ITEM 1. BUSINESS
General
UMB Financial Corporation (the "Company") was organized in 1967 under Missouri law for the purpose of becoming a bank holding company registered under the Bank Holding Company Act of 1956. The Company owns all of the outstanding stock of 7 commercial banks, a credit card bank, a bank real estate corporation, a reinsurance company, a community development corporation, a consulting company, a data services company and a trust company.
The Company's 7 commercial banks are engaged in general commercial banking business entirely in domestic markets. The banks, 2 each located in Missouri and Oklahoma, one each in Kansas, Colorado and Nebraska, offer a full range of banking services to commercial, retail, government and correspondent bank customers. In addition to standard banking functions, the principal affiliate bank, UMB Bank, n.a., provides international banking services, investment and cash management services, data processing services for correspondent banks and a full range of trust activities for individuals, estates, business corporations, governmental bodies and public authorities. A table setting forth the names and locations of the Company's affiliate banks as well as their total assets, loans, deposits and shareholders' equity as of December 31, 1999, is included on page A-50 of the attached Appendix, and is incorporated herein by reference.
UMB, U.S.A. n.a. is a credit card bank located in Nebraska. UMB, U.S.A. n.a. services all incoming credit card requests, performs data entry services on new card requests and evaluates new and existing credit lines.
Other subsidiaries of the Company are UMB Properties, Inc., United Missouri Insurance Company, UMB Community Development Corporation, UMB Consulting Services, Inc. and UMB Data Corporation. UMB Properties, Inc. is a real estate company that leases facilities to certain subsidiaries and acquires and holds land and buildings for anticipated future facilities. United Missouri Insurance Company, an Arizona corporation, is a reinsurance company that reinsures credit life and disability insurance originated by affiliate banks. UMB Community Development Corporation provides low-cost mortgage loans to low- to moderate-income families for acquiring or rehabing owner-occupied housing in Missouri, Kansas, Illinois, Nebraska, Oklahoma and Colorado. UMB Consulting Services, Inc. offers regulatory and compliance assistance to regional banks. UMB Data Corporation provides complete correspondent services to banks throughout the region.
On a full-time equivalent basis at December 31, 1999, UMB Financial Corporation and subsidiaries employed 4,104 persons.
Competition
The commercial banking business is highly competitive. Affiliate banks compete with other commercial banks and with other financial institutions, including savings and loan associations, finance companies, mutual funds, mortgage banking companies and credit unions. In recent years, competition has also increased from institutions, such as mutual fund companies, brokerage companies and insurance companies, not subject to the same geographical and other regulatory restrictions as domestic banks and bank holding companies.
Monetary Policy and Economic Conditions
The operations of the Company's affiliate banks are affected by general economic conditions as well as the monetary policy of the Board of Governors of the Federal Reserve System (the "Federal Reserve Board") which affects the supply of money available to commercial banks. Monetary policy measures by the Federal Reserve Board are affected through open market operations in U.S. Government securities, changes in the discount rate on bank borrowings and changes in reserve requirements.
Supervision and Regulation
As a bank holding company, the Company and its subsidiaries are subject to extensive regulation. As a consequence of the regulation of the commercial banking business in the United States, the business of the Company is affected by the enactment of federal and state legislation. The Company is regulated by the Federal Reserve Board and is subject to the Bank Holding Company Act of 1956, as amended (the "BHCA").
The BHCA requires every bank holding company to obtain the prior approval of the Federal Reserve Board before it may (i) acquire substantially all the assets of any bank, (ii) acquire more than 5% of any class of voting stock of a bank or bank holding company which is not already majority owned, or (iii) merge or consolidate with another bank holding company.
Under the BHCA, a bank holding company is prohibited, with certain exceptions, from acquiring direct or indirect ownership or control of more than 5% of the voting shares of any company which is not a bank and from engaging in business other than that of banking, managing and controlling banks or performing services for its banking subsidiaries. However, the BHCA authorizes the Federal Reserve Board to permit bank holding companies to engage in activities which are so closely related to banking or managing or controlling banks as to be a proper incident thereto. The Federal Reserve Board possesses cease and desist powers over bank holding companies if their actions represent unsafe or unsound practices or violations of law.
As a result of the enactment of the Interstate Banking and Branching Efficiency Act of 1994, beginning in September, 1995, bank holding companies may acquire banks in any state, subject to state deposit caps and a 10% nationwide cap. Banks may also merge across state lines, creating interstate branches. Furthermore, a bank may open new branches in a state in which it does not already have banking operations, if the law of that state does not prohibit de novo branching by an out of state bank or if the state has not "opted out" of interstate branching. As a result of the Interstate Banking Act, the Company has many more opportunities for expansion and has potentially greater competition in its market area from nationwide or regional banks.
A bank holding company and its subsidiaries are prohibited from engaging in certain tie-in arrangements in connection with the extension of credit, with limited exceptions. There are also various legal restrictions on the extent to which a bank holding company and certain of its non-bank subsidiaries can borrow or otherwise obtain credit from its bank subsidiaries. The Company and its subsidiaries are also subject to certain restrictions on issuance, underwriting and distribution of securities. It is Federal Reserve Board policy that a bank holding company, such as the Company, should serve as a source of managerial and financial strength for each of its subsidiaries, and commit resources to them, even in circumstances in which it might not do so in absence of such policy.
Five of the commercial banks owned by the Company are national banks and are subject to supervision and examination by the Comptroller of the Currency. UMB, U.S.A. n.a., a credit card bank, is located in the state of Nebraska and is subject to supervision and examination by the Comptroller of the Currency. One is chartered under the state banking laws of Oklahoma and is subject to supervision and regular examination by the Oklahoma State Banking Department. The other remaining bank is chartered under the state banking laws of Missouri and is subject to supervision and regular examination by the Missouri Commissioner of Finance. In addition, the national banks and one state bank that are members of the Federal Reserve System are subject to examination by that agency. All affiliate banks are members of and subject to examination by the Federal Deposit Insurance Corporation.
Proposals to change the laws and regulations governing the banking industry are periodically introduced in the United States Congress, state legislatures and various bank regulatory agencies. Included within such proposals are those introduced in the past two years, and those currently pending in Congress, that would among other things permit some cross ownership of the banking, insurance and securities industry. The likelihood and timing of any such proposals or bills, and the impact, if any, that they might have on the Company and its subsidiaries and their operations, cannot be determined at this time.
Information regarding capital adequacy standards of the Federal banking regulators is included on pages A-18, A-19, A-35 and A-36 of the attached Appendix, and is incorporated herein by reference.
Information regarding dividend restrictions is on page A-36 of the attached Appendix, incorporated herein by reference.
Statistical Disclosure
The information required by Guide 3, "Statistical Disclosure by Bank Holding Companies," has been integrated throughout pages A-2 through A-23 of the attached Appendix under the captions of "Five-Year Financial Summary" and "Financial Review," and such information is incorporated herein by reference.
Executive Officers
The following are the executive officers of the Company, each of whom is elected annually, and there are no arrangements or understandings between any of the persons so named and any other person pursuant to which such person was elected as an officer.
ITEM 2.
ITEM 2. PROPERTIES
The Company's headquarters building, the UMB Bank Building, is located at 1010 Grand Avenue in downtown Kansas City, Missouri, and was opened in July, 1986. Of the total 250,000 square feet, the offices of the parent company and customer service functions of UMB Bank, n.a. comprise 175,000 square feet. The remaining 75,000 square feet are available for lease to third parties. The Company's principal law firm and principal accounting firm are leasees.
The banking facility of UMB Bank, n.a. at 928 Grand Avenue principally houses that bank's support functions and is connected to the headquarters building by an enclosed pedestrian walkway. UMB Bank, n.a. also leases 40,000 square feet of space in the Equitable Building, in St. Louis, in the heart of the downtown commercial sector. A full service banking center, operations and administrative offices are housed at this location.
At December 31, 1999 the Company's affiliate banks operated a total of 7 main banking houses and 154 detached facilities, the majority of which are owned by them or a non-bank subsidiary of the Company and leased to the respective bank.
The Company constructed an 180,000 square foot operations center in downtown Kansas City, Missouri. This building houses the Company operational and item processing functions as well as management information systems. Occupancy began in the second quarter of 1999.
Additional information with respect to premises and equipment is presented on page A-33 of the attached Appendix, which is incorporated herein by reference.
In the opinion of the management of the Company, the physical properties of the Company and its subsidiaries are suitable and adequate and are being fully utilized.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
In the normal course of business, the Company and its subsidiaries had certain lawsuits pending against them at December 31, 1999. In the opinion of management, after consultation with legal counsel, none of these suits will have a significant effect on the financial condition of the Company.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to the shareholders for a vote during the fourth quarter ending December 31, 1999.
PART II
ITEM 5.
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's stock is traded on the NASDAQ National Market System under the symbol "UMBF." As of December 31, 1999, the Company had 2,403 shareholders. Dividend and sale prices of stock information, by quarter, for the past two years is contained on page A-23 of the attached Appendix and is hereby incorporated by reference.
Information concerning restrictions on the ability of Registrant to pay dividends and Registrant's subsidiaries to transfer funds to Registrant is contained on page A-21 and A-22 of the attached Appendix and is hereby incorporated by reference.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
See the "Five-Year Financial Summary" on page A-2 of the attached Appendix, which is incorporated herein by reference.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
See the "Financial Review" on pages A-2 through A-23 of the attached Appendix, which is incorporated herein by reference.
ITEM 7a.
ITEM 7a. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
See the "Financial Review" on pages A-19 to A-21 of the attached Appendix, which is incorporated herein by reference.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The following consolidated financial statements and supplementary data appearing on the indicated pages of the attached Appendix are incorporated herein by reference:
Consolidated Financial Statements -- pages A-24 through A-46.
Summary of Operating Results by Quarter -- page A-23.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
None.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information regarding directors is included in the Company's 2000 Proxy Statement under the captions "Election of Directors" and "Compliance with Section 16(a) of the Securities Exchange Act of 1934" and is hereby incorporated by reference.
Information regarding executive officers is included in Part I of this Form 10-K under the caption "Executive Officers."
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
This information is included in the Company's 2000 Proxy Statement under the captions "Executive Compensation," "Report of the Officers Salary and Stock Option Committee on Executive Compensation," "Director Compensation," "Salary Committee Interlocks and Insider Participation," and "Performance Graph" and is hereby incorporated by reference.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Security Ownership of Certain Beneficial Owners
This information is included in the Company's 2000 Proxy Statement under the caption "Principal Shareholders" and is hereby incorporated by reference.
