UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One) | ||
[X] | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | |
For the quarterly period ended September 30, 2015 | ||
OR | ||
[ ] | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | |
For the transition period from to |
Commission File Number: 1-15081
MUFG Americas Holdings Corporation
(Exact name of registrant as specified in its charter)
Delaware | 94-1234979 | |||
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) | |||
1251 Avenue of the Americas, New York, NY | 10020 | |||
(Address of principal executive offices) | (Zip Code) | |||
(Registrant's telephone number, including area code) (212) 782-5911 | ||||
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer o | Accelerated filer o | ||
Non-accelerated filer x (Do not check if a smaller reporting company) | Smaller reporting company o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
Number of shares of Common Stock outstanding at October 31, 2015: 136,330,831
THE REGISTRANT MEETS THE CONDITIONS SET FORTH IN GENERAL INSTRUCTION H (1) (a) AND (b) OF FORM 10-Q AND IS THEREFORE FILING THIS FORM WITH THE REDUCED DISCLOSURE FORMAT.
MUFG Americas Holdings Corporation and Subsidiaries
Table of Contents
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Glossary of Defined Terms
The following acronyms and abbreviations are used throughout this report, particularly in Part I, Item 1. “Financial Statements," Item 2. “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” Item 3. “Quantitative and Qualitative Disclosures About Market Risk” and Part II, Item 1A. “Risk Factors.”
ALCO | Asset Liability Management Committee |
ALM | Asset Liability Management |
AOCI | Accumulated other comprehensive income |
BCBS | Basel Committee on Banking Supervision |
BHC | U.S. bank holding company |
BTMU | The Bank of Tokyo-Mitsubishi UFJ, Ltd. and its consolidated subsidiaries |
CCAR | Comprehensive Capital Analysis and Review |
CD | Certificate of deposit |
CFPB | Consumer Financial Protection Bureau |
CLO | Collateralized loan obligation |
CMBS | Commercial mortgage-backed securities |
Dodd-Frank Act | Dodd-Frank Wall Street Reform and Consumer Protection Act |
ESBP | Executive Supplemental Benefit Plan |
FASB | Financial Accounting Standards Board |
FBO | Foreign banking organization |
FDIC | Federal Deposit Insurance Corporation |
Federal Reserve | Board of Governors of the Federal Reserve System |
FHLB | Federal Home Loan Bank |
FICO | Fair Isaac Corporation |
GSE | Government-sponsored enterprise |
HQLA | High quality liquid assets |
LCR | Liquidity Coverage Ratio |
LIHC | Low income housing credit |
LTV | Loan-to-value |
MUAH | MUFG Americas Holdings Corporation |
MUB | MUFG Union Bank, N.A. |
MUFG | Mitsubishi UFJ Financial Group, Inc. |
OCC | Office of the Comptroller of the Currency |
OREO | Other real estate owned |
PCI | Purchased credit-impaired |
RCC | Risk and Capital Committee |
RMBS | Residential mortgage-backed securities |
SEC | Securities and Exchange Commission |
SERP | Supplemental Executive Retirement Plan |
TDR | Troubled debt restructuring |
VaR | Value-at-risk |
VIE | Variable interest entity |
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NOTE REGARDING FORWARD-LOOKING STATEMENTS
This report includes forward-looking statements, which include expectations for our operations and business and our assumptions for those expectations. Do not rely unduly on forward-looking statements. Actual results might differ significantly compared to our expectations. See Part I, Item 1A. “Risk Factors,” in our 2014 Annual Report on Form 10-K, Part II, Item 1A. “Risk Factors” in this Form 10-Q, and the other risks described in this Form 10-Q and in our 2014 Annual Report on Form 10-K, for factors to be considered when reading any forward-looking statements in this filing.
Forward-looking statements are subject to the "safe harbor" created by section 27A of the Securities Act of 1933, as amended, and section 21E of the Securities Exchange Act of 1934, as amended. We may make forward-looking statements in our SEC filings, press releases, news articles and when we are speaking on behalf of MUFG Americas Holdings Corporation. Forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts. Often, they include the words "believe," "expect," "target," "anticipate," "intend," "plan," "seek," "estimate," "potential," "project," "forecast," "outlook," words of similar meaning, or future or conditional verbs such as "will," "would," "should," "could," "might," or "may." These forward-looking statements are intended to provide investors with additional information with which they may assess our future potential. All of these forward-looking statements are based on assumptions about an uncertain future and are based on information known to our management at the date of these statements. We do not undertake to update forward-looking statements to reflect facts, circumstances, assumptions or events that occur after the date any forward-looking statements are made.
In this document and other reports to the SEC, for example, we make forward-looking statements, which discuss our expectations about:
• | Our business objectives, strategies and initiatives, organizational structure, business growth, competitive position and prospects, and the effect of competition on our business and strategies |
• | Our assessment of significant factors and developments that have affected or may affect our results |
• | Our assessment of economic conditions and trends, economic and credit cycles and their impact on our business |
• | The economic outlook for the U.S. in general, West Coast states and global economies |
• | The impact of changes in interest rates resulting from changes in Federal Reserve policy or for other reasons, our strategy to manage our interest rate risk profile, our outlook for short-term and long-term interest rates and their effect on our net interest margin, our investment portfolio and our borrowers’ ability to service their loans and on residential mortgage loans and refinancings |
• | Our sensitivity to and management of market risk, including changes in interest rates, and the economic outlook within specific industries, for the U.S. in general, West Coast states in particular and foreign countries (including Japan and the Eurozone) |
• | Pending and recent legislative and regulatory actions, and future legislative and regulatory developments, including the effects of legislation and other governmental measures, including the monetary policies of the Federal Reserve introduced in response to the 2008-2009 financial crises, and the ensuing recession affecting the banking system, financial markets and the U.S. economy, the Dodd-Frank Act, changes to the deposit insurance assessment policies of the FDIC, the effect on and application of foreign and other laws and regulations to our business and operations, and anticipated fees, costs or other impacts on our business and operations as a result of these developments |
• | Our strategies and expectations regarding capital levels and liquidity, our funding base, core deposits, our expectations regarding the capital, liquidity and enhanced prudential standards adopted by the U.S. bank regulators as a result of or under the Dodd-Frank Act and the BCBS capital and liquidity standards and recently adopted and proposed regulations by the U.S. federal banking agencies, and the effect of the foregoing on our business and expectations regarding compliance |
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• | Regulatory and compliance controls and processes and their impact on our business, including our operating costs and revenues |
• | The costs and effects of legal actions, investigations, regulatory actions, criminal proceedings or similar matters, our anticipated litigation strategies, our assessment of the timing and ultimate outcome of legal actions, or adverse facts and developments related thereto |
• | Our allowance for credit losses, including the conditions we consider in determining the unallocated allowance and our portfolio credit quality, risk rating and credit migration trends and loss factors |
• | Loan portfolio composition and risk rating trends, residential loan delinquency rates compared to the industry average, portfolio credit quality, our strategy regarding TDRs, and our intent to sell or hold loans we originate |
• | Our intent to sell or hold, and the likelihood that we would be required to sell, or expectations regarding recovery of the amortized cost basis of, various investment securities |
• | Our hedging strategies, positions, expectations regarding reclassifications of gains or losses on hedging instruments into earnings; and the sensitivity of our net income to various factors, including customer behavior relating to mortgage pre-payments and deposit repricing |
• | Expected rates of return, maturities, yields, loss exposure, growth rates, pension plan strategies, contributions and benefit payments, and projected results |
• | Tax rates and taxes, the possible effect of changes in taxable profits of the U.S. operations of MUFG on our state tax obligations and of expected tax credits or benefits |
• | Critical accounting policies and estimates, the impact or anticipated impact of recent accounting pronouncements, guidance or changes in accounting principles and future recognition of impairments for the fair value of assets, including goodwill, financial instruments, intangible assets and other assets acquired in our acquisitions of Pacific Capital Bancorp, PB Capital Corporation’s institutional commercial real estate lending portfolio, First Bank Association Bank Services, Smartstreet and our April 2010 FDIC-assisted acquisitions |
• | Decisions to downsize, sell or close units, dissolve subsidiaries, expand our branch network, pursue acquisitions, purchase banking facilities and equipment, realign our business model or otherwise restructure, reorganize or change our business mix, and their timing and impact on our business |
• | Our expectations regarding the impact of acquisitions on our business and results of operations and amounts we expect to collect from or must pay to the FDIC under loss share agreements |
• | The impact of changes in our credit rating including methodology changes adopted by rating agencies |
• | Maintenance of casualty and liability insurance coverage appropriate for our operations |
• | The relationship between our business and that of BTMU and MUFG, the impact of their credit ratings, operations or prospects on our credit ratings and actions that may or may not be taken by BTMU and MUFG |
• | Threats to the banking sector and our business due to cybersecurity issues and attacks on financial institutions and other businesses, such as large retailers, and regulatory expectations relating to cybersecurity |
• | Our understanding that BTMU will continue to limit its participation in transactions with Iranian entities and individuals to certain types of transactions |
• | Challenges associated with our business integration initiative with our parent company, BTMU, effective July 1, 2014 |
• | The objectives and effects on operations of our business integration initiative and its near term effect on our balance sheet, earnings and capital ratios |
• | The effect of the drought being experienced in California on its economy and related governmental actions |
• | Descriptions of assumptions underlying or relating to any of the foregoing |
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Readers of this document should not rely unduly on any forward-looking statements, which reflect only our management’s belief as of the date of this report. There are numerous risks and uncertainties that could cause actual outcomes and results to differ materially from those discussed in our forward-looking statements. Many of these factors are beyond our ability to control or predict and could have a material adverse effect on our financial condition, results of operations or prospects. Such risks and uncertainties include, but are not limited to, those described or referred to in Part I, Item 1. “Business” under the captions “Competition” and “Supervision and Regulation” of our 2014 Annual Report on Form 10-K, and in Part II, Item 1A. “Risk Factors” and Part I, Item 2. “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of this Form 10-Q, and in our other reports to the SEC.
Any factor described in this report could by itself, or together with one or more other factors, adversely affect our business, prospects, results of operations or financial condition.
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Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
MUFG Americas Holdings Corporation and Subsidiaries
Consolidated Financial Highlights
For the Three Months Ended | For the Nine Months Ended | |||||||||||||||||||||
(Dollars in millions) | September 30, 2015 | September 30, 2014(1) | Percent Change | September 30, 2015 | September 30, 2014(1) | Percent Change | ||||||||||||||||
Results of operations: | ||||||||||||||||||||||
Net interest income | $ | 705 | $ | 707 | — | % | $ | 2,107 | $ | 2,153 | (2 | )% | ||||||||||
Noninterest income | 397 | 388 | 2 | 1,117 | 771 | 45 | ||||||||||||||||
Total revenue | 1,102 | 1,095 | 1 | 3,224 | 2,924 | 10 | ||||||||||||||||
Noninterest expense | 855 | 764 | 12 | 2,547 | 2,026 | 26 | ||||||||||||||||
Pre-tax, pre-provision income(2) | 247 | 331 | (25 | ) | 677 | 898 | (25 | ) | ||||||||||||||
(Reversal of) provision for credit losses | 18 | 1 | nm | 36 | 7 | 414 | ||||||||||||||||
Income before income taxes and including noncontrolling interests | 229 | 330 | (31 | ) | 641 | 891 | (28 | ) | ||||||||||||||
Income tax expense | 64 | 88 | (27 | ) | 169 | 242 | (30 | ) | ||||||||||||||
Net income including noncontrolling interests | 165 | 242 | (32 | ) | 472 | 649 | (27 | ) | ||||||||||||||
Deduct: Net loss from noncontrolling interests | 21 | 5 | 320 | 32 | 14 | 129 | ||||||||||||||||
Net income attributable to MUAH | $ | 186 | $ | 247 | (25 | ) | $ | 504 | $ | 663 | (24 | ) | ||||||||||
Balance sheet (period average): | ||||||||||||||||||||||
Total assets | $ | 113,451 | $ | 109,739 | 3 | % | $ | 113,165 | $ | 108,039 | 5 | % | ||||||||||
Total securities | 24,141 | 22,592 | 7 | 23,083 | 22,689 | 2 | ||||||||||||||||
Total loans held for investment | 76,177 | 73,353 | 4 | 76,740 | 71,264 | 8 | ||||||||||||||||
Earning assets | 102,899 | 98,933 | 4 | 102,596 | 97,486 | 5 | ||||||||||||||||
Total deposits | 82,488 | 82,239 | — | 82,901 | 81,298 | 2 | ||||||||||||||||
MUAH stockholder's equity | 15,435 | 14,969 | 3 | 15,248 | 14,675 | 4 | ||||||||||||||||
Performance ratios: | ||||||||||||||||||||||
Return on average assets(3) | 0.66 | % | 0.90 | % | 0.59 | % | 0.82 | % | ||||||||||||||
Return on average MUAH stockholder's equity(3) | 4.83 | 6.60 | 4.39 | 6.01 | ||||||||||||||||||
Efficiency ratio(4) | 77.62 | 69.86 | 79.02 | 69.31 | ||||||||||||||||||
Adjusted efficiency ratio(5) | 70.16 | 63.42 | 71.28 | 63.74 | ||||||||||||||||||
Net interest margin(3) (6) | 2.76 | 2.87 | 2.77 | 2.97 | ||||||||||||||||||
Net loans charged-off (recovered) to average total loans held for investment(3) | 0.06 | 0.06 | 0.06 | 0.02 |
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MUFG Americas Holdings Corporation and Subsidiaries
Consolidated Financial Highlights (Continued)
As of | |||||||||||
September 30, 2015 | December 31, 2014 (1) | Percent Change | |||||||||
Balance sheet (end of period): | |||||||||||
Total assets | $ | 115,157 | $ | 113,623 | 1 | % | |||||
Total securities | 24,696 | 22,015 | 12 | ||||||||
Total loans held for investment | 76,641 | 76,804 | — | ||||||||
Nonperforming assets | 434 | 411 | 6 | ||||||||
Core deposits(7) | 74,785 | 76,666 | (2 | ) | |||||||
Total deposits | 82,693 | 86,004 | (4 | ) | |||||||
Long-term debt | 11,357 | 6,972 | 63 | ||||||||
MUAH stockholder's equity | 15,621 | 14,922 | 5 | ||||||||
Credit ratios: | |||||||||||
Allowance for loan losses to total loans held for investment(8) | 0.71 | % | 0.70 | % | |||||||
Allowance for loan losses to nonaccrual loans(8) | 130.46 | 143.35 | |||||||||
Allowance for credit losses to total loans held for investment(9) | 0.90 | 0.90 | |||||||||
Allowance for credit losses to nonaccrual loans(9) | 164.09 | 183.80 | |||||||||
Nonperforming assets to total loans held for investment and OREO | 0.57 | 0.53 | |||||||||
Nonperforming assets to total assets | 0.38 | 0.36 | |||||||||
Nonaccrual loans to total loans held for investment | 0.55 | 0.49 | |||||||||
Capital ratios: | |||||||||||
Regulatory: | |||||||||||
Common Equity Tier 1 risk-based capital ratio(10) | 13.84 | % | n/a | ||||||||
Tier 1 risk-based capital ratio(10) | 13.84 | 12.79 | % | ||||||||
Total risk-based capital ratio(10) | 15.60 | 14.74 | |||||||||
Tier 1 leverage ratio(10) | 11.58 | 11.25 | |||||||||
Other: | |||||||||||
Tangible common equity ratio(11) | 10.95 | % | 10.49 | % | |||||||
Tier 1 common capital ratio(12) | n/a | 12.74 | |||||||||
Common Equity Tier 1 risk-based capital ratio (U.S. Basel III standardized; transitional)(13) | n/a | 12.85 | |||||||||
Common Equity Tier 1 risk-based capital ratio (U.S. Basel III standardized approach; fully phased-in)(14) | 13.79 | 12.56 |
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MUFG Americas Holdings Corporation and Subsidiaries
Consolidated Financial Highlights (Continued)
(1) | Prior period amounts have been revised to reflect the January 1, 2015 adoption of Accounting Standards Update 2014-01 related to investments in qualified affordable housing projects. |
(2) | Pre-tax, pre-provision income is total revenue less noninterest expense. Management believes that this is a useful financial measure because it enables investors and others to assess the Company's ability to generate capital to cover credit losses through a credit cycle. |
(3) | Annualized. |
(4) | The efficiency ratio is total noninterest expense as a percentage of total revenue (net interest income and noninterest income). |
(5) | The adjusted efficiency ratio, a non-GAAP financial measure, is adjusted noninterest expense (noninterest expense excluding staff costs associated with fees from affiliates - support services, foreclosed asset expense and other credit costs, certain costs related to productivity initiatives, LIHC investment amortization expense, expenses of the LIHC consolidated variable interest entities, merger and business integration costs, privatization-related expenses, intangible asset amortization, and a contract termination fee) as a percentage of adjusted total revenue (net interest income (taxable-equivalent basis) and noninterest income), excluding the impact of fees from affiliates - support services, productivity initiatives related to the sale of certain premises, accretion related to privatization-related fair value adjustments, and other credit costs. Management discloses the adjusted efficiency ratio as a measure of the efficiency of our operations, focusing on those costs most relevant to our business activities. Please refer to Part I, Item 2. "Management's Discussion and Analysis of Financial Condition and Results of Operations - Noninterest Income and Noninterest Expense" of this Form 10-Q for further information. |
(6) | Yields, interest income and net interest margin are presented on a taxable-equivalent basis using the federal statutory tax rate of 35%. |
(7) | Core deposits exclude brokered deposits, foreign time deposits and domestic time deposits greater than $250,000. |
(8) | The allowance for loan losses ratios are calculated using the allowance for loan losses as a percentage of end of period total loans held for investment or total nonaccrual loans, as appropriate. |
(9) | The allowance for credit losses ratios include the allowances for loan losses and losses on unfunded credit commitments as a percentage of end of period total loans held for investment or total nonaccrual loans, as appropriate. |
(10) | The capital ratios as of December 31, 2014 are calculated under U.S. Basel I rules. The capital ratios displayed as of September 30, 2015 are calculated in accordance with the transition guidelines set forth in the U.S. federal banking agencies' final U.S. Basel III regulatory capital rules. |
(11) | The tangible common equity ratio, a non-GAAP financial measure, is calculated as tangible common equity divided by tangible assets. The methodology for determining tangible common equity may differ among companies. The tangible common equity ratio facilitates the understanding of the Company's capital structure and is used to assess and compare the quality and composition of the Company's capital structure to other financial institutions. Refer to Part I, Item 2. "Management's Discussion and Analysis of Financial Condition and Results of Operations - Capital Management" in this Form 10-Q for further information. |
(12) | The Tier 1 common capital ratio, calculated under Basel I rules, is the ratio of Tier 1 capital, less qualifying trust preferred securities, to risk-weighted assets. The Tier 1 common capital ratio, a non-GAAP financial measure, facilitates the understanding of the Company's capital structure and is used to assess and compare the quality and composition of the Company's capital structure to other financial institutions. Refer to Part I, Item 2. "Management's Discussion and Analysis of Financial Condition and Results of Operations - Capital Management" in this Form 10-Q for further information. |
(13) | In December 2014, the Federal Reserve Board approved the Company's request to opt-out of the advanced approaches methodology under U.S. Basel III regulatory capital rules. Common Equity Tier 1 risk-based capital is calculated in accordance with the transition guidelines set forth in the U.S. federal banking agencies' final U.S. Basel III regulatory capital rules. Management reviews this ratio, which excludes accumulated other comprehensive loss, along with other measures of capital, as part of its financial analyses. Refer to Part I, Item 2. "Management's Discussion and Analysis of Financial Condition and Results of Operations - Capital Management" in this Form 10-Q for further information. |
(14) | Common Equity Tier 1 risk-based capital (standardized, fully phased-in basis) is a non-GAAP financial measure that is used by investors, analysts and bank regulatory agencies to assess the capital position of financial services companies as if the transition provisions of the U.S. Basel III rules were fully phased in for the periods in which the ratio is disclosed. Management reviews this ratio, which excludes accumulated other comprehensive loss, along with other measures of capital as part of its financial analyses and has included this non-GAAP information because of current interest in such information by market participants. Refer to Part I, Item 2. "Management's Discussion and Analysis of Financial Condition and Results of Operations - Capital Management" in this Form 10-Q for further information. |
nm = not meaningful
n/a = not applicable
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Please refer to our Consolidated Financial Statements and the Notes to the Consolidated Financial Statements included in our Annual Report on Form 10-K for the year ended December 31, 2014 (2014 Form 10-K) along with the following discussion and analysis of our consolidated financial position and results of operations for the period ended September 30, 2015 in this Form 10-Q. Averages, as presented in the following tables, are substantially all based upon daily average balances.
As used in this Form 10-Q, terms such as “the Company,” “we,” “us” and “our” refer to MUFG Americas Holdings Corporation (MUAH), one or more of its consolidated subsidiaries, or to all of them together.
Introduction
We are a financial holding company and bank holding company whose principal subsidiary is MUFG Union Bank, N.A. (MUB or the Bank). We are a wholly-owned subsidiary of BTMU, which is a wholly-owned subsidiary of MUFG.
We service U.S. Corporate Banking, Investment Banking & Markets, and certain Transaction Banking customers through the MUFG brand and continue to serve Retail Banking & Wealth Markets, Commercial Banking, and Transaction Banking customers through the Union Bank brand. We provide a wide range of financial services to consumers, small businesses, middle-market companies and major corporations, both nationally and internationally. The Company had consolidated assets of $115.2 billion at September 30, 2015.
The Company’s leadership team is bicoastal with Retail Banking & Wealth Markets, Commercial Banking, and Transaction Banking leaders on the West Coast. U.S. Corporate Banking and Investment Banking & Markets leaders are based in New York City. The corporate headquarters (principal executive office) for MUB and MUAH is in New York City. MUB's main banking office is in San Francisco.
References to the privatization transaction in this report refer to the transaction on November 4, 2008, when we became a privately held company. All of our issued and outstanding shares of common stock are owned by BTMU.
Business Integration Initiative
Effective July 1, 2014, BTMU integrated its U.S. branch banking operations, including its employees, under the Bank's operations. The Bank and BTMU participate in a master services agreement whereby the Bank provides BTMU with support services in exchange for fee income.
For additional information, see “Management's Discussion and Analysis of Financial Condition and Results of Operations - Introduction - Business Integration Initiative” in Part II, Item 7. of our 2014 Form 10-K.
Executive Overview
We are providing you with an overview of what we believe are the most significant factors and developments that affected our third quarter 2015 results and that could influence our future results. Further information can be found elsewhere in this Form 10-Q. In addition, you should carefully read this entire document and any other reports that we refer to in this Form 10-Q for more detailed information to assist your understanding of trends, events and uncertainties that impact us.
Our sources of revenue are net interest income and noninterest income (collectively “total revenue”). Net interest income is generated predominantly from interest earned from loans, investment securities and other interest-earning assets, less interest incurred on deposits and borrowings. The primary sources of noninterest income are revenues from service charges on deposit accounts, trust and investment management fees, trading account activities, credit facility fees, merchant banking fees and fees from affiliates. Changes in interest rates, credit quality, economic trends and the capital markets are primary factors that affect our revenue sources. In the third quarter of 2015, revenue was comprised of 64% net interest income and 36% noninterest income. A summary of our financial results is discussed below.
Our primary sources of liquidity are core deposits, securities and wholesale funding. Core deposits exclude brokered deposits, foreign time deposits and domestic time deposits greater than $250,000. Wholesale funding includes unsecured funds raised from interbank and other sources, both domestic and international, and secured funds raised by selling securities under repurchase agreements and by borrowing from the FHLB. We
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evaluate and monitor the stability and reliability of our various funding sources to help ensure that we have sufficient liquidity when adverse situations arise.
Performance Highlights
In the third quarter of 2015, net income attributable to MUAH was $186 million, compared with $247 million in the third quarter of 2014, a decrease of $61 million, mostly driven by higher salaries and employee benefits expense, as well as increased professional and outside services expense related to various projects. Although average loan balances were 4% higher in the third quarter of 2015 compared with the third quarter of 2014, net interest income decreased slightly due to a decrease in income on our PCI portfolio and an overall decrease in asset yields. Noninterest income increased modestly due to an increase in fees from affiliates, resulting from the business integration initiative discussed above which was largely offset by lower trading account income, and lower merchant banking fees primarily due to a decrease in syndication fees.
The provision for credit losses increased during the quarter ended September 30, 2015 primarily due to an increase in criticized loans in the oil and gas sector. These increases were partially offset by declining loss factors for the quarter ended September 30, 2015 as the credit quality continues to generally improve in sectors not related to oil and gas, although at a slower pace.
Capital Ratios
The Company's capital ratios continued to exceed the regulatory thresholds for "well-capitalized" BHCs. The U.S. Basel III Common Equity Tier 1, Tier 1 and Total risk-based capital ratios were 13.84%, 13.84% and 15.60%, respectively for the Company at September 30, 2015.
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Financial Performance
Net Interest Income
The following tables show the major components of net interest income and net interest margin:
For the Three Months Ended | |||||||||||||||||||||||
September 30, 2015 | September 30, 2014 | ||||||||||||||||||||||
Average Balance | Interest Income/ Expense(1) | Average Yield/ Rate(1)(2) | Average Balance | Interest Income/ Expense(1) | Average Yield/ Rate(1)(2) | ||||||||||||||||||
(Dollars in millions) | |||||||||||||||||||||||
Assets | |||||||||||||||||||||||
Loans held for investment:(3) | |||||||||||||||||||||||
Commercial and industrial | $ | 28,262 | $ | 239 | 3.35 | % | $ | 25,746 | $ | 220 | 3.39 | % | |||||||||||
Commercial mortgage | 13,745 | 116 | 3.38 | 13,643 | 122 | 3.57 | |||||||||||||||||
Construction | 2,103 | 16 | 3.07 | 1,336 | 10 | 3.12 | |||||||||||||||||
Lease financing | 755 | 11 | 5.45 | 811 | 12 | 5.69 | |||||||||||||||||
Residential mortgage | 27,783 | 237 | 3.42 | 27,967 | 250 | 3.58 | |||||||||||||||||
Home equity and other consumer loans | 3,117 | 35 | 4.43 | 3,164 | 32 | 4.08 | |||||||||||||||||
Loans, before purchased credit-impaired loans | 75,765 | 654 | 3.44 | 72,667 | 646 | 3.54 | |||||||||||||||||
Purchased credit-impaired loans | 412 | 36 | 34.49 | 686 | 48 | 27.70 | |||||||||||||||||
Total loans held for investment | 76,177 | 690 | 3.61 | 73,353 | 694 | 3.77 | |||||||||||||||||
Securities | 24,141 | 121 | 2.00 | 22,592 | 117 | 2.08 | |||||||||||||||||
Interest bearing deposits in banks | 1,963 | 1 | 0.25 | 2,380 | 2 | 0.26 | |||||||||||||||||
Federal funds sold and securities purchased under resale agreements | 63 | — | 0.01 | 106 | — | — | |||||||||||||||||
Trading account assets | 173 | — | 0.69 | 164 | — | 0.66 | |||||||||||||||||
Other earning assets | 382 | 4 | 4.08 | 338 | 1 | 0.73 | |||||||||||||||||
Total earning assets | 102,899 | 816 | 3.16 | 98,933 | 814 | 3.28 | |||||||||||||||||
Allowance for loan losses | (539 | ) | (566 | ) | |||||||||||||||||||
Cash and due from banks | 1,588 | 1,597 | |||||||||||||||||||||
Premises and equipment, net | 611 | 626 | |||||||||||||||||||||
Other assets(5) | 8,892 | 9,149 | |||||||||||||||||||||
Total assets | $ | 113,451 | $ | 109,739 | |||||||||||||||||||
Liabilities | |||||||||||||||||||||||
Interest bearing deposits: | |||||||||||||||||||||||
Transaction and money market accounts | $ | 37,537 | $ | 28 | 0.29 | $ | 39,128 | $ | 33 | 0.34 | |||||||||||||
Savings | 5,687 | — | 0.06 | 5,574 | 2 | 0.08 | |||||||||||||||||
Time | 8,058 | 20 | 1.01 | 9,766 | 23 | 0.96 | |||||||||||||||||
Total interest bearing deposits | 51,282 | 48 | 0.38 | 54,468 | 58 | 0.42 | |||||||||||||||||
Commercial paper and other short-term borrowings(4) | 3,630 | 3 | 0.22 | 2,820 | 1 | 0.17 | |||||||||||||||||
Long-term debt | 9,319 | 53 | 2.29 | 6,994 | 42 | 2.38 | |||||||||||||||||
Total borrowed funds | 12,949 | 56 | 1.71 | 9,814 | 43 | 1.75 | |||||||||||||||||
Total interest-bearing liabilities | 64,231 | 104 | 0.65 | 64,282 | 101 | 0.63 | |||||||||||||||||
Noninterest bearing deposits | 31,206 | 27,771 | |||||||||||||||||||||
Other liabilities(6) | 2,375 | 2,474 | |||||||||||||||||||||
Total liabilities | 97,812 | 94,527 | |||||||||||||||||||||
Equity | |||||||||||||||||||||||
MUAH stockholder's equity | 15,435 | 14,969 | |||||||||||||||||||||
Noncontrolling interests | 204 | 243 | |||||||||||||||||||||
Total equity | 15,639 | 15,212 | |||||||||||||||||||||
Total liabilities and equity | $ | 113,451 | $ | 109,739 | |||||||||||||||||||
Net interest income/spread (taxable-equivalent basis) | 712 | 2.51 | % | 713 | 2.65 | % | |||||||||||||||||
Impact of noninterest bearing deposits | 0.22 | 0.19 | |||||||||||||||||||||
Impact of other noninterest bearing sources | 0.03 | 0.03 | |||||||||||||||||||||
Net interest margin | 2.76 | 2.87 | |||||||||||||||||||||
Less: taxable-equivalent adjustment | 7 | 6 | |||||||||||||||||||||
Net interest income | $ | 705 | $ | 707 |
(1) | Yields and interest income are presented on a taxable-equivalent basis using the federal statutory tax rate of 35%. |
(2) | Annualized. |
(3) | Average balances on loans outstanding include all nonperforming loans. The amortized portion of net loan origination fees (costs) is included in interest income on loans, representing an adjustment to the yield. |
(4) | Includes interest bearing trading liabilities. |
(5) | Includes noninterest bearing trading assets. |
(6) | Includes noninterest bearing trading liabilities. |
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For the Nine Months Ended | |||||||||||||||||||||||
September 30, 2015 | September 30, 2014 | ||||||||||||||||||||||
Average Balance | Interest Income/ Expense(1) | Average Yield/ Rate(1)(2) | Average Balance | Interest Income/ Expense(1) | Average Yield/ Rate(1)(2) | ||||||||||||||||||
(Dollars in millions) | |||||||||||||||||||||||
Assets | |||||||||||||||||||||||
Loans held for investment:(3) | |||||||||||||||||||||||
Commercial and industrial | $ | 28,254 | $ | 700 | 3.31 | % | $ | 24,708 | $ | 620 | 3.36 | % | |||||||||||
Commercial mortgage | 13,835 | 347 | 3.34 | 13,469 | 365 | 3.61 | |||||||||||||||||
Construction | 2,001 | 45 | 3.02 | 1,154 | 28 | 3.30 | |||||||||||||||||
Lease financing | 767 | 31 | 5.32 | 833 | 37 | 5.95 | |||||||||||||||||
Residential mortgage | 28,312 | 723 | 3.41 | 27,014 | 735 | 3.63 | |||||||||||||||||
Home equity and other consumer loans | 3,106 | 100 | 4.32 | 3,196 | 96 | 4.04 | |||||||||||||||||
Loans, before purchased credit-impaired loans | 76,275 | 1,946 | 3.41 | 70,374 | 1,881 | 3.57 | |||||||||||||||||
Purchased credit-impaired loans | 465 | 124 | 35.55 | 890 | 229 | 34.27 | |||||||||||||||||
Total loans held for investment | 76,740 | 2,070 | 3.60 | 71,264 | 2,110 | 3.95 | |||||||||||||||||
Securities | 23,083 | 353 | 2.04 | 22,689 | 357 | 2.10 | |||||||||||||||||
Interest bearing deposits in banks | 2,335 | 4 | 0.25 | 2,934 | 6 | 0.25 | |||||||||||||||||
Federal funds sold and securities purchased under resale agreements | 76 | — | (0.23 | ) | 113 | — | 0.06 | ||||||||||||||||
Trading account assets | 188 | 1 | 0.70 | 208 | 3 | 1.80 | |||||||||||||||||
Other earning assets | 174 | 5 | 4.02 | 278 | 2 | 0.95 | |||||||||||||||||
Total earning assets | 102,596 | 2,433 | 3.17 | 97,486 | 2,478 | 3.39 | |||||||||||||||||
Allowance for loan losses | (539 | ) | (568 | ) | |||||||||||||||||||
Cash and due from banks | 1,612 | 1,512 | |||||||||||||||||||||
Premises and equipment, net | 616 | 638 | |||||||||||||||||||||
Other assets(5) | 8,880 | 8,971 | |||||||||||||||||||||
Total assets | $ | 113,165 | $ | 108,039 | |||||||||||||||||||
Liabilities | |||||||||||||||||||||||
Interest bearing deposits: | |||||||||||||||||||||||
Transaction and money market accounts | $ | 38,404 | $ | 87 | 0.30 | $ | 38,097 | $ | 104 | 0.37 | |||||||||||||
Savings | 5,609 | 2 | 0.06 | 5,579 | 4 | 0.09 | |||||||||||||||||
Time | 8,519 | 61 | 0.96 | 10,575 | 73 | 0.93 | |||||||||||||||||
Total interest bearing deposits | 52,532 | 150 | 0.38 | 54,251 | 181 | 0.45 | |||||||||||||||||
Commercial paper and other short-term borrowings(4) | 3,485 | 6 | 0.21 | 2,658 | 4 | 0.19 | |||||||||||||||||
Long-term debt | 8,732 | 152 | 2.32 | 6,822 | 124 | 2.42 | |||||||||||||||||
Total borrowed funds | 12,217 | 158 | 1.72 | 9,480 | 128 | 1.79 | |||||||||||||||||
Total interest-bearing liabilities | 64,749 | 308 | 0.64 | 63,731 | 309 | 0.65 | |||||||||||||||||
Noninterest bearing deposits | 30,369 | 27,047 | |||||||||||||||||||||
Other liabilities(6) | 2,583 | 2,337 | |||||||||||||||||||||
Total liabilities | 97,701 | 93,115 | |||||||||||||||||||||
Equity | |||||||||||||||||||||||
MUAH stockholder's equity | 15,248 | 14,675 | |||||||||||||||||||||
Noncontrolling interests | 216 | 249 | |||||||||||||||||||||
Total equity | 15,464 | 14,924 | |||||||||||||||||||||
Total liabilities and equity | $ | 113,165 | $ | 108,039 | |||||||||||||||||||
Net interest income/spread (taxable-equivalent basis) | 2,125 | 2.53 | % | 2,169 | 2.74 | % | |||||||||||||||||
Impact of noninterest bearing deposits | 0.21 | 0.19 | |||||||||||||||||||||
Impact of other noninterest bearing sources | 0.03 | 0.04 | |||||||||||||||||||||
Net interest margin | 2.77 | 2.97 | |||||||||||||||||||||
Less: taxable-equivalent adjustment | 18 | 16 | |||||||||||||||||||||
Net interest income | $ | 2,107 | $ | 2,153 |
(1) | Yields and interest income are presented on a taxable-equivalent basis using the federal statutory tax rate of 35%. |
(2) | Annualized. |
(3) | Average balances on loans outstanding include all nonperforming loans. The amortized portion of net loan origination fees (costs) is included in interest income on loans, representing an adjustment to the yield. |
(4) | Includes interest bearing trading liabilities. |
(5) | Includes noninterest bearing trading assets. |
(6) | Includes noninterest bearing trading liabilities. |
The decrease in net interest income for both the three and nine months ended September 30, 2015 compared with the same periods in 2014 was primarily due to a decrease in interest income on our PCI portfolio in 2015 resulting from the diminishing size of the PCI portfolio and early payoffs of certain PCI loans in the second quarter of 2014. Interest income on loans held for investment, excluding PCI, increased for the three and nine
13
months ended September 30, 2015 primarily due to an increase in average loans held for investment, partially offset by declining yields which reflect the continuing low interest rate environment.
Noninterest Income and Noninterest Expense
The following tables detail our noninterest income and noninterest expense for the three and nine months ended September 30, 2015 and 2014:
Noninterest Income
For the Three Months Ended | For the Nine Months Ended | |||||||||||||||||||||||||||||||
Increase (Decrease) | Increase (Decrease) | |||||||||||||||||||||||||||||||
September 30, 2015 | September 30, 2014 | September 30, 2015 | September 30, 2014 | |||||||||||||||||||||||||||||
(Dollars in millions) | Amount | Percent | Amount | Percent | ||||||||||||||||||||||||||||
Service charges on deposit accounts | $ | 49 | $ | 52 | $ | (3 | ) | (6 | ) | % | $ | 147 | $ | 153 | $ | (6 | ) | (4 | ) | % | ||||||||||||
Trust and investment management fees | 27 | 26 | 1 | 4 | 81 | 78 | 3 | 4 | ||||||||||||||||||||||||
Trading account activities | 7 | 33 | (26 | ) | (79 | ) | 34 | 63 | (29 | ) | (46 | ) | ||||||||||||||||||||
Securities gains, net | 6 | 13 | (7 | ) | (54 | ) | 14 | 16 | (2 | ) | (13 | ) | ||||||||||||||||||||
Credit facility fees | 27 | 30 | (3 | ) | (10 | ) | 87 | 89 | (2 | ) | (2 | ) | ||||||||||||||||||||
Merchant banking fees | 22 | 38 | (16 | ) | (42 | ) | 62 | 89 | (27 | ) | (30 | ) | ||||||||||||||||||||
Brokerage commissions and fees | 13 | 14 | (1 | ) | (7 | ) | 40 | 40 | — | — | ||||||||||||||||||||||
Card processing fees, net | 8 | 8 | — | — | 25 | 25 | — | — | ||||||||||||||||||||||||
Fees from affiliates | 185 | 151 | 34 | 23 | 543 | 151 | 392 | 260 | ||||||||||||||||||||||||
Other investment income | 7 | 11 | (4 | ) | (36 | ) | 13 | 30 | (17 | ) | (57 | ) | ||||||||||||||||||||
Other, net | 46 | 12 | 34 | 283 | 71 | 37 | 34 | (92 | ) | |||||||||||||||||||||||
Total noninterest income | $ | 397 | $ | 388 | $ | 9 | 2 | % | $ | 1,117 | $ | 771 | $ | 346 | 45 | % |
Other noninterest income increased during the three months ended September 30, 2015 primarily due to a gain on the sale of residential mortgages and lower FDIC indemnification asset amortization expense. Fees from affiliates also increased primarily due to an increase in support service fees, as discussed below. These increases were partially offset by lower trading account income and lower merchant banking fees primarily due to a large syndication that closed in the third quarter of 2014.
The increase in noninterest income for the nine months ended September 30, 2015, compared with the nine months ended September 30, 2014, reflects the gain on sale of residential mortgages, increased fees from affiliates, lower trading account income and lower merchant banking fees discussed above, as well as higher operating lease income, partially offset by private capital losses which are included in Other noninterest income.
