2008 ANNUAL REPORT
FINANCIAL CONTENTS
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Selected Financial Data
Overview
Recent Accounting Standards
Critical Accounting Policies
Risk Factors
Statements of Income Analysis
Business Segment Review
Fourth Quarter Review
Balance Sheet Analysis
Risk Management
Off-Balance Sheet Arrangements
Contractual Obligations and Other Commitments
Management’s Assessment as to the Effectiveness of Internal Control over Financial Reporting
Reports of Independent Registered Public Accounting Firm
Financial Statements
Consolidated Balance Sheets
Consolidated Statements of Income
Consolidated Statements of Changes in Shareholders’ Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
Summary of Significant Accounting and Reporting Policies
Business Combinations and Asset Acquisitions
Restrictions on Cash and Dividends
Securities
Loans and Leases and Allowance for Loan and Lease Losses
Loans Acquired in a Transfer
Bank Premises and Equipment
Goodwill
Intangible Assets
Sales of Receivables and Servicing Rights
Derivatives
Other Assets
Short-Term Borrowings
Long-Term Debt
Annual Report on Form 10-K
Consolidated Ten Year Comparison
Directors and Officers
Corporate Information
60
66
67
67
68
70
70
71
71
72
75
79
79
80
Commitments, Contingent Liabilities and Guarantees
Legal and Regulatory Proceedings
Related Party Transactions
Accumulated Other Comprehensive Income
Common, Preferred and Treasury Stock
Stock-Based Compensation
Other Noninterest Income and Other Noninterest Expense
Income Taxes
Retirement and Benefit Plans
Earnings Per Share
Fair Value Measurements
Certain Regulatory Requirements and Capital Ratios
Parent Company Financial Statements
Segments
14
15
16
17
20
24
30
35
37
41
52
53
54
55
56
57
58
59
81
83
84
85
86
87
89
89
91
92
93
97
98
99
101
115
116
FORWARD-LOOKING STATEMENTS
This report may contain forward-looking statements about Fifth Third Bancorp and/or the company as combined acquired entities within the meaning of Sections 27A of the
Securities Act of 1933, as amended, and Rule 175 promulgated thereunder, and 21E of the Securities Exchange Act of 1934, as amended, and Rule 3b-6 promulgated thereunder,
that involve inherent risks and uncertainties. This report may contain certain forward-looking statements with respect to the financial condition, results of operations, plans,
objectives, future performance and business of Fifth Third Bancorp and/or the combined company including statements preceded by, followed by or that include the words or
phrases such as “believes,” “expects,” “anticipates,” “plans,” “trend,” “objective,” “continue,” “remain” or similar expressions or future or conditional verbs such as “will,”
“would,” “should,” “could,” “might,” “can,” “may” or similar expressions. There are a number of important factors that could cause future results to differ materially from
historical performance and these forward-looking statements. Factors that might cause such a difference include, but are not limited to: (1) general economic conditions and
weakening in the economy, specifically the real estate market, either national or in the states in which Fifth Third, one or more acquired entities and/or the combined company do
business, are less favorable than expected; (2) deteriorating credit quality; (3) political developments, wars or other hostilities may disrupt or increase volatility in securities markets or
other economic conditions; (4) changes in the interest rate environment reduce interest margins; (5) prepayment speeds, loan origination and sale volumes, charge-offs and loan loss
provisions; (6) Fifth Third’s ability to maintain required capital levels and adequate sources of funding and liquidity; (7) maintaining capital requirements may limit Fifth Third’s
operations and potential growth; (8) changes and trends in capital markets; (9) problems encountered by larger or similar financial institutions may adversely affect the banking
industry and/or Fifth Third (10) competitive pressures among depository institutions increase significantly; (11) effects of critical accounting policies and judgments; (12) changes in
accounting policies or procedures as may be required by the Financial Accounting Standards Board (FASB) or other regulatory agencies; (13) legislative or regulatory changes or
actions, or significant litigation, adversely affect Fifth Third, one or more acquired entities and/or the combined company or the businesses in which Fifth Third, one or more
acquired entities and/or the combined company are engaged; (14) ability to maintain favorable ratings from rating agencies; (15) fluctuation of Fifth Third’s stock price; (16) ability
to attract and retain key personnel; (17) ability to receive dividends from its subsidiaries; (18) potentially dilutive effect of future acquisitions on current shareholders' ownership of
Fifth Third; (19) effects of accounting or financial results of one or more acquired entities; (20) difficulties in combining the operations of acquired entities; (21) lower than expected
gains related to any potential sale of businesses; (22) loss of income from any potential sale of businesses that could have an adverse effect on Fifth Third’s earnings and future
growth; (23) ability to secure confidential information through the use of computer systems and telecommunications networks; and (24) the impact of reputational risk created by
these developments on such matters as business generation and retention, funding and liquidity. Fifth Third undertakes no obligation to release revisions to these forward-looking
statements or reflect events or circumstances after the date of this report.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following is management’s discussion and analysis of certain significant factors that have affected Fifth Third Bancorp’s (the “Bancorp”
or “Fifth Third”) financial condition and results of operations during the periods included in the Consolidated Financial Statements, which are
a part of this report. Reference to the Bancorp incorporates the parent holding company and all consolidated subsidiaries.
TABLE 1: SELECTED FINANCIAL DATA
For the years ended December 31 ($ in millions, except per share data)
Income Statement Data
Net interest income (a)
Noninterest income
Total revenue (a)
Provision for loan and lease losses
Noninterest expense
Net income (loss)
Net income (loss) available to common shareholders
Common Share Data
Earnings per share, basic
Earnings per share, diluted
Cash dividends per common share
Book value per share
Financial Ratios
Return on assets
Return on average common equity
Average equity as a percent of average assets
Tangible equity
Tangible common equity
Net interest margin (a)
Efficiency (a)
Credit Quality
Net losses charged off
Net losses charged off as a percent of average loans and leases
Allowance for loan and lease losses as a percent of loans and leases
Allowance for credit losses as a percent of loans and leases (b)
Nonperforming assets as a percent of loans, leases and other assets,
including other real estate owned (c)
2008
$3,536
2,946
6,482
4,560
4,564
(2,113)
(2,180)
($3.94)
(3.94)
.75
13.57
(1.85%)
(23.0)
8.78
7.86
4.23
3.54
70.4
$2,710
3.23 %
3.31
3.54
2.96
2007
3,033
2,467
5,500
628
3,311
1,076
1,075
2.00
1.99
1.70
17.18
1.05
11.2
9.35
6.05
6.14
3.36
60.2
462
.61
1.17
1.29
1.32
2006
2,899
2,012
4,911
343
2,915
1,188
1,188
2.14
2.13
1.58
18.00
1.13
12.1
9.32
7.79
7.95
3.06
59.4
316
.44
1.04
1.14
.61
2005
2,996
2,374
5,370
330
2,801
1,549
1,548
2.79
2.77
1.46
16.98
1.50
16.6
9.06
6.87
7.22
3.23
52.1
299
.45
1.06
1.16
.52
2004
3,048
2,355
5,403
268
2,863
1,525
1,524
2.72
2.68
1.31
15.99
1.61
17.2
9.34
8.35
8.50
3.48
53.0
252
.45
1.19
1.31
.51
Average Balances
Loans and leases, including held for sale
Total securities and other short-term investments
Total assets
Transaction deposits (d)
Core deposits (e)
Wholesale funding (f)
Shareholders’ equity
Regulatory Capital Ratios
Tier I capital
Total risk-based capital
Tier I leverage
(a) Amounts presented on a fully taxable equivalent basis (FTE). The taxable equivalent adjustments for years ending December 31, 2008, 2007, 2006, 2005 and 2004 were $22 million, $24
73,493
21,288
105,238
49,678
60,178
31,691
9,811
$85,835
14,045
114,296
52,584
63,719
36,357
10,038
78,348
11,994
102,477
50,987
61,765
27,254
9,583
67,737
24,999
102,876
48,177
56,668
33,615
9,317
57,042
30,597
94,896
43,260
49,468
33,629
8,860
10.59 %
14.78
10.27
8.39
11.07
8.44
8.35
10.42
8.08
7.72
10.16
8.50
10.31
12.31
8.89
million, $26 million, $31 million and $36 million, respectively.
(b) The allowance for credit losses is the sum of the allowance for loan and lease losses and the reserve for unfunded commitments.
(c) Excludes nonaccrual loans held for sale.
(d) Includes demand, interest checking, savings, money market and foreign office deposits.
(e) Includes transaction deposits plus other time deposits.
(f) Includes certificates $100,000 and over, other foreign office deposits, federal funds purchased, short-term borrowings and long-term debt.
TABLE 2: QUARTERLY INFORMATION (unaudited)
For the three months ended ($ in millions, except per share data)
Net interest income (FTE)
Provision for loan and lease losses
Noninterest income
Noninterest expense
Net income (loss)
Net income (loss) available to common shareholders
Earnings per share, basic
Earnings per share, diluted
2008
12/31
$897
2,356
642
2,022
(2,142)
(2,184)
(3.82)
(3.82)
9/30
1,068
941
717
967
(56)
(81)
(.14)
(.14)
6/30
744
719
722
858
(202)
(202)
(.37)
(.37)
3/31
826
544
864
715
286
286
.54
.54
12/31
785
284
509
940
16
16
.03
.03
2007
9/30
760
139
681
853
325
325
.61
.61
6/30
745
121
669
765
376
376
.69
.69
3/31
742
84
608
753
359
359
.65
.65
14 Fifth Third Bancorp
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
This overview of management’s discussion and analysis highlights
selected information in the financial results of the Bancorp and
may not contain all of the information that is important to you.
trends, events,
For a more complete understanding of
commitments, uncertainties, liquidity, capital resources and critical
accounting policies and estimates, you should carefully read this
entire document. Each of these items could have an impact on
the Bancorp’s financial condition, results of operations and cash
flows.
The Bancorp is a diversified financial services company
headquartered in Cincinnati, Ohio. At December 31, 2008, the
Bancorp had $119.8 billion in assets, operated 18 affiliates with
1,307 full-service Banking Centers including 92 Bank Mart®
locations open seven days a week inside select grocery stores and
2,341 Jeanie® ATMs in the Midwestern and Southeastern regions
of the United States. The Bancorp reports on five business
segments: Commercial Banking, Branch Banking, Consumer
Lending, Fifth Third Processing Solutions (FTPS) and Investment
Advisors.
The Bancorp believes that banking is first and foremost a
relationship business where the strength of the competition and
challenges for growth can vary in every market. Its affiliate-
operating model provides a competitive advantage by keeping the
decisions close to the customer and by emphasizing individual
relationships. Through its affiliate-operating model, individual
managers from the banking center to the executive level are given
the opportunity to tailor financial solutions for their customers.
The Bancorp’s revenues are dependent on both net interest
income and noninterest income. For the year ended December
31, 2008, net interest income, on a fully taxable equivalent (FTE)
basis, and noninterest income provided 55% and 45% of total
revenue, respectively. Changes in interest rates, credit quality,
economic trends and the capital markets are primary factors that
drive the performance of the Bancorp. As discussed later in the
identification, measurement,
Risk Management section, risk
monitoring, control and reporting are
the
important
management of risk and to the financial performance and capital
strength of the Bancorp.
to
Net interest income is the difference between interest income
earned on assets such as loans, leases and securities, and interest
expense incurred on liabilities such as deposits, short-term
borrowings and long-term debt. Net interest income is affected
by the general level of interest rates, the relative level of short-
term and long-term interest rates, changes in interest rates and
changes in the amount and composition of interest-earning assets
and interest-bearing liabilities. Generally, the rates of interest the
Bancorp earns on its assets and pays on its liabilities are
established for a period of time. The change in market interest
rates over time exposes the Bancorp to interest rate risk through
potential adverse changes to net interest income and financial
position. The Bancorp manages this risk by continually analyzing
and adjusting the composition of its assets and liabilities based on
their payment streams and interest rates, the timing of their
maturities and their sensitivity to changes in market interest rates.
Additionally, in the ordinary course of business, the Bancorp
enters into certain derivative transactions as part of its overall
strategy to manage its interest rate and prepayment risks. The
Bancorp is also exposed to the risk of losses on its loan and lease
portfolio as a result of changing expected cash flows caused by
loan defaults and inadequate collateral due to a weakening
economy within the Bancorp’s footprint.
Net interest income, net interest margin and the efficiency
ratio are presented in Management’s Discussion and Analysis of
Financial Condition and Results of Operations on an FTE basis.
The FTE basis adjusts for the tax-favored status of income from
certain loans and securities held by the Bancorp that are not
taxable for federal income tax purposes. The Bancorp believes
this presentation to be the preferred industry measurement of net
interest income as it provides a relevant comparison between
taxable and non-taxable amounts.
Noninterest income is derived primarily from electronic
funds transfer (EFT) and merchant transaction processing fees,
card interchange, fiduciary and investment management fees,
corporate banking revenue, service charges on deposits and
mortgage banking revenue. Noninterest expense is primarily
driven by personnel costs and occupancy expenses, in addition to
expenses incurred in the processing of credit and debit card
transactions for
its customers and merchant and financial
institution clients.
On May 2, 2008, the Bancorp completed the purchase of
nine branches located in Atlanta and deposits of $114 million
from First Horizon National Corporation (First Horizon). On
June 6, 2008, the Bancorp completed its acquisition of First
Charter Corporation (First Charter), a regional financial services
company with assets of $4.8 billion that operated 57 branches in
North Carolina and 2 in suburban Atlanta, paying $31.00 per First
Charter share, or approximately $1.1 billion. On October 31,
2008, the Bancorp assumed approximately $257 million of
deposits from the Federal Deposit Insurance Corporation (FDIC)
acting as receiver for Freedom Bank in Bradenton, Florida.
Earnings Summary
During 2008, the Bancorp continued to be affected by the
economic slowdown and market disruptions. The Bancorp’s net
loss was $2.2 billion, or $3.94 per diluted share, which included
$67 million in preferred stock dividends. Net income was $1.1
billion, or $1.99 per diluted share, for 2007. Results for both years
reflect a number of significant items.
Items affecting 2008 include:
•
•
•
•
•
•
to
to noninterest expense
$965 million of noninterest expense due to a goodwill
impairment charge reflecting the decline in estimated
fair values of certain of the Bancorp’s business reporting
units below their carrying values and the determination
that the implied fair values of the reporting units were
less than their carrying values;
$339 million and $19 million of net interest income due
to the accretion of purchase accounting adjustments
related
loans and deposits, respectively, from
acquisitions during 2008;
$273 million of other noninterest income related to the
redemption of a portion of Fifth Third’s ownership
interests in Visa, Inc. (Visa) and $99 million in net
reductions
the
recognition of the Bancorp’s proportional share of the
Visa escrow account, partially offset by additional
charges for probable future Visa litigation settlements;
$229 million after-tax impact of charges relating to a
change in the projected timing of cash flows relating to
income taxes for certain leveraged leases. This charge
consisted of approximately $130 million pre-tax,
reflected as a reduction in interest income, and an
increase of approximately $140 million in tax expense
required for interest;
$215 million reduction to other noninterest income to
reflect the lower cash surrender value of one of the
Bancorp’s Bank Owned Life Insurance (BOLI) policies;
$104 million reduction to noninterest income due to
other-than-temporary impairment (OTTI) charges on
Federal National Mortgage Association (FNMA) and
Federal Home Loan Mortgage Corporation (FHLMC)
to reflect
Fifth Third Bancorp 15
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
in 2007
included $172 million
aforementioned $99 million reduction to expenses related to Visa
litigation reserves and Visa’s funding of an escrow account, $65
million increases in salaries and benefits from the adoption of
SFAS No. 159, and $36 million in litigation expense due to the
successful resolution of the CitFed litigation. Noninterest
expense
the
indemnification of estimated current and future Visa litigation
settlements. The growth in noninterest expense can also be
attributed to increased FDIC insurance due to the depletion of the
Bancorp’s prior FDIC insurance premium credits in 2008, a
higher provision for unfunded commitments, increases in the
credit component of fair value marks on counterparty derivatives,
increases in loan and lease processing costs from higher collection
activities over the past year and
increased volume-related
processing expenses.
related
to
portfolios.
and
loan
consumer
commercial
The Bancorp does not originate subprime mortgage loans,
does not hold credit default swaps and does not hold asset-backed
securities backed by subprime mortgage loans in its securities
portfolio. However, the Bancorp has exposure to disruptions in
the capital markets and weakening economic conditions. The
housing markets continued to weaken during 2008, particularly in
the upper Midwest and Florida. Additionally, economic conditions
deteriorated throughout 2008, putting significant stress on the
Bancorp’s
Consequently, the provision for loan and lease losses increased to
$4.6 billion for the year ended December 31, 2008 compared to
$628 million during 2007. Net charge-offs as a percent of average
loans and leases were 3.23% in 2008 compared to .61% in 2007.
At December 31, 2008, nonperforming assets as a percent of
loans, leases and other assets, including other real estate owned
(excluding nonaccrual loans held for sale) increased to 2.96%
from 1.32% at December 31, 2007. During the fourth quarter of
2008, the Bancorp sold or transferred to held-for-sale $1.3 billion
in carrying value of commercial loans and incurred $800 million in
charge-offs on those loans, in order to address some of the more
problematic loan portfolios, specifically real estate loans in Florida
and Michigan. Refer to the Credit Risk Management section in
Management’s Discussion and Analysis for more information on
credit quality.
In response to the current economic operating environment
and uncertain future trends, the Bancorp took actions to
strengthen its capital position in 2008. During the second quarter
of 2008, management raised its capital target to an eight to nine
percent Tier 1 capital ratio and issued approximately $1.0 billion
in Tier 1 capital in the form of convertible preferred shares.
During 2008, the Bancorp reduced its common dividend due to
the outlook for a continued negative credit environment,
preserving over $580 million of capital in 2008 relative to the prior
level, and nearly $1.0 billion in 2009. On December 31, 2008, the
Bancorp received $3.4 billion as part of the U.S. Department of
Treasury (U.S Treasury) Capital Purchase Program (CPP) and
issued senior preferred stock and ten-year warrants under the
terms of the program - impacting the Bancorp’s Tier 1 capital
ratio and total risk-based capital ratio by approximately 3.00%.
The Bancorp’s capital ratios exceed
the “well-capitalized”
guidelines as defined by the Board of Governors of the Federal
Reserve System (FRB). As of December 31, 2008, the Tier 1
capital ratio was 10.59%, the Tier 1 leverage ratio was 10.27% and
the total risk-based capital ratio was 14.78%.
•
•
trust preferred
preferred stock and certain bank
securities;
$76 million of other noninterest income, partially offset
by $36 million in related litigation expense, due to the
successful resolution of a court case related to goodwill
created in the 1998 acquisition of CitFed (the CitFed
litigation); and
Preferred stock dividends increased from $1 million to
$67 million in 2008 due to the issuance of Series G
preferred stock in the second quarter of 2008 and
repurchase of Series D and Series E preferred stock in
the fourth quarter of 2008. The repurchase of Series D
and Series E preferred stock resulted in preferred stock
dividends of $19 million, which was the amount of the
repurchase price in excess of the par value of the
preferred stock.
For comparison purposes, items affecting 2007 include:
•
•
•
•
$177 million reduction to other noninterest income to
reflect the lower cash surrender value of one of the
Bancorp’s BOLI policies;
$172 million of other noninterest expense relating to the
indemnification of estimated current and future Visa
litigation settlements;
$16 million of noninterest income from the sale of non-
strategic credit card accounts; and
$15 million of other noninterest income from the sale of
FDIC deposit insurance credits.
Net interest income (FTE) increased to $3.5 billion, from
$3.0 billion in 2007. The primary reason for the 17% increase in
net interest income was an 11% increase in average interest-
earning assets. Additionally, the benefit from the accretion of
purchase accounting adjustments related to the second quarter
acquisition of First Charter, totaling $358 million, was largely
offset by $130 million in charges relating to leveraged leases and
the cost of carrying higher balances of nonaccrual loans and
leases. Net interest margin was 3.54% in 2008, an increase of 18
basis points (bp) from 2007.
Noninterest income increased 19%, from $2.5 billion to $2.9
billion, in 2008. The increase in noninterest income was impacted
by a $273 million gain related to the redemption of a portion of
Fifth Third’s ownership interests in Visa, offset by $104 million
due to OTTI charges on FNMA and FHLMC preferred stock and
certain bank trust preferred securities. Growth occurred in several
categories compared to 2007. Electronic payment processing
revenue increased 11% due to higher transaction volumes.
Service charges on deposits grew 11% due to decreased earnings
credits and higher customer activity. Corporate banking revenue
increased 21% as the Bancorp realized growth from the buildout
of its suite of commercial products in 2007. Mortgage banking
net revenue increased 50% due to higher sales margins, increased
volume of portfolio loans sold and the impact of Statement of
Financial Accounting Standards (SFAS) No. 159, “The Fair Value
Option for Financial Assets and Financial Liabilities - Including an
Amendment of FASB Statement No. 115”.
Noninterest expense increased $1.3 billion compared to
2007. Noninterest expense in 2008 included $965 million of
noninterest expense due to a goodwill impairment charge, the
RECENT ACCOUNTING STANDARDS
Note 1 of the Notes to Consolidated Financial Statements
provides a discussion of the significant new accounting standards
adopted by the Bancorp during 2008 and 2007 and the expected
impact of significant accounting standards issued, but not yet
required to be adopted.
16 Fifth Third Bancorp
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
CRITICAL ACCOUNTING POLICIES
The Bancorp’s Consolidated Financial Statements are prepared in
accordance with accounting principles generally accepted in the
United States of America. Certain accounting policies require
management to exercise judgment in determining methodologies,
economic assumptions and estimates that may materially affect
the value of the Bancorp’s assets or liabilities and results of
operations and cash flows. The Bancorp has six critical
accounting policies, which include the accounting for allowance
for loan and lease losses, reserve for unfunded commitments,
income
fair value
measurements and goodwill. No material changes have been
made during the year ended December 31, 2008 to the valuation
techniques or models described below.
taxes, valuation of
servicing
rights,
Allowance for Loan and Lease Losses
The Bancorp maintains an allowance to absorb probable loan and
lease losses inherent in the portfolio. The allowance is maintained
at a level the Bancorp considers to be adequate and is based on
ongoing quarterly assessments and evaluations of the collectibility
and historical loss experience of loans and leases. Credit losses
are charged and recoveries are credited to the allowance.
Provisions for loan and lease losses are based on the Bancorp’s
review of the historical credit loss experience and such factors
that, in management’s judgment, deserve consideration under
existing economic conditions in estimating probable credit losses.
In determining the appropriate level of the allowance, the
Bancorp estimates losses using a range derived from “base” and
“conservative” estimates. The Bancorp’s strategy for credit risk
management includes a combination of conservative exposure
limits significantly below legal lending limits and conservative
underwriting, documentation and collections standards. The
strategy also emphasizes diversification on a geographic, industry
and customer level, regular credit examinations and quarterly
management reviews of
loans
experiencing deterioration of credit quality.
large credit exposures and
Larger commercial loans that exhibit probable or observed
credit weakness are subject to individual review. When individual
loans are
impaired, allowances are determined based on
management’s estimate of the borrower’s ability to repay the loan
given the availability of collateral and other sources of cash flow,
as well as an evaluation of legal options available to the Bancorp.
The review of individual loans includes those loans that are
impaired as provided in SFAS No. 114, “Accounting by Creditors
for Impairment of a Loan.” Any allowances for impaired loans
are measured based on the present value of expected future cash
flows discounted at the loan’s effective interest rate, the fair value
of the underlying collateral or readily observable secondary market
values. The Bancorp evaluates the collectibility of both principal
and interest when assessing the need for a loss accrual. Historical
loss rates are applied to commercial loans that are not impaired or
are impaired but smaller than an established threshold and thus
not subject to specific allowance allocations. The loss rates are
derived from a migration analysis, which tracks the historical net
charge-off experience sustained on loans according to their
internal risk grade. The risk grading system currently utilized for
allowance analysis purposes encompasses ten categories.
Homogenous loans and leases, such as consumer installment
and residential mortgage loans, are not individually risk graded.
Rather, standard credit scoring systems and delinquency
monitoring are used to assess credit risks. Allowances are
established for each pool of loans based on the expected net
charge-offs. Loss rates are based on the average net charge-off
history by loan category. Historical loss rates for commercial and
consumer loans may be adjusted for significant factors that, in
management’s judgment, are necessary to reflect losses inherent in
the portfolio. Factors that management considers in the analysis
include the effects of the national and local economies; trends in
the nature and volume of delinquencies, charge-offs and
nonaccrual loans; changes in loan mix; credit score migration
comparisons; asset quality trends; risk management and loan
administration; changes in the internal lending policies and credit
standards; collection practices; and examination results from bank
regulatory agencies and the Bancorp’s internal credit examiners.
specified
The Bancorp’s current methodology for determining the
allowance for loan and lease losses is based on historical loss rates,
current credit grades, specific allocation on impaired commercial
credits above
thresholds and other qualitative
adjustments. Allowances on individual loans and historical loss
rates are reviewed quarterly and adjusted as necessary based on
changing borrower and/or collateral conditions and actual
collection and charge-off experience. An unallocated allowance is
maintained to recognize the imprecision in estimating and
measuring loss when evaluating allowances for individual loans or
pools of loans.
Loans acquired by the Bancorp through a purchase business
combination are evaluated for credit impairment at acquisition.
Reductions to the carrying value of the acquired loans as a result
of credit impairment are recorded as an adjustment to goodwill.
The Bancorp does not carry over the acquired company’s
allowance for loan and lease losses, nor does the Bancorp add to
its existing allowance for the acquired loans as part of purchase
accounting.
the allowance
The Bancorp’s determination of
for
commercial loans is sensitive to the risk grade it assigns to these
loans. In the event that 10% of commercial loans in each risk
category would experience a downgrade of one risk category, the
allowance for commercial loans increase by approximately $190
million at December 31, 2008. The Bancorp’s determination of
the allowance for residential and retail loans is sensitive to changes
in estimated loss rates. In the event that estimated loss rates
increase by 10%, the allowance for residential and consumer loans
would increase by approximately $100 million at December 31,
As several quantitative and qualitative factors are
2008.
considered in determining the allowance for loan and lease losses,
these sensitivity analyses do not necessarily reflect the nature and
extent of future changes in the allowance for loan and lease losses.
They are intended to provide insights into the impact of adverse
changes in risk grades and estimated loss rates and do not imply
any expectation of future deterioration in the risk ratings or loss
rates. Given current processes employed by the Bancorp,
management believes the risk grades and estimated loss rates
currently assigned are appropriate.
The Bancorp’s primary market areas for lending are the
Midwestern and Southeastern regions of the United States. When
evaluating the adequacy of allowances, consideration is given to
these
the closely
associated effect changing economic conditions have on the
Bancorp’s customers.
regional geographic concentrations and
Reserve for Unfunded Commitments
The reserve for unfunded commitments is maintained at a level
believed by management to be sufficient to absorb estimated
probable losses related to unfunded credit facilities and is included
in other liabilities in the Consolidated Balance Sheets. The
determination of the adequacy of the reserve is based upon an
including an
the unfunded credit facilities,
evaluation of
assessment of historical commitment utilization experience, credit
risk grading and credit grade migration. Net adjustments to the
reserve for unfunded commitments are
in other
noninterest expense in the Consolidated Statements of Income.
included
Fifth Third Bancorp 17
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Income Taxes
The Bancorp estimates income tax expense based on amounts
expected to be owed to the various tax jurisdictions in which the
Bancorp conducts business. On a quarterly basis, management
assesses the reasonableness of its effective tax rate based upon its
current estimate of the amount and components of net income,
tax credits and the applicable statutory tax rates expected for the
full year. The estimated income tax expense is recorded in the
Consolidated Statements of Income.
Deferred income tax assets and liabilities are determined
using the balance sheet method and are reported in either other
assets or accrued taxes, interest and expenses in the Consolidated
Balance Sheets. Under this method, the net deferred tax asset or
liability is based on the tax effects of the differences between the
book and tax basis of assets and liabilities and recognizes enacted
changes in tax rates and laws. Deferred tax assets are recognized
to the extent they exist and are subject to a valuation allowance
based on management’s judgment that realization is more-likely-
than-not.
Accrued taxes represent the net estimated amount due to
taxing jurisdictions and are reported in accrued taxes, interest and
expenses in the Consolidated Balance Sheets. The Bancorp
evaluates and assesses the relative risks and appropriate tax
treatment of transactions and filing positions after considering
statutes, regulations, judicial precedent and other information and
maintains tax accruals consistent with its evaluation of these
relative risks and merits. Changes to the estimate of accrued taxes
occur periodically due to changes in tax rates, interpretations of
tax laws, the status of examinations being conducted by taxing
authorities and changes to statutory, judicial and regulatory
guidance that impact the relative risks of tax positions. These
changes, when they occur, can affect deferred taxes and accrued
taxes as well as the current period’s income tax expense and can
be significant to the operating results of the Bancorp. As
described
in Note 16 of the Notes to
Consolidated Financial Statements, the Internal Revenue Service
(IRS) has challenged the Bancorp’s tax treatment of certain leasing
transactions. For additional information on income taxes, see
Note 22 of the Notes to Consolidated Financial Statements.
in greater detail
Valuation of Servicing Rights
When the Bancorp sells loans through either securitizations or
individual loan sales in accordance with its investment policies, it
often obtains servicing rights. Servicing rights resulting from loan
sales are initially recorded at fair value and subsequently amortized
in proportion to, and over the period of, estimated net servicing
income. Servicing rights are assessed for impairment monthly,
based on fair value, with temporary impairment recognized
through a valuation allowance and permanent
impairment
recognized through a write-off of the servicing asset and related
valuation allowance.
in
measuring any potential impairment of the servicing rights include
the prepayment speeds of the underlying loans, the weighted-
average life, the discount rate, the weighted-average coupon and
the weighted-average default rate, as applicable. The primary risk
of material changes to the value of the servicing rights resides in
in the economic assumptions used,
the potential volatility
particularly the prepayment speeds.
Key economic assumptions used
The Bancorp monitors risk and adjusts
its valuation
allowance as necessary to adequately reserve for impairment in the
servicing portfolio. For purposes of measuring impairment, the
servicing rights are stratified into classes based on the financial
asset type and interest rates. Fees received for servicing loans
owned by investors are based on a percentage of the outstanding
monthly principal balance of such loans and are included in
noninterest income in the Consolidated Statements of Income as
loan payments are received. Costs of servicing loans are charged
to expense as incurred.
18 Fifth Third Bancorp
The change in the fair value of mortgage servicing rights
(MSRs) at December 31, 2008 due to immediate 10% and 20%
adverse changes in the current prepayment assumptions would be
approximately $33 million and $63 million, respectively, and due
to immediate 10% and 20% favorable changes in the current
prepayment assumptions would be approximately $37 million and
$78 million, respectively. The change in the fair value of the MSR
portfolio at December 31, 2008 due to immediate 10% and 20%
adverse changes in the discount rate assumption would be
approximately $15 million and $30 million, respectively, and due
to immediate 10% and 20% favorable changes in the discount rate
assumption would be approximately $16 million and $34 million,
respectively. The sensitivity analysis related to other consumer
and commercial servicing rights is not material to the Bancorp’s
Consolidated Financial Statements. These sensitivities are
hypothetical and should be used with caution. As the figures
indicate, changes in fair value based on a 10% and 20% variation
in assumptions typically cannot be extrapolated because the
relationship of the change in assumptions to the change in fair
value may not be linear. Also, the effect of a variation in a
particular assumption on the fair value of the servicing rights is
calculated without changing any other assumption; in reality,
changes in one factor may result in changes in another, which
might magnify or counteract the sensitivities. Additionally, the
effect of the Bancorp’s non-qualifying hedging strategy, which is
maintained to lessen the impact of changes in value of the MSR
portfolio, is excluded from the above analysis.
Fair Value Measurements
Effective January 1, 2008, the Bancorp adopted SFAS No. 157,
“Fair Value Measurements”, which provides a framework for
measuring fair value under accounting principles generally
accepted in the United States of America. SFAS No. 157 defines
fair value as the price that would be received to sell an asset or
paid to transfer a liability in an orderly transaction between market
participants at the measurement date. SFAS No. 157 addresses
the valuation techniques used to measure fair value. These
valuation techniques
income
approach and cost approach. The market approach uses prices or
relevant information generated by market transactions involving
identical or comparable assets or liabilities. The income approach
involves discounting future amounts to a single present amount
and is based on current market expectations about those future
amounts. The cost approach is based on the amount that currently
would be required to replace the service capacity of the asset.
include the market approach,
SFAS No. 157 establishes a fair value hierarchy, which
prioritizes the inputs to valuation techniques used to measure fair
value into three broad levels. The fair value hierarchy gives the
highest priority to quoted prices in active markets for identical
lowest priority to
assets or
unobservable
instrument’s
(Level 3). A
categorization within the fair value hierarchy is based upon the
lowest level of input that is significant to the instrument’s fair
value measurement. The three levels within the fair value
hierarchy are described as follows:
liabilities (Level 1) and the
financial
inputs
Level 1 - Quoted prices (unadjusted) in active markets
for identical assets or liabilities that the Bancorp has the
ability to access at the measurement date.
Level 2 - Inputs other than quoted prices included within
Level 1 that are observable for the asset or liability,
either directly or indirectly. Level 2 inputs include:
quoted prices for similar assets or liabilities in active
markets; quoted prices for identical or similar assets or
liabilities in markets that are not active; inputs other
than quoted prices that are observable for the asset or
liability; and inputs that are derived principally from or
corroborated by observable market data by correlation
or other means.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Level 3 - Unobservable inputs for the asset or liability for
which there is little, if any, market activity at the
measurement date. Unobservable inputs reflect the
Bancorp’s own assumptions about what market
participants would use to price the asset or liability. The
inputs are developed based on the best information
available in the circumstances, which might include the
internally
Bancorp’s own
developed pricing models, discounted cash
flow
methodologies, as well as instruments for which the fair
value determination requires significant management
judgment.
financial data such as
The Bancorp measures financial assets and liabilities at fair
value in accordance with SFAS No. 157. These measurements
involve various valuation techniques and models, which involve
inputs that are observable, when available, and include the
following significant financial instruments: available-for-sale and
trading securities, residential mortgage loans held for sale and
certain derivatives. The following is a summary of valuation
techniques utilized by the Bancorp for its significant financial
assets and liabilities measured at fair value on a recurring basis.
Available-for-sale and trading securities
Where quoted prices are available in an active market,
securities are classified within Level 1 of the valuation
hierarchy. If quoted market prices are not available,
then fair values are estimated using pricing models,
quoted prices of securities with similar characteristics, or
discounted cash flows. Such securities would generally
be classified within Level 2 of the fair value hierarchy.
In certain cases where there is limited activity or an
absence of observable market data around inputs to the
valuation, securities are classified within Level 3 of the
the
valuation hierarchy. A significant portion of
Bancorp’s
agency
mortgage-backed securities that are fair valued using a
market approach and the Bancorp has determined them
to be Level 2 in the fair value hierarchy. A significant
portion of the Bancorp’s trading securities are variable
rate demand notes (VRDNs), that are fair valued using a
market approach, and the Bancorp has determined them
to be Level 2 in the fair value hierarchy.
available-for-sale
securities
are
Residential mortgage loans held for sale
For residential mortgage loans held for sale, fair value is
estimated based upon mortgage backed securities prices
and spreads to those prices. Residential mortgage loans
held for sale are fair valued using a market approach and
the Bancorp has determined them to be Level 2 in the
fair value hierarchy.
Derivatives
Exchange-traded derivatives valued using quoted prices
are classified within Level 1 of the valuation hierarchy.
However, few classes of derivative contracts are listed
on an exchange. Most derivative contracts are measured
using discounted cash flow or other models that
incorporate current market interest rates, credit spreads
assigned to the derivative counterparties and other
market parameters. Derivative positions that are valued
utilizing models that use as their basis readily observable
market parameters are classified within Level 2 of the
valuation hierarchy. Derivatives that are valued based
upon models with significant unobservable market
parameters are classified within Level 3 of the valuation
hierarchy. A majority of the derivatives are fair valued
income approach and the Bancorp has
using an
determined them to be Level 2 in the fair value
hierarchy.
Valuation techniques and parameters used for measuring
financial assets and liabilities are reviewed and validated by the
Bancorp on a quarterly basis. Additionally, the Bancorp monitors
the fair values of significant assets and liabilities using a variety of
methods including the evaluation of pricing runs and exception
reports based on certain analytical criteria, comparison to previous
trades and overall review and assessments for reasonableness.
In addition to the financial assets and liabilities measured at
fair value on a recurring basis, the Bancorp measures servicing
rights and certain loans at fair value on a nonrecurring basis. Refer
to Note 25 of the Notes to Consolidated Financial Statements for
further information.
Goodwill
Business combinations entered into by the Bancorp typically
include the acquisition of goodwill. SFAS No. 142, “Goodwill
and Other Intangible Assets” requires goodwill to be reported at
and tested for impairment at the Bancorp’s reporting unit level on
an annual basis and more frequently in certain circumstances.
These circumstances include significant declines in the Bancorp’s
stock price that result in a market capitalization below book value.
The Bancorp has determined that its segments qualify as reporting
units under the guidance of SFAS No. 142. Impairment exists
when a reporting unit’s carrying amount of goodwill exceeds its
implied fair value, which is determined through a two-step
impairment test. The first step (Step 1) compares the fair value of
a reporting unit with its carrying amount, including goodwill. If
the carrying amount of the reporting unit exceeds its fair value,
the second step (Step 2) of the goodwill impairment test is
performed to measure the impairment loss amount, if any.
income-based approach, utilizing
The fair value of a reporting unit is the price that would be
received to sell the unit as a whole in an orderly transaction
between market participants at the measurement date. To
determine the fair value of a reporting unit, the Bancorp employs
an
reporting unit’s
forecasted cash flows (including a terminal value approach to
estimate cash flows beyond the final year of the forecast) and the
reporting unit’s estimated cost of equity as the discount rate.
Additionally, the Bancorp determines its market capitalization
based on the average of the closing price of the Bancorp's stock
during the month including the measurement date, incorporating
an additional control premium, and allocates this market-based
fair value measurement to the Bancorp’s reporting units in order
to corroborate the results of the income approach.
the
When required to perform Step 2, the Bancorp compares
the implied fair value of a reporting unit’s goodwill with the
carrying amount of that goodwill. If the carrying amount exceeds
the implied fair value, an impairment loss equal to that excess
amount is recognized, not to exceed the goodwill carrying
amount. Consistent with SFAS No. 142, during Step 2, the
Bancorp determines the implied fair value of goodwill for a
reporting unit by assigning the fair value of the reporting unit to
all of the assets and liabilities of that unit (including any
unrecognized intangible assets) as if the reporting unit had been
acquired in a business combination. The excess of the fair value
of the reporting unit over the amounts assigned to its assets and
liabilities is the implied fair value of goodwill. This assignment
process is only performed for purposes of testing goodwill for
impairment. The Bancorp does not adjust the carrying values of
recognized assets or liabilities (other than goodwill, if appropriate),
nor recognize previously unrecognized intangible assets in the
Consolidated Financial Statements as a result of this assignment
process. Refer to Note 8 of the Notes to Consolidated Financial
Statements for further information regarding the Bancorp’s
goodwill.
Fifth Third Bancorp 19
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Changes in interest rates could affect Fifth Third’s income
and cash flows.
Fifth Third’s income and cash flows depend to a great extent on
the difference between the interest rates earned on interest-
earning assets such as loans and investment securities, and the
interest rates paid on interest-bearing liabilities such as deposits
and borrowings. These rates are highly sensitive to many factors
that are beyond Fifth Third’s control, including general economic
conditions and the policies of various governmental and
regulatory agencies (in particular, the FRB). Changes in monetary
policy, including changes in interest rates, will influence the
origination of loans, the prepayment speed of loans, the purchase
of investments, the generation of deposits and the rates received
on loans and investment securities and paid on deposits or other
sources of funding. The impact of these changes may be
magnified if Fifth Third does not effectively manage the relative
sensitivity of its assets and liabilities to changes in market interest
rates. Fluctuations in these areas may adversely affect Fifth Third
and its shareholders.
Fifth Third’s ability to maintain required capital levels and
adequate sources of funding and liquidity.
Fifth Third is required to maintain certain capital levels in
accordance with banking regulations. Fifth Third must also
maintain adequate funding sources in the normal course of
business to support its operations and fund outstanding liabilities.
Fifth Third’s ability to maintain capital levels, sources of funding
and liquidity could be impacted by changes in the capital markets
in which it operates. Additionally, if Fifth Third sought additional
sources of capital, liquidity or funding, those additional sources
could dilute current shareholders’ ownership interests.
Each of Fifth Third’s subsidiary banks must remain well-
capitalized for Fifth Third to retain its status as a financial holding
company. In addition, failure by Fifth Third’s bank subsidiaries to
meet applicable capital guidelines could subject the bank to a
variety of enforcement remedies available to the federal regulatory
authorities. These include limitations on the ability to pay
dividends, the issuance by the regulatory authority of a capital
directive to increase capital, and the termination of deposit
insurance by the FDIC.
As a regulated entity, Fifth Third must maintain certain
capital requirements that may limit its operations and
potential growth.
Fifth Third is a bank holding company and a financial holding
company. As such, Fifth Third is subject to the comprehensive,
consolidated supervision and regulation of
the Board of
Governors of the Federal Reserve System, including risk-based
and leverage capital requirements. Fifth Third must maintain
certain risk-based and leverage capital ratios as required by its
banking regulators and which can change depending upon general
economic conditions and Fifth Third’s particular condition, risk
profile and growth plans. Compliance with
the capital
requirements, including leverage ratios, may limit operations that
require the intensive use of capital and could adversely affect Fifth
Third’s ability to expand or maintain present business levels.
RISK FACTORS
Weakness in the economy and in the real estate market,
including specific weakness within Fifth Third’s geographic
footprint, has adversely affected Fifth Third and may
continue to adversely affect Fifth Third.
If the strength of the U.S. economy in general and the strength of
the local economies in which Fifth Third conducts operations
continues to decline, this could result in, among other things, a
deterioration in credit quality or a reduced demand for credit,
including a resultant effect on Fifth Third’s loan portfolio and
allowance for loan and lease losses. A significant portion of Fifth
Third’s residential mortgage and commercial real estate loan
portfolios are comprised of borrowers in Michigan, Northern
Ohio and Florida, which markets have been particularly adversely
affected by job losses, declines in real estate value, declines in
home sale volumes, and declines in new home building. These
factors could result in higher delinquencies and greater charge-offs
in future periods, which would materially adversely affect Fifth
Third’s financial condition and results of operations.
Deteriorating credit quality, particularly in real estate loans,
has adversely impacted Fifth Third and may continue to
adversely impact Fifth Third.
Fifth Third has experienced a downturn in credit performance and
expects credit conditions and the performance of its loan
portfolio to continue to deteriorate in the near term. This caused
Fifth Third to increase its allowance for loan and lease losses,
driven primarily by higher allocations related to residential
mortgage and home equity loans, commercial real estate loans and
loans of entities related to or dependant upon the real estate
industry. If the performance of Fifth Third’s loan portfolio does
not improve or stabilize, additional increases in the allowance for
loan and lease losses may be necessary in the future. Accordingly,
a decrease in the quality of Fifth Third’s credit portfolio could
have a material adverse effect on earnings and results of
operations.
Fifth Third’s results depend on general economic conditions
within its operating markets.
The revenues of FTPS are dependent on the transaction volume
generated by its merchant and financial institution customers.
This transaction volume is largely dependent on consumer and
corporate spending. If consumer confidence suffers and retail
sales decline, FTPS will be negatively impacted. Similarly, if an
economic downturn results in a decrease in the overall volume of
corporate transactions, FTPS will be negatively impacted. FTPS is
also impacted by the financial stability of its merchant customers.
liabilities related to the
FTPS assumes certain contingent
processing of Visa®
and MasterCard® merchant card
transactions. These liabilities typically arise from billing disputes
between the merchant and the cardholder that are ultimately
resolved in favor of the cardholder. These transactions are
charged back to the merchant and disputed amounts are returned
to the cardholder. If FTPS is unable to collect these amounts
from the merchant, FTPS will bear the loss.
The fee revenue of Investment Advisors is largely dependent
on the fair market value of assets under care and trading volumes
in the brokerage business. General economic conditions and their
effect on the securities markets tend to act in correlation. When
general economic conditions deteriorate, consumer and corporate
confidence in securities markets erodes, and Investment Advisors’
revenues are negatively impacted as asset values and trading
volumes decrease. Neutral economic conditions can also
negatively impact revenue when stagnant securities markets fail to
attract investors.
20 Fifth Third Bancorp
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Changes and trends in the capital markets may affect Fifth
Third’s income and cash flows.
Fifth Third enters into and maintains trading and investment
positions in the capital markets on its own behalf and on behalf of
its customers. These investment positions also include derivative
financial instruments. The revenues and profits Fifth Third
derives from its trading and investment positions are dependent
on market prices. If it does not correctly anticipate market
changes and trends, Fifth Third may experience investment or
trading losses that may materially affect Fifth Third and its
shareholders. Losses on behalf of its customers could expose
Fifth Third to litigation, credit risks or loss of revenue from those
customers. Additionally, substantial losses in Fifth Third’s trading
and investment positions could lead to a loss with respect to those
investments and may adversely affect cash flows and funding
costs.
Problems encountered by financial institutions larger or
similar to Fifth Third could adversely affect financial
markets generally and have indirect adverse effects on Fifth
Third.
The commercial soundness of many financial institutions may be
closely interrelated as a result of credit, trading, clearing or other
relationships between the institutions. As a result, concerns about,
or a default or threatened default by, one institution could lead to
significant market-wide liquidity and credit problems, losses or
defaults by other institutions. This is sometimes referred to as
“systemic risk” and may adversely affect financial intermediaries,
such as clearing agencies, clearing houses, banks, securities firms
and exchanges, with which the Bancorp interacts on a daily basis,
and therefore could adversely affect Fifth Third.
If Fifth Third does not adjust to rapid changes in the
financial services industry, its financial performance may
suffer.
Fifth Third’s ability to deliver strong financial performance and
returns on investment to shareholders will depend in part on its
ability to expand the scope of available financial services to meet
the needs and demands of its customers. In addition to the
challenge of competing against other banks in attracting and
retaining customers for traditional banking services, Fifth Third’s
competitors also include securities dealers, brokers, mortgage
bankers, investment advisors, specialty finance and insurance
companies who seek to offer one-stop financial services that may
include services that banks have not been able or allowed to offer
to their customers in the past or may not be currently able or
allowed to offer. This increasingly competitive environment is
primarily a result of changes in regulation, changes in technology
and product delivery systems, as well as the accelerating pace of
consolidation among financial service providers.
financial
statements
The preparation of Fifth Third’s financial statements
requires the use of estimates that may vary from actual
results.
The preparation of consolidated
in
conformity with accounting principles generally accepted in the
to make
United States of America requires management
significant estimates that affect the financial statements. Two of
Fifth Third’s most critical estimates are the level of the allowance
for loan and lease losses and the valuation of mortgage servicing
rights. Due to the uncertainty of estimates involved, Fifth Third
may have to significantly increase the allowance for loan and lease
losses and/or sustain credit losses that are significantly higher
than the provided allowance and could recognize a significant
provision for impairment of its mortgage servicing rights. If Fifth
Third’s allowance for loan and lease losses is not adequate, Fifth
Third’s business, financial condition, including its liquidity and
capital, and results of operations could be materially adversely
affected. For more information on the sensitivity of these
estimates, please refer to the Critical Accounting Policies section.
its
Fifth Third regularly reviews its litigation reserves for
adequacy considering
litigation risks and probability of
incurring losses related to litigation. However, Fifth Third cannot
be certain that its current litigation reserves will be adequate over
time to cover its losses in litigation due to higher than anticipated
settlement costs, prolonged litigation, adverse judgments, or other
factors that are largely outside of Fifth Third’s control. If Fifth
Third’s litigation reserves are not adequate, Fifth Third’s business,
financial condition, including its liquidity and capital, and results
of operations could be materially adversely affected. Additionally,
in the future, Fifth Third may increase its litigation reserves, which
could have a material adverse effect on its capital and results of
operations.
Changes in accounting standards could impact Fifth Third’s
reported earnings and financial condition.
The accounting standard setters, including FASB, U.S. Securities
and Exchange Commission (SEC) and other regulatory bodies,
periodically change the financial accounting and reporting
standards
the preparation of Fifth Third’s
consolidated financial statements. These changes can be hard to
predict and can materially impact how Fifth Third records and
reports its financial condition and results of operations. In some
cases, Fifth Third could be required to apply a new or revised
standard retroactively, which would result in the restatement of
Fifth Third’s prior period financial statements.
that govern
Legislative or regulatory compliance, changes or actions or
significant litigation, could adversely impact Fifth Third or
the businesses in which Fifth Third is engaged.
Fifth Third is subject to extensive state and federal regulation,
supervision and legislation that govern almost all aspects of its
operations and limit the businesses in which Fifth Third may
engage. These laws and regulations may change from time to time
and are primarily intended for the protection of consumers,
depositors and the deposit insurance funds. The impact of any
changes to laws and regulations or other actions by regulatory
agencies may negatively impact Fifth Third or its ability to
increase the value of its business. Additionally, actions by
regulatory agencies or significant litigation against Fifth Third
could cause it to devote significant time and resources to
defending itself and may lead to penalties that materially affect
Fifth Third and its shareholders. Future changes in the laws,
including tax laws, or regulations or their interpretations or
enforcement may also be materially adverse to Fifth Third and its
shareholders or may require Fifth Third to expend significant time
and resources to comply with such requirements.
Fifth Third’s business, financial condition and results of
operations are highly regulated and could be adversely
affected by new or changed regulations and by the manner
in which such regulations are applied by regulatory
authorities.
Current economic conditions, particularly in the financial markets,
have resulted in government regulatory agencies placing increased
focus on and scrutiny of the financial services industry. The U.S.
