UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
☒
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2018
or
☐
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission File Number 1-9861
M&T BANK CORPORATION
(Exact name of registrant as specified in its charter)
New York
16-0968385
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
One M & T Plaza
Buffalo, New York
14203
(Address of principal executive offices)
(Zip Code)
(716) 635-4000
(Registrant's telephone number, including area code)
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 ☐ No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). ☒ Yes ☐ No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer
Accelerated filer
Non-accelerated filer
(Do not check if a smaller reporting company)
Smaller reporting company
Emerging growth company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ☐ Yes ☒ No
Number of shares of the registrant's Common Stock, $0.50 par value, outstanding as of the close of business on July 27, 2018: 143,790,862 shares.
For the Quarterly Period Ended June 30, 2018
Table of Contents of Information Required in Report
Page
Part I. FINANCIAL INFORMATION
Item 1.
Financial Statements.
CONSOLIDATED BALANCE SHEET - June 30, 2018 and December 31, 2017
3
CONSOLIDATED STATEMENT OF INCOME – Three and six months ended June 30, 2018 and 2017
4
CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME – Three and six months ended June 30, 2018 and 2017
5
CONSOLIDATED STATEMENT OF CASH FLOWS - Six months ended June 30, 2018 and 2017
6
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY – Six months ended June 30, 2018 and 2017
7
NOTES TO FINANCIAL STATEMENTS
8
Item 2.
Management's Discussion and Analysis of Financial Condition and Results of Operations.
49
Item 3.
Quantitative and Qualitative Disclosures About Market Risk.
84
Item 4.
Controls and Procedures.
Part II. OTHER INFORMATION
Legal Proceedings.
Item 1A.
Risk Factors.
86
Unregistered Sales of Equity Securities and Use of Proceeds.
Defaults Upon Senior Securities.
Mine Safety Disclosures.
Item 5.
Other Information.
Item 6.
Exhibits.
87
SIGNATURES
- 2 -
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
M&T BANK CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET (Unaudited)
June 30,
December 31,
Dollars in thousands, except per share
2018
2017
Assets
Cash and due from banks
$
1,367,594
1,420,888
Interest-bearing deposits at banks
6,669,985
5,078,903
Federal funds sold
1,500
—
Trading account
148,303
132,909
Investment securities (includes pledged securities that can be sold or repledged of
$473,505 at June 30, 2018; $487,151 at December 31, 2017)
Available for sale (cost: $9,912,160 at June 30, 2018;
$10,938,796 at December 31, 2017)
9,658,846
10,896,284
Held to maturity (fair value: $3,022,329 at June 30, 2018;
$3,341,762 at December 31, 2017)
3,101,095
3,353,213
Equity and other securities (cost: $507,389 at June 30, 2018;
$415,028 at December 31, 2017)
523,061
415,028
Total investment securities
13,283,002
14,664,525
Loans and leases
88,059,392
88,242,886
Unearned discount
(261,942
)
(253,903
Loans and leases, net of unearned discount
87,797,450
87,988,983
Allowance for credit losses
(1,019,248
(1,017,198
Loans and leases, net
86,778,202
86,971,785
Premises and equipment
637,809
646,451
Goodwill
4,593,112
Core deposit and other intangible assets
58,569
71,589
Accrued interest and other assets
4,887,977
5,013,325
Total assets
118,426,053
118,593,487
Liabilities
Noninterest-bearing deposits
32,086,191
33,975,180
Savings and interest-checking deposits
51,107,290
51,698,008
Time deposits
5,817,680
6,580,962
Deposits at Cayman Islands office
261,427
177,996
Total deposits
89,272,588
92,432,146
Short-term borrowings
3,239,416
175,099
Accrued interest and other liabilities
1,953,848
1,593,993
Long-term borrowings
8,382,316
8,141,430
Total liabilities
102,848,168
102,342,668
Shareholders' equity
Preferred stock, $1.00 par, 1,000,000 shares authorized;
Issued and outstanding: Liquidation preference of $1,000 per
share: 731,500 shares at June 30, 2018 and December 31,
2017; Liquidation preference of $10,000 per share: 50,000
shares at June 30, 2018 and December 31, 2017
1,231,500
Common stock, $.50 par, 250,000,000 shares authorized,
159,767,147 shares issued at June 30, 2018;
159,817,518 shares issued at December 31, 2017
79,884
79,909
Common stock issuable, 24,447 shares at June 30, 2018;
27,138 shares at December 31, 2017
1,691
1,847
Additional paid-in capital
6,579,395
6,590,855
Retained earnings
10,763,638
10,164,804
Accumulated other comprehensive income (loss), net
(517,941
(363,814
Treasury stock — common, at cost — 15,530,445 shares at June 30, 2018;
9,733,115 shares at December 31, 2017
(2,560,282
(1,454,282
Total shareholders’ equity
15,577,885
16,250,819
Total liabilities and shareholders’ equity
- 3 -
CONSOLIDATED STATEMENT OF INCOME (Unaudited)
Three Months Ended June 30
Six Months Ended June 30
In thousands, except per share
Interest income
Loans and leases, including fees
1,024,471
924,640
2,004,440
1,822,678
Investment securities
Fully taxable
82,019
92,996
164,871
188,120
Exempt from federal taxes
172
379
420
809
Deposits at banks
21,869
12,213
40,546
24,375
Other
374
185
778
464
Total interest income
1,128,905
1,030,413
2,211,055
2,036,446
Interest expense
48,738
30,543
89,265
56,177
11,362
16,303
22,298
35,301
542
281
923
546
1,383
378
2,266
594
58,093
44,708
111,999
91,368
Total interest expense
120,118
92,213
226,751
183,986
Net interest income
1,008,787
938,200
1,984,304
1,852,460
Provision for credit losses
35,000
52,000
78,000
107,000
Net interest income after provision for credit losses
973,787
886,200
1,906,304
1,745,460
Other income
Mortgage banking revenues
92,499
86,163
179,805
170,855
Service charges on deposit accounts
106,784
106,057
211,899
210,233
Trust income
137,641
126,797
269,016
246,812
Brokerage services income
12,629
16,617
26,021
34,001
Trading account and foreign exchange gains
5,255
8,084
9,892
17,775
Gain (loss) on bank investment securities
2,326
(17
(7,105
Other revenues from operations
100,280
117,115
226,582
228,002
Total other income
457,414
460,816
916,110
907,661
Other expense
Salaries and employee benefits
418,537
398,054
881,965
847,795
Equipment and net occupancy
73,031
73,797
147,828
148,163
Outside data processing and software
49,712
44,575
98,141
88,876
FDIC assessments
19,560
25,353
39,840
54,180
Advertising and marketing
21,768
16,324
38,016
32,434
Printing, postage and supplies
8,719
8,957
18,038
18,665
Amortization of core deposit and other intangible assets
6,388
8,113
13,020
16,533
Other costs of operations
178,862
175,462
473,073
331,841
Total other expense
776,577
750,635
1,709,921
1,538,487
Income before taxes
654,624
596,381
1,112,493
1,114,634
Income taxes
161,464
215,328
266,723
384,654
Net income
493,160
381,053
845,770
729,980
Net income available to common shareholders
Basic
472,598
360,658
805,338
689,208
Diluted
472,600
360,662
805,342
689,217
Net income per common share
3.26
2.36
5.49
4.49
2.35
5.48
4.47
Cash dividends per common share
.80
.75
1.55
1.50
Average common shares outstanding
144,825
152,857
146,746
153,638
144,998
153,276
146,941
154,108
- 4 -
CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME (Unaudited)
In thousands
Other comprehensive income, net of tax and reclassification adjustments:
Net unrealized gains (losses) on investment securities
(36,733
16,932
(137,417
15,576
Cash flow hedges adjustments
(2,569
(955
(13,011
(978
Foreign currency translation adjustment
(2,434
1,150
(1,144
1,626
Defined benefit plans liability adjustments
7,038
4,359
14,298
8,331
Total other comprehensive income (loss)
(34,698
21,486
(137,274
24,555
Total comprehensive income
458,462
402,539
708,496
754,535
- 5 -
CONSOLIDATED STATEMENT OF CASH FLOWS (Unaudited)
Cash flows from operating
activities
Adjustments to reconcile net income to net cash provided by operating activities
Depreciation and amortization of premises and equipment
54,092
54,901
Amortization of capitalized servicing rights
24,207
27,984
Provision for deferred income taxes
(123,980
17,136
Asset write-downs
5,237
8,797
Net gain on sales of assets
(8,738
(21,272
Net change in accrued interest receivable, payable
5,759
(6,350
Net change in other accrued income and expense
255,124
50,660
Net change in loans originated for sale
(756,003
545,864
Net change in trading account assets and liabilities
128,754
92,054
Net cash provided by operating activities
521,242
1,623,287
Cash flows from investing
Proceeds from sales of investment securities
Available for sale
418
512,129
Equity and other securities
505,841
31,016
Proceeds from maturities of investment securities
950,071
1,151,982
Held to maturity
247,385
245,105
Purchases of investment securities
(5,799
(244,449
(1,175,608
(520,040
(68,825
Net decrease in loans and leases
859,071
1,134,470
Net increase in interest-bearing deposits at banks
(1,591,082
(23,191
Capital expenditures, net
(37,116
(49,862
Net decrease in loan servicing advances
262,947
104,289
Other, net
(8,708
47,742
Net cash provided by investing activities
662,988
1,664,798
Cash flows from financing
Net decrease in deposits
(3,157,898
(1,949,877
Net increase in short-term borrowings
3,064,317
1,532,011
Proceeds from long-term borrowings
999,594
898,200
Payments on long-term borrowings
(706,370
(2,728,059
Purchases of treasury stock
(1,196,062
(756,967
Dividends paid — common
(227,565
(230,652
Dividends paid — preferred
(36,260
(36,474
24,220
8,662
Net cash used by financing activities
(1,236,024
(3,263,156
Net increase (decrease) in cash, cash equivalents and restricted cash
(51,794
24,929
Cash, cash equivalents and restricted cash at beginning of period
1,320,549
Cash, cash equivalents and restricted cash at end of period
1,369,094
1,345,478
Supplemental disclosure of cash
flow information
Interest received during the period
2,210,063
2,038,009
Interest paid during the period
218,731
199,621
Income taxes paid during the period
175,619
321,106
Supplemental schedule of
noncash investing and financing
Real estate acquired in settlement of loans
36,418
57,202
Securitization of residential mortgage loans allocated to
Available-for-sale investment securities
10,303
10,025
Capitalized servicing rights
150
106
- 6 -
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited)
Accumulated
Common
Additional
Comprehensive
Preferred
Stock
Paid-in
Retained
Income
Treasury
Issuable
Capital
Earnings
(Loss), Net
Total
Balance — January 1, 2017
79,973
2,145
6,676,948
9,222,488
(294,636
(431,796
16,486,622
Preferred stock cash dividends
Exercise of 146,157 Series A stock
warrants into 79,470 shares of
common stock
(10,443
10,443
Stock-based compensation plans:
Compensation expense, net
(62
(58,749
56,290
(2,521
Exercises of stock options, net
(5,354
62,428
57,074
Stock purchase plan
2,563
8,268
10,831
Directors’ stock plan
173
792
965
Deferred compensation plans, net,
including dividend equivalents
(205
(208
(43
401
(55
Common stock cash dividends —
$1.50 per share
(230,473
Balance — June 30, 2017
79,911
1,940
6,604,930
9,685,478
(270,081
(1,050,141
16,283,537
Balance — January 1, 2018
Cumulative effect of change in
accounting principle — equity
securities
16,853
(16,853
Exercise of 54,226 Series A stock
warrants into 32,668 shares of
(5,123
5,123
(25
(6,194
21,665
15,446
(2,402
53,073
50,671
2,358
8,766
11,124
149
1,043
1,192
(156
(248
(37
392
(49
$1.55 per share
(227,492
Balance — June 30, 2018
- 7 -
1. Significant accounting policies
The consolidated financial statements of M&T Bank Corporation (“M&T”) and subsidiaries (“the Company”) were compiled in accordance with generally accepted accounting principles (“GAAP”) using the accounting policies set forth in note 1 of Notes to Financial Statements included in Form 10-K for the year ended December 31, 2017 (“2017 Annual Report”), except that effective January 1, 2018 the Company adopted amended accounting guidance that is discussed in notes 2, 15 and 16 herein. In the opinion of management, all adjustments necessary for a fair presentation have been made and were all of a normal recurring nature.
2. Investment securities
On January 1, 2018, the Company adopted amended guidance requiring equity investments with readily determinable fair values to be measured at fair value with changes in fair value recognized in the consolidated statement of income. This amended guidance excludes equity method investments, investments in consolidated subsidiaries, exchange membership ownership interests, and Federal Home Loan Bank of New York and Federal Reserve Bank of New York capital stock. Upon adoption the Company reclassified $17 million, after-tax effect, from accumulated other comprehensive income to retained earnings, representing the difference between fair value and the cost basis of equity investments with readily determinable fair values at January 1, 2018. Net unrealized gains recorded as gain (loss) on bank investment securities in the consolidated statement of income during the three months ended June 30, 2018 were $2 million and net unrealized losses during the six months ended June 30, 2018 were $7 million. The amortized cost and estimated fair value of investment securities were as follows:
Amortized
Cost
Gross
Unrealized
Gains
Losses
Estimated
Fair Value
(In thousands)
June 30, 2018
Investment securities available for sale:
U.S. Treasury and federal agencies
1,726,242
18,425
1,707,821
Obligations of states and political subdivisions
1,914
12
1
1,925
Mortgage-backed securities:
Government issued or guaranteed
8,046,603
15,521
244,825
7,817,299
Privately issued
26
2
24
Other debt securities
137,375
2,225
7,823
131,777
9,912,160
17,762
271,076
Investment securities held to maturity:
13,547
57
20
13,584
2,960,045
4,539
71,183
2,893,401
122,906
11,451
23,610
110,747
4,597
16,047
94,813
3,022,329
Total debt securities
13,013,255
33,809
365,889
12,681,175
Equity and other securities:
Readily marketable equity — at fair value
70,810
16,527
855
86,482
Other — at cost
436,579
Total equity and other securities
507,389
- 8 -
NOTES TO FINANCIAL STATEMENTS, CONTINUED
2. Investment securities, continued
December 31, 2017
1,965,665
18,178
1,947,487
2,555
36
2,589
8,755,482
59,497
98,587
8,716,392
28
136,905
2,402
10,475
128,832
Equity securities
78,161
23,219
424
100,956
10,938,796
85,154
127,666
24,562
109
24,622
3,187,953
27,236
13,746
3,201,443
135,688
2,574
27,575
110,687
5,010
29,919
41,370
3,341,762
Other securities — at cost
14,707,037
115,073
169,036
14,653,074
There were no significant gross realized gains or losses from sales of investment securities for the three-month and six-month periods ended June 30, 2018 and 2017, respectively.
At June 30, 2018, the amortized cost and estimated fair value of debt securities by contractual maturity were as follows:
Debt securities available for sale:
Due in one year or less
1,297,040
1,286,504
Due after one year through five years
436,548
428,617
Due after five years through ten years
96,521
95,992
Due after ten years
35,422
30,410
1,865,531
1,841,523
Mortgage-backed securities available for sale
8,046,629
7,817,323
Debt securities held to maturity:
7,630
7,633
5,917
5,951
18,144
18,181
Mortgage-backed securities held to maturity
3,082,951
3,004,148
- 9 -
A summary of investment securities that as of June 30, 2018 and December 31, 2017 had been in a continuous unrealized loss position for less than twelve months and those that had been in a continuous unrealized loss position for twelve months or longer follows:
Less Than 12 Months
12 Months or More
Fair
Value
164,931
(1,622
1,539,796
(16,803
375
(1
3,872,321
(91,083
2,907,972
(153,742
(2
4,323
(94
63,902
(7,729
4,041,583
(92,801
4,512,045
(178,275
4,218
(20
2,252,672
(58,405
250,341
(12,778
53,579
(23,610
308,138
(36,408
6,294,255
(151,206
4,820,183
(214,683
278,132
(1,761
1,669,355
(16,417
474
2,106,142
(13,695
3,138,841
(84,892
3,067
(26
61,159
(10,449
Equity securities (a)
18,162
(424
2,387,341
(15,482
4,887,991
(112,184
2,954
(4
6,110
(45
1,331,759
(7,036
265,695
(6,710
5,061
(1,216
55,255
(26,359
1,339,774
(8,256
327,060
(33,114
3,727,115
(23,738
5,215,051
(145,298
(a)
Beginning January 1, 2018, equity securities with readily determinable fair values are required to be measured at fair value with changes in fair value recognized in the consolidated statement of income. As a result, subsequent to December 31, 2017 disclosing the time period for which these equity securities had been in a continuous unrealized loss position is no longer relevant.
- 10 -
The Company owned 1,487 individual debt securities with aggregate gross unrealized losses of $366 million at June 30, 2018. Based on a review of each of the securities in the investment securities portfolio at June 30, 2018, the Company concluded that it expected to recover the amortized cost basis of its investment. As of June 30, 2018, the Company does not intend to sell nor is it anticipated that it would be required to sell any of its impaired investment securities at a loss. At June 30, 2018, the Company has not identified events or changes in circumstances which may have a significant adverse effect on the fair value of the $437 million of cost method equity securities.
3. Loans and leases and the allowance for credit losses
A summary of current, past due and nonaccrual loans as of June 30, 2018 and December 31, 2017 follows:
Current
30-89 Days
Past Due
Accruing
Loans Past
Due 90
Days or
More (a)
Loans
Acquired at
a Discount
90 days
or More (b)
Purchased
Impaired (c)
Nonaccrual
Commercial, financial, leasing, etc.
21,615,676
29,906
4,210
31
245,031
21,894,857
Real estate:
Commercial
25,352,075
212,480
10,621
4,330
10,579
153,552
25,743,637
Residential builder and developer
1,628,793
8,668
547
5,212
1,643,220
Other commercial construction
6,597,814
140,490
4,000
1,053
7,723
6,751,080
Residential
14,456,180
425,894
200,159
8,019
244,865
215,850
15,550,967
Residential — limited documentation
2,488,340
79,179
95,418
96,808
2,759,745
Consumer:
Home equity lines and loans
4,931,331
29,589
6,856
66,690
5,034,515
Automobile
3,450,113
69,398
19,564
3,539,075
4,807,912
30,732
3,987
28,169
9,554
4,880,354
85,328,234
1,026,336
223,026
47,405
352,465
819,984
21,332,234
167,756
1,322
327
21
240,991
21,742,651
24,910,381
166,305
4,444
6,016
16,815
184,982
25,288,943
1,618,973
5,159
1,135
6,451
1,631,718
6,407,451
23,467
4,706
10,088
6,445,712
15,376,759
474,372
233,437
7,582
282,102
235,834
16,610,086
2,718,019
83,898
105,236
96,105
3,003,258
5,171,345
38,546
9,391
74,500
5,293,782
3,441,371
78,511
23,781
3,543,663
4,349,071
40,929
5,202
24,102
9,866
4,429,170
85,325,604
1,078,943
244,405
47,418
410,015
882,598
Excludes loans acquired at a discount.
(b)
Loans acquired at a discount that were recorded at fair value at acquisition date. This category does not include purchased impaired loans that are presented separately.
(c)
Accruing loans acquired at a discount that were impaired at acquisition date and recorded at fair value.
- 11 -
3. Loans and leases and the allowance for credit losses, continued
One-to-four family residential mortgage loans held for sale were $283 million and $356 million at June 30, 2018 and December 31, 2017, respectively. Commercial real estate loans held for sale were $868 million at June 30, 2018 and $22 million at December 31, 2017.
The outstanding principal balance and the carrying amount of loans acquired at a discount that were recorded at fair value at the acquisition date and included in the consolidated balance sheet were as follows:
Outstanding principal balance
1,213,758
1,394,188
Carrying amount:
27,726
31,105
Commercial real estate
183,126
228,054
Residential real estate
545,438
620,827
Consumer
107,492
123,413
863,782
1,003,399
Purchased impaired loans included in the table above totaled $352 million at June 30, 2018 and $410 million at December 31, 2017, representing less than 1% of the Company’s assets as of each date. A summary of changes in the accretable yield for loans acquired at a discount for the three months and six months ended June 30, 2018 and 2017 follows:
Three Months Ended June 30,
Impaired
Acquired
Balance at beginning of period
149,007
118,184
143,454
181,310
(7,969
(15,394
(10,806
(20,923
Reclassifications from nonaccretable balance
8,350
10,998
884
1,852
Other (a)
3,927
860
Balance at end of period
149,388
117,715
133,532
163,099
Six Months Ended June 30,
157,918
133,162
154,233
201,153
(17,788
(30,506
(21,731
(46,441
9,258
11,205
1,030
5,035
3,854
3,352
Other changes in expected cash flows including changes in interest rates and prepayment assumptions.
- 12 -
Changes in the allowance for credit losses for the three months ended June 30, 2018 were as follows:
Commercial,
Financial,
Real Estate
Leasing, etc.
Unallocated
Beginning balance
326,071
367,717
73,047
173,841
78,995
1,019,671
11,250
(10,845
5,242
30,801
(1,448
Net charge-offs
Charge-offs
(14,900
(4,548
(3,966
(34,033
(57,447
Recoveries
6,409
1,437
1,800
12,378
22,024
(8,491
(3,111
(2,166
(21,655
(35,423
Ending balance
328,830
353,761
76,123
182,987
77,547
1,019,248
Changes in the allowance for credit losses for the three months ended June 30, 2017 were as follows:
347,760
360,010
62,012
153,172
78,476
1,001,430
13,368
7,638
7,163
24,190
(359
(25,247
(1,853
(5,899
(28,683
(61,682
3,433
434
2,730
9,880
16,477
(21,814
(1,419
(3,169
(18,803
(45,205
339,314
366,229
66,006
158,559
78,117
1,008,225
Changes in the allowance for credit losses for the six months ended June 30, 2018 were as follows:
Commercial, Financial,
328,599
374,085
65,405
170,809
78,300
1,017,198
18,480
(16,070
15,728
60,615
(753
(29,481
(5,914
(8,320
(70,484
(114,199
11,232
1,660
3,310
22,047
38,249
(18,249
(4,254
(5,010
(48,437
(75,950
- 13 -
Changes in the allowance for credit losses for the six months ended June 30, 2017 were as follows:
330,833
362,719
61,127
156,288
78,030
988,997
42,191
8,900
12,800
43,022
(41,604
(7,298
(12,158
(63,186
(124,246
7,894
1,908
4,237
22,435
36,474
(33,710
(5,390
(7,921
(40,751
(87,772
Despite the allocation in the preceding tables, the allowance for credit losses is general in nature and is available to absorb losses from any loan or lease type.
In establishing the allowance for credit losses, the Company estimates losses attributable to specific troubled credits identified through both normal and targeted credit review processes and also estimates losses inherent in other loans and leases on a collective basis. For purposes of determining the level of the allowance for credit losses, the Company evaluates its loan and lease portfolio by loan type. The amounts of loss components in the Company’s loan and lease portfolios are determined through a loan-by-loan analysis of larger balance commercial loans and commercial real estate loans that are in nonaccrual status and by applying loss factors to groups of loan balances based on loan type and management’s classification of such loans under the Company’s loan grading system. Measurement of the specific loss components is typically based on expected future cash flows, collateral values and other factors that may impact the borrower’s ability to pay. In determining the allowance for credit losses, the Company utilizes a loan grading system which is applied to commercial and commercial real estate credits on an individual loan basis. Loan grades are assigned loss component factors that reflect the Company’s loss estimate for each group of loans and leases. Factors considered in assigning loan grades and loss component factors include borrower-specific information related to expected future cash flows and operating results, collateral values, geographic location, financial condition and performance, payment status, and other information; levels of and trends in portfolio charge-offs and recoveries; levels of and trends in portfolio delinquencies and impaired loans; changes in the risk profile of specific portfolios; trends in volume and terms of loans; effects of changes in credit concentrations; and observed trends and practices in the banking industry.
- 14 -
Information with respect to loans and leases that were considered impaired as of June 30, 2018 and December 31, 2017 and for the three-month and six-month periods ended June 30, 2018 and 2017 follows.
Recorded
Investment
Unpaid
Principal
Balance
Related
Allowance
With an allowance recorded:
157,228
180,016
37,589
177,250
194,257
45,488
85,588
96,221
9,316
67,199
75,084
9,140
6,085
6,465
211
5,320
5,641
308
1,829
17,670
345
4,817
20,357
647
117,111
139,966
4,068
101,724
122,602
76,040
91,851
77,277
92,439
3,900
48,436
53,538
8,757
48,847
53,914
8,812
12,467
15,396
2,595
13,498
15,737
2,811
3,011
6,036
614
3,220
5,872
656
507,795
607,159
67,495
499,152
585,903
75,762
With no related allowance recorded:
112,604
139,843
89,126
115,327
89,024
99,658
138,356
149,716
4,353
4,471
5,057
5,296
6,021
9,726
5,456
9,130
12,665
17,161
13,574
18,980
6,831
11,853
9,588
16,138
231,498
282,712
261,157
314,587
Total:
269,832
319,859
266,376
309,584
174,612
195,879
205,555
224,800
10,438
10,936
10,377
10,937
7,850
27,396
10,273
29,487
129,776
157,127
115,298
141,582
82,871
103,704
86,865
108,577
739,293
889,871
760,309
900,490
- 15 -
Three Months Ended June 30, 2018
Three Months Ended June 30, 2017
Interest Income
Recognized
Average
Cash
Basis
271,413
1,333
230,767
805
168,224
3,811
200,005
813
8,494
15,577
467
7,443
53
14,213
126,185
2,329
937
108,036
1,465
606
83,776
1,428
317
95,208
1,449
339
48,644
433
72
46,872
422
91
12,636
225
14
15,506
262
3,066
88
3,468
75
729,881
9,700
6,540
729,652
5,844
3,231
Six Months Ended June 30, 2018
Six Months Ended June 30, 2017
271,793
2,116
251,352
1,283
175,035
6,958
191,935
1,788
9,167
1,682
17,552
896
8,773
59
14,922
933
123,697
4,231
1,839
106,166
3,101
1,380
84,686
3,156
1,013
96,033
2,949
723
48,721
847
158
46,327
821
191
12,881
449
29
15,931
537
40
3,092
3,510
147
737,845
19,671
13,860
743,728
12,455
7,240
Commercial loans and commercial real estate loans with a lower expectation of default are assigned one of ten possible “pass” loan grades and are generally ascribed lower loss factors when determining the allowance for credit losses. Loans with an elevated level of credit risk are classified as “criticized” and are ascribed a higher loss factor when determining the allowance for credit losses. Criticized loans may be classified as “nonaccrual” if the Company no longer expects to collect all amounts according to the contractual terms of the loan agreement or the loan is delinquent 90 days or more. Furthermore, criticized nonaccrual commercial loans and commercial real estate loans are considered impaired and, as a result, specific loss allowances on such loans are established within the allowance for credit losses to the extent appropriate in each individual instance.
