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STT > SEC Filings for STT > Form 10-K on 21-Feb-2014All Recent SEC Filings

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Form 10-K for STATE STREET CORP


21-Feb-2014

Annual Report


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

GENERAL
State Street Corporation, or the parent company, is a financial holding company headquartered in Boston, Massachusetts. Unless otherwise indicated or unless the context requires otherwise, all references in this Management's Discussion and Analysis to "State Street," "we," "us," "our" or similar terms mean State Street Corporation and its subsidiaries on a consolidated basis. Our principal banking subsidiary is State Street Bank and Trust Company, or State Street Bank. As of December 31, 2013, we had consolidated total assets of $243.29 billion, consolidated total deposits of $182.27 billion, consolidated total shareholders' equity of $20.38 billion and 29,430 employees. With $27.43 trillion of assets under custody and administration and $2.35 trillion of assets under management as of December 31, 2013, we are a leading specialist in meeting the needs of institutional investors worldwide.
We have two lines of business:
Investment Servicing provides services for mutual funds, collective investment funds and other investment pools, corporate and public retirement plans, insurance companies, foundations and endowments worldwide. Products include custody; product- and participant-level accounting; daily pricing and administration; master trust and master custody; record-keeping; cash management; foreign exchange, brokerage and other trading services; securities finance; deposit and short-term investment facilities; loans and lease financing; investment manager and alternative investment manager operations outsourcing; and performance, risk and compliance analytics to support institutional investors.
Investment Management, through State Street Global Advisors, or SSgA, provides a broad array of investment management, investment research and investment advisory services to corporations, public funds and other sophisticated investors. SSgA offers strategies for managing financial assets, including passive and active, such as enhanced indexing, using quantitative and fundamental methods for both U.S. and global equities and fixed-income securities. SSgA also offers exchange-traded funds, or ETFs, such as the SPDR® ETF brand.
For financial and other information about our lines of business, refer to "Line of Business Information" included in this Management's Discussion and Analysis and in note 25 to the consolidated financial statements included under Item 8 of this Form 10-K.
This Management's Discussion and Analysis should be read in conjunction with the consolidated financial statements and accompanying notes to consolidated financial statements included under Item 8 of this Form 10-K. Certain previously reported amounts presented have been reclassified to conform to current-year presentation.
We prepare our consolidated financial statements in conformity with accounting principles generally accepted in the U.S., referred to as GAAP. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions in its application of certain accounting policies that materially affect the reported amounts of assets, liabilities, equity, revenue and expenses.
The significant accounting policies that require us to make estimates and assumptions that are difficult, subjective or complex about matters that are uncertain and may change in subsequent periods are accounting for fair value measurements; other-than-temporary impairment of investment securities; and impairment of goodwill and other intangible assets. These significant accounting policies require the most subjective or complex judgments, and underlying estimates and assumptions could be subject to revision as new information becomes available. An understanding of the judgments, estimates and assumptions underlying these significant accounting policies is essential in order to understand our reported consolidated results of operations and financial condition.
Certain financial information provided in this Management's Discussion and Analysis is prepared on both a GAAP, or reported basis, and a non-GAAP, or operating basis, including certain non-GAAP measures used in the calculation of identified regulatory capital ratios. We measure and compare certain financial information on an operating basis, as we believe that this presentation supports meaningful comparisons from period to period and the analysis of comparable financial trends with respect to State Street's normal ongoing business operations. We believe that operating-basis financial information, which reports non-taxable revenue, such as interest revenue associated with tax-exempt investment securities, on a fully taxable-equivalent basis, facilitates an investor's understanding and analysis of State Street's underlying financial performance and trends in addition to financial information prepared and reported in conformity with GAAP.


