01—Abstract
Summary
Summary of the 10-K filed March 19, 2003. Cited figures are marked; the original filing is the authoritative source.
J.P.
Morgan Chase & Co. ended 2002 with $759 billiona in assets and $42 billion in stockholders' equity, a year marked by weak capital markets, large litigation and merger charges, and sharp credit deterioration in commercial lending. Reported net income was $1.7 billion, or $0.80 per diluted share, flat with 2001, and reported return on average common equity was 3.9%. Revenue rose 1% to $29.6 billion, but noninterest expense fell 4% to $22.8 billion only after absorbing a $1.3 billion Enron-related surety settlement and litigation reserve charge, $1.2 billion in merger and restructuring costs, and $890 million in severance.
Operating earnings, which exclude these items and credit card securitization effects, fell 11% to $3.4 billionb, or $1.66 per share. Credit quality was the main pressure point. The provision for credit losses rose 36% to $4.3 billion, driven by telecommunications and cable exposures, and nonperforming assets rose 22% to $4.8 billion.
Commercial net charge-offs roughly doubled to $1.9 billionc. Investment Bank operating earnings fell 53%, while Chase Financial Services, the consumer franchise, set a record $2.5 billion, helped by mortgage hedging gains and Providian's credit card portfolio. The Firm's Tier 1 capital ratio was 8.2%, and all banking subsidiaries remained well-capitalized.
For investors, the central questions are the sustainability of the dividend and the recovery path. The $0.34d quarterly dividend was maintained, but the common dividend payout ratio was 171% of reported net income, and management said it would continue the dividend only if capital ratios stayed strong and earnings exceeded the payout.
Management guided to a cautious 2003, with expected IB improvement driven by lower credit costs and expenses, and said it would reduce private equity exposure from about 20% to about 10% of common equity. Debt ratings were cut one notch during 2002, and the Firm faces significant pending Enron, WorldCom, and IPO allocation litigation.
02—Key points
Key Highlights
- Reported net income of $1.66 billion ($0.80 diluted EPS), flat with 2001; operating EPS fell 10% to $1.66 from $1.85 after excluding special items and merger costs
- Total revenue rose 1% to $29.6 billion, but reported return on average common equity was only 3.9%, reflecting a $1.3 billion Enron-related surety and litigation charge and $1.2 billion in merger and restructuring costs
- Provision for credit losses rose 36% to $4.3 billion; total nonperforming assets increased 22% to $4.8 billion, concentrated in telecommunications, cable, and merchant energy
- Investment Bank operating earnings fell 53% to $1.4 billion on weak capital markets and higher credit costs, while Chase Financial Services reached a record $2.5 billion in operating earnings
- Total assets of $759 billion and Tier 1 capital ratio of 8.2%; all banking subsidiaries rated well-capitalized, though debt ratings were downgraded one notch during 2002
- Quarterly dividend held at $0.34 per share, but the reported common payout ratio reached 171%, and continuation is conditional on capital ratios and earnings prospects
- Significant contingent liabilities include the $900 million litigation reserve, with pending Enron, WorldCom, CFSI, and IPO allocation lawsuits and a proposed $50 million research analyst settlement
03—Questions
Frequently Asked Questions
Why did reported earnings stay flat while operating earnings declined?
Reported net income was $1.66 billion in both 2001 and 2002, but the composition differed. 2002 reported results absorbed a $1.3 billion pre-tax charge for Enron-related surety settlement and litigation reserves and $1.2 billion of merger and restructuring costs. Operating earnings, which exclude these charges and amortization effects, fell 11% to $3.4 billion because of weaker investment banking and private equity results, partly offset by strong consumer businesses.
Is the dividend at risk?
The Board kept the quarterly dividend at $0.34 per share, but the reported payout ratio of 171% exceeds earnings. Management has stated its intent to maintain the dividend only if capital ratios remain strong and earnings prospects exceed the current dividend. Investors should monitor 2003 earnings against the $1.36 annual dividend closely.
What are the largest sources of credit risk in the commercial portfolio?
Commercial nonperforming assets reached $4.1 billion, with the largest deterioration in telecommunications, cable, and merchant energy. Telecom and related exposure was $16.8 billion, with 5% nonperforming, and the Firm wrote off $909 million there in 2002. Only 1% of total commercial exposure was nonperforming overall, and 80% of commercial exposure was investment grade.
What legal risks could materially affect the company?
The Firm faces multiple lawsuits and investigations tied to Enron, including shareholder class actions and RICO claims, as well as WorldCom underwriting litigation, Commercial Financial Services claims seeking about $1.6 billion, and IPO allocation suits. A $900 million reserve was established, and management believes outcomes should not have a material adverse effect on consolidated financial condition, though results in a particular period could be materially affected.
Why did the Firm's credit ratings change, and what is the impact?
S&P, Moody's, and Fitch each lowered parent holding company debt ratings one notch during 2002, to A+/A1 for the holding company and AA-/Aa3 for JPMorgan Chase Bank. Management says the financial impact has not been material so far, though the marginal cost of long-term wholesale funding increased, and some counterparties reduced exposure limits. Further downgrades could increase collateral requirements on derivatives and liquidity commitments to SPEs.
04—Continue