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 25, 1999
-------------
Commission File Number 1-7182
------
MERRILL LYNCH & CO., INC.
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 13-2740599
- --------------------------------------------------------------------------------
(State of incorporation) (I.R.S. Employer Identification No.)
World Financial Center, North Tower,
New York, New York 10281-1332
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
(212) 449-1000
- --------------------------------------------------------------------------------
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 X NO
--- ---
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
365,544,263 shares of Common Stock and 4,009,539 Exchangeable Shares as of the
close of business on July 30, 1999. The Exchangeable Shares, which were issued
by Merrill Lynch & Co., Canada Ltd. in connection with the merger with Midland
Walwyn Inc., are exchangeable at any time into Common Stock on a one-for-one
basis and entitle holders to dividend, voting, and other rights equivalent to
Common Stock.
PART I. FINANCIAL INFORMATION
-----------------------------
ITEM 1. Financial Statements
--------------------
MERRILL LYNCH & CO., INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS (UNAUDITED)
FOR THE THREE MONTHS ENDED
---------------------------------
JUNE 25, JUNE 26,(1) PERCENT (2)
(dollars in millions, except per share amounts) 1999 1998 INC. (DEC.)
--------- ---------- -----------
NET REVENUES
Commissions $1,592 $1,463 8.8%
Principal transactions 1,064 989 7.6
Investment banking 908 898 1.1
Asset management and portfolio service fees 1,159 1,084 6.8
Other 175 137 28.1
------ ------
Subtotal 4,898 4,571 7.2
------ ------
Interest and dividends 3,732 4,751 (21.4)
Interest expense 3,190 4,467 (28.6)
------ ------
Net interest profit 542 284 90.9
------ ------
TOTAL NET REVENUES 5,440 4,855 12.0
------ ------
NON-INTEREST EXPENSES
Compensation and benefits 2,729 2,473 10.4
Communications and technology 536 431 24.3
Occupancy and related depreciation 232 217 7.0
Advertising and market development 201 200 0.5
Brokerage, clearing, and exchange fees 170 167 2.0
Professional fees 143 143 0.5
Goodwill amortization 56 55 1.0
Other 342 254 34.5
------ ------
TOTAL NON-INTEREST EXPENSES 4,409 3,940 11.9
------ ------
EARNINGS BEFORE INCOME TAXES AND DIVIDENDS ON
PREFERRED SECURITIES ISSUED BY SUBSIDIARIES 1,031 915 12.6
Income Tax Expense 310 339 (8.8)
Dividends on Preferred Securities Issued by Subsidiaries 48 27 82.0
------ ------
NET EARNINGS $ 673 $ 549 22.5
====== ======
NET EARNINGS APPLICABLE TO COMMON STOCKHOLDERS $ 664 $ 540 22.9
====== ======
EARNINGS PER COMMON SHARE
Basic $ 1.80 $ 1.52
====== ======
Diluted $ 1.57 $ 1.31
====== ======
DIVIDEND PAID PER COMMON SHARE $ .27 $ .24
====== ======
AVERAGE SHARES USED IN COMPUTING
EARNINGS PER COMMON SHARE
Basic 368.3 355.3
====== ======
Diluted 421.3 411.4
====== ======
- --------------------------------------------------
(1) Amounts have been restated from that originally reported in the 1998
second quarter Form 10-Q to reflect the 1998 merger with Midland Walwyn
Inc., accounted for as a pooling-of-interests.
(2) Percentages are based on actual numbers before rounding.
See Notes to Consolidated Financial Statements
2
MERRILL LYNCH & CO., INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS (UNAUDITED)
FOR THE SIX MONTHS ENDED
---------------------------------
JUNE 25, JUNE 26,(1) PERCENT (2)
(dollars in millions, except per share amounts) 1999 1998 INC. (DEC.)
--------- ---------- -----------
NET REVENUES
Commissions $3,159 $2,926 8.0%
Principal transactions 2,509 2,160 16.1
Investment banking 1,540 1,729 (10.9)
Asset management and portfolio service fees 2,268 2,114 7.3
Other 308 217 42.1
------ ------
Subtotal 9,784 9,146 7.0
------ ------
Interest and dividends 7,413 9,239 (19.8)
Interest expense 6,491 8,767 (26.0)
------ ------
Net interest profit 922 472 95.3
------ ------
TOTAL NET REVENUES 10,706 9,618 11.3
------ ------
NON-INTEREST EXPENSES
Compensation and benefits 5,490 4,971 10.4
Communications and technology 1,016 823 23.4
Occupancy and related depreciation 459 418 9.7
Advertising and market development 353 377 (6.3)
Brokerage, clearing, and exchange fees 324 323 0.5
Professional fees 261 295 (11.5)
Goodwill amortization 113 111 1.9
Other 663 517 28.3
------ ------
TOTAL NON-INTEREST EXPENSES 8,679 7,835 10.8
------ ------
EARNINGS BEFORE INCOME TAXES AND DIVIDENDS ON
PREFERRED SECURITIES ISSUED BY SUBSIDIARIES 2,027 1,783 13.7
Income Tax Expense 648 670 (3.2)
Dividends on Preferred Securities Issued by Subsidiaries 97 50 95.2
------ ------
NET EARNINGS $1,282 $1,063 20.5
====== ======
NET EARNINGS APPLICABLE TO COMMON STOCKHOLDERS $1,263 $1,044 20.9
====== ======
EARNINGS PER COMMON SHARE
Basic $ 3.45 $ 2.96
====== ======
Diluted $ 3.02 $ 2.57
====== ======
DIVIDENDS PAID PER COMMON SHARE $ 0.51 $ 0.44
====== ======
AVERAGE SHARES USED IN COMPUTING
EARNINGS PER COMMON SHARE
Basic 366.2 352.4
====== ======
Diluted 418.5 405.8
====== ======
- --------------------------------------------------
(1) Amounts have been restated from that originally reported in the 1998
second quarter Form 10-Q to reflect the 1998 merger with Midland Walwyn
Inc., accounted for as a pooling-of-interests.
(2) Percentages are based on actual numbers before rounding.
See Notes to Consolidated Financial Statements
3
MERRILL LYNCH & CO., INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
JUNE 25, DECEMBER 25,
(dollars in millions) 1999 1998
- ------------------------------------------------------------------------------------ ---------- -----------
ASSETS
CASH AND CASH EQUIVALENTS $ 11,787 $ 12,530
-------- --------
CASH AND SECURITIES SEGREGATED FOR REGULATORY PURPOSES
OR DEPOSITED WITH CLEARING ORGANIZATIONS 5,721 6,590
-------- --------
RECEIVABLES UNDER RESALE AGREEMENTS AND SECURITIES BORROWED TRANSACTIONS 106,516 87,713
-------- --------
MARKETABLE INVESTMENT SECURITIES 5,710 4,605
-------- --------
TRADING ASSETS, AT FAIR VALUE
Equities and convertible debentures 27,701 25,318
Contractual agreements 16,420 21,979
Corporate debt and preferred stock 21,113 21,166
U.S. Government and agencies 11,686 15,421
Non-U.S. governments and agencies 8,279 7,474
Mortgages, mortgage-backed, and asset-backed 7,661 7,023
Other 3,407 3,358
-------- --------
96,267 101,739
Securities received as collateral, net of securities pledged as collateral 8,851 6,106
-------- --------
Total 105,118 107,845
-------- --------
SECURITIES PLEDGED AS COLLATERAL 11,677 8,184
-------- --------
OTHER RECEIVABLES
Customers (net of allowance for doubtful accounts of $66 in 1999 and $48 in 1998) 35,286 29,559
Brokers and dealers 7,372 8,872
Interest and other 10,125 9,278
-------- --------
Total 52,783 47,709
-------- --------
INVESTMENTS OF INSURANCE SUBSIDIARIES 4,285 4,485
LOANS, NOTES, AND MORTGAGES (net of allowance for loan losses of
$136 in 1999 and $124 in 1998) 7,988 7,687
OTHER INVESTMENTS 3,065 2,590
EQUIPMENT AND FACILITIES (net of accumulated depreciation and amortization
of $3,742 in 1999 and $3,482 in 1998) 2,849 2,761
GOODWILL (net of accumulated amortization of $434 in 1999 and $338 in 1998) 4,979 5,364
OTHER ASSETS 2,262 1,741
-------- --------
TOTAL ASSETS $324,740 $299,804
======== ========
See Notes to Consolidated Financial Statements
4
MERRILL LYNCH & CO., INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
JUNE 25, DECEMBER 25,
(dollars in millions, except per share amount) 1999 1998
- ------------------------------------------------------------------------------ ---------- ------------
LIABILITIES
PAYABLES UNDER REPURCHASE AGREEMENTS AND
SECURITIES LOANED TRANSACTIONS $ 78,587 $ 67,127
-------- --------
COMMERCIAL PAPER AND OTHER SHORT-TERM BORROWINGS 15,627 18,679
-------- --------
DEMAND AND TIME DEPOSITS 15,161 13,744
-------- --------
TRADING LIABILITIES, AT FAIR VALUE
Contractual agreements 21,216 23,840
Equities and convertible debentures 22,128 21,558
U.S. Government and agencies 14,808 7,939
Non-U.S. governments and agencies 9,455 7,245
Corporate debt and preferred stock 4,232 2,878
Other 317 254
-------- --------
Total 72,156 63,714
-------- --------
OBLIGATION TO RETURN SECURITIES RECEIVED AS COLLATERAL 20,528 14,290
-------- --------
OTHER PAYABLES
Customers 19,649 20,972
Brokers and dealers 8,015 7,899
Interest and other 20,702 18,738
-------- --------
Total 48,366 47,609
-------- --------
LIABILITIES OF INSURANCE SUBSIDIARIES 4,188 4,319
LONG-TERM BORROWINGS 56,054 57,563
-------- --------
TOTAL LIABILITIES 310,667 287,045
-------- --------
PREFERRED SECURITIES ISSUED BY SUBSIDIARIES 2,627 2,627
-------- --------
STOCKHOLDERS' EQUITY
PREFERRED STOCKHOLDERS' EQUITY 425 425
-------- --------
COMMON STOCKHOLDERS' EQUITY
Shares exchangeable into common stock 59 66
Common stock, par value $1.33 1/3 per share; authorized: 1,000,000,000 shares;
issued: 1999 - 472,661,774; 1998 - 472,660,324 630 630
Paid-in capital 1,707 1,427
Accumulated other comprehensive loss (net of tax) (319) (122)
Retained earnings 11,550 10,475
-------- --------
13,627 12,476
Less: Treasury stock, at cost: 1999 - 108,478,905 shares; 1998 - 116,376,259 shares 1,894 2,101
Employee stock transactions 712 668
-------- --------
TOTAL COMMON STOCKHOLDERS' EQUITY 11,021 9,707
-------- --------
TOTAL STOCKHOLDERS' EQUITY 11,446 10,132
-------- --------
TOTAL LIABILITIES, PREFERRED SECURITIES ISSUED BY SUBSIDIARIES,
AND STOCKHOLDERS' EQUITY $324,740 $299,804
======== ========
See Notes to Consolidated Financial Statements
5
MERRILL LYNCH & CO., INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
FOR THE SIX MONTHS ENDED
--------------------------------
(dollars in millions) JUNE 25, JUNE 26,
1999 1998
--------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net earnings $ 1,282 $ 1,063
Noncash items included in earnings:
Depreciation and amortization 336 274
Policyholder reserves 104 115
Goodwill amortization 113 111
Other 309 303
(Increase) decrease in operating assets(a):
Trading assets 4,727 (17,625)
Cash and securities segregated for regulatory purposes
or deposited with clearing organizations 869 (971)
Receivables under resale agreements and securities borrowed transactions (18,803) (15,144)
Customer receivables (5,729) (4,461)
Brokers and dealers receivables 1,500 (2,224)
Other (1,397) (1,263)
Increase (decrease) in operating liabilities(a):
Trading liabilities 8,442 3,394
Payables under repurchase agreements and securities loaned transactions 11,460 22,108
Customer payables (1,323) 2,832
Brokers and dealers payables 116 1,702
Other 2,019 3,379
-------- --------
CASH PROVIDED BY (USED FOR) OPERATING ACTIVITIES 4,025 (6,407)
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from (payments for):
Maturities of available-for-sale securities 2,666 1,952
Sales of available-for-sale securities 1,808 1,346
Purchases of available-for-sale securities (4,804) (3,916)
Maturities of held-to-maturity securities 329 360
Purchases of held-to-maturity securities (346) (446)
Loans, notes, and mortgages (317) (3,325)
Acquisitions, net of cash acquired (20) (5,220)
Other investments and other assets (984) (619)
Equipment and facilities (425) (504)
-------- --------
CASH USED FOR INVESTING ACTIVITIES (2,093) (10,372)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from (payments for):
Commercial paper and other short-term borrowings (3,052) 4,929
Demand and time deposits 1,417 1,301
Issuance and resale of long-term borrowings 11,395 17,174
Settlement and repurchase of long-term borrowings (12,194) (7,771)
Issuance of subsidiaries' preferred securities - 1,150
Issuance of treasury stock 149 127
Other common stock transactions (184) (125)
Dividends (206) (173)
-------- -------
CASH (USED FOR) PROVIDED BY FINANCING ACTIVITIES (2,675) 16,612
-------- -------
DECREASE IN CASH AND CASH EQUIVALENTS (743) (167)
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 12,530 12,073
-------- --------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 11,787 $ 11,906
======== ========
(a) Net of effects of acquisitions.