Table of Contents
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

We also believe that the use of certain non-GAAP measures in the calculation of identified regulatory capital ratios is useful in understanding State Street's capital position and is of interest to investors. Operating-basis financial information should be considered in addition to, not as a substitute for or superior to, financial information prepared in conformity with GAAP. Any non-GAAP, or operating-basis, financial information presented in this Management's Discussion and Analysis is reconciled to its most directly comparable GAAP-basis measure.
This Management's Discussion and Analysis contains statements that are considered "forward-looking statements" within the meaning of U.S. securities laws. Forward-looking statements are based on our current expectations about financial performance, capital, market growth, acquisitions, joint ventures and divestitures, new technologies, services and opportunities and earnings, management's confidence in our strategies and other matters that do not relate strictly to historical facts. These forward-looking statements involve certain risks and uncertainties which could cause actual results to differ materially. We undertake no obligation to revise the forward-looking statements contained in this Management's Discussion and Analysis to reflect events after the time we file this Form 10-K with the SEC. Additional information about forward-looking statements and related risks and uncertainties is provided in "Risk Factors" included under Item 1A of this Form 10-K.

OVERVIEW OF FINANCIAL RESULTS
Years Ended December 31,                                2013         2012         2011
(Dollars in millions, except per share amounts)
Total fee revenue                                    $  7,590     $  7,088     $  7,194
Net interest revenue                                    2,303        2,538        2,333
Gains (losses) related to investment securities, net       (9 )         23           67
Total revenue                                           9,884        9,649        9,594
Provision for loan losses                                   6           (3 )          -
Total expenses                                          7,192        6,886        7,058
Income before income tax expense                        2,686        2,766        2,536
Income tax expense(1)                                     550          705          616
Net income                                           $  2,136     $  2,061     $  1,920
Adjustments to net income:
Dividends on preferred stock                              (26 )        (29 )        (20 )
Earnings allocated to participating securities             (8 )        (13 )        (18 )
Net income available to common shareholders          $  2,102     $  2,019     $  1,882
Earnings per common share:
Basic                                                $   4.71     $   4.25     $   3.82
Diluted                                                  4.62         4.20         3.79
Average common shares outstanding (in thousands):
Basic                                                 446,245      474,458      492,598
Diluted                                               455,155      481,129      496,072
Cash dividends declared per common share             $   1.04     $    .96     $    .72
Return on average common equity                          10.5 %       10.3 %       10.0 %

(1) Amount for 2013 included an out-of-period income tax benefit of $71 million to adjust deferred taxes. Additional information about this out-of-period benefit is provided under "Income Tax Expense" in this Management's Discussion and Analysis and in note 23 to the consolidated financial statements included under Item 8 of this Form 10-K. Amounts for 2012 and 2011 reflected the net effects of certain tax matters ($7 million benefit and $55 million expense, respectively) associated with the 2010 Intesa acquisition. Amount for 2011 reflected a discrete income tax benefit of $103 million attributable to costs incurred in terminating former conduit asset structures. The following "Highlights" and "Financial Results" sections provide information related to significant events, as well as highlights of our consolidated financial results for 2013 presented in the table above. More detailed information about our consolidated financial results, including comparisons of our results for 2013 to those for 2012, is provided under "Consolidated Results of Operations," which follows these sections.


Table of Contents
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

Highlights
In March 2013, following the Federal Reserve's review of our 2013 capital plan, with respect to which the Federal Reserve did not object to the capital actions we proposed, our Board of Directors approved a new common stock purchase program authorizing the purchase by us of up to $2.10 billion of our common stock through March 31, 2014. In connection with this and a prior Board-approved program, we undertook the following activities in 2013:
• From April 1, 2013 through December 31, 2013, under the above-described March 2013 program, we purchased approximately 24.7 million shares of our common stock at an average price of $68.05 per share and an aggregate cost of $1.68 billion.

• In the first quarter of 2013, in completion of a separate program approved by the Board in March 2012, we purchased an aggregate of 6.5 million shares of our common stock at an average price of $54.95 per share and an aggregate cost of $360 million.

• In 2013, under both programs combined, we purchased approximately 31.2 million shares of our common stock at an average price of $65.30 per share and an aggregate cost of approximately $2.04 billion.

