UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1996 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM (NOT APPLICABLE) COMMISSION FILE NUMBER 1-6880 FIRST BANK SYSTEM, INC. (Exact name of registrant as specified in its charter) DELAWARE (State or other jurisdiction of incorporation or organization) 41-0255900 (I.R.S. Employer Identification No.) FIRST BANK PLACE, 601 SECOND AVENUE SOUTH, MINNEAPOLIS, MINNESOTA 55402-4302 (Address of principal executive offices and Zip Code) 612-973-1111 (Registrant's telephone number, including area code) (NOT APPLICABLE) (Former name, former address and former fiscal year, if changed since last report). 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 twelve months and (2) has been subject to such filing requirements for the past 90 days. YES _X_ NO ___ Indicate the number of shares outstanding of each of the Registrant's classes of common stock, as of the latest practicable date. Class Outstanding as of October 31, 1996 Common Stock, $1.25 Par Value 134,518,031 shares FINANCIAL SUMMARY <TABLE> <CAPTION> THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 (DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS) 1996 1995 1996 1995 <S> <C> <C> <C> <C> Income before nonrecurring items $ 169.1 $ 145.7 $ 496.3 $ 417.4 Nonrecurring items (31.6) -- 72.1 -- Net income $ 137.5 $ 145.7 $ 568.4 $ 417.4 PER COMMON SHARE Primary income before nonrecurring items $ 1.22 $ 1.08 $ 3.56 $ 3.05 Nonrecurring items (.23) -- .52 -- Primary net income $ .99 $ 1.08 $ 4.08 $ 3.05 Fully diluted income before nonrecurring items $ 1.20 $ 1.06 $ 3.50 $ 2.99 Nonrecurring items (.22) -- .51 -- Fully diluted net income $ .98 $ 1.06 $ 4.01 $ 2.99 Earnings on a cash basis before nonrecurring items* $ 1.34 $ 1.16 $ 3.91 $ 3.30 Nonrecurring items (.23) -- .71 -- Earnings on a cash basis (fully diluted)* $ 1.11 $ 1.16 $ 4.62 $ 3.30 Dividends paid .4125 .3625 1.2375 1.0875 Common shareholders' equity 22.84 20.33 RETURN ON AVERAGE ASSETS Income before nonrecurring items 1.90% 1.76% 1.87% 1.70% Nonrecurring items (.35) -- .27 -- Return on average assets 1.55% 1.76% 2.14% 1.70% RETURN ON AVERAGE COMMON EQUITY Income before nonrecurring items 21.4% 21.2% 21.2% 20.9% Nonrecurring items (4.0) -- 3.2 -- Return on average common equity 17.4% 21.2% 24.4% 20.9% Net interest margin (taxable-equivalent basis) 4.91% 4.85% 4.89% 4.94% Efficiency ratio before nonrecurring items 49.8 51.3 50.2 54.0 Efficiency ratio 58.1 53.9 51.4 54.8 </TABLE> <TABLE> <CAPTION> SEPTEMBER 30 DECEMBER 31 1996 1995 <S> <C> <C> PERIOD END Loans $27,037 $26,400 Allowance for credit losses 521 474 Assets 36,843 33,874 Total shareholders' equity 3,181 2,725 Tangible common equity to total assets 6.7% 6.5% Tier 1 capital ratio 6.7 6.5 Total risk-based capital ratio 11.4 11.0 Leverage ratio 6.4 6.1 </TABLE> * Calculated by adding amortization of goodwill and other intangible assets to net income. Refer to Earnings Summary on page 2 for a description of nonrecurring items. TABLE OF CONTENTS AND FORM 10-Q CROSS-REFERENCE INDEX <TABLE> <CAPTION> <S> <C> PART I -- FINANCIAL INFORMATION Management's Discussion and Analysis of Financial Condition and Results of Operations (Item 2) 2 Financial Statements (Item 1) 14 PART II -- OTHER INFORMATION Exhibits and Reports on Form 8-K (Item 6) 27 Signature 27 Exhibit 3 -- Bylaws of First Bank System, Inc., as amended ** Exhibit 10A -- First Bank System, Inc. 1996 Stock Incentive Plan, as amended ** Exhibit 10B -- First Bank System, Inc. Restated Employee Stock Purchase Plan, as amended ** Exhibit 11 -- Computation of Primary and Fully Diluted Net Income Per Common Share 28 Exhibit 12 -- Computation of Ratio of Earnings to Fixed Charges 29 Exhibit 27 -- Article 9 Financial Data Schedule ** </TABLE> **Copies of this exhibit will be furnished upon request and payment of the Company's reasonable expenses in furnishing the exhibit. MANAGEMENT'S DISCUSSION AND ANALYSIS EARNINGS SUMMARY First Bank System, Inc. (the "Company") reported third quarter 1996 operating earnings (net income excluding nonrecurring items) of $169.1 million, an increase of $23.4 million, or 16 percent, from the third quarter of 1995. On a per share basis, operating earnings were $1.22 in the third quarter of 1996, compared with $1.08 in the third quarter of 1995. Return on average assets and return on average common equity, excluding nonrecurring items, were 1.90 percent and 21.4 percent, compared with returns of 1.76 percent and 21.2 percent in the third quarter of 1995. Excluding nonrecurring items, the efficiency ratio (the ratio of expenses to revenues) improved to 49.8 percent from 51.3 percent in the third quarter of 1995. Net income of $137.5 million in the third quarter of 1996 included a $51 million ($31.6 million, or $.23 per share on an after-tax basis) one-time special assessment by the Federal Deposit Insurance Corporation ("FDIC") on deposits insured by the Savings Association Insurance Fund ("SAIF"). On a per share basis, net income was $.99 compared with $1.08 in the third quarter of 1995. Return on average assets and return on average common equity were 1.55 percent and 17.4 percent, compared with returns of 1.76 percent and 21.2 percent in the third quarter of 1995. Third quarter operating results reflected growth in net interest and noninterest income, controlled operating expenses, and effective capital management. Net interest income on a taxable-equivalent basis was $391.3 million, an increase of $30.8 million (9 percent) from the third quarter of 1995. Noninterest income increased $34.8 million (19 percent) from the third quarter of 1995, excluding nonrecurring items, primarily as a result of growth in credit card and trust fees. Excluding nonrecurring items, third quarter 1996 noninterest expense increased $24.4 million (9 percent) compared with the same period in 1995 primarily because of acquisitions. Compared with noninterest expense for third quarter 1995, adjusted to include acquisitions and exclude divestitures, noninterest expense declined $11.6 million, or 4 percent, in the third quarter of 1996. Net income for the first nine months of 1996 was $568.4 million, or $4.08 per share, compared with $417.4 million, or $3.05 per share, in 1995. Year-to-date return on average assets and return on average common equity were 2.14 percent and 24.4 percent compared with returns of 1.70 percent and 20.9 percent year-to-date 1995. Nonrecurring items totaled $72.1 million ($138.0 million on a pre-tax basis), or $.52 per share for the first nine months of 1996. Nonrecurring gains were: $190 million, net of expenses, received for the termination of the First Interstate Bancorp ("First Interstate") merger agreement; a $65 million refund of state income taxes, including interest; $45.8 million in gain on the sale of the Company's mortgage banking operations; and, $15 million in net securities gains. In addition to the $51 million SAIF special assessment, nonrecurring charges included: $31.3 million in merger and integration charges associated with the acquisitions of FirsTier Financial, Inc. ("FirsTier") and the corporate trust business of BankAmerica Corporation ("BankAmerica"); $38.6 million in branch distribution resizing expenses; a $29.5 million valuation adjustment of cardholder and core deposit intangibles; $10.1 million for a one-time employee bonus; and, $17.3 million to acquire software and write off other miscellaneous assets. TABLE 1. Summary of Consolidated Income <TABLE> <CAPTION> THREE MONTHS ENDED NINE MONTHS ENDED (TAXABLE-EQUIVALENT BASIS; SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA) 1996 1995 1996 1995 <S> <C> <C> <C> <C> Interest income $ 672.0 $ 640.9 $ 2,001.5 $ 1,913.4 Interest expense 280.7 280.4 839.1 823.1 Net interest income 391.3 360.5 1,162.4 1,090.3 Provision for credit losses 35.0 31.0 101.0 84.0 Net interest income after provision for credit losses 356.3 329.5 1,061.4 1,006.3 Nonrecurring gains -- 31.0 315.8 31.0 Other noninterest income 220.3 185.5 647.9 554.8 Nonrecurring charges 51.0 31.0 177.8 31.0 Other noninterest expense 304.5 280.1 908.3 887.6 Income before income taxes 221.1 234.9 939.0 673.5 Taxable-equivalent adjustment 5.4 3.4 15.6 10.4 Income taxes 78.2 85.8 355.0 245.7 Net income $ 137.5 $ 145.7 $ 568.4 $ 417.4 Return on average assets 1.55% 1.76% 2.14% 1.70% Return on average common equity 17.4 21.2 24.4 20.9 Net interest margin 4.91 4.85 4.89 4.94 Efficiency ratio 58.1 53.9 51.4 54.8 Efficiency ratio before nonrecurring items 49.8 51.3 50.2 54.0 Per Common Share: Net income $ .99 $ 1.08 $ 4.08 $ 3.05 Dividends paid .4125 .3625 1.2375 1.0875 </TABLE> Excluding nonrecurring items, operating earnings for the first nine months of 1996 were $496.3 million, an increase of $78.9 million (19 percent) compared with 1995. On a per share basis, operating earnings were $3.56 in the first nine months compared with $3.05 in 1995, a 17 percent increase. On the same basis, year-to-date return on average assets was 1.87 percent, up from 1.70 percent in 1995; return on average common equity was 21.2 percent, up from 20.9 percent in 1995; and the efficiency ratio was 50.2 percent, down from 54.0 percent in 1995. Credit quality remained strong in the third quarter of 1996. Nonperforming assets totaled $145.7 million at September 30, 1996, down $8.0 million (5 percent) and $21.2 million (13 percent) from December 31, 1995 and September 30, 1995. The ratio of the allowance for credit losses to nonperforming loans at quarter-end was 431 percent compared with 401 percent at the end of 1995 and 400 percent at September 30, 1995. See "Analysis of Nonperforming Assets" for additional information. Operating results reflect acquisition and divestiture activity. On February 16, 1996, the Company completed its acquisition of Omaha-based FirsTier, which had $3.7 billion in assets, $2.9 billion in deposits, and 63 offices in Nebraska and Iowa. In the first quarter of 1996, the Company sold its servicing and mortgage loan production business, and during the fourth quarter of 1995 and the first quarter of 1996, the Company completed its acquisition of the corporate trust business of BankAmerica. On September 26, 1996, the Company announced that it will acquire the bond indenture services and paying agency business of Comerica Incorporated. This business serves approximately 860 municipal and corporate clients with about 2,400 bond issues. The transaction is expected to close in the first quarter of 1997. LINE OF BUSINESS FINANCIAL REVIEW Financial performance is measured by major lines of business, which include: Retail Banking, Payment Systems, Business Banking and Private Financial Services, Commercial Banking, and Corporate Trust and Institutional Financial Services. Business line results are derived from the Company's business unit profitability reporting system. Designations, assignments, and allocations may change from time to time as management accounting systems are enhanced or product lines