Security Ownership of Management
This information is included in the Company's 2000 Proxy Statement under the caption "Stock Beneficially Owned by Directors and Nominees and Executive Officers" and is hereby incorporated by reference.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
This information is included in the Company's 2000 Proxy Statement under the caption "Certain Transactions" and is hereby incorporated by reference.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
Financial Statements and Financial Statement Schedules
Set forth below are the consolidated financial statements of the Company appearing on the indicated pages of the attached Appendix, which are hereby incorporated by reference.
Condensed financial statements for parent company only may be found on page A-46. All other schedules have been omitted because the required information is presented in the financial statements or in the notes thereto, the amounts involved are not significant or the required subject matter is not applicable.
Reports on Form 8-K
The Company did not file a report on Form 8-K during the fourth quarter of 1999.
Exhibits
The following Exhibit Index lists the Exhibits to Form 10-K.
- -------- * Exhibit has heretofore been filed with the Securities and Exchange Commission and is incorporated herein as an exhibit by reference.
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.
UMB FINANCIAL CORPORATION
/s/ R. Crosby Kemper _____________________________________ R. Crosby Kemper, Chairman of the Board
/s/ Timothy M. Connealy _____________________________________ Timothy M. Connealy, Chief Financial Officer
Date: March 29, 2000
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities on the date indicated.
Robert W. Plaster* Director _______________________________ Robert W. Plaster
Alan W. Rolley* Director _______________________________ Alan W. Rolley Director _______________________________ Herman R. Sutherland
E. Jack Webster, Jr.* Director _______________________________ E. Jack Webster, Jr.
Thomas D. Sanders* Director _______________________________ Thomas D. Sanders
John E. Williams* Director _______________________________ John E. Williams
L. Joshua Sosland* Director _______________________________ L. Joshua Sosland Director _______________________________ Jon Wefald
*/s/ R. Crosby Kemper - ------------------------------------- R. Crosby Kemper Attorney-in-Fact for each director
Date: March 29, 2000
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LEFT BLANK
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UMB FINANCIAL CORPORATION
AND SUPPLEMENTARY DATA
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FINANCIAL REVIEW
FIVE-YEAR FINANCIAL SUMMARY
- -------- *Securities include investment securities and securities available for sale.
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The following financial review presents management's discussion and analysis of UMB Financial Corporation's consolidated financial condition and results of operations. This review highlights the major factors affecting results of operations and any significant changes in financial condition for the three- year period ending December 31, 1999. It should be read in conjunction with the accompanying consolidated financial statements, notes to financial statements and other financial statistics appearing elsewhere in this report.
Estimates and forward-looking statements are included in this review and as such are subject to certain risks, uncertainties and assumptions that are beyond the Company's ability to control or estimate precisely. These statements are based on current financial and economic data and management's expectations for the future developments and their effects. Actual results could differ materially from management's current expectations. Factors that could cause material differences in actual operating results include, but are not limited to, loan demand, the ability of customers to repay loans, consumer savings habits, employment costs and interest rate changes.
OVERVIEW
The Company recorded consolidated net income of $64.1 million for the year ended December 31, 1999. This represents an 18.2% increase over 1998 net income of $54.2 million. Net income for 1998 represented a 12.2% decrease over 1997 results of $61.7 million. Earnings per share for the year ended December 31, 1999, was $2.94, compared to $2.42 in 1998 and $2.75 in 1997. Earnings per share for 1999 increased 21.5% over 1998 per share earnings, which was a 12.0% decrease over 1997. Both the net income and earnings per share results for 1998 were affected by a one-time charge for the termination and liquidation of the Company's defined benefit pension plan. Excluding this one time charge, 1998 net income was $59.0 million, or $2.64 per share. Earnings per share for 1999 represent an 11.4% increase over 1998 results, exclusive of the pension charge.
The increase in the Company's earnings in 1999, excluding the impact of the 1998 pension termination, was primarily the result of achieving growth in noninterest income of 13.6% and an improvement in credit quality which allowed for a reduction in the provision for loan loss. The decrease in the Company's earnings for 1998, excluding the impact of the pension termination, was primarily the result of achieving only minimal growth in net interest income coupled with expense growth outpacing the increase in noninterst income. During 1999, the increase in noninterest income was more than able to offset the increase in operating costs, while in 1998 the increase in noninterest income did not offset the increase in operating costs. In addition, the Company was able to reduce the provision for loan losses by 20.0% in 1999, compared to 1998. During 1998, the provision for loan losses decreased by 8.9% from the previous year. Return on average assets was 0.86%, 0.77% and 0.95% for each of the three years ended December 31, 1999, respectively. Return on average shareholders' equity was 9.75% for 1999, 8.34% for 1998 and 10.31% for 1997. Excluding the 1998 pension termination charge, the Company's return on assets was 0.84% and return on equity was 9.07% for 1998. The Company's consolidated asset total was $8.1 billion at December 31, 1999, compared to $7.6 billion at year-end 1998 and $7.1 billion at year-end 1997. Average assets for 1999, 1998 and 1997 were $7.4 billion, $7.0 billion and $6.5 billion, respectively. The increase in year-end asset totals, compared to the average, were primarily the result of year-end tax receipts deposited by various state and local government entities. Average totals are more indicative of the Company's asset base on an ongoing basis. Average loans as a percentage of average assets were 35.2% in 1999, 37.6% in 1998 and 40.9% in 1997. Average deposits were $5.3 billion in 1999, $5.3 billion in 1998 and $4.9 billion in 1997.
RESULTS OF OPERATIONS
Net Interest Income
Net interest income is a significant source of the Company's earnings and represents the amount by which interest income on earning assets exceeds the interest expense paid on the liabilities. Net interest income is affected by the volumes of interest-earning assets and the related funding sources, the overall mix of these assets and liabilities and the rates paid on each. Table 1 summarizes the changes in net interest income resulting from changes in volume and rates for the prior two years. Net interest margin is calculated as net interest income on a
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fully tax-equivalent basis (FTE) as a percentage of average earning assets. A critical component of net interest income and related net interest margin is the percentage of earning assets funded by interest-free funding sources. Net interest income, average balance sheet amounts and the corresponding yields earned and rates paid for the years 1995 through 1999 are presented on pages A-48 and A-49. Net interest income is presented on a tax-equivalent basis to adjust for the tax-exempt status of earnings from certain loans and investments, primarily obligations of state and local governments.
Table 1: Tax-Equivalent Rate-Volume Analysis (in thousands)
This analysis attributes changes in net interest income on a tax-equivalent basis either to changes in average balances or to changes in average rates for earning assets and interest-bearing liabilities. The change in interest due jointly to volume and rate has been allocated to volume and rate in proportion to the relationship of the absolute dollar amount of change in each. All information is presented on a tax-equivalent basis and gives effect to the disallowance of interest expense, for federal income tax purposes, related to certain tax-free assets.
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FTE interest income increased by $0.8 million during 1999 to $422.7 million compared to $421.9 million for 1998. Interest income for 1998 represented a $19.7 million increase over the total for 1997 of $402.2 million. Interest expense in 1999 amounted to $183.3 million, a $3.8 million decrease over 1998 expense of $187.1 million. Interest expense in 1998 increased by $15.3 million from 1997 expense of $171.8 million. These changes resulted in an increase in net interest income for 1999 of $4.6 million to $239.4 million compared to $234.8 million for 1998 and $230.4 million in 1997.
Table 2: Analysis of Net Interest Margin
Average earning assets increased by approximately 7.0% in 1999 compared to 10.0% in 1998. These assets totaled $6.4 billion in 1999 compared to $5.9 billion in 1998 and $5.4 billion in 1997. The increase in average earning assets for 1999 was entirely attributable to the Company's investment security portfolio, which increased by 18.3% compared to 1998. Average loans during 1999 decreased by 0.9% compared to the prior year. During 1998, average loans decreased by 0.3% compared to a 18.4% increase in average investment securities. During 1998, the Company experienced an increase in loan reductions as a result of several loan customers selling or merging their businesses. These reductions impacted the Company's ability to increase its average loans for both 1999 and 1998. During 1997, average loans increased by 8.7% compared to a 2.1% increase in average investment securities. An increase in federal funds purchased and repurchase agreements funded the increase in earning assets for 1999. Increases in both interest-bearing and noninterest- bearing deposits as well as repurchase agreements funded the increase in earning assets for 1998. The increase in average earning assets for 1997 was funded by an increase in both interest-bearing and noninterest-bearing demand deposits.
The Company's net interest spread was 2.93% in 1999, 3.02% in 1998 and 3.34% in 1997. Net interest spread is calculated as the difference between the yield earned on earning assets and the rate paid on interest-bearing liabilities. As a result of the change in the earning asset mix and the related funding sources, the Company's net interest margin decreased to 3.77% in 1999, compared to 3.95% in 1998 and 4.26% in 1997. The decrease in both net interest spread and margin for 1999 was the result of lower rates earned on total earning assets, which decreased to 6.65% from 7.10% in 1998. This change was the result of both a decrease in interest rates and a change in the mix of interest earning assets. During 1999, loans comprised 41% of earning assets, as compared with 44% during 1998. During 1999, the Company's funding costs did not decline to the same extent as the change in earning assets. Cost of funds decreased by 36 basis points, compared to a 45 basis point decline in the yield on earning assets. The yield on loans during 1998, as compared with 1997, decreased by 29 basis points, while the yield on securities decreased by 10 basis points. The Company's funding mix and cost of funds were relatively unchanged in 1998 as compared with 1997.
During 1997, the decrease in the rate earned on loans was at least partially offset by an increase in the yield on the investment portfolio. The rate pressure on the loan portfolio, resulting from declining interest rates and a very competitive loan market, continued throughout 1999. The Company was able to increase the yield on its
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very liquid investment securities portfolio during 1997 by reinvesting maturities at higher yields and altering the mix of the portfolio. The Company was unable to increase or maintain its yield on the investment portfolio during 1998 and 1999. As a result of extended pressure on short-term interest rates, the Company was unable to reinvest maturing securities at the same rate as the roll-off.
As discussed above and shown in the information in Table 1, the Company's balance sheet is slightly asset sensitive. Two fundamental characteristics of the Company's balance sheet allow for more growth in net interest income during a period of increasing interest rates. Conversely, during a period of declining interest rates, as experienced during the greater part of the last two years, growth in net interest income is more difficult. The Company's investment portfolio, which is very liquid and has an average maturity of approximately two years, represents over 56% of total earning assets. Through the regular reinvestment of scheduled maturities, the Company is able to take advantage of increases in interest rates on a very timely basis. A significant portion of the Company's funding is noninterest bearing demand deposit accounts. These core deposit accounts produce a greater benefit to the Company as interest rates increase, as higher investment opportunities are not offset by an increase in funding costs.
