PNC BANK CORP. Quarterly Report on Form 10-Q For the quarterly period ended September 30, 1998 Page 1 represents a portion of the third quarter 1998 Financial Review which is not required by the Form 10-Q report and is not "filed" as part of the Form 10-Q. The Quarterly Report on Form 10-Q and cross reference index is on page 32. CONSOLIDATED FINANCIAL HIGHLIGHTS
Three months ended Nine months ended September 30 September 30 ---------------------------------------------------------- 1998 1997 1998 1997 - ---------------------------------------------------------------------------------------------------------------------------------- FINANCIAL PERFORMANCE (in thousands, except per share data) Revenue Net interest income (taxable-equivalent basis) $ 652,532 $ 627,431 $1,933,748 $1,885,295 Noninterest income 675,870 459,247 1,825,988 1,336,917 Total revenue 1,328,402 1,086,678 3,759,736 3,222,212 Net income 280,588 261,595 830,259 786,979 Per common share Basic earnings .92 .84 2.71 2.47 Diluted earnings .91 .83 2.68 2.44 Cash dividends declared .39 .37 1.17 1.11 SELECTED RATIOS Return on Average common shareholders' equity 20.52% 20.11% 21.00% 19.93% Average assets 1.48 1.47 1.51 1.49 Net interest margin 3.81 3.89 3.86 3.91 Noninterest income to total revenue 50.88 42.26 48.57 41.49 After-tax profit margin 21.12 24.07 22.08 24.42 Efficiency ratio * 53.28 54.57 55.50 55.82 Net charge-offs to average loans .62 .54 .65 .49
* Excluding amortization of intangibles, distributions on capital securities and mortgage banking hedging activities
September 30 June 30 March 31 December 31 September 30 1998 1998 1998 1997 1997 - ------------------------------------------------------------------------------------------------------------------------------------ BALANCE SHEET DATA (in millions) Assets $76,238 $75,873 $72,355 $75,120 $71,828 Earning assets 68,638 68,353 65,210 66,688 64,208 Loans, net of unearned income 56,752 56,237 54,511 54,245 53,651 Securities available for sale 7,152 7,540 7,511 8,522 8,000 Deposits 46,875 47,096 46,068 47,649 44,788 Borrowed funds 19,972 20,488 18,375 19,622 19,052 Shareholders' equity 5,793 5,633 5,487 5,384 5,476 Common shareholders' equity 5,479 5,318 5,173 5,069 5,161 CAPITAL RATIOS Leverage 7.18% 7.18% 7.36% 7.30% 7.43% Common shareholders' equity to assets 7.19 7.01 7.15 6.75 7.18 ASSET QUALITY RATIOS Nonperforming assets to loans and foreclosed assets .58% .57% .61% .61% .73% Allowance for credit losses to loans 1.44 1.53 1.67 1.79 1.91 Allowance for credit losses to nonperforming loans 289.02 315.09 320.96 351.79 324.25 Book value per common share $ 18.21 $ 17.64 $ 17.20 $ 16.87 $ 16.92 ====================================================================================================================================
PNC BANK CORP. ---- 1 FINANCIAL REVIEW This Financial Review should be read in conjunction with the PNC Bank Corp. and subsidiaries' ("Corporation" or "PNC Bank") unaudited Consolidated Financial Statements and the Financial Review and audited Consolidated Financial Statements included in the Corporation's 1997 Annual Report. OVERVIEW PNC BANK CORP. The Corporation is one of the largest diversified financial services companies in the United States and operates eight lines of business: Regional Community Banking, Corporate Banking, National Consumer Banking, Private Banking, Mortgage Banking, Secured Lending, Asset Management and Mutual Fund Servicing. Financial products and services are tailored to specific customer segments and are offered nationally and in PNC Bank's primary geographic markets in Pennsylvania, New Jersey, Delaware, Ohio and Kentucky. SUMMARY FINANCIAL RESULTS The third quarter of 1998 was marked by significant volatility in the financial markets. Although PNC Bank was affected by this market volatility, the results for the quarter and first nine months continued to be strong and primarily driven by fee-based businesses. Earnings for the first nine months of 1998 from the Asset Management, Mutual Fund Servicing, Private Banking and Mortgage Banking businesses all grew in excess of 20% compared with the prior-year period. PNC Bank's strategy has been to continue investing in businesses with greater value creation potential, downsizing businesses where return opportunities are less attractive and managing the Corporation's overall risk profile. Pursuant to this strategy, the Corporation completed or announced a number of acquisitions in 1998 including Hilliard-Lyons, Inc., a retail brokerage firm, and Midland Loan Services, L.P., a commercial mortgage servicer. The Corporation also agreed to sell its corporate trust and escrow business and approximately $1 billion of non-relationship credit card outstandings. Consolidated net income for the first nine months of 1998 was $830 million compared with $787 million a year ago. Diluted earnings per share increased 10% to $2.68 for the first nine months of 1998 from $2.44 in 1997. Returns on average common shareholders' equity and average assets were 21.00% and 1.51% in 1998 compared with 19.93% and 1.49%, respectively, a year ago. As a result of purchase acquisitions, earnings were reduced by non-cash charges for goodwill and other intangible amortization. Excluding these charges, diluted earnings per share for the first nine months of 1998 and 1997 were $2.88 and $2.61, respectively. Total revenue increased $538 million or 17% in the first nine months of 1998 driven by growth in noninterest income, which represented 49% of total revenue compared with 41% in the prior-year period. Taxable-equivalent net interest income increased $49 million from the first nine months of 1997. The net interest margin was 3.86% compared with 3.91% in the prior year. Noninterest income increased 37% to $1.8 billion in the first nine months of 1998 reflecting significant growth in fee-based businesses. The provision for credit losses was $110 million for the first nine months of 1998 compared with $45 million in the prior-year period. Noninterest expense increased $419 million or 22% in the first nine months of 1998 commensurate with revenue growth, the impact of investments in the consumer banking franchise and mortgage banking activities. The efficiency ratio, computed excluding amortization of intangibles, distributions on capital securities and mortgage banking hedging activities, was 55.5% compared with 55.8% a year ago. Average earning assets increased $2.6 billion from the prior year to $66.6 billion as higher loans and loans held for sale more than offset reductions in the securities portfolio. Loans represented 83% of average earning assets for the nine months of 1998 compared with 82% in the first nine months of 1997. Shareholders' equity totaled $5.8 billion at September 30, 1998 compared with $5.4 billion at December 31, 1997. The leverage ratio was 7.18% and Tier I and total risk-based capital ratios were 7.48% and 10.93%, respectively. PNC Bank's overall credit risk profile remained stable with no direct credit exposure to hedge funds or in Russia and nominal exposure in Latin America and Asia. The ratio of nonperforming assets to loans and foreclosed assets was .58% at September 30, 1998 and .61% at December 31, 1997. The allowance for credit losses was 289% of nonperforming loans and 1.44% of total loans at September 30, 1998 compared with 352% and 1.79%, respectively, at December 31, 1997. Net charge-offs were .65% of average loans for the first nine months of 1998 compared with .49% a year ago. The increase was primarily associated with higher credit card outstandings. BUSINESS STRATEGIES Financial services providers today are challenged by intense competition, changing customer demands, increased pricing pressures and the ongoing impact of deregulation. Traditional loan and deposit activities face particularly challenging competitive pressures as both banks and nonbanks compete for customers with access to a broad array of banking, investment and capital markets products. PNC BANK CORP. ---- 2 Many of these traditional businesses have moderate growth expectations and require significant capital to support balance sheet leverage that entails credit and interest rate risk. PNC Bank has responded to these challenges by transitioning to an organization comprised of distinct lines of business with highly focused customer segments. This approach provides the basis for differentiated businesses capable of competing in today's environment where banks and other financial service providers seek the same customers. The Corporation has focused on altering its business mix by investing in specialized financial services businesses including asset management, mutual fund servicing, private banking, mortgage banking, corporate finance and capital markets. These businesses are largely fee-based, less capital intensive and provide growth opportunities on a national scale. More meaningful contributions from these businesses, coupled with disciplined management of traditional banking activities, expansion of national distribution capabilities and reduction of wholesale leverage activities have allowed PNC Bank to significantly improve the composition of its earnings stream. REGIONAL COMMUNITY BANKING provides financial products and services to small business and retail customers within PNC Bank's geographic footprint. Regional Community Banking utilizes a sophisticated information database to develop customer relationships based on their individual needs for PNC Bank's traditional and technology-based array of products, services and distribution channels. CORPORATE BANKING provides credit, capital markets and treasury management products and services to large and mid-sized businesses, institutions and government entities. Teams of specialists focus on specific segments, including large corporate, middle market, communications, health care, public finance, energy, metals and mining and emerging growth. NATIONAL CONSUMER BANKING provides consumer products and services through technologically advanced cost efficient channels. National Consumer Banking focuses on nationwide distribution of products and services through affinity relationships. PRIVATE BANKING offers personalized investment management, brokerage, personal trust, estate planning and traditional banking services to affluent individuals; investment management services to wealthy individuals through Hawthorn; and investment management, trust and administrative services to pensions, 401(k) plans and charitable organizations through its institutional trust group. MORTGAGE BANKING originates and services residential mortgages. Mortgage Banking focuses on expanding retail distribution channels, increasing the mortgage servicing portfolio and expanding sales of related products including second mortgages, home equity lines of credit and insurance. SECURED LENDING is engaged in commercial real estate finance, including loan origination, securitization, and servicing through Midland, asset-based financing through PNC Business Credit and equipment leasing within PNC Bank's primary geographic markets and nationally. ASSET MANAGEMENT offers fixed income, domestic and international equity and liquidity products. BlackRock, Inc. ("BlackRock") represents the recent combination of PNC Bank's investment advisory and asset management capabilities under a single organization and brand. This integration created one of the largest asset managers in the country, leveraging the BlackRock Financial Management reputation as an established fixed income manager. BlackRock is focused on expanding marketing and delivery channels for a wide range of institutional and retail investment products. MUTUAL FUND SERVICING provides institutional money managers, brokerage firms, pension managers and insurance companies a wide range of customized products, including accounting and administration, transfer agency, custody, securities lending and central asset account services. PFPC Inc. ("PFPC") is the second largest mutual fund accounting agent and the fourth largest mutual fund transfer agent in the United States and is focused on domestic, off-shore and alternative pooled investment servicing capabilities. FORWARD-LOOKING STATEMENTS PNC Bank has made, and may continue to make, various written and oral forward-looking statements with respect to financial performance and other financial and business matters. 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 forward-looking statements. In addition to factors previously disclosed by the Corporation and those identified elsewhere in this Financial Review, the following factors, among others, could cause actual results to differ materially from forward-looking statements: the inability of the Corporation or others to remediate Year 2000 concerns in a timely fashion; continued pricing pressures on loan and deposit products; increased credit risk; the success and timing of business initiatives and strategies, several of which are in early stages and therefore susceptible to greater uncertainty than more mature businesses; competition; the ability to realize cost savings or revenues and implement integration plans associated with acquisitions and divestitures; changes in global PNC BANK CORP. ---- 3 FINANCIAL REVIEW and domestic economic conditions generally and in local markets in which the Corporation conducts business; changes in interest rates and capital markets; inflation; customer borrowing, repayment, investment and deposit practices; continued customer disintermediation; customers' acceptance of PNC Bank's products and services; 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. LINE OF BUSINESS REVIEW Financial results for PNC Bank's lines of business are derived from the Corporation's management accounting system. Line of business information is based on management accounting practices which conform to and support PNC Bank's current management structure and is not necessarily comparable with similar information for any other financial services institution. The management accounting process uses various balance sheet and income statement assignments and transfers to measure business unit performance. Assignments and transfers change from time to time as the management accounting system is enhanced and business or product lines change. There is no comprehensive, authoritative body of guidance for management accounting equivalent to generally accepted accounting principles. Financial statements for the lines of business do not necessarily use the same classifications as the consolidated financial statements. The financial results presented herein reflect each line of business as if it operated on a stand-alone basis. Securities or borrowings and related interest rate spreads have been assigned to the lines of business based on their net asset or liability positions. Total line of business financial results differ from consolidated financial results primarily due to eliminations, different provision for credit loss methodologies and corporate administration and other unassigned items. Eliminations offset transactions between the lines of business which primarily relate to assigned securities or borrowings. Corporate administration and other unassigned includes holding company revenue, expenses and other items not assigned in the management accounting process. Capital is assigned to each business unit based on management's assessment of inherent risks and equity levels at independent companies providing similar products and services. As a result, total capital assigned will differ from consolidated shareholders' equity. The efficiency ratio for each line of business is computed excluding amortization of intangibles and mortgage banking hedging activities, where applicable. LINE OF BUSINESS RESULTS
Return on Revenue Earnings (Loss) Assigned Capital Average Assets Nine months ended September 30 - -------------------------------------------------------------------------------------------- dollars in millions 1998 1997 1998 1997 1998 1997 1998 1997 - --------------------------------------------------------------------------------------------------------------------------------- Regional Community Banking $1,277 $1,203 $337 $289 31% 27% $ 34,985 $ 35,188 Corporate Banking 553 489 155 149 19 18 15,224 14,733 National Consumer Banking 533 506 (27) 30 (5) 6 11,404 11,217 Private Banking 384 337 91 71 30 27 2,624 2,500 Mortgage Banking 299 228 41 26 16 11 11,576 10,146 Secured Lending 212 197 79 102 17 25 8,982 6,495 Asset Management 172 115 30 19 25 17 269 257 Mutual Fund Servicing 141 110 30 25 46 46 213 148 ------------------------------------------ --------------------- Total lines of business 3,571 3,185 736 711 85,277 80,684 Eliminations (100) (103) (75) (73) (14,995) (14,024) Provision for credit losses 115 81 Corporate administration and other unassigned 289 140 54 68 3,417 3,908 ------------------------------------------ --------------------- Total consolidated $3,760 $3,222 $830 $787 21% 20% $ 73,699 $ 70,568 =================================================================================================================================
CORPORATE ACTIVITIES In the second quarter of 1998, the Asset Management and Mutual Fund Servicing line of business was segregated into two distinct lines of business. The institutional trust business and Hawthorn were realigned with Private Banking and the corporate trust and escrow business was included in corporate administration and other unassigned. On August 4, 1998, the Corporation entered into an agreement to sell the corporate trust and escrow business to Chase Manhattan Trust Company, N.A. The transaction will result in a gain and is expected to close in the fourth quarter of 1998, subject to regulatory approvals. Results for the first nine months of 1998 and 1997 are presented consistent with this new structure. The benefit from the sale of an equity interest to BlackRock management is also included in corporate administration and other unassigned. PNC BANK CORP. ---- 4
REGIONAL COMMUNITY BANKING Nine months ended September 30 - dollars in millions 1998 1997 - ----------------------------------------------------------------- INCOME STATEMENT Net interest income $ 973 $ 992 Noninterest income 304 211 ------------------- Total revenue 1,277 1,203 Provision for credit losses 24 22 Noninterest expense 695 697 ------------------- Pretax earnings 558 484 Income taxes 221 195 ------------------- Earnings $ 337 $ 289 ------------------- AVERAGE BALANCE SHEET Loans Consumer $5,178 $4,938 Commercial 2,632 2,043 Residential mortgage 1,266 1,250 Other 178 400 ------------------- Total loans 9,254 8,631 Assigned assets and other assets 25,731 26,557 ------------------- Total assets $34,985 $35,188 ------------------- Net deposits Certificates $14,875 $15,633 Money market 7,109 6,337 Noninterest-bearing demand 4,867 4,810 Interest-bearing demand 3,985 3,989 Savings 2,581 2,857 ------------------- Total net deposits 33,417 33,626 Other liabilities 135 143 Assigned capital 1,433 1,419 ------------------- Total funds $34,985 $35,188 ------------------- PERFORMANCE RATIOS Return on assigned capital 31% 27% Noninterest income to total revenue 24 18 After-tax profit margin 26 24 Efficiency 52 56 =================================================================
Regional Community Banking contributed 46% of total line of business earnings in the first nine months of 1998 compared with 41% for the first nine months of 1997. Earnings of $337 million included $86 million of gains on the sales of 24 branches in Western Pennsylvania, Kentucky and Indiana that were offset by one-time costs of $40 million related to consumer delivery initiatives, and other one-time costs and valuation adjustments in other lines of business. Excluding these items, earnings increased $21 million or 7% and performance ratios improved due to strategies designed to respond to changing customer preferences while improving the effectiveness and efficiency of the delivery system. As a result of these strategies, noninterest expense before the one-time costs in 1998 declined $42 million or 6% compared with the prior year. Net interest income declined in the current period due to loan spread compression and the impact of consumer migration to higher cost deposit products. Regional Community Banking seeks to grow revenue through targeted marketing efforts and will continue initiatives designed to leverage technology and reduce the cost of the delivery system.
