-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, EbnF6hfB3TLM6JnPdPrzujtNqlMi27SXUnVB85OUY5ih38BkjYHB438cX+CtHloW neE7ObRyGMb38VxdeLxaUg== 0000950123-02-002716.txt : 20020415 0000950123-02-002716.hdr.sgml : 20020415 ACCESSION NUMBER: 0000950123-02-002716 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 20011231 FILED AS OF DATE: 20020320 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SALOMON SMITH BARNEY HOLDINGS INC CENTRAL INDEX KEY: 0000200245 STANDARD INDUSTRIAL CLASSIFICATION: SECURITY BROKERS, DEALERS & FLOTATION COMPANIES [6211] IRS NUMBER: 112418067 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: 1934 Act SEC FILE NUMBER: 001-04346 FILM NUMBER: 02579612 BUSINESS ADDRESS: STREET 1: 388 GREENWICH ST STREET 2: 28TH FLOOR CITY: NEW YORK STATE: NY ZIP: 10013 BUSINESS PHONE: 2128166000 MAIL ADDRESS: STREET 1: SEVEN WORLD TRADE CENTER STREET 2: 29TH FLOOR CITY: NEW YORK STATE: NY ZIP: 10048 FORMER COMPANY: FORMER CONFORMED NAME: PHIBRO CORP DATE OF NAME CHANGE: 19820526 FORMER COMPANY: FORMER CONFORMED NAME: SALOMON INC DATE OF NAME CHANGE: 19920703 10-K405 1 y58607ae10-k405.txt SALOMON SMITH BARNEY HOLDINGS INC. SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 _________________ FORM 10-K |x| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2001 OR | | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM ______ TO ______ __________ COMMISSION FILE NUMBER 1-4346 __________ SALOMON SMITH BARNEY HOLDINGS INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) NEW YORK 11-2418067 (STATE OR OTHER JURISDICTION OF INCORPORATION (I.R.S. EMPLOYER OR ORGANIZATION) IDENTIFICATION NO.) 388 GREENWICH STREET, NEW YORK, NEW YORK 10013 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) (212) 816-6000 (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) __________ REDUCED DISCLOSURE FORMAT THE REGISTRANT MEETS THE CONDITIONS SET FORTH IN GENERAL INSTRUCTION I (1)(a) AND (b) OF FORM 10-K AND IS THEREFORE FILING THIS FORM 10-K WITH THE REDUCED DISCLOSURE FORMAT. INDICATE BY CHECK MARK WHETHER THE REGISTRANT: (1) HAS FILED ALL REPORTS REQUIRED TO BE FILED BY SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 DURING THE PRECEDING 12 MONTHS (OR FOR SUCH SHORTER PERIOD THAT THE REGISTRANT WAS REQUIRED TO FILE SUCH REPORTS), AND (2) HAS BEEN SUBJECT TO SUCH FILING REQUIREMENTS FOR THE PAST 90 DAYS. YES |X| NO | | INDICATE BY CHECK MARK IF DISCLOSURE OF DELINQUENT FILERS PURSUANT TO ITEM 405 OF REGULATION S-K IS NOT CONTAINED HEREIN, AND WILL NOT BE CONTAINED, TO THE BEST OF REGISTRANT'S KNOWLEDGE, IN DEFINITIVE PROXY OR INFORMATION STATEMENTS INCORPORATED BY REFERENCE IN PART III OF THIS FORM 10-K OR ANY AMENDMENT TO THIS FORM 10-K. |x| BECAUSE THE REGISTRANT IS A WHOLLY OWNED SUBSIDIARY OF CITIGROUP INC., NONE OF THE REGISTRANT'S OUTSTANDING VOTING STOCK IS HELD BY NONAFFILIATES OF THE REGISTRANT. AS OF THE DATE HEREOF, 1,000 SHARES OF THE REGISTRANT'S COMMON STOCK, $.01 PAR VALUE, WERE ISSUED AND OUTSTANDING. DOCUMENTS INCORPORATED BY REFERENCE: NONE AVAILABLE ON THE WEB @ www.citigroup.com [COVER PAGE 1 OF 3 PAGES.] SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED ------------------- ----------------------------------------- NIKKEI 225 INDEX SECURITIES DUE AUGUST 20, 2002 NEW YORK STOCK EXCHANGE AND CHICAGO BOARD OPTIONS EXCHANGE SENIOR FLOATING INTEREST NOTES (FINS) DUE 2003 (MEDIUM-TERM NEW YORK STOCK EXCHANGE NOTES, SERIES D) SMITH BARNEY S&P 500 EQUITY LINKED NOTES DUE OCTOBER 3, 2003 CHICAGO BOARD OPTIONS EXCHANGE 7.200% TRUST PREFERRED SECURITIES (TRUPS(R)) OF SUBSIDIARY NEW YORK STOCK EXCHANGE TRUST (AND REGISTRANT'S GUARANTY WITH RESPECT THERETO) EQUITY LINKED NOTES BASED UPON THE DOW JONES INDUSTRIAL CHICAGO BOARD OPTIONS EXCHANGE AVERAGE SM DUE SEPTEMBER 6, 2005 PRINCIPAL-PROTECTED EQUITY LINKED NOTES BASED UPON THE S&P AMERICAN STOCK EXCHANGE 500(R)INDEX DUE 2005 PRINCIPAL-PROTECTED EQUITY LINKED NOTES BASED UPON THE S&P CHICAGO BOARD OPTIONS EXCHANGE 500(R)INDEX DUE 2005 CALLABLE PRINCIPAL-PROTECTED EQUITY LINKED NOTES BASED UPON CHICAGO BOARD OPTIONS EXCHANGE THE S&P 500(R) INDEX DUE 2006 CALLABLE EQUITY LINKED NOTES BASED UPON THE THESTREET.COM AMERICAN STOCK EXCHANGE INTERNET SECTOR INDEX DUE 2006 0.25% CASH EXCHANGEABLE NOTES LINKED TO A BASKET OF AMERICAN STOCK EXCHANGE TELECOMMUNICATIONS STOCKS TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS SM) OF CHICAGO BOARD OPTIONS EXCHANGE SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF MCI WORLDCOM, INC. TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS SM) OF CHICAGO BOARD OPTIONS EXCHANGE SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF AMGEN INC. TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS SM) OF CHICAGO BOARD OPTIONS EXCHANGE SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF SUN MICROSYSTEMS, INC. 0.25% NOTES EXCHANGEABLE FOR A BASKET OF SELECTED TECHNOLOGY AMERICAN STOCK EXCHANGE STOCKS, DUE 2005 TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS SM) OF AMERICAN STOCK EXCHANGE SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF ORACLE CORPORATION TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS SM) OF AMERICAN STOCK EXCHANGE SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF CISCO SYSTEMS, INC. 0.25% NOTES EXCHANGEABLE FOR A BASKET OF SELECTED TECHNOLOGY AMERICAN STOCK EXCHANGE STOCKS, DUE 2007 CALL WARRANTS ON THE 2000 TEN+SM INDEX CHICAGO BOARD OPTIONS EXCHANGE TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS SM) OF AMERICAN STOCK EXCHANGE SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF EMC CORPORATION EQUITY LINKED SECURITIES (ELKS SM) BASED UPON THE COMMON AMERICAN STOCK EXCHANGE STOCK OF INTEL CORPORATION DUE 2002 TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS SM) OF AMERICAN STOCK EXCHANGE SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF THE HOME DEPOT, INC. EQUITY LINKED SECURITIES (ELKS SM) BASED UPON THE COMMON AMERICAN STOCK EXCHANGE STOCK OF JUNIPER NETWORKS, INC. DUE 2002 TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS SM) OF AMERICAN STOCK EXCHANGE SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF GENERAL ELECTRIC COMPANY TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS SM) OF AMERICAN STOCK EXCHANGE SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF AMERICAN EXPRESS COMPANY NOTES EXCHANGEABLE FOR THE COMMON STOCK OF PFIZER INC., DUE AMERICAN STOCK EXCHANGE 2008 EQUITY LINKED SECURITIES (ELKS SM) BASED UPON THE COMMON AMERICAN STOCK EXCHANGE STOCK OF SUN MICROSYSTEMS, INC. DUE 2002
[COVER PAGE 2 OF 3 PAGES.]
TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED ------------------- ----------------------------------------- TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS SM) OF AMERICAN STOCK EXCHANGE SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF PFIZER INC. PRINCIPAL-PROTECTED KNOCK-OUT NOTES LINKED TO THE NASDAQ-100 AMERICAN STOCK EXCHANGE INDEX(R) DUE 2004 TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS SM) OF AMERICAN STOCK EXCHANGE SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF WAL-MART STORES, INC. EQUITY LINKED SECURITIES (ELKS SM) BASED UPON THE COMMON AMERICAN STOCK EXCHANGE STOCK OF CISCO SYSTEMS, INC. DUE 2003 TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS SM) OF AMERICAN STOCK EXCHANGE SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF THE WALT DISNEY COMPANY EQUITY LINKED SECURITIES (ELKS SM) BASED UPON THE COMMON AMERICAN STOCK EXCHANGE STOCK OF MOTOROLA, INC. DUE 2003
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: NONE [COVER PAGE 3 OF 3 PAGES.] SALOMON SMITH BARNEY HOLDINGS INC. ANNUAL REPORT ON FORM 10-K FOR FISCAL YEAR ENDED DECEMBER 31, 2001 ------------------------------ TABLE OF CONTENTS
FORM 10-K ITEM NUMBER PAGE - ----------- ---- PART I 1. Business............................................................................................ 1 2. Properties.......................................................................................... 11 3. Legal Proceedings................................................................................... 11 4. Omitted Pursuant to General Instruction I PART II 5. Market For Registrant's Common Equity And Related Stockholder Matters............................... 13 6. Omitted Pursuant to General Instruction I 7. Management's Discussion And Analysis Of Financial Condition And Results Of Operations.................................................................................... 14 7A. Quantitative And Qualitative Disclosures About Market Risk.......................................... 39 8. Financial Statements And Supplementary Data......................................................... 39 9. Changes In And Disagreements With Accountants On Accounting And Financial Disclosure................................................................................ 39 PART III 10-13 Omitted Pursuant to General Instruction I PART IV 14. Exhibits, Financial Statement Schedules, And Reports On Form 8-K.................................... 40 Exhibit Index....................................................................................... 41 Signatures.......................................................................................... 42 Index to Consolidated Financial Statements and Schedules............................................ F-1
i PART I ITEM 1. BUSINESS. Salomon Smith Barney Holdings Inc. ("SSBH") operates through its subsidiaries in two business segments: (i) Investment Services and (ii) Asset Management. Salomon Smith Barney provides investment banking, securities and commodities trading, capital raising, asset management, advisory, research, brokerage and other financial services to its customers, and executes proprietary trading strategies on its own behalf. As used in this Form 10-K, unless the context otherwise requires, "Salomon Smith Barney" and the "Company" refer to SSBH and its consolidated subsidiaries. Citigroup Inc. ("Citigroup"), SSBH's parent, is a diversified holding company whose businesses provide a broad range of financial services to consumer and corporate customers around the world. Citigroup's activities are conducted through Global Consumer, Global Corporate, Global Investment Management and Private Banking, and Investment Activities. The periodic reports of Citigroup provide additional business and financial information concerning that company and its consolidated subsidiaries. The principal offices of the Company are located at 388 Greenwich Street, New York, New York 10013, telephone number (212) 816-6000. SSBH was incorporated in New York in 1977 and is the successor to Salomon Smith Barney Holdings Inc., a Delaware corporation, following a statutory merger effective on July 1, 1999 for the purpose of changing its state of incorporation.(1) INVESTMENT SERVICES Salomon Smith Barney is a global, full-service investment banking and securities brokerage firm. Salomon Smith Barney provides a full range of financial advisory, research and capital raising services to corporations, governments and individuals. The firm's more than 12,640 Financial Consultants, located in more than 540 offices across the United States, service approximately 7.4 million client accounts, representing approximately $977 billion in assets. INVESTMENT BANKING AND TRADING Salomon Smith Barney's global investment banking services encompass a full range of capital market activities, including the underwriting and distribution of debt and equity securities for United States and foreign corporations and for state, local and other governmental and government sponsored authorities. The Company frequently acts as an underwriter or private placement agent in corporate and public securities offerings and provides alternative financing options. It also provides financial advice to investment banking clients on a wide variety of transactions including mergers and acquisitions, divestitures, leveraged buyouts, financial restructurings and a variety of cross-border transactions. - ---------- (1) Certain items in this Form 10-K, including certain matters discussed under Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" (the "MD&A"), are forward-looking statements. The matters referred to in such statements could be affected by the risks and uncertainties involved in the Company's business, including the effect of economic and market conditions, the level and volatility of interest rates and currency values, the impact of current or pending legislation and regulation and the other risks and uncertainties detailed in "Outlook" in the MD&A. 1 Salomon Smith Barney executes securities and commodity futures brokerage transactions on all major United States securities and futures exchanges and major international exchanges on behalf of customers and for its own account. The Company's significant capital base and extensive distribution capabilities also enable it to provide liquidity to investors across a broad range of markets and financial instruments, and to execute capital-intensive transactions on behalf of its customers and for its own account. It executes transactions in large blocks of exchange-listed stocks, usually with institutional investors, and often acts as principal to facilitate these transactions. It makes markets, buying and selling as principal, in approximately 1,200 equity securities traded on the NASDAQ system. Additionally, the firm makes markets in convertible and preferred stocks, warrants and other equity securities. Salomon Smith Barney also engages in principal transactions in fixed income securities. Through its subsidiaries and affiliates, it is a major dealer in government securities in New York, London, Frankfurt and Tokyo. Salomon Smith Barney makes inter-dealer markets and trades as principal in corporate debt and equity securities, including those of United States and foreign corporate issuers, United States and foreign government and agency securities, mortgage-related securities, whole loans, municipal and other tax-exempt securities, commercial paper and other money market instruments as well as emerging market debt securities and foreign exchange. It also enters into repurchase and reverse repurchase agreements to provide financing for itself and its customers, and engages in securities lending and borrowing transactions. Salomon Smith Barney is a major participant in the over-the-counter ("OTC") market for derivative instruments involving a wide range of products, including interest rate, equity, currency, and commodity swaps, caps and floors, options, warrants, and other derivative products. It also creates and sells various types of structured securities. The Company's ability to execute transactions is enhanced by its established presence in international capital markets, its use of information technology and quantitative risk management tools, its research capabilities, and its knowledge and experience in various derivative markets. Salomon Smith Barney also trades for its own account in various markets throughout the world, and uses many different strategies involving a broad spectrum of financial instruments and derivative products. Historically, these trading strategies have primarily involved the fixed income securities of the G-7 countries, but they also involve the trading of fixed income securities globally (including emerging markets) as well as currencies and equities. Because these trading strategies are often designed with time horizons of one year or more, profits or losses reported in interim periods can be volatile and may not reflect the ultimate success or failure of these strategies. For a discussion of certain of the risks involved in Salomon Smith Barney's securities trading and investment activities, and the firm's strategies to manage these risks, see Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations." 2 RETAIL BROKERAGE AND RELATED SERVICES The Private Client Division provides investment advice and financial planning and brokerage services for approximately 7.4 million client accounts, primarily through the network of Salomon Smith Barney Financial Consultants. A significant portion of Salomon Smith Barney's revenues is generated from the commissions that Salomon Smith Barney earns as a broker for its clients in the purchase and sale of securities. Financing customers' securities transactions through secured margin lending provides Salomon Smith Barney with an additional source of income. While credit losses may arise as a result of this financing activity, to date such losses have not been material. The Financial Consultants also sell proprietary mutual funds and a large number of mutual funds sponsored and managed by others, and Salomon Smith Barney receives commissions and other sales and services revenues from these activities. Qualified Salomon Smith Barney Financial Consultants also offer individual insurance products, primarily variable annuities. Some of these products, such as Travelers Life and Annuity's Vintage Life(R) and Vintage Annuity(R), single premium variable annuity and universal life products, 401(k) Blueprint(R) and Travelers Target Maturity(R), a market value-adjusted fixed annuity, are manufactured by other subsidiaries of Citigroup. The Company's Corporate Client Group provides retirement plan services and stock plan services to a wide variety of corporations. These services involve the management of defined benefit and defined contribution plan products such as 401(k) plans, as well as the provision of administrative and brokerage services for sponsors of and participants in stock option and other stock-based benefit plans. In addition to more traditional brokerage services, Salomon Smith Barney Financial Consultants also deliver the programs and services offered by Salomon Smith Barney's Consulting Group ("CG"). CG sponsors a number of different "wrap fee" programs, in which CG and Salomon Smith Barney typically provide a range of services such as: an analysis of the client's financial situation, investment needs and risk tolerance; recommendations and ongoing monitoring of the performance and suitability of the investment manager(s) retained; and securities execution, custody, reporting and recordkeeping. In such programs, the client generally pays a single bundled fee for these services. CG also offers "wrap fee" programs in which separate accounts are managed by selected, specially trained Salomon Smith Barney Financial Consultants. Assets in the Financial Consultant managed programs at December 31, 2001, totaled $54.9 billion, as compared to $56.2 billion and $43.6 billion at year-end 2000 and 1999, respectively. In addition, CG provides traditional investment management consulting services to institutions, including assisting clients in formulating investment objectives and policies and in selecting investment management firms for the day-to-day management of client portfolios. As of December 31, 2001, the Company provided consulting services with respect to externally managed client assets aggregating approximately $140.2 billion, excluding the TRAK(R) program described below, as compared to approximately $133.0 billion at December 31, 2000 and approximately $112.0 billion at December 31, 1999. 3 Salomon Smith Barney's TRAK(R) program provides clients with non-discretionary asset allocation advice based on the client's identification of investment objectives and risk tolerances. TRAK(R) clients include both individuals and institutions, including participant-directed 401(k) plans. Clients can choose to allocate assets among the CG Capital Markets funds, a series of 19 mutual funds each corresponding to a particular asset class and investment style, or from among the selected fund offerings of 189 no-load or load-waived mutual fund families (including Smith Barney proprietary funds) corresponding to the same asset class and investment style criteria. At December 31, 2001, TRAK(R) assets were approximately $10.0 billion, as compared to approximately $12.6 billion at December 31, 2000 and approximately $14.2 billion at December 31, 1999. Salomon Smith Barney also offers a separate offshore TRAK(R) program to non-resident alien clients, which includes client investment in a series of asset class/investment style funds domiciled outside the United States. TRUST SERVICES Certain subsidiaries of Citigroup are chartered as trust companies and provide a full range of fiduciary services with a particular emphasis on personal trust services. Another Citigroup subsidiary offers a broad range of trustee services for qualified retirement plans, with particular emphasis on the 401(k) plan market. Each of these trust companies is subject to supervision by either federal or state banking authorities, as appropriate, based upon the jurisdiction in which such trust company is chartered, and uses the distribution network of Salomon Smith Barney to market its services. Salomon Smith Barney provides certain advisory and support services to the trust companies and receives fees for such services. Certain subsidiaries of SSBH also operate a private trust services business that is licensed as a bank and trust company in the Cayman Islands. PHIBRO Phibro conducts a global proprietary commodities dealer business through its offices in Westport (Connecticut), London and Singapore. Commodities traded include crude oil, refined oil products, natural gas, metals and various soft commodities. Phibro makes extensive use of futures markets and is a participant in the OTC physical and derivatives markets. Its principal competitors are major integrated oil companies, other commodity trading companies, certain investment banks, utility companies and other financial institutions. As a dealer, Phibro's strategy is to focus on taking positions in commodities on a longer-term horizon while also engaging in counterparty flow business on a short-term basis. Phibro's operating results are subject to a high degree of volatility, particularly on a quarterly basis, due to the predominance of directional positions in commodities that have a longer-term horizon until realization. Thus, results are better evaluated over the longer term. 4 OPERATIONS BY GEOGRAPHIC AREA For a summary of the Company's operations by geographic area, see Note 6 of Notes to Consolidated Financial Statements. DERIVATIVES AND RISK MANAGEMENT Derivative instruments are contractual commitments or payment exchange agreements between counterparties that "derive" their value from some underlying asset, index, interest rate or exchange rate. The Company enters into various bilateral financial contracts involving future settlement, which are based upon a predetermined principal or par value (referred to as the "notional" amount). Such instruments include swaps, swap options, caps and floors, futures contracts, forward currency contracts, option contracts and warrants. Derivatives activities, like Salomon Smith Barney's other ongoing business activities, give rise to market, credit and operational risks, although the Company also uses derivative instruments to manage these risks in its other businesses. For a more complete discussion of Salomon Smith Barney's use of derivative financial instruments and certain of the related risks, see Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Notes 1, 5, 8, 16 and 17 of Notes to Consolidated Financial Statements. COMPETITION The businesses in which Salomon Smith Barney is engaged are highly competitive. The principal factors affecting competition in the investment banking and brokerage industry are the quality and ability of professional personnel and the relative prices of services and products offered. In addition to competition from other investment banking firms, both domestic and international, and securities brokerage companies and discount and on-line securities brokerage operations, including regional firms in the United States, there has been increasing competition from other sources, such as commercial banks, insurance companies and other major companies that have entered the investment banking and securities brokerage industry, in many cases through acquisitions. Certain of those competitors may have greater capital and other resources than the Company. 5 ASSET MANAGEMENT The portion of Citigroup's Asset Management segment housed within SSBH is comprised primarily of two asset management business platforms: Salomon Brothers Asset Management and Smith Barney Asset Management (the "Asset Management Group"). These platforms offer a broad range of asset management products and services from global investment centers, including mutual funds, closed-end funds and managed accounts. In addition, the Asset Management Group offers a broad range of unit investment trusts. Clients include private and public retirement plans, endowments, foundations, banks, , insurance companies, other corporations, government agencies, high net worth and other individuals. Client relationships may be introduced through the cross-marketing and distribution opportunities within the Citigroup structure, through the Asset Management Group's own sales force or through independent sources. The Company receives ongoing fees, generally stated as a percentage of the client's assets, from asset management clients. At December 31, 2001, client assets managed by the Asset Management Group were approximately $273.1 billion, as compared to approximately $243.8 billion at December 31, 2000 and approximately $226.1 billion at December 31, 1999. These amounts include separately managed accounts with assets of approximately $93.2 billion at December 31, 2001, approximately $83.4 billion at December 31, 2000 and approximately $79.5 billion at December 31, 1999. The following table shows the aggregate assets in, and number of, investment companies managed by the Asset Management Group at December 31 for each of the last three years.
