10-K405 1 h85149e10-k405.txt FORM 10-K FOR FISCAL YEAR END DECEMBER 31, 2000 1 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 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, 2000 [ ] 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 0-7275 CULLEN/FROST BANKERS, INC. (Exact name of registrant as specified in its charter) TEXAS 74-1751768 --------------------------- ---------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 100 W. HOUSTON STREET SAN ANTONIO, TEXAS 78205 ------------------------------------ ------------ (Address of principal executive offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (210) 220-4011 SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: COMMON STOCK, $.01 PAR VALUE (WITH ATTACHED RIGHTS) ------------------------------ (Title of Class) SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: NONE. 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 the 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] The aggregate market value of the voting stock held by non-affiliates of the registrant was $1,630,404,963 based on the closing price of such stock as of March 16, 2001. Indicate the number of shares outstanding of each of the registrant's classes of common stock, as of the latest practicable date.
Outstanding at Class March 16, 2001 ---------------------------- ---------------------------- COMMON STOCK, $.01 PAR VALUE 51,541,315
DOCUMENTS INCORPORATED BY REFERENCE (1) Proxy Statement for Annual Meeting of Shareholders to be held May 30, 2001 (Part III) 2 TABLE OF CONTENTS
PAGE ---- PART I ------ ITEM 1. BUSINESS.................................................... 3 ITEM 2. PROPERTIES.................................................. 11 ITEM 3. LEGAL PROCEEDINGS........................................... 11 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS......... * PART II ------- ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS..................................................... 12 ITEM 6. SELECTED FINANCIAL DATA..................................... 13 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS................................... 15 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK........................................................ 36 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA................. 37 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.................................... * PART III -------- ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.......... 70 ITEM 11. EXECUTIVE COMPENSATION...................................... 70 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.................................................. 70 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.............. 70 PART IV ------- ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K......................................................... 71
* Not Applicable 2 3 PART I ITEM 1. BUSINESS ----------------- GENERAL ------- Cullen/Frost Bankers, Inc. ("Cullen/Frost" or "Corporation"), a Texas business corporation incorporated in 1977 and headquartered in San Antonio, Texas, is a financial holding company within the meaning of the Bank Holding Company Act of 1956, as partially amended by the Gramm-Leach-Bliley Act (the "Modernization Act") (collectively "the BHC Act"), and as such is registered with the Board of Governors of the Federal Reserve System ("Federal Reserve Board"). The New Galveston Company, incorporated under the laws of Delaware, is a wholly-owned second tier financial holding company subsidiary which owns all banking and non-banking subsidiaries with the exception of Cullen/Frost Capital Trust I, a Delaware statutory business trust and wholly-owned subsidiary of the Corporation. At December 31, 2000, Cullen/ Frost's principal assets consisted of all of the capital stock of The Frost National Bank ("Frost Bank") which operated 80 financial centers across Texas with 18 locations in the San Antonio area, 22 in the Houston/ Galveston area, 16 in the Fort Worth area, 5 in Austin, 8 in the Corpus Christi area, 3 in Dallas, 3 in San Marcos, 2 in McAllen, 2 in Boerne/Fair Oaks area, and 1 in New Braunfels. At December 31, 2000, Cullen/Frost had consolidated total assets of $7.7 billion and total deposits of $6.5 billion. Based on information from the Federal Reserve Board, at September 30, 2000, Cullen/Frost was the largest of the 110 large bank holding companies headquartered in Texas. Cullen/Frost's operations are managed along three distinct major operating segments consisting of Banking, the Financial Management Group and its investment banking subsidiary, Frost Securities Inc. (See Results of Segment Operations on page 18 and Note U on page 62). Cullen/Frost provides policy direction to Frost Bank in, among others, the following areas: (i) asset and liability management; (ii) accounting, budgeting, planning, insurance and investment banking; (iii) capitalization; and (iv) regulatory compliance. Frost Bank is a separate entity which operates under the day-to-day management of its own board of directors and officers. Frost Bank, the origin of which can be traced to a mercantile partnership organized in 1868, was chartered as a national banking association in 1899. At December 31, 2000, Frost Bank, was the largest bank headquartered in San Antonio and South Texas. SERVICES OFFERED BY FROST BANK ------------------------------ Commercial Banking Frost Bank provides commercial services for corporations and other business clients. Loans are made for a wide variety of general corporate purposes, including interim construction financing on industrial and commercial properties and financing on equipment, inventories, accounts receivable, and recapitalization for turnaround situations, as well as commercial leasing. Frost Bank provides financial services to business clients on both a national and international basis. Consumer Services Frost Bank provides a full range of consumer banking services, including checking accounts, savings programs, automated teller machines, installment and real estate loans, home equity loans, drive-in and night deposit services, safe deposit facilities, and discount brokerage services. International Banking Frost Bank provides international banking services to customers residing in or dealing with businesses located in Mexico. Such services consist of accepting deposits (in United States dollars only), making loans 3 4 (in United States dollars only), issuing letters of credit, handling foreign collections, transmitting funds and, to a limited extent, dealing in foreign exchange. Reference is made to pages 26 and 34 of this document. Correspondent Banking Frost Bank acts as correspondent for approximately 315 financial institutions, primarily banks in Texas. These banks maintain deposits with Frost Bank, which offers to the correspondents a full range of services including check clearing, transfer of funds, loan participations, fixed income security services, and securities custody and clearance. Insurance Frost Insurance Agency, Inc., is a wholly-owned subsidiary of Frost Bank and offers corporate and personal property and casualty insurance as well as group health and life insurance products to individuals and businesses. Trust Services Frost Bank provides a wide range of trust, investment, agency and custodial services for individual and corporate clients. These services include the administration of estates and personal trusts and the management of investment accounts for individuals, employee benefit plans and charitable foundations. At December 31, 2000, trust assets with a market value of approximately $12.9 billion were being administered by the subsidiary banks. These assets were comprised of discretionary assets of $5.7 billion and non-discretionary assets of $7.2 billion. Discount Brokerage Frost Brokerage Services was formed in March 1986 to provide discount brokerage services and perform other transactions or operations related to the sale and purchase of securities of all types. Frost Brokerage Services is a subsidiary of Frost Bank. SERVICES OFFERED BY THE CULLEN/FROST NON-BANKING SUBSIDIARIES ------------------------------------------------------------- Frost Securities, Inc., an investment banking subsidiary, based in Dallas, Texas offers a full range of services including equity research, institutional sales, trading and investment banking services to institutional investors and corporate customers who need access to the capital markets. Main Plaza Corporation ("Main Plaza") is a wholly-owned non-banking subsidiary. Main Plaza occasionally makes loans to qualified borrowers. Loans are funded with borrowings against Cullen/Frost's current cash or borrowings against credit lines. Daltex General Agency, Inc. ("Daltex"), a wholly-owned non-banking subsidiary, is a managing general insurance agency. Daltex provides vendor's single interest insurance. COMPETITION ----------- Frost Bank encounters intense competition in its commercial banking businesses, primarily from other banks located in their respective service areas. Frost Bank also competes with insurance, finance and mortgage companies, savings and loan institutions, credit unions, money market funds, investment banks and other financial institutions. In the case of some larger customers, competition exists with institutions in other major metropolitan areas in Texas and in the remainder of the United States, some of which are larger than Frost Bank in terms of capital, resources and personnel. 4 5 SUPERVISION AND REGULATION -------------------------- Cullen/Frost Cullen/Frost is a legal entity separate and distinct from its bank subsidiary and was designated a financial holding company under the Modernization Act effective March 15, 2000. The Modernization Act: (i) allows financial holding companies meeting management, capital and CRA standards to engage in a substantially broader range of financial activities and activities incidental to financial activities than was previously permissible, including insurance underwriting and making merchant banking investments in commercial and financial companies; (ii) allows insurers and other financial services companies to acquire banks; (iii) removes various restrictions that previously applied to bank holding company ownership of securities firms and mutual fund advisory companies; and (iv) established the overall regulatory structure applicable to bank holding companies that also engage in insurance and securities operations. Cullen/Frost is primarily regulated by the Federal Reserve Board which has established guidelines with respect to the maintenance of appropriate levels of capital and payment of dividends by bank holding companies. If Frost Bank ceases to be "well capitalized" under applicable regulatory standards, the Federal Reserve Board may, among other actions, order Cullen/Frost to divest Frost Bank or to conform its activities to those permissible for a bank holding company. In addition, if Frost Bank receives a rating under the CRA Act of less than satisfactory, Cullen/Frost will be prohibited from engaging in new activities or acquiring companies other than bank holding companies, banks or savings associations. The Modernization Act also modified laws related to financial privacy and community reinvestment. The new financial privacy provisions generally prohibit financial institutions, including Cullen/Frost, from disclosing nonpublic personal financial information to third parties unless customers have the opportunity to "opt out" of the disclosure. The Federal Reserve Act and the Federal Deposit Insurance Act ("FDIA") impose restrictions on loans by Frost Bank to Cullen/Frost and certain of its subsidiaries, on investments in securities thereof and on the taking of such securities as collateral for loans. Such restrictions generally prevent Cullen/Frost from borrowing from Frost Bank unless the loans are secured by marketable obligations. Further, such secured loans, other transactions, and investments by Frost Bank are limited in amount as to Cullen/Frost or to certain other subsidiaries to ten percent of Frost Bank's capital and surplus and as to Cullen/Frost and all such subsidiaries to an aggregate of 20 percent of Frost Bank's capital and surplus. Under Federal Reserve Board policy, Cullen/Frost is expected to act as a source of financial strength to its bank and to commit resources to support such bank in circumstances where it might not do so absent such policy. In addition, any loans by Cullen/Frost to its bank would be subordinate in right of payment to deposits and to certain other indebtedness of its bank. In the event of a financial holding company's bankruptcy, any commitment by the financial holding company to a federal bank regulatory agency to maintain the capital of a subsidiary bank will be assumed by the bankruptcy trustee and be entitled to a priority of payment. Subsidiary Bank Frost Bank is organized as a national banking association under the National Bank Act and is subject to regulation and examination by the Office of the Comptroller of the Currency (the "Comptroller of the Currency"). Federal and state laws and regulations of general application to banks have the effect, among others, of regulating the scope of the business of Frost Bank, its investments, cash reserves, the purpose and nature of loans, collateral for loans, the maximum interest rates chargeable on loans, the amount of dividends that may be declared and required capitalization ratios. Federal law imposes restrictions on extensions of credit to, and certain other transactions with, Cullen/Frost and other subsidiaries, on investments in stock or other securities thereof and on the taking of such securities as collateral for loans to other borrowers. The Comptroller of the Currency with respect to Cullen/Frost's bank subsidiary has authority to prohibit a bank from engaging in what, in such agency's opinion, constitutes an unsafe or unsound practice in 5 6 conducting its business. It is possible, depending upon the financial condition of the bank in question and other factors, that such agency could claim that the payment of dividends or other payments might, under some circumstances, be such an unsafe or unsound practice. The principal source of Cullen/Frost's cash revenues is dividends from its bank subsidiary, and there are certain limitations on the payment of dividends to Cullen/Frost by such bank subsidiary. The prior approval of the Comptroller of the Currency is required if the total of all dividends declared by a national bank in any calendar year would exceed the bank's net profits, as defined, for that year combined with its retained net profits for the preceding two calendar years less any required transfers to surplus. In addition, a national bank may not pay dividends in an amount in excess of its undivided profits less certain bad debts. Although not necessarily indicative of amounts available to be paid in future periods, Cullen/Frost's subsidiary bank had approximately $70.4 million available for the payment of dividends, without prior regulatory approval, at December 31, 2000. Capital Adequacy Bank regulators have adopted risk-based capital guidelines for bank holding companies and banks. The minimum ratio of qualifying total capital to risk-weighted assets (including certain off-balance sheet items) is eight percent. At least half of the total capital is to be comprised of common stock, retained earnings, perpetual preferred stocks, minority interests and for bank holding companies, a limited amount of qualifying cumulative perpetual preferred stock, less certain intangibles including goodwill ("Tier 1 capital"). The remainder ("Tier 2 capital") may consist of other preferred stock, certain other instruments, and limited amounts of subordinated debt and the allowance for loan and lease losses. In addition, bank regulators have established minimum leverage ratio (Tier 1 capital to average total assets) guidelines for bank holding companies and banks. These guidelines provide for a minimum leverage ratio of three percent for bank holding companies and banks that meet certain specified criteria, including that they have the highest regulatory rating. All other banking organizations will be required to maintain a leverage ratio of at least four percent plus an additional cushion where warranted. The guidelines also provide that banking organizations experiencing internal growth or making acquisitions will be expected to maintain strong capital positions substantially above the minimum supervisory levels, without significant reliance on intangible assets. Furthermore, the guidelines indicate that the Federal Reserve Board will continue to consider a "Tangible Tier 1 Leverage Ratio" in evaluating proposals for expansion or new activities. The Tangible Tier 1 Leverage Ratio is the ratio of Tier 1 capital, less intangibles not deducted from Tier 1 capital, to average total assets. The bank regulators have not advised Cullen/Frost or its bank subsidiary of any specific minimum leverage ratio applicable to it. For information concerning Cullen/Frost's capital ratios, see the discussion under the caption "Capital" on page 34 and Note L "Capital" on page 52. FDICIA The Federal Deposit Insurance Corporation Improvements Act of 1991 ("FDICIA"), among other things, requires the Federal banking agencies to take "prompt corrective action" in respect to depository institutions that do not meet minimum capital requirements. FDICIA established five capital tiers: "well capitalized," "adequately capitalized," "undercapitalized," "significantly undercapitalized" and "critically undercapitalized." Under the final rules adopted by the Federal banking regulators relating to these capital tiers, an institution is deemed to be: well capitalized if the institution has a total risk-based capital ratio of ten percent or greater, a Tier 1 risk-based capital ratio of six percent or greater, and a leverage ratio of five percent or greater, and the institution is not subject to an order, written agreement, capital directive, or prompt corrective action directive to meet and maintain a specific capital level for any capital measure; adequately capitalized if the institution has a total risk-based capital ratio of eight percent or greater, a Tier 1 risk-based capital ratio of four percent or greater, and a leverage ratio of four percent or greater (or a leverage ratio of three percent for bank holding companies which meet certain specified criteria, including having the highest regulatory rating); undercapitalized if the institution has a total risk-based capital ratio that is less than eight percent, a Tier 1 risk-based capital ratio less than four percent or a leverage ratio less than four percent (or a leverage ratio less than three percent if the institution is rated composite one in its most recent report of 6 7 examination, subject to appropriate Federal banking agency guidelines); significantly undercapitalized if the institution has a total risk-based capital ratio less than six percent, a Tier 1 risk-based capital ratio less than three percent, or a leverage ratio less than three percent; and critically undercapitalized if the institution has a ratio of tangible equity to total assets equal to or less than two percent. At December 31, 2000, Frost Bank, Cullen/Frost's only insured depository institution subsidiary was considered "well capitalized". FDICIA generally prohibits a depository institution from making any capital distributions (including payment of a dividend) or paying any management fee to its holding company if the depository institution would thereafter be undercapitalized. Undercapitalized institutions are subject to growth limitations and are required to submit a capital restoration plan. The agencies may not accept such a plan without determining, among other things, that the plan is based on realistic assumptions and is likely to succeed in restoring the depository institution's capital. In addition, for a capital restoration plan to be acceptable, the depository institution's parent holding company must guarantee that the institution will comply with such capital restoration plan. The aggregate liability of the parent holding company is limited to the lesser of (i) an amount equal to five percent of the depository institution's total assets at the time it became undercapitalized and (ii) the amount which is necessary (or would have been necessary) to bring the institution into compliance with all capital standards applicable with respect to such institution as of the time it fails to comply with the plan. If a depository institution fails to submit an acceptable plan, it is treated as if it is significantly undercapitalized. "Significantly undercapitalized" depository institutions may be subject to a number of requirements and restrictions, including orders to sell sufficient voting stock to become "adequately capitalized," requirements to reduce total assets, and cessation of receipt of deposits from correspondent banks. "Critically undercapitalized" institutions are subject to the appointment of a receiver or conservator. FDICIA also contains a variety of other provisions that affect the operations of Cullen/Frost, including reporting requirements, regulatory standards for real estate lending, "truth in savings" provisions, and the requirement that a depository institution give 90 days prior notice to customers and regulatory authorities before closing any branch. The Federal regulatory agencies have issued standards establishing loan-to-value limitations on real estate lending. These standards have not had a significant effect on Cullen/Frost and are not expected to have a significant effect in the future. DEPOSIT INSURANCE ----------------- Cullen/Frost's subsidiary bank is subject to Federal Deposit Insurance Corporation ("FDIC") deposit insurance assessments and to certain other statutory and regulatory provisions applicable to FDIC-insured depository institutions. The risk-based assessment system imposes insurance premiums based upon a matrix that takes into account a bank's capital level and supervisory rating. A depository institution insured by the FDIC can be held liable for any loss incurred by, or reasonably expected to be incurred by, the FDIC, in connection with (i) the default of a commonly controlled FDIC-insured depository institution or (ii) any assistance provided by the FDIC to a commonly controlled, FDIC-insured depository institution in danger of default. "Default" is defined generally as the appointment of a conservator or receiver, and "in danger of default" is defined generally as the existence of certain conditions indicating that a "default" is likely to occur in the absence of regulatory assistance. DEPOSITOR PREFERENCE -------------------- Deposits and certain claims for administrative expenses and employee compensation against an insured depository institution are afforded priority over other general unsecured claims against such an institution, including federal funds and letters of credit, in the "liquidation or other resolution" of such an institution by any receiver. 7 8 ACQUISITIONS ------------ The BHC Act generally limits acquisitions by bank holding companies that are not financial holding companies to commercial banks and companies engaged in activities that the Federal Reserve Board has determined to be so closely related to banking as to be a proper incident thereto and requires the prior approval of the Federal Reserve Board to consummate such acquisitions. Financial holding companies may acquire non-banking entities under the Modernization Act by providing a notice to the Federal Reserve Board after consummation of such an acquisition. The BHC Act, the Federal Bank Merger Act, and the Texas Banking Code regulate the acquisition of commercial banks. The BHC Act requires the prior approval of the Federal Reserve Board for the direct or indirect acquisition of more than five percent of the voting shares of a commercial bank or bank holding company. With respect to Frost Bank, the approval of the Comptroller of the Currency is required for branching, purchasing the assets of other banks and bank mergers in which the continuing bank is a national bank. In reviewing bank acquisition and merger applications, the bank regulatory authorities will consider, among other things, the competitive effect and public benefits of the transactions, the capital position of the combined organization, and the applicant's record under the Community Reinvestment Act and fair housing laws. Cullen/Frost regularly evaluates acquisition opportunities and conducts due diligence activities in connection with possible acquisitions. As a result, acquisition discussions and, in some cases, negotiations may take place and future acquisitions involving cash, debt or equity securities may occur. Acquisitions typically involve the payment of a premium over book and market values, and, therefore, some dilution of the Corporation's book value and net income per common share may occur in connection with any future transactions. INTERSTATE BANKING AND BRANCHING LEGISLATION -------------------------------------------- The Riegle-Neal Interstate Branching Efficiency Act ("IBBEA"), authorizes interstate acquisitions of banks and bank holding companies without geographic limitation. IBBEA also authorizes a bank to merge with a bank in another state as long as neither of the states has opted out of interstate branching. A bank may establish a de novo branch in a state in which the bank does not maintain a branch if the state expressly permits de novo branching. Once a bank has established branches in a state through an interstate merger transaction, the bank may establish and acquire additional branches at any location in the state where any bank involved in the merger transaction could have established or acquired branches under applicable federal or state law. A bank that has established a branch in a state through de novo branching may establish and acquire additional branches in such state in the same manner and to the same extent as a bank having a branch in such state as a result of an interstate merger. If a state opts out of interstate branching within the specified time period, no bank in any other state may establish a branch in the opting out state, whether through an acquisition or de novo. On August 28, 1995, Texas enacted legislation opting out of interstate branching; however, in the second quarter of 1998, the OCC approved a series of merger transactions requested by a non-Texas based institution that ultimately resulted in the merger of its Texas based bank into the non-Texas based institution. Although challenged in the courts, the final legal ruling allowed the merger to proceed. In addition, on May 13, 1998, the Texas Banking Commissioner began accepting applications filed by state banks to engage in interstate mergers and branching. REGULATORY ECONOMIC POLICIES ---------------------------- The earnings of Cullen/Frost are affected not only by general economic conditions but also by the policies of various governmental regulatory authorities. The Federal Reserve Board regulates the supply of credit in order to influence general economic conditions, primarily through open market operations in United States government obligations, varying the discount rate on financial institution borrowings, varying reserve 8 9 requirements against financial institution deposits and restricting certain borrowings by such financial institutions and their subsidiaries. The deregulation of interest rates has had and is expected to continue to have an impact on the competitive environment in which Frost Bank operates. Governmental policies have had a significant effect on the operating results of commercial banks in the past and are expected to continue to do so in the future. However, Cullen/Frost cannot accurately predict the nature or extent of any effect such policies may have on its future business and earnings. EMPLOYEES --------- At December 31, 2000, Cullen/Frost employed 3,394 full-time equivalent employees. Employees of Cullen/Frost enjoy a variety of employee benefit programs, including a retirement plan, 401(k) stock purchase plans, various comprehensive medical, accident and group life insurance plans and paid vacations. Cullen/Frost considers its employee relations to be good. 9 10 EXECUTIVE OFFICERS OF THE REGISTRANT ------------------------------------ The names, ages, recent business experience and positions or offices held by each of the executive officers of Cullen/Frost during 2000 are as follows:
AGE AS OF NAME AND POSITIONS OR OFFICES 12/31/00 RECENT BUSINESS EXPERIENCE ------------------------------------------ --------- ------------------------------------------------ T.C. Frost 73 Officer and Director of Frost Bank since 1950. Senior Chairman of the Board Chairman of the Board of Cullen/Frost from 1973 and Director to October 1995. Member of the Executive Committee of Cullen/Frost from 1973 to present. Chief Executive Officer of Cullen/Frost from July 1977 to October 1997. Senior Chairman of Cullen/Frost from October 1995 to present. Richard W. Evans, Jr. 54 Officer of Frost Bank since 1973. Executive Vice Chairman of the Board, President of Frost Bank from 1978 to April 1985. Chief Executive Officer and Director President of Frost Bank from April 1985 to August 1993. Chairman of the Board and Chief Executive Officer of Frost Bank from August 1993 to present. Director and Member of the Executive Committee of Cullen/Frost from August 1993 to present. Chairman of the Board and Chief Operating Officer of Cullen/Frost from October 1995 to October 1997. Chairman of the Board and Chief Executive Officer of Cullen/Frost from October 1997 to present. Patrick B. Frost 40 Officer of Frost Bank since 1985. President of President of Frost Bank Frost Bank from August 1993 to present. Director and Director of Cullen/Frost from May 1997 to present. Member of the Executive Committee of Cullen/Frost from July 1997 to present. Phillip D. Green 46 Officer of Frost Bank since July 1980. Vice Senior Executive Vice President President and Controller of Frost Bank from and Chief Financial Officer January 1981 to January 1983. Senior Vice President and Controller of Frost Bank from January 1983 to July 1985. Senior Vice President and Treasurer of Cullen/Frost from July 1985 to April 1989. Executive Vice President and Treasurer of Cullen/Frost from May 1989 to October 1995. Executive Vice President and Chief Financial Officer of Cullen/Frost from October 1995 to July 1998. Senior Executive Vice President and Chief Financial Officer from July 1998 to present.
Stan McCormick, age 55, has been an officer of Frost Bank since 1994 and Secretary of Cullen/Frost from June 1999 to present. There are no arrangements or understandings between any executive officer of Cullen/Frost and any other person pursuant to which such executive officer was or is to be selected as an officer. 10 11 ITEM 2. PROPERTIES ------------------- The executive offices of Cullen/Frost, as well as the principal banking quarters of Frost Bank, are housed in both a 21-story office tower and a nine-story office building located on approximately 3.5 acres of land in downtown San Antonio. Cullen/Frost and Frost Bank lease approximately 50 percent of the office tower. The nine-story office building was purchased in April 1994. Frost Bank also leases space in a seven-story parking garage adjacent to the banking quarters. In June 1987, Frost Bank consummated the sale of its office tower and leased back a portion of the premises under a 13-year primary lease term with options allowing for occupancy up to 50 years. The Bank also sold its related parking garage facility and leased back space in that structure under a 12-year primary lease term with options allowing for occupancy up to 50 years. Both leases allow for purchase of the related asset under specific terms. Frost Bank has agreed to repurchase the office tower and related parking garage facility. Closing of the purchase agreement on the properties is expected to take place in the second quarter of 2002. ITEM 3. LEGAL PROCEEDINGS -------------------------- Certain subsidiaries of Cullen/Frost are defendants in various matters of litigation which have arisen in the normal course of conducting a commercial banking business. In the opinion of management, the disposition of such pending litigation will not have a material effect on Cullen/Frost's consolidated financial position. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS ------------------------------------------------------------ None. 11 12 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER ---------------------------------------------------------------------- MATTERS -------- Common Stock Market Prices and Dividends The tables below set forth for each quarter the high and low sales prices for Cullen/Frost's common stock and the dividends per share paid for each quarter. The Company's common stock is traded on The New York Stock Exchange ("NYSE") under the symbol: CFR. High and low sales prices are as reported by the NYSE.
2000 1999 --------------- --------------- MARKET PRICE (PER SHARE) HIGH LOW High Low ---------------------------------------------------------------------------------------------- First Quarter.............................................. $26.94 $19.63 $27.94 $22.69 Second Quarter............................................. 28.81 23.50 28.94 23.19 Third Quarter.............................................. 34.94 26.25 28.94 22.81 Fourth Quarter............................................. 43.44 28.13 30.38 23.88
The number of record holders of common stock at February 16, 2001 was 2,227.