The cause and level of the increase in net interest income in 1999 from that experienced in 1998 can be seen in the information in Table 1. During 1999, increases in federal funds purchased and repurchase agreements funded the growth in average earning assets. This growth was limited to increases in investment securities. The spread earned on this growth was, for the most part, offset by a reduced rate earned on earning assets, primarily loans and investment securities. The average rate earned on loans during 1999 decreased by 52 basis points as compared to 1998, while the average rate earned on investment securities decreased by 24 basis points during the same period. The Company's cost of funds during 1999 decreased by 36 basis points. During 1998, increases in core deposit and repurchase agreements funded the growth in earning assets. This growth was primarily limited to increases in investment securities. The spread earned on this growth was, for the most part, offset by a reduced rate earned on earning assets, primarily loans. The average rate earned on loans during 1998 decreased by 29 basis points as compared to 1997. The Company's cost of funds during 1998 decreased by only 1 basis point.
Table 3: Allocation of Allowance for Loan Losses
This table presents an allocation of the allowance for loan losses by loan categories. The breakdown is based on a number of qualitative factors; therefore, the amounts presented are not necessarily indicative of actual future charge-offs in any particular category. The percent of loans in each category to total loans is provided in Table 5.
Provision and Allowance for Loan Loss
The allowance for loan losses (ALL) represents management's judgment of the losses inherent in the Company's loan portfolio. The provision for loan losses is the amount necessary to adjust the ALL to the level considered appropriate by management. The adequacy of the ALL is reviewed quarterly, considering such items as historical loss trends, a review of individual loans, current and projected economic conditions, loan growth
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and characteristics, industry or segment concentration, and other factors. Bank regulatory agencies require that the adequacy of the ALL be maintained on a bank-by-bank basis for each of the Company's subsidiaries. The Company utilizes a centralized credit administration function, which provides information on affiliate bank risk levels, delinquencies, an internal ranking system and overall credit exposure. In addition, loan requests are centrally reviewed to ensure the consistent application of the loan policy and standards.
The Company's allowance for loan losses was $31.2 million at December 31, 1999 compared to $33.2 million at year-end 1998 and $33.3 million at year-end 1997. This represents an allowance to total loans of 1.1%, 1.3% and 1.2% as of December 31, 1999, 1998 and 1997, respectively. A charge-off of the remaining balance of a commercial credit that had been in liquidation was the primary cause for the decrease in the year-end 1999 allowance for loan losses. The Company is pursuing recovery opportunities, which if successful, will increase the allowance for loan losses. At December 31, 1999 the allowance for loan losses exceeded total nonperforming loans by $24.9 million. Nonperforming loans include nonaccrual loans and restructured loans. The year-end 1999 allowance for loan losses was 275% of net credit losses incurred during 1999.
As shown in Table 3, the ALL has been allocated to various loan portfolio segments. The Company manages the ALL against the risk in the entire loan portfolio and, therefore, the allocation of the ALL to a particular loan segment may change in the future. In the opinion of management, the ALL is adequate based on the inherent losses in the loan portfolio at December 31, 1999. Significant changes in general economic conditions and in the ability of specific customers to repay loans will impact the level of the provision for loan losses required in future years.
The Company recorded a provision for loan losses of $8.7 million during 1999, compared to $10.8 million in 1998 and $11.9 million in 1997. The decrease in the loan loss provision in 1999 from the previous year was primarily the result of a reduction in losses in bankcard loans. Losses in the bankcard portfolio decreased as delinquencies and bankruptcies in this area improved. The decrease in loan loss provision in 1998 was primarily the result of lower charge-offs related to commercial loans. The increased rate of losses on other consumer loans that began in 1997 continued throughout 1998. A significant portion of these losses was related to indirect automobile paper purchased prior to 1997. Purchasing guidelines in this area were adjusted in 1997 and the rate of losses decreased. Decreasing losses associated with the Company's bankcard portfolio were experienced in 1999 and 1998, and Management believes the losses and delinquency levels of the bankcard portfolio will remain below industry averages. Bankcard loan delinquencies over 30 days totaled 2.1% of total bankcard loans as of year-end 1999. The Company will continue to closely monitor the bankcard loan portfolio, the related collection efforts and underwriting in order to minimize credit losses.
Table 4 presents a five-year summary of the Company's allowance for loan losses.
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Table 4: Analysis of Allowance for Loan Losses
Noninterest Income
A key objective of the Company is the growth of noninterest income to enhance profitability since fee-based services are non-credit related, provide steady income and are not directly affected by fluctuations in interest rates. These activities are also relatively low-risk and do not impact the Company's regulatory capital needs. Fee-based services provide the opportunity to offer multiple products and services to customers and, therefore, more closely align the customer with the Company. The Company's goal is to offer multiple products and services to its customers, the quality of which will differentiate us from the competition. Fee-based services that have been emphasized include trust and securities processing, securities trading/brokerage and cash management. Noninterest income, exclusive of net security and asset gains, as a percentage of adjusted operating revenues was 43% in 1999, compared to 40% in 1998 and 37% in 1997. Adjusted operating revenue is defined as tax-equivalent net interest income plus noninterest income, excluding net security and asset gains.
Noninterest income, exclusive of net security gains and gains on sale of assets, was $177.4 million in 1999 compared to $156.5 million in 1998 and $135.5 million in 1997. This represents a 13.4% increase in 1999 compared to a growth rate of 15.5% during 1998. This growth in 1999 was driven by a 15.0% increase in security trading and investment banking fees, a 12.8% increase in trust fees and a 13.5% increase in service charges and
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fees. The increase in fee income for 1998 was primarily the result of higher fee income from trust services and increases in nondeposit service charges and fees.
The Trust Division is the Company's most significant source of fee income. Trust services have long been an identified strength of the Company and are expected to continue to be the primary driver of fee income. The Company offers a full range of trust services including personal and custody services, investment management and employee benefits processing. The Company has a Private Client Services division, which offers full trust and personal banking services to high net worth individuals.
Income from trust services totaled $54.0 million in 1999, $47.9 million in 1998 and $45.3 million in 1997. The largest contributor to the increase in trust income for 1999 and 1998 was from employee benefit services. The next largest contributor to trust income is the personal and custodial business. This more traditional line of business generally experiences more steady moderate growth and is more directly impacted by fluctuations in the stock and bond markets. Fee revenue in 1999 and 1998 also benefited from the appreciation of assets under management. The aggregate value of managed trust assets was $14.2 billion at December 31, 1999, compared to $14.5 billion at year-end 1998 and $12.7 billion at year-end 1997.
The Company's securities processing and custody revenue is primarily related to the mutual fund industry. Revenues from securities processing were $14.4 million in 1999, $14.7 million in 1998 and $11.8 million in 1997. Revenue for 1999 reflects a slight decrease, as new business growth was not sufficient to offset the loss of revenue from a large securities processing customer that had moved to a new service provider during the year. Management anticipates that revenue growth in 2000 should more than offset this lost revenue. The increase in revenue for 1998 was the result of ongoing efforts to grow this business line by expanding the Company's customer base. The significant growth in the number and size of mutual funds has given the Company more opportunity to develop new customer relationships and has fueled growth from existing customers. The Company competes with companies many times its size in this line of business. Though the Company may not have the scale and price advantages of its much larger competitors, it can compete very effectively in certain areas due to better attention to customer service and overall flexibility related to services provided. Revenues from this business line are subject to more volatility than other fee sources due to the relative size of the customer base. The Company should be able to adjust its expense structure accordingly so that revenue volatility should not significantly impact operating results. Total trust assets under custody decreased to $103.8 billion at December 31, 1999 from $119.5 billion at December 31, 1998, primarily as a result of the customer loss described above. Trust assets under custody were $109.5 billion at December 31, 1997.
Fees and service charges on deposit accounts were $46.4 million in 1999, $41.1 million in 1998 and $36.6 million in 1997. The increases in fees for 1999 and 1998 were primarily related to corporate deposit accounts as a result of new customer relationships and the sale of additional cash management services. Corporate and retail deposit fees also increased as a result of adjusting fee schedules to changes in market pricing. The level of compensating balances maintained by corporate customers and the earnings credit rate applied to the balances also impacts the level of fee income received. Movement of the earnings credit rate in 1999 approximated changes in the interest rate on short-term Treasury securities. Other service charges and fees increased to $27.7 million in 1999 from $24.0 million in 1998, which had increased from $21.0 million in 1997. Significant increases were achieved in 1999, 1998 and 1997 as a result of increased ATM fees, home banking service fees, and the sale of cash management services to mutual fund companies. The Company expanded its ATM network to 608 machines at year-end 1999, compared to 557 and 486 at year-end 1998 and 1997, respectively. Bankcard fees, net of expenses, were $6.3 million in 1999, $3.5 million in 1998 and $1.5 million in 1997.
Trading and investment banking income totaled $20.7 million in 1999, compared to $18.0 million in 1998 and $13.7 million in 1997. Approximately half of the increase in 1999 resulted from an increase in retail brokerage activity. The remaining improvement was the result of an increase in security sales to corporate customers, primarily correspondent banks. The funding levels and loan demand of the correspondent bank customers directly impact this volume. Results for 1998 and 1997 were favorably impacted by increased demand
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for mortgage-backed security products, which carry a higher profit margin. Other income was $7.8 million in 1999 compared to $7.3 million in 1998 and $7.2 million in 1997.
Noninterest Expense
Total 1999 noninterest expense increased 4.7% to $306.0 million compared to 1998 expense of $292.3 million and 1997 expense of $259.3 million. Included in 1998 expense was a $7.4 million charge related to the funding, liquidation and termination of the Company's defined benefit pension plan. This item is explained in more detail in the footnotes of the consolidated financial statements. Net of this charge, operating expenses in 1999 increased by 7.4% over 1998. The increase in 1999 expense over 1998 was primarily driven by increases in staffing costs, the opening of the Company's new Technology Center, as well as upgrades to the Company's computer hardware and network. Operating expenses in 1998, net of the pension termination charge, increased by 9.8% over 1997. During both 1998 and 1997 the Company experienced increases in staffing and other operating costs due to physical, operational and technological expansion efforts. Costs for all three years were also impacted by efforts to prepare for year 2000 readiness.
