ITEM 1. BUSINESS
GENERAL
Marshall & Ilsley Corporation ("M&I" or the "Corporation"), incorporated in Wisconsin in 1959, is a registered bank holding company under the Bank Holding Company Act of 1956 (the "BHCA"). As of December 31, 1997, M&I had consolidated total assets of approximately $19.5 billion and consolidated total deposits of approximately $14.4 billion, making M&I the second largest bank holding company headquartered in Wisconsin. The executive offices of M&I are located at 770 North Water Street, Milwaukee, Wisconsin 53202 (telephone number (414) 765-7801).
M&I's principal assets are the stock of its bank and nonbank subsidiaries and the assets of its Data Services Division ("M&I Data Services"). M&I's subsidiaries include 26 commercial banks, one savings association and a number of companies engaged in businesses that the Federal Reserve Board (the "FRB") has determined to be closely-related or incidental to the business of banking. M&I provides its subsidiaries with financial and managerial assistance in such areas as budgeting, tax planning, compliance assistance, asset and liability management, investment administration and portfolio planning, business development, advertising and human resources management.
M&I's bank and savings association subsidiaries provide a full range of banking services to individuals, businesses and governments throughout Wisconsin and the Phoenix, Arizona metropolitan area. These subsidiaries offer retail, institutional, international, business and correspondent banking, investment and trust services through the operation of over 225 banking offices in Wisconsin and 12 offices in Arizona. M&I Marshall & Ilsley Bank ("M&I Bank") is M&I's largest bank subsidiary, with consolidated assets as of December 31, 1997 of approximately $8.3 billion.
M&I Data Services and three nonbank subsidiaries are major suppliers of financial and data processing services and software to banking, financial and related organizations. M&I Data Services provides services and software to over 600 financial institution customers in the United States, as well as institutions in numerous foreign countries. M&I's nonbank subsidiaries operate a variety of bank-related businesses, including those providing investment management services, insurance services, trust services, equipment lease financing, commercial and residential mortgage banking, home equity financing, venture capital, brokerage services and financial advisory services. M&I Investment Management Corp. offers a full range of asset management services to M&I's trust company subsidiaries, the Marshall Funds and other individual, business and institutional customers. M&I's trust company subsidiaries provide trust and employee benefit plan services to customers in Wisconsin, Arizona and Florida. M&I First National Leasing Corp. leases a variety of equipment and machinery to large and small businesses. M&I Dealer Finance, Inc. provides lease financing. M&I Mortgage Corp. originates, purchases, sells and services residential mortgages. M&I Home Equity Corp. and M&I Home Equity Corp. of Minnesota provide consumer home equity loans. The Richter-Schroeder Company originates and services long-term commercial real estate loans for institutional investors. M&I Capital Markets Group, Inc. provides venture capital, financial advisory and strategic planning services to customers, including assistance in connection with the private placement of securities, raising funds for expansion, leveraged buy-outs, divestitures, mergers and acquisitions and small business investment company transactions. M&I Brokerage Services, Inc., a broker-dealer registered with the National Association of Securities Dealers and the Securities and Exchange Commission, provides brokerage and other investment related services to a variety of retail and commercial customers.
On October 1, 1997, M&I acquired Security Capital Corporation ("Security"), a Wisconsin corporation, for approximately 12.3 million shares of M&I Common Stock and approximately $376 million in cash. The acquisition of Security contributed approximately $2.2 billion of loans and $2.3 billion of deposits. The transaction was accounted for as a purchase.
On November 3, 1997, M&I entered into an Agreement and Plan of Merger (the "Merger Agreement") with Advantage Bancorp, Inc., a Wisconsin corporation ("Advantage") which provides for the merger of Advantage with and into M&I (the "Merger"). The Merger Agreement provides that each outstanding share of Advantage Common Stock will be converted into the right to receive 1.2 shares of M&I Common Stock, subject to adjustment based on the average closing price of M&I Common Stock prior to the effective date of the Merger. The Merger is currently expected to be completed on or about April 1, 1998. As of December 31, 1997, Advantage had consolidated total assets of $1.03 billion and consolidated total deposits of $661 million. The Merger will be accounted for as a pooling-of-interests.
PRINCIPAL SOURCES OF REVENUE
The table below shows the amount and percentages of M&I's total consolidated operating income resulting from interest and fees on loans, interest on investment securities and fees for data processing services for each of the last three years:
M&I business segment information is contained in Note 19 of the Notes to the Consolidated Financial Statements contained in Item 8, Consolidated Financial Statements and Supplementary Data.
COMPETITION
M&I and its subsidiaries face substantial competition from hundreds of competitors in the markets they serve, some of which are larger and have greater resources than M&I. M&I's bank subsidiaries compete for deposits and other sources of funds and for credit relationships with other banks, savings associations, credit unions, finance companies, mutual funds, life insurance companies (and other long-term lenders) and other financial and non-financial companies located both within and outside M&I's primary market area, many of which offer products functionally equivalent to bank products. M&I's non-bank operations compete with numerous banks, finance companies, data servicing companies, leasing companies, mortgage bankers, brokerage firms, financial advisors, trust companies, mutual funds and investment bankers in Wisconsin and throughout the United States.
The market for the banking technology services offered by M&I Data Services is national in scope. In any given geographic area, M&I Data Services' competitors vary in size and include national, regional and local operations. While historically the bank data processing industry has been highly decentralized, there is an accelerating trend toward consolidation in the industry, resulting in fewer companies competing over larger geographic regions. As consolidation continues, successful companies in this business are likely to increase substantially in size as the scale of activity necessary to compete increases.
EMPLOYEES
As of December 31, 1997, M&I and its subsidiaries employed in the aggregate approximately 10,227 employees. M&I considers employee relations to be excellent. None of the employees of M&I or its subsidiaries are represented by a collective bargaining group.
SUPERVISION AND REGULATION
As a registered bank holding company, M&I is subject to regulation and examination by the FRB under the BHCA. M&I's state bank subsidiaries and savings association are subject to regulation and examination by the Wisconsin Department of Financial Institutions, or in the case of M&I Thunderbird Bank, the Arizona State Banking Department, and the FRB (for state banks). M&I's national bank subsidiary is subject to regulation and examination by the Office of the Comptroller of the Currency. In addition, all of M&I's bank subsidiaries are subject to examination by the FDIC.
Under FRB policy, M&I is expected to act as a source of financial strength to each of its bank subsidiaries and to commit resources to support each bank subsidiary in circumstances when it might not do so absent such requirements. In addition, there are numerous federal and state laws and regulations which regulate the activities of M&I and its bank subsidiaries, including requirements and limitations relating to capital and reserve requirements, permissible investments and lines of business, transactions with affiliates, loan limits, mergers and acquisitions, issuances of securities, dividend payments, inter-affiliate liabilities, extensions of credit and branch banking. Information regarding capital requirements for bank holding companies and tables reflecting M&I's regulatory capital position at December 31, 1997 can be found in Note 13 of the Notes to the Consolidated Financial Statements contained in Item 8, Consolidated Financial Statements and Supplementary Data.
The federal regulatory agencies have broad power to take prompt corrective action if a depository institution fails to maintain certain capital levels. In addition, a bank holding company's controlled insured depository institutions are liable for any loss incurred by the FDIC in connection with the default of, or any FDIC-assisted transaction involving, an affiliated insured bank or savings association. Current federal law provides that adequately capitalized and managed bank holding companies from any state may acquire banks and bank holding companies located in any other state, subject to certain conditions. Beginning on June 1, 1997, banks were permitted to create interstate branching networks in states that did not "opt out" of interstate branching.
The laws and regulations to which M&I is subject are constantly under review by Congress, regulatory agencies and state legislatures. These laws and regulations may be changed dramatically in the future, which could affect the ability of bank holding companies to engage in certain activities such as nationwide banking, securities underwriting and insurance, the amount of capital that banks and bank holding companies must maintain, premiums paid for deposit insurance and other matters directly affecting earnings. It is not certain which changes will occur, if any, or the effect such changes will have on the profitability of M&I, its ability to compete effectively or the composition of the financial services industry. The earnings and business of M&I and its bank subsidiaries also are affected by the general economic and political conditions in the United States and abroad and by the monetary and fiscal policies of various federal agencies. The FRB impacts the competitive conditions under which M&I operates by determining the cost of funds obtained from money market sources for lending and investing and by exerting influence on interest rates and credit conditions. In addition, legislative and economic factors can be expected to have an ongoing impact on the competitive environment within the financial services industry. The impact of fluctuating economic conditions and federal regulatory policies on the future profitability of M&I and its subsidiaries cannot be predicted with certainty.
SELECTED STATISTICAL INFORMATION
Statistical information relating to M&I and its subsidiaries on a consolidated basis is set forth as follows:
(1) Average Balance Sheets and Analysis of Net Interest Income for each of the last three years is included in Item 7, Management's Discussion and Analysis of Financial Position and Results of Operations.
(2) Analysis of Changes in Interest Income and Interest Expense for each of the last two years is included in Item 7, Management's Discussion and Analysis of Financial Position and Results of Operations.
(3) Nonaccrual, Past Due and Restructured Loans and Leases for each of the last five years is included in Item 7, Management's Discussion and Analysis of Financial Position and Results of Operations.
(4) Summary of Loan and Lease Loss Experience for each of the last five years is included in Item 7, Management's Discussion and Analysis of Financial Position and Results of Operations.
(5) Return on Average Shareholders' Equity, Return on Average Assets and other statistical ratios for each of the last five years can be found in Item 6, Selected Financial Data.
The following tables set forth certain statistical information relating to M&I and its subsidiaries on a consolidated basis.
INVESTMENT SECURITIES
The amortized cost of M&I's consolidated investment securities at December 31 of each year are (in thousands):
The maturities, at amortized cost, and weighted average yields (for tax- exempt obligations on a fully taxable basis assuming a 35% tax rate) of investment securities at December 31, 1997 are (in thousands):
TYPES OF LOANS AND LEASES
M&I's consolidated loans and leases, classified by type, at December 31 of each year are (in thousands):
LOAN AND LEASE BALANCES AND MATURITIES
The analysis of selected loan and lease maturities at December 31, 1997 and the rate structure for the categories indicated are (in thousands):
- -------- Notes: (1) Scheduled repayments are reported in the maturity category in which the payments are due based on the terms of the loan agreements. Demand loans, loans having no stated schedule of repayments and no stated maturity, and over-drafts are reported as due in one year or less. (2) Amounts shown for the rate structure of loans and leases due after one year include the estimated effect arising from the use of interest rate swaps.
NONACCRUAL, PAST DUE AND RESTRUCTURED LOANS AND LEASES
Generally, a loan is placed on nonaccrual if payment of interest is more than 60 days delinquent and the loan has been determined by management to be a "problem" loan. In addition, loans which are past due 90 days or more as to interest or principal are also placed on nonaccrual. Exceptions to these rules are generally only for loans fully collateralized by readily marketable securities or other relatively risk free collateral.
POTENTIAL PROBLEM LOANS AND LEASES
At December 31, 1997 the Corporation had $18.1 million of loans for which payments are presently current, but the borrowers are experiencing serious financial problems. These loans are subject to constant management attention and their classification is reviewed on a quarterly basis.
OTHER INTEREST BEARING ASSETS
At December 31, 1997, the Corporation's commercial finance subsidiary had $0.5 million of corporate debt investment securities on nonaccrual status. The effect on interest income in 1997 was not material.
DEPOSITS
The average amount of and the average rate paid on selected deposit categories for each of the years ended December 31 is as follows ($ in thousands):
The maturity distribution of time deposits issued in amounts of $100,000 and over and outstanding at December 31, 1997 (in thousands) is:
At December 31, 1997, time deposits issued by foreign offices totaled $753.0 million.
SHORT-TERM BORROWINGS
Information related to M&I's funds purchased and security repurchase agreements for the last three years is as follows ($ in thousands):
SUMMARY OF LOAN AND LEASE LOSS EXPERIENCE
The following should be read in conjunction with Item 7, Management's Discussion and Analysis of Financial Position and Results of Operations.
The Corporation's evaluation of the overall adequacy of the allowance for loan and lease losses consists of two levels of analysis. The first level focuses primarily on assessments of specific credits, as described more fully below. The second more general level of analysis focuses on categories of similar type loans and portfolio segments (e.g., commercial/individual; real estate/non-real estate; geographical regions related to the locations of affiliate banks). These methodologies include multiple analytical approaches which are viewed together to assess overall reserve and provision levels. The analyses consider, among other factors, historical loss experience, current and anticipated economic conditions, portfolio trends, portfolio composition by segment, assigned credit grades, and estimates of potential loss exposures.
The loan and lease portfolios of the Corporation's affiliate banks and leasing subsidiary are subject to continual management oversight and formal quarterly analyses. Management's analyses are based on the Corporation's credit grading system which classifies loans and leases in a manner similar to that of bank regulatory examiners, with estimates of probable and potential losses derived. Management's assigned credit grades and quarterly portfolio analyses are subject to independent monitoring by the Corporation's credit review group, which also performs periodic portfolio reviews at each affiliate. The credit review group prepares reports on the results of its evaluations of affiliate loan portfolios, which together with quarterly analyses of credit exposure provided by affiliate management, serve as the basis for determining the adequacy of the allowance for loan and lease losses.
Consolidated net charge-offs decreased in 1997 to $13.1 million from the higher than normal 1996 level of $20.3 million. The 1996 net charge-off level was negatively impacted by the charge-off of one larger commercial loan ($12 million) and one commercial lease ($1.9 million). Other than these 1996 charge-offs, both charge-offs and recoveries have been relatively stable given the growth of loans from $8.6 billion in 1993 to $12.5 billion in
1997. The overall positive net charge-off levels reflect the relative strength of the Wisconsin and Arizona economies. The Corporation's Arizona-based loan portfolio, which represents approximately 3% of the total portfolio, has benefitted in recent years by the stabilization of the Arizona economy and real estate values.
The allowance for loan and lease losses increased from $155.9 million at December 31, 1996 to $202.8 million at December 31, 1997, due primarily to the assumption of $42.8 million of allowance from Security. The 1997 provision for loan losses of $17.3 million is consistent with the prior four years' general provisions of $15.2 million, $16.2 million, $16.0 million, and $18.0 million. A special provision of $8.9 million was charged to expense in 1994 to conform Valley Bancorporation's loan valuation policies with those of the Corporation, after consummation of that merger. The year-end reserve level is 1.62% of total loans and leases down slightly from the year-end 1996 level of 1.68%. The reserve level at December 31, 1997 is considered adequate based on the analyses of specific credits, portfolio and economic trends, and other factors described above.