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For the three and nine months ended September 30, 2015 and 2014, the Company recorded the following income and expenses related to the support services provided as part of the business integration initiative:
For the Three Months Ended | For the Nine Months Ended | |||||||||||||||
(Dollars in millions) | September 30, 2015 | September 30, 2014 | September 30, 2015 | September 30, 2014 | ||||||||||||
Fees from affiliates - support services | $ | 138 | $ | 94 | $ | 393 | $ | 94 | ||||||||
Staff costs associated with fees from affiliates - support services | $ | 128 | $ | 88 | $ | 363 | $ | 88 |
The increase in staff costs for support services for the quarter ended September 30, 2015 compared with the quarter ended September 30, 2014 was driven primarily by higher headcount due to regulatory and compliance initiatives, as well as projects to increase operational efficiencies, which also resulted in a corresponding increase in fees from affiliates. The Company also recognized fees from affiliates through revenue sharing agreements with BTMU for various business and banking services. Fees from affiliates and related costs for the nine months ended September 30, 2015 reflect three quarters of income and costs from our business integration initiative whereas the nine months ended September 30, 2014 reflects only one quarter of such income and costs.
Noninterest Expense
For the Three Months Ended | For the Nine Months Ended | |||||||||||||||||||||||||||||||
Increase (Decrease) | Increase (Decrease) | |||||||||||||||||||||||||||||||
September 30, 2015 | September 30, 2014 (1) | September 30, 2015 | September 30, 2014 (1) | |||||||||||||||||||||||||||||
(Dollars in millions) | Amount | Percent | Amount | Percent | ||||||||||||||||||||||||||||
Salaries and other compensation | $ | 469 | $ | 423 | $ | 46 | 11 | % | $ | 1,389 | $ | 1,042 | $ | 347 | 33 | % | ||||||||||||||||
Employee benefits | 88 | 69 | 19 | 28 | 290 | 216 | 74 | 34 | ||||||||||||||||||||||||
Salaries and employee benefits | 557 | 492 | 65 | 13 | 1,679 | 1,258 | 421 | 33 | ||||||||||||||||||||||||
Net occupancy and equipment | 79 | 74 | 5 | 7 | 234 | 220 | 14 | 6 | ||||||||||||||||||||||||
Professional and outside services | 78 | 66 | 12 | 18 | 219 | 184 | 35 | 19 | ||||||||||||||||||||||||
Intangible asset amortization | 10 | 13 | (3 | ) | (23 | ) | 30 | 39 | (9 | ) | (23 | ) | ||||||||||||||||||||
Regulatory assessments | 11 | 13 | (2 | ) | (15 | ) | 38 | 44 | (6 | ) | (14 | ) | ||||||||||||||||||||
Software | 28 | 26 | 2 | 8 | 85 | 68 | 17 | 25 | ||||||||||||||||||||||||
Low income housing credit investment amortization | 5 | 3 | 2 | 67 | 9 | 9 | — | — | ||||||||||||||||||||||||
Advertising and public relations | 10 | 12 | (2 | ) | (17 | ) | 27 | 28 | (1 | ) | (4 | ) | ||||||||||||||||||||
Communications | 10 | 9 | 1 | 11 | 30 | 30 | — | — | ||||||||||||||||||||||||
Data processing | 8 | 8 | — | — | 23 | 24 | (1 | ) | (4 | ) | ||||||||||||||||||||||
Other | 59 | 48 | 11 | 23 | 173 | 122 | 51 | 42 | ||||||||||||||||||||||||
Total noninterest expense | $ | 855 | $ | 764 | $ | 91 | 12 | % | $ | 2,547 | $ | 2,026 | $ | 521 | 26 | % |
(1) | Prior period amounts have been revised to reflect the January 1, 2015 adoption of Accounting Standards Update 2014-01 related to investments in qualified affordable housing projects. |
The increase in noninterest expense for the three and nine months ended September 30, 2015 compared with the same periods ended September 30, 2014 was driven primarily by increases in salaries and employee benefits due to higher headcount as discussed above, as well as increases in professional and outside services, related to various regulatory compliance initiatives, including implementation costs associated with the Enhanced Prudential Standards (EPS) rules for subsidiaries of large FBOs operating in the U.S., including MUAH. Other noninterest expense for the nine months ended September 30, 2015 also includes a contract termination charge recorded in the second quarter of 2015.
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The adjusted efficiency ratio is a non-GAAP financial measure used by management to quantify the efficiency of our operations, focusing on those costs management believes to be most relevant to our regular and ongoing business activities. Net productivity initiative costs include salaries and benefits associated with operational efficiency enhancements. The following table shows the calculation of this ratio for the three and nine months ended September 30, 2015 and 2014:
For the Three Months Ended | For the Nine Months Ended | |||||||||||||||
(Dollars in millions) | September 30, 2015 | September 30, 2014 (1) | September 30, 2015 | September 30, 2014 (1) | ||||||||||||
Noninterest Expense | $ | 855 | $ | 764 | $ | 2,547 | $ | 2,026 | ||||||||
Less: Staff costs associated with fees from affiliates - support services | 128 | 88 | 363 | 88 | ||||||||||||
Less: Foreclosed asset expense and other credit costs | 3 | (1 | ) | 4 | (1 | ) | ||||||||||
Less: Net productivity initiative costs | 3 | 6 | 33 | 11 | ||||||||||||
Less: LIHC investment amortization expense | 5 | 3 | 9 | 9 | ||||||||||||
Less: Expenses of the LIHC consolidated VIEs | 14 | 8 | 32 | 23 | ||||||||||||
Less: Merger and business integration costs | 8 | 22 | 23 | 64 | ||||||||||||
Less: Net adjustments related to privatization transaction | 8 | 11 | 23 | 31 | ||||||||||||
Less: Intangible asset amortization | 2 | 3 | 9 | 10 | ||||||||||||
Less: Contract termination fee | — | — | 23 | — | ||||||||||||
Net noninterest expense, as adjusted (a) | $ | 684 | $ | 624 | $ | 2,028 | $ | 1,791 | ||||||||
Total Revenue | $ | 1,102 | $ | 1,095 | $ | 3,224 | $ | 2,924 | ||||||||
Add: Net interest income taxable-equivalent adjustment | 7 | 6 | 18 | 16 | ||||||||||||
Less: Fees from affiliates - support services | 138 | 94 | 393 | 94 | ||||||||||||
Less: Productivity initiative gains | — | — | — | — | ||||||||||||
Less: Accretion related to privatization-related fair value adjustments | 3 | 4 | 6 | 20 | ||||||||||||
Less: Other credit costs | (8 | ) | 17 | (4 | ) | 18 | ||||||||||
Total revenue, as adjusted (b) | $ | 976 | $ | 986 | $ | 2,847 | $ | 2,808 | ||||||||
Adjusted efficiency ratio (a)/(b) | 70.16 | % | 63.42 | % | 71.28 | % | 63.74 | % |
(1) | Prior period amounts have been revised to reflect the January 1, 2015 adoption of Accounting Standards Update 2014-01 related to investments in qualified affordable housing projects. |
Income Tax Expense
The effective income tax rate increased slightly to 28% in the third quarter of 2015 compared with 27% for the third quarter of 2014, primarily due to the impact of favorable discrete tax adjustments in the third quarter of 2014.
The effective income tax rate for the nine-month period ended September 30, 2015 decreased slightly to 26% compared with 27% for the nine-month period ended September 30, 2014, primarily driven by changes in estimates as well as net favorable discrete tax adjustments in 2015.
For further information regarding income tax expense, see "Management's Discussion and Analysis of Financial Condition and Results of Operations - Income Tax Expense" in Part II, Item 7. and “Changes in our tax rates could affect our future results” in “Risk Factors” in Part I, Item 1A. and Note 17 to the Consolidated Financial Statements in Part II, Item 8. “Financial Statements and Supplementary Data” in our 2014 Form 10-K.
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Balance Sheet Analysis
Securities
Our securities portfolio is primarily used for liquidity and interest rate risk management purposes, to invest cash resulting from excess liquidity, and to a lesser extent, to support our business development objectives. We strive to maximize total return while managing this objective within appropriate risk parameters. Securities available for sale are principally comprised of RMBS, Cash Flow CLOs, CMBS and direct bank purchase bonds. Direct bank purchase bonds are instruments that are issued in bond form, accounted for as securities, but underwritten as loans with features that are typically found in commercial loans. Securities held to maturity consist of RMBS, CMBS, government-sponsored agency securities and U.S. Treasury bonds.
The amortized cost, gross unrealized gains, gross unrealized losses and fair values of securities are detailed in Note 3 to our Consolidated Financial Statements and Part II, Item 8. "Financial Statements and Supplementary Data" in our 2014 Form 10-K.
Loans Held for Investment
The following table shows loans held for investment outstanding by loan type at the end of each period presented:
Increase (Decrease) | |||||||||||||||
September 30, 2015 | December 31, 2014 | ||||||||||||||
(Dollars in millions) | Amount | Percent | |||||||||||||
Loans held for investment: | |||||||||||||||
Commercial and industrial | $ | 28,462 | $ | 27,623 | $ | 839 | 3 | % | |||||||
Commercial mortgage | 13,943 | 14,016 | (73 | ) | (1 | ) | |||||||||
Construction | 2,120 | 1,746 | 374 | 21 | |||||||||||
Lease financing | 748 | 800 | (52 | ) | (7 | ) | |||||||||
Total commercial portfolio | 45,273 | 44,185 | 1,088 | 2 | |||||||||||
Residential mortgage | 27,856 | 28,977 | (1,121 | ) | (4 | ) | |||||||||
Home equity and other consumer loans | 3,124 | 3,117 | 7 | — | |||||||||||
Total consumer portfolio | 30,980 | 32,094 | (1,114 | ) | (3 | ) | |||||||||
Total loans held for investment, before purchased credit-impaired loans | 76,253 | 76,279 | (26 | ) | — | ||||||||||
Purchased credit-impaired loans | 388 | 525 | (137 | ) | (26 | ) | |||||||||
Total loans held for investment | $ | 76,641 | $ | 76,804 | $ | (163 | ) | — | % |
The residential mortgage portfolio decreased from December 31, 2014 to September 30, 2015, primarily as a result of a $0.6 billion loan balance transfer to loans held for sale in the third quarter of 2015 while the remaining declines were due to pay-offs and paydowns. The commercial and industrial portfolio increased due to organic loan growth from continued improving economic factors.
Cross-Border Outstandings
Our cross-border outstandings contain certain economic and political risks that differ from those reflected in domestic outstandings. These risks include those arising from exchange rate fluctuations and restrictions on the transfer of funds. Our total cross-border outstandings for Canada, the only country where such outstandings exceeded one percent of total assets, were $1.2 billion and $1.5 billion at September 30, 2015 and December 31, 2014, respectively. The cross-border outstandings are based on category and domicile of ultimate risk and are comprised of loans, derivative instruments and balances with banks.
17
Deposits
The table below presents our deposits as of September 30, 2015 and December 31, 2014.
Increase (Decrease) | |||||||||||||||
September 30, 2015 | December 31, 2014 | ||||||||||||||
(Dollars in millions) | Amount | Percent | |||||||||||||
Interest checking | $ | 4,592 | $ | 6,622 | $ | (2,030 | ) | (31 | )% | ||||||
Money market | 32,724 | 33,899 | (1,175 | ) | (3 | ) | |||||||||
Total interest bearing transaction and money market accounts | 37,316 | 40,521 | (3,205 | ) | (8 | ) | |||||||||
Savings | 5,656 | 5,495 | 161 | 3 | |||||||||||
Time | 7,852 | 9,454 | (1,602 | ) | (17 | ) | |||||||||
Total interest bearing deposits | 50,824 | 55,470 | (4,646 | ) | (8 | ) | |||||||||
Noninterest bearing deposits | 31,869 | 30,534 | 1,335 | 4 | |||||||||||
Total deposits | $ | 82,693 | $ | 86,004 | $ | (3,311 | ) | (4 | )% | ||||||
Total interest bearing deposits include the following brokered deposits: | |||||||||||||||
Interest bearing transaction and money market accounts | $ | 2,650 | $ | 2,802 | $ | (152 | ) | (5 | )% | ||||||
Time | 2,679 | 2,852 | (173 | ) | (6 | ) | |||||||||
Total brokered deposits | $ | 5,329 | $ | 5,654 | $ | (325 | ) | (6 | )% | ||||||
Core Deposits: | |||||||||||||||
Total deposits | $ | 82,693 | $ | 86,004 | $ | (3,311 | ) | (4 | )% | ||||||
Less: total brokered deposits | 5,329 | 5,654 | (325 | ) | (6 | ) | |||||||||
Less: total foreign deposits and non-brokered domestic time deposits over $250,000 | 2,579 | 3,684 | (1,105 | ) | (30 | ) | |||||||||
Total core deposits | $ | 74,785 | $ | 76,666 | $ | (1,881 | ) | (2 | )% |
Decreases in core deposits were substantially due to declines in total interest bearing transaction and money market accounts, a significant portion of which were certain large escrow deposits. The decrease was partially offset by an increase in noninterest bearing deposits, primarily due to growth in customer balances within our transaction banking segment. Core deposits as a percentage of total deposits were 90% and 89% at September 30, 2015 and December 31, 2014, respectively.
Capital Management
Both the Company and MUB are subject to various capital adequacy regulations issued by the federal banking agencies, including requirements to file an annual capital plan and to maintain minimum regulatory capital ratios. As of September 30, 2015, management believes the capital ratios of the Company and MUB met all regulatory requirements of “well-capitalized” institutions.
The Company timely filed its annual capital plan under the Federal Reserve's CCAR program in January 2015. CCAR evaluates capital planning processes and assesses capital adequacy levels under various scenarios to determine if BHCs would have sufficient capital to continue operations throughout times of economic and financial market stress. The Company's 2015 CCAR submission encompassed a range of expected and stressed economic and financial market scenarios, and included an assessment of expected sources and uses of capital over a prescribed planning horizon, a description of all capital actions within that timeframe, and a discussion of any proposed business plan changes that are likely to have a material impact on capital adequacy. In March 2015, the Company was informed by the Federal Reserve that it did not object to the Company's capital plan. In accordance with regulatory requirements, the Company subsequently disclosed the results of its annual company-run capital stress test.
The Company and MUB are required to maintain minimum capital ratios in accordance with rules issued by the U.S. federal banking agencies. In July 2013, the U.S. federal banking agencies issued final rules to implement the BCBS capital guidelines for U.S. banking organizations (U.S. Basel III). These rules supersede the U.S. federal banking agencies’ general risk-based capital rules (commonly known as “Basel I”), advanced
18
approaches rules (commonly known as “Basel II”) that are applicable to certain large banking organizations, and leverage rules, and are subject to certain transition provisions.
As a result of the Federal Reserve's approval of MUAH's request to opt out of the advanced approaches methodology in the fourth quarter of 2014, MUAH calculated its regulatory capital ratios under U.S. Basel I rules at December 31, 2014 and became subject to the U.S. Basel III standardized approach on January 1, 2015, with certain provisions subject to phase-in periods. As permitted for institutions not subject to the advanced approaches methodology, MUAH made a one-time permanent election in the first quarter of 2015 to exclude certain components of AOCI from its regulatory capital calculations. MUB continues to be subject to the advanced approaches rules. Advanced approaches institutions were required to apply U.S. Basel III rules beginning on January 1, 2014. The U.S. Basel III rules are scheduled to be substantially phased in by January 1, 2019.
Effective June 30, 2015, the Company updated the methodologies applied to the calculation of its regulatory capital ratios due to recent regulatory guidance, which clarified the treatment of certain off-balance sheet credit exposures. These methodologies were applied to MUAH’s capital ratios and increased the ratios by approximately 50 basis points. This change did not affect the Bank’s ratios as the OCC had previously adopted this guidance.
The following tables summarize the calculation of MUAH’s risk-based capital ratios in accordance with the U.S. Basel III rules as of September 30, 2015 and the U.S. Basel I rules as of December 31, 2014.
MUFG Americas Holdings Corporation
U.S. Basel III | U.S. Basel I | |||||||
(Dollars in millions) | September 30, 2015 | December 31, 2014 | ||||||
Capital Components | ||||||||
Common Equity Tier 1 capital | $ | 12,834 | n/a | |||||
Tier 1 capital | 12,837 | $ | 12,367 | |||||
Tier 2 capital | 1,625 | 1,879 | ||||||
Total risk-based capital | $ | 14,462 | $ | 14,246 | ||||
Risk-weighted assets | $ | 92,729 | $ | 96,663 | ||||
Average total assets for leverage capital purposes | $ | 110,835 | $ | 109,910 |
U.S. Basel III | U.S. Basel I | Adequately Capitalized | |||||||||||||||||||||
(Dollars in millions) | September 30, 2015 | December 31, 2014 | September 30, 2015 | ||||||||||||||||||||
Capital Ratios | Amount | Ratio | Amount | Ratio | Amount | Ratio | |||||||||||||||||
Common Equity Tier 1 capital (to risk-weighted assets) | $ | 12,834 | 13.84 | % | n/a | n/a | ≥ | $ | 4,173 | 4.5 | % | ||||||||||||
Tier 1 capital (to risk-weighted assets) | 12,837 | 13.84 | $ | 12,367 | 12.79 | % | ≥ | 5,564 | 6.0 | ||||||||||||||
Total capital (to risk-weighted assets) | 14,462 | 15.60 | 14,246 | 14.74 | ≥ | 7,418 | 8.0 | ||||||||||||||||
Tier 1 leverage(1) | 12,837 | 11.58 | 12,367 | 11.25 | ≥ | 4,433 | 4.0 |
(1)Tier 1 capital divided by average total assets for leverage capital purposes (excluding certain intangible assets).
n/a not applicable.
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The following tables summarize the calculation of MUB’s risk-based capital ratios in accordance with the transition guidelines set forth in the U.S. Basel III rules as of September 30, 2015 and December 31, 2014.
MUFG Union Bank, N.A.
U.S. Basel III | ||||||||
(Dollars in millions) | September 30, 2015 | December 31, 2014 | ||||||
Capital Components | ||||||||
Common Equity Tier 1 capital | $ | 12,353 | $ | 12,087 | ||||
Tier 1 capital | 12,353 | $ | 12,088 | |||||
Tier 2 capital | 1,426 | 1,568 | ||||||
Total risk-based capital | $ | 13,779 | $ | 13,656 | ||||
Risk-weighted assets | $ | 92,048 | $ | 92,367 | ||||
Average total assets for leverage capital purposes | $ | 109,213 | $ | 109,032 |
U.S. Basel III | Minimum Regulatory Requirement | To Be Well-Capitalized Under Prompt Corrective Action Provisions | ||||||||||||||||||||||||||||||
(Dollars in millions) | September 30, 2015 | December 31, 2014 | September 30, 2015 | |||||||||||||||||||||||||||||
Capital Ratios | Amount | Ratio | Amount | Ratio | Amount | Ratio | Amount | Ratio | ||||||||||||||||||||||||
Common Equity Tier 1 capital (to risk-weighted assets) | $ | 12,353 | 13.42 | % | $ | 12,087 | 13.09 | % | ≥ | $ | 4,142 | 4.5 | % | ≥ | $ | 5,983 | 6.5 | % | ||||||||||||||
Tier 1 capital (to risk-weighted assets) | 12,353 | 13.42 | 12,088 | 13.09 | ≥ | 5,523 | 6.0 | ≥ | 7,364 | 8.0 | ||||||||||||||||||||||
Total capital (to risk-weighted assets) | 13,779 | 14.97 | 13,656 | 14.78 | ≥ | 7,364 | 8.0 | ≥ | 9,205 | 10.0 | ||||||||||||||||||||||
Tier 1 leverage(1) | 12,353 | 11.31 | 12,088 | 11.09 | ≥ | 4,369 | 4.0 | ≥ | 5,461 | 5.0 |
(1)Tier 1 capital divided by average total assets for leverage capital purposes (excluding certain intangible assets).
n/a not applicable.
In addition to capital ratios determined in accordance with regulatory requirements, we consider the tangible common equity ratio and the Tier 1 common capital ratio when evaluating capital utilization and adequacy. These capital ratios are viewed by management, and presented below, to further facilitate the understanding of our capital structure and for use in assessing and comparing the quality and composition of the Company’s capital structure to other financial institutions. These ratios are not codified within U.S. GAAP or federal banking regulations in effect at September 30, 2015. Therefore, they are considered non-GAAP financial measures. Our tangible common equity ratio calculation methods may differ from those used by other financial services companies.
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The following table summarizes the calculation of the Company's tangible common equity ratios as of September 30, 2015 and December 31, 2014:
September 30, 2015 | December 31, 2014 (1) | |||||||
(Dollars in millions) | ||||||||
Total MUAH stockholder's equity | $ | 15,621 | $ | 14,922 | ||||
Goodwill | (3,225 | ) | (3,225 | ) | ||||
Intangible assets, except mortgage servicing rights | (199 | ) | (233 | ) | ||||
Deferred tax liabilities related to goodwill and intangible assets | 39 | 99 | ||||||
Tangible common equity (a) | $ | 12,236 | $ | 11,563 | ||||
Total assets | $ | 115,157 | $ | 113,623 | ||||
Goodwill | (3,225 | ) | (3,225 | ) | ||||
Intangible assets, except mortgage servicing rights | (199 | ) | (233 | ) | ||||
Deferred tax liabilities related to goodwill and intangible assets | 39 | 99 | ||||||
Tangible assets (b) | $ | 111,772 | $ | 110,264 | ||||
Tangible common equity ratio (a)/(b) | 10.95 | % | 10.49 | % |
(1) | Prior period amounts have been revised to reflect the January 1, 2015 adoption of Accounting Standards Update 2014-01 related to investments in qualified affordable housing projects. |
The following table summarizes the calculation of the Company's Tier 1 common capital ratio as of December 31, 2014:
(Dollars in millions) | December 31, 2014 | |||
Tier 1 capital under Basel I | $ | 12,367 | ||
Junior subordinated debt payable to trusts | (51 | ) | ||
Tier 1 common equity (a) | 12,316 | |||
Risk-weighted assets under Basel I (b) | $ | 96,663 | ||
Tier 1 common capital ratio (a)/(b) | 12.74 | % |
The Company’s fully phased-in Common Equity Tier 1 capital ratio calculated under the U.S. Basel III standardized approach at September 30, 2015 and December 31, 2014 was estimated to be 13.79% and 12.56%, respectively. The Company's transitional Common Equity Tier 1 capital ratio calculated under the U.S. Basel III standardized approach at December 31, 2014 was estimated to be 12.85%. Management believes that the Company would satisfy all capital adequacy requirements under the U.S. Basel III rules on a fully phased-in basis if those requirements had been effective at both September 30, 2015 and December 31, 2014.
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The following table summarizes the calculation of the Company's fully phased-in Common Equity Tier 1 capital to total risk-weighted assets ratio under the U.S. Basel III standardized approach as of September 30, 2015:
Common Equity Tier 1 capital under U.S. Basel III (standardized approach; fully phased-in) | ||||
September 30, 2015 | ||||
(Dollars in millions) | (Estimated) | |||
Common Equity Tier 1 capital under U.S. Basel III (Transitional) | $ | 12,834 | ||
Other | (67 | ) | ||
Common Equity Tier 1 capital estimated under U.S. Basel III (standardized approach; fully phased-in) (a) | $ | 12,767 | ||
Risk-weighted assets, estimated under U.S. Basel III (standardized; transitional) | $ | 92,729 | ||
Adjustments | (160 | ) | ||
Total risk-weighted assets, estimated under U.S. Basel III (standardized approach; fully phased-in) (b) | $ | 92,569 | ||
Common Equity Tier 1 capital to total risk-weighted assets estimated under U.S. Basel III (standardized approach; fully phased-in) (1) (a)/(b) | 13.79 | % |
(1) | Common Equity Tier 1 risk-based capital (standardized, fully phased-in basis) is a non-GAAP financial measure that is used by investors, analysts and bank regulatory agencies to assess the capital position of financial services companies as if the transition provisions of the U.S. Basel III rules were fully phased-in for the period in which the ratio is disclosed. Management reviews this ratio, which excludes components of accumulated other comprehensive loss, along with other measures of capital as part of its financial analyses and has included this non-GAAP information, and the corresponding reconciliation from Common Equity Tier 1 capital (calculated according to the transition provisions under U.S. Basel III rules) because of current interest in such information by market participants. |
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The following table summarizes the calculation of the Company's transitional and fully phased-in Common Equity Tier 1 capital to total risk-weighted assets ratio under the U.S. Basel III standardized approach as of December 31, 2014:
December 31, 2014 | ||||
(Dollars in millions) | (Estimated) | |||
Tier 1 capital under U.S. Basel I regulatory requirements | $ | 12,367 | ||
Junior subordinated debt payable to trusts | (51 | ) | ||
U.S. Basel I Tier 1 common capital | 12,316 | |||
Other | 134 | |||
Common Equity tier 1 capital under U.S. Basel III (Transitional) (a) | 12,450 | |||
Other | (117 | ) | ||
Common Equity Tier 1 capital estimated under U.S. Basel III (standardized approach; fully phased-in) (b) | $ | 12,333 | ||
Risk-weighted assets, determined in accordance with U.S. Basel I regulatory requirements | $ | 96,663 | ||
Adjustments | 205 | |||
Risk-weighted assets, estimated under U.S. Basel III (standardized; transitional) (c) | 96,868 | |||
Adjustments | 1,301 | |||
Total risk-weighted assets, estimated under U.S. Basel III (standardized approach; fully phased-in) (d) | $ | 98,169 | ||
Common Equity Tier 1 capital to total risk-weighted assets estimated under U.S. Basel III (standardized; transitional) (1) (a)/(c) | 12.85 | % | ||
Common Equity Tier 1 capital to total risk-weighted assets estimated under U.S. Basel III (standardized approach; fully phased-in) (2) (b)/(d) | 12.56 | % |
(1) | In December 2014, the Federal Reserve Board approved the Company's request to opt-out of the advanced approaches methodology under U.S. Basel III regulatory capital rules for the holding company only. Common Equity Tier 1 risk-based capital is calculated in accordance with the transition guidelines set forth in the U.S. federal banking agencies' revised capital framework for implementing the final U.S. Basel III regulatory capital rules. Management reviews this ratio, which excludes components of accumulated other comprehensive loss, along with other measures of capital as part of its financial analyses and has included this non-GAAP information because of current interest in such information by market participants. |
(2) | Common Equity Tier 1 risk-based capital (standardized, fully phased-in basis) is a non-GAAP financial measure that is used by investors, analysts and bank regulatory agencies to assess the capital position of financial services companies as if the transition provisions of the U.S. Basel III rules were fully phased-in for the period in which the ratio is disclosed. Management reviews this ratio, which excludes components of accumulated other comprehensive loss, along with other measures of capital as part of its financial analyses and has included this non-GAAP information, and the corresponding reconciliation from Common Equity Tier 1 capital (calculated according to the transition provisions under U.S. Basel III rules) because of current interest in such information by market participants. |
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Risk Management
All financial institutions must manage and control a variety of business risks that can significantly affect their financial condition and performance. Some of the key risks the Company must manage include credit, market, liquidity and operational risks. The Board of Directors, directly or through its appropriate committee, provides oversight and approves our various risk management policies. Management has established an enterprise-wide risk management structure that is designed to provide a structured approach for identifying, measuring, monitoring, controlling and reporting on the significant risks faced by the Company.
Credit Risk Management
One of our principal business activities is the extension of credit to individuals and businesses. Our policies and the applicable laws and regulations governing the extension of credit require risk analysis, including an extensive evaluation of the purpose of the request and the borrower’s ability and willingness to repay as scheduled. Our process also includes ongoing portfolio and credit management through portfolio diversification, lending limit constraints, credit review and approval policies, and extensive internal monitoring. For additional information regarding our credit risk management policies, refer to the section “Credit Risk Management” included in Part II, Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our 2014 Form 10-K.
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Allowance for Credit Losses
Allowance Policy and Methodology
We maintain an allowance for credit losses (defined as both the allowance for loan losses and the allowance for losses on unfunded credit commitments) to absorb losses inherent in the loan portfolio as well as for unfunded credit commitments. Understanding our policies on the allowance for credit losses is fundamental to understanding our consolidated financial condition and consolidated results of operations. Accordingly, our significant accounting policies on the allowance for credit losses are discussed in detail in Note 1 to our Consolidated Financial Statements in Part II, Item 8. “Financial Statements and Supplementary Data” and in the section “Allowance for Credit Losses” included in Part II, Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our 2014 Form 10-K. For additional information regarding our allowance for loan losses, refer to Note 3 of our Consolidated Financial Statements in Part I, Item 1. “Financial Statements” of this Form 10-Q.
Allowance and Related Provision for Credit Losses
The allowance for loan losses was $547 million at September 30, 2015 compared with $537 million at December 31, 2014. Our ratio of allowance for loan losses to total loans held for investment was 0.71% as of September 30, 2015 and 0.70% as of December 31, 2014. The $46 million provision for loan losses during the nine months ended September 30, 2015 was primarily due to higher reserves for the oil and gas sector and net charge-offs, partially offset by lower reserves required for other portfolio sectors. Annualized net loans charged-off to average total loans held for investment increased slightly to 0.06% for the nine months ended September 30, 2015 compared with 0.02% for the nine months ended September 30, 2014. The unallocated allowance totaled $20 million at September 30, 2015 and December 31, 2014, reflecting probable losses related to the drought in California.
Nonaccrual loans were $419 million at September 30, 2015 compared with $375 million at December 31, 2014. Our ratio of nonaccrual loans to total loans held for investment increased to 0.55% at September 30, 2015 from 0.49% at December 31, 2014. Our ratio of allowance for loan losses to nonaccrual loans decreased to 130.46% at September 30, 2015 from 143.35% at December 31, 2014. Criticized credits in the commercial segment increased to $1.6 billion at September 30, 2015 from $1.1 billion at December 31, 2014. The increase in criticized loans was driven by the oil and gas sector. As discussed in Part I, Item 2. "Management's Discussion and Analysis of Financial Condition and Results of Operations - Concentration of Risk" in this Form 10-Q, the Company had $3.6 billion of loans outstanding within the oil and gas sector as of September 30, 2015. Criticized credits are those that have regulatory risk grades of “special mention,” “substandard” or “doubtful.” Special mention credits are potentially weak, as the borrower has begun to exhibit deteriorating trends, which, if not corrected, could jeopardize repayment of the loan and result in further downgrade. Adversely classified credits are those that are internally risk graded as substandard or doubtful. Substandard credits have well-defined weaknesses, which, if not corrected, could jeopardize the full satisfaction of the debt. A credit classified as doubtful has critical weaknesses that make full collection improbable on the basis of currently existing facts and conditions.
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Change in the Allowance for Loan Losses
The following table sets forth a reconciliation of changes in our allowance for loan losses:
For the Three Months Ended September 30, | For the Nine Months Ended September 30, | |||||||||||||||
(Dollars in millions) | 2015 | 2014 | 2015 | 2014 | ||||||||||||
Allowance for loan losses, beginning of period | $ | 536 | $ | 559 | $ | 537 | $ | 568 | ||||||||
(Reversal of) provision for loan losses | 23 | (18 | ) | 46 | (25 | ) | ||||||||||
Other | (1 | ) | — | (2 | ) | (1 | ) | |||||||||
Loans charged-off: | ||||||||||||||||
Commercial and industrial | (11 | ) | (15 | ) | (24 | ) | (26 | ) | ||||||||
Commercial mortgage | — | — | (4 | ) | (3 | ) | ||||||||||
Total commercial portfolio | (11 | ) | (15 | ) | (28 | ) | (29 | ) | ||||||||
Residential mortgage | — | — | (1 | ) | (3 | ) | ||||||||||
Home equity and other consumer loans | (1 | ) | (2 | ) | (6 | ) | (6 | ) | ||||||||
Total consumer portfolio | (1 | ) | (2 | ) | (7 | ) | (9 | ) | ||||||||
Purchased credit-impaired loans | (3 | ) | (1 | ) | (11 | ) | (1 | ) | ||||||||
Total loans charged-off | (15 | ) | (18 | ) | (46 | ) | (39 | ) | ||||||||
Recoveries of loans previously charged-off: | ||||||||||||||||
Commercial and industrial | 2 | 3 | 9 | 17 | ||||||||||||
Commercial mortgage | 1 | 2 | 1 | 3 | ||||||||||||
Construction | — | — | — | 3 | ||||||||||||
Total commercial portfolio | 3 | 5 | 10 | 23 | ||||||||||||
Home equity and other consumer loans | 1 | — | 2 | 2 | ||||||||||||
Total consumer portfolio | 1 | — | 2 | 2 | ||||||||||||
Purchased credit-impaired loans | — | 1 | — | 1 | ||||||||||||
Total recoveries of loans previously charged-off | 4 | 6 | 12 | 26 | ||||||||||||
Net loans recovered (charged-off) | (11 | ) | (12 | ) | (34 | ) | (13 | ) | ||||||||
Ending balance of allowance for loan losses | 547 | 529 | 547 | 529 | ||||||||||||
Allowance for losses on unfunded credit commitments | 141 | 162 | 141 | 162 | ||||||||||||
Total allowance for credit losses | $ | 688 | $ | 691 | $ | 688 | $ | 691 |
Nonperforming Assets
Nonperforming assets consist of nonaccrual loans and OREO. Nonaccrual loans are those for which management has discontinued accrual of interest because there exists significant uncertainty as to the full and timely collection of either principal or interest, or such loans have become contractually past due 90 days with respect to principal or interest. OREO includes property where the Bank acquired title through foreclosure or “deed in lieu” of foreclosure. For a more detailed discussion of the accounting for nonaccrual loans, see Note 1 to our Consolidated Financial Statements included in Part II, Item 8. “Financial Statements and Supplementary Data” in our 2014 Form 10-K.
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The following table sets forth an analysis of nonperforming assets:
September 30, 2015 | December 31, 2014 | Increase (Decrease) | |||||||||||||
(Dollars in millions) | Amount | Percent | |||||||||||||
Commercial and industrial | $ | 138 | $ | 55 | $ | 83 | 151 | % | |||||||
Commercial mortgage | 40 | 40 | — | — | |||||||||||
Total commercial portfolio | 178 | 95 | 83 | 87 | |||||||||||
Residential mortgage | 201 | 231 | (30 | ) | (13 | ) | |||||||||
Home equity and other consumer loans | 32 | 40 | (8 | ) | (20 | ) | |||||||||
Total consumer portfolio | 233 | 271 | (38 | ) | (14 | ) | |||||||||
Total nonaccrual loans, before purchased credit-impaired loans | 411 | 366 | 45 | 12 | |||||||||||
Purchased credit-impaired loans | 8 | 9 | (1 | ) | (11 | ) | |||||||||
Total nonaccrual loans | 419 | 375 | 44 | 12 | |||||||||||
OREO | 15 | 36 | (21 | ) | (58 | ) | |||||||||
Total nonperforming assets | $ | 434 | $ | 411 | $ | 23 | 6 | % | |||||||
Troubled debt restructurings: | |||||||||||||||
Accruing | $ | 264 | $ | 283 | $ | (19 | ) | (7 | )% | ||||||
Nonaccruing (included in total nonaccrual loans above) | $ | 202 | $ | 184 | $ | 18 | 10 | % | |||||||
Total troubled debt restructurings | $ | 466 | $ | 467 | $ | (1 | ) | — | % |
Total nonperforming assets as of September 30, 2015 were $434 million, or 0.38% of total assets, compared with $411 million, or 0.36% of total assets, at December 31, 2014. The increase in nonperforming assets of $23 million from December 31, 2014 to September 30, 2015 was driven primarily by a modest decline in customer credit quality within the commercial portfolio, partially offset by improvements in credit quality within the consumer portfolio as a result of early payoffs as well as the return of previously reported past due loans to current payment status.
Troubled Debt Restructurings
TDRs are loans where we have granted a concession to a borrower as a result of the borrower experiencing financial difficulty and, consequently, we receive less than the current market-based compensation for loans with similar risk characteristics. Such loans are reviewed for impairment either individually or in pools with similar risk characteristics. Our loss mitigation strategies are designed to minimize economic loss and, at times, may result in changes to the original terms, including interest rate changes, maturity extensions, principal paydowns, covenant waivers or changes, payment deferrals, or some combination thereof. We evaluate whether these changes to the terms and conditions of our loans meet the TDR criteria after considering the specific situation of the borrower and all relevant facts and circumstances related to the modification. For our consumer portfolio segment, TDRs are typically initially placed on nonaccrual and a minimum of six consecutive months of sustained performance is required before returning to accrual status. For our commercial portfolio segment, we generally determine accrual status for TDRs by performing an individual assessment of each loan, which may include, among other factors, borrower performance under previous loan terms.
Modifications of purchased credit-impaired loans that are accounted for within loan pools do not result in the removal of these loans from the pool even if the modification would otherwise be considered a TDR. Each pool is accounted for as a single asset with a single composite interest rate and an aggregate expectation of cash flows. Accordingly, modifications of loans within such pools are not considered TDRs.
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The following table provides a summary of TDRs by loan type, including nonaccrual loans and loans that have been returned to accrual status, as of September 30, 2015 and December 31, 2014. Refer to Note 3 to our Consolidated Financial Statements in Part I, Item 1. "Financial Statements" in this Form 10-Q for more information.
As a Percentage of Ending Loan Balances | ||||||||||||||
(Dollars in millions) | September 30, 2015 | December 31, 2014 | September 30, 2015 | December 31, 2014 | ||||||||||
Commercial and industrial | $ | 129 | $ | 100 | 0.46 | % | 0.36 | % | ||||||
Commercial mortgage | 20 | 28 | 0.14 | 0.20 | ||||||||||
Total commercial portfolio | 149 | 128 | 0.33 | 0.29 | ||||||||||
Residential mortgage | 289 | 308 | 1.04 | 1.06 | ||||||||||
Home equity and other consumer loans | 28 | 30 | 0.94 | 0.97 | ||||||||||
Total consumer portfolio | 317 | 338 | 1.03 | 1.05 | ||||||||||
Total troubled debt restructurings | $ | 466 | $ | 466 | 0.61 | % | 0.61 | % |
Loans 90 Days or More Past Due and Still Accruing
Loans held for investment 90 days or more past due and still accruing totaled $4 million and $3 million at September 30, 2015 and December 31, 2014, respectively. These amounts exclude purchased credit-impaired loans, which are generally accounted for within loan pools, of $30 million and $47 million at September 30, 2015 and December 31, 2014, respectively. The past due status of individual loans included within purchased credit-impaired loan pools is not a meaningful indicator of credit quality, as potential credit losses are measured at the loan pool level against prior expectations of repayment performance.
Concentration of Risk
Commercial and industrial loans are extended principally to corporations, middle-market businesses and small businesses and are originated primarily through our commercial banking offices. We are active in, among other sectors, finance and insurance services, real estate and leasing, oil and gas, utilities, manufacturing and wholesale trade. These industries comprise the majority of our commercial and industrial portfolio. No individual industry sector exceeded 10% of our total loans held for investment at either September 30, 2015 or December 31, 2014.