CORPORATE BANKING Nine months ended September 30 - dollars in millions 1998 1997 - ------------------------------------------------------------------- INCOME STATEMENT Credit-related revenue $ 249 $ 232 Noncredit revenue Treasury management 150 144 Venture capital 73 58 Capital markets 54 41 Other 27 14 ------------------- Total noncredit revenue 304 257 ------------------- Total revenue 553 489 Provision for credit losses 44 Noninterest expense 267 259 ------------------- Pretax earnings 242 230 Income taxes 87 81 ------------------- Earnings $ 155 $ 149 ------------------- AVERAGE BALANCE SHEET Loans Middle market $ 5,125 $ 4,780 Specialized 4,546 4,029 Large corporate 4,143 4,448 Other 410 570 ------------------- Total loans 14,224 13,827 Other assets 1,000 906 ------------------- Total assets $15,224 $14,733 ------------------- Net deposits $ 2,514 $ 2,100 Assigned funds and other liabilities 11,593 11,533 Assigned capital 1,117 1,100 ------------------- Total funds $15,224 $14,733 ------------------- PERFORMANCE RATIOS Return on assigned capital 19% 18% Noncredit revenue to total revenue 55 53 After-tax profit margin 28 30 Efficiency 48 52 ===================================================================
Corporate Banking contributed 21% of total line of business earnings in the first nine months of 1998 and 1997. Earnings for the first nine months of 1998 increased $6 million or 4%. Credit-related revenue primarily represents net interest income from loans and increased 7% in the comparison. Noncredit revenue, which includes noninterest income and the benefit of compensating balances in lieu of fees, increased $47 million or 18% in the first nine months of 1998 reflecting growth in venture capital, capital markets and treasury management income. Increases in noncredit revenue and noninterest expense reflected strategies designed to expand revenue from fee-based services while reducing reliance on balance sheet leverage. PNC BANK CORP. ---- 5 FINANCIAL REVIEW Expense levels reflect the investment in fee-based business offset by the continued focus on operating efficiency in the traditional credit-related business as the efficiency ratio declined to 48% in the first nine months of 1998 compared with 52% in the prior year. The increase in the provision for credit losses related to credit exposure to certain bankrupt affiliates of Allegheny Health, Education and Research Foundation ("AHERF"), a portion of which became nonperforming in the third quarter. Corporate Banking engages in lending, venture capital and capital markets activities, all of which are impacted by economic and financial market conditions. Accordingly, a decline in the capital markets or an economic slowdown could adversely impact results of operations.
NATIONAL CONSUMER BANKING Nine months ended September 30 - dollars in millions 1998 1997 - ---------------------------------------------------------------- INCOME STATEMENT Net interest income $ 354 $ 297 Noninterest income 179 209 ------------------ Total revenue 533 506 Provision for credit losses 233 167 Noninterest expense 343 291 ------------------ Pretax earnings (loss) (43) 48 Income taxes (benefit) (16) 18 ------------------ Earnings (loss) $ (27) $ 30 ------------------ AVERAGE BALANCE SHEET Loans Dealer finance $ 4,859 $ 5,312 Credit card 3,942 3,475 Education 1,149 1,302 Other 728 392 ------------------ Total loans 10,678 10,481 Other assets 726 736 ------------------ Total assets $11,404 $11,217 ------------------ Net deposits $ 207 $ 84 Assigned funds and other liabilities 10,496 10,455 Assigned capital 701 678 ------------------ Total funds $11,404 $11,217 ------------------ PERFORMANCE RATIOS Return on assigned capital (5)% 6% Noninterest income to total revenue 34 41 After-tax profit margin (5) 6 Efficiency 59 52 ================================================================
National Consumer Banking incurred a loss of $27 million in the first nine months of 1998 resulting from credit cards and the AAA affinity initiative which have been unfavorably impacted by intense rate competition and changing consumer credit conditions. Noninterest income for 1997 included $64 million of nonrecurring gains. Excluding these gains, earnings declined $17 million in the year-to-year comparison reflecting higher credit costs. The provision for credit losses increased $66 million primarily as a result of higher credit card outstandings. On September 8, 1998, PNC Bank entered into an agreement with Direct Merchants Credit Card Bank, National Association, a subsidiary of Metris Companies Inc., to sell approximately $1 billion of credit card outstandings to further reduce the Corporation's risk profile. This portfolio accounts for one-third of credit card net charge-offs. Management will continue taking aggressive actions designed to enhance returns on the capital invested in this line of business.
PRIVATE BANKING Nine months ended September 30 - dollars in millions 1998 1997 - ---------------------------------------------------------------- INCOME STATEMENT Net interest income $ 92 $ 85 Noninterest income Investment management and trust 234 200 Brokerage 50 46 Other 8 6 ----------------- Total noninterest income 292 252 ----------------- Total revenue 384 337 Provision for credit losses 1 3 Noninterest expense 236 219 ----------------- Pretax earnings 147 115 Income taxes 56 44 ----------------- Earnings $ 91 $ 71 ----------------- AVERAGE BALANCE SHEET Loans Residential mortgage $ 998 $ 1,066 Consumer 932 817 Commercial 595 479 Other 28 73 ----------------- Total loans 2,553 2,435 Other assets 71 65 ----------------- Total assets $ 2,624 $ 2,500 ----------------- Net deposits $ 2,181 $ 1,911 Assigned funds and other liabilities 36 241 Assigned capital 407 348 ----------------- Total funds $ 2,624 $ 2,500 ----------------- PERFORMANCE RATIOS Return on assigned capital 30% 27% Noninterest income to total revenue 76 75 After-tax profit margin 24 21 Efficiency 61 65 ================================================================
PNC BANK CORP. ---- 6 Private Banking contributed 12% of total line of business earnings in the first nine months of 1998 compared with 10% a year ago. Earnings increased $20 million or 28% in the first nine months of 1998 driven by revenue growth. Net interest income increased 8% in the first nine months of 1998 due to loan and deposit growth. Noninterest income increased $40 million or 16% from the prior year due to an increase in assets under management resulting from new business and an increase in brokerage accounts. Noninterest expense increased $17 million supporting revenue growth and continuing investments in technology. On August 20, 1998, the Corporation entered into an agreement to acquire Hilliard-Lyons, Inc. ("Hilliard Lyons"), a retail brokerage firm with 90 offices in 12 Midwestern and Southeastern states. Hilliard Lyons has focused on delivering brokerage services and investment management expertise to affluent clients. The transaction is expected to close in the fourth quarter of 1998, subject to regulatory approvals. Brokerage assets administered by Private Banking totaled $9 billion at September 30, 1998. As a result of the Hilliard Lyons acquisition these assets are expected to increase to approximately $30 billion. In addition to enhancing Private Banking's brokerage and investment management capabilities, management expects the acquisition of Hilliard Lyons to expand the retail distribution of capital markets products and provide customers with a wider range of highly-regarded investment products.
ASSETS UNDER MANAGEMENT September 30 - in billions 1998 1997 - ---------------------------------------------------------------- Personal trust $35 $35 Institutional trust 6 6 Hawthorn 12 10 ------------ Total $53 $51 ================================================================
Private Banking revenue is primarily affected by the volume of new business, the value of assets managed, investment performance and financial market conditions. Revenue may be positively affected by strong investment performance or improving financial markets. Conversely, declining performance or deteriorating financial markets may have an adverse effect on revenue.
MORTGAGE BANKING Nine months ended September 30 - dollars in millions 1998 1997 - ---------------------------------------------------------------- INCOME STATEMENT Residential mortgage servicing $ 142 $ 118 Origination and securitization 136 67 Sales of servicing and other 9 6 MSR amortization (214) (48) Hedging activities 123 ---------------- Net mortgage banking revenue 196 143 Net interest income 103 85 ---------------- Total revenue 299 228 Operating expense 228 186 ---------------- Pretax earnings 71 42 Income taxes 30 16 ---------------- Earnings $ 41 $ 26 ---------------- AVERAGE BALANCE SHEET Residential mortgage loans $ 7,026 $ 7,701 Residential mortgages held for sale 2,608 1,306 Securities available for sale 945 428 Other assets 997 711 ---------------- Total assets $11,576 $10,146 ---------------- Escrow deposits $ 828 $ 587 Assigned funds and other liabilities 10,411 9,229 Assigned capital 337 330 ---------------- Total funds $11,576 $10,146 ---------------- PERFORMANCE RATIOS Return on assigned capital 16% 11% Net mortgage banking revenue to total revenue 66 63 After-tax profit margin 14 11 Efficiency 57 65 ================================================================
Mortgage Banking contributed 6% of total line of business earnings in the first nine months of 1998 compared with 4% in the same period of 1997. Earnings increased $15 million to $41 million in 1998 primarily due to higher business volumes. Revenue and expense growth resulted from higher loan origination volume and a larger servicing portfolio. MSR amortization increased $166 million, reflecting significant refinance activity and the larger servicing portfolio. Hedging activities largely offset the impact of refinance activity on MSR amortization. Securities available for sale increased $517 million and are part of Mortgage Banking's hedging strategies. PNC BANK CORP. ---- 7 FINANCIAL REVIEW During the first nine months of 1998 Mortgage Banking funded $8.4 billion of residential mortgages with 64% representing retail originations. The comparable amounts were $4.1 billion and 73%, respectively, in the first nine months of 1997. The year-to-year increase reflects the combination of higher refinance activity and initiatives to expand retail origination capabilities.
