Exhibit 13 FINANCIAL REVIEW CONTENTS FINANCIAL REVIEW 35 Selected Consolidated Financial Data 36 Overview 37 Forward-Looking Statements 38 Review of Businesses 39 PNC Bank - Regional Banking 40 PNC Bank - Corporate Banking 41 PNC Secured Finance 42 PNC Mortgage 43 PNC Advisors 44 BlackRock 45 PFPC 46 Consolidated Income Statement Review 48 Consolidated Balance Sheet Review 50 Risk Management 53 Financial Derivatives 56 1998 versus 1997 57 Year 2000 Exhibit 13 FINANCIAL REVIEW SELECTED CONSOLIDATED FINANCIAL DATA
YEAR ENDED DECEMBER 31 DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA 1999 1998 1997 1996 1995 - --------------------------------------------------------------------------------------------------------------------------- SUMMARY OF OPERATIONS Interest income ........................................ $4,921 $5,313 $5,051 $4,938 $5,149 Interest expense ....................................... 2,488 2,740 2,556 2,494 3,007 - --------------------------------------------------------------------------------------------------------------------------- Net interest income ................................... 2,433 2,573 2,495 2,444 2,142 Provision for credit losses ............................ 163 225 70 6 Noninterest income before net securities gains (losses). 2,723 2,286 1,735 1,353 1,198 Net securities gains (losses) .......................... 22 16 40 22 (280) Noninterest expense .................................... 3,124 2,940 2,582 2,292 2,427 - --------------------------------------------------------------------------------------------------------------------------- Income before income taxes ............................. 1,891 1,710 1,618 1,527 627 Income taxes ........................................... 627 595 566 535 219 - --------------------------------------------------------------------------------------------------------------------------- Net income ............................................. $1,264 $1,115 $1,052 $992 $408 - --------------------------------------------------------------------------------------------------------------------------- PER COMMON SHARE DATA Earnings Basic ................................................ $4.19 $3.64 $3.33 $2.91 $1.20 Diluted .............................................. 4.15 3.60 3.28 2.88 1.19 Cash* ................................................ 4.42 3.82 3.45 3.04 1.31 Book value ............................................. 19.23 18.86 16.87 17.13 16.87 Cash dividends declared ................................ 1.68 1.58 1.50 1.42 1.40 *EXCLUDES AMORTIZATION OF GOODWILL. - --------------------------------------------------------------------------------------------------------------------------- BALANCE SHEET HIGHLIGHTS (At December 31) Total assets ........................................... $75,413 $77,207 $75,120 $73,260 $73,404 Earning assets ......................................... 64,671 69,027 66,688 65,439 66,772 Loans, net of unearned income .......................... 50,046 57,650 54,245 51,798 48,653 Securities available for sale .......................... 7,611 7,074 8,522 11,917 15,839 Loans held for sale .................................... 5,798 3,226 2,324 941 659 Deposits ............................................... 46,668 47,496 47,649 45,676 46,899 Borrowed funds.......................................... 19,347 20,946 19,622 19,604 19,063 Shareholders' equity ................................... 5,946 6,043 5,384 5,869 5,768 Common shareholders' equity ............................ 5,633 5,729 5,069 5,553 5,751 - --------------------------------------------------------------------------------------------------------------------------- SELECTED RATIOS Return on Average common shareholders' equity .................. 22.41% 20.81% 20.01% 17.18% 7.05% Average assets ....................................... 1.69 1.49 1.49 1.40 .54 Net interest margin .................................... 3.68 3.85 3.94 3.83 3.15 Noninterest income to total revenue .................... 52.79 46.97 41.29 35.68 29.55 Efficiency** ........................................... 54.82 54.76 56.07 56.95 75.24 Leverage ............................................... 6.61 7.28 7.30 7.70 6.37 Common shareholders' equity to assets .................. 7.47 7.42 6.75 7.58 7.83 Dividend payout......................................... 40.22 43.43 45.39 48.89 94.76 ===========================================================================================================================
** EXCLUDES AMORTIZATION, DISTRIBUTIONS ON CAPITAL SECURITIES AND MORTGAGE BANKING HEDGING ACTIVITIES. 34|35 FINANCIAL REVIEW This Financial Review should be read in conjunction with The PNC Financial Services Group, Inc. and subsidiaries' ("Corporation" or "PNC") Consolidated Financial Statements and Statistical Information included herein. OVERVIEW THE PNC FINANCIAL SERVICES GROUP, INC. The Corporation is one of the largest diversified financial services companies in the United States operating regional banking, wholesale banking and asset management businesses that provide products and services nationally and in PNC's primary geographic markets in Pennsylvania, New Jersey, Delaware, Ohio and Kentucky. Financial services organizations today are challenged to demonstrate that they can generate sustainable and consistent earnings growth in an increasingly competitive and volatile environment. PNC has responded to these challenges by transitioning to a diversified national financial services organization driven by businesses that are increasingly national in scope and less balance sheet dependent. Increasing contributions from fee-based businesses including asset management, processing and private banking have enhanced PNC's revenue and earnings mix. In addition, the Corporation seeks to enhance consolidated value by leveraging technology, information, branding, marketing and financial resources across all businesses. As a result of these strategies, the financial characteristics of PNC have changed significantly over the last few years. Since 1996, PNC has become significantly less dependent on balance sheet leverage and related net interest income. Revenue growth over the past three years has been generated through core noninterest income that has grown more than 20% compounded annually while the balance sheet and net interest income were essentially flat. Core diluted earnings per share grew 11% compounded annually over the same time period. Core performance ratios also improved as noninterest income to total revenue grew from 36% in 1996 to 51% in 1999 and returns on equity and assets increased from 17.18% and 1.40% in 1996 to 21.24% and 1.60%, respectively, in 1999. As part of this ongoing transition, during 1999 the Corporation implemented a number of initiatives designed to improve the risk and return characteristics of its lending businesses. These include the sale of the credit card business, exiting certain non-strategic wholesale lending businesses and continued downsizing of the indirect automobile lending portfolio. At the same time, PNC has taken aggressive steps to build on asset management and processing businesses including the completion of the acquisition of First Data Investor Services Group ("ISG"). The combination of ISG with PFPC, the Corporation's investment servicing subsidiary, creates one of the nation's leading full-service processors for pooled investment products. The acquisition was one cent dilutive to the Corporation's earnings per share in 1999 and is anticipated to be four cents dilutive in 2000. On a cash basis, ISG is expected to be substantially accretive to earnings per share in 2000. Additionally, in October 1999, BlackRock, Inc., PNC's investment management subsidiary, completed an initial public offering ("IPO") for approximately 14% of the equity ownership of BlackRock. PNC continues to own approximately 70% of BlackRock's stock after the IPO. SUMMARY FINANCIAL RESULTS Full year 1999 earnings were $1.264 billion or $4.15 per diluted share and included one-time gains that were partially offset by the cost of certain strategic initiatives. Cash earnings per diluted share, which excludes goodwill amortization, were $4.42 for 1999, a 16% increase compared with 1998. Core earnings were $1.199 billion or $3.93 per diluted share, a 9% increase compared with 1998. On a core basis, return on average common shareholders' equity was 21.24% and return on average assets was 1.60% compared with 20.81% and 1.49%, respectively, in the prior year. Core cash earnings per share were $4.21 for 1999, a 10% increase compared with 1998. The following table summarizes one-time gains and the cost of certain strategic initiatives and reconciles reported to core earnings for full year 1999:
YEAR ENDED DECEMBER 31, 1999 IN MILLIONS, EXCEPT PER SHARE DATA PRETAX AFTER-TAX PER SHARE - -------------------------------------------------------------------------- Reported earnings .................... $1,891 $1,264 $4.15 Gain on sale of credit card business ........................ (193) (125) (.41) Gain on sale of equity interest in Electronic Payment Services, Inc. .......... (97) (63) (.21) BlackRock IPO gain ................ (64) (59) (.20) Branch gains ...................... (27) (17) (.06) Gain on sale of Concord EFS, Inc. stock, net of PNC Bank Foundation contribution ......... (11) (16) (.05) Wholesale lending repositioning ................... 195 126 .42 Costs related to efficiency initiatives ..................... 98 64 .21 Write-down of an equity investment ...................... 28 18 .06 Mall ATM buyout ................... 12 7 .02 - -------------------------------------------------------------------------- Core earnings ........................ $1,832 $1,199 $3.93 ==========================================================================
Total revenue for 1999 on a reported basis was $5.178 billion, a $303 million increase compared with the prior year. Noninterest income of $2.745 billion for 1999 increased $443 million or 19% compared with 1998 primarily due to strong growth in fee-based services. Noninterest income grew to 53% of total revenue for 1999 compared with 47% in 1998. The ISG acquisition is expected to further increase noninterest income to 60% of total revenue by the end of 2000. The increase in noninterest income more than offset the decline in net interest income that resulted from the sale of the credit card business. Excluding the impact of credit cards, net interest income for 1999 increased $111 million or 5% and the net interest margin widened four basis points compared with the prior year. The provision for credit losses was $163 million for 1999 and fully covered net charge-offs of $161 million for the year. Net charge-offs for 1999 were .30% of average loans compared with .80% in 1998. The year-to-year decrease was primarily due to the sale of the credit card business in the first quarter of 1999. Excluding credit cards, net charge-offs were .20% of average loans for 1999 compared with .32% in 1998. Noninterest expense was $3.124 billion for 1999 compared with $2.940 billion in 1998. The increase supported revenue growth in fee-based businesses. The efficiency ratio of 54.8% for 1999 remained consistent with 1998 reflecting a continued focus on improving returns in traditional businesses. Overall asset quality characteristics remained stable during 1999. The ratio of nonperforming assets to total loans, loans held for sale and foreclosed assets was .61% at December 31, 1999 and .55% at December 31, 1998. Nonperforming assets were $338 million at December 31, 1999 compared with $332 million at December 31, 1998. The allowance for credit losses was $674 million and represented 225% of nonaccrual loans and 1.35% of period-end loans at December 31, 1999. The comparable ratios were 255% and 1.31%, respectively, at December 31, 1998. FORWARD-LOOKING STATEMENTS This report includes forward-looking statements within the meaning of the Private Securities Litigation Reform Act with respect to financial performance and other financial and business matters. Forward-looking statements are typically identified by words or phrases such as "believe," "expect," "anticipate," "intend," "estimate," "position" and variations of such words and similar expressions, or future or conditional verbs such as "will," "would," "should," "could," "may" or similar expressions. The Corporation cautions that these forward-looking statements are subject to numerous assumptions, risks and uncertainties, all of which change over time, and the Corporation assumes no duty to update forward-looking statements. Actual results could differ materially from those anticipated in these forward-looking statements. In addition to factors previously disclosed by the Corporation and those identified elsewhere herein, the following factors, among others, could cause actual results to differ materially from forward-looking statements: increased credit risk; the introduction, withdrawal, success and timing of business initiatives and strategies; changes in competitive conditions; the inability to sustain revenue and earnings growth; the inability to realize cost savings or revenues and implement integration plans associated with acquisitions and divestitures; changes in economic conditions, interest rates and financial and capital markets; inflation; changes in investment performance; customer disintermediation; customer borrowing, repayment, investment and deposit practices; customer acceptance of PNC products and services; the inability of the Corporation or others to remediate year 2000 concerns; and the impact, extent and timing of technological changes, capital management activities, actions of the Federal Reserve Board and legislative and regulatory actions and reforms. 36|37 FINANCIAL REVIEW REVIEW OF BUSINESSES PNC operates seven major businesses engaged in regional banking, wholesale banking and asset management activities: PNC Bank - Regional Banking, PNC Bank - Corporate Banking, PNC Secured Finance, PNC Mortgage, PNC Advisors, BlackRock and PFPC. Business results are based on PNC's management accounting practices and the Corporation's current management structure. There is no comprehensive, authoritative body of guidance for management accounting equivalent to generally accepted accounting principles; therefore, PNC's results are not necessarily comparable with similar information for any other financial services institution. Financial results are presented as if each business operated on a stand-alone basis. The management accounting process uses various balance sheet and income statement assignments and transfers to measure performance of the businesses. Methodologies change from time to time as management accounting practices are enhanced and businesses change. Securities or borrowings and related net interest income are assigned based on the net asset or liability position of each business. Capital is assigned based on management's assessment of inherent risks and equity levels at independent companies providing similar products and services. Support areas not directly aligned with the businesses are allocated primarily based on the utilization of services. Total business financial results differ from consolidated financial results primarily due to differences between management accounting practices and generally accepted accounting principles, divested and exited businesses, equity management activities, minority interests, eliminations and unassigned items, the impact of which is reflected in Other. Wholesale lending businesses designated for exit in PNC Bank - Corporate Banking and PNC Secured Finance are included in Other. Total outstandings and exposure designated for exit during 1999 in wholesale lending totaled $3.7 billion and $10.5 billion, respectively. RESULTS OF BUSINESSES
Return on Earnings Revenue * Assigned Capital Average Assets - -------------------------------------------------------------------------------------------------------------------------------- YEAR ENDED DECEMBER 31 - DOLLARS IN MILLIONS 1999 1998 1999 1998 1999 1998 1999 1998 - -------------------------------------------------------------------------------------------------------------------------------- PNC Bank - Regional Banking..................... $641 $582 $2,307 $2,317 22% 20% $39,513 $38,848 Wholesale PNC Bank - Corporate Banking................. 127 56 408 351 22 11 8,417 7,564 PNC Secured Finance.......................... 114 60 281 178 24 16 6,701 5,477 PNC Mortgage................................. 62 35 421 339 14 10 6,906 5,350 - ------------------------------------------------------------------------------------ ---------------- Total wholesale............................ 303 151 1,110 868 20 12 22,024 18,391 Asset Management................................ PNC Advisors................................. 147 119 738 489 27 30 3,353 2,731 BlackRock.................................... 59 36 381 339 36 41 448 441 PFPC......................................... 45 38 257 191 40 41 308 229 - ------------------------------------------------------------------------------------ ---------------- Total asset management..................... 251 193 1,376 1,019 30 34 4,109 3,401 - ------------------------------------------------------------------------------------ ---------------- Total businesses............................. 1,195 926 4,793 4,204 23 19 65,646 60,640 Other........................................... 4 189 208 697 9,174 13,986 - ------------------------------------------------------------------------------------ ---------------- Total consolidated-core **................... 1,199 1,115 5,001 4,901 21 21 74,820 74,626 Gain on sale of credit card business............ 125 193 Gain on sale of equity interest in Electronic Payment Services, Inc............. 63 97 BlackRock IPO gain.............................. 59 64 Branch gains.................................... 17 27 Gain on sale of Concord stock, net of PNC Bank Foundation contribution............. 16 41 Wholesale lending repositioning................. (126) (195) Costs related to efficiency initiatives......... (64) Write-down of an equity investment.............. (18) (28) Mall ATM buyout................................. (7) - ------------------------------------------------------------------------------------ ---------------- Total consolidated-reported.................. $1,264 $1,115 $5,200 $4,901 22 21 $74,820 $74,626 ================================================================================================================================
* TAXABLE-EQUIVALENT BASIS ** 1998 CORE RESULTS INCLUDE $162 MILLION OF NET GAINS FROM THE SALE OF THE CORPORATE TRUST AND ESCROW BUSINESS, BRANCH SALES AND THE SALE OF A CREDIT CARD PORTFOLIO. THESE ITEMS WERE PRIMARILY OFFSET BY A HIGHER-THAN-ANTICIPATED PROVISION FOR CREDIT LOSSES RELATED TO A SINGLE CREDIT IN THE HEALTH CARE INDUSTRY, ONE-TIME COSTS RELATED TO CONSUMER BANKING INITIATIVES, VALUATION ADJUSTMENTS ON CERTAIN MARKET-SENSITIVE ASSET POSITIONS AND MERGER AND ACQUISITION INTEGRATION COSTS. PNC BANK - REGIONAL BANKING
YEAR ENDED DECEMBER 31 - DOLLARS IN MILLIONS 1999 1998 - -------------------------------------------------------------- INCOME STATEMENT Net interest income ........................ $1,728 $1,706 Noninterest income ......................... 579 611 - -------------------------------------------------------------- Total revenue ........................... 2,307 2,317 Provision for credit losses ................ 59 65 Noninterest expense ........................ 1,215 1,291 - -------------------------------------------------------------- Pretax earnings ......................... 1,033 961 Income taxes ............................... 392 379 - -------------------------------------------------------------- Earnings ................................ $641 $582 - -------------------------------------------------------------- AVERAGE BALANCE SHEET Loans Consumer ................................ $8,753 $9,737 Commercial .............................. 9,452 8,998 Residential mortgage .................... 9,876 9,717 Other ................................... 3,061 2,852 - -------------------------------------------------------------- Total loans ........................... 31,142 31,304 Assigned assets and other assets ........... 8,371 7,544 - -------------------------------------------------------------- Total assets ............................ $39,513 $38,848 - -------------------------------------------------------------- Deposits Noninterest-bearing demand .............. $6,235 $6,546 Interest-bearing demand ................. 4,961 4,241 Money market ............................ 9,311 7,421 Savings ................................. 2,337 2,589 Certificates ............................ 13,338 14,778 - -------------------------------------------------------------- Total net deposits .................... 36,182 35,575 Other liabilities .......................... 363 354 Assigned capital ........................... 2,968 2,919 - -------------------------------------------------------------- Total funds ............................. $39,513 $38,848 - -------------------------------------------------------------- PERFORMANCE RATIOS Return on assigned capital ................. 22% 20% Noninterest income to total revenue ........ 25 26 Efficiency ................................. 51 54 ==============================================================
PNC Bank - Regional Banking ("Regional Banking") provides credit, deposit, branch-based brokerage and electronic banking products and services to retail customers as well as credit, leasing, treasury management and capital markets products and services to mid-sized and small businesses primarily within PNC's geographic footprint. Regional Banking is focused on driving sustainable revenue growth while aggressively managing the revenue/expense relationship. Regional Banking utilizes knowledge-based marketing capabilities to analyze customer demographic information, transaction histories and delivery preferences to develop customized banking packages focused on improving customer satisfaction and profitability. Regional Banking has also invested heavily in building a sales culture and infrastructure while improving efficiency. Capital investments have been redistributed strategically with a greater proportion going towards the development of alternative delivery capabilities consistent with customer preferences. Regional Banking contributed 54% of total business earnings for 1999 compared with 63% for 1998. Earnings increased $59 million or 10% to $641 million for 1999 and the return on assigned capital and efficiency ratios improved. Excluding the impact of $86 million of branch gains and $40 million of costs related to consumer delivery initiatives in 1998, earnings increased 16%. Revenue increased $76 million to $2.307 billion for 1999 compared with the prior year, excluding the impact of the branch gains in 1998. The increase was primarily due to growth in deposits and fee-based services. Consumer loans declined primarily due to the continued downsizing of the indirect automobile lending portfolio and the decision to sell student loans in repayment. Partially offsetting the decrease in consumer loans was a 5% increase in commercial loans due to strong growth in middle market lending. More valuable transaction deposits increased $2.0 billion while higher rate certificates of deposit decreased in the year-to-year comparison primarily reflecting the impact of strategic marketing initiatives. Excluding the impact of costs related to consumer delivery initiatives in 1998, noninterest expense decreased 3% for 1999 compared with the prior year reflecting the continued focus on operating efficiency. Regional Banking engages in credit and deposit activities that are affected by, among other things, economic and financial market conditions. Accordingly, changes in the economy or financial markets could impact asset quality and results of operations. 38|39 FINANCIAL REVIEW - ---------------- PNC BANK - CORPORATE BANKING
YEAR ENDED DECEMBER 31 - DOLLARS IN MILLIONS 1999 1998 - --------------------------------------------------------------- INCOME STATEMENT Credit-related revenue ...................... $160 $143 Noncredit revenue ........................... 248 208 - --------------------------------------------------------------- Total revenue ............................ 408 351 Provision for credit losses ................. 9 84 Noninterest expense ......................... 203 183 - --------------------------------------------------------------- Pretax earnings .......................... 196 84 Income taxes ................................ 69 28 - --------------------------------------------------------------- Earnings ................................. $127 $56 - --------------------------------------------------------------- AVERAGE BALANCE SHEET Loans Specialized industries ................... $3,720 $3,391 Large corporate .......................... 2,532 2,340 Other .................................... 451 366 - --------------------------------------------------------------- Total loans ............................ 6,703 6,097 Other assets ................................ 1,714 1,467 - --------------------------------------------------------------- Total assets ............................. $8,417 $7,564 - --------------------------------------------------------------- Net deposits ................................ $2,793 $2,509 Assigned funds and other liabilities ........ 5,035 4,525 Assigned capital ............................ 589 530 - --------------------------------------------------------------- Total funds .............................. $8,417 $7,564 - --------------------------------------------------------------- PERFORMANCE RATIOS Return on assigned capital .................. 22% 11% Noncredit revenue to total revenue .......... 61 59 Efficiency .................................. 49 51 ===============================================================
PNC Bank - Corporate Banking ("Corporate Banking") provides specialized credit, capital markets and treasury management products and services to corporations, institutions and government entities primarily within PNC's geographic footprint. The strategic focus for Corporate Banking is to reduce historical reliance on balance sheet leverage and to emphasize higher-margin noncredit products and services, especially treasury management and capital markets. Corporate Banking made the decision to exit certain non-strategic wholesale lending businesses during 1999. These activities are excluded from business results in both periods. Corporate Banking contributed 11% of total business earnings for 1999 compared with 6% in the prior year. Earnings of $127 million for 1999 more than doubled in the comparison with 1998. Total revenue of $408 million for 1999 increased $57 million or 16% compared with 1998. Credit-related revenue increased 12% in the year-to-year comparison driven by higher loans in selected segments that have attractive risk/return characteristics. Noncredit revenue, which includes noninterest income and the benefit of compensating balances received in lieu of fees, was $248 million for 1999, a $40 million or 19% increase compared with the prior year primarily driven by growth in treasury management and capital markets fees. Noncredit revenue comprised 61% of total revenue in 1999 reflecting the emphasis on sales of fee-based products. The higher provision for credit losses in 1998 related to exposure to a single health care relationship. Treasury management and capital markets products offered through Corporate Banking are sold by several businesses across the Corporation and related revenue is included in the results of those businesses. Consolidated revenue from treasury management was $264 million for 1999, a 15% increase compared with 1998. Consolidated revenue from capital markets was $109 million for 1999, a 20% increase compared with the prior year. Corporate Banking engages in credit and capital markets activities that are impacted by, among other things, economic and financial market conditions. Accordingly, changes in the economy or financial markets could impact asset quality and results of operations. PNC SECURED FINANCE
YEAR ENDED DECEMBER 31 - DOLLARS IN MILLIONS 1999 1998 - ----------------------------------------------------------------- INCOME STATEMENT Net interest income ............................ $164 $122 Noninterest income Net commercial mortgage banking ............. 64 26 Corporate finance ........................... 31 18 Other ....................................... 22 12 - ----------------------------------------------------------------- Total noninterest income .................. 117 56 - ----------------------------------------------------------------- Total revenue ............................... 281 178 Provision for credit losses .................... (8) (8) Noninterest expense ............................ 147 106 - ----------------------------------------------------------------- Pretax earnings ............................. 142 80 Income taxes ................................... 28 20 - ----------------------------------------------------------------- Earnings .................................... $114 $60 - ----------------------------------------------------------------- AVERAGE BALANCE SHEET Loans Commercial - real estate related ............ $1,791 $1,124 Commercial real estate ...................... 981 1,138 Business credit ............................. 1,726 1,339 Leasing ..................................... 1,032 726 Other ....................................... 282 348 - ----------------------------------------------------------------- Total loans ............................... 5,812 4,675 Commercial mortgages held for sale ............. 135 181 Other assets ................................... 754 621 - ----------------------------------------------------------------- Total assets ................................ $6,701 $5,477 - ----------------------------------------------------------------- Deposits ....................................... $341 $142 Assigned funds and other liabilities ........... 5,891 4,952 Assigned capital ............................... 469 383 - ----------------------------------------------------------------- Total funds ................................. $6,701 $5,477 - ----------------------------------------------------------------- PERFORMANCE RATIOS Return on assigned capital ..................... 24% 16% Noninterest income to total revenue ............ 42 31 Efficiency ..................................... 42 48 =================================================================
PNC Secured Finance, serving corporate clients nationwide, is engaged in commercial real estate finance, business credit, and equipment lease financing. Over the past several years, through customer segmentation and strategic acquisitions, commercial real estate finance has redeployed capital historically assigned to lending activities in PNC's primary geographic markets to fee-based businesses focused on loan servicing and securitization on a national basis. In 1998, PNC Secured Finance acquired Midland Loan Services, one of the nation's largest servicers of commercial mortgage-backed securities, and Columbia Housing Partners, one of the nation's largest originators of investments in affordable housing. At the end of 1999, the decision was made to exit the cyclical mortgage warehouse lending business and certain non-strategic commercial real estate portfolios. These activities are excluded from business results in both periods. PNC Secured Finance also continued the strategy to expand business credit and equipment leasing. Consistent with this strategy, PNC Secured Finance increased its business credit marketing presence to fifteen locations, while maintaining centralized collateral monitoring and loan approval. PNC Secured Finance contributed 9% of total business earnings for 1999 compared with 6% in the prior year. Net interest income of $164 million for 1999 increased $42 million or 34% compared with the prior year. The increase was driven by loan growth within business credit, equipment lease financing and commercial real estate related lending. Noninterest income of $117 million for 1999 increased to 42% of total revenue. The increase was primarily due to higher commercial mortgage securitization and servicing revenue and fee income from affordable housing equity placements, as well as the comparative impact of valuation adjustments recorded in 1998. Noninterest expense increased in the year-to-year comparison to support revenue growth. COMMERCIAL MORTGAGE SERVICING PORTFOLIO
IN BILLIONS 1999 1998 - --------------------------------------------------------- January 1 .............................. $39 Acquisitions/additions ................. 17 $39 Repayments/transfers ................... (11) - --------------------------------------------------------- December 31 ......................... $45 $39 - ---------------------------------------------------------
At December 31, 1999 the commercial mortgage servicing portfolio was $45 billion, a 15% increase compared with December 31, 1998. PNC Secured Finance engages in credit and capital markets activities that are impacted by, among other things, economic and financial market conditions. Accordingly, changes in the economy or financial markets could impact asset quality and results of operations. 40|41 FINANCIAL REVIEW - ---------------- PNC MORTGAGE