The Company had total loan commitments of $7.5 billion to the oil and gas sector, of which $3.6 billion were outstanding as of September 30, 2015, representing 4.7% of total loans held for investment. As of September 30, 2015, 81% of our oil and gas sector commitments were to exploration and production companies, 9% to transportation companies, 6% to refining companies, 2% to machinery, 1% to service companies, and 1% to drilling companies. As of September 30, 2015, more than 83% of our outstanding loans to exploration and production companies were reserve-based loans. Reserve-based lending typically consists of loans collateralized with oil and gas reserves. The Company periodically resets its forward-looking view of oil and natural gas prices used to calculate a borrower's reserve value as part of its assessment of the commitment amount.
As of September 30, 2015, criticized oil and gas loan commitments were $840 million and criticized outstanding loans were $670 million, while nonaccruals were $46 million. As of December 31, 2014, criticized oil and gas loan commitments were $149 million and criticized outstanding loans were $114 million, while nonaccruals were less than $1 million. There were no charge-offs during the nine months ended September 30, 2015. The allowance for loan losses for the oil and gas sector is primarily comprised of a segment attribution and formulaic reserves based on internal ratings. Continued low commodity prices have resulted in negative credit migration in the oil and gas portfolio over the past six months.
Construction and commercial mortgage loans are secured by deeds of trust or mortgages. Construction loans are extended primarily to commercial property developers and to residential builders. At September 30, 2015, 55% of the Company’s construction loan portfolio was concentrated in California, 10% to borrowers in the state of Washington and 9% to borrowers in the state of New York. The commercial mortgage loan portfolio consists of loans secured by commercial income properties. At September 30, 2015, 65% of the Company’s commercial mortgage loans were made to borrowers located in California, 7% to borrowers in the state of
28
Washington and 6% to borrowers in New York.
Residential mortgage loans are originated and secured by one-to-four family residential properties, through our multiple channel network, including branches, private bankers, mortgage brokers, telephone services and web-based and mobile internet banking applications. We do not have a program for originating or purchasing subprime loan products and we hold the majority of the loans we originate.
At September 30, 2015, payment terms on 44% of our residential mortgage loans require a monthly payment that covers the full amount of interest due, but does not reduce the principal balance. At origination, these interest-only loans had strong credit profiles and had weighted average LTV ratios of approximately 66%. The remainder of the portfolio consists of regularly amortizing loans.
Home equity and other consumer loans are originated principally through our branch network and Private Banking offices. Approximately 33% and 32% of these home equity loans and lines were supported by first liens on residential properties as of September 30, 2015 and December 31, 2014, respectively. To manage risk associated with lending commitments, we review all equity-secured lines annually for creditworthiness and may reduce or freeze limits, to the extent permitted by laws and regulations. See Note 3 to our Consolidated Financial Statements in Part I, Item 1. “Financial Statements” in this Form 10-Q for additional information on refreshed FICO scores and refreshed LTV ratios for our residential mortgage loans at September 30, 2015 and December 31, 2014.
As of September 30, 2015, our sovereign and non-sovereign debt exposure to European countries was not material. In addition, industry exposures to metals and mining were low at 0.40% of total loans held for investment.
Market Risk Management
The objective of market risk management is to mitigate any adverse impact on earnings and capital arising from changes in interest rates and other market variables. Market risk management supports our broad objective of enhancing shareholder value, which encompasses the achievement of stable earnings growth while promoting capital stability over time. Market risk is defined as the risk of loss arising from an adverse change in the market value of financial instruments caused by fluctuations in market prices or rates. The primary market risk to which we are exposed is interest rate risk. Substantially all of our interest rate risk arises from instruments, positions and transactions entered into for purposes other than trading. These include loans, securities, deposits, borrowings and derivative financial instruments. To a much lesser degree, we are exposed to market risk in our trading portfolio, which is primarily composed of derivative contracts the Company enters into as a financial intermediary for customers.
Risk Governance
The Board, directly or through its appropriate committee, approves our ALM Policy, which governs the management of market and liquidity risks and guides our investment, derivatives, trading and funding activities. The ALM Policy establishes the Company’s risk tolerance by outlining standards for measuring market and liquidity risks, creates Board-level limits for specific market risks, establishes ALCO responsibilities and requires independent review and oversight of market and liquidity risk activities.
The RCC, composed of selected senior officers of the Company, strives to ensure that the Company has an effective process to identify, monitor, measure and manage market risk as required by the ALM Policy. The RCC provides the broad and strategic guidance of market risk management by defining the risk and return direction for the Company, delegating to and reviewing market risk management activities of the ALCO and by approving the investment, derivatives and trading policies that govern the Company’s activities. ALCO, as authorized by the RCC, is responsible for the management of market risk and approves specific risk management programs, including those related to interest rate hedging, investment securities and wholesale funding.
The Treasurer is primarily responsible for the implementation of risk management strategies approved by ALCO and for operational management of market risk through the funding, investment and derivatives hedging activities of Corporate Treasury. The Company's Investment Banking and Markets segment is responsible for managing price risk through its trading activities. The Market Risk Management unit is responsible for the monitoring of market risk and functions independently of all operating and management units.
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The Company has separate and distinct methods for managing the market risk associated with our asset and liability management activities and our trading activities, as described below.
Interest Rate Risk Management (Other Than Trading)
ALCO monitors interest rate risk on a monthly basis through a variety of modeling techniques that are used to quantify the sensitivity of net interest income to changes in interest rates. Our net interest income sensitivity analysis typically involves a simulation in which we estimate the net interest income impact of gradual parallel shifts in the yield curve of up and down 200 basis points over a 12-month horizon using a forecasted balance sheet. Due to the current and persistently low interest rate environment, the 200 basis point decrease was replaced with a 100 basis point decrease.
Net Interest Income Sensitivity
The table below presents the estimated increase (decrease) in net interest income given a gradual parallel shift in the yield curve up 200 basis points and down 100 basis points over a 12-month horizon.
(Dollars in millions) | September 30, 2015 | December 31, 2014 | ||||||
Effect on net interest income: | ||||||||
Increase 200 basis points | $ | 98.1 | $ | 107.0 | ||||
as a percentage of base case net interest income | 3.41 | % | 3.88 | % | ||||
Decrease 100 basis points | $ | (62.8 | ) | $ | (68.5 | ) | ||
as a percentage of base case net interest income | (2.18 | )% | (2.48 | )% |
An increase in rates increases net interest income. During the nine months ended September 30, 2015, the Bank's asset sensitive profile decreased slightly due to changes in both the current balance sheet composition and forecasted balance sheet activity over the next twelve months. We believe that our simulation provides management with a comprehensive view of the sensitivity of net interest income to changes in interest rates over the measurement horizon. However, as with any financial model, the underlying assumptions are inherently uncertain and subject to refinement. In particular, two significant models used in interest rate risk measurement address residential mortgage prepayment speeds and non-maturity deposit rate and balance behaviors. The mortgage prepayment model is periodically calibrated to reflect changes in customer behavior. Model performance may be adversely affected by rapid changes in interest rates, home prices and the credit environment. The deposit model uses the Company’s historical deposit pricing to forecast future deposit pricing in its scenarios. Management’s response to future rate scenarios may deviate from historic responses as the 2008 financial crisis may have changed future competitive responses and customer behaviors with respect to deposit repricing. Actual results may differ from those derived in the simulation analysis due to unexpected market events, unanticipated changes in customer behavior, market interest rates, product pricing, and investment, funding and hedging activities.
Investment Securities
Our ALM securities portfolio includes both securities available for sale and securities held to maturity. At September 30, 2015 and December 31, 2014, our ALM securities portfolio fair values were $23.2 billion and $20.3 billion, respectively.
Our ALM securities portfolio is comprised of RMBS, Cash Flow CLOs, CMBS, U.S. Treasury securities and government-sponsored agency securities. The portfolio had an expected weighted average life of 4.0 years at September 30, 2015. At September 30, 2015, approximately $1.7 billion of the portfolio was pledged to secure trust and public deposits as required or permitted by law. During the third quarter of 2015, we purchased $2.1 billion and sold $0.6 billion of securities, as part of our investment portfolio strategy, while $1.1 billion of ALM securities matured, were paid down, or were called.
Based on current prepayment projections, the estimated ALM securities portfolio’s effective duration was 3.4 years at September 30, 2015, compared with 3.5 years at December 31, 2014. Effective duration is a measure of price sensitivity of a bond portfolio to immediate parallel shifts in interest rates. An effective duration
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of 3.4 years suggests an expected price decrease of approximately 3.4% for an immediate 1.0% parallel increase in interest rates.
In addition to our ALM securities, our securities available for sale portfolio includes approximately $1.6 billion of direct bank purchase bonds that are largely managed within our Commercial Banking and U.S. Corporate Banking operating segments. These instruments are accounted for as securities, but underwritten as loans with terms that are closely aligned with traditional commercial loan features, and are subject to national bank regulatory lending authority standards. These instruments typically are not issued in bearer form, nor are they registered with the SEC or the Depository Trust Company. Additionally, these instruments generally contain certain transferability restrictions and are not assigned external credit ratings.
ALM and Other Risk Management Derivatives
Since December 31, 2014, the notional amount of the ALM derivatives portfolio increased by $3.7 billion as we entered into receive fixed interest rate swap contracts to hedge floating rate commercial loans.
Other risk management derivatives are primarily used to manage non-interest rate related risks. For additional discussion of derivative instruments and our hedging strategies, see Note 8 to our Consolidated Financial Statements in Part I, Item 1. “Financial Statements” of this Form 10-Q and Note 12 to our Consolidated Financial Statements in Part II, Item 8. “Financial Statements and Supplementary Data” in our 2014 Form 10-K.
(Dollars in millions) | September 30, 2015 | December 31, 2014 | Increase (Decrease) | |||||||||
Total gross notional amount of ALM and other risk management derivatives | ||||||||||||
ALM derivatives: | ||||||||||||
Interest rate swap receive fixed contracts | $ | 13,900 | $ | 10,250 | $ | 3,650 | ||||||
Total ALM derivatives | 13,900 | 10,250 | 3,650 | |||||||||
Other risk management derivatives | 275 | 286 | (11 | ) | ||||||||
Total ALM and other risk management derivatives | $ | 14,175 | $ | 10,536 | $ | 3,639 | ||||||
Fair value of ALM and other risk management derivatives | ||||||||||||
ALM derivatives: | ||||||||||||
Gross positive fair value | $ | 208 | $ | 36 | $ | 172 | ||||||
Gross negative fair value | — | 4 | (4 | ) | ||||||||
Positive (negative) fair value of ALM derivatives, net | 208 | 32 | 176 | |||||||||
Other risk management derivatives: | ||||||||||||
Gross positive fair value | 3 | 2 | 1 | |||||||||
Gross negative fair value | 3 | 3 | — | |||||||||
Positive (negative) fair value of other risk management derivatives, net | — | (1 | ) | 1 | ||||||||
Positive (negative) fair value of ALM and other risk management derivatives, net | $ | 208 | $ | 31 | $ | 177 |
Trading Activities
We enter into trading account activities primarily as a financial intermediary for customers. By acting as a financial intermediary, we are able to provide our customers with access to a range of products from the securities, foreign exchange and derivatives markets. We generally take offsetting positions in these transactions to mitigate our exposure to market risk.
We utilize a combination of position limits, VaR, and stop-loss limits, applied at an aggregated level and to various sub-components within those limits. Positions are controlled and reported both in notional and VaR terms. Our calculation of VaR estimates how high the loss in fair value might be, at a 99% confidence level, due to an adverse shift in market prices over a period of ten business days. VaR at the trading activity level is managed within the maximum limit of $14 million established by Board policy for total trading positions. The VaR model incorporates assumptions on key parameters, including holding period and historical volatility.
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Consistent with our business strategy of focusing on the sale of capital markets products to customers, we manage our trading risk exposures at relatively low levels. Our foreign exchange business continues to derive the majority of its revenue from customer-related transactions. Similarly, we continue to generate most of our securities trading income from customer-related transactions.
As of September 30, 2015, notional amounts held for customer accommodation purposes were comprised of $68.6 billion of interest rate derivative contracts, $3.6 billion of foreign exchange derivative contracts and $3.4 billion of commodity derivative contracts. Notional amounts at September 30, 2015 also included $1.1 billion, $0.8 billion and $3.5 billion of foreign exchange, commodity and equity contracts, respectively, representing our exposure to the embedded bifurcated derivatives and the related hedges contained in our market-linked CDs.
The following table provides the notional value and the fair value of our trading derivatives portfolio as of September 30, 2015 and December 31, 2014, and the change in fair value between September 30, 2015 and December 31, 2014:
(Dollars in millions) | September 30, 2015 | December 31, 2014 | Increase (Decrease) | |||||||||
Total gross notional amount of positions held for trading purposes: | ||||||||||||
Interest rate contracts | $ | 68,580 | $ | 46,944 | $ | 21,636 | ||||||
Commodity contracts | 4,239 | 4,741 | (502 | ) | ||||||||
Foreign exchange contracts(1) | 4,717 | 5,232 | (515 | ) | ||||||||
Equity contracts | 3,457 | 3,797 | (340 | ) | ||||||||
Total | $ | 80,993 | $ | 60,714 | $ | 20,279 | ||||||
Fair value of positions held for trading purposes: | ||||||||||||
Gross positive fair value | $ | 1,859 | $ | 1,760 | $ | 99 | ||||||
Gross negative fair value | 1,763 | 1,617 | 146 | |||||||||
Positive fair value of positions, net | $ | 96 | $ | 143 | $ | (47 | ) |
(1) | Excludes spot contracts with a notional amount of $0.8 billion and $0.4 billion at September 30, 2015 and December 31, 2014, respectively. |
Liquidity Risk
Liquidity risk is the risk that an institution's financial condition or overall safety and soundness is adversely affected by an inability, or perceived inability, to meet its contractual, including contingent, obligations. The objective of liquidity risk management is to maintain a sufficient amount of liquidity and diversity of funding sources to allow an institution to meet obligations in both stable and adverse conditions.
The management of liquidity risk is governed by the ALM Policy under the oversight of the RCC and the Audit & Finance Committee of the Board. ALCO oversees liquidity risk management activities. Corporate Treasury formulates the liquidity and contingency planning strategies for the Company and the Bank and is responsible for identifying, managing and reporting on liquidity risk. Market Risk Management, which is part of the Enterprise Wide Risk Reporting and Analysis unit, partners with Corporate Treasury to establish sound policy and effective risk controls. We are also subject to a Contingency Funding Plan that identifies actions to be taken to help ensure adequate liquidity if an event should occur that disrupts or adversely affects the normal funding activities of the Company or the Bank.
Liquidity risk is managed using a total balance sheet perspective that analyzes all sources and uses of liquidity including loans, investments, deposits and borrowings, as well as off-balance sheet exposures. Management does not rely on any one source of liquidity and manages availability in response to changing balance sheet needs. Various tools are used to measure and monitor liquidity, including pro forma forecasting of the sources and uses of cash flows over a 12-month time horizon, stress testing of the pro forma forecast and assessment of the Bank’s capacity to raise incremental unsecured and secured funding. Stress testing, which incorporates both bank-specific, and systemic market scenarios, as well as a combination scenario that adversely affects the Bank’s liquidity position and profile, facilitates the identification of appropriate remedial measures to help ensure that the Bank maintains adequate liquidity in adverse conditions. Such measures may include extending the maturity profile of liabilities, optimizing liability levels through pricing strategies, adding new funding sources, altering dependency on certain funding sources and financing or selling assets.
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Our primary sources of liquidity are core deposits (described below), our securities portfolio and wholesale funding. Wholesale funding includes certain deposits, unsecured funds raised from interbank and other sources, both domestic and international, including both senior and subordinated debt. Also included are secured funds raised by selling securities under repurchase agreements and by borrowing from the FHLB of San Francisco. We evaluate and monitor the stability and reliability of our various funding sources to help ensure that we have sufficient liquidity in adverse circumstances. We generally view our core deposits to be relatively stable. Secured borrowings via repurchase agreements and advances from the FHLB of San Francisco are also recognized as highly reliable funding sources, and we, therefore, maintain access to these sources primarily to meet our contingency funding needs.
Core deposits, which exclude brokered deposits, foreign time deposits and domestic time deposits greater than $250,000, provide us with a sizable source of relatively stable and low-cost funds. At September 30, 2015, our core deposits totaled $74.8 billion and our total loan-to-total core deposit ratio was 102.5%. Total deposits were down $3.3 billion from $86.0 billion at December 31, 2014 to $82.7 billion at September 30, 2015. In conjunction with expected shifts in total deposits, the Company increased wholesale funding by $3.4 billion to $15.6 billion at September 30, 2015 from $12.2 billion at December 31, 2014.
The Bank and the Company maintain a variety of other funding sources, secured and unsecured, which management believes will be adequate to meet the Bank and the Company's liquidity needs, including the following:
• | The Bank has secured borrowing facilities with the FHLB of San Francisco and the Federal Reserve Bank. As of September 30, 2015, the Bank had $0.8 billion of borrowings outstanding with the FHLB of San Francisco, and the Bank had a remaining combined unused borrowing capacity from the FHLB of San Francisco and the Federal Reserve Bank of $36.6 billion. |
• | Our securities portfolio provides liquidity through either securities sales or repurchase agreements. Total unpledged securities increased by $8.2 billion to $21.2 billion at September 30, 2015 from $13.0 billion at December 31, 2014. |
• | The Bank has an $8.0 billion unsecured Bank Note Program. Available funding under the Bank Note Program was $1.9 billion at September 30, 2015. |
• | The Company has direct access to the capital markets through a shelf registration statement with the SEC. In January 2015, MUAH filed a new shelf registration statement with the SEC authorizing issuance of a total of $3.6 billion of debt and other securities, effectively terminating the prior shelf registration statement. In February 2015, MUAH issued an aggregate of $2.2 billion of senior notes from the new shelf registration statement. As of September 30, 2015, $1.4 billion of debt or other securities were available for issuance. We do not have any firm commitments in place to sell additional securities under this shelf registration statement. |
• | MUAH has access to a $500 million, three-year unsecured committed line of credit from BTMU, which is available for contingent liquidity purposes. |
We believe that these sources provide a stable funding base. As a result, we have not historically relied on BTMU for our normal funding needs. However, from time to time the Company may issue long-term debt to BTMU. In the third quarter of 2015, the Bank issued $2.5 billion in unsecured long-term debt to BTMU, consistent with the Company's objective to further strengthen its funding and liquidity profile, as well as achieve a liability structure that supports its current credit ratings profile and regulatory initiatives. MUAH subsequently issued an additional $1.0 billion in unsecured long-term debt to BTMU in October 2015, bringing the total long-term debt due to BTMU to $4.6 billion.
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Our costs and ability to raise funds in the capital markets are influenced by our credit ratings. In March 2015, Moody’s published a new bank ratings methodology that applies to all banks globally, including MUAH and its subsidiaries. Based on Moody's expectation that in 2015 the Company will achieve and maintain a liability structure consistent with features of this new methodology, Moody’s announced that it upgraded the Bank's long-term deposit rating to Aa2 from A2 and confirmed the Bank's long-term and short-term senior debt ratings at A2 and P-1, respectively. Our credit ratings could also be impacted by changes in the credit ratings of BTMU and MUFG. On October 23, 2015, Standard & Poor's placed its ratings on BTMU and MUFG on review for downgrade with expected resolution to occur within two months. As a result, the Company and its affiliates’ (including MUB’s) ratings were also placed on an equivalent review. To date, this action by Standard & Poor's has not had a significant impact on the Company's or MUB's cost of funds. For further information, including information about rating agency assessments, see “The Bank of Tokyo-Mitsubishi UFJ’s and Mitsubishi UFJ Financial Group’s credit ratings and financial or regulatory condition could adversely affect our operations” and "Our credit ratings are important in order to maintain liquidity" in Part I, Item 1A. "Risk Factors" in our 2014 Form 10-K, and in Part II, Item 1A. "Risk Factors" in this Form 10-Q.
The following table provides our credit ratings as of September 30, 2015:
MUFG Union Bank, N.A. | MUFG Americas Holdings Corporation | |||||||
Deposits | Senior Debt | Senior Debt | ||||||
Standard & Poor's | Long-term | — | A+ | A | ||||
Short-term | — | A-1 | A-1 | |||||
Moody's | Long-term | Aa2 | A2 | A3 | ||||
Short-term | P-1 | P-1 | — | |||||
Fitch | Long-term | A+ | A | A | ||||
Short-term | F1 | F1 | F1 |
In September 2014, the OCC, the Federal Reserve and the FDIC jointly adopted a final rule to implement a standardized quantitative liquidity requirement generally consistent with the LCR standards established by the BCBS. The LCR rule is designed to ensure that covered banking organizations maintain an adequate level of cash and HQLA, such as central bank reserves and government and corporate debt, to meet estimated net liquidity needs in a short-term stress scenario using liquidity inflow and outflow assumptions provided in the rule (net cash outflow). An institution’s LCR is the amount of its HQLA, as defined and calculated in accordance with the reductions and limitations in the rule, divided by its net cash outflow, with the quotient expressed as a percentage. While the LCR generally applies to banking organizations with $250 billion or more in total consolidated assets or $10 billion or more in on-balance sheet foreign exposures, the final rule applies a less stringent modified LCR to BHCs that are not internationally active, but have more than $50 billion in total assets (such as the Company). Under the modified LCR rule, financial institutions must maintain, following a phase-in period, an LCR equal to at least 100% based on the entity's total projected net cash outflows over the next 30 calendar days, effectively using net cash outflow assumptions equal to 70% of the outflow assumptions prescribed for internationally active banking organizations. The phase-in period begins on January 1, 2016, with full compliance required by January 1, 2017.
The Company expects to meet or exceed the LCR requirements within the regulatory timelines. For information regarding this rule, see "Supervision and Regulation-Regulatory Capital and Liquidity Standards-Liquidity Coverage Ratio" in Part I, Item 1. in our 2014 Form 10-K and “The effects of changes or increases in, or supervisory enforcement of, banking or other laws and regulations or governmental fiscal or monetary policies could adversely affect us” in Part I, Item 1A. “Risk Factors” in this Form 10-Q.
Operational Risk Management
Operational risk is defined as the risk of loss resulting from inadequate or failed internal processes, people and systems or from external events. This definition includes legal risk, which includes exposure to fines, penalties, or punitive damages resulting from supervisory actions, as well as private settlements, but excludes strategic and reputational risk. In particular, information security is a significant operational risk element for the Company and includes the risk of losses resulting from cyber attacks. See “We are subject to operational risks, including cybersecurity risks” in Part II, Item 1A. “Risk Factors” in this Form 10-Q. Operational risk is mitigated through a system of internal controls that are designed to keep these risks at appropriate levels.
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Business Segments
We have five reportable segments: Retail Banking & Wealth Markets, Commercial Banking, U.S. Corporate Banking, Transaction Banking and Investment Banking & Markets. For a more detailed description of these reportable segments, refer to Note 12 to our Consolidated Financial Statements included in Part I, Item 1. “Financial Statements” of this Form 10-Q. In October 2015, the management of MUFG Americas announced a realignment of its business model in the Americas, which includes MUAH. The realignment consolidates the customer base of the Commercial Banking operating segment, including its products and services, into the activities performed within various other segments. The Company will evaluate this change, along with the continuing overall impact of the MUFG Americas integrated management structure, as part of its evaluation of business segments for the year ending December 31, 2015.
Unlike U.S. Generally Accepted Accounting Principles (U.S. GAAP), there is no standardized or authoritative guidance for management accounting. Consequently, reported results are not necessarily comparable with those presented by other companies and they are not necessarily indicative of the results that would be reported by our business units if they were unique economic entities. The information set forth in the tables that follow is prepared using various management accounting methodologies to measure the performance of the individual segments. During the normal course of business, the Company occasionally changes or updates its management accounting methodologies or organizational structure. The Company also continued to refine its organizational structure resulting from the MUFG Americas internal management structure implemented as part of the business integration initiative. In addition, effective January 1, 2015, the Company adopted ASU 2014-01, "Investments - Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Qualified Affordable Housing Projects", which was required to be applied retrospectively upon adoption. These investments are part of our Commercial Banking segment. Prior period results have been adjusted to reflect these changes. For a description of these methodologies, see Note 12 to our Consolidated Financial Statements included in Part I, Item 1. “Financial Statements” of this Form 10-Q.
Retail Banking & Wealth Markets
Retail Banking & Wealth Markets offers a range of banking products and services to individuals and small businesses, including high net worth individuals and institutional clients, delivered generally through a network of branches, private banking offices, ATMs, broker mortgage referrals, telephone services, and web-based and mobile banking applications. These products and services include mortgages, home equity lines of credit, consumer and commercial loans, deposit accounts, financial planning and investments.
The following table sets forth the results for the Retail Banking & Wealth Markets segment:
Retail Banking & Wealth Markets | ||||||||||||||||||||||||||||||||
For the Three Months Ended September 30, | Increase (Decrease) | For the Nine Months Ended September 30, | Increase (Decrease) | |||||||||||||||||||||||||||||
(Dollars in millions) | 2015 | 2014 | Amount | Percent | 2015 | 2014 | Amount | Percent | ||||||||||||||||||||||||
Results of operations - Market View | ||||||||||||||||||||||||||||||||
Net interest income | $ | 332 | $ | 340 | $ | (8 | ) | (2 | ) | % | $ | 977 | $ | 1,049 | $ | (72 | ) | (7 | ) | % | ||||||||||||
Noninterest income | 96 | 83 | 13 | 16 | 265 | 249 | 16 | 6 | ||||||||||||||||||||||||
Total revenue | 428 | 423 | 5 | 1 | 1,242 | 1,298 | (56 | ) | (4 | ) | ||||||||||||||||||||||
Noninterest expense | 348 | 329 | 19 | 6 | 1,063 | 1,005 | 58 | 6 | ||||||||||||||||||||||||
(Reversal of) provision for credit losses | 1 | (1 | ) | 2 | (200 | ) | 9 | (9 | ) | 18 | (200 | ) | ||||||||||||||||||||
Income before income taxes and including noncontrolling interests | 79 | 95 | (16 | ) | (17 | ) | 170 | 302 | (132 | ) | (44 | ) | ||||||||||||||||||||
Income tax expense | 31 | 38 | (7 | ) | (18 | ) | 66 | 119 | (53 | ) | (45 | ) | ||||||||||||||||||||
Net income attributable to MUAH | $ | 48 | $ | 57 | $ | (9 | ) | (16 | ) | $ | 104 | $ | 183 | $ | (79 | ) | (43 | ) | ||||||||||||||
Average balances - Market View | ||||||||||||||||||||||||||||||||
Total loans held for investment | $ | 34,848 | $ | 35,118 | $ | (270 | ) | (1 | ) | % | $ | 35,436 | $ | 34,194 | $ | 1,242 | 4 | % | ||||||||||||||
Total assets | 36,748 | 36,711 | 37 | — | 37,145 | 35,779 | 1,366 | 4 | ||||||||||||||||||||||||
Total deposits | 40,700 | 40,278 | 422 | 1 | 40,530 | 40,286 | 244 | 1 |
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Net interest income during the third quarter of 2015 decreased primarily due to lower loan yields compared with the third quarter of 2014. Net interest income for the nine months ended September 30, 2015 was lower than the prior year period primarily due to lower income on PCI loans and a decrease in loan yields, partially offset by an increase in average loans held for investment. Noninterest income increased primarily due to a gain on the sale of residential mortgages in the third quarter of 2015. Noninterest expense increased during the nine months ended September 30, 2015 partially due to a one-time contract termination fee during the second quarter of 2015.
Commercial Banking
Commercial Banking provides a broad spectrum of commercial credit products including commercial loans, accounts receivable, inventory, trade and real estate financing to primarily U.S. based corporate customers with annual sales generally ranging from $20 million to $2 billion. Commercial Banking offers its customers a range of noncredit services and products, which include global treasury management and capital markets solutions, foreign exchange and various interest rate risk and commodity risk management products through cooperation with other segments. Commercial Banking serves clients nationwide in various industries as well as select sector verticals through dedicated specialty groups including Oil & Gas, Entertainment, Environmental Industries, Transportation, Aerospace/Defense and Funds Finance.
The following table sets forth the results for the Commercial Banking segment:
Commercial Banking | ||||||||||||||||||||||||||||||||
For the Three Months Ended September 30, | Increase (Decrease) | For the Nine Months Ended September 30, | Increase (Decrease) | |||||||||||||||||||||||||||||
(Dollars in millions) | 2015 | 2014 | Amount | Percent | 2015 | 2014 | Amount | Percent | ||||||||||||||||||||||||
Results of operations - Market View | ||||||||||||||||||||||||||||||||
Net interest income | $ | 235 | $ | 242 | $ | (7 | ) | (3 | ) | % | $ | 706 | $ | 746 | $ | (40 | ) | (5 | ) | % | ||||||||||||
Noninterest income | 46 | 55 | (9 | ) | (16 | ) | 136 | 155 | (19 | ) | (12 | ) | ||||||||||||||||||||
Total revenue | 281 | 297 | (16 | ) | (5 | ) | 842 | 901 | (59 | ) | (7 | ) | ||||||||||||||||||||
Noninterest expense | 97 | 92 | 5 | 5 | 282 | 262 | 20 | 8 | ||||||||||||||||||||||||
(Reversal of) provision for credit losses | 8 | 5 | 3 | 60 | 41 | 11 | 30 | 273 | ||||||||||||||||||||||||
Income before income taxes and including noncontrolling interests | 176 | 200 | (24 | ) | (12 | ) | 519 | 628 | (109 | ) | (17 | ) | ||||||||||||||||||||
Income tax expense | 51 | 62 | (11 | ) | (18 | ) | 152 | 201 | (49 | ) | (24 | ) | ||||||||||||||||||||
Net income attributable to MUAH | $ | 125 | $ | 138 | $ | (13 | ) | (9 | ) | $ | 367 | $ | 427 | $ | (60 | ) | (14 | ) | ||||||||||||||
Average balances - Market View | ||||||||||||||||||||||||||||||||
Total loans held for investment | $ | 34,214 | $ | 31,462 | $ | 2,752 | 9 | % | $ | 34,319 | $ | 30,123 | $ | 4,196 | 14 | % | ||||||||||||||||
Total assets | 37,142 | 34,422 | 2,720 | 8 | 37,265 | 33,067 | 4,198 | 13 | ||||||||||||||||||||||||
Total deposits | 13,170 | 13,097 | 73 | 1 | 12,968 | 12,902 | 66 | 1 |
Net interest income decreased during the three and nine months ended September 30, 2015, compared with the same periods in the prior year, due to lower income on PCI loans, as well as a decrease in loan yields, partially offset by an increase in average loans held for investment. Noninterest income decreased primarily due to a decrease in syndication fees, included within merchant banking fees, and, during the nine months ended September 30, 2015, due to a decrease in trading account activities. The provision for credit losses during the nine months ended September 30, 2015 reflected higher reserves for the oil and gas sector and net charge-offs, partially offset by lower reserves required for other portfolio sectors.
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U.S. Corporate Banking
U.S. Corporate Banking provides commercial lending products, including commercial loans, lines of credit and project financing, to corporate customers with annual revenues generally greater than $2 billion. The segment employs an industry-focused strategy including dedicated coverage teams in General Industries, Power and Utilities, Oil and Gas, Telecom and Media, Technology, Healthcare and Nonprofit, Public Finance and Financial Institutions (predominantly Insurance and Asset Managers). By working with the Company's other segments, U.S. Corporate Banking offers its customers a range of noncredit services, which include global treasury management, capital market solutions, and various foreign exchange, interest rate, and commodity risk management products.
The following table sets forth the results for the U.S. Corporate Banking segment:
U.S. Corporate Banking | ||||||||||||||||||||||||||||||||
For the Three Months Ended September 30, | Increase (Decrease) | For the Nine Months Ended September 30, | Increase (Decrease) | |||||||||||||||||||||||||||||
(Dollars in millions) | 2015 | 2014 | Amount | Percent | 2015 | 2014 | Amount | Percent | ||||||||||||||||||||||||
Results of operations - Market View | ||||||||||||||||||||||||||||||||
Net interest income | $ | 54 | $ | 53 | $ | 1 | 2 | % | $ | 162 | $ | 143 | $ | 19 | 13 | % | ||||||||||||||||
Noninterest income | 39 | 46 | (7 | ) | (15 | ) | 121 | 92 | 29 | 32 | ||||||||||||||||||||||
Total revenue | 93 | 99 | (6 | ) | (6 | ) | 283 | 235 | 48 | 20 | ||||||||||||||||||||||
Noninterest expense | 46 | 42 | 4 | 10 | 138 | 77 | 61 | 79 | ||||||||||||||||||||||||
(Reversal of) provision for credit losses | 4 | (4 | ) | 8 | (200 | ) | (10 | ) | (12 | ) | 2 | 17 | ||||||||||||||||||||
Income before income taxes and including noncontrolling interests | 43 | 61 | (18 | ) | (30 | ) | 155 | 170 | (15 | ) | (9 | ) | ||||||||||||||||||||
Income tax expense | 17 | 24 | (7 | ) | (29 | ) | 61 | 67 | (6 | ) | (9 | ) | ||||||||||||||||||||
Net income attributable to MUAH | $ | 26 | $ | 37 | $ | (11 | ) | (30 | ) | $ | 94 | $ | 103 | $ | (9 | ) | (9 | ) | ||||||||||||||
Average balances - Market View | ||||||||||||||||||||||||||||||||
Total loans held for investment | $ | 6,435 | $ | 5,508 | $ | 927 | 17 | % | $ | 6,242 | $ | 5,432 | $ | 810 | 15 | % | ||||||||||||||||
Total assets | 7,636 | 6,751 | 885 | 13 | 7,441 | 6,650 | 791 | 12 | ||||||||||||||||||||||||
Total deposits | 6,001 | 4,746 | 1,255 | 26 | 6,134 | 4,343 | 1,791 | 41 |
Net interest income increased primarily due to a larger funds transfer pricing credit as a result of an increase in deposit balances from the Public Finance sector. Noninterest income for third quarter of 2015 was lower than the comparative 2014 period due to decreases in credit facility fees and syndication fees, which are included within merchant banking fees. Noninterest income and noninterest expense for the nine months ended September 30, 2015 increased compared with the same period in the prior year, primarily due to fee income and related expenses associated with the business integration initiative. The nine months ended September 30, 2015 reflects nine months of fees from affiliates and related costs compared with 2014, which reflects three months of fees from affiliates and related costs due to the business integration initiative effective date of July 1, 2014.
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Transaction Banking
Transaction Banking works alongside the Company's other segments to provide working capital management and asset servicing solutions, including deposits and treasury management, trade finance, and institutional trust and custody, to the Company's customers. This segment also manages the digital banking channels for retail, small business, wealth management and commercial clients, as well as commercial product development. The client base consists of financial institutions, corporations, government agencies, insurance companies, mutual funds, investment managers and non-profit organizations.
The following table sets forth the results for the Transaction Banking segment:
Transaction Banking | ||||||||||||||||||||||||||||||||
For the Three Months Ended September 30, | Increase (Decrease) | For the Nine Months Ended September 30, | Increase (Decrease) | |||||||||||||||||||||||||||||
(Dollars in millions) | 2015 | 2014 | Amount | Percent | 2015 | 2014 | Amount | Percent | ||||||||||||||||||||||||
Results of operations - Market View | ||||||||||||||||||||||||||||||||
Net interest income | $ | 114 | $ | 110 | $ | 4 | 4 | % | $ | 340 | $ | 324 | $ | 16 | 5 | % | ||||||||||||||||
Noninterest income | 47 | 44 | 3 | 7 | 139 | 123 | 16 | 13 | ||||||||||||||||||||||||
Total revenue | 161 | 154 | 7 | 5 | 479 | 447 | 32 | 7 | ||||||||||||||||||||||||
Noninterest expense | 108 | 91 | 17 | 19 | 312 | 266 | 46 | 17 | ||||||||||||||||||||||||
(Reversal of) provision for credit losses | — | (6 | ) | 6 | (100 | ) | 1 | (3 | ) | 4 | (133 | ) | ||||||||||||||||||||
Income before income taxes and including noncontrolling interests | 53 | 69 | (16 | ) | (23 | ) | 166 | 184 | (18 | ) | (10 | ) | ||||||||||||||||||||
Income tax expense | 20 | 27 | (7 | ) | (26 | ) | 65 | 72 | (7 | ) | (10 | ) | ||||||||||||||||||||
Net income attributable to MUAH | $ | 33 | $ | 42 | $ | (9 | ) | (21 | ) | $ | 101 | $ | 112 | $ | (11 | ) | (10 | ) | ||||||||||||||
Average balances - Market View | ||||||||||||||||||||||||||||||||
Total loans held for investment | $ | 65 | $ | 101 | $ | (36 | ) | (36 | ) | % | $ | 52 | $ | 149 | $ | (97 | ) | (65 | ) | % | ||||||||||||
Total assets | 1,793 | 1,760 | 33 | 2 | 1,767 | 1,644 | 123 | 7 | ||||||||||||||||||||||||
Total deposits | 35,139 | 34,500 | 639 | 2 | 35,807 | 32,895 | 2,912 | 9 |
Transaction Banking earns revenue primarily from a net interest income funds transfer pricing credit on deposit liabilities, service charges on deposit accounts and trust management fees. The nine months ended September 30, 2015 reflects nine months of fees from affiliates and related costs compared with 2014, which reflects three months of fees from affiliates and related costs due to the business integration initiative effective date of July 1, 2014.
38
Investment Banking & Markets
Investment Banking & Markets, which includes Global Capital Markets of the Americas, works with the Company's other segments to provide customers structured credit services, including project finance, leasing and equipment finance, and securitizations. Investment Banking & Markets also provides capital markets solutions, including syndicated loans, equity and debt underwriting, tax equity and merchant banking investments; risk management solutions, including foreign exchange, interest rate and energy risk management solutions; and facilitates merchant and investment banking-related transactions.
The following table sets forth the results for the Investment Banking & Markets segment:
Investment Banking & Markets | ||||||||||||||||||||||||||||||||
For the Three Months Ended September 30, | Increase (Decrease) | For the Nine Months Ended September 30, | Increase (Decrease) | |||||||||||||||||||||||||||||
(Dollars in millions) | 2015 | 2014 | Amount | Percent | 2015 | 2014 | Amount | Percent | ||||||||||||||||||||||||
Results of operations - Market View | ||||||||||||||||||||||||||||||||
Net interest income | $ | 33 | $ | 45 | $ | (12 | ) | (27 | ) | % | $ | 104 | $ | 134 | $ | (30 | ) | (22 | ) | % | ||||||||||||
Noninterest income | 70 | 138 | (68 | ) | (49 | ) | 247 | 245 | 2 | 1 | ||||||||||||||||||||||
Total revenue | 103 | 183 | (80 | ) | (44 | ) | 351 | 379 | (28 | ) | (7 | ) | ||||||||||||||||||||
Noninterest expense | 58 | 54 | 4 | 7 | 173 | 109 | 64 | 59 | ||||||||||||||||||||||||
(Reversal of) provision for credit losses | (1 | ) | (8 | ) | 7 | 88 | (24 | ) | 23 | (47 | ) | (204 | ) | |||||||||||||||||||
Income before income taxes and including noncontrolling interests | 46 | 137 | (91 | ) | (66 | ) | 202 | 247 | (45 | ) | (18 | ) | ||||||||||||||||||||
Income tax expense | 7 | 42 | (35 | ) | (83 | ) | 41 | 63 | (22 | ) | (35 | ) | ||||||||||||||||||||
Net income attributable to MUAH | $ | 39 | $ | 95 | $ | (56 | ) | (59 | ) | $ | 161 | $ | 184 | $ | (23 | ) | (13 | ) | ||||||||||||||
Average balances - Market View | ||||||||||||||||||||||||||||||||
Total loans held for investment | $ | 3,499 | $ | 4,026 | $ | (527 | ) | (13 | ) | % | $ | 3,590 | $ | 4,057 | $ | (467 | ) | (12 | ) | % | ||||||||||||
Total assets | 6,113 | 6,825 | (712 | ) | (10 | ) | 6,183 | 6,624 | (441 | ) | (7 | ) | ||||||||||||||||||||
Total deposits | 2,724 | 3,270 | (546 | ) | (17 | ) | 2,793 | 3,406 | (613 | ) | (18 | ) |
Net interest income decreased as a result of lower average loan balances as well as a lower funds transfer pricing credit due to a decrease in deposit balances. Noninterest income decreased during the three months ended September 30, 2015 and increased during the nine months ended September 30, 2015 compared with the same periods in the prior year. Fees from affiliates were lower during third quarter of 2015, but higher during the nine months ended September 30, 2015 compared with the same periods in 2014. The nine months ended September 30, 2015 reflects nine months of fees from affiliates compared with 2014, which reflects three months of fees from affiliates due to the business integration initiative effective date of July 1, 2014. Trading account activities and merchant banking fees were lower in both periods during 2015. Prior year merchant banking fees included a one-time large syndication in the third quarter of 2014. Noninterest expense increased primarily due to expenses associated with the business integration initiative. The provision for credit losses decreased for the nine months ended September 30, 2015 as the result of a net overall improvement in customer credit quality.
