<PAGE>
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly period ended September 30, 1996
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Transition period from _____ to _____
Commission File Number 0-26996
INVESTORS FINANCIAL SERVICES CORP.
(Exact name of registrant as specified in its charter)
DELAWARE 04-3279817
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
89 SOUTH STREET, P.O. BOX 1537, BOSTON, MA 02205-1537
(Address of principal executive offices, including Zip Code)
(617) 330-6700
(Registrant's telephone number, including area code)
____________________________
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. YES X NO
--- ---
As of October 31, 1996, there were 6,027,872 shares of Common Stock
outstanding and 416,440 shares of Class A Common Stock outstanding.
- --------------------------------------------------------------------------------
<PAGE>
INVESTORS FINANCIAL SERVICES CORP.
INDEX
-----
<TABLE>
<CAPTION>
PART I FINANCIAL INFORMATION Page
----
<S> <C>
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Balance Sheets (unaudited)
December 31, 1995 and September 30, 1996 3
Consolidated Income Statements (unaudited)
Nine months ended September 30, 1995 and 1996 4
Consolidated Income Statements (unaudited)
Three months ended September 30, 1995 and 1996 5
Statements of Stockholder's Equity (unaudited)
Nine months ended September 30, 1996 6
Consolidated Statements of Cash Flows (unaudited)
Nine months ended September 30, 1995 and 1996 7
Notes to Condensed Consolidated Financial Statements 8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS 16
PART II OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 31
SIGNATURES 32
</TABLE>
2
<PAGE>
INVESTORS FINANCIAL SERVICES CORP.
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
DECEMBER 31, 1995 AND SEPTEMBER 30, 1996
- -----------------------------------------------------------------------
<TABLE>
<CAPTION>
ASSETS DECEMBER 31, SEPTEMBER 30,
1995 1996
<S> <C> <C>
Cash and due from banks $ 21,898,903 $ 7,833,975
Time deposits due from banks 1,000,000 -
Federal funds sold 15,000,000 94,000,000
Securities held to maturity
(approximate market values of
$155,685,959 and $376,956,153 at
December 31, 1995
and September 30, 1996, respectively) 154,123,901 379,448,852
Securities available for sale 90,819,293 232,492,592
Loans, less allowance for loan losses
of $35,000 and $84,114 at December 31,
1995 and September 30, 1996,
respectively 22,864,216 43,717,369
Accrued interest and fees receivable 10,440,758 16,307,036
Equipment and leasehold improvements,
net 3,525,581 5,140,247
Other assets 2,763,661 4,272,260
------------ ------------
TOTAL ASSETS $322,436,313 $783,212,331
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES:
Deposits:
Demand $122,907,489 $411,063,944
Savings 21,085,503 22,597,554
Time 45,000,000 55,000,000
------------ ------------
Total deposits 188,992,992 488,661,498
Securities sold under repurchase
agreements 74,401,454 224,626,676
Other liabilities 5,620,936 10,540,453
------------ ------------
Total liabilities 269,015,382 723,828,627
------------ ------------
STOCKHOLDERS' EQUITY:
Class A common stock 5,935 4,202
Common stock 58,505 60,241
Surplus 54,312,474 54,352,812
Deferred compensation (2,117,787) (1,797,400)
Retained earnings 899,794 6,259,463
Net unrealized gain on securities
available for sale 262,010 504,386
------------ ------------
Total stockholders' equity 53,420,931 59,383,704
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS'
EQUITY $322,436,313 $783,212,331
============ ============
</TABLE>
See notes to consolidated financial statements.
3
<PAGE>
<TABLE>
<CAPTION>
INVESTORS FINANCIAL SERVICES CORP.
CONSOLIDATED INCOME STATEMENTS (UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30, 1995 AND 1996
- -----------------------------------------------------------------------------------------
SEPTEMBER 30, SEPTEMBER 30,
1995 1996
<S> <C> <C>
OPERATING REVENUE:
Interest income:
Federal funds sold $ 261,091 $ 967,562
Other short-term investments 44,340 6,448
Securities held to maturity and available for sale 3,708,320 21,727,649
Loans 908,732 1,589,761
----------- -----------
Total interest income 4,922,483 24,291,420
----------- -----------
Interest expense:
Deposits 508,138 5,565,501
Securities sold under repurchase agreements - 5,691,253
Federal funds purchased 69,644 322,019
Treasury, tax and loan account 17,044 10,885
----------- -----------
Total interest expense 594,826 11,589,658
----------- -----------
Net interest income 4,327,657 12,701,762
Provision for loan losses - 49,114
----------- -----------
Net interest income after provision for
loan losses 4,327,657 12,652,648
Noninterest income:
Asset administration fees 36,700,881 40,661,709
Proceeds from assignment of UIT servicing, net 2,572,298 -
Computer service fees 375,633 365,462
Other operating income 54,982 57,065
Net loss on securities available for sale - (8,421)
----------- -----------
Net operating revenue 44,031,451 53,728,463
OPERATING EXPENSES
Compensation of officers and employees 20,707,192 23,436,228
Pension and other employee benefits 3,556,457 3,904,890
Occupancy 3,199,074 3,242,658
Equipment 3,622,101 3,991,122
Insurance 796,969 745,704
Subcustodian fees 1,410,508 2,929,870
Depreciation and amortization 1,090,549 1,095,115
Professional fees 1,153,978 1,626,804
Travel and sales promotion 558,514 698,966
Other operating expenses 2,391,133 3,135,558
----------- -----------
Total operating expenses 38,486,475 44,806,915
----------- -----------
INCOME BEFORE INCOME TAXES 5,544,976 8,921,548
INCOME TAXES 2,152,596 3,432,996
----------- -----------
NET INCOME $ 3,392,380 $ 5,488,552
=========== ===========
WEIGHTED AVERAGE SHARES OUTSTANDING 6,467,743
===========
EARNINGS PER SHARE $ 0.85
===========
</TABLE>
See notes to consolidated financial statements.
4
<PAGE>
INVESTORS FINANCIAL SERVICES CORP.
CONSOLIDATED INCOME STATEMENTS (UNAUDITED)
THREE MONTHS ENDED SEPTEMBER 30, 1995 AND 1996
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------
SEPTEMBER 30, SEPTEMBER 30,
1995 1996
<S> <C> <C>
OPERATING REVENUE:
Interest income:
Federal funds sold $ 131,199 $ 303,535
Other short-term investments 15,675 -
Securities held to maturity and available for sale 1,363,701 9,465,012
Loans 295,542 591,833
----------- -----------
Total interest income 1,806,117 10,360,380
----------- -----------
Interest expense:
Deposits 151,284 2,495,044
Securities sold under repurchase agreements - 2,995,597
Federal funds purchased 13,817 168,418
Treasury, tax and loan account 5,520 3,392
----------- -----------
Total interest expense 170,621 5,662,451
----------- -----------
Net interest income 1,635,496 4,697,929
Provision for loan losses - -
----------- -----------
Net interest income after provision
for loan losses 1,635,496 4,697,929
Noninterest income:
Asset administration fees 12,014,759 13,909,339
Proceeds from assignment of UIT servicing, net - -
Computer service fees 125,615 118,852
Other operating income 18,499 20,781
Net loss on securities available for sale - (14,694)
----------- -----------
Net operating revenue 13,794,369 18,732,207
OPERATING EXPENSES:
Compensation of officers and employees 6,834,587 8,146,583
Pension and other employee benefits 1,108,546 1,327,020
Occupancy 967,838 1,028,716
Equipment 1,178,829 1,355,353
Insurance 261,149 157,682
Subcustodian fees 409,570 1,119,971
Depreciation and amortization 335,014 402,594
Professional fees 316,325 597,387
Travel and sales promotion 150,442 205,779
Other operating expenses 874,362 1,036,220
----------- -----------
Total operating expenses 12,436,662 15,377,305
----------- -----------
INCOME BEFORE INCOME TAXES 1,357,707 3,354,902
INCOME TAXES 477,404 1,289,904
----------- ----------
NET INCOME $ 880,303 $ 2,064,998
=========== ===========
WEIGHTED AVERAGE SHARES OUTSTANDING $ 6,471,069
============
EARNINGS PER SHARE $0.32
============
</TABLE>
See notes to consolidated financial statements.
5
<PAGE>
INVESTORS FINANCIAL SERVICES CORP.
STATEMENTS OF STOCKHOLDERS' EQUITY (UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30, 1996
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------
CLASS A
COMMON COMMON DEFERRED RETAINED
STOCK STOCK SURPLUS COMPENSATION EARNINGS
<S> <C> <C> <C> <C> <C>
BALANCE, DECEMBER 31, 1995 5,935 58,505 54,312,474 (2,117,787) 899,794
Adjustment to costs of stock issuance - - 35,193 - -
Conversion of class A to common stock (1,733) 1,733 - - -
Amortization of deferred compensation - - - 320,387
Exercise of stock options 3 5,145
Net income - - - 5,488,552
Payment of dividend (128,883)
Change in net unrealized gain on
securities available for sale - -
--------- ------- ----------- ----------- ----------
BALANCE, SEPTEMBER 30, 1996 $ 4,202 $60,241 $54,352,812 $(1,797,400) $6,259,463
========= ======= =========== =========== ==========
</TABLE>
<TABLE>
<CAPTION>
NET
UNREALIZED
GAIN ON
INVESTMENT
SECURITIES
AVAILABLE
FOR SALE TOTAL
<S> <C> <C>
BALANCE, DECEMBER 31, 1995 262,010 53,420,931
Adjustment to costs of stock issuance - 35,193
Conversion of class A to common stock - -
Amortization of deferred compensation 320,387
Exercise of stock options 5,148
Net income 5,488,552
Payment of dividend (128,883)
Change in net unrealized gain on
securities available for sale 242,376 242,376
----------- ------------
BALANCE, SEPTEMBER 30, 1996 $504,386 $59,383,704
=========== ============
</TABLE>
See notes to consolidated financial statements
6
<PAGE>
INVESTORS FINANCIAL SERVICES CORP.
