<PAGE>
P R O S P E C T U S S U P P L E M E N T
(To Prospectus dated September 30, 1999)
$700,000,000
[GRAPHIC OMITTED]
$200,000,000 101/4% Senior Notes due 2004
$500,000,000 101/2% Senior Notes due 2006
- --------------------------------------------------------------------------------
This is an offering by Sovereign Bancorp, Inc. of its 101/4% Senior Notes due
2004 and its 101/2% Senior Notes due 2006. Interest is payable on May 15 and
November 15 of each year, beginning May 15, 2000.
We may redeem some or all of the notes at any time at a price equal to 100% of
the principal amount plus accrued and unpaid interest, if any, to the date of
redemption plus a make-whole premium. The notes are subject to special
mandatory redemption if the New England acquisition is not consummated.
The notes will be unsecured senior obligations of Sovereign Bancorp and will
rank equally with all of our existing and future senior indebtedness. The notes
will effectively rank junior to all existing and future liabilities of
Sovereign Bank and our other subsidiaries, which conduct all of our operations.
Investing in the notes involves risks. Risk Factors begin on page S-25.
<PAGE>
<TABLE>
<CAPTION>
Proceeds
to
Price to Underwriting Sovereign
Public Discount Bancorp
---------------- -------------- ----------------
<S> <C> <C> <C>
Per 101/4% Senior Note ................... 100.000% 2.500% 97.500%
Total .................................... $200,000,000 $ 5,000,000 $195,000,000
Per 101/2% Senior Note ................... 100.000% 2.500% 97.500%
Total .................................... $500,000,000 $12,500,000 $487,500,000
------------ ----------- ------------
Combined Total (before expenses) ......... $700,000,000 $17,500,000 $682,500,000
</TABLE>
Interest on the notes will accrue from November 15, 1999 to the date of
delivery.
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of these securities or determined if
this prospectus supplement or the related prospectus is truthful or complete.
Any representation to the contrary is a criminal offense.
These securities are not savings or deposit accounts or other obligations of
any bank or nonbank subsidiary of Sovereign Bancorp, and they are not insured
by the Federal Deposit Insurance Corporation, the Savings Association Insurance
Fund or any other governmental agency.
The underwriters expect to deliver the notes to purchasers on or about November
15, 1999.
- --------------------------------------------------------------------------------
Joint Book-Running Managers
SALOMON SMITH BARNEY LEHMAN BROTHERS
November 9, 1999
<PAGE>
[COLOR MAP GOES HERE]
S-2
<PAGE>
This document is in two parts. The first part is this prospectus
supplement, which describes the terms of the offering of notes. The second part
is the accompanying prospectus, which gives more general information, some of
which may not apply to the notes. In this prospectus supplement, "we," "us" and
"our" refer to Sovereign Bancorp, Inc., and "Sovereign" collectively refers to
Sovereign Bancorp, Inc., Sovereign Bank and their other subsidiaries.
You should rely only on the information contained in or incorporated by
reference in this prospectus supplement and the accompanying prospectus. We
have not authorized anyone to provide you with different information. We are
not making an offer of these securities in any state where the offer is not
permitted. You should not assume that the information contained in or
incorporated by reference in this prospectus supplement or the accompanying
prospectus is accurate as of any date other than the date on the front cover of
this prospectus supplement.
TABLE OF CONTENTS
Prospectus Supplement
<TABLE>
<CAPTION>
Page
------
<S> <C>
Forward-Looking Statements .............................................................. S-4
Summary ................................................................................. S-7
Risk Factors ............................................................................ S-25
Description of the New England Acquisition .............................................. S-33
Use of Proceeds ......................................................................... S-35
Capitalization .......................................................................... S-35
Pro Forma and Forecasted Financial Information .......................................... S-37
Selected Sovereign Historical Financial Information ..................................... S-51
Management's Discussion and Analysis of Consolidated Financial Condition and Results of
Operations ............................................................................. S-54
Information Regarding the Loans and Deposits in the New England Acquisition ............. S-89
Business ................................................................................ S-91
Management .............................................................................. S-105
Description of Purchase and Assumption Agreement ........................................ S-108
Financing Transactions .................................................................. S-112
Description of Notes .................................................................... S-117
Certain United States Tax Considerations ................................................ S-153
Underwriting ............................................................................ S-156
Legal Matters ........................................................................... S-157
Experts ................................................................................. S-157
Index to Consolidated Financial Statements .............................................. F-1
Prospectus
Prospectus Summary ...................................................................... 2
Where You Can Find More Information ..................................................... 4
Forward-Looking Statements .............................................................. 5
Use of Proceeds ......................................................................... 6
Our Ratio of Earnings to Fixed Charges .................................................. 6
Description of Common Stock ............................................................. 7
Description of Preferred Stock .......................................................... 7
Description of Depositary Shares ........................................................ 9
Description of Debt Securities .......................................................... 12
Description of Warrants ................................................................. 24
Stock Purchase Contracts and Stock Purchase Units ....................................... 27
Description of Capital Securities ....................................................... 27
Description of Trust Preferred Securities and Trust Guarantees .......................... 31
Certain Tax Considerations .............................................................. 34
Plan of Distribution .................................................................... 34
ERISA Considerations .................................................................... 36
Legal Matters ........................................................................... 36
Experts ................................................................................. 36
</TABLE>
S-3
<PAGE>
FORWARD-LOOKING STATEMENTS
The Private Securities Litigation Reform Act of 1995 provides a safe
harbor for forward-looking statements made by us or on our behalf. The
forecasts, pro forma presentations, projections, and some of the other
disclosure in this prospectus supplement, the accompanying prospectus and in
the documents incorporated by reference, including any statements preceded by,
followed by or that include the words "may," "could," "should," "will,"
"would," "believe," "expect," "anticipate," "estimate," "intend," "plan,"
"assume" or similar expressions constitute forward-looking statements.
These forward-looking statements implicitly and explicitly include the
assumptions underlying the forecasts and projections and other statements with
respect to our beliefs, plans, objectives, goals, expectations, anticipations,
estimates, intentions, financial condition, results of operations, future
performance, and business, including:
o our plans for the financing to support the New England acquisition;
o our successful completion and integration of the New England
acquisition;
o the effect of the New England acquisition and related financing on our
financial condition, results of operation and prospects;
o our expectations as to the amount, mix, yield and other characteristics
of the deposits and loans we expect to assume and acquire from
Fleet/BankBoston; and
o our expectations and estimates with respect to our revenues, expenses,
earnings, return on equity, return on assets, efficiency ratio, asset
quality and other financial data and performance ratios after the New
England acquisition.
Although we believe that the expectations reflected in our forward-looking
statements are reasonable, these statements involve risks and uncertainties
which are subject to change based on various important factors (some of which
are beyond our control). The following factors, among others, could cause our
financial performance to differ materially from our goals, plans, objectives,
intentions, expectations, forecasts and projections (and underlying
assumptions), and other forward-looking statements:
Acquisition Specific Factors
o our ability to raise the capital necessary to support the New England
acquisition on a timely basis;
o our ability to otherwise complete the New England acquisition;
o our ability to retain Fleet/BankBoston customers and employees;
o our ability to integrate and convert loan, deposit and other systems in
connection with the New England acquisition to our systems and to
integrate operations on a timely and efficient basis, and to
cost-effectively process the New England deposits and other customer
transactions, especially given the large size of the New England
acquisition;
o the willingness of customers to substitute our products and services for
Fleet/BankBoston products and services and the impact of competition from
Fleet/BankBoston and others in the New England markets;
o changes in the timing and structure of the New England acquisition and
related transactions and other changed facts and circumstances resulting
from the passage of time;
Other Factors
o the strength of the United States economy in general and the strength of
the local economies in which we conduct operations;
o the effects of, and changes in, trade, monetary and fiscal policies and
laws, including interest rate policies of the Board of Governors of the
Federal Reserve System;
o inflation, interest rate, market and monetary fluctuations;
S-4
<PAGE>
o our timely development of competitive new products and services in a
changing environment and the acceptance of such products and services by
customers;
o the impact of changes in financial services laws and regulations,
including laws concerning taxes, banking, securities and insurance, and
the application thereof;
o technological changes;
o changes in consumer spending and savings habits;
o regulatory or judicial proceedings;
o the other risks set forth under "Risk Factors;" and
o the correctness of other assumptions in our pro forma and forecasted
financial information.
If one or more of the assumptions underlying our forward-looking
statements proves incorrect, then our actual results, performance or
achievements in 1999 and 2000 and beyond could differ materially from those
expressed in, or implied by, the forecasts, projections and other
forward-looking statements contained in this prospectus supplement and the
accompanying prospectus. Therefore, we caution you not to place undue reliance
on our forecasts, pro forma presentations, projections and underlying
assumptions and other forward-looking statements.
We do not intend to update forecasts, pro forma presentations, projections
and underlying assumptions or other forward-looking statements, whether written
or oral, to reflect changed assumptions, the pricing and mix of our debt and
equity, the occurrence of unanticipated events, changes in future operating
results or other facts and circumstances. All forward-looking statements
attributable to us are expressly qualified by these cautionary statements.
S-5
<PAGE>
(THIS PAGE INTENTIONALLY LEFT BLANK)
S-6
<PAGE>
SUMMARY
The following summary contains basic information about this offering. This
summary may not contain all of the information that is important to you. You
should carefully read this entire prospectus supplement, the accompanying
prospectus and the other documents we refer to for a more complete
understanding of this offering. In addition, we incorporate important business
and financial information in this prospectus supplement and the accompanying
prospectus by reference. You may obtain the information incorporated by
reference in this prospectus without charge by following the instructions in
the "Where You Can Find More Information" section of the accompanying
prospectus.
Sovereign Bancorp, Inc.
We are the holding company for our principal subsidiary, Sovereign Bank.
Our business consists primarily of attracting deposits from our network of
community banking offices, and originating small business and middle market
commercial and asset-based loans, consumer and residential mortgage loans and
home equity lines of credit.
o As of June 30, 1999, we had consolidated assets of $24.6 billion,
deposits of $12.2 billion and stockholders' equity of $1.4 billion.
o We currently operate 305 community banking offices in eastern and central
Pennsylvania, central New Jersey and northern Delaware.
o In terms of retail deposits, based on the most recently available data,
we are the 5th largest banking institution in eastern Pennsylvania, the
5th largest in New Jersey, and among the 50 largest in the United States.
o As of June 30, 1999, our non-performing assets as a percentage of total
assets was 0.36%.
o Since 1990, we have acquired 22 financial institutions, branch networks
and related businesses. Thirteen of these acquisitions, with assets
totaling approximately $13 billion, have been completed since 1995.
o From 1994 through 1998, our operating earnings per diluted share have
increased at an average annual rate of 18%. We believe that we have
achieved these results principally by our ability to successfully
complete and integrate our acquisitions.
o As of September 30, 1999, our directors, executive officers and employees
(through employee benefit plans) owned, after giving effect to the
exercise of both vested and non-vested options, approximately 18.25
million shares of our common stock, representing approximately 9.8% of
our outstanding shares after giving effect to the exercise of these
options.
Our principal executive offices are located at 2000 Market Street,
Philadelphia, Pennsylvania 19103, and our telephone number is (215) 557-4630.
S-7
<PAGE>
Our Business Strategy
As a result of continuing consolidation in the financial industry, we
believe that there is an increasing need for super-community banks throughout
the northeastern United States. We consider a super-community bank to be a bank
with the size and range of commercial, business and consumer products to
compete with larger institutions, but with the orientation to relationship
banking and personalized service usually found at smaller community banks.
In response to this need, in 1996 we initiated a strategy to transform
ourselves from a traditional mortgage lender into a super-community bank by:
o targeting small and medium size businesses through an offering of a
broader array of commercial and business banking products and services;
o changing the mix of our deposits and, while endeavoring to preserve our
credit quality, changing the mix of our assets to be more characteristic
of a commercial bank;
o increasing our penetration into larger, more densely populated markets in
the northeastern United States;
o preserving our orientation toward relationship banking and personalized
service, as well as our sales-driven culture; and
o increasing our non-interest income as a percentage of net income.
We have made significant progress toward achieving this transformation,
principally through a series of eight acquisitions. These acquisitions included
our 1997 acquisition of the Fleet Financial Group's New England and New
York-based Auto Finance Division, with approximately $2.0 billion in commercial
and consumer loans and an associated origination platform, and our 1998
acquisition from First Union/CoreStates of 93 branch offices principally in
Philadelphia and its suburbs, with approximately $2.2 billion in deposits and
approximately $725 million in commercial and consumer loans. We believe we have
succeeded in integrating these and other acquired operations into our sales and
service-oriented culture.
While pursuing our transformation, we believe we have also succeeded in
maintaining credit quality. As of June 30, 1999, our non-performing assets as a
percentage of total assets was 0.36%.
We believe that our pending New England acquisition is consistent with our
strategy and will enable us to accelerate and substantially complete our
transformation into a super-community bank.
S-8
<PAGE>
New England Acquisition
Overview
On September 3, 1999, we and Sovereign Bank entered into a purchase and
assumption agreement to acquire from Fleet Financial Group Inc., Fleet National
Bank, Fleet Bank-NH and BankBoston, N.A. (Fleet/BankBoston) certain branches,
assets and deposits in New England. We refer to this acquisition as our New
England acquisition. The divestiture of these branches was mandated by the U.S.
Department of Justice (DOJ) in connection with the Fleet/BankBoston merger to
help ensure a competitive banking environment in New England. We plan to
acquire Fleet/BankBoston's deposits, loans and branches in Rhode Island and
Connecticut (principally former BankBoston operations) and Massachusetts and
New Hampshire (principally former Fleet operations). The deposits, loans and
branches we are acquiring are primarily associated with the small business,
middle market and consumer banking markets.
Upon completion of this acquisition, we expect to operate the acquired
branches and associated lines of business as "Sovereign Bank New England," a
division of Sovereign Bank. Upon completion of the acquisition, on a pro forma
basis as of June 30, 1999, we estimate Sovereign Bank New England would have:
o approximately 268 bank branches and 532 ATMs in the demographically
attractive Massachusetts, New Hampshire, Rhode Island and Connecticut
markets;
o approximately $12 billion in deposits with less than 2.5% average cost,
of which approximately 70% will be core deposits (non-term demand and
savings deposits);
o approximately $8 billion in loans, none of which are more than 90 days
past due, consisting of commercial loans (approximately 46%), residential
loans (approximately 48%) and consumer loans (approximately 6%), with an
approximate 8.2% weighted average yield;
o approximately 700,000 customers and 1.7 million accounts;
o approximately 3,700 employees, whom we refer to as team members;
o business lines which we expect will generate significant recurring,
non-interest income; and
o consumer and small business commercial loan origination and
administration capability in New England.
We intend to retain and increase our new deposits, loans, customers and
accounts by:
o centralizing relevant management and decision making functions in New
England, staffed by executives who have experience in the New England
banking markets;
o offering products and services which are comparable to those of
Fleet/BankBoston and other institutions in the market;
o offering employment to substantially all of the Fleet/BankBoston
employees associated with the branches we expect to acquire, retaining
substantially all of the branch facilities and locations associated with
the acquired loans and deposits, and adding additional key personnel; and
o converting the Fleet/BankBoston loan, deposit and other systems to
Sovereign systems on a timely and efficient basis.
Our priority is to create seamless customer service, without disruption
from the acquisition, systems conversion or subsequent integration.
We expect the New England acquisition to close on or about April 28, 2000.
We have agreed to pay a premium of 12% on the amount of deposits transferred to
us at closing. This premium, which we expect will be about $1.4 billion, is
tax-deductible and should reduce the taxes we are required to pay over the next
15 years. We believe that the deposit premium is favorable when compared to
those in most of the other branch acquisitions we consider comparable.
S-9
<PAGE>
Benefits
Upon completion of the New England acquisition, we will have a banking
system extending from south of Philadelphia to north of Boston. If the New
England acquisition had been completed on June 30, 1999, we would have had
approximately:
o $35 billion in assets o 570 community banking offices
o $24 billion in deposits o 3.6 million customer accounts
o 8,000 team members
We believe that the New England acquisition will bring us the following
strategic benefits:
The acquisition will accelerate our transformation into a super-community
bank. We expect that the New England acquisition will accelerate our
transformation into a super-community bank and result in a loan and deposit mix
that is more characteristic of a commercial bank. After giving effect to the
New England acquisition, our loan and deposit mix will have changed
dramatically since we initiated our super-community bank strategy in 1996:
Loan Mix
At June 30, 1999, giving
At At pro forma effect to
December 31, 1995 June 30, 1999 New England acquisition
Residential 81% 40% 43%
Commercial 9% 26% 34%
Consumer 10% 34% 23%
Deposit Mix
At June 30, 1999, giving
At At pro forma effect to
December 31, 1995 June 30, 1999 New England acquisition
CD's 57% 47% 39%
Demand/NOW 10% 23% 28%
Other Core 23% 30% 33%
We believe that changes in our loan and deposit mix will help us:
o lower the cost of our total deposits;
o improve our net interest margin; and
o increase our non-interest income.
For information on the expected impact of the New England acquisition on
our results of operations, see "Summary Pro Forma and Forecasted Financial
Information."
S-10
<PAGE>
The acquisition should enhance our franchise. When added to our existing
branch system, we believe that the New England acquisition will give us a more
geographically diverse banking system with significant market share in certain
densely populated and demographically attractive markets in the northeastern
United States. After giving pro forma effect to the New England acquisition,
based on the most recently available data, we believe we would be, in terms of
deposits, the:
o 3rd largest retail banking franchise in New England;
o 3rd largest retail banking franchise in the Boston, Massachusetts
metropolitan statistical area with an 8.3% market share;
o 3rd largest retail banking franchise in the Providence, Rhode Island
metropolitan statistical area with a 10.4% market share;
o 3rd largest retail banking franchise in the Hartford, Connecticut
metropolitan statistical area with a 5.4% market share;
o 5th largest retail banking franchise in New Hampshire with a 3.8% market
share;
o 5th largest retail banking franchise in eastern Pennsylvania with a 4.2%
market share; and
o 5th largest retail banking franchise in New Jersey with a 5.3% market
share.
The acquisition is consistent with the four factors we believe are
critical to our continuing success.
o Superior Asset Quality -- Fleet/BankBoston is required to transfer to us
only loans which are not more than 90 days past due. Through the
acquisition, we are also increasing the geographic diversity of our credit
profile.
o Low Interest Rate Risk -- We expect that, on a pro forma basis as of June
30, 1999, the New England acquisition would reduce our borrowings from
approximately 46% of liabilities to approximately 25% of liabilities and
increase our core deposits from approximately 53% of total deposits to
approximately 61% of total deposits.
o High Productivity -- We intend to operate Sovereign Bank New England
similarly to our current branch network and operating platforms without
layers of bureaucracy. We intend to keep our efficiency ratio at, or
better than, industry standards.
o Sales, Service, and Growth of Our Team Members -- We believe that many of
the employees who will join us come from a high service culture similar to
ours.
The acquisition should increase the breadth and depth of our management.
We expect to offer employment to senior, middle and relationship level managers
with commercial banking experience in New England, including the credit risk,
loan review, systems and operations areas. In addition, we have hired
additional management personnel in the technology area and plan to expand our
management personnel in the risk management, commercial lending and finance
areas.
S-11
<PAGE>
Financing
We believe we will need to raise approximately $1.75 billion of capital to
ensure that Sovereign Bank is well capitalized upon completion of the
acquisition. See "Business -- Supervision and Regulation -- Regulatory Capital
Requirements."
The following illustrates the anticipated sources and uses of our capital
raising activities without regard to the possible exercise by the underwriters
of their over-allotment options (in millions):
<TABLE>
<CAPTION>
Sources Uses
- ---------------------------------------------- ----------------------------------------------------
<S> <C> <C> <C> <C>
Senior Notes ...................... $ 700 Investment in Bank .................... $1,750
Senior Credit Facility ............ 500 Deposit Premium ............. $1,400
Common Stock ...................... 300 Additional Capital .......... $ 350
Units of Trust Preferred Securities
and Warrants .................... 250
------
$1,750 $1,750
</TABLE>
Our expectation that we need $1.75 billion (which includes approximately
$60 million of fees and expenses we expect to pay in connection with raising
capital from the sources set forth above) to maintain Sovereign Bank's well
capitalized status is based on our assumptions relating to the composition of
our balance sheet and the amount of deposits and the mix of cash and loans to
be transferred to us upon completion of the New England acquisition. Our
earnings level, the extent of deposit withdrawals or "run-off," and
Fleet/BankBoston's option to transfer certain additional branches to us are
some of the factors that could change these assumptions. To the extent these
assumptions change, we may need to raise more or less capital. Independent of
changes in these assumptions, we may also decide to ultimately raise different
types or amounts of capital to support the acquisition or for a variety of
other reasons, including to increase our tangible equity. See "Financing
Transactions," "Capitalization" and "Risk Factors."
S-12
<PAGE>
Recent Developments
On October 18, 1999, we reported our results for the three and nine-month
periods ended September 30, 1999 as follows:
As of As of
September 30, 1999 September 30, 1998
-------------------- -------------------
Balance Sheet Data
- ------------------------------ (in thousands)
Total assets ................. $25,243,716 $21,496,822
Loans ........................ 13,420,525 11,334,820
Deposits ..................... 11,883,101 12,369,323
Stockholders' equity ......... 1,444,071 1,147,222
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
Income Statement Data 1999 1998 1999 1998
- ----------------------------------------------------- ------------- ------------- ------------- -------------
(in thousands)
<S> <C> <C> <C> <C>
Net interest income ................................. $ 161,868 $ 121,247 $ 449,068 $ 360,896
Provision for loan losses ........................... 7,500 7,001 22,500 20,961
Other income ........................................ 34,951 25,746 100,545 73,305
General and administrative expenses ................. 90,803 66,406 260,444 195,728
Other expenses(1) ................................... 13,040 18,618 37,215 70,501
--------- --------- --------- ---------
Income before income taxes .......................... 85,476 54,968 229,454 147,011
Income tax provision ................................ 29,488 20,178 79,376 54,227
--------- --------- --------- ---------
Net income .......................................... $ 55,988 $ 34,790 $ 150,078 $ 92,784
========= ========= ========= =========
Earnings per diluted share .......................... $ 0.31 $ 0.22 $ 0.89 $ 0.58
========= ========= ========= =========
Net income before special charges(1) (2) ............ $ 55,988 $ 42,781 $ 150,078 $ 126,317
Operating earnings per diluted share(1) (2) ......... $ 0.31 $ 0.27 $ 0.89 $ 0.79
Cash operating earnings per diluted
share(1) (3) ...................................... $ 0.35 $ 0.29 $ 1.02 $ 0.86
</TABLE>
- -------------
(1) Special charges for the three-month period ended September 30, 1998 include
merger charges of $10.9 million ($7.8 million after-tax) from our
acquisitions of Carnegie Bancorp and First Home Bancorp during the third
quarter of 1998. Special charges for the nine-month period ended September
30, 1998 also include merger charges of $39.1 million ($25.5 million
after-tax) and losses from non-recurring sales of held-to-maturity
securities of $0.5 million ($0.3 million after-tax) related to our
acquisition of ML Bancorp, Inc. during the first quarter of 1998, in
addition to the merger charges for Carnegie Bancorp and First Home Bancorp
described above.
(2) Operating earnings per diluted share represent net income before the
after-tax effect of merger-related and special charges divided by
weighted-average diluted shares outstanding during the period.
(3) Cash operating earnings per diluted share represent income before the
after-tax effect of merger-related and special charges and the after-tax
effect of intangible amortization and ESOP expense divided by
weighted-average diluted shares outstanding during the period.
S-13
<PAGE>
The Offering
Issuer................... Sovereign Bancorp, Inc.
Notes Offered............ $200,000,000 aggregate principal amount of 101/4%
Senior Notes due 2004 and $500,000,000 aggregate
principal amount of 101/2% Senior Notes due 2006.
Maturity Dates........... May 15, 2004, and November 15, 2006.
Interest Payment Dates... May 15 and November 15 of each year, commencing
May 15, 2000.
Guarantees............... The notes will be guaranteed on an unsecured
senior basis by certain of our future material
domestic subsidiaries, excluding banking
institutions and their subsidiaries and certain
special purpose trusts. See "Description of Notes --
Subsidiary Guaranties."
Sinking Fund............. None.
Special Mandatory
Redemption................. The notes are subject to special mandatory
redemption in the event that the New England
acquisition is not consummated by July 31, 2000, the
New England acquisition is abandoned or if the
purchase and assumption agreement is terminated. The
mandatory redemption price is 102% of the aggregate
principal amount of the notes, plus accrued and
unpaid interest.
Initial Escrow
of Proceeds.............. We will deposit with an escrow agent an amount
sufficient to pay the mandatory redemption price for
the notes. These funds will be used to support the
New England acquisition or to fund the mandatory
redemption. See "Description of Notes -- Escrow of
Proceeds; Special Mandatory Redemption."
Optional Redemption...... We may redeem some or all of the notes at any time
by paying a price equal to 100% of the principal
amount plus accrued and unpaid interest, if any, to
the date of redemption plus a make-whole premium.
See "Description of Notes--Optional Redemption."
Change of Control........ Upon a change of control, as defined under the
indenture for the notes, you will have the right to
require us to repurchase all or a portion of your
notes at a price equal to 101% of the principal
amount, plus accrued and unpaid interest. See
"Description of Notes--Repurchase at the Option of
Holders Upon a Change of Control."
Ranking.................. The notes will be unsecured senior obligations.
The notes will rank:
o equal with any existing and future senior debt,
and
o senior to any existing and future subordinated
debt.
S-14
<PAGE>
Upon completion of the New England acquisition
pursuant to the financing plans described in this
prospectus supplement, including this notes
offering, on a pro forma basis at June 30, 1999:
o our total outstanding holding company debt would
have been approximately $1.6 billion; and
o $97.0 million of our holding company debt would
have been subordinated to the notes.
All our operations are conducted through Sovereign
Bank and our other subsidiaries, and our ability to
pay the notes will depend on distributions from
Sovereign Bank and our other subsidiaries. The
notes will be structurally subordinated to all
present and future debt and other liabilities of
Sovereign Bank and our other subsidiaries and any
future non-guarantor subsidiaries. Upon completion
of the New England acquisition pursuant to the
financing plans described in this prospectus
supplement, including this notes offering, on a pro
forma basis at June 30, 1999, the total balance
sheet liabilities (excluding deposits) of Sovereign
Bank and our other existing subsidiaries would have
been $6.8 billion.
Certain Covenants........ The indenture for the notes limits our ability to,
among other things:
o incur additional debt;
o make loans and investments;
o pay dividends or other distributions to
stockholders;
o create additional liens on our assets;
o restrict distributions from subsidiaries;
o engage in transactions with our affiliates;
o consolidate, merge or transfer all or
substantially all our assets; or
o change lines of business.
All of these limitations will be subject to a
number of important qualifications. The covenants
will not restrict Sovereign Bank from assuming
deposit liabilities, making loans, advances and
other investments, incurring debt or liens or
otherwise operating in the ordinary course of
business. Under the indenture, we must also keep
Sovereign Bank well capitalized. See "Description
of Notes--Certain Covenants."
Use of Proceeds.......... The net proceeds to us from the offering will be
approximately $682.5 million. We will use the net
proceeds from the offering, together with the
proceeds from our other financing plans as described
in "Financing Transactions," to support the New
England acquisition and ensure that Sovereign Bank
remains well capitalized upon consummation of the
New England acquisition.
S-15
<PAGE>
Other Offerings
We are also offering common stock and investment units consisting of trust
preferred securities and detachable warrants to acquire common stock, each in
separate public offerings pursuant to separate prospectus supplements. The
completion of this offering of notes and the offerings of common stock and
units of trust preferred securities are not conditioned upon each other. This
prospectus supplement relates only to the offering of notes and not to the
offering of common stock or the units of trust preferred securities.
Risk Factors
Potential investors should carefully consider all of the information in
this prospectus supplement and the accompanying prospectus. In particular,
potential investors should evaluate the specific factors under "Risk Factors"
for risks involved with a purchase of our notes.
S-16
<PAGE>
Summary Pro Forma and Forecasted Financial Information
The following tables provide certain summary unaudited pro forma condensed
combined balance sheet information and certain selected forecasted financial
information, prepared as if the New England acquisition and the related
financings were completed at the close of business on June 30, 1999.
This information is based on data relating to the assets we expect to
acquire and deposits we expect to assume in connection with the New England
acquisition and is derived from deposit and loan schedules provided by
Fleet/BankBoston as of June 30, 1999. The assets we expect to acquire or
liabilities we expect to assume may change materially between June 30, 1999 and
the date of the New England acquisition as a result of many factors, including
changes in interest rates, deposit withdrawals, loan originations and
repayments, other changes in assets and refinancings, as well as changes in our
agreement with Fleet/BankBoston. Bank assets and liabilities are inherently
subject to constant qualitative and quantitative changes, and the amount, mix,
yield and other characteristics of the New England deposits and loans will be
different from that presented below. We cannot predict what these differences
will be.
The selected forecasted financial information was prepared by us in
connection with this offering in partial compliance with the presentation
guidelines of the American Institute of Certified Public Accountants regarding
prospective financial statements. A forecast prepared in accordance with the
American Institute of Certified Public Accountants presentation guidelines
requires the forecast period to encompass a period for which actual results
could be attained. Because the forecasted financial information assumes that
the New England acquisition was consummated on June 30, 1999, rather than the
actual expected consummation date of April 28, 2000, the forecast period
presented, July 1, 1999 through June 30, 2000, is only in partial compliance
with the requirements of the American Institute of Certified Public
Accountants. Other than the forecast period used, we believe the forecast is in
compliance with the American Institute of Certified Public Accountants
guidelines. We selected the twelve-month period ended June 30, 2000 as the
forecast period because June 30, 1999 is the most recent date for which there
is full balance sheet data available with respect to Sovereign and certain
information available with respect to the Fleet/BankBoston loans to be acquired
and deposits to be assumed. We have included the forecast in this prospectus
supplement solely for the limited purpose of assisting prospective investors in
analyzing the potential risks and benefits of an investment in our common
stock, and we are solely responsible for its presentation.
THE ASSUMPTIONS UNDERLYING THE FORECAST ARE INHERENTLY UNCERTAIN AND ARE
SUBJECT TO SIGNIFICANT BUSINESS, ECONOMIC AND COMPETITIVE UNCERTAINTIES, MANY
OF WHICH ARE BEYOND OUR CONTROL. THERE CAN BE NO ASSURANCE THAT THE FORECASTED
FINANCIAL RESULTS WILL BE REALIZED. OUR ACTUAL RESULTS IN THE FUTURE WILL
DIFFER FROM THE FORECASTED RESULTS AND THE DIFFERENCES MAY BE MATERIAL. WE DO
NOT INTEND TO UPDATE THE FORECAST.
FOR PURPOSES OF THE FORECAST, WE HAVE ASSUMED THE ISSUANCE OF
APPROXIMATELY 32 MILLION SHARES OF COMMON STOCK AT AN OFFERING PRICE OF $9.36
PER SHARE, WHICH WAS THE LAST REPORTED SALE PRICE ON THE NASDAQ NATIONAL MARKET
ON OCTOBER 11, 1999. THE ACTUAL NUMBER OF SHARES TO BE ISSUED IN THE OFFERING
OF COMMON STOCK IS 38,095,238 SHARES AT A PUBLIC OFFERING PRICE OF
APPROXIMATELY $7.88 PER SHARE. THE INCREASE IN THE ACTUAL NUMBER OF SHARES
ISSUED, COMBINED WITH THE DIFFERENCE BETWEEN ASSUMED AND ACTUAL TERMS OF OUR
OTHER FINANCINGS, RESULTS IN A DECREASE IN FORECASTED NET INCOME AND FORECASTED
GAAP EARNINGS PER DILUTED SHARE OF $882,000 AND $0.04, RESPECTIVELY, FROM THE
AMOUNTS PRESENTED IN THE FORECAST.
S-17
<PAGE>
Because the New England acquisition is not an acquisition of a going
business or other discrete operating unit, there is no historical financial
information (other than that presented herein) available with respect to the
assets and liabilities we expect to acquire. See "Information Regarding the
Loans and Deposits in the New England Acquisition." In addition, the exact
amount, mix, yield and other characteristics of the deposits and loans we will
assume and acquire from Fleet/BankBoston cannot be determined until we actually
consummate the acquisition. Accordingly, the assumptions underlying the
forecast are subject to a greater degree of uncertainty. Potential investors
are cautioned not to place undue reliance on the forecast and should make their
own independent assessment of our future results of operations, cash flows and
financial condition. The forecast should not be relied upon for any purpose
following completion of the offering. You should carefully review the
assumptions reflected in the forecast. See "Pro Forma and Forecasted Financial
Information -- Summary of Significant Assumptions to Forecasted Financial
Information." The forecasted financial information is presented for the
twelve-month period ended June 30, 2000. After completion of the New England
acquisition, results of operations for twelve-month periods will be presented
for the years ended December 31, rather than June 30. In addition, we do not
expect to close the New England acquisition until on or about April 28, 2000.
Therefore, the forecast does not reflect any period for which we report
operating results.
The pro forma balance sheet information and the forecasted information
constitute forward-looking statements within the meaning of the Private
Securities Litigation Act of 1995. See also "Risk Factors" and "Forward-Looking
Statements."
S-18
<PAGE>
Summary Unaudited Pro Forma Condensed Combined Balance Sheet Data
<TABLE>
<CAPTION>
As of June 30, 1999
---------------------------------------------------------------------
Adjustments(1)
----------------------------------
Sovereign New England Other
Historical Acquisition Adjustments Pro Forma
--------------- ---------------- ---------------- --------------
(dollars in thousands, except share data)
<S> <C> <C> <C> <C>
Selected Balance Sheet Data
Assets
Cash and amounts due from depository
institutions .................................... $ 472,780 $ 2,097,793 $ (1,967,793) $ 602,780
Interest-earning deposits ......................... 125,194 125,194
Loans held for sale ............................... 86,139 86,139
Investments and mortgage-backed securities ........ 9,996,081 9,996,081
Loans ............................................. 12,476,997 7,994,282 (85,302) 20,385,977
Allowance for loan losses ......................... (134,183) (103,926) (238,109)
Other intangible assets ........................... 236,222 411,304 647,526
Goodwill .......................................... 198,626 1,017,910 216,728 1,433,264
Other assets ...................................... 1,136,181 388,830 34,500 1,559,511
----------- ------------ ------------ -----------
Total assets ................................... $24,594,037 $ 11,910,119 $ (1,905,793) $34,598,363
=========== ============ ============ ===========
Liabilities
Deposits .......................................... $12,170,470 $ 11,910,119 $24,080,589
Borrowings
Short-term ...................................... 6,177,950 $ (3,618,494) 2,559,456
Long-term ....................................... 4,105,957 4,105,957
Senior credit facility ............................ 500,000 500,000
Senior notes ...................................... 287,539 700,000 987,539
Subordinated debentures ........................... 97,039 97,039
Other liabilities ................................. 176,187 (8,750) 167,437
----------- ------------ -----------
Total liabilities .............................. 23,015,142 11,910,119 (2,427,244) 32,498,017
Corporation-obligated mandatorily redeemable
capital securities of subsidiary trust holding
solely junior subordinated debentures of
Sovereign Bancorp, Inc. ........................... 129,094 162,500 291,594
----------- ------------ -----------
Stockholders' equity ............................... 1,449,801 358,951 1,808,752
----------- ------------ -----------
Total liabilities and stockholders' equity...... $24,594,037 $ 11,910,119 $ (1,905,793) $34,598,363
=========== ============ ============ ===========
Selected Share Data
Diluted shares outstanding (in thousands) .......... 182,867 38,095 220,962
Book value per share ............................... $ 8.01 $ 8.26
Selected Bank Regulatory Capital Ratios(2)
Tangible capital ratio ............................. 5.89% 4.62%
Core capital ratio ................................. 5.89% 4.62%
Tier 1 capital ratio ............................... 10.37% 7.93%
Total risk-based capital ratio ..................... 11.32% 9.16%
Selected Other Data
Non-performing assets as % of total assets (3) ..... 0.36% 0.26%
Loan loss allowance as % of total loans ............ 1.08% 1.17%
Deposit mix %
Demand and NOW .................................... 23.3 % 32.6% 27.9 %
Other core ........................................ 30.1 % 36.4% 33.2 %
Time deposits ..................................... 46.6 % 31.0% 38.9 %
Loan mix %
Commercial ........................................ 26.0 % 46.3% 33.9 %
Consumer .......................................... 33.6 % 6.4% 23.2 %
Residential ....................................... 40.4 % 47.3% 42.9 %
Number of branches ................................. 305 268 573
</TABLE>
- -------------
(1) For information regarding the adjustments, see notes to "Pro Forma and
Forecasted Financial Information -- Unaudited
Pro Forma Condensed Combined Balance Sheet."
(2) For a description of the bank regulatory capital ratios, see "Business --
Supervision and Regulation -- Regulatory Capital Requirements."
(3) Non-performing assets as a percentage of total assets is calculated based
on the loan portfolio we expect to purchase at the date of acquisition,
which will not include any non-performing loans as part of the
transaction. It is expected that non-performing assets as a percentage of
assets will increase as the loans acquired become more seasoned and as we
originate new loans in New England.
S-19
<PAGE>
Selected Forecasted Financial Information
<TABLE>
<CAPTION>
As of or
for the Twelve Months
Ended June 30, 2000(1)
-----------------------
(dollars in thousands,
except share data)
<S> <C> <C>
Summary Statement of Operations
Total interest income ................................................ $ 2,372,989
Total interest expense ............................................... 1,273,668
-----------
Net interest income .................................................. 1,099,321
Provision for loan losses ............................................ 58,621
-----------
Net interest income after provision for loan losses .................. 1,040,700
Other income ......................................................... 309,347
Other expenses ....................................................... 886,646
Merger-related charges(2) ............................................ 42,000
-----------
Income before income taxes ........................................... 421,401
Income tax provision ................................................. 146,615
-----------
Net income ........................................................... $ 274,786
===========
Selected Share Data
Diluted common shares outstanding (in thousands) ..................... 214,920
GAAP earnings per diluted share(3) ................................... $ 1.28
Operating earnings per diluted share(4)(5) ........................... 1.41
Cash operating earnings per diluted share(5)(6) ...................... 1.97
Revenues per diluted share(5)(7) ..................................... 6.55
Book value per share(8) .............................................. 9.40
Selected Performance Ratios
Return on average assets(9) .......................................... 0.85%
Return on average stockholders' equity(10) ........................... 15.85%
Cash operating return on average stockholders' equity(5)(11) ......... 22.23%
Yield on interest-earning assets(12) ................................. 7.52%
Cost of interest-bearing liabilities(13) ............................. 3.85%
Net interest margin(14) .............................................. 3.48%
Efficiency ratio(15) ................................................. 48.99%
Other income as % of total income .................................... 21.96%
Non-performing assets as % of total assets(16) ....................... 0.25%
Loan loss allowance as % of total loans .............................. 1.04%
Selected Holding Company Information
Total long-term debt ................................................. $ 1,588,000
Total cash interest expense .......................................... 148,461
EBITA(5)(17) ......................................................... 754,007
EBITA/cash interest expense .......................................... 5.1 x
Selected Balance Sheet Data
Loans (net of allowance) ............................................. $23,005,325
Investment and mortgage-backed
securities .......................................................... 9,219,818
Total assets ......................................................... 36,132,205
Deposits ............................................................. 24,106,921
Borrowings ........................................................... 9,647,975
Stockholders' equity ................................................. 2,002,572
</TABLE>
- -------------
(1) For information regarding the assumptions reflected in the forecast, see
"Pro Forma and Forecasted Financial Information -- Summary of Significant
Assumptions to Forecasted Financial Information."
(2) We expect to record approximately $42 million of merger integration and
other related expenses.
(3) Generally Accepted Accounting Principles (GAAP) earnings per diluted share
represent net income divided by weighted-average diluted shares
outstanding during the period.
(4) Operating earnings per diluted share represent net income before the
after-tax effect of merger-related charges divided by weighted-average
diluted shares outstanding during the period.
S-20
<PAGE>
(5) This measure of financial performance should be considered in addition to,
but not as a substitute for, basic earnings per share, earnings per
diluted share, cash flow from operations and other measures of financial
performance prepared in accordance with GAAP which are presented in the
financial statements included in this prospectus supplement. Additionally,
our calculation of this measure of financial performance may be different
from calculations used by other companies and therefore comparability may
be affected.
(6) Cash operating earnings per diluted share represent income before the
after-tax effect of merger-related charges and the after-tax effect of
intangible amortization and ESOP expense, divided by weighted-average
diluted shares outstanding during the period.
(7) Revenues per diluted share represent the sum of net interest income and
other income divided by weighted-average diluted shares outstanding during
the period.
(8) Book value per share represents common stockholders' equity divided by
common shares outstanding at the end of the period.
(9) Return on average assets represents net income before the after-tax effect
of merger-related charges as a percentage of average assets for the period
presented.
(10) Return on average stockholders' equity represents net income before the
after-tax effect of merger-related charges as a percentage of average
common equity for the period presented.
(11) Cash operating return on average stockholders' equity represents income
before the after-tax effect of merger-related charges and the after-tax
effect of intangible amortization and ESOP expense, as a percentage of
average common equity for the period presented.
(12) Yield on interest-earning assets represents interest income as a
percentage of average interest-earning assets.
(13) Cost of interest-bearing liabilities represents interest expense as a
percentage of average interest-bearing liabilities.
(14) Net interest margin represents net interest income as a percentage of
average interest-earning assets.
(15) Efficiency ratio represents other expenses reduced by intangible
amortization, trust preferred expense, other real estate owned (OREO)
gains and losses and non-recurring items as a percentage of net interest
income plus other income.
(16) Non-performing assets as a percentage of total assets is calculated based
on the loan portfolio we expect to purchase at the date of acquisition,
which will not include any non-performing loans as part of the
transaction. It is expected that non-performing assets as a percentage of
assets will increase as the loans acquired become more seasoned and as we
originate new loans in New England.
(17) EBITA represents income before income taxes, interest on holding company
debt and amortization of intangible assets. EBITA is presented
supplementally because we believe it is an appropriate financial
indicator of a holding company's ability to service and incur
indebtedness, subject in our case to certain regulatory limitations on
Sovereign Bank's ability to pay dividends to us. See "Business --
Supervision and Regulation -- Limitations on Dividends and Other Capital
Distributions."
S-21
<PAGE>
Summary Sovereign Historical Financial Information
The following table sets forth summary historical consolidated financial
information for Sovereign for the periods indicated. The information as of and
for each of the three years ended December 31, 1998, 1997 and 1996 has been
derived from our audited consolidated financial statements. The information as
of and for each of the six-month periods ended June 30, 1999 and 1998 has been
derived from our unaudited condensed consolidated financial statements. In the
opinion of our management, the information as of and for each of the six-month
periods ended June 30, 1999 and 1998 includes all normal recurring adjustments
necessary to present fairly this information.
The results of operations for the six-month period ended June 30, 1999
should not be regarded as indicative of expected results for the full year.
This data does not give effect to the New England acquisition or the financings
required to provide the capital necessary to support the acquisition.
The balance sheet and related information as of June 30, 1999 includes the
consolidated accounts of Peoples Bancorp, Inc. which we acquired at the close
of business on June 30, 1999. Because our acquisition of Peoples Bancorp was
accounted for as a purchase, our consolidated results of operations and other
related information for the six-month period ended June 30, 1999 do not include
Peoples Bancorp's results of operations. For the three months ended March 31,
1999, Peoples Bancorp had net income of $4.7 million.
S-22
<PAGE>
<TABLE>
<CAPTION>
As of or for
the Six Months Ended June 30,
--------------------------------
1999(1) 1998(1)
--------------- ---------------
(dollars in thousands, except
share data)
<S> <C> <C>
Summary Statement of Operations
Total interest income ................................... $ 745,472 $ 655,972
Total interest expense .................................. 458,272 416,323
----------- -----------
Net interest income ..................................... 287,200 239,649
Provision for loan losses(2) ............................ 15,000 13,960
----------- -----------
Net interest income after provision for loan losses ..... 272,200 225,689
Other income(2) ......................................... 65,594 47,559
Other expenses(2) ....................................... 193,814 142,133
Merger-related charges(2) ............................... 39,072
Non-recurring SAIF assessment(2) ........................
Income before income taxes .............................. 143,980 92,043
Income tax provision .................................... 49,888 34,049
----------- -----------
Net income .............................................. $ 94,092 $ 57,994
=========== ===========
Selected Share Data
Period end common shares outstanding
(in thousands) ......................................... 180,977 158,274
GAAP earnings per diluted share(3) ...................... $ 0.58 $ 0.36
Operating earnings per diluted share(4)(5) .............. 0.58 0.52
Cash operating earnings per diluted share(5)(6) ......... 0.67 0.57
Book value per share(7) ................................. 8.01 7.04
Revenues per diluted share(5)(8) ........................ 2.19 1.78
Selected Performance Ratios
Return on average assets(9) ............................. 0.84% 0.91%
Return on average stockholders' equity(5)(10) ........... 15.91% 15.96%
Cash operating return on average stockholders'
equity(5)(11) .......................................... 18.08% 17.17%
Yield on interest-earning assets(12) .................... 7.32% 7.67%
Cost of interest-bearing liabilities(13) ................ 4.33% 4.87%
Net interest margin(14) ................................. 2.86% 2.84%
Efficiency ratio(15) .................................... 48.08% 45.65%
Other income as % total income .......................... 18.59% 16.56%
Non-performing assets as % of total assets .............. 0.36% 0.56%
Loan loss allowance as % of total loans ................. 1.08% 1.11%
Bank Regulatory Capital Ratios(16)
Tangible capital ratio .................................. 5.89% 5.19%
Core capital ratio(17) .................................. 6.35% 5.36%
Tier 1 capital ratio .................................... 10.37% 9.95%
Total risk-based capital ratio .......................... 11.32% 10.94%
Selected Balance Sheet Data
Loans (net of allowance) ................................ $12,342,814 $10,520,927
Investment and mortgage-backed securities ............... 9,996,081 7,329,657
Total assets ............................................ 24,594,037 19,781,106
Deposits ................................................ 12,170,470 9,980,685
Borrowings .............................................. 10,668,485 8,240,370
Stockholders' equity .................................... 1,449,801 1,113,953
Selected Other Data
EBITA(5)(18) ............................................ $ 176,747 $ 104,136
Number of branches ...................................... 305 150
Ratio of earnings to fixed charges(19)
Excluding interest on deposits ......................... 1.57 x 1.42 x
Including interest on deposits ......................... 1.31 x 1.22 x
Ratio of earnings to combined fixed charges and
preferred stock dividends(20)
Excluding interest on deposits ......................... 1.57 x 1.41 x
Including interest on deposits ......................... 1.31 x 1.21 x
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
As of or for
the Year Ended December 31,
-------------------------------------------------
1998 1997 1996
--------------- --------------- ---------------
(dollars in thousands, except share data)
<S> <C> <C> <C>
Summary Statement of Operations
Total interest income ................................... $ 1,355,371 $ 1,178,777 $ 1,016,826
Total interest expense .................................. 861,759 746,695 629,860
----------- ----------- ------------
Net interest income ..................................... 493,612 432,082 386,966
Provision for loan losses(2) ............................ 27,961 41,125 22,685
----------- ----------- ------------
Net interest income after provision for loan losses ..... 465,651 390,957 364,281
Other income(2) ......................................... 105,181 48,688 63,379
Other expenses(2) ....................................... 309,694 250,559 249,625
Merger-related charges(2) ............................... 49,932 19,224
Non-recurring SAIF assessment(2) ........................ 40,148
------------
Income before income taxes .............................. 211,206 169,862 137,887
Income tax provision .................................... 74,751 67,324 47,509
----------- ----------- ------------
Net income .............................................. $ 136,455 $ 102,538 $ 90,378
=========== =========== ============
Selected Share Data
Period end common shares outstanding
(in thousands) ......................................... 159,727 141,218 134,000
GAAP earnings per diluted share(3) ...................... $ 0.85 $ 0.66 $ 0.59
Operating earnings per diluted share(4)(5) .............. 1.06 0.89 0.76
Cash operating earnings per diluted share(5)(6) ......... 1.17 1.03 0.87
Book value per share(7) ................................. 7.54 7.42 6.64
Revenues per diluted share(5)(8) ........................ 3.71 3.08 2.96
Selected Performance Ratios
Return on average assets(9) ............................. 0.87% 0.85% 0.81%
Return on average stockholders' equity(5)(10) ........... 15.50% 14.83% 13.18%
Cash operating return on average stockholders'
equity(5)(11) .......................................... 17.13% 17.08% 15.17%
Yield on interest-earning assets(12) .................... 7.57% 7.57% 7.49%
Cost of interest-bearing liabilities(13) ................ 4.76% 4.92% 4.77%
Net interest margin(14) ................................. 2.79% 2.79% 2.86%
Efficiency ratio(15) .................................... 46.59% 46.07% 51.34%
Other income as % total income .......................... 17.57% 10.13% 14.07%
Non-performing assets as % of total assets .............. 0.53% 0.61% 0.78%
Loan loss allowance as % of total loans ................. 1.19% 1.03% 0.77%
Bank Regulatory Capital Ratios(16)
Tangible capital ratio .................................. 5.11% 5.23% 5.16%
Core capital ratio(17) .................................. 5.21% 5.75% 5.17%
Tier 1 capital ratio .................................... 9.29% 10.37% 10.63%
Total risk-based capital ratio .......................... 10.32% 12.96% 13.71%
Selected Balance Sheet Data
Loans (net of allowance) ................................ $11,152,038 $11,207,299 $ 9,521,648
Investment and mortgage-backed securities ............... 8,502,082 5,372,713 5,012,118
Total assets ............................................ 21,913,873 17,655,455 15,298,690
Deposits ................................................ 12,322,716 9,515,294 8,660,684
Borrowings .............................................. 7,900,592 6,863,643 5,599,109
Stockholders' equity .................................... 1,204,068 1,047,795 889,751
Selected Other Data
EBITA(5)(18) ............................................ $ 248,245 $ 195,881 $ 168,186
Number of branches ...................................... 291 150 134
Ratio of earnings to fixed charges(19)
Excluding interest on deposits ......................... 1.48 x 1.44 x 1.49 x
Including interest on deposits ......................... 1.24 x 1.22 x 1.22 x
Ratio of earnings to combined fixed charges and
preferred stock dividends(20)
Excluding interest on deposits ......................... 1.47 x 1.41 x 1.44 x
Including interest on deposits ......................... 1.24 x 1.21 x 1.20 x
</TABLE>
S-23
<PAGE>
(1) Selected performance ratios for June 30, 1999 and 1998 have been
annualized where applicable.
(2) Our 1998 and 1997 results include special charges comprised of:
merger-related charges of $49.9 million ($33.5 million after-tax) in 1998
and $44.1 million ($29.8 million after-tax), including $24.9 million
($16.2 million after-tax) classified as a special provision for loan loss,
in 1997, resulting from our acquisitions during 1998 and 1997; and losses
from non-recurring sales of held-to-maturity securities of $0.4 million
($0.3 million after-tax) and $10.0 million ($6.9 million after-tax) in
1998 and 1997, respectively (classified as security losses); and the 1996
results include the non-recurring SAIF assessment of $40.1 million ($24.9
million after-tax), classified in other expenses. Our six months ended
June 30, 1998 results include special charges comprised of merger-related
charges of $39.1 million ($25.5 million after-tax), resulting from our
acquisition of ML Bancorp, Inc. in February 1998 classified as other
expenses.
(3) GAAP earnings per diluted share represent net income divided by
weighted-average diluted shares outstanding during the period.
(4) Operating earnings per diluted share represent net income before the
after-tax effect of special charges, divided by weighted-average diluted
shares outstanding during the period.
(5) This measure of financial performance should be considered in addition to,
but not as a substitute for, basic earnings per share, earnings per
diluted share, cash flow from operations and other measures of financial
performance prepared in accordance with GAAP which are presented in the
financial statements included in this prospectus supplement. Additionally,
our calculation of this measure of financial performance may be different
from the calculation used by other companies and therefore comparability
may be affected.
(6) Cash operating earnings per diluted share represent income before the
after-tax effect of special charges and the after-tax effect of intangible
amortization and ESOP expense, divided by weighted-average diluted shares
outstanding during the period.
(7) Book value per share represents common stockholders' equity divided by
common shares outstanding at the end of the period.
(8) Revenues per diluted share represent the sum of net interest income and
other income, before special charges, divided by weighted-average diluted
shares outstanding during the period.
(9) Return on average assets represents net income available to common
stockholders before the after-tax effect of special charges as a
percentage of average assets for the periods presented.
(10) Return on average stockholders' equity represents net income available to
common stockholders before the after-tax effect of special charges as a
percentage of average common equity for the periods presented.
(11) Cash operating return on average stockholders' equity represents income
before the after-tax effect of special charges and the after-tax effect of
intangible amortization and ESOP expense as a percentage of average common
equity for the period presented.
(12) Yield on interest-earning assets represents interest income as a
percentage of average interest-earning assets.
<PAGE>
(13) Cost of interest-bearing liabilities represents interest expense as a
percentage of average interest-bearing liabilities.
(14) Net interest margin represents net interest income as a percentage of
average interest-earning assets.
(15) Efficiency ratio represents other expense reduced by intangible
amortization, trust preferred expense, OREO gains and losses and
non-recurring items and special charges, as a percentage of net interest
income plus non-interest income.
(16) For a description of the bank regulatory capital ratios, see "Business --
Supervision and Regulation -- Regulatory Capital Requirements."
(17) The core capital ratio is calculated in accordance with national bank
requirements, which are different from the requirements of the Office of
Thrift Supervision, our primary regulator. The core capital ratio
calculated under the Office of Thrift Supervision requirements at June 30,
1999 was 5.89%. For a description of Office of Thrift Supervision
requirements, see "Business -- Supervision and Regulation -- Regulatory
Capital Requirements."
(18) EBITA represents income before income taxes, interest on holding company
debt and amortization of intangible assets. EBITA is presented
supplementally because we believe it is an appropriate financial indicator
of a holding company's ability to service and incur indebtedness, subject
in our case to certain regulatory limitations on Sovereign Bank's ability
to pay dividends to us. See "Business -- Supervision and Regulation --
Limitations on Dividends and Other Capital Distributions."
(19) We computed our ratio of earnings to fixed charges by dividing earnings by
fixed charges on a consolidated basis. Earnings consist primarily of
income before income taxes adjusted for fixed charges. Fixed charges
consist primarily of interest expense on short-term and long-term
borrowings, and trust preferred securities expense.
(20) We computed our ratio of earnings to combined fixed charges and preferred
stock dividends by dividing earnings by the sum of fixed charges and
preferred stock dividend requirements. Earnings consist primarily of
income before income taxes adjusted for fixed charges. Fixed charges
consist primarily of interest expense on short-term and long-term
borrowings, and trust preferred securities expense. On May 15, 1998, we
redeemed all outstanding shares of our 61/4% Cumulative Convertible
Preferred Stock, Series B at a redemption price of $52.188 per share.
Substantially all holders of the Series B Preferred Stock converted their
shares of preferred stock to shares of our common stock.
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RISK FACTORS
You should carefully consider all information included or incorporated by
reference in this prospectus supplement and accompanying prospectus. In
particular, you should carefully consider the risks described below before
purchasing our senior notes. These are not the only risks and uncertainties we
face. Additional risks and uncertainties which we currently consider immaterial
or which are not yet known to us may also impair our financial condition,
results of operations or prospects.
Transaction Specific Risks
Our ability to complete the New England acquisition is subject to
uncertainty, and purchasers of our notes will be refunded their investment if
we fail to close the acquisition.
Our completion of the New England acquisition is subject to a number of
significant conditions, including our receipt of regulatory approval and our
satisfaction of a number of commitments we have made to Fleet/BankBoston to
raise capital on a timely basis. The proceeds from this offering are being
placed in escrow, and your investment in our notes will be refunded if we fail
to close the acquisition.
In order to meet these conditions and achieve our goal of maintaining
Sovereign Bank as a well capitalized institution, we believe we will have to
raise approximately $1.75 billion of capital. Of this amount, our agreement
with Fleet/BankBoston, absent waiver or amendment, requires us to raise $500
million by December 15, 1999 and sufficient capital to support the acquisition
by January 31, 2000. Determination of whether we have satisfied these
capital-raising commitments rests solely with Fleet/BankBoston. We are relying
on four different substantial debt and equity financings to satisfy our
capital-raising obligations, and each of these financings is subject to
significant uncertainty, given that, among other things, they all depend on
satisfactory capital market conditions. The lead representatives of the
underwriters for this and our other offerings have committed to provide us with
up to $500 million of bank debt financing on January 31, 2000, but their
commitment is subject to a number of significant conditions. These conditions
include the absence of any material adverse change in our financial condition,
results of operations or prospects, or in the assets and liabilities we seek to
acquire, as well as any material disruption or material adverse change in the
domestic capital markets. These conditions also include the closing of the New
England acquisition in accordance, in all material respects, with its original
terms and our raising of at least $650 million through equity financings and/or
through reducing our capital needs by using cash on hand or from the sale of
securities and other assets to reduce borrowings.
The net proceeds from this offering of notes and any other debt (but not
common equity or units of trust preferred securities) will be placed in escrow
or in a similar structure pending completion of the New England acquisition. If
the New England acquisition does not close, the escrowed proceeds from our debt
financings (including this offering of notes) will be returned to investors. We
expect that the cost of maintaining the escrowed proceeds pending completion of
the New England acquisition will be approximately $7 million per month, which
will adversely affect our reported financial results.
Our estimate that we need $1.75 billion to support the acquisition and
maintain Sovereign Bank's well capitalized status is based on assumptions
relating, among other things, to:
o the level of our earnings between now and the date of completion of the
acquisition;
o the amount, mix, yield and other characteristics of the deposits we are
assuming and loans we are acquiring;
o a reduction in our assets (and therefore our capital requirements)
resulting from the use of cash on hand, cash from the New England
acquisition and cash from the proceeds of sales of securities or other
assets to repay borrowings; and
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o Fleet/BankBoston's success in selling an additional 38 branches and
related deposits and loans in New England which it has the ability to
require us to purchase. Although Fleet/BankBoston has publicly announced
that it has reached agreement to sell 20 of the 38 branches, and we
understand it is trying to sell the remainder of the branches, we may have
to purchase all 38 branches. The number of branches we purchase could also
change by agreement. See "Description of the New England Acquisition."
To the extent that these assumptions change, we may need to raise more
capital, change the mix of debt or equity in our financing plans, or reduce our
capital requirements by using cash on hand or selling securities and other
assets to reduce borrowings. Independent of changes in these assumptions, the
terms and mix of debt and equity we raise may change from that described above
depending on market conditions and other factors. We may also change the type
and amount of capital we ultimately raise to support the acquisition. These
changes could adversely affect your investment or our financial condition.
The New England acquisition could be delayed if antitrust actions are
filed. In particular, state governments or private persons may file actions to
prevent the acquisition from occurring, especially given local sensitivities to
branch transfers. The New England acquisition could also be delayed for other
reasons.
In order to obtain regulatory approval, we must not only meet capital
requirements, but we must also meet other requirements. These requirements
include Community Reinvestment Act compliance and requirements relating to our
mix of residential and small business loans on one hand and commercial loans on
the other. We may be required to modify the terms of our agreement with
Fleet/BankBoston, sell assets or take other actions to meet these requirements.
If we fail to meet regulatory requirements on a timely basis, we might not
receive regulatory approval. Also, the terms of any such asset sales may not be
satisfactory given the forced nature of the sales. See "-- Increased commercial
lending could adversely affect our credit quality and operating results." In
addition, the Office of Thrift Supervision could determine that the pro forma
financial condition or managerial resources of Sovereign Bancorp may be
inadequate or cause undue pressure on Sovereign Bank after the New England
acquisition, and could therefore deny approval of the acquisition. In addition,
our regulators may not approve the acquisition on a timely basis, regardless of
our ability to raise financing and meet all other requirements. See "Business
- -- Supervision and Regulation -- Acquisitions by Us." If our regulators do not
approve the acquisition by January 15, 2000, Fleet/BankBoston has the ability
to terminate the transaction.
We are currently targeting closing the New England acquisition on or about
April 28, 2000. However, after April 28, 2000, Fleet/BankBoston may terminate
the purchase and assumption agreement, in which case we may owe them $50
million in liquidated damages. The closing may be extended beyond April 28,
2000 upon mutual consent of Sovereign and Fleet/BankBoston. It is possible
that, with the consent of applicable federal regulatory authorities, and to the
extent permitted by our financing arrangements, we may agree with
Fleet/BankBoston to extend the closing of the New England acquisition to
accommodate systems conversion issues. An extension of the closing date may
have an adverse effect on our operating results, cash flow and financial
condition.
For more information regarding our financing plans with respect to the New
England acquisition, see "Financing Transactions," "Description of the New
England Acquisition" and "Description of Purchase and Assumption Agreement."
For information on regulatory issues, see "Business -- Supervision and
Regulation."
If and when completed, the New England acquisition poses a number of
integration and operational risks to us which could unfavorably affect our
financial performance and condition.
The New England acquisition is much larger than any of our prior
acquisitions. Because of the nature of bank deposits and assets, there are
usually deposit run-off and other systems conversion and integration issues
associated with branch acquisitions, and occasionally those issues become
significant. The timely, efficient integration of the New England acquisition
and the success of our New England strategy will require us to deploy
substantial management, financial and other resources and will present us with
a number of risks and challenges, including our ability to:
o retain a high percentage of Fleet/BankBoston customers and accounts
despite heavy competition and possible transition difficulties;
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o successfully convert Fleet/BankBoston deposit, loan and other systems to
our systems;
o offer product lines and services comparable to Fleet/BankBoston's
product lines and services; and
o attract and retain the senior, middle and relationship level managers and
other employees associated with the acquired branches and Fleet/BankBoston
loan origination and administration functions.
Competition for customers and accounts in the New England markets in which
Sovereign Bank New England will operate is intense. The competition for the
customers and accounts relating to our New England acquisition may be
particularly high because all or substantially all the branches we are
acquiring are located in communities where there likely will remain an existing
Fleet/BankBoston branch. In addition, there will not initially be much name
recognition for Sovereign Bank in these markets.
Upon completion of the New England acquisition, we will begin to process a
large number of deposit and other customer transactions through a new systems
processing facility in New England. This will be an operation of substantial
size and expense. The unexpected difficulties or costs we may encounter in
handling these deposits and transactions could materially adversely affect our
earnings and financial condition.
The branches we are acquiring have not previously been operated as one
business unit. Many of these branches and related assets and deposits were
acquired in various acquisitions by Fleet or BankBoston. The fact that these
assets and liabilities come from various banks may make integrating them and
converting related systems to Sovereign systems more difficult. We will be
relying substantially on third parties to assist us in completing the systems
conversion. We have had some difficulties with third parties in connection with
past systems conversions.
Each of the above risks and challenges will be difficult to overcome, and
to the extent we fail to do so, we may not realize benefits from the
acquisition and may report lower earnings or even write down assets and take
charges against our earnings.
The "As Is, Where Is" nature of the acquisition could unfavorably impact
our financial condition since we have no recourse if the assets and liabilities
we acquire deteriorate and almost no recourse if they are not as represented to
us.
We are purchasing Fleet/BankBoston assets and liabilities as they exist at
the closing of the New England acquisition, which is anticipated to be on or
about April 28, 2000, based solely on our due diligence review conducted in
July and August 1999 and without substantial representations, warranties or
indemnities from Fleet/BankBoston (except that we will not acquire any loan
more than 90 days past due at the time of closing). Bank assets and liabilities
are inherently subject to constant qualitative and quantitative changes. Even
if the New England assets and liabilities deteriorate quantitatively or
qualitatively between the date of our due diligence and the date of closing, or
are not as represented in connection with our due diligence, we will still be
required to close the transaction without meaningful recourse to
Fleet/BankBoston (except with respect to loans more than 90 days past due at
the time of closing). As a result, our financial condition, asset quality and
operating results following the New England acquisition could deteriorate.
We are significantly increasing our level of debt and may have little or
no tangible equity at the holding company level, which will adversely affect
our future flexibility.
In order to finance the New England acquisition, we will incur a
significant amount of debt at the holding company level, including the issuance
of notes contemplated by this prospectus supplement. In addition, primarily
because of the goodwill and other intangible assets we expect to record in
connection with the New England acquisition, we estimate that, on a pro forma
basis as of June 30, 1999 after giving effect to the acquisition and related
financings, we would have had negative $271 million of consolidated tangible
stockholders' equity. Absent raising additional equity, which may not be
available to us at the time on attractive terms and conditions, if at all, our
ability to raise debt at the holding company level may be adversely impacted.
This would adversely impact the ability of our holding company to provide
capital to Sovereign Bank to meet regulatory requirements, respond to economic
downturns, cushion a deterioration in its operating results or financial
condition, or finance our growth, repurchase our stock, refinance our
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outstanding debt, consummate acquisitions with cash or debt, or react to
certain changes in our operating environment. We could incur additional debt in
the future, including, under certain circumstances, as part of the New England
acquisition, which could further adversely affect our future flexibility.
The significant amount of debt at the holding company level could
adversely affect Sovereign Bank.
Our only source of cash to pay dividends to our stockholders and make
payments on our debt are dividends and other distributions from Sovereign Bank,
which are limited, among other things, by the level of Sovereign Bank's
liquidity, earnings and cash.
A significant deterioration in Sovereign Bank's earnings or cash flow, as
a result of an economic downturn and a corresponding decrease in credit quality
or otherwise, could limit Sovereign Bank's ability to pay cash dividends to us,
which, in turn, would limit our ability to pay our debt service or to pay
dividends on our equity securities. Sovereign Bank must dedicate a material
portion of its cash flow and a significant portion of its earnings to the
payment of interest and principal on our debt and trust preferred expense. This
means that such earnings and cash flow will not be available to be paid as
dividends to our stockholders, provide liquidity to Sovereign Bank, finance
Sovereign Bank's growth, meet regulatory requirements or cushion a
deterioration in Sovereign Bank's operating results or financial condition.
Our new indebtedness will place restrictions on us which may limit our
operating flexibility and our ability to pay dividends.
The credit facility we expect to enter into in connection with the New
England acquisition and the indenture governing the notes we are selling
pursuant to this prospectus supplement, will impose material operating and
financial restrictions on us. These restrictions, subject to certain ordinary
course of business exceptions for Sovereign Bank, may limit us in engaging in
certain transactions, including the following:
o certain types of mergers or consolidations;
o paying dividends or other distributions to our stockholders;
o making investments;
o selling assets;
o repurchasing our common stock;
o borrowing additional money; and
o transactions with affiliates.
These restrictions could limit our ability to obtain debt financing at the
holding company level to provide capital to support Sovereign Bank, repurchase
stock, refinance or pay principal or interest on our outstanding debt,
consummate acquisitions for cash or debt or react to changes in our operating
environment. Also, if we enter into the proposed bank facility, it will be
secured by a pledge of Sovereign Bank's stock. This will mean that Sovereign
Bank's stock may be unavailable as collateral to secure other obligations. This
will also mean that we will be required to secure certain of our other
outstanding debt equally and ratably with the debt under the proposed bank
facility. As a result, the stock of Sovereign Bank we own will also be pledged
to secure an additional $290 million of presently outstanding senior debt.
The notes are the obligations of a holding company which has no operations
and depends on Sovereign Bank and other subsidiaries for cash, and will be
effectively subordinated to our secured debt and debt of our subsidiaries.
The notes are unsecured and will be effectively subordinated in right of
payment to any secured debt of Sovereign Bancorp. As of June 30, 1999, after
giving effect to the New England acquisition and the related financings
contemplated by this prospectus supplement, our secured debt would have been
$790 million, including $290 million of currently outstanding senior notes
which will be secured equally and ratably with respect to the stock of
Sovereign Bank we must pledge in connection with debt incurred under our senior
credit facility. The indenture pursuant to which the notes will be offered will
permit us to incur certain additional secured debt, including debt under the
senior credit facility we may enter into in connection with
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the New England acquisition. See "Financing Transactions." Debt under this
senior credit facility and $290 million of our currently outstanding senior
notes will be secured by a pledge of the stock of Sovereign Bank. In addition,
debt under the facility will be secured by the stock of our other subsidiaries
(but not subsidiaries of Sovereign Bank) and the proceeds (after payment of
taxes), we receive from Sovereign Bank under our tax allocation agreement with
Sovereign Bank. Our ability to comply with the provisions of this facility may
be affected by events beyond our control. The breach of any of these provisions
could result in a default under the facility, in which case the lenders could
declare all amounts borrowed under the facility, together with accrued and
unpaid interest, due and payable. If we are unable to repay these borrowings,
these lenders could proceed against the collateral, including the stock of
Sovereign Bank. Accordingly, if the maturity of the debt under the facility
were accelerated, we may not have enough assets remaining to pay amounts we owe
holders of the notes.
Sovereign Bank and our other subsidiaries conduct all of our consolidated
operations and own substantially all of our consolidated assets. We are a
holding company and our only significant asset is the common stock of Sovereign
Bank we own. Consequently, our cash flow and our ability to meet our debt
service obligations depend upon the cash flow of our subsidiaries and the
payment of funds by these subsidiaries to us in the form of loans, dividends or
otherwise. Sovereign Bank and our other existing subsidiaries will not be
subsidiary guarantors, and are not obligated to make funds available to us for
payment of the notes or otherwise.
Federal banking laws and regulations limit Sovereign Bank's ability to pay
dividends and make other distributions to us. Sovereign Bank generally may not
declare dividends or make any other capital distribution if, after such
distribution, Sovereign Bank's total distributions to us within that calendar
year would exceed 100% of its net income during the year plus retained net
income for the prior two years, if Sovereign Bank would no longer be adequately
capitalized, or if the distribution would violate certain other restrictions.
In any event, Sovereign Bank must give 30 days notice to the Office of Thrift
Supervision, its primary federal regulator, prior to the declaration of any
dividend to us. Other limitations apply to Sovereign Bank's ability to pay
dividends, the magnitude of which depends upon current earnings and the extent
to which Sovereign Bank meets its regulatory capital requirements. The Office
of Thrift Supervision may prohibit any capital distribution that it determines
would constitute an unsafe or unsound practice. See "Business -- Supervision
and Regulation." In addition, as a holding company, our rights and the rights
of our creditors to participate in the assets of Sovereign Bank upon any
liquidation, receivership or reorganization will be subject to the prior claims
of Sovereign Bank's creditors, including Sovereign Bank's depositors.
In addition, under certain circumstances, bankruptcy "fraudulent
conveyance" laws or other similar laws could invalidate any future subsidiary
guaranties. If this were to occur, we would also be unable to use the earnings
of future subsidiary guarantors, if any, to the extent they face restrictions
on distributing funds to us.
The notes will effectively rank junior to all liabilities of Sovereign
Bank and our other subsidiaries. In the event of a bankruptcy, liquidation or
dissolution of a subsidiary and following payment of these liabilities, our
subsidiaries may not have sufficient assets remaining to make payments to us as
a stockholder or otherwise. As of June 30, 1999, after giving effect to the New
England acquisition and the related financings, our subsidiaries would have had
approximately $30.9 billion of outstanding balance sheet liabilities, including
$6.7 billion of outstanding debt. Our subsidiaries have other liabilities,
including contingent and other off-balance sheet liabilities, that may be
significant. The indenture governing the notes will permit us to incur
additional indebtedness, including secured indebtedness, under certain
circumstances, all of which may be incurred by our subsidiaries. The indenture
will not restrict the amount of debt or other liabilities Sovereign Bank may
incur.
If we experience a change of control, we may be unable to repurchase the
notes as required under the indenture.
In the event of a change of control, you will have the right to require
us, subject to various conditions, to repurchase the notes at a price equal to
101% of the principal amount of the notes, plus accrued and unpaid interest. We
may not have sufficient financial resources to pay the repurchase price for the
notes, or may be prohibited from doing so under our senior credit facility or
other future debt agreements. In addition, before we can purchase any notes, we
may be required to:
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o repay debt under our senior credit facility or other future debt that
ranks senior to the notes; or
o obtain a consent from lenders of senior debt to permit repurchase of the
notes.
If a change of control occurs and we are prohibited from repurchasing the
notes, our failure to do so would cause us to default under the indenture,
which in turn is likely to be a default under our senior credit facility and
any future debt. Any other default under our senior credit facility or other
debt would also likely prohibit our repurchasing the notes. Any such default
could have a material adverse effect on us.
The results we achieve in the future will be different from, and we may
not achieve, the forecasted results.
The forecast summarized under "Summary Pro Forma and Forecasted Financial
Information" and set forth under "Pro Forma and Forecasted Financial
Information" is based upon various assumptions, many of which will change or
fail to materialize. These assumptions are inherently uncertain and subject to
significant business, economic, regulatory and competitive uncertainties, many
of which are beyond our control. Accordingly, the results we achieve in the
future will be different from and could be worse than those forecasted by us.
In addition, the forecast assumes that we have consummated the New England
acquisition as of June 30, 1999, even though the acquisition will not be
consummated until on or about April 28, 2000, or possibly later. Therefore, the
forecast does not reflect any period for which we will have actual operating
results. Unanticipated events may occur that could adversely affect our
operating results and, consequently, our actual results of operations during
the forecast period will vary from the forecast, and these variations may be
material. The forecast has been prepared by us as of October 11, 1999 and
presents our current estimate of the business conditions and Sovereign Bank's
expected course of action over the forecast period. The forecast does not give
effect to the actual number of shares of common stock to be issued in our
offering of common stock or the actual number of shares of common stock
issuable upon the exercise of the warrants included in our offering of units of
trust preferred securities, which actual number of shares is greater than the
number of shares assumed to be issued or issuable in the forecast. The increase
in the forecast in the number of shares issued or issuable would have the
effect of decreasing net income and earnings per share as presented in the
forecast. We have not updated or revised, and do not intend to update or
otherwise revise, the forecast to reflect the issuance of additional shares of
common stock or other events or circumstances existing or arising after October
11, 1999 or to reflect the occurrence of unanticipated events. Prospective
investors should make their own independent assessment of our ability to make
dividend payments on our common stock, and payments on our trust preferred
securities and debt. Because the New England acquisition does not constitute an
acquisition of a going business or other discrete operating unit, there is no
historical financial information (other than that presented herein) available
with respect to the assets and liabilities we expect to acquire. See
"Information Regarding the Loans and Deposits in the New England Acquisition."
Therefore, the assumptions underlying the forecast are subject to an even
greater degree of uncertainty. The forecast should not be relied upon for any
purpose following the consummation of this offering.
Other Risks
An economic downturn may lead to less demand for Sovereign Bank's products
and services and adversely affect our earnings and cash flow.
Our business faces various material risks. In a recession or other
economic downturn, these risks would probably become more acute, and might lead
to less demand for our loans, ultimately resulting in lower earnings and less
cash flow. The volume of our loan production depends upon demand for the types
of loans we originate and the competition for such loans in the marketplace.
Fluctuations in consumer confidence, real estate values, interest rates and
investment returns could combine to make the types of loans we originate less
attractive. In an economic downturn, our credit risk and litigation expense
would also increase. In addition, an increase in long-term interest rates could
also reduce the volume of loans funded and sold by us and reduce our earnings
and cash flow.
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Changing interest rates may adversely affect our profits.
To be profitable, we must earn more money from interest on loans and
investments we make than the interest we pay to our depositors and lenders. If
interest rates rise, our net interest income could be negatively affected if
interest paid on interest-bearing liabilities, such as deposits and borrowings,
increases more quickly than interest earned on interest-bearing assets, such as
loans, mortgage-related and investment securities. This would cause our net
income to go down. In addition, rising interest rates may hurt our income
because they may reduce the demand for loans and the value of our investment
securities. If interest rates decline, however, our loans and investments may
be prepaid earlier than expected, which may also lower our income. Interest
rates do and will continue to fluctuate, and we cannot predict future Federal
Reserve Board actions or other factors that will cause rates to change.
We experience intense competition for loans and deposits.
Competition among financial institutions in attracting and retaining
deposits and making loans is intense. Traditionally, our most direct
competition for deposits has come from commercial banks, savings and loan
associations and credit unions doing business in our areas of operation.
Recently, we have experienced increasing competition for deposits from
nonbanking sources, such as money market mutual funds and corporate and
government debt securities. Competition for loans comes primarily from
commercial banks, savings and loan associations, consumer finance companies,
insurance companies and other institutional lenders. We compete primarily on
the basis of the price at which products are offered and on customer service. A
number of institutions with which we compete have significantly greater assets
and capital than
we do.
We are subject to substantial regulation, and regulatory changes may
adversely affect our business and operations.
As a financial institution, we are subject to extensive regulation, which
materially affects our business. Statutes and regulations to which we and
Sovereign Bank are subject may be changed at any time, and the interpretation
and the application of these laws and regulations by our regulators is also
subject to change. There can be no assurance that future changes in regulations
or in their interpretation or application will not adversely affect us. See
"Business -- Supervision and Regulation."
Legislation could be passed that deems us undercapitalized and restricts
our business activities.
In the past, Congress has considered legislation in various forms which
would require savings and loan associations, such as Sovereign Bank, to convert
their charters to national bank charters. In the absence of appropriate
"grandfathering" or "phase in" provisions, legislation eliminating Sovereign
Bank's charter would have a material adverse effect on us and Sovereign Bank
because, among other things, the regulatory capital and accounting treatment
for bank holding companies and savings and loan holding companies is different.
In addition, current legislative proposals contemplate a transfer of
jurisdiction over savings and loan associations from the Office of Thrift
Supervision to the Federal Reserve Board, who could elect to impose bank
holding company regulations on us. If we were presently subject to the
regulations governing bank holding companies, we would not meet applicable
capital requirements and, as a result, we would be required to raise additional
equity or reduce the size of Sovereign Bank on terms that may not be
economically advantageous. In addition, our ability to engage in nonbanking
activities in the future would be materially curtailed. We cannot determine if,
when, or in what form such legislation may eventually be enacted and we can
give no assurance that any legislation that is enacted would contain provisions
which would effectively exempt us from these requirements.
Regulations limiting the size of our commercial loan portfolio may
adversely affect our net interest income and may require us to sell commercial
loans in connection with completion of the New England acquisition.
Existing federal regulations limit our ability to increase our commercial
loans. We are required to maintain 65% of our assets in residential mortgage
loans and certain other loans, including small business
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loans. We also cannot have more than 10% of our assets in large commercial
loans, 10% in small business loans, or more than four times our capital in
commercial real estate loans. A small business loan is one with an original
loan amount of less than $1 million, while a large commercial loan is anything
larger than that. Because commercial loans generally yield interest income
which is higher than residential mortgage loans, without a commensurate
reduction in interest expense, our net interest income could be adversely
affected by these provisions. If the growth of our commercial loan portfolio
continues at its current rate, we may exceed these regulatory limitations at
the time we expect to close the New England acquisition, requiring us to either
reduce the size of our commercial loan portfolio or take other actions which
may adversely affect our net interest income. See "Business -- Supervision and
Regulation -- Other Loan Limitations."
The need for additional management personnel for our larger bank may be
problematic for us.
We have historically maintained a flat management structure. Because of
our pending New England acquisition, we may need to increase the breadth and
depth of our management team. Although we expect to attract and retain
additional management, the failure to do so could adversely affect our ability
to integrate our acquisitions and effectively manage our larger and more
diverse bank.
Increased commercial lending could adversely affect our credit quality and
operating results.
Commercial loans present a higher degree of credit risk than residential
mortgage loans and result in a higher level of charge-offs and loan loss
reserves. Our commercial loan portfolio as a percentage of total loans has
grown from 7.9% at December 31, 1994 to 26.0% at June 30, 1999. A core element
of our strategy is to continue to grow our commercial loan portfolio. The New
England acquisition is part of this strategy, and will increase our commercial
loan exposure. A downturn in the national economy or in one or more of the
regional economies we serve could have a material adverse effect on our credit
quality and litigation expense, and therefore our earnings. In addition, the
commercial lending business has only become a primary focus of ours in the last
four years. Our experience, as an institution, in originating and administering
commercial loans is therefore limited to this time period and this factor could
exacerbate the risk that commercial lending poses
to us.
The year 2000 issue may disrupt our operations and adversely impact us.
The "year 2000 issue" arises from the widespread use of computer programs
which rely on two-digit date codes to perform computations or decision making
functions. Many of these programs may fail due to an inability to interpret
properly date codes beginning January 1, 2000. Although we believe we will have
addressed year 2000 issues in a timely manner, there can be no assurance that
we have successfully eliminated this risk. Given that our core business
involves the daily processing of hundreds of thousands of transactions, any
year 2000 problems we or our outside providers encounter could significantly
impair our operations and ultimately our financial condition. This risk is
exacerbated by our acquisitions and systems conversions over the past few
years. Year 2000 problems could also delay or adversely affect the closing of
the New England acquisition.
The lack of a public market for the notes may adversely affect the
liquidity and price of the notes.
There is no established trading market for the notes, and we cannot assure
you that a market for the notes will develop in the future. If such a market
were to develop, the notes could trade at prices that are higher or lower than
the initial offering price depending on many factors, including the number of
holders of the notes, the overall market for similar securities, our financial
performance and prospects, and prospects for companies in our industry
generally. The underwriters of the notes have informed us that they currently
intend to make a market in the notes after this offering is completed. However,
the underwriters have no obligation to do so and may discontinue making a
market at any time without notice. Therefore, we cannot assure you as to the
liquidity of any trading market for the notes.
S-32
<PAGE>
DESCRIPTION OF THE NEW ENGLAND ACQUISITION
On September 3, 1999, we and Sovereign Bank entered into a purchase and
assumption agreement with Fleet/BankBoston pursuant to which we agreed to
acquire 268 branch banking offices and 532 ATMs. The branches and ATMs are
located in Connecticut (32 branches), Massachusetts (176 branches), New
Hampshire (13 branches) and Rhode Island (47 branches). In connection with the
acquisition, we will also assume approximately $12 billion of deposit
liabilities associated with the branches and approximately $8 billion of loans,
consisting of $3.8 billion of residential mortgage loans, $3.7 billion of
commercial loans, $509 million of consumer loans and $389 million of property
and equipment and other assets. The branches, assets and deposits which we
expect to acquire are primarily associated with the small business, middle
market and consumer banking markets.
We have agreed to pay a premium of 12% on the amount of deposit
liabilities transferred to us at closing. This premium, which we expect will be
about $1.4 billion, is tax-deductible and should reduce the taxes we are
required to pay over the next 15 years. We believe that the deposit premium is
favorable when compared to those in most of the other branch acquisitions we
consider comparable.
The divestiture of these branches was mandated by the DOJ in connection
with the Fleet/BankBoston merger, which was recently completed. The assets and
liabilities we plan to acquire were selected by the DOJ to help ensure a
competitive banking environment in New England. We are acquiring
Fleet/BankBoston's deposits, loans and branches in Rhode Island and Connecticut
(primarily former BankBoston operations) and Massachusetts and New Hampshire
(primarily former Fleet operations).
We expect to complete the New England acquisition on or about April 28,
2000. We do not presently intend to close any of the acquired branches. Upon
completion of the acquisition, we will operate the acquired branches and
associated lines of business as "Sovereign Bank New England," a division of
Sovereign Bank.
We plan to establish headquarters for Sovereign Bank New England in
Boston, Massachusetts. We have named Joseph P. Campanelli as our principal
executive officer in New England. Mr. Campanelli has 20 years of New England
banking experience in various executive capacities with Shawmut Bank, a $33
billion financial institution acquired by Fleet Financial Group, Inc. in 1995,
and Shawmut Bank's predecessors, and then with Fleet Financial Group, Inc.
until 1997 when he joined us. We also have agreed to offer employment to
approximately 3,700 Fleet/BankBoston employees upon completion of the
acquisition. These employees include senior, middle and relationship level
managers with commercial banking experience in New England, as well as
individuals in the credit risk, loan review, systems, technology and operations
areas.
Fleet/BankBoston and Sovereign each use similar proof of deposit
technology systems which we believe will facilitate systems conversion. Also,
we are working with outside vendors and Fleet/BankBoston to assist with systems
conversion and integration issues.
We intend to offer products and services that are competitive with the
products and services offered by Fleet/BankBoston. We believe that our plans
regarding the integration of the New England acquisition and our past
experience with acquisitions should help us to successfully integrate the New
England assets and liabilities. Our goal is to minimize customer service
disruption and effect a smooth transition.
Commencing on the date of the merger of Fleet Financial Group, Inc. with
BankBoston Corporation, Fleet/BankBoston began operating the branches and
administering the deposits we are assuming and assets we are acquiring as a
discrete business unit with a separate management team, pending closing of the
New England acquisition. Fleet/BankBoston has agreed with us to operate these
branches in the ordinary course of business. In particular, Fleet/BankBoston
has agreed, among other things, that prior to the closing date it will:
o not solicit the transfer of any customer's business to a Fleet/BankBoston
branch which we are not acquiring;
o not solicit the transfer of any customer deposits to a Fleet/BankBoston
branch which we are not acquiring;
S-33
<PAGE>
o not amend the terms of any loan to reduce the interest rate applicable to
the loan to a rate that is below the market rate of interest for similar
loans with the same credit rating that are being originated by
Fleet/BankBoston for its own portfolio;
o not sell, lease or transfer, or agree to sell, lease or transfer any
assets we expect to acquire except for assets sold, leased or transferred
in the ordinary course of business or pursuant to the exercise of
remarketing rights; and
o use commercially reasonable efforts to maintain and preserve intact its
relationships with employees and customers at the branches we are
acquiring.
Fleet/BankBoston has also undertaken to pay "stay" or retention bonuses to
certain of the key managers and employees of Fleet/BankBoston to whom we will
offer employment. With respect to other key Fleet/BankBoston employees who are
not covered by these Fleet/BankBoston stay bonuses, we intend to institute one
or more programs to provide such employees with stay bonuses.
We will account for the New England acquisition using the purchase method
of accounting. This requires us to allocate the liabilities we assume, plus the
costs of the acquisition, less the premium we pay, among the assets we acquire,
in proportion to their fair market values at the date we signed the purchase
and assumption agreement. Because the liabilities we expect to assume, less our
premium, will exceed the fair value of net assets we expect to acquire,
Sovereign must record the excess (approximately $1.6 billion) as an intangible
asset. Approximately $1.2 billion of this intangible asset will be recorded as
"goodwill" which we will amortize as an expense over its estimated 25-year
life. The remaining intangible, which we refer to as a core deposit intangible,
will be recorded as an asset of approximately $411 million and will be
amortized over a period of ten years. This allocation is preliminary, however,
and is based on currently available information. A final allocation will not be
made until after the closing of the acquisition and will be based on a study
and analysis of the fair value of the assets and liabilities. The final
allocation could be materially different from the estimate set forth above.
Fleet/BankBoston has reserved the right to transfer and to sell to us up
to an additional 38 branches located in Connecticut, Massachusetts and Rhode
Island if Fleet/BankBoston is unable to complete the sale of these branches to
one or more other community banks. Although Fleet/BankBoston has publicly
announced that it has reached agreement to sell 20 of the 38 branches, and we
understand it is trying to sell the remainder of the branches, we may be
required to purchase some or all of these branches. In the event we acquire all
of these 38 branches, we expect to acquire approximately $1 billion of
additional deposits, at the same 12% premium, and $53 million of additional
loans and to retain approximately 252 additional team members associated with
these branches. To the extent we are required to purchase some or all of these
branches and associated deposits and loans, our financing needs may increase by
approximately $170 million. See "Financing Transactions" and "Risk Factors --
Our ability to complete the New England acquisition is subject to uncertainty,
and purchasers of our notes will be refunded their investment if we fail to
close the acquisition."
We anticipate closing the New England acquisition on or about April 28,
2000, although closing may be extended upon mutual consent of Sovereign and
Fleet/BankBoston.
For a description of the terms of the purchase and assumption agreement,
including representations, warranties, conditions, including certain
capital-raising and regulatory approval conditions, and other provisions of the
agreement, see "Description of Purchase and Assumption Agreement."
S-34
<PAGE>
USE OF PROCEEDS
We estimate that the net proceeds from the sale of our notes will be
approximately $682.5 million after deducting underwriting discounts and
expenses payable by us.
We intend to contribute all the net proceeds from the sale of our notes to
an escrow account to provide a portion of the capital necessary to support the
New England acquisition and ensure that Sovereign Bank remains well capitalized
upon consummation of the New England acquisition. In the event that the New
England acquisition is not completed, we will use the net proceeds, together
with other amounts required to be contributed to the escrow account, to fund
the mandatory redemption of the notes. See "Description of Notes--Escrow of
Proceeds; Special Mandatory Redemption."
CAPITALIZATION
The following table presents our consolidated capitalization as of June 30,
1999:
o on an actual basis; and
o on a pro forma basis to give effect to:
- the issuance of $700 million of senior notes as contemplated by
this prospectus supplement;
- the issuance of $300 million of common stock;
- the completion of the New England acquisition as of June 30, 1999;
- the issuance of $250 million of units, consisting of trust
preferred securities and detachable warrants to acquire a total of
26,677,500 shares of common stock; and
- the syndication of a $500 million senior credit facility.
<PAGE>
Our pro forma capitalization is based on our expectation that we need
$1.75 billion to support the New England acquisition and maintain Sovereign
Bank's well capitalized status. This expectation, in turn, is based on
assumptions relating, among other things, to:
o the level of our earnings between now and the date of completion of
the acquisition;
o the amount, mix, yield and other characteristics of the deposits we
are assuming and loans we are acquiring;
o a reduction in our assets (and therefore our capital requirements)
resulting from the use of cash on hand, cash from the New England
acquisition and cash from the proceeds of sales of securities or other
assets to repay borrowings; and
o Fleet/BankBoston's success in selling the additional 38 branches and
related deposits and loans in New England which it has the ability to
require us to purchase. Fleet/BankBoston has publicly announced that it
has reached agreement to sell 20 of the 38 branches, and we understand
it is trying to sell the remainder of the branches. See "Description of
the New England Acquisition."
To the extent that these assumptions change, we may need to raise more or
less capital to maintain Sovereign Bank's status as well capitalized.
Independent of changes in these assumptions, the terms and mix of the debt and
equity we raise may change from that described above depending on market
conditions and other factors. We may also change the type and amount of capital
we ultimately raise to support the acquisition or for a variety of other
reasons, including to increase our tangible equity. See "Pro Forma and
Forecasted Financial Information" and related assumptions and notes, "Risk
Factors" and "Financing Transactions."
You should read the following data in conjunction with the historical
financial information, and the pro forma, forecasted and other financial
information which is included in this prospectus supplement and in the
S-35
<PAGE>
documents that are incorporated by reference into this prospectus supplement
and the accompanying prospectus. See "Where You Can Find More Information" in
the accompanying prospectus. You should also read the capitalization table
together with the sections of this prospectus supplement entitled "Selected
Sovereign Historical Financial Information," "Management's Discussion and
Analysis of Consolidated Financial Condition and Results of Operations" and the
financial statements and related notes included elsewhere in this prospectus
supplement.
<TABLE>
<CAPTION>
As of June 30, 1999
--------------------------------
Actual Pro Forma(1)
-------------- ---------------
(in thousands)
<S> <C> <C>
Deposits .......................................................... $12,170,470 $24,080,589
=========== ===========
Borrowings
Short-term ...................................................... $ 6,177,950 $ 2,559,456
Long-term ....................................................... 4,105,957 4,105,957
----------- -----------
Total borrowings ............................................... $10,283,907 $ 6,665,413
=========== ===========
Long-Term Debt
Proposed senior credit facility ................................. $ 500,000
10.25% senior notes ............................................. 200,000
10.50% senior notes ............................................. 500,000
6.625% senior notes ............................................. $ 237,677 237,677
6.75% senior notes .............................................. 49,862 49,862
6.75% subordinated debentures ................................... 27,828 27,828
8.00% subordinated medium-term notes ............................ 49,464 49,464
8.50% subordinated debentures ................................... 19,747 19,747
----------- -----------
Total long-term debt ........................................... 384,578 1,584,578
Corporation-obligated mandatorily redeemable capital securities of
subsidiary trust holding solely junior subordinated debentures of
Sovereign Bancorp, Inc. ......................................... 129,094 291,594
----------- -----------
Stockholders' Equity
Preferred stock; 7,500,000 shares authorized; none issued and
outstanding, actual and pro forma ..............................
Common stock, no par value; 400,000,000 shares authorized;
186,164,360 shares issued, actual; 224,259,598
shares issued and pro forma .................................... 913,531 1,201,281
Additional paid in capital ...................................... 87,500
Unallocated common stock held by ESOP; 5,063,798 shares ......... (35,662) (35,662)
Treasury stock, at cost; 123,658 shares ......................... (1,578) (1,578)
Accumulated other comprehensive income .......................... (77,660) (77,660)
Retained earnings ............................................... 651,170 634,871
----------- -----------
Total stockholders' equity ..................................... 1,449,801 1,808,752
----------- -----------
Total capitalization ........................................... $ 1,963,473 $ 3,684,924
=========== ===========
</TABLE>
- ------------
(1) For more information regarding the Pro Forma column, see notes to the
Unaudited Pro Forma Condensed Combined Balance Sheet Data. This
information is based on data relating to the assets we expect to acquire
and deposits we expect to assume in connection with the New England
acquisition and is derived from deposit and loan schedules provided by
Fleet/BankBoston as of June 30, 1999. This information may change
materially between June 30, 1999 and the date of the New England
acquisition as a result of many factors, including changes in interest
rates, deposit withdrawals, loan originations and repayments, other
changes in assets and refinancings as well as changes in our agreement
with Fleet/BankBoston.
