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FORM 10-K
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
(Mark One)
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1999
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ___________ to ___________
COMMISSION FILE NUMBER 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)
200 CLARENDON STREET
P.O. BOX 9130
BOSTON, MASSACHUSETTS 02116
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (617) 330-6700
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
COMMON STOCK, $.01 PAR VALUE
SERIES A JUNIOR PREFERRED STOCK PURCHASE RIGHTS
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
--- ---
Indicate by check mark if disclosure of delinquent filers pursuant
to Item 405 of Regulation S-K is not contained herein, and will not be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K. / /
The aggregate market value of Common Stock held by non-affiliates of
the registrant was $592,271,332 based on the last reported sale price of $40.125
on The Nasdaq National Market on February 16, 2000 as reported by Nasdaq.
As of February 16, 2000, there were 14,760,656 shares of Common
Stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
The registrant intends to file a definitive Proxy Statement pursuant
to Regulation 14A within 120 days of the end of the fiscal year ended December
31, 1999. Portions of such Proxy Statement are incorporated by reference in Part
III.
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ITEM 1. BUSINESS.
GENERAL DEVELOPMENT OF BUSINESS
Investors Financial Services Corp. (the `Company') is a bank holding
company, organized under the laws of the state of Delaware, that provides asset
administration services for the financial services industry. The Company was
organized in 1995 and conducts its business through its wholly-owned
subsidiaries, Investors Bank & Trust Company (Registered Trademark) and
Investors Capital Services, Inc. As used herein, the defined term `Company'
shall mean Investors Financial Services Corp. from and after June 29, 1995, the
date of organization of Investors Financial Services Corp., and shall mean
Investors Bank & Trust Company prior to that date, unless the context otherwise
indicates. Investors Bank & Trust Company is sometimes referred to herein as the
`Bank.'
The Company operated as a subsidiary of Eaton Vance Corp. (`Eaton
Vance'), an investment management firm conducting business through subsidiaries,
from the Bank's formation in 1969 through November 1995. In 1995, the Company
was spun off to the stockholders of Eaton Vance (the `Spin-Off Transaction').
The Spin-Off Transaction was completed in November 1995, immediately prior to
the Company's initial public offering.
The Company provides global custody, multicurrency accounting,
institutional transfer agency, performance measurement, cash management, foreign
exchange, securities lending, mutual fund administration, institutional trust
services and investment advisory services. The Company provides these services
to financial asset managers, such as mutual fund complexes, investment advisors,
banks and insurance companies. At December 31, 1999, the Company provided
financial asset administration services for net assets totaling approximately
$290 billion, including approximately $17 billion of foreign assets. The Company
also engages in private banking transactions, including secured lending and
deposit accounts. Services are provided from offices in Boston, New York,
Toronto, the Cayman Islands and Dublin.
OVERVIEW OF THE FINANCIAL SERVICES INDUSTRY
Asset managers manage and invest the financial assets entrusted to
them utilizing a broad range of pooled products, including mutual funds, unit
investment trusts, separate accounts and variable annuities. Asset
administration companies such as the Company perform various services for asset
managers and the pooled products they sponsor.
The Company believes the strong inflow of assets into pooled
products and other investment vehicles and the related asset administration of
those products provides an opportunity for revenue growth for asset
administration companies. As shown in the chart below, total U.S. financial
assets managed by mutual fund companies, insurance companies, private pension
funds and banks have grown at an average annual rate of over 16% since 1990.
Mutual funds, a primary market for the Company's services, make up a large part
of the financial assets in pooled investment vehicles. The U.S. mutual fund
market has grown at an average annual rate of more than 24% since 1990, with
over $5 trillion in assets at September 30, 1999.
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TOTAL U.S. FINANCIAL ASSETS COMPOUND ANNUAL
(Dollars in billions) DECEMBER 31, 1990 SEPTEMBER 30, 1999 GROWTH RATE
<S> <C> <C> <C>
Mutual Funds $ 1,154.6 $ 5,458.1 24.85%
Life Insurance Companies 1,367.4 2,921.0 11.45
Private Pension Funds 1,610.9 4,500.8 15.81
Bank Personal Trusts and Estates 522.1 976.5 9.36
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Total $ 4,655.0 $ 13,856.4 16.86
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SOURCE: FEDERAL RESERVE BANK
In addition to the growth in total U.S. financial assets managed,
there has been tremendous growth in the European and other offshore markets.
Total European fund assets have increased from approximately $1.9 trillion in
1997 to over $2.8 trillion in 1999, a compound annual growth rate of 23%.
The asset administration environment differs by asset management
organization and operational philosophy. The majority of asset managers
outsource custody services, using multiple custodians to foster cost reduction
through competition. Large asset managers may have the critical mass necessary
to justify the cost of in-house facilities to handle accounting, administration
and transfer agency services, while smaller asset managers outsource these
services as well. The Company believes that asset administration companies
operate most efficiently when bundling core services such as custody and
accounting with value-added services such as securities lending and foreign
exchange. The Company also
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believes that efficient integration of these various services is critical to
both quality of service and profitability for asset administration companies.
The Fund Accounting and Custody Tracking System (`FACTS'), the software system
developed and owned by the Company, supports these services with its integrated
functionality.
Providing asset administration services world-wide remains a focus
in the financial services industry as asset managers expand their reach in the
global marketplace to capitalize on cross-border and multi-national marketing
opportunities. The Company has offices located in Toronto, Canada, Dublin,
Ireland, and the Cayman Islands for servicing offshore funds. The Company's
offices in Toronto and Dublin were opened prior to 1995 and the Company opened
its administrative site in the Cayman Islands in 1996.
Information technology is a driving force in the financial services
industry. Asset managers are able to create innovative investment products using
data from world markets as a result of more powerful and affordable information
processing power, coupled with the ability to send large volumes of information
instantly through widely dispersed communication networks. Timely on-line access
to electronic information on security positions, prices and price shifts
facilitates on-line currency trading, indexation of assets, real time arbitrage,
and hedging through the use of derivative securities. Asset administration
providers use technology as a competitive tool to deliver precise and functional
information to the asset managers, and to increase value-added services such as
performance measurement. Examples of analytical tools used in performance
measurement include reports showing time-weighted return, performance by sector,
and time-weighted return by sector. The Company believes that the integrated
nature of FACTS, compared to the disparate systems used for different tasks by
many other financial service providers, provides the Company with a competitive
advantage and positions the Company to respond to the continuously changing
technological demands of the financial services industry.
In an effort to capture efficiencies of larger pools of assets,
asset managers create different investment structures. One example of this
innovation is the master-feeder structure. In the master-feeder structure, one
or more investment vehicles (the `feeder funds') with identical investment
objectives pool their assets in a common portfolio held by a separate investment
vehicle (the `master fund'). This structure permits each of the feeder funds to
be sold to a separate target market and through a different distribution channel
even if the feeder fund, on a stand-alone basis, would not be large enough to
support its operating costs. The feeder funds benefit from economies of scale
available to the larger pool of funds invested in the master fund.
In addition, a growing number of mutual funds have been structured
as multi-tiered or multi-class funds in order to address the differing
requirements and preferences of potential investors. In this environment,
investors have the option of purchasing fund shares with the sales load
structure that best meets their short-term and long-term investment strategy.
Multiple class arrangements allow an investment company to sell interests in a
single investment portfolio to separate classes of stockholders.
Another innovation in the mutual fund industry is the advent of
Exchange Traded Funds (`ETFs') as a more efficient alternative to fast-growing
index mutual funds. ETFs are single shares of stock that replicate an index and
are traded on a national securities exchange, usually the American Stock
Exchange. Unlike investing in a conventional index mutual fund, investing in an
ETF allows investors to buy and sell shares at intraday prices throughout the
trading day. The Company has entered into agreements to service a number of new
ETFs beginning in 2000.
COMPANY STRATEGY
The principal asset administration services provided by the Company
to its clients are custody and multicurrency accounting. Value-added services
utilized by clients based upon their individual needs include securities
lending, foreign exchange, cash management, transfer agency, and mutual fund
administration. These value added services help support clients in developing
and executing their strategies, enhancing their returns, and evaluating and
managing risk. The Company seeks to provide a broad range of services to all
clients, maximize the use of its value-added services and increase the size of
its client base.
The Company's core strategy is to deliver superior and innovative
client service. The Company believes service quality in asset administration
relationships is the key to maintaining and expanding existing business as well
as attracting new clients. To achieve this goal, the Company, unlike its
competitors, takes an integrated approach to servicing by dedicating a single
operations team to handle all work for a particular account or fund. In
addition, each client is assigned a Client Manager, independent of the
operations team, to anticipate the client's needs, to coordinate service
delivery, and to provide consulting support. The Company believes that its
strong client relationships create continuing opportunities to cross-sell
products and value-added services to broaden its customer relationships. Once a
mutual fund complex becomes a client, that complex is more likely to select the
Company to provide more services, service more funds, or both.
To deliver superior and innovative client service, the Company must
also maintain technological expertise. The asset administration industry
requires the technological capability to support a wide range of global security
types,
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currencies, and complex portfolio structures, as well as the telecommunications
flexibility to support the diversity of global communications standards.
Technological change creates opportunities for product differentiation and
reduced costs. From a technological standpoint, FACTS is an integrated
computerized information system that provides custody, securities movement and
control, portfolio accounting, multi-currency general ledger accounting,
pricing, net asset value calculation, and master-feeder processing into a single
information system. By consolidating these functions, the Company has eliminated
redundancy in data capture and reduced the opportunity for clerical error. The
FACTS architecture enables the Company to modify the system quickly, resulting
in increased processing quality, efficiency and an increased ability to
implement innovations in services provided to its clients. The Company believes
that this integrated architecture helps to differentiate the Company from its
competitors.
Technological enhancements and upgrades are an ongoing part of asset
administration, caused both by a need to remain competitive and to create
information delivery mechanisms that add value to the information available as
part of clearing and settling transactions. The Company has met and continues to
meet these needs through standardized data extracts and automated interfaces
developed over the past several years, which allow the Company's clients to
connect electronically with the Company's host computer and access data
collected from clearance and settlement transactions in multiple currencies on a
real-time basis. Through these information-sharing tools, the Company is better
equipped to expand its custody and accounting services with foreign exchange
services and asset and transaction reporting and monitoring services. This
electronic linkage also positions the Company to respond quickly to client
requests.
The Company intends to further utilize the internet as a means to
communicate with clients and external parties through the creation of
applications that provide data access via the internet. Through the
implementation of its strategic internet plan, the Company will position itself
to take advantage of internet technologies while providing secure value added
services to its clients over the internet. The Company will utilize a secure
extranet environment that will serve as a foundation to all internet access and
provide authentication, access controls, intrusion detection, encryption and
firewalls needed to assure the protection of client information assets.
Internet-based applications will provide the Company's clients with secure
access to their data over the internet as well as additional flexible ad-hoc
data query and reporting tools. The internet will also be used by the Company as
a means to promote efficient hands-free operations between external parties
wherever possible.
SERVICE OFFERINGS
The Company provides a broad range of asset administration services
to the financial services industry, including global custody, multicurrency
accounting, securities lending, foreign exchange, mutual fund administration,
institutional transfer agency, performance measurement, private banking and
investment advisory services. Global custody and multicurrency accounting are
the principal asset administration services provided to the Company's clients.
Fees charged for these services reflect the highly competitive nature and
price-sensitivity of the market for such services. Securities lending and
foreign exchange services provide a more favorable pricing environment for the
Company and increased activity by the Company in these areas would not involve a
proportionate increase in personnel or other resources. Mutual fund
administration and institutional transfer agency services provide additional
revenue-generating opportunities, but require a corresponding increase in
personnel and processing resources.
Fees charged vary from client to client 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. Generally,
fees are billed to the client monthly in arrears and, upon their approval,
charged directly to their account.
The following is a description of the various services offered by
the Company.
GLOBAL CUSTODY. Global custody entails overseeing the safekeeping of
domestic and cross border securities for clients and settlement of portfolio
transactions. The Company's domestic net assets under custody have grown from
$22 billion at October 31, 1990 to $269 billion at December 31, 1999. Examples
of the safekeeping of cross-border securities for clients include the
safekeeping of Hong Kong stocks for a Dutch mutual fund or German bonds held for
a U.S. bank-sponsored mutual fund. At December 31, 1999, the Company's foreign
net assets under custody totaled approximately $17 billion.
Custody functions are fully integrated with security movement and
control, portfolio accounting, general ledger accounting, and pricing and
evaluation through FACTS. Custody functions include:
- Settlement of purchases and sales of securities.
- Safekeeping of securities and cash.
- Tracking and collection of income and receivables, such as
dividends and distributions.
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- Reconciliation of cash and security positions.
- Disbursement of expenses.
- Calculation and reporting of cash availability to asset
managers.
- Reporting and processing of corporate actions, such as stock
splits and bond calls.
- Initiation of settlement inquiries, including reclaims for
foreign tax withholding.
- Periodic reporting of holdings, transactions, income,
corporate actions and cash flow.
In order to service its clients world-wide, the Company established
a network of global subcustodians. The Company's subcustodian network spans 91
markets, serving the growing demands for its services around the world. Since
the Company does not have its own branches in these countries, it is able to
operate in the foreign custody arena with minimal fixed costs, while the
Company's clients benefit from the ability to use a single custodian, the
Company, for all of their international investment needs.
MULTICURRENCY ACCOUNTING. Multicurrency accounting entails the daily
recordkeeping for each account or investment vehicle, including calculations of
net asset value per share, dividend rates per share, and the maintenance of all
books, records and financial reports required by the Securities and Exchange
Commission and other regulatory agencies. Due to the growth in international
investments by asset managers, traditional fund accounting tasks must be
reconciled across multiple currencies. The primary approach of the Company is to
bundle the sale of fund accounting and custody services in order to work within
the natural efficiencies and control mechanisms of its integrated custody/fund
accounting system and operational philosophy. Multicurrency accounting functions
include:
- Maintenance of the books and records of a fund in accordance
with the Investment Company Act of 1940.
- Tracking of investment transactions for use in the calculation
of tax gains and losses.
- Calculation and accrual of expenses.
- Booking of purchases, redemptions and transfers of fund shares
as directed by the transfer agent.
- Calculation of gains and losses by security and currency.
- Determination of net income.
- Calculation of daily yields in accordance with Securities and
Exchange Commission formula requirements.
- Preparation of statements of assets and liabilities and
statements of operations.
- Computation of the market value of the account.
- Calculation of the daily Net Asset Value of the account and
reporting of this value to the National Association of
Securities Dealers for publication in newspapers.
In addition to providing the above services to domestic-based
accounts and investment vehicles, the Company also provides offshore fund
accounting. The Company views the offshore market as a significant business
opportunity and will continue to invest in expansion to support client demand.
MUTUAL FUND ADMINISTRATION. The Company provides mutual fund
administration services, including management reporting, regulatory reporting,
tax and accounting, and partnership administration. Management reporting
consists of information and reporting which is of primary interest to the fund's
asset managers and its board of trustees/directors and includes:
- Preparation of detailed quarterly financial information for
presentation to fund management and its board of
trustees/directors.
- Monitoring the reporting of net asset value, settlement of
trades, and processing of stockholder transactions.
- Monitoring compliance with investment portfolio restrictions.
- Calculation of fund dividends to be declared in accordance
with management guidelines.
- Preparation and monitoring of a fund's expense budget.
Regulatory reporting is the reporting and accumulation of
information required of the fund by the Securities and Exchange Commission and
state securities regulators and includes:
- Coordination of preparation and filing of Securities and
Exchange Commission reports.
- Maintenance of effective `blue sky' registrations in
jurisdictions selected for fund sales.
- Coordination of the preparation and printing of stockholder
reports.
- Preparation of prospectus update and proxy material.
- Coordination of on-going `blue sky' compliance.
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Tax and accounting is required either by the fund's auditors or by
Internal Revenue Service rules and regulations and includes:
- Performing portfolio compliance testing to establish
qualification as a regulated investment company.
- Preparation of income and excise tax returns.
- Preparation of audit package for use by independent public
accountants.
- Coordination of review of income, capital gains, and
distribution information.
In addition to on-going services, the Company also provides mutual
fund start-up consulting services, which typically include assistance with
product definition, service provider selection, and fund structuring and
registration. The Company has worked with a number of investment advisors to
assist them in the development of new mutual funds and other pooled investment
vehicles.
FOREIGN EXCHANGE. The Company provides foreign exchange services to
facilitate settlement of international securities transactions for U.S. dollar
denominated mutual funds and other accounts and to convert income payments
denominated in a non-U.S. currency to U.S. dollars. By using the Company rather
than a third party foreign exchange bank to perform these functions, clients
reduce the amount of time spent coordinating currency delivery and monitoring
delivery failures and claims. The Company engages in limited foreign exchange
trading transactions for its own account.
SECURITIES LENDING. Securities lending involves the lending of
clients' securities to brokers and other institutions for a fee, which improves
a client's return on the underlying securities. The Company acts as agent for
its clients for both international and domestic securities lending services. The
Company retains as compensation a portion of the lending fee due to the client
as owner of the borrowed asset.
Through a network of broker/dealers, the Company places the
securities out on loan pursuant to client instruction, delivers the subject
securities and performs the necessary loan accounting. Accounting entails
monitoring each security out on loan by broker, allocating the loans to each
fund, tracking the fixed or variable rebate due the broker, updating the daily
investments, applying the earnings to each security loan and preparing daily and
monthly earnings statements for each fund and all the brokers.
All loans are fully collateralized with cash, government securities
or a letter of credit. This collateral is reinvested according to each client's
instructions. The Company monitors all outstanding loans on a daily basis by
reviewing exposure by broker, performing asset reconciliations, and marking each
security to market to ensure that proper collateral levels are maintained.
INSTITUTIONAL TRANSFER AGENCY. Transfer agency encompasses mutual
fund shareholder recordkeeping and communications. Services include tracking
capital shares, fulfilling purchase, transfer, and redemption requests, and
sending account statements, tax reporting information and distributions to
shareholders. These services are generally provided only to institutional
clients with smaller numbers of outstanding shareholders or omnibus positions of
retail shareholders.
PERFORMANCE MEASUREMENT. Performance measurement services involve
the creation of systems and databases that enable asset managers to construct,
manage, and analyze their portfolios. Services include portfolio profile
analysis, portfolio return analysis, and customized benchmark construction.
Performance measurement uses data already captured by FACTS to calculate
statistics and report them to asset managers.
INSTITUTIONAL CUSTODY SERVICES. The Company offers institutional
custody services to individuals, family groups, trusts, endowments and
foundations, and retirement plans. The Company develops this client base by
forming relationships with investment advisors and working with the advisors to
service mutual clients. The Company provided institutional custody services to
approximately 12,000 accounts at December 31, 1999.
While competitors tend to focus on the large institutional
opportunities, the Company targets the small to mid-size institutional custody
market. Custody services provided to these clients include the safekeeping of
securities and the settlement of securities transactions. Custody service fees
are determined based on assets under custody and the number of transactions in
each account.
Acting as a fiduciary for certain of these accounts, the Company
provides trust administration and estate settlement services. These services
include on-going fiduciary review of the trust instrument, collection and
safekeeping of assets, distribution of income, appropriate reporting for court
and tax purposes, preparation of tax returns, and distribution of assets as
required. The Company does not provide investment advice, but works closely with
third-party investment advisors chosen by each client to carry out the
investment of assets. The acquisition in 1998 of BankBoston's domestic
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institutional trust and custody business expanded the Company's presence in the
institutional custody marketplace and added greater depth and diversity to the
Company's client base.
BANKING SERVICES. The Company offers credit lines to its clients for
the purpose of leveraging portfolios and covering overnight cash shortfalls.
Additionally, the Company's clients, which consist mainly of managers of mutual
funds, unit investment trusts and other pooled asset products, typically
generate large cash balances from securities sales and other transactions which
they wish to invest on a short-term basis. The Company does not conduct
consumer-banking operations.
At December 31, 1999, the Company had gross loans outstanding to
individuals, non-profit institutions and mutual funds of approximately $109
million, which represented approximately 4% of the Company's total assets. The
interest rates charged on the Bank's loans are indexed to either the prime rate
or the rate paid on 90-day Treasury bills. The Company has never had a loan
loss, and has no delinquent loans. Other than a loan made to a non-profit
association for purposes of the Community Reinvestment Act, all loans are
secured, or may be secured, by marketable securities and are due on demand.
INVESTMENT ADVISORY. The Bank acts as investment adviser to the
Merrimac Master Portfolio (the `Portfolio'), an open-end management investment
company registered under the Investment Company Act of 1940. The Portfolio
currently consists of a series of four master funds in a master-feeder
structure. The Merrimac Cash Portfolio and the Merrimac U.S. Government
Portfolio are sub-advised by Allmerica Asset Management, Inc. The Merrimac
Treasury Portfolio and the Merrimac Treasury Plus Portfolio are sub-advised by
M&I Investment Management Corp. At December 31, 1999, the total net assets of
the Portfolio approximated $1.7 billion.
The Portfolio funds serve as investment vehicles for five domestic
and one offshore feeder funds which have been created by the Bank and whose
shares are sold to institutional investors. The Bank or its affiliates also have
entered into agreements to provide custody, fund accounting, administration and
transfer agency to the Portfolio and the feeder funds. Additional master funds
or feeder funds may be added in the future.
SALES, MARKETING AND CLIENT SUPPORT
The Company employs a direct sales staff that targets potential
market areas, including investment management companies, insurance companies,
banks and investment advisors. Sales personnel are primarily based at the
Company's headquarters in Boston, and are given geographic area sales
responsibility. The Company also has one sales person located in Dublin who is
responsible for international markets. Included in the sales staff are
individuals who are dedicated to marketing services to institutional accounts.
Senior managers from all functional areas are directly involved in obtaining new
clients, frequently working as a team with a sales professional.
In order to service existing clients, a client management staff
based in the Company's Boston office and an individual located in Dublin,
provide client support. Each client is assigned a Client Manager responsible for
the overall satisfaction of the client. The Client Manager is usually a senior
professional with extensive industry experience and works with the client on
contracts, new products and specific systems requirements, providing consulting
support, anticipating the client's needs and coordinating service delivery.
SIGNIFICANT CLIENTS
The Company presently provides services to approximately 78 mutual
fund complexes and insurance companies. The Company's largest current client,
Eaton Vance, accounted for 10%, 9% and 7% of the Company's net operating
revenues for the years ended December 31, 1997, 1998 and 1999 respectively. No
other single client of the Company represented more than 10% of net operating
revenues during this three-year period.
SOFTWARE SYSTEMS AND DATA CENTER
The Company's asset administration operations are supported by
sophisticated computer technology. The Company receives vast amounts of
information across a worldwide computer network. That information, which covers
a wide range of global security types and complex portfolio structures in
various currencies, must then be processed, resulting in system-wide updating
and reporting. The Company must have the capability to provide not only daily
and periodic reports of asset accounting and performance, but also to provide
measurement and analytical data to asset managers on-line on a real time basis.
FACTS is a multi-tiered system that utilizes microcomputers linked
to mainframe processing by means of local and wide area networks. This
configuration combines the best features of each platform by utilizing the power
and capacity of the mainframe, the data distribution capabilities of the network
and the independence of microcomputers. The fully
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functional microcomputer component of FACTS works independently of the mainframe
throughout the processing cycle, minimizing the amount of system-wide delay
inherent in data processing. The FACTS configuration also allows for full
distributed processing capabilities within multiple geographic locations in an
effective and efficient manner.
The integrated nature of the FACTS architecture allows the Company
to effect modifications and enhancements quickly, resulting in increased
processing quality and efficiency for the Company's clients and an increased
ability to implement innovation in services provided to the Company's clients.
This integrated architecture helps differentiate the Company from its
competitors. System enhancements are an ongoing part of asset administration,
both to keep ahead of the competition by providing innovative processing
solutions and to create information delivery mechanisms that add value to the
custody and fund accounting information. The Company has developed a
comprehensive suite of standardized data extracts and reports and created
automated interfaces that allow its clients to access the full range of custody
and fund accounting data on a real-time basis.
The Company's mainframe processing services component is provided by
Electronic Data Systems (`EDS') located in Plano, Texas. By outsourcing
mainframe processing, the Company can focus its resources on systems development
and minimize its capital investment in large-scale computer equipment. EDS is
able to offer the Company up-to-date computer products and services to which the
Company would not otherwise have access, while removing the risk of product
obsolescence. Due to its diverse customer base, EDS can invest in the latest
computer technology and spread the related costs over multiple users. In
addition, the defined pricing charged by EDS for its products and services
provides the Company with the financial certainty needed to be able to dedicate
its efforts to the ongoing enhancement of its software systems while receiving
the benefit of the continuing investment by EDS in its computer hardware.