The Corporation's charge-off and recovery levels across portfolio sectors have been relatively consistent over the last few years, with the exception of 1996 commercial loan and lease financing charge-offs. Commercial loan loss experience in 1996 was negatively impacted by the $12.0 million charge-off referenced above. The charge-offs and recoveries for real estate construction loans continue to be relatively immaterial. The 1997 net charge-offs for real estate mortgages increased from the normal level due primarily to a reduction in recoveries. The 1997 net charge-off and recovery levels for personal loans continued to increase in 1997, due primarily to growth in this portfolio sector. The 1997 charge-offs for the Corporation's lease financing portfolio returned to a more normal level after the one lease referred to above caused the 1996 level to be higher than usual.
The Corporation's charge-off and provision levels for 1998 will continue to be largely dependent on economic conditions in the Corporation's primary service areas. While general economic conditions continue to be relatively stable, should national or regional conditions deteriorate, the Corporation's Wisconsin and Arizona markets may be adversely affected. Absent deterioration in these conditions, total charge-offs for 1998 are not expected to vary significantly from average net charge-offs from 1993 through 1997. At the present time, there are no material loans which are known or believed to be in imminent danger of deteriorating or defaulting which would give rise to material charge-offs; however, loss levels can be significantly impacted by a few large loans which could deteriorate unexpectedly or be adversely impacted by economic conditions.
Based on current conditions, commercial loan losses for 1998 are expected to approximate normal historic levels. Commercial real estate loans continue to be highly vulnerable to regional economic conditions and real estate values; however, based on current conditions, real estate and construction loan losses for 1998 are not expected to vary significantly from historic levels. Based on the current portfolio size, composition and experience, personal loan losses for 1998 are expected to approximate normal historic levels. However, the Corporation is not immune to the potential impacts of national trends in retail credit delinquencies and collections. At the present time, direct lease financing losses for 1998 are expected to approximate historic levels; however, actual losses could be impacted by portfolio growth, fraud, or unanticipated weaknesses in industry segments within the portfolio.
FORWARD-LOOKING STATEMENTS
The following statements may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995: (1) statements other than historical facts contained or incorporated by reference in this report or in any future filings by M&I with the Securities and Exchange Commission, and (2) statements other than historical facts contained in written material, press releases and oral statements issued by, or on behalf of, M&I.
Forward-looking statements are subject to significant risks and uncertainties and M&I's actual results may differ materially from the results discussed in such forward-looking statements. Factors that might cause actual results to differ from the results discussed in forward-looking statements include, but are not limited to: (1)
general economic conditions, either nationally or in the states in which M&I does business; (2) legislation or regulatory changes which adversely affect the businesses in which M&I is engaged; (3) changes in the interest rate environment which reduce interest margins; (4) significant increases in competition in the banking and financial services industry; (5) changes in consumer spending, borrowing and saving habits; (6) technological changes; (7) acquisitions and unanticipated occurrences which delay or reduce the expected benefits of acquisitions; (8) M&I's ability to increase market share and control expenses; (9) the effect of compliance with legislation or regulatory changes; (10) the effect of changes in accounting policies and practices; and (11) the costs and effects of unanticipated litigation and of unexpected or adverse outcomes in such litigation.
ITEM 2.
ITEM 2. PROPERTIES
M&I and M&I Marshall & Ilsley Bank ("M&I Bank") occupy offices on all or portions of 16 floors of a 21-story building located at 770 North Water Street, Milwaukee, Wisconsin. A subsidiary of M&I Bank owns the building and its adjacent 10-story parking lot and leases the remaining floors to a professional tenant. In addition, various subsidiaries of M&I lease commercial office space in downtown Milwaukee office buildings near the 770 North Water Street facility. M&I Bank also owns or leases various branch offices located in Milwaukee and in surrounding suburban communities. M&I has 25 subsidiary banks and one savings association located in cities throughout Wisconsin. M&I Thunderbird Bank, a wholly-owned bank subsidiary of M&I, is located in Phoenix, Arizona and has 12 offices in Phoenix and the surrounding Maricopa County communities. The subsidiary banks and savings association occupy modern facilities which are owned or leased. M&I owns a data processing facility located in Brown Deer, a suburb of Milwaukee, from which M&I Data Services conducts data processing activities. In 1997, Data Services completed construction of a 160,000 square foot facility in Milwaukee that houses its software development teams. Properties leased by M&I for M&I Data Services also include commercial office space in Brown Deer, a data processing site in Oak Creek, Wisconsin, and processing centers and sales offices in various cities throughout the United States.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
M&I is not currently involved in any material pending legal proceedings other than litigation of a routine nature and various legal matters which are being defended and handled in the ordinary course of business.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
EXECUTIVE OFFICERS OF THE REGISTRANT
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
STOCK LISTING
M&I's common stock is traded under the symbol "MRIS" on the Nasdaq National Market, and quotations are supplied by the National Association of Securities Dealers. Common dividends declared and the price range for M&I's common stock for each of the last five years can be found in Item 8, Consolidated Financial Statements, Quarterly Financial Information.
A discussion of the regulatory restrictions on the payment of dividends can be found under Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations, and in Note 13 to Item 8, Consolidated Financial Statements.
HOLDERS OF COMMON EQUITY
At December 31, 1997, M&I had approximately 21,157 record holders of its Common Stock.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
CONSOLIDATED SUMMARY OF EARNINGS YEARS ENDED DECEMBER 31 ($000'S EXCEPT SHARE DATA)
CONSOLIDATED SUMMARY OF EARNINGS--CONTINUED YEARS ENDED DECEMBER 31 ($000'S EXCEPT SHARE DATA)
- -------- * See Exhibit 12 for detailed computation of these ratios.
CONSOLIDATED AVERAGE BALANCE SHEETS YEARS ENDED DECEMBER 31 ($000'S EXCEPT SHARE DATA)
- -------- * Not restated for acquisitions accounted for as pooling of interests. ** Loans and leases nonaccrual, restructured, and past due 90 days or more. *** Restated for 3 for 1 stock split.
YIELD & COST ANALYSIS YEARS ENDED DECEMBER 31 (TAX EQUIVALENT BASIS)
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL POSITION AND RESULTS OF OPERATIONS
Net income in 1997 amounted to $245.1 million or $2.42 per share on a diluted basis. The return on average assets and return on average equity were 1.53% and 16.77%, respectively. By comparison, 1996 net income was $203.4 million, diluted earnings per share was $2.03, the return on average assets was 1.49% and the return on average equity was 15.88%. For the year ended December 31, 1995, net income was $193.3 million or $1.90 per share diluted and the returns on average assets and average equity were 1.52% and 16.41%, respectively.
The results of operations and average financial position for 1997 includes the effects of the acquisition of Security Capital Corporation ("Security") from the date of merger which was October 1, 1997. M&I paid approximately $376 million in cash and issued 12.3 million shares of its common stock in a transaction that was accounted for as a purchase. Security had approximately $2.2 billion of consolidated loans and $2.3 billion of consolidated deposits at the time of merger.
Net income for 1996 includes special one-time charges relating to the 65.7 basis point assessment associated with the Savings Association Insurance Fund (SAIF) recapitalization that was enacted into law in September 1996 and the write-off of in-process research and development costs acquired in conjunction with the purchase of EastPoint Technology, Inc.
The following is a summary of the unusual items reported in 1996 and the comparative operating income, earnings per share and return on average equity based on operating income for 1997, 1996, and 1995.
($ IN MILLIONS, EXCEPT PER SHARE DATA)
The following reconciles operating income to operating income before amortization of intangibles ("tangible operating income"). Amortization includes amortization of goodwill and core deposit premiums and is net of negative goodwill accretion and the income tax benefit or expense, if any, related to each component. These calculations were specifically formulated by the Corporation and may not be comparable to similarly titled measures reported by other companies.
SUMMARY CONSOLIDATED TANGIBLE OPERATING INCOME AND FINANCIAL STATISTICS ($ IN MILLIONS, EXCEPT PER SHARE DATA)
OPERATING INCOME STATEMENT COMPONENTS AS A PERCENT OF AVERAGE TOTAL ASSETS
The following table presents a summary of the major elements of the consolidated operating income statements for the years ended December 31, 1997, 1996, and 1995. Each of the elements is stated as a percent of consolidated average total assets outstanding for the respective year and, where appropriate, is converted to a fully taxable equivalent basis (FTE). The results exclude the special charges in 1996 as previously discussed.
NET INTEREST INCOME
Net interest income in 1997 amounted to $564.0 million, an increase of $58.3 million or 11.5% compared with net interest income of $505.7 million in 1996.
Average earning assets in 1997 amounted to $14.7 billion compared to $12.6 billion in 1996, an increase of $2.1 billion or 17.2%. Average loans and leases, excluding the effect of securitizing adjustable rate mortgage loans (ARMs) increased $1.6 billion or 16.5% of which, approximately $580 million is attributable to the Security merger. The remaining growth in average earning assets was primarily attributable to investment securities. Approximately $280 million of the growth is attributable to the Security merger while the remainder reflects the Corporation's intent to increase the portfolio size with higher yielding and longer-term securities to adjust the rate sensitivity and leverage of the consolidated balance sheet. During 1997, the Corporation's banking affiliates repositioned investment securities through the sale and purchase of approximately $400 million of securities available for sale.
Average interest bearing liabilities increased $1.9 billion or 19.1% in 1997 compared to 1996. Average interest bearing deposits increased $1.2 billion or 14.5%. Average short-term borrowings increased $789.6 million while average long-term borrowings decreased $65.1 million. Average noninterest bearing deposits increased $173.5 million or 8.3% in 1997 compared to the prior year. The Security merger accounted for approximately $590 million of the growth in average deposits, $43 million of the growth in average short-term borrowings and increased average long-term borrowings by approximately $116 million.
During the second quarter of 1997, the holder of the Corporation's 8.5% convertible subordinated notes converted $16.8 million of the notes to Series A convertible preferred stock. During 1997, the remaining $130.0 million of the Corporation's banking subsidiaries' Bank Notes matured and were refinanced primarily with short-term borrowings and brokered certificates of deposit. In addition, $104.3 million of the Corporation's Medium Term Notes Series B and C matured and were refinanced with Medium Term Notes Series C and D.
The growth and composition of the Corporation's average loan and lease portfolio for the current year and prior two years are reflected in the following table. The securitized ARM loans that are classified as investment securities available for sale are included to provide a more meaningful comparison ($ in millions):
- -------- n.m.--not meaningful
During 1997, approximately $218 million of ARM loans were converted into government guaranteed agency pool securities and approximately $580 million of securitized ARMs were acquired from Security. ARM loans totaling approximately $224 million and $455 million were securitized in 1996 and 1995, respectively. Including the securitized ARMs, average residential mortgages increased approximately $820.5 million or 32.4% of which, approximately $500 million is attributable to the Security merger.
The growth and composition of the Corporation's consolidated average deposits for the current year and prior two years are reflected below ($ in millions):
- -------- n.m.--not meaningful
Money market savings and brokered CDs exhibited the greatest growth when comparing average deposits in 1997 to average deposits in 1996. Average Money Market savings increased $418.1 million in 1997 over 1996 of which, approximately one-half of the increase is attributable to the Security merger.
The Corporation has a brokered CD program to acquire longer-term CDs with maturities of one year or more in order to provide a stable source of funds that over time is less costly than Bank Notes. During the second quarter of 1997, the Corporation began issuing brokered CDs that are callable at the option of the Corporation. Concurrently with the callable issues, the Corporation entered into receive fixed interest rate swaps which are callable at the option of the counterparties. Callable CDs averaged $34.2 million in 1997 and amounted to $124.8 million at December 31, 1997. The brokered callable CDs provide term liquidity at rates below LIBOR.
During 1997, M&I disposed of seven branches. Deposits and loans aggregating approximately $64 million and $5 million, respectively were divested in 1997. As part of the Corporation's banking initiatives, certain bank branches were voluntarily divested of during the second half of 1996. Such branches disposed of in 1996 had combined deposits and loans of approximately $26 million and $14 million, respectively. In 1995, purchase acquisitions in February and July contributed approximately $232 million in deposits and $186 million in loans.
The net interest margin (FTE) as a percent of average earning assets was 4.00% in 1997 compared to 4.16% in 1996, a decrease of 16 basis points. The yield on earning assets increased 8 basis points from 7.87% in 1996 to 7.95% in 1997 while the cost of interest bearing liabilities increased from 4.68% in 1996 to 4.89% in 1997.
The yield on loans, leases and securitized ARMs decreased 5 basis points in 1997 compared to 1996. Loan and lease growth, including acquisitions, and the positive effect of interest rate swaps offset the yield decline and contributed approximately $125.4 million or 70% of the increase in interest on earning assets.
The remaining increase in interest on earning assets is primarily attributable to investment securities. The total yield on the investment security portfolio, excluding securitized ARMs, increased by approximately 49 basis points in 1997 compared to 1996 and the average balance of such investment securities, excluding fair value adjustments for securities available for sale, increased $556.7 million or 19.2%.
The increase in the volume and cost of interest bearing deposits accounted for $69.0 million or 61% of the increase in interest paid on interest bearing liabilities in 1997. The decrease in volume of long-term borrowings was offset by the increase in cost resulting in a net benefit to the interest margin of $1.4 million. The average cost of short-term borrowings increased 24 basis points and together with the increase in average volume accounted for $46.3 million of the increase in interest paid on interest bearing liabilities.
As more fully described in Note 12 to the Consolidated Financial Statements contained in Item 8 herein, in December 1996 the Corporation formed a Trust and issued $200 million of 7.65% cumulative preferred capital securities. The Trust invested the proceeds in 7.65% junior subordinated deferrable interest debentures issued by the Corporation that is the sole asset of the Trust. The proceeds were used by the Corporation for general corporate purposes. For financial statement purposes, the capital securities are classified as long- term borrowings and the distributions as interest expense that caused, in part, the average cost of long-term borrowings to increase in 1997 compared to 1996.
At December 31, 1997, the Corporation had $625 million in notional amount of standard receive fixed/pay floating interest rate swaps, $25 million in notional amount of an interest rate floor and $25 million in notional amount of an interest rate cap designated as hedges against the interest rate volatility associated with variable rate loans, variable rate deposits and variable rate debt. The impact on net interest income in 1997 was a positive $2.62 million and increased the yield on average earning assets by 2 basis points.
Net interest income in 1996 amounted to $505.7 million, an increase of $14.2 million or 2.9% compared with net interest income of $491.5 million in 1995. The benefit from the increase in earning assets, use of derivative financial instruments, the stable cost of interest bearing liabilities and the increase in noninterest bearing deposits were offset, in part, by a decline in the yield on earning assets.