RESIDENTIAL MORTGAGE SERVICING PORTFOLIO In millions 1998 1997 - ---------------------------------------------------------------- January 1 $40,701 $39,543 Originations 8,371 4,068 Purchases 20,598 1,917 Repayments (8,330) (4,437) Sales (1,066) (122) ------------------ September 30 $60,274 $40,969 ================================================================
During the third quarter, PNC Mortgage acquired servicing rights for approximately 83,000 mortgages with an outstanding principal balance of $8.6 billion. With this acquisition, PNC Mortgage became the nation's 15th largest servicer of home loans. At September 30, 1998, the mortgage servicing portfolio totaled $60.3 billion, including $51.8 billion of loans serviced for others, with a weighted-average coupon of 7.75%. Capitalized MSR totaled $663 million at September 30, 1998 and had an estimated fair value of $670 million. MSR value and amortization are affected by changes in interest rates. If interest rates decline and the rate of prepayment increases, the underlying servicing fees and related MSR value would also decline. In a period of rising interest rates, a converse relationship would exist. The Corporation seeks to manage this risk by using financial instruments as hedges designed to move in the opposite direction of MSR value changes.
SECURED LENDING Nine months ended September 30 - dollars in millions 1998 1997 - ---------------------------------------------------------------- INCOME STATEMENT Net interest income $ 168 $ 154 Noninterest income Commercial mortgage servicing 26 Origination and securitization (17) ---------------- Commercial mortgage banking 9 Corporate finance 15 11 Other 20 32 ---------------- Total noninterest income 44 43 ---------------- Total revenue 212 197 Provision for credit losses (10) (19) Noninterest expense 107 56 ---------------- Pretax earnings 115 160 Income taxes 36 58 ---------------- Earnings $ 79 $ 102 ---------------- AVERAGE BALANCE SHEET Loans Real estate $5,818 $4,570 Business credit 1,275 950 Leasing 1,077 878 ---------------- Total loans 8,170 6,398 ---------------- Commercial mortgages held for sale 238 Other assets 574 97 ---------------- Total assets $8,982 $6,495 ---------------- Net deposits $1,014 $ 761 Assigned funds and other liabilities 7,364 5,195 Assigned capital 604 539 ---------------- Total funds $8,982 $6,495 ---------------- PERFORMANCE RATIOS Return on assigned capital 17% 25% Noninterest income to total revenue 21 22 After-tax profit margin 37 52 Efficiency 42 28 ================================================================
Secured Lending contributed 11% of total line of business earnings in the first nine months of 1998 compared with 14% in the prior-year period. This line of business has made several acquisitions to provide additional revenue growth opportunities reflecting the strategy to reduce balance sheet leverage, increase noninterest income and expand nationally. On April 3, 1998, PNC Bank acquired Midland Loan Services, L.P. ("Midland"), one of the nation's largest servicers of commercial mortgages. This transaction greatly expands PNC Bank's real estate financial services capabilities, which now include origination, securitization, servicing, investment advisory and risk management. PNC BANK CORP. ---- 8 On April 15, 1998, the Corporation acquired the asset-based finance business of BTM Capital Corp. The purchase included a $600 million portfolio of asset-based loans and loan commitments and regional sales offices. On July 31, 1998, PNC Bank acquired The Arcand Company, subsequently renamed Columbia Housing Corporation ("Columbia"). Columbia is a leading tax credit syndicator, principally engaged in the origination and distribution of affordable housing limited partnerships. The comparative results for the nine month periods reflected the impact of these acquisitions. Earnings decreased $23 million primarily due to decreases in commercial mortgage valuations in 1998 and $11 million of nonrecurring gains in 1997. The decline in commercial mortgage valuations reflected a significant decrease in market liquidity for commercial mortgage-backed securities. Management has taken actions to mitigate future exposure to this market volatility by minimizing inventory exposure to valuation adjustments as well as pricing in response to market conditions.
COMMERCIAL MORTGAGE SERVICING PORTFOLIO In millions 1998 - ---------------------------------------------------------------- January 1 April 3 Acquisition $25,846 Originations 847 Purchases/additions 9,815 Repayments (4,210) ------- September 30 $32,298 ================================================================
At September 30, 1998 the commercial mortgage servicing portfolio totaled $32.3 billion, including $31.9 billion serviced for others.
ASSET MANAGEMENT Nine months ended September 30 - dollars in millions 1998 1997 - ---------------------------------------------------------------- INCOME STATEMENT Revenue $172 $115 Operating expense 119 82 --------------- Pretax earnings 53 33 Income taxes 23 14 --------------- Earnings $30 $19 --------------- AVERAGE BALANCE SHEET Total assets $269 $257 --------------- Liabilities $110 $109 Assigned capital 159 148 --------------- Total funds $269 $257 --------------- PERFORMANCE RATIOS Return on assigned capital 25% 17% After-tax profit margin 17 17 Efficiency 65 65 ================================================================
Asset Management contributed 4% of total line of business earnings in the first nine months of 1998 compared with 3% for the first nine months of 1997. Earnings increased 58% in the first nine months of 1998 driven by higher assets under management reflecting new business generated by BlackRock. In 1998 PNC Bank's fixed income, equity and liquidity businesses were consolidated under BlackRock. This combination created one of the largest asset managers in the United States. BlackRock's focus is on expanding marketing and delivery channels for a wide range of institutional and retail investment products.
ASSETS UNDER MANAGEMENT September 30 - in billions 1998 1997 - ---------------------------------------------------------------- Fixed income $ 63 $ 52 Liquidity 45 37 Equity and other 13 11 --------------- Total assets under management $121 $100 --------------- Proprietary mutual funds BlackRock Funds $22 $ 14 Other 22 19 --------------- Total proprietary mutual funds $44 $33 ================================================================
At September 30, 1998 89% of assets under management were invested in fixed income and liquidity funds which have historically been less volatile than equity funds. Asset Management revenue is primarily affected by the volume of new business, the value of assets managed, investment performance and financial market conditions. Revenue may be positively affected by strong investment performance or improving financial markets. Conversely, declining performance or deteriorating financial markets may have an adverse effect on revenue. PNC BANK CORP. ---- 9 FINANCIAL REVIEW
MUTUAL FUND SERVICING Nine months ended September 30 - dollars in millions 1998 1997 - ---------------------------------------------------------------- INCOME STATEMENT Revenue $141 $110 Operating expense 92 70 --------------- Pretax earnings 49 40 Income taxes 19 15 --------------- Earnings $ 30 $ 25 --------------- AVERAGE BALANCE SHEET Total assets $213 $148 --------------- Net deposits $107 $ 60 Other liabilities 19 16 Assigned capital 87 72 --------------- Total funds $213 $148 --------------- PERFORMANCE RATIOS Return on assigned capital 46% 46% After-tax profit margin 21 23 Efficiency 65 64 ================================================================
Mutual Fund Servicing contributed 4% of total line of business earnings in the first nine months of 1998 and 1997. Earnings increased $5 million or 20% in the year-to-year comparison. Revenue grew 28% as PFPC capitalized on its strong capabilities as a provider of customized products and services. Assets and accounts serviced by PFPC were as follows:
September 30 1998 1997 - ---------------------------------------------------------------- Assets (billions) Custody $287 $212 Accounting/administration 228 175 - ---------------------------------------------------------------- Accounts (millions) Shareholder 4.8 4.2 Checking and credit/debit card 2.1 2.0 ================================================================
CONSOLIDATED INCOME STATEMENT REVIEW
CONDENSED INCOME STATEMENT (taxable-equivalent basis) Nine months ended September 30 - in millions 1998 1997 Change - ---------------------------------------------------------------- Net interest income $1,934 $1,885 $ 49 Provision for credit losses 110 45 65 Noninterest income before net securities gains 1,750 1,310 440 Net securities gains 76 27 49 Noninterest expense 2,365 1,946 419 Income taxes 455 444 11 ----------------------- Net income $ 830 $ 787 $ 43 ================================================================
NET INTEREST INCOME Taxable-equivalent net interest income increased $49 million from the first nine months of 1997. The net interest margin was 3.86% compared with 3.91% in the prior-year period. 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. The increase in net interest income was due to a $2.6 billion increase in average earning assets which more than offset a narrower net interest margin. Average loans grew 4.7% to $55.1 billion, a $2.5 billion increase from the prior year. Growth in commercial loans and credit cards more than offset the impact of loan securitizations and the downsizing of the indirect automobile lending portfolio. The increase in average loans held for sale was $1.7 billion reflecting higher residential mortgage originations and the commercial mortgage inventory of Midland. PNC BANK CORP. ---- 10
NET INTEREST INCOME ANALYSIS Taxable-equivalent basis Average Balances Interest Income/Expense Average Yields/Rates ------------------------------------------------------------------------------------------ Nine months ended September 30 - dollars in millions 1998 1997 Change 1998 1997 Change 1998 1997 Change - ------------------------------------------------------------------------------------------------------------------------------------ Interest-earning assets Loans held for sale $ 3,059 $ 1,329 $ 1,730 $ 162 $ 73 $ 89 7.03% 7.32% (29)bp Securities available for sale 7,391 9,113 (1,722) 327 426 (99) 5.91 6.23 (32) Loans, net of unearned income Consumer (excluding credit card) 11,073 11,352 (279) 706 719 (13) 8.53 8.47 6 Credit card 3,942 3,475 467 407 329 78 13.81 12.68 113 Residential mortgage 12,598 13,152 (554) 687 735 (48) 7.26 7.45 (19) Commercial 22,159 18,737 3,422 1,320 1,107 213 7.85 7.79 6 Commercial real estate 3,224 4,067 (843) 208 267 (59) 8.52 8.65 (13) Other 2,133 1,868 265 112 96 16 7.01 6.90 11 ---------------------------- ------------------------- Total loans, net of unearned income 55,129 52,651 2,478 3,440 3,253 187 8.29 8.21 8 Other 1,042 900 142 50 40 10 6.35 5.92 43 ---------------------------- ------------------------- Total interest-earning assets/ interest income 66,621 63,993 2,628 3,979 3,792 187 7.94 7.87 6 Noninterest-earning assets 7,078 6,575 503 ---------------------------- Total assets $73,699 $70,568 $3,131 ============================ Interest-bearing liabilities Deposits Demand and money market $14,430 $13,318 $1,112 322 286 36 2.99 2.87 12 Savings 2,644 2,919 (275) 39 43 (4) 1.98 1.97 1 Other time 16,995 17,570 (575) 691 711 (20) 5.43 5.41 2 Deposits in foreign offices 1,017 1,127 (110) 43 47 (4) 5.57 5.49 8 ---------------------------- ------------------------- Total interest-bearing deposits 35,086 34,934 152 1,095 1,087 8 4.17 4.16 1 Borrowed funds 21,501 18,584 2,917 950 820 130 5.83 5.84 (1) ---------------------------- ------------------------- Total interest-bearing liabilities/interest expense 56,587 53,518 3,069 2,045 1,907 138 4.80 4.74 6 ------------------------- --------------------------- Noninterest-bearing liabilities, capital securities and shareholders' equity 17,112 17,050 62 ---------------------------- Total liabilities and shareholders' equity $73,699 $70,568 $3,131 ============================ Interest rate spread 3.14 3.13 Impact of noninterest-bearing sources .72 .78 (5) --------------------------- Net interest income/margin $1,934 $1,885 $ 49 3.86% 3.91% (5)bp ====================================================================================================================================
The narrowing of the net interest margin was primarily due to a change in balance sheet composition as well as declining spreads resulting from competitive pressures on certain loan and deposit products. Partially offsetting these unfavorable factors was a decrease of $1.7 billion in average securities available for sale which represented 11% of average earning assets compared with 14% a year ago. Funding cost is affected by the composition of funding sources as well as related rates paid thereon. Average deposits comprised 60.3% and 63.1% of PNC Bank's total sources of funding for the nine months ended September 30, 1998 and 1997, respectively, with the remainder primarily comprised of wholesale funding obtained at prevailing market rates. Management anticipates modest balance sheet growth and continued competitive pressure on the net interest margin throughout the remainder of 1998. PROVISION FOR CREDIT LOSSES The provision for credit losses was $110 million in the first nine months of 1998 compared with $45 million in the prior-year period. Management expects to further increase the provision for credit losses in the fourth quarter taking into account the allowance for credit losses relative to economic conditions, the status of credit exposure to affiliates of AHERF and net charge-off levels, among other factors. PNC BANK CORP. ---- 11 FINANCIAL REVIEW NONINTEREST INCOME
Change Nine months ended September 30 - ----------------- dollars in millions 1998 1997 Amount Percent - ------------------------------------------------------------------- Asset management $ 421 $ 333 $ 88 26.4% Mutual fund servicing 134 104 30 28.8 Service charges on deposits 150 152 (2) (1.3) Consumer services Credit card 94 64 30 46.9 Brokerage 49 40 9 22.5 Insurance 32 29 3 10.3 Other 99 91 8 8.8 ------------------------- Total consumer services 274 224 50 22.3 Corporate finance and capital markets Capital markets 37 30 7 23.3 Commercial mortgage servicing 26 26 NM Other 112 113 (1) (.9) ------------------------- Total corporate finance and capital markets 175 143 32 22.4 Mortgage banking Residential mortgage servicing 106 86 20 23.3 Origination 56 33 23 69.7 Marketing 78 35 43 NM Sales of servicing 7 2 5 NM ------------------------- Total mortgage banking 247 156 91 58.3 Net securities gains 76 27 49 NM Other 349 198 151 76.3 ------------------------- Total $1,826 $1,337 $489 36.6% ====================================================================
NM - not meaningful NONINTEREST INCOME Noninterest income increased $489 million or 37% for the first nine months of 1998 and included $86 million of gains from sales of 24 branches in Western Pennsylvania, Kentucky and Indiana, that were offset by one-time costs related to consumer delivery initiatives, improvements in credit card operations and the impact of valuation adjustments on certain market-sensitive asset positions. Noninterest income also included $123 million of trading and securities gains that resulted from mortgage banking hedging activities and largely offset an increase in the amortization of residential MSR. Asset management fees increased 26% primarily due to new business. Assets under management increased 20% to $152 billion at September 30, 1998 compared with $127 billion a year ago. Mutual fund servicing fees grew 29% resulting from an increase in assets and accounts serviced. At September 30, 1998, custody and accounting/administration services were provided for $287 billion and $228 billion of mutual fund assets, respectively. The comparable amounts were $212 billion and $175 billion, respectively, a year ago. Consumer services revenue increased 22% primarily due to higher credit card fees related to growth in accounts. Corporate finance and capital markets fees increased $32 million including $26 million of commercial mortgage servicing revenue from Midland. Mortgage banking revenue grew primarily due to higher marketing gains and origination volume reflecting significant mortgage refinance activity and new business in the first nine months of 1998. Net securities gains were $76 million in the first nine months of 1998 including $62 million resulting from MSR hedging activities. Other noninterest income increased primarily due to the branch gains, trading gains from MSR hedging activities and higher venture capital income. NONINTEREST EXPENSE