Government has
intervened on an unprecedented scale,
responding to what has been commonly referred to as the
financial crisis. In addition to participating in the U.S. Treasury’s
CPP, the U.S. Government has taken steps that include enhancing
the liquidity support available to financial institutions, establishing
a commercial paper funding facility, temporarily guaranteeing
money market funds and certain types of debt issuances, and
increasing insured deposits. These programs subject Fifth Third
and other financial institutions who have participated in these
programs to additional restrictions, oversight and/or costs that
Fifth Third Bancorp 21
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
may have an impact on Fifth Third’s business, financial condition,
results of operations or the price of its common stock.
New proposals for legislation continue to be introduced in the
U.S. Congress that could further substantially increase regulation
of the financial services industry. Federal and state regulatory
agencies also frequently adopt changes to their regulations and/or
change the manner in which existing regulations are applied. Fifth
Third cannot predict whether any pending or future legislation
will be adopted or the substance and impact of any such new
legislation on Fifth Third. Additional regulation could affect Fifth
Third in a substantial way and could have an adverse effect on its
business, financial condition and results of operations.
Fifth Third and/or the holders of its securities could be
adversely affected by unfavorable ratings from rating
agencies.
Fifth Third’s ability to access the capital markets is important to
its overall funding profile. This access is affected by the ratings
assigned by rating agencies to Fifth Third, certain of its affiliates
and particular classes of securities they issue. The interest rates
that Fifth Third pays on its securities are also influenced by,
among other things, the credit ratings that it, its affiliates and/or
its securities receive from recognized rating agencies.
A
downgrade to Fifth Third’s, or its affiliates’, credit rating could
affect its ability to access the capital markets, increase its
borrowing costs and negatively impact its profitability. A ratings
downgrade to Fifth Third, its affiliates or their securities could
also create obligations or liabilities to Fifth Third under the terms
of its outstanding securities that could increase Fifth Third’s costs
or otherwise have a negative effect on Fifth Third’s results of
operations or financial condition. Additionally, a downgrade of
the credit rating of any particular security issued by Fifth Third or
its affiliates could negatively affect the ability of the holders of
that security to sell the securities and the prices at which any such
securities may be sold.
Fifth Third’s stock price is volatile.
Fifth Third’s stock price has been volatile in the past and several
factors could cause the price to fluctuate substantially in the
future. These factors include:
• Actual or anticipated variations in earnings;
• Changes in analysts’ recommendations or projections;
•
Fifth Third’s announcements of developments related to
its businesses;
• Operating and stock performance of other companies
deemed to be peers;
• Actions by government regulators;
• New technology used or services offered by traditional
and non-traditional competitors; and
• News reports of trends, concerns and other issues
related to the financial services industry.
Fifth Third’s stock price may fluctuate significantly in the future,
and these fluctuations may be unrelated to Fifth Third’s
performance. General market price declines or market volatility in
the future could adversely affect the price of its common stock,
and the current market price of such stock may not be indicative
of future market prices.
The financial services industry is highly competitive and
creates competitive pressures that could adversely affect
Fifth Third’s revenue and profitability.
The financial services industry in which Fifth Third operates is
highly competitive.
Fifth Third competes not only with
commercial banks, but also with insurance companies, mutual
funds, hedge funds, and other companies offering financial
services in the U.S., globally and over the internet. Fifth Third
22 Fifth Third Bancorp
competes on the basis of several factors, including capital, access
to capital, products, services, transaction execution, innovation,
reputation and price. Over time, certain sectors of the financial
services industry have become more concentrated, as institutions
involved in a broad range of financial services have been acquired
by or merged into other firms. In fiscal 2008, this trend
accelerated considerably, as
financial
to merge, received
institutions consolidated, were
substantial government
into
conservatorship by the U.S. Government. These developments
could result in Fifth Third’s competitors gaining greater capital
and other resources, such as a broader range of products and
services and geographic diversity. Fifth Third may experience
pricing pressures as a result of these factors and as some of its
competitors seek to increase market share by reducing prices.
assistance or were placed
several major U.S.
forced
its business
strategies and may
Fifth Third could suffer if it fails to attract and retain skilled
personnel.
As Fifth Third continues to grow, its success depends, in large
part, on
individuals.
its ability to attract and retain key
Competition for qualified candidates in the activities and markets
that Fifth Third serves is great and Fifth Third may not be able to
hire these candidates and retain them. If Fifth Third is not able to
hire or retain these key individuals, Fifth Third may be unable to
execute
suffer adverse
consequences to its business, operations and financial condition.
Pursuant to the standardized terms of the CPP described
previously, among other things, Fifth Third has agreed to institute
certain restrictions on the compensation of certain senior
management positions, which could have an adverse effect on
Fifth Third’s ability to hire or retain the most qualified senior
management. It is possible that the U.S. Treasury may, as it is
permitted to do, impose further requirements on Fifth Third. If
Fifth Third is unable to attract and retain qualified employees, or
do so at rates necessary to maintain its competitive position, or if
compensation costs required to attract and retain employees
become more expensive, Fifth Third’s performance, including its
competitive position, could be materially adversely affected.
If Fifth Third is unable to grow its deposits, it may be
subject to paying higher funding costs.
The total amount that Fifth Third pays for funding costs is
dependent, in part, on Fifth Third’s ability to grow its deposits. If
Fifth Third is unable to sufficiently grow its deposits, it may be
subject to paying higher funding costs. This could materially
adversely affect Fifth Third’s earnings and results of operations.
Fifth Third’s ability to receive dividends from its subsidiaries
accounts for most of its revenue and could affect its liquidity
and ability to pay dividends.
Fifth Third Bancorp is a separate and distinct legal entity from its
subsidiaries. Fifth Third Bancorp typically receives substantially all
of its revenue from dividends from its subsidiaries. These
dividends are the principal source of funds to pay dividends on
Fifth Third Bancorp’s stock and interest and principal on its debt.
Various federal and/or state laws and regulations limit the amount
of dividends that Fifth Third’s bank and certain nonbank
subsidiaries may pay. Also, Fifth Third Bancorp’s right to
participate
in a distribution of assets upon a subsidiary’s
liquidation or reorganization is subject to the prior claims of that
subsidiary’s creditors. Limitations on Fifth Third Bancorp’s ability
to receive dividends from its subsidiaries could have a material
adverse effect on Fifth Third Bancorp’s liquidity and ability to pay
dividends on stock or interest and principal on its debt.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Fifth Third’s ability to pay or increase dividends on its
common stock or to repurchase its capital stock is restricted
by the terms of the U.S. Treasury’s preferred stock
investment in Fifth Third.
In December 2008, Fifth Third sold $3.4 billion of its Series F
Preferred Stock to the U.S. Treasury pursuant to the terms of the
CPP. For so long as any preferred stock issued under the CPP
remains outstanding, those terms prohibit Fifth Third from
increasing dividends on its common stock, and from making
certain repurchases of equity securities, including its common
stock, without the U.S. Treasury’s consent until the third
anniversary of the U.S. Treasury’s investment or until the U.S.
Treasury has transferred all of the preferred stock it purchased
under the CPP to third parties. Furthermore, as long as the
preferred stock issued to the U.S. Treasury is outstanding,
dividend payments and repurchases or redemptions relating to
certain equity securities, including Fifth Third’s common stock,
are prohibited until all accrued and unpaid dividends are paid on
such preferred stock, subject to certain limited exceptions.
Future acquisitions may dilute current shareholders’
ownership of Fifth Third and may cause Fifth Third to
become more susceptible to adverse economic events.
Future business acquisitions could be material to Fifth Third and
it may issue additional shares of stock to pay for those
acquisitions, which would dilute current shareholders’ ownership
interests. Acquisitions also could require Fifth Third to use
substantial cash or other liquid assets or to incur debt. In those
events, Fifth Third could become more susceptible to economic
downturns and competitive pressures.
Difficulties in combining the operations of acquired entities
with Fifth Third’s own operations may prevent Fifth Third
from achieving the expected benefits from its acquisitions.
Inherent uncertainties exist when integrating the operations of an
acquired entity. Fifth Third may not be able to fully achieve its
strategic objectives and planned operating efficiencies in an
acquisition. In addition, the markets and industries in which Fifth
Third and its potential acquisition targets operate are highly
competitive. Fifth Third may lose customers or the customers of
acquired entities as a result of an acquisition. Future acquisition
and integration activities may require Fifth Third to devote
substantial time and resources and as a result Fifth Third may not
be able to pursue other business opportunities.
After completing an acquisition, Fifth Third may find certain
items are not accounted for properly in accordance with financial
accounting and reporting standards. Fifth Third may also not
realize the expected benefits of the acquisition due to lower
financial results pertaining to the acquired entity. For example,
Fifth Third could experience higher charge offs than originally
anticipated related to the acquired loan portfolio.
Material breaches in security of Fifth Third’s systems may
have a significant effect on Fifth Third’s business.
Fifth Third collects, processes and stores sensitive consumer data
by utilizing computer systems and telecommunications networks
operated by both Fifth Third and third party service providers.
Fifth Third has security, backup and recovery systems in place, as
well as a business continuity plan to ensure the system will not be
inoperable. Fifth Third also has security to prevent unauthorized
access to the system. In addition, Fifth Third requires its third
party service providers to maintain similar controls. However,
Fifth Third cannot be certain that the measures will be successful.
A security breach in the system and loss of confidential
information such as credit card numbers and related information
could result in losing the customers’ confidence and thus the loss
of their business.
Fifth Third may sell or consider selling one or more of its
businesses. Should it determine to sell such a business, it
may not be able to generate gains on sale or related increase
in shareholders’ equity commensurate with desirable levels.
Moreover, if Fifth Third sold such businesses, the loss of
income could have an adverse effect on its earnings and
future growth.
Fifth Third owns several non-strategic businesses that are not
significantly synergistic with its core financial services businesses.
Fifth Third has, from time to time, considered the sale of such
businesses, which could supplement its capital by an estimated
additional $1 billion or more. If it were to determine to sell such
businesses, Fifth Third would be subject to market forces that
may make completion of a sale unsuccessful or may not be able to
do so within a desirable time frame. If Fifth Third were to
complete the sale of non-core businesses, it would suffer the loss
of income from the sold businesses, and such loss of income
could have an adverse effect on its future earnings and growth.
Fifth Third is exposed to operational and reputational risk.
Fifth Third is exposed to many types of operational risk, including
reputational risk, legal and compliance risk, the risk of fraud or
theft by employees, customers or outsiders, unauthorized
transactions by employees or operational errors.
Negative public opinion can result from Fifth Third’s actual
or alleged conduct in activities, such as lending practices, data
security, corporate governance and acquisitions, and may damage
Fifth Third’s reputation.
taken by
government regulators and community organizations may also
damage Fifth Third’s reputation. This negative public opinion can
adversely affect Fifth Third’s ability to attract and keep customers
and can expose it to litigation and regulatory action.
Additionally, actions
Fifth Third’s necessary dependence upon automated systems
to record and process its transaction volume poses the risk that
technical system flaws or employee errors,
tampering or
manipulation of those systems will result in losses and may be
difficult to detect. Fifth Third may also be subject to disruptions
of its operating systems arising from events that are beyond its
control
(for example, computer viruses or electrical or
telecommunications outages). Fifth Third is further exposed to
the risk that its third party service providers may be unable to
fulfill their contractual obligations (or will be subject to the same
risk of fraud or operational errors as Fifth Third). These
disruptions may interfere with service to Fifth Third’s customers
and result in a financial loss or liability.
Fifth Third and other financial institutions have been the
subject of increased litigation which could result in legal
liability and damage to its reputation.
Fifth Third and certain of its directors and officers have been
named from time to time as defendants in various class actions
and other litigation relating to Fifth Third’s business and activities.
Past, present and future litigation have included or could include
claims for substantial compensatory and/or punitive damages or
claims for indeterminate amounts of damages. Fifth Third is also
involved from time to time in other reviews, investigations and
proceedings (both formal and informal) by governmental and self-
regulatory agencies regarding its business. These matters also
could result in adverse judgments, settlements, fines, penalties,
injunctions or other relief. Like other large financial institutions
and companies, Fifth Third is also subject to risk from potential
employee misconduct, including non-compliance with policies and
improper use or disclosure of confidential
information.
Substantial legal liability or significant regulatory action against
Fifth Third could materially adversely affect its business, financial
condition or results of operations and/or cause significant
reputational harm to its business.
Fifth Third Bancorp 23
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
STATEMENTS OF INCOME ANALYSIS
Net Interest Income
Net interest income is the interest earned on debt securities, loans
and leases (including yield-related fees) and other interest-earning
assets less the interest paid for core deposits (includes transaction
deposits and other time deposits) and wholesale funding (includes
certificates $100,000 and over, other deposits, federal funds
purchased, short-term borrowings and long-term debt). The net
interest margin is calculated by dividing net interest income by
is the
average
difference between the average rate earned on interest-earning
assets and the average rate paid on interest-bearing liabilities. Net
interest margin is typically greater than net interest rate spread due
to the interest income earned on those assets that are funded by
non-interest-bearing liabilities, such as demand deposits, or
shareholders’ equity.
interest-earning assets. Net
interest spread
Table 4 presents the components of net interest income, net
interest margin and net interest spread for 2008, 2007 and 2006.
Nonaccrual loans and leases and loans held for sale have been
included in the average loan and lease balances. Average
outstanding securities balances are based on amortized cost with
any unrealized gains or losses on available-for-sale securities
included in other assets. Table 5 provides the relative impact of
changes in the balance sheet and changes in interest rates on net
interest income.
During 2008, a number of market forces impacted net
interest income. The decreasing rate environment, spurred by the
Federal Reserve monetary policies throughout the year, initially
allowed deposits to reprice further than loans due to increased
credit spreads on new originations. This effect was muted during
the second half of 2008 as disruptions in the credit markets
created a highly competitive deposit rate environment. Loan
yields came under further downward pressure due to the increased
levels of nonperforming loans and leases. Other adjustments
included the accretion of discounts on acquired loans, primarily as
a result of the second quarter 2008 acquisition of First Charter,
which increased net interest income by $339 million during 2008.
The purchase accounting accretion reflects the high discount rate
in the market at the time of the acquisition; the total loan
discounts are being accreted into net interest income over the
remaining period to maturity of the loans acquired. During the
second quarter of 2008, the Bancorp recognized a reduction of
approximately $130 million to interest income on commercial
leases as a result of the recalculation of cash flows on certain
leveraged leases. More information on the leveraged lease
adjustment can be found in Note 16 of the Notes to Consolidated
Financial Statements.
Overall, net interest income (FTE) was $3.5 billion for 2008,
compared to $3.0 billion earned in 2007. The increase in net
TABLE 3: CONDENSED CONSOLIDATED STATEMENTS OF INCOME
For the years ended December 31 ($ in millions, except per share data)
Interest income (FTE)
Interest expense
Net interest income (FTE)
Provision for loan and lease losses
Net interest income (loss) after provision for loan and lease losses (FTE)
Noninterest income
Noninterest expense
Income (loss) before income taxes and cumulative effect (FTE)
Fully taxable equivalent adjustment
Applicable income taxes
Income (loss) before cumulative effect
Cumulative effect of change in accounting principle, net of tax
Net income (loss)
Dividends on preferred stock
Net income (loss) available to common shareholders
Earnings per share, basic
Earnings per share, diluted
Cash dividends declared per common share
24 Fifth Third Bancorp
interest income compared to the prior year is the result of an 11%
increase in average interest-earning assets combined with a 49 bp
increase in net interest spread that was partially reduced by the
increase in nonperforming loans. In 2008, $282 million in
additional
if
nonaccrual loans had been current compared to $144 million in
2007. Exclusive of the purchase accounting and leveraged lease
adjustments, net interest income increased by $291 million, or
10%, over the prior year.
income would have been recorded
interest
Reported net interest margin was 3.54% in 2008, compared
to 3.36% in 2007. For the year, the negative effects of the
leveraged lease adjustment, a reduction to net interest margin of
13 bp, and increase in nonperforming loans were offset by the
positive impact from the accretion of the discounts on acquired
loans, which increased net interest margin approximately 34 bp in
2008. Exclusive of the purchase accounting and leveraged lease
adjustments, net interest margin was flat on a year-over-year basis
as widening credit spreads were offset by higher nonaccrual loans
and
lower yielding
commercial loans.
leases and a greater concentration
in
increased 17%, while consumer
Total average interest-earning assets increased 11% from
2007. Average total commercial loans increased 19% and the
loans
investment portfolio
decreased modestly. Commercial mortgage and commercial
construction loans increased primarily as a result of acquisitions
during the past year. Commercial and industrial loans increased
due to the origination for portfolio of loans that historically were
sold to the Bancorp’s off-balance sheet commercial paper conduit,
coupled with the use of contingent liquidity facilities related to
certain off-balance sheet programs that were drawn upon in 2008.
These commercial loans have the effect of lowering the overall
yield on commercial loans. Increases in the investment portfolio
relate to both the Bancorp’s desire to keep an appropriately sized
investment portfolio given the growth in loans and leases, which
occurred primarily from acquisitions, coupled with the purchase
of securities as part of the Bancorp’s non-qualifying hedging
strategy related to mortgage servicing rights.
Interest income (FTE) from loans and leases decreased $481
million compared to 2007. Exclusive of the accretion of
discounts on acquired loans and the leveraged lease adjustment
during the second quarter of 2008, interest income (FTE) from
loans and leases decreased $694 million, or 13%, compared to the
prior year. The year-over-year decrease in interest income is a
result of the repricing of variable rate loans in a declining rate
environment, partially offset by the increase in average loan and
lease balances. At the end of 2008, the Bancorp’s prime rate was
3.25% compared to 7.25% at the end of 2007. Interest income
(FTE) from investment securities and short-term investments
2008
$5,630
2,094
3,536
4,560
(1,024)
2,946
4,564
(2,642)
22
(551)
(2,113)
-
(2,113)
67
($2,180)
($3.94)
(3.94)
0.75
2007
6,051
3,018
3,033
628
2,405
2,467
3,311
1,561
24
461
1,076
-
1,076
1
1,075
2.00
1.99
1.70
2006
5,981
3,082
2,899
343
2,556
2,012
2,915
1,653
26
443
1,184
4
1,188
-
1,188
2.14
2.13
1.58
2005
5,026
2,030
2,996
330
2,666
2,374
2,801
2,239
31
659
1,549
-
1,549
1
1,548
2.79
2.77
1.46
2004
4,150
1,102
3,048
268
2,780
2,355
2,862
2,273
36
712
1,525
-
1,525
1
1,524
2.72
2.68
1.31
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
TABLE 4: CONSOLIDATED AVERAGE BALANCE SHEETS AND ANALYSIS OF NET INTEREST INCOME (FTE)
For the years ended December 31
2008
Revenue/
Cost
Average
Yield/Rate
Average
Balance
Average
Yield/Rate
Average
Balance
2007
Revenue/
Cost
2006
Revenue/
Cost
Average
Yield/Rate
$1,520
866
342
18
5.35 %
6.78
5.85
0.49
2,746 5.41
6.41
5.71
6.34
9.77
5.28
6.27
5.77
705
701
566
167
64
2,203
4,949
643
25
13
5,630
4.91
7.35
2.15
5.64
$22,351
11,078
5,661
3,683
42,773
10,489
11,887
10,704
1,276
1,219
35,575
78,348
11,131
499
404
90,382
2,275
10,613
(793)
$102,477
$1,639
801
421
158
7.33 %
7.23
7.44
4.29
3,019 7.06
6.13
7.54
6.30
10.39
5.36
6.78
6.93
642
897
674
133
65
2,411
5,430
$20,504
9,797
6,015
3,730
40,046
9,574
12,070
9,570
838
1,395
33,447
73,493
$1,479
700
460
185
7.21 %
7.15
7.64
4.97
2,824 7.05
5.94
7.45
5.77
11.84
4.87
6.54
6.82
568
900
552
99
68
2,187
5,011
566
36
19
6,051
5.08
7.29
4.80
6.70
20,306
604
396
94,799
2,477
8,713
(751)
$105,238
904
45
21
5,981
4.45
7.38
5.27
6.31
($ in millions)
Assets
Interest-earning assets:
Loans and leases (a):
Commercial loans
Commercial mortgage
Commercial construction
Commercial leases
Subtotal - commercial
Residential mortgage
Home equity
Automobile loans
Credit card
Other consumer loans and leases
Subtotal - consumer
Total loans and leases
Securities:
Taxable
Exempt from income taxes (a)
Other short-term investments
Total interest-earning assets
Cash and due from banks
Other assets
Allowance for loan and lease losses
Total assets
Liabilities and Shareholders’ Equity
Interest-bearing liabilities:
Interest-bearing core deposits:
Interest checking
Savings
Money market
Foreign office deposits
Other time deposits
Total interest-bearing core deposits
Certificates - $100,000 and over
Other foreign office deposits
Federal funds purchased
Other short-term borrowings
Long-term debt
Average
Balance
$28,426
12,776
5,846
3,680
50,728
10,993
12,269
8,925
1,708
1,212
35,107
85,835
13,082
342
621
99,880
2,490
13,411
(1,485)
$114,296
$14,095
16,192
6,127
2,153
11,135
49,702
9,531
2,163
2,975
7,785
13,903
86,059
14,017
4,182
104,258
10,038
$114,296
$126
224
118
34
411
913
324
52
70
178
557
2,094
0.89 %
1.38
1.92
1.60
3.69
1.84
3.40
2.42
2.34
2.29
4.01
2.43
$318
456
269
73
495
1,611
328
68
184
140
687
3,018
$14,820
14,836
6,308
1,762
10,778
48,504
6,466
1,393
3,646
3,244
12,505
75,758
13,261
3,875
92,894
9,583
$102,477
2.14 %
3.07
4.26
4.15
4.59
3.32
5.07
4.91
5.04
4.32
5.50
3.98
$16,650
12,189
6,366
732
10,500
46,437
5,795
2,979
4,148
4,522
14,247
78,128
13,741
3,558
95,427
9,811
$105,238
$398
363
261
29
433
1,484
278
148
208
194
770
3,082
2.39 %
2.98
4.10
3.93
4.12
3.20
4.80
4.97
5.02
4.28
5.40
3.94
Total interest-bearing liabilities
Demand deposits
Other liabilities
Total liabilities
Shareholders’ equity
Total liabilities and shareholders’ equity
Net interest income
Net interest margin
Net interest rate spread
3.21
86.16
Interest-bearing liabilities to interest-earning assets
(a) The fully taxable-equivalent adjustments included in the above table are $22 million, $24 million and $26 million for the years ended December 31, 2008, 2007 and 2006, respectively.
3.54 %
3.36 %
2.72
83.82
$3,536
$2,899
$3,033
3.06 %
2.37
82.41
increased 10% compared to 2007. The increase in interest income
from investment securities was a result of the 17% increase in the
average investment portfolio offset by a decrease in the weighted-
average yield.
Core deposits increased $2.0 billion, or three percent,
compared to last year. The cost of interest-bearing core deposits
was 1.84% in 2008, which was a decrease of 148 bp from 3.32%
in 2007. The year-over-year decrease is a result of the decrease in
short-term market interest rates as, over the past year, the federal
funds target rate decreased 400 bp to a target of 0.25% at
December 31, 2008 compared to 4.25% at December 31, 2007.
Partially offsetting the decrease in the market rates was the highly
competitive rate environment for core deposits, which was created
by disruptions in the credit markets. Some relief from the highly
competitive deposit pricing was experienced at the end of the
fourth quarter as a number of bank consolidations were
completed. The relief in competitive deposit pricing is expected
to be somewhat muted in 2009, as customers began moving
balances into higher yielding time deposits during the fourth
quarter of 2008. Interest expense on wholesale funding decreased
16% compared to the prior year, despite a 33% increase in average
balances. Overall, the growth in average loans and leases since
2007 outpaced core deposit growth by $5.5 billion. In 2008,
wholesale funding represented 42% of interest-bearing liabilities,
up from 36% in 2007. The Bancorp issued $750 million of senior
notes in April 2008 and $400 million of trust preferred securities
in May 2008. The Bancorp’s equity funding position increased
approximately $500 million compared to 2007 from the issuance
of $1.1 billion in preferred shares during the second quarter of
2008. Additionally, on December 31, 2008 the Bancorp sold $3.4
billion of senior preferred shares and related warrants to the U.S.
Treasury under its CPP. For more information on the Bancorp’s
interest rate risk management, including estimated earnings
sensitivity to changes in market interest rates, see the Market Risk
Management section of Management’s Discussion and Analysis of
Financial Condition and Results of Operations.
Fifth Third Bancorp 25
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
TABLE 5: CHANGES IN NET INTEREST INCOME (FTE) ATTRIBUTED TO VOLUME AND YIELD/RATE (a)
For the years ended December 31
2008 Compared to 2007
2007 Compared to 2006
Volume
Yield/Rate
Total
Volume
Yield/Rate
Total
($ in millions)
Assets
Increase (decrease) in interest income:
Loans and leases:
Commercial loans
Commercial mortgage
Commercial construction
Commercial leases
Subtotal - commercial
Residential mortgage
Home equity
Automobile loans
Credit card
Other consumer loans and leases
Subtotal - consumer
Total loans and leases
Securities:
Taxable
Exempt from income taxes
Other short-term investments
Total interest-earning assets
Cash and due from banks
Other assets
Allowance for loan and lease losses
Total change in interest income
Liabilities and Shareholders’ Equity
Increase (decrease) in interest expense:
Interest-bearing core deposits:
Interest checking
Savings
Money market
Foreign office deposits
Other time deposits
Total interest-bearing core deposits
Certificates - $100,000 and over
Other foreign office deposits
Federal funds purchased
Other short-term borrowings
Long-term debt
$385
117
13
-
515
32
28
(113)
42
-
(11)
504
96
(11)
8
597
(504)
(52)
(92)
(140)
(788)
31
(224)
5
(8)
(1)
(197)
(985)
(19)
-
(14)
(1,018)
(119)
65
(79)
(140)
(273)
63
(196)
(108)
34
(1)
(208)
(481)
77
(11)
(6)
(421)
$135
93
(27)
(2)
199
56
(14)
68
47
(9)
148
347
(452)
(8)
(1)
(114)
$597
(1,018)
(421)
($114)
($15)
39
(7)
13
16
46
125
28
(29)
127
71
368
(177)
(271)
(144)
(52)
(100)
(744)
(129)
(44)
(85)
(89)
(201)
(1,292)
(192)
(232)
(151)
(39)
(84)
(698)
(4)
(16)
(114)
38
(130)
(924)
($41)
81
(2)
43
12
93
34
(78)
(25)
(55)
(97)
(128)
25
8
(12)
(25)
(4)
18
11
54
(13)
6
76
72
114
(1)
(1)
184
184
(39)
12
10
1
50
34
16
(2)
1
1
14
64
64
120
160
101
(39)
(27)
195
74
(3)
122
34
(3)
224
419
(338)
(9)
(2)
70
70
(80)
93
8
44
62
127
50
(80)
(24)
(54)
(83)
(64)
(64)
134
Total interest-bearing liabilities
Demand deposits
Other liabilities
Total change in interest expense
Shareholders’ equity
Total liabilities and shareholders’ equity
Total change in net interest income
(a) Changes in interest not solely due to volume or yield/rate are allocated in proportion to the absolute amount of change in volume or yield/rate.
(1,292)
(924)
(128)
$229
274
503
368
$14
Provision for Loan and Lease Losses
The Bancorp provides as an expense an amount for probable loan
and lease losses within the loan and lease portfolio that is based
on factors previously discussed in the Critical Accounting Policies
section. The provision is recorded to bring the allowance for loan
and lease losses to a level deemed appropriate by the Bancorp to
cover losses inherent in the portfolio. Actual credit losses on
loans and leases are charged against the allowance for loan and
lease losses. The amount of loans actually removed from the
Consolidated Balance Sheets is referred to as charge-offs. Net
charge-offs include current period charge-offs less recoveries on
previously charged-off loans and leases.
The provision for loan and lease losses increased to $4.6
billion in 2008 compared to $628 million in 2007. The primary
factors in the increase were the increase in impaired commercial
loans which are individually reviewed and reserved for, higher
losses, increased estimated loss factors due to negative trends in
overall delinquencies, increased loss estimates once a loan
becomes delinquent related to the deterioration in real estate
collateral values in certain of the Bancorp’s key lending markets
and declines in general economic conditions that are used to
26 Fifth Third Bancorp
determine an economic factor adjustment. As of December 31,
2008, the allowance for loan and lease losses as a percent of loans
and leases increased to 3.31% from 1.17% at December 31, 2007.
Refer to the Credit Risk Management section for more
detailed information on the provision for loan and lease losses
including an analysis of the loan portfolio composition, non-
performing assets, net charge-offs, and other factors considered
by the Bancorp in assessing the credit quality of the loan portfolio
and the allowance for loan and lease losses.
Noninterest Income
For the year ended December 31, 2008, noninterest income
increased by $479 million, or 19%, on a year-over-year basis. The
components of noninterest income are shown in Table 6.
Electronic payment processing revenue
increased $86
million, or 11%, in 2008 compared to the 2007 as the Bancorp
continued to realize growth in each of its three main product lines.
The components of electronic payment processing revenue are
shown in Table 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
TABLE 6: NONINTEREST INCOME
For the years ended December 31 ($ in millions)
Electronic payment processing revenue
Service charges on deposits
Corporate banking revenue
Investment advisory revenue
Mortgage banking net revenue
Other noninterest income
Securities gains (losses), net
Securities gains, net – non-qualifying hedges on mortgage servicing
rights
Total noninterest income
Merchant processing revenue increased 11%, to $341 million,
compared to 2007 as the growth in the number of merchants and
transaction volumes compared to 2007 was partially offset by
lower average dollar amounts per transaction due to lower
consumer spending in the fourth quarter of 2008. Financial
institutions revenue increased to $324 million, up seven percent,
compared to 2007 due to higher transaction volumes as a result of
continued success in attracting financial institution customers.
Card issuer interchange increased 16%, to $247 million, compared
to 2007 due to continued growth related to debit and credit card
usage. The Bancorp processed approximately 28.4 billion
transactions during 2008 compared to approximately 26.7 billion
transactions during 2007 and handles electronic processing for
over 169,000 merchant locations worldwide.
TABLE 7: COMPONENTS OF ELECTRONIC PAYMENT
PROCESSING REVENUE
For the years ended December 31
($ in millions)
Merchant processing revenue
Financial institutions revenue
Card issuer interchange
Electronic payment processing revenue
2008
$341
324
247
$912
2007
308
305
213
826
2006
255
279
183
717
Service charges on deposits increased to $641 million, up $62
million, or 11%, in 2008 compared to 2007. Commercial deposit
revenue, net of earnings credits, increased $44 million, or 18%,
compared to 2007. Gross commercial deposit revenue grew six
percent, to $534 million, compared to 2007. The overall increase
was primarily impacted by a decrease in earnings credits of $35
million, or 54%, on compensating balances resulting from the
decline in short-term interest rates. Commercial customers
receive earnings credits to offset the fees charged for banking
services on their deposit accounts such as account maintenance,
lockbox, ACH transactions, wire transfers and other ancillary
corporate treasury management services. Earnings credits are
based on the customer’s average balance in qualifying deposits
multiplied by the crediting rate. Qualifying deposits include
demand deposits and interest-bearing checking accounts. The
Bancorp has a standard crediting rate that is adjusted as necessary
based on competitive market conditions and changes in short-
term interest rates. Retail deposit revenue increased five percent,
to $348 million, in 2008 compared to 2007. The increase in retail
service charges was attributable to higher customer activity.
Deposit generation and growth in the number of customer
deposit account relationships continue to be a primary focus of
the Bancorp.
income of $106 million,
Corporate banking revenue increased $77 million, or 21%, in
2008 over 2007, and reflects benefits from the broadening of the
Bancorp’s suite of commercial products. Foreign exchange
derivative
increased $46 million
compared to 2007 due to volume increases. Growth also occurred
in fees associated with business lending and asset securitizations,
which grew $13 million and $12 million, respectively, compared to
2007. The Bancorp is committed to providing a comprehensive
range of financial services to large and middle-market businesses.
2008
$912
641
444
353
199
363
(86)
120
$2,946
2007
826
579
367
382
133
153
21
6
2,467
2006
717
517
318
367
155
299
(364)
3
2,012
2005
622
522
299
358
174
360
39
-
2,374
2004
521
515
228
363
178
587
(37)
-
2,355
Investment advisory revenue decreased $29 million, or eight
percent, from 2007 due to the significant decline in equity markets
in 2008 as the Bancorp experienced broad-based decreases in
several categories. Brokerage fee income, which includes Fifth
Third Securities income, decreased 11%, or $12 million, in 2008 as
investors migrated balances from stock and bond funds to money
markets funds due to market volatility. Mutual fund revenue
decreased 12%, to $53 million, in 2008 due to a shift to lower
yielding investments and lower asset values. As of December 31,
2008, the Bancorp had approximately $179 billion in assets under
care and managed $25 billion
individuals,
corporations and not-for-profit organizations.
in assets for
Mortgage banking net revenue increased to $199 million in
2008 from $133 million in 2007. The components of mortgage
banking net revenue for the year ended December 31, 2008 and
2007 are shown in Table 8.
TABLE 8: COMPONENTS OF MORTGAGE BANKING NET
REVENUE
For the years ended December 31
($ in millions)
Origination fees and gains on loan sales
Servicing revenue:
Servicing fees
Servicing rights amortization
Net valuation adjustments on servicing
rights and free-standing derivatives
entered into to economically hedge MSR
164
(107)
2008
$260
2007
79
145
(92)
2006
92
121
(68)
(118)
(61)
$199
1
54
133
10
63
155
Net servicing revenue (expense)
Mortgage banking net revenue
Mortgage banking net revenue
increased $66 million
compared to 2007 due to higher sales margins on loans sold,
higher sales volume of portfolio loans, and the impact of the
adoption of SFAS No. 159 for residential mortgage loans held for
sale, offset by lower net valuation adjustments. Mortgage
originations decreased three percent, from $11.9 billion to $11.5
billion, in comparison to 2007 as application volumes decreased
during the second half of 2008 as a result of market disruptions.
Mortgage originations rebounded during the fourth quarter of
2008 as a result of the declining interest rate environment. The
increase in sales margins on loans sold and sales volume of
portfolio
loans contributed $151 million and $13 million,
respectively, to the increase in mortgage banking net revenue.
The adoption of SFAS No. 159 on January 1, 2008 for residential
mortgage loans held for sale also contributed approximately $65
million to the increase in mortgage banking net revenue. Prior to
adoption, mortgage loan origination costs were capitalized as part
of the carrying amount of the loan and recognized as a reduction
of mortgage banking net revenue upon the sale of the loans.
Subsequent to the adoption, mortgage loan origination costs are
recognized as expense when incurred and included in noninterest
expense within the Consolidated Statements of Income.
Mortgage net servicing revenue decreased $115 million
compared to 2007. Net servicing revenue is comprised of gross
servicing fees and related amortization as well as valuation
adjustments on mortgage servicing rights and mark-to-market
Fifth Third Bancorp 27
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
instruments. Temporary
adjustments on both settled and outstanding free-standing
derivative financial
impairment on
servicing
rights, partially offset by gains on derivatives
economically hedging the mortgage servicing rights (MSRs),
resulted in lower mortgage net servicing revenue compared to
2007. The Bancorp’s total residential mortgage loans serviced at
December 31, 2008 and 2007 was $50.7 billion and $45.9 billion,
respectively, with $40.4 billion and $34.5 billion, respectively, of
residential mortgage loans serviced for others.
Servicing rights are deemed temporarily impaired when a
borrower’s loan rate is distinctly higher than prevailing rates.
Temporary impairment on servicing rights is reversed when the
prevailing rates return to a
level commensurate with the
borrower’s loan rate. Further detail on the valuation of mortgage
servicing rights can be found in Note 10 of the Notes to
Consolidated Financial Statements. The Bancorp maintains a
non-qualifying hedging strategy to manage a portion of the risk
associated with changes in impairment on the MSR portfolio. The
Bancorp recognized a gain from MSR derivatives of $89 million,
offset by a temporary impairment of $207 million, resulting in a
net loss of $118 million for the year ended December 31, 2008
related to changes in fair value and settlement of free-standing
derivatives purchased to economically hedge the MSR portfolio.
For the year ended December 31, 2007, the Bancorp recognized a
gain from MSR derivatives of $23 million, offset by a temporary
impairment of $22 million, resulting in a net gain of $1 million.
See Note 10 of the Notes to Consolidated Financial Statements
for more information on the free-standing derivatives used to
hedge the MSR portfolio. In addition to the derivative positions
used to economically hedge the MSR portfolio, the Bancorp
acquires various securities as a component of its non-qualifying
hedging strategy. A gain on non-qualifying hedges on mortgage
servicing rights of $120 million and $6 million in 2008 and 2007,
respectively, was included in noninterest income within the
Consolidated Statements of Income, but are shown separate from
mortgage banking net revenue.
Other noninterest income increased $210 million in 2008
compared to 2007. The components of other noninterest income
are shown in Table 9. The increase was primarily due to a $273
million gain from the redemption of a portion of the Bancorp’s
ownership interest in Visa, Inc. and a $76 million gain related to
the satisfactory resolution of the CitFed litigation. This increase
was offset by higher losses from the sale of both other real estate
owned properties and loans in addition to higher charges in 2008
to lower the current cash surrender value of one of the Bancorp’s
BOLI policies. Charges related to one of the Bancorp’s BOLI
policies were $215 million and $177 million, respectively, for the
years ended December 31, 2008 and December 31, 2007.
Net securities losses totaled $86 million in 2008 compared to
$21 million of net securities gains during 2007. The net securities
losses in 2008 include OTTI charges of $38 million and $29
to FHLMC and FNMA preferred stock,
million relating
respectively, along with OTTI charges of $37 million related to
certain bank trust preferred securities. The FHLMC and FNMA
preferred stock, combined, are carried at approximately $1 million
at December 31, 2008 with a par value of $68 million. The bank
TABLE 10: NONINTEREST EXPENSE
For the years ended December 31 ($ in millions)
Salaries, wages and incentives
Employee benefits
Net occupancy expense
Payment processing expense
Technology and communications
Equipment expense
Goodwill impairment
Other noninterest expense
Total noninterest expense
Efficiency ratio
28 Fifth Third Bancorp
TABLE 9: COMPONENTS OF OTHER NONINTEREST
INCOME
For the years ended December 31
($ in millions)
Gain on redemption of Visa, Inc.
2007
2008
ownership interests
CitFed litigation settlement
Cardholder fees
Consumer loan and lease fees
Operating lease income
Insurance income
Banking center income
(Loss) gain on loan sales
Loss on sale of other real estate owned
Bank owned life insurance (loss) income
Other
Total other noninterest income
$273
76
58
51
47
36
31
(11)
(60)
(156)
18
$363
-
-
56
46
32
32
29
25
(14)
(106)
53
153
2006
-
-
49
47
26
28
22
17
(8)
86
32
299
trust preferred securities with OTTI charges had a carrying value
of $79 million with a par value of $116 million at December 31,
2008.
Noninterest Expense
Total noninterest expense increased $1.3 billion, or 38%, in 2008
compared to 2007. The components of noninterest expense are
shown in Table 10. Noninterest expense in 2008 included a $965
million charge to record goodwill impairment, $99 million in net
reductions to noninterest expense to reflect the recognition of the
Bancorp’s proportional share of the Visa escrow account, partially
offset by additional charges for probable future Visa litigation
settlements, $65 million in mortgage origination costs from the
adoption of SFAS No. 159, $36 million in legal expenses related
to the CitFed litigation and $20 million in acquisition related
expenses. Noninterest expense in 2007 included charges of $172
million related to the indemnification of estimated current and
future Visa litigation settlements and $8 million in acquisition
related costs.
items, noninterest expense
increased $444 million, or 14%, due to increased volume-related
processing expenses, higher FDIC insurance, increases in the
credit component of fair value marks on counterparty derivatives,
increased provision for unfunded commitments and higher loan
processing costs. For more information pertaining to the goodwill
impairment charge, see Note 8 of the Notes to Consolidated
Financial Statements.
Excluding these
Total personnel costs (salaries, wages and incentives plus
employee benefits) increased 6% in 2008 compared to 2007 due
primarily to approximately $65 million in mortgage origination
costs that prior to the adoption of SFAS No. 159 on January 1,
2008, were included as a component of mortgage banking net
revenue. Total personnel expense in 2008 and 2007 included $9
million and $7 million, respectively, in severance related costs.
Excluding these items, personnel expense increased two percent
compared to 2007. As of December 31, 2008, the Bancorp
employed 22,423 employees, of which 6,678 were officers and
2,578 were part-time employees. Full-time equivalent employees
totaled 21,476 as of December 31, 2008 compared to 21,683 as of
December 31, 2007.
2008
$1,337
278
300
274
191
130
965
1,089
$4,564
70.4%
2007
1,239
278
269
244
169
123
-
989
3,311
60.2
2006
1,174
292
245
184
141
116
-
763
2,915
59.4
2005
1,133
283
221
145
142
105
-
772
2,801
52.1
2004
1,018
261
185
114
120
84
-
1,081
2,863
53.0
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Net occupancy expenses increased $31 million, or 11%, in
2008 compared to 2007 due to the addition of 80 new banking
centers. Growth in the number of banking centers was primarily
driven by acquisitions, which added 69 banking centers since
2007.
Payment processing expense, which includes third-party
processing expenses, card management fees and other bankcard
processing, increased 12% in 2008 compared to 2007 due to
higher network charges of $24 million from increased processing
institutions
volumes for both the merchant and financial
businesses.
Total other noninterest expense increased by $100 million, or
10%, in 2008 compared to 2007. The components of other
noninterest expense are shown in Table 11. Loan processing
expense was higher in comparison to 2007 as a result of increased
collection activities. Increased professional service fees compared
to 2007 resulted from legal expenses of $36 million stemming
from the CitFed litigation. FDIC insurance and other taxes were
higher due to the depletion of the Bancorp’s prior FDIC
insurance premium credits in 2008. The provision for unfunded
commitments increased $82 million compared to 2007 due to
higher estimates of inherent losses resulting from deterioration in
the credit quality of the underlying borrowers. The credit
component of fair value marks on counterparty derivatives
increased due to deterioration in the credit quality of the
Bancorp’s customers.
In December 2008, the FDIC approved a final rule on
deposit assessment rates for the first quarter of 2009. The rule
raised assessment rates uniformly by 7 bp (annually) for the first
quarter of 2009 only. The FDIC issued another final rule during
the first quarter of 2009 changing the way the FDIC’s assessment
system differentiates for risk, makes corresponding changes to
assessment rates beginning with the second quarter of 2009, and
makes certain technical and other changes to the assessment rules.
In addition, the FDIC issued an interim rule that provides for a 20
bp special assessment on June 30, 2009. The increase in
assessment rates effective January 1, 2009 will approximately
double the Bancorp's expected assessment for 2009’s first quarter.
The Bancorp believes the assessment rates subsequent to the first
quarter 2009 will be significantly higher than the first quarter of
2009. As a result, the Bancorp expects that increased FDIC
insurance expense in 2009 will have an adverse impact on its
results of operations.
In addition to the standard deposit insurance assessments, as
noted above, in the third quarter of 2008, the FDIC announced
the Temporary Liquidity Guarantee Program (TLGP), which
temporarily guarantees the senior debt of participating FDIC-
insured institutions and certain holding companies, as well as
deposits in noninterest-bearing deposit transaction accounts. The
Bancorp expects assessments related to the TLGP to have an
adverse impact on its results of operations.
TABLE 11: COMPONENTS OF OTHER NONINTEREST
EXPENSE
For the years ended December 31
($ in millions)
Loan processing
Marketing
Professional services fees
Provision for unfunded commitments and
2007
119
84
54
2008
$188
102
102
letters of credit
FDIC insurance and other taxes
Affordable housing investments
Intangible asset amortization
Travel
Postal and courier
Recruitment and education
Operating lease
Supplies
Visa litigation (accrual) settlement
Debt termination
Other
Total other noninterest expense
98
73
67
56
54
54
33
32
31
(99)
-
298
$1,089
16
31
57
42
54
52
41
22
31
172
-
214
989
2006
93
78
41
5
39
42
45
52
49
51
18
28
-
49
173
763
The efficiency ratio (noninterest expense divided by the sum
of net interest income (FTE) and noninterest income) was 70.4%
and 60.2% for 2008 and 2007, respectively. Excluding the
goodwill impairment charge of $965 million in 2008, the efficiency
ratio was 55.5% (comparison being provided to supplement an
understanding of fundamental trends). The Bancorp continues to
focus on efficiency initiatives, as part of its core emphasis on
operating leverage and on expense control.
Applicable Income Taxes
The Bancorp’s income (loss) before income taxes, applicable
income tax expense and effective tax rate for each of the periods
indicated are shown in Table 12. Applicable income tax expense
for all periods includes the benefit from tax-exempt income, tax-
advantaged investments and general business tax credits, partially
offset by the effect of nondeductible expenses. The effective tax
rate for the year ended December 31, 2008 was primarily impacted
by the pre-tax loss in 2008, partially offset by tax expense of
approximately $140 million in the second quarter of 2008 required
for interest related to the tax treatment of certain of the Bancorp’s
leveraged leases for previous tax years and the nondeductible
portion of the charge of $965 million to record impairment of
goodwill.
TABLE 12: APPLICABLE INCOME TAXES
For the years ended December 31 ($ in millions)
Income (loss) before income taxes and cumulative effect
Applicable income tax expense (benefit)
Effective tax rate
2008
($2,664)
(551)
(20.7%)
2007
1,537
461
30.0
2006
1,627
443
27.2
2005
2,208
659
29.9
2004
2,237
712
31.8
Fifth Third Bancorp 29
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
BUSINESS SEGMENT REVIEW
The Bancorp reports on five business segments: Commercial
Banking, Branch Banking, Consumer Lending, Processing
Solutions and Investment Advisors. Further detailed financial
information on each business segment is included in Note 28 of
the Notes to Consolidated Financial Statements.
Results of the Bancorp’s business segments are presented
based on its management structure and management accounting
practices. The structure and accounting practices are specific to
the Bancorp; therefore, the financial results of the Bancorp’s
business segments are not necessarily comparable with similar
information for other financial institutions. The Bancorp refines
its methodologies from time to time as management accounting
practices are improved and businesses change.
The Bancorp manages interest rate risk centrally at the
corporate level by employing a funds transfer pricing (FTP)
methodology. This methodology insulates the business segments
from interest rate volatility, enabling them to focus on serving
customers through loan originations and deposit taking. The FTP
system assigns charge rates and credit rates to classes of assets and
liabilities, respectively, based on expected duration and the
London Interbank Offered Rate (LIBOR) swap curve. Matching
duration allocates interest income and interest expense to each
segment so its resulting net interest income is insulated from
interest rate risk. In a rising rate environment, the Bancorp
benefits from the widening spread between deposit costs and
wholesale funding costs. However, the Bancorp’s FTP system
credits this benefit to deposit-providing businesses, such as
Branch Banking and Investment Advisors, on a duration-adjusted
basis. The net impact of the FTP methodology is captured in
General Corporate and Other.
The business segments are charged provision expense based
on the actual net charge-offs experienced by the loans owned by
each segment. Provision expense attributable to loan growth and
changes in factors in the allowance for loan and lease losses are
captured in General Corporate and Other. The financial results of
the business segments include allocations for shared services and
headquarters expenses. Even with these allocations, the financial
results are not necessarily indicative of the business segments’
financial condition and results of operations as if they were to
exist as independent entities. Additionally, the business segments
form synergies by taking advantage of cross-sell opportunities and
when funding operations by accessing the capital markets as a
collective unit. Net
to common
shareholders by business segment is summarized in Table 13.
(loss) available
income
2007
2008
TABLE 13: BUSINESS SEGMENT NET INCOME (LOSS)
AVAILABLE TO COMMON SHAREHOLDERS
For the years ended December 31
($ in millions)
Income Statement Data
Commercial Banking
Branch Banking
Consumer Lending
Processing Solutions
Investment Advisors
General Corporate and Other
Net income (loss)
Dividends on preferred stock
Net income (loss) available to common
($697)
568
(108)
182
93
(2,151)
(2,113)
67
698
620
130
163
99
(634)
1,076
1
693
563
180
139
90
(477)
1,188
-
2006
shareholders
($2,180)
1,075
1,188
30 Fifth Third Bancorp
to
Commercial Banking
Commercial Banking offers banking, cash management and
financial services
large and middle-market businesses,
government and professional customers. In addition to the
traditional lending and depository offerings, Commercial Banking
products and services include, among others, foreign exchange
and international trade finance, derivatives and capital markets
services, asset-based lending, real estate finance, public finance,
commercial leasing and syndicated finance. Table 14 contains
selected financial data for the Commercial Banking segment.
TABLE 14: COMMERCIAL BANKING
For the years ended December 31
($ in millions)
Income Statement Data
Net interest income (FTE) (a)
Provision for loan and lease losses
Noninterest income:
Electronic payment processing
Service charges on deposits
Corporate banking revenue
Investment advisory revenue
Mortgage banking net revenue
Other noninterest income
Securities gains (losses), net
Noninterest expense:
Salaries, incentives and benefits
Net occupancy expense
Payment processing expense
Technology and communications
Equipment expense
Goodwill impairment
Other noninterest expense
2008
2007
2006
$1,645
1,864
1,311
127
1,318
99
(2)
186
414
5
-
52
-
(6)
154
341
3
-
66
-
(5)
146
292
3
-
40
-
299
17
1
(2)
4
750
599
(1,232)
(535)
($697)
264
15
-
4
3
-
514
942
244
698
245
14
-
-
2
-
467
967
274
693
Income (loss) before taxes
Applicable income tax expense (benefit)
Net income (loss)
Average Balance Sheet Data
32,714
Commercial loans
6,300
Demand deposits
3,875
Interest checking
5,053
Savings and money market
1,774
Certificates $100,000 and over & other time
515
Foreign office deposits
(a) Includes taxable equivalent adjustments of $15 million for 2008, $14 million for 2007 and
$43,213
6,208
4,536
4,047
2,293
1,932
35,666
5,930
4,107
4,461
1,855
1,486
$13 million for 2006.