- 16 -
The following table summarizes the loan grades applied to the various classes of the Company’s commercial loans and commercial real estate loans.
Builder and
Developer
Construction
Pass
20,769,679
24,954,015
1,503,766
6,594,613
Criticized accrual
880,147
636,070
134,242
148,744
Criticized nonaccrual
20,490,486
24,380,184
1,485,148
6,270,812
1,011,174
723,777
140,119
164,812
In determining the allowance for credit losses, residential real estate loans and consumer loans are generally evaluated collectively after considering such factors as payment performance and recent loss experience and trends, which are mainly driven by current collateral values in the market place as well as the amount of loan defaults. Loss rates on such loans are determined by reference to recent charge-off history and are evaluated (and adjusted if deemed appropriate) through consideration of other factors including near-term forecasted loss estimates developed by the Company’s credit department. In arriving at such forecasts, the Company considers the current estimated fair value of its collateral based on geographical adjustments for home price depreciation/appreciation and overall borrower repayment performance. With regard to collateral values, the realizability of such values by the Company contemplates repayment of any first lien position prior to recovering amounts on a second lien position. However, residential real estate loans and outstanding balances of home equity loans and lines of credit that are more than 150 days past due are generally evaluated for collectibility on a loan-by-loan basis giving consideration to estimated collateral values. The carrying value of residential real estate loans and home equity loans and lines of credit for which a partial charge-off has been recognized totaled $32 million and $25 million, respectively, at June 30, 2018 and $34 million and $25 million, respectively, at December 31, 2017. Residential real estate loans and home equity loans and lines of credit that were more than 150 days past due but did not require a partial charge-off because the net realizable value of the collateral exceeded the outstanding customer balance were $15 million and $30 million, respectively, at June 30, 2018 and $20 million and $32 million, respectively, at December 31, 2017.
The Company also measures additional losses for purchased impaired loans when it is probable that the Company will be unable to collect all cash flows expected at acquisition plus additional cash flows expected to be collected arising from changes in estimates after acquisition. The determination of the allocated portion of the allowance for credit losses is very subjective. Given that inherent subjectivity and potential imprecision involved in determining the allocated portion of the allowance for credit losses, the Company also provides an inherent unallocated portion of the allowance. The unallocated portion of the allowance is intended to recognize probable losses that are not otherwise identifiable and includes management’s subjective determination of amounts necessary to provide for the possible use of imprecise estimates in determining the allocated portion of the allowance. Therefore, the level of the unallocated portion of the allowance is primarily reflective of the inherent imprecision in the various calculations used in determining the allocated portion of the allowance for credit losses. Other factors that could also lead to changes in the unallocated portion include the effects of expansion into new markets for which the Company does not have the same degree of familiarity and experience regarding portfolio performance in
- 17 -
changing market conditions, the introduction of new loan and lease product types, and other risks associated with the Company’s loan portfolio that may not be specifically identifiable.
The allocation of the allowance for credit losses summarized on the basis of the Company’s impairment methodology was as follows:
Individually evaluated for impairment
9,872
8,068
11,966
Collectively evaluated for impairment
291,241
343,889
54,999
171,021
861,150
Purchased impaired
13,056
Allocated
941,701
10,095
7,900
12,279
283,111
363,990
47,645
158,530
853,276
9,860
938,898
The recorded investment in loans and leases summarized on the basis of the Company’s impairment methodology was as follows:
192,900
212,647
63,914
21,625,022
33,932,858
17,757,782
13,390,030
86,705,692
12,179
340,283
34,137,937
18,310,712
13,453,944
226,205
202,163
65,565
21,476,254
33,117,512
19,023,843
13,201,050
86,818,659
22,656
387,338
33,366,373
19,613,344
13,266,615
During the normal course of business, the Company modifies loans to maximize recovery efforts. If the borrower is experiencing financial difficulty and a concession is granted, the Company considers such modifications as troubled debt restructurings and classifies those loans as either nonaccrual loans or renegotiated loans. The types of concessions that the Company grants typically include principal deferrals and interest rate concessions, but may also include other types of concessions.
- 18 -
The table that follows summarizes the Company’s loan modification activities that were considered troubled debt restructurings for the three-month and six-month periods ended June 30, 2018 and 2017:
Post-modification (a)
Number
Pre-
modification Recorded Investment
Principal Deferral
Interest Rate Reduction
Combination of Concession Types
(Dollars in thousands)
47
41,390
9,673
6,111
25,021
40,834
7,200
7,376
175
394
7,945
30
7,951
2,814
5,766
8,580
584
200
458
658
10
555
559
19
333
321
137
58,013
20,384
204
6,505
31,816
58,909
63
65,613
8,172
5,556
35,232
48,960
26,045
11,782
14,276
26,058
66
7,956
2,982
5,486
8,468
1,831
235
1,895
35
3,229
416
2,818
3,234
22
428
380
48
54
105,222
24,087
59,520
89,163
- 19 -
103
89,384
45,346
653
38,068
90,178
13,980
13,200
927
14,696
752
746
77
20,587
9,759
12,668
22,427
879
576
1,903
1,907
1,911
27
481
469
287
128,015
70,040
828
54,158
131,531
113
77,534
12,561
6,362
37,960
56,883
50
32,747
14,773
17,882
32,655
12,291
10,879
168
71
17,336
8,575
9,841
18,416
13
3,209
3,185
3,420
60
5,731
579
491
4,666
5,736
42
818
763
55
80
359
149,914
37,734
6,853
84,468
129,055
Financial effects impacting the recorded investment included principal payments or advances, charge-offs and capitalized escrow arrearages. The present value of interest rate concessions, discounted at the effective rate of the original loan, was not material.
Troubled debt restructurings are considered to be impaired loans and for purposes of establishing the allowance for credit losses are evaluated for impairment giving consideration to the impact of the modified loan terms on the present value of the loan’s expected cash flows. Impairment of troubled debt restructurings that have subsequently defaulted may also be measured based on the loan’s observable market price or the fair value of collateral if the loan is collateral-dependent. Charge-offs may also be recognized on troubled debt restructurings that have subsequently defaulted. Loans that were modified as troubled debt restructurings during the twelve months ended June 30, 2018 and 2017 and for which there was a subsequent payment default during the six-month periods ended June 30, 2018 and 2017, respectively, were not material.
The amount of foreclosed residential real estate property held by the Company was $97 million and $108 million at June 30, 2018 and December 31, 2017, respectively. There were $433 million and $497 million at June 30, 2018 and December 31, 2017, respectively, in loans secured by residential real estate that were in the process of foreclosure. Of all loans in the process of foreclosure at June 30, 2018, approximately 41% were classified as purchased impaired and 21% were government guaranteed.
- 20 -
4. Borrowings
During January 2018, M&T Bank, the principal subsidiary of M&T, issued $1.0 billion of senior notes that mature in January 2021 pursuant to a Bank Note Program, of which $650 million have a 2.625% fixed interest rate and $350 million have a variable rate paid quarterly at rates that are indexed to the three-month London Interbank Offered Rate (“LIBOR”). In July 2018, M&T issued $750 million of senior notes that mature in July 2023, of which $500 million have a 3.55% fixed interest rate and $250 million have a variable rate paid quarterly at rates that are indexed to the three-month LIBOR.
M&T had $521 million of fixed and variable rate junior subordinated deferrable interest debentures ("Junior Subordinated Debentures") outstanding at June 30, 2018 that are held by various trusts that were issued in connection with the issuance by those trusts of preferred capital securities ("Capital Securities") and common securities ("Common Securities"). The proceeds from the issuances of the Capital Securities and the Common Securities were used by the trusts to purchase the Junior Subordinated Debentures. The Common Securities of each of those trusts are wholly owned by M&T and are the only class of each trust's securities possessing general voting powers. The Capital Securities represent preferred undivided interests in the assets of the corresponding trust. Under the Federal Reserve Board’s risk-based capital guidelines, the securities are includable in M&T’s Tier 2 regulatory capital.
Holders of the Capital Securities receive preferential cumulative cash distributions unless M&T exercises its right to extend the payment of interest on the Junior Subordinated Debentures as allowed by the terms of each such debenture, in which case payment of distributions on the respective Capital Securities will be deferred for comparable periods. During an extended interest period, M&T may not pay dividends or distributions on, or repurchase, redeem or acquire any shares of its capital stock. In general, the agreements governing the Capital Securities, in the aggregate, provide a full, irrevocable and unconditional guarantee by M&T of the payment of distributions on, the redemption of, and any liquidation distribution with respect to the Capital Securities. The obligations under such guarantee and the Capital Securities are subordinate and junior in right of payment to all senior indebtedness of M&T.
The Capital Securities will remain outstanding until the Junior Subordinated Debentures are repaid at maturity, are redeemed prior to maturity or are distributed in liquidation to the trusts. The Capital Securities are mandatorily redeemable in whole, but not in part, upon repayment at the stated maturity dates (ranging from 2027 to 2033) of the Junior Subordinated Debentures or the earlier redemption of the Junior Subordinated Debentures in whole upon the occurrence of one or more events set forth in the indentures relating to the Capital Securities, and in whole or in part at any time after an optional redemption prior to contractual maturity contemporaneously with the optional redemption of the related Junior Subordinated Debentures in whole or in part, subject to possible regulatory approval.
Also included in long-term borrowings are agreements to repurchase securities of $416 million and $422 million at June 30, 2018 and December 31, 2017, respectively. The agreements reflect various repurchase dates through 2020, however, the contractual maturities of the underlying investment securities extend beyond such repurchase dates. The agreements are subject to legally enforceable master netting arrangements, however, the Company has not offset any amounts related to these agreements in its consolidated financial statements. The Company posted collateral consisting primarily of government guaranteed mortgage-backed securities of $433 million and $442 million at June 30, 2018 and December 31, 2017, respectively.
- 21 -
5. Shareholders' equity
M&T is authorized to issue 1,000,000 shares of preferred stock with a $1.00 par value per share. Preferred shares outstanding rank senior to common shares both as to dividends and liquidation preference, but have no general voting rights.
Issued and outstanding preferred stock of M&T as of June 30, 2018 and December 31, 2017 is presented below:
Shares
Issued and
Outstanding
Carrying Value
Series A (a)
Fixed Rate Cumulative Perpetual Preferred Stock,
$1,000 liquidation preference per share
230,000
Series C (a)
151,500
Series E (b)
Fixed-to-Floating Rate Non-cumulative Perpetual Preferred Stock,
350,000
Series F (c)
$10,000 liquidation preference per share
50,000
500,000
Dividends, if declared, are paid at 6.375%. Warrants to purchase M&T common stock at $73.71 per share issued in connection with the Series A preferred stock expire on December 23, 2018 and totaled 202,782 at June 30, 2018.
Dividends, if declared, are paid semi-annually at a rate of 6.45% through February 14, 2024 and thereafter will be paid quarterly at a rate of the three-month LIBOR plus 361 basis points. The shares are redeemable in whole or in part on or after February 15, 2024. Notwithstanding M&T’s option to redeem the shares, if an event occurs such that the shares no longer qualify as Tier 1 capital, M&T may redeem all of the shares within 90 days following that occurrence.
Dividends, if declared, are paid semi-annually at a rate of 5.125% through October 31, 2026 and thereafter will be paid quarterly at a rate of the three-month LIBOR plus 352 basis points. The shares are redeemable in whole or in part on or after November 1, 2026. Notwithstanding M&T’s option to redeem the shares, if an event occurs such that the shares no longer qualify as Tier 1 capital, M&T may redeem all of the shares within 90 days following that occurrence.
In addition to the Series A warrants mentioned in (a) above, a warrant to purchase 95,580 shares of M&T common stock at $517.89 per share was outstanding at June 30, 2018. The obligation under that warrant was assumed by M&T in an acquisition and expires on December 12, 2018.
- 22 -
6. Pension plans and other postretirement benefits
The Company provides defined benefit pension and other postretirement benefits (including health care and life insurance benefits) to qualified retired employees. Net periodic defined benefit cost for defined benefit plans consisted of the following:
Pension
Benefits
Postretirement
Service cost
5,069
5,189
243
202
Interest cost on projected benefit obligation
18,548
19,943
589
Expected return on plan assets
(30,688
(27,062
Amortization of prior service cost (credit)
153
154
(1,189
(329
Amortization of net actuarial loss (gain)
10,796
7,831
(213
(469
Net periodic benefit cost
3,878
6,055
(570
182
10,172
10,097
585
37,353
39,634
1,146
1,858
(61,563
(54,262
278
279
(2,364
(679
21,896
14,631
(413
(494
8,136
10,379
(1,162
1,270
Service cost is reflected in salaries and employee benefits expense. The other components of net periodic benefit cost are reflected in other costs of operations. Expenses incurred in connection with the Company's defined contribution pension and retirement savings plans totaled $17,194,000 and $17,623,000 for the three months ended June 30, 2018 and 2017, respectively, and $38,468,000 and $37,042,000 for the six months ended June 30, 2018 and 2017, respectively, and are included in salaries and employee benefits expense.
- 23 -
7. Earnings per common share
The computations of basic earnings per common share follow:
(In thousands, except per share)
Income available to common shareholders:
Less: Preferred stock dividends (a)
(18,130
(18,237
Net income available to common equity
475,030
362,816
809,510
693,506
Less: Income attributable to unvested stock-based
compensation awards
(2,432
(2,158
(4,172
(4,298
Weighted-average shares outstanding:
Common shares outstanding (including common stock
issuable) and unvested stock-based compensation awards
145,571
153,770
147,510
154,612
Less: Unvested stock-based compensation awards
(746
(913
(764
(974
Weighted-average shares outstanding
Basic earnings per common share
(a)Including impact of not as yet declared cumulative dividends.
The computations of diluted earnings per common share follow:
(2,430
(2,154
(4,168
(4,289
Adjusted weighted-average shares outstanding:
Common and unvested stock-based compensation awards
Plus: Incremental shares from assumed conversion of
stock-based compensation awards and warrants to
purchase common stock
419
195
470
Adjusted weighted-average shares outstanding
Diluted earnings per common share
GAAP defines unvested share-based awards that contain nonforfeitable rights to dividends or dividend equivalents (whether paid or unpaid) as participating securities that shall be included in the computation of earnings per common share pursuant to the two-class method. The Company has issued stock-based compensation awards in the form of restricted stock and restricted stock units which, in accordance with GAAP, are considered participating securities.
Stock-based compensation awards and warrants to purchase common stock of M&T representing 212,244 and 412,826 common shares during the three-month periods ended June 30, 2018 and 2017, respectively, and 224,844 and 402,367 common shares during the six-month periods ended June 30, 2018 and 2017, respectively, were not included in the computations of diluted earnings per common share because the effect on those periods would have been antidilutive.
- 24 -
8. Comprehensive income
The following tables display the components of other comprehensive income (loss) and amounts reclassified from accumulated other comprehensive income (loss) to net income:
Defined Benefit
Amount
Securities (a)
Plans
Before Tax
Tax
Net
(59,957
(413,168
(20,165
(493,290
129,476
Cumulative effect of change in accounting principle — equity
(22,795
5,942
Other comprehensive income before reclassifications:
Unrealized holding gains (losses), net
(187,989
49,414
(138,575
304
Unrealized losses on cash flow hedges
(21,065
5,538
(15,527
Total other comprehensive income (loss) before
reclassifications
(22,513
(210,502
55,256
(155,246
Amounts reclassified from accumulated other
comprehensive income that (increase) decrease
net income:
Amortization of unrealized holding losses on
held-to-maturity (“HTM”) securities
1,590
(418
1,172
Gains realized in net income
(18
(d)
(14
Accretion of net gain on terminated cash
flow hedges
(56
(e)
15
(41
Net yield adjustment from cash flow
hedges currently in effect
3,469
(912
2,557
Amortization of prior service credit
(2,086
(f)
549
(1,537
Amortization of actuarial losses
21,483
(5,648
15,835
(186,417
19,397
(19,100
(186,120
48,846
(269,169
(393,771
(39,265
(702,205
184,264
Investment Securities
Defined
Benefit
With OTTI (b)
All Other
46,725
(73,785
(449,917
(8,268
(485,245
190,609
(13,802
37,728
23,926
(9,404
14,522
2,502
(876
(441
174
(267
2,061
25,987
(10,106
15,881
HTM securities
1,721
(677
1,044
(Gains) losses realized in net income
(50
67
17
(7
(78
(47
(1,094
430
(664
(400
157
(243
14,137
(5,563
8,574
(13,852
39,516
13,737
889
40,290
(15,735
32,873
(34,269
(436,180
(7,379
(444,955
174,874
Beginning January 1, 2018, equity securities with readily determinable fair values are required to be measured at fair value with changes in fair value recognized in the income statement. All investment securities with an other-than-temporary impairment charge are within scope of the adopted accounting guidance and no longer require separate presentation.
Other-than-temporary impairment
Included in interest income
Included in gain (loss) on bank investment securities
Included in interest expense
Included in other costs of operations
- 25 -
8. Comprehensive income, continued
Accumulated other comprehensive income (loss), net consisted of the following:
Securities
Balance — December 31, 2017
(44,150
(304,546
(15,118
Cumulative effect of change in accounting principle — equity securities
Net gain (loss) during period
(14,155
(198,420
(290,248
(29,273
9. Derivative financial instruments
As part of managing interest rate risk, the Company enters into interest rate swap agreements to modify the repricing characteristics of certain portions of the Company’s portfolios of earning assets and interest-bearing liabilities. The Company designates interest rate swap agreements utilized in the management of interest rate risk as either fair value hedges or cash flow hedges. Interest rate swap agreements are generally entered into with counterparties that meet established credit standards and most contain master netting, collateral and/or settlement provisions protecting the at-risk party. Based on adherence to the Company’s credit standards and the presence of the netting, collateral or settlement provisions, the Company believes that the credit risk inherent in these contracts was not significant as of June 30, 2018.
The net effect of interest rate swap agreements was to decrease net interest income by $5 million and $4 million for the three-month and six-month periods ended June 30, 2018, respectively, compared with increases of $7 million and $11 million for the three-month and six-month periods ended June 30, 2017, respectively.
- 26 -
9. Derivative financial instruments, continued
Information about interest rate swap agreements entered into for interest rate risk management purposes summarized by type of financial instrument the swap agreements were intended to hedge follows:
Notional
Weighted-
Average Rate
Estimated Fair
Maturity
Fixed
Variable
Value Gain (Loss) (a)
(In years)
Fair value hedges:
Fixed rate long-term borrowings (b)
4,700,000
2.7
2.41
%
2.72
(185
Cash flow hedges:
Interest payments on variable rate
commercial real estate loans (b)(c)
7,700,000
1.4
1.52
1.98
56
12,400,000
1.9
(129
4,550,000
2.9
2.27
2.09
573
commercial real estate loans (b)(d)
4,850,000
2.0
1.36
9,400,000
2.5
639
Certain clearinghouse exchanges consider payments by counterparties for variation margin on derivative instruments to be settlements of those positions. The impact of such treatment at June 30, 2018 and December 31, 2017 was a reduction of the estimated fair value losses on interest rate swap agreements designated as fair value hedges of $96.1 million and $41.1 million, respectively, and on interest rate swap agreements designated as cash flow hedges of $33.9 million and $16.3 million, respectively.
Under the terms of these agreements, the Company receives settlement amounts at a fixed rate and pays at a variable rate.
Includes notional amount and terms of $4.85 billion of forward-starting interest rate swap agreements that will become effective in 2019 and 2020 upon maturity of a like amount of other swap agreements.
Includes notional amount and terms of $2.0 billion of forward-starting interest rate swap agreements that will become effective in 2019 upon maturity of a like amount of other swap agreements.
The Company utilizes commitments to sell residential and commercial real estate loans to hedge the exposure to changes in the fair value of real estate loans held for sale. Such commitments have generally been designated as fair value hedges. The Company also utilizes commitments to sell real estate loans to offset the exposure to changes in fair value of certain commitments to originate real estate loans for sale.
Derivative financial instruments used for trading account purposes included interest rate contracts, foreign exchange and other option contracts, foreign exchange forward and spot contracts, and financial futures. Interest rate contracts entered into for trading account purposes had notional values of $40.3 billion and $29.9 billion at June 30, 2018 and December 31, 2017, respectively. The notional amounts of foreign currency and other option and futures contracts entered into for trading account purposes aggregated $647 million and $530 million at June 30, 2018 and December 31, 2017, respectively.
- 27 -
Information about the fair values of derivative instruments in the Company’s consolidated balance sheet and consolidated statement of income follows:
Asset Derivatives
Liability Derivatives
Derivatives designated and qualifying as hedging instruments
Interest rate swap agreements (a)
397
526
Commitments to sell real estate loans (a)
3,872
734
4,696
283
4,269
1,373
5,222
Derivatives not designated and qualifying as hedging instruments
Mortgage-related commitments to originate real estate loans for sale (a)
11,801
1,050
494
3,917
2,526
2,211
1,019
Trading:
Interest rate contracts (b)
72,973
74,164
274,959
132,104
Foreign exchange and other option and futures contracts (b)
8,514
5,657
6,579
5,286
97,205
91,144
284,799
138,903
Total derivatives
101,474
92,517
290,021
139,186
Asset derivatives are reported in other assets and liability derivatives are reported in other liabilities.
Asset derivatives are reported in trading account assets and liability derivatives are reported in other liabilities. The impact of variation margin payments at June 30, 2018 and December 31, 2017 was a reduction of the estimated fair value of interest rate contracts in the trading account in an asset position of $272.2 million and $136.2 million, respectively, and in a liability position of $4.0 million and $12.2 million, respectively.
Amount of Gain (Loss) Recognized
Three Months Ended
June 30, 2017
Derivative
Hedged Item
Derivatives in fair value hedging relationships
Interest rate swap agreements:
Fixed rate long-term borrowings (a)
(13,357
13,884
(5,795
5,011
Derivatives not designated as hedging instruments
(2,686
831
2,365
1,568
(321
2,399
- 28 -
Six Months Ended
Hedged item
(55,747
56,254
(9,914
9,023
(4,291
2,781
4,996
3,404
705
6,185
Effective January 1, 2018, reported as an adjustment to interest expense. Prior to 2018, reported as other revenues from operations.
Reported as trading account and foreign exchange gains.
Carrying Amount of the Hedged Item
Cumulative Amount of Fair Value Hedging Adjustment Increasing (Decreasing) the Carrying Amount of the Hedged Item
Location in the Consolidated Balance Sheet of
the Hedged Items in Fair Value Hedges
Long-term debt
4,598,712
4,504,029
(96,387
(40,133
The amount of gain (loss) resulting from hedge ineffectiveness recognized in the consolidated statement of income associated with derivatives designated as cash flow hedges was not material during the three and six months ended June 30, 2018 and 2017.
The Company also has commitments to sell and commitments to originate residential and commercial real estate loans that are considered derivatives. The Company designates certain of the commitments to sell real estate loans as fair value hedges of real estate loans held for sale. The Company also utilizes commitments to sell real estate loans to offset the exposure to changes in the fair value of certain commitments to originate real estate loans for sale. As a result of these activities, net unrealized pre-tax gains related to hedged loans held for sale, commitments to originate loans for sale and commitments to sell loans were approximately $26 million and $16 million at June 30, 2018 and December 31, 2017, respectively. Changes in unrealized gains and losses are included in mortgage banking revenues and, in general, are realized in subsequent periods as the related loans are sold and commitments satisfied.
The Company does not offset derivative asset and liability positions in its consolidated financial statements. The Company’s exposure to credit risk by entering into derivative contracts is mitigated through master netting agreements and collateral posting or settlement requirements. Master netting agreements covering interest rate and foreign exchange contracts with the same party include a right to set-off that becomes enforceable in the event of default, early termination or under other specific conditions.
- 29 -
The aggregate fair value of derivative financial instruments in a liability position and the net liability positions with counterparties, which are subject to enforceable master netting arrangements, was $5 million and $13 million at June 30, 2018 and December 31, 2017, respectively. The Company was required to post collateral relating to those positions of $4 million and $12 million at June 30, 2018 and December 31, 2017, respectively. Certain of the Company’s derivative financial instruments contain provisions that require the Company to maintain specific credit ratings from credit rating agencies to avoid higher collateral posting requirements. If the Company’s debt rating were to fall below specified ratings, the counterparties of the derivative financial instruments could demand immediate incremental collateralization on those instruments in a net liability position. The aggregate fair value of all derivative financial instruments with such credit risk-related contingent features in a net liability position on June 30, 2018 was not significant. If the credit risk-related contingent features had been triggered on June 30, 2018, the Company would not have been required to post any additional collateral to counterparties.
The aggregate fair value of derivative financial instruments in an asset position and the net asset positions with counterparties, which are subject to enforceable master netting arrangements, was $36 million and $13 million at June 30, 2018 and December 31, 2017, respectively. Counterparties posted collateral relating to those positions of $37 million and $12 million at June 30, 2018 and December 31, 2017, respectively. Trading account interest rate swap agreements entered into with customers are subject to the Company’s credit risk standards and often contain collateral provisions.
In addition to the derivative contracts noted above, the Company clears certain derivative transactions through a clearinghouse, rather than directly with counterparties. Those transactions cleared through a clearinghouse require initial margin collateral and variation margin payments depending on the contracts being in a net asset or liability position. The amount of initial margin collateral posted by the Company was $54 million and $52 million at June 30, 2018 and December 31, 2017, respectively. The fair value asset and liability amounts of derivative contracts at June 30, 2018 have been reduced by variation margin payments treated as settlements of $272 million and $134 million, respectively. Variation margin on derivative contracts not treated as settlements continues to represent collateral posted or received by the Company.