CASH DIVIDENDS (PER SHARE) 2000 1999 ---------------------------------------------------------------------------- First Quarter............................................... $.175 $.150 Second Quarter.............................................. .195 .175 Third Quarter............................................... .195 .175 Fourth Quarter.............................................. .195 .175 -------------- Total.................................................. $.760 $.675 ==============
The Corporation's management is committed to the continuation of the payment of regular cash dividends, however there is no assurance as to future dividends because they are dependent on future earnings, capital requirements and financial conditions. See "Capital" section on page 34 in Item 7 for further discussion and Note K "Dividends" on page 51. 12 13 ITEM 6. SELECTED FINANCIAL DATA -------------------------------- CONSOLIDATED STATEMENTS OF OPERATIONS (dollars in thousands, except per share amounts)
Year Ended December 31 --------------------------------------------------------------- 2000 1999 1998 1997 1996 1995 --------------------------------------------------------------------------------------------------------- INTEREST INCOME: Loans, including fees............... $394,073 $329,610 $300,721 $261,607 $219,279 $180,696 Securities.......................... 109,248 113,561 120,259 110,070 112,921 109,593 Time deposits....................... 505 164 Federal funds sold and securities purchased under resale agreements........................ 8,505 4,245 7,111 12,423 7,506 7,154 --------------------------------------------------------------- TOTAL INTEREST INCOME.......... 512,331 447,580 428,091 384,100 339,706 297,443 INTEREST EXPENSE: Deposits............................ 158,858 128,819 138,283 131,140 117,179 100,785 Federal funds purchased and securities sold under repurchase agreements........................ 17,889 12,500 11,606 8,739 9,773 15,347 Guaranteed preferred beneficial interests in the Corporation's junior subordinated deferrable interest debentures............... 8,475 8,475 8,475 7,652 Other borrowings.................... 4,346 808 1,754 1,434 1,037 739 --------------------------------------------------------------- TOTAL INTEREST EXPENSE......... 189,568 150,602 160,118 148,965 127,989 116,871 --------------------------------------------------------------- NET INTEREST INCOME............ 322,763 296,978 267,973 235,135 211,717 180,572 Provision for possible loan losses...... 14,103 12,427 10,393 9,174 8,494 7,605 --------------------------------------------------------------- NET INTEREST INCOME AFTER PROVISION FOR POSSIBLE LOAN LOSSES....................... 308,660 284,551 257,580 225,961 203,223 172,967 NON-INTEREST INCOME: Trust fees.......................... 49,266 46,411 46,863 43,275 36,898 34,342 Service charges on deposit accounts.......................... 60,627 58,787 53,601 47,627 41,570 33,364 Insurance commissions............... 10,331 3,902 Other service charges, collection and exchange charges, commissions and fees.......................... 20,143 13,779 13,293 10,352 8,323 11,098 Net gain (loss) on securities transactions...................... 4 (86) 359 498 (892) (1,382) Other............................... 30,494 28,470 22,361 18,953 17,403 18,241 --------------------------------------------------------------- TOTAL NON-INTEREST INCOME...... 170,865 151,263 136,477 120,705 103,302 95,663 NON-INTEREST EXPENSE: Salaries and wages.................. 138,643 122,104 109,781 98,126 84,989 69,835 Pension and other employee benefits.......................... 29,163 26,096 21,295 19,874 18,224 13,313 Net occupancy of banking premises... 27,905 27,149 25,486 22,812 21,486 20,238 Furniture and equipment............. 21,495 19,958 18,921 16,147 14,697 13,276 Intangible amortization............. 15,625 15,000 13,293 11,920 11,306 8,124 Other............................... 80,449 76,886 75,297 65,265 58,476 62,244 Merger related charges.............. 12,244 --------------------------------------------------------------- TOTAL NON-INTEREST EXPENSE..... 313,280 287,193 276,317 234,144 209,178 187,030 --------------------------------------------------------------- INCOME BEFORE INCOME TAXES..... 166,245 148,621 117,740 112,522 97,347 81,600 Income taxes............................ 57,428 50,979 42,095 39,555 34,409 28,213 --------------------------------------------------------------- NET INCOME..................... $108,817 $ 97,642 $ 75,645 $ 72,967 $ 62,938 $ 53,387 =============================================================== Net income per common share: Basic............................... $ 2.09 $ 1.83 $ 1.42 $ 1.38 $ 1.18 $ 1.01 Diluted............................. 2.03 1.78 1.38 1.33 1.16 .99 Return on Average Assets................ 1.52% 1.42% 1.18% 1.28% 1.23% 1.20% Return on Average Equity................ 20.41 18.68 15.44 16.38 15.63 14.84 Historical amounts have been restated for stock splits and to reflect the merger with Overton Bancshares, Inc.
13 14 SELECTED FINANCIAL DATA (dollars in thousands, except per share amounts)
Year Ended December 31 --------------------------------------------------------------------------- 2000 1999 1998 1997 1996 1995 --------------------------------------------------------------------------- BALANCE SHEET DATA Total assets......................... $7,660,372 $6,996,680 $6,869,605 $6,045,573 $5,599,248 $4,774,750 Guaranteed preferred beneficial interest in the Corporation's junior subordinated deferrable interest debentures, net........... 98,568 98,513 98,458 98,403 Shareholders' equity................. 573,026 509,311 512,919 462,929 424,786 382,003 Average shareholders' equity to average total assets............... 7.46% 7.60% 7.63% 7.83% 7.87% 8.10% Tier 1 risk-based capital ratio...... 10.08 11.04 12.23 13.21 11.39 12.73 Total risk-based capital ratio....... 11.24 12.28 13.48 14.46 12.64 13.98 PER COMMON SHARE DATA Net income-basic..................... $ 2.09 $ 1.83 $ 1.42* $ 1.38 $ 1.18 $ 1.01 Net income-diluted................... 2.03 1.78 1.38* 1.33 1.16 .99 Cash dividends paid-CFR.............. .760 .675 .575 .480 .403 .285 Shareholders' equity................. 11.14 9.64 9.60 8.74 7.96 7.18 LOAN PERFORMANCE INDICATORS Non-performing assets................ $ 18,933 $ 18,837 $ 17,104 $ 18,088 $ 14,069 $ 18,681 Non-performing assets to: Total loans plus foreclosed assets.......................... .42% .45% .47% .58% .53% .87% Total assets....................... .25 .27 .25 .30 .25 .39 Allowance for possible loan losses... $ 63,265 $ 58,345 $ 53,616 $ 48,073 $ 42,821 $ 36,525 Allowance for possible loan losses to period-end loans................... 1.40% 1.40% 1.47% 1.54% 1.60% 1.71% Net loan charge-offs................. $ 9,183 $ 8,764 $ 6,100 $ 6,027 $ 2,825 $ 527 Net loan charge-offs to average loans.............................. .21% .22% .18% .21% .12% .03% COMMON STOCK DATA Common shares outstanding at period end................................ 51,430 52,823 53,425 52,940 53,365 53,224 Weighted average common shares....... 52,123 53,368 53,150 52,999 53,195 53,043 Dilutive effect of stock options..... 1,534 1,378 1,529 1,753 1,257 945 Dividends as a percentage of net income**........................... 36.35% 36.88% 35.79% 30.50% 29.80% 24.47% NON-FINANCIAL DATA Number of employees.................. 3,394 3,336 3,095 3,045 2,743 2,399 Shareholders of record............... 2,250 2,442 2,624 2,358 2,336 2,463 * 1998 basic and diluted earnings per share before the after-tax merger related charge was $1.60 and $1.56, respectively. ** Includes dividends paid by Overton and excludes the after-tax impact of the $12.2 million merger related charge in 1998.
14 15 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND ------------------------------------------------------------------------ RESULTS OF OPERATIONS --------------------- FINANCIAL REVIEW Discussed below are the operating results for Cullen/Frost Bankers, Inc. and Subsidiaries ("Cullen/ Frost" or the "Corporation") for the years 1998 through 2000. Cullen/Frost acquired two independent insurance agencies, one each in the second and third quarters of 2000. Cullen/Frost completed bank acquisitions during the first and second quarters of 1999 and one in the first quarter of 1998. The Corporation also acquired an independent insurance agency in the second quarter of 1999. These acquisitions, as described below, were all accounted for as purchase transactions, and as such, their related results of operations are included from the date of acquisition. During the second quarter of 1998, Cullen/Frost also completed the merger with Overton Bancshares, Inc., as described below. The merger was accounted for as a "pooling of interests" transaction, and as such, historical amounts were restated to reflect the merger. All balance sheet amounts presented in the following financial review are averages unless otherwise indicated. Certain reclassifications have been made to make prior periods comparable. Taxable-equivalent adjustments assume a 35 percent federal tax rate. Dollar amounts in tables are stated in thousands, except for per share amounts. FORWARD-LOOKING STATEMENTS -------------------------- Certain statements contained in this Annual Report on Form 10-K that are not statements of historical fact constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 (the "Act"), not withstanding that they are not specifically identified as such. In addition, certain statements in future filings by Cullen/Frost with the Securities and Exchange Commission, in press releases, and in oral and written statements made by or with the approval of the Corporation which are not statements of historical fact constitute forward-looking statements within the meaning of the Act. Examples of forward-looking statements include, but are not limited to: (i) projections of revenues, income or loss, earnings or loss per share, the payment or nonpayment of dividends, capital structure and other financial items; (ii) statements of plans and objectives of Cullen/Frost or its management or Board of Directors, including those relating to products or services; (iii) statements of future economic performance; and (iv) statements of assumptions underlying such statements. Words such as "believes," "anticipates," "expects," "intends," "targeted" and similar expressions are intended to identify forward-looking statements but are not the exclusive means of identifying such statements. Forward-looking statements involve risks and uncertainties that may cause actual results to differ materially from those in such statements. Factors that could cause actual results to differ from those discussed in the forward-looking statements include, but are not limited to: (i) local, regional and international economic conditions and the impact they may have on Cullen/Frost and its customers; (ii) the effects of and changes in trade, monetary and fiscal policies and laws, including interest rate policies of the Federal Reserve Board; (iii) inflation, interest rate, market and monetary fluctuations; (iv) the timely development and acceptance of new products and services and perceived overall value of these products and services by users; (v) changes in consumer spending, borrowings and savings habits; (vi) technological changes; (vii) acquisitions and integration of acquired businesses; (viii) the ability to increase market share and control expenses; (ix) changes in the competitive environment among financial holding companies; (x) the effect of changes in laws and regulations (including laws and regulations concerning taxes, banking, securities and insurance) with which Cullen/Frost and its subsidiaries must comply; (xi) the effect of changes in accounting policies and practices, as may be adopted by the regulatory agencies as well as the Financial Accounting Standards Board; (xii) changes in the Corporation's organization, compensation and benefit plans; (xiii) the costs and effects of litigation and of unexpected or adverse outcomes in such litigation; (xiv) costs or difficulties related to the integration of the businesses of Cullen/Frost being greater than expected; and (xv) the Corporation's success at managing the risks involved in the foregoing. 15 16 Such forward-looking statements speak only as of the date on which such statements are made. Cullen/ Frost undertakes no obligation to update any forward-looking statement to reflect events or circumstances after the date on which such statement is made, or to reflect the occurrence of unanticipated events. MERGER AND ACQUISITIONS ----------------------- Cullen/Frost regularly evaluates acquisition opportunities and conducts due diligence activities in connection with possible acquisitions. As a result, acquisition discussions and, in some cases, negotiations may take place and future acquisitions involving cash, debt or equity securities may occur. Acquisitions typically involve the payment of a premium over book and market values, and, therefore, some dilution of the Corporation's book value and net income per common share may occur in connection with any future transactions. On July 1, 2000 Frost Insurance Agency ("FIA"), a subsidiary of The Frost National Bank, acquired Nieman Hanks Puryear Partners and Nieman Hanks Puryear Benefits ("Nieman Hanks"), an Austin-based independent insurance agency. Nieman Hanks offers property and casualty insurance, professional and umbrella liability, homeowners and auto insurance, group health, life and disability policies and 401(k) retirement plans and executive planning. Nieman Hanks is the third acquisition made by FIA, following the additions of Professional Insurance Agents, Inc. ("PIA") and Wayland Hancock Insurance Agency, Inc. ("Wayland Hancock") mentioned below. This acquisition did not have a material impact on Cullen/Frost's 2000 net income. On April 1, 2000, FIA acquired Wayland Hancock, a Houston-based independent insurance agency. Wayland Hancock offers a full range of life and health insurance, as well as retirement and financial planning, to individuals and businesses. This acquisition did not have a material impact on Cullen/Frost's 2000 net income. On May 20, 1999, Cullen/Frost paid approximately $42.3 million to acquire Commerce Financial Corporation and its four-location subsidiary, Bank of Commerce, in Fort Worth, Texas. The Corporation acquired loans of approximately $76 million and deposits of approximately $164 million. The intangible assets associated with the acquisition amounted to approximately $30.5 million. This acquisition did not have a material impact on Cullen/Frost's 1999 net income. On May 1, 1999, FIA acquired PIA, a mid-sized independent insurance agency based in Victoria, Texas, with additional locations in San Antonio, New Braunfels and Refugio. PIA offers as agent, corporate and personal property and casualty insurance as well as group health and life insurance products to individuals and businesses. This acquisition did not have a material impact on Cullen/Frost's 1999 net income. On January 15, 1999, Cullen/Frost paid approximately $18.7 million to acquire Keller State Bank with three locations in Tarrant County, Texas. The Corporation acquired loans of approximately $38 million and deposits of approximately $62 million. This acquisition did not have a material impact on Cullen/Frost's 1999 net income. On May 29, 1998, Cullen/Frost completed the merger of Overton Bancshares, Inc., ("Overton") in Fort Worth, Texas, and its wholly-owned subsidiary, Overton Bank & Trust, N.A. The merger was the Corporation's first entry into the Fort Worth market. With the merger, the Corporation added twelve locations in Fort Worth/Arlington and two in Dallas. The Corporation issued approximately 4.38 million common shares as part of this transaction. As a result of the transaction, the Corporation recorded a merger related charge of $12.2 million primarily consisting of severance payments and other employee benefits, and investment banking fees. On January 2, 1998, the Corporation paid approximately $55.3 million to acquire Harrisburg Bancshares, Inc., including its subsidiary Harrisburg Bank in Houston, Texas. The Corporation acquired loans of approximately $125 million and deposits of approximately $222 million. This acquisition did not have a material impact on the Corporation's 1998 net income. 16 17 Investment Banking Subsidiary On August 2, 1999 Cullen/Frost began operations of its investment banking subsidiary in Dallas, Texas. Frost Securities, Inc. offers a full range of services including equity research, institutional sales, trading and investment banking services to institutional investors and corporate customers who need access to the capital markets. RESULTS OF OPERATIONS --------------------- For the year ended December 31, 2000, Cullen/Frost reported net income of $108.8 million or $2.03 per diluted common share, an all-time earnings high. Net income for the year ended December 31, 1999 was $97.6 million or $1.78 per diluted common share. Operating earnings for the year ended December 31, 1998 were $85.2 million or $1.56 per diluted common share and excluded the after-tax impact of the merger related charge of $12.2 million associated with the merger of Overton. Return on average assets for 2000 was 1.52 percent compared with 1.42 percent in 1999, while return on average equity was 20.41 percent in 2000 compared with 18.68 percent in 1999. Excluding the merger related charge, return on average assets for 1998 was 1.33 percent, while return on average equity was 17.38 percent.
2000 Change 1999 Change EARNINGS SUMMARY 2000 FROM 1999 1999 FROM 1998 1998 --------------------------------------------------------------------------------------------------- Taxable-equivalent net interest income............................... $327,257 $25,777 $301,480 $ 30,708 $270,772 Taxable-equivalent adjustment.......... 4,494 (8) 4,502 1,703 2,799 ---------------------------------------------------------- Net interest income.................... 322,763 25,785 296,978 29,005 267,973 Provision for possible loan losses..... 14,103 1,676 12,427 2,034 10,393 Non-interest income: Net gain (loss) on securities transactions...................... 4 90 (86) (445) 359 Other................................ 170,861 19,512 151,349 15,231 136,118 ---------------------------------------------------------- Total non-interest income.... 170,865 19,602 151,263 14,786 136,477 Non-interest expense: Goodwill amortization................ 7,875 726 7,149 993 6,156 Other intangible amortization........ 7,750 (101) 7,851 714 7,137 Merger related charge................ (12,244) 12,244 Other operating expenses............. 297,655 25,462 272,193 21,413 250,780 ---------------------------------------------------------- Total non-interest expense... 313,280 26,087 287,193 10,876 276,317 ---------------------------------------------------------- Income before income taxes............. 166,245 17,624 148,621 30,881 117,740 Income taxes........................... 57,428 6,449 50,979 8,884 42,095 ---------------------------------------------------------- Net income............................. $108,817 $11,175 $ 97,642 $ 21,997 $ 75,645 ========================================================== Per common share: Net income-basic..................... $ 2.09 $ .26 $ 1.83 $ .41 $ 1.42* Net income-diluted................... 2.03 .25 1.78 .40 1.38* Return on Average Assets............... 1.52% .10% 1.42% .24% 1.18%* Return on Average Equity............... 20.41 1.73 18.68 3.24 15.44* * Operating basic and diluted earnings per share for 1998 were $1.60 and $1.56, respectively. Operating ROA and ROE for 1998 were 1.33 percent and 17.38 percent, respectively.
17 18 RESULTS OF SEGMENT OPERATIONS ----------------------------- The Corporation's operations are managed along three major Operating Segments: Banking, the Financial Management Group and Frost Securities Inc. ("FSI"), the investment banking subsidiary started in 1999. A description of each business and the methodologies used to measure financial performance are described in Note U to the Consolidated Financial Statements on page 62. The following table summarizes operating earnings and net income by Operating Segment for each of the last three years:
Year Ended December 31 ---------------------------- (DOLLARS IN THOUSANDS) 2000 1999 1998 ------------------------------------------------------------------------------------------ Banking..................................................... $105,973 $93,548 $78,826 Financial Management Group.................................. 15,708 14,967 14,497 Frost Securities Inc. ...................................... (3,350) (2,387) N/A Non-Banks................................................... (9,514) (8,486) (8,167) ---------------------------- Consolidated operating earnings............................. $108,817 $97,642 $85,156* Consolidated net income..................................... $108,817 $97,642 $75,645 ============================ * Excludes the after-tax impact of the $12.2 million Overton merger related charge. See discussion on page 16.
Banking net income was $106.0 million for 2000 up 13.3 percent from $93.5 million for 1999 and $78.8 million for 1998. The increase in net income in 2000 versus 1999 was due in part to net interest income growth of 8.1 percent, mainly influenced by average loan growth of $418.5 million or 10.6 percent. Non-interest expenses were up 2.7 percent due to expenses impacted by normal on-going operations. Staffing levels however were reduced as Frost Bank entered into a co-branding relationship with GMAC Mortgage to provide Cullen/Frost customers with mortgage products as well as the servicing of 1-4 family residential loans. Staff was also reduced slightly as the Bank withdrew from indirect auto lending. There were no bank acquisitions during the year 2000, however 1999's results include two bank acquisitions made in the first half of the year and 1998's results also include one bank acquisition made at the beginning of the year. The Financial Management Group net income for 2000 was $15.7 million, up 5.0 percent from last year and compared to $15.0 million for 1999 and $14.5 million for 1998. The growth in net income in this group during 2000 was mainly attributable to growth in investment fees and oil and gas fees. While oil and gas fees were influenced by the higher market prices of oil and gas, investment fees were positively impacted by offering a diversity of investment products. This was accomplished through various funds and fund managers as well as Frost investment services focus on providing brokerage services and personal wealth management services for wealthy clients and customers. Frost Securities Inc., the Corporation's investment banking subsidiary began operations in August of 1999. The net loss of $3.4 million for 2000 increased from a $2.4 million loss for a half year of operations in 1999. While the net loss in 2000 was impacted by less than favorable market conditions, revenues were up $5.3 million driven primarily by equities sales and trading. Staffing at the end of 2000 included 43 employees compared to 28 at the end of 1999. As of year-end 2000 there were 46 energy and 32 technology stocks under coverage. Most of the increase in the operating loss for non-banks in 2000 was due to an increase in expenses relating to incentive based compensation and fees for professional services. NET INTEREST INCOME ------------------- Net interest income on a tax equivalent basis for 2000 was $327.3 million, an increase from $301.5 million recorded in 1999 and the $270.8 million recorded in 1998. The primary reason for the increase over the past three years has been loan growth. See "Consolidated Average Balance Sheets" on pages 66 and 67 and "Rate Volume Analysis" on page 68. The net interest margin, was 5.32 percent for the year ended December 31, 2000, compared to 5.15 percent and 4.93 percent for the years 1999 and 1998, respectively. The increase in the net interest margin from a year ago is due to strong loan growth resulting in an improved 18 19 earning asset mix and growth in demand deposits. Net interest spread for 2000 decreased one basis point to 4.33 percent. This compares to 4.34 percent and 4.04 percent for 1999 and 1998, respectively. The increase in net interest spread for 1999 from 1998 is primarily due to Cullen/Frost's ability to improve loan spreads through lower funding costs. The net interest spread as well as the net interest margin could be impacted by future changes in short-and long-term interest rate levels, as well as the impact from the competitive environment. MARKET RISK DISCLOSURE -- INTEREST RATE SENSITIVITY --------------------------------------------------- Market risk is the potential loss arising from adverse changes in the fair value of a financial instrument due to the changes in market rates and prices. In the ordinary course of business, Cullen/Frost's market risk is primarily that of interest rate risk. The Corporation's interest rate sensitivity and liquidity are monitored by its Asset/Liability Management Committee on an ongoing basis. The Committee seeks to avoid fluctuating net interest margins and to maintain consistent growth of net interest income through periods of changing interest rates. A variety of measures are used to provide for a comprehensive view of the magnitude of interest rate risk, the distribution of risk, level of risk over time and exposure to changes in certain interest rate relationships. Cullen/Frost utilizes an earnings simulation model as the primary quantitative tool in measuring the amount of interest rate risk associated with changing market rates. The model quantifies the effects of various interest rate scenarios on the projected net interest income and net income over the ensuing 12 month period. The model was used to measure the impact on net interest income relative to a base case scenario, of rates increasing or decreasing ratably 200 basis points over the next 12 months. These simulations incorporate assumptions regarding balance sheet growth and mix, pricing and the repricing and maturity characteristics of the existing and projected balance sheet. All off-balance sheet financial instruments such as derivatives are included in the model. Other interest rate-related risks such as prepayment, basis and option risk are also considered. The resulting model simulations show that a 200 basis point increase in rates will result in a positive variance in net interest income of 0.9 percent relative to the base case over the next 12 months; while a decrease of 200 basis points will result in a negative variance in net interest income of 1.8 percent. This compares to last year's estimate when a 200 basis points increase in rates resulted in a positive variance in net interest income of 0.3 percent relative to the base case over the next 12 months while a decrease of 200 basis points resulted in a negative variance in net interest income of 0.8 percent. The Corporation's trading portfolio is immaterial and as such separate quantitative disclosure is not presented. As the accompanying table indicates, the Corporation is liability-sensitive, on a cumulative basis, at time periods of one year or less. Technically, Cullen/Frost may reprice savings and Interest-on-Checking at any time and accordingly, they have been classified in the 0-30 day sensitivity category in the following table. However, the degree and frequency of movement is more limited in practice, and they are much less sensitive than contractually possible. This gap analysis is based on a point in time and may not be meaningful because assets and liabilities must be categorized according to contractual maturities and repricing periods rather than estimating more realistic behaviors as is done in the sensitivity model discussed above. Also, the gap analysis does not consider subsequent changes in interest rate levels or spreads between asset and liability categories. Cullen/Frost continuously monitors and manages the balance between interest rate-sensitive assets and liabilities. The Corporation's objective is to manage the impact of fluctuating market rates on net interest income within acceptable levels. In order to meet this objective, the Corporation may lengthen or shorten the duration of assets or liabilities or enter into derivative contracts to mitigate potential market risk. 19 20
December 31, 2000 ----------------------------------------------------------------------------- Immediately Rate Non-Rate Sensitive Rate Sensitive Within Sensitive CUMULATIVE INTEREST RATE SENSITIVITY ----------- ------------------------------------ ----------- (PERIOD-END BALANCES) 0-30 Days 90 Days One Year Five Years >Five Years Total --------------------------------------------------------------------------------------------------------------------- Earning Assets: Loans............................. $2,725,163 $2,900,250 $3,250,587 $4,063,807 $ 470,838 $4,534,645 Securities........................ 145,797 298,428 555,974 969,619 698,865 1,668,484 Federal funds sold & other short-term investments.......... 218,624 218,624 218,624 218,624 218,624 ----------------------------------------------------------------------------- Total earning assets......... $3,089,584 $3,417,302 $4,025,185 $5,252,050 $1,169,703 $6,421,753 ============================================================================= Interest-Bearing Liabilities: Savings and Interest-on- Checking........................ $1,012,790 $1,012,790 $1,012,790 $1,012,790 $1,012,790 Money market deposit accounts..... 1,774,656 1,774,656 1,774,656 1,774,656 1,774,656 Certificates of deposit and other time accounts................... 250,856 637,078 1,344,130 1,432,560 $ 161,060 1,593,620 Federal funds purchased and other borrowings...................... 363,111 373,461 386,022 390,700 107,193 497,893 ----------------------------------------------------------------------------- Total interest-bearing liabilities................ $3,401,413 $3,797,985 $4,517,598 $4,610,706 $ 268,253 $4,878,959 ============================================================================= Interest sensitivity gap.............. $ (311,829) $ (380,683) $ (492,413) $ 641,344 $ 901,450 $1,542,794 ============================================================================= Ratio of earning assets to interest- bearing liabilities................. .91 .90 .89 1.14 ================================================== In developing the classifications used for this analysis, it was necessary to make certain assumptions and approximations in assigning assets and liabilities to different maturity categories. For example, savings and Interest-on-Checking are subject to immediate withdrawal and as such are presented as repricing within the earliest period presented even though their balances have historically not shown significant sensitivity to changes in interest rates. Loans are included net of unearned discount of $7.3 million. Consumer loans are distributed in the immediately rate-sensitive category for those tied to market rates or to other categories according to the repayment schedule. The above table does not reflect interest rate swaps/floor further discussed on page 32.