S-36
<PAGE>
PRO FORMA AND FORECASTED FINANCIAL INFORMATION
The following tables provide certain unaudited pro forma condensed
combined balance sheet information and certain selected forecasted financial
information, prepared as if the New England acquisition and the related
financings were completed at the close of business on June 30, 1999.
This information is based on data relating to the assets we expect to
acquire and deposits we expect to assume in connection with the New England
acquisition and is derived from deposit and loan schedules provided by
Fleet/BankBoston as of June 30, 1999. The assets we expect to acquire or
liabilities we expect to assume may change materially between June 30, 1999 and
the date of the New England acquisition as a result of many factors, including
changes in interest rates, deposit withdrawals, loan originations and
repayments, other changes in assets and refinancings, as well as changes in our
agreement with Fleet/BankBoston. Bank assets and liabilities are inherently
subject to constant qualitative and quantitative changes, and the amount, mix,
yield and other characteristics of the New England deposits and loans will be
different from that presented below. We cannot predict what these differences
will be.
The selected forecasted financial information was prepared by us in
connection with this offering in partial compliance with the presentation
guidelines of the American Institute of Certified Public Accountants regarding
prospective financial statements. A forecast prepared in accordance with the
American Institute of Certified Public Accountants presentation guidelines
requires the forecast period to encompass a period for which actual results
could be attained. Because the forecasted financial information assumes that
the New England acquisition was consummated on June 30, 1999, rather than the
actual expected consummation date of April 28, 2000, the forecast period
presented, July 1, 1999 through June 30, 2000, is only in partial compliance
with the requirements of the American Institute of Certified Public
Accountants. Other than the forecast period used, we believe the forecast is in
compliance with the American Institute of Certified Public Accountants
guidelines. We selected the twelve-month period ended June 30, 2000 as the
forecast period because June 30, 1999 is the most recent date for which there
is full balance sheet data available with respect to Sovereign and certain
information available with respect to the Fleet/BankBoston loans to be acquired
and deposits to be assumed. We have included the forecast in this prospectus
supplement solely for the limited purpose of assisting prospective investors in
analyzing the potential risks and benefits of an investment in our common
stock, and we are solely responsible for its presentation.
THE ASSUMPTIONS UNDERLYING THE FORECAST ARE INHERENTLY UNCERTAIN AND ARE
SUBJECT TO SIGNIFICANT BUSINESS, ECONOMIC AND COMPETITIVE UNCERTAINTIES, MANY
OF WHICH ARE BEYOND OUR CONTROL. THERE CAN BE NO ASSURANCE THAT THE FORECASTED
FINANCIAL RESULTS WILL BE REALIZED. OUR ACTUAL RESULTS IN THE FUTURE WILL
DIFFER FROM THE FORECASTED RESULTS AND THE DIFFERENCES MAY BE MATERIAL. WE DO
NOT INTEND TO UPDATE THE FORECAST.
FOR PURPOSES OF THE FORECAST, WE HAVE ASSUMED THE ISSUANCE OF
APPROXIMATELY 32 MILLION SHARES OF COMMON STOCK AT AN OFFERING PRICE OF $9.36
PER SHARE, WHICH WAS THE LAST REPORTED SALE PRICE ON THE NASDAQ NATIONAL MARKET
ON OCTOBER 11, 1999. THE ACTUAL NUMBER OF SHARES TO BE ISSUED IN THE OFFERING
OF COMMON STOCK IS 38,095,238 SHARES AT A PUBLIC OFFERING PRICE OF
APPROXIMATELY $7.88 PER SHARE. THE INCREASE IN THE ACTUAL NUMBER OF SHARES
ISSUED, COMBINED WITH THE DIFFERENCE BETWEEN ASSUMED AND ACTUAL TERMS OF OUR
OTHER FINANCINGS, RESULTS IN A DECREASE IN FORECASTED NET INCOME AND FORECASTED
GAAP EARNINGS PER DILUTED SHARE OF $882,000 AND $0.04, RESPECTIVELY, FROM THE
AMOUNTS PRESENTED IN THE FORECAST.
Because the New England acquisition is not an acquisition of a going
business or other discrete operating unit, there is no historical financial
information (other than that presented herein) available with respect to the
assets and liabilities we expect to acquire. See "Information Regarding the
Loans and Deposits in the New England Acquisition." In addition, the exact
amount, mix, yield and other characteristics of the deposits and loans we will
assume and acquire from Fleet/BankBoston cannot be determined until we actually
consummate the acquisition. Accordingly, the assumptions underlying the
forecast are subject to a greater degree of
S-37
<PAGE>
uncertainty. Potential investors are cautioned not to place undue reliance on
the forecast and should make their own independent assessment of our future
results of operations, cash flows and financial condition. The forecast should
not be relied upon for any purpose following completion of the offering. You
should carefully review the assumptions reflected in the forecast. See "--
Summary of Significant Assumptions to Forecasted Financial Information." The
forecasted financial information is presented for the twelve-month period ended
June 30, 2000. After completion of the New England acquisition, results of
operations for twelve-month periods will be presented for the years ended
December 31, rather than June 30. In addition, we do not expect to close the
New England acquisition until on or about April 28, 2000. Therefore, the
forecast does not reflect any period for which we report operating results.
The pro forma balance sheet information and the forecasted information
constitute forward-looking statements within the meaning of the Private
Securities Litigation Act of 1995. See also "Risk Factors" and "Forward-Looking
Statements."
S-38
<PAGE>
Unaudited Pro Forma Condensed Combined Balance Sheet Data
The unaudited pro forma condensed combined balance sheet gives effect to
the New England acquisition and related financings as if the acquisition and
related financings had occurred on June 30, 1999. The unaudited pro forma
condensed combined balance sheet gives effect to the New England acquisition
and related financings under the purchase method of accounting in accordance
with Accounting Principles Board Opinion No. 16. In the opinion of management,
all significant adjustments necessary to reflect the effects of the New England
acquisition and related financings have been made.
The unaudited pro forma condensed combined balance sheet as presented is
not necessarily indicative of what the actual combined financial position of
Sovereign Bancorp, Inc. would have been at June 30, 1999, nor does it purport
to represent the future combined financial position of Sovereign Bancorp, Inc.
and the acquired New England assets and liabilities. This unaudited pro forma
condensed combined balance sheet should be read in conjunction with, and is
qualified in its entirety by, the historical financial statements and notes
thereto of Sovereign included in this prospectus supplement and the information
on the assets we expect to acquire and the liabilities we expect to assume. See
"Information Regarding the Loans and Deposits in the New England Acquisition."
The information under the column "New England Acquisition" in the June 30, 1999
pro forma condensed combined balance sheet is based on information provided to
us by Fleet/BankBoston and represents the book value of the assets that would
have been acquired and liabilities that would have been assumed at that date,
except for other assets, which are stated at fair value.
S-39
<PAGE>
<TABLE>
<CAPTION>
As of June 30, 1999
------------------------------------------------------------------------
Adjustments
-------------------------------------------------------
Sovereign New England Other
Historical Acquisition Adjustments
--------------- ------------------- ----------------------------------
(dollars in thousands, except per share data)
<S> <C> <C> <C>
Selected Balance Sheet Data
Assets
Cash and amounts due from depository
institutions ................................... $ 472,780 $ 2,097,793(1) $ (1,967,793)(1)
Interest-earning deposits ........................ 125,194
Loans held for sale .............................. 86,139
Investments and mortgage-backed
securities ..................................... 9,996,081
Loans ............................................ 12,476,997 7,994,282 (85,302)(2)
Allowance for loan losses ........................ (134,183) (103,926)(3)
Other intangible assets .......................... 236,222 411,304(4)
Goodwill ......................................... 198,626 1,017,910(4) 216,728 (2)
Other assets ..................................... 1,136,181 388,830 34,500 (5)(6)
----------- --------------- ----------------
Total assets .................................. $24,594,037 $ 11,910,119 $ (1,905,793)
=========== =============== ================
Liabilities
Deposits ......................................... $12,170,470 $ 11,910,119(4)
Borrowings
Short-term ..................................... 6,177,950 $ (3,618,494)(1)(5)(6)
Long-term ...................................... 4,105,957
Senior credit facility ........................... 500,000 (5)
Senior notes ..................................... 287,539 700,000 (5)
Subordinated debentures .......................... 97,039
Other liabilities ................................ 176,187 (8,750)(7)
----------- ----------------
Total liabilities ............................. 23,015,142 11,910,119 (2,427,244)
Corporation-obligated mandatorily
redeemable capital securities of
subsidiary trust holding solely junior
subordinated debentures of Sovereign
Bancorp, Inc. .................................... 129,094 162,500 (6)
----------- ----------------
Stockholders' equity .............................. 1,449,801 358,951 (6)
----------- --------------- ----------------
Total liabilities and stockholders'
equity ....................................... $24,594,037 $ 11,910,119 $ (1,905,793)
=========== =============== ================
Selected Share Data
Diluted shares outstanding (in thousands) . 182,867 38,095 (6)
Book value per share .............................. $ 8.01
Selected Bank Regulatory Capital Ratios(8)
Tangible capital ratio ............................ 5.89%
Core capital ratio ................................ 5.89%
Tier 1 capital ratio .............................. 10.37%
Total risk-based capital ratio .................... 11.32%
Selected Other Data
Non-performing assets as % of total
assets(9) ........................................ 0.36%
Loan loss allowance as % of total loans ........... 1.08%
Deposit mix %
Demand and NOW ................................... 23.3 % 32.6%
Other core ....................................... 30.1 % 36.4%
Time deposits .................................... 46.6 % 31.0%
Loan mix %
Commercial ....................................... 26.0 % 46.3%
Consumer ......................................... 33.6 % 6.4%
Residential ...................................... 40.4 % 47.3%
Number of branches ................................ 305 268
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
As of June 30,
1999
--------------
Pro Forma
--------------
(dollars in
thousands,
except per
share data)
<S> <C>
Selected Balance Sheet Data
Assets
Cash and amounts due from depository
institutions ................................... $ 602,780
Interest-earning deposits ........................ 125,194
Loans held for sale .............................. 86,139
Investments and mortgage-backed
securities ..................................... 9,996,081
Loans ............................................ 20,385,977
Allowance for loan losses ........................ (238,109)
Other intangible assets .......................... 647,526
Goodwill ......................................... 1,433,264
Other assets ..................................... 1,559,511
-----------
Total assets .................................. $34,598,363
===========
Liabilities
Deposits ......................................... $24,080,589
Borrowings
Short-term ..................................... 2,559,456
Long-term ...................................... 4,105,957
Senior credit facility ........................... 500,000
Senior notes ..................................... 987,539
Subordinated debentures .......................... 97,039
Other liabilities ................................ 167,437
-----------
Total liabilities ............................. 32,498,017
Corporation-obligated mandatorily
redeemable capital securities of
subsidiary trust holding solely junior
subordinated debentures of Sovereign
Bancorp, Inc. .................................... 291,594
-----------
Stockholders' equity .............................. 1,808,752
-----------
Total liabilities and stockholders'
equity ....................................... $34,598,363
===========
Selected Share Data
Diluted shares outstanding (in thousands) . 220,962
Book value per share .............................. $ 8.26
Selected Bank Regulatory Capital Ratios(8)
Tangible capital ratio ............................ 4.62%
Core capital ratio ................................ 4.62%
Tier 1 capital ratio .............................. 7.93%
Total risk-based capital ratio .................... 9.16%
Selected Other Data
Non-performing assets as % of total
assets(9) ........................................ 0.26%
Loan loss allowance as % of total loans ........... 1.17%
Deposit mix %
Demand and NOW ................................... 27.9 %
Other core ....................................... 33.2 %
Time deposits .................................... 38.9 %
Loan mix %
Commercial ....................................... 33.9 %
Consumer ......................................... 23.2 %
Residential ...................................... 42.9 %
Number of branches ................................ 573
</TABLE>
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<PAGE>
Notes to Unaudited Pro Forma Condensed Combined Balance Sheet Data
(1) Cash
It is expected that substantially all of the cash acquired from
Fleet/BankBoston in the New England acquisition will be used to reduce
outstanding short-term Federal Home Loan Bank borrowings.
(2) Goodwill
The following represents adjustments (in thousands) to goodwill due to
fair value adjustments, including establishing an allowance for loan losses and
transaction costs:
<TABLE>
<S> <C>
Loans ................................................ $ 85,302
Direct costs associated with the acquisition ......... 27,500
Establishment of allowance for loan losses ........... 103,926
----------
Total adjustment to goodwill ................................. 216,728
Goodwill related to purchase price (Note 4) .......... 1,017,910
----------
Total goodwill ............................................... $1,234,638
==========
</TABLE>
Because the market value of the loans to be acquired is sensitive to
changes in market interest rates, the market value adjustments related to the
financial assets to be acquired are expected to change between now and the date
of consummation of the New England acquisition. Such market value adjustments
will either increase or decrease goodwill, which will have a corresponding
decrease or increase, respectively, on tangible capital. The deposits to be
assumed were not adjusted to market value as of June 30, 1999, as we believe
the market value adjustment will be minimal.
We estimate that $27.5 million of costs related to financial advisory,
legal, accounting and other costs will be incurred in connection with the
acquisition, which is included as a pro forma adjustment. However, this amount
is subject to change as additional information becomes available. This amount
will be included in goodwill as of the consummation of the acquisition, which
goodwill will be amortized as described in Note (4) below.
(3) Loan loss reserve
During our due diligence review of the loan portfolio to be acquired, we
applied the credit policies, practices and procedures we use to evaluate the
adequacy of the allowance for loan losses related to the loans we have
originated and purchased in the past to substantially all of the loan portfolio
to be acquired in the New England acquisition. Based on this evaluation, we
established an allowance for loan losses that, in our judgment, was appropriate
for the portfolio to be purchased. This provision was equal to approximately
1.3% of the portfolio to be acquired, or $103 million. Because the mix of
assets to be acquired and credit conditions will change, the allowance for loan
loss actually established upon consummation of the transaction may be different
than that determined to be appropriate as of June 30, 1999.
(4) Purchase price
The purchase price represents the 12% premium to be paid for the deposits
assumed, as detailed below (dollars in thousands):
Total deposits as of June 30, 1999 ......... $ 11,910,119
Premium .................................... 12%
------------
Estimated total purchase price ............. $ 1,429,214
We estimate that the core deposit intangible to be recorded, which is a
measure of the value of consumer demand and savings deposits to be assumed,
will approximate $411 million, which will be amortized over ten years using the
sum of the years digits method. The remaining amount, $1.018 billion, is a
component of goodwill and will be amortized using the straight line basis over
25 years.
S-41
<PAGE>
(5) Long-term borrowings
We expect to issue long-term debt as described in this prospectus
supplement and in the following table (in thousands):
Senior credit facility .................. $ 500,000
Senior notes ............................ 700,000
----------
Total long-term debt adjustment ......... $1,200,000
==========
We expect to incur $26 million of underwriting, legal, accounting and
other issuance-related costs related to our long-term debt financing. These
issuance costs will be deferred and amortized using the effective yield method
over the life of the related debt, and are classified as other assets.
The proceeds will be used to capitalize Sovereign Bank. It is expected
that Sovereign Bank will use the proceeds to reduce short-term FHLB borrowings.
(6) Stockholders' equity
We expect to issue common stock and warrants included as part of the units
of trust preferred securities as described in this prospectus supplement and in
the following table (in thousands):
Proceeds from issuance of shares of common stock . $ 300,000
Calculated warrant value ......................... 87,500
Transaction costs associated with issuance of com-
mon stock ................................................ (12,250)
Transaction costs associated with alternative
financings (Note 7) ...................................... (16,299)
---------
Net adjustment to equity ......................... $ 358,951
=========
<PAGE>
We expect to pay approximately $12.25 million in underwriting, legal,
accounting and other issuance-related costs associated with the common stock
offering. This amount is included as a reduction to the proceeds of the common
stock offering.
As part of our financing plan, we are issuing $250 million of units of
trust preferred securities with detachable warrants to purchase shares of our
common stock. The estimated fair value of the warrants, or $87.5 million, is
treated as a reduction to the proceeds from issuance of the trust preferred
securities, and is accreted as additional trust preferred security expense. The
remaining amount of $162.5 million is reflected in the pro forma balance sheet
as trust preferred securities. We expect to incur approximately $8.5 million of
underwriting, legal, accounting and other issuance-related costs related to the
issuance of units of trust preferred securities, which will be accreted into
expense over the expected life of the units.
The proceeds will be used to capitalize Sovereign Bank. It is expected
that Sovereign Bank will use the proceeds to reduce short-term FHLB borrowings.
(7) Other merger-related charges
Our agreement with Fleet/BankBoston requires us to raise $500 million of
capital by December 15, 1999 and sufficient capital to support the acquisition
by January 31, 2000. The net proceeds from public and private debt (but not
common equity or units of trust preferred securities) will be placed in escrow
pending completion of the New England acquisition. We expect the cost of
maintaining the escrowed proceeds pending completion of the New England
acquisition to be approximately $7 million per month. Because of the
uncertainty as to the timing of our financing plan, and because we have assumed
that the financings occur concurrently with the closing of the acquisition, we
have not reflected this amount as an adjustment.
We have also agreed to pay $25 million ($16.3 million after-tax) of
transaction costs associated with alternative financings. See "Financing
Transactions."
(8) For a description of the bank regulatory capital ratios, see "Business --
Supervision and Regulation -- Regulatory Capital Requirements."
(9) Non-performing assets as a percentage of total assets is calculated based
on the loan portfolio we expect to purchase at the date of acquisition,
which will not include any non-performing loans as part of the
transaction. It is expected that non-performing assets as a percentage of
assets will increase as the loans acquired become more seasoned and as we
originate new loans in New England.
S-42
<PAGE>
Selected Forecasted Financial Information
<TABLE>
<CAPTION>
As of or
for the Twelve Months
Ended June 30, 2000
-----------------------
(dollars in thousands,
except share data)
<S> <C>
Condensed Statement of Operations
Total interest income ................................................. $ 2,372,989
Total interest expense ................................................ 1,273,668
-----------
Net interest income ................................................... 1,099,321
Provision for loan losses ............................................. 58,621
-----------
Net interest income after provision for loan losses ................... 1,040,700
Other income .......................................................... 309,347
Other expenses ........................................................ 886,646
Merger-related charges (1) ............................................ 42,000
-----------
Income before income taxes ............................................ 421,401
Income tax provision .................................................. 146,615
-----------
Net income ............................................................ $ 274,786
===========
Selected Share Data
Diluted common shares outstanding (in thousands) ...................... 214,920
GAAP earnings per diluted share (2) ................................... $ 1.28
Operating earnings per diluted share (3)(4) ........................... 1.41
Cash operating earnings per diluted share (4)(5) ...................... 1.97
Revenues per diluted share (4)(6) ..................................... 6.55
Book value per share (7) .............................................. 9.40
Selected Performance Ratios
Return on average assets (8) .......................................... 0.85%
Return on average stockholders' equity (9) ............................ 15.85%
Cash operating return on average stockholders' equity (4)(10) ......... 22.23%
Yield on interest-earning assets (11) ................................. 7.52%
Cost of interest-bearing liabilities (12) ............................. 3.85%
Net interest margin (13) .............................................. 3.48%
Efficiency ratio (14) ................................................. 48.99%
Other income as % of total income ..................................... 21.96%
Non-performing assets as % of total assets(15) ........................ 0.25%
Loan loss allowance as % of total loans ............................... 1.04%
Selected Holding Company Information
Total long-term debt .................................................. $ 1,588,000
Total cash interest expense ........................................... 148,461
EBITA (4)(16) ......................................................... 754,007
EBITA/cash interest expense ........................................... 5.1 x
Selected Balance Sheet Data
Loans (net of allowance) .............................................. $23,005,325
Investment and mortgage-backed securities ............................. 9,219,818
Total assets .......................................................... 36,132,205
Deposits .............................................................. 24,106,921
Borrowings ............................................................ 9,647,975
Stockholders' equity .................................................. 2,002,572
</TABLE>
See accompanying "Summary of Significant Assumptions to Forecasted Financial
Information."
S-43
<PAGE>
(1) We expect to record approximately $42 million of merger integration and
other related expenses.
(2) GAAP earnings per diluted share represent net income divided by
weighted-average diluted shares outstanding during the period.
(3) Operating earnings per diluted share represent net income before the
after-tax effect of merger-related charges divided by weighted-average
diluted shares outstanding during the period.
(4) This measure of financial performance should be considered in addition to,
but not as a substitute for, basic earnings per share, earnings per
diluted share, cash flow from operations and other measures of financial
performance prepared in accordance with GAAP which are presented in the
financial statements included in this prospectus supplement. Additionally,
our calculation of this measure of financial performance may be different
from calculations used by other companies and therefore comparability may
be affected.
(5) Cash operating earnings per diluted share represent income before the
after-tax effect of merger-related charges and the after-tax effect of
intangible amortization and ESOP expense, divided by the weighted-average
diluted shares outstanding during the period.
(6) Revenues per diluted share represent the sum of net interest income and
other income divided by weighted-average diluted shares outstanding during
the period.
(7) Book value per share represents common stockholders' equity divided by
common shares outstanding at the end of the period.
(8) Return on average assets represents net income before the after-tax effect
of merger-related charges as a percentage of average assets for the period
presented.
(9) Return on average stockholders' equity represents net income before the
after-tax effect of merger-related charges as a percentage of average
common equity for the period presented.
(10) Cash operating return on average stockholders' equity represents income
before the after-tax effect of merger-related charges and the after-tax
effect of intangible amortization and ESOP expense, as a percentage of
average common equity for the period presented.
(11) Yield on interest-earning assets represents interest income as a
percentage of average interest-earning assets.
(12) Cost of interest-bearing liabilities represents interest expense as a
percentage of average interest-bearing liabilities.
(13) Net interest margin represents net interest income as a percentage of
average interest-earning assets.
(14) Efficiency ratio represents other expenses reduced by intangible
amortization, trust preferred expense, OREO gains and losses and
non-recurring items as a percentage of net interest income plus other
income.
(15) Non-performing assets as a percentage of total assets is calculated based
on the loan portfolio we expect to purchase at the date of acquisition,
which will not include any non-performing loans as part of the
transaction. It is expected that non-performing assets as a percentage of
assets will increase as the loans acquired become more seasoned and as we
originate new loans in New England.
(16) EBITA represents income before income taxes, interest on holding company
debt and amortization of intangible assets. EBITA is presented
supplementally because we believe it is an appropriate financial indicator
of a holding company's ability to service and incur indebtedness, subject
in our case to certain regulatory limitations on Sovereign Bank's ability
to pay dividends to us. See "Business -- Supervision and Regulation --
Limitations on Dividends and Other Capital Distributions."
S-44
<PAGE>
Summary of Significant Assumptions to Forecasted Financial Information
The forecast is based on the unaudited pro forma condensed combined
balance sheet as of June 30, 1999 presented above, which includes the unaudited
consolidated balance sheet of Sovereign at June 30, 1999 (Historical Sovereign)
and includes the actual unaudited results of Sovereign for the period from July
1, 1999 to August 31, 1999. As discussed under "Pro Forma and Forecasted
Financial Information," the information we have used for the New England assets
and liabilities in the unaudited pro forma condensed combined balance sheet
does not reflect the actual assets and liabilities we may acquire and assume.
This means that the starting point for our forecast may not necessarily be
reliable.
The forecast is presented in partial compliance with presentation
guidelines for forecasts established by the American Institute of Certified
Public Accountants and is based on management's knowledge, belief and
assumptions as more fully described herein. A forecast prepared in accordance
with the American Institute of Certified Public Accountants presentation
guidelines requires the forecast period to encompass a period for which actual
results could be attained. Because the forecasted financial information
presented herein assumes that the New England acquisition was consummated on
June 30, 1999, rather than the actual expected consummation date of April 28,
2000, the forecast period presented, July 1, 1999 through June 30, 2000, is
only in partial compliance with the guidelines of the American Institute of
Certified Public Accountants. Other than the forecast period used, we believe
the forecast period is in compliance with these guidelines. We selected the
twelve-month period ended June 30, 2000 as the forecast period because June 30,
1999 is the most recent date for which there is full balance sheet data
available with respect to Sovereign and certain information available with
respect to the Fleet/BankBoston loans to be acquired and deposits to be
assumed. The assumptions described below are those that management believes are
most significant to the forecast. The forecast reflects management's
expectations, estimates and judgment, as of October 11, 1999, with respect to
the business conditions and Sovereign's expected course of action over the
forecast period. There will usually be differences between forecasted and
actual results, because events and circumstances frequently do not occur as
expected, and those differences may be material.
We do not intend to update or otherwise revise the forecast to reflect
events or circumstances existing or arising after October 11, 1999, or to
reflect the occurrence of unanticipated events. Our assumptions with respect to
the acquired New England assets are based solely upon certain estimates
provided to us by Fleet/BankBoston and certain of our own estimates. There is
no historical financial information (other than that presented herein)
available for the acquired New England assets, and, therefore, these
assumptions are particularly subject to material variation. See "Information
Regarding the Loans and Deposits in the New England Acquisition." Although the
forecast is presented with numerical specificity, the assumptions are
inherently subject to significant economic and competitive uncertainties and
contingencies beyond the control of Sovereign and its management, including,
but not limited to, those with respect to interest rates. In addition, the
forecast period assumes that we have consummated the New England acquisition as
of June 30, 1999, even though we do not expect to consummate the acquisition
until on or about April 28, 2000. Therefore, the forecast does not reflect any
period for which we will have actual operating results. Unanticipated events
may occur that could adversely affect our operating results and, consequently,
our actual results of operations during the forecast period will vary from the
forecast, and these variations may be material.
The forecast and the related assumptions constitute forward-looking
statements within the meaning of the Private Securities Litigation Act of 1995.
See "Risk Factors" and "Forward-Looking Statements."
The accounting policies used in the financial forecast are those that are
expected to be used during the forecast period. These accounting policies are
the same as those used by Sovereign in preparing its historical consolidated
financial statements and are described in the Summary of Significant Accounting
Policies in note 1 to Sovereign's consolidated financial statements for the
year ended December 31, 1998. Those financial statements should be read for
additional information.
1. Purchase accounting adjustments
Sovereign has agreed to pay a premium of 12.0% on the amount of deposits
assumed at closing. Based
on information provided to Sovereign by Fleet/BankBoston, it is assumed that
the non-cash assets to be
S-45
<PAGE>
acquired and deposits to be assumed have a fair value of $8.2 billion and $11.9
billion, respectively, for an estimated premium of $1.4 billion. The
acquisition will be accounted for as a purchase transaction and, accordingly,
the assets and liabilities to be acquired have been valued based on their
projected estimated fair values. The deposits to be assumed were not adjusted
to market value as of June 30, 1999, because Sovereign believes the market
value adjustment will be minimal.
Sovereign applied the credit policies, practices and procedures it uses to
evaluate the adequacy of the allowance for loan losses related to the loans
Sovereign has originated and purchased in the past to substantially all of the
loan portfolio to be acquired in the New England acquisition. Based on this
evaluation, Sovereign calculated an allowance for loan losses that, in its
judgment, reflected losses inherent in the portfolio to be purchased as of its
due diligence date. This equated to approximately $104 million and is reflected
as an addition to goodwill. Because the mix of assets acquired will be
different, and credit conditions will change, the actual allowance for loan
loss to be established at consummation of the acquisition may be different.
Assumed merger-related costs of $27.5 million have been included as part
of the total purchase price.
A discount of $85 million was recorded as a fair value adjustment,
attributable to changes in interest rates, to the loans to be acquired and is
accreted to adjust the effective yield on the loans to the current market rate
as of June 30, 1999 using the level yield method over the estimated life of the
corresponding loans.
In addition, a core deposit intangible (CDI), which is a measure of the
value of consumer demand and savings deposits being acquired, has been valued
at approximately 5% of the total of such deposits, or $411 million. The CDI is
assumed to be amortized over ten years using the sum of the years digits
method.
The remaining excess of the total purchase price over the estimated fair
value of the net assets acquired, amounting to $1.018 billion, has been
recorded as goodwill and is being amortized using the straight line method over
25 years.
The allocation of goodwill and core deposit intangible as described in
these assumptions and the notes to the unaudited pro forma condensed combined
balance sheet is preliminary and is based on currently available information. A
final allocation will not be made until after the consummation of the
acquisition and will be based on a study and analysis of the fair value of the
assets and liabilities acquired. The final allocation could be materially
different from the estimates contained in these assumptions or set forth in the
forecast. For additional information regarding the pro forma adjustments
related to the transaction, see the notes to the unaudited pro forma condensed
combined balance sheet.
2. Interest rates
Interest rates are based on the following actual market rates as of
September 17, 1999, which include:
o Three-month LIBOR at 5.5%;
o One-year U.S. Treasury at 5.2%;
o Five-year U.S. Treasury at 5.7%;
o Ten-year U.S. Treasury at 5.9%; and
o Overnight Borrowing Rate at 5.4%.
The U.S. Treasury yield curve, upon which we base our assumptions with
respect to new loan originations, is assumed to remain constant for the
forecast period. To reflect anticipated year-end upward pressure on short-term
interest rates, the three-month LIBOR rate, upon which we base our assumptions
with respect to borrowings (other than overnight borrowings), increases in the
forecast from 5.5% to 6.0% on September 1, 1999, remains at 6.0% through
January 31, 2000, and then reduces to 5.4% on February 1, 2000
S-46
<PAGE>
through June 30, 2000. The Overnight Borrowing Rate, upon which we base our
assumptions with respect to our overnight borrowings, increases in the forecast
from 5.4% to 5.5% on November 1, 1999, increases to 5.8% on December 1, 1999,
remains at 5.8% through January 31, 2000 and reduces to 5.4% on February 1,
2000 through June 30, 2000.
3. Interest income
Historical Sovereign's total asset growth is based on Sovereign's
forecasted origination, repayment, prepayment and maturity assumptions for
investment securities, residential loans, commercial loans, and consumer loans.
Based on these assumptions, total assets are estimated to grow at an annual
rate of 5.3%.
Historical Sovereign's investment portfolio is estimated to decline, after
taking into account estimated maturities of investments in the existing
portfolio as well as purchases, prepayments and repayments in the ordinary
course, at an annual rate of 7.8%, with total net proceeds to Sovereign of $776
million. The investment portfolio is assumed to provide an annual yield of
6.8%. The net proceeds to Sovereign are used throughout the forecast period to
reduce short-term borrowings or are re-invested in similar investments.
Based on forecasted origination, repayment, prepayment and maturity
assumptions, as well as the current interest rate environment, Historical
Sovereign's total loan portfolio is estimated to grow at a blended annual rate
of 18.6%, at a weighted average yield of 7.8%. The acquired loans are estimated
to grow at a blended annual rate of 5.7%, at a weighted average yield of 8.2%
after giving effect to the fair value adjustment. Growth rates, by their
nature, are difficult to predict and, although we consider our assumptions to
be reasonable, our assumptions with respect to commercial and consumer loans
are higher than those with respect to residential loans. Our actual achievement
of these growth rates will be subject to a number of conditions, including
interest rate levels, general economic conditions, customer retention after
completion of the New England acquisition and other factors.
4. Interest expense
Historical Sovereign's deposits are assumed to grow over the forecast
period by approximately 4.7% based on the following:
o Core deposits (DDA, NOW, Savings and Money Market accounts) are assumed
to grow at an annual rate of 2.7% at a weighted average cost of 2.1%.
o Retail certificates of deposit are assumed to decline at an annual rate
of 3.9% at a weighted average cost of 4.9%.
o Certificates of deposit greater than $100,000 are assumed to grow at an
annual rate of 46.4% at a weighted average cost of 5.6%. This growth rate
was calculated exclusive of seasonal fluctuations caused by certificates
held by municipalities which mature during June each year and are
reinvested during July. Had those certificates been included in the
calculation the annual growth rate would have been 104.4%.
o Brokered certificates of deposit are expected to mature according to
their contractual terms and are assumed to be renewed at an average cost
of three-month LIBOR minus three basis points.
Acquired deposits are assumed to decline at an annual rate of 4.6%. The
rate of decline in deposits is particularly difficult to estimate in the
context of a transaction such as the acquisition, and may be subject to
material variation based on a number of factors beyond Sovereign's control,
such as customer reaction to the branch transfers, competition with other local
banks, including the other Fleet/BankBoston branches that will remain in the
same community, and our ability to offer similar products to those offered by
Fleet/BankBoston.
Sovereign has assumed that it will reduce its reliance on Federal Home
Loan Bank (FHLB) advances by repaying approximately $3.6 billion of short-term
FHLB borrowings with a weighted average cost of 5.4% using net cash proceeds
received as a result of the acquisition and the net cash proceeds from
Sovereign's investment portfolio as described in note 3 above.
S-47
<PAGE>
5. Provision for loan losses
The provision for loan losses is assumed to be 0.24% of average loans
annually for Historical Sovereign and 0.32% of the ending outstanding loan
balance annually for the acquired assets. These estimates approximate
Sovereign's historical net charge-offs, adjusted for the relatively higher
credit risk of the acquired loans during the forecast period. For the acquired
loans, Sovereign has assumed a low level of net charge-offs for the beginning
of the forecast period, based upon Fleet/BankBoston's agreement that Sovereign
will not acquire any loans that are more than 90 days past due. As the forecast
period progresses, Sovereign has assumed a higher level of net charge-offs for
the acquired loans, increasing to approximately 0.50% of outstanding loan
balances by the end of the forecast period.
6. Non-interest income
Non-interest income includes loan origination fees, loan servicing and
late charges, retail banking fees, gain on sale of investments, mortgage
banking reserves, alternative investment fees, bank owned life insurance income
and other miscellaneous items.
Historical Sovereign's non-interest income for the forecast period is
estimated to be $137 million, which represents 7.4% of total annual forecast
revenues for Historical Sovereign, and an increase of $5 million, or 4.1%, over
Historical Sovereign's annualized total non-interest income for the six-month
period ended June 30, 1999, which includes the operations of the 1998
CoreStates branch acquisition.
Non-interest income derived from the acquired assets is assumed to be $173
million, which represents approximately 20.7% of total annual revenues for the
acquired assets and assumed liabilities. In addition to the non-interest income
that Sovereign estimates it would earn from current operation of the acquired
assets and liabilities, Sovereign expects to earn additional non-interest
income by expanding certain existing business into the New England market, and
assumes growth at an annual rate of 6.0%.
7. Non-interest expense
Non-interest expense consists primarily of salaries and wages, premises
and equipment, other operating expenses, goodwill amortization and expense on
trust preferred securities.
Historical Sovereign's operating expenses for the forecast period are
assumed to be $363 million, which represents an efficiency ratio of 45.1%. This
represents an increase of $24 million or 6.9% in Historical Sovereign's total
annualized expenses for the six-month period ended June 30, 1999, which
includes the operations of the 1998 CoreStates branch acquisition. Costs
related to salary and wages, premises and equipment, and other expenses are
assumed to grow at an annual rate of 6.9%. In addition, intangible asset
amortization and trust preferred securities expense are assumed to increase by
$124 million and $20.9 million, respectively, as a result of the amortization
of the goodwill and other intangibles created in the acquisition and the
financing of the acquisition.
Sovereign estimates that direct operating expenses for the acquired assets
will be approximately $163 million. Sovereign estimates that indirect and
overhead expenses will be $164 million for a total of $327 million of operating
expenses. Costs related to salary and wages, premises and equipment, and other
expenses are assumed to grow at an annual rates of 5%, 3%, and 3%,
respectively. Indirect and overhead expense additions include additional staff
needed to run expanded business line operations and technology operations and
various administrative and support functions such as accounting and finance,
treasury, legal, human resources, credit policy, marketing, facilities
management and other areas. In addition, expenses have been added by Sovereign
for incentive compensation, ATM occupancy and equipment costs.
The most significant operating expense related to the acquisition is an
estimated $80 million expense assumed to be incurred for systems and technology
operations for the acquired New England assets. Sovereign has assumed it will
use one or more third parties for this work. However, there are not yet firm
contracts with any third parties and estimating the costs of this work is
difficult. Sovereign may also decide to retain a portion of this work in-house.
Accordingly, this expense component (which is included as part of incremental
expense additions) may, in particular, vary materially from the assumptions.
8. Merger-related charges
Sovereign has estimated that merger integration and other related charges
of $42 million will be incurred during the forecast period and will be expensed
as incurred.
S-48
<PAGE>
9. Income tax
An annual effective tax rate of 34.5% is assumed for Historical Sovereign
for the period July 1, 1999 to December 31, 1999, and an annual effective tax
rate of 35.0% is assumed for the balance of the forecast period for Historical
Sovereign. An annual effective tax rate of 35.0% is assumed for the acquired
assets and assumed liabilities for the entire forecast period.
10. Dividends
Dividends from Sovereign Bank to Sovereign Bancorp are assumed to be paid
in amounts such that Sovereign Bank continues to meet or exceed the regulatory
capital requirements for a well-capitalized depository institution. Dividends
from Sovereign Bancorp to its stockholders are assumed to remain at the current
level of $0.025 per quarter throughout the forecast. These payment assumptions
do not necessarily represent the policies that Sovereign Bank or Sovereign
Bancorp may elect to follow in the future.
11. Financing
Sovereign assumes the following financing will be in place to support the
acquisition:
<TABLE>
<CAPTION>
(in thousands)
---------------
<S> <C>
Senior credit facility ............................ $ 500,000
Senior notes ...................................... 700,000
Trust preferred securities with detachable warrants
Trust preferred securities ....................... 162,500
Warrants ......................................... 87,500
Common stock issued at $9.36 per share ............ 300,000
----------
Total financing ................................ $1,750,000
==========
</TABLE>
<PAGE>
We have assumed an interest rate of 9.25% on the senior credit facility
and 10.50% on the senior notes, resulting in annual cash interest expense of
approximately $46.3 million and $73.5 million, respectively. The actual
interest rates on the senior notes we will issue will be 10.25% with respect to
$200,000,000 of senior notes and 10.50% with respect to $500,000,000 of senior
notes. The amortization of debt issuance costs increases the annual interest
expense by $2.5 million on the senior credit facility and $3.5 million on the
senior notes. The trust preferred securities are issued at an assumed coupon of
6.75%, resulting in interest expense of $16.9 million annually. The value of
the warrants, or $87.5 million, is amortized on a level yield basis annually,
over the 30-year life of the warrants. The actual coupon at which we will issue
the trust preferred securities will be 7.50%.
For purposes of this forecast, we have assumed the issuance of
approximately 32 million shares of common stock at an offering price of $9.36
per share, which was the last reported sale price on the Nasdaq National Market
on October 11, 1999. The actual number of shares to be issued in the offering
of common stock is 38,095,238 shares at a public offering price of
approximately $7.88 per share. The increase in the actual number of shares
issued, combined with the difference between assumed and actual terms of our
other financings, results in a decrease in forecasted net income and forecasted
GAAP earnings per diluted share of $882,000 and $0.04, respectively, from the
amounts presented in the forecast.
A change in the interest rates for the bank debt of 0.125% would result in
a change of interest expense of approximately $625,000 annually.
The net proceeds from public and private debt (but not common equity or
units of trust preferred securities) will be placed in escrow or in a similar
structure pending completion of the New England acquisition. We expect the cost
of maintaining the escrowed proceeds pending completion of the New England
acquisition to be approximately $7 million per month. Because the forecast
assumes simultaneous completion of the New England acquisition and related
financings, we have not included this amount in our assumptions.
S-49
<PAGE>
12. Regulatory requirements
All regulatory requirements are assumed to remain constant throughout the
forecast period. See "Business--Supervision and Regulation."
13. Diluted shares outstanding
Diluted shares outstanding for the forecast period are assumed as follows:
<TABLE>
<CAPTION>
(in thousands)
---------------
<S> <C>
Sovereign diluted common shares outstanding as of June 30, 1999 182,867
Issuance of common stock
(estimated $300 million of gross proceeds) ................... 32,053
-------
Total diluted common shares outstanding ...................... 214,920
=======
</TABLE>
14. Trust preferred securities
The trust preferred securities are assumed to be issued as units of trust
preferred securities with detachable warrants to purchase shares of our common
stock. The fair value of the warrants is assumed to be $87.5 million and is
treated as an original issue discount (OID) security. Accordingly, the value of
the warrants is initially recorded as additional paid in capital to
stockholders' equity, and the remaining gross proceeds are recorded as the
initial value of trust preferred securities. The recorded amount of the trust
preferred securities is increased annually by the amount of OID amortization
that is recorded as additional expense on the trust preferred securities. The
OID amortization is recorded on a level yield basis over the 30-year life of
the warrants. Additionally, deferred issuance costs of 3.00%, or $7.5 million,
are recorded as other assets and are amortized into other expense on a level
yield basis over the expected life of the trust preferred securities.
S-50
<PAGE>
SELECTED SOVEREIGN HISTORICAL FINANCIAL INFORMATION
The following table sets forth selected historical consolidated financial
information for Sovereign for the periods indicated. The information as of and
for each of the three years ended December 31, 1998, 1997 and 1996 has been
derived from our audited consolidated financial statements. The information as
of and for each of the six-month periods ended June 30, 1999 and 1998 has been
derived from our unaudited condensed consolidated financial statements. In the
opinion of our management, the information as of and for each of the six-month
periods ended June 30, 1999 and 1998 includes all normal recurring adjustments
necessary to present fairly this information.
The results of operations for the six-month period ended June 30, 1999
should not be regarded as indicative of expected results for the full year.
This data does not give effect to the New England acquisition or the financings
required to provide the capital necessary to support the acquisition.
The balance sheet and related information as of June 30, 1999 includes the
consolidated accounts of Peoples Bancorp, Inc., which we acquired at the close
of business on June 30, 1999. Because our acquisition of Peoples Bancorp was
accounted for as a purchase, our consolidated results of operations and other
related information for the six-month period ended June 30, 1999 do not include
Peoples Bancorp's results of operations. For the three months ended March 31,
1999, Peoples Bancorp had net income of $4.7 million.
S-51
<PAGE>
<TABLE>
<CAPTION>
As of or for As of or for
the Six Months Ended June 30, the Year Ended December 31,
-------------------------------- --------------------------------
1999(1) 1998(1) 1998 1997
--------------- --------------- --------------- ---------------
(dollars in thousands, except share data)
<S> <C> <C> <C> <C>
Selected Statement of Operations
Total interest income ................................ $ 745,472 $ 655,972 $ 1,355,371 $ 1,178,777
Total interest expense ............................... 458,272 416,323 861,759 746,695
------------ ------------ ------------ ------------
Net interest income .................................. 287,200 239,649 493,612 432,082
Provision for loan losses (2) ........................ 15,000 13,960 27,961 41,125
------------ ------------ ------------ ------------
Net interest income after provision for loan
losses .............................................. 272,200 225,689 465,651 390,957
Other income (2) ..................................... 65,594 47,559 105,181 48,688
Other expenses (2) ................................... 193,814 181,205 359,626 269,783
------------ ------------ ------------ ------------
Income before income taxes ........................... 143,980 92,043 211,206 169,862
Income tax provision ................................. 49,888 34,049 74,751 67,324
------------ ------------ ------------ ------------
Net income ........................................... $ 94,092 $ 57,994 $ 136,455 $ 102,538
============ ============ ============ ============
Selected Share Data
Period end common shares outstanding
(in thousands) ...................................... 180,977 158,247 159,727 141,218
GAAP earnings per share (3) .......................... $ 0.58 $ 0.36 $ 0.85 $ 0.66
Operating earnings per diluted share (4) (5) ......... 0.58 0.52 1.06 0.89
Cash operating earnings per diluted share (5) (6) 0.67 0.57 1.17 1.03
Book value per diluted share (7) ..................... 8.01 7.04 7.54 7.42
Revenues per diluted share (5) (8) ................... 2.19 1.78 3.71 3.08
Selected Performance Ratios
Return on average assets (9) ......................... 0.84% 0.91% 0.87% 0.85%
Return on average stockholders' equity (10) .......... 15.91% 15.96% 15.50% 14.83%
Cash operating return on average stockholders'
equity (5) (11) ..................................... 18.08% 17.17% 17.13% 17.08%
Yield on interest-earning assets (12) ................ 7.32% 7.67% 7.57% 7.57%
Cost of interest-bearing liabilities (13) ............ 4.33% 4.87% 4.76% 4.92%
Net interest margin (14) ............................. 2.86% 2.84% 2.79% 2.79%
Efficiency ratio (15) ................................ 48.08% 45.65% 46.59% 46.07%
Other income as % total income ....................... 18.59% 16.56% 17.57% 10.13%
Non-performing assets as % of total assets ........... 0.36% 0.56% 0.53% 0.61%
Loan loss allowance as % of total loans .............. 1.08% 1.11% 1.19% 1.03%
Selected Bank Regulatory Capital Ratios (16)
Tangible capital ratio ............................... 5.89% 5.19% 5.11% 5.23%
Core capital ratio(17) ............................... 6.35% 5.36% 5.21% 5.75%
Tier 1 capital ratio ................................. 10.37% 9.95% 9.29% 10.37%
Total risk-based capital ratio ....................... 11.32% 10.94% 10.32% 12.96%
Selected Balance Sheet Data
Total assets ......................................... $ 24,594,037 $ 19,781,106 $ 21,913,873 $ 17,655,455
Loans ................................................ 12,476,997 10,638,929 11,285,840 11,324,122
Allowance for possible loan losses ................... (134,183) (118,002) (133,802) (116,823)
Investment and mortgage-backed securities ............ 9,996,081 7,329,657 8,502,082 5,372,713
Deposits ............................................. 12,170,470 9,980,685 12,322,716 9,515,294
Borrowings ........................................... 10,668,485 8,240,370 7,900,592 6,863,643
Stockholders' equity ................................. 1,449,801 1,113,953 1,204,068 1,047,795
Selected Cash Flow Data
Net cash (used)/provided by operating activities $ (60,717) $ (273,107) $ (15,015) $ (53,884)
Net cash used for investing activities ............... (1,298,997) (1,320,121) (3,520,865) (2,106,185)
Net cash provided by financing activities ............ 1,403,964 1,846,224 3,833,667 2,241,556
Selected Other Data
EBITA (5) (18) ....................................... $ 176,747 $ 104,136 $ 248,245 $ 195,881
Number of branches ................................... 305 150 291 150
Ratio of earnings to fixed charges (19)
Excluding interest on deposits ...................... 1.57 x 1.42 x 1.48 x 1.44 x
Including interest on deposits ...................... 1.31 x 1.22 x 1.24 x 1.22 x
Ratio of earnings to combined fixed charges
and preferred stock dividends (20)
Excluding interest on deposits ...................... 1.57 x 1.41 x 1.47 x 1.41 x
Including interest on deposits ...................... 1.31 x 1.21 x 1.24 x 1.21 x
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
As of or for
the Year Ended
December 31,
---------------
1996
---------------
<S> <C>
Selected Statement of Operations
Total interest income ................................ $ 1,016,826
Total interest expense ............................... 629,860
------------
Net interest income .................................. 386,966
Provision for loan losses (2) ........................ 22,685
------------
Net interest income after provision for loan
losses .............................................. 364,281
Other income (2) ..................................... 63,379
Other expenses (2) ................................... 289,773
------------
Income before income taxes ........................... 137,887
Income tax provision ................................. 47,509
------------
Net income ........................................... $ 90,378
============
Selected Share Data
Period end common shares outstanding
(in thousands) ...................................... 134,000
GAAP earnings per share (3) .......................... $ 0.59
Operating earnings per diluted share (4) (5) ......... 0.76
Cash operating earnings per diluted share (5) (6) 0.87
Book value per diluted share (7) ..................... 6.64
Revenues per diluted share (5) (8) ................... 2.96
Selected Performance Ratios
Return on average assets (9) ......................... 0.81%
Return on average stockholders' equity (10) .......... 13.18%
Cash operating return on average stockholders'
equity (5) (11) ..................................... 15.17%
Yield on interest-earning assets (12) ................ 7.49%
Cost of interest-bearing liabilities (13) ............ 4.77%
Net interest margin (14) ............................. 2.86%
Efficiency ratio (15) ................................ 51.34%
Other income as % total income ....................... 14.07%
Non-performing assets as % of total assets ........... 0.78%
Loan loss allowance as % of total loans .............. 0.77%
Selected Bank Regulatory Capital Ratios (16)
Tangible capital ratio ............................... 5.16%
Core capital ratio(17) ............................... 5.17%
Tier 1 capital ratio ................................. 10.63%
Total risk-based capital ratio ....................... 13.71%
Selected Balance Sheet Data
Total assets ......................................... $ 15,298,690
Loans ................................................ 9,595,495
Allowance for possible loan losses ................... (73,847)
Investment and mortgage-backed securities ............ 5,012,118
Deposits ............................................. 8,660,684
Borrowings ........................................... 5,599,109
Stockholders' equity ................................. 889,751
Selected Cash Flow Data
Net cash (used)/provided by operating activities $ 176,523
Net cash used for investing activities ............... (2,260,804)
Net cash provided by financing activities ............ 2,033,644
Selected Other Data
EBITA (5) (18) ....................................... $ 168,186
Number of branches ................................... 134
Ratio of earnings to fixed charges (19)
Excluding interest on deposits ...................... 1.49 x
Including interest on deposits ...................... 1.22 x
Ratio of earnings to combined fixed charges
and preferred stock dividends (20)
Excluding interest on deposits ...................... 1.44 x
Including interest on deposits ...................... 1.20 x
</TABLE>
- -----------
(1) Selected performance ratios for June 30, 1999 and 1998 have been
annualized where applicable.
(2) Our 1998 and 1997 results include special charges comprised of:
merger-related charges of $49.9 million ($33.5 million after-tax) in 1998
and $44.1 million ($29.8 million after-tax), including $24.9 million
($16.2 million after-tax) classified as a special provision for loan loss,
in 1997, resulting from our acquisitions during 1998 and 1997; and losses
from non-recurring sales of held-to-maturity securities of $0.4 million
($0.3 million after-tax) and $10.0 million ($6.9 million after-tax) in
1998 and 1997, respectively (classified as security losses); and the 1996
results include the non-recurring SAIF assessment of $40.1 million ($24.9
million after-tax), classified in other expenses. Our six months ended
June 30, 1998 results include special charges comprised of merger-related
charges of $39.1 million ($25.5 million after-tax), resulting from our
acquisition of ML Bancorp, Inc. in February 1998 classified as other
expenses.
S-52
<PAGE>
(3) GAAP earnings per diluted share represent net income divided by
weighted-average diluted shares outstanding during the period.
(4) Operating earnings per diluted share represent net income before the
after-tax effect of special charges, divided by weighted-average diluted
shares outstanding during the period.
(5) This measure of financial performance should be considered in addition to,
but not as a substitute for, basic earnings per share, earnings per
diluted share, cash flow from operations and other measures of financial
performance prepared in accordance with GAAP which are presented in the
financial statements included in this prospectus supplement. Additionally,
our calculation of this measure of financial performance may be different
from the calculation used by other companies and therefore comparability
may be affected.
(6) Cash operating earnings per diluted share represent income before the
after-tax effect of special charges and the after-tax effect of intangible
amortization and ESOP expense, divided by weighted-average diluted shares
outstanding during the period.
(7) Book value per share represents common stockholders' equity divided by
common shares outstanding at the end of the period.
(8) Revenues per diluted share represent the sum of net interest income and
other income, before special charges, divided by the weighted-average
diluted shares outstanding during the period.
(9) Return on average assets represents net income available to common
stockholders before the after-tax effect of special charges as a
percentage of average assets for the periods presented.
(10) Return on average stockholders' equity represents net income available to
common stockholders before the after-tax effect of special charges as a
percentage of average common equity for the periods presented.
(11) Cash operating return on average stockholders' equity represents income
before the after-tax effect of special charges and the after-tax effect of
intangible amortization and ESOP expense as a percentage of average common
equity for the periods presented.
(12) Yield on interest-earning assets represents interest income as a
percentage of average interest-earning assets.
(13) Cost of interest-bearing liabilities represents interest expense as a
percentage of average interest-bearing liabilities.
(14) Net interest margin represents net interest income as a percentage of
average interest-earning assets.
(15) Efficiency ratio represents other expense reduced by intangible
amortization, trust preferred expense, OREO gains and losses and
non-recurring items and special charges, as a percentage of net interest
income plus other income.
(16) For a description of the bank regulatory capital ratios, see "Business --
Supervision and Regulation -- Regulatory Capital Requirements."
(17) Core capital ratio is calculated in accordance with national bank
regulatory requirements, which are different from the requirements of the
Office of Thrift Supervision, our primary regulator. The core capital
ratio calculated under the Office of Thrift Supervision requirements at
June 30, 1999 was 5.89%. For a description of Office of Thrift Supervision
requirements, see "Business -- Supervision and Regulation -- Regulatory
Capital Requirements."
(18) EBITA represents income before income taxes, interest on holding company
debt and amortization of intangible assets. EBITA is presented
supplementally because we believe it is an appropriate financial indicator
of a holding company's ability to service and incur indebtedness, subject
in our case to certain regulatory limitations on Sovereign Bank's ability
to pay dividends to us. See "Business -- Supervision and Regulation --
Limitations on Dividends and Other Capital Distributions."
(19) We computed our ratio of earnings to fixed charges by dividing earnings by
fixed charges on a consolidated basis. Earnings consist primarily of
income before income taxes adjusted for fixed charges. Fixed charges
consist primarily of interest expense on short-term and long-term
borrowings and trust preferred securities expense.
(20) We computed our ratio of earnings to combined fixed charges and preferred
stock dividends by dividing earnings by the sum of fixed charges and
preferred stock dividend requirements. Earnings consist primarily of
income before income taxes adjusted for fixed charges. Fixed charges
consist primarily of interest expense on short-term and long-term
borrowings, and trust preferred securities expense. On May 15, 1998, we
redeemed all outstanding shares of our 6 1/4% Cumulative Convertible
Preferred Stock, Series B at a redemption price of $52.188 per share.
Substantially all holders of the Series B Preferred Stock converted their
shares of preferred stock to shares of our common stock.
S-53
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF CONSOLIDATED
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion of our consolidated financial condition and
results of operations should be read together with the financial statements and
the related notes included elsewhere in this prospectus supplement. This
discussion contains forward-looking statements that involve risks and
uncertainties. Our actual results may differ materially from those anticipated
in those forward-looking statements as a result of certain factors, including
but not limited to, those set forth under and included in this prospectus
supplement. All per share amounts presented have been adjusted to reflect all
stock dividends and stock splits.
The following discussion of our historical consolidated financial
condition and results of operations does not take into consideration the New
England acquisition or the equity and debt we propose to issue to provide the
capital necessary to support the acquisition.
Recent Developments
Net income for the three-month period ended September 30, 1999 was $56.0
million compared to net income of $34.8 million for the same period in 1998.
Diluted earnings per share were $0.31 for the three-month period ended
September 30, 1999, compared to $0.22 for the same period in 1998.
Net income for the nine-month period ended September 30, 1999 was $150.1
million, up from $92.8 million for the nine-month period ended September 30,
1998. For the nine-month period ended September 30, 1999, diluted earnings per
share were $0.89, up from $0.58 for the same period in 1998.
Net operating income, defined as net income before the after-tax effect of
merger-related and special charges, for the three-month and nine-month periods
ended September 30, 1999 was $56.0 million and $150.1 million, respectively,
compared to net operating income of $42.8 million and $126.3 million for the
same periods in 1998, respectively. Diluted operating earnings per share for
the three-month and nine-month periods ended September 30, 1999 were $0.31 and
$0.89, respectively, compared to $0.27 and $0.79 for the same periods in 1998,
respectively. Merger-related charges of $10.9 million ($7.8 million after-tax)
and 49.9 million ($33.5 million after-tax) were incurred during the three-month
and nine-month periods ended September 30, 1998, respectively.
Return on average equity, return on average tangible equity and return on
average total assets (excluding merger-related and special charges) were
15.73%, 25.68% and 0.86%, respectively, for the nine-month period ended
September 30, 1999, compared to 15.87%, 19.20% and 0.90%, respectively, for the
same period in 1998.
Net interest income for the three-month and nine-month periods ended
September 30, 1999 was $161.9 million and $449.1 million, respectively,
compared to $121.2 million and $360.9 million for the same periods of 1998,
respectively. Our net interest margin for the three-month and nine-month
periods ended September 30, 1999 was 2.95% and 2.88%, respectively, compared to
2.73% and 2.80% for the same periods in 1998, respectively.
Other income was $35.0 million and $100.5 million for the three-month and
nine-month periods ended September 30, 1999, respectively, compared to $25.7
million and $73.3 million for the three-month and nine-month periods ended
September 30, 1998, respectively.
General and administrative expense was $90.8 million and $260.4 million
for the three-month and nine-month periods ended September 30, 1999,
respectively, compared to $66.4 million and $195.7 million for the same periods
in 1998, respectively. Our efficiency ratio was 46.3% and 47.5% for the
three-month and nine-month periods ended September 30, 1999, respectively,
compared to 45.2% and 45.5% for the same periods in 1998, respectively.
Other operating expense was $13.0 million and $37.2 million for the
three-month and nine-month periods ended September 30, 1999, respectively,
compared to $18.6 million (including merger charges of $10.9 million) and $70.5
million (including merger charges of $49.9 million) for the same periods in
1998, respectively.
S-54
<PAGE>
At September 30, 1999, we had total assets of $25.2 billion, compared to
$21.5 billion at September 30, 1998, total loans of $13.4 billion, compared to
$11.3 billion at September 30, 1998, total deposits of $11.9 billion, compared
to $12.4 billion at September 30, 1998, and total stockholders' equity of $1.4
billion, compared to $1.1 billion at September 30, 1998.
At September 30, 1999, our commercial loan portfolio was $3.5 billion,
compared to $1.9 billion at September 30, 1998. At September 30, 1999, our
commercial loans totaled 26% of our total loan portfolio, compared to 17% at
September 30, 1998.
Our ratio of non-performing assets to total assets decreased to 0.38% at
September 30, 1999 from 0.55% at September 30, 1998. The ratio of our loan loss
allowance to our non-performing loans was 154% at September 30, 1999, compared
to 127% at September 30, 1998.
Results of Operations for the Six Months Ended June 30, 1999
General
Net income for the six-month periods ended June 30, 1999 and 1998,
including the impact of the merger charges and losses from non-recurring sales
of held-to-maturity securities, was $94.1 million and $58.0 million,
respectively, and diluted earnings per share for the same periods were $0.58
and $0.36, respectively.
Net operating income, defined as net income before the after-tax effect of
merger-related and special charges, for the six-month period ended June 30,
1999 was $94.1 million, an increase of 13% when compared to net operating
income of $83.5 million for the same period in 1998. Diluted operating earnings
per share for the six-month periods ended June 30, 1999 and 1998 were $0.58 and
$0.52, respectively. Merger charges of $39.1 million ($25.5 million after-tax)
and losses from non-recurring sales of held-to-maturity securities of $0.5
million ($0.3 million after-tax) related to our acquisition of ML Bancorp, Inc.
were incurred during the first quarter of 1998. Expenses included as part of
the merger-related charges consisted of human-resources-related costs and other
expenses, including investment banking fees and legal expenses.
Return on average equity, return on average tangible equity and return on
average total assets, excluding the merger-related and special charges
discussed above, were 15.91%, 27.74% and 0.84% for the six-month period ended
June 30, 1999 compared to 15.96%, 19.19% and 0.91% for the same period in 1998.
Average equity to average total assets for the six-month periods ended June 30,
1999 and 1998 was 5.28% and 5.72%, respectively.
Net Interest Income
Net interest income for the six-month period ended June 30, 1999 was $287
million compared to $240 million for the same period in 1998. This increase was
attributable to an increase in average balances resulting from internal growth
and recent acquisitions. Our net interest margin (net interest income divided
by average interest-earning assets) for the six-month period ended June 30,
1999 was 2.86% compared to 2.84% for the same period in 1998.
Interest on investment securities available-for-sale was $251 million for
the six-month period ended June 30, 1999 compared to $102 million for the same
period in 1998. The average balance of investment securities available-for-sale
was $7.6 billion with an average yield of 6.74% for the six-month period ended
June 30, 1999 compared to an average balance of $3.1 billion with an average
yield of 6.87% for the same period in 1998. The increase in the average balance
of investment securities available-for-sale was due to an active decision by
management to increase balance sheet flexibility by placing more investments
into available-for-sale securities.
Interest on investment securities held-to-maturity was $52.2 million for
the six-month period ended June 30, 1999 compared to $110 million for the same
period in 1998. The average balance of investment securities held-to-maturity
was $1.5 billion with an average yield of 6.95% for the six-month period ended
June 30, 1999 compared to an average balance of $3.0 billion with an average
yield of 7.34% for the same period in 1998.
S-55
<PAGE>
Interest and fees on loans were $439 million for the six-month period
ended June 30, 1999 compared to $441 million for the same period in 1998. The
average balance of loans was $11.6 billion with an average yield of 7.63% for
the six-month period ended June 30, 1999 compared to an average balance of
$11.2 billion with an average yield of 7.89% for the same period in 1998.
Interest on deposits was $214 million for the six-month period ended June
30, 1999 compared to $206 million for the same period in 1998. The average
balance of deposits was $12.0 billion with an average cost of 3.59% for the
six-month period ended June 30, 1999 compared to an average balance of $9.8
billion with an average cost of 4.23% for the same period in 1998. The increase
in average balance and the decrease in the average cost of deposits was
primarily the result of our acquisition of approximately $2.2 billion of
low-cost deposits from the CoreStates branch acquisition during the third
quarter of 1998 and strong internal core deposit growth with major emphasis on
attracting lower-cost deposits from corporations, governmental units and
consumers.
Interest on borrowings was $245 million for the six-month period ended
June 30, 1999 compared to $210 million for the same period in 1998. The average
balance of borrowings was $9.2 billion with an average cost of 5.30% for the
six-month period ended June 30, 1999 compared to an average balance of $7.3
billion with an average cost of 5.73% for the same period in 1998. The increase
in the average balance and the decrease in the average cost of borrowings was
the result of balance sheet growth being partially funded by borrowings and a
general decline in interest rates between the two periods. During the six-month
period ended June 30, 1999, we funded our balance sheet growth through
borrowings as the cost of borrowings was lower than the cost of retail
certificates of deposit.
Provision for Possible Loan Losses
The provision for possible loan losses for the six-month period ended June
30, 1999 was $15.0 million compared to $14.0 million for the same period in
1998.
Over the last few years, through several strategic acquisitions and
internal restructuring initiatives, we have diversified our lending efforts and
increased our emphasis on providing our customers with small business loans and
an expanded line of commercial and consumer products, such as asset-based
lending and automobile loans. As a result of the increased risk inherent in
these loan products and as we continue to place emphasis on small business and
consumer lending in future years, management will regularly evaluate our loan
portfolio and record additional loan loss reserves as is necessary.
Historically, our additions to our loan loss reserve (through income statement
charges and acquisition accounting) have been sufficient to absorb the
incremental credit risk in our loan portfolio. Excluding charge-offs of $4.3
million incurred as part of an accelerated disposition of non-performing
residential loans, provisioning is sufficiently in excess of net charge-offs
for the periods presented. Management believes that an increase in provision
for the six-month period ended June 30, 1999 versus June 30, 1998 was warranted
due to the changing composition and increased risk in the loan portfolio, as
discussed above. For additional information with respect to our asset quality,
see "-- Loan Portfolio."
Our net charge-offs for the six-month period ended June 30, 1999 were
$19.4 million and consisted of charge-offs of $30.0 million and recoveries of
$10.6 million. This compared to net charge-offs of $14.9 million, consisting of
charge-offs of $20.2 million and recoveries of $5.3 million, for the six-month
period ended June 30, 1998. Excluding the accelerated disposition mentioned
above, our net charge-offs for the six-month period ended June 30, 1999 were
$15.1 million and consisted of charge-offs of $25.7 million and recoveries of
$10.6 million. Our increased level of net charge-offs was primarily the result
of increased consumer loan charge-offs, the majority of which are related to
our acquisition activity over the past two years, and an accelerated
disposition of $37.0 million of non-performing residential loans. In our
experience, a strategy that involves the accelerated resolution of problem
assets is more appropriate than a long-term workout approach.
S-56
<PAGE>
The following table presents the activity in the allowance for possible
loan losses for the periods indicated (in thousands):
Six-month Period Ended
June
30,
-------------------------
1999 1998
----------- -----------
Allowance, beginning of period
Charge-offs: .............................. $133,802 $116,823
Residential (1) ............................ 8,793 3,415
Commercial Real Estate ..................... 480 --
Commercial ................................. 2,117 591
Consumer (2) ............................... 18,598 16,243
-------- --------
Total Charge-offs ....................... 29,988 20,249
-------- --------
Recoveries:
Residential ................................ 1,030 529
Commercial Real Estate ..................... 453 31
Commercial ................................. 420 120
Consumer (2) ............................... 8,667 4,627
-------- --------
Total Recoveries ........................ 10,570 5,307
-------- --------
Charge-offs, net of recoveries ............. 19,418 14,942
Provision for possible loan losses ......... 15,000 13,960
Other ...................................... 4,799 2,161
-------- --------
Allowance, end of period ................... $134,183 $118,002
======== ========
- ------------
(1) Results for the six-month period ended June 30, 1999 include charge-offs of
$4.3 million related to a June 1999 accelerated disposition of
non-performing residential loans.
(2) Includes indirect auto loans and home equity lines of credit.
Other Income
Other income was $65.6 million for the six-month period ended June 30,
1999 compared to $47.6 million for the same period in 1998.
Retail banking fees were $21.9 million for the six-month period ended June
30, 1999 compared to $13.8 million for the same period in 1998. This increase
was primarily due to an increase in the number of our transaction accounts, an
increase in inter-change income resulting from growth in the number and
transaction volume of our debit cards and a larger retail customer base over
the last year.
Mortgage banking revenues were $19.0 million for the six-month period
ended June 30, 1999 compared to $14.6 million for the same period in 1998. This
increase was primarily attributable to a favorable external interest rate
environment and heavy refinancing activity. We serviced $9.8 billion of our own
loans and $6.5 billion of loans for others at June 30, 1999 compared to $9.0
billion of our own loans and $6.3 billion of loans for others at June 30, 1998.
Loan fees and service charges were $3.3 million for the six-month period
ended June 30, 1999 compared to $3.2 million for the same period in 1998. Loan
fees and service charges relate primarily to our non-residential loan
portfolios.
Gains on sales of loans and investment securities available-for-sale were
$6.8 million for the six-month period ended June 30, 1999 compared to $6.1
million for the same period in 1998.
Miscellaneous income was $14.7 million for the six-month period ended June
30, 1999 compared to $9.8 million for the same period in 1998. This increase
was primarily due to our additional investment in bank-owned life insurance
which was made during the first quarter of 1999.
S-57
<PAGE>
General and Administrative Expenses
Total general and administrative expenses were $170 million for the
six-month period ended June 30, 1999 compared $129 million for the same period
in 1998. The ratio of general and administrative expenses to average assets for
the six-month period ended June 30, 1999 was 1.50% compared to 1.40% for the
same period in 1998. Our efficiency ratio (all general and administrative
expenses as a percentage of net interest income and recurring non-interest
income) for the six-month period ended June 30, 1999 was 48.1% compared to
45.7% for the same period in 1998. The increase in general and administrative
expenses for the six-month period ended June 30, 1999 was primarily due to our
franchise growth and included the effect of our purchase of 93 branch offices
and related commercial and consumer loans from CoreStates during the third
quarter of 1998. This acquisition significantly impacted our compensation and
occupancy expenses. The remaining expenses are related to our Year 2000 and
other technology initiatives and expansion in our corporate banking business
line.
Other operating expenses were $24.2 million for the six-month period ended
June 30, 1999 compared to $51.9 million for the same period in 1998. Results
for the six-month period ended June 30, 1999 included amortization of goodwill
of $18.1 million compared to $6.4 million for the same period in 1998. Results
for the six-month period ended June 30, 1998 included merger charges of $39.1
million related to our acquisition of ML Bancorp, Inc. during the first quarter
of 1998.
Income Tax Provision
The income tax provision was $49.9 million for the six-month period ended
June 30, 1999 compared to $34.0 million for the same period in 1998. The
effective tax rate for the six-month period ended June 30, 1999 was 34.6%
compared to 37.0% for the same period in 1998. The decrease in the effective
tax rate for 1999 versus 1998 was primarily attributable to the favorable
impact of our additional investment in bank-owned life insurance during the
first quarter of 1999.
Results of Operations for the Years Ended December 31, 1998 and 1997
Net Income
For the year ended December 31, 1998, we had net operating income of $170
million. This represents an increase of 22% over net operating income of $139
million reported for 1997. Operating earnings per share was $1.06 for 1998,
which represents an increase of 19% over 1997 operating earnings per share of
$0.89. Return on average equity and return on average assets were 15.50% and
0.87%, respectively, for 1998 compared to 14.83% and 0.85%, respectively, for
1997. The term "operating" income and "operating" earnings per share represent
income and earnings per share excluding the following: 1998 merger charges of
$33.5 million (after-tax) related to our 1998 acquisitions of ML Bancorp, Inc.,
Carnegie Bancorp, and First Home Bancorp Inc., and 1997 merger charges of $29.8
million (after-tax) related to our 1997 acquisitions of First State Financial
Services, Inc. and Bankers Corp., and losses from non-recurring sales of
held-to-maturity securities of $0.3 million (after-tax) and $6.9 million
(after-tax) in 1998 and 1977, respectively. For additional information with
respect to our merger-related charges, see note 2 of notes to consolidated
financial statements.
Net income for the year ended December 31, 1998 was $136 million or $0.85
per share. Net income for the year ended December 31, 1997 was $103 million or
$0.66 per share.
Net Interest Income
Net interest income for 1998 was $494 million compared to $432 million for
1997. This represents an increase of 14% and was primarily due to an increase
in average balances resulting from internal growth and recent acquisitions.
Interest on interest-earning deposits was $7.4 million for 1998 compared
to $5.4 million for 1997. The average balance of interest-earning deposits was
$56.4 million with an average yield of 13.12% for 1998 compared to an average
balance of $32.3 million with an average yield of 16.71% for 1997. The high
yields on interest-earning deposits were the result of a contractual
arrangement whereby a third-party vendor
S-58
<PAGE>
performed check processing and reconcilement functions for our disbursement
accounts. Under the agreement, the vendor is required to pay us interest on
disbursed funds during the two- to three-day float period, effectively
producing interest income with no corresponding asset balance. This agreement
will continue to favorably impact the yield on our interest-earning deposits in
future years.
Interest on investment securities available-for-sale was $284 million for
1998 compared to $102 million for 1997. The average balance of investment
securities available-for-sale was $4.3 billion with an average yield of 6.75%
for 1998 compared to an average balance of $1.6 billion with an average yield
of 6.77% for 1997. The increase in the average balance of investment securities
available-for-sale was due to favorable market conditions which have created
opportunities for us to realign our investment portfolio and an active decision
by management to increase balance sheet flexibility by placing more investments
into available-for-sale securities.
Interest on investment securities held-to-maturity was $182 million for
1998 compared to $280 million for 1997. The average balance of investment
securities held-to-maturity was $2.5 billion with an average yield of 7.22% for
1998 compared to an average balance of $3.9 billion with an average yield of
7.18% for 1997.
Interest and fees on loans were $881 million for 1998 compared to $791
million for 1997. The average balance of net loans was $11.1 billion with an
average yield of 7.94% for 1998 compared to an average balance of $10.1 billion
with an average yield of 7.82% for 1997. The increases in average balance and
average yield were primarily the result of continued growth in our commercial
lending and auto finance divisions, our acquisition of 93 CoreStates branch
offices, which added approximately $725 million of higher yielding commercial
and consumer loans to our loan portfolio, as well as planned run-off of lower
yielding residential loans.
Interest on total deposits was $440 million for 1998 compared to $379
million for 1997. The average balance of total deposits was $10.7 billion with
an average cost of 4.12% for 1998 compared to an average balance of $9.0
billion with an average cost of 4.21% for 1997. The increase in the average
balance and the decrease in the average cost of deposits was primarily the
result of our acquisition of approximately $2.2 billion of low cost deposits
from the CoreStates branch acquisition and strong internal core deposit growth
during 1998.
Interest on total borrowings was $421 million for 1998 compared to $368
million for 1997. The average balance of total borrowings was $7.4 billion with
an average cost of 5.69% for 1998 compared to an average balance of $6.2
billion with an average cost of 5.97% for 1997. The increase in the average
balance and the decrease in the average cost of borrowings was the result of
balance sheet growth being partially funded by borrowings and generally lower
borrowing rates in 1998 compared to 1997.
S-59
<PAGE>
Table 1 presents a summary of our average balances, the yields earned on
average assets and the cost of average liabilities and stockholders' equity for
the years indicated (in thousands):
Table 1: Spread Analysis
<TABLE>
<CAPTION>
1998 1997
------------------------------------------- -------------------------------------------
Average Average
Balance Interest Yield/Rate Balance Interest Yield/Rate
-------------- ------------- ------------ -------------- ------------- ------------
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Interest-earning deposits ......... $ 56,389 $ 7,397 13.12% $ 32,261 $ 5,392 16.71%
Investment Securities
available-for-sale (1) ........... 4,336,872 284,392 6.75 1,566,975 102,123 6.77
Investment securities
held-to-maturity ................. 2,530,143 182,499 7.22 3,902,940 279,900 7.18
Net Loans (2)(3) .................. 11,105,400 881,083 7.94 10,138,964 791,362 7.82
----------- ----------- ----- ----------- ----------- -----
Total interest-earning assets ..... 18,028,804 1,355,371 7.57 $15,641,140 1,178,777 7.57
Non interest-earning assets ....... 1,589,937 -- -- 689,618 -- --
----------- ----------- ----- ----------- ----------- -----
Total assets ...................... $19,618,741 1,355,371 6.96 $16,330,758 1,178,777 7.25
=====
Interest-bearing liabilities:
Deposits:
Demand deposit and NOW
accounts ......................... $ 1,712,730 16,387 .96 $ 1,157,372 7,967 .69
Savings accounts .................. 2,126,149 62,694 2.95 1,946,404 58,974 3.03
Money market accounts ............. 1,173,889 45,055 3.84 834,933 33,719 4.04
Certificates of deposit ........... 5,688,568 316,164 5.56 5,069,113 278,153 5.49
----------- -----------
Total deposits .................... 10,701,336 440,300 4.12 9,007,822 378,813 4.21
Total borrowings .................. 7,404,186 421,459 5.69 6,164,004 367,882 5.97
----------- -----------
Total interest-bearing
liabilities ...................... 18,105,522 861,759 4.76 15,171,826 746,695 4.92
Non-interest-bearing
liabilities ...................... 414,719 -- -- 220,047 -- --
----------- ----------- ----- ----------- ----------- -----
Total liabilities ................. 18,520,241 861,759 4.65 15,391,873 746,695 4.85
Stockholders' equity .............. 1,098,500 -- -- 938,885 -- --
----------- ----------- ----- ----------- ----------- -----
Total liabilities and
stockholders' equity ............. $19,618,741 861,759 4.39 $16,330,758 746,695 4.57
=========== =========== ----- =========== =========== -----
Interest rate spread (4) .......... 2.56% 2.68%
===== =====
Net interest income/net
interest margin (5) .............. $ 493,612 2.79% $ 432,082 2.79%
Ratio of interest-earning to
interest-bearing liabilities ..... 1.00x 1.03x
===== =====
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
1996
------------------------------------------
Average
Balance Interest Yield/Rate
-------------- ------------- -----------
<S> <C> <C> <C>
Interest-earning assets:
Interest-earning deposits ......... $ 26,092 $ 4,103 15.73%
Investment Securities
available-for-sale (1) ........... 1,290,649 84,656 6.70
Investment securities
held-to-maturity ................. 3,500,212 250,938 7.17
Net Loans (2)(3) .................. 8,789,397 677,129 7.72
----------- ----------- -----
Total interest-earning assets ..... 13,606,350 1,016,826 7.49
Non interest-earning assets ....... 634,416 -- --
----------- ----------- -----
Total assets ...................... $14,240,766 1,016,826 7.16
=====
Interest-bearing liabilities:
Deposits:
Demand deposit and NOW
accounts ......................... $ 996,815 9,422 .95
Savings accounts .................. 1,884,076 51,824 2.75
Money market accounts ............. 853,862 34,388 4.03
Certificates of deposit ........... 4,722,999 255,450 5.41
-----------
Total deposits .................... 8,457,752 351,084 4.15
Total borrowings .................. 4,736,718 278,776 5.89
-----------
Total interest-bearing
liabilities ...................... 13,194,470 629,860 4.77
Non-interest-bearing
liabilities ...................... 171,920 -- --
----------- ----------- -----
Total liabilities ................. 13,366,390 629,860 4.71
Stockholders' equity .............. 874,376 -- --
----------- ----------- -----
Total liabilities and
stockholders' equity ............. $14,240,766 629,860 4.42
=========== =========== -----
Interest rate spread (4) .......... 2.74%
=====
Net interest income/net
interest margin (5) .............. $ 386,966 2.86%
Ratio of interest-earning to
interest-bearing liabilities ..... 1.03x
=====
</TABLE>
- ------------
(1) The tax equivalent adjustments for the years ended December 31, 1998, 1997
and 1996 were $8.1 million, $3.9 million and $1.8 million, respectively,
and are based on an effective tax rate of 35%.
(2) Amortization of net fees of $2.6 million, $4.8 million and $4.7 million for
the years ended December 31, 1998, 1997 and 1996, respectively, are
included in interest income. Average loan balances include non-accrual
loans and loans held for sale.
(3) The tax equivalent adjustments for the years ended December 31, 1998, 1997
and 1996, were $1.1 million, $1.0 million and $991,000, respectively, and
are based on an effective tax rate of 35%.
(4) Represents the difference between the yield on total assets and the cost of
total liabilities and stockholders' equity.
(5) Represents tax equivalent net interest income divided by average
interest-earning assets.
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<PAGE>
Table 2 presents, prior to any tax equivalent adjustments, the relative
contribution of changes in volumes and changes in rates to changes in net
interest income for the periods indicated. The change in interest income and
interest expense attributable to the combined impact of both volume and rate
has been allocated proportionately to the change due to volume and the change
due to rate (in thousands):
Table 2: Volume/Rate Analysis
<TABLE>
<CAPTION>
Year Ended December 31,
-------------------------------------------------------------------------------
1998 vs. 1997 1997 vs. 1996
Increase/(Decrease) Increase/(Decrease)
---------------------------------------- -------------------------------------
Volume Rate Total Volume Rate Total
------------ ------------ ------------ ---------- ------------- ----------
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Interest-earning deposits ................. $ 2,815 $ (810) $ 2,005 $ 1,018 $ 271 $ 1,289
Investment securities available-
for-sale ................................ 181,633 636 182,269 18,005 (538) 17,467
Investment securities held-to-
maturity ................................ (99,029) 1,628 (97,401) 28,882 80 28,962
Net loans(1) .............................. 76,492 13,229 89,721 105,228 9,005 114,233
--------- --------
Total interest-earning assets .............. 176,594 161,951
--------- --------
Interest-bearing liabilities:
Deposits .................................. 69,478 (7,991) 61,487 23,082 4,647 27,729
Borrowings ................................ 69,571 (15,994) 53,577 85,131 3,975 89,106
--------- --------
Total interest-bearing liabilities ......... 115,064 116,835
--------- --------
Net change in net interest income $ 40,833 $ 20,697 $ 61,530 $ 56,465 $ (11,349) $ 45,116
========= ========= ========= ======== ========= ========
</TABLE>
- ------------
(1) Includes non-accrual loans and loans held for sale.
Provision for Loan Losses
The provision for loan losses was $28.0 million for 1998 compared to $41.1
million for 1997. The higher loan loss provision for 1997 included $24.9
million of reserves recorded as part of the merger charges related to our
acquisitions of First State and Bankers during 1997. These additional reserves
were added as a result of our conservative approach with respect to an
aggressive workout plan for certain non-performing assets acquired from First
State and Bankers. Excluding these merger-related charges, our loan loss
provision for 1998 increased 73% from 1997 levels. In addition, during 1998, we
established an initial loan loss reserve of $20.5 million related to $725
million of loans acquired in connection with our CoreStates branch acquisition,
and during 1997, we established an initial loan loss reserve of $22.0 million
in connection with our acquisition of Fleet Financial Group Inc.'s Automobile
Finance Division.
Over the last two years, through several strategic acquisitions and
internal restructuring initiatives, we have diversified our lending efforts and
increased our emphasis on providing our customers with small business loans and
an expanded line of commercial and consumer products, such as asset-based
lending and automobile loans. As a result of the increased risk inherent in
these loan products and as we continue to place emphasis on small business and
consumer lending in future years, management will regularly evaluate our loan
portfolio and record additional loan loss reserves as is necessary.
Historically, our additions to our loan loss reserve (through income statement
charges and acquisition accounting) have been sufficient to absorb the
incremental credit risk in our loan portfolio. As shown in Table 3 on the next
page, provisioning plus acquired reserves are sufficiently in excess of net
losses for all years presented. Management believes that these extra reserves
are warranted due to the changing composition and increased risk in the loan
portfolio, as discussed above. For additional information with respect to our
asset quality, see " -- Credit Quality".
Our net charge-offs for 1998 were $33.6 million and consisted of
charge-offs of $46.3 million and recoveries of $12.7 million. This compares to
1997 net charge-offs of $18.8 million consisting of charge-offs of $24.2
million and recoveries of $5.4 million. The ratio of net loan charge-offs to
average loans, including
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<PAGE>
loans held for sale, was 0.30% for 1998, compared to 0.18% for 1997 and 0.19%
for 1996. Commercial loan net charge-offs as a percentage of average commercial
loans were 0.14% for 1998, compared to 0.14% for 1997 and 0.85% for 1996. The
higher figure in 1996 was due to charge-offs related to a pool of
non-performing loans charged-off by First State, a predecessor institution
acquired by us, previous to its 1997 acquisition that was accounted for as a
pooling-of-interests. Consumer loan net charge-offs as a percentage of average
consumer loans were 0.80% for 1998, compared to 0.55% for 1997 and 0.18% for
1996. Residential real estate mortgage loan net charge-offs as a percentage of
average residential mortgage loans, including loans held for sale, were 0.08%
for 1998, 0.11% for 1997 and 0.13% for 1996. Our increased level of consumer
and commercial loan charge-offs in 1998 was primarily related to our
acquisition activity over the past two years. Although commercial and consumer
lending will typically result in higher net charge-off levels than residential
lending, historically, it has also resulted in higher income potential. In our
experience, a strategy that involves the accelerated resolution of problem
assets is more appropriate than a long-term workout approach. In connection
with this philosophy, additional reserves were established in conjunction with
both our recent acquisitions described above and internal growth.
Table 3 presents the activity in the allowance for loan losses for the
years indicated (in thousands):
Table 3: Reconciliation of the Allowance for Loan Losses
<TABLE>
<CAPTION>
December 31,
--------------------------------------------------------------------------
1998 1997 1996 1995 1994
------------- ------------- ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
Allowance, beginning of year ........... $ 116,823 $ 73,847 $ 67,515 $ 64,611 $ 61,087
Charge-offs:
Residential ........................... 6,223 8,869 11,016 9,546 10,279
Commercial ............................ 3,220 3,687 5,846 2,563 5,749
Consumer(1) ........................... 36,887 11,628 2,079 962 1,109
--------- --------- -------- -------- --------
Total charge-offs ................... 46,330 24,184 18,941 13,071 17,137
--------- --------- -------- -------- --------
Recoveries:
Residential ........................... 1,134 1,040 1,376 923 534
Commercial ............................ 839 2,264 133 201 653
Consumer(1) ........................... 10,715 2,079 363 227 370
--------- --------- -------- -------- --------
Total recoveries .................... 12,688 5,383 1,872 1,351 1,557
--------- --------- -------- -------- --------
Charge-offs, net of recoveries ......... 33,642 18,801 17,069 11,720 15,580
Provision for loan losses .............. 27,961 41,125 22,685 13,119 14,562
Acquired reserves and other
additions(2) .......................... 22,660 20,652 716 1,505 4,542
--------- --------- -------- -------- --------
Allowance, end of year ................. $ 133,802 $ 116,823 $ 73,847 $ 67,515 $ 64,611
========= ========= ======== ======== ========
Charge-offs, net of recoveries
to average total loans ................ 0.300% 0.184% 0.193% 0.159% 0.261%
========= ========= ======== ======== ========
</TABLE>
- ------------
(1) Includes indirect auto loans and home equity lines of credit.
(2) For 1998, acquired reserves and other additions include $20.5 million of
loan loss reserves established in connection with the CoreStates branch
acquisition. For 1997, acquired reserves and other additions represent
$22.0 million of loan loss reserves established as part of the Fleet
Automobile Finance Division acquisition, partially off-set by net
charge-offs of $2.7 million related to First State for the three-month
period ended December 31, 1996 resulting from the differing fiscal year
end of First State.
Our policy for charging off loans varies with respect to the category of
loans and specific circumstances surrounding each loan under consideration.
Consumer loans are generally charged off when deemed to be uncollectible or 120
days past due, whichever comes first. Charge-offs of commercial loans and
residential real estate mortgage loans are made on the basis of management's
ongoing evaluation of non-performing loans.
S-62
<PAGE>
Other Income
Total other income was $105 million for 1998 compared to $48.7 million for
1997. Several factors contributed to the increase in other income as discussed
below.
Loan fees and service charges were $10.5 million for 1998 compared to $5.8
million for 1997. This increase was directly attributable to the full year
effect of fees earned on our auto loan portfolio which was acquired in
September 1997. Loan fees and service charges result primarily from our loan
servicing portfolio. At December 31, 1998, we serviced $9.2 billion of our own
loans and $6.7 billion of loans for others. This compares to $9.3 billion of
our own loans and $6.4 billion of loans for others at December 31, 1997.
Deposit fees were $26.1 million for 1998 compared to $20.9 million for
1997. This increase was primarily the result of an increase in the number of
our transaction accounts and a larger retail customer base over the last year.
Mortgage banking gains were $24.7 million for 1998 compared to $21.7
million for 1997. This increase was primarily due to internal restructuring and
management enhancements made to this business unit during 1998 and a favorable
external environment.
Gains on sales of loans and investment securities were $19.8 million for
1998 compared to losses of $7.2 million for 1997, which included investment
security net gains (losses) of $15.8 million and $(9.2) million and net gains
on sales of loans of $4.0 million and $2.0 million in 1998 and 1997,
respectively. This increase was in part due to a net gain of $2.8 million
resulting from the sale of our credit card portfolio during the second quarter
of 1998. The remaining increase was the result of gains on sales of investment
securities available-for sale during 1998 and a $10.3 million (pre-tax) loss on
the liquidation of $750 million of investments including some held-to-maturity
securities in conjunction with the Bankers acquisition during the third quarter
of 1997. This sale was completed in accordance with the provisions of Statement
of Financial Accounting Standard No. 115, "Accounting for Certain Investments
in Debt and Equity Securities" to maintain our pre-merger interest rate risk
position. Recent favorable market trends have created opportunities for us to
realign our investment portfolio with no adverse impact on future earnings or
our interest rate risk profile. We will continue to evaluate these
opportunities in the context of our overall asset/liability management process.
Miscellaneous income was $24.0 million for 1998 compared to $7.5 million
for 1997. This increase was primarily due to our investment in bank owned life
insurance which was made during the first quarter of 1998 and increased
inter-change income resulting from growth in the number and transaction volume
of our debit cards over the last year.
General and Administrative Expenses
Total general and administrative expenses were $277 million for 1998
compared to $225 million for 1997. The ratio of general and administrative
expenses to average assets was 1.41% for 1998 compared to 1.38% for 1997. Our
efficiency ratio (all general and administrative expenses as a percentage of
net interest income and recurring non-interest income) for 1998 was 46.6%
compared to 46.1% for 1997. The increase in general and administrative expenses
during 1998 was primarily due to our overall franchise growth, as well as
special systems-related charges. These special systems-related charges include
our conversion to a new commercial bank data processing system and our Year
2000 initiatives.
Other Operating Expenses
Total other operating expenses were $82.3 million for 1998 compared to
$44.8 million for 1997. Other operating expenses included merger-related
charges of $49.9 million for 1998 compared to $19.2 million for 1997. These
expenses are related to our acquisitions over the last two years and include
human resources related costs, losses on the sale of certain assets and other
expenses, including investment banking fees and legal expenses. Also included
in other operating expenses was amortization of goodwill and other intangible
assets of $20.6 million for 1998 compared to $13.2 million for 1997, trust
preferred securities expense of $12.5 million for 1998 compared to $11.7
million for 1997, and other net real estate owned gains of $804,000 for 1998
compared to net other real estate owned losses of $767,000 for 1997.
S-63
<PAGE>
Income Tax Provision
The income tax provision was $74.8 million for 1998 compared to $67.3
million for 1997. The effective tax rate for 1998 was 35.4% compared to 39.6%
for 1997. The effective tax rates for 1998 and 1997 include the effect of
certain non-deductible expenses incurred in conjunction with our acquisitions
during each of these years. For additional information with respect to our
income taxes, see note 14 of notes to consolidated financial statements.
Results of Operations for the Years Ended December 31, 1997 and 1996
Net Income
Net operating income for the year ended December 31, 1997 was $139
million. This represents an increase of 21% over net operating income of $115
million reported for 1996. Operating earnings per share was $0.89 for 1997,
which represents an increase of 17% over 1996 operating earnings per share of
$0.76. Return on average equity and return on average assets were 14.83% and
0.85%, respectively, for 1997 compared to 13.18% and 0.81%, respectively, for
1996. The amounts presented for 1997 exclude merger charges and losses on
non-recurring sales of held-to-maturity securities of $36.7 million (after-tax)
related to our acquisition of First State and Bankers during 1997. Results for
1996 exclude a non-recurring Savings Association Insurance Fund assessment of
$24.9 million (after-tax) paid to the FDIC during 1996 for the recapitalization
of the Savings Association of Insurance Fund.
Net income for the year ended December 31, 1997 was $103 million or $0.66
per share. Net income for the year ended December 31, 1996, including the
impact of the non-recurring Savings Association of Insurance Fund assessment,
was $90.4 million or $0.59 per share.
Net Interest Income
Net interest income for 1997 was $432 million compared to $387 million for
1996. This represents an increase of 12% and was primarily due to an increase
in average balances resulting from internal growth and acquisitions, partially
off-set by a decline in our net interest margin.
Interest on interest-earning deposits was $5.4 million for 1997 compared
to $4.1 million for 1996. The average balance of interest-earning deposits was
$32.3 million with an average yield of 16.71% for 1997 compared to an average
balance of $26.1 million with an average yield of 15.73% for 1996. The high
yields on interest-earning deposits were the result of a contractual
arrangement whereby a third-party vendor performed check processing and
reconcilement functions for our disbursement accounts. Under the agreement, the
vendor is required to pay us interest on disbursed funds during the two- to
three-day float period, effectively producing interest income with no
corresponding asset balance.
Interest on investment securities available-for-sale was $102 million for
1997 compared to $84.7 million for 1996. The average balance of investment
securities available-for-sale was $1.6 billion with an average yield of 6.77%
for 1997 compared to an average balance of $1.3 billion with an average yield
of 6.70% for 1996.
Interest on investment securities held-to-maturity was $280 million for
1997 compared to $251 million for 1996. The average balance of investment
securities held-to-maturity was $3.9 billion with an average yield of 7.18% for
1997 compared to an average balance of $3.5 billion with an average yield of
7.17% for 1996.
Interest and fees on loans were $791 million for 1997 compared to $677
million for 1996. The average balance of net loans was $10.1 billion with an
average yield of 7.82% for 1997 compared to an average balance of $8.8 billion
with an average yield of 7.72% for 1996. The increases in average balance and
average yield were primarily due to our acquisition of Fleet Auto in 1997,
which added $2.0 billion of higher yielding commercial and consumer loans to
our loan portfolio, and the full year effect of our record level of residential
mortgage loan originations in 1996.
Interest on total deposits was $379 million for 1997 compared to $351
million for 1996. The average balance of total deposits was $9.0 billion with
an average cost of 4.21% for 1997 compared to an average balance of $8.5
billion with an average cost of 4.15% for 1996. The increase in the average
balance of deposits was primarily the result of our relationship selling
campaign during 1997.
S-64
<PAGE>
Interest on total borrowings was $368 million for 1997 compared to $279
million for 1996. The average balance of total borrowings was $6.2 billion with
an average cost of 5.97% for 1997 compared to an average balance of $4.7
billion with an average cost of 5.89% for 1996. The increase in the average
balance of borrowings was the result of the Fleet Automobile Finance Division
acquisition and other internal balance sheet growth being funded principally by
borrowings.
Provision for Possible Loan Losses
The provision for loan losses was $41.1 million for 1997 compared to $22.7
million for 1996. The 81% increase in loan loss provision for 1997 included
$24.9 million of additional reserves which Sovereign determined would be
necessary as a result of its conservative approach with respect to an
aggressive workout plan for certain assets acquired from Bankers and First
State. In addition, we established an initial loan loss reserve of $22.0
million in connection with our acquisition of Fleet Automobile Finance Division
during 1997.
During 1997, we charged off $24.2 million compared to $18.9 million for
1996. This increased level of charge-offs for 1997 was partially off-set by
recoveries of $5.4 million, resulting in net charge-offs for 1997 of $18.8
million. This compares to recoveries of $1.9 million and net charge-offs of
$17.1 million for 1996. Our increased level of charge-offs for 1997 was
primarily the result of increased consumer and commercial loan charge-offs, the
majority of which are related to our 1997 acquisition activity. Although
non-residential lending will typically result in higher net charge-off levels
than other types of lending, historically, it has also resulted in higher
income potential. In our experience, a strategy that involves the accelerated
resolution of problem assets is more appropriate than a long-term workout
approach. In connection with this philosophy, additional reserves were added
during 1997 as described above.