Comparison of 2008 with 2007
Commercial Banking incurred a net loss of $697 million compared
to net income of $698 million in 2007 as solid growth in net
interest income and corporate banking revenue was more than
offset by increased provision for loan and lease losses and
impairment to goodwill. The impairment charge of $750 million
was taken in the fourth quarter of 2008 due to the decline in the
estimated fair value of the Commercial Banking segment below its
carrying value and the determination that the implied fair value of
the goodwill was less than its carrying value. Net interest income
increased $334 million, or 25%, compared to the same period last
year. The accretion of purchase accounting adjustments, totaling
$204 million, primarily related to the second quarter acquisition of
First Charter drove the increase in net interest income with the
remainder attributed to the growth in loans, partially funded by an
increase in deposits. Average commercial loans and leases
increased 21%, to $43.1 billion, over 2007 due to increased loan
footprint during 2008,
production within
acquisitions since 2007, and the purchase of assets from an
unconsolidated Qualified Special Purpose Entity (QSPE) under a
liquidity asset purchase agreement with the Bancorp. See Note 10
of the Notes to Consolidated Financial Statements for further
information on the unconsolidated QSPE. Excluding the impact
of $1.0 billion from acquisitions and $243 million from the use of
the Bancorp’s
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
contingent liquidity facilities, average commercial loans increased
approximately 17% compared to 2007. Average core deposits
increased four percent due to growth in interest checking and
foreign office deposits.
Net charge-offs as a percent of average loans and leases
increased to 436 bp from 36 bp in 2007. Net charge-offs
increased in comparison to 2007 due to weakening economies and
the continuing deterioration of credit within the Bancorp’s
footprint, particularly
involving
commercial loans and commercial mortgage loans. Additionally,
in the fourth quarter of 2008, the Bancorp sold or transferred to
held-for-sale $1.3 billion in commercial loans and commercial
mortgage loans, resulting in $800 million in charge-offs on those
loans, or 185 bp.
in Michigan and Florida,
Noninterest income increased $97 million compared to 2007
due to corporate banking revenue growth of $73 million and
increased service charges on deposits of $32 million, both up
21%. Corporate banking revenue increased as a result of growth
in foreign exchange derivative income, which increased $38
million, to $90 million, during 2008 and in business lending fees,
which increased $16 million, or 26%, compared to 2007. The
increase in service charges on deposits was a result of higher
volume-related business service charges (net of discounts) and a
reduction in the amount of offsetting earnings credits as short-
term rates were lower in 2008 than 2007.
Noninterest expense increased $868 million compared to
2007 primarily due to goodwill impairment of $750 million in
2008. The impairment charge was taken in the fourth quarter of
2008 due to the decline in the estimated fair value of the
Commercial Banking segment below its carrying value and the
determination that the implied fair value of the goodwill was less
than its carrying value. Also contributing to the growth in
noninterest expense was sales incentives, which increased 22% to
$106 million compared to 2007 as a result of increased revenues,
especially foreign exchange derivative income. Additionally, other
noninterest expense increased due to growth in loan expenses of
$33 million, to $65 million, during 2008 from increased collection
activities.
Comparison of 2007 with 2006
Net income increased $5 million compared to 2006 as a result of
continued success in the sale of corporate banking services, offset
by a higher provision for loan and lease losses and growth in
noninterest expense.
Net interest income was modestly lower in comparison to
2006 due to a 32 bp decline in the spread between loan yields and
the related FTP charge. Average loans and leases increased nine
percent over 2006, to $35.7 billion, with growth concentrated in
C&I loans and commercial mortgage loans. The increase in
commercial mortgage loans can be attributed to loans acquired
from R-G Crown Bank (Crown) in November 2007 and to the
to permanent financing
conversion of construction
throughout 2007. Average core deposits increased modestly to
$15.9 billion in 2007 compared to 2006. Net charge-offs as a
percent of average loans increased from 31 bp in 2006 to 36 bp in
2007 as the segment experienced an increase in charge-offs of
commercial mortgage loans in parts of its footprint, specifically
eastern Michigan and northeastern Ohio.
loans
Noninterest income increased $82 million, or 17%, compared
to 2006 largely due to an increase in corporate banking revenue of
$49 million, or 17%. Increases in corporate banking revenue
occurred in all subcaptions as a result of a build-out of its
commercial product offerings by the Commercial Banking
segment.
Noninterest expense increased $72 million, or 10%, in 2007
compared to 2006 primarily due to higher sales related incentives
expense and a volume-related increase in affordable housing
investments expense.
Branch Banking
Branch Banking provides a full range of deposit and loan and
lease products to individuals and small businesses through 1,307
full-service banking centers. Branch Banking offers depository
and loan products, such as checking and savings accounts, home
equity loans and lines of credit, credit cards and loans for
automobile and other personal financing needs, as well as
products designed to meet the specific needs of small businesses,
including cash management services. Table 15 contains selected
financial data for the Branch Banking segment.
TABLE 15: BRANCH BANKING
For the years ended December 31
($ in millions)
Net interest income
Provision for loan and lease losses
Noninterest income:
Electronic payment processing
Service charges on deposits
Corporate banking revenue
Investment advisory revenue
Mortgage banking net revenue
Other noninterest income
Securities gains (losses), net
Noninterest expense:
Salaries, incentives and benefits
Net occupancy expense
Payment processing expense
Technology and communications
Equipment expense
Goodwill impairment
Other noninterest expense
Income before taxes
Applicable income tax expense
Net income
Average Balance Sheet Data
Consumer loans
Commercial loans
Demand deposits
Interest checking
Certificates $100,000 and over & other time
Savings and money market
2008
2007
2006
$1,662
352
1,464
162
1,300
108
189
447
12
84
13
67
-
517
159
6
16
44
-
503
877
309
$568
174
421
13
90
7
73
-
479
136
6
14
37
-
450
958
338
620
159
365
15
87
5
80
-
455
121
15
13
32
-
398
869
306
563
$12,665
5,596
6,006
7,845
13,749
16,184
11,838
5,169
5,756
8,692
13,729
14,623
11,461
5,289
5,839
10,578
13,031
11,886
Comparison of 2008 with 2007
Net income decreased $52 million, or eight percent, compared to
2007 as increases in net interest income and service fees were
more than offset by a higher provision for loan and lease losses
and increased salaries & incentives and net occupancy expense.
Net interest income increased 14% compared to 2007 due to the
increase in volume of higher yielding credit cards coupled with the
FTP impact for increases in deposit balances. Also impacting net
interest
income was the accretion of purchase accounting
adjustments, totaling $43 million, primarily related to the second
quarter acquisition of First Charter. Average loans and leases
increased seven percent compared to 2007 as home equity loans
grew five percent due to acquisitions since 2007. The segment
grew credit card balances by $396 million, or 36%, resulting from
an increased focus on relationships with its current customers
through the cross-selling of credit cards. Average core deposits
were up three percent compared to 2007 primarily due to
acquisitions since 2007.
Net charge-offs as a percent of average loan and leases
increased in 2008 to 194 bp from 95 bp in 2007. Net charge-offs
increased in comparison to 2007 as the segment experienced
higher charge-offs involving brokered home equity lines and
loans, commercial loans and credit cards. The increase of $63
million in charge-offs on home equity reflected borrower stress
and a decrease in home prices primarily within the Bancorp’s
footprint. Commercial loan charge-offs increased $41 million
compared to 2007 due to the weakening economy and the
Fifth Third Bancorp 31
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
continuing deterioration of commercial credit, particularly in
Michigan and Florida. Charge-offs
involving credit cards
increased $44 million compared to 2007 due to higher card
balances and the resulting increase in losses upon the maturation
of the portfolio.
Noninterest income increased $34 million, or four percent,
compared to 2007 primarily due to an increase in service charges
on deposits of $26 million, or six percent. The increase in deposit
fees, including consumer overdraft fees, is attributed to higher
customer activity in comparison to 2007.
Noninterest expense
increased $123 million, or 11%,
compared to 2007 as salaries and incentives increased eight
percent due to higher incentives paid from increased revenues in
2008. Additionally, net occupancy and equipment costs increased
17% as a result of additional banking centers. Since 2007, the
Bancorp’s banking centers have increased by 80 to 1,307 as of
December 31, 2008, mainly due to acquisitions, which contributed
69 banking centers. Other noninterest expense increased 12%,
which can be attributed to higher loan cost associated with
collections.
Comparison of 2007 with 2006
Net income increased $57 million, or 10%, compared to 2006 as
the segment benefited from increased interest rates through the
majority of 2007 and increased service charges on deposits. Net
interest income increased $164 million as increases in total
deposits were partially offset by a deposit mix shift toward higher
paying deposit account types. Average core deposits increased
three percent, to $39.9 billion, compared to 2006. Average loans
and leases increased two percent to $17.0 billion, led by growth in
credit card balances of 56%.
The provision for loan and lease losses increased $54 million
over 2006 due to the deteriorating credit environment involving
home equity loans, particularly in Michigan and Florida. Net
charge-offs as a percent of average loans and leases increased
significantly from 64 bp to 95 bp, with much of the increase
occurring in the fourth quarter of 2007. The Bancorp experienced
growth in charge-offs on home equity lines and loans with high
loan-to-value (LTV) ratios, reflecting borrower stress and lower
home prices.
Noninterest income increased nine percent from 2006 as
service charges on deposits grew 15% compared to the prior year
due to growth in consumer deposit fees driven by new account
openings and higher levels of customer activity.
Noninterest expense increased eight percent compared to
2006. Net occupancy and equipment expenses increased 13%
compared to 2006 as a result of the continued opening of new
banking centers.
32 Fifth Third Bancorp
Consumer Lending
Consumer Lending includes the Bancorp’s mortgage, home
equity, automobile and other indirect lending activities. Mortgage
and home equity lending activities include the origination,
retention and servicing of mortgage and home equity loans or
lines of credit, sales and securitizations of those loans or pools of
loans or lines of credit and all associated hedging activities. Other
indirect lending activities include loans to consumers through
mortgage brokers, automobile dealers and federal and private
student education loans. Table 16 contains selected financial data
for the Consumer Lending segment.
TABLE 16: CONSUMER LENDING
For the years ended December 31
($ in millions)
Income Statement Data
Net interest income
Provision for loan and lease losses
Noninterest income:
Electronic payment processing
Service charges on deposits
Corporate banking revenue
Investment advisory revenue
Mortgage banking net revenue
Other noninterest income
Securities gains (losses), net
Noninterest expense:
Salaries, incentives and benefits
Net occupancy expense
Payment processing expense
Technology and communications
Equipment expense
Goodwill impairment
Other noninterest expense
Income (loss) before taxes
Applicable income tax expense (benefit)
Net income (loss)
Average Balance Sheet Data
Residential mortgage loans
Home equity
Automobile loans
Consumer leases
2008
2007
2006
$497
425
-
-
-
-
184
38
124
134
8
-
2
1
215
224
(166)
(58)
($108)
404
149
-
-
-
-
122
69
6
74
8
-
2
1
-
167
200
70
130
409
94
-
-
-
-
148
76
3
87
7
-
2
1
-
167
278
98
180
$10,699
1,143
7,989
797
10,156
1,328
9,712
917
9,523
1,311
8,560
1,328
Comparison of 2008 with 2007
Consumer Lending incurred a net loss of $108 million compared
to net income of $130 million in 2007 as the increases in net
interest income and mortgage banking net revenue and securities
gains were more than offset by growth in provision for loan and
lease losses and goodwill impairment. The impairment charge of
$215 million was taken in the fourth quarter of 2008 due to the
decline in the estimated fair value of the Consumer Lending
segment below its carrying value and the determination that the
implied fair value of the goodwill was less than its carrying value.
The growth in net interest income compared to 2007 was
primarily driven by a rebound in mortgage rate spreads, partially
offset by the decrease in interest-earning assets. Net interest
income was also
impacted by the accretion of purchase
accounting adjustments, totaling $60 million, primarily related to
the second quarter acquisition of First Charter. Average residential
mortgage loans increased six percent compared to 2007 due to
acquisitions, including Crown in the fourth quarter of 2007 and
First Charter in the second quarter of 2008. Average automobile
loans decreased 18% compared to 2007 due to securitizations
totaling $2.7 billion in 2008. Net charge-offs as a percent of
average loan and leases increased from 73 bp in 2007 to 221 bp in
2008. Net charge-offs, primarily in residential mortgage loans,
increased in comparison to 2007 due to the weakening economy
and continuing deterioration of real estate values within the
Bancorp’s footprint, particularly in Michigan and Florida. The
segment continues to focus on managing credit risk through the
restructuring of certain residential mortgage and home equity
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
loans in addition to careful consideration of underwriting and
collection standards. As of December 31, 2008, the Bancorp had
restructured approximately $462 million and $248 million of
residential mortgage loans and home equity loans, respectively, to
mitigate losses due to declining collateral values.
Mortgage originations decreased to $11.2 billion in 2008
from $11.4 billion in 2007 due to lower application volumes in the
second half of 2008 resulting from market disruptions. The
increase in sales margins on loans held for sale and sales volume
of portfolio loans were the primary reasons for increased
mortgage banking net revenue compared
to 2007. Also
contributing to the increase in mortgage banking net revenue in
2008 was the $65 million impact from the adoption of SFAS No.
159, as of January 1, 2008, on residential mortgage loans held for
sale. Prior to adoption, mortgage loan origination costs were
capitalized as part of the carrying amount of the loan and
recognized as a reduction of mortgage banking net revenue upon
the sale of the loans. Subsequent to the adoption, mortgage loan
origination costs are recognized in earnings when incurred, which
primarily drove the
in
comparison to 2007. The increase in other noninterest expense
compared to 2007 can be attributed to higher loan processing
costs from increased collection activities.
in salaries and
incentives
increase
Comparison of 2007 with 2006
Net income decreased $50 million, or 28%, compared to 2006
despite increased originations, due to an increase in provision for
loan and lease losses and decreased gain on sale margins.
Average residential mortgage loans increased seven percent
compared to 2006 due to increased mortgage originations and
loans acquired from Crown. Net charge-offs increased to 73 bp
in 2007, an increase from 47 bp in 2006, due to greater severity of
loss on residential mortgages and automobile loans related to
declining real estate prices and a market surplus of used
automobiles, respectively.
Noninterest income decreased 14% compared to 2006 due to
a decline in mortgage banking net revenue. The Bancorp’s
mortgage originations were $11.4 billion and $9.4 billion in 2007
and 2006, respectively. Despite the increase in originations, gain
on sale margins decreased due to widening credit spreads in the
residential mortgage market, resulting in a decrease in mortgage
banking net revenue of $26 million, or 18%.
Processing Solutions
Fifth Third Processing Solutions provides electronic funds
transfer, debit, credit and merchant transaction processing,
operates the Jeanie® ATM network and provides other data
processing services to affiliated and unaffiliated customers. Table
17 contains selected financial data for the Processing Solutions
segment.
TABLE 17: PROCESSING SOLUTIONS
For the years ended December 31
($ in millions)
Net interest income
Provision for loan and lease losses
Noninterest income:
2008
$7
16
2007
(6)
11
2006
(3)
9
Electronic payment processing
Service charges on deposits
Corporate banking revenue
Investment advisory revenue
Mortgage banking net revenue
Other noninterest income
Securities gains (losses), net
Noninterest expense:
Salaries, incentives and benefits
Net occupancy expense
Payment processing expense
Technology and communications
Equipment expense
Goodwill impairment
Other noninterest expense
Income before taxes
Applicable income tax expense
Net income
796
1
-
-
-
46
-
80
4
265
42
2
-
161
280
98
$182
700
(1)
3
-
-
41
-
75
4
237
31
4
-
123
252
89
163
601
(1)
1
-
-
35
(1)
70
3
169
32
4
-
130
215
76
139
Comparison of 2008 with 2007
Net income increased $19 million, or 12%, compared to 2007 as
the segment continues to increase its presence in the electronic
payment processing business. The segment continues to realize
year-over-year growth in transaction volumes and revenue growth,
despite the negative effect of the slowdown in consumer
spending, due to the addition and conversion of large national
clients over the past year and current initiatives involving
merchant pricing and sales. Financial institutions processing
revenues increased $50 million, or 16%, driven by higher
transaction volumes. Merchant processing revenue increased $29
million, or nine percent, over 2007 as growth in the number of
merchants and overall transaction volume was partially offset by
lower average dollar amounts per transaction. Growth in card
issuer interchange of $17 million, or 25%, can be attributed to
organic growth in the Bancorp’s credit card portfolio.
Payment processing expense increased $28 million, or 12%,
from 2007 due to higher network charges of $189 million, an
increase of $23 million, or 14% from 2007. The increase in
network charges is a result of increased transaction volumes as
financial
transactions
processed both increased in comparison to 2007. Noninterest
expense also increased due to higher volume-related technology
and communications expense.
transactions and merchant
institution
Comparison of 2007 with 2006
Net income increased $24 million, or 17%, versus the prior year as
electronic payment processing revenues continued to produce
double-digit increases. Merchant processing increased $55 million
due to the addition and conversion of large national clients
throughout 2007. Card issuer interchange revenues increased
primarily due to new customer additions and the resulting higher
card sales volumes from the success in the Bancorp’s initiative to
increase credit card penetration of its customer base.
The strong increase in noninterest income was mitigated by a
19% increase in noninterest expense due to network charges
resulting from increased transaction volume in addition to
expenses related to the conversion of large merchant contracts.
Fifth Third Bancorp 33
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Comparison of 2007 with 2006
Net income increased $9 million, or 10%, compared to 2006 on
increases in investment advisory revenue of five percent. Net
interest income increased 11% to $153 million on a five percent
increase in average loans and leases and a seven percent increase
in core deposits. Overall, noninterest income increased six percent
from 2006. Fifth Third Private Bank, the Bancorp’s wealth
management group,
increased revenues by six percent on
execution of cross-sell initiatives. Brokerage income also increased
seven percent compared to 2006 as the overall equity markets
performed well for much of 2007 and the segment increased the
number of registered representatives. The segment realized only
modest gains
income. Noninterest
expenses remained contained, increasing four percent compared
to 2006.
institutional services
in
General Corporate and Other
General Corporate and Other includes the unallocated portion of
the investment securities portfolio, securities gains/losses, certain
non-core deposit funding, unassigned equity, provision expense in
excess of net charge-offs, the payment of preferred stock
dividends and certain support activities and other items not
attributed to the business segments.
Comparison of 2008 with 2007
The results of General Corporate and Other were primarily
impacted by the significant increase in the provision expense in
excess of net charge-offs, which increased from $167 million in
2007 to $1.9 billion in 2008. The results in 2008 also included
$273 million in income related to the redemption of a portion of
Fifth Third’s ownership interests in Visa, $99 million in net
reductions to noninterest expense to reflect the reversal of a
litigation reserve related to the Bancorp’s
portion of the
indemnification of Visa, $229 million after-tax impact of charges
relating to certain leveraged leases, charges related to a reduction
in the current cash surrender value of one of the Bancorp’s BOLI
policies totaling $215 million, OTTI charges totaling $104 million
from FNMA and FHLMC preferred stock and certain bank trust
preferred securities, and a net benefit of $40 million from the
resolution of the CitFed litigation. The results in 2007 included a
charge of $177 million related to a reduction in the current cash
surrender value of one of the Bancorp’s BOLI policies and
charges totaling $172 million related to the Visa settlement with
American Express.
Comparison of 2007 with 2006
Results were primarily impacted by a charge of $177 million to
reduce the cash surrender value of one of the Bancorp’s BOLI
policies, charges totaling $172 million related to the Visa
settlement with American Express, and the increase in provision
expense in excess of net charge-offs compared to the prior year.
Provision expense over charge-offs increased by approximately
$139 million compared to 2006 as the allowance for loan and lease
losses as a percentage of loan and leases increased from 1.04% as
of December 31, 2006 to 1.17% as of December 31, 2007. The
increase is attributable to a number of factors including an
increase in delinquencies, the severity of loss due to real estate
price deterioration and automobile loans and credit card balances.
for
services
Investment Advisors
investment
Investment Advisors provides a full range of
individuals, companies and not-for-profit
alternatives
organizations. The Bancorp’s primary
include
investments, private banking, trust, asset management, retirement
plans and custody. Fifth Third Securities, Inc., (FTS) an indirect
wholly-owned subsidiary of the Bancorp, offers full service retail
brokerage services to individual clients and broker dealer services
to the institutional marketplace. Fifth Third Asset Management,
indirect wholly-owned subsidiary of the Bancorp,
Inc., an
provides asset management services and also advises the
Bancorp’s proprietary family of mutual funds. Table 18 contains
selected financial data for the Investment Advisors segment.
TABLE 18: INVESTMENT ADVISORS
For the years ended December 31
($ in millions)
Income Statement Data
Net interest income
Provision for loan and lease losses
Noninterest income:
Electronic payment processing
Service charges on deposits
Corporate banking revenue
Investment advisory revenue
Mortgage banking net revenue
Other noninterest income
Securities gains (losses), net
Noninterest expense:
Salaries, incentives and benefits
Net occupancy expense
Payment processing expense
Technology and communications
Equipment expense
Goodwill impairment
Other noninterest expense
Income before taxes
Applicable income tax expense
Net income
Average Balance Sheet Data
Loans
Core deposits
2008
2007
2006
$183
49
2
9
18
354
1
2
-
159
10
-
2
1
-
204
144
51
$93
153
12
1
7
10
386
2
1
-
167
10
-
2
1
-
215
153
54
99
138
4
1
7
7
367
2
2
-
172
10
-
2
1
-
196
139
49
90
$3,527
4,666
3,206
4,959
3,067
4,651
Comparison of 2008 with 2007
Net income decreased $6 million, or six percent, compared to
2007 as higher net interest income and decreased operating
expenses were more than offset by a higher provision for loan and
lease losses and lower investment advisory income. The segment
grew loans by 10% and benefited from an overall decrease in
interest rates to increase net interest income $30 million, or 20%,
as spreads widened due to decreases in funding costs. Average
core deposits declined six percent compared to 2007. The
decrease in core deposits was primarily due to a 16% decline in
interest checking balances.
Noninterest income decreased $22 million, or five percent,
compared to 2007, as investment advisory income decreased eight
percent, to $354 million. Included in the decrease of investment
advisory income was a decline in broker income of $11 million, or
nine percent, driven by clients moving to lower fee, cash based
products from equity products due to extreme market volatility
and a decline in transaction based revenues. Additionally,
institutional trust revenue within investment advisory income
decreased $7 million, or eight percent, due to overall lower asset
values. Noninterest expense decreased $19 million, or five
percent, compared to 2007 as the segment continued to focus on
expense control by reducing personnel and canceling certain
projects.
34 Fifth Third Bancorp
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FOURTH QUARTER REVIEW
The Bancorp’s 2008 fourth quarter net loss was $2.2 billion, or
$3.82 per diluted share, compared to a net loss of $81 million, or
$0.14 per diluted share, for the third quarter of 2008 and net
income of $16 million, or $0.03 per diluted share, for the fourth
quarter of 2007. Fourth quarter 2008 earnings were negatively
impacted by a number of charges including: a $965 million charge
to record impairment on goodwill, $40 million in OTTI charges on
securities, a $34 million charge to lower the current cash surrender
value of one of the Bancorp’s BOLI policies and provision expense
of $2.4 billion. Provision expense included the effect of actions
taken to address areas of the loan portfolio exhibiting the most
significant credit deterioration as the Bancorp sold or transferred to
held-for-sale loans with a carrying value of approximately $1.3
billion. Approximately 90% of these loans were commercial real
estate secured loans in Florida and Michigan. Overall, net charge-
offs on loans sold or transferred to held-for-sale during the fourth
quarter totaled $800 million. Additionally, provision expense was
impacted by a significant increase in the reserve for loan and lease
losses to $2.8 billion, resulting in an allowance to loan and lease
ratio of 3.31% as of December 31, 2008, compared to 2.41% as of
September 30, 2008 and 1.17% as of December 31, 2007. Fourth
quarter 2007 earnings were negatively impacted by a charge of $177
million to lower the current cash surrender value of one of the
Bancorp’s BOLI policies and a charge of $94 million related to
Visa members’ indemnification of future litigation settlements.
Fourth quarter 2008 net interest income (FTE) of $897
million decreased $171 million from the third quarter of 2008 and
increased $112 million from the same period a year ago. Third and
fourth quarter net interest income was affected by the loan
discount accretion related to the second quarter of 2008 acquisition
of First Charter. Excluding the benefit of the loan discount
accretion of $81 million in the fourth quarter and $215 million in
the third quarter, net interest income declined $37 million, or four
percent, from the third quarter of 2008 and increased $31 million,
or four percent, from the fourth quarter of 2007. The sequential
decline was driven by a number of factors which included the
effect of higher nonperforming loan balances, a change in the mix
of deposits to higher priced savings and time deposits as a result of
the highly competitive pricing environment and the effect of a
greater concentration in lower yielding commercial loans. The
year-over-year increase in net interest income was due to the nine
percent growth in interest-earning assets, partially offset by margin
compression due to the factors above.
Noninterest income of $642 million decreased by $75 million
compared to the third quarter of 2008 and increased $133 million
compared to the fourth quarter of 2007. Fourth quarter 2008
results included a $34 million charge to reduce the cash surrender
value of one of the Bancorp’s BOLI policies, compared to a charge
of $27 million in the third quarter of 2008 and a $177 million
charge in the fourth quarter of 2007. Third quarter results were
also impacted by a $76 million gain related to a satisfactory
resolution of the CitFed litigation. Excluding the above items and
non-mortgage related securities gains/losses, noninterest income
decreased $15 million, or two percent, compared to the sequential
quarter and increased $38 million, or six percent, compared to the
same quarter a year ago. The sequential decrease is a result of
lower consumer activity levels, including average credit and debit
card transaction and consumer deposit activity, while the year-over-
year increase is a result of the growth in customers, particularly in
commercial and Fifth Third Processing Solutions.
Electronic payment processing (EPP) revenue of $230 million
declined two percent compared to the third quarter of 2008 and
increased three percent from the fourth quarter of 2007. Merchant
processing revenue was flat sequentially and compared to the same
quarter last year, as the benefit of continued account acquisition
was offset by a decline in average dollar amount per credit card
transaction due to lower consumer spending. Financial institutions
revenue decreased three percent compared with the previous
quarter, relating to lower transaction volumes in a weaker
economic environment, and grew four percent from the fourth
quarter of 2007 on higher transaction volumes. Card issuer
interchange revenue declined two percent sequentially, driven
primarily by a decline in the average dollar amount per debit and
credit card transaction. Card issuer interchange revenue increased
seven percent from the previous year, driven by higher credit card
transactions as a result of the Bancorp’s credit card growth
initiative, partially offset by a lower dollar amount per transaction.
Service charges on deposits of $162 million decreased six
percent sequentially and increased two percent compared with the
same quarter last year. Retail service charges decreased 12% from
the third quarter of 2008 and seven percent from the fourth
quarter of 2007 due to lower checking account transaction
volumes. Commercial service charges increased three percent
sequentially and 14% compared with last year. This growth
primarily reflected an increase in customer accounts and lower
market interest rates, as reduced earnings credit rates paid on
customer balances have resulted in higher realized net services fees
to pay for treasury management services.
Corporate banking revenue of $121 million increased by $17
million, or 16% from the previous quarter and $15 million, or 14%
on a year-over-year basis and was driven by growth in most
subcaptions as the Bancorp realized gains from the build out of its
commercial product offerings in 2007.
Investment advisory revenue of $78 million was down 13%
sequentially and 17% from the fourth quarter of 2007 reflecting
lower asset values on market declines and a shift in assets from
equity products to lower yielding money market funds due to
extreme market volatility.
Mortgage banking net revenue was a net loss of $29 million in
the fourth quarter of 2008, a net gain of $45 million in the third
quarter of 2008 and a net gain of $26 million in the fourth quarter
of 2007. Including securities gains on non-qualifying hedges on
MSRs, income from mortgage banking activity was flat compared
to the third quarter of 2008 and increased $35 million compared to
the fourth quarter of 2007. Fourth quarter originations were $2.1
billion, compared to $2.0 billion from the previous quarter and $2.7
billion from the same quarter last year. The adoption of SFAS No.
159 for mortgage banking in the first quarter of 2008 contributed
$12 million of the year-over-year increase in mortgage banking
revenue, with corresponding origination costs recorded
in
noninterest expense.
Net losses on investment securities were $40 million in the
fourth quarter of 2008 compared with a net loss of $63 million last
quarter. The fourth quarter losses were driven by an OTTI charge
of $37 million on trust preferred securities. As of December 31,
2008, the Bancorp held $154 million in trust preferred securities.
Noninterest expense of $2.0 billion increased $1.1 billion both
sequentially and from a year ago. The significant increase in
expenses was primarily driven by the $965 million charge to record
goodwill impairment in the fourth quarter of 2008. Excluding this
charge, noninterest expense of $1.1 billion increased $90 million
sequentially and $117 million from a year ago. Fourth quarter
results included higher expenses related to the difficult operating
environment
for unfunded
commitments, higher reinsurance reserve accruals to cover losses
on proprietary private residential mortgage insurance and increased
derivative counterparty marks. The combination of these expenses
accounted for expense increases of $91 million sequentially and $96
million compared to the previous year. Additionally, fourth quarter
2008 results included an estimated net $8 million charge due to
changes in loss estimates related to our indemnification obligation
with Visa, while third quarter results included a $45 million charge
included higher provision
that
Fifth Third Bancorp 35
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
increased $285 million over 2006 to $628 million, a result of the
deteriorating credit environment.
Net interest income (FTE) increased five percent compared to
2006. Net interest margin increased to 3.36% in 2007 from 3.06%
in 2006 largely due to the balance sheet actions taken in the fourth
quarter of 2006 to improve the asset/liability mix of the Bancorp
and reduce the size of the Bancorp’s available-for-sale securities
portfolio to a size that was more consistent with its liquidity,
collateral and interest rate risk management requirements.
income
Noninterest
increased 23% compared to 2006.
Noninterest income in 2007 reflects the impact of the previously
mentioned $177 million BOLI charge, while the 2006 results
included $415 million in losses related to the fourth quarter balance
sheet actions. Excluding these items, noninterest income increased
nine percent compared to 2006 with growth in electronic payment
processing, service charges on deposits and corporate banking
revenue partially offset by lower mortgage banking net revenue.
Noninterest expense increased 14% compared to 2006.
Noninterest expense in 2007 included $172 million in charges
related to the Bancorp’s indemnification of estimated current and
future Visa litigation settlements and $8 million of acquisition-
related costs, while 2006 results included $49 million in charges
related to the termination of debt and other financing agreements.
Excluding these items, noninterest expense increased nine percent
resulting from volume-based transaction growth in payment
processing, higher
reflecting
infrastructure upgrades and higher occupancy expense from
continued de novo banking center growth. During 2007, the
Bancorp opened 77 additional banking centers through acquisitions
and de novo expansion.
technology
expenses
related
In 2007, net charge-offs as a percent of average loans and
leases were 61 bp compared to 44 bp in 2006. A majority of the
increase in net charge-offs were due to the weakened real estate
markets in the Upper Midwest and Florida, which suppressed
collateral values. At December 31, 2007, nonperforming assets as a
percent of loans and leases increased to 1.32% from .61% at
December 31, 2006. The Bancorp increased its allowance for loan
and lease losses as percent of loans and leases from 1.04% as
December 31, 2006 to 1.17% as of December 31, 2007.
During 2007, the Bancorp completed its acquisition of Crown,
a subsidiary of R&G Financial Corporation, with $2.8 billion in
assets and $1.7 billion in deposits located in Florida and Augusta,
Additionally, on August 16, 2007, the Bancorp
Georgia.
announced its introduction into the North Carolina markets of
Charlotte and Raleigh with an agreement to acquire First Charter,
which was completed in the second quarter of 2008.
related to Visa litigation, $36 million related to legal expenses
associated with the satisfactory resolution of a the CitFed litigation,
and $7 million in seasonally higher pension expense. Fourth
quarter 2007 results included a $94 million charge due to Visa
litigation and $8 million in acquisition related expenses. On a year-
over-year comparison basis, acquisitions added approximately $26
million of additional operating expense, and the impact of the
adoption of SFAS No. 159 on the classification of mortgage
origination costs has added approximately $12 million. Remaining
expense growth on both a sequential and year-over-year basis was
attributable to higher volume-related payment processing expense,
increased equipment and occupancy expense, and higher loan and
lease processing costs as a result of increased collection activities.
loans, and
Net charge-offs totaled $1.6 billion in the fourth quarter.
Results included net charge-offs of $800 million on commercial
loans that were either sold or transferred to held-for-sale during the
quarter. Loss experience continued to be primarily associated with
commercial residential builder and developer loans and consumer
to be disproportionately
residential real estate
concentrated in Michigan and Florida. In aggregate, Florida and
Michigan represented approximately 66% of total losses during the
quarter and less than 30% of total loans and leases. Losses on
commercial and consumer real estate loans in these states
represented approximately 56% of total fourth quarter net charge-
offs. Net charge-offs on loans to homebuilders and developers
represented $568 million, or 35% of total net charge-offs.
Provision for loan and lease losses totaled $2.8 billion in the fourth
quarter of 2008, exceeding net charge-offs by $729 million. The
increase in the allowance for loan and lease losses was reflective of
a number of factors including; increased estimated loss factors due
to negative
in nonperforming assets and overall
delinquencies; increased loss estimates due to the real estate price
deterioration in some of the Bancorp’s key lending markets; and
significant declines in general economic conditions.
trends
COMPARISON OF THE YEAR ENDED 2007 WITH 2006
Net income for the year ended 2007 was $1.1 billion, or $1.99 per
diluted share, a nine percent decrease compared to $1.2 billion, or
$2.13 per diluted share, earned in 2006. Overall, increases in net
interest margin and fee revenue were offset by a $177 million
charge to lower the current cash surrender value of one of the
Bancorp’s BOLI policies and increased provision for loan and lease
losses. The BOLI charge reflected a decrease in the cash surrender
value due to declines in the value of the policy’s underlying
investments due to significant disruptions in the financial markets
and widening credit spreads. Provision for loan and lease losses
36 Fifth Third Bancorp
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
BALANCE SHEET ANALYSIS
Loans and Leases
Total loans and leases increased $1.0 billion, or one percent, over
2007. The growth in total loans and leases was due to acquisitions
since 2007, the use of contingent liquidity facilities related to
certain off-balance sheet programs and increased loan production
across
loan
securitizations.
footprint, partially offset by
the Bancorp's
Total commercial loans and leases increased $3.6 billion, or
eight percent, compared to December 31, 2007. The increase was
primarily driven by growth in commercial loans of $3.1 billion, or
12%, compared to 2007 resulting from $1.8 billion from
acquisitions since 2007 and $849 million from the use of
contingent liquidity facilities related to certain off-balance sheet
programs that were drawn upon in 2008. Included within the
contingent liquidity facilities were approximately $187 million of
loans outstanding at December 31, 2008 that were repurchased
from a QSPE under the Bancorp’s liquidity asset purchase
agreement. Also included in commercial loans at December 31,
2008 were $173 million in draws on outstanding letters of credit
that were supporting certain securities issued as VRDNs. For
further information on these arrangements, see the Off-Balance
Sheet Arrangements section and Note 10 of the Notes to
Consolidated Financial Statements.
increased eight percent
loans
Commercial mortgage
compared to 2007, which primarily included the impact of
acquisitions since 2007 of $971 million. The Bancorp’s largest
gains in outstanding loans among industries included the financial
services and insurance, manufacturing, healthcare and business
services. Reductions among originations to the real estate and
construction industries were offset by the second quarter 2008
acquisition of First Charter. In aggregate, commercial loans in the
states of Michigan and Florida as a percentage of total commercial
loans was 26% as of December 31, 2008 compared to 31% as of
December 31, 2007.
Total consumer loans and leases decreased $2.6 billion, or
seven percent, compared to 2007, as a result of the decreases in
automobile loans and residential mortgage loans partially offset by
credit card and home equity loan growth. Automobile loans
decreased by approximately $2.6 billion, or 23%, due largely to
automobile loan securitizations of $2.7 billion during the first
quarter of 2008. Despite growth of $535 million of loans from
acquisitions since 2007, residential mortgage loans were $10.3
billion at December 31, 2008, down 10% from 2007, due to the
sale of $1.7 billion of portfolio loans in 2008 compared to $572
million in 2007. Credit card loans increased to $1.8 billion, an
increase of 14% over 2007, due to continued success in cross-
selling credit cards to its existing retail customer base. Home
equity loans increased $878 million, primarily due to acquisitions
since 2007.
Average total commercial loans and leases increased $8.0
billion, or 19%, compared to 2007. The increase in average total
commercial loans and leases was primarily driven by growth in
commercial
loans, which
loans and commercial mortgage
increased 27% and 15%, respectively, over 2007. The increase in
average commercial loans was driven by the use of contingent
liquidity facilities related to certain off-balance sheet programs.
The growth in commercial mortgage loans included the impact of
acquisitions since 2007 of $693 million.
Average total consumer loans and leases decreased $468
million, or one percent, compared to 2007 as a result of a decrease
in automobile loans of 17% largely due to the aforementioned
automobile securitizations that occurred in the first quarter of
2008. The decline was partially offset by growth in credit card
balances of $432 million, or 34%, and home equity loans of $504
million, or five percent. Acquisitions since 2007 impacted the
change in residential mortgage loans and home equity loans by
$1.5 billion and $409 million, respectively.
TABLE 19: COMPONENTS OF TOTAL LOANS AND LEASES (INCLUDES HELD FOR SALE)
As of December 31 ($ in millions)
Commercial:
2007
2008
Commercial loans
Commercial mortgage
Commercial construction
Commercial leases
Subtotal - commercial
Consumer:
Residential mortgage loans
Home equity
Automobile loans
Credit card
Other consumer loans and leases
Subtotal - consumer
Total loans and leases
$29,220
12,952
5,114
3,666
50,952
10,292
12,752
8,594
1,811
1,194
34,643
$85,595
26,079
11,967
5,561
3,737
47,344
11,433
11,874
11,183
1,591
1,157
37,238
84,582
2006
20,831
10,405
6,168
3,841
41,245
9,905
12,154
10,028
1,004
1,167
34,258
75,503
TABLE 20: COMPONENTS OF AVERAGE TOTAL LOANS AND LEASES (INCLUDES HELD FOR SALE)
As of December 31 ($ in millions)
2006
Commercial:
2007
2008
Commercial loans
Commercial mortgage
Commercial construction
Commercial leases
Subtotal - commercial
Consumer:
Residential mortgage loans
Home equity
Automobile loans
Credit card
Other consumer loans and leases
Subtotal - consumer
Total average loans and leases
Total average portfolio loans and leases (excludes held for sale)
$28,426
12,776
5,846
3,680
50,728
10,993
12,269
8,925
1,708
1,212
35,107
$85,835
$83,895
22,351
11,078
5,661
3,683
42,773
10,489
11,887
10,704
1,276
1,219
35,575
78,348
76,033
20,504
9,797
6,015
3,730
40,046
9,574
12,070
9,570
838
1,395
33,447
73,493
72,447
2005
19,377
9,188
6,342
3,698
38,605
8,991
11,805
9,396
788
1,644
32,624
71,229
2005
18,310
8,923
5,525
3,495
36,253
8,982
11,228
8,649
728
1,897
31,484
67,737
66,685
2004
16,107
7,636
4,348
3,426
31,517
7,912
10,318
7,734
794
2,092
28,850
60,367
2004
14,955
7,391
3,807
3,296
29,449
6,801
9,584
8,128
740
2,340
27,593
57,042
55,951
Fifth Third Bancorp 37
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
TABLE 21: COMPONENTS OF INVESTMENT SECURITIES
As of December 31 ($ in millions)
Trading:
Variable rate demand notes
Other securities
Total trading
Available-for-sale and other: (amortized cost basis)
U.S. Treasury and Government agencies
U.S. Government sponsored agencies
Obligations of states and political subdivisions
Agency mortgage-backed securities
Other bonds, notes and debentures
Other securities
Total available-for-sale and other
Held-to-maturity:
Obligations of states and political subdivisions
Other bonds, notes and debentures
Total held-to-maturity
Investment Securities
The Bancorp uses investment securities as a means of managing
interest rate risk, providing liquidity support and providing
collateral for pledging purposes. As of December 31, 2008, total
investment securities were $14.3 billion compared to $11.2 billion
at December 31, 2007.
Securities are classified as trading when bought and held
principally for the purpose of selling them in the near term.
Securities
in
management’s judgment, they may be sold in response to, or in
anticipation of, changes in market conditions. The Bancorp’s
available-for-sale when,
classified
are
as
2008
$1,140
51
$1,191
$186
1,651
323
8,529
613
1,248
$12,550
$355
5
$360
2007
-
171
171
3
160
490
8,738
385
1,045
10,821
351
4
355
2006
-
187
187
1,396
100
603
7,999
172
966
11,236
345
11
356
2005
-
117
117
506
2,034
657
16,127
2,119
1,090
22,533
378
11
389
2004
-
77
77
503
2,036
823
17,571
2,862
1,006
24,801
245
10
255
management has evaluated the securities in an unrealized loss
position in the available-for-sale portfolio for OTTI on the basis
of both the duration of the decline in value of the security and the
severity of that decline, and maintains the intent and ability to
hold these securities to the earlier of the recovery of the loss or
maturity. Securities, which management has the intent and ability
to hold to maturity and are classified as held-to-maturity are
reported at amortized cost.
At December 31, 2008, the Bancorp’s investment portfolio
primarily consisted of AAA-rated agency mortgage-backed
securities. The investment portfolio includes FHLMC preferred
TABLE 22: CHARACTERISTICS OF AVAILABLE-FOR-SALE AND OTHER SECURITIES
As of December 31, 2008 ($ in millions)
U.S. Treasury and Government agencies:
Average life of one year or less
Average life 1 – 5 years
Average life 5 – 10 years
Average life greater than 10 years
Total
U.S. Government sponsored agencies:
Average life of one year or less
Average life 1 – 5 years
Average life 5 – 10 years
Average life greater than 10 years
Total
Obligations of states and political subdivisions (a):
Average life of one year or less
Average life 1 – 5 years
Average life 5 – 10 years
Average life greater than 10 years
Total
Agency mortgage-backed securities:
Average life of one year or less
Average life 1 – 5 years
Average life 5 – 10 years
Average life greater than 10 years
Total
Other bonds, notes and debentures (b):
Average life of one year or less
Average life 1 – 5 years
Average life 5 – 10 years
Average life greater than 10 years
Total
Other securities (c)
Total available-for-sale and other securities
Amortized Cost
Fair Value
Weighted-
Average Life (in
years)
Weighted-
Average Yield
$41
143
-
2
186
164
168
1,319
-
1,651
202
71
49
1
323
909
7,337
282
1
8,529
186
265
112
50
613
1,248
$12,550
$41
147
-
2
190
165
174
1,391
-
1,730
203
72
50
1
326
919
7,470
291
1
8,681
178
242
102
48
570
1,231
$12,728
0.8
1.5
-
11.2
1.5
0.1
1.7
7.7
-
6.4
0.3
2.5
7.5
12.1
1.9
0.7
2.7
5.6
10.4
2.6
0.1
3.0
6.6
25.4
4.6
3.2
2.11%
2.10
-
2.46
2.11
4.47
3.10
3.79
-
3.78
7.31
7.18
6.87
3.93
7.21
5.44
5.24
5.28
5.09
5.26
2.51
7.27
7.55
7.20
5.87
5.08%
(a) Taxable-equivalent yield adjustments included in the above table are 2.46%, 2.13%, 0.26%, 1.32% and 2.05% for securities with an average life of one year or less, 1-5 years, 5-10 years,
greater than 10 years and in total, respectively.
(b) Other bonds, notes, and debentures consist of commercial paper, non-agency mortgage backed securities, certain other asset backed securities (primarily automobile and commercial loan backed
(c) Other securities consist of Federal Home Loan Bank (FHLB) and Federal Reserve Bank restricted stock holdings that are carried at par, FHLMC and FNMA preferred stock, certain
securities) and corporate bond securities.
mutual fund holdings and equity security holdings.
38 Fifth Third Bancorp
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
stock and FNMA preferred securities with a remaining carrying
value of $1 million after recognizing OTTI charges of $67 million
during 2008. The Bancorp also recognized OTTI charges of $37
million on certain trust preferred securities, which have a
remaining carrying value of $79 million. Total trust preferred
securities have a carrying value of $154 million at December 31,
2008. These charges were recognized due to the severity of the
decline in fair value of these securities throughout 2008. The
Bancorp did not hold asset-backed securities backed by subprime
mortgage loans in its investment portfolio at or for the year ended
December 31, 2008. Additionally, there were no material
securities below investment grade as of December 31, 2008.
Trading securities
increased from $171 million as of
December 31, 2007 to $1.2 billion as of December 31, 2008. The
increase was driven by $1.1 billion of VRDNs held by the
Bancorp in its trading securities portfolio. These securities were
purchased from the market during 2008, through FTS, who was
also the remarketing agent. For more information on the
Bancorp’s obligations in remarketing VRDNs, see Note 15 of the
Notes to Consolidated Financial Statements.
On an amortized cost basis, at the end of 2008, available-for-
sale securities increased $1.7 billion since December 31, 2007. At
December 31, 2008 and 2007, available-for-sale securities were
12% and 11%, respectively, of interest-earning assets. Increases in
the available-for-sale securities portfolio relate to the Bancorp’s
overall balance sheet growth coupled with the increased purchase
of securities as a part of the Bancorp’s non-qualifying hedging
strategy related to mortgage servicing rights. The estimated
weighted-average life of the debt securities in the available-for-sale
portfolio was 3.2 years at December 31, 2008 compared to 6.8
years at December 31, 2007. The decrease in the weighted-
average life of the debt securities portfolio was due to the decline
in market rates during the fourth quarter of 2008. The market
rate decline increased the likelihood that borrowers would
refinance, decreasing
life of agency
mortgage-backed securities, which are a majority of the Bancorp’s
available-for-sale portfolio. At December 31, 2008, the fixed-rate
securities within the available-for-sale securities portfolio had a
weighted-average yield of 5.08% compared to 5.31% at December
31, 2007.
the weighted-average
During the second half of 2007 and continuing through
2008, as part of its liquidity support agreement, the Bancorp
TABLE 23: DEPOSITS
As of December 31 ($ in millions)
Demand
Interest checking
Savings
Money market
Foreign office
Transaction deposits
Other time
Core deposits
Certificates - $100,000 and over
Other
Total deposits
TABLE 24: AVERAGE DEPOSITS
As of December 31 ($ in millions)
Demand
Interest checking
Savings
Money market
Foreign office
Transaction deposits
Other time
Core deposits
Certificates - $100,000 and over
Other
Total average deposits
began to purchase investment grade commercial paper from an
unconsolidated QSPE that is wholly owned by an independent
third-party. The commercial paper has maturities ranging from as
little as one day to 90 days. The purchase and maturity of the
commercial paper is the primary contributor to the increase in the
purchases and sales of available-for-sale securities during 2008 and
2007. The commercial paper is backed by the assets held by the
QSPE and, as of the December 31, 2008 and 2007, the Bancorp
held $143 million and $83 million of this commercial paper in its
available-for-sale portfolio. Refer to the Off-balance Sheet
Arrangements section for more information on the QSPE.
Information presented in Table 22 is on a weighted-average
life basis, anticipating future prepayments. Yield information is
presented on an FTE basis and is computed using historical cost
balances. Maturity and yield calculations for the total available-
for-sale portfolio exclude equity securities that have no stated
yield or maturity. Market rates declined in 2008, particularly in the
fourth quarter. This market rate decline led to unrealized gains of
$152 million and $79 million, respectively, related to agency
mortgage-backed securities and securities held with U.S.
Government sponsored agencies as of December 31, 2008. Total
net unrealized gains on the available-for-sale securities portfolio
was $178 million at December 31, 2008 compared to an
unrealized loss of $144 million at December 31, 2007 and a $183
million unrealized loss at December 31, 2006.
Deposits
Deposit balances represent an important source of funding and
revenue growth opportunity. The Bancorp is continuing to focus
on core deposit growth in its retail and commercial franchises by
expanding
its retail franchise through acquisitions, offering
competitive rates and enhancing its product offerings. At
December 31, 2008, core deposits represented 55% of the
Bancorp’s asset funding base, compared to 59% at December 31,
2007.
Included in core deposits are foreign office deposits, which
are Eurodollar sweep accounts for the Bancorp’s commercial
customers. These accounts bear interest at rates slightly higher
than money market accounts, but the Bancorp does not have to
pay FDIC insurance nor hold collateral. Other deposits consist of
brokered savings and money market deposits and the Bancorp
uses these, as well as certificates of deposit $100,000 and over, as a
2008
$15,287
13,826
16,063
4,689
2,144
52,009
14,350
66,359
11,851
403
$78,613
2008
$14,017
14,095
16,192
6,127
2,153
52,584
11,135
63,719
9,531
2,163
$75,413
2007
14,404
15,254
15,635
6,521
2,572
54,386
11,440
65,826
6,738
2,881
75,445
2007
13,261
14,820
14,836
6,308
1,762
50,987
10,778
61,765
6,466
1,393
69,624
2006
14,331
15,993
13,181
6,584
1,353
51,442
10,987
62,429
6,628
323
69,380
2006
13,741
16,650
12,189
6,366
732
49,678
10,500
60,178
5,795
2,979
68,952
2005
14,609
18,282
11,276
6,129
421
50,717
9,313
60,030
4,343
3,061
67,434
2005
13,868
18,884
10,007
5,170
248
48,177
8,491
56,668
4,001
3,719
64,388
2004
13,486
19,481
8,310
4,321
153
45,751
6,837
52,588
2,121
3,517
58,226
2004
12,327
19,434
7,941
3,473
85
43,260
6,208
49,468
2,403
4,364
56,235
Fifth Third Bancorp 39
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
method to fund earning asset growth.
Core deposits increased one percent compared to 2007 due
to acquisitions during the past year. Exclusive of acquisitions,
core deposits decreased three percent, as growth in demand,
savings, and other time deposits was more than offset by a three
percent decrease in interest-bearing core deposits as a result of
increased competitor pricing on time deposits. A majority of the
increase in deposit pricing was the result of the impact of the
illiquidity
in the marketplace that provided other financial
institutions limited access to alternative funding sources. The
Bancorp increased its rates during the third quarter of 2008 to
approximate competitor rates and experienced increases in its
interest-bearing core deposit products following these actions.