20 21 LIQUIDITY --------- Asset liquidity is provided by cash and assets which are readily marketable or pledgeable or which will mature in the near future. Liquid assets include cash, short-term time deposits in banks, securities available for sale, maturities and cash flow from securities held to maturity, and Federal funds sold and securities purchased under resale agreements. Liability liquidity is provided by access to funding sources which include core deposits and correspondent banks in Cullen/Frost's natural trade area which maintain accounts with and sell Federal funds to the subsidiary bank of the Corporation, as well as Federal funds purchased and securities sold under repurchase agreements from upstream banks. The liquidity position of Cullen/Frost is continuously monitored and adjustments are made to the balance between sources and uses of funds as deemed appropriate. NON-INTEREST INCOME ------------------- Non-interest income of $170.9 million was reported for 2000, compared with $151.3 million for 1999 and $136.5 million for 1998. The increase in non-interest income for 2000 was broad based as all categories of fee income increased. The increase came from core growth and was also driven in part, by the positive impact of the insurance agency acquisitions made during the second and third quarters and the first full year of operations of FSI. In addition to core growth, non-interest income was favorably impacted in 1999 by the first quarter acquisition of Keller State Bank and the second quarter acquisitions of Commerce Financial Corporation and PIA. The non-interest income growth in 1998 also included the impact of the acquisition of Harrisburg Bancshares, Inc., in the first quarter of 1998.
Year Ended December 31 ------------------------------------------------------------ 2000 1999 1998 ------------------ ------------------ ------------------ PERCENT Percent Percent Non-Interest Income AMOUNT CHANGE Amount Change Amount Change ------------------------------------------------------------------------------------------------- Trust fees......................... $ 49,266 + 6.2% $ 46,411 - 1.0% $ 46,863 + 8.3% Service charges on deposit accounts......................... 60,627 + 3.1 58,787 + 9.7 53,601 +12.5 Insurance commissions.............. 10,331 +164.8 3,902 Other service charges, collection and exchange charges, commissions and fees......................... 20,143 + 46.2 13,779 + 3.7 13,293 +28.4 Net gain(loss) on securities transactions..................... 4 +104.7 (86) -124.0 359 -27.9 Other.............................. 30,494 + 7.1 28,470 + 27.3 22,361 +18.0 -------- -------- -------- Total.................... $170,865 + 13.0 $151,263 + 10.8 $136,477 +13.1 ======== ======== ========
21 22 Trust income was up $2.9 million or 6.2 percent during 2000, mainly due to increases in investment fees and oil and gas fees partially offset by decreases in management fees associated with small cap value funds. The market value of trust assets grew $108 million to $12.9 billion in 2000 with most of the growth occurring in discretionary assets. Trust assets were comprised of discretionary assets of $5.7 billion and non-discretionary assets of $7.2 billion at year end 2000 compared to $5.6 billion and $7.2 billion, respectively, last year. In 1999, trust income was down $452 thousand or 1.0 percent from 1998, due mainly to decreases in management fees associated with some small cap value funds partially offset by increases in investment fees and custody fees. Deposit service charges increased $1.8 million or 3.1 percent from 1999. This increase is due to higher overdraft charges and higher revenues associated with individual accounts. The increase in revenues from individual accounts resulted from the simplification of deposit account offerings while providing Cullen/ Frost's customers with better value. Lower NSF charges and cash management fees on commercial accounts offset the increase. Although cash management billable services were up, the decrease in cash management fees reflects the impact of a higher earnings credit rate, which results in more payment for services through keeping balances rather than through the payment of fees. In 1999, deposit service charges increased $5.2 million or 9.7 percent from 1998. The increase from 1998 to 1999 occurred as the result of deposit growth that generated increases in overdraft charges, cash management fees on commercial and individual deposits partially offset by lower NSF charges. Insurance commissions increased $6.4 million or 164.8 percent to $10.3 million in 2000 compared to $3.9 million in 1999. The increase in insurance commission income was positively impacted by the two agency acquisitions during 2000. Other service charges and fees increased $6.4 million or 46.2 percent when compared to 1999. Primary contributors to this growth were revenues from Frost Securities, as they completed their first full year of operation, and mutual fund fees. Other service charges and fees increased $486 thousand or 3.7 percent from 1998 to 1999. Mutual fund fees were the main contributor to the increase in other service charges from 1998. Other non-interest income increased $2.0 million or 7.1 percent to $30.5 million in 2000 compared to $28.5 million in 1999. This increase resulted from higher income primarily related to the increased usage of the Visa check card and annuity sales income offset by fewer mortgage loan origination fees which resulted from the Corporation's outsourcing mortgage loans through the co-branding arrangement with GMAC Mortgage and lower gains on the sale of student loans. Also included in 2000 is the $2 million non-recurring gain from the sale of the mortgage servicing rights in the second quarter of 2000. The increase in 1999 from 1998 is primarily attributed to increases in the gain on sale of student loans, check card income, and a non-recurring $2 million gain on the sale of a piece of property in connection with a branch restructuring. 22 23 NON-INTEREST EXPENSE -------------------- Non-interest expense increased 9.1 percent to $313.3 million for 2000. The increase in non-interest expense for 2000 was impacted by the insurance agency acquisitions made during the second and third quarters. In addition, the impact of a full year's cost associated with Frost Securities and Commerce Financial Corporation added to the increase. The acquisitions of Keller State Bank, Commerce Financial Corporation, and PIA, as well as the formation of Frost Securities, Inc. impacted the growth in expenses in 1999. Excluding the merger-related charge of $12.2 million during the second quarter of 1998 which was associated with the merger of Overton, non-interest expenses increased by 8.8 percent in 1999 to $287.2 million from $264.1 million in 1998.
Year Ended December 31 ------------------------------------------------------------ 2000 1999 1998 ------------------ ------------------ ------------------ PERCENT Percent Percent NON-INTEREST EXPENSE AMOUNT CHANGE Amount Change Amount Change --------------------------------------------------------------------------------------------------- Salaries and wages................... $138,643 +13.5% $122,104 +11.2% $109,781 +11.9% Pension and other employee benefits........................... 29,163 +11.8 26,096 +22.5 21,295 + 7.2 Net occupancy of banking premises.... 27,905 + 2.8 27,149 + 6.5 25,486 +11.7 Furniture and equipment.............. 21,495 + 7.7 19,958 + 5.5 18,921 +17.2 Intangible amortization.............. 15,625 + 4.2 15,000 +12.8 13,293 +11.5 Merger related charge................ 12,244 Other................................ 80,449 + 4.6 76,886 + 2.1 75,297 +15.4 -------- -------- -------- Total........................... $313,280 + 9.1 $287,193 + 3.9 $276,317 +18.0 ======== ======== ========
Salaries and wages increased by $16.5 million or 13.5 percent in 2000 and $12.3 million or 11.2 percent in 1999. Salaries and wages in both years have experienced increases related to Frost Securities and acquisitions made by Frost Insurance Agency as well as normal market and merit increases based on performance. Also, included in 2000 were approximately $600 thousand in severance costs related to the sale of the mortgage servicing rights and the initiation of the outsourcing of mortgage loans through the co-branding arrangement with GMAC Mortgage Corporation. Pension and other employee benefits increased by $3.1 million or 11.8 percent during 2000 as a result of the new business initiatives as well as higher medical expenses, higher payroll taxes, bank contributions to the 401(k) stock plan and the acquisitions. For 1999 pension and other employee benefits increased 22.5 percent or $4.8 million also as a result of entry into the new business initiatives, retirement plan expense and the impact of the acquisitions on payroll taxes and medical insurance. Net occupancy of banking premises increased $756 thousand or 2.8 percent during 2000 primarily related to higher building lease expense and general building maintenance and utility expenses affected by de novo branches opened in 2000 offset somewhat by lower property tax expense. In 1999 net occupancy of banking premises increased $1.7 million or 6.5 percent due to costs associated with branch activity and building maintenance and higher property taxes impacted by the acquisitions. Furniture and equipment costs increased $1.5 million or 7.7 percent in 2000 primarily due to higher amortized software and software maintenance. In 1999, furniture and equipment costs increased $1.0 million or 5.5 percent primarily due to upgrades and maintenance on software. Intangible amortization increased during 2000 and 1999 due to acquisitions accounted for under the purchase method. Goodwill amortization associated with acquisitions was $7.9 million for the year 2000 compared to $7.1 million last year. Other non-interest expense increased $3.6 million or 4.6 percent during 2000 and was broad based throughout several operational accounts including professional expenses, business development and travel expenses. Other non-interest expense was up 2.1 percent in 1999 mostly due to higher conversion costs related to the acquisitions, as well as increases in armored motor service expenses, appraisal, telephone, and data communication expenses. 23 24 INCOME TAXES ------------ Cullen/Frost recognized income tax expense of $57.4 million in 2000, compared to $51.0 million in 1999, and $42.1 million in 1998. The effective tax rate in 2000 was 34.54 percent compared to 34.30 percent in 1999 and 35.75 percent in 1998. The lower tax rate in 2000 and 1999 was mainly due to an increase in tax exempt income. For a detailed analysis of the Corporation's income taxes see Note O "Income Taxes" on page 58. CASH EARNINGS ------------- Historically, excluding the merger with Overton, the Corporation's acquisitions have been accounted for using the purchase method of accounting which results in the creation of intangible assets. These intangible assets are deducted from capital in the determination of regulatory capital. Thus, "cash" or "tangible" earnings represents the regulatory capital generated during the year and can be viewed as net income excluding intangible amortization, net of tax. While the definition of "cash" or "tangible" earnings may vary by company, we believe this definition is appropriate as it measures the per share growth of regulatory capital, which impacts the amount available for dividends and acquisitions. The following table reconciles reported earnings to net income excluding intangible amortization ("cash" earnings) for each of the three most recent year periods:
Year Ended December 31 ----------------------------------------------------------------------- 2000 1999 ---------------------------------- ---------------------------------- REPORTED INTANGIBLE "CASH" Reported Intangible "Cash" EARNINGS AMORTIZATION EARNINGS Earnings Amortization Earnings ----------------------------------------------------------------------------------------------------------------- Income before income taxes.............. $166,245 $15,625 $181,870 $148,621 $15,000 $163,621 Income taxes............................ 57,428 3,437 60,865 50,979 3,434 54,413 ----------------------------------------------------------------------- Net income.............................. $108,817 $12,188 $121,005 $97,642 $11,566 $109,208 ======================================================================= Net income per diluted common share(1)............................... $ 2.03 $ .23 $ 2.26 $ 1.78 $ .21 $ 1.99 Return on assets(1)..................... 1.52% 1.69%* 1.42% 1.59%* Return on equity(1)..................... 20.41 22.70** 18.68 20.89** Year Ended December 31 ---------------------------------- 1998 ---------------------------------- Reported Intangible "Cash" Earnings Amortization Earnings ---------------------------------------- ---------------------------------- Income before income taxes.............. $117,740 $13,293 $131,033 Income taxes............................ 42,095 3,242 45,337 ---------------------------------- Net income.............................. $75,645 $10,051 $ 85,696 ================================== Net income per diluted common share(1)............................... $ 1.38 $ .19 $ 1.57 Return on assets(1)..................... 1.18% 1.34%* Return on equity(1)..................... 15.44 17.49** (1) 1998 diluted operating earnings per share and diluted operating cash earnings per share were $1.56 and $1.74, respectively. Operating cash ROA and cash ROE for 1998 were 1.48 percent and 19.43 percent, respectively. Operating earnings exclude the after-tax impact of the $12.2 million merger related charge associated with the merger with Overton. * CALCULATED AS A/B ** CALCULATED AS A/C ---------------------
2000 1999 1998 ---------- ---------- ---------- (A) Net income before intangible amortization (including goodwill and core deposit intangibles, net of tax).......... $ 121,005 $ 109,208 $ 85,696 (B) Total average assets........................................ 7,149,684 6,875,436 6,417,569 (C) Average shareholders' equity................................ 533,125 522,770 489,958
24 25 SOURCES AND USES OF FUNDS ------------------------- Average assets for 2000 of $7.1 billion increased by 4.0 percent from 1999 levels and increased 7.1 percent between 1998 and 1999. Funding sources in 2000 reflected an increase in demand deposits, Federal funds purchased and borrowed funds offsetting a decrease in time deposits. Demand deposits in particular have shown an improving trend over the three year period, which has been a key factor in the Corporation's ability to maintain a low cost of funds while funding double digit loan growth. Cullen/Frost's uses of funds continued a trend of improved earning asset mix which started in 1995 of replacing securities with loans as the largest component of earning assets.
Percentage of Total Average Assets ------------------------------------ SOURCES AND USES OF FUNDS 2000 1999 1998 -------------------------------------------------------------------------------------------------- Sources of Funds: Deposits: Demand............................................ 26.5% 26.1% 25.4% Time.............................................. 58.1 59.0 59.7 Federal funds purchased................................ 4.6 4.2 3.9 Equity capital......................................... 7.5 7.6 7.6 Borrowed funds......................................... 2.3 1.6 2.0 Other liabilities...................................... 1.0 1.5 1.4 ------------------------------------ Total............................................. 100.0% 100.0% 100.0% ==================================== Uses of Funds: Loans.................................................. 60.9% 57.2% 53.5% Securities............................................. 23.2 26.8 30.1 Federal funds sold..................................... 1.9 1.2 2.0 Non-earning assets..................................... 14.0 14.8 14.4 ------------------------------------ Total............................................. 100.0% 100.0% 100.0% ====================================
LOANS ----- Average loans for 2000 were $4.4 billion, an increase of 10.6 percent from 1999. Most of the increase was fueled by an increase in commercial loans offset in part by decreases in mortgage loans and indirect loans. Cullen/Frost withdrew from the mortgage underwriting and servicing business, as well as the indirect automobile finance business during the year.
December 31 ------------------------------------------------------------------------------ 2000 -------------------------- LOAN PORTFOLIO ANALYSIS PERCENTAGE OF (PERIOD-END BALANCES) AMOUNT TOTAL LOANS 1999 1998 1997 1996 ------------------------------------------------------------------------------------------------------------ Real estate: Construction........... $ 387,022 8.5% $ 379,559 $ 292,789 $ 179,201 $ 125,054 Land................... 156,859 3.5 128,765 75,397 60,339 53,742 Permanent Mortgages: Commercial........... 505,145 11.1 422,022 346,479 259,320 230,205 1-4 Family residential....... 306,879 6.7 340,839 354,377 328,478 311,358 Other residential.... 406,959 9.0 343,988 301,107 187,867 161,520 Other.................. 428,868 9.5 364,875 349,255 355,475 355,712 ------------------------------------------------------------------------------ Total real estate...... 2,191,732 48.3 1,980,048 1,719,404 1,370,680 1,237,591 Commercial and industrial: Energy................. 141,682 3.1 129,394 67,187 41,293 45,305 Other.................. 1,678,537 37.0 1,458,956 1,143,993 948,062 786,536 Consumer: Indirect............... 136,914 3.1 211,195 288,395 361,230 277,780 Other.................. 308,726 6.8 329,831 336,623 284,758 248,998 Financial institutions...... 100 7,416 3,767 12,749 Foreign..................... 17,291 .4 20,298 45,187 72,911 45,562 Other....................... 67,012 1.5 43,223 41,755 37,388 20,891 Unearned discount........... (7,349) (.2) (6,217) (3,357) (3,194) (2,098) ------------------------------------------------------------------------------ Total.................. $4,534,645 100.0% $4,166,728 $3,646,603 $3,116,895 $2,673,314 ============================================================================== Percent change from previous year...................... +8.8% +14.3% +17.0% +16.6% +25.2%
25 26 Loans increased to $4.5 billion at year-end 2000, up 8.8 percent from the previous year-end. Period end loans would have been up 13.2 percent from 1999 excluding the combined impact of mortgage lending (mortgage products are now offered through a co-branding relationship with GMAC Mortgage) and the de- emphasis of indirect lending. Loan growth for 2000 was internally generated as there were no bank acquisitions during the year. Most of the increase is attributable to commercial and industrial loans, up $232 million from 1999. Commercial real estate loans also increased by $83 million. These increases were offset partially by decreases in indirect lending of $74 million and $34 million in 1-4 family residential loans. At December 31, 2000, Cullen/Frost had approximately $316 million of Shared National Credits outstanding. None of these credits were considered past due or non-performing at year-end, with one $20 million loan considered to be a potential problem loan. These participations are done in the normal course of business to meet the needs of the Corporation's customers. General corporate policy towards participations is to lend to companies either headquartered in or having significant operations within our markets. In addition, Cullen/Frost must have an existing banking relationship or the expectation of broadening the relationship with other bank products. Approximately 33 percent of the outstanding balance are energy related with the remainder diversified throughout various industries. Total real estate loans at December 31, 2000 were $2.2 billion, up 10.7 percent from year-end 1999. Amortizing permanent mortgages represented 55.6 percent of the total real estate loan portfolio at year end. Commercial real estate loans increased $83.1 million or 19.7 percent. Other residential mortgage increased $63 million or 18.3 percent. This increase in other residential mortgages was offset by lower 1-4 family residential mortgages which were impacted as the Corporation withdrew from mortgage origination. Mortgage loans are now offered through Cullen/Frost's co-branding arrangement with GMAC Mortgage. This will broaden the mortgage products that can be offered to the Corporation's customer base, as well as leveraging GMAC's commitment to web-based mortgage products. Real estate loans categorized as "other" are primarily amortizing commercial and industrial loans with maturities of less than five years. Approximately 42 percent of all commercial real estate loans are owner occupied or have a major tenant (National or Regional company) which, historically has resulted in lower risk, provides financial stability and is less susceptible to economic swings. See page 30 for further discussion for the loan portfolio and "Loan Maturity and Sensitivity" on page 68. MEXICAN LOANS ------------- At December 31, 2000, Cullen/Frost's cross-border outstandings to Mexico, excluding $16.8 million in loans secured by liquid U.S. assets, totaled $490 thousand. The decrease from a year ago represents normal fluctuations in lines of credit used by Mexican banks to finance trade. At December 31, 2000, none of the Mexican-related loans were on non-performing status compared to $342 thousand and none for the years ended December 31, 1999 and 1998, respectively.
December 31 ------------------------------------------------------------------------------------------------------- 2000 1999 1998 -------------------------------- -------------------------------- --------------------------------- PERCENTAGE PERCENTAGE Percentage Percentage Percentage Percentage OF TOTAL OF TOTAL of Total of Total of Total of Total MEXICAN LOANS AMOUNT LOANS ASSETS Amount Loans Assets Amount Loans Assets ------------------------------------------------------------------------------------------------------------------------------ Financial institutions....... $488 N/M N/M $2,394 .1% N/M $21,346 .6% .3% Commercial and industrial......... 2 N/M N/M 9 N/M N/M 4,016 .1 .1 ------------------------------------------------------------------------------------------------------- Total............ $490 N/M N/M $2,403 .1% N/M $25,362 .7% .4% ======================================================================================================= The above table excludes $16.8 million, $17.9 million and $19.8 million in loans secured by liquid assets held in the United States in 2000, 1999 and 1998, respectively.
26 27 NON-PERFORMING ASSETS --------------------- Non-performing assets were $18.9 million at December 31, 2000, compared with $18.8 million at December 31, 1999 and $17.1 million at December 31, 1998. Non-performing assets as a percentage of total loans and foreclosed assets were .42 percent at December 31, 2000, compared to .45 percent one year ago. In addition, non-performing assets as a percentage of total assets were .25 percent at year end 2000 compared to .27 percent at year end 1999. Cullen/Frost expects the economy will continue to slow. The customers of the Corporation are not immune to the effects of a slowing economy and, therefore, neither is Cullen/Frost. This is expected to result in non-performing asset levels increasing in this environment and operating within a range somewhere between their current low levels and those of our peers today. Subsequent to December 31, 2000, the Corporation placed a $20 million loan, which is a Shared National Credit and was classified as a potential problem loan at December 31, 2000, on non-performing status.
December 31 --------------------------------------------------- NON-PERFORMING ASSETS 2000 1999 1998 1997 1996 ----------------------------------------------------------------------------------------------------------------- Non-accrual................................................. $16,662 $14,854 $12,997 $13,077 $10,733 Foreclosed assets........................................... 2,271 3,983 4,107 5,011 3,336 --------------------------------------------------- Total................................................... $18,933 $18,837 $17,104 $18,088 $14,069 =================================================== As a percentage of total assets............................. .25% .27% .25% .30% .25% As a percentage of total loans plus foreclosed assets....... .42 .45 .47 .58 .53 After-tax impact of lost interest per common share.......... $ .03 $ .02 $ .02 $ .02 $ .02 Accruing loans 90 days past due: Consumer.................................................. $ 498 $ 733 $ 1,347 $ 3,410 $ 1,841 All other................................................. 7,474 6,177 9,434 3,412 4,108 --------------------------------------------------- Total................................................... $ 7,972 $ 6,910 $10,781 $ 6,822 $ 5,949 =================================================== Cullen/Frost did not have any restructured loans for the years ended December 31, 2000-1996. Interest income that would have been recorded in 2000 on non-performing assets, had such assets performed in accordance with their original contract terms, was $1.9 million on non-accrual loans and $309 thousand on foreclosed assets. During 2000, the amount of interest income actually recorded on non-accrual loans was $565 thousand. There were no foreign loans 90 days past due as of December 31, 2000.
Loans to a customer whose financial condition has deteriorated are considered for non-accrual status whether or not the loan is 90 days or more past due. All non-consumer loans 90 days or more past due are classified as non-accrual unless the loan is well secured and in the process of collection. When a loan is placed on non-accrual status, interest income is not recognized until collected, and any previously accrued but uncollected interest is reversed. A loan is considered to be restructured if it has been modified as to original terms, resulting in a reduction or deferral of principal and/or interest as a concession to the debtor. Classification of an asset in the non-performing category does not preclude ultimate collection of loan principal or interest. Potential problem loans consist of loans that are performing in accordance with contractual terms but for which management has serious concerns about the ability of an obligor to continue to comply with repayment terms because of the obligor's potential operating or financial difficulties. At December 31, 2000, Cullen/Frost had $22.3 million in loans of this type which had not been included in either of the non-accrual or 90 days past due loan categories. Management monitors such loans closely and reviews their performance on a regular basis. 27 28 ALLOWANCE FOR POSSIBLE LOAN LOSSES ---------------------------------- The allowance for possible loan losses was $63.3 million or 1.40 percent of period-end loans at December 31, 2000, compared to $58.3 million or 1.40 percent of period-end loans at year-end 1999. The allowance for possible loan losses as a percentage of non-accrual loans was 379.7 percent at December 31, 2000, compared with 392.8 percent at December 31, 1999. Cullen/Frost recorded a $14.1 million provision for possible loan losses during 2000, compared to $12.4 million and $10.4 million recorded during 1999 and 1998, respectively. The allowance for loan losses is maintained at a level considered appropriate by management, based on estimated probable losses in the loan portfolio. The allowance consists of three elements: (i) allowances established on specific loans, (ii) allowances based on historical loan loss experience and trends, and (iii) unallocated allowances based on general economic conditions and other internal and external risk factors in the Corporation's individual markets. The specific allowances are based on a regular analysis and evaluation of criticized loans. The quality of loans are determined based on an internal credit risk grading process that evaluates: the obligor's ability to repay, the underlying collateral, if any, and the economic environment and industry in which the obligor operates. This analysis is performed at the relationship manager level for all commercial loans. Obligors whose calculated grade is below a predetermined grade are viewed as criticized. Once criticized, a loan is analyzed (at least quarterly) by a special assets officer to determine if a specific allowance is needed. Specific allocations are based on an obligor's inability or unwillingness to repay, collateral deficiencies and/or the state of the borrower's industry. If a specific allowance is not assigned to a criticized loan, and it is not determined impaired, it is included in the historical allowance portion of the process for loans with similar characteristics. Historical allowances are determined statistically using a loss analysis that examines loss experience of the portfolio in total, by specific loan types and the related internal gradings of loans charged-off. This loss analysis is periodically updated based on actual experience. This analysis is performed on several groups of loans. As a result, several historical allowance pools result. Specifically, historical allowance pools exist for commercial real estate loans, commercial and industrial loans, consumer loans and 1-4 family residential mortgages. Unallocated allowances based on general economic conditions and other internal and external risk factors were determined by evaluating the experience, ability and effectiveness of the bank's lending management and staff, effectiveness of lending policies and procedures and internal controls, outlook for changes in asset quality, outlook for changes in loan portfolio volume, composition and concentrations of credit, impact of competition on loan structuring and pricing, effectiveness of the internal loan review, impact of environmental risks on portfolio risks, impact of rising interest rates on portfolio risk and any excess to established limits for concentrations of credit and loan policy exceptions. Quarterly, senior management evaluates the degree of risk that each one of these components has on the quality of the loan portfolio. Each component is determined to have either a high, moderate or low degree of risk. The results are then input into a "general allocation matrix" to determine the unallocated general allowance. While the loss analysis for the historical allowance is performed annually, the Corporation may revise the general allocation factors whenever necessary in order to address improving or deteriorating credit quality trends or events; or recognize specific risks associated with a given loan concentration or pool classification. Cullen/Frost recorded net charge-offs of $9.2 million for the year ended December 31, 2000, compared to net charge-offs of $8.8 million and $6.1 million in 1999 and 1998, respectively. As a percentage of average loans, net charge-off's were .21 percent for 2000 compared to .22 percent last year. The Corporation's gross charge-offs in 2000 consisted primarily of commercial and industrial loans which increased $1.7 million to $7.0 million and consumer loans which decreased $1.8 million to $5.6 million. The decrease in consumer charge-offs is related to lower indirect auto charge-offs which the company stopped originating in 2000. The Corporation's gross charge-offs in 1999 consisted primarily of consumer loans which decreased $661 thousand to $7.4 million and commercial and industrial loans which increased $1.4 million to $5.3 million. The Corporation's gross charge-offs in 1998 consisted primarily of consumer loans which increased $872 thousand to $8.1 million and commercial and industrial loans which increased $2.0 million to $4.0 million. 28 29
Year Ended December 31 -------------------------------------------------------------- ALLOWANCE FOR POSSIBLE LOAN LOSSES 2000 1999 1998 1997 1996 -------------------------------------------------------------------------------------------------- Average loans outstanding during year, net of unearned discount....................... $4,352,868 $3,934,406 $3,437,510 $2,917,371 $2,445,777 ============================================================== Balance of allowance for possible loan losses at beginning of year........................... $ 58,345 $ 53,616 $ 48,073 $ 42,821 $ 36,525 Provision for possible loan losses......................... 14,103 12,427 10,393 9,174 8,494 Loan loss reserve of acquired institutions................... 1,066 1,250 2,105 627 Charge-offs: Real estate.................... (465) (357) (397) (650) (351) Commercial and industrial...... (6,999) (5,349) (3,980) (2,028) (6,485) Consumer....................... (5,625) (7,420) (8,081) (7,209) (3,776) Other, including foreign*...... (73) (7) (90) (40) (9) -------------------------------------------------------------- Total charge-offs........... (13,162) (13,133) (12,548) (9,927) (10,621) -------------------------------------------------------------- Recoveries: Real estate.................... 388 582 1,674 956 2,476 Commercial and industrial...... 1,549 1,799 2,176 965 3,747 Consumer....................... 2,030 1,919 2,528 1,853 1,445 Other, including foreign*...... 12 69 70 126 128 -------------------------------------------------------------- Total recoveries............ 3,979 4,369 6,448 3,900 7,796 -------------------------------------------------------------- Net charge-offs.................. (9,183) (8,764) (6,100) (6,027) (2,825) -------------------------------------------------------------- Balance of allowance for possible loan losses at end of year..... $ 63,265 $ 58,345 $ 53,616 $ 48,073 $ 42,821 ============================================================== Net charge-offs as a percentage of average loans outstanding during year, net of unearned discount....................... .21% .22% .18% .21% .12% Allowance for possible loan losses as a percentage of year-end loans, net of unearned discount....................... 1.40 1.40 1.47 1.54 1.60 * There were no foreign charge-offs in 2000-1996.