CONSOLIDATED STATEMENTS OF CASH FLOW (UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30, 1995 AND 1996
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
SEPTEMBER 30, SEPTEMBER 30,
1995 1996
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 3,392,380 $ 5,488,552
------------- --------------
Adjustments to reconcile net income to
net cash provided by
operating activities:
Depreciation and amortization 1,090,549 1,095,115
Amortization of deferred compensation - 320,387
Provision for loan losses - 49,114
Amortization of premiums on securities, 526,346 1,779,230
net of accretion of discounts
Gain on sale of securities available - 8,421
for sale
Loss on disposal of fixed assets - 15,211
Deferred income taxes - (161,584)
Adjustment to carrying value of 1,057,700 -
interest rate floor contracts
Changes in assets and liabilities:
Accrued interest and fees receivable 310,248 (5,866,278)
Other assets 12,461 (1,508,599)
Other liabilities 3,907,996 4,919,517
------------- --------------
Total adjustments 6,905,300 650,534
------------- --------------
Net cash provided by operating 10,297,680 6,139,087
activities
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from maturities of securities
available for sale and securities held
to maturity 16,927,777 55,894,257
Proceeds from sale of securities
available for sale - 20,077,388
Purchases of securities (40,735,697) (444,353,586)
Net (increase) decrease in time (40,575) 1,000,000
deposits due from banks
Net increase in federal funds sold - (79,000,000)
Net (increase) decrease in loans 2,213,636 (20,902,267)
Purchases of equipment (1,047,133) (2,724,992)
------------- --------------
Net cash used for investing
activities (22,681,992) (470,009,200)
------------- --------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase in demand deposits 373,500 288,156,455
Net increase in time and savings
deposits 12,321,605 11,512,051
Net increase in securities sold under
repurchase agreements - 150,225,222
Adjustment to costs of stock issuance - 35,193
Proceeds from exercise of stock options - 5,148
Dividends paid - (128,883)
------------- -------------
Net cash provided by financing
activities 12,695,105 449,805,186
------------- -------------
NET INCREASE (DECREASE) IN CASH AND DUE
FROM BANKS 310,793 (14,064,928)
CASH AND DUE FROM BANKS, BEGINNING OF
PERIOD 7,207,657 21,898,903
------------- -------------
CASH AND DUE FROM BANKS, END OF PERIOD $ 7,518,450 $ 7,833,975
============= =============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION:
Cash paid for interest $ 617,000 $ 11,012,000
============= =============
Cash paid for income taxes $ 2,334,000 $ 3,818,000
============= =============
</TABLE>
See notes to consolidated financial statements.
7
<PAGE>
INVESTORS FINANCIAL SERVICES CORP.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(INFORMATION PERTAINING TO THE NINE MONTHS AND THE THREE MONTHS ENDED
SEPTEMBER 30, 1995 AND 1996 IS UNAUDITED)
1. DESCRIPTION OF BUSINESS
Investors Financial Services Corp. ("IFSC") provides asset administration
services for the financial services industry through its wholly owned
subsidiary, Investors Bank & Trust Company (the "Bank"). The Bank
provides domestic and global custody, multicurrency accounting,
institutional transfer agency, performance measurement, foreign exchange,
securities lending, and mutual fund administration services to a variety
of financial asset managers, including mutual fund complexes, investment
advisors, banks and insurance companies. IFSC and the Bank are subject
to regulation by the Federal Reserve Board of Governors, the Office of
the Commissioner of Banks of the Commonwealth of Massachusetts and the
Federal Deposit Insurance Corporation.
As used herein, the defined term "the Company" shall mean IFSC together
with the Bank from the date of the share exchange discussed below and
shall mean the Bank prior to that date.
On November 8, 1995, the business operations of the Company were
separated from its former parent, Eaton Vance Corp. ("EVC"), by means of
a tax-free, pro rata distribution of EVC's ownership interest in the
Company to the EVC stockholders (the "Spin-off Transaction"). Immediately
prior to the Spin-off Transaction, all of the stockholders of the Bank
exchanged their 1,000,000 shares of the Bank's common stock for a
combination of 3,418,573 shares of Common Stock and 611,427 shares of
Class A Common Stock ("Class A Stock") of a newly formed bank holding
company formed for the purpose of facilitating the Spin-off Transaction.
For financial reporting purposes, the exchange has been accounted for as
if it occurred on November 1, 1995. Subsequent to the completion of the
Spin-off Transaction, IFSC sold 2,300,000 additional shares of its Common
Stock in an initial public offering at an offering price of $16.50 per
share. The net effect of this transaction was an increase in the
Company's consolidated capital of approximately $34,000,000.
In December 1995, the Company changed its fiscal year end from October 31
to December 31.
2. INTERIM FINANCIAL STATEMENTS
The consolidated interim financial statements of the Company and
consolidated subsidiaries as of September 30, 1996 and for the nine-month
periods and the three-month periods ended September 30, 1995 and 1996,
have been prepared by the Company, without audit, pursuant to the rules
and regulations of the Securities and Exchange Commission. Certain
information and footnote disclosures normally included in annual
financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted as permitted by such
rules and regulations. All adjustments, consisting of normal recurring
adjustments, have been included. Management believes that the
disclosures are adequate to present fairly the financial position,
results of operations and cash flows at the dates and for the periods
presented. It is suggested that these interim financial statements be
read in conjunction with the financial statements and the notes thereto
included in the Company's latest annual report on Form 10-K. Results for
interim periods are not necessarily indicative of those to be expected
for the full fiscal year.
Certain amounts from the prior year have been reclassified to conform to
current year presentation.
8
<PAGE>
3. SECURITIES
Carrying amounts and approximate market values of securities are
summarized as follows as of December 31, 1995:
<TABLE>
<CAPTION>
CARRYING UNREALIZED UNREALIZED APPROXIMATE
HELD TO MATURITY VALUE GAINS LOSSES MARKET VALUE
<S> <C> <C> <C> <C>
Mortgage-backed securities $144,123,901 $1,562,732 $117,924 $145,568,709
Federal Agency securities 10,000,000 117,250 - 10,117,250
Foreign government securities - - - -
------------ ---------- -------- ------------
Total $154,123,901 $1,679,982 $117,924 $155,685,959
============ ========== ======== ============
AMORTIZED UNREALIZED UNREALIZED CARRYING
AVAILABLE FOR SALE COST GAINS LOSSES VALUE
U.S. Treasury securities $ 50,312,501 $ 346,672 $ 6,673 $ 50,652,500
Mortgage-backed securities 40,070,111 117,667 20,985 40,166,793
------------ ---------- -------- ------------
Total $ 90,382,612 $ 464,339 $ 27,658 $ 90,819,293
============ ========== ======== ============
</TABLE>
Carrying amounts and approximate market values of securities are summarized as
follows as of September 30, 1996:
<TABLE>
<CAPTION>
CARRYING UNREALIZED UNREALIZED APPROXIMATE
HELD TO MATURITY VALUE GAINS LOSSES MARKET VALUE
<S> <C> <C> <C> <C>
Mortgage-backed securities $351,606,476 $1,135,538 $3,323,336 $349,418,678
Federal Agency securities 20,000,000 - 318,800 19,681,200
Foreign government securities 7,842,376 13,899 - 7,856,275
------------ ---------- ---------- ------------
Total $379,448,852 $1,149,437 $3,642,136 $376,956,153
============ ========== ========== ============
AMORTIZED UNREALIZED UNREALIZED CARRYING
AVAILABLE FOR SALE COST GAINS LOSSES VALUE
U.S. Treasury securities $ 45,154,595 $ 111,579 $ 20,124 $ 45,246,050
Mortgage-backed securities 186,497,354 864,503 115,315 187,246,542
------------ ---------- ---------- ------------
Total $231,651,949 $ 976,082 $ 135,439 $232,492,592
============ ========== ========== ============
</TABLE>
9
<PAGE>
3. SECURITIES (CONTINUED)
The carrying amounts and approximate market values of securities by effective
maturity are as follows:
<TABLE>
<CAPTION>
DECEMBER 31, 1995 SEPTEMBER 30, 1996
CARRYING APPROXIMATE CARRYING APPROXIMATE
HELD TO MATURITY VALUE MARKET VALUE VALUE MARKET VALUE
<S> <C> <C> <C> <C>
Due within one year $ - $ - $ 10,000,000 $ 9,765,600
Due from one to five years 79,803,891 80,885,330 100,256,004 98,886,233
Due five years up to ten years 68,228,986 68,639,409 222,266,583 220,699,144
Due after ten years 6,091,024 6,161,220 46,926,265 47,605,176
------------ ------------ ------------ ------------
Total $154,123,901 $155,685,959 $379,448,852 $376,956,153
============ ============ ============ ============
DECEMBER 31, 1995 SEPTEMBER 30, 1996
AMORTIZED CARRYING AMORTIZED CARRYING
AVAILABLE FOR SALE COST VALUE COST VALUE
Due within one year $ 25,240,028 $ 25,263,000 $ 20,014,388 $ 20,065,600
Due from one to five years 58,395,211 58,791,503 196,246,540 196,925,414
Due five years up to ten years 6,747,373 6,764,790 15,391,021 15,501,578
------------ ------------ ------------ ------------
Total $ 90,382,612 $ 90,819,293 $232,651,949 $232,492,592
============ ============ ============ ============
</TABLE>
The maturity distributions of mortgage-backed securities have been allocated
over maturity groupings based upon actual pre-payments to date and
anticipated pre-payments based upon historical experience.
Three securities available for sale were sold during the nine months ended
September 30, 1996 resulting in net losses totaling $8,421.
The carrying value of securities pledged amounted to approximately
$206,000,000 and $291,000,000 at December 31, 1995 and September 30, 1996,
respectively. Securities are pledged primarily to secure public funds and
clearings with other depository institutions.
4. LOANS
Loans consist of demand loans with individuals and not-for-profit
institutions located in the greater Boston, Massachusetts metropolitan area
and loans to mutual fund clients. The loans to mutual funds include advances
pursuant to the terms of the custody agreements between the Company and those
mutual fund clients to facilitate securities transactions and redemptions.
The loans are generally collateralized with marketable securities. There were
no impaired or nonperforming loans at December 31, 1995 or September 30,
1996. In addition, there have been no loan charge-offs or recoveries during
the nine months ended September 30, 1995 and 1996. Loans consisted of the
following at December 31, 1995 and September 30, 1996:
10
<PAGE>
4. LOANS (CONTINUED)
<TABLE>
DECEMBER 31, SEPTEMBER 30,
1995 1996
<S> <C> <C> <C>
Loans to individuals $12,610,018 $18,433,399
Loans to not-for-profit institutions 289,198 12,500
Loans to mutual funds 10,000,000 25,355,584
----------- -----------
22,899,216 43,801,483
Less allowance for loan losses 35,000 84,114
----------- -----------
Total $22,864,216 $43,717,369
=========== ===========
</TABLE>
The Company had commitments to lend of approximately $1,708,000 and
$35,475,388 at December 31, 1995 and September 30, 1996, respectively. The
terms of these commitments are similar to the terms of outstanding loans.