10. Variable interest entities and asset securitizations
The Company’s securitization activity has consisted of securitizing loans originated for sale into government issued or guaranteed mortgage-backed securities. The amounts of those securitizations during the six-month periods ended June 30, 2018 and June 30, 2017 are presented in the Company’s consolidated statement of cash flows. The Company has not recognized any losses as a result of having securitized assets.
As described in note 4, M&T has issued junior subordinated debentures payable to various trusts that have issued Capital Securities. M&T owns the common securities of those trust entities. The Company is not considered to be the primary beneficiary of those entities and, accordingly, the trusts are not included in the Company’s consolidated financial statements. At each of June 30, 2018 and December 31, 2017, the Company included the junior subordinated debentures as “long-term borrowings” in its consolidated balance sheet and recognized $23 million, in other assets for its “investment” in the common securities of the trusts that will be concomitantly repaid to M&T by the respective trust from the proceeds of M&T’s repayment of the junior subordinated debentures associated with preferred capital securities described in note 4.
The Company has invested as a limited partner in various partnerships that collectively had total assets of approximately $1.0 billion at each of June 30, 2018 and December 31, 2017. Those partnerships generally construct or acquire properties for which the investing partners are eligible to receive certain federal income tax credits in accordance with government guidelines. Such investments may also provide tax deductible losses to the partners. The partnership investments also assist the Company in achieving its community reinvestment initiatives. As a limited partner, there is no recourse to the Company by creditors of the partnerships. However, the tax credits
- 30 -
10. Variable interest entities and asset securitizations, continued
that result from the Company’s investments in such partnerships are generally subject to recapture should a partnership fail to comply with the respective government regulations. The Company’s maximum exposure to loss of its investments in such partnerships was $461 million, including $229 million of unfunded commitments, at June, 2018 and $420 million, including $201 million of unfunded commitments, at December 31, 2017. Contingent commitments to provide additional capital contributions to these partnerships were not material at June 30, 2018. The Company has not provided financial or other support to the partnerships that was not contractually required. Management currently estimates that no material losses are probable as a result of the Company’s involvement with such entities. The Company, in its position as limited partner, does not direct the activities that most significantly impact the economic performance of the partnerships and, therefore, in accordance with the accounting provisions for variable interest entities, the partnership entities are not included in the Company’s consolidated financial statements. The Company’s investment cost is amortized to income taxes in the consolidated statement of income as tax credits and other tax benefits resulting from deductible losses associated with the projects are received. The Company amortized $13 million and $26 million of its investments in qualified affordable housing projects to income tax expense during the three-month and six-month periods ended June 30, 2018, respectively, and recognized $16 million and $32 million of tax credits and other tax benefits during each of those respective periods. Similarly, for the three-month and six-month periods ended June 30, 2017, the Company amortized $11 million and $24 million, respectively, of its investments in qualified affordable housing projects to income tax expense and recognized $15 million and $31 million of tax credits and other tax benefits during those respective periods.
The Company serves as investment advisor for certain registered money-market funds. The Company has no explicit arrangement to provide support to those funds, but may waive portions of its allowable management fees as a result of market conditions.
11. Fair value measurements
GAAP permits an entity to choose to measure eligible financial instruments and other items at fair value. The Company has not made any fair value elections at June 30, 2018.
Pursuant to GAAP, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. A three-level hierarchy exists in GAAP for fair value measurements based upon the inputs to the valuation of an asset or liability.
•
Level 1 — Valuation is based on quoted prices in active markets for identical assets and liabilities.
Level 2 — Valuation is determined from quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar instruments in markets that are not active or by model-based techniques in which all significant inputs are observable in the market.
Level 3 — Valuation is derived from model-based and other techniques in which at least one significant input is unobservable and which may be based on the Company's own estimates about the assumptions that market participants would use to value the asset or liability.
When available, the Company attempts to use quoted market prices in active markets to determine fair value and classifies such items as Level 1 or Level 2. If quoted market prices in active markets are not available, fair value is often determined using model-based techniques incorporating various assumptions including interest rates, prepayment speeds and credit losses. Assets and liabilities valued using model-based techniques are classified as either Level 2 or Level 3, depending on the lowest level classification of an input that is considered significant to the overall valuation. The following is a description of the valuation methodologies used for the Company's assets and liabilities that are measured on a recurring basis at estimated fair value.
- 31 -
11. Fair value measurements, continued
Trading account assets and liabilities
Trading account assets and liabilities consist primarily of interest rate contracts and foreign exchange contracts with customers who require such services with offsetting positions with third parties to minimize the Company's risk with respect to such transactions. The Company generally determines the fair value of its derivative trading account assets and liabilities using externally developed pricing models based on market observable inputs and, therefore, classifies such valuations as Level 2. Mutual funds held in connection with deferred compensation and other arrangements have been classified as Level 1 valuations. Valuations of investments in municipal and other bonds can generally be obtained through reference to quoted prices in less active markets for the same or similar securities or through model-based techniques in which all significant inputs are observable and, therefore, such valuations have been classified as Level 2.
Investment securities available for sale and equity securities
The majority of the Company's available-for-sale investment securities have been valued by reference to prices for similar securities or through model-based techniques in which all significant inputs are observable and, therefore, such valuations have been classified as Level 2. Certain investments in mutual funds and equity securities are actively traded and, therefore, have been classified as Level 1 valuations.
Real estate loans held for sale
The Company utilizes commitments to sell real estate loans to hedge the exposure to changes in fair value of real estate loans held for sale. The carrying value of hedged real estate loans held for sale includes changes in estimated fair value during the hedge period. Typically, the Company attempts to hedge real estate loans held for sale from the date of close through the sale date. The fair value of hedged real estate loans held for sale is generally calculated by reference to quoted prices in secondary markets for commitments to sell real estate loans with similar characteristics and, accordingly, such loans have been classified as a Level 2 valuation.
Commitments to originate real estate loans for sale and commitments to sell real estate loans
The Company enters into various commitments to originate real estate loans for sale and commitments to sell real estate loans. Such commitments are considered to be derivative financial instruments and, therefore, are carried at estimated fair value on the consolidated balance sheet. The estimated fair values of such commitments were generally calculated by reference to quoted prices in secondary markets for commitments to sell real estate loans to certain government-sponsored entities and other parties. The fair valuations of commitments to sell real estate loans generally result in a Level 2 classification. The estimated fair value of commitments to originate real estate loans for sale are adjusted to reflect the Company's anticipated commitment expirations. The estimated commitment expirations are considered significant unobservable inputs contributing to the Level 3 classification of commitments to originate real estate loans for sale. Significant unobservable inputs used in the determination of estimated fair value of commitments to originate real estate loans for sale are included in the accompanying table of significant unobservable inputs to Level 3 measurements.
Interest rate swap agreements used for interest rate risk management
The Company utilizes interest rate swap agreements as part of the management of interest rate risk to modify the repricing characteristics of certain portions of its portfolios of earning assets and interest-bearing liabilities. The Company generally determines the fair value of its interest rate swap agreements using externally developed pricing models based on market observable inputs and, therefore, classifies such valuations as Level 2. The Company has considered counterparty credit risk in the valuation of its interest rate swap agreement assets and has considered its own credit risk in the valuation of its interest rate swap agreement liabilities.
- 32 -
The following tables present assets and liabilities at June 30, 2018 and December 31, 2017 measured at estimated fair value on a recurring basis:
Fair Value Measurements
Level 1 (a)
Level 2 (a)
Level 3
Trading account assets
46,502
101,801
9,658,822
65,748
20,734
1,151,090
Other assets (b)
19,987
8,186
11,064,708
112,250
10,940,633
11,825
Trading account liabilities
281,538
Other liabilities (b)
8,483
7,433
288,971
47,873
85,036
73,232
27,724
10,823,024
378,047
12,696
3,899
11,419,936
121,105
11,290,006
8,825
137,390
1,796
1,302
138,692
There were no significant transfers between Level 1 and Level 2 of the fair value hierarchy during the six months ended June 30, 2018 and the year ended December 31, 2017.
Comprised predominantly of interest rate swap agreements used for interest rate risk management (Level 2), commitments to sell real estate loans (Level 2) and commitments to originate real estate loans to be held for sale (Level 3).
- 33 -
The changes in Level 3 assets and liabilities measured at estimated fair value on a recurring basis during the three months ended June 30, 2018 were as follows:
Available for Sale
Privately Issued
Mortgage-Backed
Other Assets
and Other
Balance - March 31, 2018
8,760
Total gains (losses) realized/unrealized:
Included in earnings
20,277
Settlements
(3
Transfers out of Level 3 (a)
(18,286
10,751
Changes in unrealized gains included in earnings
related to assets still held at June 30, 2018
10,686
The changes in Level 3 assets and liabilities measured at estimated fair value on a recurring basis during the three months ended June 30, 2017 were as follows:
Balance - March 31, 2017
41
16,202
19,571
(6
(23,348
12,425
related to assets still held at June 30, 2017
10,892
- 34 -
The changes in Level 3 assets and liabilities measured at estimated fair value on a recurring basis during the six months ended June 30, 2018 were as follows:
available for sale
8,303
28,407
(25,959
The changes in Level 3 assets and liabilities measured at estimated fair value on a recurring basis during the six months ended June 30, 2017 were as follows:
44
7,325
43,511
(9
(38,411
12,372
The Company’s policy for transfers between fair value levels is to recognize the transfer as of the actual date of the event or change in circumstances that caused the transfer.
Reported as mortgage banking revenues in the consolidated statement of income and includes the fair value of commitment issuances and expirations.
Transfers out of Level 3 consist of interest rate locks transferred to closed loans.
- 35 -
The Company is required, on a nonrecurring basis, to adjust the carrying value of certain assets or provide valuation allowances related to certain assets using fair value measurements. The more significant of those assets follow.
Loans are generally not recorded at fair value on a recurring basis. Periodically, the Company records nonrecurring adjustments to the carrying value of loans based on fair value measurements for partial charge-offs of the uncollectible portions of those loans. Nonrecurring adjustments also include certain impairment amounts for collateral-dependent loans when establishing the allowance for credit losses. Such amounts are generally based on the fair value of the underlying collateral supporting the loan and, as a result, the carrying value of the loan less the calculated valuation amount does not necessarily represent the fair value of the loan. Real estate collateral is typically valued using appraisals or other indications of value based on recent comparable sales of similar properties or assumptions generally observable in the marketplace and the related nonrecurring fair value measurement adjustments have generally been classified as Level 2, unless significant adjustments have been made to the valuation that are not readily observable by market participants. Non-real estate collateral supporting commercial loans generally consists of business assets such as receivables, inventory and equipment. Fair value estimations are typically determined by discounting recorded values of those assets to reflect estimated net realizable value considering specific borrower facts and circumstances and the experience of credit personnel in their dealings with similar borrower collateral liquidations. Such discounts were generally in the range of 15% to 90% at June 30, 2018. As these discounts are not readily observable and are considered significant, the valuations have been classified as Level 3. Automobile collateral is typically valued by reference to independent pricing sources based on recent sales transactions of similar vehicles, and the related nonrecurring fair value measurement adjustments have been classified as Level 2. Collateral values for other consumer installment loans are generally estimated based on historical recovery rates for similar types of loans. As these recovery rates are not readily observable by market participants, such valuation adjustments have been classified as Level 3. Loans subject to nonrecurring fair value measurement were $206 million at June 30, 2018 ($119 million and $87 million of which were classified as Level 2 and Level 3, respectively), $210 million at December 31, 2017 ($145 million and $65 million of which were classified as Level 2 and Level 3, respectively) and $200 million at June 30, 2017 ($118 million and $82 million of which were classified as Level 2 and Level 3, respectively). Changes in fair value recognized for partial charge-offs of loans and loan impairment reserves on loans held by the Company on June 30, 2018 were decreases of $21 million and $45 million for the three-month and six-month periods ended June 30, 2018, respectively. Changes in fair value recognized for partial charge-offs of loans and loan impairment reserves on loans held by the Company on June 30, 2017 were decreases of $21 million and $43 million for the three-month and six-month periods ended June 30, 2017, respectively.
Assets taken in foreclosure of defaulted loans
Assets taken in foreclosure of defaulted loans are primarily comprised of commercial and residential real property and are generally measured at the lower of cost or fair value less costs to sell. The fair value of the real property is generally determined using appraisals or other indications of value based on recent comparable sales of similar properties or assumptions generally observable in the marketplace, and the related nonrecurring fair value measurement adjustments have generally been classified as Level 2. Assets taken in foreclosure of defaulted loans subject to nonrecurring fair value measurement were $30 million and $37 million at June 30, 2018 and 2017, respectively. Changes in fair value recognized for those foreclosed assets held by the Company were not material during the three-month and six-month periods ended June 30, 2018 and 2017.
- 36 -
Significant unobservable inputs to Level 3 measurements
The following tables present quantitative information about significant unobservable inputs used in the fair value measurements for certain Level 3 assets and liabilities at June 30, 2018 and December 31, 2017:
Valuation
Technique
Unobservable
Inputs/Assumptions
Range
(Weighted-
Average)
Recurring fair value measurements
Privately issued mortgage-backed
Two independent pricing quotes
Net other assets (liabilities) (a)
Discounted cash flow
Commitment expirations
0%-90% (20%)
0%-78% (22%)
Other Level 3 assets (liabilities) consist of commitments to originate real estate loans.
Sensitivity of fair value measurements to changes in unobservable inputs
An increase (decrease) in the estimate of expirations for commitments to originate real estate loans would generally result in a lower (higher) fair value measurement. Estimated commitment expirations are derived considering loan type, changes in interest rates and remaining length of time until closing.
- 37 -
Disclosures of fair value of financial instruments
The carrying amounts and estimated fair value for financial instrument assets (liabilities) are presented in the following table:
Carrying
Level 1
Level 2
Financial assets:
Cash and cash equivalents
1,258,614
110,480
13,204,236
13,027,717
110,771
Loans and leases:
Commercial loans and leases
21,465,594
Commercial real estate loans
33,579,305
868,392
32,710,913
Residential real estate loans
18,110,823
4,128,794
13,982,029
Consumer loans
13,257,759
86,413,481
4,997,186
81,416,295
Accrued interest receivable
333,549
Financial liabilities:
(32,086,191
(51,107,290
(5,817,680
(5,865,067
(261,427
(3,239,416
(8,382,316
(8,392,684
Accrued interest payable
(87,779
(281,538
Other financial instruments:
Commitments to originate real estate loans for sale
Commitments to sell real estate loans
882
Other credit-related commitments
(127,898
Interest rate swap agreements used for interest
rate risk management
- 38 -
1,352,035
68,853
14,469,127
110,715
21,321,282
32,950,724
22,130
32,928,594
19,596,826
4,440,645
15,156,181
13,161,517
87,030,349
4,462,775
82,567,574
327,170
(33,975,180
(51,698,008
(6,580,962
(6,635,048
(177,996
(175,099
(8,141,430
(8,193,783
(75,641
(137,390
1,958
(125,281
With the exception of marketable securities, certain off-balance sheet financial instruments and mortgage loans originated for sale, the Company’s financial instruments are not readily marketable and market prices do not exist. The Company, in attempting to comply with the provisions of GAAP that require disclosures of fair value of financial instruments, has not attempted to market its financial instruments to potential buyers, if any exist. Since negotiated prices in illiquid markets depend greatly upon the then present motivations of the buyer and seller, it is reasonable to assume that actual sales prices could vary widely from any estimate of fair value made without the benefit of negotiations. Additionally, changes in market interest rates can dramatically impact the value of financial instruments in a short period of time.
The Company does not believe that the estimated information presented herein is representative of the earnings power or value of the Company. The preceding analysis, which is inherently limited in depicting fair value, also does not consider any value associated with existing customer relationships nor the ability of the Company to create value through loan origination, deposit gathering or fee generating activities. Many of the estimates presented herein are based upon the use of highly subjective information and assumptions and, accordingly, the results may not be precise. Management believes that fair value estimates may not be comparable between financial institutions due to the wide range of permitted valuation techniques and numerous estimates which must be made. Furthermore, because the disclosed fair value amounts were estimated as of the balance sheet date, the amounts actually realized or paid upon maturity or settlement of the various financial instruments could be significantly different.
- 39 -
12. Commitments and contingencies
In the normal course of business, various commitments and contingent liabilities are outstanding. The following table presents the Company's significant commitments. Certain of these commitments are not included in the Company's consolidated balance sheet.
Commitments to extend credit
Home equity lines of credit
5,474,798
5,482,622
Commercial real estate loans to be sold
323,750
194,763
Other commercial real estate
5,855,075
6,050,569
Residential real estate loans to be sold
361,034
347,113
Other residential real estate
240,020
201,426
Commercial and other
13,247,615
12,733,815
Standby letters of credit
2,410,569
2,497,844
Commercial letters of credit
55,655
46,739
Financial guarantees and indemnification contracts
3,458,625
3,434,381
1,725,093
812,217
Commitments to extend credit are agreements to lend to customers, generally having fixed expiration dates or other termination clauses that may require payment of a fee. Standby and commercial letters of credit are conditional commitments issued to guarantee the performance of a customer to a third party. Standby letters of credit generally are contingent upon the failure of the customer to perform according to the terms of the underlying contract with the third party, whereas commercial letters of credit are issued to facilitate commerce and typically result in the commitment being funded when the underlying transaction is consummated between the customer and a third party. The credit risk associated with commitments to extend credit and standby and commercial letters of credit is essentially the same as that involved with extending loans to customers and is subject to normal credit policies. Collateral may be obtained based on management's assessment of the customer's creditworthiness.
Financial guarantees and indemnification contracts are oftentimes similar to standby letters of credit and include mandatory purchase agreements issued to ensure that customer obligations are fulfilled, recourse obligations associated with sold loans, and other guarantees of customer performance or compliance with designated rules and regulations. Included in financial guarantees and indemnification contracts are loan principal amounts sold with recourse in conjunction with the Company's involvement in the Fannie Mae Delegated Underwriting and Servicing program. The Company's maximum credit risk for recourse associated with loans sold under this program totaled approximately $3.3 billion at each of June 30, 2018 and December 31, 2017.
Since many loan commitments, standby letters of credit, and guarantees and indemnification contracts expire without being funded in whole or in part, the contract amounts are not necessarily indicative of future cash flows.
The Company utilizes commitments to sell real estate loans to hedge exposure to changes in the fair value of real estate loans held for sale. Such commitments are considered derivatives and along with commitments to originate real estate loans to be held for sale are generally recorded in the consolidated balance sheet at estimated fair market value.
The Company also has commitments under long-term operating leases.
The Company is contractually obligated to repurchase previously sold residential real estate loans that do not ultimately meet investor sale criteria related to underwriting procedures or loan documentation. When required to do so, the Company may reimburse loan purchasers for losses incurred or may repurchase certain loans. The Company reduces residential mortgage banking revenues by an estimate for losses related to its obligations to loan purchasers.
- 40 -
12. Commitments and contingencies, continued
The amount of those charges is based on the volume of loans sold, the level of reimbursement requests received from loan purchasers and estimates of losses that may be associated with previously sold loans. At June 30, 2018 the Company believes that its obligation to loan purchasers was not material to the Company’s consolidated financial position.
As previously disclosed, Wilmington Trust Corporation (“WTC”), a wholly-owned subsidiary of M&T, is the subject of a class action lawsuit alleging that WTC’s financial reporting and securities filings prior to its acquisition by M&T in 2011 were in violation of securities laws. In April 2018, the parties reached an agreement in principle and a formal settlement agreement was executed and filed with the court later in the second quarter of 2018. The proposed settlement was preliminarily approved by the court in July 2018. The final settlement hearing is scheduled to occur in the fourth quarter of 2018. In the first quarter of 2018, the Company increased its reserve for litigation matters by $135 million in anticipation of the settlement.
M&T and its subsidiaries are subject in the normal course of business to various other pending and threatened legal proceedings and matters in which claims for monetary damages are asserted. On an on-going basis management, after consultation with legal counsel, assesses the Company’s liabilities and contingencies in connection with such proceedings. For those matters where it is probable that the Company will incur losses and the amounts of the losses can be reasonably estimated, the Company records an expense and corresponding liability in its consolidated financial statements. To the extent the pending or threatened litigation could result in exposure in excess of that liability, the amount of such excess is not currently estimable. Although not considered probable, the range of reasonably possible losses for such matters in the aggregate, beyond the existing recorded liability, was between $0 and $50 million. Although the Company does not believe that the outcome of pending litigations will be material to the Company’s consolidated financial position, it cannot rule out the possibility that such outcomes will be material to the consolidated results of operations for a particular reporting period in the future.
13. Segment information
Reportable segments have been determined based upon the Company's internal profitability reporting system, which is organized by strategic business unit. Certain strategic business units have been combined for segment information reporting purposes where the nature of the products and services, the type of customer and the distribution of those products and services are similar. The reportable segments are Business Banking, Commercial Banking, Commercial Real Estate, Discretionary Portfolio, Residential Mortgage Banking and Retail Banking.
The financial information of the Company's segments was compiled utilizing the accounting policies described in note 22 of Notes to Financial Statements in the 2017 Annual Report. The management accounting policies and processes utilized in compiling segment financial information are highly subjective and, unlike financial accounting, are not based on authoritative guidance similar to GAAP. As a result, the financial information of the reported segments is not necessarily comparable with similar information reported by other financial institutions. Furthermore, changes in management structure or allocation methodologies and procedures may result in changes in reported segment financial data.
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13. Segment information, continued
Information about the Company's segments is presented in the following table:
Revenues(a)
Inter-
segment
Revenues
(Loss)
Business Banking
136,029
912
43,007
124,982
1,006
28,750
Commercial Banking
269,499
928
126,391
277,116
843
105,627
Commercial Real Estate
205,541
385
112,691
197,298
357
87,271
Discretionary Portfolio
58,976
(10,554
29,113
72,044
(12,397
29,740
Residential Mortgage Banking
82,167
15,402
88,700
13,742
Retail Banking
420,540
2,707
143,089
383,904
3,045
100,094
293,449
(10,425
254,972
(10,998
15,829
1,466,201
1,399,016
263,913
1,830
80,725
245,315
1,917
53,738
535,895
1,778
251,856
551,024
1,763
218,414
408,148
725
220,994
392,423
764
171,818
109,014
(21,386
48,852
150,990
(25,324
63,685
164,625
31,468
30,348
174,102
36,355
23,660
814,016
5,572
266,469
752,422
6,092
186,285
604,803
(19,987
(53,474
493,845
(21,567
12,380
2,900,414
2,760,121
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Average Total Assets
Year Ended
December 31
(In millions)
5,656
5,595
5,602
26,542
26,802
26,573
22,848
22,875
22,741
33,277
38,341
37,203
2,186
2,341
2,355
13,403
12,337
12,702
13,109
13,684
117,021
121,865
120,860
Total revenues are comprised of net interest income and other income. Net interest income is the difference between taxable-equivalent interest earned on assets and interest paid on liabilities owed by a segment and a funding charge (credit) based on the Company's internal funds transfer and allocation methodology. Segments are charged a cost to fund any assets (e.g. loans) and are paid a funding credit for any funds provided (e.g. deposits). The taxable-equivalent adjustment aggregated $5,397,000 and $8,736,000 for the three-month periods ended June 30, 2018 and 2017, respectively, and $10,206,000 and $16,735,000 for the six-month periods ended June 30, 2018 and 2017, respectively, and is eliminated in "All Other" total revenues. Intersegment revenues are included in total revenues of the reportable segments. The elimination of intersegment revenues is included in the determination of "All Other" total revenues.
14. Relationship with Bayview Lending Group LLC and Bayview Financial Holdings, L.P.
M&T holds a 20% minority interest in Bayview Lending Group LLC ("BLG"), a privately-held commercial mortgage company. M&T recognizes income or loss from BLG using the equity method of accounting. That investment had no remaining carrying value at June 30, 2018 as a result of cumulative losses recognized and cash distributions received. Income recognized by M&T is included in other revenues from operations and was not significant during the three-month periods ended June 30, 2018 and 2017 or the six-month period ended June 30, 2017. Income recognized during the six months ended June 30, 2018 totaled $23 million.
Bayview Financial Holdings, L.P. (together with its affiliates, "Bayview Financial"), a privately-held specialty mortgage finance company, is BLG's majority investor. In addition to their common investment in BLG, the Company and Bayview Financial conduct other business activities with each other. The Company has obtained loan servicing rights for mortgage loans from BLG and Bayview Financial having outstanding principal balances of $2.8 billion and $3.0 billion at June 30, 2018 and December 31, 2017, respectively. Revenues from those servicing rights were $4 million for each of the three-month periods ended June 30, 2018 and 2017, and $7 million and $9 million for the six-month periods ended June 30, 2018 and 2017, respectively. The Company sub-services residential mortgage loans for Bayview Financial having outstanding principal balances of $53.5 billion and $56.6 billion at June 30, 2018 and December 31, 2017, respectively. Revenues earned for sub-servicing loans for Bayview Financial were $28 million and $25 million for the three-month periods ended June 30, 2018 and 2017, respectively, and $58 million and $48 million for the six-month periods ended June 30, 2018 and 2017, respectively. In addition, the Company held $123 million and $136 million of mortgage-backed securities in its held-to-maturity portfolio at June 30, 2018 and December 31, 2017, respectively, that were securitized by Bayview Financial. At June 30, 2018, the Company held $90 million of Bayview Financial’s $750 million syndicated loan facility.
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15. Revenue from contracts with customers
Effective January 1, 2018 the Company adopted amended accounting and disclosure guidance for revenue from contracts with customers under the modified retrospective approach. A significant amount of the Company’s revenues are derived from net interest income on financial assets and liabilities, mortgage banking revenues, trading account and foreign exchange gains, investment securities gains, loan and letter of credit fees, operating lease income, income from bank-owned life insurance, and certain other revenues that are generally excluded from the scope of the amended guidance. As of result of the adoption, the Company began reporting credit card interchange revenue net of $3 million and $6 million of rewards in other revenue from operations for the three-month and six-month periods ended June 30, 2018, respectively. For the three-month and six-month periods ended June 30, 2017, credit card rewards expense of $3 million and $5 million, respectively, was included in other costs of operations. The adjustment to beginning retained earnings as well as the impact of any changes in timing of revenue recognition of noninterest income items within the scope of the guidance was not material to the Company’s consolidated financial position at December 31, 2017 or its consolidated results of operations for the six months ended June 30, 2018.