Average earning assets in 1996 amounted to $12.6 billion compared to $11.7 billion in 1995, an increase of $903.6 million or 7.7%. Average loans and leases, excluding the effect of securitizing adjustable rate mortgage loans increased $355.8 million or 3.9%. The remaining growth in average earning assets was primarily attributable to investment securities.
Average interest bearing liabilities increased $695.2 million or 7.5% in 1996 compared to 1995. Average interest bearing deposits increased $494.2 million or 6.5%. Average short-term borrowings increased $345.4 million while average long-term borrowings decreased $144.4 million. Average nonintererst bearing deposits increased $110.3 million or 5.6% in 1996 compared to the prior year.
During 1996, the holder of the Corporation's 8.5% convertible subordinated notes converted approximately $16.8 million of the notes to Series A convertible preferred stock. During 1996, approximately $309.0 million of the Corporation's banking subsidiaries' Bank Notes matured and were refinanced primarily with short-term borrowings and brokered certificates of deposit.
The net interest margin (FTE) as a percent of average earning assets was 4.16% in 1996 compared to 4.30% in 1995, a decrease of 14 basis points. The yield on earning assets decreased 15 basis points from 8.02% in 1995 to 7.87% in 1996 while the cost of interest bearing liabilities remained at 4.68% in both 1996 and 1995.
The yield on loans, leases, and securitized ARMs decreased 18 basis points in 1996 compared to 1995. Loan and lease growth and the positive effect of interest rate swaps offset the yield decline and contributed approximately $13.7 million or 26% of the increase in interest on earning assets.
At December 31, 1996, the Corporation had $370 million in notional amount of standard receive fixed/pay floating interest rate swaps and $25 million in notional amount of interest rate floors designated as a hedge against the interest rate volatility associated with variable rate loans. The impact on net interest income in 1996 was a positive $1.12 million. The yield on loans and securitized ARMs without these derivative financial instruments would have been 8.40% or one basis point lower than the 8.41% reported for 1996.
The remaining increase in interest on earning assets is attributable to investment securities. The total yield on the investment security portfolio, excluding securitized ARMs, increased by approximately 26 basis points in 1996 compared to 1995 and the average balance of such investment securities increased $566.5 million or 24%. At December 31, 1996, the Corporation had $25 million in notional amount of interest rate floors designated as a hedge against the convexity risk associated with investments in collateralized mortgage obligations. The impact on net interest income was negligible.
The increase in the volume and cost of interest bearing deposits accounted for $29.1 million or 89% of the increase in interest paid on interest bearing liabilities in 1996. The decrease in cost and volume of long-term borrowings benefited the interest margin by approximately $10.9 million which reflects the maturity and conversion of higher cost debt. The average cost of short-term borrowings decreased 46 basis points in 1996 compared to 1995 which reflects in part, the Corporation's banking affiliates expanded use of the treasury tax and loan note option programs and other vehicles which provide lower cost sources of funds.
AVERAGE BALANCE SHEETS AND ANALYSIS OF NET INTEREST INCOME
The Corporation's consolidated average balance sheets, interest earned and interest paid, and the average interest rates earned and paid for each of the last three years are presented in the following table. Securitized ARM loans that are classified as investment securities available for sale are included with loans and leases to provide a more meaningful comparison ($ in thousands):
- ------- Notes: (1) Fully taxable equivalent basis, assuming a Federal income tax rate of 35% for all years presented, and excluding disallowed interest expense. (2) Loans and leases on nonaccrual status have been included in the computation of average balances. (3) Based on average balances excluding fair value adjustments for available for sale securities.
ANALYSIS OF CHANGES IN INTEREST INCOME AND INTEREST EXPENSE
The effect on interest income and interest expense due to volume and rate changes in 1997 and 1996 are outlined in the following table. Changes not due solely to either volume or rate are allocated to rate ($ in thousands):
- -------- Notes: (1) Fully taxable equivalent basis, assuming a Federal income tax rate of 35% for all years presented, and excluding disallowed interest expense. (2) Based on average balances excluding fair value adjustments for available for sale securities.
PROVISION FOR LOAN AND LEASE LOSSES AND CREDIT QUALITY
The provision for loan and lease losses amounted to $17.3 million in 1997, $15.2 million in 1996, and $16.2 million in 1995.
Nonperforming assets at December 31, 1997, were $87.3 million compared to $75.0 million at December 31, 1996, an increase of $12.3 million or 16.4%. At the time of merger, Security had nonperforming assets of approximately $5.5 million, of which, approximately $5.0 million was nonaccrual residential real estate loans. Nonaccrual loans and leases, the largest component of nonperforming assets increased $4.0 million since year-end 1996 and increased $2.5 million since September 30, 1997. Renegotiated loans and leases at December 31, 1997 were $1.3 million compared to $1.8 million at December 31, 1996. Loans and leases past due 90 days or more were $8.2 million at the end of 1997 compared to $7.7 million at the end of the third quarter in 1997 and
$7.4 million at year-end 1996. Other real estate owned amounted to $13.6 million at December 31, 1997, compared to $3.6 million at September 30, 1997, and $5.6 million at December 31, 1996. At December 31, 1997, and 1996, approximately $11.7 million and $2.2 million, respectively, of other real estate consisted of closed branch facilities. The increase is attributable to the Security merger. The majority of Security's branch and operations facilities were closed due to customer service and operating overlap.
The increase in nonaccrual loans and leases compared to the prior year was generally attributable to residential real estate loans. Nonaccrual commercial loans decreased $3.9 million, nonaccrual commercial mortgages decreased $5.9 million, nonaccrual residential real estate increased $11.0 million, nonaccrual personal loans were relatively unchanged, nonaccrual lease receivables increased $2.2 million and nonaccrual construction loans increased $.6 million.
Net charge-offs in 1997 amounted to $13.1 million or 0.13% of average loans and leases compared to $20.3 million or 0.23% of average loans and leases in 1996. Net charge-offs in 1996 include one larger commercial loan and one larger lease receivable that accounted for $13.9 million of the total net charge-offs in 1996.
CONSOLIDATED CREDIT QUALITY INFORMATION DECEMBER 31, ($000'S)
MAJOR CATEGORIES OF NONACCRUAL LOANS AND LEASES ($000'S)
RECONCILIATION OF CONSOLIDATED ALLOWANCE FOR LOAN AND LEASE LOSSES ($000'S)
- -------- Note: (1) The amount of the provision for loan and lease losses charged to operating expense for the year ended December 31, 1997, is the amount necessary to bring the allowance for loan and lease losses at December 31, 1997, to a level believed adequate by management to absorb current estimated losses in the loan and lease portfolio. Management's determination of the adequacy of the allowance is based on a continual review of the loan and lease portfolio, loan and lease loss experience, economic conditions, growth and composition of the portfolio, and other relevant factors. As a result of management's continual review, the allowance is adjusted through provisions for loan and lease losses charged against income. See "Summary of Loan and Lease Loss Experience" contained in Item 1, Part 1 for additional discussion.
OTHER INCOME
Total noninterest income amounted to $598.9 million in 1997 compared to $503.3 million in 1996, an increase of $95.6 million or 19.0%.
Fees from data processing services increased $75.3 million or 28.0% from $268.5 million in 1996 to $343.8 million in 1997. Processing fees increased $55.4 million or 30.2%. Conversion revenue of $14.1 million was relatively unchanged. Fees from unique services such as contract programming and consulting increased $3.3 million and software revenue increased $11.5 million or 28.2%. Buyout fees, which vary from year to year, increased $5.1 million and amounted to $11.3 million in 1997.
Fees from trust services were $78.6 million in 1997 compared to $70.2 million in 1996, an increase of $8.4 million or 12.0%. All major categories experienced revenue growth in excess of 10% over the prior year. Personal trust fees increased $4.1 million and Corporate trust fees increased $2.8 million.
Fees for other customer services increased $9.5 million or 8.1%. Service charges on deposits increased $3.2 million and amounted to $55.4 million in 1997. Credit card, debit card and ATM fees of $25.1 million in 1997 increased $2.4 million. Brokerage and insurance fees increased $2.6 million.
Net securities gains in 1997 amounted to $3.2 million. During 1997 the Corporation's Capital Markets Group had net realized securities gains of $6.7 million. Also during 1997, the Corporation's banking affiliates had net securities losses of $5.2 million from the sale of available for sale investment securities as previously discussed and the Corporation had net securities gains of $1.8 million from the sale of equity securities.
Other miscellaneous income amounted to $46.5 million in 1997 compared to $32.5 million in 1996, an increase of $14.0 million. Deposit premiums from sales of bank branches were $7.6 million in 1997 compared to $1.5 million in 1996. Gains from the sale of mortgage loans increased $4.0 million in 1997 and amounted to $11.3 million. Foreign exchange revenue increased $1.1 million in 1997 compared to the prior year.
Total noninterest income amounted to $503.3 million in 1996 compared to $424.2 million in 1995, an increase of $79.1 million or 18.7%.
Fees from data processing services increased $54.6 million or 25.5% from $213.9 million in 1995 to $268.5 million in 1996. Processing fees increased $31.8 million or 21.4%. Conversion revenue increased $1.9 million or 15.2% and amounted to $14.1 million in 1996. Fees from unique services such as contract programming and consulting increased $16.6 million and amounted to $23.7 million in 1996 compared to $7.1 million in 1995. Software revenue increased $3.5 million or 9.3% while buyout fees, which vary from year to year, were relatively unchanged.
Fees from trust services were $70.2 million in 1996 compared to $64.2 million in 1995, an increase of $6.0 million or 9.4%. Personal trust fees increased $3.1 million and Corporate trust fees increased $0.8 million. Revenue from outsourcing and securities lending increased $1.2 million.
Fees for other customer services increased $6.5 million or 5.9%. Service charges on deposits increased $1.2 million and amounted to $52.2 million in 1996. Credit card and ATM fees increased $2.0 million and discount brokerage fees increased $2.3 million. Corporate finance and management fees increased $0.5 million.
Net securities gains in 1996 amounted to $14.9 million compared to $4.6 million in 1995. During 1996 the Corporation's Capital Markets Group realized securities gains of $22.2 million offset in part by realized and unrealized securities losses of $1.9 million. The Corporation's banking affiliates had securities losses of $5.4 million from the sale of approximately $560 million of available for sale investment securities.
Other miscellaneous income amounted to $32.5 million in 1996 compared to $30.8 million in 1995, an increase of $1.7 million. During 1996, the Corporation disposed of three bank branches with deposits of approximately $26 million and realized net deposit premium gains of $1.5 million.
OTHER EXPENSE
Total other expense amounted to $775.4 million in 1997, an increase of $109.5 million or 16.4% from $665.9 million in 1996 before the two special charges as previously discussed. Including these special charges, total other expense for 1996 amounted to $680.7 million.
The increase in expenses is primarily attributable to the Corporation's nonbanking businesses, particularly its data processing business segment (Data Services). Data Services expense growth of $69.4 million or 22.9% in 1997 compared to 1996 (before special charges) reflects the cost of adding processing capacity and other related costs associated with increased revenue growth. The introduction of new products late in 1996 and 1997 such as Data Warehouse, Internet and PC Banking, and Banker Insight as well as continued work on Year 2000 also contributed to expense growth in both years. See "Year 2000" for additional discussion of the activities and costs related to this project.
Expenses of the Corporation's banking business in 1997 includes the cost of integrating Security into M&I. M&I added approximately 400 full-time equivalent employees as a direct result of the merger excluding job opportunities offered former Security employees for open job positions that existed prior to the merger. In total, it is estimated that 570 M&I positions were filled by former Security employees. At the time of merger, Security employed approximately 850 employees on a full-time equivalent basis. During the fourth quarter of 1997, many former Security employees were temporarily retained to assist in implementing systems and operations conversions, attending to special customers needs and other issues to ensure that the integration was as effective and efficient as possible.
The merger with Security was an in-market acquisition which entailed a significant amount of customer service and operating overlap. The Corporation closed the majority of Security's branch and operating facilities in addition to the reduction in work force described above resulting in lower operating expenses. At the time the merger was announced, it was anticipated that the estimated total cost savings to be achieved by the combined companies was approximately $31.8 million. While no assurances can be given, management now expects that the cost savings will meet or exceed the original estimate. Management estimates that on an annualized basis, approximately 60% of the current projected cost savings was achieved in 1997.
Expenses of the Corporation's banking business in 1996 include the cost of implementing certain initiatives in the areas of retail and small business lending, loan and deposit operational support consolidation and product and service distribution networks. These initiatives will enable more competitive pricing and achieve improved cost efficiencies. Excluding the SAIF charge of $2.7 million reported in 1996, the expenses of the banking affiliates and support services increased $7.0 million or 1.9% when compared to the prior year. Lower payments to regulatory agencies of $10.6 million were somewhat offset by severance, branch closures and disposals, equipment write-downs and disposals and other related costs associated with the initiatives. In 1996 these banking initiative expenses amounted to $4.7 million.
Expense control is sometimes measured in the financial services industry by the efficiency ratio statistic. The efficiency ratio is calculated by taking total other expense (excluding special charges) divided by the sum of total other income (excluding securities gains or losses) and net interest income on a fully taxable equivalent basis. The Corporation's efficiency ratios for the years ended December 31, 1997, 1996, and 1995 were:
Total salaries and benefits expense amounted to $450.1 million for 1997 compared to $382.4 million in 1996, an increase of $67.7 million or 17.7%. The data processing business contributed approximately $46.6 million or 69% of the increase. During 1997, Data Services had average full-time equivalent employees and contract programmers of 3,496 compared to 2,810 in the prior year.
Net occupancy and equipment expenses increased $10.2 million in 1997 when compared to 1996. Data Services activity resulted in approximately $10.0 million or 98% of the 1997 increase in occupancy and equipment costs. Additional depreciation and maintenance associated with equipment additions and telecommunications equipment and charges accounted for $8.1 million of Data Services' increase. Also during 1997, Data Services completed a 160 thousand square foot facility in addition to upgrades to its existing facilities.
Software expense amounted to $19.7 million in 1997 compared to $15.2 million in 1996, an increase of $4.5 million or 29.4%. This increase is primarily related to Data Services growth which accounted for $3.8 million of the increase. Data Services growth consisted of additional and more costly operating software associated with CPU upgrades as well as additional application software including software used for the Year 2000 project.
As previously discussed, the Corporation paid $2.7 million in one-time SAIF assessments in 1996 which is the primary reason for the decline in payments to regulatory agencies in 1997 compared to 1996.