5. EQUIPMENT AND LEASEHOLD IMPROVEMENTS
The major components of equipment and leasehold improvements are as follows
at December 31, 1995 and September 30, 1996:
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
1995 1996
<S> <C> <C>
Furniture, fixtures and equipment $6,281,172 $8,200,576
Leasehold improvements 761,929 571,169
---------- ----------
Total 7,043,101 8,771,745
Less accumulated depreciation and
amortization 3,517,520 3,631,498
---------- ----------
Equipment and leasehold improvements, net $3,525,581 $5,140,247
========== ==========
</TABLE>
6. DEPOSITS
Time deposits at December 31, 1995 and September 30, 1996 include
noninterest-bearing amounts of approximately $45,000,000 and $55,000,000,
respectively.
All time deposits had a minimum balance of $100,000 and a maturity of less
than three months at December 31, 1995 and September 30, 1996.
7. REPURCHASE AGREEMENTS
The Company enters into repurchase agreements whereby securities are sold by
the Company under agreements to repurchase. The Company had liabilities
under these agreements of $74,401,454 and $224,626,676 at December 31, 1995
and September 30, 1996 respectively. The interest rate on the outstanding
agreements at December 31, 1995 ranged from 5.5% to 6.0% and all agreements
matured on January 2, 1996. The interest rate on the outstanding agreements
at September 30, 1996 ranged from 4.95% to 5.98% and all agreements matured
by October 2, 1996. The following securities were pledged under these
agreements at December 31, 1995 and September 30, 1996:
11
<PAGE>
7. REPURCHASE AGREEMENTS (CONTINUED)
<TABLE>
<CAPTION>
DECEMBER 31, 1995 SEPTEMBER 30, 1996
CARRYING APPROXIMATE CARRYING APPROXIMATE
VALUE MARKET VALUE VALUE MARKET VALUE
<S> <C> <C> <C><C> <C>
U.S. Treasury securities $29,345,800 $29,345,800 $ 20,065,600 $ 20,065,600
Mortgage-backed securities 47,211,518 47,254,137 214,700,044 214,597,239
----------- ----------- ------------ ------------
Total $76,557,318 $76,599,937 $234,765,644 $234,662,839
=========== =========== ============ ============
</TABLE>
8. STOCKHOLDERS' EQUITY
On May 27, 1994, the Bank's Board of Directors approved a reduction in the
par value of the Company's common stock from $100 per share to $10 per
share, and a 100-for-1 stock split which caused the number of shares of
common stock authorized, issued and outstanding to increase from 10,000
shares to 1,000,000 shares. The stock split resulted in a $9,000,000
increase in common stock, a $1,000,000 decrease in surplus and an $8,000,000
decrease in retained earnings. There were no other changes in authorized,
issued or outstanding common stock for any period presented prior to the
Spin-off Transaction.
IFSC has authorized 1,000,000 shares of Preferred Stock, 650,000 shares of
Class A Common Stock and 20,000,000 shares of Common Stock, all with a par
value of $.01 per share. At December 31, 1995 and September 30, 1996, there
were no preferred shares issued or outstanding. There were 593,500 and
420,181 shares of Class A Common Stock and 5,850,500 and 6,024,131 Common
Stock issued and outstanding at December 31, 1995 and September 30, 1996,
respectively. The Common Stock and Class A Common Stock are identical
except that the Class A Common Stock has ten votes per share and
automatically converts into Common Stock upon transfer and under certain
other circumstances.
The Company has two stock option plans, the 1995 Stock Plan and the 1995
Non-Employee Director Stock Option Plan.
Under the terms of the 1995 Stock Plan, the Company may grant options to
purchase up to a maximum of 560,000 shares of Common Stock to certain
employees, consultants, directors and officers. The options may be awarded
as incentive stock options (employees only), nonqualified stock options,
stock awards or opportunities to make direct purchases of stock.
Under the terms of the 1995 Non-Employee Director Stock Option Plan, the
Company may grant options to non-employee directors to purchase up to a
maximum of 40,000 shares of Common Stock. Options to purchase 2,500 shares
of Common Stock were awarded at the date of initial public offering to each
director. Subsequently, any director elected or appointed after such date
will receive an automatic initial grant of options to purchase 2,500 shares
upon becoming a director. Thereafter, each director will receive an
automatic grant of options to purchase 2,500 shares effective upon each one-
year anniversary of the date of such director's original grant.
Additionally, in April 1996 the Company's stockholders approved an amendment
to the 1995 Non-Employee Director Plan that will allow non-employee
directors to elect to receive options to acquire shares of the Company's
Common Stock in lieu of such director's cash retainer. Any election is
subject to certain restrictions under the 1995 Non-Employee Director Stock
Option Plan. The number of shares of stock underlying the option is equal
to the quotient obtained by dividing the cash retainer by the value of an
option on the date of grant as determined using the Black-Scholes model.
The exercise price of options under the 1995 Non-Employee Director Stock
Option Plan and the incentive options under the 1995 Stock Plan may not be
less than fair market value at the date of the grant. The exercise price of
the nonqualified options from the 1995 Stock Plan is determined by the
compensation committee of the Board of Directors. All options become
exercisable as specified at the date of the grant.
12
<PAGE>
8. STOCKHOLDERS' EQUITY (CONTINUED)
In November 1995, the Company granted 114,000 shares to certain officers of
the Company under the 1995 Stock Plan. Of these grants, 105,000 shares vest
in sixty equal monthly installments, and the remainder vest in five equal
annual installments. Upon termination of employment, the Company has the
right to repurchase all unvested shares at a price equal to the fair market
value at the date of the grant. The Company has recorded deferred
compensation of $2,117,787 and $1,797,400 at December 31, 1995 and September
30, 1996, respectively, pursuant to these grants.
A summary of option activity under all plans is as follows:
<TABLE>
<CAPTION>
NUMBER OF EXERCISE PRICE
SHARES PER SHARE
<S> <C> <C>
Outstanding at December 31, 1995 211,500 $16.50
Granted 7,500 $22.375 - $22.625
Exercised (312) $16.50
Expired (4,688) $16.50
-------
Outstanding at September 30, 1996 214,000
=======
Exercisable at September 30, 1996 35,408
-------
</TABLE>
Under Massachusetts law, trust companies such as the Bank may only pay
dividends out of "net profits" and only to the extent that such payments
will not impair the Bank's capital stock and surplus account. If, prior to
declaration of a dividend, the Bank's capital stock and surplus accounts do
not equal at least 10% of its deposit liabilities, then prior to the payment
of the dividend, the Bank must transfer from net profits to its surplus
account the amount required to make its surplus account equal to either (i)
together with capital stock, 10% of deposit liabilities, or (ii) subject to
certain adjustments, 100% of capital stock. The Bank and IFSC are required
to maintain minimum amounts of capital to total "risk-weighted" assets, as
defined by the banking regulators. At September 30, 1996, the Bank and IFSC
are required to have minimum Tier 1 and total capital ratios of 3% and 8%,
respectively. The actual ratios at that date were in excess of all
regulatory requirements.
9. PROCEEDS FROM ASSIGNMENT OF UNIT INVESTMENT TRUST SERVICING, NET
During the first nine months of 1995, the Company recognized a net gain of
$2,572,298 of noninterest income resulting from the assignment to another
company of the rights to service approximately $5.0 billion of unit
investment trust assets. In connection with the assignment, the Company
adjusted to market value interest rate floors with a notional amount of
$80,000,000, and the resulting loss of $1,057,700 is reported net of the
cash proceeds from the assignment of unit investment trust servicing. These
interest rate floors had previously been designated as hedges of fees from
the unit investment trusts (see Note 10).
10. OFF-BALANCE SHEET FINANCIAL INSTRUMENTS
LINES OF CREDIT - At September 30, 1996, the Company had commitments to
individuals under collateralized open lines of credit totaling $64,220,700,
against which $28,745,312 in loans was drawn. The credit risk involved in
issuing lines of credit is essentially the same as that involved in
extending loan facilities. The Company does not anticipate any loss as a
result of these lines of credit.
INTEREST-RATE CONTRACTS - The following table summarizes the contractual or
notional amounts of derivative financial instruments held by the Company at
September 30:
<TABLE>
<S> <C>
Interest rate contracts:
Swap agreements $110,000,000
Floor contracts $80,000,000
</TABLE>
Interest rate contracts involve an agreement with a counterparty to
exchange cash flows based on an underlying interest rate index. An interest
rate floor is a contract purchased from a counterparty which specifies a
minimum interest rate for the specified period of time. A swap agreement
involves the exchange of a series of interest payments, either at a fixed or
variable rate, based upon the notional amount without the exchange of the
underlying principal amount. The Company's exposure from these interest
rate contracts results from the possibility that one party may default on
its contractual obligation. Credit risk is limited
13
<PAGE>
to the posititve market value of the derivative financial instrument, which
is significantly less than the notional value. The positive market value of
the interest rate contracts was $0 at September 30, 1996.
11. COMMITMENTS AND CONTINGENCIES
RESTRICTIONS ON CASH BALANCES - The Company is required to maintain certain
average cash reserve balances with the Federal Reserve Bank. The reserve
balance requirement as of September 30, 1996 was $24,802,000. In addition,
other cash balances in the amount of $1,391,679 were pledged to secure
clearings with a depository institution as of September 30, 1996.
LEASE COMMITMENTS - Minimum future commitments on noncancelable operating
leases at September 30, 1996 were as follows:
<TABLE>
<CAPTION>
Bank
Fiscal Year Ending Premises Equipment
<S> <C> <C>
1996 965,786 269,574
1997 3,821,070 697,459
1998 4,252,481 376,843
1999 4,252,481 109,122
2000 and beyond 31,240,242 -
</TABLE>
Total rent expense was $3,090,666 and $3,109,603 for the nine months
ended September 30, 1995 and 1996, respectively.
