10-QPeriod: Q1 FY2003

STATE STREET CORP Quarterly Report for Q1 Ended Mar 31, 2003

Filed May 9, 2003For Securities:STTSTT-PG

Summary

State Street Corporation (STT) reported a net income of $96 million ($0.29 per diluted share) for the first quarter of 2003, a significant decrease from $178 million ($0.54 per diluted share) in the same period of 2002. This decline was primarily attributed to lower net interest revenue, which was impacted by declining interest rates and a narrowing interest rate spread. The reported results also reflect the inclusion of two months of financial operating results from the recently acquired Global Securities Services (GSS) business of Deutsche Bank AG, along with associated financing, merger, and integration costs. Excluding these acquisition-related items and the impact of a Massachusetts tax legislation charge, "Baseline" earnings were $145 million ($0.46 per diluted share) for Q1 2003, down from $172 million ($0.52 per diluted share) in Q1 2002. Despite the year-over-year decline in profitability, State Street saw growth in total fee revenue, driven by the GSS acquisition and strength in servicing fees, brokerage fees, and processing fees. However, net interest revenue declined due to unfavorable interest rate conditions. The company is actively managing expenses, with significant cost synergy programs in place related to the GSS acquisition and additional expense reduction initiatives. State Street's capital position remains strong, with regulatory capital ratios well above required minimums.

Key Highlights

  • 1Net income decreased to $96 million in Q1 2003 from $178 million in Q1 2002, primarily due to lower net interest revenue.
  • 2Total fee revenue increased by 13% year-over-year to $790 million, boosted by the acquisition of Deutsche Bank's GSS business.
  • 3The acquisition of Deutsche Bank's GSS business for approximately $1.1 billion was completed on January 31, 2003, and contributed $96 million in fee revenue in its first two months.
  • 4Net interest revenue declined by 27% to $204 million, reflecting a challenging interest rate environment and narrower net interest margins.
  • 5Operating expenses increased by 17% to $834 million, largely due to expenses related to the GSS acquisition and merger/integration costs of $37 million.
  • 6State Street's regulatory capital ratios remain strong, with Tier 1 risk-based capital ratios at 17.1% for the corporation and 15.4% for State Street Bank, significantly exceeding regulatory minimums.
  • 7The company is implementing significant expense reduction programs, aiming for substantial cost savings from the GSS integration and further operational efficiencies.

Frequently Asked Questions

The primary driver of the decrease in net income was a significant decline in net interest revenue. This was caused by falling interest rates and a flattening of the yield curve, which narrowed the spread between interest earned on assets and interest paid on liabilities. Additionally, the company incurred merger and integration costs related to the acquisition of the GSS business.

The acquisition of Deutsche Bank's GSS business, completed on January 31, 2003, contributed $96 million in fee revenue during the first two months of its operations. However, it also brought associated financing costs, as well as $37 million in merger and integration expenses, which negatively impacted overall net income for the quarter.

State Street's results are sensitive to interest rate movements. The current low-interest rate environment and flattened yield curve have negatively impacted net interest revenue and securities lending revenue. While the company benefits from falling interest rates in the short term due to liability repricing, sustained low rates and a flat curve can constrain revenue growth. Future results will depend on the direction and level of market interest rates.

State Street has implemented several cost reduction initiatives. These include maximizing cost synergies from the GSS acquisition, with projected pre-tax savings of $125-$150 million in 2003. The company is also undertaking additional expense reduction programs, including staff reductions, to lower operating expenses by approximately $125 million for the remainder of 2003 compared to the first-quarter baseline run rate. These programs aim to improve overall profitability.