Change Nine months ended September 30 - ----------------- dollars in millions 1998 1997 Amount Percent - ------------------------------------------------------------------- Staff expense Compensation $ 867 $ 762 $105 13.8% Employee benefits 156 157 (1) (.6) ------------------------- Total staff expense 1,023 919 104 11.3 Net occupancy and equipment Net occupancy 148 140 8 5.7 Equipment 149 132 17 12.9 ------------------------- Total net occupancy and equipment 297 272 25 9.2 Amortization Mortgage servicing rights 222 49 173 NM Goodwill 49 40 9 22.5 Other 32 29 3 10.3 ------------------------- Total amortization 303 118 185 NM Marketing 79 59 20 33.9 Distributions on capital securities 44 30 14 46.7 Other 619 548 71 13.0 ------------------------- Total $2,365 $1,946 $419 21.5% ====================================================================
NM - not meaningful NONINTEREST EXPENSE Noninterest expense increased $419 million or 22% in the first nine months of 1998. Higher MSR amortization of $173 million and approximately $55 million of one-time costs for consumer delivery initiatives, employee displacements and the streamlining of credit card operations contributed to the increase. The remaining increase in noninterest expense was primarily due to incentive compensation commensurate with revenue growth, the impact of Midland and higher marketing costs associated with National Consumer Banking initiatives. Average full-time equivalent employees totaled approximately 25,300 in the first nine months of 1998 compared with 24,600 in the prior-year period. PNC BANK CORP. ---- 12 CONSOLIDATED BALANCE SHEET REVIEW PERIOD-END BALANCE SHEET HIGHLIGHTS
September 30 December 31 In millions 1998 1997 Change - ------------------------------------------------------------------ Assets $76,238 $75,120 $ 1,118 Earning assets 68,638 66,688 1,950 Loans, net of unearned income 56,752 54,245 2,507 Securities available for sale 7,152 8,522 (1,370) Deposits 46,875 47,649 (774) Borrowed funds 19,972 19,622 350 Shareholders' equity 5,793 5,384 409 ==================================================================
LOANS Loans outstanding increased $2.5 billion from year-end 1997 to $56.8 billion at September 30, 1998 primarily in Corporate Banking and Secured Lending. Certain reclassifications of loan balances were made for the current reporting period; however, prior-period amounts were not restated. LOANS
September 30 December 31 In millions 1998 1997 - ------------------------------------------------------------------ Consumer Home equity $ 5,562 $ 4,848 Credit card 3,874 3,830 Automobile 2,685 3,221 Education 1,124 1,223 Other 1,749 1,913 --------------------- Total consumer 14,994 15,035 Residential mortgage 12,388 12,785 Commercial Manufacturing 4,838 3,838 Retail/wholesale 4,175 3,575 Service providers 2,825 2,497 Real estate related 2,635 2,047 Communications 1,613 1,154 Health care 1,331 1,504 Financial services 1,807 1,027 Other 5,015 4,347 --------------------- Total commercial 24,239 19,989 Commercial real estate Mortgage 812 1,848 Real estate project 2,026 2,126 --------------------- Total commercial real estate 2,838 3,974 Lease financing and other 2,738 2,874 Unearned income (445) (412) --------------------- Total, net of unearned income $56,752 $54,245 ==================================================================
The loan portfolio remained relatively consistent in the comparison and composition continues to be geographically diversified among numerous industries and types of businesses. As the Corporation's businesses evolve, the loan portfolio is expected to remain diversified. NET UNFUNDED COMMITMENTS
September 30 December 31 In millions 1998 1997 - ------------------------------------------------------------------ Consumer (excluding credit card) $ 3,653 $ 3,363 Credit card 16,812 16,385 Residential mortgage 4,882 2,144 Commercial 31,785 29,707 Commercial real estate 906 1,167 Other 701 1,082 ---------------------- Total $58,739 $53,848 ==================================================================
Commitments to extend credit represent arrangements to lend funds provided there is no violation of specified contractual conditions. Commercial commitments are reported net of $5.4 billion and $5.9 billion of participations, assignments and syndications, primarily to financial institutions, at September 30, 1998 and December 31, 1997, respectively. Net outstanding letters of credit totaled $4.6 billion and $4.7 billion at September 30, 1998 and December 31, 1997, 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. SECURITIES AVAILABLE FOR SALE The securities portfolio declined $1.4 billion from year-end 1997 to $7.2 billion at September 30, 1998. The expected weighted-average life of the securities portfolio was 3 years and 9 months at September 30, 1998 compared with 2 years and 9 months at year-end 1997. SECURITIES AVAILABLE FOR SALE
September 30, 1998 December 31, 1997 -------------------- -------------------- Amortized Fair Amortized Fair In millions Cost Value Cost Value - ------------------------------------------------------------------ Debt securities U.S. Treasury and government agencies $1,573 $1,632 $1,102 $1,105 Mortgage-backed 3,761 3,751 4,672 4,623 Asset-backed 983 989 2,079 2,083 State and municipal 132 138 170 177 Other debt 33 35 34 33 Corporate stocks and other 644 607 501 501 ------------------------------------- Total $7,126 $7,152 $8,558 $8,522 ==================================================================
Securities available for sale may be sold as part of the overall asset/liability management process. Realized gains and losses are reflected in the results of operations and include gains or losses on associated financial derivatives. Unrealized gains and losses are reflected in other comprehensive income. No financial derivatives were designated to securities available for sale at September 30, 1998 and December 31, 1997. PNC BANK CORP. ---- 13 FINANCIAL REVIEW FUNDING SOURCES Deposits were $46.9 billion at September 30, 1998, a decline of $774 million from December 31, 1997. Liquidity was strengthened as 42% of wholesale liabilities had a maturity beyond one year at September 30, 1998 compared with 32% at September 30, 1997. A $350 million increase in borrowed funds from $19.6 billion at year-end 1997 was primarily the result of increases in bank notes and senior debt, repurchase agreements and other borrowed funds partially offset by a decline in federal funds purchased. During the first nine months of 1998, the Corporation continued to expand funding sources by issuing $800 million of bank notes under the Euro medium-term bank note program. FUNDING SOURCES
September 30 December 31 In millions 1998 1997 - ------------------------------------------------------------------ Deposits Demand, savings and money market $26,677 $27,475 Time 17,173 17,125 Foreign 3,025 3,049 ---------------------- Total deposits 46,875 47,649 Borrowed funds Bank notes and senior debt 10,558 9,826 Federal funds purchased 771 3,632 Repurchase agreements 1,041 714 Other borrowed funds 5,759 3,753 Subordinated debt 1,843 1,697 ---------------------- Total borrowed funds 19,972 19,622 ---------------------- Total $66,847 $67,271 ==================================================================
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. 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 September 30, 1998, the Corporation and each bank subsidiary met the well capitalized capital ratio requirements. RISK-BASED CAPITAL
September 30 December 31 Dollars in millions 1998 1997 - ------------------------------------------------------------------ Capital components Shareholders' equity Common $ 5,479 $ 5,069 Preferred 314 315 Trust preferred capital securities 850 650 Goodwill and other (1,305) (949) Net unrealized securities losses (17) 23 -------------------- Tier I risk-based capital 5,321 5,108 Subordinated debt 1,640 1,666 Eligible allowance for credit losses 816 861 -------------------- Total risk-based capital $ 7,777 $ 7,635 ==================== Assets Risk-weighted assets and off-balance-sheet instruments $71,178 $68,756 Average tangible assets 74,065 69,948 ==================== Capital ratios Tier I risk-based 7.48% 7.43% Total risk-based 10.93 11.11 Leverage 7.18 7.30 ==================================================================
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. In April 1998, the Corporation issued $140 million of 6.5% subordinated notes that qualify as Tier II risk-based capital. In June 1998, the Corporation issued $200 million of floating rate mandatorily redeemable capital securities bearing interest at a rate per annum equal to 3-month LIBOR plus 57 basis points. The rate in effect at September 30, 1998 was 6.195%. These mandatorily redeemable capital securities qualify as Tier I risk-based capital. In May 1998, the Corporation called $39 million of 8.25% convertible subordinated debentures at par redeemable in June. Prior to the redemption date, these debentures were converted into common stock at a conversion price of $23.41. The conversion of these debentures resulted in a corresponding increase in shareholders' equity. PNC BANK CORP. ---- 14 During the first nine months of 1998, PNC Bank repurchased 4.8 million shares of common stock. The Corporation's board of directors authorized in April 1998 the repurchase of up to 10 million shares of common stock through April 30, 1999. Approximately 9.0 million shares remain under this authorization. YEAR 2000 READINESS The Corporation has been working since 1995 to prepare its computer systems and applications to meet the year 2000 challenge. This process involves reviewing, modifying and replacing existing hardware, software and embedded chip technology systems, as necessary, and communicating with external service providers and customers as to whether they are addressing their year 2000 issues. The Corporation is also assessing the potential for computer systems of third parties such as vendors, customers, governmental entities and others to impact the Corporation's business operations. The Corporation has not identified any material third party problems to date, but continues to assess the situation. Given the Corporation's common technology infrastructure and the progress made to date, management estimates that the review and modification of its computer systems and applications will be substantially completed by December 31, 1998. As of October 31, 1998, approximately 90% of the Corporation's internally supported mainframe, mid-range and PC client-server systems have been tested and returned to production as year 2000 ready. Also, approximately 90% of the Corporation's non-PC related hardware and systems software have been tested and determined to be year 2000 ready. The Corporation has also undertaken an organization-wide assessment of year 2000 issues relating to its mission critical systems which utilize embedded chip technologies. As of October 31, 1998, the assessment of embedded chip technology systems is approximately 90% complete. No significant problems have been identified to date with respect to embedded chip technology systems. The Corporation is taking steps designed to determine the year 2000 preparedness of its 1,300 identified mission critical service providers and approximately 3,000 largest lending relationships. The assessment of the year 2000 preparedness of critical service providers is scheduled for completion by year-end 1998. The assessment of the Corporation's largest lending relationships is ongoing; PNC Bank intends to follow up with inquiries during the remainder of 1998 and in 1999. During the spring of 1999, PNC Bank plans to conduct fully integrated testing of its systems and applications to determine whether its mission critical application systems will perform their functions in coordination with one another. The mission critical applications systems will be tested on year 2000-compliant hardware and software using dates of December 31, 1999, January 3, 2000, February 29, 2000 and additional dates, if determined to be appropriate. The Corporation also intends to conduct testing during 1999 with those mission critical vendors that provide systems-related services. The estimated total cost to become year 2000 compliant, which is being expensed as incurred, is approximately $30 million. Through September 30, 1998, the Corporation has expensed approximately $18 million related to the year 2000 effort and anticipates that approximately 25% of the remaining costs will be incurred in the fourth quarter of 1998. Of the projected total year 2000 expenses, approximately 45% relate to internally allocated information technology costs. No significant outlays have been made to replace existing systems solely for year 2000 compliance reasons. The costs and the timetable in which the Corporation plans to complete the Year 2000 readiness activities are based on management's best estimates, which were derived using numerous assumptions of future events including the continued availability of certain resources, third party readiness plans and other factors. The Corporation can make no guarantee that these estimates will be achieved, and actual results could differ from such plans. Contingency plans have been completed for all systems and applications that were not remediated and tested by October 31, 1998. Contingency plans are also being developed for critical service providers as determined appropriate based on their responses to the Corporation's year 2000 readiness inquiries. Additionally, the Corporation is presently reviewing and finalizing business continuity and disaster recovery plans for each line of business. All contingency plans will be subject to review during the next 15 months and modified when necessary or appropriate. Certain contingency plans will be tested during 1999. PNC Bank's year 2000 remedial efforts and contingency plans are subject to oversight and regulation by certain federal bank regulatory authorities. It is not possible to predict with certainty all of the adverse effects that could result from a failure of the Corporation or of third parties to become fully year 2000 compliant or whether such effects could have a material impact on the Corporation. However, if the Corporation were to fail to correct its internal year 2000 problems, or if one or more of its third party providers are unable due to year 2000 issues to provide services required by the Corporation, a disruption of operations, resulting in increased operating costs and other adverse effects, could result. In addition, to the extent customers' financial positions are weakened due to year 2000 issues, credit quality could be adversely affected. PNC BANK CORP. ---- 15 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 and interest rate risk. Market risk is also inherent in the Corporation's business operations. Market risk is the risk of loss associated with adverse changes in the fair value of financial instruments due to changes in interest rates, exchange rates and equity prices. To manage these risks, PNC Bank has risk management processes designed to provide for risk identification, measurement, monitoring and control. CREDIT RISK Credit risk represents the possibility that a customer 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 diversification, limiting exposure to any single industry or customer, requiring collateral or selling participations to third parties and purchasing credit-related derivatives. NONPERFORMING ASSETS
September 30 December 31 Dollars in millions 1998 1997 - ---------------------------------------------------------------- Nonperforming loans Commercial $148 $128 Commercial real estate Mortgage 44 84 Real estate project 29 10 Residential mortgage 56 44 Consumer 5 10 ----------------- Total nonperforming loans 282 276 Foreclosed assets Commercial real estate 20 27 Residential mortgage 18 21 Other 9 9 ----------------- Total foreclosed assets 47 57 ----------------- Total nonperforming assets $329 $333 ================= Nonperforming loans to loans .50% .51% Nonperforming assets to loans and foreclosed assets .58 .61 Nonperforming assets to assets .43 .44 ================================================================
The amount of nonperforming loans that were current as to principal and interest was $30 million at September 30, 1998 and $34 million at December 31, 1997. There were no restructured loans outstanding as of either period end presented. The increase in nonperforming loans from December 31, 1997 reflected $40 million related to AHERF that became nonperforming in the third quarter while all other nonperforming loans declined $34 million.