CONTINGENCIES - The Company provides domestic and global custody,
multicurrency accounting, institutional transfer agency, performance
measurement, foreign exchange, securities lending and mutual fund
administration services to a variety of financial asset managers, including
mutual fund complexes, investment advisors, banks and insurance companies.
Assets under custody and management, held by the Company in a fiduciary
capacity, are not included in the consolidated balance sheets since such
items are not assets of the Company. Management conducts regular reviews of
its fiduciary responsibilities and considers the results in preparing its
consolidated financial statements. In the opinion of management, there are
no contingent liabilities at September 30, 1996 that are material to the
consolidated financial position or results of operations of the Company.
12. FOREIGN EXCHANGE CONTRACTS
The Company enters into foreign exchange contracts with clients and
simultaneously enters into a matched position with another bank. These
contracts are subject to market value fluctuations in foreign currencies.
Gains and losses from such fluctuations are netted and recorded as an
adjustment of asset administration fees. A summary of foreign exchange
contracts outstanding at December 31, 1995 and September 30, 1996 is as
follows (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31, 1995 SEPTEMBER 30, 1996
--------------------------------- -------------------------------
UNREALIZED UNREALIZED
CURRENCY PURCHASES SALES GAIN/LOSS PURCHASES SALES GAIN/LOSS
<S> <C> <C> <C> <C> <C> <C>
Australian (Dollar) $ 482 $ 482 - $ 499 $ 499 -
Belgian (Franc) 715 715 - 1,235 1,235 -
Spain (Paseta) - - - 346 346 -
Canadian (Dollar) 118 118 - 3,727 3,727 -
France (Franc) 859 859 - 8,711 8,711 -
Germany (Mark) 955 955 - 8,499 8,499 -
Hong Kong (Dollar) 1,991 1,991 - 296 296 -
Japan (Yen) 46,211 46,211 - 45,569 45,569 -
Malaysia (Ringgit) 505 505 - 562 562 -
Netherlands (Guilder) 1,797 1,797 - 820 820 -
Switzerland (Franc) 8 8 - 999 999 -
Other currencies 545 545 - 1,293 1,293 -
------- ------- ------- ------- ------- -------
$54,186 $54,186 - $72,556 $72,556 -
======= ======= ======= ======= ======= =======
</TABLE>
14
<PAGE>
12. FOREIGN EXCHANGE CONTRACTS (CONTINUED)
The maturity of contracts outstanding as of September 30, 1996 is as follows:
<TABLE>
<CAPTION>
Maturity Purchases Sales
<S> <C> <C>
October 1996 $63,831 $63,831
November 1996 4,725 4,725
January 1997 2,500 2,500
February 1997 1,500 1,500
</TABLE>
15
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
The following discussion and analysis of the financial condition and
results of operations of the Company should be read in conjunction with the
Company's Condensed Consolidated Financial Statements and related notes, which
are included elsewhere in this Report. The Company, through its wholly owned
subsidiary, Investors Bank & Trust Company, provides domestic and global
custody, multicurrency accounting, institutional transfer agency, performance
measurement, foreign exchange, securities lending and mutual fund
administration services to a variety of financial asset managers, including
mutual fund complexes, investment advisors, banks and insurance companies.
Currently, the Company provides financial asset administration services for
assets totaling approximately $111 billion, including approximately $8.5
billion of foreign assets. The Company also engages in private banking
transactions, including secured lending and deposit accounts.
The Company's historical business and financial results have been
significantly influenced by the restrictions imposed under the Competitive
Equality Banking Act of 1987 ("CEBA"). Under the CEBA restrictions, the
Company could not: (a) engage in any activity in which it was not engaged as of
March 5, 1987; (b) increase its assets by more than 7% during any 12-month
period beginning after August 10, 1988; (c) engage in certain cross-marketing
activities with affiliates; or (d) permit overdrafts by or incur overdrafts on
behalf of affiliates at a Federal Reserve Bank. As a result of the Company's
initial public offering completed on November 14, 1995 (the "Offering") and the
distribution by Eaton Vance Corp. ("Eaton Vance") of all its shares of the
Company's Common Stock and Class A Common Stock to the shareholders of Eaton
Vance (the "Spin-Off Transaction"), the Company is no longer subject to such
restrictions. Accordingly, the Company's historical operating results may not
necessarily be indicative of either the full scope of the future conduct of its
business or its future operating results.
The Company is now able to expand current business activities and
participate in certain additional business activities which may result in
increased revenues generated by an increase in client deposits and lending
opportunities. The Company's clients typically generate cash balances from
securities sales and other transactions which they seek to invest on a short-
term basis. Because the Company had been subject to the CEBA 7% annual asset
growth cap, it was not able to accept those deposits prior to the completion of
the Spin-Off Transaction and directed them to other financial institutions,
foregoing a potential source of revenue. The Company directed client deposits
averaging approximately $1.2 billion daily to other financial institutions in
the fiscal year ended October 31, 1995. Since the completion of the Spin-Off
Transaction and the Offering, the Company has redirected an average of
approximately $360 million daily of these balances into its own deposit
products. Similarly, many of the Company's clients use credit lines to
leverage their portfolios or to handle overnight cash shortfalls. CEBA
requirements restricted the Company from making commercial loans of this type.
As a result of the removal of CEBA limitations, the Company is now able to make
commercial loans. Since December 1995, the Company has entered into agreements
to provide up to an aggregate of $40 million under secured lines of credit to
mutual fund clients. In addition, the Company makes fully secured advances to
certain mutual fund clients pursuant to the terms of the custody agreements
between the Company and those mutual fund clients.
In November 1996, the Bank executed agreements with the Merrimac Master
Portfolio and the Merrimac Funds, newly formed master-feeder investment
companies (the "Funds"), pursuant to which the Company has agreed to act as
investment adviser to the Funds. At the same time, the Company engaged the
Bank of New York to act as sub-adviser to manage the investments of the Funds.
In addition to acting as adviser to the Funds, the Bank has entered into
agreements to provide custody, fund accounting, administration, transfer agency
and certain other related services to the Funds. Currently, the Funds have one
operating master fund, the Merrimac Cash Portfolio, and one operating feeder
fund, the Merrimac Cash Fund. The Merrimac Cash Fund offers its shares only to
institutions and other "accredited investors" (as that term is defined in Rule
501(a) under the Securities Act of 1933) and invests all of its assets in the
Merrimac Cash Portfolio. The Merrimac Cash Portfolio invests its assets in
high quality money market instruments. The Funds may add additional feeder
funds and master funds in the future.
The Company derives its revenues from financial asset administration
services and private banking transactions. Although interest income and
noninterest income are reported separately for financial statement presentation
purposes, the Company's clients view the pricing of the Company's asset
administration and banking service offerings on a bundled basis. In
establishing a fee structure for a specific client, management analyzes the
expected revenue and related expenses, as opposed to separately analyzing fee
income and interest income and related expenses for each from such
relationship. Accordingly, management believes net operating revenue (net
interest income plus noninterest income) and net income are
16
<PAGE>
meaningful measures of financial results. Revenue generated from asset
administration and other fees and interest income increased 22% from
$44,031,000 in the first nine months of 1995 to $53,728,000 in the first nine
months of 1996.
Noninterest income consists primarily of fees for financial asset
administration and is principally derived from custody, multicurrency
accounting, transfer agency and administration services for financial asset
managers and the assets they control. The Company's clients pay fees based on
the volume of assets under custody, the number of securities held and portfolio
transactions, income collected and whether other value-added services such as
foreign exchange, securities lending and performance measurement are needed.
Asset-based fees are usually charged on a sliding scale. As such, when the
assets in a portfolio under custody grow as a result of changes in market
values or cash inflows, the Company's fees may be a smaller percentage of those
assets. Fees for individually managed accounts, such as custodial, trust and
portfolio accounting services for individuals, investment advisors, private
trustees, financial planners, other banks and fiduciaries, and other
institutions are also included in noninterest income.
Net interest income represents the difference between income generated
from interest-earning assets and expense on interest-bearing liabilities.
Interest-bearing liabilities are generated by the Company's clients who, in the
course of their financial asset management, generate cash balances which they
deposit on a short-term basis with the Company. The Company invests these cash
balances and remits a portion of the earnings on these investments to its
clients. The Company's share of earnings from these investments is viewed as
part of the total package of compensation paid to the Company from its clients
for performing asset administration services.
The Company, because it is no longer subject to the CEBA balance sheet
growth restrictions, is able to accept client deposits it had historically
directed to other financial institutions. As compensation for directing these
deposits to other financial institutions, the Company had retained a portion of
the earnings on the deposits; this amount was recognized as fee income.
Generally, the Company now invests these deposits on its own behalf in various
interest-earning assets and pays interest expense on those deposits. As a
result, the mix of fee income and interest income that comprise the total
compensation package from clients is shifting as the relative amount of fee
income decreases while the relative amount of interest income increases.
CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS
From time to time, information provided by the Company, statements made by
its employees or information included in its filings with the Securities and
Exchange Commission (including this Form 10-Q) may contain statements which are
not historical facts, so-called "forward-looking statements," and which involve
risks and uncertainties. The Company's actual future results may differ
significantly from those stated in any forward-looking statements. Factors
that may cause such differences include, but are not limited to, the factors
discussed below. Each of these factors, and others, are discussed from time to
time in the Company's filings with the Securities and Exchange Commission.
The Company's future results may be subject to substantial risks and
uncertainties. Because certain fees charged by the Company for its services,
including fees for the provision of investment advisory and other services to
the Merrimac Funds and the Merrimac Master Portfolios, are based on the market
values of assets processed, such fees and the Company's quarterly and annual
operating results are sensitive to changes in interest rates, declines in stock
market values, and investors seeking alternatives to the investment offerings
of the Company's clients. Also, the Company's interest-related services, along
with the market value of the Company's investments, may be adversely affected
by rapid changes in interest rates. In addition, many of the Company's client
engagements are, and in the future are likely to continue to be, terminable
upon 60 days notice. Also, the Company relies on certain intellectual property
protections to preserve its intellectual property rights. Any invalidation of
the Company's intellectual property rights or lengthy and expensive defense of
those rights could have a material adverse affect on the Company. The segment
of the financial services industry in which the Company is engaged is extremely
competitive. Certain current and potential competitors of the Company are more
established and benefit from greater market recognition and have substantially
greater financial, development and marketing resources than the Company.