INVESTMENT COMPANY ASSETS UNDER MANAGEMENT DECEMBER 31, ------------------------------------------------------------------ 2001 2000 1999 ---------------- ----------------- ----------------- (Dollars in billions) NO. OF NO. OF NO. OF FUNDS ASSETS FUNDS ASSETS FUNDS ASSETS ------ ------ ------ ------ ------ ------ Money market 32 $ 97.7 16 $ 83.0 16 $ 68.1 Mutual funds 156 62.4 124 56.2 115 53.0 Annuity funds 37 6.7 40 6.0 40 5.4 Closed-end funds 21 6.2 21 5.8 23 7.2 --- ------ --- ------ --- ------ Total 246 $173.0 201 $151.0 194 $133.7 === ====== === ====== === ======
At December 31, 2001, the Asset Management Group managed 188 mutual funds (open-end investment companies), including taxable and tax-exempt money market funds, equity funds, taxable fixed income funds and tax-exempt fixed income funds sold primarily through Salomon Smith Barney Financial Consultants and the sales force of Primerica Financial Services, an affiliate of the Company. In addition, certain of the funds are sold through dealer agreements with a variety of other national and regional brokerage firms. Of those mutual funds, 52 are domiciled outside the United States and are offered to Salomon Smith Barney's non-resident alien client base. In addition, at December 31, 2001, the Asset Management 6 Group managed 37 mutual fund portfolios serving as funding vehicles for variable annuity contracts, including certain variable annuities and other individual products of the Travelers Life and Annuity unit of Citigroup, which are sold by Salomon Smith Barney Financial Consultants. The Asset Management Group also serves as the primary investment manager to 21 closed-end investment companies, the shares of which are listed for trading on one or more securities exchanges. At December 31, 2001, the Asset Management Group managed approximately $6.2 billion of closed-end investment companies. The Asset Management Group provides separate account discretionary and non-discretionary investment management services to a wide variety of individual and institutional clients, including private and public retirement plans, endowments, foundations, banks, insurance companies, other corporations and governmental agencies. Client relationships may be introduced either through Salomon Smith Barney's network of Financial Consultants or through independent consultant evaluations as well as through the individual and institutional client relationships of Salomon Smith Barney. The Asset Management Group also sponsors and oversees the portfolios of a large number of unit investment trusts, which are unmanaged investment companies, the portfolios of which are generally static. Such unit investment trusts may hold domestic and foreign equity and debt securities, including municipal bonds. Certain trusts are sponsored and overseen solely by the Asset Management Group; other trusts are jointly sponsored through a syndicate of major broker-dealers of which Salomon Smith Barney is a member. At December 31, 2001, outstanding unit trust assets held by Salomon Smith Barney's clients were approximately $6.9 billion, as compared to approximately $9.4 billion at December 31, 2000 and approximately $12.9 billion at December 31, 1999. COMPETITION Competitors of the mutual funds and asset management groups include a large number of mutual fund management and sales companies, asset management firms and banks. Competition in mutual fund sales and investment management is based on investment performance, service to clients and product design. 7 OTHER INFORMATION REGULATION Certain of SSBH's subsidiaries are subject to various securities and commodities regulations and capital adequacy requirements promulgated by the regulatory and exchange authorities of the jurisdictions in which they operate. Some subsidiaries are registered as broker-dealers and as investment advisers with the U.S. Securities and Exchange Commission (the "SEC") and as futures commission merchants and as commodity pool operators with the Commodity Futures Trading Commission ("CFTC"). Certain of SSBH's subsidiaries are also members of the New York Stock Exchange, Inc. (the "NYSE") and other principal United States securities exchanges, as well as the National Association of Securities Dealers, Inc. ("NASD") and the National Futures Association ("NFA"), a not-for-profit membership corporation designated as a registered futures association by the CFTC. The Company's primary broker-dealer subsidiary, Salomon Smith Barney Inc. ("SSB"), is registered as a broker-dealer in all 50 states, the District of Columbia, Puerto Rico, Taiwan and Guam. SSB is also a reporting dealer to the Federal Reserve Bank of New York and a member of the principal United States futures exchanges. SSB is subject to extensive regulation, primarily for the benefit of its customers, including minimum capital requirements, which are promulgated and enforced by, among others, the SEC, the CFTC, the NFA, the NYSE, various self-regulatory organizations of which SSB is a member and the securities administrators of the 50 states, the District of Columbia, Puerto Rico and Guam. The SEC and the CFTC also require certain registered broker-dealers (including SSB) to maintain records concerning certain financial and securities activities of affiliated companies that may be material to the broker-dealer, and to file certain financial and other information regarding such affiliated companies. Salomon Smith Barney's operations abroad are conducted through various subsidiaries and affiliates, principally Salomon Brothers International Limited in London, Nikko Salomon Smith Barney Limited (a joint venture formed in February 1999, between the Company (49%) and The Nikko Securities Co., Ltd (51%)) in Tokyo and Salomon Brothers AG ("SBAG") in Frankfurt. Its activities in the United Kingdom, which include investment banking, trading, brokerage and asset management services, are subject to the Financial Services and Markets Act 2000, which regulates organizations that conduct investment businesses in the United Kingdom (including imposing capital and liquidity requirements), and to the rules of the Securities and Futures Authority and the Investment Management Regulatory Organisation. Nikko Salomon Smith Barney is a registered foreign securities company in Japan and, as such, its activities in Japan are subject to Japanese law applicable to non-Japanese securities firms and are regulated principally by the Financial Services Agency. SBAG is a German bank, principally engaged in securities trading and investment banking and is regulated by Germany's Banking Supervisory Authority. These and other subsidiaries of SSBH are also members of various securities and commodities exchanges and are subject to the rules and regulations of those exchanges. Salomon Smith Barney's other offices are also subject to the jurisdiction of local financial services regulatory authorities. In connection with the mutual funds business, SSBH and its subsidiaries must comply with regulations of a number of regulatory agencies and organizations, including the SEC, the NASD and regulatory agencies in the United Kingdom and 8 Germany. SSBH is the direct or indirect parent of investment advisers registered and regulated under the Investment Advisers Act of 1940 and the Investment Company Act of 1940. Under those Acts, the advisory contracts between SSBH's investment adviser subsidiaries and the mutual funds they serve ("Affiliated Funds") would automatically terminate upon an assignment of such contracts by the investment adviser. Such an assignment would be presumed to have occurred if any party were to acquire more than 25% of Citigroup's voting securities. In that event, consent to the assignment from the shareholders of the Affiliated Funds involved would be needed for the advisory relationships to continue. In addition, the Company's registered investment advisers and the Affiliated Funds are subject to certain restrictions in their dealings with each other. For example, SSB may act as broker to an Affiliated Fund in a transaction involving an exchange-traded security only when that fund maintains procedures that govern, among other things, the execution price of the transaction and the commissions paid; it may not, however, conduct principal transactions with an Affiliated Fund. Further, an Affiliated Fund may acquire securities during the existence of an underwriting where SSB is a principal underwriter only in certain limited situations. SSB is a member of the Securities Investor Protection Corporation, which, in the event of liquidation of a broker-dealer, provides protection for customers' securities accounts held by the firm of up to $500,000 for each eligible customer, subject to a limitation of $100,000 for claims for cash balances. In addition, SSBH has purchased additional coverage of up to $150 million for eligible customers, approximately $50 million of which is from a subsidiary of Citigroup. CAPITAL REQUIREMENTS As a registered broker-dealer, SSB is subject to the SEC's net capital rule, Rule 15c3-1 (the "Net Capital Rule"), promulgated under the Exchange Act. SSB computes net capital under the alternative method of the Net Capital Rule, which requires the maintenance of minimum net capital, as defined. A member of the NYSE may be required to reduce its business if its net capital is less than 4% of aggregate debit balances (as defined) and may also be prohibited from expanding its business or paying cash dividends if resulting net capital would be less than 5% of aggregate debit balances. Furthermore, the Net Capital Rule does not permit withdrawal of equity or subordinated capital if the resulting net capital would be less than 5% of such debit balances. The Net Capital Rule also limits the ability of broker-dealers to transfer large amounts of capital to parent companies and other affiliates. Under the Net Capital Rule, equity capital cannot be withdrawn from a broker-dealer without the prior approval of the SEC in certain circumstances, including when net capital after the withdrawal would be less than (i) 120% of the minimum net capital required by the Net Capital Rule, or (ii) 25% of the broker-dealer's securities position "haircuts," i.e., deductions from capital of certain specified percentages of the market value of securities to reflect the possibility of a market decline prior to disposition. In addition, the Net Capital Rule requires broker-dealers to notify the SEC and the appropriate self-regulatory organization two business days before a withdrawal of excess net capital if the withdrawal would exceed the greater of $500,000 or 30% of the broker-dealer's excess net capital, and two business days after a withdrawal that exceeds the greater of $500,000 or 20% of excess net capital. Finally, the Net Capital Rule authorizes the SEC to order 9 a freeze on the transfer of capital if a broker-dealer plans a withdrawal of more than 30% of its excess net capital and the SEC believes that such a withdrawal would be detrimental to the financial integrity of the firm or would jeopardize the broker-dealer's ability to pay its customers. Compliance with the Net Capital Rule could limit those operations of the Company that require the intensive use of capital, such as underwriting and trading activities and the financing of customer account balances, and also could restrict SSBH's ability to withdraw capital from its broker-dealer subsidiaries, which in turn could limit SSBH's ability to pay dividends and make payments on its debt. At December 31, 2001, SSB had net capital, computed in accordance with the Net Capital Rule, of $3.5 billion, which exceeded the minimum net capital requirement by $3.0 billion. For further discussion of capital requirements related to the Company's principal regulated subsidiaries, see Note 11 of Notes to Consolidated Financial Statements. GENERAL BUSINESS FACTORS In the judgment of the Company, no material part of the business of the Company and its subsidiaries is dependent upon a single customer or group of customers, the loss of any one of which would have a materially adverse effect on the Company, and no one customer or group of affiliated customers accounts for as much as 10% of the Company's consolidated revenues. At December 31, 2001, the Company had approximately 41,170 full-time and 1,190 part-time employees. SOURCE OF FUNDS For a discussion of the Company's sources of funds and maturities of the long-term debt of the Company and its subsidiaries, see Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources," and Notes 7 and 8 of Notes to Consolidated Financial Statements. TAXATION For a discussion of tax matters affecting the Company and its operations, see Note 13 of Notes to Consolidated Financial Statements. 10 ITEM 2. PROPERTIES. The Company's principal executive offices are located at 388 Greenwich Street, New York, New York. The Company leases two buildings located at 388 and 390 Greenwich Street, New York, totaling approximately 2,300,000 square feet. These leases, which expire in 2008, include a purchase option with respect to the related properties. Most of the Company's other offices are located in other leased premises, the leases for which expire at various times. The Company believes that these facilities are adequate for the purposes for which they are used and are well maintained. For further information concerning leases, see Note 9 of Notes to Consolidated Financial Statements. ITEM 3. LEGAL PROCEEDINGS. This section describes the major pending legal proceedings, other than ordinary routine litigation incidental to the business, to which SSBH or its subsidiaries is a party or to which any of their property is subject. In September 1992, Harris Trust and Savings Bank (as trustee for Ameritech Pension Trust ("APT")), Ameritech Corporation, and an officer of Ameritech filed suit against Salomon Brothers Inc. ("SBI") and Salomon Brothers Realty Corporation ("SBRC") in the U.S. District Court for the Northern District of Illinois (Harris Trust Savings Bank, not individually but solely as trustee for the Ameritech Pension Trust, Ameritech Corporation and John A. Edwardson v. Salomon Brothers Inc and Salomon Brothers Realty Corp.). The second amended complaint alleges that three purchases by APT from defendants of participation interests in net cash flow or resale proceeds of three portfolios of motels owned by Motels of America, Inc. ("MOA"), as well as a fourth purchase by APT of a similar participation interest in a portfolio of motels owned by Best Inns, Inc. ("Best"), violated the Employee Retirement Income Security Act ("ERISA"), and that APT's purchase of the participation interests in the third MOA portfolio and in the Best portfolio violated the Racketeer Influenced and Corrupt Organization Act ("RICO") and the Illinois Consumer Fraud and Deceptive Practices Act ("Consumer Fraud Act"), and constituted fraud, negligent misrepresentation, breach of contract and unjust enrichment. SBI had acquired the participation interests when it purchased principal mortgage notes issued by MOA and Best to finance purchases of motel portfolios; 95% of three of those interests and 100% of the fourth were sold to APT for a total of approximately $20.9 million. Plaintiffs' second amended complaint seeks judgment (a) on the ERISA claims for the approximately $20.9 million purchase price, for rescission and for disgorgement of profits, as well as other relief, and (b) on the RICO and state law claims in the amount of $12.3 million, with damages trebled to $37 million on the RICO claims and punitive damages in excess of $37 million on certain of the state law claims as well as other relief. Following motions by defendants, the court dismissed the RICO, Consumer Fraud Act, fraud, negligent misrepresentation, breach of contract, and unjust enrichment claims. The court also found that defendants were not ERISA fiduciaries and dismissed two of the three claims based on that allegation. Defendants moved for summary judgment on plaintiffs' only remaining claim, which alleged an ERISA violation. The motion was denied, and defendants appealed to the U.S. Court of Appeals for the Seventh 11 Circuit. In July 1999, the U. S. Court of Appeals for the Seventh Circuit reversed the denial of defendants' motion for summary judgment and dismissed the sole remaining ERISA claim against the Company. Plaintiffs filed a petition for certiorari with the U. S. Supreme Court seeking review of the decision of the Court of Appeals, which was granted in January 2000. After hearing oral argument, on June 12, 2000, the U.S. Supreme Court reversed the U.S. Court of Appeals for the Seventh Circuit's judgment, which had overturned the denial of defendants' motion for summary judgment and dismissed the sole remaining ERISA claim against the Company, and remanded the matter to the circuit court for further proceedings. Subsequently, the circuit court remanded the matter to the U.S. District Court for the Northern District of Illinois for further proceedings. Both the Department of Labor and the Internal Revenue Service have advised SBI that they were or are reviewing the underlying transactions. With respect to the Internal Revenue Service, SSBH, SBI and SBRC have consented to extensions of time for the assessment of excise taxes that may be claimed with respect to the transactions for the years 1987, 1988 and 1989. In August 1996, the IRS sent SSBH, SBI and SBRC what appeared to be draft "30-day letters" with respect to the transactions and SSBH, SBI and SBRC were given an opportunity to comment on whether the IRS should issue 30-day letters, which would actually commence the assessment process. In October 1996, SSBH, SBI and SBRC submitted a memorandum setting forth reasons why the IRS should not issue such 30-day letters. Since that time, the IRS has not issued such 30-day letters to SSBH, SBI or SBRC. In March 1999, a complaint seeking in excess of $250 million was filed by a hedge fund and its investment advisor against SSB in the Supreme Court of the State of New York, County of New York (MKP Master Fund, LDC et al. v. Salomon Smith Barney Inc.). Plaintiffs allege that while acting as their prime broker SSB breached its contracts with plaintiffs, converted plaintiffs' monies and engaged in tortious conduct, including breaching its fiduciary duties. In October 1999, the court dismissed plaintiffs' tort claims, including the breach of fiduciary duty claims, but allowed the breach of contract and conversion claims to stand. In December 1999, SSB filed an answer and asserted counterclaims against the investment advisor. In response to plaintiffs' motion to strike the counterclaims, in January 2000, SSB amended its counterclaims against the investment advisor to seek indemnification and contribution. Plaintiffs moved to strike SSB's amended counterclaims in February 2000. In September 2000, the court denied plaintiffs' motion to dismiss SSB's counterclaims based on indemnification and contribution. Discovery is ongoing. SSBH and various subsidiaries have also been named as defendants in various matters incident to and typical of the businesses in which they are engaged. These include numerous civil actions, arbitration proceedings and other matters in which SSBH's broker-dealer subsidiaries have been named, arising in the normal course of business out of activities as a broker and dealer in securities, as an underwriter of securities, as an investment banker or otherwise. In the opinion of SSBH's management, none of these actions is expected to have a material adverse effect on the results of operations, consolidated financial condition or liquidity of SSBH and its subsidiaries. 12 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. Pursuant to General Instruction I of Form 10-K, the information required by Item 4 is omitted. PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. All of the outstanding common stock of the Company is owned by Citigroup. ITEM 6. SELECTED FINANCIAL DATA. Pursuant to General Instruction I of Form 10-K, the information required by Item 6 is omitted. 13 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS EVENTS OF SEPTEMBER 11 As a result of the September 11 terrorist attack, the Company experienced a disruption in business, as well as significant property loss. The Company and its Parent, Citigroup, are insured against certain of these losses. The Company has recorded insurance recoveries only up to the net book value of the assets written off. These items were recorded in the consolidated statement of income in "Other operating and administrative expenses." The Company recorded a receivable of $199 million relating to these insurance recoveries. Through December 31, 2001, the Company has received $82 million in insurance recoveries. The Company believes the entire balance of the receivable will be collected. Additional insurance recoveries will be booked when they are realized. SIGNIFICANT ACCOUNTING POLICIES The consolidated financial statements contain a summary of the Company's significant accounting policies, including a discussion of recently-issued accounting pronouncements. Certain of these policies are considered to be more important to the portrayal of the Company's financial condition, since they require management to make difficult, complex or subjective judgments, some of which may relate to matters that are inherently uncertain. These policies include accounting for securitizations, and the valuation of financial instruments and contractual commitments where no ready market exists. Additional information about these policies can be found in Note 1 to the consolidated financial statements. SECURITIZATIONS Securitization is a process by which a legal entity issues certain securities to investors, which securities pay a return based on the principal and interest cash flows from a pool of loans or other financial assets. These assets may have belonged to the Company prior to their being sold to the entity. The Company securitizes commercial and residential mortgages, high yield bonds, government and corporate securities, and municipal bonds. The Company also assists its clients in securitizing the clients' financial assets. The Company may provide administrative, underwriting, liquidity facilities and/or other services to the resulting securitization entities. See the Off-Balance Sheet Arrangements section of Management's Discussion and Analysis for additional information about our securitization programs. There are two key accounting determinations that must be made relating to securitizations. In the case where the Company originated or previously owned the financial assets transferred to the securitization entity, a decision must be made as to whether that transfer would be considered a sale for generally accepted accounting purposes. The 14 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS second key determination to be made is whether the securitization entity should be considered a subsidiary of the Company and be consolidated into the Company's financial statements or whether the entity is sufficiently independent that it does not need to be consolidated. If the securitization entity's activities are sufficiently restricted to meet certain accounting requirements, the securitization entity is not consolidated by the seller of the transferred assets. Most of the Company's securitization transactions are structured to meet the criteria for sale accounting. Additional information on the Company's securitization activities can be found in Note 19 to the consolidated financial statements. VALUATIONS OF FINANCIAL INSTRUMENTS AND CONTRACTUAL COMMITMENTS WITH NO READY MARKETS Financial instruments and contractual commitments include fixed maturity and equity securities, commodities, derivatives and structured securities. The Company's policy is to carry its financial instruments and contractual commitments at market value, or when market prices are not readily available, fair value. For the substantial majority of our portfolios, fair values are determined based upon externally verifiable model inputs and quoted prices. Changes in the fair value of trading account assets and liabilities are recognized in earnings. Deteriorating economic conditions - global, regional, or related to specific issuers - could adversely affect these values. If available, quoted market prices are generally the best indication of value. If quoted market prices are not available for fixed maturity securities, derivatives or commodities, the Company discounts the expected cash flows using market interest rates commensurate with the credit quality and maturity of the investment. Alternatively, matrix or model pricing may be used to determine an appropriate fair value. The determination of market or fair value considers various factors, including time value and volatility factors, underlying options, warrants, and derivatives; price activity for equivalent synthetic instruments; counterparty credit quality; the potential impact on market prices or fair value of liquidating the Company's positions in an orderly manner over a reasonable period of time under current market conditions; and derivative transaction maintenance costs during the period. Changes in assumptions could affect the fair value of financial instruments and contractual commitments. In certain situations (primarily equity securities), including thinly traded securities, large block holdings, restricted shares or other special situations, the quoted market price is adjusted to produce an estimate of the attainable fair value for the securities. For investments that are not publicly traded, estimates of fair value are made based upon review of the investee's financial results, condition and prospects, together with comparisons to similar companies for which quoted market prices are available. 15 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FUTURE APPLICATION OF ACCOUNTING STANDARDS In July 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 141, Business Combinations ("SFAS 141"), and SFAS No. 142, Goodwill and Other Intangible Assets ("SFAS 142"), which require that all business combinations initiated after June 30, 2001 be accounted for under the purchase method. Under the new rules, goodwill and intangible assets deemed to have indefinite lives will no longer be amortized, but will be subject to annual impairment tests. Other intangible assets will continue to be amortized over their useful lives. The nonamortization provisions of the new rules are effective for fiscal years beginning after December 15, 2001, and immediately for any purchase business combinations completed after June 30, 2001. Based on current levels of goodwill and an evaluation of the Company's intangible assets, which determined that certain intangible assets should be reclassified as goodwill and identified other intangible assets that have indefinite lives, the nonamortization provisions of the new standards will reduce other expense by approximately $151 million and increase net income by approximately $101 million in 2002. During 2002, the Company will perform the required impairment tests of goodwill and indefinite-lived intangible assets as of January 1, 2002. It is not expected that there will be a material effect on the consolidated financial statements as a result of these impairment tests. In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets ("SFAS 144"). Under SFAS 144, accounting models are prescribed to measure impairment for long-lived assets to be disposed of by sale and for long-lived assets to be held and used until disposal. Additionally, the presentation of discontinued operations includes more types of disposal transactions. As a result, similar events and circumstances will be accounted for in the same way. However, accrual of future operating losses classified as discontinued will no longer be permitted. The Company adopted SFAS 144 on January 1, 2002 and does not expect it to have a material impact on the Company's consolidated financial statements. RESULTS OF OPERATIONS. In 2001, the Company recorded net income of $2,627 million compared to $3,032 million and $2,812 million for the years ended December 31, 2000 and 1999, respectively. The decrease reflects a continued market decline in 2001, as well as the impact of the September 11 terrorist attack. Revenues, net of interest expense, were $15.4 billion in 2001 compared to $16.2 billion and $13.8 billion in 2000 and 1999, respectively. 