For noninterest income revenue streams within the scope of the amended guidance, the Company recognizes the expected amount of consideration as revenue when the performance obligations related to the services under the terms of a contract are satisfied. The Company’s contracts generally do not contain terms that necessitate significant judgment to determine the amount of revenue to recognize.
The Company generally charges customer accounts or otherwise bills customers upon completion of its services. Typically the Company’s contracts with customers have a duration of one year or less and payment for services is received at least annually, but oftentimes more frequently as services are provided. At June 30, 2018, the Company had $53 million of uncollected amounts receivable related to recognized revenue from the sources in the table below. Such amount is classified in accrued interest and other assets in the Company’s consolidated balance sheet. In certain situations the Company is paid in advance of providing services and defers the recognition of revenue until its service obligation is satisfied. At June 30, 2018, the Company had deferred revenue of $46 million related to the sources in the table below recorded in accrued interest and other liabilities on its consolidated balance sheet. The following tables summarize sources of M&T’s noninterest income during 2018 that are subject to the amended guidance.
Classification in consolidated statement of
income
15,611
24,270
2,451
63,015
1,434
Other revenues from operations:
Merchant discount and credit card fees
8,334
12,542
4,140
618
26,062
3,646
2,215
413
9,613
7,598
24,412
23,945
40,458
5,094
930
76,768
159,920
307,528
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15. Revenue from contracts with customers, continued
31,015
48,924
5,215
123,616
3,123
15,837
25,254
982
7,528
1,233
50,834
5,209
3,074
865
1,970
19,478
16,706
47,302
46,852
79,387
9,271
1,976
150,622
316,099
605,072
Service charges on deposit accounts are generally deducted directly from customer account balances and include account maintenance charges as well as fees for insufficient funds, debit card usage, and other transactional services. Account maintenance charges are generally recognized as revenue on a monthly basis, whereas transactional fees are recognized after M&T provides the respective service.
Trust income includes fees related to the Institutional Client Services (“ICS”) business and the Wealth Advisory Services (“WAS”) business. Revenues from the ICS business are largely derived from a variety of trustee, agency,
investment, cash management and administrative services, whereas revenues from the WAS business are mainly derived from asset management, fiduciary services, and family office services. Trust fees may be billed in arrears or in advance and are recognized as revenues as M&T’s performance obligations are satisfied. Certain fees are based on a percentage of assets invested or under management and are recognized as the service is performed and constraints regarding the uncertainty of the amount of fees are resolved.
Brokerage service income includes revenues from the sale of mutual funds and annuities and securities brokerage fees. Such revenues are generally recognized at the time of transaction execution. Mutual fund and other distribution fees are recognized upon initial placement of customer funds as well as in future periods as such customers continue to hold amounts in those mutual funds.
Other revenues from operations include merchant discount and credit card fees such as interchange fees and merchant discount fees that are generally recognized when the cardholder’s transaction is approved and settled. Beginning in 2018, credit card rewards accrued to cardholders are recognized as a reduction of interchange revenue. Also included in other revenues from operations are insurance commissions, ATM surcharge fees, and advisory fees. Insurance commissions are recognized at the time the insurance policy is executed with the customer. Insurance renewal commissions are recognized upon subsequent renewal of the policy. ATM surcharge fees are included in revenue at the time of the respective ATM transaction. Advisory fees are generally recognized at the conclusion of the advisory engagement when the Company has satisfied its service obligation.
16. Recent accounting developments
The following table provides a description of accounting standards that were adopted by the company in 2018 as well as standards that are not effective that could have an impact to M&T’s consolidated financial statements upon adoption.
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16. Recent accounting developments, continued
Standard
Description
Required date
of adoption
Effect on consolidated financial statements
Standards Adopted in 2018
Revenue from Contracts with Customers
The core principle of the accounting guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.
January 1, 2018
As described in note 15 the Company adopted the revenue recognition guidance effective January 1, 2018 and applied the modified retrospective approach for reporting purposes. The adjustment to beginning retained earnings as well as the impact of any changes in the timing of revenue recognition of noninterest income items within the scope of this guidance did not have a material effect on the Company’s financial position or results of operations.
Recognition and Measurement of Financial Assets and Financial Liabilities
The amended guidance requires equity investments (excluding those accounted for under the equity method of accounting or those that result in consolidation of the investee) be measured at fair value with changes in fair value recognized in net income, public entities to use the exit price when measuring the fair value of financial instruments for disclosure purposes, and an entity to present separately in other comprehensive income a change in the instrument-specific credit risk when the entity has elected to measure a liability at fair value in accordance with the fair value option.
At January 1, 2018 the Company reclassified marketable equity securities from investment securities available for sale. Upon adoption $17 million of fair value changes in those equity securities, net of tax were reclassified from accumulated other comprehensive income to retained earnings. See note 2 for information on amounts recognized in gain (loss) on bank investment securities in the consolidated statement of income.
Improvements to Accounting for Hedging Activities
The amended guidance expands and clarifies hedge accounting for nonfinancial and financial risk components, aligns the recognition and presentation of the effects of the hedging instrument and hedged item in the financial statements, and simplifies the requirements for assessing effectiveness in a hedging relationship.
January 1, 2019
Early adoption permitted
The Company early adopted the amended guidance on January 1, 2018 and such adoption did not have a material impact on its consolidated financial statements.
Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost
The amended guidance requires the service cost component of the net periodic pension cost and net periodic postretirement benefit cost to be reported in the same line item in the income statement as other compensation costs arising from services rendered by the pertinent employees during the period. The amendments also require that the other components of net benefit costs be presented separately from the service cost component.
The Company adopted the new reporting requirements effective January 1, 2018. The Company previously reported all of its net periodic pension and postretirement benefit costs in salaries and employee benefits within the consolidated statement of income. Information about net periodic pension and postretirement benefit costs that were not service cost-related is included in note 6. The impact of adopting the amended guidance was not material.
Scope of Modification Accounting for Share-Based Payment Awards
The amended guidance addresses which changes to the terms and conditions of a share-based payment award require an entity to apply modification accounting.
The Company adopted the amended guidance on January 1, 2018. The guidance is being applied on a prospective basis for awards modified on or after the adoption date.
Restricted Cash
The amended guidance requires that restricted cash and restricted cash equivalents be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. In addition, when cash, cash equivalents, and restricted cash or restricted cash equivalents are presented in more than one line item within the statement of financial position, the line items and amounts must be presented on the face of the statement of cash flows or disclosed in the notes to the financial statements. Information about the nature of restrictions on an entity’s cash and cash equivalents must also be disclosed.
The guidance was adopted on January 1, 2018 and did not have a material impact on the Company’s consolidated financial statements.
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Classification of Certain Cash Receipts and Cash Payments
This amendment provides clarifying guidance for classifying cash inflows or outflows on the statement of cash flows where current guidance is unclear or silent.
The guidance was applied for 2018 reporting and did not have a material impact on the Company’s consolidated statement of cash flows.
Clarifying the Definition of a Business
The amended guidance clarifies the definition of a business for purposes of evaluating whether transactions would be accounted for as acquisitions (or disposals) of assets or businesses.
The guidance was adopted January 1, 2018 and will be applied to future transactions. The Company does not expect the guidance to have a material impact on its consolidated financial statements.
Standards Not Yet Adopted as of June 30, 2018
Leases
The new guidance requires lessees to record a right-of-use asset and a lease liability for all leases with a term greater than 12 months. While the guidance requires all leases to be recognized in the balance sheet, there continues to be a differentiation between finance leases and operating leases for purposes of income statement recognition and cash flow statement presentation. For finance leases, interest on the lease liability and amortization of the right-of-use asset will be recognized separately in the statement of income. Repayments of principal on those lease liabilities will be classified within financing activities and payments of interest on the lease liability will be classified within operating activities in the statement of cash flows. For operating leases, a single lease cost is recognized in the statement of income and allocated over the lease term, generally on a straight-line basis. All cash payments are presented within operating activities in the statement of cash flows. The accounting applied by lessors is largely unchanged from existing GAAP, however, the guidance eliminates the accounting model for leveraged leases for leases that commence after the effective date of the guidance.
The Company occupies certain banking offices and uses certain equipment under noncancelable operating lease agreements which currently are not reflected in its consolidated balance sheet. Upon adoption of the guidance, the Company expects to report increased assets and increased liabilities as a result of recognizing right-of-use assets and lease liabilities on its consolidated balance sheet. The Company was committed to $429 million of minimum lease payments under noncancelable operating lease agreements at December 31, 2017. The Company does not expect the new guidance will have a material impact to its consolidated statement of income.
Premium Amortization on Purchased Callable Debt Securities
The amended guidance requires the premium on callable debt securities to be amortized to the earliest call date. The amendments do not require an accounting change for securities held at a discount; the discount continues to be amortized to maturity.
The amendments should be applied on a modified retrospective basis through a cumulative-effect adjustment directly to retained earnings as of the beginning of the period of adoption. The Company does not expect the guidance to have a material impact on its consolidated financial statements.
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Measurement of Credit Losses on Financial Instruments
The amended guidance replaces the current incurred loss model for determining the allowance for credit losses. The guidance requires financial assets measured at amortized cost to be presented at the net amount expected to be collected. The allowance for credit losses will represent a valuation account that is deducted from the amortized cost basis of the financial assets to present their net carrying value at the amount expected to be collected. The income statement will reflect the measurement of credit losses for newly recognized financial assets as well as expected increases or decreases of expected credit losses that have taken place during the period. When determining the allowance, expected credit losses over the contractual term of the financial asset(s) (taking into account prepayments) will be estimated considering relevant information about past events, current conditions, and reasonable and supportable forecasts that affect the collectibility of the reported amount. The amended guidance also requires recording an allowance for credit losses for purchased financial assets with a more-than-insignificant amount of credit deterioration since origination. The initial allowance for these assets will be added to the purchase price at acquisition rather than being reported as an expense. Subsequent changes in the allowance will be recorded through the income statement as an expense adjustment. In addition, the amended guidance requires credit losses relating to available-for-sale debt securities to be recorded through an allowance for credit losses. The calculation of credit losses for available-for-sale securities will be similar to how it is determined under existing guidance.
January 1, 2020
Early adoption permitted as of January 1, 2019
The Company is developing its approach for determining expected credit losses under the new guidance. The Company expects that the new guidance will result in an increase in its allowance for credit losses as a result of considering credit losses over the expected life of its loan portfolios. Increases in the level of allowances will reflect new requirements to include the nonaccretable principal difference on purchased credit impaired loans and estimated credit losses on investment securities classified as held-to-maturity, if any. The expected increase to the allowance for credit losses and the impact to the Company’s financial statements are still being determined.
Simplifying the Test for Goodwill Impairment
The amended guidance eliminates step 2 from the goodwill impairment test.
The amendments should be applied using a prospective transition method. The Company does not expect the guidance will have a material impact on its consolidated financial statements, unless at some point in the future one of its reporting units were to fail step 1 of the goodwill impairment test.
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Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Overview
M&T Bank Corporation (“M&T”) recorded net income in the second quarter of 2018 of $493 million or $3.26 of diluted earnings per common share, compared with $381 million or $2.35 of diluted earnings per common share in the year-earlier quarter. During the first quarter of 2018, net income and diluted earnings per common share were $353 million and $2.23, respectively. Basic earnings per common share were $3.26 in the recent quarter, compared with $2.36 in the second quarter of 2017 and $2.24 in the initial 2018 quarter. Net income totaled $846 million or $5.48 of diluted earnings per common share for the six months ended June 30, 2018, compared with $730 million or $4.47 of diluted earnings per common share in the first six months of 2017. Basic earnings per common share were $5.49 in the first half of 2018, up from $4.49 in the similar 2017 period.
The annualized rate of return on average total assets for M&T and its consolidated subsidiaries (“the Company”) in the second quarter of 2018 was 1.70%, compared with 1.27% in the year-earlier quarter and 1.22% in the first quarter of 2018. The annualized rate of return on average common shareholders’ equity was 13.32% in the recent quarter, compared with 9.67% in the corresponding 2017 quarter and 9.15% in the initial quarter of 2018. During the six-month period ended June 30, 2018, the annualized rates of return on average assets and average common shareholders’ equity were 1.46% and 11.21%, respectively, compared with 1.21% and 9.28%, respectively, in the first six months of 2017.
As of March 31, 2018, the Company increased its reserve for litigation matters by $135 million in anticipation of the settlement of a Wilmington Trust Corporation civil litigation matter that was preliminarily approved by the court in July 2018. The increase, on an after-tax basis, reduced net income by $102 million in that quarter, or $.68 of diluted earnings per common share. Additional information about litigation matters is included in note 12 of Notes to Financial Statements and Part II, Item 1 of this Form 10-Q. In addition, income tax expense in the first two quarters of 2018 reflects the reduction of the corporate Federal income tax rate from 35% to 21% by the Tax Cuts and Jobs Act (‘the Tax Act”) that was enacted on December 22, 2017. Finally, the Company adopted amended accounting guidance in the first quarter of 2018 to separately report equity securities at fair value on the consolidated balance sheet (which were previously reported as investment securities available for sale) with changes in fair value recognized in the consolidated statement of income rather than through other comprehensive income. Net unrealized gains on investments in equity securities in the second quarter of 2018 were $2 million, compared with net unrealized losses of $9 million in the initial 2018 quarter.
On June 28, 2018, M&T announced that the Federal Reserve did not object to M&T’s revised 2018 Capital Plan. That capital plan includes the repurchase of up to $1.8 billion of common shares during the four-quarter period starting on July 1, 2018 and an increase in the quarterly common stock dividend in the third quarter of 2018 of up to $.20 per share to $1.00 per share. M&T may continue to pay dividends and interest on equity and debt instruments included in regulatory capital, including preferred stock, trust preferred securities and subordinated debt that were outstanding at December 31, 2017, consistent with the contractual terms of those instruments. Dividends are subject to declaration by M&T’s Board of Directors. In July 2018, M&T’s Board of Directors authorized a new stock repurchase program to repurchase up to $1.8 billion of shares of M&T’s common stock subject to all applicable regulatory limitations, including those set forth in M&T’s revised 2018 Capital Plan. During the second quarter of 2018, M&T repurchased 2,608,376 shares of its common stock at a total cost of $475 million and increased the quarterly common stock dividend from $.75 to $.80 per share. In the first quarter of 2018, M&T repurchased 3,783,282 shares of its common stock at a total cost of $721 million. During the first and second quarters of 2017 M&T repurchased 3,233,196 and 1,409,807 shares of its common stock, respectively, at a total cost of $532 million and $225 million, respectively.
Supplemental Reporting of Non-GAAP Results of Operations
M&T consistently provides supplemental reporting of its results on a “net operating” or “tangible” basis, from which M&T excludes the after-tax effect of amortization of core deposit and other intangible assets (and the related
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goodwill, core deposit intangible and other intangible asset balances, net of applicable deferred tax amounts) and expenses associated with merging acquired operations into the Company, since such items are considered by management to be “nonoperating” in nature. Although “net operating income” as defined by M&T is not a GAAP measure, M&T’s management believes that this information helps investors understand the effect of acquisition activity in reported results.
Net operating income totaled $498 million in the second quarter of 2018, compared with $386 in the similar quarter of 2017 and $357 million in the initial quarter of 2018. Diluted net operating earnings per common share for the recent quarter were $3.29, compared with $2.38 in the second quarter of 2017 and $2.26 in the first quarter of 2018. For the first six months of 2018, net operating income and diluted net operating earnings per common share were $855 million and $5.54, respectively, compared with $740 million and $4.53, respectively, for the first half of 2017.
Net operating income in the recent quarter expressed as an annualized rate of return on average tangible assets was 1.79%, compared with 1.33% in the second quarter of 2017 and 1.28% in the initial 2018 quarter. Net operating income represented an annualized return on average tangible common equity of 19.91% in the second quarter of 2018, compared with 14.18% and 13.51% for the quarters ended June 30, 2017 and March 31, 2018, respectively. For the first six months of 2018, net operating income represented an annualized return on average tangible assets and average tangible common shareholders’ equity of 1.53% and 16.65%, respectively, compared with 1.27% and 13.61%, respectively, in the year-earlier period.
Reconciliations of GAAP amounts with corresponding non-GAAP amounts are provided in table 2.
Taxable-equivalent Net Interest Income
Net interest income expressed on a taxable-equivalent basis was $1.01 billion in the second quarter of 2018, up $67 million or 7% from $947 million in the corresponding quarter of 2017. That growth resulted predominantly from a widening of the net interest margin, or taxable-equivalent net interest income expressed as an annualized percentage of average earning assets, to 3.83% in the recent quarter from 3.45% in the second quarter of 2017. The rise in taxable-equivalent net interest income was largely the result of the higher interest rate environment due to actions initiated by the Federal Reserve in March, June and December 2017 and in March and June 2018 to raise its target Federal funds rate by .25% in each of those months. The expansion of the net interest margin was partially offset by a decline in average earning assets of $3.8 billion, including decreases in average loan and lease balances of $1.9 billion and investment securities of $2.1 billion. Taxable-equivalent net interest income in the recent quarter increased $34 million or 3% from the first quarter of 2018. A 12 basis point (hundredths of one percent) widening of the net interest margin from 3.71% in the first quarter of 2018 was partially offset by lower average earning assets of $1.0 billion, resulting from decreases in average balances of investment securities of $611 million and loans of $360 million. The widening of the net interest margin largely reflected the impact of the three most recent interest rate actions initiated by the Federal Reserve.
For the first six months of 2018, taxable-equivalent net interest income was $1.99 billion, up 7% from $1.87 billion in the similar period of 2017. That increase was primarily attributable to a 37 basis point widening of the net interest margin to 3.77% in the 2018 period from 3.40% in the comparable period of 2017 offset, in part, by lower average loans and investment securities.
Average loans and leases were $87.4 billion in the recent quarter, 2% lower than $89.3 billion in the second quarter of 2017. Commercial loans and leases averaged $21.7 billion in the second 2018 quarter, $640 million or 3% lower than $22.3 billion in the year-earlier quarter. Average commercial real estate loans aggregated $33.7 billion in the recent quarter, up $473 million, or 1%, from $33.2 billion in the second quarter of 2017. Included in average commercial real estate loans in the second quarters of 2018 and 2017 were loans held for sale of $222 million and $109 million, respectively. Reflecting ongoing repayments of loans obtained in the 2015 acquisition of Hudson City Bancorp, Inc. (“Hudson City”), average residential real estate loans declined $2.7 billion or 13% to $18.6 billion in the second quarter of 2018 from $21.3 billion in the year-earlier quarter. Included in that portfolio were loans held
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for sale, which averaged $285 million in the recent quarter and $291 million in the second quarter of 2017. Consumer loans averaged $13.4 billion in the second 2018 quarter, up $980 million, or 8%, from $12.4 billion in the similar quarter of 2017, predominantly due to growth in average recreational vehicle and automobile loans that was partially offset by declines in outstanding balances of home equity loans and lines of credit.
Average loan and lease balances in the second quarter of 2018 decreased $360 million, or less than 1%, from $87.8 billion in the first quarter of 2018. Average commercial loan and lease balances in the second quarter of 2018 increased $163 million, or 1%, from $21.5 billion in the first quarter of 2018. Average commercial real estate loans were little changed in the recent quarter as compared with the intial 2018 quarter. Commercial real estate loans held for sale averaged $120 million in the first quarter of 2018. Average balances of residential real estate loans in the second quarter of 2018 declined $630 million, or 3%, from $19.3 billion in the first quarter of 2018, reflecting the continued pay down of loans obtained in the acquisition of Hudson City. Average consumer loans in the recent quarter increased $72 million, or 1%, from $13.3 billion in 2018’s initial quarter. The accompanying table summarizes quarterly changes in the major components of the loan and lease portfolio.
AVERAGE LOANS AND LEASES
(net of unearned discount)
Percent Increase
(Decrease) from
2nd Qtr.
1st Qtr.
Commercial, financial, etc.
21,709
Real estate – commercial
33,687
Real estate – consumer
18,644
(13
3,540
11
5,092
4,734
Total consumer
13,366
87,406
For the first six months of 2018, average loans and leases totaled $87.6 billion, down $1.9 billion, or 2%, from $89.5 billion in the first half of 2017. Contributing to that decrease were declines in residential real estate loans of $2.8 billion, or 13%, and commercial loans and leases of $691 million, or 3%, partially offset by a rise in consumer loans of $1.1 billion, or 9%, and commercial real estate loans of $475 million, or 1%. The lower average balances of residential real estate loans reflect the pay down of loans obtained in the Hudson City acquisition, while the decreased commercial loan and lease balances reflect pay downs of outstanding balances. The rise in average consumer loans resulted from higher recreational vehicle and automobile loans, partially offset by lower outstanding balances of home equity lines of credit.
The investment securities portfolio averaged $13.9 billion in the second quarter of 2018, down $2.0 billion, or 13%, from $15.9 billion in the year-earlier quarter and $611 million lower than the $14.5 billion averaged in the first quarter of 2018. For the first six months of 2018 and 2017, investment securities averaged $14.2 billion and $16.0 billion, respectively. The lower average balances in the recent periods reflect maturities and pay downs of mortgage-backed securities. There were no significant purchases or sales of investment securities in the first half of 2018. Given the shape of the long-term portion of the yield curve, the Company has not re-invested those proceeds in longer-term mortgage-backed and other securities. During the second quarter of 2017, the Company purchased $658 million of mortgage-backed securities, predominantly Ginnie Mae securities, and $214 million of U.S. Treasury notes. Also during that quarter, the Company sold $512 million of available-for-sale Fannie Mae and Freddie Mac mortgage-backed securities largely due to the limitations on the amount of Fannie Mae and Freddie Mac mortgage-
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backed securities that are permitted to be included in the highest tier of “high quality liquid assets” for the Liquidity Coverage Ratio (“LCR”) calculation. The Company purchased mortgage-backed securities and U.S. Treasury notes totaling $536 million during the initial 2017 quarter.
As noted earlier, effective January 1, 2018 amended accounting guidance was adopted that requires that fair value changes in equity securities with readily determinable fair values be recognized in the consolidated statement of income as opposed to accumulated other comprehensive income where they had been recognized under previous accounting guidance. Net unrealized gains on such equity securities during the second quarter of 2018 were $2 million, compared with net unrealized losses of $9 million during the initial 2018 quarter. Those gains and losses were predominantly related to the Company’s holdings of Fannie Mae and Freddie Mac preferred stock.
The investment securities portfolio is largely comprised of residential mortgage-backed securities and shorter-term U.S. Treasury and federal agency notes. When purchasing investment securities, the Company considers its liquidity position and its overall interest-rate risk profile as well as the adequacy of expected returns relative to risks assumed, including prepayments. The Company manages its investment securities portfolio, in part, to satisfy the LCR requirements established by regulators. The LCR is intended to ensure that banks hold a sufficient amount of “high quality liquid assets” to cover the anticipated net cash outflows during a hypothetical acute 30-day stress scenario. For additional information concerning the LCR rules, refer to Part I, Item 1 of M&T’s Form 10-K for the year ended December 31, 2017 under the heading “Liquidity.”
The Company may occasionally sell investment securities as a result of changes in interest rates and spreads, actual or anticipated prepayments, credit risk associated with a particular security, or as a result of restructuring its investment securities portfolio in connection with a business combination. The Company regularly reviews its investment securities for declines in value below amortized cost that might be characterized as “other than temporary.” There were no other-than-temporary impairment charges recognized in either of the six-month periods ended June 30, 2018 or 2017. Additional information about the investment securities portfolio is included in notes 2 and 11 of Notes to Financial Statements.
Other earning assets include interest-bearing deposits at the Federal Reserve Bank of New York and other banks, trading account assets and federal funds sold. Those other earning assets in the aggregate averaged $4.9 billion in the recently completed quarter, compared with $4.8 billion and $5.0 billion in the second quarter of 2017 and the first quarter of 2018, respectively. Interest-bearing deposits at banks averaged $4.9 billion during each of the three-month periods ended June 30, 2018 and March 31, 2018, compared with $4.7 billion in the three-month period ended June 30, 2017. For the six-month periods ended June 30, 2018 and 2017, average balances of interest-bearing deposits at banks were $4.9 billion and $5.4 billion, respectively. The amounts of investment securities and other earning assets held by the Company are influenced by such factors as demand for loans, which generally yield more than investment securities and other earning assets, ongoing repayments, the levels of deposits, and management of liquidity (including the LCR) and balance sheet size and resulting capital ratios. The amounts of interest-bearing deposits at banks at the respective dates were predominantly comprised of deposits held at the Federal Reserve Bank of New York. The levels of those deposits often fluctuate due to changes in deposits of business and trust-related customers or short-term borrowings to manage the Company’s liquidity.
As a result of the changes described herein, average earning assets aggregated $106.2 billion in the most recent quarter, compared with $110.0 billion in the year-earlier quarter and $107.2 billion in the first quarter of 2018. Average earning assets totaled $106.7 billion and $111.0 billion during the first six months of 2018 and 2017, respectively.
The most significant source of funding for the Company is core deposits. The Company considers noninterest-bearing deposits, interest-bearing transaction accounts, savings deposits and time deposits of $250,000 or less as core deposits. The Company’s branch network is its principal source of core deposits, which generally carry lower interest rates than wholesale funds of comparable maturities. Average core deposits totaled $87.7 billion in the
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second quarter of 2018, compared with $92.0 billion in the corresponding 2017 quarter and $88.9 billion in the first quarter of 2018. The decline in average core deposits in the second quarter of 2018 from the year-earlier quarter reflected a $2.3 billion, or 30%, decline in average balances of time deposits of $250,000 or less, predominantly related to maturities of relatively high-rate time deposits, and lower balances of savings and interest-checking deposits associated with commercial escrow deposits. As compared with the first quarter of 2018, factors contributing to the lower average core deposits in the recent quarter included declines in commercial savings deposits, including escrow deposits, time deposits of $250,000 or less and noninterest-bearing deposits, reflecting declines in deposits associated with trust customers. The following table provides an analysis of quarterly changes in the components of average core deposits.