The current agreement between the Company and EDS obligates EDS to
provide the Company with comprehensive data processing services and obligates
the Company to utilize EDS's services for substantially all of the Company's
data processing requirements. The Company is billed monthly for these services
on an as-used basis in accordance with a predetermined pricing schedule for
specific products and services. EDS began providing services to the Company in
December 1990 and the Company's current agreement with EDS is scheduled to
expire on December 31, 2005.
In addition, EDS provides mainframe disaster recovery services. EDS
maintains additional processing equipment at the Plano information processing
center (`IPC') and at a designated alternate IPC which may be used in the event
of equipment failure. The Plano facility is also supported by an uninterruptable
power supply and diesel generators which can supply power to continue operations
for an extended period of time. EDS ensures critical software and data files are
backed-up daily and stored off-site. Disaster recovery plans are tested through
simulations conducted by the Company annually. Notwithstanding these
precautions, there can be no assurance that a fire or other natural disaster
affecting the data center would not disable the host computer system.
The Company maintains a comprehensive disaster recovery plan. The
plan identifies teams to manage disaster situations and re-establish a
functioning operational environment and provides for the relocation of
employees, forms and supplies, report distribution and the coordination of all
activities between users and data processing functions. The plan also identifies
the core business processes for each functional area within the Company and the
associated contingency plans for each area.
The Company has entered into an agreement with Comdisco, a leader in
the business recovery field. Comdisco provides continuity services to ensure
minimal disruption to critical business operations. Comdisco's client/server
facilities are fully equipped to recreate the Company's processing and
information flows. Comdisco will provide the Company with an off-site facility
equipped with hardware, networking and communication functions, in the event of
a disaster, containing sufficient office space, equipment and data required to
restore the Company's core business in as little as four to six hours. The
Company has access to Comdisco's recovery sites in MA., New Jersey, and New York
as well as 25 additional recovery locations throughout North America. The
Company's use of Comdisco's off-site facility is shared with other companies and
is subject to a `first-come, first-served' policy in the event of a disaster
declaration.
With the securities industry moving to a Trade Date +1 (`T+1')
settlement cycle, the Company has begun making systems infrastructure and
functional modifications required to provide straight through processing
capabilities in a T+1 environment. A comprehensive development and
implementation plan is in place to assure that all industry imposed deadlines
are met and that the transition to the T+1 environment is accomplished without
adversely affecting the operations of the Company or the services provided to
its clients.
The securities industry's initiative that will change market quotes
for securities to a decimal format will have virtually no impact on the systems
processing of the Company. The Company has reviewed its core systems and their
internal and external interfaces and has verified that security quotations are
currently maintained in decimal format throughout and that processing will not
be affected by this industry change.
8
<PAGE>
COMPETITION
The Company operates in a highly competitive environment in all
areas of its business. Many of the Company's competitors possess substantially
greater financial, sales and marketing resources than the Company and process a
greater amount of financial assets than the Company. Moreover, under the
Gramm-Leach-Bliley Act of 1999 (the "Gramm-Leach-Bliley Act"), effective March
11, 2000, securities firms, insurance companies and other financial services
providers that elect to become financial holding companies may acquire banks and
other financial institutions. The Gramm-Leach-Bliley Act may significantly
change the competitive environment in which the Company conduct business. See
"Regulation and Supervision" below. In addition to facing competition from other
deposit-taking institutions, the Company also faces competition from large
in-house accounting departments of mutual fund complexes, insurance companies
and banks offering proprietary mutual funds. Competitive factors include
technological advancement and flexibility, breadth of services provided and
quality of service. The Company believes that it competes favorably in these
categories.
Competition in the asset administration industry has reduced pricing
in almost all business segments, particularly with respect to custody services
and trustee services. Partially offsetting this trend is the development of new
services that have higher margins. The Company's continuous investment in
technology has permitted it to offer value-added services to clients, such as
offshore custody and fund accounting, securities lending and foreign exchange,
at competitive prices on a global basis. Technological evolution and service
innovation enable the Company to generate additional revenues to offset price
pressure in maturing service lines.
The Company believes that its size and responsiveness to client
needs provide the financial services industry with an asset administration
alternative to superregional and money center banks and other administration
providers. While consolidation within the industry may adversely affect the
Company's ability to retain clients that have been acquired, consolidation also
creates opportunity for the Company as prospective clients review their
relationships with existing service providers. In addition, consolidation among
large financial institutions may enable the Company to acquire, at a reasonable
price, asset administration businesses that do not fit within the core focus of
these new, consolidated financial institutions.
INTELLECTUAL PROPERTY
The Company's success is dependent upon its software development
methodology and other intellectual property rights developed and owned by the
Company, including FACTS. The Company relies on a combination of trade secret,
nondisclosure and other contractual arrangements and technical measures, and
copyright and trademark laws to protect its proprietary rights. The Company
generally enters into confidentiality agreements with its employees and
consultants, and limits access to and distribution of its proprietary
information. There can be no assurance that the steps taken by the Company in
this regard will be adequate to deter misappropriation of its proprietary
information or that the Company will be able to detect unauthorized use and take
appropriate steps to enforce its intellectual property rights. Furthermore, such
protections may not preclude competitors from developing products and services
with functionality or features similar to those of the Company. In addition,
effective copyright, trademark and other trade protection may not be available
in certain international markets serviced by the Company. The registration of
the service mark Investors Bank & Trust Company will remain in force until 2006,
at which time it may be renewed.
Although the Company believes that its services do not infringe on
the intellectual property rights of others, there can be no assurance that such
a claim will not be asserted against the Company in the future.
EMPLOYEES
At December 31, 1999, the Company had 1,507 employees. The Company
maintains a five-week professional development program for entry level staff.
Successful completion of the program is required of most newly hired employees.
Topics covered during the program include an overview of the financial services
industry and regulatory environment, principles of investment company
accounting, instruction in operating and control procedures, manual performance
of fund accounting tasks and intensive training on FACTS. This training program
is supplemented by ongoing education on the industry and client base.
9
<PAGE>
REGULATION AND SUPERVISION
In addition to the generally applicable state and federal laws
governing businesses and employers, the Company and the Bank are further
regulated by federal and state laws and regulations applicable to financial
institutions and their parent companies. Virtually all aspects of the Company's
and the Bank's operations are subject to specific requirements or restrictions
and general regulatory oversight. State and federal banking laws have as their
principal objective either the maintenance of the safety and soundness of
financial institutions and the federal deposit insurance system or the
protection of consumers or classes of consumers, rather than the specific
protection of stockholders of a bank or its parent company. To the extent the
following material describes statutory or regulatory provisions, it is qualified
in its entirety by reference to the particular statute or regulation.
THE COMPANY
GENERAL. The Company, as a bank holding company, is subject to
regulation and supervision by the Federal Reserve Board (the `FRB') and by the
Massachusetts Commissioner of Banks (the `Commissioner'). The Company is
required to file annually a report of its operations with, and is subject to
examination by, the FRB and the Commissioner. The FRB has the authority to issue
orders to bank holding companies to cease and desist from unsound banking
practices and violations of conditions imposed by, or violations of agreements
with, the FRB. The FRB is also empowered to assess civil monetary penalties
against companies or individuals who violate the Bank Holding Company Act of
1956, as amended, (the `BHCA') or orders or regulations thereunder, to order
termination of non-banking activities of non-banking subsidiaries of bank
holding companies, and to order termination of ownership and control of a
non-banking subsidiary by a bank holding company.
BHCA - ACTIVITIES AND OTHER LIMITATIONS. The BHCA prohibits a bank
holding company from acquiring substantially all the assets of a bank or
acquiring direct or indirect ownership or control of more than 5% of the voting
shares of any bank, or increasing such ownership or control of any bank, or
merging or consolidating with any bank holding company without prior approval of
the FRB. The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994
(the `Interstate Act') generally authorizes bank holding companies to acquire
banks located in any state, possibly subject to certain state-imposed age and
deposit concentration limits, and also generally authorizes interstate mergers
and to a lesser extent, interstate branching.
Provided that a bank holding company does not become a "financial
holding company" under the recently enacted Gramm-Leach-Bliley Act (as discussed
below), the BHCA also prohibits a bank holding company from acquiring a direct
or indirect interest in or control of more than 5% of the voting shares of any
company which is not a bank or bank holding company and from engaging directly
or indirectly in activities other than those of banking, managing or controlling
banks or furnishing services to its subsidiary banks, except that it may engage
in and may own shares of companies engaged in certain activities the FRB has
determined to be so closely related to banking or managing and controlling banks
as to be a proper incident thereto. In making such determinations, the FRB is
required to weigh the expected benefit to the public, such as greater
convenience, increased competition or gains in efficiency, against the possible
adverse effects, such as undue concentration of resources, decreased or unfair
competition, conflicts of interests or unsound banking practices.
As to the Gramm-Leach-Bliley Act, the legislation, which became law
on November 12, 1999, repeals provisions of the Glass-Steagall Act: Section 20,
which restricted the affiliation of banks with firms "engaged principally" in
specified securities activities; and Section 32, which restricts officer,
director, or employee interlocks between a bank and any company or person
"primarily engaged" in specified securities activities. Moreover, the general
effect of the law is to establish a comprehensive framework to permit
affiliations among commercial banks, insurance companies, securities firms, and
other financial service providers by revising and expanding the BHCA framework
to permit a holding company system, such as the Company, to engage in a full
range of financial activities through a new entity known as a financial holding
company. "Financial activities" is broadly defined to include not only banking,
insurance, and securities activities, but also merchant banking and additional
activities that the FRB, in consultation with the Secretary of the Treasury,
determines to be financial in nature, incidental to such financial activities,
or complementary activities that do not pose a substantial risk to the safety
and soundness of depository institutions or the financial system generally. In
sum, the Gramm-Leach-Bliley Act is intended to permit bank holding companies
that qualify and elect to be treated as a financial holding company to engage in
a significantly broader range of financial activities than the companies
described above that are not so treated.
10
<PAGE>
Generally, although significant implementing regulations have yet to
be published, the Gramm-Leach-Bliley Act:
- repeals historical restrictions on, and eliminates many
federal and state law barriers to, affiliations among banks,
securities firms, insurance companies, and other financial
service providers;
- provides a uniform framework for the functional regulation of
the activities of banks, savings institutions, and their
holding companies;
- broadens the activities that may be conducted by national
banks (and derivatively state banks), banking subsidiaries of
bank holding companies, and their financial subsidiaries;
- provides an enhanced framework for protecting the privacy of
consumer information;
- adopts a number of provisions related to the capitalization,
membership, corporate governance, and other measures designed
to modernize the Federal Home Loan Bank system;
- modifies the laws governing the implementation of the
Community Reinvestment Act of 1977; and
- addresses a variety of other legal and regulatory issues
affecting both day-to-day operations and long-term activities
of financial institutions.
In order to elect to become a financial holding company and engage
in the new activities, a bank holding company, such as the Company, must meet
certain tests and file an election form with the FRB which generally is acted on
within thirty days. To qualify, all of a bank holding company's subsidiary banks
must be well-capitalized (as discussed below under "The Bank") and well-managed,
as measured by regulatory guidelines. In addition, to engage in the new
activities each of the bank holding company's banks must have been rated
"satisfactory" or better in its most recent federal Community Reinvestment Act
evaluation. Furthermore, a bank holding company that elects to be treated as a
financial holding company may face significant consequences if its banks fail to
maintain the required capital and management ratings, including entering into an
agreement with the FRB which imposes limitations on its operations and may even
require divestitures. Such possible ramifications may limit the ability of a
bank subsidiary to significantly expand or acquire less than well-capitalized
and well-managed institutions. At this time, the Company has not determined
whether it will become a financial holding company.
CAPITAL REQUIREMENTS. The FRB has adopted capital adequacy
guidelines pursuant to which it assesses the adequacy of capital in examining
and supervising a bank holding company and in analyzing applications to it under
the BHCA. These capital adequacy guidelines generally require bank holding
companies to maintain total capital equal to 8% of total risk-adjusted assets
and off-balance sheet items (the `Total Risk-Based Capital Ratio'), with at
least one-half of that amount consisting of Tier I or core capital and the
remaining amount consisting of Tier II or supplementary capital. Tier I capital
for bank holding companies generally consists of the sum of common stockholders'
equity and perpetual preferred stock (subject in the case of the latter to
limitations on the kind and amount of such stocks which may be included as Tier
I capital), less goodwill. Tier II capital generally consists of hybrid capital
instruments; perpetual preferred stock, which is not eligible to be included as
Tier I capital; term subordinated debt and intermediate-term preferred stock;
and, subject to limitations, general allowances for loan losses. Assets are
adjusted under the risk-based guidelines to take into account different risk
characteristics.
In addition to the risk-based capital requirements, the FRB requires
bank holding companies to maintain a minimum leverage capital ratio of Tier I
capital (defined by reference to the risk-based capital guidelines) to total
assets (the `Leverage Ratio') of 3.0%. Total assets for this purpose does not
include goodwill and any other intangible assets and investments that the FRB
determines should be deducted from Tier I capital. The FRB has announced that
the 3.0% Leverage Ratio requirement is the minimum for the top-rated bank
holding companies without any supervisory, financial or operational weaknesses
or deficiencies or those, which are not experiencing or anticipating significant
growth. Because the Bank, and consequently, the Company, anticipates significant
future growth, the Company will be required to maintain Leverage Ratios of at
least 4.0% to 5.0% or more.
The Company currently is in compliance with both the Risk Based
Capital Ratio and the Leverage Ratio requirements. At December 31, 1999, the
Company had a Tier I Risk Based Capital Ratio and a Total Risk Based Capital
Ratio equal to 14.96% and 14.97%, respectively and a Leverage Ratio equal to
5.46%. International bank supervisory organizations, principally the Basel
Committee on Banking Supervision, currently are considering changes to the
risk-based capital adequacy framework which ultimately could affect the FRB's
guidelines.
11
<PAGE>
LIMITATIONS ON ACQUISITIONS OF COMMON STOCK. The Federal Change in
Bank Control Act prohibits a person or group of persons from acquiring `control'
of a bank holding company unless the FRB has been given at least 60 days to
review the proposal. Under a rebuttable presumption established by the FRB, the
acquisition of 10% or more of a class of voting stock of a bank holding company,
such as the Company, with a class of securities registered under Section 12 of
the Securities Exchange Act of 1934, as amended (the `Exchange Act') would,
under the circumstances set forth in the presumption, constitute the acquisition
of control.
In addition, any company, as that term is broadly defined in the
statute, would be required to obtain the approval of the FRB under the BHCA
before acquiring 25% (5% in the case of an acquirer that is a bank holding
company) or more, or such lesser percentage as the FRB deems to constitute
control over the Company, of the outstanding Common Stock of the Company.
MASSACHUSETTS LAW. Massachusetts law generally defines a bank
holding company as a company which owns or controls two or more banks. Although
the Company owns or controls only one bank, it is deemed a bank holding company
for purposes of Massachusetts law due to the manner in which it acquired the
Bank. Accordingly, the Company has registered with the Commissioner and is
obligated to make reports to the Commissioner. Further, as a Massachusetts bank
holding company, the Company may not acquire all or substantially all of the
stock or assets of a banking institution or merge or consolidate with another
bank holding company without the prior consent of the Massachusetts Board of
Bank Incorporation (the `BBI'). As a condition of such consent, the BBI must
receive notice from the Massachusetts Housing Partnership Fund (the `Fund') that
arrangements satisfactory to the Fund have been made by the Company to make 0.9%
of its assets available for financing, down payment assistance, share loans,
closing costs and other costs related to programs promoted by the Fund,
including those related to creating affordable rental housing, limited equity
cooperatives, and tenant management programs. As a general matter, however, the
Commissioner does not rule upon or regulate the activities in which bank holding
companies or their nonbank subsidiaries engage.
THE BANK
GENERAL. The Bank is subject to extensive regulation and examination
by the Commissioner and by the FDIC, which insures its deposits to the maximum
extent permitted by law, and to certain requirements established by the FRB. The
federal and state laws and regulations which are applicable to banks regulate
among other things, the scope of their business, their investments, their
reserves against deposits, the timing of the availability of deposited funds and
the nature and amount of and collateral for certain loans.
FDIC INSURANCE PREMIUMS. The Bank pays deposit insurance premiums to
the FDIC based on an assessment rate established by the FDIC for Bank Insurance
Fund-member institutions. The FDIC has established a risk-based assessment
system under which institutions are classified, and generally pay premiums
according to their perceived risk to the federal deposit insurance funds. In
addition, starting in the Year 2000 banks will have to pay the same assessments
for FICO bonds issued in connection with the thrift bailout in the late 1980s
and early 1990s, as Savings Association Insurance Fund-insured banks must pay.
CAPITAL REQUIREMENTS. The FDIC has promulgated regulations and
adopted a statement of policy regarding the capital adequacy of state-chartered
banks, which, like the Bank, are not members of the Federal Reserve System.
These requirements are substantially similar to those adopted by the FRB
regarding bank holding companies, as described above.
Moreover, the federal banking agencies have promulgated
substantially similar regulations to implement the system of prompt corrective
action established by Section 38 of the FDIA. Under the regulations, a bank
generally shall be deemed to be (i) `well capitalized' if it has Total Risk
Based Capital Ratio of 10.0% or more, has a Tier I Risk Based Capital Ratio of
6.0% or more, has a Leverage Ratio of 5.0% or more and is not subject to any
written capital order or directive; (ii) `adequately capitalized' if it has a
total Risk Based Capital Ratio of 8.0% or more, a Tier I Risk Based Capital
Ratio of 4.0% or more, and a Leverage Ratio of 4.0% or more (3.0% under certain
circumstances) and does not meet the definition of `well capitalized,' (iii)
`undercapitalized' if it has a Total Risk Based Capital Ratio that is less than
8.0%, a Tier I Risk Based Capital Ratio that is less than 4.0% or a Leverage
Ratio that is less than 4.0% (3.0% under certain circumstances), (iv)
`significantly undercapitalized' if it has a Total Risk Based Capital Ratio that
is less than 6.0%, a Tier I Risk Based Capital Ratio that is less than 3.0% or a
Leverage Ratio that is less than 3.0%, and (v) `critically undercapitalized' if
it has a ratio of tangible equity to total assets that is equal to or less than
2.0%.
An institution generally must file a written capital restoration
plan which meets specified requirements with an appropriate federal banking
agency within 45 days of the date that the institution receives notice or is
deemed to have notice that it is undercapitalized, significantly
undercapitalized or critically undercapitalized. A federal banking agency must
provide the institution with written notice of approval or disapproval with 60
days after receiving a capital restoration plan, subject to extensions by the
agency. An institution, which is required to submit a capital restoration plan,
must concurrently submit a performance guaranty by each company that controls
the institution.
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<PAGE>
A critically undercapitalized institution is to be placed in
conservatorship or receivership within 90 days unless the FDIC formally
determines that forbearance from such action would better protect the deposit
insurance fund. Unless the FDIC or other appropriate federal banking regulatory
agency makes specific further findings and certifies that the institution is
viable and is not expected to fail, an institution that remains critically
undercapitalized on average during the fourth calendar quarter after the date it
becomes critically undercapitalized must be placed in receivership.
Immediately upon becoming undercapitalized, an institution becomes
subject to the provisions of Section 38 of the FDIA (i) restricting payment of
capital distributions and management fees, (ii) requiring that the appropriate
federal banking agency monitor the condition of the institution and its efforts
to restore its capital, (iii) requiring submission of a capital restoration
plan, (iv) restricting the growth of the institution's assets and (v) requiring
prior approval of certain expansion proposals. The appropriate federal banking
agency for an undercapitalized institution also may take any of a number of
discretionary supervisory actions if the agency determines that any of these
actions is necessary to resolve the problems of the institution at the least
possible long-term cost to the deposit insurance fund, subject in certain cases
to specified procedures.
At December 31, 1999, the Bank was deemed to be a well capitalized
institution for the above purposes. Bank regulators may raise capital
requirements applicable to banking organizations beyond current levels. Because
the Company is unable to predict whether higher capital requirements will be
imposed and, if so, at what levels and on what schedules, it therefore cannot
predict what effect such higher requirements may have on the Company and the
Bank. As is discussed above, being a well-capitalized institution is one
requirement for the Company to be treated as a financial holding company, if it
elects to be so treated.
BROKERED DEPOSITS. The FDIA restricts the use of brokered deposits
by certain depository institutions. Under the FDIA and applicable regulations,
(i) a well capitalized institution may solicit and accept, renew or roll over
any brokered deposit without restriction, (ii) an adequately capitalized
institution may not (x) accept, renew or roll over any brokered deposit unless
it has applied for and been granted a waiver of this prohibition by the FDIC or
(y) solicit deposits by offering an effective yield that exceeds by more than 75
basis points the prevailing effective yields on insured deposits of comparable
maturity in such institution's normal market area or in the market area in which
such deposits are being solicited and (iii) an undercapitalized institution may
not (x) accept, renew or roll over any brokered deposits or (y) solicit deposits
by offering an effective yield that exceeds by more than 75 basis points the
prevailing effective yields on insured deposits of comparable maturity in such
institution's normal market area or in the market area in which such deposits
are being solicited. Currently, the Bank is deemed to be an well capitalized
insured depository institution for purposes of the restriction on the use of
brokered deposits by such institutions. The bank historically has not relied
upon brokered deposits as a source of funding and, at December 31, 1999, the
Bank did not have any brokered deposits.
TRANSACTIONS WITH AFFILIATES. The FDIA restricts the range of
permissible transactions between a bank and an affiliated company. The Bank is
subject to certain restrictions on loans to the Company, on investment in the
stock or securities thereof, on the taking of such stock or securities as
collateral for loans to any borrower, and on the issuance of a guarantee or
letter of credit on behalf of the Company. The Bank also is subject to certain
restrictions on most types of transactions with the Company, requiring that the
terms of such transactions be substantially equivalent to terms to similar
transactions with non-affiliates.
ACTIVITIES AND INVESTMENTS OF INSURED STATE-CHARTERED BANKS. Section
24 of the FDIA generally limits the activities as principal and equity
investments of FDIC-insured, state-chartered banks to those that are permissible
for national banks. Effective January, 1999 the FDIC substantially revised its
regulations implementing Section 24 to ease the ability of state banks to engage
in certain activities not permissible for national banks, and to expedite FDIC
review of bank applications and notices to engage in such activities.
Further, the Gramm-Leach-Bliley Act includes new sections of the
National Bank Act and the Federal Deposit Insurance Act governing the
establishment and operation of financial subsidiaries to permit national banks
and state banks, to the extent permitted under state law, to engage in certain
new activities which are permissible for subsidiaries of a financial holding
company. Further, it expressly preserves the ability of national banks and state
banks to retain all existing subsidiaries. In order to form a financial
subsidiary, a national bank or state bank must be well-capitalized, and such
banks would be subject to certain capital deduction, risk management and
affiliate transaction rules.
COMMUNITY REINVESTMENT ACT. The Federal Community Reinvestment Act
(`CRA') requires the FDIC and the Commissioner to evaluate the Bank's
performance in helping to meet the credit needs of the community. The Bank has
been designated as a `wholesale institution' for CRA purposes by the
Commissioner and the FDIC. This designation reflects the nature of the Company's
business as other than a retail financial institution and proscribes CRA review
criteria applicable to the Bank's particular type of business. As a part of the
CRA program, the Bank is subject to periodic examinations by the FDIC and the
Commissioner, and maintains comprehensive records of its CRA activities for this
13
<PAGE>
purpose. Management believes the Bank is currently in compliance with all CRA
requirements. The Bank has pending an application with the FDIC to become
designated a `special purpose' institution, which designation would exempt the
Bank from CRA review by the FDIC. The Bank would still be subject to review by
the Commissioner, if granted such status.
MASSACHUSETTS LAW - DIVIDENDS. Under Massachusetts law, trust
companies such as the Bank, like national banks, may pay dividends no more often
than quarterly, and only out of `net profits' and to the extent that such
payments will not impair the Bank's capital stock and surplus account. Moreover,
prior Commissioner approval is required if the total dividends for a calendar
year would exceed net profits for that year combined with retained net profits
for the previous two years. These restrictions on the ability of the Bank to pay
dividends to the Company may restrict the ability of the Company to pay
dividends to its stockholders.
REGULATORY ENFORCEMENT AUTHORITY. The enforcement powers available
to federal banking regulators include, among other things, the ability to assess
civil money penalties, to issue cease-and-desist or removal orders and to
initiate injunctive actions against banking organizations and
institution-affiliated parties, as defined. In general, these enforcement
actions may be initiated for violations of law and regulations and unsafe or
unsound practices. Other actions or inactions may provide the basis for
enforcement action, including misleading or untimely reports filed with
regulatory authorities. Federal law requires, except under certain
circumstances, public disclosure of final enforcement actions by the federal
banking agencies.
TRANSFER AGENCY. In order to serve as transfer agent to its clients
that execute transactions in publicly traded securities, the Company must
register with the SEC as a transfer agent under the Exchange Act. As a
registered transfer agent, the Company is subject to certain reporting and
recordkeeping requirements. Currently, management believes the Company is in
compliance with these registration, reporting and recordkeeping requirements.