CHANGE IN NONPERFORMING ASSETS In millions 1998 1997 - ---------------------------------------------------------------- January 1 $ 333 $ 459 Transferred from accrual 216 232 Returned to performing (11) (20) Principal reductions (139) (154) Sales (40) (73) Charge-offs and valuation adjustments (30) (50) ------------------ September 30 $ 329 $ 394 ================================================================
ACCRUING LOANS PAST DUE 90 DAYS OR MORE Amount Percent of Loans --------------------------- --------------------------- September 30 December 31 September 30 December 31 Dollars in millions 1998 1997 1998 1997 - ------------------------------------------------------------------------------- Consumer Guaranteed education $ 22 $ 26 1.96% 2.32% Credit card 70 69 1.81 1.80 Other 31 32 .31 .33 ------------------ Total consumer 123 127 .82 .87 Residential mortgage 56 60 .45 .47 Commercial 58 78 .22 .39 Commercial real estate 30 23 1.06 .59 ------------------ Total $267 $288 .47 .53 ===============================================================================
ALLOWANCE FOR CREDIT LOSSES In determining the adequacy of the allowance for credit losses, the Corporation makes allocations to specific problem loans based on discounted cash flow analyses or collateral valuations for impaired loans and to pools of watchlist and nonwatchlist loans for various credit risk factors. Allocations to loan pools are developed by risk rating and industry classifications and based on management's judgment concerning historical loss trends and other relevant factors. These factors may include, among others, local, regional, national and global economic conditions, portfolio concentrations, industry competition and consolidation and the impact of government regulation. Consumer and residential mortgage loan allocations are based on historical loss experience adjusted for portfolio activity and current economic conditions.
ALLOWANCE FOR CREDIT LOSSES In millions 1998 1997 - ---------------------------------------------------------------- January 1 $ 972 $1,166 Charge-offs (321) (280) Recoveries 54 88 ------------------ Net charge-offs (267) (192) Provision for credit losses 110 45 Acquisitions 1 8 ------------------ September 30 $ 816 $1,027 ================================================================
The allowance as a percent of nonperforming loans and period-end loans was 289% and 1.44%, respectively, at September 30, 1998. The comparable year-end 1997 amounts were 352% and 1.79%. PNC BANK CORP. ---- 16
CHARGE-OFFS AND RECOVERIES Nine months ended Net Percent of September 30 - Charge- Charge- Average dollars in millions offs Recoveries offs Loans - -------------------------------------------------------------------- 1998 Consumer (excluding credit card) $ 67 $27 $ 40 .48% Credit card 220 12 208 7.05 Residential mortgage 6 1 5 .05 Commercial 21 12 9 .05 Commercial real estate 7 2 5 .21 -------------------------- Total $321 $54 $267 .65 - -------------------------------------------------------------------- 1997 Consumer (excluding credit card) $ 80 $27 $ 53 .62% Credit card 154 20 134 5.16 Residential mortgage 8 1 7 .07 Commercial 31 34 (3) (.02) Commercial real estate 7 6 1 .03 -------------------------- Total $280 $88 $192 .49 ====================================================================
LIQUIDITY RISK Liquidity represents an institution's ability to obtain funds at reasonable rates to satisfy commitments to borrowers, demands of depositors and debtholders and to invest in strategic initiatives. Liquidity risk represents the possibility that the Corporation would be unable to generate, or otherwise obtain, funds at reasonable rates to satisfy such obligations or investments. Key factors affecting the Corporation's liquidity include the availability and distribution of funding by type and maturity, asset quality, current and future earnings expectations, market factors, and management and business outlooks and strategies. Liquidity risk is centrally managed by Asset & Liability Management. The Corporation manages liquidity risk considering the trend of overnight funding and upcoming asset and liability maturities, product, customer and industry concentrations of wholesale funding, securities portfolio liquidity, market factors such as interest rate swap, bank note and subordinated debt spreads and the Corporation's earnings expectations. Liquidity risk management is complemented by the Corporation's ability to raise funds in the capital markets through asset securitizations or sales. The ability to raise funds in the capital markets depends, among other factors, on credit ratings, market conditions, capital considerations and investor demand. Liquid assets consist of short-term investments, loans held for sale and securities available for sale. At September 30, 1998, such assets totaled $12 billion, with $3.7 billion pledged as collateral for borrowing, trust and other commitments. Liquidity is also provided by residential mortgages which may be used as collateral for funds obtained through the Federal Home Loan Bank ("FHLB") system. At September 30, 1998, approximately $4.5 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. The Corporation has unused capacity under effective shelf registration statements of approximately $1.3 billion of debt and equity securities and $400 million of trust preferred capital securities. During the first nine months of 1998, the Corporation issued $140 million of subordinated debt and $200 million of trust preferred capital securities. In addition, the Corporation has $500 million unused line of credit. 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 $876 million at September 30, 1998. Dividends may also be impacted by capital needs, regulatory requirements, corporate policies, contractual restrictions and other factors. Management believes the Corporation has sufficient liquidity to meet current obligations to borrowers, depositors, debtholders and others. The impact of replacing maturing liabilities is reflected in the income simulation model used in the overall asset/liability management process. INTEREST RATE RISK Interest rate risk arises primarily through the Corporation's core 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 vehicles, financial derivatives and other capital markets instruments. Interest rate risk is centrally managed by Asset and Liability ("A&L") Management. The Corporation actively measures and monitors all 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 & Liability Committee ("ALCO") provides strategic direction to A&L Management and, in doing so, reviews capital markets activities and interest rate risk exposures. The Finance Committee of the Board of Directors PNC BANK CORP. ---- 17 FINANCIAL REVIEW 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. A net interest income simulation model is used to measure the sensitivity of net interest income to changing interest rates over the next twenty-four month period; and 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, line of business plans and published industry experience with input by key line of business managers. Any significant changes in major assumptions are reviewed by ALCO. This review includes an assessment of the motivation for the change and its effect on the simulated results. 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 timing, magnitude and frequency of interest rate changes, the difference between actual experience and the assumed volume and characteristics of new business and the 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. Through the first nine months of 1998, the Corporation's interest rate risk exposures were consistently within policy limits. At September 30, 1998, if interest rates were to increase by 100 basis points over the next twelve months, net interest income would increase by 0.3%. If interest rates were to decrease by 100 basis points over the next twelve months, net interest income would decline by 0.4%. 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 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 balance sheet and off-balance sheet positions to movements in interest rates using an economic value of equity sensitivity 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 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% as a percentage 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 September 30, 1998, if interest rates were to increase by 200 basis points, the economic value of existing on-balance-sheet and off-balance-sheet positions would decline by 0.12% of assets. If interest rates were to decrease by 200 basis points, the economic value of existing on-balance-sheet and off-balance-sheet positions would decline by 0.19% of assets. MARKET RISK Most of PNC Bank's trading activities are designed to provide capital markets services for Corporate Banking and Private Banking customers. While some market risk exposure is a necessary outgrowth of providing services to customers. The performance of PNC Bank's trading operations is predominantly based on providing services to customers and not on positioning the Corporation's portfolio for gains from market movements. PNC Bank's market risk is predominantly related to interest rate risk associated with normal loan and deposit taking. 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 maximum loss due to a two standard deviation one day move. The combined period-end value-at-risk of all trading operations was less than $400 thousand at September 30, 1998. PNC BANK CORP. ---- 18 FINANCIAL DERIVATIVES A variety of off-balance-sheet financial derivatives are used as part of the overall risk management process to manage interest rate and credit risk inherent in the Corporation's line of business activities. Interest rate swaps and purchased interest rate caps and floors are the primary instruments used for interest rate risk management purposes. 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 activities. Credit-related derivatives provide, for a fee, a guarantee 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 and credit risk in excess of the amount recognized in 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. The following table sets forth changes in off-balance-sheet financial derivatives used for risk management during the first nine months of 1998.
FINANCIAL DERIVATIVES ACTIVITY Weighted- Average 1998 - dollars in millions January 1 Additions Maturities Terminations September 30 Maturity - ----------------------------------------------------------------------------------------------------------------------------------- Interest rate risk management Interest rate swaps Receive fixed $ 4,320 $ 5,155 $ (1,547) $(1,040) $ 6,888 2 yr. 6 mo. Pay fixed 448 301 (94) (636) 19 11 mo. Basis swaps 1,011 810 (67) 1,754 4 yr. 9 mo. Interest rate caps 542 227 (116) (5) 648 4 yr. 3 mo. Interest rate floors 3,645 3,404 (2,100) (100) 4,849 1 yr. 7 mo. --------------------------------------------------------------- Total interest rate risk management 9,966 9,897 (3,924) (1,781) 14,158 Mortgage banking activities Residential Forward contracts Commitments to purchase loans 1,652 15,343 (13,808) 3,187 2 mo. Commitments to sell loans 1,335 20,598 (18,928) 3,005 2 mo. Options 58 663 (490) 231 2 mo. Interest rate floors - MSR 1,470 3,875 (950) 4,395 4 yr. 9 mo. --------------------------------------------------------------- Total residential 4,515 40,479 (33,226) (950) 10,818 Commercial 598 (100) 498 7 yr. --------------------------------------------------------------- Total mortgage banking activities 4,515 41,077 (33,226) (1,050) 11,316 Credit-related activities Credit default swaps 4,305 4,305 3 yr. --------------------------------------------------------------- Total $14,481 $55,279 $(37,150) $(2,831) $29,779 ===================================================================================================================================
During the first nine months of 1998, financial derivatives used in interest rate risk management increased net interest income by $9 million compared with an $8 million decrease in the prior-year period. PNC BANK CORP. ---- 19 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.