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for:
Income taxes $ 33 $ 306
Interest 6,360 8,429
See Notes to Consolidated Financial Statements
6
MERRILL LYNCH & CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
JUNE 25, 1999
(dollars in millions, except per share amounts)
- --------------------------------------------------------------------------------
NOTE 1. BASIS OF PRESENTATION
- --------------------------------------------------------------------------------
The Consolidated Financial Statements include the accounts of Merrill
Lynch & Co., Inc. ("ML & Co.") and subsidiaries (collectively, "Merrill
Lynch"). All material intercompany balances have been eliminated. The
December 25, 1998 consolidated balance sheet was derived from the
audited financial statements. The interim consolidated financial
statements for the three- and six-month periods are unaudited; however,
in the opinion of Merrill Lynch management, all adjustments, consisting
only of normal recurring accruals, necessary for a fair statement of the
results of operations have been included.
These unaudited financial statements should be read in conjunction with
the audited financial statements included in Merrill Lynch's Annual
Report included as an exhibit to Form 10-K for the year ended December
25, 1998. The nature of Merrill Lynch's business is such that the
results of any interim period are not necessarily indicative of results
for a full year. Prior period amounts have been restated to reflect the
1998 merger of Midland Walwyn Inc. with Merrill Lynch, which has been
accounted for as a pooling-of-interests. Certain reclassifications have
also been made to prior period financial statements, where appropriate,
to conform to the current period presentation.
- --------------------------------------------------------------------------------
NOTE 2. SHORT-TERM BORROWINGS
- --------------------------------------------------------------------------------
Short-term borrowings at June 25, 1999 and December 25, 1998 are presented
below:
- --------------------------------------------------------------------------------
June 25, December 25,
1999 1998
------- -----------
PAYABLES UNDER REPURCHASE AGREEMENTS
AND SECURITIES LOANED TRANSACTIONS
Repurchase agreements $67,481 $59,501
Securities loaned transactions 11,106 7,626
------- -------
Total $78,587 $67,127
======= =======
COMMERCIAL PAPER AND OTHER SHORT-TERM
BORROWINGS
Commercial paper $13,161 $16,758
Bank loans and other 2,466 1,921
------- -------
Total $15,627 $18,679
======= =======
DEMAND AND TIME DEPOSITS
Demand $ 4,251 $ 4,454
Time 10,910 9,290
------- -------
Total $15,161 $13,744
======= =======
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
NOTE 3. ACCOUNTING PRONOUNCEMENTS
- --------------------------------------------------------------------------------
In June 1999, the Financial Accounting Standards Board (the "FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 137, "Accounting for
Derivative Instruments and Hedging Activities -Deferral of the Effective Date of
FASB Statement No. 133". SFAS No. 137 defers the effective date of SFAS No. 133
for one year to fiscal years beginning after June 15, 2000. Merrill Lynch is
currently evaluating the expected impact of adopting SFAS No. 133, which will be
required for the company beginning January 1, 2001.
7
- --------------------------------------------------------------------------------
NOTE 4. SEGMENT INFORMATION
- --------------------------------------------------------------------------------
In reporting to management, Merrill Lynch's operating results are
categorized into two business segments:
Wealth Management and Corporate and Institutional Client Group ("CICG"). For
more information on these segments, see the 1998 Annual Report included as an
exhibit to Form 10-K.
Operating results by business segment follow:
- ---------------------------------------------------------------------------------------------------------
WEALTH CORPORATE
MANAGEMENT CICG ITEMS TOTAL
------------ --------- ---------- ----------
THREE MONTHS ENDED
JUNE 25, 1999
Net interest revenue(a) $ 292 $ 313 $ (63)(b) $ 542
All other revenues 2,825 2,073 - 4,898
------- -------- ------ --------
Net revenues 3,117 2,386 (63) 5,440
Non-interest expenses 2,617 1,736 56(c) 4,409
------- -------- ------ --------
Earnings before income taxes 500 650 (119) 1,031
Income tax expense (benefit) 186 188 (64) 310
Dividends on preferred securities
issued by subsidiaries - - 48 48
------- -------- ------ --------
Net earnings $ 314 $ 462 $ (103) $ 673
======= ======== ====== ========
Total assets $53,138 $266,623 $4,979 $324,740
======= ======== ====== ========
- ---------------------------------------------------------------------------------------------------------
THREE MONTHS ENDED
JUNE 26, 1998
Net interest revenue(a) $ 222 $ 139 $ (77)(b) $ 284
All other revenues 2,668 1,903 - 4,571
------- -------- ------ --------
Net revenues 2,890 2,042 (77) 4,855
Non-interest expenses 2,335 1,550 55(c) 3,940
------- -------- ------ --------
Earnings before income taxes 555 492 (132) 915
Income tax expense (benefit) 242 152 (55) 339
Dividends on preferred securities
issued by subsidiaries - - 27 27
------- -------- ------ --------
Net earnings $ 313 $ 340 $ (104) $ 549
======= ======== ====== ========
Total assets $42,774 $322,419 $5,378 $370,571
======= ======== ====== ========
- ---------------------------------------------------------------------------------------------------------
(a) Management views interest income net of interest expense in evaluating
results.
(b) Represents Mercury financing costs.
(c) Represents goodwill amortization from acquisitions.
8
- --------------------------------------------------------------------------------------------------------------
WEALTH CORPORATE
MANAGEMENT CICG ITEMS TOTAL
------------ ----- ----------- --------
SIX MONTHS ENDED
JUNE 25, 1999
Net interest revenue(a) $ 559 $ 492 $(129) (b) $ 922
All other revenues 5,612 4,172 - 9,784
------ ------ ----- -------
Net revenues 6,171 4,664 (129) 10,706
Non-interest expenses 5,168 3,398 113 (c) 8,679
------ ------ ----- -------
Earnings before income taxes 1,003 1,266 (242) 2,027
Income tax expense (benefit) 376 367 (95) 648
Dividends on preferred securities
issued by subsidiaries - - 97 97
------ ----- ----- -------
Net earnings $ 627 $ 899 $(244) $ 1,282
====== ===== ===== =======
- -----------------------------------------------------------------------------------------------------------
SIX MONTHS ENDED
JUNE 26, 1998
Net interest revenue(a) $ 460 $ 157 $(145)(b) $ 472
All other revenues 5,232 3,914 - 9,146
------ ------ ----- ------
Net revenues 5,692 4,071 (145) 9,618
Non-interest expenses 4,637 3,087 111 (c) 7,835
------ ------ ----- ------
Earnings before income taxes 1,055 984 (256) 1,783
Income tax expense (benefit) 438 311 (79) 670
Dividends on preferred securities
issued by subsidiaries - - 50 50
------ ------ ----- ------
Net earnings $ 617 $ 673 $(227) $1,063
====== ====== ===== ======
- -------------------------------------------------------------------------------------------------------------
(a) Management views interest income net of interest expense in evaluating
results.
(b) Represents Mercury financing costs.
(c) Represents goodwill amortization from acquisitions.