REGULATION OF INVESTMENT COMPANIES. Certain of the Company's mutual
fund and unit investment trust clients are regulated as `investment companies'
as that term is defined under the Investment Company Act of 1940, as amended
(the `ICA'), and are subject to examination and reporting requirements
applicable to the services provided by the Company.
The provisions of the ICA and the regulations promulgated thereunder
prescribe the type of institution which may act as a custodian of investment
company assets, as well as the manner in which a custodian administers the
assets in its custody. Because the Company serves as custodian for a number of
its investment company clients, these regulations require, among other things,
that the Company maintain certain minimum aggregate capital, surplus, and
undivided profits. Additionally, arrangements between the Company and clearing
agencies or other securities depositories must meet ICA requirements for
segregation of assets, identification of assets and client approval. Future
legislative and regulatory changes in the existing laws and regulations
governing custody of investment company assets, particularly with respect to
custodian qualifications, may have a material and adverse impact on the Company.
Currently, management believes the Company is in compliance with all minimum
capital and securities depository requirements. Further, the Company is not
aware of any proposed or pending regulatory developments, which, if approved,
would adversely affect the ability of the Company to act as custodian to an
investment company.
Investment companies are also subject to extensive recordkeeping and
reporting requirements. These requirements dictate the type, volume and duration
of the record keeping undertaken by the Company, either in its role as custodian
for an investment company or as a provider of administrative services to an
investment company. Further, the Company must follow specific ICA guidelines
when calculating the net asset value of a client mutual fund. Consequently,
changes in the statutes or regulations governing recordkeeping and reporting or
valuation calculations will affect the manner in which the Company conducts its
operations.
New legislation or regulatory requirements could have a significant
impact on the information reporting requirements applicable to the Company's
clients and may in the short term adversely affect the Company's ability to
service those clients at a reasonable cost. Any failure by the Company to
provide such support could cause the loss of customers and have a material
adverse effect on the Company's financial results. Additionally, legislation or
regulations may be proposed or enacted to regulate the Company in a manner,
which may adversely affect the Company's financial results.
OTHER SECURITIES LAWS ISSUES. The Gramm-Leach-Bliley Act also
amended the federal securities laws to, effective May, 2001, eliminate the
blanket exceptions that banks traditionally have had from the definition of
broker dealer and investment adviser. Accordingly, banks not falling within the
specific exemptions provided by the new law may have to register with the SEC as
a broker-dealer and/or investment adviser, as appropriate, and became subject to
SEC jurisdiction. For example, banks acting as investment advisors to registered
mutual funds, such as the Bank, will not be exempt, nor likely will banks that
engage in third party non-custodial securities lending arrangements.
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<PAGE>
ITEM 2. PROPERTIES.
As of December 31, 1999, the Company leased two offices located in
Boston, MA, one in New York, NY, and foreign offices in Toronto, Canada and
Dublin, Ireland for its offshore funds processing business.
The following table provides certain summary information with
respect to the principal properties that the Company leases:
<TABLE>
<CAPTION>
LOCATION FUNCTION SQ. FT. EXPIRATION DATE
- -------- -------- ------- ---------------
<S> <C> <C> <C>
200 Clarendon St., Boston, MA Principal Executive Offices 259,178 2007
and Operations Center
1 Exeter Plaza, Boston, MA Training Center 11,375 2001
600 Fifth Avenue, New York, NY Operations Center 7,751 2005
1 First Canadian Place, Toronto Offshore Processing Center 17,790 2001
Earlsfort Terrace, Dublin Offshore Processing Center 10,635 2002
</TABLE>
The Company entered into an agreement to lease 62,840 square feet at
Copley Place, located in Boston, Massachusetts, to commence in 2000 in order to
expand its Boston operations. See Note 15 of the Notes to Consolidated Financial
Statements.
ITEM 3. LEGAL PROCEEDINGS.
The Company is from time to time subject to claims arising in the
ordinary course of business. While the outcome of any such claim cannot be
predicted with certainty, management does not expect these matters, either
individually or in the aggregate, to have a material adverse effect on the
results of operations and financial condition of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matters were submitted to a vote of the Company's security
holders during the quarter ended December 31, 1999.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
PRICE RANGE OF COMMON STOCK AND DIVIDEND POLICY
The Company's Common Stock is currently included in The Nasdaq National Market
under the symbol IFIN. The following table sets forth the range of high and low
sales prices for the Company's Common Stock as reported by NASDAQ.
<TABLE>
<CAPTION>
1999
HIGH LOW
---- ---
<S> <C> <C>
First Quarter $33.000 $26.750
Second Quarter $40.563 $29.000
Third Quarter $45.000 $32.000
Fourth Quarter $49.438 $31.250
<CAPTION>
1998
HIGH LOW
---- ---
<S> <C> <C>
First Quarter $28.000 $20.500
Second Quarter $29.782 $24.750
Third Quarter $34.188 $20.188
Fourth Quarter $32.500 $15.750
</TABLE>
As of February 16, 2000, there were approximately 937 stockholders of record.
15
<PAGE>
DIVIDENDS
The Company currently intends to retain the majority of future
earnings to fund the development and growth of its business. The Company's
ability to pay dividends on the Common Stock may depend on the receipt of
dividends from the Bank. In addition, the Company may not pay dividends on its
Common Stock if it is in default under certain agreements which the Company
entered into in connection with the sale of the 9.77% Capital Securities by
Investors Capital Trust I. See `Management's Discussion and Analysis of
Financial Condition and Results of Operations - Capital Resources.' Any dividend
payments by the Bank are subject to certain restrictions imposed by the
Massachusetts Commissioner of Banks. See `Business - Regulation and
Supervision.' Subject to regulatory requirements, the Company expects to pay an
annual dividend to its stockholders, currently estimated to be in an amount
equal to $.12 per share of outstanding Common Stock (approximately $1.8 million
based upon 14,610,154 shares outstanding as of December 31, 1999). The Company
expects to declare and pay such dividend ratably on a quarterly basis.
16
<PAGE>
ITEM 6. SELECTED FINANCIAL DATA.
The following table contains the Company's consolidated financial
and statistical information, and should be read in conjunction with
`Management's Discussion and Analysis of Financial Condition and Results of
Operations,' the Company's Consolidated Financial Statements and Notes to
Consolidated Financial Statements, and other financial information appearing
elsewhere in this Annual Report. Information reported for years prior to 1998
have been restated for the acquisition of AMT Capital Services, Inc., which was
accounted for as a pooling-of-interests. This restated information was first
filed with the Securities and Exchange Commission (`SEC') on August 18, 1998.
<TABLE>
<CAPTION>
For the Two
Months Ended
For the Year Ended December 31, December 31,
------------- -------------- ------------- ------------- -------------
1999 1998 1997 1996 1995
------------- -------------- ------------- ------------- -------------
(Dollars in thousands, except per share and employee data)
<S> <C> <C> <C> <C> <C>
STATEMENT OF INCOME DATA:
Net interest income $ 35,773 $ 26,694 $ 26,173 $ 17,944 $ 1,966
Non-interest income 133,761 98,023 82,524 59,189 8,407
Gain/(loss) on sale of investment
securities -- 833 114 (2) --
------------- ------------- ------------- ------------- -------------
Net operating revenues 169,534 125,550 108,811 77,131 10,373
Operating expenses 135,815 99,584 87,362 64,613 8,877
------------- ------------- ------------- ------------- -------------
Income before income taxes and
minority interest 33,719 25,966 21,449 12,518 1,496
Income taxes 10,790 9,348 7,382 4,852 664
Minority interest expense 1,661 1,563 1,437 -- --
------------- ------------- ------------- ------------- -------------
Net income $ 21,268 $ 15,055 $ 12,630 $ 7,666 $ 832
============= ============= ============= ============= =============
PER SHARE DATA (6):
Basic earnings per share $ 1.49 $ 1.12 $ 0.95 $ 0.58 $ 0.07
============= ============= ============ ============ =============
Diluted earnings per share $ 1.43 $ 1.09 $ 0.93 $ 0.57 $ 0.06
============= ============ ============ ============ =============
Dividends per share $ 0.08 $ 0.06 $ 0.04 $ 0.02
============= ============ ============ =============
BALANCE SHEET DATA:
Total assets at end of period $ 2,553,080 $ 1,465,508 $ 1,460,447 $ 965,394 $ 332,436
AVERAGE BALANCE SHEET DATA:
Interest earning assets $ 1,837,963 $ 1,443,487 $ 1,167,361 $ 575,662 $ 219,775
Total assets 1,970,702 1,542,765 1,236,519 628,893 249,064
Total deposits 1,150,814 845,093 594,768 377,219 197,013
Common stockholders' equity 118,622 81,456 68,370 56,137 34,000
SELECTED FINANCIAL RATIOS:
Return on average equity (2) 17.93% 18.48% 18.47% 13.65% 14.68%
Return on average assets (2) 1.08% 0.98% 1.02% 1.22% 2.00%
Common equity as % of total assets 6.02% 5.28% 5.18% 6.39% 16.61%
Dividend payout ratio (3) 5.59% 5.25% 4.45% 2.49% 0.00%
Tier 1 capital ratio (4) 14.96% 15.32% 29.17% 24.57% 44.47%
Non-interest income as % of net
operating income 78.90% 78.08% 75.84% 76.74% 81.05%
OTHER STATISTICAL DATA:
Assets processed at end of period (5) $ 290,162,547 $ 244,935,314 $ 139,418,241 $ 122,563,400 $ 94,208,228
Employees at end of period 1,507 1,258 1,028 827 682
<CAPTION>
For the Year
Ended
October 31,
-------------
1995(1)
-------------
(Dollars in thousands, except
per share and employee data)
<S> <C>
STATEMENT OF INCOME DATA:
Net interest income $ 5,870
Non-interest income 53,607
Gain/(loss) on sale of investment
securities --
-------------
Net operating revenues 59,477
Operating expenses 52,569
-------------
Income before income taxes and
minority interest 6,908
Income taxes 2,782
Minority interest expense --
-------------
Net income $ 4,126
=============
PER SHARE DATA (6):
Basic earnings per share
Diluted earnings per share
Dividends per share
BALANCE SHEET DATA:
Total assets at end of period $ 186,773
AVERAGE BALANCE SHEET DATA:
Interest earning assets $ 106,130
Total assets 128,174
Total deposits 106,446
Common stockholders' equity 16,119
SELECTED FINANCIAL RATIOS:
Return on average equity (2) 25.60%
Return on average assets (2) 3.22%
Common equity as % of total assets 12.58%
Dividend payout ratio (3) 1.36%
Tier 1 capital ratio (4) 37.62%
Non-interest income as % of net
operating income 90.13%
OTHER STATISTICAL DATA:
Assets processed at end of period (5) $ 91,099,976
Employees at end of period 679
</TABLE>
- -------------
(1) Non-interest income for the year ended October 31, 1995 includes the
recognition of net proceeds of $2,572,000 from the assignment to a third
party of asset administration rights associated with $5 billion of unit
investment trust assets.
(2) Ratios for the two months ended December 31, 1995 have been annualized.
The ratios for the year ended October 31, 1995 include the effect of the
unit investment trust transaction described in (1) above. Without the
earnings associated with this transaction, return on equity and return on
assets for the year ended October 31, 1995 would have been 15.84% and
1.99%, respectively.
(3) The Company intends to retain the majority of future earnings to fund
development and growth of its business. The Company currently expects to
pay cash dividends at an annualized rate of $.12 per share subject to
regulatory requirements. See "Dividends."
(4) Tier I capital consists of the sum of common stockholders' equity and
non-cumulative perpetual preferred stock minus all intangible assets
(other than certain qualifying goodwill) and excess deferred tax assets.
(5) 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 and investment advisory services.
(6) All share numbers shown in this table have been restated to reflect the
two-for-one stock split paid March 17, 1999 where applicable.
17
<PAGE>
ITEM 7. 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 Consolidated Financial Statements and related Notes to Consolidated
Financial Statements, which are included elsewhere in this Annual Report. The
Company, through its wholly owned subsidiaries, Investors Bank & Trust Company
and Investors Capital Services, Inc., provides global custody, multicurrency
accounting, institutional transfer agency, performance measurement, foreign
exchange, securities lending, mutual fund administration and investment advisory
services to a variety of financial asset managers, including 78 mutual fund
complexes, investment advisors, banks and insurance companies. The Company
provides financial asset administration services for net assets that totaled
approximately $290 billion at December 31, 1999, including approximately $17
billion of foreign net assets. The Company also engages in private banking
transactions, including secured lending and deposit accounts.
On May 29, 1998 the Company acquired AMT Capital Services, Inc. and
an affiliated company (`AMT Capital'), a New York-based firm recognized for
providing fund administration services to global and domestic institutional
investment management firms. Under the terms of the acquisition agreement, the
Company acquired all of the outstanding capital stock of AMT Capital in exchange
for 388,012 shares of the Company's common stock. The acquisition was accounted
for under the pooling-of-interests method of accounting. Upon completion of the
acquisition, AMT Capital became a wholly owned subsidiary of the Company and was
re-named Investors Capital Services, Inc. On April 12, 1999, 6,814 of the shares
issued by the Company were returned to the Company pursuant to the
indemnification and escrow provisions of the acquisition agreement.
On October 1, 1998, the Bank acquired the domestic institutional
trust and custody business (`the Business') of BankBoston, N.A. Under the terms
of the purchase agreement, the Bank paid approximately $48 million to BankBoston
as of the closing and paid an additional amount of approximately $4.8 million in
February 2000 based upon client retention and business performance. The Business
provides master trust and custody services to endowments, pension funds,
municipalities, mutual funds and other financial institutions, primarily in New
England. The acquisition was accounted for using the purchase method of
accounting. In connection with the acquisition, the Bank and BankBoston also
entered into an outsourcing agreement. Pursuant to the outsourcing agreement,
the Bank acted as custodian, and provided certain other services, for three
BankBoston asset management related businesses: domestic private banking,
institutional asset management and international private banking. In September
1999, the Bank received notification from BankBoston of its intent to terminate
the outsourcing agreement. The termination, to be effective in early 2000, will
have no impact on the remaining business purchased from BankBoston. Pursuant to
the terms of the outsourcing agreement, the Bank received a termination fee of
$7 million in February 2000. Therefore, a net adjustment to decrease the
purchase price, resulting from the two above mentioned items, was made for $2.2
million. The Bank does not anticipate a material impact on net income due to the
termination of the outsourcing agreement. The Bank was informed by BankBoston
that its decision to terminate the outsourcing agreement was not related in any
way to the Company's quality of service but was made as part of the integration
process undertaken in connection with the recently completed BankBoston/Fleet
merger.
On February 16, 1999, the Board of Directors of the Company declared
a two-for-one stock split in the form of a 100% stock dividend payable March 17,
1999 to stockholders of record on March 1, 1999. All share numbers shown in this
Annual Report have been restated to reflect the two-for-one stock split paid
March 17, 1999 where applicable.
On March 26, 1999, the Company completed the issuance and sale of
900,000 shares of Common Stock at $29 per share in a private placement to one
investor. The net capital raised in the private placement was used to support
the Company's balance sheet growth.
On October 29, 1999, the Bank entered into an agreement with Sanwa
Bank California, pursuant to which the Bank agreed to purchase the right to
provide institutional custody and related services to accounts managed by the
Trust Company of the West. The accounts subject to the agreement totaled
approximately $3.6 billion in assets at October 26, 1999. The Bank expects to
complete the purchase by March 31, 2000, subject to customary closing
conditions.
18
<PAGE>
The Company's current largest client, Eaton Vance, accounted for
10%, 9% and 7% of the Company's net operating revenues for the years ended
December 31, 1997, 1998 and 1999 respectively. The Company believes its
relationship with Eaton Vance is good and expects it to continue. The Company's
agreements with mutual funds managed by Eaton Vance, pursuant to which the
Company provides custody and fund accounting services, extend through August
2000 and continue thereafter until terminated by either party upon sixty days
prior notice.
The Company derives its revenues from financial asset administration
services and private banking transactions. Although interest income and
non-interest 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 all 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 non-interest
income) and net income are the most meaningful measures of financial results.
Revenue generated from asset administration and other fees and interest income
increased 35% to $169.5 million for the year ended December 31, 1999 from $125.6
million for the year ended December 31, 1998.
Non-interest 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 non-interest 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.
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 SEC
(including this Form 10-K) may contain statements, which are not historical
facts, so-called `forward-looking statements,' which involve risks and
uncertainties. Forward-looking statements in this Form 10-K include certain
statements regarding liquidity, the effects of BankBoston's termination of the
outsourcing agreement, customary closing conditions relating to the Sanwa Bank
transaction and the effect of certain potential legal claims against the
Company. 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 SEC.
The Company's future results may be subject to substantial risks and
uncertainties. The Company's liquidity is dependent, in part, upon the continued
availability of current borrowing facilities, the loss of which may impair the
Company's access to liquid funds. Because certain fees charged by the Company
for its services 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 or changes in the relationship between certain index 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. If the Company is not able to
recognize expense reduction or reallocation of resources after the termination
of the outsourcing agreement, the termination may have an adverse impact on the
Company's results of operations and financial condition. Also, the outcome of
any legal claim against the Company cannot be predicted with certainty and, even
if the Company is successful in defending or settling any claims, the existence
of the claims may harm the Company's reputation or ability to add new clients.
The Company has been experiencing a period of rapid growth, which
places a strain on all of its resources, including management. In addition, the
Company must integrate future acquisitions, if any, into the Company's business.
Also, the Company must continue to attract and retain skilled personnel in a
tight labor market. In particular, the current market for financial services
employees is extremely competitive. If the Company fails to manage growth
effectively,
19
<PAGE>
integrate acquisitions successfully or attract and retain skilled employees, it
could reduce the quality of the Company's services, lead to loss of key
employees and clients, and have a material adverse effect on the Company's
operations.
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 effect 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,
fluctuations in global equity and debt markets, 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 in revenues in a specified period may have an
adverse impact on the Company's results of operations for that period. 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 YEARS ENDED DECEMBER 31, 1999 AND 1998
Non-interest Income
Non-interest income increased $34.9 million to $133.8 million for the
year ended December 31, 1999 from $98.9 million for the year ended December 31,
1998. Non-interest income consists of the following items:
<TABLE>
<CAPTION>
For the Year Ended December 31,
------------------------------------ ---------------
1999 1998 Change
---------------- ---------------- ---------------
(Dollars in thousands)
<S> <C> <C> <C>
Asset administration fees $132,478 $ 96,757 37%
Computer service fees 488 518 (6%)
Other operating income 795 748 6%
Net gain/(loss) on sale of securities -- 833 --
---------------- ----------------
Total non-interest Income $133,761 $ 98,856 35%
=============== ================
</TABLE>
Asset administration fees increased $35.7 million due principally to
higher levels of assets processed resulting from the addition of new clients as
well as the expansion of existing client relationships. The Company earns such
fees on assets processed by the Company on behalf of a variety of financial
asset managers. 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: global custody, multicurrency accounting, institutional transfer
agency, performance measurement, foreign exchange, securities lending, mutual
fund administration and investment advisory services. Total net assets processed
increased 18% to $290 billion at December 31, 1999 from $245 billion at December
31, 1998. The largest component of asset administration fees is asset-based
fees, which increased between periods due to the increase in assets processed.
Another significant portion of the increase in asset administration fees
resulted from the Company's success in marketing ancillary services such as cash
management and securities lending.
Computer service fees consist of amounts charged by the Company for
data processing services related to client accounts. Other operating income
consists of dividends received relating to the Federal Home Loan Bank of Boston
(`FHLBB') stock investment and miscellaneous transaction-oriented private
banking fees. Gain on sale of securities decreased in 1999 due to the Company's
sale in 1998 of certain available for sale mortgage-backed securities in
anticipation of prepayment risk.
20
<PAGE>
Operating Expenses
In 1999 total operating expenses were $135.8 million, up 36% from 1998.
The components of operating expenses were as follows:
<TABLE>
<CAPTION>
For the year ended December 31,
----------------------------------- ------------
1999 1998 Change
----------------- -------------- ------------
(Dollars in thousands)
<S> <C> <C> <C>
Compensation and benefits $ 83,302 $ 61,901 35%
Technology and telecommunications 15,744 10,965 44
Transaction processing services 9,234 7,251 27
Occupancy 8,032 6,991 15
Depreciation and amortization 3,911 2,657 47
Professional fees 3,573 1,590 125
Travel and sales promotion 2,551 1,920 33
Amortization of goodwill 1,756 442 297
Insurance 769 783 (2)
Other operating expenses 6,943 5,084 37
----------------- --------------
Total operating expenses $135,815 $ 99,584 36%
================= ==============
</TABLE>
Compensation and benefits expense, the largest component of expense,
increased by $21.4 million or 35% from year to year due to several factors. The
average number of employees increased 25% to 1,423 at December 31, 1999 from
1,139 at December 31, 1998. This increase relates to the increase in client
relationships and the expansion of existing client relationships during the
year. In addition, compensation expense related to the Company's management
incentive plans increased $4.0 million between years because of the increase in
earnings subject to incentive payments in 1999 compared to 1998. Benefits,
including payroll taxes, group insurance plans, retirement plan contributions
and tuition reimbursement, increased by $2.4 million for the year ended December
31, 1999 from the same period in 1998.
Technology and telecommunications expense consists of operating lease
payments for microcomputers, fees charged by Electronic Data Systems for
mainframe data processing, telephone expense, software maintenance fees and
licenses, optical imaging and contract programming fees. Technology and
telecommunication fees increased $4.8 million year over year. Increased
hardware, software and telecommunications expenses needed to support the growth
in assets processed accounted for $956,000 of the increase. The Company's use of
contract programmers to perform information systems development projects
accounted for $799,000 of the increase. Fees charged by EDS increased $666,000
due to increased volume of mainframe data processing. Expenses relating to the
conversion of the BankBoston business accounted for $535,000 of the increase.
Transaction processing services expense consists of volume related
expenses including subcustodian fees and external contract services. The
increase of $2.0 million from year to year relates primarily to an increase in
subcustodian fees driven by growth in foreign assets processed for clients.
Occupancy expense increased $1.0 million to $8.0 million for the
year ended December 31, 1999 from $7.0 million for the year ended December 31,
1998. This increase resulted from the temporary rental of office space relating
to the BankBoston acquisition along with the expansion of office space in the
Company's Boston location.
Depreciation and amortization expense increased $1.2 million to $3.9
million for the year ended December 31, 1999 from $2.7 million for the year
ended December 31, 1998. This increase resulted from software costs capitalized
under AICPA Statement of Position 98-1, `Accounting for the Costs of Computer
Software Developed or Obtained for Internal Use,' (`SOP 98-1'), which were
placed in service in 1999.
Professional fees increased $2.0 million to $3.6 million for the year
ended December 31, 1999 from $1.6 million for the year ended December 31, 1998.
The increase in professional fees relates primarily to consulting services
related to the integration of the BankBoston business and tax planning.
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 $631,000 to $2.6 million for the year ended December 31, 1999
from $1.9 million for the year ended December 31, 1998 due primarily to
increased travel relating to the integration of the BankBoston business.
21
<PAGE>
The acquisition of BankBoston's institutional trust and custody
business was accounted for under the purchase method of accounting and as a
result, the purchase price was allocated first to all identifiable tangible and
intangible assets acquired and liabilities assumed. The remainder of the
purchase price (excess of purchase price over the fair value of intangible net
assets) was then allocated to goodwill. Goodwill expense relates to the
amortization of the resulting goodwill from the acquisition, which is being
amortized over its estimated useful life. In September 1999, the Bank received
notification of BankBoston's intent to terminate the outsourcing agreement. The
termination, expected to be effective in early 2000, will have no impact on the
remaining business purchased from BankBoston. Pursuant to the terms of the
outsourcing agreement, the Bank received a termination fee of $7.0 million in
February 2000. The Bank does not anticipate a material impact on net income due
to the termination. The Bank was informed by BankBoston that its decision to
terminate the outsourcing agreement was not related in anyway to the Company's
quality of service, but was made as part of the integration process undertaken
in connection with the BankBoston/Fleet merger. In addition, a contingent
payment of approximately $4.8 million was made by the Company based upon
business performance in accordance with the purchase agreement. Therefore, a net
adjustment was made to decrease the purchase price by approximately $2.2 million
based upon these two items.
Other operating expenses increased $1.8 million to $6.9 million for the
year ended December 31, 1999 from $5.1 million for the year ended December 31,
1998. Other operating expenses include fees for office supplies, recruiting
costs, temporary help and various fees assessed by the Massachusetts Banking
Commission. Recruiting costs accounted for $914,000 of the increase due to the
growth of the Company's staffing needs. The growth in assets processed has
resulted in an overall increase in operating expenses.
Net Interest Income
Net interest income is the amount of interest received on
interest-earning assets less the interest paid on interest-bearing liabilities.