Processing charges expense increased $4.5 million or 23.9% from $19.1 million in 1996 to $23.6 million in 1997. Both banking and Data Services experienced increased costs in processing charges.
Other expenses amounted to $119.3 million in 1997 compared to $109.3 million in the prior year, an increase of $10.0 million or 9.2%. Excluding the $12.1 million write-off of acquired in-process technology attributable to the EastPoint acquisition, other expenses increased $22.1 million in 1997 when compared to the prior year. Intangible amortization increased $8.0 million primarily as a result of the Security transaction. Other operating expenses associated with Data Services revenue growth increased $8.4 million. Customer related expense for banking increased $2.2 million in 1997 compared with 1996. Lease buyouts and writedowns associated with branch closures decreased $0.8 million.
Other expense is also affected by the capitalization of costs, net of amortization, associated with software development and customer data processing conversions. The amount of capitalized software development costs, net of amortization and impairment writedowns, increased $6.9 million in 1997 compared to the prior year . The impact of capitalized customer conversion activity, net of amortization, declined $2.2 million as customers continue to pay for conversions upfront. Capitalized software costs are amortized over their estimated useful lives. Despite the Corporation's monitoring of its ability to recover its investment in software, the ever increasing change in technology increases the possibility of obsolescence and may necessitate impairment writedowns. During 1997, capitalized software impairment writedowns were $2.4 million.
Total other expense amounted to $680.7 million in 1996, an increase of $81.1 million or 13.5% from that reported in 1995. As previously discussed, two special charges were recognized in 1996. Excluding these special charges, total other expense for 1996 amounted to $665.9 million, an increase of 11% or $66.3 million, when compared to the prior year.
Total salaries and benefits expense amounted to $382.4 million for 1996 compared to $343.7 million in 1995, an increase of $38.7 million or 11.3%. Data Services contributed approximately $32.4 million of the increase. As of December 31, 1996 Data Services had approximately 2,800 employees, an increase of approximately 200 full time employees since the end of the prior year. The addition of EastPoint, normal growth and new product development were the primary causes for the increase. The increased use of contract programmers, who are not considered full time employees, resulted in an increase in salaries and benefits expense of $5.1 million in 1996 compared to 1995.
Net occupancy expense increased $3.5 million in 1996 when compared to 1995 and amounted to $39.2 million while equipment expense amounted to $77.3 million, an increase of $11.8 million when compared to $65.5 million incurred in the prior year. Data Services activity resulted in approximately 60% of the 1996 increase in occupancy costs and the majority of the increase in equipment expense.
Software expense amounted to $15.2 million compared to $12.4 million in 1995, an increase of $2.8 million or 23%. This increase is primarily related to Data Services growth and its new initiatives.
Payments to regulatory agencies amounted to $4.8 million in 1996 compared to $12.7 million in 1995. As previously discussed, the Corporation paid $2.7 million in SAIF assessments in 1996. Excluding the one-time assessment, payments to regulatory agencies declined $10.6 million. This decrease in expense is related to the reduction in FDIC insurance rates.
Professional services expense declined $1.2 million in 1996 when compared to the prior year. Approximately $1.1 million of the decline represents costs associated with the ARM securitization program that began in the later half of 1995. Also, professional services expense incurred by Data Services declined by approximately $3.0 million which was the result of lower fees paid for technological assistance in software development. These declines were offset somewhat by higher fees paid to operational and branch efficiency consultants.
Other expenses amounted to $109.3 million in 1996 compared to $76.8 million in the prior year, an increase of $32.5 million or 42.3%. Excluding the $12.1 million write-off of acquired in-process technology attributable to the EastPoint acquisition, other expenses increased $20.4 million in 1996 when compared to the prior year. Advertising and promotion expense increased $4.0 million in 1996 compared to the prior year. Also contributing to the increase was credit card expense which increased $3.1 million in 1996. This increase is associated with higher data processing revenue growth. Lease buyouts and real estate writedowns associated with branch closures resulted in an increase to other expense in 1996 of approximately $2.0 million. This category of expense is also affected by the capitalization of costs, net of amortization, associated with software development and customer data processing conversions. The amount of capitalized software development costs, net of amortization, declined $2.0 million in 1996 compared to the prior year and is consistent with the decline in professional services expense previously discussed. The impact of capitalized customer conversion activity, net of amortization, also declined $2.0 million.
INCOME TAX PROVISION
The provision for income taxes was $125.1 million in 1997, $109.7 million in 1996 and $106.6 million in 1995. The effective tax rate in 1997 was 33.8% compared to 35.0% in 1996 and 35.5% in 1995. Increased Federal tax-exempt income lowered the effective tax rate in 1997 and 1996. During 1995, the Corporation recognized a research and experimentation tax credit related to software development of $2.3 million.
CAPITAL RESOURCES
Shareholders' equity was $1.92 billion or 9.86% of total consolidated assets at December 31, 1997, compared to $1.26 billion or 8.54% of total consolidated assets at December 31, 1996. The Security transaction (12.3 million common shares), earnings retention, stock option exercises and increase in unrealized gains on investment securities available for sale were partially offset by treasury stock acquisitions.
The Corporation and its affiliates continue to have a strong capital base and the Corporation's regulatory capital ratios continue to be significantly above the defined minimum regulatory ratios. See Note 13 to the
Consolidated Financial Statements contained in Item 8 herein for the Corporation's comparative capital ratios and the capital ratios of its significant subsidiaries.
As more fully described in Note 12 to the Consolidated Financial Statements contained in Item 8 herein, in December 1996 the Corporation formed a Trust and issued $200 million of 7.65% cumulative preferred capital securities. The cumulative preferred capital securities qualify as Tier 1 capital subject to certain limitations, for regulatory capital purposes and substantially contributed to the increase in regulatory capital at year end 1996.
The Corporation's subsidiaries, primarily its banking subsidiaries, are restricted by regulations from making distributions above prescribed amounts. In addition, banking subsidiaries are limited in making loans and advances to the Corporation. At December 31, 1997, approximately $57 million and $63 million were available for distribution without regulatory approval from the Corporation's banking and nonbanking subsidiaries, respectively.
Under Federal Reserve Board policy, the Corporation is expected to act as a source of financial strength to each subsidiary bank in circumstances when it might not do so absent such policy.
In April 1997, the remaining $16.8 million of 8.5% convertible subordinated notes were converted into 1,922,114 shares of common stock. As provided for in the note agreement, the noteholder subsequent to conversion, exchanged the common shares acquired by conversion of the debt for 168,185 shares of the Corporation's Series A preferred stock.
The Corporation had a Stock Repurchase Program. Under the most recent provisions approved by the Corporation's Board of Directors, up to 6 million shares could be repurchased annually. The shares were being acquired to fund the on-going program to deliver or have available shares of common stock for stock option and other employee benefit plans and other corporate needs. During 1997, the Corporation purchased 1.2 million shares and had cumulatively purchased 19.6 million shares at an aggregate cost of approximately $500.3 million or $26.09 per share on a weighted average basis. On February 19, 1998, the Corporation announced that its Board of Directors voted to rescind the Stock Repurchase Program effective March 16, 1998.
YEAR 2000
Year 2000 is the term used to describe the fact that many existing computer programs use only two digits to identify a year in a date field. These programs were designed and developed without considering the impact of the upcoming change in the century. If not corrected, many computer applications could fail or create erroneous results by or at the year 2000. The Year 2000 issue affects virtually all companies and organizations.
Data Services began developing its plan to address Year 2000 in 1996. Data Services employs approximately 120 full-time equivalent employees who are dedicated to the Year 2000 project and maintains a dedicated code renovation center and testing facility. Code modifications and testing have been completed for licensed software and upgrades have been distributed to customers. Service bureau code modifications were completed in December 1997 with testing and system verification scheduled to take place throughout 1998. It is estimated that the net cost to change existing computer programs for both internal and external software will be approximately $30 million, an increase of $5 million from the estimate in 1996. During 1997, Data Services incurred approximately $10 million in expense related to this issue compared to $3 million in 1996 and anticipates the 1997 expense level to continue in 1998. The majority of Data Services' contracts do not provide for additional reimbursement over and above the previously contracted maintenance amounts. Future data processing revenue is critically dependent upon the successful implementation of the necessary changes.
The Corporation and its other affiliates began addressing Year 2000 in 1997. The overall process is being coordinated through M&I Support Services which has a dedicated function addressing the issue that includes
providing an overall plan, communicating and documenting the process and reporting of progress including periodic reporting to the banking affiliates primary regulator(s). In addition, a coordinator has been appointed from each affiliate bank and division of the Corporation. The inventory of hardware, software, electronic equipment and building systems has been completed. The risk assessment phase of analyzing vendor readiness, compiling critical software lists, and testing hardware is substantially complete. The plan for renovation of systems is in process. This phase includes developing an action plan for each inventory item, developing hardware and software upgrades and/or replacement schedules and implementation. The remaining phases include testing of implementation, certification of hardware, software, office machines and building systems and contingency planning. The Corporation anticipates the process to be completed late in 1998 in order to allow for adequate testing and contingency planning. Replacement equipment and software will be capitalized or expensed in accordance with the Corporation's normal accounting policies. The effect of writing off the net book value of equipment or software that is not Year 2000 compliant is not considered material.
PENDING ACQUISITION
In November 1997, the Corporation announced plans to merge with Advantage Bancorp ("Advantage"). Advantage has approximately $1.0 billion in consolidated assets. The transaction will be accounted for using the pooling- of-interests method and is expected to be completed in the second quarter of 1998. Subsequent to December 31, 1997, Shareholder and regulatory approvals were obtained. The Corporation anticipates that the combined entity will incur merger/restructuring costs as a result of this transaction. The preliminary estimate of the merger/restructuring charge ranges from approximately $20 million to $30 million. It is anticipated that a significant portion of the charge will relate to noncash benefit items.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk arises from exposure to changes in interest rates, exchange rates, commodity prices, and other relevant market rate or price risk. The Corporation faces market risk through trading and other than trading activities. While market risk that arises from trading activities in the form of foreign exchange and interest rate risk is immaterial to the Corporation, market risk from other than trading activities in the form of interest rate risk is measured and managed through a number of methods. The Corporation uses financial modeling techniques which measure the sensitivity of future earnings and the change in fair value due to changing rate environments to measure interest rate risk. Policies established by the Corporate Asset/Liability Committee and approved by the Corporate Board of Directors limit exposure for both earnings and fair value at risk. General interest rate movements are used to develop sensitivity as the Corporation feels it has no primary exposure to a specific point on the yield curve. These limits are based on the Corporation's exposure to a 100 basis point immediate and sustained parallel rate move, either upward or downward. The Corporation manages interest rate risk through the use of a limited array of derivative financial instruments. These instruments allow the Corporation to produce the desired balance sheet repricing structure while simultaneously meeting the desired objectives of both its borrowing and depositing customers. For additional information on the Corporation's derivative financial instruments and foreign exchange position, see Note 17 to the Consolidated Financial Statements contained in Item 8
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA FOR YEARS ENDED DECEMBER 31, 1997, 1996, AND 1995
CONSOLIDATED BALANCE SHEETS DECEMBER 31 ($000'S EXCEPT SHARE DATA)
The accompanying notes are an integral part of the Consolidated Financial Statements.
CONSOLIDATED STATEMENTS OF INCOME YEARS ENDED DECEMBER 31 ($000'S EXCEPT SHARE DATA)
The accompanying notes are an integral part of the Consolidated Financial Statements.
CONSOLIDATED STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31 ($000'S)
The accompanying notes are an integral part of the Consolidated Financial Statements.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY ($000'S EXCEPT SHARE DATA)
The accompanying notes are an integral part of the Consolidated Financial Statements.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY ($000'S EXCEPT SHARE DATA)
The accompanying notes are an integral part of the Consolidated Financial Statements.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY ($000'S EXCEPT SHARE DATA)
The accompanying notes are an integral part of the Consolidated Financial Statements.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996, AND 1995 ($000'S EXCEPT SHARE DATA)
Marshall & Ilsley Corporation ("M&I" or the "Corporation") is a bank and savings and loan holding company that provides financial services to a wide variety of corporate, institutional, government and individual customers through 25 banks and one savings association located in Wisconsin and one bank in Arizona. Based on total revenues, banking is M&I's largest business. In addition to lending and accepting deposits from retail and commercial customers, banking includes personal property lease financing; investment management and advisory services; commercial and residential mortgage banking; venture capital and financial advisory services; trust services to residents of Wisconsin, Arizona and Florida; and brokerage services. M&I also provides financial and data processing services and software sales through the Data Services Division of the Corporation and three other nonbank subsidiaries. M&I's largest affiliates and principal operations are in Wisconsin however, it has activities in other markets, particularly in certain neighboring Midwestern states, and in Arizona and Florida.
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Estimates--The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported periods. Actual results could differ from those estimates.
Consolidation principles--The Consolidated Financial Statements include the accounts of Marshall & Ilsley Corporation and all subsidiaries. All significant intercompany balances and transactions are eliminated in consolidation. Certain amounts in the 1996 and 1995 Consolidated Financial Statements have been reclassified to conform with the 1997 presentation.
Cash and cash equivalents--For purposes of the Consolidated Financial Statements, the Corporation defines cash equivalents as short-term investments which have an original maturity of three months or less and are readily convertible into cash.
Securities--Securities, when purchased, are designated as Trading, Investment Securities Held to Maturity, or Investment Securities Available for Sale and remain in that category until they are sold or mature. The specific identification method is used in determining the cost of securities sold.
Investment Securities Held to Maturity are carried at cost, adjusted for amortization of premiums and accretion of discounts. Investment Securities Available for Sale are carried at fair value with fair value adjustments net of the related income tax effects reported as a separate component of shareholders' equity. Short-term Investments, other than Trading Securities, are carried at cost, which approximates market value. Trading Securities are carried at fair value, with adjustments to the carrying value reflected in the Consolidated Statements of Income.
Loans and leases--Interest on loans, other than direct financing leases, is recognized as income based on the loan principal outstanding during the period. Unearned income on financing leases is recognized over the lease term on a basis that results in an approximate level rate of return on the lease investment. Loans are generally placed on nonaccrual status when they are past due 90 days as to either interest or principal. When a loan is placed on nonaccrual status, previously accrued and uncollected interest is charged to interest income on loans. A nonaccrual loan may be restored to an accrual basis when interest and principal payments are brought current and collectibility of future payments is not in doubt.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
The Corporation defers and amortizes fees and certain incremental direct costs, primarily salary and employee benefit expenses, over the contractual term of the loan or lease as an adjustment to the yield. The unamortized net fees and costs are reported as part of the loan balance outstanding.