YEAR ENDED DECEMBER 31 - DOLLARS IN MILLIONS 1999 1998 - --------------------------------------------------------------------- INCOME STATEMENT Net mortgage banking revenue Residential mortgage servicing ................. $350 $212 Origination and securitization ................. 172 186 MSR amortization, net of servicing hedge .............................. (190) (144) - --------------------------------------------------------------------- Net mortgage banking revenue ................. 332 254 Net interest income ............................... 89 85 - --------------------------------------------------------------------- Total revenue .................................. 421 339 Operating expense ................................. 318 280 - --------------------------------------------------------------------- Pretax earnings ................................ 103 59 Income taxes ...................................... 41 24 - --------------------------------------------------------------------- Earnings ....................................... $62 $35 - --------------------------------------------------------------------- AVERAGE BALANCE SHEET Residential mortgages held for sale ............... $2,594 $2,935 Securities available for sale ..................... 2,470 1,245 Mortgage servicing rights and other assets ................................... 1,842 1,170 - --------------------------------------------------------------------- Total assets ................................... $6,906 $5,350 - --------------------------------------------------------------------- Escrow deposits ................................... $1,151 $1,002 Assigned funds and other liabilities .............. 5,306 4,000 Assigned capital .................................. 449 348 - --------------------------------------------------------------------- Total funds .................................... $6,906 $5,350 - --------------------------------------------------------------------- PERFORMANCE RATIOS Return on assigned capital ........................ 14% 10% Net mortgage banking revenue to total revenue .................................. 79 75 Efficiency ........................................ 52 58 =====================================================================
PNC Mortgage originates, purchases and services residential mortgages and related products. PNC Mortgage also acquires and securitizes residential mortgages as private-label, mortgage-backed securities and performs the master servicing of those securities for investors. PNC Mortgage's strategic focus is on expanding sales of a broader array of financial products while leveraging its technology platform and servicing capabilities to manage the revenue/expense relationship for traditional mortgage products. PNC Mortgage contributed 5% of total business earnings for 1999 compared with 4% for 1998. Earnings nearly doubled in the comparison primarily due to lower amortization, improved efficiency and the impact of a larger servicing portfolio. The efficiency ratio improved significantly as PNC Mortgage continued to leverage its technology platform and servicing capabilities. During 1999, PNC Mortgage funded $20 billion of residential mortgages, with 36% consisting of retail originations. The comparable amounts were $22 billion and 35%, respectively, in 1998. Production volume for 1999 consisted of $7 billion of originated loans and $13 billion of mortgages acquired through correspondent and contractual flow agreements. The corresponding amounts for 1998 were $8 billion and $14 billion, respectively. RESIDENTIAL MORTGAGE SERVICING PORTFOLIO
IN BILLIONS 1999 1998 - --------------------------------------------------------- January 1 ............................... $62 $41 Production volume .................... 20 22 Acquisitions ......................... 8 16 Repayments ........................... (15) (16) Sales ................................ (1) - --------------------------------------------------------- DECEMBER 31 ........... $75 $62 =========================================================
At December 31, 1999, the residential mortgage servicing portfolio totaled $75 billion. Loans included in this portfolio that were serviced for others totaled $67 billion and had a weighted-average coupon of 7.53%. Capitalized residential mortgage servicing rights ("MSR") totaled $1.6 billion at December 31, 1999, and had an estimated fair value of $1.8 billion. The master servicing portfolio grew 33% to $35 billion at December 31, 1999. Securities available for sale increased $1.2 billion in 1999 compared with the prior year and are used in managing the interest rate risk associated with the mortgage servicing portfolio. The value of MSR and related amortization are affected by changes in interest rates. If interest rates decline and the rate of prepayments increases, the underlying servicing fees and related MSR value also would decline. In a period of rising interest rates, a converse relationship would be expected. PNC Mortgage seeks to manage this risk by using financial instruments as hedges designed to move in the opposite direction of expected MSR value changes. Changes in interest rates also can affect the level of mortgage originations that generally are expected to decline as interest rates increase and increase as interest rates decline. PNC ADVISORS
- ----------------------------------------------------------------- YEAR ENDED DECEMBER 31 - DOLLARS IN MILLIONS 1999 1998 - ----------------------------------------------------------------- INCOME STATEMENT Net interest income ........................... $130 $121 Noninterest income Investment management and trust ............ 388 324 Brokerage .................................. 149 31 Other ...................................... 71 13 - ----------------------------------------------------------------- Total noninterest income ................. 608 368 - ----------------------------------------------------------------- Total revenue .............................. 738 489 Provision for credit losses ................... 7 1 Noninterest expense ........................... 494 296 - ----------------------------------------------------------------- Pretax earnings ............................ 237 192 Income taxes .................................. 90 73 - ----------------------------------------------------------------- Earnings ................................... $147 $119 - ----------------------------------------------------------------- AVERAGE BALANCE SHEET Loans Residential mortgage ....................... $959 $967 Consumer ................................... 940 936 Commercial ................................. 631 614 Other ...................................... 389 44 - ----------------------------------------------------------------- Total loans .............................. 2,919 2,561 Other assets .................................. 434 170 - ----------------------------------------------------------------- Total assets ............................... $3,353 $2,731 - ----------------------------------------------------------------- Deposits ...................................... $2,164 $2,300 Assigned funds and other liabilities .......... 641 36 Assigned capital .............................. 548 395 - ----------------------------------------------------------------- Total funds ................................ $3,353 $2,731 - ----------------------------------------------------------------- PERFORMANCE RATIOS Return on assigned capital .................... 27% 30% Noninterest income to total revenue ........... 82 75 Efficiency .................................... 66 60 =================================================================
PNC Advisors offers customized investment management, high-end brokerage, personal trust, estate planning and traditional banking services to affluent and wealthy individuals, and investment management, trust and administrative services to pensions, 401(k) plans and charitable organizations. PNC Advisors strives to be the "financial advisor of choice" in the growing affluent market, providing a full range of high-quality, customized and predominantly fee-based investment products and services. In 1998, the Corporation acquired Hilliard-Lyons, Inc. ("Hilliard Lyons"), a firm primarily focused on delivering brokerage services and investment advice to affluent clients. PNC Advisors is expanding the Hilliard Lyons brand and organization throughout PNC's geographic footprint, which includes several of the nation's wealthiest metropolitan areas. PNC Advisors contributed 12% of total business earnings for 1999 compared with 13% in the prior year. Earnings of $147 million for 1999 increased $28 million or 24% compared with 1998. Revenue increased $249 million or 51% for 1999 compared with the prior year. The increase was due to higher brokerage revenue resulting from the Hilliard Lyons acquisition and higher investment management and trust revenue primarily resulting from new business. The year-to-year increase in noninterest expense and the efficiency ratio, as well as the lower return on assigned capital, was due to the impact of Hilliard Lyons. ASSETS UNDER MANAGEMENT* DECEMBER 31 - IN BILLIONS 1999 1998 - ------------------------------------------------------------ Personal investment management and trust ............................ $60 $57 Institutional trust 11 7 - ------------------------------------------------------------ Total ................................ $71 $64 ============================================================ * ASSETS UNDER MANAGEMENT DO NOT INCLUDE BROKERAGE ASSETS ADMINISTERED. At December 31, 1999, PNC Advisors managed $71 billion of assets, an 11% increase compared with the prior year primarily due to new business. Brokerage assets administered by PNC Advisors increased $4 billion in the year-to-year comparison to $27 billion at December 31, 1999, primarily due to increased asset gathering at Hilliard Lyons. PNC Advisors' revenue is affected by, among other things, the volume of new business, the value of assets managed, investment performance and financial market conditions. Revenue may be positively affected by growth in new business, increasing values of assets managed, strong investment performance and improving financial markets. Conversely, a decline in new business, declining values of assets managed, declining investment performance and deteriorating financial markets may have an adverse effect on results of operations. 42|43 FINANCIAL REVIEW BLACKROCK YEAR ENDED DECEMBER 31 - DOLLARS IN MILLIONS 1999 1998 - ------------------------------------------------------------------------ INCOME STATEMENT Advisory and administrative fees .................. $ 362 $325 Other income ...................................... 19 14 - ------------------------------------------------------------------------ Total revenue .................................. 381 339 Operating expense ................................. 260 250 Goodwill amortization ............................. 10 10 - ------------------------------------------------------------------------ Operating income ............................... 111 79 Interest expense .................................. 8 11 - ------------------------------------------------------------------------ Pretax earnings ................................ 103 68 Income taxes ...................................... 44 32 - ------------------------------------------------------------------------ Earnings ....................................... $ 59 $ 36 - ------------------------------------------------------------------------ PERIOD-END BALANCE SHEET Goodwill .......................................... $ 194 $204 Other assets ...................................... 254 237 - ------------------------------------------------------------------------ Total assets ................................... $ 448 $441 - ------------------------------------------------------------------------ Borrowings ........................................ $ 28 $197 Other liabilities ................................. 139 138 Shareholders' equity .............................. 281 106 - ------------------------------------------------------------------------ Total funds .................................... $ 448 $441 - ------------------------------------------------------------------------ PERFORMANCE RATIOS Return on average equity .......................... 36% 41% Operating margin* ................................. 37 30 Diluted earnings per share ........................ $1.04 $.66 ======================================================================== *EXCLUDES THE IMPACT OF BAI AND AFFILIATE FUND ADMINISTRATION AND SERVICING COSTS. BlackRock manages assets for institutions and individuals through a variety of fixed income, liquidity, equity and alternative investment products, including BlackRock's flagship fund families. BlackRock completed an IPO in October 1999 representing approximately a 14% equity interest. Management anticipates that having its own public currency will assist BlackRock in attracting and retaining the highest quality professionals and support its long-term growth objectives. BlackRock contributed 5% of total business earnings for 1999 compared with 4% a year ago. Earnings of $59 million for 1999 increased 67% compared with the prior year primarily due to strong growth in advisory and administrative fees resulting from new asset management mandates that accounted for the majority of the $34 billion or 26% increase in assets under management. Total revenue for 1999 increased $110 million or 39% compared with the prior year, excluding performance fees in both years associated with BlackRock Asset Investors ("BAI"), a pooled investment fund that was liquidated in the third quarter of 1999. The growth in revenue was strong across all product categories, particularly fixed income separate accounts that increased primarily due to significant new business. The increase in operating expense in the year-to-year comparison supported revenue growth. At December 31, 1999, BlackRock managed $165 billion of assets for individual and institutional investors. ASSETS UNDER MANAGEMENT DECEMBER 31 - IN BILLIONS 1999 1998 - ---------------------------------------------------------- Separate Accounts Fixed income* ....................... $ 75 $ 53 Liquidity ........................... 21 14 Equity .............................. 3 2 - ---------------------------------------------------------- Subtotal .......................... 99 69 Mutual Funds Fixed income ........................ 13 14 Liquidity ........................... 37 36 Equity .............................. 16 12 - ---------------------------------------------------------- Subtotal .......................... 66 62 - ---------------------------------------------------------- Total assets under management .......... $165 $131 - ---------------------------------------------------------- Proprietary mutual funds BlackRock Funds ..................... $ 27 $ 24 Provident Institutional Funds ....... 26 25 - ---------------------------------------------------------- Total proprietary mutual funds .... $ 53 $ 49 ========================================================== * INCLUDES ALTERNATIVE INVESTMENT PRODUCTS. BlackRock's revenue is affected by, among other things, the volume of new business, the value of assets managed, investment performance and financial market conditions. Revenue may be positively affected by growth in new business, increasing values of assets managed, strong investment performance and improving financial markets. Conversely, a decline in new business, declining values of assets managed, declining investment performance and deteriorating financial markets may have an adverse effect on results of operations. BlackRock's common stock is listed on the New York Stock Exchange under the symbol BLK. Additional information about BlackRock is available in its filings with the Securities and Exchange Commission ("SEC") and may be obtained electronically at the SEC's home page at www.sec.gov. PFPC YEAR ENDED DECEMBER 31 - DOLLARS IN MILLIONS 1999 1998 - ------------------------------------------------------------------------- INCOME STATEMENT Revenue .......................................... $257 $191 Operating expense ................................ 185 131 - ------------------------------------------------------------------------- Pretax earnings ............................... 72 60 Income taxes ..................................... 27 22 - ------------------------------------------------------------------------- Earnings ...................................... $ 45 $ 38 - ------------------------------------------------------------------------- AVERAGE BALANCE SHEET Total assets ..................................... $308 $229 - ------------------------------------------------------------------------- Other liabilities ................................ $196 $137 Assigned capital ................................. 112 92 - ------------------------------------------------------------------------- Total funds ................................... $308 $229 - ------------------------------------------------------------------------- PERFORMANCE RATIOS Return On Assigned Capital ....................... 40% 41% Operating margin ................................. 28 31 Efficiency ....................................... 70 68 ========================================================================= PFPC, the Corporation's global fund services subsidiary, provides a wide range of processing services to the investment management community. PFPC provides customized services to clients in the United States and to the global funds marketplace through its Dublin, Ireland operation. On December 1, 1999, PFPC acquired First Data Investor Services Group ("ISG"), one of the nation's leading providers of back-office services to mutual funds and retirement plans. The transaction was valued at $1.1 billion and accounted for as a purchase. The acquisition adds key related businesses, as well as retirement plan servicing, to PFPC's expanding operations. PFPC contributed 4% of total business earnings for 1999 and 1998. Earnings increased $7 million or 18% to $45 million for 1999. Excluding the net impact of ISG, earnings increased 26% in the year-to-year comparison. Revenue increased $66 million to $257 million for 1999, of which $24 million was attributable to the one-month impact of ISG. The remaining increase was driven by new business, existing client growth and market appreciation. Operating expense increased in the year-to-year comparison due to the impact of ISG and to support revenue growth and infrastructure costs associated with business expansion. At December 31, 1999, PFPC provided accounting/ administration services for $412 billion of mutual fund and other pooled assets, a 63% increase compared with December 31, 1998, primarily due to the impact of ISG. PFPC provided custody services for $388 billion of assets at December 31, 1999, an increase of 23% compared with December 31, 1998. ASSETS SERVICED DECEMBER 31 - IN BILLIONS 1999 1998 - ------------------------------------------------- Accounting/administration ..... $412 $252 Custody ....................... 388 315 ================================================= PFPC's revenue is affected by, among other things, the number and value of customer accounts serviced and financial market conditions. Revenue may be positively affected by increasing customer accounts and account values serviced or improving financial markets. Conversely, declining customer accounts and account values serviced or deteriorating financial markets may have an adverse effect on results of operations. 44|45 FINANCIAL REVIEW CONSOLIDATED INCOME STATEMENT REVIEW NET INTEREST INCOME ANALYSIS
TAXABLE-EQUIVALENT BASIS AVERAGE BALANCES INTEREST INCOME/EXPENSE AVERAGE YIELDS/RATES -------------------------------------------------------------------------------- YEAR ENDED DECEMBER 31 -- DOLLARS IN MILLIONS 1999 1998 CHANGE 1999 1998 CHANGE 1999 1998 CHANGE - --------------------------------------------------------------------------------------------------------------------------------- Interest-earning assets Loans held for sale ...................... $3,986 $3,371 $615 $291 $233 $58 7.30% 6.91% 39bp Securities available for sale ............ 8,554 7,374 1,180 487 430 57 5.70 5.83 (13) Loans, net of unearned income Consumer ............................... 10,314 11,073 (759) 844 940 (96) 8.18 8.49 (31) Credit card ............................ 672 3,849 (3,177) 100 538 (438) 14.88 13.98 90 Residential mortgage ................... 12,451 12,496 (45) 871 905 (34) 7.00 7.24 (24) Commercial ............................. 23,084 22,773 311 1,792 1,794 (2) 7.76 7.88 (12) Commercial real estate ................. 3,362 3,279 83 265 277 (12) 7.88 8.45 (57) Other .................................. 3,096 2,223 873 222 157 65 7.17 7.06 11 - ---------------------------------------------------------------------------------------------------- Total loans, net of unearned income ..................... 52,979 55,693 (2,714) 4,094 4,611 (517) 7.73 8.28 (55) Other .................................... 1,117 1,001 116 71 65 6 6.36 6.49 (13) - ---------------------------------------------------------------------------------------------------- Total interest-earning assets/ interest income ..................... 66,636 67,439 (803) 4,943 5,339 (396) 7.42 7.92 (50) Noninterest-earning assets .................. 8,184 7,187 997 - ----------------------------------------------------------------------- Total assets ........................... $74,820 $74,626 $194 - ----------------------------------------------------------------------- Interest-bearing liabilities Deposits Demand and money market ................ $17,698 $14,820 $2,878 493 439 54 2.79 2.96 (17) Savings ................................ 2,390 2,620 (230) 39 51 (12) 1.63 1.95 (32) Other time ............................. 15,734 17,206 (1,472) 793 929 (136) 5.04 5.40 (36) Deposits in foreign offices ............ 872 935 (63) 44 52 (8) 5.05 5.56 (51) - ---------------------------------------------------------------------------------------------------- Total interest-bearing deposits ........ 36,694 35,581 1,113 1,369 1,471 (102) 3.73 4.13 (40) Borrowed funds ........................... 20,594 21,809 (1,215) 1,119 1,269 (150) 5.43 5.82 (39) - ---------------------------------------------------------------------------------------------------- Total interest-bearing liabilities/ interest expense ....................... 57,288 57,390 (102) 2,488 2,740 (252) 4.34 4.77 (43) ----------------------------------------------------- Noninterest-bearing liabilities, capital securities and shareholders' equity ..................... 17,532 17,236 296 - ----------------------------------------------------------------------- Total liabilities, capital securities and shareholders' equity ................ $74,820 $74,626 $194 - ----------------------------------------------------------------------- Interest rate spread ........................ 3.08 3.15 (7) Impact of noninterest-bearing sources .................................. .60 .70 (10) -------------------- Net interest income/margin ............. $2,455 $2,599 $(144) 3.68% 3.85% (17)bp =================================================================================================================================
NET INTEREST INCOME Changes in net interest income and margin result from the interaction between the volume and composition of earning assets, related yields and associated funding costs. Accordingly, portfolio size, composition and related yields earned and funding costs can have a significant impact on net interest income and margin. Taxable-equivalent net interest income was $2.455 billion for 1999, a $144 million decrease compared with 1998. The net interest margin was 3.68% for 1999 compared with 3.85% in the prior year. These declines were primarily due to the sale of the credit card business in the first quarter of 1999. Excluding the credit card business, net interest income for 1999 increased $111 million or 5% and the net interest margin widened four basis points compared with the prior year. The increases were primarily due to higher commercial and other loans that resulted from strong growth in middle market lending and the strategic expansion of secured and equipment lease financing. The decrease in consumer loans was due to the continued downsizing of the indirect automobile lending portfolio and the decision to sell student loans in repayment. Excluding indirect automobile loans and student loans, consumer loans increased 5% due to strong growth in home equity loans. Loans represented 80% of average earning assets for 1999 compared with 83% for the prior year. Average loans held for sale increased $615 million in the year-to-year comparison, reflecting the decision to exit certain non-strategic wholesale lending businesses during 1999. Average securities available for sale increased $1.2 billion compared with the prior year and represented 13% of average earning assets for 1999 compared with 11% a year ago. The increase was due to securities purchased as part of PNC Mortgage's risk management strategies. Funding cost is affected by the volume and composition of funding sources as well as related rates paid thereon. Average deposits comprised 61% and 60% of total sources of funds for 1999 and 1998, respectively, with the remainder primarily comprised of wholesale funding obtained at prevailing market rates. Average demand and money market deposits increased $2.9 billion or 19% to $17.7 billion for 1999 primarily reflecting the impact of strategic marketing initiatives while savings and certificates decreased in the year-to-year comparison. PROVISION FOR CREDIT LOSSES The provision for credit losses was $163 million in 1999 compared with $225 million in the prior year. Net charge-offs were $161 million or .30% of average loans for 1999 compared with $447 million or .80%, respectively, in 1998. The decreases were primarily due to the sale of the credit card business in the first quarter of 1999. Excluding credit cards, net charge-offs were .20% of average loans for 1999 compared with .32% in 1998. NONINTEREST INCOME Noninterest income was $2.745 billion for 1999 and represented 53% of total revenue compared with $2.302 billion and 47%, respectively, in 1998. The increases were primarily due to strong growth in fee-based businesses. Asset management fees of $681 million for 1999 increased $143 million or 26% compared with 1998, excluding performance fees associated with BAI, a pooled investment fund that was liquidated in the third quarter of 1999, and revenue from the corporate trust business that was sold in the fourth quarter of 1998. Assets under management increased to approximately $213 billion at December 31, 1999 compared with $174 billion at December 31, 1998. Mutual fund servicing fees of $251 million for 1999 increased $69 million or 38% compared with 1998 of which $30 million was attributable to the one-month impact of the ISG acquisition. The remaining increase was primarily due to new business and existing client growth as well as market appreciation. Service charges on deposits of $207 million remained consistent with the prior year. Brokerage income of $219 million in 1999 increased $128 million compared with 1998 primarily due to the acquisition of Hilliard Lyons. Other consumer services revenue of $236 million for 1999 decreased $63 million compared with 1998 due to the sale of the credit card business in the first quarter of 1999. The decrease in corporate services revenue primarily reflected the impact of $195 million of valuation adjustments in 1999 associated with the exit of certain non-strategic wholesale lending businesses. Excluding valuation adjustments in both years, corporate services revenue was $328 million and $275 million for 1999 and 1998, respectively, a 19% increase primarily due to growth in commercial mortgage banking, capital markets and treasury management fees. Net residential mortgage banking revenue of $272 million for 1999 increased $60 million or 28% compared with the prior year primarily due to a larger servicing portfolio. Equity management income was $100 million for 1999 and $96 million for 1998. Both years benefited from strong equity market conditions. Net securities gains for 1999 were $22 million and included a $41 million gain from the sale of Concord EFS, Inc. stock partially offset by a $28 million write-down of an equity investment in Friedman Billings Ramsey Group, Inc. Sale of subsidiary stock of $64 million in 1999 reflects the gain from the BlackRock IPO. Other noninterest income included a $193 million gain from the sale of the credit card business in the first quarter of 1999. Also included in other noninterest income was a $97 million gain from the sale of an equity interest in Electronic Payment Services Inc. ("EPS") and $27 million of gains from the sale of twelve branches in Western Pennsylvania. During 1998, other noninterest income included a $97 million gain from the sale of the corporate trust business, $86 million of branch gains and a $21 million loss from the sale of a credit card portfolio. Excluding these items, other noninterest income increased $73 million in the comparison primarily due to the Hilliard Lyons acquisition. NONINTEREST EXPENSE Noninterest expense was $3.124 billion for 1999 compared with $2.940 billion in 1998. The increase was primarily to support revenue growth in fee-based businesses. On a comparable basis, noninterest expense increased $120 million or 4% excluding $98 million of costs related to efficiency initiatives (compensation -- $22 million, net occupancy -- $35 million, equipment -- $38 million and other -- $3 million), a $30 million contribution to the PNC Bank Foundation and $12 million of expense associated with the buyout of PNC's mall ATM marketing representative from 1999. For 1998, $55 million of costs related to consumer banking initiatives and $21 million of merger and acquisition integration costs were excluded from the comparison. The efficiency ratio of 54.8% for 1999 remained consistent with 1998 reflecting a continued focus on improving returns in traditional businesses. Average full-time equivalent employees were relatively consistent in the year-to-year comparison and totaled approximately 25,600 and 25,500 in 1999 and 1998, respectively. 46|47 FINANCIAL REVIEW CONSOLIDATED BALANCE SHEET REVIEW LOANS Loans outstanding of $50.0 billion at December 31, 1999 decreased $7.7 billion from year-end 1998 primarily due to the impact of strategies designed to reduce balance sheet leverage in lower-return businesses. During 1999, the Corporation sold the credit card business, decided to sell education loans in repayment and continued the downsizing of the indirect automobile lending portfolio. In the first quarter of 1999, the decision was made to exit certain non-strategic wholesale lending businesses. Additional actions were taken in the fourth quarter of 1999 to further reduce exposure to wholesale lending businesses and exit the mortgage warehouse lending business. Total outstandings and exposure designated for exit during 1999 totaled $3.7 billion and $10.5 billion, respectively. At December 31, 1999, the remaining outstandings and exposure associated with this initiative totaled $2.9 billion and $7.7 billion, respectively. DETAILS OF LOANS DECEMBER 31 - IN MILLIONS 1999 1998 - ------------------------------------------------------------- Consumer Home equity ...................... $ 6,068 $ 5,731 Automobile ....................... 1,691 2,444 Education ........................ 85 1,196 Other ............................ 1,513 1,609 - ------------------------------------------------------------- Total consumer ................. 9,357 10,980 Credit card ......................... 2,958 Residential mortgage ................ 12,869 12,265 Commercial Manufacturing .................... 5,355 5,336 Retail/wholesale ................. 4,301 4,452 Service providers ................ 3,208 3,263 Real estate related .............. 2,862 3,093 Communications ................... 1,370 1,529 Health care ...................... 772 1,136 Financial services ............... 1,300 2,928 Other ............................ 2,300 3,445 - ------------------------------------------------------------- Total commercial ............... 21,468 25,182 Commercial real estate Mortgage ......................... 761 1,398 Real estate project .............. 1,969 2,051 - ------------------------------------------------------------- Total commercial real estate 2,730 3,449 Lease financing ..................... 3,663 2,978 Other ............................... 683 392 Unearned income ..................... (724) (554) - ------------------------------------------------------------- Total, net of unearned income .... $ 50,046 $57,650 ============================================================= Loan portfolio composition continued to be geographically diversified among numerous industries and types of businesses. SECURITIES AVAILABLE FOR SALE The securities available for sale portfolio increased $537 million from December 31, 1998 to $7.6 billion at December 31, 1999. Total securities used in mortgage banking risk management were $1.7 billion at December 31, 1999. Portfolio securities represented 8% of total assets at December 31, 1999. The expected weighted-average life of the portfolio securities increased to 4 years and 7 months at December 31, 1999 compared with 2 years and 8 months at year-end 1998. DETAILS OF SECURITIES AVAILABLE FOR SALE AMORTIZED FAIR DECEMBER 31 - IN MILLIONS COST VALUE - --------------------------------------------------------------------------- 1999 PORTFOLIO SECURITIES Debt securities U.S. Treasury and government agencies .......... $ 411 $ 400 Mortgage-backed ................................ 