FINANCIAL DERIVATIVES Weighted-Average Interest Rates Notional Estimated ------------------------------- September 30, 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 $119 4.82% 5.98% Pay fixed designated to loans 5 6.23 4.77 Basis swaps designated to other earning assets 300 5 4.29 4.98 Interest rate caps designated to loans (2) 648 3 Interest rate floors designated to loans (3) 4,849 12 -------------------------- Total asset rate conversion 11,352 139 Liability rate conversion Interest rate swaps (1) Receive fixed designated to: Interest-bearing deposits 325 19 4.87 6.32 Borrowed funds 1,013 68 4.98 6.19 Pay fixed designated to borrowed funds 14 1 5.62 5.50 Basis swaps designated to borrowed funds 1,454 9 4.89 4.89 -------------------------- Total liability rate conversion 2,806 97 -------------------------- Total interest rate risk management 14,158 236 Mortgage banking activities Residential Forward contracts Commitments to purchase loans 3,187 (1) Commitments to sell loans 3,005 (13) Options 231 3 Interest rate floors - MSR (3) 4,395 78 -------------------------- Total residential 10,818 67 Commercial 498 (12) -------------------------- Total mortgage banking activities 11,316 55 Credit-related activities Credit default swaps 4,305 -------------------------- Total financial derivatives $29,779 $291 ===================================================================================================================================
(1) The floating rate portion of interest rate contracts is based on money-market indices. As a percent of notional value, 48% were based on 1-month LIBOR, 47% on 3-month LIBOR and the remainder on other short-term indices. (2) Interest rate caps with notional values of $228 million, $187 million and $230 million require the counterparty to pay the excess, if any, of 3-month LIBOR over a weighted-average strike of 6.32%, 1-month LIBOR over a weighted-average strike of 5.94% and Prime over a weighted-average strike of 8.85%, respectively. At September 30, 1998, 3-month LIBOR was 5.31%, 1-month LIBOR was 5.38% and Prime was 8.5%. (3) Interest rate floors with notional values of $4.5 billion, $2.6 billion and $1.8 billion require the counterparty to pay the Corporation the excess, if any, of the weighted-average strike of 5.00% over 3-month LIBOR and the weighted-average strike of 5.39% over 10-year CMT and weighted-average strike of 5.18% over 10-year CMS, respectively. At September 30, 1998, 3-month LIBOR was 5.31%, 10-year CMT was 4.44% and 10-year CMS was 5.30%. OTHER DERIVATIVES To accommodate customer needs, PNC Bank enters into customer-related financial derivatives 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 derivatives 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 Positive Negative Notional Fair Fair Net Asset September 30, 1998 - in millions Value Value Value (Liability) - -------------------------------------------------------------------------------- Customer-related Interest rate Swaps $ 9,227 $ 88 $(109) $(21) Caps/floors Sold 2,477 (6) (6) Purchased 1,996 14 14 Foreign exchange 2,379 25 (16) 9 Other 1,794 8 (7) 1 ---------------------------------------- Total customer-related 17,873 135 (138) (3) Other 727 1 1 ---------------------------------------- Total other derivatives $18,600 $136 $(138) $ (2) ================================================================================
PNC BANK CORP. ---- 20 THIRD QUARTER 1998 VS. THIRD QUARTER 1997 Net income for the third quarter of 1998 totaled $281 million or $.91 per diluted share compared with $262 million or $.83 per diluted share a year ago. Returns on average common shareholders' equity and average assets were 20.52% and 1.48%, respectively, in the third quarter of 1998 compared with 20.11% and 1.47% in the prior-year quarter. Taxable-equivalent net interest income increased $25 million to $653 million in the third quarter of 1998. The net interest margin was 3.81% compared with 3.89% in the year-earlier period and 3.81% in the second quarter of 1998. The provision for credit losses was $45 million in the third quarter of 1998 compared with $20 million last year. Noninterest income was $676 million in the third quarter of 1998, an increase of 47% compared with the third quarter of 1997. Asset management, mutual fund servicing, consumer services, corporate finance and capital markets, and mortgage banking revenues each grew 20% or more compared with the prior year quarter. In addition, noninterest income included $30 million of gains from the sales of eight branches in Kentucky and Indiana that offset the impact of valuation adjustments on certain market-sensitive asset positions. Noninterest income also included $55 million of trading gains and $51 million of net securities gains resulting from mortgage banking hedging activities that offset an increase in the amortization of residential MSR. Asset management and mutual fund servicing fees grew 24% and 33%, respectively, from the third quarter of 1997 reflecting significant new business. Consumer services revenue increased $20 million or 25% compared with the third quarter of 1997 primarily due to growth in credit card accounts. Corporate finance and capital markets fees increased 25% to $57 million in the third quarter of 1998 resulting from higher treasury management and capital markets fees. Mortgage banking revenue grew $14 million or 20% from the prior-year quarter primarily due to higher servicing income reflecting the impact of servicing portfolio acquisitions and significant mortgage refinance activity. Residential mortgage originations totaled $3.1 billion compared with $1.7 billion in the year-earlier period. At September 30, 1998, approximately $60.3 billion of mortgages were serviced compared with $41.0 billion in the prior-year period. Noninterest expense of $843 million increased $191 million compared with the third quarter of 1997. The increase was primarily due to higher amortization of residential MSR, the impact of the Midland acquisition and incentive compensation commensurate with revenue growth. Total assets were $76.2 billion at September 30, 1998. Average earning assets increased $4.0 billion from the prior-year quarter to $68.0 billion primarily due to higher loans and loans held for sale. Average loans grew $2.7 billion to $55.9 billion, a 5.1% increase from the prior year. Growth in commercial loans more than offset a decline in residential mortgages and downsizing of the indirect automobile lending portfolio. The increase in commercial loans was primarily in middle market and secured lending. Loans represented 82.3% of average earning assets in the third quarter of 1998 compared with 83.2% a year ago. Average loans held for sale increased $2.3 billion reflecting higher residential mortgage originations and the commercial mortgage inventory of Midland. Average securities available for sale decreased $1.1 billion to $7.1 billion or 10.4% of average earning assets. Net charge-offs were $88 million in the third quarter of 1998 compared with $73 million in the third quarter of last year. The corresponding ratios of net charge-offs as a percentage of average loans were 0.62% and 0.54%, respectively. Average deposits decreased slightly to $44.5 billion in comparison with the prior-year period and represented 59.1% of total sources of funds. Shareholders' equity totaled $5.8 billion at the end of the third quarter. At September 30, 1998 the leverage ratio was 7.18% and Tier I and Total risk-based capital ratios were 7.48% and 10.93%, respectively. PNC BANK CORP. ---- 21 CONSOLIDATED STATEMENT OF INCOME
Three months ended Nine months ended September 30 September 30 ---------------------------------------------------- In thousands, except per share data 1998 1997 1998 1997 - -------------------------------------------------------------------------------------------------------------------------- INTEREST INCOME Loans and fees on loans $1,166,728 $1,101,508 $3,424,186 $3,236,193 Securities available for sale 102,569 125,347 323,816 420,587 Other 84,989 43,489 210,758 112,880 --------------------------------------------------- Total interest income 1,354,286 1,270,344 3,958,760 3,769,660 INTEREST EXPENSE Deposits 371,563 372,860 1,095,409 1,087,015 Borrowed funds 336,676 277,567 949,450 819,628 --------------------------------------------------- Total interest expense 708,239 650,427 2,044,859 1,906,643 --------------------------------------------------- Net interest income 646,047 619,917 1,913,901 1,863,017 Provision for credit losses 45,000 20,000 110,000 45,000 --------------------------------------------------- Net interest income less provision for credit losses 601,047 599,917 1,803,901 1,818,017 NONINTEREST INCOME Asset management 143,018 115,197 420,969 332,596 Mutual fund servicing 47,373 35,608 133,900 103,799 Service charges on deposits 52,598 50,899 150,307 152,231 Consumer services 97,966 78,260 273,638 224,421 Corporate finance and capital markets 57,414 45,987 174,733 143,012 Mortgage banking 85,988 71,956 246,873 155,453 Net securities gains (losses) 50,842 (2,657) 76,574 27,139 Other 140,671 63,997 348,994 198,266 --------------------------------------------------- Total noninterest income 675,870 459,247 1,825,988 1,336,917 NONINTEREST EXPENSE Staff expense 335,260 308,492 1,023,230 918,757 Net occupancy and equipment 98,928 90,704 297,164 271,769 Amortization 175,068 48,459 303,350 117,817 Marketing 14,407 11,376 78,531 59,653 Distributions on capital securities 16,396 13,192 43,503 30,015 Other 203,121 179,932 619,301 548,327 --------------------------------------------------- Total noninterest expense 843,180 652,155 2,365,079 1,946,338 --------------------------------------------------- Income before income taxes 433,737 407,009 1,264,810 1,208,596 Income taxes 153,149 145,414 434,551 421,617 --------------------------------------------------- Net income $ 280,588 $ 261,595 $ 830,259 $ 786,979 =================================================== EARNINGS PER COMMON SHARE Basic $.92 $.84 $2.71 $2.47 Diluted .91 .83 2.68 2.44 ==========================================================================================================================
See accompanying Notes to Consolidated Financial Statements. PNC BANK CORP. ---- 22 CONSOLIDATED BALANCE SHEET
September 30 December 31 Dollars in millions, except par value 1998 1997 - ------------------------------------------------------------------------------------------------------ ASSETS Cash and due from banks $ 1,982 $ 4,303 Short-term investments 832 1,526 Loans held for sale 3,833 2,324 Securities available for sale 7,152 8,522 Loans, net of unearned income of $445 and $412 56,752 54,245 Allowance for credit losses (816) (972) ---------------------- Net loans 55,936 53,273 Other 6,503 5,172 ---------------------- Total assets $76,238 $75,120 ====================== LIABILITIES Deposits Noninterest-bearing $ 9,136 $10,158 Interest-bearing 37,739 37,491 ---------------------- Total deposits 46,875 47,649 Borrowed funds Bank notes and senior debt 10,558 9,826 Federal funds purchased 771 3,632 Repurchase agreements 1,041 714 Other borrowed funds 5,759 3,753 Subordinated debt 1,843 1,697 ---------------------- Total borrowed funds 19,972 19,622 Other 2,750 1,815 ---------------------- Total liabilities 69,597 69,086 ---------------------- Mandatorily redeemable capital securities of subsidiary trusts 848 650 SHAREHOLDERS' EQUITY Preferred stock 7 7 Common stock - $5 par value Authorized: 450,000,000 shares Issued: 352,822,767 and 348,447,600 shares 1,764 1,742 Capital surplus 1,178 1,042 Retained earnings 5,105 4,641 Deferred benefit expense (54) (41) Accumulated other comprehensive income (loss) 17 (23) Common stock held in treasury at cost: 51,937,391 and 48,017,641 shares (2,224) (1,984) ---------------------- Total shareholders' equity 5,793 5,384 ---------------------- Total liabilities, capital securities and shareholders' equity $76,238 $75,120 ======================================================================================================
See accompanying Notes to Consolidated Financial Statements. PNC BANK CORP. ---- 23 CONSOLIDATED STATEMENT OF CASH FLOWS
Nine months ended September 30 - in millions 1998 1997 - --------------------------------------------------------------------------------------------------------------- OPERATING ACTIVITIES Net income $ 830 $ 787 Adjustments to reconcile net income to net cash provided (used) by operating activities Provision for credit losses 110 45 Depreciation, amortization and accretion 431 256 Deferred income taxes 73 93 Net securities gains (76) (27) Net gain on sales of assets (235) (136) Changes in Loans held for sale (1,509) (457) Other (621) 77 -------------------- Net cash (used) provided by operating activities (997) 638 INVESTING ACTIVITIES Net change in loans (4,070) (3,862) Repayment of securities available for sale 1,599 1,344 Sales Securities available for sale 9,786 7,307 Loans 1,503 2,144 Foreclosed assets 47 85 Purchases Securities available for sale (9,243) (4,698) Loans (79) (421) Net cash paid for acquisitions/divestitures (1,074) Other 203 (408) -------------------- Net cash (used) provided by investing activities (1,328) 1,491 FINANCING ACTIVITIES Net change in Noninterest-bearing deposits (1,022) (1,023) Interest-bearing deposits 890 147 Federal funds purchased (2,861) (2,194) Sale/issuance Bank notes and senior debt 8,228 7,288 Repurchase agreements 84,509 60,301 Other borrowed funds 76,483 74,026 Subordinated debt 140 350 Capital securities 198 300 Common stock 114 131 Repayment/maturity Bank notes and senior debt (7,496) (4,910) Repurchase agreements (84,182) (60,057) Other borrowed funds (74,358) (75,451) Subordinated debt (2) Acquisition of treasury stock (270) (1,228) Cash dividends paid (367) (365) -------------------- Net cash provided (used) by financing activities 4 (2,685) -------------------- DECREASE IN CASH AND DUE FROM BANKS (2,321) (556) Cash and due from banks at beginning of year 4,303 4,016 -------------------- Cash and due from banks at end of period $ 1,982 $ 3,460 ================================================================================================================ CASH PAID FOR Interest $ 2,047 $ 1,929 Income taxes 262 303 NONCASH ITEMS Transfers from loans to other assets 33 57 Conversion of debt to equity 55 7 ================================================================================================================