Certificates $100,000 and over at December 31, 2008
increased by $5.1 billion and other deposits decreased by $2.5
billion compared to December 31, 2007 primarily driven by
growth in customer jumbo CD’s and other time deposits in an
overall effort by the Bancorp to reduce exposure to market related
funding.
On an average basis, core deposits increased three percent
primarily due to acquisitions that occurred since 2007. Exclusive
of acquisitions, average core deposits remained flat compared to
2007 as increases in demand deposits due to decreased earnings
credit rates were partially offset by the decrease in interest-bearing
core deposit products.
On an average basis, savings deposits increased nine percent
primarily due to acquisitions that occurred since 2007. Exclusive
of acquisitions, average savings deposits increased seven percent.
This growth is primarily due to a mix shift as customers migrated
from lower yielding interest checking into higher yielding savings
accounts.
Borrowings
Total borrowings increased $1.8 billion, or eight percent, over
2007, to provide funding for the growth in the assets throughout
2008. As of December 31, 2008 and December 31, 2007, total
TABLE 25: BORROWINGS
As of December 31 ($ in millions)
Federal funds purchased
Short-term bank notes
Other short-term borrowings
Long-term debt
Total borrowings
borrowings as a percentage of interest-bearing liabilities remained
consistent at 27%.
Total short-term borrowings were $10.2 billion at December
31, 2008 compared to $9.2 billion at December 31, 2007. The
reduction in the overnight fed funds purchased balance was due
to the receipt of $3.4 billion in equity funding from the U.S.
Treasury under the CPP on December 31, 2008 and an increase in
other short-term borrowings primarily through the purchase of
term funding through FHLB advances and Term Auction Facility
funds.
Long-term debt at December 31, 2008 increased six percent
compared with December 31, 2007 due to increased fair value
marks on hedged debt. Among debt issuances, new issuances
during the first and second quarters of 2008 were offset by $2.1
billion of long-term bank notes maturing during 2008. In
February 2008, the Bancorp
issued $1.0 billion of 8.25%
subordinated notes, a portion of which were subsequently hedged
to floating, with a maturity date of March 1, 2038. In April 2008,
the Bancorp issued $750 million of 6.25% senior notes with a
maturity date of May 1, 2013. The notes are not subject to
redemption at the Bancorp’s option at any time prior to maturity.
Additionally, in May 2008, an unconsolidated trust issued $400
million of Tier 1-qualifying trust preferred securities and invested
these proceeds in junior subordinated notes issued by the
Bancorp. The notes mature on May 15, 2068 and bear a fixed rate
of 8.875% until May 15, 2058. After May 15, 2058, the notes bear
interest at a variable rate of three-month LIBOR plus 5.00%. The
Bancorp has subsequently entered into hedges related to these
notes.
Information on the average rates paid on borrowings is
located in the Statements of Income Analysis. Further detail on
the Bancorp’s long-term debt can be found in Note 14 of the
Notes to Consolidated Financial Statements. In addition, refer to
the Liquidity Risk Management section for a discussion on the
role of borrowings in the Bancorp’s liquidity management.
2008
$287
-
9,959
13,585
$23,831
2007
4,427
-
4,747
12,857
22,031
2006
1,421
-
2,796
12,558
16,775
2005
5,323
-
4,246
15,227
24,796
2004
4,714
775
4,537
13,983
24,009
40 Fifth Third Bancorp
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
RISK MANAGEMENT
Managing risk is an essential component of successfully operating
a financial services company. The Bancorp’s risk management
function is responsible for the identification, measurement,
monitoring, control and reporting of risk and mitigation of those
risks that are inconsistent with the Bancorp’s risk profile. The
led by the
Enterprise Risk Management division (ERM),
Bancorp’s Chief Risk Officer, ensures consistency
in the
Bancorp’s approach to managing and monitoring risk within the
structure of the Bancorp’s affiliate operating model. In addition,
the Internal Audit division provides an independent assessment of
the Bancorp’s internal control structure and related systems and
processes. The risks faced by the Bancorp include, but are not
limited to, credit, market, liquidity, operational and regulatory
compliance. ERM includes the following key functions:
soundness within an
• Commercial Credit Risk Management provides safety
and
independent portfolio
management framework that supports the Bancorp’s
Commercial loan growth strategies and underwriting
practices,
and
portfolio
appropriate risk controls;
optimization
ensuring
• Risk Strategies and Reporting
is responsible for
quantitative analysis needed to support the Commercial
dual grading system, ALLL methodology and analytics
needed to assess credit risk and develop mitigation
strategies related to that risk. The department also
provides oversight,
reporting and monitoring of
commercial underwriting and credit administration
processes. The Risk Strategies
and Reporting
department is also responsible for the economic capital
program;
an
• Consumer Credit Risk Management provides safety and
soundless within
independent management
framework that supports the Bancorp’s Consumer loan
growth strategies, ensuring portfolio optimization,
appropriate risk controls and oversight, reporting, and
monitoring of underwriting and credit administration
processes;
including ensuring consistency
• Operational Risk Management works with the line of
business risk managers, affiliates and lines of business to
maintain processes to monitor and manage all aspects of
in
operational risk
application of enterprise operational risk programs,
Sarbanes-Oxley compliance, and serving as a policy
clearinghouse for
including policies
the Bancorp,
relating to credit, market and operational risk. In
addition, the Bank Protection function oversees and
manages fraud prevention and detection and provide
investigative and recovery services for the Bancorp;
• Capital Markets Risk Management is responsible for
reporting appropriate
instituting, monitoring, and
trading limits, monitoring liquidity, interest rate risk, and
risk tolerances within the Treasury, Mortgage Company,
and Capital Markets groups and utilizing a value at risk
model for Bancorp market risk exposure;
• Regulatory Compliance Risk Management ensures that
processes are in place to monitor and comply with
federal and state banking regulations, including fiduciary
compliance processes. The function also has the
responsibility for maintenance of an enterprise-wide
compliance framework; and
• The ERM division creates and maintains other
functions, committees or processes as are necessary to
effectively manage credit, market and operational risk
throughout the Bancorp.
Risk management oversight and governance is provided by the
Risk and Compliance Committee of the Board of Directors and
through multiple management committees whose membership
includes a broad cross-section of line of business, affiliate and
support representatives. The Risk and Compliance Committee of
the Board of Directors consists of five outside directors and has
the responsibility for the oversight of credit, market, operational,
regulatory compliance and strategic risk management activities for
the Bancorp, as well as for the Bancorp’s overall aggregate risk
profile. The Risk and Compliance Committee of the Board of
Directors has approved the formation of key management
governance committees that are responsible for evaluating risks
and controls. These committees include the Market Risk
Committee, the Corporate Credit Committee, the Credit Policy
Committee,
the Capital
the Operational Risk Committee,
Committee, the Loan Loss Reserve Committee, the Management
Compliance Committee, the Retail Distribution Governance
Committee, and the Executive Asset Liability Committee. There
are also new products and initiatives processes applicable to every
line of business to ensure an appropriate standard readiness
assessment is performed before launching a new product or
initiative. Significant risk policies approved by the management
governance committees are also reviewed and approved by the
Risk and Compliance Committee of the Board of Directors.
Finally, Credit Risk Review is an independent function
responsible for evaluating the sufficiency of underwriting,
documentation and approval processes for consumer and
commercial credits, counter-party credit risk, the accuracy of risk
grades assigned to commercial credit exposure, appropriate
accounting for charge-offs, and non-accrual status and specific
reserves. Credit Risk Review reports directly to the Risk and
the Board of Directors and
Compliance Committee of
administratively to the Director of Internal Audit.
CREDIT RISK MANAGEMENT
The objective of the Bancorp’s credit risk management strategy is
to quantify and manage credit risk on an aggregate portfolio basis,
as well as to limit the risk of loss resulting from an individual
customer default. The Bancorp’s credit risk management strategy
is based on three core principles: conservatism, diversification and
monitoring. The Bancorp believes that effective credit risk
management begins with conservative lending practices. These
practices include conservative exposure and counterparty limits
and conservative underwriting, documentation and collection
standards. The Bancorp’s credit risk management strategy also
emphasizes diversification on a geographic, industry and customer
level as well as regular credit examinations and monthly
management reviews of
large credit exposures and credits
experiencing deterioration of credit quality. Lending officers with
the authority to extend credit are delegated specific authority
amounts,
is closely monitored.
Underwriting activities are centralized, and ERM manages the
policy and the authority delegation process directly. The Credit
Risk Review function, which reports to the Risk and Compliance
Committee of the Board of Directors, provides objective
assessments of the quality of underwriting and documentation, the
accuracy of risk grades and the charge-off, nonaccrual and reserve
analysis process. The Bancorp’s credit review process and overall
assessment of required allowances
is based on quarterly
assessments of the probable estimated losses inherent in the loan
and lease portfolio. The Bancorp uses these assessments to
promptly identify potential problem loans or leases within the
portfolio, maintain an adequate reserve and take any necessary
charge-offs. In addition to the individual review of larger
commercial loans that exhibit probable or observed credit
weaknesses, the commercial credit review process includes the use
the utilization of which
Fifth Third Bancorp 41
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
of two risk grading systems. The risk grading system currently
utilized for reserve analysis purposes encompasses ten categories.
The Bancorp also maintains a dual risk rating system that provides
for thirteen probabilities of default grade categories and an
additional six grade categories for estimating actual losses given an
event of default. The probability of default and loss given default
evaluations are not separated in the ten-grade risk rating system.
The Bancorp has completed significant validation and testing of
the dual risk rating system. Scoring systems, various analytical
tools and delinquency monitoring are used to assess the credit risk
in the Bancorp’s homogenous consumer loan portfolios.
Overview
During 2008, general economic conditions continued
to
deteriorate which had an adverse impact across the majority of the
Bancorp’s loan and lease products. Geographically, the Bancorp
experienced the most stress in the states of Michigan and Florida
due to the decline in real estate prices. Real estate price
deterioration, as measured by the Home Price Index, was most
prevalent in Florida due to past real estate price appreciation and
related over-development, and in Michigan due in part to cutbacks
by automobile manufacturers. The year-over-year deterioration in
home prices has been as high as 20% in some of the Bancorp’s
hardest hit geographies. Among portfolios, the commercial
homebuilder and developer, non-owner occupied residential
mortgage and brokered home equity portfolios exhibited the most
stress. Management suspended new lending to homebuilders and
to commercial non-owner occupied real estate, discontinued the
origination of brokered home equity products and raised
underwriting standards on non-owner occupied residential
mortgages. During the fourth quarter, in an effort to reduce loan
exposure to the real estate and construction industries and obtain
the highest realizable value, the Bancorp sold or moved to held-
for-sale $1.3 billion in commercial loan balances. The Bancorp
recognized $800 million in net charge-offs on these loans with
approximately 49% of the losses representing real estate secured
loans in Florida and 44% of the losses representing real estate
secured loans in Michigan. Throughout 2008, the Bancorp
aggressively engaged in other loss mitigation techniques such as
reducing lines of credit, restructuring certain consumer loans,
tightening certain underwriting
standards and expanding
commercial and consumer loan workout teams. The following
loan portfolio
credit
diversification, an analysis of nonperforming loans and loans
charged-off and a discussion of the allowance for credit losses.
information presents
the Bancorp’s
Commercial Portfolio
includes
The Bancorp’s credit
minimizing concentrations of risk through diversification. Table
risk management strategy
27 provides breakouts of the total commercial loan and lease
portfolio, including held for sale, by major industry classification
(as defined by the North American Industry Classification
System), by loan size and by state, illustrating the diversity and
granularity of the Bancorp’s commercial portfolio. The Bancorp
has commercial loan concentration limits based on industry, lines
of business within the commercial segment and real estate project
type.
As of December 31, 2008, the Bancorp had homebuilder
exposure of $4.0 billion and outstanding loans of $2.7 billion with
$366 million of portfolio commercial loans and $215 million in
held-for-sale commercial
loans. As of
December 31, 2008, approximately 41% of the outstanding loans
to homebuilders are located in the states of Michigan and Florida
and represent approximately 58% of the nonaccrual loans. As of
December 31, 2007, the Bancorp had homebuilder exposure of
$4.4 billion, outstanding loans of $2.9 billion with $176 million in
nonaccrual loans.
in nonaccrual
loans
The risk within the commercial real estate portfolio is
managed and monitored through an underwriting process utilizing
detailed origination policies, continuous loan level reviews, the
monitoring of industry concentration and product type limits and
continuous portfolio risk management reporting. The origination
policies for commercial real estate outline the risks and
underwriting requirements for owner occupied, non-owner
occupied and construction lending. Included in the policies are
maturity and amortization terms, maximum loan-to-values (LTV),
minimum debt service coverage ratios, construction
loan
requirements, pre-leasing
monitoring procedures, appraisal
requirements (as applicable) and sensitivity and proforma analysis
requirements.
The commercial real estate portfolio is diversified by product
type, loan size and geographical location with concentration levels
established to manage the exposure. Appraisals are obtained
from qualified appraisers and are reviewed by an independent
appraisal review group to ensure independence and consistency in
the valuation process. Appraisal values are updated on an as
needed basis, in conformity with market conditions and regulatory
requirements. Table 26 provides further information on the
location of commercial real estate and construction industry loans
and leases.
The commercial portfolio has minimal direct exposure to
auto manufactures and their suppliers, although any further
deterioration of those industries would have negative impacts
across the Bancorp’s lending products. As of December 31, 2008,
the Bancorp had automobile dealer exposure, included within the
retail trade industry, of $3.1 billion and outstanding loans of $2.0
billion with $113 million in nonaccrual loans.
TABLE 26: COMMERCIAL REAL ESTATE AND CONSTRUCTION LOANS AND LEASES BY STATE
Outstanding
2008
$4,247
3,930
2,374
1,384
1,108
802
788
455
1,866
$16,954
2007
4,167
4,692
2,790
1,425
1,298
21
791
496
1,110
16,790
Nonaccrual
2008
$180
302
399
95
86
49
24
51
95
$1,281
2007
84
179
79
21
26
-
7
4
5
405
As of December 31 ($ in millions)
Ohio
Michigan
Florida
Illinois
Indiana
North Carolina
Kentucky
Tennessee
All other states
Total
42 Fifth Third Bancorp
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
TABLE 27: COMMERCIAL LOAN AND LEASE PORTFOLIO EXPOSURE (a)
Outstanding
2008
Exposure Nonaccrual
Outstanding
2007
Exposure
Nonaccrual
As of December 31 ($ in millions)
By industry:
Real estate
Manufacturing
Construction
Retail trade
Financial services and insurance
Healthcare
Business services
Transportation and warehousing
Wholesale trade
Other services
Accommodation and food
Individuals
Communication and information
Mining
Entertainment and recreation
Public administration
Agribusiness
Utilities
Other
Total
By loan size:
Less than $200,000
$200,000 to $1 million
$1 million to $5 million
$5 million to $10 million
$10 million to $25 million
Greater than $25 million
Total
By state:
Ohio
Michigan
Florida
Illinois
Indiana
Kentucky
North Carolina
Tennessee
All other states
$11,925
7,382
5,030
3,621
3,601
3,081
2,925
2,726
2,567
1,203
1,163
1,053
951
838
765
725
635
584
178
$50,953
3 %
12
25
14
23
23
100 %
26 %
17
9
8
7
5
3
3
22
14,428
14,310
7,788
6,874
8,164
5,057
5,141
3,224
4,772
1,712
1,560
1,354
1,547
1,275
1,009
938
815
1,231
369
81,568
2
9
21
13
24
31
100
583
92
698
167
28
20
38
26
25
22
38
38
19
18
35
-
21
-
11
1,879
5
21
45
20
9
-
100
11,564
6,570
5,226
4,175
2,484
2,347
2,266
2,565
2,179
1,049
1,036
1,252
741
578
617
737
606
389
963
47,334
3
13
28
26
13
17
100
14,450
14,365
8,534
7,251
6,916
4,007
4,251
3,076
4,127
1,455
1,470
1,626
1,439
1,090
873
957
788
1,210
1,897
79,782
3
10
23
23
14
27
100
147
28
258
29
6
15
25
21
16
17
21
15
1
3
6
-
3
2
59
672
9
24
43
19
5
-
100
30
16
8
9
7
5
3
2
20
100
14
22
25
8
8
5
4
3
11
100
26
20
11
9
8
5
1
3
17
100
30
18
9
9
8
5
1
3
17
100
20
36
23
6
9
2
-
1
3
100
Total
100 %
(a) Outstanding reflects total commercial customer loan and lease balances, including held for sale and net of unearned income, and exposure reflects total commercial customer lending commitments.
Residential Mortgage Portfolio
The Bancorp manages credit risk in the mortgage portfolio
through conservative underwriting and documentation standards
and geographic and product diversification. The Bancorp may
also package and sell loans in the portfolio without recourse or
may purchase mortgage insurance for the loans sold in order to
mitigate credit risk.
Certain mortgage products have contractual features that may
increase the risk of loss to the Bancorp in the event of a decline in
housing prices. These types of mortgage products offered by the
Bancorp include loans with high loan-to-value (LTV) ratios,
multiple loans on the same collateral that when combined result in
an LTV greater than 80% (80/20 loans) and interest-only loans.
Table 28 shows the Bancorp’s originations of these products for
the year ended December 31, 2008 and 2007. The Bancorp does
not originate mortgage loans that permit customers to defer
principal payments or make payments that are less than the
accruing interest.
Table 29 provides the amount of these loans as a percent of
the residential mortgage loans in the Bancorp’s portfolio and the
delinquency rates of these loan products as of December 31, 2008
and 2007. Reset of rates on adjustable rate mortgages are not
expected to have a material impact on credit cost as two-thirds of
adjustable rate mortgages have an LTV
than 80%.
Geographically, the Bancorp’s residential mortgage portfolio is
dominated by three states with Florida, Michigan and Ohio
representing 31%, 23% and 14% of the portfolio, respectively.
less
The Bancorp previously originated certain non-conforming
residential mortgage loans known as “Alt-A” loans. Borrower
qualifications were comparable to other conforming residential
mortgage products. As of December 31, 2008, the Bancorp held
$115 million of Alt-A mortgage loans in its portfolio with
approximately $17 million on nonaccrual.
The Bancorp previously sold certain mortgage products in
the secondary market with recourse. At December 31, 2008 and
2007, the outstanding balances on these loans sold with recourse
were approximately $1.3 billion and $1.5 billion, respectively, and
the delinquency rates were approximately 6.40% and 3.03%,
respectively. At December 31, 2008 and 2007, the Bancorp
maintained an estimated credit loss reserve on these loans sold
with recourse of approximately $20 million and $17 million,
respectively. See Note 10 of the Notes to Consolidated Financial
Statements for further information.
Fifth Third Bancorp 43
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
TABLE 28: RESIDENTIAL MORTGAGE ORIGINATIONS
For the years ended December 31 ($ in millions)
Greater than 80% LTV with no mortgage insurance
Interest-only
Greater than 80% LTV and interest-only
80/20 loans
80/20 loans and interest only
2008
$15
784
2
38
-
TABLE 29: RESIDENTIAL MORTGAGE OUTSTANDINGS
As of December 31 ($ in millions)
Greater than 80% LTV with no mortgage insurance
Interest-only
Greater than 80% LTV and interest-only
Balance
$2,024
1,702
415
Home Equity Portfolio
The home equity portfolio is characterized by 82% of outstanding
balances within the Bancorp’s Midwest footprint of Ohio,
Michigan, Kentucky, Indiana and Illinois. The portfolio has an
average FICO score of 736 as of December 31, 2008, comparable
with 734 at December 31, 2007 and 735 at December 31, 2006.
Further detail on channel origination and state location is included
in Table 30. The Bancorp stopped origination of brokered home
equity during the fourth quarter of 2007. In addition, management
actively manages lines of credit and makes reductions in lending
limits when it believes it is necessary based on FICO score
deterioration and property devaluation.
Analysis of Nonperforming Assets
A summary of nonperforming assets is included in Table 31.
Nonperforming assets include: (i) nonaccrual loans and leases for
which ultimate collectibility of the full amount of the principal
and/or interest is uncertain; (ii) restructured consumer loans
which have not yet met the requirements to be classified as a
performing asset; and (iii) other assets, including other real estate
owned and repossessed equipment. Loans are placed on
nonaccrual status when the principal or interest is past due 90
days or more (unless the loan is both well secured and in process
of collection) and payment of the full principal and/or interest
under the contractual terms of the loan is not expected.
Additionally,
loans are placed on nonaccrual status upon
deterioration of the financial condition of the borrower. When a
loan is placed on nonaccrual status, the accrual of interest,
amortization of loan premium, accretion of loan discount and
amortization or accretion of deferred net loan fees or costs are
discontinued and previously accrued but unpaid interest is
reversed. Commercial loans on nonaccrual status are reviewed for
impairment at least quarterly. If the principal or a portion of
principal is deemed a loss, the loss amount is charged off to the
allowance for loan and lease losses.
Total nonperforming assets were $3.0 billion at December
31, 2008, compared to $1.1 billion at December 31, 2007 and $455
million at December 31, 2006. At December 31, 2008, $473
million of nonaccrual commercial
loans were held-for-sale,
consisting primarily of real estate secured loans in Michigan and
TABLE 30: HOME EQUITY OUTSTANDINGS
Percent of total
-%
7
-
-
-
2007
$265
1,720
265
212
62
Percent of total
2%
15
2
2
1
2008
Percent
of total
22 %
18
4
Delinquency
Ratio
10.94%
4.11
7.55
Balance
$2,146
1,620
493
2007
Percent
of total
21 %
16
5
Delinquency
Ratio
8.93%
1.83
5.36
Florida, and were carried at the lower of cost or market.
Excluding the held-for-sale nonaccrual loans, nonperforming
assets as a percentage of total loans, leases and other assets,
including other real estate owned, as of December 31, 2008 was
2.96% compared to 1.32% as of December 31, 2007 and .61% as
of December 31, 2006. The composition of nonaccrual credits
continues to be concentrated in real estate as 82% of nonaccrual
credits were secured by real estate as of December 31, 2008
compared to approximately 84% as of December 31, 2007 and
approximately 45% as of December 31, 2006.
Including the $473 million of nonperforming loans held-for-
sale, commercial nonperforming loans and leases increased from
$672 million at December 31, 2007 to $1.9 billion as of December
31, 2008. The majority of the increase was driven by the real estate
and construction industries in the states of Florida and Michigan.
These states combined to represent 47% of total commercial
nonaccrual credits as of December 31, 2008. As shown in Table
27, the real estate and construction industries contributed to
approximately three-fourths of the year-over-year increase in
nonaccrual credits. Of the $1.3 billion of real estate and
construction nonaccrual credits, $581 million
is related to
homebuilders or developers. As of December 31, 2008, $247
million of these homebuilder nonaccrual loans were specifically
reviewed and the Bancorp provided $104 million in reserves held
against these loans. For additional information on credit reserves,
see the discussion on allowance for credit losses later in this
section.
Consumer nonperforming loans and leases increased from
$221 million as of December 31, 2007 to $864 million as of
December 31, 2008. The increase in consumer nonperforming
loans is primarily attributable to declines in the housing markets in
the Michigan and Florida markets and the restructuring of certain
loans. Michigan and Florida accounted for 58% of the increase in
consumer nonperforming assets and, as of December 31, 2008,
represented 58% of total consumer nonperforming assets. The
Bancorp has devoted significant attention to loss mitigation
loans.
activities and has proactively
Consumer restructured loans are recorded as nonperforming
loans until there is a sustained period of payment by the borrower,
generally a minimum of six months of payments in accordance
restructured certain
Retail
Broker
2008
2007
2008
2007
As of December 31 ($ in millions) Outstanding
$3,393
Ohio
2,245
Michigan
1,147
Illinois
968
Indiana
910
Kentucky
909
Florida
804
All other states
$10,376
Total
Delinquency
Ratio
1.49 %
2.24
2.10
2.07
1.52
4.13
2.11
2.06 %
Outstanding
$3,280
2,158
908
991
885
738
204
$9,164
Delinquency
Ratio
1.23 %
1.63
1.18
1.67
1.16
2.37
1.06
1.45 %
Outstanding
$568
484
261
244
185
77
557
$2,376
Delinquency
Ratio
3.65 %
5.51
4.93
4.59
4.43
12.16
6.29
5.22 %
Outstanding
$632
530
274
278
217
89
659
$2,679
Delinquency
Ratio
3.15 %
3.56
2.66
3.16
3.09
7.97
3.73
3.48 %
44 Fifth Third Bancorp
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
TABLE 31: SUMMARY OF NONPERFORMING ASSETS AND DELINQUENT LOANS
As of December 31 ($ in millions)
Nonaccrual loans and leases:
2008
2007
2006
2005
2004
Commercial loans
Commercial mortgage loans
Commercial construction loans
Commercial leases
Residential mortgage loans
Home equity (a)
Automobile loans (a)
Other consumer loans and leases (a)
Restructured loans and leases:
Commercial loans
Residential mortgage loans
Home equity
Automobile loans
Credit card
Total nonperforming loans and leases
Repossessed personal property and other real estate owned
Total nonperforming assets (b)
Nonaccrual loans held for sale
Total nonperforming assets including loans held for sale
Commercial loans
Commercial mortgage loans
Commercial construction loans
Commercial leases
Residential mortgage loans(c)
Home equity
Automobile loans
Credit card
Other consumer loans and leases
Total 90 days past due loans and leases
Nonperforming assets as a percent of total loans, leases and other assets,
including other real estate owned (b)
$541
482
362
21
259
26
5
-
-
342
196
6
30
2,270
230
2,500
473
$2,973
$76
136
74
4
198
96
21
56
1
$662
175
243
249
5
92
45
3
1
-
29
46
-
5
893
171
1,064
-
1,064
44
73
67
4
186
72
13
31
1
491
127
84
54
6
38
40
3
-
-
-
-
-
-
352
103
455
-
455
38
17
6
2
68
51
11
16
1
210
140
51
31
5
30
37
-
-
-
-
-
294
67
361
-
361
20
7
7
1
53
10
57
155
105
51
13
5
24
30
1
-
-
-
-
229
74
303
-
303
21
8
5
1
43
13
51
142
Allowance for loan and lease losses as a percent of nonperforming assets (b)
(a) Prior to 2006, other consumer loans and leases include home equity, automobile and other consumer loans and leases.
(b) Does not include nonaccrual loans held for sale.
(c) Information for all periods presented excludes advances made pursuant to servicing agreements to Government National Mortgage Association (GNMA) mortgage pools whose repayments are
insured by the Federal Housing Administration or guaranteed by the Department of Veterans Affairs. As of December 31, 2008, 2007, 2006 and 2005, these advances were $40 million,
$25 million, $14 million and $13 million, respectively. Information in 2004 was not available.
2.96 %
111
1.32
88
.61
170
.52
206
.51
235
with the loans’ modified terms. Consumer restructured loans
contributed $574 million to nonperforming loans as of December
31, 2008 compared to $80 million in restructured loans as of
December 31, 2007.
Included in nonaccrual loans and leases as of December 31,
2008 were $342 million of loans and leases currently performing
in accordance with contractual terms, but for which there were
serious doubts as to the ability of the borrower to comply with
such terms. For the years 2008 and 2007, interest income of $70
million and $22 million, respectively, was recorded on nonaccrual
and renegotiated loans and leases. For the years ended 2008 and
2007, additional interest income of $282 million and $144 million,
respectively, would have been recorded if the nonaccrual and
renegotiated loans and leases had been current in accordance with
the original terms. Although this value helps demonstrate the
costs of carrying nonaccrual credits, the Bancorp does not expect
to recover the full amount of interest as nonaccrual loans and
leases are generally carried below their principal balance.
Analysis of Net Loan Charge-offs
Net charge-offs as a percent of average loans and leases were 323
bp for 2008, compared to 61 bp for 2007. Table 32 provides a
summary of credit loss experience and net charge-offs as a
percentage of average loans and leases outstanding by loan
category.
The ratio of commercial loan net charge-offs to average
commercial loans outstanding increased to 399 bp in 2008
compared to 43 bp in 2007, as homebuilders, developers and
related suppliers were affected by the downturn in the real estate
markets. Commercial net charge-offs include $800 million due to
the sale or transfer to held-for-sale of $1.3 billion in commercial
loan balances during the fourth quarter. Homebuilders and
developers net charge-offs for 2008 were $812 million, or 40% of
total commercial charge-offs. Excluding the homebuilder and
developer portfolio, the commercial loan charge-offs to average
commercial loans outstanding was 252 bp in 2008 with the most
stress exhibited in the Eastern Michigan and South Florida regions
and among auto dealers.
The ratio of consumer loan net charge-offs to average
consumer loans outstanding increased to 208 bp in 2008
compared to 84 bp in 2007. Residential mortgage charge-offs
increased to $243 million in 2008 compared to $43 million in
2007, reflecting increased foreclosure rates in the Bancorp’s key
lending markets coupled with an increase in severity of loss on
mortgage loans. Florida, Michigan and Ohio continue to rank
among the top states in total mortgage foreclosures. These
foreclosures not only added to the volume of charge-offs, but also
hampered the Bancorp’s ability to recover the value of the homes
collateralizing the mortgages as they contributed to declining
home prices. Florida affiliates continue to experience the most
stress and accounted for over half of the residential mortgage
charge-offs in 2008. Home equity charge-offs increased to $205
million and 167 bp of average loans and continue to display
distinct charge-off differences between lines and loans originated
through the retail channel and those originated through brokered
channels. Brokered home equity represented 50% of home equity
charge-offs during 2008 despite representing only 19% of home
equity lines and loans as of December 31, 2008. Excluding home
equity lines and loans originated through brokered channels, home
equity charge-offs to average home equity were 104 bp.
Management responded to the performance of the brokered
Fifth Third Bancorp 45
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
TABLE 32: SUMMARY OF CREDIT LOSS EXPERIENCE
For the years ended December 31 ($ in millions)
Losses charged off:
Commercial loans
Commercial mortgage loans
Commercial construction loans
Commercial leases
Residential mortgage loans
Home equity
Automobile loans
Credit card
Other consumer loans and leases
Total losses
Recoveries of losses previously charged off:
Commercial loans
Commercial mortgage loans
Commercial construction loans
Commercial leases
Residential mortgage loans
Home equity
Automobile loans
Credit card
Other consumer loans and leases
Total recoveries
Net losses charged off:
Commercial loans
Commercial mortgage loans
Commercial construction loans
Commercial leases
Residential mortgage loans
Home equity
Automobile loans
Credit card
Other consumer loans and leases
2008
($667)
(618)
(750)
-
(243)
(212)
(168)
(101)
(32)
(2,791)
18
5
2
1
-
7
34
7
7
81
(649)
(613)
(748)
1
(243)
(205)
(134)
(94)
(25)
($2,710)
Total net losses charged off
Net charge-offs as a percent of average loans and leases (excluding held for sale):
Commercial loans
Commercial mortgage loans
Commercial construction loans
Commercial leases
Total commercial loans and leases
Residential mortgage loans
Home equity
Automobile loans
Credit card
Other consumer loans and leases
Total consumer loans and leases
Total net losses charged off
2.31 %
4.80
12.80
(.02)
3.99
2.47
1.67
1.56
5.51
2.10
2.08
3.23 %
2007
(121)
(46)
(29)
(1)
(43)
(106)
(117)
(54)
(27)
(544)
12
2
-
1
-
9
32
8
18
82
(109)
(44)
(29)
-
(43)
(97)
(85)
(46)
(9)
(462)
.49
.40
.51
.01
.43
.48
.82
.83
3.55
.83
.84
.61
2006
(131)
(27)
(7)
(4)
(23)
(65)
(87)
(36)
(28)
(408)
24
3
-
5
-
9
30
5
16
92
(107)
(24)
(7)
1
(23)
(56)
(57)
(31)
(12)
(316)
.53
.25
.11
(.03)
.34
.27
.46
.60
3.65
.91
.55
.44
2005
(99)
(13)
(5)
(38)
(19)
(60)
(63)
(46)
(30)
(373)
24
3
1
1
-
10
18
5
12
74
(75)
(10)
(4)
(37)
(19)
(50)
(45)
(41)
(18)
(299)
.41
.10
.08
1.06
.35
.23
.44
.53
5.65
1.06
.57
.45
2004
(95)
(14)
(7)
(8)
(15)
(52)
(56)
(35)
(39)
(321)
14
5
-
1
-
10
18
6
15
69
(81)
(9)
(7)
(7)
(15)
(42)
(38)
(29)
(24)
(252)
.54
.12
.17
.21
.35
.25
.44
.48
3.92
.98
.56
.45
home equity portfolio by reducing originations in 2007 of this
product by 64% compared to 2006 and, at the end of 2007,
eliminating this channel of origination. In addition, management
actively manages lines of credit and makes reductions in lending
limits when it believes it is necessary based on FICO score
deterioration and property devaluation. The ratio of automobile
loan net charge-offs to average automobile loans was 156 bp for
2008, an increase of 73 bp compared to 2007 displaying an
expected increase due to a shift in the portfolio to a higher
percentage of used automobiles and an increase in loss severity
due to increased market depreciation of used automobiles. The
net charge-off ratio on credit card balances was 551 bp in 2008.
Increases in the charge-off ratio over the previous two years
reflects seasoning in the credit card portfolio and general
economic conditions compared to 2007 and for 2006, due to
increased personal bankruptcies in 2005 in anticipation of the
changes in bankruptcy law. Management expects trends in the
charge-off ratio on credit card balances to be consistent with
general economic trends, such as unemployment and personal
bankruptcy filings. The Bancorp employs a risk-adjusted pricing
methodology to help ensure adequate compensation is received
for those products that have higher credit costs.
46 Fifth Third Bancorp
Allowance for Credit Losses
The allowance for credit losses is comprised of the allowance for
loan and lease losses and the reserve for unfunded commitments.
The allowance for loan and lease losses provides coverage for
probable and estimable losses in the loan and lease portfolio. The
Bancorp evaluates the allowance each quarter to determine its
adequacy to cover inherent losses. Several factors are taken into
consideration in the determination of the overall allowance for
loan and lease losses, including an unallocated component. These
factors include, but are not limited to, the overall risk profile of
the loan and lease portfolios, net charge-off experience, the extent
of impaired loans and leases, the level of nonaccrual loans and
leases, the level of 90 days past due loans and leases and the
overall percentage level of the allowance for loan and lease losses.
The Bancorp also considers overall asset quality trends, credit
administration
risk
identification practices, credit policy and underwriting practices,
overall portfolio growth, portfolio concentrations and current
national and local economic conditions that might impact the
portfolio. More information on the allowance for loan and lease
losses can be found in the Critical Accounting Policies section of
Management’s Discussion and Analysis of Financial Condition
and Results of Operations.
and portfolio management practices,
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
TABLE 33: CHANGES IN ALLOWANCE FOR CREDIT LOSSES
For the years ended December 31 ($ in millions)
Balance, beginning of year
Net losses charged off
Provision for loan and lease losses
Net change in reserve for unfunded commitments
Balance, end of year
Components of allowance for credit losses:
Allowance for loan and lease losses
Reserve for unfunded commitments
Total allowance for credit losses
In 2008, the Bancorp has not substantively changed any
material aspect of its overall approach in the determination of the
allowance for loan and lease losses and there have been no
material changes in assumptions or estimation techniques as
compared to prior periods that impacted the determination of the
current period allowance. In addition to the allowance for loan
and lease losses, the Bancorp maintains a reserve for unfunded
commitments recorded in other liabilities in the Consolidated
Balance Sheets. The methodology used to determine the
adequacy of this reserve is similar to the Bancorp’s methodology
for determining the allowance for loan and lease losses. The
provision for unfunded commitments is included in other
noninterest expense in the Consolidated Statements of Income.
Certain inherent, but undetected losses are probable within
the loan and lease portfolio. An unallocated component to the
allowance for loan and lease losses is maintained to recognize the
imprecision in estimating and measuring loss. The Bancorp’s
current methodology for determining this measure is based on
historical loss rates, current credit grades, specific allocation on
impaired commercial credits above specified thresholds and other
qualitative adjustments. Approximately 81% of the required
reserves come from the baseline historical loss rates, specific
reserve estimates and current credit grades; while 19% comes
from qualitative adjustments. As a result, the required reserves
tend to slightly lag the deterioration in the portfolio due to the
heavy reliance on realized historical losses and the credit grade
rating process. The unallocated allowance as a percent of total
portfolio loans and leases for the year ended December 31, 2008
was .33%, or 10% of the total allowance, compared to .06%, or
5% of the total allowance, as of December 31, 2007. The increase
in the unallocated allowance compared to the prior year was a
2008
$1,032
(2,710)
4,560
100
$2,982
$2,787
195
$2,982
2007
847
(462)
628
19
1,032
937
95
1,032
2006
814
(316)
343
6
847
771
76
847
2005
785
(299)
330
(2)
814
744
70
814
2004
770
(252)
268
(1)
785
713
72
785
result of the steep decline in real estate prices, market volatility in
the second half of 2008 and economic deterioration in some of
the Bancorp’s lending markets, for which the deterioration had
not yet been captured in the historical loss rates and where the
extent of deterioration cannot be determined.
As shown in Table 34, the allowance for loan and lease losses
as a percent of the total loan and lease portfolio increased to
3.31% at December 31, 2008, compared to 1.17% at December
31, 2007. Total allowance for loan and lease losses totaled $2.8
billion and $937 million as of December 31, 2008 and 2007,
respectively. This increase is reflective of a number of factors
including: the increase in commercial impaired loans which are
individually reviewed and allowed for, increased estimated loss
factors due to negative trends in overall delinquencies, increased
loss estimates once a
to
deterioration in the real estate collateral values in some of the
Bancorp’s key lending markets and declines in general economic
conditions that are used to determine an economic factor
adjustment. These factors were the primary drivers of the
increased reserve amounts for most of the Bancorp’s loan
categories.
loan becomes delinquent due
Impaired commercial loans increased to $1.5 billion as of
December 31, 2008 compared to $494 million as of December 31,
2007. Impaired commercial loans above specified thresholds
require individual review to determine loan and lease reserves. In
addition to the increased volume of impaired commercial loans,
required loan and lease reserves on these loans were generally
higher due to the deterioration in collateral values.
Delinquency trends have increased across most product lines
and credit grades, leading to increases in expected loss rates and,
therefore, increased reserve requirements for those products. In
TABLE 34: ATTRIBUTION OF ALLOWANCE FOR LOAN AND LEASE LOSSES TO PORTFOLIO LOANS AND LEASES
As of December 31 ($ in millions)
Allowance attributed to:
Commercial loans
Commercial mortgage loans
Commercial construction loans
Residential mortgage loans
Consumer loans
Lease financing
Unallocated
2006
2008
2005
2007
$824
363
252
388
611
70
279
$2,787
252
95
49
51
247
29
48
771
201
78
46
38
183
56
142
744
271
135
98
67
287
32
47
937
Total allowance for loan and lease losses
Portfolio loans and leases:
Commercial loans
Commercial mortgage loans
Commercial construction loans
Residential mortgage loans
Consumer loans
Lease financing
Total portfolio loans and leases
Attributed allowance as a percent of respective portfolio loans:
Commercial loans
Commercial mortgage loans
Commercial construction loans
Residential mortgage loans
Consumer loans
Lease financing
Unallocated (as a percent of total portfolio loans and leases)
Total portfolio loans and leases
$29,197
12,502
5,114
9,385
23,509
4,436
$84,143
2.82 %
2.90
4.93
4.13
2.60
1.58
.33
3.31 %
24,813
11,862
5,561
10,540
22,943
4,534
80,253
1.09
1.14
1.77
.63
1.25
.69
.06
1.17
20,831
10,405
6,168
8,830
23,204
4,915
74,353
1.21
.91
.80
.58
1.06
.59
.06
1.04
19,253
9,188
6,342
7,847
22,006
5,289
69,925
1.05
.85
.72
.49
.83
1.06
.20
1.06
2004
210
73
42
45
160
47
136
713
16,107
7,636
4,347
7,366
18,875
5,477
59,808
1.31
.96
.96
.61
.85
.86
.23
1.19
Fifth Third Bancorp 47
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
general, the increase in historical loss reserve factors was
responsible for over half of the year-over-year increase in the
allowance for loan and lease losses.
As mentioned, real estate price deterioration, as measured by
the Home Price Index, was most prevalent in some of the key
lending markets of the Bancorp. The deterioration in real estate
values
loan becomes
delinquent, particularly for residential mortgage and home equity
loans with high loan-to-value ratios.
increased the expected
loss once a
trends
Economic
such as gross domestic product,
unemployment rate, home sales and inventory and bankruptcy
filings have historically provided indicators of trends in loan and
lease loss rates. Compared to the prior year, negative trends in
general economic conditions in the national and local economies
caused increases in reserve factors used to determine the losses
inherent within the loan and lease portfolio.
The Bancorp continually reviews its credit administration and
loan and lease portfolio and makes changes based on the
performance of its products. Over the past year, the Bancorp has
reduced
to homebuilders and developers and
borrowers with non-owner occupied real estate as collateral,
eliminated brokered home equity production and engaged in
significant loss mitigation strategies.
lending
its
MARKET RISK MANAGEMENT
Market risk arises from the potential for market fluctuations in
interest rates, foreign exchange rates and equity prices that may
result in potential reductions in net income. Interest rate risk, a
component of market risk, is the exposure to adverse changes in
net interest income or financial position due to changes in interest
rates. Management considers interest rate risk a prominent
market risk in terms of its potential impact on earnings. Interest
rate risk can occur for any one or more of the following reasons:
• Assets and liabilities may mature or reprice at different
•
times;
Short-term and long-term market interest rates may change
by different amounts; or
• The expected maturity of various assets or liabilities may
shorten or lengthen as interest rates change.
In addition to the direct impact of interest rate changes on net
interest income, interest rates can indirectly impact earnings
through their effect on loan demand, credit losses, mortgage
originations, the value of servicing rights and other sources of the
Bancorp’s earnings. Stability of the Bancorp’s net income is
largely dependent upon the effective management of interest rate
risk. Management continually reviews the Bancorp’s balance sheet
composition and earnings flows and models the interest rate risk,
and possible actions to reduce this risk, given numerous possible
future interest rate scenarios.
Earnings Simulation Model
The Bancorp employs a variety of measurement techniques to
identify and manage its interest rate risk, including the use of an
earnings simulation model to analyze the sensitivity of net interest
income and certain noninterest items to changing interest rates.
The model is based on contractual and assumed cash flows and
repricing characteristics for all of the Bancorp’s financial
instruments and incorporates market-based assumptions regarding
the effect of changing interest rates on the prepayment rates of
certain assets and liabilities. The model also includes senior
management projections of the future volume and pricing of each
of the product lines offered by the Bancorp as well as other
pertinent assumptions. Actual results will differ from these
simulated results due to timing, magnitude and frequency of
interest rate changes as well as changes in market conditions and
management strategies.
The Bancorp’s Executive Asset Liability Committee (ALCO),
is
includes senior management representatives and
which
48 Fifth Third Bancorp
accountable to the Risk and Compliance Committee of the Board
of Directors, monitors and manages interest rate risk within Board
approved policy limits. In addition to the risk management
activities of ALCO, the Bancorp has a Market Risk Management
function as part of ERM that provides independent oversight of
market risk activities. The Bancorp’s interest rate risk exposure is
currently evaluated by measuring the anticipated change in net
interest income and mortgage banking net revenue over 12-month
and 24-month horizons assuming a 100 bp parallel ramped
increase and a 200 bp parallel ramped increase in interest rates.
The Fed Funds interest rate, targeted by the Federal Reserve at a
range of 0% to 0.25%, is currently set at a level that would be
negative in parallel ramped decrease scenarios; therefore, those
scenarios were omitted from the interest rate risk analyses for
December 31, 2008. In accordance with the current policy, the
rate movements are assumed to occur over one year and are
sustained thereafter.
Table 35 shows the Bancorp's estimated earnings sensitivity
profile and ALCO policy limits as of December 31, 2008:
TABLE 35: ESTIMATED EARNINGS SENSITIVITY PROFILE
Change in Earnings (FTE)
ALCO Policy Limits
Change in
Interest
Rates (bp)
+200
+100
12
Months
(2.79%)
(2.28)
13 to 24
Months
(1.67)
(1.66)
12
Months
(5.00)
-
13 to 24
Months
(7.00)
-
Economic Value of Equity
The Bancorp also employs economic value of equity (EVE) as a
measurement tool in managing interest rate risk. Whereas the
earnings simulation highlights exposures over a relatively short
time horizon, the EVE analysis incorporates all cash flows over
the estimated remaining life of all balance sheet and derivative
positions. The EVE of the balance sheet, at a point in time, is
defined as the discounted present value of asset and derivative
cash flows less the discounted value of liability cash flows. The
sensitivity of EVE to changes in the level of interest rates is a
measure of longer-term interest rate risk. EVE values only the
current balance sheet and does not incorporate the growth
assumptions used in the earnings simulation model. As with the
earnings simulation model, assumptions about the timing and
variability of balance sheet cash flows are critical in the EVE
analysis. Particularly
important are the assumptions driving
prepayments and the expected changes in balances and pricing of
the transaction deposit portfolios. The following table shows the
Bancorp’s EVE sensitivity profile as of December 31, 2008:
TABLE 36: ESTIMATED EVE SENSITIVITY PROFILE
Change in
Interest Rates (bp)
+200
+100
-25
Change in EVE
(1.25%)
(0.15)
(0.06)
ALCO Policy Limits
(20.0)
While an instantaneous shift in interest rates is used in this
analysis to provide an estimate of exposure, the Bancorp believes
that a gradual shift in interest rates would have a much more
modest impact. Since EVE measures the discounted present
value of cash flows over the estimated lives of instruments, the
change in EVE does not directly correlate to the degree that
earnings would be impacted over a shorter time horizon (e.g., the
current fiscal year). Further, EVE does not take into account
factors such as future balance sheet growth, changes in product
mix, changes in yield curve relationships and changing product
spreads that could mitigate the adverse impact of changes in
interest rates. The earnings simulation and EVE analyses do not
necessarily
that management may
undertake to manage this risk in response to anticipated changes
in interest rates.
include certain actions
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Use of Derivatives to Manage Interest Rate Risk
An integral component of the Bancorp’s interest rate risk
management strategy is its use of derivative instruments to
minimize significant fluctuations in earnings and cash flows
caused by changes in market interest rates. Examples of
derivative instruments that the Bancorp may use as part of its
interest rate risk management strategy include interest rate swaps,
interest rate floors, interest rate caps, forward contracts, principal
only swaps, options and swaptions.
As part of its overall risk management strategy relative to its
mortgage banking activity, the Bancorp enters into forward
contracts accounted
to
economically hedge interest rate lock commitments that are also
considered free-standing derivatives. In addition, the Bancorp
also economically hedges its exposure to mortgage loans held for
sale.
free-standing derivatives
for as
The Bancorp also establishes derivative contracts with major
financial institutions to economically hedge significant exposures
assumed in commercial customer accommodation derivative
contracts. Generally, these contracts have similar terms in order
to protect the Bancorp from market volatility. Credit risks arise
from the possible inability of counterparties to meet the terms of
their contracts, which the Bancorp minimizes through approvals,
limits and monitoring procedures. The notional amount and fair
values of these derivatives as of December 31, 2008 are included
in Note 11 of the Notes to Consolidated Financial Statements.
Portfolio Loans and Leases and Interest Rate Risk
Although the Bancorp’s portfolio loans and leases contain both
fixed and floating/adjustable rate products, the rates of interest
earned by the Bancorp on the outstanding balances are generally
established for a period of time. The interest rate sensitivity of
loans and leases is directly related to the length of time the rate
earned is established. Table 37 summarizes the expected principal
cash flows of the Bancorp’s portfolio loans and leases as of
December 31, 2008. Additionally, Table 38 displays a summary of
expected principal cash flows occurring after one year, as of
December 31, 2008.
Mortgage Servicing Rights and Interest Rate Risk
The net carrying amount of the MSR portfolio was $496 million
and $613 million as of December 31, 2008 and 2007, respectively.
The value of servicing rights can fluctuate sharply depending on
changes in interest rates and other factors. Generally, as interest
rates decline and loans are prepaid to take advantage of
refinancing, the total value of existing servicing rights declines
because no further servicing fees are collected on repaid loans.
The Bancorp maintains a non-qualifying hedging strategy relative
to its mortgage banking activity in order to manage a portion of
the risk associated with changes in the value of its MSR portfolio
as a result of changing interest rates.
Mortgage rates decreased during 2008 and had a pronounced
decrease at the end of the year in response to the actions taken by
the U.S. Treasury. This decrease in rates caused prepayment
assumptions to increase and led to $207 million in temporary
impairment during the year ended December 31, 2008 compared
to the $22 million in temporary impairment in 2007. Servicing
rights are deemed temporarily impaired when a borrower’s loan
rate is distinctly higher than prevailing rates. Temporary
impairment on servicing rights is reversed when the prevailing
rates return to a level commensurate with the borrower’s loan
rate. Offsetting the mortgage servicing rights valuation, the
Bancorp recognized net gains of $209 million and $29 million on
its non-qualifying hedging strategy for the year ended December
31, 2008 and 2007, respectively. See Note 10 of the Notes to
Consolidated Financial Statements for further discussion on
servicing rights and the instruments used to hedge interest rate
risk on mortgage servicing rights.