16 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Net income for 2001 has been reduced by a cumulative after tax loss of $1 million, which relates to the adoption of Statement of Financial Accounting Standards No. 133, Accounting for Derivative Instruments and Hedging Activities. Net income for 1999 included the cumulative effect of a change in accounting principle of $15 million (net of tax benefit of $12 million), which relates to the write-off of certain capitalized closed-end fund distribution costs in connection with the adoption of AICPA Statement of Position 98-5, Reporting on the Cost of Start-Up Activities. These charges have not been allocated to either of the Company's operating segments. Principal transactions revenues contributed largely to the decline in revenue in 2001 due to decreases in global equities, commodities and fixed income trading. For fixed income, the decline was more than offset by increased net interest revenue related to fixed income trading activities. Commission revenues declined in 2001 compared to 2000 due to lower over-the-counter ("OTC"), mutual fund and insurance commissions. These decreases were partially offset by a 9% increase in investment banking revenues. This increase is primarily the result of increases in high grade debt, public finance and high yield underwritings, as well as an increase in bank loan fees. These increases were partially offset by declines in equity and unit trust underwriting and merger and acquisition fees. Total expenses decreased 2%, excluding the restructuring charge and the impact of a change in the presentation of intercompany balances and the release of a rent reserve no longer required. This decrease was primarily due to a decrease in compensation and benefits and savings from restructuring actions initiated in the first and second quarters of 2001. The Company continues to maintain tight expense controls. Revenues increased in all categories in 2000 compared to 1999. Commission revenues increased due to growth in sales of listed and OTC securities and increased mutual fund commissions. Investment banking revenues increased due to growth in equity and high grade debt underwriting and merger and acquisition fees, offset partially by a decline in high yield underwriting. Asset management and administration fees increased due to the corresponding increase in assets under fee-based management. Principal transactions revenue also increased in 2000 compared to 1999 as a result of an increase in global equity trading. The gains were offset to an extent by an increase in total noninterest expense which primarily reflects an increase in production-related compensation and benefits expense reflecting increased revenues. Also contributing to the increase was the acquisition of Schroders PLC in the second quarter of 2000. 17 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Following is a discussion of the results of operations of the Company's two operating segments, Investment Services and Asset Management. INVESTMENT SERVICES
------------------------------------------------------------------------------------------------------ Dollars in millions For the year ended December 31, 2001 2000 1999 ------------------------------------------------------------------------------------------------------ Revenues: Investment banking $ 3,879 $ 3,554 $ 2,969 Commissions 3,608 4,363 3,630 Asset management and administration fees 2,021 2,151 1,620 Principal transactions 1,793 2,702 2,544 Other 535 511 274 ------------------------------------------------------------------------------------------------------ Total noninterest revenues 11,836 13,281 11,037 ------------------------------------------------------------------------------------------------------ Net interest and dividends 2,256 1,739 1,610 ------------------------------------------------------------------------------------------------------ Revenues, net of interest expense 14,092 15,020 12,647 ------------------------------------------------------------------------------------------------------ Noninterest expenses: Operating and administrative expenses 10,436 10,847 8,950 Restructuring charge (credit), net 116 -- (243) ------------------------------------------------------------------------------------------------------ Total noninterest expense 10,552 10,847 8,707 ------------------------------------------------------------------------------------------------------ Income before income taxes and cumulative effect of change in accounting principle 3,540 4,173 3,940 ------------------------------------------------------------------------------------------------------ Provision for income taxes 1,262 1,485 1,449 ------------------------------------------------------------------------------------------------------ Income before cumulative effect of change in accounting principle $ 2,278 $ 2,688 $ 2,491 ------------------------------------------------------------------------------------------------------
The Company's investment services segment recorded income in 2001 of $2.28 billion compared to $2.69 billion and $2.49 billion for the years ended December 31, 2000 and 1999, respectively. Revenues, net of interest expense, decreased 6% in 2001 and increased 19% in 2000. Investment banking revenues were $3.88 billion in 2001 compared to $3.55 billion in 2000 and $2.97 billion in 1999. The growth in 2001 was the result of increases in high grade debt, public finance and high yield underwritings, as well as an increase in bank loan arrangement fees. The increases were partially offset by declines in equity and unit trust underwritings and merger and acquisition fees. In 2000, the increases reflect growth in equity and high grade debt underwriting and merger and acquisition fees, offset to an extent by a decline in high yield underwriting. 18 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Commission revenues were $3.6 billion in 2001, compared to $4.4 billion in 2000 and $3.6 billion in 1999. The decline in 2001 was due to lower OTC, mutual fund and insurance commissions due to depressed market conditions. The increase in 2000 reflects growth in sales of listed and OTC securities and an increase in mutual fund commissions. The investment services segment includes results from assets managed by the Company's Financial Consultants and assets that are managed through the Consulting Group. Asset management and administration fees were $2.02 billion in 2001 compared to $2.15 billion and $1.62 billion in 2000 and 1999, respectively. The decrease in 2001 is primarily the result of a decrease in the average asset levels of certain products compared to the 2000 period. In 2000, assets under fee-based management in these two categories increased significantly compared to the 1999 period, causing the corresponding increase in revenue. Principal transactions revenue decreased to $1.8 billion in 2001 as the result of decreases in global equities, commodities and fixed income trading. For fixed income, the decline was more than offset by increased net interest revenue related to fixed income trading activities. In 2000, principal transactions revenues increased to $2.7 billion compared to $2.5 billion in 1999, primarily due to an increase in global equity trading. For further information related to principal transactions revenues, see Note 5 to the consolidated financial statements. Other income was $535 million in 2001, compared to $511 million in 2000, and $274 million in 1999. The increase in 2001 is primarily the result of increased miscellaneous fee revenue. In 2001, this increase was partially offset by the impact of a change in the presentation of intercompany balances that had the effect of reducing other revenue and other expense compared to the prior year periods. The increase in 2000 is due in part to increased revenues from Nikko Salomon Smith Barney Limited, the Company's joint venture with The Nikko Securities Co., Ltd. Net interest and dividends increased to $2.26 billion in 2001 compared to $1.74 billion and $1.61 billion in 2000 and 1999, respectively. The increase in 2001 was due primarily to widening spreads in fixed income products, particularly mortgage backed securities. In 2000, the increase was the result of increased margin lending to customers. Total noninterest expenses, excluding the restructuring related items, were $10.4 billion in 2001 compared to $10.8 billion in 2000 and $8.9 billion in 1999. The decrease in 2001 was primarily the result of a decrease in compensation and benefits expense and savings from restructuring actions initiated during the first and second quarters of 2001, as well as tight expense controls. Also contributing to the decrease in 2001 was the impact of a change in the presentation of intercompany balances that had the impact of reducing other revenue and other 19 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS expense and the release of a rent reserve that was no longer required. The increase in 2000 primarily reflects an increase in production-related compensation and benefits expense, reflecting increased revenues. Also contributing to the increase in expenses was the acquisition of Schroders PLC in the second quarter of 2000. For further discussion of the restructuring related items, net, see Note 3 to the consolidated financial statements. ASSET MANAGEMENT
------------------------------------------------------------------------------------------------------ Dollars in millions For the year ended December 31, 2001 2000 1999 ------------------------------------------------------------------------------------------------------ Revenues: Asset management and administration fees $1,257 $1,171 $1,030 Net interest and dividends and other revenue 38 51 80 ------------------------------------------------------------------------------------------------------ Revenues, net of interest expense 1,295 1,222 1,110 ------------------------------------------------------------------------------------------------------ Noninterest expenses: Operating and administrative expenses 714 649 554 Restructuring charge 1 4 -- ------------------------------------------------------------------------------------------------------ Total noninterest expense 715 653 554 ------------------------------------------------------------------------------------------------------ Income before income taxes and cumulative effect of change in accounting principle 580 569 556 ------------------------------------------------------------------------------------------------------ Provision for income taxes 230 225 220 ------------------------------------------------------------------------------------------------------ Income before cumulative effect of change in accounting principle $ 350 $ 344 $ 336 ------------------------------------------------------------------------------------------------------
The asset management segment revenues, net of interest expense, rose 6% to $1.30 billion in 2001 compared to $1.22 billion in 2000 and $1.11 billion in 1999. The primary revenue component for the asset management segment is asset management and administration fees, which were $1.26 billion in 2001 compared to $1.17 billion in 2000 and $1.03 billion in 1999. The 7% and 14% overall increase in 2001 and 2000 fees, respectively, reflects broad growth in all asset management products. Assets under management for the segment increased 12% and 8% in 2001 and 2000, respectively (see table on following page for detail of Salomon Smith Barney Asset Management assets under fee-based management). Other revenues include the net revenue contribution to the asset management segment for the structuring of unit investment trusts, as well as custody fees, and realized and unrealized investment income. Total noninterest expenses excluding the restructuring charge were $714 million in 2001 compared to $649 million in 2000 and $554 million in 1999. The 10% increase in 2001 was driven by increases in variable expenses primarily relating to distribution fees. The 17% increase in 2000 reflects continuing investments in the business 20 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS infrastructure of the asset management segment to support sustained business growth. Other operating and administrative expense also includes amortization of deferred commissions, which relate to the sale of load mutual funds. For further information concerning the restructuring charge, net see Note 3 to the consolidated financial statements. Total assets under fee-based management were as follows:
--------------------------------------------------------------------------------------------------------- Dollars in billions At December 31, 2001 2000 1999 --------------------------------------------------------------------------------------------------------- Money market funds $ 97.7 $ 83.0 $ 68.1 Mutual funds 75.3 68.0 65.6 Managed accounts 93.2 83.4 79.5 Unit investment trusts held in client accounts 6.9 9.4 12.9 --------------------------------------------------------------------------------------------------------- Salomon Smith Barney Asset Management 273.1 243.8 226.1 Financial Consultant managed accounts* 54.9 56.2 43.6 Consulting Group and internally managed assets* 150.2 145.6 126.2 --------------------------------------------------------------------------------------------------------- Total assets under fee-based management $478.2 $445.6 $395.9 ---------------------------------------------------------------------------------------------------------
*Related results included in Investment Services segment. OUTLOOK The Company's business is significantly affected by the levels of activity in the securities markets, which in turn are influenced by the level and trend of interest rates, the general state of the global economy and the national and worldwide political environments, among other factors. 21 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS CAPITAL AND LIQUIDITY MANAGEMENT Management of capital and liquidity is critical to a financial institution such as the Company. It is the policy of the Company to maintain sufficient capital to support all business initiatives and to ensure access to funding under all market conditions. The confidence of creditors and counterparties in the Company's ability to perform pursuant to its contractual obligations is essential to the Company's continued success. LIQUIDITY AND CAPITAL RESOURCES The Company's total assets were $301 billion at December 31, 2001, an increase from $238 billion at year-end 2000. Due to the nature of the Company's trading activities, it is not uncommon for the Company's asset levels to fluctuate from period to period. The Company's consolidated statement of financial condition is highly liquid, with the vast majority of its assets consisting of marketable securities and collateralized short-term financing agreements arising from securities transactions. The highly liquid nature of these assets provides the Company with flexibility in financing and managing its business. The Company monitors and evaluates the adequacy of its capital and borrowing base on a daily basis in order to allow for flexibility in its funding, to maintain liquidity, and to ensure that its capital base supports the regulatory capital requirements of its subsidiaries. The Company funds its operations through the use of collateralized and uncollateralized short-term borrowings, long-term borrowings, mandatorily redeemable securities of subsidiary trusts, and its equity. Collateralized short-term financing, including repurchase agreements and secured loans, is the Company's principal funding source. Such borrowings are reported net by counterparty, when applicable, pursuant to the provisions of Financial Accounting Standards Board Interpretation 41, Offsetting of Amounts Related to Certain Repurchase and Reverse Repurchase Agreements ("FIN 41"). Excluding the impact of FIN 41, short-term collateralized borrowings totaled $190.6 billion at December 31, 2001. Uncollateralized short-term borrowings provide the Company with a source of short-term liquidity and are also utilized as an alternative to secured financing when they represent a cheaper funding source. Sources of short-term uncollateralized borrowings include commercial paper, unsecured bank borrowings and letters of credit, deposit liabilities, promissory notes and corporate loans. Short-term uncollateralized borrowings totaled $15.9 billion at December 31, 2001. The Company has a $5.0 billion 364-day committed uncollateralized revolving line of credit with unaffiliated banks. Commitments to lend under this facility terminate in May 2002. Any borrowings under this facility would mature in May 2004. The Company may borrow under this revolving credit facility at various interest rate options, and 22 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS compensates the banks for this facility through facility fees. At December 31, 2001, there were no outstanding borrowings under this facility. Under this facility, the Company is required to maintain a certain level of consolidated adjusted net worth (as defined in the agreement). At December 31, 2001, this requirement was exceeded by approximately $4.3 billion. The Company also has substantial borrowing arrangements consisting of facilities that the Company has been advised are available, but where no contractual lending obligation exists. These arrangements are reviewed on an ongoing basis to ensure flexibility in meeting the Company's short-term requirements. Unsecured term debt is a significant component of the Company's long-term capital. Term debt totaled $27.2 billion at December 31, 2001, compared with $20.3 billion at December 31, 2000. The Company utilizes interest rate swaps to convert the majority of its fixed rate term debt used to fund inventory-related working capital requirements into variable rate obligations. Term debt issuances denominated in currencies other than the U.S. dollar that are not used to finance assets in the same currency are effectively converted to U.S. dollar obligations through the use of cross-currency swaps and forward currency contracts. The average remaining maturity of the Company's term debt was 5.7 years, including pass through entities whose debt of $2.1 billion matures in periods ranging from 2006 to 2097 and are required to be consolidated under generally accepted accounting principles. The average remaining maturity of the Company's term debt excluding these pass through entities was 2.5 years and 3.1 years at December 31, 2001 and 2000, respectively. See Note 8 to the consolidated financial statements for additional information regarding term debt and an analysis of the impact of interest rate swaps on term debt. The Company's borrowing relationships are with a broad range of banks, financial institutions and other firms from which it draws funds. The volume of the Company's borrowings generally fluctuates in response to changes in the level of the Company's financial instruments, commodities and contractual commitments, customer balances, the amount of securities purchased under agreements to resell and securities borrowed transactions. As the Company's activities increase, borrowings generally increase to fund the additional activities. Availability of financing to the Company can vary depending upon market conditions, credit ratings, and the overall availability of credit to the securities industry. The Company seeks to expand and diversify its funding mix as well as its creditor sources. Concentration levels for these sources, particularly for short-term lenders, are closely monitored both in terms of single investor limits and daily maturities. The Company monitors liquidity by tracking asset levels, collateral and funding availability to maintain flexibility to meet its financial commitments. As a policy, the Company attempts to maintain sufficient capital and funding sources in order to have the capacity to finance itself on a fully collateralized basis in the event that the Company's access to uncollateralized financing is temporarily impaired. The Company's liquidity management process includes a contingency funding plan designed to ensure adequate liquidity even if access to unsecured funding sources is severely restricted or unavailable. This plan is reviewed periodically to keep the funding options current 23 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS and in line with market conditions. The management of this plan includes an analysis used to determine the Company's ability to withstand varying levels of stress, including ratings downgrades, which could impact its liquidation horizons and required margins. In addition, the Company monitors its leverage and capital ratios on a daily basis. OFF-BALANCE SHEET ARRANGEMENTS The Company is involved with several types of off-balance sheet arrangements, including special purpose entities (SPEs), lines and letters of credit, and loan commitments. The volume and types of our loan commitments and lines and letters of credit are described in the following section of Management's Discussion and Analysis. SECURITIZATIONS AND SPES The principal uses of SPEs are to obtain sources of liquidity while reducing credit risk by securitizing the Company's financial assets, to assist our clients in securitizing their financial assets, or to create customized investment products for specific investors. SPEs may be organized as trusts, partnerships, or corporations. In a securitization, the company transferring assets to an SPE converts those assets into cash before they would have been realized had the company held on to them, at the same time reducing its credit exposure to the borrowers/issuers of those assets. The SPE obtains the cash needed to pay the transferor for the assets received by issuing securities to investors in the form of debt instruments, certificates, commercial paper, and other notes. Investors usually have recourse to the assets in the SPE that is bankruptcy remote, and often benefit from other enhancements, such as excess assets in the SPE, a liquidity facility, or credit insurance. Accordingly, the SPE can typically obtain a more favorable credit rating from rating agencies, such as Standard and Poor's and Moody's Investors Service, than the company could obtain for its own debt issuances, resulting in less expensive financing costs. The cash proceeds from the sale are used for other business purposes. The SPE may also enter into a derivative, typically a swap, in order to convert the yield or currency of the underlying assets to match the needs of the SPE's investors or alter the credit risk profile of the SPE. The company may be the counterparty to these derivatives transactions. The securitization process enhances the liquidity of the financial markets, spreads credit risk among several market participants, and makes more funds available to extend credit to consumers and commercial entities. The Company securitizes debt obligations in SPE structures known as collateralized debt obligations (CDOs). A majority of the structures are created on behalf of clients where the Company first purchases the assets at the request of the clients and warehouses them until the securitization structure is finalized. Other CDOs are structured where the debt obligations are purchased directly in the open market or from issuers. Some CDOs have static, unmanaged 24 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS portfolios of assets, while others have a more actively managed portfolio of financial assets. The Company receives fees for structuring and distributing the CDO securities to investors, but has no ownership interests in the CDOs. During the year ended December 31, 2001, total securitized assets in CDOs amounted to approximately $4.9 billion and the Company earned fees of approximately $95 million. As to securitizing mortgage loans and agency mortgage securities, the Company is usually one of the transferors that sells the loans to SPEs that are REMIC trusts. The SPEs that hold the underlying assets issue different tranches of pass-through certificates to satisfy the investors' various investment and tax planning objectives. The Company often retains tranches of the trust certificates, some of which entitle but do not obligate the Company to purchase defaulted loans at fair value. The Company does not service the transferred loans and has no other involvement with the SPE subsequent to the sale except for the repurchase obligation under the normal representations and warranties. During the year ended December 31, 2001, securitized mortgage loans and securities totaled $9.4 billion, resulting in a gain of $13 million. Additionally, securitization SPEs are employed to securitize a variety of financial assets for which the Company was the seller and counterparty to derivatives entered into by the SPEs for the purposes of altering the credit risk contained in the SPE or simply converting cash flows due to the investors. During the year ended December 31, 2001, such securitizations totalled $2.2 billion. CONTRACTUAL OBLIGATIONS AND COMMITMENTS The following table summarizes the maturity profile of the Company's contractual long-term debt payments at December 31, 2001:
----------------------------------------- Dollars in millions Total ----------------------------------------- 2002 $ 5,073 2003 8,242 2004 5,049 2005 2,240 2006 2,242 Thereafter 4,373 ----------------------------------------- Total $27,219 -----------------------------------------
The Company has noncancelable leases covering office space and equipment expiring on various dates through 2016. Presented below is a schedule of minimum future rentals on noncancelable operating leases, net of subleases, 25 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS as of December 31, 2001. Various leases contain provisions for lease renewals and escalation of rent based on increases in certain costs incurred by the lessors.