9
===============================================================================
NOTE 5. COMPREHENSIVE INCOME
- -------------------------------------------------------------------------------
The components of comprehensive income are as follows:
- -------------------------------------------------------------------------------
THREE MONTHS ENDED SIX MONTHS ENDED
---------------------------- ----------------------
JUNE 25, JUNE 26, JUNE 25, JUNE 26,
1999 1998 1999 1998
------- ------- --------- --------
Net earnings $673 $549 $1,282 $1,063
---- ---- ------ ------
Other comprehensive income (loss), net of tax:
Currency translation adjustment (42) (12) (159) 5
Net unrealized (losses) gain on investment
securities available-for-sale (5) 6 (38) -
---- ---- ------ ------
Total other comprehensive income (loss), net (47) (6) (197) 5
---- ---- ------ ------
Comprehensive income $626 $543 $1,085 $1,068
==== ==== ====== ======
- -------------------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------------
NOTE 6. EARNINGS PER COMMON SHARE
- -------------------------------------------------------------------------------------------------------------------
Information relating to earnings per common share computations follows:
- -------------------------------------------------------------------------------------------------------------------
THREE MONTHS ENDED SIX MONTHS ENDED
--------------------------- ---------------------
JUNE 25, JUNE 26, JUNE 25, JUNE 26,
1999 1998 1999 1998
------- -------- ------- -------
Net earnings $673 $549 $1,282 $1,063
Preferred stock dividends 9 9 19 19
---- ---- ------ ------
Net earnings applicable to
common stockholders $664 $540 $1,263 $1,044
==== ==== ====== ======
- -------------------------------------------------------------------------------------------------------------------
(shares in thousands)
Weighted-average shares outstanding 368,273 355,289 366,156 352,392
------- ------- ------- -------
Effect of dilutive instruments(1)(2):
Employee stock options 30,984 33,673 30,408 31,506
FCCAAP shares 16,640 17,066 16,594 16,948
Restricted units 5,323 5,323 5,242 4,909
ESPP shares 47 34 64 62
------- ------- ------- -------
Dilutive potential common shares 52,994 56,096 52,308 53,425
------- ------- ------- -------
Total weighted-average diluted shares 421,267 411,385 418,464 405,817
======= ======= ======= =======
- -------------------------------------------------------------------------------------------------------------------
Basic earnings per common share $1.80 $1.52 $3.45 $2.96
Diluted earnings per common share 1.57 1.31 3.02 2.57
- -------------------------------------------------------------------------------------------------------------------
(1) At June 25, 1999, there were 3,785 instruments that were considered
antidilutive and were not included in the above computations.
(2) See Note 10 to Consolidated Financial Statements in the 1998 Annual Report
included as an exhibit to Form 10-K for a description of these
instruments.
10
- -------------------------------------------------------------------------------
NOTE 7. DERIVATIVES, COMMITMENTS, AND OTHER CONTINGENCIES
- -------------------------------------------------------------------------------
Merrill Lynch enters into various derivative contracts to meet clients'
needs and to manage its own market risks. Derivative contracts often
involve future commitments to exchange interest payment streams or
currencies (such as interest rate and currency swaps or foreign exchange
forwards) or to purchase or sell other financial instruments at
specified terms on a specified date. Options, for example, can be
purchased or written on a wide range of financial instruments such as
securities, currencies, futures, and various market indices.
The notional or contractual amounts of derivatives provide only a
measure of involvement in these types of transactions and represent
neither the amounts subject to the various types of market risk nor the
future cash requirements under these instruments. The notional or
contractual amounts of derivatives used for trading purposes and
included in trading inventory by type of risk follow:
- ------------------------------------------------------------------------------------------------------------------
INTEREST EQUITY COMMODITY
RATE CURRENCY PRICE PRICE
(in billions) RISK(1)(2) RISK(3) RISK RISK
- ------------------------------------------------------------------------------------------------------------------
JUNE 25, 1999
- -------------
Swap agreements $1,975 $193 $25 $8
Forward contracts 63 182 - 2
Futures contracts 154 5 13 1
Options purchased 322 83 67 6
Options written 283 89 55 8
DECEMBER 25, 1998
- -----------------
Swap agreements $2,006 $170 $19 $5
Forward contracts 62 229 - 6
Futures contracts 184 2 10 3
Options purchased 254 93 71 4
Options written 192 96 58 6
- -----------------------------------------------------------------------------------------------------------------
(1) Certain derivatives subject to interest rate risk are also exposed to
the credit spread risk of the underlying financial instrument.
(2) Forward contracts subject to interest rate risk principally represent
"To Be Announced" mortgage pools that bear interest rate as well as
principal prepayment risk.
(3) Included in the currency risk category are certain contracts that are
also subject to interest rate risk.
- ----------------------------------------------------------------------------------------------------------------------
The notional or contractual amounts of derivatives at June 25, 1999 and
December 25, 1998 used to hedge all other exposures, primarily borrowings,
follow:
- ----------------------------------------------------------------------------------------------------------------------
JUNE 25, DECEMBER 25,
(in billions) 1999 1998
------- -----------
Interest rate derivatives(1) $67 $71
Currency derivatives(1) 21 19
Equity derivatives 5 5
- ----------------------------------------------------------------------------------------------------------------------
(1) Includes swap contracts totaling $2 billion in notional amounts that
contain embedded options hedging callable debt at June 25, 1999 and
December 25, 1998.
11
Most of these derivatives are entered into with Merrill Lynch's
derivative dealer subsidiaries, which intermediate interest rate,
currency, and equity risks with third parties.
In the normal course of business, Merrill Lynch enters into underwriting
commitments and commitments to extend credit. Settlement of these
commitments as of June 25, 1999 would not have a material effect on the
consolidated financial condition of Merrill Lynch.
There are civil actions, arbitration proceedings, and claims pending against
Merrill Lynch as of June 25, 1999, some of which involve claims for substantial
amounts. Among these are the matters discussed in the 1998 Annual Report
included as an exhibit to Form 10-K. Although the ultimate outcome of these
actions cannot be ascertained at this time and the results of legal proceedings
cannot be predicted with certainty, it is the opinion of management that the
resolution of these matters will not have a material adverse effect on the
financial condition or results of operations of Merrill Lynch as set forth in
the Consolidated Financial Statements contained herein.
As disclosed in the 1998 Annual Report included as an exhibit to Form
10-K, Merrill Lynch has agreed to pay $400 and $17 in settlement of the
Orange County action and the related Irvine Ranch Water District action,
respectively. At June 25, 1999, Merrill Lynch has remaining liabilities
of these amounts plus interest.
- --------------------------------------------------------------------------------
NOTE 8. REGULATORY REQUIREMENTS
- --------------------------------------------------------------------------------
Merrill Lynch, Pierce, Fenner & Smith Incorporated ("MLPF&S"), a
registered broker-dealer, is subject to the net capital requirements of
Rule 15c3-1 under the Securities Exchange Act of 1934. Under the
alternative method permitted by this rule, the minimum required net
capital, as defined, shall not be less than 2% of aggregate debit items
arising from customer transactions. At June 25, 1999, MLPF&S's
regulatory net capital of $3,901 was 15% of aggregate debit items, and
its regulatory net capital in excess of the minimum required was $3,376.
Merrill Lynch International ("MLI"), a U.K. registered broker-dealer, is
subject to the capital requirements of the Financial Services Authority
("FSA"). Financial resources, as defined, must exceed the total
financial resources requirement of the FSA. At June 25, 1999, MLI's
financial resources were $3,483 and exceeded the minimum requirement by
$969.
Merrill Lynch Government Securities Inc. ("MLGSI"), a primary dealer in
U.S. Government securities, is subject to the capital adequacy
requirements of the Government Securities Act of 1986. This rule
requires dealers to maintain liquid capital in excess of market and
credit risk, as defined, by 20% (a 1.2-to-1 capital-to-risk standard).
At June 25, 1999, MLGSI's liquid capital of $1,390 was 320% of its total
market and credit risk, and liquid capital in excess of the minimum
required was $869.
- --------------------------------------------------------------------------------
NOTE 9. COMMON STOCK
- --------------------------------------------------------------------------------
In February 1999, ML & Co. issued 1,450 shares of common stock to
certain non-U.S. employees in connection with an employee incentive plan
grant, thereby increasing issued shares to 472,661,774.
12
INDEPENDENT ACCOUNTANTS' REPORT
- -------------------------------
To the Board of Directors and Stockholders of
Merrill Lynch & Co., Inc.:
We have reviewed the accompanying condensed consolidated balance sheet of
Merrill Lynch & Co., Inc. and subsidiaries ("Merrill Lynch") as of June 25,
1999, and the related condensed consolidated statements of earnings for the
three- and six-month periods ended June 25, 1999 and June 26, 1998 and the
condensed consolidated statements of cash flows for the six-month periods ended
June 25, 1999 and June 26, 1998. These financial statements are the
responsibility of Merrill Lynch's management. The unaudited interim condensed
consolidated financial information for the three- and six-month periods ended
June 26, 1998 gives retroactive effect to the 1998 merger of Merrill Lynch and
Midland Walwyn Inc., which has been accounted for as a pooling-of-interests, as
disclosed in Note 1 to the condensed consolidated financial statements.
We conducted our review in accordance with standards established by the American
Institute of Certified Public Accountants. A review of interim financial
information consists principally of applying analytical procedures to financial
data and of making inquiries of persons responsible for financial and accounting
matters. It is substantially less in scope than an audit conducted in accordance
with generally accepted auditing standards, the objective of which is the
expression of an opinion regarding the financial statements taken as a whole.
Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to such condensed consolidated financial statements for them to be in
conformity with generally accepted accounting principles.
We have previously audited, in accordance with generally accepted auditing
standards, the consolidated balance sheet of Merrill Lynch as of December 25,
1998, and the related consolidated statements of earnings, changes in
stockholders' equity, comprehensive income and cash flows for the year then
ended (not presented herein); and in our report dated February 22, 1999, we
expressed an unqualified opinion and included an explanatory paragraph for the
change in accounting method for certain internal-use software development costs
to conform with Statement of Position 98-1. In our opinion, the information set
forth in the accompanying condensed consolidated balance sheet as of December
25, 1998 is fairly stated, in all material respects, in relation to the
consolidated balance sheet from which it has been derived.
/s/ Deloitte & Touche LLP
New York, New York
August 6, 1999
13
- --------------------------------------------------------------------------------
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
Merrill Lynch & Co., Inc. ("ML & Co." and, together with its subsidiaries and
affiliates, "Merrill Lynch") is a holding company that, through its subsidiaries
and affiliates, provides investment, financing, advisory, insurance, and related
services worldwide. Merrill Lynch conducts its businesses in global financial
markets that are influenced by numerous unpredictable factors including economic
conditions, monetary policies, liquidity, international and regional political
events, regulatory developments, the competitive environment, and investor
sentiment. These conditions or events can significantly affect the volatility of
financial markets. While greater volatility increases risk, it may also increase
order flow in businesses such as trading and brokerage. Revenues and net
earnings may vary significantly from period to period due to these unpredictable
factors and the resulting market volatility.