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 and changes in interest
rates for the year ended December 31, 1999 compared to the year ended December
31, 1998. Changes attributed to both volume and rate have been allocated based
on the proportion of change in each category.
<TABLE>
<CAPTION>
Change Change
Due to Due to
Volume Rate Net
----------- ----------- -----------
(Dollars in thousands)
INTEREST-EARNING ASSETS
<S> <C> <C> <C>
Fed funds sold and
interest-earning deposits $ 480 $ (144) $ 336
Investment securities 21,146 (1,374) 19,772
Loans 1,046 (284) 762
------- ------- -------
Total interest-earning assets $22,672 $(1,802) $20,870
------- ------- -------
INTEREST-BEARING LIABILITIES
Deposits $15,143 $(3,500) $11,643
Borrowings 973 (825) 148
------- ------- -------
Total interest-bearing liabilities $16,116 $(4,325) $11,791
------- ------- -------
Change in net interest income $ 6,556 $ 2,523 $ 9,079
======= ======= =======
</TABLE>
Net interest income increased $9.1 million or 34% to $35.8 million
for the year ended December 31, 1999 from $26.7 million for the year ended
December 31, 1998. This net increase resulted from an increase in interest
income of $20.9 million offset by an increase in interest expense of $11.8
million. The net impact of the above changes was a 10 basis point increase in
net interest margin.
The increase in interest income resulted from an expansion of the
balance sheet. The equity obtained in the $26 million private placement
completed in March 1999 allowed the Company to expand the average balance sheet
with deposits that had been in third-party sweeps. The Company's average
interest-earning assets increased 27% compared to the same period in 1998.
22
<PAGE>
Interest expense increased due to a 32% increase in average
interest-bearing liabilities. The increase was offset by a decrease in the
average interest rates paid by the Company from 4.80% to 4.36% between periods.
Income Taxes
Taxes for the year ended December 31, 1999 were $10.8 million, up
from $9.3 million a year ago. The overall effective tax rate for the period was
32%, which compares to 36% for the prior year. The year-to-year decrease
resulted from the restructuring of corporate entities for state tax planning
purposes.
COMPARISON OF OPERATING RESULTS FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
Non-interest Income
Non-interest income increased $16.3 million to $98.9 million for the
year ended December 31, 1998 from $82.6 million for the year ended December 31,
1997. Non-interest income consists of the following items:
<TABLE>
<CAPTION>
For the Year Ended December 31,
----------------------- ----------
1998 1997 Change
---------- ---------- ----------
(Dollars in thousands)
<S> <C> <C> <C>
Asset administration fees $96,757 $78,325 24%
Computer service fees 518 643 (19%)
Other operating income 748 3,556 (79%)
Net gain/(loss) on sale of securities 833 114 --
---------- ----------
Total Non-interest Income $98,856 $82,638 20%
========== ==========
</TABLE>
Asset administration fees increased $18.4 million due principally to
higher levels of assets processed. Total net assets processed increased to $245
billion at December 31, 1998 from $139 billion at December 31, 1997.
Approximately $76 billion of this increase relates to the Company's acquisition
of BankBoston's domestic institutional custody business on October 1, 1998. The
largest component of asset administration fees is asset-based fees, which
increased between periods due to the increase in assets processed. Another
significant portion of the increase in asset administration fees resulted from
the Company's success in marketing ancillary services such as securities
lending, foreign exchange and advisory services.
The decrease in computer service fees is related to the renegotiation
of contracts performed by Investors Capital Services, Inc. in 1998. The decrease
in other operating income resulted from services previously provided by
Investors Capital Advisors, Inc., a wholly owned subsidiary of the Company which
could no longer be provided due to regulatory restrictions imposed on the
Company. Investors Capital Advisors, Inc. was merged into Investors Capital
Services, Inc. on December 31, 1998. Gain on sale of securities increased in
1998 due to the Company's sale of certain available for sale mortgage-backed
securities in anticipation of prepayment risk.
23
<PAGE>
Operating Expenses
Total operating expenses increased by $12.2 million to $99.6 million
for the year ended December 31, 1998 compared to $87.4 million for the year
ended December 31, 1997. The components of operating expenses were as follows:
<TABLE>
<CAPTION>
For the year ended December 31,
----------------------------- -------------
1998 1997 Change
------------- ------------ -------------
(Dollars in thousands)
<S> <C> <C> <C>
Compensation and benefits $61,901 $53,457 16%
Technology and telecommunications 10,965 9,742 13
Transaction processing services 7,251 7,539 (4)
Occupancy 6,991 4,620 51
Depreciation and amortization 2,657 2,070 28
Professional fees 1,590 1,964 (19)
Travel and sales promotion 1,920 1,647 17
Amortization of goodwill 442 -- 100
Insurance 783 768 2
Other operating expenses 5,084 5,555 (8)
------------- ------------
Total operating expenses $99,584 $87,362 14%
============= ============
</TABLE>
Compensation and benefits expense increased by $8.4 million or 16% from
period to period due to several factors. The average number of employees
increased 19% to 1,139 at December 31, 1998 from 958 at December 31, 1997. This
increase relates to the increase in client relationships, the expansion of
existing client relationships during the period and the addition of additional
employees related to the BankBoston acquisition in October 1998. In addition,
compensation expense related to the Company's management incentive plans
increased $602,000 between periods because of the increase in earnings subject
to incentive payments in 1998 compared to 1997. Benefits, including payroll
taxes, group insurance plans, retirement plan contributions and tuition
reimbursement, increased by $1.2 million for the year ended December 31, 1998
from the same period in 1997. Effective January 1, 1998 the Company adopted the
accounting method promulgated under SOP 98-1. Accordingly the Company
capitalized $831,000 of compensation and compensation-related expenses for
employees who were directly associated with internal use computer software
projects during the year ended December 31, 1998.
Technology and telecommunication expense increased approximately $1.3
million to $11.0 million for the year ended December 31, 1998 from $9.7 million
for the year ended December 31, 1997. Fees charged by EDS increased $377,000 due
to increased volume of mainframe data processing along with Year 2000 testing.
Increased hardware, software and telecommunications expenses also needed to
support the growth in assets processed accounted for $815,000 of the increase.
License fees on software accounted for $371,000 of the increase.
Occupancy expense increased $2.4 million to $7 million for the year
ended December 31, 1998 from $4.6 million for the year ended December 31, 1997.
This increase resulted from expansion of office space in the Company's Boston,
Toronto, and Dublin offices.
Depreciation and amortization expense increased approximately
$600,000 to $2.7 million for the year ended December 31, 1998 from $2.1 million
for the year ended December 31, 1997. This increase resulted from the purchase
of furniture, equipment, and capitalized software throughout 1997 and 1998.
Professional fees decreased approximately $400,000 to $1.6 million
for the year ended December 31, 1998 from $2 million for the year ended December
31, 1997. The decrease in professional fees relates to non-recurring consulting
and legal fees incurred during 1997.
Travel and sales promotion expense increased approximately $300,000
to $1.9 million for the year ended December 31, 1998 from $1.6 million for the
year ended December 31, 1997 due primarily to increased travel of the sales and
client management staff, as well as increased travel to foreign subsidiaries.
The acquisition of BankBoston's institutional trust and custody
business was accounted for under the purchase method of accounting and as a
result, the purchase price was allocated first to all identifiable tangible and
intangible assets acquired and liabilities assumed. The remainder of the
purchase price (excess of purchase price over the fair value of intangible net
assets) was then allocated to goodwill. Goodwill expense relates to the
amortization of the resulting goodwill from the acquisition, which is being
amortized over its estimated useful life.
24
<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 and changes in
interest rates for the year ended December 31, 1998 compared to the year ended
December 31, 1997.
<TABLE>
<CAPTION>
Change Change
Due to Due to
Volume Rate Net
---------- ---------- -----------
(Dollars in thousands)
INTEREST-EARNING ASSETS
<S> <C> <C> <C>
Fed funds sold and
interest-earning deposits $ (1,262) $ (37) $ (1,299)
Investment securities 17,584 (4,026) 13,558
Loans (21) 458 437
-------- -------- --------
Total interest-earning assets $ 16,301 (3,605) $ 12,696
-------- -------- --------
INTEREST-BEARING LIABILITIES
Deposits $ 11,461 $ (781) $ 10,680
Borrowings 2,030 (535) 1,495
-------- -------- --------
Total interest-bearing liabilities $ 13,491 $ (1,316) $ 12,175
-------- -------- --------
Change in net interest income $ 2,810 $ (2,289) $ 521
======== ======== ========
</TABLE>
Net interest income increased $500,000 or 2% to $26.7 million for
the year ended December 31, 1998 from $26.2 million for the 1997 period. This
net increase resulted from an increase in interest income of $12.7 million
offset by an increase in interest expense of $12.2 million. The net impact of
the above changes was a 39 basis point decrease in net interest margin.
The increase in interest income resulted primarily from a higher
level of interest earning assets. The Company's average assets for the year
ended December 31, 1998 increased $306 million or 24% compared to the year ended
December 31, 1997. This growth primarily resulted from an increase in average
interest earning assets of $276 million.
Interest expense increased $12.2 million due primarily to the higher
level of deposits and short-term borrowings. The increase was offset by a
decrease in the average interest rates paid by the Company from 5.03% to 4.80%
between periods.
Income Taxes
Taxes for the year ended December 31, 1998 were $9.3 million, up
from $7.4 million a year ago. The overall effective tax rate for the period was
36% which compares to 34% for the prior year. The period-over-period increase
was due to the change in tax status from an S Corporation to a C Corporation of
Investors Capital Services, Inc.
25
<PAGE>
FINANCIAL CONDITION
INVESTMENT PORTFOLIO
The following table summarizes the Company's investment portfolio as of the
dates indicated:
<TABLE>
<CAPTION>
December 31,
--------------------------------------------------
1999 1998 1997
---------------- ---------------- ---------------
(Dollars in thousands)
<S> <C> <C> <C>
SECURITIES HELD TO MATURITY:
Mortgage-backed securities $ 1,464,816 $ 733,109 $ 590,365
Federal agency securities 227,030 166,181 168,687
State and political subdivisions 63,871 35,821 35,225
Foreign government securities 7,638 7,706 7,769
--------------- --------------- ---------------
Total securities held to maturity $ 1,763,355 $ 942,817 $ 802,046
================ ================ ================
SECURITIES AVAILABLE FOR SALE:
Mortgage-backed securities $ 239,132 $ 259,422 $ 424,376
Federal agency securities 52,310 - -
Corporate debt 47,875 48,070 -
State and political subdivisions 36,293 37,578 8,382
U.S. Treasury securities - - 30,092
--------------- --------------- ---------------
Total securities available for sale $ 375,610 $ 345,070 $ 462,850
================ ================ ================
</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
institutions in connection with its custody services. The portfolio is comprised
of securities of state and political subdivisions, 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 FHLBB, municipal
securities, corporate debt securities, and foreign government bonds issued by
the Canadian provinces of Ontario and Manitoba.
The Company invests in mortgage-backed securities, Federal Agency
callable bonds and corporate debt to increase the total return of the investment
portfolio. Mortgage-backed securities generally have a higher yield than U.S.
Treasury securities due to credit and prepayment risk. Credit risk results from
the possibility that a loss may occur if a counterparty is unable to meet the
terms of the contract. Prepayment risk results from the possibility that changes
in interest rates may cause mortgage securities to be paid off prior to their
maturity dates. Federal Agency callable bonds generally have a higher yield than
U.S. Treasury securities due to credit and call risk. Credit risk results from
the possibility that the Federal Agency issuing the bonds may be unable to meet
the terms of the bond. Call risk results from the possibility that fluctuating
interest rates and other factors may result in the exercise of the call option
by the Federal Agency. Credit risk related to mortgage-backed securities and
Federal Agency callable bonds is substantially reduced by payment guarantees and
credit enhancements.
The Company invests in municipal securities to generate stable, tax
advantaged income. Municipal securities generally have lower stated yields than
Federal Agency and U.S. Treasury securities, but the after-tax yields are
comparable. Municipal securities are subject to credit risk.
26
<PAGE>
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.
These bonds are subject to credit risk.
The book value and weighted average yield of the Company's securities
held to maturity at December 31, 1999 are reflected in the following table.
<TABLE>
<CAPTION>
Years
------------------------------------------------------------------------------------------
Under 1 1 to 5 5 to 10 Over 10
Amount Yield Amount Yield Amount Yield Amount Yield
----------------- ------------------- ------------------ --------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Mortgage-backed securities $18,184 7.28 $369,303 6.89 $151,398 6.88 $ 925,931 7.32
Federal agency securities - - 42,497 6.62 7,602 6.12 176,931 6.72
State and political subdivisions - - - - 8,534 5.61 55,337 5.41
Foreign government securities - - 7,638 6.84 - - - -
---------- ----------- ----------- -------------
Total securities held to maturity $18,184 7.28 $419,438 6.86 $167,534 6.78 $1,158,199 7.14
========== =========== =========== =============
</TABLE>
The book value and weighted average yield of the Company's securities
available for sale at December 31, 1999 are reflected in the following table.
<TABLE>
<CAPTION>
Years
------------------------------------------------------------------------------------------
Under 1 1 to 5 5 to 10 Over 10
Amount Yield Amount Yield Amount Yield Amount Yield
----------------- ------------------- ------------------ --------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Mortgage-backed securities $ - - $ - - $ - - $239,132 6.03
Federal agency securities - - 52,310 5.96 - - - -
Corporate debt - - - - - - 47,875 6.02
State and political subdivisions 2,376 4.13 23,003 4.35 10,914 4.35 - -
---------- ---------- ---------- -----------
Total securities available for sale $2,376 4.13 $75,313 5.47 $10,914 4.35 $287,007 6.03
========== ========== ========== ===========
</TABLE>
LOAN PORTFOLIO
The following table summarizes the Company's loan portfolio for the dates
indicated:
<TABLE>
<CAPTION>
December 31, October 31,
---------------------------------------------------------------------------- ------------
1999 1998 1997 1996 1995 1995
-------------- -------------- -------------- --------------- -------------- ------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Loans to individuals $ 65,010 $ 25,583 $ 26,858 $ 23,449 $ 16,610 $ 13,446
Loans to not-for-profit organizations 13 13 13 13 289 289
Loans to mutual funds 44,369 28,796 29,174 42,875 10,000 -
-------------- -------------- -------------- --------------- -------------- ------------
$ 109,392 $ 54,392 $ 56,045 $ 66,337 $ 26,899 $ 13,735
Less: allowance for loan losses (100) (100) (100) (100) (35) (35)
-------------- -------------- -------------- --------------- -------------- ------------
Net loans $ 109,292 $ 54,292 $ 55,945 $ 66,237 $ 26,864 $ 13,700
============== ============== ============== =============== ============== ============
Floating Rate $ 109,279 $ 54,279 $ 55,932 $ 66,224 $ 26,839 $ 13,675
Fixed Rate 135 13 13 13 25 25
-------------- -------------- -------------- --------------- -------------- ------------
$ 109,292 $ 54,292 $ 55,945 $ 66,237 $ 26,864 $ 13,700
============== ============== ============== =============== ============== ============
</TABLE>
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. The unsecured lines of credit
may, in the event of a default, be collateralized at the Company's option by
securities held in custody by the Company for those mutual funds. 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.
27
<PAGE>
At December 31, 1999, the Company's only lending concentrations which
exceeded 10% of total loans were the revolving lines of credit to mutual fund
clients 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's credit loss experience has been excellent. There have
been no loan chargeoffs or adverse credit actions 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 December 31,
1999, there were no past due loans, troubled debt restructurings, or any loans
on non-accrual 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 $100,000 at December 31, 1999. 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.
MARKET RISK: OVERVIEW
The active management of market risk is integral to the Company's
operations. The principal objective of the Company's interest rate risk
management function is to evaluate the interest rate risk included in certain
balance sheet accounts, determine the level of appropriate risk given the
Company's business focus, operating environment, capital and liquidity
requirements and performance objectives and manage the risk consistent with
Board approved guidelines.
The Company administers and oversees the investment risk management
process primarily through two oversight bodies: The Board of Directors and the
Asset and Liability Committee (`ALCO'). The Company's Board of Directors
reviews, on a quarterly basis, the Company's asset/liability position, including
simulations of the effect on the Company's capital of various interest rate
scenarios. The ALCO Committee is a senior management committee consisting of the
Chief Executive Officer, the Chief Financial Officer, the Executive Vice
President and members of the Treasury function and others who are responsible
for the day-to-day management of market risk. ALCO meets on a bi-weekly basis to
provide detailed oversight of investment risk, including market risk.
The extent of the movement of interest rates, higher or lower, is an
uncertainty that could have a negative impact on the earnings of the Company.
The Company has investment guidelines that define the overall framework for
managing market and other investment risks, including accountabilities and
controls over these activities. In addition, the Company also has specific
investment policies that delineate investment limits and strategies that are
appropriate, given liquidity, surplus and regulatory requirements.
In the normal course of business, the financial position of the Company
is routinely subjected to a variety of risks, including market risks associated
with interest rate movements. The Company regularly assesses these risks and has
established policies and business practices to protect against the adverse
effects of these and other potential exposures. The Company recognizes that
effective management of interest rate risk includes an understanding of when
adverse changes in interest rates will flow through the statement of income and
comprehensive income. Accordingly, the Company will manage its position so that
it monitors its exposure to net interest income over both a one year planning
horizon and a longer term strategic horizon. In order to manage this interest
rate risk, the Company has established that it will follow a policy limit
stating that projected net interest income over the next 12 months will not be
reduced by more than 10% given a change in interest rates of up to 200 basis
points (+ or -) over 12 months.
The Bank's primary tool in managing interest rate risk in this manner
is an income simulation model wherein the Company projects the future net
interest income derived from the most current projected balance sheet using a
variety of interest rates scenarios. The model seeks to adjust for cash flow
changes arising from the changing interest rates for mortgage prepayments,
callable securities and adjustable rate securities. The Company also utilizes
interest rate swap agreements to manage interest rate risk. Interest rate swap
contracts involve an agreement with a counterparty to exchange cash flows
based on an underlying interest rate index. The effect of these agreements was
to lengthen short-term variable rate liabilities into longer-term fixed rate
liabilities. For instance, in 1999 as interest rates rose in sympathy with the
Federal Reserve actions, prepayment cash flow diminished raising the effective
return on certain investment portfolio holdings.
The results of the sensitivity analysis as of December 31, 1999 and
December 31, 1998, indicated that an upward shift of interest rates by 200 basis
points would result in a reduction in projected net interest income of 9.01% and
3.00% respectively, versus the policy limit of 10%. Conversely, a downward shift
of 200 basis points would result in an increase in projected net interest income
of 8.20% and 3.71% respectively. During 1999, the Company took advantage of the
steepening yield curve to acquire intermediate fixed rate investments to protect
against a falling or flattening yield curve.
28
<PAGE>
Certain shortcomings are inherent in the methodology used in the above
interest rate risk measurement. Modeling changes requires the making of certain
assumptions that may tend to oversimplify the manner in which actual yield and
costs respond to changes in market interest rates. Assumptions are the
underlying factors that drive the interest rate risk measurement system which
include interest rate forecasts, client liability funding, mortgage prepayment
assumptions and portfolio yields. The model assumes that the composition of the
Company's interest sensitive assets and liabilities existing at the beginning of
a period will change periodically over the period being measured. The model also
assumes that a particular change in interest rates is reflected uniformly across
the yield curve regardless of the duration to maturity or repricing of specific
assets and liabilities. Accordingly, although the model provides an indication
of the Company's interest rate risk exposure at a particular point in time, such
measurement is not intended to and does not provide a precise forecast of the
effect of changes in market interest rates on the Company's net interest income
and will differ from actual results. The results of this modeling are monitored
by management and presented to the Board of Directors, quarterly.
MARKET RISK: RE-PRICING RISK
The Company, like all financial intermediaries, is subject to several
types of interest rate risk. Rapid changes in interest rates could adversely
affect the profitability of the Company by causing changes in the market value
of the Company's assets and its net interest income. Repricing 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 interest-earning assets and the
amount of interest-bearing liabilities that could experience changes in 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 swaps. Interest rate contracts are used to hedge against
large rate swings and changes in the shape of the yield curve. The Company uses
interest rate swap contracts to hedge against rising interest rates and changes
in the shape of the yield curve. The Company's current strategy is to use such
contracts to offset increases in interest expense related to customer deposits
and other client funding sources including repurchase agreements.
Interest rate contracts 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. See Note 14 to the Consolidated Financial Statements. The
Company periodically monitors the financial stability of its counterparties
according to prudent investment guidelines and established procedures. There can
be no assurance that such portfolio actions will adequately limit interest rate
risk.
29
<PAGE>
The following table presents the repricing schedule for the Company's
interest earning assets and interest bearing liabilities at December 31, 1999:
<TABLE>
<CAPTION>
Within Three Six One
Three to Six to Twelve Year to Over Five
Months Months Months Five Years Years Total
------------- ------------ ------------- ------------- ------------- --------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets (1):
Investment securities (2) $ 1,046,108 $ 186,440 $ 266,796 $ 392,907 $ 246,714 $ 2,138,965
Loans - fixed rate 109,279 - - - - 109,279
Loans - variable rate - - - 13 - 13
------------- ------------ ------------- ------------- ------------- --------------
Total interest-earning 1,155,387 186,440 266,796 392,920 246,714 2,248,257
assets
Interest-bearing liabilities:
Demand deposit accounts 7,012 - - - - 7,012
Savings accounts 1,237,104 - - - - 1,237,104
Time deposits 10,000 - - - - 10,000
Interest rate contracts (480,000) 60,000 120,000 300,000 - -
Short term borrowings 820,034 - - - - 820,034
------------- ------------ ------------- ------------- ------------- --------------
Total interest-bearing 1,594,150 60,000 120,000 300,000 - 2,074,150
liabilities ------------- ------------ ------------- ------------- ------------- --------------
Net interest sensitivity
gap during the period $ (438,763) $ 126,440 $ 146,796 $ 92,920 $ 246,714 $ 174,107
============= ============ ============= ============= ============= ==============
Cumulative gap $ (438,763) $ (312,323) $ (165,527) $ (72,607) $ 174,107
============= ============ ============= ============= =============
Interest sensitive assets as a
percent of interest sensitive
liabilities (cumulative) 72.48% 81.12% 90.67% 96.50% 108.39%
============= ============ ============= ============= =============
Interest sensitive assets as a
percent of total assets
(cumulative) 45.25% 52.55% 63.00% 78.39% 88.05%
============= ============ ============= ============= =============
Net interest sensitivity gap as a
percent of total assets (17.18)% 4.95% 5.75% 3.64% 9.66%
============= ============ ============= ============= =============
Cumulative gap as a percent
of total assets (17.18)% (12.23)% (6.48)% (2.84)% 6.82%
============= ============ ============= ============= =============
</TABLE>
(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.
30
<PAGE>
MARKET RISK: BASIS RISK
The Company is also exposed to basis risk from interest rate movements
which arise when variable rate assets and liabilities are tied to different
market indices. The Company holds investment securities that are indexed to
Treasury, London Interbank Offered Rate (`LIBOR') and to Prime, while its
liabilities are primarily indexed to Federal Funds. During 1998, the Company
experienced margin compression from its holding of adjustable rate mortgage
(`ARM') securities due to the inversion between one-year Treasury and Federal
Funds. During 1999, the Company shifted is portfolio focus to increase its
holdings of LIBOR index securities to more closely track its cost of funds. The
Company constantly analyzes and modifies its simulation assumptions to
incorporate projections of all relevant rate indices.
MARKET RISK: 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, new deposits, short-term borrowings, interest
payments on securities held to maturity and available for sale, fees collected
from asset administration clients, and the capital raised from the sale of the
Capital Securities. Managing the duration of the investment portfolio also
provides asset liquidity. 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 $0.12 per share.
The Company's ability to pay dividends on the Common Stock may depend
on the receipt of dividends from Investors Bank & Trust Company. In addition,
the Company may not pay dividends on its Common Stock if it is in default under
certain agreements entered into in connection with the sale of the Capital
Securities. Any dividend payments by Investors Bank & Trust Company are subject
to certain restrictions imposed by the Massachusetts Commissioner of Banks.
Subject to regulatory requirements, the Company expects to pay an annual
dividend to its stockholders, currently estimated to be in an amount equal to
$0.12 per share of outstanding Common Stock (approximately $1.8 million based
upon 14,610,154 shares outstanding as of December 31, 1999).
At December 31, 1999 and 1998, cash and due from banks were 1% of total
assets. At December 31, 1999, approximately $41 million or 2% of total 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 as of December 31, 1999 was $257 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
cannot be certain, however, that such funding will be available. Lack of
availability of liquid funds could have a material adverse impact on the
operations of 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 at December 31,
1999 was $1.45 billion.
The Company also has a borrowing arrangement with the FHLBB whereby the
Company may borrow amounts determined by prescribed collateral levels and the
amount of FHLBB stock held by the Company. The minimum amount of FHLBB stock
held by the Company is required to be (i) 1% of its outstanding residential
mortgage loan principal (including mortgage pool securities), (ii) 0.3% of total
assets, (iii) total advances from the FHLBB, divided by a leverage factor of 20.