Cullen/Frost has certain lending policies and procedures in place which are designed to maximize loan income within an acceptable level of risk. These policies and procedures, some of which are described below, are reviewed regularly by senior management. A reporting system supplements this review process by providing management and the board of directors with frequent reports related to loan production, loan quality, concentrations of credit, loan delinquencies and non-performing and potential problem loans. Commercial and industrial loans are a diverse group of loans to small, medium and large businesses. The purpose of these loans vary from supporting seasonal working capital needs to term financing of equipment. These loans are underwritten focusing on evaluating and understanding management's ability to operate profitably and prudently expand their business. Once it is determined that management possesses sound ethics and solid business acumen, current and projected cash flows are examined to determine the ability to repay their obligations as agreed upon. In addition, collateral must be of good quality and single purpose projects are avoided. Underwriting standards are designed to promote relationship banking rather than transactional banking. While some short-term loans may be made on an unsecured basis, most are secured by the assets being financed with appropriate collateral margins. Diversification in the loan portfolio is a means of managing risk associated with fluctuations in economic conditions. At December 31, 2000, Cullen/Frost had no concentration of commercial and industrial loans in any single industry that exceeded 10 percent of total loans. 29 30 The diversity of the commercial real estate portfolio allows Cullen/Frost to reduce the impact of a decline in a single market or industry. In addition to monitoring and evaluating commercial real estate loans based on collateral, geography and risk grade criteria, management closely tracks its level of owner-occupied commercial real estate loans versus non-owner occupied loans. Additionally, the Corporation utilizes the knowledge of third party experts to provide insight and guidance about the economic conditions and dynamics of the markets served by the Corporation. Within the commercial real estate loan category, the Corporation's primary focus has been the growth of loans secured by owner-occupied properties. At December 31, 2000, a majority of the Corporation's commercial real estate loans were secured by owner-occupied properties. These loans are viewed primarily as cash flow loans and secondarily as loans secured by real estate. Consequently, these loans must withstand the analysis of a commercial loan and the underwriting process of a commercial real estate loan. Loans secured by non-owner occupied commercial real estate are made to developers and builders who have a relationship with Cullen/Frost and who have a proven record of success. These loans are underwritten through the use of feasibility studies, independent appraisal reviews, sensitivity analysis of absorption and lease rates and financial analysis of the developers and property owners. Sources of repayment for these types of loans may be pre-committed permanent loans from approved long-term lenders, sales of developed property or an interim loan commitment from the Corporation. These loans are closely monitored by on-site inspections and are considered to have higher risks than the other real estate loans due to their ultimate repayment being sensitive to interest rate changes, general economic conditions and the availability of long-term financing. The consumer loan portfolio has three distinct segments -- indirect consumer loans, which represent 20 percent of the consumer loan portfolio, direct non-real estate consumer loans, which represent 34 percent of the portfolio and direct real estate consumer loans, which represent 46 percent. The indirect segment, which Cullen/Frost stopped originating in 2000, is composed almost exclusively of new and used automobile financing. Non-real estate direct loans include automobile loans, unsecured revolving credit products, personal loans secured by cash and cash equivalents, and other similar types of credit facilities. The direct real estate loans are primarily Home Equity, home improvement and residential lot loans. Cullen/Frost offers Home Equity loans up to 80 percent of the estimated value of the personal residence of the borrower less the balances on existing mortgage and home improvement loans. As of December 31, 2000, Home Equity loans, which were not allowed in the state of Texas until January 1, 1998, aggregated approximately $151 million, and were originated for a general variety of purposes including: education, business start-ups, debt consolidation and automobile financing. Excluding the indirect segment, Home Equity loans represent almost half of the direct real estate consumer portfolio. Underwriting standards for this product are heavily influenced by statutory requirements, which include but are not limited to, maximum loan-to-value percentage, collection remedies, the number of such loans a borrower can have at one time and documentation requirements. A computer based credit scoring analysis is used to supplement the consumer loan underwriting process. To monitor and manage consumer loan risk, policies and procedures are developed and modified, as needed, jointly by line and staff personnel. This activity, coupled with relatively small loan amounts that are spread across many individual borrowers, minimizes the risk. Additionally, trend and outlook reports are provided to senior management on a frequent basis to aid in planning. Cullen/Frost has an independent Loan Review Division that reviews and validates the credit risk program on a periodic basis. Results of these reviews are presented to senior management and the board of directors. Loan Review's function complements and reinforces the risk identification and assessment decisions made by lenders and credit personnel as well as the Corporation's policies and procedures. Loans identified as losses by management, internal loan review and/or bank examiners are charged-off. Furthermore, consumer loan accounts are charged-off automatically based on regulatory requirements. 30 31 An allowance for possible loan losses is maintained in an amount which, in management's judgment, provides an adequate reserve to absorb probable credit losses related to specifically identified loans as well as loan losses inherent in the remainder of the loan portfolio that have been incurred as of the balance sheet date.
December 31 --------------------------------------------------------------------------------------------- 2000 ---------------------- 1999 1998 1997 ALLOWANCE ------------------------- ------------------------- ------------ FOR AS A Allowance As a Allowance As a Allowance ALLOCATION OF POSSIBLE PERCENTAGE for Possible Percentage for Possible Percentage for Possible ALLOWANCE LOAN OF TOTAL Loan of Total Loan of Total Loan FOR POSSIBLE LOSS LOSSES LOSSES LOANS Losses Loans Losses Loans Losses -------------------------------------------------------------------------------------------------------------------------- Commercial and industrial................ $25,031 .55% $22,404 .54% $15,085 .41% $14,346 Real estate................ 11,389 .25 9,485 .23 10,021 .28 9,460 Consumer................... 10,846 .24 12,621 .30 17,130 .47 17,486 Purchasing or carrying securities................ 1 85 88 Financial institutions..... 118 98 36 60 Other, including foreign... 279 .01 215 .01 246 .01 371 Unallocated................ 15,602 .35 13,521 .32 11,013 .30 6,262 --------------------------------------------------------------------------------------------- Total................... $63,265 1.40% $58,345 1.40% $53,616 1.47% $48,073 ============================================================================================= December 31 -------------------------------------- 1997 1996 ---------- ------------------------- As a Allowance As a ALLOCATION OF Percentage for Possible Percentage ALLOWANCE of Total Loan of Total FOR POSSIBLE LOSS LOSSES Loans Losses Loans --------------------------- -------------------------------------- Commercial and industrial................ .46% $ 9,648 .36% Real estate................ .31 9,853 .37 Consumer................... .56 13,903 .52 Purchasing or carrying securities................ 6 Financial institutions..... 44 Other, including foreign... .01 213 .01 Unallocated................ .20 9,154 .34 -------------------------------------- Total................... 1.54% $42,821 1.60% ======================================
Allocation of a portion of the allowance does not preclude its availability to absorb losses in other categories. SECURITIES ---------- Total securities, including securities available for sale, were $1.7 billion at year-end 2000 compared to $1.6 billion a year ago. Securities available for sale totaled $1.6 billion at December 31, 2000, compared to $1.5 billion at year-end 1999. These securities consist primarily of U.S. Treasury securities and obligations of U.S. Government agencies. Available for sale securities are stated at fair value, with unrealized gains and losses, net of tax, reported as a separate component of shareholders' equity. Securities held to maturity totaled $71 million at December 31, 2000 compared to $85 million at December 31, 1999. Securities classified as held to maturity are carried at amortized cost and consist primarily of U.S. Government agency obligations. Debt securities are classified as held to maturity when Cullen/Frost has the positive intent and ability to hold the securities to maturity. The remaining securities, consisting primarily of U.S. Government agency obligations, are classified as trading and are carried at fair value. Trading securities were $2.5 million at December 31, 2000 compared to $1 thousand at December 31, 1999. Trading securities held primarily for sale in the near term are valued at their fair values, with unrealized gains and losses included immediately in other income. The average yield of the securities portfolio for the year ended December 31, 2000 was 6.84 percent compared with 6.38 percent for 1999. See page 69 "Maturity Distribution and Securities Portfolio Yields" for additional information on end of period securities. 31 32 Total securities including trading, available for sale and held to maturity are summarized below:
December 31 --------------------------------------------------------------------------- 2000 1999 1998 ----------------------- ----------------------- ----------------------- PERIOD-END PERCENTAGE Period-end Percentage Period-end Percentage SECURITIES BALANCE OF TOTAL Balance of Total Balance of Total ------------------------------------------------------------------------------------------------------ U.S. Treasury............ $ 107,567 6.5% $ 118,130 7.2% $ 189,574 9.1% U.S. Government agencies and corporations....... 1,358,818 81.4 1,324,440 81.3 1,719,580 82.2 States and political subdivisions........... 165,675 9.9 153,319 9.4 125,939 6.0 Other.................... 36,424 2.2 34,022 2.1 56,610 2.7 --------------------------------------------------------------------------- Total............... $1,668,484 100.0% $1,629,911 100.0% $2,091,703 100.0% =========================================================================== Average yield earned during the year (taxable-equivalent basis)................. 6.84% 6.38% 6.32%
INTEREST RATE SWAPS/FLOOR ------------------------- Cullen/Frost uses off-balance sheet interest rate swaps to hedge its interest rate risk. These swap transactions allow management to structure the interest rate sensitivity of the asset side of the Corporation's balance sheet to more closely match their view of the interest rate sensitivity of the Corporation's funding sources. Cullen/Frost had 34 interest rate swaps with a notional amount of $211 million at December 31, 2000 and 30 interest rate swaps with a notional amount of $259 million at December 31, 1999. In 2000 and 1999, each swap was a hedge against a specific commercial fixed-rate loan/lease or against a specific pool of commercial floating-rate loans with lives ranging from approximately one and a half to ten years. For 2000 and 1999, the amortization of the interest rate swap's notional amount generally matched the expected amortization of the underlying loan/lease or pool of loans. Additionally in 2000, the Corporation entered into an interest rate floor agreement with a notional amount totaling $1 billion for three years. The interest rate floor is a hedge of interest rate exposure associated with commercial loan accounts in an environment of falling rates. These interest rate contracts involve the risk of dealing with counterparties and their ability to meet contractual terms. Each counterparty to a swap transaction has a credit rating that is investment grade. The net amount payable or receivable under interest rate swaps/floors is accrued as an adjustment to interest income and was not material in 2000, 1999 or 1998. Effective January 1, 2001, Cullen/Frost has adopted SFAS No. 133 "Accounting for Derivative Instruments and Hedging Activities", see Note A, page 42. 32 33 DEPOSITS -------- Total average demand deposits increased 5.9 percent from 1999. Most of the increase came in commercial and individual accounts which increased $103.5 million or 6.8 percent. The increase in commercial and individual deposit levels is related to internal growth and the two bank acquisitions which occurred in the first half of 1999. Cullen/Frost continues to make efforts to grow its correspondent bank relationships in the markets it serves.
2000 1999 1998 -------------------- -------------------- -------------------- AVERAGE PERCENT Average Percent Average Percent DEMAND DEPOSITS BALANCE CHANGE Balance Change Balance Change -------------------------------------------------------------------------------------------------- Commercial and individual... $1,636,633 + 6.8% $1,533,160 +10.5% $1,387,824 +21.3% Correspondent banks......... 227,807 + 2.8 221,530 +13.3 195,555 + 1.7 Public funds................ 32,732 -12.9 37,567 -13.7 43,507 - 1.5 ---------- ---------- ---------- Total.................. $1,897,172 + 5.9 $1,792,257 +10.2 $1,626,886 +17.9 ========== ========== ==========
Total average time deposits increased $98 million or 2.4 percent from a year ago. The largest increase of $66.7 million or 4.1 percent was in money market deposit accounts. During 2000, Cullen/Frost simplified the group of retail deposit products and offered a new money market index account. The money market index account requires the maintenance of certain balances in a checking account and offers a higher-yielding money fund with rates based on an external index. In addition, public funds increased $29.7 million or 13.5 percent. These increases were offset by a decline in consumer time accounts under $100,000 of $35.9 million or 6.0 percent. This decline is a continuation of a trend which started in 1997.
2000 1999 1998 --------------------------- --------------------------- --------------------------- AVERAGE PERCENT Average Percent Average Percent TIME DEPOSITS BALANCE CHANGE COST Balance Change Cost Balance Change Cost ----------------------------------------------------------------------------------------------------------------------------- Savings and Interest-on-Checking.... $ 961,315 + 1.4% .66% $ 948,487 + 5.2% .69% $ 901,960 +10.2% 1.21% Money market deposit accounts....... 1,703,602 + 4.1 4.49 1,636,915 +17.9 3.69 1,387,994 +16.1 3.91 Time accounts of $100,000 or more... 673,421 + 3.8 5.52 648,820 - 1.2 4.44 656,776 +15.9 5.23 Time accounts under $100,000........ 565,601 - 6.0 4.83 601,520 - 4.4 4.15 629,260 - 1.5 4.65 Public funds........................ 250,559 +13.5 4.58 220,845 -12.2 3.61 251,570 - 6.5 3.73 ---------- ---------- ---------- Total........................... $4,154,498 + 2.4 3.82 $4,056,587 + 6.0 3.18 $3,827,560 + 9.7 3.61 ========== ========== ==========
The following table summarizes the certificates of deposit in amounts of $100,000 or more as of December 31, 2000 by time remaining until maturity.
December 31 --------------------- 2000 REMAINING MATURITY OF PRIVATE --------------------- CERTIFICATES OF DEPOSIT PERCENTAGE OF $100,000 OR MORE AMOUNT OF TOTAL ----------------------------------------------------------------------------------- Three months or less........................................ $335,548 46.6% After three, within six months.............................. 202,595 28.1 After six, within twelve months............................. 164,285 22.8 After twelve months......................................... 18,403 2.5 --------------------- Total............................................. $720,831 100.0% ===================== Percentage of total private time deposits................... 17.7% Other time deposits of $100,000 or more were $152.1 million at December 31, 2000. Of this amount 57.6 percent matures within three months, 32.7 percent matures between three and six months and the remainder matures between six months and one year.
33 34 Mexico is a part of the natural trade territory of the banking offices of Cullen/Frost. Thus, dollar-denominated foreign deposits from Mexican sources have traditionally been a significant source of funding. The Corporation's average foreign deposits increased 5.5 percent from 1999.
FOREIGN DEPOSITS 2000 1999 1998 -------------------------------------------------------------------------------------------- Average balance............................................. $729,111 $691,356 $642,822 Percentage of total average deposits........................ 12.1% 11.8% 11.8%
SHORT-TERM BORROWINGS --------------------- The Corporation's primary source of short-term borrowings is Federal funds purchased from correspondent banks and securities sold under repurchase agreements in the natural trade territory of Frost Bank, as well as from upstream banks. The net purchase position experienced in both 2000 and 1999 is primarily the result of continued growth in earning assets over core deposit growth. The weighted-average interest rate on Federal funds purchased at December 31, 2000 and 1999 was 6.31 percent and 3.66 percent, respectively. Generally, the interest rates on securities sold under repurchase agreements are a percentage of the Federal funds rate.
2000 1999 1998 ------------------- ------------------- ------------------- AVERAGE AVERAGE Average Average Average Average FEDERAL FUNDS BALANCE RATE Balance Rate Balance Rate -------------------------------------------------------------------------------------------------- Federal funds sold and securities purchased under repurchase agreements..................... $ 130,800 6.50% $ 81,363 5.22% $ 127,273 5.59% Federal funds purchased and securities sold under repurchase agreements.......... (326,448) 5.48 (285,470) 4.38 (252,977) 4.59 --------- --------- --------- Net funds position............... $(195,648) $(204,107) $(125,704) ========= ========= =========
Year Ended December 31 FEDERAL FUNDS PURCHASED AND SECURITIES ------------------------------ SOLD UNDER REPURCHASE AGREEMENTS 2000 1999 1998 -------------------------------------------------------------------------------------------- Balance at year end......................................... $363,111 $333,459 $305,564 Maximum month-end balance................................... 486,356 474,013 523,178
In addition, Cullen/Frost had average Federal Home Loan Bank advances of $32.1 million, $12.1 million and $10.0 million for 2000, 1999 and 1998, respectively. Other funding sources include a $7.5 million short-term line of credit to the parent Corporation used for short-term liquidity needs. There were no borrowings outstanding from this source at December 31, 2000 and 1999. CAPITAL ------- At December 31, 2000, shareholders' equity was $573.0 million, an increase of 12.5 percent from $509.3 million at December 31, 1999. In addition to net income of $108.8 million, activity in 2000 included $39.6 million of dividends paid and $47.2 million paid for the repurchase of shares of the Corporation's common stock. The unrealized loss on securities available for sale and additional minimum pension liability, net of deferred taxes, was $4.0 million as of December 31, 2000 compared to an unrealized loss of $39.1 million as of December 31, 1999 which had the effect of increasing capital by $35.1 million. Currently, under regulatory requirements, the unrealized gain or loss on securities available for sale is not included in the calculation of risk-based capital and leverage ratios. Cullen/Frost paid a quarterly dividend of $.175 per common share during the first quarter of 2000. During the second quarter of 2000 the Corporation raised its cash dividend 11.4 percent to .195 for the second, third, and fourth quarters of 2000. The Corporation paid a quarterly dividend of $.15 per common share during the first quarter of 1999. During the second quarter of 1999 the Corporation declared and distributed a two- 34 35 for-one stock split and raised its cash dividend to $.175 for the second, third, and fourth quarters of 1999. The dividend payout ratio was 36.3 percent for 2000 compared to 36.9 percent for 1999. In addition, the Corporation announced in 1999 that its Board of Directors had authorized it to repurchase up to $100 million of its common stock from time to time. As of December 31, 2000, $68.4 million worth of shares had been repurchased under this program. The Federal Reserve Board utilizes capital guidelines designed to measure Tier 1 and Total Capital and take into consideration the risk inherent in both on-balance sheet and off-balance sheet items. For Cullen/ Frost's capital ratios at December 31, 2000 and 1999, see Note L "Capital" on page 52. INTERNET/E-COMMERCE ------------------- Cullen/Frost launched its enhanced new web site and E-Commerce initiatives in November 2000. This site will give the Corporation an opportunity to extend its philosophy on relationship banking into Internet banking for both individuals and businesses. The new web site offers full cash management services online for businesses. Cash management customers have the ability not only to conduct transactions online but to also order new fee based services online. Brokerage customers now have full online trading capabilities. Investment management customers have the ability to view their positions and transactions online. Individuals have a wide variety of services offered to them including bill payment, viewing statement images online, viewing 1099's online, and a full array of transfer options including transferring funds online to any financial institution in the country and also the ability to look at current balances and transactions. Underpinning this robust functionality is a secure E-Commerce production and development platform. This platform gives the Corporation not only the ability to look for the best automated service provider (ASP) technology solutions for our customers but also the ability to create custom functionality when appropriate to personalize and serve the full relationship needs of our customers. The Corporation has capitalized approximately $12.7 million related to this project. The major components of this project will be amortized over their respective lives, generally between three and five years. PARENT CORPORATION ------------------ Historically, a large portion of the parent Corporation's income, which provides funds for the payment of dividends to shareholders and for other corporate purposes, has been derived from Cullen/Frost's investments in subsidiaries. The amount of dividends received from Frost Bank is based upon its earnings and capital position. See Note K "Dividends" on page 51. Management fees are not assessed. NON-BANKING SUBSIDIARIES ------------------------ The New Galveston Company is a second-tier wholly-owned financial holding company subsidiary which holds all shares of each banking and non-banking subsidiary. Cullen/Frost has four principal non-banking subsidiaries. Frost Securities, Inc., an investment banking subsidiary based in Dallas, Texas offers a full range of services including equity research, institutional sales, trading and investment banking services to institutional investors and corporate customers. Main Plaza Corporation occasionally makes loans to qualified borrowers. Such loans are typically funded with borrowings against Cullen/Frost's current cash or borrowing against credit lines. Daltex General Agency, Inc., a managing general insurance agency, provides vendor's single interest insurance for Cullen/Frost subsidiary banks. Cullen/Frost Capital Trust I, is a Delaware statutory trust. The sole purpose of the trust was to sell Capital Securities and to purchase Junior Debentures of the Corporation. 35 36 MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL REPORTING --------------------------------------------------- The management of Cullen/Frost Bankers, Inc. is responsible for the preparation of the financial statements, related financial data and other information in this annual report. The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States and include amounts based on management's estimates and judgment where appropriate. Financial information appearing throughout this annual report is consistent with the financial statements. In meeting its responsibility both for the integrity and fairness of these financial statements and information, management depends on the accounting systems and related internal accounting controls that are designed to provide reasonable assurances that transactions are authorized and recorded in accordance with established procedures, that assets are safeguarded and that proper and reliable records are maintained. The concept of reasonable assurance is based on the recognition that the cost of a system of internal controls should not exceed the related benefits. As an integral part of the system of internal controls, Cullen/ Frost maintains an internal audit staff which monitors compliance with and evaluates the effectiveness of the system of internal controls and coordinates audit coverage with the independent auditors. The Audit Committee of Cullen/Frost's Board of Directors, which is composed entirely of directors independent of management, meets regularly with management, regulatory examiners, internal auditors, the asset review staff and independent auditors to discuss financial reporting matters, internal controls, regulatory reports, internal auditing and the nature, scope and results of the audit efforts. Internal Audit and Asset Review report directly to the Audit Committee. The banking regulators, internal auditors and independent auditors have direct access to the Audit Committee. The consolidated financial statements have been audited by Ernst & Young LLP, independent auditors, who render an independent opinion on management's financial statements. Their appointment was recommended by the Audit Committee and approved by the Board of Directors and by the shareholders. The audit by the independent auditors provides an additional assessment of the degree to which Cullen/Frost's management meets its responsibility for financial reporting. Their opinion on the financial statements is based on auditing procedures, which include their consideration of internal controls and performance of selected tests of transactions and records, as they deem appropriate. These auditing procedures are designed to provide an additional reasonable level of assurance that the financial statements are fairly presented in conformity with generally accepted accounting principles in all material respects. /s/ DICK EVANS /s/ PHILLIP D. GREEN Dick Evans Phillip D. Green Chairman and Chief Senior Executive Vice President Executive Officer and Chief Financial Officer
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK --------------------------------------------------------------------- The information required by this Item is set forth in the section entitled "Market Risk -- Interest Rate Sensitivity" included under Item 7 of this document on page 19, and is incorporated herein by reference. 36 37 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA ---------------------------------------------------- CONSOLIDATED STATEMENTS OF OPERATIONS (dollars in thousands, except per share amounts)
Year Ended December 31 ------------------------------ 2000 1999 1998 -------------------------------------------------------------------------------------------- INTEREST INCOME: Loans, including fees.................................. $394,073 $329,610 $300,721 Securities: Taxable........................................... 101,874 106,893 117,261 Tax-exempt........................................ 7,374 6,668 2,998 ------------------------------ TOTAL SECURITIES............................. 109,248 113,561 120,259 Time deposits.......................................... 505 164 Federal funds sold and securities purchased under resale agreements.................................... 8,505 4,245 7,111 ------------------------------ TOTAL INTEREST INCOME........................ 512,331 447,580 428,091 INTEREST EXPENSE: Deposits............................................... 158,858 128,819 138,283 Federal funds purchased and securities sold under repurchase agreements................................ 17,889 12,500 11,606 Guaranteed preferred beneficial interests in the Corporation's subordinated debentures................ 8,475 8,475 8,475 Long-term notes payable and other borrowings........... 4,346 808 1,754 ------------------------------ TOTAL INTEREST EXPENSE....................... 189,568 150,602 160,118 ------------------------------ NET INTEREST INCOME.......................... 322,763 296,978 267,973 Provision for possible loan losses.......................... 14,103 12,427 10,393 ------------------------------ NET INTEREST INCOME AFTER PROVISION FOR POSSIBLE LOAN LOSSES....................... 308,660 284,551 257,580 NON-INTEREST INCOME: Trust fees............................................. 49,266 46,411 46,863 Service charges on deposit accounts.................... 60,627 58,787 53,601 Insurance commissions.................................. 10,331 3,902 Other service charges, collection and exchange charges, commissions and fees................................. 20,143 13,779 13,293 Net gain (loss) on securities transactions............. 4 (86) 359 Other.................................................. 30,494 28,470 22,361 ------------------------------ TOTAL NON-INTEREST INCOME.................... 170,865 151,263 136,477 NON-INTEREST EXPENSE: Salaries and wages..................................... 138,643 122,104 109,781 Pension and other employee benefits.................... 29,163 26,096 21,295 Net occupancy of banking premises...................... 27,905 27,149 25,486 Furniture and equipment................................ 21,495 19,958 18,921 Intangible amortization................................ 15,625 15,000 13,293 Merger related charge.................................. 12,244 Other.................................................. 80,449 76,886 75,297 ------------------------------ TOTAL NON-INTEREST EXPENSE................... 313,280 287,193 276,317 ------------------------------ INCOME BEFORE INCOME TAXES................... 166,245 148,621 117,740 Income taxes................................................ 57,428 50,979 42,095 ------------------------------ NET INCOME................................... $108,817 $ 97,642 $ 75,645 ============================== Net income per share: Basic.................................................. $ 2.09 $ 1.83 $ 1.42 Diluted................................................ 2.03 1.78 1.38 Dividends per share......................................... .760 .675 .575 See notes to consolidated financial statements.