Allowance for loan and lease losses--The allowance for loan and lease losses is maintained at a level believed adequate by management to absorb estimated losses in the loan and lease portfolio. Management's determination of the adequacy of the allowance is based on a continual review of the loan and lease portfolio, loan and lease loss experience, economic conditions, growth and composition of the portfolio, and other relevant factors. As a result of management's continual review, the allowance is adjusted through provisions for loan and lease losses charged against income.
Premises and equipment--Land is recorded at cost. Premises and equipment are recorded at cost and depreciated principally on the straight-line method with annual rates varying from 2% to 10% for buildings and 10% to 35% for equipment. Long-lived assets which are considered impaired are carried at fair value and long-lived assets to be disposed of are carried at the lower of the carrying amount or fair value less cost to sell. Maintenance and repairs are charged to expense and betterments are capitalized.
Other real estate owned--Other real estate owned includes assets that have been acquired in satisfaction of debts and bank branch premises held for sale. Other real estate acquired in satisfaction of debts is recorded at fair value, less estimated selling costs, and bank branch premises are recorded at the lower of cost or fair value, less estimated selling costs, at the date of transfer. Valuation adjustments required at the date of transfer for assets acquired in satisfaction of debts are charged to the allowance for loan and lease losses, whereas any valuation adjustments on premises are reported in other expense. Subsequent to transfer, other real estate owned is carried at the lower of cost or fair value, less estimated selling costs, based upon periodic evaluations. Rental income from properties and gains on sales are included in other income, and property expenses, which include carrying costs, required valuation adjustments and losses on sales, are recorded in other expense. At December 31, 1997 and 1996, other real estate amounted to $13,567 and $5,629, respectively.
Mortgage servicing--Fees related to the servicing of mortgage loans are recorded as income when payments are received from mortgagors. Mortgage loans held for sale to investors are carried at the lower of cost or market, determined on an aggregate basis, based on outstanding firm commitments received for such loans or on current market prices. Mortgage loans held for sale amounted to $68,488 at December 31, 1997 and $28,101 at December 31, 1996.
Data processing services--Direct costs associated with the production of computer software which will be marketed or used in data processing operations are capitalized and amortized on the straight-line method over the estimated economic life of the product, generally four years. Such capitalized costs are periodically evaluated for impairment and adjusted to net realizable value when impairment is indicated. Direct costs associated with customer system conversions to the data services operations are capitalized and amortized on the straight-line method over the terms, generally five to seven years, of the related servicing contract. Routine maintenance of software products including maintenance required for the year 2000, design costs and development costs incurred prior to establishment of a product's technological feasibility for software to be sold, are expensed as incurred.
Net unamortized costs at December 31 were:
Amortization expense was $15,020, $9,851, and $7,122, for 1997, 1996, and 1995, respectively.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
Intangibles--Unamortized intangibles resulting from acquisitions, primarily goodwill, core deposit premiums, purchased data processing contract rights and mortgage servicing rights were $349,819 at December 31, 1997 and $77,296 at December 31, 1996. The Corporation recognizes as separate assets rights to service mortgage loans when the loans are purchased or originated and sold with servicing retained. Mortgage servicing rights are amortized over the periods during which the corresponding mortgage servicing revenues are anticipated to be generated. Purchased data processing contract rights represent the costs to acquire the rights to data processing and software distribution. Such costs are generally amortized over the average contract lives, which range from 5 to 8 years. Goodwill is amortized on the straight-line basis over periods ranging from 15 to 25 years while core deposit premiums are amortized principally on an accelerated basis over periods ranging up to 10 years. Total amortization expense was $19,151, $11,121, and $10,708 for 1997, 1996, and 1995, respectively. The Corporation continually evaluates whether later events and circumstances have occurred to indicate that the carrying value of intangibles should be reduced for possible impairment and utilizes estimates of undiscounted net income over the remaining life to measure recoverability.
The Corporation also has negative goodwill included in other liabilities, the majority of which, arose from an acquisition in 1992. Negative goodwill amounted to $7,494 and $9,056 at December 31, 1997 and 1996, respectively. The negative goodwill is being accreted on a straight-line basis over a period of 10 years and amounted to $1,562, $1,568, and $1,576 in 1997, 1996, and 1995.
Long-term borrowings--The guaranteed preferred beneficial interest of the Corporation's special purpose finance subsidiary which holds as its sole asset, junior subordinated deferrable interest debentures issued by the Corporation, is classified as long-term borrowings and shown net of its related discount. The distributions, including the related accretion of discount, are classified as interest expense for purposes of the Consolidated Financial Statements.
Interest risk management instruments--As part of its asset/liability management activities, the Corporation may enter into interest rate futures, forwards, swaps, floors, caps and option contracts. These derivative financial instruments are carried at fair value unless the instrument qualifies for hedge accounting treatment. Fair value adjustments on risk management instruments carried at fair value are reflected in other income. Gains and losses realized on futures and forward contracts qualifying as hedges are deferred and amortized over the terms of the related assets or liabilities and are included as adjustments to interest income or expense. Settlement on interest rate swaps and option contracts are recognized over the lives of the agreements as adjustments to interest income or expense.
The hedge accounting method is applied to interest rate swaps that meet the hedge criteria which is discussed below. Under this method, accrued income or expense associated with the swap is recognized as a component of the interest income or expense of the hedged asset or liability. Unrealized gains and losses are recognized on a basis that is consistent with the method of accounting for the hedged asset or liability. Unrealized gains or losses are not recognized for hedged assets or liabilities carried at amortized cost. Unrealized gains and losses on hedged assets and liabilities which are carried at fair value are reported as a component of shareholders' equity, net of applicable income tax effects.
The criteria to qualify an interest rate swap for the hedge accounting method is as follows:
1. The swap must be designated as a hedge and reduce the interest rate risk of the designated asset or liability.
2. The notional amount of the swap must be less than or equal to the amortized cost of the asset or liability to be hedged.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
3. The swap must achieve its intended objective of converting the yield on the hedged asset or liability to the desired rate. This criteria is assumed to have been met if the interest rate on the hedged asset or liability is identical to the offsetting rate on the swap. If the two rates are not identical, the correlation between the levels of the two rates since inception of the swap must be measured to ensure that the swap is meeting its intended objective.
If an interest risk management instrument is terminated or ceases to qualify for the hedge accounting method, any realized or unrealized gain or loss at that time is deferred and amortized over the remaining period of the original hedge. Any subsequent realized or unrealized gains or losses on instruments that no longer meet the hedge criteria are included in the determination of net income. If the item being hedged is sold, any deferred or unrealized gain or loss on the interest risk management instrument at the time of sale is considered in the determination of the gain or loss on the sale. If the interest risk management instrument is not terminated, it must be carried at fair value on a prospective basis, with changes in fair value included in the determination of periodic net income.
Cash flows from interest risk management instruments are reported in the Consolidated Statements of Cash Flows as operating activities.
Foreign exchange contracts--Foreign exchange contracts include such commitments as foreign currency spot, forward, future and, to a much lesser extent, option contracts. Foreign exchange contracts and the premiums on options written or sold are carried at market value, with realized and unrealized gains and losses included in other income.
Earnings per share--In February 1997, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards ("SFAS") No. 128, "Earnings Per Share." This statement established new standards for computing and presenting earnings per share which was adopted by the Corporation in the fourth quarter of 1997. SFAS 128 supersedes Accounting Principles Board Opinion No. 15, "Earnings Per Share."
Comparative earnings per share for prior years and all interim periods presented have been restated to conform with the computational requirements of SFAS 128.
New accounting pronouncements--
(1) REPORTING COMPREHENSIVE INCOME: In June 1997, the FASB issued SFAS 130, "Reporting Comprehensive Income." This statement establishes standards for reporting and display of comprehensive income and its components in a complete set of financial statements. Comprehensive income is the total of reported net income and all other revenues, expenses, gains and losses that under generally accepted accounting principles are not includable in reported net income but are reflected in shareholders' equity. SFAS 130 requires that comprehensive net income be reported in a financial statement that is displayed with the same prominence as other financial statements with the aggregate amount of comprehensive income reported in that same financial statement. SFAS 130 permits the statement of changes in shareholders' equity to be used to meet this requirement. Companies are encouraged, but not required, to display the components of other comprehensive income below the total for net income in the income statement or in a separate statement of comprehensive income. Companies are also required to display the cumulative total of other comprehensive income for the period as a separate component of equity in the balance sheet.
This statement is effective for fiscal years beginning after December 15, 1997 and requires companies to report comparative totals for comprehensive income in interim reports.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
(2) DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION: In June 1997, the FASB also issued SFAS 131, "Disclosures About Segments of an Enterprise and Related Information." This statement supersedes SFAS 14, "Financial Reporting for Segments of a Business Enterprise" and utilizes the "management approach" for segment reporting. The management approach is based on the way that the chief operating decision maker(s) organizes segments within a company for making operating decisions and assessing performance. Reportable segments are based on any manner in which management disaggregates its company such as by products and services, geography, legal structure or management structure. For each segment, SFAS 131 requires disclosures that are similar to those required under current standards with the addition of quarterly disclosure requirements. This statement also requires descriptive information about the way operating segments were determined, the products/services provided by the operating segments, the differences between the measurements used in reporting segment information and those used in general purpose financial statements, and the changes in the measurement of segment amounts from period to period.
The provisions of SFAS 131 are effective for fiscal years beginning after December 15, 1997. SFAS 131 does not need to be applied to interim statements in the initial year of application but such comparative information will be required in interim statements for the second year. Comparative information for earlier years must be restated in the initial year of application. The Corporation anticipates that SFAS 131 will increase the number of reportable segments compared to those required under the current standard.
2. EARNINGS PER SHARE
A reconciliation of the numerators and denominators of the basic and diluted per share computations are as follows (dollars and shares in thousands, except per share data):
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
Options to purchase 996,450 shares of common stock at $57.00 per share were outstanding since December 11, 1997 but were not included in the computation of diluted net income per share because the options' exercise price was greater than the average market price of the common shares for the year ended December 31, 1997.
3. BUSINESS COMBINATIONS
The Corporation has consummated the following business combinations:
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
Security Capital Corporation ("Security") was the parent of Security Bank S.S.B., a community-oriented financial institution. At September 30, 1997, Security had consolidated assets of approximately $3.6 billion and consolidated total deposits of approximately $2.3 billion.
This merger was accounted for using the purchase method of accounting. Total consideration to Security shareholders was approximately $860 million consisting of cash and Common Stock of the Corporation. Identifiable intangibles recorded in the transaction amounted to $46.8 million and consisted of core deposit premiums and mortgage servicing rights which are being amortized on an accelerated basis over approximately ten years. The amount of goodwill recorded in the transaction amounted to $244.2 million and is being amortized on a straight-line basis over twenty five years. The allocation of purchase price assigned to goodwill is subject to completion of remaining appraisals and adjustments to direct costs and certain exit costs which were recognized as liabilities assumed in the merger.
The merger with Security was an in-market acquisition which entailed a significant amount of customer service and operating overlap. Since March 1997 when the merger agreement was announced, management has been assessing the impact of the merger and formulating a plan for the on-going activities of the combined companies. The plan, as approved, included the involuntary termination of certain Security employees across all groups, closure of the majority of Security branch and operations facilities, and termination of certain duplicative service contracts such as data processing contracts. Severance associated with involuntary terminations is based on the severance plan contained in the merger agreement which was communicated to all affected employees.
At December 31, 1997, the plan was substantially complete except for the disposal of closed facilities and remaining severance which will be paid over the terms of the severance agreements.
Such exit costs recognized as liabilities assumed in the merger consist of the following:
EastPoint Technology, Inc. is a software development company specializing in client/server technology. The allocation of the purchase price to the various classes of assets was determined on the basis of an opinion expressed by a nationally recognized independent appraisal firm. The value determined for in- process research and development, where technological feasibility had not yet been established or was not believed to have an alternative future use, was immediately expensed while the values of completed technology and other assets, including the resulting goodwill, are being amortized over their estimated useful lives.
Acquired in-process research and development expensed during 1996 amounted to $12.1 million and is included in other expense in the Consolidated Statements of Income.
The results of operations for the acquired companies accounted for as purchases are included in the Consolidated Financial Statements from the dates of acquisition. The information below presents, on a pro forma
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
basis, certain historical information for the Corporation, adjusted for the Security transaction, as if the transaction had been consummated on the first of January of the indicated year.
The pro forma net income shown above for 1997 includes certain merger related expenses incurred by Security prior to consummation of the merger. Merger related expenses, net of gains from required branch divestitures, incurred by Security prior to the merger were approximately $47.5 million on an after tax basis or approximately $0.47 on a diluted per share basis.
In November 1997, M&I announced plans to merge with Advantage Bancorp ("Advantage"). Advantage has approximately $1.0 billion in consolidated assets. The transaction will be accounted for using the pooling-of-interests method and is expected to be completed in the second quarter of 1998, pending regulatory and shareholder approvals. The pro forma impact on the Corporation's Consolidated Financial Statements is not anticipated to be significant.
4. CASH AND DUE FROM BANKS
At December 31, 1997, $166,007 of cash and due from banks was restricted, primarily due to requirements of the Federal Reserve System to maintain certain reserve balances.
5. OTHER SHORT-TERM INVESTMENTS
Other short-term investments at December 31 were:
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
6. SECURITIES
The book and market values of securities at December 31 were:
The unrealized gains and losses of securities at December 31 were:
The book value and market value of securities by contractual maturity at December 31, 1997 were:
The gross realized gains and losses amounted to $14,087 and $10,849 in 1997, $22,450 and $7,574 in 1996, and $8,821 and $4,266 in 1995, respectively.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
At December 31, 1997, securities with a value of approximately $878,157 were pledged to secure public deposits, short-term borrowings, and for other purposes required by law.
During 1997 and 1996, approximately $218 and $224 million, respectively, of adjustable rate mortgage loans (ARMs) were securitized and transferred to investment securities available for sale. The Corporation has agreed to guarantee the first 4% of the loan pools securitized through government agencies against potential loss. Since inception of the program, approximately $896 million of ARMs have been securitized by M&I and no losses have been incurred. These are noncash transactions for purposes of the Consolidated Statements of Cash Flows.
7. LOANS AND LEASES
Loans and Leases at December 31 were:
The Corporation's lending activities are concentrated primarily in the Midwest. Approximately 3% of its portfolio consists of loans granted to customers located in Arizona. The Corporation had $1.9 million in foreign credits at December 31, 1997. The Corporation's loan portfolio consists of business loans extending across many industry types, as well as loans to individuals. As of December 31, 1997, total loans to any group of customers engaged in similar activities and having similar economic characteristics, as defined by standard industrial classifications, did not exceed 10% of total loans.