change. During 1996 certain organization and methodology changes were made and 1995 results are presented on a consistent basis. RETAIL BANKING -- Retail Banking delivers products and services to the broad consumer market and small-business through branch offices, telemarketing, direct mail, and automated teller machines ("ATMs"). Net income was $49.4 million and $149.8 million in the third quarter and first nine months of 1996 compared with $49.0 million and $135.7 million in the same periods in 1995. Third quarter and year-to-date 1996 return on average assets increased to 1.50 percent and 1.51 percent from 1.39 percent and 1.29 percent in the same periods in 1995. Third quarter and year-to-date return on equity was 20.0 percent and 20.4 percent compared with 20.3 percent and 19.7 percent in the same periods in 1995. The increase in net interest income resulted from growth in core commercial and nonmortgage consumer loans and the February 1996 acquisition of FirsTier. The provision for credit losses increased to $17.1 million in the first nine months of 1996, compared with $11.9 million in 1995. Growth in average loans, excluding residential mortgage loan balances, and higher consumer loan charge-offs contributed to the increase. Noninterest income and expense were higher in 1996 compared with 1995, reflecting the impact of acquisitions. PAYMENT SYSTEMS -- Payment Systems includes consumer and business credit cards, corporate and purchasing card services, card-accessed secured and unsecured lines of credit, ATM processing, and merchant processing. Net earnings increased 22 percent in the third quarter and 28 percent in the first nine months of 1996 compared with the same periods in 1995. Third quarter return on assets was 2.54 percent, essentially unchanged from third quarter 1995, and return on equity was 27.5 percent compared with 27.9 percent in 1995. Year-to-date return on assets and return on equity were 2.40 percent and 25.9 percent compared with returns of 2.25 percent and 24.5 percent in 1995. Fee-based noninterest income increased approximately 25 percent in the third quarter and the first nine months of 1996 compared with the same periods in 1995. The increases were due to growth in the sales volume of the Corporate Card, the Purchasing Card, the First Bank WorldPerks(r) VISA(r) card, and the expansion of the ATM network. Net interest income decreased slightly due to a change in the loan mix. Average commercial loans, which are primarily noninterest-earning Corporate and Purchasing Card balances, comprised approximately 30 percent of the portfolio during the third quarter and first nine months of 1996, compared with approximately 25 percent in the same periods of 1995. Noninterest expense was relatively flat, despite an increase in sales volume, reflecting ongoing expense control and the recognition of initial investment expenses in 1995 associated with the expansion of the ATM network. The efficiency ratio improved to 42.4 percent in the third quarter and 44.1 percent in the first nine months of 1996 from 46.7 percent and 49.0 percent in the same periods of 1995. TABLE 2. Line of Business Financial Performance <TABLE> <CAPTION> CORPORATE TRUST BUSINESS BANKING AND AND INSTITUTIONAL RETAIL PRIVATE FINANCIAL COMMERCIAL FINANCIAL BANKING PAYMENT SYSTEMS SERVICES BANKING SERVICES THREE MONTHS ENDED SEPTEMBER 30, (DOLLARS IN MILLIONS) 1996 1995 1996 1995 1996 1995 1996 1995 1996 1995 <S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> CONDENSED INCOME STATEMENT: Net interest income (taxable-equivalent basis) $191.2 $177.2 $35.5 $37.2 $100.9 $82.1 $52.8 $53.3 $10.3 $6.0 Provision for credit losses 5.7 8.2 23.3 17.6 3.4 2.8 2.5 2.4 -- -- Noninterest income 40.1 36.8 89.6 70.9 28.4 23.1 13.6 13.3 48.6 33.7 Noninterest expense 146.1 126.5 53.0 50.5 51.0 43.0 18.5 21.3 35.1 24.7 Income taxes and taxable-equivalent adjustment 30.1 30.3 18.5 15.2 28.4 22.6 17.2 16.3 9.0 5.7 Income before nonrecurring items $49.4 $49.0 $30.3 $24.8 $46.5 $36.8 $28.2 $26.6 $14.8 $9.3 AVERAGE BALANCE SHEET DATA: Commercial loans $462 $382 $1,208 $848 $6,794 $5,521 $5,303 $4,896 $-- $-- Consumer loans 9,698 10,682 2,708 2,347 596 498 -- -- -- -- Assets 13,063 13,943 4,737 3,886 9,719 7,781 6,642 5,936 1,177 672 Deposits 16,998 16,371 37 41 3,679 3,037 1,590 1,588 1,045 737 Common equity 982 959 439 353 933 724 465 416 290 170 Return on average assets 1.50% 1.39% 2.54% 2.53% 1.90% 1.88% 1.69% 1.78% * * Return on average common equity ("ROCE") 20.0 20.3 27.5 27.9 19.8 20.2 24.1 25.4 20.3% 21.7% ROCE on a cash basis** 22.6 22.2 29.3 30.9 21.1 20.9 24.4 25.6 26.9 26.7% Efficiency ratio 63.2 59.1 42.4 46.7 39.4 40.9 27.9 32.0 59.6 62.2 Efficiency ratio on a cash basis** 60.3 57.0 40.7 44.3 37.1 39.7 27.4 31.5 51.6 56.9 NINE MONTHS ENDED SEPTEMBER 30, 1996 1995 1996 1995 1996 1995 1996 1995 1996 1995 CONDENSED INCOME STATEMENT: Net interest income (taxable-equivalent basis) $568.6 $531.7 $111.9 $117.4 $293.4 $247.2 $156.0 $164.9 $26.9 $19.5 Provision for credit losses 17.1 11.9 66.1 56.8 10.0 8.1 7.7 7.2 -- -- Noninterest income 120.0 105.9 240.9 194.9 87.2 71.2 46.2 46.0 148.9 99.5 Noninterest expense 429.7 406.5 155.5 152.9 148.0 134.2 58.9 68.5 107.2 78.9 Income taxes and taxable-equivalent adjustment 92.0 83.5 49.9 38.9 84.7 67.0 51.6 51.4 26.1 15.3 Income before nonrecurring items $149.8 $135.7 $81.3 $63.7 $137.9 $109.1 $84.0 $83.8 $42.5 $24.8 AVERAGE BALANCE SHEET DATA: Commercial loans $437 $347 $1,084 $759 $6,673 $5,408 $5,370 $4,909 $-- $-- Consumer loans 9,822 10,688 2,602 2,311 586 495 -- -- -- -- Assets 13,231 14,058 4,516 3,786 9,601 7,772 6,723 6,031 1,157 700 Deposits 17,138 17,053 42 37 3,593 3,154 1,560 1,651 951 775 Common equity 981 920 420 347 911 703 471 422 288 172 Return on average assets 1.51% 1.29% 2.40% 2.25% 1.92% 1.88% 1.67% 1.86% * * Return on average common equity ("ROCE") 20.4 19.7 25.9 24.5 20.2 20.7 23.8 26.5 19.7% 19.3% ROCE on a cash basis** 23.0 21.7 28.3 27.5 21.4 21.4 24.1 26.7 26.4 24.2 Efficiency ratio 62.4 63.8 44.1 49.0 38.9 42.1 29.1 32.5 61.0 66.3 Efficiency ratio on a cash basis** 59.6 61.6 42.0 46.5 36.8 41.0 28.7 32.1 53.0 61.0 </TABLE> * Not meaningful ** Calculated by excluding amortization of goodwill and other intangible assets. Note: Preferred dividends and nonrecurring items are not allocated to the business lines. The Company's mortgage banking operations, which were sold in first quarter 1996, are not reflected in the table. BUSINESS BANKING AND PRIVATE FINANCIAL SERVICES -- Business Banking and Private Financial Services includes middle-market banking services, private banking, and personal trust. Third quarter and year-to-date 1996 net income increased 25 percent compared with the same periods in 1995. Third quarter return on assets was 1.90 percent compared with 1.88 percent in 1995, and return on equity was 19.8 percent compared with 20.2 percent in 1995. Year-to-date performance ratios showed similar trends. Net interest income in the third quarter and year-to-date increased consistent with a 23 percent growth in average loan balances as well as acquisitions. The 23 percent increase in noninterest income in the third quarter and first nine months of 1996 compared with 1995 resulted from acquisitions and a more effective approach to charging for private financial services. Noninterest expense increased in 1996 compared with 1995 reflecting the impact of acquisitions. The efficiency ratio improved to 39.4 percent in the third quarter and 38.9 percent in the first nine months of 1996 from 40.9 percent and 42.1 percent in the same periods in 1995. COMMERCIAL BANKING -- Commercial Banking provides lending, treasury management, and other financial services to middle-market, large corporate and mortgage banking companies. Net earnings increased 6 percent in the third quarter and remained relatively flat in the first nine months of 1996. Third quarter return on assets was 1.69 percent compared with 1.78 percent in 1995, and return on equity was 24.1 percent compared with 25.4 percent in 1995. Year-to-date return on assets was 1.67 percent compared with 1.86 percent in 1995, and return on equity was 23.8 percent compared with 26.5 percent in 1995. Although third quarter and year-to-date average loans increased $407 million, or 8 percent, and $461 million, or 9 percent, from the same periods in 1995, net interest income decreased reflecting lower interest recoveries and narrowing spreads in this highly competitive sector. Noninterest income remained relatively flat in the third quarter and first nine months of 1996 compared with the same periods in 1995. The decrease in noninterest expense for both the third quarter and first nine months of 1996, compared to the same periods in 1995, reflected the benefits of increased operational efficiencies. The efficiency ratio improved to 27.9 percent in the third quarter and 29.1 percent in the first nine months of 1996 compared to 32.0 percent and 32.5 percent in the same periods in 1995. CORPORATE TRUST AND INSTITUTIONAL FINANCIAL SERVICES -- Corporate Trust and Institutional Financial Services includes institutional and corporate trust services, investment management services, and a full-service brokerage company. Earnings increased 59 percent in the third quarter and 71 percent in the first nine months of 1996 compared with the same periods in the prior year. The return on average equity was 20.3 percent in the third quarter and 19.7 percent in the first nine months of 1996, compared with 21.7 percent and 19.3 percent in the same periods in 1995. Net earnings increased over 1995 primarily due to the Company's strategy to grow its fee-based businesses. The efficiency ratio improved to 59.6 percent in the third quarter and 61.0 percent in the first nine months of 1996 from 62.2 percent in the third quarter and 66.3 percent in the first nine months of 1995, reflecting the effective integration of acquisitions, process re-engineering efforts, and revenue growth. INCOME STATEMENT ANALYSIS NET INTEREST INCOME -- Net interest income on a taxable-equivalent basis was $391.3 million in the third quarter of 1996, an increase of $30.8 million (9 percent) from the third quarter of 1995, and $1.2 billion in the first nine months of 1996, an increase of $72 million (7 percent) from the same period in 1995. The increases were attributable primarily to growth in average loans in the third quarter and first nine months of 1996, compared with the same periods in 1995. In the first quarter of 1996, $1.3 billion of residential mortgage loans were securitized and reclassified to available-for-sale securities to enhance liquidity and financial management flexibility. Excluding residential mortgage loan balances, average loans for both the third quarter and first nine months of 1996 were higher by approximately $3.1 billion than the same periods in 1995, reflecting growth in core commercial and consumer loans, as well as the February 1996 acquisition of FirsTier. Average