------------------------------------------ Dollars in millions Total ------------------------------------------ 2002 $ 220 2003 197 2004 165 2005 136 2006 112 Thereafter 241 ------------------------------------------ Minimum future rentals $1,071 ------------------------------------------
A summary of the Company's Other Commercial Commitments at December 31, 2001 are as follows:
--------------------------------------------------------------------------------- Other Commercial Total Less Commitments Amounts than 1-3 4-5 Over 5 (Dollars in millions) Committed 1 Year Years Years Years --------------------------------------------------------------------------------- Lines of credit $ 236 $ 236 $ -- $ -- $ -- Guarantees 856 302 365 -- 189 Loan Commitments 4,344 4,209 14 107 14 --------------------------------------------------------------------------------- Total Commercial Commitments $5,436 $4,747 $379 $107 $203 ---------------------------------------------------------------------------------
The loan commitments in the above table primarily consist of agreements to deliver secured financing that is more than 100% collateralized by securities issued by G-7 governments or other highly rated securities. OTHER HIGH YIELD PORTFOLIO The Company's activities include trading securities that are less than investment grade, characterized as "high yield." High yield securities include corporate debt, convertible debt, preferred and convertible preferred equity securities, and non-U.S. government debt that are rated lower than "triple B-" by internationally recognized rating agencies, and unrated securities with market yields comparable to entities rated below "triple B-". The Company's trading portfolio of high yield securities owned is carried at market or fair value and totaled $3.6 billion and $3.3 billion at December 31, 2001 and 2000, respectively; the largest high yield exposure to one counterparty was $98 million and $61 million at December 31, 2001 and 2000, respectively. 26 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS DERIVATIVE INSTRUMENTS Derivatives are an integral element of the world's financial and commodity markets. Globalization of economic activity has brought more market participants in contact with foreign exchange and interest rate risk at a time when market volatility has increased. The Company has developed many techniques using derivatives to enhance the efficiency of capital and trading risk management. DERIVATIVE INSTRUMENTS - OVERVIEW Derivative instruments are contractual commitments or payment exchange agreements between counterparties that "derive" their value from some underlying asset, index, interest rate or exchange rate. The markets for these instruments have grown tremendously over the past decade. A vast increase in the types of derivative users and their motivations in using these products has resulted in an expansion of geographic coverage, transaction volume and liquidity, and the number of underlying products and instruments. Derivatives have been used quite successfully by multinational corporations to hedge foreign currency exposure, by financial institutions to manage gaps in maturities between assets and liabilities, by investment companies to reduce transaction costs and take positions in foreign markets without assuming currency risk, and by non-financial companies to fix the prices of inputs into the manufacturing process or prices of the products they sell. Derivatives are also used by investors when, considering such factors as taxes, regulations, capital, and liquidity, they provide the most efficient means of taking a desired market position. These are just a few of the business objectives for which derivatives are used. The list of objectives is large and continues to grow. Derivatives are accounted for and settled differently than cash instruments and their use requires special management oversight. Such oversight should ensure that management understands the transactions to which it commits their firm and that the transactions are executed in accordance with sensible corporate risk policies and procedures. Derivatives activities, like the Company's other ongoing business activities, give rise to market, credit, and operational risks. Market risk represents the risk of loss from adverse market price movements. While market risk relating to derivatives is clearly an important consideration for intermediaries such as the Company, such risk represents only a component of the Company's overall market risk, which arises from activities in non-derivative instruments as well. Consequently, the scope of the Company's market risk management procedures extends beyond derivatives to include all financial instruments and commodities. Credit risk is the loss that the Company would incur if counterparties failed to perform pursuant to their contractual obligations. While credit risk is not a 27 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS principal consideration with respect to exchange-traded instruments, it is a major factor with respect to non-exchange-traded OTC instruments. Whenever possible, the Company uses industry master netting agreements to reduce aggregate credit exposure. Swap and foreign exchange agreements are documented utilizing counterparty master netting agreements supplemented by trade confirmations. Over the past several years, the Company has enhanced the funding and risk management of its derivatives activities through the increased use of bilateral security agreements. Based on notional amounts, at December 31, 2001 and 2000, approximately 91% of the Company's swap portfolio was subject to the bilateral exchange of collateral. See "Risk Management" for discussions of the Company's management of market, credit, and operational risks. NATURE AND TERMS OF DERIVATIVE INSTRUMENTS The Company enters into various bilateral financial contracts involving future settlement, which are based upon a predetermined principal or par value (referred to as the "notional" amount). Such instruments include swaps, swap options, caps and floors, futures contracts, forward purchase and sale agreements, option contracts and warrants. Transactions are conducted either through organized exchanges or OTC. For a discussion of the nature and terms of these instruments see Note 16 to the consolidated financial statements. THE COMPANY'S USE OF DERIVATIVE INSTRUMENTS The Company's use of derivatives can be broadly classified between trading and non-trading activities. The vast majority of the Company's derivatives use is in its trading activities, which include market-making activities for customers and the execution of trading strategies for its own account ("proprietary trading"). The Company's derivative counterparties consist primarily of other major derivative dealers, financial institutions, insurance companies, pension funds and investment companies, and other corporations. The scope of permitted derivatives activities both for trading and non-trading purposes for each of the Company's businesses is defined by senior management. TRADING ACTIVITIES A fundamental activity of the Company is to provide market liquidity to its customers across a broad range of financial instruments, including derivatives. The Company also seeks to generate returns by executing proprietary trading strategies. By their very nature, proprietary trading activities represent the assumption of risk. However, trading positions are constructed in a manner that seeks to define and limit risk taking only to those risks that the Company intends to assume. The most significant derivatives-related activity conducted by the Company is in fixed-income derivatives, which include interest rate swaps, financial futures, swap options, and caps and floors. Other derivative transactions, such as currency swaps, forwards and options as well as derivatives linked to equities, 28 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS are also regularly executed by the Company. The Company generally earns a spread from market-making transactions involving derivatives, as it generally does from its market-making activities for non-derivative transactions. The Company also utilizes derivatives to manage the market risk inherent in the securities inventories and derivative portfolios it maintains for market-making purposes as well as its "book" of swap agreements and related transactions with customers. The Company conducts its commodities dealer activities in spot and forward physical markets, organized futures exchanges as well as in OTC financially-settled markets where the Company executes transactions involving commodities options, forwards and swaps, much in the same manner as it does in the financial markets. NON-TRADING ACTIVITIES The Company also makes use of financial derivatives for non-trading, or end user, purposes. These instruments include, interest rate swaps, cross-currency swaps and forward currency contracts, which provide the Company with added flexibility in the management of its capital and funding costs. Interest rate swaps are utilized to effectively convert the majority of the Company's fixed-rate term debt to variable-rate obligations. Cross-currency swaps are utilized to effectively convert a portion of its non-U.S. dollar denominated term debt to U.S. dollar denominated obligations. Forward currency contracts are utilized to minimize the variability in equity otherwise attributable to exchange rate movements. For additional derivatives-related disclosures contained in the consolidated financial statements see the following: - Note 1 - Summary of Significant Accounting Policies - Note 5 - Principal Transactions Revenues - Note 8 - Term Debt - Note 16 - Financial Instruments and Contractual Commitments and Related Risks - Note 17 - Fair Value Information 29 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RISK MANAGEMENT --------------------------------- Effective management of the risks inherent in the Company's businesses is critical. The following section discusses certain of the risks inherent in the Company's businesses, procedures in place to manage such risks, and initiatives underway to continue to enhance the Company's management of risk. --------------------------------- MARKET RISK Market risk represents the potential loss or decrease in economic value the Company may incur as a result of absolute and relative price movements in financial instruments, commodities and contractual commitments due to price volatility, changes in yield curves, currency fluctuations and changes in market liquidity. The Company manages aggregate market risk across both on- and off-balance sheet products and, therefore, a separate discussion of market risk for individual products, including derivatives, is not meaningful. See "Risk Management - Credit Risk - Credit Exposure from Derivative Activities." Within the Company's trading businesses, sound management of market risk has always been a critical consideration. The sections that follow discuss organizational elements of market risk management, as well as specific risk management tools and techniques. The Company has sought to institutionalize these elements across all its businesses. Efforts to further strengthen the Company's management of market risk are ongoing and the enhancement of risk management systems and reporting, including the development and utilization of quantitative tools, is of major importance. THE COMPANY'S RISK MANAGEMENT CONTROL FRAMEWORK The Company's risk management control framework is based upon the ongoing participation of senior management and business unit managers and the coordinated efforts of various support units throughout the Company. The Company's risk management efforts include the establishment of market and credit risk controls, policies and procedures; senior management risk oversight with thorough risk analysis and reporting; and independent risk management with capabilities to evaluate and monitor risk limits. VALUATION AND CONTROL OF TRADING POSITIONS With regard to the Company's trading positions (financial instruments, commodities and contractual commitments), the Chairman and Chief Executive Officer determines the desired risk profile of the Company with assistance from 30 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS the Risk Management Committee. This Committee, chaired by the Chief Risk Officer, is comprised of the Chief Executive Officer, senior business managers, and the Chief Financial Officer and is documented by the Market Risk Officer as Secretary. The Committee reviews appropriate levels of risk, risk capital allocations, balance sheet and regulatory capital usage by business units and overall risk policies and controls. An independent Global Market Risk Management Group provides technical and quantitative analysis of the market risk associated with trading positions to the Chief Risk Officer and the Chief Executive Officer on a frequent basis. Trading positions are necessary for an active market maker, but can be a major source of liquidity risk. Monitoring the Company's trading inventory levels and composition is the responsibility of the Global Market Risk Management Group and various support units, which monitor trading positions on a position by position level and employ specific risk models to track inventory exposure in credit markets, emerging markets and the mortgage market. Independent oversight of pricing is the responsibility of the Controller's organization, with review by the Risk Management Group. The Company also provides for liquidity risk by imposing markdowns for illiquid concentrated positions. Additionally, inventory event risk, both for issuer credit and emerging markets, is analyzed with the involvement of senior traders, economists and credit department personnel. Market scenarios for the major emerging markets are maintained and updated to reflect the event risk for the emerging market positions. In addition, the Company, as a dealer of securities in the global capital markets, has risk to issuers of fixed income securities for the timely payment of principal and interest. Principal risk is reviewed by the Global Market Risk Management Group, which identifies and reports major risks undertaken by the trading businesses. The Credit Department (the "Department") combines principal risk positions with credit risks resulting from counterparty pre-settlement and settlement risk to review aggregate exposures by counterparty, industry and country. RISK LIMITS The Company's trading businesses have implemented business unit limits on exposure to risk factors. These limits, which are intended to enforce the discipline of communicating and gaining approval for higher risk positions are, by policy, set by the Senior Risk Officer. Business units may not exceed these risk limits without prior approval from the Global Market Risk Management Group. TOOLS FOR RISK MANAGEMENT AND REPORTING The Company's market risk measurement begins with the identification of relevant market risk factors. These core risk factors vary from market to market, and region to region. Risk factors are used in three types of analysis: stress analysis, scenario analysis and value-at-risk analysis. 31 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS STRESS ANALYSIS The Company performs stress analysis by repricing inventory positions for specified upward and downward moves in risk factors, and computing the revenue implications of these repricings. Stress analysis is a useful tool for identifying exposures that appear to be relatively small in the current environment but grow more than proportionately with changes in risk factors. Such risk is typical of a number of derivative instruments, including options sold, many mortgage derivatives and a number of structured products. Stress analysis provides for the measurement of the potential impact of extremely large moves in risk factors, which, though infrequent, can be expected to occur from time to time. SCENARIO ANALYSIS Scenario analysis is a tool that generates forward-looking "what-if" simulations for specified changes in market factors. For example, the scenario analysis simulates the impact of significant changes in domestic and foreign interest rates. The revenue implications of the specified scenario are quantified on a business unit and geographic basis. VALUE AT RISK Value at risk ("VAR") is a statistical tool for measuring the potential variability of trading revenue. The VAR reported is an estimate of the potential range of loss in the market value of the trading portfolio, over a one-day period, at the 99% confidence level, assuming a static portfolio. This level implies that on 99 trading days out of 100, the mark-to-market of the portfolio will likely either (1) increase in value, or (2) decrease in value by less than the VAR estimate; and that on 1 trading day out of 100, the mark-to-market of the portfolio will likely decrease in value by an amount that will exceed the VAR estimate. VAR is calculated by simulating changes in the key underlying market risk factors (e.g., interest rates, interest rate spreads, equity prices, foreign exchange rates, commodity prices, and option volatilities) to calculate the potential distribution of changes in the market value of the Company's portfolios of market risk sensitive financial instruments. Measuring market risk using statistical risk management models has recently become the main focus of risk management efforts by many companies whose earnings are exposed to changes in the fair value of financial instruments. Management believes that statistical models alone do not provide a reliable method of monitoring and controlling risk. While VAR models are relatively sophisticated, they have several known limitations. Most significantly, standard VAR models do not incorporate the potential loss caused by very unusual market events. Stress testing is necessary as a complement to VAR to measure this potential risk. 32 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following table summarizes the Company's VAR at the 99% confidence level as of December 31, 2001 and 2000, along with the 2001 average and the high and low (based on quarter-end VARs). The VAR relating to non-trading financial instruments has been excluded from this analysis.
- ------------------------------------------------------------------------------------------------------------------------------ RISK EXPOSURES December 31, December 31, ($ IN MILLIONS) 2001 2001 Average 2001 High 2001 Low 2000 - ------------------------------------------------------------------------------------------------------------------------------ Interest rate $ 37 $ 41 $ 67 $ 26 $ 35 Equities 4 7 34 1 4 Commodities 14 12 21 6 6 Currency -- 2 8 -- 2 Diversification Benefit (12) (16) N/A N/A (12) - ------------------------------------------------------------------------------------------------------------------------------ Total $ 43 $ 46 $ 73 $ 29 $ 35 - ------------------------------------------------------------------------------------------------------------------------------
The quantification of market risk using VAR analysis requires a number of key assumptions. In calculating VAR at December 31, 2001, the Company simulates changes in market factors by using historical volatilities and correlations and assuming lognormal distributions for changes in each market factor. VAR is calculated at the 99% confidence level, assuming a static portfolio subject to a one-day change in market factors. The historical volatilities and correlations used in the simulation are calculated using a look back period of three years. Over 200 risk factors are used in the VAR simulations. VAR reflects the risk profile of the Company at December 31, 2001, and is not a predictor of future results. The following describes the components of market risk: INTEREST RATE RISK Interest rate risk arises from the possibility that changes in interest rates will affect the value of financial instruments. In connection with the Company's dealer and proprietary trading activities, including market-making in OTC derivative contracts, the Company is exposed to interest rate risk arising from changes in the level or volatility of interest rates, mortgage prepayment speeds or the shape and slope of the yield curve. The Company's corporate bond activities expose it to the risk of loss related to changes in credit spreads. When appropriate, the Company attempts to hedge its exposure to interest rate risk by entering into transactions such as interest rate swaps, options, U.S. and non-U.S. government securities and futures and forwards contracts designed to mitigate such exposure. 33 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS EQUITY PRICE RISK The Company is exposed to equity price risk as a consequence of making markets in equity securities and equity derivatives. Equity price risk results from changes in the level or volatility of equity prices, which affect the value of equity securities, or instruments that derive their value from a particular stock, a basket of stocks or a stock index. The Company attempts to reduce the risk of loss inherent in its inventory in equity securities by entering into hedging transactions, including equity options and futures, designed to mitigate the Company's market risk profile. COMMODITY PRICE RISK Commodity price risk results from the possibility that the price of the underlying commodity (principally, oil, natural gas and metals) may rise or fall. CURRENCY RISK Currency risk arises from the possibility that changes in foreign exchange rates will impact the value of financial instruments. When the Company buys or sells a foreign currency or financial instrument denominated in a currency other than the local currency of the trading center, exposure exists from a net open currency position. Until the position is covered by selling or buying an equivalent amount of the same currency or by entering into a financing arrangement denominated in the same currency, the Company is exposed to a risk that the exchange rate may move against it. CREDIT RISK Credit risk represents the loss the Company could incur if a debtor, an issuer or counterparty is unable or unwilling to perform on its commitments, including the timely payment of principal and interest or settlement of swap and foreign exchange transactions, repurchase agreements, securities purchases and sales, and other contractual obligations. The Company's credit risk management process considers the many factors that influence the probability of a potential loss, including, but not limited to, the issuer's or counterparty's financial profile, its business prospects and reputation, the specific terms and duration of the transactions, the pledging of collateral, the exposure of the transactions to market risk, macroeconomic developments and sovereign risk. 34 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ORIGIN OF CREDIT RISK In the normal course of its operations, the Company enters into various transactions that may give rise to various types of credit risk. The different forms of credit risk to which the Company may be exposed include: - - LENDING CREDIT RISK: The risk that an obligor may default on principal or interest payments of a loan. - - ISSUER CREDIT RISK: The risk that the issuer of a security will default on principal or interest payments. One component of the market risk of securities and derivatives on particular securities is that caused by the credit risk of the issuer. This component of market risk is also called the specific risk component of market risk. - - COUNTERPARTY CREDIT RISK: The risk that a counterparty to a trade will default on its obligations. Counterparty credit risk takes two forms: - SETTLEMENT RISK: The risk that a counterparty will fail to perform during an exchange of cash or other assets. This risk arises from the requirement, in certain circumstances, to release cash or securities before receiving payment. - PRE-SETTLEMENT CREDIT RISK: The risk that a counterparty to a forward, derivative or repurchase transaction will default prior to the final cash settlement of the transaction. The magnitude of pre-settlement credit exposure depends on the potential market value of the contracts and on the presence of any legally enforceable risk mitigating agreements that have been entered into, such as netting, margin or an option to early termination. For both forms of counterparty credit risk, the Company sets credit limits or requires specific approvals that attempt to anticipate the potential exposure of transactions. CREDIT RISK MANAGEMENT The Senior Risk Officer, who is independent of any revenue-generating function, manages a Credit Department, whose professionals assess, approve, monitor, and coordinate the extension of credit on a global basis. In considering such risk, the Department evaluates the risk/return trade-offs as well as current and potential credit exposures to a counterparty or to groups of counterparties that are related because of industry, geographic, or economic characteristics. The Department also has established various credit policies and control procedures used singularly or in combination, depending upon the circumstances. 35 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS CREDIT RISK MANAGEMENT OF COMMODITIES-RELATED TRANSACTIONS Phibro's credit department determines the credit limits for counterparties in its commodities-related activities. Exposure reports, which contain detailed information about cash flows with customers, goods in transit and forward mark-to-market positions, are reviewed daily. CREDIT EXPOSURE FROM DERIVATIVE ACTIVITIES The Company's credit exposure for swap agreements, swap options, caps and floors and foreign exchange contracts and options at December 31, 2001, as represented by amounts reported on the Company's consolidated statement of financial condition, are primarily with investment grade counterparties. These amounts do not present potential credit exposure that may result from factors that influence market risk or from the passage of time. Severe changes in market factors may cause credit exposure to increase suddenly and dramatically. Swap agreements, swap options, caps and floors include transactions with both short- and long-term periods of commitment. See Note 16 to the consolidated financial statements for further discussion of credit exposure from derivative activities. With respect to sovereign risk related to derivatives, credit exposure at December 31, 2001 was primarily to counterparties in the U.S. ($5.2 billion), Germany ($.7 billion), United Kingdom ($.7 billion), France ($.3 billion), Japan ($.1 billion), and Canada ($.1 billion). OPERATIONAL RISK As a major intermediary in financial and commodities markets, the Company is directly exposed to market risk and credit risk which arise in the normal course of its business activities. Slightly less direct, but of critical importance, are risks pertaining to operational and back office support. This is particularly the case in a rapidly changing and increasingly global environment with increasing transaction volumes and an expansion in the number and complexity of products in the marketplace. Such risks include: - Operational/Settlement Risk - the risk of financial and opportunity loss and legal liability attributable to operational problems, such as inaccurate pricing of transactions, untimely trade execution, clearance and/or settlement, or the inability to process large volumes of transactions. The Company is subject to increased risks with respect to its trading activities in emerging market securities, where clearance, settlement, and custodial risks are often greater than in more established markets. 36 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - Technological Risk - the risk of loss attributable to technological limitations or hardware failure that constrain the Company's ability to gather, process, and communicate information efficiently and securely, without interruption, with customers, among units within the Company, and in the markets where the Company participates. - Legal/Documentation Risk - the risk of loss attributable to deficiencies in the documentation of transactions (such as trade confirmations) and customer relationships (such as master netting agreements) or errors that result in noncompliance with applicable legal and regulatory requirements. - Financial Control Risk - the risk of loss attributable to limitations in financial systems and controls. Strong financial systems and controls ensure that assets are safeguarded, that transactions are executed in accordance with management's authorization, and that financial information utilized by management and communicated to external parties, including the Company's stockholder, creditors, and regulators, is free of material errors. As the preceding risks are largely interrelated, so are the Company's actions to mitigate and manage them. The Company's Chief Administrative Officer is responsible for, among other things, oversight of global operations and technology. Essential elements in mitigating the risks noted above are the optimization of information technology and the ability to manage and implement change. To be an effective competitor in an information-driven business of a global nature requires the development of global systems and databases that ensure increased and more timely access to reliable data. ENVIRONMENTAL RISK The Company may be subject to environmental risk from two primary sources: discontinued commodities processing and oil refining operations, and existing energy-related transportation activities. The Company may be subject to remedial liability as a result of commodities-related industrial operations, which were discontinued in or prior to 1984. Such liability arises under the Comprehensive Environmental Response, Compensation and Liability Act of 1980, as amended ("CERCLA" or "Superfund"), which provides that potentially responsible parties ("PRPs") may be held jointly and severally liable for the entire cost of site clean-up. The Company may also be subject to liability under state or other U.S. environmental laws. Management believes, based upon currently known facts and established reserves, that the ultimate disposition of these matters will not have a material adverse effect on the Company's financial condition. 37 SALOMON SMITH BARNEY HOLDINGS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING STATEMENTS Certain of the statements contained herein that are not historical facts are forward-looking statements within the meaning of the Private Securities Litigation Reform Act. The Company's actual results may differ materially from those included in the forward-looking statements. Forward-looking statements are typically identified by the words "believe," "expect," "anticipate," "intend," "estimate," and similar expressions. These forward-looking statements involve risks and uncertainties including, but not limited to, the following: weakening global economic conditions, including the performance of global financial markets, and risks associated with fluctuating currency values and interest rates; competitive, regulatory or tax changes that affect the cost of or the demand for the Company's products; the impact of the implementation of new accounting rules; the resolution of legal proceedings and environmental matters; and the ability of the Company generally to achieve anticipated levels of operational efficiencies related to recent mergers and acquisitions, as well as achieving its other cost-savings initiatives. Readers are also directed to other risks and uncertainties discussed in documents filed by the Company with the Securities and Exchange Commission. 38 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. See Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" above. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. See Index to Consolidated Financial Statements and Schedules on page F-1 hereof. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. See the information contained in the Company's Form 8-K filed on March 29, 2001. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. Pursuant to General Instruction I of Form 10-K, the information required by Item 10 is omitted. ITEM 11. EXECUTIVE COMPENSATION. Pursuant to General Instruction I of Form 10-K, the information required by Item 11 is omitted. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. Pursuant to General Instruction I of Form 10-K, the information required by Item 12 is omitted. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. Pursuant to General Instruction I of Form 10-K, the information required by Item 13 is omitted. 39 PART IV Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K. (a) Documents filed as a part of the report: (1) Financial Statements. See Index to Consolidated Financial Statements and Schedules on page F-1 hereof. (2) Financial Statement Schedules. See Index to Consolidated Financial Statements and Schedules on page F-1 hereof. (3) Exhibits: See Exhibit Index. (b) Reports on Form 8-K: On October 18, 2001, the Company filed a Current Report on Form 8-K, dated October 17, 2001, reporting under Item 5 thereof the results of its operations for the three- and nine-month periods ended September 30, 2001 and 2000. No other reports on Form 8-K were filed during the fourth quarter of 2001; however, on January 18, 2002, the Company filed a Current Report on Form 8-K, dated January 17, 2002, reporting under Item 5 thereof the results of 2001 and 2000; on January 23, 2002, the Company filed a Current Report on Form 8-K, dated January 17, 2002, filing certain exhibits under Item 7 thereof relating to the offer and sale of its Equity Linked Securities (ELKS) based on the common stock of Cisco Systems, Inc. due January 24, 2003; and on March 19, 2002, the Company filed a Current Report on Form 8-K, dated March 14, 2002, filing certain exhibits under Item 7 thereof relating to the offer and sale of its Equity Linked Securities (ELKS) based on the common stock of Motorola, Inc. due March 20, 2003. 40 EXHIBIT INDEX
EXHIBIT NUMBER DESCRIPTION OF EXHIBIT - ------ ---------------------- 3.01 Restated Certificate of Incorporation of Salomon Smith Barney Holdings Inc. (the "Company"), effective July 1, 1999, incorporated by reference to Exhibit 3.2 to Post-Effective Amendment No. 1 to the Company's Registration Statement on Form S-3 (No. 333-38931). 3.02 By-Laws of the Company, incorporated by reference to Exhibit 3.3 to Post-Effective Amendment No. 1 to the Company's Registration Statement on Form S-3 (No. 333-38931). 10.01 Amended and Restated Lease dated as of March 27, 1998 between State Street Bank and Trust Company of Connecticut, National Association, as Trustee (Lessor), and Smith Barney Inc., Salomon Brothers Inc, Travelers Group Inc., Mutual Management Corp., Smith Barney Capital Services Inc., Smith Barney Commercial Corp., Smith Barney Futures Management Inc. and Smith Barney Global Capital Management, Inc., as tenants in common (Lessee) , incorporated by reference to Exhibit 10.01 to the Company's Annual Report on Form 10-K, as amended, for the fiscal year ended December 31, 1998 (File No. 1-4346). 12.01+ Computation of ratio of earnings to fixed charges. 21.01 Pursuant to General Instruction I of Form 10-K, the list of subsidiaries of the Company is omitted. 23.01+ Consent of KPMG LLP. 23.02+ Consent of PricewaterhouseCoopers LLP.