3,918 3,769 Asset-backed ................................... 1,051 1,027 State and municipal ............................ 134 131 Other debt ..................................... 40 39 Corporate stocks and other ........................ 590 594 - --------------------------------------------------------------------------- Total .......................................... $6,144 $5,960 =========================================================================== MORTGAGE BANKING RISK MANAGEMENT Debt securities U.S. Treasury and government agencies .......... $1,791 $1,587 Mortgage-backed ................................ 68 64 - --------------------------------------------------------------------------- TOTAL ............................................. $1,859 $1,651 - --------------------------------------------------------------------------- Total securities available for sale .......... $8,003 $7,611 =========================================================================== 1998 PORTFOLIO SECURITIES Debt securities U.S. Treasury and government agencies .......... $ 152 $ 152 Mortgage-backed ................................ 2,942 2,936 Asset-backed ................................... 709 708 State and municipal ............................ 122 128 Other debt ..................................... 33 31 Corporate stocks and other ........................ 542 517 - --------------------------------------------------------------------------- Total .......................................... $4,500 $4,472 =========================================================================== MORTGAGE BANKING RISK MANAGEMENT Debt securities U.S. Treasury and government agencies .......... $2,629 $2,602 - --------------------------------------------------------------------------- Total .......................................... $2,629 $2,602 - --------------------------------------------------------------------------- Total securities available for sale .......... $7,129 $7,074 =========================================================================== FUNDING SOURCES Total funding sources were $66.0 billion at December 31, 1999, a decrease of $2.4 billion compared with December 31, 1998, primarily resulting from reduced wholesale funding related to the credit card business that was sold in the first quarter of 1999. While total demand, savings and money market deposits decreased approximately $700 million in the year-to-year comparison, money market deposits individually increased more than $600 million reflecting strategic marketing initiatives in regional banking. Time deposits decreased $3.0 billion primarily due to a decrease in higher rate certificates of deposit. During 1999, the Corporation issued $250 million of 6.13% subordinated notes. Additionally, the Corporation issued $300 million of 6.95% notes, $300 million of 7.00% notes and $400 million of 7.50% subordinated notes to fund the ISG acquisition. DETAILS OF FUNDING SOURCES DECEMBER 31 - IN MILLIONS 1999 1998 - ------------------------------------------------------------------------- Deposits Demand, savings and money market ...... $28,689 $29,359 Time .................................. 14,786 17,774 Foreign ............................... 3,193 363 - ------------------------------------------------------------------------- Total deposits ...................... 46,668 47,496 Borrowed funds Federal funds purchased ............... 1,281 390 Repurchase agreements ................. 1,122 1,669 Bank notes and senior debt ............ 6,975 10,384 Other borrowed funds .................. 7,642 6,722 Subordinated debt ..................... 2,327 1,781 - ------------------------------------------------------------------------- Total borrowed funds ................ 19,347 20,946 - ------------------------------------------------------------------------- Total ............................. $66,015 $68,442 ========================================================================= CAPITAL The access to and cost of funding new business initiatives including acquisitions, ability to pay dividends, deposit insurance costs, and the level and nature of regulatory oversight depend, in large part, on a financial institution's capital strength. At December 31, 1999, the Corporation and each bank subsidiary were considered well capitalized based on regulatory capital ratio requirements. RISK-BASED CAPITAL DECEMBER 31 - DOLLARS IN MILLIONS 1999 1998 - ------------------------------------------------------------------------- Capital components Shareholders' equity Common .............................. $5,633 $5,729 Preferred ........................... 313 314 Trust preferred capital securities .... 848 848 Goodwill and other .................... (2,318) (1,381) Net unrealized securities losses ...... 255 36 - ------------------------------------------------------------------------- Tier I risk-based capital ........... 4,731 5,546 Subordinated debt ..................... 2,040 1,641 Eligible allowance for credit losses .. 667 753 - ------------------------------------------------------------------------- Total risk-based capital ............ $7,438 $7,940 ========================================================================= Assets Risk-weighted assets and off-balance-sheet instruments ....... $67,118 $71,146 Average tangible assets ............... 71,617 76,135 ========================================================================= Capital ratios Tier I risk-based ..................... 7.05% 7.80% Total risk-based ...................... 11.08 11.16 Leverage .............................. 6.61 7.28 ========================================================================= The capital position is managed through balance sheet size and composition, issuance of debt and equity instruments, treasury stock activities, dividend policies and retention of earnings. During 1999, PNC repurchased 13.5 million shares of common stock. On February 17, 2000, the Board of Directors authorized the Corporation to purchase up to 10 million shares of common stock through February 28, 2001. This new program replaces the prior program that was rescinded. 48|49 FINANCIAL REVIEW RISK MANAGEMENT In the normal course of business, the Corporation assumes various types of risk, the most significant of which are credit, liquidity, interest rate and market risk. To manage these risks, PNC has risk management processes designed to provide for risk identification, measurement, monitoring and control. CREDIT RISK Credit risk represents the possibility that a borrower or counterparty may not perform in accordance with contractual terms. Credit risk is inherent in the financial services business and results from extending credit to customers, purchasing securities and entering into off-balance-sheet financial derivative transactions. The Corporation seeks to manage credit risk through, among others, diversification, limiting exposure to any single industry or customer, requiring collateral or selling participations to third parties and purchasing credit-related derivatives. NONPERFORMING ASSETS DECEMBER 31 - DOLLARS IN MILLIONS 1999 1998 - ------------------------------------------------------------------- Nonaccrual loans Commercial ............................... $220 $188 Residential mortgage ..................... 56 51 Commercial real estate Real estate project .................... 13 28 Mortgage ............................... 8 22 Consumer ................................. 2 6 - ------------------------------------------------------------------- Total nonaccrual loans ................. 299 295 Foreclosed and other assets Residential mortgage ..................... 12 17 Commercial real estate ................... 5 15 Other .................................... 22 5 - ------------------------------------------------------------------- Total foreclosed and other assets ...... 39 37 - ------------------------------------------------------------------- Total nonperforming assets ............. $338 $332 =================================================================== Nonaccrual loans to total loans ............. .60% .51% Nonperforming assets to total loans, loans held for sale and foreclosed assets ........................ .61 .55 Nonperforming assets to total assets ........ .45 .43 =================================================================== The above table excludes $13 million of equity management assets at December 31, 1999 carried at fair value. The amount of nonperforming loans that were current as to principal and interest was $42 million at December 31, 1999 and $28 million at December 31, 1998. There were no troubled debt restructured loans outstanding as of either period end. CHANGE IN NONPERFORMING ASSETS IN MILLIONS 1999 1998 - --------------------------------------------------- January 1 .................... $332 $333 Transferred from accrual ..... 418 377 Returned to performing ....... (11) (12) Principal reductions ......... (268) (175) Sales ........................ (49) (58) Charge-offs and other ........ (84) (133) - --------------------------------------------------- December 31 ............... $338 $332 =================================================== ACCRUING LOANS PAST DUE 90 DAYS OR MORE AMOUNT PERCENT OF LOANS DECEMBER 31 ------------- ---------------- DOLLARS IN MILLIONS 1999 1998 1999 1998 - ------------------------------------------------------------------- CONSUMER Education ............... $23 1.92% Other ................... $25 38 .27% .39 - -------------------------------------------- Total consumer 25 61 .27 .56 Credit card ................ 63 2.13 Residential mortgage ....... 34 53 .26 .43 Commercial ................. 30 56 .14 .22 Commercial real estate ..... 5 32 .18 .93 Other ...................... 2 1 .05 .04 - -------------------------------------------- Total ................... $96 $266 .19 .46 =================================================================== Education loans were excluded from the above table in 1999 due to the decision to sell student loans in repayment. Also, credit cards declined due to the sale of the credit card business in 1999. Loans not included in nonaccrual or past due categories, but where information about possible credit problems causes management to be uncertain about the borrower's ability to comply with existing repayment terms over the next six months, totaled $95 million at December 31, 1999. ALLOWANCE FOR CREDIT LOSSES In determining the adequacy of the allowance for credit losses, the Corporation makes specific allocations to impaired loans and to pools of watchlist and nonwatchlist loans for various credit risk factors. Allocations to loan pools are developed by business segment and risk rating and are based on historical loss trends and management's judgment concerning those trends and other relevant factors. Those factors may include, among others, actual versus estimated losses, current regional and national economic conditions, business segment and portfolio concentrations, industry competition and consolidation, and the impact of government regulations. Consumer and residential mortgage loan allocations are made at a total portfolio level based on historical loss experience adjusted for portfolio activity and current economic conditions. While PNC's commercial and consumer pool reserve methodologies strive to reflect all risk factors, there continues to be a certain element of risk associated with, but not limited to, potential estimation or judgmental errors. Unallocated reserves provide coverage for such risks. While allocations are made to specific loans and pools of loans, the total reserve is available for all credit losses. Senior management's Reserve Adequacy Committee provides oversight for the allowance evaluation process including quarterly evaluations, and methodology and estimation changes. The results of the evaluations are reported to the Credit Committee of the Board of Directors. The provision for credit losses in 1999 and the evaluation of the allowance for credit losses as of December 31, 1999 reflected changes in loan portfolio composition, changes in asset quality, the impact of selling the credit card business, the decision to exit certain wholesale lending businesses and downsize the indirect automobile lending portfolio. The unallocated portion of the allowance for credit losses at December 31, 1999 represented 20% of the total allowance and .27% of total loans compared with 22% and .29%, respectively, at December 31, 1998. ROLLFORWARD OF ALLOWANCE FOR CREDIT LOSSES IN MILLIONS 1999 1998 - ---------------------------------------------------------- January 1 ...................... $ 753 $ 972 Charge-offs .................... (216) (524) Recoveries ..................... 55 77 - ---------------------------------------------------------- Net charge-offs ............. (161) (447) Provision for credit losses .... 163 225 Sale of credit card business ... (81) Acquisitions ................... 3 - ---------------------------------------------------------- December 31 ................. $ 674 $ 753 ========================================================== The allowance as a percent of nonaccrual loans and period-end loans was 225% and 1.35%, respectively, at December 31, 1999. The comparable year-end 1998 amounts were 255% and 1.31%, respectively. CHARGE-OFFS AND RECOVERIES NET PERCENT OF YEAR ENDED DECEMBER 31 CHARGE- CHARGE- AVERAGE DOLLARS IN MILLIONS OFFS RECOVERIES OFFS LOANS - ------------------------------------------------------------------------------ 1999 Consumer ................... $ 63 $25 $ 38 .37% Credit card ................ 60 2 58 8.63 Residential mortgage ....... 8 1 7 .06 Commercial ................. 72 22 50 .22 Commercial real estate ..... 4 4 Other ...................... 9 1 8 .26 - ---------------------------------------------------------------- Total ................... $216 $55 $161 .30 ============================================================================== 1998 Consumer ................... $ 83 $34 $ 49 .44% Credit card ................ 297 17 280 7.27 Residential mortgage ....... 7 1 6 .05 Commercial ................. 122 20 102 .45 Commercial real estate ..... 8 3 5 .15 Other ...................... 7 2 5 .22 - ---------------------------------------------------------------- Total ................... $524 $77 $447 .80 ============================================================================== The actual level of net charge-offs and the provision for credit losses in future periods can be affected by many business and economic factors and may differ from current or historical experience. LIQUIDITY RISK Liquidity represents the Corporation's ability to obtain cost-effective funding to meet the needs of customers, as well as the Corporation's financial obligations. Liquidity is centrally managed by Asset and Liability Management, with oversight provided by the Corporate Asset and Liability Committee and the Finance Committee of the Board of Directors. Access to capital markets funding sources is a key factor affecting liquidity management. Access to such markets is in part based on the Corporation's credit ratings, which are influenced by a number of factors including capital ratios, credit quality, and earnings. Additional factors that impact liquidity include the maturity structure of existing assets, liabilities, and off-balance-sheet positions, the level of liquid investment securities and loans available for sale and the Corporation's ability to securitize various types of loans. Liquidity can also be provided through the sale of liquid assets, which consist of short-term investments, loans held for sale and securities available for sale as well as alternative forms of borrowing including Federal funds purchased, repurchase agreements and debt issuances. At December 31, 1999, such assets totaled $14.6 billion with $4.2 billion pledged as collateral for borrowing, trust and other commitments. Funding can also be obtained through secured advances from the Federal Home Loan Bank ("FHLB") system, of which PNC is a member. These borrowings are generally secured by residential mortgages. At December 31, 1999, approximately $6.3 billion of residential mortgages were available as collateral for borrowings from the FHLB. Liquidity for the parent company and subsidiaries is also generated through the issuance of securities in public or private markets and lines of credit and through asset securitizations and sales. During 1999, the Corporation issued $1.3 billion of senior and subordinated debt. At December 31, 1999, the Corporation had unused capacity under effective shelf registration statements of approximately $1.5 billion of debt and equity securities and $400 million of trust preferred capital securities. In addition, the Corporation has an unused line of credit of $500 million. The principal source of parent company revenue and cash flow is dividends from subsidiary banks. PNC Bancorp, Inc. is a wholly-owned subsidiary of the parent company and is the holding company for all bank subsidiaries. There are legal limitations on the ability of bank subsidiaries to pay dividends and make other distributions to PNC Bancorp, Inc. and in turn the parent company. Without regulatory approval, the amount available for dividend payments to PNC Bancorp, Inc. by all bank subsidiaries was $489 million at December 31, 1999. Dividends may also be impacted by capital needs, regulatory requirements, corporate policies, contractual restrictions and other factors. 50|51 FINANCIAL REVIEW Management believes the Corporation has sufficient liquidity to meet current obligations to borrowers, depositors, debt holders and others. The impact of replacing maturing liabilities is reflected in the income simulation model in the overall asset and liability management process. INTEREST RATE RISK Interest rate risk arises primarily through the Corporation's traditional business activities of extending loans and accepting deposits. Many factors, including economic and financial conditions, movements in market interest rates and consumer preferences, affect the spread between interest earned on assets and interest paid on liabilities. In managing interest rate risk, the Corporation seeks to minimize its reliance on a particular interest rate scenario as a source of earnings, while maximizing net interest income and net interest margin. To achieve these objectives, the Corporation uses securities purchases and sales, long-term and short-term funding, financial derivatives and other capital markets instruments. Interest rate risk is centrally managed by Asset and Liability Management. The Corporation actively measures and monitors components of interest rate risk including term structure or repricing risk, yield curve or nonparallel rate shift risk, basis risk and options risk. Senior management's Corporate Asset and Liability Committee provides strategic direction to Asset and Liability Management and, in doing so, reviews capital markets activities and interest rate risk exposures. The Finance Committee of the Board of Directors is responsible for overseeing the Corporation's interest rate risk management process. The Corporation measures and manages both the short-term and long-term effects of changing interest rates. An income simulation model is used to measure the sensitivity of net interest income to changing interest rates over the next twenty-four month period. An economic value of equity model is used to measure the sensitivity of the value of existing on-balance-sheet and off-balance-sheet positions to changing interest rates. The income simulation model is the primary tool used to measure the direction and magnitude of changes in net interest income resulting from changes in interest rates. Forecasting net interest income and its sensitivity to changes in interest rates requires that the Corporation make assumptions about the volume and characteristics of new business and the behavior of existing positions. These business assumptions are based on the Corporation's experience, business plans and published industry experience. Key assumptions employed in the model include prepayment speeds on mortgage-related assets and consumer loans, loan volumes and pricing, deposit volumes and pricing, the expected life and repricing characteristics of nonmaturity loans and deposits, and management's financial and capital plans. Because these assumptions are inherently uncertain, the model cannot precisely estimate net interest income or precisely predict the effect of higher or lower interest rates on net interest income. Actual results will differ from simulated results due to the timing, magnitude and frequency of interest rate changes, the difference between actual experience and the assumed volume and characteristics of new business and behavior of existing positions, and changes in market conditions and management strategies, among other factors. The Corporation's interest rate risk management policies provide that net interest income should not decrease by more than 3% if interest rates gradually increase or decrease from current rates by 100 basis points over a twelve-month period. At December 31, 1999, if interest rates were to gradually increase by 100 basis points over the next twelve months, the model indicates that net interest income would decrease by .9%. If interest rates were to gradually decrease by 100 basis points over the next twelve months, the model indicates that net interest income would increase by 1.2%. The Corporation models additional interest rate scenarios covering a wider range of rate movements to identify yield curve, term structure and basis risk exposures. These scenarios are developed based on historical rate relationships or management's expectations regarding the future direction and level of interest rates. Depending on market conditions and other factors, these scenarios may be modeled more or less frequently. Such analyses are used in conjunction with the net interest income simulation model and economic value of equity model to identify inherent risk and develop appropriate strategies. The Corporation measures the sensitivity of the value of its on-balance-sheet and off-balance-sheet positions to movements in interest rates using an economic value of equity model. The model computes the value of all current on-balance-sheet and off-balance-sheet positions under a range of instantaneous interest rate changes. The resulting change in the value of equity is the measure of overall long-term interest rate risk inherent in the Corporation's existing on-balance-sheet and off-balance-sheet positions. The Corporation uses the economic value of equity model to complement the net interest income simulation modeling process. The Corporation's risk management policies provide that the change in economic value of equity should not decline by more than 1.5% of the book value of assets for a 200 basis point instantaneous increase or decrease in interest rates. Based on the results of the economic value of equity model at December 31, 1999, if interest rates were to instantaneously increase by 200 basis points, the economic value of existing on-balance-sheet and off-balance-sheet positions would decline by 1.00% of assets. If interest rates were to instantaneously decrease by 200 basis points, the economic value of existing on-balance-sheet and off-balance-sheet positions would increase by .3% of assets. MARKET RISK Most of PNC's trading activities are designed to provide capital markets services for customers of PNC Bank - Corporate Banking, PNC Secured Finance and PNC Advisors. The performance of PNC's trading operations is predominantly based on providing services to customers and not on positioning the Corporation's portfolio for gains from market movements. Market risk associated with trading, capital markets and foreign exchange activities is managed using a value-at-risk approach that combines interest rate risk, foreign exchange rate risk, spread risk and volatility risk. Exposure is measured as the potential loss due to a two standard deviation, one-day move. The combined period-end value-at-risk of all trading operations using this measurement was less than $850 thousand at December 31, 1999. FINANCIAL DERIVATIVES A variety of off-balance-sheet financial derivatives are used as part of the overall risk management process to manage interest rate, market and credit risk inherent in the Corporation's business activities. Interest rate swaps and purchased interest rate caps and floors are the primary instruments used for interest rate risk management. Interest rate swaps are agreements to exchange fixed and floating interest rate payments calculated on a notional principal amount. The floating rate is based on a money market index, primarily short-term LIBOR indices. Purchased interest rate caps and floors are agreements where, for a fee, the counterparty agrees to pay the Corporation the amount, if any, by which a specified market interest rate exceeds or is less than a defined rate applied to a notional amount, respectively. Forward contracts provide for the delivery of financial instruments at a specified future date and at a specified price or yield. Such contracts are primarily used to manage risk positions associated with certain mortgage banking and student lending activities. Credit-related derivatives provide, for a fee, an assumption of a portion of the credit risk associated with the underlying financial instruments. Such contracts are primarily used to manage credit risk and regulatory capital associated with commercial lending activities. Financial derivatives involve, to varying degrees, interest rate, market and credit risk in excess of the amount on the balance sheet, but less than the notional amount of the contract. For interest rate swaps, caps and floors, only periodic cash payments and, with respect to caps and floors, premiums, are exchanged. Therefore, cash requirements and exposure to credit risk are significantly less than the notional value. During 1999, financial derivatives used in interest rate risk management increased net interest income by $43 million compared with an $18 million increase in the prior year. The following table sets forth changes in the notional value of off-balance-sheet financial derivatives used for risk management during 1999. FINANCIAL DERIVATIVES ACTIVITY
WEIGHTED- AVERAGE 1999 - DOLLARS IN MILLIONS JANUARY 1 ADDITIONS MATURITIES TERMINATIONS DECEMBER 31 MATURITY - ----------------------------------------------------------------------------------------------------------------------------------- Interest rate risk management Interest rate swaps Receive fixed ............................... $ 7,163 $ 1,400 $ (650) $ (500) $ 7,413 2 yrs. 6 mos Pay fixed ................................... 13 4 (12) 5 1 yr. Basis swaps ................................. 2,274 (624) 1,650 3 yrs. 6 mos Interest rate caps ............................ 722 (220) (28) 474 4 yrs. Interest rate floors .......................... 1,939 3,000 (1,602) (26) 3,311 2 yrs. 5 mos - -------------------------------------------------------------------------------------------------------------------- Total interest rate risk management ...... 12,111 4,404 (3,108) (554) 12,853 Mortgage banking risk management Residential Forward contracts Commitments to purchase loans ............ 1,286 29,709 (30,691) 304 2 mos. Commitments to sell loans ................ 3,248 36,995 (39,049) 1,194 2 mos. Options .................................. 207 890 (1,001) 96 2 mos. Options - MSR ............................... 4,875 4,025 (525) (700) 7,675 3 yrs. 11 mos. - -------------------------------------------------------------------------------------------------------------------- Total residential ........................ 9,616 71,619 (71,266) (700) 9,269 Commercial - interest rate swaps ................. 657 1,431 (88) (1,357) 643 7 yrs. 1 mo. - -------------------------------------------------------------------------------------------------------------------- Total mortgage banking risk management ... 10,273 73,050 (71,354) (2,057) 9,912 Student lending activities Forward contracts ............................. 681 681 1 yr. 4 mos. Credit-related activities Credit default swaps .......................... 4,255 60 4,315 2 yrs. 5 mos. - -------------------------------------------------------------------------------------------------------------------- Total .................................... $26,639 $ 78,195 $(74,462) $(2,611) $27,761 ==================================================================================================================================
52|53 FINANCIAL REVIEW The following table sets forth, by designated assets and liabilities, the notional value and the estimated fair value of financial derivatives used for risk management. Weighted-average interest rates presented are those expected to be in effect based on the implied forward yield curve at December 31, 1999. FINANCIAL DERIVATIVES
WEIGHTED-AVERAGE INTEREST RATES NOTIONAL ESTIMATED ------------------------------- DECEMBER 31, 1999 - DOLLARS IN MILLIONS VALUE FAIR VALUE PAID RECEIVED - ------------------------------------------------------------------------------------------------------------------- Interest rate risk management Asset rate conversion Interest rate swaps(1) Receive fixed designated to loans ............ $ 5,550 $(48) 6.53% 5.49% Basis swaps designated to other earning assets ............................. 226 3 6.44 6.72 Interest rate caps designated to loans(2) ....... 474 12 NM NM Interest rate floors designated to loans(3) ..... 3,311 NM NM - ------------------------------------------------------------------------------- Total asset rate conversion ................ 9,561 (33) Liability rate conversion Interest rate swaps(1) Receive fixed designated to: Interest-bearing deposits .................. 150 (2) 6.85 6.65 Borrowed funds ............................. 1,713 (23) 6.75 6.24 Pay fixed designated to borrowed funds ....... 5 1 6.09 7.04 Basis swaps designated to borrowed funds ..... 1,424 7 6.70 6.71 - ------------------------------------------------------------------------------- Total liability rate conversion ............ 3,292 (17) - ------------------------------------------------------------------------------- Total interest rate risk management ..... 12,853 (50) Mortgage banking risk management Residential Forward contracts Commitments to purchase loans ................ 304 6 NM NM Commitments to sell loans .................... 1,194 2 NM NM Options ...................................... 96 1 NM NM Options - MSR ................................... 7,675 19 NM NM - ------------------------------------------------------------------------------- Total residential .......................... 9,269 28 Commercial Pay fixed interest rate swaps designated to securities(1) .................. 144 3 7.16 6.08 Pay fixed interest rate swaps designated to loans(1) ...................... 499 48 5.49 7.05 - ------------------------------------------------------------------------------- Total commercial ........................... 643 51 - ------------------------------------------------------------------------------- Total mortgage banking risk management .. 9,912 79 Student lending activities Forward contracts ................................. 681 NM NM Credit-related activities Credit default swaps .............................. 4,315 (4) NM NM - ------------------------------------------------------------------------------- Total financial derivatives ..................... $27,761 $ 25 ===================================================================================================================
(1) THE FLOATING RATE PORTION OF INTEREST RATE CONTRACTS IS BASED ON MONEY-MARKET INDICES. AS A PERCENT OF NOTIONAL VALUE, 27% WERE BASED ON 1-MONTH LIBOR, 70% ON 3-MONTH LIBOR AND THE REMAINDER ON OTHER SHORT-TERM INDICES. (2) INTEREST RATE CAPS WITH NOTIONAL VALUES OF $142 MILLION, $129 MILLION AND $199 MILLION REQUIRE THE COUNTERPARTY TO PAY THE CORPORATION THE EXCESS, IF ANY, OF 3-MONTH LIBOR OVER A WEIGHTED-AVERAGE STRIKE OF 6.16%, 1-MONTH LIBOR OVER A WEIGHTED-AVERAGE STRIKE OF 5.72% AND PRIME OVER A WEIGHTED-AVERAGE STRIKE OF 8.76%, RESPECTIVELY. AT DECEMBER 31, 1999, 3-MONTH LIBOR WAS 6.00%, 1-MONTH LIBOR WAS 5.82% AND PRIME WAS 8.50%. (3) INTEREST RATE FLOORS WITH NOTIONAL VALUES OF $3.0 BILLION, $3.8 BILLION AND $3.2 BILLION REQUIRE THE COUNTERPARTY TO PAY THE CORPORATION THE EXCESS, IF ANY, OF THE WEIGHTED-AVERAGE STRIKE OF 4.63% OVER 3-MONTH LIBOR, THE WEIGHTED-AVERAGE STRIKE OF 5.08% OVER 10-YEAR CMT AND THE WEIGHTED-AVERAGE STRIKE OF 4.99% OVER 10-YEAR CMS, RESPECTIVELY. AT DECEMBER 31, 1999, 3-MONTH LIBOR WAS 6.00%, 10-YEAR CMT WAS 6.45% AND 10-YEAR CMS WAS 7.18%. NM - NOT MEANINGFUL OTHER DERIVATIVES To accommodate customer needs, PNC enters into customer-related financial derivative transactions primarily consisting of interest rate swaps, caps, floors and foreign exchange contracts. Risk exposure from customer positions is managed through transactions with other dealers. Additionally, the Corporation enters into other derivative transactions for risk management purposes. These positions are recorded at estimated fair value and changes in value are included in results of operations.