The Company's quarterly and annual operating results are affected by a
wide variety of factors that could materially adversely affect revenues and
profitability, including: the timing of the commencement or termination of
client engagements, the rate of net inflows and outflows of investor funds in
the debt and equity-based investment vehicles offered by the Company's clients,
the introduction and market acceptance of new services by the Company and
changes or anticipated changes in economic conditions. Because the Company's
operating expenses are relatively fixed, any unanticipated shortfall
17
<PAGE>
in revenues in a quarter may have an adverse impact on the Company's results of
operations for that quarter. As a result of the foregoing and other factors,
the Company may experience material fluctuations in future operating results on
a quarterly or annual basis which could materially and adversely affect its
business, financial condition, operating results and stock price.
STATEMENT OF OPERATIONS
Comparison of Operating Results for the Nine Months Ended September 30, 1996
and 1995
Noninterest Income
Noninterest income increased $1,372,000 to $41,076,000 for the nine months
ended September 30, 1996 from $39,704,000 for the prior period. Noninterest
income consists of the following items:
<TABLE>
<CAPTION>
For the Nine Months Ended
September 30,
------------------------------------- -----------
1995 1996 Change
------------------------------------- -----------
<S> <C> <C> <C>
(Dollars in thousands)
Asset administration fees $36,701 $40,662 11%
Proceeds from assignment of UIT
servicing, net 2,572 - -
Computer service fees 376 365 (3)
Other operating income 55 57 4
Loss on sale of investment security - (8) -
-------------- -------------
Total Noninterest Income $39,704 $41,076 3%
=======================================
</TABLE>
Asset administration fees increased due principally to higher levels of
assets processed. Assets processed is the total dollar value of financial
assets on the reported date for which the Company provides one or more of the
following services: custody, multicurrency accounting, institutional transfer
agency, performance measurement, foreign exchange, securities lending and
mutual fund administration. Total assets processed increased to $111 billion
at September 30, 1996 from $90 billion at September 30, 1995. Of the $21
billion net increase in assets processed from September 30, 1995 to September
30, 1996, approximately 13% of the increase reflects assets processed for new
clients, and the remainder of the increase reflects growth of assets processed
for existing clients and improved methods for tracking the amount of assets
processed, offset in part by the assets of clients no longer serviced by the
Company. The remainder of the growth in asset administration fees was due to
the net expansion of relationships with existing clients and increased use of
the Company's cash management and foreign exchange services. In addition,
because the Company is now able to accept deposits that had been historically
directed to other financial institutions due to CEBA asset growth restrictions,
the Company has experienced a shift in the mix of compensation received from
its clients. See "Overview" in this Item 2. A larger portion of the Company's
compensation from clients is now in the form of interest income generated from
client deposits, resulting in a decrease to asset administration fees and a
related increase in net interest income. The growth in asset administration
fees was also offset by the transfer of unit investment trust assets discussed
below. The administration of these assets accounted for approximately
$1,491,000 in asset administration fees in the nine months ended September 30,
1995.
Unit investment trust ("UIT") assets processed by the Company have
decreased over the last five years, a reflection of declining investor demand
for this type of unmanaged investment product. Declining asset levels led one
client, Merrill Lynch, to consolidate its asset administration service
providers, and it agreed, effective March 1, 1995, to pay the Company to assign
the Company's servicing rights to the Bank of New York Company, Inc. The
Company recognized proceeds of $2,572,000, net of expenses, resulting from the
assignment of the rights to service approximately $5 billion of the client's
unit investment trust assets. The Company has made the strategic decision to
focus its marketing and processing efforts on mutual funds and other pooled
investments which typically experience higher growth in asset levels and can
utilize a wider variety of services provided by the Company, as compared to
unit investment trusts. See Note 9 of Notes to Condensed Consolidated
Financial Statements.
Computer services fees consist of amounts charged by the Company to Eaton
Vance for data processing services related to individual accounts managed by
Eaton Vance. Other operating income consists of miscellaneous private banking
fees for safe deposit and checking account services.
18
<PAGE>
Operating Expenses
Total operating expenses increased by $6,321,000 to $44,807,000 for the
nine months ended September 30, 1996 compared to $38,486,000 for the nine
months ended September 30, 1995. The components of operating expenses were as
follows:
<TABLE>
<CAPTION>
For the nine months ended September
30,
------------------------------------ -----------
1995 1996 Change
------------------------------------ -----------
<S> <C> <C> <C>
(Dollars in thousands)
Compensation $20,707 $23,436 13%
Pension and other employee benefits 3,556 3,905 10
Occupancy 3,199 3,243 1
Equipment 3,622 3,991 10
Insurance 797 746 (6)
Subcustodian Fees 1,410 2,930 108
Depreciation and amortization 1,091 1,095 -
Professional Fees 1,154 1,627 41
Travel and sales promotion 559 699 25
Other operating expenses 2,391 3,135 31
-------------------- ----------------
Total Noninterest Income $38,486 $44,807 16%
==================== ================
</TABLE>
Compensation of officers and employees increased by $2,729,000 or 13% from
period to period due to several factors. The number of employees increased 13%
to 742 at September 30, 1996 from 657 at September 30, 1995. In addition,
compensation expense related to the Company's management incentive plan
increased because of the increase in earnings subject to incentive in the first
nine months of 1996 compared to the first nine months of 1995. The remainder of
the increase in compensation expense resulted from salary increases.
Pension and other employee benefits, including payroll taxes, group
insurance plans, retirement plan contributions and tuition reimbursement,
increased to $3,905,000 for the nine months ended September 30, 1996 from
$3,556,000 for the same period in 1995. The 10% increase was due to increased
payroll taxes attributable to the increase in compensation expense and a
decrease in the discount rate used to calculate the expense of the defined
benefit retirement plan.
Equipment expenses vary with the level of assets processed by the Company.
The $369,000 increase between periods was due principally to the growth in
assets processed by the company.
Subcustodian expense consists of fees paid to centralized clearinghouses
and depositories for settling and holding securities on the Company's behalf.
This expense increased $1,520,000 to $2,930,000 for the nine months ended
September 30, 1996 from $1,410,000 for the nine months ended September 30, 1995.
This increase results from the increase in foreign assets processed, which are
subject to higher subcustodian fees, from $6.6 billion at September 30, 1995 to
$8.5 billion at September 30, 1996, and from the movement by clients into
emerging markets with higher cost structures. These costs are passed through to
clients and make up part of the increase in asset administration fees.
Professional fees increased $473,000 to $1,627,000 for the nine months
ended September 30, 1996 from $1,154,000 for the nine months ended September 30,
1995. This increase results primarily from the Company's increased use of
contract programmers to perform systems development work. Another factor
contributing to this increase is legal fees incurred in connection with the
Company's initial compliance with year-end related filings with the Securities
and Exchange Commission and the change of the Company's fiscal year. The
Company has hired general counsel to, among other things, assist with these
reporting requirements in the future.
Travel and sales promotion expense consists of expenses incurred by the
sales force, client management staff and other employees in connection with
making sales calls on potential clients, traveling to existing client sites and
the Company's foreign subsidiaries, and attending industry conferences. This
expense increased $140,000 to $699,000 for the nine months ended September 30,
1996 from $559,000 for the nine months ended September 30, 1995 due primarily to
increased travel to the foreign subsidiaries.
19
<PAGE>
Other operating expenses increased $744,000 to $3,135,000 for the nine
months ended September 30, 1996 from $2,391,000 for the nine months ended
September 30, 1995. Other operating expenses include fees for daily market
pricing data, telephone, office supplies, and Delaware excise tax. Fees for
daily market pricing data vary with the level of assets processed. Other
expenses such as telephone and office supplies vary with staffing levels. The
Delaware excise tax is based on the number of shares authorized for issuance by
the Company. This tax was imposed on the Company after its formation as a
Delaware corporation in June 1995 and accounts for $135,000 of the increase
between periods. The remainder of the increase relates to the increases in
assets processed and staffing levels.
Net Interest Income
Net interest income is affected by the volume and mix of assets and
liabilities, and the movement and level of interest rates. The table below
presents the changes in net interest income resulting from changes in the volume
of interest-earning assets or interest-bearing liabilities or changes in
interest rates for the six months ended September 30, 1996 compared to the same
period in 1995.
<TABLE>
<CAPTION>
Change Change
Due to Due to
Volume Rate Net
------- ------- -------
(Dollars in thousands)
<S> <C> <C> <C>
INTEREST-EARNING ASSETS
Fed funds sold and
interest-earning deposits $ 691 $ (23) $ 668
Investment securities 17,631 389 18,020
Loans 860 (179) 681
------- ----- -------
Total interest-earning assets 19,182 187 19,369
------- ----- -------
INTEREST-BEARING LIABILITIES
Deposits 4,947 122 5,069
Borrowings 5,920 6 5,926
------- ----- -------
Total interest-bearing liabilities 10,867 128 10,995
------- ----- -------
Change in net interest income $ 8,315 $ 59 $ 8,374
======= ===== =======
</TABLE>
Net interest income increased $8,374,000 or 194% to $12,702,000 for the
nine months ended September 30, 1996 from $4,328,000 for the same period in
1995. This net increase resulted from an increase in interest income of
$19,369,000 offset by an increase in interest expense of $10,995,000. The net
impact of the above changes was a 222 basis point decrease in net interest
margin.
The increase in interest income resulted primarily from a higher level of
interest earning assets. Prior to the Spin-Off Transaction, the Company was
subject to a 7% annual asset growth cap under CEBA. The elimination of the CEBA
growth restriction has allowed the Company to accept deposits from clients which
it had historically directed to other financial institutions. The Company's
average assets for the nine months ended September 30, 1996 increased
$434,133,000 or 355% compared to the same period in 1995. This growth primarily
resulted from an increase in average interest earning assets of $402,688,000.
Interest expense increased $10,995,000 due to the higher level of deposits
and an increase in the interest rate paid by the Company. Prior to the Spin-off
Transaction, the Company was not trying to attract deposits to its balance sheet
and therefore did not pay a competitive interest rate. The average rate paid on
deposits and short-term borrowings increased from 3.51 % to 4.81% between
periods.