37 38 CONSOLIDATED BALANCE SHEETS (dollars in thousands, except per share amounts)
December 31 ----------------------- 2000 1999 ------------------------------------------------------------------------------------- ASSETS Cash and due from banks..................................... $ 820,459 $ 760,612 Time deposits............................................... 3,574 6,546 Securities held to maturity (market value: 2000-$72,104; 1999-$85,627)............................................. 71,153 85,045 Securities available for sale............................... 1,594,860 1,544,865 Trading account securities.................................. 2,471 1 Federal funds sold and securities purchased under resale agreements................................................ 215,050 34,950 Loans, net of unearned discount of $7,349 in 2000 and $6,217 in 1999................................................... 4,534,645 4,166,728 Less: Allowance for possible loan losses.................. (63,265) (58,345) ----------------------- Net loans.............................................. 4,471,380 4,108,383 Banking premises and equipment.............................. 149,893 142,984 Accrued interest and other assets........................... 331,532 313,294 ----------------------- TOTAL ASSETS......................................... $7,660,372 $6,996,680 ======================= LIABILITIES Demand deposits: Commercial and individual................................. $1,817,761 $1,601,977 Correspondent banks....................................... 245,734 212,942 Public funds.............................................. 55,129 48,341 ----------------------- Total demand deposits................................ 2,118,624 1,863,260 Time deposits: Savings and Interest-on-Checking.......................... 1,012,790 984,438 Money market deposit accounts............................. 1,774,656 1,635,524 Time accounts............................................. 1,275,289 1,234,894 Public funds.............................................. 318,331 235,716 ----------------------- Total time deposits.................................. 4,381,066 4,090,572 ----------------------- Total deposits....................................... 6,499,690 5,953,832 Federal funds purchased and securities sold under repurchase agreements................................................ 363,111 333,459 Accrued interest and other liabilities...................... 125,977 101,565 Guaranteed preferred beneficial interest in the Corporation's junior subordinated deferrable interest debentures, net........................................... 98,568 98,513 ----------------------- TOTAL LIABILITIES.................................... 7,087,346 6,487,369 SHAREHOLDERS' EQUITY Common stock, par value $.01 per share...................... 536 536 Shares authorized: 90,000,000 Shares issued: 53,561,616 Surplus..................................................... 187,673 185,437 Retained earnings........................................... 448,006 382,168 Accumulated other comprehensive loss, net of tax............ (4,023) (39,110) Treasury stock at cost (2,131,534 and 738,463 shares in 2000 and 1999, respectively)................................... (59,166) (19,720) ----------------------- TOTAL SHAREHOLDERS' EQUITY........................... 573,026 509,311 ----------------------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY........... $7,660,372 $6,996,680 ======================= See notes to consolidated financial statements.
38 39 CONSOLIDATED STATEMENTS OF CASH FLOWS (dollars in thousands)
Year Ended December 31 --------------------------------------- 2000 1999 1998 ----------------------------------------------------------------------------------------------- OPERATING ACTIVITIES Net income............................................ $ 108,817 $ 97,642 $ 75,645 Adjustments to reconcile net income to net cash provided by operating activities: Provision for possible loan losses............... 14,103 12,427 10,393 Credit for deferred taxes........................ (1,785) (6,083) (5,574) Accretion of discounts on loans.................. (1,038) (547) (2,841) Accretion of securities' discounts............... (5,183) (2,306) (3,911) Amortization of securities' premiums............. 1,470 4,738 5,824 (Increase) decrease in trading account securities..................................... (2,470) 708 1,231 Net realized (gain) loss on securities transactions................................... (4) 86 (359) Net gain on sale of assets....................... (2,661) (4,052) (773) Depreciation and amortization.................... 34,037 32,657 30,024 (Increase) decrease in interest receivable....... (6,795) (1,951) 660 Increase (decrease) in interest payable.......... 4,703 3,566 (4,072) Originations of mortgages held-for-sale.......... (52,313) (69,587) (181,219) Proceeds from sales of mortgages held-for-sale... 61,913 75,054 177,160 Tax benefit from exercise of employee stock options........................................ 1,926 1,698 1,771 Net change in other assets and liabilities....... (25,061) (5,716) 13,161 --------------------------------------- NET CASH PROVIDED BY OPERATING ACTIVITIES........ 129,659 138,334 117,120 INVESTING ACTIVITIES Proceeds from maturities of securities held to maturity............................................ 13,988 26,471 36,906 Purchases of investment securities held to maturity... (95) (123) (9,650) Proceeds from sales of securities available for sale................................................ 3,020,345 1,696,657 900,398 Proceeds from maturities of securities available for sale................................................ 438,641 929,644 1,145,806 Purchases of securities available for sale............ (3,448,612) (2,172,113) (2,314,252) Net increase in loans portfolio....................... (385,845) (421,478) (407,212) Net increase in bank premises and equipment........... (25,213) (15,640) (18,768) Proceeds from sales of repossessed properties......... 1,548 2,653 2,982 Net cash and cash equivalents paid for acquisitions... (724) (23,788) (8,899) --------------------------------------- NET CASH (USED) PROVIDED BY INVESTING ACTIVITIES..................................... (385,967) 22,283 (672,689) FINANCING ACTIVITIES Net increase in demand deposits, IOC accounts, and savings accounts.................................... 505,463 77,501 566,136 Net increase (decrease) in certificates of deposit.... 40,395 (195,031) (111,941) Net increase in short-term borrowings................. 29,652 27,895 89,361 Net proceeds from issuance of common stock............ 4,489 3,616 6,212 Purchase of treasury stock............................ (47,162) (24,318) (3,495) Dividends paid........................................ (39,554) (36,013) (30,476) --------------------------------------- NET CASH PROVIDED (USED) BY FINANCING ACTIVITIES..................................... 493,283 (146,350) 515,797 --------------------------------------- INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS.................................... 236,975 14,267 (39,772) Cash and cash equivalents at beginning of year........ 802,108 787,841 827,613 --------------------------------------- CASH AND CASH EQUIVALENTS AT END OF YEAR......... $ 1,039,083 $ 802,108 $ 787,841 ======================================= See notes to consolidated financial statements.
39 40 CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY (dollars in thousands)
Accumulated Other Comprehensive Common Retained Income (Loss) Treasury Stock Surplus Earnings net of tax Stock Total --------------------------------------------------------------------------------------------------------------------- BALANCE AT JANUARY 1, 1998.................... $ 133,775 $ 53,647 $278,994 $ 8,917 $(12,404) $462,929 Net Income for 1998......................... 75,645 75,645 Unrealized loss on securities available for sale of $937, net of tax and reclassification adjustment for after-tax gains included in net income of $233...... (1,170) (1,170) -------- Total comprehensive income............ 74,475 -------- Proceeds from employee stock purchase plan and options............................... 390 (2,014) 2,802 1,178 Tax benefit related to exercise of stock options................................... 1,771 1,771 Purchase of treasury stock.................. (3,495) (3,495) Issuance of restricted stock................ 1 1,889 126 2,016 Restricted stock plan deferred compensation, net....................................... (514) (514) Cash dividend............................... (29,567) (29,567) ESOP shares released........................ 2,820 658 3,478 Constructive retirement of treasury stock issued in connection with a business combination............................... (1,382) (11,023) 12,883 478 Change in par value......................... (132,974) 132,974 Pre-merger transactions of pooled company: Proceeds from employee stock purchase plan and options............................. 847 683 (539) 88 1,079 Cash dividend............................. (909) (909) --------------------------------------------------------------------- BALANCE AT DECEMBER 31, 1998.................. 267 183,151 321,754 7,747 -- 512,919 Net Income for 1999......................... 97,642 97,642 Unrealized loss on securities available for sale of $46,913 net of tax and reclassification adjustment for after-tax losses included in net income of $56...... (46,857) (46,857) -------- Total comprehensive income............ 50,785 -------- Proceeds from employee stock purchase plan and options............................... 1 856 (1,816) 3,315 2,356 Tax benefit related to exercise of stock options................................... 1,698 1,698 Purchase of treasury stock.................. (24,318) (24,318) Issuance of restricted stock................ (23) 1,283 1,260 Restricted stock plan deferred compensation, net....................................... 624 624 Cash dividend............................... (36,013) (36,013) Two-for-one stock split..................... 268 (268) --------------------------------------------------------------------- BALANCE AT DECEMBER 31, 1999.................. 536 185,437 382,168 (39,110) (19,720) 509,311 Net Income for 2000......................... 108,817 108,817 Unrealized gain on securities available for sale of $36,826, net of tax and reclassification adjustment for after-tax losses included in net income of $3....... 36,829 36,829 Additional minimum pension liability, net of tax....................................... (1,742) (1,742) -------- Total comprehensive income............ 143,904 -------- Proceeds from employee stock purchase plan and options............................... 28 (3,532) 6,208 2,704 Tax benefit related to exercise of stock options................................... 1,926 1,926 Purchase of treasury stock.................. (47,162) (47,162) Issuance of restricted stock................ 282 (5) 1,508 1,785 Restricted stock plan deferred compensation, net....................................... 112 112 Cash dividend............................... (39,554) (39,554) --------------------------------------------------------------------- BALANCE AT DECEMBER 31, 2000.................. $ 536 $187,673 $448,006 $ (4,023) $(59,166) $573,026 ===================================================================== See notes to consolidated financial statements.
40 41 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE A -- SUMMARY OF ACCOUNTING POLICIES ---------------------------------------- Cullen/Frost Bankers, Inc., ("Cullen/Frost" or "the Corporation") through its subsidiary Frost National Bank provides a broad array of products and services throughout 11 Texas markets. In addition to general commercial banking, other products and services offered include trust and investment management, insurance, investment banking, leasing, asset-based lending, treasury management and item processing. The accounting and reporting policies followed by Cullen/Frost are in accordance with accounting principles generally accepted in the United States and conform to general practices within the banking industry. The more significant accounting and reporting policies are summarized below. BASIS OF PRESENTATION -- The consolidated financial statements include the accounts of Cullen/Frost and its wholly-owned subsidiaries. Condensed parent company financial statements reflect investments in subsidiaries using the equity method of accounting. All significant intercompany balances and transactions have been eliminated in consolidation. Certain reclassifications have been made to make prior years comparable. USE OF ESTIMATES -- The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates. SECURITIES -- Securities are classified as held to maturity and carried at amortized cost when Cullen/Frost has the intent and ability to hold the securities until maturity. Securities held for resale in anticipation of short-term market movements are classified as trading and are carried at market value with both net realized and unrealized gains and losses included in other income during the period. Securities to be held for indefinite periods of time are classified as available for sale and stated at fair value, with the unrealized gains and losses, net of tax, reported as a separate component of shareholders' equity. The adjusted carrying value of the specific security sold is used to compute gain or loss on the sale of securities. Declines in value other than temporary declines are adjusted against the security with a charge to operations. LOANS -- Interest on loans is accrued and accreted to operations based on the principal amount outstanding. Interest on certain consumer loans is recognized over their respective terms using a method which approximates the interest method. Loan origination fees, certain direct costs and unearned discounts are amortized as an adjustment to the yield over the term of the loan. Generally, loans are placed on non-accrual status if principal or interest payments become 90 days past due and/or management deems the collectability of the principal and/or interest to be in question as well as when required by regulatory provisions. Once interest accruals are discontinued, uncollected but accrued interest is charged to current year operations. Subsequent receipts on non-accrual loans are recorded as a reduction of principal, and interest income is recorded once principal recovery is reasonably assured. Loans which are determined to be uncollectible are charged to the allowance for possible loan losses. The collectability of loans is continually reviewed by management. ALLOWANCE FOR POSSIBLE LOAN LOSSES -- The total allowance for possible loan losses includes activity related to allowances calculated in accordance with Statement of Financial Accounting Standards (SFAS) No. 114, "Accounting by Creditors for Impairment of a Loan" and activity related to other loan loss allowances determined in accordance with SFAS No. 5, "Accounting for Contingencies." The allowance for possible loan losses is established through a provision for possible loan losses charged to current operations. The amount maintained in the allowance reflects management's continuing assessment of the potential losses inherent in the portfolio based on evaluations of industry concentrations, specific credit risks, loan loss experience, current loan portfolio quality, present economic, political and regulatory conditions and unidentified losses inherent in the current loan portfolio. Certain non-homogeneous loans are accounted for under the provisions of SFAS No. 114. This standard requires an allowance to be established as a component of the allowance for loan losses for certain loans when it is probable that all amounts due pursuant to the contractual 41 42 terms of the loan will not be collected and the recorded investment in the loan exceeds the fair value. The allowance for possible loan losses related to loans that are impaired as defined by SFAS No. 114 is generally based on discounted cash flows using the loan's initial effective interest rate or the fair value of the collateral for certain collateral dependent loans. Income on impaired loans is recognized based on the collectability of the principal amount. FORECLOSED ASSETS -- Foreclosed assets consist of property which has been formally repossessed. Collateral obtained through foreclosure is recorded at the lower of fair value less estimated selling costs or the underlying loan amounts. Write-downs are provided for subsequent declines in value. BANKING PREMISES AND EQUIPMENT -- Banking premises and equipment are stated at cost, less accumulated depreciation and amortization. Depreciation and amortization are generally computed on a straight-line basis over the estimated useful lives of the assets. Leasehold improvements are generally amortized over the lesser of the term of the respective leases or the estimated useful lives of the improvements. Long-lived assets and certain identifiable intangibles are accounted for under SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of." This statement requires that those assets and intangibles be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable on an undiscounted basis. If impairment is indicated the present value of expected future cash flows from the use of the asset and its eventual disposition are less than the carrying amount of the asset, an impairment loss is recognized. INTANGIBLE ASSETS -- The excess of cost over fair value of net assets of businesses acquired (goodwill) is amortized on a straight-line and accelerated basis (as appropriate) over periods generally not exceeding twenty-five years. Core deposit and other intangibles are amortized on an accelerated basis over their estimated lives ranging from five to ten years. Intangible assets are included in other assets. All such intangible assets are periodically evaluated as to the recoverability of their carrying value. FEDERAL INCOME TAXES -- Cullen/Frost files a consolidated federal income tax return which includes the taxable income of all of its principal subsidiaries. Deferred tax assets and liabilities are recognized for the expected future tax consequences of temporary differences between the financial reporting bases and the tax bases of assets and liabilities. If it is more likely than not that some portion or all of a deferred tax asset will not be realized, a valuation allowance is recognized. STOCK OPTION PLANS -- Cullen/Frost applies Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," (APB No. 25) and related Interpretations. Under APB No. 25, because the exercise price of Cullen/Frost's employee stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized. SFAS No. 123, "Accounting for Stock Based Compensation" allows for the fair value method of accounting for employees' stock options. The statement also allows the continued use of APB No. 25 to account for its stock option plans. In accordance with SFAS No. 123 the continued use of APB No. 25 requires pro forma disclosures of net income and earnings per share as if the fair value method of accounting had been applied. STOCK SPLIT -- The number of shares outstanding and related earnings per share amounts have been restated to retroactively give effect for the two-for-one stock split declared and distributed by Cullen/Frost during the second quarter of 1999. SECURITIES PURCHASED UNDER AGREEMENTS TO RESELL AND SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE -- Securities purchased under agreements to resell and securities sold under agreement to repurchase are generally treated as collateralized financing transactions and are recorded at the amounts at which the securities were acquired or sold plus accrued interest. The fair value of collateral either received from or provided to a third party is continually monitored and additional collateral obtained or requested to be returned to the Corporation as deemed appropriate. The counterparty to a Securities Sold Under Agreement to Repurchase contract has an absolute and binding obligation to return the pledged securities at the contract's maturity in exchange for the predetermined amount of cash plus accrued interest. Similarly, the counterparty to a Securities Purchased Under Agreement to Resell contract has an absolute and binding obligation to receive the pledged securities at the contract's maturity in exchange for the predetermined amount of cash 42 43 plus accrued interest. The securities involved in these transactions are generally U.S. Treasury or Federal Agency issues. FINANCIAL DERIVATIVES -- Derivatives are used to hedge interest rate exposure by modifying the interest rate characteristics of related balance sheet instruments. The specific criteria required for derivatives used for these purposes are described below. Derivatives that do not meet these criteria are carried at market value with changes in value recognized currently in earnings. Derivatives used as hedges must be effective at reducing the risk associated with the exposure being hedged and must be designated as a hedge at the inception of the derivative contract. Derivatives used for hedging purposes at year-end include interest rate swaps and an interest rate floor. These swap transactions allow management to structure the interest rate sensitivity of the asset side of the balance sheet to more closely match its view of the interest rate sensitivity of Cullen/Frost's funding sources. The fair value of derivative contracts are carried off-balance sheet and the unrealized gains and losses on derivative contracts are generally deferred. The interest component associated with derivatives used as hedges or to modify the interest rate characteristics of assets and liabilities is recognized over the life of the contract in net interest income. Upon contract settlement or early termination, the cumulative change in the market value of such derivatives is recorded as an adjustment to the carrying value of the underlying asset or liability and recognized in net interest income over the expected remaining life of the derivative contract. In instances where the underlying instrument is repaid, the cumulative change in the value of the associated derivative is recognized immediately in earnings. ACCOUNTING CHANGES -- The following is a brief discussion of the SFAS pronouncements issued by the FASB that are pending adoption or have been adopted by Cullen/Frost. In June 2000, the FASB issued SFAS No. 138 "Accounting for Certain Derivative Instruments and Certain Hedging Activities -- an amendment of FASB Statement No. 133." SFAS No. 138 amends the accounting and reporting standards of SFAS No. 133 for certain derivative instruments and certain hedging activities. During 1999, the FASB issued SFAS No. 137, "Accounting for Derivative Instruments and Hedging Activities-Deferral of the Effective Date of FASB Statement No. 133" which deferred the required adoption date of SFAS No. 133 to fiscal years beginning after June 15, 2000. SFAS No. 133 "Accounting for Derivative Instruments and Hedging Activities" requires the recognition of all derivatives on the balance sheet at fair value. Derivatives that are not hedges must be adjusted to fair value through income. If the derivative is a hedge, depending on the nature of the hedge, changes in the fair value of derivatives will either be offset against the change in fair value of the hedged assets, liabilities, or firm commitments through earnings or recognized in other comprehensive income until the hedged item is recognized in earnings. The ineffective portion of a derivative's change in fair value will be immediately recognized in earnings. Cullen/Frost uses derivative instruments to protect against the risk of interest rate movements on the value of certain assets or on future cash flows. The fair value of these derivative instruments is currently not on the balance sheet. On January 1, 2001, the Corporation adopted SFAS No. 133, and at that time, designated anew the derivative instruments used for risk management into hedging relationships in accordance with the requirements of the new standard. Derivative instruments, particularly interest rate swaps, used to hedge changes in the fair value of certain loans due to changes in interest rates were formally designated as fair value hedges. Also on January 1, 2001, after-tax transition amounts associated with establishing the fair values of the derivative instruments and hedged items on the balance sheet of $3.0 million was recorded as an increase of net income and $185 thousand as a decrease of other comprehensive income. The transition adjustments will be presented as cumulative effect adjustments, as described in Accounting Principles Board Opinion No. 20, Accounting Changes, in the 2001 Consolidated Financial Statements. The transition amounts were determined based on the interpretive guidance issued by the Financial Accounting Standards Board to date. The FASB continues to issue interpretive guidance which could require changes in the Corporation's application of the standard and adjustments to the transition amounts. SFAS No. 133, as applied to Cullen/Frost's risk management strategies, may increase or decrease reported net income and stockholders' equity prospectively, depending on future levels of interest rates and 43 44 other variables affecting the fair values of derivative instruments and hedged items, but will have no effect on cash flows or economic risk. In September 2000, the FASB issued SFAS No. 140 "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities." SFAS No. 140 replaces SFAS No. 125. The guidance in SFAS No. 140, while not changing most of the guidance originally issued in SFAS No. 125, revises the standards for accounting for securitizations and other transfers of financial assets and collateral and requires certain additional disclosures related to transferred assets. Certain provisions of the statement related to the recognition, reclassification and disclosure of collateral, as well as the disclosure of securitization transactions, became effective for Cullen/Frost for 2000 year-end reporting. Other provisions related to the transfer and servicing of financial assets and extinguishments of liabilities are effective for transactions occurring after March 31, 2001. Based on current circumstances, management believes the application of the new rules will not have a material impact on the Corporation's result of operation, financial position or liquidity. NOTE B -- ACQUISITIONS ---------------------- The transactions listed below, with the exception of the merger with Overton Bancshares, Inc. ("Overton"), have been accounted for as purchase transactions with the total cash consideration funded through internal sources, including funds provided by the issuance of the $100 million Trust Preferred Capital Securities, see Note I "Borrowed Funds" on page 50. The purchase price has been allocated to the underlying assets and liabilities based on estimated fair values at the date of acquisition. Results of operations are included from the date of acquisition. The Overton acquisition was accounted for under the pooling-of-interests method of accounting which requires the assets, liabilities and shareholders' equity of the merged entity to be retroactively combined with the Corporation's respective accounts at recorded value. 2000 ACQUISITIONS NIEMAN HANKS PURYEAR PARTNERS AND NIEMAN HANKS PURYEAR BENEFITS -- AUSTIN On July 1, 2000, Frost Insurance Agency ("FIA") acquired Nieman Hanks Puryear Partners and Nieman Hanks Puryear Benefits ("Nieman Hanks"), an Austin-based independent insurance agency. Nieman Hanks offers property and casualty insurance, professional and umbrella liability, homeowners and auto insurance, group health, life and disability policies and 401(k) retirement plans and executive planning. Nieman Hanks is the third acquisition made by FIA, following the additions of Professional Insurance Agents, Inc. ("PIA") and Wayland Hancock Insurance Agency, Inc. ("Wayland Hancock") mentioned below. This acquisition did not have a material impact on Cullen/Frost's 2000 net income. WAYLAND HANCOCK INSURANCE AGENCY, INC. -- HOUSTON On April 1, 2000, FIA acquired Wayland Hancock, a Houston-based independent insurance agency. Wayland Hancock offers a full range of life and health insurance, as well as retirement and financial planning, to individuals and businesses. This acquisition did not have a material impact on Cullen/Frost's 2000 net income. 1999 ACQUISITIONS COMMERCE FINANCIAL CORP. -- FORT WORTH On May 20, 1999, Cullen/Frost paid approximately $42.3 million to acquire Commerce Financial Corporation and its four-location subsidiary, Bank of Commerce, in Fort Worth, Texas. The Corporation acquired loans of approximately $76 million and deposits of approximately $164 million. The intangible assets associated with the acquisition amounted to approximately $30.5 million. This acquisition did not have a material impact on Cullen/Frost's 1999 net income. 44 45 PROFESSIONAL INSURANCE AGENTS, INC. -- VICTORIA On May 1, 1999, FIA acquired PIA, a mid-sized independent insurance agency based in Victoria, Texas, with additional locations in San Antonio, New Braunfels and Refugio. PIA offers corporate and personal property and casualty insurance as well as group health and life insurance products to individuals and businesses. The purchase method of accounting was used to record the transaction. This acquisition did not have a material impact on Cullen/Frost's 1999 net income. KELLER STATE BANK -- TARRANT COUNTY On January 15, 1999, Cullen/Frost paid approximately $18.7 million to acquire Keller State Bank with three locations in Tarrant County, Texas. The Corporation acquired loans of approximately $38 million and deposits of approximately $62 million. The intangible assets associated with the acquisition amounted to approximately $11.8 million. This acquisition did not have a material impact on Cullen/Frost's 1999 net income. 1998 MERGERS AND ACQUISITIONS OVERTON BANCSHARES, INC. -- FORT WORTH On May 29, 1998, the Corporation completed the merger of Overton Bancshares, Inc., in Fort Worth, Texas, and its wholly-owned subsidiary Overton Bank & Trust, N.A. The merger, which was accounted for as a "pooling-of-interests" transaction, was Cullen/Frost's first entry into the Fort Worth market. With the merger, Cullen/Frost added twelve locations in Fort Worth/Arlington and two in Dallas. Cullen/Frost issued approximately 4.38 million common shares as part of this transaction. As a result of the transaction, Cullen/ Frost recorded a merger related charge of $12.2 million primarily consisting of severance payments, other employee benefits and investment banking fees. In addition, shortly after the merger was consummated Cullen/Frost reclassified approximately $116 million of held to maturity securities of Overton to available for sale securities. HARRISBURG BANCSHARES, INC. -- HOUSTON On January 2, 1998, the Corporation paid approximately $55.3 million to acquire Harrisburg Bancshares, Inc., including its subsidiary Harrisburg Bank in Houston, Texas. The intangible assets associated with the acquisition amounted to approximately $35.1 million. Cullen/Frost acquired loans of approximately $125 million and deposits of approximately $222 million. This acquisition did not have a material impact on the Corporation's 1998 net income. INVESTMENT BANKING SUBSIDIARY On August 2, 1999 Cullen/Frost began operations of its investment banking subsidiary in Dallas, Texas. Frost Securities, Inc. offers a full range of services including equity research, institutional sales, trading and investment banking services to institutional investors and corporate customers who need access to the capital markets. NOTE C -- CASH AND DUE FROM BANKS --------------------------------- Cullen/Frost's subsidiary bank is required to maintain cash or non-interest bearing reserves with the Federal Reserve Bank which are equal to specified percentages of deposits. The average amounts of reserve and contractual balances were $73.4 million for 2000 and $76.9 million for 1999. 45 46 NOTE D -- SECURITIES -------------------- A summary of the amortized cost and estimated fair value of securities is presented below.