AVERAGE CORE DEPOSITS
50,871
5,356
(30
(5
31,426
87,653
The Company also receives funding from other deposit sources, including branch-related time deposits over $250,000, deposits associated with the Company’s Cayman Islands office and brokered deposits. Time deposits over $250,000, excluding brokered deposits, averaged $609 million in the recent quarter, compared with $808 million in the corresponding 2017 quarter and $605 million in the first quarter of 2018. The declines in such deposits since the second quarter of 2017 were predominantly the result of maturities of higher-rate time deposits. Cayman Islands office deposits averaged $225 million, $163 million and $248 million for the quarters ended June 30, 2018, June 30, 2017 and March 31, 2018, respectively. Brokered time deposits averaged $32 million for the quarter ended June 30, 2018 and $59 million in each of the quarters ended June 30, 2017 and March 31, 2018. The Company also had brokered savings and interest-bearing transaction accounts, which in the aggregate averaged $1.7 billion, $1.1 billion and $1.3 billion in the quarters ended June 30, 2018, June 30, 2017 and March 31, 2018, respectively. Additional amounts of Cayman Islands office deposits or brokered deposits may be added in the future depending on market conditions, including demand by customers and other investors for those deposits, and the cost of funds available from alternative sources at the time.
The Company also uses borrowings from banks, securities dealers, various Federal Home Loan Banks, the Federal Reserve Bank of New York and others as sources of funding. Short-term borrowings represent borrowing arrangements that at the time they were entered into had a contractual maturity of one year or less. Average short-term borrowings totaled $353 million in the second quarter of 2018, compared with $212 million in the year-earlier quarter and $280 million in the first quarter of 2018. Included in short-term borrowings were unsecured federal funds borrowings, which generally mature on the next business day, that averaged $232 million in the second quarter of 2018 and $141 million in each of the quarters ended June 30, 2017 and March 31, 2018, respectively.
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Long-term borrowings averaged $8.5 billion in the recent quarter, compared with $8.3 billion in the year-earlier quarter and $8.6 billion in the initial 2018 quarter. M&T Bank, M&T’s principal banking subsidiary, has a Bank Note Program whereby M&T Bank may offer unsecured senior and subordinated notes. Average balances of outstanding senior unsecured notes issued under that program were $5.5 billion during each of the three-month periods ended June 30, 2018 and March 31, 2018 and $4.8 billion during the second quarter of 2017. During January 2018, M&T Bank issued $650 million of fixed rate and $350 million of variable rate senior notes that mature in 2021. Also included in average long-term borrowings were amounts borrowed from the Federal Home Loan Banks of New York, Atlanta and Pittsburgh of $577 million in each of the two most recent quarters and $977 million during the second quarter of 2017. Subordinated capital notes included in long-term borrowings averaged $1.4 billion, $1.5 billion and $1.6 billion for the three-month periods ended June 30, 2018, June 30, 2017 and March 31, 2018, respectively. Junior subordinated debentures associated with trust preferred securities that were included in average long-term borrowings were $520 million in each of the three-months periods ended June 30, 2018 and March 31, 2018 and $518 million in the three-month period ended June 30, 2017. Additional information regarding junior subordinated debentures is provided in note 4 of Notes to Financial Statements. Long-term borrowings also included agreements to repurchase securities, which averaged $417 million in the second quarter of 2018, $430 million in the year-earlier quarter and $420 million in the first quarter of 2018. The repurchase agreements held at June 30, 2018 totaled $416 million and have various repurchase dates through 2020, however, the contractual maturities of the underlying securities extend beyond such repurchase dates. The Company has utilized interest rate swap agreements to modify the repricing characteristics of certain components of long-term debt. As of June 30, 2018, interest rate swap agreements were used to hedge approximately $4.7 billion of outstanding fixed rate long-term borrowings. Further information on interest rate swap agreements is provided in note 9 of Notes to Financial Statements. In July 2018, M&T issued $750 million of senior notes that mature in July 2023, of which $500 million have a 3.55% fixed interest rate and $250 million have a variable rate paid quarterly at rates that are indexed to the three-month LIBOR.
Net interest income can be impacted by changes in the composition of the Company’s earning assets and interest-bearing liabilities, as discussed herein, as well as changes in interest rates and spreads. Net interest spread, or the difference between the taxable-equivalent yield on earning assets and the rate paid on interest-bearing liabilities, was 3.57% in the second quarter of 2018, compared with 3.27% in the year-earlier quarter. The yield on earning assets during the recent quarter was 4.28%, up 49 basis points from 3.79% in the corresponding 2017 quarter, while the rate paid on interest-bearing liabilities increased 19 basis points to .71% in the recent quarter from .52% in the year-earlier period. In the first quarter of 2018, the net interest spread was 3.47%, the yield on earning assets was 4.11% and the rate paid on interest-bearing liabilities was .64%. For the first six months of 2018, the net interest spread was 3.52%, up 31 basis points from the year-earlier period. The yield on earning assets and the rate paid on interest-bearing liabilities for the first half of 2018 were 4.20% and .68%, respectively, compared with 3.73% and .52%, respectively, in the similar 2017 period. The widening of the net interest spread in each comparison was largely due to the effect of increases in short-term interest rates initiated by the Federal Reserve in March, June and December of 2017 and in March and June of 2018 that contributed to higher yields on loans and leases.
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Net interest-free funds consist largely of noninterest-bearing demand deposits and shareholders’ equity, partially offset by bank owned life insurance and non-earning assets, including goodwill and core deposit and other intangible assets. Net interest-free funds averaged $38.6 billion in the second quarter of 2018, compared with $39.1 billion and $39.3 billion in the second quarter of 2017 and first quarter of 2018, respectively. The decrease in average net interest-free funds in the most recent quarter as compared with the second quarter of 2017 and first quarter of 2018 reflects lower average balances of noninterest-bearing deposits. Those deposits averaged $31.4 billion, $31.9 billion and $32.0 billion in the quarters ended June 30, 2018, June 30, 2017 and March 31, 2018, respectively. During the first half of 2018 and 2017, average net interest-free funds aggregated $38.9 billion and $39.8 billion, respectively. Shareholders’ equity averaged $15.5 billion during the three-month period ended June 30, 2018, compared with $16.3 billion and $16.1 billion during the three-month periods ended June 30, 2017 and March 31, 2018, respectively. Goodwill and core deposit and other intangible assets averaged $4.7 billion in each of those three quarters. The cash surrender value of bank owned life insurance averaged $1.8 billion in each of the three-month periods ended June 30, 2018, June 30, 2017 and March 31, 2018. Increases in the cash surrender value of bank owned life insurance and benefits received are not included in interest income, but rather are recorded in “other revenues from operations.” The contribution of net interest-free funds to net interest margin was .26% in the second quarter of 2018, compared with .18% and .24% in the second quarter of 2017 and first quarter of 2018, respectively. That contribution for the first half of 2018 and 2017 was .25% and .19%, respectively.
Reflecting the changes to the net interest spread and the contribution of interest-free funds as described herein, the Company’s net interest margin was 3.83% in the recent quarter, compared with 3.45% in the year-earlier quarter and 3.71% in the initial quarter of 2018. During the first six months of 2018 and 2017, the net interest margin was 3.77% and 3.40%, respectively. Future changes in market interest rates or spreads, as well as changes in the composition of the Company’s portfolios of earning assets and interest-bearing liabilities that result in reductions in spreads, could adversely impact the Company’s net interest income and net interest margin.
Management assesses the potential impact of future changes in interest rates and spreads by projecting net interest income under several interest rate scenarios. In managing interest rate risk, the Company has utilized interest rate swap agreements to modify the repricing characteristics of certain portions of its earning assets and interest-bearing liabilities. Periodic settlement amounts arising from these agreements are reflected in either the yields on earning assets or the rates paid on interest-bearing liabilities. The notional amount of interest rate swap agreements entered into for interest rate risk management purposes was $7.6 billion (excluding $4.9 billion of forward-starting swap agreements) at June 30, 2018, compared with $5.7 billion at June 30, 2017 and $7.4 billion (excluding $2.0 billion of forward-starting swap agreements) at December 31, 2017. Under the terms of those interest rate swap agreements, the Company received payments based on the outstanding notional amount at fixed rates and made payments at variable rates.
In a fair value hedge, the fair value of the derivative (the interest rate swap agreement) and changes in the fair value of the hedged item are recorded in the Company’s consolidated balance sheet with the corresponding gain or loss recognized in current earnings. The difference between changes in the fair value of the interest rate swap agreements and the hedged items represents hedge ineffectiveness and coincident with the Company’s adoption of amended hedge accounting guidance on January 1, 2018 is recorded as an adjustment to the interest income or interest expense of the respective hedged item. Prior to 2018, hedge ineffectiveness was recorded in “other revenues from operations” in the Company’s consolidated statement of income. In a cash flow hedge, the effective portion of the derivative’s gain or loss is initially reported as a component of other comprehensive income and subsequently reclassified into earnings when the forecasted transaction affects earnings. The ineffective portion of the derivative’s gain or loss on cash flow hedges is accounted for similar to that associated with fair value hedges. The amounts of hedge ineffectiveness recognized during each of the quarters ended June 30, 2018, June 30, 2017 and March 31, 2018 were not material to the Company’s consolidated results of operations. Information regarding the fair value of interest rate swap agreements and hedge ineffectiveness is presented in note 9 of Notes to Financial Statements. The changes in the fair values of the interest rate swap agreements and the hedged items primarily result from the effects of changing interest rates and spreads.
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The weighted-average rates to be received and paid under interest rate swap agreements currently in effect were 2.07% and 2.44%, respectively, at June 30, 2018. The average notional amounts of interest rate swap agreements entered into for interest rate risk management purposes, the related effect on net interest income and margin, and the weighted-average interest rates paid or received on those swap agreements are presented in the accompanying table. Additional information about the Company’s use of interest rate swap agreements and other derivatives is included in note 9 of Notes to Financial Statements.
INTEREST RATE SWAP AGREEMENTS
.
Rate(a)
Increase (decrease) in:
(2,889
(.01
1,094
2,332
.01
(5,904
(.03
Net interest income/margin
(5,221
(.02
6,998
.02
Average notional amount
7,550,000
4,109,890
Rate received (b)
2.06
2.31
Rate paid (b)
2.33
1.61
(3,469
803
(9,552
(4,272
10,646
7,590,608
2,513,812
2.05
2.56
2.16
1.70
Computed as an annualized percentage of average earning assets or interest-bearing liabilities.
Weighted-average rate paid or received on interest rate swap agreements in effect during the period.
In addition to interest rate swap agreements, the Company has entered into interest rate floor agreements that are accounted for in the trading account rather than as hedging instruments but, nevertheless, provide the Company with protection against the possibility of future declines in interest rates on earning assets. At June 30, 2018 and December 31, 2017, outstanding notional amounts of such agreements totaled $15.6 billion and $6.3 billion, respectively.
As a financial intermediary, the Company is exposed to various risks, including liquidity and market risk. Liquidity refers to the Company’s ability to ensure that sufficient cash flow and liquid assets are available to satisfy current and future obligations, including demands for loans and deposit withdrawals, funding operating costs, and other corporate purposes. Liquidity risk arises whenever the maturities of financial instruments included in assets and liabilities differ. M&T’s bank subsidiaries have access to additional funding sources through borrowings from the FHLB of New York, lines of credit with the Federal Reserve Bank of New York, the previously noted Bank Note Program, and other available borrowing facilities. The Company has, from time to time, issued subordinated capital notes and junior subordinated debentures associated with trust preferred securities to provide liquidity and enhance regulatory capital ratios. However, pursuant to the Dodd-Frank Act, the Company’s junior subordinated debentures associated with trust preferred securities have been phased-out of the definition of Tier 1 capital but, similar to other subordinated capital notes, are considered Tier 2 capital and are includable in total regulatory capital.
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The Company has informal and sometimes reciprocal sources of funding available through various arrangements for unsecured short-term borrowings from a wide group of banks and other financial institutions. Short-term federal funds borrowings were $2.6 billion, $140 million and $125 million at June 30, 2018, June 30, 2017 and December 31, 2017, respectively. In general, those borrowings were unsecured and matured on the next business day. The increase at the recent quarter-end as compared with June 30 and December 31, 2017 represented borrowings associated with the Company’s management of its liquidity position, including compliance with LCR requirements. Included in short-term borrowings at June 30, 2018 were overnight borrowings from the Federal Home Loan Bank of New York totaling $585 million which were also entered into by the Company to manage its liquidity position. In addition to satisfying customer demand, Cayman Islands office deposits may be used by the Company as an alternative to short-term borrowings. Cayman Islands office deposits totaled $261 million at June 30, 2018, $196 million at June 30, 2017 and $178 million at December 31, 2017. The Company has also benefited from the placement of brokered deposits. The Company had brokered savings and interest-bearing checking deposit accounts which aggregated approximately $2.1 billion at June 30, 2018, $1.1 billion at June 30, 2017 and $1.3 billion at December 31, 2017. Brokered time deposits were not a significant source of funding as of those dates.
The Company’s ability to obtain funding from these other sources could be negatively impacted should the Company experience a substantial deterioration in its financial condition or its debt ratings, or should the availability of short-term funding become restricted due to a disruption in the financial markets. The Company attempts to quantify such credit-event risk by modeling scenarios that estimate the liquidity impact resulting from a short-term ratings downgrade over various grading levels. Such impact is estimated by attempting to measure the effect on available unsecured lines of credit, available capacity from secured borrowing sources and securitizable assets. In addition to deposits and borrowings, other sources of liquidity include maturities of investment securities and other earning assets, repayments of loans and investment securities, and cash generated from operations, such as fees collected for services.
Certain customers of the Company obtain financing through the issuance of variable rate demand bonds (“VRDBs”). The VRDBs are generally enhanced by letters of credit provided by M&T Bank. M&T Bank oftentimes acts as remarketing agent for the VRDBs and, at its discretion, may from time-to-time own some of the VRDBs while such instruments are remarketed. When this occurs, the VRDBs are classified as trading account assets in the Company’s consolidated balance sheet. Nevertheless, M&T Bank is not contractually obligated to purchase the VRDBs. The value of VRDBs in the Company’s trading account was not material at June 30, 2018 or December 31, 2017. The total amounts of VRDBs outstanding backed by M&T Bank letters of credit were $903 million at June 30, 2018, compared with $1.2 billion at June 30, 2017 and $1.0 billion at December 31, 2017. M&T Bank also serves as remarketing agent for most of those bonds.
The Company enters into contractual obligations in the normal course of business that require future cash payments. Such obligations include, among others, payments related to deposits, borrowings, leases and other contractual commitments. Off-balance sheet commitments to customers may impact liquidity, including commitments to extend credit, standby letters of credit, commercial letters of credit, financial guarantees and indemnification contracts, and commitments to sell real estate loans. Because many of these commitments or contracts expire without being funded in whole or in part, the contract amounts are not necessarily indicative of future cash flows. Further discussion of these commitments is provided in note 12 of Notes to Financial Statements.
M&T’s primary source of funds to pay for operating expenses, shareholder dividends and treasury stock repurchases has historically been the receipt of dividends from its bank subsidiaries, which are subject to various regulatory limitations. Dividends from any bank subsidiary to M&T are limited by the amount of earnings of the subsidiary in the current year and the two preceding years. For purposes of that test, at June 30, 2018 approximately $568 million was available for payment of dividends to M&T from bank subsidiaries. Information regarding the long-term debt obligations of M&T is included in note 4 of Notes to Financial Statements.
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Management closely monitors the Company’s liquidity position on an ongoing basis for compliance with internal policies and believes that available sources of liquidity are adequate to meet funding needs anticipated in the normal course of business. Management does not anticipate engaging in any activities, either currently or in the long-term, for which adequate funding would not be available and would therefore result in a significant strain on liquidity at either M&T or its subsidiary banks. Banking regulators have enacted the LCR rules requiring a banking company to maintain a minimum amount of liquid assets to withstand a standardized supervisory liquidity stress scenario. The Company is in compliance with the requirements of those rules.
Market risk is the risk of loss from adverse changes in the market prices and/or interest rates of the Company’s financial instruments. The primary market risk the Company is exposed to is interest rate risk. Interest rate risk arises from the Company’s core banking activities of lending and deposit-taking, because assets and liabilities reprice at different times and by different amounts as interest rates change. As a result, net interest income earned by the Company is subject to the effects of changing interest rates. The Company measures interest rate risk by calculating the variability of net interest income in future periods under various interest rate scenarios using projected balances for earning assets, interest-bearing liabilities and derivatives used to hedge interest rate risk. Management’s philosophy toward interest rate risk management is to limit the variability of net interest income. The balances of financial instruments used in the projections are based on expected growth from forecasted business opportunities, anticipated prepayments of loans and investment securities, and expected maturities of investment securities, loans and deposits. Management uses a “value of equity” model to supplement the modeling technique described above. Those supplemental analyses are based on discounted cash flows associated with on- and off-balance sheet financial instruments. Such analyses are modeled to reflect changes in interest rates and provide management with a long-term interest rate risk metric. The Company has entered into interest rate swap agreements to help manage exposure to interest rate risk. At June 30, 2018, the aggregate notional amount of interest rate swap agreements entered into for risk management purposes that were currently in effect was $7.6 billion. In addition, the Company has entered into $4.9 billion of forward-starting interest rate swap agreements that will become effective as a like amount of swap agreements mature.
The Company’s Asset-Liability Committee, which includes members of senior management, monitors the sensitivity of the Company’s net interest income to changes in interest rates with the aid of a computer model that forecasts net interest income under different interest rate scenarios. In modeling changing interest rates, the Company considers different yield curve shapes that consider both parallel (that is, simultaneous changes in interest rates at each point on the yield curve) and non-parallel (that is, allowing interest rates at points on the yield curve to vary by different amounts) shifts in the yield curve. In utilizing the model, market-implied forward interest rates over the subsequent twelve months are generally used to determine a base interest rate scenario for the net interest income simulation. That calculated base net interest income is then compared to the income calculated under the varying interest rate scenarios. The model considers the impact of ongoing lending and deposit-gathering activities, as well as interrelationships in the magnitude and timing of the repricing of financial instruments, including the effect of changing interest rates on expected prepayments and maturities. When deemed prudent, management has taken actions to mitigate exposure to interest rate risk through the use of on- or off-balance sheet financial instruments and intends to do so in the future. Possible actions include, but are not limited to, changes in the pricing of loan and deposit products, modifying the composition of earning assets and interest-bearing liabilities, and adding to, modifying or terminating existing interest rate swap agreements or other financial instruments used for interest rate risk management purposes.
The accompanying table as of June 30, 2018 and December 31, 2017 displays the estimated impact on net interest income in the base scenario described above resulting from parallel changes in interest rates across repricing categories during the first modeling year.
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SENSITIVITY OF NET INTEREST INCOME
TO CHANGES IN INTEREST RATES
Calculated Increase (Decrease)
in Projected Net Interest Income
Changes in interest rates
+200 basis points
72,864
81,570
+100 basis points
56,589
64,434
-100 basis points
(122,181
(94,014
The Company utilized many assumptions to calculate the impact that changes in interest rates may have on net interest income. The more significant of those assumptions included the rate of prepayments of mortgage-related assets, cash flows from derivative and other financial instruments held for non-trading purposes, loan and deposit volumes and pricing, and deposit maturities. In the scenarios presented, the Company also assumed gradual changes in interest rates during a twelve-month period as compared with the base scenario. In the declining rate scenario, the rate changes may be limited to lesser amounts such that interest rates remain positive on all points of the yield curve. The assumptions used in interest rate sensitivity modeling are inherently uncertain and, as a result, the Company cannot precisely predict the impact of changes in interest rates on net interest income. Actual results may differ significantly from those presented due to the timing, magnitude and frequency of changes in interest rates and changes in market conditions and interest rate differentials (spreads) between maturity/repricing categories, as well as any actions, such as those previously described, which management may take to counter such changes. As noted herein, the Company has used interest rate swap agreements designated as hedging instruments to mitigate the Company’s exposure to volatility in future net interest income. The Company has also entered into interest rate floor agreements that are included in the trading account. Such floor agreements provide the Company with protection against the possibility of future declines in interest rates on its earning assets. In light of the uncertainties and assumptions associated with the process, the amounts presented in the table are not considered significant to the Company’s past or projected net interest income.
Changes in fair value of the Company’s financial instruments can also result from a lack of trading activity for similar instruments in the financial markets. That impact is most notable on the values assigned to some of the Company’s investment securities. Information about the fair valuation of investment securities is presented herein under the heading “Capital” and in notes 2 and 11 of Notes to Financial Statements.
The Company engages in limited trading account activities to meet the financial needs of customers and to fund the Company’s obligations under certain deferred compensation plans. Financial instruments utilized in trading account activities consist predominantly of interest rate contracts, such as interest rate swap agreements, and forward and futures contracts related to foreign currencies. The Company generally mitigates the foreign currency and interest rate risk associated with trading account activities by entering into offsetting trading positions that are also included in the trading account. The fair values of trading account positions associated with interest rate contracts and foreign currency and other option and futures contracts are presented in note 9 of Notes to Financial Statements. The amounts of gross and net trading account positions, as well as the type of trading account activities conducted by the Company, are subject to a well-defined series of potential loss exposure limits established by management and approved by M&T’s Board of Directors. However, as with any non-government guaranteed financial instrument, the Company is exposed to credit risk associated with counterparties to the Company’s trading account activities.
The notional amounts of interest rate contracts entered into for trading account purposes totaled $40.3 billion at June 30, 2018, $22.8 billion at June 30, 2017 and $29.9 billion at December 31, 2017. The notional amounts of foreign currency and other option and futures contracts entered into for trading account purposes were $647 million at June 30, 2018, compared with $530 million at each of June 30, 2017 and December 31, 2017. Although the notional amounts of these contracts are not recorded in the consolidated balance sheet, the unsettled fair values of all financial instruments used for trading account activities are recorded in the consolidated balance sheet. The fair
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values of all trading account assets and liabilities recognized were $148 million and $282 million, respectively, at June 30, 2018 and $133 million and $137 million, respectively, at December 31, 2017. The fair value asset and liability amounts at June 30, 2018 have been reduced by contractual settlements of $272 million and $4 million, respectively. Included in trading account assets were assets related to deferred compensation plans aggregating $21 million at June 30, 2018 and $23 million at each of June 30, 2017 and December 31, 2017. Changes in the fair values of such assets are recorded as “trading account and foreign exchange gains” in the consolidated statement of income. Included in “other liabilities” in the consolidated balance sheet at each of June 30, 2018 and June 30, 2017 were $26 million of liabilities related to deferred compensation plans, compared with $27 million at December 31, 2017. Changes in the balances of such liabilities due to the valuation of allocated investment options to which the liabilities are indexed are recorded in “other costs of operations” in the consolidated statement of income. Also included in trading account assets were investments in mutual funds and other assets that the Company was required to hold under terms of certain non-qualified supplemental retirement and other benefit plans that were assumed by the Company in various acquisitions. Those assets totaled $25 million at June 30, 2018 and $24 million at each of June 30, 2017 and December 31, 2017.
Given the Company’s policies, limits and positions, management believes that the potential loss exposure to the Company resulting from market risk associated with trading account activities was not material, however, as previously noted, the Company is exposed to credit risk associated with counterparties to transactions related to the Company’s trading account activities. Additional information about the Company’s use of derivative financial instruments in its trading account activities is included in note 9 of Notes to Financial Statements.
Provision for Credit Losses
The Company maintains an allowance for credit losses that in management’s judgment appropriately reflects losses inherent in the loan and lease portfolio. A provision for credit losses is recorded to adjust the level of the allowance as deemed necessary by management. The provision for credit losses in the second quarter of 2018 was $35 million, compared with $52 million in the year-earlier quarter and $43 million in the first quarter of 2018. For the six-month periods ended June 30, 2018 and 2017, the provision for credit losses was $78 million and $107 million, respectively. Net charge-offs of loans were $35 million in the recent quarter, compared with $45 million and $41 million in the second quarter of 2017 and the first quarter of 2018, respectively. Net charge-offs as an annualized percentage of average loans and leases were .16% in the second quarter of 2018, .20% in the corresponding quarter of 2017 and .19% in the initial 2018 quarter. Net charge-offs for the six-month periods ended June 30 totaled $76 million in 2018 and $88 million in 2017. A summary of net charge-offs by loan type is presented in the table that follows.
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NET CHARGE-OFFS (RECOVERIES)
BY LOAN/LEASE TYPE
First Quarter
Second Quarter
Year-
to-date
9,758
8,491
18,249
1,143
3,111
4,254
2,844
2,166
26,782
21,655
48,437
40,527
35,423
75,950
11,896
21,814
33,710
3,971
1,419
5,390
4,752
3,169
7,921
21,948
18,803
40,751
42,567
45,205
87,772
Included in net charge-offs of consumer loans were net charge-offs of: automobile loans of $8 million in the second quarter of 2018, $7 million in the second quarter of 2017 and $10 million in the first quarter of 2018; recreational vehicle loans of $3 million in the second quarter of 2018, $2 million in the year-earlier quarter and $5 million in the first quarter of 2018; and home equity loans and lines of credit secured by one-to-four family residential properties of $3 million in each of the recent quarter and the second quarter of 2017 and $2 million in the first quarter of 2018.
Loans acquired in connection with acquisition transactions subsequent to 2008 were recorded at fair value with no carry-over of any previously recorded allowance for credit losses. Determining the fair value of the acquired loans required estimating cash flows expected to be collected on the loans and discounting those cash flows at then-current interest rates. For acquired loans where fair value was less than outstanding principal as of the acquisition date and the resulting discount was due, at least in part, to credit deterioration, the excess of expected cash flows over the carrying value of the loans is recognized as interest income over the lives of loans. The difference between contractually required payments and the cash flows expected to be collected is referred to as the nonaccretable balance and is not recorded on the consolidated balance sheet. The nonaccretable balance reflects estimated future credit losses and other contractually required payments that the Company does not expect to collect. The Company regularly evaluates the reasonableness of its cash flow projections associated with such loans, including its estimates of lifetime principal losses. Any decreases to the expected cash flows require the Company to evaluate the need for an additional allowance for credit losses and could lead to charge-offs of loan balances. Any significant increases in expected cash flows result in additional interest income to be recognized over the then-remaining lives of the loans. The carrying amount of loans acquired at a discount subsequent to 2008 and accounted for based on expected cash flows was $864 million, $1.4 billion and $1.0 billion at June 30, 2018, June 30, 2017 and December 31, 2017, respectively. The nonaccretable balance related to remaining principal losses associated with loans acquired at a discount as of June 30, 2018 and December 31, 2017 is presented in the accompanying table.