Other Income
Total other income was $48.7 million for 1997 compared to $63.4 million
for 1996. The decrease in other income was the result of a decrease in loan
fees and service charges which is directly attributable to First State's credit
card portfolio as discussed below.
Loan fees and service charges were $5.8 million for 1997 compared to $19.6
million for 1996. This decrease was the result of fees earned in 1996 by First
State's credit card portfolio which was sold prior to our acquisition of First
State in February 1997. Excluding First State's credit card portfolio, other
loan fees and service charges for 1996 were $6.9 million. Loan fees and service
charges result primarily from our loan servicing portfolio. At December 31,
1997, we serviced $9.3 billion of our own loans and $6.4 billion of loans for
others. This compares to $7.6 billion of our own loans and $5.9 billion of
loans for others at December 31, 1996.
Deposit fees were $20.9 million for 1997 compared to $18.1 million for
1996. This increase was primarily the result of an increase in the number of
transaction accounts in 1997 compared to 1996.
Mortgage banking gains were $21.7 million for 1997 compared to $13.9
million for 1996. This increase was primarily due to gains of $5.3 million
resulting from the sale of loans and mortgage servicing rights in 1997.
Losses on sales of loans and investment securities were $7.2 million for
1997 compared to gains of $5.9 million for 1996. This decrease was primarily
attributable to losses of $10.3 million (pre-tax) related to the liquidation of
$750 million of investments including some held-to-maturity securities in
conjunction with the Bankers acquisition during the third quarter of 1997. This
sale was completed in accordance with the provisions of Statement of Financial
Accounting Standards No. 115, "Accounting for Certain Investments in Debt and
Equity Securities" to maintain our pre-merger interest rate risk position. The
decrease is also the result of gains of $4.2 million related to the liquidation
of $157 million of available-for-sale and equity securities in 1996. These
gains were realized as part of our ongoing management of risk in our
available-for-sale portfolio and taking advantage of favorable market
conditions.
Miscellaneous income was $7.5 million for 1997 compared to $5.9 million
for 1996. This increase was primarily due to increased inter-change income
resulting from growth in the number of our debit cards and credit cards issued
and in use over the last year.
S-65
<PAGE>
General and Administrative Expenses
Total general and administrative expenses were $225 million for 1997
compared to $228 million for 1996. The ratio of general and administrative
expenses to average assets was 1.38% for 1997 compared to 1.60% for 1996.
Our efficiency ratio (all general and administrative expenses as a
percentage of net interest income and recurring non-interest income) for 1997
was 46.1% compared to 51.3% for 1996. The decrease in total general and
administrative expenses and the resulting favorable decrease in our expense
ratios was the result of efficiencies realized from recent acquisitions and an
increase in average balances and net interest income without a corresponding
increase in operating expenses.
Other Operating Expenses
Total other operating expenses were $44.8 million for 1997 compared to
$61.4 million for 1996. Results for 1997 include merger-related charges of
$19.2 million related to our 1997 acquisitions. Expenses included as part of
the merger-related charges were human resources related costs, losses on the
sale of certain assets and other expenses, including investment banking fees
and legal expenses. Results for 1996 include a non-recurring Savings
Association Insurance Fund of $40.1 million paid to the FDIC for the
recapitalization of the Savings Association Insurance Fund. Also included in
other operating expenses was amortization of goodwill and other intangible
assets of $13.2 million for 1997 compared to $17.4 million for 1996, trust
preferred securities expense of $11.7 million for 1997 compared to $274,000 for
1996, and net other real estate owned losses of $767,000 for 1997 compared to
net other real estate owned losses of $3.6 million for 1996.
Income Tax Provision
The income tax provision was $67.3 million for 1997 compared to $47.5
million for 1996. The effective tax rate for 1997 was 39.6% compared to 34.5%
for 1996. The increased effective tax rate for 1997 was primarily attributable
to certain non-deductible expenses incurred in conjunction with our 1997
acquisitions.
Financial Condition At June 30, 1999
Loan Portfolio
At June 30, 1999, our total loan portfolio included $5.0 billion of first
mortgage loans secured primarily by liens on owner-occupied one-to-four family
residential properties compared to $5.1 billion at December 31, 1998. With its
increased focus on non-residential lending and our acquisition activity over
the past few years, at June 30, 1999, our total loan portfolio also included
$3.2 billion of commercial loans and $4.2 billion of consumer loans, including
$1.7 billion of outstanding home equity loans (excluding $597 million of
additional unused commitments for home equity lines of credit) secured
primarily by second mortgages on owner-occupied one-to-four family residential
properties and $1.9 billion of auto loans. This compares to $2.3 billion of
commercial loans and $3.8 billion of consumer loans, including $1.8 billion of
outstanding home equity loans and $1.5 billion of auto loans at December 31,
1998.
Over the past few years, we have increased our emphasis on commercial and
consumer loan originations. As a result, during the six-month period ended June
30, 1999, we closed $1.3 billion of commercial loans compared to $393 million
of commercial loans during the same period in 1998. This increase was due to
strong business loan demand in our market area resulting from a strong regional
economy, recent bank mergers affecting the region, and significant staffing
increases in our commercial banking unit.
We closed $1.2 billion of consumer loans during the six-month period ended
June 30, 1999 compared to $898 million of consumer loans during the same period
in 1998. This increase was primarily the result of strong home equity and auto
loan originations during the six-month period ended June 30, 1999.
During the six-month period ended June 30, 1999, we closed $969 million of
first mortgage loans of which approximately 95% were fixed rate and sold in the
secondary market. This compares to first mortgage loan closings of $933 million
and approximately 80% of fixed rate loans for the same period in 1998.
S-66
<PAGE>
During the six-month period ended June 30, 1999, we determined that an
accelerated disposition of approximately $37 million of non-performing
residential loans would be the most cost-effective strategy to reduce
non-performing assets while significantly increasing key asset quality ratios.
As a result, at June 30, 1999, our non-performing assets were $89.3 million
compared to $116 million at December 31, 1998 and non-performing assets as a
percentage of total assets were 0.36% at June 30, 1999 compared to 0.53% at
December 31, 1998.
At June 30,1999, 49% of non-performing assets consisted of loans related
to real estate or other real estate owned. Another 3% of non-performing assets
consisted of indirect auto loans and other repossessed assets. The remainder of
our non-performing assets consist principally of consumer loans, many of which
are secured by collateral. We place all loans 90 days or more delinquent
(except auto loans and loans guaranteed by the government or secured by deposit
accounts) on non-performing status. Our auto loans continue to accrue interest
until they are 120 days delinquent, at which time they are placed on
non-accrual status and a 100% reserve allocation is assigned. Repossessed autos
carry a reserve allocation of 50%. At June 30, 1999, the allowance for loan
losses as a percentage of non-performing assets was 148% compared to 112% at
December 31, 1998.
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<PAGE>
Table 4 presents the composition of non-performing assets at the dates
indicated (dollars in thousands):
Table 4: Non-Performing Assets
<TABLE>
<CAPTION>
June 30, 1999 December 31, 1998
--------------- ------------------
<S> <C> <C>
Non-Accrual Loans:
Past due 90 days or more as to interest or principal:
Real estate related ................................................ $ 36,992 $ 63,258
Other .............................................................. 39,185 33,297
-------- ---------
Total Non-Accrual Loans ............................................ 76,177 96,555
Other .............................................................. 1,827 3,404
Restructured Loans ................................................. 3,755 141
-------- ---------
Total Non-Performing Loans ......................................... 81,759 100,100
-------- ---------
Other Real Estate Owned and Other Repossessed Assets:
Other real estate owned ............................................ 6,710 12,812
Other repossessed assets ........................................... 835 2,772
Other real estate owned and Other repossessed assets ............... 7,545 15,584
-------- ---------
Total Non-Performing Assets ........................................ $ 89,304 $ 115,684
======== =========
Past due 90 days or more as to interest or principal and accruing
interest (1) ...................................................... $ 6,313 $ 6,571
Non-Performing Assets as a percentage of Total Assets .............. 0.36% 0.53%
Non-Performing Loans as a percentage of Total Loans ................ 0.66% 0.89%
Non-Performing Assets as a percentage of Total Loans and Real Estate
Owned ............................................................. 0.77% 1.08%
Allowance for Loan Loses as a percentage of total Non-Performing
Assets ............................................................ 148% 112%
Allowance for Loan Losses as a percentage of total Non-Performing
Loans ............................................................. 162% 129%
</TABLE>
- ------------
(1) Represents student loans which are government-guaranteed. We retain minimal
risk of credit losses related to these loans.
Potential problem loans (consisting of loans as to which management has
serious concerns as to the ability of such borrowers to comply with present
repayment terms, although not currently classified as non-performing loans)
amounted to approximately $43.8 million at June 30, 1999 and consisted
principally of commercial and commercial real estate loans.
We closely monitor delinquencies as a means of maintaining high asset
quality. Collection efforts begin within 15 days after a loan payment is
missed. A predictive dialer is used to assist collection efforts in the early
stages of delinquency on the entire retail portfolio. An attempt is made to
contact all borrowers and to offer a variety of loss mitigation alternatives.
If these attempts fail, we will proceed to gain control of any and all
collateral in a timely manner in order to minimize losses. While liquidation
and recovery efforts continue, officers continue to work with the borrowers, if
appropriate, to recover all monies owed. Legal counsel is retained when
necessary. We monitor delinquency trends at 30, 60, and 90 days past due. These
trends are discussed at monthly asset review meetings.
The adequacy of our allowance for loan losses is regularly evaluated.
Management's evaluation of the adequacy of the allowance to absorb loan losses
takes into consideration the risks inherent in the loan portfolio, past loan
loss experience, specific loans which have loss, geographic and industry
concentrations, delinquency trends, economic conditions, the level of
originations and other relevant factors. At June 30, 1999, the allowance for
loan losses was $134 million or 1.08% of total loans compared to $134 million
or 1.19% of total loans at December 31, 1998.
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<PAGE>
Table 5 presents the allocation of the allowance for loan losses and the
percentage of such allocation to each loan type at the dates indicated (dollars
in thousands):
Table 5: Allocation of the Allowance for Loan Losses
<TABLE>
<CAPTION>
June 30, 1999 December 31, 1998
------------------------- ------------------------
Percentage Percentage
Amount of Loans Amount of Loans
---------- ------------ ---------- -----------
<S> <C> <C> <C> <C>
Class allowances:
Commercial loans ..................................... $ 18,681 16% $ 14,549 13%
Residential and commercial real estate loans ......... 15,580 50 13,690 54
Consumer loans ....................................... 44,528 34 40,866 33
-------- --------
Total class allowances ............................... 78,789 69,105
Specific allowances
Commercial loans ..................................... 17,012 -- 16,191 --
Residential and commercial real estate loans ......... 14,658 -- 16,351 --
Consumer loans ....................................... 6,103 -- 7,217 --
-------- --------
Total specific allowances ............................ 37,773 39,759
Unallocated allowances ............................... 17,621 -- 24,938 --
-------- -- -------- --
Total allowance for loan losses ...................... $134,183 100% $133,802 100%
======== === ======== ===
</TABLE>
We periodically review our loan portfolio and assign a risk-rating based
on loan type, collateral value, financial condition of the borrower and payment
history. Delinquent mortgage and consumer loans are reviewed monthly and
assigned a rating based on their payment history, financial condition of the
borrower and collateral values. Specific mortgage and consumer loans are also
reviewed in conjunction with the previously described review of any related
commercial loan.
The following is a discussion on the different components of the allowance
for loan losses:
<PAGE>
Class Allowance -- The class allowance for June 30, 1999 and December 31,
1998 was a general allowance for "pass" rated loans and was determined by
applying specific risk percentages to each "pass" rated loan. The risk
percentages are determined by us in consultation with regulatory authorities,
actual loss experience, peer group loss experience and are adjusted for current
economic conditions. The risk percentages are considered a prudent measurement
of the risk of our loan portfolio. Such risk percentages are applied to
individual loans based on loan type.
Residential Portfolio -- Class reserves for the residential portfolio are
15 basis points of the portfolio and based on the fact that historical loan
loss risk associated with this product type has been minimal.
Consumer Portfolio -- Consumer Portfolio class reserves are between the
range of 50 basis points of that portion of the consumer portfolio fully
secured by real estate and 150 basis points for the higher risk portions of its
portfolio. The class reserve for our indirect auto loan portfolio increased
during 1998 due to higher than expected net charge-offs. In response to the
higher charge-offs, in the latter half of 1998 we revised our indirect auto
underwriting guidelines to reflect a more conservative lending philosophy.
Commercial Portfolio -- In addition to the specific reserves established
for loans within the commercial loan portfolio, we reserve in the range of 75
to 150 basis points of our remaining commercial loan portfolio, based on
product type and collateral value.
Specific Allowance -- We determine the specific portion of our allowance
for loan losses for all criticized loans, or those classified as special
mention, sub-standard, doubtful, or loss. Risk percentages are applied to each
class of criticized commercial, consumer and residential loans to determine the
specific allowance. Additionally, additional specific reserves are established
for certain impaired commercial loans based on expected shortfalls in future
cash flows and inadequate collateral value. Management believes this periodic
review provides a mechanism that results in loans being rated in the proper
category and accordingly, assigned the proper risk loss percentage in computing
the class or specific reserve.
S-69
<PAGE>
Unallocated Allowance -- The unallocated allowance for loan losses
decreased $7.3 to $17.6 million at June 30, 1999 from $24.9 million at December
31, 1998. This slight decrease can be attributed to an increase in class
reserves to $78.8 million at June 30, 1999 compared to $69.1 million at
December 31, 1998. Management considers loan quality, changes in the size and
character of the loan portfolio, consultation with regulatory authorities,
amount of non-performing loans, delinquency trends, economic conditions and
industry trends when determining the unallocated allowance.
Impaired loans are summarized as follows (in thousands):
<TABLE>
<CAPTION>
June 30, 1999 December 31, 1998
--------------- ------------------
<S> <C> <C>
Impaired loans without a related reserve .......... $ -- $ --
Impaired loans with a related reserve ............. 90,313 63,296
------- -------
Total impaired loans .............................. $90,313 $63,296
======= =======
Reserve for impaired loans ........................ $21,079 $18,582
======= =======
</TABLE>
The average balance of impaired loans for the six-month periods ended June
30, 1999 and 1998 was $73.9 million and $50.3 million, respectively.
Investment Securities
Investment securities consist primarily of U.S. Treasury and government
agency securities, corporate debt securities and stock in the Federal Home Loan
Bank of Pittsburgh. Investment securities also include mortgage-backed
securities which consist of collateralized mortgage obligations issued by
federal agencies or private label issues. Our mortgage-backed securities are
generally either guaranteed as to principal and interest by the issuer or have
ratings of "AAA" by Standard and Poor's and Fitch at the date of issuance. The
classes are backed by single-family residential loans which are primary
residences geographically dispersed throughout the United States. We purchase
classes which are senior positions backed by subordinate classes. The
subordinate classes absorb the losses and must be completely eliminated before
any losses flow through the senior positions. Our strategy is to purchase
classes which have an average life of three years or less. The effective
duration of the total investment portfolio at June 30, 1999 was 3.8 years.
At June 30, 1999, total investment securities available-for-sale were $8.7
billion compared to $6.7 billion at December 31, 1998 and investment securities
held-to-maturity were $1.3 billion compared to $1.8 billion at December 31,
1998. For additional information with respect to our investment securities, see
notes 3 and 4 in the notes to consolidated financial statements.
Goodwill and Other Intangible Assets
Total goodwill and other intangible assets at June 30, 1999 were $435
million compared to $426 million at December 31, 1998. This increase is
primarily attributable to our acquisitions of Peoples Bancorp, Inc. and The
Network Companies during the second quarter of 1999, partially off-set by
normal year-to-date amortization.
Deposits
Deposits are attracted from within our primary market area through the
offering of various deposit instruments including NOW accounts, money market
accounts, savings accounts, certificates of deposit and retirement savings
plans.
Total deposits at June 30, 1999 were $12.2 billion compared to $12.3
billion at December 31, 1998. For additional information with respect to our
deposit portfolio composition, see note 6 in the notes to consolidated
financial statements.
Borrowings
We utilize borrowings as a source of funds for our asset growth and our
asset/liability management. Collateralized advances are available from the
Federal Home Loan Bank of Pittsburgh provided certain
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<PAGE>
standards related to creditworthiness have been met. Another source of funds is
reverse repurchase agreements. Reverse repurchase agreements are short-term
obligations collateralized by securities fully guaranteed as to principal and
interest by the U.S. Government or an agency thereof.
Total borrowings at June 30, 1999 were $10.7 billion of which $6.2 billion
were short-term compared to $7.9 billion of which $3.9 billion were short-term
at December 31, 1998. This increase in borrowings is the result of balance
sheet growth being partially funded by borrowings. During the six-month period
ended June 30, 1999, we funded our balance sheet growth through borrowings as
the cost of borrowings was lower than the cost of retail certificates of
deposit. For additional information with respect to our borrowings, see note 7
in the notes to consolidated financial statements.
Through the use of interest rate swaps, $920 million of Federal Home Loan
Bank of Pittsburgh advances at June 30, 1999 have been effectively converted
from variable rate obligations to fixed rate obligations. In addition, at June
30, 1999, $1.2 billion of borrowings have been protected from upward repricing
through the use of interest rate caps and floors.
Financial Condition at December 31, 1998
Loan Portfolio
Our loan portfolio at December 31, 1998 was $11.3 billion, unchanged from
December 31, 1997. Our consumer and commercial loan portfolios have increased
as a result of strong originations and the 1998 CoreStates branch acquisition,
which added approximately $725 million of commercial and consumer loans to our
loan portfolio. This increase has been off-set by a planned decline in our
residential mortgage loan portfolio resulting from the refinance environment
and our increased mortgage banking capabilities, which results in residential
mortgage loan originations being sold in the secondary market rather than held
in our loan portfolio.
At December 31, 1998, our total loan portfolio included $5.1 billion of
first mortgage loans secured primarily by liens on owner-occupied one-to-four
family residential properties compared to $6.6 billion at December 31, 1997.
With our increased focus on non-residential lending and our acquisition
activity over the past two years, at December 31, 1998, our total loan
portfolio also included $2.3 billion of commercial loans and $3.8 billion of
consumer loans, including $1.8 billion of outstanding home equity loans
(excluding $600 million of additional unused commitments for home equity lines
of credit) secured primarily by second mortgages on owner-occupied one-to-four
family residential properties and $1.5 billion of auto loans. This compares to
$1.4 billion of commercial loans and $3.1 billion of consumer loans, including
$1.1 billion of outstanding home equity loans and $1.6 billion of auto loans,
at December 31, 1997.
Over the past two years, we have increased our emphasis on commercial and
consumer loan originations. As a result, during 1998, we closed $1.3 billion of
commercial loans compared to $310 million of commercial loans for 1997. This
increase was due to strong business loan demand in our market area resulting
from a strong regional economy, recent bank mergers affecting the region, and
significant staffing increases in our commercial banking unit.
We closed $2.0 billion of consumer loans during 1998 compared to $924
million of consumer loans for 1997. This increase was primarily the result of
home equity loan originations of approximately $331 million and indirect auto
loan originations of approximately $587 million during 1998.
During 1998, we closed $2.1 billion of first mortgage loans of which $1.9
billion were fixed rate and sold in the secondary market. This compares to
first mortgage loan closings of $2.0 billion and $897 million of fixed rate
loans for 1997.
Table 6 presents the composition of our loan portfolio by type of loan and
by fixed and variable rates at the dates indicated (in thousands):
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<PAGE>
Table 6: Composition of Loan Portfolio
<TABLE>
<CAPTION>
At December 31,
-----------------------------------------------------------------------------------
1998 1997 1996
-------------------------- ------------------------- --------------------------
Balance Percent Balance Percent Balance Percent
-------------- --------- ------------- --------- ------------- ----------
<S> <C> <C> <C> <C> <C> <C>
Residential real estate
loans ..................... $ 5,113,537 45.3% $ 6,634,271 58.6% $7,381,820 76.9%
Residential construction
loans ..................... 62,536 .6 137,367 1.2 136,436 1.4
----------- ----- ----------- ----- ---------- -----
Total Residential Loans 5,176,073 45.9 6,771,638 59.8 7,518,256 78.3
----------- ----- ----------- ----- ---------- -----
Commercial real estate
loans ..................... 887,938 7.9 664,943 5.9 511,071 5.3
Commercial loans ........... 717,440 6.4 356,517 3.1 262,840 2.7
Automotive floor plan
loans ..................... 578,147 5.1 279,757 2.5 -- --
Multi-family loans ......... 115,195 1.0 115,570 1.0 109,774 1.2
----------- ----- ----------- ----- ---------- -----
Total Commercial
Loans ................... 2,298,720 20.4 1,416,787 12.5 883,685 9.2
----------- ----- ----------- ----- ---------- -----
Home equity loans .......... 1,750,883 15.5 1,050,304 9.3 800,559 8.3
Auto loans ................. 1,510,676 13.4 1,553,318 13.7 73,393 .8
Loans to automotive
lessors ................... 252,856 2.2 267,033 2.3 -- --
Student loans .............. 256,744 2.3 190,440 1.7 211,358 2.2
Credit cards ............... -- -- 54,887 .5 82,798 .9
Other ...................... 39,888 .3 19,715 .2 25,446 .3
----------- ----- ----------- ----- ---------- -----
Total Consumer Loans 3,811,047 33.7 3,135,697 27.7 1,193,554 12.5
----------- ----- ----------- ----- ---------- -----
Total Loans ............... $11,285,840 100.0% $11,324,122 100.0% $9,595,495 100.0%
=========== ===== =========== ===== ========== =====
Total Loans with:(1)
Fixed rates ............... $ 5,798,158 51.4% $ 4,548,951 40.2% $2,180,356 22.7%
Variable rates ............ 5,487,682 48.6 6,775,171 59.8 7,415,139 77.3
----------- ----- ----------- ----- ---------- -----
Total Loans ............. $11,285,840 100.0% $11,324,122 100.0% $9,595,495 100.0%
=========== ===== =========== ===== ========== =====
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
December 31,
-----------------------------------------------------
1995 1994
------------------------- -------------------------
Balance Percent Balance Percent
------------- --------- ------------ ----------
<S> <C> <C> <C> <C>
Residential real estate loans .......... $6,059,064 79.8% 5,660,704 81.2%
Residential construction loans ......... 116,110 1.6 83,630 1.2
---------- ---------
Total Residential Loans ............... 6,175,174 81.4 5,744,334 82.4
---------- ---------
Commercial real estate loans ........... 358,334 4.7 288,739 4.2
Commercial loans ....................... 166,712 2.2 113,686 1.6
Automotive floor plan loans ............ -- -- -- --
Multi-family loans ..................... 130,819 1.7 148,878 2.1
---------- ---------
Total Commercial Loans ................ 655,865 8.6 551,303 7.9
---------- ---------
Home equity loans ...................... 648,033 8.5 583,837 8.4
Auto loans ............................. 14,267 .2 14,954 .2
Loans to automotive lessors ............ -- -- -- --
Student loans .......................... 14,232 .2 13,107 .2
Credit cards ........................... 32,274 .4 10,338 .1
Other .................................. 51,262 .7 54,311 .8
---------- ---------
Total Consumer Loans .................. 760,068 10.0 676,547 9.7
---------- ----- --------- -----
Total Loans ........................... $7,591,107 100.0% $6,972,184 100.0%
========== ===== ========== =====
Total Loans with:(1)
Fixed rates ........................... $1,896,384 25.0% $1,768,859 25.4%
Variable rates ........................ 5,694,723 75.0 5,203,325 74.6
---------- ----- ---------- -----
Total Loans .......................... $7,591,107 100.0% $6,972,184 100.0%
========== ===== ========== =====
</TABLE>
- ------------
(1) Loan totals do not reflect the impact of off-balance sheet interest rate
swaps used for interest rate risk management as discussed in "-- Asset and
Liability Management."
S-72
<PAGE>
Table 7 sets forth the maturity of our residential construction,
commercial real estate and commercial loans as scheduled to mature
contractually at December 31, 1998 (in thousands):
Table 7: Loan Maturity Schedule
<TABLE>
<CAPTION>
At December 31, 1998, Maturing
----------------------------------------------------------------
In One Year After One Year After
Or Less --Five Years Five Years Total
------------- ---------------- ------------ --------------
<S> <C> <C> <C> <C>
Residential construction loans (net of loans in
process of $89,509)(1) ....................... $ 3,367 $ -- $ 59,169 $ 62,536
Commercial real estate loans .................. 108,259 285,961 493,718 887,938
Commercial loans .............................. 244,834 210,491 262,115 717,440
--------- --------- --------- -----------
Total ...................................... $ 356,460 $ 496,452 $ 815,002 $ 1,667,914
========= ========= ========= ===========
Loans with:
Fixed rates .................................. $ 90,151 $ 375,734 $ 507,280 $ 973,165
Variable rates ............................... 266,309 120,718 307,722 694,749
--------- --------- --------- -----------
Total ....................................... $ 356,460 $ 496,452 $ 815,002 $ 1,667,914
========= ========= ========= ===========
</TABLE>
- ------------
(1) Loans classified as residential construction loans convert to residential
mortgage loans after a one-year period. The residential construction loans
are closed as either fifteen-year or thirty-year terms added to the
one-year construction loan period. Accordingly, the majority of these loan
balances are anticipated to mature beyond five years.
Our recent strategic acquisitions, coupled with expanded origination
capacity, accelerated our transition in becoming a super-community bank by
increasing consumer loans to 34% and commercial loans to 20% of total loans in
1998, up from 28% and 12%, respectively for 1997. Commercial loan credit
quality remains strong and the commercial loan division's growing portfolio is
regularly examined for quality by an experienced internal credit review team.
Commercial loans are allocated reserves based upon individual asset risk
assessments.
Credit Risk Management
Extending credit to businesses and consumers exposes us to credit risk.
Credit risk is the risk that the principal balance of a loan and any related
interest will not be collected due to the inability of the borrower to repay
the loan. We manage credit risk in the loan portfolio through adherence to
consistent standards, guidelines and limitations established by senior
management. Written loan policies establish underwriting standards, lending
limits and other standards or limits as deemed necessary and prudent. Various
approval levels, based on the amount of the loan and whether the loan is
secured or unsecured, have also been established. Loan approval authority
ranges from the individual loan officer to the Board of Directors' Loan
Committee.
The Loan Review group within our Risk Management Department conducts
ongoing, independent reviews of the lending process to ensure adherence to
established policies and procedures, monitors compliance with applicable laws
and regulations, provides objective measurement of the risk inherent in the
loan portfolio, and ensures that proper documentation exists. The results of
these periodic reviews are reported to the Asset Review Committee, to our Board
of Directors and to the Board of Directors of Sovereign Bank. In response to
our increased emphasis on commercial and consumer lending since 1997, we have
added to our loan review group by hiring loan review officers with significant
commercial and consumer experience.
The following discussion summarizes the underwriting policies and
procedures for the major categories within the loan portfolio and addresses our
strategies for managing the related credit risk.
Commercial Loans -- Credit risk associated with commercial loans is
primarily influenced by prevailing and expected economic conditions and the
level of underwriting risk we are willing to assume. To manage credit risk when
extending commercial credit, we focus on adequately assessing the borrower's
ability to repay and on obtaining sufficient collateral. Commercial and
industrial loans are generally secured by the borrower's assets and by personal
guarantees. Commercial real estate loans are originated primarily within the
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<PAGE>
Pennsylvania and New Jersey market areas and are secured by developed real
estate at conservative loan-to-value ratios and often by a guarantee of the
borrower. Management closely monitors the composition and quality of the total
commercial loan portfolio to ensure that significant credit concentrations by
borrower or industry do not exist.
Consumer Loans -- The consumer loan portion of our loan portfolio has
increased from 27.7% at December 31, 1997 to 33.7% of the loan portfolio at
December 31, 1998. The portion of the consumer portfolio which is secured by
real estate, vehicles, deposit accounts or government guarantees comprises
98.9% of the entire portfolio. Credit risk in the direct consumer loan
portfolio is controlled by strict adherence to conservative underwriting
standards that consider debt to income levels and the creditworthiness of the
borrower. In the home equity loan portfolio, combined loan-to-value ratios are
generally limited to 80%. Other credit considerations may warrant higher
combined loan-to-value ratios for approved loans.
Residential Loans -- We originate fixed rate and adjustable rate
residential mortgage loans which are secured by the underlying 1-4 family
residential property. At December 31, 1998 and 1997, these loans accounted for
45.9% and 59.8% respectively, of the total loan portfolio. This decrease was
the outcome of a planned decline resulting from the refinance environment and
our increased mortgage banking capabilities, which facilitate residential
mortgage loan originations being sold in the secondary market rather than held
in our loan portfolio. Credit risk exposure in this area of lending is
minimized by the evaluation of the creditworthiness of the borrower, including
debt-to-equity ratios and adherence to underwriting policies that emphasize
conservative loan-to-value ratios of generally no more than 80%. Residential
mortgage loans granted in excess of the 80% loan-to-value ratio criterion are
generally insured by private mortgage insurance, unless otherwise guaranteed or
insured by the Federal, state or local government. We also utilize underwriting
standards which comply with those of the Federal Home Loan Mortgage Corporation
or the Federal National Mortgage Association. Credit risk is further reduced
since the majority of our fixed rate mortgage loan production and all of its
sub-prime mortgage loan production is sold to investors in the secondary market
without recourse.
Collections
We closely monitor delinquencies as another means of maintaining high
asset quality. Collection efforts begin within 15 days after a loan payment is
missed. A predictive dialer is used to assist collection efforts in the early
stages of delinquency on the entire retail portfolio. An attempt is made to
contact all borrowers and to offer a variety of loss mitigation alternatives.
If these attempts fail, we will proceed to gain control of any and all
collateral in a timely manner in order to minimize losses. While liquidation
and recovery efforts continue, officers continue to work with the borrowers, if
appropriate, to recover all monies owed. Legal counsel is retained when
necessary. We monitor delinquency trends at 30, 60, and 90 days past due. These
trends are discussed at the monthly asset review meetings. Minutes from these
meetings are submitted to the Board of Directors of Sovereign Bank.
Approximately $231 million, or 2.05%, of the loans in the loan portfolio
at December 31, 1998, were 30 to 89 days delinquent, compared to $190 million,
or 1.68% of portfolio loans, at December 31, 1997. We also maintain a watch
list for loans identified as requiring a higher level of monitoring by
management because of one or more characteristics, such as economic conditions,
industry trends, nature of collateral, collateral margin, payment history or
other factors.
Non-Performing Assets
At December 31, 1998, our non-performing assets were $116 million compared
to $108 million at December 31, 1997. Non-performing assets as a percentage of
total assets was 0.53% at December 31, 1998 compared to 0.61% at December 31,
1997. At December 31, 1998, 66% of non-performing assets consisted of loans
related to real estate or other real estate owned. Another 5% of non-performing
assets consist of indirect auto loans and other repossessed assets. Indirect
auto loans delinquent in excess of 120 days carry a reserve allocation of 100%.
Repossessed autos carry a reserve allocation of 50%. The remainder of our
non-performing assets consist principally of consumer loans, many of which are
secured by collateral. We
S-74
<PAGE>
place all loans 90 days or more delinquent (except auto loans and loans
guaranteed by the government or secured by deposit accounts) on non-performing
status. Our auto loans continue to accrue interest until they are 120 days
delinquent, at which time they are placed on non-accrual status and a 100%
reserve allocation is assigned.
Table 8 presents the composition of non-performing assets at the dates
indicated (dollars in thousands):
Table 8: Non-Performing Assets
<TABLE>
<CAPTION>
At December 31,
----------------------------------------------------------------------------------
1998 1997 1996 1995 1994
-------------- -------------- -------------- -------------- --------------
<S> <C> <C> <C> <C> <C>
Non-accrual loans:
Past due 90 days or more as to
interest or principal:
Real estate related ............. $ 63,258 $ 65,930 $ 78,715 $ 81,571 $ 76,545
Other ........................... 33,297 22,368 19,671 11,721 6,968
Past due less than 90 days as to
interest or principal:
Real estate related ............. -- 555 639 3,884 2,980
Other ........................... -- -- 160 739 --
---------- ---------- ---------- ---------- ----------
Total non-accrual loans ............ 96,555 88,853 99,185 97,915 86,493
Other .............................. 3,404 6,524 -- -- --
Restructured loans ................. 141 327 1,561 3,772 4,264
---------- ---------- ---------- ---------- ----------
Total non-performing loans ......... 100,100 95,704 100,746 101,687 90,757
Other real estate owned and other
repossessed assets:
Residential real estate owned ..... 12,147 11,299 13,669 9,988 11,943
Commercial real estate owned ...... 665 710 4,380 11,676 14,435
Other repossessed assets .......... 2,772 -- -- -- --
---------- ---------- ---------- ---------- ----------
Total other real estate owned and
other repossessed assets .......... 15,584 12,009 18,049 21,664 26,378
---------- ---------- ---------- ---------- ----------
Total non-performing assets ........ $ 115,684 $ 107,713 $ 118,795 $ 123,351 $ 117,135
========== ========== ========== ========== ==========
Past due 90 days or more as to
interest or principal and
accruing interest(1) .............. $ 6,571 $ 7,053 $ 16,722 $ 2,299 $ 2,138
Non-performing assets as a
percentage of total assets ........ .53% .61% .78% .94% 1.06%
Non-performing loans as a
percentage of total loans ......... .86 .82 1.04 1.30 1.29
Non-performing assets as a
percentage of total loans and
other real estate owned ........... 1.05 .99 1.39 1.60 1.70
Allowance for loan losses as a
percentage of total
non-performing assets ............. 111.5 103.7 58.5 53.5 53.0
Allowance for loan losses as a
percentage of total
non-performing loans .............. 128.9 116.7 69.0 65.0 68.4
</TABLE>
- ------------
(1) Non-performing assets past due 90 days or more as to interest or principal
and accruing interest at December 31, 1998, 1997 and 1996 included $6.6
million, $6.7 million and $10.5 million, respectively, of student loans
which are government-guaranteed, and we retain minimal risk of credit
losses related to these loans.
S-75
<PAGE>
Impaired Loans
At December 31, 1998 and 1997, the gross recorded investment in impaired
loans totaled $63.3 million and $24.9 million, respectively. The increase in
the investment in impaired loans at December 31, 1998 compared to December 31,
1997 was primarily the result of our recent balance sheet transformation
strategy which places more emphasis on building the commercial and consumer
loan portfolios. Along with higher yields, these loan types also bring greater
risk of impairment, especially as the portfolio becomes more seasoned. We
classify all commercial loans that are greater than 90 days delinquent on
non-accrual status, and certain criticized loans as impaired. Gross interest
income for the years ended December 31, 1998, 1997 and 1996 would have
increased by approximately $9.5 million, $7.5 million and $8.5 million,
respectively, had our non-accruing and restructured loans been current in
accordance with their original terms and outstanding throughout the period.
Interest income recorded on these loans for the years ended December 31, 1998,
1997 and 1996 was $3.3 million, $2.4 million and $2.4 million, respectively.
Potential problem loans (consisting of loans which management has serious
doubts as to the ability of such borrowers to comply with present repayment
terms, although not currently classified as non-performing loans) amounted to
approximately $41.0 million at December 31, 1998 and consisted principally of
commercial real estate loans.
At December 31, 1998, we serviced, with recourse, a total of $35.4 million
of single-family residential loans. Substantially all of this recourse
servicing was acquired in a 1992 acquisition. These are seasoned loans with
decreasing balances and historical loss experience has been minimal.
Allowance for Loan Losses
The adequacy of our allowance for loan losses is regularly evaluated.
Management's evaluation of the adequacy of the allowance to absorb loan losses
takes into consideration the risks inherent in the loan portfolio, past loan
loss experience, specific loans which have loss, geographic and industry
concentrations, delinquency trends, economic conditions, the level of
originations and other relevant factors. Management also considers loan
quality, changes in the size and character of the loan portfolio, consultation
with regulatory authorities, amount of non-performing loans, delinquency
trends, economic conditions and industry trends when determining the
unallocated allowance. At December 31, 1998, our loan delinquencies (all loans
greater than 30 days delinquent) as a percentage of total loans was 2.95%
compared to 2.71% at December 31, 1997. This increase was primarily
attributable to our business decision to transform our balance sheet to look
much more like a community-oriented commercial bank. At December 31, 1997, our
loan portfolio was 60% residential, 28% consumer and 12% commercial. At
December 31, 1998, Sovereign's loan portfolio was 46% residential, 34% consumer
and 20% commercial. This transition achieved management's goal of more than 50%
of the loan portfolio in higher yielding consumer and commercial loans by
year-end 1998. Along with higher yields, this transformation brings higher risk
and higher delinquencies.
The following table summarizes our allocation of the allowance for loan
losses for class, specific and unallocated allowances by loan type and the
percentage of each loan type of total portfolio loans. Due to the
unavailability of certain historical data, only 1998 is separated into class
versus specific allowances. For all years prior to 1998, amounts are allocated
entirely to the class allowance. The entire allowance, however, is available
for use against any type of loan loss deemed necessary.
S-76
<PAGE>
Table 9: Allocation of the Allowance for Loan Losses
<TABLE>
<CAPTION>
As of December 31, (dollars in thousands)
-----------------------------------------
1998 1997
------------------- -------------------
% of % of
total total
Amount loans Amount loans
---------- ------- ---------- -------
<S> <C> <C> <C> <C>
Class allowances:
Commercial loans ............... $ 14,549 20% $ 30,793 12%
Residential real estate
mortgage loans ............... 13,690 46 36,351 60
Consumer loans ................ 40,866 34 24,300 28
-------- --------
Total class allowances ........ 69,105 91,444
Specific allowances:
Commercial loans .............. 16,191 -- -- --
Residential real estate
mortgage loans ............... 16,351 -- -- --
Consumer loans ................ 7,217 -- -- --
-------- --------
Total specific allowances ..... 39,759 -- -- --
Unallocated allowances ......... 24,938 -- 25,379 --
-------- -- -------- --
Total allowance for loan
losses ....................... $133,802 100% $116,823 100%
======== === ======== ===
<CAPTION>
As of December 31, (dollars in thousands)
--------------------------------------------------------------
1996 1995 1994
------------------- ------------------- --------------------
% of % of % of
total total total
Amount loans Amount loans Amount loans
---------- ------- ---------- ------- ---------- --------
<S> <C> <C> <C> <C> <C> <C>
Class allowances:
Commercial loans ............... $21,091 9% $13,753 9% $11,415 8%
Residential real estate
mortgage loans ............... 25,835 78 23,968 81 23,620 82
Consumer loans ................ 10,274 13 6,748 10 6,308 10
------- ------- -------
Total class allowances ........ 57,200 44,469 41,343
Specific allowances:
Commercial loans .............. -- -- -- -- -- --
Residential real estate
mortgage loans ............... -- -- -- -- -- --
Consumer loans ................ -- -- -- -- -- --
------- ------- -------
Total specific allowances ..... -- -- -- -- -- --
Unallocated allowances ......... 16,647 -- 23,046 -- 23,268 --
------- -- ------- -- ------- --
Total allowance for loan
losses ....................... $73,847 100% $67,515 100% $64,611 100%
======= === ======= === ======= ===
</TABLE>
<PAGE>
We periodically review our loan portfolio and assign a risk-rating based
on loan type, collateral value, financial condition of the borrower and payment
history. Delinquent mortgage and consumer loans are reviewed monthly and
assigned a rating based on their payment history, financial condition of the
borrower and collateral values. Specific mortgage and consumer loans are also
reviewed in conjunction with the previously described review of any related
commercial loan.
Class Allowance -- The class allowance for December 31, 1998 and 1997 is a
general allowance for "pass" rated loans and was determined by applying
specific risk percentages to each "pass" rated loan. The risk percentages are
determined by us in consultation with regulatory authorities, based on actual
loss experience and peer group loss experience, and are adjusted for current
economic conditions. The risk percentages are considered a prudent measurement
of the risk of our loan portfolio. Such risk percentages are applied to
individual loans based on loan type.
Residential Portfolio -- Class reserves for the residential portfolio were
reduced from .20% of the portfolio in 1997 to .15% of the portfolio in 1998.
This reduction was based on a combination of reduced losses and increased
recoveries during 1998. Net charge-offs in 1998 were $5.1 million, compared to
$7.8 million in 1997.
Consumer Portfolio -- Consumer portfolio class reserves are between the
range of 50 basis points of that portion of the consumer portfolio fully
secured by real estate, and 140 basis points for the higher risk portions of
its portfolio. The class reserve for our indirect auto loan portfolio increased
during 1998 due to higher than expected net charge-offs. In response to the
higher charge-offs, in the latter half of 1998, we revised our indirect auto
underwriting guidelines to reflect a more conservative lending philosophy.
Commercial Portfolio -- In addition to the specific reserves established
for the commercial loan portfolio, we reserve in the range of 75 to 150 basis
points of our commercial loan portfolio, based on product type and collateral
value.
Specific Allowance -- We determine the specific portion of our allowance
for loan losses for all criticized loans, or those classified as special
mention, sub-standard, doubtful, or loss. Risk percentages are applied to each
class of criticized commercial, consumer and residential loans to determine the
specific allowance. Additionally, additional specific reserves are established
for certain impaired commercial loans based on expected shortfalls in future
cash flows and inadequate collateral value. Management believes this periodic
review provides a mechanism that results in loans being rated in the proper
category and accordingly, assigns the proper risk loss percentage in computing
the class or specific reserve.
S-77
<PAGE>
Unallocated Allowance -- The unallocated allowance for loan losses
decreased $441,000 to $24.9 million at December 31, 1998 from $25.4 million at
December 31, 1997. This slight decrease can be attributed to the increased
class reserves of $3.9 million to $69.1 million at December 31, 1998.
The change in the mix of our loan portfolio through both internal growth
and portfolio acquisitions indicated to management that a higher provision for
loan losses was necessary to maintain the allowance for loan losses at a level
which management conservatively estimates is necessary to absorb potential
losses inherent in the December 31, 1998 portfolio. As a result, excluding the
additional provision of $24.9 million recorded as part of the merger charges
related to our 1997 acquisition activity, our 1998 loan loss provision
increased 73% to $28.0 million in 1998 from $16.2 million in 1997. For
additional information with respect to our provision for loan losses, see
"Results of Operations for the Years Ended December 31, 1998 and 1997 --
Provision for Possible Loan Losses".
Investment Securities
Our investment portfolio is concentrated in mortgage-backed securities and
collateralized mortgage obligations issued by federal agencies or private label
issues. The private label issues have ratings of "AAA" by Standard and Poor's
and Fitch at the date of issuance. The classes are backed by single-family
residential loans which are primary residences geographically dispersed
throughout the United States. We purchase classes which are senior positions
backed by subordinate classes. The subordinate classes absorb the losses and
must be completely eliminated before any losses flow through the senior
positions. Our strategy is to purchase classes which have an average life of
three years or less. The effective duration of the total investment portfolio
at December 31, 1998 was 1.7 years.
Investment Securities Available-for-Sale
Securities expected to be held for an indefinite period of time are
classified as available-for-sale and are carried at fair value, with unrealized
gains and losses reported as a separate component of stockholders' equity, net
of estimated income taxes. Decisions to purchase or sell these securities are
based on economic conditions including changes in interest rates, liquidity,
and asset/liability management strategies. For additional information with
respect to the amortized cost and estimated fair value of our investment
securities available-for-sale, see note 4 of notes to consolidated financial
statements.
The maturities of mortgage-backed securities available-for-sale are based
upon contractually scheduled repayments. Expected maturities will differ from
contractual maturities because borrowers may have the right to put or repay
obligations with or without put or prepayment penalties. Yields on tax-exempt
securities were computed on a tax equivalent basis using our effective tax rate
of 35%.
S-78
<PAGE>
Table 10 sets forth the amortized cost, expected maturities and yields of
our investment securities available-for-sale at December 31, 1998 (in
thousands):
Table 10: Investment Securities Available for Sale Maturity Schedule
<TABLE>
<CAPTION>
At December 31, 1998, Maturing
-------------------------------
One
In One Year Year/Five
or Less Years
-------------- ---------------
<S> <C> <C>
Investment Securities:
U.S. Treasury and government agency securities $ 23,486 $ 11,994
4.65% 6.12%
Corporate securities ................................. -- 636
-- 3.67%
Equity securities .................................... -- --
-- --
Other securities ..................................... -- 88
-- 6.70%
Mortgage-backed Securities:
FHLMC ................................................ 22,926 48,240
7.39% 7.48%
FNMA ................................................. 10,571 23,252
7.30% 7.35%
GNMA ................................................. 9,575 24,343
7.60% 7.34%
Private issues ....................................... 241,378 1,608,863
6.89% 6.84%
Collateralized mortgage obligations .................. 1,163,945 2,166,359
6.68% 6.69%
---------- -----------
Total investment securities available-for-sale ........ $1,471,881 $ 3,883,775
========== ===========
6.70% 6.77%
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
At December 31, 1998, Maturing
------------------------------------------
After Ten
Five Years/No
Years/Ten Stated
Years Maturity Total
------------ ------------ --------------
<S> <C> <C> <C>
Investment Securities:
U.S. Treasury and government agency securities $ -- $ -- $ 35,480
-- -- 5.15%
Corporate securities ................................. 30,247 7,901 38,784
7.42% 8.08% 7.49%
Equity securities .................................... -- 881,817 881,817
-- 6.51% 6.51%
Other securities ..................................... 1,620 6,652 8,360
4.92% 6.02% 5.81%
Mortgage-backed Securities:
FHLMC ................................................ 11,392 3,203 85,761
7.47% 7.38% 7.45%
FNMA ................................................. 5,308 1,514 40,645
7.36% 7.29% 7.34%
GNMA ................................................. 6,062 2,454 42,434
7.24% 7.28% 7.38%
Private issues ....................................... 114,150 4,931 1,969,322
6.84% 6.83% 6.85%
Collateralized mortgage obligations .................. 139,230 62,414 3,531,948
6.69% 6.59% 6.68%
-------- -------- ----------
Total investment securities available-for-sale ........ $308,009 $970,886 $6,634,551
======== ======== ==========
6.86% 6.53% 6.72%
</TABLE>
Investment Securities Held-to-Maturity
Securities that we have the intent and ability to hold to maturity are
classified as held-to-maturity and reported at amortized cost. This portfolio
is primarily comprised of U.S. Treasury and government agency securities;
corporate debt securities; mortgage-backed securities issued by Federal Home
Loan Mortgage Corporation, Federal National Mortgage Association, the
Government National Mortgage Association, the Resolution Trust Company and
private issuers; and collateralized mortgage obligations. For additional
information with respect to the amortized cost and estimated fair value of our
investment securities held-to-maturity, see note 4 of notes to consolidated
financial statements.
The maturities of mortgage-backed securities held-to-maturity are based
upon contractually scheduled repayments. Expected maturities will differ from
contractual maturities because borrowers may have the right to put or repay
obligations with or without put or prepayment penalties. Yields on tax-exempt
securities were computed on a tax equivalent basis using our effective tax rate
of 35%.
S-79
<PAGE>
Table 11 sets forth the expected maturity and yields of our investment
securities held-to-maturity at December 31, 1998 (in thousands):
Table 11: Investment Securities Held-to-Maturity Maturity Schedule
<TABLE>
<CAPTION>
At December 31, 1998, Maturing
-------------------------------------------------------------------------
Five
In One One Years/
Year Or Year/Five Ten After Ten
Less Years Years Years Total
------------ ------------ ------------ ----------- --------------
<S> <C> <C> <C> <C> <C>
Investment Securities:
U.S. Treasury and government
agency securities ......... $ 31,180 $ -- $ -- $ -- $ 31,180
5.44% -- -- -- 5.44%
Other securities ............ 1,710 265 40,912 11,594 54,481
8.05% 8.27% 9.98% 10.29% 9.98%
Mortgage-backed Securities:
FHLMC ....................... 71,718 143,419 22,678 4,743 242,558
7.44% 7.45% 7.50% 7.60% 7.45%
FNMA ........................ 58,292 99,435 15,584 2,856 176,167
7.12% 7.38% 7.42% 7.56% 7.30%
GNMA ........................ 53,901 158,478 53,606 26,679 292,664
6.91% 6.96% 7.02% 7.15% 6.98%
Private issues .............. 22,106 42,840 7,729 1,848 74,523
6.74% 6.84% 6.95% 7.01% 6.83%
Collateralized mortgage
obligations ............... 516,286 436,716 10,994 4,086 968,082
6.61% 6.74% 6.66% 6.78% 6.67%
-------- -------- -------- ------- ----------
Total investment securities
held-to-maturity ............ $755,193 $881,153 $151,503 $51,806 $1,839,655
======== ======== ======== ======= ==========
6.71% 6.97% 7.90% 7.88% 6.97%
</TABLE>
Table 12 presents the securities of single issuers (other than obligations
of the United States and its political subdivisions, agencies and corporations)
having an aggregate book value in excess of 10% of our stockholders' equity
which were held by us at December 31, 1998 (in thousands):
Table 12: Investment Securities of Single Issuers
<TABLE>
<CAPTION>
At December 31,1998
--------------------------------
Carrying Value Fair Value
---------------- -------------
<S> <C> <C>
Cendant Mortgage ................................ $ 509,304 $ 508,449
Countrywide Home Loans, Inc. .................... 772,857 775,268
Delta Funding ................................... 133,163 132,266
First Union Mortgage Corporation ................ 159,852 160,976
G.E. Capital Mortgage Servicing, Inc. ........... 609,118 610,391
Norwest Asset Securities Corporation ............ 655,486 654,144
PNC Mortgage Securities Corporation ............. 754,551 754,069
Residential Asset Securitization Trust .......... 438,875 441,134
Residential Funding Corporation ................. 801,935 809,456
Structured Asset Mortgage Investments, Inc. ..... 209,315 209,938
Structured Asset Securities Corporation ......... 309,690 315,184
---------- ----------
Total .......................................... $5,354,146 $5,371,275
========== ==========
</TABLE>
Other Assets
At December 31, 1998, premises and equipment, net of accumulated
depreciation, was $98.5 million compared to $92.3 million at December 31, 1997.
This increase was primarily attributable to the CoreStates branch acquisition
and hardware upgrades related to our Year 2000 initiatives.
S-80
<PAGE>
Total goodwill and other intangible assets at December 31, 1998 were $426
million compared to $126 million at December 31, 1997. This increase was
primarily attributable to the CoreStates branch acquisition during the third
quarter of 1998, which added approximately $325 million of goodwill and other
intangibles to our balance sheet.
Our increase in other assets during 1998 was partially attributable to the
purchase of $250 million of bank owned life insurance during the year.
Deposits
Deposits are attracted from within our primary market area through the
offering of various deposit instruments including NOW accounts, money market
accounts, savings accounts, certificates of deposit and retirement savings
plans.
Total deposits at December 31, 1998 were $12.3 billion compared to $9.5
billion at December 31, 1997.
Table 13 presents the composition of our deposits at the dates indicated
(in thousands):
Table 13: Deposit Portfolio Composition
<TABLE>
<CAPTION>
At December 31,
------------------------------------------------------------------------------------
1998 1997 1996
--------------------------- -------------------------- -------------------------
% of % of % of
Balance Deposits Balance Deposits Balance Deposits
-------------- ---------- ------------- ---------- ------------- ---------
<S> <C> <C> <C> <C> <C> <C>
Demand deposit and NOW
accounts .............................. $ 2,385,686 19.4% $1,334,852 14.0% $1,156,840 13.4%
Savings accounts ....................... 2,295,448 18.6 1,900,334 20.0 1,869,633 21.6
Money market accounts .................. 1,545,634 12.5 916,788 9.6 853,505 9.8
Retail certificates of deposit ......... 5,172,196 42.0 4,673,467 49.1 4,386,401 50.6
Total retail deposits ................. 11,398,964 92.5 8,825,441 92.7 8,266,379 95.4
Jumbo certificates of deposit .......... 923,752 7.5 689,853 7.3 394,305 4.6
----------- ----- ---------- ----- ---------- -----
Total deposits ........................ $12,322,716 100.0% $9,515,294 100.0% $8,660,684 100.0%
=========== ===== ========== ===== ========== =====
</TABLE>
Borrowings
We utilize borrowings as a source of funds for our asset growth and our
asset/liability management. Collateralized advances are available from the
Federal Home Loan Bank of Pittsburgh provided certain standards related to
creditworthiness have been met. Another source of funds is reverse repurchase
agreements. Reverse repurchase agreements are short-term obligations
collateralized by securities fully guaranteed as to principal and interest by
the U.S. Government or an agency thereof.
Total borrowings at December 31, 1998 were $7.9 billion of which $3.9
billion were short-term compared to total borrowings of $6.9 billion of which
$5.5 billion were short-term at December 31, 1997.
Table 14 presents information regarding our borrowings at the dates
indicated (in thousands):
<PAGE>
Table 14: Borrowings
<TABLE>
<CAPTION>
At December 31,
------------------------------------------------------------------------------------------
1998 1997 1996
----------------------------- ----------------------------- ----------------------------
Weighted Weighted Weighted
Balance Average Rate Balance Average Rate Balance Average Rate
------------- -------------- ------------- -------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Securities sold under
repurchase agreements ...... $ 655,540 5.46% $1,150,093 5.70% $1,168,172 5.60%
Federal Home Loan Bank of
Pittsburgh advances ........ 6,901,505 5.14 5,525,399 5.93 4,251,189 5.88
Other borrowings ............ 343,547 8.19 188,151 5.88 179,748 7.45
---------- ---- ---------- ---- ---------- ----
Total borrowings ............ $7,900,592 5.30% $6,863,643 5.89% $5,599,109 5.87%
========== ==== ========== ==== ========== ====
</TABLE>
S-81
<PAGE>
Through the use of interest rate swaps, $2.8 billion of the Federal Home
Loan Bank of Pittsburgh advances at December 31, 1998 have been effectively
converted from variable rate obligations to fixed rate obligations. In
addition, $1.2 billion of borrowings have been protected from upward repricing
through the use of interest rate caps, floors and/or corridors.
Asset and Liability Management
The objective of our asset and liability management is to identify,
measure and control our interest rate risk in order to produce consistent
earnings that are not contingent upon favorable trends in interest rates. We
manage our assets and liabilities to attain a stable net interest margin across
a wide spectrum of interest rate environments. This is attained by monitoring
the levels of interest rates, the relationships between the rates earned on
assets and the rates paid on liabilities, the absolute amount of assets and
liabilities which reprice or mature over similar periods, off-balance sheet
positions and the effect of all these factors on the estimated level of net
interest income.
There are a number of industry standards used to measure an institution's
interest rate risk position. Most common among these is the one-year gap which
is the ratio representing the difference between assets, liabilities and
off-balance sheet positions which will mature or reprice within one year
expressed as a percentage of total assets. Using management's estimates of
asset prepayments, core deposit decay and core deposit repricing in its
computation, we estimate that our cumulative one year gap position was a
negative 18.65% at June 30, 1999 and a positive 5.65% at December 31, 1998.
We manage the one year interest rate gap within a range of +/-10%. A
positive gap position implies that the bank is asset sensitive which could
cause net interest income to decrease if interest rates fall. Conversely, a
negative gap position implies that the bank is liability sensitive which could
cause net interest income to decrease if interest rates rise. We manage the
impact to net interest income in a +/-200 basis point instantaneous parallel
rate shock environment to be within a 10% loss. At June 30, 1999, we estimate
that if interest rates decline by 200 basis points, net interest income would
decrease by $71.5 million or 10.67%; conversely, if interest rates increase by
200 basis points, net interest income would decrease by $30.6 million or 4.57%.
At December 31, 1998, we estimated that if interest rates decline by 200 basis
points, net interest income would decrease by $52.4 million or 8.52%;
conversely, if interest rates increase by 200 basis points, net interest income
would increase by $22.1 million or 3.59%.
We also utilize income simulation modeling in measuring our interest rate
risk and managing our interest rate sensitivity. Income simulation considers
not only the impact of changing market interest rates on forecasted net
interest income, but also other factors such as yield curve relationships, the
volume and mix of assets and liabilities, customer preferences and general
market conditions.
Pursuant to our interest rate risk management strategy, we enter into
off-balance sheet transactions which involve interest rate exchange agreements
(swaps, caps and floors) for interest rate risk management purposes. Our
objective in managing our interest rate risk is to provide sustainable levels
of net interest income while limiting the impact that changes in interest rates
have on net interest income.
Amortizing and non-amortizing interest rate swaps are generally used to
convert fixed rate assets and liabilities to variable rate assets and
liabilities and vice versa. We utilize amortizing interest rate swaps to
convert discounted adjustable rate loans to fixed rates for a period of time.
The amortization of the notional amount of the interest rate swaps is tied to
the level of an index such as the One Year Constant Maturity Treasury, LIBOR,
or a prepayment rate of a pool of mortgage-backed securities. In order for
interest rate swaps to achieve the desired objective, we select interest rate
swaps that will have a high degree of correlation to the related financial
instrument. We utilize non-amortizing interest rate swaps to convert fixed rate
liabilities to floating, and floating rate liabilities to fixed, to reduce our
overall cost of funds. At June 30, 1999, our principal off-balance sheet
transactions were pay fixed-receive variable non-amortizing interest rate swaps
with a total notional amount of $920 million, which are being used to hedge our
short-term borrowing portfolio. At December 31, 1998, our principal off-balance
sheet transactions were pay fixed-receive variable non-amortizing interest rate
swaps with a total notional amount of $2.8 billion, which are being used to
hedge our short-term borrowing portfolio.
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<PAGE>
Interest rate caps are generally used to limit the exposure from the
repricing and maturity of liabilities and interest rate floors are generally
used to limit the exposure from the repricing and maturity of assets. Interest
rate caps and floors are also used to limit the exposure created by other
interest rate swaps. In certain cases, interest rate caps and floors are
simultaneously bought and sold to create a range of protection against changing
interest rates while limiting the cost of that protection.
As part of our mortgage banking strategy, we originate fixed rate
residential mortgages. We sell the majority of these loans to Federal Home Loan
Mortgage Corporation, Federal National Mortgage Association and private
investors. The loans are exchanged for cash or marketable fixed rate
mortgage-backed securities which are generally sold. This helps insulate us
from the interest rate risk associated with these fixed rate assets. We use
forward sales, cash sales and options on mortgage-backed securities as a means
of hedging loans in the mortgage pipeline which are originated for sale.
Our primary funding source is deposits obtained in our own marketplace.
Deposit programs are priced to meet management's asset/liability objectives,
while taking into account the rates available on investment opportunities and
also considering the cost of alternative funding sources. Borrowings are a
significant funding source for us and have primarily been in the form of
securities sold under repurchase agreements and advances from the Federal Home
Loan Bank of Pittsburgh. Since borrowings are not subject to the market
constraints to which deposits are, we use borrowings to add flexibility to our
interest rate risk position.
Table 15 presents the amounts of interest-earning assets and
interest-bearing liabilities that are assumed to mature or reprice during the
periods indicated at December 31, 1998, and their related average yields and
costs. Adjustable and floating rate loans and securities are included in the
period in which interest rates are next scheduled to adjust rather than the
period in which they mature (in thousands):
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<PAGE>
Table 15: Gap Analysis
<TABLE>
<CAPTION>
At December 31, 1998, Repricing
-----------------------------------------------------------------------------
0-3 Months 4 Months - 1 Year Year 2 & over Total
----------------- ------------------- ----------------- ---------------
<S> <C> <C> <C> <C>
Interest-earning assets:
Investment securities (1)(2) ............... $ 1,742,625 $ 2,401,844 $ 4,440,263 $ 8,584,732
6.09% 6.51% 6.68% 6.51%
Loans (3) .................................. 3,302,338 3,126,632 5,019,998 11,448,968
8.03% 7.89% 8.10% 8.02%
----------- ----------- ----------- -----------
Total interest-earning assets .............. 5,044,963 5,528,476 9,460,261 20,033,700
7.36% 7.29% 7.43% 7.37%
Non-interest-earning assets ................ -- -- 1,880,173 1,880,173
----------- ----------- ----------- -----------
Total assets ............................... $ 5,044,963 $ 5,528,476 $11,340,434 $21,913,873
7.36% 7.29% 6.20% 6.74%
----------- ----------- ----------- -----------
Interest-bearing liabilities:
Deposits (4) ............................... $ 3,946,410 $ 3,558,976 $ 4,817,330 $12,322,716
4.50% 4.92% 2.22% 3.73%
Borrowings ................................. 4,092,167 547,834 3,260,591 7,900,592
5.42% 5.22% 5.17% 5.30%
----------- ----------- ----------- -----------
Total interest-bearing liabilities ......... 8,038,577 4,106,810 8,077,921 20,223,308
4.97% 4.96% 3.41% 4.35%
Non-interest-bearing liabilities ........... -- -- 486,497 486,497
Stockholders' equity ....................... -- -- 1,204,068 1,204,068
----------- ----------- ----------- -----------
Total liabilities and stockholders' equity . $ 8,038,577 $ 4,106,810 $ 9,768,486 $21,913,873
4.97% 4.96% 2.82% 4.01%
----------- ----------- ----------- -----------
Excess assets (liabilities) before effect of
off-balance sheet positions ............... $(2,993,614) $ 1,421,666 $ 1,571,948
----------- ----------- -----------
To total assets ............................ (13.66%) 6.49% 7.17% 2.73%
=========== =========== =========== ===========
Cumulative excess assets (liabilities)
before effect of off-balance sheet posi-
tions ..................................... $(2,993,614) $(1,571,948) $ --
=========== =========== ===========
To total assets ............................ (13.66%) (7.17)%
Effect of off-balance sheet positions on
assets and liabilities .................... $ 3,140,000 $ (330,000) $(2,810,000)
----------- ----------- -----------
Excess assets (liabilities) after effect of
off-balance sheet positions ............... $ 146,386 $ 1,091,666 $(1,238,052)
=========== =========== ===========
0.67% 4.98% (5.65)%
Cumulative excess assets (liabilities)
after off-balance sheet positions ......... $ 146,386 $ 1,238,052 $ --
=========== =========== ===========
To total assets ............................ 0.67% 5.65%
</TABLE>
- ------------
(1) Includes interest-earning deposits.
(2) Investment securities include market-rate prepayment and repayment
assumptions.
(3) Loan balances include annual prepayment and repayment assumptions between
6% and 45% initially with gradual slowing thereafter. Loan balances are
presented net of deferred loan fees and include loans held for sale and
the allowance for loan losses.
(4) Savings, NOW, money market and demand deposits accounts have been assumed
to decay at an annual rate of 8%.
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<PAGE>
Liquidity And Capital Resources
If the New England acquisition and related financings would have been
completed on June 30, 1999, we would have had $1.1 billion of public debt, $500
million of bank debt and $291.6 million of trust preferred securities
outstanding. A substantial portion of these amounts would have been incurred to
provide the capital necessary to support the New England acquisition. See
"Financing Transactions," "Capitalization" and notes to consolidated financial
statements. We believe that, after giving effect to the New England acquisition
and the related financings, for the foreseeable future, the cash flow from
Sovereign Bank's operations and proceeds from sales of securities and other
assets in ordinary course of business after giving effect to the New England
acquisition and the related financings should be sufficient to enable Sovereign
Bank to remain well capitalized, make capital expenditures and pay dividends to
us. The dividends from Sovereign Bank enable us to pay interest and principal
on our indebtedness and to pay dividends to our common stockholders. Our belief
is based on our historical operating performance and assumptions relating to
our future operating performance after giving effect to the New England
acquisition. Whether we are correct will depend on whether our assumptions are
correct and on general economic, financial, competitive, regulatory and other
factors. We may also decide to ultimately raise different types or amounts of
capital to support the acquisition. See "Risk Factors" and "Pro Forma and
Forecasted Financial Information" and related notes and assumptions.
Sovereign Bank is required under applicable federal regulations to
maintain specified levels of "liquid" investments in cash and U.S. Treasury
securities and other qualifying investments. Regulations currently in effect
require Sovereign Bank to maintain liquid assets of not less than 4% of its net
withdrawable accounts plus short-term borrowings. These levels are changed from
time to time by the Office of Thrift Supervision to reflect economic
conditions. Sovereign Bank's liquidity ratio for June 30, 1999 was 64.1%.
Sovereign Bank's liquidity ratio for December 31, 1998 was 44.9%.
Our primary financing sources are deposits obtained in our own market area
and borrowings in the form of securities sold under repurchase agreements and
advances from the Federal Home Loan Bank of Pittsburgh. While the majority of
our certificate of deposit accounts are expected to mature within a one-year
period, historically, the retention rate has been approximately 70%. If a
significant portion of maturing certificates would not renew at maturity, the
impact on our operations and liquidity would be minimal due to cash flows
produced by our investment portfolio which approximate $275 million per month.
At June 30, 1999 and December 31, 1998, we had $8.8 billion and $6.2 billion,
respectively, in unpledged investment securities which could be used to
collateralize additional borrowings. Sovereign Bank can also borrow from the
Federal Home Loan Bank of Pittsburgh, subject to required collateralization.
Other sources of funds include operating activities, repayments of principal on
investment securities, repayment of principal on loans and other investing
activities. We also maintain strong relationships with numerous investment
banking firms, and have the ability to access the capital markets through a
variety of products and structures, should liquidity or capital needs arise.
On May 17, 1995, we completed the sale of 2.0 million shares of
Convertible Preferred Stock, raising $96.4 million in capital. The 6 1/4%
non-voting, Cumulative Convertible Preferred Stock was convertible at the
option of the holder at any time, unless previously redeemed, at a conversion
rate (adjusted to reflect all stock dividends and stock splits) of 7.184 shares
of common stock for each share of preferred stock; equivalent to a conversion
price of $6.960 per share of common stock. On May 15, 1998, we redeemed all
outstanding shares of our 6 1/4% Cumulative Convertible Preferred Stock, Series
B.
For the six-month period ended June 30, 1999, cash and cash equivalents
increased $44.3 million. Net cash used for operating activities was $60.7
million for the six-month period ended June 30, 1999. Net cash used for
investing activities for the six-month period ended June 30, 1999 was $1.3
billion, consisting primarily of purchases of investment securities which are
classified available-for-sale, partially offset by proceeds from repayments of
investment securities and loans. Net cash provided by financing activities for
the six-month period ended June 30, 1999 was $1.4 billion, which includes an
increase in short-term borrowings of $1.5 billion and an increase in proceeds
from long-term borrowings of $745 million, partially offset by a decrease in
deposits. Cash and cash equivalents increased $298 million for the year ended
December 31, 1998. Net cash used by operating activities was $15.0 million for
1998. Net cash used by investing activities for 1998 was $3.5 billion,
consisting primarily of purchases of mortgage-backed securities and loans
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<PAGE>
purchased from CoreStates, partially off-set by proceeds from sales, repayments
and maturities of investment securities and sales of loans. Net cash provided
by financing activities for 1998 was $3.8 billion which was primarily
attributable to the assumption of deposits from CoreStates and an increase in
proceeds from long-term borrowings, partially off-set by a net decrease in
short-term borrowings.
The Financial Institutions Reform, Recovery and Enforcement Act requires
the Office of Thrift Supervision to prescribe uniformly applicable capital
standards for all savings associations. These standards require savings
associations to maintain a minimum tangible capital ratio of not less than
1.5%, a minimum leverage capital ratio of not less than 3% of tangible assets
and not less than 4% of risk adjusted assets and a minimum risk-based capital
ratio (based upon credit risk) of not less than 8%. In all cases, these
standards are to be no less stringent than the capital standards that are
applicable to national banks. The Office of Thrift Supervision has issued a
regulation that requires a minimum leverage capital requirement of 3% for
associations rated composite "1" under the Office of Thrift Supervision MACRO
rating system. For all other savings associations, the minimum leverage capital
requirement will be 3% plus at least an additional 100 to 200 basis points.
The Federal Deposit Insurance Corporation Improvement Act established five
capital tiers: well capitalized, adequately capitalized, under-capitalized,
significantly under-capitalized and critically under-capitalized. A depository
institution's capital tier depends upon its capital levels in relation to
various relevant capital measures, which include leverage and risk-based
capital measures and certain other factors. Depository institutions that are
not classified as well capitalized are subject to various restrictions
regarding capital distributions, payment of management fees, acceptance of
brokered deposits and other operating activities.
The following table sets forth the capital ratios of Sovereign Bancorp and
Sovereign Bank and the current regulatory requirements at June 30, 1999:
<TABLE>
<CAPTION>
Sovereign Minimum Well
Bancorp(1) Bank Requirement Capitalized(1)
------------ ---------- ------------- ---------------
<S> <C> <C> <C> <C>
Tangible capital to tangible assets ..................... 4.50% 5.89% 1.50% None
Leverage (core) capital to tangible assets .............. 5.42 6.35 3.00 5.00%
Leverage (core) capital to risk adjusted assets ......... 8.70 10.37 4.00 6.00
Risk-based capital to risk adjusted assets .............. 12.42 11.32 8.00 10.00
</TABLE>
- ------------
(1) Office of Thrift Supervision capital regulations do not apply to savings
and loan holding companies. These ratios are computed as if those
regulations did apply to Sovereign Bancorp.
At June 30, 1999, Sovereign Bank was classified as well capitalized and in
compliance with all capital requirements. Management's financing plan for the
New England acquisition is designed to keep Sovereign Bank well capitalized
after giving effect to the acquisition.
The Year 2000 Computer Issue
The Year 2000 computer issue refers to the inability of many computers,
computer-based systems, related software, and other electronics to process
dates accurately during the year 2000 and beyond. Many of these computers,
systems, software programs and devices use only two digits to indicate the
year. For example, the year 1998 is input, stored and calculated as "98." The
Year 2000 will in many systems and software programs be represented as "00,"
but "00" can also be read as 1900. This ambiguity may cause errors which may
cause the computer, system or device to fail completely, cause programs to
operate incorrectly, or slowly corrupt or contaminate data over time. These
problems may arise both in information systems used for data storage and
processing, and in connection with mechanical systems such as bank vaults,
elevators, escalators, heating, ventilating and air conditioning systems, and
other systems which use embedded microprocessors as timers or for other
purposes.
Our State of Readiness
Our Year 2000 readiness project has five phases:
Inventory -- identification of the computers, software, systems and
devices used by us and the business applications to which such computers,
programs, systems and devices are devoted.
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<PAGE>
Assessment -- analyzing those computers, software, systems, devices and
related applications with a view to determining if they store or process date
information in a manner which will avoid millennial errors of the type
described above and the risks resulting from any such errors, and prioritizing
them based on how critical they are to our business operations.
Remediation -- modification or replacement of deficient computers,
programs, systems and devices to the extent such deficiency poses material
risks to us.
Testing -- The modified or new computers, software or systems are tested
to determine if they operate and interoperate in a manner which should reduce
risk to an acceptable level. Items are addressed in accordance with the
priorities given to them in the assessment phase.
Implementation -- bringing the new or changed computers, software, systems
and electronics on line.
We are currently in the implementation phase. We had substantially completed
testing of our internal mission-critical items as of December 31, 1998 and had
substantially completed testing of our external mission critical items by March
31, 1999. "Internal" items would include software developed by us or the
remediation of which is controlled by us, whereas external items would include
software provided by others, and systems provided by our service providers. As
of June 30, 1999, we have completed the implementation phase for all
mission-critical items.
The description set forth above applies to both information technology
systems and non-information technology systems, such as embedded
microprocessors.
As part of our Year 2000 project, we have also endeavored to analyze the
risks posed to us by our material borrowers according to regulatory guidelines.
Borrowers whose businesses have been determined by us to be subject to material
levels of risk from Year 2000 computer problems have been questioned regarding
their own state of readiness. We have similarly questioned providers of funds
and substantial vendors and suppliers. Vendors whom we consider to be critical
to our operations have been asked, in addition, to provide us with assurances
and other evidence as to their Year 2000 readiness.
Costs
We have established a budget for our Year 2000 project costs, which covers
the estimated costs of remediation, including modification or replacement of
systems and software, utilization of outside consultants, and costs of internal
personnel. Based on our current assessment of our Year 2000 project status, the
amount of this budget is $13.5 million for fiscal 1998 and 1999. We are using
our internal funds for this project.
Our expenditures with regard to our Year 2000 project are substantially in
accordance with our current budget. Through August 10, 1999, our cash outlay
was approximately $12.5 million of our $13.5 million budget.
Our estimates are, of necessity, judgmental and subject to revision based
on the results of the testing referred to above and other changed facts or
circumstances, including changes in our assessment of the state of readiness
and contingency plans of our principal outside service providers.
Risks
We believe, based on the advice of our consultants, that the most
reasonably likely worst case Year 2000 scenario relates to our principal
outside service providers, substantially all of which are large, seasoned,
national companies experienced in serving financial institutions. We depend on
these service providers for substantially all of our data processing needs
relating to our account processing, item processing and other important
functions. We are requiring material providers to provide evidence and other
assurance of this compliance and/or their progress towards compliance, as well
as their contingency plans. Certain of these service providers are also subject
to the jurisdiction of the regulatory bodies which have jurisdiction over us.
Those regulatory bodies are examining the service providers with respect to
Year 2000 readiness using the same standards and deadlines as the regulators
use to examine financial institutions, and we have reviewed the results of
certain of these examinations to assist in assessing the state of readiness and
contingency plans of such providers. Based on all of the foregoing, we believe
that:
S-87
<PAGE>
o our providers will be substantially Year 2000 compliant; and
o have adequate contingency plans to address compliance.
Notwithstanding the foregoing, no assurances can be given that a service
provider's system or software will not fail and, if it fails, that such failure
will not have a material adverse effect on us or our business. We are presently
in the process of developing contingency plans to deal with issues relating to
the failure of system segments.
In addition, utility services, which are generally beyond our control, may
present a significant Year 2000 risk. In particular, disruption of
telecommunication and electric utility service because of a Year 2000 related
problem (or otherwise) could interfere significantly with our operations, even
if we and our service providers and customers, and their computers, systems,
and software, are fully Year 2000 compliant.
The foregoing is a summary of the steps which we have taken as of June 30,
1999 and proposed to take as of that date with respect to the Year 2000 issue,
and the risks which we, at this time, believe the Year 2000 issues are likely
to present. We are using good faith efforts, which we believe are reasonable,
to prepare for the Year 2000 issue and avoid disruption in our business.
Nonetheless, the Year 2000 issue presents an unprecedented challenge to the
financial services industry, an industry characterized by a high degree of
interdependence among financial institutions and those who deal with and
service them, such as outside data processing services, computer network system
providers, local and long distance telecommunications companies, utilities, and
ATM terminal service providers. Whether these outside parties are ready for the
year 2000 is largely beyond our control. Accordingly, there can be no assurance
that
o our assessment of the Year 2000 risks will prove to be correct;
o the steps we are taking will be sufficient to avoid disruption to our
business and other material risks; and
o the foregoing will not ultimately have a material adverse effect on us
and our business.
Pending Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standard No. 133, "Accounting for Derivative Instruments
and Hedging Activities," which is required to be adopted in years beginning
after June 15, 2000. Statement of Financial Accounting Standard No. 133 permits
early adoption as of the beginning of any fiscal quarter after its issuance. We
expect to adopt Statement of Financial Accounting Standard No. 133 effective
January 1, 2001. Statement of Financial Accounting Standard No. 133 requires
the recognition of all derivatives on the balance sheet at fair value.
Derivatives that are not hedges must be adjusted to fair value as a component
of income. If the derivative is a hedge, depending on the nature of the hedge,
changes in the fair value of derivatives will either be off-set against the
change in fair value of the hedged assets, liabilities, or firm commitments
through earnings or recognized in other comprehensive income until the hedged
item is recognized in earnings. The ineffective portion of a derivative's
change in fair value will be immediately recognized in earnings. We have not
yet determined what the effect of Statement of Financial Accounting Standard
No. 133 will be on our earnings and financial position.
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<PAGE>
INFORMATION REGARDING THE LOANS
AND DEPOSITS IN THE NEW ENGLAND ACQUISITION
The information set forth below provides certain information about the
deposits we expect to assume and loans we expect to acquire upon closing the
New England acquisition (expected to be on or about April 28, 2000). This
information is derived from deposit and loan schedules provided to us by
Fleet/BankBoston as of June 30, 1999. This information has not been audited and
may change materially between June 30, 1999 and the date of the New England
acquisition as a result of many factors, including changes in interest rates,
deposit withdrawals, loan originations and repayments, other changes in assets
and refinancings as well as changes in our agreement with Fleet/BankBoston.
Because the New England acquisition is not an acquisition of a going business
or other discrete operating unit, there is no historical financial information
(other than that presented below) available with respect to the assets and
liabilities we expect to acquire.
Composition of Loan Portfolio
As of June 30, 1999
--------------------------
Balance Percent
------------- ----------
(dollars in thousands)
Residential real estate loans ......... $3,787,131 47.4%
---------- -----
Total residential loans ............. 3,787,131 47.4
---------- -----
Commercial real estate loans .......... 401,009 5.0
Commercial loans ...................... 3,296,750 41.3
---------- -----
Total commercial loans .............. 3,697,759 46.3
---------- -----
Home equity loans ..................... 421,949 5.3
Auto loans ............................ 12,962 0.2
Other ................................. 74,481 0.9
---------- -----
Total consumer loans ............... 509,392 6.4
---------- -----
Total loans ........................ $7,994,282 100.0%
========== =====
Total loans with:
Fixed rates ....................... $4,545,719 56.9%
Variable rates .................... 3,448,563 43.1
---------- -----
Total loans ..................... $7,994,282 100.0%
========== =====
Loan Maturity Schedule
<TABLE>
<CAPTION>
As of June 30, 1999, Maturing
------------------------------------------------------------
In One Year After One Year After
Or Less -- Five Years Five Years Total
------------- ---------------- ------------ -------------
(in thousands)
<S> <C> <C> <C> <C>
Commercial real estate loans ......... $108,294 $ 178,592 $ 114,123 $ 401,009
Commercial loans ..................... 460,060 1,722,185 1,114,505 3,296,750
-------- ---------- ---------- ----------
Total .............................. $568,354 $1,900,777 $1,228,628 $3,697,759
======== ========== ========== ==========
Loans with:
Fixed rates ....................... $365,274 $ 939,519 $ 643,399 $1,948,192
Variable rates .................... 203,080 961,258 585,229 1,749,567
-------- ---------- ---------- ----------
Total ............................ $568,354 $1,900,777 $1,228,628 $3,697,759
======== ========== ========== ==========
</TABLE>
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<PAGE>
Deposit Portfolio Composition
<TABLE>
<CAPTION>
As of June 30, 1999
-----------------------------------------
Percent of
Balance Deposits Yield/Rate
------------- ----------- -----------
(dollars in thousands)
<S> <C> <C> <C>
Demand deposit and NOW accounts ......... $ 3,998,474 33.6% 0.29%
Savings accounts ........................ 2,031,770 17.1 2.33
Money market accounts ................... 2,358,784 19.8 2.89
Retail certificates of deposit .......... 3,221,197 27.0 4.69
----------- ----- -----
Total retail deposits ................. $11,610,225 97.5% 2.40%
----------- ----- -----
Jumbo certificates of deposit ........... 299,894 2.5 5.11
----------- ----- -----
Total deposits ........................ $11,910,119 100.0% 2.47%
=========== ===== =====
</TABLE>
Maturities of Time Deposits Greater than $100,000
As of June 30, 1999
--------------------
(in thousands)
Three months or less ................... $ 64,737
From three through six months .......... 46,555
From six through twelve months ......... 123,468
Over twelve months ..................... 65,134
--------
Total ................................ $299,894
========
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<PAGE>
BUSINESS
General
We are a Pennsylvania business corporation and the holding company for
Sovereign Bank. We are headquartered in Philadelphia, Pennsylvania and
Sovereign Bank is headquartered about 50 miles west of Philadelphia in
Wyomissing, Pennsylvania.
Sovereign Bank was created in 1984 under the name Penn Savings Bank
through the merger of two mutual financial institutions with contiguous market
areas located primarily in eastern and south central Pennsylvania. Sovereign
Bank went public in 1986 in connection with its conversion from mutual to stock
form and became our subsidiary in 1987 following our holding company
reorganization. Since our public offering we have grown principally by
acquiring and integrating 22 other financial institutions and other businesses
related to banking.
o As of June 30, 1999, we had consolidated assets of $24.6 billion,
deposits of $12.2 billion and stockholders' equity of $1.4 billion.
o We currently operate 305 community banking offices in eastern and central
Pennsylvania, central New Jersey and northern Delaware.
o In terms of retail deposits, based on the most recently available data,
we are the 5th largest banking institution in eastern Pennsylvania, the
5th largest in New Jersey, and among the 50 largest in the United States.
o As of June 30, 1999, our non-performing assets as a percentage of total
assets was 0.36%.
o Since 1990, we have acquired 22 financial institutions, branch networks
and related businesses. Thirteen of these acquisitions, with assets
totaling approximately $13 billion, have been completed since 1995.
o From 1994 through 1998, our operating earnings per diluted share have
increased at an average annual rate of 18%. We believe that we have
achieved these results principally by our ability to successfully complete
and integrate our acquisitions.
o As of September 30, 1999, our directors, executive officers and team
members (through employee benefit plans) owned, after giving effect to the
exercise of both vested and non-vested options, approximately 18.25
million shares of our common stock, representing approximately 9.8% of our
outstanding shares after giving effect to the exercise of these options.
Critical Success Factors
In 1987, we defined our four critical success factors. Since that time,
they have remained the basis for our strategic planning.
Superior Asset Quality
Superior asset quality is a high priority for us. As of June 30, 1999 our
non-performing assets to total assets ratio was 0.36%. We have increased our
allowance for loan loss as a percentage of non-performing loans from 106% at
June 30, 1998 to 162% at June 30, 1999, in part to reflect the growth in our
commercial loan portfolio. Our quality control procedures include credit
scoring, reviewing all credits on at least an annual basis, and performing
stress tests on our loan portfolio.
As we continue our transformation to a super-community bank, we plan to
place more emphasis on managing asset quality, including building higher levels
of reserves consistent with the transformation of our loan portfolio.
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<PAGE>
Low Interest Rate Risk
Interest rate risk management is also an important part of our focus. We
believe in consistency of earnings and that earnings should not be materially
affected by changes in interest rates. Our primary strategy to lower interest
rate risk has been to transform our loan and deposit portfolio mix while
managing yield curve risk. We also utilize asset and liability modeling to
better manage our interest rate risk.
High Productivity
Providing quality service in a low cost and efficient manner continues to
be important to our success. All of our team members understand the importance
of having a highly productive company. For the six-month period ended June 30,
1999, our efficiency ratio (other expense reduced by intangible amortization,
trust preferred expense, OREO gains and losses and non-recurring items as a
percentage of net interest income plus other income) was 48.1%. Our goal is to
improve our productivity further, and reduce this ratio.
Sales, Service and Growth of Our Team Members
We consider our team members to be our most valuable asset and hold our
team responsible for producing growth in stockholder wealth. We believe that as
the complexity of our business and environment grows, so must our team. We
believe that our continued success is dependent upon helping our team grow
faster than the changes in our business or environment. We encourage team
members to establish "stretch" goals for both business and personal development
and we endeavor to assist team members in achieving these goals. At September
30, 1999, our team members were our largest group of stockholders.
Employee Stock Ownership
Closely related to our critical success factors is our strong belief that
the interests of our executive officers, directors and team members should be
aligned with the interests of our stockholders. The annual bonuses of our
executive officers are based on the achievement of financial goals. Significant
portions (in some cases, all) of current and deferred incentive compensation
are paid or provided, on a mandatory or voluntary basis, in the form of our
common stock through participation in one or more stock-based plans. In
addition, our directors and executive officers are required to beneficially own
a specified minimum number of shares of our common stock. Executive officers
are allocated, or are offered the opportunity to acquire, our common stock
through participation in our employee stock ownership plan and other
stock-based plans.
Business Strategy
As a result of continuing consolidation in the financial industry, we
believe that there is an increasing need for super-community banks throughout
the northeastern United States. We consider a super-community bank to be a bank
with the size and range of commercial, business and consumer products to
compete with larger institutions, but with the orientation to relationship
banking and personalized service usually found at smaller community banks.
In response to this need, in 1996 we initiated a strategy to transform
ourselves from a traditional mortgage lender into a super-community bank by:
o targeting small and medium size businesses through an offering of a
broader array of commercial and business banking products and services;
o changing the mix of our deposits and, while endeavoring to preserve our
credit quality, changing the mix of our assets to be more characteristic
of a commercial bank;
o increasing our penetration into larger, more densely populated markets in
the northeastern United States;
o preserving our orientation toward relationship banking and personalized
service, as well as our sales- driven culture; and
o increasing our non-interest income as a percentage of net income.
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We have made significant progress toward achieving this transformation,
principally through the following acquisitions:
o Acquisition of Peoples Bancorp, Inc. In June 1999, we completed our
acquisition of Peoples Bancorp, Inc., a financial services holding company
headquartered in Lawrenceville, New Jersey. Peoples operated 14 banking
offices in central and southern New Jersey through its banking subsidiary.
This transaction gave us capital, a trust operation with the potential to
increase non-interest income and increased penetration of the
demographically attractive Princeton, New Jersey area.
o Acquisition of First Union/CoreStates Deposits and Assets. In September
1998, we completed our acquisition of 93 branch offices, approximately
$2.2 billion in associated bank deposits and approximately $725 million in
selected Pennsylvania and New Jersey commercial and consumer loans from
First Union Corporation. These branches are located in 20 counties in
Pennsylvania, including 23 branches in the Philadelphia area, nine
branches in the Lehigh Valley, 42 branches in central and north-central
Pennsylvania, and nine branches in central New Jersey. This transaction
gave us substantial commercial bank loans and deposits and increased our
penetration of attractive markets surrounding Philadelphia.
o Acquisition of Carnegie Bancorp. In July 1998, we completed our
acquisition of Carnegie Bancorp, a commercial bank holding company
headquartered in Princeton, New Jersey, with seven community banking
offices in central New Jersey and one community banking office in
Pennsylvania. This transaction gave us small business loans and related
deposits, as well as a presence in the demographically attractive
Princeton, New Jersey area.
o Acquisition of First Home Bancorp Inc. In July 1998, we completed our
acquisition of First Home Bancorp Inc., a financial services holding
company headquartered in Pennsville, New Jersey, with eight community
banking offices in southern New Jersey and two community banking offices
in Delaware. This transaction gave us additional penetration of the
southern New Jersey area.
o Acquisition of ML Bancorp, Inc. In February 1998, we completed our
acquisition of ML Bancorp, Inc. ML Bancorp's principal operating
subsidiary, Main Line Bank, operated 29 branch offices located in the
suburbs of Philadelphia. This acquisition increased our loans by
approximately $1.1 billion, our deposits by approximately $1.0 million and
our stockholders' equity by approximately $201 million. This transaction
strengthened our mortgage banking and commercial lending businesses and
increased our penetration of demographically attractive suburban markets
to the west of Philadelphia.
o Acquisition of Fleet Auto Finance Division. In September 1997, we
completed our acquisition of the prime auto finance operations of Fleet
Financial Group, Inc. The assets of the acquired business consisted
principally of approximately $2.0 billion of indirect automobile loans,
commercial loans (primarily dealer floor planning) and loans to auto
leasing companies. This platform, which originated loans principally in
New England and New York, has expanded into Pennsylvania, southern New
Jersey and Delaware and has played a key role in our transformation into a
super-community bank. This transaction gave us commercial loans, increased
depth and breadth in commercial loan management and a presence in the New
England markets.
o Acquisition of Bankers Corp. In August 1997, we acquired Bankers Corp., a
financial services holding company headquartered in Perth Amboy, New
Jersey, with approximately $2.6 billion in assets as of June 30, 1997.
Bankers operated 15 branch offices located in Middlesex, Monmouth and
Ocean counties in central New Jersey. Upon completion of the acquisition,
we increased our loans by approximately $1.5 billion, deposits by
approximately $1.7 billion and stockholders' equity by approximately $204
million. This transaction had an attractive core deposit mix and gave us a
presence in southern New Jersey.
o Acquisition of First State Financial Services. In February 1997, we
completed the acquisition of First State Financial Services, Inc., a
savings institution headquartered in West Caldwell, New Jersey, with
approximately $600 million in assets as of December 31, 1996 and 14 branch
offices located throughout central and northern New Jersey and the
Philadelphia market. This transaction increased our penetration of central
and northern New Jersey.
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These acquisitions have diversified the mix of our assets, deposits and
earnings, substantially increased the size of our franchise, given us
substantial presence in demographically attractive areas surrounding
Pennsylvania, increased our market share in New Jersey and given us a presence
in Delaware.
We believe that the New England acquisition will accelerate and
substantially complete our transformation into a super-community bank.
Lines of Business
Commercial Banking
We offer an array of commercial banking products principally to small and
medium-sized businesses, including traditional loans and lines of credit,
asset-based lending, dealer floor plan loans, enterprise value loans,
commercial finance loans, cash management services, international banking
services, private banking services and other fee generating services. We aim to
differentiate ourselves on the basis of the quality of service delivered by
experienced relationship managers who understand and anticipate customers'
financial needs, provide customized solutions and shepherd customer requests
through loan approval processes. At June 30, 1999, the commercial loan
portfolio was $3.2 billion and comprised 26.0% of our loan portfolio, up from
$1.5 billion and 14.3% of the total loan portfolio at June 30, 1998. Commercial
loan originations for 1998 were $1.3 billion, up from $310 million in 1997 and
$165 million in 1996.
As we attempt to increase our commercial loan activity, we try to remain
committed to a strong credit culture. We have an independent group which is
headed by a Chief Credit Policy Officer who reports directly to our Chief
Financial Officer and is responsible for company-wide risk management. The
average corporate credit in our commercial loan portfolio is approximately
$250,000. Our approval process requires dual approvals for commercial loans up
to $5.0 million, and loan committee approvals for all loans over $5.0 million.
The process provides for all loans to be rated and reviewed annually, including
an evaluation under various economic and interest rate environments.
Consolidation in our markets has enabled us to hire relationship managers who
have experienced different phases of a credit cycle.
Community Banking & Consumer Lending
We have 305 community branches, plus a network of 24-hour ATMs, throughout
eastern and central Pennsylvania, New Jersey, and northern Delaware. To provide
convenience banking for customers 24 hours per day, we have expanded our ATM
network significantly over the past two years. At June 30, 1999 we had 492
ATMs.
At June 30, 1999 our total deposits amounted to $12.2 billion.
Our consumer lending division has grown through increased emphasis on home
equity loans and improved marketing techniques. At June 30, 1999, the consumer
loan portfolio was $4.2 billion and comprised 33.6% of our loan portfolio, up
from $3.2 billion and 30.2% of the total loan portfolio at June 30, 1998.
Mortgage Banking
We offer a number of mortgage products including conventional mortgage
loans, jumbo mortgage loans, low income mortgage loans and other non-conforming
mortgage loans. We market and sell these products through different delivery
channels such as our community banking network, retail loan production offices
and correspondent networks.
The focus of our mortgage banking unit is to generate higher non-interest
income from loan originations, while at the same time cross-selling banking
services to our customers. We originate residential loans and sell them to
third parties, while continuing to service these loans to ensure quality of
service to our customers and to enhance future fee income. Mortgage banking
revenues were $19.0 million for the six-month period ended June 30, 1999
compared to $14.6 million for the same period in 1998. We serviced $9.8 billion
of our own loans and $6.5 billion of loans for others at June 30, 1999 compared
to $9.0 billion of our own loans and $6.3 billion of loans for others at June
30, 1998.
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Our super-community bank strategy has resulted in our residential loan
portfolio playing a less significant role within our total loan portfolio. For
the six-month period ended June 30, 1999, we closed $969 million of residential
mortgage loans compared to $933 million of residential mortgage loans for the
same period in 1998. At June 30, 1999, our residential mortgage loan portfolio
was $5.0 billion compared to $5.9 billion at June 30, 1998. At June 30, 1999,
our residential mortgage portfolio comprised 40.4% of our total loan portfolio.
Alternative Delivery Systems
Direct Banking & Call Center
Our inbound customer service center houses approximately 150 team members
to answer inquiries concerning our products and services. Receiving up to
39,000 calls per week, our information center enhances customer service by
eliminating long lines in branches and allows our customers to receive quick
answers to their questions.
NetBanking
"Sovereign NetBanking" is an Internet banking product which allows our
existing customers to perform various transactions on their computer, as long
as they have access to the Internet and a secure browser. This alternative
delivery system permits our customers to check account balances, pay bills,
receive information about transactions within their accounts, make transfers
between accounts, stop payment on a check and reorder checks.
Touch-Tone Banking
This automated service provides the flexibility for our customers to
receive up-to-date balance information on their accounts, receive information
on cleared items, and transfer funds over the telephone.
Internet Bank
By the beginning of 2000, Sovereign Bank plans to offer a full range of
financial products and services over the Internet, without physical branches,
through 1st Webbank Direct, which operates as a division of Sovereign Bank.
Products and services include deposit accounts, CDs, IRAs, debit cards, loans
and electronic bill paying. This division will target both new customers and
Sovereign Bank's existing customers.
During the second quarter of 1999, we announced that we intended to launch
a new Internet banking product, 1st Webbank Direct, as a division of Sovereign
Bank. Our board has authorized management to submit, if, when and to the extent
it determines prudent, amendments to our articles of incorporation to our
stockholders for approval to create a new class of our common stock intended to
reflect the value and track the future performance of the Internet bank. We
have no present plans to submit such amendments to our stockholders and can
give no assurances that we will ever do so.
Employees
At September 30, 1999, we had 3,907 full-time and 582 part-time team
members. None of these team members are represented by a collective bargaining
unit, and we believe relations with our team members are good.