39
Other
"Other" is comprised of certain corporate activities of the Company; the funds transfer pricing center and credits allocated to the reportable segments; the residual costs of support groups; the unallocated allowance; goodwill, intangible assets, and the related amortization/accretion associated with the Company's privatization transaction; the elimination of the fully taxable-equivalent basis amount; and the difference between the marginal tax rate and the consolidated effective tax rate. In addition, "Other" includes the Asian Corporate Banking segment, which offers a range of credit, deposit, and investment management products and services to companies located primarily in the U.S. that are affiliated with companies headquartered in Japan and other Asian countries; Corporate Treasury, which is responsible for ALM, wholesale funding, and the ALM investment securities and derivatives hedging portfolios; and the FDIC covered assets.
The following table sets forth the results for Other:
Other | ||||||||||||||||||||||||||||||||
For the Three Months Ended September 30, | Increase (Decrease) | For the Nine Months Ended September 30, | Increase (Decrease) | |||||||||||||||||||||||||||||
(Dollars in millions) | 2015 | 2014 | Amount | Percent | 2015 | 2014 | Amount | Percent | ||||||||||||||||||||||||
Results of operations - Market View | ||||||||||||||||||||||||||||||||
Net interest income | $ | 36 | $ | 19 | $ | 17 | 89 | % | $ | 113 | $ | 47 | $ | 66 | 140 | % | ||||||||||||||||
Noninterest income | 149 | 86 | 63 | 73 | 360 | 73 | 287 | 393 | ||||||||||||||||||||||||
Total revenue | 185 | 105 | 80 | 76 | 473 | 120 | 353 | 294 | ||||||||||||||||||||||||
Noninterest expense | 244 | 197 | 47 | 24 | 717 | 421 | 296 | 70 | ||||||||||||||||||||||||
(Reversal of) provision for credit losses | 6 | 6 | — | — | 14 | 7 | 7 | 100 | ||||||||||||||||||||||||
Income before income taxes and including noncontrolling interests | (65 | ) | (98 | ) | 33 | 34 | (258 | ) | (308 | ) | 50 | 16 | ||||||||||||||||||||
Income tax expense | (22 | ) | (53 | ) | 31 | 58 | (93 | ) | (150 | ) | 57 | 38 | ||||||||||||||||||||
Net income (loss) including noncontrolling interests | (43 | ) | (45 | ) | 2 | 4 | (165 | ) | (158 | ) | (7 | ) | (4 | ) | ||||||||||||||||||
Deduct: net loss from noncontrolling interests | 21 | 5 | 16 | 320 | 32 | 14 | 18 | 129 | ||||||||||||||||||||||||
Net income attributable to MUAH | $ | (22 | ) | $ | (40 | ) | $ | 18 | 45 | $ | (133 | ) | $ | (144 | ) | $ | 11 | 8 | ||||||||||||||
Average balances - Market View | ||||||||||||||||||||||||||||||||
Total loans held for investment | $ | 280 | $ | 286 | $ | (6 | ) | (2 | ) | % | $ | 259 | $ | 293 | $ | (34 | ) | (12 | ) | % | ||||||||||||
Total assets | 27,887 | 27,027 | 860 | 3 | 27,202 | 27,738 | (536 | ) | (2 | ) | ||||||||||||||||||||||
Total deposits | 6,271 | 5,978 | 293 | 5 | 5,895 | 6,453 | (558 | ) | (9 | ) |
Net interest income increased due to higher ALM investment securities balances and the impact of the ALM derivative hedging portfolio. Noninterest income and noninterest expense increased primarily due to fee income and related expenses associated with the business integration initiative. The provision for credit losses increased primarily due to charge-offs in our FDIC covered assets portfolio which is included in Other.
40
Critical Accounting Estimates
MUAH’s Consolidated Financial Statements are prepared in accordance with U.S. GAAP, which include management estimates and judgments. The financial information contained within our statements is, to a significant extent, financial information that is based on approximate measures of the financial effects of transactions and events that have already occurred. A variety of factors could affect the ultimate value that is obtained either when earning income, recognizing an expense, recovering an asset or relieving a liability. For example, we use discount factors and other assumptions to measure certain assets and liabilities. A change in the discount factor or other important assumptions could significantly increase or decrease the reported amounts of those assets and liabilities and result in either a beneficial or an adverse impact to our financial results. We use historical loss factors, adjusted for current conditions, to estimate the credit loss inherent in our loan and lease portfolios held for investment and certain off-balance sheet commitments on the balance sheet date. Actual losses could differ significantly from the loss factors that we use. Other significant estimates that we use include the valuation of certain derivatives and securities, the expected cash flows related to our acquired loans, the assumptions used in measuring our pension obligations, transfer pricing and assumptions regarding our effective tax rates.
For each financial reporting period, our most significant estimates are presented to and discussed with the Audit & Finance Committee of our Board of Directors.
Understanding our accounting policies is fundamental to understanding our consolidated financial condition and consolidated results of operations. Accordingly, both our critical accounting estimates and our significant accounting policies are discussed in detail in our 2014 Form 10-K. There have been no material changes to these critical accounting estimates during the third quarter of 2015.
Disclosure of Iranian Activities under Section 13(r) of the Securities Exchange Act of 1934
We are disclosing the following information pursuant to Section 13(r) of the Securities Exchange Act of 1934 (Exchange Act), which requires an issuer to disclose whether it or any of its affiliates knowingly engaged in certain activities, transactions or dealings relating to Iran or with natural persons or entities designated by the U.S. government under specified Executive Orders. The scope of activities that must be reported includes activities not prohibited by U.S. law and conducted outside the United States in compliance with applicable local law. Because we are indirectly wholly-owned by MUFG, a Japanese corporation, our disclosure includes activities, transactions or dealings conducted outside the United States by non-U.S. affiliates of MUFG which are not controlled by us. We have requested that MUFG provide us a description of reportable activity under Section 13(r) and have received the following information:
During the quarter ended September 30, 2015, a non-U.S. affiliate of MUFG engaged in business activities with entities in or affiliated with Iran, including counterparties owned or controlled by the Iranian government. These activities were consistent with rules and regulations applicable to MUFG’s non-U.S. affiliate. Specifically, MUFG’s non-U.S. banking subsidiary, BTMU, issued letters of credit and guarantees and provided remittance and other settlement services mainly in connection with customer transactions related to the purchase and exportation of Iranian crude oil to Japan, and in some cases, in connection with other petroleum-related transactions with Iran by its customers. These transactions did not involve U.S. dollars nor clearing services of U.S. banks for the settlement of payments, and were reviewed for compliance with applicable U.S. and non-U.S. laws and regulations. For the quarter ended September 30, 2015, the aggregate interest and fee income relating to these transactions was less than ¥25 million, representing less than 0.005 percent of MUFG’s total interest and fee income. Some of these transactions were conducted through the use of non-U.S. dollar correspondent accounts and other similar settlement accounts maintained with BTMU outside the United States by Iranian financial institutions and other entities in or affiliated with Iran. In addition to such accounts, BTMU receives deposits in Japan from and provides settlement services in Japan to fewer than ten Iranian government-related entities and fewer than 100 Iranian government-related individuals such as Iranian diplomats, and maintains settlement accounts outside the United States for certain other financial institutions specified in Executive Order 13382, which settlement accounts were frozen in accordance with applicable laws and regulations. For the quarter ended September 30, 2015, the average aggregate balance of deposits held in these accounts represented less than 0.05 percent of the average balance of MUFG’s total deposits. The fee income from the transactions attributable to these account holders was less than ¥1 million, representing less than 0.001 percent of MUFG’s total fee income. BTMU also holds loans that were arranged prior to changes in applicable
41
laws and regulations to borrowers in or affiliated with Iran, including entities owned by the Iranian government, the outstanding balance of which was less than ¥200 million, representing less than 0.001 percent of MUFG’s total loans, as of September 30, 2015. For the quarter ended September 30, 2015, the aggregate gross interest and fee income relating to these loan transactions was less than ¥20 million, representing less than 0.005 percent of MUFG’s total interest and fee income.
In addition, in accordance with the Joint Plan of Action agreed to among the P5+1 (the United States, United Kingdom, Germany, France, Russia and China) and Iran in November 2013, BTMU has been providing settlement services in connection with humanitarian trade to assist Iran in meeting its domestic needs, namely food, agricultural products, medicine and medical devices, since April 2014. The overall framework for these settlement services was based on an agreement between U.S. and Japanese authorities, and the relevant U.S. regulator has authorized the settlement services as compliant with applicable U.S. laws and regulations. The purchasers of the humanitarian goods were entities in or affiliated with Iran, including entities related to the Iranian government. The sellers of the humanitarian goods were entities permitted by U.S. and Japanese regulators. These transactions did not involve U.S. dollars nor clearing services of U.S. banks for the settlement of payments. These transactions were conducted through the use of special purpose yen accounts maintained with BTMU outside the United States by an Iranian financial institution which is affiliated with the Iranian government but through which these transactions were permitted to be settled. We understand that BTMU intends to continue to provide the settlement services in connection with the exports of humanitarian goods to Iran in close coordination with U.S. and Japanese authorities.
We understand that BTMU will continue to limit its participation in these types of transactions mainly to arrange financing transactions relating to customer imports of Iranian crude oil into Japan or authorized exports of humanitarian goods to Iran, maintain accounts in Japan of Iranian entities and individuals, and obtain interest and fee income and repayment of principal in connection with existing loans to borrowers in or affiliated with Iran, in each case to the extent permitted by applicable laws and regulations.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
A discussion of our market risk exposure is incorporated by reference to Part I, Item 2. of this Form 10-Q under the caption “Risk Management - Market Risk Management” and to Part II, Item 1A. of this Form 10-Q under the caption “Risk Factors.”
Item 4. Controls and Procedures
Disclosure Controls and Procedures. Our Chief Executive Officer (principal executive officer) and Chief Financial Officer (principal financial officer) have concluded that the design and operation of our disclosure controls and procedures are effective as of September 30, 2015. This conclusion is based on an evaluation conducted under the supervision, and with the participation, of management. Disclosure controls and procedures are those controls and procedures that are designed to ensure that information required to be disclosed in this filing is recorded, processed, summarized and reported in a timely manner and in accordance with the SEC’s rules and regulations and to ensure that such information is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.
Internal Control Over Financial Reporting. During the third quarter of 2015, there were no changes in our internal control over financial reporting that materially affected, or were reasonably likely to materially affect, our internal control over financial reporting.
42
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
MUFG Americas Holdings Corporation and Subsidiaries
Consolidated Statements of Income
(Unaudited)
For the Three Months Ended September 30, | For the Nine Months Ended September 30, | |||||||||||||||
(Dollars in millions) | 2015 | 2014 | 2015 | 2014 | ||||||||||||
Interest Income | ||||||||||||||||
Loans | $ | 688 | $ | 693 | $ | 2,066 | $ | 2,109 | ||||||||
Securities | 116 | 113 | 339 | 343 | ||||||||||||
Other | 5 | 2 | 10 | 10 | ||||||||||||
Total interest income | 809 | 808 | 2,415 | 2,462 | ||||||||||||
Interest Expense | ||||||||||||||||
Deposits | 48 | 58 | 150 | 181 | ||||||||||||
Commercial paper and other short-term borrowings | 3 | 1 | 6 | 4 | ||||||||||||
Long-term debt | 53 | 42 | 152 | 124 | ||||||||||||
Total interest expense | 104 | 101 | 308 | 309 | ||||||||||||
Net Interest Income | 705 | 707 | 2,107 | 2,153 | ||||||||||||
Provision for credit losses | 18 | 1 | 36 | 7 | ||||||||||||
Net interest income after provision for credit losses | 687 | 706 | 2,071 | 2,146 | ||||||||||||
Noninterest Income | ||||||||||||||||
Service charges on deposit accounts | 49 | 52 | 147 | 153 | ||||||||||||
Trust and investment management fees | 27 | 26 | 81 | 78 | ||||||||||||
Trading account activities | 7 | 33 | 34 | 63 | ||||||||||||
Securities gains, net | 6 | 13 | 14 | 16 | ||||||||||||
Credit facility fees | 27 | 30 | 87 | 89 | ||||||||||||
Merchant banking fees | 22 | 38 | 62 | 89 | ||||||||||||
Brokerage commissions and fees | 13 | 14 | 40 | 40 | ||||||||||||
Card processing fees, net | 8 | 8 | 25 | 25 | ||||||||||||
Fees from affiliates | 185 | 151 | 543 | 151 | ||||||||||||
Other, net | 53 | 23 | 84 | 67 | ||||||||||||
Total noninterest income | 397 | 388 | 1,117 | 771 | ||||||||||||
Noninterest Expense | ||||||||||||||||
Salaries and employee benefits | 557 | 492 | 1,679 | 1,258 | ||||||||||||
Net occupancy and equipment | 79 | 74 | 234 | 220 | ||||||||||||
Professional and outside services | 78 | 66 | 219 | 184 | ||||||||||||
Intangible asset amortization | 10 | 13 | 30 | 39 | ||||||||||||
Regulatory assessments | 11 | 13 | 38 | 44 | ||||||||||||
Other | 120 | 106 | 347 | 281 | ||||||||||||
Total noninterest expense | 855 | 764 | 2,547 | 2,026 | ||||||||||||
Income before income taxes and including noncontrolling interests | 229 | 330 | 641 | 891 | ||||||||||||
Income tax expense | 64 | 88 | 169 | 242 | ||||||||||||
Net Income Including Noncontrolling Interests | 165 | 242 | 472 | 649 | ||||||||||||
Deduct: Net loss from noncontrolling interests | 21 | 5 | 32 | 14 | ||||||||||||
Net Income Attributable to MUAH | $ | 186 | $ | 247 | $ | 504 | $ | 663 |
See accompanying notes to consolidated financial statements.
43
MUFG Americas Holdings Corporation and Subsidiaries
Consolidated Statements of Comprehensive Income
(Unaudited)
For the Three Months Ended September 30, | For the Nine Months Ended September 30, | ||||||||||||||
(Dollars in millions) | 2015 | 2014 | 2015 | 2014 | |||||||||||
Net Income Attributable to MUAH | $ | 186 | $ | 247 | $ | 504 | $ | 663 | |||||||
Other Comprehensive Income (Loss), Net of Tax: | |||||||||||||||
Net change in unrealized gains (losses) on cash flow hedges | 84 | (40 | ) | 106 | (24 | ) | |||||||||
Net change in unrealized gains (losses) on investment securities | 47 | (22 | ) | 66 | 133 | ||||||||||
Foreign currency translation adjustment | (6 | ) | (3 | ) | (11 | ) | (3 | ) | |||||||
Pension and other postretirement benefit adjustments | 16 | 7 | 43 | 19 | |||||||||||
Total other comprehensive income (loss) | 141 | (58 | ) | 204 | 125 | ||||||||||
Comprehensive Income (Loss) Attributable to MUAH | 327 | 189 | 708 | 788 | |||||||||||
Comprehensive loss from noncontrolling interests | (21 | ) | (5 | ) | (32 | ) | (14 | ) | |||||||
Total Comprehensive Income (Loss) | $ | 306 | $ | 184 | $ | 676 | $ | 774 |
See accompanying notes to consolidated financial statements.
44
MUFG Americas Holdings Corporation and Subsidiaries
Consolidated Balance Sheets
(Unaudited)
(Dollars in millions, except per share amount) | September 30, 2015 | December 31, 2014 | ||||||
Assets | ||||||||
Cash and due from banks | $ | 1,596 | $ | 1,759 | ||||
Interest bearing deposits in banks | 2,692 | 3,930 | ||||||
Federal funds sold and securities purchased under resale agreements | 86 | 62 | ||||||
Total cash and cash equivalents | 4,374 | 5,751 | ||||||
Trading account assets | 1,200 | 1,114 | ||||||
Securities available for sale | 14,355 | 13,724 | ||||||
Securities held to maturity (Fair value $10,528 at September 30, 2015 and $8,412 at December 31, 2014) | 10,341 | 8,291 | ||||||
Loans held for investment | 76,641 | 76,804 | ||||||
Allowance for loan losses | (547 | ) | (537 | ) | ||||
Loans held for investment, net | 76,094 | 76,267 | ||||||
Premises and equipment, net | 607 | 621 | ||||||
Goodwill | 3,225 | 3,225 | ||||||
Other assets | 4,961 | 4,630 | ||||||
Total assets | $ | 115,157 | $ | 113,623 | ||||
Liabilities | ||||||||
Deposits: | ||||||||
Noninterest bearing | $ | 31,869 | $ | 30,534 | ||||
Interest bearing | 50,824 | 55,470 | ||||||
Total deposits | 82,693 | 86,004 | ||||||
Commercial paper and other short-term borrowings | 2,338 | 2,704 | ||||||
Long-term debt | 11,357 | 6,972 | ||||||
Trading account liabilities | 891 | 894 | ||||||
Other liabilities | 2,060 | 1,897 | ||||||
Total liabilities | 99,339 | 98,471 | ||||||
Commitments, contingencies and guarantees—See Note 11 | ||||||||
Equity | ||||||||
MUAH stockholder's equity: | ||||||||
Preferred stock: | ||||||||
Authorized 5,000,000 shares; no shares issued or outstanding | — | — | ||||||
Common stock, par value $1 per share: | ||||||||
Authorized 300,000,000 shares, 136,330,831 shares issued and outstanding as of September 30, 2015 and December 31, 2014 | 136 | 136 | ||||||
Additional paid-in capital | 7,224 | 7,232 | ||||||
Retained earnings | 8,786 | 8,283 | ||||||
Accumulated other comprehensive loss | (525 | ) | (729 | ) | ||||
Total MUAH stockholder's equity | 15,621 | 14,922 | ||||||
Noncontrolling interests | 197 | 230 | ||||||
Total equity | 15,818 | 15,152 | ||||||
Total liabilities and equity | $ | 115,157 | $ | 113,623 |
See accompanying notes to consolidated financial statements.
45
MUFG Americas Holdings Corporation and Subsidiaries
Consolidated Statements of Changes in Stockholder's Equity
(Unaudited)
MUAH Stockholder's Equity | ||||||||||||||||||||||||
(Dollars in millions) | Common Stock | Additional Paid-in Capital | Retained Earnings | Accumulated Other Comprehensive Income (Loss) | Noncontrolling Interests | Total Equity | ||||||||||||||||||
Beginning Balance at December 31, 2013 | $ | 136 | $ | 7,191 | $ | 7,512 | $ | (624 | ) | $ | 253 | $ | 14,468 | |||||||||||
Cumulative effect from change in accounting principle for LIHC investments (1) | — | — | (54 | ) | — | — | (54 | ) | ||||||||||||||||
Adjusted Beginning Balance December 31, 2013 | 136 | 7,191 | 7,458 | (624 | ) | 253 | 14,414 | |||||||||||||||||
Net income (loss) | — | — | 663 | — | (14 | ) | 649 | |||||||||||||||||
Other comprehensive income (loss), net of tax | — | — | — | 125 | — | 125 | ||||||||||||||||||
Compensation—restricted stock units | — | 1 | — | — | — | 1 | ||||||||||||||||||
Capital contribution from BTMU | — | 31 | — | — | — | 31 | ||||||||||||||||||
Other | — | — | 9 | — | — | 9 | ||||||||||||||||||
Net change | — | 32 | 672 | 125 | (14 | ) | 815 | |||||||||||||||||
Balance September 30, 2014 | $ | 136 | $ | 7,223 | $ | 8,130 | $ | (499 | ) | $ | 239 | $ | 15,229 | |||||||||||
Beginning Balance December 31, 2014 | $ | 136 | $ | 7,232 | $ | 8,346 | $ | (729 | ) | $ | 230 | $ | 15,215 | |||||||||||
Cumulative effect from change in accounting principle for LIHC investments (1) | — | — | (63 | ) | — | — | (63 | ) | ||||||||||||||||
Adjusted Beginning Balance December 31, 2014 | 136 | 7,232 | 8,283 | (729 | ) | 230 | 15,152 | |||||||||||||||||
Net income (loss) | — | — | 504 | — | (32 | ) | 472 | |||||||||||||||||
Other comprehensive income (loss), net of tax | — | — | — | 204 | — | 204 | ||||||||||||||||||
Compensation—restricted stock units | — | (8 | ) | (1 | ) | — | — | (9 | ) | |||||||||||||||
Other | — | — | — | — | (1 | ) | (1 | ) | ||||||||||||||||
Net change | — | (8 | ) | 503 | 204 | (33 | ) | 666 | ||||||||||||||||
Balance September 30, 2015 | $ | 136 | $ | 7,224 | $ | 8,786 | $ | (525 | ) | $ | 197 | $ | 15,818 |
(1) |
See accompanying notes to consolidated financial statements.
46
MUFG Americas Holdings Corporation and Subsidiaries
Consolidated Statements of Cash Flows
(Unaudited)
For the Nine Months Ended September 30, | ||||||||
(Dollars in millions) | 2015 | 2014 | ||||||
Cash Flows from Operating Activities: | ||||||||
Net income including noncontrolling interests | $ | 472 | $ | 649 | ||||
Adjustments to reconcile net income to net cash provided by (used in) operating activities: | ||||||||
Provision for credit losses | 36 | 7 | ||||||
Depreciation, amortization and accretion, net | 299 | 224 | ||||||
Stock-based compensation—restricted stock units | 33 | 24 | ||||||
Deferred income taxes | 109 | 86 | ||||||
Net gains on sales of securities | (14 | ) | (16 | ) | ||||
Net decrease (increase) in trading account assets | (86 | ) | (31 | ) | ||||
Net decrease (increase) in other assets | 117 | 265 | ||||||
Net increase (decrease) in trading account liabilities | (3 | ) | 56 | |||||
Net increase (decrease) in other liabilities | (61 | ) | (150 | ) | ||||
Loans originated for sale | (914 | ) | (599 | ) | ||||
Net proceeds from sale of loans originated for sale | 910 | 573 | ||||||
Pension and other postretirement benefits adjustment | (122 | ) | (80 | ) | ||||
Other, net | 3 | (19 | ) | |||||
Total adjustments | 307 | 340 | ||||||
Net cash provided by (used in) operating activities | 779 | 989 | ||||||
Cash Flows from Investing Activities: | ||||||||
Proceeds from sales of securities available for sale | 1,528 | 1,200 | ||||||
Proceeds from paydowns and maturities of securities available for sale | 1,494 | 1,789 | ||||||
Purchases of securities available for sale | (3,498 | ) | (894 | ) | ||||
Proceeds from paydowns and maturities of securities held to maturity | 1,432 | 773 | ||||||
Purchases of securities held to maturity | (3,492 | ) | (2,733 | ) | ||||
Proceeds from sales of loans | 860 | 84 | ||||||
Net decrease (increase) in loans | (748 | ) | (6,387 | ) | ||||
Purchases of other investments | (273 | ) | (415 | ) | ||||
Other, net | (105 | ) | (80 | ) | ||||
Net cash provided by (used in) investing activities | (2,802 | ) | (6,663 | ) | ||||
Cash Flows from Financing Activities: | ||||||||
Net increase (decrease) in deposits | (3,311 | ) | 2,255 | |||||
Net increase (decrease) in commercial paper and other short-term borrowings | (366 | ) | 1,313 | |||||
Proceeds from issuance of long-term debt | 5,197 | 749 | ||||||
Repayment of long-term debt | (817 | ) | (305 | ) | ||||
Other, net | (56 | ) | (22 | ) | ||||
Change in noncontrolling interests | (1 | ) | — | |||||
Net cash provided by (used in) financing activities | 646 | 3,990 | ||||||
Net change in cash and cash equivalents | (1,377 | ) | (1,684 | ) | ||||
Cash and cash equivalents at beginning of period | 5,751 | 6,203 | ||||||
Cash and cash equivalents at end of period | $ | 4,374 | $ | 4,519 | ||||
Cash Paid During the Period For: | ||||||||
Interest | $ | 312 | $ | 294 | ||||
Income taxes, net | 64 | 19 | ||||||
Supplemental Schedule of Noncash Investing and Financing Activities: | ||||||||
Net transfer of loans held for investment to loans held for sale | 867 | 96 | ||||||
Transfer of loans held for investment to other real estate owned assets | 12 | 11 | ||||||
Transfer of assets and liabilities from BTMU: | ||||||||
Carrying amount of assets acquired | — | 70 | ||||||
Carrying amount of liabilities assumed | — | 30 |
See accompanying notes to consolidated financial statements.
47
Note 1—Summary of Significant Accounting Policies and Nature of Operations
MUFG Americas Holdings Corporation (MUAH) is a financial holding company and bank holding company whose principal subsidiary is MUFG Union Bank, N.A. (the Bank or MUB). MUAH provides a wide range of financial services to consumers, small businesses, middle-market companies and major corporations nationally and internationally. The unaudited Consolidated Financial Statements of MUFG Americas Holdings Corporation, its subsidiaries, and its consolidated variable interest entities (the Company) have been prepared in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP) for interim financial reporting and the instructions to Form 10-Q and Rule 10-1 of Regulation S-X of the Rules and Regulations of the SEC. However, they do not include all of the disclosures necessary for annual financial statements. In the opinion of management, all adjustments, consisting of normal recurring accruals, considered necessary for a fair presentation have been included. The results of operations for the third quarter of 2015 are not necessarily indicative of the operating results anticipated for the full year. These unaudited Consolidated Financial Statements should be read in conjunction with the audited Consolidated Financial Statements included in our Annual Report on Form 10-K for the year ended December 31, 2014 (2014 Form 10-K).
The preparation of financial statements in conformity with U.S. GAAP also requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expense during the reporting period. Although such estimates contemplate current conditions and management’s expectations of how they may change in the future, it is reasonably possible that actual results could differ significantly from those estimates. This could materially affect the Company’s results of operations and financial condition in the near term. Significant estimates made by management in the preparation of the Company’s financial statements include, but are not limited to, the fair value of assets acquired and liabilities assumed, transfer pricing, the evaluation of other-than-temporary impairment on investment securities (Note 2), the allowance for loan losses (Note 3), the assessment of goodwill for impairment, income taxes, fair value of financial instruments (Note 7), hedge accounting (Note 8) and pension accounting (Note 10).
During the fourth quarter of 2014, the Company identified that certain noncash items related to the amortization and accretion of interest income and expense on loans held for investment, and activities related to loan syndications, had been reported as cash flows from investing activities but should have been presented as cash flows from operating activities. The loan syndication activities were also incorrectly reported as noncash transfers from loans held for investment to loans held for sale in the supplemental schedule of noncash investing and financing activities. The Company corrected the September 30, 2014 presentation to appropriately reflect the presentation adopted in the fourth quarter of 2014. The Company has evaluated the effect of the incorrect presentation and determined that the errors were not material, either individually or in the aggregate, to any of the Company’s previously filed annual or quarterly consolidated financial statements.
48
Note 1—Summary of Significant Accounting Policies and Nature of Operations (Continued)
The following table displays the affected line items for the nine months ended September 30, 2014:
For the Nine Months Ended September 30, 2014 | ||||||||||||
(Dollars in millions) | As Previously Reported | Reclassification Amounts | As Revised | |||||||||
Cash Flows from Operating Activities: | ||||||||||||
Depreciation, amortization and accretion, net | $ | 237 | $ | (13 | ) | $ | 224 | |||||
Loans originated for sale | (309 | ) | (290 | ) | (599 | ) | ||||||
Net proceeds from sale of loans originated for sale | 327 | 246 | 573 | |||||||||
Net cash provided by (used in) operating activities | 1,046 | (57 | ) | 989 | ||||||||
Cash Flows from Investing Activities: | ||||||||||||
Proceeds from sales of loans | 330 | (246 | ) | 84 | ||||||||
Net decrease (increase) in loans | (6,690 | ) | 303 | (6,387 | ) | |||||||
Net cash provided by (used in) investing activities | (6,720 | ) | 57 | (6,663 | ) | |||||||
Cash Flows from Financing Activities: | ||||||||||||
Net cash provided by (used in) financing activities | 3,990 | — | 3,990 | |||||||||
Net change in cash and cash equivalents | $ | (1,684 | ) | $ | — | $ | (1,684 | ) | ||||
Supplemental Schedule of Noncash Investing and Financing Activities: | ||||||||||||
Net transfer of loans held for investment to loans held for sale | $ | 386 | $ | (290 | ) | $ | 96 |
Recently Adopted Accounting Pronouncements
Effective January 1, 2015, the Company adopted ASU 2014-01, "Investments - Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Qualified Affordable Housing Projects."
As a result of adopting ASU 2014-1, the Company made an accounting policy election to account for its LIHC investments under the proportional amortization method, when such requirements are met to apply that methodology. Under the proportional amortization method, the Company amortizes the initial investment in proportion to the tax credits and other tax benefits allocated to the Company, with amortization recognized in the statement of income as a component of income tax expense. Retrospective application of this guidance was required.
49
Note 1—Summary of Significant Accounting Policies and Nature of Operations (Continued)
The consolidated balance sheet as of December 31, 2014; the changes in stockholder's equity as of December 31, 2013 and consolidated statements of income and comprehensive income for the three and nine months ended September 30, 2014 have been adjusted to reflect adoption of this guidance as follows:
December 31, 2014 | |||||||||||||
(Dollars in millions) | As Previously Reported | Adjustment | As Reported Under New Guidance | ||||||||||
Other assets | $ | 4,685 | $ | (55 | ) | $ | 4,630 | ||||||
Other liabilities | 1,889 | 8 | 1,897 | ||||||||||
Retained earnings | 8,346 | (63 | ) | 8,283 |
December 31, 2013 | |||||||||||||
(Dollars in millions) | As Previously Reported | Adjustment | As Reported Under New Guidance | ||||||||||
Retained earnings | $ | 7,512 | $ | (54 | ) | $ | 7,458 |
For the Three Months Ended | For the Nine Months Ended | ||||||||||||||||||||||||
September 30, 2014 | September 30, 2014 | ||||||||||||||||||||||||
(Dollars in millions) | As Previously Reported | Adjustment | As Reported Under New Guidance | As Previously Reported | Adjustment | As Reported Under New Guidance | |||||||||||||||||||
Noninterest expense | |||||||||||||||||||||||||
Other | $ | 128 | $ | (22 | ) | $ | 106 | $ | 337 | $ | (56 | ) | $ | 281 | |||||||||||
Income before income taxes and including noncontrolling interests | 308 | 22 | 330 | 835 | 56 | 891 | |||||||||||||||||||
Income tax expense | 67 | 21 | 88 | 179 | 63 | 242 | |||||||||||||||||||
Net Income Attributable to MUAH | $ | 246 | $ | 1 | $ | 247 | $ | 670 | $ | (7 | ) | $ | 663 |
Recently Issued Accounting Pronouncements
Revenue from Contracts with Customers
In May 2014, the FASB issued ASU 2014-9, Revenue from Contracts with Customers, which provides guidance on the core principle that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. This standard applies to all contracts with customers, except financial instruments, guarantees, lease contracts, insurance contracts and certain non-monetary exchanges. It provides the following five-step revenue recognition model: (1) identify the contract(s) with a customer, (2) identify the performance obligations in the contract, (3) determine the transaction price, (4) allocate the transaction price to the performance obligations in the contract, and (5) recognize revenue when (or as) the entity satisfies a performance obligation. In addition, the standard requires additional disclosure of the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. In August 2015 the FASB issued ASU 2015-14, Deferral of the Effective Date, which deferred the effective date of ASU 2014-09 to interim and annual periods beginning on January 1, 2018. Management is currently assessing the impact of this guidance on the Company’s financial position and results of operations.
50
Note 1—Summary of Significant Accounting Policies and Nature of Operations (Continued)
Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period
In June 2014, the FASB issued ASU 2014-12, Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period, which provides guidance that a performance target that affects vesting of a share-based payment and that could be achieved after the completion of the employee’s requisite service period is a performance condition under the accounting guidance for share-based awards. The standard clarifies that the performance target would not be reflected in estimating the fair value of the award at the grant date. Instead, compensation cost for the award would be recognized in the period in which it becomes probable that the performance target will be achieved and should represent the compensation cost attributable to the period(s) for which the requisite service has already been rendered. If the performance target becomes probable of being achieved before the end of the requisite service period, the remaining unrecognized compensation cost should be recognized prospectively over the remaining requisite service period. The total amount of compensation cost recognized during and after the requisite service period should reflect the number of awards that are expected to vest and should be adjusted to reflect those awards that ultimately vest. The guidance is effective for interim and annual periods beginning on January 1, 2016, with early adoption permitted. Management does not expect the adoption of this guidance to significantly impact the Company’s financial position or results of operations.
Determining Whether the Host Contract in a Hybrid Financial Instrument Issued in the Form of a Share Is More Akin to Debt or to Equity
In November 2014, the FASB issued ASU 2014-16, Determining Whether the Host Contract in a Hybrid Financial Instrument Issued in the Form of a Share Is More Akin to Debt or to Equity, which provides guidance on identifying whether the host contract in certain hybrid instruments is in the form of debt or equity. Such identification impacts the analysis of whether an embedded derivative exists in the instrument. The standard requires an entity to determine the nature of the host contract by considering all stated and implied substantive terms and features of the hybrid financial instrument, weighing each term and feature on the basis of the relevant facts and circumstances (commonly referred to as the whole-instrument approach). Under this approach, an entity would determine the nature of the host contract by considering the economic characteristics and risks of the entire hybrid financial instrument, including the embedded derivative feature that is being evaluated for separate accounting from the host contract. The guidance is effective for interim and annual periods beginning on January 1, 2016, with early adoption permitted. Management does not expect the adoption of this guidance to significantly impact the Company’s financial position or result of operations.
51
Note 1—Summary of Significant Accounting Policies and Nature of Operations (Continued)
Simplifying Income Statement Presentation by Eliminating the Concept of Extraordinary Items
In January 2015, the FASB issued ASU 2015-01, Simplifying Income Statement Presentation by Eliminating the Concept of Extraordinary Items, which removes the concept of extraordinary items from GAAP and eliminates the requirement for extraordinary items to be separately presented in the statement of income. The guidance is effective for interim and annual periods beginning on January 1, 2016, with early adoption permitted. The guidance may be applied either prospectively or retrospectively. Management does not expect the adoption of this guidance to significantly impact the Company’s financial position or results of operations.
Amendments to the Consolidation Analysis
In February 2015, the FASB issued ASU 2015-02, which is intended to improve current GAAP by making changes to targeted areas of the consolidation guidance. This standard simplifies current GAAP as it reduces the number of consolidation models by eliminating specialized consolidation guidance for certain investment funds that are exempt from applying the VIE model. The standard also changes the determination of whether limited partnerships and similar entities are VIEs or voting interest entities, the evaluation of the fees paid to decision makers and the application of the related-party guidance in determining whether a controlling financial interest exists. The guidance is effective for periods beginning on January 1, 2016, with early adoption permitted. The standard may be applied using a modified or full retrospective approach. Management does not expect the adoption of this guidance to significantly impact the Company’s financial position or results of operations.
Simplifying the Presentation of Debt Issuance Costs
In April 2015, the FASB issued ASU 2015-03, which now requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement guidance for debt issuance costs are not affected by these amendments. The guidance is effective for periods beginning on January 1, 2016, with early adoption permitted and the standard must be applied retrospectively. Management does not expect the adoption of this guidance to significantly impact the Company’s financial position or result of operations.
Practical Expedient for the Measurement Date of an Employer’s Defined Benefit Obligation and Plan Assets
In April 2015, the FASB issued ASU 2015-04, Practical Expedient for the Measurement Date of an Employer’s Defined Benefit Obligation and Plan Assets, which provides an employer whose fiscal year-end does not coincide with a calendar month-end a practical expedient to measure defined benefit retirement obligations and related plan assets using the month-end that is closest to its fiscal year-end (rather than the exact date of the fiscal year-end). For an employer that has a significant event in an interim period that calls for a remeasurement of defined benefit plan assets and obligations (such as a plan amendment, settlement, or curtailment), the ASU also provides a practical expedient that permits the employer to remeasure defined benefit plan assets and obligations using the month-end that is closest to the date of the significant event (rather than the exact date of the event). The guidance is effective for interim and annual periods beginning on January 1, 2016, with early adoption permitted. Management does not expect the adoption of this guidance to significantly impact the Company’s financial position or results of operations.
Disclosures for Investments in Certain Entities That Calculate Net Asset Value per Share (or Its Equivalent)
In May 2015, the FASB issued ASU 2015-07, Disclosures for Investments in Certain Entities That Calculate Net Asset Value per Share (or Its Equivalent), which removes the requirement to categorize within the fair value hierarchy all investments for which fair value is measured using the net asset value per share practical expedient. Instead, an entity would be required to include those investments as a reconciling line item so that the total fair value amount of investments in the disclosure is consistent with the amount on the balance sheet. The guidance is effective for interim and annual periods beginning on January 1, 2016 and should be applied retrospectively to all periods presented. Earlier application is permitted. Management does not expect the adoption of this guidance to significantly impact the Company’s financial position or results of operations.
52
Note 1—Summary of Significant Accounting Policies and Nature of Operations (Continued)
Presentation and Subsequent Measurement of Debt Issuance Costs Associated with Line-of-Credit Arrangements
In August 2015, the FASB issued ASU 2015-15, which clarifies that an entity may present debt issuance costs associated with line-of-credit arrangements as an asset and subsequently amortize them ratably over the term of the line-of-credit arrangement, regardless of whether there are any outstanding borrowings on the arrangement, as opposed to presenting such costs as a direct reduction from the carrying amount of any associated debt liability. This guidance is effective upon adoption of ASU 2015-03, which is effective for periods beginning January 1, 2016, unless early adopted. Management does not expect the adoption of this guidance to significantly impact the Company’s financial position or results of operations.