OTHER DERIVATIVES AT DECEMBER 31, 1999 1999 --------------------------------------------------- ----------- POSITIVE NEGATIVE NET AVERAGE NOTIONAL FAIR FAIR ASSET FAIR IN MILLIONS VALUE VALUE VALUE (LIABILITY) VALUE - ----------------------------------------------------------------------------- ----------- Customer-related Interest rate Swaps ............. $17,103 $110 $(116) $(6) $(13) Caps/floors Sold ............ 3,440 (25) (25) (20) Purchased ....... 3,337 22 22 18 Foreign exchange .... 3,310 47 (36) 11 7 Other ............... 2,161 22 (9) 13 3 - ----------------------------------------------------------------------------- ----------- Total customer- related ........... 29,351 201 (186) 15 (5) Other .................. 1,238 6 6 4 - ----------------------------------------------------------------------------- ----------- Total other derivatives ....... $30,589 $207 $(186) $21 $(1) ============================================================================= ===========
The following table sets forth, by designated assets and liabilities, the notional value and the estimated fair value of financial derivatives used for risk management. Weighted-average interest rates presented are those expected to be in effect based on the implied forward yield curve at December 31, 1998. FINANCIAL DERIVATIVES
WEIGHTED-AVERAGE INTEREST RATES NOTIONAL ESTIMATED ------------------------------- DECEMBER 31, 1998 - DOLLARS IN MILLIONS VALUE FAIR VALUE PAID RECEIVED - ------------------------------------------------------------------------------------------------------------------------------ Interest rate risk management Asset rate conversion Interest rate swaps(1) Receive fixed designated to loans ...................... $5,550 $83 5.06% 5.49% Pay fixed designated to loans .......................... 5 6.23 4.98 Basis swaps designated to other earning assets ......... 300 4 4.78 5.17 Interest rate caps designated to loans(2) ................. 722 6 NM NM Interest rate floors designated to loans(3) ............... 1,939 (9) NM NM - -------------------------------------------------------------------------------------------- Total asset rate conversion .......................... 8,516 84 Liability rate conversion Interest rate swaps(1) Receive fixed designated to: Interest-bearing deposits ............................ 150 10 5.23 6.65 Borrowed funds ....................................... 1,463 60 5.12 5.83 Pay fixed designated to borrowed funds ................. 8 1 7.22 5.58 Basis swaps designated to borrowed funds ............... 1,974 9 5.09 5.09 - -------------------------------------------------------------------------------------------- Total liability rate conversion ...................... 3,595 80 - -------------------------------------------------------------------------------------------- Total interest rate risk management ............. 12,111 164 Mortgage banking risk management Residential Forward contracts Commitments to purchase loans .......................... 1,286 4 NM NM Commitments to sell loans .............................. 3,248 4 NM NM Options ................................................ 207 5 NM NM Interest rate floors - MSR(3) ............................. 4,875 53 NM NM - -------------------------------------------------------------------------------------------- Total residential .................................... 9,616 66 Commercial Pay fixed swaps ...................................... 657 (2) 5.42 5.34 - -------------------------------------------------------------------------------------------- Total mortgage banking risk management ............... 10,273 64 Credit-related activities Credit default swaps ........................................ 4,255 (2) NM NM - -------------------------------------------------------------------------------------------- Total financial derivatives .......................... $26,639 $226 ================================================================================================================================
(1) THE FLOATING RATE PORTION OF INTEREST RATE CONTRACTS IS BASED ON MONEY-MARKET INDICES. AS A PERCENT OF NOTIONAL VALUE, 33% WERE BASED ON 1-MONTH LIBOR, 63% ON 3-MONTH LIBOR AND THE REMAINDER ON OTHER SHORT-TERM INDICES. (2) INTEREST RATE CAPS WITH NOTIONAL VALUES OF $248 MILLION, $209 MILLION AND $257 MILLION REQUIRE THE COUNTERPARTY TO PAY THE EXCESS, IF ANY, OF 3-MONTH LIBOR OVER A WEIGHTED-AVERAGE STRIKE OF 6.19%, 1-MONTH LIBOR OVER A WEIGHTED-AVERAGE STRIKE OF 5.85% AND PRIME OVER A WEIGHTED-AVERAGE STRIKE OF 8.77%, RESPECTIVELY. AT DECEMBER 31, 1998, 3-MONTH LIBOR WAS 5.07%, 1-MONTH LIBOR WAS 5.06% AND PRIME WAS 7.8%. (3) INTEREST RATE FLOORS WITH NOTIONAL VALUES OF $1.5 BILLION, $1.7 BILLION AND $3.2 BILLION REQUIRE THE COUNTERPARTY TO PAY THE CORPORATION THE EXCESS, IF ANY, OF THE WEIGHTED-AVERAGE STRIKE OF 5.01% OVER 3-MONTH LIBOR, THE WEIGHTED-AVERAGE STRIKE OF 5.19% OVER 10-YEAR CMT AND THE WEIGHTED-AVERAGE STRIKE OF 4.99% OVER 10-YEAR CMS, RESPECTIVELY. AT DECEMBER 31, 1998, 3-MONTH LIBOR WAS 5.07%, 10-YEAR CMT WAS 4.65% AND 10-YEAR CMS WAS 5.47%. NM - NOT MEANINGFUL 54/55 FINANCIAL REVIEW 1998 VERSUS 1997 CONSOLIDATED INCOME STATEMENT REVIEW OVERVIEW Consolidated net income for 1998 was $1.115 billion compared with $1.052 billion in 1997. Diluted earnings per share increased 10% to $3.60 for 1998 compared with $3.28 in 1997. Returns on average common shareholders' equity and average assets were 20.81% and 1.49% for 1998 compared with 20.01% and 1.49%, respectively, in 1997. NET INTEREST INCOME Taxable-equivalent net interest income increased $75 million to $2.599 billion in 1998 compared with $2.524 billion in 1997. The net interest margin narrowed to 3.85% in 1998 compared with 3.94% in the prior year. The increase in net interest income was primarily due to a $3.4 billion increase in average earning assets, which more than offset a narrower net interest margin resulting from a change in balance sheet composition. PROVISION FOR CREDIT LOSSES The provision for credit losses was $225 million in 1998 compared with $70 million in 1997. Net charge-offs were .80% of average loans in 1998 compared with .51% in 1997. The increase in the net charge-off ratio was primarily associated with credit cards and a single credit in the health care industry. NONINTEREST INCOME Noninterest income was $2.302 billion in 1998 compared with $1.775 billion in 1997. Asset management, mutual fund servicing, brokerage, other consumer services, corporate services and mortgage banking revenues each grew 24% or more compared with the prior year. Noninterest income for 1998 included $162 million of net gains from the sale of the corporate trust and escrow business, branch sales and the sale of a credit card portfolio as well as the negative impact of $30 million of valuation adjustments on certain market-sensitive asset positions. Asset management fees of $626 million for 1998 increased 35% compared with 1997 primarily due to new business, market appreciation and performance fees. Assets under management increased 27% to $174 billion at December 31, 1998, compared with $137 billion at December 31, 1997. Mutual fund servicing fees of $182 million for 1998 increased 29% compared with 1997 resulting from an increase in assets serviced. At December 31, 1998, custody and accounting/administration services were provided for $315 billion and $252 billion of mutual fund assets, respectively. The comparable amounts were $232 billion and $182 billion, respectively, at December 31, 1997. Brokerage income was $91 million for 1998, a $21 million increase compared with 1997, primarily due to an increase in brokerage accounts. Other consumer services revenue of $299 million for 1998 increased $57 million or 24% compared with 1997 primarily due to an increase in credit card accounts. Corporate services revenue of $245 million for 1998 increased 24% compared with 1997 resulting from the Midland acquisition and higher treasury management and capital markets fees, partially offset by $30 million of valuation adjustments. Net residential mortgage banking revenue of $212 million in 1998 increased $60 million or 39% compared with the prior year primarily due to significant mortgage refinance activity and higher servicing income resulting from servicing portfolio acquisitions. Residential mortgage production volume, including both retail and correspondent activity totaled $22 billion in 1998 compared with $6 billion in 1997. Net securities gains were $16 million in 1998 compared with $40 million in 1997. The year-to-year increase in other noninterest income was primarily due to the net gains from the sale of the corporate trust and escrow business, branches and a credit card portfolio in 1998. NONINTEREST EXPENSE Noninterest expense of $2.940 billion in 1998 increased $358 million compared with the prior year primarily to support revenue growth in fee-based businesses, the impact of acquisitions and consumer banking initiatives. Average full-time equivalent employees totaled approximately 25,500 in 1998 compared with 24,600 in the prior year, an increase of 4% mainly due to acquisitions. CONSOLIDATED BALANCE SHEET REVIEW Total assets were $77.2 billion at December 31, 1998, compared with $75.1 billion at December 31, 1997. LOANS Loans outstanding increased $3.4 billion from year-end 1997 to $57.7 billion at December 31, 1998. Growth in commercial and home equity loans more than offset a decline in commercial and residential mortgages and credit card and automobile loans. The increase in commercial loans was primarily in real estate related, specialized lending and middle market. SECURITIES AVAILABLE FOR SALE The securities available for sale portfolio declined $1.4 billion from year-end 1997 to $7.1 billion at December 31, 1998. The expected weighted-average life of the securities portfolio increased to 5 years and 3 months at December 31, 1998, compared with 2 years and 9 months at December 31, 1997, due to the purchase of U.S. Treasury and government agency securities with maturities of 10 years or more used as part of PNC's risk management strategies. FUNDING SOURCES Total funding sources increased $1.2 billion to $68.4 billion at December 31, 1998. Increases in transaction deposit accounts and other borrowed funds were mostly offset by decreases in foreign deposits and federal funds purchased. This change in funding composition resulted in a strengthening of liquidity as 48% of wholesale liabilities had a maturity beyond one year at December 31, 1998, compared with 29% at December 31, 1997. During 1998, the Corporation continued to expand funding sources by issuing approximately $800 million of bank notes under the Euro medium-term bank note program. ASSET QUALITY The ratio of nonperforming assets to total loans, loans held for sale and foreclosed assets was .55% at December 31, 1998, and .59% at December 31, 1997. Nonperforming assets were $332 million at December 31, 1998, compared with $333 million at December 31, 1997. The allowance for credit losses was 255% of nonperforming loans and 1.31% of total loans at December 31, 1998, compared with 352% and 1.79%, respectively, at December 31, 1997. CAPITAL Shareholders' equity totaled $6.0 billion and $5.4 billion at December 31, 1998 and 1997, respectively, and the leverage ratio was 7.28% and 7.30% in the comparison. Tier I and total risk-based capital ratios were 7.80% and 11.16%, respectively, at December 31, 1998. The comparable December 31, 1997 ratios were 7.43% and 11.11%, respectively. YEAR 2000 During 1999, the Corporation completed the process of preparing for the year 2000 date change event. This process involved reviewing, modifying and replacing existing hardware, software and embedded chip technology systems, as necessary. The Corporation also assessed the year 2000 preparedness of third parties such as vendors, customers, governmental entities and others. Contingency plans, subject to oversight and regulation by certain federal bank regulatory authorities, for year 2000 issues were maintained. Business continuity plans were reviewed and strengthened to address year 2000 implications. The estimated total cumulative cost to become year 2000 ready through December 31, 1999, which has been expensed as incurred, was approximately $24 million. Expenses incurred for year 2000 readiness efforts did not exceed one percent of technology-related expenses in 1999. No significant outlays were made to replace existing systems solely for year 2000 reasons. The Corporation to date has not encountered any materially significant problems associated with its mission critical systems or service providers as a result of the date change event. Unanticipated issues associated with the year 2000 date change event could still occur that may have an adverse impact on the financial condition and results of operations of the Corporation, its customers and service providers. To the extent that customers' financial positions are weakened due to year 2000 issues, credit quality could be adversely affected. It is not possible to predict with certainty all of the adverse effects that could result from a failure of third parties to address year 2000 issues or whether such effects could have a material adverse impact on the Corporation. 56|57 TABLE OF CONTENTS REPORTS ON CONSOLIDATED FINANCIAL STATEMENTS 59 Management's Responsibility for Financial Reporting 59 Report of Ernst & Young LLP, Independent Auditors CONSOLIDATED FINANCIAL STATEMENTS 60 Consolidated Statement of Income 61 Consolidated Balance Sheet 62 Consolidated Statement of Shareholders' Equity 63 Consolidated Statement of Cash Flows NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 64 Note 1 - Accounting Policies 67 Note 2 - Acquisitions and Divestitures 67 Note 3 - Sale of Subsidiary Stock 68 Note 4 - Cash Flows 68 Note 5 - Trading Activities 68 Note 6 - Securities Available for Sale 69 Note 7 - Loans and Commitments to Extend Credit 70 Note 8 - Nonperforming Assets 71 Note 9 - Allowance for Credit Losses 71 Note 10 - Premises, Equipment and Leasehold Improvements 71 Note 11 - Goodwill and Other Amortizable Assets 72 Note 12 - Residential Mortgage Banking Activities 72 Note 13 - Deposits 72 Note 14 - Borrowed Funds 72 Note 15 - Capital Securities of Subsidiary Trusts 73 Note 16 - Shareholders' Equity 73 Note 17 - Regulatory Matters 74 Note 18- Financial Derivatives 75 Note 19 - Employee Benefit Plans 77 Note 20 - Stock-Based Compensation Plans 78 Note 21 - Income Taxes 78 Note 22 - Earnings Per Share 79 Note 23 - Segment Reporting 81 Note 24 - Comprehensive Income 81 Note 25 - Litigation 81 Note 26 - Fair Value of Financial Instruments 82 Note 27 - Other Financial Information 83 Note 28 - Unused Line of Credit STATISTICAL INFORMATION 84 Selected Quarterly Financial Data 85 Analysis of Year-to- Year Changes in Net Interest Income 86 Average Consolidated Balance Sheet and Net Interest Analysis 88 Allowance for Credit Losses 89 Short-Term Borrowings 89 Loan Maturities and Interest Sensitivity 89 Time Deposits of $100,000 or More REPORTS ON CONSOLIDATED FINANCIAL STATEMENTS MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL REPORTING The PNC Financial Services Group, Inc. is responsible for the preparation, integrity and fair presentation of its published financial statements. The accompanying consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States and, as such, include judgments and estimates of management. The PNC Financial Services Group, Inc. also prepared the other information included in the Annual Report and is responsible for its accuracy and consistency with the consolidated financial statements. Management is responsible for establishing and maintaining effective internal control over financial reporting. The internal control system is augmented by written policies and procedures and by audits performed by an internal audit staff, which reports to the Audit Committee of the Board of Directors. Internal auditors test the operation of the internal control system and report findings to management and the Audit Committee, and corrective actions are taken to address identified control deficiencies and other opportunities for improving the system. The Audit Committee, composed solely of outside directors, provides oversight to the financial reporting process. There are inherent limitations in the effectiveness of any system of internal control, including the possibility of human error and circumvention or overriding of controls. Accordingly, even effective internal control can provide only reasonable assurance with respect to financial statement preparation. Further, because of changes in conditions, the effectiveness of internal control may vary over time. Management assessed The PNC Financial Services Group, Inc.'s internal control over financial reporting as of December 31, 1999. This assessment was based on criteria for effective internal control over financial reporting described in "Internal Control.Integrated Framework" issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this assessment, management believes that The PNC Financial Services Group, Inc. maintained an effective internal control system over financial reporting as of December 31, 1999. /s/ Thomas H. O'Brien /s/ Robert L. Haunschild - ------------------------- ---------------------------- Thomas H. O'Brien Robert L. Haunschild Chairman and Senior Vice President and Chief Executive Officer Chief Financial Officer REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS Shareholders and Board of Directors The PNC Financial Services Group, Inc. We have audited the accompanying consolidated balance sheet of The PNC Financial Services Group, Inc. and subsidiaries as of December 31, 1999 and 1998, and the related consolidated statements of income, shareholders' equity, and cash flows for each of the three years in the period ended December 31, 1999. These financial statements are the responsibility of The PNC Financial Services Group, Inc.'s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. 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, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of The PNC Financial Services Group, Inc. and subsidiaries at December 31, 1999 and 1998, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1999, in conformity with accounting principles generally accepted in the United States. /s/ Ernst & Young LLP - ---------------------------- Pittsburgh, Pennsylvania January 20, 2000 58|59 CONSOLIDATED STATEMENT OF INCOME
YEAR ENDED DECEMBER 31 - IN MILLIONS, EXCEPT PER SHARE DATA 1999 1998 1997 - --------------------------------------------------------------------------------------------------------------------------- INTEREST INCOME Loans and fees on loans..................................................... $4,077 $4,590 $4,354 Securities available for sale............................................... 483 425 540 Other....................................................................... 361 298 157 - --------------------------------------------------------------------------------------------------------------------------- Total interest income................................................... 4,921 5,313 5,051 =========================================================================================================================== INTEREST EXPENSE Deposits.................................................................... 1,369 1,471 1,457 Borrowed funds.............................................................. 1,119 1,269 1,099 - --------------------------------------------------------------------------------------------------------------------------- Total interest expense.................................................. 2,488 2,740 2,556 - --------------------------------------------------------------------------------------------------------------------------- Net interest income..................................................... 2,433 2,573 2,495 Provision for credit losses................................................. 163 225 70 - --------------------------------------------------------------------------------------------------------------------------- Net interest income less provision for credit losses.................... 2,270 2,348 2,425 =========================================================================================================================== NONINTEREST INCOME Asset management ........................................................... 681 626 462 Mutual fund servicing....................................................... 251 182 141 Service charges on deposits................................................. 207 203 203 Brokerage................................................................... 219 91 70 Other consumer services..................................................... 236 299 242 Corporate services.......................................................... 133 245 198 Net residential mortgage banking............................................ 272 212 152 Equity management........................................................... 100 96 98 Net securities gains ....................................................... 22 16 40 Sale of subsidiary stock ................................................... 64 Other....................................................................... 560 332 169 - --------------------------------------------------------------------------------------------------------------------------- Total noninterest income................................................ 2,745 2,302 1,775 =========================================================================================================================== NONINTEREST EXPENSE Staff expense............................................................... 1,535 1,416 1,241 Net occupancy............................................................... 249 204 189 Equipment................................................................... 245 205 180 Amortization ............................................................... 93 111 94 Marketing................................................................... 75 96 70 Distributions on capital securities......................................... 65 60 43 Other....................................................................... 862 848 765 - --------------------------------------------------------------------------------------------------------------------------- Total noninterest expense............................................... 3,124 2,940 2,582 - --------------------------------------------------------------------------------------------------------------------------- Income before income taxes.................................................. 1,891 1,710 1,618 Income taxes................................................................ 627 595 566 - --------------------------------------------------------------------------------------------------------------------------- Net income.............................................................. $1,264 $1,115 $1,052 =========================================================================================================================== EARNINGS PER COMMON SHARE Basic....................................................................... $4.19 $3.64 $3.33 Diluted..................................................................... 4.15 3.60 3.28 CASH DIVIDENDS PER COMMON SHARE............................................. 1.68 1.58 1.50 AVERAGE COMMON SHARES OUTSTANDING Basic....................................................................... 296.9 300.8 310.1 Diluted..................................................................... 300.0 305.1 316.2 ===========================================================================================================================
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. CONSOLIDATED BALANCE SHEET
DECEMBER 31 - IN MILLIONS, EXCEPT PAR VALUE 1999 1998 - ----------------------------------------------------------------------------------------------------------- ASSETS Cash and due from banks..................................................... $3,097 $2,534 Short-term investments...................................................... 1,148 1,014 Loans held for sale......................................................... 5,798 3,226 Securities available for sale............................................... 7,611 7,074 Loans, net of unearned income of $724 and $554.............................. 50,046 57,650 Allowance for credit losses............................................. (674) (753) - ----------------------------------------------------------------------------------------------------------- Net loans............................................................... 49,372 56,897 Goodwill and other amortizable assets....................................... 4,123 2,548 Other....................................................................... 4,264 3,914 - ----------------------------------------------------------------------------------------------------------- Total assets............................................................ $75,413 $77,207 =========================================================================================================== LIABILITIES Deposits Noninterest-bearing....................................................... $8,441 $9,943 Interest-bearing.......................................................... 38,227 37,553 - ----------------------------------------------------------------------------------------------------------- Total deposits.......................................................... 46,668 47,496 Borrowed funds Federal funds purchased................................................... 1,281 390 Repurchase agreements..................................................... 1,122 1,669 Bank notes and senior debt................................................ 6,975 10,384 Other borrowed funds...................................................... 7,642 6,722 Subordinated debt......................................................... 2,327 1,781 - ----------------------------------------------------------------------------------------------------------- Total borrowed funds.................................................... 19,347 20,946 Other....................................................................... 2,604 1,874 - ----------------------------------------------------------------------------------------------------------- Total liabilities....................................................... 68,619 70,316 =========================================================================================================== Mandatorily redeemable capital securities of subsidiary trusts.............. 848 848 SHAREHOLDERS' EQUITY Preferred stock............................................................. 7 7 Common stock - $5 par value Authorized: 450 shares Issued: 353 shares........................................................ 1,764 1,764 Capital surplus............................................................. 1,276 1,250 Retained earnings........................................................... 6,006 5,262 Deferred benefit expense.................................................... (17) (36) Accumulated other comprehensive loss........................................ (267) (43) Common stock held in treasury at cost: 60 and 49 shares..................... (2,823) (2,161) - ----------------------------------------------------------------------------------------------------------- Total shareholders' equity.............................................. 5,946 6,043 - ----------------------------------------------------------------------------------------------------------- Total liabilities, capital securities and shareholders' equity.......... $75,413 $77,207 ===========================================================================================================
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. 60|61 CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
Accumulated Other PREFERRED Common Capital Retained Comprehensive IN MILLIONS STOCK Stock Surplus Earnings Loss Other Total - --------------------------------------------------------------------------------------------------------------------------- Balance at January 1, 1997 .............. $7 $1,726 $939 $4,075 $(67) $(811) $5,869 Net income .............................. 1,052 1,052 Net unrealized securities gains.......... 44 44 - --------------------------------------------------------------------------------------------------------------------------- Comprehensive income ................. 1,096 - --------------------------------------------------------------------------------------------------------------------------- Cash dividends declared Common ............................... (469) (469) Preferred ............................ (19) (19) Common stock issued (3.3 shares)........ 16 57 73 Treasury stock activity (27.0 net shares purchased)........... 19 (1,233) (1,214) Tax benefit of ESOP and stock option plans.................... 27 2 29 Deferred benefit expense ............... 19 19 - --------------------------------------------------------------------------------------------------------------------------- BALANCE AT DECEMBER 31, 1997.......... 7 1,742 1,042 4,641 (23) (2,025) 5,384 Net income ............................. 1,115 1,115 Net unrealized securities losses ....... (13) (13) Minimum pension liability adjustment.... (7) (7) - --------------------------------------------------------------------------------------------------------------------------- Comprehensive income ................. 1,095 - --------------------------------------------------------------------------------------------------------------------------- Cash dividends declared Common ............................... (476) (476) Preferred............................. (19) (19) Common stock issued (4.4 shares)........ 22 99 121 Treasury stock activity (1.1 net shares purchased) ........... 90 (177) (87) Tax benefit of ESOP and stock option plans ................... 19 1 20 Deferred benefit expense ............... 5 5 - --------------------------------------------------------------------------------------------------------------------------- BALANCE AT DECEMBER 31, 1998.......... 7 1,764 1,250 5,262 (43) (2,197) 6,043 Net income ............................. 1,264 1,264 Net unrealized securities losses ....... (219) (219) Minimum pension liability adjustment.... (5) (5) - --------------------------------------------------------------------------------------------------------------------------- Comprehensive income ................. 1,040 - --------------------------------------------------------------------------------------------------------------------------- Cash dividends declared Common ............................... (501) (501) Preferred............................. (19) (19) Treasury stock activity (11.0 net shares purchased) .......... 13 (662) (649) Tax benefit of ESOP and stock option plans ................... 13 13 Deferred benefit expense ............... 19 19 - --------------------------------------------------------------------------------------------------------------------------- BALANCE AT DECEMBER 31, 1999.......... $7 $1,764 $1,276 $6,006 $(267) $(2,840) $5,946 ===========================================================================================================================
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. CONSOLIDATED STATEMENT OF CASH FLOWS
YEAR ENDED DECEMBER 31 - IN MILLIONS 1999 1998 1997 - --------------------------------------------------------------------------------------------------------------------------- OPERATING ACTIVITIES Net income................................................................. $1,264 $1,115 $1,052 Adjustments to reconcile net income to net cash provided (used) by operating activities Provision for credit losses ............................................. 163 225 70 Depreciation, amortization and accretion ................................ 327 632 346 Deferred income taxes ................................................... 204 170 133 Net securities losses (gains) ........................................... 93 (120) (49) Net gains on sales of assets ............................................ (554) (328) (179) Valuation adjustments ................................................... 195 30 Change in Loans held for sale ..................................................... 613 (1,331) (1,383) Other ................................................................... (445) (679) (31) - --------------------------------------------------------------------------------------------------------------------------- Net cash provided (used) by operating activities ....................... 1,860 (286) (41) =========================================================================================================================== INVESTING ACTIVITIES Net change in loans ........................................................ (11) (6,031) (5,182) Repayment of securities available for sale ................................. 1,306 2,120 2,014 Sales Securities available for sale ............................................ 9,620 12,779 10,223 Loans .................................................................... 648 3,030 2,863 Foreclosed assets......................................................... 39 69 116 Purchases Securities available for sale ............................................ (10,997) (13,342) (8,725) Loans .................................................................... (363) (129) (534) Net cash received (paid) for acquisitions/divestitures ..................... 1,854 (1,031) Other...................................................................... (139) (241) (823) - --------------------------------------------------------------------------------------------------------------------------- Net cash provided (used) by investing activities ....................... 1,957 (2,776) (48) =========================================================================================================================== FINANCING ACTIVITIES Net change in Noninterest-bearing deposits ............................................. (1,478) (215) (779) Interest-bearing deposits ................................................ 1,037 696 2,766 Federal funds purchased .................................................. 891 (3,242) (301) Sale/issuance Repurchase agreements .................................................... 139,175 112,108 84,315 Bank notes and senior debt ............................................... 2,416 9,229 9,125 Other borrowed funds ..................................................... 35,997 98,534 99,469 Subordinated debt ........................................................ 650 140 350 Capital securities ....................................................... 198 300 Common stock ............................................................. 141 123 155 Repayment/maturity Repurchase agreements .................................................... (139,722) (111,153) (84,246) Bank notes and senior debt ............................................... (5,827) (8,672) (7,390) Other borrowed funds ..................................................... (35,107) (95,616) (101,368) Subordinated debt ........................................................ (104) Acquisition of treasury stock .............................................. (803) (342) (1,532) Cash dividends paid ........................................................ (520) (495) (488) - --------------------------------------------------------------------------------------------------------------------------- Net cash (used) provided by financing activities ....................... (3,254) 1,293 376 =========================================================================================================================== INCREASE (DECREASE) IN CASH AND DUE FROM BANKS 563 (1,769) 287 Cash and due from banks at beginning of year ........................... 2,534 4,303 4,016 - --------------------------------------------------------------------------------------------------------------------------- Cash and due from banks at end of year.................................. $3,097 $2,534 $4,303 =========================================================================================================================== CASH PAID FOR Interest................................................................ $2,484 $2,727 $2,569 Income taxes ........................................................... 289 397 418 NONCASH ITEMS Transfer (to) from loans held for sale (from) to loans ................. (3,378) 429 Transfers from loans to other assets.................................... 40 44 71 Conversion of debt to equity ........................................... 55 7 ===========================================================================================================================