Competition
Competition among financial institutions in attracting and retaining
deposits and making loans is intense. Traditionally, our most direct
competition for deposits has come from commercial banks, savings and loan
associations and credit unions doing business in our areas of operation.
Recently, we have experienced increasing competition for deposits from
nonbanking sources, such as money market mutual funds and corporate and
government debt securities. Competition for loans comes primarily from
commercial banks,
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savings and loan associations, consumer finance companies, insurance companies
and other institutional lenders. We compete primarily on the basis of the price
at which products are offered and on customer service. A number of institutions
with which we compete have significantly greater assets and capital than we do.
Environmental Laws
Environmental hazards have become a source of high risk and potentially
unlimited liability for financial institutions in connection with their loans.
Environmentally contaminated properties owned by an institution's borrowers may
result in a drastic reduction in the value of the collateral securing the
institution's loans to such borrowers, high environmental clean-up costs to the
borrower affecting its ability to repay the loans, the subordination of the
institution's liens to a state or federal lien securing clean-up costs, and
liability of the institution for clean-up costs if it forecloses on the
contaminated property or becomes involved in the management of the borrower. To
minimize this risk, Sovereign Bank may require an environmental examination of
and report on the property of any borrower or prospective borrower if
circumstances affecting the property indicate a potential for contamination,
taking into consideration the potential loss to the institution and the burdens
to the borrower. This examination must be performed by an engineering firm
experienced in environmental risk studies and acceptable to the institution,
and the costs of the examinations and reports are the responsibility of the
borrower. These costs may be substantial and may deter a prospective borrower
from entering into a loan transaction with Sovereign Bank. We are not aware of
any borrower who is currently subject to any environmental investigation or
clean-up proceeding which is likely to have a material adverse effect on the
financial condition or results of operations of Sovereign Bank.
Supervision And Regulation
Set forth below is a brief description of certain laws and regulations
which are applicable to us and Sovereign Bank. The description of these laws
and regulations, as well as descriptions of laws and regulations contained
elsewhere herein, does not purport to be complete and is qualified in its
entirety by reference to the applicable laws and regulations. Investors should
note that legislation is introduced from time to time in the United States
Congress which may affect our operations and the operations of Sovereign Bank.
In addition, the regulations promulgated pursuant to such laws as well as the
application thereof may be changed from time to time by the Office of Thrift
Supervision and other federal banking agencies. Any such legislation or
regulatory changes in the future could adversely affect us and Sovereign Bank.
No assurance can be given as to whether or in what form any such changes may
occur.
General
Sovereign Bank, as a federally chartered savings institution, is subject
to federal regulation and oversight by the Office of Thrift Supervision
extending to all aspects of its operations. Sovereign Bank also is subject to
regulation and examination by the Federal Deposit Insurance Corporation (FDIC),
which insures the deposits of Sovereign Bank to the maximum extent permitted by
law, and requirements established by the Federal Reserve Board. Federally
chartered savings institutions are required to file periodic reports with the
Office of Thrift Supervision and are subject to periodic examinations by the
Office of Thrift Supervision, which is our primary federal regulator, and the
FDIC. The investment and lending authority of savings institutions are
prescribed by federal laws and regulations, and such institutions are
prohibited from engaging in any activities not permitted by such laws and
regulations. Such regulation and supervision primarily is intended for the
protection of depositors and not for the purpose of protecting stockholders.
The Office of Thrift Supervision regularly examines Sovereign Bank and
prepares reports for the consideration of its board of directors on any
deficiencies that it may find in its operations. The FDIC also has the
authority to examine Sovereign Bank in its role as the administrator of the
Savings Association Insurance Fund. Sovereign's relationship with its
depositors and borrowers also is regulated to a great extent by both federal
and state laws, especially in such matters as the ownership of savings accounts
and the form and content of loan and mortgage requirements. Any change in such
regulations or application thereof whether by the FDIC, Office of Thrift
Supervision or Congress, could have a material adverse impact on us and our
operations.
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Sovereign Bancorp, Inc.
Sovereign Bancorp, Inc. is the holding company for Sovereign Bank. As
such, we are registered with the Office of Thrift Supervision under the Savings
and Loan Holding Company Act as a savings and loan holding company. We are
subject to their examination and supervision, and we have certain reporting
requirements. In addition, the Office of Thrift Supervision has enforcement
authority over us, which permits the Office of Thrift Supervision to restrict
or prohibit activities that are determined to be a serious risk to our
subsidiary savings bank.
We are a unitary savings and loan holding company, meaning that we have
only one savings institution subsidiary. As a unitary savings and loan holding
company, we are generally not subject to restrictions on the investments we
have or the activities we conduct directly, or through our subsidiaries other
than Sovereign Bank. If we acquire control of another savings bank as a
separate subsidiary, we would become a multiple savings and loan holding
company, and our activities and those of any of our nonbanking subsidiaries
would become subject to activity restrictions by the Office of Thrift
Supervision. At the present time, we do not engage in any activities that would
not be permissible for a multiple savings and loan holding company.
If Sovereign Bank fails a qualified thrift lender test, as discussed
below, we must obtain the approval of the Office of Thrift Supervision prior to
continuing after such failure, directly or through our other subsidiaries, any
business activity other than those approved for multiple savings and loan
holding companies or their subsidiaries. In addition, within one year of such
failure, we must register as, and will become subject to, the restrictions
applicable to bank holding companies. The activities authorized for a bank
holding company are more limited than are the activities authorized for a
unitary or multiple savings and loan holding company. See "--Qualified Thrift
Lender."
Control of Sovereign Bancorp, Inc.
Under the Savings and Loan Holding Company Act and the Change in Bank
Control Act, there are certain limitations on the acquisition of our stock by
others. Any individual, corporation or other entity, acting alone or in concert
with others, that proposes to acquire "control" of us, must first obtain the
prior approval of the Office of Thrift Supervision. Control is defined as 25%
or more of our stock, or 10% or more of our stock if there are one or more
"control factors" as defined by Office of Thrift Supervision regulations. One
of these factors is that such a 10% holder would be one of the two largest
holders of our stock. At the present time, we are not aware of any person or
group of persons holding 10% or more of our voting stock.
Acquisitions by Us
We must obtain prior approval from the Office of Thrift Supervision before
acquiring more than 5% of the stock of any other savings and loan holding
company or savings institution, or acquiring by merger any such entity, or
before assuming any deposit liabilities from another institution. In
determining whether or not to grant such approval, the Office of Thrift
Supervision is required to review the financial, managerial, and convenience
and needs (including our record of performance under the Community Reinvestment
Act) factors of any proposed acquisition, as well as the possible effect on
competition of such transaction in the applicable market. In reviewing any
proposed acquisition, the Office of Thrift Supervision is also required to
consider the future prospects of the constituent institutions. Depending upon
the specific facts regarding a proposed acquisition, the Office of Thrift
Supervision could determine that the pro forma financial condition or
managerial resources of a savings and loan holding company may be inadequate,
causing undue pressure on a constituent financial institution after the
proposed transaction, and therefore deny approval of such transaction.
Acquisitions are generally prohibited if they result in a multiple savings and
loan holding company controlling savings banks in more than one state, unless
such interstate acquisitions are permitted by specific state law, or involve a
supervisory acquisition of a failing savings bank. We applied for approval of
the New England acquisition on September 30, 1999.
Sovereign Bank
The Office of Thrift Supervision has extensive authority over the
operations of savings institutions. As part of this authority, Sovereign Bank
is required to file periodic reports with the Office of Thrift Supervision and
is subject to periodic examinations by the Office of Thrift Supervision and the
FDIC. The last regular
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Office of Thrift Supervision examination of Sovereign Bank was as of March 31,
1999. Under agency scheduling guidelines, it is likely that another examination
will be initiated within 12 to 18 months after the most recent examination.
When these examinations are conducted, the examiners may require Sovereign Bank
to provide for higher general or specific loan loss reserves, or require
Sovereign to take other actions to ensure that Sovereign is operating within
the law and in a safe and sound manner as interpreted by the Office of Thrift
Supervision. All savings institutions are subject to a semi-annual assessment,
based upon the savings institution's total assets, to fund the operations of
the Office of Thrift Supervision. Sovereign Bank's annual Office of Thrift
Supervision assessment is approximately $1.5 million.
The Office of Thrift Supervision has extensive enforcement authority over
all savings institutions and their holding companies. This enforcement
authority includes, among other things, the ability to assess civil money
penalties, to issue cease-and-desist or removal orders and to initiate
injunctive actions. In general, these enforcement actions may be initiated for
violations of laws and regulations and unsafe or unsound practices. Other
actions or failures to act may provide the basis for enforcement action,
including misleading or untimely reports filed with the Office of Thrift
Supervision. Except under certain circumstances, public disclosure of final
enforcement actions by the Office of Thrift Supervision is required.
In addition, the investment, lending and branching authority of Sovereign
Bank is prescribed by federal laws, and Sovereign Bank is prohibited from
engaging in any activities not permitted by such laws. For instance, no savings
institution may invest in equity securities generally, or in non-investment
grade corporate debt securities. In addition, the permissible level of
investments by federal institutions in certain types of loans, or loans secured
by non-residential real property, are subject to certain limits based on the
amount of total assets or capital. For example, Sovereign Bank's investment in
large commercial loans that are not secured by real estate is limited to 10% of
its total assets. Federal savings institutions must also obtain approval to
open branches, but are generally authorized to branch nationwide. Savings
institutions have a lending limit for loans-to-one-borrower equal to 15% of
unimpaired capital and surplus (except for loans fully secured by certain
readily marketable collateral, in which case this limit is increased to 25% of
unimpaired capital and surplus). At June 30, 1999, Sovereign Bank's lending
limit under this restriction was $270 million. Finally, there are a number of
specialized laws and regulations that affect the basic businesses of all
depository institutions, such as Truth in Lending, Truth in Savings, Fair
Lending, Fair Credit Reporting, Fair Debt Collection Practices, and others.
Sovereign Bank must spend a significant portion of its resources to assure that
it is in compliance with all applicable regulatory requirements.
The Office of Thrift Supervision has adopted guidelines establishing
safety and soundness standards on such matters as loan underwriting and
documentation, asset quality, earnings standards, internal controls and audit
systems, interest rate risk exposure and compensation and other employee
benefits. Any institution which fails to comply with these standards is subject
to enforcement action, and must submit a compliance plan.
Insurance of Accounts and Regulation by the FDIC
Sovereign Bank is a member of the Savings Association Insurance Fund,
which is administered by the FDIC. Deposits are insured up to the applicable
limits by the FDIC and such insurance is backed by the full faith and credit of
the United States government. As insurer, the FDIC imposes deposit insurance
premiums and is authorized to conduct examinations of, and to require reporting
by, FDIC-insured institutions. It also may prohibit any FDIC-insured
institution from engaging in any activity the FDIC determines by regulation or
order to pose a serious risk to the Savings Association Insurance Fund or Bank
Insurance Fund. The FDIC also has the authority to initiate enforcement actions
against savings institutions, after giving the Office of Thrift Supervision an
opportunity to take such action, and may terminate an institution's deposit
insurance if it determines that the institution has engaged in unsafe or
unsound practices or is in an unsafe or unsound condition.
The FDIC's deposit insurance premiums are assessed through a risk-based
system under which all insured depository institutions are placed into one of
nine categories and assessed insurance premiums based upon their level of
capital and supervisory evaluation. Under the system, institutions classified
as well capitalized (i.e., a core capital ratio of at least 5%, a ratio of Tier
1 or core capital to risk-weighted assets ("Tier 1 risk-based capital") of at
least 6% and a risk-based capital ratio of at least 10%) and considered healthy
pay
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the lowest premium while institutions that are less than adequately capitalized
(i.e., core or Tier 1 risk-based capital ratios of less than 4% or a risk-based
capital ratio of less than 8%) and considered of substantial supervisory
concern pay the highest premium. Risk classification of all insured
institutions is made by the FDIC for each semi-annual assessment period.
The FDIC is authorized to increase assessment rates, on a semi-annual
basis, if it determines that the reserve ratio of the Savings Association
Insurance Fund will be less than the designated reserve ratio of 1.25% of
Savings Association Insurance Fund insured deposits. In setting these increased
assessments, the FDIC must seek to restore the reserve ratio to that designated
reserve level, or such higher reserve ratio as established by the FDIC. The
FDIC may also impose special assessments on Savings Association Insurance Fund
members to repay amounts borrowed from the United States Treasury or for any
other reason deemed necessary by the FDIC.
The current premium schedule for Savings Association Insurance Fund
insured institutions ranges from 0 to 27 basis points per $100 of deposits.
Sovereign Bank is in the category of institutions that pay no deposit insurance
premiums. However, all insured institutions are required to pay a Financing
Corporation assessment, in order to fund the interest on bonds issued to
resolve thrift failures in the 1980s. The current rate for Savings Association
Insurance Fund insured institutions is 5.9 basis points for each $100 in
domestic deposits, while Bank Insurance Fund insured institutions pay an
assessment equal to 1.2 basis points for each $100 in domestic deposits. After
January 1, 2000, the Financing Corporation assessments for Savings Association
Insurance Fund and Bank Insurance Fund insured institutions will be the same.
These assessments, which may be revised based upon the level of Bank Insurance
Fund and Savings Association Insurance Fund deposits, will continue until the
bonds mature in the year 2017.
Regulatory Capital Requirements
Federally insured savings institutions are required to maintain a minimum
level of regulatory capital. The Office of Thrift Supervision has established
capital standards, including a tangible capital requirement, a leverage ratio,
or core capital, requirement and a risk-based capital requirement applicable to
such savings institutions. These capital requirements are generally as
stringent as the comparable capital requirements for national banks. The Office
of Thrift Supervision is also authorized to impose capital requirements in
excess of these standards on individual institutions on a case-by-case basis.
The capital regulations require tangible capital of at least 1.5% of
adjusted total assets, as defined by regulation. Tangible capital generally
includes common stockholders' equity and retained income, and certain
noncumulative perpetual preferred stock and related income. In addition, all
intangible assets, other than a limited amount of purchased mortgage servicing
rights, must be deducted from tangible capital for calculating compliance with
the requirement. At June 30, 1999, Sovereign Bank had tangible capital of $1.4
billion, or 5.9% of adjusted total assets, which is approximately $1 billion
above the minimum requirement of 1.5% of adjusted total assets in effect on
that date. If the New England acquisition and related financings had occurred
on June 30, 1999, based on certain assumptions, Sovereign Bank would have had
tangible capital of $1.5 billion or 4.6% of total assets, which is
approximately $1 billion above such minimum requirement. See "Risk Factors" and
"Pro Forma and Forecasted Financial Information."
The capital standards also require core capital equal to at least 3% of
adjusted total assets. Core capital generally consists of tangible capital plus
certain intangible assets, including a limited amount of purchased credit card
relationships. As a result of the prompt corrective action provisions discussed
below, however, a savings institution must maintain a core capital ratio of at
least 4% to be considered adequately capitalized, unless its supervisory
condition is such to allow it to maintain a 3% ratio. At June 30, 1999,
Sovereign Bank had core capital equal to $1.4 billion, or 5.9% of adjusted
total assets, which is $461 million above the minimum leverage ratio
requirement of 4% as in effect on that date. If the New England acquisition and
related financings had occurred on June 30, 1999, based on certain assumptions,
Sovereign Bank would have had core capital equal to approximately $1.5 billion
or 4.6% of adjusted total assets, which is approximately $250 million above
such minimum leverage ratio. See "Risk Factors" and "Pro Forma and Forecasted
Financial Information."
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The Office of Thrift Supervision risk-based requirement requires savings
institutions to have total capital of at least 8.0% of risk-weighted assets.
Total capital consists of core capital, as defined above, and supplementary
capital. Supplementary capital consists of certain permanent and maturing
capital instruments that do not qualify as core capital and general valuation
loan and lease loss allowances up to a maximum of 1.25% of risk-weighted
assets. The amount of supplementary capital that may be used to satisfy the
risk-based requirement may not exceed the amount of core capital. The Office of
Thrift Supervision is also authorized to require a savings institution to
maintain an additional amount of total capital to account for concentration of
credit risk and the risk of non-traditional activities.
In determining the amount of risk-weighted assets, all assets, including
certain off-balance sheet items, are multiplied by a risk weight, ranging from
0% to 100%, based on the risk inherent in the type of asset. For example, the
Office of Thrift Supervision has assigned a risk weight of 50% for prudently
underwritten permanent one- to four-family first lien mortgage loans not more
than 90 days delinquent and having a loan to value ratio of not more than 80%
at time of origination.
On June 30, 1999, Sovereign Bank had total risk-based capital of $1.6
billion and risk-weighted assets of $13.8 billion, or total capital of 11.3% of
risk-weighted assets. If the New England acquisition and related financings had
occurred on June 30, 1999, based on certain assumptions, Sovereign Bank would
have had $1.7 billion of risk-based capital and risk-weighted assets of $19.1
billion, or total capital of 9.2% of risk-weighted assets. See "Risk Factors"
and "Pro Forma and Forecasted Financial Information."
The Office of Thrift Supervision and the FDIC are authorized and, under
certain circumstances, required, to take certain actions against savings
institutions that fail to meet their capital requirements. The Office of Thrift
Supervision is generally required to take action to restrict the activities of
an "undercapitalized institution," which is an institution with less than a 4%
core capital ratio, a 4% Tier 1 risk-based capital ratio or an 8% risk-based
capital ratio. Any such institution must submit a capital restoration plan and
until such plan is approved by the Office of Thrift Supervision may not
increase its assets, acquire another institution, establish a branch or engage
in any new activities, and generally may not make capital distributions. The
Office of Thrift Supervision is authorized to impose the additional
restrictions that are applicable to significantly undercapitalized
institutions.
As a condition to the approval of the capital restoration plan, any
company controlling an undercapitalized institution must agree that it will
enter into a limited capital maintenance guarantee with respect to the
institution's achievement of its capital requirements.
Any savings institution that fails to comply with its capital plan or has
Tier 1 risk-based or core capital ratios of less than 3% or a risk-based
capital ratio of less than 6% is considered "significantly undercapitalized"
and must be made subject to one or more of additional specified actions and
operating restrictions which may cover all aspects of its operations and
include a forced merger or acquisition of the institution. An institution that
becomes "critically undercapitalized" because it has a tangible capital ratio
of 2% or less is subject to further mandatory restrictions on its activities in
addition to those applicable to significantly undercapitalized institutions. In
addition, the Office of Thrift Supervision must appoint a receiver, or
conservator with the concurrence of the FDIC, for a savings institution, with
certain limited exceptions, within 90 days after it becomes critically
undercapitalized. Any undercapitalized institution is also subject to the
general enforcement authority of the Office of Thrift Supervision and the FDIC,
including the appointment of a conservator or a receiver.
The Office of Thrift Supervision is also generally authorized to
reclassify an institution into a lower capital category and impose the
restrictions applicable to such category if the institution is engaged in
unsafe or unsound practices or is in an unsafe or unsound condition.
The imposition by the Office of Thrift Supervision or the FDIC of any of
these measures on Sovereign Bank may have a substantial adverse effect on its
operations and profitability.
Limitations on Dividends and Other Capital Distributions
Office of Thrift Supervision regulations impose various restrictions on
savings institutions with respect to their ability to make distributions of
capital, which include dividends, stock redemptions or repurchases, cash-out
mergers and other transactions charged to the capital account.
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The holders of our common stock share ratably in dividends when and if
declared by the board of directors from legally available funds. Declaration
and payment of cash dividends by us depends upon dividend payments by Sovereign
Bank, which are our primary source of revenue and cash flow. We are a legal
entity separate and distinct from our subsidiaries. Accordingly, our right, and
consequently the right of our creditors and stockholders, to participate in any
distribution of the assets or earnings of any subsidiary is necessarily subject
to the prior claims of creditors of the subsidiary, except to the extent that
our claims in our capacity as a creditor may be recognized.
Sovereign Bank cannot pay dividends on its capital stock or repurchase
shares of its stock if its stockholders' equity would be reduced below the
amount required for the liquidation accounts established in the respective
conversions from mutual to stock form of the predecessors of Sovereign Bank or
applicable regulatory capital requirements. Current Office of Thrift
Supervision regulations require a holding company's insured institutions to
give the Office of Thrift Supervision 30 days advance notice of any proposed
declaration of dividends to the holding company, and the Office of Thrift
Supervision has the authority under its supervisory powers to prohibit the
payment of dividends to the holding company.
Under the Office of Thrift Supervision capital distribution rule, a
savings association may make capital distributions of up to 100% of its net
income during a calendar year, plus retained net income for the prior two
years, provided that the association will remain adequately capitalized and
eligible for expedited filings following the distribution and the distribution
is not otherwise prohibited by applicable law or regulation.
An association may make capital distributions in excess of these limits if
the Office of Thrift Supervision approves after receiving an application.
Liquidity
All savings institutions are required to maintain an average daily balance
of liquid assets equal to a certain percentage of the average daily balance of
its liquidity base during the preceding calendar quarter or a percentage of the
amount of its liquidity base (net withdrawable accounts plus short-term
borrowings) at the end of the preceding quarter. This liquid asset ratio
requirement may vary from time to time between 4% and 10% depending upon
economic conditions and savings flows of all savings institutions. At the
present time, the minimum liquid asset ratio is 4%.
Penalties may be imposed upon institutions for violations of the liquid
asset ratio requirement. At June 30, 1999, Sovereign Bank was in compliance
with the requirement, with an overall liquid asset ratio of 64%. If the New
England acquisition and related financings had occurred on June 30, 1999, based
on certain assumptions, Sovereign Bank would have been in compliance with the
requirement, with a liquid asset ratio of 52%. See "Risk Factors" and "Pro
Forma and Forecasted Financial Information."
Qualified Thrift Lender
All savings institutions are required to meet a qualified thrift lender
test to avoid certain restrictions on their operations. This test requires a
savings institution to have at least 65% of its portfolio assets, as defined by
regulation, in qualified thrift investments. As an alternative, the savings
institution may maintain 60% of its assets in those assets specified in Section
7701(a)(19) of the Internal Revenue Code. Under either test, such assets
primarily consist of residential housing related loans and investments. At June
30, 1999, Sovereign Bank's qualified thrift ratio was 91%. If the New England
acquisition and related financings had occurred on June 30, 1999, based on
certain assumptions, Sovereign Bank's qualified thrift ratio would have been
80%. See "Risk Factors" and "Pro Forma and Forecasted Financial Information."
Any savings institution that fails to meet the qualified thrift lender
test must convert to a national bank charter, unless it requalifies as a
qualified thrift lender and thereafter remains a qualified thrift lender. If an
institution does not requalify and converts to a national bank charter, it must
remain Savings Association Insurance Fund insured until the FDIC permits it to
transfer to the Bank Insurance Fund. If such an institution has not yet
requalified or converted to a national bank, its new investments and activities
are limited to those permissible for both a savings institution and a national
bank, and it is limited to national bank branching rights in its home state. In
addition, the institution is immediately ineligible to receive any new Federal
Home
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Loan Bank borrowings and is subject to national bank limits for payment of
dividends. If such an institution has not requalified or converted to a
national bank within three years after the failure, it must divest itself of
all investments and cease all activities not permissible for a national bank.
In addition, it must repay promptly any outstanding Federal Home Loan Bank
borrowings, which may result in prepayment penalties. If any institution that
fails the qualified thrift lender test is controlled by a holding company, then
within one year after the failure, the holding company must register as a bank
holding company and become subject to all restrictions on bank holding
companies.
Other Loan Limitations
Federal law limits the amount of non-residential mortgage loans a savings
institution, such as Sovereign Bank, may make. Separate from the qualified
thrift lender test, the law limits a savings institution to a maximum of 10% of
its assets in large commercial loans, with another 10% of assets permissible in
"small business loans." Commercial loans secured by real estate, however, are
in addition to the above amounts, and can be made in an amount up to four times
an institution's capital. An institution can also have commercial leases in
addition to the above, up to 10% of its assets. Commercial paper, corporate
bonds, and consumer loans taken together cannot exceed 35% of an institution's
assets. For this purpose, however, residential mortgage loans and credit card
loans are not considered consumer loans, and are both unlimited in amount. The
foregoing limitations are established by statute, and cannot be waived by the
Office of Thrift Supervision. If the growth of our commercial loan portfolio
continues at its current rate, we may exceed these regulatory limitations at
the time we expect to close the New England acquisition, requiring us to either
reduce the size of our commercial loan portfolio or take other actions which
may adversely affect our net interest income. See "Risk Factors -- Regulations
limiting the size of our commercial loan portfolio may adversely affect our net
interest income and may require us to sell commercial loans in connection with
completion of the New England acquisition."
Community Reinvestment Act
Under the Community Reinvestment Act, every FDIC insured institution has a
continuing and affirmative obligation consistent with safe and sound banking
practices to help meet the credit needs of its entire community, including low
and moderate income neighborhoods. The Community Reinvestment Act does not
establish specific lending requirements or programs for financial institutions
nor does it limit an institution's discretion to develop the types of products
and services that it believes are best suited to its particular community,
consistent with the Community Reinvestment Act. The Community Reinvestment Act
requires the Office of Thrift Supervision, in connection with the examination
of Sovereign Bank, to assess the institution's record of meeting the credit
needs of its community and to take such record into account in its evaluation
of certain applications, such as merger transactions, purchase and assumption
transactions, and the establishment of branches. An unsatisfactory rating may
be used as the basis for the denial of an application by the Office of Thrift
Supervision and failure to comply with the provisions of the Community
Reinvestment Act could, at a minimum, result in regulatory restrictions on
activities. The Community Reinvestment Act, together with applicable
regulations of the Office of Thrift Supervision, permits any person to file a
comment on, or protest against, merger and purchase and assumption applications
while they are being reviewed by the Office of Thrift Supervision. Commentators
and protesters may request that the Office of Thrift Supervision hold a formal
meeting or a public hearing on an application. A protest may cause an extension
of the time necessary for the Office of Thrift Supervision to process an
application, and could raise questions of compliance with the Community
Reinvestment Act or other law that might lead to a delay or denial of the
approval of an application. Due to the heightened attention being given to the
Community Reinvestment Act in the past few years, we may be required to devote
additional funds for investment and lending in our local communities. We were
examined for Community Reinvestment Act compliance in December 1996, and
received a rating of outstanding.
Transactions with Affiliates
Generally, transactions between a savings institution or its subsidiaries
and its affiliates are required to be on terms as favorable to the institution
as transactions with non-affiliates. In addition, certain of these
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transactions, such as loans to an affiliate, are restricted to a percentage of
the institution's capital. Affiliates of Sovereign Bank include Sovereign
Bancorp and any company which is under common control with Sovereign Bank. In
addition, a savings institution may not lend to any affiliate engaged in
activities not permissible for a bank holding company or acquire the securities
of most affiliates. The Office of Thrift Supervision has the discretion to
treat subsidiaries of savings institutions as affiliates on a case by case
basis.
Certain transactions with directors, officers or controlling persons are
also subject to conflict of interest regulations enforced by the Office of
Thrift Supervision. These conflict of interest regulations and other statutes
also impose restrictions on loans to such persons and their related interests.
Among other things, such loans must generally be made on terms substantially
the same as for loans to unaffiliated individuals.
Federal Reserve Requirements
The Federal Reserve requires all depository institutions to maintain
non-interest bearing reserves at specified levels against their transaction
accounts, which are generally checking, NOW, and Super NOW accounts. The
balances maintained to meet these reserve requirements may, at the same time,
be used to satisfy the liquidity requirements imposed by the Office of Thrift
Supervision. At June 30, 1999, Sovereign Bank was in compliance with all
reserve requirements. If the New England acquisition and related financings
would have occurred on June 30, 1999, based on certain assumptions Sovereign
Bank would have been in compliance with these requirements. See "Risk Factors"
and "Pro Forma and Forecasted Financial Information."
Savings institutions are authorized to borrow from the Federal Reserve
Bank "discount window," but Federal Reserve regulations require that
institutions exhaust other reasonable alternative sources of funds, including
Federal Home Loan Bank borrowings, before borrowing from the Federal Reserve.
Legislation
In the past, Congress has considered legislation in various forms which
would require savings and loan associations, such as Sovereign Bank, to convert
their charters to national bank charters. In the absence of appropriate
"grandfathering" or "phase in" provisions, legislation eliminating Sovereign
Bank's charter would have a material adverse effect on us and Sovereign Bank
because, among other things, the regulatory capital and accounting treatment
for bank holding companies and savings and loan holding companies is different.
In addition, current legislative proposals contemplate a transfer of
jurisdiction over savings and loan associations from the Office of Thrift
Supervision to the Federal Reserve Board who could elect to impose bank holding
company regulations on us. If we were presently subject to regulations
governing bank holding companies, we would not meet applicable capital
requirements and, as a result, we would be required to raise additional capital
or reduce the size of Sovereign Bank on terms that may not be economically
advantageous. In addition, our ability to engage in nonbanking activities would
be materially curtailed. We cannot determine if, when, or in what form such
legislation may eventually be enacted and we can give no assurance that any
legislation that is enacted would contain provisions which would effectively
exempt us from these requirements.
Financial Services Modernization Act of 1999
On November 4, 1999, the United States Congress passed the
Gramm-Leach-Billey Act and forwarded it to the President, who has publicly
indicated that he will sign it into law. This Act makes significant changes in
U.S. banking law, principally by overturning the 1933 Glass-Steagall Act. Under
the new Act, banks, thrifts and other financial companies, such as securities
firms and insurance companies, will be able to combine and be commonly owned.
The new Act also permits bank holding companies and banks to engage in a
broader range of financially related activities than they were able to engage
in previously. The new Act does not authorize banks or their affiliates to
engage in commercial activities which are not financial in nature.
We are "grandfathered" under the new Act. This means that we will be able
to continue to be a unitary thrift holding company, and continue to have the
authority to engage in and acquire non-financial businesses, if we choose to do
so. We are, however, no longer able to be acquired by any entity which is not
financial in nature, or that was not a thrift holding company prior to May 4,
1999.
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The new Act also contains a number of other provisions which will affect
our operations and the operations of all financial institutions. One of the new
provisions relates to the financial privacy of consumers, authorizing federal
banking regulators to adopt rules which will limit the ability of banks and
other financial entities to disclose non-public information about consumers to
non-affiliated entities. These limitations will likely require more disclosure
to consumers, and in some circumstances will require consent by the consumer
before information is allowed to be provided to a third party. We do not expect
that any of the regulatory provisions of the new Act will have a material
adverse effect on our existing operations or significantly increase our costs.
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MANAGEMENT
The following table sets forth certain information with respect to our
current directors and executive officers.
<TABLE>
<CAPTION>
Name Age Position
- ------------------------------------ ----- ------------------------------------------------
<S> <C> <C>
Richard E. Mohn .................... 68 Chairman of the Board
Jay S. Sidhu ....................... 48 President and Chief Executive Officer, Director
Dennis S. Marlo .................... 56 Chief Financial Officer and Treasurer
Lawrence M. Thompson, Jr. .......... 47 Chief Administrative Officer and Secretary
Brian Hard ......................... 53 Director
Rhoda S. Oberholtzer ............... 68 Director
Patrick J. Petrone ................. 69 Director
Daniel K. Rothermel ................ 61 Director
Cameron C. Troilo, Sr. ............. 61 Director
G. Arthur Weaver ................... 66 Director
</TABLE>
Richard E. Mohn. Mr. Mohn became Chairman of the Board of Sovereign Bank in
November 1989, and Chairman of Sovereign Bancorp, Inc. in May 1995. Mr. Mohn is
the retired Chairman of Cloister Spring Water Company, Lancaster, Pennsylvania.
Mr. Mohn has served on boards, committees, or advisory boards of Sovereign
Bancorp, Inc., Sovereign Bank or predecessor institutions for 24 years.
Jay S. Sidhu. Mr. Sidhu became President and Chief Executive Officer of
Sovereign Bancorp, Inc. in November 1989, and was named President and Chief
Executive Officer of Sovereign Bank in March 1989. Mr. Sidhu previously served
as Treasurer and Chief Financial Officer of Sovereign Bancorp, Inc. since its
organization in 1987. Mr. Sidhu is a member of the Board of Directors of Old
Guard Group, Inc., a publicly held holding company for several property and
casualty insurance companies.
Dennis S. Marlo. Mr. Marlo was appointed Chief Financial Officer and Treasurer
of Sovereign Bancorp, Inc. in May 1998. Mr. Marlo joined Sovereign in February
1998 as the President of the Pennsylvania Division of Sovereign Bank. Prior
thereto, Mr. Marlo served as President and Chief Executive Officer of ML
Bancorp, Inc., which was acquired by Sovereign Bancorp, Inc. in February 1998.
He is a certified public accountant and a former partner in KPMG Peat Marwick
financial institutions group.
Lawrence M. Thompson, Jr. Mr. Thompson serves as Chief Administrative Officer
and Secretary of Sovereign Bancorp, Inc. and Chief Operating Officer of
Sovereign Bank. Mr. Thompson was hired as Sovereign Bank's General Counsel and
Secretary in 1984. He was promoted to Vice President in 1985. In April 1986, he
became Sovereign Bank's Senior Vice President for legal affairs and
administration. In January 1990, he became Group Executive Officer -- Lending
and in June 1995, he became Chief Administrative Officer of Sovereign Bancorp,
Inc. and Sovereign Bank. Mr. Thompson became Chief Operating Officer of
Sovereign Bank in November 1996.
Brian Hard. Mr. Hard became President of Penske Truck Leasing in 1988. He was
elected to Sovereign Bancorp, Inc.'s Board of Directors effective on November
1, 1999. He also serves as a director of the Reading Hospital and Medical
Center, Albright College, and Hawk Mountain Council -- Boy Scouts of America.
Rhoda S. Oberholtzer. Mrs. Oberholtzer was a business executive of Stauffer's
of Kissel Hill, a multi-location retail store, prior to her retirement in 1996.
Patrick J. Petrone. Mr. Petrone retired as President of the Charter Federal
Savings Bank Division of Sovereign Bank and as Vice Chairman of Sovereign Bank
in October 1996. Prior to the merger of Charter Federal Savings Bank into
Sovereign Bank in 1994, he served as President and Chief Executive Officer of
Charter FSB Bancorp from 1990 and of Charter Federal Savings Bank from 1989.
Mr. Petrone previously served as Executive Vice President and Chief Executive
Officer of Charter Federal Savings Bank from 1988 to 1989.
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Daniel K. Rothermel. Mr. Rothermel became President and Chief Executive Officer
of Cumru Associates, Inc., a private holding company in 1989. He retired, in
1989, as Vice President, General Counsel and Secretary of Carpenter Technology
Corporation, a publicly held specialty steel manufacturer, a position he held
for more than ten years.
Cameron C. Troilo, Sr. Mr. Troilo is the owner and President of Cameron C.
Troilo, Inc., a holding company for entities engaged in the construction,
building material supply and real estate management businesses. Mr. Troilo
previously served as Vice Chairman of Yardley Savings & Loan Association, which
was acquired by Sovereign Bank in 1989.
G. Arthur Weaver. Mr. Weaver is a real estate and insurance executive with the
George A. Weaver Company, New Holland, Pennsylvania. Mr. Weaver is a member of
the Board of Directors of Old Guard Group, Inc., a publicly held holding
company for several property and casualty insurance companies.
The following table sets forth certain information with respect to the
beneficial ownership, as defined in Rule 13d-3 of the Securities Exchange Act
of 1934, of our common stock as of September 30, 1999, by each of our directors
and executive officers. Unless otherwise indicated, each director and executive
officer holds sole voting and investment power over the shares listed as
beneficially owned. Unless otherwise indicated, shares indicated as being
subject to options are shares issuable pursuant to options outstanding and
vested under our stock option plans.
<TABLE>
<CAPTION>
Amount and
Nature of Percentage
Beneficial of Common
Beneficial Owners Ownership(1) Stock
- -------------------------------------------- ---------------------------- -----------
<S> <C> <C>
Richard E. Mohn ............................ 485,051(2) *
Jay S. Sidhu ............................... 2,773,793(3) 1.52%
Dennis S. Marlo ............................ 1,120,866(4) *
Lawrence M. Thompson, Jr. .................. 472,752(5) *
Brian Hard ................................. 1,782 *
Rhoda S. Oberholtzer ....................... 68,127(6) *
Patrick J. Petrone ......................... 278,093(7) *
Daniel K. Rothermel ........................ 127,376(8) *
Cameron C. Troilo, Sr. ..................... 712,760(9) *
G. Arthur Weaver ........................... 120,912(10) *
Sovereign directors and executive
officers as a group (ten persons) ......... 6,161,512(11)(12) 3.36%
</TABLE>
- ------------
* Shares listed constitute less than 1% of outstanding shares.
(1) The table reflects data supplied by each director and executive officer.
The table also reflects shares of our common stock owned by the trustee of
our Employee Stock Ownership Plan which have been allocated to the
accounts of the executive officers identified in the table, and as a
group.
(2) Mr. Mohn holds shared voting and investment power over 166,340 shares.
Shares and percentage include 79,324 shares subject to vested options.
(3) Mr. Sidhu holds shared voting and investment power over 621,209 shares.
Shares and percentage include 1,053,873 shares subject to vested options
and 28,575 shares held by our 401(k) Retirement Plan that are allocated to
Mr. Sidhu's account. Shares and percentage include 19,848 shares purchased
and held by our Employee Stock Ownership Plan which are allocated to Mr.
Sidhu's account and over which he exercises voting power.
(4) Mr. Marlo holds shared voting and investment power over 28,903 shares. Mr.
Marlo's shares and percentage include 581,240 shares subject to vested
options and 428 shares held by our 401(k) Retirement Plan which are
allocated to Mr. Marlo's account. Mr. Marlo was not a participant in our
Employee Stock Ownership Plan in 1998.
(5) Mr. Thompson holds shared voting and investment power over 103,316 shares.
Mr. Thompson's shares and percentage include 289,254 shares subject to
vested options and 5,676 shares held by our 401(k) Retirement Plan which
are allocated to Mr. Thompson's account. Shares and percentage include
15,083 shares purchased and held by our
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Employee Stock Ownership Plan that are allocated to Mr. Thompson's account
and over which he exercises voting power.
(6) Mrs. Oberholtzer holds shared voting and investment power over 525 shares
of her 68,127 shares. Shares and percentage include 24,000 shares subject
to vested options.
(7) Shares and percentage include 24,000 shares subject to vested options.
(8) Mr. Rothermel holds shared voting and investment power over 11,325 shares.
Shares and percentage include 3,341 shares held by Mr. Rothermel's spouse
with respect to which Mr. Rothermel disclaims beneficial ownership. Shares
and percentage include 58,151 shares subject to vested options.
(9) Mr. Troilo holds shared voting and investment power over 503,600 shares.
Shares and percentage include 55,783 shares subject to vested options.
(10) Mr. Weaver holds shared voting and investment power over 37,783 shares.
Shares and percentage include 66,751 shares subject to vested options.
(11) In the aggregate, these persons hold shared voting and investment power
over 1,472,474 shares. Shares and percentage include 2,200,593 shares
subject to vested options and 34,679 shares held by our 401(k) Retirement
Plan allocated to the executive officers' accounts. Shares and percentage
include 34,931 shares purchased and held by our Employee Stock Ownership
Plan that are allocated to participant accounts and over which they
exercise voting power.
(12) Under a policy adopted by our board of directors in January 1998, our
non-employee directors, Mr. Sidhu, Mr. Marlo and Mr. Thompson are required
to beneficially own shares of our common stock having a value of $100,000
for non-employee directors, six times base salary for Mr. Sidhu and three
times base salary for Messrs. Marlo and Thompson at all times during their
tenure with us. The ownership requirement for non-employee directors and
Mr. Sidhu must be achieved by December 31, 1999. The ownership requirement
for Messrs. Marlo and Thompson must be achieved by December 31, 2002.
Shares of our common stock subject to unexercised stock options and shares
allocated to the account of Messrs. Sidhu, Marlo and Thompson under our
Employee Stock Ownership Plan are not considered beneficially owned for
purposes of the policy. Messrs. Sidhu, Marlo and Thompson and a majority
of the non-employee directors have met this ownership requirement as of
the date of this prospectus supplement.
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DESCRIPTION OF PURCHASE AND ASSUMPTION AGREEMENT
The following constitutes a summary of the terms and conditions of the
purchase and assumption agreement we signed in connection with the New England
acquisition. It is qualified in its entirety by reference to the agreement
itself. For information on how to obtain a copy of the purchase and assumption
agreement, see "Where You Can Find More Information" in the accompanying
prospectus. See also "Description of the New England Acquisition."
General
On September 3, 1999, we and Sovereign Bank entered into a purchase and
assumption agreement with Fleet/BankBoston under which we expect to assume
approximately $12 billion of deposits and approximately $8 billion of loans,
and acquire 268 branch banking offices and 532 ATMs. The branches and ATMs are
located in Connecticut (32 branches), Massachusetts (176 branches), New
Hampshire (13 branches) and Rhode Island (47 branches). We are acquiring
Fleet/BankBoston's deposits, loans and branches in Rhode Island and Connecticut
(principally former BankBoston operations) and Massachusetts and New Hampshire
(principally former Fleet operations). The divestiture of these branches and
associated assets and liabilities was mandated by the DOJ in connection with
the Fleet/BankBoston merger, which was recently completed. The assets and
liabilities we plan to acquire were selected by the DOJ to help ensure a
competitive banking environment in New England. The deposits, loans and
branches which we are acquiring are primarily associated with the small
business, middle market and consumer banking markets.
We anticipate closing the New England acquisition on or about April 28,
2000, although the closing may be extended upon mutual consent of Sovereign and
Fleet/BankBoston.
Assets to be Acquired and Liabilities to be Assumed
Under the terms of the purchase and assumption agreement, we expect to
acquire approximately $8 billion of loans, including $3.8 billion of
residential mortgage loans, $3.7 billion of commercial loans and $509 million
of consumer loans. Under the terms of the purchase and assumption agreement, we
will not acquire any loan that is more than 90 days past due. We have also
agreed to acquire certain Community Reinvestment Act assets and commitments,
rights under certain international securities dealer agreements and 100%
participation interests in certain letters of credit and liquidity support
agreements. We have also agreed to acquire 108 owned and 163 leased branch and
other facilities, including related fixtures and equipment, and certain
precious metals inventory with a combined fair market value of approximately
$390 million.
Under the terms of the purchase and assumption agreement, the deposit
liabilities we expect to assume include advances, lines and negative deposits
associated with the branches we expect to acquire. We have also agreed to
assume all liabilities and obligations, to the extent such liabilities and
obligations arise or accrue after the closing of the New England acquisition,
under the lease agreements to which any of the acquired branches are subject,
under the loans we acquire, under the international securities dealer
agreements transferred to us and under the participation interests we acquire
for letters of credit and liquidity support agreements. We have also agreed to
assume all other liabilities or obligations, to the extent such obligations
arise or accrue after the closing of the New England acquisition, relating to
or arising out of the assets we acquire or liabilities we assume at closing. We
have also agreed to assume all of Fleet/BankBoston's environmental liabilities
associated with the real property to be acquired under the purchase and
assumption agreement, except that Fleet/BankBoston has agreed to provide
certain remedies for certain environmental hazards disclosed by our due
diligence which will require remediation of more than $50,000 per site or, in
the case of two facilities, more than 5% of the book value of the real
property.
Purchase Price and Taxes
We have agreed to pay a premium of 12%, or approximately $1.4 billion
before income taxes, for the deposit liabilities we actually assume upon
completion of the New England acquisition. This premium is tax- deductible and
should reduce the taxes we are required to pay over the next 15 years. We
believe that the deposit premium is favorable when compared to those in most of
the branch acquisitions we consider comparable. The purchase price paid at
closing is subject to adjustment after the closing date to reflect the assets
actually acquired and the deposits actually assumed.
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We have also agreed to pay a portion of all sales, transfer, use or
similar taxes, including any real property transfer taxes, which are payable or
owed as a result of the consummation of the transactions contemplated under the
purchase and assumption agreement.
Additional Branches
Fleet/BankBoston has reserved the right to sell to us an additional 38
branches located in Connecticut, Massachusetts and Rhode Island if
Fleet/BankBoston is unable to sell these branches to one or more other
community banks. Although we understand that Fleet/BankBoston has reached
agreement to sell 20 of the 38 branches and is trying to sell the remainder of
the branches to various community banks, we may be required to purchase some or
all of these branches. In the event we acquire all of these branches, we would
also acquire approximately $1 billion of related deposits, at the same 12%
premium, and $53 million of related loans.
Employees
We have agreed to offer comparable jobs to at least 2,322 employees
designated by Fleet/BankBoston and 1,352 additional employees selected by us.
These employees represent substantially all employees associated with the
branches to be acquired in the New England acquisition, relationship managers
for all commercial loans to be acquired, and various administrative and support
functions necessary to support the New England assets and liabilities. These
employees will be entitled to base salary or wages equal to salary or wages in
effect at the closing date of the New England acquisition, vacation benefits
equal to those benefits in effect on the closing date of the acquisition until
December 31, 2000, carryover of unused vacation for use in 2000 and, as of
January 1, 2001, receipt of all vacation, sick and personal days to which
employees are entitled under our policies. These employees will be considered
as new hires and will be eligible to participate in our qualified 401(k) plan,
qualified employee stock ownership plan, effective on January 1, 2001
(crediting the transferred employee with prior years of service), and our
health and welfare plans, and to receive the same amount of insurance coverage
received prior to the closing date up to a limit of $680,000. In the event we
offer comparable jobs to less than 1,352 additional employees, we have agreed
to pay Fleet/BankBoston an amount equal to $35,000 multiplied by the difference
between 1,352 and the number of additional employees to whom we actually offer
comparable jobs.
Fleet/BankBoston has also undertaken to pay "stay" or retention bonuses to
certain of the key managers and employees of Fleet/BankBoston to whom we will
offer employment. With respect to other key Fleet/BankBoston employees who are
not covered by these Fleet/BankBoston retention bonuses, we intend to institute
one or more programs to provide such employees with retention bonuses.
Conditions, Representations and Warranties
The closing of the acquisition is subject to certain conditions, including
receipt of all required regulatory approvals. As a condition to Sovereign's
obligation to close the acquisition, Fleet/BankBoston shall not have breached
any covenant or made any untrue representation or warranty that would have a
material adverse effect as defined in the purchase and assumption agreement on
or before the closing date. As a condition to Fleet/BankBoston's obligation to
close the acquisition, Sovereign shall not have breached any of its covenants
on or before the closing date, or made any representation or warranty that is
both untrue and that would have a material adverse effect on our ability to
consummate the New England acquisition.
We are purchasing the Fleet/BankBoston assets and liabilities as they
exist at the closing of the New England acquisition, based solely on our due
diligence review conducted in July and August 1999 and without substantial
representations, warranties or indemnities from Fleet/BankBoston (except that
we will not acquire any loan more than 90 days past due at the time of
closing). Bank assets and liabilities are inherently subject to constant
qualitative and quantitative changes.
Regulatory Approval
We are required to obtain the approval of the Office of Thrift
Supervision, our primary regulator, for the New England acquisition. We filed
an application for approval with our regulator on September 30, 1999. Our
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regulator will not approve the acquisition unless Sovereign Bank is adequately
capitalized on the date of completion of the New England acquisition and may
take into account other considerations. See "Business -- Supervision and
Regulation."
We cannot complete the acquisition until 30 days, or 15 days if the U.S.
Attorney General does not object, after the date of our regulator's approval,
during which time the DOJ may challenge the acquisition on antitrust grounds.
However, we believe it is unlikely that the DOJ will challenge the acquisition
during this period because the DOJ has already approved the Fleet/BankBoston
merger, which approval process included consideration of the proposed
divestiture of assets and liabilities to us. The DOJ's approval of the
acquisition does not prevent the filing of antitrust actions by any state
government or private persons, however. The commencement of an antitrust action
by a state government or private person which is possible given the
sensitivities to local branch transfers, may have the effect of preventing or
delaying the completion of the New England acquisition.
Transitional Matters
Commencing on the date of the merger of Fleet Financial Group, Inc. with
BankBoston Corporation, Fleet/BankBoston began operating the branches and
administering the deposits we are assuming and assets we are acquiring,
generally, as a discrete business unit with a separate management team pending
closing of the New England acquisition. Fleet/BankBoston has agreed with us to
operate these branches in the ordinary course of business. In addition,
Fleet/BankBoston has agreed, among other things, that prior to the closing date
it will:
o not solicit, encourage or induce a customer at a branch we expect to
acquire to transfer such customer's business to a Fleet/BankBoston branch
which we are not acquiring or otherwise to transfer such customer's
business such that it will not constitute part of the business we expect
to acquire;
o with respect to the deposit liabilities, other than in the usual, regular
and ordinary course consistent with past practice, not solicit, encourage
or induce a depositor to transfer any deposit liability to a
Fleet/BankBoston branch which we are not acquiring or offer deposit
accounts at a branch we expect to acquire at interest rates or on other
terms which are different from those offered by Fleet/BankBoston at any
branch we are not acquiring if any of these actions would have a material
adverse effect as defined in the purchase and assumption agreement;
o with respect to the loans we expect to acquire, other than in the usual,
regular and ordinary course consistent with past practice, not amend the
terms of any loan to reduce the interest rate applicable to the loan to a
rate that is below the market rate of interest for similar loans with the
same credit rating that are originated by Fleet/BankBoston for its own
portfolio at the time of the amendment, if the amendment would, in the
aggregate, result in a change in the characteristics of the portfolio of
loans we have agreed to acquire that would have a material adverse effect
on the loan value of the loans, taken as a whole;
o not sell, lease or transfer, or agree to sell, lease or transfer any
assets we expect to acquire except for assets sold, leased or transferred
in the ordinary course of business or pursuant to the exercise of
remarketing rights;
o not take any action which would adversely affect or delay the ability
either of us or Fleet/BankBoston to obtain regulatory approvals or to
perform either party's covenants and agreements under the purchase and
assumption agreement; and
o use commercially reasonable efforts to maintain and preserve intact its
relationships with employees and customers at the branches we have agreed
to acquire.
Fleet/BankBoston has also agreed not to solicit our customers for two
years after the completion of the purchase and assumption transaction, subject
to certain exceptions, including that Fleet/BankBoston is permitted to engage
in advertising, solicitations or marketing campaigns or other efforts not
primarily directed to or targeted at our customers. Fleet/BankBoston has also
agreed to provide us with continuing access to information relating to the
assets we have agreed to acquire and the liabilities we have agreed to assume,
and to assist us in connection with our systems conversion and other
transitional efforts. Fleet/BankBoston has also agreed to provide us with
access to the employees we propose to retain.
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In addition, Fleet/BankBoston has agreed to use commercially reasonable
efforts, excluding the payment of money or other consideration, to obtain
landlord consents to Fleet/BankBoston's assignment to us of each lease with
respect to the leased branches and ATMs to be transferred to us under the terms
of the purchase and assumption agreement. If Fleet/BankBoston cannot obtain a
landlord consent, Fleet/BankBoston will, if permitted without the consent of
the landlord, sublease the branch or ATM facility to us on mutually agreeable
terms for the remainder of the existing lease. If Fleet/BankBoston is unable to
obtain a landlord consent or sublease a branch or ATM to us, Fleet/BankBoston
will make space available to us for our operation of the branch or ATM pursuant
to a use and occupancy agreement. If, however, our legal counsel determines
that the applicable branch or ATM lease does not permit Fleet/BankBoston and us
to enter into a use and occupancy agreement, we will not be required to acquire
the branch or ATM or the related consumer deposit liabilities and fixed assets.
"No Shop" and Termination Provisions
The purchase and assumption agreement prohibits Fleet/BankBoston from
responding to, initiating, soliciting, or encouraging any inquiries or
proposals relating to the sale or disposition of all or any portion of the
purchased assets, the assumed liabilities, or the business, except pursuant to
remarketing rights as described below. Fleet/BankBoston, however, may terminate
the purchase and assumption agreement or solicit bids for and remarket all or
any portion of the purchased assets, assumed liabilities, or business, and
negotiate and enter into agreements for their sale or other disposition with
any other person, without obligation or liability to us, provided that it
notifies us no later than five business days prior to such action, if:
o Sovereign Bank does not obtain, by December 15, 1999, $500 million of
capital, as determined by Fleet/BankBoston in its sole discretion, for the
purpose of supporting the New England acquisition and Sovereign's other
obligations under the purchase and assumption agreement;
o Sovereign Bank does not obtain, by January 31, 2000, sufficient capital,
as determined by Fleet/BankBoston in its sole discretion, for the purpose
of supporting the New England acquisition and Sovereign's other
obligations under the purchase and assumption agreement;
o Sovereign Bank does not obtain all necessary regulatory approvals by
January 15, 2000;
o Sovereign does not deliver any officer's certificate or certain other
information required under the purchase and assumption agreement regarding
the status of Sovereign's efforts to raise capital to support the New
England acquisition; or
o the closing of the New England acquisition does not occur by April 28,
2000 and, as a result, Fleet/BankBoston determines, in its sole
discretion, that Sovereign Bank does not have sufficient capital to
support the New England acquisition and Sovereign's other obligations
under the purchase and assumption agreement.
In the event Fleet/BankBoston terminates the purchase agreement because
Sovereign fails to meet any of these requirements, Sovereign has agreed to pay
Fleet/BankBoston $50 million as liquidated damages. Sovereign has also agreed
to pay Fleet/BankBoston $50 million as liquidated damages if Fleet/BankBoston
terminates the purchase and assumption agreement because:
o funds deposited into escrow from our financing transactions are released
before April 28, 2000 other than in connection with the closing of the
acquisition, and as a result Fleet/BankBoston determines, in its sole
discretion, that Sovereign Bank does not have sufficient capital to
support the acquisition and Sovereign's other obligations under the
purchase and assumption agreement; or
o the bank and interim debt commitment to Sovereign from Citi/SSB and
Lehman (as defined below) is terminated, unless Sovereign Bank has
sufficient capital to support the New England acquisition and Sovereign's
other obligations under the purchase and assumption agreement as
determined by Fleet/BankBoston in its sole discretion.
Other Provisions
The purchase and assumption agreement may be extended, amended or modified
and any condition may be waived with our consent and the consent of
Fleet/BankBoston.
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FINANCING TRANSACTIONS
General
Set forth below is a summary description of the financing plan we intend
to implement in connection with our pending New England acquisition. The
summary does not purport to be complete and is qualified in its entirety by
reference to the definitive documentation for the financing, which has not yet
been fully negotiated and may contain provisions which are more or less
restrictive than those summarized herein.
We presently intend to raise funds to support the New England acquisition
from several different sources. We currently plan to:
o raise $700 million through the offering of senior notes contemplated by
this prospectus supplement;
o raise $300 million through an offering of common stock;
o raise $250 million through an offering of trust preferred units,
consisting of trust preferred securities and detachable warrants to
purchase 26,677,500 shares of our common stock; and
o raise $500 million through the syndication of a senior credit facility.
We also have a commitment from Salomon Smith Barney Inc. and Lehman
Brothers Inc., the lead representatives of the underwriters for this notes
offering and our other offerings, and Salomon Brothers Holdings Inc. and Lehman
Commercial Paper Inc., affiliates of the lead representatives of the
underwriters (collectively, "Citi/SSB and Lehman"), to provide up to $500
million of financing under the senior credit facility.
All the proceeds from public and private sales of debt will be placed into
escrow or in a similar structure pending completion of the New England
acquisition. If the New England acquisition is abandoned or is not consummated,
investors in our senior notes will be paid from the escrowed proceeds 102% of
the principal amount of senior notes together with accrued and unpaid interest,
and lenders under our senior credit facility will be paid from the escrowed
proceeds the principal of their loans together with accrued and unpaid
interest. The proceeds of the common stock offering and the offering of units
of trust preferred securities will not be placed into escrow and will not be
returned to investors.
<PAGE>
Our expectation that we need $1.75 billion to support the New England
acquisition and maintain Sovereign Bank's well capitalized status is based on
assumptions relating, among other things, to:
o the level of our earnings between now and the date of completion of the
acquisition;
o the amount, mix, yield and other characteristics of the deposits we are
assuming and loans we are acquiring;
o a reduction in our assets (and therefore our capital requirements)
resulting from the use of cash on hand, cash from the New England
acquisition and cash from the proceeds of sales of securities or other
assets to repay borrowings; and
o Fleet/BankBoston's success in selling the additional 38 branches and
related deposits and loans in New England which it has the ability to
require us to purchase. Fleet/BankBoston has publicly announced that it
has reached agreement to sell 20 of the 38 branches, and we understand it
is trying to sell the remainder of the branches. See "Description of the
New England Acquisition."
To the extent that these assumptions change, we may need to raise more or
less capital to support the New England acquisition and maintain Sovereign
Bank's status as well capitalized. The terms and mix of debt and equity we
raise may change from that described above depending on market conditions and
other factors. We may also change the type and amount of capital we ultimately
raise to support the acquisition or for a variety of other reasons, including
to increase our tangible equity. These changes could adversely affect your
investment or our financial condition.
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The offerings referred to above are being conducted pursuant to separate
prospectus supplements. The different offerings are not conditioned upon each
other, and only one or more of them may be completed. This prospectus
supplement relates only to the offering of senior notes and not the offering of
common stock or the offering of trust preferred units.
Common Stock
We intend to raise approximately $300 million through a public offering of
our common stock.
Trust Preferred Units
We will raise approximately $250 million through a public offering of
units of trust preferred securities. Each unit will consist of:
o a preferred security issued by Sovereign Capital Trust II, a newly formed
subsidiary trust, having a stated liquidation amount of $50, representing
an undivided beneficial ownership interest in the assets of the trust,
which assets will consist solely of subordinated debentures issued by us;
and
o a warrant or right to purchase at any time prior to 30 years from the
date of issue shares of our common stock at an exercise price equal to the
accreted value of the preferred security, subject to anti-dilution
adjustments and to redemption as described below.
The preferred security will have a liquidation amount of $50 and a term of
approximately 30 years from the date of issue. It will bear dividends quarterly
at a rate of 7.5% on the liquidation amount.
The warrants will be exercisable at any time by the holder at the Accreted
Value, as defined below. If on any date after November 20, 2002, the closing
price of our common stock has exceeded $14.9939 per share (subject to
adjustment) for at least 20 trading days within the immediately preceding 30
trading days, we may elect to cause the remarketing of the preferred securities
at a price no less than 100% of their Accreted Value. In connection with a
remarketing, we will call the warrants for redemption at the Warrant Value, as
defined below and the stated maturity of the debentures (and, as a result, the
redemption date of the preferred securities) will become 60 days following the
remarketing date. The proceeds from the remarketing of the preferred securities
that are a part of the units will be applied to satisfy in full the exercise
price of the related warrants.
"Accreted Value" means the initial purchase price of the preferred
security component of a unit, plus accrual of the discount (i.e., the
difference between the scheduled liquidation amount of $50 and such initial
purchase price), calculated from the date of issue to the date of calculation
at a rate per annum yet to be determined on a quarterly bond equivalent yield
basis using a 360-day year of twelve 30-day months until such sum equals $50
thirty years from the date of issue.
"Warrant Value" at any date will be equal to the difference between $50
and the Accreted Value on such date.
The debentures will have a principal amount of $50, a 30-year stated
maturity and, at any time, an Accreted Value equal to the Accreted Value of the
preferred securities. The debentures will be issued as subordinated
indebtedness. In connection with a remarketing of the preferred securities:
o the stated maturity of the debentures will be modified to the date which
is 60 days following the remarketing date; and
o the debentures will have an interest rate on their accreted value equal
to the rate established in the remarketing.
Senior Credit Facility
We intend to enter into a senior credit facility with a syndicate, or
group, of banks and financial institutions, including Lehman Brothers Inc. and
Salomon Smith Barney Inc. as joint arrangers. The senior credit facility will
consist of a term loan with a final maturity of up to four years. The term loan
will amortize quarterly.
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Although we intend to syndicate this facility, in the event we are unable
to do so, Citi/SSB and Lehman have committed to provide the facility in an
amount up to $500 million.
Borrowings under the facility will bear floating interest rates.
Citi/SSB and Lehman have the right to change terms or structure of the
facility at any time until the completion of the syndication of the facility.
Conditions
The funding of the senior credit facility is subject to a number of
significant terms and conditions, including the absence of any material adverse
change in our financial condition, results of operations or prospects, or in
the assets and liabilities we seek to acquire, or any material disruption or
material adverse change in the domestic markets and Sovereign using its best
efforts to raise public debt and equity financing in order to support the New
England acquisition. The facility also requires, among other things, that we
first have raised at least $450 million through a combination of common equity
financings (including the offering of trust preferred units) and at least $500
million from the offering of senior notes, that Sovereign Bank is well
capitalized in accordance with regulatory requirements and that we timely
deliver certain financial information together with certain auditor reports to
Citi/SSB and Lehman.
Guarantees; Security
The facilities will be secured by a first priority security interest in
100% of the capital stock of our domestic subsidiaries, including Sovereign
Bank (but excluding its subsidiaries), and 65% of the voting capital stock of
any future direct foreign subsidiaries. We will also be required, under the
indenture pursuant to which our outstanding 6.625% senior notes and 6.75%
senior notes were issued, to grant holders of these notes an equal and ratable
security interest in the capital stock of Sovereign Bank. The facility will be
guaranteed by all our future material domestic subsidiaries that are not
banking institutions or special purpose trusts.
<PAGE>
Covenants
The facility will require us to meet certain financial tests which may
include:
o maximum total debt to EBITA (or other measures of cash flow);
o maximum senior secured debt to EBITA (or other measures of cash flow);
o minimum tangible net worth;
o minimum loan loss reserve to total loans;
o maximum non-performing assets to total assets; and
o maintaining Sovereign Bank as well capitalized.
In addition to certain customary affirmative covenants, the facility will
contain negative covenants which may include covenants limiting our ability to:
o create additional liens on our assets;
o incur additional indebtedness;
o make certain additional capital expenditures;
o make loans and investments;
o engage in transactions with affiliates;
o sell assets;
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o merge or consolidate;
o pay dividends or other distributions to stockholders;
o make acquisitions;
o change lines of business;
o prepay, redeem or repurchase other debt; and
o amend our other debt and other material agreements.
There will not be limitations on the ability of Sovereign Bank or any future
subsidiaries that are banks to incur additional indebtedness or liens on their
assets in the ordinary course of business.
Mandatory Prepayments
We will be required to prepay the senior credit facility with:
o 100% of net cash dividends from Sovereign Bank (after payment of our
administrative and interest expenses, taxes, scheduled debt payments and
ordinary course dividends up to $0.10 per share (not to exceed $40 million
annually));
o an amount of excess cash flow to be determined by Citi/SSB and Lehman;
o 100% of the net cash proceeds from non-ordinary course asset sales; and
o 100% of the net proceeds of issuances of equity and equity equivalents of
Sovereign Bancorp and our subsidiaries.
Events of Default
Events of default under the facility will include failure to pay interest,
principal or fees when due under the facility, failure to perform covenants,
inaccurate or false representations or warranties, default by us in respect of
certain other debt, certain events of bankruptcy, certain judgments against us,
invalidity of any loan document, certain bank regulatory actions and events and
changes in control of Sovereign.
<PAGE>
Existing Indebtedness
The following table sets forth our other existing long-term indebtedness
(in thousands):
<TABLE>
<CAPTION>
At June 30,
1999
------------
<S> <C>
Securities sold under repurchase agreements, maturing October 2000 to May 2008 $ 320,000
FHLB advances, maturing November 2000 to April 2012 ........................... 3,785,957
6.625% senior notes, due 2001 ................................................. 237,677
6.75% senior notes, due 2000 .................................................. 49,862
6.75% subordinated debentures, due 2000 ....................................... 27,828
8.00% subordinated medium-term notes, due 2003 ................................ 49,464
8.50% subordinated debentures, due 2002 ....................................... 19,747
----------
Total long-term borrowings ................................................. $4,490,535
</TABLE>
The 6.75% senior notes are non-amortizing and are not redeemable prior to
maturity. The 6.75% subordinated debentures are non-amortizing and are not
redeemable prior to maturity. The 6.75% subordinated
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debentures and a portion of the FHLB advances have, through the use of interest
rate swaps, been effectively converted from fixed rate obligations to variable
rate obligations. The 6.625% senior notes are non-amortizing and are redeemable
at our option in whole or in part at any time at a make-whole premium. The
8.50% subordinated debentures are non-amortizing and are redeemable at our
option in whole or in part at any time at a premium until September 15, 2001.
The 8.00% medium-term notes are non-amortizing and are not redeemable prior to
maturity.
The indenture pursuant to which the 6.625% senior notes and the 6.75%
senior notes were issued contains a covenant prohibiting us from creating liens
upon or pledging the voting stock of Sovereign Bank without providing that
these securities are secured equally and ratably. Accordingly, because we will
pledge the stock of Sovereign Bank we own to the lenders under the proposed
credit facility described above, we will also be required to pledge that stock
to the holders of these notes. This indenture and the indenture pursuant to
which the 6.75% subordinated debentures, the 8.50% subordinated debentures and
the 8.00% subordinated medium-term notes were issued contain a covenant
limiting our ability to sell or dispose of more than 20% of the voting stock of
Sovereign Bank and limiting Sovereign Bank's ability to merge or consolidate
with another entity.
The indentures pursuant to which the notes and debentures listed above
were issued also contain certain customary events of default.
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DESCRIPTION OF NOTES
You can find the definitions of certain terms used in this description
under the subheading "Certain
Definitions". In this description, the words "Company" and "we" refer only to
Sovereign Bancorp, Inc. on an unconsolidated basis and not to any of its
subsidiaries.
The terms of the 101/4% Senior Notes due 2004 and the 101/2% Senior Notes
due 2006 (collectively, the "Notes") are described below. The 101/4% Senior
Notes due 2004 and the 101/2% Senior Notes due 2006 each are a separate series
of the debt securities. The Notes are described in the prospectus that follows
this prospectus supplement. The provisions described below supplement, and to
the extent they conflict they supersede, the information in the prospectus with
respect to the Notes. Except where specific references are otherwise made to
the 101/4% Senior Notes due 2004 or the 101/2% Senior Notes due 2006, the
following description applies to both series of Notes.
The Company will issue the 101/4% Senior Notes due 2004 and the 101/2%
Senior Notes due 2006 under the indenture dated as of February 1, 1994 (the
"Existing Indenture"), between the Company and Harris Trust and Savings Bank,
as Trustee, which is filed as an exhibit to the registration statement of which
this prospectus supplement is a part, and under the first supplemental
indenture dated as of November 15, 1999 (the "Supplemental Indenture", and
together with the Existing Indenture, the "Indenture"), between the Company and
the Trustee. The Indenture is governed by the Trust Indenture Act of 1939. The
terms of the Notes include those stated in the Indenture and those made part of
the Indenture by reference to the Trust Indenture Act.
We urge you to read the Indenture because it, and not this description,
defines your rights as a holder of these Notes. A copy of the form of
Supplemental Indenture will be filed as an exhibit to the registration
statement of which this prospectus supplement forms a part.
We can issue up to $700 million of the notes offered under this prospectus
supplement (the "Offered Notes") now, of which $200 million are 101/4% Senior
Notes due 2004 and $500 million are 101/2% Senior Notes due 2006, and up to
$500 million of additional Notes at later dates under the same Indenture. We
can issue additional Notes as part of the same series of either the 101/4%
Senior Notes due 2004 or the 101/2% Senior Notes due 2006 or as an additional
series. Any additional Notes that we issue in the future pursuant to the
Indenture as part of the same series as the Offered Notes will be identical in
all respects to the Offered Notes that we are issuing now of such series,
except that Notes issued in the future will have different issuance prices and
issuance dates.
The Company will issue Notes only in fully registered form without
coupons, in denominations of $1,000 and integral multiples of $1,000. The
101/4% Senior Notes due 2004 and the 101/2% Senior Notes due 2006 each will be
issued as separate series of senior debt securities under the Indenture, and
accordingly each series will vote as a separate series from other series of
senior debt securities and from one another on matters under the Indenture.
Principal, Maturity and Interest
The 101/4% Senior Notes due 2004 will mature on May 15, 2004. The 101/2%
Senior Notes due 2006 will mature on November 15, 2006. We can issue a maximum
of $700 million aggregate principal amount of Offered Notes.
Interest on the Notes will be payable semi-annually in arrears on and
November 15, commencing on May 15, 2000. The Company will pay interest to those
persons who were holders of record on the May 1 and November 1 immediately
preceding each interest payment date.
Interest on the Notes will accrue from the date of original issuance or,
if interest has already been paid, from the date it was most recently paid.
Interest will be computed on the basis of a 360-day year comprised of twelve
30-day months.
Ranking
The Notes will be:
o senior unsecured obligations of the Company;
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o equal in ranking as to payment ("pari passu") with all existing and
future senior debt of the Company;
o senior in right of payment to all existing and future subordinated debt
of the Company; and
o guaranteed on a senior unsecured basis by the Company's Material Domestic
Subsidiaries that are not banking institutions, or subsidiaries thereof,
or special purpose trusts established for the purpose of issuing trust
securities. At present the Company has no such Material Domestic
Subsidiaries. Sovereign Bank and its subsidiaries are banking institutions
and will not be Subsidiary Guarantors.
As of June 30, 1999, after giving effect to the New England acquisition and
this offering and the other related financings, the total outstanding debt of
the Company, excluding unused commitments made by lenders, would have been
approximately $1.6 billion. As of that date, $97.0 million of our debt would
have been subordinated in right of payment to the Notes.
The Company only has a stockholder's claim in the assets of Sovereign Bank
and the Company's other subsidiaries. This stockholder's claim is junior to the
claims that creditors of the Company's subsidiaries have against those
subsidiaries, including in the case of Sovereign Bank, its depositors, the
Federal Deposit Insurance Corporation and the Federal Home Loan Bank. Holders
of the Notes will only be creditors of the Company and of those subsidiaries
that may become Subsidiary Guarantors, if any. Holders will not be creditors of
Sovereign Bank or its subsidiaries where most of the Company's consolidated
assets are located. In the case of Sovereign Bank and the other subsidiaries
that also are not Subsidiary Guarantors, all the existing and future
liabilities of such subsidiaries, including any claims of trade creditors and
preferred stockholders, will be effectively senior to the Notes.
All the operations of the Company are conducted through Sovereign Bank and
other subsidiaries. Therefore, the Company's ability to service its debt,
including the Notes, is dependent upon the earnings of Sovereign Bank and the
other subsidiaries, and their ability to distribute those earnings as
dividends, loans or other payments to the Company. Certain laws restrict the
ability of the Company's subsidiaries to pay dividends and make loans and
advances to it. In particular, dividends by Sovereign Bank are restricted under
the laws and regulations applicable to savings associations and savings and
loan holding companies. For a detailed description of the limitations on the
ability of Sovereign Bank and other subsidiaries to pay dividends, see
"Business--Supervision and Regulation--Limitations on Dividends and Other
Capital Distributions" in this prospectus supplement. The Company will not be
able to use the earnings of Sovereign Bank and those other subsidiaries subject
to distribution restrictions to make payments on the Notes, except to the
extent the restrictions are satisfied. Furthermore, under certain
circumstances, bankruptcy "fraudulent conveyance" laws or other similar laws
could invalidate any future Subsidiary Guaranties. If this were to occur, the
Company would also be unable to use the earnings of future Subsidiary
Guarantors, if any, to the extent they face restrictions on distributing funds
to the Company. Any of the situations described above could make it more
difficult for the Company to service its debt.
The total balance sheet liabilities (excluding deposits) of the Company's
subsidiaries, including Sovereign Bank, after giving effect to the New England
acquisition and this offering and the other related financings, as of June 30,
1999, excluding unused commitments made by lenders, would have been $6.8
billion.
The Company's subsidiaries also have other liabilities and commitments,
including contingent and other off-balance sheet liabilities, that may be
significant. The Indenture contains limitations on the amount of additional
Debt which the Company and its Subsidiaries (except Sovereign Bank and any
other Depository Institution or Subsidiary of a Depository Institution) may
Incur. However, the amounts of such Debt could be substantial and may be
Incurred either by Sovereign Bank and the Company's other subsidiaries, as well
as by future Subsidiary Guarantors, if any.
The Notes are unsecured obligations of the Company and will be unsecured
obligations of any future Subsidiary Guarantors. Secured Debt of the Company
and any Subsidiary Guarantors will be effectively senior to the Notes to the
extent of the value of the assets securing such Debt. In particular, if the
Company enters into the proposed senior credit facility, debt under that
facility will be secured by a pledge of the stock of Sovereign Bank (but not
its subsidiaries), the stock of the Company's other subsidiaries and the
proceeds, after payment of taxes, the Company receives from Sovereign Bank
under the tax allocation
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agreement between the Company and Sovereign Bank. In addition, $290 million of
existing senior debt that is currently unsecured will be secured by a pledge of
Sovereign Bank's stock. As a result, this outstanding debt and debt under the
proposed senior credit facility will be effectively senior to the Notes to the
extent of the value of such security. See "Financing Transactions."
As of June 30, 1999, after giving effect to the New England acquisition
and this offering and the other related financings, the outstanding secured
Debt of the Company would have been approximately $790 million. See "Risk
Factors--The notes are obligations of a holding company which has no operations
and depends on Sovereign Bank and our other subsidiaries for cash, and will be
effectively subordinated to our secured debt and debt of our subsidiaries,"
"--We are significantly increasing our level of debt and may have little or no
tangible equity at the holding company level, which will adversely affect our
future flexibility," "--Our new indebtedness will place restrictions on us
which may limit our operating flexibility and our ability to pay dividends" and
"Financing Transactions".
Escrow of Proceeds; Special Mandatory Redemption
Upon the occurrence of a Special Mandatory Redemption Trigger (as defined
below), then the Company will redeem all the Notes (the "Special Mandatory
Redemption") at a redemption price in cash equal to 102% of the aggregate
principal amount thereof plus accrued and unpaid interest thereon to the
mandatory redemption date (subject to the right of holders of record on the
relevant record date to receive interest due on the relevant interest payment
date).
The mandatory redemption date will be the 15th day (or if such day is not
a business day, the next following business day) following the earlier of (each
of the following, a "Special Mandatory Redemption Trigger"):
o July 31, 2000 if the New England acquisition has not been consummated by
such date;
o the abandonment of the New England acquisition; and
o the termination of the purchase and assumption agreement.
If the Escrow Agent receives notice from the Company that the closing of
the New England acquisition will occur on or prior to July 31, 2000, the Escrow
Agent will release all escrowed funds to the Company upon presentation of an
Officers' Certificate certifying that (1) the Company simultaneously with such
release will fully complete the New England acquisition in conformity in all
material respects with the terms and with satisfaction of all material
conditions of the purchase and assumption agreement (after giving effect to any
amendment, waiver or modification to any term or condition, which amendment,
waiver or modification does not have a material adverse effect on Noteholders)
and (2) the terms of the transactions entered into and the operations and
assets and liabilities acquired and assumed in the New England acquisition
conform in all material respects to the descriptions thereof contained in this
prospectus supplement, subject only to any changes provided for, discussed or
contemplated in this prospectus supplement. Nothing shall be construed to
preclude the Company from presenting the certifications required by clause (1)
or (2) above as a result of the Company having engaged in a series of closings
with the final closing occurring on or prior to the date of release of funds
from the escrow and/or being then engaged in or having been engaged in a series
of systems conversions, provided that such multiple closings or multiple
systems conversions do not have a material adverse effect on Noteholders.
During the period from the date of original issuance through, but not
including, the date that the New England acquisition is consummated, the
Company's obligation to effect the Special Mandatory Redemption will be secured
by the pledge of the net proceeds of this offering and proceeds to be
contributed by the Company, such that the aggregate amount of all pledged
proceeds and the expected earnings thereon will be sufficient to pay (1) 102%
of the aggregate principal amount of the Notes and (2) all accrued and unpaid
interest on the Notes, assuming the Special Mandatory Redemption occurs on
August 15, 2000. The escrowed funds will be held by Harris Trust and Savings
Bank, as Escrow Agent, pursuant to a Pledge and Escrow Agreement between the
Company and the Escrow Agent (the "Pledge and Escrow Agreement"). While in
escrow, the escrowed funds may be invested in Eligible Investments at the
direction of the Company which
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shall mature at such time and in such amounts as is necessary to pay interest
on the Notes, when due, and in any event shall mature on or prior to August 15,
2000. A copy of the Pledge and Escrow Agreement is available upon request to
the Company. The Escrow Agent is also the Trustee under the Indenture for the
Notes.
Unless the Escrow Agent has received notice that a mandatory redemption
date will occur on or prior to May 15, 2000, the Escrow Agent will release to
the Paying Agent for the Notes an amount in cash equal to the first interest
payment on the Notes for payment on May 15, 2000 to registered holders of the
Notes at the close of business on May 15, 2000.
If the Escrow Agent receives a notice of mandatory redemption, the Escrow
Agent will liquidate the escrowed funds then held by it not later than the
third business day prior to the mandatory redemption date and release to the
Paying Agent for the Notes an amount of escrowed funds equal to the aggregate
mandatory redemption price of the Notes for payment to holders on the mandatory
redemption date. Concurrently with such release to the Paying Agent, the Escrow
Agent will release any excess of escrowed funds over the mandatory redemption
price to the Company which, in turn, will be permitted to use such funds in its
discretion, including to dividend such excess to its shareholders, subject to
any covenant limitations in the Indenture.
Certain provisions relating to the Company's obligation to redeem Notes in
a Special Mandatory Redemption may not be waived or modified without the
written consent of the holders of all the Notes.
Optional Redemption
On and after the Issue Date, the Company may redeem all or any portion of
the Notes, at once or over time, after giving the required notice under the
Indenture, at a redemption price equal to the sum of the principal amount of
the Notes of the applicable series to be redeemed, plus accrued and unpaid
interest, if any, to the redemption date (subject to the right of the holders
of record on the relevant record date to receive interest due on the relevant
interest payment date), plus the Applicable Premium.
"Applicable Premium" means, with respect to a Note of any series at any
time of determination, the excess, if any, of (A) the present value at such
time of determination of the remaining required interest and principal payments
(including any past due or accrued and unpaid interest) in respect of the
portion of such Note to be redeemed, computed using a discount rate equal to
the applicable Treasury Rate plus 50 basis points for either series of Notes,
over (B) the then outstanding principal amount of the portion of such Note to
be redeemed.
"Treasury Rate" means, with respect to each series of Notes, the yield to
maturity at the time of computation of United States Treasury securities with a
constant maturity (as compiled and published in the most recent Federal Reserve
Statistical Release H.15(519) which has become publicly available at least two
business days prior to the date fixed for repayment or, in the case of
defeasance, prior to the date of deposit or, in the case of a Change of Control
Offer, prior to the Change of Control Notice Date (or, if such Statistical
Release is no longer published, any publicly available source of similar market
data)) most nearly equal to the then remaining Average Life of such series;
provided, however, that, if the Average Life of such series is not equal to the
constant maturity of a United States Treasury security for which a weekly
average yield is given, the Treasury Rate shall be obtained by linear
interpolation (calculated to the nearest one-twelfth of a year) from the weekly
average yields of United States Treasury securities for which such yields are
given, except that, if the Average Life of such series is less than one year,
the weekly average yield on actually traded United States Treasury securities
adjusted to a constant maturity of one year shall be used.
Sinking Fund
There will be no mandatory sinking fund payments for the Notes.
Repurchase at the Option of Holders Upon a Change of Control
Upon the occurrence of a Change of Control, each holder of Notes shall
have the right to require the Company to repurchase all or any part of such
holder's Notes pursuant to the offer described below (the
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"Change of Control Offer") at a purchase price (the "Change of Control Purchase
Price") equal to 101% of the principal amount thereof, plus accrued and unpaid
interest, if any, to the purchase date (subject to the right of holders of
record on the relevant record date to receive interest due on the relevant
interest payment date); provided, however, that notwithstanding a Change of
Control, the Company shall not be obligated to purchase the Notes to the extent
it has exercised its right to redeem all the Notes.
Within 45 days following any Change of Control (the "Change of Control
Notice Date"), the Company shall:
(a) cause a notice of the Change of Control Offer to be sent at least
once to the Dow Jones News Service or similar business news service in the
United States, and
(b) send, by first-class mail, with a copy to the Trustee, to each
holder of Notes, at such holder's address appearing in the Security
Register, a notice stating:
(1) that a Change of Control has occurred and a Change of Control
Offer is being made pursuant to the covenant entitled "Repurchase at the
Option of Holders Upon a Change of Control" and that all Notes timely
tendered will be accepted for payment;
(2) the Change of Control Purchase Price and the purchase date, which
shall be, subject to any contrary requirements of applicable law, a
business day no earlier than 30 days nor later than 60 days from the
date such notice is mailed;
(3) the circumstances and relevant facts regarding the Change of
Control (including information with respect to pro forma historical
income, cash flow and capitalization after giving effect to the Change
of Control); and
(4) the procedures that holders of Notes must follow in order to
tender their Notes (or portions thereof) for payment, and the procedures
that holders of Notes must follow in order to withdraw an election to
tender Notes (or portions thereof) for payment.
The Company will comply, to the extent applicable, with the requirements
of Section 14(e) of the Exchange Act and any other securities laws or
regulations in connection with the repurchase of Notes pursuant to a Change of
Control Offer. To the extent that the provisions of any securities laws or
regulations conflict with the provisions of the covenant described hereunder,
the Company will comply with the applicable securities laws and regulations and
will not be deemed to have breached its obligations under the covenant
described hereunder by reason of such compliance.
The Change of Control repurchase feature is a result of negotiations
between the Company and the Underwriters. Management has no present intention
to engage in a transaction involving a Change of Control, although it is
possible that the Company would decide to do so in the future. Subject to
certain covenants described below, the Company could, in the future, enter into
certain transactions, including acquisitions, refinancings or other
recapitalizations, that would not constitute a Change of Control under the
Indenture, but that could increase the amount of debt outstanding at such time
or otherwise affect the Company's capital structure or credit ratings.
The Company's proposed senior credit facility may prohibit the Company
from purchasing any Notes prior to certain dates, and may also provide that the
occurrence of certain of the events that would constitute a Change of Control
would constitute a default under such credit facility. Other future debt of the
Company may contain similar prohibitions or require such debt to be repurchased
upon a Change of Control. Moreover, the exercise by holders of Notes of their
right to require the Company to repurchase such Notes could cause a default
under existing or future debt of the Company, even if the Change of Control
itself does not, due to the financial effect of such repurchase on the Company.
Finally, the Company's ability to pay cash to holders of Notes upon a
repurchase may be limited by the Company's then existing financial resources.
There can be no assurance that sufficient funds will be available when
necessary to make any required repurchases. The Company's failure to purchase
Notes in connection with a Change of Control would result in a default under
the Indenture. Such a default would, in turn, constitute a default under
existing debt of the Company and the proposed senior credit facility and may
constitute a default under other future debt as well. The Company's obligation
to make an offer to repurchase the Notes as a result of a Change of Control may
be waived or modified at any time prior to the occurrence of such Change of
Control with the written consent of the holders of a majority in principal
amount of the Notes. See "--Amendments and Waivers."
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Certain Covenants
Covenant Suspension. During any period of time that:
(a) the Notes have Investment Grade Ratings from both S&P and Moody's
and
(b) no Default or Event of Default has occurred and is continuing under
the Indenture,
the Company and the Subsidiaries will not be subject to the following
provisions of the Indenture:
o "--Limitation on Debt",
o "--Limitation on Restricted Payments",
o "--Limitation on Restrictions on Distributions from Subsidiaries",
o "--Limitation on Transactions with Affiliates",
o clause (x) of the third paragraph (and such clause (x) as referred to
in the first paragraph) of "--Designation of Restricted and
Unrestricted Subsidiaries",
o "--Limitation on Company's Business" and
o clauses (e) and (f) of the first and second paragraphs of "--Merger,
Consolidation and Sale of Property"
(collectively, the "Suspended Covenants"). In the event that the Company and
the Subsidiaries are not subject to the Suspended Covenants for any period of
time as a result of the preceding sentence and, subsequently, one or both of
S&P and/or Moody's withdraws its ratings or downgrades the ratings assigned to
the Notes below the required Investment Grade Ratings or a Default or Event of
Default occurs and is continuing, then the Company and the Subsidiaries will
thereafter again be subject to the Suspended Covenants and compliance with the
Suspended Covenants with respect to Restricted Payments made after the time of
such withdrawal, downgrade, Default or Event of Default will be calculated in
accordance with the terms of the covenant described below under "--Limitation
on Restricted Payments" as though, for purposes of determining whether new
Restricted Payments can be made after such time, such covenant had been in
effect during the entire period of time from the Issue Date.
Limitation on Debt. The Company shall not, and shall not permit any
Subsidiary to, Incur, directly or indirectly, any Debt; provided, however, that
the foregoing shall not prohibit the Incurrence of the following Debt:
(a) Debt of the Company evidenced by the Offered Notes and of any
Subsidiary Guarantors evidenced by Subsidiary Guaranties relating to the
Offered Notes;
(b) Debt outstanding on the Issue Date not otherwise described in clause
(a), (c), (d), (e), (g), (h), (i) or (j);
(c) Debt of the Company or any Subsidiary Guarantor if, immediately
after giving pro forma effect to the Incurrence of such Debt and the
application of the proceeds thereof, the outstanding aggregate principal
amount of Debt of the Company and its Subsidiaries on a consolidated basis
(other than Debt
Incurred pursuant to clause (j)) would not exceed an amount equal to the
Adjusted Consolidated Net Worth of the Company
(d) Subordinated Obligations of the Company or any Subsidiary Guarantor
if, immediately after giving pro forma effect to the Incurrence of such
Debt and the application of the proceeds thereof, the Consolidated Interest
Coverage Ratio would be greater than 3.00 to 1.00; provided, however, that
such Debt (A) shall have a Stated Maturity that is no earlier than the
Stated Maturity of the Notes and (B) shall have an Average Life equal to or
greater than the remaining Average Life of the Notes;
(e) Debt under any Credit Facilities, provided that the aggregate
principal amount of all such Debt at any one time outstanding shall not
exceed $500 million, which amount shall be permanently reduced to the
extent such Credit Facilities are Repaid from time to time;
(f) Permitted Refinancing Debt Incurred in respect of Debt Incurred
pursuant to clause (a), (b), (c), (d), (g) or (h);
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(g) Debt of a Subsidiary outstanding on the date on which such
Subsidiary was acquired by the Company or otherwise became a Subsidiary
(other than Debt Incurred as consideration in, or to provide all or any
portion of the funds or credit support utilized to consummate, the
transaction or series of transactions pursuant to which such Subsidiary
became a Subsidiary of the Company or was otherwise acquired by the
Company), provided that at the time such Subsidiary was acquired by the
Company or otherwise became a Subsidiary and after giving pro forma effect
to the Incurrence of such Debt, the Company would have been able to Incur
$1.00 of additional Debt pursuant to clause (c) of this covenant;
(h) Subordinated Obligations Incurred by the Company and Debt Incurred
by any special purpose trust pursuant to the issuance by such special
purpose trust of trust preferred securities in connection with the New
England acquisition (including any Subordinated Obligations Incurred or
trust preferred securities issued pursuant to a remarketing of Debt
permitted pursuant to this clause (h), provided such remarketing is in
accordance with the original terms of such Debt);
(i) in the case of a Financial Services Subsidiary, any Debt issued by
such Financial Services Subsidiary in the ordinary course of funding its
assets if, immediately after giving pro forma effect to the Incurrence of
such Debt and the application of the proceeds thereof, (A) the outstanding
aggregate principal amount of Debt Incurred by such Financial Services
Subsidiary would not exceed an amount equal to the Consolidated Total
Assets of such Financial Services Subsidiary, and (B) the amount of the
Consolidated Total Assets and Consolidated Net Worth of all the Financial
Services Subsidiaries on a combined basis would not exceed 2.5% of the
Company's Consolidated Total Assets and Consolidated Net Worth,
respectively (all determinations pursuant to this clause (i) shall be made
as of the end of the Company's most recent fiscal quarter ending at least
45 days prior to the date of such Incurrence); and
(j) Debt of any Subsidiary that is a Depository Institution or a
Subsidiary of a Depository Institution, including Sovereign Bank.
<PAGE>
Notwithstanding anything to the contrary contained in this covenant,
(1) the Company shall not, and shall not permit any Subsidiary Guarantor
to, Incur any Debt pursuant to this covenant if the proceeds thereof are
used, directly or indirectly, to Refinance any Subordinated Obligations
unless such Debt shall be subordinated to the Notes or the applicable
Subsidiary Guaranty, as the case may be, to at least the same extent as
such Subordinated Obligations, and
(2) the Company shall not permit any Subsidiary that is not a Subsidiary
Guarantor to Incur any Debt pursuant to this covenant if the proceeds
thereof are used, directly or indirectly, to Refinance any Debt of the
Company or any Subsidiary Guarantor.
Limitation on Restricted Payments. The Company shall not make, and shall
not permit any Subsidiary to make, directly or indirectly, any Restricted
Payment if at the time of, and after giving effect to, such proposed Restricted
Payment,
(a) a Default or Event of Default shall have occurred and be continuing,
or
(b) any Subsidiary that is a Depository Institution does not qualify as
"well capitalized" under Section 28 of the FDIA (or any successor
provision) and the regulations of the OTS thereunder, or
(c) the Consolidated Common Shareholders' Tangible Equity of Sovereign
Bank as of the end of the most recent fiscal quarter ending at least 45
days prior to the date of such Restricted Payment was less than the Minimum
Tangible Common Equity Amount as of the end of such fiscal quarter, or
(d) the aggregate amount of such Restricted Payment and all other
Restricted Payments declared or made since the Issue Date (the amount of
any Restricted Payment, if made other than in cash, to be based upon Fair
Market Value) would exceed an amount equal to the sum of:
(1) 50% of the aggregate amount of Consolidated Net Income accrued
during the period (treated as one accounting period) from the beginning
of the fiscal quarter during which the Issue
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Date occurs to the end of the most recent fiscal quarter ending at least
45 days prior to the date of such Restricted Payment (or if the
aggregate amount of Consolidated Net Income for such period shall be a
deficit, minus 100% of such deficit), plus
(2) Capital Stock Sale Proceeds, plus
(3) the sum of:
(A) the aggregate net cash proceeds received by the Company or any
Subsidiary from the issuance or sale after the Issue Date of
convertible or exchangeable Debt (excluding trust preferred
securities issued in connection with the New England acquisition)
that has been converted into or exchanged for Capital Stock (other
than Disqualified Stock) of the Company, and
(B) the aggregate amount by which Debt (excluding trust preferred
securities issued in connection with the New England acquisition) of
the Company or any Subsidiary is reduced on the Company's
consolidated balance sheet on or after the Issue Date upon the
conversion or exchange of any Debt issued or sold on or prior to the
Issue Date that is convertible or exchangeable for Capital Stock
(other than Disqualified Stock) of the Company,
excluding, in the case of clause (A) or (B):
(x) any such Debt issued or sold to the Company or a Subsidiary
or an Unrestricted Subsidiary or an employee stock ownership plan or
trust established by the Company or any Subsidiary or an Unrestricted
Subsidiary for the benefit of their employees, and
(y) the aggregate amount of any cash or other Property
distributed by the Company or any Subsidiary upon any such
conversion or exchange,
plus
(4) an amount equal to the sum of:
(A) the net reduction in Investments in any Person other than the
Company or a Subsidiary resulting from dividends, repayments of loans or
advances or cash proceeds from transfers of Property, in each case to
the Company or any Subsidiary from such Person plus.
(B) the portion (proportionate to the Company's equity interest in
such Unrestricted Subsidiary) of the Fair Market Value of the net assets
of an Unrestricted Subsidiary at the time such Unrestricted Subsidiary
is designated a Restricted Subsidiary; provided, however, that the
foregoing sum shall not exceed, in the case of any Person, the amount of
Investments previously made (and treated as a Restricted Payment) by the
Company or any Restricted subsidiary in such Person.
Notwithstanding the foregoing limitation, the Company or any
Subsidiary or any Unrestricted Subsidiary may:
(a) pay dividends on Capital Stock of the Company within 60 days of the
declaration thereof if, on said declaration date, such dividends could have
been paid in compliance with the Indenture; provided, however, that at the
time of such payment, no other Default or Event of Default shall have
occurred and be continuing (or result therefrom); provided further,
however, that such payment shall be included in the calculation of the
amount of Restricted Payments;
(b) purchase, repurchase, redeem, legally defease, acquire or retire for
value (i) Capital Stock of the Company or Subordinated Obligations in
exchange for, or out of the proceeds of the substantially concurrent sale
of, Capital Stock of the Company (other than Disqualified Stock and other
than Capital Stock issued or sold to a Subsidiary or an Unrestricted
Subsidiary or an employee stock ownership plan or trust established by the
Company or any such Subsidiary or Unrestricted Subsidiary for the benefit
of their employees) or (ii) trust preferred securities or related
Subordinated Obligations in connection with a remarketing and issuance of
trust preferred securities or related Subordinated Obligations in an
aggregate principal amount not greater than the original trust preferred
securities or related Subordinated Obligations; provided, however, that, in
the case of clause (i) or (ii):
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(1) such purchase, repurchase, redemption, legal defeasance,
acquisition or retirement shall be excluded in the calculation of the
amount of Restricted Payments, and
(2) the Capital Stock Sale Proceeds from such exchange or sale (other
than from the exercise of warrants in connection with a remarketing of
trust preferred securities or related Subordinated Obligations) shall be
excluded from the calculation pursuant to clause (d)(2) above;
(c) purchase, repurchase, redeem, legally defease, acquire or retire for
value any Subordinated Obligations in exchange for, or out of the proceeds
of the substantially concurrent sale of, Permitted Refinancing Debt;
provided, however, that such purchase, repurchase, redemption, legal
defeasance, acquisition or retirement shall be excluded in the calculation
of the amount of Restricted Payments; and
(d) make other Restricted Payments, including Restricted Payments of the
type described in clauses (a), (b) and (c), in an aggregate annual amount
not to exceed $25 million; provided, however, that at the time of such
payment, no other Default or Event of Default shall have occurred and be
continuing (or result therefrom); provided further, however, that such
payment shall be included in the calculation of the amount of Restricted
Payments.
