STT

State Street Corporation: Q3 2006 10-Q Summary

Business Context and Reporting Period

This filing covers the quarterly period ended September 30, 2006. State Street Corporation is a financial holding company providing investment servicing and investment management services to institutional investors worldwide. As of the reporting date, the company employed 21,500 people and reported total assets of $112.31 billion.

Key Financial Metrics

Liquidity & Capital: Net liquid assets totaled $39.64 billion. Tier 1 risk-based capital ratio was 12.2% and total risk-based capital ratio was 14.3%, both exceeding regulatory requirements for "well capitalized" status.

Material Changes vs. Prior Period

• Revenue Growth: Total revenue increased 9% in Q3 and 16% year-to-date (YTD) compared to 2005. Fee revenue grew 10% in Q3 and 15% YTD, driven by servicing fees, management fees, and securities finance revenue.
• Profitability: Net income surged 94% in Q3 and 35% YTD. The Q3 comparison is significantly impacted by a $107 million loss from discontinued operations in Q3 2005 related to the Bel Air divestiture, which did not recur in 2006.
• Expense Management: Operating expenses rose 8% in Q3 and 12% YTD. Salaries and benefits increased due to higher headcount and incentive compensation. However, the company achieved positive operating leverage of 4% YTD.
• Balance Sheet: Total assets grew 14.6% from year-end 2005 ($97.97 billion) to $112.31 billion, driven by growth in investment securities and loans/leases.

Guidance, Outlook, and Risks

• Financial Goals: Management reaffirmed 2006 goals of 10-15% growth in operating-basis EPS, 8-12% revenue growth, and 14-17% return on equity. Through Q3, performance exceeded the high end of these ranges, and management expects to moderately exceed them for the full year.
• Tax Impacts: YTD earnings included $0.25 per share in tax-related charges ($0.18 due to TIPRA legislation repealing tax exclusions for leveraged leases; $0.07 for potential IRS resolution on LILO/SILO transactions). Excluding these, YTD operating-basis EPS was $2.60.
• Market Risks: The company faces risks from interest rate fluctuations, foreign exchange volatility, and credit risk. Rising short-term rates resulted in $418 million in pre-tax net unrealized losses on available-for-sale securities, which management deems temporary.
• Accounting Changes: In Q3, the company consolidated certain tax-exempt investment trusts onto the balance sheet, increasing assets and liabilities by approximately $1.5 billion and recording a $15 million cumulative gain.

Investor Verification Checklist

• Discontinued Operations: Verify the impact of the $107 million loss in Q3 2005 (Bel Air divestiture) when comparing year-over-year net income growth.
• Tax Provisions: Review the $83 million in tax charges recorded in Q2 2006 related to TIPRA and IRS issues to understand the difference between GAAP EPS and operating-basis EPS.
• Balance Sheet Consolidation: Confirm the $1.5 billion increase in assets/liabilities due to the consolidation of tax-exempt trusts and the associated $15 million gain.
• Unrealized Losses: Assess the $418 million pre-tax unrealized loss on investment securities and management's intent to hold these assets to maturity.
• Operating Leverage: Monitor the 4% operating leverage YTD to ensure expense growth remains controlled relative to revenue expansion.