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. 62|63 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS BUSINESS The PNC Financial Services Group, Inc. ("Corporation" or "PNC") is one of the largest diversified financial services companies in the United States operating regional banking, wholesale banking and asset management businesses that provide financial products and services nationally and in PNC's primary geographic markets in Pennsylvania, New Jersey, Delaware, Ohio and Kentucky. PNC is subject to intense competition from other financial services companies with respect to these businesses and is subject to the regulations of certain federal and state agencies and undergoes periodic examinations by those authorities. NOTE 1 ACCOUNTING POLICIES BASIS OF FINANCIAL STATEMENT PRESENTATION The consolidated financial statements include the accounts of PNC and its subsidiaries, most of which are wholly owned. Such statements have been prepared in accordance with accounting principles generally accepted in the United States. All significant intercompany accounts and transactions have been eliminated. Certain prior year amounts have been reclassified to conform with the current year presentation. In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the amounts reported. Actual results will differ from such estimates and the differences may be material to the consolidated financial statements. LOANS HELD FOR SALE Loans held for sale are carried at the lower of cost or aggregate market value. Gains and losses on sales of loans held for sale are included in noninterest income. SECURITIES Securities purchased with the intention of recognizing short-term profits are placed in the trading account, carried at market value and classified as short-term investments. Gains and losses on trading securities are included in noninterest income. Securities not classified as trading are designated as securities available for sale and carried at fair value with unrealized gains and losses, net of income taxes, reflected in accumulated other comprehensive income or loss. Gains and losses on sales of securities available for sale are computed on a specific security basis and included in noninterest income. LOANS Loans are stated at the principal amounts outstanding, net of unearned income. Interest income with respect to loans is accrued on the principal amount outstanding, except for lease financing income which is recognized over its respective terms using methods which approximate the level yield method. Significant loan fees are deferred and accreted to interest income over the respective lives of the loans. LOAN SECURITIZATIONS The Corporation sells mortgage and other loans through secondary market securitizations. The Corporation receives a fee for servicing the securitized loans. Securitized loans are removed from the balance sheet and the Corporation records a servicing asset and a corresponding gain or loss on sale. Certain estimates are inherent in determining the fair value of servicing assets and are subject to change. NONPERFORMING ASSETS Nonperforming assets are comprised of nonaccrual loans, troubled debt restructurings and foreclosed assets. Generally, loans other than consumer are classified as nonaccrual when it is determined that the collection of interest or principal is doubtful or when a default of interest or principal has existed for 90 days or more, unless the loans are well secured and in the process of collection. When interest accrual is discontinued, accrued but uncollected interest credited to income in the current year is reversed and unpaid interest accrued in the prior year, if any, is charged against the allowance for credit losses. Consumer loans are generally charged off when payments are past due 120 days. A loan is categorized as a troubled debt restructuring in the year of restructuring if a concession is granted to the borrower due to a deterioration in the financial condition of the borrower. Nonperforming loans are generally not returned to performing status until the obligation is brought current and has performed in accordance with the contractual terms for a reasonable period of time and collection of the contractual principal and interest is no longer doubtful. Foreclosed assets are comprised of property acquired through a foreclosure proceeding or acceptance of a deed-in-lieu of foreclosure. These assets are recorded on the date acquired at the lower of the related loan balance or market value of the collateral less estimated disposition costs. Market values are estimated primarily based on appraisals. Subsequently, foreclosed assets are valued at the lower of the amount recorded at acquisition date or the current market value less estimated disposition costs. Gains or losses realized from disposition of such property are reflected in noninterest expense. Impaired loans consist of nonaccrual commercial and commercial real estate loans and troubled debt restructurings. Interest collected on these loans is recognized on the cash basis or cost recovery method. ALLOWANCE FOR CREDIT LOSSES The allowance for credit losses is established through provisions charged against income. Loans deemed to be uncollectible are charged against the allowance and recoveries of previously charged-off loans are credited to the allowance. The allowance is maintained at a level believed by management to be sufficient to absorb estimated probable credit losses. Management's determination of the adequacy of the allowance is based on periodic evaluations of the credit portfolio and other relevant factors. This evaluation is inherently subjective as it requires material estimates, including, among others, the amounts and timing of expected future cash flows on impaired loans, estimated losses on consumer loans and residential mortgages, and general amounts for historical loss experience, economic conditions, uncertainties in estimating losses and inherent risks in the various credit portfolios, all of which may be susceptible to significant change. In determining the adequacy of the allowance for credit losses, the Corporation makes specific allocations to impaired loans and to pools of watchlist and nonwatchlist loans for various credit risk factors. Allocations to loan pools are developed by business segment and risk rating and are based on historical loss trends and management's judgment concerning those trends and other relevant factors. These factors may include, among others, actual versus estimated losses, current regional and national economic conditions, business segment portfolio concentrations, industry competition and consolidation, and the impact of government regulations. Consumer and residential mortgage loan allocations are made at a total portfolio level based on historical loss experience adjusted for portfolio activity and current economic conditions. While PNC's commercial and consumer pool reserve methodologies strive to reflect all risk factors, there continues to be a certain element of risk associated with, but not limited to, potential estimation or judgmental errors. Unallocated reserves provide coverage for such risks. While allocations are made to specific loans and pools of loans, the total reserve is available for all credit losses. SERVICING OF FINANCIAL ASSETS Servicing rights retained in a sale or securitization of loans are recorded by allocating the previous carrying amount of the loans sold or securitized to the relative fair values of the assets retained and sold. Purchased servicing rights are recorded at cost. Servicing rights are amortized in proportion to estimated net servicing income. To determine the fair value of servicing rights, the Corporation estimates the present value of future cash flows incorporating numerous assumptions including cost of servicing, discount rates, prepayment speeds and default rates. A valuation allowance is maintained for the excess, if any, of the carrying amount of capitalized servicing rights over estimated fair value. EQUITY MANAGEMENT ASSETS Equity management assets are included in other assets. These investments are carried at estimated fair value with changes in fair value recognized in equity management income. GOODWILL AND OTHER AMORTIZABLE ASSETS Goodwill is amortized on a straight-line basis over periods ranging from 15 to 25 years. Other amortizable assets are amortized using accelerated or straight-line methods over their respective estimated useful lives. On a periodic basis, management reviews goodwill and other amortizable assets and evaluates events or changes in circumstances that may indicate impairment in the carrying amount of such assets. In such instances, impairment, if any, is measured on a discounted future cash flow basis. DEPRECIATION AND AMORTIZATION For financial reporting purposes, premises and equipment are depreciated principally using the straight-line method over the estimated useful lives ranging from one to 39 years. Accelerated methods are used for federal income tax purposes. Leasehold improvements are amortized over their estimated useful lives or their respective lease terms, whichever is shorter. REPURCHASE AND RESALE AGREEMENTS Repurchase and resale agreements are treated as collateralized financing transactions and are carried at the amounts that the securities will be subsequently reacquired or resold, including accrued interest, as specified in the respective agreements. The Corporation's policy is to take possession of securities purchased under agreements to resell. The market value of securities to be repurchased and resold is monitored, and additional collateral is obtained where appropriate to protect against credit exposure. TREASURY STOCK The Corporation records common stock purchased for treasury at cost. At the date of subsequent reissue, the treasury stock account is reduced by the cost of such stock on the first-in, first-out basis. FINANCIAL DERIVATIVES The Corporation uses off-balance-sheet financial derivatives as part of the overall asset and liability management process, for mortgage banking risk management and to manage credit risk. Substantially all such instruments are used to manage risk related to changes in interest rates. Financial deriva- tives primarily consist of interest rate swaps, purchased interest rate caps and floors, forward contracts and credit default swaps. 64|65 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Interest rate swaps are agreements with a counterparty to exchange periodic interest payments calculated on a notional principal amount. Purchased interest rate caps and floors are agreements where, for a fee, the counterparty agrees to pay the Corporation the amount, if any, by which a specified market interest rate is higher or lower than a defined rate applied to a notional amount. Interest rate swaps, caps and floors that modify the interest rate characteristics (such as from fixed to variable, variable to fixed, or one variable index to another) of designated interest-bearing assets or liabilities are accounted for under the accrual method. The net amount payable or receivable from the derivative contract is accrued as an adjustment to interest income or interest expense of the designated instrument. Premiums on contracts are deferred and amortized over the life of the agreement as an adjustment to interest income or interest expense of the designated instruments. Unamortized premiums are included in other assets. Changes in fair value of financial derivatives accounted for under the accrual method are not reflected in results of operations. Realized gains and losses, except losses on terminated interest rate caps and floors, are deferred as an adjustment to the carrying amount of the designated instruments and amortized over the shorter of the remaining original life of the agreements or the designated instruments. Losses on terminated interest rate caps and floors are recognized immediately in the results of operations. If the designated instruments are disposed of, the fair value of the associated derivative contracts and any unamortized deferred gains or losses are included in the determination of gain or loss on the disposition of such instruments. Contracts not qualifying for accrual accounting are marked to market with gains or losses included in noninterest income. Forward contracts provide for the delivery of financial instruments at a specified future date and at a specified price or yield. The Corporation uses forward contracts primarily to manage risk associated with its residential mortgage banking and student lending activities. Realized gains and losses on mandatory and optional delivery forward commitments are recorded in noninterest income in the period settlement occurs. Unrealized gains or losses are considered in the lower of cost or market valuation of loans held for sale. Credit-related derivatives are entered into to manage credit risk and regulatory capital associated with commercial lending activities. If the credit-related derivative qualifies for hedge accounting treatment, the premium paid to enter the credit-related derivative is recorded in other assets and is deferred and amortized to noninterest expense over the life of the agreement. Changes in the fair value of credit-related derivatives qualifying for hedge accounting treatment are not reflected in the Corporation's financial position and have no impact on results of operations. If the credit-related derivative does not qualify for hedge accounting treatment or if the Corporation is the seller of credit protection, the credit-related derivative is marked to market with gains or losses included in noninterest income. To accommodate customer needs, PNC also enters into financial derivative transactions primarily consisting of interest rate swaps, caps, floors and foreign exchange contracts. Interest rate risk exposure from customer positions is managed through transactions with other dealers. These positions are recorded at estimated fair value and changes in value are included in noninterest income. Additionally, the Corporation enters into other derivative transactions for risk management purposes that do not qualify for accrual accounting. These transactions are recorded at estimated fair value and changes in value are included in noninterest income. INCOME TAXES Income taxes are accounted for under the liability method. Deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. STOCK OPTIONS For stock options granted at exercise prices not less than the fair market value of common stock on the date of grant, no compensation expense is recognized. EARNINGS PER COMMON SHARE Basic earnings per common share is calculated by dividing net income adjusted for preferred stock dividends declared by the weighted-average number of shares of common stock outstanding. Diluted earnings per common share is based on net income adjusted for interest expense, net of tax, on outstanding convertible debentures and dividends declared on nonconvertible preferred stock. The weighted-average number of shares of common stock outstanding is increased by the assumed conversion of outstanding convertible preferred stock and convertible debentures from the beginning of the year or date of issuance, if later, and the number of shares of common stock which would be issued assuming the exercise of stock options. Such adjustments to net income and the weighted-average number of shares of common stock outstanding are made only when such adjustments dilute earnings per common share. RECENT ACCOUNTING PRONOUNCEMENTS Statement of Financial Accounting Standards ("SFAS") No. 137, "Accounting for Derivative Instruments and Hedging Activities-- Deferral of the Effective Date of FASB Statement No. 133" (an amendment of SFAS No. 133), issued in June 1999, defers the effective date of SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," until fiscal years beginning after June 15, 2000. The Corporation expects to adopt SFAS No. 133, as amended by SFAS No. 137, effective January 1, 2001, the statement's effective date. The impact of adopting the provisions of this statement on PNC's financial position and results of operations is currently not estimable and will depend on the financial position of the Corporation and the nature and purpose of the derivative instruments in place as of the effective date. SFAS No. 133 was originally required to be adopted in years beginning after June 15, 1999, although early adoption is permitted. This statement requires the Corporation to recognize all financial derivatives on the balance sheet at fair value. Derivatives that do not qualify as hedges must be adjusted to fair value through results of operations. If the derivative is a hedge as defined by the statement, changes in the fair value of derivatives will be either offset against the change in fair value of the hedged assets, liabilities, or firm commitments through results of operations or recognized in other comprehensive income until the hedged item is recognized in results of operations based on the nature of the hedge. The ineffective portion of a derivative's change in fair value will be immediately recognized in earnings. NOTE 2 ACQUISITIONS AND DIVESTITURES On December 1, 1999, the Corporation completed the acquisition of First Data Investor Services Group, Inc. ("ISG") one of the nation's leading providers of processing services for pooled investment products that include mutual fund and retirement plans. The acquisition of ISG was for $1.1 billion in cash and is being accounted for under the purchase method of accounting. ISG's financial results are included in the Corporation's financial results beginning on the acquisition date. Goodwill of approximately $1 billion was recorded in connection with the acquisition and is being amortized on a straight-line basis over 25 years. Other customer-based intangibles of approximately $147 million are being amortized on a straight-line basis over 10 years. The following financial information presents combined results of PNC and ISG as if the acquisition had occurred as of January 1, 1999 and 1998: (UNAUDITED) YEAR ENDED DECEMBER 31 PROFORMA PNC IN MILLIONS, EXCEPT PER SHARE DATA 1999 1998 - --------------------------------------------------------- Net interest income .................. $2,374 $2,500 Provision for credit losses .......... 163 225 Noninterest income ................... 3,088 2,639 Noninterest expense .................. 3,413 3,217 - --------------------------------------------------------- Income before income taxes ........ 1,886 1,697 Income taxes ......................... 625 589 - --------------------------------------------------------- Net income ........................ $1,261 $1,108 - --------------------------------------------------------- Diluted earnings per common share .... $4.14 $3.58 ========================================================= The proforma financial information includes only those actions to be completed on or prior to the closing date and excludes revenue enhancements, one-time costs and expense savings, which could result from the integration of ISG into PNC's operations. In March 1999, the Corporation completed the sale of its credit card business, which represented approximately $2.9 billion of outstandings and 3.3 million accounts, including PNC National Bank, Wilmington, Delaware. This transaction resulted in a $193 million pretax gain. NOTE 3 SALE OF SUBSIDIARY STOCK PNC recognizes as income the gain from the sale of stock in its subsidiaries. The gain is the difference between PNC's basis in the stock and the proceeds per share received. PNC provides applicable taxes on the gain. In October 1999, BlackRock, Inc. ("BlackRock"), a majority-owned investment management subsidiary of the Corporation, issued nine million shares of class A common stock at $14.00 per share in an initial public offering. Prior to the public offering PNC and BlackRock's management owned approximately 82% and 18%, respectively, of BlackRock's outstanding common stock. Proceeds from the sale were approximately $115 million and resulted in PNC recording a pretax gain in the amount of $64 million or $59 million after tax. Subsequent to the public offering, PNC and BlackRock's management owned approximately 70% and 16%, respectively. 66|67 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 4 CASH FLOWS For the statement of cash flows, cash and cash equivalents are defined as cash and due from banks. The following table sets forth information pertaining to acquisitions and divestitures which affect cash flows: YEAR ENDED DECEMBER 31 - IN MILLIONS 1999 1998 - ---------------------------------------------------------- Assets (divested) acquired .......... $(2,062) $1,007 Liabilities divested ................ (208) (322) Cash paid ........................... 1,407 1,184 Cash and due from banks received .... 3,261 153 ========================================================== The Corporation did not have acquisition or divestiture activity which affected 1997 cash flows. NOTE 5 TRADING ACTIVITIES PNC engages in trading activities as part of risk management strategies and for "market making" in equity securities. Additionally, PNC participates in derivatives and foreign exchange trading as an accommodation to customers. Net trading income in 1999, 1998, and 1997 totaled $7 million, $87 million and $23 million, respectively, and was included in noninterest income as follows: IN MILLIONS 1999 1998 1997 - ---------------------------------------------------------- Net residential mortgage banking Risk management ............. $(66) $61 $10 Other income Securities trading .......... 48 3 1 Derivatives trading ......... 8 11 2 Foreign exchange ............ 17 12 10 - ---------------------------------------------------------- Net trading income $7 $87 $23 ========================================================== NOTE 6 SECURITIES AVAILABLE FOR SALE
UNREALIZED ----------------------- DECEMBER 31 - IN MILLIONS AMORTIZED COST GAINS LOSSES FAIR VALUE - ---------------------------------------------------------------------------------------------------- 1999 PORTFOLIO SECURITIES Debt securities U.S. Treasury and government agencies .... $411 $(11) $400 Mortgage-backed .......................... 3,918 $2 (151) 3,769 Asset-backed ............................. 1,051 (24) 1,027 State and municipal ...................... 134 2 (5) 131 Other debt ............................... 40 (1) 39 - ---------------------------------------------------------------------------------------------------- Total debt securities .................. 5,554 4 (192) 5,366 Corporate stocks and other ............... 590 9 (5) 594 - ---------------------------------------------------------------------------------------------------- Total .................................. 6,144 13 (197) 5,960 ==================================================================================================== 1999 MORTGAGE BANKING RISK MANAGEMENT Debt securities U.S. Treasury and government agencies .... 1,791 (204) 1,587 Mortgage-backed .......................... 68 (4) 64 - ---------------------------------------------------------------------------------------------------- Total .................................. 1,859 (208) 1,651 - ---------------------------------------------------------------------------------------------------- Total securities available for sale .. $8,003 $13 $(405) $7,611 ==================================================================================================== 1998 PORTFOLIO SECURITIES Debt securities U.S. Treasury and government agencies .... $152 $2 $(2) $152 Mortgage-backed .......................... 2,942 5 (11) 2,936 Asset-backed ............................. 709 1 (2) 708 State and municipal ...................... 122 6 128 Other debt ............................... 33 (2) 31 - ---------------------------------------------------------------------------------------------------- Total debt securities .................. 3,958 14 (17) 3,955 Corporate stocks and other ............... 542 10 (35) 517 - ---------------------------------------------------------------------------------------------------- Total .................................. 4,500 24 (52) 4,472 ==================================================================================================== 1998 MORTGAGE BANKING RISK MANAGEMENT Debt securities U.S. Treasury and government agencies .... 2,629 8 (35) 2,602 - ---------------------------------------------------------------------------------------------------- Total .................................. 2,629 8 (35) 2,602 ==================================================================================================== Total securities available for sale .. $7,129 $32 $(87) $7,074 ==================================================================================================== 1997 PORTFOLIO SECURITIES Debt securities U.S. Treasury and government agencies .... $658 $3 $(1) $660 Mortgage-backed .......................... 4,627 4 (45) 4,586 Asset-backed ............................. 2,079 5 (1) 2,083 State and municipal ...................... 170 7 177 Other debt ............................... 34 (1) 33 - ---------------------------------------------------------------------------------------------------- Total debt securities .................. 7,568 19 (48) 7,539 Corporate stocks and other ............... 501 3 (3) 501 - ---------------------------------------------------------------------------------------------------- Total .................................. 8,069 22 (51) 8,040 ==================================================================================================== 1997 MORTGAGE BANKING RISK MANAGEMENT Debt securities U.S. Treasury and government agencies .... 444 1 445 Mortgage-backed .......................... 45 (8) 37 - ---------------------------------------------------------------------------------------------------- Total .................................. 489 1 (8) 482 ==================================================================================================== Total securities available for sale .. $8,558 $23 $(59) $8,522 ====================================================================================================
The securities available for sale portfolio increased $537 million from December 31, 1998 to $7.6 billion at December 31, 1999. Total securities used in mortgage banking risk management were $1.7 billion at December 31, 1999. Portfolio securities represented 8% of total assets at December 31, 1999. The expected weighted-average life of the portfolio securities increased to 4 years and 7 months at December 31, 1999, compared with 2 years and 8 months at year-end 1998. The expected weighted-average life of total securities available for sale increased to 5 years and 7 months at December 31, 1999, compared with 5 years and 3 months at year-end 1998. Net securities gains were $22 million in 1999 and included a $41 million gain from the sale of Concord EFS, Inc. ("Concord") stock, partially offset by a $28 million write-down of an equity investment in Friedman, Billings, Ramsey Group, Inc. ("FBR"). Net securities gains in 1998 and 1997 were $16 million and $40 million, respectively. Net securities losses of $118 million in 1999 and net securities gains of $104 million and $9 million, respectively, in 1998 and 1997, related to residential mortgage banking risk management strategies were reported in net residential mortgage banking revenue. Net securities gains of $3 million in 1999 related to commercial mortgage banking activities were included in corporate services revenue. Information relating to security sales is set forth in the following table: YEAR ENDED DECEMBER 31 GROSS GROSS IN MILLIONS PROCEEDS GAINS LOSSES TAXES - -------------------------------------------------------------- 1999 ..................... $9,640 $69 $162 $(33) 1998 ..................... 12,779 124 4 42 1997 ..................... 10,223 59 10 17 ============================================================== The carrying value of securities pledged to secure public and trust deposits, repurchase agreements and for other purposes was $4.2 billion at December 31, 1999. The following table presents the amortized cost, fair value and weighted-average yield of debt securities at December 31, 1999 by remaining contractual maturity. CONTRACTUAL MATURITY OF DEBT SECURITIES DECEMBER 31, 1999 WITHIN 1 TO 5 TO AFTER 10 IN MILLIONS 1 YEAR 5 YEARS 10 YEARS YEARS TOTAL - --------------------------------------------------------------------------- PORTFOLIO SECURITIES U.S. Treasury and government agencies ..... $18 $356 $36 $1 $411 Mortgage-backed ......... 1 3 286 3,628 3,918 Asset-backed ............ 2 7 1,042 1,051 State and municipal ............. 10 16 36 72 134 Other debt .............. 2 11 11 16 40 - --------------------------------------------------------------------------- Total ................. $31 $388 $376 $4,759 $5,554 =========================================================================== Fair value .............. $31 $380 $362 $4,593 $5,366 Weighted-average yield ................. 6.06% 6.06% 6.11% 6.26% 6.23% =========================================================================== MORTGAGE BANKING RISK MANAGEMENT U.S. Treasury and government agencies ..... $1,791 $1,791 Mortgage-backed ......... $68 68 - --------------------------------------------------------------------------- Total ................. $1,791 $68 $1,859 =========================================================================== Fair value .............. $1,587 $64 $1,651 Weighted-average yield ................. 5.59% 5.52% 5.59% =========================================================================== Total debt securities ........ $31 $388 $2,167 $4,827 $7,413 - --------------------------------------------------------------------------- Total fair value....... $31 $380 $1,949 $4,657 $7,017 Weighted-average yield ............... 6.06% 6.06% 5.68% 6.25% 6.07% =========================================================================== Based on current interest rates and expected prepayment speeds, the total weighted-average expected maturity of mortgage-backed and asset-backed securities was 4 years and 11 months and 3 years and 11 months, respectively, at December 31, 1999. Weighted-average yields are based on historical cost with effective yields weighted for the contractual maturity of each security. NOTE 7 LOANS AND COMMITMENTS TO EXTEND CREDIT Loans outstanding were as follows:
DECEMBER 31 - IN MILLIONS 1999 1998 1997 1996 1995 - -------------------------------------------------------------------------------------------------------------------- Consumer ............................... $9,357 $10,980 $11,205 $12,092 $12,535 Credit card ............................ 2,958 3,830 2,776 1,004 Residential mortgage ................... 12,869 12,265 12,785 12,703 11,689 Commercial ............................. 21,468 25,182 19,989 18,588 17,446 Commercial real estate ................. 2,730 3,449 3,974 4,098 4,280 Lease financing ........................ 3,663 2,978 2,224 1,641 1,236 Other .................................. 683 392 650 285 866 - -------------------------------------------------------------------------------------------------------------------- Total loans ......................... 50,770 58,204 54,657 52,183 49,056 Unearned income ..................... (724) (554) (412) (385) (403) - -------------------------------------------------------------------------------------------------------------------- Total loans, net of unearned income $50,046 $57,650 $54,245 $51,798 $48,653 ====================================================================================================================