The financial services industry continues to be affected by the intensifying
competitive environment, as demonstrated by consolidation through mergers and
acquisitions, diminishing margins in many mature products and services, as well
as significant growth in the market for on-line trading services. The relaxation
of banks' barriers to entry into the securities industry and expansion by
insurance companies into traditional brokerage products, coupled with the
potential repeal of the laws separating commercial and investment banking
activities in the future, have increased the number of companies competing for a
similar customer base.
In addition to providing historical information, Merrill Lynch may make or
publish forward-looking statements about management expectations, strategic
objectives, business prospects, anticipated financial performance, and other
similar matters. A variety of factors, many of which are beyond its control,
affect the operations, performance, business strategy, and results of Merrill
Lynch and could cause actual results and experience to differ materially from
the expectations expressed in these statements. These factors include, but are
not limited to, the factors listed in the previous paragraphs, as well as:
o actions and initiatives taken by both current and potential competitors,
o the impact of current and future legislation and regulation throughout the
world, and
o the other risks and uncertainties detailed in the following sections.
MERRILL LYNCH UNDERTAKES NO RESPONSIBILITY TO UPDATE PUBLICLY OR REVISE ANY
FORWARD-LOOKING STATEMENTS.
- --------------------------------------------------------------------------------
BUSINESS ENVIRONMENT
- --------------------------------------------------------------------------------
Global financial markets were generally strong during the 1999 first quarter,
aided by tightening credit spreads, improved liquidity in debt markets, and
record highs on many equity indices. This trend continued through April and into
early May in the U.S., when inflationary fears and an anticipated rise in U.S.
interest rates led to market volatility, widening credit spreads, and an
industrywide slowdown in trading activity. More favorable market conditions
returned by late June as investors adjusted to the expected increase in U.S.
interest rates. Market indices for many Asian emerging markets, including those
in Indonesia, South Korea, and Thailand, rose during the 1999 second quarter and
posted their strongest gains in recent months. In Japan, strong economic results
contributed to the advance in Japanese equity indices. Latin American market
indices were up modestly during the quarter. In Europe, an economic slowdown
contributed to the weakening euro.
14
U.S. bond prices declined during the 1999 second quarter, as the likelihood of
higher interest rates led the yield on the 30 year U.S. Treasury bond to move
past 6%, a level not reached since the 1997 fourth quarter. Long-term U.S.
interest rates were also higher compared with the corresponding 1998 quarter,
when low inflation and low unemployment contributed to a decrease in rates. In
Europe, the sharp decline in industrial production and exports led the European
Central Bank to reduce interest rates by fifty basis points during the quarter.
European rates were lower in the 1999 second quarter compared with the year-ago
period. Credit spreads, which represent the risk premium over the risk-free rate
paid by an issuer based on the issuer's perceived creditworthiness, widened
modestly in the 1999 second quarter compared with the 1999 first quarter,
particularly in late May and early June.
U.S. equity indices rose to record levels during the 1999 second quarter, due in
part to investor demand for cyclical stocks. The Dow Jones Industrial Average
rose 12.1% in the quarter and 22.6% from the end of the 1998 second quarter,
but, due to uncertainty about U.S. interest rates, failed to close above its
record set in early May. The broader market was also impacted by the uncertainty
regarding the direction of interest rates, with both the S&P 500 and the Nasdaq
experiencing significant volatility during the quarter. Despite this volatility,
the Nasdaq and S&P 500 ended the quarter up 9.1% and 6.7%, respectively, from
the end of the 1999 first quarter and up 41.8% and 21.1%, respectively, from the
end of the corresponding 1998 period.
Global equity markets rose 5.5% during the 1999 second quarter and 14.4% from
the end of the 1998 second quarter, as measured by the Dow Jones World Index.
Declining interest rates, strengthening of Asian currencies against the U.S.
dollar, and increased liquidity led to strong performances in most Asian
markets, including South Korea, Singapore, and Hong Kong. European equity
indices generally posted modest gains during the 1999 second quarter; however,
deteriorating economic conditions led to further weakening of the euro. Latin
American indices posted favorable results during the 1999 second quarter, with
the strongest gains recorded in Mexico.
Global underwriting volume declined industrywide in the 1999 second quarter to
$553 billion, with stock and bond offerings down 9% from the 1999 first quarter
and 11% from 1998 second quarter levels, according to Securities Data Co. Bond
issuances were especially hurt in the quarter as investor concern over the
outlook of U.S. interest rates led to fewer offerings, particularly in
high-yield securities. Underwriting volume declined modestly in the 1999 first
half, down 3% from the corresponding 1998 period.
Strategic services activities remained strong during the 1999 second quarter and
first half, as merger and acquisition activity was at near record volumes,
surpassed only by 1998 second quarter and first-half levels. Contributing to
1999 first half results was an increase in non-U.S. strategic services activity,
which advanced 39% from 1998 first-half levels to $631 billion. Combinations in
telecommunications, broadcasting, and commercial banking accounted for a
majority of merger and acquisition activity during the 1999 six months.
Due to the volatility of the financial services industry, Merrill Lynch
continually evaluates its businesses across varying market conditions for
profitability and alignment with long-term strategic objectives. Merrill Lynch
seeks to mitigate the effects of market downturns by exploring selective
expansion of its global presence, developing and maintaining long-term client
relationships, monitoring costs and risks, and continuing to diversify revenue
sources.
- --------------------------------------------------------------------------------
STRATEGIC BUSINESS INITIATIVES
- --------------------------------------------------------------------------------
Merrill Lynch continued its commitment to client service with the announcement
in June of a new model for personal financial services in the Digital Age. This
new model will provide investors with choice, flexibility, and a broad range of
products, services, and delivery channels to meet their financial needs, ranging
from discretionary advisory services to the customary personalized services of a
Merrill Lynch Financial Consultant to self-directed investing via the Internet.
15
Components of the new choices include the following:
o Unlimited Advantage (Service Mark), a nondiscretionary financial service,
launched as scheduled in July 1999, with asset-based pricing, subject to a
minimum annual charge of $1,500. Percentage rates decline as assets
increase. Unlimited Advantage offers eligible clients comprehensive
services, including virtually unlimited trading in most securities,
unlimited enrolled accounts, traditional Financial Consultant
relationships, a delayed debit card with a travel rewards program, a
financial plan, on-line capabilities, and access to Merrill Lynch research.
o A new Internet account, which will be introduced in December 1999, for
clients preferring a self-directed approach to investing. This on-line
service will address investment and cash management needs. In addition to
on-line equity trading at $29.95 per trade, clients will be able to
purchase mutual funds, receive cash management services and Merrill Lynch
research, and will have access to fixed-income and other products on-line.
The successful initiation of this program is dependent in part upon the
timely completion of the development of a system that meets technological
demands. While Merrill Lynch's anticipated schedule is based on reasonable
current expectation, there can be no assurance that its systems will be
fully operational by such time.
While Merrill Lynch anticipates that these initiatives will allow it to provide
new and existing clients with more product and service options and will enhance
the role of its Financial Consultants, Merrill Lynch cannot predict with
certainty the degree of acceptance by clients or Financial Consultants.
In addition, during the 1999 second quarter Merrill Lynch established the Direct
Markets unit of its Corporate and Institutional Client Group as an electronic
commerce initiative to develop and provide integrated, electronically-delivered
products and services to our corporate and institutional clients worldwide,
including research, analytics, investment advice, underwriting and trading.
Higher costs pertaining primarily to technology and marketing for these
initiatives are expected during the 1999 third and fourth quarters. Based on
information currently available, we cannot predict with certainty the impact
that these initiatives will have on revenues or earnings in future periods.
These measures are expected to enhance the services offered to clients, further
Merrill Lynch's business strategy, and allow the company to aggressively compete
in a rapidly changing business environment.
- ---------------------------------------------------------------------------------------------------------------------------------
RESULTS OF OPERATIONS
- ---------------------------------------------------------------------------------------------------------------------------------
FOR THE THREE MONTHS ENDED INCREASE (DECREASE)
------------------------------------------ 2Q99 VERSUS
JUNE 25, MARCH 26, JUNE 26, ---------------------
(dollars in millions, except per share amounts) 1999 1999 1998 1Q99 2Q98
- ---------------------------------------------------------------------------------------------------------------------------------
Total Revenues $8,630 $8,567 $9,322 1% (7)%
Net revenues 5,440 5,266 4,855 3 12
Pre-tax earnings 1,031 996 915 3 13
Net earnings 673 609 549 11 22
Net earnings applicable
to common stockholders 664 599 540 11 23
Earnings per common share
Basic 1.80 1.65 1.52 9 18
Diluted 1.57 1.44 1.31 9 20
Annualized return on average common
stockholders' equity 25.4% 24.6% 23.6%
Effective tax rate 30.0 34.0 37.1
- ----------------------------------------------------------------------------------------------------------------------------------
16
The following discussion compares the second quarters of 1999 and 1998 and,
where appropriate, contrasts the 1999 second and first quarters.
Merrill Lynch's net earnings were a record $673 million, up 22% and 11%,
respectively, from the $549 million and $609 million reported in the 1998 second
quarter and 1999 first quarter. Record revenues were achieved in commissions,
investment banking, asset management and portfolio service fees, and net
interest.
Net revenues were a record, up 12% and 3% from the 1998 second quarter and 1999
first quarter, respectively, to $5.4 billion in the 1999 second quarter.
Non-U.S. net revenues were 33% of total net revenues in the 1999 second quarter,
versus 28% in the 1998 second quarter and 36% in the 1999 first quarter.
For the 1999 first half, net earnings reached a record $1.3 billion, up 21% from
the previous record of $1.1 billion in the 1998 first half. Year-to-date
earnings per common share were $3.45 basic and $3.02 diluted, compared with
$2.96 basic and $2.57 diluted in the corresponding 1998 period. Annualized
return on average common stockholders' equity was 25.0% for the 1999 six months
versus 23.8% in the 1998 six months.
Earnings on a cash basis, which excludes goodwill amortization, were $729
million during the 1999 second quarter, up 21% from $604 million in the
corresponding 1998 period. On the same basis, earnings for the 1999 first six
months were $1.4 billion, up 19% from $1.2 billion for the 1998 first six
months.
Commissions revenues are summarized as follows:
- ---------------------------------------------------------------------------------------------------------------------------------
THREE MONTHS ENDED SIX MONTHS ENDED
--------------------------- --------------------------
JUNE 25, JUNE 26, % JUNE 25, JUNE 26, %
(in millions) 1999 1998 INC.(DEC.) 1999 1998 INC.(DEC.)