Limitation on Liens. The Company shall not, and shall not permit any
Subsidiary to, directly or indirectly, Incur or suffer to exist, any Lien
(other than Permitted Liens) upon any of its Property (including Capital Stock
of a Subsidiary), whether owned at the Issue Date or thereafter acquired, or
any interest therein or any income or profits therefrom, unless it has made or
will make effective provision whereby the Notes or any applicable Subsidiary
Guaranty will be secured by such Lien equally and ratably with (or prior to)
all other Debt of the Company or any Subsidiary secured by such Lien.
Limitation on Restrictions on Distributions from Subsidiaries. The Company
shall not, and shall not permit any Subsidiary to, directly or indirectly,
create or otherwise cause or suffer to exist any consensual restriction on the
right of any Subsidiary to:
(a) pay dividends, in cash or otherwise, or make any other distributions
on or in respect of its Capital Stock, or pay any Debt or other obligation
owed, to the Company or any other Subsidiary,
(b) make any loans or advances to the Company or any other Subsidiary or
(c) transfer any of its Property to the Company or any other Subsidiary.
The foregoing limitations will not apply:
(1) with respect to clauses (a), (b) and (c), to restrictions:
(A) in effect on the Issue Date,
(B) relating to Debt of a Subsidiary and existing at the time it
became a Subsidiary if such restriction was not created in connection
with or in anticipation of the transaction or series of transactions
pursuant to which such Subsidiary became a Subsidiary or was acquired by
the Company, or
(C) that result from the Refinancing of Debt Incurred pursuant to an
agreement referred to in clause (1)(A) or (B) above or in clause (3)(A)
or (B) below, provided such restriction is no less favorable to the
holders of Notes than those under the agreement evidencing the Debt so
Refinanced, or
(D) imposed or effectively imposed by any governmental agency having
regulatory supervision over Sovereign Bank or any other Subsidiary, or
(E) relating to Debt of a Financial Services Subsidiary Incurred
pursuant to clause (i) of the covenant described under "--Limitation on
Debt",
(2) with respect to clause (a) only, to restrictions relating to any
Qualified Preferred Stock issued after the Issue Date, and
(3) with respect to clause (c) only, to restrictions:
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(A) relating to Debt that is permitted to be Incurred and secured
without also securing the Notes or any applicable Subsidiary Guaranty
pursuant to the covenants described under
"--Limitation on Debt" and "--Limitation on Liens" that limit the right
of the debtor to dispose of the Property securing such Debt,
(B) encumbering Property at the time such Property was acquired by
the Company or any Subsidiary, so long as such restriction relates
solely to the Property so acquired and was not created in connection
with or in anticipation of such acquisition,
(C) resulting from customary provisions restricting subletting or
assignment of leases or customary provisions in other agreements that
restrict assignment of such agreements or rights thereunder, or
(D) customary restrictions contained in asset sale agreements
limiting the transfer of such Property pending the closing of such sale.
Limitation on Transactions with Affiliates. The Company shall not, and
shall not permit any Subsidiary to, directly or indirectly, conduct any
business or enter into or suffer to exist any transaction or series of
transactions (including the purchase, sale, transfer, assignment, lease,
conveyance or exchange of any Property or the rendering of any service) with,
or for the benefit of, any Affiliate of the Company (an "Affiliate
Transaction"), unless:
(a) the terms of such Affiliate Transaction are:
(1) set forth in writing, and
(2) no less favorable to the Company or such Subsidiary, as the case
may be, than those that could be obtained in a comparable arm's-length
transaction with a Person that is not an Affiliate of the Company,
(b) if such Affiliate Transaction involves aggregate payments or value
in excess of $5 million, the Board of Directors (including a majority of
the disinterested members of the Board of Directors) approves such
Affiliate Transaction and, in its good faith judgment, believes that such
Affiliate Transaction complies with clause (a)(2) of this paragraph as
evidenced by a Board Resolution promptly delivered to the Trustee, and
(c) if such Affiliate Transaction involves aggregate payments or value
in excess of $25 million, the Company obtains a written opinion from an
Independent Financial Advisor to the effect that the consideration to be
paid or received in connection with such Affiliate Transaction is fair,
from a financial point of view, to the Company and its Subsidiaries, taken
as a whole.
Notwithstanding the foregoing limitation, the Company or any Subsidiary
may enter into or suffer to exist the following:
(a) any transaction or series of transactions between the Company and
one or more Subsidiaries or between two or more Subsidiaries in the
ordinary course of business, provided that no more than 5% of the total
voting power of the Voting Stock (on a fully diluted basis) of any such
Subsidiary is owned by an Affiliate of the Company (other than a
Subsidiary);
(b) any Restricted Payment permitted to be made pursuant to the covenant
described under
"--Limitation on Restricted Payments" or any Permitted Investment;
(c) the payment of compensation (including amounts paid pursuant to
employee benefit plans) for the personal services of officers, directors
and employees of the Company or any of the Subsidiaries, so long as the
Board of Directors in good faith shall have approved the terms thereof and
deemed the services theretofore or thereafter to be performed for such
compensation to be fair consideration therefor; and
(d) loans and advances to employees made in the ordinary course of
business and consistent with the past practices of the Company or such
Subsidiary, as the case may be, provided that such loans and advances do
not exceed $25 million in the aggregate at any one time outstanding.
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Limitation on Company's Business. The Company shall not, and shall not
permit any Subsidiary, to, directly or indirectly, engage in any business other
than the Banking Business.
Subsidiary Guarantors. The Company shall cause each Material Domestic
Subsidiary to execute and deliver to the Trustee a Subsidiary Guaranty, unless
such Material Domestic Subsidiary is a banking institution, a subsidiary of a
banking institution or a special purpose trust established for the purpose of
issuing trust preferred securities. Notwithstanding the foregoing, any
Subsidiary that enters into a Guarantee or otherwise Incurs Debt under a Credit
Facility, in either case pursuant to clause (e) of the covenant described under
"--Limitation of Debt", shall, at such time, execute and deliver to the Trustee
a Subsidiary Guaranty obligating such Subsidiary under the Indenture and the
Notes to the same extent and for so long as such Subsidiary is so obligated
under such Credit Facility.
Tax Sharing Agreement. The Company shall not, and shall not permit any
Subsidiary to, terminate, amend, modify or waive any provisions of the Tax
Sharing Agreement or enter into any other tax allocation, sharing or similar
agreement; provided, however, that:
(a) any provision of the Tax Sharing Agreement may be terminated,
amended, modified or waived (i) to the extent required by any governmental
agency having regulatory supervision over Sovereign Bank or any other
Subsidiary of the Company or (ii) if such termination, amendment,
modification or waiver does not materially adversely affect the Company,
any Subsidiary Guarantor or their rights, benefits or obligations under the
Tax Sharing Agreement; and
(b) the Company or any Subsidiary may enter into such other tax
agreement with any direct or indirect shareholder of the Company with
respect to consolidated or combined tax returns including the Company or
any of its Subsidiaries or Unrestricted Subsidiaries but only to the extent
that amounts payable from time to time by the Company or any such
Subsidiary under any such agreement do not exceed the corresponding tax
payments that the Company or such Subsidiary would have been required to
make to any relevant taxing authority had the Company or such Subsidiary
not joined in such consolidated or combined returns, but instead had filed
returns including only the Company and its Subsidiaries, provided that such
agreement does not materially adversely affect the Company, any Subsidiary
Guarantor or their rights, benefits or obligations under the Tax Sharing
Agreement as in effect at such time.
Maintenance of Status of Subsidiaries as Insured Depository Institutions;
Capital Maintenance. The Company shall do or cause to be done all things
necessary to preserve and keep in full force and effect the status of each of
its Subsidiaries that is a Depository Institution as an insured depository
institution and do all things necessary to ensure that savings accounts of each
such Subsidiary are insured by the FDIC or any successor organization up to the
maximum amount permitted by 12 U.S.C. Section 1811 et seq. and the regulations
thereunder or any succeeding federal law, except as to individual accounts or
interests in employee benefit plans that are not entitled to "pass-through"
insurance under 12 U.S.C. Section 1812(a)(1)(D).
The Company shall cause Sovereign Bank to maintain or exceed the status of
a "well capitalized" institution as defined in the FDIA and OTS regulations.
Designation of Restricted and Unrestricted Subsidiaries. For purposes of
this "Description of Notes", the term "Subsidiary" has the same meaning as
"Restricted Subsidiary", except for below and in a few related provisions where
the term "Restricted Subsidiary" is used. The Board of Directors may designate
any Subsidiary of the Company to be an Unrestricted Subsidiary if:
(a) the Subsidiary to be so designated does not own any Capital Stock or
Debt of, or own or hold any Lien on any Property of, the Company or any
other Restricted Subsidiary, and
(b) either:
(1) the Subsidiary to be so designated has total assets of $1,000 or
less, or
(2) such designation is effective immediately upon such entity
becoming a Subsidiary of the Company.
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Unless so designated as an Unrestricted Subsidiary, any Person that becomes a
Subsidiary of the Company will be classified as a Restricted Subsidiary;
provided, however, that such Subsidiary shall not be designated a Restricted
Subsidiary and shall be automatically classified as an Unrestricted Subsidiary
if either of the requirements set forth in clauses (x) and (y) of the second
immediately following paragraph will not be satisfied after giving pro forma
effect to such classification or if such Person is a Subsidiary of an
Unrestricted Subsidiary.
Except as provided in the first sentence of the preceding paragraph, no
Restricted Subsidiary may be redesignated as an Unrestricted Subsidiary. In
addition, neither the Company nor any Restricted Subsidiary shall at any time
be directly or indirectly liable for any Debt that provides that the holder
thereof may (with the passage of time or notice or both) declare a default
thereon or cause the payment thereof to be accelerated or payable prior to its
Stated Maturity upon the occurrence of a default with respect to any Debt, Lien
or other obligation of any Unrestricted Subsidiary (including any right to take
enforcement action against such Unrestricted Subsidiary). Upon designation of a
Restricted Subsidiary as an Unrestricted Subsidiary in compliance with this
covenant, such Restricted Subsidiary shall, by execution and delivery of a
supplemental indenture in form satisfactory to the Trustee, be released from
any Subsidiary Guarantly previously made by such Restricted Subsidiary.
The Board of Directors may designate any Unrestricted Subsidiary to be a
Restricted Subsidiary if, immediately after giving pro forma effect to such
designation,
(x) the Company could Incur at least $1.00 of additional Debt
pursuant to both clauses (c) and (d) of the covenant described under
"--Limitation on Debt", and
(y) no Default or Event of Defa;ult shall have occurred and be
continuing or would result therefrom.
Any such designation or redesignation by the Board of Directors will be
evidenced to the Trustee by filing with the Trustee a Board Resolution giving
effect to such designation or redesignation and an Officers' Certificate that:
(a) certifies that such designation or redesignation complies with
the foregoing provisions, and
(b) gives the effective date of such designation or redesignation,
such filing with the Trustee to occur within 45 days after the end of
the fiscal quarter of the Company in which such designation or
redesignation is made (or, in the case of a designation or redesignation
made during the last fiscal quarter of the Company's fiscal year, within
90 days after the end of such fiscal year).
Subsidiary Guaranties
The obligations of the Company under the Indenture, including the
repurchase obligation resulting from a Change of Control, will be fully and
unconditionally guaranteed, jointly and severally, on a senior, unsecured
basis, by any future Material Domestic Subsidiaries of the Company that are not
banking institutions, or subsidiaries thereof, or special purpose trusts
established for the purpose of issuing trust securities.
Neither Sovereign Bank nor any of the Company's other existing
subsidiaries will be Subsidiary Guarantors. All the present operations of the
Company are conducted through Sovereign Bank and other subsidiaries, and
Sovereign Bank and such subsidiaries hold, at present, virtually all the
Company's consolidated assets.
If the Company sells or otherwise disposes of either:
(1) its ownership interest in any Subsidiary Guarantor, or
(2) all or substantially all the assets of any Subsidiary Guarantor,
such Subsidiary Guarantor would be released from all its obligations under its
Subsidiary Guaranty.
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In addition, if the Company redesignates a Subsidiary Guarantor as an
Unrestricted Subsidiary, which the Company can do under certain circumstances,
the redesignated Subsidiary Guarantor will be released from all its obligations
under its Subsidiary Guaranty. See "--Certain Covenants--Designation of
Restricted and Unrestricted Subsidiaries" and "--Merger, Consolidation and Sale
of Property".
If any Subsidiary Guarantor makes payments under its Subsidiary Guaranty,
each of the Company and the other Subsidiary Guarantors, if any, must
contribute their share of such payments. The Company's and the other Subsidiary
Guarantors' shares of such payment will be computed based on the proportion
that the net worth of the Company or the relevant Subsidiary Guarantor
represents relative to the aggregate net worth of the Company and all the
Subsidiary Guarantors combined.
Merger, Consolidation and Sale of Property
The Company shall not merge, consolidate or amalgamate with or into any
other Person (other than a merger of a Wholly Owned Subsidiary into the
Company) or sell, transfer, assign, lease, convey or otherwise dispose of all
or substantially all its Property in any one transaction or series of
transactions unless:
(a) the Company shall be the surviving Person (the "Surviving Person")
or the Surviving Person (if other than the Company) formed by such merger,
consolidation or amalgamation or to which such sale, transfer, assignment,
lease, conveyance or disposition is made shall be a corporation organized
and existing under the laws of the United States of America, any State
thereof or the District of Columbia;
(b) the Surviving Person (if other than the Company) expressly assumes,
by supplemental indenture in form satisfactory to the Trustee, executed and
delivered to the Trustee by such Surviving Person, the due and punctual
payment of the principal of, and premium, if any, and interest on, all the
Notes, according to their tenor, and the due and punctual performance and
observance of all the covenants and conditions of the Indenture to be
performed by the Company;
(c) in the case of a sale, transfer, assignment, lease, conveyance or
other disposition of all or substantially all the Property of the Company,
such Property shall have been transferred as an entirety or virtually as an
entirety to one Person;
(d) immediately before and after giving effect to such transaction or
series of transactions on a pro forma basis (and treating, for purposes of
this clause (d) and clauses (e) and (f) below, any Debt that becomes, or is
anticipated to become, an obligation of the Surviving Person or any
Subsidiary as a result of such transaction or series of transactions as
having been Incurred by the Surviving Person or such Subsidiary at the time
of such transaction or series of transactions), no Default or Event of
Default shall have occurred and be continuing;
(e) immediately after giving effect to such transaction or series of
transactions on a pro forma basis, the Company or the Surviving Person, as
the case may be, would be able to Incur at least $1.00 of additional Debt
under both clauses (c) and (d) of the covenant described under "--Certain
Covenants--
Limitation on Debt";
(f) immediately after giving effect to such transaction or series of
transactions on a pro forma basis, the Surviving Person shall have an
Adjusted Consolidated Net Worth in an amount which is not less than the
Adjusted Consolidated Net Worth of the Company immediately prior to such
transaction or series of transactions;
(g) the Company shall deliver, or cause to be delivered, to the Trustee,
in form and substance reasonably satisfactory to the Trustee, an Officers'
Certificate and an Opinion of Counsel, each stating that such transaction
and the supplemental indenture, if any, in respect thereto comply with this
covenant and that all conditions precedent herein provided for relating to
such transaction have been satisfied; and
(h) the Surviving Person shall have delivered to the Trustee an Opinion
of Counsel to the effect that the holders will not recognize income, gain
or loss for Federal income tax purposes as a result of such transaction or
series of transactions and will be subject to Federal income tax on the
same amounts and at the same times as would be the case if the transaction
or series of transactions had not occurred.
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The Company shall not permit Sovereign Bank, or any of its Subsidiaries,
or any Subsidiary Guarantor (each a "Specified Party") to merge, consolidate or
amalgamate with or into any other Person (other than a merger of a Wholly Owned
Subsidiary into such Specified Party) or sell, transfer, assign, lease, convey
or otherwise dispose of all or substantially all its Property in any one
transaction or series of transactions unless:
(a) the Surviving Person (if not such Specified Party) formed by such
merger, consolidation or amalgamation or to which such sale, transfer,
assignment, lease, conveyance or disposition is made shall be a corporation
organized and existing under the laws of the United States of America, any
State thereof or the District of Columbia;
(b) solely in the case of such a transaction involving a Subsidiary
Guarantor, the Surviving Person (if other than such Subsidiary Guarantor)
expressly assumes, by Subsidiary Guaranty in form satisfactory to the
Trustee, executed and delivered to the Trustee by such Surviving Person,
the due and punctual performance and observance of all the obligations of
such Subsidiary Guarantor under its Subsidiary Guaranty;
(c) in the case of a sale, transfer, assignment, lease, conveyance or
other disposition of all or substantially all the Property of such
Specified Party, such Property shall have been transferred as an entirety
or virtually as an entirety to one Person;
(d) immediately before and after giving effect to such transaction or
series of transactions on a pro forma basis (and treating, for purposes of
this clause (d) and clauses (e) and (f) below, any Debt that becomes, or is
anticipated to become, an obligation of the Surviving Person, the Company
or any Subsidiary as a result of such transaction or series of transactions
as having been Incurred by the Surviving Person, the Company or such
Subsidiary at the time of such transaction or series of transactions), no
Default or Event of Default shall have occurred and be continuing;
(e) immediately after giving effect to such transaction or series of
transactions on a pro forma basis, the Company would be able to Incur at
least $1.00 of additional Debt under both clauses (c) and (d) of the
covenant described under "--Certain Covenants--Limitation on Debt";
(f) immediately after giving effect to such transaction or series of
transactions on a pro forma basis, the Company shall have an Adjusted
Consolidated Net Worth in an amount which is not less than the Adjusted
Consolidated Net Worth of the Company immediately prior to such transaction
or series of transactions; and
(g) the Company shall deliver, or cause to be delivered, to the Trustee,
in form and substance reasonably satisfactory to the Trustee, an Officers'
Certificate and an Opinion of Counsel, each stating that such transaction
and such Subsidiary Guaranty, if any, in respect thereto comply with this
covenant and that all conditions precedent herein provided for relating to
such transaction have been satisfied.
The Surviving Person shall succeed to, and be substituted for, and may
exercise every right and power of the Company under the Indenture (or of the
Subsidiary Guarantor under the Subsidiary Guaranty, as the case may be), but
the predecessor Company in the case of:
(a) a sale, transfer, assignment, conveyance or other disposition
(unless such sale, transfer, assignment, conveyance or other disposition is
of all the assets of the Company as an entirety or virtually as an
entirety), or
(b) a lease,
shall not be released from any of the obligations or covenants under the
Indenture, including with respect to the payment of the Notes.
SEC Reports
Notwithstanding that the Company may not be subject to the reporting
requirements of Section 13 or 15(d) of the Exchange Act, the Company shall file
with the Commission and provide the Trustee and holders of Notes with such
annual reports and such information, documents and other reports as are
specified in
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Sections 13 and 15(d) of the Exchange Act and applicable to a U.S. corporation
subject to such Sections, such information, documents and reports to be so
filed and provided at the times specified for the filing of such information,
documents and reports under such Sections; provided, however, that the Company
shall not be so obligated to file such information, documents and reports with
the Commission if the Commission does not permit such filings.
Events of Default
Events of Default in respect of the Notes include:
(1) failure to make the payment of any interest on the Notes when the
same becomes due and payable, and such failure continues for a period of 30
days;
(2) failure to make the payment of any principal of, or premium, if any,
on, any of the Notes when the same becomes due and payable at its Stated
Maturity, upon acceleration, mandatory redemption, optional redemption,
required repurchase or otherwise;
(3) failure to comply with the covenant described under "--Merger,
Consolidation and Sale of Property" or with any covenant or agreement in
the Pledge and Escrow Agreement;
(4) failure to comply with any other covenant or agreement in the Notes
or in the Indenture (other than a failure that is the subject of the
foregoing clause (1), (2) or (3)) and such failure continues for 30 days
after written notice is given to the Company as provided below;
(5) a default under any Debt by the Company or any Subsidiary that
results in acceleration of the maturity of such Debt, or failure to pay any
such Debt at maturity, in an aggregate amount greater than $25.0 million or
its foreign currency equivalent at the time (the "cross acceleration
provisions");
(6) any judgment or judgments for the payment of money in an aggregate
amount in excess of
$50.0 million (or its foreign currency equivalent at the time) that shall
be rendered against the Company or any Subsidiary and that shall not be
waived, satisfied or discharged for any period of 45 consecutive days
during which a stay of enforcement shall not be in effect (the "judgment
default provisions");
(7) certain events involving bankruptcy, insolvency or reorganization of
the Company or any Significant Subsidiary (the "bankruptcy provisions");
(8) any Subsidiary Guaranty ceases to be in full force and effect (other
than in accordance with the terms of such Subsidiary Guaranty) or any
Subsidiary Guarantor denies or disaffirms its obligations under its
Subsidiary Guaranty (the "guaranty provisions"); and
(9) failure of the Company or its Wholly Owned Subsidiaries to own 100%
of the Voting Stock or common stock (or Capital Stock convertible into
Voting Stock or common stock) of Sovereign Bank ("the ownership
provisions").
A Default under clause (4) is not an Event of Default until the Trustee or
the holders of not less than 25% in aggregate principal amount of the Notes
then outstanding notify the Company of the Default and the Company does not
cure such Default within the time specified after receipt of such notice. Such
notice must specify the Default, demand that it be remedied and state that such
notice is a "Notice of Default".
The Company shall deliver to the Trustee, within 30 days after the
occurrence thereof, written notice in the form of an Officers' Certificate of
any event that with the giving of notice and the lapse of time would become an
Event of Default, its status and what action the Company is taking or proposes
to take with respect thereto.
If an Event of Default with respect to the Notes (other than an Event of
Default resulting from certain events involving bankruptcy, insolvency or
reorganization with respect to the Company) shall have occurred and be
continuing, the Trustee or the registered holders of not less than 25% in
aggregate principal amount of the Notes then outstanding may declare to be
immediately due and payable the principal amount of all the Notes then
outstanding, plus accrued but unpaid interest to the date of acceleration. In
case an Event of Default resulting from certain events of bankruptcy,
insolvency or reorganization with respect to the Company
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shall occur, such amount with respect to all the Notes shall be due and payable
immediately without any declaration or other act on the part of the Trustee or
the holders of the Notes. After any such acceleration, but before a judgment or
decree based on acceleration is obtained by the Trustee, the registered holders
of a majority in aggregate principal amount of the Notes then outstanding may,
under certain circumstances, rescind and annul such acceleration if all Events
of Default, other than the nonpayment of accelerated principal, premium or
interest, have been cured or waived as provided in the Indenture.
Subject to the provisions of the Indenture relating to the duties of the
Trustee, in case an Event of Default shall occur and be continuing, the Trustee
will be under no obligation to exercise any of its rights or powers under the
Indenture at the request or direction of any of the holders of the Notes,
unless such holders shall have offered to the Trustee reasonable indemnity.
Subject to such provisions for the indemnification of the Trustee, the holders
of a majority in aggregate principal amount of the Notes then outstanding will
have the right to direct the time, method and place of conducting any
proceeding for any remedy available to the Trustee or exercising any trust or
power conferred on the Trustee with respect to the Notes.
No holder of Notes will have any right to institute any proceeding with
respect to the Indenture, or for the appointment of a receiver or trustee, or
for any remedy thereunder, unless:
(a) such holder has previously given to the Trustee written notice of a
continuing Event of Default,
(b) the registered holders of at least 25% in aggregate principal amount
of the Notes then outstanding have made written request and offered
reasonable indemnity to the Trustee to institute such proceeding as
trustee, and
(c) the Trustee shall not have received from the registered holders of a
majority in aggregate principal amount of the Notes then outstanding a
direction inconsistent with such request and shall have failed to institute
such proceeding within 60 days.
However, such limitations do not apply to a suit instituted by a holder of
any Note for enforcement of payment of the principal of, and premium, if any,
or interest on, such Note on or after the respective due dates expressed in
such Note.
Amendments and Waivers
Subject to certain exceptions, the Indenture may be amended with the
consent of the registered holders of a majority in aggregate principal amount
of the Notes then outstanding (including consents obtained in connection with a
tender offer or exchange offer for the Notes) and any past default or
compliance with any provisions may also be waived (except a default in the
payment of principal, premium or interest and certain covenants and provisions
of the Indenture which cannot be amended without the consent of each holder of
an outstanding Note) with the consent of the registered holders of at least a
majority in aggregate principal amount of the Notes then outstanding. However,
without the consent of each holder of an outstanding Note, no amendment may,
among other things,
(1) reduce the amount of Notes whose holders must consent to an
amendment or waiver,
(2) reduce the rate of or extend the time for payment of interest on any
Note,
(3) reduce the principal of or extend the Stated Maturity of any Note,
(4) make any Note payable in money other than that stated in the Note,
(5) impair the right of any holder of the Notes to receive payment of
principal of and interest on such holder's Notes on or after the due dates
therefor or to institute suit for the enforcement of any payment on or with
respect to such holder's Notes or any Subsidiary Guaranty,
(6) subordinate the Notes or any Subsidiary Guaranty to any other
obligation of the Company or the applicable Subsidiary Guarantor,
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(7) release any security interest that may have been granted in favor of
the holders of the Notes other than pursuant to the terms of such security
interest, including the security interest under the Pledge and Escrow
Agreement described in "--Escrow of Proceeds; Special Mandatory
Redemption",
(8) reduce the premium payable upon the redemption of any Note as
described under "--Optional Redemption",
(9) reduce the premium payable upon a Special Mandatory Redemption or
make any other change in the provisions relating to the Special Mandatory
Redemption, including changing the time by which Notes must be redeemed,
(10) reduce the premium payable upon a Change of Control or, at any time
after a Change of Control has occurred, change the time at which the Change
of Control Offer relating thereto must be made or at which the Notes must
be repurchased pursuant to such Change of Control Offer,
(11) make any change in the Pledge and Escrow Agreement that would
adversely affect the holders of the Notes, or
(12) make any change in any Subsidiary Guaranty that would adversely
affect the holders of the Notes.
Without the consent of any holder of the Notes, the Company and the
Trustee may amend the Indenture to:
o cure any ambiguity, omission, defect or inconsistency, to provide for
the assumption by a successor corporation of the obligations of the Company
under the Indenture,
o provide for uncertificated Notes in addition to or in place of
certificated Notes (provided that the uncertificated Notes are issued in
registered form for purposes of Section 163(f) of the Code, or in a manner
such that the uncertificated Notes are described in Section 163(f)(2)(B) of
the Code),
o add additional Guarantees with respect to the Notes or to release
Subsidiary Guarantors from Subsidiary Guaranties as provided by the terms
of the Indenture,
<PAGE>
o secure the Notes or add to the covenants of the Company for the
benefit of the holders of the Notes or to surrender any right or power
conferred upon the Company,
o make any change that does not adversely affect the rights of any
holder of the Notes or to comply with any requirement of the Commission in
connection with the qualification of the Indenture under the Trust
Indenture Act, and
o provide for the issuance of additional Notes in accordance with the
Indenture.
The consent of the holders of the Notes is not necessary to approve the
particular form of any proposed amendment. It is sufficient if such consent
approves the substance of the proposed amendment. After an amendment becomes
effective, the Company is required to mail to each registered holder of the
Notes at such holder's address appearing in the Security Register a notice
briefly describing such amendment. However, the failure to give such notice to
all holders of the Notes, or any defect therein, will not impair or affect the
validity of the amendment.
Defeasance
The Company at any time may terminate all its obligations under the Notes
and the Indenture ("legal defeasance"), except for certain obligations,
including those respecting the defeasance trust and obligations to register the
transfer or exchange of the Notes, to replace mutilated, destroyed, lost or
stolen Notes and to maintain a registrar and paying agent in respect of the
Notes. The Company at any time may terminate:
(1) its obligations under the covenants described under "--Repurchase at
the Option of Holders Upon a Change of Control" and "--Certain Covenants",
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(2) the operation of the cross acceleration provisions, the judgment
default provisions, the bankruptcy provisions with respect to Significant
Subsidiaries, the guaranty provisions and the ownership provisions
described under "--Events of Default" above, and
(3) the limitations contained in clauses (e) and (f) under the first
paragraph of, and in the second paragraph of, "--Merger, Consolidation and
Sale of Property" above ("covenant defeasance").
The Company may exercise its legal defeasance option notwithstanding its prior
exercise of its covenant defeasance option.
If the Company exercises its legal defeasance option, payment of the Notes
may not be accelerated because of an Event of Default with respect thereto. If
the Company exercises its covenant defeasance option, payment of the Notes may
not be accelerated because of an Event of Default specified in clause (4) (with
respect to the covenants described under "--Certain Covenants"), (5), (6), (7)
(with respect only to Significant Subsidiaries), (8) or (9) under "--Events of
Default" above or because of the failure of the Company to comply with clauses
(e) and (f) under the first paragraph of, or with the second paragraph of,
"--Merger, Consolidation and Sale of Property" above. If the Company exercises
its legal defeasance option or its covenant defeasance option, each Subsidiary
Guarantor will be released from all its obligations under its Subsidiary
Guaranty.
The legal defeasance option or the covenant defeasance option may be
exercised only if:
(a) the Company irrevocably deposits in trust with the Trustee money or
U.S. Government Obligations for the payment of principal of and interest on
the Notes to maturity or redemption, as the case may be;
(b) the Company delivers to the Trustee a certificate from a nationally
recognized firm of independent certified public accountants expressing
their opinion that the payments of principal and interest when due and
without reinvestment on the deposited U.S. Government Obligations plus any
deposited money without investment will provide cash at such times and in
such amounts as will be sufficient to pay principal and interest when due
on all the Notes to maturity or redemption, as the case may be;
(c) 123 days pass after the deposit is made and during the 123-day
period no Default described in clause (7) under "--Events of Default"
occurs with respect to the Company or any other Person making such deposit
which is continuing at the end of the period;
(d) no Default or Event of Default has occurred and is continuing on the
date of such deposit and after giving effect thereto;
(e) such deposit does not constitute a default under any other agreement
or instrument binding on the Company;
(f) the Company delivers to the Trustee an Opinion of Counsel to the
effect that the trust resulting from the deposit does not constitute, or is
qualified as, a regulated investment company under the Investment Company
Act of 1940;
(g) in the case of the legal defeasance option, the Company delivers to
the Trustee an Opinion of Counsel stating that:
(1) the Company has received from the Internal Revenue Service a
ruling, or
(2) since the date of the Indenture there has been a change in the
applicable Federal income tax law, to the effect, in either case, that,
and based thereon such Opinion of Counsel shall confirm that, the
holders of the Notes will not recognize income, gain or loss for Federal
income tax purposes as a result of such defeasance and will be subject
to Federal income tax on the same amounts, in the same manner and at the
same time as would have been the case if such defeasance has not
occurred;
(h) in the case of the covenant defeasance option, the Company delivers
to the Trustee an Opinion of Counsel to the effect that the holders of the
Notes will not recognize income, gain or loss for Federal income tax
purposes as a result of such covenant defeasance and will be subject to
Federal income tax on the same amounts, in the same manner and at the same
times as would have been the case if such covenant defeasance had not
occurred; and
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(i) the Company delivers to the Trustee an Officers' Certificate and an
Opinion of Counsel, each stating that all conditions precedent to the
defeasance and discharge of the Notes have been complied with as required
by the Indenture.
Governing Law
The Indenture, the Notes and the Pledge and Escrow Agreement are governed
by the internal laws of the State of New York without reference to principles
of conflicts of law.
The Trustee
Harris Trust and Savings Bank is the Trustee under the Indenture, and will
also be the Escrow Agent under the Pledge and Escrow Agreement.
Except during the continuance of an Event of Default, the Trustee will
perform only such duties as are specifically set forth in the Indenture. During
the existence of an Event of Default, the Trustee will exercise such of the
rights and powers vested in it under the Indenture and use the same degree of
care and skill in its exercise as a prudent person would exercise under the
circumstances in the conduct of such person's own affairs.
The Trustee serves as trustee under indentures for other debt of the
Company and as Rights Agent under the Company's Rights Agreement, described in
the prospectus in "Description of Capital Securities-- Shareholder Rights
Plan".
Certain Definitions
Set forth below is a summary of certain of the defined terms used in the
Indenture. Reference is made to the Indenture for the full definition of all
such terms as well as any other capitalized terms used herein for which no
definition is provided. Unless the context otherwise requires, an accounting
term not otherwise defined has the meaning assigned to it in accordance with
GAAP.
"Adjusted Consolidated Net Worth" means, as of any date of determination,
the Consolidated Net Worth of the Company as of the end of the most recent
fiscal quarter of the Company ending at least 45 days prior to such date of
determination; provided, however, that pro forma effect shall be given (x) to
any of the following that shall have occurred since the end of the relevant
fiscal quarter or that shall occur simultaneously with or immediately following
the transaction giving rise to the need to calculate Adjusted Consolidated Net
Worth and (y) to the use of any proceeds of such transaction to effect any of
the following (in each case without duplication and as if the following had
occurred on the last day of such fiscal quarter):
(a) issuances and sales of Capital Stock by the Company or any
Subsidiary,
(b) Investments in (by merger or otherwise) or acquisitions of any
Subsidiary or any Person that becomes a Subsidiary as a result of such
Investment or acquisition or in Property which constitutes all or
substantially all of an operating unit of a business,
(c) Restricted Payments and Permitted Investments, and
(d) Asset Sales.
"Affiliate" of any specified Person means:
(a) any other Person directly or indirectly controlling or controlled by
or under direct or indirect common control with such specified Person, or
(b) any other Person who is a director or executive officer of:
(1) such specified Person,
(2) any Subsidiary (or in the case of the Company, any Subsidiary or
Unrestricted Subsidiary) of such specified Person, or
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(3) any Person described in clause (a) above.
For the purposes of this definition, "control" when used with respect to any
Person means the power to direct the management and policies of such Person,
directly or indirectly, whether through the ownership of voting securities, by
contract or otherwise; and the terms "controlling" and "controlled" have
meanings correlative to the foregoing. For purposes of the covenant described
under "--Certain Covenants--Limitation on Transactions with Affiliates",
"Affiliate" shall also mean any beneficial owner of shares representing 5% or
more of the total voting power of the Voting Stock (on a fully diluted basis)
of the Company or of rights or warrants to purchase such Voting Stock (whether
or not currently exercisable) and any Person who would be an Affiliate of any
such beneficial owner pursuant to the first sentence hereof.
"Asset Sale" means any sale, lease, transfer, issuance or other
disposition (or series of related sales, leases, transfers, issuances or
dispositions) in excess of $5 million taken individually (or with respect to a
series of related transactions taken as a whole) by the Company or any
Subsidiary, including any disposition by means of a merger, consolidation or
similar transaction, of:
(a) any shares of Capital Stock of a Subsidiary (other than directors'
qualifying shares), or
(b) any other assets of the Company or any Subsidiary outside of the
ordinary course of business of the Company or such Subsidiary.
"Attributable Debt" in respect of a Sale and Leaseback Transaction means,
at any date of determination,
(a) if such Sale and Leaseback Transaction is a Capital Lease
Obligation, the amount of Debt represented thereby according to the
definition of "Capital Lease Obligation", and
(b) in all other instances, the greater of:
(1) the Fair Market Value of the Property subject to such Sale and
Leaseback Transaction, and
(2) the present value (discounted at the interest rate borne by the
Notes, compounded annually) of the total obligations of the lessee for
rental payments during the remaining term of the lease included in such
Sale and Leaseback Transaction (including any period for which such
lease has been extended).
"Average Life" means, as of any date of determination, with respect to any
Debt or Preferred Stock, the quotient obtained by dividing:
(a) the sum of the product of the numbers of years (rounded to the
nearest one-twelfth of one year) from the date of determination to the
dates of each successive scheduled principal payment of such Debt or
redemption or similar payment with respect to such Preferred Stock
multiplied by the amount of such payment by
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(b) the sum of all such payments.
"Banking Business" means (i) owning the Capital Stock of Sovereign Bank,
(ii) engaging in, or owning the Capital Stock of any other Subsidiaries or
Unrestricted Subsidiaries engaged in, activities permissible for subsidiaries
of a bank holding company or a savings and loan holding company under federal
and state law at the time then applicable to the Company, its Subsidiaries and
Unrestricted Subsidiaries and (iii) the holding of Permitted Investments.
"Capital Lease Obligations" means any obligation under a lease that is
required to be capitalized for financial reporting purposes in accordance with
GAAP; and the amount of Debt represented by such obligation shall be the
capitalized amount of such obligations determined in accordance with GAAP; and
the Stated Maturity thereof shall be the date of the last payment of rent or
any other amount due under such lease prior to the first date upon which such
lease may be terminated by the lessee without payment of a penalty. For
purposes of "--Certain Covenants--Limitation on Liens", a Capital Lease
Obligation shall be deemed secured by a Lien on the Property being leased.
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"Capital Stock" means, with respect to any Person, any shares or other
equivalents (however designated) of any class of corporate stock or partnership
interests or any other participations, rights, warrants, options or other
interests in the nature of an equity interest in such Person, including
Preferred Stock, but excluding any debt security convertible or exchangeable
into such equity interest.
"Capital Stock Sale Proceeds" means the aggregate cash proceeds received
by the Company from the issuance or sale (other than to a Subsidiary or
Unrestricted Subsidiary or an employee stock ownership plan or trust
established by the Company or any such Subsidiary or any such Unrestricted
Subsidiary for the benefit of their employees) by the Company of its Capital
Stock (other than Disqualified Stock and other than the common stock and trust
preferred securities specifically described under "Summary--New England
Acquisition--Financing," as the current financing plan for the New England
acquisition, but including consideration received in connection with the
exercise of warrants issued in connection with the New England acquisition)
after the Issue Date, net of attorneys' fees, accountants' fees, underwriters'
or placement agents' fees, discounts or commissions and brokerage, consultant
and other fees actually incurred in connection with such issuance or sale and
net of taxes paid or payable as a result thereof.
"Change of Control" means the occurrence of any of the following events:
(a) if any "person" or "group" (as such terms are used in Sections 13(d)
and 14(d) of the Exchange Act or any successor provisions to either of the
foregoing), including any group acting for the purpose of acquiring,
holding, voting or disposing of securities within the meaning of Rule
13d-5(b)(1) under the Exchange Act, becomes the "beneficial owner" (as
defined in Rule 13d-3 under the Exchange Act, except that a person will be
deemed to have "beneficial ownership" of all shares that any such person
has the right to acquire, whether such right is exercisable immediately or
only after the passage of time), directly or indirectly, of 50% or more of
the total voting power of the Voting Stock of the Company (for purposes of
this clause (a), such person or group shall be deemed to beneficially own
any Voting Stock of a corporation held by any other corporation (the
"parent corporation") so long as such person or group beneficially owns,
directly or indirectly, in the aggregate a majority of the total voting
power of the Voting Stock of such parent corporation); or
(b) during any period of two consecutive years, individuals who at the
beginning of such period constituted the Board of Directors (together with
any new directors whose election or appointment by such Board or whose
nomination for election by the shareholders of the Company was approved by
a vote of not less than two-thirds of the directors then still in office
who were either directors at the beginning of such period or whose election
or nomination for election was previously so approved) cease for any reason
to constitute a majority of the Board of Directors then in office; or
(c) the shareholders of the Company shall have approved any plan of
liquidation or dissolution of the Company; or
(d) a sale, transfer, assignment, lease, conveyance or other
disposition, directly or indirectly (other than to the Company or any
Wholly Owned Subsidiary) in any one transaction or series of transactions,
in either case occurring outside the ordinary course of business, of more
than 75% of the assets or 75% of the deposit liabilities of Sovereign Bank
shown on the consolidated balance sheet of Sovereign Bank as of the end of
the most recent fiscal quarter ending at least 45 days prior to such
transaction (or the first transaction in any such series of transactions);
provided, however, that for purposes of this clause (d) if the Company at
any time holds any assets other than (1) the Capital Stock of Sovereign
Bank and (2) Temporary Cash Investments, such other assets shall be deemed
to be assets of Sovereign Bank and to have been reflected on such
consolidated balance sheet; provided, further, that a pledge by the Company
of the shares of Sovereign Bank owned by the Company to secure Debt
Incurred under any Credit Facility or Debt existing on the date hereof
requiring security on a basis pari passu with any Credit Facility will not,
absent any action to realize such pledge, constitute a Change of Control,
provided such pledge and Incurrence is otherwise in accordance with the
covenants described under "--Certain Covenants--Limitation on Debt" and
"--Limitation on Liens".
"Code" means the Internal Revenue Code of 1986, as amended.
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"Commodity Price Protection Agreement" means, in respect of a Person, any
forward contract, commodity swap agreement, commodity option agreement or other
similar agreement or arrangement designed to protect such Person against
fluctuations in commodity prices.
"Consolidated Common Shareholders' Tangible Equity" means, as of any date
of determination, the total amount shown for shareholders' tangible equity
determined pursuant to Office of Thrift Supervision guidelines and any
successor requirements thereto on a consolidated balance sheet of Sovereign
Bank and its Subsidiaries as at such date, less any amounts included therein
attributable to, without duplication, Preferred Stock held by Persons other
than the Company and its Subsidiaries.
"Consolidated Interest Coverage Ratio" means, as of any date of
determination, the ratio of:
(a) the aggregate amount of Earnings Available for Fixed Charges for the
most recent four consecutive fiscal quarters ending at least 45 days prior
to such determination date to
(b) Consolidated Interest Expense that is anticipated to accrue during a
period consisting of the fiscal quarter in which such determination date
occurs and the three fiscal quarters immediately subsequent thereto (based
upon the pro forma amount and maturity of, and interest payments in respect
of, Debt of the Company and the Subsidiaries expected by the Company to be
outstanding on such determination date), assuming for the purposes of this
measurement the continuation of market interest rates prevailing on such
determination date and base interest rates in respect of floating interest
rate obligations equal to the base interest rates on such obligations in
effect as of such determination date, provided that, if the Company or any
of the Subsidiaries is a party to any Interest Rate Agreement that would
have the effect of changing the interest rate on any Debt of the Company or
any of the Subsidiaries for such four-quarter period (or a portion
thereof), the rate resulting therefrom shall be used for such four-quarter
period or portion thereof, provided further that any Consolidated Interest
Expense with respect to Debt so Incurred or Repaid by the Company or any
Subsidiary during the fiscal quarter in which such determination date
occurs shall be calculated on a pro forma basis as if such Debt was
Incurred or Repaid on the first day of such fiscal quarter.
In addition, pro forma effect shall be given to any of the following that shall
have occurred since the beginning of the four quarter historical period so
preceding such determination date, or that shall occur simultaneously with or
immediately following the determination date, as if the following had occurred
on the first day of such period: (i) Investments in (by merger or otherwise) or
acquisitions of any Subsidiary or any Person that becomes a Subsidiary as a
result of such Investment or acquisition or in Property which constitutes all
or substantially all of an operating unit of a business and (ii) Asset Sales.
"Consolidated Interest Expense" means, for any period, the total interest
expense of the Company and its consolidated Subsidiaries, plus, to the extent
not included in such total interest expense, and to the extent Incurred by the
Company or its Subsidiaries,
(a) interest expense attributable to leases constituting part of a Sale
and Leaseback Transaction and to Capital Lease Obligations,
(b) amortization of debt discount and debt issuance cost, including
commitment fees,
(c) capitalized interest,
(d) non-cash interest expense,
(e) commissions, discounts and other fees and charges owed with respect
to letters of credit and bankers' acceptance financing,
(f) net costs associated with Hedging Obligations (including
amortization of fees),
(g) Disqualified Stock Dividends,
(h) Preferred Stock Dividends,
(i) interest Incurred in connection with Investments in discontinued
operations,
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(j) interest accruing on any Debt of any other Person to the extent such
Debt is Guaranteed by the Company or any Subsidiary, and
(k) the cash contributions to any employee stock ownership plan or
similar trust to the extent such contributions are used by such plan or
trust to pay interest or fees to any Person (other than the Company) in
connection with Debt Incurred by such plan or trust.
Notwithstanding the foregoing, interest expense or other amounts Incurred
in the ordinary course of business by banking institutions or Financial
Services Subsidiaries shall not be included as part of Consolidated Interest
Expense.
"Consolidated Net Income" means, for any period, the net income (loss) of
the Company and its consolidated Subsidiaries and Unrestricted Subsidiaries,
less, without duplication, the amounts of Preferred Stock Dividends declared or
accrued during such period in respect of any Preferred Stock of Subsidiaries
and Unrestricted Subsidiaries held by Persons other than the Company and its
Wholly Owned Subsidiaries (to the extent not already deducted from Consolidated
Net Income); provided, however, that there shall not be included in such
Consolidated Net Income:
(a) any net income (loss) of any Person (other than the Company) if such
Person is not a Subsidiary, except that:
(1) subject to the exclusion contained in clause (d) below, the
Company's equity in the net income of any such Person for such period
shall be included in such Consolidated Net Income up to the aggregate
amount of cash distributed by such Person during such period to the
Company or a Subsidiary as a dividend or other distribution (subject, in
the case of a dividend or other distribution to a Subsidiary, to the
limitations contained in clause (c) below), and
(2) the Company's equity in a net loss of any such Person other than
an Unrestricted Subsidiary for such period shall be included in
determining such Consolidated Net Income,
(b) for purposes of the covenant described under "--Certain
Covenants--Limitation on Restricted Payments" only, any net income (loss)
of any Person acquired by the Company or any of its consolidated
Subsidiaries and Unrestricted Subsidiaries in a pooling of interests
transaction for any period prior to the date of such acquisition,
(c) any net income of any Subsidiary if such Subsidiary is subject to
restrictions, directly or indirectly, on the payment of dividends or the
making of distributions, directly or indirectly, to the Company (other than
restrictions contained in any Qualified Preferred Stock) except that:
(1) subject to the exclusion contained in clause (d) below, the
Company's equity in the net income of any such Subsidiary for such
period shall be included in such Consolidated Net Income up to the
aggregate amount of cash distributed by such Subsidiary during such
period (or, in the case of a Depository Institution, that could as of
such date of determination be distributed with respect to such period,
provided that the Company is not aware of any foreseeable negative
changes to its ability to make such distributions) to the Company or
another Subsidiary as a dividend or other distribution (subject, in the
case of a dividend or other distribution to another Subsidiary, to the
limitation contained in this clause), and
(2) the Company's equity in a net loss of any such Subsidiary for
such period shall be included in determining such Consolidated Net
Income,
(d) any gain (but not loss) realized upon the sale or other disposition
of any Property of the Company or any of its consolidated Subsidiaries and
Unrestricted Subsidiaries (including pursuant to any Sale and Leaseback
Transaction) that is not sold or otherwise disposed of in the ordinary
course of business (excluding, solely for the purposes of the covenant
described under "--Certain Covenants--
Limitation of Restricted Payments", any gain in connection with a sale of
insured deposits),
(e) any extraordinary gain or loss,
(f) the cumulative effect of a change in accounting principles,
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(g) any non-cash compensation expense realized for grants of performance
shares, stock options or other rights to officers, directors and employees
of the Company or any Subsidiary, provided that such shares, options or
other rights can be redeemed at the option of the holder only for Capital
Stock of the Company (other than Disqualified Stock), and
(h) for purposes of the covenant described under "--Certain
Covenants--Limitation on Restricted Payments" only, any interest payments
made by the Company or any Subsidiary to a special purpose trust that is a
Subsidiary (and if such Subsidiary is not a Wholly Owned Subsidiary, such
amount shall be on a pro rata basis) on Debt of the Company or such
Subsidiary to the extent such trust uses such proceeds to make dividends,
distributions or other payments which are Restricted Payments.
Notwithstanding the foregoing, for purposes of the covenant described under
"--Certain Covenants--
Limitation on Restricted Payments" only, there shall be excluded from
Consolidated Net Income any dividends, repayments of loans or advances or other
transfers of assets from Unrestricted Subsidiaries to the Company or a
Subsidiary to the extent such dividends, repayments or transfers increase the
amount of Restricted Payments permitted under such covenant pursuant to clause
(d)(4) thereof.
<PAGE>
"Consolidated Net Worth" means, in respect of any Person, the total of the
amounts shown on the consolidated balance sheet of such Person and its
Subsidiaries as:
(a) the par or stated value of all outstanding Capital Stock of such
Person, plus
(b) paid-in capital or capital surplus relating to such Capital Stock,
plus
(c) any retained earnings or earned surplus, less:
(1) any accumulated deficit, and
(2) any amounts attributable to Disqualified Stock.
"Consolidated Total Assets" means, in respect of any Person, as of any
date of determination, the amount that would appear on a consolidated balance
sheet of such Person and its consolidated Subsidiaries as the total assets of
such Person and its Subsidiaries.
"Credit Facilities" means, with respect to the Company or any Subsidiary,
one or more debt or commercial paper facilities with banks or other
institutional lenders (including the proposed senior credit facility described
in this prospectus supplement) providing for revolving credit loans, term loans
or trade letters of credit, in each case together with any extensions,
revisions, refinancings or replacements thereof by a lender or syndicate of
lenders.
"Currency Exchange Protection Agreement" means, in respect of a Person,
any foreign exchange contract, currency swap agreement, currency option or
other similar agreement or arrangement designed to protect such Person against
fluctuations in currency exchange rates.
"Debt" means, with respect to any Person on any date of determination
(without duplication):
(a) the principal of and premium (if any and then only to the extent
then due and payable) in respect of:
(1) debt of such Person for money borrowed, and
(2) debt evidenced by notes, debentures, bonds or other similar
instruments for the payment of which such Person is responsible or
liable;
(b) all Capital Lease Obligations of such Person and all Attributable
Debt in respect of Sale and Leaseback Transactions entered into by such
Person;
(c) all obligations of such Person issued or assumed as the deferred
purchase price of Property, all conditional sale obligations of such Person
and all obligations of such Person under any title retention agreement (but
excluding trade accounts payable arising in the ordinary course of
business);
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(d) all obligations of such Person for the reimbursement of any obligor
on any letter of credit, banker's acceptance or similar credit transaction
(other than obligations with respect to letters of credit securing
obligations (other than obligations described in (a) through (c) above)
entered into in the ordinary course of business of such Person to the
extent such letters of credit are not drawn upon or, if and to the extent
drawn upon, such drawing is reimbursed no later than the third Business Day
following receipt by such Person of a demand for reimbursement following
payment on the letter of credit);
(e) the amount of all obligations of such Person with respect to the
Repayment of any Disqualified Stock or, with respect to any Subsidiary of
such Person, any Preferred Stock (but excluding, in each case, any accrued
dividends);
(f) all obligations of the type referred to in clauses (a) through (e)
of other Persons and all dividends of other Persons for the payment of
which, in either case, such Person is responsible or liable, directly or
indirectly, as obligor, guarantor or otherwise, including by means of any
Guarantee;
(g) all obligations of the type referred to in clauses (a) through (f)
of other Persons secured by any Lien on any Property of such Person
(whether or not such obligation is assumed by such Person), the amount of
such obligation being deemed to be the lesser of the value of such Property
or the amount of the obligation so secured; and
(h) to the extent not otherwise included in this definition, Hedging
Obligations of such Person.
The amount of Debt of any Person at any date shall be the outstanding balance
at such date of all unconditional obligations as described above and the
maximum liability, upon the occurrence of the contingency giving rise to the
obligation, of any contingent obligations at such date. The amount of Debt
represented by a Hedging Obligation shall be equal to:
(1) zero if such Hedging Obligation has been Incurred solely for the
purpose of managing risk in the ordinary course of business and not for
speculative purposes, including (i) interest, currency, commodity,
liquidity, credit, prepayment and other risks, (ii) reducing borrowing
costs, or (iii) converting any elements of indebtedness from one form to
another (collectively, "Ordinary Course Hedges"), or
(2) the notional amount of such Hedging Obligation which is not an
Ordinary Course Hedge.
"Default" means any event which is, or after notice or passage of time or
both would be, an Event of Default.
"Depository Institution" shall have the meaning attributed thereto in
Section 3(c)(1) of the FDIA, 12 U.S.C. Section 1813(c)(1), or a similar
definition under any successor statute.
"Disqualified Stock" means, with respect to any Person, any Capital Stock
that by its terms (or by the terms of any security into which it is convertible
or for which it is exchangeable, in either case at the option of the holder
thereof) or otherwise:
(a) matures or is mandatorily redeemable pursuant to a sinking fund
obligation or otherwise,
(b) is or may become redeemable or repurchaseable at the option of the
holder thereof, in whole or in part, or
(c) is convertible or exchangeable at the option of the holder thereof
for Debt or Disqualified Stock,
on or prior to, in the case of clause (a), (b) or (c), the first anniversary of
the Stated Maturity of the Notes.
"Disqualified Stock Dividends" means all dividends with respect to
Disqualified Stock of the Company held by Persons other than a Wholly Owned
Subsidiary. The amount of any such dividend shall be equal to the quotient of
such dividend divided by the difference between one and the maximum statutory
federal income tax rate (expressed as a decimal number between 1 and 0) then
applicable to the Company.
"Earnings Available for Fixed Charges" means, for any period, an amount
equal to, for the Company and its consolidated Subsidiaries, the sum of
Consolidated Net Income for such period, plus the following to the extent
reducing Consolidated Net Income for such period:
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(a) the provision for taxes based on income or profits or utilized in
computing net loss,
(b) Consolidated Interest Expense, and
(c) amortization of intangibles.
Notwithstanding the foregoing, the provision for taxes based on the income or
profits of, and amortization of, a Subsidiary shall be added to Consolidated
Net Income to compute Earnings Available for Fixed Charges only to the extent
(and in the same proportion) that the net income of such Subsidiary was
included in calculating Consolidated Net Income and only, in the case of any
Subsidiary, if a corresponding amount would be permitted at the date of
determination to be dividended or paid to the Company by such Subsidiary
without prior approval (that has not been obtained), pursuant to the terms of
its charter and all agreements, instruments, judgments, decrees, orders,
statutes, rules and governmental regulations applicable to such Subsidiary or
its shareholders.
"Eligible Investments" shall mean (i) investments in U.S. Government
Obligations maturing within 365 days of the date of acquisition thereof; (ii)
investments in time deposit accounts, certificates of deposit and money market
deposits maturing within 90 days of the date of acquisition thereof issued by a
bank or trust company organized under the laws of the United States of America
or any state thereof having capital, surplus and undivided profits aggregating
in excess of $500 million and whose long-term debt is rated "A-3" or "A-" or
higher according to Moody's or S&P (or such similar equivalent rating by at
least one "nationally recognized statistical rating organization" (as defined in
Rule 436 under the Securities Act)); (iii) repurchase obligations with a term of
not more than 60 days for (x) underlying securities of the types described in
clause (i) above, or (y) underlying agency, asset backed, mortgage backed, or
corporate securities maturing within 365 days of the date of deposit into escrow
and rated AAA or the equivalent thereof by at least one of S&P or Moody's, in
either case, entered into with (a) a bank meeting the qualifications described
in clause (ii) above, or (b) any primary government securities dealer reporting
to the Market Reports Division of the Federal Reserve Bank of New York; (iv)
investments in commercial paper, maturing not more than 90 days after the date
of acquisition thereof, issued by a corporation (other than an Affiliate of the
Company) organized and in existence under the laws of the United States of
America with a rating at the time as of which any Investment therein is made of
"P-1" (or higher) according to Moody's and "A-1" (or higher) according to S&P;
and (v) direct obligations (or certificates representing an ownership interest
in such obligations) of any state of the United States of America (including any
agency or instrumentality thereof) for the payment of which the full faith and
credit of such state is pledged and which are not callable or redeemable at the
Company's option, provided that: (a) the long-term debt of such state is rated
"A-3" or "A-" or higher according to Moody's or S&P (or such similar equivalent
rating by at least one "nationally recognized statistical rating organization"
(as defined in Rule 436 under the Securities Act)), and (b) such obligations
mature within 180 days of the date of acquisition thereof.
"Exchange Act" means the Securities Exchange Act of 1934.
"Fair Market Value" means, with respect to any Property, the price that
could be negotiated in an arm's-length free market transaction, for cash,
between a willing seller and a willing buyer, neither of whom is under undue
pressure or compulsion to complete the transaction. Fair Market Value shall be
determined, except as otherwise provided, if such Property has a Fair Market
Value in excess of $50.0 million, by a majority of the Board of Directors and
evidenced by a Board Resolution, dated within 30 days of the relevant
transaction, delivered to the Trustee.
"Financial Services Subsidiary" means any Subsidiary of the Company (other
than a Depository Institution or a Subsidiary of a Depository Institution)
which conducts any financial asset origination, securitization, financing or
servicing business or any other financial services business.
"Foreign Subsidiary" means any Subsidiary or Unrestricted Subsidiary which
is not organized under the laws of the United States of America or any State
thereof or the District of Columbia.
"GAAP" means United States generally accepted accounting principles as in
effect on the Issue Date, including those set forth:
(a) in the opinions and pronouncements of the Accounting Principles
Board of the American Institute of Certified Public Accountants,
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(b) in the statements and pronouncements of the Financial Accounting
Standards Board,
(c) in such other statements by such other entity as approved by a
significant segment of the accounting profession, and
(d) the rules and regulations of the Commission governing the inclusion
of financial statements (including pro forma financial statements) in
periodic reports required to be filed pursuant to Section 13 of the
Exchange Act, including opinions and pronouncements in staff accounting
bulletins and similar written statements from the accounting staff of the
Commission.
"Guarantee" means any obligation, contingent or otherwise, of any Person
directly or indirectly guaranteeing any Debt of any other Person and any
obligation, direct or indirect, contingent or otherwise, of such Person:
(a) to purchase or pay (or advance or supply funds for the purchase or
payment of) such Debt of such other Person (whether arising by virtue of
partnership arrangements, or by agreements to keep-well, to purchase
assets, goods, securities or services, to take-or-pay or to maintain
financial statement conditions or otherwise), or
(b) entered into for the purpose of assuring in any other manner the
obligee against loss in respect thereof (in whole or in part);
provided, however, that the term "Guarantee" shall not include:
(1) endorsements for collection or deposit in the ordinary course of
business, or
(2) a contractual commitment by one Person to invest in another Person
for so long as such Investment is reasonably expected to constitute a
Permitted Investment under clause (b) of the definition of "Permitted
Investment".
The term "Guarantee" used as a verb has a corresponding meaning. The term
"Guarantor" shall mean any Person Guaranteeing any obligation.
"Hedging Obligation" of any Person means any obligation of such Person
pursuant to any Interest Rate Agreement, Currency Exchange Protection
Agreement, Commodity Price Protection Agreement or any other similar agreement
or arrangement.
"Incur" means, with respect to any Debt or other obligation of any Person,
to create, issue, incur (by merger, conversion, exchange or otherwise), extend,
assume, Guarantee or become liable in respect of such Debt or other obligation
or the recording, as required pursuant to GAAP, of any such Debt or obligation
on the balance sheet of such Person (and "Incurrence" and "Incurred" shall have
meanings correlative to the foregoing); provided, however, that a change in
GAAP that results in an obligation of such Person that exists at such time, and
is not theretofore classified as Debt, becoming Debt shall not be deemed an
Incurrence of such Debt; provided further, however, that any Debt or other
obligations of a Person existing at the time such Person becomes a Subsidiary
(whether by merger, consolidation, acquisition or otherwise) shall be deemed to
be Incurred by such Subsidiary at the time it becomes a Subsidiary; and
provided further, however, that solely for purposes of determining compliance
with "--Certain Covenants--Limitation on Debt", amortization of debt discount
shall not be deemed to be the Incurrence of Debt, provided that in the case of
Debt sold at a discount, the amount of such Debt Incurred shall at all times be
the aggregate principal amount at Stated Maturity.
"Independent Financial Advisor" means an investment banking firm of
national standing or any third party appraiser of national standing, provided
that such firm or appraiser is not an Affiliate of the Company.
"Interest Rate Agreement" means, for any Person, any interest rate swap
agreement, interest rate cap agreement, interest rate collar agreement or other
similar agreement designed to protect against fluctuations in interest rates.
"Investment" by any Person means any direct or indirect loan (other than
loans or advances to customers or suppliers in the ordinary course of business
that are recorded as accounts receivable or loans receivable on
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the balance sheet of such Person), advance or other extension of credit or
capital contribution (by means of transfers of cash or other Property to others
or payments for Property or services for the account or use of others, or
otherwise) to, or Incurrence of a Guarantee of any obligation of, or purchase
or acquisition of Capital Stock, bonds, notes, debentures or other securities
or evidence of Debt issued by, any other Person. For the purposes of the
covenant described under "--Certain Covenants--Limitation on Restricted
Payments",
"--Designation of Restricted and Unrestricted Subsidiaries" and the definition
of "Restricted Payment", "Investment" shall include the portion (proportionate
to the Company's equity interest in such Subsidiary) of the Fair Market Value
of the net assets of any Subsidiary of the Company at the time that such
Subsidiary is designated an Unrestricted Subsidiary; provided, however, that
upon a redesignation of such Unrestricted Subsidiary as a Restricted
Subsidiary, the Company shall be deemed to continue to have a permanent
"Investment" in an Unrestricted Subsidiary of an amount (if positive) equal to:
(a) the Company's "Investment" in such Subsidiary at the time of such
redesignation, less
(b) the portion (proportionate to the Compant's equity interest in such
Subsidiary) of the Fair Market Value of the net assets of such Subsidiary
at the time of such redesignation.
In determining the amount of any Investment made by transfer of any
Property other than cash, such Property shall be valued at its Fair Market
Value at the time of such Investment.
"Investment Grade Rating" means a rating equal to or higher than Baa3
(or the equivalent) by Moody's and BBB- (or the equivalent) by S&P.
"Issue Date" means the date on which the Offered Notes are initially
issued, whether or not the proceeds of the Notes are held in escrow.
"Lien" means, with respect to any Property of any Person, any mortgage
or deed of trust, pledge, hypothecation, assignment, deposit arrangement,
security interest, lien, charge, easement (other than any easement not
materially impairing usefulness or marketability), encumbrance, preference,
priority or other security agreement or preferential arrangement of any
kind or nature whatsoever on or with respect to such Property (including
any Capital Lease Obligation, conditional sale or other title retention
agreement having substantially the same economic effect as any of the
foregoing or any Sale and Leaseback Transaction).
"Material Domestic Subsidiary" means any Significant Subsidiary other
than (a) a Foreign Subsidiary or (b) a Subsidiary or Unrestricted
Subsidiary of a Foreign Subsidiary or (c) an Unrestricted Subsidiary.
"Minimum Tangible Common Equity Amount" means, as of the end of any
fiscal quarter, an amount equal to $1.0 billion.
"Moody's" means Moody's Investors Service, Inc. or any successor to the
rating agency business thereof.
"Officer" means the Chief Executive Officer, the President, the Chief
Financial Officer, any Executive Vice President or the Principal Accounting
Officer (so long as such Prinicipal Accounting Officer is at least a Senior
or Executive Vice President) of the Company.
"Officers' Certificate" means a certificate signed by two Officers of
the Company, at least one of whom shall be the principal executive officer,
principal financial officer or principal accounting officer (so long as
such principal accounting officer is at least a Senior or Executive Vice
President of the Company) of the Company, and delivered to the Trustee.
"Opinion of Counsel" means a written opinion from legal counsel who is
reasonably acceptable to the Trustee. The counsel may be an employee of or
counsel to the Company or the Trustee.
"Permitted Investment" means any Investment by the Company or a
Subsidiary in:
(a) any Subsidiary or any Person that will, upon the making of such
Investment, become a Subsidiary, provided that the primary business of such
Subsidiary is the Banking Business;
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(b) any Person if as a result of such Investment such Person is merged
or consolidated with or into, or transfers or conveys all or substantially
all its Property to, the Company or a Subsidiary, provided that such
Person's primary business is Banking Business;
(c) Temporary Cash Investments;
(d) receivables owing to the Company or a Subsidiary, if created or
acquired in the ordinary course of business and payable or dischargeable in
accordance with customary trade terms; provided, however, that such trade
terms may include such concessionary trade terms as the Company or such
Subsidiary deems reasonable under the circumstances;
(e) payroll, travel and similar advances to cover matters that are
expected at the time of such advances ultimately to be treated as expenses
for accounting purposes and that are made in the ordinary course of
business;
(f) loans and advances to officers, directors and employees made in the
ordinary course of business consistent with past practices of the Company
or such Subsidiary, as the case may be, provided that such loans and
advances in the aggregate do not exceed $25 million at any one time
outstanding;
(g) stock, obligations or other securities received in settlement of
debts created in the ordinary course of business and owing to the Company
or a Subsidiary or in satisfaction of judgments;
(h) Investments in the ordinary course of business by any Subsidiary
that is a banking institution or a Financial Services Subsidiary or a
Subsidiary of a banking institution or a Financial Services Subsidiary (to
the extent it would be permitted, under applicable laws and regulations, to
make such Investment) in any Person other than an Affiliate of the Company
(other than an Unrestricted Affiliate, a Subsidiary of the Company or a
Person that would become an Unrestricted Affiliate or a Subsidiary as a
result of such Investment); and
(i) other Investments made for a price not greater than Fair Market
Value that do not exceed
$25 million outstanding at any one time in the aggregate.
"Permitted Liens" means:
(a) Liens to secure Debt permitted to be Incurred under clause (e) of
the covenant described under "--Certain Covenants--Limitation on Debt",
provided that any such Lien is limited to the Capital Stock of Wholly Owned
Subsidiaries, including Sovereign Bank;
(b) Liens created under negative pledge provisions of the indentures for
the Company's senior notes outstanding on the Issue Date, but only to the
extent required by such provisions as in effect on the Issue Date;
(c) Liens for taxes, assessments or governmental charges or levies on
the Property of the Company or any Subsidiary if the same shall not at the
time be delinquent or thereafter can be paid without penalty, or are being
contested in good faith and by appropriate proceedings promptly instituted
and diligently concluded, provided that any reserve or other appropriate
provision that shall be required in conformity with GAAP shall have been
made therefor;
(d) Liens imposed by law, such as carriers', warehousemen's and
mechanics' Liens and other similar Liens, on the Property of the Company or
any Subsidiary arising in the ordinary course of business and securing
payment of obligations that are not more than 60 days past due or are being
contested in good faith and by appropriate proceedings;
(e) Liens on the Property of the Company or any Subsidiary Incurred in
the ordinary course of business to secure performance of obligations with
respect to statutory or regulatory requirements, performance or
return-of-money bonds, surety bonds or other obligations of a like nature
and Incurred in a manner consistent with industry practice, in each case
which are not Incurred in connection with the borrowing of money, the
obtaining of advances or credit or the payment of the deferred purchase
price of Property and which do not in the aggregate impair in any material
respect the use of Property in the operation of the business of the Company
and the Subsidiaries taken as a whole;
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(f) Liens on Property at the time the Company or any Subsidiary acquired
such Property, including any acquisition by means of a merger or
consolidation with or into the Company or any Subsidiary; provided,
however, that any such Lien may not extend to any other Property of the
Company or any Subsidiary; provided further, however, that such Liens shall
not have been Incurred in anticipation of or in connection with the
transaction or series of transactions pursuant to which such Property was
acquired by the Company or any Subsidiary;
(g) Liens on the Property of a Person at the time such Person becomes a
Subsidiary; provided, however, that any such Lien may not extend to any
other Property of the Company or any other Subsidiary that is not a direct
Subsidiary of such Person; provided further, however, that any such Lien
was not Incurred in anticipation of or in connection with the transaction
or series of transactions pursuant to which such Person became a
Subsidiary;
(h) pledges or deposits by the Company or any Subsidiary under workmen's
compensation laws, unemployment insurance laws or similar legislation, or
good faith deposits in connection with bids, tenders, contracts (other than
for the payment of Debt) or leases to which the Company or any Subsidiary
is party, or deposits to secure public or statutory obligations of the
Company, or deposits for the payment of rent, in each case Incurred in the
ordinary course of business;
(i) utility easements, building restrictions and such other encumbrances
or charges against real Property as are of a nature generally existing with
respect to properties of a similar character;
(j) Liens existing on the Issue Date not otherwise described in clauses
(a) through (i) above or clause (k), (m) or (n) below;
(k) Liens not otherwise described in clauses (a) through (j) above or
clause (m) or (n) below on the Property of any Subsidiary that is not a
Subsidiary Guarantor to secure any Debt permitted to be Incurred by such
Subsidiary pursuant to the covenant described under "--Certain
Covenants--Limitation on Debt" (including Liens to secure Debt permitted to
be Incurred under such covenant by a Depositary Institution) or to secure
any other obligation of such Subsidiary;
(l) Liens on the Property of the Company or any Subsidiary to secure any
Refinancing, in whole or in part, of any Debt secured by Liens referred to
in clause (f), (g), or (j) above; provided, however, that any such Lien
shall be limited to all or part of the same Property that secured the
original Lien (together with improvements and accessions to such Property)
and the aggregate principal amount of Debt that is secured by such Lien
shall not be increased to an amount greater than the sum of:
(1) the outstanding principal amount, or, if greater, the committed
amount, of the Debt secured by Liens described under clause (f), (g) or
(j) above, as the case may be, at the time the original Lien became a
Permitted Lien under the Indenture, and
(2) an amount necessary to pay any fees and expenses, including
premiums and defeasance costs, incurred by the Company or such
Subsidiary in connection with such Refinancing; and
(m) Liens not otherwise described in clauses (a) through (l) above or
(n) below on the Property of a Financial Services Subsidiary to secure any
Debt permitted to be Incurred by such Subsidiary pursuant to the covenant
described under "--Certain Covenants--Limitation on Debt"; and
(n) Liens securing Ordinary Course Hedges.
"Permitted Refinancing Debt" means any Debt that Refinances any other
Debt, including any successive Refinancings, so long as:
(a) such Debt is in an aggregate principal amount (or if Incurred with
original issue discount, an aggregate issue price) not in excess of the sum
of:
(1) the aggregate principal amount (or if Incurred with original
issue discount, the aggregate accreted value) then outstanding of the
Debt being Refinanced, and
(2) an amount necessary to pay any fees and expenses, including
premiums and defeasance costs, related to such Refinancing,
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(b) the Average Life of such Debt is equal to or greater than the
Average Life of the Debt being Refinanced,
(c) the Stated Maturity of such Debt is no earlier than the Stated
Maturity of the Debt being Refinanced, and
(d) the new Debt shall not be senior in right of payment to the Debt
that is being Refinanced;
provided, however, that Permitted Refinancing Debt shall not include (x) Debt
of a Subsidiary or Unrestricted Subsidiary that is not a Subsidiary Guarantor
that Refinances Debt of the Company or a Subsidiary Guarantor or (y) Debt of
the Company or a Subsidiary that Refinances Debt of an Unrestricted Subsidiary.
"Person" means any individual, corporation, company (including any limited
liability company), association, partnership, joint venture, trust,
unincorporated organization, government or any agency or political subdivision
thereof or any other entity.
"Preferred Stock" means any Capital Stock of a Person, however designated,
which entitles the holder thereof to a preference with respect to the payment
of dividends, or as to the distribution of assets upon any voluntary or
involuntary liquidation or dissolution of such Person, over shares of any other
class of Capital Stock issued by such Person. Preferred Stock includes
Disqualified Stock, Qualified Preferred Stock, Trust Preferred Stock and any
other trust preferred securities issued by special purpose trusts.
"Preferred Stock Dividends" means all dividends with respect to Preferred
Stock of Subsidiaries held by Persons other than the Company or a Wholly Owned
Subsidiary. The amount of any such dividend except with respect to Trust
Preferred Stock or any other trust preferred securities issued by special
purpose trusts shall be equal to the quotient of such dividend divided by the
difference between one and the maximum statutory federal income rate (expressed
as a decimal number between 1 and 0) then applicable to the issuer of such
Preferred Stock.
"pro forma" means, with respect to any calculation made or required to be
made pursuant to the terms hereof, a calculation performed in accordance with
Article 11 of Regulation S-X promulgated under the Securities Act, as
interpreted in good faith by the Board of Directors after consultation with the
independent certified public accountants of the Company, or otherwise a
calculation made in good faith by the Board of Directors after consultation
with the independent certified public accountants of the Company, as the case
may be.
"Property" means, with respect to any Person, any interest of such Person
in any kind of property or asset, whether real, personal or mixed, or tangible
or intangible, including Capital Stock in, and other securities of, any other
Person. For purposes of any calculation required pursuant to the Indenture, the
value of any Property shall be its Fair Market Value.
"Qualified Preferred Stock" means any Preferred Stock of any Subsidiary
(other than Trust Preferred Stock and any other trust preferred securities
issued by special purpose trusts) which meets the requirements set forth below:
(a) such Preferred Stock is not Disqualified Stock;
(b) the terms of such Preferred Stock do not impose any consensual
restriction on the ability of the issuer thereof to pay dividends, in cash
or otherwise, or make any other distributions on or in respect of its
Capital Stock, to the Company or any other Subsidiary, except for
restrictions to the effect that:
(i) dividends and distributions on common stock or other capital
stock of the issuer may not be declared or paid or set apart for payment
at any time when the issuer has not declared and paid any dividends or
distributions on such Preferred Stock which are required to be declared
and paid as a precondition to dividends or distributions on other
capital stock of the issuer;
(ii) distributions upon the liquidation, dissolution or winding up of
the issuer, whether voluntary or involuntary ("Liquidating
Distributions"), may not be made on the common stock or other capital
stock of the issuer at any time when such Preferred Stock is entitled to
receive Liquidating Distributions which have not been paid; and
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(iii) dividends and distributions on common stock or other capital
stock of the issuer may not be declared or paid or set apart for payment
at any time when such Preferred Stock is required to be, but has not
been, redeemed, repurchased, converted, exchanged or otherwise paid
pursuant to provisions which meet the requirements of clause (a) above;
and
(c) the terms of such Preferred Stock do not impose any consensual
restriction on the ability of the issuer thereof to: (i) pay any Debt or
other obligation owed to the Company or any other Subsidiary,
(ii) make any loans or advances to the Company or any other Subsidiary or
(iii) transfer any of its Property to the Company or any other Subsidiary,
except, in any such case, any restriction permitted under "--Certain
Covenants--Limitations on Restrictions on Distributions from Subsidiaries"
(other than under clause (2) thereof).
"Refinance" means, in respect of any Debt, to refinance, extend, renew,
refund, repay, prepay, repurchase, redeem, defease or retire, or to issue other
Debt, in exchange or replacement for, such Debt. "Refinanced" and "Refinancing"
shall have correlative meanings.
"Repay" means, in respect of any Debt, to repay, prepay, repurchase,
redeem, legally defease or otherwise retire such Debt. "Repayment" and "Repaid"
shall have correlative meanings.
"Restricted Payment" means:
(a) any dividend or distribution (whether made in cash, securities or
other Property) declared or paid on or with respect to any shares of
Capital Stock of the Company or any Subsidiary (including any payment in
connection with any merger or consolidation with or into the Company or any
Subsidiary), except for any dividend or distribution that is made solely to
the Company or a Subsidiary (and, if such Subsidiary is not a Wholly Owned
Subsidiary, to the other shareholders of such Subsidiary on a pro rata
basis or on a basis that results in the receipt by the Company or a
Subsidiary of dividends or distributions of greater value than it would
receive on a pro rata basis) or any dividend or distribution or portion
thereof payable solely in shares of Capital Stock (other than Disqualified
Stock) of the Company;
(b) the purchase, repurchase, redemption, acquisition or retirement for
value of any Capital Stock (including Trust Preferred Stock and any other
trust preferred securities issued by special purpose trusts or warrants
issued by the Company in connection therewith, and including redemptions in
connection with a remarketing of such securities) of the Company or any
Subsidiary (other than from the Company or a Subsidiary) or any securities
exchangeable for or convertible into any such Capital Stock, including the
exercise of any option to exchange any Capital Stock (other than for or
into Capital Stock of the Company that is not Disqualified Stock);
(c) the purchase, repurchase, redemption, acquisition or retirement for
value, prior to the date for any scheduled maturity, sinking fund or
amortization or other installment payment, of any Subordinated Obligation
(excluding the purchase, repurchase or other acquisition of any
Subordinated Obligation (other than a Subordinated Obligation covered by
clause (e) below) purchased in anticipation of satisfying a scheduled
maturity, sinking fund or amortization or other installment obligation, in
each case due within one year of the date of acquisition);
(d) any Investment (other than Permitted Investments) in any Person; or
(e) any payment or purchase, repurchase, redemption, acquisition or
retirement for value by the Company or any Subsidiary of any Debt issued to
any special purpose trust of the Company in connection with the issuance by
such trust of trust preferred securities (including Trust Preferred Stock,
provided, however, that if the corresponding dividend, distribution or
other payment by the trust on its trust preferred securities of the
proceeds so received from the Company or such Subsidiary would otherwise
constitute a Restricted Payment, the amount of such proceeds shall only be
counted once as a Restricted Payment.
"S&P" means Standard & Poor's Ratings Service or any successor to the
rating agency business thereof.
"Sale and Leaseback Transaction" means any direct or indirect arrangement
relating to Property now owned or hereafter acquired whereby the Company or a
Subsidiary transfers such Property to another Person and the Company or a
Subsidiary leases it from such Person.
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"Securities Act" means the Securities Act of 1933.
"Significant Subsidiary" means any Subsidiary or Unrestricted Subsidiary
that would be a "Significant Subsidiary" of the Company within the meaning of
Rule 1-02 under Regulation S-X promulgated by the Commission or any successor
provision to such Rule.
"Sovereign Bank" means Sovereign Bank, a federal savings bank, and any
successor thereto.
"Stated Maturity" means, with respect to any security, the date specified
in such security as the fixed date on which the payment of principal of such
security is due and payable, including pursuant to any mandatory redemption
provision (but excluding any provision providing for the repurchase of such
security at the option of the holder thereof upon the happening of any
contingency beyond the control of the issuer unless such contingency has
occurred and excluding, in the case of the Notes, the Special Mandatory
Redemption provision).
"Subordinated Obligation" means any Debt of the Company or any Subsidiary
Guarantor (whether outstanding on the Issue Date or thereafter Incurred) that
is subordinate or junior in right of payment to the Notes or the applicable
Subsidiary Guaranty pursuant to a written agreement to that effect.
"Subsidiary" means, in respect of any Person, any corporation, company
(including any limited liability company), association, partnership, joint
venture or other business entity of which a majority of the total voting power
of the Voting Stock is at the time owned or controlled, directly or indirectly,
by:
(a) such Person,
(b) such Person and one or more Subsidiaries of such Person, or
(c) one or more Subsidiaries of such Person.
Unless otherwise specified, or as required by the context in the
definition of the term "Investment," the term "Subsidiary" or "Restricted
Subsidiary" means any Subsidiary of the Company other than an Unrestricted
Subsidiary.
"Subsidiary Guarantor" means any Person that becomes a Subsidiary
Guarantor pursuant to the covenant described under "--Certain
Covenants--Subsidiary Guarantors".
"Subsidiary Guaranty" means a Guarantee on the terms set forth in the
Indenture by a Subsidiary Guarantor of the Company's obligations with respect
to the Notes.
"Tax Sharing Agreement" means the Tax Allocation Agreement dated July 7,
1995, among Sovereign Bancorp, Inc., and Sovereign Bank, FSB, Sovereign
Investment Corporation, First Lancaster Financial Corporation, Land Asset-303
Fairview Corporation, Land Asset-33 Sampson Corporation, Land Asset-2-4 Gregory
Court Corporation, 201 Associates, Inc., Sovereign Financial Associates,
Sovereign Financial Securities, Inc., Sovereign Financial Insurance Agency,
Inc., C.S. Service Corporation and Jersey Shore Financial Services, Inc., as
amended, waived or otherwise modified from time as permitted by the covenant
described under "--Certain Covenants--Tax Sharing Agreement".
"Temporary Cash Investments" means any of the following:
(a) Investments in U.S. Government Obligations maturing within 365 days
of the date of acquisition thereof;
(b) Investments in time deposit accounts, certificates of deposit and
money market deposits maturing within 180 days of the date of acquisition
thereof issued by a bank or trust company organized under the laws of the
United States of America or any state thereof having capital, surplus and
undivided profits aggregating in excess of $250 million and whose long-term
debt is rated "A-3" or "A-" or higher according to Moody's or S&P (or such
similar equivalent rating by at least one "nationally recognized
statistical rating organization" (as defined in Rule 436 under the
Securities Act));
(c) repurchase obligations with a term of not more than 30 days for
underlying securities of the types described in clause (a) entered into
with:
(1) a bank meeting the qualifications described in clause (b) above,
or
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(2) any primary government securities dealer reporting to the Market
Reports Division of the Federal Reserve Bank of New York;
(d) Investments in commercial paper, maturing not more than 90 days
after the date of acquisition, issued by a corporation (other than an
Affiliate of the Company) organized and in existence under the laws of the
United States of America with a rating at the time as of which any
Investment therein is made of "P-1" (or higher) according to Moody's or
"A-1" (or higher) according to S&P (or such similar equivalent rating by at
least one "nationally recognized statistical rating organization" (as
defined in Rule 436 under the Securities Act)); and
(e) direct obligations (or certificates representing an ownership
interest in such obligations) of any state of the United States of America
(including any agency or instrumentality thereof) for the payment of which
the full faith and credit of such state is pledged and which are not
callable or redeemable at the issuer's option, provided that:
(1) the long-term debt of such state is rated "A-3" or "A-" or higher
according to Moody's or S&P (or such similar equivalent rating by at
least one "nationally recognized statistical rating organization" (as
defined in Rule 436 under the Securities Act)), and
(2) such obligations mature within 180 days of the date of
acquisition thereof.
"Trust Preferred Stock" means $100,000,000 of 9% trust preferred
securities of Sovereign Capital Trust I Due April 1, 2027 and $50,000,000 of
9.875% trust preferred securities of ML Capital Trust I Due March 1, 2027.
"Unrestricted Affiliate" means a Person (other than a Subsidiary or
Unrestricted Subsidiary of the Company) controlled (as defined in the
definition of "Affiliate") by the Company, in which no Affiliate of the Company
(other than (x) the Company, (y) a Wholly Owned Subsidiary of the Company and
(z) another Unrestricted Affiliate) has an Investment.
"Unrestricted Subsidiary" means:
(a) any corporation, company (including any limited liability company),
association, partnership, joint venture or other business entity of which a
majority of the total voting power of the Voting Stock is at the time owned
or controlled, directly or indirectly, by the Company or any Subsidiary
that is designated after the Issue Date as an Unrestricted Subsidiary as
permitted or required pursuant to the covenant described under "--Certain
Covenants-- Designation of Restricted and Unrestricted Subsidiaries" and
not thereafter redesignated as a Restricted Subsidiary as permitted
pursuant thereto; and
(b) any corporation, company (including any limited liability company),
association, partnership, joint venture or other business entity of which a
majority of the total voting power of the Voting Stock is at the time owned
or controlled, directly or indirectly, by an Unrestricted Subsidiary.
"U.S. Government Obligations" means direct obligations (or certificates
representing an ownership interest in such obligations) of the United
States of America (including any agency or instrumentality thereof) for the
payment of which the full faith and credit of the United States of America
is pledged and which are not callable or redeemable at the issuer's option.
"Voting Stock" of any Person means all classes of Capital Stock or other
interests (including partnership interests) of such Person then outstanding
and normally entitled (without regard to the occurrence of any contingency)
to vote in the election of directors, managers or trustees thereof.
"Wholly Owned Subsidiary" means, at any time, a Subsidiary all the
Voting Stock of which (except directors' qualifying shares) is at such time
owned, directly or indirectly, by the Company and its other Wholly Owned
Subsidiaries.
Book-Entry System
The Notes will be initially issued in the form of one or more Global
Securities registered in the name of The Depository Trust Company ("DTC") or
its nominee.
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Upon the issuance of a Global Security, DTC or its nominee will credit the
accounts of Persons holding through it with the respective principal amounts of
the Notes represented by such Global Security purchased by such Persons in the
Offering. Such accounts shall be designated by the Underwriters. Ownership of
beneficial interests in a Global Security will be limited to Persons that have
accounts with DTC ("participants") or Persons that may hold interests through
participants. Any Person acquiring an interest in a Global Security through an
offshore transaction may hold such interest through Cedel or Euroclear.
Ownership of beneficial interests in a Global Security will be shown on, and
the transfer of that ownership interest will be effected only through, records
maintained by DTC (with respect to participants' interests) and such
participants (with respect to the owners of beneficial interests in such Global
Security other than participants). The laws of some jurisdictions require that
certain purchasers of securities take physical delivery of such securities in
definitive form. Such limits and such laws may impair the ability to transfer
beneficial interests in a Global Security.
Payment of principal of and interest on Notes represented by a Global
Security will be made in immediately available funds to DTC or its nominee, as
the case may be, as the sole registered owner and the sole holder of the Notes
represented thereby for all purposes under the Indenture. The Company has been
advised by DTC that upon receipt of any payment of principal of or interest on
any Global Security, DTC will immediately credit, on its book-entry
registration and transfer system, the accounts of participants with payments in
amounts proportionate to their respective beneficial interests in the principal
or face amount of such Global Security as shown on the records of DTC. Payments
by participants to owners of beneficial interests in a Global Security held
through such participants will be governed by standing instructions and
customary practices as is now the case with securities held for customer
accounts registered in "street name" and will be the sole responsibility of
such participants.
A Global Security may not be transferred except as a whole by DTC or a
nominee of DTC to a nominee of DTC or to DTC. A Global Security is exchangeable
for certificated Notes only if:
(a) DTC notifies the Company that it is unwilling or unable to continue
as a depositary for such Global Security or if at any time DTC ceases to be
a clearing agency registered under the Exchange Act,
(b) the Company in its discretion at any time determines not to have all
the Notes represented by such Global Security, or
(c) there shall have occurred and be continuing a Default or an Event of
Default with respect to the Notes represented by such Global Security.
Any Global Security that is exchangeable for certificated Notes pursuant to the
preceding sentence will be exchanged for certificated Notes in authorized
denominations and registered in such names as DTC or any successor depositary
holding such Global Security may direct. Subject to the foregoing, a Global
Security is not exchangeable, except for a Global Security of like denomination
to be registered in the name of DTC or any successor depositary or its nominee.
In the event that a Global Security becomes exchangeable for certificated
Notes,
(a) certificated Notes will be issued only in fully registered form in
denominations of $1,000 or integral multiples thereof,
(b) payment of principal of, and premium, if any, and interest on, the
certificated Notes will be payable, and the transfer of the certificated
Notes will be registerable, at the office or agency of the Company
maintained for such purposes, and
(c) no service charge will be made for any registration of transfer or
exchange of the certificated Notes, although the Company may require
payment of a sum sufficient to cover any tax or governmental charge imposed
in connection therewith.
So long as DTC or any successor depositary for a Global Security, or any
nominee, is the registered owner of such Global Security, DTC or such successor
depositary or nominee, as the case may be, will be considered the sole owner or
holder of the Notes represented by such Global Security for all purposes under
the Indenture and the Notes. Except as set forth above, owners of beneficial
interests in a Global Security will
S-151
<PAGE>
not be entitled to have the Notes represented by such Global Security
registered in their names, will not receive or be entitled to receive physical
delivery of certificated Notes in definitive form and will not be considered to
be the owners or holders of any Notes under such Global Security. Accordingly,
each Person owning a beneficial interest in a Global Security must rely on the
procedures of DTC or any successor depositary, and, if such Person is not a
participant, on the procedures of the participant through which such Person
owns its interest, to exercise any rights of a holder under the Indenture. The
Company understands that under existing industry practices, in the event that
the Company requests any action of holders or that an owner of a beneficial
interest in a Global Security desires to give or take any action which a holder
is entitled to give or take under the Indenture, DTC or any successor
depositary would authorize the participants holding the relevant beneficial
interest to give or take such action and such participants would authorize
beneficial owners owning through such participants to give or take such action
or would otherwise act upon the instructions of beneficial owners owning
through them.
DTC has advised the Company that DTC is a limited-purpose trust company
organized under the Banking Law of the State of New York, a member of the
Federal Reserve System, a "clearing corporation" within the meaning of the New
York Uniform Commercial Code and a "clearing agency" registered under the
Exchange Act. DTC was created to hold the securities of its participants and to
facilitate the clearance and settlement of securities transactions among its
participants in such securities through electronic book-entry changes in
accounts of the participants, thereby eliminating the need for physical
movement of securities certificates. DTC's participants include securities
brokers and dealers (which may include the Underwriters), banks, trust
companies, clearing corporations and certain other organizations some of whom
(or their representatives) own DTC. Access to DTC's book-entry system is also
available to others, such as banks, brokers, dealers and trust companies, that
clear through or maintain a custodial relationship with a participant, either
directly or indirectly.
Although DTC has agreed to the foregoing procedures in order to facilitate
transfers of interests in Global Securities among participants of DTC, it is
under no obligation to perform or continue to perform such procedures, and such
procedures may be discontinued at any time. None of the Company, the Trustee or
the Underwriters will have any responsibility for the performance by DTC or its
participants or indirect participants of their respective obligations under the
rules and procedures governing their operations.
S-152
<PAGE>
CERTAIN UNITED STATES TAX CONSIDERATIONS
General
This section summarizes the material U.S. Federal tax consequences to
holders of notes. However, the discussion is limited in the following ways:
o The discussion only covers you if you buy your notes in the initial
offering.
o The discussion only covers you if you hold your notes as a capital asset
(that is, for investment purposes), and if you do not have a special tax
status.
o The discussion does not cover tax consequences that depend upon your
particular tax situation in addition to your ownership of notes. We
suggest that you consult your tax advisor about the consequences of
holding notes in your particular situation.
o The discussion is based on current law. Changes in the law may change
the tax treatment of the notes.
o The discussion does not cover state, local or foreign law.
o The discussion does not apply to you if you are a non-U.S. holder of
notes (as defined below) and if you (a) own 10% or more of the voting
stock of Sovereign, (b) are a "controlled foreign corporation" with
respect to Sovereign, or (c) are a bank making a loan in the ordinary
course of its business.
o We have not requested a ruling from the IRS on the tax consequences of
owning the notes. As a result, the IRS could disagree with portions of
this discussion.
If you are considering buying notes, we suggest that you consult your tax
advisors about the tax consequences of holding the notes in your particular
situation.
Tax Consequences to U.S. Holders
This section applies to you if you are a "U.S. Holder". A "U.S. Holder"
is:
o an individual U.S. citizen or resident alien;
o a corporation, or entity taxable as a corporation, that was created
under U.S. law (federal or state);
o an estate whose world-wide income is subject to U.S. federal income tax;
o a trust that is subject to primary supervision over its administration by
a U.S. court and is subject to the control of a U.S. person with respect
to substantial trust decisions.
If a partnership holds notes, the tax treatment of a partner will
generally depend upon the status of the partner and upon the activities of the
partnership. If you are a partner of a partnership holding notes, we suggest
that you consult your tax advisor.
Interest
o If you are a cash method taxpayer (including most individual holders),
you must report interest on the notes in your income when you receive it.
o If you are an accrual method taxpayer, you must report interest on the
notes in your income as it accrues.
Sale or Retirement of Notes
On your sale or retirement of your note:
o You will have taxable gain or loss equal to the difference between the
amount received by you and your tax basis in the note. Your tax basis in
the note is your cost, subject to certain adjustments.
o Your gain or loss will generally be capital gain or loss, and will be
long term capital gain or loss if you held the note for more than one
year.
S-153
<PAGE>
o If you sell the note between interest payment dates, a portion of the
amount you receive reflects interest that has accrued on the note but has
not yet been paid by the sale date. That amount is treated as ordinary
interest income and not as sale proceeds.
Information Reporting and Backup Withholding
Under the tax rules concerning information reporting to the IRS:
o Assuming you hold your notes through a broker or other securities
intermediary, the intermediary must provide information to the IRS
concerning interest and retirement proceeds on your notes, unless an
exemption applies.
o Similarly, unless an exemption applies, you must provide the intermediary
with your Taxpayer Identification Number for its use in reporting
information to the IRS. If you are an individual, this is your social
security number. You are also required to comply with other IRS
requirements concerning information reporting.
o If you are subject to these requirements but do not comply, the
intermediary must withhold 31% of all amounts payable to you on the notes
(including principal payments). If the intermediary withholds payments,
you may use the withheld amount as a credit against your federal income
tax liability.
o All individual U.S. Holders are subject to these requirements. Some U.S.
Holders, including all corporations, tax-exempt organizations and
individual retirement accounts, are exempt from these requirements.
Tax Consequences to Non-U.S. Holders
This section applies to you if you are a "Non-U.S. Holder." A "Non-U.S.
Holder" is:
o an individual that is a nonresident alien of the U.S.;
o a corporation organized or created under non-U.S. law;
o an estate that is not taxable in the U.S. on its worldwide income; or
o a trust that is either not subject to primary supervision over its
administration by a U.S. court or not subject to the control of a U.S.
person with respect to substantial trust decisions.
Withholding Taxes
Generally, payments of principal and interest on the notes will not be
subject to U.S. withholding taxes.
However, for the exemption from withholding taxes to apply to you, you
must meet one of the following requirements:
o You provide your name, address, and a signed statement that you are the
beneficial owner of the note and are not a U.S. Holder. This statement is
generally made on Form W-8 or Form W-8BEN.
o You or your agent claim an exemption from withholding tax under an
applicable tax treaty. This claim is generally made on Form 1001 or Form
W-8BEN.
o You or your agent claim an exemption from withholding tax on the ground
that the income is effectively connected with the conduct of a trade or
business in the U.S. This claim is generally made on Form 4224 or Form
W-8ECI.