Costs associated with staffing are the largest component of non-interest expense as they approximate 54% of total costs. Salaries and employee benefits expense, net of the pension termination charge, increased 6.1% to $166.6 million in 1999 compared to $156.7 million in 1998 and $141.6 million in 1997. Staffing levels at year-end 1999 were 4,104, compared to 4,070 in 1998 and 4,056 at the end of 1997. The moderate increase in staff and related expense for 1999 primarily resulted from the expansion of the Company's branch network and the strategic decision to add resources to certain critical and growth areas of the Company. Average staffing levels for 1999 were greater than the year-end total as a result of decreases during the last half of the year associated with the consolidation of various bank charters and related operations. During 1999, 1998 and 1997 the Company dedicated significant resources to improve its infrastructure. This spending has included both the upgrades of old legacy systems as well as investments in new delivery and information systems. Some of the initiatives under way or completed during 1999, 1998 and 1997 include the conversion to a new network operating system, the conversion to a new teller transaction processing system, the conversion of all affiliate banks to a new deposit processing system, a consolidated call center, expanded internet capabilities, an upgrade to the core mainframe computer, a major upgrade of the customer information system, implementation of an integrated financial accounting system, new processing and information systems for trust services and the creation of an enterprise data warehouse. During 1999, 1998 and 1997, the demand for qualified data processing staff increased due to the limited resources available in the marketplace to address the millennium date change, causing the Company's costs in this area to increase. During 1997, the Company also added staffing resources due to increased demand for employee benefit services and cash management services. Staffing levels and costs were also impacted by the opening of 3 new facilities in 1999, 23 in 1998 and 14 in 1997. These new facilities include mini branches and grocery store branches as well as full service branch facilities. The control of staffing costs has been and will continue to be an important goal for the Company. Control of these costs must be tempered with a view of the long-term strategy of the Company. The Company has and will continue to evaluate and take advantage of centralization of administrative and operational functions. At the same time, management will strive to gain efficiencies in its existing products, services and processes. The growth rate of staffing costs is expected to moderate during 2000.
Occupancy expense increased to $23.3 million in 1999 from $21.9 million in 1998 and $19.0 million in 1997. Equipment expense increased to $37.9 million in 1999 compared to $30.6 million in 1998 and $27.7 million in 1997. The increases in both 1998 and 1997 occupancy and equipment expense were primarily the result of the expansion efforts noted previously. Purchases of bank premises and equipment totaled $52 million in 1999, $51 million in 1998, and $37 million in 1997. The increase in spending for 1999 was impacted by cost associated with the Company's new Technology Center, which opened mid-year. Infrastructure costs, such as these, will continue to be evaluated and managed based on the long-term needs of and benefits to the Company.
Expenses for supplies and services were $21.7 million in 1999, compared to $20.4 million in both 1998 and 1997. The increase in 1999 primarily resulted from the opening of the new Technology Center, along with
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expenses associated with the centralization of certain administrative and operational functions and consolidation of several affiliate bank charters.
Marketing and business development costs decreased in 1999 to $16.8 million from $17.4 million in 1998 and $17.7 million in 1997. The higher cost in 1998 and 1997 was primarily the result of an increase in system-wide advertising and expanded business development activities. There continues to be significant change in the Company's market due to industry consolidation. Contributing to the higher costs in 1998 and 1997 was additional spending in new markets and additional campaigns in existing markets to promote the Company's reputation for stability and long-term vision. Processing fees increased to $10.5 million in 1999 from $8.9 million in 1998 and $8.6 million in 1997. The increase in 1999 primarily resulted from costs associated with outsourcing of the Company's desktop computer support function. The increases in legal and consulting fees to $5.0 million in 1999 from $3.5 million in 1998 and $2.7 million in 1997 are generally related to the use of third party contractors to assist with improvements to the Company's infrastructure referred to previously. Other operating expenses decreased to $17.2 million in 1999 from $18.4 million in 1998, which was an increase from $14.4 million in 1997. The primary factor driving the fluctuation in costs was losses from fraud and deposit processing, which had decreased in 1999 after increasing in 1998.
Income Taxes
Income tax expense totaled $23.0 million in 1999, compared to $21.8 million in 1998 and $28.1 million in 1997. These expense levels equate to effective tax rates of 26.4%, 28.6% and 31.3% for 1999, 1998 and 1997, respectively. The decrease in the effective tax rate for 1999 was primarily the result of an increase in tax exempt securities and a reduction in state and local income taxes. The primary reason for the difference between the Company's effective tax rate and the statuary rate is the effect of nontaxable income, partially offset by nondeductible goodwill amortization.
FINANCIAL CONDITION
Loans
Loans represent the Company's largest source of interest income. At December 31, 1999, loans amounted to $2.8 billion compared to $2.6 billion in 1998 and $2.8 billion in 1997. On average, loans totaled $2.6 billion in 1999, 1998 and 1997. One primary factor in the lack of growth in average loan totals for 1999 and 1998 was the rate of pay-offs. A higher than normal volume of loans paid off during 1998 as a result of customers being sold or private placement activity. The market for high quality credits that are consistent with the Company's underwriting standards remained very competitive. Management anticipates that new loan volume in 2000 will outpace loan reductions. Both commercial and consumer loan balances increased during 1999, despite an increasingly competitive loan market. Commercial loan balances have increased at year-end 1999 due to the aggressive efforts of the Company's business development officers to establish new commercial relationships and expand existing ones. Consumer loan totals increased in 1999 due to new marketing campaigns throughout the Company's affiliate bank network. During 1998, emphasis was placed on controlling and reducing the level of losses in the indirect consumer loan portfolio, and average balances decreased. Although indirect lending has fueled much of the new activity in consumer loans, the Company has and will continue to increase its direct consumer lending. There is a much better opportunity to cross-sell other products to a direct loan customer. In addition, these loans have a better loss experience and yield than indirect loans.
The Parent Company's Credit Administration Department performs timely reviews of loan quality and underwriting procedures in affiliate banks, which experienced significant increases in consumer loans.
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Table 5: Analysis of Loans by Type
Included in Table 5 is a five-year breakdown of loans by type. Business- related loans continue to represent the largest segment of the Company's loan portfolio, comprising approximately 60% of total loans. The focus of the Company and each of its affiliate banks is on the small- to medium-sized commercial companies within their respective trade areas. The Company targets customers that will utilize multiple banking services and products. The ownership structure of the Company and the continuity of its management and relationship officers are generally viewed by customers as a significant strength of the Company and benefit to the customer. The Company's goal is to differentiate itself from its large super-regional and national competitors through superior service, attention to detail, customer knowledge and responsiveness. The Company's size allows it to meet this goal and at the same time offer the wide range of products most customers need. This strategy has worked especially well during a period of bank consolidation and should continue to be a benefit. The Company has experienced very strong growth in the new markets it entered during the past three years. There has been a definite demand in these markets for bank services delivered with the customer-driven focus that the Company practices. The Company will continue to expand its efforts to attract customers that understand and seek the advantages of banking with a Company headquartered in their market.
Commercial real estate loans have increased to $208 million at December 31, 1999, from $199 million at year-end 1998, which was a decrease from $232 million at year-end 1997. As a percentage of total loans, commercial real estate loans now comprise only 7.3% of totals, compared to 7.8% and 8.3% in 1998 and 1997, respectively. Generally, these loans are made for working capital or expansion purposes and are primarily
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secured by real estate with a maximum loan-to-value of 80%. Many of these properties are owner-occupied and have other collateral or guarantees as security.
Bankcard loans have decreased as a percentage of total loans. They comprise only 5.8% of total loans at year-end 1999 compared to 6.4% in 1998 and 6.6% in 1997. A significant portion of the decrease in bankcard loans in 1999 was caused by a reduction in the private label portion of the portfolio. This type of loan is generally less profitable than traditional bankcard loans and likely to continue to decrease. The overall growth in the Company's bankcard portfolio has been hampered by increased competition from banking and nonbanking card issuers. This competition frequently lessens its credit standards and offers favorable introductory rates in an effort to obtain transfer balances from other cards. The Company has elected not to seek loan volume in such a manner. The Company's credit and underwriting standards have become stricter as more consumers acquire multiple credit cards with revolving balances.
Loan Quality
The strength of the Company's credit standards is reflected in the credit quality of the loan portfolio. A primary indicator of credit quality and risk management is the level of nonperforming loans. Nonperforming loans include both nonaccrual loans and restructured loans. The Company's nonperforming loans decreased to $6.3 million at December 31, 1999, compared to $10.7 million a year earlier. The level of nonperforming loans at year-end 1999 represents 0.22% of total loans compared to 0.42% in 1998 and 0.15% in 1997. The Company's nonperforming loans have not exceeded 0.5% of total loans in any of the last six years.
At December 31, 1999, the Company had $2.0 million in other real estate owned. Totals for year-end 1998 and 1997 were $0.7 million and $2.0 million, respectively. Loans past due more than 90 days totaled $5.0 million, $7.9 million and $7.8 million at December 31, 1999, 1998 and 1997, respectively. Bankcard loans represented approximately 23% of these past due totals at December 31, 1999.
Key factors of the Company's loan quality program are a sound credit policy combined with periodic and independent credit reviews. All affiliate banks operate under written loan policies. Credit decisions continue to be based on the borrower's cash flow and the value of underlying collateral, as well as other relevant factors. Each bank is responsible for evaluating its loans by using a ranking system. In addition, the Company has an internal loan review staff that operates independently of the affiliate banks. This review team performs periodic examinations of each bank's loans for credit quality, documentation and loan administration. The respective regulatory authority of each affiliate bank also reviews loan portfolios.
Another means of ensuring loan quality is diversification. By keeping its loan portfolio diversified, the Company has avoided problems associated with undue concentrations of loans within particular industries. Commercial real estate loans comprise less than 8% of total loans, with a history of no significant losses. The Company has no significant exposure to highly leveraged transactions and has no foreign credits in its loan portfolio.
A loan is generally placed on nonaccrual status when payments are past due 90 days or more and/or when management has considerable doubt about the borrower's ability to repay on the terms originally contracted. The accrual of interest is discontinued and recorded thereafter only when actually received in cash. At year-end 1999, $276,000 of interest due was not recorded as earned, compared to $460,000 for the prior year.
Certain loans are restructured to provide a reduction or deferral of interest or principal due to deterioration in the financial condition of the respective borrowers. Management estimates that approximately $44,000 of additional interest would have been earned in 1999 if the terms of these loans had been performing in accordance with their original contracts. In certain instances, the Company continues to accrue interest on loans past due 90 days or more. Though the loan payments are delinquent, collection of interest and principal is expected to resume, and sufficient collateral is believed to exist to protect the Company from significant loss. Consequently, management considers the ultimate collection of these loans to be reasonable and has recorded $644,000 of interest due as earned for 1999. The comparative amount for 1998 was $547,000.