- ---------- + Filed herewith. The total amount of securities authorized pursuant to any instrument defining rights of holders of long-term debt of the Company does not exceed 10% of the total assets of the Company and its consolidated subsidiaries. The Company will furnish copies of any such instrument to the SEC upon request. Copies of any of the exhibits referred to above will be furnished at a cost of $.25 per page to security holders who make written request therefor to Salomon Smith Barney Holdings Inc., 388 Greenwich Street, New York, New York 10013, Attention: Corporate Secretary. 41 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, on the 20th day of March, 2002. SALOMON SMITH BARNEY HOLDINGS INC. (Registrant) By: /s/ Michael A. Carpenter _____________________________________ Michael A. Carpenter, Chairman and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the registrant and in the capacities indicated on the 20th day of March, 2002. SIGNATURE TITLE /s/ Michael A. Carpenter ________________________________ Chairman, Chief Executive Officer Michael A. Carpenter (Principal Executive Officer) and Director /s/ Barbara A. Yastine ________________________________ Chief Financial Officer (Principal Barbara A. Yastine Financial Officer) /s/ Michael J. Day ________________________________ Controller (Principal Accounting Michael J. Day Officer) /s/ Deryck C. Maughan ________________________________ Director Deryck C. Maughan 42 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULES
PAGE ---- REPORTS OF INDEPENDENT AUDITORS F-2 - F-3 CONSOLIDATED FINANCIAL STATEMENTS Consolidated Statements of Income for the years ended December 31, 2001, 2000 and 1999 F-4 Consolidated Statements of Financial Condition as of December 31, 2001 and 2000 F-5 Consolidated Statements of Changes in Stockholder's Equity for the years ended December 31, 2001, 2000 and 1999 F-7 Consolidated Statements of Cash Flows for the years ended December 31, 2001, 2000 and 1999 F-8 Notes to Consolidated Financial Statements F-9
QUARTERLY FINANCIAL DATA (UNAUDITED) F-1 INDEPENDENT AUDITORS' REPORT The Board of Directors and Stockholder of Salomon Smith Barney Holdings Inc. and Subsidiaries: We have audited the accompanying consolidated statement of financial condition of Salomon Smith Barney Holdings Inc. and Subsidiaries as of December 31, 2001, and the related consolidated statements of income, changes in stockholder's equity, and cash flows for the year then ended. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audit. The consolidated statements of financial condition of Salomon Smith Barney Holdings Inc. and Subsidiaries as of December 31, 2000, and the related consolidated statements of income, changes in stockholder's equity, and cash flows for each of the years in the two-year period ended December 31, 2000, were audited by other auditors whose report dated January 16, 2001, expressed an unqualified opinion on those statements. We conducted our audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the 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 audit provides 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 Salomon Smith Barney Holdings Inc. and Subsidiaries as of December 31, 2001, and the results of their operations and their cash flows for the year then ended, in conformity with accounting principles generally accepted in the United States of America. As discussed in Note 1 of Notes to Consolidated Financial Statements, in 2001 the Company changed its method of accounting for derivative instruments and hedging activities. (signed) KPMG LLP New York, New York January 17, 2002 F-2 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Stockholder of Salomon Smith Barney Holdings Inc. and Subsidiaries: In our opinion, the accompanying consolidated statement of financial condition as of December 31, 2000 and the related consolidated statements of income, changes in stockholder's equity and cash flows for each of the two years in the period ended December 31, 2000 present fairly, in all material respects, the financial position, results of operations and cash flows of Salomon Smith Barney Holdings Inc. and Subsidiaries at December 31, 2000 and for each of the two years in the period ended December 31, 2000, in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. We have not audited the consolidated financial statements of Salomon Smith Barney Holdings Inc. and Subsidiaries for any period subsequent to December 31, 2000. (signed) PricewaterhouseCoopers LLP New York, New York January 16, 2001 F-3 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME
- ------------------------------------------------------------------------------------- Dollars in millions Year Ended December 31, 2001 2000 1999 - ------------------------------------------------------------------------------------- Revenues: Investment banking $ 3,914 $ 3,592 $ 3,012 Commissions 3,619 4,375 3,642 Asset management and administration fees 3,278 3,322 2,650 Principal transactions 1,783 2,706 2,562 Other 543 517 297 - ------------------------------------------------------------------------------------- Total noninterest revenues 13,137 14,512 12,163 - ------------------------------------------------------------------------------------- Interest and dividends 14,237 16,260 11,275 Interest expense 11,987 14,530 9,681 - ------------------------------------------------------------------------------------- Net interest and dividends 2,250 1,730 1,594 - ------------------------------------------------------------------------------------- Revenues, net of interest expense 15,387 16,242 13,757 - ------------------------------------------------------------------------------------- Noninterest expenses: Compensation and benefits 8,140 8,193 6,847 Floor brokerage and other production 697 645 465 Communications 668 648 504 Occupancy and equipment 604 568 447 Advertising and market development 360 477 339 Professional services 302 332 259 Other operating and administrative expenses 379 633 643 Restructuring charge (credit), net 117 4 (243) - ------------------------------------------------------------------------------------- Total noninterest expenses 11,267 11,500 9,261 - ------------------------------------------------------------------------------------- Income before income taxes and cumulative effect of change in accounting principle 4,120 4,742 4,496 Provision for income taxes 1,492 1,710 1,669 - ------------------------------------------------------------------------------------- Income before cumulative effect of change in accounting principle 2,628 3,032 2,827 Cumulative effect of change in accounting principle (net of tax benefit of $1 and $12, respectively) (1) -- (15) - ------------------------------------------------------------------------------------- Net income $ 2,627 $ 3,032 $ 2,812 =====================================================================================
The accompanying notes are an integral part of these consolidated financial statements. F-4 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
- -------------------------------------------------------------------------------------------------------------------------- Dollars in millions December 31, 2001 2000 - -------------------------------------------------------------------------------------------------------------------------- Assets: Cash and cash equivalents $ 3,018 $ 2,623 Cash segregated and on deposit for Federal and other regulations or deposited with clearing organizations 5,327 2,698 Collateralized short-term financing agreements: Securities purchased under agreements to resell $ 94,204 $ 66,446 Deposits paid for securities borrowed 45,337 36,790 -------- -------- 139,541 103,236 Financial instruments owned and contractual commitments: (Approximately $34 billion and $29 billion were pledged to various parties at December 31, 2001 and 2000, respectively) U.S. government and government agency securities 45,813 30,219 Corporate debt securities 13,463 13,035 Equity securities 10,987 10,361 Contractual commitments 9,333 11,970 Non-U.S. government and government agency securities 8,084 9,827 Mortgage loans and collateralized mortgage securities 6,868 6,021 Money market instruments 4,663 7,203 Other financial instruments 5,157 3,123 -------- -------- 104,368 91,759 Receivables: Customers 19,353 22,793 Brokers, dealers and clearing organizations 15,441 2,542 Other 2,793 2,759 -------- -------- 37,587 28,094 Property, equipment and leasehold improvements, net of accumulated depreciation and amortization of $959 and $948, respectively 1,204 1,302 Other assets 9,807 7,819 - -------------------------------------------------------------------------------------------------------------------------- Total assets $300,852 $237,531 ==========================================================================================================================
The accompanying notes are an integral part of these consolidated financial statements. F-5 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
- --------------------------------------------------------------------------------------------------------------------- Dollars in millions, except share data December 31, 2001 2000 - --------------------------------------------------------------------------------------------------------------------- Liabilities and Stockholder's Equity: Commercial paper and other short-term borrowings $ 15,877 $ 19,191 Collateralized short-term financing agreements: Securities sold under agreements to repurchase $ 126,118 $ 88,938 Deposits received for securities loaned 13,050 13,973 --------- -------- 139,168 102,911 Financial instruments sold, not yet purchased, and contractual commitments: U.S. government and government agency securities 20,024 19,710 Non-U.S. government and government agency securities 14,970 13,147 Contractual commitments 9,542 11,917 Corporate debt securities and other 6,034 6,541 Equity securities 5,670 3,993 --------- -------- 56,240 55,308 Payables and accrued liabilities: Customers 20,463 14,960 Brokers, dealers and clearing organizations 13,382 2,313 Other 16,405 10,734 --------- -------- 50,250 28,007 Term debt 27,219 20,330 Company-obligated mandatorily redeemable securities of subsidiary trusts holding solely junior subordinated debt securities of the Company 400 745 Stockholder's equity: Common stock (par value $.01 per share 1,000 shares authorized; 1,000 shares issued and outstanding) -- -- Additional paid-in capital 2,479 1,854 Retained earnings 9,224 9,183 Accumulated changes in equity from nonowner sources (5) 2 --------- -------- Total stockholder's equity 11,698 11,039 - --------------------------------------------------------------------------------------------------------------------- Total liabilities and stockholder's equity $ 300,852 $237,531 =====================================================================================================================
The accompanying notes are an integral part of these consolidated financial statements. F-6 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER'S EQUITY
- ------------------------------------------------------------------------------------------------------------------------------ Accumulated Changes In Additional Equity From Total Common Paid-In Retained Nonowner Stockholder's Dollars in millions Stock Capital Earnings Sources Equity - ------------------------------------------------------------------------------------------------------------------------------ Balance at December 31, 1998 $ -- $ 1,589 $ 7,159 $ 20 $ 8,768 Net income 2,812 2,812 Common dividends (2,285) (2,285) Other capital transactions 37 37 Net change in cumulative translation adjustments (6) (6) - ------------------------------------------------------------------------------------------------------------------------------ Balance at December 31, 1999 -- 1,626 7,686 14 9,326 Net income 3,032 3,032 Common dividends (1,535) (1,535) Other capital transactions 228 228 Net change in cumulative translation adjustments (12) (12) - ------------------------------------------------------------------------------------------------------------------------------ Balance at December 31, 2000 -- 1,854 9,183 2 11,039 Net income 2,627 2,627 Common dividends (2,586) (2,586) Other capital transactions 625 625 Net change in cumulative translation adjustments (7) (7) - ------------------------------------------------------------------------------------------------------------------------------ Balance at December 31, 2001 $ -- $ 2,479 $ 9,224 $ (5) $ 11,698 ==============================================================================================================================
The accompanying notes are an integral part of these consolidated financial statements. F-7 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS
- --------------------------------------------------------------------------------------------------------------- Dollars in millions Year Ended December 31, 2001 2000 1999 - --------------------------------------------------------------------------------------------------------------- Cash flows from operating activities: Net income $ 2,627 $ 3,032 $ 2,812 Deferred income tax provision/(benefit) (31) 415 7 Depreciation and amortization 522 472 372 - --------------------------------------------------------------------------------------------------------------- Net income adjusted for noncash items 3,118 3,919 3,191 - --------------------------------------------------------------------------------------------------------------- (Increase) decrease in operating assets - Cash segregated and on deposit for Federal and other regulations or deposited with clearing organizations (2,629) (277) (63) Collateralized short-term financing agreements (36,305) 9,040 (22,034) Financial instruments owned and contractual commitments (12,609) (14,847) 9,969 Receivables (9,493) 5,136 (1,662) Other assets (2,064) (1,586) (851) - --------------------------------------------------------------------------------------------------------------- Increase in operating assets (63,100) (2,534) (14,641) - --------------------------------------------------------------------------------------------------------------- Increase (decrease) in operating liabilities - Collateralized short-term financing agreements 36,257 14,751 17,344 Financial instruments sold, not yet purchased, and contractual commitments 932 (8,547) (3,330) Payables and accrued liabilities 22,318 (5,198) (1,958) - --------------------------------------------------------------------------------------------------------------- Increase in operating liabilities 59,507 1,006 12,056 - --------------------------------------------------------------------------------------------------------------- Cash provided by (used in) operating activities (475) 2,391 606 - --------------------------------------------------------------------------------------------------------------- Cash flows from financing activities: Net increase (decrease) in commercial paper and other short-term borrowings (3,314) 489 2,332 Proceeds from issuance of term debt 13,139 7,358 3,981 Term debt maturities and repurchases (5,697) (5,257) (5,072) Dividends paid (2,660) (1,202) (2,285) Repayment of mandatorily redeemable securities of subsidiary trusts (345) -- -- Other capital transactions 203 89 37 - --------------------------------------------------------------------------------------------------------------- Cash provided by (used in) financing activities 1,326 1,477 (1,007) - --------------------------------------------------------------------------------------------------------------- Cash flows from investing activities: Purchases of subsidiaries and affiliates (198) (2,250) -- Property, equipment and leasehold improvements, net (258) (619) (236) - --------------------------------------------------------------------------------------------------------------- Cash used in investing activities (456) (2,869) (236) - --------------------------------------------------------------------------------------------------------------- Increase (decrease) in cash and cash equivalents 395 999 (637) Cash and cash equivalents at beginning of year 2,623 1,624 2,261 - --------------------------------------------------------------------------------------------------------------- Cash and cash equivalents at end of year $ 3,018 $ 2,623 $ 1,624 ===============================================================================================================
Interest paid did not differ materially from the amount of interest expense recorded for financial statement purposes in 2001, 2000 and 1999. The accompanying notes are an integral part of these consolidated financial statements. F-8 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES BASIS OF PRESENTATION The consolidated financial statements reflect the accounts of Salomon Smith Barney Holdings Inc. ("SSBH" and, collectively, with its subsidiaries, the "Company"), a New York corporation (the successor to Salomon Smith Barney Holdings Inc., a Delaware corporation). The Company is a direct wholly owned subsidiary of Citigroup Inc. ("Citigroup"). The Company provides investment banking, asset management, brokerage, securities trading, advisory and other financial services to customers, and engages in proprietary trading activities for its own account. The consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America, which require the use of management's best judgment and estimates. Estimates, including the fair value of financial instruments and contractual commitments, the outcome of litigation, realization of deferred tax assets and other matters that affect the reported amounts and disclosures of contingencies in the consolidated financial statements, may vary from actual results. Material intercompany transactions have been eliminated in consolidation. Long-term investments in operating joint ventures and affiliated (20% to 50% owned) companies are carried on the equity method of accounting and are included in "Other assets." The Company's equity in the earnings of joint ventures and affiliates is reported in "Other" revenues. Assets and liabilities denominated in non-U.S. dollar currencies are translated into U.S. dollar equivalents using year-end spot foreign exchange rates. Revenues and expenses denominated in non-U.S. dollar currencies are translated monthly at amounts that approximate weighted average exchange rates, with resulting gains and losses included in income. The effects of translating the statements of financial condition of non-U.S. subsidiaries with functional currencies other than the U.S. dollar are recorded, net of related hedge gains and losses and income taxes, as cumulative translation adjustments, a separate component of stockholder's equity. Hedges of such exposure include forward currency contracts and, to a lesser extent, designated issues of non-U.S. dollar term debt. On May 1, 2000, the Company completed the approximately $2.2 billion acquisition of the global investment banking business and related net assets of Schroders PLC, including all corporate finance, financial markets and securities activities. The combined European operations of the Company are now known as Schroder Salomon Smith Barney. F-9 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ACCOUNTING CHANGES The Company adopted Statement of Financial Accounting Standards ("SFAS") No. 133, Accounting for Derivative Instruments and Hedging Activities ("SFAS 133"), as amended, on January 1, 2001 and recorded a cumulative after-tax transition charge of $1 million. Under SFAS 133, an entity is required to recognize all freestanding and embedded derivative instruments at fair value in earnings unless the derivative instruments can be designated as hedges of certain exposures for which specific hedge accounting is prescribed. If certain conditions are met, a derivative instrument may be designated as a hedge of the fair value changes of a recognized asset, liability or an unrecognized firm commitment; or a hedge of the exposure to variable cash flows of a recognized asset, liability or a forecasted transaction; or a hedge of the foreign currency exposure of a recognized asset, liability, a net investment in a foreign operation, an unrecognized firm commitment or a forecasted transaction. If certain conditions are met, a non-derivative instrument may be designated as a fair value hedge of a foreign currency denominated unrecognized firm commitment or a hedge of the foreign currency exposure of a net investment in a foreign operation. For the twelve months ended December 31, 2001, hedge ineffectiveness resulting from designating interest rate swaps as fair value hedges of fixed rate term debt was reported in the consolidated statement of income in "Other revenue" and was not material. For the twelve months ended December 31, 2001, hedges of net investments in foreign operations were considered effective and the gain of $73 million that pertained to the designated hedging instruments was included in cumulative translation adjustments, a component of "Accumulated changes in equity from nonowner sources" in the consolidated statement of financial condition. The Company adopted SFAS No. 140, Accounting for the Transfers and Servicing of Financial Assets and Extinguishments of Liabilities, a replacement of Financial Accounting Standards Board ("FASB") Statement No. 125 ("SFAS 140"), as of December 31, 2000 for recognition and reclassification of collateral and for disclosures relating to securitization transactions and collateral. Other remaining provisions of SFAS 140 that affect transfers and servicing of financial assets and extinguishments of liabilities were adopted on April 1, 2001. Adoption of SFAS 140 did not result in a material impact on the Company's financial statements. During 1999, the Company recorded the cumulative effect of change in accounting principle of $15 million (net of tax benefit of $12 million) which relates to the write-off of certain capitalized closed-end fund distribution costs in connection with the adoption of AICPA Statement of Position 98-5, Reporting on the Cost of Start-Up Activities. F-10 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ACCOUNTING POLICIES CASH AND CASH EQUIVALENTS The Company defines "Cash and cash equivalents" as highly liquid investments with original maturities of three months or less at the time of purchase, other than investments held for sale in the ordinary course of business. COLLATERALIZED SHORT-TERM FINANCING AGREEMENTS Securities purchased under agreements to resell ("reverse repurchase agreements") and securities sold under agreements to repurchase ("repurchase agreements") are collateralized principally by government and government agency securities and generally have terms ranging from overnight to up to one year and are carried at their contractual amounts, including accrued interest as specified in the respective agreements. It is the Company's policy to take possession of the underlying collateral, monitor its market value relative to the amounts due under the agreements, and, when necessary, require prompt transfer of additional collateral or reduction in the loan balance in order to maintain contractual margin protection. In the event of counterparty default, the financing agreement provides the Company with the right to liquidate the collateral held. Reverse repurchase and repurchase agreements are reported net by counterparty, when applicable, pursuant to the provisions of FASB Interpretation 41, Offsetting of Amounts Related to Certain Repurchase and Reverse Repurchase Agreements ("FIN 41"). Excluding the impact of FIN 41, reverse repurchase agreements totaled $145.6 billion and $115.5 billion at December 31, 2001 and 2000, respectively. Deposits paid for securities borrowed ("securities borrowed") and deposits received for securities loaned ("securities loaned") are recorded at the amount of cash advanced or received and are collateralized principally by government and government agency securities, corporate debt and equity securities. The Company monitors the market value of securities borrowed and securities loaned daily, and additional collateral is obtained as necessary. FINANCIAL INSTRUMENTS AND CONTRACTUAL COMMITMENTS Financial instruments and contractual commitments (also referred to as "derivatives" or "derivative instruments"), including derivatives used for trading purposes, are recorded at either market value or, when market prices are not readily available, fair value, which is determined under an alternative approach, such as matrix or model pricing. The determination of market or fair value considers various factors, including: closing exchange or over-the-counter ("OTC") market price quotations; time value and volatility factors underlying options, warrants and contractual commitments; price activity for equivalent or synthetic instruments in markets located in different time zones; counterparty credit quality; and the potential impact on market prices or fair value of liquidating the Company's positions in an orderly manner over a reasonable period of time under current market conditions. Financial instruments and contractual commitments include related accrued interest or dividends. The majority of the Company's financial instruments and contractual commitments are recorded on a trade date basis. Recording the remaining instruments on a trade date basis would not materially affect the consolidated financial statements. Customer securities transactions are recorded on a settlement date basis with the related revenue and expense recorded on F-11 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS trade date. Commissions, underwriting, and principal transaction revenues and related expenses are recognized in income on a trade date basis. DERIVATIVE INSTRUMENTS Derivatives Used for Trading Purposes Derivatives used for trading purposes include interest rate, equity, currency and commodity swap agreements, swap options, caps and