Simplifying the Accounting for Measurement-Period Adjustments
In September 2015, the FASB issued ASU 2015-16, Simplifying the Accounting for Measurement-Period Adjustments, which eliminates the requirement to restate prior period financial statements for measurement period adjustments. Instead, the new guidance requires that the cumulative impact of a measurement period adjustment (including the impact on prior periods) be recognized in the reporting period in which the adjustment is identified. The guidance is effective for interim and annual periods beginning on January 1, 2016 and should be applied prospectively to measurement period adjustments that occur after the effective date. Early adoption is permitted. Management does not expect the adoption of this guidance to significantly impact the Company’s financial position or results of operations.
53
Note 2—Securities
Securities Available for Sale
At September 30, 2015 and December 31, 2014, the amortized cost, gross unrealized gains, gross unrealized losses and fair values of securities are presented below.
September 30, 2015 | ||||||||||||||||
(Dollars in millions) | Amortized Cost | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | ||||||||||||
Asset Liability Management securities: | ||||||||||||||||
Residential mortgage-backed securities: | ||||||||||||||||
U.S. government agency and government-sponsored agencies | $ | 7,879 | $ | 8 | $ | 27 | $ | 7,860 | ||||||||
Privately issued | 131 | 2 | 1 | 132 | ||||||||||||
Privately issued - commercial mortgage-backed securities | 1,586 | 15 | 6 | 1,595 | ||||||||||||
Collateralized loan obligations | 3,132 | 2 | 25 | 3,109 | ||||||||||||
Other | 7 | 1 | — | 8 | ||||||||||||
Asset Liability Management securities | 12,735 | 28 | 59 | 12,704 | ||||||||||||
Other debt securities: | ||||||||||||||||
Direct bank purchase bonds | 1,567 | 46 | 19 | 1,594 | ||||||||||||
Other | 48 | 1 | — | 49 | ||||||||||||
Equity securities | 6 | 2 | — | 8 | ||||||||||||
Total securities available for sale | $ | 14,356 | $ | 77 | $ | 78 | $ | 14,355 |
December 31, 2014 | ||||||||||||||||
(Dollars in millions) | Amortized Cost | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | ||||||||||||
Asset Liability Management securities: | ||||||||||||||||
Residential mortgage-backed securities: | ||||||||||||||||
U.S. government agency and government-sponsored agencies | $ | 7,649 | $ | 2 | $ | 91 | $ | 7,560 | ||||||||
Privately issued | 166 | 3 | 1 | 168 | ||||||||||||
Privately issued - commercial mortgage-backed securities | 1,689 | 15 | 13 | 1,691 | ||||||||||||
Collateralized loan obligations | 2,527 | 4 | 37 | 2,494 | ||||||||||||
Other | 8 | 1 | — | 9 | ||||||||||||
Asset Liability Management securities | 12,039 | 25 | 142 | 11,922 | ||||||||||||
Other debt securities: | ||||||||||||||||
Direct bank purchase bonds | 1,719 | 49 | 27 | 1,741 | ||||||||||||
Other | 53 | — | 1 | 52 | ||||||||||||
Equity securities | 8 | 2 | 1 | 9 | ||||||||||||
Total securities available for sale | $ | 13,819 | $ | 76 | $ | 171 | $ | 13,724 |
54
Note 2—Securities (Continued)
The Company’s securities available for sale with a continuous unrealized loss position at September 30, 2015 and December 31, 2014 are shown below, identified for periods less than 12 months and 12 months or more.
September 30, 2015 | ||||||||||||||||||||||||
Less than 12 months | 12 months or more | Total | ||||||||||||||||||||||
(Dollars in millions) | Fair Value | Unrealized Losses | Fair Value | Unrealized Losses | Fair Value | Unrealized Losses | ||||||||||||||||||
Asset Liability Management securities: | ||||||||||||||||||||||||
Residential mortgage-backed securities: | ||||||||||||||||||||||||
U.S. government agency and government-sponsored agencies | $ | 2,724 | $ | 8 | $ | 2,396 | $ | 19 | $ | 5,120 | $ | 27 | ||||||||||||
Privately issued | 10 | — | 41 | 1 | 51 | 1 | ||||||||||||||||||
Privately issued - commercial mortgage-backed securities | 710 | 5 | 76 | 1 | 786 | 6 | ||||||||||||||||||
Collateralized loan obligations | 1,182 | 6 | 1,203 | 19 | 2,385 | 25 | ||||||||||||||||||
Other | — | — | 1 | — | 1 | — | ||||||||||||||||||
Asset Liability Management securities | 4,626 | 19 | 3,717 | 40 | 8,343 | 59 | ||||||||||||||||||
Other debt securities: | ||||||||||||||||||||||||
Direct bank purchase bonds | 42 | — | 771 | 19 | 813 | 19 | ||||||||||||||||||
Other | 2 | — | — | — | 2 | — | ||||||||||||||||||
Equity securities | — | — | 5 | — | 5 | — | ||||||||||||||||||
Total securities available for sale | $ | 4,670 | $ | 19 | $ | 4,493 | $ | 59 | $ | 9,163 | $ | 78 |
December 31, 2014 | ||||||||||||||||||||||||
Less than 12 months | 12 months or more | Total | ||||||||||||||||||||||
(Dollars in millions) | Fair Value | Unrealized Losses | Fair Value | Unrealized Losses | Fair Value | Unrealized Losses | ||||||||||||||||||
Asset Liability Management securities: | ||||||||||||||||||||||||
Residential mortgage-backed securities: | ||||||||||||||||||||||||
U.S. government agency and government-sponsored agencies | $ | 611 | $ | 1 | $ | 6,258 | $ | 90 | $ | 6,869 | $ | 91 | ||||||||||||
Privately issued | 9 | — | 49 | 1 | 58 | 1 | ||||||||||||||||||
Privately issued - commercial mortgage-backed securities | 143 | — | 842 | 13 | 985 | 13 | ||||||||||||||||||
Collateralized loan obligations | 657 | 6 | 1,481 | 31 | 2,138 | 37 | ||||||||||||||||||
Other | — | — | 1 | — | 1 | — | ||||||||||||||||||
Asset Liability Management securities | 1,420 | 7 | 8,631 | 135 | 10,051 | 142 | ||||||||||||||||||
Other debt securities: | ||||||||||||||||||||||||
Direct bank purchase bonds | 75 | 3 | 937 | 24 | 1,012 | 27 | ||||||||||||||||||
Other | — | — | 22 | 1 | 22 | 1 | ||||||||||||||||||
Equity securities | 1 | 1 | 5 | — | 6 | 1 | ||||||||||||||||||
Total securities available for sale | $ | 1,496 | $ | 11 | $ | 9,595 | $ | 160 | $ | 11,091 | $ | 171 |
At September 30, 2015, the Company did not have the intent to sell any securities in an unrealized loss position before a recovery of the amortized cost, which may be at maturity. The Company also believes that it is more likely than not that it will not be required to sell the securities prior to recovery of amortized cost.
Agency residential mortgage-backed securities consist of securities guaranteed by a U.S. government agency or a government-sponsored agency such as Fannie Mae, Freddie Mac or Ginnie Mae. These securities are collateralized by residential mortgage loans and may be prepaid at par prior to maturity. The unrealized losses on agency residential mortgage-backed securities resulted from changes in interest rates and not from changes in credit quality. At September 30, 2015, the Company expects to recover the entire amortized cost basis of these securities because the Company determined that the strength of the issuers’ guarantees through direct obligations or support from the U.S. government is sufficient to protect the Company from losses.
55
Note 2—Securities (Continued)
Commercial mortgage-backed securities are collateralized by commercial mortgage loans and are generally subject to prepayment penalties. The unrealized losses on commercial mortgage-backed securities resulted from higher market yields since purchase. Cash flow analysis of the underlying collateral provides an estimate of other-than-temporary impairment, which is performed quarterly when the fair value of a security is lower than its amortized cost. Based on the analysis performed as of September 30, 2015, the Company expects to recover the entire amortized cost basis of these securities.
The Company’s CLOs consist of Cash Flow CLOs. A Cash Flow CLO is a structured finance product that securitizes a diversified pool of loan assets into multiple classes of notes. Cash Flow CLOs pay the note holders through the receipt of interest and principal repayments from the underlying loans unlike other types of CLOs that pay note holders through the trading and sale of underlying collateral. Unrealized losses typically arise from widening credit spreads and deteriorating credit quality of the underlying collateral. Cash flow analysis of the underlying collateral provides an estimate of other-than-temporary impairment, which is performed quarterly when the fair value of a security is lower than its amortized cost. Based on the analysis performed as of September 30, 2015, the Company expects to recover the entire amortized cost basis of these securities.
Other debt securities primarily consist of direct bank purchase bonds, which are not rated by external credit rating agencies. The unrealized losses on these bonds resulted from a higher return on capital expected by the secondary market compared with the return on capital required at the time of origination when the bonds were purchased. The Company estimated the unrealized loss for each security by assessing the underlying collateral of each security. The Company estimates the portion of loss attributable to credit based on the expected cash flows of the underlying collateral using estimates of current key assumptions, such as probability of default and loss severity. Cash flow analysis of the underlying collateral provides an estimate of other-than-temporary impairment, which is performed quarterly when the fair value of a security is lower than its amortized cost and potential impairment is identified. Based on the analysis performed as of September 30, 2015, the Company expects to recover the entire amortized cost basis of these securities.
The fair value of debt securities available for sale by contractual maturity are shown below. Actual maturities may differ from contractual maturities because borrowers may have the right to prepay obligations with or without prepayment penalties.
September 30, 2015 | ||||||||||||||||||||
(Dollars in millions) | One Year or Less | Over One Year Through Five Years | Over Five Years Through Ten Years | Over Ten Years | Total Fair Value | |||||||||||||||
Asset Liability Management securities: | ||||||||||||||||||||
Residential mortgage-backed securities: | ||||||||||||||||||||
U.S. government agency and government-sponsored agencies | $ | — | $ | 22 | $ | 382 | $ | 7,456 | $ | 7,860 | ||||||||||
Privately issued | — | 3 | — | 129 | 132 | |||||||||||||||
Privately issued - commercial mortgage-backed securities | — | — | 37 | 1,558 | 1,595 | |||||||||||||||
Collateralized loan obligations | — | 11 | 1,444 | 1,654 | 3,109 | |||||||||||||||
Other | — | 2 | 6 | — | 8 | |||||||||||||||
Asset Liability Management securities | — | 38 | 1,869 | 10,797 | 12,704 | |||||||||||||||
Other debt securities: | ||||||||||||||||||||
Direct bank purchase bonds | 66 | 476 | 654 | 398 | 1,594 | |||||||||||||||
Other | 4 | 12 | 2 | 31 | 49 | |||||||||||||||
Total debt securities available for sale | $ | 70 | $ | 526 | $ | 2,525 | $ | 11,226 | $ | 14,347 |
56
Note 2—Securities (Continued)
The proceeds from sales of securities available for sale and gross realized gains and losses are shown below. The specific identification method is used to calculate realized gains and losses on sales.
For the Three Months Ended September 30, | For the Nine Months Ended September 30, | |||||||||||||||
(Dollars in millions) | 2015 | 2014 | 2015 | 2014 | ||||||||||||
Proceeds from sales | $ | 633 | $ | 602 | $ | 1,528 | $ | 1,200 | ||||||||
Gross realized gains | 6 | 13 | 17 | 21 | ||||||||||||
Gross realized losses | — | — | 1 | — |
Securities Held to Maturity
The securities held to maturity consist of residential mortgage-backed securities, commercial mortgage-backed securities, U.S. Treasury securities and U.S. government-sponsored agencies. Management has asserted the positive intent and ability to hold these securities to maturity. At September 30, 2015 and December 31, 2014, the amortized cost, gross unrealized gains and losses recognized in other comprehensive income (OCI), carrying amount, gross unrealized gains and losses not recognized in OCI, and fair values of securities held to maturity are presented below.
September 30, 2015 | ||||||||||||||||||||||||||||
Recognized in OCI | Not Recognized in OCI | |||||||||||||||||||||||||||
(Dollars in millions) | Amortized Cost | Gross Unrealized Gains | Gross Unrealized Losses | Carrying Amount | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | |||||||||||||||||||||
U.S. Treasury | $ | 488 | $ | — | $ | — | $ | 488 | $ | 11 | $ | — | $ | 499 | ||||||||||||||
U.S. government-sponsored agencies | 900 | — | — | 900 | 1 | — | 901 | |||||||||||||||||||||
U.S. government agency and government-sponsored agencies - residential mortgage-backed securities | 7,322 | 4 | 56 | 7,270 | 113 | 8 | 7,375 | |||||||||||||||||||||
U.S. government agency and government-sponsored agencies - commercial mortgage-backed securities | 1,758 | — | 75 | 1,683 | 71 | 1 | 1,753 | |||||||||||||||||||||
Total securities held to maturity | $ | 10,468 | $ | 4 | $ | 131 | $ | 10,341 | $ | 196 | $ | 9 | $ | 10,528 |
December 31, 2014 | ||||||||||||||||||||||||||||
Recognized in OCI | Not Recognized in OCI | |||||||||||||||||||||||||||
(Dollars in millions) | Amortized Cost | Gross Unrealized Gains | Gross Unrealized Losses | Carrying Amount | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | |||||||||||||||||||||
U.S. Treasury | $ | 486 | $ | — | $ | — | $ | 486 | $ | 3 | $ | — | $ | 489 | ||||||||||||||
U.S. government-sponsored agencies | 125 | — | — | 125 | — | — | 125 | |||||||||||||||||||||
U.S. government agency and government-sponsored agencies - residential mortgage-backed securities | 6,002 | 6 | 66 | 5,942 | 76 | 5 | 6,013 | |||||||||||||||||||||
U.S. government agency and government-sponsored agencies - commercial mortgage-backed securities | 1,820 | — | 82 | 1,738 | 53 | 6 | 1,785 | |||||||||||||||||||||
Total securities held to maturity | $ | 8,433 | $ | 6 | $ | 148 | $ | 8,291 | $ | 132 | $ | 11 | $ | 8,412 |
Amortized cost is defined as the original purchase cost, adjusted for any accretion or amortization of a purchase discount or premium, less principal payments and any impairment previously recognized in earnings. The carrying amount is the difference between the amortized cost and amount recognized in OCI. The amount recognized in OCI primarily reflects the unrealized gain or loss at date of transfer from available for sale to the held to maturity classification, net of amortization, which is recorded in interest income on securities.
57
Note 2—Securities (Continued)
The Company’s securities held to maturity with a continuous unrealized loss position at September 30, 2015 and December 31, 2014 are shown below, separately for periods less than 12 months and 12 months or more.
September 30, 2015 | ||||||||||||||||||||||||||||||||||||
Less than 12 months | 12 months or more | Total | ||||||||||||||||||||||||||||||||||
Unrealized Losses | Unrealized Losses | Unrealized Losses | ||||||||||||||||||||||||||||||||||
(Dollars in millions) | Fair Value | Recognized in OCI | Not Recognized in OCI | Fair Value | Recognized in OCI | Not Recognized in OCI | Fair Value | Recognized in OCI | Not Recognized in OCI | |||||||||||||||||||||||||||
U.S. government agency and government-sponsored agencies - residential mortgage-backed securities | $ | 1,077 | $ | — | $ | 8 | $ | 1,794 | $ | 56 | $ | — | $ | 2,871 | $ | 56 | $ | 8 | ||||||||||||||||||
U.S. government agency and government-sponsored agencies - commercial mortgage-backed securities | — | — | — | 1,464 | 75 | 1 | 1,464 | 75 | 1 | |||||||||||||||||||||||||||
Total securities held to maturity | $ | 1,077 | $ | — | $ | 8 | $ | 3,258 | $ | 131 | $ | 1 | $ | 4,335 | $ | 131 | $ | 9 |
December 31, 2014 | ||||||||||||||||||||||||||||||||||||
Less than 12 months | 12 months or more | Total | ||||||||||||||||||||||||||||||||||
Unrealized Losses | Unrealized Losses | Unrealized Losses | ||||||||||||||||||||||||||||||||||
(Dollars in millions) | Fair Value | Recognized in OCI | Not Recognized in OCI | Fair Value | Recognized in OCI | Not Recognized in OCI | Fair Value | Recognized in OCI | Not Recognized in OCI | |||||||||||||||||||||||||||
U.S. government agency and government-sponsored agencies - residential mortgage-backed securities | $ | 399 | $ | — | $ | 1 | $ | 2,341 | $ | 66 | $ | 4 | $ | 2,740 | $ | 66 | $ | 5 | ||||||||||||||||||
U.S. government agency and government-sponsored agencies - commercial mortgage-backed securities | 134 | — | — | 1,552 | 82 | 6 | 1,686 | 82 | 6 | |||||||||||||||||||||||||||
Total securities held to maturity | $ | 533 | $ | — | $ | 1 | $ | 3,893 | $ | 148 | $ | 10 | $ | 4,426 | $ | 148 | $ | 11 |
The carrying amount and fair value of securities held to maturity by contractual maturity are shown below. Actual maturities may differ from contractual maturities because borrowers may have the right to prepay obligations with or without prepayment penalties.
September 30, 2015 | ||||||||||||||||||||||||||||||||
Over One Year Through Five Years | Over Five Years Through Ten Years | Over Ten Years | Total | |||||||||||||||||||||||||||||
(Dollars in millions) | Carrying Amount | Fair Value | Carrying Amount | Fair Value | Carrying Amount | Fair Value | Carrying Amount | Fair Value | ||||||||||||||||||||||||
U.S. Treasury | $ | 488 | $ | 499 | $ | — | $ | — | $ | — | $ | — | $ | 488 | $ | 499 | ||||||||||||||||
U.S. government-sponsored agencies | 458 | 458 | 442 | 443 | — | — | 900 | 901 | ||||||||||||||||||||||||
U.S. government agency and government-sponsored agencies - residential mortgage-backed securities | — | — | 18 | 18 | 7,252 | 7,357 | 7,270 | 7,375 | ||||||||||||||||||||||||
U.S. government agency and government-sponsored agencies - commercial mortgage-backed securities | 49 | 51 | 798 | 852 | 836 | 850 | 1,683 | 1,753 | ||||||||||||||||||||||||
Total securities held to maturity | $ | 995 | $ | 1,008 | $ | 1,258 | $ | 1,313 | $ | 8,088 | $ | 8,207 | $ | 10,341 | $ | 10,528 |
58
Note 2—Securities (Continued)
Securities Collateral
At September 30, 2015, the Company had $1.7 billion of securities available for sale pledged as collateral to secure public and trust deposits, where the secured party cannot resell or repledge such securities. At September 30, 2015 and December 31, 2014, the Company accepted securities as collateral for reverse repurchase agreements that it is permitted by contract to sell or repledge of $81 million and $61 million, respectively, none of which has been sold or repledged. These securities received as collateral are not recognized on the Company's balance sheet. For further information related to the Company's significant accounting policies on securities pledged as collateral, see Note 1 to the Consolidated Financial Statements in Part II, Item 8. "Financial Statements and Supplementary Data" in our 2014 Form 10-K.
Note 3—Loans and Allowance for Loan Losses
The following table provides the outstanding balances of loans held for investment at September 30, 2015 and December 31, 2014:
(Dollars in millions) | September 30, 2015 | December 31, 2014 | ||||||
Loans held for investment: | ||||||||
Commercial and industrial | $ | 28,462 | $ | 27,623 | ||||
Commercial mortgage | 13,943 | 14,016 | ||||||
Construction | 2,120 | 1,746 | ||||||
Lease financing | 748 | 800 | ||||||
Total commercial portfolio | 45,273 | 44,185 | ||||||
Residential mortgage | 27,856 | 28,977 | ||||||
Home equity and other consumer loans | 3,124 | 3,117 | ||||||
Total consumer portfolio | 30,980 | 32,094 | ||||||
Total loans held for investment, before purchased credit-impaired loans | 76,253 | 76,279 | ||||||
Purchased credit-impaired loans(1) | 388 | 525 | ||||||
Total loans held for investment(2) | 76,641 | 76,804 | ||||||
Allowance for loan losses | (547 | ) | (537 | ) | ||||
Loans held for investment, net | $ | 76,094 | $ | 76,267 |
(1) | Includes $22 million and $126 million as of September 30, 2015 and December 31, 2014, respectively, of loans for which the Company will be reimbursed a portion of any future losses under the terms of the FDIC loss share agreements. |
(2) | Includes $152 million and $151 million at September 30, 2015 and December 31, 2014, respectively, for net unamortized discounts and premiums and deferred fees and costs. |
Allowance for Loan Losses
The following tables provide a reconciliation of changes in the allowance for loan losses by portfolio segment:
For the Three Months Ended September 30, 2015 | ||||||||||||||||||||
(Dollars in millions) | Commercial | Consumer | Purchased Credit- Impaired | Unallocated | Total | |||||||||||||||
Allowance for loan losses, beginning of period | $ | 461 | $ | 51 | $ | 4 | $ | 20 | $ | 536 | ||||||||||
(Reversal of) provision for loan losses | 24 | (1 | ) | — | — | 23 | ||||||||||||||
Other | (1 | ) | — | — | — | (1 | ) | |||||||||||||
Loans charged-off | (11 | ) | (1 | ) | (3 | ) | — | (15 | ) | |||||||||||
Recoveries of loans previously charged-off | 3 | 1 | — | — | 4 | |||||||||||||||
Allowance for loan losses, end of period | $ | 476 | $ | 50 | $ | 1 | $ | 20 | $ | 547 |
59
Note 3—Loans and Allowance for Loan Losses (Continued)
For the Three Months Ended September 30, 2014 | ||||||||||||||||||||
(Dollars in millions) | Commercial | Consumer | Purchased Credit- Impaired | Unallocated | Total | |||||||||||||||
Allowance for loan losses, beginning of period | $ | 482 | $ | 49 | $ | 3 | $ | 25 | $ | 559 | ||||||||||
(Reversal of) provision for loan losses | (15 | ) | 2 | — | (5 | ) | (18 | ) | ||||||||||||
Loans charged-off | (15 | ) | (2 | ) | (1 | ) | — | (18 | ) | |||||||||||
Recoveries of loans previously charged-off | 5 | — | 1 | — | 6 | |||||||||||||||
Allowance for loan losses, end of period | $ | 457 | $ | 49 | $ | 3 | $ | 20 | $ | 529 |
For the Nine Months Ended September 30, 2015 | ||||||||||||||||||||
(Dollars in millions) | Commercial | Consumer | Purchased Credit- Impaired | Unallocated | Total | |||||||||||||||
Allowance for loan losses, beginning of period | $ | 465 | $ | 49 | $ | 3 | $ | 20 | $ | 537 | ||||||||||
(Reversal of) provision for loan losses | 31 | 6 | 9 | — | 46 | |||||||||||||||
Other | (2 | ) | — | — | — | (2 | ) | |||||||||||||
Loans charged-off | (28 | ) | (7 | ) | (11 | ) | — | (46 | ) | |||||||||||
Recoveries of loans previously charged-off | 10 | 2 | — | — | 12 | |||||||||||||||
Allowance for loan losses, end of period | $ | 476 | $ | 50 | $ | 1 | $ | 20 | $ | 547 |
For the Nine Months Ended September 30, 2014 | ||||||||||||||||||||
(Dollars in millions) | Commercial | Consumer | Purchased Credit- Impaired | Unallocated | Total | |||||||||||||||
Allowance for loan losses, beginning of period | $ | 421 | $ | 69 | $ | 1 | $ | 77 | $ | 568 | ||||||||||
(Reversal of) provision for loan losses | 43 | (13 | ) | 2 | (57 | ) | (25 | ) | ||||||||||||
Other | (1 | ) | — | — | — | (1 | ) | |||||||||||||
Loans charged-off | (29 | ) | (9 | ) | (1 | ) | — | (39 | ) | |||||||||||
Recoveries of loans previously charged-off | 23 | 2 | 1 | — | 26 | |||||||||||||||
Allowance for loan losses, end of period | $ | 457 | $ | 49 | $ | 3 | $ | 20 | $ | 529 |
60
Note 3—Loans and Allowance for Loan Losses (Continued)
The following tables show the allowance for loan losses and related loan balances by portfolio segment as of September 30, 2015 and December 31, 2014:
September 30, 2015 | ||||||||||||||||||||
(Dollars in millions) | Commercial | Consumer | Purchased Credit- Impaired | Unallocated | Total | |||||||||||||||
Allowance for loan losses: | ||||||||||||||||||||
Individually evaluated for impairment | $ | 25 | $ | 16 | $ | — | $ | — | $ | 41 | ||||||||||
Collectively evaluated for impairment | 451 | 34 | — | 20 | 505 | |||||||||||||||
Purchased credit-impaired loans | — | — | 1 | — | 1 | |||||||||||||||
Total allowance for loan losses | $ | 476 | $ | 50 | $ | 1 | $ | 20 | $ | 547 | ||||||||||
Loans held for investment: | ||||||||||||||||||||
Individually evaluated for impairment | $ | 231 | $ | 317 | $ | 1 | $ | — | $ | 549 | ||||||||||
Collectively evaluated for impairment | 45,042 | 30,663 | — | — | 75,705 | |||||||||||||||
Purchased credit-impaired loans | — | — | 387 | — | 387 | |||||||||||||||
Total loans held for investment | $ | 45,273 | $ | 30,980 | $ | 388 | $ | — | $ | 76,641 |
December 31, 2014 | ||||||||||||||||||||
(Dollars in millions) | Commercial | Consumer | Purchased Credit- Impaired | Unallocated | Total | |||||||||||||||
Allowance for loan losses: | ||||||||||||||||||||
Individually evaluated for impairment | $ | 18 | $ | 16 | $ | — | $ | — | $ | 34 | ||||||||||
Collectively evaluated for impairment | 447 | 33 | — | 20 | 500 | |||||||||||||||
Purchased credit-impaired loans | — | — | 3 | — | 3 | |||||||||||||||
Total allowance for loan losses | $ | 465 | $ | 49 | $ | 3 | $ | 20 | $ | 537 | ||||||||||
Loans held for investment: | ||||||||||||||||||||
Individually evaluated for impairment | $ | 164 | $ | 338 | $ | 1 | $ | — | $ | 503 | ||||||||||
Collectively evaluated for impairment | 44,021 | 31,756 | — | — | 75,777 | |||||||||||||||
Purchased credit-impaired loans | — | — | 524 | — | 524 | |||||||||||||||
Total loans held for investment | $ | 44,185 | $ | 32,094 | $ | 525 | $ | — | $ | 76,804 |
Nonaccrual and Past Due Loans
The following table presents nonaccrual loans as of September 30, 2015 and December 31, 2014:
(Dollars in millions) | September 30, 2015 | December 31, 2014 | ||||||
Commercial and industrial | $ | 138 | $ | 55 | ||||
Commercial mortgage | 40 | 40 | ||||||
Total commercial portfolio | 178 | 95 | ||||||
Residential mortgage | 201 | 231 | ||||||
Home equity and other consumer loans | 32 | 40 | ||||||
Total consumer portfolio | 233 | 271 | ||||||
Total nonaccrual loans, before purchased credit-impaired loans | 411 | 366 | ||||||
Purchased credit-impaired loans | 8 | 9 | ||||||
Total nonaccrual loans | $ | 419 | $ | 375 | ||||
Troubled debt restructured loans that continue to accrue interest | $ | 264 | $ | 283 | ||||
Troubled debt restructured nonaccrual loans (included in the total nonaccrual loans above) | $ | 202 | $ | 184 |
61
Note 3—Loans and Allowance for Loan Losses (Continued)
The following table shows an aging of the balance of loans held for investment, excluding purchased credit-impaired loans, by class as of September 30, 2015 and December 31, 2014:
September 30, 2015 | ||||||||||||||||||||
Aging Analysis of Loans | ||||||||||||||||||||
(Dollars in millions) | Current | 30 to 89 Days Past Due | 90 Days or More Past Due | Total Past Due | Total | |||||||||||||||
Commercial and industrial | $ | 29,182 | $ | 21 | $ | 7 | $ | 28 | $ | 29,210 | ||||||||||
Commercial mortgage | 13,911 | 26 | 6 | 32 | 13,943 | |||||||||||||||
Construction | 2,120 | — | — | — | 2,120 | |||||||||||||||
Total commercial portfolio | 45,213 | 47 | 13 | 60 | 45,273 | |||||||||||||||
Residential mortgage | 27,702 | 106 | 48 | 154 | 27,856 | |||||||||||||||
Home equity and other consumer loans | 3,102 | 12 | 10 | 22 | 3,124 | |||||||||||||||
Total consumer portfolio | 30,804 | 118 | 58 | 176 | 30,980 | |||||||||||||||
Total loans held for investment, excluding purchased credit-impaired loans | $ | 76,017 | $ | 165 | $ | 71 | $ | 236 | $ | 76,253 |
December 31, 2014 | ||||||||||||||||||||
Aging Analysis of Loans | ||||||||||||||||||||
(Dollars in millions) | Current | 30 to 89 Days Past Due | 90 Days or More Past Due | Total Past Due | Total | |||||||||||||||
Commercial and industrial | $ | 28,392 | $ | 19 | $ | 12 | $ | 31 | $ | 28,423 | ||||||||||
Commercial mortgage | 13,991 | 21 | 4 | 25 | 14,016 | |||||||||||||||
Construction | 1,744 | 2 | — | 2 | 1,746 | |||||||||||||||
Total commercial portfolio | 44,127 | 42 | 16 | 58 | 44,185 | |||||||||||||||
Residential mortgage | 28,802 | 112 | 63 | 175 | 28,977 | |||||||||||||||
Home equity and other consumer loans | 3,084 | 20 | 13 | 33 | 3,117 | |||||||||||||||
Total consumer portfolio | 31,886 | 132 | 76 | 208 | 32,094 | |||||||||||||||
Total loans held for investment, excluding purchased credit-impaired loans | $ | 76,013 | $ | 174 | $ | 92 | $ | 266 | $ | 76,279 |
The Company's loans 90 days or more past due and still accruing totaled $4 million and $3 million at September 30, 2015 and December 31, 2014, respectively. Purchased credit-impaired loans that were 90 days or more past due and still accruing totaled $30 million and $47 million at September 30, 2015 and December 31, 2014, respectively.
Credit Quality Indicators
Management analyzes the Company’s loan portfolios by applying specific monitoring policies and procedures that vary according to the relative risk profile and other characteristics within the various loan portfolios. For further information related to the credit quality indicators the Company uses to monitor the portfolio, see Note 4 to the Consolidated Financial Statements in Part II, Item 8. “Financial Statements and Supplementary Data” in our 2014 Form 10-K.
62
Note 3—Loans and Allowance for Loan Losses (Continued)
The following tables summarize the loans in the commercial portfolio segment and commercial loans within the purchased credit-impaired loans segment monitored for credit quality based on internal ratings, excluding $1 million and $98 million covered by FDIC loss share agreements, at September 30, 2015 and December 31, 2014, respectively. The amounts presented reflect unpaid principal balances less charge-offs.
September 30, 2015 | ||||||||||||||||
(Dollars in millions) | Pass | Special Mention | Classified | Total | ||||||||||||
Commercial and industrial | $ | 27,768 | $ | 667 | $ | 675 | $ | 29,110 | ||||||||
Construction | 2,115 | 6 | — | 2,121 | ||||||||||||
Commercial mortgage | 13,495 | 132 | 162 | 13,789 | ||||||||||||
Total commercial portfolio | 43,378 | 805 | 837 | 45,020 | ||||||||||||
Purchased credit-impaired loans | 35 | 19 | 82 | 136 | ||||||||||||
Total | $ | 43,413 | $ | 824 | $ | 919 | $ | 45,156 |
December 31, 2014 | ||||||||||||||||
(Dollars in millions) | Pass | Special Mention | Classified | Total | ||||||||||||
Commercial and industrial | $ | 27,471 | $ | 452 | $ | 360 | $ | 28,283 | ||||||||
Construction | 1,729 | 18 | — | 1,747 | ||||||||||||
Commercial mortgage | 13,522 | 128 | 183 | 13,833 | ||||||||||||
Total commercial portfolio | 42,722 | 598 | 543 | 43,863 | ||||||||||||
Purchased credit-impaired loans | 37 | 38 | 128 | 203 | ||||||||||||
Total | $ | 42,759 | $ | 636 | $ | 671 | $ | 44,066 |
The Company monitors the credit quality of its consumer portfolio segment and consumer loans within the purchased credit-impaired loans segment based primarily on payment status. The following tables summarize the loans in the consumer portfolio segment and purchased credit-impaired loans segment, which excludes $21 million and $28 million of loans covered by FDIC loss share agreements, at September 30, 2015 and December 31, 2014, respectively:
September 30, 2015 | ||||||||||||
(Dollars in millions) | Accrual | Nonaccrual | Total | |||||||||
Residential mortgage | $ | 27,655 | $ | 201 | $ | 27,856 | ||||||
Home equity and other consumer loans | 3,092 | 32 | 3,124 | |||||||||
Total consumer portfolio | 30,747 | 233 | 30,980 | |||||||||
Purchased credit-impaired loans | 158 | — | 158 | |||||||||
Total | $ | 30,905 | $ | 233 | $ | 31,138 |
December 31, 2014 | ||||||||||||
(Dollars in millions) | Accrual | Nonaccrual | Total | |||||||||
Residential mortgage | $ | 28,746 | $ | 231 | $ | 28,977 | ||||||
Home equity and other consumer loans | 3,077 | 40 | 3,117 | |||||||||
Total consumer portfolio | 31,823 | 271 | 32,094 | |||||||||
Purchased credit-impaired loans | 196 | — | 196 | |||||||||
Total | $ | 32,019 | $ | 271 | $ | 32,290 |
The Company also monitors the credit quality for substantially all of its consumer portfolio segment using credit scores provided by FICO and refreshed LTV ratios. FICO credit scores are refreshed at least quarterly to monitor the quality of the portfolio. Refreshed LTV measures the principal balance of the loan as a percentage of the estimated current value of the property securing the loan. Home equity loans are evaluated using combined LTV, which measures the principal balance of the combined loans that have liens against the property (including
63
Note 3—Loans and Allowance for Loan Losses (Continued)
unused credit lines for home equity products) as a percentage of the estimated current value of the property securing the loans. The LTV ratios are refreshed on a quarterly basis, using the most recent home pricing index data available for the property location.
The following tables summarize the loans in the consumer portfolio segment and consumer loans within the purchased credit-impaired loans segment monitored for credit quality based on refreshed FICO scores and refreshed LTV ratios at September 30, 2015 and December 31, 2014. These tables exclude loans covered by FDIC loss share agreements, as discussed above. The amounts presented reflect unpaid principal balances less partial charge-offs.
September 30, 2015 | ||||||||||||||||
FICO scores | ||||||||||||||||
(Dollars in millions) | 720 and above | Below 720 | No FICO Available(1) | Total | ||||||||||||
Residential mortgage | $ | 21,485 | $ | 5,543 | $ | 577 | $ | 27,605 | ||||||||
Home equity and other consumer loans | 2,196 | 774 | 90 | 3,060 | ||||||||||||
Total consumer portfolio | 23,681 | 6,317 | 667 | 30,665 | ||||||||||||
Purchased credit-impaired loans | 63 | 85 | 11 | 159 | ||||||||||||
Total | $ | 23,744 | $ | 6,402 | $ | 678 | $ | 30,824 | ||||||||
Percentage of total | 77 | % | 21 | % | 2 | % | 100 | % |
December 31, 2014 | ||||||||||||||||
FICO scores | ||||||||||||||||
(Dollars in millions) | 720 and above | Below 720 | No FICO Available(1) | Total | ||||||||||||
Residential mortgage | $ | 22,505 | $ | 5,717 | $ | 493 | $ | 28,715 | ||||||||
Home equity and other consumer loans | 2,209 | 754 | 83 | 3,046 | ||||||||||||
Total consumer portfolio | 24,714 | 6,471 | 576 | 31,761 | ||||||||||||
Purchased credit-impaired loans | 73 | 111 | 13 | 197 | ||||||||||||
Total | $ | 24,787 | $ | 6,582 | $ | 589 | $ | 31,958 | ||||||||
Percentage of total | 77 | % | 21 | % | 2 | % | 100 | % |
(1) | Represents loans for which management was not able to obtain an updated FICO score (e.g., due to recent profile changes). |
September 30, 2015 | ||||||||||||||||||||
LTV ratios | ||||||||||||||||||||
(Dollars in millions) | Less than or Equal to 80 Percent | Greater than 80 and Less than 100 Percent | Greater than or Equal to 100 Percent | No LTV Available(1) | Total | |||||||||||||||
Residential mortgage | $ | 26,622 | $ | 850 | $ | 60 | $ | 73 | $ | 27,605 | ||||||||||
Home equity loans | 2,237 | 219 | 87 | 52 | 2,595 | |||||||||||||||
Total consumer portfolio | 28,859 | 1,069 | 147 | 125 | 30,200 | |||||||||||||||
Purchased credit-impaired loans | 112 | 34 | 10 | 1 | 157 | |||||||||||||||
Total | $ | 28,971 | $ | 1,103 | $ | 157 | $ | 126 | $ | 30,357 | ||||||||||
Percentage of total | 95 | % | 4 | % | 1 | % | — | % | 100 | % |
64
Note 3—Loans and Allowance for Loan Losses (Continued)
December 31, 2014 | ||||||||||||||||||||
LTV ratios | ||||||||||||||||||||
(Dollars in millions) | Less than or Equal to 80 Percent | Greater than 80 and Less than 100 Percent | Greater than or Equal to 100 Percent | No LTV Available(1) | Total | |||||||||||||||
Residential mortgage | $ | 27,162 | $ | 1,430 | $ | 92 | $ | 31 | $ | 28,715 | ||||||||||
Home equity loans | 2,364 | 270 | 118 | 50 | 2,802 | |||||||||||||||
Total consumer portfolio | 29,526 | 1,700 | 210 | 81 | 31,517 | |||||||||||||||
Purchased credit-impaired loans | 131 | 45 | 18 | 1 | 195 | |||||||||||||||
Total | $ | 29,657 | $ | 1,745 | $ | 228 | $ | 82 | $ | 31,712 | ||||||||||
Percentage of total | 94 | % | 5 | % | 1 | % | — | % | 100 | % |
(1) | Represents loans for which management was not able to obtain refreshed property values. |
Troubled Debt Restructurings
The following table provides a summary of the Company’s recorded investment in TDRs as of September 30, 2015 and December 31, 2014. The summary includes those TDRs that are on nonaccrual status and those that continue to accrue interest. The Company had $23 million and $33 million in commitments to lend additional funds to borrowers with loan modifications classified as TDRs as of September 30, 2015 and December 31, 2014, respectively.
(Dollars in millions) | September 30, 2015 | December 31, 2014 | ||||||
Commercial and industrial | $ | 129 | $ | 100 | ||||
Commercial mortgage | 20 | 28 | ||||||
Total commercial portfolio | 149 | 128 | ||||||
Residential mortgage | 289 | 308 | ||||||
Home equity and other consumer loans | 28 | 30 | ||||||
Total consumer portfolio | 317 | 338 | ||||||
Total restructured loans, excluding purchased credit-impaired loans | $ | 466 | $ | 466 |
For the third quarter of 2015, TDR modifications in the commercial portfolio segment were primarily composed of interest rate changes, maturity extensions, covenant waivers, conversions from revolving lines of credit to term loans, or some combination thereof. In the consumer portfolio segment, primarily all of the modifications were composed of interest rate reductions and maturity extensions. Charge-offs related to TDR modifications for the nine months ended September 30, 2015 and September 30, 2014 were not material. For the commercial and consumer portfolio segments, the allowance for loan losses for TDRs is measured on an individual loan basis or in pools with similar risk characteristics.