If the Company borrows under this arrangement, the Company is required to hold
FHLBB stock equal to 5% of such outstanding advances. The aggregate amount of
borrowing available to the Company under this arrangement at December 31, 1999
was $516 million.
The Company's cash flows are comprised of three primary
classifications: cash flows from operating activities, investing activities, and
financing activities. Net cash provided by operating activities was $33.9
million for the year ended December 31, 1999. Net cash used for investing
activities, consisting primarily of the excess of purchases of investment
31
<PAGE>
securities over proceeds from maturities of investment securities, and purchases
of acquisitions was $1.1 billion for the year ended December 31, 1999. Net cash
provided by financing activities, consisting primarily of net activity in
deposits, was $1.1 billion for the year ended December 31, 1999.
CAPITAL RESOURCES
Historically, the Company has financed its operations principally
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. As a result, the Company's capital
expenditures were $3.4 million, $4.9 million and $4.9 million for the years
ended December 31, 1999, 1998 and 1997 respectively.
Stockholders' equity at December 31, 1999 was $136.8 million, an
increase of $48.5 million or 55%, from $88.3 million at December 31, 1998. The
ratio of stockholders' equity to assets decreased to 5.36% at December 31, 1999
from 6.03% at December 31, 1998.
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 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, non-cumulative 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 December 31, 1999:
<TABLE>
<CAPTION>
Amount Ratio
---------------- -------------
(Dollars in thousands)
<S> <C> <C>
Tier I capital $ 124,761 14.96%
Tier I capital minimum requirement 33,363 4.00%
---------------- -------------
Excess Tier I capital $ 91,398 10.96%
================ =============
Total capital $ 124,861 14.97%
Total capital minimum requirement 66,726 8.00%
---------------- -------------
Excess total capital $ 58,135 6.97%
================ =============
Risk adjusted assets, net of intangible assets $ 834,073
================
</TABLE>
32
<PAGE>
The following table summarizes the Bank's Tier I and total capital
ratios at December 31, 1999:
<TABLE>
<CAPTION>
Amount Ratio
---------------- -------------
(Dollars in thousands)
<S> <C> <C>
Tier I capital $ 121,847 14.64%
Tier I capital minimum requirement 33,283 4.00%
---------------- -------------
Excess Tier I capital $ 88,564 10.64%
================ =============
Total capital $ 121,947 14.66%
Total capital minimum requirement 66,567 8.00%
---------------- -------------
Excess total capital $ 55,380 6.66%
================ =============
Risk adjusted assets, net of intangible assets $ 832,088
================
</TABLE>
In addition to the risk-based capital guidelines, the Federal Reserve
Board and the FDIC use a `Leverage Ratio' as an additional tool to evaluate
capital adequacy. The Leverage Ratio is defined to be a Company's Tier I capital
divided by its adjusted average total assets. The Leverage 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 are expected to maintain a Leverage Ratio of 4.0% to 5.0%. The
computation of the risk-based capital ratios and the Leverage Ratio requires the
capital of the Company to be reduced by most intangible assets. The Company's
Leverage Ratio at December 31, 1999 was 5.46%, which is in excess of regulatory
minimums. The Bank's Leverage Ratio at December 31, 1999 was 5.34%, which is
also in excess of regulatory minimums. See `Business - Regulation and
Supervision.'
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>
Year Ended December 31, 1999 Year Ended December 31, 1998
--------------------------------- -------------------------------
Average Average Average Average
Balance Interest Yield/Cost Balance Interest Yield/Cost
--------------------------------- ---------------------- ----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
INTEREST-EARNING ASSETS
Fed funds sold $ 40,904 $ 2,018 4.93% $ 30,712 $ 1,682 5.48%
Investment securities(3) 1,712,253 100,819 5.89% 1,352,682 81,047 5.99%
Demand loans (4) 84,806 3,765 4.44% 60,093 3,003 5.00%
----------- ---------- --------- --------- ----------- ----------
Total interest-earning
assets 1,837,963 106,602 5.80% 1,443,487 85,732 5.94%
---------- --------- ----------- ----------
Allowance for loan losses (100) (100)
Noninterest-earning assets 132,839 99,378
----------- ----------
Total assets $1,970,702 $1,542,765
=========== ==========
INTEREST-BEARING LIABILITIES
Deposits:
Demand $ 33,256 $ 1,178 3.54% $ 194,648 $ 9,334 4.80%
Savings 923,867 39,281 4.25% 455,687 20,042 4.40%
Time 11,574 587 5.07% 502 27 5.38%
Short term borrowings 656,749 29,783 4.53% 578,216 29,635 5.13%
----------- ---------- ---------- ---------- ---------- ----------
Total interest-bearing
liabilities 1,625,446 70,829 4.36% 1,229,053 59,038 4.80%
---------- ---------- ---------- ----------
Noninterest-bearing liabilities:
Demand deposits 117,117 129,256
Noninterest bearing time
deposits 65,000 65,000
Other liabilities 20,314 13,826
----------- -----------
Total liabilities 1,827,877 1,437,135
Trust Preferred Securities 24,203 24,174
Equity 118,622 81,456
----------- -----------
Total liabilities and
equity $1,970,702 $1,542,765
=========== ===========
Net interest income $ 35,773 $ 26,694
=========== =========
Net interest margin (1) 1.95% 1.85%
Average interest rate spread (2) 1.44% 1.14%
Ratio of interest-earning assets to
interest-bearing liabilities 113.07% 117.45%
</TABLE>
<TABLE>
<CAPTION>
Year Ended December 31, 1997
---------------------------------------
Average Average
Balance Interest Yield/Cost
--------------------------------------
<S> <C> <C> <C>
INTEREST-EARNING ASSETS $ 53,758 $ 2,981 5.55%
Fed funds sold 1,053,009 67,489 6.41%
Investment securities(3) 60,594 2,566 4.23%
Demand loans (4) ------------ ----------- ----------
Total interest-earning assets 1,167,361 73,036 6.26%
----------- ----------
Allowance for loan losses (100)
Noninterest-earning assets 69,258
-------------
Total assets $ 1,236,519
=============
INTEREST-BEARING LIABILITIES
Deposits:
Demand $ 140,274 $ 7,179 5.12%
Savings 252,408 11,468 4.54%
Time 1,472 76 5.16%
Short term borrowings 538,315 28,140 5.23%
----------- ----------- ----------
Total interest-bearing
liabilities 932,469 46,863 5.03%
----------- ----------
Noninterest-bearing liabilities:
Demand deposits 142,436
Noninterest bearing time
deposits 58,178
Other liabilities 12,814
------------
Total liabilities 1,145,897
Trust Preferred Securities 22,252
Equity 68,370
------------
Total liabilities and
equity $ 1,236,519
============
Net interest income $ 26,173
========
Net interest margin (1) 2.24%
Average interest rate spread (2) 1.23%
Ratio of interest-earing assets to
interest-bearing liabilities 125.20%
</TABLE>
- ---------
(1) Net interest income divided by total interest-earning assets.
(2) Yield on interest-earning assets less rate paid on interest-bearing
liabilities.
(3) Average yield/cost on available for sale securities is based on amortized
cost.
(4) Average yield/cost on demand loans includes accrual and nonaccrual loan
balances.
33
<PAGE>
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISLCOSURES ABOUT MARKET RISK.
The information required by this item is contained in the "Market Risk"
section in the "Management's Discussion and Analysis of Financial Condition and
Results of Operations," as part of this Report.
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The information required by this item is contained in the financial
statements and schedules set forth in Item 14(a) under the captions
`Consolidated Financial Statements' and `Financial Statement Schedules' as a
part of this Report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
There have been no changes in or disagreements with accountants on
accounting or financial disclosure matters during the Company's two most recent
fiscal years.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information required under this item is incorporated herein by
reference to the information in the sections entitled `Directors and Executive
Officers,' `Election of Directors' and `Compensation and other Information
Concerning Directors and Officers' contained in the Company's definitive proxy
statement pursuant to Regulation 14A, which proxy statement will be filed with
the Securities and Exchange Commission not later than 120 days after the close
of the Company's fiscal year ended December 31, 1999.
ITEM 11. EXECUTIVE COMPENSATION.
The information required under this item is incorporated herein by
reference to the information in the section entitled `Compensation and other
Information Concerning Directors and Officers' contained in the Company's
definitive proxy statement pursuant to Regulation 14A, which proxy statement
will be filed with the Securities and Exchange Commission not later than 120
days after the close of the Company's fiscal year ended December 31, 1999.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required under this item is incorporated herein by
reference to the information in the section entitled `Management and Principal
Holders of Voting Securities' contained in the Company's definitive proxy
statement pursuant to Regulation 14A, which proxy statement will be filed with
the Securities and Exchange Commission not later than 120 days after the close
of the Company's fiscal year ended December 31, 1999.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required under this item is incorporated herein by
reference to the information in the section entitled `Certain Relationships and
Related Transactions' contained in the Company's definitive proxy statement
pursuant to Regulation 14A, which proxy statement will be filed with the
Securities and Exchange Commission not later than 120 days after the close of
the Company's fiscal year ended December 31, 1999.
34
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a) 1. CONSOLIDATED FINANCIAL STATEMENTS.
For the following consolidated financial information included
herein, see Index on Page F-1:
Independent Auditors' Report
Consolidated Balance Sheets as of December 31, 1999 and
December 31, 1998.
Consolidated Statements of Income and Comprehensive Income for
the Years Ended December 31, 1999, 1998 and 1997.
Consolidated Statements of Stockholders' Equity for the Years
Ended December 31, 1999, 1998 and 1997.
Consolidated Statements of Cash Flows for the Years Ended
December 31, 1999, 1998 and 1997.
Notes to Consolidated Financial Statements.
2. FINANCIAL STATEMENT SCHEDULES.
None.
3. LIST OF EXHIBITS.
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
<S> <C>
2.1(1) Plan of Exchange of Common and Class A Stock of
the Company for all outstanding stock of the Bank
3.1(1) Certificate of Incorporation of the Company
3.2(1) By-laws of the Company
4.1(1) Specimen certificate representing the Common Stock
4.2(1) Stockholder Rights Plan
10.1(4) * Amended and Restated 1995 Stock Plan
10.2(1) Custodian Agreement among and between the Company,
Eaton Vance Corp. and each investment company
advised by Eaton Vance Corp. which adopted the
Agreement dated December 17, 1990
10.3(1) Transfer and Assumption Agreement between the
Company and Bank of New York dated January 27,
1995 regarding the assignment of Merrill Lynch
Unit Investment Trust administration service
10.4(1) Information Technology Services Contract between
the Company and Electronic Data Systems, Inc.
dated September 24, 1990
10.5(1) Third Party Hub and Spoke Processing License
Agreement between the Company and Signature
Financial Group, Inc. dated May 21, 1993
10.6(1) Hub and Spoke Facilities Management Agreement
between the Company and Signature Financial Group,
Inc. dated May 21, 1993
10.7(1) Loan Agreements with Landon Clay dated May 10,
1993 and October 6, 1994
10.8(1) * Description of the executive bonus arrangement
10.9(1) * Employment contract between the Company and Kevin
Sheehan
10.10(1)* Employment contract between the Company and
Michael Rogers
10.11(1)* Employment contract between the Company and Edmund
Maroney
10.12(1)* Employment contract between the Company and Robert
Mancuso
10.13(1) Sublease Agreement, as amended, between the
Company and the Bank of New England, N.A. dated
May 25, 1990, for premises located at 89 South
Street, Boston, Massachusetts
10.14(4)* Amended and Restated 1995 Non-Employee Director
Stock Option Plan
10.15(2) Information Technology Services Contract between
the Company and Electronic Data Systems, Inc.
dated September 20,1995,
10.16(2) Lease Agreement between the Company and John
Hancock Mutual Life Insurance Company, dated
November 13, 1995, for the premises located at 200
Clarendon Street, Boston, Massachusetts.
10.17(3)* Employment contract between the Company and Karen
C. Keenan
10.18(3)* 1995 Employee Stock Purchase Plan
35
<PAGE>
10.19(3) Amended and Restated Declaration of Trust among
the Company and the Trustees named therein,
dated January 31, 1997
10.20(3) Purchase Agreement among the Company, Investors
Capital Trust I and Keefe, Bruyette & Woods,
Inc., dated January 30, 1997 (Included in Exhibit
10.19)
10.21(3) Indenture between the Company and The Bank of New
York, dated January 31, 1997
10.22(3) Registration Rights Agreement, among the Company,
Investors Capital Trust I and Keefe, Bruyette
& Woods, Inc., dated January 31, 1997
10.23(3) Common Securities Guarantee Agreement by the
Company as Guarantor, dated January 31, 1997
10.24(3) Capital Securities Guarantee Agreement between the
Company as Guarantor and The Bank of New York as
Capital Securities Guarantee Trustee, dated
January 31, 1997
10.25(5) Agreement and Plan of Merger dated as of May 12,
1998 by and among the Company, AMT Capital
Services, Inc., Alan M. Trager, Carla E. Dearing
and the other parties named therein
10.26(6) Purchase and Sale Agreement dated as of July 17,
1998 by and between Investors Bank & Trust
Company and BankBoston, N.A.
10.27(7) Stock Purchase Agreement, dated as of March 19,
1999, by and between the Company and Oakmont
Corporation
21.1 Subsidiaries of the Company
23.1 Consent of Deloitte & Touche LLP
24.1 Power of Attorney (See Page 37 of this Report)
27 Financial Data Schedule
</TABLE>
(1) Incorporated herein by reference to the exhibits to the Company's
Registration Statement on Form S-1 (File No. 33-95980).
(2) Previously filed as an exhibit to Form 10-K for the fiscal year ended
December 31, 1996.
(3) Previously filed as an exhibit to Form 10-K for the fiscal year ended
December 31, 1997.
(4) Previously filed as an exhibit to From 10-K for the fiscal year ended
December 31, 1998
(5) Previously filed as an exhibit to the Company's Registration Statement
on Form S-3 (File No. 333-58031)
(6) Previously filed as an exhibit to the Company's Current Report on Form
8-K filed with the Commission on August 19, 1998.
(7) Previously filed as an exhibit to the Company's Current Report on Form
8-K filed with the Commission on March 31, 1999.
* Indicates a management contract or a compensatory plan, contract or
arrangement.
(b) REPORTS ON FORM 8-K.
The Company filed no reports on Form 8-K during the last quarter of the
year ended December 31, 1999.
(c) EXHIBITS.
The Company hereby files as part of this Form 10-K the exhibits listed
in Item 14(a)(3) above. Exhibits which are incorporated herein by reference can
be inspected and copied at the public reference facilities maintained by the
Securities and Exchange Commission, 450 Fifth Street, N.W., Room 1024,
Washington, D.C., and at the Securities and Exchange Commission's regional
offices at CitiCorp Center, 500 West Madison Street, Suite 1400, Chicago, IL
60661-2511 and Seven World Trade Center, Suite 1300, New York, NY 10048. Copies
of such material can also be obtained from the Public Reference Section of the
Securities and Exchange Commission, 450 Fifth Street, N.W., Washington, D.C.
20549, at prescribed rates.
(d) FINANCIAL STATEMENT SCHEDULES
None.
36
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized, in Boston,
Massachusetts on the 25th day of February, 2000.
INVESTORS FINANCIAL SERVICES CORP.
By: /s/ Kevin J. Sheehan
-------------------------------------------
Kevin J. Sheehan
President, Chief Executive Officer and
Chairman of the Board
POWER OF ATTORNEY AND SIGNATURES
We, the undersigned officers and directors of Investors Financial
Services Corp., hereby severally constitute and appoint Kevin J. Sheehan and
Michael F. Rogers, and each of them singly, our true and lawful attorneys, with
full power to them and each of them singly, to sign for us in our names in the
capacities indicated below, all amendments to this report, and generally to do
all things in our names and on our behalf in such capacities to enable Investors
Financial Services Corp. to comply with the provisions of the Securities
Exchange Act of 1934, as amended, and all requirements of the Securities and
Exchange Commission.
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, this report has been signed by the following persons in the capacities
indicated and on the 25th day of February, 2000.
<TABLE>
<CAPTION>
SIGNATURE TITLE(S)
<S> <C>
/s/ Kevin J. Sheehan President, Chief Executive Officer and Chairman of the
- --------------------------------------- Board (Principal Executive Officer); Director
Kevin J. Sheehan
/s/ Michael F. Rogers Executive Vice President
- ---------------------------------------
Michael F. Rogers
/s/ Karen C. Keenan Senior Vice President and Chief Financial Officer (Principal
- --------------------------------------- Financial Officer and Principal Accounting Officer)
Karen C. Keenan
/s/ Robert B. Fraser Director
- ---------------------------------------
Robert B. Fraser
/s/ Donald G. Friedl Director
- ---------------------------------------
Donald G. Friedl
/s/ James M. Oates Director
- ---------------------------------------
James M. Oates
/s/ Phyllis S. Swersky Director
- ---------------------------------------
Phyllis S. Swersky
/s/ Thomas P. McDermott Director
- ---------------------------------------
Thomas P. McDermott
/s/ Frank B. Condon, Jr. Director
- ---------------------------------------
Frank B. Condon, Jr.
</TABLE>
37
<PAGE>
INVESTORS FINANCIAL SERVICES CORP.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Report of Management to Stockholders........................................................................ F-2
FDICIA Independent Accountants' Report...................................................................... F-3
Independent Auditors' Report................................................................................ F-4
Consolidated Balance Sheets as of December 31, 1999 and December 31, 1998.................................. F-5
Consolidated Statements of Income and Comprehensive Income for the
Years Ended December 31, 1999, 1998 and 1997 ............................................................... F-6
Consolidated Statements of Stockholders' Equity for the Years Ended December 31, 1999, 1998 and 1997 ....... F-7
Consolidated Statements of Cash Flows for the Years Ended December 31, 1999, 1998 and 1997 .............. F-8
Notes to Consolidated Financial Statements.................................................................. F-10
</TABLE>
<PAGE>
February 11, 2000
To the Stockholders:
FINANCIAL STATEMENTS
The management of Investors Bank & Trust Company (the "Bank") is responsible for
the preparation, integrity, and fair presentation of its published financial
statements and all other information presented in the Consolidated Financial
Statements of Investors Financial Services Corp. (the "Company") contained in
this Annual Report. The financial statements of the Bank have been prepared in
accordance with generally accepted accounting principles and, as such, include
amounts based on informed judgments and estimates made by management.
INTERNAL CONTROL
Management is responsible for establishing and maintaining effective internal
control over financial reporting, including safeguarding of assets, for
financial presentations in conformity with both generally accepted accounting
principles and the Federal Financial Institutions Examination Council
Instructions for Schedules RC, RI, and RI-A of the Consolidated Reports of
Condition and Income (Call Report instructions). The internal control contains
monitoring mechanisms, and actions are taken to correct deficiencies identified.
There are inherent limitations in the effectiveness of any internal control,
including the possibility of human error and the circumvention or overriding of
controls. Accordingly, even effective internal control can provide only
reasonable assurance with respect to financial statement preparation. Further,
because of changes in conditions, the effectiveness of internal control may vary
over time.
Management assessed the institution's internal control over financial reporting,
including safeguarding of assets, for financial presentations in conformity with
both generally accepted accounting principles and Call Report instructions for
Schedules RC, RI, and RI-A as of December 31, 1999. This assessment was based on
criteria for effective internal control over financial reporting, including
safeguarding of assets, described in `INTERNAL CONTROL-INTEGRATED FRAMEWORK'
issued by the Committee of Sponsoring Organizations of the Treadway Commission.
Based on this assessment, management believes that the Bank maintained effective
internal control over financial reporting, including safeguarding of assets,
presented in conformity with both generally accepted accounting principles and
Call Report instructions for Schedules RC, RI, and RI-A as of December 31, 1999.
The Audit Committee of the Board of Directors is comprised entirely of outside
directors who are independent of the Bank's management. The Audit Committee is
responsible for recommending to the Board of Directors the selection of
independent auditors. It meets periodically with management, the independent
auditors, and the internal auditors to ensure that they are carrying out their
responsibilities. The Committee is also responsible for performing an oversight
role by reviewing and monitoring the financial, accounting and auditing
procedures of the Bank in addition to reviewing the Bank's financial reports.
The independent auditors and the internal auditors have full and free access to
the Audit Committee, with or without the presence of management, to discuss the
adequacy of internal control over financial reporting and any other matters
which they believe should be brought to the attention of the Committee.
COMPLIANCE WITH LAWS AND REGULATIONS
Management is also responsible for ensuring compliance with the federal laws and
regulations concerning loans to insiders and the federal and state laws and
regulations concerning dividend restrictions, both of which are designated by
the Federal Deposit Insurance Corporation ("FDIC") as safety and soundness laws
and regulations.
Management assessed its compliance with the designated safety and soundness laws
and regulations and has maintained records of its determinations and assessments
as required by the FDIC. Based on this assessment, management believes that the
Bank has complied, in all material respects, with the designated safety and
soundness laws and regulations for the year ended December 31, 1999.
/s/ Kevin J. Sheehan
- --------------------
Kevin J. Sheehan
Chief Executive Officer
/s/ Karen C. Keenan
- -------------------
Karen C. Keenan
Chief Financial Officer
F-2
<PAGE>
INDEPENDENT ACCOUNTANTS' REPORT
To the Audit Committee
Investors Bank & Trust Company
200 Clarendon Street
Boston, MA 02116
We have examined management's assertion that, as of December 31, 1999, Investors
Bank & Trust Company (the "Bank") maintained effective internal control over
financial reporting, including safeguarding of assets, presented in conformity
with both generally accepted accounting principles and the Federal Financial
Institutions Examination Council Instructions for Consolidated Reports of
Condition and Income for Schedules RC, RI, and RI-A, as of December 31, 1999
based on the criteria established in `INTERNAL CONTROL-INTEGRATED FRAMEWORK'
issued by the Committee of Sponsoring Organizations of the Treadway Commission.
Management is responsible for maintaining effective internal control over
financial reporting. Our responsibility is to express an opinion on management's
assertion based on our examination.
Our examination was conducted in accordance with attestation standards
established by the American Institute of Certified Public Accountants and,
accordingly, included obtaining an understanding of internal control over
financial reporting, testing, and evaluating the design and operating
effectiveness of the internal control, and performing such other procedures as
we considered necessary in the circumstances. We believe that our examination
provides a reasonable basis for our opinion.
Because of inherent limitations in any internal control, misstatements due to
error or fraud may occur and not be detected. Also, projections of any
evaluation of internal control over financial reporting to future periods are
subject to the risk that internal control may become inadequate because of
changes in conditions, or that the degree of compliance with the policies or
procedures may deteriorate.
In our opinion, management's assertion that, as of December 31, 1999, the Bank
maintained effective internal control over financial reporting, including
safeguarding of assets, presented in conformity with both generally accepted
accounting principles and the Federal Financial Institutions Examination Council
Instructions for Consolidated Reports of Condition and Income for Schedules RC,
RI, and RI-A as of December 31, 1999, is fairly stated, in all material
respects, based on the criteria established in `INTERNAL CONTROL--INTEGRATED
FRAMEWORK' issued by the Committee of Sponsoring Organizations of the Treadway
Commission.
DELOITTE & TOUCHE LLP
BOSTON, MASSACHUSETTS
February 11, 2000
F-3
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders
of Investors Financial Services Corp.:
We have audited the accompanying consolidated balance sheets of Investors
Financial Services Corp., and subsidiaries, (collectively, the `Company') as of
December 31, 1999 and 1998 and the related consolidated statements of income and
comprehensive income, stockholders' equity, and cash flows for each of the years
ended December 31, 1999, 1998 and 1997. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of the Company at December 31, 1999
and 1998, and the results of its operations and its cash flows for each of the
years ended December 31, 1999, 1998 and 1997, in conformity with generally
accepted accounting principles.
DELOITTE & TOUCHE LLP
BOSTON, MASSACHUSETTS
February 11, 2000
F-4
<PAGE>
INVESTORS FINANCIAL SERVICES CORP.