securities for the third quarter and first nine months of 1996 were higher than the respective 1995 periods, reflecting the transfer of securitized mortgage loan balances in the first quarter of 1996 and the addition of securities acquired with FirsTier, offset by maturities and sales. Partially offsetting the impact of higher average loan balances in the third quarter and first nine months of 1996, compared with the same periods of 1995, was the effect of a lower average yield on loans. The average yield on loans for both the third quarter and first nine months of 1996 was 8.76 percent compared with 8.95 percent and 9.03 percent in 1995. The decrease was due to declining market interest rates over the past year. The net interest margin in the third quarter and first nine months of 1996 was essentially unchanged at 4.91 percent and 4.89 percent compared with 4.85 percent and 4.94 percent in 1995. TABLE 3. Analysis of Net Interest Income <TABLE> <CAPTION> THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 (DOLLARS IN MILLIONS) 1996 1995 1996 1995 <S> <C> <C> <C> <C> <C> Net interest income (taxable-equivalent basis) $391.3 $360.5 $1,162.4 $1,090.3 Average balances of earning assets supported by: Interest-bearing liabilities $24,519 $23,336 $24,717 $23,522 Noninterest-bearing liabilities 7,179 6,144 7,008 5,979 Total earning assets $31,698 $29,480 $31,725 $29,501 Average yields and weighted average rates (taxable-equivalent basis): Earning assets yield 8.43% 8.63% 8.43% 8.67% Rate paid on interest-bearing liabilities 4.55 4.77 4.53 4.68 Gross interest margin 3.88% 3.86% 3.90% 3.99% Net interest margin 4.91% 4.85% 4.89% 4.94% Net interest margin without taxable-equivalent increments 4.84% 4.81% 4.83% 4.89% </TABLE> PROVISION FOR CREDIT LOSSES -- The provision for credit losses was $35.0 million in the third quarter of 1996, up $4.0 million compared with $31 million in 1995. The provision for the first nine months of 1996 increased $17.0 million to $101 million from the first nine months of 1995. These increases resulted from increased loan volumes, higher credit card net charge-offs, and lower commercial loan recoveries. Refer to "Corporate Risk Management" for further information on the credit quality. NONINTEREST INCOME -- Third quarter noninterest income was $220.3 million, compared with $216.5 million in the third quarter of 1995, and $963.7 million year-to-date 1996 compared with $585.8 million in 1995. Nonrecurring gains included in noninterest income in the first nine months of 1996 totaled $315.8 million, including a $190 million termination fee received from the First Interstate transaction, net of $10 million in costs; a $65 million state tax refund, including interest; a $45.8 million gain on the sale of the Company's mortgage banking operations; and, $15 million in net securities gains. Noninterest income in 1995 included a $31 million nonrecurring gain on the sale of 63 branches. Excluding nonrecurring items, noninterest income was $220.3 million, a 19 percent increase from the third quarter of 1995 and $647.9 million for the first nine months of 1996, a 17 percent increase from the first nine months of 1995. The improvement in both periods resulted primarily from growth in credit card and trust fees and the addition of FirsTier and other acquisitions, offset in part by the loss of mortgage banking revenues. Credit card fees increased due to higher sales volumes for Corporate and Purchasing Cards and the First Bank WorldPerks VISA card. Trust fees were up with the acquisition of the corporate trust business of BankAmerica, the acquisition of FirsTier and core growth in personal and institutional trust revenues. Service charges on deposits increased primarily as a result of increased demand deposits and the acquisition of FirsTier. Other noninterest income decreased, reflecting the impact of the sale of the Company's mortgage banking operations discussed above. TABLE 4. Noninterest Income <TABLE> <CAPTION> THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 (DOLLARS IN MILLIONS) 1996 1995 1996 1995 <S> <C> <C> <C> <C> Credit card fees $79.5 $62.7 $215.8 $171.0 Trust fees 57.1 42.8 171.8 127.5 Service charges on deposit accounts 36.9 30.9 105.5 93.3 Investment products fees and commissions 7.4 7.8 24.6 20.0 Trading account profits and commissions 3.2 2.4 9.7 8.0 Securities gains -- -- 15.0 -- Termination fee, net -- -- 190.0 -- State income tax refund -- -- 65.0 -- Gain on sale of mortgage banking operations -- -- 45.8 -- Gain on sale of branches -- 31.0 -- 31.0 Other 36.2 38.9 120.5 135.0 Total noninterest income $220.3 $216.5 $963.7 $585.8 </TABLE> TABLE 5. Noninterest Expense <TABLE> <CAPTION> THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 (DOLLARS IN MILLIONS, EXCEPT PER EMPLOYEE DATA) 1996 1995 1996 1995 <S> <C> <C> <C> <C> Salaries $113.4 $108.0 $351.3 $329.9 Employee benefits 25.5 22.1 80.8 76.0 Total personnel expense 138.9 130.1 432.1 405.9 Goodwill and other intangible assets 19.6 13.9 86.9 42.2 Net occupancy 24.2 24.3 74.2 74.3 Furniture and equipment 21.1 23.5 67.0 71.8 Other personnel costs 16.7 11.0 40.4 28.4 Professional services 8.3 8.5 27.5 25.6 Advertising and marketing 9.1 8.4 26.1 23.9 Telephone 7.3 6.1 20.0 18.2 Printing, stationery and supplies 5.8 5.4 17.7 16.0 Postage 5.7 5.4 17.4 17.0 Third party data processing 5.3 4.2 16.0 12.9 FDIC insurance 3.5 2.8 10.6 30.2 SAIF special assessment 51.0 -- 51.0 -- Merger, integration, and resizing -- -- 69.9 -- Other 39.0 67.5 129.3 152.2 Total noninterest expense $355.5 $311.1 $1,086.1 $918.6 Efficiency ratio* 58.1% 53.9% 51.4% 54.8% Efficiency ratio before nonrecurring items 49.8 51.3 50.2 54.0 Average number of employees (full-time equivalents) 12,889 12,894 13,092 13,335 Annualized personnel expense per employee $43,107 $40,360 $44,007 $40,585 </TABLE> *Computed as noninterest expense divided by the sum of net interest income on a taxable-equivalent basis and noninterest income net of securities gains and losses. NONINTEREST EXPENSE -- Third quarter noninterest expense was $355.5 million compared with $311.1 million in the third quarter of 1995, and $1.1 billion in the first nine months of 1996 compared with $918.6 million in 1995. Nonrecurring charges in the third quarter of 1996 included a $51 million one-time special assessment by the FDIC on SAIF deposits. Nonrecurring charges in the first nine months of 1996 totaled $177.8 million, including merger, integration and resizing charges of $31.3 million for the acquisitions of FirsTier and the BankAmerica corporate trust business and $38.6 million in branch distribution resizing expenses; a $29.5 million valuation adjustment to reduce the carrying value of credit card and core deposit intangibles to estimated fair value; $10.1 million for a one-time, $750 per-employee bonus to thank employees for staying focused on customers and shareholder value during the bid for First Interstate; $17.3 million to acquire credit card and revolving credit software and to write off other miscellaneous assets; and, the $51 million SAIF deposits special assessment. Nonrecurring charges in the third quarter and first nine months of 1995 included the write-off of $23 million of unamortized software costs related to a change in the Company's policy to expense software costs and an $8 million write-off of other miscellaneous assets. Refer to Note H for further information on merger, integration and resizing charges. On a pro forma basis (including acquired companies and excluding divested businesses and nonrecurring items), noninterest expense declined $11.6 million (4 percent) in the current quarter and $91 million (9 percent) year-to-date. These reductions were achieved as a result of effective acquisition integration and ongoing expense control. Year-to-date 1996 noninterest expense also benefited from a reduction in FDIC premiums. Excluding nonrecurring items, the Company's efficiency ratio improved to 49.8 percent in the third quarter and 50.2 percent in the first nine months of 1996, from 51.3 percent and 54.0 percent in the same periods in 1995. Total salaries and benefits, excluding nonrecurring charges, increased $8.8 million (7 percent) and $16.1 million (4 percent) for the third quarter and first nine months of 1996 compared with the same periods in 1995, reflecting recent acquisitions. Average full-time equivalent employees remained relatively unchanged at 12,889 in 1996 compared with 12,894 in 1995. Compared with the same periods in 1995, amortization of goodwill and intangibles for the third quarter and first nine months of 1996, excluding the valuation adjustment discussed above, increased as a result of FirsTier and the BankAmerica corporate trust business acquisitions. The increases in other personnel expense related to several technology projects currently in process. FDIC insurance premiums were lower in the first nine months of 1996 compared with the same period last year because the FDIC suspended the assessment of premiums on deposits covered by the Bank Insurance Fund ("BIF"). Third quarter 1995 included a $10 million premium rebate on BIF deposits for the period from June 1, 1995 to September 30, 1995. In addition to the one-time special assessment, BIF-insured institutions are required to assist paying interest on the Financing Corp. ("FICO") bonds, which financed the resolution of the thrift industry series. The FICO assessment will be 1.3 basis points of deposits for BIF-insured institutions and 6.4 basis points of deposits for SAIF-insured institutions starting in 1997 or $1.5 million per quarter based upon September 30, 1996 deposits. The FDIC plans to refund a portion of the fourth quarter 1996 premiums, or about $3 million for the Company. PROVISION FOR INCOME TAXES -- The provision for income taxes was $78.2 million in the third quarter and $355.0 million in the first nine months of 1996, compared with $85.8 million and $245.7 million in the same periods of 1995. The third quarter 1996 provision reflects the impact of the nonrecurring special assessment discussed above, offset partially by a higher level of operating earnings. The year-to-date increase was primarily the result of a higher level of taxable income and the nonrecurring items discussed above. BALANCE SHEET ANALYSIS LOANS -- The Company's loan portfolio increased $637 million to $27.0 billion at September 30, 1996, from $26.4 billion at December 31, 1995. Growth in most commercial and consumer loan categories was partially offset by a decrease in residential mortgage-related balances. This decrease reflects the securitization of $1.3 billion of residential mortgage loans, which were reclassified to available-for-sale securities in the first quarter of 1996. The securitization enhances liquidity and financial management flexibility. Excluding residential mortgages, average loans for both the third quarter and first nine months of 1996 were higher than the same periods in 1995 by approximately $3.1 