20
<PAGE>
Income Taxes
The Company's earnings were taxed on the federal level at 34% for the 1996
and 1995 periods. State taxes on the gross earnings from the Company's
portfolio of investment securities, held by a wholly-owned subsidiary, were
assessed at the tax rate for Massachusetts securities corporations of 1.32%.
State taxes on the remainder of the Company's taxable income were assessed at
the tax rate for Massachusetts banks of 12.54%. The provision for income taxes
for the nine months ended September 30, 1996 increased by $1,280,000 over the
same period in 1995. The overall effective tax rate decreased to 38.5% for the
nine months ended September 30, 1996, from 38.8% for the same period in 1995.
The decrease in the effective tax rate is due to a decrease in the income of the
Company's Canadian subsidiary, which was taxed at the Canadian effective rate of
45.37%, and the related increase in the income of the Company's subsidiaries in
Dublin and the Cayman Islands, which are lower tax jurisdictions, as the Company
transferred certain offshore processing activities from Toronto to Dublin and
the Cayman Islands.
Comparison of Operating Results for the Quarters Ended September 30, 1996 and
1995
Noninterest Income
Noninterest income increased $1,875,000 to $14,034,000 for the quarter
ended September 30, 1996 from $12,159,000 for the prior period. Noninterest
income consists of the following items:
<TABLE>
<CAPTION>
For the Quarters Ended September
30,
------------------------------------ ---------
1995 1996 Change
------------------ ---------------- ---------
(Dollars in thousands)
<S> <C> <C> <C>
Asset administration fees $12,015 $13,909 16%
Computer service fees 126 119 (6)
Other operating income 18 21 17
Gain on sale of investment security - (15) -
------------------ ------------
Total Noninterest Income $12,159 $14,034 15%
==================== ==============
</TABLE>
Asset administration fees increased due principally to higher levels of
assets processed. The remainder of the growth in asset administration fees was
due to the net expansion of relationships with existing clients and increased
use of the Company's foreign exchange services.
Operating Expenses
Total operating expenses increased by $2,940,000 to $15,377,000 for the
quarter ended September 30, 1996 compared to $12,437,000 for the quarter ended
September 30, 1995. The components of operating expenses were as follows:
<TABLE>
<CAPTION>
For the quarter ended September
30,
----------------------------------- --------
1995 1996 Change
-------------------- ------------- --------
(Dollars in thousands)
<S> <C> <C> <C>
Compensation $ 6,835 $ 8,146 19%
Pension and other employee benefits 1,109 1,327 20
Occupancy 968 1,029 6
Equipment 1,179 1,355 15
Insurance 261 158 (39)
Subcustodian Fees 410 1,120 173
Depreciation and amortization 335 403 20
Professional Fees 316 597 89
Travel and sales promotion 150 206 37
Other operating expenses 874 1,036 19
------------------ -------------
Total Noninterest Income $12,437 $15,377 24%
================== =============
</TABLE>
21
<PAGE>
Compensation of officers and employees increased by $1,311,000 or 19%
from quarter to quarter due to several factors. The number of employees
increased 13% to 742 at September 30, 1996 from 657 at September 30, 1995. In
addition, compensation expense related to the Company's management incentive
plan increased because of the increase in earnings in the third quarter of 1996
compared to the third quarter of 1995. The remainder of the increase in
compensation expense resulted from salary increases.
Pension and other employee benefits increased to $1,327,000 for the
quarter ended September 30, 1996 from $1,109,000 for the same period in 1995.
The 20% increase was due to increased payroll taxes attributable to the increase
in compensation expense and a decrease in the discount rate used to calculate
the expense of the defined benefit retirement plan.
Equipment expense consists of operating lease payments for
microcomputers, and fees charged by EDS for processing and data storage
services provided to the Company. These expenses vary with the level of assets
processed by the Company. The $176,000 increase between periods is due
principally to the growth in assets processed.
Insurance expense decreased 39% from $261,000 for the quarter ended
September 30, 1995 to $158,000 for the quarter ended September 30, 1996 due to
the renegotiation of the Company's coverage for errors and omissions liability,
directors and officers liability and blanket bond.
Subcustodian expense increased $710,000 to $1,120,000 for the quarter
ended September 30, 1996 from $410,000 for the quarter ended September 30, 1995.
This increase results from the increase in foreign assets processed, which are
subject to higher subcustodian fees, from $6.5 billion at September 30, 1995 to
$8.5 billion at September 30, 1996, and from the movement by clients into
emerging markets with higher cost structures.
Depreciation and amortization expense increased $68,000 between periods
due to purchases of furniture, equipment, and capitalized software in late 1995
and in 1996.
Professional fees increased $281,000 to $597,000 for the quarter ended
September 30, 1996 from $316,000 for the quarter ended September 30, 1995. This
increase results from the Company's increased use of contract programmers to
perform systems development work.
Travel and sales promotion expense increased $56,000 to $206,000 for the
quarter ended September 30, 1996 from $150,000 for the quarter ended September
30, 1995 due to increased travel to the foreign subsidiaries.
Other operating expenses increased $162,000 to $1,036,000 for the quarter
ended September 30, 1996 from $874,000 for the quarter ended September 30, 1995.
Fees for daily market pricing data vary with the level of assets processed.
Other expenses such as telephone and office supplies vary with staffing levels.
The Delaware excise tax is based on the number of shares authorized for issuance
by the Company. The increase relates to the increases in assets processed and
staffing levels.
22
<PAGE>
Net Interest Income
Net interest income is affected by the volume and mix of assets and
liabilities, and the movement and level of interest rates. The table below
presents the changes in net interest income resulting from changes in the volume
of interest-earning assets or interest-bearing liabilities or changes in
interest rates for the quarter ended September 30, 1996 compared to the same
period in 1995.
<TABLE>
<CAPTION>
Change Change
Due to Due to
Volume Rate Net
------- ------- -------
<S> <C> <C> <C>
(Dollars in thousands)
INTEREST-EARNING ASSETS
Fed funds sold and
interest-earning deposits $ 149 $ 7 $ 156
Investment securities 7,984 117 8,101
Loans 358 (61) 297
------ ---- ------
Total interest-earning assets 8,491 63 8,554
------ ---- ------
INTEREST-BEARING LIABILITIES
Deposits 2,340 7 2,347
Borrowings 3,141 3 3,144
------ ---- ------
Total interest-bearing liabilities 5,481 10 5,491
------ ---- ------
Change in net interest income $3,010 $ 53 $3,063
====== ==== ======
</TABLE>
Net interest income increased $3,063,000 or 187% to $4,698,000 for the
quarter ended September 30, 1996 from $1,635,000 for the same period in 1995.
This net increase resulted from an increase in interest income of $8,554,000
offset by an increase in interest expense of $5,491,000. The net impact of the
above changes was a 286 basis point decrease in net interest margin.
The increase in interest income resulted primarily from a higher level of
interest earning assets. As discussed above, the elimination of the CEBA asset
growth restriction has allowed the Company to accept deposits from clients which
it had historically directed to other financial institutions. The Company's
average assets for the quarter ended September 30, 1996 increased $564,850,000
or 424% compared to the same period in 1995. This growth primarily resulted
from an increase in average interest earning assets of $531,908,000.
Interest expense increased $5,491,000 due to the higher level of deposits
and an increase in the interest rate paid by the Company. Prior to the Spin-off
Transaction, the Company was not trying to attract deposits to its balance sheet
and therefore did not pay a competitive interest rate. The average rate paid on
deposits and short-term borrowings increased from 3.69% to 4.90% during the
period.
Income Taxes
The Company's earnings were taxed on the federal level at 34% for the
1996 and 1995 periods. State taxes on the gross earnings from the Company's
portfolio of investment securities, held by a wholly-owned subsidiary, were
assessed at the tax rate for Massachusetts securities corporations of 1.32%.
State taxes on the remainder of the Company's taxable income were assessed at
the tax rate for Massachusetts banks of 12.54%. The provision for income taxes
for the quarter ended September 30, 1996 increased by $813,000 over the same
period in 1995. The overall effective tax rate increased to 38.5% for the
quarter ended September 30, 1996, from 35.2% for the same period in 1995. The
increase in the effective tax rate is due to the timing of the recognition of
tax expense in 1995; the overall effective tax rate in 1995 was 40%.
23
<PAGE>
FINANCIAL CONDITION
Investment Portfolio
The following table summarizes the Company's investment portfolio for the dates
indicated:
<TABLE>
<CAPTION>
December 31, September 30,
-------------- --------------
1995 1996
-------------- --------------
(Dollars in thousands)
<S> <C> <C>
SECURITIES HELD TO MATURITY:
Mortgage-backed securities $144,124 $351,607
Federal Agency securities 10,000 20,000
Foreign government securities - 7,842
-------------- --------------
Total securities held to maturity $154,124 $379,449
============== ==============
SECURITIES AVAILABLE FOR SALE:
U.S. Treasury securities $ 50,652 $ 45,246
Mortgage-backed securities 40,167 187,247
-------------- --------------
Total securities available for sale $ 90,819 $232,493
============== ==============
</TABLE>
The investment portfolio is used to invest depositors funds and provide a
secondary source of earnings for the Company. In addition, the Company uses the
investment portfolio to secure open positions at securities clearing banks in
connection with its custody services. The portfolio is composed of U.S.
Treasury securities, mortgage-backed securities issued by the Federal National
Mortgage Association ("FNMA" or "Fannie Mae") and the Federal Home Loan Mortgage
Corporation ("FHLMC" or "Freddie Mac"), and Federal Agency callable bonds issued
by FHLMC and the Federal Home Loan Bank ("FHLB"), and foreign government bonds
issued by the Canadian provinces of Ontario and Manitoba.
The Company invests in mortgage-backed securities and Federal Agency
securities to supplement its portfolio of U.S. Treasury securities and increase
the total return of the investment portfolio. Mortgage-backed securities
generally have a higher yield than U.S. Treasury securities due to credit risk
and prepayment risk. Federal Agency callable bonds generally have a higher yield
than U.S. Treasury securities due to credit risk and call risk. Mortgage-backed
securities and Federal Agency callable bonds have credit risk, even though
payment guarantees and credit enhancements substantially reduce it. Mortgage-
backed securities are also subject to the risk that fluctuating interest rates
and other factors may alter the prepayment rate of the loans underlying the
mortgage-backed securities, and so affect both the prepayment speed and the
value of such securities, while Federal Agency callable bonds are subject to the
risk that fluctuating interest rates and other factors may result in the
exercise of the call option by the Federal Agency.