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Table 6: Loan Quality
Securities
The Company's security portfolio provides significant liquidity as a result of the composition and average life of the underlying securities. This liquidity can be used to fund loan growth or to offset the outflow of traditional funding sources. In addition to providing potential liquidity, the security portfolio is used as a tool to manage interest rate sensitivity. The Company's goal in the management of its securities portfolio is to maximize return within the Company's parameters of liquidity goals, interest rate risk and credit risk. Historically, the Company has maintained very high liquidity levels while investing in only high-grade securities. The security portfolio generates the Company's second largest component of interest income. Securities available for sale and held to maturity comprised 56.3% of earning assets as of December 31, 1999, compared to 58.9% and 50.0% at year-end 1998 and 1997, respectively. The decrease in 1999 resulted from growth in the loan portfolio. Securities totaled $3.9 billion at December 31, 1999, compared to $3.8 billion as of December 31, 1998 and $2.9 billion in 1997. Loan demand is expected to be the primary factor impacting changes in the level of security holdings.
Securities available for sale comprised 81% of the Company's securities portfolio at December 31, 1999, and at year-end 1998. U.S. Treasury obligations comprised 44% of the available for sale portfolio as of December 31, 1999, compared with 40% one year earlier. U.S. Agency obligations represented an additional 39% of this portfolio at year-end 1999, compared with 37% at year-end 1998. In order to improve the yield of the securities portfolio, the Company periodically will choose to alter the mix of the portfolio as opposed to significantly lengthening the average life of the portfolio. Securities available for sale had a net unrealized loss of $20.5 million at year-end 1999 compared to an unrealized gain of $21.2 million the preceding year. These amounts are reflected, on an after-tax basis, in the Company's shareholders' equity as an unrealized loss of $12.8 million at year- end 1999 and an unrealized gain of $13.7 million for 1998.
The securities portfolio achieved an average yield on a tax-equivalent basis of 5.63% for 1999 compared to 5.87% in 1998 and 5.97% in 1997. The yield on the portfolio decreased by 24 basis points in 1999 as a result of the impact of decreases in short-term interest. A significant portion of the investment portfolio must be reinvested each year as a result of its liquidity. The Company could not maintain the portfolio yield without significantly impacting the average life or quality of the investment portfolio. Interest rate increases during the second half of 1999 have allowed the Company to improve the yield on its portfolio during this period. The average life of the core securities portfolio was 26 months at December 31, 1999, compared to 21 months and 23 months at year-end 1998 and 1997, respectively.
Included in Tables 7 and 8 are analyses of the cost, fair value and average yield of securities available for sale and securities held to maturity.
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Table 7: Securities Available For Sale
Table 8: Investment Securities
Other Earning Assets
Federal funds transactions essentially are overnight loans between financial institutions, which allow for either daily investment of excess funds or borrowing another institution's funds in order to meet short-term
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liquidity needs. The net purchased position at year-end 1999 was $211.9 million, compared to $77.7 million for year-end 1998. During 1999 and 1998, the Company was a net purchaser of federal funds, and this funding source averaged $89.4 million in 1999, compared to $30.6 million during 1998.
The Investment Banking Division of the Company's principal affiliate bank buys and sells federal funds as agent for nonaffiliated banks. Due to the agency arrangement, these transactions do not appear on the balance sheet and averaged $908.8 million in 1999 and $1,137.1 million in 1998.
At December 31, 1999, the Company had acquired securities under agreements to resell of $119.2 million compared to $52.8 million at year-end 1998. The Company uses these instruments as short-term secured investments, in lieu of selling federal funds, or to acquire securities required for a repurchase agreement. These investments averaged $90.2 million in 1999.
The Investment Banking Division also maintains an active securities trading inventory. The average holdings in the securities trading inventory in 1999 were $64.5 million, compared to $70.8 million in 1998, and were recorded at market value.
Table 9: Maturities of Time Deposits of $100,000 or More
Deposits and Borrowed Funds
Deposits represent the Company's primary funding source for its asset base. Deposits are gathered from various sources including commercial customers, individual retail consumers and mutual fund and trust customers. Deposits totaled $5.9 billion at December 31, 1999, compared to $5.9 billion and $5.5 billion at year-end 1998 and 1997, respectively. Deposits averaged $5.3 billion, $5.3 billion and $4.9 billion in 1999, 1998 and 1997, respectively. Deposit growth in 1999 was impacted by the increased use of repurchase agreements by commercial customers. The increase in average deposits for 1998 was primarily related to commercial and trust customers. The Company has continued to expand, improve and promote its cash management services in order to attract and retain commercial funding customers.
Noninterest-bearing demand deposits averaged $1.7 billion, $1.7 billion and $1.6 billion during 1999, 1998 and 1997, respectively. These deposits represented 32.7% of average deposits in 1999, compared to 32.0% in 1998 and 1997. The Company's large commercial customer base provides a significant source of noninterest-bearing deposits. Many of these commercial accounts, though they do not earn interest, receive an earnings credit to offset the cost of other services provided by the Company.
Securities sold under agreements to repurchase totaled $1,192.0 million at December 31, 1999, and $836.0 million at year-end 1998. This liability averaged $1,165.6 million in 1999 and $778.9 million in 1998. Repurchase agreements are transactions involving the exchange of investment funds, by the customer, for securities, by the Company, under an agreement to repurchase the same or similar issues at an agreed-upon price and date. The Company enters into these transactions with its downstream correspondent banks, commercial customers, and various trust, mutual fund and local government relationships.
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The Company's long-term debt includes two senior note issues totaling $25 million and $0.2 million in installment notes. The senior notes represent funds borrowed in 1993 under a medium-term program to fund bank acquisitions. Of this total, $10.0 million had an original maturity of seven years at 6.81%, and $15.0 million was issued with a ten-year maturity at 7.30%. Also included in long-term debt is the Company's guarantee of a loan incurred in January 1996 by its Employee Stock Ownership Plan. Principal and interest, at 6.10%, are due quarterly over seven years. The Plan is using Company contributions to service this debt. The Company also has two fixed-rate advances from the Federal Home Loan Bank at rates of 4.50% and 5.89%. These collateralized advances are used to offset interest rate risk of longer term fixed rate loans.
Table 10 Analysis of Average Deposits
Table 11 Short-Term Debt
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Capital
The Company places a significant emphasis on the maintenance of a strong capital position, which helps safeguard our customers' funds, promotes investor confidence, provides access to funding sources under favorable terms, and enhances the Company's ability to capitalize on business growth and acquisition opportunities. Capital is managed for each subsidiary based upon its respective risks and growth opportunities as well as regulatory requirements.
Total shareholders' equity was $655.0 million at December 31, 1999, compared to $662.8 million one year earlier. The Company guarantees the debt of its ESOP, the proceeds of which were used to acquire shares of the Company's common stock. The shares acquired by the ESOP that have not been allocated to plan participants are included as a reduction to shareholders' equity. During each year, management had the opportunity to repurchase shares of the Company's stock at prices which in management's opinion would enhance overall shareholder value. During 1999 and 1998, the Company acquired 926,537 and 235,215 shares, respectively, of its common stock.
Risk-based capital guidelines established by regulatory agencies establish minimum capital standards based on the level of risk associated with a financial institution's assets. A financial institution's total capital is required to equal at least 8% of risk-weighted assets. At least half of that 8% must consist of Tier 1 core capital, and the remainder may be Tier 2 supplementary capital. The risk-based capital guidelines indicate the specific risk weightings by type of asset. Certain off-balance-sheet items (such as standby letters of credit and binding loan commitments) are multiplied by credit conversion factors to translate them into balance sheet equivalents before assigning them specific risk weightings. Due to the Company's high level of core capital and substantial portion of earning assets invested in government securities, the Tier 1 capital ratio of 14.20% and total capital ratio of 14.91% substantially exceed the regulatory minimums.
ASSET/LIABILITY MANAGEMENT
Interest Rate Sensitivity
Due to the nature of the Company's business, some degree of interest rate risk is inherent and appropriate. Management's objective in this area is to limit the level of earnings exposure arising from interest rate movements. Analysis of this risk is related to liquidity due to the impact of maturing assets and liabilities. Many of the Company's financial instruments reprice prior to maturity.
Interest rate sensitivity is measured by gaps, which are the differences between interest-earning assets and interest-bearing liabilities, which reprice or mature within a specific time interval. A positive gap indicates that interest-earning assets exceed interest-bearing liabilities within a given interval. A positive gap position results in increased net interest income when rates increase and the opposite when rates decline.
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Table 12 Risk-Based Capital
The table below computes risk-based capital in accordance with current regulatory guidelines. These guidelines as of December 31, 1999, excluded net unrealized gains or losses on securities available for sale from the computation of regulatory capital and the related risk-based capital ratios.
Management attempts to structure the balance sheet to provide for the repricing of approximately equal amounts of assets and liabilities within specific time intervals. Table 14 is a static gap analysis, which presents the Company's assets and liabilities, based on their repricing or maturity characteristics. This analysis shows that for the 180-day interval, beginning January 1, 2000, the Company is in a negative gap position because liabilities maturing or repricing during this time exceed assets.
In management's opinion, the static gap report tends to overstate the interest rate risk of the Company due to certain factors, which are not measured on a static or snapshot analysis. A static gap analysis assumes that all liabilities reprice based on their contractual term. However, the effect of rate increases on core deposits, approximately 91% of total deposits, tends to lag behind the change in market rates. This lag generally lessens the negative impact of rising interest rates when the Company has more liabilities subject to repricing than assets.
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In addition, a static analysis ignores the impact of changes in the mix and volume of interest-bearing assets and liabilities. During 1999, the Company's loans decreased as a percentage of total earning assets, and noninterest- bearing demand deposit accounts represented a smaller component of total funding sources. Due to the limitations of a static gap analysis, the Company also monitors and manages interest rate risk through the use of simulation models. These models allow for input of various factors and assumptions, which influence interest rate risk. This method presents a more realistic view of the impact on the Company's earnings resulting from movement in interest rates.
Table 13 Market Risk
Simulation tools will be the primary tool that the Company will use to manage its interest rate risk. The Company does not use off-balance-sheet hedges or swaps to manage this risk except for use of futures contracts to offset interest rate risk on specific securities held in the trading portfolio.