billion, reflecting growth in core commercial and consumer loans as well as the acquisition of FirsTier. SECURITIES -- At September 30, 1996, securities totaled $3.8 billion compared with $3.3 billion at December 31, 1995, reflecting the securitization discussed above and the addition of approximately $900 million of FirsTier securities, offset by maturities and sales. DEPOSITS -- Noninterest-bearing deposits were $8.1 billion at September 30, 1996, up from $6.4 billion at December 31, 1995. Interest-bearing deposits were $16.9 billion at September 30, 1996, up from $16.2 billion at December 31, 1995. The increases were primarily due to the acquisitions of FirsTier and the corporate trust business of BankAmerica. BORROWINGS -- Long-term debt was $3.4 billion at September 30, 1996, up from $3.2 billion at December 31, 1995. In March 1996, the Company placed $125 million in 6.875 percent subordinated debt in the form of 10-year noncallable notes. The Company also issued $300 million in medium-term bank notes during the first quarter of 1996. These issuances were partially offset by a net decrease of $170 million in Federal Home Loan Bank Advances and Holding Company Medium-term notes. CORPORATE RISK MANAGEMENT CREDIT MANAGEMENT -- The Company's strategy for credit risk management includes stringent, centralized credit policies, and standard underwriting criteria for specialized lending categories, such as mortgage banking, real estate construction, and consumer credit. The strategy also emphasizes diversification on both a geographic and customer level, regular credit examinations, and quarterly management reviews of large loans and loans experiencing deterioration of credit quality. The Company strives to identify potential problem loans early, take any necessary charge-offs promptly, and maintain strong reserve levels. In the Company's retail banking operations, a standard credit scoring system is used to assess consumer credit risks and to price consumer products accordingly. Commercial banking operations rely on a strong credit culture that combines prudent credit policies and individual lender accountability. In addition, the commercial lenders generally focus on middle-market companies within their regions. In evaluating its credit risk, the Company considers the loan portfolio composition, the level of allowance coverage, and macroeconomic factors. Most economic indicators in the Company's primary operating region, which includes Minnesota, Colorado, Montana, North Dakota, South Dakota, Wisconsin, Iowa, Kansas, Nebraska, Wyoming, and Illinois, compare favorably with national trends. Approximately 80 percent of the loan portfolio consists of extensions of credit to customers in this operating region. TABLE 6. Summary of Allowance for Credit Losses <TABLE> <CAPTION> THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 (DOLLARS IN MILLIONS) 1996 1995 1996 1995 <S> <C> <C> <C> <C> Balance at beginning of period $ 529.1 $ 467.5 $ 473.5 $ 474.7 CHARGE-OFFS: Commercial: Commercial 12.4 7.5 31.5 19.4 Financial institutions -- -- -- -- Real estate: Commercial mortgage .2 3.5 11.9 13.6 Construction -- .1 1.0 .1 Total commercial 12.6 11.1 44.4 33.1 Consumer: Residential mortgage 1.3 1.3 3.4 4.1 Credit card 24.9 20.4 71.9 65.3 Other 23.0 19.9 68.2 55.7 Total consumer 49.2 41.6 143.5 125.1 Total 61.8 52.7 187.9 158.2 RECOVERIES: Commercial: Commercial 7.2 9.1 32.5 28.2 Financial institutions -- .3 -- .5 Real estate: Commercial mortgage 4.6 4.6 18.9 11.2 Construction -- -- -- .1 Total commercial 11.8 14.0 51.4 40.0 Consumer: Residential mortgage .2 -- .7 .4 Credit card 2.2 2.8 7.5 8.5 Other 4.9 5.9 16.1 17.3 Total consumer 7.3 8.7 24.3 26.2 Total 19.1 22.7 75.7 66.2 NET CHARGE-OFFS: Commercial: Commercial 5.2 (1.6) (1.0) (8.8) Financial institutions -- (.3) -- (.5) Real estate: Commercial mortgage (4.4) (1.1) (7.0) 2.4 Construction -- .1 1.0 -- Total commercial .8 (2.9) (7.0) (6.9) Consumer: Residential mortgage 1.1 1.3 2.7 3.7 Credit card 22.7 17.6 64.4 56.8 Other 18.1 14.0 52.1 38.4 Total consumer 41.9 32.9 119.2 98.9 Total 42.7 30.0 112.2 92.0 Provision charged to operating expense 35.0 31.0 101.0 84.0 Additions related to acquisitions -- -- 59.1 1.8 Balance at end of period $ 521.4 $ 468.5 $ 521.4 $ 468.5 Allowance as a percentage of period-end loans 1.93% 1.81% Allowance as a percentage of nonperforming loans 431 400 Allowance as a percentage of nonperforming assets 358 281 </TABLE> TABLE 7. Net Charge-offs as a Percentage of Average Loans Outstanding <TABLE> <CAPTION> THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 1996 1995 1996 1995 <S> <C> <C> <C> <C> COMMERCIAL: Commercial .22% (.08)% (.01)% (.15)% Financial institutions -- (.15) -- (.09) Real Estate: Commercial mortgage (.58) (.18) (.31) .13 Construction -- .12 .28 -- Total commercial .02 (.10) (.07) (.08) CONSUMER: Residential mortgage .13 .10 .10 .09 Credit card 3.33 2.98 3.31 3.29 Other 1.04 .88 1.02 .83 Total consumer 1.28 .94 1.21 .96 Total .63% .47% .56% .49% </TABLE> ANALYSIS OF NET CHARGE-OFFS AND ALLOWANCE FOR CREDIT LOSSES -- Net loan charge-offs totaled $42.7 million and $112.2 million in the third quarter and first nine months of 1996, up from $30.0 million and $92.0 million in the same periods in 1995. Commercial loan net charge-offs for the quarter were $.8 million compared with net recoveries of $2.9 million for the third quarter of 1995. Commercial loan net recoveries were $7.0 million for the first nine months of 1996 compared with $6.9 million for the same period in 1995. Third quarter and year-to-date consumer loan net charge-offs increased $9.0 million (27 percent) from the third quarter of 1995 and $20.3 million (21 percent) from year-to-date 1995 reflecting higher average nonmortgage loan balances and higher loss ratios. Excluding first mortgage loans, the annualized ratio of consumer net charge-offs to average loans in the third quarter of 1996 was 1.68 percent, essentially flat with the ratio in the second quarter of 1996, but up from 1.44 percent in the same period of last year. The ratio of total net charge-offs to average loans was .63 percent in the third quarter of 1996 compared with .47 percent in the third quarter of 1995. TABLE 8. Nonperforming Assets* <TABLE> <CAPTION> SEPTEMBER 30 DECEMBER 31 (DOLLARS IN MILLIONS) 1996 1995 <S> <C> <C> COMMERCIAL: Commercial $38.7 $25.1 Real estate: Commercial mortgage 31.4 42.3 Construction 10.6 1.5 Total commercial 80.7 68.9 CONSUMER: Residential mortgage 37.3 37.3 Credit card -- 5.7 Other 3.0 6.3 Total consumer 40.3 49.3 Total nonperforming loans 121.0 118.2 OTHER REAL ESTATE 19.4 33.2 OTHER NONPERFORMING ASSETS 5.3 2.3 Total nonperforming assets $145.7 $153.7 Nonperforming loans to total loans .45% .45% Nonperforming assets to total loans plus other real estate .54 .58 </TABLE> *Throughout this document, nonperforming assets and related ratios do not include loans more than 90 days past due and still accruing interest. TABLE 9. Delinquent Loans <TABLE> <CAPTION> SEPTEMBER 30 DECEMBER 31 (DOLLARS IN MILLIONS) 1996 1995 <S> <C> <C> Accruing loans 30 days or more past due $343.3 $335.2 Accruing loans 90 days or more past due 43.3 38.8 DELINQUENCY RATIOS*: Total commercial: 30 days or more past due 1.32% 1.36% 90 days or more past due .59 .56 Total consumer: 30 days or more past due 2.15 2.04 90 days or more past due .62 .62 Total loans: 30 days or more past due 1.72 1.72 90 days or more past due .61 .59 </TABLE> *Ratios include nonperforming loans and are expressed as a percent of ending loan balances. ANALYSIS OF NONPERFORMING ASSETS -- Nonperforming assets include nonaccrual loans, restructured loans, other real estate and other nonperforming assets owned by the Company. At September 30, 1996, nonperforming assets totaled $145.7 million, down $8.0 million (5 percent) from the balance at December 31, 1995. During the third quarter of 1996, the Company conformed its reporting practice for nonperforming loans to that of most banks and has excluded restructured revolving consumer loans from nonperforming loans. At December 31, 1995, nonperforming loans included $9.5 million of revolving consumer loans. Revolving consumer loans are charged off at specific delinquency dates (generally 120 days). The ratio of nonperforming assets to loans and other real estate was .54 percent at September 30, 1996, down from .58 percent at December 31, 1995. Accruing loans 90 days or more past due totaled $43.3 million compared with $38.8 million at December 31, 1995. These loans are not included in nonperforming assets and continue to accrue interest because they are secured by collateral and/or are in the process of collection and are reasonably expected to result in repayment or restoration to current status. Consumer loans 30 days or more past due were 2.15 percent of the total consumer loan portfolio at September 30, 1996 compared with 2.04 percent of the total consumer portfolio at December 31, 1995. The percentage of consumer loans 90 days or more past due of the total consumer loan portfolio totaled .62 percent at September 30, 1996, unchanged from year-end 1995. INTEREST RATE RISK MANAGEMENT -- The Company's policy is to maintain a low interest rate risk position. The Company limits the exposure of net interest income to risks associated with interest rate movements through asset/liability management strategies. The Company's Asset and Liability Management Committee ("ALCO") uses three methods for measuring and managing interest rate risk: Net Interest Income Simulation Modeling, Market Value/Duration Analysis, and Static Gap Analysis. Net Interest Income Simulation: The Company has developed a net interest income simulation model to measure near-term (under one year) risk due to changes in interest rates. The model is particularly useful because it incorporates substantially all the Company's assets and liabilities and off-balance sheet instruments, together with forecasted changes in the balance sheet mix and assumptions that reflect the current interest rate environment. The balance sheet changes are based on forecasted prepayments of loans and securities, loan and deposit growth, and historical pricing spreads. The model is updated monthly with the current balance sheet structure and the current forecast of expected balance sheet changes. ALCO uses the model to simulate the effect of immediate and sustained parallel shifts in the current yield curve of 1 percent, 2 percent and 3 percent. ALCO also calculates the sensitivity of the simulation results to changes in the key assumptions, such as the Prime/LIBOR spread. The results from the simulation are reviewed by ALCO monthly and are used to guide ALCO's hedging strategies. ALCO has established guidelines, approved by the Company's Board of Directors, that limit the estimated change in net interest income, assuming modest changes in Prime/LIBOR spreads and deposit pricing lags, over the succeeding 12 months to approximately 3 percent of forecasted net