See accompanying Notes to Consolidated Financial Statements. PNC BANK CORP. ---- 24 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS BUSINESS PNC Bank Corp. ("Corporation" or "PNC Bank") is one of the largest diversified financial services organizations in the United States. The Corporation's major businesses include Regional Community Banking, Corporate Banking, National Consumer Banking, Private Banking, Mortgage Banking, Secured Lending, Asset Management and Mutual Fund Servicing. Financial products and services are tailored to specific customer segments and offered nationally and in PNC Bank's primary geographic markets in Pennsylvania, New Jersey, Delaware, Ohio and Kentucky. PNC Bank 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 certain regulatory authorities. ACCOUNTING POLICIES BASIS OF FINANCIAL STATEMENT PRESENTATION The unaudited consolidated interim financial statements have been prepared in accordance with generally accepted accounting principles and include the accounts of PNC Bank and its subsidiaries, most of which are wholly owned. In the opinion of management, the financial statements reflect all adjustments, which are of a normal recurring nature, necessary for a fair statement of the results for the interim periods presented. Certain prior period amounts have been reclassified to conform to reporting classifications utilized for the current reporting period. These reclassifications did not impact the Corporation's financial condition or results of operations. In preparing the unaudited consolidated interim financial statements, management is required to make estimates and assumptions that affect the amounts reported in the financial statements. Actual results will differ from such estimates and such differences may be material to the financial statements. The notes included herein should be read in conjunction with the audited consolidated financial statements included in PNC Bank's 1997 Annual Report. ALLOWANCE FOR CREDIT LOSSES The allowance for credit losses is a reserve for estimated credit losses established through provisions charged against income. Loans deemed to be uncollectible are charged against the allowance account and recoveries of previously charged-off loans are credited to the allowance. The allowance is maintained at a level management believes is sufficient to absorb estimated potential credit losses. Management's determination of the adequacy of the allowance is based on 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. SOFTWARE COSTS Effective January 1, 1998, the Corporation adopted Statement of Position ("SOP") 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." SOP 98-1 requires the capitalization of certain costs incurred in connection with developing or obtaining software for internal use. Qualifying software costs are capitalized and amortized over the estimated useful life of the software. Prior to the adoption of SOP 98-1, software costs were expensed as incurred. Restatement of prior year financial statements was not required. The adoption of SOP 98-1 did not have a material impact on the Corporation's financial position or results of operations. FINANCIAL DERIVATIVES The Corporation uses off-balance-sheet financial derivatives as part of the overall asset/liability management process and in residential and commercial mortgage banking activities. Substantially all such instruments are used to manage risk related to changes in interest rates. Financial derivatives primarily consist of interest rate swaps, purchased interest rate caps and floors, forward contracts and foreign exchange contracts. To accommodate customer needs, PNC Bank 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. Additionally, the Corporation enters into other derivatives transactions for risk management purposes that are recorded at estimated fair value and changes in value are included in results of operations. 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 income over the life of the agreement. Changes in the fair value of credit-related derivatives qualifying for hedge accounting treatment are 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 results of operations. PNC BANK CORP. ---- 25 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS COMPREHENSIVE INCOME Effective January 1, 1998, the Corporation adopted Statement of Financial Accounting Standards ("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 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 adoption of SFAS No. 130 had no impact on net income or shareholders' equity. Comprehensive income was $313 million in the third quarter and $870 million in the first nine months of 1998 compared with $311 million and $820 million, respectively, in 1997. 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 SFAS No. 131 "Disclosures About Segments of an Enterprise and Related Information," is effective for financial statements for periods beginning after December 15, 1997. This statement requires financial and descriptive information about an entity's operating segments to be included in the annual financial statements. This standard, when implemented, will impact financial statement footnote disclosure only and will not impact the reported financial position or results of operations of the Corporation. SFAS No. 132 "Employer's Disclosures About Pensions and Other Postretirement Benefits," is effective for fiscal years beginning after December 15, 1997. This statement standardizes and combines the disclosure requirements for pension and other postretirement benefits to the extent practicable, requires additional information on changes in the benefit obligations and fair values of plan assets, and eliminates certain disclosures. This standard, when implemented, will impact financial statement footnote disclosure only and will not impact the reported financial position or results of operations of the Corporation. SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," is required to be adopted in years beginning after June 15, 1999, although early adoption is permitted. The Corporation expects to adopt the new statement effective January 1, 2000. This statement requires the Corporation to recognize all financial derivatives on the balance sheet at fair value. Derivatives that are not hedges must be adjusted to fair value through income. If the derivative is a hedge as defined by the statement, changes in the fair value of derivatives will either be offset against the change in fair value of the hedged assets, liabilities, or firm commitments through earnings or recognized in other comprehensive income until the hedged item is recognized in earnings based on the nature of the hedge. The ineffective portion of a derivative's change in fair value will be immediately recognized in earnings. Management has not yet determined what effect this statement will have on results of operations and the financial position of the Corporation. SFAS 134, Accounting for Mortgage-Backed Securities Retained After the Securitization of Mortgage Loans Held for Sale by a Mortgage Banking Enterprise (an amendment of SFAS 65), is effective January 1, 1999, although early application is permitted. This statement requires the Corporation to classify all mortgage-backed securities or other interests retained after a securitization of mortgage loans held for sale based on its ability and intent to sell or hold those investments. Any retained mortgage-backed securities that the Corporation commits to sell before or during the securitization process must be classified as trading securities. At the time of implementation, this standard permits a one-time reclassification of mortgage-backed securities and other beneficial interests retained after the securitization of mortgage loans held for sale from the trading category. Management does not believe that this statement will have a material impact on results of operations or the financial position of the Corporation. CASH FLOWS During the first nine months of 1998, net acquisition and divestiture activity which affected cash flows consisted of $539 million in acquired assets, $535 million in divested liabilities, cash payments totaling $1.1 million and receipt of $30 million in cash and due from banks. The Corporation did not have any acquisition or divestiture activity which affected cash flows during the first nine months of 1997. PNC BANK CORP. ---- 26 SECURITIES AVAILABLE FOR SALE The following table sets forth the amortized cost and fair value of the Corporation's securities portfolio, all of which is available for sale.
September 30, 1998 December 31, 1997 ------------------------------------------------------------------------------------ Unrealized Unrealized Amortized --------------- Fair Amortized ---------------- Fair In millions Cost Gains Losses Value Cost Gains Losses Value - ----------------------------------------------------------------------------------------------------------------------------------- Debt securities U.S. Treasury and government agencies $1,573 $59 $1,632 $1,102 $ 4 $ 1 $1,105 Mortgage backed 3,761 6 $16 3,751 4,672 4 53 4,623 Asset backed 983 6 989 2,079 5 1 2,083 State and municipal 132 6 138 170 7 177 Other debt 33 5 3 35 34 1 33 -------------------------------------------------------------------------------- Total debt securities 6,482 82 19 6,545 8,057 20 56 8,021 Corporate stocks and other 644 37 607 501 3 3 501 -------------------------------------------------------------------------------- Total securities available for sale $7,126 $82 $56 $7,152 $8,558 $23 $59 $8,522 ===================================================================================================================================
NONPERFORMING ASSETS Nonperforming assets were as follows:
September 30 December 31 In millions 1998 1997 - ---------------------------------------------------------------- Nonperforming loans $282 $276 Foreclosed assets 47 57 ----------------- Total nonperforming assets $329 $333 ================================================================
ALLOWANCE FOR CREDIT LOSSES Changes in the allowance for credit losses were as follows:
In millions 1998 1997 - ---------------------------------------------------------------- Allowance at January 1 $ 972 $1,166 Charge-offs Consumer (excluding credit card) (67) (80) Credit card (220) (154) Residential mortgage (6) (8) Commercial (21) (31) Commercial real estate (7) (7) ----------------- Total charge-offs (321) (280) Recoveries Consumer (excluding credit card) 27 27 Credit card 12 20 Residential mortgage 1 1 Commercial 12 34 Commercial real estate 2 6 ----------------- Total recoveries 54 88 ----------------- Net charge-offs (267) (192) Provision for credit losses 110 45 Acquisitions 1 8 ----------------- Allowance at September 30 $ 816 $1,027 ================================================================
FINANCIAL DERIVATIVES The notional and fair values of financial derivatives used for risk management were as follows:
Positive Negative Notional Fair Notional Fair In millions Value Value Value Value - ----------------------------------------------------------------- SEPTEMBER 30, 1998 Interest rate Swaps $ 8,156 $221 $ 505 Caps 648 3 Floors 4,500 20 349 $ (8) ----------------------------------------- Total interest rate risk management 13,304 244 854 (8) Mortgage banking activities 4,626 81 6,690 (26) Credit default swaps 4,305 ----------------------------------------- Total $22,235 $325 $7,544 $(34) ================================================================= DECEMBER 31, 1997 Interest rate Swaps $ 4,849 $106 $ 930 $(10) Caps 542 4 Floors 3,500 6 145 (1) ----------------------------------------- Total interest rate risk management 8,891 116 1,075 (11) Mortgage banking activities 1,528 28 2,987 (6) ----------------------------------------- Total $10,419 $144 $4,062 $(17) =================================================================
PNC BANK CORP. ---- 27 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Other derivatives were as follows:
Positive Negative Notional Fair Fair Net Asset In millions Value Value Value (Liability) - ---------------------------------------------------------------------- SEPTEMBER 30, 1998 Customer-related Interest rate Swaps $ 9,227 $ 88 $(109) $(21) Caps/floors Sold 2,477 (6) (6) Purchased 1,996 14 14 Foreign exchange 2,379 25 (16) 9 Other 1,794 8 (7) 1 ----------------------------------------- Total customer-related 17,873 135 (138) (3) Other 727 1 1 ----------------------------------------- Total other derivatives $18,600 $136 $(138) $ (2) ===================================================================== DECEMBER 31, 1997 Customer-related Interest rate Swaps $ 3,518 $ 15 $ (14) $ 1 Caps/floors Sold 1,340 (4) (4) Purchased 1,215 4 4 Foreign exchange 1,700 23 (23) Other 734 1 (1) ----------------------------------------- Total customer-related $ 8,507 $ 43 $ (42) $ 1 =====================================================================
CAPITAL SECURITIES OF SUBSIDIARY TRUSTS Mandatorily Redeemable Capital Securities of Subsidiary Trusts ("Capital Securities") include preferred beneficial interests in the assets of PNC Capital Trust C ("Trust C"). Trust C holds $200 million aggregate principal amount of certain junior subordinated debentures due June 1, 2028 issued by the Corporation bearing interest at a floating rate per annum equal to 3-Month LIBOR plus 57 basis points. The rate in effect at September 30, 1998 was 6.195%. Cash distributions on the Capital Securities are made to the extent interest on the debentures is received by Trust C. In the event of certain changes or amendments to regulatory requirements or federal tax rules, the Capital Securities are redeemable in whole. Otherwise, the Capital Securities are generally redeemable in whole or in part on or after June 1, 2008, at 100% of par. EARNINGS PER COMMON SHARE The following table sets forth basic and diluted earnings per common share calculations.