The Company invests in foreign government bonds in order to generate
foreign source income to maximize the use of the foreign tax credit. The
foreign government bonds are denominated in U.S. dollars to avoid foreign
currency risk.
Effective November 1, 1994, the Company classified its investment
portfolio as held-to-maturity. Management had the intent and the Company had
the ability to hold these securities until maturity. In connection with the
initial adoption of the Financial Accounting Standards Board's Special Report, A
Guide to Implementation of Statement 115 on Accounting for Certain Investments
in Debt and Equity Securities, the Company reassessed the appropriateness of the
classifications of all securities held as of December 31, 1995. As a result of
this reassessment, the Company reclassified debt securities with a carrying
value of $90 million from held-to-maturity to available for sale. The held-to-
maturity portfolio is carried at cost, adjusted for amortization of premiums and
accretion of discounts. The available-for-sale portfolio is carried at fair
value, with the net unrealized gains and losses recognized as an adjustment to
capital until final disposition or recovery.
24
<PAGE>
The book value and weighted average yield of the Company's securities
held to maturity at September 30, 1996, by effective maturity, are reflected in
the following table.
<TABLE>
<CAPTION>
Weighted
Average
Book Value Yield
------------ ---------
<S> <C> <C>
Due within one year 10,000 6.42%
Due from one to five years 100,256 6.74%
Due after five years up to ten years 222,267 6.92%
Due after ten years 46,926 6.55%
Total securities $379,449
============
</TABLE>
The book value and weighted average yield of the Company's securities available
for sale at September 30, 1996, by effective maturity, are reflected in the
following table.
<TABLE>
<CAPTION>
Weighted
Average
Book Value Yield
------------ ---------
<S> <C> <C>
Due within one year $ 20,066 5.87%
Due from one to five years 196,925 7.00%
Due after five years up to ten years 15,502 6.96%
------------
Total securities $232,493
============
</TABLE>
The maturities of mortgage backed securities have been allocated on the above
tables as described in Note 3 of the Notes to Condensed Consolidated Financial
Statements.
Loan Portfolio
The following table summarizes the Company's loan portfolio for the dates
indicated:
<TABLE>
<CAPTION>
December 31, September 30,
-------------- ---------------
1995 1996
-------------- ---------------
<S> <C> <C>
(Dollars in thousands)
Loans to individuals $12,610 $18,433
Loans to not-for-profit organizations 289 12
Loans to mutual funds 10,000 25,356
-------------- ---------------
22,899 43,801
Less: allowance for loan losses (35) (84)
-------------- ---------------
Net loans $22,864 $43,717
Floating Rate $22,839 $43,788
Fixed Rate 25 13
-------------- ---------------
$22,864 $43,801
============== ===============
</TABLE>
Historically, the Company's loan portfolio has been composed primarily of
loans to individually managed account customers. Although many of its clients
with pooled investment vehicles such as mutual funds use credit lines to
leverage their portfolios or to handle overnight cash shortfalls, CEBA
requirements restricted the Company from making commercial loans of this type.
As a result of the removal of CEBA limitations due to the Spin-Off Transaction,
the Company may now offer lending services directly to all clients and made its
first commercial loan in December 1995.
Virtually all loans to individually managed account customers are written
on a demand basis, bear variable interest rates tied to the prime rate and are
fully secured by liquid collateral, primarily freely tradable securities held in
custody by the Company for the borrower. Since December 1995, the Company has
entered into agreements to provide up to an aggregate of $40 million under
secured lines of credit to mutual fund clients. Loans to mutual funds also
include advances by the Company to certain mutual fund clients pursuant to the
terms of the custody agreements between the Company and those clients. The
25
<PAGE>
advances facilitate securities transactions and redemptions involving those
mutual funds and are fully secured by liquid collateral, primarily freely
tradable securities held in custody by the Company for those mutual funds.
At September 30, 1996, the Company's only lending concentrations which
exceeded 10% of total loans were revolving lines of credit to mutual fund
clients as discussed above. These loans were made in the ordinary course of
business on the same terms and conditions prevailing at the time for comparable
transactions. The Company also had a lending relationship at September 30, 1996
with Landon T. Clay, an officer of Eaton Vance and a principal stockholder of
the Company, representing two loans aggregating $1,200,000 in principal amount.
The Company also has a loan relationship with another officer of Eaton Vance, M.
Dozier Gardner. These loans to Mr. Clay and Mr. Gardner were made in the
ordinary course of business on the same terms and conditions prevailing at the
time for comparable transactions with unrelated third parties. Each of these
loans was secured with non-voting common stock of Eaton Vance.
The Company's credit loss experience has been excellent. There have been
no loan chargeoffs in the history of the Company. It is the Company's policy to
place a loan on non-accrual status when either principal or interest becomes 60
days past due and the loan's collateral is not sufficient to cover both
principal and accrued interest. As of September 30, 1996, there were no past
due loans, troubled debt restructurings, or any loans on nonaccrual status.
Although virtually all of the Company's loans are fully collateralized with
freely tradable securities, management recognizes some credit risk inherent in
the loan portfolio, and has recorded an allowance for loan losses of
approximately $84,000 at September 30, 1996. This amount is not allocated to
any particular loan, but is intended to absorb any risk of loss inherent in the
loan portfolio. Management actively monitors the loan portfolio and the
underlying collateral and regularly assesses the adequacy of the allowance for
loan losses.
As a result of the removal of CEBA limitations, the Company is now able
to make commercial loans such as the credit lines and advances to mutual fund
clients discussed above. The Company hopes to increase its lending activities
with clients during the remainder of 1996.
INTEREST RATE SENSITIVITY
Interest rate risk arises when an earning asset matures or when its rate
of interest changes in a time frame different from that of the supporting
interest-bearing liability. By seeking to minimize the difference between the
amount of earning assets and the amount of interest-bearing liabilities that
could change interest rates in the same time frame, the Company attempts to
reduce the risk of significant adverse effects on net interest income caused by
interest rate changes. The Company does not attempt to match each earning asset
with a specific interest-bearing liability. Instead, as shown in the table
below, it aggregates all of its earning assets and interest-bearing liabilities
to determine the difference between these in specific time frames. This
difference is known as the rate-sensitivity gap. A positive gap indicates that
more earning assets than interest-bearing liabilities mature in a time frame,
and a negative gap indicates the opposite. Maintaining a balanced position will
reduce risk associated with interest rate changes, but it will not guarantee a
stable interest rate spread because the various rates within a time frame may
change by differing amounts and change in different directions.
The Company seeks to manage interest rate risk by investment portfolio
actions designed to address the interest rate sensitivity of asset cash flows in
relation to liability cash flows. Portfolio actions used to manage interest
rate risk include managing the effective duration of the portfolio securities
and utilizing interest rate floors and interest rate swaps. Interest rate
floors and interest rate swaps involve elements of credit and market risk which
are not reflected in the Company's consolidated financial statements. Such
instruments are entered into for hedging (as opposed to investment or
speculative) purposes. There can be no assurance that such portfolio actions
will adequately limit interest rate risk.
26
<PAGE>
The following table presents the repricing schedule for the Company's
interest earning assets and interests bearing liabilities at September 30,
1996:
<TABLE>
<CAPTION>
Within Over Three Over Six Over One
Three to Six to Twelve Year to Over Five
Months Months Months Five Years Years Total
----------- ------------ ---------- ------------ ---------- --------
<S> <C> <C> <C> <C> <C> <C>
(Dollars in thousands)
Interest earning assets (1):
Federal Funds Sold $ 94,000 $ 94,000
Investment securities (2) 176,272 $134,213 $123,731 $110,015 $ 67,710 611,941
Loans - fixed rate 13 13
Loans - variable rate 43,788 43,788
----------- ------------ ---------- ------------ ---------- --------
Total interest earning assets 314,060 134,213 123,731 110,028 67,710 749,742
Interest bearing liabilities
Demand deposit accounts 218,163 218,163
Savings accounts 22,598 22,598
Interest rate contracts (100,000) 30,000 70,000 0
Repurchase agreements 224,627 224,627
----------- ------------ ---------- ----------- ----------- --------
Total interest bearing liabilities 365,388 30,000 70,000 0 0 465,388
----------- ------------ ---------- ------------ ---------- --------
Net interest sensitivity gap
during the period ($51,328) $104,213 $ 53,731 $110,028 $ 67,710 $284,354
=========== ============ ========== =========== ========== =========
Cumulative gap ($51,328) $ 52,885 $106,616 $216,644 $284,354
Interest sensitive assets as a
percent of interest sensitive
liabilities (cumulative) 85.95% 113.38% 122.91% 146.55% 161.10%
Interest sensitive assets as a
percent of total assets
(cumulative) 40.10% 57.24% 73.03% 87.08% 95.73%
Net interest sensitivity gap as a
percent of total assets (6.55%) 13.31% 6.86% 14.05% 8.65%
Cumulative gap as a percent
of total assets (6.55%) 6.75% 13.61% 27.66% 36.31%
- ----------------------------------------
(1) Adjustable rate assets are included in the period in which interest rates are next scheduled to adjust
rather than in the period in which they are due. Fixed rate loans are included in the period in which
they are scheduled to be repaid.
(2) Mortgage-backed securities are included in the pricing category that corresponds with their effective
maturity.
</TABLE>
27
<PAGE>
LIQUIDITY
Liquidity represents the ability of an institution to meet present and
future financial obligations through either the sale or maturity of existing
assets or the acquisition of additional funds through liability management.
For a financial institution such as the Company, these obligations arise from
the withdrawals of deposits and the payment of operating expenses.
The Company's primary sources of liquidity include cash and cash
equivalents, federal funds sold, demand loans to individuals, new deposits,
federal funds purchased, interest payments on securities held to maturity, fees
collected from asset administration clients, and the capital raised from the
Offering. Asset liquidity is also provided by managing the duration of the
investment portfolio. As a result of the Company's management of liquid assets
and the ability to generate liquidity through liability funds, management
believes that the Company maintains overall liquidity sufficient to meet its
depositors' needs, to satisfy its operating requirements and to fund the
payment of an anticipated annual cash dividend of approximately $.04 per share.