Table 14 Interest Rate Sensitivity Analysis
- -------- *Includes securities available for sale based on scheduled maturity dates.
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The Company's interest rate sensitivity is also monitored by management through the use of a model which internally generates estimates of the change in net portfolio value (NPV) over a range of instantaneous and sustained interest rate scenarios. NPV is the present value of expected cash flows from assets, liabilities, and off-balance sheet contracts. The assets and liabilities of the Company are comprised primarily of financial instruments which give rise to cash flows. By projecting the timing and amount of future net cash flows, an estimated value of that asset or liability can be determined. Market values of the Company's investment in loans and debt securities fluctuate with movements in market interest rates. Prepayments of principal are closely correlated with interest rates and affect future cash flows. Certain deposits and other borrowings of the Company are also sensitive to interest rate changes. Table 13 sets forth the Company's NPV as of December 31, 1999. Although the NPV measurements provide an indication of the Company's interest rate risk exposure at a particular point-in-time, such measurements are not intended to, and do not provide a precise forecast of the effect of changes in market rates on the Company's net interest income and may differ from actual results.
TABLE 15 Rate Sensitivity and Maturity of Loans
The following table presents the rate sensitivity of certain loans maturing after 2000, compared with the total loan portfolio as of December 31, 1999. Of the $1,599,379 of loans due after 2000, $1,036,465 are to individuals for the purchase of residential dwellings and other consumer goods. The remaining $562,914 is for all other purposes and reflects maturities of $464,428 in 2001 through 2004 and $98,486 after 2004.
Liquidity
Liquidity represents the Company's ability to meet financial commitments through the maturity and sale of existing assets or availability of additional funds. The primary source of liquidity for the Company is regularly scheduled payments on and maturities of assets along with $3.1 billion of high-quality securities available for sale. The liquidity of the Company and its affiliate banks is also enhanced by its activity in the federal funds market and by its core deposits. Neither the Parent Company nor its subsidiaries are active in the debt market. The traditional funding source for the Company's subsidiary banks has been core deposits. The Parent Company has not issued any debt since 1993 when $25 million of medium-term notes were issued to fund bank acquisitions. These notes are rated A3 by Moody's Investor Service and A- by Standard & Poors. Based upon regular contact with brokerage firms, management is confident in its ability to raise debt or equity capital on favorable terms, should the need arise.
The Parent Company's cash requirements consist primarily of dividends to shareholders, debt service and treasury stock purchases. Management fees and dividends received from subsidiary banks traditionally have been sufficient to satisfy these requirements and are expected to be in the future. The Company's subsidiary banks are subject to various rules, depending on their location and primary regulator, regarding the payment of dividends to the Parent Company. For the most part, all banks can pay dividends at least equal to their current year's
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earnings without seeking prior regulatory approval. From time to time, approvals have been requested to allow a subsidiary bank to pay a dividend in excess of its current capacity. All such requests have been approved.
Year 2000
Prior to December 31, 1999, the management of the Company completed its review of hardware and software systems to identify those systems that could be affected by the Year 2000 issue. The Company also had a plan in place to investigate and quantify the Year 2000 issues arising from relationships with third parties such as customers, vendors, issuers of debt and equity securities, and service providers. As of the date of this filing, the Company has experienced no disruptions or other significant problems related to Year 2000 issues. Additionally, to date, there have been no Year 2000 related failures in respect of supplies or services from vendors and service providers.
However, if Year 2000 issues develop subsequent to the date of this filing which impact the ability of vendors or service providers to adequately supply the Company, there could be a material adverse impact on the Company's future financial condition and future operating results.
eScout
During the first quarter of 2000, UMB Bank formed a subsidiary under the name of eScout.com LLC (eScout), minority interests in which were acquired by several outside investors. eScout's function is to serve as an electronic commerce network for UMB's commercial customers, correspondent banks and their commercial customers, and other small businesses. The results of eScout's start up and initial operations are not anticipated to have a material impact on the results or operations of the Company.
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Table 16: Summary of Operating Results by Quarter (unaudited)
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UMB FINANCIAL CORPORATION
CONSOLIDATED BALANCE SHEETS
See Notes to Financial Statements, pages A-28-A-46.
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UMB FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
See Notes to Financial Statements, pages A-28-A-46.
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UMB FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
- -------- Note: Certain noncash transactions regarding the adoption of SFAS No. 115, and guaranteed ESOP debt transactions and common stock issued for acquisitions are disclosed in the accompanying financial statements and notes to financial statements.
See Notes to Financial Statements, pages A-28-A-46.
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UMB FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
See Notes to Financial Statements, pages A-28-A-46.
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS
SUMMARY OF ACCOUNTING POLICIES
UMB Financial Corporation is a multi-bank holding company which offers a wide range of banking services to its customers through its branches and offices in the states of Missouri, Kansas, Colorado, Illinois, Oklahoma, Iowa and Nebraska. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements. These estimates and assumptions also impact reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Following is a summary of the more significant accounting policies to assist the reader in understanding the financial presentation.
Consolidation -- All subsidiaries are included in the consolidated financial statements. Intercompany accounts and transactions have been eliminated where significant.
Acquisitions -- Banks acquired and recorded under the purchase method are recorded at the fair value of the net assets acquired at the acquisition date, and results of operations are included from that date. Excess of purchase price over the value of net assets acquired is recorded as premiums on purchased banks. Premiums on purchases prior to 1982 are being amortized ratably over 40 years. Premiums on purchases in 1982 and after are being amortized ratably over 15-20 years. Core deposit intangible assets are being amortized ratably over 10 years.
Loans -- Interest on loans is recognized based on the rate times the principal amount outstanding. Interest accrual is discontinued when, in the opinion of management, the likelihood of collection becomes doubtful.
Affiliate banks enter into lease financing transactions that are generally recorded under the financing method of accounting. Income is recognized on a basis that results in an approximately level rate of return over the life of the lease.
Annual bankcard fees are recognized on a straight-line basis over the period that cardholders may use the card.
A loan is considered to be impaired when management believes it is probable that it will be unable to collect all principal and interest due according to the contractual terms of the loan. If a loan is impaired, the Company records a loss valuation allowance equal to the carrying amount of the loan in excess of the present value of the estimated future cash flows discounted at the loan's effective rate based on the loan's observable market price or the fair value of the collateral if the loan is collateral dependent. Real estate and consumer loans are collectively evaluated for impairment. Commercial loans are evaluated for impairment on a loan-by-loan basis.
The adequacy of the allowance for loan losses is based on management's continuing evaluation of the pertinent factors underlying the quality of the loan portfolio, including actual loan loss experience, current and anticipated economic conditions, detailed analysis of individual loans for which full collectibility may not be assured and determination of the existence and realizable value of the collateral and guarantees securing such loans. The actual losses, notwithstanding such considerations, however, could differ significantly from the amounts estimated by management.
Securities Available for Sale -- Debt securities available for sale include principally U.S. Treasury and agency securities and mortgage-backed securities. Securities classified as available for sale are measured at fair value. Unrealized holding gains and losses are excluded from earnings and reported in other comprehensive income (loss) until realized. Realized gains and losses on sales are computed by the specific identification method at the time of disposition and are shown separately as a component of noninterest income.
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued
Investment Securities -- Investment securities are carried at amortized historical cost based on management's intention, and the Company's ability, to hold them to maturity. The Company classifies most securities of state and political subdivisions as investment securities. Certain significant unforeseeable changes in circumstances may cause a change in the intent to hold these securities to maturity. For example, such changes may include a deterioration in the issuer's creditworthiness that is expected to continue or a change in tax law that eliminates the tax-exempt status of interest on the security.
Trading Securities -- Trading securities, generally acquired for subsequent sale to customers, are carried at market value. Market adjustments, fees and gains or losses on the sale of trading securities are considered to be a normal part of operations and are included in trading and investment banking income. Interest income on trading securities is included in income from earning assets.
Impairment of Long-Lived Assets -- Long-lived assets, including goodwill and premises and equipment, are reviewed for impairment whenever events or changes in circumstances indicate the carrying amount of an asset or group of assets may not be recoverable. The impairment review includes a comparison of future cash flows expected to be generated by the asset or group of assets with their associated carrying value. If the carrying value of the asset or group of assets exceeds expected cash flow, (undiscounted and without interest charges), an impairment loss is recognized to the extent the carrying value exceeds its fair value.
Taxes -- The Company recognizes certain income and expenses in different time periods for financial reporting and income tax purposes. The provision for deferred income taxes is based on the liability method and represents the change in the deferred income tax accounts during the year, including the effect of enacted tax rate changes.
Per Share Data -- Earnings per share are computed based on the weighted average number of shares of common stock outstanding during each period. Pursuant to SFAS 128 diluted earnings per share takes into account the dilutive effect of 29,833; 61,441 and 42,460 shares issuable under stock options granted by the Company at December 31, 1999, 1998 and 1997, respectively.
Reclassifications -- Certain reclassifications were made to the 1998 and 1997 financial statements to conform to the current year presentation.
ACCOUNTING CHANGES
Accounting for Stock-Based Compensation -- Stock-based compensation is recognized using the intrinsic value method for disclosure purposes. Pro forma net income and earnings per share are disclosed as if the fair value method had been applied.
Accounting for Reporting Comprehensive Income -- In June 1997, the Financial Accounting Standards Board issued SFAS No. 130, "Reporting Comprehensive Income." The Statement establishes standards for reporting and display of comprehensive income and its components (revenues, expenses, gains and losses) in a full set of general-purpose financial statements. This Statement requires that all items that are to be recognized under accounting standards as components of comprehensive income be reported in a financial statement that is displayed with the same prominence as other financial statements. This Statement requires that the Company (a) classify items of other comprehensive income by their nature in a financial statement and (b) 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. The Statement was effective for the Company's financial statements as of December 31, 1998.
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued
Accounting for Disclosures about Segments and Related Information -- In June 1997, FASB issued SFAS No. 131 "Disclosures about Segments of an Enterprise and Related Information". The Statement establishes standards for the way that public enterprises report information about operating segments in annual financial statements and requires that those enterprises report selected information about operating segments in interim financial reports issued to shareholders. The Statement was effective for the Company's financial statements as of December 31, 1998.
Accounting for Derivative instruments -- In June, 1998, the Financial Accounting Standards Board issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities". In June, 1999, the Financial Accounting Standards Board issued SFAS No. 137 which deferred the effective date of SFAS No. 133. This standard requires entities to recognize all derivatives as either assets or liabilities in its financial statements and to measure such instruments at their fair value. The Statement is effective for the Company's financial statements for the fiscal year beginning after January 1, 2001. The Company is in the process of evaluating the potential impact of the new Statement.