DECEMBER 31, 2000 December 31, 1999 ------------------------------------------------- ------------------------------------------------- ESTIMATED AMORTIZED UNREALIZED UNREALIZED FAIR Amortized Unrealized Unrealized Estimated (in thousands) COST GAINS LOSSES VALUE Cost Gains Losses Fair Value --------------------------------------------------------------------------------------------------------------------------------- Securities Held to Maturity: U.S. Government agencies and corporations...... $ 68,430 $ 772 $ 69,202 $ 82,413 $ 664 $ 220 $ 82,857 States and political subdivisions.......... 2,598 177 2,775 2,582 142 4 2,720 Other................... 125 2 127 50 50 ----------------------------------------------------------------------------------------------------- Total................. $ 71,153 $ 951 $ 72,104 $ 85,045 $ 806 $ 224 $ 85,627 ===================================================================================================== Securities Available for Sale: U.S. Treasury........... $ 107,433 $ 134 $ 107,567 $ 118,269 $ 55 $ 194 $ 118,130 U.S. Government agencies and corporations...... 1,291,925 2,316 $ 6,324 1,287,917 1,293,803 2,668 54,444 1,242,027 State and political subdivisions.......... 162,712 365 163,077 158,990 262 8,516 150,736 Other................... 36,299 36,299 33,972 33,972 ----------------------------------------------------------------------------------------------------- Total................. $1,598,369 $2,815 $ 6,324 $1,594,860 $1,605,034 $ 2,985 $63,154 $1,544,865 =====================================================================================================
The amortized cost and estimated fair value of securities at December 31, 2000 are presented below by contractual maturity. Actual maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without prepayment penalties.
DECEMBER 31, 2000 ---------------------------------------------------- SECURITIES HELD TO SECURITIES AVAILABLE FOR MATURITY SALE ------------------------ ------------------------ ESTIMATED ESTIMATED AMORTIZED FAIR AMORTIZED FAIR (in thousands) COST VALUE COST VALUE -------------------------------------------------------------------------------------------------- Due in one year or less..................... $ 114,742 $ 114,892 Due after one year through five years....... $ 1,045 $ 1,055 23,332 23,799 Due after five years through ten years...... 1,678 1,847 49,129 49,545 Due after ten years......................... 119,241 118,707 ---------------------------------------------------- 2,723 2,902 306,444 306,943 Mortgage-backed securities and collateralized mortgage obligations....... 68,430 69,202 1,291,925 1,287,917 ---------------------------------------------------- Total.................................. $71,153 $72,104 $1,598,369 $1,594,860 ====================================================
Proceeds from sales of securities available for sale during 2000 were $3.0 billion with gross gains of $487 thousand and gross losses of $483 thousand realized on those sales. During 1999, gross gains of $625 thousand and gross losses of $711 thousand were realized on $1.7 billion in proceeds from these sales. Proceeds from sales of securities available for sale during 1998 were $900.4 million. During 1998, gross gains of $1.1 million and gross losses of $705 thousand were realized on those sales. The carrying value of securities pledged to secure public funds, trust deposits, securities sold under repurchase agreements and for other purposes as required or permitted by law amounted to $1.1 billion at December 31, 2000 and $1.5 billion at December 31, 1999. 46 47 NOTE E -- LOANS AND ALLOWANCE FOR POSSIBLE LOAN LOSSES ------------------------------------------------------ A summary of loans outstanding follows:
December 31 ----------------------- (in thousands) 2000 1999 ------------------------------------------------------------------------------------- Real estate: Construction........................................... $ 387,022 $ 379,559 Land................................................... 156,859 128,765 Permanent mortgages: Commercial........................................ 505,145 422,022 1-4 Family residential............................ 306,879 340,839 Other residential................................. 406,959 343,988 Other.................................................. 428,868 364,875 Commercial and industrial: Energy................................................. 141,682 129,394 Other.................................................. 1,678,537 1,458,956 Consumer: Indirect............................................... 136,914 211,195 Other.................................................. 308,726 329,831 Financial institutions...................................... 100 Foreign..................................................... 17,291 20,298 Other....................................................... 67,012 43,223 Unearned discount........................................... (7,349) (6,217) ----------------------- Total loans............................................ $4,534,645 $4,166,728 =======================
In the normal course of business, in order to meet the financial needs of its customers, Cullen/Frost is a party to financial instruments with off-balance sheet risk. These include commitments to extend credit and standby letters of credit which commit the Corporation to make payments on behalf of customers when certain specified future events occur. Both arrangements have credit risk essentially the same as that involved in extending loans to customers and are subject to the Corporation's normal credit policies. Collateral is obtained based on management's credit assessment of the customer. No material losses are anticipated as a result of these commitments. Commitments to extend credit and standby letters of credit amounted to $2.1 billion and $105.8 million, respectively, at December 31, 2000. Commitments to extend credit and standby letters of credit amounted to $1.8 billion and $80.2 million respectively, at December 31, 1999. Commercial and industrial loan commitments represent approximately 69 percent and 71 percent of the total loan commitments outstanding at December 31, 2000 and 1999. The majority of Cullen/Frost's real estate loans are secured by real estate in San Antonio, Houston and Fort Worth. The Corporation no longer is originating mortgage loans as a result of the Corporations co-branding relationship with GMAC mortgage and therefore no mortgage loans were held for sale at December 31, 2000. Mortgage loans held for sale by Cullen/Frost at December 31, 1999 were approximately $8.6 million and are included in 1-4 family residential. These loans were valued at the lower of cost or market, on an aggregate basis. In the normal course of business, Cullen/Frost's subsidiary bank makes loans to directors and officers of both Cullen/Frost and its subsidiaries. These loans are made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with other persons. Loans made to directors and executive officers of Cullen/Frost and its significant subsidiaries, including loans made to their associates, amounted to $11.8 million and $16.5 million at December 31, 2000 and 1999, respectively. During 2000, additions to these loans amounted to $9.3 million, repayments totaled $10.9 million and other changes totaled $3.1 million. These other changes consist primarily of changes in related-party status. Standby letters of credit extended to directors and executive officers of Cullen/Frost and its significant 47 48 subsidiaries and their associates amounted to $267 thousand and $608 thousand at December 31, 2000 and 1999, respectively. A summary of the changes in the allowance for possible loan losses follows:
Year Ended December 31 ------------------------------ (in thousands) 2000 1999 1998 -------------------------------------------------------------------------------------------- Balance at the beginning of the year........................ $ 58,345 $ 53,616 $ 48,073 Provision for possible loan losses.......................... 14,103 12,427 10,393 Loan loss reserve of acquired institutions.................. 1,066 1,250 Net charge-offs: Losses charged to the allowance........................ (13,162) (13,133) (12,548) Recoveries............................................. 3,979 4,369 6,448 ------------------------------ Net charge-offs................................... (9,183) (8,764) (6,100) ------------------------------ Balance at the end of the year.............................. $ 63,265 $ 58,345 $ 53,616 ==============================
A loan within the scope of SFAS No. 114 is considered impaired when, based on current information and events, it is probable that Cullen/Frost will be unable to collect all amounts due according to the contractual terms of the loan agreement, including scheduled principal and interest payments. All impaired loans are included in non-performing assets. At December 31, 2000, the majority of the impaired loans were real estate loans and collectability was measured based on the fair value of the collateral. Interest payments on impaired loans are typically applied to principal unless collectability of the principal amount is fully assured, in which case interest is recognized on the cash basis. There was no interest revenue recognized on impaired loans in 2000 or 1999, and $70 thousand in 1998. The total allowance for possible loan losses includes activity related to allowances calculated in accordance with SFAS No. 114 and activity related to other loan loss allowances determined in accordance with SFAS No. 5. The following is a summary of loans considered to be impaired:
December 31 ---------------- (in thousands) 2000 1999 ------------------------------------------------------------------------------ Impaired loans with no valuation reserve.................... $ 1,048 $1,783 Impaired loans with a valuation reserve..................... 10,872 6,637 ---------------- Total recorded investment in impaired loans................. $11,920 $8,420 ================ Valuation reserve........................................... $ 5,708 $3,387 The average recorded investment in impaired loans was $8.3 million, $6.2 million, and $5.7 million for the years ended December 31, 2000, 1999, and 1998, respectively.
NOTE F -- NON-PERFORMING ASSETS ------------------------------- A summary of non-performing assets follows:
December 31 ----------------- (in thousands) 2000 1999 ------------------------------------------------------------------------------- Non-accrual................................................. $16,662 $14,854 Foreclosed assets........................................... 2,271 3,983 ----------------- $18,933 $18,837 ================= Cullen/Frost did not have any restructured loans for the years ended December 31, 2000 and 1999.
48 49 Cullen/Frost recognized interest income on non-accrual loans of approximately $565 thousand, $1.1 million and $742 thousand in 2000, 1999 and 1998, respectively. Had these loans performed according to their original contract terms, Cullen/Frost would have recognized additional interest income of approximately $1.9 million in 2000 and $1.3 million in 1999 and 1998. NOTE G -- BANKING PREMISES AND EQUIPMENT ---------------------------------------- A summary of banking premises and equipment follows:
December 31 ----------------------------------------------------------------------- 2000 1999 ---------------------------------- ---------------------------------- ACCUMULATED Accumulated DEPRECIATION NET Depreciation Net AND CARRYING and Carrying (in thousands) COST AMORTIZATION VALUE Cost Amortization Value ---------------------------------------------------------------------------------------------------- Land....................... $ 49,483 $ 49,483 $ 47,125 $ 47,125 Buildings.................. 80,956 $ 33,545 47,411 78,403 $ 31,074 47,329 Furniture and equipment.... 123,721 95,586 28,135 115,180 88,485 26,695 Leasehold improvements..... 43,985 25,335 18,650 39,980 22,475 17,505 Construction in progress... 6,214 6,214 4,330 4,330 ----------------------------------------------------------------------- Total banking premises and equipment....... $304,359 $154,466 $149,893 $285,018 $142,034 $142,984 =======================================================================
NOTE H -- DEPOSITS ------------------ A summary of deposits outstanding by category follows:
December 31 ----------------------- (in thousands) 2000 1999 ------------------------------------------------------------------------------------- Demand deposits............................................. $2,118,624 $1,863,260 Savings and Interest-on-Checking............................ 1,012,790 984,438 Money market deposit accounts............................... 1,774,656 1,635,524 Time accounts of $100,000 or more........................... 720,831 649,563 Time accounts under $100,000................................ 554,458 585,331 Public Funds................................................ 318,331 235,716 ----------------------- Total deposits......................................... $6,499,690 $5,953,832 =======================
Foreign deposits totaled $748 million and $716 million at December 31, 2000 and 1999, respectively. At December 31, 2000, Cullen/Frost's aggregate amount of maturities of public and private time accounts are as follows:
(in thousands) Maturities ------------------------------------------------------------------------- 2001........................................................ $1,504,987 2002........................................................ 85,347 2003........................................................ 2,639 2004........................................................ 391 2005........................................................ 54 Subsequent to 2006.......................................... 202 ---------- Total.................................................. $1,593,620 ==========
49 50 NOTE I -- BORROWED FUNDS ------------------------ Cullen/Frost has a $7.5 million revolving credit facility with another financial institution. The line of credit bears interest at prime. There were no borrowings outstanding on this line at December 31, 2000 and 1999. Cullen/Frost received advances totaling $32.6 million, and $23.5 million as of December 31, 2000 and 1999, respectively, from the Federal Home Loan Bank (FHLB) which are included in other liabilities. These advances fall under provisions of a credit facility designed to enable the Corporation to fund long-term loans. The advances mature on February 2, 2001 through July 2, 2018, bear interest at the FHLB's floating rate (average 6.26 percent at December 31, 2000), and are collateralized by a blanket floating lien on all first mortgage loans, the FHLB capital stock owned by the Corporation, and any Bank funds on deposit with the FHLB. Scheduled payments and principal amounts due under terms of the above notes and advances are as follows:
FHLB Repayment (in thousands) Obligations -------------------------------------------------------------------------- 2001........................................................ $19,805 2002........................................................ 5,149 2003........................................................ 6,021 2004........................................................ 314 2005........................................................ 295 Subsequent to 2005.......................................... 969 ------- Total.................................................. $32,553 =======
The following table represents balances as they relate to securities sold under repurchase agreements:
December 31 ------------------- (in thousands) 2000 1999 --------------------------------------------------------------------------------- Balance at year end......................................... $293,261 $210,909 Fair value of underlying securities at year end............. 320,011 285,887 Maximum month-end balance................................... 313,896 229,455 For the year: Average daily balance..................................... 241,161 194,823
Cullen/Frost Capital Trust I, a Delaware statutory business trust (the "Issuer Trust") and wholly-owned subsidiary of the Corporation, issued on February 6, 1997, $100 million of its 8.42 percent Capital Securities, Series A (the "Capital Securities"), which represent beneficial interests in the Issuer Trust, in an offering exempt from registration under the Securities Act of 1933 pursuant to Rule 144A. The Capital Securities will mature on February 1, 2027 and are redeemable in whole or in part at the option of the Corporation at any time after February 1, 2007 with the approval of the Federal Reserve and in whole at any time upon the occurrence of certain events affecting their tax or regulatory capital treatment. The Issuer Trust used the proceeds of the offering of the Capital Securities to purchase Junior Subordinated Debentures of the Corporation which constitute its only assets and which have terms substantially similar to the Capital Securities. Payments of distributions on the Capital Securities and payments on liquidation or redemption of the Capital Securities are guaranteed by the Corporation on a limited basis pursuant to a Guarantee. The Corporation has also entered into an Agreement as to Expenses and Liabilities with the Issuer Trust pursuant to which it has agreed on a subordinated basis to pay any costs, expenses or liabilities of the Issuer Trust other than those arising under the Capital Securities. The obligations of the Corporation under the Junior Subordinated Debentures, the related Indenture, the trust agreement establishing the Issuer Trust, the 50 51 Guarantee and the Agreement as to Expenses and Liabilities, in the aggregate, constitute a full and unconditional guarantee by the Corporation of the Issuer Trust's obligations under the Capital Securities. The Corporation used the majority of the proceeds of the sale of the Junior Subordinated Debentures for acquisitions and the repurchase of the Corporation's common stock. The Capital Securities are included in the Tier 1 capital of the Corporation for regulatory capital purposes and are reported as debt on the balance sheet, net of deferred issuance costs. The Corporation records distributions payable on the Capital Securities as interest expense. The Corporation has the right to defer payments of interest on the Junior Subordinated Debentures at any time or from time to time for a period of up to ten consecutive semi-annual periods with respect to each deferral period. Under the terms of the Junior Subordinated Debentures, in the event that under certain circumstances there is an event of default under the Junior Subordinated Debentures or the Corporation has elected to defer interest on the Junior Subordinated Debentures, the Corporation may not, with certain exceptions, declare or pay any dividends or distributions on its capital stock or purchase or acquire any of its capital stock. On March 13, 1997, the Corporation and the Issuer Trust, filed a Registration Statement on Form S-4 with the Securities and Exchange Commission to register under the Securities Act of 1933 the exchange of up to $100 million aggregate Liquidation Amount of "new" 8.42 percent Capital Securities, Series A for the then outstanding Capital Securities. On April 25, 1997, the Corporation exchanged all of the outstanding Capital Securities for registered Capital Securities. The "new" Capital Securities have the same terms as the "old" Capital Securities. This exchange enhanced the transferability of the Capital Securities and had no impact on redemption of the Capital Securities, the Junior subordinated Debentures issued by the Company, the Company's guarantee of the Capital Securities, or other matters described above. NOTE J -- COMMON STOCK AND EARNINGS PER COMMON SHARE ---------------------------------------------------- A reconciliation of earnings per share for 2000, 1999 and 1998 follows:
December 31 ---------------------------- (in thousands, except per share amounts) 2000 1999 1998 ------------------------------------------------------------------------------------------ Numerators for both basic and diluted earnings per share, net income................................................ $108,817 $97,642 $75,645 ============================ Denominators: Denominators for basic earnings per share, average outstanding common shares................................. 52,123 53,368 53,150 Dilutive effect of stock options............................ 1,534 1,378 1,529 ---------------------------- Denominator for diluted earnings per share.................. 53,657 54,746 54,679 ============================ Earnings per share: Basic....................................................... $ 2.09 $ 1.83 $ 1.42 Diluted..................................................... 2.03 1.78 1.38
NOTE K -- DIVIDENDS ------------------- In the ordinary course of business Cullen/Frost is dependent upon dividends from its subsidiary bank to provide funds for the payment of dividends to shareholders and to provide for other cash requirements. The amount of dividends the subsidiary bank may declare is subject to regulations. Without prior regulatory approval, the subsidiary bank had approximately $70.4 million available for the payment of dividends to Cullen/Frost at December 31, 2000. 51 52 NOTE L -- CAPITAL ----------------- The table below reflects various measures of regulatory capital at year end 2000 and 1999 for Cullen/ Frost.
DECEMBER 31, 2000 December 31, 1999 ------------------- ------------------- (in thousands) AMOUNT RATIO Amount Ratio --------------------------------------------------------------------------------------------- Risk-Based Tier 1 Capital.............................. $ 549,261 10.08% $ 519,151 11.04% Tier 1 Capital Minimum requirement.......... 217,900 4.00 188,131 4.00 Total Capital............................... $ 612,527 11.24% $ 577,496 12.28% Total Capital Minimum requirement........... 435,801 8.00 376,263 8.00 Risk-adjusted assets, net of goodwill....... $5,447,508 $4,703,284 Leverage ratio................................... 7.54% 7.56% Average equity as a percentage of average assets......................................... 7.46 7.60
At December 31, 2000 and 1999, Cullen/Frost's subsidiary bank was considered "well capitalized" as defined by the FDIC Improvement Act of 1991, the highest rating, and Cullen/Frost's capital ratios were in excess of "well capitalized" levels. A financial institution is deemed to be well capitalized if the institution has a Tier 1 risk-based capital ratio of 6.0 percent or greater, a total risk-based capital ratio of 10.0 percent or greater, and a Tier 1 leverage ratio of 5.0 percent or greater and the institution is not subject to an order, written agreement, capital directive or prompt corrective action directive to meet and maintain a specific capital level for any capital measure. Cullen/Frost and its subsidiary bank currently exceed all minimum capital requirements. Management is not aware of any conditions or events that would have changed the Corporation's capital rating since December 31, 2000. Cullen/Frost is subject to the regulatory capital requirements administered by the Federal Reserve Bank. Regulators can initiate certain mandatory actions, if the Corporation fails to meet the minimum requirements, that could have a direct material effect on the Corporation's financial statements. NOTE M -- LEASES AND RENTAL AGREEMENTS -------------------------------------- Rental expense for all leases amounted to $15.1 million, $14.3 million and $13.9 million for the years ended December 31, 2000, 1999 and 1998, respectively. In June 1987, Frost Bank consummated the sale of its office tower and leased back a portion of the premises under a 13-year primary lease term with options allowing for occupancy up to 50 years. The Bank also sold its related parking garage facility and leased back space in that structure under a 12-year primary lease term with options allowing for occupancy up to 50 years. Both leases allow for purchase of the related asset under specific terms. Frost Bank has agreed to repurchase the office tower and related parking garage facility. Closing of the purchase agreement on the properties is expected to take place in the second quarter of 2002. 52 53 A summary of the total future minimum rental commitments due under non-cancelable equipment leases and long-term agreements on banking premises, not including the aforementioned commitment after the second quarter of 2002, at December 31, 2000 follows:
Total (in thousands) Commitments ------------------------------------------------------------------------- 2001........................................................ $16,344 2002........................................................ 14,026 2003........................................................ 11,551 2004........................................................ 8,295 2005........................................................ 6,766 Subsequent to 2005.......................................... 23,622 ------- Total future minimum rental commitments........... $80,604 =======
It is expected that certain leases will be renewed, or equipment replaced with new leased equipment, as these leases expire. NOTE N -- EMPLOYEE BENEFIT PLANS -------------------------------- RETIREMENT PLANS -- Cullen/Frost has a non-contributory defined benefit plan which covers substantially all employees who have completed at least one year of service and have attained the age of 21. Defined benefits are provided based on an employee's final average compensation, age at retirement and years of service. Cullen/Frost's funding policy is to contribute quarterly an amount necessary to satisfy the Employee Retirement Income Security Act (ERISA) funding standards. An eligible employee's right to receive benefits under the plan becomes fully vested upon the earlier of the date on which such employee has completed five years of service or the date on which such employee attains 65 years of age. Retirement benefits under the plan are paid to vested employees upon their (i) normal retirement at age 65 or later or (ii) early retirement at or after age 55, but before age 65. In addition, Cullen/Frost has a Restoration of Retirement Income Plan (providing benefits in excess of the limits under Section 415 of the Internal Revenue Code of 1986, as amended) for eligible employees which is designed to comply with the requirements of ERISA and the entire cost of which is provided by Cullen/Frost contributions. Both plans, as amended, provide for the payment of monthly retirement income pursuant to a formula based on an eligible employee's highest three consecutive years of final average compensation during the last ten consecutive years of employment. 53 54 The following table summarizes benefit obligation and plan asset activity for the plans.
(in thousands) 2000 1999 -------------------------------------------------------------------------------- CHANGE IN BENEFIT OBLIGATION: Benefit obligation at beginning of year................... $ 64,593 $65,666 Service cost.............................................. 3,884 3,987 Interest cost............................................. 4,788 4,387 Actuarial loss(gain)...................................... 9,458 (7,997) Benefits paid............................................. (1,733) (1,450) ------------------ Benefit obligation at end of year......................... $ 80,990 $64,593 CHANGE IN PLAN ASSETS: Fair value of plan assets at beginning of year............ $ 51,294 $47,760 Actual return on plan assets.............................. (1,344) 4,747 Employer contributions.................................... 4,103 237 Benefits paid............................................. (1,733) (1,450) ------------------ Fair value of plan assets at end of year.................. $ 52,320 $51,294 Funded status of the plan................................. $ 28,670 $13,299 Unrecognized net actuarial (loss) gain.................... (14,118) 1,292 Unrecognized prior service cost........................... (7,657) (8,731) Unrecognized net transition asset......................... 263 390 ------------------ Accrued benefit cost...................................... $ 7,158 $ 6,250 ================== AMOUNTS RECOGNIZED IN THE CONSOLIDATED BALANCE SHEET: Accrued benefit liability................................. $ 10,279 $ 6,583 Intangible asset.......................................... (441) (333) Accumulated other comprehensive income.................... (2,680) ------------------ Net amount recognized..................................... $ 7,158 $ 6,250 ================== WEIGHTED-AVERAGE ASSUMPTIONS AS OF DECEMBER 31 Discount rate............................................. 7.50% 7.50% Expected return on plan assets............................ 9.00 9.00 Expected rate of compensation increase.................... 5.00 5.00
Net pension cost included the following components:
(in thousands) 2000 1999 1998 ----------------------------------------------------------------------------------------- Service cost for benefits earned during the year............ $ 3,884 $ 3,987 $ 2,915 Expected return on plan assets, net of expenses............. (4,608) (4,245) (3,765) Interest cost on projected benefit obligation............... 4,788 4,387 3,711 Net amortization and deferral............................... 946 1,096 714 --------------------------- Net pension cost....................................... $ 5,010 $ 5,225 $ 3,575 ===========================
Cullen/Frost has a supplemental executive retirement plan ("SERP") for a key executive. The plan provides for target retirement benefits, as a percentage of pay, beginning at age 55. The target percentage is 45 percent of pay at age 55, increasing to 60 percent at age 60 and later. Benefits under the SERP are reduced, dollar-for-dollar, by benefits received under the Retirement and Restoration Plans, described above, and any social security benefits. 54 55 SAVINGS PLANS -- Cullen/Frost maintains a 401(k) stock purchase plan (the "401(k) Plan"). The 401(k) Plan permits each participant to make before- or after-tax contributions up to 16 percent of eligible compensation. Cullen/ Frost makes matching contributions to the 401(k) Plan based on the amount of each participant's contributions up to a maximum of six percent of eligible compensation. Eligible employees must complete 90 days of service to be eligible for enrollment and vest in the Corporation's matching contributions immediately. Cullen/Frost's gross expenses related to the 401(k) Plan were $5.5 million, $4.8 million and $2.8 million for 2000, 1999 and 1998, respectively. During 1999 and 1998, the Corporation utilized forfeitures with a value of $38 thousand and $199 thousand, respectively, to offset this expense. The 1991 Thrift Incentive Stock Purchase Plan ("1991 Stock Purchase Plan") was adopted to offer those employees whose participation in the 401(k) Plan is limited an alternative means of receiving comparable benefits. Cullen/Frost's expenses related to the 1991 Stock Purchase Plan were $105 thousand, $123 thousand and $861 thousand for 2000, 1999 and 1998, respectively. EXECUTIVE STOCK PLANS -- Cullen/Frost has four executive stock plans and one outside director stock plan; the 1983 Nonqualified Stock Option Plan ("1983 Plan"), the 1988 Nonqualified Stock Option Plan ("1988 Plan"), the Restricted Stock Plan, the 1992 Stock Plan and the 1997 Outside Directors Stock plan ("1997 Plan"). The 1992 Stock Plan is an all-inclusive plan, with an aggregate of 8,707,410 shares of common stock authorized for award. The 1992 Stock Plan has replaced all other previously approved executive stock plans. The 1992 Stock Plan allows Cullen/Frost to grant restricted stock, incentive stock options, nonqualified stock options, stock appreciation rights, or any combination thereof to certain key executives of the Corporation. The 1997 Outside Directors Plan allows Cullen/Frost to grant nonqualified stock options to outside directors. The options may be awarded to outside directors in such number, and upon such terms, and at any time and from time to time as determined by the Compensation and Benefits Committee ("Committee"). Each award is evidenced by an award agreement that specifies the option price, the duration of the option, the number of shares to which the option pertains, and such other provisions as the Committee determines. The option price for each grant is at least equal to the fair market value of a share on the date of grant. Options granted expire at such time as the Committee determines at the date of grant and in no event does the exercise period exceed a maximum of ten years. 55 56 The following is a summary of option transactions in each of the last three years.