The Corporation evaluates the credit risk of each customer on an individual basis and, where deemed appropriate, collateral is obtained. Collateral varies by individual loan customer but may include accounts receivable, inventory, real estate, equipment, deposits, personal and government guaranties, and general security agreements. Access to collateral is dependent upon the type of collateral obtained. On an on-going basis, the Corporation monitors its collateral and the collateral value related to the loan balance outstanding.
An analysis of loans outstanding to directors and officers, including their related interests, of the Corporation and its significant subsidiaries for 1997 is presented below. All of these loans were made in the ordinary course of business with normal credit terms, including interest rates and collateral. The beginning balance has been adjusted to reflect the activity of newly-appointed directors and executive officers.
Loans to Directors & Executive Officers:
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
8. ALLOWANCE FOR LOAN AND LEASE LOSSES
An analysis of the allowance for loan and lease losses follows:
As of December 31, 1997 and 1996, nonaccrual loans and leases totaled $64,153 and $60,176, respectively.
At December 31, 1997 and 1996 the Corporation's recorded investment in impaired loans and leases and the related valuation allowance are as follows:
The recorded investment in impaired loans for which no allowance is required is net of applications of cash interest payments and net of previous direct writedowns of $6,137 in 1997 and $16,697 in 1996 against the loan balance outstanding. The required valuation allowance is included in the allowance for loan and lease losses in the Consolidated Balance Sheets.
The average recorded investment in total impaired loans and leases for the years ended December 31, 1997 and 1996 amounted to $63,533 and $71,255, respectively.
Interest payments received on impaired loans and leases are recorded as interest income unless collection of the remaining recorded investment is doubtful at which time payments received are recorded as reductions of principal. Interest income recognized on total impaired loans and leases amounted to $3,605 in 1997, $6,482 in 1996, and $3,594 in 1995. The gross income that would have been recognized had such loans and leases been performing in accordance with their original terms would have been $6,115 in 1997, $9,809 in 1996, and $8,430 in 1995.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
9. PREMISES AND EQUIPMENT
The composition of premises and equipment at December 31 was:
Depreciation expense was $57,791 in 1997, $52,561 in 1996, and $45,153 in 1995.
The Corporation leases certain of its facilities and equipment. Rent expense under such operating leases was $30,476 in 1997, $25,908 in 1996, and $21,702 in 1995, respectively.
The future minimum lease payments under operating leases that have initial or remaining noncancellable lease terms in excess of one year for 1998 through 2002 are $14,728, $13,308, $8,718, $7,361, and $6,374, respectively.
10. DEPOSITS
The composition of deposits at December 31 was:
At December 31, 1997, the scheduled maturities for other time deposits were:
11. SHORT-TERM BORROWINGS
Short-term borrowings at December 31 were:
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
Unused lines of credit, primarily to support commercial paper borrowings, were $40,000 at December 31, 1997 and 1996.
See Selected Statistical Information "Short-Term Borrowings" for additional information relating to funds purchased and security repurchase agreements.
12. LONG-TERM BORROWINGS
Long-term borrowings at December 31 were:
The 8.5% convertible subordinated notes (the "Notes") were convertible at the option of the holder into common stock at a conversion price of $8.75. The holder had the right to exchange common stock, acquired by conversion of the Notes or otherwise, for Series A convertible preferred stock ("Series A"). The holder may own up to 24.9% (computed as the percentage of common shares owned directly or indirectly through conversion privileges) of the Corporation's outstanding common stock and convertible securities, but may not own directly more than 5% of the Corporation's outstanding common stock.
During 1997, $16,819 of the Notes were converted by the holder into 1,922,114 shares of the Corporation's common stock and in 1996 $16,818 of the Notes were converted into 1,922,114 shares of the Corporation's common stock. The common stock acquired by the conversions of the Notes were exchanged for 168,185 shares in 1997 and 168,185 shares in 1996 of the Corporation's Series A convertible preferred stock. These are noncash transactions for purposes of the Consolidated Statements of Cash Flows.
The 6.375% subordinated notes are not redeemable prior to maturity and qualify as "Tier 2" or supplementary capital for regulatory capital purposes. Interest is payable semiannually.
The Corporation has filed registration statements with the Securities and Exchange Commission to issue medium-term unsecured and unsubordinated series notes. These issues may have maturities which range from 9 months to 30 years from the date of issue, at a fixed or floating rate.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
At December 31, 1997, medium-term Series B notes outstanding amounted to $750. Such notes mature in 1998 and have fixed interest rates of 7.15% to 7.30%. There were $28,130 of medium-term Series C notes outstanding at December 31, 1997. The medium-term Series C notes have fixed interest rates of 6.26% to 7.34% and mature at various amounts and times through 2002. No additional borrowings may occur under the Series B or Series C notes. At December 31, 1997, medium-term Series D notes outstanding amounted to $74,800 with fixed interest rates of 6.11% to 6.64%. Series D notes mature at various times and amounts in 1999 through 2002. Approximately $75.2 million of unissued Series D notes are remaining and available to be issued in the future.
In December 1996, the Corporation formed M&I Capital Trust A (the "Trust") and issued $200 million in liquidation or principal amount of cumulative preferred capital securities. Holders of the capital securities are entitled to receive cumulative cash distributions at an annual rate of 7.65% payable semiannually.
Concurrently with the issuance of the capital securities, the Trust invested the proceeds, together with the consideration paid by the Corporation for the common interest in the Trust, in junior subordinated deferrable interest debentures ("subordinated debt") issued by the Corporation. The subordinated debt, which represents the sole asset of the Trust, bears interest at an annual rate of 7.65% payable semiannually and matures on December 1, 2026.
The subordinated debt is junior in right of payment to all present and future senior indebtedness of the Corporation. The Corporation may redeem the subordinated debt in whole or in part at any time on or after December 1, 2006 at specified call premiums and at par on or after December 1, 2016. In addition, in certain circumstances the subordinated debt may be redeemed at par upon the occurrence of certain events. The Corporation's right to redeem the subordinated debt is subject to regulatory approval.
The Corporation has the right, subject to certain conditions, to defer payments of interest on the subordinated debt for extension periods, each period not exceeding ten consecutive semiannual periods. As a consequence of the Corporation's extension of the interest payment period, distributions on the capital securities would be deferred. In the event the Corporation exercises its right to extend an interest payment period, the Corporation is prohibited from making dividend or any other equity distributions during such extension period.
The payment of distributions, liquidation of the Trust or payment upon the redemption of the capital securities are guaranteed by the Corporation.
The Corporation, as owner of the common interest in the Trust, has the right at any time to terminate the Trust, subject to certain conditions. In circumstances other than maturity or redemption of the subordinated debt, the subordinated debt would be distributed to the holders of the Trust securities on a pro rata basis in liquidation of the holders' interests in the Trust.
The capital securities qualify as "Tier 1" capital for regulatory capital purposes.
The bank notes represent unsecured general obligations of the Corporation's banking subsidiaries. Each of the Corporation's banking subsidiaries may issue bank notes with maturities ranging from 30 days to 15 years at a fixed or floating rate up to a maximum of $1.0 billion aggregate principal amount outstanding at any time. The bank notes are offered through certain designated agents and are offered and sold only to institutional investors. The bank notes are not obligations of or guaranteed by the Corporation. The amount outstanding at December 31, 1996 represents the aggregate borrowings of 5 banking subsidiaries which matured at various times in 1997.
Borrowings from FHLB were assumed in conjunction with the October 1, 1997 Security merger. The floating rate advances mature in increments of $50 million at various times in 1998 through 2001. The interest
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
rate is reset monthly based on the London Interbank Offered Rate (LIBOR). A floating rate advance in the amount of $50 million is callable by FHLB semiannually after November 1997 upon ten days notice. The fixed rate advances have interest rates which range from 5.48% to 8.47% and mature at various times in 1998 through 2012. A portion of the fixed rate advances are subject to periodic principal payments. Fixed rate advances in the amount of $100 million are callable every three months beginning in February 1998 upon five days notice. Under the agreement assumed in the Security merger, the Corporation is required to maintain unencumbered first mortgage loans and mortgage-related securities such that the outstanding balance of FHLB advances does not exceed 60% of the book value of this collateral. The FHLB borrowings may not be prepaid.
The nonrecourse notes are reported net of prepaid interest and represent borrowings by the leasing subsidiary from banks and other financial institutions. These notes have a weighted average interest rate of 8.81% at December 31, 1997 and are due in installments over varying periods through 2002. Lease financing receivables at least equal to the amount of the notes are pledged as collateral.
Scheduled maturities of long-term borrowings are: $140,275, $188,171, $134,357, and $25,012 for 1999 through 2002, respectively.
13. SHAREHOLDERS' EQUITY
The Corporation has 5,000,000 shares of preferred stock authorized, of which the Board of Directors has designated 2,000,000 shares as Series A convertible, with a $100 value per share for conversion purposes. Series A is nonvoting preferred stock. The same cash dividends will be paid on Series A as would have been paid on the common stock exchanged for Series A. Except under limited circumstances, the holder may not sell, transfer or otherwise dispose of stock acquired by conversion, and then, only under prescribed conditions and subject to the Corporation's right of first refusal.
The holder of the convertible subordinated notes had the option through 1997 to exchange common stock of the Corporation for Series A. If the common stock is acquired by the holder in conversion of the Notes, the exchange ratio was one share of Series A for 11.43 shares of common stock. If acquired otherwise, the exchange ratio is one share of Series A, valued at $100, to the holder's weighted average purchase price per common share. Also, the holder has the option to convert Series A into common stock at the same ratio that the common stock was exchanged for Series A. The Corporation has issued 685,314 shares of its Series A convertible preferred stock in exchange for 7,677,185 shares of common stock.
The preferred stock is treated as a common stock equivalent in all applicable per share calculations.
The Corporation has a Stock Repurchase Program. Under the most recent provisions approved by the Corporation's Board of Directors, up to 6 million shares may be repurchased annually. The shares are being acquired to fund the on-going program to deliver or have available shares of common stock for stock option and other employee benefit plans and other corporate needs. In conjunction with the Corporation's Repurchase Program, the Corporation entered into a forward contract and purchased 2.0 million shares of its common stock in late 1996. In August 1997, the Corporation settled the contract by paying the counterparty cash in the amount of $11.9 million. The Corporation purchased 1.2 million shares in 1997 and has cumulatively purchased 19.6 million shares since inception of the program. It is anticipated that the Repurchase Program will be rescinded prior to the merger with Advantage.
In conjunction with the Security merger, the Corporation assumed certain deferred compensation and nonqualified retirement plans for former directors and executive officers of Security. At December 31, 1997, 157,821 common shares of M&I Stock were maintained in a grantor trust with such shares to be distributed to plan participants in accordance with the provisions of the plans. The aggregate cost of such shares of $6,166 at
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
December 31, 1997 is included in Deferred Compensation as a reduction of shareholders' equity in the Consolidated Balance Sheets.
Federal banking regulatory agencies have established capital adequacy rules which take into account risk attributable to balance sheet assets and off- balance sheet activities. All banks and bank holding companies must meet a minimum total risk-based capital ratio of 8%. Of the 8% required, at least half must be comprised of core capital elements defined as Tier 1 capital. The federal banking agencies also have adopted leverage capital guidelines which banking organizations must meet. Under these guidelines, the most highly rated banking organizations must meet a minimum leverage ratio of at least 3% Tier 1 capital to total assets, while lower rated banking organizations must maintain a ratio of at least 4% to 5%. Failure to meet minimum capital requirements can initiate certain mandatory--and possibly additional discretionary--actions by regulators that, if undertaken, could have a direct material effect on the Consolidated Financial Statements.
At December 31, 1997 and 1996, the most recent notification from the Federal Reserve Board categorized the Corporation as well capitalized under the regulatory framework for prompt corrective action. There are no conditions or events since that notification that management believes have changed the Corporation's category.
To be well capitalized under the regulatory framework, the Tier 1 capital ratio must meet or exceed 6%, the Total capital ratio must meet or exceed 10% and the leverage ratio must meet or exceed 5%.
The Corporation's risk-based capital and leverage ratios are as follows ($ in millions):
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
All of the Corporation's banking subsidiaries' risk-based capital and leverage ratios meet or exceed the defined minimum requirements, and have been deemed well capitalized as of December 31, 1997 and 1996. The following table presents the risk-based capital ratios for the Corporation's significant banking subsidiaries:
Banking subsidiaries are restricted by banking regulations from making dividend distributions above prescribed amounts and are limited in making loans and advances to the Corporation. At December 31, 1997, the retained earnings of subsidiaries available for distribution as dividends without regulatory approval was approximately $119,776.
14. INCOME TAXES
Total income tax expense for the years ended December 31, 1997, 1996, and 1995 was allocated as follows:
The current and deferred portions of the provision for income taxes were:
The following is a reconciliation between the amount of the provision for income taxes and the amount of tax computed by applying the statutory Federal income tax rate (35%):
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
The tax effects of temporary differences that give rise to significant elements of the deferred tax assets and deferred tax liabilities at December 31, are as follows:
The amount of income tax expense related to net securities gains or losses amounted to $1,319, $6,233, and $1,762, in 1997, 1996, and 1995, respectively.
15. STOCK OPTION AND RESTRICTED STOCK PLANS
The Corporation has Executive Stock Option and Restricted Stock Plans which provide for the grant of nonqualified and incentive stock options, stock appreciation rights and rights to purchase restricted shares to key employees at prices ranging from not less than the par value of the common shares to the market value of the shares at the date of grant.
The nonqualified and incentive stock option plans generally provide for the grant of options to purchase shares of the Corporation's common stock for a period of ten years from the date of grant. Options granted generally become exercisable over a period of two years from the date of grant however, options granted to Directors of the Corporation vest immediately and options granted after 1996 provide accelerated or immediate vesting for grants to individuals who meet certain age and years of service criteria at the date of grant.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
Activity relating to nonqualified and incentive stock options was:
The range of options outstanding at December 31, 1997 were:
Options exercisable at December 31, 1996 and 1995 were 4,831,369 and 5,024,041, respectively. The weighted average exercise price for options exercisable was $16.98 at December 31, 1996 and $12.52 at December 31, 1995.
In October 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 123 (SFAS 123), "Accounting for Stock- Based Compensation." This standard established financial accounting and reporting standards for stock based employee compensation plans.