interest income, given a 1 percent change in interest rates. Market Value/Duration Analysis: One of the limiting factors of the net interest income simulation model is its dependence upon accurate forecasts of future business activity and the resulting effect on balance sheet assets and liabilities. As a result, its usefulness is greatly diminished for periods beyond two years. The Company measures this longer-term component of interest rate risk (referred to as market value or duration risk) by modeling the effect of interest changes on the estimated discounted future cash flows of the Company's current assets, liabilities and off-balance sheet instruments. Static Gap Analysis: A traditional gap analysis provides a point-in-time measurement of the relationship between the repricing amounts of the interest rate sensitive assets and liabilities. While the analysis provides a useful snapshot of interest rate risk, it does not capture all aspects of interest rate risk. As a result, ALCO uses the gap analysis primarily for managing interest rate risk beyond one year and has established guidelines, approved by the Company's Board of Directors, for the gap position in the one- to three-year time periods. While each of the interest rate risk measurements has limitations, taken together they represent a comprehensive view of the magnitude of the Company's interest rate risk over various time intervals. The Company uses a variety of balance sheet and off-balance sheet financial instruments ("derivatives") to manage its interest rate risk. The Company manages the forecasted net interest income at risk by entering into off-balance sheet transactions (primarily interest rate swaps), investing in fixed rate assets or increasing variable rate liabilities. To a lesser degree, the Company also uses interest rate caps and floors to hedge this risk. The Company does not enter into derivative contracts for speculative purposes. As of September 30, 1996, the Company received payments on $2.7 billion notional amount of interest rate swap agreements, based on fixed interest rates, and made payments based on variable interest rates. These swaps had an average fixed rate of 6.59 percent and an average variable rate, which is tied to various LIBOR rates, of 5.51 percent. The maturity of these agreements ranges from one month to 11 years with an average remaining maturity of 4.27 years. Swaps increased net interest income for third quarter 1996 by $6.3 million and $5.6 million in 1995, and year-to-date 1996 by $22.2 million and $14.8 million in 1995. TABLE 10. Interest Rate Swap Hedging Portfolio Notional Balances and Yields by Maturity Date <TABLE> <CAPTION> AT SEPTEMBER 30, 1996 (DOLLARS IN MILLIONS) WEIGHTED WEIGHTED AVERAGE AVERAGE RECEIVE FIXED SWAPS* NOTIONAL INTEREST RATE INTEREST RATE MATURITY DATE AMOUNT RECEIVED PAID <S> <C> 1996 (remaining three months) $133 7.54% 5.48% 1997 275 6.42 5.48 1998 581 6.03 5.51 1999 450 6.40 5.46 2000 150 6.57 5.50 After 2000** 1,100 6.89 5.54 Total $2,689 6.59% 5.51% </TABLE> *At September 30, 1996, the Company did not have any hedging swaps in its portfolio that required it to pay fixed-rate interest. **Of the total amount maturing after the year 2000 $925 million hedges fixed rate subordinate notes. TABLE 11. Capital Ratios <TABLE> <CAPTION> SEPTEMBER 30 DECEMBER 31 (DOLLARS IN MILLIONS) 1996 1995 <S> <C> <C> Tangible common equity* $2,416 $2,184 As a percent of assets 6.7% 6.5% Tier 1 capital** $2,185 $1,989 As a percent of risk-adjusted assets 6.7% 6.5% Total risk-based capital** $3,685 $3,367 As a percent of risk-adjusted assets 11.4% 11.0% Leverage ratio** 6.4 6.1 </TABLE> *Defined as common equity less goodwill. **In accordance with regulatory guidelines, unrealized securities gains and losses are excluded from these calculations. The Company also purchases interest rate caps and floors to minimize the impact of fluctuating interest rates on earnings. The total notional amount of cap agreements purchased at September 30, 1996, was $100 million. The impact of caps on net interest income was not material for year-to-date periods in 1996 and 1995. To hedge against falling interest rates, the Company uses interest rate floors which had a total notional amount purchased at September 30, 1996 of $1.15 billion. LIBOR-based floors totaled $950 million and Constant Maturity Treasury floors totaled $200 million. The impact of floors on net interest income was not material for year-to-date 1996 and 1995. CAPITAL MANAGEMENT -- The Company is committed to managing capital for maximum shareholder benefit and maintaining strong protection for depositors and creditors. At September 30, 1996, tangible common equity was $2.4 billion, or 6.7 percent of assets, compared with 6.5 percent of assets at December 31, 1995. The total risk-based capital ratio increased to 11.4 percent at September 30, 1996, from 11.0 percent at December 31, 1995. The increase in the capital ratios reflects earnings retention as well as the issuance of common stock to complete the FirsTier acquisition, offset by common stock repurchases. On February 21, 1996, the Board of Directors authorized the repurchase of up to 25 million common shares through December 1997. This new authorization replaces previous authorizations. Approximately 11.1 million shares have been repurchased under the 1996 authorization as of September 30, 1996. In addition, the Board of Directors authorized the retirement of 2.6 million shares repurchased in the second quarter of 1996. Under previous authorizations, the Company repurchased 11.9 million shares in 1995. ACCOUNTING CHANGES SFAS 121, "ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED ASSETS AND FOR LONG-LIVED ASSETS TO BE DISPOSED OF" -- The Company adopted Statement of Financial Accounting Standards No. ("SFAS") 121 on January 1, 1996, which requires that long-lived assets and certain identifiable intangibles be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset is not recoverable. In the first quarter of 1996, the Company recorded a $25.6 million adjustment to the carrying value of certain bank premises following a decision to sell several buildings in connection with the streamlining of the branch distribution network. See Note H for further discussion. SFAS 123, "ACCOUNTING FOR STOCK-BASED COMPENSATION" -- SFAS 123 provides an alternative to Accounting Principles Board ("APB") Opinion No. 25, Accounting for Stock Issued to Employees, in accounting for stock-based compensation issued to employees. The Statement allows for a fair value based accounting method for stock options and similar equity instruments. Companies that continue to account for such arrangements under APB Opinion No. 25 must disclose the pro forma effect of its fair value based accounting for those arrangements on net income and earnings per share. These disclosure requirements are effective in 1996's year-end financial statements. The Company continues to account for such arrangements in accordance with APB Opinion No. 25. SFAS 125, "ACCOUNTING FOR TRANSFERS AND SERVICING OF FINANCIAL ASSETS AND EXTINGUISHMENTS OF LIABILITIES" -- SFAS 125 addresses whether the transfer of financial assets should be accounted for as a sale and removed from the balance sheet, or as a financing recognized as a borrowing. The Statement uses a "financial components" approach which focuses on control to determine whether the assets have been sold. If the entity has surrendered control over the transferred assets, the transaction is considered a sale. Control is considered surrendered only if the seller has no legal rights to the assets, even in bankruptcy; the buyer has the right to pledge or exchange the assets; and the seller does not maintain effective control over the assets through an agreement to repurchase or redeem them. SFAS 125 is effective for transactions occurring after December 31, 1996, and is to be applied prospectively, with earlier or retroactive application not permitted. The adoption of SFAS 125 is not expected to have a material impact on the Company. CONSOLIDATED BALANCE SHEET <TABLE> <CAPTION> SEPTEMBER 30 DECEMBER 31 (IN MILLIONS, EXCEPT SHARES) 1996 1995 (UNAUDITED) <S> <C> <C> ASSETS Cash and due from banks $2,990 $1,837 Federal funds sold 62 35 Securities purchased under agreements to resell 566 230 Trading account securities 76 86 Available-for-sale securities 3,778 3,256 Loans 27,037 26,400 Less allowance for credit losses 521 474 Net loans 26,516 25,926 Bank premises and equipment 408 413 Interest receivable 203 197 Customers' liability on acceptances 210 223 Other assets 2,034 1,671 Total assets $36,843 $33,874 LIABILITIES AND SHAREHOLDERS' EQUITY Deposits: Noninterest-bearing $8,094 $6,357 Interest-bearing 16,914 16,157 Total deposits 25,008 22,514 Federal funds purchased 961 2,000 Securities sold under agreements to repurchase 590 269 Other short-term funds borrowed 2,390 2,116 Long-term debt 3,443 3,201 Acceptances outstanding 210 223 Other liabilities 1,060 826 Total liabilities 33,662 31,149 Shareholders' equity: Preferred stock 87 103 Common stock, par value $1.25 a share - authorized 200,000,000 shares; issued: 9/30/96 - 141,747,738 shares; 12/31/95 - 135,632,324 shares 177 170 Capital surplus 1,145 909 Retained earnings 2,170 1,918 Unrealized gain (loss) on securities, net of tax (17) 23 Less cost of common stock in treasury: 9/30/96 - 6,300,788 shares; 12/31/95 - 8,297,756 shares (381) (398) Total shareholders' equity 3,181 2,725 Total liabilities and shareholders' equity $36,843 $33,874 </TABLE> CONSOLIDATED STATEMENT OF INCOME <TABLE> <CAPTION> THREE MONTHS ENDED NINE MONTHS ENDED (IN MILLIONS, EXCEPT PER-SHARE DATA) SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 (UNAUDITED) 1996 1995 1996 1995 <S> <C> <C> <C> <C> INTEREST INCOME Loans $588.1 $573.8 $1,744.8 $1,693.0 Securities: Taxable 59.3 52.6 186.7 175.2 Exempt from federal income taxes 6.8 2.8 19.1 8.4 Other interest income 12.4 8.3 35.3 26.4 Total interest income 666.6 637.5 1,985.9 1,903.0 INTEREST EXPENSE Deposits 169.2 173.0 507.1 538.2 Federal funds purchased and repurchase agreements 31.6 24.8 90.6 87.6 Other short-term funds borrowed 29.2 34.6 89.8 56.8 Long-term debt 50.7 48.0 151.6 140.5 Total interest expense 280.7 280.4 839.1 823.1 Net interest income 385.9 357.1 1,146.8 1,079.9 Provision for credit losses 35.0 31.0 101.0 84.0 Net interest income after provision for credit losses 350.9 326.1 1,045.8 995.9 NONINTEREST INCOME Credit card fees 79.5 62.7 215.8 171.0 Trust fees 57.1 42.8 171.8 127.5 Service charges on deposit accounts 36.9 30.9 105.5 93.3 Investment products fees and commissions 7.4 7.8 24.6 20.0 Securities gains -- -- 15.0 -- Termination fee -- -- 190.0 -- State income tax refund -- -- 65.0 -- Gain on sale of mortgage banking operations -- -- 45.8 -- Gain on sale of branches -- 31.0 -- 31.0 Other 39.4 41.3 130.2 143.0 Total noninterest income 220.3 216.5 963.7 585.8 NONINTEREST EXPENSE Salaries 113.4 108.0 351.3 329.9 