1983 Plan 1988 Plan 1992 Plan ---------------------- ---------------------- --------------------------------------- Weighted Weighted Shares Weighted Options Average Options Average Available Options Average Outstanding Price Outstanding Price For Grant Outstanding Price ----------------------------------------------------------------------------------------------------------------- Balance, Dec. 31, 1997................. 52,764 $2.29 284,666 $2.62 2,384,140 2,483,416 $13.26 Granted............... (841,800) 841,800 24.70 Exercised............. (32,492) 2.02 (26,164) 2.21 (126,070) 10.25 Canceled.............. 15,080 (15,080) 26.26 ----------------------------------------------------------------------------------------- Balance, Dec. 31, 1998................. 20,272 2.73 258,502 2.66 1,557,420 3,184,066 16.35 Authorized............ 3,000,000 Granted............... (1,519,000) 1,519,000 24.80 Exercised............. (77,578) 2.50 (187,262) 11.27 Canceled.............. 54,000 (54,000) 21.57 ----------------------------------------------------------------------------------------- Balance, Dec. 31, 1999................. 20,272 2.73 180,924 2.73 3,092,420 4,461,804 19.37 Granted............... (1,467,000) 1,467,000 33.24 Exercised............. (17,412) 2.73 (19,072) 2.73 (205,608) 12.12 Canceled.............. 25,400 (25,400) 25.09 ----------------------------------------------------------------------------------------- Balance, Dec. 31, 2000................. 2,860 $2.73 161,852 $2.73 1,650,820 5,697,796 $23.18 ========================================================================================= At Dec. 31, 2000 Per Share Price Range................ $2.73 $2.73 $ 6.37-$ 9.07* 11.44- 15.13** 22.44- 30.31*** 33.31- 37.06**** Weighted-Average Remaining Contractual Life................. .8 Years .8 Years 3.2 Years* 5.5 Years** 5.9 Years*** 5.8 Years**** 1997 Plan -------------------------------------- Shares Weighted Available Options Average For Grant Outstanding Price ---------------------- -------------------------------------- Balance, Dec. 31, 1997................. 264,000 36,000 $22.56 Granted............... (72,000) 72,000 $26.88 Exercised............. Canceled.............. -------------------------------------- Balance, Dec. 31, 1998................. 192,000 108,000 25.44 Authorized............ Granted............... (76,000) 76,000 26.63 Exercised............. Canceled.............. -------------------------------------- Balance, Dec. 31, 1999................. 116,000 184,000 25.93 Granted............... (72,000) 72,000 30.56 Exercised............. (2,000) 22.56 Canceled.............. -------------------------------------- Balance, Dec. 31, 2000................. 44,000 254,000 $27.27 ====================================== At Dec. 31, 2000 Per Share Price Range................ $22.56-$30.56 Weighted-Average Remaining Contractual Life................. 8.3 Years * Includes 716,356 options which are all exercisable with a weighted-average exercise price of $8.64. ** Includes 900,440 options of which 753,640 are exercisable both with a weighted-average exercise price of $14.01. *** Includes 2,627,000 options of which 176,200 are exercisable both with a weighted-average exercise price of $24.68. **** Includes 1,454,000 options of which none are exercisable.
There were 2,064,908, 1,915,976 and 1,702,272 options exercisable for 2000, 1999, and 1998 with a weighted-average exercise price of $13.66, $12.19 and $10.69, respectively. Options awarded through the 1997 Directors Plan have a ten-year life with immediate vesting. All other options awarded in 2000 and 1999 have a six-year life with a three-year cliff vesting period. Options awarded in 1998 have a ten-year life with a three-year cliff vesting period. In general, options awarded prior to 1998 had a ten-year life with a five-year vesting period. These plans, which were approved by shareholders, were established to enable Cullen/Frost to retain and motivate key employees. A committee of non-participating directors has sole authority to select the employees, establish the awards to be issued, and approve the terms and conditions of each award contract. Cullen/Frost has common stock reserved for future issuance upon the grant and exercise of options of 7,813,828 shares. In accounting for the impact of issuing stock options, Cullen/Frost has elected to continue to follow the requirements of Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB 25) and Related Interpretation as allowed by SFAS No. 123, rather than to follow the recognition requirements of SFAS No. 123, which requires fair value accounting. SFAS No. 123 requires disclosure of proforma net income and earnings per share information assuming that stock options granted in 1998, 1999 and 2000 have been accounted for in accordance with the fair value requirements of SFAS No. 123. 56 57 The fair value for these options was estimated at the date of grant using a Black-Scholes option pricing model. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have characteristics which are different from Cullen/Frost's employee stock options. In addition, option valuation models require the input of highly subjective assumptions which can significantly impact the estimated fair value. As such, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of employee/outside director stock options. The following weighted-average assumptions were used for 2000, 1999 and 1998, respectively: risk-free interest rates of 5.03 percent, 6.56 percent and 4.87 percent; dividend yield of 2.00 percent, 3.00 percent and 2.25 percent; volatility factors of the expected market price of Cullen/Frost's common stock of 29 percent, 24 percent and 23 percent; and weighted-average expected lives of the options of six years for 2000 and 1999 and eight years for 1998. The weighted-average grant-date fair value of options granted during 2000, 1999 and 1998 was $9.33, $6.02, and $8.36, respectively. For purposes of proforma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting period. Cullen/Frost's proforma information as if compensation expense had been recognized in accordance with the fair value requirements SFAS No. 123 is summarized below:
(in thousands except for earnings per share amounts) 2000 1999 1998 ------------------------------------------------------------------------------------------ Proforma net income*........................................ $104,051 $94,857 $74,345 Proforma earnings per common share Basic.................................................. $ 2.00 $ 1.78 $ 1.40 Diluted................................................ 1.98 1.77 1.40 * Because SFAS No. 123 is applicable only to options granted subsequent to December 31, 1994, its proforma effect is not necessarily indicative of its impact on future years.
In 2000, restricted stock grants of 62,940 shares were awarded under the 1992 Stock Plan. Restricted stock grants awarded under the 1992 Stock Plan totaled 50,171 and 83,000 shares for 1999 and 1998, respectively. The weighted-average price for these awards equaled the market price at the date of grant and was $28.35, $25.12, and $24.65 for 2000, 1999 and 1998, respectively. Deferred compensation expense related to the restricted stock was $1.8 million in 2000, $1.6 million in 1999, and $1.5 million in 1998. Restricted shares are generally awarded under a three- to four-year cliff vesting period. The market value of restricted shares at the date of grant is expensed over the restriction period. Cullen/Frost has change-in-control agreements with 26 of its executives. Under these agreements each covered person could receive, upon the effectiveness of a change-in-control, two to three times (depending on the person) the executive's base compensation plus target bonus established for the year, and any unpaid base salary and pro rata target bonus for the year in which the termination occurs, including vacation pay. Additionally, the executive's insurance benefits will continue for two to three full years after the termination and all long-term incentive awards immediately vest. The Corporation has no material liability for post-retirement or post-employment benefits other than pensions. 57 58 NOTE O -- INCOME TAXES ---------------------- The following is an analysis of the Corporation's income taxes included in the consolidated statements of operations for the years ended December 31, 2000, 1999, and 1998:
(in thousands) 2000 1999 1998 ----------------------------------------------------------------------------------------- Current income tax expense.................................. $59,213 $57,062 $47,669 Deferred income tax benefit................................. (1,785) (6,083) (5,574) --------------------------- Income tax expense as reported.............................. $57,428 $50,979 $42,095 ===========================
The following is a reconciliation of the difference between income tax expense as reported and the amount computed by applying the statutory income tax rate to income before income taxes:
Year Ended December 31 ------------------------------ (in thousands) 2000 1999 1998 -------------------------------------------------------------------------------------------- Income before income taxes.................................. $166,245 $148,621 $117,740 Statutory rate.............................................. 35% 35% 35% ------------------------------ Income tax expense at the statutory rate.................... 58,186 52,017 41,209 Effect of tax-exempt interest............................... (2,920) (2,927) (1,820) Amortization of non-deductible goodwill..................... 2,126 1,910 1,410 Acquisition costs........................................... 931 Other....................................................... 36 (21) 365 ------------------------------ Income tax expense as reported.............................. $ 57,428 $ 50,979 $ 42,095 ============================== Tax (expense) benefits related to securities transactions... $ (1) $ 30 $ (126) ==============================
The tax effects of temporary differences that give rise to significant portions of deferred tax assets and liabilities at December 31, 2000, and 1999 are presented below:
(in thousands) 2000 1999 =============================================================================== Deferred tax assets: Allowance for possible loan losses..................... $22,143 $20,421 Building modification reserve.......................... 1,592 1,592 Gain on sale of assets................................. 1,050 1,064 Unrealized loss on securities available for sale....... 1,228 21,059 Additional minimum pension liability................... 938 Retirement plan........................................ 2,453 2,450 Other.................................................. 1,303 1,421 ----------------- Total gross deferred tax assets................... 30,707 48,007 Deferred tax liabilities: Prepaid expenses....................................... (1,547) (508) Intangible assets...................................... (4,311) (6,239) Leases................................................. (1,161) (682) Federal Home Loan Bank stock dividends................. (1,117) Bank premises and equipment............................ (424) (323) Other.................................................. (777) (462) ----------------- Total gross deferred tax liabilities.............. (9,337) (8,214) ----------------- Net deferred tax asset............................ $21,370 $39,793 =================
At December 31, 2000 and 1999, no valuation allowance for deferred tax assets was necessary because they were supported by recoverable taxes paid in prior years. 58 59 NOTE P -- NON-INTEREST EXPENSE ------------------------------ Significant components of other non-interest expense for the years ended December 31, 2000, 1999, and 1998 are presented below:
Year Ended December 31 --------------------------- (in thousands) 2000 1999 1998 ----------------------------------------------------------------------------------------- Outside computer service.................................... $ 9,676 $ 9,537 $ 9,380 Other professional expenses................................. 7,422 5,867 6,327 Stationery, printing and supplies........................... 6,056 6,676 6,024 Armored motor service....................................... 4,821 4,441 3,946 Postage and express......................................... 3,954 4,154 3,830 Other....................................................... 48,520 46,211 45,790 --------------------------- Total.................................................. $80,449 $76,886 $75,297 ===========================
NOTE Q -- CASH FLOW DATA ------------------------ For purposes of reporting cash flow, cash and cash equivalents include the following:
December 31 -------------------------------- (in thousands) 2000 1999 1998 ---------------------------------------------------------------------------------------------- Cash and due from banks..................................... $ 820,459 $760,612 $684,941 Time deposits............................................... 3,574 6,546 Federal funds sold and securities purchased under resale agreements................................................ 215,050 34,950 102,900 -------------------------------- Total.................................................. $1,039,083 $802,108 $787,841 ================================
Generally, Federal funds are sold for one-day periods and securities purchased under resale agreements are held for less than thirty-five days. Supplemental cash flow information is as follows:
Year Ended December 31 ------------------------------ (in thousands) 2000 1999 1998 -------------------------------------------------------------------------------------------- Cash paid: Interest............................................... $184,864 $147,036 $164,150 Income Taxes........................................... 54,165 57,549 45,968 Non-cash items: Loans originated to facilitate the sale of foreclosed assets............................................... 413 278 269 Loan foreclosures...................................... 440 2,766 1,995
59 60 NOTE R -- FAIR VALUES OF FINANCIAL INSTRUMENTS ---------------------------------------------- Fair Values of Financial Instruments -- SFAS No. 107, "Disclosures about Fair Value of Financial Instruments" requires disclosure of fair value information about financial instruments, whether or not recognized in the balance sheet, for which it is practicable to estimate that value. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. SFAS No. 107 excludes certain financial instruments and all non-financial instruments from its disclosure requirements. This disclosure does not and is not intended to represent the fair value of Cullen/Frost. The following methods and assumptions were used by Cullen/Frost in estimating its fair value disclosures for financial instruments: Cash and cash equivalents: The carrying amounts reported in the consolidated balance sheet, for cash and due from banks, time deposits, and Federal funds sold and securities purchased under resale agreements, approximates their fair value. Securities: Estimated fair values are based on quoted market prices, if available. If a quoted market price is not available, fair value is estimated using quoted market prices for similar instruments. Loans: For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values. The fair value for other loans is estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. The carrying amount of accrued interest approximates its fair value. Deposits: SFAS No. 107 defines the fair value of demand deposits as the amount payable on demand, and prohibits adjusting fair value for any deposit base intangible. The deposit base intangible is not considered in the fair value amounts. The carrying amounts for variable-rate money market accounts approximate their fair value. The fair value of fixed-term certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities. Short-term borrowings: The carrying amount reported in the consolidated balance sheet approximates the estimated fair value. Loan commitments, standby and commercial letters of credit: Cullen/Frost's lending commitments have variable interest rates and "escape" clauses if the customer's credit quality deteriorates. Therefore the amounts committed approximate fair value. Guaranteed preferred beneficial interest in the Corporation's junior subordinated deferrable interest debentures: The fair value of the Trust Preferred Capital Securities is estimated based on the quoted market prices of the instruments. Interest rate swaps/floor: The estimated fair value of the existing agreements are based on quoted market prices. 60 61 The estimated fair values of Cullen/Frost's financial instruments are as follows:
December 31 ------------------------------------------------- 2000 1999 ----------------------- ----------------------- ESTIMATED Estimated CARRYING FAIR Carrying Fair (in thousands) AMOUNT VALUE Amount Value ---------------------------------------------------------------------------------------- Financial assets: Cash and cash equivalents....... $1,039,083 $1,039,083 $ 802,108 $ 802,108 Securities...................... 1,668,484 1,669,435 1,629,911 1,630,493 Loans........................... 4,534,645 4,523,856 4,166,728 4,153,626 Allowance for loan losses....... (63,265) (58,345) ------------------------------------------------- Net loans.................. 4,471,380 4,523,856 4,108,383 4,153,626 Financial liabilities: Deposits........................ 6,499,690 6,504,433 5,953,832 5,792,352 Short-term borrowings........... 395,665 395,665 356,979 356,979 Guaranteed preferred beneficial interest in the Corporation's junior subordinated deferrable interest debentures, net...... 98,568 90,660 98,513 94,230 Off-balance sheet instruments: Interest rate swaps............. (2,015) 211 Interest rate floor............. 495 5,139
NOTE S -- DERIVATIVE FINANCIAL INSTRUMENTS ------------------------------------------ Cullen/Frost uses off-balance sheet interest rate swaps to hedge its interest rate risk. These swap transactions allow management to structure the interest rate sensitivity of the asset side of the Corporation's balance sheet to more closely match its view of the interest rate sensitivity of the Corporation's funding sources. Cullen/Frost had 34 interest rate swaps with a notional amount of $211 million at December 31, 2000 and 30 interest rate swaps with a notional amount of $259 million at December 31, 1999. In 2000 and 1999, each swap was a hedge against a specific commercial fixed-rate loan/lease or against a specific pool of commercial floating-rate loans with lives ranging from approximately one and a half to ten years. For 2000 and 1999, the amortization of the interest rate swap's notional amount generally matched the expected amortization of the underlying loan/lease or pool of loans. Additionally in 2000, the Corporation entered into an interest rate floor agreement with a notional amount totaling $1 billion for three years. The interest rate floor is a hedge of interest rate exposure associated with commercial loan accounts in an environment of falling rates. These interest rate contracts involve the risk of dealing with counterparties and their ability to meet contractual terms. Each counterparty to a swap transaction has a credit rating that is investment grade. The net amount payable or receivable under interest rate swaps/floor is accrued as an adjustment to interest income and was not material in 2000 or 1999. Cullen/Frost's credit exposure on interest rate swaps/floor is limited to Cullen/Frost's net favorable value and interest payments of all swaps/floor to each counterparty. In such cases collateral is required from the counterparties involved if the net value of the swaps/floor exceeds a nominal amount considered to be immaterial. At December 31, 2000, the Corporation's credit exposure relating to interest rate swaps/floor was $4.2 million. The fair value and any related carrying amounts of the interest rate swaps/floor can be found in the table above. 61 62 Activity in the notional amounts of end-user derivatives for each of the three years ended December 31, 2000, 1999 and 1998, is summarized as follows:
Amortizing Interest Rate Interest Rate Total (in millions) Swaps Floors Derivatives ----------------------------------------------------------------------------------------------- Balance, January 1, 1998........................ $ 267 $ 500 $ 767 Additions.................................. 19 19 Amortization and maturities................ (55) (55) Terminations............................... (156) (500) (656) -------------------------------------- Balance, December 31, 1998...................... 75 -- 75 Additions.................................. 239 239 Amortization and maturities................ (54) (54) Terminations............................... (1) (1) -------------------------------------- Balance, December 31, 1999...................... 259 -- 259 Additions.................................. 24 1,000 1,024 Amortization and maturities................ (72) (72) -------------------------------------- Balance, December 31, 2000...................... $ 211 $1,000 $1,211 ======================================
The following table summarizes the weighted average receive, pay and strike rates for the interest rate swaps/floor at December 31, 2000.
Weighted Average ----------------------------- Receive Pay Strike Rate Rate Rate ---------------------------------------------------------------------------------------- Interest Rate Swaps: Receive -- fixed swaps.............................. 5.02% 5.99% Pay -- fixed swaps.................................. 6.26 6.05 Interest Rate Floor: Three-month LIBOR................................... 5.00%
NOTE T -- CONTINGENCIES ----------------------- Certain subsidiaries of Cullen/Frost are defendants in various matters of litigation which have arisen in the normal course of conducting a commercial banking business. In the opinion of management, the disposition of such pending litigation will not have a material effect on Cullen/Frost's consolidated financial position. NOTE U -- OPERATING SEGMENTS ---------------------------- The Corporation has three reportable operating segments: Banking, the Financial Management Group and Frost Securities Inc. Banking includes both commercial and consumer banking services. Commercial services are provided to corporations and other business clients and include a wide array of lending and cash management products. Consumer banking services include direct lending and depository services. The Financial Management Group includes fee based services within private trust, retirement services, and financial management services including personal wealth management, insurance, and brokerage services. Frost Securities Inc., an investment banking subsidiary, began operations in August of 1999. These business units were identified through the products and services that are offered within each unit. Prior period amounts have been reclassified to conform to the current year's presentation. 62 63 The accounting policies of each reportable segment are the same as those of the Corporation described in Note A on page 41, except for the following items, which impact the Banking and Financial Management Group segments. The Corporation uses a match-funded transfer pricing process to assess operating segment performance. Expenses for consolidated back-office operations are allocated to operating segments based on estimated uses of those services. General overhead type expenses such as executive administration, accounting, internal audit, and personnel are allocated based on the direct expense level of the operating segment. Income tax expense for the individual segments is calculated basically at the statutory rate. Parent Company records the tax expense or benefit necessary to reconcile to the consolidated total.
Financial Management Frost Consolidated (in thousands) Banking Group Securities Non-Banks Total ----------------------------------------------------------------------------------------------------- 2000 NET INTEREST INCOME (EXPENSE)......... $321,715 $ 9,592 $ 191 $ (8,735) $322,763 PROVISION FOR LOAN LOSSES............. 14,107 (4) N/A N/A 14,103 NON-INTEREST INCOME................... 95,298 68,842 6,215 510 170,865 NON-INTEREST EXPENSE.................. 239,870 53,958 11,513 7,939 313,280 ------------------------------------------------------------- INCOME (LOSS) BEFORE INCOME TAXES..... 163,036 24,480 (5,107) (16,164) 166,245 INCOME TAX EXPENSE (CREDIT)........... 57,063 8,772 (1,757) (6,650) 57,428 ------------------------------------------------------------- NET INCOME (LOSS)..................... $105,973 $15,708 $(3,350) $ (9,514) $108,817 ============================================================= AVERAGE ASSETS (IN MILLIONS).......... $ 7,105 $ 40* $ 4 $ N/M $ 7,150 ===================================================================================================== 1999 Net interest income (expense)......... $297,593 $ 8,005 $ 115 $ (8,735) $296,978 Provision for loan losses............. 12,426 1 N/A N/A 12,427 Non-interest income................... 92,258 57,799 953 253 151,263 Non-interest expense.................. 233,504 42,625 4,741 6,323 287,193 ------------------------------------------------------------- Income (loss) before income taxes..... 143,921 23,178 (3,673) (14,805) 148,621 Income tax expense (credit)........... 50,373 8,211 (1,286) (6,319) 50,979 ------------------------------------------------------------- Net income (loss)..................... $ 93,548 $14,967 $(2,387) $ (8,486) $ 97,642 ============================================================= Average assets (in millions).......... $ 6,828 $ 42* $ 6 $ N/M $ 6,875 ===================================================================================================== 1998 Net interest income (expense)......... $270,261 $ 6,456 N/A $ (8,744) $267,973 Provision for loan losses............. 10,337 56 N/A N/A 10,393 Non-interest income................... 82,631 53,162 N/A 684 136,477 Non-interest expense.................. 221,284 37,282 N/A 5,507 264,073 ------------------------------------------------------------- Earnings (loss) before income taxes... 121,271 22,280 N/A (13,567) 129,984** Income tax expense (credit)........... 42,445 7,783 N/A (5,400) 44,828 ------------------------------------------------------------- Operating earnings (loss)............. $ 78,826 $14,497 N/A $ (8,167) $ 85,156** ============================================================= Average assets (in millions).......... $ 6,413 $ 31* N/A $ N/M $ 6,418 ===================================================================================================== * Excludes off balance sheet discretionary and non-discretionary assets with total market value of $12.9 billion, $12.8 billion, and $11.7 billion at year-end 2000, 1999 and 1998, respectively. ** Excludes the after-tax impact of the $12.2 million Overton merger related charge. See discussion on page 16.
63 64 NOTE V -- CONDENSED PARENT CORPORATION FINANCIAL STATEMENTS ----------------------------------------------------------- Condensed financial information of the Parent Corporation as of December 31, 2000 and 1999 and for each of the three years in the period ended December 31, 2000 follows:
Year Ended December 31 ---------------------------- STATEMENT OF OPERATIONS (in thousands) 2000 1999 1998 ------------------------------------------------------------------------------------------ INCOME: Dividends from second tier bank holding company subsidiary............................................. $ 42,699 $81,444 $91,673 Interest and other...................................... 3,552 3,851 2,943 ---------------------------- TOTAL INCOME........................................ 46,251 85,295 94,616 EXPENSES: Salaries and employee benefits.......................... 5,908 4,645 6,698 Interest expense........................................ 8,735 8,735 8,761 Other................................................... 1,884 1,534 6,635 ---------------------------- TOTAL EXPENSES...................................... 16,527 14,914 22,094 ---------------------------- INCOME BEFORE INCOME TAX CREDITS AND EQUITY IN UNDISTRIBUTED NET INCOME OF SUBSIDIARIES............ 29,724 70,381 72,522 Income tax credits.......................................... 5,377 4,394 4,812 Equity in undistributed net income of subsidiaries.......... 73,716 22,867 (1,689) ---------------------------- NET INCOME.......................................... $108,817 $97,642 $75,645 ============================
December 31 ------------------- BALANCE SHEETS (in thousands) 2000 1999 --------------------------------------------------------------------------------- ASSETS Cash........................................................ $ 1,079 $ 421 Securities purchased under resale agreements................ 25,059 71,330 Investment in second tier financial holding company subsidiary................................................ 667,057 553,655 Other....................................................... 3,799 3,275 ------------------- TOTAL ASSETS........................................ $696,994 $628,681 =================== LIABILITIES Other....................................................... $ 22,307 $ 17,764 Guaranteed preferred beneficial interest in the Corporation's junior subordinated deferrable interest debentures................................................ 101,661 101,606 ------------------- TOTAL LIABILITIES................................... 123,968 119,370 SHAREHOLDERS' EQUITY........................................ 573,026 509,311 ------------------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY.......... $696,994 $628,681 ===================
Year Ended December 31 ------------------------------- STATEMENTS OF CASH FLOWS (in thousands) 2000 1999 1998 --------------------------------------------------------------------------------------------- OPERATING ACTIVITIES Net income.................................................. $ 108,817 $ 97,642 $ 75,645 Adjustments to reconcile net income to net cash provided by operating activities: Net income of subsidiaries.............................. (116,415) (104,311) (89,984) Dividends from subsidiaries............................. 42,699 81,444 91,673 Tax benefit from exercise of employee stock options..... 1,926 1,698 1,771 Net change in other liabilities and assets.............. 2,446 1,328 5,557 ------------------------------- NET CASH PROVIDED BY OPERATING ACTIVITIES........... 39,473 77,801 84,662 INVESTING ACTIVITIES Capital contributions to subsidiaries....................... (2,859) (50,521) Decrease in loans........................................... 52 ------------------------------- NET CASH USED BY INVESTING ACTIVITIES............... (2,859) (50,469) FINANCING ACTIVITIES Purchase of treasury stock.................................. (47,162) (24,318) (3,495) Net proceeds from issuance of common stock.................. 4,489 3,616 6,212 Cash dividends.............................................. (39,554) (36,013) (30,476) ------------------------------- NET CASH USED BY FINANCING ACTIVITIES............... (82,227) (56,715) (27,759) ------------------------------- (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS.... (45,613) (29,383) 56,903 Cash and cash equivalents at beginning of year.............. 71,751 101,134 44,231 ------------------------------- CASH AND CASH EQUIVALENTS AT END OF YEAR............ $ 26,138 $ 71,751 $101,134 ===============================
64 65 Report of Ernst & Young LLP Independent Auditors SHAREHOLDERS AND BOARD OF DIRECTORS CULLEN/FROST BANKERS, INC. We have audited the accompanying consolidated balance sheets of Cullen/Frost Bankers, Inc. and Subsidiaries (the Corporation) as of December 31, 2000 and 1999, and the related consolidated statements of operations, changes in shareholders' equity, and cash flows for each of the three years in the period ended December 31, 2000. These financial statements are the responsibility of the Corporation's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. 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 audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Cullen/Frost Bankers, Inc. and Subsidiaries at December 31, 2000 and 1999, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2000 in conformity with accounting principles generally accepted in the United States. /s/ ERNST & YOUNG LLP San Antonio, Texas January 23, 2001 65 66 CONSOLIDATED AVERAGE BALANCE SHEETS (dollars in thousands -- taxable-equivalent basis) The following unaudited schedule is presented for additional information and analysis.