As of December 31, 2013, approximately $420 million remained available for purchases of our common stock under the March 2013 program.
In 2012, under the March 2012 program, we purchased an aggregate of 33.4 million shares of our common stock, at an aggregate cost of $1.44 billion. In February 2013, we declared a quarterly common stock dividend of $0.26 per share. This dividend represented an 8% increase over the quarterly common stock dividend of $0.24 per share declared by us in December 2012. In all of 2013, we declared aggregate quarterly common stock dividends of $1.04 per share, totaling approximately $463 million, compared to declarations of aggregate quarterly common stock dividends of $0.96 per share, totaling approximately $456 million, in 2012.
The Federal Reserve is currently conducting a review of 2014 capital plans submitted in January 2014 by us and other large bank holding companies. The levels at which we will be able to declare dividends and purchase shares of our common stock after March 2014 will depend on the Federal Reserve's assessment of our capital plan and our projected performance under the stress scenarios. While we anticipate that the Federal Reserve will not object to the continued return of capital to our shareholders through dividends and/or common stock purchases in 2014, we cannot provide assurance with respect to the Federal Reserve's assessment of our capital plan, or that we will be able to continue to return capital to our shareholders at any specific level.
Additional information about our common stock purchase program and our common stock dividends is provided under "Financial Condition - Capital" in this Management's Discussion and Analysis. In addition, information about dividends from our subsidiary banks is provided in "Related Stockholder Matters" included under Item 5, and in note 15 to the consolidated financial statements included under Item 8, of this Form 10-K.
In November 2013, we issued $1.0 billion of 3.70% senior notes due November 20, 2023. In addition, in May 2013, we issued $1.50 billion of senior and subordinated debt, composed of $500 million of 1.35% senior notes due May 15, 2018 and $1.0 billion of 3.10% subordinated notes due May 15, 2023. Additional information about these debt issuances is provided in note 10 to the consolidated financial statements included under Item 8 of this Form 10-K. In 2013, in connection with our continued implementation of our Business Operations and Information Technology Transformation program, we achieved incremental pre-tax expense savings of approximately $220 million, and as previously reported, we achieved incremental pre-tax expense savings of approximately $112 million in 2012 and $86 million in 2011, in each case compared to our 2010 expenses from operations, all else being equal. These pre-tax expense savings relate only to the Business Operations and Information Technology Transformation program and are based on projected improvement from our total 2010 expenses from operations. Our actual total expenses have increased since 2010, and may in the future increase or decrease, due to other factors. Additional information with respect to the program is provided under "Consolidated Results of Operations - Expenses" in this Management's Discussion and Analysis.
In January 2014, we entered into a settlement agreement with the U.K. Financial Conduct Authority as a result of our having charged six clients of our U.K. transition management business amounts in excess of the contractual terms in 2010 and 2011. We agreed to and paid a fine of approximately $38 million in January 2014, which we had accrued as of December 31, 2013. We incurred aggregate pre-tax costs in 2013 in connection with this matter of approximately $69 million, composed of the following:


Table of Contents
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

• Revenue rebates to affected clients of approximately $4 million, recorded as a reduction of other trading, transition management and brokerage revenue, a component of brokerage and other trading services revenue;

• Securities processing costs of approximately $27 million, recorded in securities processing costs (recoveries), a component of other expenses; and