ALLOWANCES FOR LOAN LOSSES
The table below provides an analysis of the allowance for loan losses for the three years ended December 31, 1999 (in thousands):
The amount of loans considered to be impaired under SFAS No. 114 was $4,809,000 at December 31, 1999 and $10,221,000 at December 31, 1998. All of the loans were on a nonaccrual basis or had been restructured. Included in the impaired loans, at December 31, 1999 was $1,936,000 of loans for which the related allowance was $433,000. The remaining $2,873,000 of impaired loans did not have an allowance for loan losses as a result of write-downs and supporting collateral value. At December 31, 1998 there was $8,022,000 of impaired loans with a related allowance of $1,273,000, and $2,199,000 of impaired loans which did not have an allowance. The average recorded investment in impaired loans was approximately $7,789,000 during the year ended December 31, 1999 and $7,901,000 during the year ended December 31, 1998. The Company had no material amount recorded as interest income on impaired loans for either year.
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued
SECURITIES AVAILABLE FOR SALE
The table below provides detailed information for securities available for sale at December 31, 1999, 1998 and 1997 (in thousands):
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued
The following table presents contractual maturity information for securities available for sale at December 31, 1999. Securities may be disposed of before contractual maturities due to sales by the Company or because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
Securities available for sale with a market value of $2,793,713,000 at December 31, 1999, $2,501,417,000 at December 31, 1998, and $2,278,156,000 at December 31, 1997, were pledged to secure U.S. Government deposits, other public deposits and certain trust deposits as required by law.
During 1999, proceeds from the sales of securities available for sale were $95,435,000 compared to $18,643,000 for 1998. Securities transactions resulted in gross realized gains of $598,000 for 1999 and $12,000 for 1998. The gross realized losses were $51,000 for 1999 and $12,000 for 1998.
The net unrealized holding gains (losses) on trading securities at December 31, 1999 and 1998, were $(97,300) and $36,000, respectively, and were included in trading and investment banking income.
INVESTMENT SECURITIES
The table below provides detailed information for investment securities at December 31, 1999, 1998 and 1997 (in thousands):
The following table presents contractual maturity information for investment securities at December 31, 1999. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued
There were no sales of investment securities during 1999, 1998 or 1997.
Investment securities with a market value of $689,027,000 at December 31, 1999, $147,988,000 at December 31, 1998 and $116,864,000 at December 31, 1997, were pledged to secure U.S. Government deposits, other public deposits and certain trust deposits as required by law.
LOANS TO OFFICERS AND DIRECTORS
Certain Company and principal affiliate bank executive officers and directors, including companies in which those persons are principal holders of equity securities or are general partners, borrow in the normal course of business from affiliate banks of the Company. All such loans have been made on the same terms, including interest rates and collateral, as those prevailing at the same time for comparable transactions with unrelated parties. In addition, all such loans are current as to repayment terms. For the years 1999, 1998 and 1997, an analysis of activity with respect to such aggregate loans to related parties appears below (in thousands):
BANK PREMISES AND EQUIPMENT
Bank premises and equipment are stated at cost less accumulated depreciation, which is computed primarily on accelerated methods. Bank premises are depreciated over 20 to 40 year lives, while equipment is depreciated over lives of 3 to 20 years. Bank premises and equipment consisted of the following (in thousands):
Consolidated rental and operating lease expenses were $4,294,000 in 1999, $3,884,000 in 1998, and $2,305,000 in 1997. Minimum rental commitments as of December 31, 1999, for all noncancelable operating leases are: 2000-- $3,445,000; 2001--$3,365,000; 2002--$3,250,000; 2003--$3,147,000; 2004-- $3,186,000; and thereafter--$31,594,000.
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued
BORROWED FUNDS
The components of the Company's short-term and long-term debt were as follows (in thousands):
Long-term debt represents direct, unsecured obligations of the parent company, secured obligations of affiliate banks and a guarantee by the Company of debt of the Company's ESOP plan. The senior notes due in 2000 and 2003 cannot be redeemed prior to stated maturity. The senior notes due in 1999 required annual redemptions of $3,000,000 which began in 1995. The ESOP installment note, secured by shares of the Company's stock, bears interest at a rate of 6.10% and requires quarterly principal and interest payments of $763,000 through December 31, 2002. The 5.89% Federal Home Loan Bank note requires monthly principal and interest payments. The 4.50% Federal Home Loan Bank note requires monthly interest payments.
The Company enters into sales of securities with simultaneous agreements to repurchase ("repurchase agreements"). The amounts received under these agreements represent short-term borrowings and are reflected as a separate item in the consolidated balance sheet. The amount outstanding at December 31, 1999, was $1,192,013,000 (with accrued interest payable of $376,464). Of that amount, $32,385,000 represented sales of securities in which the securities were obtained under reverse repurchase agreements ("resell agreements"). The remainder of $1,159,628,000 represented sales of U.S. Treasury and agency securities obtained from the Company's securities portfolio. The carrying amounts and market values of the securities and the related repurchase liabilities and weighted average interest rates of the repurchase liabilities (grouped by maturity of the repurchase agreements) were as follows (in thousands):
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued REGULATORY REQUIREMENTS
Payment of dividends by the affiliate banks to the parent company is subject to various regulatory restrictions. For national banks and the state bank in Oklahoma, the governing regulatory agency must approve the declaration of any dividends generally in excess of the sum of net income for that year and retained net income for the preceding two years. The state bank in Missouri is subject to state laws permitting dividends to be declared from retained earnings, provided certain specified capital requirements are met. At December 31, 1999, approximately $15,170,000 of the equity of the affiliate banks was available for distribution as dividends to the parent company without prior regulatory approval or without reducing the capital of the respective affiliate banks below prudent levels.
Certain affiliate banks maintain reserve balances with the Federal Reserve Bank as required by law. During 1999, this amount averaged $130,611,000.
The Company is required to maintain minimum amounts of capital to total "risk weighted" assets, as defined by the banking regulators. At December 31, 1999, the Company is required to have minimum Tier 1 and Total capital ratios of 4.00% and 8.00%, respectively. The Company's actual ratios at that date were 14.20% and 14.91%, respectively. The Company's leverage ratio at December 31, 1999, was 7.64%.
As of December 31, 1999, the most recent notification from the Office of Comptroller of the Currency categorized the Company's most significant affiliate banks as well-capitalized under the regulatory framework for prompt corrective action. To be categorized as well-capitalized, the affiliate banks must maintain total risk-based, Tier 1 risk-based and Tier 1 leverage ratios of 10.0%, 6.0% and 5.0%, respectively. There are no conditions or events since that notification that management believes have changed the affiliate banks' category.
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued
Actual capital amounts as well as required and well-capitalized Tier 1, Total and Tier 1 Leverage ratios as of December 31 for the Company and its largest banks are as follows:
- -------- *During 1999, UMB Bank of St. Louis, n.a. merged into UMB Bank, n.a.
EMPLOYEE BENEFITS
The Company has a noncontributory profit sharing plan, which features an employee stock ownership plan. These plans are for the benefit of substantially all eligible officers and employees of the Company and its subsidiaries. Contributions to these plans for the years 1999, 1998 and 1997 were $3,052,000, $3,052,000, and $4,200,000, respectively. In 1996, the Employee Stock Ownership Plan (ESOP) borrowed $17 million to purchase Common Stock of the Company. The loan obligation of the ESOP is considered unearned employee benefit expense and, as such, is recorded as a reduction of the Company's shareholders' equity. Both the loan obligation and the unearned benefit expense are reduced by the amount of the loan principal repayments made by the ESOP. The portion of the Company's ESOP contribution which funded principal repayments and the payment of interest expense was recorded accordingly in the consolidated financial statements.
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued
The Company has a qualified 401(k) profit sharing plan that permits participants to make contributions by salary reduction. The Company made a matching contribution to this plan of $1,745,000 for 1999, $1,671,000 for 1998 and $447,000 for 1997.
Substantially all officers and employees were covered by a noncontributory defined benefit pension plan. Under the plan, retirement benefits are based on years of service and the average of the employee's highest 120 consecutive months of compensation. The Company's funding policy was to contribute annually the maximum amount that could be deducted for federal income tax purposes. Contributions were intended to provide not only for benefits attributed to service to date but also for those expected to be earned in the future. To the extent that these requirements are fully covered by assets in the plan, a contribution may not be made in a particular year.
During 1998 the Company received approval to terminate the pension plan. Termination and liquidation of the defined benefit plan occurred during 1998 with a pretax charge of $7.4 million. This one-time charge was required to fully fund the plan and distribute the assets to plan participants. The Company elected to fund and liquidate the pension plan and replace it with a benefit plan more closely tied to Company performance. The distribution of plan assets will also give participants discretion over investment decisions. All employees previously covered by the pension plan are now eligible to receive a partial matching contribution to the Company's qualified 401(k) plan, as amended.
The following items are components of the net periodic pension expense (income) for the year ended December 31, 1997 (in thousands):
Assumptions used in accounting for the plan were as follows:
During 1998, certain assumptions used to calculate the final plan liquidation liability were changed after the company made the final determination and received final regulatory approval to terminate the plan. The following table sets forth the pension plan's funded status, using a valuation date of September 30, 1997 (in thousands):
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued
On April 16, 1992, the shareholders of the Company approved the 1992 Incentive Stock Option Plan ("the 1992 Plan"), which provides incentive options to certain key employees for up to 500,000 common shares of the Company. Of the options granted prior to 1998, 40% are exercisable two years from the date of the grant and are thereafter exercisable in 20% increments annually, or for such periods or vesting increments as the Board of Directors, or a committee thereof, specify (which may not exceed 10 years), provided that the optionee has remained in the employment of the Company or its subsidiaries. None of the options granted after 1998 are exercisable until five years after the grant date. The Board or the committee may accelerate the exercise period for an option upon the optionee's disability, retirement or death. All options expire at the end of the exercise period. The Company makes no recognition in the balance sheet of the options until such options are exercised and no amounts applicable thereto are reflected in net income. Options are granted at not less than 100% of fair market value at date of grant.