Year Ended December 31 --------------------------------------------------------------- 2000 1999 ------------------------------ ------------------------------ INTEREST Interest AVERAGE INCOME/ YIELD/ Average Income/ Yield/ BALANCE EXPENSE COST Balance Expense Cost ---------------------------------------------------------------------------------------------------------------------- ASSETS: Time deposits........................................ $ 7,226 $ 505 6.99% $ 3,103 $ 164 5.27% Securities: U.S. Treasury.................................... 130,180 7,916 6.08 176,718 8,976 5.08 U.S. Government agencies and corporations........ 1,336,523 91,243 6.83 1,478,519 95,491 6.46 States and political subdivisions: Tax-exempt................................... 151,423 11,281 7.45 141,224 10,377 7.35 Taxable...................................... 3,399 226 6.65 3,585 229 6.38 Other............................................ 35,735 2,622 7.33 38,803 2,203 5.68 ---------- -------- ---------- -------- Total securities......................... 1,657,260 113,288 6.84 1,838,849 117,276 6.38 Federal funds sold and securities purchased under resale agreements.................................. 130,800 8,505 6.50 81,363 4,245 5.22 Loans, net of unearned discount...................... 4,352,868 394,527 9.06 3,934,406 330,397 8.40 ---------- -------- ---------- -------- TOTAL EARNING ASSETS AND AVERAGE RATE EARNED..... 6,148,154 516,825 8.41 5,857,721 452,082 7.72 Cash and due from banks.............................. 621,950 619,917 Allowance for possible loan losses................... (59,281) (57,481) Banking premises and equipment....................... 146,185 141,453 Accrued interest and other assets.................... 292,676 313,826 ---------- ---------- TOTAL ASSETS..................................... $7,149,684 $6,875,436 ========== ========== LIABILITIES: Demand deposits: Commercial and individual........................ $1,636,633 $1,533,160 Correspondent banks.............................. 227,807 221,530 Public funds..................................... 32,732 37,567 ---------- ---------- Total demand deposits........................ 1,897,172 1,792,257 Time deposits: Savings and Interest-on-Checking................. 961,315 6,344 .66 948,487 6,557 .69 Money market deposit accounts.................... 1,703,602 76,537 4.49 1,636,915 60,478 3.69 Time accounts.................................... 1,239,022 64,498 5.21 1,250,340 53,815 4.30 Public funds..................................... 250,559 11,479 4.58 220,845 7,969 3.61 ---------- -------- ---------- -------- Total time deposits...................... 4,154,498 158,858 3.82 4,056,587 128,819 3.18 ---------- ---------- Total deposits........................... 6,051,670 5,848,844 Federal funds purchased and securities sold under repurchase agreements.............................. 326,448 17,889 5.48 285,470 12,500 4.38 Guaranteed preferred beneficial interests in the Corporation's junior subordinated deferrable interest debentures, net........................... 98,542 8,475 8.60 98,485 8,475 8.61 Long-term notes payable.............................. 3,769 204 5.42 1,793 103 5.74 Other borrowings..................................... 63,243 4,142 6.55 12,186 705 5.79 ---------- -------- ---------- -------- TOTAL INTEREST-BEARING FUNDS AND AVERAGE RATE PAID........................................... 4,646,500 189,568 4.08 4,454,521 150,602 3.38 -------- ---- -------- ---- Accrued interest and other liabilities............... 72,887 105,888 ---------- ---------- TOTAL LIABILITIES................................ 6,616,559 6,352,666 SHAREHOLDERS' EQUITY................................. 533,125 522,770 ---------- ---------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY....... $7,149,684 $6,875,436 ========== ========== Net interest income.................................. $327,257 $301,480 ======== ======== Net interest spread.................................. 4.33% 4.34% ==== ==== Net interest income to total average earning assets............................................. 5.32% 5.15% ==== ==== The above information is shown on a taxable-equivalent basis assuming a 35 percent tax rate. Non-accrual loans are included in the average loan amounts outstanding for these computations.
66 67
Year Ended December 31 --------------------------------------------------------------------------------------------------------------------------------- 1998 1997 1996 1995 ------------------------------ ------------------------------ ------------------------------ ------------------------------ Interest Interest Interest Interest Average Income/ Yield/ Average Income/ Yield/ Average Income/ Yield/ Average Income/ Yield/ Balance Expense Cost Balance Expense Cost Balance Expense Cost Balance Expense Cost --------------------------------------------------------------------------------------------------------------------------------- $ 262,098 $ 14,339 5.47% $ 301,133 $ 16,596 5.51% $ 282,692 $ 15,049 5.32% $ 238,968 $ 14,142 5.92% 1,557,489 99,971 6.42 1,374,202 90,688 6.60 1,439,744 95,838 6.66 1,447,288 93,373 6.45 66,278 4,963 7.49 36,888 2,850 7.73 29,863 2,340 7.84 27,128 2,211 8.15 2,229 138 6.19 3,185 239 7.50 1,783 118 6.62 605 39 6.45 42,025 2,579 6.14 11,317 686 6.06 6,723 389 5.79 9,314 593 6.37 ---------- -------- ---------- -------- ---------- -------- ---------- -------- 1,930,119 121,990 6.32 1,726,725 111,059 6.43 1,760,805 113,734 6.46 1,723,303 110,358 6.40 127,273 7,111 5.59 228,245 12,423 5.44 143,401 7,476 5.21 121,122 6,957 5.74 3,437,510 301,789 8.78 2,917,371 262,569 9.00 2,445,777 220,417 9.01 1,971,681 181,597 9.21 ---------- -------- ---------- -------- ---------- -------- ---------- -------- 5,494,902 430,890 7.84 4,872,341 386,051 7.92 4,349,983 341,627 7.85 3,816,106 298,912 7.83 577,489 527,924 508,934 400,270 (51,230) (44,837) (39,814) (31,969) 135,577 124,629 117,352 102,920 260,831 207,520 177,040 156,229 ---------- ---------- ---------- ---------- $6,417,569 $5,687,577 $5,113,495 $4,443,556 ========== ========== ========== ========== $1,387,824 $1,143,828 $ 979,757 $ 814,169 195,555 192,231 199,983 131,295 43,507 44,183 45,200 42,033 ---------- ---------- ---------- ---------- 1,626,886 1,380,242 1,224,940 987,497 901,960 10,958 1.21 818,216 10,764 1.32 741,102 10,176 1.37 741,003 13,195 1.78 1,387,994 54,326 3.91 1,195,773 48,816 4.08 1,053,819 40,208 3.82 801,081 29,631 3.70 1,286,036 63,621 4.95 1,205,261 59,867 4.97 1,145,194 56,110 4.90 1,057,100 52,509 4.97 251,570 9,378 3.73 269,027 11,693 4.35 245,266 10,685 4.36 125,971 5,450 4.33 ---------- -------- ---------- -------- ---------- -------- ---------- -------- 3,827,560 138,283 3.61 3,488,277 131,140 3.76 3,185,381 117,179 3.68 2,725,155 100,785 3.70 ---------- ---------- ---------- ---------- 5,454,446 4,868,519 4,410,321 3,712,652 252,977 11,606 4.59 189,468 8,739 4.61 204,515 9,761 4.77 290,636 15,150 5.21 98,429 8,475 8.61 88,745 7,652 8.62 30,666 1,754 5.72 25,794 1,434 5.56 19,389 1,019 5.26 12,514 733 5.86 ---------- -------- ---------- -------- ---------- -------- ---------- -------- 4,209,632 160,118 3.80 3,792,284 148,965 3.93 3,409,285 127,959 3.75 3,028,305 116,668 3.85 -------- ---- -------- ---- -------- ---- -------- ---- 91,093 69,601 76,583 67,940 ---------- ---------- ---------- ---------- 5,927,611 5,242,127 4,710,808 4,083,742 489,958 445,450 402,687 359,814 ---------- ---------- ---------- ---------- $6,417,569 $5,687,577 $5,113,495 $4,443,556 ========== ========== ========== ========== $270,772 $237,086 $213,668 $182,244 ======== ======== ======== ======== 4.04% 3.99% 4.10% 3.98% ==== ==== ==== ==== 4.93% 4.87% 4.91% 4.78% ==== ==== ==== ====
67 68 FINANCIAL STATISTICS (dollars in thousands) The following unaudited schedules and statistics are presented for additional information and analysis. RATE/VOLUME ANALYSIS --------------------
2000/1999 1999/1998 ------------------------------- --------------------------------- INCREASE (DECREASE) Increase (Decrease) DUE TO CHANGE IN Due to Change in ------------------ TOTAL -------------------- Total OR NET or Net AVERAGE AVERAGE INCREASE Average Average Increase RATE BALANCE (DECREASE) Rate Balance (Decrease) ---------------------------------------------------------------------------------------------------------- Changes in interest earned on: Time deposits...................... $ 274 $ 67 $ 341 $ 164 $ 164 Securities: U.S. Treasury................... (2,630) 1,570 (1,060) $ (966) (4,397) (5,363) U.S. Government agencies and corporations.................. (9,499) 5,251 (4,248) 617 (5,097) (4,480) States and political subdivisions Tax-exempt.................... 757 147 904 (95) 5,509 5,414 Taxable....................... (12) 9 (3) 4 87 91 Other........................... (185) 604 419 (186) (190) (376) Federal funds sold................. 3,031 1,229 4,260 (444) (2,422) (2,866) Loans.............................. 36,737 27,393 64,130 (13,558) 42,166 28,608 ------------------------------------------------------------------- Total...................... 28,473 36,270 64,743 (14,628) 35,820 21,192 Changes in interest paid on: Savings, Interest-on-Checking...... (88) 301 213 4,940 (539) 4,401 Money market deposits accounts..... (2,548) (13,511) (16,059) 3,175 (9,327) (6,152) Time accounts and public funds..... (677) (13,516) (14,193) 8,374 2,841 11,215 Federal funds purchased and securities sold under repurchase agreements...................... (1,959) (3,430) (5,389) 546 (1,440) (894) Long-term notes payable and other borrowings...................... (3,444) (94) (3,538) (16) 962 946 ------------------------------------------------------------------- Total...................... (8,716) (30,250) (38,966) 17,019 (7,503) 9,516 ------------------------------------------------------------------- Changes in net interest income....... $19,757 $ 6,020 $ 25,777 $ 2,391 $28,317 $30,708 =================================================================== The allocation of the rate/volume variance has been made on a pro-rata basis assuming absolute values. The above information is shown on a taxable-equivalent basis assuming a 35 percent tax rate.
LOAN MATURITY AND SENSITIVITY -----------------------------
DECEMBER 31, 2000 ------------------------------------------------ DUE IN AFTER ONE, AFTER ONE YEAR BUT WITHIN FIVE OR LESS FIVE YEARS YEARS TOTAL ------------------------------------------------------------------------------------------------ Real estate construction and land loans....... $ 277,472 $ 194,518 $ 71,891 $ 543,881 Other real estate loans....................... 127,890 413,412 445,586 986,888 All other loans............................... 930,711 717,325 256,586 1,904,622 ------------------------------------------------ Total.................................... $1,336,073 $1,325,255 $774,063 $3,435,391 ================================================ Loans with fixed interest rates............... $ 361,732 $ 396,705 $411,038 $1,169,475 Loans with floating interest rates............ 974,341 928,550 363,025 2,265,916 ------------------------------------------------ Total.................................... $1,336,073 $1,325,255 $774,063 $3,435,391 ================================================ Loans secured by 1-4 family housing totaling $661 million and consumer loans totaling $446 million and unearned income of $7 million are not included in the amounts in the table.
68 69 MATURITY DISTRIBUTION AND SECURITIES PORTFOLIO YIELDS -----------------------------------------------------
December 31, 2000 ------------------------------------------------------------- Maturity ------------------------------------------------------------- Within 1 Year 1-5 Years 5-10 Years ------------------- ------------------ ------------------ Weighted Weighted Weighted Average Average Average (in thousands) Amount Yield Amount Yield Amount Yield ------------------------------------------------------------------------------------------------------- Held to maturity: U.S. Government agencies and corporations.......................... $ 8,494 8.44% States and political subdivisions....... $ 920 7.42% 1,678 7.69 Other................................... 125 7.24 ------------------------------------------------------------- Total securities held to maturity... $ 1,045 7.39% $10,172 8.32% ============================================================= Available for sale: U.S. Treasury........................... $107,567 5.70% U.S. Government agencies and corporations.......................... 90,776 6.38 $34,181 6.63 $25,904 5.91% States and political subdivisions....... 7,325 7.95 23,799 8.18 49,545 7.23 Other................................... ------------------------------------------------------------- Total securities available for sale.............................. $205,668 6.08% $57,980 7.27% $75,449 6.78% ============================================================= December 31, 2000 --------------------------------------------- Maturity --------------------------------------------- After 10 Years Total Carrying Amount --------------------- --------------------- Weighted Weighted Average Average (in thousands) Amount Yield Amount Yield ---------------------------------------- --------------------------------------------- Held to maturity: U.S. Government agencies and corporations.......................... $ 59,936 7.59% $ 68,430 7.70% States and political subdivisions....... 2,598 7.59 Other................................... 125 7.24 --------------------------------------------- Total securities held to maturity... $ 59,936 7.59% $ 71,153* 7.69% ============================================= Available for sale: U.S. Treasury........................... $ 107,567 5.70% U.S. Government agencies and corporations.......................... $1,137,056 6.67% 1,287,917 6.63 States and political subdivisions....... 82,408 7.06 163,077 7.32 Other................................... 36,299 6.37 36,299 6.37 --------------------------------------------- Total securities available for sale.............................. $1,255,763 6.69% $1,594,860* 6.63% ============================================= Weighted average yields have been computed on a fully taxable-equivalent basis assuming a tax rate of 35%. * Included in the totals are mortgage-backed securities and collateralized mortgage obligations of $1.2 billion which are included in maturity categories based on their stated maturity date.
QUARTERLY RESULTS OF OPERATIONS ------------------------------- (UNAUDITED)
THREE MONTHS ENDED 2000 ----------------------------------------- (in thousands, except per share amounts) MAR 31 JUNE 30 SEPT 30 DEC 31 ----------------------------------------------------------------------------------- Interest income......................... $118,759 $126,888 $131,492 $135,192 Interest expense........................ 41,207 46,906 49,528 51,927 Net interest income..................... 77,552 79,982 81,964 83,265 Provision for possible loan losses...... 2,682 2,867 3,436 5,118 (Loss) gain on securities transactions.......................... (8) 2 10 Non-interest income*.................... 39,617 42,874 42,407 45,967 Non-interest expense.................... 76,073 77,756 78,473 80,978 Income before income taxes.............. 38,414 42,233 42,462 43,136 Income taxes............................ 13,258 14,603 14,704 14,863 Net income.............................. 25,156 27,630 27,758 28,273 Net income per diluted common share..... .47 .52 .52 .53 Three Months Ended 1999 ----------------------------------------- (in thousands, except per share amounts) Mar 31 June 30 Sept 30 Dec 31 ---------------------------------------- ----------------------------------------- Interest income......................... $109,167 $109,063 $112,466 $116,884 Interest expense........................ 37,727 36,156 37,297 39,422 Net interest income..................... 71,440 72,907 75,169 77,462 Provision for possible loan losses...... 3,000 2,975 2,976 3,476 (Loss) gain on securities transactions.......................... (68) (18) Non-interest income*.................... 37,549 37,099 37,554 39,061 Non-interest expense.................... 69,264 70,384 72,446 75,099 Income before income taxes.............. 36,725 36,647 37,301 37,948 Income taxes............................ 12,430 12,559 12,928 13,062 Net income.............................. 24,295 24,088 24,373 24,886 Net income per diluted common share..... .44 .44 .45 .46 * Includes (loss) gain on securities transactions.
69 70 CULLEN/FROST BANKERS, INC. AND SUBSIDIARIES BANK SUBSIDIARY (in thousands) --------------------------------------------------------------------------------
DECEMBER 31, 2000 ------------------------------------ TOTAL TOTAL TOTAL ASSETS LOANS DEPOSITS ------------------------------------ Frost National Bank......................................... $7,643,122 $4,534,400 $6,495,565 San Antonio, Austin, Boerne, Corpus Christi, Dallas, Fair Oaks, Fort Worth, Galveston, Houston, McAllen, New Braunfels, and San Marcos Main Office: P. O. Box 1600, 100 West Houston Street San Antonio, Texas 78296 (210)220-4011
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING -------------------------------------------------------------------- AND FINANCIAL DISCLOSURE -------------------------- None. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT ------------------------------------------------------------ The information regarding directors and executive officers called for by Item 10 is incorporated herein by reference to Cullen/Frost's Proxy Statement for its Annual Meeting of Shareholders to be held May 30, 2001. The additional information regarding executive officers called for by Item 10 is included in Part I, Item 1 of this document under the heading "Executive Officers of the Registrant". ITEM 11. EXECUTIVE COMPENSATION -------------------------------- The information called for by Item 11 is incorporated herein by reference to Cullen/Frost's Proxy Statement for its Annual Meeting of Shareholders to be held May 30, 2001. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT ------------------------------------------------------------------------ The information called for by Item 12 is incorporated herein by reference to Cullen/Frost's Proxy Statement for its Annual Meeting of Shareholders to be held May 30, 2001. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS -------------------------------------------------------- The information called for by Item 13 is incorporated herein by reference to Cullen/Frost's Proxy Statement for its Annual Meeting of Shareholders to be held May 30, 2001. 70 71 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K -------------------------------------------------------------------------- (a) The following documents are filed as part of this Annual Report on Form 10-K: 1. Financial Statements -- Reference is made to Part II, Item 8, of this Annual Report on Form 10-K. 2. The Financial Statement Schedules are omitted, as the required information is included in the annual report. 3. Exhibits -- The following exhibits are filed as a part of this Annual Report on Form 10-K:
EXHIBIT NUMBER ------- 3.1 -- Restated Articles of Incorporation, of Cullen/Frost Bankers, Inc. 3.2 -- Amended By-Laws of Cullen/Frost Bankers, Inc. (7) 4.1 -- Shareholder Protection Rights Agreement dated as of February 1, 1999 between Cullen/Frost Bankers, Inc. and The Frost National Bank, as Rights Agent (10) 10.1 -- Restoration of Retirement Income Plan for Participants in the Retirement Plan for Employees of Cullen/Frost Bankers, Inc. and its Affiliates (as amended and restated) (9)* 10.2 -- 1983 Non-qualified Stock Option Plan, as amended (1) 10.3 -- 1988 Non-qualified Stock Option Plan (2)* 10.4 -- The 401(k) Stock Purchase Plan for employees of Cullen/Frost Bankers, Inc. and its Affiliates (3)* 10.5 -- 1991 Thrift Incentive Stock Purchase Plan for Employees of Cullen/Frost Bankers, Inc. and its Affiliates (4)* 10.6 -- Cullen/Frost Bankers, Inc. Restricted Stock Plan (5)* 10.7 -- Cullen/Frost Bankers, Inc. Supplemental Executive Retirement Plan (6)* 10.8 -- Cullen/Frost Bankers, Inc. 1997 Directors Stock Plan (8) 10.9 -- Cullen/Frost Bankers, Inc. 1992 Stock Plan, as amended (8) 10.10 -- Change-In-Control Agreements with 3 Executive Officers* 19.1 -- Annual Report on Form 11-K for the Year Ended December 31, 2000, for the 1991 Thrift Incentive Stock Purchase Plan (filed pursuant to Rule 15d-21 of the Securities and Exchange Act of 1934) (11) 19.2 -- Annual Report on Form 11-K for the Year Ended December 31, 2000, for the 401(k) Stock Purchase Plan (filed pursuant to Rule 15d-21 of the Securities and Exchange Act of 1934) (11) 21 -- Subsidiaries of Cullen/Frost Bankers, Inc. 23 -- Consent of Independent Auditors 24 -- Power of Attorney
* Management contract or compensatory plan or arrangement required to be filed as an exhibit pursuant to Item 601 of Regulation S-K. (b) Reports on Form 8-K -- No such reports were filed during the quarter ended December 31, 2000. 71 72 --------------- (1) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Report on Form S-8 filed September 5, 1989 (File No. 33-30776) (2) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Report on Form S-8 filed September 5, 1989 (File No. 33-30777) (3) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Report on Form S-8 filed October 31, 1990 (File No. 33-37500) (4) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Report on Form S-8 filed March 18, 1991 (File No. 33-39478) (5) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Report on Form S-8 filed October 20, 1992 (File No. 33-53492) (6) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Annual Report on Form 10-K for the Year Ended December 31, 1994 (File No. 0-7275) (7) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Annual Report on Form 10-K/A for the Year Ended December 31, 1995 (File No. 0-7275) (8) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Annual Report on Form 10-K for the Year Ended December 31, 1997 (File No. 0-7275) (9) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Annual Report on Form 10-K for the Year Ended December 31, 1998 (File No. 0-7275) (10) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Current Report on Form 8-A12B dated February 1, 1999 (File No. 0-7275) (11) To be filed as an amendment. 72 73 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. Date: March 28, 2001 CULLEN/FROST BANKERS, INC. (Registrant) By: /s/ PHILLIP D. GREEN ---------------------------------- PHILLIP D. GREEN SENIOR EXECUTIVE VICE PRESIDENT AND CHIEF FINANCIAL OFFICER PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS REPORT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF THE REGISTRANT AND IN THE CAPACITIES INDICATED ON MARCH 28, 2001.
SIGNATURES TITLE DATE ---------- ----- ---- T.C. FROST* Senior Chairman of the Board ----------------------------------------------------- and Director T.C. FROST RICHARD W. EVANS, JR.* Chairman of the Board and ----------------------------------------------------- Director (Principal Executive RICHARD W. EVANS, JR. Officer) R. DENNY ALEXANDER* Director ----------------------------------------------------- R. DENNY ALEXANDER ISAAC ARNOLD, JR.* Director ----------------------------------------------------- ISAAC ARNOLD, JR. ROYCE S. CALDWELL* Director ----------------------------------------------------- ROYCE S. CALDWELL RUBEN R. CARDENAS* Director ----------------------------------------------------- RUBEN R. CARDENAS HENRY E. CATTO, JR.* Director ----------------------------------------------------- HENRY E. CATTO, JR. BOB W. COLEMAN* Director ----------------------------------------------------- BOB W. COLEMAN HARRY H. CULLEN* Director ----------------------------------------------------- HARRY H. CULLEN EUGENE H. DAWSON, SR.* Director ----------------------------------------------------- EUGENE H. DAWSON, SR.
73 74 SIGNATURES -- (CONTINUED)
SIGNATURES TITLE DATE ---------- ----- ---- CASS O. EDWARDS* Director ----------------------------------------------------- CASS O. EDWARDS RUBEN M. ESCOBEDO* Director ----------------------------------------------------- RUBEN M. ESCOBEDO PATRICK B. FROST* Director ----------------------------------------------------- PATRICK B. FROST JOE R. FULTON* Director ----------------------------------------------------- JOE R. FULTON JAMES W. GORMAN, JR.* Director ----------------------------------------------------- JAMES W. GORMAN, JR. JAMES L. HAYNE* Director ----------------------------------------------------- JAMES L. HAYNE RICHARD M. KLEBERG, III* Director ----------------------------------------------------- RICHARD M. KLEBERG, III ROBERT S. MCCLANE* Director ----------------------------------------------------- ROBERT S. MCCLANE IDA CLEMENT STEEN* Director ----------------------------------------------------- IDA CLEMENT STEEN HORACE WILKINS, JR.* Director ----------------------------------------------------- HORACE WILKINS, JR. MARY BETH WILLIAMSON* Director ----------------------------------------------------- MARY BETH WILLIAMSON *By: /s/ PHILLIP D. GREEN Senior Executive Vice March 28, 2001 President and Chief Financial ----------------------------------------------------- Officer PHILLIP D. GREEN (AS ATTORNEY-IN-FACT FOR THE PERSONS INDICATED)
74 75 EXHIBIT INDEX
EXHIBIT NUMBER DESCRIPTION ------- ----------- 3.1 -- Restated Articles of Incorporation, of Cullen/Frost Bankers, Inc. 3.2 -- Amended By-Laws of Cullen/Frost Bankers, Inc. (7) 4.1 -- Shareholder Protection Rights Agreement dated as of February 1, 1999 between Cullen/Frost Bankers, Inc. and The Frost National Bank, as Rights Agent (10) 10.1 -- Restoration of Retirement Income Plan for Participants in the Retirement Plan for Employees of Cullen/Frost Bankers, Inc. and its Affiliates (as amended and restated) (9)* 10.2 -- 1983 Non-qualified Stock Option Plan, as amended (1) 10.3 -- 1988 Non-qualified Stock Option Plan (2)* 10.4 -- The 401(k) Stock Purchase Plan for employees of Cullen/Frost Bankers, Inc. and its Affiliates (3)* 10.5 -- 1991 Thrift Incentive Stock Purchase Plan for Employees of Cullen/Frost Bankers, Inc. and its Affiliates (4)* 10.6 -- Cullen/Frost Bankers, Inc. Restricted Stock Plan (5)* 10.7 -- Cullen/Frost Bankers, Inc. Supplemental Executive Retirement Plan (6)* 10.8 -- Cullen/Frost Bankers, Inc. 1997 Directors Stock Plan (8) 10.9 -- Cullen/Frost Bankers, Inc. 1992 Stock Plan, as amended (8) 10.10 -- Change-In-Control Agreements with 3 Executive Officers* 19.1 -- Annual Report on Form 11-K for the Year Ended December 31, 2000, for the 1991 Thrift Incentive Stock Purchase Plan (filed pursuant to Rule 15d-21 of the Securities and Exchange Act of 1934) (11) 19.2 -- Annual Report on Form 11-K for the Year Ended December 31, 2000, for the 401(k) Stock Purchase Plan (filed pursuant to Rule 15d-21 of the Securities and Exchange Act of 1934) (11) 21 -- Subsidiaries of Cullen/Frost Bankers, Inc. 23 -- Consent of Independent Auditors 24 -- Power of Attorney
* Management contract or compensatory plan or arrangement required to be filed as an exhibit pursuant to Item 601 of Regulation S-K. 76 --------------- (1) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Report on Form S-8 filed September 5, 1989 (File No. 33-30776) (2) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Report on Form S-8 filed September 5, 1989 (File No. 33-30777) (3) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Report on Form S-8 filed October 31, 1990 (File No. 33-37500) (4) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Report on Form S-8 filed March 18, 1991 (File No. 33-39478) (5) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Report on Form S-8 filed October 20, 1992 (File No. 33-53492) (6) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Annual Report on Form 10-K for the Year Ended December 31, 1994 (File No. 0-7275) (7) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Annual Report on Form 10-K/A for the Year Ended December 31, 1995 (File No. 0-7275) (8) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Annual Report on Form 10-K for the Year Ended December 31, 1997 (File No. 0-7275) (9) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Annual Report on Form 10-K for the Year Ended December 31, 1998 (File No. 0-7275) (10) Incorporated herein by reference to the designated Exhibits to Cullen/Frost's Current Report on Form 8-A12B dated February 1, 1999 (File No. 0-7275) (11) To be filed as an amendment.