floors, options, warrants and financial and commodity futures and forward contracts. The fair values (unrealized gains and losses) associated with contractual commitments are reported net by counterparty, provided a legally enforceable master netting agreement exists, and are netted across products and against cash collateral when such provisions are stated in the master netting agreement. Contractual commitments in a net receivable position, as well as options owned and warrants held, are reported as assets in "Contractual commitments." Similarly, contractual commitments in a net payable position, as well as options written and warrants issued, are reported as liabilities in "Contractual commitments." Cash collateral received in connection with interest rate swaps totaled $4,086 million and $2,524 million at December 31, 2001 and 2000, respectively, and cash collateral paid totaled $5,313 million and $3,645 million, respectively. Revenues generated from derivative instruments used for trading purposes are reported as "Principal transactions" and include realized gains and losses as well as unrealized gains and losses resulting from changes in the market or fair value of such instruments. Margin on futures contracts is included in "Receivables - Brokers, dealers and clearing organizations" and "Payables and accrued liabilities - Brokers, dealers and clearing organizations." Derivatives Used for Non-Trading Purposes The Company uses interest rate swaps to effectively convert the majority of its fixed rate term debt to variable rate term debt. Certain interest rate swap transactions have been designated as fair value hedges under SFAS 133. Where such designations have been made, the changes of the fair value of the swaps and the gain or loss on the hedged term debt are recorded currently in income. To the extent that these two amounts do not offset, hedge ineffectiveness is therefore deemed to result and is recognized in income. The Company monitors the effectiveness of interest swaps designated as hedges on a daily basis. Upon early termination of a designated hedging relationship, hedge accounting will cease. Derivatives previously designated are then marked to market in earnings with no offset of fair value changes from the hedged debt. See Notes 8 and 16 to the consolidated financial statements for a further discussion of the use of interest rate swaps for non-trading purposes. The Company also designates forward currency contracts and non-U.S. dollar term debt issued by the Company as hedges of net investments in certain subsidiaries with functional currencies other than the U.S. dollar. To the extent that the hedge is effective, the impact of marking the forward contracts to prevailing forward rates and the impact of revaluing non-U.S. dollar F-12 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS term debt to prevailing exchange rates, both net of the related tax effects, are included in cumulative translation adjustments to offset the impact of translating the investments being hedged. The Company monitors the effectiveness of forward currency contracts designated as hedges at least quarterly. See Note 8 to the consolidated financial statements for a further discussion of the use of forward currency contracts for non-trading purposes. Derivative instruments that do not meet the criteria to be designated as hedges are considered trading derivatives and are recorded at market or fair value. PROPERTY, EQUIPMENT AND LEASEHOLD IMPROVEMENTS Property, equipment and leasehold improvements are carried at cost less accumulated depreciation and amortization. Depreciation and amortization are recorded substantially on a straight-line basis over the lesser of the estimated useful lives of the related assets or noncancelable lease terms, as appropriate. Maintenance and repairs are charged to occupancy expense as incurred. INTANGIBLE ASSETS The excess of purchase price over fair value of net assets acquired, which amounted to $1,400 million at December 31, 2001, was amortized during 2001 over periods ranging from 14 to 28 years. Additionally, the Company amortized other intangible assets, which are included in "Other assets," on a straight-line basis during 2001 over periods ranging from 3 to 13 years. (See New Accounting Pronouncements section for discussion of SFAS No. 141, Business Combinations ("SFAS 141") and SFAS No. 142, Goodwill and Other Intangible Assets ("SFAS 142"), which became effective January 1, 2002.) New Accounting Pronouncements In July 2001, FASB issued SFAS No. 141 and SFAS No. 142, which require that all business combinations initiated after June 30, 2001 be accounted for under the purchase method. Under the new rules, goodwill and intangible assets deemed to have indefinite lives will no longer be amortized, but will be subject to annual impairment tests. Other intangible assets will continue to be amortized over their useful lives. The nonamortization provisions of the new rules are effective for fiscal years beginning after December 15, 2001, and immediately for any purchase business combinations completed after June 30, 2001. Based on current levels of goodwill and an evaluation of the Company's intangible assets, which determined that certain intangible assets should be reclassified as goodwill and identified other intangible assets that have indefinite lives, the nonamortization provisions of the new standards will reduce other expense by approximately $151 million and increase net income by approximately $101 million in 2002. During 2002, the Company will perform the required impairment tests of goodwill and indefinite-lived intangible assets as of January 1, 2002. It is not expected that there will be a material effect on the consolidated financial statements as a result of these impairment tests. F-13 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets ("SFAS 144"). Under SFAS 144, accounting models are prescribed to measure impairment for long-lived assets to be disposed of by sale and for long-lived assets to be held and used until disposal. Additionally, the presentation of discontinued operations includes more types of disposal transactions. As a result, similar events and circumstances will be accounted for in the same way. However, accrual of future operating losses classified as discontinued will no longer be permitted. The Company adopted SFAS 144 on January 1, 2002 and does not expect it to have a material impact on the Company's consolidated financial statements. NOTE 2. EVENTS OF SEPTEMBER 11 As a result of the September 11 terrorist attack, the Company experienced a disruption in business, as well as significant property loss. The Company and its Parent, Citigroup, are insured against certain of these losses. The Company has recorded insurance recoveries only up to the net book value of the assets written off. These items were recorded in the consolidated statement of income in "Other operating and administrative expenses." The Company recorded a receivable of $199 million relating to these insurance recoveries. Through December 31, 2001, the Company has received $82 million in insurance recoveries. The Company believes the entire balance of the receivable will be collected. Additional insurance recoveries will be booked when they are realized. NOTE 3. RESTRUCTURING CHARGE (CREDIT), NET During 2001, the Company recorded restructuring charges totaling $117 million ($70 million after tax) for severance and related costs associated with the reduction of staffing in certain businesses. These amounts apply to the involuntary termination of approximately 2,000 employees (90% located in the United States and 10% overseas) and are expected to be fully paid out by the end of 2002. The charges are net of a reversal of $18 million ($11 million after tax) which relates to the accrual in the first quarter of severance and other related costs associated with the reduction of staffing in certain businesses which were subsequently sold. These related costs will not be borne by the Company due to the sale which closed in the third quarter of 2001. At December 31, 2001, the remaining restructuring reserve balance of $18 million is included in the consolidated statement of financial condition in "Payables and accrued liabilities-other". In the fourth quarter of 2000, the Company booked a restructuring charge of $4 million ($2 million after tax). This primarily related to severance issues resulting from the consolidation and discontinuance of certain asset management businesses and is expected to be fully charged off in 2002. At December 31, 2001, the restructuring reserve balance of $1 million is included in the consolidated statements of financial condition in "Payables and accrued liabilities - Other." During 1999, the Company recorded an adjustment of $214 million ($126 million after tax) to the restructuring charge related to the November 1997 merger of Salomon Inc and Smith Barney Holdings Inc. The adjustment related primarily to F-14 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS the Seven World Trade Center lease due to the October 1998 merger of Travelers Group Inc. and Citicorp. At December 31, 1999, this reserve had been fully charged off. During 1999, the Company recorded an adjustment of $30 million ($16 million after tax) to the restructuring reserve which was recorded in 1998 and related to the merger of Travelers Group Inc. and Citicorp. This adjustment related primarily to severance issues. At December 31, 1999, this reserve had been fully charged off. NOTE 4. COMPREHENSIVE INCOME Comprehensive income represents the sum of net income and other changes in stockholder's equity from nonowner sources which, for the Company, are comprised of cumulative translation adjustments, net of tax:
- -------------------------------------------------------------------------------- Dollars in Millions Year Ended December 31, 2001 2000 1999 - -------------------------------------------------------------------------------- Net income $ 2,627 $ 3,032 $ 2,812 Other changes in equity from non-owner sources (7) (12) (6) ================================================================================ Total comprehensive income $ 2,620 $ 3,020 $ 2,806 ================================================================================
NOTE 5. PRINCIPAL TRANSACTIONS REVENUES The following table presents principal transactions revenues by business activity for the years ended December 31, 2001, 2000 and 1999:
- -------------------------------------------------------------------------------- Dollars in millions Year Ended December 31, 2001 2000 1999 - -------------------------------------------------------------------------------- Fixed income $1,008 $1,208 $1,378 Equities 700 1,243 954 Commodities 39 224 192 Other 36 31 38 - -------------------------------------------------------------------------------- Total principal transactions revenues $1,783 $2,706 $2,562 ================================================================================
FIXED INCOME Fixed income revenues include realized and unrealized gains and losses arising from the proprietary and customer trading of government and government agency securities, investment and non-investment grade corporate debt, municipal securities, preferred stock, mortgage securities (primarily U.S. government agencies, including interest only and principal only strips), and emerging market fixed income securities and derivatives. Revenues also include realized and unrealized gains and losses generated from a variety of fixed income securities utilized in arbitrage strategies for the Company's own account, and realized and unrealized gains and losses arising from the spot and forward trading of currencies and exchange-traded and OTC currency options. In 1999, the Company restructured and significantly decreased the risk profile of the global fixed income arbitrage groups because of lessening profit opportunities and growing risk and F-15 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS volatility. Realized and unrealized gains and losses resulting from changes in the market or fair value of options on fixed income securities, interest rate swaps, currency swaps, swap options, caps and floors, financial futures, options and forward contracts on fixed income securities are reflected as fixed income revenue. EQUITIES Revenues from equities consist of realized and unrealized gains and losses arising from proprietary and customer trading of U.S. and non-U.S. equity securities, including common and convertible preferred stock, convertible corporate debt, equity-linked notes, equity swaps and exchange-traded and OTC equity options and warrants. Revenues also include realized and unrealized gains and losses on equity securities and related derivatives utilized in arbitrage strategies for the Company's own account. COMMODITIES The Company, primarily through its wholly owned subsidiary Phibro Inc. and its wholly owned subsidiaries (collectively, "Phibro"), conducts a commodities trading and dealer business. Commodities traded include crude oil, refined oil products, natural gas, metals and other commodities. Commodity revenues consist of realized and unrealized gains and losses from trading these commodities and related derivative instruments. NOTE 6. SEGMENT INFORMATION The Company's reportable segments include investment services and asset management. The investment services segment includes investment banking and trading, and retail brokerage as well as related derivative and commodity trading. The Company's global investment banking services encompass a full range of capital market activities, including the underwriting and distribution of debt and equity securities for United States and foreign corporations and for state, local and other governmental and government sponsored authorities. Investment services executes securities and commodities futures brokerage transactions on all major exchanges on behalf of its customers and its own account. Investment services engages in principal transactions in fixed income securities and is a major participant in the OTC market for various derivative instruments. The segment earns commissions as a broker for its clients in the purchase and sale of securities. Investment services also generates revenue from fees received from the internal management of client assets by financial consultants, as well as client assets managed externally through the segment's Consulting Group. The asset management segment provides discretionary and non-discretionary asset management services to a wide array of mutual funds and institutional and individual investors, with respect to domestic and foreign equity and debt securities, municipal bonds, money market instruments and related options and futures contracts. The segment receives ongoing fees, generally determined as a percentage of the client's assets, from asset management clients. F-16 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Segment data presented includes the allocation of all corporate overhead to each segment. Intersegment revenue and expense are eliminated between segments. Information concerning operations in the Company's segments of business is as follows:
- -------------------------------------------------------------------------------- Year ended December 31, Dollars in millions 2001 2000 1999 - -------------------------------------------------------------------------------- Noninterest revenues: Investment Services $ 11,836 $ 13,281 $ 11,037 Asset Management 1,301 1,231 1,126 - -------------------------------------------------------------------------------- Total 13,137 $ 14,512 $ 12,163 ================================================================================ Net interest and dividends: Investment Services $ 2,256 $ 1,739 $ 1,610 Asset Management (6) (9) (16) - -------------------------------------------------------------------------------- Total 2,250 1,730 $ 1,594 ================================================================================ Income before cumulative effect of change in accounting principle: Investment Services $ 2,278 $ 2,688 $ 2,491 Asset Management 350 344 336 - -------------------------------------------------------------------------------- Total 2,628 $ 3,032 $ 2,827 ================================================================================ Year-end total assets: Investment Services $299,213 $236,009 $219,420 Asset Management 1,639 1,522 1,461 - -------------------------------------------------------------------------------- Total $300,852 $237,531 $220,881 ================================================================================
F-17 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The following table summarizes the Company's operations by geographic areas which are determined principally by the respective legal jurisdictions of SSBH's subsidiaries. Substantially all amounts for the asset management segment are included in North America. For purposes of this disclosure, North America consists of the United States and Canada; Europe primarily consists of the United Kingdom and Germany; and Asia and other primarily consists of Japan, Hong Kong and Australia. Because of the global nature of the markets in which the Company competes and the integration of the Company's worldwide business activities, the Company believes that amounts determined in this manner are not particularly useful in understanding its business.
Income Before Income Revenues Taxes and Cumulative Before Interest Effect of Change in Dollars in millions Expense Accounting Principle Total Assets - ----------------------------------------------------------------------------------------- Year Ended December 31, 2001 North America $22,701 $3,834 $243,839 Europe 4,221 196 54,061 Asia and other 452 90 2,952 - ----------------------------------------------------------------------------------------- Consolidated $27,374 $4,120 $300,852 ========================================================================================= Year Ended December 31, 2000 North America $26,050 $4,266 $185,181 Europe 4,245 413 49,463 Asia and other 477 63 2,887 - ----------------------------------------------------------------------------------------- Consolidated $30,772 $4,742 $237,531 ========================================================================================= Year Ended December 31, 1999 North America $20,006 $4,074 $174,323 Europe 2,945 344 42,871 Asia and other 487 78 3,687 - ----------------------------------------------------------------------------------------- Consolidated $23,438 $4,496 $220,881 =========================================================================================
F-18 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 7. COMMERCIAL PAPER AND OTHER SHORT-TERM BORROWINGS Information regarding the Company's short-term borrowings used to finance operations, including the securities settlement process, is presented below. Average balances were computed based on month-end outstanding balances.
- -------------------------------------------------------------------------------- Dollars in millions Year Ended December 31, 2001 2000 - -------------------------------------------------------------------------------- Bank borrowings: Balance at year-end $ 1,524 $ 1,275 Weighted average interest rate 3.4% 5.2% Annual averages-- Amount outstanding $ 1,491 $ 1,123 Weighted average interest rate 4.2% 4.7% Maximum amount outstanding at any month-end $ 2,252 $ 1,675 - -------------------------------------------------------------------------------- Commercial paper: Balance at year-end $13,858 $16,705 Weighted average interest rate 1.9% 6.6% Annual averages-- Amount outstanding $13,019 $16,186 Weighted average interest rate 3.9% 6.4% Maximum amount outstanding at any month-end $17,266 $18,999 - -------------------------------------------------------------------------------- Other short-term borrowings: Balance at year-end $ 495 $ 1,211 Weighted average interest rate 5.6% 5.9% Annual averages-- Amount outstanding $ 1,321 $ 928 Weighted average interest rate 4.1% 5.5% Maximum amount outstanding at any month-end $ 3,211 $ 1,266 ================================================================================ Total commercial paper and other short term borrowings $15,877 $19,191 ================================================================================
Outstanding bank borrowings include both U.S. dollar and non-U.S. dollar denominated loans. The non-U.S. dollar loans are denominated in various currencies including Japanese yen, German mark, and U.K. sterling. All of the Company's commercial paper outstanding at December 31, 2001 and 2000 were U.S. dollar denominated. Also included in short-term borrowings are deposit liabilities and other short-term obligations. The Company has a $5.0 billion 364-day committed uncollateralized revolving line of credit with unaffiliated banks that terminates in May 2002. Any borrowings under this facility would mature in May 2004. The Company may borrow under its revolving credit facility at various interest rate options (LIBOR or base rate) and compensates the banks for the facility through facility fees. Under this facility, the Company is required to maintain a certain level of consolidated adjusted net worth (as defined in the agreement). At December 31, 2001, this requirement was exceeded by $4.3 billion. At December 31, 2001, there were no outstanding borrowings under this facility. In addition, the Company also has substantial borrowing F-19 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS arrangements consisting of facilities that the Company has been advised are available, but where no contractual lending obligation exists. NOTE 8. TERM DEBT Term debt consists of issues with original maturities in excess of one year. Certain issues are redeemable, in whole or in part, at par or at premiums prior to maturity.
- ------------------------------------------------------------------------------------------------------------------------ Fixed Rate Obligations Fixed Rate Total Fixed Swapped to Obligations Rate Variable Rate Total Total Dollars in millions Variable Not Swapped Obligations Obligations * Dec. 31, 2001 Dec. 31, 2000 - -------------------------------------------------------------------------------------------------------------------------- U.S. dollar denominated: Salomon Smith Barney Holdings Inc. (SSBH) $ 8,907 $325 $ 9,232 $10,715 $19,947 $16,099 Subsidiaries -- -- -- 2,750 2,750 688 - -------------------------------------------------------------------------------------------------------------------------- U.S. dollar denominated 8,907 325 9,232 13,465 22,697 16,787 - -------------------------------------------------------------------------------------------------------------------------- Non-U.S. dollar denominated: Salomon Smith Barney Holdings Inc. (SSBH) 1,507 -- 1,507 2,513 4,020 2,864 Subsidiaries 435 10 445 57 502 679 - -------------------------------------------------------------------------------------------------------------------------- Non-U.S. dollar denominated 1,942 10 1,952 2,570 4,522 3,543 - -------------------------------------------------------------------------------------------------------------------------- Term debt $10,849 $335 $11,184 $16,035 $27,219 $20,330 ==========================================================================================================================
* Certain equity-linked and indexed instruments are included in variable rate obligations. The maturity structure of the Company's term debt was as follows at December 31, 2001:
- -------------------------------------------------------------------------------- Salomon Smith Barney Holdings Inc. Dollars in millions (SSBH) Subsidiaries Total - -------------------------------------------------------------------------------- 2002 $ 4,998 $ 75 $ 5,073 2003 8,013 229 8,242 2004 4,694 355 5,049 2005 2,123 117 2,240 2006 2,033 209 2,242 Thereafter 2,106 2,267 4,373 - -------------------------------------------------------------------------------- Total $23,967 $3,252 $27,219 ================================================================================
The Company issues U.S. dollar and non-U.S. dollar denominated fixed and variable rate term debt. The contractual interest rates on fixed rate debt ranged from .45% (Japanese yen denominated) to 9.13% (U.S. dollar denominated) at December 31, 2001 and .42% (Japanese yen denominated) to 9.50% (U.S. dollar denominated) at December 31, 2000. The weighted average contractual rate on total fixed rate term debt (both U.S. dollar denominated and non-U.S. dollar denominated) was 5.88% at December 31, 2001 and 6.42% at December 31, 2000. The Company utilizes interest rate swap agreements to F-20 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS convert most of its fixed rate term debt to variable rate obligations. The maturity structure of the swaps generally corresponds with the maturity structure of the debt being hedged. The Company's non-U.S. dollar fixed and variable rate term debt includes Euro, Japanese yen, U.K. sterling, French franc, German mark, Portuguese escudos, Brazilian real, and, consequently, bears a wide range of interest rates. At December 31, 2001, the Company had outstanding approximately $4.5 billion of non-U.S. dollar denominated term debt, which included $2.0 billion of Japanese yen denominated, $1.8 billion of EURO denominated, and $.4 billion of U.K. sterling denominated. Of the $4.5 billion, approximately $.5 billion of SSBH non-U.S. dollar denominated debt has been designated as a hedge of investments in subsidiaries with functional currencies other than the U.S. dollar. Another $1.7 billion of SSBH debt has been effectively converted to U.S. dollar denominated obligations using cross-currency swaps. The remaining $2.3 billion is used to finance other non-U.S. denominated assets. The following table summarizes the significant components of the Company's fixed rate term debt that is swapped to variable rate obligations at December 31, 2001 and 2000.