We suggest that you consult your tax advisor about the specific methods
for satisfying these requirements. These procedures will change on January 1,
2001. In addition, a claim for exemption will not be valid if the person
receiving the applicable form has actual knowledge that the statements on the
form are false.
Sale or Retirement of Notes
If you sell a note or it is redeemed, you will not be subject to federal
income tax on any gain unless one of the following applies:
S-154
<PAGE>
o The gain is connected with a trade or business that you conduct in the
U.S.
o You are an individual, you are present in the U.S. for at least 183 days
during the year in which you dispose of the note, and certain other
conditions are satisfied.
o A portion of the gain represents accrued interest, in which case the
rules for interest would apply to that portion of the gain.
U.S. Trade or Business
If you hold your note in connection with a trade or business that you are
conducting in the U.S.:
o Any interest on the note, and any gain from disposing of the note,
generally will be subject to income tax as if you were a U.S. Holder.
o If you are a corporation, you may be subject to the "branch profits tax"
on your earnings that are connected with your U.S. trade or business,
including earnings from the note. This tax is 30%, but may be reduced or
eliminated by an applicable income tax treaty.
Estate Taxes
If you are an individual, your notes will not be subject to U.S. estate
tax when you die. However, this rule only applies if, at your death, payments
on the notes were not connected to a trade or business that you were conducting
in the U.S.
Information Reporting and Backup Withholding
U.S. rules concerning information reporting and backup withholding are
described above. These rules apply to Non-U.S. Holders as follows:
o Principal and interest payments you receive will be automatically exempt
from the usual rules if you provide the tax certifications needed to avoid
withholding tax on interest, as described above. The exemption does not
apply if the recipient of the applicable form knows that the form is
false. In addition, interest payments made to you will be reported to the
IRS on Form 1042-S.
o Sale proceeds you receive on a sale of your notes through a broker may be
subject to information reporting and/or backup withholding if you are not
eligible for an exemption. In particular, information reporting and backup
reporting may apply if you use the U.S. office of a broker, and
information reporting (but not backup withholding) may apply if you use
the foreign office of a broker that has certain connections to the U.S. We
suggest that you consult your tax advisor concerning information reporting
and backup withholding on a sale.
S-155
<PAGE>
UNDERWRITING
Subject to the terms and conditions stated in the underwriting agreement
dated November 9, 1999, each underwriter named below has severally agreed to
purchase, and we have agreed to sell to such underwriter, the principal amount
of notes set forth opposite the name of such underwriter.
Principal Principal
Amount Amount
Name of 2004 Notes of 2006 Notes
- ----------------------------------------- --------------- --------------
Salomon Smith Barney Inc. ......... $100,000,000 $250,000,000
Lehman Brothers Inc. .............. 100,000,000 250,000,000
------------ ------------
Total ................................. $200,000,000 $500,000,000
============ ============
The underwriting agreement provides that the obligations of the several
underwriters to purchase the notes included in this offering are subject to
approval of certain legal matters by counsel and to certain other conditions.
The underwriters are obligated to purchase all the notes if they purchase any
of the notes.
The underwriters, for whom Salomon Smith Barney Inc. and Lehman Brothers
Inc. are acting as representatives, propose to offer some of the notes directly
to the public at the public offering price set forth on the cover page of this
prospectus supplement and some of the notes to certain dealers at the public
offering price less a concession not in excess of 0.25% of the principal amount
of the notes. The underwriters may allow, and such dealers may reallow, a
concession not in excess of 0.12% of the principal amount of the notes on sales
to certain other dealers. After the initial offering of the notes to the
public, the public offering price and such concessions may be changed by the
representatives.
The following table shows the underwriting discounts and commissions to be
paid to the underwriters by us in connection with this offering (expressed as a
percentage of the principal amount of the notes).
<PAGE>
<TABLE>
<CAPTION>
Per Per
2004 2006
Note Note Total
---------- ---------- --------------
<S> <C> <C> <C>
Underwriting Discount ......... 2.50% 2.50% $17,500,000
</TABLE>
We have agreed that, for a period of 90 days from the date of this
prospectus, we will not, without the prior written consent of Salomon Smith
Barney Inc. and Lehman Brothers Inc., dispose of or hedge any debt securities
of Sovereign Bancorp.
In connection with the offering, Salomon Smith Barney Inc. and Lehman
Brothers Inc., on behalf of the underwriters, may purchase and sell notes in
the open market. These transactions may include over-allotment, syndicate
covering transactions and stabilizing transactions. Over-allotment involves
syndicate sales of notes in excess of the principal amount of notes to be
purchased by the underwriters in the offering, which creates a syndicate short
position. Syndicate covering transactions involve purchases of the notes in the
open market after the distribution has been completed in order to cover
syndicate short positions. Stabilizing transactions consist of certain bids or
purchases of notes made for the purpose of preventing or retarding a decline in
the market price of the notes while the offering is in progress.
The underwriters also may impose a penalty bid. Penalty bids permit the
underwriters to reclaim a selling concession from a syndicate member when
Salomon Smith Barney Inc. or Lehman Brothers Inc., in covering syndicate short
positions or making stabilizing purchases, repurchases notes originally sold by
that syndicate member.
Any of these activities may cause the price of the notes to be higher than
the price that otherwise would exist in the open market in the absence of such
transactions. These transactions may be effected in the over-the-counter market
or otherwise and, if commenced, may be discontinued at any time.
We estimate that our total expenses of this offering, including
underwriting discounts, will be $17.5 million.
S-156
<PAGE>
The representatives have performed certain investment banking and advisory
services for us from time to time for which they have received customary fees
and expenses. The representatives may also, from time to time in the future,
engage in transactions with and perform services for us in the ordinary course
of their business. In particular, the representatives are acting as lead
underwriters or lead agents and arrangers, as applicable, for the different
financings we are pursuing as part of the New England acquisition. Subject to
various terms and conditions, the representatives and certain of their
affiliates have agreed to provide up to $500 million of financing under a
senior credit facility. In addition, the representatives have been acting as
our financial advisors for the New England acquisition.
We have agreed to indemnify the underwriters against certain liabilities,
including liabilities under the Securities Act of 1933, or to contribute to
payments the underwriters may be required to make in respect of any of those
liabilities.
LEGAL MATTERS
Stevens & Lee, P.C., Reading and Philadelphia, Pennsylvania, our counsel,
will issue an opinion regarding the validity of the notes offered by this
prospectus supplement and the accompanying prospectus. Certain legal matters
will be passed upon for the underwriters by Cravath, Swaine & Moore, New York,
New York.
EXPERTS
The consolidated financial statements of Sovereign Bancorp, at December
31, 1998 and 1997 and for each of the three years in the period ended December
31, 1998, included in Sovereign Bancorp's Annual Report on Form 10-K for the
year ended December 31, 1998, as amended, have been audited by Ernst & Young
LLP, independent auditors, as set forth in their report thereon included
therein and incorporated herein by reference which, as to the years 1997 and
1996, is based in part on the reports of KPMG LLP with respect to ML Bancorp,
Inc., First State Financial Services, Inc. and Bankers Corp., Arthur Andersen
LLP with respect to First Home Bancorp Inc. and PriceWaterhouseCoopers LLP with
respect to Carnegie Bancorp, Inc., independent auditors. The consolidated
financial statements referred to above are in reliance upon such reports given
on the authority of such firms as experts in accounting and auditing.
S-157
<PAGE>
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Consolidated Balance Sheets at June 30, 1999 (unaudited) and December 31, 1998 ........... F-2
Consolidated Statements of Operations for the Six-Month Periods Ended June 30, 1999 and
1998
(Unaudited) ............................................................................. F-3
Consolidated Statement of Stockholders' Equity for the Six-Month Period Ended June 30,
1999
(Unaudited) ............................................................................. F-4
Consolidated Statements of Cash Flows for the Six-Month Periods Ended June 30, 1999 and
1998
(Unaudited) ............................................................................. F-5
Notes to Interim Consolidated Financial Statements (Unaudited) ........................... F-6
Report of Independent Auditors ........................................................... F-16
Consolidated Balance Sheets at December 31, 1998 and 1997 ................................ F-17
Consolidated Statements of Operations for the Years Ended December 31, 1998, 1997 and F-18
1996
Consolidated Statement of Stockholders' Equity for the Years Ended December 31, 1998,
1997 and
1996 .................................................................................... F-19
Consolidated Statements of Cash Flows for the Years Ended December 31, 1998, 1997 and F-20
1996
Notes to Consolidated Financial Statements ............................................... F-21
</TABLE>
F-1
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
June 30, December 31,
1999 1998
--------------- ---------------
(Unaudited) (Note)
(in thousands, except
per share data)
<S> <C> <C>
ASSETS
Cash and amounts due from depository institutions ................... $ 472,780 $ 471,074
Interest-earning deposits ........................................... 125,194 82,650
Loans held for sale (approximate fair value of $86,519 and $297,414
at June 30, 1999 and December 31, 1998, respectively) ............. 86,139 296,930
Investment securities available-for-sale ............................ 8,688,200 6,662,427
Investment securities held-to-maturity (approximate fair value of
$1,319,194 and $1,860,583 at June 30, 1999 and December 31,
1998, respectively) ............................................... 1,307,881 1,839,655
Loans ............................................................... 12,476,997 11,285,840
Allowance for loan losses ........................................... (134,183) (133,802)
Premises and equipment .............................................. 113,708 98,491
Other real estate owned and other repossessed assets ................ 7,545 15,584
Accrued interest receivable ......................................... 155,973 147,441
Goodwill and other intangible assets ................................ 434,848 425,925
Other assets ........................................................ 858,955 721,658
----------- -----------
TOTAL ASSETS ......................................................... $24,594,037 $21,913,873
=========== ===========
LIABILITIES
Deposits ............................................................ $12,170,470 $12,322,716
Borrowings:
Short-term ........................................................ 6,177,950 3,921,684
Long-term ......................................................... 4,490,535 3,978,908
Advance payments by borrowers for taxes and insurance ............. 35,492 27,655
Other liabilities ................................................. 140,695 329,792
----------- -----------
TOTAL LIABILITIES ................................................ 23,015,142 20,580,755
----------- -----------
Corporation-obligated mandatorily redeemable capital securities of
subsidiary trust holding solely subordinated debentures of
Sovereign Bancorp, Inc. ("Trust Preferred Securities") ............ 129,094 129,050
----------- -----------
STOCKHOLDERS' EQUITY
Common stock; no par value; 400,000,000 shares authorized;
186,164,360 shares issued at June 30, 1999 and 164,146,353 shares
issued at December 31, 1998 ....................................... 913,531 649,341
Unallocated common stock held by the Employee Stock Ownership
Plan at cost; 5,063,798 shares at June 30, 1999 and 4,340,572
shares at December 31, 1998 ....................................... (35,662) (26,892)
Treasury stock at cost; 123,658 shares at June 30, 1999 and 78,626
shares at December 31, 1998 ....................................... (1,578) (1,086)
Accumulated other comprehensive (loss)/income ....................... (77,660) 18,120
Retained earnings ................................................... 651,170 564,585
----------- -----------
TOTAL STOCKHOLDERS' EQUITY ........................................... 1,449,801 1,204,068
----------- -----------
TOTAL LIABILITIES, MINORITY INTERESTS AND
STOCKHOLDERS' EQUITY ........................................... $24,594,037 $21,913,873
=========== ===========
</TABLE>
Note: The balance sheet at December 31, 1998 is taken from Sovereign's audited
financial statements at that date, but does not include all of the information
and footnotes required by generally accepted accounting principles for complete
financial statements.
See accompanying notes to consolidated financial statements.
F-2
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(Continued)
<TABLE>
<CAPTION>
Six-Month Period
Ended June 30,
--------------------------
1999 1998
------------ -----------
<S> <C> <C>
Interest income:
Interest on interest-earning deposits ................................... $ 2,879 $ 3,331
Interest and dividends on investment securities available-for-sale ...... 251,302 102,410
Interest and dividends on investment securities held-to-maturity ........ 52,157 109,708
Interest and fees on loans .............................................. 439,134 440,523
--------- --------
Total interest income .................................................. 745,472 655,972
--------- --------
Interest expense:
Interest on deposits .................................................... 213,596 206,337
Interest on borrowings .................................................. 244,676 209,986
--------- --------
Total interest expense ................................................. 458,272 416,323
--------- --------
Net interest income ...................................................... 287,200 239,649
Provision for loan losses ................................................ 15,000 13,960
--------- --------
Net interest income after provision for loan losses ...................... 272,200 225,689
--------- --------
Other income:
Retail banking fees ..................................................... 21,870 13,800
Mortgage banking revenues ............................................... 18,951 14,620
Loan fees and service charges ........................................... 3,347 3,193
Gain on sale of loans and investment securities ......................... 6,770 6,127
Miscellaneous income .................................................... 14,656 9,819
--------- --------
Total other income ..................................................... 65,594 47,559
--------- --------
General and administrative expenses:
Compensation and benefits ............................................... 74,741 59,645
Occupancy and equipment expenses ........................................ 33,800 26,346
Outside services ........................................................ 33,155 19,435
Other administrative expenses ........................................... 27,943 23,896
--------- --------
Total general and administrative expenses .............................. 169,639 129,322
--------- --------
Other operating expenses:
Merger-related charges (1) .............................................. -- 39,072
Amortization of goodwill and other
intangibles ............................................................ 18,055 6,397
Trust Preferred Securities expense ...................................... 6,098 6,427
Real estate owned loss/(gain), net ...................................... 22 (13)
--------- --------
Total other operating expenses ......................................... 24,175 51,883
--------- --------
Income before income taxes ............................................... 143,980 92,043
Income tax provision ..................................................... 49,888 34,049
--------- --------
Net income (1)(2) ........................................................ $ 94,092 $ 57,994
========= ========
Net income applicable to common stock .................................... $ 94,092 $ 56,498
========= ========
Earnings per share (2)(3) ................................................ $ .58 $ .36
========= ========
Dividends paid per common share (3) ...................................... $ .047 $ .043
========= ========
</TABLE>
- ------------
(1) Results for the six-month period ended June 30, 1998 include merger charges
of $39.1 million ($25.5 million after-tax) and losses from non-recurring
sales of held-to-maturity securities of $0.5 million ($0.3 million
after-tax) related to Sovereign's acquisition of ML Bancorp during the
first quarter of 1998.
(2) Results for the six-month period ended June 30, 1998 include the
merger-related and special charges described in Note 1 above. Excluding
the merger-related and special charges, net income for the six-month
period ended June 30, 1998 was $83.5 million and earnings per share for
the same period was $.52.
(3) Per share amounts have been adjusted to reflect all stock dividends and
stock splits.
See accompanying notes to consolidated financial statements.
F-3
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(in thousands)
<TABLE>
<CAPTION>
Common
Shares Common Retained Treasury
Outstanding Stock Earnings Stock
------------- -------------- ------------ ------------
<S> <C> <C> <C> <C>
Balance, December 31, 1998 ................. 159,727 $649,341 $564,585 $ (1,086)
Comprehensive Income:
Net income .............................. -- -- 94,092 --
Change in unrecognized loss on
investment securities available-
for-sale, net of tax ................... -- -- -- --
Total comprehensive income
Exercise of stock options ................. 286 2,650 -- --
Cash in lieu of fractional shares ......... -- (1) -- --
Sale of stock under Dividend Rein-
vestment Plan and Employee Stock
Purchase Plan ........................... 169 2,149 -- --
Dividends paid on common stock ............ -- -- (7,507) --
Treasury stock repurchase ................. (3,080) -- -- (43,998)
Treasury stock sold ....................... 16 -- -- 148
Acquisition of Network Companies .......... 235 4,000 -- (1,000)
Acquisition of People's Bancorp, Inc. . 23,624 255,392 -- 44,358
------- --------- -------- ---------
Balance, June 30, 1999 ..................... 180,977 $913,531 $651,170 $ (1,578)
======= ========= ======== =========
</TABLE>
<TABLE>
<CAPTION>
Unallocated
Common Accumulated Other Total
Stock Held Comprehensive Stockholders'
by ESOP Income/(Loss) Equity
------------ ------------------- ----------------
<S> <C> <C> <C>
Balance, December 31, 1998 ....................... (26,892) $ 18,120 $1,204,068
Comprehensive income:
Net income ...................................... -- -- 94,092
Change in unrecognized loss on investment securi-
ties available-for-sale, net of tax ........... -- (95,780) (95,780)
----------
Total comprehensive income ...................... (1,688)
Exercise of stock options ....................... -- -- 2,650
Cash in lieu of fractional shares ............... -- -- (1)
Sale of stock under Dividend Reinvestment Plan
and Employee Stock Purchase Plan .............. -- -- 2,149
Dividends paid on common stock .................. -- -- (7,507)
Treasury stock repurchase ....................... -- -- (43,998)
Treasury stock sold ............................. -- -- 148
Acquisition of Peoples Bancorp, Inc. ............ (8,770) -- 290,980
Acquisition of Network Companies ................ -- -- 3,000
------- --------- -----------
Balance, June 30, 1999 ........................... $ (35,662) $ (77,660) $1,449,801
========= ========= ===========
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
<TABLE>
<CAPTION>
Six-Month Period Ended June 30,
---------------------------------
1999 1998
--------------- ---------------
(in thousands)
<S> <C> <C>
Cash Flows from Operating Activities:
Net income .......................................................................... $ 94,092 $ 57,994
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses and deferred taxes ....................................... 8,631 12,974
Depreciation ....................................................................... 8,148 6,834
Amortization ....................................................................... 23,656 4,699
Gain on sale of loans, investment securities and real estate owned ................. (6,792) (6,284)
Allocation of Employee Stock Ownership Plan ........................................ -- 15,310
Net Change in:
Loans held for sale ............................................................... 210,791 3,942
Accrued interest receivable ....................................................... (515) (23,443)
Prepaid expenses and other assets ................................................. (186,899) (554,392)
Other liabilities ................................................................. (211,829) 209,259
------------ ------------
Net cash used for operating activities ............................................... (60,717) (273,107)
------------ ------------
Cash Flows from investing Activities:
Proceeds from sales of investment securities available-for-sale ..................... 2,329,822 768,765
Proceeds from repayments and maturities of investment securities:
Available-for-sale ................................................................. 1,184,048 303,435
Held-to-maturity ................................................................... 566,293 1,359,878
Purchases of investment securities:
Available-for-sale ................................................................. (4,786,233) (4,044,128)
Held-to-maturity ................................................................... (21,683) (337,911)
Proceeds from sales of loans ........................................................ 837,822 8,211
Purchase of loans ................................................................... (549,460) (322,725)
Net change in loans other than purchases and sales .................................. (966,323) 938,334
Proceeds from sales of premises and equipment ....................................... 134 12,915
Purchases of premises and equipment ................................................. (17,838) (12,511)
Proceeds from sale of real estate owned ............................................. 11,423 9,844
Net cash paid for Network Companies ................................................. (1,696) --
Net cash received from Peoples Bancorp, Inc. ........................................ 114,694 --
Other, net .......................................................................... -- (4,228)
------------ ------------
Net cash used for investing activities ............................................... (1,298,997) (1,320,121)
------------ ------------
Cash Flows from Financing Activities:
Net (decrease)/increase in deposits ................................................. (666,305) 409,337
Net increase to short-term borrowings ............................................... 1,513,733 87,916
Proceeds from long-term borrowings .................................................. 744,996 1,348,000
Repayments of long-term borrowing ................................................... (149,302) (4,425)
Net increase in advance payments by borrowers for taxes and insurance ............... 7,838 5,824
Cash dividends paid to stockholders ................................................. (7,507) (7,873)
Redemption of preferred stock ....................................................... -- 147
Proceeds from issuance of common stock .............................................. 4,798 7,262
Advance to the Employee Stock Ownership Plan ........................................ (437) --
(Purchase)/issuance of treasury stock ............................................... (43,850) 36
------------ ------------
Net cash provided by financing activities ............................................ 1,403,964 1,846,224
------------ ------------
Net change in cash and cash equivalents .............................................. 44,250 252,996
Cash and cash equivalent at beginning of period ...................................... 553,724 255,937
------------ ------------
Cash and cash equivalents at end of period ........................................... $ 597,974 $ 508,933
============ ============
Reconciliation of Cash and Cash Equivalents to Consolidated Balance Sheets:
Cash and amounts due from depository institutions .................................... $ 472,780 $ 384,021
Interest-earning deposits ............................................................ 125,194 124,912
------------ ------------
Cash and cash equivalents at end of period ........................................... $ 597,974 $ 508,933
============ ============
</TABLE>
<PAGE>
Supplemental Disclosures:
Income tax payments totaled $62.1 million for the six-month period ended June
30, 1999 and $34.5 million for the same period in 1998. Interest payments
totaled $433 million for the six-month period ended June 30, 1999 and $427
million for the same period in 1998. Noncash activity consisted of mortgage or
whole loan sales of $732 million for the six-month period ended June 30, 1999
and $394 million for the same period in 1998; reclassification of long-term
borrowings to short-term borrowings of $322 million for the six-month period
ended June 30, 1999 and $436 million for the same period in 1998; and
reclassification of mortgage loans to real estate owned of $8.7 million for the
six-month period ended June 30, 1999 and $7.5 million for the same period in
1998.
See accompanying notes to consolidated financial statements.
F-5
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(1) BASIS OF PRESENTATION AND ACCOUNTING POLICIES
Basis of Presentation
The accompanying financial statements of Sovereign Bancorp, Inc. and
Subsidiaries ("Sovereign") include the accounts of the parent company,
Sovereign Bancorp, Inc. and its wholly-owned subsidiaries: Sovereign Bank,
Sovereign Delaware Investment Corporation, Sovereign Capital Trust I and ML
Capital Trust I. All material intercompany balances and transactions have been
eliminated in consolidation. These financial statements have been prepared in
accordance with the instructions for Form 10-Q and therefore do not include
certain information or footnotes necessary for the presentation of financial
condition, results of operations, stockholders' equity, and cash flows in
conformity with generally accepted accounting principles. However, in the
opinion of management, the consolidated financial statements reflect all
adjustments (which consist of normal recurring accruals) necessary for a fair
presentation of the results for the unaudited periods. The preparation of these
financial statements in conformity with generally accepted accounting
principles requires management to make estimates and assumptions that affect
the amounts reported in the financial statements and accompanying notes. Actual
results could differ from those estimates. Certain amounts in the financial
statements of prior periods have been reclassified to conform with the
presentation used in current period financial statements. These
reclassifications have no effect on net income.
The financial statements for all periods presented include the
consolidated accounts of ML Bancorp, Inc. ("ML Bancorp") which was acquired on
February 28, 1998, Carnegie Bancorp ("Carnegie") and First Home Bancorp Inc.
("First Home") which were both acquired on July 31, 1998. These transactions
were each accounted for under the pooling-of-interests method of accounting.
The financial statements for the period ended June 30, 1999 include the
consolidated accounts of Peoples Bancorp, Inc. ("Peoples") and The Network
Companies ("Network") which were each accounted for as a purchase during June
1999. Since the Peoples' acquisition was accounted for at the close of business
on June 30, 1999, Sovereign's consolidated results of operations for the
three-month and six-month periods ended June 30, 1999 do not include Peoples'
results of operations. The results of operations for the six-month period ended
June 30, 1999 are not necessarily indicative of the results which may be
expected for the entire year. The consolidated financial statements should be
read in conjunction with Form 10-K/A for the year ended December 31, 1998.
Allowance for Loan Losses
The adequacy of Sovereign's allowance for loan losses is regularly
evaluated. Management's evaluation of the adequacy of the allowance to absorb
potential loan losses takes into consideration the risks inherent in the loan
portfolio, past loan loss experience, specific loans which have loss potential,
geographic and industry concentrations, delinquency trends, economic
conditions, the level of originations and other relevant factors. Management
also considers loan quality, changes in the size and character of the loan
portfolio, consultation with regulatory authorities, amount of non-performing
loans, delinquency trends, economic conditions and industry trends when
determining the unallocated allowance. For additional information on
Sovereign's allowance for loan losses, see "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Allowance for Loan
Losses."
(2) EARNINGS PER SHARE
Basic earnings per share is calculated by dividing income available to
common stockholders by the weighted average common shares outstanding,
excluding options, warrants, and convertible securities from the calculation.
In calculating diluted earnings per share, the dilutive effect of options and
warrants is calculated using the treasury stock method, which uses the average
market price for the period. The dilutive effect of preferred stock continues
to be calculated using the if-converted method. On May 15, 1998, Sovereign
redeemed all outstanding shares of its 61/4% Cumulative Convertible Preferred
Stock, Series B.
F-6
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
(Unaudited)
(2) EARNINGS PER SHARE -- (Continued)
The following table presents the computation of earnings per share for the
periods indicated (in thousands, except per share data).
<TABLE>
<CAPTION>
Six-Month Period
Ended June 30,
---------------------------
1999 1998
------------ ------------
<S> <C> <C>
Basic Earnings Per Share:
Net income attributable to common stock(1) ....................................... $ 94,092 $ 56,498
--------- ---------
Average basic shares outstanding at end of period(3) ............................. 159,140 146,481
========= =========
Basic earnings per share (2)(3) .................................................. $ .59 $ .39
========= =========
Diluted Earnings Per Share:
Net income (1) ................................................................... $ 94,092 $ 57,994
--------- ---------
Average diluted shares outstanding at end of period (3) .......................... 159,140 157,176
Dilutive effect of average stock options, net of shares assumed to be repurchased
under the treasury stock method (3) ............................................. 1,889 3,730
--------- ---------
Total average diluted shares outstanding at end of period (3) .................... 161,029 160,906
========= =========
Diluted earnings per share (2)(3) ................................................ $ .58 $ .36
========= =========
</TABLE>
- ------------
(1) Results for the six-month period ended June 30, 1998 include merger charges
of $25.5 million (after-tax) and losses from non-recurring sales of
held-to-maturity securities of $0.3 million (after-tax) related to
Sovereign's acquisition of ML Bancorp during the first quarter of 1998.
(2) Results for the six-month period ended June 30, 1998 include the
merger-related and special charges described in Note 1 above. Excluding
the merger-related and special charges, basic earnings per share and
diluted earnings per share for the six-month period ended June 30, 1998
were $.56 and $.52, respectively.
(3) All share data has been adjusted to reflect all stock dividends and stock
splits.
F-7
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
(Unaudited)
(3) INVESTMENT SECURITIES AVAILABLE-FOR-SALE
The following table presents the composition and fair value of investment
securities available-for-sale at the dates indicated: (dollars in thousands)
<TABLE>
<CAPTION>
June 30, 1999
--------------------------------------------------------------
Amortized Unrealized Unrealized Fair
Cost Appreciation Depreciation Value
------------- -------------- -------------- ------------
<S> <C> <C> <C> <C>
Investment Securities:
U.S. Treasury and government agency
securities .......................................... $ 65,843 $ 16 $ 265 $ 65,594
Corporate securities .................................. 829,997 942 18,314 812,625
Equity securities ..................................... 928,402 13,471 9,033 932,840
Other securities ...................................... 71,279 1,094 945 71,428
Mortgage-backed Securities:
FHLMC ................................................. 161,402 716 5,830 156,288
FNMA .................................................. 272,390 393 2,158 270,625
GNMA .................................................. 115,564 407 2,865 113,106
Collateralized mortgage Obligations ................... 3,425,714 1,491 38,340 3,388,865
Other securities ...................................... 2,937,376 -- 60,547 2,876,829
---------- ------- -------- ----------
Total investment securities available-for-sale ......... $8,807,967 $18,530 $138,297 $8,688,200
========== ======= ======== ==========
</TABLE>
<TABLE>
<CAPTION>
December 31, 1998
--------------------------------------------------------------
Amortized Unrealized Unrealized Fair
Cost Appreciation Depreciation Value
------------- -------------- -------------- ------------
<S> <C> <C> <C> <C>
Investment Securities:
U.S. Treasury and government agency
securities ...................................... $ 35,480 $ 1 $ 64 $ 35,417
Corporate securities .............................. 38,784 1,413 121 40,076
Equity securities ................................. 881,817 15,545 10,381 886,981
Other securities .................................. 8,360 972 -- 9,332
Mortgage-backed Securities:
FHLMC ............................................. 85,761 867 264 86,364
FNMA .............................................. 40,645 335 57 40,923
GNMA .............................................. 42,434 749 14 43,169
Collateralized mortgage obligations ............... 3,531,948 11,214 2,785 3,540,377
Other securities .................................. 1,969,322 15,976 5,510 1,979,788
---------- ------- ------- ----------
Total investment securities available-for-sale ..... $6,634,551 $47,072 $19,196 $6,662,427
========== ======= ======= ==========
</TABLE>
F-8
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
(Unaudited)
(4) INVESTMENT SECURITIES HELD TO MATURITY
The following table presents the composition and fair value of investment
securities available-for-sale at the dates indicated: (dollars in thousands)
<TABLE>
<CAPTION>
June 30, 1999
---------------------------------------------------------------
Amortized Unrealized Unrealized Fair
Cost Appreciation Depreciation Value
------------- -------------- -------------- -------------
<S> <C> <C> <C> <C>
Investment Securities:
U.S. Treasury and government agency
securities ........................................ $ 22,331 $ 8 $ 322 $ 22,017
Corporate securities ................................ -- -- -- --
Other Securities .................................... 51,683 2,439 138 53,984
Mortgage-backed Securities:
FHLMC ............................................... 199,317 2,860 267 201,910
FNMA ................................................ 137,637 2,053 159 139,531
GNMA ................................................ 240,243 2,686 49 242,880
Private issues ...................................... 59,990 564 95 60,459
Collateralized mortgage Obligations ................. 596,680 4,009 2,276 598,413
---------- ------- ------ ----------
Total investment securities held-to-maturity ......... $1,307,881 $14,619 $3,306 $1,319,194
========== ======= ====== ==========
</TABLE>
<TABLE>
<CAPTION>
December 31, 1998
---------------------------------------------------------------
Amortized Unrealized Unrealized Fair
Cost Appreciation Depreciation Value
------------- -------------- -------------- -------------
<S> <C> <C> <C> <C>
Investment Securities:
U.S. Treasury and government agency
securities ........................................ $ 31,180 $ 151 $ 78 $ 31,253
Corporate securities ................................ -- -- -- --
Other securities .................................... 54,481 3,691 122 58,050
Mortgage-backed Securities:
FHLMC ............................................... 242,558 4,733 104 247,187
FNMA ................................................ 176,167 3,371 85 179,453
GNMA ................................................ 292,664 6,009 -- 298,673
Private issues ...................................... 74,523 1,165 136 75,552
Collateralized mortgage obligations ................. 968,082 4,541 2,208 970,415
---------- ------- ------ ----------
Total investment securities held-to-maturity ......... $1,839,655 $23,661 $2,733 $1,860,583
========== ======= ====== ==========
</TABLE>
F-9
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
(Unaudited)
(5) COMPOSITION OF LOAN PORTFOLIO
The following table presents the composition of the loan portfolio by type
of loan and by fixed and adjustable rates at the dates indicated: (dollars in
thousands)
<TABLE>
<CAPTION>
June 30, 1999 December 31, 1998
------------------------- --------------------------
Amount Percent Amount Percent
<S> <C> <C> <C> <C>
Residential real estate loans .......... $ 4,985,060 40.0% $ 5,113,537 45.3%
Residential construction loans ......... 56,249 .4 62,536 .6
----------- ----- ----------- -----
Total Residential Loans .............. 5,041,309 40.4 5,176,073 45.9
----------- ----- ----------- -----
Commercial real estate loans ........... 1,258,277 10.1 887,938 7.9
Commercial loans ....................... 813,833 6.5 717,440 6.4
Automotive floor plan loans ............ 946,129 7.6 578,147 5.1
Multi-family Loans ..................... 220,517 1.8 115,195 1.0
----------- ----- ----------- -----
Total Commercial Loans ............... 3,238,756 26.0 2,298,720 20.4
----------- ----- ----------- -----
Home Equity Loans ...................... 1,720,125 13.8 1,750,883 15.5
Auto Loans ............................. 1,887,233 15.1 1,510,676 13.4
Loans to automotive lessors ............ 307,937 2.4 252,856 2.2
Student Loans .......................... 248,380 2.0 256,744 2.3
Other .................................. 33,257 .3 39,888 .3
----------- ----- ----------- -----
Total Consumer Loans ................. 4,196,932 33.6% 3,811,047 33.7%
----------- ----- ----------- -----
Total Loans (1) .................... $12,476,997 100.0% $11,285,840 100.0%
=========== ===== =========== =====
Total Loans with: (2)
Fixed rates .......................... $ 7,240,187 58.0% $ 5,798,158 51.4%
Variable rates ....................... 5,236,810 42.0 5,487,682 48.6
----------- ----- ----------- -----
Total Loans (1) .................... $12,476,997 100.0% $11,285,840 100.0%
=========== ===== =========== =====
</TABLE>
- ------------
(1) Loan totals are net of deferred loan fees and unamortized premiums and
discounts of $16.8 million at June 30, 1999 and $16.9 million at December
31, 1998.
(2) Loan totals do not reflect the impact of off-balance sheet interest rate
swaps used for interest rate risk management as discussed in "Management's
Discussion and Analysis of Financial Condition and Results of Operations
-- Loan Portfolio."
<PAGE>
(6) DEPOSIT PORTFOLIO COMPOSITION
The following table presents the composition of deposits at the dates
indicated: (dollars in thousands)
<TABLE>
<CAPTION>
June 30, 1999 December 31, 1998
-------------------------------------- -------------------------------------
Weighted Weighted
Average Average
Amount Percent Rate Amount Percent Rate
------------- --------- ---------- ------------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Demand deposit accounts ......... $ 1,186,092 9.7% -- % $ 1,104,170 9.0% -- %
NOW accounts .................... 1,646,758 13.5 2.11 1,281,516 10.4 1.24
Savings accounts ................ 2,241,930 18.4 2.49 2,295,448 18.6 2.83
Money market accounts ........... 1,419,832 11.7 3.49 1,545,634 12.5 3.78
Retail certificates ............. 5,085,495 41.8 4.93 5,172,196 42.0 5.24
Jumbo certificates .............. 590,363 4.9 5.00 923,752 7.5 5.40
----------- ----- ---- ----------- ----- ----
Total Deposits .................. $12,170,470 100.0% 3.45% $12,322,716 100.0% 3.73%
=========== ===== ==== =========== ===== ====
</TABLE>
F-10
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
(Unaudited)
(7) BORROWINGS
The following table presents information regarding borrowings at the dates
indicated: (dollars in thousands)
<TABLE>
<CAPTION>
June 30, 1999 December 31, 1998
------------------------------ -----------------------------
Weighted Weighted
Balance Average Rate Balance Average Rate
------------- -------------- ------------- -------------
<S> <C> <C> <C> <C>
Securities sold under repurchase agreements ........... $ 1,322,018 5.20% $ 655,540 5.46%
Federal Home Loan Bank of Pittsburgh advances ......... 8,948,460 5.05 6,901,505 5.14
Other borrowings ...................................... 398,007 7.55 343,547 8.19
----------- ----- ---------- -----
Total Borrowings ................................... $10,668,485 5.16% $7,900,592 5.30%
=========== ===== ========== =====
</TABLE>
(8) INTEREST RATE EXCHANGE AGREEMENTS
Amortizing and non-amortizing interest rate swaps are generally used to
convert fixed rate assets and liabilities to variable rate assets and
liabilities and vice versa. Interest rate caps are primarily used to limit the
exposure from the repricing and maturity of liabilities. Interest rate floors
are primarily used to limit the exposure from repricing and maturity of assets.
Interest rate caps and floors are also used to limit the exposure created by
other interest rate swaps. In certain cases, interest rate caps and floors are
simultaneously bought and sold to create a range of protection (interest rate
corridors) against changing interest rates while limiting the cost of that
protection. The following table presents information regarding interest rate
exchange agreements at the dates indicated: (dollars in thousands)
<TABLE>
<CAPTION>
June 30, 1999
------------------------------------------------------
Weighted
Average
Notional Book Estimated Maturity in
Amount Value Fair Value Years
------------ --------- ------------ ------------
<S> <C> <C> <C> <C>
Amortizing interest rate swaps:
Pay fixed-receive variable (1) ......... $ $ $
Non-amortizing interest rate swaps:
Pay variable-receive fixed (2) ......... 85,000 -- (2,204) 13.5
Pay fixed-receive variable (3) ......... 920,000 -- 7,828 1.5
Interest rate caps/floors (4) ........... 1,200,000 5,850 (2,585) 2.9
---------- ------ --------
$2,205,000 $5,850 $ 3,039
========== ====== ========
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
December 31, 1998
------------------------------------------------------
Weighted
Average
Notional Book Estimated Maturity in
Amount Value Fair Value Years
------------ --------- ------------ ------------
<S> <C> <C> <C> <C>
Amortizing interest rate swaps:
Pay fixed-receive variable (1) ......... $ 175,164 $ $ (617) .3
Non-amortizing interest rate swaps:
Pay variable-receive fixed (2) .........
Pay fixed-receive variable (3) ......... 2,780,000 -- (48,382) 4.8
Interest rate caps/floors (4) ........... 1,200,000 7,213 (6,756) 3.2
---------- ------ ---------
$4,155,164 $7,213 $ (55,755)
========== ====== =========
</TABLE>
- ------------
(1) The weighted average pay rate was 6.87% and the weighted average receive
rate was 5.99% at December 31, 1998.
F-11
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
(Unaudited)
(8) INTEREST RATE EXCHANGE AGREEMENTS -- (Continued)
(2) The weighted average pay rate was 5.08% and the weighted average receive
rate was 7.07% at June 30, 1999.
(3) The weighted average pay rate was 5.70% and 5.42% and the weighted average
receive rate was 5.13% and 5.26% at June 30, 1999 and December 31, 1998,
respectively.
(4) The strike price range was 5.79% - 6.08% at June 30, 1999 and 5.25% - 9.00%
at December 31, 1998.
The following table summarizes by notional amounts the activity of
Sovereign's interest rate exchange agreements: (dollars in thousands)
<TABLE>
<CAPTION>
Balance Balance
December 31, Maturities/ June 30,
1998 Additions Amortization Terminations 1999
-------------- ----------- -------------- -------------- ------------
<S> <C> <C> <C> <C> <C>
Amortizing interest rate swaps ......... $ 175,164 $ -- $175,164 $ -- $ --
Non-amortizing interest rate swaps 2,780,000 185,000 -- 1,960,000 1,005,000
Interest rate caps/floors .............. 1,200,000 -- -- -- 1,200,000
---------- -------- -------- ---------- ----------
$4,155,164 $185,000 $175,164 $1,960,000 $2,205,000
========== ======== ======== ========== ==========
</TABLE>
Net interest expense resulting from interest rate exchange agreements for
the six-month period ended June 30, 1999 was $6.6 million.
(9) ACQUISITIONS
On September 4, 1998, Sovereign acquired 93 former CoreStates Financial
Corp. ("CoreStates") branch offices from First Union Corporation ("First
Union"). The former CoreStates offices are located throughout Pennsylvania and
New Jersey and added approximately $2.2 billion of commercial bank deposits and
$725 million of commercial and consumer loans to Sovereign's balance sheet. The
transaction was accounted for as a purchase. Sovereign paid a premium of $325
million for the CoreStates branches, of which $226 million was allocated to a
core deposit intangible and of which $99 million was allocated to goodwill.
Additionally, Sovereign established an initial loan loss reserve of $20.5
million in connection with the loans acquired from CoreStates. The goodwill and
core deposit intangible are being amortized over approximately 25 years and 10
years, respectively. Sovereign's results of operations include the operations
of the aforementioned branches from September 4, 1998 and thereafter.
On June 30, 1999, Sovereign completed its acquisition of Peoples Bancorp,
Inc. ("Peoples"), a $1.4 billion bank holding company headquartered in
Lawrenceville, New Jersey whose principal operating subsidiary operated 14
community banking offices in Mercer, Burlington and Ocean counties, New Jersey.
The transaction added investments, loans, deposits and stockholders' equity to
Sovereign of approximately $922 million, $503 million, $515 million and $291
million, respectively. In accordance with the merger agreement, Peoples' common
stock shareholders received .80 shares of Sovereign common stock for each
outstanding share of Peoples common stock. Sovereign issued approximately 23.6
million shares of Sovereign common stock in connection with the transaction,
which was accounted for as a purchase. The allocation of the purchase price for
the Peoples' acquisition as of June 30, 1999, is preliminary and Sovereign
expects to finalize the allocation in the third quarter of 1999. Sovereign does
not expect a material difference between the preliminary and final purchase
price allocation. The pro forma effect of this acquisition on operations was
not material for the second quarter.
On June 24, 1999, Sovereign acquired The Network Companies ("Network"), a
privately held specialty leasing company headquartered in Commack, New York.
Network provides financing for the purchase or lease of equipment and specialty
vehicles plus other specialty products for businesses throughout the United
States, with transactions ranging from $15,000 to $250,000. The purchase price
of $6 million consisted of $4 million
F-12
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
(Unaudited)
(9) ACQUISITIONS -- (Continued)
of stock and $2 million of cash. The acquisition was accounted for as a
purchase for reporting purposes and became a division of Sovereign Bank.
Network had total assets of approximately $50 million. The pro forma effect of
this acquisition on operations was not material or the second quarter.
(10) COMPREHENSIVE INCOME
The following table presents the components of comprehensive income, net
of related tax, based on the provisions of SFAS No. 130 for the periods
indicated: (dollars in thousands)
<TABLE>
<CAPTION>
Six-Month Period
Ended June 30,
1999 1998
------------ ----------
<S> <C> <C>
Net income ................................................................ $ 94,092 $57,994
--------- -------
Unrealized (losses)/gains on securities arising during the year ........... (94,173) 2,728
Less reclassification adjustment .......................................... 1,607 2,170
--------- -------
Net unrealized (losses)/gains recognized in other comprehensive income .... (95,780) 558
--------- -------
Comprehensive (loss)/income (1) ........................................... $ (1,688) $58,552
========= =======
</TABLE>
- ------------
(1) Excluding merger-related and special charges, comprehensive income for the
six-month period ended June 30, 1998 was $84.1 million.
Accumulated other comprehensive income, net of related tax, consisted of
net unrealized losses on securities of $77.7 million at June 30,1999 and net
unrealized gains on securities of $18.1 million at December 31, 1998.
(11) RECENT DEVELOPMENTS
The Year 2000 Computer Issue. The Year 2000 ("Year 2000") computer issue
refers to the inability of many computers, computer-based systems, related
software, and other electronics to process dates accurately during the year
2000 and beyond. Many of these computers, systems, software programs and
devices use only two digits to indicate the year. For example, the year 1998 is
input, stored and calculated as "98." The year 2000 will in many systems and
software programs be represented as "00," but "00" can also be read as 1900.
This ambiguity may cause errors which may cause the computer, system or device
to fail completely, cause programs to operate incorrectly, or slowly corrupt or
contaminate data over time. These problems may arise both in information
systems used for data storage and processing, and in connection with mechanical
systems such as bank vaults, elevators, escalators, heating, ventilating and
air conditioning systems, and other systems which use embedded microprocessors
as timers or for other purposes.
Sovereign's State of Readiness. Sovereign's Year 2000 readiness project
has five phases:
Inventory -- identification of the computers, software, systems and
devices used by Sovereign and the business applications to which such
computers, programs, systems and devices are devoted.
Assessment -- analyzing those computers, software, systems, devices and
related applications with a view to determining if they store or process date
information in a manner which will avoid millennial errors of the type
described above, the risks resulting from any such errors and prioritizing them
based on how critical they are to Sovereign's business operations.
Remediation -- modification or replacement of deficient computers,
programs, systems and devices to the extent such deficiency poses material risk
to Sovereign.
F-13
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
(Unaudited)
(11) RECENT DEVELOPMENTS -- (Continued)
Testing -- the modified or new computers, software or systems are tested
to determine if they operate and interoperate in a manner which should reduce
risk to an acceptable level. Items are addressed in accordance with the
priorities given to them in the Assessment Phase.
Implementation -- bringing the new or changed computers, software, systems
and electronics on line.
Sovereign is currently in the implementation phase. Sovereign had
substantially completed testing of its internal mission-critical items as of
December 31, 1998 and had substantially completed testing of its external
mission critical items as of March 31, 1999. "Internal" items would include
software developed by Sovereign or the remediation of which is controlled by
Sovereign, whereas external items would include software provided by others,
and systems provided by Sovereign's service providers. As of June 30, 1999,
Sovereign has completed the implementation phase for all mission-critical
items.
The description set forth above applies to both information technology
("IT") systems and non-IT systems, such as embedded microprocessors.
As part of its Year 2000 project, Sovereign has also endeavored to analyze
the risks posed to it by its material borrowers according to regulatory
guidelines. Borrowers whose businesses have been determined by Sovereign to be
subject to material levels of risk from Year 2000 computer problems have been
questioned regarding their own state of readiness. Sovereign has similarly
questioned providers of funds and substantial vendors and suppliers. Vendors
whom Sovereign considers to be critical to Sovereign's operations have been
asked, in addition, to provide Sovereign with assurances and other evidence as
to their Year 2000 readiness.
Costs. Sovereign has established a budget for its Year 2000 project costs,
which covers the estimated costs of remediation, including modification or
replacement of systems and software, utilization of outside consultants, and
costs of internal personnel. Based on Sovereign's current assessment of its
Year 2000 project status, the amount of this budget is $13.5 million for fiscal
1998 and 1999. Sovereign is using its internal funds for this project.
Sovereign's expenditures with regard to its Year 2000 project are
substantially in accordance with its current budget. Through August 10, 1999,
Sovereign's cash outlay was approximately $12.5 million of its $13.5 million
budget.
Sovereign's estimates are, of necessity, judgmental and subject to
revision based on the results of the testing referred to above and other
changed facts or circumstances, including changes in Sovereign's assessment of
the state of readiness and contingency plans of its principal outside service
providers.
Risks. Sovereign believes, based on the advice of its consultants, that
the most reasonably likely worst case Year 2000 scenario relates to its
principal outside service providers, substantially all of which are large,
seasoned, national companies experienced in serving financial institutions.
Sovereign depends on these service providers for substantially all of its data
processing needs relating to its account processing, item processing and other
important functions. Sovereign is requiring material providers to provide
evidence and other assurance of this compliance and/or their progress towards
compliance, as well as their contingency plans. Certain of these service
providers are also subject to the jurisdiction of the regulatory bodies which
have jurisdiction over Sovereign. Those regulatory bodies are examining the
service providers with respect to Year 2000 readiness using the same standards
and deadlines as the regulators use to examine financial institutions and
Sovereign has reviewed the results of certain of these examinations to assist
in assessing the state of readiness and contingency plans of such providers.
Based on all of the foregoing, Sovereign believes that (i) its providers will
be substantially Year 2000 compliant and (ii) have adequate contingency plans
to address compliance. Notwithstanding the foregoing, no assurances can be
given that a service providers' system or software will not fail and, if not,
that such failure will not have a material adverse effect on Sovereign or its
business. Sovereign is presently in the process of developing contingency plans
to deal with issues relating to the failure of system segments.
F-14
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
(Unaudited)
(11) RECENT DEVELOPMENTS -- (Continued)
In addition, utility services, which are generally beyond Sovereign's
control, may present a significant Year 2000 risk. In particular, disruption of
telecommunication and electric utility service because of a Year 2000 related
problem (or otherwise) could interfere significantly with Sovereign's
operations, even if Sovereign and its service providers and customers, and
their computers, systems, and software, are fully Year 2000 compliant.
The foregoing is a summary of the steps which Sovereign has taken as of
June 30, 1999 and proposed to take as of that date with respect to the Year
2000 issue, and the risks which Sovereign, at this time, believes the Year 2000
issues are likely to present. Sovereign is using good faith efforts, which it
believes are reasonable, to prepare for the Year 2000 issue and avoid
disruption in its business. Nonetheless, the Year 2000 issue presents an
unprecedented challenge to the financial services industry, an industry
characterized by a high degree of interdependence among financial institutions
and those who deal with and service them, such as outside data processing
services, computer network system providers, local and long distance
telecommunications companies, utilities, and ATM terminal service providers.
Whether these outside parties are ready for the year 2000 is largely beyond
Sovereign's control. Accordingly, there can be no assurance that (i)
Sovereign's assessment of the Year 2000 risks will prove to be correct; (ii)
the steps Sovereign is taking will be sufficient to avoid disruption to its
business and other material risks; (iii) the foregoing will not ultimately have
a material adverse effect on Sovereign and its business.
F-15
<PAGE>
Report of Independent Auditors
The Board of Directors and Stockholders,
Sovereign Bancorp, Inc.
We have audited the accompanying consolidated balance sheets of Sovereign
Bancorp, Inc. as of December 31, 1998 and 1997, and the related consolidated
statements of operations, stockholders' equity and cash flows for each of the
three years in the period ended December 31, 1998. These financial statements
are the responsibility of the management of Sovereign. Our responsibility is to
express an opinion on these financial statements based on our audits. We did
not audit the 1997 and 1996 financial statements of ML Bancorp, Inc., Carnegie
Bancorp, or First Home Bancorp Inc. or the 1996 financial statements of First
State Financial Services, Inc. and Bankers Corp., which combined statements
reflect total assets constituting 18.8% as of December 31, 1997 of the related
consolidated financial statement totals, and combined net interest income
constituting 21.1% and 44.0% in 1997 and 1996 respectively, of the related
consolidated financial statement totals for each of the two years in the period
ended December 31, 1997. Those statements were audited by other auditors whose
reports have been furnished to us, and our opinion, insofar as it relates to
data included for ML Bancorp, Inc., Carnegie Bancorp, First Home Bancorp Inc.,
First State Financial Services, Inc., and Bankers Corp. for the respective
years noted, is based solely on the reports of the other auditors.
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 and the reports of other
auditors provide a reasonable basis for our opinion.
In our opinion, based on our audits and the reports of other auditors, the
consolidated financial statements referred to above present fairly, in all
material respects, the consolidated financial position of Sovereign Bancorp,
Inc. at December 31, 1998 and 1997, and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
December 31, 1998, in conformity with generally accepted accounting principles.
In 1997, Sovereign changed its method of accounting for transfers of
financial instruments and extinguishment of liabilities, as discussed in Note 1
to the consolidated financial statements.
/s/ Ernst & Young LLP
March 11, 1999
Philadelphia, Pennsylvania
F-16
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
Year Ended December 31,
---------------------------------
1998 1997
--------------- ---------------
(in thousands except for share
data)
<S> <C> <C>
Assets
Cash and amounts due from depository institutions ............... $ 471,074 $ 238,623
Interest-earning deposits ....................................... 82,650 17,314
Loans held for sale (approximate fair value of $297,414 and
$310,750 at December 31, 1998 and 1997, respectively) ......... 296,930 310,678
Investment securities available-for-sale ........................ 6,662,427 1,956,262
Investment securities held-to-maturity (approximate fair value
of $1,860,583 and $3,446,863 at December 31, 1998 and
1997, respectively) ........................................... 1,839,655 3,416,451
Loans ........................................................... 11,285,840 11,324,122
Allowance for loan losses ....................................... (133,802) (116,823)
Premises and equipment .......................................... 98,491 92,273
Other real estate owned and other repossessed assets ............ 15,584 12,009
Accrued interest receivable ..................................... 147,441 108,029
Goodwill and other intangible assets ............................ 425,925 126,332
Other assets .................................................... 721,658 170,185
----------- -----------
Total Assets .................................................. $21,913,873 $17,655,455
=========== ===========
Liabilities
Deposits ........................................................ $12,322,716 $ 9,515,294
Borrowings
Short-term .................................................... 3,921,684 5,455,894
Long-term ..................................................... 3,978,908 1,407,749
Advance payments by borrowers for taxes and insurance ........... 27,655 41,847
Other liabilities ............................................... 329,792 57,904
----------- -----------
Total Liabilities ............................................. 20,580,755 16,478,688
----------- -----------
Corporation-obligated mandatorily redeemable capital securities
of subsidiary trust holding solely subordinated debentures of
Sovereign Bancorp, Inc. ("Trust Preferred Securities") .......... 129,050 128,972
----------- -----------
Stockholders' Equity
Preferred stock; no par value; $50 Liquidation preference;
7,500,000 shares authorized; 1,996,467 shares issued and out-
standing at December 31, 1997 ................................... --- 96,276
Common stock; no par value; 200,000,000 shares authorized;
164,146,353 shares issued at December 31, 1998 and
147,216,301 shares issued at December 31, 1997 .................. 649,341 523,327
Unallocated common stock held by the Employee Stock Owner-
ship Plan at cost; 4,340,572 shares at December 31, 1998 and
5,984,934 shares at December 31, 1997 ........................... (26,892) (37,211)
Treasury stock; at cost; 78,626 shares at December 31, 1998 and
13,210 shares at December 31, 1997 .............................. (1,086) (185)
Accumulated other comprehensive income ........................... 18,120 18,944
Retained earnings ................................................ 564,585 446,644
----------- -----------
Total Stockholders' Equity ...................................... 1,204,068 1,047,795
----------- -----------
Total Liabilities, Monthly Interests and Stockholders' Equity $21,913,873 $17,655,455
=========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
F-17
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Year Ended December 31,
--------------------------------------------
1998 1997 1996
------------ ------------ --------------
(in thousands except for share data)
<S> <C> <C> <C>
Interest Income:
Interest on interest-earning deposits ......................... $ 7,397 $ 5,392 $ 4,103
Interest and dividends on investment securities available-for-
sale ........................................................ 284,392 102,123 84,656
Interest and dividends on investment securities held-to-
maturity .................................................... 182,499 279,900 250,938
Interest and fees on loans .................................... 881,083 791,362 677,129
--------- --------- -----------
Total interest income ......................................... 1,355,371 1,178,777 1,016,826
--------- --------- -----------
Interest Expense:
Interest on deposits .......................................... 440,300 378,813 351,084
Interest on borrowings ........................................ 421,459 367,882 278,776
--------- --------- -----------
Total interest expense ........................................ 861,759 746,695 629,860
--------- --------- -----------
Net interest income ........................................... 493,612 432,082 386,966
Provision for loan losses ...................................... 27,961 41,125 22,685
--------- --------- -----------
Net interest income after provision for loan losses ........... 465,651 390,957 364,281
--------- --------- -----------
Other Income:
Loan fees and service charges ................................. 10,546 5,780 19,607
Deposit fees .................................................. 26,088 20,892 18,110
Mortgage banking gains ........................................ 24,738 21,693 13,858
Gain/(Loss) on sale of loans and investment securities ......... 19,844 (7,192) 5,893
Miscellaneous income .......................................... 23,965 7,515 5,911
--------- --------- -----------
Total other income ............................................. 105,181 48,688 63,379
--------- --------- -----------
General and administrative expenses:
Salaries and employee benefits ................................ 124,357 105,487 99,368
Occupancy and equipment expenses .............................. 53,837 41,067 37,205
Outside services .............................................. 47,523 28,708 36,459
Deposit insurance premiums .................................... 4,652 4,471 13,253
Other administrative expenses ................................. 46,992 45,222 42,078
--------- --------- -----------
Total general and administrative expenses ................... 277,361 224,955 228,363
--------- --------- -----------
Other operating expenses:
Merger-related charges ........................................ 49,932 19,224 --
Non-recurring Savings Association Insurance Fund
assessment .................................................. -- -- 40,148
Amortization of goodwill and other intangibles ................ 20,609 13,160 17,372
Trust Preferred Securities expense ............................ 12,528 11,677 274
Other real estate owned (gains)/losses, net ................... (804) 767 3,616
--------- --------- -----------
Total other operating expenses .............................. 82,265 44,828 61,410
--------- --------- -----------
Income before income taxes ..................................... 211,206 169,862 137,887
Income tax provision ........................................... 74,751 67,324 47,509
--------- --------- -----------
Net income ..................................................... $136,455 $102,538 $ 90,378
--------- --------- -----------
Net income applicable to common stock .......................... $134,959 $ 96,294 $ 84,128
========= ========= ===========
Basic earnings per share(1) .................................... $ .88 $ .70 $ .63
========= ========= ===========
Diluted earnings per share(1) .................................. $ .85 $ .66 $ .59
--------- --------- -----------
Dividends paid per common share(1) ............................. $ .084 $ .114 $ .140
========= ========= ===========
</TABLE>
- ------------
(1) All per share data have been adjusted to reflect all stock dividends and
stock splits.
See accompanying notes to consolidated financial statements.
F-18
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
F-19
<TABLE>
<CAPTION>
Common Preferred
Shares Shares
Outstanding Outstanding
-------------- -------------
<S> <C> <C>
Balance, December 31, 1995 .................................................... 130,762 2,000
(in thousands)
Comprehensive Income:
Net Income ................................................................... -- --
Change in unrecognized income on investment securities available-for-sale, net
of tax ....................................................................... -- --
Total comprehensive income .................................................... -- --
Exercise of stock options ..................................................... 1,027 --
Cash in lieu of fractional shares ............................................. -- --
Sale of stock under Dividend Reinvestment and Employee Stock Purchase Plan .... 241 --
Stock Dividends ............................................................... 3,663 --
Stock dividends on unallocated Employee Stock Ownership Plan shares ........... (215) --
Dividends paid on common stock ................................................ -- --
Dividends paid on preferred stock ............................................. -- --
Treasury stock repurchase ..................................................... (4,046) --
Purchase of shares under Employee Stock Ownership Plan ........................ (653) --
Allocation of shares under Employee Stock Ownership Plan ...................... 795 --
Issuance of stock for West Jersey ............................................. 2,396 --
Other ......................................................................... 30 --
----------- -----
Balance, December 31, 1996 .................................................... 134,000 2,000
----------- -----
Comprehensive income:
Net income ................................................................... -- --
Change in unrecognized income on investment securities available-for-sale, net
of tax ....................................................................... -- --
Total comprehensive income .................................................... -- --
Exercise of stock options ..................................................... 3,207 --
Cash in lieu of fractional shares ............................................. (3) --
Sale of stock under Dividend Reinvestment and Employee Stock Purchase Plan .... 216 --
Stock dividends ............................................................... 200 --
Dividends paid on common stock ................................................ -- --
Dividends paid on preferred stock ............................................. -- --
Treasury stock repurchase ..................................................... (40) --
Treasury stock sold ........................................................... 2,608 --
Retirement of treasury shares ................................................. -- --
Conversion of preferred stock ................................................. 25 (4)
Allocation of shares under Employee Stock Ownership Plan ...................... 796 --
Adjustment for First State's different fiscal year end ........................ 209 --
Other ......................................................................... -- --
----------- -------
Balance, December 31, 1997 .................................................... 141,218 1,996
----------- -------
Comprehensive income:
Net income ................................................................... -- --
Change in unrecognized income on investment securities available-for-sale, net
of tax ....................................................................... -- --
Total comprehensive income .................................................... -- --
Exercise of stock options ..................................................... 2,296 --
Cash in lieu of fractional shares ............................................. -- --
Sale of stock under Dividend Reinvestment and Employee Stock Purchase Plan .... 296 --
Dividends paid on common stock ................................................ -- --
Dividends paid on preferred stock ............................................. -- --
Treasury stock repurchase ..................................................... (86) --
Treasury stock sold ........................................................... 18 --
Conversion of preferred stock ................................................. 14,342 (1,996)
Redemption of preferred stock ................................................. -- --
Allocation of shares under Employee Stock Ownership Plan ...................... 1,643 --
Adjustment for ML Bancorp's different fiscal year end ......................... -- --
----------- --------
Balance, December 31, 1998 .................................................... 159,727 --
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Common Preferred Retained
Stock Stock Earnings
-------------- -------------- --------------
<S> <C> <C> <C>
Balance, December 31, 1995 .................................................... $491,581 $ 96,446 $325,795
Comprehensive Income:
Net Income ................................................................... -- -- 90,378
Change in unrecognized income on investment securities available-for-sale, net
of tax ....................................................................... -- -- --
Total comprehensive income .................................................... -- -- --
Exercise of stock options ..................................................... 2,257 -- --
Cash in lieu of fractional shares ............................................. (2) -- (16)
Sale of stock under Dividend Reinvestment and Employee Stock Purchase Plan .... 1,699 -- --
Stock Dividends ............................................................... 25,931 -- (25,931)
Stock dividends on unallocated Employee Stock Ownership Plan shares ........... -- -- 1,506
Dividends paid on common stock ................................................ -- -- (18,763)
Dividends paid on preferred stock ............................................. -- -- (6,250)
Treasury stock repurchase ..................................................... -- -- --
Purchase of shares under Employee Stock Ownership Plan ........................ -- -- --
Allocation of shares under Employee Stock Ownership Plan ...................... 1,903 -- --
Issuance of stock for West Jersey ............................................. 1,030 -- 7,255
Other ......................................................................... 65 -- --
---------- --------- ---------
Balance, December 31, 1996 .................................................... 524,464 96,446 373,974
---------- --------- ---------
Comprehensive income:
Net income ................................................................... -- -- 102,538
Change in unrecognized income on investment securities available-for-sale, net
of tax ....................................................................... -- -- --
Total comprehensive income .................................................... -- -- --
Exercise of stock options ..................................................... 12,527 -- --
Cash in lieu of fractional shares ............................................. (28) -- (2)
Sale of stock under Dividend Reinvestment and Employee Stock Purchase Plan .... 2,544 -- --
Stock dividends ............................................................... 1,855 -- (1,855)
Dividends paid on common stock ................................................ -- -- (15,550)
Dividends paid on preferred stock ............................................. -- -- (6,244)
Treasury stock repurchase ..................................................... -- -- --
Treasury stock sold ........................................................... 17,423 -- --
Retirement of treasury shares ................................................. (41,981) -- --
Conversion of preferred stock ................................................. 170 (170) --
Allocation of shares under Employee Stock Ownership Plan ...................... 5,132 -- --
Adjustment for First State's different fiscal year end ........................ 1,010 -- (6,217)
Other ......................................................................... 211 -- --
---------- --------- ----------
Balance, December 31, 1997 .................................................... 523,327 96,276 446,644
---------- --------- ----------
Comprehensive income:
Net income ................................................................... -- -- 136,455
Change in unrecognized income on investment securities available-for-sale, net
of tax ....................................................................... -- -- --
Total comprehensive income .................................................... -- -- --
Exercise of stock options ..................................................... 15,910 -- --
Cash in lieu of fractional shares ............................................. (68) -- --
Sale of stock under Dividend Reinvestment and Employee Stock Purchase Plan .... 4,609 -- --
Dividends paid on common stock ................................................ -- -- (12,790)
Dividends paid on preferred stock ............................................. -- -- (1,496)
Treasury stock repurchase ..................................................... -- -- --
Treasury stock sold ........................................................... -- -- --
Conversion of preferred stock ................................................. 96,270 (96,270) --
Redemption of preferred stock ................................................. -- (6) --
Allocation of shares under Employee Stock Ownership Plan ...................... 9,293 -- --
Adjustment for ML Bancorp's different fiscal year end ......................... -- -- (4,228)
---------- ----------- ----------
Balance, December 31, 1998 .................................................... $649,341 -- $564,585
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Accumulated
Unallocated Other
Treasury Stock Held Comprehensive
Stock By ESOP Income
------------- ------------- ---------------
<S> <C> <C> <C>
Balance, December 31, 1995 .................................................... $ (36,136) $ (38,281) $ 4,328
Comprehensive Income:
Net Income ................................................................... -- -- --
Change in unrecognized income on investment securities available-for-sale, net
of tax ....................................................................... -- -- (4,011)
Total comprehensive income .................................................... -- -- --
Exercise of stock options ..................................................... 918 -- --
Cash in lieu of fractional shares ............................................. -- -- --
Sale of stock under Dividend Reinvestment and Employee Stock Purchase Plan .... -- -- --
Stock Dividends ............................................................... -- -- --
Stock dividends on unallocated Employee Stock Ownership Plan shares ........... -- (1,506) --
Dividends paid on common stock ................................................ -- -- --
Dividends paid on preferred stock ............................................. -- -- --
Treasury stock repurchase ..................................................... (29,580) -- --
Purchase of shares under Employee Stock Ownership Plan ........................ -- (4,559) --
Allocation of shares under Employee Stock Ownership Plan ...................... -- 3,694 --
Issuance of stock for West Jersey ............................................. -- -- --
Other ......................................................................... -- -- --
--------- --------- --------
Balance, December 31, 1996 .................................................... (64,798) (40,652) 317
--------- --------- --------
Comprehensive income:
Net income ................................................................... -- -- --
Change in unrecognized income on investment securities available-for-sale, net
of tax ....................................................................... -- -- 18,399
Total comprehensive income .................................................... -- -- --
Exercise of stock options ..................................................... 5,423 -- --
Cash in lieu of fractional shares ............................................. -- -- --
Sale of stock under Dividend Reinvestment and Employee Stock Purchase Plan .... -- -- --
Stock dividends ............................................................... -- -- --
Dividends paid on common stock ................................................ -- -- --
Dividends paid on preferred stock ............................................. -- -- --
Treasury stock repurchase ..................................................... (473) -- --
Treasury stock sold ........................................................... 17,682 -- --
Retirement of treasury shares ................................................. 41,981 -- --
Conversion of preferred stock ................................................. -- -- --
Allocation of shares under Employee Stock Ownership Plan ...................... -- 3,441 --
Adjustment for First State's different fiscal year end ........................ -- -- 228
Other ......................................................................... -- -- --
--------- --------- --------
Balance, December 31, 1997 .................................................... (185) (37,211) 18,944
--------- --------- --------
Comprehensive income:
Net income ................................................................... -- -- --
Change in unrecognized income on investment securities available-for-sale, net
of tax ....................................................................... -- -- (32)
Total comprehensive income .................................................... -- -- --
Exercise of stock options ..................................................... -- -- --
Cash in lieu of fractional shares ............................................. -- -- --
Sale of stock under Dividend Reinvestment and Employee Stock Purchase Plan .... -- -- --
Dividends paid on common stock ................................................ -- -- _
Dividends paid on preferred stock ............................................. -- -- --
Treasury stock repurchase ..................................................... (1,258) -- --
Treasury stock sold ........................................................... 357 -- --
Conversion of preferred stock ................................................. -- -- --
Redemption of preferred stock ................................................. -- -- --
Allocation of shares under Employee Stock Ownership Plan ...................... -- 10,319 --
Adjustment for ML Bancorp's different fiscal year end ......................... -- -- (792)
--------- --------- --------
Balance, December 31, 1998 .................................................... $ (1,086) $ (26,892) $ 18,120
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Total
Stockholders'
Equity
----------------
<S> <C>
Balance, December 31, 1995 .................................................... $ 843,733
Comprehensive Income:
Net Income ................................................................... 90,378
Change in unrecognized income on investment securities available-for-sale, net
of tax ....................................................................... (4,011)
Total comprehensive income .................................................... 86,367
Exercise of stock options ..................................................... 3,175
Cash in lieu of fractional shares ............................................. (18)
Sale of stock under Dividend Reinvestment and Employee Stock Purchase Plan .... 1,699
Stock Dividends ............................................................... --
Stock dividends on unallocated Employee Stock Ownership Plan shares ........... --
Dividends paid on common stock ................................................ (18,763)
Dividends paid on preferred stock ............................................. (6,250)
Treasury stock repurchase ..................................................... (29,580)
Purchase of shares under Employee Stock Ownership Plan ........................ (4,559)
Allocation of shares under Employee Stock Ownership Plan ...................... 5,597
Issuance of stock for West Jersey ............................................. 8,285
Other ......................................................................... 65
---------
Balance, December 31, 1996 .................................................... 889,751
---------
Comprehensive income:
Net income ................................................................... 102,538
Change in unrecognized income on investment securities available-for-sale, net
of tax ....................................................................... 18,399
Total comprehensive income .................................................... 120,937
Exercise of stock options ..................................................... 17,950
Cash in lieu of fractional shares ............................................. (30)
Sale of stock under Dividend Reinvestment and Employee Stock Purchase Plan .... 2,544
Stock dividends ............................................................... --
Dividends paid on common stock ................................................ (15,550)
Dividends paid on preferred stock ............................................. (6,244)
Treasury stock repurchase ..................................................... (473)
Treasury stock sold ........................................................... 35,105
Retirement of treasury shares ................................................. --
Conversion of preferred stock ................................................. --
Allocation of shares under Employee Stock Ownership Plan ...................... 8,573
Adjustment for First State's different fiscal year end ........................ (4,979)
Other ......................................................................... 211
---------
Balance, December 31, 1997 .................................................... 1,047,795
---------
Comprehensive income:
Net income ................................................................... 136,455
Change in unrecognized income on investment securities available-for-sale, net
of tax ....................................................................... (32)
Total comprehensive income .................................................... 136,423
Exercise of stock options ..................................................... 15,910
Cash in lieu of fractional shares ............................................. (68)
Sale of stock under Dividend Reinvestment and Employee Stock Purchase Plan .... 4,609
Dividends paid on common stock ................................................ (12,790)
Dividends paid on preferred stock ............................................. (1,496)
Treasury stock repurchase ..................................................... (1,258)
Treasury stock sold ........................................................... 357
Conversion of preferred stock ................................................. --
Redemption of preferred stock ................................................. (6)
Allocation of shares under Employee Stock Ownership Plan ...................... 19,612
Adjustment for ML Bancorp's different fiscal year end ......................... (5,020)
-----------
Balance, December 31, 1998 .................................................... $1,204,068
</TABLE>
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
<TABLE>
<CAPTION>
Year Ended December 31,
---------------------------------------------------
1998 1997 1996
--------------- --------------- ---------------
<S> <C> <C> <C>
Cash Flows from Operating Activities:
Net income ........................................................ $ 136,455 $ 102,538 $ 90,378
Adjustments to reconcile net income to net cash provided by operat-
ing activities:
Provision for loan losses and deferred taxes ..................... 37,508 30,812 23,411
Depreciation ..................................................... 13,434 12,070 12,661
Amortization ..................................................... 18,204 34,725 23,991
(Gain)/loss on sale of loans, investment securities and other real
estate owned .................................................... (20,076) 7,959 (13,457)
Allocation of Employee Stock Ownership Plan ...................... 19,612 8,573 5,597
Net change in:
Loans held for sale .............................................. 13,748 (172,305) 102,049
Accrued interest receivable ...................................... (39,560) (18,108) (11,962)
Prepaid expenses and other assets ................................ (467,329) (66,276) (31,352)
Other Liabilities ................................................ 272,989 6,128 (24,793)
------------ ------------ ------------
Net cash (used)/provided by operating activities ................... (15,015) (53,884) 176,523
------------ ------------ ------------
Cash Flows from Investing Activities:
Proceeds from sales of investment securities available-for-sale and
held-to-maturity ................................................. 2,157,904 847,215 901,987
Proceeds from repayments and maturities of investment securities:
Available-for-sale ............................................... 1,109,075 314,998 248,215
Held-to-maturity ................................................. 2,062,628 965,549 710,988
Purchases of investment securities:
Available-for-sale ............................................... (7,996,541) (1,072,205) (833,243)
Held-to-maturity ................................................. (471,326) (1,418,741) (1,309,363)
Proceeds from sales of loans ...................................... 1,422,279 23,570 69,324
Purchase of loans from mortgage servicing rights .................. (1,966,864) (2,794,487) (1,444,452)
Net change in loans other than purchase and sales ................. 464,382 1,027,549 (616,657)
Proceeds from sales of premises and equipment ..................... 18,437 10,112 2,970
Purchase of premises and equipment ................................ (32,872) (15,790) (14,739)
Proceeds from sales of other real estate owned .................... 19,069 19,593 23,054
Net cash (paid)/received from business combinations ............... (302,808) (8,552) 1,112
Other, net ........................................................ (4,228) (4,996) --
------------ ------------ ------------
Net cash used by investing activities .............................. (3,520,865) (2,106,185) (2,260,804)
------------ ------------ ------------
Cash flows from Financing Activities:
Assumption of deposits ............................................ 2,231,149 -- --
Net increase in deposits .......................................... 576,982 855,750 25,435
Net (decrease)/increase in short-term borrowings .................. (2,135,369) 638,573 973,066
Proceeds from long-term borrowings ................................ 3,169,839 621,630 1,061,051
Repayments of long-term borrowings ................................ -- -- (2)
Net (decrease)/increase in advance payments by borrowers for taxes
and insurance .................................................... (14,192) (420) 2,778
Proceeds from issuance of Trust Preferred Securities .............. -- 97,574 30,000
Cash dividends paid to stockholders ............................... (14,286) (23,777) (24,850)
Proceeds from issuance of common stock ............................ 20,451 17,919 5,952
Redemption of preferred stock ..................................... (6) -- --
Advance to the Employee Stock Ownership Plan ...................... -- (325) (10,206)
(Purchase)/issuance of treasury stock ............................. (901) 34,632 (29,580)
------------ ------------ ------------
Net cash provided by financing activities .......................... 3,833,667 2,241,556 2,033,644
------------ ------------ ------------
Net change in cash and cash equivalents ............................ 297,787 81,487 (50,637)
Cash and cash equivalents at beginning of period ................... 255,937 174,450 225,087
------------ ------------ ------------
Cash and cash equivalents at end of period ......................... $ 553,724 $ 255,937 $ 174,450
------------ ------------ ------------
Reconciliation of Cash and Cash Equivalents to Consolidated Balance
Sheets: ...........................................................
Cash and amounts due from depository institutions ................. $ 471,074 $ 238,623 $ 159,383
Interest-earning deposits ......................................... 82,650 17,314 15,067
------------ ------------ ------------
Cash and cash equivalents at end of period ........................ $ 553,724 $ 255,937 $ 174,450
============ ============ ============
<PAGE>
</TABLE>
Supplemental Disclosures: Income tax payments totaled $77.4 million in
1998, $63.2 million in 1997 and $60.5 million in 1996. Interest payments
totaled $263 million in 1998, $717 million in 1997 and $679 million in 1996.
Noncash activity consisted of mortgage loan securitization of $1.2 billion in
1998, $283 million in 1997 and $372 million in 1996; reclassification of
long-term borrowings to short-term borrowings of $613 million in 1998, $862
million in 1997 and $958 million in 1996; and reclassification of mortgage
loans to other real estate owned of $18.8 million in 1998, $22.1 million in
1997 and $21.9 million in 1996.
See accompanying notes to consolidated financial statements.
F-20
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Sovereign Bancorp, Inc. and subsidiaries ("Sovereign") is a Pennsylvania
business corporation and is the holding company for Sovereign Bank. Sovereign
is headquartered in Philadelphia, Pennsylvania and Sovereign Bank is
headquartered in Wyomissing, Pennsylvania, a suburb of Reading, Pennsylvania.
Sovereign's primary business consists of attracting deposits from its network
of community banking offices, located throughout eastern and northcentral
Pennsylvania, New Jersey and northern Delaware, and originating commercial,
consumer and residential mortgage loans in those communities. Sovereign also
serves customers throughout New York and several New England States.
The following is a description of the significant accounting policies of
Sovereign. Such accounting policies are in accordance with generally accepted
accounting principles and have been followed on a consistent basis.
a. Principles of Consolidation -- The accompanying financial statements
include the accounts of the parent company, Sovereign Bancorp, Inc. and its
wholly-owned subsidiaries: Sovereign Bank, Sovereign Delaware Investment
Corporation, Sovereign Capital Trust I and ML Capital Trust I. All material
intercompany balances and transactions have been eliminated in consolidation.
b. Use of Estimates -- The preparation of financial statements in
conformity with generally accepted accounting principles requires management to
make estimates and assumptions that affect the amounts reported in the
financial statements and accompanying notes. Actual results could differ from
those estimates.
c. Per Share Information -- All per share data has been restated to
reflect the effect of the 6-for-5 stock split which was authorized on January
22, 1998, with a record date of March 31, 1998 and the 6-for-5 stock split
which was authorized on January 16, 1997, with a record date of March 3, 1997.
Basic earnings per share is calculated by dividing income available to
common stockholders by the weighted average common shares outstanding,
excluding options, warrants, and convertible securities from the calculation.
In calculating diluted earnings per share, the dilutive effect of options and
warrants is calculated using the treasury stock method, which uses the average
market price for the period. The dilutive effect of convertible debt or
preferred stock continues to be calculated using the if-converted method.
The following table presents the computation of earnings per share for the
years indicated (in thousands, except per share data):
<TABLE>
<CAPTION>
1998 1997 1996
------------- ------------ ------------
<S> <C> <C> <C>
Basic Earnings Per Share:
Net income applicable to common stock(1) ................. $ 134,959 $ 96,294 $ 84,128
--------- --------- ---------
Average basic shares outstanding at end of period ......... 152,910 136,997 134,081
========= ========= =========
Basic earnings per share (2) .............................. $ .88 $ .70 $ .63
========= ========= =========
</TABLE>
<TABLE>
<CAPTION>
1998 1997 1996
------------- ------------- ------------
<S> <C> <C> <C>
Diluted Earnings Per Share:
Net income(1) ................................................. $ 136,455 $ 102,538 $ 90,378
--------- --------- ---------
Average diluted shares outstanding at end of period ........... 158,172 151,356 148,449
Dilutive effect of average stock options, net of shares
assumed to be repurchased under the treasury stock
method ....................................................... 3,039 4,550 3,874
--------- --------- ---------
Total average diluted shares outstanding at end of period ..... 161,211 155,906 152,323
========= ========= =========
Diluted earnings per share(2) ................................. $ .85 $ .66 $ .59
========= ========= =========
</TABLE>
- ------------
(1) The 1998 results include $33.5 million (after-tax) of merger-related
charges and losses from non-recurring
F-21
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
sales of held-to-maturity securities resulting from Sovereign's acquisitions
during 1998. The 1997 results include $36.7 million (after-tax) of
merger-related charges and losses from non-recurring sales of
held-to-maturity securities resulting from Sovereign's acquisitions during
1997. The 1996 results include a non-recurring Savings Association Insurance
Fund assessment of $24.9 million (after-tax) paid to the FDIC for the
recapitalization of the Savings Association Insurance Fund.
(2) Excluding the merger-related charges and losses from non-recurring sales of
held-to-maturity securities described in Note 1 above, basic earnings per
share and diluted earnings per share for 1998 were $1.10 and $1.06,
respectively and for 1997 were $.97 and $.89, respectively. Excluding the
non-recurring Savings Association Insurance Fund assessment described in
Note 1 above, basic earnings per share and diluted earnings per share for
1996 were $.81 and $.76, respectively.
d. Interest-earning Deposits -- Interest-earning deposits consist of
deposit accounts with the Federal Home Loan Bank of Pittsburgh ("Federal Home
Loan Bank of Pittsburgh") and deposits with other financial institutions
generally having maturities of three months or less.
e. Investment Securities -- Debt securities that the company has the
intent and ability to hold to maturity are classified as held-to-maturity and
reported at amortized cost. Securities expected to be held for an indefinite
period of time are classified as available-for-sale and are carried at fair
value with unrealized gains and losses reported as a separate component of
stockholders' equity, net of estimated income taxes. Securities that are bought
and held principally for the purpose of selling are classified as trading and
reported at fair value, with unrealized gains and losses included in earnings.
Sovereign has no securities held for trading. Gains or losses on the sales of
securities are recognized at trade date utilizing the specific identification
method.
f. Forward Commitments and Options -- Sovereign utilizes forward
commitments and/or options to hedge interest rate risk associated with loans
held for sale and/or commitments to fund loans. Gains and losses on these
transactions are included in the net gain or loss when the asset is sold.
g. Mortgage Banking Activity -- Loans held for sale consist of residential
mortgage loans originated or purchased by Sovereign and mortgage-backed
securities originated by Sovereign. They are recorded at the lower of cost or
estimated fair value on an aggregate basis. Gains and losses are included in
the consolidated statements of operations.
The fair value calculation includes consideration of all open positions,
outstanding commitments and related fees paid. Excess servicing fees are
computed as the present value of the difference between the estimated future
net revenues and normal servicing net revenues as established by the federally
sponsored secondary market makers. Resultant premiums are deferred and
amortized over the estimated life of the related mortgages using the constant
yield method.
During 1997, Sovereign adopted the requirements of Statement of Financial
Accounting Standard ("SFAS") No. 125, "Accounting for Transfers and Servicing
of Financial Assets and Extinguishments of Liabilities," for various transfers
of receivables and other financial assets that occurred during the year. In
December 1996, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 127, "Deferral of the Effective Date of Certain Provisions of SFAS No.
125," which defers the effective date for the provisions of SFAS No. 125
relating to accounting for repurchase agreements, dollar rolls, securities
lending and similar transactions until January 1, 1998. As a result of the
adoption of SFAS No. 125 in 1997, as amended by SFAS No. 127, Sovereign
continues to record servicing assets as well as retained rights to future
interest income from the serviced assets that exceed the contractual servicing
fee (interest-only strips) as assets on the balance sheet at the time the
receivables are sold. As a result, the impact of adoption on net income was
immaterial.
F-22
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
The following table presents the activity of Sovereign's mortgage
servicing rights for the years indicated. This activity does not reflect the
reduction from the activity in Sovereign's valuation allowance for mortgage
servicing rights presented in the table on the next page (in thousands):
<TABLE>
<CAPTION>
1998 1997
------------ ------------
<S> <C> <C>
Balance, beginning of year ............................... $ 68,063 $ 58,759
Net servicing assets recognized during the year .......... 19,439 19,979
Amortization ............................................. (11,875) (10,675)
--------- ---------
Balance, end of year ..................................... $ 75,627 $ 68,063
========= =========
</TABLE>
The mortgage servicing rights are amortized against loan servicing fee
income on an accelerated basis in proportion to, and over the period of,
estimated net future loan servicing fee income, which periods initially do not
exceed eight years. For purposes of measuring impairment of capitalized
mortgage servicing rights and minimizing the impact of risk, Sovereign
conservatively evaluates the loans underlying these rights by stratifying them
into certain homogeneous categories which include, but are not limited to,
residential real estate 30-year and 15-year fixed rate mortgage loans,
adjustable rate mortgage loans and balloon loans. For valuation purposes, at
December 31, 1998, a weighted average discount rate of 9.19% was assumed and
assumed prepayment speeds were consistent with published secondary market rates
for Sovereign's market area. Sovereign also takes into consideration any
inherent risks, as well as other relevant factors associated with each
portfolio. Prices are obtained in the secondary market and are based upon
current market prices of similarly traded loans and/or comparable secondary
market instruments.
Activity in the valuation allowance for mortgage servicing rights for the
years indicated consisted of the following (in thousands):
<TABLE>
<CAPTION>
Year Ended December 31,
---------------------------------
1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
Balance, beginning of year .............................................. $ 3,295 $2,200 $1,200
Provision for mortgage servicing rights in excess of fair value ......... 10,000 1,095 1,000
------- ------ ------
Balance, end of year .................................................... $13,295 $3,295 $2,200
======= ====== ======
</TABLE>
<PAGE>
h. Allowance for Loan Losses -- An allowance for loan losses is maintained
at a level that management considers adequate to provide for potential losses
based upon an evaluation of known and inherent risks in the loan portfolio.
Management's evaluation takes into consideration the risks inherent in the loan
portfolio, past loan loss experience, specific loans which have loss potential,
geographic and industry concentrations, delinquency trends, economic
conditions, the level of originations and other relevant factors. While
management uses the best information available to make such evaluations, future
adjustments to the allowance may be necessary if conditions differ
substantially from the assumptions used in making the evaluations.
i. Loans -- Interest on loans is credited to income as it is earned.
Interest income is not recognized on loans when the loan payment is 90 days or
more delinquent (except auto loans, government-guaranteed loans or loans
secured by deposit accounts) or sooner if management believes the loan has
become impaired. Sovereign defines impairment as the existence of one or a
combination of any of the following loan weaknesses:
o The primary source of repayment is gone or severely impaired and
Sovereign may have to rely on the secondary source
o Loss does not seem likely, but sufficient problems have arisen to cause
Sovereign to go to abnormal lengths to protect its position in order to
maintain a high probability of repayment
o Obligors are unable to generate enough cash flow to reduce their debts
F-23
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
o Deterioration in collateral value or inadequate inspection or
verification of value (if the collateral is expected to be a source of
repayment)
o Flaws in documentation leave Sovereign in a subordinated or unsecured
position when the collateral is needed for repayment of the loan
When a loan is placed on non-accrual status, all accrued yet uncollected
interest is reversed from income. Payments received on non-accrual loans are
generally applied to the outstanding principal balance. A non-accrual loan is a
loan in which it is probable that scheduled payments of principal and interest
will not be paid when due according to the contractual terms of the loan
agreement. In order for a non-accrual loan to revert to accruing status, all
delinquent interest must be paid and Sovereign must approve a repayment plan.
Loans delinquent 180 days or more (120 days for auto loans) are considered
for charge-off unless it can be clearly demonstrated that repayment will occur
regardless of the delinquency status. Examples of this would include: a loan
which is secured by collateral and is in the process of collection; a loan
supported by a valid guarantee or insurance; or a loan supported by a valid
claim against a solvent estate. A decision to charge-off a loan does not
necessarily mean that the asset has no recovery or salvage value, but rather it
is not practical to defer writing off the balance, even though partial or full
recovery may be realized in the future.
SFAS No. 114, "Accounting by Creditors for Impairment of a Loan," requires
that certain impaired loans be measured based on the present value of expected
future cash flows discounted at the loan's effective interest rate or the fair
value of the collateral if the loan is collateral dependent, as amended by SFAS
No. 118, "Accounting by Creditors for Impairment of a Loan -- Income
Recognition and Disclosures." For purposes of measuring impairment as set forth
by the provisions of SFAS No. 114 and SFAS No. 118, Sovereign defines
impairment as all non-accrual loans, except for large groups of
smaller-balance, homogeneous loans such as residential mortgage and consumer
loans which are collectively evaluated for impairment.
j. Loan Fees, Discounts and Premiums -- Loan origination fees and certain
direct loan origination costs are deferred and recognized as interest income in
the consolidated statement of operations over the contractual life of the loan
utilizing the level yield method, except in the case of certain discounted
loans in which a portion of the net deferred fee may be amortized over the
discount period. Discounts and premiums on loans purchased are amortized into
income utilizing methods which approximate the level yield method.
k. Premises and Equipment -- Premises and equipment are carried at cost,
less accumulated depreciation. Depreciation is calculated utilizing both
accelerated and straight-line methods. Estimated useful lives are as follows:
Office buildings .......................... 15 to 50 years
Leasehold improvements .................... 5 to 10 years
Furniture, fixtures and equipment ......... 3 to 10 years
Automobiles ............................... 3 years
Expenditures for maintenance and repairs are charged to expense as
incurred.
l. Other Real Estate Owned -- Other real estate owned ("OREO") consists of
properties acquired by or in lieu of foreclosure. OREO is stated at the lower
of cost or estimated fair value minus estimated costs to sell. Write-downs of
OREO which occur after the initial transfer from the loan portfolio are
recorded as other operating expenses. Costs of holding foreclosed property are
charged to expense in the current period, except for significant property
improvements which are capitalized to the extent that carrying value does not
exceed estimated fair value.
m. Income Taxes -- Deferred income taxes are provided on temporary
differences between amounts reported for financial statement and tax purposes
in accordance with SFAS No. 109, "Accounting for Income Taxes."
F-24
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
n. Interest Rate Exchange Agreements (Including Swaps, Caps, and Floors)
- -- Sovereign has entered into certain interest rate exchange agreements in
connection with its asset/liability management program which are designated as
hedges. Related fees are deferred and amortized on a straight line basis over
the life of the interest rate exchange agreement, which corresponds to the
estimated life of the asset or liability item being hedged. Net interest
payments/receipts are accrued as an adjustment of interest expense/income on
the hedged assets or liabilities. Gains or losses resulting from early
termination of interest rate exchange agreements are deferred and amortized
over the remaining term of the original exchange agreements. In the event the
related asset/liability is disposed of, such deferred gains or losses are
recognized as an adjustment to the respective gain or loss on disposition.
Changes in the value of interest rate exchange agreements are not recorded in
the financial statements because the interest rate exchange agreements are
designated as hedges.
o. General and Administrative Expenses -- General and administrative
expenses are classified on a functional basis, except for salaries and employee
benefits. Certain direct loan origination costs are deferred and are being
amortized as a yield adjustment through net interest income (see note 1-j).
p. Consolidated Statement of Cash Flows -- For purposes of reporting cash
flows, cash and cash equivalents include cash and amounts due from depository
institutions, interest-earning deposits and securities purchased under resale
agreements with an original maturity of three months or less.
q. Reclassifications -- Certain amounts in the financial statements of
prior periods have been reclassified to conform with the presentation used in
current period financial statements. These reclassifications have no effect on
net income.
Consolidated Financial Statements
r. Intangibles -- Core deposit intangibles are a measure of the value of
consumer demand and savings deposits acquired in business combinations
accounted for as purchases. Core deposit intangibles are amortized on an
accelerated basis pursuant to core deposit studies and in accordance with SFAS
No. 72, "Accounting for Certain Acquisitions of Banking or Thrift
Institutions," over the estimated lives of the existing deposit relationships
acquired, but not exceeding 15 years. Goodwill is the excess of the purchase
price over the fair value of net assets of companies acquired through business
combinations accounted for as purchases. Goodwill is being amortized using the
straight line method over various periods not exceeding 25 years. The carrying
amount of the goodwill is reviewed if facts and circumstances suggest that it
may be impaired. If this review indicates that goodwill will not be
recoverable, as determined based on the loss of economic value, the carrying
amount of the goodwill is reduced by the estimated loss of value. In addition,
goodwill associated with impaired long-lived assets is included in the
impairment evaluation which Sovereign assesses under the rules of SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets
to Be Disposed of."
s. Comprehensive Income -- In June 1997, the FASB issued SFAS No. 130,
"Reporting Comprehensive Income." The overall objective of SFAS No. 130 is to
provide new rules for the reporting and display of comprehensive income and its
components; however, the adoption of this statement had no impact on
Sovereign's net income or stockholders' equity. SFAS No. 130 is effective for
fiscal years beginning after December 15, 1997.
F-25
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
The following table presents the components of comprehensive income, net
of related tax, based on the provisions of SFAS No. 130 for the years indicated
(in thousands):
<TABLE>
<CAPTION>
Year Ended December 31,
--------------------------------------
1998 1997 1996
----------- ----------- ----------
<S> <C> <C> <C>
Net income ........................................... $ 136,455 $102,538 $ 90,378
--------- -------- --------
Unrealized (losses) gains on securities arising during
the year ............................................ (16,095) 18,399 (4,011)
Less reclassification adjustment(1) .................. 16,063 -- --
Net unrealized (losses) gains recognized in other
comprehensive income ................................ (32) 18,399 (4,011)
--------- -------- --------
Comprehensive income(2) .............................. $ 136,423 $120,937 $ 86,367
========= ======== ========
</TABLE>
(1) Sovereign has not calculated the reclassification adjustment for 1997 and
1996.
(2) Excluding merger-related charges and losses from non-recurring sales of
held-to-maturity securities, comprehensive income for 1998 and 1997 was
$170 million and $158 million, respectively. Excluding the non-recurring
Savings Association Insurance Fund assessment, comprehensive income for
1996 was $111 million.
Accumulated other comprehensive income, net of related tax, at December
31, 1998 and 1997 consisted of net unrealized gains on securities of $18.1
million and $18.9 million, respectively.
t. Segment Reporting -- In June 1997, the FASB issued SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related Information." SFAS No.
131 requires that public companies report certain information about operating
segments in complete sets of financial statements of the company and in
condensed financial statements of interim periods issued to shareholders. It
also requires that public companies report certain information about their
products and services, the geographic areas in which they operate, and their
major customers. SFAS No. 131 is effective for fiscal years beginning after
December 15, 1997. Sovereign is a large regional bank which offers a wide array
of products and services to its customers. Pursuant to its super-community
banking strategy, emphasis is placed on building relationships with its
customers, as opposed to building specific lines of business. As a result, as
Sovereign is not organized around discernible lines of business and prefers to
work as an integrated unit to customize solutions for its customers, with
business line emphasis and product offerings changing over time as needs and
demands change. Thus, all necessary requirements of SFAS No. 131 have been met
by Sovereign as of December 31, 1998.
(2) BUSINESS COMBINATIONS
On September 4, 1998, Sovereign acquired 93 former CoreStates Financial
Corp. ("CoreStates") branch offices from First Union Corporation ("First
Union"). The former CoreStates offices are located throughout Pennsylvania and
New Jersey and added approximately $2.2 billion of commercial bank deposits and
$725 million of commercial and consumer loans to Sovereign's balance sheet.
This transaction was accounted for as a purchase. Sovereign paid a premium of
$325 million for the CoreStates branches, of which $226 million was allocated
to a core deposit intangible and of which $99 million was allocated to
goodwill. Additionally, Sovereign established an initial loan loss reserve of
$20.5 million in connection with the loans acquired from CoreStates. The
goodwill and core deposit intangible are being amortized over approximately 25
years and 10 years, respectively. Sovereign's results of operations include the
operations of the aforementioned branches from September 4, 1998 and
thereafter.
On July 31, 1998, Sovereign acquired Carnegie Bancorp ("Carnegie"), a $414
million commercial bank holding company headquartered in Princeton, New Jersey
which operated seven branch offices throughout central New Jersey and one in
Pennsylvania. Carnegie added loans, deposits and stockholders' equity to
F-26
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
Sovereign of approximately $286 million, $329 million and $37 million,
respectively. In accordance with the merger agreement, Carnegie common stock
shareholders received 2.022 shares of Sovereign common stock in
exchange for each share of Carnegie common stock. This transaction was
accounted for as a pooling-of-interests.
