STATE STREET CORP annual report, FY2009

Full document

State Street Corporation — FY 2009 Form 10-K

Reporting period: Fiscal year ended December 31, 2009. This is an annual filing, not a standalone fourth-quarter report; selected Q4 figures are noted below. State Street provides investment servicing and investment management to institutional investors. At year-end, assets under custody and administration were $18.795 trillion and assets under management were $1.911 trillion.

Financial performance and condition

  • Revenue: Total revenue was $8.640 billion, down 19% from 2008. Fee revenue fell 23% to $5.935 billion; net interest revenue fell 3% to $2.564 billion. Net interest margin increased to 2.19% from 2.08%.
  • Earnings: Income before tax and the extraordinary loss was $2.525 billion; income before the loss was $1.803 billion. Net loss was $1.881 billion, or $4.31 diluted per share, including a $3.684 billion after-tax extraordinary loss from consolidating asset-backed commercial paper conduits. Before that loss, income available to common shareholders was $1.640 billion, or $3.46 diluted per share, down from $1.789 billion and $4.30 in 2008. Return on common equity before the extraordinary loss was 13.2%, versus 14.8%.
  • Q4 snapshot: Unaudited fourth-quarter revenue was $2.280 billion, pretax income before the extraordinary loss was $680 million, and net income was $498 million; diluted EPS was $1.00. The conduit-related extraordinary loss was recorded in Q2.
  • Cash flow: Operating activities used $4.269 billion; investing activities provided $31.632 billion; financing activities used $27.903 billion. Cash and due from banks ended the year at $2.641 billion, versus $3.181 billion. These cash-flow totals reflect substantial balance-sheet and conduit-related movements.
  • Balance sheet and funding: Total assets were $157.946 billion, down from $173.631 billion; deposits were $90.062 billion, down from $112.225 billion. Long-term debt increased to $8.838 billion from $4.419 billion. Shareholders’ equity rose to $14.491 billion from $12.774 billion.
  • Capital and liquidity: Consolidated Tier 1 and total risk-based capital ratios were 17.7% and 19.1%; State Street Bank’s were 17.3% and 19.0%. Both exceeded applicable well-capitalized thresholds. Management reported $75.98 billion of liquid assets and considered liquidity sufficient for current commitments and business needs.

Changes from 2008 and notable drivers

  • Servicing fees declined 13% and management fees 20%, reflecting lower average market valuations, partly offset by new business. Year-end custody and administration assets rose 18%, and AUM rose 32%, supported by market recovery and $248 billion of net new business.
  • Trading services revenue declined 25%, mainly from lower foreign-exchange volumes and volatility. Securities finance revenue fell 54%, reflecting lower spreads and lending volumes.
  • Expenses decreased 24% to $5.966 billion, largely due to lower compensation and other operating costs. The 2009 total included a $250 million legal provision and $49 million of merger and integration costs. The prior-year total included a $450 million investment-account infusion, $306 million of restructuring charges, a $200 million customer-indemnification provision, and a $350 million CitiStreet sale gain in revenue.
  • Conduit consolidation added assets and liabilities to the balance sheet and produced the $3.684 billion after-tax extraordinary loss. It also generated $621 million of discount accretion included in 2009 interest revenue; management expected accretion to remain material in 2010, with timing dependent partly on prepayments and credit conditions.
  • The company raised approximately $2.23 billion net through a May 2009 common-stock offering and issued debt. It repaid the Treasury’s $2 billion TARP preferred investment in June and repurchased the related warrant in July. The common dividend was reduced to $0.01 per quarter; declared dividends totaled $0.04 per share for 2009.

Outlook, risks and contingencies

  • No specific earnings or revenue guidance is provided. Management said 2010 securities-finance revenue and profitability would remain exposed to lending volumes and spreads. Net interest revenue would also depend on rates, deposit mix, reinvestment decisions, and conduit discount accretion.
  • State Street had agreed to acquire Intesa Sanpaolo’s specified securities-services businesses for approximately €1.28 billion plus about €400 million of expected balance-sheet capital at closing, and to acquire Mourant International Finance Administration for cash. Both transactions were subject to regulatory approval and other closing conditions; the company expected closings in 2010.
  • Litigation and regulatory matters: February 2010 settlements concerning SSgA active fixed-income strategies included a $313 million fair fund and $20 million in Massachusetts payments; the existing legal reserve was stated to cover the settlements. Other matters include securities-lending pool litigation and an SEC inquiry, California and other inquiries into foreign-exchange pricing, and Lehman-related customer claims and bankruptcy proceedings. The California Attorney General alleged $56 million in damages for 2001–2007 and sought additional penalties.
  • Securities-lending collateral pools: Unregistered pools continued to transact at $1.00 per unit although market-value NAVs were below $1.00. At year-end 2009, weighted-average market NAVs were $0.986 for direct-lending pools and $0.981 for SSgA lending-fund collateral pools. Redemption restrictions, potential shortfalls, claims, and reputational effects remain risks.
  • Other exposures: The investment portfolio had $2.144 billion of pretax unrealized losses on available-for-sale securities at year-end; credit-related impairment losses recognized in earnings were $227 million. Management’s estimates depend on uncertain credit, housing, prepayment, and valuation assumptions. The filing also identifies counterparty, funding, interest-rate, operational, regulatory, and recession risks. State Street noted that credit ratings had been downgraded by principal agencies in Q1 2009 and that outlooks included negative assessments.
  • Management reported effective disclosure controls and internal control over financial reporting, with no material weaknesses; the auditor gave an unqualified opinion on the financial statements and internal controls.

Important facts for investors to verify

  • Reconcile reported net loss and diluted EPS to the conduit consolidation, and assess the sustainability of earnings excluding that extraordinary item and the $621 million accretion.
  • Review the underlying conduit assets, liabilities, valuation assumptions, expected cash flows, and remaining discount-accretion profile.
  • Track securities-lending pool market NAVs, redemption limits, customer claims, and the SEC inquiry; distinguish agent-held collateral from State Street’s recorded balance sheet assets.
  • Assess investment-securities credit quality, unrealized losses, impairment sensitivity, and commercial-real-estate loan provisions and recoveries.
  • Monitor deposit trends, liquidity sources, debt maturities, credit ratings, capital ratios, and the implications of the planned acquisitions and reduced dividend.
  • Check subsequent developments in foreign-exchange pricing inquiries, Lehman-related claims, and other litigation, including any changes to reserves or potential financial exposure.