65
Note 3—Loans and Allowance for Loan Losses (Continued)
The following table provides the pre- and post-modification outstanding recorded investment amounts of TDRs as of the date of the restructuring that occurred during the three and nine months ended September 30, 2015 and 2014:
For the Three Months Ended September 30, 2015 | For the Nine Months Ended September 30, 2015 | |||||||||||||||
(Dollars in millions) | Pre-Modification Outstanding Recorded Investment(1) | Post-Modification Outstanding Recorded Investment(2) | Pre-Modification Outstanding Recorded Investment(1) | Post-Modification Outstanding Recorded Investment(2) | ||||||||||||
Commercial and industrial | $ | 4 | $ | 4 | $ | 110 | $ | 110 | ||||||||
Commercial mortgage | — | — | 8 | 8 | ||||||||||||
Total commercial portfolio | 4 | 4 | 118 | 118 | ||||||||||||
Residential mortgage | 3 | 3 | 13 | 13 | ||||||||||||
Home equity and other consumer loans | 1 | 1 | 3 | 3 | ||||||||||||
Total consumer portfolio | 4 | 4 | 16 | 16 | ||||||||||||
Total | $ | 8 | $ | 8 | $ | 134 | $ | 134 |
(1) | Represents the recorded investment in the loan immediately prior to the restructuring event. |
(2) | Represents the recorded investment in the loan immediately following the restructuring event. It includes the effect of paydowns that were required as part of the restructuring terms. |
For the Three Months Ended September 30, 2014 | For the Nine Months Ended September 30, 2014 | |||||||||||||||
(Dollars in millions) | Pre-Modification Outstanding Recorded Investment(1) | Post-Modification Outstanding Recorded Investment(2) | Pre-Modification Outstanding Recorded Investment(1) | Post-Modification Outstanding Recorded Investment(2) | ||||||||||||
Commercial and industrial | $ | 25 | $ | 25 | $ | 105 | $ | 105 | ||||||||
Commercial mortgage | 2 | 2 | 20 | 20 | ||||||||||||
Total commercial portfolio | 27 | 27 | 125 | 125 | ||||||||||||
Residential mortgage | 7 | 7 | 17 | 16 | ||||||||||||
Home equity and other consumer loans | 5 | 5 | 9 | 9 | ||||||||||||
Total consumer portfolio | 12 | 12 | 26 | 25 | ||||||||||||
Total | $ | 39 | $ | 39 | $ | 151 | $ | 150 |
(1) | Represents the recorded investment in the loan immediately prior to the restructuring event. |
(2) | Represents the recorded investment in the loan immediately following the restructuring event. It includes the effect of paydowns that were required as part of the restructuring terms. |
66
Note 3—Loans and Allowance for Loan Losses (Continued)
The following table provides the recorded investment amounts of TDRs at the date of default, for which there was a payment default during the three and nine months ended September 30, 2015 and 2014, and where the default occurred within the first twelve months after modification into a TDR. A payment default is defined as the loan being 60 days or more past due.
(Dollars in millions) | For the Three Months Ended September 30, 2015 | For the Nine Months Ended September 30, 2015 | ||||||
Commercial and industrial | $ | — | $ | 25 | ||||
Commercial mortgage | — | 3 | ||||||
Total commercial portfolio | — | 28 | ||||||
Residential mortgage | 4 | 4 | ||||||
Home equity and other consumer loans | — | — | ||||||
Total consumer portfolio | 4 | 4 | ||||||
Total | $ | 4 | $ | 32 |
(Dollars in millions) | For the Three Months Ended September 30, 2014 | For the Nine Months Ended September 30, 2014 | ||||||
Commercial and industrial | $ | 4 | $ | 10 | ||||
Commercial mortgage | 4 | 7 | ||||||
Total commercial portfolio | 8 | 17 | ||||||
Residential mortgage | 1 | 5 | ||||||
Home equity and other consumer loans | — | 1 | ||||||
Total consumer portfolio | 1 | 6 | ||||||
Total | $ | 9 | $ | 23 |
For the TDR consumer portfolio, historical payment defaults and the propensity to redefault are some of the factors considered when determining the allowance for loan losses for situations where impairment is measured using the present value of expected future cash flows discounted at the loan’s effective interest rate.
Loan Impairment
Loans that are individually evaluated for impairment include larger nonaccruing loans within the commercial portfolio and loans modified in a TDR. The Company records an impairment allowance when the value of a loan evaluated for impairment is less than the recorded investment in the loan.
The following tables show information about impaired loans by class as of September 30, 2015 and December 31, 2014:
September 30, 2015 | ||||||||||||||||||||||||
Recorded Investment | Unpaid Principal Balance | |||||||||||||||||||||||
(Dollars in millions) | With an Allowance | Without an Allowance | Total | Allowance for Impaired Loans | With an Allowance | Without an Allowance | ||||||||||||||||||
Commercial and industrial | $ | 154 | $ | 52 | $ | 206 | $ | 24 | $ | 166 | $ | 67 | ||||||||||||
Commercial mortgage | 19 | 6 | 25 | 1 | 29 | — | ||||||||||||||||||
Total commercial portfolio | 173 | 58 | 231 | 25 | 195 | 67 | ||||||||||||||||||
Residential mortgage | 188 | 101 | 289 | 15 | 200 | 117 | ||||||||||||||||||
Home equity and other consumer loans | 6 | 22 | 28 | 1 | 8 | 35 | ||||||||||||||||||
Total consumer portfolio | 194 | 123 | 317 | 16 | 208 | 152 | ||||||||||||||||||
Total, excluding purchased credit-impaired loans | 367 | 181 | 548 | 41 | 403 | 219 | ||||||||||||||||||
Purchased credit-impaired loans | — | 1 | 1 | — | 1 | 2 | ||||||||||||||||||
Total | $ | 367 | $ | 182 | $ | 549 | $ | 41 | $ | 404 | $ | 221 |
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Note 3—Loans and Allowance for Loan Losses (Continued)
December 31, 2014 | ||||||||||||||||||||||||
Recorded Investment | Unpaid Principal Balance | |||||||||||||||||||||||
(Dollars in millions) | With an Allowance | Without an Allowance | Total | Allowance for Impaired Loans | With an Allowance | Without an Allowance | ||||||||||||||||||
Commercial and industrial | $ | 89 | $ | 35 | $ | 124 | $ | 14 | $ | 120 | $ | 39 | ||||||||||||
Commercial mortgage | 37 | 3 | 40 | 4 | 39 | 3 | ||||||||||||||||||
Total commercial portfolio | 126 | 38 | 164 | 18 | 159 | 42 | ||||||||||||||||||
Residential mortgage | 198 | 110 | 308 | 16 | 211 | 127 | ||||||||||||||||||
Home equity and other consumer loans | 6 | 24 | 30 | — | 7 | 37 | ||||||||||||||||||
Total consumer portfolio | 204 | 134 | 338 | 16 | 218 | 164 | ||||||||||||||||||
Total, excluding purchased credit-impaired loans | 330 | 172 | 502 | 34 | 377 | 206 | ||||||||||||||||||
Purchased credit-impaired loans | — | 1 | 1 | — | — | 2 | ||||||||||||||||||
Total | $ | 330 | $ | 173 | $ | 503 | $ | 34 | $ | 377 | $ | 208 |
The following table presents the average recorded investment in impaired loans and the amount of interest income recognized for impaired loans during the three and nine months ended September 30, 2015 and 2014 for the commercial, consumer and purchased credit-impaired loans portfolio segments.
For the Three Months Ended September 30, | For the Nine Months Ended September 30, | |||||||||||||||||||||||||||||||
2015 | 2014 | 2015 | 2014 | |||||||||||||||||||||||||||||
(Dollars in millions) | Average Recorded Investment | Recognized Interest Income | Average Recorded Investment | Recognized Interest Income | Average Recorded Investment | Recognized Interest Income | Average Recorded Investment | Recognized Interest Income | ||||||||||||||||||||||||
Commercial and industrial | $ | 191 | $ | 1 | $ | 203 | $ | — | $ | 174 | $ | 4 | $ | 204 | $ | 4 | ||||||||||||||||
Commercial mortgage | 28 | — | 33 | — | 31 | 1 | 35 | 2 | ||||||||||||||||||||||||
Construction | — | — | — | — | — | — | — | 1 | ||||||||||||||||||||||||
Total commercial portfolio | 219 | 1 | 236 | — | 205 | 5 | 239 | 7 | ||||||||||||||||||||||||
Residential mortgage | 295 | 3 | 307 | 2 | 298 | 8 | 310 | 8 | ||||||||||||||||||||||||
Home equity and other consumer loans | 29 | — | 28 | — | 30 | 1 | 27 | 1 | ||||||||||||||||||||||||
Total consumer portfolio | 324 | 3 | 335 | 2 | 328 | 9 | 337 | 9 | ||||||||||||||||||||||||
Total, excluding purchased credit-impaired loans | 543 | 4 | 571 | 2 | 533 | 14 | 576 | 16 | ||||||||||||||||||||||||
Purchased credit-impaired loans | 2 | — | 2 | — | 2 | — | 2 | — | ||||||||||||||||||||||||
Total | $ | 545 | $ | 4 | $ | 573 | $ | 2 | $ | 535 | $ | 14 | $ | 578 | $ | 16 |
The Company transferred a net $284 million of commercial loans from held for investment to held for sale, and sold $263 million of commercial loans during the nine months ended September 30, 2015. The Company transferred a net $96 million of commercial loans from held for investment to held for sale, and sold $84 million of commercial loans during the nine months ended September 30, 2014. The Company transferred $583 million of consumer loans from held for investment to held for sale which were all sold during the nine months ended September 30, 2015 with proceeds from sale of $597 million. No consumer loans were sold or transferred from held for investment to held for sale during the nine months ended September 30, 2014.
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Note 4—Variable Interest Entities
In the normal course of business, the Company has certain financial interests in entities which have been determined to be VIEs. Generally, a VIE is a corporation, partnership, trust or other legal structure where the equity investors do not have substantive voting rights, an obligation to absorb the entity’s losses or the right to receive the entity’s returns, or the ability to direct the significant activities of the entity. The following discusses the Company’s consolidated and unconsolidated VIEs.
Consolidated VIEs
The following tables present the assets and liabilities of consolidated VIEs recorded on the Company’s consolidated balance sheet at September 30, 2015 and December 31, 2014:
September 30, 2015 | ||||||||||||||||||||||||
Consolidated Assets | Consolidated Liabilities | |||||||||||||||||||||||
(Dollars in millions) | Interest Bearing Deposits in Banks | Loans Held for Investment, net | Other Assets | Total Assets | Other Liabilities | Total Liabilities | ||||||||||||||||||
LIHC investments | $ | 9 | $ | — | $ | 196 | $ | 205 | $ | — | $ | — | ||||||||||||
Leasing investments | 12 | 601 | 158 | 771 | 63 | 63 | ||||||||||||||||||
Total consolidated VIEs | $ | 21 | $ | 601 | $ | 354 | $ | 976 | $ | 63 | $ | 63 |
December 31, 2014 | ||||||||||||||||||||||||
Consolidated Assets | Consolidated Liabilities | |||||||||||||||||||||||
(Dollars in millions) | Interest Bearing Deposits in Banks | Loans Held for Investment, net | Other Assets | Total Assets | Other Liabilities | Total Liabilities | ||||||||||||||||||
LIHC investments | $ | 9 | $ | — | $ | 230 | $ | 239 | $ | — | $ | — | ||||||||||||
Leasing investments | 10 | 653 | 147 | 810 | 80 | 80 | ||||||||||||||||||
Total consolidated VIEs | $ | 19 | $ | 653 | $ | 377 | $ | 1,049 | $ | 80 | $ | 80 |
LIHC Investments
The Company sponsors, manages and syndicates two LIHC investment fund structures. These investments are designed to generate a return primarily through the realization of U.S. federal tax credits and deductions. The Company is considered the primary beneficiary and has consolidated these investments because the Company has the power to direct activities that most significantly impact the funds’ economic performances and also has the obligation to absorb losses of the funds that could potentially be significant to the funds. Neither creditors nor equity investors in the LIHC investments have any recourse to the general credit of the Company, and the Company’s creditors do not have any recourse to the assets of the consolidated LIHC investments.
Leasing Investments
The Company has leasing investments primarily in the wind, rail and coal industries. The Company is considered the primary beneficiary and has consolidated these investments because the Company has the power to direct the activities of these entities that significantly impact the entities’ economic performances. The Company also has the right to receive potentially significant benefits or the obligation to absorb potentially significant losses of these investments.
69
Unconsolidated VIEs
The following tables present the Company’s carrying amounts related to the unconsolidated VIEs at September 30, 2015 and December 31, 2014. The tables also present the Company’s maximum exposure to loss resulting from its involvement with these VIEs. The maximum exposure to loss represents the carrying amount of the Company’s involvement plus any legally binding unfunded commitments in the unlikely event that all of the assets in the VIEs become worthless.
September 30, 2015 | ||||||||||||||||||||||||||||
Unconsolidated Assets | Unconsolidated Liabilities | |||||||||||||||||||||||||||
(Dollars in millions) | Securities Available for Sale | Loans Held for Investment | Other Assets | Total Assets | Other Liabilities | Total Liabilities | Maximum Exposure to Loss | |||||||||||||||||||||
LIHC investments | $ | 25 | $ | 184 | $ | 1,074 | $ | 1,283 | $ | 371 | $ | 371 | $ | 1,283 | ||||||||||||||
Leasing investments | — | 20 | 948 | 968 | 61 | 61 | 988 | |||||||||||||||||||||
Other investments | — | 30 | 18 | 48 | — | — | 50 | |||||||||||||||||||||
Total unconsolidated VIEs | $ | 25 | $ | 234 | $ | 2,040 | $ | 2,299 | $ | 432 | $ | 432 | $ | 2,321 |
December 31, 2014 | ||||||||||||||||||||||||||||
Unconsolidated Assets | Unconsolidated Liabilities | |||||||||||||||||||||||||||
(Dollars in millions) | Securities Available for Sale | Loans Held for Investment | Other Assets | Total Assets | Other Liabilities | Total Liabilities | Maximum Exposure to Loss | |||||||||||||||||||||
LIHC investments (1) | $ | 25 | $ | 163 | $ | 1,101 | $ | 1,289 | $ | 433 | $ | 433 | $ | 1,289 | ||||||||||||||
Leasing investments | — | 21 | 886 | 907 | 55 | 55 | 923 | |||||||||||||||||||||
Other investments | — | 29 | 20 | 49 | — | — | 51 | |||||||||||||||||||||
Total unconsolidated VIEs | $ | 25 | $ | 213 | $ | 2,007 | $ | 2,245 | $ | 488 | $ | 488 | $ | 2,263 |
(1) | Prior period amounts have been revised to reflect the January 1, 2015 adoption of Accounting Standards Update 2014-01 related to investments in qualified affordable housing projects. |
LIHC Investments
The Company makes investments in partnerships and funds formed by third parties. The primary purpose of the partnerships and funds is to invest in low-income housing units and distribute tax credits and tax benefits associated with the underlying properties to investors. The Company is a limited partner investor and is allocated tax credits and deductions, but has no voting or other rights to direct the activities of the funds or partnerships, and therefore is not considered the primary beneficiary and does not consolidate these investments.
The following table presents the impact of the unconsolidated LIHC investments on our consolidated statements of income for the three and nine months ended September 30, 2015 and 2014:
For the Three Months Ended | For the Nine Months Ended | |||||||||||||||
September 30, 2015 | September 30, 2014 | September 30, 2015 | September 30, 2014 | |||||||||||||
(Dollars in millions) | ||||||||||||||||
Income (loss) from LIHC investments included in other noninterest expense | $ | 5 | $ | 4 | $ | 9 | $ | 9 | ||||||||
Amortization of LIHC investments included in income tax expense | 28 | 30 | 84 | 85 | ||||||||||||
Tax credits and other tax benefits from LIHC investments included in income tax expense | 46 | 41 | 136 | 119 |
70
Leasing Investments
The unconsolidated VIEs related to leasing investments are primarily renewable energy investments. Through its subsidiaries, the Company makes equity investments in LLCs established by a third party sponsor. The LLCs are created to operate and manage wind, solar, hydroelectric and cogeneration power plant projects. Power generated by the projects is sold to third parties through long-term purchase power agreements. As a limited investor member, the Company is allocated production tax credits and taxable income or losses associated with the projects. The Company has no voting or other rights to direct the activities of the LLCs, and therefore is not considered the primary beneficiary and does not consolidate these investments.
Other Investments
The Company has other investments in structures formed by third parties. The Company has no voting or other rights to direct the activities of the investments that would most significantly impact the entities’ performance, and therefore is not considered the primary beneficiary and does not consolidate these investments.
Note 5—Commercial Paper and Other Short-Term Borrowings
The following table is a summary of the Company's commercial paper and other short-term borrowings:
(Dollars in millions) | September 30, 2015 | December 31, 2014 | ||||||
Federal funds purchased and securities sold under repurchase agreements, with weighted average interest rates of 0.23% and 0.12% at September 30, 2015 and December 31, 2014, respectively | $ | 94 | $ | 111 | ||||
Commercial paper, with a weighted average interest rate of 0.22% and 0.16% at September 30, 2015 and December 31, 2014, respectively | 1,944 | 2,593 | ||||||
Federal Home Loan Bank advances, with a weighted average interest rate of 0.02% at September 30, 2015 | 300 | — | ||||||
Total commercial paper and other short-term borrowings | $ | 2,338 | $ | 2,704 |
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Note 6—Long-Term Debt
The following is a summary of MUAH's, the Bank's and other subsidiaries' long-term debt:
(Dollars in millions) | September 30, 2015 | December 31, 2014 | ||||||
Debt issued by MUAH | ||||||||
Senior debt: | ||||||||
Floating rate senior notes due February 2018. These notes, which bear interest at 0.57% above 3-month LIBOR, had a rate of 0.88% at September 30, 2015(2) | $ | 250 | $ | — | ||||
Fixed rate 1.625% notes due February 2018(2) | 450 | — | ||||||
Fixed rate 2.25% notes due February 2020(2) | 1,000 | — | ||||||
Fixed rate 3.50% notes due June 2022 | 398 | 398 | ||||||
Fixed rate 3.00% notes due February 2025(2) | 498 | — | ||||||
Subordinated debt due to BTMU: | ||||||||
Floating rate subordinated debt due December 2023. This note, which bears interest at 1.38% above 3-month LIBOR, had a rate of 1.71% at September 30, 2015 and 1.63% at December 31, 2014 | 300 | 300 | ||||||
Junior subordinated debt payable to trusts(1): | ||||||||
Floating rate notes due September 2036. These notes bear a combined weighted-average rate of 2.04% at September 30, 2015 and 2.35% at December 31, 2014 | 36 | 52 | ||||||
Total debt issued by MUAH | 2,932 | 750 | ||||||
Debt issued by MUB and other subsidiaries | ||||||||
Senior debt: | ||||||||
Fixed FHLB of San Francisco advances due February 2016. These notes bear a combined weighted-average rate of 2.50% at September 30, 2015 and 2.56% at December 31, 2014 | $ | 500 | $ | 800 | ||||
Fixed rate 3.00% notes due June 2016 | 700 | 700 | ||||||
Fixed rate 1.50% notes due September 2016 | 499 | 499 | ||||||
Floating rate notes due September 2016. These notes, which bear interest at 0.75% above 3-month LIBOR, had a rate of 1.08% at September 30, 2015 and 1.00% at December 31, 2014 | 500 | 500 | ||||||
Floating rate notes due May 2017. These notes, which bear interest at 0.40% above 3-month LIBOR, had a rate of 0.70% at September 30, 2015 and 0.63% at December 31, 2014 | 250 | 250 | ||||||
Fixed rate 2.125% notes due June 2017 | 499 | 499 | ||||||
Fixed rate 2.625% notes due September 2018 | 1,000 | 1,000 | ||||||
Fixed rate 2.250% notes due May 2019 | 509 | 499 | ||||||
Senior debt due to BTMU: | ||||||||
Floating rate debt due January 2018. These notes, which bears interest at 0.85% above 1-month LIBOR, had a rate of 1.05% at September 30, 2015 | 1,000 | — | ||||||
Floating debt notes due January 2018. These notes, which bears interest at 0.87% above 1-month LIBOR, had a rate of 1.06% at September 30, 2015 | 1,500 | — | ||||||
Subordinated debt: | ||||||||
Fixed rate 5.95% notes due May 2016 | 704 | 711 | ||||||
Subordinated debt due to BTMU: | ||||||||
Floating rate subordinated debt due June 2023. This note, which bears interest at 1.20% above 3-month LIBOR, had a rate of 1.53% at September 30, 2015 and 1.45% at December 31, 2014 | 750 | 750 | ||||||
Capital lease obligations with a combined weighted-average interest rate of 4.92% at September 30, 2015 and December 31, 2014(1) | 14 | 14 | ||||||
Total debt issued by MUB and other subsidiaries | 8,425 | 6,222 | ||||||
Total long-term debt | $ | 11,357 | $ | 6,972 |
(1) | Long-term debt assumed through acquisitions. |
(2) | In January 2015, MUAH filed a new shelf registration statement with the SEC authorizing issuance of a total of $3.6 billion of debt and other securities, effectively terminating the prior shelf registration statement. In February 2015, MUAH issued an aggregate of $2.2 billion of senior notes from the new shelf registration statement. As of September 30, 2015, $1.4 billion of debt or other securities were available for issuance under this shelf registration. For a more detailed discussion of the debt issuance, see Note 10 to our Consolidated Financial Statements included in Part II, Item 8. “Financial Statements and Supplementary Data” in our 2014 Form 10-K. |
72
Senior Debt due to BTMU
On August 25, 2015, the Bank issued $1 billion in senior unsecured debt to BTMU. The senior debt bears interest equal to a per annum rate of one-month LIBOR plus 0.85%, which will be paid monthly, and matures on January 2, 2018.
On September 22, 2015, the Bank issued $1.5 billion in senior unsecured debt to BTMU. The senior debt bears interest equal to a per annum rate of one-month LIBOR plus 0.87%, which will be paid monthly, and matures on January 2, 2018.
Senior Debt Issued Subsequent to September 30, 2015
In October 2015, the Bank issued $1 billion in senior unsecured debt to BTMU. The senior debt bears interest equal to a per annum rate of one-month LIBOR plus 1.03%, which will be paid monthly, and matures on January 2, 2018.
73
Note 7—Fair Value Measurement and Fair Value of Financial Instruments
Valuation Methodologies
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (i.e., an exit price) in an orderly transaction between willing market participants at the measurement date. The Company has an established and documented process for determining fair value for financial assets and liabilities that are measured at fair value on either a recurring or nonrecurring basis. When available, quoted market prices are used to determine fair value. If quoted market prices are not available, fair value is based upon valuation techniques that use, where possible, current market-based or independently sourced parameters, such as yield curves, foreign exchange rates, credit spreads, commodity prices and implied volatilities. Valuation adjustments may be made to ensure the financial instruments are recorded at fair value. These adjustments include amounts that reflect counterparty credit quality and that consider the Company's own creditworthiness in determining the fair value of its trading assets and liabilities. For further information related to the valuation methodologies used for certain financial assets and financial liabilities measured at fair value, see Note 11 to the Consolidated Financial Statements in Part II, Item 8. “Financial Statements and Supplementary Data” in our 2014 Form 10-K.
Fair Value Hierarchy
In determining fair value, the Company maximizes the use of observable market inputs and minimizes the use of unobservable inputs. Observable inputs reflect market-derived or market-based information obtained from independent sources, while unobservable inputs reflect the Company’s estimate about market data. Based on the observability of the significant inputs used, the Company classifies its fair value measurements in accordance with the three-level hierarchy as defined by GAAP. This hierarchy is based on the quality, observability and reliability of the information used to determine fair value. For further information related to the fair value hierarchy, see Note 11 to the Consolidated Financial Statements in Part II, Item 8. “Financial Statements and Supplementary Data” in our 2014 Form 10-K.
Valuation Processes
The Company has established a valuation committee to oversee its valuation framework for measuring fair value and to establish valuation policies and procedures. The valuation committee’s responsibilities include reviewing fair value measurements and categorizations within the fair value hierarchy and monitoring the use of pricing sources, mark-to-model valuations, dealer quotes and other valuation processes. The valuation committee reports to the Company’s Risk & Capital Committee and meets at least quarterly.
Independent Price Verification is performed periodically by the Company to test the market data and valuations of substantially all instruments measured at fair value on a recurring basis. As part of its independent price verification procedures, the Company compares pricing sources, tests data variances within certain thresholds and performs variance analysis, utilizing third party valuations and both internal and external models. Results are formally reported on a quarterly basis to the valuation committee. For further information related to valuation processes, see Note 11 to the Consolidated Financial Statements in Part II, Item 8. “Financial Statements and Supplementary Data” in our 2014 Form 10-K.
74
Note 7—Fair Value Measurement and Fair Value of Financial Instruments (Continued)
Fair Value Measurements on a Recurring Basis
The following tables present financial assets and financial liabilities measured at fair value on a recurring basis as of September 30, 2015 and December 31, 2014, by major category and by valuation hierarchy level:
September 30, 2015 | ||||||||||||||||||||
(Dollars in millions) | Level 1 | Level 2 | Level 3 | Netting Adjustment(1) | Fair Value | |||||||||||||||
Assets | ||||||||||||||||||||
Trading account assets: | ||||||||||||||||||||
U.S. government-sponsored agency securities | $ | — | $ | 111 | $ | — | $ | — | $ | 111 | ||||||||||
State and municipal securities | — | 7 | — | — | 7 | |||||||||||||||
Interest rate derivative contracts | — | 1,132 | 3 | (164 | ) | 971 | ||||||||||||||
Commodity derivative contracts | — | 430 | 2 | (380 | ) | 52 | ||||||||||||||
Foreign exchange derivative contracts | 1 | 109 | 1 | (65 | ) | 46 | ||||||||||||||
Equity derivative contracts | — | — | 182 | (169 | ) | 13 | ||||||||||||||
Total trading account assets | 1 | 1,789 | 188 | (778 | ) | 1,200 | ||||||||||||||
Securities available for sale: | ||||||||||||||||||||
Residential mortgage-backed securities: | ||||||||||||||||||||
U.S government and government-sponsored agencies | — | 7,860 | — | — | 7,860 | |||||||||||||||
Privately issued | — | 132 | — | — | 132 | |||||||||||||||
Privately issued - commercial mortgage-backed securities | — | 1,595 | — | — | 1,595 | |||||||||||||||
Collateralized loan obligations | — | 3,109 | — | — | 3,109 | |||||||||||||||
Other | — | 8 | — | — | 8 | |||||||||||||||
Other debt securities: | ||||||||||||||||||||
Direct bank purchase bonds | — | — | 1,594 | — | 1,594 | |||||||||||||||
Other | — | 2 | 47 | — | 49 | |||||||||||||||
Equity securities | 8 | — | — | — | 8 | |||||||||||||||
Total securities available for sale | 8 | 12,706 | 1,641 | — | 14,355 | |||||||||||||||
Other assets: | ||||||||||||||||||||
Interest rate hedging contracts | — | 208 | — | (169 | ) | 39 | ||||||||||||||
Other derivative contracts | — | 1 | 2 | (1 | ) | 2 | ||||||||||||||
Total other assets | — | 209 | 2 | (170 | ) | 41 | ||||||||||||||
Total assets | $ | 9 | $ | 14,704 | $ | 1,831 | $ | (948 | ) | $ | 15,596 | |||||||||
Percentage of total | — | % | 94 | % | 12 | % | (6 | )% | 100 | % | ||||||||||
Percentage of total Company assets | — | % | 13 | % | 2 | % | (1 | )% | 14 | % | ||||||||||
Liabilities | ||||||||||||||||||||
Trading account liabilities: | ||||||||||||||||||||
Interest rate derivative contracts | $ | 4 | $ | 1,072 | $ | — | $ | (844 | ) | $ | 232 | |||||||||
Commodity derivative contracts | — | 418 | 2 | (88 | ) | 332 | ||||||||||||||
Foreign exchange derivative contracts | 3 | 86 | 1 | (26 | ) | 64 | ||||||||||||||
Equity derivative contracts | — | — | 181 | — | 181 | |||||||||||||||
Securities sold, not yet purchased | — | 82 | — | — | 82 | |||||||||||||||
Total trading account liabilities | 7 | 1,658 | 184 | (958 | ) | 891 | ||||||||||||||
Other liabilities: | ||||||||||||||||||||
FDIC clawback liability | — | — | 110 | — | 110 | |||||||||||||||
Interest rate hedging contracts | — | — | — | — | — | |||||||||||||||
Other derivative contracts | — | 1 | 2 | — | 3 | |||||||||||||||
Total other liabilities | — | 1 | 112 | — | 113 | |||||||||||||||
Total liabilities | $ | 7 | $ | 1,659 | $ | 296 | $ | (958 | ) | $ | 1,004 | |||||||||
Percentage of total | 1 | % | 164 | % | 30 | % | (95 | )% | 100 | % | ||||||||||
Percentage of total Company liabilities | — | % | 2 | % | — | % | (1 | )% | 1 | % |
(1) | Amounts represent the impact of legally enforceable master netting agreements between the same counterparties that allow the Company to net settle all contracts. |
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Note 7—Fair Value Measurement and Fair Value of Financial Instruments (Continued)
December 31, 2014 | ||||||||||||||||||||
(Dollars in millions) | Level 1 | Level 2 | Level 3 | Netting Adjustment(1) | Fair Value | |||||||||||||||
Assets | ||||||||||||||||||||
Trading account assets: | ||||||||||||||||||||
U.S. Treasury securities | $ | — | $ | 69 | $ | — | $ | — | $ | 69 | ||||||||||
U.S. government-sponsored agency securities | — | 125 | — | — | 125 | |||||||||||||||
State and municipal securities | — | 10 | — | — | 10 | |||||||||||||||
Interest rate derivative contracts | — | 928 | 5 | (172 | ) | 761 | ||||||||||||||
Commodity derivative contracts | — | 417 | 5 | (392 | ) | 30 | ||||||||||||||
Foreign exchange derivative contracts | 1 | 104 | 1 | (63 | ) | 43 | ||||||||||||||
Equity derivative contracts | — | — | 300 | (224 | ) | 76 | ||||||||||||||
Total trading account assets | 1 | 1,653 | 311 | (851 | ) | 1,114 | ||||||||||||||
Securities available for sale: | ||||||||||||||||||||
Residential mortgage-backed securities: | ||||||||||||||||||||
U.S government and government-sponsored agencies | — | 7,560 | — | — | 7,560 | |||||||||||||||
Privately issued | — | 168 | — | — | 168 | |||||||||||||||
Privately issued - commercial mortgage-backed securities | — | 1,691 | — | — | 1,691 | |||||||||||||||
Collateralized loan obligations | — | 2,494 | — | — | 2,494 | |||||||||||||||
Other | — | 9 | — | — | 9 | |||||||||||||||
Other debt securities: | ||||||||||||||||||||
Direct bank purchase bonds | — | — | 1,741 | — | 1,741 | |||||||||||||||
Other | — | 3 | 49 | — | 52 | |||||||||||||||
Equity securities | 9 | — | — | — | 9 | |||||||||||||||
Total securities available for sale | 9 | 11,925 | 1,790 | — | 13,724 | |||||||||||||||
Other assets: | ||||||||||||||||||||
Interest rate hedging contracts | — | 36 | — | (36 | ) | — | ||||||||||||||
Other derivative contracts | — | — | 2 | — | 2 | |||||||||||||||
Total other assets | — | 36 | 2 | (36 | ) | 2 | ||||||||||||||
Total assets | $ | 10 | $ | 13,614 | $ | 2,103 | $ | (887 | ) | $ | 14,840 | |||||||||
Percentage of total | — | % | 92 | % | 14 | % | (6 | )% | 100 | % | ||||||||||
Percentage of total Company assets | — | % | 12 | % | 2 | % | (1 | )% | 13 | % | ||||||||||
Liabilities | ||||||||||||||||||||
Trading account liabilities: | ||||||||||||||||||||
Interest rate derivative contracts | $ | 1 | $ | 829 | $ | — | $ | (667 | ) | $ | 163 | |||||||||
Commodity derivative contracts | — | 403 | 5 | (93 | ) | 315 | ||||||||||||||
Foreign exchange derivative contracts | 1 | 78 | 1 | (24 | ) | 56 | ||||||||||||||
Equity derivative contracts | — | — | 299 | — | 299 | |||||||||||||||
Securities sold, not yet purchased | — | 61 | — | — | 61 | |||||||||||||||
Total trading account liabilities | 2 | 1,371 | 305 | (784 | ) | 894 | ||||||||||||||
Other liabilities: | ||||||||||||||||||||
FDIC clawback liability | — | — | 105 | — | 105 | |||||||||||||||
Interest rate hedging contracts | — | 4 | — | (3 | ) | 1 | ||||||||||||||
Other derivative contracts | — | 1 | 2 | — | 3 | |||||||||||||||
Total other liabilities | — | 5 | 107 | (3 | ) | 109 | ||||||||||||||
Total liabilities | $ | 2 | $ | 1,376 | $ | 412 | $ | (787 | ) | $ | 1,003 | |||||||||
Percentage of total | — | % | 137 | % | 41 | % | (78 | )% | 100 | % | ||||||||||
Percentage of total Company liabilities | — | % | 1 | % | — | % | (1 | )% | — | % |
(1) | Amounts represent the impact of legally enforceable master netting agreements between the same counterparties that allow the Company to net settle all contracts. |
76
Note 7—Fair Value Measurement and Fair Value of Financial Instruments (Continued)
The following tables present a reconciliation of the assets and liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the three and nine months ended September 30, 2015 and 2014. Level 3 available for sale securities at September 30, 2015 and 2014 primarily consist of direct bank purchase bonds. The Company’s policy is to recognize transfers in and out of Level 1, 2 and 3 as of the end of a reporting period.
For the Three Months Ended | ||||||||||||||||||||||||||||||||||||||||
September 30, 2015 | September 30, 2014 | |||||||||||||||||||||||||||||||||||||||
(Dollars in millions) | Trading Assets | Securities Available for Sale | Other Assets | Trading Liabilities | Other Liabilities | Trading Assets | Securities Available for Sale | Other Assets | Trading Liabilities | Other Liabilities | ||||||||||||||||||||||||||||||
Asset (liability) balance, beginning of period | $ | 283 | $ | 1,688 | $ | 1 | $ | (278 | ) | $ | (109 | ) | $ | 303 | $ | 1,945 | $ | 2 | $ | (298 | ) | $ | (105 | ) | ||||||||||||||||
Total gains (losses) (realized/unrealized): | ||||||||||||||||||||||||||||||||||||||||
Included in income before taxes | (78 | ) | — | 1 | 77 | (3 | ) | (17 | ) | — | (1 | ) | 19 | (1 | ) | |||||||||||||||||||||||||
Included in other comprehensive income | — | 12 | — | — | — | — | 5 | — | — | — | ||||||||||||||||||||||||||||||
Purchases/additions | — | 1 | — | — | — | — | 53 | — | — | — | ||||||||||||||||||||||||||||||
Sales | — | — | — | — | — | — | — | — | — | — | ||||||||||||||||||||||||||||||
Settlements | (17 | ) | (60 | ) | — | 17 | — | (10 | ) | (122 | ) | — | 10 | — | ||||||||||||||||||||||||||
Asset (liability) balance, end of period | $ | 188 | $ | 1,641 | $ | 2 | $ | (184 | ) | $ | (112 | ) | $ | 276 | $ | 1,881 | $ | 1 | $ | (269 | ) | $ | (106 | ) | ||||||||||||||||
Changes in unrealized gains (losses) included in income before taxes for assets and liabilities still held at end of period | $ | (78 | ) | $ | — | $ | 1 | $ | 77 | $ | (3 | ) | $ | (17 | ) | $ | — | $ | (1 | ) | $ | 19 | $ | (1 | ) |
77
Note 7—Fair Value Measurement and Fair Value of Financial Instruments (Continued)
For the Nine Months Ended | ||||||||||||||||||||||||||||||||||||||||
September 30, 2015 | September 30, 2014 | |||||||||||||||||||||||||||||||||||||||
(Dollars in millions) | Trading Assets | Securities Available for Sale | Other Assets | Trading Liabilities | Other Liabilities | Trading Assets | Securities Available for Sale | Other Assets | Trading Liabilities | Other Liabilities | ||||||||||||||||||||||||||||||
Asset (liability) balance, beginning of period | $ | 311 | $ | 1,790 | $ | 2 | $ | (305 | ) | $ | (107 | ) | $ | 271 | $ | 2,018 | $ | 1 | $ | (264 | ) | $ | (99 | ) | ||||||||||||||||
Total gains (losses) (realized/unrealized): | ||||||||||||||||||||||||||||||||||||||||
Included in income before taxes | (82 | ) | — | — | 79 | (5 | ) | 19 | — | — | (18 | ) | (7 | ) | ||||||||||||||||||||||||||
Included in other comprehensive income | — | 4 | — | — | — | — | 20 | — | — | — | ||||||||||||||||||||||||||||||
Purchases/additions | 1 | 18 | — | — | — | 3 | 190 | — | — | — | ||||||||||||||||||||||||||||||
Sales | — | — | — | (1 | ) | — | — | — | — | (4 | ) | — | ||||||||||||||||||||||||||||
Settlements | (42 | ) | (171 | ) | — | 43 | — | (17 | ) | (347 | ) | — | 17 | — | ||||||||||||||||||||||||||
Asset (liability) balance, end of period | $ | 188 | $ | 1,641 | $ | 2 | $ | (184 | ) | $ | (112 | ) | $ | 276 | $ | 1,881 | $ | 1 | $ | (269 | ) | $ | (106 | ) | ||||||||||||||||
Changes in unrealized gains (losses) included in income before taxes for assets and liabilities still held at end of period | $ | (82 | ) | $ | — | $ | — | $ | 79 | $ | (5 | ) | $ | 19 | $ | — | $ | — | $ | (18 | ) | $ | (7 | ) |
The following table presents information about significant unobservable inputs related to the Company’s significant Level 3 assets and liabilities at September 30, 2015.
(Dollars in millions) | Level 3 Fair Value | Valuation Technique | Significant Unobservable Input(s) | Range of Inputs | Weighted Average | |||||||||
Securities available for sale: | ||||||||||||||
Direct bank purchase bonds | $ | 1,594 | Return on equity | Market-required return on capital | 8.0 - 10.0 | % | 9.9 | % | ||||||
Probability of default | 0.0 - 25.0 | % | 0.5 | % | ||||||||||
Loss severity | 10.0 - 60.0 | % | 30.1 | % | ||||||||||
Other liabilities: | ||||||||||||||
FDIC clawback liability | $ | 110 | Discounted cash flow | Probability of default | 0.1 - 100.0 | % | 49.9 | % | ||||||
Loss severity | 0.0 - 100.0 | % | 35.9 | % |
The direct bank purchase bonds use a return on equity valuation technique. This technique uses significant unobservable inputs such as market-required return on capital, probability of default and loss severity. Increases (decreases) in any of these inputs in isolation would result in a lower (higher) fair value measurement.