SFAS 123 defines a fair value based method of accounting for employee stock option or similar equity instruments. Under the fair value based method, compensation cost is measured at the grant date based on the fair value of the award using an option-pricing model that takes into account the stock price at the grant date, the exercise price, the expected life of the option, the volatility of the underlying stock, expected dividends and the risk-free interest rate over the expected life of the option. The resulting compensation cost is recognized over the service period, which is usually the vesting period.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
Compensation cost can also be measured and accounted for using the intrinsic value based method of accounting prescribed in Accounting Principles Board Opinion No. 25 (APBO 25), "Accounting for Stock Issued to Employees." Under the intrinsic value based method, compensation cost is the excess, if any, of the quoted market price of the stock at grant date or other measurement date over the amount paid to acquire the stock.
The largest difference between SFAS 123 and APBO 25 as it relates to the Corporation is the amount of compensation cost attributable to the Corporation's fixed stock option plans. Under APBO 25 no compensation cost is recognized for fixed stock option plans because the exercise price is equal to the quoted market price at the date of grant and therefore there is no intrinsic value. SFAS 123 compensation cost would equal the calculated fair value of the options granted.
As permitted by SFAS 123, the Corporation continues to measure compensation cost for such plans using the accounting method prescribed by APBO 25.
Had compensation cost for the Corporation's options granted after January 1, 1995 been determined consistent with SFAS 123, the Corporation's net income and earnings per share would have been reduced to the following pro forma amounts:
The fair value of each option grant was estimated as of the date of grant using the Black-Scholes option pricing model. The resulting compensation cost was amortized over the vesting period. The fair value of options assumed in the Security merger were included in the determination of total consideration. No compensation cost associated with such options was included in determining pro forma net income in 1997.
The grant date fair values and assumptions used to determine such value are as follows:
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
Activity relating to the Corporation's Restricted Purchase Rights was:
Restrictions on stock issued pursuant to the exercise of stock purchase rights lapse within a seven year period. Accordingly, the compensation related to issuance of the rights is deferred and amortized over the vesting period. Unamortized deferred compensation is reflected as a reduction of shareholders' equity.
Shares reserved for the granting of options and stock purchase rights at December 31, 1997 were 4,934,138.
The Corporation also has a Long-term Incentive Plan. Under the plan, performance units may be awarded from time to time. Once awarded, additional performance units will be credited to each participant based on dividends paid by the Corporation on its common stock. At the end of a designated vesting period, participants will receive an amount equal to some percent (0%-275%) of the initial performance units credited plus those additional units credited as dividends based on the established performance criteria. Units awarded to certain executives of the Corporation were 104,750 in 1997, 88,650 in 1996, and 91,700 in 1995. The vesting period is three years from the date the performance units were awarded. At December 31, 1997, based on the performance criteria, without regard to the vesting, approximately $9,030 would be due to the participants under the 1996 and 1997 awards. In addition, the amount payable to participants under the 1995 award which was fully vested, was $4,679 at December 31, 1997.
16. EMPLOYEE RETIREMENT AND HEALTH PLANS
The Corporation has a defined contribution retirement plan and an incentive savings plan for substantially all employees. The retirement plan provides for a guaranteed contribution to eligible participants equal to 2% of compensation. At the Corporation's option, a profit sharing amount may also be contributed and may vary from year to year up to a maximum of 6% of eligible compensation. Under the incentive savings plan, employee contributions up to 6% of eligible compensation are matched up to 50% by the Corporation based on the Corporation's return on equity as defined by the plan. Total expense relating to these plans was $31,804, $24,410, and $23,883 in 1997, 1996, and 1995, respectively.
The Corporation also has supplemental retirement plans to provide retirement benefits to certain of its key executives. Total expense relating to these plans amounted to $1,567 in 1997, $1,456 in 1996, and $1,023 in 1995.
Security sponsored a trusteed defined benefit pension plan, and defined contribution ESOP plan for substantially all of its employees. In conjunction with the merger, such plans were terminated for accounting purposes and are in the process of determining final distributions to former participants of the plans. Security also sponsored a defined contribution 401(k) plan that merged with the Corporation's incentive savings plan at December 31, 1997.
The Corporation sponsors a defined benefit health plan that provides health care benefits to eligible current and retired employees. Eligibility for retiree benefits is dependent upon age, years of service, and participation in the health plan during active service. The plan is contributory and in 1997 the plan was amended. Employees
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
hired or acquired after September 1, 1997 will be granted access to the Corporation's plan upon retirement however, such retirees must pay 100% of the cost of health care benefits. For active employees employed by the Corporation as of August 31, 1997, participants will contribute 40% of the cost of health care benefits from date of retirement to age 64. At age 65, such participants will contribute 40%-80% of the cost of health care benefits depending on their age on August 31, 1997. For active employees fully eligible for retirement on August 31, 1997, such participants will contribute 40% of the cost of health care benefits upon retirement including post 65 health care benefits which is similar to the provisions of the plan prior to the amendment. The plan continues to contain other cost-sharing features such as deductibles and coinsurance. The plan is not funded.
The components of the accumulated postretirement benefit obligation (APBO) for retiree health benefits reconciled with the amount recognized in the Corporation's Consolidated Balance Sheets at December 31, were:
Net periodic postretirement benefit cost for the years ended December 31, 1997, 1996, and 1995 includes the following components:
The health care cost trend rate assumption has a significant effect on the amounts reported. An increase in the assumed health care cost trend rate of one percentage point would increase the APBO at December 31, 1997 by $7,747 and increase 1997 postretirement benefit expense by $1,227.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
17. FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK
Financial instruments with off-balance sheet risk at December 31 were:
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates and may require payment of a fee. The majority of the Corporation's commitments to extend credit generally provide for the interest rate to be determined at the time the commitment is utilized. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements.
The Corporation evaluates each customer's credit worthiness on an individual basis. Collateral obtained, if any, upon extension of credit, is based upon management's credit evaluation of the customer. Collateral requirements and the ability to access collateral is generally similar to that required on loans outstanding as discussed in Note 7.
Standby and commercial letters of credit are contingent commitments issued by the Corporation to support the financial obligations of a customer to a third party. Standby letters of credit are issued to support public and private financing, and other financial or performance obligations of customers. Commercial letters of credit are issued to support payment obligations of a customer as buyer in a commercial contract for the purchase of goods. Letters of credit have maturities which generally reflect the maturities of the underlying obligations. The credit risk involved in issuing letters of credit is the same as that involved in extending loans to customers. If deemed necessary, the Corporation holds various forms of collateral to support letters of credit.
Mortgage loans sold with recourse are pools of residential mortgage loans sold to government agencies subject to certain underwriting requirements. If the loans do not meet the underwriting requirements of the government agencies, the Corporation may be required to reacquire the loans.
Foreign exchange contracts are commitments to purchase or deliver foreign currency at a specified exchange rate. The Corporation enters into foreign exchange contracts primarily in connection with trading activities to enable customers involved in international trade to hedge their exposure to foreign currency fluctuations and to minimize the Corporation's own exposure to foreign currency fluctuations resulting from the above. Foreign exchange contracts include such commitments as foreign currency spot, forward, future and, to a much lesser extent, option contracts. The risks in these transactions arise from the ability of the counterparties to perform
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
under the terms of the contracts and the risk of trading in a volatile commodity. The Corporation actively monitors all transactions and positions against predetermined limits established on traders and types of currency to ensure reasonable risk taking.
The Corporation's market risk from unfavorable movements in currency exchange rates is minimized by essentially matching commitments to deliver foreign currencies with commitments to purchase foreign currencies.
At December 31, 1997, the Corporation's foreign currency position resulting from foreign exchange contracts by major currency was as follows ($000's US):
These amounts do not represent the actual credit or market exposure.
Interest rate swaps are contractual agreements between counterparties to exchange interest payment streams based on notional principal amounts over a set period of time. Swap agreements normally involve the exchange of fixed and floating rate payment obligations without the exchange of the underlying principal amounts.
All of the Corporation's interest rate swaps are receive fixed/pay floating standard swaps that are utilized to manage the interest volatility associated with variable rate loans and brokered callable CDs at the Corporation's affiliate banks. At December 31, 1997 the Corporation's interest rate swap portfolio consisted of the following ($ in millions):
The impact on net interest income in 1997 and 1996 was a positive $2.71 million and $1.12 million, respectively.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
Interest caps and floors are contracts with notional principal amounts that require the seller, in exchange for a fee, to make payments to the purchaser if a specified market rate rises/falls above/below the fixed ceiling or floor or index rate on specified future dates.
The Corporation uses standard interest rate caps and floors to manage the interest volatility associated with variable rate loans and variable rate borrowings. At December 31, 1997, the Corporation was party to one interest rate floor contract and one interest rate cap contract which are summarized as follows ($ in millions):
No payments were received in 1997 and the effect of amortization of the fee premium was not material.
The market risk due to potential fluctuations in interest rates is inherent in swap, cap and floor agreements. Credit risk arises from the potential failure of counterparties to perform in accordance with the terms of the contracts. The Corporation maintains risk management policies that define parameters of acceptable market risk within the framework of its overall asset/liability management strategies and monitor and limit exposure to credit risk. The Corporation believes its credit and settlement procedures serve to minimize its exposure to credit risk. Credit exposure resulting from swaps, caps and floors is represented by their fair value amounts, increased by an estimate of potential adverse position exposure arising from changes over time in interest rates, maturities and other relevant factors. At December 31, 1997 the estimated credit exposure arising from swaps, caps and floors was approximately $7.7 million.
18. FAIR VALUE OF FINANCIAL INSTRUMENTS
The book values and estimated fair values for on and off-balance sheet financial instruments as of December 31, 1997 and 1996 are reflected below:
BALANCE SHEET FINANCIAL INSTRUMENTS ($ IN MILLIONS)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
Where readily available, quoted market prices were utilized by the Corporation. If quoted market prices were not available, fair values were based on estimates using present value or other valuation techniques. These techniques were significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. The calculated fair value estimates, therefore, cannot be substantiated by comparison to independent markets and, in many cases, could not be realized upon immediate settlement of the instrument. SFAS 107 excludes certain financial instruments and all nonfinancial assets and liabilities from its disclosure requirements. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the entire Corporation.
The following methods and assumptions were used in estimating the fair value for financial instruments.
Cash and Short-term Investments
The carrying amounts reported for cash and short-term investments approximates the fair values for those assets.
Trading and Investment Securities
Fair value is based on quoted market prices or dealer quotes. See Note 6, Securities, for additional information.
Loans
Loans that reprice or mature within three months of December 31 were assigned fair values based on their book value. Market values were used on performing loans where available. Most remaining loan balances were assigned fair values based on a discounted cash flow analysis. The discount rate was based on the treasury yield curve, with rate adjustments for credit quality, cost and profit factors.
Bank-owned Life Insurance
The fair value of the bank-owned life insurance is represented by the cash surrender value as of December 31.
Deposits
The fair value for demand deposits or any interest bearing deposits with no fixed maturity date was considered to be equal to the carrying value. Time deposits with defined maturity dates were considered to have a fair value equal to the book value if the maturity date was within three months of December 31. The remaining time deposits were assigned fair values based on a discounted cash flow analysis using discount rates which approximate interest rates currently being offered on time deposits with comparable maturities.
Borrowings
Short-term borrowings are carried at cost which approximates fair value. The Corporation had convertible debt in 1996 (see Note 12) for which fair value was considered to be the current market value of the shares that would be issued in a full conversion. Other long-term debt was generally valued using a discounted cash flow analysis with a discount rate based on current incremental borrowing rates for similar types of arrangements or, if not readily available, based on a build up approach similar to that used for loans and deposits. Long-term borrowings include their related current maturities.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
OFF-BALANCE SHEET FINANCIAL INSTRUMENTS ($ IN MILLIONS)
Fair values of loan commitments and letters of credit have been estimated based on the equivalent fees, net of expenses, that would be charged for similar contracts and customers at December 31.
Foreign exchange contracts are carried at market value (U.S. dollar equivalent of the underlying contract). The fair value of options written/purchased are based on the market value of the premium paid as of the reporting date.
Interest rate swaps, caps and floors are assigned a value based on a discounted cash flow analysis utilizing the forward yield curve.
See Note 17 for additional information on off-balance sheet financial instruments.
19. BUSINESS SEGMENTS
The following table reflects certain information regarding our banking and data processing businesses:
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
Our banking operations provide traditional banking products along with trust, mortgage banking, leasing, and venture capital services. M&I Data Services, a division of the Parent Corporation, along with three other nonbank subsidiaries (collectively "Data Services"), provides data processing, software, and other related services to both affiliated and unaffiliated customers.
Revenues from affiliated customers are charged at rates available to and transacted with unaffiliated customers.
Operating profit is pretax net income. The 1996 operating profit for the banking services segment includes the $2.7 million special assessment associated with SAIF deposits enacted into law in September 1996. The 1996 operating profit of Data Services includes the $12.1 million expense for acquired in-process research and development as discussed in Note 3. Net depreciation and amortization expense for the banking services business, excluding amortization affecting net interest income, amounted to $35,866, $27,060, and $28,051 in 1997, 1996, and 1995, respectively, and for Data Services amounted to $62,231 in 1997, $50,201 in 1996, and $38,978 in 1995.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
20. CONDENSED FINANCIAL INFORMATION--PARENT CORPORATION ONLY
CONDENSED BALANCE SHEETS DECEMBER 31
Scheduled maturities of long-term borrowings are $9,996 in 1998, $30,991 in 1999, $22,863 in 2000, $31,924 in 2001, and $23,460 in 2002. See Note 12 for a description of the junior subordinated debt due to M&I Capital Trust A.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
CONDENSED STATEMENTS OF INCOME YEARS ENDED DECEMBER 31
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
CONDENSED STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31
QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
DECEMBER 31, 1997, 1996 AND 1995 ($000'S EXCEPT SHARE DATA)
Following is unaudited financial information for each of the calendar quarters during the years ended December 31, 1997 and 1996.
- -------- * May not add due to rounding
PRICE RANGE OF STOCK (LOW AND HIGH CLOSE)
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Shareholders and the Board of Directors of Marshall & Ilsley Corporation:
We have audited the accompanying consolidated balance sheets of Marshall & Ilsley Corporation (a Wisconsin corporation) and subsidiaries as of December 31, 1997 and 1996, and the related consolidated statements of income, shareholders' equity and cash flows for the years ended December 31, 1997, 1996 and 1995. These consolidated financial statements are the responsibility of the Corporation's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Marshall & Ilsley Corporation and subsidiaries as of December 31, 1997 and 1996, and the results of their operations and their cash flows for the years ended December 31, 1997, 1996 and 1995, in conformity with generally accepted accounting principles.