68|69 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Loan outstandings and related unfunded commitments are concentrated in PNC's primary geographic markets. At December 31, 1999, no specific industry concentration exceeded 6% of total outstandings and unfunded commitments. NET UNFUNDED COMMITMENTS DECEMBER 31 - IN MILLIONS 1999 1998 - ---------------------------------------------------------- Consumer ......................... $4,603 $3,664 Credit card ...................... 14,794 Residential mortgage ............. 648 2,756 Commercial ....................... 23,953 28,842 Commercial real estate ........... 38 1,022 Other ............................ 1,649 468 - ---------------------------------------------------------- Total ......................... $30,891 $51,546 ========================================================== Commitments to extend credit represent arrangements to lend funds provided there is no violation of specified contractual conditions. Commercial commitments are reported net of participations, assignments and syndications, primarily to financial institutions, totaling $7.2 billion and $5.9 billion at December 31, 1999 and 1998, respectively. Commitments generally have fixed expiration dates, may require payment of a fee, and contain termination clauses in the event the customer's credit quality deteriorates. Based on the Corporation's historical experience, most commitments expire unfunded, and therefore cash requirements are substantially less than the total commitment. Unfunded commitments related to loans designated for exit totaling $4.8 billion at December 31, 1999 are excluded from the above table. Net outstanding letters of credit totaled $4.6 billion and $4.7 billion at December 31, 1999 and 1998, respectively, and consisted primarily of standby letters of credit, which commit the Corporation to make payments on behalf of customers when certain specified future events occur. Such instruments are typically issued to support industrial revenue bonds, commercial paper, and bid or performance related contracts. At year-end 1999, the largest industry concentration within standby letters of credit was to government entities, which accounted for approximately 9% of the total. Maturities for standby letters of credit ranged from 2000 to 2020. At December 31, 1999, $9.3 billion of loans were pledged to secure borrowings and for other purposes. Certain directors and executive officers of the Corporation and its subsidiaries, as well as certain affiliated companies of these directors and officers, were customers of and had loans with subsidiary banks in the ordinary course of business. All such loans were on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with other customers and did not involve more than a normal risk of collectibility. The aggregate dollar amounts of these loans were $27 million and $28 million at December 31, 1999 and 1998, respectively. During 1999, new loans of $15 million were funded and repayments totaled $16 million. NOTE 8 NONPERFORMING ASSETS The following table sets forth nonperforming assets and related information:
DECEMBER 31 - DOLLARS IN MILLIONS 1999 1998 1997 1996 1995 - --------------------------------------------------------------------------------------------------------------- Nonaccrual loans .............................. $299 $295 $276 $347 $335 Troubled debt restructured loans .............. 2 23 - --------------------------------------------------------------------------------------------------------------- Total nonperforming loans .................. 299 295 276 349 358 - --------------------------------------------------------------------------------------------------------------- Foreclosed and other assets ................... 39 37 57 110 178 - --------------------------------------------------------------------------------------------------------------- Total nonperforming assets* ................ $338 $332 $333 $459 $536 - --------------------------------------------------------------------------------------------------------------- Nonperforming loans to total loans ............ .60% .51% .51% .67% .74% Nonperforming assets to total loans, loans held for sale and foreclosed assets ............. .61 .55 .59 .87 1.08 Nonperforming assets to total assets .......... .45 .43 .44 .63 .73 - --------------------------------------------------------------------------------------------------------------- Interest on nonperforming loans Computed on original terms ................. $28 $25 $31 $35 $36 Recognized ................................. 11 6 6 10 10 - --------------------------------------------------------------------------------------------------------------- Past due loans Accruing loans past due 90 days or more .... $96 $266 $288 $244 $225 As a percentage of total loans ............. .19% .46% .53% .47% .46% ===============================================================================================================
*THE ABOVE TABLE EXCLUDES $13 MILLION OF EQUITY MANAGEMENT ASSETS AT DECEMBER 31, 1999 CARRIED AT FAIR VALUE. NOTE 9 ALLOWANCE FOR CREDIT LOSSES Changes in the allowance for credit losses were as follows: IN MILLIONS 1999 1998 1997 - ---------------------------------------------------------- January 1 ..................... $753 $972 $1,166 Charge-offs ................... (216) (524) (385) Recoveries .................... 55 77 113 - ---------------------------------------------------------- Net charge-offs ............ (161) (447) (272) Provision for credit losses ... 163 225 70 - ---------------------------------------------------------- Sale of credit card business .. (81) Acquisitions .................. 3 8 - ---------------------------------------------------------- December 31 ................ $674 $753 $972 ========================================================== Impaired loans totaling $241 million and $238 million at December 31, 1999 and 1998, respectively, had a corresponding specific allowance for credit losses of $60 million and $53 million. The average balance of impaired loans was $243 million in 1999, $223 million in 1998, and $271 million in 1997. There was no interest income recognized on impaired loans in 1999. Interest income recognized on impaired loans in 1998 and 1997 was $1 million and $2 million, respectively. NOTE 10 PREMISES, EQUIPMENT AND LEASEHOLD IMPROVEMENTS Premises, equipment and leasehold improvements, stated at cost less accumulated depreciation and amortization, were as follows: DECEMBER 31 - IN MILLIONS 1999 1998 - ---------------------------------------------------------- Land ............................... $83 $90 Buildings .......................... 427 498 Equipment .......................... 1,402 1,168 Leasehold improvements ............. 214 198 - ---------------------------------------------------------- Total ........................... 2,126 1,954 - ---------------------------------------------------------- Accumulated depreciation and amortization ................ (1,198) (1,030) - ---------------------------------------------------------- Net book value ................ $928 $924 ========================================================== Depreciation and amortization expense on premises, equipment and leasehold improvements totaled $209 million in 1999, $159 million in 1998 and $148 million in 1997. Certain facilities and equipment are leased under agreements expiring at various dates until the year 2071. Substantially all such leases are accounted for as operating leases. Rental expense on such leases amounted to $151 million in 1999, $112 million in 1998 and $88 million in 1997. At December 31, 1999 and 1998, required minimum annual rentals due on noncancelable leases having terms in excess of one year aggregated $796 million and $685 million, respectively. Minimum annual rentals for each of the years 2000 through 2004 are $116 million, $115 million, $106 million, $89 million and $76 million, respectively. During 1999, PNC made the decision to sell various branches and office buildings. Buildings that were designated for sale, but not sold during 1999 are classified as held for sale. Initial write-downs were recorded in noninterest expense and generally reflected the difference between book value and appraised value less selling costs. Write-downs totaled $35 million and subsequent net gains from disposals totaled $8 million in 1999. It is anticipated that properties remaining in held for sale will be sold during 2000. NOTE 11 GOODWILL AND OTHER AMORTIZABLE ASSETS Goodwill and other amortizable assets, net of amortization, consisted of the following: DECEMBER 31 - IN MILLIONS 1999 1998 - ---------------------------------------------------------- Goodwill ............................ $2,239 $1,347 Purchased credit cards .............. 292 Customer-related intangibles ........ 165 20 Mortgage servicing rights Residential ...................... 1,594 772 Commercial ....................... 125 117 - ---------------------------------------------------------- Total ............................... $4,123 $2,548 ========================================================== Amortization of goodwill and other amortizable assets was as follows: YEAR ENDED DECEMBER 31 - IN MILLIONS 1999 1998 1997 - ----------------------------------------------------------------- Goodwill ............................. $81 $68 $53 Purchased credit cards ............... 6 36 34 Other ................................ 6 7 7 - ----------------------------------------------------------------- Total ............................. 93 111 94 Mortgage servicing rights Residential ....................... 6 309 80 Commercial ........................ 20 12 - ----------------------------------------------------------------- Total ............................. $119 $432 $174 ================================================================= 70|71 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 12 RESIDENTIAL MORTGAGE BANKING ACTIVITIES The following table presents the components of net residential mortgage banking income: YEAR ENDED DECEMBER 31 - IN MILLIONS 1999 1998 1997 - ------------------------------------------------------------------- Mortgage servicing ..................... $288 $167 $119 Originations and securitization ........ 172 190 94 MSR amortization, net of servicing hedge ..................... (188) (145) (61) - ------------------------------------------------------------------- Net residential mortgage banking income .............................. $272 $212 $152 =================================================================== Mortgage loans serviced for others are not included in the accompanying consolidated balance sheets. The outstanding balances of residential mortgage loans serviced for others were $67 billion, $54 billion and $32 billion at December 31, 1999, 1998, and 1997, respectively. The following table summarizes the changes in capitalized mortgage loan servicing rights: IN MILLIONS 1999 1998 1997 - -------------------------------------------------------------- Balance at beginning of year...... $980 $413 $333 Originations................... 260 226 104 Purchases...................... 568 488 37 Sales.......................... (17) Amortization................... (213) (130) (61) - -------------------------------------------------------------- Total.......................... 1,595 980 413 Less: Valuation allowance...... 1 208 29 - -------------------------------------------------------------- Net balance at end of year........ $1,594 $772 $384 ============================================================== The fair value of capitalized residential mortgage servicing rights at December 31, 1999 was approximately $1.8 billion. The estimated fair value of the residential servicing rights was determined by stratifying the portfolio by fixed rate versus variable rate, government guaranteed loans versus non-government guaranteed loans and using market interest rates. The following table summarizes the changes in the valuation allowance for capitalized residential mortgage servicing rights: IN MILLIONS 1999 1998 1997 - ------------------------------------------------------------------------ Balance at beginning of year .............. $208 $29 $10 (Reduction of) provision for capitalized residential mortgage servicing rights in excess of fair value ............................. (207) 179 19 - ------------------------------------------------------------------------ Balance at end of year .................... $1 $208 $29 - ------------------------------------------------------------------------ NOTE 13 DEPOSITS The aggregate amount of time deposits with a denomination greater than $100,000 was $6.8 billion and $6.0 billion at December 31, 1999 and 1998, respectively. Remaining contractual maturities of time deposits for the years 2000 through 2004 and thereafter are $14 billion, $2.1 billion, $670 million, $181 million and $1.0 billion, respectively. NOTE 14 BORROWED FUNDS Approximately 58.1% of bank notes mature in 2000 and have interest rates that range from 3.66% to 6.61%. Obligations to the Federal Home Loan Bank have maturities ranging from 2000 to 2018 and interest rates that range from 1.00% to 7.91%. Senior and subordinated notes consisted of the following: DECEMBER 31, 1999 DOLLARS IN MILLIONS OUTSTANDING STATED RATE MATURITY - ------------------------------------------------------------------------ Senior ................. $621 5.43 - 7.00% 2000 - 2004 Subordinated Nonconvertible ...... 2,327 6.13 - 9.88% 2001 - 2009 Total ............. $2,948 ======================================================================== Borrowed funds have scheduled repayments for the years 2000 through 2004 and thereafter of $10.8 billion, $.7 billion, $3.0 billion, $2.8 billion and $2.0 billion, respectively. NOTE 15 CAPITAL SECURITIES OF SUBSIDIARY TRUSTS Mandatorily Redeemable Capital Securities of Subsidiary Trusts ("Capital Securities") include preferred beneficial interests in the assets of PNC Institutional Capital Trust A, Trust B and Trust C. Trust A, formed in December 1996, holds $350 million of 7.95% junior subordinated debentures, due December 15, 2026, and redeemable after December 15, 2006, at a declining redemption price ranging from 103.975% to par on or after December 15, 2016. Trust B, formed in May 1997, holds $300 million of 8.315% junior subordinated debentures due May 15, 2027, and redeemable after May 15, 2007, at a declining redemption price ranging from 104.1575% to par on or after May 15, 2017. Trust C, formed in June 1998, holds $200 million of junior subordinated debentures due June 1, 2028, bearing interest at a floating rate per annum equal to 3-month LIBOR plus 57 basis points. The rate in effect at December 31, 1999 was 6.68%. Trust C Capital Securities are redeemable on or after June 1, 2008, at par. Cash distributions on the Capital Securities are made to the extent interest on the debentures is received by the Trusts. In the event of certain changes or amendments to regulatory requirements or federal tax rules, the Capital Securities are redeemable in whole. NOTE 16 SHAREHOLDERS' EQUITY Information related to preferred stock is as follows: SHARES OUTSTANDING DECEMBER 31 LIQUIDATION ------------------ SHARES IN THOUSANDS VALUE PER SHARE 1999 1998 - ---------------------------------------------------------------------- Authorized $1 par value ............... 17,300 17,352 Issued and outstanding Series A ................... $40 12 13 Series B ................... 40 3 5 Series C ................... 20 255 284 Series D ................... 20 367 388 Series F ................... 50 6,000 6,000 - ---------------------------------------------------------------------- Total .................... 6,637 6,690 ====================================================================== Series A through D are cumulative and, except for Series B, are redeemable at the option of the Corporation. Annual dividends on Series A, B and D preferred stock total $1.80 per share and on Series C preferred stock total $1.60 per share. Holders of Series A through D preferred stock are entitled to a number of votes equal to the number of full shares of common stock into which such preferred stock is convertible. Series A through D preferred stock have the following conversion privileges: (i) one share of Series A or Series B is convertible into eight shares of common stock; and (ii) 2.4 shares of Series C or Series D are convertible into four shares of common stock. The Series F preferred stock is nonconvertible and nonvoting, except in limited circumstances. Noncumulative dividends are payable quarterly through September 30, 2001, at a rate of 6.05% and, thereafter, indexed to certain market indices at rates not less than 6.55% or greater than 12.55%. The Series F preferred stock is redeemable until September 29, 2001, in the event of certain amendments to the Internal Revenue Code, at a declining redemption price from $51.50 to $50.50 per share. After September 29, 2001, the Series F preferred stock may be redeemed at $50 per share. The Corporation has a dividend reinvestment and stock purchase plan. Holders of preferred stock and common stock may participate in the plan, which provides that additional shares of common stock may be purchased at market value with reinvested dividends and voluntary cash payments. Common shares purchased pursuant to this plan were: 567,266 shares in 1999; 596,179 shares in 1998 and 765,760 shares in 1997. At December 31, 1999, the Corporation had reserved approximately 16.5 million common shares to be issued in connection with certain stock plans and the conversion of certain debt and equity securities. NOTE 17 REGULATORY MATTERS The Corporation is subject to the regulations of certain federal and state agencies and undergoes periodic examinations by such regulatory authorities. Neither the Corporation nor any of its subsidiaries is subject to written regulatory agreements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Corporation must meet specific capital guidelines that involve quantitative measures of assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on PNC's financial position and results of operations. The Corporation's capital amounts and classification are also subject to qualitative judgments by regulatory agencies about components, risk weightings and other factors. The following table sets forth regulatory capital ratios for PNC and the Corporation's only significant bank subsidiary, PNC Bank, N.A.: REGULATORY CAPITAL AMOUNT RATIOS DECEMBER 31 ---------------- ------------- DOLLARS IN MILLIONS 1999 1998 1999 1998 - -------------------------------------------------------------- RISK-BASED CAPITAL Tier I PNC ................. $4,731 $5,546 7.05% 7.80% PNC Bank, N.A. ...... 4,746 5,102 7.69 7.73 Total PNC ................. 7,438 7,940 11.08 11.16 PNC Bank, N.A. ...... 6,815 7,038 11.04 10.66 Leverage PNC ................. 4,731 5,546 6.61 7.28 PNC Bank, N.A. ...... 4,746 5,102 7.13 7.21 ============================================================== The access to and cost of funding new business initiatives including acquisitions, ability to pay dividends, deposit insurance costs, and the level and nature of regulatory oversight depend, in large part, on a financial institution's capital strength. The minimum regulatory capital ratios are 4% for Tier I risk-based, 8% for total risk-based and 3% for leverage. However, regulators may require higher capital levels when particular circumstances warrant. To qualify as well capitalized, regulators require banks to maintain capital ratios of at least 6% for Tier I, 10% for total risk-based and 5% for leverage. At December 31, 1999, the Corporation and each bank subsidiary met the well capitalized capital ratio requirements. Dividends that may be paid by subsidiary banks to the parent company are subject to certain legal limitations and also may be impacted by capital needs, regulatory requirements, corporate policies, contractual restrictions and other factors. Without regulatory approval, the amount available for payment of dividends by all subsidiary banks was $489 million at December 31, 1999. 72|73 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Under federal law, generally no bank subsidiary may extend credit to the parent company or its nonbank subsidiaries on terms and under circumstances which are not substantially the same as comparable extensions of credit to nonaffiliates. No extension of credit may be made to the parent company or a nonbank subsidiary which is in excess of 10% of the capital stock and surplus of such bank subsidiary or in excess of 20% of the capital and surplus of such bank subsidiary as to aggregate extensions of credit to the parent company and its subsidiaries. In certain circumstances, federal regulatory authorities may impose more restrictive limitations. Such extensions of credit, with limited exceptions, must be fully collateralized. The maximum amount available under statutory limitations for transfer from subsidiary banks to the parent company in the form of loans and dividends approximated 18% of consolidated net assets at December 31, 1999. Federal Reserve Board regulations require depository institutions to maintain cash reserves with the Federal Reserve Bank. During 1999, subsidiary banks maintained reserves which averaged $156 million. NOTE 18 FINANCIAL DERIVATIVES FAIR VALUE OF FINANCIAL DERIVATIVES POSITIVE NEGATIVE DECEMBER 31 NOTIONAL FAIR NOTIONAL FAIR IN MILLIONS VALUE VALUE VALUE VALUE - ----------------------------------------------------------------------- 1999 Interest rate Swaps ................ $3,666 $46 $5,402 $(108) Caps ................. 474 12 Floors ............... 3,000 1 311 (1) - ----------------------------------------------------------------------- Total interest rate risk management ...... 7,140 59 5,713 (109) Mortgage banking risk management ...... 8,747 80 1,165 (1) Forward contracts ....... 681 Credit default swaps .... 60 4,255 (4) - ----------------------------------------------------------------------- Total ................ $16,628 $139 $11,133 $(114) ======================================================================= 1998 Interest rate Swaps ................ $6,915 $177 $2,535 $(10) Caps ................. 722 6 Floors ............... 1,500 439 (9) - ----------------------------------------------------------------------- Total interest rate risk management ...... 9,137 183 2,974 (19) Mortgage banking risk management ...... 9,367 74 906 (10) Credit default swaps .... 4,255 (2) - ----------------------------------------------------------------------- Total ................ $18,504 $257 $8,135 $(31) ======================================================================= The Corporation uses a variety of off-balance-sheet financial derivatives as part of its overall interest rate risk management process and to manage risk associated with mortgage banking activities. Financial derivatives involve, to varying degrees, interest rate and credit risk in excess of the amount recognized on the balance sheet but less than the notional amount of the contract. For interest rate swaps and purchased interest rate caps and floors, only periodic cash payments and, with respect to such caps and floors, premiums are exchanged. Therefore, cash requirements and exposure to credit risk are significantly less than the notional value. The Corporation manages these risks as part of its asset and liability management process and through credit policies and procedures. The Corporation seeks to minimize the credit risk by entering into transactions with only a select number of high-quality institutions, establishing credit limits, requiring bilateral-netting agreements, and, in certain instances, segregated collateral. The Corporation uses interest rate swaps and purchased caps and floors to modify the interest rate characteristics of designated interest-bearing assets or liabilities from fixed to variable, variable to fixed, or one variable index to another. At December 31, 1999, $9.8 billion of interest rate swaps, caps and floors were designated to loans. At December 31, 1999, $144 million of financial derivatives were designated to securities available for sale. During 1999, derivative contracts modified the average effective yield on interest-earning assets from 7.38% to 7.42%. At December 31, 1999, $3.3 billion of interest rate swaps were designated to interest-bearing liabilities. During 1999, derivative contracts modified the average rate on interest-bearing liabilities from 4.36% to 4.34%. PNC uses a combination of on-balance-sheet instruments and financial derivatives to manage risk associated with its mortgage banking activities. The inherent risk affecting the value of MSR is the potential for the related mortgages to prepay, thereby eliminating the underlying servicing fee income stream. Generally, derivatives used to hedge the value of MSR have been marked to market with gains or losses included in noninterest income. Forward contracts are used to manage risk positions associated with mortgage origination and student lending activities. Substantially all forward contracts mature within 90 days of origination. Forward contracts are traded in over-the-counter markets and do not have standardized terms. Counterparties to the Corporation's forward contracts are primarily U.S. government agencies and brokers and dealers in mortgage-backed securities. In the event the counterparty is unable to meet its contractual obligations, the Corporation may be exposed to selling or purchasing mortgage loans at prevailing market prices. Unrealized gains or losses are considered in the lower of cost or market valuation of loans held for sale. Credit default swaps are used to manage credit risk and regulatory capital associated with commercial lending activities. At December 31, 1999 and 1998, the Corporation's exposure to credit losses with respect to financial derivatives was not material. OTHER DERIVATIVES The following schedule sets forth information relating to positions associated with customer-related and other derivatives: AT DECEMBER 31 -------------------------------------------------- POSITIVE NEGATIVE NET AVERAGE NOTIONAL FAIR FAIR ASSET FAIR IN MILLIONS VALUE VALUE VALUE (LIABILITY) VALUE - -------------------------------------------------------------------------------- 1999 Customer-related Interest rate Swaps ............... $17,103 $110 $(116) $(6) $(13) Caps/floors Sold .............. 3,440 (25) (25) (20) Purchased ......... 3,337 22 22 18 Foreign exchange ...... 3,310 47 (36) 11 7 Other ................. 2,161 22 (9) 13 3 - -------------------------------------------------------------------------------- Total customer-related 29,351 201 (186) 15 (5) Other .................... 1,238 6 6 4 - -------------------------------------------------------------------------------- Total other derivatives $30,589 $207 $(186) $21 $(1) ================================================================================ 1998 Customer-related Interest rate Swaps ............... $11,040 $69 $(89) $(20) $(10) Caps/floors Sold ................ 2,844 (19) (19) (9) Purchased ........... 2,589 20 20 11 Foreign exchange ...... 2,108 33 (27) 6 3 Other ................. 457 7 (8) (1) - -------------------------------------------------------------------------------- Total customer-related 19,038 129 (143) (14) (5) Other .................... 709 1 1 1 - -------------------------------------------------------------------------------- Total other derivatives $19,747 $130 $(143) $(13) $(4) - -------------------------------------------------------------------------------- NOTE 19 EMPLOYEE BENEFIT PLANS INCENTIVE SAVINGS PLANS The Corporation sponsors incentive savings plans covering substantially all employees. Under the plans, employee contributions up to 6% of biweekly compensation, as defined in the plans, subject to Internal Revenue Code limitations, are matched. Contributions to the plans are matched primarily by shares of PNC common stock held by the Corporation's employee stock ownership plan ("ESOP"). The Corporation makes annual contributions to the ESOP that are at least equal to the debt service requirements on the ESOP's borrowings less dividends received by the ESOP. All dividends received by the ESOP are used to pay debt service. Dividends used for debt service totaled $9 million in 1999 and 1998 and $10 million in 1997. To satisfy additional debt service requirements, PNC contributed $9 million in 1999, $7 million in 1998 and $13 million in 1997. As the ESOP's borrowings are repaid, shares are allocated to employees who made contributions during the year based on the proportion of annual debt service to total debt service. The Corporation includes all ESOP shares as common shares outstanding in the earnings per share computation. Components of ESOP shares are: AS OF OR FOR THE YEAR ENDED DECEMBER 31 - IN THOUSANDS 1999 1998 - ----------------------------------------------------------- Shares Unallocated ....................... 712 1,353 Allocated ......................... 4,251 3,772 Released for allocation ........... 652 1,014 Retired ........................... (587) (536) - ----------------------------------------------------------- Total ........................... 5,028 5,603 =========================================================== Compensation expense related to the portion of contributions matched with ESOP shares is determined based on the number of ESOP shares allocated. Compensation expense related to these plans was $21 million for 1999. PENSION PLANS The Corporation has a noncontributory, defined benefit pension plan covering most employees. Retirement benefits are derived from a cash balance formula that uses certain compensation levels, age and length of service. Pension contributions are based on an actuarially determined amount necessary to fund total benefits payable to plan participants. The Corporation also maintains nonqualified supplemental retirement plans for certain employees. All retirement benefits provided under these plans are unfunded and any payments to plan participants are made by the Corporation. Plan amendments encompassing covered compensation, determination of benefits, eligibility and interest rates used to calculate certain distributions from the plans were implemented during 1998. The Corporation also offered an enhanced voluntary retirement program to certain employees in the defined benefit plan meeting specific age and service requirements. These special termination benefits increased pension cost by $10 million in 1998. 74|75 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS A reconciliation of the changes in benefit obligation and plan assets for the defined benefit and supplemental plans is as follows: DECEMBER 31 - IN MILLIONS 1999 1998 - ----------------------------------------------------------------- Benefit obligation at beginning of year ..... $866 $812 Service cost ............................. 24 28 Interest cost ............................ 60 58 Plan amendments .......................... (16) Special termination benefits ............. 10 Actuarial loss ........................... (39) 82 Benefits paid ............................ (71) (108) - ----------------------------------------------------------------- Benefit obligation at end of year ........... $840 $866 ================================================================= Fair value of plan assets at beginning of year ................................ $758 $773 Actual return on plan assets ............. 147 88 Employer contribution .................... 105 5 Benefits paid ............................ (71) (108) - ----------------------------------------------------------------- Fair value of plan assets at end of year .... $939 $758 ================================================================= Funded status ............................... $99 $(108) Unrecognized net actuarial (gain) loss ... (60) 51 Unrecognized prior service cost .......... (6) (6) Unrecognized net transition asset ........ (4) (10) - ----------------------------------------------------------------- Net amount recognized ....................... $29 $(73) ================================================================= Accrued pension cost ........................ $29 $(73) Additional minimum liability ............. (22) (15) Intangible asset ......................... 3 4 Accumulated other comprehensive loss ..... 19 11 - ----------------------------------------------------------------- Net amount recognized on the balance sheet ............................ $29 $(73) ================================================================= The nonqualified supplemental retirement plan had an accrued benefit liability of $46 million at December 31, 1999 and $42 million at December 31, 1998. The nonqualified supplemental retirement plans had an accumulated benefit obligation of $68 million and $67 million at December 31, 1999 and 1998, respectively. Plan assets primarily consist of listed common stocks, U.S. government and agency securities and collective funds. Plan assets are managed by BlackRock and do not include common stock of the Corporation. The components of net periodic pension cost were as follows: YEAR ENDED DECEMBER 31 - IN MILLIONS 1999 1998 1997 - --------------------------------------------------------------------- Service cost ......................... $24 $28 $29 Interest cost ........................ 58 58 58 Expected return on plan assets ............................ (75) (71) (66) Transition amount amortization ...................... (5) (5) (5) Special termination benefits ......... 10 Amortization of prior service cost ...................... (1) 1 2 Recognized net actuarial loss ........ 2 1 1 - --------------------------------------------------------------------- Net periodic pension cost ......... $3 $22 $19 ===================================================================== Weighted-average assumptions were as follows: YEAR ENDED DECEMBER 31 1999 1998 1997 - ----------------------------------------------------------------------- Discount rate ....................... 7.75% 6.75% 7.20% Rate of compensation increase ....... 4.50 4.50 4.50 Expected return on plan assets ...... 9.50 9.50 9.50 ======================================================================= POSTRETIREMENT BENEFIT PLANS The Corporation also provides certain health care and life insurance benefits for retired employees ("postretirement benefits") through various plans. During 1998, additional health care options were offered to certain of the Corporation's retirees aged 65 years and over. A reconciliation of the accrued postretirement benefit obligation is as follows: DECEMBER 31 - IN MILLIONS 1999 1998 - ---------------------------------------------------------------- Benefit obligation at beginning of year ... $187 $213 Service cost ........................... 