Employee benefits 25.5 22.1 80.8 76.0 Goodwill and other intangible assets 19.6 13.9 86.9 42.2 Other personnel costs 16.7 11.0 40.4 28.4 FDIC insurance 3.5 2.8 10.6 30.2 SAIF special assessment 51.0 -- 51.0 -- Merger, integration, and resizing -- -- 69.9 -- Other 125.8 153.3 395.2 411.9 Total noninterest expense 355.5 311.1 1,086.1 918.6 Income before income taxes 215.7 231.5 923.4 663.1 Applicable income taxes 78.2 85.8 355.0 245.7 Net income $137.5 $145.7 $568.4 $ 417.4 Net income applicable to common equity $135.9 $143.9 $563.5 $ 411.8 EARNINGS PER COMMON SHARE Average common and common equivalent shares 137,679,789 133,648,942 138,122,270 135,007,519 Net income $.99 $1.08 $4.08 $3.05 </TABLE> CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY <TABLE> <CAPTION> UNREALIZED COMMON GAINS/(LOSSES) (IN MILLIONS, EXCEPT SHARES) SHARES PREFERRED COMMON CAPITAL RETAINED ON SECURITIES, TREASURY (UNAUDITED) OUTSTANDING* STOCK STOCK SURPLUS EARNINGS NET OF TAXES STOCK** TOTAL <S> <C> <C> <C> <C> <C> <C> <C> <C> BALANCE DECEMBER 31, 1994 133,832,409 $118.1 $168.3 $865.8 $1,592.8 $(106.4) $(26.7) $2,611.9 Net income 417.4 417.4 Dividends declared: Preferred (5.6) (5.6) Common (145.2) (145.2) Purchase of treasury stock (7,991,505) (341.8) (341.8) Issuance of common stock: Acquisitions 1,619,998 .3 4.3 52.4 57.0 Dividend reinvestment 169,590 .3 6.8 7.1 Stock option and stock purchase plans 1,725,303 .9 29.2 (20.1) 35.1 45.1 Stock warrants exercised 34,404 (1.0) 1.2 .2 Redemption/conversion of preferred stock 39,164 (13.3) (1.3) 1.5 (13.1) Change in unrealized gains/(losses) 103.2 103.2 BALANCE SEPTEMBER 30, 1995 129,429,363 $104.8 $169.5 $899.6 $1,837.0 $(3.2) $(271.5) $2,736.2 BALANCE DECEMBER 31, 1995 127,334,568 $103.2 $169.5 $909.3 $1,918.2 $22.5 $(397.8) $2,724.9 Net income 568.4 568.4 Dividends declared: Preferred (4.9) (4.9) Common (172.5) (172.5) Purchase and retirement of treasury stock (11,092,711) (3.2) (151.4) (508.0) (662.6) Issuance of common stock: Acquisitions 16,460,215 10.7 361.7 (44.4) 384.2 712.2 Dividend reinvestment 154,765 .3 9.1 9.4 Stock option and stock purchase plans 2,041,052 .2 25.5 (78.7) 99.1 46.1 Conversion of preferred stock 549,061 (15.9) (16.1) 32.0 -- Change in unrealized gains/(losses) (39.6) (39.6) BALANCE SEPTEMBER 30, 1996 135,446,950 $87.3 $177.2 $1,145.4 $2,170.0 $(17.1) $(381.4) $3,181.4 </TABLE> *Defined as total common shares less common stock held in treasury. **Ending treasury shares were 6,300,788 at September 30, 1996; 8,297,756 at December 31, 1995; 6,202,961 at September 30, 1995; and 767,000 at December 31, 1994. CONSOLIDATED STATEMENT OF CASH FLOWS <TABLE> <CAPTION> NINE MONTHS ENDED SEPTEMBER 30 SEPTEMBER 30 (UNAUDITED, IN MILLIONS) 1996 1995 <S> <C> <C> OPERATING ACTIVITIES Net cash provided by operating activities $1,097.7 $515.6 INVESTING ACTIVITIES Net cash provided (used) by: Interest-bearing deposits with banks -- 29.1 Loans outstanding 41.9 (996.1) Securities purchased under agreements to resell (296.2) 103.6 Available-for-sale securities: Sales 1,225.7 1,978.1 Maturities 801.3 411.3 Purchases (416.3) (296.6) Proceeds from sales of other real estate 38.0 34.6 Net purchases of bank premises and equipment (43.1) (4.1) Cash and cash equivalents of acquired subsidiaries 116.5 16.3 Acquisitions, net of cash received (37.9) -- Sale of mortgage banking operations 162.1 -- Other - net (54.3) 2.5 Net cash provided by investing activities 1,537.7 1,278.7 FINANCING ACTIVITIES Net cash (used) provided by: Deposits (274.1) (2,624.4) Federal funds purchased and securities sold under agreements to repurchase (903.0) (965.9) Short-term borrowings 284.6 1,885.2 Long-term debt transactions: Proceeds 649.3 700.6 Principal payments (427.8) (564.6) Redemption of preferred stock -- (13.1) Proceeds from issuance of common stock 55.5 52.4 Purchase of treasury stock (662.6) (341.8) Cash dividends (177.4) (150.8) Net cash used by financing activities (1,455.5) (2,022.4) Change in cash and cash equivalents 1,179.9 (228.1) Cash and cash equivalents at beginning of period 1,871.6 1,841.9 Cash and cash equivalents at end of period $3,051.5 $1,613.8 </TABLE> NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) NOTE A. Basis of Presentation The accompanying consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and, therefore, do not include all information and footnotes necessary for a complete presentation of financial position, results of operations, and cash flow activity required under generally accepted accounting principles. In the opinion of management of the Company, all adjustments (consisting only of normal recurring accruals) necessary for a fair presentation of results have been made and the Company believes such presentation is adequate to make the information presented not misleading. For further information, refer to the consolidated financial statements and footnotes included in the Company's Annual Report on Form 10-K for the year ended December 31, 1995. Certain amounts in prior periods have been reclassified to conform to the current presentation. NOTE B. Accounting Changes ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED ASSETS AND FOR LONG-LIVED ASSETS TO BE DISPOSED OF -- Effective January 1, 1996, the Company adopted Statement of Financial Accounting Standards No. ("SFAS") 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," which requires that long-lived assets and certain identifiable intangibles be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset is not recoverable. In the first quarter of 1996, the Company recorded a $25.6 million adjustment to the carrying value of certain bank premises following a decision to sell several buildings in connection with the streamlining of the branch distribution network. See Note H for further discussion. The Company also performed an evaluation of those intangible assets not covered by SFAS 121 and recorded a first quarter charge of $29.5 million to reduce the carrying value of credit card holder and core deposit intangibles to their fair value. The Company performed this analysis of the fair value following its reassessment of business alternatives for a segment of its credit card portfolio and a change in the mix of deposits at certain acquired entities, respectively. ACCOUNTING FOR STOCK-BASED COMPENSATION -- SFAS 123, "Accounting for Stock-Based Compensation," establishes a new fair value based accounting method for stock-based compensation plans. Companies may continue to apply the accounting provisions of APB 25, "Accounting for Stock Issued to Employees," in determining net income; however, they must make pro forma disclosures of net income and earnings per share as if the fair value based method of accounting defined in SFAS 123 had been applied. These disclosure requirements are effective beginning in 1996's year-end financial statements. The Company continues to account for such arrangements in accordance with APB Opinion No. 25. ACCOUNTING FOR TRANSFERS AND SERVICING OF FINANCIAL ASSETS AND EXTINGUISHMENTS OF LIABILITIES -- SFAS 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities," addresses whether the transfer of financial assets should be accounted for as a sale and removed from the balance sheet, or as a financing recognized as a borrowing. The Statement uses a "financial components" approach which focuses on control to determine whether assets have been sold. If the entity has surrendered control over the transferred assets, the transaction is considered a sale. Control is considered surrendered only if the seller has no legal right to the assets, even in bankruptcy; the buyer has the right to pledge or exchange the assets; and the seller does not maintain effective control over the assets through an agreement to repurchase or redeem them. SFAS 125 is effective for transactions occurring after December 31, 1996, and is to be applied prospectively, with earlier or retroactive application not permitted. The adoption of SFAS 125 is not expected to have a material effect on the Company. NOTE C. Business Combinations and Divestitures FIRSTIER FINANCIAL, INC. -- On February 16, 1996, the Company issued 16.5 million shares to complete its acquisition of Omaha-based FirsTier Financial, Inc. ("FirsTier"). FirsTier had $3.7 billion in assets, $2.9 billion in deposits, and 63 offices in Nebraska and Iowa. Under terms of the purchase agreement, the Company exchanged .8829 shares of its common stock for each common share of FirsTier. In addition, FirsTier's outstanding stock options were converted into stock options for the Company's common stock. The acquisition of FirsTier was accounted for under the purchase method of accounting, and accordingly, the purchase price of $717 million was allocated to assets acquired and liabilities assumed based on their fair market values at the date of acquisition. The excess of the purchase price over the fair market values of net assets acquired was recorded as goodwill. Goodwill of $289 million will be amortized over approximately 25 years and core deposit intangibles of $63 million will be amortized over the estimated lives of the deposits of approximately 10 years. The results of operations of FirsTier have been included in the Company's Consolidated Statement of Income since the date of acquisition. The following pro forma operating results of the Company assume that the FirsTier acquisition had occurred at the beginning of each period presented. In addition to combining the historical results of operations of the two companies, the pro forma results include adjustments for the estimated effect of purchase accounting on the Company's results. <TABLE> <CAPTION> THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30 SEPTEMBER 30 (IN MILLIONS, EXCEPT PER SHARE AMOUNTS) 1996 1995 1996 1995 <S> <C> <C> <C> <C> Net interest income $385.9 $386.0 $1,161.5 $1.165.4 Net income 137.5 153.6 566.2 437.1 Net income per share .99 1.06 4.01 3.00 </TABLE> The pro forma information may not be indicative of the results that actually would have occurred if the combination had been in effect on the dates indicated or which may be obtained in the future. BANKAMERICA CORPORATE TRUST BUSINESS -- On August 22, 1995, the Company announced that it had signed a definitive agreement to acquire the corporate trust business of BankAmerica Corporation. After the acquisition, the Company became the nation's leading provider of domestic corporate trust services as measured by revenues. Approximately 80 percent of the transaction was completed in December 1995 with the remainder completed in the first quarter of 1996. SALE OF MORTGAGE BANKING OPERATIONS -- In the first quarter of 1996, the Company sold its servicing and mortgage loan production business to three parties. Bank of America, fsb, a subsidiary of BankAmerica Corporation, purchased approximately $14 billion in mortgage servicing rights. Columbia National, Inc., of Maryland, and Knutson Mortgage Co., of Minnesota, agreed to purchase