2001 2000 --------------------------------------------- ----------------------------------------------- Contractual Contractual Weighted Weighted Average Fixed Weighted Average Average Fixed Weighted Average Rate on Variable Rate on Rate on Variable Rate on Principal Swapped Fixed Swapped Term Principal Swapped Fixed Swapped Term (Dollars in millions) Balance Rate Term Debt Debt Balance Rate Term Debt Debt - ------------------------------------------------------------------------------------------------------------------------------ U.S. dollar denominated $8,907 6.4% 3.7% $6,595 6.8% 6.9% Japanese yen swapped to U.S. dollar denominated 615 3.0 1.9 139 3.2 7.1 Japanese yen denominated 611 1.0 .3 452 1.1 .7 Euro denominated 413 7.0 3.5 12 3.0 3.4 French francs swapped to U.S. dollar denominated 136 5.4 3.0 143 5.4 7.4 U.K. sterling denominated 113 7.8 5.0 112 7.8 6.7 - ------------------------------------------------------------------------------------------------------------------------------
The interest rates on variable rate term debt ranged from .14% (Japanese yen denominated) to 20.00% (Brazilian real denominated) at December 31, 2001 and .25% (U.S. dollar denominated ) to 10.97% (Italian lira denominated) at December 31, 2000. The weighted average contractual rates on total variable rate term debt (both U.S. dollar denominated and non-U.S. denominated) was 3.23% and 5.80% at December 31, 2001 and 2000, respectively. F-21 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The following table summarizes the significant components of the Company's variable rate term debt that is swapped at December 31, 2001 and 2000:
2001 2000 ---------------------------------------------- ----------------------------------------------- Contractual Contractual Weighted Weighted Average Rate on Weighted Average Rate on Weighted Swapped Average Variable Swapped Average Variable Principal Variable Rate Rate on Swapped Principal Variable Rate Rate on Swapped (Dollars in millions) Balance Term Debt Term Debt Balance Rate Term Debt Term Debt - ------------------------------------------------------------------------------------------------------------------------------- U.S. dollar denominated $2,033 4.7% 3.4% $2,553 4.9% 6.7% Japanese yen swapped to U.S. dollar denominated 293 .4 2.1 12 .2 6.7 U.K. sterling swapped to U.S. dollar denominated 185 4.7 2.7 186 6.5 7.1 U.K. sterling denominated 126 1.4 4.2 456 4.7 6.5 Euro swapped to U.S. dollar denominated 224 5.1 2.4 213 4.8 6.8 Italian lira swapped to U.S. dollar 117 2.4 2.3 157 2.1 6.9 German mark swapped to U.S. dollar denominated -- -- -- 144 5.6 7.3 - -------------------------------------------------------------------------------------------------------------------------------
Term debt includes subordinated debt, which totaled $124 million at December 31, 2001 and $167 million at December 31, 2000. At December 31, 2001 and 2000, subordinated debt included approximately $5 million of convertible restricted notes, convertible at the rate of $4.10 per share into 1,116,769 shares of Citigroup common stock. At December 31, 2001, the Company had outstanding $4.2 billion of term debt for which the principal repayment is linked to the performance of various indices (including industry baskets of stocks) or equity securities of unaffiliated issuers. The Company has a $5.0 billion 364-day committed uncollateralized revolving line of credit agreement with unaffiliated banks that terminates in May 2002. Any borrowings under this facility would mature in May 2004. The Company may borrow under its revolving credit facility at various interest rate options (LIBOR or base rate) and compensates the banks for the facility through facility fees. At December 31, 2001, there were no outstanding borrowings under this facility. Under this facility the Company is required to maintain a certain level of consolidated adjusted net worth (as defined in the agreement). At December 31, 2001, this requirement was exceeded by $4.3 billion. F-22 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 9. LEASE COMMITMENTS The Company has noncancelable leases covering office space and equipment expiring on various dates through 2016. Presented below is a schedule of minimum future rentals on noncancelable operating leases, net of subleases, as of December 31, 2001. Various leases contain provisions for lease renewals and escalation of rent based on increases in certain costs incurred by the lessors.
- -------------------------------------------------------------------------------- Dollars in millions - -------------------------------------------------------------------------------- 2002 $ 220 2003 197 2004 165 2005 136 2006 112 Thereafter 241 - -------------------------------------------------------------------------------- Minimum future rentals $1,071 ================================================================================
Rent expense under operating leases totaled $425 million, $367 million, and $291 million for the years ended December 31, 2001, 2000, and 1999, respectively. NOTE 10. MANDATORILY REDEEMABLE SECURITIES OF SUBSIDIARY TRUSTS SSBH formed two statutory business trusts under the laws of the state of Delaware that exist for the exclusive purposes of (i) issuing trust securities representing undivided beneficial interests in the assets of the Trust; (ii) investing the gross proceeds of the trust securities in subordinated debt securities of SSBH (in the case of SI Financing Trust I) and junior subordinated deferrable interest debt securities of SSBH (in the case of SSBH Capital I); and (iii) engaging in only those activities necessary or incidental thereto. These subordinated debt securities and the related income effects are eliminated in the consolidated financial statements. Distributions on the mandatorily redeemable securities of subsidiary trusts below have been classified as interest expense in the consolidated statement of income. F-23 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The following table summarizes the financial structure of SSBH's subsidiary trusts:
- -------------------------------------------------------------------------------- SI Financing SSBH Trust I Capital I ================================================================================ Trust Securities: Issuance date July 1996 January 1998 Securities issued 13,800,000 16,000,000 Liquidation preference per security $25 $25 Liquidation value (in millions) $345 $400 Coupon rate 9.25% 7.20% Distributions payable Quarterly Quarterly Distributions guaranteed by SSBH SSBH Common securities issued to SSBH 426,800 494,880 Subordinated Debt Securities: Amount owned (in millions) $356 $412 Coupon rate 9.25% 7.20% Interest payable Quarterly Quarterly Maturity date June 30, 2026 January 28, 2038 Redeemable by issuer on or after June 30, 2001 January 28, 2003 ================================================================================
SI Financing Trust was liquidated by the Company on June 30, 2001. NOTE 11. CAPITAL REQUIREMENTS Certain U.S. and non-U.S. subsidiaries are subject to various securities and commodities regulations and capital adequacy requirements promulgated by the regulatory and exchange authorities of the countries in which they operate. Capital requirements related to the Company's principal regulated subsidiaries are as follows:
Excess over Dollars in millions Net Capital minimum Subsidiary Jurisdiction or equivalent requirement - ----------------------------------------------------------------------------------------------------------------------------------- Salomon Smith Barney Inc. U.S. Securities and Exchange Commission Uniform Net Capital Rule (Rule 15c3-1) $3,474 $3,014 Salomon Brothers International Limited United Kingdom's Financial Services Authority $2,757 $ 768 - -----------------------------------------------------------------------------------------------------------------------------------
Advances, dividend payments and other equity withdrawals from regulated subsidiaries are restricted by the regulations of the U.S. Securities and Exchange Commission, the New York Stock Exchange and other regulatory agencies and by certain covenants contained in the Company's revolving credit facilities. See Notes 7 and 8 to the consolidated financial statements. These restrictions may limit the amounts that these subsidiaries pay as dividends or advances to the Company. In addition, in order to maintain its triple-A rating, Salomon Swapco Inc. ("Swapco"), an indirect wholly owned subsidiary of the Company, must maintain minimum levels of capital in accordance with agreements with its rating agencies. At December 31, 2001, Swapco was in compliance with all such agreements. Swapco's capital requirements are dynamic, varying with the size and concentration of its counterparty receivables. F-24 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 12. EMPLOYEE BENEFIT PLANS RETIREMENT PLANS The Company participates in defined benefit pension plans through Citigroup that cover certain U.S. and non-U.S. employees. These plans resulted in expenses of $42 million, $40 million, and $41 million in 2001, 2000, and 1999, respectively. The Company has defined contribution employee savings plans through Citigroup covering certain eligible employees. The costs relating to these plans were $7 million, $4 million, and $7 million in 2001, 2000, and 1999, respectively. HEALTH CARE AND LIFE INSURANCE The Company participates in various benefit plans through Citigroup which provide certain health care and life insurance benefits for its active employees, qualifying retired U.S. employees and certain non-U.S. employees who reach the retirement criteria specified by the various plans. At December 31, 2001, there were approximately 35,200 active and 1,800 retired employees eligible for such benefits. Expenses recorded for health care and life insurance benefits from continuing operations were $129 million, $100 million, and $123 million in 2001, 2000, and 1999, respectively. EMPLOYEE INCENTIVE PLANS STOCK OPTION PLANS The Company participates in a stock option plan sponsored by Citigroup that provides for the granting of stock options to purchase Citigroup common stock to officers and key employees. SFAS 123, Accounting for Stock-Based Compensation ("SFAS 123"), allows the fair value of stock-based compensation to be included in expense over the period earned; alternatively, if the fair value of stock-based compensation awards is not included in expense, SFAS 123 requires disclosure of net income, on a pro forma basis, as if expense treatment had been applied. As permitted by SFAS 123, the Company continues to account for such compensation under Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, pursuant to which no compensation cost has been recognized in connection with the issuance of stock options. Had the Company applied SFAS 123 in accounting for stock options, net income would have been reduced by $189 million, $194 million, and $114 million in 2001, 2000, and 1999, respectively. The following assumptions were used to calculate the effect of SFAS 123:
- -------------------------------------------------------------------------------- Assumptions 2001 2000 1999 - -------------------------------------------------------------------------------- Expected volatility 38.6% 40.8% 46.0% Risk-free interest rate 4.66% 6.19% 5.08% Expected annual dividends per share $0.92 $0.76 $0.63 Expected annual forfeiture rate 5% 5% 5% - --------------------------------------------------------------------------------
F-25 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS RESTRICTED STOCK PLANS The Company has various restricted stock plans through Citigroup, including the Capital Accumulation Plan, under which stock of Citigroup is issued in the form of restricted stock to participating officers and employees. The restricted stock generally vests after a two- or three-year period. Except under limited circumstances, during the vesting period the stock cannot be sold or transferred by the participant, who is required to render service during the vesting period. Certain participants may elect to receive part of their awards in restricted stock and part in stock options. Unearned compensation associated with the restricted stock grants is included in "Other assets" in the consolidated statement of financial condition and represents the market value of Citigroup common stock at the date of grant and is recognized as a charge to income ratably over the vesting period. These plans resulted in expenses of $873 million, $619 million, and $362 million for the years ended December 31, 2001, 2000, and 1999, respectively. NOTE 13. INCOME TAXES Under income tax allocation agreements with Citigroup, the Company's U.S. federal, state and local income taxes are provided on a separate return basis and are subject to the utilization of tax attributes in Citigroup's consolidated income tax provision. Under the tax sharing agreement with Citigroup, the Company remits its current tax liabilities to Citigroup throughout the year except for certain liabilities expected to be payable as a separate taxpayer. The components of income taxes reflected on the consolidated statements of income are:
Dollars in millions Year Ended December 31, 2001 2000 1999 - -------------------------------------------------------------------------------- Current tax provision: U.S. federal $1,108 $1,064 $1,302 State and local 265 129 192 Non-U.S 150 102 168 - -------------------------------------------------------------------------------- Total current tax provision 1,523 1,295 1,662 - -------------------------------------------------------------------------------- Deferred tax provision/(benefit): U.S. federal (13) 331 22 State and local (18) 57 -- Non-U.S -- 27 (15) - -------------------------------------------------------------------------------- Total deferred tax provision/(benefit) (31) 415 7 - -------------------------------------------------------------------------------- Provision for income taxes $1,492 $1,710 $1,669 ================================================================================
Under SFAS 109, Accounting for Income Taxes, temporary differences between recorded amounts and the tax bases of assets and liabilities are measured using the enacted tax rates and laws that will be in effect when such differences are expected to reverse. F-26 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS At December 31, 2001 and December 31, 2000, respectively, the Company's consolidated statements of financial condition included net deferred tax assets of $922 million and $899 million, comprised of the following:
- --------------------------------------------------------------------------------------------------------- Dollars in millions Year Ended December 31, 2001 2000 - --------------------------------------------------------------------------------------------------------- Deferred tax assets: Employee benefits and deferred compensation $1,363 $1,230 U.S. taxes provided on the undistributed earnings of non-U.S subsidiaries 40 100 Cumulative translation adjustments 15 34 Other deferred tax assets 311 314 - --------------------------------------------------------------------------------------------------------- Total deferred tax assets 1,729 1,678 - --------------------------------------------------------------------------------------------------------- Deferred tax liabilities: Intangible assets (314) (329) Investment position activity (53) (91) Lease obligations and fixed assets (383) (328) Other deferred tax liabilities (57) (31) - --------------------------------------------------------------------------------------------------------- Total deferred tax liabilities (807) (779) - --------------------------------------------------------------------------------------------------------- Net deferred tax asset $ 922 $ 899 =========================================================================================================
The Company had no deferred tax valuation allowance at December 31, 2001 or December 31, 2000. Tax benefits (liabilities) allocated directly to stockholder's equity were as follows:
- ----------------------------------------------------------------------------------------------------- Dollars in millions Year Ended December 31, 2001 2000 1999 - ----------------------------------------------------------------------------------------------------- Foreign currency translation $ (5) $-- $10 Employee stock plans 17 14 12 - ----------------------------------------------------------------------------------------------------- Total tax benefits allocated directly to stockholder's equity $ 12 $14 $22 =====================================================================================================
As a result of the September 11, 2001 terrorist attack, the United States Internal Revenue Service allowed affected taxpayers, including the Company, to postpone year 2001's third and fourth quarter estimated tax payments until January 15, 2002. The Company received net tax refunds of $114 million in year 2001 and paid $1,367 million for calendar year 2001 on January 15, 2002. The Company paid taxes, net of refunds, of $1,394 million and $1,610 million in 2000 and 1999, respectively. The Company provides income taxes on the undistributed earnings of foreign subsidiaries except to the extent that such earnings are indefinitely invested outside the United States. At December 31, 2001, $1.3 billion of the Company's accumulated undistributed earnings was indefinitely invested. At the existing U.S. federal income tax rate, additional taxes of $399 million would have to be provided if such earnings were remitted to the United States. F-27 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The following table reconciles the U.S. federal statutory income tax rate to the Company's effective tax rate:
- ------------------------------------------------------------------------------------- Year Ended December 31, 2001 2000 1999 - ------------------------------------------------------------------------------------- Statutory U.S. federal income tax rate for corporations 35% 35% 35% Impact of: State and local (net of U.S. federal tax) and foreign taxes 4 3 3 Tax advantaged income (1) (1) (1) Other, net (2) (1) -- - ------------------------------------------------------------------------------------- Effective tax rate 36% 36% 37% =====================================================================================
NOTE 14. PLEDGED ASSETS, COMMITMENTS AND CONTINGENCIES At December 31, 2001 and 2000, the approximate market values of collateral received that can be sold or repledged by the Company, excluding the impact of FIN 41, were:
- ----------------------------------------------------------------------------------------- (Dollars in millions) Sources of collateral 2001 2000 - ----------------------------------------------------------------------------------------- Securities purchased under agreements to resell $147,378 $118,200 Securities received in securities borrowed vs. pledged transactions 45,486 40,431 Securities received in securities borrowed vs. cash transactions 44,136 35,899 Collateral received in margined broker loans 24,221 31,394 Collateral received in securities loaned vs. pledged transactions 2,777 2,169 Collateral received in derivative transactions and other 1,104 6,987 - ----------------------------------------------------------------------------------------- Total $265,102 $235,080 =========================================================================================
During 2001 and 2000, almost all collateral received were sold or repledged. At December 31, 2001 and 2000, the approximate market values of this portion of collateral and financial instruments owned that were sold or repledged by the Company, excluding the impact of FIN 41, were:
- -------------------------------------------------------------------------------------------- (Dollars in millions) Uses of collateral and trading securities 2001 2000 - -------------------------------------------------------------------------------------------- Securities sold under agreements to repurchase $180,320 $159,837 Financial instruments sold, not yet purchased 46,698 43,391 Collateral pledged out in securities borrowed vs. pledged transactions 44,202 40,817 Securities loaned out in securities loaned vs. cash transactions 12,541 15,009 Collateral pledged to clearing organization or segregated under securities laws or regulations 7,337 4,276 Securities loaned out in securities loaned vs. pledged transactions 4,237 4,755 Collateral pledged in derivative transactions and other 338 5,276 - -------------------------------------------------------------------------------------------- Total $295,673 $273,361 ============================================================================================
F-28 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS OTHER CONTINGENCIES At December 31, 2001, the Company had $975 million of outstanding letters of credit from banks to satisfy various collateral and margin requirements. The Company has provided a residual guarantee of $77 million in connection with the lease of buildings occupied by the Company's executive offices and New York operations. NOTE 15. LEGAL PROCEEDINGS The Company has been named as a defendant in legal actions relating to its operations, some of which seek damages of material or indeterminate amounts. In addition, from time to time the Company is a party to examinations and inquiries by various regulatory and self-regulatory bodies. In connection with its discontinued commodities processing operations, the Company and certain of its subsidiaries are subject to claims asserted by the U.S. Environmental Protection Agency, certain state agencies and private parties in connection with environmental matters. Management of the Company, after consultation with outside legal counsel, believes that the ultimate resolution of legal proceedings and environmental matters (net of applicable reserves) will not have a material adverse effect on the Company's results of operations, financial condition, or liquidity; however, such resolution could have a material adverse impact on operating results in future periods depending in part on the results for such periods. NOTE 16. FINANCIAL INSTRUMENTS AND CONTRACTUAL COMMITMENTS AND RELATED RISKS The Company and its subsidiaries enter into a variety of contractual commitments, such as swaps, cap and floor agreements, swap options, futures contracts, forward currency contracts, forward purchase and sale agreements, option contracts and warrants. These transactions generally require future settlement, and are either executed on an exchange or traded as OTC instruments. Contractual commitments have widely varying terms, and durations that range from a few days to a number of years depending on the instrument. Interest rate swaps are OTC instruments where two counterparties agree to exchange periodic interest payment streams calculated on a predetermined notional principal amount. The most common interest rate swaps generally involve one party paying a fixed interest rate and the other party paying a variable rate. Other types of swaps include basis swaps, cross-currency swaps, equity swaps and commodity swaps. Basis swaps consist of both parties paying variable interest streams based on different reference rates. Cross-currency swaps involve the exchange of coupon payments in one currency for coupon payments in another currency. An equity swap is an agreement to exchange cash flows on a notional amount based on changes in the values of a referenced index, such as the Standard & Poor's 500 Index. Commodity swaps involve the exchange of a fixed price of a commodity for a floating price or the exchange of one floating price for a different floating price, throughout the swap term. The most common commodity swaps involve oil and natural gas. F-29 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Caps are contractual commitments that require the writer to pay the purchaser an excess amount, if the reference rate exceeds a contractual rate at specified times during the contract. Likewise, a floor is a contractual commitment that requires the writer to pay an excess amount, if any, of a contractual rate over a reference rate at specified times over the life of the contract. Swap options are OTC contracts that entitle the holder to either enter into an interest rate swap at a future date or to cancel an existing swap at a future date. Futures contracts are exchange-traded contractual commitments to either receive (purchase) or deliver (sell) a standard amount or value of a commodity or financial instrument at a specified future date and price (or, with respect to futures contracts on indices, the net cash amount). Maintaining a futures contract will typically require the Company to deposit with the futures exchange (or other financial intermediary), as security for its obligations, an amount of cash or other specified asset ("initial margin") that typically ranges from 1% to 10% of the face amount of the contract (but may be higher in some circumstances). Additional cash or assets ("variation margin") may be required to be deposited daily as the mark-to-market value of the futures contract fluctuates. Futures contracts may be settled by physical delivery of the underlying asset or cash settlement (for index futures) on the settlement date, or by entering into an offsetting futures contract with the futures exchange prior to the settlement date. Forward contracts are OTC contractual commitments to purchase or sell a specified amount of foreign currency, financial instruments, or commodities at a future date at a predetermined price. The notional amount for forward settling securities transactions represents the amount of cash that will be paid or received by the counterparties when the transaction settles. Upon settlement, the security is reflected on the consolidated statement of financial condition as either financial instruments owned and contractual commitments or financial instruments sold, not yet purchased, and contractual commitments. Option contracts are contractual agreements that give the purchaser the right, but not the obligation, to purchase or sell a currency, financial instrument or commodity at a predetermined price. In return for this right, the purchaser pays a premium to the seller (or writer) of the option. Option contracts also exist for various indices and are similar to options on a security or other instruments except that, rather than settling by physical delivery of the underlying instrument, they are settled in cash. Options on futures contracts give the purchaser the right, in return for the premium paid, to assume a position in a futures contract. Warrants have characteristics similar to those of options whereby the buyer has the right, but not the obligation, to purchase a certain instrument at a specific future date and price. The seller (or writer) of the option/warrant is subject to the risk of an unfavorable change in the underlying financial instrument, commodity, or currency. The purchaser is subject to market risk to the extent of the premium paid and credit risk. The Company is obligated to post margin for options on futures. Option contracts may be either exchange-traded or OTC. Exchange-traded options issued by certain regulated intermediaries, such as the Options Clearing Corporation, are the obligations of the issuing intermediary. In contrast to such options, which generally have standardized terms and performance mechanics, all of the terms of an OTC option, including the method of settlement, term, exercise price, premium, guarantees and security, are determined by negotiation of the parties, and there is no intermediary between the parties to assume the risks of performance. The Company issues warrants that entitle holders to cash settlements on exercise based upon movements in market prices of specific financial instruments and commodities, foreign exchange rates and equity indices. F-30 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The Company sells various financial instruments that have not been purchased ("short sales"). In order to sell them short, the Company borrows these securities, or receives the securities as collateral in conjunction with short-term financing agreements and, at a later date, must deliver (i.e. replace) like or substantially the same financial instruments or commodities to the parties from which they were originally borrowed. The Company is exposed to market risk for short sales. If the market value of an instrument sold short increases, the Company's obligation, reflected as a liability, would increase and revenues from principal transactions would be reduced. The way in which the Company accounts for and presents contractual commitments in its financial statements depends on both the type and purpose of the contractual commitment held or issued. As discussed in Note 1 to the consolidated financial statements, the Company records all derivatives used for trading purposes, including those used to hedge trading positions, at market or fair value. Consequently, changes in the amounts recorded in the Company's consolidated statements of financial condition resulting from movements in market or fair value are included in "Principal transactions" in the period in which they occur. The accounting and reporting treatment of derivatives used for non-trading purposes varies, depending on the nature of exposure being hedged. Contractual commitments and short sales risk may expose the Company to both market risk and credit risk in excess of the amount recorded on the consolidated statements of financial condition. These off-balance sheet risks are discussed in more detail below. Market Risk Market risk is the potential loss or decrease in economic value the Company may incur as a result of changes in the market or fair value of a particular financial instrument, commodity or contractual commitment. All financial instruments, commodities and contractual commitments, including short sales, are subject to market risk. The Company's exposure to market risk is determined by a number of factors, including the size, duration, composition and diversification of positions held, the absolute and relative levels of interest rates and foreign currency exchange rates, as well as market volatility and illiquidity. For instruments such as options and warrants, the time period during which the options or warrants may be exercised and the relationship between the current market price of the underlying instrument and the option's or warrant's contractual strike or exercise price also affect the level of market risk. The most significant factor influencing the overall level of market risk to which the Company is exposed is its use of hedging techniques to mitigate such risk. The Company manages market risk by setting risk limits and monitoring the effectiveness of its hedging policies and strategies. The table on the following page include the disclosure of the notional amounts of the Company's derivative financial instruments. The determination of notional amounts does not consider any of the market risk factors discussed above. Notional amounts are indicative only of the volume of activity and are not a measure of market risk. Market risk is influenced by the nature of the items that comprise a particular category of financial instrument. Market risk is also influenced by the relationship among the various off-balance sheet categories as well as the relationship between off-balance sheet items and items recorded in the Company's consolidated statements of financial condition. For all of these reasons, the interpretation of notional amounts as a measure of market risk could be materially misleading. F-31 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS A summary of contractual commitments as of December 31, 2001 and 2000 is as follows:
DECEMBER 31, 2001 DECEMBER 31, 2000 ------------------------------ ------------------------------ Current Market or Current Market or Fair Value Fair Value Notional ------------------- Notional ------------------- Dollars in billions Amounts Assets Liabilities Amounts Assets Liabilities - ------------------------------------------------------------------------------------------------------------------------------- Exchange-issued products: Futures contracts (a) $ 172.5 $ -- $ -- $ 156.3 $ -- $ -- Other exchange-issued products: Equity contracts 86.2 .4 .5 8.0 .2 .2 Fixed income contracts 26.1 -- -- 17.0 -- -- Commodity contracts 1.0 -- -- 1.7 -- -- - ------------------------------------------------------------------------------------------------------------------------------- Total exchange-issued products 285.8 .4 .5 183.0 .2 .2 - ------------------------------------------------------------------------------------------------------------------------------- Over-the-counter ("OTC") swaps, swap options, caps, floors and forward rate agreements: Swaps 2,603.1 2,703.8 Swap options written 86.2 80.3 Swap options purchased 50.4 56.1 Caps, floors and forward rate agreements 181.4 261.5 - ------------------------------------------------------------------------------------------------------------------------------- Total OTC swaps, swap options, caps, floors and forward rate agreements (b) 2,921.1 6.7 5.9 3,101.7 6.5 6.4 - ------------------------------------------------------------------------------------------------------------------------------- Other options and contractual commitments: Options and warrants on equities and equity indices 66.8 1.1 2.2 72.1 3.4 4.1 Options and forward contracts on fixed income securities 1,134.8 .5 .3 587.3 1.4 .8 Foreign exchange contracts and options (b) 49.1 .5 .5 36.0 .3 .2 Commodity contracts 9.9 .1 .1 15.7 .2 .2 - ------------------------------------------------------------------------------------------------------------------------------- Total contractual commitments $4,467.5 $9.3 $9.5 $3,995.8 $12.0 $11.9 ===============================================================================================================================
(a) Margin on futures contracts is included in receivables/payables to brokers, dealers and clearing organizations on the consolidated statements of financial condition. (b) Includes notional values of swap agreements and forward currency contracts for non-trading activities (primarily related to the Company's fixed-rate long-term debt) of $14.1 billion and $2.7 billion at December 31, 2001 and $15.0 billion and $5.9 billion at December 31, 2000, respectively. The annual average balances of the Company's contractual commitments, based on month-end balances, are as follows:
2001 2000 ---------------------- ---------------------- Average Average Average Average Dollars in billions Assets Liabilities Assets Liabilities - --------------------------------------------------------------------------------------------------- Swaps, swap options, caps and floors $ 7.4 $ 6.3 $ 5.4 $ 7.1 Index and equity contracts and options 3.0 4.0 4.9 5.1 Foreign exchange contracts and options .2 .2 .2 .3 Commodity contracts .1 .1 .2 .1 Forward contracts on fixed income securities .7 .4 .7 1.2 - --------------------------------------------------------------------------------------------------- Total contractual commitments $11.4 $11.0 $11.4 $13.8 ===================================================================================================
Credit Risk The Company regularly transacts business with retail customers, and transacts with, or owns securities issued by, a broad range of corporations, governments, international organizations, central banks and other financial institutions. Phibro regularly transacts business with independent and government-owned oil producers, a wide variety of end users, trading companies and financial institutions. Credit risk is measured by the loss the Company would record if its counterparties failed to perform pursuant to the terms of their contractual obligations and the value of collateral held, if any, was not adequate to cover such losses. The Company has established controls to monitor the creditworthiness of counterparties, as well as the quality of pledged collateral, and uses bilateral security agreements and master netting agreements whenever possible to mitigate the Company's exposure to counterparty credit risk. Master netting agreements enable the Company to net certain assets and liabilities by counterparty. The Company also nets across product lines and against cash collateral, provided such provisions are established in the master netting and cash collateral agreements. The Company may require counterparties to submit additional collateral pursuant to the above agreements when deemed necessary. F-32 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The Company enters into collateralized financing agreements in which it extends short-term credit, primarily to major financial institutions. The Company controls access to the collateral pledged by the counterparties, which consists largely of securities issued by the G-7 governments or their agencies, that may be liquidated in the event of counterparty default. In addition, margin levels are monitored daily and additional collateral must be deposited as required. If customers cannot meet collateral requirements, the Company will liquidate sufficient underlying financial instruments to bring the account in compliance with the required margin level. Concentrations of Credit Risk Concentrations of credit risk from financial instruments, including contractual commitments, exist when groups of issuers or counterparties have similar business characteristics or are engaged in like activities that would cause their ability to meet their contractual commitments to be adversely affected, in a similar manner, by changes in the economy or other market conditions. The Company monitors credit risk on both an individual and group counterparty basis. The Company's largest single concentration of credit risk is in securities issued by the U.S. government and its agencies, which totaled $45.8 billion at December 31, 2001 and $30.2 billion at December 31, 2000. With the addition of U.S. government and U.S. government agency securities pledged as collateral by counterparties in connection with collateralized financing activity, the Company's total holdings of U.S. government securities were $176.0 billion or 50% of the Company's total assets before FIN 41 netting at December 31, 2001 and $130.5 billion or 46% of the Company's total assets before FIN 41 netting at December 31, 2000. Similarly, concentrations with non-U.S. governments totaled $63.7 billion at December 31, 2001 and $32.4 billion at December 31, 2000. These consist predominantly of securities issued by the governments of major industrial nations. Remaining concentrations arise principally from contractual commitments with counterparties in financial or commodities transactions involving future settlement and fixed income securities owned. Excluding governments, no concentration with a single counterparty exceeded 1% of total assets at December 31, 2001 or 2000. North America and Europe represent the largest geographic concentrations. Among industries, other major derivatives dealers represent the largest group of counterparties. NOTE 17. FAIR VALUE INFORMATION SFAS 107, Disclosures about Fair Value of Financial Instruments, requires the disclosure of the fair value of all financial instruments. The following information is presented to help the reader gain an understanding of the relationship between the amounts reported in the Company's consolidated financial statements and the related market or fair values. Specific accounting policies are discussed in Note 1 to the consolidated financial statements. At December 31, 2001, $289.8 billion or 96% of the Company's total assets and $274.2 billion or 95% of the Company's total liabilities were carried at market value or fair value or at amounts that approximate such values. At December 31, 2000, $228.4 billion or 96% of the Company's total assets and $214.2 billion or 95% of the Company's total liabilities were carried at either market or fair values or at amounts that approximate such values. Financial instruments recorded at market or fair value include cash and cash equivalents, financial instruments, and contractual commitments used for trading purposes. F-33 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Financial instruments recorded at contractual amounts that approximate market or fair value include collateralized short-term financing agreements, receivables, commercial paper and other short-term borrowings, payables and accrued liabilities, and variable rate term debt. The market values of such items are not materially sensitive to shifts in market interest rates because of the limited term to maturity of many of these instruments and/or their variable interest rates. The following table reflects financial instruments which are recorded at contractual or historical amounts that do not necessarily approximate market or fair value.
Dollars in billions - ----------------------------------------------------------------------------------------------------------- December 31, 2001 2000 Liabilities Liabilities ------------------ ------------------ Carrying Fair Carrying Fair Value Value Value Value =========================================================================================================== Financial instruments primarily recorded at contractual amounts or historical amounts that do not necessarily approximate market or fair value: Fixed rate term debt $14.6 $14.7 $11.2 $11.2 - -----------------------------------------------------------------------------------------------------------
The fair value of fixed rate term debt has been estimated by using a discounted cash flow analysis. NOTE 18. RELATED PARTY BALANCES The Company has related party balances with Citigroup and certain of its subsidiaries and affiliates. These balances, which are short-term in nature, include cash accounts, collateralized financing transactions, margin accounts, receivables and payables, securities and underwriting transactions, derivative trading, charges for operational support and the borrowing and lending of funds. These balances result from related party transactions that are generally conducted at prices equivalent to prices for transactions conducted at arm's length with unrelated third parties. Amounts charged for operational support represent an allocation of costs. NOTE 19. SECURITIZATIONS During 2001 and 2000, the Company securitized various types of assets including commercial and residential mortgages, high yield bonds, government, agency and corporate securities, and municipal bonds. Proceeds from these securitizations were approximately $18 billion in 2001 and $15 billion in 2000, which contributed to pre-tax gains of $31 million and $85 million in 2001 and 2000, respectively. To a limited extent, the Company also retains interests in these securitizations for which the Company was the securitizer. Such retained positions are carried at fair value with the changes in fair value reported in earnings. As of December 31, 2001, the largest portion of these retained positions was in securitizations of commercial and residential mortgages and agency mortgage securities which totaled $861 million. As of December 31, 2000, retained positions in commercial and residential mortgages was $335 million. The key assumptions used in estimating the fair value of these retained interests were: F-34 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS COMMERCIAL MORTGAGES
- -------------------------------------------------------------------------------- December 31, 2001 2000 - -------------------------------------------------------------------------------- Discount Rate 5.5%-10% 6%-11% - --------------------------------------------------------------------------------
RESIDENTIAL MORTGAGES
- -------------------------------------------------------------------------------- December 31, 2001 2000 - -------------------------------------------------------------------------------- Discount Rate 6.5%-15% 7%-18% Expected Prepayment Rate 12%-40% 15%-50% Anticipated Credit Loss 35%-50% 30%-50% - --------------------------------------------------------------------------------
AGENCY SECURITIES
- -------------------------------------------------------------------------------- December 31, 2001 2000* - -------------------------------------------------------------------------------- Discount Rate 5%-8% -- Expected Prepayment Rate 14%-38% -- - --------------------------------------------------------------------------------
* Retained Interest At December 31, 2000 was Not Material. The impact of altering each of the assumptions to assumptions that are 5% and 10% less favorable is as follows. The impact of altering the above assumptions are pre-tax and do not include the impact of hedges that the Company has in place. COMMERCIAL MORTGAGES
- -------------------------------------------------------------------------------- (Dollars in millions) December 31, 2001 2000 - -------------------------------------------------------------------------------- 5% 10% 5% 10% - -------------------------------------------------------------------------------- Discount Rate $3 $5 $2 $3 - --------------------------------------------------------------------------------
F-35 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS RESIDENTIAL MORTGAGES
- -------------------------------------------------------------------------------- (Dollars in millions) December 31, 2001 2000 - -------------------------------------------------------------------------------- 5% 10% 5% 10% - -------------------------------------------------------------------------------- Discount Rate $ 2 $ 4 $ 2 $ 3 Expected Prepayment rate $ 2 $ 3 $ 2 $ 3 Anticipated Credit Loss $ 1 $ 3 $ 2 $ 4 - --------------------------------------------------------------------------------
AGENCY SECURITIES
- -------------------------------------------------------------------------------- (Dollars in millions) December 31, 2001 2000* - -------------------------------------------------------------------------------- 5% 10% 5% 10% - -------------------------------------------------------------------------------- Discount Rate $0.5 $ 1 -- -- Expected Prepayment rate $1.5 $ 3 -- -- - --------------------------------------------------------------------------------
* Retained Interest At December 31, 2000 was not material. F-36 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 20. SSBH ONLY CONDENSED FINANCIAL STATEMENTS The following are condensed financial statements of Salomon Smith Barney Holdings Inc. (SSBH Only): SSBH ONLY CONDENSED STATEMENTS OF INCOME
Dollars in millions Year Ended December 31, 2001 2000 1999 - -------------------------------------------------------------------------------- Revenues, net of interest expense $ (27) $ 104 $ 64 Restructuring credit -- -- (121) Noninterest expenses 54 14 76 - -------------------------------------------------------------------------------- Income (loss) before income taxes (81) 90 109 Provision/ (benefit) for income taxes 26 (59) 23 Equity in earnings of subsidiaries 2,734 2,883 2,726 - -------------------------------------------------------------------------------- Net income $ 2,627 $ 3,032 $ 2,812 ================================================================================
SSBH ONLY CONDENSED STATEMENTS OF FINANCIAL CONDITION
Dollars in millions December 31, 2001 2000 - -------------------------------------------------------------------------------- Assets: Cash and cash equivalents $ -- $ -- Financial instruments owned and contractual commitments 68 139 Receivables 268 481 Receivable from subsidiaries (1) 44,302 38,891 Investment in subsidiaries 10,213 10,058 Other assets 2,321 3,369 - -------------------------------------------------------------------------------- Total assets $57,172 $52,938 ================================================================================ Liabilities and stockholder's equity: Commercial paper and other short-term borrowings $14,239 $17,669 Payable to affiliates 3,080 1,601 Financial instruments sold, not yet purchased, and contractual commitments 406 688 Other liabilities 3,137 1,954 Term debt 24,200 19,219 Subordinated debt payable to SI Financing Trust I -- 356 Subordinated debt payable to SSBH Capital Trust I 412 412 ------- ------- Total liabilities 45,474 41,899 Stockholder's equity 11,698 11,039 - -------------------------------------------------------------------------------- Total liabilities and stockholder's equity $57,172 $52,938 ================================================================================
(1) Includes $3.7 billion and $3.2 billion of subordinated note receivables at December 31, 2001 and December 31, 2000, respectively. F-37 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS SSBH ONLY CONDENSED STATEMENTS OF CASH FLOWS
Dollars in millions Year ended December 31, 2001 2000 1999 - --------------------------------------------------------------------------------------------------- Cash flows from financing activities: Net increase (decrease) in commercial paper and other short-term borrowings $ (3,430) $ 4,589 $ 1,870 Proceeds from issuance of term debt 10,530 6,269 3,795 Term debt maturities and repurchases (5,378) (4,126) (3,590) Other capital transactions 203 89 37 Dividends paid (2,660) (1,202) (2,285) - --------------------------------------------------------------------------------------------------- Cash provided by (used in) financing activities (735) 5,619 (173) - --------------------------------------------------------------------------------------------------- Cash flows from investing activities: (Increase) decrease in receivables from subsidiaries, net (5,418) (6,320) 349 Dividends received from subsidiaries 2,723 2,404 1,975 Capital (infusions to) distributions from subsidiaries, net 14 (933) (242) - --------------------------------------------------------------------------------------------------- Cash provided by (used in) investing activities (2,681) (4,849) 2,082 - --------------------------------------------------------------------------------------------------- Cash provided by (used in) operating activities 3,416 (770) (1,912) - --------------------------------------------------------------------------------------------------- Increase (decrease) in cash and cash equivalents 0 0 (3) Cash and cash equivalents at beginning of year 0 0 3 - --------------------------------------------------------------------------------------------------- Cash and cash equivalents at end of year $ 0 $ 0 $ 0 ===================================================================================================
BASIS OF PRESENTATION The accompanying condensed financial statements, which include the accounts of SSBH, a direct wholly owned subsidiary of Citigroup, should be read in conjunction with the consolidated financial statements of the Company. Investments in subsidiaries are accounted for under the equity method. For information regarding the Company's term debt and commercial paper and other short term borrowings, see Notes 7 and 8 to the consolidated financial statements. RELATED PARTY TRANSACTIONS SSBH engages in various transactions with its subsidiaries that are characteristic of a consolidated group under common control. As a public debt issuer, SSBH has access to long-term sources of funds that are loaned from SSBH to certain of its subsidiaries. Such intercompany advances are payable on demand and bear interest at varying rates. F-38 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES QUARTERLY FINANCIAL DATA (UNAUDITED) Quarterly results for the year ended December 31, 2001 were as follows:
- -------------------------------------------------------------------------------------------------------------------- Quarter Ended Dollars in millions March 31 June 30 September 30 December 31 - -------------------------------------------------------------------------------------------------------------------- Noninterest revenues $ 4,331 $3,414 $2,634 $2,758 Net interest and dividends 401 530 596 723 - -------------------------------------------------------------------------------------------------------------------- Revenues, net of interest expense 4,732 3,944 3,230 3,481 Expenses, excluding interest 3,543 2,808 2,261 2,655 - -------------------------------------------------------------------------------------------------------------------- Income before income taxes and cumulative effect of change in accounting principle 1,189 1,136 969 826 Provision for income taxes 422 402 363 305 - -------------------------------------------------------------------------------------------------------------------- Income before cumulative effect of change in accounting principle 767 734 606 521 - -------------------------------------------------------------------------------------------------------------------- Cumulative effect of change in accounting principle (net of tax benefit of $1) (1) -- -- -- - -------------------------------------------------------------------------------------------------------------------- Net income $ 766 $ 734 $ 606 $ 521 ====================================================================================================================
Quarterly results for the year ended December 31, 2000 were as follows:
- -------------------------------------------------------------------------------------------------------------------- Quarter Ended Dollars in millions March 31 June 30 September 30 December 31 - -------------------------------------------------------------------------------------------------------------------- Noninterest revenues $ 3,999 $3,421 $3,713 $3,379 Net interest and dividends 387 465 437 441 - -------------------------------------------------------------------------------------------------------------------- Revenues, net of interest expense 4,386 3,886 4,150 3,820 Expenses, excluding interest 2,805 2,910 3,043 2,742 - -------------------------------------------------------------------------------------------------------------------- Income before income taxes 1,581 976 1,107 1,078 Provision for income taxes 593 318 411 388 - -------------------------------------------------------------------------------------------------------------------- Net income $ 988 $ 658 $ 696 $ 690 ====================================================================================================================
F-39 EX-12.01 3 y58607aex12-01.txt COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES EXHIBIT 12.01 SALOMON SMITH BARNEY HOLDINGS INC. AND SUBSIDIARIES Calculation of Ratio of Earnings to Fixed Charges (Unaudited)
Years Ended December 31, ------------------------------------------------------------------- Dollars in millions 2001 2000 1999 1998 1997 - ------------------------------------------------------------------------------------------------------------------------------------ Earnings from continuing operations: Income from continuing operations before income taxes and cumulative effect of change in accounting principles $ 4,120 $ 4,742 $ 4,496 $ 1,316 $ 1,820 Add fixed charges (see below) 12,130 14,652 9,778 11,523 10,626 Other adjustments 0 0 0 0 0 --------- --------- --------- --------- --------- Earnings as defined $ 16,250 $ 19,394 $ 14,274 $ 12,839 $ 12,446 ========= ========= ========= ========= ========= Fixed charges from continuing operations: Interest expense $ 11,987 $ 14,530 $ 9,681 $ 11,466 $ 10,530 Other adjustments 143 122 97 57 96 --------- --------- --------- --------- --------- Fixed charges from continuing operations as defined $ 12,130 $ 14,652 $ 9,778 $ 11,523 $ 10,626 ========= ========= ========= ========= ========= Ratio of earnings to fixed charges 1.34 1.32 1.46 1.11 1.17 ========= ========= ========= ========= =========
NOTES: The ratio of earnings to fixed charges from continuing operations was calculated by dividing the sum of fixed charges into the sum of income before income taxes and cumulative effect of change in accounting principles and fixed charges. Fixed charges consist of interest expense, including capitalized interest and a portion of rental expense representative of the interest factor. EX-23.01 4 y58607aex23-01.txt CONSENT OF KPMG LLP EXHIBIT 23.01 INDEPENDENT AUDITORS' CONSENT The Board of Directors Salomon Smith Barney Holdings Inc. We consent to the incorporation by reference in the Registration Statements listed below of Salomon Smith Barney Holdings Inc. of our report dated January 17, 2002, with respect to the consolidated statement of financial position of Salomon Smith Barney Holdings Inc. and Subsidiaries (SSBH) as of December 31, 2001, and the related consolidated statements of income, changes in stockholder's equity and cash flows for the year then ended, which report appears in this Form 10-K. Our report refers to a change in 2001, in SSBH's method of accounting for derivative instruments and hedging activities. The consolidated statement of financial condition of Salomon Smith Barney Holdings Inc. and Subsidiaries as of December 31, 2000, and the related consolidated statements of income, changes in stockholder's equity, and cash flows for each of the years in the two-year period ended December 31, 2000, were audited by other auditors whose report dated January 16, 2001 expressed an unqualified opinion on those statements. Registration Statements on Form S-3 Registration Number 33-40600 33-54929 333-32792 333-71667 33-41932 33-56481 333-38931 33-49136 33-57922 333-55650 33-51269 333-01807 333-69230
/s/ KPMG LLP New York, New York March 20, 2002 EX-23.02 5 y58607aex23-02.txt CONSENT OF PRICEWATERHOUSECOOPERS LLP EXHIBIT 23.02 CONSENT OF INDEPENDENT ACCOUNTANTS To the Board of Directors of Salomon Smith Barney Holdings Inc.: We hereby consent to the incorporation by reference in the Registration Statements of Form S-3 (Nos. 33-40600, 33-41932, 33-49136, 33-57922, 33-51269, 33-54929, 33-56481, 333-01807, 333-38931, 333-71667, 333-32792, 333-55650, 333-69230) of Salomon Smith Barney Holdings Inc. and Subsidiaries of our report dated January 16, 2001 relating to the consolidated financial statements, which appears in this Form 10-K. /s/ PricewaterhouseCoopers LLP New York, New York March 20, 2002 -----END PRIVACY-ENHANCED MESSAGE-----