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1999 AND 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1999 1998
ASSETS (Dollars in thousands)
<S> <C> <C>
Cash and due from banks $ 37,624 $ 18,775
Federal funds sold and securities purchased under resale agreements 150,000 -
Securities held to maturity (approximate fair value of $1,730,745 and $948,645
at December 31, 1999 and December 31, 1998 respectively) 1,763,355 942,817
Securities available for sale 375,610 345,070
Non-marketable equity securities 15,000 7,626
Loans, less allowance for loan losses of $100 at December 31, 1999 and
December 31, 1998 109,292 54,292
Accrued interest and fees receivable 40,332 28,667
Equipment and leasehold improvements, net 10,337 10,833
Goodwill, net 39,776 43,767
Other assets 11,754 13,661
-------------- ---------------------
TOTAL ASSETS $ 2,553,080 $ 1,465,508
============== =====================
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES:
Deposits:
Demand $ 240,303 $ 173,207
Savings 1,237,104 667,098
Time 75,000 65,000
-------------- ---------------------
Total deposits 1,552,407 905,305
Securities sold under repurchase agreements 819,034 434,168
Short-term borrowings 1,000 -
Other liabilities 19,583 13,563
-------------- ---------------------
Total liabilities 2,392,024 1,353,036
-------------- ---------------------
Commitments and contingencies - -
Company-obligated, mandatorily redeemable, preferred
securities of subsidiary trust holding
solely junior subordinated deferrable interest
debentures of the Company 24,218 24,189
-------------- ---------------------
STOCKHOLDERS' EQUITY:
Preferred stock, par value $0.01 (shares authorized: 1,000,000; issued and
outstanding: 0 in 1999 and in 1998) - -
Common stock, par value $0.01 (shares authorized: 20,000,000; issued and
outstanding: 14,610,154 in 1999 and 6,722,050 in 1998) 146 67
Surplus 87,320 57,705
Deferred compensation (689) (1,198)
Retained earnings 53,542 33,484
Accumulated other comprehensive income/(loss), net (3,481) (1,775)
Treasury stock, par value $0.01 (10,814 in 1999 and 4,000 in 1998) - -
-------------- ---------------------
Total stockholders' equity 136,838 88,283
-------------- ---------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 2,553,080 $ 1,465,508
============== =====================
</TABLE>
See notes to consolidated financial statements.
F-5
<PAGE>
INVESTORS FINANCIAL SERVICES CORP.
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1999 1998 1997
OPERATING REVENUE: (Dollars in thousands)
<S> <C> <C> <C>
Interest income:
Federal funds sold and securities purchased
under resale agreements $ 2,018 $ 1,682 $ 2,981
Investment securities held to maturity and
available for sale 100,819 81,047 67,489
Loans 3,765 3,003 2,566
----------------- ----------------- ------------------
Total interest income 106,602 85,732 73,036
----------------- ----------------- ------------------
Interest expense:
Deposits 41,046 29,403 18,722
Short-term borrowings 29,783 29,635 28,141
----------------- ----------------- ------------------
Total interest expense 70,829 59,038 46,863
----------------- ----------------- ------------------
Net interest income 35,773 26,694 26,173
Provision for loan losses - - -
----------------- ----------------- ------------------
Net interest income after provision for loan 35,773 26,694 26,173
losses
Non-interest income:
Asset administration fees 132,478 96,757 78,325
Computer service fees 488 518 643
Other operating income 795 748 3,556
Gain/(loss) on securities available for sale - 833 114
----------------- ----------------- ------------------
Net operating revenue 169,534 125,550 108,811
----------------- ----------------- ------------------
OPERATING EXPENSES
Compensation and benefits 83,302 61,901 53,457
Technology and telecommunications 15,744 10,965 9,742
Transaction processing services 9,234 7,251 7,539
Occupancy 8,032 6,991 4,620
Depreciation and amortization 3,911 2,657 2,070
Professional fees 3,573 1,590 1,964
Travel and sales promotion 2,551 1,920 1,647
Amortization of goodwill 1,756 442 -
Insurance 769 783 768
Other operating expenses 6,943 5,084 5,555
----------------- ----------------- ------------------
Total operating expenses 135,815 99,584 87,362
----------------- ----------------- ------------------
INCOME BEFORE INCOME TAXES AND
MINORITY INTEREST 33,719 25,966 21,449
Provision for income taxes 10,790 9,348 7,382
Minority interest expense, net of income taxes 1,661 1,563 1,437
----------------- ----------------- ------------------
NET INCOME 21,268 15,055 12,630
----------------- ----------------- ------------------
Othercomprehensive income, net of tax of $960, $1,823 and $392 respectively
Unrealized gain/(loss) on securities:
Unrealized holding gains/(losses) arising during
the period (1,706) (3,775) 745
Less: reclassification adjustment for
gains/(losses) included in net income - 533 73
----------------- ----------------- ------------------
Other comprehensive income/(loss) (1,706) (3,242) 818
----------------- ----------------- ------------------
COMPREHENSIVE INCOME $ 19,562 $ 11,813 $ 13,448
================= ================= ==================
BASIC EARNINGS PER SHARE $ 1.49 $ 1.12 $ 0.95
================= ================= ==================
DILUTED EARNINGS PER SHARE $ 1.43 $ 1.09 $ 0.93
================= ================= ==================
See notes to consolidated financial statements.
</TABLE>
F-6
<PAGE>
INVESTORS FINANCIAL SERVICES CORP.
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
(Dollars in thousands)
ACCUMULATED
CLASS A OTHER
COMMON COMMON DEFERRED RETAINED COMPREHENSIVE TREASURY
STOCK STOCK SURPLUS COMPENSATION EARNINGS INCOME (LOSS) STOCK TOTAL
<S> <C> <C> <C> <C> <C> <C> <C> <C>
BALANCE, DECEMBER 31, 1996 $ 4 $ 63 $54,823 $ (1,687) $ 7,816 $ 649 $ - $ 61,666
-
Conversion of Class A to common stock (4) 4 - - - - - -
Amortization of deferred compensation - - - 439 - - - 439
Exercise of stock options - - 720 - - - - 720
Net income - - - - 12,630 - - 12,630
Cash dividend, $0.04 per share - - - - (516) - - (516)
Cash dividend to S Corp - - - - (405) - - (405)
Contribution of capital to S Corp - - 360 - - - - 360
Change in accumulated other comprehensive
income/(loss), net - - - - - 818 - 818
------------ ----- --------- --------------------------------------- -------- ---------
BALANCE, DECEMBER 31, 1997 $ - $ 67 $55,903 $ (1,248) $ 19,525 $ 1,467 $ - $ 75,712
Additions to deferred compensation - - 500 (500) - - - -
Amortization of deferred compensation - - - 550 - - - 550
Exercise of stock options - - 1,379 - - - - 1,379
Purchase of treasury stock - - (77) - - - - (77)
Net income - - - - 15,055 - - 15,055
Cash dividend, $0.06 per share - - - - (791) - - (791)
Cash dividend to S Corp - - - - (250) - - (250)
Non-cash dividend to S Corp - - - - (55) - - (55)
Change in accumulated other comprehensive
income/(loss), net - - - - - (3,242) - (3,242)
----------- ------- ------------------------------------------------ ------- ---------
BALANCE, DECEMBER 31, 1998 $ - $ 67 $57,705 $ (1,198) $ 33,484 $ (1,775) $ - $ 88,283
Amortization of deferred compensation - - - 509 - - - 509
Exercise of stock options - 2 2,281 - - - - 2,283
Tax benefit from exercise of options - - 1,343 - - - - 1,343
Common stock issuance - 9 25,991 - - - 26,000
Net Income - - - - 21,268 - - 21,268
Stock dividend, two-for-one split - 68 - - (68) - - -
Cash dividend, $0.08 per share - - - - (1,142) - - (1,142)
Change in accumulated other comprehensive
income/(loss), net - - - - - (1,706) - (1,706)
----------- ------- ------------------------------------------------ ------- ---------
BALANCE, DECEMBER 31, 1999 $ - $146 $87,320 $ (689) $ 53,542 $ (3,481) $ - $ 136,838
=========== ======= ================================================ ======= =========
</TABLE>
See notes to consolidated financial statements.
F-7
<PAGE>
INVESTORS FINANCIAL SERVICES CORP.
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1999 1998 1997
CASH FLOWS FROM OPERATING ACTIVITIES: (Dollars in thousands)
<S> <C> <C> <C>
Net income $ 21,268 $ 15,055 $ 12,630
----------------- ----------------- -----------------
Adjustments to reconcile net income to net cash
provided by/(used for) operating activities:
Depreciation and amortization 5,667 3,099 2,070
Amortization of deferred compensation 509 550 439
Amortization of premiums on securities, net of
accretion of discounts 5,636 8,229 4,455
Gain on sale of securities available for sale - (833) (114)
Gain on disposal of fixed assets - - (5)
Deferred income taxes 489 (427) 337
Changes in assets and liabilities (net of acquisition):
Accrued interest and fees receivable (9,337) (2,316) (6,466)
Other assets 3,734 (2,112) (4,735)
Other liabilities 5,915 663 2,781
----------------- ----------------- -----------------
Total adjustments 12,613 6,853 (1,238)
----------------- ----------------- -----------------
Net cash provided by operating activities 33,881 21,908 11,392
----------------- ----------------- -----------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from maturities of securities available for sale 81,038 178,808 105,834
Proceeds from maturities of securities held to maturity 321,230 299,839 107,992
Proceeds from sales of securities available for sale - 159,400 24,833
Purchases of securities available for sale (116,707) (229,340) (323,691)
Purchases of securities held to maturity (1,144,943) (444,159) (451,865)
Purchase of non-marketable equity securities (7,374) (2,150) (4,509)
Net (increase) decrease in federal funds sold and
securities purchased under resale agreements (150,000) 75,000 45,000
Net (increase) decrease in loans (55,000) 1,653 10,292
Proceeds from sales of equipment and leasehold
Improvements - - 189
Purchase of the Business - (47,682) -
Purchases of equipment and leasehold improvements (3,387) (4,863) (4,919)
----------------- ----------------- -----------------
Net cash used for investing activities (1,075,143) (13,494) (490,844)
----------------- ----------------- -----------------
</TABLE>
F-8
<PAGE>
INVESTORS FINANCIAL SERVICES CORP.
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 (CONTINUED)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1999 1998 1997
(Dollars in thousands)
<S> <C> <C> <C>
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase (decrease) in demand deposits 67,096 (181,410) 89,702
Net increase in time and savings deposits 580,007 239,974 160,521
Net increase (decrease) in short-term borrowings 385,866 (65,764) 203,112
Proceeds from exercise of stock options 2,283 1,380 720
Proceeds from issuance of trust preferred stock - - 25,000
Proceeds from issuance of common stock 26,000 - -
Purchase of treasury stock - (77) -
Costs of stock issuance - - (839)
Contribution of capital to S Corp - - 360
Dividends paid to IFSC (1,142) (791) (515)
Dividends paid to S Corp - (250) (405)
------------------ ------------------ ------------------
Net cash provided by/(used for) financing activities 1,060,110 (6,938) 477,656
------------------ ------------------ ------------------
INCREASE (DECREASE) IN CASH AND DUE FROM BANKS 18,849 1,476 (1,796)
CASH AND DUE FROM BANKS, BEGINNING OF YEAR 18,775 17,299 19,095
------------------ ------------------ ------------------
CASH AND DUE FROM BANKS, END OF YEAR $ 37,624 $ 18,775 $ 17,299
================== ================== ==================
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for interest $ 69,613 $ 58,961 $ 45,968
================== ================== ==================
Cash paid for income taxes $ 10,265 $ 7,616 $ 7,049
================== ================== ==================
</TABLE>
SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING
AND FINANCING ACTIVITIES:
On May 29, 1998, the Company purchased all of the outstanding capital stock of
AMT Capital Services, Inc., and its affiliated entity in exchange for 388,012
shares of the Company's common stock. During 1998, AMT Capital Services, Inc.,
distributed a noncash dividend of approximately $55,000. The acquisition was
accounted for using the pooling-of-interests method of accounting.
The Company also purchased the institutional trust and custody business of
BankBoston for a total approximate purchase price of $53.7 million. The
acquisition was accounted for under the purchase method of accounting. The fair
value of assets acquired at the date of acquisition is presented as follows:
<TABLE>
<CAPTION>
(Dollars in thousands)
<S> <C>
Accounts receivable $ 3,476.0
Fixed assets 97.9
Goodwill 44,209.3
Accrued expenses (101.8)
------------------------
Net assets acquired $ 47,681.4
========================
</TABLE>
As part of the termination of the outsourcing agreement with BankBoston, the
Company received a termination fee of approximately $7 million in February 2000.
In addition, in February 2000 the Company paid approximately $4.8 million based
upon business performance, in accordance with the purchase agreement.
Accordingly, the Company accrued approximately $2.2 million net receivable and
included the balance in `Accrued interest and fees receivable' on the Company's
consolidated balance sheet at December 31, 1999. See Notes to Consolidated
Financial Statements.
F-9
<PAGE>
INVESTORS FINANCIAL SERVICES CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
- --------------------------------------------------------------------------------
1. DESCRIPTION OF BUSINESS
Investors Financial Services Corp. (`IFSC') provides asset administration
services for the financial services industry through its wholly owned
subsidiaries, Investors Bank & Trust Company (the `Bank') and Investors
Capital Services, Inc. The Bank provides global custody, multicurrency
accounting, institutional transfer agency, performance measurement,
foreign exchange, securities lending, mutual fund administration and
investment advisory 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 and its domestic and foreign subsidiaries from the date of
the share exchange discussed below and shall mean the Bank prior to that
date.
On September 19, 1997, pursuant to the terms of the Certificate of
Incorporation of the Company, all shares of the Company's Class A Common
Stock automatically converted into shares of the Company's Common Stock.
The terms of the Class A Common Stock were identical to the terms of the
Common Stock, except that the Common Stock receives only one vote per
share rather than the ten votes per share previously received by Class A
Common Stock.
On February 16, 1999, the Board of Directors of the Company declared a
two-for-one stock split in the form of a 100% stock dividend payable March
17, 1999 to stockholders of record on March 1, 1999. All share numbers in
this Annual Report have been restated to reflect the two-for-one stock
split paid March 17, 1999, where applicable.
On March 26, 1999, the Company completed the issuance and sale of 900,000
shares of Common Stock at $29 per share in a private placement to one
investor. The net capital raised in the private placement was used to
support the Company's balance sheet growth
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION - The consolidated financial statements include the
accounts of the Company and its domestic and foreign subsidiaries. All
significant intercompany accounts and transactions have been eliminated.
CUSTODY AND TRUST ASSETS - Asset administration fees, including securities
lending and foreign exchange services and computer services fees, are
composed primarily of fee and fee-related income and are recorded on the
accrual basis.
ACCOUNTING ESTIMATES - The preparation of the consolidated financial
statements in conformity with generally accepted accounting principles
requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
SECURITIES - The Company classifies all equity securities that have
readily determinable fair values and all investments in debt securities
into one of three categories, as follows:
- - Debt securities that the Company has the positive intent and ability
to hold to maturity are classified as held to maturity and reported
at amortized cost.
- - Debt and equity securities that are bought and held principally for
the purpose of selling them in the near term are classified as
trading securities and reported at fair value, with unrealized gains
and losses included in earnings.
- - All other debt and equity securities are classified as available for
sale and reported at fair value, with unrealized gains and losses
excluded from earnings and reported in other comprehensive income.
- - The specific identification method is used to determine gains and
losses on sales of securities.
F-10
<PAGE>
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
FAIR VALUE OF FINANCIAL INSTRUMENTS - Statement of Financial Accounting
Standards (`SFAS') No. 107 requires the disclosure of the estimated fair
value of financial instruments, whether or not recognized in the Company's
consolidated balance sheets, estimated using available market information
or other appropriate valuation methodologies.
The carrying amounts of cash and due from banks are a reasonable estimate
of their fair value. The fair value of securities owned is estimated based
on quoted market prices. Both loans (including commitments to lend) and
deposits (including time deposits) bear interest at variable rates and are
subject to periodic repricing. As such, the carrying amount of loans and
deposits is a reasonable estimate of fair value. The fair value of the
Company's interest rate contracts is estimated based on quoted market
prices. The Company does not have any other significant financial
instruments.
LOANS - Interest income on loans is recorded on the accrual basis. Losses
on loans are provided for under the allowance method of accounting. The
allowance is increased by provisions charged to operating expenses based
on amounts management considers necessary to meet probable and reasonably
estimated losses on loans.
EQUIPMENT AND LEASEHOLD IMPROVEMENTS - Equipment and leasehold
improvements are stated at cost, less accumulated depreciation and
amortization. Depreciation and amortization are provided on the
straight-line method over the estimated useful lives of the assets which
range from three to seven years, and for leasehold improvements over the
lesser of the useful life or the life of the lease.
LONG-LIVED ASSETS - SFAS No. 121, `Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of,'
establishes accounting standards for the impairment of long-lived assets,
certain identifiable intangibles, and goodwill related to those assets to
be held and used and for long-lived assets and certain identifiable
intangibles to be disposed of. In accordance with this Statement and
Accounting Principles Board Opinion, ("APB") No. 17, `Intangible Assets,'
the Company continues to evaluate the amortization period that it assigns
and the recoverability of the carrying amount of the assets to determine
whether later events and circumstances warrant revised estimates of their
assignments.
INCOME TAXES - Income tax expense is based on estimated taxes payable or
refundable on a tax return basis for the current year and the changes in
deferred tax assets and liabilities during the year in accordance with
SFAS No. 109, `Accounting for Income Taxes.' Deferred tax assets and
liabilities are established for temporary differences between the
accounting basis and the tax basis of the Company's assets and liabilities
at enacted tax rates expected to be in effect when the amounts related to
such temporary differences are realized or settled.
TRANSLATION OF FOREIGN CURRENCIES - The functional currency of the
Company's foreign subsidiaries is the U.S. dollar. Accordingly, gains and
losses realized from the settlement of foreign currency transactions,
which were not significant in the years ended December 31, 1999, 1998 and
1997, are included in other operating expenses in the consolidated
statements of income.
DERIVATIVE FINANCIAL INSTRUMENTS - The Company does not purchase
derivative financial instruments for trading purposes. Interest rate swap
agreements are matched with specific financial instruments reported on the
consolidated balance sheet and periodic cash payments are accrued on a
settlement basis.
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.
The Company's policy requires settlement accounting principles for
interest rate swaps in which net interest rate differentials to be paid or
received are recorded currently as adjustments to interest expense.
LIABILITIES - SFAS No. 125, `Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities,' establishes
consistent accounting standards for transfers and servicing of financial
assets and extinguishments of liabilities. SFAS No. 125 provides
consistent standards for distinguishing transfers of financial assets that
are sales from transfers of financial assets that are secured borrowings
based upon the existence of control. SFAS No. 125 was effective and
adopted during fiscal 1997. SFAS No. 125 had no material effect upon the
Company's consolidated financial statements.
F-11
<PAGE>
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
STOCK-BASED COMPENSATION - The Company accounts for stock-based
compensation using the intrinsic value-based method of APB No. 25, as
allowed under SFAS No. 123, `Accounting for Stock-Based Compensation.'
Accordingly, proforma net income and earnings per share information has
been presented in Note 12.
EARNINGS PER SHARE - In 1997, the Company adopted SFAS No. 128, `Earnings
per Share,' and SFAS No. 129, `Disclosure of Information about Capital
Structure'. SFAS No. 128 requires that entities with publicly held common
stock or potential common stock compute, present, and disclose earnings
per share based upon the Basic and/or Diluted earnings per share (`EPS').
Basic EPS were computed by dividing net income by the weighted average
number of common shares outstanding during the year. Diluted EPS were
computed by increasing the weighted average of common shares outstanding
used in Basic EPS by the number of additional common shares that would
have been outstanding if the dilutive common stock had been issued. Based
upon the Company's capital structure, the Statement requires presentation
of both Basic and Diluted EPS.
COMPREHENSIVE INCOME - In 1998, the Company adopted SFAS No. 130,
`Reporting Comprehensive Income.' SFAS No. 130 establishes standards for
reporting and display of comprehensive income and its components in a full
set of general-purpose financial statements. SFAS No. 130 requires that an
enterprise classify items of other comprehensive income by their nature in
a financial statement and display the accumulated balance of other
comprehensive income separately from retained earnings and additional
paid-in capital in the equity section of a statement of financial
position. SFAS No. 130 is effective for financial statements for periods
beginning after December 15, 1997.
SEGMENT REPORTING - In 1998, the Company adopted SFAS No. 131,
`Disclosures about Segments of an Enterprise and Related Information.'
SFAS No. 131 establishes standards for the way that public business
enterprises report information about operating segments in annual
financial statements. It also establishes standards for related
disclosures about products and services, geographic areas, and major
customers. SFAS No. 131 is effective for financial statements for periods
beginning after December 15, 1997, and is discussed in Note 20.
EMPLOYEE BENEFIT PLANS - In 1998, the Company adopted SFAS No. 132,
`Employers' Disclosures about Pensions and Other Postretirement Benefits.'
SFAS No. 132 revises employers' disclosures about pension and other
postretirement benefit plans. It does not change the measurement or
recognition of those plans, but requires additional information on changes
in the benefit obligations and fair values of plan assets. SFAS No. 132 is
addressed in Note 13.
NEW ACCOUNTING PRINCIPLES - In June of 1998, the FASB issued SFAS No. 133,
`Accounting for Derivative Instruments and Hedging Activities'. SFAS No.
133 establishes accounting and reporting standards for derivatives
instruments, including certain derivative instruments embedded in other
contracts, (collectively referred to as derivatives) and for hedging
activities. It requires that an entity recognize all derivatives as either
assets or liabilities in the statement of financial position and measure
those instruments at fair value. The accounting for changes in the fair
value depends on the intended use of the derivative and the resulting
designation. SFAS No. 133, as amended by SFAS No. 137, is effective for
fiscal years beginning after June 15, 2000.
RECLASSIFICATIONS - Certain amounts in the prior periods' financial
statements have been reclassified to conform to the current year's
presentation.
3. ACQUISITIONS
On May 29, 1998, the Company acquired AMT Capital Services, Inc. and an
affiliated company (collectively, `AMT Capital Services'), a New
York-based firm recognized for providing fund administration services to
global and domestic institutional investment management firms. Under the
terms of the acquisition agreement, the Company acquired all of the
outstanding capital stock of AMT Capital Services in exchange for 388,012
shares of the Company's common stock. The acquisition was accounted for
using the pooling-of-interests method of accounting. Upon completion of
the acquisition, AMT Capital Services became a wholly owned subsidiary of
the Company and was re-named Investors Capital Services, Inc. On April 12,
1999, 6,814 of the shares issued by the Company were returned to the
Company pursuant to the indemnification and escrow provisions of the
acquisition agreement.
The AMT Acquisition has been accounted for under the
"pooling-of-interests" method and therefore the consolidated financial
statements for all periods prior to the acquisition have been restated to
include the accounts and operations of AMT Capital Services with those of
the Company. The AMT Acquisition was structured as a tax-free
reorganization under the Internal Revenue Code.
F-12
<PAGE>
3. ACQUISITIONS (CONTINUED)
Prior to the business combination, AMT Capital was an S Corporation for
the fiscal year ended December 31, 1997, and consequently, was not subject
to federal income taxes. The pro-forma income tax provision for AMT
Capital that would have been reported by the Company as an additional
provision to its historical tax expense, had AMT Capital not been an S
Corporation prior to the combination, was $500,000 for the year ended
December 31, 1997.
As a result of the AMT Capital Services, Inc. acquisition, all of the
prior period consolidated financial statements were restated and filed
with the Securities and Exchange Commission on Form 8-K on August 19,
1998. On December 31, 1998, Investors Capital Services, Inc. and Investors
Capital Advisers, Inc. were merged into one company, Investors Capital
Services, Inc., via a tax free reorganization.
No adjustments to conform accounting policies of the Company and AMT
Capital were required.
Revenue and net income (loss) for the previously separate companies for
the years ended December 31, 1998 and 1997 were (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1998 1997
----------------------- ----------------------
(Dollars in thousands, except per share)
<S> <C> <C>
NET OPERATING REVENUE:
IFSC $ 120,850 $ 102,989
AMT Capital 4,700 5,822
----------------------- ----------------------
Total $ 125,550 $ 108,811
======================= ======================
NET INCOME:
IFSC $ 14,996 $ 11,580
AMT Capital 59 1,050
----------------------- ----------------------
Total $ 15,055 $ 12,630
======================= ======================
BASIC EARNINGS PER
SHARE
IFSC $ 1.11 $ 0.90
AMT Capital 0.01 0.05
----------------------- ----------------------
Total $ 1.12 $ 0.95
======================= ======================
DILUTED EARNINGS PER
SHARE
IFSC $ 1.08 $ 0.88
AMT Capital 0.01 0.05
----------------------- ----------------------
Total $ 1.09 $ 0.93
======================= ======================
</TABLE>
F-13
<PAGE>
3. ACQUISITIONS (CONTINUED)
On October 1, 1998, the Bank acquired the domestic institutional trust and
custody business (`the Business') of BankBoston, N.A. Under the terms of
the purchase agreement, the Bank paid approximately $48 million to
BankBoston as of the closing and accrued an additional amount of
approximately $4.8 million at December 31, 1999 based upon client
retention and business performance. The Business provides master trust and
custody services to endowments, pension funds, municipalities, mutual
funds and other financial institutions, primarily in New England. The
acquisition was accounted for using the purchase method of accounting. In
connection with the acquisition, the Bank and BankBoston also entered into
an outsourcing agreement. Pursuant to the outsourcing agreement, the Bank
acted as custodian, and provided certain other services, for three
BankBoston asset management related businesses: domestic private banking,
institutional asset management and international private banking. In
September 1999, the Bank received notification from BankBoston of its
intent to terminate the outsourcing agreement. The termination, expected
to be effective in early 2000, will have no impact on the remaining
business purchased from BankBoston. Pursuant to the terms of the
outsourcing agreement, the Bank accrued a termination fee of $7 million at
December 31, 1999. Therefore, an adjustment to decrease the purchase
price, resulting from the two above mentioned items, was made for $2.2
million.