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NONACCRETABLE BALANCE - PRINCIPAL
Remaining balance
3,003
3,586
24,339
28,783
29,362
33,880
7,223
7,482
63,927
73,731
For acquired loans where the fair value exceeded the outstanding principal balance, the resulting premium is recognized as a reduction of interest income over the lives of the loans. Immediately following the acquisition date and thereafter, an allowance for credit losses is recorded for incurred losses inherent in the portfolio, consistent with the accounting for originated loans and leases. The carrying amount of Hudson City loans acquired in 2015 at a premium was $10.0 billion and $11.5 billion at June 30, 2018 and December 31, 2017, respectively. GAAP does not allow the credit loss component of the net premium associated with those loans to be bifurcated and accounted for as a nonaccreting balance as is the case with purchased impaired loans and other loans acquired at a discount. Rather, subsequent to the acquisition date, incurred losses associated with those loans are evaluated using methods consistent with those applied to originated loans and such losses are considered by management in evaluating the Company’s allowance for credit losses.
Nonaccrual loans aggregated $820 million or .93% of total loans and leases outstanding at June 30, 2018, compared with $872 million or .98% a year earlier, $883 million or 1.00% at December 31, 2017 and $865 million or .99% at March 31, 2018. The lower level of nonaccrual loans at the recent quarter-end as compared with the prior dates reflects the effect of borrower repayment performance and charge-offs.
Accruing loans past due 90 days or more (excluding loans acquired at a discount) were $223 million, or .25% of total loans and leases at June 30, 2018, compared with $265 million or .30% at June 30, 2017, $244 million or .28% at December 31, 2017 and $235 million or .27% at March 31, 2018. Those amounts included loans guaranteed by government-related entities of $202 million at June 30, 2018, $235 million at each of the quarters ended June 30, 2017 and December 31, 2017 and $224 million at March 31, 2018. Guaranteed loans included one-to-four family residential mortgage loans serviced by the Company that were repurchased to reduce associated servicing costs, including a requirement to advance principal and interest payments that had not been received from individual mortgagors. Despite the loans being purchased by the Company, the insurance or guarantee by the applicable government-related entity remains in force. The outstanding principal balances of the repurchased loans that are guaranteed by government-related entities totaled $175 million at June 30, 2018, $185 million at June 30, 2017, $207 million at December 31, 2017 and $194 million at March 31, 2018. The remaining accruing loans past due 90 days or more not guaranteed by government-related entities were loans considered to be with creditworthy borrowers that were in the process of collection or renewal.
Purchased impaired loans are loans obtained in acquisition transactions subsequent to 2008 that as of the acquisition date were specifically identified as displaying signs of credit deterioration and for which the Company did not expect to collect all contractually required principal and interest payments. Those loans were impaired at the date of acquisition, were recorded at estimated fair value and were generally delinquent in payments, but, in accordance with GAAP, the Company continues to accrue interest income on such loans based on the estimated expected cash flows associated with the loans. The carrying amount of such loans was $352 million at June 30, 2018, or .4% of total loans. Of that amount, $332 million was associated with the acquisition of Hudson City. Purchased impaired loans totaled $512 million and $410 million at June 30, 2017 and December 31, 2017, respectively.
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The Company modified the terms of select loans in an effort to assist borrowers. If the borrower was experiencing financial difficulty and a concession was granted, the Company considered such modifications as troubled debt restructurings. Loan modifications included such actions as the extension of loan maturity dates and the lowering of interest rates and monthly payments. The objective of the modifications was to increase loan repayments by customers and thereby reduce net charge-offs. In accordance with GAAP, the modified loans are included in impaired loans for purposes of determining the level of the allowance for credit losses. Information about modifications of loans that are considered troubled debt restructurings is included in note 3 of Notes to Financial Statements.
Residential real estate loans modified under specified loss mitigation programs prescribed by government guarantors have not been included in renegotiated loans because the loan guarantee remains in full force and, accordingly, the Company has not granted a concession with respect to the ultimate collection of the original loan balance. Such loans aggregated $179 million, $180 million, and $189 million at June 30, 2018, June 30, 2017 and December 31, 2017, respectively.
Nonaccrual commercial loans and leases totaled $245 million, $201 million, $241 million and $263 million at June 30, 2018, June 30, 2017, December 31, 2017 and March 31, 2018, respectively. Commercial real estate loans in nonaccrual status aggregated $166 million, $225 million, $202 million and $167 million at June 30, 2018, June 30, 2017, December 31, 2017 and March 31, 2018, respectively. Nonaccrual commercial real estate loans included construction-related loans of $13 million, $23 million, $17 million and $14 million at June 30, 2018, June 30, 2017, December 31, 2017 and March 31, 2018, respectively. Those nonaccrual construction loans included loans to residential builders and developers of $5 million, $7 million, $6 million and $5 million at June 30, 2018, June 30, 2017, December 31, 2017 and March 31, 2018, respectively.
Nonaccrual residential real estate loans totaled $313 million at June 30, 2018, compared with $343 million at June 30, 2017, $332 million at December 31, 2017 and $333 million at March 31, 2018. Reflected in residential real estate loans classified as nonaccrual were previously performing loans obtained in the acquisition of Hudson City that became more than 90 days delinquent. Such nonaccrual residential real estate loans aggregated $220 million at June 30, 2018, $211 million at June 30, 2017, $215 million at December 31, 2017 and $223 million at March 31, 2018. Those loans could not be identified as purchased impaired loans at the acquisition date because the borrowers were making loan payments at the time and the loans were not recorded at a discount. Included in residential real estate loans classified as nonaccrual were limited documentation first mortgage loans of $97 million at June 30, 2018 (including $76 million obtained in the acquisition of Hudson City), $106 million at June 30, 2017, $96 million at December 31, 2017 and $99 million at March 31, 2018. Limited documentation first mortgage loans represent loans secured by residential real estate that at origination typically included some form of limited borrower documentation requirements as compared with more traditional loans. Such loans in the Company’s portfolio prior to the Hudson City transaction were originated by the Company before 2008. Hudson City discontinued its limited documentation loan program in January 2014. Residential real estate loans past due 90 days or more and accruing interest (excluding loans acquired at a discount) aggregated $200 million at June 30, 2018, compared with $233 million at each of June 30, 2017 and December 31, 2017 and $222 million at March 31, 2018. A substantial portion of such amounts related to guaranteed loans repurchased from government-related entities. Information about the location of nonaccrual and charged-off residential real estate loans as of and for the quarter ended June 30, 2018 is presented in the accompanying table.
Nonaccrual consumer loans were $96 million at June 30, 2018, compared with $103 million at June 30, 2017, $108 million at December 31, 2017 and $102 million at March 31, 2018. Included in nonaccrual consumer loans at June 30, 2018, June 30, 2017, December 31, 2017 and March 31, 2018 were: automobile loans of $20 million, $17 million, $24 million and $21 million, respectively; recreational vehicle loans of $7 million, $5 million, $6 million and $5 million, respectively; and outstanding balances of home equity loans and lines of credit of $67 million, $77 million, $75 million and $73 million, respectively. Information about the location of nonaccrual and charged-off home equity loans and lines of credit as of and for the quarter ended June 30, 2018 is presented in the accompanying table.
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Information about past due and nonaccrual loans as of June 30, 2018 and December 31, 2017 is also included in note 3 of Notes to Financial Statements.
SELECTED RESIDENTIAL REAL ESTATE-RELATED LOAN DATA
Quarter Ended
Net Charge-offs (Recoveries)
Annualized
Percent of
Balances
Residential mortgages:
5,272,588
67,780
1.29
1,744
.13
Pennsylvania
1,311,000
1.01
414
.12
Maryland
1,092,534
11,552
1.06
(.09
New Jersey
3,951,018
58,211
1.47
587
.06
Other Mid-Atlantic (a)
978,446
9,113
.93
(206
(.08
2,917,159
55,657
1.91
(324
(.04
15,522,745
215,513
1.39
1,972
.05
Residential construction loans:
8,905
3,242
314
9.68
5.15
3,141
2,507
5,299
5,128
23
.45
(2.95
28,222
337
1.19
.19
Limited documentation first mortgages:
1,202,134
41,271
3.43
124
.04
56,707
6,555
11.56
34,047
2,418
7.10
.26
1,055,101
24,820
.07
26,857
4.73
(59
(.85
384,899
20,474
5.32
(89
3.51
.03
First lien home equity loans and lines of credit:
1,201,524
13,587
1.13
.10
746,944
6,961
402
.21
608,806
6,002
.99
427
.28
62,935
155
.25
199,137
1,939
.97
118
.24
23,404
737
3.15
2,842,750
29,381
1.03
1,266
.18
Junior lien home equity loans and lines of credit:
809,392
17,511
226
.11
305,569
3,456
311
.41
648,622
9,876
597
.36
100,441
1,436
1.43
275,088
3,390
1.23
272
.39
45,701
1,440
114
2,184,813
37,109
1,532
Limited documentation junior lien:
692
(.55
%)
284
1,259
52
4.13
15.36
381
596
3,740
148
3.96
6,952
2.88
2.74
Includes Delaware, Virginia, West Virginia and the District of Columbia.
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Real estate and other foreclosed assets totaled $98 million at June 30, 2018, compared with $104 million at June 30, 2017, $112 million at December 31, 2017 and $102 million at March 31, 2018. Net gains or losses associated with real estate and other foreclosed assets were not material during the three-month periods ended June 30, 2018, June 30, 2017 or March 31, 2018. At June 30, 2018, the Company’s holding of residential real estate-related properties comprised approximately 98% of foreclosed assets.
A comparative summary of nonperforming assets and certain past due, renegotiated and impaired loan data and credit quality ratios is presented in the accompanying table.
NONPERFORMING ASSET AND PAST DUE, RENOGIATED AND IMPAIRED LOAN DATA
2018 Quarters
2017 Quarters
Second
First
Fourth
Third
Nonaccrual loans
864,671
869,362
872,374
Real estate and other foreclosed assets
98,062
101,514
111,910
110,515
104,424
Total nonperforming assets
918,046
966,185
994,508
979,877
976,798
Accruing loans past due 90 days or more(a)
235,325
261,288
265,461
Government guaranteed loans included in totals above:
34,870
36,618
35,677
34,687
39,296
Accruing loans past due 90 days or more
202,394
223,611
235,489
252,072
235,227
Renegotiated loans
242,528
226,829
221,513
226,672
221,892
Acquired accruing loans past due 90 days or more(b)
49,349
56,225
57,498
Purchased impaired loans(c):
Outstanding customer balance
606,683
643,124
688,091
779,340
838,476
Carrying amount
378,000
466,943
512,393
Nonaccrual loans to total loans and leases, net of unearned discount
1.00
.98
Nonperforming assets to total net loans and leases and real estate
and other foreclosed assets
1.04
1.10
1.11
Accruing loans past due 90 days or more (a) to total loans and
leases, net of unearned discount
.27
.30
(a) Excludes loans acquired at a discount. Predominantly residential real estate loans.
(c) Accruing loans acquired at a discount that were impaired at acquisition date and recorded at fair value.
Management determined the allowance for credit losses by performing ongoing evaluations of the loan and lease portfolio, including such factors as the differing economic risks associated with each loan category, the financial condition of specific borrowers, the economic environment in which borrowers operate, the level of delinquent loans, the value of any collateral and, where applicable, the existence of any guarantees or indemnifications. Management evaluated the impact of changes in interest rates and overall economic conditions on the ability of borrowers to meet repayment obligations when quantifying the Company’s exposure to credit losses and the allowance for such losses as of each reporting date. Factors also considered by management when performing its assessment, in addition to general economic conditions and the other factors described above, included, but were not limited to: (i) the impact of real estate values on the Company’s portfolio of loans secured by commercial and residential real estate; (ii) the concentrations of commercial real estate loans in the Company’s loan portfolio; (iii) the amount of commercial and industrial loans to businesses in areas of New York State outside of the New York City metropolitan area and in central Pennsylvania that have historically experienced less economic growth and vitality than the vast majority of other regions of the country; (iv) the expected repayment performance
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associated with the Company’s first and second lien loans secured by residential real estate; and (v) the size of the Company’s portfolio of loans to individual consumers, which historically have experienced higher net charge-offs as a percentage of loans outstanding than other loan types. The level of the allowance is adjusted based on the results of management’s analysis.
Management cautiously and conservatively evaluated the allowance for credit losses as of June 30, 2018 in light of: (i) residential real estate values and the level of delinquencies of loans secured by residential real estate; (ii) economic conditions in the markets served by the Company; (iii) slower growth in private sector employment in upstate New York and central Pennsylvania than in other regions served by the Company and nationally; (iv) the significant subjectivity involved in commercial real estate valuations; and (v) the amount of loan growth experienced by the Company. While there has been general improvement in economic conditions, concerns continue to exist about the strength and sustainability of such improvements; the volatile nature of global commodity and export markets, including the impact international economic conditions could have on the U.S. economy; Federal Reserve positioning of monetary policy; and continued stagnant population growth in the upstate New York and central Pennsylvania regions (approximately 54% of the Company’s loans and leases are to customers in New York State and Pennsylvania).
As described in note 3 of Notes to Financial Statements, the Company utilizes a loan grading system to differentiate risk amongst its commercial loans and commercial real estate loans. Loans with a lower expectation of default are assigned one of ten possible “pass” loan grades and are generally ascribed lower loss factors when determining the allowance for credit losses. Loans with an elevated level of credit risk are classified as “criticized” and are ascribed a higher loss factor when determining the allowance for credit losses. Criticized loans may be classified as “nonaccrual” if the Company no longer expects to collect all amounts according to the contractual terms of the loan agreement or the loan is delinquent 90 days or more. Criticized commercial loans and commercial real estate loans totaled $2.2 billion at June 30, 2018, compared with $2.3 billion at each of June 30, 2017 and March 31, 2018 and $2.5 billion at December 31, 2017. Given payment performance, amount of supporting collateral, and, in certain instances, the existence of loan guarantees, the Company still expects to collect the full outstanding principal balance on most of those loans.
Loan officers in different geographic locations with the support of the Company’s credit department personnel continuously review and reassign loan grades based on their detailed knowledge of individual borrowers and their judgment of the impact on such borrowers resulting from changing conditions in their respective regions. At least annually, updated financial information is obtained from commercial borrowers associated with pass grade loans and additional analysis is performed. On a quarterly basis, the Company’s centralized credit department reviews all criticized commercial loans and commercial real estate loans greater than $1 million to determine the appropriateness of the assigned loan grade, including whether the loan should be reported as accruing or nonaccruing. For criticized nonaccrual loans, additional meetings are held with loan officers and their managers, workout specialists and senior management to discuss each of the relationships. In analyzing criticized loans, borrower-specific information is reviewed, including operating results, future cash flows, recent developments and the borrower’s outlook, and other pertinent data. The timing and extent of potential losses, considering collateral valuation and other factors, and the Company’s potential courses of action are contemplated. To the extent that these loans are collateral-dependent, they are evaluated based on the fair value of the loan’s collateral as estimated at or near the financial statement date. As the quality of a loan deteriorates to the point of classifying the loan as “criticized,” the process of obtaining updated collateral valuation information is usually initiated, unless it is not considered warranted given factors such as the relative size of the loan, the characteristics of the collateral or the age of the last valuation. In those cases where current appraisals may not yet be available, prior appraisals are utilized with adjustments, as deemed necessary, for estimates of subsequent declines in value as determined by line of business and/or loan workout personnel in the respective geographic regions. Those adjustments are reviewed and assessed for reasonableness by the Company’s credit department. Accordingly, for real estate collateral securing larger commercial loans and commercial real estate loans, estimated collateral values are based on current appraisals and estimates of value. For non-real estate loans, collateral is assigned a discounted estimated liquidation value and,
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depending on the nature of the collateral, is verified through field exams or other procedures. In assessing collateral, real estate and non-real estate values are reduced by an estimate of selling costs.
With regard to residential real estate loans, the Company’s loss identification and estimation techniques make reference to loan performance and house price data in specific areas of the country where collateral securing the Company’s residential real estate loans is located. For residential real estate-related loans, including home equity loans and lines of credit, the excess of the loan balance over the net realizable value of the property collateralizing the loan is charged-off when the loan becomes 150 days delinquent. That charge-off is based on recent indications of value from external parties that are generally obtained shortly after a loan becomes nonaccrual. Loans to consumers that file for bankruptcy are generally charged off to estimated net collateral value shortly after the Company is notified of such filings. At June 30, 2018, approximately 56% of the Company’s home equity portfolio consisted of first lien loans and lines of credit. Of the remaining junior lien loans in the portfolio, approximately 68% (or approximately 30% of the aggregate home equity portfolio) consisted of junior lien loans that were behind a first lien mortgage loan that was not owned or serviced by the Company. To the extent known by the Company, if a senior lien loan would be on nonaccrual status because of payment delinquency, even if such senior lien loan was not owned by the Company, the junior lien loan or line that is owned by the Company is placed on nonaccrual status. At June 30, 2018, the balance of junior lien loans and lines that were in nonaccrual status solely as a result of first lien loan performance was $8 million, compared with $11 million at June 30, 2017, $10 million at December 31, 2017 and $13 million at March 31, 2018. In monitoring the credit quality of its home equity portfolio for purposes of determining the allowance for credit losses, the Company reviews delinquency and nonaccrual information and considers recent charge-off experience. When evaluating individual home equity loans and lines of credit for charge-off and for purposes of estimating incurred losses in determining the allowance for credit losses, the Company gives consideration to the required repayment of any first lien positions related to collateral property. Home equity line of credit terms vary but such lines are generally originated with an open draw period of ten years followed by an amortization period of up to twenty years. At June 30, 2018, approximately 81% of all outstanding balances of home equity lines of credit related to lines that were still in the draw period, the weighted-average remaining draw periods were approximately five years, and approximately 21% were making contractually allowed payments that do not include any repayment of principal.
Factors that influence the Company’s credit loss experience include overall economic conditions affecting businesses and consumers, generally, but also residential and commercial real estate valuations, in particular, given the size of the Company’s real estate loan portfolios. Commercial real estate valuations can be highly subjective, as they are based upon many assumptions. Such valuations can be significantly affected over relatively short periods of time by changes in business climate, economic conditions, interest rates and, in many cases, the results of operations of businesses and other occupants of the real property. Similarly, residential real estate valuations can be impacted by housing trends, the availability of financing at reasonable interest rates, and general economic conditions affecting consumers.
In determining the allowance for credit losses, the Company estimates losses attributable to specific troubled credits identified through both normal and targeted credit review processes and also estimates losses inherent in other loans and leases. In quantifying incurred losses, the Company considers the factors and uses the techniques described herein and in note 3 of Notes to Financial Statements. For purposes of determining the level of the allowance for credit losses, the Company segments its loan and lease portfolio by loan type. The amount of specific loss components in the Company’s loan and lease portfolios is determined through a loan-by-loan analysis of commercial loans and commercial real estate loans in nonaccrual status. Measurement of the specific loss components is typically based on expected future cash flows, collateral values or other factors that may impact the borrower’s ability to pay. Losses associated with residential real estate loans and consumer loans are generally determined by reference to recent charge-off history and are evaluated (and adjusted if deemed appropriate) through consideration of other factors including near-term forecasted loss estimates developed by the Company’s credit department. These forecasts give consideration to overall borrower repayment performance and current geographic region changes in collateral values using third party published historical price indices or automated valuation methodologies. With regard to collateral values, the realizability of such values by the Company contemplates
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repayment of any first lien position prior to recovering amounts on a junior lien position. Approximately 44% of the Company’s home equity portfolio consists of junior lien loans and lines of credit. Except for consumer loans and residential real estate loans that are considered smaller balance homogeneous loans and are evaluated collectively and loans obtained at a discount in acquisition transactions, the Company considers a loan to be impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts according to the contractual terms of the loan agreement or the loan is delinquent 90 days or more and has been placed in nonaccrual status. Those impaired loans are evaluated for specific loss components. Modified loans, including smaller balance homogenous loans, that are considered to be troubled debt restructurings are evaluated for impairment giving consideration to the impact of the modified loan terms on the present value of the loan’s expected cash flows. Loans less than 90 days delinquent are deemed to have a minimal delay in payment and are generally not considered to be impaired. For loans acquired at a discount, the impact of estimated future credit losses represents the predominant difference between contractually required payments and the cash flows expected to be collected. Subsequent decreases to those expected cash flows require the Company to evaluate the need for an additional allowance for credit losses and could lead to charge-offs of acquired loan balances. Additional information regarding the Company’s process for determining the allowance for credit losses is included in note 3 of Notes to Financial Statements.
Management believes that the allowance for credit losses at June 30, 2018 appropriately reflected credit losses inherent in the portfolio as of that date. The allowance for credit losses was $1.02 billion, or 1.16% of total loans and leases at each of June 30, 2018 and December 31, 2017 and $1.01 billion, or 1.13%, at June 30, 2017. The level of the allowance reflects management’s evaluation of the loan and lease portfolio using the methodology and considering the factors as described herein. Should the various credit factors considered by management in establishing the allowance for credit losses change and should management’s assessment of losses inherent in the loan portfolio also change, the level of the allowance as a percentage of loans could increase or decrease in future periods. The ratio of the allowance for credit losses to nonaccrual loans was 124% at June 30, 2018, compared with 116% at June 30, 2017 and 115% at December 31, 2017. Given the Company’s general position as a secured lender and its practice of charging-off loan balances when collection is deemed doubtful, that ratio and changes in that ratio are generally not an indicative measure of the adequacy of the Company’s allowance for credit losses, nor does management rely upon that ratio in assessing the adequacy of the Company’s allowance for credit losses. The level of the allowance reflects management’s evaluation of the loan and lease portfolio as of each respective date.
Other Income
Other income totaled $457 million in the second quarter of 2018, compared with $461 million in the year-earlier quarter and $459 million in the first quarter of 2018. As compared with the second quarter of 2017, improved trust income and mortgage banking revenues in the recent quarter were offset by declines in credit-related fees and income from bank-owned life insurance and brokerage services. As compared with the first quarter of 2018, higher trust income, mortgage banking revenues and gains on investment securities in the recent quarter (compared with losses in the preceding quarter) were offset by $23 million of income from Bayview Lending Group LLC (“BLG”) during the first quarter.
Mortgage banking revenues were $92 million in the recent quarter, compared with $86 million in the second quarter of 2017 and $87 million in the initial quarter of 2018. Mortgage banking revenues are comprised of both residential and commercial mortgage banking activities. The Company’s involvement in commercial mortgage banking activities includes the origination, sales and servicing of loans under the multi-family loan programs of Fannie Mae, Freddie Mac and the U.S. Department of Housing and Urban Development.
Residential mortgage banking revenues, consisting of realized gains from sales of residential real estate loans and loan servicing rights, unrealized gains and losses on residential real estate loans held for sale and related commitments, residential real estate loan servicing fees, and other residential real estate loan-related fees and income, were $61 million in each of the second quarters of 2018 and 2017 and $62 million in the first quarter of 2018.
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New commitments to originate residential real estate loans to be sold were approximately $644 million in the second quarter of 2018, compared with $773 million in the year-earlier quarter and $625 million in the first quarter of 2018. Realized gains from sales of residential real estate loans and loan servicing rights and recognized net unrealized gains or losses attributable to residential real estate loans held for sale, commitments to originate loans for sale and commitments to sell loans totaled to gains of $12 million in each of the first two quarters of 2018 and $17 million in the second quarter of 2017.
Loans held for sale that were secured by residential real estate aggregated $283 million at June 30, 2018, $340 million at June 30, 2017 and $356 million at December 31, 2017. Commitments to sell residential real estate loans and commitments to originate residential real estate loans for sale at pre-determined rates totaled $532 million and $361 million, respectively, at June 30, 2018, compared with $692 million and $525 million, respectively, at June 30, 2017 and $595 million and $347 million, respectively, at December 31, 2017. Net recognized unrealized gains on residential real estate loans held for sale, commitments to sell loans, and commitments to originate loans for sale were $11 million and $17 million at June 30, 2018 and June 30, 2017, respectively, and $10 million at December 31, 2017. Changes in such net unrealized gains or losses are recorded in mortgage banking revenues and resulted in net increases in revenues of $3 million in the second quarter of 2018 and $4 million in the second quarter of 2017, compared with net decreases in revenues of $2 million in the first quarter of 2018.
Revenues from servicing residential real estate loans for others were $49 million in the recent quarter, compared with $44 million and $50 million during the quarters ended June 30, 2017 and March 31, 2018, respectively. Residential real estate loans serviced for others totaled $76.0 billion at June 30, 2018, $72.6 billion at June 30, 2017, $79.2 billion at December 31, 2017 and $78.3 billion at March 31, 2018. Reflected in residential real estate loans serviced for others were loans sub-serviced for others of $53.5 billion, $49.9 billion, $56.6 billion and $55.8 billion at June 30, 2018, June 30, 2017, December 31, 2017 and March 31, 2018, respectively. Revenues earned for sub-servicing loans totaled $28 million for the quarter ended June 30, 2018, $25 million for the quarter ended June 30, 2017 and $30 million in the first quarter of 2018. The contractual servicing rights associated with loans sub-serviced by the Company were predominantly held by affiliates of BLG. Information about the Company’s relationship with BLG and its affiliates is included in note 14 of Notes to Financial Statements.
Capitalized servicing rights consist largely of servicing associated with loans sold by the Company. Capitalized residential mortgage servicing assets aggregated $118 million at June 30, 2018, $117 million at June 30, 2017 and $115 million at December 31, 2017.