2 2 Interest cost .......................... 12 14 Plan amendments ........................ (31) Actuarial loss ......................... 13 6 Participant contributions .............. 3 3 Benefits paid .......................... (19) (20) - ---------------------------------------------------------------- Benefit obligation at end of year ......... $198 $187 ================================================================ Funded status ............................. $(198) $(187) Unrecognized actuarial loss ............... 30 17 Unrecognized prior service cost ........... (69) (75) - ---------------------------------------------------------------- Net amount recognized on the balance sheet .......................... $(237) $(245) ================================================================ The components of postretirement benefit cost were as follows: YEAR ENDED DECEMBER 31 - IN MILLIONS 1999 1998 1997 - -------------------------------------------------------------------- Service cost .......................... $2 $2 $2 Interest cost ......................... 12 14 16 Amortization of prior service cost ....................... (6) (6) (4) - -------------------------------------------------------------------- Net postretirement benefit cost .................... $8 $10 $14 ==================================================================== Weighted-average assumptions were as follows: DECEMBER 31 1999 1998 1997 - ---------------------------------------------------------------- Discount rate ...................... 7.75% 6.75% 7.20% Expected health care cost trend rate Medical pre-65 .................. 7.00 5.45 6.50 Medical post-65 ................. 8.00 5.45 6.50 Dental .......................... 7.00 5.25 6.20 ================================================================ The health care cost trend rate declines until it stabilizes at 5.25% beginning in 2005. A one-percentage-point change in assumed health care cost trend rates would have the following effects: YEAR ENDED DECEMBER 31, 1999 - IN MILLIONS INCREASE DECREASE - -------------------------------------------------------------------- Effect on total service and interest cost ........................... $1 $(1) Effect on postretirement benefit obligation ...................... 9 (9) - -------------------------------------------------------------------- NOTE 20 STOCK-BASED COMPENSATION PLANS The Corporation has a senior executive long-term incentive award plan ("Incentive Plan") that provides for the granting of incentive stock options, nonqualified options, stock appreciation rights ("SAR"), performance units and incentive shares. In any given year, the number of shares of common stock available for grant under the Incentive Plan may range from 1.5% to 3% of total issued shares of common stock determined at the end of the preceding calendar year. STOCK OPTIONS Options are granted at exercise prices not less than the market value of common stock on the date of grant. Options granted in 1999 are exercisable in one-third increments on the first, second and third anniversaries after the grant date. Options granted in prior years are mainly exercisable twelve months after the grant date. Payment of the option price may be in cash or shares of common stock at market value on the exercise date. The following table presents stock option data related to the Incentive Plan, a similar predecessor plan and other plans assumed in certain mergers: PER OPTION WEIGHTED- -------------- AVERAGE EXERCISE SHARES IN THOUSANDS EXERCISE PRICE PRICE SHARES - --------------------------------------------------------------- January 1, 1997 ........ $11.38 -$37.31 $26.03 9,030 Granted ............. 43.31 - 43.75 43.75 2,912 Exercised ........... 11.38 - 31.13 24.10 (2,969) SAR exercised ....... 17.13 (4) Terminated .......... 21.75 - 43.75 41.32 (178) --------- December 31, 1997 ...... 11.38 - 43.75 32.25 8,791 Granted ............. 43.66 - 66.00 55.17 3,449 Exercised ........... 11.38 - 43.75 31.26 (2,449) Terminated .......... 43.75 - 54.72 52.35 (225) --------- December 31, 1998 ...... 11.38 - 66.00 40.30 9,566 Granted ............. 50.47 - 76.00 51.62 3,585 Exercised ........... 11.38 - 54.72 33.89 (1,856) Terminated .......... 21.75 - 55.59 51.65 (246) --------- December 31, 1999 ...... $11.38 -$76.00 $44.79 11,049 =============================================================== At December 31, 1999, the weighted-average remaining contractual life of outstanding options was 7 years and 4 months and options for 7,682,745 shares of common stock were exercisable at a weighted-average price of $42.05 per share. The grant-date fair value of options granted in 1999 was $10.15 per option. Options for 82,000 and 118,000 shares of common stock were granted with an exercise price in excess of the market value on the date of grant in 1999 and 1998, respectively. Shares of common stock available for the granting of options under the Incentive Plan and the predecessor plans were: 10,584,683 at December 31, 1999 and 1998, and 9,012,899 at December 31, 1997. INCENTIVE SHARE AWARDS In 1999, there were no incentive share awards granted. In 1998, 241,500 incentive shares of common stock were granted to certain senior executives pursuant to the Incentive Plan. Issuance of such incentive shares is subject to the market price of PNC's common stock equaling or exceeding specified levels for defined periods. The restricted period ends two years after the issue date. During the restricted period, the recipient receives dividends and can vote the shares. If the recipient leaves the Corporation within the restricted period, the shares will be forfeited. There were no forfeitures in 1999 and there were 8,000 shares forfeited in 1998. At December 31, 1999, the shares granted in 1998 had not met the specified levels required for issuance. The requirements for the shares granted in 1997 were met on April 6, 1998. As a result of exceeding performance targets, 112.5% of the remaining 1997 shares, or 343,125 shares of restricted common stock were issued. Compensation expense recognized for incentive share awards was $12 million, $15 million and $6 million in 1999, 1998 and 1997, respectively. EMPLOYEE STOCK PURCHASE PLAN The Corporation's employee stock purchase plan ("ESPP") has approximately 3.5 million shares available for issuance. Persons who have been continuously employed for at least one year are eligible to participate. Participants purchase the Corporation's common stock at 85% of the lesser of fair market value on the first or last day of each offering period. No charge to earnings is recorded with respect to the ESPP. Shares issued pursuant to the ESPP were as follows: YEAR ENDED DECEMBER 31 SHARES PRICE PER SHARE - -------------------------------------------------------------- 1999 ...................... 406,740 $43.99 AND $47.39 1998 ...................... 315,097 43.83 and 48.34 1997 ...................... 367,494 33.15 and 35.49 =============================================================== The following table sets forth pro forma net income and diluted earnings per share as if compensation expense was recognized for stock options and the ESPP. PRO FORMA NET INCOME AND EPS YEAR ENDED DECEMBER 31 REPORTED PRO FORMA - ------------------------------------------------------------ Net income (in millions) 1999 ............................ $1,264 $1,243 1998 ............................ 1,115 1,099 1997 ............................ 1,052 1,035 - ------------------------------------------------------------ Diluted earnings per share 1999 ............................ $4.15 $4.08 1998 ............................ 3.60 3.54 1997 ............................ 3.28 3.23 - ------------------------------------------------------------ For purposes of computing pro forma results, PNC estimated the fair value of stock options and ESPP shares using the Black-Scholes option pricing model. Black-Scholes is predominantly used to value traded options which differ from PNC's options. 76|77 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The model requires the use of numerous assumptions, many of which are highly subjective in nature. Therefore, the pro forma results are estimates of results of operations as if compensation expense had been recognized for all stock-based compensation plans and are not indicative of the impact on future periods. The following assumptions were used in the option pricing model for purposes of estimating pro forma results. The dividend yield represents average yields over the previous three-year period. YEAR ENDED DECEMBER 31 1999 1998 1997 - --------------------------------------------------------------- Risk-free interest rate ........ 5.2% 5.5% 6.2% Dividend yield ................. 3.6 4.4 4.9 Volatility ..................... 22.1 19.9 27.6 Expected life .................. 6 YRS. 6 yrs. 6 yrs. =============================================================== NOTE 21 INCOME TAXES The components of income taxes were as follows: YEAR ENDED DECEMBER 31 - IN MILLIONS 1999 1998 1997 - --------------------------------------------------------------------- Current Federal ......................... $384 $368 $380 State ........................... 39 57 53 - --------------------------------------------------------------------- Total current ................ 423 425 433 Deferred Federal ......................... 209 167 126 State ........................... (5) 3 7 - --------------------------------------------------------------------- Total deferred ............... 204 170 133 - --------------------------------------------------------------------- Total ........................ $627 $595 $566 ===================================================================== Significant components of deferred tax assets and liabilities are as follows: DECEMBER 31 - IN MILLIONS 1999 1998 - ----------------------------------------------------------- Deferred tax assets Allowance for credit losses .......... $247 $269 Compensation and benefits ............ 132 163 Net unrealized securities losses ..... 130 5 Other ................................ 175 75 - ----------------------------------------------------------- Total deferred tax assets .......... 684 512 Deferred tax liabilities Leasing .............................. 548 418 Depreciation ......................... 29 39 Other ................................ 199 130 - ----------------------------------------------------------- Total deferred tax liabilities ..... 776 587 - ----------------------------------------------------------- Net deferred tax liability ......... $92 $75 =========================================================== A reconciliation between the statutory and effective tax rates follows: YEAR ENDED DECEMBER 31 1999 1998 1997 - ----------------------------------------------------------------- Statutory tax rate ................ 35.0% 35.0% 35.0% Increases (decreases) resulting from State taxes .................... 1.2 2.3 2.4 Tax-exempt interest ............ (.7) (1.0) (1.1) Goodwill ....................... .9 .8 .8 Other .......................... (3.2) (2.3) (2.1) - ----------------------------------------------------------------- Effective tax rate .......... 33.2% 34.8% 35.0% ================================================================= NOTE 22 EARNINGS PER SHARE The following table sets forth basic and diluted earnings per share calculations:
YEAR ENDED DECEMBER 31 - IN MILLIONS, EXCEPT SHARE AND PER SHARE DATA 1999 1998 1997 - ----------------------------------------------------------------------------------------------------------------------------------- CALCULATION OF BASIC EARNINGS PER COMMON SHARE Net income ......................................................................... $1,264 $1,115 $1,052 Less: Preferred dividends declared ................................................. 19 19 19 - ------------------------------------------------------------------------------------------------------------------------------------ Net income applicable to basic earnings per common share ........................... $1,245 $1,096 $1,033 - ------------------------------------------------------------------------------------------------------------------------------------ Basic weighted-average common shares outstanding (IN THOUSANDS) .................... 296,886 300,761 310,147 - ------------------------------------------------------------------------------------------------------------------------------------ Basic Earnings Per Common Share .................................................... $4.19 $3.64 $3.33 ==================================================================================================================================== CALCULATION OF DILUTED EARNINGS PER COMMON SHARE Net income ......................................................................... $1,264 $1,115 $1,052 Add: Interest expense on convertible debentures (net of tax) ....................... 1 3 Less: Dividends declared on nonconvertible preferred stock ......................... 18 18 18 - ------------------------------------------------------------------------------------------------------------------------------------ Net income applicable to diluted earnings per common share ......................... $1,246 $1,098 $1,037 ==================================================================================================================================== Basic weighted-average common shares outstanding (IN THOUSANDS) .................... 296,886 300,761 310,147 Weighted-average common shares to be issued using average market price and assuming: Conversion of preferred stock Series A and B .................................... 131 148 163 Conversion of preferred stock Series C and D .................................... 1,072 1,145 1,237 Conversion of debentures ........................................................ 24 761 2,449 Exercise of stock options ....................................................... 1,529 1,846 1,914 Incentive share awards .......................................................... 383 486 311 - ------------------------------------------------------------------------------------------------------------------------------------ Diluted weighted-average common shares outstanding (IN THOUSANDS) .................. 300,025 305,147 316,221 - ------------------------------------------------------------------------------------------------------------------------------------ Diluted Earnings Per Common Share .................................................. $4.15 $3.60 $3.28 ====================================================================================================================================
NOTE 23 SEGMENT REPORTING PNC operates seven major businesses engaged in regional banking, wholesale banking and asset management activities: PNC Bank-Regional Banking, PNC Bank-Corporate Banking, PNC Secured Finance, PNC Mortgage, PNC Advisors, BlackRock, and PFPC. Business results presented are based on PNC's management accounting practices and the Corporation's current management structure. The management accounting process uses various balance sheet and income statement assignments and transfers to measure performance of the businesses. Methodologies change from time to time as management accounting practices are enhanced and businesses change. Securities or borrowings and related net interest income are assigned based on the net asset or liability position of each business. Capital is assigned based on management's assessment of inherent risks and equity levels at independent companies providing similar products and services. Support areas not directly aligned with the businesses are allocated primarily based on the utilization of services. Total business financial results differ from consolidated financial results primarily due to differences between management accounting practices and generally accepted accounting principles, divested and exited businesses, equity management activities, minority interests, eliminations and unassigned items, the impact of which is reflected in Other. The following changes were made in the first quarter of 1999 to the presentation of business results: PNC Bank - Regional Banking reflects the combination of PNC Regional Community Bank and PNC National Consumer Bank. Branch-based brokerage activities (previously included in PNC Advisors), the middle market customer segment (previously included in PNC Bank - Corporate Banking) and regional real estate lending and leasing activities in PNC's geographic footprint (previously included in PNC Secured Finance) were also combined with PNC Bank - Regional Banking. Additionally, residential mortgages (previously included in PNC Mortgage) were realigned with PNC Bank - Regional Banking. Certain non-strategic wholesale lending businesses designated for exit (previously included in PNC Bank - Corporate Banking and PNC Secured Finance) as well as equity management activities (previously included in PNC Bank - Corporate Banking) are included in Other. Total outstandings and exposure designated for exit during 1999 in wholesale lending totaled $3.7 billion and $10.5 billion, respectively. Financial results for 1999, 1998 and 1997 are presented consistent with this structure. BUSINESS SEGMENT PRODUCTS AND SERVICES PNC Bank - Regional Banking provides credit, deposit, branch-based brokerage and electronic banking products and services to retail customers as well as credit, leasing, treasury management and capital markets products and services to mid-sized and small businesses primarily within PNC's geographic footprint. PNC Bank - Corporate Banking provides specialized credit, capital markets and treasury management products and services to corporations, institutions and government entities primarily within PNC's geographic footprint. PNC Secured Finance, serving corporate clients nationwide, is engaged in commercial real estate finance, business credit, and equipment lease financing. PNC Mortgage originates, purchases and services residential mortgages and related products. PNC Mortgage also acquires and securitizes residential mortgages as private-label, mortgage-backed securities and performs the master servicing of those securities for investors. PNC Advisors offers customized investment management, high-end brokerage services, personal trust, estate planning and traditional banking services to affluent and wealthy individuals, and investment management, trust and administrative services to pensions, 401(k) plans and charitable organizations. BlackRock manages assets for institutions and individuals through a variety of fixed income, liquidity, equity and alternative investment products, including BlackRock's flagship fund families. PFPC, the Corporation's global fund services subsidiary, provides a wide range of processing services to the investment management community. 78|79 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS RESULTS OF BUSINESSES
PNC BANK PNC BANK PNC YEAR ENDED DECEMBER 31 REGIONAL CORPORATE SECURED PNC PNC TOTAL IN MILLIONS BANKING BANKING FINANCE MORTGAGE ADVISORS BLACKROCK PFPC OTHER PNC - ----------------------------------------------------------------------------------------------------------------------------------- 1999 INCOME STATEMENT Net interest income* ........ $1,728 $219 $164 $89 $130 $(8) $6 $127 $2,455 Noninterest income .......... 579 189 117 332 608 381 251 288 2,745 - ----------------------------------------------------------------------------------------------------------------------------------- Total revenue ............ 2,307 408 281 421 738 373 257 415 5,200 Provision for credit losses . 59 9 (8) 7 96 163 Depreciation and amortization 91 13 22 11 14 18 10 123 302 Other noninterest expense ... 1,124 190 125 307 480 252 175 169 2,822 - ----------------------------------------------------------------------------------------------------------------------------------- Pretax earnings .......... 1,033 196 142 103 237 103 72 27 1,913 Income taxes ................ 392 69 28 41 90 44 27 (42) 649 - ----------------------------------------------------------------------------------------------------------------------------------- Earnings ................. $641 $127 $114 $62 $147 $59 $45 $69 $1,264 =================================================================================================================================== Inter-segment revenue ....... $30 $(42) $13 $36 $8 $84 $(129) =================================================================================================================================== Average assets .............. $39,513 $8,417 $6,701 $6,906 $3,353 $448 $308 $9,174 $74,820 =================================================================================================================================== 1998 INCOME STATEMENT Net interest income* ........ $1,706 $200 $122 $85 $121 $(11) $8 $368 $2,599 Noninterest income .......... 611 151 56 254 368 339 183 340 2,302 - ----------------------------------------------------------------------------------------------------------------------------------- Total revenue ............ 2,317 351 178 339 489 328 191 708 4,901 Provision for credit losses . 65 84 (8) 1 83 225 Depreciation and amortization 104 12 16 11 6 13 6 102 270 Other noninterest expense ... 1,187 171 90 269 290 247 125 291 2,670 - ----------------------------------------------------------------------------------------------------------------------------------- Pretax earnings .......... 961 84 80 59 192 68 60 232 1,736 Income taxes ................ 379 28 20 24 73 32 22 43 621 - ----------------------------------------------------------------------------------------------------------------------------------- Earnings ................. $582 $56 $60 $35 $119 $36 $38 $189 $1,115 =================================================================================================================================== Inter-segment revenue ....... $18 $(27) $10 $33 $1 $6 $(41) =================================================================================================================================== Average assets .............. $38,848 $7,564 $5,477 $5,350 $2,731 $441 $229 $13,986 $74,626 =================================================================================================================================== 1997 INCOME STATEMENT Net interest income* ........ $1,606 $152 $108 $50 $106 $(17) $7 $512 $2,524 Noninterest income .......... 518 135 45 189 289 206 142 251 1,775 - ----------------------------------------------------------------------------------------------------------------------------------- Total revenue ............... 2,124 287 153 239 395 189 149 763 4,299 Provision for credit losses . 59 12 9 3 (13) 70 Depreciation and amortization 103 11 1 9 5 12 4 97 242 Other noninterest expense ... 1,174 173 49 207 249 138 94 256 2,340 - ----------------------------------------------------------------------------------------------------------------------------------- Pretax earnings .......... 788 91 94 23 138 39 51 423 1,647 Income taxes ................ 310 28 28 9 53 17 20 130 595 - ----------------------------------------------------------------------------------------------------------------------------------- Earnings ................. $478 $63 $66 $14 $85 $22 $31 $293 $1,052 =================================================================================================================================== Inter-segment revenue ....... $13 $(21) $10 $34 $2 $(38) =================================================================================================================================== Average assets .............. $38,939 $7,043 $3,606 $2,577 $2,575 $336 $164 $15,404 $70,644 =================================================================================================================================== *TAXABLE-EQUIVALENT BASIS
Gains in 1999 from the sales of the credit card business, an equity interest in Electronic Payment Services, Inc., the BlackRock IPO, Concord stock and branches totaling $422 million are included in Other. Also in 1999, valuation adjustments associated with exiting certain non-strategic wholesale lending businesses totaling $195 million, costs related to efficiency initiatives of $98 million, a contribution to the PNC Bank Foundation of $30 million, the write-down of an equity investment in FBR of $28 million and expense associated with the buyout of PNC's mall ATM representative of $12 million are included in Other. The results of the credit card business through the first quarter of 1999, the corporate trust and escrow business in 1998 and 1997, minority interests, equity management activities, the impact of asset and liability management, eliminations, reclassifications and unassigned items comprise the remainder of Other. NOTE 24 COMPREHENSIVE INCOME Effective January 1, 1998, the Corporation adopted SFAS No. 130, "Reporting Comprehensive Income." SFAS No. 130 established new rules for the reporting and display of comprehensive income and its components. SFAS No. 130 requires unrealized gains or losses on securities available for sale and minimum pension liability adjustments to be included in other comprehensive income. Prior to the adoption of SFAS No. 130, unrealized gains or losses were reported separately in shareholders' equity. Prior year financial statements have been reclassified to conform to the requirements of SFAS No. 130. The income tax effects allocated to each component of other comprehensive income (loss) are as follows:
BEFORE-TAX TAX BENEFIT NET-OF-TAX DECEMBER 31 - IN MILLIONS AMOUNT (EXPENSE) AMOUNT - ---------------------------------------------------------------------------- 1999 Unrealized securities losses ......... $(363) $127 $(236) Less: Reclassification adjustment for losses realized in net income ..................... (26) 9 (17) - ---------------------------------------------------------------------------- Net unrealized securities losses ............................ (337) 118 (219) Minimum pension liability adjustment ........................ (8) 3 (5) - ---------------------------------------------------------------------------- Other comprehensive loss ............. $(345) $121 $(224) ============================================================================ 1998 Unrealized securities losses ......... $(42) $15 $(27) Less: Reclassification adjustment for losses realized in net income ..................... (22) 8 (14) - ---------------------------------------------------------------------------- Net unrealized securities losses ............................ (20) 7 (13) Minimum pension liability adjustment ........................ (11) 4 (7) - ---------------------------------------------------------------------------- Other comprehensive loss ............. $(31) $11 $(20) ============================================================================ 1997 Net unrealized securities gains ............................. $68 $(24) $44 - ---------------------------------------------------------------------------- Other comprehensive income ........... $68 $(24) $44 ============================================================================
The accumulated balances related to each component of other comprehensive loss are as follows: DECEMBER 31 - IN MILLIONS 1999 1998 - ---------------------------------------------------------- Net unrealized securities losses........ $(255) $(36) Minimum pension liability adjustment.... (12) (7) - ---------------------------------------------------------- Accumulated other comprehensive loss.... $(267) $(43) ========================================================== NOTE 25 LITIGATION The Corporation and persons to whom the Corporation may have indemnification obligations, in the normal course of business, are subject to various pending and threatened lawsuits in which claims for monetary damages are asserted. Management, after consultation with legal counsel, does not at the present time anticipate the ultimate aggregate liability, if any, arising out of such lawsuits will have a material adverse effect on the Corporation's financial position. At the present time, management is not in a position to determine whether any such pending or threatened litigation will have a material adverse effect on the Corporation's results of operations in any future reporting period. NOTE 26 FAIR VALUE OF FINANCIAL INSTRUMENTS 1999 1998 ------------------------------------------ CARRYING FAIR CARRYING FAIR DECEMBER 31 - IN MILLIONS AMOUNT VALUE AMOUNT VALUE - ---------------------------------------------------------------------------- ASSETS Cash and short-term assets .................... $4,570 $4,570 $3,946 $3,946 Securities available for sale .................. 7,611 7,611 7,074 7,074 Loans held for sale .......... 5,798 5,798 3,226 3,226 Net loans (EXCLUDES LEASES) .. 46,414 46,767 54,442 56,535 Mortgage servicing rights .... 1,719 1,897 889 982 LIABILITIES Demand, savings and money market deposits ..... 28,689 28,689 29,359 29,359 Time deposits ................ 17,979 17,890 18,137 18,291 Borrowed funds ............... 19,507 19,582 21,094 21,362 OFF-BALANCE-SHEET Commitments to extend credit .......... (5) (5) (17) (17) Letters of credit ............ (9) (9) (15) (15) Financial derivatives used for Interest rate risk management ......... 75 (50) 76 164 Mortgage banking risk management ......... 18 79 51 64 Credit-related activities .............. (4) (1) (2) Customer/other derivatives ............. 21 21 (13) (13) ============================================================================ Real and personal property, lease financing, loan customer relationships, deposit customer intangibles, retail branch networks, fee-based businesses, such as asset management, mortgage banking and brokerage, trademarks and brand names are excluded from the amounts set forth above. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Corporation. Fair value is defined as the estimated amount at which a financial instrument could be exchanged in a current 80|81 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS transaction between willing parties, or other than in a forced or liquidation sale. However, it is not management's intention to immediately dispose of a significant portion of such financial instruments, and unrealized gains or losses should not be interpreted as a forecast of future earnings and cash flows. The derived fair values are subjective in nature, involve uncertainties and significant judgment and, therefore, cannot be determined with precision. Changes in assumptions could significantly impact the derived fair value estimates. The following methods and assumptions were used in estimating fair value amounts for financial instruments. GENERAL For short-term financial instruments realizable in three months or less, the carrying amount reported in the consolidated balance sheet approximates fair value. Unless otherwise stated, the rates used in discounted cash flow analyses are based on market yield curves. CASH AND SHORT-TERM ASSETS The carrying amounts reported in the consolidated balance sheet for cash and short-term investments approximate those assets' fair values primarily due to their short-term nature. For purposes of this disclosure only, short-term assets include due from banks, interest-earning deposits with banks, federal funds sold and resale agreements, trading securities, customer's acceptance liability and accrued interest receivable. SECURITIES AVAILABLE FOR SALE The fair value of securities available for sale is based on quoted market prices, where available. If quoted market prices are not available, fair value is estimated using the quoted market prices of comparable instruments. NET LOANS AND LOANS HELD FOR SALE Fair values are estimated based on the discounted value of expected net cash flows incorporating assumptions about prepayment rates, credit losses and servicing fees and costs. For credit cards and revolving home equity loans, this fair value does not include any amount for new loans or the related fees that will be generated from the existing customer relationships. In the case of nonaccrual loans, scheduled cash flows exclude interest payments. The carrying value of loans held for sale approximates fair value. MORTGAGE SERVICING RIGHTS The fair value of mortgage servicing rights is estimated based on the present value of future cash flows. DEPOSITS The carrying amounts of noninterest-bearing demand and interest-bearing money market and savings deposits approximate fair values. For time deposits, including foreign deposits, fair values are estimated based on the discounted value of expected net cash flows taking into account current interest rates. BORROWED FUNDS The carrying amounts of federal funds purchased, commercial paper, acceptances outstanding and accrued interest payable are considered fair value because of their short-term nature. For all other borrowed funds, fair values are estimated based on the discounted value of expected net cash flows taking into account current interest rates. UNFUNDED LOAN COMMITMENTS AND LETTERS OF CREDIT Fair values for commitments to extend credit and letters of credit are estimated based on the amount of deferred fees and the creditworthiness of the counterparties. FINANCIAL AND OTHER DERIVATIVES The fair value of derivatives is estimated based on the discounted value of the expected net cash flows. These fair values represent the estimated amounts the Corporation would receive or pay to terminate the contracts, taking into account current interest rates. NOTE 27 OTHER FINANCIAL INFORMATION Summarized financial information of the parent company is as follows: PARENT COMPANY ONLY STATEMENT OF INCOME YEAR ENDED DECEMBER 31 - IN MILLIONS 1999 1998 1997 - ---------------------------------------------------------------------- OPERATING REVENUE Dividends from: Bank subsidiaries ................. $1,139 $774 $852 Nonbank subsidiaries .............. 80 21 9 Interest income ...................... 9 5 14 Noninterest income ................... 4 1 2 - ---------------------------------------------------------------------- Total operating revenue ........ 1,232 801 877 ====================================================================== OPERATING EXPENSE Interest expense ..................... 86 92 76 Other expense ........................ 52 7 11 - ---------------------------------------------------------------------- Total operating expense ........ 