•The above-described regulatory fine of approximately $38 million, recorded in other expenses. In addition to the above, we recorded approximately $15 million of revenue rebates in 2011 and approximately $17 million of revenue rebates and other costs in 2012 related to this matter. The securities processing costs described above reflected probable and estimable costs as of December 31, 2013 related to an operating loss. We resolved this in February 2014 at an additional cost of approximately $12 million. We have incurred total costs associated with this matter, since it arose in 2010, of approximately $113 million, excluding legal and professional fees. Additional information about this transition management matter is provided under "Legal and Regulatory Matters" in note 11 to the consolidated financial statements included under Item 8 of this Form 10-K. Financial Results
Total revenue for 2013 increased 2% compared to 2012, as a combined 10% increase in aggregate servicing fee and management fee revenue and a 5% increase in trading services revenue were partly offset by declines in net interest revenue and securities finance revenue of 9% and 11%, respectively.
Servicing fee revenue for 2013 increased 9% compared to 2012, mainly the result of stronger global equity markets, the impact of net new business installed, and the addition of revenue from the Goldman Sachs Administration Services, or GSAS, business, acquired in October 2012. Servicing fees generated outside the U.S. in both 2013 and 2012 were approximately 42% of total servicing fees for those periods. Management fee revenue increased 11% compared to 2012, primarily the result of stronger equity markets and the impact of net new business installed. Management fees generated outside the U.S. in 2013 and 2012 were approximately 36% and 37%, respectively, of total management fees for those periods. Trading services revenue for 2013, composed of revenue generated by foreign exchange trading and brokerage and other trading services, increased 5% compared to 2012. Revenue from foreign exchange trading was up 15%, with estimated indirect foreign exchange revenue up 15% and direct sales and trading foreign exchange revenue up 16%, from the prior year, with both increases mainly the result of higher client volumes, currency volatility and spreads. Brokerage and other trading services revenue declined 5% compared to 2012, primarily reflective of the impact of lower distribution fees associated with the SPDR® Gold ETF, which resulted from lower average gold prices and net outflows from the SPDR® Gold ETF. Securities finance revenue declined 11% for 2013 compared to 2012, generally the result of lower spreads and slightly lower lending volumes. Net interest revenue for 2013 declined 9% compared to 2012, generally the result of lower yields on earning assets related to lower global interest rates, partly offset by lower funding costs. The decline in net interest revenue also reflected the continued impact of the reinvestment of pay-downs on existing investment securities in lower-yielding investment securities. Net interest revenue for 2013 and 2012 included $137 million and $215 million, respectively, of discount accretion related to investment securities added to our consolidated statement of condition in connection with our consolidation of the commercial paper conduits in 2009.
Net interest margin, calculated on fully taxable-equivalent net interest revenue, declined 22 basis points to 1.37% in 2013 from 1.59% in 2012. Continued elevated levels of client deposits, amid continued market uncertainty, increased our average interest-earning assets, but negatively affected our net interest margin, as we generally placed a portion of these deposits with U.S. and non-U.S. central banks and earned the relatively low interest rates paid by the central banks on these balances. Discount accretion, fully taxable-equivalent net interest revenue and net interest margin are discussed in more detail under "Consolidated Results of Operations - Net Interest Revenue" in this Management's Discussion and Analysis.
Total expenses for 2013 increased 4% compared to 2012. Total expenses for 2013 reflected aggregate credits of $85 million, recorded in other expenses, related to gains and recoveries associated with Lehman Brothers-related assets. Total expenses for 2012 reflected a credit of $362 million, composed of recoveries associated with the 2008 Lehman Brothers bankruptcy, and aggregate credits of $30 million related to litigation and other settlement recoveries associated with Lehman Brothers-related matters. Excluding all of the Lehman Brothers-related credits recorded in 2013 and 2012, total expenses were essentially flat in the 2013-to-2012 comparison, at $7.28 billion for 2013 ($7.19 billion plus $85 million) compared to $7.28 billion for 2012 ($6.89 billion plus $362 million and $30 million).