On July 31, 1998, Sovereign acquired First Home Bancorp Inc. ("First
Home"), a $510 million savings bank holding company headquartered in
Pennsville, New Jersey. First Home had one principal operating subsidiary which
operated ten branch offices in Salem, Gloucester and Camden Counties, New
Jersey and New Castle County, Delaware. First Home added loans, deposits and
stockholders' equity to Sovereign of approximately $273 million, $320 million
and $38 million, respectively. In accordance with the merger agreement, First
Home common stock shareholders received 1.779 of Sovereign common stock in
exchange for each share of First Home common stock. This transaction was
accounted for as a pooling-of-interests.
As a result of the Carnegie and First Home transactions, Sovereign issued
approximately 10.9 million new shares of common stock and recorded a
merger-related charge of $7.8 million (after-tax) during the third quarter of
1998.
On February 28, 1998, Sovereign acquired ML Bancorp, Inc. ("ML Bancorp"),
a $2.4 billion bank holding company headquartered in Villanova, Pennsylvania.
ML Bancorp's principal operating subsidiary, Main Line Bank, operated 29 branch
offices located in the suburbs of Philadelphia, Pennsylvania. The transaction
added loans, deposits and stockholders' equity to Sovereign of $1.1 billion,
$1.0 billion and $201 million, respectively. In accordance with the merger
agreement, ML Bancorp shareholders received 1.62 (1.944 shares as adjusted for
all subsequent stock dividends and stock splits) shares of Sovereign common
stock in exchange for each share of ML Bancorp common stock. Approximately 20.5
million new shares (24.6 million new shares as adjusted for all subsequent
stock dividends and stock splits) of Sovereign common stock were issued in
connection with the transaction. This transaction was accounted for as a
pooling-of-interests.
Prior to the combination, ML Bancorp's fiscal year end was March 31, and
accordingly, Sovereign's consolidated results of operations for the
twelve-month period ended December 31, 1998 include ML Bancorp's results of
operations for the two-month period ended February 28, 1998, Sovereign's
consolidated results of operations for the twelve-month period ended December
31, 1997 include ML Bancorp's results of operations for the eleven-month period
ended February 28, 1998 and Sovereign's results of operations for the
twelve-month period ended December 31, 1996 include MLBancorp's results of
operations for the twelve-month period ended March 31, 1997. A net decrease to
Sovereign's stockholders' equity of $5.0 million has been made to reflect ML
Bancorp's activity for the two-month period ended February 28, 1998. That
activity consisted of net income of $4.2 million and net unrealized gains on
investment securities available-for-sale of $792,000.
The pre-merger results of operations for Sovereign, ML Bancorp, Carnegie
and First Home (which were acquired pursuant to transactions accounted for as a
pooling-of-interests) are as follows (in thousands):
<TABLE>
<CAPTION>
First
Sovereign MLBancorp(1) Carnegie(2) Home(2) Combined
------------- -------------- ------------- --------- -------------
<S> <C> <C> <C> <C> <C>
Year Ended December 31, 1998
Interest income ................... $1,284,933 $27,935 $19,517 $22,986 $1,355,371
Interest expense .................. 821,529 16,295 9,848 14,087 861,759
Provision for loan losses ......... 27,467 -- 260 234 27,961
Other income ...................... 100,962 3,441 427 808 105,638
Non-interest expense .............. 332,710 8,534 10,180 8,659 360,083
Income tax provision .............. 71,539 2,319 390 503 74,751
---------- ------- ------- ------- ----------
Net Income ........................ $ 132,650 $ 4,228 $ (734) $ 311 $ 136,455
========== ======= ======= ======= ==========
</TABLE>
(1) Reflects ML Bancorp's results of operations for the two-month period ended
February 28, 1998.
F-27
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
(2) Reflects Carnegie and First Home results of operations for the seven-month
period ended July 31, 1998.
During 1998, Sovereign recorded pre-tax merger-related charges of $49.9
million ($33.5 million after-tax) or $.21 per share, primarily related to costs
incurred in connection with its acquisitions of ML Bancorp, Carnegie and First
Home. The components of the merger-related charges were as follows (in
thousands):
<TABLE>
<CAPTION>
Requiring Cash
Cash Outflow To
Provision Outflow Date
----------- ----------- -----------
<S> <C> <C> <C>
Severance and employee-related costs ......... $22,257 $22,257 $22,257
Merger transaction costs ..................... 5,307 5,307 5,307
Writedowns of assets ......................... 13,350 -- --
Office closing costs ......................... 3,085 1,274 1,274
Miscellaneous ................................ 5,933 5,933 5,933
------- ------- -------
Total ........................................ $49,932 $34,771 $34,771
======= ======= =======
</TABLE>
Severance and employee-related costs relate primarily to severance costs
and related taxes for employees of the three companies who were displaced as a
result of merger, as well as the termination and distribution of ML Bancorp's
Employee Stock Ownership Plan ("ML ESOP") and restricted stock plans in
connection with the merger.
Writedowns of assets include obsolescence of data processing equipment at
all three companies as well as writedowns of servicing-related assets at ML
Bancorp.
The following table summarizes the activity in the merger-related accrual
for the year ended December 31, 1998 (in thousands):
Balance at December 31, 1997 ............. $ 268
Provision charged against income ......... 49,932
Cash outflow ............................. (34,771)
Writedowns of assets ..................... (15,429)
---------
Balance at December 31, 1998 ............. $ --
=========
On September 19, 1997, Sovereign purchased Fleet Financial Group Inc.'s
("Fleet") Automobile Finance Division ("Fleet Auto"). Fleet Auto consisted of
approximately $2.0 billion of indirect auto loans, automotive floor plan loans
and loans to automotive lessors. Fleet Auto had business relationships with
over 2,000 automotive dealerships and served approximately 225,000 customers
throughout New Jersey, New York and several New England states. Sovereign
purchased Fleet Auto at a discount, which in part, reflected the need to
establish initial reserves for possible loan losses of approximately $22.0
million or 1.50% of the indirect auto loans acquired. The transaction added
$10.7 million of goodwill to Sovereign's balance sheet. Sovereign's
consolidated results of operations include Fleet Auto's results of operations
from September 19, 1997 and thereafter.
On August 29, 1997, Sovereign acquired Bankers Corp. ("Bankers"), a $2.6
billion financial services holding company headquartered in Perth Amboy, New
Jersey. Bankers' sole banking subsidiary, Bankers Savings, operated 15 branch
offices located in Middlesex, Monmouth and Ocean counties, New Jersey. The
transaction added loans, deposits, and shareholders' equity to Sovereign of
$1.5 billion, $1.7 billion, and $204 million, respectively. In accordance with
the merger agreement, Bankers shareholders received 1.854 (2.225 shares as
adjusted for all subsequent stock dividends and stock splits) shares of
Sovereign common stock in exchange for each share of Bankers common stock.
Sovereign issued approximately 23.0 million new shares (27.6 million new shares
as adjusted for all subsequent stock dividends and stock splits) of Sovereign
common stock in connection with the transaction. This transaction was accounted
for as a pooling-of-interests.
On February 18, 1997, Sovereign acquired First State Financial Services,
Inc. ("First State"), a $603 million savings institution headquartered in West
Caldwell, New Jersey with 14 branch offices located
F-28
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
throughout central and northern New Jersey. In accordance with the merger
agreement, First State shareholders received 1.225 (1.76 shares as adjusted for
all subsequent stock dividends and stock splits) shares of Sovereign common
stock in exchange for each share of First State common stock. Sovereign issued
approximately 4.9 million new shares (7.06 million new shares as adjusted for
all subsequent stock dividends and stock splits) of Sovereign common stock in
connection with the transaction. This transaction was accounted for as a
pooling-of-interests.
Prior to the combination, First State's fiscal year end was September 30,
and accordingly, Sovereign's consolidated results of operations for the year
ended December 31, 1996 include First State's results of operations for the
twelve-month period ended September 30, 1996. Sovereign's consolidated results
of operations for the year ended December 31, 1997 include First State's
results of operations for the twelve-month period ended December 31, 1997. A
net decrease to Sovereign's stockholders' equity of $5.0 million has been made
to reflect First State's activity for the three-month period ended December 31,
1996. That activity consisted of proceeds from the exercise of stock options of
$1.0 million, net income of $6.2 million and net unrealized losses on
investment securities available-for-sale of $228,000.
The pre-merger results of operations for Sovereign, First State and
Bankers (which were acquired pursuant to transactions accounted for as a
pooling-of-interests) were as follows (in thousands):
<TABLE>
<CAPTION>
Sovereign(1) Bankers Combined
-------------- --------- -----------
<S> <C> <C> <C>
Year Ended December 31, 1997 (unaudited)
Interest income ..................... $360,816 $89,398 $450,214
Interest expense .................... 234,302 55,548 289,850
Provision for loan losses ........... 9,700 2,300 12,000
Other income ........................ 16,905 1,222 18,127
Non-interest expense ................ 82,776 10,278 93,054
Income tax provision ................ 20,230 8,172 28,402
-------- ------- --------
Net income .......................... $ 30,713 $14,322 $ 45,035
======== ======= ========
</TABLE>
- ------------
(1) Sovereign's result of operations include First State's results of
operations.
During 1997, Sovereign recorded pre-tax merger-related charges of $44.1
million ($29.8 million after-tax) or $.19 per share, primarily related to costs
incurred in connection with its acquisitions of Bankers and First State. The
components of the merger-related charges were as follows (in thousands):
<TABLE>
<CAPTION>
Requiring Cash
Cash Outflow To
Provision Outflow Date
----------- ----------- -----------
<S> <C> <C> <C>
Severance and employee-related costs ......... $ 8,613 $ 8,613 $ 8,613
Merger transaction costs ..................... 5,811 5,811 5,811
Credit related reserves ...................... 24,900 -- --
Loss on sales of assets ...................... 1,093 -- --
Office closing costs ......................... 2,330 -- --
Miscellaneous ................................ 1,377 1,377 1,377
------- ------- -------
Total ........................................ $44,124 $15,801 $15,801
======= ======= =======
</TABLE>
On May 31, 1996, Sovereign acquired West Jersey Bancshares, Inc. ("West
Jersey") in a transaction accounted for as a pooling-of-interests; however, the
consolidated financial statements have not been restated due to immateriality.
Sovereign acquired approximately $100 million in assets consisting principally
of investment securities and loans and assumed approximately $73.0 million of
deposit liabilities. West Jersey shareholders received .8335 (1.2 shares as
adjusted for all subsequent stock dividends and stock splits) shares
F-29
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
of Sovereign common stock in exchange for each share of West Jersey common
stock, or $8.91 per share. Sovereign issued 1.7 million new shares (2.4 million
shares as adjusted for all subsequent stock dividends and stock splits) of
Sovereign common stock in connection with the transaction.
On September 8, 1998, Sovereign executed a Definitive Agreement to acquire
Peoples Bancorp, Inc. ("Peoples"), a $1.3 billion bank holding company
headquartered in Lawrenceville, New Jersey whose principal operating subsidiary
operates 14 community banking offices in Mercer, Burlington and Ocean counties,
New Jersey. The terms of the agreement call for a fixed exchange, without
collars, of .80 shares of Sovereign common stock for each outstanding share of
Peoples common stock. Peoples may elect to terminate the transaction at the
closing if Sovereign's common stock price decreases below $11.00 per share and
such a decrease exceeds, by 10% or more, the decrease of price derived from a
peer group index. The transaction, which will be accounted for as a purchase,
is subject to approval by various regulatory agencies and Peoples'
shareholders. The transaction will add loans, deposits and stockholders' equity
to Sovereign of approximately $430 million, $500 million and $340 million,
respectively.
(3) Restrictions on cash and amounts due from depository institutions
Sovereign Bank is required to maintain certain average reserve balances as
established by the Federal Reserve Board. The amounts of those reserve balances
for the reserve computation periods which included December 31, 1998 and 1997
were $237 million and $96.4 million, respectively.
(4) INVESTMENT SECURITIES
The amortized cost and estimated fair value of investment securities are
as follows (in thousands):
<TABLE>
<CAPTION>
At December 31, 1998
---------------------------------------------------------------
Amortized Unrealized Unrealized
Cost Appreciation Depreciation Fair Value
------------- -------------- -------------- -------------
<S> <C> <C> <C> <C>
Investment Securities Available-for-Sale:
Investment Securities:
U.S. Treasury and government agency
securities ................................ $ 35,480 $ 1 $ 64 $ 35,417
Corporate securities ........................ 38,784 1,413 121 40,076
Equity securities ........................... 881,817 15,545 10,381 886,981
Other securities ............................ 8,360 972 -- 9,332
Mortgage-backed Securities:
FHLMC ....................................... 85,761 867 264 86,364
FNMA ........................................ 40,645 335 57 40,923
GNMA ........................................ 42,434 749 14 43,169
Collateralized mortgage obligations ......... 3,531,948 11,214 2,785 3,540,377
Other securities ............................ 1,969,322 15,976 5,510 1,979,788
---------- ------- ------- ----------
Total investment securities
available-for-sale .......................... $6,634,551 $47,072 $19,196 $6,662,427
========== ======= ======= ==========
</TABLE>
F-30
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
<TABLE>
<CAPTION>
At December 31, 1997
---------------------------------------------------------------
Amortized Unrealized Unrealized
Cost Appreciation Depreciation Fair Value
------------- -------------- -------------- -------------
<S> <C> <C> <C> <C>
Investment Securities Available-for-Sale:
Investment Securities:
U.S. Treasury and government agency
securities ................................ $ 46,515 $ 115 $ -- $ 46,630
Corporate securities ........................ -- -- -- --
Equity securities ........................... 643,288 18,898 79 662,107
Other securities ............................ 46,935 4,447 298 51,084
Mortgage-backed Securities:
FHLMC ....................................... 420,590 3,493 397 423,686
FNMA ........................................ 202,740 1,631 401 203,970
GNMA ........................................ 256,532 1,908 600 257,840
Collateralized mortgage obligations ......... 296,633 1,581 1,515 296,699
Other securities ............................ 14,295 9 58 14,246
---------- ------- ------ ----------
Total investment securities
available-for-sale .......................... $1,927,528 $32,082 $3,348 $1,956,262
========== ======= ====== ==========
</TABLE>
<TABLE>
<CAPTION>
At December 31, 1998
---------------------------------------------------------------
Amortized Unrealized Unrealized
Cost Appreciation Depreciation Fair Value
------------- -------------- -------------- -------------
<S> <C> <C> <C> <C>
Investment Securities Held-to-Maturity:
Investment Securities:
U.S. Treasury and government agency
securities ................................ $ 31,180 $ 151 $ 78 $ 31,253
Corporate securities ........................ -- -- -- --
Other securities ............................ 54,481 3,691 122 58,050
Mortgage-backed Securities:
FHLMC ....................................... 242,558 4,733 104 247,187
FNMA ........................................ 176,167 3,371 85 179,453
GNMA ........................................ 292,664 6,009 -- 298,673
Private issues .............................. 74,523 1,165 136 75,552
Collateralized mortgage obligations ......... 968,082 4,541 2,208 970,415
---------- ------- ------ ----------
Total investment securities
held-to-maturity ............................ $1,839,655 $23,661 $2,733 $1,860,583
========== ======= ====== ==========
</TABLE>
<TABLE>
<CAPTION>
At December 31, 1997
---------------------------------------------------------------
Amortized Unrealized Unrealized
Cost Appreciation Depreciation Fair Value
------------- -------------- -------------- -------------
<S> <C> <C> <C> <C>
Investment Securities Held-to-Maturity:
Investment Securities:
U.S. Treasury and government agency
securities ................................ $ 47,520 $ 335 $ 430 $ 47,425
Corporate securities ........................ 1,050 24 -- 1,074
Other securities ............................ 61,406 3,832 150 65,088
Mortgage-backed Securities:
FHLMC ....................................... 383,790 7,569 520 390,839
FNMA ........................................ 243,116 3,752 412 246,456
GNMA ........................................ 415,840 8,336 157 424,019
RTC ......................................... 411 -- 1 410
Private issues .............................. 124,794 999 82 125,711
Collateralized mortgage obligations ......... 2,138,524 9,964 2,647 2,145,841
---------- ------- ------ ----------
Total investment securities
held-to-maturity ............................ $3,416,451 $34,811 $4,399 $3,446,863
========== ======= ====== ==========
</TABLE>
F-31
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
The amortized cost and estimated fair value of investment securities at
December 31, 1998 by contractual maturity are shown below. Expected maturities
will differ from contractual maturities because borrowers may have the right to
call or prepay obligations with or without call or prepayment penalties (in
thousands):
<TABLE>
<CAPTION>
Amortized Cost Fair Value
---------------- -------------
<S> <C> <C>
Investment Securities Available-for-Sale:
Due in one year or less ............................... $ 192,684 $ 192,816
Due after one year through five years ................. 14,060 14,040
Due after five years through ten years ................ 16,449 16,585
Due after ten years ................................... 5,530,170 5,552,850
No stated maturity .................................... 881,188 886,136
---------- ----------
Total investment securities available-for-sale ......... $6,634,551 $6,662,427
========== ==========
</TABLE>
<TABLE>
<CAPTION>
Amortized Cost Fair Value
---------------- -------------
<S> <C> <C>
Investment Securities Held-to-Maturity:
Due in one year or less .............................. $ 36,478 $ 36,500
Due after one year through five years ................ 4,074 4,156
Due after five years through ten years ............... 158,928 160,310
Due after ten years .................................. 1,640,175 1,659,617
---------- ----------
Total investment securities held-to-maturity ......... $1,839,655 $1,860,583
========== ==========
</TABLE>
Proceeds from sales of investment securities and the realized gross gains
and losses from those sales are as follows (in thousands):
<PAGE>
<TABLE>
<CAPTION>
Available-for-Sale Held-to-Maturity
Year Ended December 31, Year Ended December 31,
----------------------------------------- ------------------------------------
1998 1997 1996 1998 1997 1996
------------- ----------- ----------- ---------- ------------- -------
<S> <C> <C> <C> <C> <C> <C>
Proceeds from sales ................. $2,145,929 $295,933 $901,987 $12,432 $ 561,316 $ --
========== ======== ======== ======= ========= ====
Gross realized gains(1) ............. 27,729 3,751 9,844 -- 183 --
Gross realized losses(1) ............ 11,449 2,893 4,858 457 10,217 --
---------- -------- -------- ------- --------- ----
Net realized gains/(losses) ......... $ 16,280 $ 858 $ 4,986 $ (457) $ (10,034) $ --
========== ======== ======== ======= ========= ====
</TABLE>
- ------------
(1) Included in gross realized gains and losses from sales of investment
securities are $1.7 million of gains and $10.1 million of losses resulting
from the termination of interest rate swaps which were hedging the
specific securities sold.
Proceeds from sales of investment securities held-to-maturity for the
years ended December 31, 1998 and 1997 were the result of the liquidation of
certain held-to-maturity securities acquired from ML Bancorp in 1998 and
Bankers in 1997. These sales were completed in accordance with the provisions
of SFAS No. 115, "Accounting for Certain Investments in Debt and Equity
Securities" to maintain Sovereign's pre-merger interest rate risk position.
Tax-exempt income included in interest and dividends on investment
securities for the years ended December 31, 1998, 1997 and 1996 were $17.9
million, $10.5 million and $5.4 million, respectively. Tax expense/(benefit)
related to net realized gains and losses from sales of investment securities
for the years ended December 31, 1998, 1997 and 1996 were $5.7 million, $(3.2)
million and $1.7 million, respectively. Investment securities with an estimated
fair value of $1.8 billion and $1.6 billion were pledged as collateral for
borrowings, interest rate agreements and public deposits at December 31, 1998
and 1997, respectively.
F-32
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
(5) LOANS
A summary of loans included in the consolidated balance sheets follows (in
thousands):
<TABLE>
<CAPTION>
At December 31,
----------------------------
1998 1997
------------- -------------
<S> <C> <C>
Residential real estate loans .................................... $ 5,113,537 $ 6,634,271
Residential construction loans (net of loans in process of $89,509
and $49,568, respectively) ...................................... 62,536 137,367
----------- -----------
Total Residential Loans ....................................... 5,176,073 6,771,638
----------- -----------
Commercial real estate loans ..................................... 887,938 664,943
Commercial loans ................................................. 717,440 356,517
Automotive floor plan loans ...................................... 578,147 279,757
Multi-family loans ............................................... 115,195 115,570
----------- -----------
Total Commercial Loans ........................................ 2,298,720 1,416,787
----------- -----------
Home equity loans ................................................ 1,750,883 1,050,304
Auto loans ....................................................... 1,510,676 1,553,318
Loans to automotive lessors ...................................... 252,856 267,033
Student Loans .................................................... 256,744 190,440
Credit cards ..................................................... -- 54,887
Other ............................................................ 39,888 19,715
----------- -----------
Total Consumer Loans .......................................... 3,811,047 3,135,697
----------- -----------
Total Loans(1) ................................................ $11,285,840 $11,324,122
Total Loans with(2)
Fixed rate ...................................................... $ 5,798,158 $ 4,548,951
Variable rate ................................................... 5,487,682 6,775,171
----------- -----------
Total Loans(1) ................................................ $11,285,840 $11,324,122
=========== ===========
</TABLE>
- ------------
(1) Loan totals are net of deferred loan fees and unamortized premiums and
discounts of $16.9 million for 1998 and $20.3 million for 1997.
(2) Loan totals do not reflect the impact of off-balance sheet interest rate
swaps used for interest rate risk management as discussed below.
As a result of Sovereign's use of interest rate swaps for interest rate
risk management, at December 31, 1998, $175 million of intermediate variable
rate mortgage loans (loans with a five-year fixed rate period) have effectively
been converted to variable rate over the fixed rate period.
The total amount of loans being serviced for the benefit of others was
$6.7 billion, $6.4 billion and $5.9 billion at December 31, 1998, 1997 and
1996, respectively. At December 31, 1998 and 1997, Sovereign had mortgage
servicing rights of $62.3 million and $64.8 million, respectively.
Loans to related parties include loans made to certain officers, directors
and their affiliated interests. At December 31, 1998, loans to related parties
totaled $2.7 million.
For additional information with respect to the scheduled maturity of
Sovereign's loan portfolio, see Table 5 in "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Loan Portfolio" on
page 26.
F-33
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
The activity in the allowance for loan losses is as follows (in thousands):
<TABLE>
<CAPTION>
Year Ended December 31,
-------------------------------------
1998 1997 1996
----------- ---------- ----------
<S> <C> <C> <C>
Balance, beginning of period .................. $116,823 $ 73,847 $67,515
Acquired reserves and other additions ......... 22,660 20,652 716
Provision for Loan Losses ..................... 27,961 41,125 22,685
Charge-offs ................................... 46,330 24,184 18,941
Recoveries .................................... 12,688 5,383 1,872
-------- -------- -------
Balance, end of period ........................ $133,802 $116,823 $73,847
======== ======== =======
</TABLE>
Sovereign encourages loan officers to follow specific procedures in the
early identification and collection of problem loans. If a loan becomes
seriously delinquent or the loan officer is not successful in the resolution of
the problem loan, the account is transferred to Sovereign's Asset Recovery
Team. At this time the account is analyzed for collateral values and the cash
flows available to repay the loan. If it is determined that there is a
collateral shortfall and insufficient cash flow to repay the debt, a reserve
will be established. At any time during this process and at the loan officer's
discretion, the account may be placed on non-accrual status. By following these
procedures, losses are minimized on impaired loans.
Impaired loans are summarized as follows (in thousands):
At December 31,
---------------------
1998 1997
--------- ---------
Impaired loans without a related reserve ......... $ -- $ 137
Impaired loans with a related reserve ............ 63,296 24,802
------- -------
Total impaired loans .......................... $63,296 $24,939
======= =======
Reserve for impaired loans .................... $18,582 $ 8,249
======= =======
The average balance of impaired loans for 1998, 1997 and 1996 was $58.1
million, $29.2 million and $30.5 million, respectively.
(6) PREMISES AND EQUIPMENT
A summary of premises and equipment, less accumulated depreciation and
amortization, follows (in thousands):
At December 31,
----------------------------
1998 1997
------------- ------------
Land ....................................... $ 14,923 $ 15,636
Office buildings ........................... 69,542 64,532
Furniture, fixtures, and equipment ......... 94,055 85,479
Leasehold improvements ..................... 21,351 16,578
Automobiles ................................ 849 1,129
---------- ---------
200,720 183,354
Less accumulated depreciation .............. (102,229) (91,081)
---------- ---------
Total premises and equipment ............ $ 98,491 $ 92,273
========== =========
F-34
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
Sovereign is committed under various non-cancelable operating leases
relating to branch facilities having initial or remaining terms in excess of
one year. The minimum annual rental commitments under these leases at December
31, 1998, are summarized as follows (in thousands):
At December 31, 1998
---------------------
1999 ................ $14,538
2000 ................ 13,243
2001 ................ 12,332
2002 ................ 10,273
2003 ................ 7,568
Thereafter .......... 27,665
-------
Total ............ $85,619
=======
Total rental expense for all leases for the years ended December 31, 1998,
1997 and 1996 was $10.6 million, $7.9 million and $6.3 million, respectively.
(7) ACCRUED INTEREST RECEIVABLE
Accrued interest receivable is summarized as follows (in thousands):
At December 31, 1998
-----------------------
1998 1997
---------- ----------
Accrued interest receivable on:
Investment securities ............... $ 57,809 $ 36,800
Loans ............................... 89,632 71,229
-------- --------
Total interest receivable ......... $147,441 $108,029
======== ========
Accrued interest receivable is stated net of an allowance for potentially
uncollected interest (for loans on non-accrual and for loans that have been
restructured). If these non-accruing and restructured loans had been current in
accordance with their original terms and had been outstanding throughout the
period, gross interest income for the years ended December 31, 1998, 1997 and
1996 would have increased by approximately $9.5 million, $7.5 million and $8.5
million, respectively. Interest income recorded on these loans for the years
ended December 31, 1998, 1997 and 1996 was $3.3 million, $2.4 million and $2.4
million respectively.
(8) DEPOSITS
Deposits are summarized as follows (in thousands):
<TABLE>
<CAPTION>
At December 31,
-------------------------------------------------------------------------------
1998 1997
-------------------------------------- --------------------------------------
Balance Percent Rate Balance Percent Rate
------------- --------- ---------- ------------- --------- ----------
<S> <C> <C> <C> <C> <C> <C>
Demand deposit accounts ................ $ 1,104,170 9% -- % $ 611,670 6% -- %
NOW accounts ........................... 1,281,516 10 1.24 723,182 8 1.29
Savings accounts ....................... 2,295,448 19 2.83 1,900,334 20 3.02
Money market accounts .................. 1,545,634 13 3.78 916,788 10 4.06
Retail certificates of deposit ......... 5,172,196 42 5.24 4,673,467 49 5.54
Jumbo certificates of deposit .......... 923,752 7 5.40 689,853 7 5.76
----------- -- ---- ---------- -- ----
Total deposits ......................... $12,322,716 100% 3.73% $9,515,294 100% 4.23%
=========== === ==== ========== === ====
</TABLE>
F-35
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
Certificate accounts are frequently renewed at maturity rather than paid
out. The following table sets forth the maturity of Sovereign's certificates of
deposit as scheduled to mature contractually at December 31, 1998 (in
thousands):
<TABLE>
<CAPTION>
Within Six Mos./ One/Three Three/Five Five/Ten Over Ten
Six Mos. One Yr. Yrs. Yrs. Yrs. Yrs. Total
------------ ------------- ----------- ------------ ---------- --------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
Certificate accounts by rate:
Less than 4.001% ............... $ 163,830 $ 9,982 $ 12,147 $ 87 $24,249 $2,799 $ 213,094
4.001% - 6.000% ................ 3,511,179 1,433,186 502,519 73,956 14,250 301 5,535,391
6.001% - 8.000% ................ 76,754 86,156 114,658 29,478 27,301 8 334,355
8.001% - 10.000% ............... 5,043 1,412 1,507 387 1,083 354 9,786
Above 10.000% .................. 167 105 957 213 1,791 89 3,322
---------- ---------- -------- -------- ------- ------ ----------
Total certificate accounts ..... $3,756,973 $1,530,841 $631,788 $104,121 $68,674 $3,551 $6,095,948
========== ========== ======== ======== ======= ====== ==========
</TABLE>
The following table sets forth the maturity of Sovereign's certificates of
deposit as scheduled to mature contractually at December 31, 1998 (in
thousands):
At December 31, 1998
---------------------
1999 ......................... $5,287,816
2000 ......................... 523,672
2001 ......................... 108,114
2002 ......................... 52,259
2003 ......................... 51,862
Thereafter ................... 72,225
----------
Total ........................ $6,095,948
==========
<PAGE>
The following table sets forth the maturity of Sovereign's certificates of
deposit of $100,000 or more as scheduled to mature contractually at December
31, 1998 (in thousands):
At December 31, 1998
---------------------
Three months or less .................... $ 496,443
Over three through six months ........... 548,181
Over six through twelve months .......... 181,048
Over twelve months ...................... 78,610
----------
Total ............................................ $1,304,282
==========
Interest expense on deposits is summarized as follows (in thousands):
<TABLE>
<CAPTION>
At December 31,
--------------------------------------
1998 1997 1996
---------- ----------- -----------
<S> <C> <C> <C>
Demand deposit and NOW accounts ............... $ 16,387 $ 7,967 $ 9,423
Savings accounts .............................. 62,694 58,974 51,824
Money market accounts ......................... 45,055 33,719 34,387
Certificates of deposit ....................... 316,164 278,153 255,450
-------- -------- --------
Total interest expense on deposits ......... $440,300 $378,813 $351,084
======== ======== ========
</TABLE>
Deposits of related parties include deposits made by certain officers,
directors and their affiliated interests. At December 31, 1998, deposits of
related parties totaled $1.7 million.
F-36
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
(9) SHORT-TERM AND LONG-TERM BORROWINGS
Short-term Borrowings. Short-term borrowings included in the consolidated
balance sheets are as follows (in thousands):
<TABLE>
<CAPTION>
At December 31,
-----------------------------
1998 1997
------------- -------------
<S> <C> <C>
Securities sold under repurchase agreements ......... $ 315,540 $ 787,700
Federal Home Loan Bank advances ..................... 3,409,243 4,626,401
Other borrowings .................................... 196,901 41,793
---------- ----------
Total borrowings ................................. $3,921,684 $5,455,894
========== ==========
</TABLE>
Included in short-term borrowings are sales of securities under repurchase
agreements. Securities underlying these repurchase agreements consisted of
investment securities which had a book value of $180 million and $723 million
and a market value of $182 million and $729 million at December 31, 1998 and
1997, respectively.
Effective January 1, 1998, Sovereign adopted the provisions of SFAS No.
127, "Deferral of the Effective Date of Certain Provisions of SFAS No. 125."
The provisions of SFAS No. 127 defer the effective date for the provisions of
SFAS No. 125 relating to accounting for repurchase agreements, dollar rolls,
securities lending and similar transactions. Accordingly, qualifying repurchase
agreements are treated as financings and the obligations to repurchase
securities sold are reflected as a liability in the balance sheet. The dollar
amount of securities underlying the agreements remains in the asset accounts,
although the securities underlying the agreements are delivered to the brokers
who arranged the transactions. In certain instances, the broker may have sold,
loaned, or disposed of the securities to other parties in the normal course of
their operations, and have agreed to resell to Sovereign substantially similar
securities at the maturity of the agreements. The broker/dealers who
participate with Sovereign in these agreements are primarily broker/dealers
reporting to the Federal Reserve Bank of New York.
The following table summarizes information regarding short-term securities
sold under repurchase agreements (in thousands):
<TABLE>
<CAPTION>
December 31,
----------------------------------------------
1998 1997 1996
------------- -------------- -------------
<S> <C> <C> <C>
Balance ................................................ $ 315,540 $ 787,700 $ 939,659
Weighted average interest rate ......................... 5.32% 5.61% 5.58%
Maximum amount outstanding at any month-end dur-
ing the year .......................................... $ 956,394 $1,515,156 $1,310,406
Average amount outstanding during the year ............. $ 525,986 $1,222,183 $ 804,012
Weighted average interest rate during the year ......... 5.39% 5.67% 5.77%
</TABLE>
The following table summarizes information regarding short-term Federal
Home Loan Bank of Pittsburgh advances (in thousands):
<TABLE>
<CAPTION>
December 31,
---------------------------------------------------
1998 1997 1996
--------------- --------------- ---------------
<S> <C> <C> <C>
Balance ................................................ $ 3,409,243 $ 4,626,401 $ 3,079,801
Weighted average interest rate ......................... 5.32% 5.91% 5.82%
Maximum amount outstanding at any month-end dur-
ing the year .......................................... $ 5,361,401 $ 4,709,176 $ 3,842,670
Average amount outstanding during the year ............. $ 4,420,827 $ 3,718,562 $ 2,356,162
Weighted average interest rate during the year ......... 5.98% 6.03% 5.88%
</TABLE>
F-37
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
The following table summarizes information regarding short-term federal
funds purchased (in thousands):
<TABLE>
<CAPTION>
December 31,
---------------------------------------
1998 1997 1996
---------- ----------- ------------
<S> <C> <C> <C>
Balance ................................................ $ -- $ -- $ 12,000
Weighted average interest rate ......................... --% --% 7.26%
Maximum amount outstanding at any month-end dur-
ing the year .......................................... $ -- $22,400 $ 43,400
Average amount outstanding during the year ............. $ -- $ 3,860 $ 15,840
Weighted average interest rate during the year ......... --% 5.68% 5.44%
</TABLE>
Long-term Borrowings. Long-term securities sold under repurchase
agreements had weighted average interest rates of 5.58% and 5.88% at December
31, 1998 and 1997, respectively. Long-term Federal Home Loan Bank of Pittsburgh
advances had weighted average interest rates of 4.96% and 6.07% at December 31,
1998 and 1997, respectively. Long-term borrowings are as follows (in
thousands):
<TABLE>
<CAPTION>
December 31,
-----------------------------
1998 1997
------------- -------------
<S> <C> <C>
Securities sold under repurchase agreements, maturing January 2000 to
May 2008 ........................................................... $ 340,000 $ 362,393
FHLB advances, maturing February 2000 to April 2012 ................. 3,492,262 898,998
6.75% senior notes due July 1, 2000 ................................. 49,653 49,655
6.75% subordinated debentures, due 2000 ............................. 27,894 27,831
8.50% subordinated debentures, due 2002 ............................. 19,708 19,629
8.00 subordinated debentures, due 2003 .............................. 49,391 49,243
---------- ----------
Total long-term borrowings .......................................... $3,978,908 $1,407,749
========== ==========
</TABLE>
Included in long-term borrowings are sales of securities under repurchase
agreements. Securities underlying these repurchase agreements consisted of
mortgage-backed securities which had a book value of $340 million and a market
value of $344 million at December 31, 1998. Single issuers of these repurchase
agreements having an aggregate book value in excess of 10% of Sovereign's
stockholders' equity at December 31, 1998 included Salomon Smith Barney
Holdings, Inc. with $197 million and a weighted average maturity of 2.2 years
and Lehman Brothers, Inc. with $123 million and a weighted average maturity of
7.7 years.
The majority of Federal Home Loan Bank of Pittsburgh advances are
collateralized by qualifying mortgage-related assets as defined by the Federal
Home Loan Bank of Pittsburgh. The remaining Federal Home Loan Bank of
Pittsburgh advances are collateralized by mortgage-backed securities.
The 6.75% notes are non-amortizing and are not redeemable prior to
maturity. The 6.75% debentures are non-amortizing and are not redeemable prior
to maturity. The 6.75% debentures and a portion of the Federal Home Loan Bank
of Pittsburgh advances have, through the use of interest rate swaps, been
effectively converted from fixed rate obligations to variable rate obligations.
The 8.50% debentures are non-amortizing and are redeemable at the option of
Sovereign in whole or in part at any time on or after September 15, 1999. The
8.00% debentures are non-amortizing and are not redeemable prior to maturity.
F-38
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
The following table sets forth the maturity of Sovereign's long-term
borrowings as scheduled to mature contractually at December 31, 1998 (in
thousands):
At December 31, 1998
---------------------
1999 .......................... $ --
2000 .......................... 269,547
2001 .......................... 363,000
2002 .......................... 486,708
2003 .......................... 814,391
Thereafter .................... 2,045,262
----------
Total ......................... $3,978,908
==========
(10) TRUST PREFERRED SECURITIES
During March 1997, Sovereign issued $100 million of preferred capital
securities ("Trust Preferred") through Sovereign Capital Trust I ("Trust"), a
special-purpose statutory trust created expressly for the issuance of these
securities. Distributions on the Trust Preferred will be payable at an annual
rate of 9% of the stated liquidation amount of $1,000 per capital security,
payable semi-annually. After issuance costs, proceeds of $97.6 million were
invested in Junior Subordinated Debentures of Sovereign, at terms identical to
the Trust Preferred offering. Cash distributions on the Trust Preferred are
made to the extent interest on the debentures is received by the Trust. In the
event of certain changes or amendments to regulatory requirements or federal
tax rules, the Trust Preferred securities are redeemable in whole. Otherwise,
the Trust Preferred securities are generally redeemable in whole or in part on
or after April 1, 2007, at a declining redemption price ranging from 103.875%
to 100% of the liquidation amount. On or after April 1, 2017, the Trust
Preferred securities may be redeemed at 100% of the liquidation amount.
During March 1997, ML Bancorp, a predecessor company of Sovereign, also
issued $50.0 million of Trust Preferred Securities at an interest rate of
9.875%, with a scheduled maturity of March 1, 2027. The securities were issued
by ML Capital Trust I and proceeds from the issuance were invested in Junior
Subordinated Debentures issued by ML Bancorp. Sovereign assumed ML Bancorp's
obligations under this offering and has the option, subject to required
regulatory approval, to prepay the securities beginning March 1, 2007.
The Trust Preferred offerings are classified as and are similar to a
minority interest and are presented as "Corporation-obligated mandatorily
redeemable capital securities of subsidiary trust holding solely subordinated
debentures of Sovereign Bancorp, Inc." The Trust Preferred offerings qualify
for Tier I capital treatment for Sovereign and the loan payments from Sovereign
to the Trust are fully tax deductible.
(11) STOCKHOLDERS' EQUITY
The Financial Institutions Reform, Recovery and Enforcement Act ("FIRREA")
requires institutions regulated by the Office of Thrift Supervision to have
minimum regulatory tangible capital equal to 1.5% of total tangible assets, a
minimum leverage capital ratio equal to 3% of tangible assets and 4% of
risk-adjusted assets and a risk-based capital ratio equal to 8%. Sovereign Bank
was in compliance with all of these capital requirements as of December 31,
1998. The following schedule summarizes the actual capital balances of
Sovereign Bank at December 31, 1998 (in thousands):
<TABLE>
<CAPTION>
Risk-Based
Capital to
Leverage Capital Risk-
Tangible Capital to Leverage Capital to Risk-Adjusted Adjusted
Tangible Assets to Tangible Assets Assets Assets
--------------------- -------------------- ------------------ ---------------
<S> <C> <C> <C> <C>
Sovereign Bank:
Regulatory capital .................. $ 1,107,748 $ 1,107,748 $ 1,107,748 $ 1,230,442
Minimum capital requirement ......... 325,259 637,364 476,865 953,731
----------- ----------- ----------- -----------
Excess ........................... $ 782,489 $ 470,384 $ 630,883 $ 276,711
=========== =========== =========== ===========
Capital ratio .................... 5.11% 5.21% 9.29% 10.32%
</TABLE>
F-39
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
Office of Thrift Supervision capital regulations do not apply to holding
companies. The following schedule summarizes actual capital balances of
Sovereign Bancorp at December 31, 1998 as if those regulations did apply to
Sovereign Bancorp (in thousands):
<TABLE>
<CAPTION>
Risk-Based
Capital to
Leverage Capital Risk-
Tangible Capital to Leverage Capital to Risk-Adjusted Adjusted
Tangible Assets to Tangible Assets Assets Assets
--------------------- -------------------- ------------------ ---------------
<S> <C> <C> <C> <C>
Sovereign Bank:
Regulatory capital .................. $ 753,790 $ 882,840 $ 882,840 $ 1,354,036
Minimum capital requirement ......... 321,870 630,717 481,486 962,971
--------- --------- --------- -----------
Excess ........................... $ 431,920 $ 252,123 $ 401,354 $ 391,065
========= ========= ========= ===========
Capital ratio ....................... 3.51% 4.20% 7.33% 11.25%
</TABLE>
The Federal Deposit Insurance Corporation Improvement Act ("FDICIA")
established five capital tiers: well-capitalized, adequately-capitalized,
undercapitalized, significantly undercapitalized and critically
undercapitalized. A depository institution's capital tier depends upon its
capital levels in relation to various relevant capital measures, which include
leverage and risk-based capital measures and certain other factors. Depository
institutions that are not classified as well-capitalized or
adequately-capitalized are subject to various restrictions regarding capital
distributions, payment of management fees, acceptance of brokered deposits and
other operating activities. At December 31, 1998, Sovereign Bank was classified
as well-capitalized and in compliance with all capital requirements. Management
anticipates that Sovereign Bank will continue to be classified as
well-capitalized and will be in compliance with all regulatory capital
requirements.
As a result of provisions of the Small Business Jobs Protection Act of
1996 (the "Jobs Protection Act"), which repealed the tax reserve method for bad
debts for thrift institutions and the circumstances requiring bad debt
recapture for large institutions, Sovereign must determine the tax deduction
for bad debt based on actual charge-offs. The Jobs Protection Act retained the
existing base year bad debt reserve and requires recapture into taxable income
in certain circumstances such as in the case of certain excess distributions or
complete redemptions. None of the limited circumstances requiring recapture are
anticipated by Sovereign. Retained earnings at December 31, 1998 included $62.4
million in bad debt reserves, for which no deferred taxes have been provided
due to the indefinite nature of the recapture provisions.
Sovereign maintains a Dividend Reinvestment and Stock Purchase Plan which
permits holders of record of Sovereign common stock to purchase additional
shares of common stock directly from Sovereign via reinvestment of cash
dividends and optional cash purchases. At December 31, 1998, purchases of
common stock with reinvested dividends are made at a 5% discount from the
current market price as defined and optional cash purchases are limited to a
maximum of $5,000 per quarter.
Sovereign maintains a Stockholder Rights Plan (the "Rights Plan"). The
Rights Plan is designed to protect stockholders from attempts to acquire
control of Sovereign at an inadequate price. Under the Rights Plan, Sovereign
distributed a dividend of one right to purchase a unit of preferred stock on
each outstanding share of Sovereign's common stock. The rights are not
currently exercisable or transferable and no separate certificates evidencing
such rights will be distributed, unless certain events occur. The rights attach
to shares of common stock outstanding on October 2, 1989 and will expire on
September 27, 2004 as stated in the amendment to the Rights Plan dated
September 27, 1995. The rights will entitle the holders to purchase either
Sovereign's common stock or the common stock of the potential acquirer at a
substantially reduced price.
On May 17, 1995, Sovereign completed the sale of 2.0 million shares of
Convertible Preferred Stock, raising $96.4 million in capital. The 61/4%
non-voting, Cumulative Convertible Preferred Stock was convertible at the
option of the holder at any time, unless previously redeemed, at a conversion
rate (adjusted
F-40
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
to reflect all stock dividends and stock splits) of 7.184 shares of common
stock for each share of preferred stock; equivalent to a conversion price of
$6.960 per share of common stock. On May 15, 1998, Sovereign redeemed all
outstanding shares of its 61/4% Cumulative Convertible Preferred Stock, Series
B.
(12) STOCK OPTION PLANS
Sovereign grants stock options for a fixed number of shares to key
officers and directors with an exercise price equal to the fair value of the
shares at the date of grant. Sovereign's stock options expire not more than ten
years after the date of grant and become fully vested and exercisable within a
one to five year period after the date of grant. Sovereign accounts for stock
option grants in accordance with APB Opinion No. 25, "Accounting for Stock
Issued to Employees," and accordingly, recognizes no compensation expense for
the stock option grants. There are 14.2 million shares of common stock reserved
for issuance under the plans. These shares, along with the per share data in
the following summary of option transactions, have been adjusted to reflect all
stock dividends and stock splits.
<TABLE>
<CAPTION>
Price Per
Shares Share
--------------- ----------------
<S> <C> <C>
Options outstanding December 31, 1995 ......... 8,509,516 $.96 - $7.51
--------- ----------------
Granted ....................................... 767,921 $6.16 - $8.94
Exercised ..................................... (1,051,867) $.97 - $6.45
Forfeited ..................................... (159,675) $3.84 - $7.51
---------- ----------------
Options outstanding December 31, 1996
(3,758,345 shares exercisable) .............. 8,065,895 $.96 - $8.94
---------- ----------------
Granted ....................................... 1,382,278 $8.17 - $15.94
Exercised ..................................... (3,388,704) $.97 - $7.51
Forfeited ..................................... (26,016) $3.84 - $10.54
---------- ----------------
Options outstanding December 31, 1997
(4,351,317 shares exercisable) .............. 6,033,453 $.96 - $16.77
---------- ----------------
Granted ....................................... 934,070 $13.38 - $20.25
Exercised ..................................... (2,295,265) $.97 - $10.54
Forfeited ..................................... (172,550) $8.22 - $20.25
---------- ----------------
Options outstanding December 31, 1998
(3,371,038 shares exercisable) .............. 4,499,708 $.96 - $20.25
========== ================
</TABLE>
The following table summarizes Sovereign's stock options outstanding at
December 31, 1998:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
--------------------------------------------------- -----------------------------
Wtd. Avg.
Wtd. Avg. Remaining Wtd. Avg.
Exercise Prices Shares Exercise Price Contractual Life Shares Exercise Price
- ------------------- ----------- ---------------- ------------------ ----------- ---------------
<S> <C> <C> <C> <C> <C>
$.96 - $5.90 2,485,494 $ 3.60 4.51 2,485,494 $ 3.60
$6.07 - $12.71 636,264 $ 8.14 7.89 636,264 $ 8.14
$13.28 - $20.25 1,377,950 $ 14.65 9.15 249,280 $ 13.59
--------- ------- ---- --------- -------
Total 4,499,708 $ 7.63 6.41 3,371,038 $ 5.19
========= ======= ==== ========= =======
</TABLE>
SFAS No. 123, "Accounting for Stock-Based Compensation," which provides
companies with a choice either to expense the fair value of employee stock
options over the vesting period (recognition method) or to continue the
previous practice but disclose the pro forma effects on net income and earnings
per share had the fair value method been used (disclosure only method).
Sovereign adopted the disclosure only method during 1996.
F-41
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
Pro forma information regarding net income and earnings per share is
required by SFAS No. 123 and has been determined as if Sovereign had accounted
for its employee stock options under the fair value method of that statement.
The fair value for these options was estimated at the date of grant using a
Black-Scholes option pricing model with the following assumptions:
<TABLE>
<CAPTION>
Grant date year 1998 1997 1996
- ------------------------------------------ ------------------- ------------------- ------------------
<S> <C> <C> <C>
Options granted .......................... 934,070 1,382,278 466,581
Options forfeited ........................ 72,600 103,169 5,325
Expected volatility ...................... .278 .200 - .840 .239 - .840
Expected life in years ................... 6.00 4.00 - 7.50 5.00 - 7.50
Stock price on date of grant ............. $13.38 - $20.25 $8.17 - $15.94 $6.16 - $8.94
Exercise price ........................... $13.38 - $20.25 $8.17 - $15.94 $6.16 - $8.94
Weighted average exercise price .......... $ 15.25 $ 10.42 $ 6.55
Weighted average fair value .............. $ 5.38 $ 4.47 $ 3.44
Expected dividend yield .................. .67% .21% - 3.00% .21% - 2.42%
Risk-free interest rate .................. 4.65% - 5.72% 5.76% - 6.88% 5.23% - 6.88%
Vesting period in years .................. 1 0-4 1-5
</TABLE>
The Black-Scholes option valuation model was developed for use in
estimating the fair market value of traded options which have no vesting
restrictions and are fully transferable. In addition, option valuation models
require the input of highly subjective assumptions, including the expected
stock price volatility. Because Sovereign's employee stock options have
characteristics significantly different from those traded options and because
changes in the subjective input assumptions can materially affect the fair
value estimate, in management's opinion, the existing models do not necessarily
provide reliable single measure of fair value of its employee stock options.
The pro forma reduction to net income for 1998, 1997 and 1996 was $2.9
million, $2.5 million and $426,000, respectively. The pro forma reduction to
diluted earnings per share for 1998 was $.02, for 1997 was $.02 and for 1996
was $.00.
(13) EMPLOYEE BENEFIT PLANS
Sovereign sponsors a non-contributory defined benefit pension plan which
covers substantially all employees who have attained the age of 21 and
completed one year of service. Benefits under the plan are based upon years of
service and the employees' average compensation computed based upon the five
consecutive plan years of highest pay during the ten years preceding retirement
or termination. At December 31, 1998, the Sovereign pension plan held
approximately 79,000 shares of Sovereign common stock with a fair market value
of $1.1 million. Dividends paid on these shares during 1998 totaled $6,000.
It is Sovereign's policy to fund the minimum contribution as determined by
an actuarial valuation. The net periodic pension costs for this plan are
comprised of the following components (in thousands):
<TABLE>
<CAPTION>
At December 31,
---------------------------------------
1998 1997 1996
----------- ----------- -----------
<S> <C> <C> <C>
Service cost benefits earned during the period ........... $ 2,248 $ 1,928 $ 1,736
Interest cost on projected benefit obligation ............ 2,498 2,550 2,311
Actual return on plan assets ............................. (7,028) (7,227) (4,824)
Amortization of unrecognized net assets and other deferred
amounts, net ............................................ 3,761 3,037 1,390
Curtailment Loss ......................................... -- -- 542
Asset gain ............................................... -- 331 62
-------- -------- --------
Net periodic pension expense ........................... $ 1,479 $ 619 $ 1,217
======== ======== ========
</TABLE>
F-42
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
The following table sets forth the Change in Benefit Obligation, Change in
Plan Assets and Funded Status for Sovereign's pension plan at December 31, 1998
and 1997 (in thousands):
<TABLE>
<CAPTION>
Year Ended December 31,
-----------------------
1998 1997
---------- ----------
<S> <C> <C>
Change in Benefit Obligation
Benefit obligation at beginning of year ................ $ 37,303 $ 37,398
Service cost ........................................... 2,248 1,928
Interest cost .......................................... 2,498 2,550
Actuarial gains ........................................ 895 233
Benefits paid .......................................... (4,696) (4,806)
-------- --------
Benefit obligation at end of year ...................... 38,248 37,303
-------- --------
Change in Plan Assets
Fair value of plan assets at beginning of year ......... 41,787 38,602
Actual return on plan assets ........................... 7,028 7,227
Company contributions .................................. 105 764
Benefits paid .......................................... (4,696) (4,806)
-------- --------
Fair value of plan assets at end of year ............... 44,224 41,787
-------- --------
Funded Status of the Plan .............................. 5,976 4,484
Unrecognized net actuarial loss ........................ (5,351) (2,234)
Unrecognized net transition asset ...................... 1,176 1,176
Unrecognized prior service cost ........................ 773 627
-------- --------
Prepaid benefit cost ................................... $ 2,574 $ 4,053
======== ========
</TABLE>
In determining the projected benefit obligation, the assumed discount
rates at December 31, 1998, 1997 and 1996 were 6.75%, 6.77% and 7.18%,
respectively. The weighted average rate of salary increase was 4.50% for 1998,
4.46% for 1997 and 5.17% for 1996. The expected long-term rate of return on
assets used in determining net periodic pension expense was 9.00% for 1998,
8.92% for 1997 and 8.73% for 1996.
The pension plan's assets consist primarily of common stock, fixed income
securities such as corporate bonds and U.S. Treasury securities and units of
certain common trust funds.
Sovereign also maintains a 401(k) savings plan. Substantially all
employees of Sovereign are eligible to participate in the 401(k) savings plan
following their completion of one year of service and attaining age 21.
Sovereign's contributions to this plan were $1.5 million, $753,000 and $728,000
during 1998, 1997 and 1996, respectively. Pursuant to this plan, employees can
contribute up to 10% of their compensation to the plan. Sovereign contributes
up to 50% of the employee contribution up to 6% of compensation in the form of
Sovereign common stock.
Sovereign maintains an Employee Stock Ownership Plan ("Sovereign ESOP"),
and substantially all employees of Sovereign are eligible to participate in the
Sovereign ESOP following their completion of one year of service and attaining
age 21. The Sovereign ESOP is a deferred contribution plan which provides
retirement benefits for participants and beneficiaries by purchasing Sovereign
common stock in the open market. The amount of annual contributions to the
Sovereign ESOP by Sovereign is determined by the Board of Directors based upon
the financial performance of Sovereign each year. Sovereign recognized as
expense $4.0 million, $7.7 million and $4.6 million to the ESOP during 1998,
1997 and 1996, respectively.
On November 21, 1994, Sovereign's Board of Directors authorized an
amendment to the Sovereign ESOP to add a leverage feature to purchase up to 6.7
million shares of Sovereign's outstanding common stock
F-43
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
in the open market or in negotiated transactions. The Sovereign ESOP is funded
through direct loans from Sovereign totaling approximately $38.0 million at
year-end 1998. The proceeds from these loans were used to purchase outstanding
shares of Sovereign's common stock. As the debt on these loans is repaid,
shares of Sovereign common stock are released and become eligible for
allocation to employee accounts. In addition, dividends are paid on all shares
of Sovereign common stock, including unallocated shares held by the Sovereign
ESOP. Dividends on the unallocated shares are allocated on a pro-rata basis
when purchased shares are released. Compensation expense is recognized based on
the fair value of the shares committed to be released to employees and the
shares then become outstanding for earnings per share computations. Sovereign
has committed to make contributions sufficient to provide for the ESOP debt
requirements. At December 31, 1998, the Sovereign ESOP held 5.7 million shares
of which 1.4 million shares were allocated to employee accounts. The
unallocated ESOP shares are presented as a reduction of stockholders' equity in
the consolidated financial statements. At December 31, 1998, the fair value of
the unallocated shares held by the ESOP was $62.3 million.
Sovereign also maintains an Employee Stock Purchase Plan which permits
eligible employees to purchase Sovereign common stock directly from Sovereign.
Purchases of common stock are limited to 15% of a participant's compensation.
During 1998, 1997 and 1996, participants purchased Sovereign common stock at a
price equal to 92.5% of the fair value of Sovereign common stock on the
offering date. Compensation expense for this plan for the year ended December
31, 1998, 1997 and 1996 was $106,000, $46,000 and $41,000, respectively.
ML Bancorp, previous to its merger with Sovereign, had established the ML
ESOP for the benefit of certain eligible employees of ML Bancorp. ML Bancorp
initially purchased 2.0 million shares of common stock on behalf of the ML
ESOP, of which 885,000 shares were committed to be released as of February 28,
1998. During 1997 and 1996, ML Bancorp recorded compensation expense related to
the ML ESOP of $3.0 million and $1.9 million, respectively. The cost basis of
the unallocated ML ESOP shares equaled $17.6 million, and were presented as a
reduction to stockholders' equity in the consolidated financial statements.
As required by the plan, Sovereign terminated the ML ESOP and satisfied
its obligation related to the initial share purchase. The remaining unallocated
shares were distributed to the former participants of the ML ESOP, and the
excess of fair value over the cost of those remaining shares was recognized in
the first quarter of 1998 as a merger-related expense.
ML Bancorp, previous to its merger with Sovereign, had a Recognition and
Retention Plan and Trust ("ML RRP") for the benefit of ML Bancorp's Board of
Directors and executive officers. At February 28, 1998, Sovereign reflected
$2.4 million of deferred cost of unearned ML RRP shares as a reduction of
stockholders' equity. During 1997 and 1996, ML Bancorp recorded compensation
expense related to the ML RRP of $459,000 and $617,000, respectively.
As required by the plan, Sovereign terminated the ML RRP. Pursuant to the
merger, the remaining $2.4 million of deferred compensation was paid to ML
Bancorp's Board of Directors and executive officers and was recognized in the
first quarter of 1998 as a merger-related expense.
F-44
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
(14) INCOME TAXES
The provision for income taxes in the consolidated statement of operations
is comprised of the following components (in thousands):
<TABLE>
<CAPTION>
Year Ended December 31,
----------------------------------------
1998 1997 1996
------------ ------------ ----------
<S> <C> <C> <C>
Current:
Federal .......................... $ 92,311 $ 73,431 $42,282
State ............................ 1,121 4,282 4,219
--------- --------- -------
93,432 77,713 46,501
Deferred ............................ (18,681) (10,389) 1,008
--------- --------- -------
Total income tax expense ......... $ 74,751 $ 67,324 $47,509
========= ========= =======
</TABLE>
The following is a reconciliation of the actual tax provisions with taxes
computed at the federal statutory rate of 35% for each of the years indicated:
<TABLE>
<CAPTION>
Year Ended December 31,
------------------------------------
1998 1997 1996
---------- ---------- ----------
<S> <C> <C> <C>
Federal income tax at statutory rate ...................... 35.0% 35.0% 35.0%
Increase/(decrease) in taxes resulting from:
Tax-exempt interest .................................... (5.2) (2.0) (1.3)
State income taxes, net of federal tax benefit ......... .3 1.6 2.0
Amortization of intangible assets and other purchase
accounting adjustments ................................ .8 1.0 1.2
Non-deductible, merger-related costs ...................... 3.1 2.1 .1
Other ..................................................... 1.4 1.9 (2.5)
----- ----- -----
35.4% 39.6% 34.5%
===== ===== =====
</TABLE>
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities are presented
below (in thousands):
<TABLE>
<CAPTION>
Year Ended December 31,
------------------------------------
1998 1997 1996
---------- ---------- ----------
<S> <C> <C> <C>
Deferred tax assets:
Allowance for possible loan losses ...................... $37,849 $37,390 $25,344
Purchased mortgage servicing rights ..................... 4,356 5,364 2,079
Employee benefits ....................................... 888 2,593 706
Merger related liabilities .............................. 2,313 1,104 1,006
Purchase accounting adjustments ......................... 370 1,071 2,460
Unrealized loss on available-for-sale portfolio ......... -- 89 697
Net operating loss carry forwards ....................... 1,393 1,810 1,939
Other ................................................... 847 5,621 6,188
------- ------- -------
Total gross deferred tax assets ......................... $48,016 $55,042 $40,419
------- ------- -------
Deferred tax liabilities:
Purchase accounting adjustments ......................... $ 5,402 $ 6,473 $ 7,188
Deferred loan fees ...................................... 7,144 5,739 5,716
Tax bad debt reserve recapture .......................... 2,406 2,888 2,888
Originated mortgage servicing rights .................... 3,843 2,678 1,398
Option premiums ......................................... 2,716 9,799 7,927
Unrealized gain on available-for-sale portfolio ......... 9,757 9,625 2,021
Other ................................................... 4,163 6,609 6,018
------- ------- -------
Total gross deferred tax liabilities .................... $35,431 $43,811 $33,156
------- ------- -------
Net deferred tax asset ................................... $12,585 $11,231 $ 7,263
======= ======= =======
</TABLE>
F-45
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
The Small Business Job Protection Act of 1996 ("the Act") repealed the tax
bad debt deduction computed under the percentage of taxable income method for
tax years beginning after December 31, 1995 and requires thrifts to recapture
into income, over a six-year period, the amount by which their tax bad debt
reserves exceed their base year reserves. As a result of its acquisition of ML
Bancorp, Sovereign is required to recapture $8.3 million related to ML
Bancorp's tax bad debt reserve in excess of its base year reserve. ML Bancorp
had previously recorded a deferred tax liability for this excess and therefore,
the recapture will not impact the statement of operations.
Sovereign has determined that it is not required to establish any
valuation reserve for deferred tax assets since it is more likely than not that
deferred tax assets will be principally realized through carry back to taxable
income in prior years. Sovereign's conclusion that it is "more likely than not"
that the deferred tax assets will be realized is based on a history of growth
in earnings and the prospects for continued growth including an analysis of
potential uncertainties that may affect future operating results. Sovereign
will continue to review the criteria related to the recognition of deferred tax
assets on a quarterly basis.
(15) COMMITMENTS AND CONTINGENCIES
Financial Instruments
Sovereign is a party to financial instruments with off-balance sheet risk
in the normal course of business to meet the financing needs of its customers
and to manage its own exposure to fluctuations in interest rates. These
financial instruments include commitments to extend credit, standby letters of
credit, loans sold with recourse, forward contracts and interest rate swaps,
caps and floors. These financial instruments involve, to varying degrees,
elements of credit and interest rate risk in excess of the amount recognized in
the consolidated balance sheet. The contract or notional amounts of these
financial instruments reflect the extent of involvement Sovereign has in
particular classes of financial instruments.
Sovereign's exposure to credit loss in the event of non-performance by the
other party to the financial instrument for commitments to extend credit,
standby letters of credit and loans sold with recourse is represented by the
contractual amount of those instruments. Sovereign uses the same credit
policies in making commitments and conditional obligations as it does for
on-balance sheet instruments. For interest rate swaps, caps and floors and
forward contracts, the contract or notional amounts do not represent exposure
to credit loss. Sovereign controls the credit risk of its interest rate swaps,
caps and floors and forward contracts through credit approvals, limits and
monitoring procedures. Unless noted otherwise, Sovereign does not require and
is not required to pledge collateral or other security to support financial
instruments with credit risk.
The following schedule summarizes Sovereign's off-balance sheet financial
instruments (in thousands):
<TABLE>
<CAPTION>
Contract or Notional Amount at
December 31,
-----------------------------
1998 1997
------------- -------------
<S> <C> <C>
Financial instruments whose contract amounts represent credit risk:
Commitments to extend credit ............................................. $1,191,599 $1,079,300
Standby letters of credit ................................................ 21,153 14,045
Loans sold with recourse ................................................. 35,375 139,899
Financial instruments whose notional or contract amounts exceed the amount
of credit risk:
Forward contracts ........................................................ 608,104 51,872
Interest rate swaps ...................................................... 2,955,164 3,609,376
Interest rate caps ....................................................... 1,200,000 1,200,000
Notional or contract amounts of off-balance sheet financial instruments not
constituting credit risk:
Forward commitments to sell in the secondary market ....................... -- 161,285
</TABLE>
F-46
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
Commitments to extend credit are agreements to lend to a customer as long
as there is no violation of any condition established in the contract.
Commitments generally have fixed expiration dates or other termination clauses
and may require payment of a fee. Since many of the commitments are expected to
expire without being drawn upon, the total commitment amounts do not
necessarily represent future cash requirements. Sovereign evaluates each
customer's creditworthiness on a case-by-case basis. The amount of collateral
obtained upon extension of credit is based on management's credit evaluation of
the counterparty. Collateral held usually consists of real estate but may
include securities, accounts receivable, inventory and property, plant and
equipment.
Standby letters of credit are conditional commitments issued by Sovereign
to guarantee the performance of a customer to a third party. The guarantees are
primarily issued to support public and private borrowing arrangements. Most
guarantees expire by March 2001 and one guarantee for $1.4 million expires in
January 2011. The credit risk involved in issuing letters of credit is
essentially the same as that involved in extending loan facilities to
customers. Sovereign holds various collateral to support the commitments.
Loans sold with recourse primarily represent single-family residential
loans. These are seasoned loans with decreasing balances and historical loss
experience has been minimal.
The forward contracts used by Sovereign in its mortgage banking activities
are contracts for delayed delivery of securities in which Sovereign agrees to
make delivery of a specified instrument, at a specified future date, at a
specified price or yield. Risks arise from the possible inability of
counterparties to meet the terms of their contracts and from movements in
securities' values and interest rates.
Interest rate swaps, caps and floors enable Sovereign to transfer, modify
or reduce its interest rate risk and are used as part of asset and liability
management. Sovereign may become a principal in the exchange of interest
payments with another party and therefore, is exposed to loss should one of the
counterparties default. Sovereign minimizes this risk by performing credit
reviews on counterparties.
Notional principal amounts often are used to express the volume of these
transactions, but the amounts potentially subject to credit risk are
significantly smaller.
Litigation
At December 31, 1998, Sovereign was party to a number of lawsuits, which
arise during the normal course of business. While any litigation has an element
of uncertainty, management, after reviewing these actions with legal counsel,
is of the opinion that the liability, if any, resulting from these actions will
not have a material effect on the financial condition or results of operations
of Sovereign.
(16) FAIR VALUE OF FINANCIAL INSTRUMENTS
The following table presents disclosures about the fair value of financial
instruments as defined by SFAS No. 107, "Fair Value of Financial Instruments."
These fair values are presented based upon subjective estimates of relevant
market conditions at a specific point in time and information about each
financial instrument. In cases where quoted market prices are not available,
fair values are based on estimates using present value or other valuation
techniques. These techniques involve uncertainties resulting in variability in
estimates affected by changes in assumptions and risks of the financial
instruments at a certain point in time. Therefore, the derived fair value
estimates presented below cannot be substantiated by comparison to independent
markets. In addition, the fair values do not reflect any premium or discount
that could result from offering for sale at one time an entity's entire
holdings of a particular financial instrument nor does it reflect potential
taxes and the expenses that would be incurred in an actual sale or settlement.
Accordingly, the aggregate fair value amounts presented do not represent the
underlying value of Sovereign (in thousands):
F-47
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
<TABLE>
<CAPTION>
At December 31,
--------------------------------------------------------------------
1998 1997
--------------------------------- --------------------------------
Carrying Value Fair Value Carrying Value Fair Value
---------------- -------------- ---------------- -------------
<S> <C> <C> <C> <C>
Financial Assets:
Cash and amounts due from depository
institutions ................................... $ 471,074 $ 471,074 $ 238,623 $ 238,623
Interest-earning deposits ........................ 82,650 82,650 17,314 17,314
Loans held for sale .............................. 296,930 297,414 310,678 310,750
Investment securities available-for-sale ......... 6,662,427 6,662,427 1,956,262 1,956,262
Investment securities held-to-maturity ........... 1,839,655 1,860,583 3,416,451 3,446,863
Loans, net ....................................... 11,152,038 11,180,004 11,207,299 11,276,514
Financial Liabilities:
Deposits ......................................... 12,322,716 12,314,608 9,515,294 9,521,379
Borrowings(1) .................................... 7,907,805 7,887,676 6,874,070 6,886,421
Unrecognized Financial Instruments:(2)
Commitments to extend credit ..................... 5,875 5,880 16,569 16,575
Standby letters of credit ........................ 25 244 306 310
Loans sold with recourse ......................... 177 71 244 98
Interest rate swaps, caps and floors ............. 7,213 (55,755) 9,963 (12,861)
</TABLE>
- ------------
(1) Borrowings are shown without unamortized cap premiums, as cap premiums are
reflected separately below in "Interest rate swaps, caps and floors."
(2) The amounts shown under "carrying value" represent accruals or deferred
income arising from those unrecognized financial instruments.
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments:
Cash and amounts due from depository institutions and interest-earning
deposits. For these short-term instruments, the carrying amount is a reasonable
estimate of fair value.
Loans held for sale. Fair values are estimated using quoted rates based
upon secondary market sources for securities backed by similar loans. Fair
value estimates include consideration of all open positions (including forward
contracts), outstanding commitments and related fees paid.
Investment securities available-for-sale. The fair value of investment
securities available-for-sale are based on quoted market prices as of the
balance sheet date. In accordance with SFAS No. 115, "Accounting for Certain
Investments in Debt and Equity Securities," changes in fair value are reflected
in the carrying value of the asset and are shown as a separate component of
stockholders' equity.
Investment securities held-to-maturity. The carrying amounts for
short-term investment securities held-to-maturity approximate fair value
because of the short maturity of these instruments and they do not present
unanticipated credit concerns. The fair value of long-term investment
securities held-to-maturity is estimated based upon bid quotations received
from securities dealers and an independent pricing servicing bureau.
Loans. Fair value is estimated by discounting cash flows using estimated
market discount rates at which similar loans would be made to borrowers and
reflect similar credit ratings and interest rate risk for the same remaining
maturities.
Mortgage servicing rights. The fair value of mortgage servicing rights are
estimated using quoted rates based upon secondary market sources. The estimated
fair value approximates the amount for which the servicing could currently be
sold.
F-48
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
Deposits. The fair value of deposits with no stated maturity, such as
non-interest bearing demand deposits, NOW accounts, savings accounts and
certain money market accounts, is equal to the amount payable on demand as of
the balance sheet date. The fair value of fixed-maturity certificates of
deposit is estimated by discounting cash flows using currently offered rates
for deposits of similar remaining maturities.
Borrowings. Fair value is estimated by discounting cash flows using rates
currently available to Sovereign for other borrowings with similar terms and
remaining maturities.
Commitments to extend credit. The fair value of commitments to extend
credit is estimated using the fees currently charged to enter into similar
agreements, taking into account the remaining terms of the agreements and the
present creditworthiness of the counterparties. For fixed rate loan
commitments, fair value also considers the difference between current levels of
interest rates and the committed rates.
Standby letters of credit. The fair value of letters of credit is based on
fees currently charged for similar agreements or on the estimated cost to
terminate them or otherwise settle the obligations with the counterparties.
Loans sold with recourse. The fair value of loans sold with recourse is
estimated based upon the cost to terminate Sovereign's obligations under the
recourse provisions.
Interest rate swaps, caps and floors. The fair value of interest rate
swaps, caps and floors which represent the estimated amount Sovereign would
receive or pay to terminate the contracts or agreements, taking into account
current interest rates and when appropriate, the current creditworthiness of
the counterparties are obtained from dealer quotes.
<PAGE>
(17) INTEREST RATE EXCHANGE AGREEMENTS
Amortizing and non-amortizing interest rate swaps are generally used to
convert fixed rate assets and liabilities to variable rate assets and
liabilities and vice versa. Interest rate caps are generally used to limit the
exposure from the repricing and maturity of liabilities. Interest rate floors
are generally used to limit the exposure from repricing and maturity of assets.
Interest rate caps and floors are also used to limit the exposure created by
other interest rate swaps. In certain cases, interest rate caps and floors are
simultaneously bought and sold to create a range of protection against changing
interest rates while limiting the cost of that protection. The following table
presents information regarding interest rate exchange agreements at the dates
indicated (in thousands):
<TABLE>
<CAPTION>
At December 31, 1998
--------------------------------------------------
Weighted
Estimated Average
Notional Book Fair Maturity
Amount Value Value in Years
------------ --------- ------------- ----------
<S> <C> <C> <C> <C>
Amortizing interest rate
swaps:
Pay variable-receive
fixed(1) ............... $ -- $ -- $ --
Pay fixed-receive
variable(2) ............ 175,164 -- (617) .3
Non-amortizing interest
rate swaps:
Pay variable-receive
fixed(3) ............... -- -- --
Pay fixed-receive
variable(4) ............ 2,780,000 -- (48,382) 4.8
Interest rate
caps/floors(5) ........... 1,200,000 7,213 (6,756) 3.2
---------- ------ ---------
$4,155,164 $7,213 $ (55,755)
========== ====== =========
<CAPTION>
At December 31, 1997
---------------------------------------------------
Weighted
Estimated Average
Notional Book Fair Maturity
Amount Value Value in Years
------------ --------- --------------- ---------
<S> <C> <C> <C> <C>
Amortizing interest rate
swaps:
Pay variable-receive
fixed(1) ............... $ 602,116 $ -- $ 1,436 2.8
Pay fixed-receive
variable(2) ............ 208,761 -- (9) 1.3
Non-amortizing interest
rate swaps:
Pay variable-receive
fixed(3) ............... 28,499 -- (561) 2.7
Pay fixed-receive
variable(4) ............ 2,770,000 -- (9,293) 2.3
Interest rate
caps/floors(5) ........... 1,200,000 9,963 (4,434) 4.0
---------- ------ ----------
$4,809,376 $9,963 $(12,861)
========== ====== ==========
</TABLE>
F-49
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
(1) The weighted average pay rate was 5.58% and the weighted average receive
rate was 5.97% at December 31, 1997.
(2) The weighted average pay rate was 6.87% and 6.87% and the weighted average
receive rate was 5.99% and 6.80% at December 31, 1998 and 1997,
respectively.
(3) The weighted average pay rate was 7.28% and the weighted average receive
rate was 6.75% at December 31, 1997.
(4) The weighted average pay rate was 5.42% and 5.89% and the weighted average
receive rate was 5.26% and 4.48% at December 31, 1998 and 1997,
respectively.
(5) The weighted average strike price range was 5.25%-9.00% at December 31,
1998 and 5.25% - 7.50% at December 31, 1997.
The following table summarizes by notional amounts the activity of
Sovereign's interest rate exchange agreements (in thousands):
<TABLE>
<CAPTION>
Amortizing Non-Amortizing
Interest Rate Interest Rate Interest Rate
Swaps Swaps Swaps Total
--------------- --------------- -------------- -------------
<S> <C> <C> <C> <C>
Balance, December 31, 1995 ......... $ 881,130 $ 330,000 $1,446,000 $2,657,130
---------- ---------- ---------- ----------
Additions ......................... 300,000 1,125,000 500,000 1,925,000
Maturities/Amortization ........... 69,117 -- 450,000 519,117
Terminations ...................... -- 50,000 996,000 1,046,000
---------- ---------- ---------- ----------
Balance, December 31, 1996 ......... 1,112,013 1,405,000 500,000 3,017,013
---------- ---------- ---------- ----------
Additions ......................... -- 4,145,000 700,000 4,845,000
Maturities/Amortization ........... 151,136 151,501 -- 302,637
Terminations ...................... 150,000 2,600,000 -- 2,750,000
---------- ---------- ---------- ----------
Balance, December 31, 1997 ......... 810,877 2,798,499 1,200,000 4,809,376
---------- ---------- ---------- ----------
Additions ......................... -- 1,650,000 -- 1,650,000
Maturities/Amortization ........... 86,497 100,000 -- 186,497
Terminations ...................... 549,216 1,568,499 -- 2,117,715
---------- ---------- ---------- ----------
Balance, December 31, 1998 ......... $ 175,164 $2,780,000 $1,200,000 $4,155,164
========== ========== ========== ==========
</TABLE>
At December 31, 1998, Sovereign's balance sheet included a net deferred
loss of $389,000 related to interest rate exchange agreements terminated in
January 1998 which were originally accounted for as hedges. This net deferred
loss will amortize into interest expense in 1999.
Net interest income resulting from interest rate exchange agreements
included $6.8 million of income and $4.5 million of expense for 1998, $4.8
million of income and $4.8 million of expense for 1997 and $5.1 million of
income and $7.4 million of expense for 1996.
F-50
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
(18) PARENT COMPANY FINANCIAL INFORMATION
Condensed financial information for Sovereign Bancorp is as follows (in
thousands):
<TABLE>
<CAPTION>
Balance Sheets
At December 31,
---------------------------
1998 1997
------------ ------------
<S> <C> <C>
Assets
Interest-earning deposits ........................................... $ 162 $ 9,001
Investment securities ............................................... 110,779 104,091
Investment in subsidiaries .......................................... 1,560,766 1,202,941
Other assets ........................................................ 16,611 13,793
---------- ----------
Total Assets ........................................................... $1,688,318 $1,329,826
========== ==========
Liabilities
Short-term borrowings ............................................... $ 199,480 $ --
Long-term borrowings ................................................ 146,646 147,905
Other Liabilities ................................................... 9,074 5,154
---------- ----------
Total Liabilities ...................................................... 355,200 153,059
---------- ----------
Trust Preferred Securities ............................................. 129,050 128,972
---------- ----------
Stockholders' Equity ................................................... 1,204,068 1,047,795
---------- ----------
Total Liabilities, Minority Interests and Stockholders' Equity ......... $1,688,318 $1,329,826
========== ==========
</TABLE>
Statement of Operations
<TABLE>
<CAPTION>
Year Ended December 31,
-----------------------------------------
1998 1997 1996
------------ ------------ -----------
<S> <C> <C> <C>
Interest income ....................................... $ 11,347 $ 8,907 $ 2,906
Other income .......................................... 6,159 8,684 46,251
--------- --------- --------
Total income .......................................... 17,506 17,591 49,157
--------- --------- --------
Interest expense ...................................... 16,521 13,089 13,117
Other expense ......................................... 8,704 9,666 6,333
Trust Preferred Securities expense .................... 12,528 11,677 274
--------- --------- --------
Total expense ......................................... 37,753 34,432 19,724
--------- --------- --------
(Loss)/income before taxes, dividends and undistributed
earnings of subsidiaries ............................. (20,247) (16,841) 29,433
Income taxes .......................................... (6,135) (8,387) (5,554)
--------- --------- --------
(Loss)/income before earnings of subsidiaries ......... (14,112) (8,454) 34,987
Distributed earnings from subsidiaries ................ -- 1,771 1,300
Undistributed earnings of subsidiaries ................ 150,567 109,221 54,091
--------- --------- --------
Net income ............................................ $ 136,455 $ 102,538 $ 90,378
========= ========= ========
</TABLE>
F-51
<PAGE>
SOVEREIGN BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENT -- (Continued)
Statements of Cash Flows
<TABLE>
<CAPTION>
Year Ended December 31,
--------------------------------------------
1998 1997 1996
--------------- ------------ -----------
<S> <C> <C> <C>
Cash Flows from Operating Activities:
Net Income ................................................ $ 136,455 $ 102,538 $ 90,378
Adjustments to reconcile net income to net cash provided
by operating activities
Dividends received from subsidiaries ..................... -- 9,771 30,900
Earnings from subsidiaries ............................... (150,567) (110,992) (55,391)
Allocation of Employee Stock Ownership Plan shares ....... 19,612 8,573 5,597
Change in other assets ................................... (2,818) 10,181 25,968
Change in other liabilities .............................. 3,998 (455) 1,215
--------- ---------- ---------
Net cash provided by operating activities ................. 6,680 19,616 98,667
Cash flows from Investing Activities:
Investment to Subsidiaries ............................... (207,258) (32,439) (98,000)
Maturity and repayments of investment securities ......... 749 6,053 1,259
Net Change in investment securities ...................... (8,261) (85,074) 13,400
Other, net ............................................... (4,228) (4,897) 3,853
--------- ---------- ---------
Net cash used by investing activities ..................... (218,998) (116,357) (79,488)
--------- ---------- ---------
Cash Flows from Financing Activities:
Net change in short-term borrowings ...................... 199,480 -- (714)
Net change in long-term borrowings ....................... (1,259) (21,390) 477
Proceeds from issuance of Trust Preferred Securities ..... -- 97,574 30,000
Cash dividends paid to stockholders ...................... (14,286) (23,777) (24,606)
Net proceeds from issuance of common stock ............... 20,451 17,919 6,052
Redemption of preferred stock ............................ (6) -- --
Purchase of Employee Stock Ownership Plan shares ......... -- -- (4,559)
(Purchase)/issuance of treasury stock .................... (901) 34,632 (29,574)
----------- ---------- ---------
Net cash provided (used) by financing activities .......... 203,479 104,958 (22,924)
----------- ---------- ---------
(Decrease)/increase in cash and cash equivalents .......... (8,839) 8,217 (3,745)
Cash and cash equivalents at beginning of period .......... 9,001 784 4,529
----------- ---------- ---------
Cash and cash equivalents and end of period ............... $ 162 $ 9,001 $ 784
=========== ========== =========
</TABLE>
F-52
<PAGE>
PROSPECTUS
$2,000,000,000
[GRAPHIC OMITTED]
May Offer --
Common Stock
Common Stock Warrants
Preferred Stock
Preferred Stock Warrants
Depositary Shares
Debt Securities
Debt Warrants
Stock Purchase Contracts
Stock Purchase Units
----------------
The Trusts
May Offer --
Trust Preferred Securities
----------------
Sovereign Bancorp and, in the case of the trust preferred securities, the
applicable Trust, will provide the specific terms of these securities in
supplements to this prospectus. You should read this prospectus and the
accompanying prospectus supplement carefully before you invest.
Sovereign Bancorp or the Trusts may use this prospectus to offer up to
$2,000,000,000 of securities.
Sovereign Bancorp common stock is quoted on the Nasdaq National Market
under the symbol "SVRN".
----------------
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of these securities or determined if
this prospectus or any accompanying prospectus supplement is truthful or
complete. Any representation to the contrary is a criminal offense.
----------------
September 30, 1999
<PAGE>
PROSPECTUS SUMMARY
This summary provides a brief overview of the key aspects of Sovereign
Bancorp and the Trusts (collectively, the "Registrants") and all material terms
of the offered securities that are known as of the date of this prospectus. For
more complete information on Sovereign Bancorp, Sovereign Bank and the Trusts
and a more complete understanding of the terms of the offered securities,
before making your investment decision, you should carefully read:
o this prospectus, which explains the general terms of the securities that
Sovereign Bancorp and the Trusts may offer;
o the accompanying prospectus supplement, which (1) explains the specific
terms of the securities being offered and (2) updates and changes
information in this prospectus; and
o the documents referred to in "Where You Can Find More Information" for
information about Sovereign Bancorp, including its financial statements.
SOVEREIGN BANCORP, INC.
Sovereign Bancorp is a Pennsylvania business corporation and the holding
company for Sovereign Bank, a federal savings bank. As of June 30, 1999,
Sovereign Bancorp had total consolidated assets, deposits and shareholders'
equity of approximately $24.6 billion, $12.2 billion and $1.4 billion,
respectively.
Sovereign Bancorp conducts its operations principally through its
subsidiary, Sovereign Bank. Sovereign Bank's primary business consists of
attracting deposits from its network of approximately 305 community banking
offices, and originating commercial and asset-based loans, consumer and
residential mortgage loans and home equity lines of credit in the communities
served by those offices. Sovereign Bank's mortgage banking division also
originates loans through, provides financing to, and acquires loans from,
mortgage companies and other originators of loans across the nation. Sovereign
Bank's vehicle finance division provides direct and indirect automobile loans
and commercial loans (primarily dealer floor planning) in New England, as well
as in New York, Pennsylvania, New Jersey and Delaware. Most of Sovereign Bank's
community banking offices are located in north central and eastern
Pennsylvania, New Jersey and northern Delaware. In terms of assets, Sovereign
Bancorp is the third largest bank or thrift holding company headquartered in
Pennsylvania, and one of the 50 largest in the United States.
Sovereign Bancorp's principal executive offices are located at 2000 Market
Street, Philadelphia, Pennsylvania 19103, and its telephone number is (215)
557-4630.
THE SECURITIES SOVEREIGN BANCORP MAY OFFER
Sovereign Bancorp may use this prospectus to offer up to $2,000,000,000 of:
o common stock;
o common stock warrants;
o preferred stock;
o preferred stock warrants;
o depositary shares;
o debt securities;
o debt warrants;
o stock purchase contracts; and
o stock purchase units.
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A prospectus supplement will describe the specific types, amounts, prices,
and detailed terms of any of these offered securities.
THE TRUSTS
Each Trust is a statutory business trust formed under Delaware law
pursuant to a separate Declaration of Trust (a "Declaration") executed by
Sovereign Bancorp, as sponsor for such Trust, and the trustees of such Trust
and the filing of a Certificate of Trust with the Delaware Secretary of State.
Unless an accompanying prospectus supplement provides otherwise, each
Trust exists for the sole purposes of:
o issuing the trust preferred securities;
o investing the gross proceeds of the sale of the trust preferred
securities in a specific series of subordinated debt securities; and
o engaging in only those other activities necessary or incidental thereto.
All of the trust common securities will be owned by Sovereign Bancorp. The
trust common securities will rank on a parity, and payments will be made
thereon pro rata, with the trust preferred securities, except that upon the
occurrence and continuance of an event of default under the applicable
Declaration, the rights of the holders of the applicable trust common
securities to payment in respect of distributions and payments upon
liquidation, redemption and otherwise will be subordinated to the rights of the
holders of the applicable trust preferred securities.
Sovereign Bancorp will acquire trust common securities having an aggregate
liquidation amount equal to a minimum of 3% of the total capital of each Trust.
Each Trust will have a term of at least 20 but not more than 50 years, but may
terminate earlier as provided in the applicable Declaration. Each Trust's
business and affairs will be conducted by the trustees. The holder of the trust
common securities will be entitled to appoint, remove or replace any of, or
increase or reduce the number of, the Trustees of each Trust. The duties and
obligations of the Trustees shall be governed by the Declaration of such Trust.
At least one of the trustees of each Trust will be a person who is an employee
or officer of or who is affiliated with Sovereign Bancorp (a "Regular
Trustee"). One trustee of each Trust will be a financial institution that is
not affiliated with Sovereign Bancorp, which shall act as property trustee and
as indenture trustee for the purposes of the Trust Indenture Act of 1939 (the
"Trust Indenture Act"), as amended, pursuant to the terms set forth in a
prospectus supplement (the "Property Trustee"). In addition, unless the
Property Trustee maintains a principal place of business in the State of
Delaware and otherwise meets the requirements of applicable law, one trustee of
each Trust will be a legal entity having a principal place of business in, or
being an individual resident of, the State of Delaware. Sovereign Bancorp will
pay all fees and expenses related to each Trust and the offering of the trust
preferred securities. Unless otherwise set forth in the prospectus supplement,
the Property Trustee will be The Bank of New York, and the Delaware trustee
will be The Bank of New York, Delaware. The office of the Delaware trustee in
the State of Delaware is White Clay Center, Newark, Delaware 19711. The
principal place of business of each Trust is 103 Foulk Road, Suite 200,
Wilmington, Delaware 19803.
THE SECURITIES THE TRUSTS MAY OFFER
Each Trust may use this prospectus to offer up to $2,000,000,000 of trust
preferred securities.
A prospectus supplement will describe the specific types, amounts, prices,
and detailed terms of any of the trust preferred securities.
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WHERE YOU CAN FIND MORE INFORMATION
As required by the Securities Act of 1933, the Registrants have filed a
joint registration statement (No. 333-86961) relating to the securities offered
by this prospectus with the Securities and Exchange Commission. This prospectus
is a part of that registration statement, which includes additional
information.
Sovereign Bancorp files annual, quarterly and current reports, proxy
statements and other information with the SEC. You may read and copy any
document Sovereign Bancorp files at the SEC's public reference rooms in
Washington, D.C., New York, New York and Chicago, Illinois. You can also
request copies of the documents, upon payment of a duplicating fee, by writing
the Public Reference Section of the SEC. Please call the SEC at 1-800-SEC-0330
for further information on the public reference rooms. These SEC filings are
also available to the public from the SEC's web site at http://www.sec.gov.
The SEC allows Sovereign Bancorp to "incorporate by reference" the
information it files with the SEC, which means that it can disclose important
information to you by referring you to those documents. The information
incorporated by reference is an important part of this prospectus. Information
that Sovereign Bancorp files later with the SEC will automatically update and
supersede, as relevant, information in this prospectus. In all cases, you
should rely on the later information over different information included in
this prospectus or the prospectus supplement. Sovereign Bancorp incorporates by
reference the documents listed below, and any future filings made with the SEC
under Section 13(a), 13(c), 14, or 15(d) of the Securities Exchange Act of 1934
before the later of (1) the completion of the offering of the securities
described in this prospectus and (2) the date Sovereign Bancorp stops offering
securities pursuant to this prospectus shall be incorporated by reference in
this prospectus from the date of filing of such documents:
o Amended Annual Report on Form 10-K for the year ended December 31, 1998,
filed with the SEC on June 1, 1999;
o Amended Quarterly Report on Form 10-Q for the quarter ended March 31,
1999, filed with the SEC on June 1, 1999;
o Quarterly Report on Form 10-Q for the quarter ended June 30, 1999, filed
with the SEC on August 16, 1999; and
o Current Reports on Form 8-K, filed with the SEC on March 19, 1999, April
16, 1999 and September 10, 1999 (as amended by Form 8-K/A filed September
23, 1999).
o Registration Statement on Form 8-A, filed with the SEC August 14, 1989,
pursuant to which Sovereign Bancorp registered certain stock purchase
rights under the Exchange Act, and any amendments or reports filed for the
purpose of updating such Registration Statement.
You may request a copy of these filings, in most cases without exhibits,
at no cost, by writing or telephoning Sovereign Bancorp at the following
address:
Investor Relations Office
Sovereign Bancorp, Inc.
1130 Berkshire Boulevard
Wyomissing, Pennsylvania 19610
(610) 320-8498
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No separate financial statements of the Trusts have been included or
incorporated by reference herein. Neither the Trusts nor Sovereign Bancorp
considers such financial statements material to holders of trust preferred
securities because:
o all of the voting securities of each Trust will be owned, directly or
indirectly, by Sovereign Bancorp, a reporting company under the Exchange
Act;
o no Trust has independent operations, but rather each exists for the sole
purpose of issuing securities representing undivided beneficial interests
in the assets of such Trust and investing the proceeds thereof in debt
securities; and
o the obligations of the Trusts under the trust preferred securities are
fully and unconditionally guaranteed by Sovereign Bancorp to the extent
set forth herein.
See "The Trusts" and "Description of Trust Preferred Securities and Trust
Guarantees -- Trust Guarantees."
You should rely only on the information provided in this prospectus and
the prospectus supplement, as well as the information incorporated by
reference. Neither Sovereign Bancorp nor the Trusts have authorized anyone to
provide you with different information. Sovereign Bancorp and the Trusts are
not making an offer of these securities in any jurisdiction where the offer is
not permitted. You should not assume that the information in this prospectus,
the prospectus supplement or any documents incorporated by reference is
accurate as of any date other than the date of the applicable document.
FORWARD-LOOKING STATEMENTS
Some of the statements in this prospectus, the attached prospectus
supplement and the documents incorporated by reference are forward-looking
statements.
These forward-looking statements include statements with respect to the
Registrants' beliefs, plans, objectives, goals, expectations, anticipations,
estimates, intentions, financial condition, results of operations, future
performance and business, including:
o statements relating to Sovereign Bancorp's goals with respect to growth
in earnings per share, return on equity, return on assets, overhead
efficiency ratio, tier 1 leverage ratio, annualized net charge-offs,
dividend pay-out ratio, and fee income as a percentage of total revenue;
and
o statements that include the words "may," "could," "should," "would,"
"believe," "expect," "anticipate," "estimate," "intend," "plan," or
similar expressions.
These forward-looking statements involve risks and uncertainties that are
subject to change based on various important factors (some of which are beyond
the Registrants' control). The following factors, among others, could cause
Sovereign Bancorp's financial performance to differ materially from the goals,
plans, objectives, intentions and expectations expressed in such
forward-looking statements:
o the strength of the United States economy in general and the strength of
the local economies in which Sovereign Bancorp conducts operations;
o the effects of trade, monetary and fiscal policies and laws, including
interest rate policies of the Board of Governors of the Federal Reserve
System;
o inflation, interest rate, market and monetary fluctuations;
o the timely development of competitive new products and services by
Sovereign Bancorp and the acceptance of those products and services by
customers;
o the willingness of customers to substitute competitors' products and
services for Sovereign Bancorp's products and services and vice versa;
o Sovereign Bancorp's success in gaining regulatory approval of products
and services, when required;
o the impact of changes in financial services laws and regulations
(including laws concerning taxes, banking, securities and insurance);
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o technological changes;
o changes in consumer spending and savings habits;
o the impact of Sovereign Bancorp's pending and completed acquisitions,
including Sovereign Bancorp's success in fully realizing or realizing
within the expected time frame expected cost savings and/or revenue
enhancements from such pending or completed acquisitions;
o unanticipated regulatory or judicial proceedings;
o unanticipated results of Sovereign Bancorp's efforts to be Year 2000
compliant; and
o our success at managing the risks involved in the foregoing.
If one or more of these risks or uncertainties occurs or if the underlying
assumptions prove incorrect, then Sovereign Bancorp's actual results,
performance or achievements in 1999 and beyond could differ materially from
those expressed in, or implied by, the forward-looking statements.
The Registrants caution that the foregoing list of important factors is
not exclusive, and neither such list nor any such forward-looking statement
takes into account the impact that any future acquisition may have on us and
any such forward-looking statement. The Registrants do not undertake to update
any forward-looking statement, whether written or oral, that may be made from
time to time by or on behalf of the Registrants.
USE OF PROCEEDS
Except as otherwise described in any prospectus supplement, Sovereign
Bancorp will use the net proceeds from the sale of the offered securities for
general corporate purposes, which may include working capital, capital
expenditures, repayment of existing indebtedness, financing possible future
acquisitions and providing advances to or investments in Sovereign Bank. The
amounts and timing of our application of the proceeds will depend upon many
factors, including the funding requirements of Sovereign Bank, the availability
of other funds, and the existence of acquisition opportunities. Pending these
uses, Sovereign Bancorp expects to invest the net proceeds in short-term,
interest-bearing securities.
OUR RATIO OF EARNINGS TO FIXED CHARGES
We computed our ratio of earnings to fixed charges by dividing earnings by
fixed charges on a consolidated basis. We computed our ratio of earnings to
combined fixed charges and preferred stock dividends by dividing earnings by
the sum of fixed charges and preferred stock dividend requirements. Earnings
consist primarily of income before income taxes adjusted for fixed charges.
Fixed charges consist primarily of interest expense on short-term and long-term
borrowings.
<TABLE>
<CAPTION>
Six Months
Year Ended December 31,
Ended --------------------------------------------------------------
June 30, 1999 1998 1997 1996 1995 1994
--------------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
Ratio of Earnings to Fixed Charges
Excluding interest on deposits ......... 1.57x 1.48x 1.44x 1.49x 1.89x 2.16x
Including interest on deposits ......... 1.31x 1.24x 1.22x 1.22x 1.29x 1.40x
Ratio of Earnings to Combined Fixed
Charges and Preferred Stock
Dividends(1)
Excluding interest on deposits ......... 1.57x 1.47x 1.41x 1.44x 1.81x 2.16x
Including interest on deposits ......... 1.31x 1.24x 1.21x 1.20x 1.27x 1.40x
</TABLE>
- ------------
(1) On May 15, 1998, we redeemed all outstanding shares of our 61/4% Cumulative
Convertible Preferred Stock, Series B at a redemption price of $52.188 per
share. Substantially all holders of the Series B Preferred Stock converted
their shares of preferred stock to shares of our common stock.