Foreign Currency Risk
The Bancorp enters into foreign exchange derivative contracts to
economically hedge certain foreign denominated loans. The
derivatives are classified as free-standing instruments with the
revaluation gain or loss being recorded in other noninterest
income in the Consolidated Statements of Income. The balance
of the Bancorp’s foreign denominated loans at December 31,
2008 and December 31, 2007 was approximately $307 million and
$329 million, respectively. The Bancorp also enters into foreign
TABLE 37: PORTFOLIO LOAN AND LEASE PRINCIPAL CASH FLOWS
As of December 31, 2008 ($ in millions)
Commercial loans
Commercial mortgage loans
Commercial construction loans
Commercial leases
Subtotal - commercial
Residential mortgage loans
Home equity
Automobile loans
Credit card
Other consumer loans and leases
Subtotal - consumer
Total
Less than 1 year
$15,388
4,814
3,651
584
24,437
3,047
2,281
3,133
138
520
9,119
$33,556
1-5 years
11,828
5,460
1,254
1,626
20,168
3,617
5,153
4,916
1,673
577
15,936
36,104
Greater than 5
years
1,981
2,228
209
1,456
5,874
2,721
5,318
545
-
25
8,609
14,483
Total
29,197
12,502
5,114
3,666
50,479
9,385
12,752
8,594
1,811
1,122
33,664
84,143
TABLE 38: PORTFOLIO LOAN AND LEASE PRINCIPAL CASH FLOWS OCCURRING AFTER ONE YEAR
Interest Rate
As of December 31, 2008 ($ in millions)
Commercial loans
Commercial mortgage loans
Commercial construction loans
Commercial leases
Subtotal - commercial
Residential mortgage loans
Home equity
Automobile loans
Credit card
Other consumer loans and leases
Subtotal - consumer
Total
Fixed
$3,047
2,964
178
3,082
9,271
3,492
1,553
5,419
998
597
12,059
$21,330
Floating or Adjustable
10,762
4,724
1,285
-
16,771
2,846
8,918
42
675
5
12,486
29,257
Fifth Third Bancorp 49
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
TABLE 39: AGENCY RATINGS
As of February 23, 2009
Fifth Third Bancorp:
Commercial paper
Senior debt
Subordinated debt
Fifth Third Bank and Fifth Third Bank (Michigan):
Short-term deposit
Long-term deposit
Senior debt
Subordinated debt
Moody’s
Standard and Poor’s
Fitch
DBRS
Prime-1
A2
A3
Prime-1
A1
A1
A2
A-2
A-
BBB+
A1
A
A
A-
F1
A
A-
F1
A+
A
A-
R-1M
AAL
A
R-1H
AA
AA
AAL
short-term and long-term funding sources, which include the use
of various regional Federal Home Loan Banks as a funding
source. Certificates carrying a balance of $100,000 or more and
deposits in the Bancorp’s foreign branch located in the Cayman
Islands are wholesale funding tools utilized to fund asset growth.
Management does not rely on any one source of liquidity and
manages availability in response to changing balance sheet needs.
The Bancorp has a shelf registration in place with the SEC
permitting ready access to the public debt markets and qualifies as
a “well-known seasoned issuer” under SEC rules. As of
December 31, 2008, $4.4 billion of debt or other securities were
available for issuance from this shelf registration under the current
Bancorp’s Board of Directors’ authorizations, however, due to
current market disruptions, access to these markets may not be
readily available. The Bancorp also has $16.2 billion of funding
available for issuance through private offerings of debt securities
pursuant
its bank note program and currently has
approximately $17.9 billion of borrowing capacity available
through secured borrowing sources including the Federal Home
Loan Banks and Federal Reserve Banks. The Bancorp has
approximately $1.3 billion of unsecured long-term debt and $2.8
billion of total long-term debt that will mature during 2009.
to
The Bancorp’s senior debt ratings as of February 23, 2009 are
summarized in Table 39, which indicate the Bancorp’s strong
capacity to meet financial commitments. * Additional information
on senior debt credit ratings is as follows:
•
• Moody’s A2 rating is considered upper-medium-grade
obligations and is the third highest ranking within its
overall classification system;
Standard & Poor’s A- rating indicates the obligor’s
capacity to meet its financial commitment is STRONG
and is the third highest ranking within its overall
classification system;
Fitch Ratings’ A rating is considered high credit quality
and is the third highest ranking within its overall
classification system; and
•
• DBRS Ltd.’s AAL rating is considered superior credit
quality and is the second highest ranking within its
overall classification system.
* As an investor, you should be aware that a security rating is not
a recommendation to buy, sell or hold securities, that it may be
subject to revision or withdrawal at any time by the assigning
rating organization and that each rating should be evaluated
independently of any other rating.
exchange contracts for the benefit of commercial customers
involved in international trade to hedge their exposure to foreign
currency fluctuations. The Bancorp has internal controls in place
to help ensure excessive risk is not being taken in providing this
service to customers. These controls include an independent
determination of currency volatility and credit equivalent exposure
on these contracts, counterparty credit approvals and country
limits.
LIQUIDITY RISK MANAGEMENT
The goal of liquidity management is to provide adequate funds to
meet changes in loan and lease demand, unexpected deposit
withdrawals and other contractual obligations. A summary of
certain obligations and commitments to make future payments
under contracts is included in Table 42. Mitigating liquidity risk is
accomplished by maintaining liquid assets in the form of
investment securities, maintaining sufficient unused borrowing
capacity in the debt markets and delivering consistent growth in
core deposits. Cash flows from estimated loan and lease
repayment are included in Table 37. The estimated weighted-
average life of the available-for-sale securities portfolio was 3.2
years at December 31, 2008, based on current prepayment
expectations. Of the $14.3 billion of securities in the portfolio at
December 31, 2008, $5.8 billion in principal and interest is
expected to be received in the next 12 months and an additional
$2.2 billion is expected to be received in the next 13 to 24 months.
In addition to the securities portfolio, asset-driven liquidity is
provided by the Bancorp’s ability to sell or securitize loan and
lease assets. In order to reduce the exposure to interest rate
fluctuations and to manage liquidity, the Bancorp has developed
securitization and sale procedures for several types of interest-
sensitive assets. A majority of the long-term, fixed-rate single-
family residential mortgage loans underwritten according to
FHLMC or FNMA guidelines are sold for cash upon origination.
Additional assets such as jumbo fixed-rate residential mortgages,
certain commercial loans, home equity loans, automobile loans
and other consumer loans are also capable of being securitized or
sold. For the year ended December 31, 2008 and 2007, loans
totaling $15.7 billion and $12.2 billion, respectively, were
securitized or sold.
Core deposits have historically provided the Bancorp with a
sizeable source of relatively stable and low cost funds. The
Bancorp’s average core deposits and shareholders’ equity funded
65% of its average total assets during 2008. In addition to core
deposit funding, the Bancorp also accesses a variety of other
50 Fifth Third Bancorp
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
CAPITAL MANAGEMENT
Management,
including the Bancorp’s Board of Directors,
regularly reviews the Bancorp’s capital position to help ensure it is
appropriately positioned under various operating environments.
In May 2008, Fifth Third Capital Trust VII, a wholly-owned non-
consolidated subsidiary of the Bancorp, issued $400 million of
Tier 1-qualifying trust preferred securities to third party investors
and invested these proceeds in junior subordinated notes issued
by the Bancorp. Due to the deterioration in credit trends over the
past year and the uncertainty involving future economic trends,
management carried out actions throughout 2008 to increase the
Bancorp’s capital position. During the second quarter of 2008, the
Bancorp issued approximately $1 billion in Tier 1 capital in the
form of convertible preferred shares. This issuance allowed the
Bancorp to immediately meet its revised Tier I capital ratio targets
of eight to nine percent. In addition, the Bancorp’s Board of
Directors reduced the dividend on its common stock to allow for
further retention of capital, preserving over $580 million of capital
in 2008 relative to the prior level, and nearly $1.0 billion in 2009.
In 2008, the Bancorp paid dividends per common share of $0.75,
a reduction from the $1.70 paid per common share in 2007.
On October 14, 2008, the U.S. Treasury announced a series
of initiatives to strengthen market stability, improve the strength
of financial institutions and enhance market liquidity. Among the
initiatives, the U.S. Treasury created a voluntary CPP as part of its
efforts to provide a firmer capital foundation for financial
institutions and to increase credit availability to consumers and
businesses. As part of the program, eligible financial institutions
were able to sell equity interests to the U.S. Treasury in amounts
equal to one to three percent of the institution’s risk-weighted
assets. These equity interests constitute Tier 1 capital. On
December 31, 2008, the Bancorp issued $3.4 billion in senior
preferred stock (Series F) and related warrants under the terms of
the CPP to the U.S. Treasury. The CPP investment provided
capital in excess of the Bancorp’s previously planned levels, on
terms the Bancorp believes are favorable to its investors.
At December 31, 2008, shareholders’ equity was $12.1
billion, compared to $9.2 billion at December 31, 2007. Tangible
equity as a percent of tangible assets was 7.86% at December 31,
2008 and 6.14% at December 31, 2007. The increase in
shareholders’ equity and tangible equity ratio from 2007 is
primarily a result of the issuance of preferred stock during the
second half of 2008.
The Federal Reserve Board established quantitative measures
that assign risk weightings to assets and off-balance sheet items
TABLE 40: CAPITAL RATIOS
As of December 31 ($ in millions)
Average equity as a percent of average assets
Tangible equity as a percent of tangible assets
Tangible common equity as a percent of tangible assets
Tier I capital
Total risk-based capital
Risk-weighted assets
Regulatory capital ratios:
Tier I capital
Total risk-based capital
Tier I leverage
and also define and set minimum regulatory capital requirements
(risk-based capital ratios). Additionally, the guidelines define
“well-capitalized” ratios for Tier 1 and total risk-based capital as
6% and 10%, respectively. The Bancorp exceeded these “well-
capitalized” ratios for all periods presented. As of December 31,
2008, actions taken to bolster capital during the year increased the
Bancorp’s Tier 1 capital ratio to 10.59% and the total risk-based
capital ratio to 14.78%. Management expects short -term capital
ratios to remain elevated above management’s target of eight to
nine percent for Tier 1 capital ratio and 11.5% to 12.5% for total
risk-based capital ratio.
Dividend Policy and Stock Repurchase Program
The Bancorp’s common stock dividend policy reflects its earnings
outlook, desired payout ratios, the need to maintain adequate
capital levels and alternative investment opportunities. In 2008,
the Bancorp paid dividends per common share of $0.75, a
decrease from the $1.70 paid in 2007. The reduction in quarterly
common dividend was in response to the difficult operating
environment and the additional capital that may be needed. The
Bancorp’s quarterly dividend per common share for the fourth
quarter 2008 was $0.01.
As previously discussed, the Bancorp has issued $3.4 billion
in senior preferred stock and related warrants to the U.S. Treasury
as part of the CPP. Upon issuance, the Bancorp agreed to limit
dividends to common stock holders to the quarterly dividend rate
paid prior to October 14, 2008, which was $0.15. This restriction
is in effect until the earlier of December 31, 2011 or the date upon
which the Series F senior preferred shares are redeemed in whole
or transferred to an unaffiliated third party.
The Bancorp’s repurchase of equity securities is shown in
Table 41. On May 21, 2007, the Bancorp announced that its
Board of Directors had authorized management to purchase 30
million shares of the Bancorp’s common stock through the open
market or in any private transaction. The authorization does not
include specific price targets or an expiration date. Under the
agreement with the U.S. Treasury, as part of the CPP, the Bancorp
is restricted in its repurchases of its common stock. This
restriction is in effect until the earlier of December 31, 2011 or the
date upon which the Series F senior preferred shares are redeemed
in whole or transferred to an unaffiliated third party.
2007
2008
8.78 % 9.35
6.14
7.86
6.14
4.23
$11,924
16,646
112,570
10.59 %
14.78
10.27
8,924
11,733
115,529
7.72
10.16
8.50
2006
9.32
7.95
7.95
8,625
11,385
102,823
8.39
11.07
8.44
2005
9.06
7.23
7.22
8,209
10,240
98,293
8.35
10.42
8.08
2004
9.34
8.51
8.50
8,522
10,176
82,633
10.31
12.31
8.89
TABLE 41: SHARE REPURCHASES
For the years ended December 31
Shares authorized for repurchase at January 1
Additional authorizations
Shares repurchases (a)
Shares authorized for repurchase at December 31
Average price paid per share
(a) Excludes 63,270, 365,867 and 357,612 shares repurchased during 2008, 2007 and 2006, respectively, in connection with various employee compensation plans. These repurchases
are not included in the calculation for average price paid and do not count against the maximum number of shares that may yet be repurchased under the Board of Directors’
authorization.
2007
15,807,045
30,000,000
(26,605,527)
19,201,518
40.70
2008
19,201,518
-
-
19,201,518
N/A
2006
17,846,953
-
(2,039,908)
15,807,045
39.72
Fifth Third Bancorp 51
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OFF-BALANCE SHEET ARRANGEMENTS
The Consolidated Financial Statements include the accounts of
the Bancorp and its majority-owned subsidiaries and variable
interest entities (VIEs) in which the Bancorp has been determined
to be the primary beneficiary. Other entities, including certain
joint ventures, in which the Bancorp has the ability to exercise
significant influence over operating and financial policies of the
investee, but upon which the Bancorp does not possess control,
are accounted for by the equity method and not consolidated.
Those entities in which the Bancorp does not have the ability to
exercise significant influence are generally carried at the lower of
cost or fair value.
In the ordinary course of business, the Bancorp enters into
financial transactions to extend credit and various forms of
commitments and guarantees that may be considered off-balance
sheet arrangements. These transactions involve varying elements
of market, credit and liquidity risk. The nature and extent of these
transactions are provided in Note 15 of the Notes to Consolidated
Financial Statements. In addition, the Bancorp uses conduits,
asset securitizations and certain defined guarantees to provide a
source of funding. The use of these investment vehicles involves
differing degrees of risk. A summary of these transactions is
provided below.
Through December 31, 2008 and 2007, the Bancorp had
transferred, subject to credit recourse, certain primarily floating-
rate, short-term, investment grade commercial loans to an
unconsolidated QSPE that is wholly owned by an independent
third-party. The outstanding balance of these loans at December
31, 2008 and 2007 was $1.9 billion and $3.0 billion, respectively.
These loans may be transferred back to the Bancorp upon the
occurrence of certain specified events. These events include
borrower default on the loans transferred, bankruptcy preferences
initiated against underlying borrowers, ineligible loans transferred
by the Bancorp to the QSPE and the inability of the QSPE to
issue commercial paper. The maximum amount of credit risk in
the event of nonperformance by the underlying borrowers is
approximately equivalent to the total outstanding balance. During
the years ended December 31, 2008 and 2007, the QSPE did not
transfer any loans back to the Bancorp as a result of a credit event.
The QSPE issues commercial paper and uses the proceeds to
fund the acquisition of commercial loans transferred to it by the
Bancorp. The ability of the QSPE to issue commercial paper is a
function of general market conditions and the credit rating of the
liquidity provider. In the event the QSPE is unable to issue
commercial paper, the Bancorp has agreed to provide liquidity
support to the QSPE in the form of purchases of commercial
paper, a line of credit to the QSPE and the repurchase of assets
from the QSPE. As of December 31, 2008 and 2007, the liquidity
asset purchase agreement was $2.8 billion and $5.0 billion,
respectively. During 2008, dislocation in the short-term funding
market caused the QSPE difficulty in obtaining sufficient funding
through the issuance of commercial paper. As a result, the
Bancorp provided liquidity support to the QSPE during 2008
through purchases of commercial paper, a line of credit to the
QSPE and the repurchase of assets from the QSPE under the
liquidity asset purchase agreement. As of December 31, 2008, the
Bancorp held approximately $143 million of asset-backed
commercial paper issued by the QSPE, representing 7% of the
total commercial paper issued by the QSPE. Due to continued
difficulty in obtaining sufficient funding through the issuance of
commercial paper in the first quarter of 2009, the Bancorp held
approximately $836 million of asset-backed commercial paper
issued by the QSPE, representing 43% of the total commercial
paper issued by the QSPE.
During 2008, the Bancorp repurchased $686 million of
commercial loans at par from the QSPE under the liquidity asset
purchase agreement. Fair value adjustment charges of $3 million
were recorded on these loans upon repurchase. As of December
31, 2008, there were no outstanding balances on the line of credit
from the Bancorp to the QSPE. At December 31, 2008 and 2007,
the Bancorp’s loss reserve related to the liquidity support and
credit enhancement provided to the QSPE was $37 million and
$18 million, respectively, and was recorded in other liabilities in
the Consolidated Balance Sheets. To determine the credit loss
reserve, the Bancorp used an approach that is consistent with its
overall approach in estimating credit losses for various categories
of commercial loans held in its loan portfolio. For further
information on the QSPE, see Note 10 of the Notes to
Consolidated Financial Statements.
The Bancorp utilizes securitization
trusts, formed by
independent third parties to facilitate the securitization process of
residential mortgage loans, certain automobile loans and other
consumer loans. During 2008 the Bancorp recognized pretax
gains of $15 million on the sale of $2.7 billion of automobile loans
in three separate transactions. Each transaction isolated the related
loans through the use of a securitization trust or a conduit,
formed as QSPEs, to facilitate the securitization process in
accordance with SFAS No. 140, “Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities.”
The QSPEs issue asset-backed securities with varying levels of
credit subordination and payment priority. The investors in these
securities have no recourse to the Bancorp’s other assets for
failure of debtors to pay when due. During 2008, the Bancorp did
not repurchase any previously transferred automobile loans from
the QSPEs. For further
information on these automobile
securitizations, see Note 10 of the Notes to Consolidated
Financial Statements.
At December 31, 2008 and 2007, the Bancorp had provided
credit recourse on residential mortgage loans sold to unrelated
third parties of approximately $1.3 billion and $1.5 billion,
respectively. In the event of any customer default, pursuant to the
credit recourse provided, the Bancorp is required to reimburse the
third party. The maximum amount of credit risk in the event of
nonperformance by the underlying borrowers is equivalent to the
total outstanding balance. For further
information on the
residential mortgage loans sold with credit recourse, see Note 10
of the Notes to Consolidated Financial Statements.
For certain mortgage loans originated by the Bancorp,
borrowers may be required to obtain Private Mortgage Insurance
(PMI) provided by third-party insurers. In some instances, these
PMI insurers cede a portion of the PMI premiums to the
Bancorp, and the Bancorp provides reinsurance coverage within a
specified range of the total PMI coverage. The Bancorp’s
reinsurance coverage typically ranges from 5% to 10% of the total
PMI coverage. The Bancorp's maximum exposure in the event of
nonperformance by the underlying borrowers is equivalent to the
Bancorp's total outstanding reinsurance coverage, which was $170
million at December 31, 2008. As of December 31, 2008, the
Bancorp maintained a reserve of approximately $13 million related
to exposures within the reinsurance portfolio. No reserve was
deemed necessary as of December 31, 2007.
52 Fifth Third Bancorp
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
CONTRACTUAL OBLIGATIONS AND OTHER COMMITMENTS
The Bancorp has certain obligations and commitments to make
future payments under contracts. The aggregate contractual
obligations and commitments at December 31, 2008 are shown in
Table 42. As of December 31, 2008, the Bancorp has
unrecognized tax benefits that, if recognized, would impact the
effective tax rate in future periods. Due to the uncertainty of the
amounts to be ultimately paid as well as the timing of such
payments, all uncertain tax liabilities that have not been paid have
been excluded from the Contractual Obligations and Other
Commitments table. Further detail on the impact of income taxes
is located in Note 22 of the Notes to Consolidated Financial
Statements.
TABLE 42: CONTRACTUAL OBLIGATIONS AND OTHER COMMITMENTS
As of December 31, 2008 ($ in millions)
Contractually obligated payments due by period:
Deposits without a stated maturity (a)
Time deposits (b)
Long-term debt (c)
Short-term borrowings (d)
Forward contracts to sell mortgage loans (e)
Noncancelable lease obligations (f)
Partnership investment commitments (g)
Pension obligations (h)
Capital expenditures (i)
Purchase obligations (j)
Total contractually obligated payments due by period
Other commitments by expiration period:
Commitments to extend credit (k)
Letters of credit (l)
Less than
1 year
1-3 years
3-5 years
Greater than
5 years
$52,412
19,054
2,785
10,246
3,235
90
302
21
68
27
$88,240
-
816
855
-
-
161
-
38
-
43
1,913
-
55
2,336
-
-
143
-
36
-
11
2,581
-
6,276
7,609
-
-
543
-
78
-
-
14,506
Total
52,412
26,201
13,585
10,246
3,235
937
302
173
68
81
107,240
$18,233
3,303
$21,536
Includes demand, interest checking, savings, money market and foreign office deposits. For additional information, see the Deposits discussion in the Balance Sheet Analysis section
of Management’s Discussion and Analysis.
Total other commitments by expiration period
(a)
31,237
4,066
35,303
49,470
8,951
58,421
-
1,178
1,178
-
404
404
(b) Includes other time and certificates $100,000 and over. For additional information, see the Deposits discussion in the Balance Sheet Analysis section of Management’s Discussion
(c)
(d)
and Analysis.
In the banking industry, interest-bearing obligations are principally used to fund interest-earning assets. As such, interest charges on contractual obligations were excluded from
reported amounts, as the potential cash outflows would have corresponding cash inflows from interest-earning assets. See Note 14 of the Notes to Consolidated Financial Statements
for additional information on these debt instruments.
Includes federal funds purchased and borrowings with an original maturity of less than one year. For additional information, see Note 13 of the Notes to Consolidated Financial
Statements.
Includes both operating and capital leases.
Includes low-income housing, historic tax and venture capital partnership investments.
(e) See Note 11 of the Notes to Consolidated Financial Statements for additional information on forward contracts to sell mortgage loans.
(f)
(g)
(h) See Note 23 of the Notes to Consolidated Financial Statements for additional information on pension obligations.
(i) Includes commitments to various general contractors for work related to banking center construction.
(j) Represents agreements to purchase goods or services.
(k) Commitments to extend credit are agreements to lend, typically having fixed expiration dates or other termination clauses that may require payment of a fee. Many of the commitments
to extend credit may expire without being drawn upon. The total commitment amounts do not necessarily represent future cash flow requirements.
(l) Letters of credit are conditional commitments issued to guarantee the performance of a customer to a third party.
Fifth Third Bancorp 53
MANAGEMENT’S ASSESSMENT AS TO THE EFFECTIVENESS OF INTERNAL CONTROL OVER FINANCIAL REPORTING
The Bancorp conducted an evaluation, under the supervision and with the participation of the Bancorp’s management, including the
Bancorp’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Bancorp’s disclosure
controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act). Based on the foregoing, as of the
end of the period covered by this report, the Bancorp’s Chief Executive Officer and Chief Financial Officer concluded that the Bancorp’s
disclosure controls and procedures were effective, in all material respects, to ensure that information required to be disclosed in the reports the
Bancorp files and submits under the Exchange Act is recorded, processed, summarized and reported as and when required and information is
accumulated and communicated to management on a timely basis.
The management of Fifth Third Bancorp is responsible for establishing and maintaining adequate internal control, designed to provide
reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in
accordance with accounting principles generally accepted in the United States of America. The Bancorp’s management assessed the
effectiveness of the Bancorp’s internal control over financial reporting as of December 31, 2008. Management’s assessment is based on the
criteria established in the Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission and was designed to provide reasonable assurance that the Bancorp maintained effective internal control over financial reporting
as of December 31, 2008. Based on this assessment, management believes that the Bancorp maintained effective internal control over financial
reporting as of December 31, 2008. The Bancorp’s independent registered public accounting firm, that audited the Bancorp’s consolidated
financial statements included in this annual report, has issued an audit report on our internal control over financial reporting as of December
31, 2008. This report appears on page 55 of the annual report.
The Bancorp’s management also conducted an evaluation of internal control over financial reporting to determine whether any changes
occurred during the year covered by this report that have materially affected, or are reasonably likely to materially affect, the Bancorp’s internal
control over financial reporting. Based on this evaluation, there has been no such change during the year covered by this report.
Kevin T. Kabat
President and Chief Executive Officer
February 27, 2009
Ross J. Kari
Executive Vice President and Chief Financial Officer
February 27, 2009
54 Fifth Third Bancorp
To the Shareholders and Board of Directors of Fifth Third Bancorp:
REPORTS OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
We have audited the internal control over financial reporting of Fifth Third Bancorp and subsidiaries (the “Bancorp”) as of December 31, 2008,
based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission. The Bancorp's management is responsible for maintaining effective internal control over financial reporting and for its assessment
of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Assessment as to the Effectiveness
of Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Bancorp's internal control over financial
reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial
reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting,
assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the
assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a
reasonable basis for our opinion.
A company's internal control over financial reporting is a process designed by, or under the supervision of, the company's principal
executive and principal financial officers, or persons performing similar functions, and effected by the company's board of directors,
management, and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial
reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary
to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of
the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable
assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a
material effect on the financial statements.
Because of the inherent limitations of internal control over financial reporting, including the possibility of collusion or improper
management override of controls, material misstatements due to error or fraud may not be prevented or detected on a timely basis. Also,
projections of any evaluation of the effectiveness of the internal control over financial reporting to future periods are subject to the risk that the
controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may
deteriorate.
In our opinion, the Bancorp maintained, in all material respects, effective internal control over financial reporting as of December 31, 2008,
based on the criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the
consolidated financial statements as of and for the year ended December 31, 2008 of the Bancorp and our report dated February 27, 2009
expressed an unqualified opinion on those consolidated financial statements.
Cincinnati, Ohio
February 27, 2009
To the Shareholders and Board of Directors of Fifth Third Bancorp:
We have audited the accompanying consolidated balance sheets of Fifth Third Bancorp and subsidiaries (the “Bancorp”) as of December 31,
2008 and 2007, and the related consolidated statements of income, shareholders' equity, and cash flows for each of the three years in the period
ended December 31, 2008. These consolidated financial statements are the responsibility of the Bancorp's management. Our responsibility is to
express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Fifth Third Bancorp
and subsidiaries at December 31, 2008 and 2007, and the results of their operations and their cash flows for each of the three years in the period
ended December 31, 2008, in conformity with accounting principles generally accepted in the United States of America.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Bancorp’s
internal control over financial reporting as of December 31, 2008, based on the criteria established in Internal Control—Integrated Framework issued
by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 27, 2009 expressed an unqualified
opinion on the Bancorp's internal control over financial reporting.
Cincinnati, Ohio
February 27, 2009
Fifth Third Bancorp 55
CONSOLIDATED BALANCE SHEETS
2007
2,660
10,677
355
171
620
4,329
2008
$2,739
12,728
360
1,191
3,578
1,452
29,197
12,502
5,114
3,666
9,385
12,752
8,594
1,811
1,122
84,143
(2,787)
81,356
2,494
463
2,624
168
499
10,112
$119,764
As of December 31 ($ in millions, except share data)
Assets
Cash and due from banks
Available-for-sale and other securities (a)
Held-to-maturity securities (b)
Trading securities
Other short-term investments
Loans held for sale (c)
Portfolio loans and leases:
Commercial loans
Commercial mortgage loans
Commercial construction loans
Commercial leases
Residential mortgage loans (d)
Home equity
Automobile loans
Credit card
Other consumer loans and leases
Portfolio loans and leases
Allowance for loan and lease losses
Portfolio loans and leases, net
Bank premises and equipment
Operating lease equipment
Goodwill
Intangible assets
Servicing rights
Other assets
Total Assets
Liabilities
Deposits:
Demand
Interest checking
Savings
Money market
Other time
Certificates - $100,000 and over
Foreign office and other
Total deposits
Federal funds purchased
Other short-term borrowings
Accrued taxes, interest and expenses
Other liabilities
Long-term debt
Total Liabilities
Shareholders' Equity
Common stock (e)
Preferred stock (f)
Capital surplus (g)
Retained earnings
Accumulated other comprehensive income (loss)
Treasury stock
Total Shareholders' Equity
Total Liabilities and Shareholders' Equity
(a) Amortized cost: December 31, 2008 - $12,550 and December 31, 2007 - $10,821
(b) Market values: December 31, 2008 - $360 and December 31, 2007 - $355
(c) Includes $881million of residential mortgage loans held for sale measured at fair value at December 31, 2008.
(d) Includes $7 million of residential mortgage loans held for investment measured at fair value at December 31, 2008.
(e) Common shares: Stated value $2.22 per share; authorized 2,000,000,000; outstanding at December 31, 2008 - 577,386,612 (excludes 6,040,492 treasury shares) and
$15,287
13,826
16,063
4,689
14,350
11,851
2,547
78,613
287
9,959
2,029
3,214
13,585
107,687
1,295
4,241
848
5,824
98
(229)
12,077
$119,764
24,813
11,862
5,561
3,737
10,540
11,874
9,201
1,591
1,074
80,253
(937)
79,316
2,223
353
2,470
147
618
7,023
110,962
14,404
15,254
15,635
6,521
11,440
6,738
5,453
75,445
4,427
4,747
2,427
1,898
12,857
101,801
1,295
9
1,779
8,413
(126)
(2,209)
9,161
110,962
December 31, 2007 - 532,671,925 (excludes 51,516,339 treasury shares).
(f) 317,680 shares of undesignated no par value preferred stock are authorized of which none had been issued; 7,250 shares of 8.0% cumulative Series D convertible (at $23.5399 per share)
perpetual preferred stock with a stated value of $1,000 per share, which were issued and outstanding at December 31, 2007 and repurchased for $22 million and retired on November 26, 2008;
2,000 shares of 8.0% cumulative Series E perpetual preferred stock with a stated value of $1,000 per share, which were issued and outstanding at December 31, 2007 and repurchased for $6
million and retired on November 26, 2008; 5.0% cumulative Series F perpetual preferred stock with a $25,000 liquidation preference: 136,320 issued and outstanding at December 31, 2008;
8.5% non-cumulative Series G convertible (into 2,159.8272 common shares) perpetual preferred stock with a $25,000 liquidation preference: 46,000 authorized, 44,300 issued and
outstanding at December 31, 2008.
(g) Includes ten-year warrants valued at $239 million to purchase up to 43,617,747 shares of common stock, no par value, related to Series F preferred stock, at an initial exercise price of $11.72
per share.
See Notes to Consolidated Financial Statements.
56 Fifth Third Bancorp
CONSOLIDATED STATEMENTS OF INCOME
$4,935
660
13
5,608
1,289
248
557
2,094
3,514
4,560
(1,046)
912
641
444
353
199
363
(86)
120
2,946
For the years ended December 31 ($ in millions, except per share data)
Interest Income
Interest and fees on loans and leases
Interest on securities
Interest on other short-term investments
Total interest income
Interest Expense
Interest on deposits
Interest on other short-term borrowings
Interest on long-term debt
Total interest expense
Net Interest Income
Provision for loan and lease losses
Net Interest Income (Loss) After Provision for Loan and Lease Losses
Noninterest Income
Electronic payment processing revenue
Service charges on deposits
Corporate banking revenue
Investment advisory revenue
Mortgage banking net revenue
Other noninterest income
Securities gains (losses), net
Securities gains - non-qualifying hedges on mortgage servicing rights
Total noninterest income
Noninterest Expense
Salaries, wages and incentives
Employee benefits
Net occupancy expense
Payment processing expense
Technology and communications
Equipment expense
Goodwill impairment
Other noninterest expense
Total noninterest expense
Income (Loss) Before Income Taxes and Cumulative Effect
Applicable income tax expense (benefit)
Income (Loss) Before Cumulative Effect
Cumulative effect of change in accounting principle, net of tax (a)
Net Income (Loss)
Dividends on preferred stock
Net Income (Loss) Available to Common Shareholders
Earnings Per Share
Earnings Per Diluted Share
(a) Reflects a benefit of $4 million (net of $2 million of tax) for the adoption of SFAS No. 123(R) as of January 1, 2006.
2008
2007
2006
5,418
590
5,000
934
19 21
6,027 5,955
2,007 1,910
324 402
687 770
3,018 3,082
3,009 2,873
628 343
2,381 2,530
826 717
579 517
367 318
382 367
133 155
153 299
(364)
6 3
2,467 2,012
21
-
1,337
278
300
274
191
130
965
1,089
4,564
(2,664)
(551)
1,239 1,174
278 292
269 245
244 184
169 141
123 116
-
989
763
3,311 2,915
1,537 1,627
443
(2,113) 1,076 1,184
- -
4
(2,113) 1,076 1,188
-
1,075 1,188
2.00 2.14
1.99 2.13
67
($2,180)
($3.94)
($3.94)
461
1
See Notes to Consolidated Financial Statements.
Fifth Third Bancorp 57
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
Accumulated
Other
Retained Comprehensive Treasury
Stock
Income
Earnings
(1,279)
(413)
8,007
1,188
($ in millions, except per share data)
Balance at December 31, 2005
Net income
Other comprehensive income
Comprehensive income
Cumulative effect of change in accounting for pension and
other postretirement obligations
Cash dividends declared:
Common stock at $1.58 per share
Preferred stock
Shares acquired for treasury
Stock-based compensation expense
Impact of cumulative effect of change in accounting principle
Restricted stock grants
Stock-based awards exercised, including treasury shares issued
Loans repaid related to the exercise of stock-based awards, net
Change in corporate tax benefit related to stock-based
compensation
Other
Balance at December 31, 2006
Net income
Other comprehensive income
Comprehensive income
Cash dividends declared:
Common stock at $1.70 per share
Preferred stock
Shares acquired for treasury
Stock-based compensation expense
Impact of cumulative effect of change in accounting principle
Restricted stock grants
Stock-based awards exercised, including treasury shares issued
Loans repaid related to the exercise of stock-based awards, net
Change in corporate tax benefit related to stock-based
compensation
Common Preferred
Stock
9
$1,295
Stock
1,295
9
Capital
Surplus
1,827
76
(6)
(45)
(49)
8
(1)
2
1,812
60
(59)
(39)
2
2
1
1,779
9
1,072
3,169
(9)
239
(1,071)
56
(136)
(2)
4
(16)
(5)
848
1,295
Employee stock ownership through benefit plans
Impact of diversification of nonqualified deferred compensation plan
Other
Balance at December 31, 2007
Net loss
Other comprehensive income
Comprehensive loss
Cash dividends declared:
Common stock at $0.75 per share
Preferred stock
Dividends on redemption of preferred shares
Issuance of preferred shares, Series G
Issuance of preferred shares, Series F
Shares issued in business combinations
Retirement of preferred shares, Series D, E
Stock-based compensation expense
Restricted stock grants
Stock-based awards exercised, including treasury shares issued
Loans repaid related to the exercise of stock-based awards, net
Change in corporate tax benefit related to stock-based
compensation
Other
Balance at December 31, 2008
See Notes to Consolidated Financial Statements.
$1,295
4,241
58 Fifth Third Bancorp
(880)
(1)
1
2
8,317
1,076
(914)
(1)
1
(98)
38
(8)
2
8,413
(2,113)
(413)
(48)
(19)
1
3
5,824
288
(54)
(82)
45
84
(179)
(1,232)
53
(1,084)
59
86
(38)
(126)
(2,209)
224
1,841
136
2
Total
9,446
1,188
288
1,476
(54)
(880)
(1)
(82)
77
(6)
-
35
8
(1)
4
10,022
1,076
53
1,129
(914)
(1)
(1,084)
61
(98)
-
47
2
2
-
(8)
3
9,161
(2,113)
224
(1,889)
(413)
(48)
(19)
1,072
3,408
770
(9)
57
-
-
4
1
(229)
(16)
(1)
12,077
98
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the years ended December 31 ($ in millions)
Operating Activities
Net Income (loss)
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Provision for loan and lease losses
Cumulative effect of change in accounting principle, net of tax
Depreciation, amortization and accretion
Stock-based compensation expense
Benefit for deferred income taxes
Realized securities gains
Realized securities losses
Realized securities gains - non-qualifying hedges on mortgage servicing rights
Provision (recovery) for mortgage servicing rights
Net (gains) losses on sales of loans
Capitalized mortgage servicing rights
Loss on recalculation of the timing of tax benefits on leveraged leases
Impairment charges on goodwill
Loans originated for sale, net of repayments
Proceeds from sales of loans held for sale
Decrease (increase) in trading securities
(Increase) decrease in other assets
Increase (decrease) in accrued taxes, interest and expenses
Excess tax benefit related to stock-based compensation
Increase (decrease) in other liabilities
Net Cash Provided by (Used In) Operating Activities
Investing Activities
Proceeds from sales of available-for-sale securities
Proceeds from calls, paydowns and maturities of available-for-sale securities
Purchases of available-for-sale securities
Proceeds from calls, paydowns and maturities of held-to-maturity securities
Purchases of held-to-maturity securities
(Increase) decrease in other short-term investments
Net increase in loans and leases
Proceeds from sales of loans
Increase in operating lease equipment
Purchases of bank premises and equipment
Proceeds from disposal of bank premises and equipment
Net cash acquired (paid) in business combinations
Net Cash (Used In) Provided by Investing Activities
Financing Activities
(Decrease) increase in core deposits
Increase in certificates - $100,000 and over, including other foreign office
(Decrease) increase in federal funds purchased
Increase (decrease) in other short-term borrowings
Proceeds from issuance of long-term debt
Repayment of long-term debt
Purchases of treasury stock
Issuance of preferred stock, series F, G
Payment of cash dividends
Retirement of preferred shares, series D, E
Dividends on redemption of preferred shares, series D, E
Exercise of stock-based awards, net
Excess tax benefit related to stock-based compensation
Other, net
Net Cash Provided by (Used In) Financing Activities
Increase (Decrease) in Cash and Due from Banks
Cash and Due from Banks at Beginning of Year
Cash and Due from Banks at End of Year
Supplemental Cash Flow Information
Cash Payments
Interest
Income taxes
Noncash Items
Transfers of loans to securities
Transfers of portfolio loans to held-for-sale loans
Transfers of held-for-sale loans to portfolio loans
Business Acquisitions:
Fair value of tangible assets acquired (noncash)
Goodwill and identifiable intangible assets acquired
Liabilities assumed
Common stock issued
See Notes to Consolidated Financial Statements.
2008
($2,113)
4,560
-
8
57
(1,140)
(41)
127
(120)
207
(47)
(195)
130
965
(11,527)
11,273
134
(454)
925
-
355
3,104
7,226
67,883
(76,317)
3
(11)
(2,910)
(6,553)
5,216
(142)
(410)
34
66
(5,915)
(2,820)
1,927
(4,352)
4,478
2,157
(2,272)
-
4,480
(687)
(9)
(19)
4
-
3
2,890
79
2,660
$2,739
$2,053
416
790
532
1,692
4,368
1,194
(4,858)
(770)
2007
1,076
628
-
367
61
(178)
(16)
2
(6)
22
112
(207)
-
-
(13,125)
11,027
16
86
194
(4)
(741)
(686)
2,071
13,468
(15,541)
11
(11)
224
(6,181)
745
(172)
(459)
46
(230)
(6,029)
2,225
2,101
3,006
1,951
4,801
(5,494)
(1,084)
-
(898)
-
-
49
4
9
6,670
(45)
2,705
2,660
2,996
535
-
1,982
782
2,446
297
(2,513)
-
2006
1,188
343
(4)
399
77
(21)
(44)
408
(3)
(19)
4
(135)
-
-
(8,671)
8,812
(70)
(1,421)
(31)
-
642
1,454
12,568
3,033
(4,676)
38
(5)
(675)
(5,145)
540
(77)
(443)
60
(5)
5,213
1,467
479
(3,902)
(1,462)
3,731
(6,441)
(82)
-
(867)
-
-
43
-
2
(7,032)
(365)
3,070
2,705
3,051
489
-
-
138
6
17
(18)
-
Fifth Third Bancorp 59
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING AND REPORTING POLICIES
Nature of Operations
interest
Fifth Third Bancorp (Bancorp), an Ohio corporation, conducts its
principal lending, deposit gathering, transaction processing and
service advisory activities through its banking and non-banking
subsidiaries from banking centers
the
Midwestern and Southeastern regions of the United States.
throughout
located
Basis of Presentation
The Consolidated Financial Statements include the accounts of
the Bancorp and its majority-owned subsidiaries and variable
interest entities in which the Bancorp has been determined to be
the primary beneficiary. Other entities, including certain joint
ventures, in which the Bancorp has the ability to exercise
significant influence over operating and financial policies of the
investee, but upon which the Bancorp does not possess control,
are accounted for by the equity method and not consolidated.
Those entities in which the Bancorp does not have the ability to
exercise significant influence are generally carried at the lower of
cost or fair value. Intercompany transactions and balances have
been eliminated. Certain prior period data has been reclassified to
conform to current period presentation.
Use of Estimates
The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions
that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those
estimates.
as
are
classified
available-for-sale when,
Securities
Securities are classified as held-to-maturity, available-for-sale or
trading on the date of purchase. Only those securities which
management has the intent and ability to hold to maturity and are
classified as held-to-maturity are reported at amortized cost.
Securities
in
management’s judgment, they may be sold in response to, or in
anticipation of, changes in market conditions. The Bancorp’s
management has evaluated the securities in an unrealized loss
position in the available-for-sale portfolio and maintains the intent
and ability to hold these securities to the earlier of the recovery of
the losses or maturity. Securities are classified as trading when
bought and held principally for the purpose of selling them in the
near term. Available-for-sale and trading securities are reported at
fair value with unrealized gains and losses, net of related deferred
income taxes, included in other comprehensive income and other
noninterest income, respectively. The fair value of a security is
determined based on quoted market prices. If quoted market
prices are not available, fair value is determined based on quoted
prices of similar instruments or discounted cash flow models that
incorporate market inputs and assumptions including discount
rates, prepayment speeds, and loss rates. Realized securities gains
or
in the
Consolidated Statements of Income. The cost of securities sold is
based on the specific identification method. Available-for-sale and
held-to-maturity securities are reviewed quarterly for possible
other-than-temporary impairment. The review includes an analysis
of the facts and circumstances of each individual investment such
as the severity of loss, the length of time the fair value has been
below cost, the expectation for that security’s performance, the
creditworthiness of the issuer and management’s intent and ability
to hold the security to recovery. A decline in value that is
considered to be other-than-temporary is recorded as a loss within
noninterest income in the Consolidated Statements of Income.
losses are reported within noninterest
income
Loans and Leases
Interest income on loans and leases is based on the principal
balance outstanding computed using the effective interest method.
60 Fifth Third Bancorp
loans
income for commercial
The accrual of
is
discontinued when there is a clear indication that the borrower’s
cash flow may not be sufficient to meet payments as they become
due. Such loans are also placed on nonaccrual status when the
principal or interest is past due ninety days or more, unless the
loan is well secured and in the process of collection. When a loan
is placed on nonaccrual status, all previously accrued and unpaid
interest is charged against income and the loan is accounted for on
the cost recovery method thereafter, until qualifying for return to
accrual status. Generally, a loan is returned to accrual status when
all delinquent interest and principal payments become current in
accordance with the terms of the loan agreement or when the loan
is both well secured and in the process of collection. Consumer
loans and revolving lines of credit for equity lines that have
principal and interest payments that have become past due one
hundred and twenty days and residential mortgage loans and
credit cards that have principal and interest payments that have
become past due one hundred and eighty days are charged off to
the allowance for loan and lease losses. Commercial loans above a
specified threshold are subject to individual review to identify
charge-offs. Refer to the Allowance for Loan and Lease Losses
below for further discussion.
A loan is accounted for as a troubled debt restructuring if the
Bancorp, for economic or legal reasons related to the borrowers’
financial difficulties, grants a concession to the borrower that it
would not otherwise consider. A troubled debt restructuring
typically involves a modification of terms such as a reduction of
the stated interest rate or face amount of the loan, a reduction of
accrued interest, or an extension of the maturity date(s) at a stated
interest rate lower than the current market rate for a new loan
with similar risk. The Bancorp measures the impairment loss of a
troubled debt restructuring based on the difference between the
original loan’s carrying amount and the present value of expected
future cash flows discounted at the original, contractual rate of the
loan. Troubled debt restructurings remain on nonaccrual status
until a six-month payment history is sustained.
Loan and lease origination and commitment fees and direct
loan and lease origination costs are deferred and the net amount is
amortized over the estimated life of the related loans, leases or
commitments as a yield adjustment.
Direct financing leases are carried at the aggregate of lease
payments plus estimated residual value of the leased property, less
unearned income. Interest income on direct financing leases is
recognized over the term of the lease to achieve a constant
periodic rate of return on the outstanding investment. Interest
income on leveraged leases is recognized over the term of the
lease to achieve a constant rate of return on the outstanding
investment in the lease, net of the related deferred income tax
liability, in the years in which the net investment is positive.
Conforming fixed residential mortgage loans are typically
classified as held for sale upon origination based upon
management’s intent to sell all the production of these loans. The
Bancorp elected on January 1, 2008 to measure residential
mortgage loans held for sale at fair value in accordance with SFAS
No. 159. The election was prospective, at the instrument level, for
residential mortgage loans that have a designation as held for sale
on the day the specific loan closes. Existing residential mortgage
loans held for sale as of December 31, 2007 were not included in
the fair value option election and were valued at the lower of cost
or market. All other loans held for sale continue to be valued at
the lower of cost or market. For residential mortgage loans held
for sale, fair value is estimated based upon mortgage-backed
securities prices and spreads to those prices or, for certain loans,
discounted cash flow models that may incorporate the anticipated
portfolio composition, credit spreads of asset-backed securities
with similar collateral, and market conditions. These fair value
NOTES TO CONSOLIDATED FINABCIAL STATEMENTS
marks are recorded to income in mortgage banking revenue. The
Bancorp generally has commitments to sell residential mortgage
loans held for sale in the secondary market. Gains or losses on
sales are recognized in mortgage banking net revenue upon
delivery.
Impaired loans and leases are measured based on the present
value of expected future cash flows discounted at the loan’s
effective interest rate, the fair value of the underlying collateral or
readily observable secondary market values. The Bancorp
evaluates the collectibility of both principal and interest when
assessing the need for a loss accrual.
Other Real Estate Owned
Other real estate owned (OREO), which is included in other
assets, represents property acquired through foreclosure or other
proceedings. OREO is carried at the lower of cost or fair value,
less costs to sell. All property is periodically evaluated and
reductions in carrying value are recognized in other noninterest
expense in the Consolidated Statements of Income.
Allowance for Loan and Lease Losses
The Bancorp maintains an allowance to absorb probable loan and
lease losses inherent in the portfolio. The allowance is maintained
at a level the Bancorp considers to be adequate and is based on
ongoing quarterly assessments and evaluations of the collectibility
and historical loss experience of loans and leases. Credit losses
are charged and recoveries are credited to the allowance.
Provisions for loan and lease losses are based on the Bancorp’s
review of the historical credit loss experience and such factors
that, in management’s judgment, deserve consideration under
existing economic conditions in estimating probable credit losses.
In determining the appropriate level of the allowance, the
Bancorp estimates losses using a range derived from “base” and
“conservative” estimates.
Larger commercial loans that exhibit probable or observed
credit weaknesses are subject to individual review. When
individual loans are impaired, allowances are allocated based on
management’s estimate of the borrower’s ability to repay the loan
given the availability of collateral, other sources of cash flow, as
well as evaluation of legal options available to the Bancorp. The
review of individual loans includes those loans that are impaired as
provided in SFAS No. 114. Any allowances for impaired loans
are measured based on the present value of expected future cash
flows discounted at the loan’s effective interest rate, fair value of
the underlying collateral or readily observable secondary market
values. The Bancorp evaluates the collectibility of both principal
and interest when assessing the need for a loss accrual. Historical
loss rates are applied to commercial loans, which are not impaired
or are impaired but smaller than an established threshold, and thus
not subject to specific allowance allocations. The loss rates are
derived from a migration analysis, which tracks the historical net
charge-off experience sustained on loans according to their
internal risk grade. The risk grading system currently utilized for
allowance analysis purposes encompasses ten categories.
Homogenous loans and leases, such as consumer installment
and residential mortgage loans, are not individually risk graded.
Rather, standard credit scoring systems and delinquency
monitoring are used to assess credit risks. Allowances are
established for each pool of loans based on the expected net
charge-offs. Loss rates are based on the average net charge-off
history by loan category.
Historical loss rates for commercial and consumer loans may
be adjusted for significant factors that, in management’s judgment,
are necessary to reflect losses inherent in the portfolio. Factors
that management considers in the analysis include the effects of
the national and local economies; trends in the nature and volume
of delinquencies, charge-offs and nonaccrual loans; changes in
mix; credit score migration comparisons; asset quality trends; risk
management and loan administration; changes in the internal
lending policies and credit standards; collection practices; and
examination results from bank regulatory agencies and the
Bancorp’s internal credit examiners.
specified
The Bancorp’s current methodology for determining the
allowance for loan and lease losses is based on historical loss rates,
current credit grades, specific allocation on impaired commercial
credits above
thresholds and other qualitative
adjustments. Allowances on individual loans and historical loss
rates are reviewed quarterly and adjusted as necessary based on
changing borrower and/or collateral conditions and actual
collection and charge-off experience. An unallocated allowance is
maintained to recognize the imprecision in estimating and
measuring loss when evaluating allowances for individual loans or
pools of loans.
Loans acquired by the Bancorp through a purchase business
combination are evaluated for possible credit impairment at
acquisition. Reductions to the carrying value of the acquired loans
as a result of credit impairment are recorded as an adjustment to
goodwill. The Bancorp does not carry over the acquired
company’s allowance for loan and lease losses, nor does the
Bancorp add to its existing allowance for the acquired loans as
part of purchase accounting.
The Bancorp’s primary market areas for lending are the
Midwestern and Southeastern regions of the United States. When
evaluating the adequacy of allowances, consideration is given to
these
the closely
associated effect changing economic conditions have on the
Bancorp’s customers.
regional geographic concentrations and
In the current year, the Bancorp has not substantively
changed any material aspect to its overall approach to determining
its allowance for loan and lease losses. There have been no
material changes in criteria or estimation techniques as compared
to prior periods that impacted the determination of the current
period allowance for loan and lease losses.