The FDIC clawback liability uses a discounted cash flow valuation technique. This technique uses significant unobservable inputs such as probability of default and loss severity. Increases (decreases) in probability of default and loss severity would result in a lower (higher) liability.
Fair Value Measurement on a Nonrecurring Basis
Certain assets may be measured at fair value on a nonrecurring basis. These assets are subject to fair value adjustments that result from the application of the lower of cost or fair value accounting or write-downs of individual assets. For assets measured at fair value on a nonrecurring basis during the three and nine months ended September 30, 2015 and 2014 that were still held on the consolidated balance sheet as of the respective
78
Note 7—Fair Value Measurement and Fair Value of Financial Instruments (Continued)
periods ended, the following tables present the fair value of such assets by the level of valuation assumptions used to determine each fair value adjustment.
September 30, 2015 | Gain (Loss) For the Three Months Ended September 30, 2015 | Gain (Loss) For the Nine Months Ended September 30, 2015 | ||||||||||||||||||||||
(Dollars in millions) | Fair Value | Level 1 | Level 2 | Level 3 | ||||||||||||||||||||
Loans: | ||||||||||||||||||||||||
Impaired loans | $ | 18 | $ | — | $ | — | $ | 18 | $ | 1 | $ | (13 | ) | |||||||||||
Premises and equipment | 2 | — | — | 2 | (1 | ) | (1 | ) | ||||||||||||||||
Other assets: | ||||||||||||||||||||||||
OREO | 6 | — | — | 6 | (1 | ) | (2 | ) | ||||||||||||||||
Private equity investments | 7 | — | — | 7 | — | (5 | ) | |||||||||||||||||
Intangible assets | 3 | — | — | 3 | (3 | ) | (3 | ) | ||||||||||||||||
Total | $ | 36 | $ | — | $ | — | $ | 36 | $ | (4 | ) | $ | (24 | ) |
September 30, 2014 | Gain (Loss) For the Three Months Ended September 30, 2014 | Gain (Loss) For the Nine Months Ended September 30, 2014 | ||||||||||||||||||||||
(Dollars in millions) | Fair Value | Level 1 | Level 2 | Level 3 | ||||||||||||||||||||
Loans: | ||||||||||||||||||||||||
Impaired loans | $ | 89 | $ | — | $ | — | $ | 89 | $ | 2 | $ | (33 | ) | |||||||||||
Other assets: | ||||||||||||||||||||||||
OREO | 13 | — | — | 13 | (2 | ) | (5 | ) | ||||||||||||||||
Total | $ | 102 | $ | — | $ | — | $ | 102 | $ | — | $ | (38 | ) |
Loans include individually impaired loans that are measured based on the fair value of the underlying collateral or the fair value of the loan. The fair value of impaired loans was determined based on appraised values of the underlying collateral or market pricing for the loan, adjusted for management judgment, as of the measurement date. The fair value of OREO was primarily based on independent appraisals. The fair value of private equity investments was determined using a discounted cash flow analysis. The fair value of premises and equipment and intangible assets was determined using market pricing, adjusted for management judgment, as of the measurement date.
79
Note 7—Fair Value Measurement and Fair Value of Financial Instruments (Continued)
Fair Value of Financial Instruments Disclosures
The tables below present the carrying amount and estimated fair value of certain financial instruments, classified by valuation hierarchy level as of September 30, 2015 and as of December 31, 2014:
September 30, 2015 | ||||||||||||||||||||
(Dollars in millions) | Carrying Amount | Fair Value | Level 1 | Level 2 | Level 3 | |||||||||||||||
Assets | ||||||||||||||||||||
Cash and cash equivalents | $ | 4,374 | $ | 4,374 | $ | 4,374 | $ | — | $ | — | ||||||||||
Securities held to maturity | 10,341 | 10,528 | — | 10,528 | — | |||||||||||||||
Loans held for investment (1) | 75,353 | 76,858 | — | — | 76,858 | |||||||||||||||
Other assets | 16 | 14 | — | — | 14 | |||||||||||||||
Liabilities | ||||||||||||||||||||
Deposits | $ | 82,693 | $ | 82,759 | $ | — | $ | 82,759 | $ | — | ||||||||||
Commercial paper and other short-term borrowings | 2,338 | 2,338 | — | 2,338 | — | |||||||||||||||
Long-term debt | 11,357 | 11,393 | — | 11,393 | — | |||||||||||||||
Off-Balance Sheet Instruments | ||||||||||||||||||||
Commitments to extend credit and standby and commercial letters of credit | $ | 220 | $ | 220 | $ | — | $ | — | $ | 220 |
(1) | Excludes lease financing. The carrying amount is net of the allowance for loan and lease losses. |
December 31, 2014 | ||||||||||||||||||||
(Dollars in millions) | Carrying Amount | Fair Value | Level 1 | Level 2 | Level 3 | |||||||||||||||
Assets | ||||||||||||||||||||
Cash and cash equivalents | $ | 5,751 | $ | 5,751 | $ | 5,751 | $ | — | $ | — | ||||||||||
Securities held to maturity | 8,291 | 8,412 | — | 8,412 | — | |||||||||||||||
Loans held for investment (1) | 75,475 | 77,324 | — | — | 77,324 | |||||||||||||||
Other assets | 59 | 11 | — | — | 11 | |||||||||||||||
Liabilities | ||||||||||||||||||||
Deposits | $ | 86,004 | $ | 86,076 | $ | — | $ | 86,076 | $ | — | ||||||||||
Commercial paper and other short-term borrowings | 2,704 | 2,704 | — | 2,704 | — | |||||||||||||||
Long-term debt | 6,972 | 7,073 | — | 7,073 | — | |||||||||||||||
Off-Balance Sheet Instruments | ||||||||||||||||||||
Commitments to extend credit and standby and commercial letters of credit | $ | 269 | $ | 269 | $ | — | $ | — | $ | 269 |
(1) | Excludes lease financing. The carrying amount is net of the allowance for loan and lease losses. |
For further information on methodologies for approximating fair values, see Note 11 to the Consolidated Financial Statements in Part II, Item 8. “Financial Statements and Supplementary Data” in our 2014 Form 10-K.
80
Note 8—Derivative Instruments and Other Financial Instruments Used For Hedging
The Company enters into certain derivative and other financial instruments primarily to assist customers with their risk management objectives and to manage the Company’s exposure to interest rate risk. When entering into derivatives on behalf of customers the Company generally acts as a financial intermediary by offsetting a significant portion of the market risk for these derivatives with third parties. The Company may also enter into derivatives for other risk management purposes. All derivative instruments are recognized as assets or liabilities on the consolidated balance sheets at fair value.
Counterparty credit risk is inherent in derivative instruments. In order to reduce its exposure to counterparty credit risk, the Company utilizes credit approvals, limits, monitoring procedures and master netting and credit support annex agreements. Additionally, the Company considers counterparty credit quality and the creditworthiness of the Company in estimating the fair value of derivative instruments.
The table below presents the notional amounts and fair value amounts of the Company's derivative instruments reported on the consolidated balance sheets, segregated between derivative instruments designated and qualifying as hedging instruments and derivative instruments not designated as hedging instruments as of September 30, 2015 and December 31, 2014, respectively. Asset and liability values are presented gross, excluding the impact of legally enforceable master netting and credit support annex agreements. The fair value of asset and liability derivatives designated and qualifying as hedging instruments and derivatives designated as other risk management are included in other assets and other liabilities, respectively. The fair value of asset and liability trading derivatives are included in trading account assets and trading account liabilities, respectively.
September 30, 2015 | December 31, 2014 | |||||||||||||||||||||||
Fair Value | Fair Value | |||||||||||||||||||||||
Notional | Asset | Liability | Notional | Asset | Liability | |||||||||||||||||||
(Dollars in millions) | Amount | Derivatives | Derivatives | Amount | Derivatives | Derivatives | ||||||||||||||||||
Cash flow hedges | ||||||||||||||||||||||||
Interest rate contracts | $ | 13,400 | $ | 197 | $ | — | $ | 9,750 | $ | 34 | $ | 4 | ||||||||||||
Fair value hedges | ||||||||||||||||||||||||
Interest rate contracts | 500 | 11 | — | 500 | 2 | — | ||||||||||||||||||
Not designated as hedging instruments: | ||||||||||||||||||||||||
Trading | ||||||||||||||||||||||||
Interest rate contracts | 68,580 | 1,135 | 1,076 | 46,944 | 933 | 830 | ||||||||||||||||||
Commodity contracts | 4,239 | 432 | 420 | 4,741 | 422 | 408 | ||||||||||||||||||
Foreign exchange contracts | 5,472 | 111 | 90 | 5,661 | 106 | 80 | ||||||||||||||||||
Equity contracts | 3,457 | 182 | 181 | 3,797 | 300 | 299 | ||||||||||||||||||
Total Trading | 81,748 | 1,860 | 1,767 | 61,143 | 1,761 | 1,617 | ||||||||||||||||||
Other risk management | 275 | 3 | 3 | 286 | 2 | 3 | ||||||||||||||||||
Total derivative instruments | $ | 95,923 | $ | 2,071 | $ | 1,770 | $ | 71,679 | $ | 1,799 | $ | 1,624 |
We recognized net losses of $1 million and less than $1 million on other risk management derivatives for the three and nine months ended September 30, 2015, compared with net gains of $1 million and net losses of $1 million on other risk management derivatives for the three and nine months ended September 30, 2014, which are included in other noninterest income.
Derivatives Designated and Qualifying as Hedging Instruments
The Company uses interest rate derivatives to manage the financial impact on the Company from changes in market interest rates. These instruments are used to manage interest rate risk relating to specified groups of assets and liabilities, primarily LIBOR-based commercial loans and debt issuances. Derivatives that qualify for hedge accounting are designated as either fair value or cash flow hedges. For further information related to the Company’s hedging strategy, see Note 12 to the Consolidated Financial Statements in Part II, Item 8. “Financial Statements and Supplementary Data” in our 2014 Form 10-K.
81
Note 8—Derivative Instruments and Other Financial Instruments Used For Hedging (Continued)
Cash Flow Hedges
The Company used interest rate swaps with a notional amount of $13.4 billion at September 30, 2015 to hedge the risk of changes in cash flows attributable to changes in the designated benchmark interest rate on LIBOR indexed loans. To the extent effective, payments received (or paid) under the swap contract offset fluctuations in interest income on loans caused by changes in the relevant LIBOR index. At September 30, 2015, the weighted average remaining life of the active cash flow hedges was 3.42 years.
For cash flow hedges, the effective portion of the gain or loss on the hedging instruments is reported as a component of other comprehensive income and reclassified into earnings in the same period or periods during which the hedged cash flows are recognized in net interest income. Gains and losses representing hedge ineffectiveness are recognized in noninterest expense in the period in which they arise. At September 30, 2015, the Company expects to reclassify approximately $154 million of income from AOCI to net interest income during the twelve months ending September 30, 2016. This amount could differ from amounts actually realized due to changes in interest rates, hedge terminations and the addition of other hedges subsequent to September 30, 2015.
The following tables present the amount and location of the net gains and losses recorded in the Company’s consolidated statements of income and changes in stockholder’s equity for derivatives designated as cash flow hedges for the three and nine months ended September 30, 2015 and 2014:
Amount of Gain or (Loss) Recognized in OCI on Derivative Instruments (Effective Portion) | Gain or (Loss) Reclassified from Accumulated OCI into Income (Effective Portion) | Gain (Loss) Recognized in Income on Derivative Instruments (Ineffective Portion) | ||||||||||||||||||||||||||
For the Three Months Ended September 30, | For the Three Months Ended September 30, | For the Three Months Ended September 30, | ||||||||||||||||||||||||||
(Dollars in millions) | 2015 | 2014 | Location | 2015 | 2014 | Location | 2015 | 2014 | ||||||||||||||||||||
Derivatives in cash flow hedging relationships | ||||||||||||||||||||||||||||
Interest income | $ | 47 | $ | 32 | ||||||||||||||||||||||||
Interest rate contracts | $ | 185 | $ | (32 | ) | Interest expense | 1 | 2 | Noninterest expense | $ | — | $ | (1 | ) | ||||||||||||||
Total | $ | 185 | $ | (32 | ) | $ | 48 | $ | 34 | $ | — | $ | (1 | ) |
Amount of Gain or (Loss) Recognized in OCI on Derivative Instruments (Effective Portion) | Gain or (Loss) Reclassified from Accumulated OCI into Income (Effective Portion) | Gain (Loss) Recognized in Income on Derivative Instruments (Ineffective Portion) | ||||||||||||||||||||||||||
For the Nine Months Ended September 30, | For the Nine Months Ended September 30, | For the Nine Months Ended September 30, | ||||||||||||||||||||||||||
(Dollars in millions) | 2015 | 2014 | Location | 2015 | 2014 | Location | 2015 | 2014 | ||||||||||||||||||||
Derivatives in cash flow hedging relationships | ||||||||||||||||||||||||||||
Interest income | $ | 120 | $ | 81 | ||||||||||||||||||||||||
Interest rate contracts | $ | 296 | $ | 46 | Interest expense | 2 | 5 | Noninterest expense | $ | 1 | $ | — | ||||||||||||||||
Total | $ | 296 | $ | 46 | $ | 122 | $ | 86 | $ | 1 | $ | — |
Fair Value Hedges
The Company engages in an interest rate hedging strategy in which one or more interest rate swaps are associated with a specified interest bearing liability, in order to convert the liability from a fixed rate to a floating rate instrument. This strategy mitigates the changes in fair value of the hedged liability caused by changes in the designated benchmark interest rate, U.S. dollar LIBOR.
For fair value hedges, any ineffectiveness is recognized in noninterest expense in the period in which it arises. The change in the fair value of the hedged item and the hedging instrument, to the extent completely effective, offsets with no impact on earnings.
82
Note 8—Derivative Instruments and Other Financial Instruments Used For Hedging (Continued)
The following table presents the gains (losses) on the Company's fair value hedges for the three and nine months ended September 30, 2015 and 2014, respectively:
For the Three Months Ended September 30, 2015 | For the Nine Months Ended September 30, 2015 | |||||||||||||||||||||||||
(Dollars in millions) | Derivative | Hedged Item | Hedge Ineffectiveness | Derivative | Hedged Item | Hedge Ineffectiveness | ||||||||||||||||||||
Interest rate risk on long-term debt | $ | 6 | $ | (6 | ) | $ | — | $ | 9 | $ | (9 | ) | $ | — | ||||||||||||
Total | $ | 6 | $ | (6 | ) | $ | — | $ | 9 | $ | (9 | ) | $ | — |
For the Three Months Ended September 30, 2014 | For the Nine Months Ended September 30, 2014 | |||||||||||||||||||||||||
(Dollars in millions) | Derivative | Hedged Item | Hedge Ineffectiveness | Derivative | Hedged Item | Hedge Ineffectiveness | ||||||||||||||||||||
Interest rate risk on long-term debt | $ | (5 | ) | $ | 6 | $ | 1 | $ | (2 | ) | $ | 3 | $ | 1 | ||||||||||||
Total | $ | (5 | ) | $ | 6 | $ | 1 | $ | (2 | ) | $ | 3 | $ | 1 |
Derivatives Not Designated as Hedging Instruments
Trading Derivatives
Derivative instruments classified as trading are primarily derivatives entered into as an accommodation for customers. Trading derivatives are included in trading assets or trading liabilities with changes in fair value reflected in income from trading account activities. The majority of the Company's derivative transactions for customers were essentially offset by contracts with third parties that reduce or eliminate market risk exposures.
The Company offers market-linked CDs, which allow the customer to earn the higher of either a minimum fixed rate of interest or a return tied to either equity, commodity, or currency indices. The Company offsets its exposure to the embedded derivative contained in market-linked CDs with a matched over-the-counter option. Both the embedded derivative (when bifurcated) and hedge options are recorded at fair value with the realized and unrealized changes in fair value recorded in noninterest income within trading account activities.
The following table presents the amount of the net gains and losses for derivative instruments classified as trading reported in the consolidated statements of income under the heading trading account activities for the three and nine months ended September 30, 2015 and 2014:
Gain or (Loss) Recognized in Income on Derivative Instruments | Gain or (Loss) Recognized in Income on Derivative Instruments | |||||||||||||||
For the Three Months Ended | For the Nine Months Ended | |||||||||||||||
(Dollars in millions) | September 30, 2015 | September 30, 2014 | September 30, 2015 | September 30, 2014 | ||||||||||||
Trading derivatives: | ||||||||||||||||
Interest rate contracts | $ | (3 | ) | $ | 15 | $ | 7 | $ | 34 | |||||||
Equity contracts | — | 2 | — | 3 | ||||||||||||
Foreign exchange contracts | 7 | 7 | 18 | 13 | ||||||||||||
Commodity contracts | — | 6 | 2 | 7 | ||||||||||||
Other contracts | — | — | — | 1 | ||||||||||||
Total | $ | 4 | $ | 30 | $ | 27 | $ | 58 |
83
Note 8—Derivative Instruments and Other Financial Instruments Used For Hedging (Continued)
Offsetting Assets and Liabilities
The Company primarily enters into derivative contracts and repurchase agreements with counterparties utilizing a standard International Swaps and Derivatives Association Master Agreement and Master Repurchase Agreement, respectively; which generally establishes the terms and conditions of the transactions, including a legal right to set-off amounts payable and receivable between the Company and a counterparty, regardless of whether or not such amounts have matured or have contingency features.
The following tables present the offsetting of financial assets and liabilities as of September 30, 2015 and December 31, 2014:
September 30, 2015 | ||||||||||||||||||||||||
Gross Amounts Not Offset in Balance Sheet | ||||||||||||||||||||||||
(Dollars in millions) | Gross Amounts of Recognized Assets/Liabilities | Gross Amounts Offset in Balance Sheet | Net Amounts Presented in Balance Sheet | Financial Instruments | Cash Collateral Received/Pledged | Net Amount | ||||||||||||||||||
Financial Assets: | ||||||||||||||||||||||||
Derivative assets | $ | 2,071 | $ | 948 | $ | 1,123 | $ | 67 | $ | — | $ | 1,056 | ||||||||||||
Securities purchased under resale agreements | 82 | — | 82 | 81 | — | 1 | ||||||||||||||||||
Total | $ | 2,153 | $ | 948 | $ | 1,205 | $ | 148 | $ | — | $ | 1,057 | ||||||||||||
Financial Liabilities: | ||||||||||||||||||||||||
Derivative liabilities | $ | 1,770 | $ | 958 | $ | 812 | $ | 237 | $ | — | $ | 575 | ||||||||||||
Securities sold under repurchase agreements | 35 | — | 35 | 35 | — | — | ||||||||||||||||||
Total | $ | 1,805 | $ | 958 | $ | 847 | $ | 272 | $ | — | $ | 575 |
December 31, 2014 | ||||||||||||||||||||||||
Gross Amounts Not Offset in Balance Sheet | ||||||||||||||||||||||||
(Dollars in millions) | Gross Amounts of Recognized Assets/Liabilities | Gross Amounts Offset in Balance Sheet | Net Amounts Presented in Balance Sheet | Financial Instruments | Cash Collateral Received/Pledged | Net Amount | ||||||||||||||||||
Financial Assets: | ||||||||||||||||||||||||
Derivative assets | $ | 1,799 | $ | 887 | $ | 912 | $ | 113 | $ | — | $ | 799 | ||||||||||||
Securities purchased under resale agreements | 62 | — | 62 | 61 | — | 1 | ||||||||||||||||||
Total | $ | 1,861 | $ | 887 | $ | 974 | $ | 174 | $ | — | $ | 800 | ||||||||||||
Financial Liabilities: | ||||||||||||||||||||||||
Derivative liabilities | $ | 1,624 | $ | 787 | $ | 837 | $ | 162 | $ | — | $ | 675 | ||||||||||||
Securities sold under repurchase agreements | 68 | — | 68 | 68 | — | — | ||||||||||||||||||
Total | $ | 1,692 | $ | 787 | $ | 905 | $ | 230 | $ | — | $ | 675 |
84
Note 9—Accumulated Other Comprehensive Income
The following table presents the change in each of the components of accumulated other comprehensive income and the related tax effect of the change allocated to each component for the three months ended September 30, 2015 and 2014:
(Dollars in millions) | Before Tax Amount | Tax Effect | Net of Tax | |||||||||
For the Three Months Ended September 30, 2015 | ||||||||||||
Cash flow hedge activities: | ||||||||||||
Unrealized net gains (losses) on hedges arising during the period | $ | 185 | $ | (72 | ) | $ | 113 | |||||
Less: Reclassification adjustment for net (gains) losses on hedges included in interest income for loans and interest expense on long-term debt | (48 | ) | 19 | (29 | ) | |||||||
Net change | 137 | (53 | ) | 84 | ||||||||
Securities: | ||||||||||||
Unrealized holding gains (losses) arising during the period on securities available for sale | 79 | (31 | ) | 48 | ||||||||
Reclassification adjustment for net (gains) losses on securities available for sale included in securities gains, net | (6 | ) | 2 | (4 | ) | |||||||
Less: accretion of fair value adjustment on securities available for sale | (1 | ) | 1 | — | ||||||||
Less: amortization of net unrealized (gains) losses on held to maturity securities | 5 | (2 | ) | 3 | ||||||||
Net change | 77 | (30 | ) | 47 | ||||||||
Foreign currency translation adjustment | (10 | ) | 4 | (6 | ) | |||||||
Pension and other postretirement benefits: | ||||||||||||
Amortization of prior service costs(1) | (6 | ) | 2 | (4 | ) | |||||||
Recognized net actuarial gain (loss)(1) | 35 | (15 | ) | 20 | ||||||||
Net change(1) | 29 | (13 | ) | 16 | ||||||||
Net change in AOCI | $ | 233 | $ | (92 | ) | $ | 141 |
(1) | These amounts are included in the computation of net periodic pension cost. For further information, see Note 10 to these consolidated financial statements. |
(Dollars in millions) | Before Tax Amount | Tax Effect | Net of Tax | |||||||||
For the Three Months Ended September 30, 2014 | ||||||||||||
Cash flow hedge activities: | ||||||||||||
Unrealized net gains (losses) on hedges arising during the period | $ | (32 | ) | $ | 13 | $ | (19 | ) | ||||
Less: Reclassification adjustment for net (gains) losses on hedges included in interest income for loans and interest expense on long-term debt | (34 | ) | 13 | (21 | ) | |||||||
Net change | (66 | ) | 26 | (40 | ) | |||||||
Securities: | ||||||||||||
Unrealized holding gains (losses) arising during the period on securities available for sale | 10 | (4 | ) | 6 | ||||||||
Reclassification adjustment for net (gains) losses on securities available for sale included in securities gains, net | (13 | ) | 5 | (8 | ) | |||||||
Less: accretion of fair value adjustment on securities available for sale | (35 | ) | 13 | (22 | ) | |||||||
Less: amortization of net unrealized (gains) losses on held to maturity securities | 4 | (2 | ) | 2 | ||||||||
Net change | (34 | ) | 12 | (22 | ) | |||||||
Foreign currency translation adjustment | (6 | ) | 3 | (3 | ) | |||||||
Pension and other postretirement benefits: | ||||||||||||
Amortization of prior service costs (1) | (6 | ) | 2 | (4 | ) | |||||||
Recognized net actuarial gain (loss)(1) | 16 | (5 | ) | 11 | ||||||||
Net change(1) | 10 | (3 | ) | 7 | ||||||||
Net change in AOCI | $ | (96 | ) | $ | 38 | $ | (58 | ) |
(1) | These amounts are included in the computation of net periodic pension cost. For further information, see Note 10 to these consolidated financial statements. |
85
Note 9—Accumulated Other Comprehensive Income (Continued)
The following table presents the change in each of the components of accumulated other comprehensive income and the related tax effect of the change allocated to each component for the nine months ended September 30, 2015 and 2014:
(Dollars in millions) | Before Tax Amount | Tax Effect | Net of Tax | |||||||||
For the Nine Months Ended September 30, 2015 | ||||||||||||
Cash flow hedge activities: | ||||||||||||
Unrealized net gains (losses) on hedges arising during the period | $ | 296 | $ | (116 | ) | $ | 180 | |||||
Less: Reclassification adjustment for net (gains) losses on hedges included in interest income for loans and interest expense on long-term debt | (122 | ) | 48 | (74 | ) | |||||||
Net change | 174 | (68 | ) | 106 | ||||||||
Securities: | ||||||||||||
Unrealized holding gains (losses) arising during the period on securities available for sale | 112 | (44 | ) | 68 | ||||||||
Reclassification adjustment for net (gains) losses on securities available for sale included in securities gains, net | (14 | ) | 5 | (9 | ) | |||||||
Less: accretion of fair value adjustment on securities available for sale | (4 | ) | 2 | (2 | ) | |||||||
Less: amortization of net unrealized (gains) losses on held to maturity securities | 15 | (6 | ) | 9 | ||||||||
Net change | 109 | (43 | ) | 66 | ||||||||
Foreign currency translation adjustment | (19 | ) | 8 | (11 | ) | |||||||
Pension and other postretirement benefits: | ||||||||||||
Amortization of prior service costs(1) | (19 | ) | 7 | (12 | ) | |||||||
Recognized net actuarial gain (loss)(1) | 91 | (36 | ) | 55 | ||||||||
Net change(1) | 72 | (29 | ) | 43 | ||||||||
Net change in AOCI | $ | 336 | $ | (132 | ) | $ | 204 |
(1) | These amounts are included in the computation of net periodic pension cost. For further information, see Note 10 to these consolidated financial statements. |
(Dollars in millions) | Before Tax Amount | Tax Effect | Net of Tax | |||||||||
For the Nine Months Ended September 30, 2014 | ||||||||||||
Cash flow hedge activities: | ||||||||||||
Unrealized net gains (losses) on hedges arising during the period | $ | 46 | $ | (18 | ) | $ | 28 | |||||
Less: Reclassification adjustment for net (gains) losses on hedges included in interest income for loans and interest expense on long-term debt | (86 | ) | 34 | (52 | ) | |||||||
Net change | (40 | ) | 16 | (24 | ) | |||||||
Securities: | ||||||||||||
Unrealized holding gains (losses) arising during the period on securities available for sale | 282 | (111 | ) | 171 | ||||||||
Reclassification adjustment for net (gains) losses on securities available for sale included in securities gains, net | (16 | ) | 6 | (10 | ) | |||||||
Less: accretion of fair value adjustment on securities available for sale | (59 | ) | 23 | (36 | ) | |||||||
Less: amortization of net unrealized (gains) losses on held to maturity securities | 14 | (6 | ) | 8 | ||||||||
Net change | 221 | (88 | ) | 133 | ||||||||
Foreign currency translation adjustment | (6 | ) | 3 | (3 | ) | |||||||
Pension and other postretirement benefits: | ||||||||||||
Pension and other postretirement benefits arising during the period | (4 | ) | 2 | (2 | ) | |||||||
Amortization of prior service costs (1) | (10 | ) | 4 | (6 | ) | |||||||
Recognized net actuarial gain (loss)(1) | 45 | (18 | ) | 27 | ||||||||
Net change(1) | 31 | (12 | ) | 19 | ||||||||
Net change in AOCI | $ | 206 | $ | (81 | ) | $ | 125 |
(1) | These amounts are included in the computation of net periodic pension cost. For further information, see Note 10 to these consolidated financial statements. |
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Note 9—Accumulated Other Comprehensive Income (Continued)
The following tables present the change in accumulated other comprehensive income balances:
For the Three Months Ended September 30, 2014 and 2015: | ||||||||||||||||||||
Net Unrealized Gains (Losses) on Cash Flow Hedges | Net Unrealized Gains (Losses) on Securities | Foreign Currency Translation Adjustment | Pension and Other Postretirement Benefits Adjustment | Accumulated Other Comprehensive Income (Loss) | ||||||||||||||||
(Dollars in millions) | ||||||||||||||||||||
Balance, June 30, 2014 | $ | 32 | $ | (173 | ) | $ | (3 | ) | $ | (297 | ) | $ | (441 | ) | ||||||
Other comprehensive income (loss) before reclassifications | (19 | ) | (14 | ) | (3 | ) | — | (36 | ) | |||||||||||
Amounts reclassified from AOCI | (21 | ) | (8 | ) | — | 7 | (22 | ) | ||||||||||||
Balance, September 30, 2014 | $ | (8 | ) | $ | (195 | ) | $ | (6 | ) | $ | (290 | ) | $ | (499 | ) | |||||
Balance, June 30, 2015 | $ | 43 | $ | (126 | ) | $ | (15 | ) | $ | (568 | ) | $ | (666 | ) | ||||||
Other comprehensive income (loss) before reclassifications | 113 | 51 | (6 | ) | — | 158 | ||||||||||||||
Amounts reclassified from AOCI | (29 | ) | (4 | ) | — | 16 | (17 | ) | ||||||||||||
Balance, September 30, 2015 | $ | 127 | $ | (79 | ) | $ | (21 | ) | $ | (552 | ) | $ | (525 | ) |
For the Nine Months Ended September 30, 2014 and 2015: | ||||||||||||||||||||
Net Unrealized Gains (Losses) on Cash Flow Hedges | Net Unrealized Gains (Losses) on Securities | Foreign Currency Translation Adjustment | Pension and Other Postretirement Benefits Adjustment | Accumulated Other Comprehensive Income (Loss) | ||||||||||||||||
(Dollars in millions) | ||||||||||||||||||||
Balance, December 31, 2013 | $ | 16 | $ | (328 | ) | $ | (3 | ) | $ | (309 | ) | $ | (624 | ) | ||||||
Other comprehensive income (loss) before reclassifications | 28 | 143 | (3 | ) | (2 | ) | 166 | |||||||||||||
Amounts reclassified from AOCI | (52 | ) | (10 | ) | — | 21 | (41 | ) | ||||||||||||
Balance, September 30, 2014 | $ | (8 | ) | $ | (195 | ) | $ | (6 | ) | $ | (290 | ) | $ | (499 | ) | |||||
Balance, December 31, 2014 | $ | 21 | $ | (145 | ) | $ | (10 | ) | $ | (595 | ) | $ | (729 | ) | ||||||
Other comprehensive income (loss) before reclassifications | 180 | 75 | (11 | ) | — | 244 | ||||||||||||||
Amounts reclassified from AOCI | (74 | ) | (9 | ) | — | 43 | (40 | ) | ||||||||||||
Balance, September 30, 2015 | $ | 127 | $ | (79 | ) | $ | (21 | ) | $ | (552 | ) | $ | (525 | ) |
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Note 10—Employee Pension and Other Postretirement Benefits
The following tables summarize the components of net periodic benefit cost for the three and nine months ended September 30, 2015 and 2014.
Pension Benefits | Other Postretirement Benefits | Superannuation, SERP and ESBP | ||||||||||||||||||||||
For the Three Months Ended September 30, | For the Three Months Ended September 30, | For the Three Months Ended September 30, | ||||||||||||||||||||||
(Dollars in millions) | 2015 | 2014 | 2015 | 2014 | 2015 | 2014 | ||||||||||||||||||
Components of net periodic benefit cost: | ||||||||||||||||||||||||
Service cost | $ | 24 | $ | 21 | $ | 4 | $ | 2 | $ | — | $ | — | ||||||||||||
Interest cost | 27 | 25 | 4 | 3 | — | 1 | ||||||||||||||||||
Expected return on plan assets | (54 | ) | (49 | ) | (6 | ) | (5 | ) | — | — | ||||||||||||||
Amortization of prior service cost | (4 | ) | (4 | ) | (2 | ) | (2 | ) | — | — | ||||||||||||||
Recognized net actuarial loss | 27 | 16 | 7 | — | 1 | — | ||||||||||||||||||
Total net periodic benefit cost | $ | 20 | $ | 9 | $ | 7 | $ | (2 | ) | $ | 1 | $ | 1 |
Pension Benefits | Other Postretirement Benefits | Superannuation, SERP and ESBP | ||||||||||||||||||||||
For the Nine Months Ended September 30, | For the Nine Months Ended September 30, | For the Nine Months Ended September 30, | ||||||||||||||||||||||
(Dollars in millions) | 2015 | 2014 | 2015 | 2014 | 2015 | 2014 | ||||||||||||||||||
Components of net periodic benefit cost: | ||||||||||||||||||||||||
Service cost | $ | 72 | $ | 60 | $ | 8 | $ | 8 | $ | 1 | $ | 1 | ||||||||||||
Interest cost | 82 | 79 | 9 | 9 | 1 | 3 | ||||||||||||||||||
Expected return on plan assets | (162 | ) | (144 | ) | (15 | ) | (14 | ) | — | — | ||||||||||||||
Amortization of prior service cost | (13 | ) | (7 | ) | (6 | ) | (3 | ) | — | — | ||||||||||||||
Recognized net actuarial loss | 80 | 43 | 9 | 1 | 2 | 1 | ||||||||||||||||||
Total net periodic benefit cost | $ | 59 | $ | 31 | $ | 5 | $ | 1 | $ | 4 | $ | 5 |
Note 11—Commitments, Contingencies and Guarantees
The following table summarizes the Company's commitments:
(Dollars in millions) | September 30, 2015 | |||
Commitments to extend credit | $ | 32,598 | ||
Issued standby and commercial letters of credit | $ | 5,784 | ||
Other commitments | $ | 162 |
Commitments to extend credit are legally binding agreements to lend to a customer provided there are no violations of any condition established in the contract. Commitments have fixed expiration dates or other termination clauses and may require maintenance of compensatory balances. Since many of the commitments to extend credit may expire without being drawn upon, the total commitment amounts do not necessarily represent future cash flow requirements.
Standby and commercial letters of credit are conditional commitments issued to guarantee the performance of a customer to a third party. Standby letters of credit generally are contingent upon the failure of the customer to perform according to the terms of the underlying contract with the third party, while commercial
88
letters of credit are issued specifically to facilitate foreign or domestic trade transactions. Additionally, the Company enters into risk participations in bankers' acceptances wherein a fee is received to guarantee a portion of the credit risk on an acceptance of another bank. The majority of these types of commitments have terms of one year or less. At September 30, 2015, the carrying amount of the Company's risk participations in bankers' acceptances and standby and commercial letters of credit totaled $4 million. Estimated exposure to loss related to these commitments is covered by the allowance for losses on off-balance sheet commitments. The carrying amounts of the standby and commercial letters of credit and the allowance for losses on off-balance sheet commitments are included in other liabilities on the consolidated balance sheet.
The credit risk involved in issuing loan commitments and standby and commercial letters of credit is essentially the same as that involved in extending loans to customers and is represented by the contractual amount of these instruments. Collateral may be obtained based on management's credit assessment of the customer.
Other commitments include commitments to fund principal investments and other securities.
Principal investments include direct investments in private and public companies. The Company issues commitments to provide equity and mezzanine capital financing to private and public companies through direct investments. The timing of future cash requirements to fund such commitments is generally dependent on the investment cycle. This cycle, the period over which privately held companies are funded by private equity investors and ultimately sold, merged, or taken public through an initial offering, can vary based on overall market conditions as well as the nature and type of industry in which the companies operate.
The Company occasionally enters into financial guarantee contracts where a premium is received from another financial institution counterparty to guarantee a portion of the credit risk on interest rate swap contracts entered into between the financial institution and its customer. The Company becomes liable to pay the financial institution only if the financial institution is unable to collect amounts owed to them by their customer. As of September 30, 2015, the current exposure to loss under these contracts totaled $34 million, and the maximum potential exposure to loss in the future was estimated at $51 million.
The Company is subject to various pending and threatened legal actions that arise in the normal course of business. The Company maintains liabilities for losses from legal actions that are recorded when they are determined to be both probable in their occurrence and can be reasonably estimated. Management believes the disposition of all claims currently pending, including potential losses from claims that may exceed the liabilities recorded, and claims for loss contingencies that are considered reasonably possible to occur, will not have a material effect, either individually or in the aggregate, on the Company's consolidated financial condition, results of operations or liquidity.
89
Note 12—Business Segments
The Company has five reportable segments: Retail Banking & Wealth Markets, Commercial Banking, U.S. Corporate Banking, Transaction Banking, and Investment Banking & Markets. Below is a detailed description of these reportable segments.
Retail Banking & Wealth Markets
Retail Banking & Wealth Markets offers a range of banking products and services to individuals and small businesses, including high net worth individuals and institutional clients, delivered generally through a network of branches, private banking offices, ATMs, broker mortgage referrals, telephone services, and web-based and mobile banking applications. These products and services include mortgages, home equity lines of credit, consumer and commercial loans, deposit accounts, financial planning and investments.
The Consumer Lending Division provides the centralized origination, underwriting, processing, servicing, collection and administration for consumer assets including residential mortgages.
The Consumer and Business Banking Division serves its customers through 349 full-service branches in California and 26 full-service branches in Washington and Oregon, as well as through ATMs, call centers, web-based and mobile internet banking applications and through alliances with other financial institutions. Consumer and Business Banking provides checking and deposit products and services; bill and loan payment, merchant, and various types of financing and investment services; and products including credit cards.
The Wealth Markets Division serves its customers through the Private Bank; UnionBanc Investment Services LLC (UBIS), a subsidiary of MUFG Union Bank and a registered broker-dealer and investment advisor; and Asset Management which includes HighMark Capital Management, Inc., a subsidiary of MUFG Union Bank and a registered investment advisor. Wealth Markets Division provides investment management and advisory services to institutional clients, wealth planning, deposits and risk management strategies, trust and estate administration, as well as investment sub-advisory services to unaffiliated funds. Products provided to its customers include traditional brokerage, managed accounts, annuities, mutual funds, fixed income products and insurance and customized lending.
Commercial Banking
Commercial Banking provides a broad spectrum of commercial credit products including commercial loans, accounts receivable, inventory, trade and real estate financing to primarily U.S.-based corporate customers with annual sales generally ranging from $20 million to $2 billion. Commercial Banking offers its customers a range of noncredit services and products, which include global treasury management and capital markets solutions, foreign exchange and various interest rate risk and commodity risk management products through cooperation with other segments.
Commercial Banking is comprised of five main divisions: U.S. Middle Market Banking, which serves companies primarily in California, Oregon and Washington with annual sales up to $500 million; Oil and Gas, which serves oil and gas companies; Mid-Corporate Banking, which serves clients with annual sales up to $2 billion; Specialized Products, which focuses on specific areas on a national basis including Commercial Finance, Funds Finance, Environmental Industries, Transportation, Aerospace/Defense, Entertainment; and Real Estate Industries, which serves professional real estate investors and developers. Real Estate Industries, through its Community Development Finance unit, makes tax credit investments in affordable housing projects, as well as construction and permanent financing.
U.S. Corporate Banking
U.S. Corporate Banking provides commercial lending products, including commercial loans, lines of credit and project financing, to corporate customers with revenues generally greater than $2 billion. The segment employs an industry-focused strategy including dedicated coverage teams in General Industries, Power and Utilities, Oil and Gas, Telecom and Media, Technology, Non-Profits, Healthcare, Public Finance, and Financial Institutions (predominantly Insurance and Asset Managers). By working with the Company's other segments, U.S. Corporate Banking offers its customers a range of noncredit services, which include global treasury management, capital market solutions, and various foreign exchange, interest rate, and commodity risk management products.