Prior to the acquisition, the Business provided a full range of master
trust and custody services to small and mid-size clients located primarily
in the New England area. The Business provided custody and safekeeping of
assets for mutual funds, financial institutions, trusts and other
institutions. The Business also provided custody and safekeeping of
assets, income collection, trade settlement, corporate action
administration and trade date accounting services for endowments, pension
funds, and municipalities.
The information below presents on a pro forma basis, certain historical
information for the Company, adjusted for the Business acquisition as if
such acquisition had been consummated on January 1, 1998 and 1997. Since
October 1, 1998, the Business has been included in the operations of the
Company.
<TABLE>
<CAPTION>
PRO FORMA RESULTS (UNAUDITED): DECEMBER 31, 1998 DECEMBER 31, 1997
-------------------------------- -------------------------- --------------------------
(Dollars in thousands, except per share data)
<S> <C> <C>
Net interest income $ 24,972 $ 23,407
Net operating revenue 136,118 122,486
Net Income 25,765 20,440
Basic earnings per share $ 1.12 $ 0.90
Diluted earnings per share $ 1.08 $ 0.88
COMPANY AS REPORTED:
--------------------------------
Net interest income $ 26,694 $ 26,173
Net operating revenue 125,550 108,811
Net Income 15,055 12,630
Basic earnings per share $ 1.12 $ 0.95
Diluted earnings per share $ 1.09 $ 0.93
</TABLE>
Goodwill related to the BankBoston Domestic Institutional Trust and Custody
Business (the "Business") is summarized as follows:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1999 1998
------------------ ------------------
(Dollars in thousands)
<S> <C> <C>
Goodwill $ 41,532 $ 44,209
Less: accumulated amortization (1,756) (442)
------------------ ------------------
$ 39,776 $ 43,767
================== ==================
</TABLE>
F-14
<PAGE>
3. ACQUISTIONS (CONTINUED)
In September 1999, the Company received notification from BankBoston of their
intent to terminate the outsourcing agreement connected to the acquisition of
the BankBoston Domestic Trust and Custody Business. Pursuant to the terms of
the outsourcing agreement, the Company received a termination fee of $7
million in February 2000. In addition, pursuant to the terms of the
agreement, the Company has recorded an increase to the purchase price of
approximately $4.8 million based upon business performance. Therefore, the
Company has decreased the overall purchase price of the BankBoston Domestic
Trust and Custody Business acquisition by approximately $2.2 million.
On October 29, 1999, the Bank entered into an agreement with Sanwa Bank
California, pursuant to which the Bank agreed to purchase the right to
provide institutional custody and related services to accounts managed by the
Trust Company of the West. The accounts subject to the agreement totaled
approximately $3.6 billion in assets at October 26, 1999. The Bank expects to
complete the purchase by March 31, 2000, subject to customary closing
conditions.
4. SECURITIES
Amortized cost amounts and approximate fair values of securities are
summarized as follows as of December 31, 1999:
<TABLE>
<CAPTION>
AMORTIZED UNREALIZED UNREALIZED APPROXIMATE
HELD TO MATURITY COST GAINS (LOSSES) FAIR VALUE
---------------------------------- ----------------- ----------------- -------------- --------------------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Mortgage-backed securities $ 1,464,816 $ 3,601 $ (26,684) $ 1,441,733
Federal agency securities 227,030 84 (3,790) 223,324
State and political subdivisions 63,871 64 (5,890) 58,045
Foreign government securities 7,638 5 - 7,643
----------------- ----------------- -------------- --------------------
Total $ 1,763,355 $ 3,754 $ (36,364) $ 1,730,745
================= ================= ============== ====================
</TABLE>
<TABLE>
<CAPTION>
AMORTIZED UNREALIZED UNREALIZED APPROXIMATE
AVAILABLE FOR SALE COST GAINS (LOSSES) FAIR VALUE
---------------------------------- ----------------- ----------------- -------------- --------------------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Mortgage-backed securities $ 240,300 $ 344 $ (1,512) $ 239,132
Federal agency securities 54,538 - (2,228) 52,310
Corporate debt 49,343 - (1,468) 47,875
Municipal bonds 36,868 1 (576) 36,293
----------------- ----------------- -------------- -----------------
Total $ 381,049 $ 345 $ (5,784) $ 375,610
================= ================= ============== =================
</TABLE>
Amortized cost amounts and approximate fair values of securities are
summarized as follows as of December 31, 1998:
<TABLE>
<CAPTION>
AMORTIZED UNREALIZED UNREALIZED APPROXIMATE
HELD TO MATURITY COST GAINS (LOSSES) FAIR VALUE
---------------------------------- ----------------- ----------------- -------------- --------------------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Mortgage-backed securities $ 733,109 $ 4,423 $ (1,300) $ 736,232
Federal agency securities 166,181 1,020 (1,620) 165,581
State and political subdivisions 35,821 2,967 - 38,788
Foreign government securities 7,706 338 - 8,044
------------------ ---------------- -------------- -----------------
Total $ 942,817 $ 8,748 $ (2,920) $ 948,645
================== ================ ============== =================
</TABLE>
F-15
<PAGE>
4. SECURITIES (CONTINUED)
<TABLE>
<CAPTION>
AMORTIZED UNREALIZED UNREALIZED APPROXIMATE
AVAILABLE FOR SALE COST GAINS (LOSSES) FAIR VALUE
---------------------------------- ----------------- ----------------- -------------- --------------------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Mortgage-backed securities $261,529 $ 240 $ (2,347) $ 259,422
Corporate debt 49,329 - (1,259) 48,070
Municipal bonds 36,985 593 - 37,578
----------------- ----------------- -------------- -----------------
Total $ 347,843 $ 833 $ (3,606) $ 345,070
================= ================= ============== =================
</TABLE>
Non-marketable equity securities at December 31, 1999 and 1998 consisted
of stock of the FHLBB. As a member of the FHLBB, the Company is required
to invest in $100 par value stock of the FHLBB in an amount equal to the
greater of (i) 1% of its outstanding residential mortgage loan principal
(including mortgage pool securities), (ii) 0.3% of total assets, and (iii)
total advances from the FHLBB, divided by a leverage factor of 20. If and
when such stock is redeemed, the Company will receive an amount equal to
the par value of the stock.
The amortized cost amounts and approximate fair values of securities by
effective maturity are as follows:
<TABLE>
<CAPTION>
DECEMBER 31, 1999
--------------------------------------
AMORTIZED APPROXIMATE
HELD TO MATURITY COST FAIR VALUE
(Dollars in thousands)
------------------------------ ---------------- -----------------
<S> <C> <C>
Due within one year $ 7,865 $ 7,898
Due from one to five years 684,437 677,934
Due five years up to ten years 484,798 478,282
Due after ten years 586,255 566,631
---------------- -----------------
Total $ 1,763,355 $ 1,730,745
================ =================
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, 1999
--------------------------------------
AMORTIZED APPROXIMATE
AVAILABLE FOR SALE COST FAIR VALUE
------------------------------ ---------------- -----------------
(Dollars in thousands)
<S> <C> <C>
Due within one year $ 2,375 $ 2,376
Due from one to five years 301,003 297,448
Due five years up to ten years 27,815 27,399
Due after ten years 49,856 48,387
----------------- ------------------
Total $ 381,049 $ 375,610
================= ==================
</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.
There were no sales of securities available for sale during the year ended
December 31, 1999. Twenty-six securities available for sale were sold
during the year ended December 31, 1998 for approximately $159.4 million,
and five available for sale securities were sold during the year ended
December 31,1997 for approximately $24.8 million. The gains and losses
resulting from these transactions were not material to the Company's
Consolidated Financial Statements.
The carrying value of securities pledged amounted to approximately $1.6
billion and $602 million at December 31, 1999 and December 31, 1998,
respectively. Securities are pledged primarily to secure public funds and
clearings with other depository institutions.
F-16
<PAGE>
5. 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
lines of credit and advances pursuant to the terms of the custody
agreements between the Company and those mutual fund clients to facilitate
securities transactions and redemptions. Generally, the loans are, or may
be, in the event of default, collateralized with marketable securities
held by the Company as custodian. There were no impaired or non-performing
loans at December 31, 1999 and December 31, 1998. In addition, there have
been no loan charge-offs or recoveries during the years ended December 31,
1999, 1998 and 1997. Loans consisted of the following at December 31, 1999
and December 31, 1998:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1999 1998
------------------- -----------------
(Dollars in thousands)
<S> <C> <C>
Loans to individuals $ 65,010 $ 25,583
Loans to not-for-profit institutions 13 13
Loans to mutual funds 44,369 28,796
------------------- -----------------
109,392 54,392
Less allowance for loan losses 100 100
------------------- -----------------
Total $ 109,292 $ 54,292
=================== =================
</TABLE>
The Company had commitments to lend of approximately $160 million and $141
million at December 31, 1999 and December 31, 1998, respectively. The
terms of these commitments are similar to the terms of outstanding loans.
6. EQUIPMENT AND LEASEHOLD IMPROVEMENTS
The major components of equipment and leasehold improvements are as
follows at December 31, 1999 and December 31, 1998:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1999 1998
------------------- -----------------
(Dollars in thousands)
<S> <C> <C>
Furniture, fixtures and equipment $ 17,603 $ 16,065
Leasehold improvements 1,349 490
------------------- ------------------
Total 18,952 16,555
Less accumulated depreciation and amortization 8,615 5,722
------------------- ------------------
Equipment and leasehold improvements, net $ 10,337 $ 10,833
=================== ==================
</TABLE>
The software costs capitalized under SOP 98-1 are included within the
furniture, fixtures and equipment component.
7. DEPOSITS
Time deposits at December 31, 1999 and December 31, 1998 include
non-interest bearing amounts for both years of approximately $65 million.
All time deposits had a minimum balance of $100,000 and a maturity of less
than three months at December 31, 1999 and December 31, 1998.
F-17
<PAGE>
8. SHORT-TERM BORROWINGS
Short-term borrowings consisted of Treasury, Tax and Loan balances, which
were $1 million and $0 at December 31, 1999 and 1998, respectively.
The Company receives federal tax deposits from clients as an agent for the
Federal Reserve Bank and accumulates these deposits in the Treasury, Tax
and Loan account. The Federal Reserve Bank charges the Company interest at
the Federal Funds rate on such deposits. The interest rate on the
outstanding balance at December 31, 1999 was 5.46%.
9. SECURITIES SOLD UNDER REPURCHASE AGREEMENTS
The Company enters into repurchase agreements whereby securities are sold
by the Company under agreements to repurchase. Repurchase agreements were
$819 million and $434.2 million at December 31, 1999 and 1998
respectively. The interest rate on the outstanding agreements at December
31, 1999 ranged from 3.06% to 6.06% and all agreements matured by January
3, 2000. The interest rate on the outstanding agreements at December 31,
1998 was 4.25% and all agreements matured on January 4, 1999.
The following securities were pledged under the repurchase agreements at
December 31, 1999 and December 31, 1998:
<TABLE>
<CAPTION>
DECEMBER 31, 1999 DECEMBER 31, 1998
--------------------------------------- -----------------------------------------
AMORTIZED APPROXIMATE AMORTIZED APPROXIMATE
COST FAIR VALUE COST FAIR VALUE
------------------ ----------------- ------------------ ------------------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Federal agency securities $ 177,598 $ 176,501 $ 39,460 $ 39,617
Mortgage-backed securities 681,482 680,818 469,059 470,970
------------------ ----------------- ------------------ ------------------
Total $ 859,080 $ 857,319 $ 508,519 $ 510,587
================== ================= ================== ==================
</TABLE>
The amounts outstanding at December 31, 1999 and March 31, 1998 were the
highest amounts outstanding at any month end during the years ended
December 31, 1999 and December 31, 1998, respectively. The balances at
December 31, 1999 and March 31, 1998 were $859 million and $516 million,
respectively. The average balance during the years ended December 31, 1999
and 1998 were approximately $572 million and $501 million, respectively.
There were no balances with clients for which the amount at risk exceeded
10% of stockholders' equity.
10. INCOME TAXES
The components of income tax expense are as follows for the years ended
December 31, 1999, 1998 and 1997:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1999 1998 1997
-------------------- -------------------- --------------------
(Dollars in thousands)
<S> <C> <C> <C>
Current:
Federal $ 9,160 $ 7,133 $ 5,453
State 393 1,668 774
Foreign (33) 94 9
-------------------- -------------------- --------------------
9,520 8,895 6,236
-------------------- -------------------- --------------------
Deferred:
Federal 450 (314) 246
State 39 (113) 91
Foreign - - -
-------------------- -------------------- --------------------
489 (427) 337
-------------------- -------------------- --------------------
Total income taxes $ 10,009 $ 8,468 $ 6,573
==================== ==================== ====================
</TABLE>
F-18
<PAGE>
10. INCOME TAXES (CONTINUED)
Differences between the effective income tax rate and the federal
statutory rates are as follows for the years ended December 31, 1999, 1998
and 1997:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1999 1998 1997
----------------- ---------------- ----------------
<S> <C> <C> <C>
Federal statutory rate 35.00% 35.00% 35.00%
State income tax rate, net of federal benefit .90 4.30 2.61
Foreign income taxes with different rates (.11) - 0.03
Tax-exempt income, net of disallowance (4.47) (4.17) (2.35)
Other .68 0.87 (0.88)
----------------- ---------------- ----------------
Effective tax rate 32.00% 36.00% 34.41%
================= ================ ================
</TABLE>
The tax effects of temporary differences that give rise to significant
portions of deferred tax assets and liabilities consist of the following
at December 31, 1999 and December 31, 1998:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1999 1998
---------------- ----------------
(Dollars in thousands)
Deferred tax assets:
<S> <C> <C>
Employee benefit plans $ 621 $ 598
Securities available for sale 1,904 998
Other 210 181
---------------- ----------------
2,735 1,777
Deferred tax liabilities:
Depreciation and amortization (1,170) (629)
---------------- ----------------
Net deferred tax asset $ 1,565 $ 1,148
================ ================
</TABLE>
Net deferred tax assets are reported as components of other assets in the
consolidated balance sheets.
11. COMPANY OBLIGATED MANDATORILY REDEEMABLE PREFERRED SECURITIES OF
SUBSIDIARY TRUST HOLDING JUNIOR SUBORDINATED DEFERRABLE INTEREST
DEBENTURES OF THE COMPANY
On January 31, 1997, a trust sponsored and wholly owned by the Company
issued $25 million in 9.77% Trust Preferred Securities (the `Capital
Securities'), the proceeds of which were invested by the trust in the same
aggregate principal amount of the Company's newly issued 9.77% Junior
Subordinated Deferrable Interest Debentures due February 1, 2027 (the
`Junior Subordinated Debentures'). The $25 million aggregate principal
amount of the Junior Subordinated Debentures represents the sole asset of
the Trust. The Company has guaranteed, on a subordinated basis,
distributions and other payments due on the Capital Securities (the
`Guarantee'). The Guarantee, when taken together with the Company's
obligations under (i) the Junior Subordinated Debentures; (ii) the
indenture pursuant to which the Junior Subordinated Debentures were
issued; and (iii) the Amended and Restated Declaration of Trust governing
the Trust, constitutes a full and unconditional guarantee of the Trust's
obligations under the Capital Securities.
F-19
<PAGE>
12. STOCKHOLDERS' EQUITY
The Company has authorized 1,000,000 shares of Preferred Stock and
20,000,000 shares of Common Stock, all with a par value of $0.01 per
share.
On February 16, 1999, the Board of Directors approved a two-for-one stock
split in the form of a 100% stock dividend to shareholders of record on
March 1, 1999. The dividend was paid on March 17, 1999. A total of
6,797,973 shares of common stock were issued in connection with the split.
The par value of these additional shares was capitalized by a transfer
from retained earnings to common stock. The split did not cause any change
in the $0.01 par value per share of the common stock or in total
stockholders' equity.
The Company has three stock option plans: the Amended and Restated 1995
Stock Plan, the Amended and Restated 1995 Non-Employee Director Stock
Option Plan, and the 1997 Employee Stock Purchase Plan.
Under the terms of the Amended and Restated 1995 Stock Plan, the Company
may grant options to purchase up to a maximum of 2,320,000 shares of
Common Stock to certain employees, consultants, directors and officers.
The options may be awarded as incentive stock options (employees only),
non-qualified stock options, stock awards or opportunities to make direct
purchases of stock. No options were granted to consultants during the year
ended December 31, 1999. Of the 2,320,000 shares of Common Stock
authorized for issuance under the plan 415,938 were available for grant at
December 31, 1999.
Under the terms of the Amended and Restated 1995 Non-Employee Director
Stock Option Plan, the Company may grant options to non-employee directors
to purchase up to a maximum of 200,000 shares of Common Stock. Options to
purchase 5,000 shares of Common Stock were awarded on November 8, 1995 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, non-employee directors may 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
Amended and Restated 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 Amended and Restated 1995
Non-Employee Director Stock Option Plan and the incentive options under
the Amended and Restated 1995 Stock Plan may not be less than the fair
market value at the date of the grant. The exercise price of the
non-qualified options from the Amended and Restated 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.
In November 1995, the Company granted 224,000 of shares of Common Stock to
certain officers of the Company under the 1995 Stock Plan. Of these
grants, 210,000 shares vest in sixty equal monthly installments, and the
remainder vests 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. On March
31, 1998, the Company repurchased 4,000 unvested shares for $77,000 under
the terms of the 1995 Stock Plan. On May 29, 1998, the Company granted
20,000 shares of Common Stock to an officer of AMT Capital Services, Inc.
in connection with the acquisition of AMT Capital Services Inc. The
Company has recorded deferred compensation of $689,000 and $1.2 million at
December 31, 1999 and December 31, 1998 respectively, pursuant to these
grants.
Under the terms of the 1997 Employee Stock Purchase Plan, the Company may
issue up to 280,000 shares of Common Stock pursuant to the exercise of
nontransferable options granted to participating employees. The 1997
Purchase Plan permits eligible employees to purchase up to 1,000 shares of
Common Stock per payment period, subject to limitations provided by
Section 423(b) of the Internal Revenue Code, through accumulated payroll
deductions. The purchases are made twice a year at a price equal to the
lesser of (i) 90% of the average market value of the Common Stock on the
first business day of the payment period, or (ii) 90% of the average
market value of the Common Stock on the last business day of the payment
period. Annual payment periods consist of two six-month periods, January 1
through June 30 and July 1 through December 31.
F-20
<PAGE>
12. STOCKHOLDERS' EQUITY (CONTINUED)
A summary of option activity under both the Amended and Restated 1995
Non-Employee Director Stock Option Plan and the Amended and Restated 1995
Stock Plans is as follows:
<TABLE>
<CAPTION>
1999 1998 1997
------------------------------ ---------------------------- ------------------------------
WEIGHTED- WEIGHTED- WEIGHTED-
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
SHARES PRICE SHARES PRICE SHARES PRICE
------------ ---------- ------------- --------- ----------- ----------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at
beginning of year 1,405,622 $21 1,034,568 $15 690,300 $11
Granted 438,305 40 474,726 25 374,524 22
Exercised (334,059) 32 (66,710) 26 (29,506) 9
Canceled (29,701) 20 (36,962) 13 (750) 9
------------ ------------- ------------
Outstanding at end of
year 1,480,167 25 1,405,622 21 1,034,568 15
============ ============= ============
Outstanding and
exercisable at year-
end 670,974 498,498 297,878
============ ============= ============
</TABLE>
The following table summarized information about stock options outstanding
at December 31, 1999:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------------------------------- -------------------------------------
NUMBER WEIGHTED- WEIGHTED- NUMBER WEIGHTED-
RANGE OF OUTSTANDING AT AVERAGE AVERAGE EXERCISABLE AT AVERAGE
EXERCISE DECEMBER 31, REMAINING EXERCISE DECEMBER 31, EXERCISE
PRICES 1999 CONTRACTUAL LIFE PRICE 1999 PRICE
--------------- ------------------ ------------------- ---------------- ---------------- ----------------
<S> <C> <C> <C> <C> <C> <C>
$8 110,358 .9 years $ 8 110,358 $ 8
11-13 187,301 1.8 13 134,145 13
14-24 299,917 6.9 21 146,023 21
22-33 444,702 8.4 24 117,191 24
29-44 437,889 9.7 38 163,257 34
----------------- ----------------
8-44 1,480,167 7.1 25 670,974 21
================= ================
</TABLE>
A summary of the 1997 Employee Stock Purchase Plan is as follows:
<TABLE>
<CAPTION>
1999 1998 1997
-------------- ------------------- ---- --------
SHARES SHARES SHARES
-------------- --------------- ------------
<S> <C> <C> <C>
Total shares available under the
Plan beginning of year 216,802 257,504 280,000
Issued at June 30 (21,247) (20,732) -
Issued at December 31 (16,878) (19,970) (22,496)
-------------- --------------- ------------
Total shares available under the
Plan end of year 178,677 216,802 257,504
============== =============== ============
</TABLE>
During the year ended December 31, 1999, the exercise price of the stock
was $27.50 and $35.00, or 90% of the average market value of the Common
Stock on the first business day of the payment period ending June 30, 1999
and December 31, 1999, respectively. During the year ended December 31,
1998, the exercise price of the stock was $21.625, or 90% of the average
market value of the Common Stock on the first business day of the payment
period ending June 30, 1998, and $23.875, or 90% of the average market
value of the Common Stock on the last business day of the payment period
ending December 31, 1998. At December 31, 1997 the exercise price of the
stock was $20.75, or 90% of the average market value of the Common Stock
on the last business day of the payment period.
F-21
<PAGE>
12. STOCKHOLDERS' EQUITY (CONTINUED)
EMPLOYEE STOCK-BASED COMPENSATION - With respect to employee stock-based
compensation, the Company has adopted the disclosure-only requirements of
SFAS No. 123. Accordingly, no compensation cost has been recognized in the
accompanying financial statements for employee stock-based compensation
awarded under the three employee stock option plans because there was no
intrinsic value at the date of grant. If compensation cost had been
determined for awards granted under the employee stock option plans based
on the fair value of the awards at the date of grant in accordance with
the provisions of SFAS No. 123, the Company's net income and earnings per
share for the years ended December 31, 1999, 1998 and 1997, respectively,
would have decreased to the pro forma amounts indicated below:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1999 1998 1997
------------ ------------ ------------
(Dollars in thousands, except per share data)
<S> <C> <C> <C> <C>
Net income As reported $21,268 $ 15,055 $12,630
Pro forma 17,264 13,582 12,026
Basic earnings per share As reported $ 1.49 $ 1.12 $ 0.95
Pro forma 1.21 1.02 0.91
Diluted earnings per share As reported $ 1.43 $ 1.09 $ 0.93
Pro forma 1.16 0.98 0.88
</TABLE>
The fair value of each option grant under the employee stock option plan
was estimated on the date of grant using the Black-Scholes option-pricing
model with the following assumptions for the years ended December 31,
1999, 1998, and 1997, respectively: an assumed risk-free interest rate of
6.44%, 6.25%, and 5.61%, an expected life of ten and five years, an
expected volatility of 44%, 50%, and 27%, a dividend yield of 0.17%, 0.17%
and 0.17%.
The fair value of each option grant under the employee stock purchase plan
was estimated by computing the option discount which is the difference
between the average market value of the Company's Common Stock during the
payment period and the lesser of (i) 90% of the average market value of
the Common Stock on the first business day of the payment period, or (ii)
90% of the average market value of the Common Stock on the last business
day of the payment period.
F-22
<PAGE>
12. STOCKHOLDERS' EQUITY (CONTINUED)
EARNINGS PER SHARE - Reconciliation from Basic EPS to Diluted EPS for
years ended December 31, 1999, 1998 and 1997 is as follows:
<TABLE>
<CAPTION>
PER-SHARE
INCOME SHARES AMOUNT
--------------- ------------- ---------
(Dollars in thousands, except per share data)
<S> <C> <C> <C>
DECEMBER 31, 1999
BASIC EPS
Income available to common stockholders $21,268 14,309,290 $ 1.49
======
Dilutive effect of common equivalent shares of stock options 545,455
-------------
DILUTED EPS
Income available to common stockholders $21,268 14,854,745 $ 1.43
=============== ============= ======
DECEMBER 31, 1998
BASIC EPS
Income available to common stockholders $15,055 13,382,536 $ 1.12
======
Dilutive effect of common equivalent shares of stock options 426,860
-------------
DILUTED EPS
Income available to common stockholders $15,055 13,809,396 $ 1.09
=============== ============= ======
DECEMBER 31, 1997
BASIC EPS
Income available to common stockholders $12,630 13,280,868 $ 0.95
======
Dilutive effect of common equivalent shares of stock options 338,350
-------------
DILUTED EPS
Income available to common stockholders $12,630 13,619,218 $ 0.93
=============== ============= ======
</TABLE>
13. EMPLOYEE BENEFIT PLANS
PENSION PLAN - The Company has a trusteed, noncontributory, qualified
defined benefit pension plan covering substantially all of its employees
who were hired before January 1, 1997. The benefits are based on years of
service and the employee's compensation during employment. The Company's
funding policy is to contribute annually the maximum amount which can be
deducted for federal income tax purposes. Contributions are intended to
provide not only for benefits attributed to service to date but also for
benefits expected to be earned in the future.
