an agreement and plan of merger
with J.C. Bradford & Co., L.L.C. pursuant to which a subsidiary of the
Registrant will merge with and into J.C. Bradford.
21
<PAGE> 23
SIGNATURE
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized.
Paine Webber Group Inc.
(Registrant)
Date: May 15, 2000 By: /s/ Jerome T. Fadden
Jerome T. Fadden
Senior Vice President and
Chief Financial Officer
(principal financial and
accounting officer)
22
<PAGE> 1
EXHIBIT 12.1
PAINE WEBBER GROUP INC.
COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES
(In thousands of dollars)
<TABLE>
<CAPTION>
Three Months Years Ended December 31,
Ended March 31, -------------------------------------------------------------------------
2000 (1) 1999 (1) 1998 (1) 1997 (1) 1996 (1) 1995
---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
Income before taxes $ 282,158 $1,002,558 $ 682,763 $ 644,075 $ 558,999 $ 102,677
---------- ---------- ---------- ---------- ---------- ----------
Fixed charges:
Interest 816,077 2,564,822 2,876,712 2,573,582 1,971,788 1,969,811
Interest factor in rents 16,225 61,322 56,139 53,665 54,537 59,491
---------- ---------- ---------- ---------- ---------- ----------
Total fixed charges 832,302 2,626,144 2,932,851 2,627,247 2,026,325 2,029,302
---------- ---------- ---------- ---------- ---------- ----------
Income before taxes and
fixed charges $1,114,460 $3,628,702 $3,615,614 $3,271,322 $2,585,324 $2,131,979
========== ========== ========== ========== ========== ==========
Ratio of earnings to fixed charges 1.3 1.4 1.2 1.2 1.3 1.1
========== ========== ========== ========== ========== ==========
</TABLE>
For purposes of computing the ratio of earnings to fixed charges, "earnings"
consist of income before taxes and fixed charges. "Fixed charges" consist
principally of interest expense incurred on securities sold under agreements to
repurchase, short-term borrowings, long-term borrowings, preferred trust
securities and that portion of rental expense estimated to be representative of
the interest factor.
(1) Income before taxes includes minority interest in wholly owned subsidiary
trusts.
<PAGE> 1
EXHIBIT 12.2
PAINE WEBBER GROUP INC.
COMPUTATION OF RATIO OF EARNINGS TO COMBINED FIXED CHARGES AND
PREFERRED STOCK DIVIDENDS
(In thousands of dollars)
<TABLE>
<CAPTION>
Three Months Years Ended December 31,
Ended March 31, ------------------------------------------------------------------------
2000 (1) 1999 (1) 1998 (1) 1997 (1) 1996 (1) 1995
---------- ---------- ---------- ---------- ---------- ---------
<S> <C> <C> <C> <C> <C> <C>
Income before taxes $ 282,158 $1,002,558 $ 682,763 $ 644,075 $ 558,999 $ 102,677
---------- ---------- ---------- ---------- ---------- ----------
Preferred stock dividends -- 129,689(2) 35,433 44,186 43,712 36,260
---------- ---------- ---------- ---------- ---------- ----------
Fixed charges:
Interest 816,077 2,564,822 2,876,712 2,573,582 1,971,788 1,969,811
Interest factor in rents 16,225 61,322 56,139 53,665 54,537 59,491
---------- ---------- ---------- ---------- ---------- ----------
Total fixed charges 832,302 2,626,144 2,932,851 2,627,247 2,026,325 2,029,302
---------- ---------- ---------- ---------- ---------- ----------
Total fixed charges and preferred
stock dividends 832,302 2,755,833 2,968,284 2,671,433 2,070,037 2,065,562
---------- ---------- ---------- ---------- ---------- ----------
Income before taxes and fixed charges $1,114,460 $3,628,702 $3,615,614 $3,271,322 $2,585,324 $2,131,979
========== ========== ========== ========== ========== ==========
Ratio of earnings to fixed charges
and preferred stock dividends 1.3 1.3 1.2 1.2 1.2 1.0
========== ========== ========== ========== ========== ==========
</TABLE>
For purposes of computing the ratio of earnings to combined fixed charges and
preferred stock dividends (tax effected), "earnings" consist of income before
taxes and fixed charges. "Fixed charges" consist principally of interest expense
incurred on securities sold under agreements to repurchase, short-term
borrowings, long-term borrowings, preferred trust securities and that portion of
rental expense estimated to be representative of the interest factor.
(1) Income before taxes includes minority interest in wholly owned subsidiary
trusts
(2) Amount includes a charge to equity of $59,883 resulting from the redemption
of preferred stock on December 16, 1999.
<TABLE> <S> <C>
<ARTICLE> BD
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
FINANCIAL STATEMENTS OF PAINE WEBBER GROUP INC. FOR THE THREE MONTHS ENDED MARCH
31, 2000 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL
STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-2000
<PERIOD-END> MAR-31-2000
<CASH> 1,136,655
<RECEIVABLES> 11,363,652
<SECURITIES-RESALE> 15,873,737
<SECURITIES-BORROWED> 10,129,834
<INSTRUMENTS-OWNED> 22,467,838
<PP&E> 628,310
<TOTAL-ASSETS> 63,514,923
<SHORT-TERM> 1,855,495
<PAYABLES> 8,239,030
<REPOS-SOLD> 27,762,648
<SECURITIES-LOANED> 7,605,308
<INSTRUMENTS-SOLD> 5,732,661
<LONG-TERM> 5,114,910
393,750
0
<COMMON> 194,530
<OTHER-SE> 2,845,881
<TOTAL-LIABILITY-AND-EQUITY> 63,514,923
<TRADING-REVENUE> 309,289
<INTEREST-DIVIDENDS> 981,547
<COMMISSIONS> 676,172
<INVESTMENT-BANKING-REVENUES> 122,180
<FEE-REVENUE> 278,288
<INTEREST-EXPENSE> 808,016
<COMPENSATION> 949,786
<INCOME-PRETAX> 290,219
<INCOME-PRE-EXTRAORDINARY> 290,219
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 176,349
<EPS-BASIC> 1.22
<EPS-DILUTED> 1.16
</TABLE>