- ---------------------------------------------------------------------------------------------------------------------------------
Listed and over-the-counter $ 914 $ 763 20% $1,796 $1,568 15%
Mutual funds 469 518 (9) 952 997 (4)
Other 209 182 15 411 361 14
------ ------ ------ ------
Total $1,592 $1,463 9 $3,159 $2,926 8
====== ====== ====== ======
- ---------------------------------------------------------------------------------------------------------------------------------
Commissions revenues reached record levels due to higher fees from global listed
and over-the-counter securities transactions, partially offset by lower mutual
fund revenues. Listed securities revenues benefited from increased trading
volumes on most European and U.S. stock exchanges. Higher transaction volume
from Nasdaq retail equities led to an increase in over-the-counter securities
fees, while lower mutual fund sales contributed to a decline in mutual fund
commissions.
17
Significant components of interest and dividend revenues and interest expense
follow:
- ---------------------------------------------------------------------------------------------------------------------------------
THREE MONTHS ENDED SIX MONTHS ENDED
--------------------------- --------------------------
JUNE 25, JUNE 26, JUNE 25, JUNE 26,
(in millions) 1999 1998 1999 1998
- ---------------------------------------------------------------------------------------------------------------------------------
INTEREST AND DIVIDEND REVENUES
Resale agreements and securities
borrowed transactions $1,421 $2,046 $2,788 $4,020
Trading assets 790 1,247 1,741 2,434
Margin lending 685 726 1,368 1,393
Dividends 235 167 315 306
Other 601 565 1,201 1,086
------ ------ ------ ------
Total 3,732 4,751 7,413 9,239
====== ====== ====== ======
INTEREST EXPENSE
Repurchase agreements and securities
loaned transactions 1,258 1,859 2,494 3,604
Borrowings 1,104 1,431 2,215 2,792
Trading liabilities 424 719 951 1,488
Other 404 458 831 883
------ ------ ------ ------
Total 3,190 4,467 6,491 8,767
====== ====== ====== ======
NET INTEREST AND DIVIDEND PROFIT $ 542 $ 284 $ 922 $ 472
====== ====== ====== ======
- ---------------------------------------------------------------------------------------------------------------------------------
Interest and dividend revenues and expenses are a function of the level and mix
of interest-earning assets and interest-bearing liabilities and the prevailing
level, term structure, and volatility of interest rates. Net interest and
dividend profit nearly doubled from the 1998 second quarter, primarily due to
higher dividend revenues as well as a reduction in funding costs.
Merrill Lynch hedges certain of its long- and short-term borrowings, primarily
with interest rate and currency swaps, to better match the interest rate and
currency characteristics of the borrowings to the assets funded by borrowing
proceeds. The effect of this hedging activity, which is included in "Borrowings"
in the previous table, decreased interest expense by $87 million and $8
million for the 1999 and 1998 second quarters, respectively, and by $165
million and $22 million for the 1999 and 1998 six-months, respectively.
18
The following table provides information on aggregate trading revenues,
including related net interest. Interest revenue and expense amounts are based
on management's assessment of the cost to finance trading positions, after
consideration of the underlying liquidity of these positions.
Trading and related hedging and financing activities affect the recognition of
both principal transactions revenues and net interest and dividend revenues. In
assessing the profitability of its trading activities, Merrill Lynch aggregates
net interest and principal transactions revenues. For financial reporting
purposes, however, realized and unrealized gains and losses on trading
positions, including hedges, are recorded in principal transactions revenues.
The net interest carry (i.e., the spread representing interest earned less
financing costs) for trading positions, including hedges, is recorded either as
principal transactions revenues or net interest revenues, depending on the
nature of the specific instruments. Changes in the composition of trading
inventories and hedge positions can cause the recognition of revenues within
these categories to fluctuate.
- ---------------------------------------------------------------------------------------------------------------------------------
PRINCIPAL NET NET
TRANSACTIONS INTEREST TRADING
REVENUES REVENUES REVENUES
----------------- -------------------- --------------------
1999 1998 1999 1998 1999 1998
(in millions)
- ---------------------------------------------------------------------------------------------------------------------------------
SECOND QUARTER
- --------------
Equities and equity derivatives $ 419 $ 448 $184 $ 46 $ 603 $ 494
Debt 520 401 15 13 535 414
Mortgages and municipals 71 77 75 62 146 139
Foreign exchange 54 63 1 (1) 55 62
------ ------ ---- ---- ------ ------
Total $1,064 $ 989 $275 $120 $1,339 $1,109
====== ====== ==== ==== ====== ======
FIRST HALF
- ----------
Equities and equity derivatives $1,089 $ 921 $195 $ 56 $1,284 $ 977
Debt 1,107 975 96 (32) 1,203 943
Mortgages and municipals 205 155 150 121 355 276
Foreign exchange 108 109 1 (1) 109 108
------ ------ ---- ---- ------ ------
Total $2,509 $2,160 $442 $144 $2,951 $2,304
====== ====== ==== ==== ====== ======
- ---------------------------------------------------------------------------------------------------------------------------------
Net trading revenues increased 21% from the 1998 second quarter to $1.3 billion
in the 1999 second quarter. Higher revenues from equities and equity
derivatives, debt products, and mortgages and municipals, were partially offset
by a decline in foreign exchange revenues.
Equities and equity derivatives trading revenues were $603 million, up 22% from
the 1998 second quarter. Higher dividend revenues on European positions and
increased fees from U.S. equities, particularly in the technology sector, were
partially offset by lower revenues from both global equity derivatives and
non-U.S. equities.
Debt revenues were $535 million in the 1999 second quarter, up 29% from the
year-ago period, primarily due to higher revenues from non-U.S. debt products.
Improved market conditions compared with the 1998 second quarter contributed to
an increase in revenues from debt instruments primarily in Asia during the
quarter. Latin American debt revenues improved due in part to losses on certain
positions in the corresponding 1998 period. Japanese credit trading also rose
because of more favorable market conditions.
Mortgages and municipals revenues increased 5% to $146 million in the 1999
second quarter. Foreign exchange revenues were down 11% to $55 million in the
1999 second quarter due in part to lower demand for various currencies,
primarily the Japanese yen.
19
Investment banking revenues were $908 million in the 1999 second quarter, up 1%
from the 1998 second quarter and 44% from the 1999 first quarter. A summary of
Merrill Lynch's investment banking revenues follows:
- ---------------------------------------------------------------------------------------------------------------------------------
THREE MONTHS ENDED SIX MONTHS ENDED
-------------------------- --------------------------
JUNE 25, JUNE 26, % JUNE 25, JUNE 26, %
(in millions) 1999 1998 INC.(DEC.) 1999 1998 INC.(DEC.)
- ---------------------------------------------------------------------------------------------------------------------------------
Underwriting $594 $648 (8)% $1,021 $1,264 (19)%
Strategic services 314 250 25 519 465 12
---- ---- ------ ------
Total $908 $898 1 $1,540 $1,729 (11)
==== ==== ====== ======
- -------------------------------------------------------------------------------------------------------------------------------
Underwriting revenues declined from the 1998 second quarter as decreases in
revenues from most debt categories more than offset a substantial increase in
equity underwriting fees. Merrill Lynch remained the leading underwriter of
total debt issuances and total debt and equity offerings during the 1999 second
quarter. Merrill Lynch's underwriting market share information based on
transaction value follows:
- ---------------------------------------------------------------------------------------------------------------------------------
THREE MONTHS ENDED
---------------------------------------------
JUNE 25, 1999 JUNE 26, 1998
-------------------- ------------------
MARKET MARKET
SHARE RANK SHARE RANK
- ---------------------------------------------------------------------------------------------------------------------------------
U.S. PROCEEDS
Debt 14.2% 1 16.9% 1
Equity 10.7 3 15.0 2
Debt and Equity 13.9 1 16.9 1
GLOBAL PROCEEDS
Debt 11.5 1 14.7 1
Equity 11.3 3 12.4 2
Debt and Equity 11.6 1 14.7 1
- ---------------------------------------------------------------------------------------------------------------------------------
Source: Securities Data Co. ("SDC") statistics based on full credit to book
manager.
Strategic services fees increased 25% from the 1998 second quarter and over 50%
from the 1999 first quarter, benefiting from higher levels of merger and
acquisition activity. Deal flow remained strong, as evidenced by Merrill Lynch's
30.6% 1999 second quarter market share in global announced transactions. Merrill
Lynch's merger and acquisition market share information for the 1999 and 1998
second quarters based on transaction value follows:
- ---------------------------------------------------------------------------------------------------------------------------------
THREE MONTHS ENDED
---------------------------------------------
JUNE 25, 1999 JUNE 26, 1998
------------------- ------------------
MARKET MARKET
SHARE RANK SHARE RANK
- ---------------------------------------------------------------------------------------------------------------------------------
COMPLETED TRANSACTIONS
U.S. 20.4% 3 27.9% 1
Global 19.8 3 23.8 3
ANNOUNCED TRANSACTIONS
U.S. 34.5 2 35.9 2
Global 30.6 2 29.3 2
- ---------------------------------------------------------------------------------------------------------------------------------
Source: SDC statistics based on full credit to both target and acquiring
companies' advisors.
20
Merrill Lynch's asset management and portfolio service fees are summarized
below:
- ---------------------------------------------------------------------------------------------------------------------------------
THREE MONTHS ENDED SIX MONTHS ENDED
------------------------- ----------------------
JUNE 25, JUNE 26, % JUNE 25, JUNE 26, %
(in millions) 1999 1998 INC. (DEC.) 1999 1998 INC. (DEC.)
- ---------------------------------------------------------------------------------------------------------------------------------
Asset management fees $ 545 $ 531 2% $1,070 $1,052 2%
Portfolio service fees 362 288 25 695 540 29
Account fees 130 118 11 257 234 10
Other fees 122 147 (17) 246 288 (14)
------ ------ ------ ------
Total $1,159 $1,084 7 $2,268 $2,114 7
====== ====== ====== ======
- ---------------------------------------------------------------------------------------------------------------------------------
Asset management fees increased slightly from the 1998 second quarter due to
growth in assets under management, attributable to a net inflow of customer
assets and asset appreciation since June 26, 1998. However, during the 1999
second quarter assets under management had net redemptions from both retail and
institutional accounts. These outflows were more than offset by asset
appreciation and reinvested dividends. Portfolio service fees were up 25% from
the corresponding 1998 period due to record revenues from various fee-based
products, including both advisory services such as Merrill Lynch Consults
(Registered Trademark) and Merrill Lynch Mutual Fund Advisor (Service Mark)
(Merrill Lynch MFA (Registered Trademark)), and brokerage pricing
alternatives, such as Financial Advantage (Service Mark) and Asset Power
(Service Mark). Financial Advantage, the predecessor to Unlimited Advantage, a
nondiscretionary financial service, accounted for 24% of the total increase in
portfolio service fees, as the number of relationships tripled from the end of
the 1998 second quarter. See Strategic Business Initiatives for further
information regarding Unlimited Advantage. Account fees rose due in part to an
increase in Individual Retirement Account/Keogh and Cash Management Account
fees. Other fee-based revenues were down primarily due to lower fees from
mortgage-related activities, attributable in part to the 1998 third quarter sale
of a majority interest in Lender's Service, Inc., a residential real estate
services provider. Lower revenues from Visa card services also contributed to
the decline.