the Company's loan production business. The Company will now deliver mortgage loan products through bank branches and telemarketing. These transactions resulted in a net gain of $45.8 million. FIRST INTERSTATE BANCORP -- On November 6, 1995, the Company and First Interstate Bancorp ("First Interstate") announced that they had entered into a definitive agreement whereby the Company would exchange 2.6 shares of its common stock for each share of First Interstate common stock. On January 24, 1996, First Interstate announced that it had terminated the merger agreement with the Company and had entered into a definitive agreement with Wells Fargo & Company ("Wells Fargo"). Under the terms of a settlement agreement, the Company received $125 million on January 24, 1996. The Company received an additional $75 million on April 1, 1996, upon consummation of the merger of First Interstate and Wells Fargo. In addition, all litigation among the parties related to the acquisition of First Interstate has been settled. The Company incurred transaction costs of approximately $10 million in connection with the proposed merger. COMERICA CORPORATE TRUST BUSINESS -- On September 26, 1996, the Company announced that it had signed a definitive agreement to acquire the bond indenture services and paying agency business of Comerica Incorporated. This business serves approximately 860 municipal and corporate clients with about 2,400 bond issues. The transaction is expected to close in the first quarter of 1997. NOTE D. Securities The detail of the amortized cost and fair value of available-for-sale securities consisted of the following: <TABLE> <CAPTION> SEPTEMBER 30, 1996 DECEMBER 31, 1995 AMORTIZED FAIR AMORTIZED FAIR (IN MILLIONS) COST VALUE COST VALUE <S> <C> <C> <C> <C> U.S. Treasury $634 $623 $921 $925 Mortgage-backed securities 2,577 2,563 1,703 1,693 Other U.S. agencies 60 60 157 157 State and political 496 491 174 179 Other 39 41 265 302 Total $3,806 $3,778 $3,220 $3,256 </TABLE> NOTE E. Loans The composition of the loan portfolio was as follows: <TABLE> <CAPTION> SEPTEMBER 30 DECEMBER 31 (IN MILLIONS) 1996 1995 <S> <C> <C> COMMERCIAL: Commercial $9,682 $8,271 Financial institutions 756 1,060 Real estate: Commercial mortgage 3,034 2,784 Construction 582 403 Total commercial 14,054 12,518 CONSUMER: Residential mortgage 3,164 4,655 Residential mortgage held for sale 47 257 Home equity and second mortgage 3,144 2,805 Credit card 2,769 2,586 Automobile 2,013 1,821 Revolving credit 736 757 Installment 621 607 Student * 489 394 Total consumer 12,983 13,882 Total loans $27,037 $26,400 </TABLE> * All or part of the student loan portfolio may be sold when the repayment period begins. At September 30, 1996, the Company had $81 million in loans considered impaired under SFAS 114 included in nonaccrual loans. Of this amount, $64 million was valued using the fair value of the loans' collateral, $1 million using the present value of expected future cash flows and $16 million was below the Company's threshold for valuing individual loans. Based on the results of this valuation, no allowance for credit losses was specifically allocated to impaired loans. For the quarter ended September 30, 1996, the average recorded investment in impaired loans was approximately $79 million. No interest income was recognized on impaired loans during the quarter. NOTE F. Long-Term Debt Long-term debt (debt with original maturities of more than one year) consisted of the following: <TABLE> <CAPTION> SEPTEMBER 30 DECEMBER 31 (IN MILLIONS) 1996 1995 <S> <C> <C> Fixed-rate subordinated notes: 6.625% due May 15, 2003 $100 $100 6.00% due October 15, 2003 100 100 7.55% due June 15, 2004 100 100 8.00% due July 2, 2004 125 125 8.35% due November 1, 2004 100 100 7.625% due May 1, 2005 150 150 6.875% due April 1, 2006 125 -- 6.875% due September 15, 2007 250 250 Step-up subordinated notes - due August 15, 2005 100 100 Floating-rate subordinated notes - due November 30, 2010 107 107 Federal Home Loan Bank advances (4.91% to 7.34%) - maturities to March 2011 996 1,099 Medium-term notes (5.38% to 5.64%) - maturities to August 1999 513 580 Bank notes (5.47% to 6.38%) - maturities to March 2001 600 300 Other 77 90 Total $3,443 $3,201 </TABLE> NOTE G. Shareholders' Equity On February 21, 1996, the Board of Directors authorized the repurchase of up to 25 million common shares through December 1997. This authorization replaces previous authorizations. Approximately 11.1 million shares have been repurchased under this authorization as of September 30, 1996. In addition, the Board of Directors authorized the retirement of 2.6 million shares repurchased in the second quarter of 1996. Under previous authorizations, the Company repurchased 11.9 million shares in 1995. NOTE H. Merger, Integration and Resizing Charges In the first quarter of 1996, the Company recorded merger, integration and resizing charges of $69.9 million. Merger and integration charges of $31.3 million were associated with the acquisitions of FirsTier and the BankAmerica corporate trust business. Resizing charges of $38.6 million were associated with the Company's streamlining of the branch distribution network and trust operations as the Company expands its alternative distribution channels, including telemarketing, automated teller machines and in-store branches. The components of the charges are shown below: <TABLE> <CAPTION> NINE MONTHS ENDED SEPTEMBER 30 (IN MILLIONS) 1996 <S> <C> Systems conversions, required customer communications and professional services $29.7 Premise writedowns 26.0 Severance 14.2 Total merger, integration and resizing charges $69.9 </TABLE> System conversions, required customer communications and professional services relate to preparation and mailing of numerous customer communications for the acquisitions and conversion of customer accounts, printing and distribution of training materials and policy and procedure manuals, outside consulting fees, and similar expenses related to the conversion and integration of acquired branches and operations. Premise writedowns include a valuation adjustment of $25.6 million associated with the planned sale of bank-owned properties as the Company consolidates and reduces the space requirements of branch facilities. The Company is presently marketing these bank-owned facilities and expects to complete the sales of the properties over the next three to six months. Severance charges include the cost of terminations, other benefits, and outplacement costs associated with the elimination of employees primarily in branch offices and in centralized corporate support and data processing functions. The following table presents a summary of activity with respect to the Company's merger, integration and resizing accrual: <TABLE> <CAPTION> NINE MONTHS ENDED SEPTEMBER 30 (IN MILLIONS) 1996 <S> <C> BALANCE AT DECEMBER 31, 1995 $12.6 Provision charged to operating expense 69.9 Cash outlays (36.3) Noncash writedowns (26.0) Balance at September 30, 1996 $20.2 </TABLE> The Company expects that substantially all remaining costs will be paid by the end of the 1996 or early 1997. Additional noncash writedowns are not expected to be significant. NOTE I. Income Taxes The components of income tax expense were: <TABLE> <CAPTION> THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 (IN MILLIONS) 1996 1995 1996 1995 <S> <C> <C> <C> <C> FEDERAL: Current tax $72.0 $65.0 $311.8 $169.9 Deferred tax provision (credit) (1.3) 11.8 12.3 51.8 Federal income tax 70.7 76.8 324.1 221.7 STATE: Current tax 8.0 11.3 32.0 18.2 Deferred tax provision (credit) (.5) (2.3) (1.1) 5.8 State income tax 7.5 9.0 30.9 24.0 Total income tax provision $78.2 $85.8 $355.0 $245.7 </TABLE> The reconciliation between income tax expense and the amount computed by applying the statutory federal income tax rate was as follows: <TABLE> <CAPTION> THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 SEPTEMBER 30 (IN MILLIONS) 1996 1995 1996 1995 <S> <C> <C> <C> <C> Tax at statutory rate (35%) $75.5 $81.0 $323.2 $232.1 State income tax, net of federal tax benefit 4.9 5.8 20.1 15.6 Tax effect of: Tax-exempt interest: Loans (1.1) (1.3) (3.5) (3.9) Securities (2.4) (.9) (6.7) (2.9) Amortization of goodwill 4.3 3.0 25.3 9.1 Other items (3.0) (1.8) (3.4) (4.3) Applicable income taxes $78.2 $85.8 $355.0 $245.7 </TABLE> During the second quarter, the Company received a tax refund of $65 million, including interest, from the State of Minnesota relating to the exemption of interest income received on investments in U.S. government securities for the period 1979 to 1983. The Company's net deferred tax asset was $245.9 million at September 30, 1996, and $216.3 million at December 31, 1995. NOTE J. Commitments, Contingent Liabilities and Off-Balance Sheet Financial Instruments OFF-BALANCE SHEET FINANCIAL INSTRUMENTS In the normal course of business, the Company uses various financial instruments with off-balance sheet risk to meet the financing needs of its customers and to manage its interest rate risk. These instruments carry varying degrees of credit, interest rate or liquidity risk. The contract or notional amounts of these financial instruments were as follows: <TABLE> <CAPTION> SEPTEMBER 30 DECEMBER 31 (IN MILLIONS) 1996 1995 <S> <C> <C> Commitments to extend credit: Commercial $8,406 $7,240 Corporate and purchasing cards 12,292 5,220 Consumer credit card 10,318 9,247 Other consumer 3,307 3,264 Letters of credit: Standby 1,391 1,412 Commercial 222 161 Interest rate swap contracts: Hedges 2,689 2,839 Intermediated 146 169 Options contracts: Hedge interest rate floors purchased 1,150 1,250 Hedge interest rate caps purchased 100 200 Intermediated interest rate and foreign exchange caps and floors purchased 127 126 Intermediated interest rate and foreign exchange caps and floors written 127 126 Liquidity support guarantees 100 142 Forward contracts 38 294 Commitments to sell loans 5 223 Mortgages sold with recourse 118 242 Foreign currency commitments: Commitments to purchase 1,054 792 Commitments to sell 1,050 785 </TABLE> Activity for the nine months ended September 30, 1996, with respect to interest rate swaps which the Company uses to hedge commercial loans, subordinated debt, bank notes, certificates of deposit, deposit accounts, and savings certificates was as follows: <TABLE> <CAPTION> (IN MILLIONS) <S> <C> Notional amount outstanding at December 31, 1995 $2,839 Additions 450 Maturities (300) Terminations (300) Notional amount outstanding at September 30, 1996 $2,689 Weighted average interest rates paid 5.51% Weighted average interest rates received 6.59% </TABLE> The Company receives fixed rates and pays floating rates on all swap hedges as of September 30, 1996. Net unamortized deferred gains, which amortize through the year 2000, were $.7 million at September 30, 1996. At September 30, 1996 and December 31, 1995, LIBOR based interest rate floors totaling $950 million with a remaining maturity of 1.23 years and 2.00 