Activity in the 1992 Plan for the three years ended December 31, 1999, is summarized in the following table:
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued
The 1981 Incentive Stock Option Plan ("the 1981 Plan") was adopted by the Company on October 22, 1981, and amended November 27, 1985, and October 10, 1989. No further options may be granted under the 1981 Plan. Provisions of the 1981 Plan regarding option price, term and exercisability are generally the same as that described for the 1992 Plan. Activity in the 1981 Plan for the three years ended December 31, 1999, is summarized in the following table:
The Company applies Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and related interpretations in accounting for its plans. Accordingly, no compensation cost has been recognized for the stock option plans. Had compensation costs for the Company's plans been determined based upon the fair value at the grant date for awards under these plans consistent with the methodology prescribed under Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation," the Company's net income and earnings per share would have been respectively, $63,826 and $2.93 for the year ended December 31, 1999, $54,030 and $2.41 for the year ended December 31, 1998 and $61,573 and $2.74 for the year ended December 31, 1997.
For options granted during the year ended December 31, 1999, the estimated fair value of options granted using the Black-Scholes pricing model under the Company's plans was based on a weighted average risk-free interest rate of 6.23%, expected option life of 8.75 years, expected volatility of 18.60% and an expected dividend
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued yield of 2.25%. For options granted during the year ended December 31, 1998, the estimated fair value of options granted under the Company's plans was based on a weighted average risk-free interest rate of 4.79%, expected option life of 8.75 years, expected volatility of 18.20% and an expected dividend yield of 1.81%. For options granted during the year ended December 31, 1997, the estimated fair value of options granted under the Company's plans was based on a weighted average risk-free interest rate of 6.08%, expected option life of 8.75 years, expected volatility of 16.00% and an expected dividend yield of 1.42%.
SEGMENT REPORTING
Public enterprises are required to report certain information concerning its operating segments in annual and interim financial statements. Beginning in 1998, the Company began preparing periodic reporting on its operating segments. Operating segments are considered to be components of or enterprises for which separate financial information is available and evaluated regularly by key decision-makers for purposes of allocating resources and assessing performance. The Company has defined its operations into the following segments:
Commercial Banking. Providing a full range of lending and cash management services to commercial and governmental entities through the commercial division of the Company's lead bank.
Trust & Securities Processing. Providing estate planning, trust, employee benefit, asset management and custodial services to individuals and corporate customers.
Investment Banking and Brokerage. Providing commercial and retail brokerage, investment accounting and safekeeping services to individuals and corporate customers. This segment includes the Company's investment portfolio.
Community Banking. Providing a full range of banking services to retail and corporate customers through the Company's affiliate bank and branch network.
Other. The Other category consists primarily of Overhead and Support departments of the Company. The net revenues and expenses of these departments are allocated to the other segments of the organization in the Company's periodic segment reporting.
Reported segment revenues, net income and average assets include revenue and expense distributions for services performed for other segments within the Company as well as balances due from other segments within the Company. Such intercompany transactions and balances are eliminated in the Company's consolidated financial statements.
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued
The table below lists selected financial information by business segment as of and for the two years ended December 31, 1999 (in thousands):
COMMON STOCK
The following table summarizes the share transactions for the three years ended December 31, 1999:
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued
COMMITMENTS AND CONTINGENCIES
In the normal course of business, the Company is a party to financial instruments with off-balance-sheet risk in order to meet the financing needs of its customers and to reduce its own exposure to fluctuations in interest rates. These financial instruments include commitments to extend credit, commercial letters of credit, standby letters of credit, and futures contracts. Those instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets. The contract or notional amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments.
The Company's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit, commercial letters of credit and standby letters of credit is represented by the contract or notional amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments. The Company controls the credit risk of its futures contracts through credit approvals, limits and monitoring procedures.
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the agreement. These conditions generally include, but are not limited to, each customer being current as to repayment terms of existing loans and no deterioration in the customer's financial condition. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. The interest rate is generally a variable or floating rate. If the commitment has a fixed interest rate, the rate is generally not set until such time as credit is extended. For credit card customers, the Company has the right to change or terminate any terms or conditions of the credit card account at any time. Since a large portion of the commitments and unused credit card lines are never actually drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Company evaluates each customer's creditworthiness on an individual basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management's credit evaluation. Collateral held varies but may include accounts receivable, inventory, real estate, plant and equipment, stock, securities and certificates of deposit.
Commercial letters of credit are issued specifically to facilitate trade or commerce. Under the terms of a commercial letter of credit, as a general rule, drafts will be drawn when the underlying transaction is consummated as intended. Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party.
The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Company holds collateral supporting those commitments when deemed necessary. Collateral varies but may include such items as those described for commitments to extend credit.
Futures contracts are contracts for delayed delivery of securities or money market instruments in which the seller agrees to make delivery at a specified future date of a specified instrument at a specified yield. Risks arise from the possible inability of counterparties to meet the terms of their contracts and from movements in securities values and interest rates. Instruments used in trading activities are carried at market value and gains and losses on futures contracts are settled in cash daily. Any changes in the market value are recognized in trading and investment banking income.
The Company's use of futures contracts is very limited. The Company uses contracts to offset interest rate risk on specific securities held in the trading portfolio. Open futures contract positions averaged $46.2 million and $41.4 million during the years ended December 31, 1999 and 1998, respectively. Net futures activity resulted in gains of $1.7 million for 1999, losses of $1.0 million for 1998 and losses of $1.2 million for 1997.
The Company also enters into foreign exchange contracts on a limited basis. For operating purposes the Company maintains certain balances in foreign banks. Foreign exchange contracts are purchased on a monthly
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued basis to avoid foreign exchange risk on these foreign balances. The Company will also enter into foreign exchange contracts to facilitate foreign exchange needs of customers. The Company will enter into a contract to buy or sell a foreign currency at a future date only as part of a contract to sell or buy the foreign currency at the same future date to a customer. During 1999 contracts to purchase and to sell foreign currency averaged approximately $17.4 million, compared to $1.4 million during 1998. The gain or loss on these foreign exchange contracts for 1999 and 1998 was not significant.
With respect to group concentrations of credit risk, most of the Company's business activity is with customers in the states of Missouri, Kansas, Colorado, Oklahoma, Nebraska and Illinois. At December 31, 1999, the Company did not have any significant credit concentrations in any particular industry.
In the normal course of business, the Company and its subsidiaries are named defendants in various lawsuits and counterclaims. In the opinion of management, after consultation with legal counsel, none of these lawsuits will have a materially adverse effect on the financial position or results of operations of the Company.
ACQUSITIONS
On November 22, 1999 the Company acquired Charter National Bank, Oklahoma City, Oklahoma for $10 million. The acquisition was funded with existing working capital. The acquisition of this $51.2 million bank was recorded as a purchase. The acquisition was not deemed to be material in relation to the consolidated results of the Company. Income of the combined Company does not include income of the acquired Company prior to the effective date of the acquisition.
INCOME TAXES
Income taxes as set forth below produce effective federal income tax rates of 25.47% in 1999, 27.26% in 1998, and 30.80% in 1997. These percentages are computed by dividing total federal income tax by the sum of such tax and net income. Income taxes include the following components (in thousands):
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued The reconciliation between the income tax provision and the amount computed by applying the statutory federal tax rate of 35% to income before income taxes is as follows (in thousands):
Deferred taxes are recorded based upon differences between the financial statement and tax basis of assets and liabilities.
Temporary differences which comprise a significant portion of deferred tax assets and liabilities at December 31, 1999, 1998 and 1997 were as follows (in thousands):
DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate the fair value of each class of financial instruments:
Cash and Short-Term Investments -- The carrying amounts of cash and due from banks, federal funds sold and resell agreements are reasonable estimates of their fair values.
Securities Available for Sale and Investment Securities -- Fair values are based on quoted market prices or dealer quotes, if available. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities.
Trading Securities -- Fair values for trading securities (including financial futures), which also are the amounts recognized in the balance sheet, are based on quoted market prices where available. If quoted market prices are not available, fair values are based on quoted market prices for similar securities.
Loans -- Fair values are estimated for portfolios with similar financial characteristics. Loans are segregated by type, such as commercial, real estate, consumer, and credit card. Each loan category is further segmented into
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued fixed and variable interest rate categories. The fair value of loans is estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities.
Deposit Liabilities -- The fair value of demand deposits and savings accounts is the amount payable on demand at December 31, 1999, 1998 and 1997. The fair value of fixed-maturity certificates of deposit is estimated by discounting the future cash flows using the rates currently offered for deposits of similar remaining maturities.
Short-Term Debt -- The carrying amounts of federal funds purchased, repurchase agreements and other short-term debt are reasonable estimates of their fair values.
Long-Term Debt -- Rates currently available to the Company for debt with similar terms and remaining maturities are used to estimate fair value of existing debt.
Other Off-Balance Sheet Instruments -- The fair value of a loan commitment and a letter of credit is determined based on the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreement and the present creditworthiness of the counterparties. Neither the fees earned during the year or these instruments or their fair value at year- end are significant to the Company's consolidated financial position.
The estimated fair values of the Company's financial instruments at December 31, 1999, 1998, and 1997 are as follows (in millions):
The fair value estimates presented herein are based on pertinent information available to management as of December 31, 1999, 1998 and 1997. Although management is not aware of any factors that would significantly affect the estimated fair value amounts, such amounts have not been comprehensively revalued for purposes of these financial statements since those dates and, therefore, current estimates of fair value may differ significantly from the amounts presented herein.
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UMB FINANCIAL CORPORATION
NOTES TO FINANCIAL STATEMENTS -- Continued
PARENT COMPANY FINANCIAL INFORMATION
A-46
INDEPENDENT AUDITORS' REPORT
To the Shareholders and the Board of Directors of UMB Financial Corporation:
We have audited the accompanying consolidated balance sheets of UMB Financial Corporation and subsidiaries as of December 31, 1999, 1998 and 1997, and the related consolidated statements of income, shareholders' equity and cash flows for the years then ended. 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 UMB Financial Corporation and subsidiaries as of December 31, 1999, 1998 and 1997, and the results of their operations and their cash flows for the years then ended, in conformity with generally accepted accounting principles.
Deloitte & Touche LLP
Kansas City, Missouri January 20, 2000
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UMB FINANCIAL CORPORATION
FIVE-YEAR AVERAGE BALANCE SHEETS/YIELDS AND RATES
- -------- (1) Interest income and yields are stated on a fully tax-equivalent (FTE) basis, using a rate of 35%. The tax-equivalent interest income and yields give effect to the disallowance of interest expense, for federal income tax purposes, related to certain tax-free assets. Rates earned/paid may not compute to the rates shown due to presentation in millions. (2) Loan fees and income from loans on nonaccrual status are included in loan income.
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UMB FINANCIAL CORPORATION
SELECTED FINANCIAL DATA OF AFFILIATE BANKS
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