Total assets in client accounts or under management and assets under management
were $1.5 trillion and $516 billion, respectively, at the end of the 1999 second
quarter, representing increases of $150 billion and $25 billion, respectively,
from the end of the 1998 second quarter. The changes in these balances are noted
as follows:
- ---------------------------------------------------------------------------------------------------------------------------------
NET CHANGES DUE TO
-----------------------------
JUNE 26, NEW ASSET JUNE 25,
(in billions) 1998 MONEY(1) APPRECIATION(2) 1999
- ---------------------------------------------------------------------------------------------------------------------------------
Total assets in client accounts or
under management $1,380 $77 $73 $1,530
Total assets under management 491 19 6 516
- ---------------------------------------------------------------------------------------------------------------------------------
(1) Includes reinvested dividends of $11 billion.
(2) Includes foreign exchange translation adjustments of $(12) billion.
Other revenues increased 28% from the 1998 second quarter to $175 million in the
1999 second quarter, partly because of net realized investment gains,
distributions from partnership investments, and consulting revenues from Howard
Johnson & Co., a U.S. employee benefits consulting firm acquired during the 1998
fourth quarter.
21
Merrill Lynch's non-interest expenses are summarized below:
- ---------------------------------------------------------------------------------------------------------------------------------
THREE MONTHS ENDED SIX MONTHS ENDED
------------------------ ---------------------
JUNE 25, JUNE 26, JUNE 25, JUNE 26,
(in millions) 1999 1998 1999 1998
- ---------------------------------------------------------------------------------------------------------------------------------
Compensation and benefits $2,729 $2,473 $5,490 $4,971
------ ------ ------ ------
Non-interest expenses, excluding compensation and benefits:
Communications and technology 536 431 1,016 823
Occupancy and related depreciation 232 217 459 418
Advertising and market development 201 200 353 377
Brokerage, clearing, and exchange fees 170 167 324 323
Professional fees 143 143 261 295
Goodwill amortization 56 55 113 111
Other 342 254 663 517
------ ------ ------ ------
Total non-interest expenses,
excluding compensation and benefits 1,680 1,467 3,189 2,864
------ ------ ------ ------
Total non-interest expenses $4,409 $3,940 $8,679 $7,835
====== ====== ====== ======
Compensation and benefits
as a percentage of net revenues 50.2% 50.9% 51.3% 51.7%
Compensation and benefits as a percentage of
pre-tax earnings before compensation and benefits 72.6 73.0 73.0 73.6
- ---------------------------------------------------------------------------------------------------------------------------------
Non-interest expenses were $4.4 billion in the 1999 second quarter, up 12%
from the comparable 1998 period and 3% from the first quarter of 1999. Higher
communications and technology spending contributed to the increases in both
periods.
Compensation and benefits, the largest expense category, increased 10% to $2.7
billion in the 1999 second quarter, due to higher incentive and
production-related compensation and increased benefit costs. Benefit costs
were down, however, compared with the 1999 first quarter. Compensation and
benefits expense as a percentage of net revenues was 50.2% in the 1999 second
quarter, below second quarter 1998 and first quarter 1999 levels.
Communications and technology expense was $536 million, up 24% from the 1998
second quarter, principally as a result of increased systems consulting costs,
partly related to the Year 2000 initiative, and higher technology-related
depreciation. Occupancy and related depreciation rose 7% to $232 million due
in part to global expansion.
Advertising and market development expense was $201 million, up 1% from the
1998 second quarter as increased costs for advertising campaigns were
partially offset by a reduction in global travel and entertainment expenses.
Brokerage, clearing, and exchange fees rose 2% to $170 million due to higher
global trading volume.
Professional fees and goodwill amortization were $143 million and $56 million,
respectively, both virtually unchanged from a year ago.
Other expenses were $342 million, compared with $254 million in the year ago
quarter. This increase was due in part to higher provisions related to various
legal and business matters.
The effective tax rate was 30.0% in the 1999 second quarter, compared with
37.1% in the corresponding 1998 period, benefiting from tax-advantaged
financing and higher tax-exempt and non-U.S. income. The 1999 year-to-date
effective tax rate was 32.0% versus 34.0% for full-year 1998.
22
- -------------------------------------------------------------------------------
BUSINESS SEGMENTS
- -------------------------------------------------------------------------------
Merrill Lynch reports the results of its four strategic business priorities
within two business segments: Wealth Management and Corporate and Institutional
Client. Wealth Management comprises Merrill Lynch's U.S. Private Client,
International Private Client, and Asset Management strategic priorities, all of
which provide services related to the accumulation and management of wealth for
individual investors, corporations, institutions, and governments. These
strategic priorities serve largely the same customer base, provide similar
products and services, utilize comparable distribution channels to deliver those
products and services, operate in a highly regulated environment, and
accordingly, are managed and evaluated on an aggregate basis. The Corporate and
Institutional Client Group ("CICG"), Merrill Lynch's other strategic priority,
is reported as a separate business segment due to the distinct nature of the
products it provides and the clients it serves. CICG's activities primarily
involve providing equity and debt sales and trading, underwriting and strategic
advisory services, and other capital markets services to corporate,
institutional, and governmental clients throughout the world. For further
information on services provided to clients within these segments, see the 1998
Annual Report included as an exhibit to Form 10-K.
The segment operating results exclude certain corporate items, which reduced net
earnings for the 1999 and 1998 second quarters by $103 million and $104 million,
respectively. Corporate items reduced the 1999 and 1998 six-month net earnings
by $244 million and $227 million, respectively. (See Note 4 to Consolidated
Financial Statements - Unaudited.)
- --------------------------------------------------------------------------------
WEALTH MANAGEMENT
THREE MONTHS ENDED SIX MONTHS ENDED
------------------------- ------------------------
JUNE 25, JUNE 26, JUNE 25, JUNE 26,
(in millions) 1999 1998 1999 1998
- --------------------------------------------------------------------------------
Net revenues $3,117 $ 2,890 $6,171 $5,692
Net earnings 314 313 627 617
- --------------------------------------------------------------------------------
Net revenues for Wealth Management were $3.1 billion in the 1999 second quarter,
up 8% from $2.9 billion in the 1998 second quarter. However, net earnings were
virtually unchanged from the year-ago period, as higher net revenues were offset
by increased expenses, primarily in communications and technology and
advertising and market development. Increased trading volumes on global
exchanges and the continued growth in fee-based revenues, resulting from market
appreciation and net inflows of assets, led to record revenues in brokerage,
which includes commissions, and asset management and portfolio service fees.
In the U.S., total assets in client accounts or under management were $1.2
trillion at June 25, 1999, which included $310 billion in assets under
management. Outside the U.S., total assets in client accounts or under
management were $304 billion. Non-U.S. assets under management were $206 billion
at the end of the second quarter. In the asset management business, U.S. mutual
fund performance strengthened dramatically during the 1999 first half, as funds
containing over 80% of client assets outperformed their Lipper median. However,
during the 1999 second quarter accounts under management had net redemptions,
from both retail and institutional accounts. These outflows were more than
offset by asset appreciation and reinvested dividends. Initiatives in Japan
proceeded according to presently established targets during the quarter, with
net revenues double the 1999 first quarter level and client assets up nearly 50%
to $5.5 billion at quarter end. In Canada, results were in line with
expectations and client assets increased 12% from year-end 1998. Growth in
Merrill Lynch's fee-based products continued, particularly in Financial
Advantage, where account openings increased significantly and assets rose $6.5
billion during the quarter to $16.6 billion. Subsequent to quarter end, Merrill
Lynch introduced Unlimited Advantage, a nondiscretionary financial service,
which offers clients a comprehensive array of personal financial services. In
December 1999, Merrill Lynch will further its on-line trading capabilities with
the introduction of new Internet trading options. (See Strategic Business
Initiatives for further information.)
23
- -------------------------------------------------------------------------------
CICG
- -----------------------------------------------------------------------------------
THREE MONTHS ENDED SIX MONTHS ENDED
----------------------- ----------------------
June 25, June 26, June 25, June 26,
(in millions) 1999 1998 1999 1998
- -----------------------------------------------------------------------------------
Net revenues $2,386 $2,042 $4,664 $4,071
Net earnings 462 340 899 673
- -----------------------------------------------------------------------------------
CICG net revenues were $2.4 billion in the 1999 second quarter, up 17% from the
1998 second quarter. CICG net earnings also increased, up 36% from the 1998
second quarter to $462 million due to record revenues in equity businesses
and significantly higher strategic services fees. Record equity revenues
resulted primarily from sharply higher origination fees compared with the 1998
second quarter, partially offset by lower equity trading revenues. Debt trading
revenues benefited from improved market conditions particularly in Asia,
compared with the year-ago period, while debt origination fees declined during
part of the 1999 second quarter. Strategic services fees increased significantly
from both the 1998 second quarter and the 1999 first quarter, benefiting from
higher levels of merger and acquisition activity. During the 1999 second
quarter, Merrill Lynch also established the Direct Markets unit, an electronic
commerce initiative. (See Strategic Business Initiatives for further
information.)
- --------------------------------------------------------------------------------
CAPITAL ADEQUACY AND LIQUIDITY
- --------------------------------------------------------------------------------
The primary objectives of Merrill Lynch's capital structure and funding policies
are to:
1. Ensure sufficient equity capital to absorb losses,
2. Support the business strategies, and
3. Assure liquidity at all times, across market cycles, and through periods of
financial stress.
These objectives and Merrill Lynch's capital structure and funding policies are
discussed more fully in the 1998 Annual Report included as an exhibit to Form
10-K.