years, respectively, hedged floating rate commercial loans. The strike rate on these LIBOR based floors ranged from 3.25 percent to 4.00 percent at September 30, 1996 and December 31, 1995. Constant Maturity Treasury (CMT) interest rate floors totaling $200 million with an average remaining maturity of 7 months at September 30, 1996 and $300 million with an average remaining maturity of 9 months at December 31, 1995, hedged the reinvestment risk of fixed rate residential mortgage loans. The strike rate on these CMT floors ranged from 5.70 percent to 6.36 percent at September 30, 1996 and from 6.25 percent to 6.36 percent at December 31, 1995. The total notional amount of interest rate caps purchased was $100 million with an average strike level at 6.00 percent at September 30, 1996 and $200 million with an average strike level at 6.00 percent at December 31, 1995. NOTE K. Supplemental Information to the Consolidated Financial Statements CONSOLIDATED BALANCE SHEET -- Time certificates of deposit in denominations of $100,000 or more totaled $866 million and $900 million at September 30, 1996, and December 31, 1995,respectively. CONSOLIDATED STATEMENT OF CASH FLOWS -- Listed below are supplemental disclosures to the Consolidated Statement of Cash Flows. <TABLE> <CAPTION> NINE MONTHS ENDED SEPTEMBER 30 SEPTEMBER 30 (IN MILLIONS) 1996 1995 <S> <C> <C> Income taxes paid $ 251.6 $ 168.4 Interest paid 817.6 785.2 Net noncash transfers to foreclosed property 19.2 15.8 Change in unrealized gain (loss) on available-for-sale securities, net of taxes of $24.3 in 1996 and $63.5 in 1995 (39.6) 103.2 Cash acquisitions of businesses: Fair value of noncash assets acquired $ 37.9 $ -- Liabilities assumed -- -- Net $ 37.9 $ -- Stock acquisitions of businesses: Fair value of noncash assets acquired $ 3,627.9 $ 329.3 Net cash acquired 116.5 16.3 Liabilities assumed (3,032.2) (288.6) Net value of common stock issued $ 712.2 $ 57.0 </TABLE> CONSOLIDATED DAILY AVERAGE BALANCE SHEET AND RELATED YIELDS AND RATES <TABLE> <CAPTION> FOR THE THREE MONTHS ENDED SEPTEMBER 30 1996 1995 Yields Yields % Change (In Millions) and and Average (Unaudited) Balance Interest Rates Balance Interest Rates Balance <S> <C> <C> <C> <C> <C> <C> <C> ASSETS Securities: U.S. Treasury $620 $9.6 6.16% $919 $14.6 6.30% (32.5)% Mortgage-backed 2,677 46.8 6.95 1,831 31.1 6.74 46.2 State and political subdivisions 498 10.7 8.55 173 4.5 10.32 187.9 U.S. agencies and other 182 2.7 5.90 433 6.6 6.05 (58.0) Total securities 3,977 69.8 6.98 3,356 56.8 6.71 18.5 Unrealized loss on available-for-sale securities (46) (13) Net securities 3,931 3,343 Trading account securities 86 1.2 5.55 87 1.2 5.47 (1.1) Federal funds sold and resale agreements 511 6.9 5.37 263 3.8 5.73 94.3 Loans: Commercial: Commercial 9,382 188.2 7.98 8,091 173.5 8.51 16.0 Financial institutions 834 7.8 3.72 814 8.7 4.24 2.5 Real estate: Commercial mortgage 3,035 67.6 8.86 2,406 55.4 9.14 26.1 Construction 517 11.3 8.70 340 8.1 9.45 52.1 Total commercial 13,768 274.9 7.94 11,651 245.7 8.37 18.2 Consumer: Residential mortgage 3,262 63.6 7.76 4,841 92.0 7.54 (32.6) Residential mortgage held for sale 86 1.7 7.86 358 6.8 7.54 (76.0) Home equity and second mortgage 3,084 73.9 9.53 2,679 65.8 9.74 15.1 Credit card 2,708 76.7 11.27 2,347 73.4 12.41 15.4 Other 3,863 98.9 10.19 3,660 92.2 9.99 5.5 Total consumer 13,003 314.8 9.63 13,885 330.2 9.43 (6.4) Total loans 26,771 589.7 8.76 25,536 575.9 8.95 4.8 Allowance for credit losses 530 469 13.0 Net loans 26,241 25,067 4.7 Other earning assets 353 4.4 4.96 238 3.2 5.33 48.3 Total earning assets* 31,698 672.0 8.43 29,480 640.9 8.63 7.5 Cash and due from banks 1,801 1,659 8.6 Other assets 2,444 2,111 15.8 Total assets $35,367 $32,768 7.9% LIABILITIES AND SHAREHOLDERS' EQUITY Noninterest-bearing deposits $6,463 $5,591 15.6% Interest-bearing deposits: Interest checking 2,882 9.5 1.31 2,728 10.1 1.47 5.6 Money market accounts 4,343 39.2 3.59 3,871 36.9 3.78 12.2 Other savings accounts 1,637 8.7 2.11 1,633 9.7 2.36 0.2 Savings certificates 7,257 99.0 5.43 7,256 98.9 5.41 -- Certificates over $100,000 828 12.8 6.15 1,028 17.4 6.72 (19.5) Total interest-bearing deposits 16,947 169.2 3.97 16,516 173.0 4.16 2.6 Short-term borrowings 4,175 60.8 5.79 3,928 59.4 6.00 6.3 Long-term debt 3,397 50.7 5.94 2,892 48.0 6.58 17.5 Total interest-bearing liabilities 24,519 280.7 4.55 23,336 280.4 4.77 5.1 Other liabilities 1,187 1,043 13.8 Preferred equity 88 105 (16.2) Common equity 3,139 2,701 16.2 Unrealized loss on available-for-sale securities, net of taxes (29) (8) 262.5 Total liabilities and shareholders' equity $35,367 $32,768 7.9% Net interest income $391.3 $360.5 Gross interest margin 3.88% 3.86% Gross interest margin without taxable- equivalent increments 3.82% 3.81% Net interest margin 4.91% 4.85% Net interest margin without taxable- equivalent increments 4.84% 4.81% </TABLE> Interest and rates are presented on a fully taxable-equivalent basis under a tax rate of 35 percent. Interest income and rates on loans include loan fees. Nonaccrual loans are included in average loan balances. *Before deducting the allowance for credit losses and excluding the unrealized gain (loss) on available-for-sale securities. CONSOLIDATED DAILY AVERAGE BALANCE SHEET AND RELATED YIELDS AND RATES <TABLE> <CAPTION> FOR THE NINE MONTHS ENDED SEPTEMBER 30 1996 1995 Yields Yields % Change (In Millions) and and Average (Unaudited) Balance Interest Rates Balance Interest Rates Balance <S> <C> <C> <C> <C> <C> <C> <C> ASSETS Securities: U.S. Treasury $720 $33.5 6.22% $990 $46.0 6.21% (27.3)% Mortgage-backed 2,673 139.4 6.97 2,069 105.8 6.84 29.2 State and political subdivisions 456 30.1 8.82 175 13.9 10.62 160.6 U.S. agencies and other 281 12.9 6.13 490 22.2 6.06 (42.7) Total securities 4,130 215.9 6.98 3,724 187.9 6.75 10.9 Unrealized loss on available-for-sale securities (16) (66) Net securities 4,114 3,658 Trading account securities 95 3.8 5.34 87 3.5 5.38 9.2 Federal funds sold and resale agreements 494 19.5 5.27 289 12.8 5.92 70.9 Loans: Commercial: Commercial 9,154 546.2 7.97 7,920 515.3 8.70 15.6 Financial institutions 948 29.8 4.20 727 22.2 4.08 30.4 Real estate: Commercial mortgage 2,988 200.8 8.98 2,426 163.8 9.03 23.2 Construction 475 32.0 9.00 353 25.0 9.47 34.6 Total commercial 13,565 808.8 7.96 11,426 726.3 8.50 18.7 Consumer: Residential mortgage 3,503 204.4 7.79 4,970 281.9 7.58 (29.5) Residential mortgage held for sale 155 8.6 7.41 248 14.3 7.71 (37.5) Home equity and second mortgage 2,973 213.4 9.59 2,571 185.7 9.66 15.6 Credit card 2,602 223.1 11.45 2,311 216.9 12.55 12.6 Other 3,880 291.9 10.05 3,641 274.0 10.06 6.6 Total consumer 13,113 941.4 9.59 13,741 972.8 9.47 (4.6) Total loans 26,678 1,750.2 8.76 25,167 1,699.1 9.03 6.0 Allowance for credit losses 523 473 10.6 Net loans 26,155 24,694 5.9 Other earning assets 328 12.1 4.93 234 10.1 5.77 40.2 Total earning assets* 31,725 2,001.5 8.43 29,501 1,913.4 8.67 7.5 Cash and due from banks 1,791 1,681 6.5 Other assets 2,467 2,151 14.7 Total assets $35,444 $32,794 8.1% LIABILITIES AND SHAREHOLDERS' EQUITY Noninterest-bearing deposits $6,396 $5,512 16.0% Interest-bearing deposits: Interest checking 3,017 30.3 1.34 2,849 34.3 1.61 5.9 Money market accounts 4,229 112.9 3.57 3,846 108.7 3.78 10.0 Other savings accounts 1,656 26.5 2.14 1,753 32.7 2.49 (5.5) Savings certificates 7,320 296.8 5.42 7,899 308.6 5.22 (7.3) Certificates over $100,000 881 40.6 6.16 1,089 53.9 6.62 (19.1) Total interest-bearing deposits 17,103 507.1 3.96 17,436 538.2 4.13 (1.9) Short-term borrowings 4,236 180.4 5.69 3,185 144.4 6.06 33.0 Long-term debt 3,378 151.6 5.99 2,901 140.5 6.48 16.4 Total interest-bearing liabilities 24,717 839.1 4.53 23,522 823.1 4.68 5.1 Other liabilities 1,147 1,022 12.2 Preferred equity 93 106 (12.3) Common equity 3,101 2,676 15.9 Unrealized loss on available-for-sale securities, net of taxes (10) (44) 77.3 Total liabilities and shareholders' equity $35,444 $32,794 8.1% Net interest income $1,162.4 $1,090.3 Gross interest margin 3.90% 3.99% Gross interest margin without taxable- equivalent increments 3.83% 3.94% Net interest margin 4.89% 4.94% Net interest margin without taxable- equivalent increments 4.83% 4.89% </TABLE> Interest and rates are presented on a fully taxable-equivalent basis under a tax rate of 35 percent. Interest income and rates on loans include loan fees. Nonaccrual loans are included in average loan balances. *Before deducting the allowance for credit losses and excluding the unrealized gain (loss) on available-for-sale securities. PART II -- OTHER INFORMATION ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (A) EXHIBITS 3 Bylaws of First Bank System, Inc., as amended* 10A First Bank System, Inc. 1996 Stock Incentive Plan, as amended* 10B First Bank System, Inc. Restated Employee Stock Purchase Plan, as amended* 11 Computation of Primary and Fully Diluted Net Income Per Common Share 12 Computation of Ratio of Earnings to Fixed Charges 27 Article 9 Financial Data Schedule* (B) REPORTS ON FORM 8-K During the three months ended September 30, 1996, the Company did not file any Current Reports on Form 8-K. * Copies of this exhibit will be furnished upon request and payment of the Company's reasonable expenses in furnishing the exhibit. SIGNATURE 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. FIRST BANK SYSTEM, INC. /s/ DAVID J. PARRIN By: David J. Parrin Senior Vice President and Controller (Chief Accounting Officer and Duly Authorized Officer) DATE: November 13, 1996 [LOGO] FIRST BANK SYSTEM P.O. BOX 522 MINNEAPOLIS, MINNESOTA 55480 SHAREHOLDER INQUIRIES FINANCIAL INFORMATION FBS news and financial results are available by fax, mail, or internet. Fax. To access FBS's fax-on-demand service, call 1-800-758-5804. When asked, enter FBS's extension number, "312402." Enter "1" for the most current news release or "2" for a menu of recent releases. Enter your fax and phone numbers as directed. The information will be faxed to you immediately. Mail. If you don't have access to a fax machine or prefer not to use FBS's fax-on-demand service, we will, on request, mail to you our quarterly earnings news release. To be added to FBS's mailing list, please contact Investor & Corporate Relations, First Bank System, First Bank Place, Minneapolis, Minnesota, 55402, (612) 973-2434. Internet. For information about FBS, including news releases, product information, and a list of service locations, access FBS's home page on the world wide web. The address is www.fbs.com. For further information, contact John Danielson, Senior Vice President, (612) 973-2261. STOCK AND DIVIDEND INFORMATION For matters related specifically to First Bank System stock records or dividend payments, contact the Office of the Corporate Secretary, (612) 973-0334. DIVIDEND REINVESTMENT For information regarding First Bank System's dividend reinvestment plan, contact First Chicago Trust Company of New York, P.O. Box 2598, Jersey City, New Jersey 07303-2598, (800) 446-2617.