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Note 12—Business Segments (Continued)
Transaction Banking
Transaction Banking works alongside the Company's other segments to provide working capital management and asset servicing solutions, including deposits and treasury management, trade finance, and institutional trust and custody, to the Company's customers. This segment also manages the digital banking channels for retail, small business, wealth management and commercial clients, as well as commercial product development. The client base consists of financial institutions, corporations, government agencies, insurance companies, mutual funds, investment managers and non-profit organizations.
Investment Banking & Markets
Investment Banking & Markets, which includes Global Capital Markets of the Americas, works with the Company's other segments to provide customers structured credit services, including project finance, leasing and equipment finance, and securitizations. Investment Banking & Markets also provides capital markets solutions, including syndicated loans, equity and debt underwriting, tax equity and merchant banking investments; risk management solutions, including foreign exchange, interest rate and energy risk management solutions; and facilitates merchant and investment banking-related transactions.
Other
"Other" includes the Asian Corporate Banking segment, Corporate Treasury and the impact of certain corporate activities. The Asian Corporate Banking segment offers a range of credit, deposit, and investment management products and services to companies located primarily in the U.S. that are affiliated with companies headquartered in Japan and other Asian countries. Corporate Treasury is responsible for ALM, wholesale funding and the ALM investment and derivatives hedging portfolios. These Treasury management activities are carried out to manage the net interest rate and liquidity risks of the Company's balance sheet and to manage those risks within the guidelines established by ALCO. For additional discussion regarding these risk management activities, see Part I, Item 3. “Quantitative and Qualitative Disclosures About Market Risk” in this Form 10-Q.
Additionally, "Other" is comprised of certain corporate activities of the Company; the net impact of funds transfer pricing charges and credits allocated to the reportable segments; the residual costs of support groups; the unallocated allowance; goodwill, intangible assets, and the related amortization/accretion associated with the Company's privatization transaction; the elimination of the fully taxable-equivalent basis amount; the difference between the marginal tax rate and the consolidated effective tax rate; and the FDIC covered assets.
The information, set forth in the tables that follow, is prepared using various management accounting methodologies to measure the performance of the individual segments. Unlike GAAP there is no standardized or authoritative guidance for management accounting. Consequently, reported results are not necessarily comparable with those presented by other companies and they are not necessarily indicative of the results that would be reported by the business units if they were unique economic entities. The management reporting accounting methodologies, which are enhanced from time to time, measure segment profitability by assigning balance sheet and statements of income items to each operating segment. Methodologies that are applied to the measurement of segment profitability include a funds transfer pricing system, an activity-based costing methodology, other indirect costs and a methodology to allocate the provision for credit losses. The funds transfer pricing system assigns a cost of funds or a credit for funds to assets or liabilities based on their type, maturity or repricing characteristics between Corporate Treasury and the operating segments. A segment receives a funding credit from Corporate Treasury for its liabilities. Conversely, a segment is assigned a charge by Corporate Treasury to fund its assets. The activity-based costing methodology allocates certain indirect costs, such as operations and technology expense, to the segments based on studies of billable unit costs for product or data processing. Other indirect costs, such as corporate overhead, are allocated to the segments based on internal surveys and metrics that serve as proxies for estimated usage. During the normal course of business, the Company occasionally changes or updates its management accounting methodologies or organizational structure. During 2014, the Company revised the funds transfer pricing methodology with respect to reference rates for certain commercial deposits. The Company also continued to refine its organizational structure resulting from the internal management structure implemented as part of the BTMU Americas Holdings business integration initiative established in 2013. In addition, effective January 1, 2015, the Company adopted ASU 2014-01, "Investments - Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Qualified Affordable Housing Projects", which was required to be applied retrospectively upon adoption. These investments are part of our Commercial Banking segment. Prior period results have been adjusted to reflect these changes.
91
Note 12—Business Segments (Continued)
The Company generally applies a "market view" perspective in measuring the business segments. The market view is a measurement of customer markets aggregated to show all revenues generated and expenses incurred from all products and services sold to those customers regardless of where product areas organizationally report. Therefore, revenues and expenses are included in both the business segment that provides the service and the business segment that manages the customer relationship. The duplicative results from this internal management accounting view are eliminated in "Reconciling Items."
As of and for the Three Months Ended September 30, 2015: | ||||||||||||||||||||||||||||||||
(Dollars in millions) | Retail Banking & Wealth Markets | Commercial Banking | U.S. Corporate Banking | Transaction Banking | Investment Banking & Markets | Other | Reconciling Items | MUFG Americas Holdings Corporation | ||||||||||||||||||||||||
Results of operations - Market View | ||||||||||||||||||||||||||||||||
Net interest income (expense) | $ | 332 | $ | 235 | $ | 54 | $ | 114 | $ | 33 | $ | 36 | $ | (99 | ) | $ | 705 | |||||||||||||||
Noninterest income (expense) | 96 | 46 | 39 | 47 | 70 | 149 | (50 | ) | 397 | |||||||||||||||||||||||
Total revenue | 428 | 281 | 93 | 161 | 103 | 185 | (149 | ) | 1,102 | |||||||||||||||||||||||
Noninterest expense | 348 | 97 | 46 | 108 | 58 | 244 | (46 | ) | 855 | |||||||||||||||||||||||
(Reversal of) provision for credit losses | 1 | 8 | 4 | — | (1 | ) | 6 | — | 18 | |||||||||||||||||||||||
Income (loss) before income taxes and including noncontrolling interests | 79 | 176 | 43 | 53 | 46 | (65 | ) | (103 | ) | 229 | ||||||||||||||||||||||
Income tax expense (benefit) | 31 | 51 | 17 | 20 | 7 | (22 | ) | (40 | ) | 64 | ||||||||||||||||||||||
Net income (loss) including noncontrolling interests | 48 | 125 | 26 | 33 | 39 | (43 | ) | (63 | ) | 165 | ||||||||||||||||||||||
Deduct: net loss from noncontrolling interests | — | — | — | — | — | 21 | — | 21 | ||||||||||||||||||||||||
Net income (loss) attributable to MUAH | $ | 48 | $ | 125 | $ | 26 | $ | 33 | $ | 39 | $ | (22 | ) | $ | (63 | ) | $ | 186 | ||||||||||||||
Total assets, end of period | $ | 36,480 | $ | 37,336 | $ | 8,187 | $ | 1,835 | $ | 6,213 | $ | 29,297 | $ | (4,191 | ) | $ | 115,157 |
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Note 12—Business Segments (Continued)
As of and for the Three Months Ended September 30, 2014: | ||||||||||||||||||||||||||||||||
(Dollars in millions) | Retail Banking & Wealth Markets | Commercial Banking | U.S. Corporate Banking | Transaction Banking | Investment Banking & Markets | Other | Reconciling Items | MUFG Americas Holdings Corporation | ||||||||||||||||||||||||
Results of operations - Market View | ||||||||||||||||||||||||||||||||
Net interest income (expense) | $ | 340 | $ | 242 | $ | 53 | $ | 110 | $ | 45 | $ | 19 | $ | (102 | ) | $ | 707 | |||||||||||||||
Noninterest income (expense) | 83 | 55 | 46 | 44 | 138 | 86 | (64 | ) | 388 | |||||||||||||||||||||||
Total revenue | 423 | 297 | 99 | 154 | 183 | 105 | (166 | ) | 1,095 | |||||||||||||||||||||||
Noninterest expense | 329 | 92 | 42 | 91 | 54 | 197 | (41 | ) | 764 | |||||||||||||||||||||||
(Reversal of) provision for credit losses | (1 | ) | 5 | (4 | ) | (6 | ) | (8 | ) | 6 | 9 | 1 | ||||||||||||||||||||
Income (loss) before income taxes and including noncontrolling interests | 95 | 200 | 61 | 69 | 137 | (98 | ) | (134 | ) | 330 | ||||||||||||||||||||||
Income tax expense (benefit) | 38 | 62 | 24 | 27 | 42 | (53 | ) | (52 | ) | 88 | ||||||||||||||||||||||
Net income (loss) including noncontrolling interests | 57 | 138 | 37 | 42 | 95 | (45 | ) | (82 | ) | 242 | ||||||||||||||||||||||
Deduct: net loss from noncontrolling interests | — | — | — | — | — | 5 | — | 5 | ||||||||||||||||||||||||
Net income (loss) attributable to MUAH | $ | 57 | $ | 138 | $ | 37 | $ | 42 | $ | 95 | $ | (40 | ) | $ | (82 | ) | $ | 247 | ||||||||||||||
Total assets, end of period | $ | 37,235 | $ | 35,296 | $ | 6,965 | $ | 1,753 | $ | 6,160 | $ | 27,220 | $ | (3,762 | ) | $ | 110,867 |
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Note 12—Business Segments (Continued)
As of and for the Nine Months Ended September 30, 2015: | ||||||||||||||||||||||||||||||||
(Dollars in millions) | Retail Banking & Wealth Markets | Commercial Banking | U.S. Corporate Banking | Transaction Banking | Investment Banking & Markets | Other | Reconciling Items | MUFG Americas Holdings Corporation | ||||||||||||||||||||||||
Results of operations - Market View | ||||||||||||||||||||||||||||||||
Net interest income (expense) | $ | 977 | $ | 706 | $ | 162 | $ | 340 | $ | 104 | $ | 113 | $ | (295 | ) | $ | 2,107 | |||||||||||||||
Noninterest income (expense) | 265 | 136 | 121 | 139 | 247 | 360 | (151 | ) | 1,117 | |||||||||||||||||||||||
Total revenue | 1,242 | 842 | 283 | 479 | 351 | 473 | (446 | ) | 3,224 | |||||||||||||||||||||||
Noninterest expense | 1,063 | 282 | 138 | 312 | 173 | 717 | (138 | ) | 2,547 | |||||||||||||||||||||||
(Reversal of) provision for loan losses | 9 | 41 | (10 | ) | 1 | (24 | ) | 14 | 5 | 36 | ||||||||||||||||||||||
Income (loss) before income taxes and including noncontrolling interests | 170 | 519 | 155 | 166 | 202 | (258 | ) | (313 | ) | 641 | ||||||||||||||||||||||
Income tax expense (benefit) | 66 | 152 | 61 | 65 | 41 | (93 | ) | (123 | ) | 169 | ||||||||||||||||||||||
Net income (loss) including noncontrolling interests | 104 | 367 | 94 | 101 | 161 | (165 | ) | (190 | ) | 472 | ||||||||||||||||||||||
Deduct: net loss from noncontrolling interests | — | — | — | — | — | 32 | — | 32 | ||||||||||||||||||||||||
Net income (loss) attributable to MUAH | $ | 104 | $ | 367 | $ | 94 | $ | 101 | $ | 161 | $ | (133 | ) | $ | (190 | ) | $ | 504 | ||||||||||||||
Total assets, end of period | $ | 36,480 | $ | 37,336 | $ | 8,187 | $ | 1,835 | $ | 6,213 | $ | 29,297 | $ | (4,191 | ) | $ | 115,157 |
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Note 12—Business Segments (Continued)
As of and for the Nine Months Ended September 30, 2014: | ||||||||||||||||||||||||||||||||
(Dollars in millions) | Retail Banking & Wealth Markets | Commercial Banking | U.S. Corporate Banking | Transaction Banking | Investment Banking & Markets | Other | Reconciling Items | MUFG Americas Holdings Corporation | ||||||||||||||||||||||||
Results of operations - Market View | ||||||||||||||||||||||||||||||||
Net interest income (expense) | $ | 1,049 | $ | 746 | $ | 143 | $ | 324 | $ | 134 | $ | 47 | $ | (290 | ) | $ | 2,153 | |||||||||||||||
Noninterest income (expense) | 249 | 155 | 92 | 123 | 245 | 73 | (166 | ) | 771 | |||||||||||||||||||||||
Total revenue | 1,298 | 901 | 235 | 447 | 379 | 120 | (456 | ) | 2,924 | |||||||||||||||||||||||
Noninterest expense | 1,005 | 262 | 77 | 266 | 109 | 421 | (114 | ) | 2,026 | |||||||||||||||||||||||
(Reversal of) provision for loan losses | (9 | ) | 11 | (12 | ) | (3 | ) | 23 | 7 | (10 | ) | 7 | ||||||||||||||||||||
Income (loss) before income taxes and including noncontrolling interests | 302 | 628 | 170 | 184 | 247 | (308 | ) | (332 | ) | 891 | ||||||||||||||||||||||
Income tax expense (benefit) | 119 | 201 | 67 | 72 | 63 | (150 | ) | (130 | ) | 242 | ||||||||||||||||||||||
Net income (loss) including noncontrolling interests | 183 | 427 | 103 | 112 | 184 | (158 | ) | (202 | ) | 649 | ||||||||||||||||||||||
Deduct: net loss from noncontrolling interests | — | — | — | — | — | 14 | — | 14 | ||||||||||||||||||||||||
Net income (loss) attributable to MUAH | $ | 183 | $ | 427 | $ | 103 | $ | 112 | $ | 184 | $ | (144 | ) | $ | (202 | ) | $ | 663 | ||||||||||||||
Total assets, end of period | $ | 37,235 | $ | 35,296 | $ | 6,965 | $ | 1,753 | $ | 6,160 | $ | 27,220 | $ | (3,762 | ) | $ | 110,867 |
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PART II. OTHER INFORMATION
Item 1. Legal Proceedings
We are subject to various pending and threatened legal actions that arise in the normal course of business. We maintain liabilities for losses from legal actions that are recorded when they are determined to be both probable in their occurrence and can be reasonably estimated. We believe the disposition of all claims currently pending, including potential losses from claims that may exceed the liabilities recorded, and claims for loss contingencies that are considered reasonably possible to occur, will not have a material effect, either individually or in the aggregate, on our consolidated financial position, results of operations, or liquidity.
Item 1A. Risk Factors
For a discussion of risk factors relating to our business, please refer to Part I, Item 1A. of our 2014 Form 10-K, which is incorporated by reference herein, in addition to the following information:
Industry Factors
The effects of changes or increases in, or supervisory enforcement of, banking or other laws and regulations or governmental fiscal or monetary policies could adversely affect us
We are subject to significant federal and state banking regulation and supervision, which is primarily for the benefit and protection of our customers and the Federal Deposit Insurance Fund and not for the benefit of investors in our securities. In the past, our business has been materially affected by these regulations. This can be expected to continue in the future. Laws, regulations or policies, including accounting standards and interpretations, currently affecting us and our subsidiaries may change at any time. Regulatory authorities may also change their interpretation of and intensify their examination of compliance with these statutes and regulations. Therefore, our business may be adversely affected by changes in laws, regulations, policies or interpretations or regulatory approaches to compliance and enforcement, as well as by supervisory action or criminal proceedings taken as a result of noncompliance, which could result in the imposition of significant penalties or fines. Changes in laws and regulations may also increase our expenses by imposing additional supervision, fees, taxes or restrictions on our operations. Compliance with laws and regulations, especially new laws and regulations, increases our operating expenses and may divert management attention from our business operations.
In July 2010, President Obama signed into law the Dodd-Frank Act. The Act was adopted in response to the financial crisis that ensued in 2008. The Act, among other things, created a new CFPB with broad powers to regulate consumer financial products such as credit cards and mortgages, created a Financial Stability Oversight Council comprised of the heads of other regulatory agencies, has led to new capital requirements from federal banking agencies, placed new limits on electronic debit card interchange fees, and required the SEC and national stock exchanges to adopt significant new corporate governance and executive compensation reforms. As a result, the Federal Reserve and the other U.S. federal banking agencies have enacted or proposed regulations relating to:
• | enhanced prudential standards for large BHCs and large FBOs operating in the U.S., including new requirements relating to capital planning, liquidity risk management, counterparty credit exposure limits, overall risk management standards, stress testing, debt to equity limits, resolution planning and early remediation and a requirement that large FBO's, such as MUFG and BTMU, operate in the U.S. through an intermediate holding company structure; |
• | standardized quantitative liquidity requirements generally consistent with the LCR standard established by the BCBS, designed to ensure that covered banking organizations maintain an adequate level of cash and HQLA, such as central bank reserves and government and corporate debt, to meet estimated net liquidity needs in a short-term stress scenario using liquidity inflow and outflow assumptions provided in the rule; |
• | prohibitions on banking entities from engaging in short-term proprietary trading of securities, derivatives, commodity futures and options on these instruments for their own account, subject to certain limited exemptions and exclusions, in addition to certain restrictions on banking entities investing in covered funds, otherwise known as the “Volcker Rule”; |
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• | enhanced oversight of derivatives and swap activities by multiple regulatory agencies, including the U.S. Commodities Futures Trading Commission, the SEC and the federal banking regulators; |
• | establishment of minimum standards for the design and implementation of a risk governance framework for large national banks with average total consolidated assets of $50 billion or more requiring separation and independence of specific risk management related roles and responsibilities for designated bank functions; |
• | our residential mortgage lending business, namely the Ability-to-Pay, Qualified Mortgage and Know Before You Owe regulations of the CFPB; and |
• | new restrictions on banks’ abilities to charge overdraft services and interchange fees on debit card transactions. |
This important legislation has affected U.S. financial institutions, including MUAH and MUB, in many ways, some of which have increased, or may increase in the future, the cost of doing business and present other challenges to the financial services industry. For additional information regarding the impact on our business of the Dodd-Frank Act and related regulations, see "Supervision and Regulation - Principal Federal Banking Laws - Dodd-Frank Act and Related Regulations" in Part I, Item 1. of our 2014 Annual Report on Form 10-K. Due to our size of over $50 billion in assets, we are regarded as “systemically significant” to the financial health of the U.S. economy and, as a result, are subject to additional regulations as discussed further below and in “Supervision and Regulation” in Part I, Item 1. of our 2014 Annual Report on Form 10‑K.
In July 2013, the Federal Reserve and the other U.S. federal banking agencies adopted final rules making significant changes to the U.S. regulatory capital framework for U.S. banking organizations. For additional information, see “Supervision and Regulation - Regulatory Capital and Liquidity Standards” in Part I, Item I. of our 2014 Annual Report on Form 10‑K and “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Regulatory Capital” in Part I, Item 2. of this Form 10‑Q. MUAH timely filed its annual capital plan under the Federal Reserve’s CCAR Program in January 2015. The CCAR evaluates capital planning processes and assesses capital adequacy levels under various scenarios to determine if BHCs would have sufficient capital to continue operations throughout times of economic and financial market stress. In March 2015, MUAH was informed by the Federal Reserve that it did not object to the Company’s capital plan. However, various other BHCs have in the past received objections to their CCAR submissions from the Federal Reserve and there can be no assurance that MUAH will not receive such objections with respect to its future annual submissions under the CCAR Program. If the Federal Reserve were to object to a future CCAR submission by MUAH, this could have adverse consequences for our business prospects including limiting our ability to grow either organically or otherwise.
The need to maintain more and higher quality capital, as well as greater liquidity, could limit the Company’s business activities, including lending, and its ability to expand, either organically or through acquisitions. It could also result in the Company taking steps to increase its capital or being limited in its ability to pay dividends or otherwise return capital to its shareholder, or selling or refraining from acquiring assets. In addition, the new liquidity standards could require the Company to increase its holdings of highly liquid short‑term investments, thereby reducing the Company’s ability to invest in longer‑term or less liquid assets even if more desirable from a balance sheet management perspective. Moreover, although these new requirements are being phased in over time, U.S. federal banking agencies have been taking into account expectations regarding the ability of banks to meet these new requirements, including under stressed conditions, in approving actions that represent uses of capital, such as dividend increases and acquisitions.
The capital rules of the federal banking agencies and the FBO rules of the Federal Reserve, referred to above, as well as the various other regulations described above, along with other regulations which may be adopted in the future, may also generally increase our cost of doing business or lead us to stop, reduce or modify our offerings of various products. Additionally, on October 30, 2015, the Federal Reserve proposed rules that would impose a new Total Loss Absorbing Capacity (“TLAC”) requirement on global systemically important banks (GSIBs), such as MUFG, and their U.S. operations. Although still subject to comment and final rule-making, the Company, which is expected to be MUFG’s designated Intermediate Holding Company (“IHC”), anticipates federal banking regulators will impose internal long-term debt and internal TLAC requirements on IHCs, which would require the Company to issue qualifying debt and equity instruments to its foreign parent organization. These requirements could potentially adversely impact the Company’s funding and liquidity management.
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Proposals to reform the housing finance market in the U.S. could also significantly affect our business. These proposals, among other things, consider reducing or eliminating over time the role of the GSEs (Fannie Mae and Freddie Mac) in guaranteeing mortgages and providing funding for mortgage loans, as well as the implementation of reforms relating to borrowers, lenders, and investors in the mortgage market, including reducing the maximum size of a loan that the GSEs can guarantee, phasing in a minimum down payment requirement for borrowers, improving underwriting standards, and increasing accountability and transparency in the securitization process. While the specific nature of these reforms and their impact on the financial services industry in general, and on MUB in particular, is uncertain at this time, such reforms, if enacted, are likely to have a substantial impact on the mortgage market and could potentially reduce our income from mortgage originations by increasing mortgage costs or lowering originations. The GSE reforms could also reduce real estate prices, which could reduce the value of collateral securing outstanding mortgage loans. This reduction of collateral value could negatively impact the value or perceived collectability of these mortgage loans and may increase our allowance for loan losses. Such reforms may also include changes to the Federal Home Loan Bank System, which could adversely affect a significant source of funding for lending activities by the banking industry, including the Bank. These reforms may also result in higher interest rates on residential mortgage loans, thereby reducing demand, which could have an adverse impact on our residential mortgage lending business.
President Obama’s proposed 2016 U.S. budget includes a seven basis point fee on liabilities that would apply to banks with greater than $50 billion in assets. This fee would be effective January 1, 2016 and would be intended to recover taxpayer funds provided to U.S. financial institutions through the U.S. Treasury’s Troubled Asset Relief Program and impose a direct cost to leverage for large firms. We cannot predict whether or to what extent, if any, this fee will become law. On May 21, 2012, the U.S. Treasury announced its final rule to establish an assessment fee on all institutions with greater than $50 billion in assets to fund the Office of Financial Research. As we have greater than $50 billion in assets, under the final rule we are subject to this fee at the MUFG level. In August 2013, the Federal Reserve issued a final rule to implement Section 318 of the Dodd‑Frank Act which imposed a new supervisory assessment on all institutions with greater than $50 billion in assets, which is being assessed at the MUFG level, and is based on an average of the total combined assets of MUFG from U.S. operations, net of U.S. intercompany balances and allowed transactions. Therefore, our operating costs over time can be expected to increase due to these assessments, which are based, among other things, on the projected operating expenses of this new office and the aggregate assessable assets of the subject banks.
Several cities in the United States (including New York, Los Angeles and San Diego) have adopted so‑called “responsible banking acts” and other cities are considering the adoption of similar ordinances. These city ordinances, some of which have withstood initial legal challenges, generally require banks that hold city government deposits to provide detailed accounts of their lending practices in low‑income communities, as well as their participation in foreclosure prevention and home loan principal reduction programs. Performance under these ordinances is used as a basis for awarding the city’s financial services contracts. The adoption of these ordinances by municipalities for which the Bank is a provider of cash management or other banking services could result in increased regulatory and compliance costs and other operational costs and expenses, making this business less desirable to the Bank and potentially resulting in reduced opportunities for the Bank to provide these services.
International laws, regulations and policies affecting us, our subsidiaries and the business we conduct may change at any time and affect our business opportunities and competitiveness in these jurisdictions. Due to our ownership by BTMU, laws, regulations, policies, fines and other supervisory actions adopted or enforced by the Government of Japan, the Federal Reserve and other regulators may adversely affect our activities and investments and those of our subsidiaries in the future.
We maintain systems and procedures designed to comply with applicable laws and regulations. However, some legal/regulatory frameworks provide for the imposition of criminal or civil penalties (which can be substantial) for noncompliance. In some cases, liability may attach even if the noncompliance was inadvertent or unintentional and even if compliance systems and procedures were in place at the time. There may be other negative consequences from a finding of noncompliance, including restrictions on certain activities and damage to our reputation.
Additionally, our business is affected significantly by the fiscal and monetary policies of the U.S. federal government and its agencies. We are particularly affected by the policies of the Federal Reserve, which regulates
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the supply of money and credit in the U.S. Under the Dodd‑Frank Act and a long‑standing policy of the Federal Reserve, a BHC is expected to act as a source of financial and managerial strength for its subsidiary banks. As a result of that policy, we may be required to commit financial and other resources to our subsidiary bank in circumstances where we might not otherwise do so. Among the instruments of monetary policy available to the Federal Reserve are (a) conducting open market operations in U.S. Government securities, (b) changing the discount rates on borrowings by depository institutions and the federal funds rate, and (c) imposing or changing reserve requirements against certain borrowings by banks and their affiliates. These methods are used in varying degrees and combinations to directly affect the availability of bank loans and deposits, as well as the interest rates charged on loans and paid on deposits. The policies of the Federal Reserve can be expected to have a material effect on our business, prospects, results of operations and financial condition.
Refer to “Supervision and Regulation” in Part I, Item 1. of our 2014 Annual Report on Form 10‑K for discussion of certain additional existing and proposed laws and regulations that may affect our business.
The increasing regulation of the financial services industry has required and can be expected to continue to require significant investments in technology, personnel or other resources. Our competitors may be subject to different or reduced degrees of regulation due to their asset size or types of products offered and may also be able to more efficiently utilize resources to comply with regulations and to more efficiently absorb increased regulatory compliance costs into their existing cost structure.
Our deposit customers may pursue alternatives to bank deposits or seek higher yielding deposits, which may increase our funding costs and adversely affect our liquidity position
Checking and savings account balances and other forms of deposits can decrease when our deposit customers perceive alternative investments, such as the stock market, other non‑depository investments or higher yielding deposits, as providing superior expected returns. Technology and other changes has made it more convenient for bank customers to transfer funds into alternative investments or other deposit accounts, including products offered by other financial institutions or non‑bank service providers. Future increases in short‑term interest rates could increase such transfers of deposits to higher yielding deposits or other investments either with us or with external providers. In addition, our level of deposits may be affected by lack of consumer confidence in financial institutions, which have caused fewer depositors to be willing to maintain deposits that are not fully insured by the FDIC. Depositors may withdraw certain deposits from MUB and place them in other institutions or invest uninsured funds in investments perceived as being more secure, such as securities issued by the U.S. Treasury. These consumer preferences may force us to pay higher interest rates or reduce fees to retain certain deposits and may constrain liquidity as we seek to meet funding needs caused by reduced deposit levels.
In addition, we have benefited from a “flight to quality” by consumers and businesses seeking the relative safety of bank deposits following the financial crisis of 2008. As interest rates rise from historically low levels in recent years, our deposits may not be as stable or as interest rate insensitive as similar deposits may have been in the past, and as the recovery in the U.S. economy continues, some existing or prospective deposit customers of banks generally, including MUB, may be inclined to pursue other investment alternatives.
Efforts and initiatives we undertake to retain and increase deposits, including deposit pricing, can increase our costs. When bank customers move money out of bank deposits in favor of alternative investments or into higher yielding deposits, we can lose a relatively inexpensive source of funds, increasing our funding cost. As our assets grow, we may face increasing pressure to seek new deposits through expanded channels from new customers at favorable pricing, further increasing our costs.
Company Factors
Adverse California economic conditions could adversely affect our business
At times over the last several years, economic conditions in California have been subject to various challenges, including significant deterioration in the residential real estate sector and the California state government’s budgetary and fiscal difficulties. Following the financial crisis in 2008, certain California real estate markets experienced some of the worst property value declines in the U.S. California continues to have a relatively high unemployment rate. While California home prices and the California economy in general, have experienced a recovery in recent years, there can be no assurance that the recovery will continue. Recent growth in home
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prices in some California markets may be unsustainable relative to market fundamentals, and home price declines may occur.
In addition, until 2013, the State of California had experienced budget shortfalls or deficits that led to protracted negotiations between the Governor and the State Legislature over how to address the budget gap. The California electorate approved, in the November 2012 general elections, certain increases in the rate of income taxation in California. However, there can be no assurance that the state’s fiscal and budgetary challenges will not recur. Also, municipalities and other governmental units within California have been experiencing budgetary difficulties, and several California municipalities have filed for protection under the Bankruptcy Code. As a result, concerns also have arisen regarding the outlook for the governmental obligations of California municipalities and other governmental units.
A substantial majority of our assets, deposits and interest and fee income is generated in California. As a result, poor economic conditions in California may cause us to incur losses associated with higher default rates and decreased collateral values in our loan portfolio. If the budgetary and fiscal difficulties of the California State government and California municipalities and other governmental units were to recur or economic conditions in California decline, we expect that our level of problem assets could increase and our prospects for growth could be impaired. The severe drought which California has experienced in recent years, if it continues, may also cause further difficulties for the California economy, particularly in the agricultural sector. In April 2015, California Governor Edmund G. Brown Jr. issued an executive order directing the State Water Resource Control Board to implement mandatory water reductions in cities and towns across California to reduce water usage by 25 percent. The impact of this and other measures in response to the drought on the California economy is uncertain.
Our business could suffer if we fail to attract, retain and successfully integrate skilled personnel
Our success depends, in large part, on our ability to attract and retain key personnel, including executives. Any of our current employees, including our senior management, may terminate their employment with us at any time. Competition for qualified personnel in our industry can be intense. We may not be successful in attracting and retaining sufficient qualified personnel. We may also incur increased expenses and be required to divert the attention of other senior executives to recruit replacements for the loss of any key personnel.
From time to time, we experience turnover among members of management, often due to retirement or rotation to other assignments within the MUFG group. We must successfully integrate any new management personnel that we bring into the organization in order to achieve our operating objectives as new management becomes familiar with our business.
The federal banking regulators, have issued guidance which is intended to prohibit incentive compensation arrangements at insured depository institutions that would encourage inappropriate risk taking, are deemed to be excessive, or that may lead to material losses. In addition, the FDIC has proposed rules which would increase deposit premiums for institutions with compensation practices deemed to increase risk to the institution. Over time, this guidance and the proposed rules, if adopted, could have the effect of making it more difficult for banks to attract and retain skilled personnel.
Our credit ratings are important in order to maintain liquidity
Major credit rating agencies regularly evaluate the securities of MUAH and the securities and deposits of MUB. Their ratings of our long-term and short-term debt obligations and of our deposits are based on a number of factors including our financial strength, ability to generate earnings, and other factors, some of which are not entirely within our control, such as conditions affecting the financial services industry and the economy. In light of the continually evolving conditions in the financial services industry, the financial markets and the economy, changes to credit rating methodologies and the ongoing assessment of our current and expected satisfaction of various rating criteria, no assurance can be given that we will maintain our current ratings. If our long-term or short-term credit ratings suffer substantial downgrades, particularly if lowered below investment grade, such downgrades could adversely affect access to liquidity and could significantly increase our cost of funds (especially our wholesale funding), trigger additional collateral or funding requirements, and decrease the number of commercial depositors, investors and counterparties willing or permitted to lend to us, thereby curtailing our business operations and reducing our ability to generate income.
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Certain of our derivative instruments contain provisions that require us to maintain a specified credit rating. If our credit rating were to fall below the specified rating, the counterparties to these derivative instruments could terminate the contract and demand immediate payment or demand immediate and ongoing full overnight collateralization for those derivative instruments in net liability positions.
Adverse changes in the credit ratings, operations or prospects of our parent companies, BTMU and MUFG, could also adversely impact our credit ratings. For additional information, refer to the discussion in our 2014 Form 10-K under the caption “The Bank of Tokyo‑Mitsubishi UFJ’s and Mitsubishi UFJ Financial Group’s credit ratings and financial or regulatory condition could adversely affect our operations.”
We are subject to operational risks, including cybersecurity risks
We are subject to many types of operational risks throughout our organization. Operational risk is the potential loss from our operations due to factors, such as failures in internal control, systems failures, cybersecurity risks or external events, that do not fall into the market risk or credit risk categories described in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part I, Item 2. of this Form 10-Q. Operational risk includes execution risk related to operational initiatives, such as implementation of our technology enhancement projects; increased reliance on internally developed models for risk and finance management, including models associated with regulatory capital requirements; legal and compliance risk; the risk of fraud or theft by employees, customers or outsiders; unauthorized transactions by employees or operational errors, including clerical or record‑keeping errors or those resulting from faulty or disabled computer or telecommunications systems; and operational risks related to use of third party service providers. A discussion of risks associated with regulatory compliance appears above under the caption “The effects of changes or increases in, or supervisory enforcement of, banking or other laws and regulations or governmental fiscal or monetary policies could adversely affect us.”
Our operations rely on the secure processing, storage, transmission and reporting of personal, confidential and other sensitive information or data in our computer systems, networks and business applications. Although we take protective measures, our computer systems may be vulnerable to breaches, unauthorized access, misuse, computer viruses or other malicious code, and other events that could have significant negative consequences to us. Such events could result in interruptions or malfunctions in our operations or our customers’ operations; interception, misuse or mishandling of personal, confidential or proprietary information and data; or processing of unauthorized transactions or loss of funds. These events could result in litigation and financial losses that are either not insured against or not fully covered by our insurance, and regulatory consequences or reputational harm, any of which could harm our competitive position, operating results and financial condition. These types of incidents can remain undetected for extended periods of time, thereby increasing the associated risks. We may also be required to expend significant resources to modify our protective measures or to investigate and remediate vulnerabilities or exposures arising from cybersecurity risks. We may also be required to expend significant resources to cover costs imposed on us as a result of breaches of bank card information occurring at retail merchants and other businesses.
We depend on the continued efficacy of our technical systems, operational infrastructure, relationships with third parties and our employees in our day‑to‑day and ongoing operations. Our dependence upon automated systems to record and process transactions may further increase the risk that technical system flaws or employee tampering or manipulation of those systems will result in losses that are difficult to detect or data which is not reliable. With regard to the physical infrastructure that supports our operations, we have taken measures to implement backup systems and other safeguards, but our ability to conduct business may be adversely affected by any disruption to that infrastructure, including disruptions from natural disasters or other causes. Failures in our internal control or operational systems, security breaches or service interruptions, or those of our third-party service providers, could impair our ability to operate our business and result in potential liability to customers, reputational damage and regulatory intervention, any of which could harm our operating results and financial condition.
MUB and reportedly other financial institutions have been the target of various denial-of-service or other cyber attacks (including attempts to inject malicious code and viruses into our computer systems) as part of what appears to be a coordinated effort to disrupt the operations of financial institutions and potentially test their cybersecurity in advance of future and more advanced cyber attacks. These denial-of-service and other attacks have not breached the Company’s data security systems, but require substantial resources to defend, and may affect customer satisfaction and behavior. To date we have not experienced any material losses relating to cyber
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attacks or other information security breaches, but there can be no assurance that we will not suffer such losses or information security breaches in the future. While we have a variety of cybersecurity measures in place, the consequences to our business of such attacks cannot be predicted with any certainty.
In addition, there have been increasing efforts on the part of third parties to breach data security at financial institutions as well as at other types of companies, such as large retailers, or with respect to financial transactions, including through the use of social engineering schemes such as “phishing.” The ability of our customers to bank remotely, including online and through mobile devices, requires secure transmissions of confidential information and increases the risk of data security breaches which would expose us to financial claims by customers or others and which could adversely affect our reputation. Even if cyber attacks and similar tactics are not directed specifically at MUB or our third-party service providers, such attacks on other large financial institutions could disrupt the overall functioning of the financial system and undermine consumer confidence in banks generally, to the detriment of other financial institutions, including MUB.
In March 2015, the Federal bank regulators issued two related statements regarding cybersecurity. One statement indicates financial institutions should design multiple layers of security controls to establish lines of defense and to ensure that their risk management processes also address the risk posed by compromised customer credentials, including security measures to reliably authenticate customers accessing internet-based services of the financial institution. The other statement indicates financial institution’s management is expected to maintain sufficient business continuity planning processes to ensure the rapid recovery, resumption and maintenance of the institution’s operations after a cyber-attack involving destructive malware. A financial institution is also expected to develop appropriate processes to enable recovery of data and business operations and address rebuilding network capabilities and restoring data if the institution or its critical service providers fall victim to this type of cyber-attack. Although these recently issued regulatory statements state they do not contain any new regulatory expectations, we are continuing to evaluate them as they do indicate that the regulators regard cybersecurity to be a matter of great importance for U.S. financial institutions. A financial institution which fails to observe the regulatory guidance could be subject to various regulatory sanctions, including financial penalties.
In July 2015, the Federal bank regulators announced the issuance of a cybersecurity assessment tool, the output of which can assist a financial institution’s senior management and board of directors in assessing the institution’s cybersecurity risk and preparedness. The first part of the assessment tool is the inherent risk profile, which aims to assist management in determining an institution’s level of cybersecurity risk. The second part of the assessment tool is cybersecurity maturity, which is designed to help management assess whether their controls provide the desired level of preparedness. Beginning in late 2015 or early 2016, the Federal bank regulators plan to utilize the assessment tool as part of their examination process when evaluating financial institutions’ cybersecurity preparedness in information technology and safety and soundness examinations and inspections. Failure to effectively utilize this tool could result in regulatory criticism. Significant resources may be required to adequately implement the tool and address any assessment concerns regarding preparedness. Management is currently evaluating the impact of this assessment tool.
We may also be subject to disruptions of our operating systems arising from other events that are wholly or partially beyond our control, such as electrical, internet or telecommunications outages, natural disasters (such as major seismic events), terrorist attacks or unexpected difficulties with the implementation of our technology enhancement projects, which may give rise to disruption of service to customers and to financial loss or liability in ways which cannot be predicted with any certainty. Our business recovery plan may not work as intended or may not prevent significant interruptions of our operations.
Item 6. Exhibits
A list of exhibits to this Form 10-Q is set forth on the Exhibit Index immediately preceding such exhibits and is incorporated herein by reference.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
MUFG AMERICAS HOLDINGS CORPORATION (Registrant) | |||
Date: November 9, 2015 | By: | /s/ STEPHEN E. CUMMINGS | |
Stephen E. Cummings President and Chief Executive Officer (Principal Executive Officer) | |||
Date: November 9, 2015 | By: | /s/ JOHN F. WOODS | |
John F. Woods Chief Financial Officer (Principal Financial Officer) | |||
Date: November 9, 2015 | By: | /s/ ROLLAND D. JURGENS | |
Rolland D. Jurgens Controller and Chief Accounting Officer (Principal Accounting Officer) |
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EXHIBIT INDEX
Exhibit No. | Description | |
31.1 | Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002(1) | |
31.2 | Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002(1) | |
32.1 | Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002(1)(2) | |
32.2 | Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002(1)(2) | |
101 | Pursuant to Rule 405 of Regulation S-T, the following financial information from the Company's Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2015, is formatted in XBRL interactive data files: (i) Consolidated Statements of Income; (ii) Consolidated Statements of Comprehensive Income; (iii) Consolidated Balance Sheets; (iv) Consolidated Statements of Changes in Stockholder's Equity; (v) Consolidated Statements of Cash Flows; and (vi) Notes to Financial Statements(1) |
(1) | Filed herewith. |
(2) | In accordance with Item 601(b)(32)(ii) of Regulation S-K and SEC Release No. 34-47986, the certifications furnished in Exhibits 32.1 and 32.2 hereto are deemed to accompany this Form 10-Q and will not be deemed "filed" for purposes of Section 18 of the Exchange Act. Such certifications will not be deemed to be incorporated by reference into any filing under the Securities Act or the Exchange Act. |
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