Reserve for Unfunded Commitments
The reserve for unfunded commitments is maintained at a level
believed by management to be sufficient to absorb estimated
probable losses related to unfunded credit facilities and is included
in other liabilities in the Consolidated Balance Sheets. The
determination of the adequacy of the reserve is based upon an
including an
the unfunded credit facilities,
evaluation of
assessment of historical commitment utilization experience, credit
risk grading and credit grade migration. Net adjustments to the
reserve for unfunded commitments are
in other
noninterest expense in the Consolidated Statements of Income.
included
Loan Sales and Securitizations
When the Bancorp sells loans through either securitizations or
individual loan sales in accordance with its investment policies, it
may obtain one or more subordinated tranches, servicing rights,
interest-only strips, credit recourse, other residual interests and in
some cases, a cash reserve account, all of which are considered
interests that continue to be held by the Bancorp in the securitized
or sold loans. Gains or losses on sale or securitization of the
loans depend in part on the previous carrying amount of the
financial assets sold or securitized. At the date of transfer,
obtained servicing rights are recorded at fair value and the
remaining carrying value of the transferred financial assets is
allocated between the assets sold and remaining interests that
continue to be held by the Bancorp based on their relative fair
values at the date of sale or securitization. To obtain fair values,
quoted market prices are used, if available. If quotes are not
available for interests that continue to be held by the Bancorp, the
Bancorp calculates fair value based on the present value of future
expected cash flows using management’s best estimates for the
key assumptions, including credit losses, prepayment speeds,
Fifth Third Bancorp 61
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
in
income
forward yield curves and discount rates commensurate with the
risks involved. Gain or loss on sale or securitization of loans is
reported as a component of noninterest
the
Consolidated Statements of Income. Interests that continue to be
held by the Bancorp from securitized or sold loans, excluding
servicing rights, are carried at fair value. Adjustments to fair value
for interests that continue to be held by the Bancorp classified as
available-for-sale securities are included in accumulated other
comprehensive income in the Consolidated Balance Sheets or in
noninterest income in the Consolidated Statements of Income if
the fair value has declined below the carrying amount and such
decline has been determined
to be other-than-temporary.
Adjustments to fair value for interests that continue to be held by
the Bancorp classified as trading securities are recorded within
other noninterest income in the Consolidated Statements of
Income.
Servicing rights resulting from residential mortgage and
commercial loan sales are amortized in proportion to and over the
period of estimated net servicing revenues and are reported as a
component of mortgage banking net revenue and corporate
banking revenue, respectively, in the Consolidated Statements of
Income. Servicing rights are assessed for impairment monthly,
based on fair value, with temporary impairment recognized
impairment
through a valuation allowance and permanent
recognized through a write-off of the servicing asset and related
valuation allowance. Key economic assumptions used
in
measuring any potential impairment of the servicing rights include
the prepayment speeds of the underlying loans, the weighted-
average life, the discount rate, the weighted-average coupon and
the weighted-average default rate, as applicable. The primary risk
of material changes to the value of the servicing rights resides in
the potential volatility
in the economic assumptions used,
particularly the prepayment speeds. The Bancorp monitors risk
and adjusts its valuation allowance as necessary to adequately
reserve for impairment in the servicing portfolio. For purposes of
measuring impairment, the mortgage servicing rights are stratified
into classes based on the financial asset type (fixed-rate vs.
adjustable-rate) and interest rates. Fees received for servicing loans
owned by investors are based on a percentage of the outstanding
monthly principal balance of such loans and are included in
noninterest income in the Consolidated Statements of Income as
loan payments are received. Costs of servicing loans are charged
to expense as incurred.
Bank Premises and Equipment
Bank premises and equipment, including leasehold improvements,
are stated at cost less accumulated depreciation and amortization.
Depreciation is calculated using the straight-line method based on
estimated useful lives of the assets for book purposes, while
accelerated depreciation
income tax purposes.
is used for
Amortization of leasehold improvements is computed using the
straight-line method over the lives of the related leases or useful
lives of the related assets, whichever is shorter. In accordance
with SFAS No. 144, “Accounting for the Impairment or Disposal
of Long-Lived Assets,” the Bancorp tests its long-lived assets for
impairment through both a probability-weighted and primary-
asset approach whenever events or changes in circumstances
dictate. Maintenance, repairs and minor
improvements are
charged to noninterest expense in the Consolidated Statements of
Income as incurred.
Derivative Financial Instruments
The Bancorp accounts for its derivatives under SFAS No. 133,
“Accounting for Derivative Instruments and Hedging Activities,”
as amended. This Statement requires recognition of all derivatives
as either assets or liabilities in the balance sheet and requires
through
measurement of
adjustments to accumulated other comprehensive income and/or
instruments at fair value
those
62 Fifth Third Bancorp
current earnings, as appropriate. On the date the Bancorp enters
into a derivative contract, the Bancorp designates the derivative
instrument as either a fair value hedge, cash flow hedge or as a
free-standing derivative instrument. For a fair value hedge,
changes in the fair value of the derivative instrument and changes
in the fair value of the hedged asset or liability or of an
unrecognized firm commitment attributable to the hedged risk are
recorded in current period net income. For a cash flow hedge,
changes in the fair value of the derivative instrument, to the extent
in accumulated other
that
comprehensive income and subsequently reclassified to net
income in the same period(s) that the hedged transaction impacts
net income. For free-standing derivative instruments, changes in
fair values are reported in current period net income.
is effective, are
recorded
it
Prior to entering into a hedge transaction, the Bancorp
formally documents the relationship between hedging instruments
and hedged items, as well as the risk management objective and
strategy for undertaking various hedge transactions. This process
includes linking all derivative instruments that are designated as
fair value or cash flow hedges to specific assets and liabilities on
the balance sheet or to specific forecasted transactions, along with
a formal assessment at both inception of the hedge and on an
ongoing basis as to the effectiveness of the derivative instrument
in offsetting changes in fair values or cash flows of the hedged
item. If it is determined that the derivative instrument is not
highly effective as a hedge, hedge accounting is discontinued and
the adjustment to fair value of the derivative instrument is
recorded in net income.
Income Taxes
The Bancorp estimates income tax expense based on amounts
expected to be owed to the various tax jurisdictions in which the
Bancorp conducts business. On a quarterly basis, management
assesses the reasonableness of its effective tax rate based upon its
current estimate of the amount and components of net income,
tax credits and the applicable statutory tax rates expected for the
full year. The estimated income tax expense is recorded in the
Consolidated Statements of Income.
Deferred income tax assets and liabilities are determined
using the balance sheet method and are reported in either other
assets or accrued taxes, interest and expenses in the Consolidated
Balance Sheets. Under this method, the net deferred tax asset or
liability is based on the tax effects of the differences between the
book and tax basis of assets and liabilities, and recognizes enacted
changes in tax rates and laws. Deferred tax assets are recognized
to the extent they exist and are subject to a valuation allowance
based on management’s judgment that realization is more-likely-
than-not.
Accrued taxes represent the net estimated amount due to
taxing jurisdictions and are reported in accrued taxes, interest and
expenses in the Consolidated Balance Sheets. The Bancorp
evaluates and assesses the relative risks and appropriate tax
treatment of transactions and filing positions after considering
statutes, regulations, judicial precedent and other information and
maintains tax accruals consistent with its evaluation of these
relative risks and merits. Changes to the estimate of accrued taxes
occur periodically due to changes in tax rates, interpretations of
tax laws, the status of examinations being conducted by taxing
authorities and changes to statutory, judicial and regulatory
guidance that impact the relative risks of tax positions. These
changes, when they occur, can affect deferred taxes and accrued
taxes as well as the current period’s income tax expense and can
be significant to the operating results of the Bancorp. As
described in greater detail in Note 16, the Internal Revenue
Service has challenged the Bancorp’s tax treatment of certain
leasing transactions. For additional information on income taxes,
see Note 22.
NOTES TO CONSOLIDATED FINABCIAL STATEMENTS
Earnings Per Share
In accordance with SFAS No. 128, “Earnings Per Share,” basic
earnings per share is computed by dividing net income available to
common shareholders by the weighted-average number of shares
of common stock outstanding during the period. Earnings per
diluted share is computed by dividing adjusted net income
available to common shareholders by the weighted-average
number of shares of common stock and common stock
equivalents outstanding during the period. Dilutive common
stock equivalents represent the assumed conversion of convertible
preferred stock and the exercise of stock-based awards.
Goodwill
SFAS No. 142, “Goodwill and Other Intangible Assets” requires
goodwill to be reported at, and tested for impairment at the
Bancorp’s reporting unit level on an annual basis and more
frequently in certain circumstances. The Bancorp has determined
that its segments qualify as reporting units under the guidance of
SFAS No. 142. Impairment exists when a reporting unit’s
carrying amount of goodwill exceeds its implied fair value, which
is determined through a two-step impairment test. The first step
(Step 1) compares the fair value of a reporting unit with its
carrying amount, including goodwill. If the carrying amount of
the reporting unit exceeds its fair value, the second step (Step 2)
of the goodwill impairment test is performed to measure the
impairment loss amount, if any.
The fair value of a reporting unit is the price that would be
received to sell the unit as a whole in an orderly transaction
between market participants at the measurement date. To
determine the fair value of a reporting unit, the Bancorp
implements an income based approach, utilizing the reporting
unit’s forecasted cash flows (including a terminal value approach
to estimate cash flows beyond the final year of the forecast) and
the reporting unit’s estimated cost of equity as the discount rate.
Additionally, the Bancorp determines its market capitalization
based on the average close price of the Bancorp's stock during the
month
incorporating an
the measurement date,
additional control premium (as discussed in SFAS No. 142), and
allocates this market based fair value measurement to the
Bancorp’s reporting units in order to corroborate the results of
the income approach.
including
When required to perform Step 2, the Bancorp compares
the implied fair value of a reporting unit’s goodwill with the
carrying amount of that goodwill. If the carrying amount exceeds
the implied fair value, an impairment loss equal to that excess
amount is recognized, not to exceed the goodwill carrying
amount. Consistent with SFAS No. 142, during Step 2, the
Bancorp determines the implied fair value of goodwill for a
reporting unit by assigning the fair value of the reporting unit to
all of the assets and liabilities of that unit (including any
unrecognized intangible assets) as if the reporting unit had been
acquired in a business combination. The excess of the fair value
of the reporting units over the amounts assigned to its assets and
liabilities is the implied fair value of goodwill. This assignment
process is only performed for purposes of testing goodwill for
impairment. The Bancorp does not adjust the carrying values of
recognized assets or liabilities (other than goodwill, if appropriate),
nor recognize previously unrecognized intangible assets in the
Consolidated Financial Statements as a result of this assignment
process. Refer to Note 8 for discussion of the Bancorp's goodwill
impairment review process.
Other
Securities and other property held by Fifth Third Investment
Advisors, a division of the Bancorp’s banking subsidiaries, in a
fiduciary or agency capacity are not included in the Consolidated
Balance Sheets because such items are not assets of the
subsidiaries. Investment advisory revenue in the Consolidated
Statements of Income is recognized on the accrual basis.
Investment advisory service revenues are recognized monthly
based on a fee charged per transaction processed and/or a fee
charged on the market value of average account balances
associated with individual contracts.
The Bancorp recognizes revenue from its electronic payment
processing services on an accrual basis as such services are
performed, recording revenues net of certain costs (primarily
interchange and assessment
fees charged by credit card
associations) not controlled by the Bancorp.
The Bancorp purchases life insurance policies on the lives of
certain directors, officers and employees and is the owner and
beneficiary of the policies. The Bancorp invests in these policies,
known as BOLI, to provide an efficient form of funding for long-
term retirement and other employee benefits costs. The Bancorp
records
the
these BOLI policies within other assets
Consolidated Balance Sheets at each policy’s respective cash
surrender value, with changes recorded in other noninterest
income in the Consolidated Statements of Income.
in
Other intangible assets consist of core deposit intangibles,
customer
lists, non-competition agreements and cardholder
relationships. Other intangibles are amortized on either a straight-
line or an accelerated basis over their useful lives. The Bancorp
reviews other intangible assets for impairment whenever events or
changes in circumstances indicate that carrying amounts may not
be recoverable.
Acquisitions of treasury stock are carried at cost. Reissuance
of shares in treasury for acquisitions, exercises of stock-based
awards or other corporate purposes is recorded based on the
specific identification method.
Advertising costs are generally expensed as incurred.
New Accounting Pronouncements
In September 2006, the FASB issued SFAS No. 157, “Fair Value
Measurements.” This Statement defines fair value, establishes a
framework for measuring fair value and expands disclosures about
fair value measurements. SFAS No. 157 emphasizes that fair
value is a market-based measurement and should be determined
based on assumptions that a market participant would use when
pricing an asset or liability. This Statement clarifies that market
participant assumptions should include assumptions about risk as
well as the effect of a restriction on the sale or use of an asset.
Additionally, this Statement establishes a fair value hierarchy that
provides the highest priority to quoted prices in active markets
and the lowest priority to unobservable data. The adoption of
SFAS No. 157 on January 1, 2008 did not have a material effect
on the Bancorp’s Consolidated Financial Statements. In February
2008, the FASB issued FSP No. FAS 157-2, "Effective Date of
FASB Statement No. 157", which delayed the effective date of
SFAS No. 157 for non-financial assets and non-financial liabilities,
except for items that are recognized or disclosed at fair value in
the financial statements on a recurring basis (at least annually), to
fiscal years beginning after November 15, 2008. The impact of
adopting SFAS No. 157 for non-financial assets and non-financial
liabilities on January 1, 2009 did not have a material impact on the
Bancorp's Consolidated Financial Statements. In October 2008,
the FASB issued FSP No. FAS 157-3, "Determining the Fair
Value of a Financial Asset When the Market for That Asset Is Not
Active", which clarifies the application of SFAS No. 157 in a
market that is not active and illustrates key considerations in
determining the fair value. FSP No. FAS 157-3 was effective
upon issuance. The adoption of FSP No. FAS 157-3 did not have
a material impact on the Bancorp's Consolidated Financial
Statements.
In February 2007, the FASB issued SFAS No. 159, “The Fair
Value Option for Financial Assets and Financial Liabilities –
Including an Amendment of FASB Statement No. 115.” This
Statement permits an entity to choose to measure certain financial
Fifth Third Bancorp 63
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
items at fair value, on an
instruments and certain other
instrument-by-instrument basis. Once an entity has elected to
record eligible items at fair value, the decision is irrevocable and
the entity should report unrealized gains and losses on items for
which the fair value option has been elected in earnings. On
January 1, 2008, upon adoption of this Statement, the Bancorp
elected to prospectively measure at fair value, residential mortgage
loans originated on or after January 1, 2008 that have a
designation as held for sale. Prior to the Bancorp's adoption of
SFAS No. 159 for residential mortgage loans held for sale,
mortgage loan origination fees and costs were capitalized as part
of the carrying amount of the loan and recognized as a reduction
of mortgage banking net revenue upon the sale of the loans.
Subsequent to the adoption, mortgage loan origination costs are
in
recognized as an expense when
noninterest expense within the Consolidated Statements of
Income. For the year ended December 31, 2008, the adoption of
SFAS No. 159 resulted in the recognition of approximately $65
million in mortgage loan origination fees and costs in noninterest
expense.
incurred and
included
retains
This Statement
In December 2007, the FASB issued SFAS No. 141(R),
“Business Combinations” which supercedes SFAS No. 141,
“Business Combinations."
the
fundamental requirements in SFAS No. 141 that the acquisition
method of accounting (formerly referred to as purchase method)
be used for all business combinations and that an acquirer be
identified for each business combination. This Statement defines
the acquirer as the entity that obtains control of one or more
businesses in the business combination and establishes the
acquisition date as of the date that the acquirer achieves control.
This Statement requires an acquirer to recognize the assets
acquired, the liabilities assumed, and any noncontrolling interest in
the acquiree at the acquisition date, measured at their fair values.
This Statement requires the acquirer to generally recognize
acquisition-related costs and restructuring costs separately from
the business combination as period expenses. The Bancorp's
adoption of this statement will impact the accounting and
reporting of business combinations for which the acquisition date
is on or after January 1, 2009.
In December 2007, the FASB issued SFAS No. 160,
"Noncontrolling Interests in Consolidated Financial Statements -
an Amendment to ARB No. 51." This Statement establishes new
accounting and reporting standards that require the ownership
interests in subsidiaries held by parties other than the parent be
clearly identified, labeled, and presented in the consolidated
statement of financial position within equity, but separate from
the parent's equity. The Statement also requires the amount of
consolidated net income attributable to the parent and to the
noncontrolling interest be clearly identified and presented on the
face of the consolidated statement of income. In addition, when a
subsidiary is deconsolidated, any retained noncontrolling equity
investment in the former subsidiary shall be initially measured at
fair value, with the gain or loss on the deconsolidation of the
subsidiary measured using the fair value of any noncontrolling
equity investment rather than the carrying amount of that retained
investment. SFAS No. 160 also clarifies that changes in a parent's
in
ownership
deconsolidation are equity transactions if the parent retains its
controlling financial interest. The Statement also includes
expanded disclosure requirements regarding the interests of the
parent and its noncontrolling interest. The adoption of this
Statement on January 1, 2009 will not have a material impact on
the Bancorp’s Consolidated Financial Statements.
in a subsidiary that do not result
interest
In March 2008, the FASB issued SFAS No. 161, "Disclosures
about Derivative Instruments and Hedging Activities - an
Amendment of FASB Statement 133". This Statement enhances
required disclosures regarding derivatives and hedging activities,
including enhanced disclosures regarding how: (a) an entity uses
64 Fifth Third Bancorp
derivative instruments; (b) derivative instruments and related
hedged
items are accounted for under SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities";
and (c) derivative instruments and related hedged items affect an
entity's financial position, financial performance, and cash flows.
SFAS No. 161 is effective for fiscal years and interim periods
beginning after November 15, 2008.
In November 2007, the SEC issued Staff Accounting Bulletin
(SAB) No. 109, "Written Loan Commitments Recorded at Fair
Value through Earnings." This SAB supersedes SAB No. 105,
"Application of Accounting Principles to Loan Commitments",
and expresses the current view of the staff that, consistent with
guidance in SFAS No. 156 and No. 159, the expected net future
cash flows related to the associated servicing of a loan should be
included in the measurement of all written loan commitments that
are accounted for at fair value through earnings. Additionally, this
SAB expands the SAB No. 105 view that internally-developed
intangible assets should not be recorded as part of the fair value
for any written loan commitments that are accounted for at fair
value through earnings. The adoption of SAB No. 109 on January
1, 2008 did not have a material impact on the Bancorp’s
Consolidated Financial Statements.
In June 2008, the FASB issued FSP No. EITF 03-6-1,
"Determining Whether Instruments Granted in Share-Based
Payment Transactions Are Participating Securities." This FSP
provides that unvested share-based payment awards that contain
nonforfeitable rights
to dividends or dividend equivalents
(whether paid or unpaid) are participating securities and shall be
included in the computation of earnings per share pursuant to the
two-class method described in paragraphs 60 and 61 of SFAS No.
128, "Earnings per Share". This FSP is effective for financial
statements issued for fiscal years beginning after December 15,
2008, and interim periods within those years. All prior-period
earnings per share data presented will be adjusted retrospectively
(including interim financial statements, summaries of earnings,
and selected financial data) to conform with the provisions of this
FSP. Early application is not permitted. The Bancorp's adoption
of this FSP on January 1, 2009 will result in a retrospective
adjustment of earnings per share previously reported in 2008.
Upon applying this FSP in 2009, the Bancorp's basic and diluted
earnings per share for the years ended December 31, 2008, 2007
and 2006 will be adjusted as follows:
As Reported
Upon Adoption of
FSP EITF 03-6-1
2008
Earnings Per Share
Earnings Per Diluted Share
2007
Earnings Per Share
Earnings Per Diluted Share
2006
Earnings Per Share
Earnings Per Diluted Share
($3.94)
(3.94)
$2.00
1.99
$2.14
2.13
($3.91)
(3.91)
$1.99
1.98
$2.13
2.12
income taxes recognized
In July 2006, the FASB issued Interpretation (FIN) No. 48,
“Accounting for Uncertainty in Income Taxes - An Interpretation
of FASB Statement No. 109.” This Interpretation clarifies the
in
in
accounting for uncertainty
accordance with SFAS No. 109, “Accounting for Income Taxes.”
This Interpretation also prescribes a recognition threshold and
measurement attribute for the financial statement recognition and
measurement of a tax position taken or expected to be taken in a
tax return. This Interpretation also provides guidance on
derecognition, classification, interest and penalties, accounting in
interim periods, disclosure and transition. The evaluation of a tax
position in accordance with this Interpretation is a two-step
process. The first step is a recognition process to determine
whether it is more-likely-than-not that a tax position will be
sustained upon examination, including resolution of any related
NOTES TO CONSOLIDATED FINABCIAL STATEMENTS
appeals or litigation processes, based on the technical merits of
the position. The second step is a measurement process whereby
a tax position that meets the more-likely-than-not recognition
threshold is calculated to determine the amount of benefit to be
recognized in the financial statements. In May 2007, the FASB
issued FSP No. FIN 48-1, “Definition of Settlement in FASB FIN
No. 48.” FSP No. FIN 48-1 amends FIN No. 48 to provide
guidance on determining whether a tax position is “effectively
settled” for the purpose of recognizing previously unrecognized
tax benefits. The concept of “effectively settled” replaces the
concept of “ultimately settled” originally issued in FIN 48. The
tax position can be considered “effectively settled” upon
completion of an examination by the taxing authority if the entity
does not plan to appeal or litigate any aspect of the tax position
and it is remote that the taxing authority would examine any
aspect of the tax position. For effectively settled tax positions, the
full amount of the tax benefit can be recognized. The guidance in
FSP No. FIN 48-1 was effective upon initial adoption of FIN No.
48. FIN No. 48 was effective for fiscal years beginning after
December 15, 2006. Upon adoption of this Interpretation on
January 1, 2007, the Bancorp recognized an after-tax adjustment
to beginning retained earnings of $2 million representing the
cumulative effect of applying the provisions of this interpretation.
In July 2006, the FASB issued FASB Staff Position (FSP)
No. FAS 13-2, “Accounting for a Change or Projected Change in
the Timing of Cash Flows Relating to Income Taxes Generated
by a Leveraged Lease Transaction.” This FSP addresses the
accounting for a change or projected change in the timing of
lessor cash flows, but not the total net income, relating to income
taxes generated by a leveraged lease transaction. This FSP amends
SFAS No. 13, “Accounting for Leases,” and applies to all
transactions classified as leveraged leases. The timing of cash
flows relating to income taxes generated by a leveraged lease is an
important assumption that affects the periodic income recognized
by the lessor. Under this FSP, the projected timing of income tax
cash flows generated by a leveraged lease transaction are required
to be reviewed annually or more frequently
if events or
circumstances indicate that a change in timing has occurred or is
projected to occur. The expected timing of the income tax cash
flows generated by a leveraged lease is revised if during the lease
term the rate of return and the allocation of income would be
recalculated from the inception of the lease. In the year of
adoption, the cumulative effect of the change in the net
investment balance resulting from the recalculation will be
recognized as an adjustment to the beginning balance of retained
earnings. On an ongoing basis following the adoption, a change
in the net investment balance resulting from a recalculation will be
recognized as a gain or a loss in the period in which the
assumption changed and included in income from continuing
operations in the same line item where leveraged lease income is
recognized. These amounts would then be recognized back into
leases.
income over the remaining terms of the affected
Additionally, upon adoption, only tax positions that meet the
more-likely-than-not recognition threshold should be reflected in
the financial statements and all recognized tax positions in a
leveraged lease must be measured in accordance with FIN 48.
Upon adoption of this FSP on January 1, 2007, the Bancorp
recognized an after-tax adjustment to beginning retained earnings
of $96 million representing the cumulative effect of applying the
provisions of this FSP. Furthermore, due to recent court
decisions related to leveraged leases and uncertainty regarding the
involving certain of the
litigation
outcome of outstanding
Bancorp’s leveraged leases, the Bancorp recognized after-tax
charges relating to leveraged leases of $229 million and $3 million
in the second and third quarters of 2008, respectively. See Note
16 for additional information.
In September 2008, the FASB issued FSP No. FAS 133-1
and FIN 45-4, "Disclosures about Credit Derivatives and Certain
Guarantees - An Amendment of FASB Statement No. 133 and
FASB Interpretation No. 45; and Clarification of the Effective
Date of FASB Statement No. 161." This FSP applies to: (a) credit
derivatives within the scope of SFAS No. 133; (b) hybrid
instruments that have embedded credit derivatives; and (c)
guarantees within the scope of FIN No. 45, "Guarantor’s
Accounting and Disclosure Requirements
for Guarantees,
Including Indirect Guarantees of Indebtedness of Others." This
FSP amends Statement 133, to require disclosures by sellers of
credit derivatives, including credit derivatives embedded in a
hybrid instrument. This FSP also amends FIN 45, to require an
additional disclosure
the
payment/performance risk of a guarantee. In addition, this FSP
clarifies the FASB’s intent that the disclosures required by SFAS
No. 161, "Disclosures about Derivative Instruments and Hedging
Activities", should be provided for any reporting period (annual or
interim) beginning after November 15, 2008. The provisions of
this FSP that amend Statement 133 and FIN 45 are effective for
reporting periods (annual or interim) ending after November 15,
2008.
status of
current
about
the
In December 2008, the FASB issued FSP No. FAS 140-4 and
FIN 46(R)-8, "Disclosures about Transfers of Financial Assets
and Interests in Variable Interest Entities". The purpose of this
FSP is to improve disclosures by public entities and enterprises
until the pending amendments to SFAS No. 140, "Accounting for
Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities", and FIN 46(R), "Consolidation of Variable Interest
Entities", are finalized and approved by the FASB. The FSP
amends Statement 140 to require public entities to provide
additional disclosures about transfers of financial assets and
variable interests in qualifying special-purpose entities. It also
amends Interpretation 46(R) to require public enterprises to
provide additional disclosures about their involvement with
variable interest entities. This FSP is effective for reporting
periods ending after December 15, 2008. The disclosure
requirements of this FSP have been incorporated in the Notes to
the Consolidated Financial Statements.
In June 2007, the Emerging Issues Task Force (EITF) issued
EITF Issue No. 06-11, "Accounting for Income Tax Benefits of
Dividends on Share-Based Payment Awards." The Issue states
that a realized income tax benefit from dividends or dividend
equivalents that are charged to retained earnings and are paid to
employees for equity classified nonvested equity shares, nonvested
equity share units, and outstanding equity share options should be
recognized as an increase to additional paid-in capital. The
amount recognized in additional paid-in capital for the realized
income tax benefit from dividends on those awards should be
included in the pool of excess tax benefits available to absorb tax
deficiencies on share-based payment awards. This Issue is
effective for fiscal years beginning after December 15, 2007, and
interim periods within those fiscal years. The Bancorp has
prospectively applied this Issue to applicable dividends declared
on or after January 1, 2008. The Bancorp's adoption of this Issue
did not have a material impact on the Bancorp’s Consolidated
Financial Statements.
In June 2008, the Emerging Issues Task Force issued EITF
Issue No. 07-5, "Determining Whether an Instrument (or
Embedded Feature) Is Indexed to an Entity’s Own Stock." This
Issue provides guidance an entity should use to evaluate whether
an equity-linked financial instrument (or embedded feature) is
indexed to its own stock. This Issue is effective for financial
statements issued for fiscal years beginning after December 15,
2008, and interim periods within that period. Early adoption is
not permitted. The Bancorp’s adoption of this Issue on January 1,
2009 will not have a material
impact on the Bancorp’s
Consolidated Financial Statements.
In January 2009, the FASB issued FSP No. EITF 99-20-1,
"Amendments to the Impairment Guidance of EITF Issue No.
Fifth Third Bancorp 65
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
99-20," which applies to beneficial interests within the scope of
EITF Issue No. 99-20, “Recognition of Interest Income and
Impairment on Purchased Beneficial Interests and Beneficial
Interests That Continue to Be Held by a Transferor in Securitized
Financial Assets.” This FSP amends the impairment guidance in
Issue 99-20 to align with Statement 115 and other related
impairment guidance. The FSP is effective for interim and annual
reporting periods ending after December 15, 2008, and is to be
applied prospectively. Retrospective application to a prior interim
or annual reporting period is not permitted. The Bancorp's
adoption of this FSP on December 31, 2008 did not have a
the Bancorp's Consolidated Financial
material effect on
Statements.
acquisition strengthened the Bancorp’s presence in the Greater
Orlando and Tampa Bay markets and also expanded its footprint
into the Jacksonville and Augusta, Georgia markets.
Under the terms of the transaction, the Bancorp paid $259
million to R&G Financial and assumed $50 million of trust
preferred securities. Additionally, Fifth Third Financial paid
approximately $16 million to R-G Crown Real Estate, LLC to
acquire land leased by Crown for certain branches. The assets and
liabilities of Crown were recorded on the Bancorp’s Consolidated
Balance Sheets at their respective fair values as of the closing date.
The results of Crown’s operations were included in the Bancorp’s
Consolidated Statements of Income from the date of acquisition.
In addition, the Bancorp realized charges against its earnings for
Crown acquisition-related expenses of $7 million in 2007 and $1
in 2008. The acquisition-related expenses consisted
million
primarily of marketing, consulting, travel, and other costs
associated with system conversions.
The transaction resulted in total intangible assets of $287
million based upon the purchase price, the fair values of the
acquired assets and assumed liabilities and applicable purchase
accounting adjustments. Of this total intangibles amount, $19
million was allocated to core deposit intangibles and the remaining
$268 million was recorded as goodwill. The tax deductible
portion of goodwill associated with the transaction was $249
million, with the remaining $19 million non-deductible for tax
purposes.
The pro forma effect of the financial results of Crown
included in the results of operations subsequent to the date of
acquisition were immaterial to the Bancorp’s financial condition
and operating results for the periods presented.
Other
On October 31, 2008, banking regulators declared Bradenton,
Florida-based Freedom Bank insolvent and the FDIC was named
receiver. The FDIC approved the assumption of all deposits by
the Bancorp, which approximated $257 million. The FDIC
retained substantially all of Freedom Bank's loan portfolio for
later disposition. As part of the asset acquisition, the Bancorp
recorded a core deposit intangible of $3 million.
On May 2, 2008, the Bancorp completed its purchase of nine
branches located in Atlanta, Georgia from First Horizon National
Corporation (First Horizon). Under terms of the deal, the
Bancorp acquired the nine branches and assumed the related
deposits of $114 million. First Horizon retained all loans held at
the branches. As part of the asset acquisition, the Bancorp
recorded a core deposit intangible of $1 million.
2. BUSINESS COMBINATIONS AND ASSET ACQUISITIONS
First Charter
On June 6, 2008, the Bancorp acquired 100% of the outstanding
stock of First Charter, a full service financial
institution
headquartered
in Charlotte, North Carolina. First Charter
operated 57 branches in North Carolina and two in suburban
Atlanta, Georgia. The acquisition of First Charter expanded the
Bancorp's footprint into the Charlotte, North Carolina market and
strengthened the Bancorp's presence in Georgia.
Under the terms of the transaction, the Bancorp paid $31.00
per First Charter
share, or approximately $1.1 billion.
Consideration was paid in the form of approximately 70% Fifth
Third common stock and 30% cash. First Charter common stock
shareholders who received shares of Fifth Third common stock in
the merger received 1.7412 shares of Fifth Third common stock
for each share of First Charter common stock, resulting in the
issuance of 42.9 million shares of Fifth Third common stock. The
common stock issued to effect the transaction was valued at
$17.80 per share, the average closing price of the Bancorp’s
common stock on the five previous trading days ending on the
trading day immediately prior to the closing date.
The assets and liabilities of First Charter were recorded on
the Consolidated Balance Sheets at their respective fair values as
of the closing date. The results of First Charter's operations were
included in the Bancorp’s Consolidated Statements of Income
from the date of acquisition. In addition, the Bancorp realized
charges against its earnings for acquisition-related expenses of $17
million during 2008. The acquisition-related expenses consisted
primarily of consulting, marketing, travel and relocation, and other
costs associated with system conversions.
The transaction resulted in total intangible assets of $1.2
billion based upon the purchase price, the fair values of the
acquired assets and assumed liabilities and applicable purchase
accounting adjustments. Of this total intangibles amount, $56
million was allocated to core deposit intangibles, $9 million was
allocated to customer lists and $2 million was allocated to lease
intangibles. The remaining $1.1 billion of intangible assets was
recorded as goodwill, which is non-deductible for tax purposes.
The pro forma effect and the financial results of First Charter
included in the results of operations subsequent to the date of
acquisition were immaterial to the Bancorp’s financial condition
or the operating results for the periods presented.
R-G Crown
On November 2, 2007, the Bancorp acquired 100% of the
outstanding stock of R-G Crown Bank, FSB (Crown) from R&G
Financial Corporation (R&G Financial). Crown operated 30
in Augusta, Georgia. The
branches
in Florida and three
66 Fifth Third Bancorp
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
3. RESTRICTIONS ON CASH AND DIVIDENDS
The Federal Reserve Bank requires banks to maintain minimum
average reserve balances. The amount of the reserve requirement
was approximately $406 million and $301 million at December 31,
2008 and December 31, 2007, respectively.
Dividends paid by the Bancorp are subject to various federal
and state regulatory limitations. The dividends paid by the
Bancorp’s state chartered subsidiary banks are subject to state
regulations. Dividends that may be paid by the Bancorp’s national
charter subsidiary bank without the express approval of the Office
of the Comptroller of the Currency (OCC) are limited to that
bank’s retained net profits for the preceding two calendar years
plus retained net profits up to the date of any dividend declaration
in the current calendar year. Under these provisions, the
Bancorp’s state chartered and national subsidiary banks could
have declared additional dividends of $492 million and $1.9 billion
at December 31, 2008 and 2007, respectively, without obtaining
prior regulatory approval. The Bancorp’s nonbank subsidiaries
are also limited by certain federal and state statutory provisions
4. SECURITIES
Trading securities were $1.2 billion as of December 31, 2008
compared to $171 million at December 31, 2007. The increase in
trading securities was due to the Bancorp purchasing VRDNs
from the market during 2008. VRDNs classified as trading
securities totaled $1.1 billion at December 31, 2008. See Note 15
for further information on VRDNs. Unrealized gains and losses
on trading securities held at December 31, 2008 and 2007 were
immaterial to the Consolidated Financial Statements.
In 2008, 2007, and 2006, gross realized securities gains were
and regulations covering the amount of dividends that may be
paid in any given year. Based on retained earnings at December
31, 2008 and 2007, the Bancorp’s nonbank subsidiaries could have
declared additional dividends of $50 million and $100 million,
respectively, without obtaining prior regulatory approval.
On December 31, 2008, the Bancorp sold approximately $3.4
billion in senior preferred stock and related warrants to the U.S.
Treasury under the terms of the CPP. The terms include
restrictions on common stock dividends, which require the U.S.
Treasury’s consent to increase common stock dividends for a
period of three years from the date of investment unless the
preferred shares are redeemed in whole or the U.S. Treasury has
transferred all of the preferred shares to a third party. For the
Bancorp, approval from the U.S. Treasury will be required for
common stock dividends in excess of $0.15 per share of common
stock. In addition, no dividends can be declared or paid on the
Bancorp’s common stock unless all accrued and unpaid dividends
have been paid on the preferred shares.
$164 million, $28 million and $48 million, respectively, while gross
realized securities losses were $130 million, $1 million and $408
million, respectively.
At December 31, 2008 and 2007, securities with a fair value
of $9.2 billion and $8.8 billion, respectively, were pledged to
secure borrowings, public deposits, trust funds and for other
purposes as required or permitted by law. The following table
provides a breakdown of the available-for-sale and held-to-
maturity securities portfolio as of December 31:
($ in millions)
Available-for-sale and other:
U.S. Treasury and
Government agencies
U.S. Government sponsored
agencies
Obligations of states and
political subdivisions
Agency mortgage-backed
securities
Other bonds, notes and
debentures
Other securities(a)
Total
Held-to-maturity:
Amortized
Cost
Unrealized
Gains
Unrealized
Losses
Fair Value
Amortized
Cost
Unrealized
Gains
Unrealized
Losses
Fair Value
2008
2007
$186
1,651
323
8,529
613
1,248
$12,550
4
83
4
157
-
-
248
-
(4)
(1)
(5)
(43)
(17)
(70)
190
1,730
326
8,681
570
1,231
12,728
3
160
490
8,738
385
1,045
10,821
-
1
6
24
1
7
39
-
(1)
-
(153)
(10)
(19)
(183)
3
160
496
8,609
376
1,033
10,677
Obligations of states and
political subdivisions
Other debt securities
-
-
Total
-
(a) Other securities consist of FHLB and Federal Reserve Bank restricted stock holdings of $545 million and $252 million at December 31, 2008, respectively, and $523 million and $199 million
$355
5
$360
351
4
355
351
4
355
355
5
360
-
-
-
-
-
-
-
-
-
at December 31, 2007, respectively, that are carried at cost, certain mutual fund holdings and equity security holdings.
The amortized cost and approximate fair value of securities at December 31, 2008, by contractual maturity, are shown in the following
table. Actual maturities may differ from contractual maturities when there exists a right to call or prepay obligations with or without call or
prepayment penalties.
($ in millions)
Debt securities:
Under 1 year
1-5 years
5-10 years
Over 10 years
Other securities
Total
Available-for-Sale & Other
Amortized
Cost
Fair Value
Held-to-Maturity
Amortized
Cost
Fair Value
$263
750
2,013
8,276
1,248
$12,550
264
762
2,080
8,391
1,231
12,728
2
79
248
31
-
360
2
79
248
31
-
360
Fifth Third Bancorp 67
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table provides the fair value and gross unrealized loss, aggregated by investment category and length of time the individual
securities have been in a continuous unrealized loss position, as of December 31, 2008 and 2007:
Less than 12 months
12 months or more
Total
Fair Value
$1
367
5
480
184
37
$1,074
($ in millions)
2008
U.S. Treasury and Government agencies
U.S. Government sponsored agencies
Obligations of states and political subdivisions
Agency mortgage-backed securities
Other bonds, notes and debentures
Other securities
Total
2007
U.S. Treasury and Government agencies
U.S. Government sponsored agencies
Obligations of states and political subdivisions
Agency mortgage-backed securities
Other bonds, notes and debentures
Other securities
Total
The Bancorp’s management has evaluated the securities in an
unrealized loss position in the available-for-sale portfolio on the
basis of both the duration of the decline in value of the security
and the severity of that decline, and maintains the intent and ability
to hold these securities to the earlier of the recovery of the loss or
maturity.
$1
99
6
2,279
279
57
$2,721
At December 31, 2008 and 2007, 26% and four percent,
respectively, of unrealized losses in the available-for-sale securities
portfolio were represented by non-rated securities.
Unrealized
Losses
Fair Value
Unrealized
Losses
Fair Value
Unrealized
Losses
-
(4)
(1)
(2)
(23)
(17)
(47)
-
(1)
-
(25)
(9)
(7)
(42)
1
-
3
876
81
2
963
1
-
1
3,730
6
27
3,765
-
-
-
(3)
(20)
-
(23)
-
-
-
(128)
(1)
(12)
(141)
2
367
8
1,356
265
39
2,037
2
99
7
6,009
285
84
6,486
-
(4)
(1)
(5)
(43)
(17)
(70)
-
(1)
-
(153)
(10)
(19)
(183)
In 2008, the Bancorp recognized $104 million in OTTI
charges on certain securities. Trust preferred securities included in
other bonds, notes and debentures, which had an original par value
of $116 million, are now carried at $79 million, after an OTTI
charge of $37 million. Additionally, FHLMC and FNMA preferred
stock included in other securities had OTTI charges totaling $67
million in 2008 and are now carried at $1 million at December 31,
2008. These charges were recognized due to the severity of the
decline in the fair value of these securities during 2008.
5. LOANS AND LEASES AND ALLOWANCE FOR LOAN AND LEASE LOSSES
A summary of the total loans and leases classified by primary purpose as of December 31:
($ in millions)
Loans and leases held for sale:
Commercial loans
Commercial mortgage loans
Commercial constructions loans
Residential mortgage loans
Automobile loans
Other consumer loans and leases
Total loans and leases held for sale
Portfolio loans and leases (a):
Commercial loans
Commercial mortgage loans
Commercial construction loans
Commercial leases
Total commercial loans and leases
Residential mortgage loans
Home equity
Automobile loans
Credit card
Other consumer loans and leases
Total consumer loans and leases
Total portfolio loans and leases
(a) At December 31, 2008 and 2007, deposit overdrafts of $51 million and $78 million, respectively, were included in portfolio loans.
Total portfolio loans and leases were recorded net of unearned
income, which totaled $1.4 billion and $1.3 billion as of December
31, 2008 and 2007, respectively. Additionally, unamortized
premiums and discounts, deferred loan fees and costs, and fair
value adjustments (associated with acquired loans or loans
designated as fair value upon origination) were $421 million and
$18 million as of December 31, 2008 and 2007, respectively.
The Bancorp diversifies its loan and lease portfolio by
offering a variety of loan and lease products with various payment
terms and rate structures. Lending activities are concentrated
within those states that the Bancorp has banking centers and are
primarily located in the Midwest and Southeastern portion of the
United States. The Bancorp’s commercial loan portfolio consists
of lending to various industry types. Management periodically
68 Fifth Third Bancorp
2008
$23
229
221
906
-
73
$1,452
$29,197
12,502
5,114
3,666
50,479
9,385
12,752
8,594
1,811
1,122
33,664
$84,143
2007
1,266
105
-
893
1,982
83
4,329
24,813
11,862
5,561
3,737
45,973
10,540
11,874
9,201
1,591
1,074
34,280
80,253
reviews the performance of its loan and lease products to ensure
they are performing within acceptable interest rate and credit risk
levels and changes are made to underwriting policies and
procedures as needed. The Bancorp maintains an allowance to
absorb loan and lease losses inherent in the portfolio.
Transactions in the allowance for loan and lease losses for the years ended December 31:
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
($ in millions)
Balance at January 1
Losses charged off
Recoveries of losses previously charged off
Provision for loan and lease losses
2008
$937
(2,791)
81
4,560
$2,787
2007
771
(544)
82
628
937
2006
744
(408)
92
343
771
Balance at December 31
As stated in Note 1, larger commercial loans that exhibit probable or observed credit weaknesses are subject to individual review. The balance
of these impaired loans and related valuation allowance were as follows:
($ in millions)
Impaired loans with allowance
Impaired loans without allowance
Total impaired loans
Average impaired loans
2008
Loan
Balance
$1,222
270
$1,492
$822
Allowance
$534
-
$534
2007
Loan
Balance
Allowance
Loan
Balance
2006
Allowance
306
188
494
280
118
-
118
193
100
293
209
59
-
59
Cash basis interest income recognized on impaired loans during each of the years presented was immaterial to the Consolidated Financial
Statements.
The following table presents the Bancorp’s nonperforming and delinquent loans included in the Bancorp’s portfolio of loans and leases as of
December 31:
($ in millions)
Nonaccrual loans and leases
Restructured loans and leases (a)
Total nonperforming loans and leases
Repossessed personal property and other real estate owned
Total nonperforming assets (b)
Total 90 days past due loans and leases
(a) Represents loans modified as part of a troubled debt restructuring.
(b) Does not include $473 million of nonaccrual loans held for sale at December 31, 2008, which are held at market value and not included in the allowance for loan and lease losses.
2008
$1,696
574
2,270
230
$2,500
$662
2007
813
80
893
171
1,064
491
At December 31, 2008 and 2007, total nonperforming assets were
$3.0 billion and $1.1 billion, respectively, and total loans and leases
90 days past due were $662 million and $491 million, respectively.
As of December 31, 2008 the Bancorp had less than $1 million in
funding commitments to commercial borrowers whose loans were
classified as nonperforming.
As shown previously, the Bancorp engages in commercial
and consumer lease products primarily related to the financing of
commercial equipment and automobiles. The following is a
summary of the gross investment in lease financing at December
31:
($ in millions)
Direct financing leases
Leveraged leases
Total
The components of the investment in lease financing at December 31:
($ in millions)
Rentals receivable, net of principal and interest on nonrecourse debt
Estimated residual value of leased assets
Initial direct cost, net of amortization
Gross investment in lease financing
Unearned income
Net investment in lease financing
2008
$3,445
2,375
$5,820
2008
$4,415
1,381
24
5,820
(1,384)
$4,436
2007
3,407
2,452
5,859
2007
4,438
1,397
24
5,859
(1,325)
4,534
The Bancorp periodically reviews residual values associated with
its leasing portfolio. Declines in residual values that are deemed
to be other-than-temporary are recognized as a loss. The Bancorp
recognized $3 million in residual value write-downs related to
consumer automobile leases for the year ended December 31,
2008 while residual write downs were immaterial for the year
ended December 31, 2007. At December 31, 2008, the minimum
future lease payments receivable for each of the years 2009
through 2013 was $1.1 billion, $1.1 billion, $.9 billion, $.7 billion
and $.4 billion, respectively.
Fifth Third Bancorp 69
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
into interest income (nonaccretable difference). The remaining
amount representing the difference in the expected cash flows of
acquired loans and the initial investment in the acquired loans is
accreted into interest income over the remaining life of the loan or
pool of loans (accretable yield). A summary of activity is provided.
($ in millions)
Balance as of December 31, 2006
Additions
Accretion
Reclassifications from (to)
nonaccretable difference
Balance as of December 31, 2007
Additions
Accretion
Reclassifications from (to)
nonaccretable difference
Accretable Yield
$-
8
(2)
-
$6
24
(15)
13
Balance as of December 31, 2008
$28
The following table reflects loans acquired, for which it was
probable at acquisition that all contractually required payments
would not be collected as of December 31:
($ in millions)
Contractually required payments receivable at acquisition:
2008
2007
Commercial
Consumer
Total
Cash flows expected to be collected at acquisition
Fair value of acquired loans at acquisition
$182
34
$216
$90
66
99
136
235
113
105
Estimated Useful Life
10 to 50 yrs.
3 to 20 yrs.
3 to 40 yrs.
2008
$743
1,518
1,317
378
120
(1,582)
$2,494
2007
620
1,383
1,210
320
113
(1,423)
2,223
The Bancorp’s subsidiaries have entered into a number of
noncancelable lease agreements with respect to bank premises and
equipment. The minimum annual rental commitments under
noncancelable
land and buildings at
December 31, 2008, exclusive of income taxes and other charges,
are $90 million in 2009, $83 million in 2010, $78 million in 2011
$74 million in 2012, $70 million in 2013 and $543 million in 2014
and subsequent years.
lease agreements for
6. LOANS ACQUIRED IN A TRANSFER
In 2008 and 2007, the Bancorp acquired certain loans for which
there was evidence of deterioration of credit quality since
origination and for which it was probable, at acquisition, that all
contractually required payments would not be collected. These
loans were evaluated either individually or segregated into pools
based on common risk characteristics and accounted for under
Statement of Position 03-3, “Accounting for Certain Loans or
Debt Securities Acquired in a Transfer” (SOP 03-3). SOP 03-3
requires acquired loans within its scope to be recorded at their
initial fair value and prohibits carrying over valuation allowances
when applying purchase accounting. Loans carried at fair value,
mortgage loans held for sale and loans under revolving credit
agreements are excluded from the scope of SOP 03-3. During
2008, the Bancorp recorded provision expense for
loans
accounted for under SOP 03-3 of $35 million in the Consolidated
Statements of Income. As of December 31, 2008 the Bancorp
maintained an allowance for loan and lease losses of $6 million on
loans accounted for under SOP 03-3.
The following table reflects the outstanding balance of all
contractually required payments and carrying amounts of those
loans accounted for under SOP 03-3 at December 31:
($ in millions)
Commercial
Consumer
Outstanding balance
Carrying amount
2008
$224
87
$311
$106
2007
94
135
229
101
At the acquisition date, the Bancorp determines the excess of the
loan’s contractually required payments over all cash flows
expected to be collected as an amount that should not be accreted
7. BANK PREMISES AND EQUIPMENT
A summary of bank premises and equipment at December 31:
($ in millions)
Land and improvements
Buildings
Equipment
Leasehold improvements
Construction in progress
Accumulated depreciation and amortization
Total
Depreciation and amortization expense related to bank premises
and equipment was $218 million in 2008, $205 million in 2007 and
$187 million in 2006.
Occupancy expense for cancelable and noncancelable leases
was $98 million for 2008, $85 million for 2007 and $78 million for
2006. Occupancy expense has been reduced by rental income
from leased premises of $13 million in 2008 and $12 million in
2007 and 2006.
70 Fifth Third Bancorp
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
8. GOODWILL
Changes in the net carrying amount of goodwill by reporting segment for the years ended December 31, 2008 and 2007 were as follows:
($ in millions)
Balance as of December 31, 2006
Acquisition activity
Balance as of December 31, 2007
Acquisition activity
Impairment
Balance as of December 31, 2008
Commercial
Banking
Branch
Banking
Consumer
Lending
Investment
Advisors
$871
124
995
369
(750)
$614
797
153
950
707
-
1,657
182
-
182
33
(215)
-
138
-
138
10
-
148
Processing
Solutions
205
-
205
-
-
205
Total
2,193
277
2,470
1,119
(965)
2,624
Business combinations entered into by the Bancorp typically
include the acquisition of goodwill. Acquisition activity includes
acquisitions in the respective period in addition to purchase
accounting adjustments related to previous acquisitions. During
the second quarter of 2008, the Bancorp acquired First Charter,
which resulted in the recognition of $1.1 billion of goodwill.
During 2007, the Bancorp acquired Crown, which resulted in the
recognition of $268 million in goodwill; of this amount $249
million was deductible for tax purposes.
At September 30, 2008, the Bancorp completed its annual
goodwill impairment test and determined that no impairment
existed. As prescribed in SFAS No. 142, goodwill should be tested
for impairment between annual tests if an event occurs or
circumstances change that would more-likely-than-not reduce the
fair value of a reporting unit below its carrying amount. During
the fourth quarter of 2008, the Bancorp experienced a sustained,
its stock price, which was primarily
significant decline
in
9. INTANGIBLE ASSETS
Intangible assets consist of servicing rights, core deposit
intangibles, customer
lists, non-compete agreements and
cardholder relationships. Intangible assets, excluding servicing
rights, are amortized on either a straight-line or an accelerated
basis over their estimated useful lives and have an estimated
weighted-average life at December 31, 2008 of 2.8 years. The
($ in millions)
As of December 31, 2008:
Mortgage servicing rights
Other consumer and commercial servicing rights
Core deposit intangibles
Other
Total intangible assets
As of December 31, 2007:
Mortgage servicing rights
Other consumer and commercial servicing rights
Core deposit intangibles
Other
Total intangible assets
attributable to the continuing economic slowdown and increased
market concern surrounding financial services companies’ credit
risks and capital positions. The Bancorp determined these events
resulted in certain of its reporting units’ fair values being more-
likely-than-not reduced below their carrying amounts. Therefore,
the Bancorp performed a goodwill impairment test as of December
31, 2008.
Based on the results of the Step 1 test as defined in SFAS No.