Commercial mortgage banking revenues totaled $31 million in the recent quarter, compared with $25 million in each of the second quarter of 2017 and the first quarter of 2018. Included in such amounts were revenues from loan origination and sales activities of $17 million in the second quarter of 2018, $11 million in the year-earlier quarter and $12 million in the initial quarter of 2018. Commercial real estate loans originated for sale to other investors were approximately $1.3 billion in the recent quarter, compared with $510 million and $518 million in the second quarter of 2017 and the first quarter of 2018, respectively. Loan servicing revenues totaled $14 million in each of the second quarters of 2018 and 2017 and $13 million in the first quarter of 2018. Capitalized commercial mortgage servicing assets were $110 million and $105 million at June 30, 2018 and June 30, 2017, respectively, and $114 million at December 31, 2017. Commercial real estate loans serviced for other investors totaled $16.5 billion at June 30, 2018, $15.1 billion a year earlier and $16.2 billion at December 31, 2017 and included $3.3 billion, $3.0 billion and $3.3 billion, respectively, of loan balances for which investors had recourse to the Company if such balances are ultimately uncollectible. Commitments to sell commercial real estate loans and commitments to originate commercial real estate loans for sale were $1.2 billion and $324 million, respectively, at June 30, 2018, $400 million and $192 million, respectively, at June 30, 2017 and $217 million and $195 million, respectively, at December 31, 2017. Commercial real estate loans held for sale at June 30, 2018, June 30, 2017 and December 31, 2017 were $868 million, $208 million and $22 million, respectively. The higher balance at June 30, 2018 reflected loans originated later in 2018’s second quarter that will be delivered to investors in the third quarter.
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Service charges on deposit accounts were $107 million in the recent quarter, compared with $106 million in the year-earlier quarter and $105 million in the first quarter of 2018. Brokerage services income, which includes revenues from the sale of mutual funds and annuities and securities brokerage fees, aggregated $13 million in each of the first two quarters of 2018 and $17 million in the second quarter of 2017. Trading account and foreign exchange activity resulted in gains of $5 million during each of the quarters ended June 30, 2018 and March 31, 2018, compared with gains of $8 million in the second quarter of 2017. The lower gains in the two most recent quarters as compared with the second quarter of 2017 were due largely to valuation changes on interest rate floor agreements that are not accounted for as hedging instruments but, nevertheless, provide the Company with protection against the possibility of future declines in interest rates on its earnings assets. Information about the notional amount of interest rate, foreign exchange and other contracts entered into by the Company for trading account purposes is included in note 9 of Notes to Financial Statements and herein under the heading “Taxable-equivalent Net Interest Income.”
Trust income includes fees related to two significant businesses. The Institutional Client Services (“ICS”) business provides a variety of trustee, agency, investment management and administrative services for corporations and institutions, investment bankers, corporate tax, finance and legal executives, and other institutional clients who: (i) use capital markets financing structures; (ii) use independent trustees to hold retirement plan and other assets; and (iii) need investment and cash management services. The Wealth Advisory Services (“WAS”) business helps high net worth clients grow their wealth, protect it, and transfer it to their heirs. A comprehensive array of wealth management services are offered, including asset management, fiduciary services and family office services. Trust income aggregated $138 million in the second quarter of 2018, compared with $127 million in the year-earlier quarter and $131 million in the first quarter of 2018. Revenues associated with the ICS business were approximately $70 million, $63 million and $67 million during the quarters ended June 30, 2018, June 30, 2017 and March 31, 2018, respectively. The higher revenues in the two most recent quarters as compared with the second quarter of 2017 reflect stronger sales activities and higher retirement services income from growth in collective fund balances. Revenues attributable to WAS totaled approximately $62 million, $60 million and $61 million for the three-month periods ended June 30, 2018, June 30, 2017 and March 31, 2018, respectively. Trust assets under management were $83.4 billion, $73.3 billion and $82.5 billion at June 30, 2018, June 30, 2017 and December 31, 2017, respectively. Trust assets under management include the Company’s proprietary mutual funds assets of $9.9 billion, $10.4 billion and $11.2 billion at June 30, 2018, June 30, 2017 and December 31, 2017, respectively. Additional trust income from investment management activities was $6 million in the recent quarter, compared with $4 million in each of the second quarter of 2017 and the first quarter of 2018. That income largely relates to fees earned from retail customer investment accounts and from an affiliated investment manager. Assets managed by that affiliated manager were $6.0 billion at June 30, 2018, $6.9 billion at June 30, 2017 and $6.7 billion at December 31, 2017. The Company’s trust income from that affiliate was not material during any of the quarters then-ended.
The Company recognized net gains on investment securities of $2 million in the recent quarter, compared with net losses of $9 million in the first quarter of 2018. The gains and losses represented unrealized gains and losses on investments in equity securities, largely Fannie Mae and Freddie Mac preferred stock. There were no significant gains or losses on investment securities in the second quarter of 2017.
Other revenues from operations were $100 million in the second quarter of 2018, compared with $117 million in the corresponding quarter of 2017 and $126 million in the first quarter of 2018. The most significant contributor to the recent quarter’s decline as compared with the second quarter of 2017 was lower letters of credit and other credit-related fees. As compared with the first quarter of 2018, the predominant factor for the recent quarter’s decline was $23 million of income from BLG in 2018’s initial quarter. Information about the Company’s relationship with BLG and its affiliates is included in note 14 of Notes to Financial Statements. Included in other revenues from operations were the following significant components. Letter of credit and other credit-related fees aggregated $25 million in the most recent quarter, compared with $35 million in the year-earlier quarter and $29 million in the initial quarter of 2018. Tax-exempt income from bank owned life insurance, which includes increases in the cash surrender value of life insurance policies and benefits received, totaled $12 million in the second quarter of 2018, compared with $14 million in the second quarter of 2017 and $11 million in the first quarter of 2018. Revenues from merchant
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discount and credit card fees were $29 million in each of the second quarters of 2018 and 2017, compared with $28 million in the first quarter of 2018. Insurance-related sales commissions and other revenues totaled $11 million in each of the quarters ended June 30, 2018 and 2017, compared with $13 million in the initial 2018 quarter.
Other income aggregated $916 million during the first six months of 2018, compared with $908 million in the similar 2017 period. That increase was largely attributable to higher trust income, mortgage banking revenues and income from BLG, partially offset by lower letter of credit and other credit-related fees, trading account and foreign exchange gains, and brokerage services income.
Mortgage banking revenues totaled $180 million during the first half of 2018, compared with $171 million during the first six months of 2017. Residential mortgage banking revenues aggregated $123 million and $120 million in the six-month periods ended June 30, 2018 and 2017, respectively. New commitments to originate residential real estate loans to be sold aggregated $1.3 billion and $1.5 billion in the first six months of 2018 and 2017, respectively. Realized gains from sales of residential real estate loans and loan servicing rights and recognized unrealized gains and losses on residential real estate loans held for sale, commitments to originate loans for sale and commitments to sell loans aggregated to gains of $24 million and $31 million in the six-month periods ended June 30, 2018 and 2017, respectively. Revenues from servicing residential mortgage loans for others were $99 million in the first half of 2018 and $89 million in the corresponding 2017 period. Included in servicing revenues were sub-servicing revenues aggregating $58 million and $48 million in the first six months of 2018 and 2017, respectively. For the six months ended June 30, commercial mortgage banking revenues were $57 million and $51 million in 2018 and 2017, respectively. The increase in 2018 as compared with 2017 resulted predominantly from revenues associated with loan origination activities. Commercial real estate loans originated for sale to other investors totaled $1.8 billion and $818 million during the six-month periods ended June 30, 2018 and 2017, respectively.
Service charges on deposit accounts aggregated $212 million during the first half of 2018, compared with $210 million in the year-earlier period. Trust income totaled $269 million and $247 million during the first six months of 2018 and 2017, respectively. The increase in trust income in 2018 as compared with 2017 was largely due to higher revenues from the ICS business, reflecting stronger sales activities and higher retirement services income from growth in collective fund balances, and from the WAS business, resulting from improved equity market performance and stronger sales activities. Brokerage services income declined to $26 million in the first half of 2018 from $34 million in the six-month period ended June 30, 2017, largely due to lower income from sales of annuities and mutual funds. Trading account and foreign exchange activity resulted in gains of $10 million and $18 million in the first half of 2018 and 2017, respectively. The lower gains in the 2018 period were predominantly due to valuation changes on interest rate floor agreements.
Other revenues from operations totaled $227 million in the first six months of 2018, compared with $228 million in the year-earlier period. Other revenues from operations include the following significant components. Letter of credit and other credit-related fees aggregated $54 million and $69 million in 2018 and 2017, respectively. The lower revenues in the 2018 period were largely attributable to a decline in fees for providing loan syndication services. Reflecting lower benefits proceeds, income from bank owned life insurance totaled $23 million in the first six months of 2018, compared with $29 million in the similar 2017 period. Merchant discount and credit card fees were $57 million and $56 million in the first six months of 2018 and 2017, respectively. Insurance-related commissions and other revenues aggregated $25 million and $23 million in 2018 and 2017, respectively. M&T’s investment in BLG resulted in income of $23 million in the first six months of 2018 and losses of $1 million in the first half of 2017.
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Other Expense
Other expense totaled $777 million in the second quarter of 2018, compared with $751 million in the year-earlier quarter and $933 million in the first quarter of 2018. Included in those amounts are expenses considered to be “nonoperating” in nature consisting of amortization of core deposit and other intangible assets of $6 million in the recent quarter, $8 million in the second quarter of 2017 and $7 million in the initial 2018 quarter. Exclusive of those nonoperating expenses, noninterest operating expenses were $770 million in the second quarter of 2018, compared with $743 million in the corresponding 2017 quarter and $927 million in the first quarter of 2018. Higher costs for salaries and employee benefits were the most significant factor associated with the rise in noninterest operating expenses in the recent quarter as compared with the year-earlier quarter. The higher noninterest operating expenses in the first quarter of 2018 reflected a $135 million addition to the reserve for litigation matters and seasonally higher stock-based compensation and employee benefits expenses. Table 2 provides a reconciliation of other expense to noninterest operating expense.
Other expense for the first half of 2018 totaled $1.71 billion, compared with $1.54 billion in the similar period of 2017. Included in those amounts are expenses considered to be “nonoperating” in nature consisting of amortization of core deposit and other intangible assets of $13 million and $17 million in the six-month periods ended June 30, 2018 and 2017, respectively. Exclusive of those nonoperating expenses, noninterest operating expenses for the first half of 2018 increased 11% to $1.70 billion from $1.52 billion in the first six months of 2017. That $175 million increase was largely due to the $135 million increase to the reserve for litigation matters in 2018’s initial quarter and to higher salaries and employee benefits expense.
Salaries and employee benefits expense aggregated $419 million in 2018’s second quarter, compared with $398 million in the year-earlier quarter and $463 million in the first quarter of 2018. During the first half of 2018 and 2017, salaries and employee benefits expense totaled $882 million and $848 million, respectively. The higher salaries and employee benefits expenses in the 2018 periods as compared with the corresponding periods in 2017 largely reflect the impact of annual merit increases for employees and higher incentive-based compensation. The lower level of expenses in the recent quarter as compared with the first quarter of 2018 was attributable to seasonally higher stock-based compensation, medical plan costs, payroll-related taxes, unemployment insurance and the Company’s contributions for retirement savings plan benefits related to annual incentive compensation payments in the initial quarter of 2018. The Company, in accordance with GAAP, has accelerated the recognition of compensation costs for stock-based awards granted to retirement-eligible employees and employees who will become retirement-eligible prior to full vesting of the award. As a result, stock-based compensation expense during the first quarter of 2018 included $23 million that would have been recognized over the normal vesting period if not for the accelerated expense recognition provisions of GAAP. That acceleration had no effect on the value of stock-based compensation awarded to employees. Salaries and employee benefits expense included stock-based compensation of $11 million and $10 million in the three-month periods ended June 30, 2018 and June 30, 2017, respectively, $35 million in the three-month period ended March 31, 2018, and $45 million and $43 million during the six-month periods ended June 30, 2018 and 2017, respectively. The number of full-time equivalent employees was 16,760 at June 30, 2018, compared with 16,526 at June 30, 2017, 16,456 at December 31, 2017 and 16,531 at March 31, 2017.
Excluding the nonoperating expense items described earlier from each quarter, nonpersonnel operating expenses were $352 million and $344 million in the quarters ended June 30, 2018 and June 30, 2017, respectively, and $463 million in the first quarter of 2018. On that same basis, such expenses were $815 million and $674 million in the six-month periods ended June 30, 2018 and 2017, respectively. The decline in nonpersonnel operating expenses in the recent quarter as compared with the initial 2018 quarter was predominantly attributable to the $135 million addition to the reserve for litigation matters in 2018’s first quarter offset, in part, by higher costs for professional services in the recent quarter. The higher level of nonpersonnel operating expenses in the first six months of 2018 as compared with the corresponding 2017 period resulted primarily from the 2018 increase to the reserve for litigation matters and higher professional services expenses.
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The efficiency ratio measures the relationship of noninterest operating expenses to revenues. The Company’s efficiency ratio was 52.4% during the recent quarter, compared with 52.7% and 64.0% in the second quarter of 2017 and first quarter of 2018, respectively. The efficiency ratios for the six-month periods ended June 30, 2018 and 2017 were 58.2% and 54.8%, respectively. The calculation of the efficiency ratio is presented in Table 2.
Income Taxes
The provision for income taxes was $161 million in the second quarter of 2018, compared with $215 million in the year-earlier quarter and $105 million in the initial 2018 quarter. For the six-month periods ended June 30, 2018 and 2017, the provision for income taxes were $267 million and $385 million, respectively. The effective tax rates were 24.7%, 36.1% and 23.0% for the quarters ended June 30, 2018, June 30, 2017 and March 31, 2018, respectively, and 24.0% and 34.5% for the six-month periods ended June 30, 2018 and 2017, respectively. The enactment of the Tax Act that was signed into law on December 22, 2017 impacted the effective tax rates in the two most recent quarters. The Tax Act reduced the corporate Federal income tax rate from 35% to 21% effective January 1, 2018 and made other changes to U.S. corporate income tax laws. In addition to the impact of the Tax Act, GAAP requires that excess tax benefits and tax deficiencies associated with share-based compensation be recognized as a discreet component of income tax expense in the income statement. As a result, the Company recognized a reduction of income tax expense of $9 million and $18 million in the initial quarter of 2018 and 2017, respectively. The impact of that requirement in the second quarters of 2018 and 2017 was not significant.
The effective tax rate is affected by the level of income earned that is exempt from tax relative to the overall level of pre-tax income, the level of income allocated to the various state and local jurisdictions where the Company operates, because tax rates differ among such jurisdictions, and the impact of any large but infrequently occurring items. The Company’s effective tax rate in future periods will also be affected by the results of operations allocated to the various tax jurisdictions within which the Company operates, any change in income tax laws or regulations within those jurisdictions, and interpretations of income tax regulations that differ from the Company’s interpretations by any of various tax authorities that may examine tax returns filed by M&T or any of its subsidiaries.
Shareholders’ equity was $15.6 billion at June 30, 2018, representing 13.15% of total assets, compared with $16.3 billion or 13.47% a year earlier and $16.3 billion or 13.70% at December 31, 2017.
Included in shareholders’ equity was preferred stock with financial statement carrying values of $1.2 billion at each of June 30, 2018, June 30, 2017 and December 31, 2017. Reflecting the impact of repurchases of M&T’s common stock, common shareholders’ equity was $14.3 billion, or $99.43 per share, at June 30, 2018, compared with $15.1 billion, or $98.66 per share, a year earlier and $15.0 billion, or $100.03 per share, at December 31, 2017. Tangible equity per common share, which excludes goodwill and core deposit and other intangible assets and applicable deferred tax balances, was $67.29 at the end of the recent quarter, compared with $68.20 at June 30, 2017 and $69.08 at December 31, 2017. The Company’s ratio of tangible common equity to tangible assets was 8.53% at June 30, 2018, compared with 8.95% a year earlier and 9.10% at December 31, 2017. Reconciliations of total common shareholders’ equity and tangible common equity and total assets and tangible assets as of each of those respective dates are presented in table 2.
Shareholders’ equity reflects accumulated other comprehensive income or loss, which includes the net after-tax impact of unrealized gains or losses on investment securities classified as available for sale, unrealized losses on held-to-maturity securities for which an other-than-temporary impairment charge has been recognized, gains or losses associated with interest rate swap agreements designated as cash flow hedges, foreign currency translation adjustments and adjustments to reflect the funded status of defined benefit pension and other postretirement plans. Net unrealized losses on investment securities reflected in shareholders’ equity, net of applicable tax effect, were $198 million, or $1.38 per common share, at June 30, 2018, compared with net unrealized losses of $743,000, or $.01 per common share, at June 30, 2017 and $44 million, or $.29 per common share, at December 31, 2017. Changes in unrealized gains and losses on investment securities are predominantly reflective of the impact of
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changes in interest rates on the values of such securities. Information about unrealized gains and losses as of June 30, 2018 and December 31, 2017 is included in note 2 of Notes to Financial Statements.
Reflected in the carrying amount of available-for-sale investment securities at June 30, 2018 were pre-tax effect unrealized gains of $18 million on securities with an amortized cost of $1.1 billion and pre-tax effect unrealized losses of $271 million on securities with an amortized cost of $8.8 billion. Further information concerning the Company’s valuations of available-for-sale investment securities is provided in note 11 of Notes to Financial Statements.
Each reporting period the Company reviews its investment securities for other-than-temporary impairment. For debt securities, the Company analyzes the creditworthiness of the issuer or reviews the credit performance of the underlying collateral supporting the bond. For debt securities backed by pools of loans, such as privately issued mortgage-backed securities, the Company estimates the cash flows of the underlying loan collateral using forward-looking assumptions for default rates, loss severities and prepayment speeds. Estimated collateral cash flows are then utilized to estimate bond-specific cash flows to determine the ultimate collectibility of the bond. If the present value of the cash flows indicates that the Company should not expect to recover the entire amortized cost basis of a bond or if the Company intends to sell the bond or it more likely than not will be required to sell the bond before recovery of its amortized cost basis, an other-than-temporary impairment loss is recognized. If an other-than-temporary impairment loss is deemed to have occurred, the investment security’s cost basis is adjusted, as appropriate for the circumstances.
As of June 30, 2018, based on a review of each of the securities in the investment securities portfolio, the Company concluded that the declines in the values of any securities containing an unrealized loss were temporary and that any other-than-temporary impairment charges were not appropriate. As of June 30, 2018, the Company did not intend to sell nor is it anticipated that it would be required to sell any of its impaired securities, that is, where fair value is less than the cost basis of the security. The Company intends to continue to closely monitor the performance of its securities because changes in their underlying credit performance or other events could cause the cost basis of those securities to become other-than-temporarily impaired. However, because the unrealized losses on available-for-sale investment securities have generally already been reflected in the financial statement values for investment securities and shareholders’ equity, any recognition of an other-than-temporary decline in value of those investment securities would not have a material effect on the Company’s consolidated financial condition. Any other-than-temporary impairment charge related to held-to-maturity securities would result in reductions in the financial statement values for investment securities and shareholders’ equity. Additional information concerning fair value measurements and the Company’s approach to the classification of such measurements is included in note 11 of the Notes to Financial Statements.
The Company assessed impairment losses on privately issued mortgage-backed securities in the held-to-maturity portfolio by performing internal modeling to estimate bond-specific cash flows considering recent performance of the mortgage loan collateral and utilizing assumptions about future defaults and loss severity. These bond-specific cash flows also reflect the placement of the bond in the overall securitization structure and the remaining subordination levels. In total, at June 30, 2018 and December 31, 2017, the Company had in its held-to-maturity portfolio privately issued mortgage-backed securities with an amortized cost basis of $123 million and $136 million, respectively, and a fair value of $111 million at each of those dates. At June 30, 2018, 84% of the mortgage-backed securities were in the most senior tranche of the securitization structure with 19% being independently rated as investment grade. The mortgage-backed securities are generally collateralized by residential and small-balance commercial real estate loans originated between 2004 and 2008 and had a weighted-average credit enhancement of 18% at June 30, 2018, calculated by dividing the remaining unpaid principal balance of bonds subordinate to the bonds owned by the Company plus any overcollateralization remaining in the securitization structure by the remaining unpaid principal balance of all bonds in the securitization structure. The weighted-average default percentage and loss severity assumptions utilized in the Company’s internal modeling were 33% and 72% respectively. Given the securitization structure, some of the bonds held by the Company may defer interest payments in certain circumstances, but after considering the repayment structure and estimated future collateral cash flows of
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each individual senior and subordinate tranche bond, the Company has concluded that as of June 30, 2018, those privately issued mortgage-backed securities were not other-than-temporarily impaired. Nevertheless, it is possible that adverse changes in the estimated future performance of mortgage loan collateral underlying such securities could impact the Company’s conclusions.
Adjustments to reflect the funded status of defined benefit pension and other postretirement plans, net of applicable tax effect, reduced accumulated other comprehensive income by $290 million, or $2.01 per common share, at June 30, 2018, $265 million, or $1.73 per common share, at June 30, 2017 and $305 million, or $2.03 per common share, at December 31, 2017.
On February 5, 2018, M&T received notice of non-objection from the Federal Reserve to repurchase an additional $745 million of shares of its common stock by June 30, 2018. This amount was in addition to the previously announced $900 million of common stock authorized for repurchase, which was filed with the Federal Reserve in the 2017 Capital Plan. The additional repurchases of up to $745 million have been made under the terms of a stock repurchase program approved by M&T’s Board of Directors on February 21, 2018. M&T repurchased 2,608,376 shares of its common stock at a total cost of $475 million during the second quarter of 2018 and 6,391,658 for $1.2 billion during the first half of 2018. In accordance with the revised 2016 Capital Plan, M&T repurchased 1,409,807 common shares for $225 million in the second quarter of 2017 and 4,643,003 common shares for $757 million during the first six months of 2017.
Also in accordance with the 2017 Capital Plan, during the second quarter of 2018, M&T’s Board of Directors authorized an increase in the quarterly common stock dividend to $.80 per common share in that quarter from the previous rate of $.75 per common share. Cash dividends declared on M&T’s common stock aggregated $116 million in the recent quarter, compared with $115 million and $112 million in the quarters ended June 30, 2017 and March 31, 2018, respectively. Common stock dividends during the six-month periods ended June 30, 2018 and 2017 were $228 million and $231 million, respectively. Cash dividends declared on preferred stock aggregated $18 million in each of the second quarters of 2018 and 2017 and the first quarter of 2018.
On June 28, 2018, M&T announced that the Federal Reserve did not object to M&T’s revised 2018 Capital Plan. The plan includes the repurchase of up to $1.8 billion of common shares during the four-quarter period beginning on July 1, 2018 and an increase in the quarterly common stock dividend in the third quarter of 2018 of up to $.20 per share to $1.00 per share. M&T may also continue to pay dividends and interest on other equity and debt instruments included in regulatory capital, including preferred stock, trust preferred securities and subordinated debt that were outstanding at December 31, 2017, consistent with the contractual terms of those instruments. Dividends are subject to declaration by M&T’s Board of Directors. Furthermore, on July 17, 2018, M&T’s Board of Directors authorized a new stock repurchase program to repurchase up to $1.8 billion of common shares subject to all applicable regulatory reporting limitations, including those set forth in M&T’s revised 2018 Capital Plan. During July 2018, M&T repurchased 450,000 common shares for $78 million in accordance with that program.
M&T and its subsidiary banks are required to comply with applicable capital adequacy standards established by the federal banking agencies. Pursuant to those regulations, the minimum capital ratios are as follows:
4.5% Common Equity Tier 1 (“CET1”) to risk-weighted assets (each as defined in the capital regulations);
6.0% Tier 1 capital (that is, CET1 plus Additional Tier 1 capital) to risk-weighted assets (each as defined in the capital regulations);
8.0% Total capital (that is, Tier 1 capital plus Tier 2 capital) to risk-weighted assets (each as defined in the capital regulations); and
4.0% Tier 1 capital to average consolidated assets as reported on consolidated financial statements (known as the “leverage ratio”), as defined in the capital regulations.
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In addition, capital regulations provide for the phase-in of a “capital conservation buffer” composed entirely of CET1 on top of these minimum risk-weighted asset ratios. When fully phased-in on January 1, 2019 the capital conservation buffer will be 2.5%. For 2018, the phase-in transition portion of that buffer is 1.875%.
The regulatory capital ratios of the Company and its bank subsidiaries, M&T Bank and Wilmington Trust, N.A., as of June 30, 2018 are presented in the accompanying table.
REGULATORY CAPITAL RATIOS
M&T
Wilmington
(Consolidated)
Bank
Trust, N.A.
Common equity Tier 1
10.52%
10.95%
63.39%
Tier 1 capital
11.79%
Total capital
14.28%
13.06%
63.85%
Tier 1 leverage
10.18%
9.47%
14.34%
The Company is subject to the comprehensive regulatory framework applicable to bank and financial holding companies and their subsidiaries, which includes regular examinations by a number of regulators. Regulation of financial institutions such as M&T and its subsidiaries is intended primarily for the protection of depositors, the Deposit Insurance Fund of the FDIC and the banking and financial system as a whole, and generally is not intended for the protection of shareholders, investors or creditors other than insured depositors. Changes in laws, regulations and regulatory policies applicable to the Company’s operations can increase or decrease the cost of doing business, limit or expand permissible activities or affect the competitive environment in which the Company operates, all of which could have a material effect on the business, financial condition or results of operations of the Company and in M&T’s ability to pay dividends. For additional information concerning this comprehensive regulatory framework, refer to Part I, Item 1 of M&T’s Form 10-K for the year ended December 31, 2017.
Segment Information
The Company's reportable segments have been determined based upon its internal profitability reporting system, which is organized by strategic business unit. Financial information about the Company's segments is presented in note 13 of Notes to Financial Statements. Each reportable segment benefited from a lower corporate Federal income tax rate in the first two quarters of 2018 due to the enactment of the Tax Act, as compared with the 2017 periods.