The Company's ability to pay dividends on the Common Stock and Class A
Common Stock depends on the receipt of dividends from Investors Bank & Trust
Company. Investors Bank & Trust Company has historically paid an aggregate
annual dividend of $60,000 to its stockholders. Any dividend payments by
Investors Bank & Trust Company are subject to certain restrictions imposed by
the Massachusetts Commissioner of Banks. Subject to regulatory requirements,
Investors Bank & Trust Company expects to pay an annual dividend to the
Company, which the Company expects to pay to its stockholders, currently
estimated to be in an amount equal to $.04 per share of outstanding Common
Stock and Class A Common Stock (approximately $257,772 based upon 6,444,312
shares outstanding as of September 30, 1996). On May 15, 1996 and July 15,
1996, the Company paid quarterly dividends of $.01 per share to the holders
of the Company's Common Stock and Class A Common Stock. On October 15, 1996,
the Board of Directors of the Company, after declaration by the Bank of a
dividend in like amount, declared a quarterly dividend of $.01 per share
payable on November 15, 1996 to holders of the Company's Common Stock and Class
A Common Stock as of October 31, 1996.
At September 30, 1996, cash and cash equivalents were 1% of total assets,
compared to 7% of total assets at December 31, 1995. At September 30, 1996,
approximately $119 million or 16% of total interest earning assets mature
within a one year period.
The Company has informal borrowing arrangements with various
counterparties whereby each counterparty has agreed to make funds available to
the Company at the Federal funds overnight rate. The aggregate amount of these
borrowing arrangements is $72 million. Each bank may terminate its arrangement
at any time and is under no contractual obligation to provide requested funding
to the Company. The Company's borrowings under these arrangements are
typically on an overnight basis. The Company believes that if these banks were
unable to provide funding as described above, a satisfactory alternative source
of funding would be available to the Company.
The Company also has Master Repurchase Agreements in place with various
counterparties whereby each broker has agreed to make funds available to the
Company at various rates in exchange for collateral consisting of marketable
securities. The aggregate amount of these borrowing arrangements is $425
million.
The Company's cash flows are comprised of three primary classifications:
cash flows from operating activities, investing activities, and financing
activities. Cash flows provided by operating activities were $10,298,000 and
$6,139,000 for the nine months ended September 30, 1995 and 1996, respectively.
Net cash (used) provided by investing activities, consisting primarily of
purchases of investment securities and proceeds from maturities of investment
securities, was ($22,682,000) and ($470,009,000) for the nine months ended
September 30, 1995 and 1996, respectively. Net cash (used) provided by
financing activities, consisting primarily of net activity in deposits, was
$12,695,000 and $449,805,000 for the nine months ended September 30, 1995 and
1996, respectively.
28
<PAGE>
CAPITAL RESOURCES
Historically, the Company has financed its operations primarily through
internally generated cash flows. The Company incurs capital expenditures for
furniture, fixtures and miscellaneous equipment needs. The Company leases
microcomputers through operating leases. Such capital expenditures have been
incurred and such leases entered into on an as-required basis, primarily to
meet the growing operating needs of the Company. In addition, the Company
purchased new transfer agency computer software in April 1996. As a result,
the Company's capital expenditures were $1,047,000 and $2,725,000 for the nine
months ended September 30, 1995 and 1996, respectively. Capital expenditures
for the remainder of 1996 are expected to approximate $4,071,000, principally
for furniture and equipment related to the Company's move during the first half
of 1997 to a new location.
Stockholders' equity at September 30, 1996 was $59,384,000, an increase
of $5,963,000 or 11%, from $53,421,000 at December 31, 1995. The growth in
stockholders' equity is attributable to an adjustment to the actual costs of
the stock issuance completed in November 1995 and current period net income.
The ratio of stockholders' equity to assets decreased to 7.58% at September 30,
1996 from 16.57% at December 31, 1995 due to the significant increase in
assets.
The Federal Reserve Board has adopted a system using internationally
consistent risk-based capital adequacy guidelines to evaluate the capital
adequacy of banks and bank holding companies. Under the risk-based capital
guidelines, different categories of assets are assigned different risk weights,
based generally upon the perceived credit risk of the asset. These risk
weights are multiplied by corresponding asset balances to determine a "risk-
weighted" asset base. Certain off-balance sheet items, which previously were
not expressly considered in capital adequacy computations, are added to the
risk-weighted asset base by converting them to a balance sheet equivalent and
assigning them the appropriate risk weight.
Federal Reserve Board and FDIC guidelines require that banking
organizations have a minimum ratio of total capital to risk-adjusted assets and
off balance sheet items of 8.0%. Total capital is defined as the sum of "Tier
I" and "Tier II" capital elements, with at least half of the total capital
required to be Tier I. Tier I capital includes, with certain restrictions, the
sum of common stockholders' equity, noncumulative perpetual preferred stock, a
limited amount of cumulative perpetual preferred stock, and minority interests
in consolidated subsidiaries, less certain intangible assets. Tier II capital
includes, with certain limitations, subordinated debt meeting certain
requirements, intermediate-term preferred stock, certain hybrid capital
instruments, certain forms of perpetual preferred stock, as well as maturing
capital instruments and general allowances for loan losses.
The following table summarizes the Company's Tier I and total capital
ratios at September 30, 1996:
<TABLE>
<CAPTION>
September 30, 1996
---------------------
Amount Ratio
------------ ----------
(Dollars in
thousands)
<S> <C> <C>
Tier I capital $ 58,472 29.8%
Tier I capital minimum requirement 7,853 4.0%
---------- ---------
Excess Tier I capital $ 50,619 25.8%
========== =========
Total capital $ 58,557 29.8%
Total capital minimum requirement 15,705 8.0%
--------- --------
Excess total capital $ 42,852 21.8%
Risk adjusted assets, net of intangible assets $196,318
==========
</TABLE>
In addition to the risk-based capital guidelines, the Federal Reserve Board and
the FDIC use a "Leverage Capital Ratio" as an additional tool to evaluate
capital adequacy. The Leverage Capital Ratio is defined to be a company's Tier
I capital divided by its adjusted total assets. The Leverage Capital Ratio
adopted by the federal banking agencies requires a ratio of 3.0% Tier I capital
to adjusted average total assets for top rated banking institutions. All other
banking institutions will be expected to maintain a Leverage Capital Ratio of
4.0% to 5.0%. The computation of the
29
<PAGE>
risk-based capital ratios and the Leverage Capital Ratio requires the capital
of the Company to be reduced by most intangible assets. The Company's Leverage
Capital Ratio at September 30, 1996 was 7.47%, which is in excess of regulatory
requirements.
The following tables present average balances, interest income and expense, and
yields earned or paid on the major categories of assets and liabilities for the
periods indicated.
<TABLE>
<CAPTION>
Nine Months Ended September 30, 1995 Nine Months Ended September 30,
1996
----------------------------------------------- ------------------------------------
Average Average Average Average
Balance Interest Yield/Cost Balance Interest Yield/Cost
------------------ ------------ ------------ ---------- --------- -------------
<S> <C> <C> <C> <C> <C> <C>
INTEREST-EARNING ASSETS
Fed funds sold $ 5,929 $ 261 5.87% $ 23,288 $ 968 5.54%
Interest-earning deposits 1,000 45 6.00% 168 6 4.76%
Investment securities 83,246 3,708 5.94% 445,023 21,728 6.51%
Loans 13,560 909 8.94% 37,944 1,590 5.59%
----------- ----------- ---------- ---------- ---------- ----------
Total interest-earning assets 103,735 4,923 6.33% 506,423 24,292 6.40%
----------- ---------- ---------- ----------
Allowance for loan losses (35) (68)
Noninterest-earning assets 18,474 49,952
----------- ----------
Total assets $122,174 $556,307
=========== ==========
INTEREST-BEARING LIABILITIES
Deposits:
Demand $ 11,263 327 3.87% $143,239 5,236 4.87%
Savings 10,747 181 2.25% 16,992 309 2.42%
Time - - - 843 32 5.06%
Short Term Borrowings 606 87 4.01% 160,028 6,013 5.01%
----------- ----------- ---------- ---------- ---------- ----------
Total interest-bearing liabilities 22,616 595 3.51% 321,102 11,590 4.81%
----------- ---------- ----------
Noninterest bearing liabilities
Demand deposits 33,330 129,190
Noninterest bearing time deposits 46,829 45,036
Other liabilities 5,189 7,996
----------- ----------
Total liabilities 107,964 503,324
Equity 14,210 52,983
----------- ----------
Total liabilities and equity $122,174 556,307
=========== ==========
Net interest income $4,328 $12,702
=========== ==========
Net interest margin (1) 5.56% 3.34%
Average interest rate spread (2) 2.82% 1.58%
Ratio of interest-earning assets to 458.68% 157.71%
interest-bearing liabilities
- ----------------------------------------
(1) Net interest income divided by total interest-earning assets
(2) Yield on interest-earning assets less rate paid on interest-bearing
liabilities
</TABLE>
30
<PAGE>
PART II - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a. Exhibit 11.1: Statement of Computation of Earnings Per Share:
<TABLE>
<CAPTION>
Three Months Ended September 30,
-----------------------------------------------------
1995 1996
------------------------- -----------------------
<S> <C> <C>
(in thousands, except per share data)
Net income $ 880 $2,065
Weighted average number of common shares outstanding 4,030(2) 6,444
Dilutive effect of common equivalent
shares of stock options and warrants - 27
Weighted average number of common and ------------------------- -----------------------
common equivalent shares outstanding 4,030 6,471
========================= =======================
Net income per share (1) $ .22 $ .32
========================= =======================
(1) Primary and fully diluted income per share are the same for all periods presented
(2) Gives pro forma effect to the recapitalization of the Company on November 8, 1995
whereby the Company issued 3,418,573 shares of Common Stock and 611,427 shares of
Class A Common Stock in exchange for the 1,000,000 shares of the previously
outstanding capital stock of Investors Bank & Trust Company.
</TABLE>
b. No reports on Form 8-K were filed during the quarter ended September 30,
1996.
31
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
INVESTORS FINANCIAL SERVICES CORP.
Date: November 8, 1996 By:/s/ Kevin J. Sheehan
---------------------
Kevin J. Sheehan
Chairman, President and Chief
Executive Officer
By:/s/ Karen C. Keenan
--------------------
Karen C. Keenan
Chief Financial Officer and Secretary
(Principal Financial and Accounting Officer)
32
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0
0
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