142, the Commercial Banking, Consumer Lending, and Branch
Banking reporting units’ carrying amounts, including goodwill,
exceeded their related fair values. Upon completion of the Step 2
test, the Bancorp determined that the Commercial Banking and
Consumer Lending reporting units’ goodwill carrying amounts
exceeded their associated implied fair values by $750 million and
$215 million, respectively. The resulting $965 million goodwill
impairment charge was recorded in the fourth quarter of 2008.
intangible assets for possible
Bancorp reviews
impairment
whenever events or changes in circumstances indicate that
carrying amounts may not be recoverable. The details of the
Bancorp’s intangible assets are shown in the following table. For
further information on servicing rights, see Note 10.
Gross Carrying
Amount
Accumulated
Amortization
Valuation
Allowance
Net Carrying
Amount
$1,614
13
487
61
$2,175
$1,417
24
430
44
$1,915
(862)
(10)
(346)
(34)
(1,252)
(755)
(19)
(302)
(25)
(1,101)
(256)
-
-
-
(256)
(49)
-
-
-
(49)
496
3
141
27
667
613
5
128
19
765
As of December 31, 2008, all of the Bancorp’s intangible assets were being amortized. Amortization expense recognized on intangible
assets, including servicing rights, for 2008 and 2007 was $164 million and $135 million, respectively. Estimated amortization expense, including
servicing rights, for the years ending December 31, 2009 through 2013 is as follows:
($ in millions)
2009
2010
2011
2012
2013
$217
165
115
86
66
Fifth Third Bancorp 71
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. SALES OF RECEIVABLES AND SERVICING RIGHTS
Residential Mortgage Loan Sales
The Bancorp sold fixed and adjustable rate residential mortgage
loans during 2008, 2007 and 2006. In those sales, the Bancorp
obtained servicing responsibilities and the investors have no
recourse to the Bancorp’s other assets for failure of debtors to pay
when due. The Bancorp receives annual servicing fees based on a
percentage of the outstanding balance. The Bancorp identifies
classes of servicing assets based on financial asset type and interest
rates. Initial carrying values of servicing rights recognized during
2008 and 2007 were $196 million and $205 million, respectively.
For the years ended December 31, 2008, 2007 and 2006, the
Bancorp recognized pretax gains of $260 million, $67 million and
$68 million, respectively, on the sales of $11.5 billion, $10.1 billion
and $7.1 billion, respectively, of residential mortgage loans.
Additionally, the Bancorp recognized $164 million, $145 million
and $121 million in servicing fees on residential mortgages for the
years ended December 31, 2008, 2007 and 2006, respectively. The
gains on sales of residential mortgages and servicing fees related to
residential mortgages are included in mortgage banking net revenue
in the Consolidated Statements of Income.
The Bancorp previously sold certain residential mortgage
loans in the secondary market with recourse. In the event of any
customer default, pursuant to the credit recourse provided, the
Bancorp is required to reimburse the third party. The maximum
amount of credit risk in the event of nonperformance by the
underlying borrowers is equivalent to the total outstanding balance.
In the event of nonperformance, the Bancorp has rights to the
underlying collateral value securing the loan. At December 31,
2008 and 2007, the outstanding balances on these loans sold with
recourse were approximately $1.3 billion and $1.5 billion,
respectively, and the delinquency rates were approximately 6.40%
and 3.03%, respectively. At December 31, 2008 and 2007, the
Bancorp maintained an estimated credit loss reserve on these loans
sold with recourse of approximately $20 million and $17 million,
respectively, recorded in other liabilities on the Consolidated
Balance Sheets. To determine the credit loss reserve, the Bancorp
used an approach that is consistent with its overall approach in
estimating credit losses for various categories of residential
mortgage loans held in its loan portfolio.
Automobile Loan Securitizations
During 2008, the Bancorp recognized pretax gains of $15 million
on the sale of $2.7 billion of automobile loans in three separate
transactions. Each transaction isolated the related loans through
the use of a securitization trust or a conduit, formed as QSPEs, to
facilitate the securitization process in accordance with SFAS No.
140. The QSPEs issue asset-backed securities with varying levels of
credit subordination and payment priority. The investors in these
securities have no recourse to the Bancorp’s other assets for failure
of debtors to pay when due. During 2008, the Bancorp did not
repurchase any previously transferred automobile loans from the
QSPEs.
In each of these sales, the Bancorp obtained servicing
responsibility, but no servicing asset or liability was recorded as the
market based servicing fee was considered adequate compensation.
The Bancorp recognized $9 million of servicing fees on these
automobile loans during 2008, which is included in mortgage
banking net revenue in the Consolidated Statements of Income.
included
As of December 31, 2008, the Bancorp held retained interests
in the QSPEs in the form of asset-backed securities totaling $51
million and residual interests totaling $124 million. These retained
interests are
in available-for-sale securities on the
Consolidated Balance Sheets. During 2008, the Bancorp received
cash flows of $3 million from the asset-backed securities and $37
million from the residual interests. The asset-backed securities are
measured at fair value using quoted market prices. The residual
interests are measured at fair value based on the present value of
72 Fifth Third Bancorp
future expected cash flows using management’s best estimates for
the key assumptions, which are further discussed below.
Commercial Loan Sales to a QSPE
Through December 31, 2008, 2007 and 2006, the Bancorp had
transferred, subject to credit recourse, certain primarily floating-
rate, short-term,
loans to an
unconsolidated QSPE that is wholly owned by an independent
third-party. The transfer of loans to the QSPE was accounted for
as a sale in accordance with SFAS No. 140. The QSPE issues
commercial paper and uses the proceeds to fund the acquisition of
commercial loans transferred to it by the Bancorp.
investment grade commercial
The Bancorp transferred the loans for par at origination,
therefore, no gains or losses were recognized on the transfers to
the QSPE for the years ended 2008, 2007 and 2006. Generally, the
loans transferred provide a lower yield due to their investment
grade nature, and therefore transferring these loans to the QSPE
allows the Bancorp to reduce its interest rate exposure to these
loan assets while maintaining the customer
lower yielding
relationships. Under current accounting provisions, QSPEs are
exempt from consolidation and, therefore, not included in the
Bancorp’s Consolidated Financial Statements. The outstanding
balance of these loans at December 31, 2008 and 2007 was $1.9
billion and $3.0 billion, respectively. At December 31, 2008 and
2007, the value of the servicing asset related to these sales was
immaterial to the Bancorp's Consolidated Financial Statements. As
of December 31, 2008, the loans transferred had a weighted
average life of 2.2 years. These loans may be transferred back to
the Bancorp upon the occurrence of certain specified events.
These events include borrower default on the loans transferred,
bankruptcy preferences initiated against underlying borrowers,
ineligible loans transferred by the Bancorp to the QSPE, and the
inability of the QSPE to issue commercial paper. The maximum
amount of credit risk in the event of nonperformance by the
underlying borrowers is approximately equivalent to the total
outstanding balance. During the years ended December 31, 2008,
2007 and 2006, the QSPE did not transfer any loans back to the
Bancorp as a result of a credit event.
The Bancorp monitors the credit risk associated with the
underlying borrowers through the same risk grading system
currently utilized for establishing loss reserves in its loan and lease
portfolio. Under this risk rating system as of December 31, 2008,
approximately $1.8 billion of the loans in the QSPE were classified
average or better; approximately $77 million were classified as
watch-list or special mention; and approximately $76 million were
classified as substandard. At December 31, 2008 and 2007, the
Bancorp’s loss reserve related to the credit enhancement provided
to the QSPE was $37 million and $18 million, respectively, and was
recorded in other liabilities in the Consolidated Balance Sheets. To
determine the credit loss reserve, the Bancorp used an approach
that is consistent with its overall approach in estimating credit
losses for various categories of commercial loans held in its loan
portfolio.
For the year ended December 31, 2008, the Bancorp collected
$334 million in net cash proceeds from loan transfers and $13
million in servicing fees from the QSPE. For the year ended
December 31, 2007, the Bancorp collected $1.1 billion in net cash
proceeds from loan transfers and $30 million in servicing fees from
the QSPE. For the year ended December 31, 2006, the Bancorp
collected $1.6 billion in net cash proceeds from loan transfers and
$30 million in servicing fees from the QSPE.
The ability of the QSPE to issue commercial paper is a
function of general market conditions and the credit rating of the
liquidity provider. In the event the QSPE is unable to issue
commercial paper, the Bancorp has agreed to provide liquidity
support to the QSPE in the form of purchases of commercial
paper, a line of credit to the QSPE and the repurchase of assets
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
from the QSPE. As of December 31, 2008 and 2007, the liquidity
asset purchase agreement was $2.8 billion and $5.0 billion,
respectively. During 2008, dislocation in the short-term funding
market caused the QSPE difficulty in obtaining sufficient funding
through the issuance of commercial paper. As a result, the
Bancorp provided liquidity support to the QSPE during 2008
through purchases of commercial paper, a line of credit to the
QSPE, and the repurchase of assets from the QSPE under the
liquidity asset purchase agreement. As of December 31, 2008, the
Bancorp held approximately $143 million of asset-backed
commercial paper issued by the QSPE, representing 7% of the
total commercial paper issued by the QSPE.
During 2008, the Bancorp repurchased $686 million of
commercial loans at par from the QSPE under the liquidity asset
purchase agreement. Fair value adjustment charges of $3 million
were recorded on these loans upon repurchase. As of December
31, 2008, there were no outstanding balances on the line of credit
from the Bancorp to the QSPE.
Servicing Assets and Residual Interests
Refer to Note 1 for the accounting policies for measuring interests
in transferred financial assets that continue to be held by the
Bancorp. The key economic assumptions used in measuring the
initial carrying values of the mortgage servicing assets and
automobile residual interests that continue to be held by the
Bancorp were as follows:
2008
2007
Weighted-
Average
Life
(in years)
Rate
Prepayment
Speed
Assumption
Discount
Rate
Weighted-
Average
Default
Rate
Weighted-
Average
Life
(in years)
Prepayment
Speed
Assumption
Discount
Rate
Weighted-
Average
Default
Rate
Residential mortgage loans:
Servicing assets
Servicing assets
Automobile loans:
Residual interests
Fixed
Adjustable
Fixed
5.9
2.7
1.8
19.2%
30.8
22.9
9.7%
14.5
8.0
N/A
N/A
1.5%
6.4
3.4
N/A
12.9%
29.4
9.6%
12.9
N/A
N/A
N/A
N/A
N/A
Based on historical credit experience, expected credit losses for
residential mortgage loan servicing assets have been deemed
immaterial, as the Bancorp sold the majority of the underlying
loans without recourse. At December 31, 2008 and 2007, the
Bancorp serviced $40.4 billion and $34.5 billion of residential
mortgage loans for other investors.
The value of interests that continue to be held by the
Bancorp is subject to credit, prepayment and interest rate risks on
the sold financial assets. At December 31, 2008, the sensitivity of
a decline in the current fair value of residual cash flows to
immediate 10% and 20% adverse changes in those assumptions
are as follows:
Weighted-
Average
Life (in
years)
Fair
Value
Prepayment Speed
Assumption
Impact of Adverse
Change on Fair
Value
10%
20%
Residual Servicing
Cash Flows
Impact of Adverse
Change on Fair
Value
Weighted-Average
Default
Impact of Adverse
Change on Fair
Value
10%
20%
Rate
10%
20%
Discount
Rate
Rate
Rate
4.1
2.8
$458
38
19.2%
31.9
Fixed
Adjustable
($ in millions)
Residential mortgage loans:
Servicing assets
Servicing assets
Automobile loans:
Residual interest
These sensitivities are hypothetical and should be used with
caution, as changes in fair value based on a 10% variation in
assumptions
the
relationship of the change in assumption to the change in fair
value may not be linear. Also, in the previous table, the effect of a
variation in a particular assumption on the fair value of the
interests that continue to be held by the transferor is calculated
typically cannot be extrapolated because
Fixed
124
25.0
2.0
$30
3
$58
5
10.0 %
15.0
$14
1
$27
3
- %
-
$-
-
$-
-
3
5
3
3
1.8
11.4
6
without changing any other assumption; in reality, changes in one
factor may result in changes in another. For example, increases in
market interest rates may result in lower prepayments and
increased credit losses, which might magnify or counteract the
sensitivities. The following table reflects changes in the servicing
asset related to residential mortgage loans for the years ended
December 31:
6
($ in millions)
Carrying amount as of the beginning of period
Servicing obligations that result from transfer of residential mortgage loans
Acquisitions
Amortization
Carrying amount before valuation allowance
Valuation allowance for servicing assets:
Beginning balance
Servicing valuation impairment
Ending balance
Carrying amount as of the end of the period
Temporary impairment or impairment recovery, effected through
a change in the MSR valuation allowance, is reported as a
component of mortgage banking net revenue in the Consolidated
Statements of Income. The Bancorp maintains a non-qualifying
hedging strategy to manage a portion of the risk associated with
changes in value of the MSR portfolio. This strategy includes the
purchase of free-standing derivatives (principal-only swaps,
swaptions and interest rate swaps) and various available-for-sale
2008
$662
196
1
(107)
$752
($49)
(207)
(256)
$496
2007
546
207
-
(91)
662
(27)
(22)
(49)
613
securities (primarily principal-only strips). The interest income,
mark-to-market adjustments and gain or loss on sales activities
associated with these portfolios are expected to economically
hedge a portion of the change in value of the MSR portfolio
caused by
fluctuating discount rates, earnings rates and
prepayment speeds.
During 2008, the Bancorp recognized a net gain of $120
million, classified as securities gains in noninterest income, related
Fifth Third Bancorp 73
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
to sales of available-for-sale securities purchased to economically
hedge the MSR portfolio and a net gain of $89 million, classified
as mortgage banking net revenue in noninterest income, related to
changes in fair value and settlement of free-standing derivatives
purchased to economically hedge the MSR portfolio. During
2007, the Bancorp recognized a net gain of $6 million, classified as
securities gains in noninterest income, related to sales of available-
for-sale securities purchased to economically hedge the MSR
portfolio and a net gain of $23 million, classified as mortgage
banking net revenue in noninterest income, related to changes in
fair value and settlement of free-standing derivatives purchased to
economically hedge the MSR portfolio. As of December 31, 2008
and 2007, other assets
free-standing derivative
included
instruments related to the MSR portfolio with a fair value of $218
million and $70 million, respectively, and other liabilities included
free-standing derivative instruments with a fair value of $77
million and $16 million, respectively. The outstanding notional
amounts on the free-standing derivative instruments related to the
MSR portfolio totaled $8.5 billion and $4.3 billion as of December
31, 2008 and 2007, respectively. As of December 31, 2008 and
2007, the available-for-sale securities portfolio included $1.1
billion and $205 million, respectively, of securities related to the
non-qualifying hedging strategy.
The fair value of the servicing asset is based on the present
value of expected future cash flows. The following table displays
the beginning and ending fair value for the years ended December
31, 2008 and 2007:
($ in millions)
Fixed rate residential mortgage loans:
Fair value at beginning of period
Fair value at end of period
Adjustable rate residential mortgage loans:
Fair value at beginning of period
Fair value at end of period
2008
$565
458
50
38
2007
483
565
45
50
The following table provides a summary of the total loans and leases managed by the Bancorp, including loans securitized and loans in the
unconsolidated QSPE for the years ended December 31:
Balance
2008
$31,163
12,952
5,477
3,666
9,946
13,025
9,183
3,006
$88,418
2007
29,052
11,967
5,561
3,737
11,454
12,162
11,183
2,749
87,865
Balance of Loans 90 Days or
More Past Due
2008
76
136
74
4
198
98
22
57
665
2007
43
73
67
5
187
74
13
32
494
Net Credit
Losses
2008
649
613
749
(1)
242
207
141
118
2,718
2007
109
44
29
-
43
99
86
54
464
($ in millions)
Commercial loans
Commercial mortgage
Commercial construction loans
Commercial leases
Residential mortgage loans
Home equity loans
Automobile loans
Other consumer loans and leases
Total loans and leases managed and securitized (a)
Less:
Automobile loans securitized
Home equity loans securitized
Residential mortgage loans securitized
Commercial loans sold to unconsolidated QSPE
Loans held for sale
Total portfolio loans and leases
(a) Excluding securitized assets that the Bancorp continues to service, but with which it has no other continuing involvement.
$589
273
18
1,943
1,452
$84,143
-
289
21
2,973
4,329
80,253
74 Fifth Third Bancorp
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
11. DERIVATIVES
The Bancorp maintains an overall risk management strategy that
incorporates the use of derivative instruments to reduce certain
risks related to interest rate, prepayment and foreign currency
volatility. Additionally, the Bancorp holds derivative instruments
for the benefit of its commercial customers. The Bancorp does
not enter into derivative instruments for speculative purposes.
The Bancorp’s
interest rate risk management strategy
involves modifying the repricing characteristics of certain financial
instruments so that changes in interest rates do not adversely
affect the Bancorp’s net
interest margin and cash flows.
Derivative instruments that the Bancorp may use as part of its
interest rate risk management strategy include interest rate swaps,
interest rate floors, interest rate caps, forward contracts, options
and swaptions. Interest rate swap contracts are exchanges of
interest payments, such as fixed-rate payments for floating-rate
payments, based on a common notional amount and maturity
date. Interest rate floors protect against declining rates, while
interest rate caps protect against rising interest rates. Forward
contracts are contracts in which the buyer agrees to purchase, and
the seller agrees to make delivery of, a specific financial
instrument at a predetermined price or yield. Options provide the
purchaser with the right, but not the obligation, to purchase or sell
a contracted item during a specified period at an agreed upon
price. Swaptions are financial instruments granting the owner the
right, but not the obligation, to enter into or cancel a swap.
Prepayment volatility arises mostly from changes in fair value
of the largely fixed-rate MSR portfolio, mortgage loans and
mortgage-backed securities. The Bancorp may enter into various
free-standing derivatives (principal-only swaps, swaptions, floors,
options and
to economically hedge
prepayment volatility. Principal-only swaps are total return swaps
based on changes in the value of the underlying mortgage
principal-only trust.
interest rate swaps)
Foreign currency volatility occurs as the Bancorp enters into
certain loans denominated in foreign currencies. Derivative
instruments that the Bancorp may use to economically hedge
these foreign denominated loans include foreign exchange swaps
and forward contracts.
The Bancorp also enters into derivative contracts (including
foreign exchange contracts, commodity contracts and interest rate
swaps, floors and caps) for the benefit of commercial customers.
The Bancorp may economically hedge significant exposures
into
related to these free-standing derivatives by entering
reputable
offsetting
third-party contracts with approved,
counterparties with substantially matching terms and currencies.
Credit risk arises from the possible inability of counterparties to
meet the terms of their contracts. The Bancorp’s exposure is
limited to the replacement value of the contracts rather than the
notional, principal or contract amounts. The Bancorp minimizes
the credit risk through credit approvals, limits, counterparty
collateral and monitoring procedures. During 2008, credit
downgrades to certain counterparties of customer accommodation
derivative contracts negatively impacted their fair value by
approximately $31 million.
The Bancorp holds certain derivative instruments that qualify
for hedge accounting treatment under SFAS No. 133 and are
designated as fair value hedges or cash flow hedges. Derivative
instruments that do not qualify for hedge accounting treatment
under SFAS No. 133, or for which hedge accounting is not
established, are held as free-standing derivatives and provide the
Bancorp an economic hedge. All customer accommodation
derivatives are held as free-standing derivatives.
interest rate swaps
Fair Value Hedges
The Bancorp may enter into interest rate swaps to convert its
fixed-rate, long-term debt or time deposits to floating-rate.
Decisions to convert fixed-rate debt or time deposits to floating
are made primarily through consideration of the asset/liability mix
of the Bancorp, the desired asset/liability sensitivity and interest
rate levels. For the years ended December 31, 2008 and 2007,
certain interest rate swaps met the criteria required to qualify for
the shortcut method of accounting. Based on this shortcut
method of accounting treatment, no ineffectiveness is assumed.
For
the shortcut
requirements, an assessment of hedge effectiveness was
performed and such swaps were accounted for using the “long-
haul” method. The long-haul method requires a quarterly
assessment of hedge effectiveness and measurement of
ineffectiveness. For interest rate swaps accounted for as a fair
value hedge using the long-haul method, ineffectiveness is the
difference between the changes in the fair value of the interest rate
swap and changes in fair value of the long-term debt attributable
to the risk being hedged. The ineffectiveness on interest rate
swaps hedging long-term debt or time deposits is reported within
interest expense in the Consolidated Statements of Income.
that do not meet
The following table reflects the change in fair value for
interest rate contracts and the related hedged items included in the
Consolidated Statements of Income.
For the year ended December 31, ($ in millions)
Interest rate contracts:
Consolidated Statements of
Income Caption
Change in fair value on interest rate swaps hedging long-term debt
Change in fair value on long-term debt - hedged item
Change in fair value on interest rate swaps hedging time deposits
Change in fair value on time deposits - hedged item
Interest on long-term debt
Interest on long-term debt
Interest on deposits
Interest on deposits
The following table reflects fair value hedges included in the Consolidated Balance Sheets as of December 31:
2008
2007
($776)
765
(19)
19
105
(109)
-
-
($ in millions)
Included in other assets:
Interest rate swaps related to debt
Forward contracts related to mortgage loans held for sale
Total included in other assets
Included in other liabilities:
Interest rate swaps related to debt
Interest rate swaps related to time deposits
Forward contracts related to mortgage loans held for sale
Total included in other liabilities
2008
Notional
Amount
Fair Value
2007
Notional
Amount
Fair Value
$5,430
-
$ -
1,575
-
$823
-
$823
$ -
19
-
$19
3,000
183
775
-
511
67
1
68
21
-
4
25
Fifth Third Bancorp 75
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Bancorp previously entered into forward contracts that met
the criteria for fair value hedge accounting to hedge its residential
mortgage loans held for sale. Upon adoption of SFAS No. 159 on
January 1, 2008 and the Bancorp’s election to carry residential
mortgage loans held for sale at fair value, all new forward
contracts held to hedge its residential mortgage loans held for sale
were held as free-standing derivative instruments. For the year
ended December 31, 2007, the ineffectiveness of the hedging
relationships related to residential mortgage loans held for sale
was immaterial to the Bancorp’s Consolidated Statements of
Income.
During 2006, the Bancorp terminated interest rate swaps
designated as fair value hedges and, in accordance with SFAS No.
133, an amount equal to the cumulative fair value adjustment to
the hedged items at the date of termination will be amortized as
an adjustment to interest expense over the remaining term of the
long-term debt. For the years ended December 31, 2008 and
2007, $6 million and $11 million in net deferred losses, net of tax,
on the terminated fair value hedges were amortized into interest
expense, respectively.
Cash Flow Hedges
The Bancorp may enter into interest rate swaps to convert
floating-rate assets and liabilities to fixed rates or to hedge certain
forecasted transactions. The assets or liabilities are typically
grouped and share the same risk exposure for which they are
being hedged. The Bancorp may also enter into interest rate caps
and floors to limit cash flow variability of floating rate assets and
liabilities. As of December 31, 2008, all hedges designated as cash
flow hedges are assessed for effectiveness using regression
analysis. Ineffectiveness is generally measured as the amount by
which the cumulative change in the fair value of the hedging
instrument exceeds the present value of the cumulative change in
the hedged item’s expected cash flows. Ineffectiveness is reported
within other noninterest income in the Consolidated Statements
of Income.
are
and
from
reclassified
The effective portion of the gains or losses on derivative
contracts are reported within accumulated other comprehensive
income
accumulated other
comprehensive income to current period earnings when the
forecasted transaction affects earnings. Reclassified gains and
losses on interest rate floors related to commercial loans and
interest rate caps related to debt are recorded within interest
income and interest expense, respectively. As of December 31,
2008, $88 million of net deferred gains on cash flow hedges are
recorded in accumulated other comprehensive income. As of
December 31, 2008, $47 million in net deferred gains, net of tax,
recorded
income are
expected to be reclassified into earnings during the next twelve
months.
in accumulated other comprehensive
income
relating
to cash
The following table presents the net gains (losses) recorded
in the Consolidated Statements of Income and accumulated other
comprehensive
flow derivative
instruments. Included in the ineffectiveness for the year ended
December 31, 2007 are certain terminated interest rate swaps
previously designated as cash flow hedges. In conjunction with
this termination, the Bancorp reclassified $22 million of losses
into earnings as it was determined that the original forecasted
transaction was no longer probable of occurring by the end of the
originally specified time period or within the additional period of
time as defined in SFAS No. 133.
For the year ended December 31:
($ in millions)
Interest rate contracts
Amount of gain (loss)
recognized in OCI
Amount of gain (loss)
reclassified from OCI into net
interest income
Amount of ineffectiveness
recognized in other
noninterest income
2008
$100
2007
42
2006
-
2008
3
2007
1
2006
(20)
2008
1
2007
(21)
2006
-
The following table reflects cash flow hedges included in the Consolidated Balance Sheets as of December 31:
($ in millions)
Included in other assets:
Interest rate floors related to commercial loans
Interest rate caps related to debt
Total included in other assets
Included in other liabilities:
Interest rate swaps related to commercial loans
Total included in other liabilities
2008
Notional
Amount
Fair Value
2007
Notional
Amount
Fair Value
$1,500
1,750
$3,000
$216
1
$217
$22
$22
1,500
1,750
1,000
107
11
118
11
11
certain
foreign denominated
Free-Standing Derivative Instruments – Risk Management
The Bancorp enters into foreign exchange derivative contracts to
economically hedge
loans.
Derivative instruments that the Bancorp may use to economically
hedge these foreign denominated loans include foreign exchange
swaps and forward contracts. The Bancorp does not designate
these instruments against the foreign denominated loans, and
therefore, does not obtain hedge accounting
treatment.
Revaluation gains and losses on such foreign currency derivative
contracts are recorded within other noninterest income in the
Consolidated Statements of Income, as are revaluation gains and
losses on foreign denominated loans.
As part of its overall risk management strategy relative to its
mortgage banking activity, the Bancorp may enter into various
free-standing derivatives (principal-only swaps, swaptions, floors,
options and interest rate swaps) to economically hedge changes in
fair value of its largely fixed-rate MSR portfolio. Principal-only
swaps hedge the mortgage-LIBOR spread because these swaps
appreciate in value as a result of tightening spreads. Principal-only
swaps also provide prepayment protection by increasing in value
76 Fifth Third Bancorp
when prepayment speeds increase, as opposed to MSRs that lose
value in a faster prepayment environment. Receive fixed/pay
floating interest rate swaps and swaptions increase in value when
interest rates do not increase as quickly as expected. The Bancorp
enters into forward contracts to economically hedge the change in
fair value of certain residential mortgage loans held for sale due to
changes in interest rates. The Bancorp may also enter into
forward swaps to economically hedge the change in fair value of
certain commercial mortgage loans held for sale due to changes in
interest rates.
issued on
residential mortgage loan commitments that will be held for resale
are also considered free-standing derivative instruments and the
interest rate exposure on these commitments is economically
hedged primarily with forward contracts. Revaluation gains and
losses from free-standing derivatives related to mortgage banking
activity are recorded as a component of mortgage banking net
revenue in the Consolidated Statements of Income.
lock commitments
Interest rate
Additionally, the Bancorp occasionally may enter into free-
standing derivative instruments (options, swaptions and interest
rate swaps) in order to minimize significant fluctuations in
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
earnings and cash flows caused by interest rate volatility. The
gains and losses on these derivative contracts are recorded within
other noninterest income in the Consolidated Statements of
Income.
The net gains
(losses) recorded
Statements of Income relating
instruments used for risk management are summarized below:
in
the Consolidated
to free-standing derivative
For the year ended December 31, ($ in millions)
Interest rate contracts:
Forward contracts related to commercial mortgage loans held for sale
Forward contracts related residential mortgage loans held for sale
Derivative instruments related to MSR portfolio
Derivative instruments related to interest rate risk
Foreign exchange contracts:
Foreign exchange contracts
Consolidated Statements of
Income Caption
Corporate banking revenue
Mortgage banking net revenue
Mortgage banking net revenue
Other noninterest income
Other noninterest income
2008
2007
2006
($8)
(17)
89
1
29
(6)
(8)
23
(1)
(19)
-
7
(9)
(20)
3
The following table reflects the notional amount and market value of free-standing derivatives used for risk management included in the
Consolidated Balance Sheets:
($ in millions)
Interest rate contracts included in other assets:
Derivative instruments related to MSR portfolio
Derivative instruments related to held for sale mortgage loans
Derivative instruments related to interest rate risk
Foreign exchange contracts included in other assets:
Foreign exchange contracts
Total included in other assets
Interest rate contracts included in other liabilities:
Derivative instruments related to MSR portfolio
Derivative instruments related to held for sale mortgage loans
Derivative instruments related to interest rate risk
Foreign exchange contracts included in other liabilities:
Foreign exchange contracts
Total included in other liabilities
Free-Standing Derivative Instruments – Customer
Accommodation
The majority of the free-standing derivative instruments the
Bancorp enters into are for the benefit of commercial customers.
These derivative contracts are not designated against specific
assets or liabilities on the Consolidated Balance Sheets or to
forecasted transactions and, therefore, do not qualify for hedge
accounting. These instruments include foreign exchange derivative
contracts entered into for the benefit of commercial customers
involved in international trade to hedge their exposure to foreign
currency fluctuations, commodity contracts to hedge such items
as natural gas and various other derivative contracts. The
Bancorp may economically hedge significant exposures related to
these derivative contracts entered
into for the benefit of
customers by entering into offsetting contracts with approved,
reputable, independent counterparties with substantially matching
terms. The Bancorp hedges
interest rate exposure on
commercial customer transactions by executing offsetting swap
agreements with primary dealers. Revaluation gains and losses on
foreign exchange, commodity and other commercial customer
derivative contracts are recorded as a component of corporate
banking revenue in the Consolidated Statements of Income.
its
The Bancorp enters into risk participation agreements, under
which the Bancorp assumes credit exposure relating to certain
underlying interest rate derivative contracts. The Bancorp only
enters into these risk participation agreements in instances in
which the Bancorp has participated in the loan that the underlying
interest rate derivative contract was designed to hedge. The
Bancorp will make payments under these agreements if a
customer defaults on its obligation to perform under the terms of
the underlying interest rate derivative contract. As of December
2008
Notional
Amount
Fair Value
2007
Notional
Amount
Fair Value
$6,028
1,830
446
40
$2,505
3,987
440
136
$218
6
5
1
$230
$77
42
4
2
$125
3,062
229
1
-
1,280
588
-
153
70
1
-
-
71
16
9
-
1
26
31, 2008, the total notional amount was approximately $1.0 billion
and the fair value was a liability of $2 million, which is included in
interest rate contracts for customers. The Bancorp’s maximum
exposure in the risk participation agreements is contingent on the
fair value of the underlying interest rate derivative contracts in an
asset position at the time of default. The Bancorp monitors the
credit risk associated with the underlying customers in the risk
participation agreements through the same risk grading system
currently utilized for establishing loss reserves in its loan and lease
portfolio. Under this risk rating system as of December 31, 2008,
approximately $959 million in notional amount of the risk
participation agreements were classified average or better;
approximately $42 million were classified as watch-list or special
mention; and approximately $16 million were classified as
substandard. As of December 31, 2008, the risk participation
agreements had an average life of approximately 3.3 years.
The Bancorp previously offered its customers an equity-
linked certificate of deposit that had a return linked to equity
indices. Under SFAS No. 133, a certificate of deposit that pays
interest based on changes on an equity index is a hybrid
instrument that requires separation into a host contract (the
certificate of deposit) and an embedded derivative contract
(written equity call option). The Bancorp entered into an
offsetting derivative contract to economically hedge the exposure
taken through the issuance of equity-linked certificates of deposit.
Both the embedded derivative and derivative contract entered into
by the Bancorp were recorded as free-standing derivatives and
recorded at fair value with offsetting gains and losses recognized
within noninterest income in the Consolidated Statements of
Income.
Fifth Third Bancorp 77
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table reflects the fair value of all free-standing derivatives included in the Consolidated Balance Sheets as of December 31:
($ in millions)
Interest rate contracts included in other assets:
Interest rate contracts for customers
Interest rate lock commitments
Commodity contracts included in other assets:
Commodity contracts for customers
Foreign exchange contracts included in other assets:
Foreign exchange contracts for customers
Equity contracts included in other assets:
Derivative instruments related to equity-linked CD
Total included in other assets
Interest rate contracts included in other liabilities:
Interest rate contracts for customers
Interest rate lock commitments
Commodity contracts included in other liabilities:
Commodity contracts for customers
Foreign exchange contracts included in other liabilities:
Foreign exchange contracts for customers
Equity contracts included in other liabilities:
Derivative instruments related to equity-linked CD
Total included in other liabilities
2008
Notional
Amount
Fair Value
2007
Notional
Amount
Fair Value
$15,425
3,120
485
6,807
57
$16,306
672
464
6,360
57
$1,228
24
167
534
2
$1,955
$1,257
2
156
478
2
$1,895
12,265
656
167
7,132
50
12,430
253
163
6,642
50
391
3
28
255
5
682
391
1
22
234
5
653
The net gains (losses) recorded in the Consolidated Statements of
Income relating to free-standing derivative instruments for the
years ended December 31 are summarized in the table below. For
the years ended December 31, 2008 and 2007, the Bancorp
recorded $5 million in losses related to derivative counterparty
default. As of December 31, 2008, derivative contracts for
customers in a gain position reflect fair value with a credit related
mark of $37 million.
For the year ended December 31, ($ in millions
Interest rate contracts:
Interest rate lock commitments
Commodity contracts:
Commodity contracts for customers
Foreign exchange contracts:
Foreign exchange contracts for customers
Consolidated Statements of
Income Caption
Mortgage banking net revenue
Corporate banking revenue
Corporate banking revenue
2008
2007
2006
$54
7
106
3
2
60
(2)
-
53
78 Fifth Third Bancorp
12. OTHER ASSETS
The following table provides the components of other assets included in the Consolidated Balance Sheets as of December 31:
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
($ in millions)
Derivative instruments
Bank owned life insurance
Accounts receivable and drafts-in-process
Partnership investments
Deposit with IRS
Income tax receivable
Accrued interest receivable
Deferred tax asset
Other real estate owned
Prepaid pension and other expenses
Other
Total
The Bancorp purchases life insurance policies on the lives of
certain directors, officers and employees and is the owner and
beneficiary of the policies. The Bancorp invests in these policies,
known as BOLI, to provide an efficient form of funding for long-
term retirement and other employee benefits costs. Therefore,
the Bancorp’s BOLI policies are intended to be long-term
investments to provide funding for future payment of long-term
liabilities. The Bancorp records these BOLI policies within other
assets in the Consolidated Balance Sheets at each policy’s
respective cash surrender value, with changes recorded in other
noninterest income in the Consolidated Statements of Income.
Certain BOLI policies have a stable value agreement through
either a large, well-rated bank or multi-national insurance carrier
that provides limited cash surrender value protection from
declines in the value of each policy’s underlying investments.
During 2008, the value of the investments underlying one of the
Bancorp’s BOLI policies continued to decline due to disruptions
in the credit markets, widening of credit spreads between U.S.
treasuries/swaps versus municipal bonds and bank trust preferred
securities, and illiquidity in the asset-backed securities market.
These factors caused the decline in the cash surrender value to
exceed the protection provided by the stable value agreement.
As a result of exceeding the cash surrender value protection,
the Bancorp recorded charges totaling $215 million and $177
million during 2008 and 2007, respectively, to reflect declines in
the cash surrender value related to this policy. The cash surrender
value of this BOLI policy was $291 million at December 31, 2008.
In 2009, the cash surrender value of this policy may increase or
decrease further depending on market conditions related to the
underlying investments. At December 31, 2008, the cash
surrender value protection had not been exceeded for any other
BOLI policy.
13. SHORT-TERM BORROWINGS
Borrowings with original maturities of one year or less are
classified as short term. Federal funds purchased are excess
balances in reserve accounts held at Federal Reserve Banks that
the Bancorp purchased from other member banks on an
overnight basis. Bank notes are promissory notes issued by the
Bancorp’s subsidiary banks. Other short-term borrowings include
securities sold under repurchase agreements, FHLB advances and
other borrowings with original maturities of one year or less. In
($ in millions)
As of December 31:
Federal funds purchased
Other short-term borrowings
Average for the years ended December 31:
Federal funds purchased
Other short-term borrowings
Maximum month-end balance:
Federal funds purchased
Other short-term borrowings
2008
$3,225
1,777
1,188
1,121
1,007
488
478
301
231
84
212
$10,112
2007
$939
1,832
1,892
958
386
-
564
-
159
116
177
$7,023
Fifth Third Community Development Corporation (CDC), a
wholly owned subsidiary of the Bancorp, was created to invest in
Low Income Housing, Historic Rehabilitation, and New Market
Tax Credit projects that support community revitalization and the
creation of affordable housing. CDC generally co-invests with
other unrelated companies and/or individuals. CDC typically
makes investments in a separate legal entity that owns the
property under development. The entities are usually limited
partnerships, and CDC serves as a limited partner. The developers
are the general partners that oversee the day-to-day operations of
the entity. Pursuant to FIN 46(R), the Bancorp has determined
that these entities are Variable Interest Entities (VIEs) and that
the Bancorp’s investments represent variable interests. The
Bancorp has also determined it is not the primary beneficiary of
the VIEs because the general partners are more closely associated
to the VIEs and will absorb the majority of the VIEs’ expected
losses. Therefore the Bancorp accounts for these investments
using the equity method. At December 31, 2008 and 2007, these
investments, including unfunded commitments, are recorded in
partnership investments and had carrying amounts of $1.0 billion
and $871 million, respectively. Also at December 31, 2008 and
2007, the unfunded commitments related to these VIEs were
included in other liabilities and were $302 million and $307
million, respectively. The Bancorp’s maximum exposure to loss
as a result of its involvement with the VIEs is limited to the
carrying amounts of the investments.
At December 31, 2008, other assets included a deposit of
approximately $1 billion with the IRS pertaining to Internal
Revenue Code section 6603 for taxes associated with the
leveraged lease portfolio. This deposit enables the Bancorp to
stop the accrual of interest, to the extent of the deposits, if the
Bancorp is not ultimately successful in its legal dispute. Refer to
Note 22 for further information.
2008, there was a reduction in the overnight federal funds
purchased year-end balance due to the receipt of $3.4 billion in
equity funding on December 31, 2008 under the CPP and an
increase in other short-term borrowings primarily through the
purchase of term funding through FHLB advances and Term
Auction Facility Funds. A summary of short-term borrowings
and weighted-average rates follows:
2008
2007
2006
Amount
Rate
Amount
Rate
Amount
Rate
$287
9,959
$2,975
7,785
$6,233
13,864
.18%
1.42
2.34%
2.29
$4,427
4,747
$3,646
3,244
$5,130
5,381
3.29%
3.90
5.04%
4.32
$1,421
2,796
$4,148
4,522
$5,434
6,287
5.26%
4.04
5.02%
4.28
Fifth Third Bancorp 79
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
14. LONG-TERM DEBT
A summary of long-term borrowings at December 31:
($ in millions)
Parent Company
Senior:
Fixed-rate bank notes
Extendable notes
Subordinated(b):
Floating-rate notes
Fixed-rate notes
Fixed-rate notes
Fixed-rate notes
Junior subordinated (a):
Fixed-rate notes (c)
Fixed-rate notes (c)
Fixed-rate notes (c)
Fixed-rate notes (c)
Subsidiaries
Senior:
Fixed-rate bank notes
Floating-rate bank notes
Extendable bank notes
Subordinated(b):
Fixed-rate bank notes
Junior subordinated(a):
Floating-rate bank notes
Floating-rate debentures
Floating-rate debentures
Federal Home Loan Bank advances
Other
Total
(a) Qualify as Tier I capital for regulatory capital purposes.
(b) Qualify as Tier II capital for regulatory capital purposes.
(c) Future periods of debt are floating.
The Bancorp pays down long-term debt in accordance with
contractual terms over maturity periods summarized in the above
table. Contractually obligated payments for long-term debt are
due over the following periods as of December 31, 2008: $2.8
billion in 2009; $843 million in 2010, $16 million in 2011, $1.0
billion in 2012, $1.3 billion in 2013 and $7.6 billion after 2013. At
December 31, 2008 the Bancorp had an outstanding principal
balance of $12.8 billion, discounts and premiums of negative $16
million and a mark-to-market adjustment on its hedged debt of
$813 million. At December 31, 2007, the Bancorp had an
outstanding principal balance of $12.8 billion, discounts and
premiums of negative $1 million and a mark-to-market adjustment
on its hedged debt of $44 million.
Parent Company Long-Term Borrowings
In April 2008, the Bancorp issued $750 million of senior notes to
third party investors. The senior notes bear a fixed rate of interest
of 6.25% per annum. The Bancorp entered into floating-rate
swaps to convert $675 million to floating rate and, at December
31, 2008, paid a rate of 5.32%. The notes are unsecured, senior
obligations of the Bancorp. Payment of the full principal amount
of the notes will be due upon maturity on May 1, 2013. The notes
will not be subject to redemption at the Bancorp's option at any
time prior to maturity.
The $31 million in senior extendable notes currently pay
interest at one-month LIBOR plus 1 bp and the final maturity of
these notes is April 23, 2009. During the third quarter of 2008,
$1.7 billion of the extendable notes matured and were paid.
The subordinated floating-rate notes due in 2016 pay interest
at three-month LIBOR plus 42 bp. In February 2008, the
Bancorp issued $1.0 billion of 8.25% subordinated notes, of
which $705 million were subsequently hedged to floating and paid
a rate of 6.11% at December 31, 2008. The Bancorp has entered
into interest rate swaps to convert its subordinated fixed-rate
notes due in 2017 and 2018 to floating-rate. The rate paid on
these swaps was 2.71% and 3.08%, respectively, at December 31,
2008.
80 Fifth Third Bancorp
Maturity
Interest Rate
2008
2007
2013
2009
2016
2017
2018
2038
2067
2067
2067
2068
6.25%
0.49%
1.95%
5.45%
4.50%
8.25%
7.25%
6.50%
7.25%
8.875%
2009 - 2019
2013
2009
2.87% - 5.20%
2.26%
0.22% - 3.60%
2015
4.75%
2032 - 2033
2033 - 2034
2035
2009 - 2037
2009 - 2032
4.72%-6.97%
4.36% - 4.66%
3.42% - 3.69%
0% - 8.34%
Varies
$801
31
250
588
572
1,326
942
750
639
427
1,137
500
1,197
573
52
67
49
3,565
119
$13,585
-
1,745
250
510
485
-
876
750
601
-
1,640
500
1,200
513
52
67
-
3,571
97
12,857
The 7.25% junior subordinated notes due in 2067, with a
current carrying amount of $942 million and an outstanding
principal balance of $863 million at December 31, 2008, pay a
fixed rate of 7.25% until 2057, then convert to floating at three-
month LIBOR plus 303 bp. The Bancorp entered into interest
rate swaps to convert $700 million of the fixed-rate debt into
floating. At December 31, 2008, the weighted-average rate paid
on the swaps was 3.83%. The 6.50% junior subordinated notes
due in 2067 pay a fixed rate of 6.50% until 2017, then convert to
floating at three-month LIBOR plus 137 bp until 2047.
Thereafter, the notes pay a floating rate at one-month LIBOR
plus 237 bp. The junior subordinated notes due in 2067, with a
current carrying amount of $639 million and an outstanding
principal balance of $575 million at December 31, 2008, pay a
fixed rate of 7.25% until 2057, then convert to floating at three-
month LIBOR plus 257 bp. The Bancorp entered into interest
rate swaps to convert $500 million of the fixed-rate debt into
floating. At December 31, 2008, the weighted-average rate paid
on these swaps was 3.40%. The obligations were issued to Fifth
Third Capital Trusts VI, IV and V, respectively. The Bancorp has
fully and unconditionally guaranteed all obligations under these
trust preferred securities. In addition, the Bancorp entered into
replacement capital covenants for the benefit of holders of long-
term debt senior to the junior subordinated notes that limits,
subject to certain restrictions, the Bancorp’s ability to redeem the
junior subordinated notes prior to their scheduled maturity.
In May 2008, Fifth Third Capital Trust VII (Trust VII), a
wholly-owned non-consolidated subsidiary of the Bancorp, issued
$400 million of Tier 1-qualifying trust preferred securities to third
party investors and invested these proceeds in junior subordinated
notes (JSN VII) issued by the Bancorp. The Bancorp’s obligations
under the transaction documents, taken together, have the effect
of providing a full and unconditional guarantee by the Bancorp,
on a subordinated basis, of the payment obligations of the Trust
VII. No other subsidiaries of the Bancorp are guarantors of the
JSN VII. The JSN VII will mature on May 15, 2068. The JSN
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
VII held by the Trust VII bear a fixed rate of interest of 8.875%
until May 15, 2058. Thereafter, the notes pay a floating rate at
three-month LIBOR plus 500 bp. The Bancorp entered into an
interest rate swap to convert $275 million of the fixed-rate debt
into floating. At December 31, 2008, the rate paid on the swap
was 6.05%. The JSN VII may be redeemed at the option of the
Bancorp on or after May 15, 2013, or in certain other limited
circumstances, at a redemption price of 100% of the principal
amount plus accrued but unpaid interest. All redemptions are
subject to certain conditions and generally require approval by the
Federal Reserve Board.
Subsidiary Long-Term Borrowings
The senior fixed-rate bank notes due from 2009 to 2019 are the
obligations of a subsidiary bank. The maturities of the face value
of the senior fixed-rate bank notes are as follows: $36 million in
2009, $800 million in 2010 and $275 million in 2019. The
Bancorp entered into interest rate swaps to convert $1.1 billion of
the fixed-rate debt into floating rates. At December 31, 2008, the
rates paid on these swaps were 2.19% on $800 million and 2.20%
on $275 million. In August 2008, $500 million of senior fixed-rate
bank notes issued in July of 2003 matured and were paid. These
long-term bank notes were issued to third-party investors at a
fixed rate of 3.375%.
The senior floating-rate bank notes due in 2013 are the
obligations of a subsidiary bank. The notes pay a floating rate at
three-month LIBOR plus 11 bp.
The senior extendable notes consist of $797 million that
currently pay interest at three-month LIBOR plus 4 bp and $400
million that pay at the Federal Funds open rate plus 12 bp.
The subordinated fixed-rate bank notes due in 2015 are the
obligations of a subsidiary bank. The Bancorp entered into
interest rate swaps to convert the fixed-rate debt into floating rate.
At December 31, 2008, the weighted-average rate paid on the
swaps was 3.29%.
The junior subordinated floating-rate bank notes due in 2032
and 2033 were assumed by a Bancorp subsidiary as part of the
acquisition of Crown in November 2007. Two of the notes pay
floating at three-month LIBOR plus 310 and 325 bp. The third
note pays floating at six-month LIBOR plus 370 bp.
The three-month LIBOR plus 290 bp and the three-month
LIBOR plus 279 bp junior subordinated debentures due in 2033
and 2034, respectively, were assumed by a subsidiary of the
Bancorp in connection with the acquisition of First National
Bank. The obligations were issued to FNB Statutory Trusts I and
II, respectively.
The junior subordinated floating-rate bank notes due in 2035
were assumed by a Bancorp subsidiary as part of the acquisition of
First Charter in May 2008. The obligations were issued to First
Charter Capital Trust I and II, respectively. The notes of First
Charter Capital Trust I and II pay floating at three-month LIBOR
plus 169 bp and 142 bp, respectively. The Bancorp has fully and
unconditionally guaranteed all obligations under the acquired trust
preferred securities.
At December 31, 2008, FHLB advances have rates ranging
from 0% to 8.34%, with interest payable monthly. The advances
are secured by certain residential mortgage loans and securities
totaling $8.6 billion. At December 31, 2008, $2.5 billion of FHLB
advances are floating rate. The Bancorp has interest rate caps,
with a notional of $1.5 billion, held against its FHLB advance
borrowings. The $3.6 billion in advances mature as follows: $1.5
billion in 2009, $1 million in 2010, $2 million in 2011, $1 billion in
2012 and $1.1 billion in 2013 and thereafter.
Medium-term senior notes and subordinated bank notes with
maturities ranging from one year to 30 years can be issued by two
subsidiary banks, of which $3.8 billion was outstanding at
December 31, 2008 with $16.2 billion available for future
issuance. There were no other medium-term senior notes
outstanding on either of the two subsidiary banks as of December
31, 2008.
15. COMMITMENTS, CONTINGENT LIABILITIES AND GUARANTEES
The Bancorp, in the normal course of business, enters into
financial
instruments and various agreements to meet the
financing needs of its customers. The Bancorp also enters into
certain transactions and agreements to manage its interest rate and
prepayment risks, provide funding, equipment and locations for
its operations and invest in its communities. These instruments
and agreements involve, to varying degrees, elements of credit
risk, counterparty risk and market risk in excess of the amounts
recognized
in the Bancorp’s Consolidated Balance Sheets.
Creditworthiness for all instruments and agreements is evaluated
on a case-by-case basis in accordance with the Bancorp’s credit
policies. The Bancorp’s significant commitments, contingent
liabilities and guarantees in excess of the amounts recognized in
the Consolidated Balance Sheets are summarized as follows:
is
Commitments
The Bancorp has certain commitments to make future payments
under contracts. A summary of significant commitments at
December 31:
($ in millions)
Commitments to extend credit
Letters of credit (including standby letters of
credit)
Forward contracts to sell mortgage loans
Noncancelable lease obligations
Purchase obligations
Capital expenditures
2008
$49,470
2007
49,788
8,951
3,235
937
81
68
8,522
1,511
734
52
94
Commitments to extend credit are agreements to lend,
typically having fixed expiration dates or other termination clauses
that may require payment of a fee. Since many of the
commitments to extend credit may expire without being drawn
upon, the total commitment amounts do not necessarily represent
future cash flow requirements. The Bancorp is exposed to credit
risk in the event of nonperformance for the amount of the
contract. Fixed-rate commitments are also subject to market risk
resulting from fluctuations in interest rates and the Bancorp’s
those
exposure
commitments. As of December 31, 2008 and 2007, the Bancorp
had a reserve for unfunded commitments totaling $195 million
and $95 million, respectively, included in other liabilities in the
Consolidated Balance Sheets.
replacement value of
limited
the
to
Standby and commercial letters of credit are conditional
commitments issued to guarantee the performance of a customer
to a third party. At December 31, 2008, approximately $3.3
billion of letters of credit expire within one year (including $57
million issued on behalf of commercial customers to facilitate
trade payments in dollars and foreign currencies), $5.3 billion
expire between one to five years and $0.4 billion expire thereafter.