Three months ended Nine months ended September 30 September 30 ------------------------------------------------- In thousands, except per share data 1998 1997 1998 1997 - --------------------------------------------------------------------------------------------------------------------------------- CALCULATION OF BASIC EARNINGS PER COMMON SHARE Net income $280,588 $261,595 $830,259 $786,979 Less: Preferred dividends declared 4,837 4,860 14,529 14,604 ------------------------------------------------ Net income applicable to basic earnings per common share $275,751 $256,735 $815,730 $772,375 ------------------------------------------------ Basic weighted-average common shares outstanding 300,640 305,920 300,521 312,485 ------------------------------------------------ BASIC EARNINGS PER COMMON SHARE $.92 $.84 $2.71 $2.47 ================================================ CALCULATION OF DILUTED EARNINGS PER COMMON SHARE Net income $280,588 $261,595 $830,259 $786,979 Add: Interest expense on convertible debentures (net of tax) 4 755 876 2,282 Less: Dividends declared on nonconvertible preferred stock 4,538 4,537 13,613 13,612 ------------------------------------------------ Net income applicable to diluted earnings per common share $276,054 $257,813 $817,522 $775,649 ------------------------------------------------ Basic weighted-average common shares outstanding 300,640 305,920 300,521 312,485 Weighted-average common shares to be issued using average market price and assuming: Conversion of preferred stock Series A and B 147 162 151 164 Conversion of preferred stock Series C and D 1,134 1,227 1,153 1,252 Conversion of debentures 26 2,444 1,009 2,471 Exercise of stock options 1,606 1,785 1,966 1,787 Incentive share awards 633 309 502 306 ------------------------------------------------ Diluted weighted-average common shares outstanding 304,186 311,847 305,302 318,465 ------------------------------------------------ DILUTED EARNINGS PER COMMON SHARE $.91 $.83 $2.68 $2.44 =================================================================================================================================
PNC BANK CORP. ---- 28 LITIGATION The Corporation's Annual Report on Form 10-K for the year ended December 31, 1997 included a description of a consolidated class action complaint against the Corporation and certain officers, alleging violations of federal securities laws and related common law claims. The parties entered into a settlement agreement, which received final approval of the court on September 26, 1998. The settlement did not have a material impact on the Corporation's financial position or results of operations. OTHER FINANCIAL INFORMATION In connection with the Midlantic Corporation ("Midlantic") merger, borrowed funds of Midlantic in the aggregate principal amount of $300 million at September 30, 1998 were jointly and severally assumed by the parent company and its wholly-owned subsidiary, PNC Bancorp, Inc. Summarized financial information for PNC Bancorp, Inc. and subsidiaries is as follows:
PNC BANCORP, INC., AND SUBSIDIARIES CONSOLIDATED BALANCE SHEET September 30 December 31 In millions 1998 1997 - -------------------------------------------------------------------- ASSETS Cash and due from banks $1,982 $4,302 Securities available for sale 6,943 8,276 Loans, net of unearned income 56,602 54,126 Allowance for credit losses (816) (971) ---------------------- Net loans 55,786 53,155 Other assets 9,954 8,144 ---------------------- Total assets $74,665 $73,877 ====================== LIABILITIES Deposits $46,945 $47,766 Borrowed funds 18,755 18,437 Other liabilities 1,924 1,145 ---------------------- Total liabilities 67,624 67,348 Mandatorily redeemable capital securities of subsidiary trusts 350 350 SHAREHOLDER'S EQUITY 6,691 6,179 ---------------------- Total liabilities, capital securities and shareholder's equity $74,665 $73,877 ====================================================================
PNC BANCORP, INC., AND SUBSIDIARIES CONSOLIDATED STATEMENT OF INCOME Nine months ended September 30 - in millions 1998 1997 - -------------------------------------------------------------------------- Interest income $3,923 $3,735 Interest expense 1,970 1,840 -------------------- Net interest income 1,953 1,895 Provision for credit losses 110 45 -------------------- Net interest income less provision for credit losses 1,843 1,850 Noninterest income 1,671 1,174 Noninterest expense 2,273 1,851 -------------------- Income before income taxes 1,241 1,173 Income taxes 438 416 -------------------- Net income $ 803 $ 757 ==========================================================================
The amount of dividends that may be paid by bank subsidiaries to PNC Bancorp, Inc., a first-tier holding company, and in turn to the parent company, are subject to certain legal limitations. Without regulatory approval, the amount available for payment of dividends by all subsidiary banks to PNC Bancorp, Inc. was $876 million at September 30, 1998. Dividends may also be impacted by capital needs, regulatory requirements, corporate policies, contractual restrictions and other factors. PNC BANK CORP. ---- 29 STATISTICAL INFORMATION CONSOLIDATED AVERAGE BALANCE SHEET AND NET INTEREST ANALYSIS
Nine months ended September 30 -------------------------------------------------------------------------- 1998 1997 -------------------------------------------------------------------------- Average balances in millions, interest in thousands Average Average Average Average Taxable-equivalent basis Balances Interest Yields/Rates Balances Interest Yields/Rates - ------------------------------------------------------------------------------------------------------------------------------------ ASSETS Interest-earning assets Loans held for sale $ 3,059 $ 161,386 7.03% $ 1,329 $ 72,910 7.32% Securities available for sale U.S. Treasury and government agencies 5,179 220,032 5.67 6,389 286,726 5.99 Other debt 1,672 80,956 6.46 2,143 106,048 6.60 Other 540 26,240 6.49 581 32,767 7.53 -------------------- -------------------- Total securities available for sale 7,391 327,228 5.91 9,113 425,541 6.23 Loans, net of unearned income Consumer (excluding credit card) 11,073 706,157 8.53 11,352 718,838 8.47 Credit card 3,942 407,307 13.81 3,475 329,478 12.68 Residential mortgage 12,598 686,313 7.26 13,152 734,829 7.45 Commercial 22,159 1,319,889 7.85 18,737 1,106,748 7.79 Commercial real estate 3,224 208,249 8.52 4,067 266,849 8.65 Other 2,133 112,246 7.01 1,868 96,575 6.90 -------------------- -------------------- Total loans, net of unearned income 55,129 3,440,161 8.29 52,651 3,253,317 8.21 Other interest-earning assets 1,042 49,832 6.35 900 40,170 5.92 -------------------- -------------------- Total interest-earning assets/interest income 66,621 3,978,607 7.94 63,993 3,791,938 7.87 Noninterest-earning assets Allowance for credit losses (887) (1,100) Cash and due from banks 2,274 2,896 Other assets 5,691 4,779 ------- ------- Total assets $73,699 $70,568 ------- ------- LIABILITIES, CAPITAL SECURITIES AND SHAREHOLDERS' EQUITY Interest-bearing liabilities Interest-bearing deposits Demand and money market $14,430 322,408 2.99 $13,318 285,676 2.87 Savings 2,644 39,196 1.98 2,919 43,030 1.97 Other time 16,995 690,807 5.43 17,570 711,423 5.41 Deposits in foreign offices 1,017 42,998 5.57 1,127 46,886 5.49 -------------------- -------------------- Total interest-bearing deposits 35,086 1,095,409 4.17 34,934 1,087,015 4.16 Borrowed funds Bank notes and senior debt 10,827 466,434 5.68 8,732 372,032 5.62 Federal funds purchased 2,663 112,094 5.55 2,959 122,821 5.47 Repurchase agreements 1,624 59,187 4.81 819 33,129 5.33 Other borrowed funds 4,603 209,073 5.99 4,622 205,573 5.93 Subordinated debt 1,784 102,662 7.67 1,452 86,073 7.91 -------------------- -------------------- Total borrowed funds 21,501 949,450 5.83 18,584 819,628 5.84 -------------------- -------------------- Total interest-bearing liabilities/interest expense 56,587 2,044,859 4.80 53,518 1,906,643 4.74 -------------------- -------------------- Noninterest-bearing liabilities, capital securities and shareholders' equity Demand and other noninterest-bearing deposits 9,353 9,585 Accrued expenses and other liabilities 1,518 1,469 Mandatorily redeemable capital securities of subsidiary trusts 733 498 Shareholders' equity 5,508 5,498 ------- ------- Total liabilities, capital securities and shareholders' equity $73,699 $70,568 ------- ----- ------- ----- Interest rate spread 3.14 3.13 Impact of noninterest-bearing liabilities .72 .78 ----- ----- Net interest income/margin $1,933,748 3.86% $1,885,295 3.91% ====================================================================================================================================
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 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). PNC BANK CORP. ---- 30
- ------------------------------------------------------------------------------------------------------------------------------------ Third Quarter 1998 Second Quarter 1998 Third Quarter 1997 - ------------------------------------------------------------------------------------------------------------------------------------ Average Average Average Average Average Average Balances Interest Yields/Rates Balances Interest Yields/Rates Balances Interest Yields/Rates - ------------------------------------------------------------------------------------------------------------------------------------ $ 3,850 $ 67,387 7.00% $ 2,948 $ 51,719 7.02% $ 1,555 $ 29,046 7.47% 4,714 66,008 5.58 5,252 73,741 5.62 5,823 85,530 5.86 1,842 29,233 6.35 1,531 24,710 6.46 1,824 30,155 6.61 517 8,356 6.43 540 8,673 6.44 569 11,368 7.95 ------------------------ --------------------- ---------------------- 7,073 103,597 5.85 7,323 107,124 5.86 8,216 127,053 6.17 11,038 235,510 8.47 10,995 234,621 8.56 10,996 235,885 8.51 4,029 141,534 13.94 4,048 132,887 13.17 3,871 122,537 12.56 12,455 224,636 7.21 12,560 228,036 7.26 13,503 252,315 7.47 23,359 468,335 7.84 22,425 444,909 7.85 18,839 373,402 7.76 2,850 62,978 8.65 3,206 66,593 8.22 4,041 89,227 8.64 2,207 38,972 7.06 2,114 37,038 7.01 1,952 33,884 6.94 ------------------------ --------------------- ---------------------- 55,938 1,171,965 8.28 55,348 1,144,084 8.23 53,202 1,107,250 8.23 1,097 17,822 6.41 1,069 16,576 6.18 981 14,509 5.82 ------------------------ --------------------- ---------------------- 67,958 1,360,771 7.92 66,688 1,319,503 7.89 63,954 1,277,858 7.92 (830) (885) (1,059) 2,022 2,020 2,878 6,140 5,809 4,808 ------- ------- ------- $75,290 $73,632 $70,581 ------- ------- ------- $14,787 113,212 3.04 $14,344 105,649 2.95 $13,715 103,872 3.00 2,610 12,991 1.97 2,675 13,227 1.98 2,773 13,850 1.98 16,896 230,355 5.41 16,749 226,830 5.43 17,336 238,948 5.47 1,060 15,005 5.54 1,188 16,618 5.53 1,128 16,190 5.62 ------------------------ --------------------- ---------------------- 35,353 371,563 4.17 34,956 362,324 4.15 34,952 372,860 4.23 11,845 171,626 5.67 10,643 152,880 5.68 9,337 135,910 5.70 2,496 35,689 5.60 3,089 43,055 5.51 2,342 33,220 5.55 1,587 19,407 4.79 1,762 21,177 4.75 935 12,600 5.27 4,871 74,815 6.01 4,524 68,227 5.97 4,221 63,686 6.03 1,843 35,139 7.63 1,826 34,854 7.64 1,649 32,151 7.80 ------------------------ --------------------- ---------------------- 22,642 336,676 5.83 21,844 320,193 5.81 18,484 277,567 5.92 ------------------------ --------------------- ---------------------- 57,995 708,239 4.82 56,800 682,517 4.79 53,436 650,427 4.82 ------------------------ --------------------- ---------------------- 9,169 9,213 9,654 1,632 1,445 1,460 848 698 650 5,646 5,476 5,381 ------- ------- ------- $75,290 $73,632 $70,581 ------- -------------------- ------------------- ----- 3.10 3.10 3.10 .71 .71 .79 ----- ----- ----- $ 652,532 3.81% $ 636,986 3.81% $ 627,431 3.89% ====================================================================================================================================
PNC BANK CORP. ---- 31 QUARTERLY REPORT ON FORM 10-Q Securities and Exchange Commission Washington, D.C. 20549 Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended September 30, 1998. Commission File Number 1-9718 PNC BANK CORP. Incorporated in the Commonwealth of Pennsylvania IRS Employer Identification No. 25-1435979 Address: One PNC Plaza 249 Fifth Avenue Pittsburgh, Pennsylvania 15222-2707 Telephone: (412) 762-1553 As of October 30, 1998, PNC Bank Corp. had 300,900,627 shares of common stock ($5 par value) outstanding. PNC Bank Corp. (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months and (2) has been subject to such filing requirements for the past 90 days. The following sections of the Financial Review set forth in the cross-reference index are incorporated in the Quarterly Report on Form 10-Q.
Cross-Reference Page(s) ---------------------------------------------------- PART I FINANCIAL INFORMATION Item 1 Consolidated Statement of Income for the three months and nine months ended September 30, 1998 and 1997 22 Consolidated Balance Sheet as of September 30, 1998 and December 31, 23 1997 Consolidated Statement of Cash Flows for the nine months ended September 30, 1998 and 1997 24 Notes to Consolidated Financial 25-29 Statements Consolidated Average Balance Sheet and Net Interest Analysis 30-31 Item 2 Management's Discussion and Analysis of Financial Condition and Results of Operations 2-21 Item 3 Quantitative and Qualitative Disclosures About Market Risk 17-18 - ---------------------------------------------------------------
PART II OTHER INFORMATION Item 6 Exhibits and Reports on Form 8-K The following exhibit index lists Exhibits to this Quarterly Report on Form 10-Q: 12.1 Computation of Ratio of Earnings to Fixed Charges 12.2 Computation of Ratio of Earnings to Combined Fixed Charges and Preferred Stock Dividends 27 Financial Data Schedule 99 Tax Opinion of Arnold & Porter - ---------------------------------------------------------------
Copies of these Exhibits may be accessed electronically at the Securities and Exchange Commission's home page at www.sec.gov. Exhibits will also be furnished without charge by writing to Lynn F. Evans, Director, Financial Reporting, at corporate headquarters. Requests may also be directed to (412) 762-1553 or to financial.reporting@pncbank.com. Since June 30, 1998, the Corporation filed the following Current Reports on Form 8-K: Form 8-K dated as of July 16, 1998, reporting the Corporation's consolidated financial results for the three months and six months ended June 30, 1998, filed pursuant to Item 5. Form 8-K dated as of October 15, 1998, reporting the Corporation's consolidated financial results for the three months and nine months ended September 30, 1998, filed pursuant to Item 5. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on November 16, 1998, on its behalf by the undersigned thereunto duly authorized. PNC Bank Corp. Robert L. Haunschild Senior Vice President and Chief Financial Officer PNC BANK CORP. ---- 32 CORPORATE INFORMATION CORPORATE HEADQUARTERS PNC Bank Corp. One PNC Plaza 249 Fifth Avenue Pittsburgh, Pennsylvania 15222-2707 STOCK LISTING PNC Bank Corp. common stock is traded on the New York Stock Exchange ("NYSE") under the symbol PNC. INQUIRIES Individual shareholders should contact: Shareholder Relations at 800-843-2206. Analysts and institutional investors should contact: William H. Callihan, Vice President, Investor Relations, at 412-762-8257 or invrela@pncmail.com. News media representatives and others seeking general information should contact: Jonathan Williams, Vice President, Media Relations, at 412-762-4550 or pubrela@pncmail.com. FINANCIAL INFORMATION Copies of the Corporation's filings with the Securities and Exchange Commission ("SEC"), including Exhibits thereto, may be obtained: Electronically at the SEC's home page at www.sec.gov. By writing to Lynn F. Evans, Director, Financial Reporting, at corporate headquarters. By calling (412) 762-1553 or via e-mail to financial.reporting@pncbank.com. INTERNET INFORMATION Information about PNC Bank Corp.'s financial results and its products and services is available on the Internet at http://www.pncbank.com. 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 PNC Bank Corp. common stock and the cash dividends declared per common share.
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 ----- Total $1.17 =============================================================== Cash Dividends 1997 Quarter High Low Close Declared - --------------------------------------------------------------- First $45.000 $36.500 $40.000 $ .37 Second 44.750 37.375 41.750 .37 Third 49.750 41.125 48.813 .37 Fourth 58.750 42.875 56.938 .39 ----- Total $1.50 ===============================================================
Subsequent to quarter end the Corporation's Board of Directors increased the quarterly dividend on common stock to $.41 per share. REGISTRAR AND TRANSFER AGENT The Chase Manhattan Bank P.O. Box 590 Ridgefield Park, New Jersey 07660 800-982-7652 DIVIDEND REINVESTMENT AND STOCK PURCHASE PLAN The PNC Bank Corp. 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. PNC BANK CORP. ---- 33