Among U.S. institutions engaged primarily in the global securities business,
Merrill Lynch is one of the most highly capitalized, with $11.0 billion in
common equity, $425 million in preferred stock, and $2.6 billion of preferred
securities issued by subsidiaries at June 25, 1999. Preferred securities issued
by subsidiaries consist primarily of Trust Originated Preferred
Securities(Service Mark)("TOPrS"(Service Mark)). Based on various analyses and
criteria, management believes that Merrill Lynch's equity capital base of $14.1
billion is adequate.
Merrill Lynch's leverage ratios were as follows:
- --------------------------------------- -------------- ----------------
ADJUSTED
LEVERAGE LEVERAGE
RATIO(1) RATIO(2)
- ----------------------------------------------------------------------
PERIOD-END
June 25, 1999 23.1x 14.0x
December 25, 1998 23.5x 15.5x
AVERAGE(3)
Six months ended June 25, 1999 24.3x 15.1x
Year ended December 25, 1998 32.9x 19.2x
- --------------------------------------- -------------- ----------------
(1) Total assets to total stockholders' equity and preferred securities
issued by subsidiaries.
(2) Total assets less (a) securities received as collateral, net of
securities pledged as collateral, (b) securities pledged as collateral,
and (c) receivables under resale agreements and securities borrowed
transactions, to total stockholders' equity and preferred securities
issued by subsidiaries.
(3) Computed using month-end balances.
An asset-to-equity leverage ratio does not reflect the risk profile of assets,
hedging strategies, or off-balance sheet exposures. Thus, Merrill Lynch does not
rely on overall leverage ratios to assess risk-based capital adequacy.
24
Commercial paper outstanding totaled $13.2 billion at June 25, 1999 and $16.8
billion at December 25, 1998, which was equal to 4.1% and 5.6% of total assets
at second quarter-end 1999 and year-end 1998, respectively. Outstanding
long-term borrowings decreased to $56.1 billion at June 25, 1999 from $57.6
billion at December 25, 1998. Major components of the change in long-term
borrowings during the 1999 first half follow:
- ---------------------------------------------------
(in billions)
- ---------------------------------------------------
Balance at December 25, 1998 $57.6
Issuances 11.4
Maturities (12.2)
Other, net (.7)
-----
Balance at June 25, 1999 (1) $56.1
=====
- ---------------------------------------------------
(1) At the end of the 1999 second quarter, $46.0 billion of long-term
borrowings had maturity dates beyond one year.
In addition to equity capital sources, Merrill Lynch views long-term debt as a
stable funding source for its core balance sheet assets. Other sources of
liquidity are unsecured bank credit facilities that, at June 25, 1999, totaled
$8.0 billion and were not drawn upon. Additionally, Merrill Lynch maintains
access to significant uncommitted credit lines, both secured and unsecured, from
a large group of banks.
The cost and availability of unsecured financing generally are dependent on
credit ratings. Merrill Lynch's senior long-term debt, preferred stock, and
TOPrS were rated by several recognized credit rating agencies at June 25, 1999
as follows:
- ------------------------------------------------------------------------------
SENIOR PREFERRED STOCK
DEBT AND TOPrS
RATING AGENCY RATINGS RATINGS
- ------------------------------------------------------------------------------
Duff & Phelps Credit Rating Co. AA AA-
Fitch IBCA, Inc. AA AA-
Japan Rating & Investment Information, Inc. AA Not Rated
Moody's Investors Service, Inc. Aa3 aa3
Standard & Poor's AA- A
Thomson BankWatch, Inc. AA+ Not Rated
- ------------------------------------------------------------------------------
25
- --------------------------------------------------------------------------------
CAPITAL PROJECTS AND EXPENDITURES
- --------------------------------------------------------------------------------
Merrill Lynch continually prepares for the future by expanding its operations
and investing in new technology to improve service to clients. For more
information, see the 1998 Annual Report included as an exhibit to Form 10-K.
- --------------------------------------------------------------------------------
YEAR 2000 COMPLIANCE
As the Year 2000 approaches, Merrill Lynch has undertaken initiatives to address
the Year 2000 problem (the "Y2K problem"), as more fully described in the 1998
Annual Report. The failure of Merrill Lynch's technology systems relating to a
Y2K problem would likely have a material adverse effect on the company's
business, results of operations, and financial condition. This effect could
include disruption of normal business transactions, such as the settlement,
execution, processing, and recording of trades in securities, commodities,
currencies, and other assets. The Y2K problem could also increase Merrill
Lynch's exposure to risk and legal liability and its need for liquidity.
The renovation phase of Merrill Lynch's Year 2000 system efforts, as described
in the 1998 Annual Report, was 100% completed as of June 30, 1999, and
production testing was 100% completed as of that date. In March and April 1999,
Merrill Lynch successfully participated in U.S. industrywide testing sponsored
by the Securities Industry Association. These tests involved an expanded number
of firms, transactions, and conditions compared with those previously conducted.
Merrill Lynch has participated in and continues to participate in numerous
industry tests throughout the world.
In light of the interdependency of the parties in or serving the financial
markets, there can be no assurance that all Y2K problems will be identified and
remedied on a timely basis or that all remediation will be successful. Public
uncertainty regarding successful remediation of the Y2K problem may cause a
reduction in activity in the financial markets. Disruption or suspension of
activity in the world's financial markets is also possible. In some non-U.S.
markets in which Merrill Lynch does business, the level of awareness and
remediation efforts relating to the Y2K problem are thought to be less advanced
than in the U.S. Management is unable at this point to ascertain whether all
significant third parties will successfully address the Y2K problem. Merrill
Lynch will continue to monitor third parties' Year 2000 readiness to determine
if additional or alternative measures are necessary. Contingency plans have been
established for all business units. However, the failure of exchanges, clearing
organizations, vendors, service providers, clients and counterparties,
regulators, or others to resolve their own processing issues in a timely manner
could have a material adverse effect on Merrill Lynch's business, results of
operations, and financial condition.
As of June 25, 1999, the total estimated expenditures of existing and
incremental resources for the Year 2000 compliance initiative are approximately
$520 million. This estimate includes $104 million of occupancy, communications,
and other related overhead expenditures, as Merrill Lynch is applying a fully
costed pricing methodology for this project. Of the total estimated
expenditures, approximately $80 million remains to be spent, primarily on
continued testing, contingency planning, and risk management. There can be no
assurance that the costs associated with remediation efforts will not exceed
those currently anticipated by Merrill Lynch, or that the possible failure of
such remediation efforts will not have a material adverse effect on Merrill
Lynch's business, results of operations, or financial condition.
- --------------------------------------------------------------------------------
AVERAGE ASSETS AND LIABILITIES
- --------------------------------------------------------------------------------
Merrill Lynch monitors changes in its balance sheet using average daily balances
that are determined on a settlement date basis and reported for management
information purposes. Financial statement balances are recorded on a trade date
basis as required under generally accepted accounting principles. The following
discussion compares changes in settlement date average daily balances.
26
For the six months of 1999, average total assets were $329 billion, down 4% from
$342 billion for the 1998 fourth quarter. Average total liabilities decreased 4%
to $315 billion from $329 billion for the 1998 fourth quarter. The major
components in the decline in average total assets and liabilities for the six
months of 1999 are summarized as follows:
- ----------------------------------------------------------------------------
(in millions) INCREASE (DECREASE) CHANGE
- ----------------------------------------------------------------------------
AVERAGE ASSETS
Trading assets $(9,814) (8)%
Securities pledged as collateral (2,660) (19)
Receivables under resale agreements
and securities borrowed transactions 2,278 2
- ----------------------------------------------------------------------------
AVERAGE LIABILITIES
Payables under repurchase agreements
and securities loaned transactions $(10,145) (9)%
Commercial paper and other short-term
borrowings (8,111) (24)
Obligation to return securities received
as collateral (954) (5)
Trading liabilities 3,976 6
Long-term borrowings 2,980 5
- ----------------------------------------------------------------------------
Merrill Lynch reduced its balance sheet levels during the 1998 fourth quarter.
Average balances in the 1999 first half were lower in comparison due to
continued reductions in debt trading assets and related funding, primarily
repurchase agreements. Lower matched-book activity also contributed to the
reductions in payables under repurchase agreements and securities loaned
transactions, as well as declines in securities pledged as collateral and
obligation to return securities received as collateral. The decrease in
commercial paper and other short-term borrowings resulted from a shift towards
longer-term borrowings, primarily during the 1999 first quarter, and reductions
in certain non-trading assets. Merrill Lynch continually monitors its balance
sheet and reassesses its funding needs.
- --------------------------------------------------------------------------------
NON-INVESTMENT GRADE HOLDINGS
- --------------------------------------------------------------------------------
Non-investment grade holdings, which include transactions with highly leveraged
counterparties, involve risks related to the creditworthiness of the issuers or
counterparties and the liquidity of the market for such investments. Merrill
Lynch recognizes these risks and, whenever possible, employs strategies to
mitigate exposures. The specific components and overall level of non-investment
grade positions may vary significantly from period to period as a result of
inventory turnover, investment sales, and asset redeployment.
In the normal course of business, Merrill Lynch underwrites, trades, and holds
non-investment grade cash instruments in connection with its investment banking,
market-making, and derivative structuring activities. Non-investment grade
trading inventories have increased in recent years to satisfy growing client
demand for higher-yielding investments, including emerging market and other
non-U.S. securities. During the past year, however, these exposures were reduced
in conjunction with the reduction in the balance sheet. Non-investment grade
holdings have been defined as debt and preferred equity securities rated as BB+
or lower, or equivalent ratings by recognized credit rating agencies, sovereign
debt in emerging markets, amounts due under derivative contracts from
non-investment grade counterparties, and other instruments that, in the opinion
of management, are non-investment grade.
27
Derivatives may also expose Merrill Lynch to credit risk related to the
underlying security where a derivative contract can either synthesize ownership
of the underlying security (e.g., long total return swap) or potentially force
ownership of the underlying security (e.g., short put option). In addition,
derivatives may subject Merrill Lynch to credit spread or issuer default risk,
in that changes in credit spreads or in the credit quality of the underlying
securities may adversely affect the derivatives' fair values. Merrill Lynch
engages in various hedging strategies to reduce its exposure associated with
non-investment grade positions, such as purchasing an option to sell the related
security or entering into other offsetting derivative contracts.
In addition to engaging in business involving non-investment grade positions,
Merrill Lynch provides financing and advisory services to, and invests in,
companies entering into leveraged transactions, which may include leveraged
buyouts, recapitalizations, and mergers and acquisitions. Merrill Lynch provides
extensions of credit to leveraged companies in the form of senior and
subordinated debt, as well as bridge financing on a select basis. In addition,
Merrill Lynch syndicates loans for non-investment grade companies or in
connection with highly leveraged transactions and may retain a residual portion
of these loans.