138 99 87 - ---------------------------------------------------------------------- Income before income taxes and equity in undistributed net income of subsidiaries ........ 1,094 702 790 Income tax benefits .................. (47) (35) (32) - ---------------------------------------------------------------------- Income before equity in undistributed net income of subsidiaries ................... 1,141 737 822 Net equity in undistributed net income (excess dividends): Bank subsidiaries ................. (7) 312 144 Nonbank subsidiaries .............. 130 66 86 - ---------------------------------------------------------------------- Net income $1,264 $1,115 $1,052 ====================================================================== PARENT COMPANY ONLY BALANCE SHEET DECEMBER 31 - IN MILLIONS 1999 1998 - --------------------------------------------------------------- ASSETS Cash and due from banks .................... $1 Short-term investments with subsidiary banks ................................... $16 9 Securities available for sale 27 Investments in: Bank subsidiaries ....................... 6,016 6,737 Nonbank subsidiaries .................... 734 740 Other assets ............................... 154 164 - --------------------------------------------------------------- Total assets .......................... $6,920 $7,678 =============================================================== LIABILITIES Borrowed funds ............................. $100 $300 Nonbank affiliate borrowings ............... 613 1,006 Accrued expenses and other liabilities ..... 261 329 - --------------------------------------------------------------- Total liabilities ..................... 974 1,635 - --------------------------------------------------------------- SHAREHOLDERS' EQUITY ....................... 5,946 6,043 - --------------------------------------------------------------- Total liabilities and shareholders' equity ............................. $6,920 $7,678 =============================================================== At December 31, 1999, borrowed funds are scheduled for repayment in 2001. Commercial paper and all other debt issued by PNC Funding Corp., a wholly-owned subsidiary, is guaranteed by the parent company. In addition, in connection with certain affiliates' mortgage servicing operations, the parent company has committed to maintain such affiliates' net worth above minimum requirements. During 1999, 1998 and 1997, the parent company received net income tax refunds of $44 million, $42 million and $35 million, respectively. Such refunds represent the parent company's portion of consolidated income taxes. During 1999, 1998 and 1997, the parent company paid interest of $96 million, $95 million and $65 million, respectively. PARENT COMPANY ONLY STATEMENT OF CASH FLOWS YEAR ENDED DECEMBER 31 - IN MILLIONS 1999 1998 1997 - ------------------------------------------------------------------------------ OPERATING ACTIVITIES Net income ....................... $1,264 $1,115 $1,052 Adjustments to reconcile net income to net cash provided by operating activities: Equity in undistributed net earnings of subsidiaries .............. (123) (378) (230) Other ...................... (14) 19 19 - ------------------------------------------------------------------------------ Net cash provided by operating activities ....... 1,127 756 841 - ------------------------------------------------------------------------------ INVESTING ACTIVITIES Net change in short-term investments with subsidiary bank ....................... (7) 1 Net capital returned from (contributed to) subsidiaries ............... 631 (261) 57 Securities available for sale Sales ......................... 1,592 1,170 3,321 Purchases ..................... (1,565) (1,129) (2,787) Cash paid in acquisitions ........ (2) (83) Other ............................ (17) (22) (8) - ------------------------------------------------------------------------------ Net cash provided (used) by investing activities 632 (325) 584 - ------------------------------------------------------------------------------ FINANCING ACTIVITIES Borrowings from nonbank subsidiary .................... 687 297 656 Repayments on borrowings from nonbank subsidiary ............ (1,080) (14) (222) Acquisition of treasury stock ......................... (803) (342) (1,532) Cash dividends paid to shareholders ............... (520) (495) (488) Issuance of stock ................ 141 123 155 Repayments on borrowings ......... (200) Other ............................ 15 3 - ------------------------------------------------------------------------------ Net cash used by financing activities .................... (1,760) (431) (1,428) - ------------------------------------------------------------------------------ Decrease in cash and due from banks ................ (1) (3) Cash and due from banks at beginning of year ............. $1 1 4 - ------------------------------------------------------------------------------ Cash and due from banks at end of year ................ $1 $1 ============================================================================== NOTE 28 UNUSED LINE OF CREDIT At December 31, 1999, the Corporation maintained a line of credit in the amount of $500 million, none of which was drawn. This line is available for general corporate purposes and expires in 2002. 82|83 STATISTICAL INFORMATION SELECTED QUARTERLY FINANCIAL DATA
1999 1998 ---------------------------------------- ----------------------------------------- QUARTER - DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA FOURTH THIRD SECOND FIRST FOURTH THIRD SECOND FIRST - --------------------------------------------------------------------------------------------------------------------------------- SUMMARY OF OPERATIONS Interest income .................... $1,215 $1,212 $1,204 $1,290 $1,354 $1,354 $1,314 $1,291 Interest expense ................... 641 618 597 632 695 708 683 654 - --------------------------------------------------------------------------------------------------------------------------------- Net interest income ................ 574 594 607 658 659 646 631 637 Provision for credit losses ........ 30 30 25 78 115 45 35 30 Noninterest income before net securities (losses) gains ... 721 649 622 731 696 528 569 493 Net securities (losses) gains ...... (22) 2 42 2 1 13 Noninterest expense ................ 810 724 767 823 797 696 739 708 - --------------------------------------------------------------------------------------------------------------------------------- Income before income taxes ......... 433 491 479 488 445 434 426 405 Income taxes ....................... 129 171 164 163 160 153 146 136 - --------------------------------------------------------------------------------------------------------------------------------- Net income ......................... $304 $320 $315 $325 $285 $281 $280 $269 ================================================================================================================================= PER COMMON SHARE DATA Book value ......................... $19.23 $18.90 $18.40 $18.78 $18.86 $18.21 $17.64 $17.20 Earnings Basic ........................... 1.02 1.07 1.04 1.06 .93 .92 .92 .88 Diluted ......................... 1.01 1.06 1.03 1.05 .92 .91 .90 .87 Cash* ........................... 1.09 1.12 1.10 1.11 .98 .97 .96 .91 *EXCLUDES AMORTIZATION OF GOODWILL. ================================================================================================================================= AVERAGE BALANCE SHEET Total assets ....................... $73,548 $73,763 $75,060 $76,958 $77,377 $75,290 $73,632 $72,141 Securities available for sale ...... 8,211 8,803 9,437 7,755 7,323 7,073 7,323 7,784 Loans, net of unearned income ...... 51,070 51,746 52,479 56,695 57,366 55,938 55,348 54,083 Deposits ........................... 44,455 44,899 45,470 46,416 46,250 44,522 44,169 44,630 Borrowed funds ..................... 20,029 20,242 20,544 21,584 22,723 22,642 21,844 19,989 Shareholders' equity ............... 5,904 5,732 5,873 5,975 5,800 5,646 5,476 5,398 =================================================================================================================================
ANALYSIS OF YEAR-TO-YEAR CHANGES IN NET INTEREST INCOME
1999/1998 1998/1997 ------------------------------------- ------------------------------------- INCREASE/(DECREASE) IN INCOME/EXPENSE INCREASE/(DECREASE) IN INCOME/EXPENSE DUE TO CHANGES IN: DUE TO CHANGES IN: TAXABLE-EQUIVALENT BASIS-- IN MILLIONS VOLUME RATE TOTAL VOLUME RATE TOTAL - --------------------------------------------------------------------------------------------------------------------------- INTEREST-EARNING ASSETS Loans held for sale .................... $44 $14 $58 $135 $(6) $129 Securities available for sale U.S. Treasury, government agencies and corporations .................... (25) (18) (43) (67) (25) (92) Other debt .......................... 96 (2) 94 (12) (5) (17) Other ............................... 8 (2) 6 (2) (5) (7) ------------- ------------- Total securities available for sale 67 (10) 57 (83) (33) (116) Loans, net of unearned income Consumer ............................ (63) (33) (96) (19) 1 (18) Credit card ......................... (471) 33 (438) 40 39 79 Residential mortgage ................ (3) (31) (34) (44) (27) (71) Commercial .......................... 25 (27) (2) 296 4 300 Commercial real estate .............. 7 (19) (12) (68) (14) (82) Other ............................... 63 2 65 25 2 27 ------------- ------------- Total loans, net of unearned income (219) (298) (517) 230 5 235 Other .................................. 7 (1) 6 5 6 11 ------------- ------------- Total interest-earning assets ..... (63) (333) $(396) 265 (6) $259 ============= ============= INTEREST-BEARING LIABILITIES Interest-bearing deposits Demand and money market ............. 80 (26) $54 40 8 $48 Savings ............................. (4) (8) (12) (5) (1) (6) Other time .......................... (76) (60) (136) (12) (7) (19) Deposits in foreign offices ......... (4) (4) (8) (9) (9) ------------- ------------- Total interest-bearing deposits ... 45 (147) (102) 31 (17) 14 Borrowed funds Federal funds purchased ............. (45) (10) (55) (17) (2) (19) Repurchase agreements ............... 13 (13) 38 (6) 32 Bank notes and senior debt .......... (116) (32) (148) 86 (4) 82 Other borrowed funds ................ 69 (30) 39 56 (2) 54 Subordinated debt ................... 19 (5) 14 22 (1) 21 ------------- ------------- Total borrowed funds .............. (68) (82) (150) 187 (17) 170 ------------- ------------- Total interest-bearing liabilities .. (5) (247) $(252) 189 (5) $184 ------------- ------------- Change in net interest income ..... (31) (113) $(144) 134 (59) $75 ============= =============
CHANGES ATTRIBUTABLE TO RATE/VOLUME ARE PRORATED INTO RATE AND VOLUME COMPONENTS. 84|85 STATISTICAL INFORMATION ALLOWANCE FOR CREDIT LOSSES The allowance for credit losses is based on periodic evaluations of the credit portfolio by management. These evaluations consider, among other factors, historic losses within specific industries, current economic conditions, loan portfolio trends, specific credit reviews and estimates based on subjective factors. SUMMARY OF LOAN LOSS EXPERIENCE
YEAR ENDED DECEMBER 31 - DOLLARS IN MILLIONS 1999 1998 1997 1996 1995 - ----------------------------------------------------------------------------------------------------------------------------- Allowance at beginning of year ............. $753 $972 $1,166 $1,259 $1,352 Charge-offs Consumer ................................ 63 83 104 100 76 Credit card ............................. 60 297 208 66 31 Residential mortgage .................... 8 7 9 9 10 Commercial .............................. 72 122 48 52 84 Commercial real estate Commercial mortgage ................... 1 6 8 10 23 Real estate project ................... 3 2 4 8 14 Other ................................... 9 7 4 2 2 - ----------------------------------------------------------------------------------------------------------------------------- Total charge-offs ..................... 216 524 385 247 240 Recoveries Consumer ................................ 25 34 36 34 33 Credit card ............................. 2 17 25 7 6 Residential mortgage .................... 1 1 1 2 2 Commercial .............................. 22 20 38 28 49 Commercial real estate Commercial mortgage ................... 1 2 10 6 9 Real estate project ................... 3 1 2 4 6 Other ................................... 1 2 1 2 2 - ----------------------------------------------------------------------------------------------------------------------------- Total recoveries ...................... 55 77 113 83 107 - ----------------------------------------------------------------------------------------------------------------------------- Net charge-offs ....................... 161 447 272 164 133 Provision for credit losses ................ 163 225 70 6 (Divestitures)/acquisitions ................ (81) 3 8 71 34 - ----------------------------------------------------------------------------------------------------------------------------- Allowance at end of year .............. $674 $753 $972 $1,166 $1,259 ============================================================================================================================= Allowance as a percent of period-end Loans ................................. 1.35% 1.31% 1.79% 2.25% 2.59% Nonperforming loans ................... 225.42 255.25 351.79 334.40 351.68 As a percent of average loans Net charge-offs ....................... .30 .80 .51 .33 .29 Provision for credit losses ........... .31 .40 .13 .01 Allowance for credit losses ........... 1.27 1.35 1.84 2.37 2.76 Allowance as a multiple of net charge-offs . 4.19x 1.68x 3.57x 7.11x 9.47x =============================================================================================================================
The following table presents the allocation of allowance for credit losses and the categories of loans as a percentage of total loans. For purposes of this presentation, the unallocated portion of the allowance for credit losses has been assigned to loan categories based on the relative specific and pool allocation amounts. ALLOCATION OF ALLOWANCE FOR CREDIT LOSSES
1999 1998 1997 1996 1995 ------------------------------------------------------------------------------------------------------------ LOANS TO LOANS TO LOANS TO LOANS TO LOANS TO DECEMBER 31 TOTAL TOTAL TOTAL TOTAL TOTAL DOLLARS IN MILLIONS ALLOWANCE LOANS ALLOWANCE LOANS ALLOWANCE LOANS ALLOWANCE LOANS ALLOWANCE LOANS - ------------------------------------------------------------------------------------------------------------------------------------ Consumer ............... $58 18.6% $74 19.0% $107 20.7% $139 23.3% $158 25.8% Credit card ............ 136 5.1 258 7.0 141 5.4 45 2.1 Residential mortgage ... 11 25.7 8 21.3 42 23.6 80 24.5 112 24.0 Commercial ............. 510 42.9 446 43.7 406 36.9 606 35.9 585 34.5 Commercial real estate.. 63 5.5 59 6.0 141 7.3 173 7.9 332 10.1 Other .................. 32 7.3 30 4.9 18 4.5 27 3.0 27 3.5 - ------------------------------------------------------------------------------------------------------------------------------------ Total ............... $674 100.0% $753 100.0% $972 100.0% $1,166 100.0% $1,259 100.0% ====================================================================================================================================
STATISTICAL INFORMATION AVERAGE CONSOLIDATED BALANCE SHEET AND NET INTEREST ANALYSIS
1999 1998 ---------------------------------- ------------------------------ AVERAGE YEAR ENDED DECEMBER 31 AVERAGE AVERAGE AVERAGE YIELDS/ TAXABLE-EQUIVALENT BASIS, DOLLARS IN MILLIONS BALANCES INTEREST YIELDS/RATES BALANCES INTEREST RATES - ------------------------------------------------------------------------------------------------------------------------------------ ASSETS Interest-earning assets Loans held for sale..................................... $3,986 $291 7.30% $3,371 $233 6.91% Securities available for sale U.S. Treasury, government agencies and corporations.................................. 4,440 229 5.16 4,910 272 5.54 Other debt.......................................... 3,441 216 6.28 1,913 122 6.38 Other............................................... 673 42 6.24 551 36 6.53 - --------------------------------------------------------------------------------- ---------------------- Total securities available for sale............... 8,554 487 5.70 7,374 430 5.83 Loans, net of unearned income Consumer............................................ 10,314 844 8.18 11,073 940 8.49 Credit card......................................... 672 100 14.88 3,849 538 13.98 Residential mortgage................................ 12,451 871 7.00 12,496 905 7.24 Commercial ......................................... 23,084 1,792 7.76 22,773 1,794 7.88 Commercial real estate.............................. 3,362 265 7.88 3,279 277 8.45 Other............................................... 3,096 222 7.17 2,223 157 7.06 - --------------------------------------------------------------------------------- ---------------------- Total loans, net of unearned income............... 52,979 4,094 7.73 55,693 4,611 8.28 Other................................................... 1,117 71 6.36 1,001 65 6.49 - --------------------------------------------------------------------------------- ---------------------- Total interest-earning assets/interest income............................ 66,636 4,943 7.42 67,439 5,339 7.92 Noninterest-earning assets Allowance for credit losses............................. (695) (863) Cash and due from banks................................. 2,103 2,227 Other assets............................................ 6,776 5,823 - ---------------------------------------------------------------------- ------------ Total assets........................................ $74,820 $74,626 ====================================================================== ============ LIABILITIES, CAPITAL SECURITIES AND SHAREHOLDERS' EQUITY Interest-bearing liabilities Interest-bearing deposits Demand and money market............................. $17,698 493 2.79 $14,820 439 2.96 Savings............................................. 2,390 39 1.63 2,620 51 1.95 Other time.......................................... 15,734 793 5.04 17,206 929 5.40 Deposits in foreign offices......................... 872 44 5.05 935 52 5.56 - --------------------------------------------------------------------------------- ---------------------- Total interest-bearing deposits................... 36,694 1,369 3.73 35,581 1,471 4.13 Borrowed funds Federal funds purchased............................. 1,662 84 5.05 2,526 139 5.50 Repurchase agreements............................... 1,890 75 3.97 1,592 75 4.71 Bank notes and senior debt.......................... 8,517 457 5.37 10,657 605 5.68 Other borrowed funds................................ 6,474 349 5.39 5,235 310 5.92 Subordinated debt................................... 2,051 154 7.51 1,799 140 7.78 - --------------------------------------------------------------------------------- ---------------------- Total borrowed funds.............................. 20,594 1,119 5.43 21,809 1,269 5.82 - --------------------------------------------------------------------------------- ---------------------- Total interest-bearing liabilities/interest expense...................... 57,288 2,488 4.34 57,390 2,740 4.77 Noninterest-bearing liabilities and shareholders' equity Demand and other noninterest-bearing deposits............................................ 8,610 9,315 Accrued expenses and other liabilities.................. 2,204 1,578 Mandatorily redeemable capital securities of subsidiary trusts................................ 848 762 Shareholders' equity.................................... 5,870 5,581 - ---------------------------------------------------------------------- ------------ Total liabilities, capital securities and shareholders' equity............................ $74,820 $74,626 ==================================================================================================================================== Interest rate spread 3.08 3.15 Impact of noninterest-bearing sources .60 .70 - ------------------------------------------------------------------------------------------------------------------------------------ Net interest income/margin.......................... $2,455 3.68% $2,599 3.85% ====================================================================================================================================
LOAN FEES FOR EACH OF THE FIVE YEARS ENDED DECEMBER 31, 1999, 1998, 1997, 1996 AND 1995 WERE $120 MILLION, $107 MILLION, $89 MILLION, $93 MILLION AND $82 MILLION, RESPECTIVELY. NONACCRUAL LOANS ARE INCLUDED IN LOANS, NET OF UNEARNED INCOME. THE IMPACT OF FINANCIAL DERIVATIVES USED IN INTEREST RATE RISK MANAGEMENT IS INCLUDED IN THE INTEREST INCOME/EXPENSE AND AVERAGE YIELDS/RATES OF THE RELATED ASSETS AND LIABILITIES. AVERAGE BALANCES OF SECURITIES AVAILABLE FOR SALE ARE BASED ON AMORTIZED HISTORICAL COST (EXCLUDING SFAS NO. 115 ADJUSTMENTS TO FAIR VALUE).
1997 1996 1995 - -------------------------------------------- ------------------------------------- ------------------------------------- AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE BALANCES INTEREST YIELDS/RATES BALANCES INTEREST YIELDS/RATES BALANCES INTEREST YIELDS/RATES - -------------------------------------------------------------------------------------------------------------------------------- $1,417 $104 7.31% $1,095 $78 7.09% $725 $54 7.50% 6,101 364 5.97 10,225 635 6.21 17,706 982 5.55 2,094 139 6.62 2,719 184 6.78 3,757 259 6.90 579 43 7.45 606 48 7.91 677 58 8.46 - ----------------------------- ---------------------- ------------------------- 8, 774 546 6.22 13,550 867 6.40 22,140 1,2999 5.87 11,291 958 8.48 12,192 1,028 8.43 11,142 958 8.60 3,558 459 12.92 1,165 163 13.94 871 120 13.76 13,105 976 7.45 12,049 898 7.45 10,812 808 7.47 19,014 1,494 7.86 17,727 1,388 7.83 16,562 1,347 8.13 4,068 359 8.82 4,186 373 8.92 4,304 410 9.54 1,871 130 6.94 1,797 119 6.63 1,933 130 8.27 - ----------------------------- ---------------------- ------------------------- 52,907 4,376 8.27 49,116 3,969 8.08 45,624 3,773 6.64 919 54 5.88 964 59 6.12 1,046 70 - ----------------------------- ---------------------- ------------------------- 64,017 5,080 7.93 64,725 4,973 7.68 69,535 5,196 7.47 (1,077) (1,197) (1,319) 2,920 3,163 3,044 4,784 4,116 3,871 ----------- ------------- ----------- $70,644 $70,807 $75,131 =========== ============= =========== $13,477 391 2.90 $12,619 332 2.63 $12,254 357 2.91 2,852 57 1.97 3,445 69 2.02 3,732 90 2.40 17,441 948 5.44 18,307 981 5.36 17,758 984 5.54 1,094 61 5.58 846 46 5.44 1,974 121 6.13 - ----------------------------- ---------------------- ------------------------- 34,864 1,457 4.18 35,217 1,428 4.06 35,718 1,552 4.34 2,834 158 5.57 3,157 171 5.41 5,200 315 6.06 812 43 5.36 2,030 110 5.41 6,514 398 6.11 9,130 523 5.72 8,139 454 5.57 6,326 384 6.07 4,304 256 5.96 3,630 223 6.14 4,138 282 6.81 1,514 119 7.87 1,358 108 7.98 998 76 7.64 - ----------------------------- ---------------------- ------------------------- 18,594 1,099 5.91 18,314 1,066 5.82 23,176 1,455 6.28 - ----------------------------- ---------------------- ------------------------- 53,458 2,556 4.78 53,531 2,494 4.66 58,894 3,007 5.10 9,670 9,900 9,112 1,501 1,529 1,341 537 19 5,478 5,828 5,784 ----------- ------------- ----------- $70,644 $70,807 $75,131 ================================================================================================================================ 3.15 3.02 2.37 .79 .81 .78 - -------------------------------------------------------------------------------------------------------------------------------- $2,524 3.94% $2,479 3.83% $2,189 3.15% ================================================================================================================================
86|87 SHORT-TERM BORROWINGS Federal funds purchased include overnight borrowings and term federal funds, which are payable on demand. Repurchase agreements generally have maturities of 18 months or less. Presented below are total bank notes of the Corporation, of which approximately 58.1% mature in 2000. Other short-term borrowings consist primarily of U.S. Treasury, tax and loan borrowings which are payable on demand and commercial paper which is issued in maturities not to exceed nine months. At December 31, 1999, 1998 and 1997, $3.1 billion, $3.4 billion and $997 million, respectively, notional value of interest rate swaps were designated to borrowed funds. The effect of these swaps is included in the rates set forth in the table. SHORT-TERM BORROWINGS
1999 1998 1997 ---------------------- ---------------------- ------------------- DOLLARS IN MILLIONS AMOUNT RATE AMOUNT RATE AMOUNT RATE - ------------------------------------------------------------------------------------------------------------------ Federal funds purchased Year-end balance ........ $1,281 4.05% $390 5.17% $3,632 6.30% Average during year ..... 1,662 5.05 2,526 5.50 2,834 5.57 Maximum month-end balance during year ... 2,671 3,139 4,459 Repurchase agreements Year-end balance ........ 1,122 4.77 1,669 3.47 714 6.03 Average during year ..... 1,890 3.97 1,592 4.71 812 5.36 Maximum month-end balance during year ........... 2,785 2,015 946 Bank notes Year-end balance ........ 6,354 6.25 10,234 5.32 9,656 5.75 Average during year ..... 8,224 5.29 10,505 5.65 9,068 5.61 Maximum month-end balance during year ........... 9,775 12,008 10,391 Other Year-end balance ........ 956 5.64 513 4.16 946 5.81 Average during year ..... 654 6.00 1,047 5.84 1,671 5.65 Maximum month-end balance during year ........... 1,192 2,069 2,574 - ------------------------------------------------------------------------------------------------------------------
LOAN MATURITIES AND INTEREST SENSITIVITY DECEMBER 31, 1999 1 YEAR 1 THROUGH AFTER 5 GROSS IN MILLIONS OR LESS 5 YEARS YEARS LOANS - ---------------------------------------------------------------------------- Commercial .......... $7,937 $10,304 $3,227 $21,468 Real estate project . 889 930 150 1,969 - ---------------------------------------------------------------------------- Total ............ $8,826 $11,234 $3,377 $23,437 - ---------------------------------------------------------------------------- Loans with Predetermined rate $834 $1,453 $875 $3,162 Floating rate .... 7,992 9,781 2,502 20,275 - ---------------------------------------------------------------------------- Total ............ $8,826 $11,234 $3,377 $23,437 ============================================================================ At December 31, 1999, $9.7 billion of interest rate swaps, caps and floors designated to commercial and commercial real estate loans altered the interest rate characteristics of such loans, the impact of which is not reflected in the above table. TIME DEPOSITS OF $100,000 OR MORE Time deposits in foreign offices totaled $3.2 billion, substantially all of which are in denominations of $100,000 or more. The following table sets forth maturities of domestic time deposits of $100,000 or more: CERTIFICATES DECEMBER 31, 1999 - IN MILLIONS OF DEPOSIT - ---------------------------------------------------------- Three months or less ....................... $1,512 Over three through six months .............. 614 Over six through twelve months ............. 497 Over twelve months ......................... 1,017 - ---------------------------------------------------------- Total ................................... $3,640 ========================================================== 88|89 EXECUTIVE MANAGEMENT OFFICE OF THE CHAIRMAN THOMAS H. O'BRIEN (1) Chairman and Chief Executive Officer 37 years of service JAMES E. ROHR (1) President and Chief Operating Officer 27 years of service WALTER E. GREGG, JR. (1) Vice Chairman 25 years of service BUSINESS CEOS J. RICHARD CARNALL Chairman and Chief Executive Officer PFPC 30 years of service LAURENCE D. FINK Chairman and Chief Executive Officer BlackRock 5 years of service JOSEPH C. GUYAUX (1) Chief Executive Officer PNC Bank Regional Community Banking Executive Vice President* 27 years of service RALPH S. MICHAEL, III (1) Chief Executive Officer PNC Bank-Corporate Banking Executive Vice President* 20 years of service SAIYID T. NAQVI President and Chief Executive Officer PNC Mortgage 14 years of service BRUCE E. ROBBINS (1) Chief Executive Officer PNC Secured Finance Executive Vice President* 26 years of service THOMAS K. WHITFORD (1) Chief Executive Officer PNC Advisors Executive Vice President* 16 years of service CORPORATE OFFICERS* EVA T. BLUM Senior Vice President and Director Comprehensive Risk Management and Compliance 22 years of service ROBERT L. HAUNSCHILD (1) Senior Vice President and Chief Financial Officer 9 years of service DENISE THORNE JOHNSON Senior Vice President and Chief Marketing Officer 2 years of service RANDALL C. KING Senior Vice President and Treasurer 17 years of service THOMAS S. KUNZ Senior Vice President Director of e-Commerce 16 years of service THOMAS E. PAISLEY, III (1) Senior Vice President and Chairman Corporate Credit Policy Committee 28 years of service SAMUEL R. PATTERSON (1) Controller 13 years of service HELEN P. PUDLIN (1) Senior Vice President and General Counsel 10 years of service WILLIAM E. ROSNER Senior Vice President Corporate Human Resources 5 years of service Timothy G. Shack Executive Vice President and Chief Information Officer 23 years of service REGIONAL PRESIDENTS DENNIS P. BRENCKLE President Central PA Region PNC Bank, N.A. 30 years of service PETER K. CLASSEN President Northeast PA and New Jersey Regions PNC Bank, N.A. 14 years of service JOHN C. HALLER President Ohio/N. Kentucky Region PNC Bank, N.A. 24 years of service MICHAEL N. HARRELD President Kentucky/Indiana Region PNC Bank, N.A. 31 years of service SY HOLZER President Pittsburgh Region PNC Bank, N.A. 29 years of service CALVERT A. MORGAN, JR. Chairman, President and Chief Executive Officer PNC Bank, Delaware 29 years of service MARLENE D. MOSCO President Northwest PA Region PNC Bank, N.A. 32 years of service RICHARD L. SMOOT President and Chief Executive Officer Philadelphia/S. Jersey Region PNC Bank, N.A. 13 years of service WILLIAM H. TURNER Chairman New Jersey Region PNC Bank, N.A. 3 years of service 1 EXECUTIVE OFFICER * OF THE PNC FINANCIAL SERVICES GROUP, INC. CORPORATE INFORMATION CORPORATE HEADQUARTERS The PNC Financial Services Group, Inc. One PNC Plaza 249 Fifth Avenue Pittsburgh, Pennsylvania 15222-2707 STOCK LISTING The PNC Financial Services Group, Inc. common stock is listed on the New York Stock Exchange ("NYSE") under the symbol PNC. At the close of business on February 17, 2000, there were 60,543 common shareholders of record. INTERNET INFORMATION Information on The PNC Financial Services Group, Inc.'s financial results and its products and services is available on the Internet at www.pnc.com. FINANCIAL INFORMATION The Annual Report on Form 10-K is filed with the Securities and Exchange Commission ("SEC"). Copies of this document and other filings, including Exhibits thereto, may be obtained electronically at the SEC's home page at www.sec.gov. Copies also may be obtained without charge by writing to Lynn Fox Evans, Director of Financial Reporting, at corporate headquarters, by calling (412) 762-1553 or via e-mail to financial.reporting@pncbank.com. INQUIRIES For financial services call 1-888-PNC-2265. Individual shareholders should contact Shareholder Relations at (800) 982-7652. Analysts and institutional investors should contact William H. Callihan, Vice President, Investor Relations, at (412) 762-8257 or investor.relations@pncbank.com. News media representatives and others seeking general information should contact R. Jeep Bryant, Director of Corporate Communications, at (412) 762-8221 or via e-mail at corporate.communications@pncbank.com. TRUST PROXY VOTING Reports of 1999 nonroutine proxy voting by the trust divisions of The PNC Financial Services Group, Inc. are available by writing to Thomas R. Moore, Corporate Secretary, at corporate headquarters. ANNUAL SHAREHOLDERS MEETING All shareholders are invited to attend the PNC Financial Services Group, Inc. Annual Meeting on Tuesday, April 25, 2000, at 11 a.m., eastern standard time, on the 15th floor of One PNC Plaza, 249 Fifth Avenue, Pittsburgh, Pennsylvania. COMMON STOCK PRICES/DIVIDENDS DECLARED The table below sets forth by quarter the range of high and low sale and quarter-end closing prices for The PNC Financial Services Group, Inc. common stock and the cash dividends declared per common share.
- ------------------------------------------------------------------ CASH DIVIDENDS 1999 QUARTER HIGH LOW CLOSE DECLARED - ------------------------------------------------------------------ First $59.750 $47.000 $55.563 $ .41 Second 60.125 54.375 57.625 .41 Third 58.063 49.688 52.688 .41 Fourth 62.000 43.000 44.500 .45 - ------------------------------------------------------------------ Total $1.68 - ------------------------------------------------------------------
CASH DIVIDENDS 1998 QUARTER HIGH LOW CLOSE DECLARED - ------------------------------------------------------------------ First $61.625 $49.500 $59.938 $ .39 Second 66.750 53.813 53.875 .39 Third 60.000 41.625 45.000 .39 Fourth 54.625 38.750 54.000 .41 - ------------------------------------------------------------------ Total $1.58 - ------------------------------------------------------------------
DIVIDEND POLICY Holders of The PNC Financial Services Group, Inc. common stock are entitled to receive dividends when declared by the Board of Directors out of funds legally available. The Board presently intends to continue the policy of paying quarterly cash dividends. However, future dividends will depend on earnings, the financial condition of The PNC Financial Services Group, Inc. and other factors including applicable government regulations and policies and contractual restrictions. DIVIDEND REINVESTMENT AND STOCK PURCHASE PLAN The PNC Financial Services Group, Inc. dividend reinvestment and stock purchase plan enables holders of common and preferred stock to purchase additional shares of common stock conveniently and without paying brokerage commissions or service charges. A prospectus and enrollment card may be obtained by writing to Shareholder Relations at corporate headquarters. REGISTRAR AND TRANSFER AGENT The Chase Manhattan Bank P.O. Box 590 Ridgefield Park, New Jersey 07660 (800) 982-7652