/s/ Arthur Andersen LLP
Milwaukee, Wisconsin, January 30, 1998
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Incorporated herein by reference to M&I's definitive proxy statement for the Annual Meeting of Shareholders to be held on April 28, 1998, except for information as to executive officers which is set forth in Part I of this report.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
Incorporated herein by reference to M&I's definitive proxy statement for the Annual Meeting of Shareholders to be held on April 28, 1998.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Incorporated herein by reference to M&I's definitive proxy statement for the Annual Meeting of Shareholders to be held on April 28, 1998.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Incorporated herein by reference to M&I's definitive proxy statement for the Annual Meeting of Shareholders to be held on April 28, 1998.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a)1. Financial Statements
Consolidated Financial Statements: Balance Sheets--December 31, 1997 and 1996 Statements of Income--years ended December 31, 1997, 1996, and Statements of Cash Flows--years ended December 31, 1997, 1996, and 1995 Statements of Shareholders' Equity--years ended December 31, 1997, 1996 and 1995 Notes to Consolidated Financial Statements Report of Independent Public Accountants
2. Financial Statement Schedules
All schedules are omitted because they are not required, not applicable or the required information is contained elsewhere.
3.Exhibits
See Index to Exhibits of this Form 10-K which is incorporated herein by reference.
(b) Reports on Form 8-K
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
MARSHALL & ILSLEY CORPORATION
/s/ J. B. Wigdale By: _________________________________ J. B. Wigdale Chairman of the Board
Date: February 26, 1998
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated:
/s/ J. B. Wigdale Chairman of the Date: February - ------------------------------------- Board and a 26, 1998 J. B. Wigdale Director (Chief Executive Officer)
/s/ G. H. Gunnlaugsson Executive Vice Date: February - ------------------------------------- President and a 26, 1998 G. H. Gunnlaugsson Director (Chief Financial Officer)
/s/ P. R. Justiliano Senior Vice Date: February - ------------------------------------- President and 26, 1998 P. R. Justiliano Corporate Controller (Principal Accounting Officer)
Directors: Richard A. Abdoo, Oscar C. Boldt, J.P. Bolduc, Wendell F. Bueche, Jon F. Chait, Glenn A. Francke, G. H. Gunnlaugsson, Burleigh E. Jacobs, Jack F. Kellner, James F. Kress, D. J. Kuester, Katharine C. Lyall, Don R. O'Hare, Peter M. Platten, III, J.A. Puelicher, Robert A. Schaefer, Stuart W. Tisdale J. B. Wigdale, James O. Wright and Gus A. Zuehlke.
/s/ M. A. Hatfield By___________________________________ M. A. Hatfield As Attorney-in-Fact* Date: February 26, 1998
- -------- * Pursuant to authority granted by powers of attorney, copies of which are filed herewith.
MARSHALL & ILSLEY CORPORATION
INDEX TO EXHIBITS (ITEM 14(A)3)
ITEM (2)(a) Agreement and Plan of Merger dated as of March 14, 1997, between M&I and Security Capital Corporation, incorporated by reference to M&I's Current Report on Form 8-K dated March 14, 1997, SEC File No. 0-1220
(b) Agreement and Plan of Merger dated as of November 3, 1997, between M&I and Advantage Bancorp, Inc., incorporated by reference to M&I's Current Report on Form 8-K dated November 3, 1997, SEC File No. 0-1220
(3)(a) Restated Articles of Incorporation, incorporated by reference to M&I's Quarterly Report on Form 10-Q for the quarter ended June 30, 1994, SEC File No. 0-1220
(b) By-laws, as amended, incorporated by reference to M&I's Annual Report on Form 10-K for the year ended December 31, 1995, SEC File No. 0-1220
(4)(a) Indenture between M&I and Chemical Bank (as successor to Manufacturers Hanover Trust Company) dated as of November 15, 1985 ("Senior Indenture"), incorporated by reference to M&I's Registration Statement on Form S-3 (Registration No. 33-21377), as supplemented by the First Supplemental Indenture to the Senior Indenture dated as of May 31, 1990, incorporated by reference to M&I's Current Report on Form 8-K dated May 31, 1990, and as supplemented by the Second Supplemental Indenture to the Senior Indenture dated as of July 15, 1993, incorporated by reference to M&I's Quarterly Report on Form 10-Q for the quarter ended June 30, 1993, SEC File No. 0-1220
(b) Form of Medium Term Notes, Series B, issued pursuant to the Senior Indenture, incorporated by reference to M&I's Current Report on Form 8- K dated May 31, 1990, SEC File No. 0-1220
(c) Form of Medium Term Notes, Series C, and Series D issued pursuant to the Senior Indenture, included in Exhibit 4(a)
(d) Indenture between M&I and Chemical Bank dated as of July 15, 1993 ("Subordinated Indenture"), incorporated by reference to M&I's Quarterly Report on Form 10-Q for the quarter ended June 30, 1993, SEC File No. 0-1220
(e) Form of Subordinated Note issued pursuant to the Subordinated Indenture, included in Exhibit 4(d)
(f) Investment Agreement between M&I and The Northwestern Mutual Life Insurance Company dated August 30, 1985, incorporated by reference to M&I's Current Report on Form 8-K dated May 20, 1985, SEC File No. 0-
(g) Subordinated Convertible Note Agreement between The Northwestern Mutual Life Insurance Company dated December 31, 1985, incorporated by reference to M&I's Current Report on Form 8-K dated May 20, 1985, SEC File No. 0-1220
(h) Form of Convertible Subordinated Note, incorporated by reference to M&I's Current Report on Form 8-K dated May 20, 1985, SEC File No. 0-
(i) Designation of Rights and Preferences of holders of Series A Preferred Stock, incorporated by reference to M&I's Current Report on Form 8-K dated May 20, 1985, SEC File No. 0-1220
(j) Amended and Restated Declaration of Trust dated as of December 9, 1996 among Marshall & Ilsley Corporation, as Sponsor, The Chase Manhattan Bank, as Institutional Trustee, Chase Manhattan Bank Delaware, as Delaware Trustee, the Regular Trustees identified thereon, and the holders from time to time of undivided interests in the assets of the Trust, incorporated by reference to M&I's Registration Statement on Form S-4 dated January 15, 1997, SEC File No. 333-19809
ITEM (k) Indenture, dated as of December 9, 1996, between Marshall & Ilsley Corporation and The Chase Manhattan Bank, as Indenture Trustee, incorporated by reference to M&I's Registration Statement on Form S-4 dated January 15, 1997, SEC Reg. No. 333-19809
(l) First Supplemental Indenture, dated as of December 9, 1996, between Marshall & Ilsley Corporation and The Chase Manhattan Bank, as Indenture Trustee, incorporated by reference to M&I's Registration Statement on Form S-4 dated January 15, 1997, SEC Reg. No. 333-19809
(m) Form of Capital Security Certificate for M&I Capital Trust A, included as Exhibit A-2 to Exhibit 4(k)
(n) Capital Securities Guarantee Agreement, dated as of December 9, 1996, between Marshall & Ilsley Corporation and The Chase Manhattan Bank, as Guarantee Trustee, incorporated by reference to M&I's Registration Statement on Form S-4 dated January 15, 1997, SEC Reg. No. 333-19809
(o) Registration Rights Agreement dated December 2, 1996, by and among Marshall & Ilsley Corporation, M&I Capital Trust A and Salomon Brothers Inc, as Representative of the Initial Purchasers, incorporated by reference to M&I's Registration Statement on Form S-4 dated January 15, 1997, SEC Reg. No. 333-19809
(p) Form of Subordinated Debt Security, included as part of Exhibit 4(m)
(10)(a) 1983 Executive Stock Option and Restricted Stock Plan, as amended, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1987, SEC File No. 0-1220*
(b) 1985 Executive Stock Option and Restricted Stock Plan, as amended, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1987, SEC File No. 0-1220*
(c) M&I Marshall & Ilsley Bank Supplementary Retirement Benefits Plan, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1983, SEC File No. 0-1220*
(d) Consulting Agreement and Supplemental Retirement Plan dated as of October 1, 1986 between M&I and Mr. J.A. Puelicher, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1986, SEC File No. 0-1220*
(e) Amendment to Consulting Agreement and Supplemental Retirement Plan dated as of August 13, 1992, between M&I and Mr. J.A. Puelicher, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1993, SEC File No. 0-1220*
(f) Deferred Compensation Trust between Marshall & Ilsley Corporation and Bessemer Trust Company dated April 28, 1987, as amended, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1988, SEC File No. 0-1220*
(g) 1986 Non-Qualified Stock Option Plan of M&I and related Stock Option Agreement between M&I and Mr. J.A. Puelicher, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1986, SEC File No. 0-1220*
(h) Form of employment agreements, dated November 5, 1990, between M&I and Messrs. Gunnlaugsson, Kuester, Strelow and Wigdale incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1990, SEC File No. 0-1220*
(i) Employment agreement, dated November 5, 1990, between M&I and Mr. Michael A. Hatfield incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1990, SEC File No. 0- 1220*
(j) Restricted Stock Plan of Marshall & Ilsley Corporation, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1988, SEC File No. 0-1220*
ITEM (k) 1989 Executive Stock Option and Restricted Stock Plan, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1988, as amended by M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1990, SEC File No. 0-1220*
(l) Marshall & Ilsley Corporation Nonqualified Retirement Benefit Plan, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1991, SEC File No. 0-1220*
(m) Marshall & Ilsley Corporation Supplemental Retirement Benefits Plan, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1991, SEC File No. 0-1220*
(n) Marshall & Ilsley Trust Company Supplemental Retirement Benefits Plan, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1991, SEC File No. 0-1220*
(o) Supplemental Retirement Agreement dated December 10, 1992, between M&I and Mr. J.A. Puelicher, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1992, SEC File No. 0-1220*
(p) Amendment to Supplemental Retirement Agreement dated December 16, 1993, between M&I and Mr. J.A. Puelicher, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1993, SEC File No. 0-1220*
(q) Marshall & Ilsley Corporation 1993 Executive Stock Option Plan, as amended, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1995, SEC File No. 0-1220.*
(r) Marshall & Ilsley Corporation 1995 Directors Stock Option Plan, incorporated by reference to M&I's Proxy Statement for the 1995 Annual Meeting of Shareholders, SEC File No. 0-1220*
(s) Marshall & Ilsley Corporation Assumption Agreement dated May 31, 1994 assuming rights, obligations and interests of Valley Bancorporation under various stock option plans, incorporated by reference to M&I's Registration Statement on Form S-8 (Reg. No. 33-53897)*
(t) Valley Bancorporation 1992 Incentive Stock Plan, incorporated by reference to Valley Bancorporation's Proxy Statement for the 1992 Annual Meeting of Shareholders (the "Valley 1992 Proxy Statement")*
(u) Valley Bancorporation 1992 Outside Directors' Stock Option Plan, incorporated by reference to the Valley 1992 Proxy Statement*
(v) Valley Bancorporation 1988 Nonqualified Stock Option Plan, incorporated by reference to Valley Bancorporation's Proxy Statement for the 1988 Annual Meeting of Shareholders*
(w) Valley Bancorporation 1986 Amended and Restated Stock Option Plan, incorporated by reference to Valley Bancorporation's Proxy Statement for the 1987 Annual Meeting of Shareholders*
(x) Employment agreement between M&I and Mr. Peter M. Platten, III, incorporated by reference to M&I's Registration Statement on Form S-4 (Reg. No. 33-51753)*
(y) Letter agreement dated January 25, 1994 between Valley Bancorporation and Mr. Peter M. Platten, III, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1994, SEC File No. 0-1220*
(z) Employment agreement, dated as of December 14, 1995, between M&I and Ms. Patricia R. Justiliano, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1995, SEC File No. 0-1220*
ITEM (aa)Marshall & Ilsley Corporation 1997 Executive Stock Option and Restricted Stock Plan, incorporated by reference to M&I's Proxy Statement for the 1997 Annual Meeting of Shareholders, SEC File No. 0- 1220*
(bb)Marshall & Ilsley Corporation Executive Deferred Compensation Plan, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1996, SEC File No. 0-1220*
(cc)Deferred Compensation Trust II between Marshall & Ilsley Corporation and Marshall & Ilsley Trust Company, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1996, SEC File No. 0-1220*
(dd)Marshall & Ilsley Corporation Annual Executive Incentive Compensation Plan, incorporated by reference to M&I's Proxy Statement for the 1997 Annual Meeting of Shareholders, SEC File No. 0-1220*
(ee)Marshall & Ilsley Corporation Amended and Restated Supplementary Retirement Benefits Plan, incorporated by reference to M&I's Annual Report on Form 10-K for the fiscal year ended December 31, 1996, SEC File No. 0-1220*
(ff)Security Capital Corporation 1993 Incentive Stock Option Plan, incorporated by reference to M&I's Registration Statement on Form S-8 (Reg. No. 333-36909)*
(gg)Security Bank S.S.B. Deferred Compensation Plans for Key Executive Officers and Directors, incorporated by reference to Security Capital Corporation's Registration Statement on Form S-1 (Reg. No. 33-68982)*
(hh)Security Bank S.S.B. Supplemental Pension Plan, incorporated by reference to Security Capital Corporation's Registration Statement on Form S-1 (Reg. No. 33-68982)*
(ii)Directors Deferred Compensation Plan, incorporated by reference to M&I's Proxy Statement for the 1998 Annual Meeting of Shareholders, SEC File No. 0-1220*
(jj)Marshall & Ilsley Corporation 1994 Long-Term Incentive Plan for Executives, as amended*
(kk)Amendment to Consulting Agreement and Supplemental Retirement Plan dated as of December 11, 1997, between M&I and Mr. J.A. Puelicher*
(ll)Employment agreement, dated December 11, 1997, between M&I and Mr. Delgadillo*
(mm)Employment agreement, dated December 11, 1997, between M&I and Mr. D.W. Layden, Jr.*
(nn)Employment agreement, dated November 5, 1990, between M&I and Mr. D.R. Jones*
(oo)Amendment to Employment Agreement dated April 3, 1995, between M&I and Mr. D.R. Jones*
(pp)Employment Agreement, dated June 12, 1997, between M&I and Mr. T.M. Bolger*
(qq)Employment Agreement, dated October 16, 1997, between M&I and Mr. D.H. Wilson*
(11)Computation of Net Income Per Common Share
(12)Computation of Ratio of Earnings to Fixed Charges
(21)Subsidiaries
(23)Consent of Arthur Andersen LLP
(24)Powers of Attorney
(27)Financial Data Schedule
M&I will provide a copy of any instrument defining the rights of holders of long-term debt to the Commission upon request. - -------- *Management contract or compensatory plan or arrangement.