Merrill Lynch holds direct equity investments in leveraged companies and
interests in partnerships that invest in leveraged transactions. Merrill Lynch
has also committed to participate in limited partnerships that invest in
leveraged transactions. Future commitments to participate in limited
partnerships and other direct equity investments will be made on a select basis.
- --------------------------------------------------------------------------------
TRADING EXPOSURES
The following table summarizes Merrill Lynch's non-investment grade trading
exposures:
- --------------------------------------------------------------------
JUNE 25, DECEMBER 25,
(in millions) 1999(1) 1998
- --------------------------------------------------------------------
Trading assets:
Cash instruments $6,463 $7,606
Derivatives 4,187 4,675
Trading liabilities - cash instruments (1,151) (920)
Collateral on derivative assets (1,174) (2,192)
------ ------
Net trading asset exposure $8,325 $9,169
====== ======
- --------------------------------------------------------------------
(1) At June 25, 1999, Merrill Lynch had derivatives with a notional value of
$1.7 billion which may subject the company to additional future credit
exposure, and derivatives with investment grade counterparties with a
notional value of $1.1 billion which hedge certain on and off balance sheet
credit exposure.
Among the trading exposures included in the preceding table are debt and equity
securities and bank loans of companies in various stages of bankruptcy
proceedings or in default. At June 25, 1999, the carrying value of such debt and
equity securities totaled $90 million, of which 83% resulted from Merrill
Lynch's market-making activities in such securities. This compared with $74
million at December 25, 1998, of which 84% related to market-making activities.
Also included are distressed bank loans with a carrying value totaling $153
million and $156 million at June 25, 1999 and December 25, 1998, respectively.
28
- --------------------------------------------------------------------------------
NON-TRADING EXPOSURES
The following table summarizes Merrill Lynch's non-investment grade non-trading
exposures:
- --------------------------------------------------------------------
JUNE 25, DECEMBER 25,
(in millions) 1999 1998
- --------------------------------------------------------------------
Marketable investment securities $ 8 $ 39
Investments of insurance subsidiaries 110 148
Loans (net of allowance for loan losses):
Bridge loans - 66
Other loans(1) 727 1,058
Other investments:
Partnership interests(2) 1,094 852
Other equity investments(3) 326 459
- --------------------------------------------------------------------
(1) Represented outstanding loans to 117 and 80 companies at June 25, 1999 and
December 25, 1998, respectively.
(2) Included is $451 and $279 million in investments at June 25, 1999 and
December 25, 1998, respectively, related to deferred compensation plans,
for which the default risk of the investments generally rests with the
participating employees.
(3) Invested in 99 and 89 enterprises at June 25, 1999 and December 25, 1998,
respectively.
The following table summarizes Merrill Lynch's commitments with exposure to
non-investment grade counterparties:
- ----------------------------------------------------------------------------
JUNE 25, DECEMBER 25,
(in millions) 1999 1998
- ----------------------------------------------------------------------------
Additional commitments to invest in partnerships $ 205 $ 227
Unutilized revolving lines of credit and other
lending commitments 1,156 1,678
- ----------------------------------------------------------------------------
At June 25, 1999, the largest industry exposure was to the financial services
sector, which accounted for 38% of total non-investment grade positions.
29
- --------------------------------------------------------------------------------
STATISTICAL DATA
- --------------------------------------------------------------------------------
2ND QTR. 3RD QTR. 4TH QTR. 1ST QTR. 2ND QTR.
1998 1998 1998 1999 1999
--------- ---------- ---------- ---------- ----------
CLIENT ACCOUNTS (in billions):
U.S. Client Assets $ 1,110 $ 1,065 $ 1,164 $ 1,186 $ 1,226
Non-U.S. Client Assets 270 254 282 298 304
-------- -------- -------- -------- --------
Total Assets in Client Accounts or
Under Management $ 1,380 $ 1,319 $ 1,446 $ 1,484 $ 1,530
======== ======== ======== ======== ========
ASSETS UNDER MANAGEMENT: $ 491 $ 467 $ 501 $ 515 $ 516
Retail 263 255 276 274 275
Institutional 228 212 225 241 241
Equity 266 238 262 267 272
Fixed-Income/Other 225 229 239 248 244
U.S 292 279 298 306 310
Non-U.S 199 188 203 209 206
FEE-BASED PROGRAM ASSETS(a) $ 58 $ 55 $ 64 $ 70 $ 81
- -------------------------------------------------------------------------------------------------------------
UNDERWRITING:
Global Debt and Equity:
Volume (in billions) $ 120 $ 81 $ 87 $ 113 $ 105
Market Share 14.7% 13.5% 13.7% 11.7% 11.6%
U.S. Debt and Equity:
Volume (in billions) $ 104 $ 68 $ 71 $ 94 $ 80
Market Share 16.9% 14.9% 15.3% 15.4% 13.9%
- -------------------------------------------------------------------------------------------------------------
FULL-TIME EMPLOYEES:
U.S 47,600 47,700 46,500 46,100 46,700
Non-U.S 16,000 17,900 17,300 17,000 17,300
------- ------- ------- ------- -------
Total 63,600 65,600 63,800 63,100 64,000
======= ======= ======= ======= =======
Financial Consultants and
Other Investment Professionals 17,600 18,100 18,200 18,200 18,500
- -------------------------------------------------------------------------------------------------------------
INCOME STATEMENT:
Net Earnings (Loss) (in millions) $ 549 $ (163) $ 359 $ 609 $ 673
Economic Profit(b) 244 (485) 43 275 310
Annualized Return on Average
Common Stockholders' Equity 23.6% (7.3)% 14.8% 24.6% 25.4%
Earnings (Loss) per Common Share:
Basic $ 1.52 $ (.48) $ .97 $ 1.65 $ 1.80
Diluted 1.31 (.48) .86 1.44 1.57
- -------------------------------------------------------------------------------------------------------------
BALANCE SHEET (in millions):
Total Assets $370,571 $353,391 $299,804 $314,620 $324,740
Total Stockholders' Equity 9,897 9,779 10,132 10,692 11,446
Book Value Per Common Share 26.62 26.12 26.89 28.05 29.87
- -------------------------------------------------------------------------------------------------------------
SHARE INFORMATION (in thousands):
Weighted-Average Shares Outstanding:
Basic 355,289 357,620 359,864 364,039 368,273
Diluted 411,385 357,620 404,872 415,662 421,267
Common Shares Outstanding 356,280 358,492 361,209 366,168 368,960
- -------------------------------------------------------------------------------------------------------------
(a) Includes Merrill Lynch Consults(Registered Trademark), Mutual Fund
Advisor(Service Mark), Asset Power(Service Mark), Global Funds
Advisor(Service Mark), and Financial Advantage(Service Mark).
(b) Net earnings available to common shareholders less the cost of common
equity capital.
30
PART II - OTHER INFORMATION
---------------------------
Item 4. Submission of Matters to a Vote of Security Holders
---------------------------------------------------
On April 14, 1999, ML & Co. held its Annual Meeting of Stockholders. Further
details concerning matters submitted for vote of security holders can be found
in ML & Co.'s Quarterly Report on Form 10-Q for the quarter ended March 26,
1999.
Item 6. Exhibits and Reports on Form 8-K
--------------------------------
(a) Exhibits
(4) Instruments defining the rights of security holders, including
indentures:
Pursuant to Item 601(b)(4)(iii)(A) of Regulation S-K, ML & Co.
hereby undertakes to furnish to the Securities and Exchange
Commission (the "SEC"), upon request, copies of the instruments
defining the rights of holders of long-term debt securities of ML
& Co. that authorize an amount of securities constituting 10% or
less of the total assets of ML & Co. and its subsidiaries on a
consolidated basis.
(10)(i) Merrill Lynch & Co., Inc. Long-Term Incentive Compensation Plan,
as amended on July 26, 1999.
(ii) Merrill Lynch & Co., Inc. Long-Term Incentive Compensation Plan
for Managers and Producers, as amended on July 26, 1999.
(iii) Merrill Lynch & Co., Inc. Equity Capital Accumulation Plan, as
amended on July 26, 1999.
(11) Statement re: computation of per common share earnings.
(12) Statement re: computation of ratios.
(15) Letter re: unaudited interim financial information.
(27) Financial Data Schedule.
(b) Reports on Form 8-K
The following Current Reports on Form 8-K were filed by ML & Co. with the
SEC during the quarterly period covered by this Report:
(i) Current Report dated April 13, 1999 for the purpose of filing the
Preliminary Unaudited Earnings Summary of ML & Co. for the three-
month period ended March 26, 1999.
(ii) Current Report dated April 19, 1999 for the purpose of filing the
form of ML & Co.'s Consumer Staples Select Sector SPDRs(Registered
Trademark) Fund Market Index Target-Term Securities(Registered
Trademark) due April 19, 2006.
__________________
SPDRs is a registered trademark of The McGraw-Hill Companies, Inc. and has
been licensed for use in connection with the listing and trading of Select
Sector SPDRs on the American Stock Exchange.
31
(iii) Current Report dated May 26, 1999 for the purpose of filing the form
of ML & Co.'s Major 11 International Market Index Target-Term
Securities due May 26, 2006.
(iv) Current Report dated May 28, 1999 for the purpose of filing the form
of ML & Co.'s Select Sector SPDRs Fund Growth Portfolio Market
Index Target-Term Securities due May 25, 2006.
(v) Current Report dated May 28, 1999 for the purpose of filing the form
of the warrant agreement, including a form of the warrant, for ML &
Co.'s Russell 2000(Registered Trademark) Index Call Warrants
expiring May 25, 2001.
(vi) Current Report dated June 1, 1999 for the purpose of filing a press
release announcing a new model for personal financial services.
(vii) Current Report dated June 25, 1999 for the purpose of filing the
form of ML & Co.'s Market Index Target-Term Securities based upon
the Dow Jones Industrial Average(Service Mark) due June 26, 2006.
32
INDEX TO EXHIBITS
Exhibits
10(i) Merrill Lynch & Co., Inc. Long-Term Incentive Compensation Plan, as
amended on July 26, 1999.
(ii) Merrill Lynch & Co., Inc. Long-Term Incentive Compensation Plan for
Managers and Producers, as amended on July 26, 1999.
(iii) Merrill Lynch & Co., Inc. Equity Capital Accumulation Plan, as amended
on July 26, 1999.
11 Statement re: computation of per common share earnings.
12 Statement re: computation of ratios.
15 Letter re: unaudited interim financial information.
27 Financial Data Schedule.