The Company established a supplemental retirement plan in 1994 that covers
certain employees and pays benefits that supplements any benefits paid
under the qualified plan. Benefits under the supplemental plan are
generally based on compensation not includable in the calculation of
benefits to be paid under the qualified plan. The total cost of this plan
to the Company was approximately $69,000, $105,000 and $60,000 in the
years ended December 31, 1999, 1998 and 1997 respectively.
F-23
<PAGE>
13. EMPLOYEE BENEFIT PLANS (CONTINUED)
The following table sets forth the funded status and accrued pension cost
for the Company's qualified defined benefit pension plan.
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1999 1998
--------------------- ---------------------
(Dollars in thousands)
<S> <C> <C>
Change in benefit obligation:
Projected benefit obligation at beginning of year $ 8,927 $ 6,285
Service cost 775 619
Interest cost 604 598
Liability (gain)/loss (1,505) 1,588
Benefits paid (238) (163)
--------------------- ---------------------
Projected benefit obligation at the end of the year 8,563 8,927
--------------------- ---------------------
Change in assets:
Assets at the beginning of the year 10,348 8,168
Employer contributions 660 1,062
Actual return 1,437 1,282
Benefits paid (238) (164)
--------------------- ---------------------
Assets at the end of the year 12,207 10,348
--------------------- ---------------------
Funded status:
Projected benefit obligation (8,563) (8,927)
Fair value of plan assets 12,207 10,348
--------------------- ---------------------
Funded status 3,644 1,421
--------------------- ---------------------
Unrecognized net transition asset (262) (300)
Unrecognized prior service cost 152 181
Unrecognized net (gain) or loss (4,191) (2,228)
--------------------- ---------------------
(Accrued)/prepaid pension cost $ (656) $ (926)
--------------------- ---------------------
</TABLE>
Net pension cost included the following components for the years ended
December 31, 1999, 1998 and 1997:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1999 1998 1997
----------------- ---------------- ----------------
(Dollars in thousands)
<S> <C> <C> <C>
Service cost - benefits earned
during the period $ 775 $ 619 $ 540
Interest cost on projected benefit
obligations 604 598 557
Return on plan assets (1,437) (1,282) (1,279)
Net amortization and deferral 448 443 714
----------------- ---------------- ----------------
Net periodic pension cost $ 390 $ 378 $ 532
================= ================ ================
</TABLE>
The weighted average discount rate and the rate of increase in future
compensation levels used in determining the actuarial present value of the
projected benefit obligations were as follows:
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1999 1998
------------ -----------
<S> <C> <C>
Weighted average discount rate 7.50 % 6.75 %
Rate of increase in future compensation levels 5.00 5.00
Long-term rate of return on plan assets 8.50 8.50
</TABLE>
F-24
<PAGE>
13. EMPLOYEE BENEFIT PLANS (CONTINUED)
EMPLOYEE SAVINGS PLAN - The Company sponsors a qualified defined
contribution employee savings plan covering substantially all employees
who elect to participate. The Company matches employee contributions to
the plan up to specified amounts. The total cost of this plan to the
Company was $1 million, $400,000 and $400,000 in the years ended December
31, 1999, 1998 and 1997 respectively.
14. OFF-BALANCE SHEET FINANCIAL INSTRUMENTS
LINES OF CREDIT - At December 31, 1999, the Company had commitments to
individuals under collateralized open lines of credit totaling
approximately $223 million, against which approximately $64 million in
loans were 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 contractual or notional amounts of
derivative financial instruments, swap agreements, held by the Company at
December 31, 1999 and 1998 were approximately $520 million and $420
million, respectively. Interest rate contracts involve an agreement with a
counterparty to exchange cash flows based on an underlying interest rate
index. 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. The
Company experienced no terminations by counterparties of interest rate
swaps designated as hedges. Credit risk is limited to the positive fair
value of the derivative financial instrument, which is significantly less
than the notional value. During 1999, the Company entered into agreements
to assume fixed-rate interest payments in exchange for variable
market-indexed interest payments. The original terms range from 12 to 36
months. The weighted-average fixed-payment rates were 5.57% at December
31, 1999. Variable-interest payments received are indexed to one month
London Interbank Offered Rate (`LIBOR`) and the overnight Federal Funds
rate. At December 31, 1999, the weighted-average rate of variable
market-indexed interest payment obligations to the Company was 6.18%. The
effect of these agreements was to lengthen short-term variable rate
liabilities into longer-term fixed rate liabilities. These contracts had
no carrying value and the fair value was approximately $5 million at
December 31, 1999.
F-25
<PAGE>
15. COMMITMENTS AND CONTINGENCIES
RESTRICTIONS ON CASH BALANCES - The Company is required to maintain
certain average cash reserve balances. The reserve balance requirement
with the Federal Reserve Bank as of December 31, 1999 was approximately
$14 million. In addition, other cash balances in the amount of
approximately $2 million were pledged to secure clearings with a
depository institution, Depository Trust Company, as of December 31, 1999.
LEASE COMMITMENTS - Minimum future commitments on non-cancelable operating
leases at December 31, 1999 were as follows:
<TABLE>
<CAPTION>
FISCAL YEAR ENDING BANK PREMISES EQUIPMENT
------------- ---------
(Dollars in thousands)
<S> <C> <C>
2000 $9,569 $1,529
2001 9,473 731
2002 8,695 169
2003 8,668 3
2004 and beyond 32,764 -
</TABLE>
Total rent expense was approximately $11 million, $9 million and
$6 million for the years ended December 31, 1999, 1998 and 1997,
respectively.
On February 1, 1996, the Company entered into a five-year facility
management agreement with a third party provider of duplicating and
delivery services. Under the terms of the agreement, the Company agreed to
pay certain minimum annual charges, subject to increases due to certain
usage thresholds. Service expense under this contract were approximately
$700,000, $600,000, and $500,000 for the years ended December 31, 1999,
1998 and 1997, respectively.
CONTINGENCIES - The Company provides 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 December 31, 1999 that are material to the
consolidated financial position or results of operations of the Company.
F-26
<PAGE>
16. FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying value and estimated fair value of financial instruments are
as follows at December 31, 1999 and 1998:
<TABLE>
<CAPTION>
DECEMBER 31, 1999 DECEMBER 31, 1998
---------------------------- ----------------------------
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
----------- ----------- ---------- ---------
(Dollars in thousands)
<S> <C> <C> <C> <C>
On-balance sheet amounts:
Cash and due from banks $ 37,624 $ 37,624 $ 18,775 $ 18,775
Federal funds sold 150,000 150,000 - -
Securities held to maturity 1,763,355 1,730,745 942,817 948,645
Securities available for sale 375,610 375,610 345,070 345,070
Loans 109,292 109,292 54,292 54,292
Deposits 1,552,407 1,552,407 905,305 905,305
Off-balance sheet amounts:
Commitments to lend - 159,502 - 141,399
Interest rate swap agreements
(notional amounts of $520,000 and $420,000
at December 31, 1999 and 1998) - 4,588 - (2,771)
</TABLE>
The fair value estimates presented herein are based on pertinent
information available to management as of December 31, 1999 and 1998.
Although management is not aware of any factors that would significantly
affect the estimated fair value amounts, such amounts have not been
significantly revalued for purposes of these consolidated financial
statements since those dates and therefore, current estimates of fair
value may differ significantly from the amounts presented herein.
F-27
<PAGE>
17. FOREIGN EXCHANGE CONTRACTS
A summary of foreign exchange contracts outstanding at December 31, 1999
and December 31, 1998 is as follows:
<TABLE>
<CAPTION>
DECEMBER 31, 1999 DECEMBER 31, 1998
------------------------------------------ --------------------------------------------
UNREALIZED UNREALIZED
CURRENCY PURCHASES SALES GAIN/LOSS PURCHASES SALES GAIN/LOSS
----------------------- ------------- -------- ---------- ------------- --------- ------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
European Unit (EUR) $ 72,427 $ 72,427 - $ 8,791 $ 8,791 -
Britain (GBP) 41,315 41,315 - 6,072 6,072 -
Japan (JPY) 30,138 30,138 - 17,632 17,632 -
France (FRF) - 10,592 10,592 -
Hong Kong (HKD) - 4,739 4,739 -
Switzerland (CHF) - 2,037 2,037 -
Germany (DEM) - 1,325 1,325 -
Singapore (SGD) - 891 891 -
Italy (ITL) - 864 864 -
Other currencies 216 216 - 173 173 -
-------------- -------------- ------------- ------------- --------------- --------------
$144,096 $144,096 - $ 53,116 $ 53,116 -
============== ============== ============= ============= =============== ==============
</TABLE>
The maturity of contracts outstanding as of December 31, 1999 is as
follows:
<TABLE>
<CAPTION>
MATURITY PURCHASES SALES
------------- --------- -----
(Dollars in thousands)
<S> <C> <C> <C>
January 2000 $ 29,301 $ 29,301
February 2000 114,795 114,795
</TABLE>
18. REGULATORY MATTERS
The Company and the Bank are subject to various regulatory capital
requirements administered by the federal banking agencies. Failure to meet
minimum capital requirements can initiate certain mandatory and possibly
additional discretionary actions by regulators that, if undertaken, could
have a direct material effect on the Company's and the Bank's financial
statements. Under capital adequacy guidelines and the regulatory framework
for prompt corrective action, the Bank must meet specific capital
guidelines that involve quantitative measures of the Bank's assets,
liabilities, and certain off-balance sheet items as calculated under
regulatory accounting practices. The Company's and the Bank's capital
amounts and classification are also subject to qualitative judgments by
the regulators about components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Company and the Bank to maintain minimum amounts and ratios
(set forth in the table below) of total and Tier 1 capital (as defined in
the regulations) to risk-weighted assets (as defined), and of Tier 1
capital (as defined) to average assets (as defined). Management believes,
as of December 31, 1999, that the Company and the Bank meet all capital
adequacy requirements to which it is subject.
F-28
<PAGE>
18. REGULATORY MATTERS (CONTINUED)
As of December 31, 1999, the most recent notification from the Federal
Deposit Insurance Corporation categorized the Company and the Bank as
well capitalized under the regulatory framework for prompt corrective
action. To be categorized as well capitalized, the Company and the Bank
must maintain minimum total risk-based, Tier I risk based, and Tier I
leverage ratios as set forth in the table. There are no conditions or
events since that notification that management believes have changed the
Company's or the Bank's category. The following table presents the
capital ratios for the Bank and the Company for the years ended December
31, 1999 and December 31, 1998:
<TABLE>
<CAPTION>
TO BE WELL
CAPITALIZED UNDER
FOR CAPITAL PROMPT CORRECTIVE
ACTUAL ADEQUACY PURPOSES: ACTION PROVISIONS:
--------------------------- ----------------------------- ----------------------------
AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
-------------- --------- --------------- ---------- -------------- ----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
AS OF DECEMBER 31, 1999:
Total Capital
(to Risk Weighted Assets-
the Company) $124,861 14.97% $66,726 8.00% N/A N/A
(to Risk Weighted
Assets- the Bank) $121,947 14.66% $66,567 8.00% $83,209 10.00%
Tier I Capital
(to Risk Weighted Assets-
the Company) $124,761 14.96% $33,363 4.00% N/A N/A
(to Risk Weighted
Assets- the Bank) $121,847 14.64% $33,283 4.00% $49,925 6.00%
Tier I Capital
(to Average Assets- the
Company) $124,761 5.46% $91,382 4.00% N/A N/A
(to Average Assets- the
Bank) $121,847 5.34% $91,310 4.00% $114,138 5.00%
AS OF DECEMBER 31, 1998:
Total Capital
(to Risk Weighted Assets-
the Company) $70,580 15.34% $36,799 8.00% N/A N/A
(to Risk Weighted
Assets- the Bank) $67,867 14.81% $36,653 8.00% $45,816 10.00%
Tier I Capital
(to Risk Weighted
Assets- the Company) $70,480 15.32% $18,399 4.00% N/A N/A
(to Risk Weighted
Assets- the Bank) $67,767 14.79% $18,326 4.00% $27,489 6.00%
Tier I Capital
(to Average Assets- the
Company) $71,480 4.61% $61,216 4.00% N/A N/A
(to Average Assets- the
Bank) $67,767 4.43% $61,187 4.00% $76,484 5.00%
</TABLE>
Under Massachusetts law, trust companies such as the Bank, like national
banks, may pay dividends no more often than quarterly, and only out of
`net profits' and to the extent that such payments will not impair the
Bank's capital stock and surplus account. Moreover, prior Commissioner
approval is required if the total dividends for a calendar year would
exceed net profits for that year combined with retained net profits for
the previous two years. These restrictions on the ability of the Bank to
pay dividends to the Company may restrict the ability of the Company to
pay dividends to its stockholders.
F-29
<PAGE>
19. SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED):
<TABLE>
<CAPTION>
FIRST SECOND THIRD FOURTH
YEAR ENDED DECEMBER 31, 1999 QUARTER QUARTER QUARTER QUARTER
---------------------------- -------- --------- -------- --------
(Dollars in thousands, except per share data)
<S> <C> <C> <C> <C>
Interest income $ 20,210 $ 25,020 $ 28,374 $ 32,998
Interest expense 13,060 16,390 19,313 22,067
Non-interest income 31,633 32,352 34,304 35,472
Operating expenses 30,927 32,832 34,749 37,307
Income before income taxes and
minority interest 7,856 8,150 8,616 9,096
Income taxes 2,828 2,454 2,597 2,911
Minority interest 391 427 427 416
Net income 4,637 5,269 5,592 5,769
Basic earnings per share 0.34 0.36 0.38 0.40
Diluted earnings per share 0.33 0.35 0.37 0.38
</TABLE>
<TABLE>
<CAPTION>
FIRST SECOND THIRD FOURTH
YEAR ENDED DECEMBER 31, 1998 QUARTER QUARTER QUARTER QUARTER
---------------------------- -------- --------- -------- --------
<S> <C> <C> <C> <C>
Interest income $20,980 $20,970 $22,856 $20,926
Interest expense 13,856 15,178 16,332 13,672
Non-interest income 22,212 24,022 23,923 28,699
Operating expenses 23,677 23,565 23,807 28,535
Income before income taxes and
minority interest 5,659 6,249 6,640 7,418
Income taxes 2,057 2,323 2,297 2,671
Minority interest 391 391 391 390
Net income 3,211 3,535 3,952 4,357
Basic earnings per share 0.24 0.27 0.30 0.32
Diluted earnings per share 0.23 0.26 0.29 0.31
</TABLE>
F-30
<PAGE>
20. SEGMENT REPORTING
The Company does not utilize segment information for internal reporting as
management views the Company as one segment. The following represents net
operating revenue by geographic area for the years ended December 31,
1999, 1998, and 1997, and long-lived assets by geographic area for the
years ended December 31, 1999 and 1998:
<TABLE>
<CAPTION>
NET OPERATING NET OPERATING NET OPERATING LONG-LIVED LONG-LIVED
GEOGRAPHIC REVENUE REVENUE REVENUE ASSETS ASSETS
INFORMATION: 1999 1998 1997 1999 1998
-------------------- ---------------- ---------------- ----------------- --------------- ----------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
United States $162,155 $117,959 $102,461 $49,625 $54,064
Ireland 4,817 3,934 2,395 338 271
Canada 2,461 3,445 3,765 150 265
Cayman Islands 101 212 190 - -
---------------- ---------------- ----------------- --------------- ----------------
Total $169,534 $ 125,550 $108,811 $50,113 $54,600
================ ================ ================= =============== ================
</TABLE>
The following represents the Company's operating revenue by service line
for the years ended December 31, 1999, 1998, and 1997:
<TABLE>
<CAPTION>
OPERATING OPERATING OPERATING
REVENUE REVENUE REVENUE
SERVICE LINES: 1999 1998 1997
------------------------------------------ ------------------ -------------------- --------------------
(Dollars in thousands)
<S> <C> <C> <C>
Custody accounting, transfer agency,
and administration $ 118,297 $ 87,870 $ 70,620
Investment advisory 1,597 760 1,056
Securities lending 7,213 3,625 2,865
Foreign exchange 5,859 5,020 4,427
------------------ -------------------- --------------------
Total $ 132,966 $ 97,275 $ 78,968
================== ==================== ====================
</TABLE>
No one customer exceeded 10% of the Company's consolidated net operating
revenues for the year ended December 31, 1999 and 1998. Revenues from one
customer represented approximately $11 million or 10% of the Company's
consolidated net operating revenues for the year ended December 31, 1997.
F-31
<PAGE>
21. FINANCIAL STATEMENTS OF INVESTORS FINANCIAL SECURITIES CORP. (PARENT ONLY)
The following represents the separate condensed financial statements of
IFSC as of December 31, 1999 and 1998, and for the years ended December
31, 1999, 1998 and 1997.
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, DECEMBER 31,
STATEMENTS OF INCOME 1999 1998 1997
------------------------------ ------------ ------------ ------------
(Dollars in thousands)
<S> <C> <C> <C>
Equity in undistributed income/(loss) of
bank subsidiary $ 22,748 $ 15,427 $ 11,027
Equity in undistributed income/(loss) of
non-bank subsidiaries 83 89 1,078
Dividend income from bank subsidiary - 1,259 2,142
Dividend income from non-bank
subsidiaries 76 76 70
Management fee paid by non-bank
subsidiaries 240 140 -
Interest expense on subordinated debt (2,518) (2,518) (2,315)
Income tax benefit 881 962 908
Operating expenses (242) (380) (280)
--------------------- ------------------- --------------------
Net income $ 21,268 $ 15,055 $ 12,630
===================== =================== ====================
</TABLE>
<TABLE>
<CAPTION>
BALANCE SHEETS DECEMBER 31, 1999 DECEMBER 31, 1998
-------------------------------- ----------------- -----------------
(Dollars in thousands)
<S> <C> <C>
Assets:
Cash $ 1,461 $ 2,012
Investments in bank subsidiary 158,142 109,759
Investments in non-bank subsidiaries 1,653 1,569
Receivable due from bank subsidiary 573 -
Receivable due from non-bank subsidiary 471 877
Income tax receivable 417 -
Other assets 33 3
------------------- --------------------
Total Assets $ 162,750 $ 114,220
=================== ====================
Liabilities and Stockholders' Equity
Liabilities
Accrued expenses $ 22 $ 23
Payable due to non-bank subsidiary 113 121
Income tax payable - 1
Other liabilities 3 18
Subordinated debt 25,774 25,774
------------------- --------------------
Total Liabilities 25,912 25,937
------------------- --------------------
Stockholders' Equity
Common stock 146 67
Surplus 87,320 57,705
Deferred compensation (689) (1,198)
Retained earnings 53,542 33,484
Accumulated other comprehensive
Loss, net (3,481) (1,775)
Treasury stock - -
------------------- --------------------
Total Stockholders' Equity 136,838 88,283
------------------- --------------------
Total Liabilities and Stockholders' Equity $ 162,750 $ 114,220
=================== ====================
</TABLE>
F-32
<PAGE>
21. FINANCIAL STATEMENTS OF INVESTORS FINANCIAL SECURITIES CORP. (PARENT ONLY)
(CONTINUED)
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, DECEMBER 31,
STATEMENTS OF CASH FLOWS 1999 1998 1997
---------------------------------- -------------------- ------------------- -------------------
(Dollars in thousands)
<S> <C> <C> <C>
Cash flows from operating activities:
Net income $ 21,268 $ 15,055 $ 12,630
-------------------- ------------------- -------------------
Adjustments to reconcile net income to net
cash provided by operating activities:
Amortization of deferred compensation 510 550 439
Change in assets and liabilities:
Receivable due from bank subsidiary (573) 1,456 (963)
Receivable due from non-bank subsidiary 406 (878)
Income tax receivable (417) 2 (1)
Income tax payable (1) 1
Payable due to non-bank subsidiary (8) 121
Accrued expenses (1) - 23
Other assets (30) 3 (2)
Other liabilities (15) (142) 154
Equity in undistributed earnings of
bank subsidiary (22,748) (15,427) (11,027)
Equity in undistributed earnings of
non-bank subsidiary (83) (395) (1,077)
-------------------- ------------------- -------------------
Total adjustments (22,960) (14,709) (12,454)
-------------------- ------------------- -------------------
Net cash provided by operating activities (1,692) 346 176
-------------------- ------------------- -------------------
Cash flows from investing activities:
Payments for investments in and
advances to subsidiary (26,000) - (25,000)
-------------------- ------------------- -------------------
Net cash used by investing activities (26,000) - (25,000)
-------------------- ------------------- -------------------
Cash flows from financing activities:
Proceeds from exercise of stock options 2,283 1,379 720
Purchase of treasury stock - (77)
Proceeds from issuance of
subordinated debt, net of issuance costs - - 25,774
Proceeds from issuance of common stock 26,000 - -
Dividends paid (1,142) (791) (515)
-------------------- ------------------- -------------------
Net cash provided (used) by financing
activities 27,141 511 25,979
-------------------- ------------------- -------------------
Net increase/(decrease) in cash and due from
banks (551) 857 1,155
Cash and due from banks, beginning of period 2,012 1,155 -
-------------------- ------------------- -------------------
Cash and due from banks, end of period $ 1,461 $ 2,012 $ 1,155
==================== ===================== =====================
</TABLE>
F-33
<PAGE>
Exhibit 21.1
SUBSIDIARIES OF THE COMPANY
<TABLE>
<S> <C>
1. Investors Capital Trust 1
Delaware trust
2. Investors Capital Services, Inc.
Deleware corporation
3. Investors Bank & Trust Company
Massachusetts chartered trust company
4. Investors Safe Deposit Corp.
Massachusetts corporation
5. IBT Trust Company (Cayman) Ltd.
Cayman Islands trust company
6. Investors Securities Corporation
Massachusetts securities corporation
7. Investors Funding Corporation
Massachusetts Real Estate Investment Trust
8. IBT Fund Services (Canada) Inc.
incorporated in Canada
9. Investors Trust Holdings Ireland
organized in the Republic of Ireland
10. Investors Financial Services (Ireland) Ltd.
organized in the Republic of Ireland
11. Investors Trust & Custodial Services (Ireland) Ltd.
organized in the Republic of Ireland
12. Investors Fund Services (Ireland) Ltd.
organized in the Republic of Ireland
</TABLE>
<PAGE>
EXHIBIT 23.1
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in Registration Statement
Nos. 333-3440 and 333-43353 of Investors Financial Services Corp.
(the "Company") on Form S-8 and in Registration Statement No. 333-58031 of the
Company on Form S-3 of our report dated February 11, 2000, appearing in this
Annual Report on Form 10-K of the Company for the year ended December 31, 1999.
/s/ Deloitte & Touche LLP
- -------------------------
Boston, Massachusetts
March 6, 2000
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> DEC-31-1999
<CASH> 37,624
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 150,000
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 375,610
<INVESTMENTS-CARRYING> 1,763,355
<INVESTMENTS-MARKET> 1,730,745
<LOANS> 109,392
<ALLOWANCE> 100
<TOTAL-ASSETS> 2,553,080
<DEPOSITS> 1,552,407
<SHORT-TERM> 820,034
<LIABILITIES-OTHER> 19,583
<LONG-TERM> 0
24,218
0
<COMMON> 146
<OTHER-SE> 136,692
<TOTAL-LIABILITIES-AND-EQUITY> 2,553,080
<INTEREST-LOAN> 3,765
<INTEREST-INVEST> 102,837
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 106,602
<INTEREST-DEPOSIT> 41,046
<INTEREST-EXPENSE> 70,829
<INTEREST-INCOME-NET> 35,773
<LOAN-LOSSES> 0
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 135,815
<INCOME-PRETAX> 33,719
<INCOME-PRE-EXTRAORDINARY> 33,719
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 21,268
<EPS-BASIC> 1.49
<EPS-DILUTED> 1.43
<YIELD-ACTUAL> 1.95
<LOANS-NON> 0
<LOANS-PAST> 0
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 100
<CHARGE-OFFS> 0
<RECOVERIES> 0
<ALLOWANCE-CLOSE> 100
<ALLOWANCE-DOMESTIC> 100
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