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DESCRIPTION OF COMMON STOCK
Sovereign Bancorp may issue, either separately or together with other
securities, shares of common stock. Under its articles of incorporation,
Sovereign Bancorp is authorized to issue up to 400,000,000 shares of common
stock. Upon receipt by Sovereign Bancorp of the full specified purchase price
therefor, the common stock will be fully paid and nonassessable. A prospectus
supplement relating to an offering of common stock, or other securities
convertible or exchangeable for, or exercisable into, common stock, will
describe the relevant terms, including the number of shares offered, any
initial offering price, and market price and dividend information, as well as,
if applicable, information on other related securities. See "Description of
Capital Securities" below.
DESCRIPTION OF PREFERRED STOCK
The following briefly summarizes the material terms of Sovereign Bancorp's
preferred stock, other than pricing and related terms disclosed in the
accompanying prospectus supplement. You should read the particular terms of any
series of preferred stock offered by Sovereign Bancorp which will be described
in more detail in any prospectus supplement relating to such series, together
with the more detailed provisions of Sovereign Bancorp's articles of
incorporation and the statement with respect to shares relating to each
particular series of preferred stock, for provisions that may be important to
you. The statement with respect to shares relating to each particular series of
preferred stock offered by the accompanying prospectus supplement and this
prospectus will be filed as an exhibit to a document incorporated by reference
in the registration statement. The prospectus supplement will also state
whether any of the terms summarized below do not apply to the series of
preferred stock being offered.
General
Under Sovereign Bancorp's articles of incorporation, the board of
directors of Sovereign Bancorp is authorized to issue shares of preferred stock
in one or more series, and to establish from time to time a series of preferred
stock with the following terms specified:
o the number of shares to be included in the series;
o the designation, powers, preferences and rights of the shares of the
series; and
o the qualifications, limitations or restrictions of such series, except as
otherwise stated in the articles of incorporation.
Prior to the issuance of any series of preferred stock, the board of
directors of Sovereign Bancorp will adopt resolutions creating and designating
the series as a series of preferred stock and the resolutions will be filed in
a statement with respect to shares as an amendment to the articles of
incorporation. The term "board of directors of Sovereign Bancorp" includes any
duly authorized committee.
The rights of holders of the preferred stock offered may be adversely
affected by the rights of holders of any shares of preferred stock that may be
issued in the future. The board of directors may cause shares of preferred
stock to be issued in public or private transactions for any proper corporate
purpose. Examples of proper corporate purposes include issuances to obtain
additional financing in connection with acquisitions or otherwise, and
issuances to officers, directors and employees of Sovereign Bancorp and its
subsidiaries pursuant to benefit plans or otherwise. Shares of preferred stock
issued by Sovereign Bancorp may have the effect of rendering more difficult or
discouraging an acquisition of Sovereign Bancorp deemed undesirable by the
board of directors of Sovereign Bancorp.
The preferred stock will be, when issued, fully paid and nonassessable.
Unless the particular prospectus supplement states otherwise, holders of each
series of preferred stock will not have any preemptive or subscription rights
to acquire more stock of Sovereign Bancorp.
The transfer agent, registrar, dividend disbursing agent and redemption
agent for shares of each series of preferred stock will be named in the
prospectus supplement relating to such series.
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Rank
Unless otherwise specified in the prospectus supplement relating to the
shares of any series of preferred stock, such shares will rank on an equal
basis with each other series of preferred stock and prior to the common stock
as to dividends and distributions of assets.
Dividends
Unless the particular prospectus supplement states otherwise, holders of
each series of preferred stock will be entitled to receive cash dividends,
when, as and if declared by the board of directors of Sovereign Bancorp out of
funds legally available for dividends. The rates and dates of payment of
dividends will be set forth in the prospectus supplement relating to each
series of preferred stock. Dividends will be payable to holders of record of
preferred stock as they appear on the books of Sovereign Bancorp or, if
applicable, the records of the depositary referred to below under "Description
of Depositary Shares," on the record dates fixed by the board of directors.
Dividends on any series of preferred stock may be cumulative or noncumulative.
Sovereign Bancorp may not declare, pay or set apart for payment dividends
on the preferred stock unless full dividends on any other series of preferred
stock that ranks on an equal or senior basis have been paid or sufficient funds
have been set apart for payment for:
o all prior dividend periods of the other series of preferred stock that
pay dividends on a cumulative basis; or
o the immediately preceding dividend period of the other series of
preferred stock that pay dividends on a noncumulative basis.
Partial dividends declared on shares of preferred stock and any other
series of preferred stock ranking on an equal basis as to dividends will be
declared pro rata. A pro rata declaration means that the ratio of dividends
declared per share to accrued dividends per share will be the same for all such
series of preferred stock.
Similarly, Sovereign Bancorp may not declare, pay or set apart for payment
non-stock dividends or make other payments on the common stock or any other
stock of Sovereign Bancorp ranking junior to the preferred stock unless full
dividends on all series of preferred stock have been paid or set apart for
payment for:
o all prior dividend periods if the preferred stock pays dividends on a
cumulative basis; or
o the immediately preceding dividend period if the preferred stock pays
dividends on a noncumulative basis.
Conversion and Exchange
The prospectus supplement for any series of preferred stock will state the
terms, if any, on which shares of that series are convertible into or
exchangeable for shares of Sovereign Bancorp's common stock.
Redemption
If so specified in the applicable prospectus supplement, a series of
preferred stock may be redeemable at any time, in whole or in part, at the
option of Sovereign Bancorp or the holder thereof, or may be mandatorily
redeemed.
Any partial redemptions of preferred stock will be made in a way that the
board of directors decides is equitable.
Unless Sovereign Bancorp defaults in the payment of the redemption price,
dividends will cease to accrue after the redemption date on shares of preferred
stock called for redemption and all rights of holders of such shares will
terminate except for the right to receive the redemption price.
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Liquidation Preference
Upon any voluntary or involuntary liquidation, dissolution or winding up
of Sovereign Bancorp, holders of each series of preferred stock will be
entitled to receive distributions upon liquidation in the amount set forth in
the prospectus supplement relating to such series of preferred stock, plus an
amount equal to any accrued and unpaid dividends. Such distributions will be
made before any distribution is made on any securities ranking junior to the
preferred stock with respect to liquidation, including common stock.
If the liquidation amounts payable relating to the preferred stock of any
series and any other securities ranking on a parity regarding liquidation
rights are not paid in full, the holders of the preferred stock of such series
and such other securities will share in any such distribution of available
assets of Sovereign Bancorp on a ratable basis in proportion to the full
liquidation preferences. Holders of such series of preferred stock will not be
entitled to any other amounts from Sovereign Bancorp after they have received
their full liquidation preference.
Voting Rights
The holders of shares of preferred stock will have no voting rights,
except:
o as otherwise stated in the prospectus supplement;
o as otherwise stated in the statement with respect to shares establishing
such series; or
o as required by applicable law.
DESCRIPTION OF DEPOSITARY SHARES
The following briefly summarizes the material provisions of the deposit
agreement and of the depositary shares and depositary receipts, other than
pricing and related terms disclosed in the accompanying prospectus supplement.
This description is not complete and is subject to, and qualified in its
entirety by reference to, all provisions of the deposit agreement, depositary
shares and depositary receipts. You should read the particular terms of any
depositary shares and any depositary receipts that are offered by Sovereign
Bancorp and any deposit agreement relating to a particular series of preferred
stock which will be described in more detail in a prospectus supplement. The
prospectus supplement will also state whether any of the generalized provisions
summarized below do not apply to the depositary shares or depositary receipts
being offered. A copy of the form of deposit agreement, including the form of
depositary receipt, will be filed as an exhibit to a document incorporated by
reference in the registration statement of which this prospectus forms a part.
You should read the more detailed provisions of the deposit agreement and the
form of depositary receipt for provisions that may be important to you.
General
Sovereign Bancorp may, at its option, elect to offer fractional shares of
preferred stock, rather than full shares of preferred stock. In such event,
Sovereign Bancorp will issue receipts for depositary shares, each of which will
represent a fraction of a share of a particular series of preferred stock.
The shares of any series of preferred stock represented by depositary
shares will be deposited under a deposit agreement between Sovereign Bancorp
and a bank or trust company selected by Sovereign Bancorp having its principal
office in the United States and having a combined capital and surplus of at
least $50,000,000, as preferred stock depositary. Each owner of a depositary
share will be entitled to all the rights and preferences of the underlying
preferred stock, including any dividend, voting, redemption, conversion and
liquidation rights described in the particular prospectus supplement, in
proportion to the applicable fraction of a share of preferred stock represented
by such depositary share.
The depositary shares will be evidenced by depositary receipts issued
pursuant to the deposit agreement. Depositary receipts will be distributed to
those persons purchasing the fractional shares of preferred stock in accordance
with the terms of the applicable prospectus supplement.
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Dividends and Other Distributions
The preferred stock depositary will distribute all cash dividends or other
cash distributions received in respect of the deposited preferred stock to the
record holders of depositary shares relating to such preferred stock in
proportion to the number of such depositary shares owned by such holders.
The preferred stock depositary will distribute any property received by it
other than cash to the record holders of depositary shares entitled thereto. If
the preferred stock depositary determines that it is not feasible to make such
distribution, it may, with the approval of Sovereign Bancorp, sell such
property and distribute the net proceeds from such sale to such holders.
Redemption of Preferred Stock
If a series of preferred stock represented by depositary shares is to be
redeemed, the depositary shares will be redeemed from the proceeds received by
the preferred stock depositary resulting from the redemption, in whole or in
part, of such series of preferred stock. The depositary shares will be redeemed
by the preferred stock depositary at a price per depositary share equal to the
applicable fraction of the redemption price per share payable in respect of the
shares of preferred stock so redeemed.
Whenever Sovereign Bancorp redeems shares of preferred stock held by the
preferred stock depositary, the preferred stock depositary will redeem as of
the same date the number of depositary shares representing shares of preferred
stock so redeemed. If fewer than all the depositary shares are to be redeemed,
the depositary shares to be redeemed will be selected by the preferred stock
depositary by lot or ratably or by any other equitable method as the preferred
stock depositary may decide.
Voting Deposited Preferred Stock
Upon receipt of notice of any meeting at which the holders of any series
of deposited preferred stock are entitled to vote, the preferred stock
depositary will mail the information contained in such notice of meeting to the
record holders of the depositary shares relating to such series of preferred
stock. Each record holder of such depositary shares on the record date will be
entitled to instruct the preferred stock depositary to vote the amount of the
preferred stock represented by such holder's depositary shares. The preferred
stock depositary will try to vote the amount of such series of preferred stock
represented by such depositary shares in accordance with such instructions.
Sovereign Bancorp will agree to take all actions that the preferred stock
depositary determines are necessary to enable the preferred stock depositary to
vote as instructed. The preferred stock depositary will abstain from voting
shares of any series of preferred stock held by it for which it does not
receive specific instructions from the holders of depositary shares
representing such preferred stock.
Amendment and Termination of the Deposit Agreement
The form of depositary receipt evidencing the depositary shares and any
provision of the deposit agreement may at any time be amended by agreement
between Sovereign Bancorp and the preferred stock depositary. However, any
amendment that materially and adversely alters any existing right of the
holders of depositary shares will not be effective unless such amendment has
been approved by the holders of at least a majority of the depositary shares
then outstanding. Every holder of an outstanding depositary receipt at the time
any such amendment becomes effective shall be deemed, by continuing to hold
such depositary receipt, to consent and agree to such amendment and to be bound
by the deposit agreement, which has been amended thereby. The deposit agreement
may be terminated only if:
o all outstanding depositary shares have been redeemed; or
o a final distribution in respect of the preferred stock has been made to
the holders of depositary shares in connection with any liquidation,
dissolution or winding up of Sovereign Bancorp.
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Charges of Preferred Stock Depositary; Taxes and Other Governmental Charges
Sovereign Bancorp will pay all transfer and other taxes and governmental
charges arising solely from the existence of the depositary arrangements.
Sovereign Bancorp also will pay charges of the depositary in connection with
the initial deposit of preferred stock and any redemption of preferred stock.
Holders of depositary receipts will pay other transfer and other taxes and
governmental charges and such other charges, including a fee for the withdrawal
of shares of preferred stock upon surrender of depositary receipts, as are
expressly provided in the deposit agreement to be for their accounts.
Prospective purchasers of depositary shares should be aware that special
tax, accounting and other issues may be applicable to instruments such as
depositary shares.
Resignation and Removal of Depositary
The preferred stock depositary may resign at any time by delivering to
Sovereign Bancorp notice of its intent to do so, and Sovereign Bancorp may at
any time remove the preferred stock depositary, any such resignation or removal
to take effect upon the appointment of a successor preferred stock depositary
and its acceptance of such appointment. Such successor preferred stock
depositary must be appointed within 60 days after delivery of the notice of
resignation or removal and must be a bank or trust company having its principal
office in the United States and having a combined capital and surplus of at
least $50,000,000.
Miscellaneous
The preferred stock depositary will forward all reports and communications
from Sovereign Bancorp which are delivered to the preferred stock depositary
and which Sovereign Bancorp is required to furnish to the holders of the
deposited preferred stock.
Neither the preferred stock depositary nor Sovereign Bancorp will be
liable if it is prevented or delayed by law or any circumstances beyond its
control in performing its obligations under the deposit agreement. The
obligations of Sovereign Bancorp and the preferred stock depositary under the
deposit agreement will be limited to performance in good faith of their duties
thereunder and they will not be obligated to prosecute or defend any legal
proceeding in respect of any depositary shares, depositary receipts or shares
of preferred stock unless satisfactory indemnity is furnished. Sovereign
Bancorp and the preferred stock depositary may rely upon written advice of
counsel or accountants, or upon information provided by holders of depositary
receipts or other persons believed to be competent and on documents believed to
be genuine.
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DESCRIPTION OF DEBT SECURITIES
The following briefly summarizes the material provisions of the indentures
and the debt securities, other than pricing and related terms disclosed in the
accompanying prospectus supplement. You should read the more detailed
provisions of the applicable indenture and supplemental indentures, if any,
including the defined terms, for the provisions that may be important to you.
You should also read the particular terms of a series of debt securities, which
will be described in more detail in the applicable prospectus supplement.
Copies of the indentures may be obtained from Sovereign Bancorp or the
applicable trustee. So that you may easily locate the more detailed provisions,
the numbers in parentheses below refer to sections in the applicable indenture
or, if no indenture is specified, to sections in each of the indentures.
Whenever particular sections or defined terms of the applicable indenture are
referred to, such sections or defined terms are incorporated into this
prospectus by reference, and the statement in this prospectus is qualified by
that reference.
General
The debt securities offered by this prospectus will be secured or
unsecured obligations of Sovereign Bancorp, and will be either senior debt,
subordinated debt, or junior subordinated debt. Senior debt will be issued
under a senior indenture. Subordinated debt will be issued under a subordinated
indenture. Junior subordinated debt will be issued under a junior subordinated
indenture. The senior indenture, the subordinated indenture, and the junior
subordinated indenture are sometimes referred to in this prospectus
individually as an "indenture" and collectively as the "indentures." Except as
specified in "Senior Debt," "Subordination," the fifth following paragraph, or
otherwise below and in any applicable prospectus supplement, any junior
subordinated debt will be subject to the same terms and conditions as
subordinated debt and will be issued under a junior subordinated indenture
filed as an exhibit to this Registration Statement. Unless the context provides
otherwise, references to the subordinated indenture shall also be deemed to be
references to the junior subordinated indenture. The indentures have been filed
with the Securities and Exchange Commission and are incorporated by reference
in, or have been filed with, the Registration Statement of which this
prospectus forms a part.
Unless otherwise provided in the applicable prospectus supplement, the
trustee under the indentures will be Harris Trust and Savings Bank.
None of the indentures limits the total principal amount of debt
securities that may be issued, and the indentures provide that debt securities
of any series may be issued up to the total principal amount which may be
authorized from time to time by Sovereign Bancorp. Except as may be set forth
in a prospectus supplement, neither the indentures nor the debt securities will
limit or otherwise restrict the amount of other indebtedness which may be
incurred or the other securities which may be issued by Sovereign Bancorp or
any of its affiliates.
Because Sovereign Bancorp is a holding company, the claims of creditors of
Sovereign Bancorp's subsidiaries, including Sovereign Bank, will have a
priority over Sovereign Bancorp's rights as a shareholder of Sovereign Bank,
and also over the rights of Sovereign Bancorp's creditors, including the
holders of Sovereign Bancorp's debt securities, to participate in the assets of
the subsidiary upon the subsidiary's liquidation or recapitalization, except to
the extent that Sovereign Bancorp may itself be a creditor with recognized
claims against the subsidiary. In addition, there are certain regulatory
limitations on the payment of dividends and on loans and other transfers to
Sovereign Bancorp by its banking subsidiaries.
The amount of debt securities offered by this prospectus will be limited
to the amounts described on the cover of this prospectus. The indentures
provide that senior, subordinated or junior subordinated debt securities of
Sovereign Bancorp may be issued in one or more series with different terms, in
each case as authorized from time to time by Sovereign Bancorp. (Section 301)
The senior securities may be unsecured or secured by assets of Sovereign
Bancorp, including the stock of Sovereign Bank owned by Sovereign Bancorp, and,
except as may be set forth in a prospectus supplement, will rank on an equal
basis with other unsecured senior debt of Sovereign. The subordinated
securities and junior subordinated securities will be unsecured and, except as
may be set forth in a prospectus supplement, will rank on an equal basis with
other subordinated debt or junior subordinated debt, respectively, of
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Sovereign Bancorp and, together with such other subordinated debt or junior
subordinated debt, will be subordinate and junior in right of payment to the
prior payment in full of the senior debt (which in the case of the junior
subordinated debt will also include subordinated debt) of Sovereign Bancorp as
described below under "Subordination."
The applicable prospectus supplement relating to any series of debt
securities will describe the following terms, where applicable:
o the designation and any limit on the total principal amount of such debt
securities;
o the price (expressed as a percentage of the total principal amount) at
which such debt securities will be issued;
o the date or dates on which such debt securities will mature or method by
which such dates can be determined;
o the currency or currencies in which such debt securities are being sold
and are denominated and the circumstances, if any, under which any debt
securities may be payable in a currency other than the currency in which
such debt securities are denominated, and if so, the exchange rate, the
exchange rate agent and, if the holder of any such debt securities may
elect the currency in which payments are to be made, the manner of such
election;
o the denomination in which any debt securities which are registered
securities will be issuable, if other than denominations of $1,000 and any
integral multiple thereof, and the denomination or denominations in which
any debt securities which are bearer securities will be issuable, if other
than the denomination of $5,000;
o the rate or rates (which may be fixed or variable) at which such debt
securities will bear interest, which rate may be zero in the case of
certain debt securities issued at an issue price representing a discount
from the principal amount payable at maturity;
o the date from which interest on such debt securities will accrue, the
dates on which such interest will be payable or method by which such dates
can be determined, the date on which payment of such interest will
commence and the circumstances, if any, in which Sovereign Bancorp may
defer interest payments;
o the dates on which, and the price or prices at which, such debt
securities will, pursuant to any mandatory sinking fund provision, or may,
pursuant to any optional redemption or mandatory repayment provisions, be
redeemed or repaid and the other terms and provisions of any such optional
redemption or mandatory repayment;
o any terms by which such debt securities may be convertible into common
stock (see "Description of Common Stock"), preferred stock (see
"Description of Preferred Stock"), or any other capital securities (see
"Description of Capital Securities") of Sovereign Bancorp and, in case of
debt securities convertible into preferred stock, the terms of such
preferred stock;
o any terms by which the principal of such debt securities will be
exchangeable for capital securities and any terms creating a fund (the
"securities fund") pursuant to which the proceeds of sales of capital
securities may be designated on the books of Sovereign Bancorp for the
payment of any of the principal of such debt securities;
o whether such debt securities are to be issuable as bearer securities
and/or registered securities and, if issuable as bearer securities, the
terms upon which any bearer securities may be exchanged for registered
securities;
o whether such debt securities are to be issued in the form of one or more
temporary or permanent global securities and, if so, the identity of the
depositary for such global security or securities;
o if a temporary global debt security is to be issued with respect to such
series, the extent to which, and the manner in which, any interest payable
on an interest payment date prior to the issuance of a permanent global
security or definitive bearer securities will be credited to the accounts
of the persons entitled to interest on the interest payment date;
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o if a temporary global security is to be issued with respect to such
series, the terms upon which interests in such temporary global security
may be exchanged for interests in a permanent global security or for
definitive debt securities of the series and the terms upon which
interests in a permanent global security, if any, may be exchanged for
definitive debt securities of the series;
o any additional restrictive covenants included for the benefit of holders
of such debt securities;
o any additional events of default provided with respect to such debt
securities;
o information with respect to book-entry procedures, if any;
o whether the debt securities will be repayable at the option of the holder
in the event of a change in control of Sovereign Bancorp;
o any other terms of the debt securities not inconsistent with the
provisions of the applicable indenture;
o the terms of any securities being offered together with or separately
from the debt securities;
o if such debt securities are original issue discount securities, the
accreted or notational value thereof (or method of determining such
amount) upon acceleration of maturity;
o any guarantees issued with respect to such debt securities; and
o any security interests or other liens granted to secure such debt
securities.
Such prospectus supplement will also describe any special provisions for
the payment of additional amounts with respect to the debt securities and
certain United States federal income tax consequences and other special
considerations applicable to such series of debt securities. If a debt security
is denominated in a foreign currency, such debt security may not trade on a
U.S. national securities exchange unless and until the SEC has approved
appropriate rule changes pursuant to the Act to accommodate the trading of such
debt security.
Form, Exchange, Registration and Transfer
Debt securities of a series may be issuable in definitive form solely as
registered securities, solely as bearer securities or as both registered
securities and bearer securities. Unless otherwise indicated in the prospectus
supplement, bearer securities other than bearer securities in temporary or
permanent global form will have interest coupons attached. (Section 201) Each
indenture also provides that bearer securities or registered securities of a
series may be issuable in permanent global form. (Section 203) See "Permanent
Global Securities."
Registered securities of any series will be exchangeable for other
registered securities of the same series of authorized denominations and of a
like total principal amount, tenor and terms. In addition, if debt securities
of any series are issuable as both registered securities and bearer securities,
at the option of the holder upon request confirmed in writing, and subject to
the terms of the applicable indenture, bearer securities (with all unmatured
coupons, except as provided below, and all matured coupons in default) of such
series will be exchangeable into registered securities of the same series of
any authorized denominations and of a like aggregate principal amount, tenor
and terms. Bearer securities surrendered in exchange for registered securities
between the close of business on a regular record date or a special record date
and the relevant date for payment of interest shall be surrendered without the
coupon relating to such date for payment of interest, and interest will not be
payable in respect of the registered security issued in exchange for such
bearer security, but will be payable only to the holder of such coupon when due
in accordance with the terms of the applicable indenture. Bearer securities
will not be issued in exchange for registered securities. (Section 305) Each
bearer security, other than a temporary global bearer security, and each
interest coupon will bear an appropriate legend as will be specified in an
applicable prospectus supplement.
Debt securities may be presented for exchange as provided above, and
registered securities may be presented for registration of transfer (duly
endorsed or accompanied by a satisfactory written instrument of transfer), at
the office of the security registrar or at the office of any transfer agent
designated by Sovereign Bancorp for such purpose with respect to such series of
debt securities, without service charge and upon
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payment of any taxes and other governmental charges. (Section 305) If the
applicable prospectus supplement refers to any transfer agent (in addition to
the security registrar) initially designated by Sovereign Bancorp with respect
to any series of debt securities, Sovereign Bancorp may at any time rescind the
designation of any such transfer agent or approve a change in the location
through which any such transfer agent (or security registrar) acts, except
that, if debt securities of a series are issuable solely as registered
securities, Sovereign Bancorp will be required to maintain a transfer agent in
each place of payment for such series and, if debt securities of a series are
issuable as bearer securities, Sovereign Bancorp must maintain (in addition to
the security registrar) a transfer agent in a place of payment for such series
located outside the United States. Sovereign Bancorp may at any time designate
additional transfer agents with respect to any series of debt securities.
(Section 1002)
Sovereign Bancorp shall not be required:
o to issue, register the transfer of or exchange debt securities of any
particular series to be redeemed or exchanged for capital securities for a
period of fifteen days preceding the first publication of the relevant
notice of redemption or, if registered securities are outstanding and
there is no publication, the mailing of the relevant notice of redemption;
o to register the transfer of or exchange any registered security so
selected for redemption or exchange in whole or in part, except the
unredeemed or unexchanged portion of any registered security being
redeemed or exchanged in part; or
o to exchange any bearer security so selected for redemption or exchange
except that such a bearer security may be exchanged for a registered
security of like tenor and terms of that series, provided that such
registered security shall be surrendered for redemption or exchange.
(Section 305)
Additional information regarding restrictions on the issuance, exchange
and transfer of, and special United States federal income tax considerations
relating to bearer securities will be set forth in the applicable prospectus
supplement.
Temporary Global Securities
If so specified in the applicable prospectus supplement, all or any
portion of the debt securities of a series which are issuable as bearer
securities will initially be represented by one or more temporary global
securities, without interest coupons, to be deposited with a common depositary
in London for Morgan Guaranty Trust Corporation of New York, Brussels Office,
as operator of the Euroclear System ("Euroclear") and Cedel S.A. ("Cedel") for
credit to designated accounts. On and after the date determined as provided in
any such temporary global security and described in the applicable prospectus
supplement, but within a reasonable time, each such temporary global security
will be exchangeable for definitive bearer securities, definitive registered
securities or all or a portion of a permanent global bearer security, or any
combination thereof, as specified in the prospectus supplement. No definitive
bearer security or permanent global bearer security delivered in exchange for a
portion of a temporary global security shall be mailed or otherwise delivered
to any location in the United States in connection with such exchange.
Additional information regarding restrictions on and special United States
federal income tax consequences relating to temporary global securities will be
set forth in the applicable prospectus supplement.
Permanent Global Securities
If any debt securities of a series are issuable in permanent global form,
the applicable prospectus supplement will describe the circumstances, if any,
under which beneficial owners of interests in any such permanent global
security may exchange their interests for debt securities of such series and of
like tenor and principal amount of any authorized form and denomination.
Principal of and any premium and interest on a permanent global security will
be payable in the manner described in the applicable prospectus supplement.
Payments and Paying Agents
Unless otherwise indicated in the applicable prospectus supplement:
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o payments of principal of and premium, if any, and interest, if any, on
bearer securities will be payable in the currency designated in the
prospectus supplement, subject to any applicable laws and regulations, at
such paying agencies outside the United States as Sovereign Bancorp may
appoint from time to time;
o such payments may be made, at the option of the holder, by a check in the
designated currency or by transfer to an account in the designated
currency maintained by the payee with a bank located outside the United
States; and
o payment of interest on bearer securities on any interest payment date
will be made only against surrender of the coupon relating to such
interest payment date to a paying agent outside the United States.
(Section 1001)
No payment with respect to any bearer security will be made at any office
or paying agency maintained by Sovereign Bancorp in the United States nor will
any such payment be made by transfer to an account, or by mail to an address,
in the United States. Notwithstanding the foregoing, payments of principal of
and premium, if any, and interest, if any, on bearer securities denominated and
payable in U.S. dollars will be made in U.S. dollars at an office or agency of,
and designated by, Sovereign Bancorp located in the United States, if payment
of the full amount thereof in U.S. dollars at all paying agencies outside the
United States is illegal or effectively precluded by exchange controls or other
similar restrictions, and the trustee receives an opinion of counsel that such
payment within the United States is legal. (Section 1002)
Unless otherwise indicated in the applicable prospectus supplement,
payment of principal of and premium, if any, and interest, if any, on a
registered security will be payable in the currency designated in the
prospectus supplement, and interest will be payable at the office of such
paying agent or paying agents as Sovereign Bancorp may appoint from time to
time, except that, at the option of Sovereign Bancorp, payment of any interest
may be made by a check in such currency mailed to the holder at the holder's
registered address or by wire transfer to an account in such currency
designated by the holder in writing not less than ten days prior to the date of
payment. Unless otherwise indicated in the applicable prospectus supplement,
payment of any installment of interest on a registered security will be made to
the person in whose name such registered security is registered at the close of
business on the regular record date for such payments. (Section 307) Unless
otherwise indicated in the applicable prospectus supplement, principal payable
at maturity will be paid to the registered holder upon surrender of the
registered security at the office of a duly appointed paying agent.
The paying agents outside the United States initially appointed by
Sovereign Bancorp for a series of debt securities will be named in the
applicable prospectus supplement. Sovereign Bancorp may terminate the
appointment of any of the paying agents from time to time, except that
Sovereign Bancorp will maintain at least one paying agent outside the United
States so long as any bearer securities are outstanding where bearer securities
may be presented for payment and may be surrendered for exchange, provided that
so long as any series of debt securities is listed on the stock exchange of the
United Kingdom and the Republic of Ireland or the Luxembourg Stock Exchange or
any other stock exchange located outside the United States and such stock
exchange shall so require, Sovereign Bancorp will maintain a paying agent in
London or Luxembourg or any other required city located outside the United
States, as the case may be, for such series of debt securities. (Section 1002)
All moneys paid by Sovereign Bancorp to a paying agent for the payment of
principal of or premium, if any, or interest, if any, on any debt security that
remains unclaimed at the end of two years after such principal, premium or
interest shall have become due and payable will, at request of Sovereign
Bancorp, be repaid to Sovereign Bancorp, and the holder of such debt security
or any coupon will thereafter look only to Sovereign Bancorp for payment.
(Section 1003)
Covenants Contained in Indentures
The indentures provide that Sovereign Bancorp will not:
o sell, transfer, or otherwise dispose of any shares of voting stock of
Sovereign Bank or permit Sovereign Bank to issue, sell, or otherwise
dispose of any shares of its voting stock unless Sovereign Bancorp retains
direct ownership of at least 80% of the voting stock;
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o permit Sovereign Bank to merge or consolidate unless Sovereign Bancorp
directly owns at least 80% of the voting stock of the surviving entity; or
o convey or transfer its properties and assets substantially as an entirety
to any other entity unless Sovereign Bancorp directly owns at least 80% of
the voting stock of the entity. (Section 1005)
With the consent of the holders of a majority in aggregate principal
amount of the outstanding debt securities of each series issued under the
indentures, these requirements may be modified so as to reduce the required
percentage of ownership from 80% to a majority. (Section 902)
The senior indenture provides that Sovereign Bancorp will not create,
assume, incur, or suffer to exist, as security for indebtedness for borrowed
money, any mortgage, pledge, encumbrance or lien or charge of any kind upon
more than 20% of the voting stock of Sovereign Bank (other than directors'
qualifying shares) without effectively providing that each series of senior
securities be secured equally and ratably with (or prior to) such indebtedness.
(Section 1004 of the senior indenture) The subordinated indenture and junior
subordinated indenture do not contain a similar covenant.
Sovereign Bancorp is not restricted by the indentures from incurring,
assuming or becoming liable for any type of debt or other obligations, from
creating liens on its property (other than, in the case of the senior
indentures, on the voting stock of Sovereign Bank as described above) for any
purposes or from paying dividends or making distributions on its capital stock
or purchasing or redeeming its capital stock. The indentures do not require the
maintenance of any financial ratios or specific levels of net worth or
liquidity. In addition, the indentures do not contain any provision which would
require Sovereign Bancorp to repurchase, redeem or otherwise modify the terms
of any of its debt securities upon a change in control or other events
involving Sovereign Bancorp which may adversely affect the creditworthiness of
the debt securities.
The above covenants may be modified by, or additional covenants may be
provided for in, a supplemental indenture, as will be further described in an
applicable prospectus supplement.
Modification and Waiver
Except as to the above, and certain other modifications and amendments not
adverse to holders of debt securities, modifications and amendments of and
waivers of compliance with certain restrictive provisions under each indenture
may be made only with the consent of the holders of not less than 662/3% in
principal amount of the outstanding debt securities of each series affected by
such modification, amendment or waiver.
No such modification or amendment may, without the consent of the holder
of each security so affected:
o change the stated maturity of the principal or any installment of
principal or any installment of interest, if any;
o reduce the amount of principal or interest payable on the debt security,
or any premium payable upon its redemption or repayment or, in the case of
an original issue discount security the amount of principal payable upon
the acceleration of its maturity;
o change the place of payment or the currency in which principal or
interest is payable, if any;
o impair the right of any holders to sue for the enforcement of any payment
of the principal, premium, if any, and interest, if any, or adversely
affect the holder's right of repayment, if any, at the option of the
holder;
o reduce the percentage in principal amount of outstanding debt securities
of any series, whose holders must consent for modification or amendment of
the applicable indenture, or for waiver of compliance with certain
provisions of the applicable indenture, or for waiver of certain defaults;
o reduce the requirements contained in the applicable indenture for quorum
or voting;
o in the case of debt securities exchangeable for capital securities,
impair any right to the delivery of capital securities in exchange for
such debt securities or the right to sue for the enforcement of any such
delivery or, in the case of debt securities convertible into common stock
or preferred shares, impair any right to convert such debt securities; or
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o modify any of the above provisions. (Section 902)
Each indenture contains provisions for convening meetings of the holders
of debt securities of a series issued thereunder if debt securities of that
series are issuable in whole or in part as bearer securities. (Section 1601) A
meeting may be called at any time by the trustee for such debt securities, or
upon the request of Sovereign Bancorp or the holders of at least 10% in
principal amount of the outstanding debt securities of such series, upon notice
given in accordance with the applicable indenture. (Section 1602)
Except as limited by the preceding paragraph:
o any resolution presented at a meeting or adjourned meeting at which a
quorum is present may be adopted by the affirmative vote of the holders of
a majority in principal amount of the outstanding debt securities of that
series;
o any resolution with respect to any consent or waiver which may be given
only by the holders of not less than 662/3% in principal amount of the
outstanding debt securities of a series issued under an indenture may be
adopted at a meeting or an adjourned meeting at which a quorum is present
only by the affirmative vote of the holders of 662/3% in principal amount
of such outstanding debt securities of that series; and
o any resolution with respect to any demand, consent, waiver or other
action which may be made, given or taken by the holders of a specified
percentage, which is less than a majority, in principal amount of the
outstanding debt securities of a series issued under an indenture may be
adopted at a meeting or adjourned meeting at which a quorum is present by
the affirmative vote of the holders of the specified percentage in
principal amount of the outstanding debt securities of that series.
(Section 1604)
Any resolution passed or decision taken at any meeting of holders of debt
securities of any series duly held in accordance with the applicable indenture
will be binding on all holders of debt securities of that series and the
related coupons issued under that indenture. The quorum at any meeting of
holders of a series of debt securities called to adopt a resolution, and at any
reconvened meeting, will be persons holding or representing a majority in
principal amount of the outstanding debt securities of such series.
If any action is to be taken at such meeting with respect to a consent or
waiver which may be given by the holders of not less than 662/3% in principal
amount of the outstanding debt securities of a series, the persons holding or
representing 662/3% in principal amount of the outstanding debt securities of
such series issued under that indenture will constitute a quorum. (Section
1604)
Events of Default
Unless otherwise provided in the applicable prospectus supplement, any
series of senior securities issued under the senior indenture will provide that
the following shall constitute events of default with respect to such series:
o default in payment of principal of or premium, if any, on any senior
security of such series when due;
o default for 30 days in payment of interest, if any, on any senior
security of such series or related coupon, if any, when due;
o default in the deposit of any sinking fund payment on any senior
security of such series when due;
o default in the performance of any other covenant in such indenture,
continued for 90 days after written notice of the default by the trustee
thereunder or by the holders of at least 25% in principal amount of the
outstanding senior securities of such series issued under that indenture;
and
o certain events of bankruptcy, insolvency or reorganization of Sovereign
Bancorp or Sovereign Bank. (Section 501 of the senior indenture)
Unless otherwise provided in the applicable prospectus supplement, any
series of subordinated securities issued under the subordinated indenture will
provide that the only event of default will be certain events of bankruptcy of
Sovereign Bancorp. (Section 501 of the subordinated indenture) Unless
specifically stated in the
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applicable prospectus supplement for a particular series of subordinated
securities, there is no right of acceleration of the payment of principal of
the subordinated securities upon a default in the payment of principal,
premium, if any, or interest, if any, or in the performance of any covenant or
agreement in the subordinated securities or subordinated indenture. In the
event of a default in the payment of principal, premium, if any, or interest,
if any, or in the performance of any covenant (including, if applicable, any
covenant to deliver any capital securities required to be delivered or any
covenant to sell capital securities in a secondary offering) or agreement in
the subordinated securities or subordinated indenture, the trustee, subject to
certain limitations and conditions, may institute judicial proceedings to
enforce payment of such principal, premium, if any, or interest, if any, or to
obtain the performance of such covenant or agreement or any other proper
remedy, including, in the case of the failure to deliver capital securities, a
proceeding to collect money equal to the principal amount of any subordinated
securities for which capital securities were to be exchanged. (Section 503 of
the subordinated indenture)
Sovereign Bancorp is required to file with each trustee annually an
officers' certificate as to the absence of certain defaults under the terms of
the indentures. (Section 1007 of the senior indenture, Section 1004 of the
subordinated indenture) Each indenture provides that if an event of default
shall occur and be continuing, either the trustee or the holders of not less
than 25% in principal amount of the outstanding debt securities of such series
issued under that indenture may declare the principal of all such debt
securities (or in the case of original issue discount series, such portion of
the principal amount thereof as may be specified in the terms thereof) to be
due and payable. (Section 502) In certain cases, the holders of a majority in
principal amount of the outstanding debt securities of any series may, on
behalf of the holders of all debt securities of any such series and any related
coupons, waive any past default or event of default except a default in payment
of the principal of or premium, if any, on any of the debt securities of such
series and in respect of a covenant or provision of the indenture which cannot
be modified or amended without the consent of the holder of each outstanding
debt security of such series or coupons affected. (Section 513)
Each indenture contains a provision entitling the trustee, subject to the
duty during default to act with the required standard of care, to be
indemnified by the holders of the debt securities of any series or any related
coupons before proceeding to exercise any right or power under such indenture
at the request of such holders. (Section 603) Each indenture provides that no
holder of any debt securities of any series or any related coupons may
institute any proceeding, judicial or otherwise, to enforce such indenture
except in the case of failure of the trustee, for 60 days, to act after it is
given notice of default, a request to enforce such indenture by the holders of
not less than 25% in aggregate principal amount of the outstanding debt
securities of such series, and an offer of indemnity reasonable to the trustee.
(Section 507) This provision will not prevent any holder of debt securities or
any related coupons from enforcing payment of the principal, premium, if any,
and interest, if any, at their respective due dates. (Section 508) The holders
of a majority in aggregate principal amount of the outstanding debt securities
of any series issued under an indenture may direct the time, method and place
of conducting any proceedings for any remedy available to the trustee for such
debt securities or exercising any trust or power conferred on it with respect
to the debt securities of such series. However, such trustee may refuse to
follow any direction that conflicts with law or the indenture under which it
serves or which would be unjustly prejudicial to holders not joining the
proceeding. (Section 512)
Each indenture provides that the trustee will, within 90 days after the
occurrence of a default with respect to any series of debt securities known to
it, give to the holders of debt securities of such series notice of such
default if not cured or waived. Except in the case of a default in the payment
of principal of or premium, if any, or interest, if any, on any debt securities
of such series or any related coupons, or in the payment of any sinking fund
installment with respect to debt securities of such series, or in the exchange
of capital securities for debt securities of such series, the trustee for such
debt securities shall be protected in withholding such notice if it determines
in good faith that the withholding of such notice is in the interest of the
holders of such debt securities. (Section 602)
Defeasance
Sovereign Bancorp may terminate certain of its obligations under each
indenture with respect to the debt securities of any series, including its
obligations to comply with the covenants described under the heading
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"Covenants Contained in Indentures" above, on the terms and subject to the
conditions contained in the indentures, by depositing in trust with the trustee
money and/or, to the extent such debt securities are denominated and payable in
U.S. dollars only, eligible instruments which, through the payment of principal
and interest in accordance with their terms, will provide money in an amount
sufficient to pay the principal and premium, if any, and interest, if any, on
such debt securities, and any mandatory sinking fund, repayment or analogous
payments on the securities, on the scheduled due dates for payment. Such
deposit and termination is conditioned upon Sovereign Bancorp's delivery of an
opinion of counsel that the holders of such debt securities will have no
federal income tax consequences as a result of such deposit and termination.
Such termination will not relieve Sovereign Bancorp of its obligation to pay
when due the principal of or interest on such debt securities if such debt
securities of such series are not paid from the money or eligible instruments
held by the trustee for the payment thereof. (Section 401) This is called
"covenant defeasance." The applicable prospectus supplement may further
describe the provisions, if any, permitting or restricting such defeasance with
respect to the debt securities of a particular series.
Senior Debt
Except as may be described in an applicable prospectus supplement, senior
debt is any obligation of Sovereign Bancorp to its creditors, now outstanding
or subsequently incurred, other than:
o any obligation as to which the instrument creating or evidencing it or
pursuant to which it is outstanding provides that such obligation is not
senior debt;
o obligations evidenced by debt securities issued under the subordinated
indenture (Section 101 of the subordinated indenture) (except in the case
of the junior subordinated indenture (section 101 of the junior
subordinated indenture)); and
o obligations evidenced by debt securities issued under the junior
subordinated indenture.
Subordination
The subordinated securities or the junior subordinated securities, as
applicable, shall be subordinate and junior in right of payment, to the extent
set forth in the subordinated indenture or the junior subordinated indenture,
as applicable, to all senior debt (as such term is defined above) of Sovereign
Bancorp. In the event that Sovereign Bancorp shall default in the payment of
any principal, premium, if any, or interest, if any, on any senior debt when it
becomes due and payable, whether at maturity, or at a date fixed for
prepayment, or by declaration of acceleration or otherwise, then, unless and
until such default shall have been cured or waived or shall have ceased to
exist, no direct or indirect payment (in cash, property, securities, by set-off
or otherwise) shall be made or agreed to be made for principal, premium, if
any, or interest, if any, on the subordinated securities or the junior
subordinated securities, as applicable, or in respect of any redemption,
repayment, retirement, purchase or other acquisition of any of the subordinated
securities or the junior subordinated securities, as applicable. (Section 1801
of the subordinated indenture or the junior subordinated indenture, as
applicable) A series of subordinated debt securities may be issued that is
subordinate to the senior debt, but is senior as to right of payment to some or
all other series of subordinated or junior subordinated debt securities.
In the event of any insolvency, bankruptcy, receivership, liquidation,
reorganization, readjustment, composition or other similar proceeding relating
to Sovereign Bancorp, its creditors or its property, any proceeding for the
liquidation, dissolution or other winding up of Sovereign Bancorp, voluntary or
involuntary, whether or not involving insolvency or bankruptcy proceedings, any
assignment by Sovereign Bancorp for the benefit of creditors, or any other
marshaling of the assets of Sovereign Bancorp, all senior debt (including any
interest accruing after the commencement of any such proceedings) shall first
be paid in full before any payment or distribution, whether in cash, securities
or other property, shall be made on account of the principal or interest on the
subordinated securities or the junior subordinated securities, as applicable.
In such event, any payment or distribution on account of the principal of or
interest on the subordinated securities or the junior subordinated securities,
as applicable, whether in cash, securities or other property (other than
securities of Sovereign Bancorp or any other corporation provided for by a plan
of reorganization
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or readjustment, the payment of which is subordinate, at least to the extent
provided in the subordination provisions with respect to the subordinated
securities or the junior subordinated securities, as applicable, to the payment
of all senior debt at the time outstanding, and to any securities issued under
any such plan of reorganization or adjustment), which would otherwise (but for
the subordination provisions) be payable or deliverable in respect of the
subordinated securities shall be paid or delivered directly to the holders of
senior debt in accordance with the priorities then existing among such holders
until all senior debt (including any interest accruing after the commencement
of any such proceedings) shall have been paid in full. (Section 1801 of the
subordinated indenture or the junior subordinated indenture, as applicable).
In the event of any such proceeding, after payment in full of all sums
owing with respect to senior debt, the holders of subordinated securities or
junior subordinated securities, as applicable, together with the holders of any
obligations of Sovereign Bancorp ranking on an equal basis with the
subordinated securities or junior subordinated securities, as applicable, shall
be entitled to be repaid from the remaining assets of Sovereign Bancorp the
amounts at the time due and owing on account of unpaid principal, premium, if
any, and interest, if any, on the subordinated securities or junior
subordinated securities, as applicable and such other obligations before any
payment or other distribution, whether in cash, property or otherwise, shall be
made on account of any capital stock or obligations of Sovereign Bancorp
ranking junior to the subordinated securities or junior subordinated
securities, as applicable, and such other obligations. If any payment or
distribution on account of the principal of or interest on the subordinated
securities or junior subordinated securities, as applicable, of any character
or any security, whether in cash, securities or other property (other than
securities of Sovereign Bancorp or any other corporation provided for by a plan
of reorganization or readjustment, the payment of which is subordinate, at
least to the extent provided in the subordination provisions with respect to
the subordinated securities or junior subordinated securities, as applicable,
to the payment of all senior debt at the time outstanding and to any securities
issued under any such plan of reorganization or readjustment) shall be received
by any holder of any subordinated securities or junior subordinated securities,
as applicable in contravention of any of these terms and before all the senior
debt shall have been paid in full, such payment or distribution or security
shall be received in trust for the benefit of, and shall be paid over or
delivered and transferred to, the holders of the senior debt at the time
outstanding in accordance with the priorities then existing among such holders
for application to the payment of all senior debt remaining unpaid to the
extent necessary to pay all such senior debt in full. (Section 1801 of the
subordinated indenture or junior subordinated indenture, as applicable) By
reason of such subordination, in the event of the insolvency of Sovereign
Bancorp, holders of senior debt may receive more, ratably, and holders of the
subordinated securities having a claim pursuant to such securities may receive
less, ratably, than the other creditors of Sovereign Bancorp. Such
subordination will not prevent the occurrence of any event of default in
respect of the subordinated securities.
The subordinated indenture or junior subordinated indenture, as
applicable, may be modified or amended as provided under "Modification and
Waiver" above, provided that no such modification or amendment may, without the
consent of the holders of all senior debt outstanding, modify any of the
provisions of the subordinated indenture or junior subordinated indenture, as
applicable, relating to the subordination of the subordinated securities or the
junior subordinated securities and any related coupons in a manner adverse to
such holders. (Section 902 of the subordinated indenture or junior subordinated
indenture, as applicable)
Conversion of Convertible Debt Securities
The holders of debt securities of a specified series that are convertible
into common stock or preferred stock of Sovereign Bancorp ("convertible debt
securities") will be entitled at certain times specified in the applicable
prospectus supplement, subject to prior redemption, repayment or repurchase, to
convert any convertible debt securities of such series (in denominations set
forth in the applicable prospectus supplement) into common stock or preferred
stock, as the case may be, at the conversion price set forth in the applicable
prospectus supplement, subject to adjustment as described below and in the
applicable prospectus supplement. Except as described below and as may be
described in the applicable prospectus supplement, no adjustment will be made
on conversion of any convertible debt securities for interest accrued thereon
or for dividends on any common stock or preferred stock issued. (Section 1803
of the senior indenture, Section 1903 of the subordinated indenture) If any
convertible debt securities not called for redemption are converted between a
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regular record date for the payment of interest and the next succeeding
interest payment date, such convertible debt securities must be accompanied by
funds equal to the interest payable on such succeeding interest payment date on
the principal amount so converted. (Section 1803 of the senior indenture,
Section 1903 of the subordinated indenture) Sovereign Bancorp is not required
to issue fractional shares of common stock upon conversion of convertible debt
securities that are convertible into common stock and, in lieu thereof, will
pay a cash adjustment based upon the closing price (as defined in the
indenture) of the common stock on the last business day prior to the date of
conversion. (Section 1804 of the senior indenture, Section 1904 of the
subordinated indenture) In the case of convertible debt securities called for
redemption, conversion rights will expire at the close of business on the
redemption date. (Section 1802 of the senior indenture, Section 1902 of the
subordinated indenture)
Unless otherwise indicated in the applicable prospectus supplement, the
conversion price for convertible debt securities that are convertible into
common stock is subject to adjustment under formulas set forth in the
applicable indenture in certain events, including:
o the issuance of Sovereign Bancorp's capital stock as a dividend or
distribution on the common stock;
o subdivisions and combinations of the common stock;
o the issuance to all holders of common stock of certain rights or warrants
entitling them to subscribe for or purchase common stock within 45 days
after the date fixed for the determination of the stockholders entitled to
receive such rights or warrants, at less than the current market price (as
defined in the indenture); and
o the distribution to all holders of common stock of evidences of
indebtedness or assets of Sovereign Bancorp (excluding certain cash
dividends and distributions described in the next paragraph) or rights or
warrants (excluding those referred to above). (Section 1806 of the senior
indenture, Section 1906 of the subordinated indenture)
In the event that Sovereign Bancorp shall distribute any rights or
warrants to acquire capital stock ("capital stock rights") pursuant to which
separate certificates representing such capital stock rights will be
distributed subsequent to the initial distribution of such capital stock rights
(whether or not such distribution shall have occurred prior to the date of the
issuance of a series of convertible debt securities), such subsequent
distribution shall be deemed to be the distribution of such capital stock
rights. Sovereign Bancorp may, in lieu of making any adjustment in the
conversion price upon a distribution of separate certificates representing such
capital stock rights, make proper provision so that each holder of such a
convertible debt security who converts it (or any portion of it) before the
record date for such distribution of separate certificates shall be entitled to
receive upon such conversion shares of common stock issued with capital stock
rights. If converted after such record date and prior to the expiration,
redemption or termination of such capital stock rights, the holder shall be
entitled to receive upon such conversion, in addition to the shares of common
stock issuable upon such conversion, the same number of such capital stock
rights as would a holder of the number of shares of common stock that such
convertible debt security so converted would have entitled its holder to
acquire in accordance with the terms and provisions applicable to the capital
stock rights if such convertible debt security were converted immediately prior
to the record date for such distribution. Common stock owned by or held for the
account of Sovereign Bancorp or any majority owned subsidiary shall not be
deemed outstanding for the purpose of any adjustment.
No adjustment in the conversion price of convertible debt securities that
are convertible into common stock will be made for regular quarterly or other
periodic or recurring cash dividends or distributions or for cash dividends or
distributions to the extent paid from retained earnings. No adjustment in the
conversion price of convertible debt securities that are convertible into
common stock will be required unless such adjustment would require a change of
at least 1% in the conversion price then in effect, provided, that any such
adjustment not so made will be carried forward and taken into account in any
subsequent adjustment. Any such adjustment not so made shall be made no later
than three years after the occurrence of the event requiring such adjustment to
be made or carried forward. Sovereign Bancorp reserves the right to make such
reductions in the conversion price in addition to those required in the
foregoing provisions as Sovereign Bancorp in its discretion shall determine to
be advisable in order that certain stock-related distributions
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hereafter made by Sovereign Bancorp to its stockholders shall not be taxable.
(Section 1806 of the senior indenture, Section 1906 of the subordinated
indenture) Except as stated above, the conversion price will not be adjusted
for the issuance of common stock or any securities convertible into or
exchangeable for common stock or securities carrying the right to purchase any
of the foregoing.
In the case of a reclassification or change of the common stock, a
consolidation or merger involving Sovereign Bancorp, or a sale or conveyance to
another corporation of the property and assets of Sovereign Bancorp as an
entirety or substantially as an entirety, in each case as a result of which
holders of common stock shall be entitled to receive stock, securities, other
property or assets (including cash) with respect to or in exchange for such
common stock, the holders of the convertible debt securities then outstanding
that are convertible into common stock will be entitled thereafter to convert
such convertible debt securities into the kind and amount of shares of stock
and other securities or property which they would have received upon such
reclassification, change, consolidation, merger, sale or conveyance had such
convertible debt securities been converted into common stock immediately prior
to such reclassification, change, consolidation, merger, sale or conveyance.
(Section 1807 of the senior indenture, Section 1907 of the subordinated
indenture)
In the event of a taxable distribution to holders of common stock (or
other transaction) which results in any adjustment of the conversion price of
convertible debt securities that are convertible into common stock, the holders
of such convertible debt securities may, in certain circumstances, be deemed to
have received a distribution subject to United States income tax as a dividend;
in certain other circumstances, the absence of such an adjustment may result in
a taxable dividend to the holders of common stock or such convertible debt
securities.
Exchange for Capital Securities
To the extent set forth in a prospectus supplement, a specified series of
debt securities may be mandatorily exchangeable for capital securities as
described under "Description of Capital Securities" below.
Information Concerning the Trustees
The trustee serves as trustee under indentures for other debt of Sovereign
Bancorp and as rights agent under Sovereign Bancorp's rights agreement,
described in "Description of Capital Securities -- Shareholder Rights Plan,"
below.
The trustee may, from time to time make loans to Sovereign Bancorp and
perform other services for Sovereign Bancorp in the normal course of business.
Under the provisions of the Trust Indenture Act of 1939, upon the occurrence of
a default under an indenture, if a trustee has a conflicting interest (as
defined in the Trust Indenture Act) the trustee must, within 90 days, either
eliminate such conflicting interest or resign. Under the provisions of the
Trust Indenture Act, an indenture trustee shall be deemed to have a conflicting
interest if the trustee is a creditor of the obligor. If the trustee fails
either to eliminate the conflicting interest or to resign within 10 days after
the expiration of such 90-day period, the trustee is required to notify debt
holders to this effect and any debt holder who has been a bona fide holder for
at least six months may petition a court to remove the trustee and to appoint a
successor trustee.
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DESCRIPTION OF WARRANTS
Sovereign Bancorp may issue warrants for the purchase of common stock,
preferred stock and debt securities. Warrants may be issued separately or
together with common stock, preferred stock or debt securities offered by any
prospectus supplement and may be attached to or separate from such common
stock, preferred stock or debt securities. Each series of warrants will be
issued under a separate warrant agreement to be entered into between Sovereign
Bancorp and a bank or trust corporation, as warrant agent, all as set forth in
the prospectus supplement relating to the particular issue of offered warrants.
The warrant agent will act solely as an agent of Sovereign Bancorp in
connection with the warrants and will not assume any obligation or relationship
of agency or trust for or with any holders of warrants or beneficial owners of
warrants. Copies of the forms of warrant agreements, including the forms of
warrant certificates representing the warrants, are or will be filed as
exhibits to the Registration Statement. The following summaries of certain
provisions of the forms of warrant agreements and warrant certificates do not
purport to be complete and are subject to, and are qualified in their entirety
by reference to, all the provisions of the warrant agreements and the warrant
certificates.
General
If warrants are offered, the applicable prospectus supplement will
describe the terms of such warrants, including, in the case of warrants for the
purchase of debt securities, the following where applicable:
o the offering price;
o the currencies in which the price for such warrants may be payable;
o the designation, aggregate principal amount, currencies, denominations
and terms of the series of debt securities purchasable upon exercise of
such warrants;
o the designation and terms of any series of debt securities or preferred
stock with which the warrants are being offered and the number of warrants
being offered with each such share of common stock or preferred stock, or
debt security;
o if applicable, the date on and after which such warrants and the related
common stock or series of debt securities or preferred stock will be
transferable separately;
o the principal amount and series of debt securities purchasable upon
exercise of each such warrant and the price at which and currencies in
which such principal amount of debt securities of such series may be
purchased upon such exercise;
o the date on which the right to exercise such warrants shall commence and
the date on which such right shall expire;
o whether the warrants will be issued in registered or bearer form;
o if applicable, a discussion of certain United States federal income tax,
accounting and other special considerations, procedures and limitations;
and
o any other terms of such warrants, including terms, procedures and
limitations relating to the exchange and exercise of such warrants.
In the case of warrants for the purchase of common stock or preferred
stock, the applicable prospectus supplement will describe the terms of such
warrants, including the following where applicable:
o the offering price;
o the aggregate number of shares purchasable upon exercise of such warrants
and, in the case of warrants for preferred stock, the designation,
aggregate number and terms of the series of preferred stock purchasable
upon exercise of such warrants;
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o if applicable, the designation and terms of the series of common stock,
debt securities or preferred stock with which such warrants are being
offered and the number of such warrants being offered with each share of
common stock or preferred stock or debt security;
o if applicable, the date on and after which such warrants and the related
common stock or preferred stock or series of debt securities will be
transferable separately;
o the number of shares of common stock or preferred stock purchasable upon
exercise of each such warrant and the price at which such number of shares
of common stock or preferred stock may be purchased upon such exercise;
o the date on which the right to exercise such warrants shall commence and
the date on which such right shall expire;
o United States federal income tax consequences; and
o any other terms of such warrants. Warrants for the purchase of preferred
stock or common stock will be offered and exercisable for U.S. dollars
only and will be in registered form only.
Warrant certificates may be exchanged for new warrant certificates of
different denominations, may be presented for registration of transfer, and may
be exercised at the corporate trust office of the warrant agent or any other
office indicated in the applicable prospectus supplement. Prior to the exercise
of any warrant to purchase debt securities, holders of such warrants will not
have any of the rights of holders of the debt securities purchasable upon such
exercise, including the right to receive payments of principal of, premium, if
any, or interest, if any, on the debt securities purchasable upon such exercise
or to enforce covenants in the applicable indenture. Prior to the exercise of
any warrants to purchase preferred stock or common stock, holders of such
warrants will not have any rights of holders of the preferred stock or common
stock purchasable upon such exercise, including the right to receive payments
of dividends, if any, on the preferred stock or common stock purchasable upon
such exercise or to exercise any applicable right to vote.
Exercise of Warrants
Each warrant will entitle the holder thereof to purchase such principal
amount of debt securities or shares of common stock or preferred stock, as the
case may be, at such exercise price as shall in each case be set forth in, or
calculable from the prospectus supplement relating to the offered warrants.
After the close of business on the expiration date of the warrants (or such
later date to which such expiration date may be extended by Sovereign Bancorp),
unexercised warrants will become void.
Warrants may be exercised by delivering to the warrant agent payment as
provided in the applicable prospectus supplement of the amount required to
purchase the debt securities, preferred stock or common stock, as the case may
be, purchasable upon such exercise together with certain information set forth
on the reverse side of the warrant certificate. Warrants will be deemed to have
been exercised upon receipt of payment of the exercise price, subject to the
receipt, within five business days, of the warrant certificate evidencing such
warrants. Upon receipt of such payment and the warrant certificate properly
completed and duly executed at the corporate trust office of the warrant agent
or any other office indicated in the applicable prospectus supplement,
Sovereign Bancorp will, as soon as practicable, issue and deliver the debt
securities, preferred stock or common stock, as the case may be, purchasable
upon such exercise. If fewer than all of the warrants represented by the
warrant certificate are exercised, a new warrant certificate will be issued for
the remaining amount of warrants.
Amendments and Supplements to Warrant Agreements
The warrant agreements may be amended or supplemented without the consent
of the holders of the warrants issued thereunder to effect changes that are not
inconsistent with the provisions of the warrants and that do not adversely
affect the interests of the holders of the warrants.
Common Stock Warrant Adjustments
Unless otherwise indicated in the applicable prospectus supplement, the
exercise price of, and the number of shares of common stock covered by, a
common stock warrant are subject to adjustment in certain events, including:
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o the issuance of common stock as a dividend or distribution on the common
stock;
o subdivisions and combinations of the common stock;
o the issuance to all holders of common stock of certain rights or warrants
entitling them to subscribe for or purchase common stock within 45 days
after the date fixed for the determination of the shareholders entitled to
receive such rights or warrants, at less than the current market price
("Capital Stock Rights");
o the distribution to all holders of common stock of evidences of
indebtedness or assets of Sovereign Bancorp (excluding certain cash
dividends and distributions described below) or rights or warrants
(excluding those referred to above).
Sovereign Bancorp may, in lieu of making any adjustment in the exercise
price of, and the number of shares of common stock covered by, a common stock
warrant, make proper provision so that each holder of such common stock warrant
who exercises such common stock warrant (or any portion thereof):
o before the record date for such distribution of separate certificates,
shall be entitled to receive upon such exercise shares of common stock
issued with Capital Stock Rights; and
o after such record date and prior to the expiration, redemption or
termination of such Capital Stock Rights, shall be entitled to receive
upon such exercise in addition to the shares of common stock issuable upon
such exercise, the same number of such Capital Stock Rights as would a
holder of the number of shares of common stock that such common stock
warrants so exercised would have entitled the holder thereof to acquire in
accordance with the terms and provisions applicable to the Capital Stock
Rights if such common stock warrant was exercised immediately prior to the
record date for such distribution.
Common stock owned by or held for the account of Sovereign Bancorp or any
majority owned subsidiary shall not be deemed outstanding for the purpose of
any adjustment.
No adjustment in the exercise price of, and the number of shares of common
stock covered by, a common stock warrant will be made for regular quarterly or
other periodic or recurring cash dividends or distributions of cash dividends
or distributions to the extent paid from retained earnings. No adjustment will
be required unless such adjustment would require a change of at least 1% in the
exercise price then in effect; provided that any such adjustment not so made
will be carried forward and taken into account in any subsequent adjustment;
and provided further that any such adjustment not so made shall be made no
later than three years after the occurrence of the event requiring such
adjustment to be made or carried forward. Except as stated above, the exercise
price of, and the number of shares of common stock covered by, a common stock
warrant will not be adjusted for the issuance of common stock or any securities
convertible into or exchangeable for common stock, or securities carrying the
right to purchase any of the foregoing.
In the case of a reclassification or change of the common stock, a
consolidation or merger involving Sovereign Bancorp or sale or conveyance to
another corporation of the property and assets of Sovereign Bancorp as an
entirety or substantially as an entirety, in each case as a result of which
holders of Sovereign Bancorp's common stock shall be entitled to receive stock,
securities, other property or assets (including cash) with respect to or in
exchange for such common stock, the holders of the common stock warrants then
outstanding will be entitled thereafter to convert such common stock warrants
into the kind and amount of shares of stock and other securities or property
which they would have received upon such reclassification, change,
consolidation, merger, sale or conveyance had such common stock warrants been
exercised immediately prior to such reclassification, change, consolidation,
merger, sale or conveyance.
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STOCK PURCHASE CONTRACTS AND STOCK PURCHASE UNITS
Sovereign Bancorp may issue stock purchase contracts, including contracts
obligating holders to purchase from Sovereign Bancorp, and Sovereign Bancorp to
sell to the holders, a specified number of shares of common stock at a future
date or dates. The consideration per share of common stock may be fixed at the
time the stock purchase contracts are issued or may be determined by reference
to a specific formula described in the stock purchase contracts. Sovereign
Bancorp may issue the stock purchase contracts separately or as a part of stock
purchase units consisting of a stock purchase contract and one or more shares
of Sovereign Bancorp common stock, preferred stock or fractions thereof or a
debt security or a debt obligation of Sovereign Bancorp or a third party,
including a U.S. Treasury security. Sovereign Bancorp's common stock, preferred
stock or debt securities or the debt obligation of a third party may serve as
collateral to secure the holders' obligations to purchase the shares of common
stock under the stock purchase contracts. The stock purchase contracts may
require Sovereign Bancorp to make periodic payments to the holders of stock
purchase contracts. These payments may be unsecured or prefunded on some basis.
The stock purchase contracts may require holders to secure their obligations in
a specified manner. The applicable prospectus supplement will describe the
specific terms of any stock purchase contracts or stock purchase units.
DESCRIPTION OF CAPITAL SECURITIES
The authorized capital stock of Sovereign Bancorp consists of 400,000,000
shares of common stock, no par value, and 7,500,000 shares of authorized
preferred stock. As of August 31, 1999, there were 180,864,626 shares of
Sovereign Bancorp common stock issued and outstanding and no shares of
preferred stock issued and outstanding. There are no other shares of capital
stock of Sovereign Bancorp authorized, issued or outstanding. Sovereign Bancorp
has no options, warrants, or other rights authorized, issued or outstanding,
other than as described herein under "Shareholder Rights Plan" and options
granted under Sovereign Bancorp's stock option plans or in connection with
pending acquisitions by Sovereign Bancorp.
Common Stock
The holders of Sovereign Bancorp common stock share ratably in dividends
when and if declared by the Sovereign Bancorp Board of Directors from legally
available funds. Declaration and payment of cash dividends by Sovereign Bancorp
depends upon dividend payments by Sovereign Bank, which are Sovereign Bancorp's
primary source of revenue and cash flow. Sovereign Bancorp is a legal entity
separate and distinct from its subsidiaries. Accordingly, the right of
Sovereign Bancorp, and consequently the right of creditors and shareholders of
Sovereign Bancorp, to participate in any distribution of the assets or earnings
of any subsidiary is necessarily subject to the prior claims of creditors of
the subsidiary, except to the extent that claims of Sovereign Bancorp in its
capacity as a creditor may be recognized.
Prior to the issuance of any Sovereign Bancorp preferred stock which
possesses voting rights (see "Preferred Stock" below), the holders of shares of
Sovereign Bancorp common stock will possess exclusive voting rights in
Sovereign Bancorp. Each holder of shares of Sovereign Bancorp common stock has
one vote for each share held on matters upon which shareholders have the right
to vote. Sovereign Bancorp shareholders cannot cumulate votes in the election
of directors.
The holders of Sovereign Bancorp common stock have no preemptive rights to
acquire any additional shares of Sovereign Bancorp. In addition, Sovereign
Bancorp common stock is not subject to redemption.
Sovereign Bancorp's articles of incorporation authorize the Sovereign
Bancorp Board of Directors to issue authorized shares of Sovereign Bancorp
common stock without shareholder approval. Sovereign Bancorp common stock is
included for quotation on the Nasdaq National Market. As a result, in order to
maintain such inclusion, approval of Sovereign Bancorp's shareholders is
required for the issuance of additional shares of Sovereign Bancorp common
stock or securities convertible into Sovereign Bancorp common stock if the
issuance of such securities:
o relates to acquisition of a company and the securities to be issued will
have 20% or more of the voting power outstanding before the issuance;
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o relates to acquisition of a company in which a director, officer or
substantial shareholder of Sovereign Bancorp has a 5% or greater interest
and the issuance of the securities could result in an increase in
outstanding common stock or voting power of 5% or more;
o relates to a transaction, other than a public offering, at a price less
than the greater of book or market value in which the shares issued will
equal 20% or more of the shares of Sovereign Bancorp common stock or 20%
or more of the voting power outstanding before issuance; or
o would result in a change in control of Sovereign Bancorp.
Under Nasdaq National Market rules, shareholders must also approve a stock
option or purchase plan applicable to officers and directors other than a
broadly-based plan in which other security holders of Sovereign Bancorp or
employees of Sovereign Bancorp participate.
In the event of liquidation, dissolution or winding-up of Sovereign
Bancorp, whether voluntary or involuntary, holders of Sovereign Bancorp common
stock share ratably in any of its assets or funds that are available for
distribution to its shareholders after the satisfaction of its liabilities (or
after adequate provision is made therefor) and after payment of any liquidation
preferences of any outstanding Sovereign Bancorp preferred stock.
Preferred Stock
Sovereign Bancorp's Board of Directors is authorized to approve the
issuance of Sovereign Bancorp preferred stock, without any required approval of
shareholders. Sovereign Bancorp's Board determines the rights, qualifications,
restrictions, and limitations on each series of Sovereign Bancorp preferred
stock at the time of issuance. These rights may include rights to participating
dividends, voting and convertibility into shares of Sovereign Bancorp common
stock. Shares of Sovereign Bancorp preferred stock may have dividend,
redemption, voting, and liquidation rights taking priority over Sovereign
Bancorp common stock, and may be convertible into Sovereign Bancorp common
stock.
Shareholder Rights Plan
Sovereign Bancorp maintains a shareholder rights plan designed to protect
shareholders from attempts to acquire control of Sovereign Bancorp at an
inadequate price. Under the shareholder rights plan, each outstanding share of
Sovereign Bancorp common stock has attached to it one right to purchase
one-hundredth of a share of junior participating preferred stock at an initial
exercise price of $40. The rights are not currently exercisable or
transferable, and no separate certificates evidencing such rights will be
distributed, unless certain events occur.
A holder can exercise the rights to purchase shares of the junior
participating preferred stock if a person, group, or other entity acquires or
commences a tender offer or an exchange offer for 9.9% or more of total voting
power. A holder can also exercise if Sovereign Bancorp's board of directors
declares a person or group who has become a beneficial owner of at least 4.9%
of Sovereign Bancorp common stock or total voting power an "adverse person," as
defined in the rights plan.
After the rights become exercisable the rights (other than rights held by
a 9.9% beneficial owner or an "adverse person") generally will entitle the
holders to purchase either Sovereign Bancorp common stock or the common stock
of the potential acquiror, in lieu of the junior participating preferred stock,
at a substantially reduced price.
Sovereign Bancorp can generally redeem the rights at $.001 per right at
any time until the tenth business day following public announcement that a 9.9%
position has been acquired. At any time prior to the date the rights become
nonredeemable, the Sovereign Bancorp board of directors can extend the
redemption period. Rights are not redeemable following an "adverse person"
determination.
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Special Charter and Pennsylvania Corporate Law Provisions
Sovereign Bancorp's articles of incorporation and bylaws contain certain
provisions which may have the effect of deterring or discouraging, among other
things, a nonnegotiated tender or exchange offer for Sovereign Bancorp stock, a
proxy contest for control of Sovereign Bancorp, the assumption of control of
Sovereign Bancorp by a holder of a large block of Sovereign Bancorp stock and
the removal of Sovereign Bancorp's management. These provisions:
o empower the Sovereign Bancorp board of directors, without shareholder
approval, to issue Sovereign Bancorp preferred stock the terms of which,
including voting power, are set by the Sovereign Bancorp board of
directors;
o divide the Sovereign Bancorp board of directors into three classes
serving staggered three-year terms;
o restrict the ability of shareholders to remove directors;
o require that shares with at least 80% of total voting power approve
mergers and other similar transactions with a person or entity holding
stock with more than 5% of Sovereign Bancorp's voting power, if the
transaction is not approved, in advance, by the Sovereign Bancorp board of
directors;
o prohibit shareholders' actions without a meeting;
o require that shares with at least 80%, or in certain instances a
majority, of total voting power approve the repeal or amendment of
Sovereign Bancorp's articles of incorporation;
o require any person who acquires stock of Sovereign Bancorp with voting
power of 25% or more to offer to purchase for cash all remaining shares of
Sovereign Bancorp voting stock at the highest price paid by such person
for shares of Sovereign Bancorp voting stock during the preceding year;
o eliminate cumulative voting in elections of directors;
o require an affirmative vote of at least two-thirds of Sovereign Bancorp's
total voting power in order for shareholders to repeal or amend Sovereign
Bancorp's bylaws;
o require advance notice of nominations for the election of directors and
the presentation of shareholder proposals at meetings of shareholders; and
o provide that officers, directors, employees, agents and persons who own
5% or more of the voting securities of any other corporation or other
entity that owns 662/3% or more of Sovereign Bancorp's outstanding voting
stock cannot constitute a majority of the members of Sovereign Bancorp's
board of directors.
The Pennsylvania Business Corporation Law of 1988 also contains certain
provisions applicable to Sovereign Bancorp which may have the effect of
impeding a change in control of Sovereign Bancorp. These provisions, among
other things:
o require that, following any acquisition of 20% of a public corporation's
voting power, the remaining shareholders have the right to receive payment
for their shares, in cash, from the acquiring person or group in an amount
equal to the "fair value" of the shares, including an increment
representing a proportion of any value payable for control of the
corporation; and
o prohibit for five years, subject to certain exceptions, a "business
combination," which includes a merger or consolidation of the corporation
or a sale, lease or exchange of assets, with a shareholder or group of
shareholders beneficially owning 20% or more of a public corporation's
voting power.
In 1990, Pennsylvania adopted legislation further amending the
Pennsylvania Business Corporation Law of 1988. To the extent applicable to
Sovereign Bancorp at the present time, this legislation generally:
o expands the factors and groups (including shareholders) which the
Sovereign Bancorp board of directors can consider in determining whether a
certain action is in the best interests of the corporation;
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o provides that the Sovereign Bancorp board of directors need not consider
the interests of any particular group as dominant or controlling;
o provides that Sovereign Bancorp's directors, in order to satisfy the
presumption that they have acted in the best interests of the corporation,
need not satisfy any greater obligation or higher burden of proof for
actions relating to an acquisition or potential acquisition of control;
o provides that actions relating to acquisitions of control that are
approved by a majority of "disinterested directors" are presumed to
satisfy the directors' standard, unless it is proven by clear and
convincing evidence that the directors did not assent to such action in
good faith after reasonable investigation; and
o provides that the fiduciary duty of Sovereign Bancorp's directors is
solely to the corporation and may be enforced by the corporation or by a
shareholder in a derivative action, but not by a shareholder directly.
The 1990 amendments to the Pennsylvania Business Corporation Law of 1988
explicitly provide that the fiduciary duty of directors does not require
directors to:
o redeem any rights under, or to modify or render inapplicable, any
shareholder rights plan;
o render inapplicable, or make determinations under, provisions of the
Pennsylvania Business Corporation Law of 1988, relating to control
transactions, business combinations, control share acquisitions or
disgorgement by certain controlling shareholders following attempts to
acquire control; or
o act as the board of directors, a committee of the board or an individual
director solely because of the effect such action might have on an
acquisition or potential or proposed acquisition of control of the
corporation or the consideration that might be offered or paid to
shareholders in such an acquisition.
One of the effects of the 1990 fiduciary duty statutory provisions may be
to make it more difficult for a shareholder to successfully challenge the
actions of the Sovereign Bancorp board of directors in a potential change in
control context. Pennsylvania case law appears to provide that the fiduciary
duty standard under the 1990 amendments to the Pennsylvania Business
Corporation Law of 1988 grants directors the statutory authority to reject or
refuse to consider any potential or proposed acquisition of the corporation.
Sovereign Bancorp opted out of coverage by the "disgorgement" and
"control-share acquisition" statutes included in the 1990 legislation, pursuant
to a bylaw amendment as permitted by the legislation. To the extent applicable
to a Pennsylvania corporation, the "disgorgement" statute generally requires
disgorgement by any person or group who or which has acquired or publicly
disclosed an intent to acquire 20% or more of a corporation's voting power of
any profit realized from the sale of any shares acquired within specified time
periods of such acquisition or disclosure if the shares are sold within
eighteen months thereafter. The "control share acquisition" statute generally
prohibits a person or group who or which exceeds certain stock ownership
thresholds (20%, 331/3% and 50%) for the first time from voting the "control
shares" (i.e., the shares owned in excess of the applicable threshold) unless
voting rights are restored by a vote of disinterested shareholders. As a result
of Sovereign Bancorp's optout from coverage by these statutes, neither the
"disgorgement" nor the "control share acquisition" statute would apply to a
nonnegotiated attempt to acquire control of Sovereign Bancorp, although such an
attempt would still be subject to the special charter and other provisions
described in the preceding paragraphs. Sovereign Bancorp can reverse this
action, and thereby cause the "disgorgement" and "control share acquisition"
statutes to apply to an attempt to acquire control of Sovereign Bancorp, by
means of an amendment to Sovereign Bancorp's bylaws, which could be adopted by
the Board of Directors, without shareholder approval.
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DESCRIPTION OF TRUST PREFERRED SECURITIES AND TRUST GUARANTEES
Trust Preferred Securities
The Declaration pursuant to which each Trust is organized will be replaced
by an Amended and Restated Declaration of Trust (the "Amended Declaration")
which will authorize the trustees (the "Trustees") of such trust to issue on
behalf of such Trust one series of trust preferred securities and one series of
trust common securities (together, the "Trust Securities"). The trust preferred
securities will be issued to the public pursuant to the Registration Statement
of which this prospectus forms a part, and the trust common securities will be
issued directly or indirectly to Sovereign Bancorp.
The trust preferred securities will have such terms, including dividends,
redemption, voting, conversion, liquidation rights and such other preferred,
deferred or other special rights or such restrictions as shall be set forth in
the applicable Declaration or made part of such Declaration by the Trust
Indenture Act. Reference is made to the applicable prospectus supplement
relating to the trust preferred securities of such Trust for specific terms,
including:
o the distinctive designation of trust preferred securities;
o the number of trust preferred securities issued by such Trust;
o the annual dividend rate (or method of determining such rate) for trust
preferred securities issued by such Trust and the date or dates upon which
such dividends shall be payable;
o whether dividends on trust preferred securities issued by such Trust
shall be cumulative, and, in the case of trust preferred securities having
such cumulative dividend rights, the date or dates or method of
determining the date or dates from which dividends on trust preferred
securities issued by such Trust shall be cumulative;
o the amount or amounts which shall be paid out of the assets of such Trust
to the holder of trust preferred securities of such Trust upon voluntary
or involuntary dissolution, winding-up or termination of such Trust;
o the terms and conditions, if any, under which trust preferred securities
of such Trust may be converted into shares of capital stock of Sovereign
Bancorp, including the conversion price per share and the circumstances,
if any, under which any such conversion right shall expire;
o the terms and conditions, if any, upon which the related series of the
applicable debt securities may be distributed to holders of trust
preferred securities of such Trust;
o the obligation, if any, of such Trust to purchase or redeem trust
preferred securities issued by such Trust and the price or prices at
which, the period or periods within which, and the terms and conditions
upon which trust preferred securities issued by such Trust shall be
purchased or redeemed, in whole or in part, pursuant to such obligation;
o the voting rights, if any, of trust preferred securities issued by such
Trust in addition to those required by law, including the number of votes
per trust preferred security and any requirement for the approval by the
holders of trust preferred securities, or of trust preferred securities
issued by such Trust, as a condition to specified action or amendments to
the Declaration of such Trust; and
o any other relevant rights, preferences, privileges, limitations or
restrictions of trust preferred securities issued by such Trust consistent
with the Declaration of such Trust or with applicable law.
Pursuant to each Declaration, the Property Trustee will own the debt
securities purchased by the applicable Trust for the benefit of the holders of
the trust preferred securities. The payment of dividends out of money held by
the Trusts, and payments upon redemption of trust preferred securities or
liquidation of any Trust, will be guaranteed by Sovereign Bancorp to the extent
described under "-- Trust Guarantees."
Certain federal income tax considerations applicable to an investment in
trust preferred securities will be described in the prospectus supplement
relating thereto.
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In connection with the issuance of trust preferred securities, each Trust
will also issue one series of trust common securities. Each Amended Declaration
will authorize the Regular Trustee of a Trust to issue on behalf of such Trust
one series of trust common securities having such terms, including dividends,
conversion, redemption, voting, liquidation rights or such restrictions as
shall be set forth therein. Except as otherwise provided in the prospectus
supplement relating to the trust preferred securities, the terms of the trust
common securities issued by such Trust will be substantially identical to the
terms of the trust preferred securities issued by such Trust, and the trust
common securities will rank on a parity, and payments will be made thereon pro
rata, with the trust preferred securities except that, upon an event of default
under the applicable Declaration, the rights of the holders of the trust common
securities to payment in respect of dividends and payments upon liquidation,
redemption and otherwise will be subordinated to the rights of the holders of
the trust preferred securities. Except in certain limited circumstances, the
trust common securities will also carry the right to vote and appoint, remove
or replace any of the Trustees of the related Trust which issued such trust
common securities. All of the trust common securities of each Trust will be
directly or indirectly owned by Sovereign Bancorp.
The Property Trustee and its affiliates may provide customary commercial
banking services to Sovereign Bancorp and certain of its subsidiaries and may
participate in various financing agreements of Sovereign Bancorp in the
ordinary course of their business.
Trust Guarantees
Set forth below is a summary of information concerning the trust
guarantees which will be executed and delivered by Sovereign Bancorp, from time
to time, for the benefit of the holders of trust preferred securities. The
accompanying prospectus supplement will describe any significant differences
between the actual terms of the trust guarantees and the summary below. The
following summary does not purport to be complete and is subject in all
respects to the provisions of, and is qualified in its entirety by reference
to, the trust guarantee, which will be filed with the Commission and
incorporated by reference as an exhibit to the Registration Statement of which
this prospectus forms a part.
General. Sovereign Bancorp will irrevocably and unconditionally agree, to
the extent set forth in the trust guarantees, to pay in full, to the holders of
trust preferred securities of each series, the Trust Guarantee Payments (as
defined below) (except to the extent paid by such Trust), as and when due,
regardless of any defense, right of set-off, or counterclaim which such Trust
may have or assert. The following payments with respect to any series of trust
preferred securities to the extent not paid by the applicable Trust (the "Trust
Guarantee Payments") will be subject to the trust guarantees (without
duplication):
o any accrued and unpaid dividends which are required to be paid on the
trust preferred securities of such series, to the extent such Trust shall
have funds legally available therefor;
o the redemption price, including all accrued and unpaid dividends (the
"Redemption Price"), payable out of funds legally available therefor, with
respect to any trust preferred securities called for redemption by such
Trust; and
o upon a liquidation of such Trust (other than in connection with the
distribution of debt securities to the holders of trust preferred
securities or the redemption of all of the trust preferred securities
issued by such Trust), the lesser of (a) the aggregate of the liquidation
preference and all accrued and unpaid dividends on the trust preferred
securities of such series to the date of payment and (b) the amount of
assets of such Trust remaining available for distribution to holders of
trust preferred securities of such series in liquidation of such Trust.
Sovereign Bancorp's obligation to make a Trust Guarantee Payment may be
satisfied by direct payment of the required amounts by Sovereign Bancorp to the
holders of trust preferred securities or by causing the applicable Trust to pay
such amounts to such holders.
Covenants of Sovereign Bancorp. In each trust guarantee, except as may be
provided in an applicable prospectus supplement, Sovereign Bancorp will
covenant that, so long as any trust preferred securities issued by the
applicable Trust remain outstanding, if there shall have occurred any event
that would constitute an event of default under such trust guarantee or the
Declaration of such Trust, then:
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o Sovereign Bancorp shall not declare or pay any dividend on, make any
distributions with respect to, or redeem, purchase or make a liquidation
payment with respect to, any of its common stock other than:
o purchases or acquisitions of shares of common stock in connection with
the satisfaction by Sovereign Bancorp of its obligations under any
employee benefit plan;
o as a result of a reclassification of Sovereign Bancorp common stock or
the exchange or conversion of one class or series of Sovereign
Bancorp's common stock for another class or series of Sovereign
Bancorp's common stock;
o the purchase of fractional interests in shares of Sovereign Bancorp's
common stock pursuant to the conversion or exchange provisions of such
common stock of Sovereign Bancorp or the security being converted or
exchanged; or
o purchases or acquisitions of shares of common stock to be used in
connection with acquisitions of common stock by shareholders pursuant
to Sovereign Bancorp's dividend reinvestment plan, or make any
guarantee payments with respect to the foregoing; and
o Sovereign Bancorp shall not make any payment of principal or premium, if
any, on or repurchase any debt securities (including guarantees), other
than at stated maturity issued by Sovereign Bancorp which rank on a parity
with or junior to such debt securities.
Amendment and Assignment. Except with respect to any changes which do not
adversely affect the rights of holders of trust preferred securities of any
series (in which case no vote will be required), each trust guarantee with
respect to any series of trust preferred securities may be changed only with
the prior approval of the holders of not less than a majority in liquidation
preference of the outstanding trust preferred securities of such series. The
manner of obtaining any such approval of holders of the trust preferred
securities of each series will be set forth in an accompanying prospectus
supplement. All guarantees and agreements contained in each trust guarantee
shall bind the successors, assigns, receivers, trustees and representatives of
Sovereign Bancorp and shall inure to the benefit of the holders of the
applicable series of trust preferred securities then outstanding.
Termination of the Trust Guarantees. Each trust guarantee will terminate
as to the trust preferred securities issued by the applicable Trust:
o upon full payment of the Redemption Price of all trust preferred
securities of such Trust;
o upon distribution of the applicable debt securities held by such Trust to
the holders of the trust preferred securities of such Trust; or
o upon full payment of the amounts payable in accordance with the
Declaration upon liquidation of such Trust. Each trust guarantee will
continue to be effective or will be reinstated, as the case may be, if at
any time any holder of trust preferred securities issued by the applicable
Trust must return payment of any sums paid under such trust preferred
securities or such trust guarantee.
The subordination provisions of the applicable debt securities and the
trust guarantees, respectively, may provide that in the event payment is made
on debt securities or the trust guarantees in contravention of such provisions,
such payments will be paid over to the holders of senior debt.
Ranking of the Trust Guarantees. Unless otherwise specified in a
prospectus supplement, each trust guarantee will constitute an unsecured
obligation of Sovereign Bancorp and will rank:
o subordinate and junior in right of payment to all other liabilities of
Sovereign Bancorp;
o on a parity with the most senior preferred or preference stock, if any,
hereafter issued by Sovereign Bancorp and with any guarantee hereafter
entered into by Sovereign Bancorp in respect of any preferred or
preference stock or interests of any affiliate of Sovereign Bancorp; and
o senior to Sovereign Bancorp's common stock.
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Each Declaration will provide that each holder of trust preferred
securities by acceptance thereof agrees to the subordination provisions and
other terms of the applicable trust guarantee.
Each trust guarantee will constitute a guarantee of payment and not of
collection. The trust guarantees will be deposited with the Property Trustee to
be held for the benefit of any series of trust preferred securities. The
Property Trustee will have the right to enforce the trust guarantees on behalf
of the holders of any series of trust preferred securities. The holders of not
less than 10% in aggregate liquidation preference of a series of trust
preferred securities will have the right to direct the time, method and place
of conducting any proceeding for any remedy available in respect of the trust
guarantee applicable to such series of trust preferred securities, including
the giving of directions to the Property Trustee. If the Property Trustee fails
to enforce a trust guarantee as above provided, any holder of trust preferred
securities of a series to which such trust guarantee pertains may institute a
legal proceeding directly against Sovereign to enforce its rights under such
trust guarantee, without first instituting a legal proceeding against the
applicable Trust, or any other person or entity. Each trust guarantee will not
be discharged except by payment of the Trust Guarantee Payments in full to the
extent not paid by the applicable Trust, and by complete performance of all
obligations under such trust guarantee.
Governing Law. Each trust guarantee will be governed by and construed in
accordance with the laws of the State of New York.
CERTAIN TAX CONSIDERATIONS
The applicable prospectus supplement with respect to each type of security
issued under this registration statement may contain a discussion of certain
tax consequences of an investment in the securities offered thereby.
PLAN OF DISTRIBUTION
Sovereign Bancorp or the Trusts may offer the offered securities in one or
more of the following ways from time to time:
o to or through underwriters or dealers;
o by itself directly;
o through agents; or
o through a combination of any of these methods of sale.
The prospectus supplement relating to an offering of offered securities
will set forth the terms of such offering, including:
o the name or names of any underwriters, dealers or agents;
o the purchase price of the offered securities and the proceeds to
Sovereign Bancorp or the Trusts from such sale;
o any underwriting discounts and commissions or agency fees and other items
constituting underwriters' or agents' compensation;
o the initial public offering price;
o any discounts or concessions to be allowed or reallowed or paid to
dealers; and
o any securities exchanges on which such offered securities may be listed.
Any initial public offering prices, discounts or concessions allowed or
reallowed or paid to dealers may be changed from time to time.
If underwriters are used in an offering of offered securities, such
offered securities will be acquired by the underwriters for their own account
and may be resold from time to time in one or more transactions, including
negotiated transactions, at a fixed public offering price or at varying prices
determined at the time of
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sale. The securities may be either offered to the public through underwriting
syndicates represented by one or more managing underwriters or by one or more
underwriters without a syndicate. Unless otherwise set forth in the prospectus
supplement, the underwriters will not be obligated to purchase offered
securities unless specified conditions are satisfied, and if the underwriters
do purchase any offered securities, they will purchase all offered securities.
In connection with underwritten offerings of the offered securities and in
accordance with applicable law and industry practice, underwriters may
over-allot or effect transactions that stabilize, maintain or otherwise affect
the market price of the offered securities at levels above those that might
otherwise prevail in the open market, including by entering stabilizing bids,
effecting syndicate covering transactions or imposing penalty bids, each of
which is described below.
o A stabilizing bid means the placing of any bid, or the effecting of any
purchase, for the purpose of pegging, fixing or maintaining the price of a
security.
o A syndicate covering transaction means the placing of any bid on behalf
of the underwriting syndicate or the effecting of any purchase to reduce a
short position created in connection with the offering.
o A penalty bid means an arrangement that permits the managing underwriter
to reclaim a selling concession from a syndicate member in connection with
the offering when offered securities originally sold by the syndicate
member are purchased in syndicate covering transactions.
These transactions may be effected through the Nasdaq National Market
system, or otherwise. Underwriters are not required to engage in any of these
activities, or to continue such activities if commenced.
If dealers are utilized in the sale of offered securities, Sovereign
Bancorp or the Trusts will sell such offered securities to the dealers as
principals. The dealers may then resell such offered securities to the public
at varying prices to be determined by such dealers at the time of resale. The
names of the dealers and the terms of the transaction will be set forth in the
prospectus supplement relating to that transaction.
Offered securities may be sold directly by Sovereign Bancorp or the Trusts
to one or more institutional purchasers, or through agents designated by
Sovereign Bancorp or the Trusts from time to time, at a fixed price or prices,
which may be changed, or at varying prices determined at the time of sale. Any
agent involved in the offer or sale of the offered securities in respect of
which this prospectus is delivered will be named, and any commissions payable
by Sovereign Bancorp to such agent will be set forth, in the prospectus
supplement relating to that offering. Unless otherwise indicated in such
prospectus supplement, any such agent will be acting on a best efforts basis
for the period of its appointment.
If so indicated in the applicable prospectus supplement, Sovereign Bancorp
or the Trusts will authorize agents, underwriters or dealers to solicit offers
from certain types of institutions to purchase offered securities from
Sovereign Bancorp or the Trusts at the public offering price set forth in such
prospectus supplement pursuant to delayed delivery contracts providing for
payment and delivery on a specified date in the future. Such contracts will be
subject only to those conditions set forth in the prospectus supplement and the
prospectus supplement will set forth the commission payable for solicitation of
such contracts.
Underwriters, dealers and agents may be entitled, under agreements with
Sovereign Bancorp, to indemnification by Sovereign Bancorp relating to material
misstatements and omissions. Underwriters, dealers and agents may be customers
of, engage in transactions with, or perform services for, Sovereign Bancorp and
affiliates of Sovereign Bancorp in the ordinary course of business.
Each series of offered securities will be a new issue of securities and
will have no established trading market. Any underwriters to whom offered
securities are sold for public offering and sale may make a market in such
offered securities, but such underwriters will not be obligated to do so and
may discontinue any market making at any time without notice. The offered
securities may or may not be listed on a national securities exchange. No
assurance can be given that there will be a market for the offered securities.
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ERISA CONSIDERATIONS
Sovereign Bancorp has a subsidiary, Manchester Trust Bank, that provides
services to several employee benefit plans. Although the majority of these
plans are employee-directed 401(k) plans, Sovereign Bancorp and any direct or
indirect subsidiary of Sovereign Bancorp may each be considered a "party in
interest" within the meaning of the Employee Retirement Income Security Act of
1974, and a "disqualified person" under corresponding provisions of the
Internal Revenue Code of 1986, relating to some of these employee benefit
plans. "Prohibited transactions" within the meaning of ERISA and the Code may
result if any offered securities are acquired by an employee benefit plan to
which Sovereign Bancorp or any direct or indirect subsidiary of Sovereign
Bancorp is a party in interest, unless such offered securities are acquired
pursuant to an applicable exemption issued by the U.S. Department of Labor. Any
employee benefit plan or other entity to which such provisions of ERISA or the
Code apply proposing to acquire the offered securities should consult with its
legal counsel.
LEGAL MATTERS
Stevens & Lee, P.C., Philadelphia, Pennsylvania, will act as legal counsel
to Sovereign Bancorp and will pass upon the validity of any securities offered
by this prospectus and any applicable prospectus supplement. Joseph E. Lewis, a
director of Sovereign Bank, is a principal of the firm of Stevens & Lee.
Stevens & Lee and its attorneys own an aggregate of approximately 300,000
shares of Sovereign Bancorp common stock, including shares issuable upon the
exercise of options issued to Mr. Lewis in his capacity as director of
Sovereign Bank. Counsel identified in the applicable prospectus supplement will
act as legal counsel to the underwriters.
EXPERTS
The consolidated financial statements of Sovereign Bancorp, at December
31, 1998 and 1997 and for each of the three years in the period ended December
31, 1998, included in Sovereign Bancorp's Annual Report on Form 10-K for the
year ended December 31, 1998, as amended, have been audited by Ernst & Young
LLP, independent auditors, as set forth in their report thereon included
therein and incorporated herein by reference which, as to the years 1997 and
1996, is based in part on the reports of KPMG LLP with respect to ML Bancorp,
Inc., First State Financial Services, Inc. and Bankers Corp., Arthur Andersen
LLP with respect to First Home Bancorp Inc. and PriceWaterhouseCoopers LLP with
respect to Carnegie Bancorp, Inc., independent auditors. The consolidated
financial statements referred to above are in reliance upon such reports given
on the authority of such firms as experts in accounting and auditing.
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[GRAPHIC OMITTED]
<PAGE>
$700,000,000
[GRAPHIC OMITTED]
$200,000,000 101/4% Senior Notes due 2004
$500,000,000 101/2% Senior Notes due 2006
---------
PROSPECTUS
September 30, 1999
and
PROSPECTUS SUPPLEMENT
November 9, 1999
---------
SALOMON SMITH BARNEY
LEHMAN BROTHERS