Table of Contents
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

Compensation and employee benefits expenses were down 1% in 2013 compared to 2012, primarily due to savings associated with the implementation of our Business Operations and Information Technology Transformation program and lower benefit costs, partly offset by an increase in costs to support new business and higher incentive compensation. Information systems and communications expenses increased 11% compared to 2012, primarily from the planned transition of certain functions to third-party service providers in connection with the implementation of our Business Operations and Information Technology Transformation program and costs to support new business. Transaction processing services expenses were higher by 4%, the result of higher equity market values and higher transaction volumes in the asset servicing business. Finally, other expenses declined 1%, mainly the result of the above-described 2013 gains and recoveries associated with Lehman Brothers-related assets. Additional information with respect to our expenses is provided under "Consolidated Results of Operations - Expenses" in this Management's Discussion and Analysis.
In 2013, our global services business secured mandates for approximately $1.02 trillion of new business in assets to be serviced; of the total, $858 billion was installed prior to December 31, 2013, with the remaining $158 billion expected to be installed in 2014. The new business not installed by December 31, 2013 was not included in our assets under custody and administration as of that date, and had no impact on our servicing fee revenue for 2013, as the assets are not included until their installation is complete and we begin to service them. Once installed, the assets generate servicing fee revenue in subsequent periods in which the assets are serviced. The $1.02 trillion of new asset servicing business represents gross new business, and is not net of transfers of assets by us to subcustodians.
We will provide one or more of various services for these new assets to be serviced, including accounting, bank loan servicing, compliance reporting and monitoring, custody, depository banking services, foreign exchange, fund administration, hedge fund servicing, middle-office outsourcing, performance and analytics, private equity administration, real estate administration, securities finance, transfer agency, and wealth management services.
In 2013, SSgA had approximately $5 billion of net lost business in assets to be managed, generally composed of $34 billion of net outflows from alternative investments, partly offset by net inflows of $13 billion into managed cash, net inflows of $6 billion into equities, net inflows of $4 billion into multi-asset-class solutions and net inflows of $3 billion each into fixed-income and securities lending funds.
An additional $13 billion of new business awarded to SSgA but not installed by December 31, 2013 was not included in our assets under management as of that date, and had no impact on our management fee revenue for 2013, as the assets are not included until their installation is complete and we begin to manage them. Once installed, the assets generate management fee revenue in subsequent periods in which the assets are managed.
CONSOLIDATED RESULTS OF OPERATIONS
This section discusses our consolidated results of operations for 2013 compared to 2012, and should be read in conjunction with the consolidated financial statements and accompanying notes included under Item 8 of this Form 10-K. A comparison of consolidated results of operations for 2012 with those for 2011 is provided later in this Management's Discussion and Analysis under "Consolidated Results of Operations - Comparison of 2012 and 2011."
TOTAL REVENUE

                                                                                    % Change 2013 vs.
Years Ended December 31,                        2013         2012         2011             2012
(Dollars in millions)
Fee revenue:
Servicing fees                               $  4,819     $  4,414     $  4,382            9  %
Management fees                                 1,106          993          917           11
Trading services:
Foreign exchange trading                          589          511          683           15
Brokerage and other trading services              472          499          537           (5 )
Total trading services                          1,061        1,010        1,220            5
Securities finance                                359          405          378          (11 )
Processing fees and other                         245          266          297           (8 )
Total fee revenue                               7,590        7,088        7,194            7
Net interest revenue:
  Interest revenue                              2,714        3,014        2,946          (10 )
  Interest expense                                411          476          613          (14 )
Net interest revenue                            2,303        2,538        2,333           (9 )
Gains (losses) related to investment
securities, net                                    (9 )         23           67
Total revenue                                $  9,884     $  9,649     $  9,594            2

Our broad range of services generates fee revenue and net interest revenue. Fee revenue generated by our investment servicing and investment management businesses is augmented by trading services, securities finance and processing fees and other revenue. We earn net interest revenue from client deposits and short-term investment activities by providing deposit services and short-term investment vehicles, such as repurchase agreements and corporate commercial paper, to meet clients' needs for high-grade liquid investments, and investing these sources of funds and additional borrowings in assets yielding a higher rate.
Fee Revenue
Servicing and management fees collectively composed approximately 78% of our total fee revenue for 2013, compared to 76% for 2012. The level of these fees is influenced by several factors, including the mix and volume of our assets under custody and administration and our assets under management, the value and type of securities positions held (with respect to assets under custody) and the volume of portfolio transactions, and the types of products and services used by our clients, and is generally affected by changes in worldwide equity and fixed-income security valuations and trends in market asset class preferences.
Generally, servicing fees are affected by changes in daily average valuations of assets under custody and administration. Additional factors, such as the relative mix of assets serviced, the level of transaction volumes, changes in service level, the nature of services provided, balance credits, client minimum balances, pricing concessions and other factors, may have a significant effect on our servicing fee revenue.
Generally, management fees are affected by changes in month-end valuations of assets under management. Management fees for certain components of managed assets, such as ETFs, are affected by daily average valuations of assets under management. Management fee revenue is relatively more sensitive to market valuations than servicing fee revenue, since a higher proportion of the underlying services provided, and the associated management fees earned, are dependent on equity and fixed-income security valuations. Additional factors, such as the relative mix of assets managed, changes in service level and other factors, may have a significant effect on our management fee revenue. While certain management fees are directly determined by the values of assets under . . .

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