The Business Banking segment earned net income of $43 million in the second quarter of 2018, compared with $29 million in the second quarter of 2017 and $38 million in the first quarter of 2018. As compared with the year-earlier quarter, the 50% rise in net income in the recent quarter primarily reflected an $11 million increase in net interest income, reflecting a widening of the net interest margin on deposits of 42 basis points, and the impact of the lower income tax rate. The recent quarter’s 14% increase in net income as compared with the first quarter of 2018 was largely due to a $7 million increase in net interest income, mainly due to a 23 basis point widening of the net interest margin on deposits. Net income recorded by the Business Banking segment totaled $81 million in the first six months of 2018, compared with $54 million in the year-earlier period. That 50% year-over-year increase was predominantly driven by an $18 million increase in net interest income, a $7 million decline in the provision for credit losses, due to lower net charge-offs, and the lower income tax rate in 2018. The improvement in net interest income reflected a 34 basis point expansion of the net interest margin on deposits.
The Commercial Banking segment recorded net income of $126 million during the quarter ended June 30, 2018, up from $106 million in the year-earlier quarter and $125 million in the first quarter of 2018. The 20% increase in net income as compared with the second quarter of 2017 reflected the lower income tax rate in 2018 and a $5 million decline in the provision for credit losses, due to lower net charge-offs. Those favorable factors were
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offset, in part, by lower letter of credit and credit-related fees of $8 million, largely due to a decrease in loan syndication fees, and higher centrally-allocated operating expenses of $5 million associated with data processing, risk management and other support services provided to the Commercial Banking segment. The modest increase in the recent quarter’s net income as compared with the immediately preceding quarter was due to a $4 million increase in net interest income, reflecting a widening of the net interest margin on deposits of 28 basis points and one more day in the recent quarter offset, in part, by a $1.2 billion decrease in average outstanding deposit balances. Partially offsetting the higher net interest income were lower letter of credit and credit-related fees. Net income earned by the Commercial Banking segment totaled $252 million for the first half of 2018, up 15% from $218 million earned in the similar 2017 period. The increase was primarily the result of the reduction in the income tax rate, partially offset by a $13 million decline in letter of credit and credit-related fees, predominantly due to lower loan syndication fees, and higher allocated operating costs of $11 million.
The Commercial Real Estate segment recorded net income of $113 million in the second quarter of 2018, compared with $87 million in the year-earlier period and $108 million in the initial 2018 quarter. Contributing to the 29% improvement in the recent quarter’s net income as compared with the year-earlier quarter were the lower income tax rate and higher mortgage banking revenues of $7 million, resulting from increased loan origination activities, and a $3 million decline in the provision for credit losses, predominantly due to lower net charge-offs. The rise in net income as compared with the first quarter of 2018 reflects a $4 million decrease in the provision for credit losses, mainly due to lower net charge-offs, and a $4 million increase in mortgage banking revenues. Partially offsetting those favorable factors was a decline in net interest income of $3 million reflecting a narrowing of the net interest margin on loans of 14 basis points. Net income for the Commercial Real Estate segment totaled $221 million and $172 million during the six-month periods ended June 30, 2018 and 2017, respectively. Contributing to that increase were the following favorable factors: the lower income tax rate in 2018; a rise in net interest income of $9 million, primarily due to a widening of the net interest margin on deposits of 51 basis points; higher mortgage banking revenues of $7 million, due predominantly to increased origination activities; and $6 million declines in each of FDIC assessments and the provision for credit losses. Those favorable factors were offset, in part, by $4 million of higher centrally-allocated expenses associated with data processing, risk management and other support services provided to the Commercial Real Estate segment and a $3 million increase in personnel-related expenses.
The Discretionary Portfolio segment contributed net income of $29 million during the three-month period ended June 30, 2018, little changed from $30 million in the year-earlier period, but up from $20 million in the first quarter of 2018. The slight recent quarter decline as compared with the second quarter of 2017 was largely driven by a $10 million decrease in net interest income, reflecting a $2.7 billion decrease in average loan balances, and a $4 million decrease in the valuation of interest rate floor contracts in the recent quarter. Those unfavorable factors were offset by the impact of the lower income tax rate, a $4 million decrease in centrally-allocated costs associated with data processing, risk management and other support services provided to the Discretionary Portfolio segment and a $3 million decline in the provision for credit losses. The improvement in the recent quarter’s net income as compared with the first quarter of 2018 was primarily due to unrealized gains on equity securities in the recent quarter of $2 million, due predominantly to increased fair values of Fannie Mae and Freddie Mac preferred stock, compared with similar unrealized losses of $9 million in the initial 2018 quarter. Year-to-date net income for this segment totaled $49 million in 2018 and $64 million in 2017. The factors contributing to the year-over-year decline in net income included a $26 million decrease in net interest income, reflecting lower average loan balances of $2.8 billion and a narrowing of the net interest margin on investment securities of 7 basis points, unrealized losses on equity securities of $7 million, an $8 million decline in the valuation of interest rate floor contracts and a $4 million decrease in bank owned life insurance revenues. Those unfavorable factors were partially offset by the impact of the lower income tax rate in 2018, an $8 million decline in centrally-allocated operating expenses and a $5 million decrease in costs associated with other residential real estate owned properties.
Net income from the Residential Mortgage Banking segment was $15 million in each of the two most recent quarters, compared with $14 million in the second quarter of 2017. The modest increase in the recent quarter as compared with the second 2017 quarter was mainly driven by the lower income tax rate and a decline in servicing-related costs of $4 million, partially offset by a $4 million decrease in net interest income. The Residential Mortgage
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Banking segment contributed $30 million in the first six months of 2018, up from $24 million in the corresponding 2017 period. That improvement was driven by lower servicing-related costs (including intersegment costs) of $8 million, higher servicing revenues (including intersegment revenues) of $7 million and the lower income tax rate in 2018. Those favorable factors were offset, in part, by decreases of $8 million in each of revenues associated with mortgage origination and sales activities (including intersegment revenues) and net interest income. The decline in net interest income reflected a narrowing of the net interest margin on loans of 50 basis points.
Net income earned by the Retail Banking segment totaled $143 million in the second quarter of 2018, compared with $100 million in the year-earlier quarter and $123 million in the initial 2018 quarter. A $38 million rise in net interest income, predominantly due to the impact of a widening of the net interest margin on deposits of 52 basis points, and the lower income tax rate in 2018 were partially offset by higher centrally-allocated operating expenses of $7 million associated with data processing, risk management and other support services provided to the Retail Banking segment and increases of $2 million in each of the provision for credit losses and personnel-related expenses. The recent quarter’s 16% improvement in net income as compared with the first quarter of 2018 reflected a $24 million increase in net interest income mainly driven by a 23 basis point widening of the interest margin on deposits offset, in part, by higher advertising and promotional expenses of $2 million. Net income recorded by the Retail Banking segment totaled $266 million in the first half of 2018 and $186 million in 2017. Factors contributing to that 43% year-over-year improvement were an increase in net interest income of $64 million, reflecting a widening of the net interest margin on deposits of 45 basis points that was partially offset by a $3.3 billion decline in average outstanding deposit balances, and the impact of the lower income tax rate in 2018. Those favorable factors were partially offset by higher centrally-allocated costs of $13 million and a $6 million increase in credit card and merchant expenses.
The “All Other” category reflects other activities of the Company that are not directly attributable to the reported segments. Reflected in this category are the amortization of core deposit and other intangible assets resulting from the acquisitions of financial institutions, M&T’s share of the operating results and distributions associated with BLG, merger-related expenses resulting from acquisitions and the net impact of the Company’s allocation methodologies for internal transfers for funding charges and credits associated with the earning assets and interest-bearing liabilities of the Company’s reportable segments and the provision for credit losses. The “All Other” category also includes trust income of the Company that reflects the ICS and WAS business activities. The various components of the “All Other” category resulted in net income totaling $23 million and $16 million for the quarters ended June 30, 2018 and 2017, respectively, compared with a net loss of $77 million in the first quarter of 2018. As compared with the year-earlier quarter, the higher recent quarter net income reflected a rise in trust income of $11 million, lower centrally-allocated costs of $13 million, and the favorable impact from the Company’s allocation methodologies for internal transfers for funding charges and credits associated with earning assets and interest-bearing liabilities of the Company’s reportable segments and the provision for credit losses. Those favorable factors were partially offset by a $16 million increase in professional and other outside services expenses and higher personnel-related expenses of $12 million. The improvement in the recent quarter as compared with the first quarter of 2018 was primarily due to a prior quarter increase of $135 million in the reserve for litigation matters to reflect the status of pre-existing litigation and a $45 million seasonal decrease in personnel-related expenses, partially offset by $23 million of income from BLG in the first quarter of 2018. The “All Other” category had a net loss of $53 million for the six months ended June 30, 2018, compared with net income of $12 million recorded in the corresponding period of 2017. The unfavorable performance in 2018 as compared with 2017 was predominantly driven by: the $135 million addition to the litigation reserve in 2018; higher professional and other outside services costs of $28 million; $19 million of increased personnel-related costs; and $11 million of higher software licensing and maintenance costs and data processing expenses. Partially offsetting those unfavorable factors were: $23 million of income from BLG in 2018; higher trust income of $22 million; lower centrally-allocated costs of $24 million; and the favorable impact from the Company’s allocation methodologies.
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Recent Accounting Developments
A discussion of recent accounting developments is included in note 16 of Notes to Financial Statements.
Forward-Looking Statements
Management’s Discussion and Analysis of Financial Condition and Results of Operations and other sections of this quarterly report contain forward-looking statements that are based on current expectations, estimates and projections about the Company’s business, management’s beliefs and assumptions made by management. Forward-looking statements are typically identified by words such as “believe,” “expect,” “anticipate,” “intend,” “target,” “estimate,” “continue,” “positions,” “prospects” or “potential,” by future conditional verbs such as “will,” “would,” “should,” “could,” or “may,” or by variations of such words or by similar expressions. These statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions (“Future Factors”) which are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in such forward-looking statements. Forward-looking statements speak only as of the date they are made and the Company assumes no duty to update forward-looking statements.
Future Factors include changes in interest rates, spreads on earning assets and interest-bearing liabilities, and interest rate sensitivity; prepayment speeds, loan originations, credit losses and market values of loans, collateral securing loans and other assets; sources of liquidity; common shares outstanding; common stock price volatility; fair value of and number of stock-based compensation awards to be issued in future periods; the impact of changes in market values on trust-related revenues; legislation and/or regulation affecting the financial services industry as a whole, and M&T and its subsidiaries individually or collectively, including tax legislation or regulation; regulatory supervision and oversight, including monetary policy and capital requirements; changes in accounting policies or procedures as may be required by the FASB or regulatory agencies; increasing price and product/service competition by competitors, including new entrants; rapid technological developments and changes; the ability to continue to introduce competitive new products and services on a timely, cost-effective basis; the mix of products/services; containing costs and expenses; governmental and public policy changes; protection and validity of intellectual property rights; reliance on large customers; technological, implementation and cost/financial risks in large, multi-year contracts; the outcome of pending and future litigation and governmental proceedings, including tax-related examinations and other matters; continued availability of financing; financial resources in the amounts, at the times and on the terms required to support M&T and its subsidiaries’ future businesses; and material differences in the actual financial results of merger, acquisition and investment activities compared with M&T’s initial expectations, including the full realization of anticipated cost savings and revenue enhancements.
These are representative of the Future Factors that could affect the outcome of the forward-looking statements. In addition, such statements could be affected by general industry and market conditions and growth rates, general economic and political conditions, either nationally or in the states in which M&T and its subsidiaries do business, including interest rate and currency exchange rate fluctuations, changes and trends in the securities markets, and other Future Factors.
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Table 1
QUARTERLY TRENDS
Earnings and dividends
Amounts in thousands, except per share
Interest income (taxable-equivalent basis)
1,134,302
1,086,959
1,083,146
1,066,038
1,039,149
1,014,032
106,633
102,689
100,076
91,773
1,014,184
980,326
980,457
965,962
946,936
922,259
Less: provision for credit losses
43,000
31,000
30,000
55,000
458,696
484,053
459,429
446,845
Less: other expense
933,344
795,813
806,025
787,852
Income before income taxes
660,021
462,678
637,697
589,366
605,117
526,252
Applicable income taxes
105,259
306,287
224,615
169,326
Taxable-equivalent adjustment
5,397
4,809
9,007
8,828
8,736
7,999
352,610
322,403
355,923
348,927
Net income available to common shareholders-diluted
332,749
302,486
335,804
328,567
Per common share data
Basic earnings
2.24
2.01
2.22
2.13
Diluted earnings
2.23
2.21
2.12
Cash dividends
148,688
150,063
151,347
154,427
148,905
150,348
151,691
154,949
Performance ratios, annualized
Return on
Average assets
1.22
1.18
1.27
1.15
Average common shareholders’ equity
13.32
9.15
8.03
8.89
9.67
Net interest margin on average earning assets (taxable-
equivalent basis)
3.83
3.71
3.56
3.53
3.45
3.34
Nonaccrual loans to total loans and leases, net of
unearned discount
Net operating (tangible) results (a)
Net operating income (in thousands)
497,869
357,498
326,664
385,974
354,035
Diluted net operating income per common share
3.29
2.26
2.04
2.38
2.15
Annualized return on
Average tangible assets
1.79
1.28
1.12
1.25
1.33
1.21
Average tangible common shareholders’ equity
19.91
13.51
11.77
13.03
14.18
13.05
Efficiency ratio (b)
52.42
63.98
54.65
56.00
52.74
56.93
Balance sheet data
In millions, except per share
Average balances
Total assets (c)
116,413
117,684
120,226
119,515
120,765
122,978
Total tangible assets (c)
111,775
113,041
115,584
114,872
116,117
118,326
Earning assets
106,210
107,231
109,412
108,642
109,987
112,008
13,856
14,467
14,808
15,443
15,913
15,999
87,766
87,837
88,386
89,268
89,797
Deposits
90,195
91,119
93,469
93,134
94,201
96,300
Common shareholders’ equity (c)
14,301
14,827
15,039
15,069
15,053
15,091
Tangible common shareholders’ equity (c)
9,663
10,184
10,397
10,426
10,405
10,439
At end of quarter
118,426
118,623
118,593
120,402
120,897
123,223
113,790
113,982
113,947
115,761
116,251
118,573
107,819
107,976
107,786
109,365
109,976
112,287
13,283
14,067
14,665
15,074
15,816
15,968
87,797
87,711
87,989
87,925
89,081
89,313
89,273
90,947
92,432
93,513
93,541
97,043
Common shareholders’ equity, net of undeclared
cumulative preferred dividends (c)
14,343
14,475
15,016
15,083
15,049
14,978
9,707
9,834
10,370
10,442
10,403
10,328
Equity per common share
99.43
98.60
100.03
99.70
98.66
97.40
Tangible equity per common share
67.29
66.99
69.08
69.02
68.20
67.16
Market price per common share
High
188.80
197.37
176.62
166.85
164.03
173.72
Low
167.32
170.00
155.77
141.12
147.55
149.51
Closing
170.15
184.36
170.99
161.04
161.95
154.73
Excludes amortization and balances related to goodwill and core deposit and other intangible assets and merger-related expenses which, except in the calculation of the efficiency ratio, are net of applicable income tax effects. A reconciliation of net income and net operating income appears in Table 2.
Excludes impact of merger-related expenses and net securities transactions.
The difference between total assets and total tangible assets, and common shareholders’ equity and tangible common shareholders’ equity, represents goodwill, core deposit and other intangible assets, net of applicable deferred tax balances. A reconciliation of such balances appears in Table 2.
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Table 2
RECONCILIATION OF QUARTERLY GAAP TO NON-GAAP MEASURES
Income statement data (in thousands, except per share)
Amortization of core deposit and other intangible assets (a)
4,709
4,888
4,261
4,735
4,921
5,108
Net operating income
Earnings per common share
Diluted net operating earnings per common share
(6,388
(6,632
(7,025
(7,808
(8,113
(8,420
Noninterest operating expense
770,189
926,712
788,788
798,217
742,522
779,432
Efficiency ratio
Noninterest operating expense (numerator)
Taxable-equivalent net interest income
Less: Gain (loss) on bank investment securities
(9,431
21,296
Denominator
1,469,272
1,448,453
1,443,214
1,425,391
1,407,769
1,369,104
Balance sheet data (in millions)
(4,593
(68
(75
(82
(90
(98
Deferred taxes
18
32
39
Average common equity
Average total equity
15,533
16,059
16,271
16,301
16,285
16,323
Preferred stock
(1,232
Average tangible common equity
(65
(72
(79
(86
(95
16
33
38
Total tangible assets
Total common equity
Total equity
15,578
15,710
16,251
16,318
16,284
16,213
Undeclared dividends - cumulative preferred stock
Common equity, net of undeclared cumulative preferred dividends
Total tangible common equity
After any related tax effect.
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Table 3
AVERAGE BALANCE SHEETS AND ANNUALIZED TAXABLE-EQUIVALENT RATES
2018 Second Quarter
2018 First Quarter
2017 Fourth Quarter
Interest
Rate
Average balance in millions; interest in thousands
Loans and leases, net of unearned
discount*
243,081
21,547
227,296
4.28
21,562
220,470
4.06
421,705
4.95
33,652
397,713
33,138
390,752
4.61
193,547
4.15
19,274
195,701
19,974
201,151
4.03
171,441
5.14
13,293
163,991
5.00
13,163
162,765
4.91
Total loans and leases, net
1,029,774
984,701
4.55
975,138
4.40
4,890
4,941
18,677
1.53
6,680
21,981
1.31
1.85
1.78
2.92
404
3.00
Investment securities**
13,066
76,704
13,689
78,017
14,012
Obligations of states and political
subdivisions
217
4.45
271
4.67
770
5,318
2.77
754
4,872
2.62
766
6,369
3.30
82,239
83,160
85,742
2.30
Total earning assets
4.11
3.93
(1,018
(1,020
(1,019
1,277
1,336
1,340
Other assets
9,944
10,137
10,493
Liabilities and shareholders’ equity
Interest-bearing liabilities
Interest-bearing deposits
Savings and interest-checking
deposits
52,547
.37
52,504
.31
53,436
39,286
.29
5,997
.76
6,320
.70
6,888
12,212
248
.62
215
330
.61
Total interest-bearing deposits
58,769
60,642
59,072
51,844
60,539
51,828
.34
353
1.57
280
883
178
363
.81
8,480
2.75
8,606
53,906
2.54
8,464
50,498
2.37
Total interest-bearing liabilities
67,602
.71
67,958
.64
69,181
.59
32,047
32,930
Other liabilities
1,620
1,844
100,880
101,625
103,955
Shareholders’ equity
Total liabilities and
shareholders’ equity
Net interest spread
3.57
3.47
Contribution of interest-free funds
.22
Net interest income/margin on
earning assets
*
Includes nonaccrual loans.
**
Includes available-for-sale securities at amortized cost.
(continued)
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Table 3 (continued)
AVERAGE BALANCE SHEETS AND ANNUALIZED TAXABLE-EQUIVALENT RATES (continued)
2017 Third Quarter
2017 Second Quarter
21,734
217,953
3.98
22,350
213,840
3.84
33,257
382,352
4.50
33,214
361,313
4.30
20,609
204,008
21,318
210,152
3.94
12,786
157,721
4.89
12,386
147,597
4.78
962,034
4.32
932,902
4.19
4,740
14,970
4,741
1.58
1.44
73
351
1.92
64
240
14,632
81,707
15,060
87,171
2.32
37
442
4.69
46
553
4.86
774
6,533
3.35
807
6,067
3.02
88,682
2.28
93,791
3.89
3.79
(1,014
(1,011
1,297
1,257
10,590
10,532
53,287
37,714
53,611
.23
7,673
13,992
.72
8,559
169
310
.73
163
.69
61,129
52,016
62,333
47,127
244
554
.90
212
8,033
47,506
8,292
69,406
.57
70,837
.52
32,005
31,868
1,803
1,775
103,214
104,480
3.32
3.27
Net interest income/margin on earning assets
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Incorporated by reference to the discussion contained under the caption “Taxable-equivalent Net Interest Income” in Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
(a) Evaluation of disclosure controls and procedures. Based upon their evaluation of the effectiveness of M&T’s disclosure controls and procedures (as defined in Exchange Act rules 13a-15(e) and 15d-15(e)), René F. Jones, Chairman of the Board and Chief Executive Officer, and Darren J. King, Executive Vice President and Chief Financial Officer, concluded that M&T’s disclosure controls and procedures were effective as of June 30, 2018.
(b) Changes in internal control over financial reporting. M&T regularly assesses the adequacy of its internal control over financial reporting and enhances its controls in response to internal control assessments and internal and external audit and regulatory recommendations. No changes in internal control over financial reporting have been identified in connection with the evaluation of disclosure controls and procedures during the quarter ended June 30, 2018 that have materially affected, or are reasonably likely to materially affect, M&T’s internal control over financial reporting.
PART II. OTHER INFORMATION
M&T and its subsidiaries are subject in the normal course of business to various pending and threatened legal proceedings and other matters in which claims for monetary damages are asserted. On an on-going basis management, after consultation with legal counsel, assesses the Company’s liabilities and contingencies in connection with such proceedings. For those matters where it is probable that the Company will incur losses and the amounts of the losses can be reasonably estimated, the Company records an expense and corresponding liability in its consolidated financial statements. To the extent the pending or threatened litigation could result in exposure in excess of that liability, the amount of such excess is not currently estimable. Although not considered probable, the range of reasonably possible losses for such matters in the aggregate, beyond the existing recorded liability, was between $0 and $50 million. Although the Company does not believe that the outcome of pending litigations will be material to the Company’s consolidated financial position, it cannot rule out the possibility that such outcomes will be material to the consolidated results of operations for a particular reporting period in the future.
Wilmington Trust Corporation Investigative and Litigation Matters
M&T’s Wilmington Trust Corporation subsidiary is the subject of certain litigation arising from actions undertaken by Wilmington Trust Corporation prior to M&T’s acquisition of Wilmington Trust Corporation and its subsidiaries, as set forth below.
In Re Wilmington Trust Securities Litigation (U.S. District Court, District of Delaware, Case No. 10-CV-0990-SLR): Beginning on November 18, 2010, a series of parties, purporting to be class representatives, commenced a putative class action lawsuit against Wilmington Trust Corporation, alleging that Wilmington Trust Corporation’s financial reporting and securities filings were in violation of securities laws. The cases were consolidated. Wilmington Trust Corporation moved to dismiss. The Court issued an order denying Wilmington Trust Corporation’s motion to dismiss on March 20, 2014. Plaintiffs’ motion for class certification was granted on September 3, 2015. Fact discovery was stayed by Court order during extended periods of this litigation. On December 19, 2016, the Court issued an order lifting the existing stay in its entirety. Fact discovery was completed on or about August 15, 2017. On December 12, 2017, the Court issued an order extending certain pre-trial deadlines, pushing all dates off until after the completion of the criminal trial involving certain individual witnesses. Expert
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discovery was ordered to be completed by July 31, 2018 and summary judgment motions briefed by October 31, 2018.
In April 2018, the parties reached an agreement in principle and a settlement agreement was executed and filed with the court for approval during the second quarter of 2018. The proposed settlement was preliminarily approved by the court in July 2018. The final settlement hearing is scheduled to occur in the fourth quarter of 2018. The settlement amount of $200 million is within the Company’s reserve for litigation matters as of June 30, 2018.
Due to their complex nature, it is difficult to estimate when litigation or investigatory matters may be resolved. As set forth in the introductory paragraph to this Item 1 — Legal Proceedings, losses from current litigation and regulatory matters which the Company is subject to that are not currently considered probable are within a range of reasonably possible losses for such matters in the aggregate, beyond the existing recorded liability, and are included in the range of reasonably possible losses set forth above.
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There have been no material changes in risk factors relating to M&T to those disclosed in response to Item 1A. to Part I of Form 10-K for the year ended December 31, 2017.
(a) – (b) Not applicable.
Issuer Purchases of Equity Securities
Period
(a)Total
of Shares
(or Units)
Purchased (1)
(b)Average
Price Paid
per Share
(or Unit)
(c)Total
Number of
as Part of
Publicly
Announced
Plans or
Programs
(d)Maximum
Number (or
Approximate
Dollar Value)
that may yet
be Purchased
Under the
Programs (2)
April 1 - April 30, 2018
1,595,144
182.48
1,595,000
184,041,000
May 1 - May 31, 2018
1,013,768
181.61
1,013,376
June 1 - June 30, 2018
2,608,912
182.14
2,608,376
(1)
The total number of shares purchased during the periods indicated includes shares purchased as part of publicly announced programs and shares deemed to have been received from employees who exercised stock options by attesting to previously acquired common shares in satisfaction of the exercise price or shares received from employees upon the vesting of restricted stock awards in satisfaction of applicable tax withholding obligations, as is permitted under M&T’s stock-based compensation plans.
(2)
On July 17, 2018, M&T announced a program to purchase up to $1.8 billion of its common stock through June 30, 2019.
On June 28, 2018, M&T announced that it had received a non-objection from the Federal Reserve to M&T’s 2018 revised Capital Plan and its proposed capital actions for the four-quarter periods starting on July 1, 2018, which includes the repurchase of up to $1.8 billion of common shares. On July 17, 2018, M&T’s Board of Dirctors authorized a new stock repurchase program to repurchase up to $1.8 billion of shares of its common stock following all applicable regulatory limitations including those set forth in M&T’s 2018 Capital Plan.
(Not applicable.)
(None.)
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The following exhibits are filed as a part of this report.
Exhibit
No.
31.1
Certification of Chief Executive Officer under Section 302 of the Sarbanes-Oxley Act of 2002. Filed herewith.
31.2
Certification of Chief Financial Officer under Section 302 of the Sarbanes-Oxley Act of 2002. Filed herewith.
32.1
Certification of Chief Executive Officer under 18 U.S.C. §1350 pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. Filed herewith.
32.2
Certification of Chief Financial Officer under 18 U.S.C. §1350 pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. Filed herewith.
101.INS
XBRL Instance Document. Filed herewith.
101.SCH
XBRL Taxonomy Extension Schema. Filed herewith.
101.CAL
XBRL Taxonomy Extension Calculation Linkbase. Filed herewith.
101.LAB
XBRL Taxonomy Extension Label Linkbase. Filed herewith.
101.PRE
XBRL Taxonomy Extension Presentation Linkbase. Filed herewith.
101.DEF
XBRL Taxonomy Definition Linkbase. Filed herewith.
Pursuant to the requirements 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: August 2, 2018
By:
/s/ Darren J. King
Darren J. King
Executive Vice President
and Chief Financial Officer
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