Standby letters of credit are considered guarantees in accordance
with FASB Interpretation No. 45, “Guarantor’s Accounting and
Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others” (FIN 45). At December
31, 2008, the reserve related to these standby letters of credit was
$3 million. Approximately 66% and 70% of the total standby
letters of credit were secured as of December 31, 2008 and 2007,
respectively. In the event of nonperformance by the customers,
the Bancorp has rights to the underlying collateral, which can
include commercial real estate, physical plant and property,
inventory, receivables, cash and marketable securities. The
Bancorp monitors the credit risk associated with the standby
letters of credit using the same dual risk rating system utilized for
Fifth Third Bancorp 81
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
estimating probabilities of default within its loan and lease
portfolio. Under this risk rating as of December 31, 2008,
approximately $7.4 billion of the standby letters of credit were
classified as average or better; approximately $1.2 billion were
classified as watch-list or special mention; and approximately $300
million were classified as substandard.
At December 31, 2008, the Bancorp had outstanding letters
of credit that were supporting certain securities issued as VRDNs.
The Bancorp facilitates financing for its commercial customers,
which consist of companies and municipalities, by marketing the
VRDNs to investors. The VRDNs pay interest to holders at a
rate of interest that fluctuates based upon market demand. The
VRDNs generally have long-term maturity dates, but can be
tendered by the holder for purchase at par value upon proper
advance notice. When the VRDNs are tendered, a remarketing
agent generally finds another investor to purchase the VRDNs to
keep the securities outstanding in the market. FTS acts as the
remarketing agent to issuers on approximately $4.2 billion of
VRDNs at December 31, 2008. As remarketing agent, FTS is
responsible for finding purchasers for VRDNs that are put by
investors. The Bancorp issues letters of credit, as a credit
enhancement, to the VRDNs remarketed by FTS, in addition to
approximately $2.0 billion in VRDNs remarketed by third parties
at December 31, 2008. These letters of credit are included in the
total letters of credit balance provided in the previous table. At
December 31, 2008, FTS held $388 million of these securities in
its portfolio and classified them as trading securities. The
Bancorp purchased $756 million of the VRDNs from the market,
through FTS, and held them in its trading securities portfolio at
December 31, 2008. For the VRDNs remarketed by third parties,
in some cases, the remarketing agent has failed to remarket the
securities and has instructed the indenture trustee to draw upon
approximately $173 million of letters of credit issued by the
Bancorp. The Bancorp recorded these draws as commercial loans
in its Consolidated Balance Sheets at December 31, 2008.
The Bancorp enters into forward contracts to economically
hedge the change in fair value of certain residential mortgage loans
held for sale due to changes in interest rates. The outstanding
notional amounts of these forward contracts were $3.2 billion, and
$1.5 billion as of December 31, 2008 and 2007, respectively.
lease
agreements. The minimum
The Bancorp’s subsidiaries have entered into a number of
noncancelable
rental
commitments under noncancelable lease agreements are shown in
the previous table. The Bancorp or its subsidiaries have also
entered into a limited number of agreements for work related to
banking center construction and to purchase goods or services.
Contingent Liabilities
The Bancorp, through its electronic payment processing division,
processes VISA® and MasterCard® merchant card transactions.
Pursuant to VISA® and MasterCard® rules, the Bancorp assumes
certain contingent liabilities relating to these transactions which
typically arise from billing disputes between the merchant and
cardholder that are ultimately resolved in the cardholder’s favor.
In such cases, these transactions are “charged-back” to the
merchant and disputed amounts are refunded to the cardholder. If
the Bancorp is unable to collect these amounts from the
merchant, it will bear the loss for refunded amounts. The
likelihood of
liability arising from
chargebacks is relatively low, as most products or services are
delivered when purchased and credits are issued on returned
items. For the years ended December 31, 2008 and 2007, the
Bancorp processed approximately $133 million and $126 million,
respectively, of chargebacks presented by issuing banks, resulting
in no material losses to the Bancorp. The Bancorp accrues for
probable losses based on historical experience and did not carry a
credit loss reserve related to such chargebacks at December 31,
2008 and 2007.
incurring a contingent
82 Fifth Third Bancorp
For certain mortgage loans originated by the Bancorp,
borrowers may be required to obtain Private Mortgage Insurance
(PMI) provided by third-party insurers. In some instances these
PMI insurers cede a portion of the PMI premiums to the
Bancorp, and the Bancorp provides reinsurance coverage within a
specified range of the total PMI coverage. The Bancorp’s
reinsurance coverage typically ranges from 5% to 10% of the total
PMI coverage. The Bancorp's maximum exposure in the event of
nonperformance by the underlying borrowers is equivalent to the
Bancorp's total outstanding reinsurance coverage, which was $170
million at December 31, 2008. As of December 31, 2008, the
Bancorp maintained a reserve of approximately $13 million related
to exposures within the reinsurance portfolio. No reserve was
deemed necessary as of December 31, 2007.
There are legal claims pending against the Bancorp and its
subsidiaries that have arisen in the normal course of business. See
Note 16 for additional information regarding these proceedings.
Guarantees
The Bancorp has performance obligations upon the occurrence of
certain events under financial guarantees provided in certain
contractual arrangements.
Through December 31, 2008 and 2007, the Bancorp had
transferred, subject to credit recourse, certain primarily floating-
rate, short-term, investment grade commercial loans to an
unconsolidated QSPE that is wholly owned by an independent
third-party. The outstanding balance of these loans at December
31, 2008 and 2007 was $1.9 billion and $3.0 billion, respectively.
These loans may be transferred back to the Bancorp upon the
occurrence of certain specified events. These events include
borrower default on the loans transferred, bankruptcy preferences
initiated against underlying borrowers, ineligible loans transferred
by the Bancorp to the QSPE, and the inability of the QSPE to
issue commercial paper. The maximum amount of credit risk in
the event of nonperformance by the underlying borrowers is
approximately equivalent to the total outstanding balance.
The QSPE issues commercial paper and uses the proceeds to
fund the acquisition of commercial loans transferred to it by the
Bancorp. The ability of the QSPE to issue commercial paper is a
function of general market conditions and the credit rating of the
liquidity provider. In the event the QSPE is unable to issue
commercial paper, the Bancorp has agreed to provide liquidity
support to the QSPE in the form of purchases of commercial
paper, a line of credit to the QSPE and the repurchase of assets
from the QSPE. As of December 31, 2008 and 2007, the liquidity
asset purchase agreement was $2.8 billion and $5.0 billion,
respectively. During 2008, dislocation in the short-term funding
market caused the QSPE difficulty in obtaining sufficient funding
through the issuance of commercial paper. As a result, the
Bancorp provided liquidity support to the QSPE during 2008
through purchases of commercial paper, a line of credit to the
QSPE, and the repurchase of assets from the QSPE under the
liquidity asset purchase agreement. As of December 31, 2008, the
Bancorp held approximately $143 million of asset-backed
commercial paper issued by the QSPE, representing 7% of the
total commercial paper issued by the QSPE.
During 2008, the Bancorp repurchased $686 million of
commercial loans at par from the QSPE under the liquidity asset
purchase agreement. Fair value adjustment charges of $3 million
were recorded on these loans upon repurchase. As of December
31, 2008, there were no outstanding balances on the line of credit
from the Bancorp to the QSPE. At December 31, 2008 and 2007,
the Bancorp’s loss reserve related to the liquidity support and
credit enhancement provided to the QSPE was $37 million and
$18 million, respectively, and was recorded in other liabilities in
the Consolidated Balance Sheets. To determine the credit loss
reserve, the Bancorp used an approach that is consistent with its
overall approach in estimating credit losses for various categories
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
of commercial loans held in its loan portfolio. For further
information on the QSPE, see Note 10.
At December 31, 2008 and 2007, the Bancorp had provided
credit recourse on residential mortgage loans sold to unrelated
third parties of approximately $1.3 billion and $1.5 billion,
respectively. In the event of any customer default, pursuant to the
credit recourse provided, the Bancorp is required to reimburse the
third party. The maximum amount of credit risk in the event of
nonperformance by the underlying borrowers is equivalent to the
information on the
total outstanding balance. For further
residential mortgage loans sold with credit recourse, see Note 10.
FTS, a subsidiary of the Bancorp, guarantees the collection of
all margin account balances held by its brokerage clearing agent
for the benefit of FTS customers. FTS is responsible for payment
to its brokerage clearing agent for any loss, liability, damage, cost
or expense incurred as a result of customers failing to comply with
margin or margin maintenance calls on all margin accounts. The
margin account balance held by the brokerage clearing agent as of
December 31, 2008 was $10 million compared to $48 million as of
December 31, 2007. In the event of any customer default, FTS
has rights to the underlying collateral provided. Given the
existence of the underlying collateral provided and negligible
historical credit losses, the Bancorp does not maintain a loss
reserve related to the margin accounts.
As of December 31, 2008 and 2007, the Bancorp had fully
and unconditionally guaranteed certain long-term borrowing
obligations issued by four wholly-owned issuing trust entities of
$2.8 billion and $2.3 billion, respectively. For further information
on long-term borrowing obligations, see Note 14.
The Bancorp, as a member bank of Visa prior to Visa’s
16. LEGAL AND REGULATORY PROCEEDINGS
In May of 2005, the Bancorp filed suit in the United States
District Court for the Southern District of Ohio against the IRS
seeking a refund of taxes paid as a result of the audit of the 1997
tax year. This suit involves a determination of the correct tax
treatment of certain leveraged leases entered into by the Bancorp.
The outcome of this litigation will likely impact a number of
leveraged leases entered into during 1997 through 2004. At the
conclusion of a jury trial, the jury rendered a verdict in the form of
answers to interrogatories, some of which favored the Bancorp
and some of which favored the IRS. No judgment has been
entered by the court in the case and the parties dispute the
judgment that should be entered in light of the jury’s responses to
the interrogatories. During the second quarter of 2008, the
Bancorp increased its liability for uncertain tax reserves relating to
these leases based upon several factors, including the jury’s verdict
in the Bancorp’s case, and two other court cases involving
leveraged leasing. In December of 2008, the Bancorp entered into
a Stipulated Conditional Dismissal. This Conditional Order of
Dismissal, without prejudice and with leave, allows the Bancorp to
enter into settlement discussions with the U.S. Department of
Justice under the Settlement Initiatives offered by the IRS. The
Stipulated Conditional Dismissal is effective until June of 2009.
In the event the case is not settled prior to June 2009, either party
may reinstate the case. The ultimate outcome of settlement
discussion is uncertain. The Bancorp continues to believe that its
tax treatment was proper under the tax law, as it existed at the
time the tax benefits were reported.
During April 2006, the Bancorp was added as a defendant in
a consolidated antitrust class action lawsuit originally filed against
Visa®, MasterCard® and several other major financial institutions
in the United States District Court for the Eastern District of
New York. The plaintiffs, merchants operating commercial
businesses throughout the U.S. and trade associations, claim that
fees charged by card-issuing banks are
the
unreasonable and seek injunctive relief and unspecified damages.
In addition to being a named defendant, the Bancorp is also
interchange
completion of their initial public offering (IPO) on March 19,
2008, had certain indemnification obligations pursuant to Visa’s
certificate of incorporation and bylaws and in accordance with
their membership agreements. In accordance with Visa’s by-laws
prior to the IPO, the Bancorp could have been required to
indemnify Visa for the Bancorp’s proportional share of losses
based on the pre-IPO membership interests. In contemplation of
the IPO, Visa announced that it had completed restructuring
transactions during the fourth quarter of 2007. As part of this
indemnification obligation was
restructuring, the Bancorp’s
modified to include only certain known litigation as of the date of
the restructuring. This modification triggered a requirement to
recognize the fair value of the indemnification obligation in
accordance with FIN 45, “Guarantor’s Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others.” Accordingly, the Bancorp recorded an
indemnification liability under FIN 45 of $3 million in 2007.
Additionally, during 2007, the Bancorp recorded $169 million for
its share of litigation formally settled by Visa and for probable
future litigation settlements, resulting in a Visa litigation reserve of
$172 million as of December 31, 2007. These amounts were
accrued under SFAS No. 5, “Accounting for Contingencies.”
During 2008, the Bancorp recorded additional reserves of $71
million for probable future litigation settlements. In connection
with the IPO in 2008, Visa retained a portion of the proceeds to
fund an escrow account in order to resolve existing litigation
settlements as well as fund potential future litigation settlements.
As of December 31, 2008, the Bancorp has recorded its
proportional share of $169 million of the Visa escrow account net
against the current Visa litigation reserve of $243 million.
subject to an indemnification obligation of Visa as discussed in
Note 15. Accordingly, in the third and fourth quarters of 2007,
the Bancorp recorded a contingent liability included in the $172
million litigation reserve. During 2008, the Bancorp recorded
additional reserves of $71 million for probable future litigation
settlements. In connection with Visa’s IPO, Visa retained a
portion of the proceeds to fund an escrow account in order to
resolve existing litigation settlements as well as fund potential
future litigation settlements. As of December 31, 2008 the
Bancorp has recorded its proportional share of $169 million of the
Visa escrow accounts net against the current Visa litigation reserve
of $243 million to account for its potential exposure in this and
related litigation. This antitrust litigation is still in the pre-trial
phase.
Several putative class action complaints have been filed
against the Bancorp in various federal and state courts. The
federal cases were consolidated by the Judicial Panel on
Multidistrict Litigation and are now known as “In Re TJX Security
Breach Litigation.” The state court actions have been removed to
federal court and have been consolidated into that same case. The
complaints relate to the alleged intrusion of The TJX Companies,
Inc.’s (TJX) computer system and the potential theft of their
customers’ non-public information and alleged violations of the
Gramm-Leach-Bliley Act. Some of the complaints were filed by
consumers and seek unquantified damages on behalf of putative
classes of persons who transacted business at any one of TJX’s
stores during the period of the alleged intrusion. Another was
filed by financial institutions and seeks unquantified damages on
behalf of other similarly situated entities that suffered losses in
relation to the alleged intrusion. The U.S. District Court (Court)
has granted the Bancorp’s motion to dismiss certain of the claims,
but additional claims remain pending. On November 29, 2007,
the U.S. District Court, District of Massachusetts (District Court)
issued an order denying Plaintiffs’ Motion for Class Certification
in the consolidated cases brought by financial institutions (the
“Financial Institution Track”). On December 18, 2007, the
Fifth Third Bancorp 83
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
for
in and
District Court entered its final order in the Financial Institution
Track litigation that i) denied Plaintiffs’ Motion for Leave to
Amend their Complaint, without prejudice; ii) dismissed the case
for lack of subject matter jurisdiction; and iii) transferred the case
from the United States District Court to the Massachusetts
Superior Court
the County of Middlesex
(Massachusetts State Court). On December 18, 2007, TJX
Companies, Inc. filed a Notice of Appeal to the United States
Court of Appeals for the First Circuit (First Circuit) as to that
portion of the Court's December 18 order transferring the case to
Massachusetts State Court and an emergency motion to stay the
Massachusetts State Court proceedings pending the appeal. On
December 19, 2007, the First Circuit granted the request for stay
until further order of the Court. On December 20, 2007, the
Bancorp likewise filed a Notice of Appeal to the First Circuit
solely as to that portion of the District Court’s December 18
Order transferring the case to the Massachusetts State Court. On
December 21, 2007, Plaintiffs also filed a Notice of Appeal in the
First Circuit as to the entirety of the District Court's December 18
Order and also as to all other prior "adverse rulings" including,
without limitation, the District Court’s denial of class certification
and dismissal of various claims. Both TJX and the Bancorp
amended their Notices of Appeal to likewise appeal all adverse
rulings by the District Court. Oral argument on the appeals was
held on December 3, 2008, however, no ruling has been issued by
the Court. Separately, on January 16, 2008, the two remaining
financial institution plaintiff banks that had not reached a
settlement with TJX filed a new lawsuit against the Bancorp and
TJX in Massachusetts State Court asserting similar allegations to
those set forth in the Financial Institution Track litigation. After
TJX and the Bancorp removed the case to the District Court, it
was remanded to Massachusetts State Court and the case has been
stayed pending outcome of the appeal. In regards to the
consumer track litigation, on January 9, 2008, the District Court
issued an Order of Preliminary Approval of a proposed class
action settlement funded solely by TJX. A Final Fairness Hearing
was held July 15, 2008, at which time the Court approved the
proposed settlement with certain changes that are subject to
objection by the parties. The consumer track litigation settlement
was approved by the Court on September 2, 2008 and payment of
the attorney fees was approved by the Court on November 3,
2008.
In June 2007, Ronald A. Katz Technology Licensing, L.P.
(Katz) filed a suit in the United States District Court for the
Southern District of Ohio against the Bancorp and its Ohio
banking subsidiary. In the suit, Katz alleges that the Bancorp and
its Ohio bank are infringing on Katz’s patents for interactive call
17. RELATED PARTY TRANSACTIONS
At December 31, 2008 and 2007, certain directors, executive
officers, principal holders of Bancorp common stock, associates
of such persons, and affiliated companies of such persons were
indebted, including undrawn commitments to lend, to the
Bancorp’s banking subsidiaries in the aggregate amount, net of
participations, of $346 million and $348 million, respectively. As
of December 31, 2008 and 2007, the outstanding balance on loans
and undrawn
to
commitments, was $143 million and $132 million, respectively.
related parties, net of participations
Commitments to lend to related parties as of December 31,
2008 and 2007, net of participations, were comprised of $339
million and $340 million, respectively, to directors and $7 million
and $8 million at December 31, 2008 and 2007 to executive
officers. The commitments are in the form of loans and
guarantees for various business and personal interests. This
indebtedness was incurred in the ordinary course of business on
substantially the same terms, including interest rates and collateral,
as those prevailing at the time of comparable transactions with
unrelated parties. This indebtedness does not involve more than
84 Fifth Third Bancorp
processing technology by offering certain automated telephone
banking and other services. This lawsuit is one of many related
patent infringement suits brought by Katz in various courts
against numerous other defendants. Katz is seeking unspecified
monetary damages and penalties as well as injunctive relief in the
suit. Management believes there are substantial defenses to these
claims and intends to defend them vigorously. The impact of the
final disposition of this lawsuit cannot be assessed at this time.
In June through September of 2008, five putative securities
class action complaints were filed against the Bancorp and its
Chief Executive Officer, among other parties, and are currently
pending in the United States District Court for the Southern
District of Ohio. The lawsuits allege violations of federal
securities laws related to disclosures made by the Bancorp in press
releases and filings with the SEC regarding its quality and
sufficiency of capital, credit losses and related matters, and seeking
unquantified damages on behalf of putative classes of persons
who either purchased the Bancorp’s securities, or acquired the
Bancorp’s securities pursuant to the First Charter Corporation
Acquisition. In addition to the foregoing, two cases were filed in
the United States District Court for the Southern District of Ohio
against the Bancorp and certain officers alleging violations of
ERISA based on allegations similar to those set forth in the
securities class action cases filed during the same period of time.
These cases remain in the early stages of litigation. The impact of
the final disposition of these lawsuits cannot be assessed at this
time.
In July 2008, a shareholder of the Bancorp filed a shareholder
derivative suit in the Court of Common Pleas for Hamilton
County, Ohio, against the members of the Bancorp’s Board of
Directors and, nominally, the Bancorp, alleging breach of fiduciary
duty in connection with the Bancorp’s alleged violations of federal
and state securities laws, among other charges, in relation to its
previous statements regarding its quality and sufficiency of capital,
credit losses and related matters. The suit seeks unspecified
compensatory damages in favor of the Bancorp from the Board of
Directors, punitive damages, and interest, as well as costs,
disbursements and attorney and other expert fees to the plaintiff.
This lawsuit was voluntarily dismissed in November 2008.
The Bancorp and its subsidiaries are not parties to any other
material litigation. However, there are other litigation matters that
arise in the normal course of business. While it is impossible to
ascertain the ultimate resolution or range of financial liability with
respect to these contingent matters, management believes any
resulting liability from these other actions would not have a
material effect upon the Bancorp’s consolidated financial position,
results of operations or cash flows.
the normal risk of repayment or present other unfavorable
features.
None of the Bancorp’s affiliates, officers, directors or
employees has an interest in or receives any remuneration from
any special purpose entities or qualified special purpose entities
with which the Bancorp transacts business.
The Bancorp maintains a written policy and procedures
covering related party transactions. These procedures cover
transactions such as employee-stock purchase loans, personal lines
of credit, residential secured loans, overdrafts, letters of credit and
increases in indebtedness. Such transactions are subject to the
Bancorp’s normal underwriting and approval procedures. Prior to
the loan closing, Compliance Risk Management must approve and
determine whether the transaction requires approval from or a
post notification be sent to the Bancorp’s Board of Directors.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
18. ACCUMULATED OTHER COMPREHENSIVE INCOME
The Bancorp has elected to present the disclosures required by SFAS No. 130, “Reporting of Comprehensive Income,” in the Consolidated
Statements of Changes in Shareholders’ Equity and in the following table. Disclosure of the reclassification adjustments, related tax effects
allocated to other comprehensive income and accumulated other comprehensive income as of and for the years ended December 31 were as
follows:
Total Other Comprehensive
Total Accumulated Other
Comprehensive Income
Net
Activity
Beginning
Balance
Net
Activity
Ending
Balance
($ in millions)
2008
Unrealized holding gains on available-for-sale securities arising during period
Reclassification adjustment for net gains included in net loss
Net unrealized gains (losses) on available-for-sale securities
Unrealized holding gains on cash flow hedge derivatives
Reclassification adjustment for net gains on cash flow hedge
derivatives included in net loss
Net unrealized gains on cash flow hedge derivatives
Defined benefit plans:
Net prior service cost
Net actuarial loss
Defined benefit plans, net
Total
2007
Unrealized holding gains on available-for-sale securities arising during period
Reclassification adjustment for net gains included in net income
Net unrealized gains (losses) on available-for-sale securities
Unrealized holding gains on cash flow hedge derivatives
Reclassification adjustment for net gains on cash flow hedge
derivatives included in net income
Net unrealized gains (losses) on cash flow hedge derivatives
Defined benefit plans:
Net prior service cost
Net actuarial gain
Defined benefit plans, net
Total
2006
Unrealized holding gains on available-for-sale securities arising during period
Reclassification adjustment for net losses included in net income
Net unrealized gains (losses) on available-for-sale securities
Reclassification adjustment for net losses on cash flow hedge
derivatives included in net income
Net unrealized gains (losses) on cash flow hedge derivatives
Minimum pension liability (a)
Cumulative effect of change in accounting for pension and other
postretirement obligations (a)
Pretax
Activity
Income
Tax
Effect
$353
(31)
322
100
(3)
97
-
(74)
(74)
$345
$60
(21)
39
42
(1)
41
-
3
3
$83
$61
364
425
20
20
(123)
10
(113)
(35)
1
(34)
-
26
26
(121)
(23)
9
(14)
(15)
-
(15)
-
(1)
(1)
(30)
(20)
(129)
(149)
(8)
(8)
230
(21)
209
65
(2)
63
-
(48)
(48)
224
37
(12)
25
27
(1)
26
-
2
2
53
41
235
276
12
12
Total
288
(a) Upon adoption of SFAS No. 158, the Bancorp measured its liability for its total pension and other postretirement obligations to be $59 million.
(157)
$445
(94)
209
115
25
63
88
(57)
(126)
(48)
224
(105)
98
(119)
25
(94)
(1)
(59)
(179)
26
2
53
25
(57)
(126)
(395)
276
(119)
(13)
(5)
-
(413)
12
5
(59)
234
(1)
-
(59)
(179)
Fifth Third Bancorp 85
19. COMMON, PREFERRED AND TREASURY STOCK
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following is a summary of the share activity within common, preferred and treasury stock for the years ended December 31:
Shares
($ and shares in millions)
28
Shares at December 31, 2005
2
Shares acquired for treasury
(2)
Stock-based awards exercised, including shares issued
(1)
Restricted stock grants
27
Shares at December 31, 2006
27
Shares acquired for treasury
(2)
Stock-based awards exercised, including treasury shares issued
(1)
Restricted stock grants
1
Employee stock ownership through benefit plans
52
Shares at December 31, 2007
-
Issuance of preferred shares, Series G
-
Issuance of preferred shares, Series F
-
Redemption of preferred shares, Series D, E
-
Stock-based awards exercised, including treasury shares issued
(3)
Restricted stock grants
(43)
Shares issued in business combinations
-
Employee stock ownership through benefit plans
Shares at December 31, 2008
6
(a) There were 7,250 shares of Series D preferred stock and 2,000 shares of Series E preferred stock at December 31, 2005, 2006 and 2007. As of December 31, 2008, 44,300 shares of Series G
Preferred Stock
Shares (a)
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
Treasury Stock
Value
$1,279
82
(84)
(45)
$1,232
1,084
(86)
(59)
38
$2,209
-
-
-
(2)
(136)
(1,841)
(1)
$229
Common Stock
Value
$1,295
-
-
-
$1,295
-
-
-
-
$1,295
-
-
-
-
-
-
-
$1,295
Value
$9
-
-
-
$9
-
-
-
-
$9
1,072
3,169
(9)
-
-
-
-
$4,241
Shares
583
-
-
-
583
-
-
-
-
583
-
-
-
-
-
-
-
583
preferred stock and 136,320 shares of Series F preferred stock had been issued.
shares are redeemed. The shares are callable by the Bancorp at
par after three years and may be repurchased at any time under
certain circumstances. The terms also include restrictions on the
repurchase of common stock and an increase in common stock
dividends, which require the U.S. Treasury’s consent, for a period
of three years from the date of investment unless the preferred
shares are redeemed in whole or the U.S. Treasury has transferred
all of the preferred shares to a third party.
The proceeds from issuance of the Series F preferred stock
were allocated to the preferred stock and to the warrants based on
their relative fair values, which resulted in an initial book value of
$3.2 billion for the preferred stock and $239 million for the
warrants. The resulting discount to the preferred stock will be
accreted over five years through retained earnings as a preferred
stock dividend, resulting in an effective yield of 6.7% for the
Series F preferred stock for the first five years. The warrants will
remain in capital surplus at their initial book value until they are
exercised or expire.
The CPP terms also required that preferred stock issued to
U.S. Treasury rank senior to, or pari passu with, other preferred
stock. In order to meet the U.S. Treasury’s standard terms, in the
fourth quarter of 2008, the Bancorp repurchased its Series D and
Series E preferred stock. The preferred stock was repurchased for
aggregate consideration in cash of approximately $28 million, in
which $9 million par value was accounted for as retirement of the
Series D and Series E preferred stock and the remaining $19
million was recognized as dividends paid to the holders of the
preferred stock.
stock. During 2007,
During 2008, the Bancorp repurchased an immaterial amount of
common
repurchased
approximately 27 million shares of its common stock, five percent
of total outstanding shares, in open market transactions for $1.1
billion. During 2006, the Bancorp repurchased approximately 2
million shares of its common stock, less than one percent of total
outstanding shares, in open market transactions for $82 million.
the Bancorp
In 2008, 8.5% non-cumulative Series G convertible preferred
stock was issued in the second quarter. The depository shares
represented 46,000 shares of its convertible preferred stock and
had a liquidation preference of $25,000 per share. The preferred
stock is convertible at any time, at the option of the shareholder,
into 2,159.8272 shares of common stock, representing a
conversion price of approximately $11.575 per share of common
stock. As of December 31, 2008, Series G preferred stock had
44,300 shares outstanding and 1,700 shares reserved for issuance.
On December 31, 2008, the U.S. Treasury purchased
approximately $3.4 billion, or 136,320 shares, of the Bancorp’s
Fixed Rate Cumulative Perpetual Preferred Stock, Series F, with a
liquidation preference of $25,000 per share and related 10-year
warrants in the amount of 15% of the preferred stock investment.
The warrants allow the U.S. Treasury to purchase up to
43,617,747 shares of the Bancorp’s common stock with an
exercise price of $11.72. The Series F senior preferred stock was
issued complying with the terms established by the CPP. Per the
program terms, the U.S. Treasury’s investment consists of senior
preferred stock with a five percent dividend for each of the first
five years of investment and nine percent thereafter, unless the
86 Fifth Third Bancorp
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
20. STOCK-BASED COMPENSATION
The Bancorp has historically emphasized employee stock
ownership. Based on total stock-based awards outstanding and
shares
Incentive
Compensation Plan, the Bancorp’s total overhang is approximately
future grants under
remaining
the
for
12%. The following table provides detail of the number of shares
to be issued upon exercise of outstanding stock-based awards and
remaining shares available for future issuance under all of the
Bancorp’s equity compensation plans as of December 31, 2008:
Plan Category (shares in thousands)
Equity compensation plans approved by shareholders:
Stock options (a)
Stock appreciation rights (SARs)
Restricted stock
Performance units
Performance-based restricted stock
Employee stock purchase plan
Deferred stock compensation plans
Number of Shares to Be
Issued Upon Exercise
Weighted-Average
Exercise Price
17,769
(c)
5,584
(e)
180
$52.66
(c)
(d)
(d)
(d)
Shares Available
for Future Issuance
23,888(b)
(b)
(b)
(b)
(b)
(b)
568(f)
161
24,617
Total shares
(a) Excludes 2.8 million outstanding options awarded under plans assumed by the Bancorp in connection with certain mergers and acquisitions. The Bancorp has not made any awards under these
23,533
plans and will make no additional awards under these plans. The weighted-average exercise price of the outstanding options is $25.47 per share.
(b) Under the 2008 Incentive Compensation Plan, 33.0 million shares of stock were authorized for issuance as incentive and nonqualified stock options, SARs, restricted stock and restricted stock
units, performance shares and performance restricted stock awards.
(c) At December 31, 2008, approximately 22.5 million SARs were outstanding at a weighted-average grant price of $35.43. The number of shares to be issued upon exercise will be determined at
vesting based on the difference between the grant price and the market price at the date of exercise.
(d) Not applicable.
(e) The number of shares to be issued is dependent upon the Bancorp achieving certain predefined performance targets and ranges from zero shares to approximately 366 thousand shares.
(f) Represents remaining shares of Fifth Third common stock under the Bancorp’s 1993 Stock Purchase Plan, as amended and restated, including an additional 1,500,000 shares approved by
shareholders on March 28, 2006.
Stock-based awards are eligible for issuance under the Bancorp’s
Incentive Compensation Plan to key employees and directors of
the Bancorp and its subsidiaries. The Incentive Compensation
Plan was approved by shareholders on April 15, 2008. The plan
has authorized the issuance of up to 33 million shares as equity
compensation and provides for incentive and nonqualified stock
options, stock appreciation rights, restricted stock and restricted
stock units, and performance share and restricted stock awards.
All of the Bancorp's stock-based awards are to be settled with
stock with the exception of a portion of the performance shares
that are to be settled in cash. The Bancorp has historically used
treasury stock to settle stock-based awards, when available. Stock
options, issued at fair market value based on the closing price of
the Bancorp’s common stock on the date of grant, have up to ten-
year terms and vest and become fully exercisable ratably over a
three or four year period of continued employment. SARs, issued
at fair market value based on the closing price of the Bancorp’s
common stock on the date of grant, have up to ten-year terms and
vest and become exercisable either ratably or fully over a four year
period of continued employment. The Bancorp does not grant
discounted stock options or SARs, re-price previously granted
stock options or SARs, or grant reload stock options. Restricted
stock grants vest either after four years or ratably after three, four
and five years of continued employment and include dividend and
voting rights. Performance share and performance restricted
stock awards have three-year cliff vesting terms with performance
or market conditions as defined by the plan.
Effective January 1, 2006, the Bancorp adopted SFAS No.
123(R) using the modified retrospective application basis in
accounting for stock-based compensation plans. Under SFAS
No. 123(R), the Bancorp recognizes compensation expense for
the grant-date fair value of stock-based compensation issued over
its requisite service period. The grant-date fair value of stock
options and SARs is measured using the Black-Scholes option-
pricing model. Awards with a graded vesting are expensed on a
straight-line basis.
The Bancorp uses assumptions, which are evaluated and
revised as necessary, in estimating the grant-date fair value of each
SAR grant. The weighted-average assumptions were as follows
for the years ended:
2006
6
23%
4.1%
4.9%
2008
6
30%
8.7%
3.3%
2007
6
22%
4.4%
4.6%
Expected life (in years)
Expected volatility
Expected dividend yield
Risk-free interest rate
The expected option life is derived from historical exercise
patterns and represents the amount of time that options granted
are expected to be outstanding. The expected volatility is based
on a combination of historical and implied volatilities of the
Bancorp’s common stock. The expected dividend yield is based
on annual dividends divided by the Bancorp’s stock price. The
risk-free interest rate for periods within the contractual life of the
option is based on the U.S. Treasury yield curve in effect at the
time of grant.
Stock-based compensation expense was $56 million, $63
million and $76 million for the years ended December 31, 2008,
2007 and 2006, respectively. The total related income tax benefit
recognized was $20 million, $22 million and $23 million for the
years ended December 31, 2008, 2007 and 2006, respectively. The
following tables include a summary of stock-based compensation
transactions for the previous three fiscal years:
2008
2007
2006
Weighted-
Average
Exercise Price
Stock Options (shares in thousands)
$46.49
Outstanding at January 1
-
Granted (a)
21.70
Exercised
53.24
Forfeited or expired
$47.58
Outstanding at December 31
Exercisable at December 31
$47.43
(a) 2008 Options granted include 1,131 options assumed as part of the First Charter Corporation acquisition completed on June 6, 2008. These options were granted under a First Charter
Weighted-
Average
Exercise Price
$49.07
11.57
15.32
40.73
$48.97
$48.97
Weighted-
Average
Exercise Price
$47.58
40.98
26.91
53.87
$49.07
$49.07
Shares
31,546
-
(1,931)
(2,715)
26,900
25,978
Shares
26,900
4
(2,068)
(1,191)
23,645
23,628
Shares
23,645
1,133
(202)
(4,012)
20,564
20,564
Corporation Plan assumed by the Bancorp.
Fifth Third Bancorp 87
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The weighted-average grant-date fair value of stock options
granted for the years ended 2008 and 2007 was $2.87 and $7.39
per share, respectively. There were no stock options granted
during 2006.
The total intrinsic value of options exercised was $1 million,
$28 million and $32 million in 2008, 2007 and 2006, respectively.
Cash received from options exercised was $3 million, $48 million
and $35 million in 2008, 2007 and 2006, respectively. The actual
tax benefit realized from the exercised options was $1 million, $7
2008
million and $9 million in 2008, 2007 and 2006, respectively. The
total grant-date fair value of stock options that vested during
2008, 2007 and 2006 was $0.2 million, $16 million and $25
million, respectively. As of December 31, 2008, the aggregate
intrinsic value of both outstanding options and exercisable
options was $28 thousand.
At December 31, 2008, stock-based compensation expense
related to non-vested stock options not yet recognized was
immaterial to the Bancorp’s Consolidated Financial Statements.
2007
2006
Stock Appreciation Rights (shares in thousands)
Outstanding at January 1
Granted
Exercised
Forfeited or expired
Outstanding at December 31
Exercisable at December 31
Shares
17,526
6,836
-
(1,854)
22,508
8,352
Weighted-
Average
Grant Price
$41.81
19.25
-
36.03
$35.43
$44.46
Shares
13,053
6,613
(56)
(2,084)
17,526
2,972
Weighted-
Average
Grant Price
$43.43
38.45
39.36
41.36
$41.81
$41.45
Weighted-
Average
Grant Price
$47.51
39.18
-
44.31
$43.43
$42.99
Shares
7,541
6,949
-
(1,437)
13,053
989
The weighted-average grant-date fair value of SARs granted
was $2.09, $6.24 and $7.35 per share for the years ended 2008,
2007 and 2006, respectively. The total grant-date fair value of
SARs that vested during 2008, 2007 and 2006 was $61 million, $19
million and $10 million, respectively.
At December 31, 2008, there was $22 million of stock-based
compensation expense related to non-vested SARs not yet
recognized. The expense is expected to be recognized over a
remaining weighted-average period of approximately 2.2 years.
Restricted Stock (shares in thousands)
Nonvested at January 1
Granted
Vested
Forfeited
Nonvested at December 31
2008
2007
2006
Weighted-
Average
Grant-Date
Fair Value
$40.80
19.27
48.62
30.72
$29.04
Shares
3,519
3,157
(486)
(606)
5,584
Shares
2,380
1,622
(39)
(444)
3,519
Weighted-
Average
Grant-Date
Fair Value
$40.28
38.19
48.28
40.95
$40.80
Weighted-
Average
Grant-Date
Fair Value
$46.16
38.93
44.91
40.76
$40.28
Shares
1,482
1,265
(24)
(343)
2,380
The total grant-date fair value of restricted stock that vested
during 2008, 2007 and 2006 was $23.7 million, $1.9 million and
$1.1 million, respectively. At December 31, 2008, there was $50
to
million of stock-based compensation expense
nonvested restricted stock not yet recognized. The expense is
expected to be recognized over a remaining weighted-average
period of approximately 3.1 years.
related
The following table summarizes outstanding and exercisable
stock options by exercise price at December 31, 2008:
Outstanding and Exercisable Stock Options
Exercise Price
per Share
Under $10.00
$10.01-$25.00
$25.01-$40.00
$40.01-$55.00
Over $55.00
All stock options
Number of
Options at
Year End
(000’s)
335
1,212
871
13,879
4,267
20,564
Weighted-
Average
Exercise
Price
$9.30
15.27
34.37
48.36
66.61
$48.97
Weighted-Average
Remaining
Contractual Life
(in years)
2.34
3.91
2.00
1.99
3.26
2.37
thousand, 132
Approximately 186
thousand and 111
thousand shares of performance-based awards were granted
during 2008, 2007 and 2006, respectively. These awards are
payable in stock and cash contingent upon the Bancorp achieving
certain predefined performance targets over the three-year
measurement period. These performance targets are based on the
Bancorp’s performance relative to a defined peer group. The
performance-based awards were granted at a weighted-average
grant-date fair value of $19.18, $39.89 and $39.14 per share during
2008, 2007 and 2006, respectively.
88 Fifth Third Bancorp
137
180
and
thousand
Approximately
thousand
performance-based restricted shares were granted during 2008 and
2007, respectively. These awards are payable in stock contingent
upon the Bancorp achieving certain predefined performance
targets over the one-year measurement period. These performance
targets are based on the Bancorp’s performance relative to a
defined peer group. If performance targets are met, the shares are
vested over a three-year period. The performance-based restricted
shares were granted at a weighted-average grant-date fair value of
$23.39 and $38.27 per share during 2008 and 2007, respectively.
The performance condition related to the performance-based
restricted shares was achieved in 2007 and was not achieved in
2008.
At December 31, 2008, there were 7.2 million incentive
options, 13.4 million non-qualified options, 22.5 million SARs, 5.4
million restricted stock awards outstanding, 0.4 million shares
reserved for performance unit awards, 0.2 million restricted
performance stock awards and 23.9 million shares available for
grant. Stock options, SARs and restricted stock outstanding
represent approximately eight percent of the Bancorp’s issued
shares at December 31, 2008.
The Bancorp sponsors a stock purchase plan that allows
qualifying employees to purchase shares of the Bancorp’s
common stock with a 15% match. During the years ended
December 31, 2008, 2007 and 2006, respectively, there were
712,338, 333,039 and 317,483 shares purchased by participants
and the Bancorp recognized stock-based compensation expense
of $2 million for each of the years ended 2008, 2007 and 2006.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
21. OTHER NONINTEREST INCOME AND OTHER NONINTEREST EXPENSE
The major components of other noninterest income and other noninterest expense for the years ended December 31:
($ in millions)
Other noninterest income:
Gain on redemption of Visa, Inc. ownership shares
CitFed litigation settlement
Cardholder fees
Consumer loan and lease fees
Operating lease income
Insurance income
Banking center income
Gain (loss) on loan sales
Loss on sale of other real estate owned
Bank owned life insurance income (loss)
Other
Total
Other noninterest expense:
Loan processing
Marketing
Professional services fees
Provision for unfunded commitments and letters of credit
FDIC insurance and other taxes
Affordable housing investments
Intangible asset amortization
Travel
Postal and courier
Recruitment and education
Operating lease
Supplies
Visa litigation expense (share redemption)
Debt and other financing agreement termination
Other
Total
2008
2007
2006
$273
76
58
51
47
36
31
(11)
(60)
(156)
18
$363
$188
102
102
98
73
67
56
54
54
33
32
31
(99)
-
298
$1,089
-
-
56
46
32
32
29
25
(14)
(106)
53
153
119
84
54
16
31
57
42
54
52
41
22
31
172
-
214
989
-
-
49
47
26
28
22
17
(8)
86
32
299
93
78
41
5
39
42
45
52
49
51
18
28
-
49
173
763
22. INCOME TAXES
The Bancorp and its subsidiaries file a consolidated federal income tax return. The following is a summary of applicable income taxes included
in the Consolidated Statements of Income at December 31:
($ in millions)
Current income tax expense:
U.S. income taxes
State and local income taxes
Non-U.S. income taxes
Total current tax expense
Deferred income tax expense:
U.S. income taxes
State and local income taxes
Non-U.S. income taxes
Total deferred tax expense
Applicable income tax expense (benefit)
2008
2007
2006
$560
25
3
588
623
16
-
639
(1,090)
(47)
(2)
(1,139)
($551)
(197)
19
-
(178)
461
457
7
-
464
(24)
3
-
(21)
443
2006
35.0
.4
(2.8)
(3.9)
(2.2)
-
1.1
(.4)
27.2
A reconciliation between the statutory U.S. income tax rate and the Bancorp’s effective tax rate for the years ended December 31:
Statutory tax rate
Increase (decrease) resulting from:
State taxes, net of federal benefit
Tax-exempt income
Credits
Dividends on subsidiary preferred stock
Goodwill
Interest to taxing authority, net of tax
Other, net
Effective tax rate
2008
(35.0%)
2007
35.0
(.5)
1.5
(3.6)
-
11.9
5.1
(.1)
(20.7%)
1.5
1.4
(5.0)
(2.5)
-
.1
(.5)
30.0
Tax-exempt income in the rate reconciliation table includes
interest on municipal bonds, interest on tax-exempt lending, and
income/charges on life insurance policies held by the Bancorp.
The effective tax rate was adversely impacted in 2008 and 2007 by
$215 million and $177 million, respectively, of charges to one of
the Bancorp’s BOLI policies. See Note 12 for a further
discussion of those charges.
The Internal Revenue Service has completed its audits for
the 2004 and 2005 income tax years. In addition to the leveraged
leases, there are several items that are currently being addressed as
part of the appeals process and are considered in arriving at the
Bancorp’s uncertain tax position liability discussed below. The
statute of limitations for federal income tax returns remains open
for tax years 2004 through 2008. In addition, limited federal
Fifth Third Bancorp 89
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
statute extensions are in place for tax years 1997 through 2003,
primarily for leasing uncertainties. With the exception of the state
impact of the federal items discussed above as well as a few states
with insignificant uncertain liabilities, the statutes of limitations
for state income tax returns remain open for tax years in
accordance with the various states’ statutes.
As of January 1, 2007, the Bancorp adopted FIN 48. Upon
adoption of this Interpretation on January 1, 2007, the Bancorp
recognized an after-tax adjustment to beginning retained earnings
of $2 million representing the cumulative effect of applying the
provisions of this Interpretation. At December 31, 2008 and at
December 31, 2007, the Bancorp had unrecognized tax benefits of
$959 million and $469 million, respectively. Those balances
included $83 million and $100 million of tax positions that, if
recognized, would impact the effective tax rate and $1 million and
$6 million in tax positions that would impact goodwill. The
remaining $875 million and $363 million is related to tax positions
for which the ultimate deductibility is highly certain but for which
there is uncertainty about the timing of the deductions. A
significant portion of these tax positions relate to the leveraged
lease litigation discussed below and in Note 16.
Any interest and penalties incurred in connection with
income taxes are recorded as a component of tax expense. For
the year ended December 31, 2008, the Bancorp accrued interest,
net of the related tax benefit, of $143 million and, at December
31, 2008, had accrued interest liabilities of $210 million, net of the
related tax benefits. No material liabilities were recorded for
penalties.
Included
in other assets at December 31, 2008 and
December 31, 2007 is a deposit of $1.0 billion and $386 million,
respectively, that the Bancorp made under Internal Revenue Code
($ in millions)
Unrecognized tax benefits at January 1
Gross increases for tax positions taken during prior period
Gross decreases for tax positions taken during prior period
Gross increases for tax positions taken during current period
Settlements with taxing authorities
Lapse of applicable statute of limitations
Unrecognized tax benefits at December 31
section 6603 for taxes associated with the leveraged lease
portfolio.
involving
leveraged
As previously disclosed, during May 2005, the Bancorp filed
suit in the United States District Court of the Southern District of
Ohio against the IRS seeking a refund of taxes paid as a result of
the audit of the 1997 tax year. This suit involves a determination
of the correct tax treatment of certain leveraged leases entered
into by the Bancorp. The outcome of this litigation will impact a
number of leveraged leases entered into from 1997 through 2004.
During the second quarter of 2008, the Bancorp increased its
liability for uncertain tax positions relating to these leases based
upon several factors, including the jury’s verdict in the form of
answers to interrogatories in the Bancorp’s case, and two other
court cases
in the
Bancorp’s case has not issued his final ruling. In December of
2008,
into a Stipulated Conditional
Dismissal. This Conditional Order of Dismissal without prejudice
and with leave allows the Bancorp to enter into settlement
discussions with the US Department of Justice under the
Settlement Initiatives offered by the Internal Revenue Service.
The Stipulated Conditional Dismissal is effective until June of
2009. Therefore, it is reasonably possible that the amount of the
unrecognized benefit with respect to certain of the Bancorp’s
uncertain tax positions could significantly change during the next
12 months. If the Bancorp is able to reach an amenable
settlement, it is possible that the unrecognized tax benefits could
decrease by up to $875 million of the $959 million as of
December 31, 2008 disclosed below.
the Bancorp entered
leasing. The
judge
The following table provides a reconciliation of the
beginning and ending amounts of the Bancorp’s unrecognized tax
benefits.
2008
$469
496
(8)
4
-
(2)
$959
2007
446
-
-
47
(4)
(20)
469
Deferred income taxes are included as a component of other assets and accrued taxes, interest and expenses in the Consolidated Balance
Sheets and are comprised of the following temporary differences at December 31:
($ in millions)
Deferred tax assets:
Allowance for credit losses
Deferred compensation
Accrued interest
Other comprehensive income
State net operating losses
Other
Total deferred tax assets
Deferred tax liabilities:
Lease financing
State deferred taxes
Bank premises and equipment
Mortgage servicing rights
Other comprehensive income
Other
Total deferred tax liabilities
Total net deferred tax asset (liability)
2008
2007
$975
171
104
-
58
328
$1,636
$849
44
96
149
53
144
$1,335
$301
328
174
33
68
72
188
863
1,344
149
75
160
-
154
1,882
(1,019)
Retained earnings at December 31, 2008 included $157 million
in allocations of earnings for bad debt deductions of former thrift
subsidiaries for which no income tax has been provided. Under
current tax law, if certain of the Bancorp’s subsidiaries use these
bad debt reserves for purposes other than to absorb bad debt
losses, they will be subject to federal income tax at the current
corporate tax rate.
90 Fifth Third Bancorp
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
23. RETIREMENT AND BENEFIT PLANS
SFAS No. 158, “Employers’ Accounting for Defined Benefit
Pension and Other Postretirement Plans – an amendment of
FASB Statements No. 87, 88, 106 and 132(R)” requires the
funded status of pension plans to be recorded in the balance sheet
as an asset for plans with an overfunded status and a liability for
plans with an underfunded status. The Bancorp recognized the
overfunded and underfunded status of its pension plans as an
asset and liability, respectively, in the Consolidated Balance Sheets
as of December 31, 2008 and 2007.
Overfunded and underfunded amounts recognized in other
assets and other liabilities in the Consolidated Balance Sheets for
the defined benefit retirement plans as of December 31 consist of:
($ in millions)
Prepaid benefit cost
Accrued benefit liability
Net (underfunded) overfunded status
2008
$ -
(84)
($84)
2007
37
(36)
1
The
following
tables summarize
the defined benefit
retirement plans as of and for the years ended December 31:
Plans With an Overfunded Status (a)
($ in millions)
Fair value of plan assets at January 1
Actual return on assets
Settlement
Benefits paid
Fair value of plan assets at December 31
Projected benefit obligation at January 1
Service cost
Interest cost
Settlement
Actuarial loss
Benefits paid
Projected benefit obligation at December 31
Overfunded projected benefit obligation recognized
in the Consolidated Balance Sheets as an asset
2008
$ -
-
-
-
$ -
$ -
-
-
-
-
-
$ -
2007
252
12
(20)
(7)
237
213
-
12
(20)
2
(7)
200
37
(a) The Bancorp’s defined benefit plan had an overfunded status for December 31, 2007. The
plan was underfunded at December 31, 2008 and is reflected in the Underfunded Status table.
$ -
Plans With an Underfunded Status
($ in millions)
Fair value of plan assets at January 1
Actual return on assets
Contributions
Settlement
Benefits paid
Fair value of plan assets at December 31
Projected benefit obligation at January 1
Service cost
Interest cost
Settlement
Actuarial loss
Benefits paid
Projected benefit obligation at December 31
Unfunded projected benefit obligation recognized in
the Consolidated Balance Sheets as a liability
2008
$237
(70)
4
(17)
(10)
$144
$236
-
13
(17)
6
(10)
$228
2007
-
-
3
-
(3)
-
37
-
2
-
-
(3)
36
($84)
(36)
The estimated net actuarial loss and prior service cost for the
defined benefit pension plans that will be amortized from
accumulated other comprehensive income into net periodic
benefit cost during 2009 are $16 million and $1 million,
respectively.
The following tables summarize net periodic benefit cost and other
changes in plan assets and benefit obligations recognized in other
comprehensive income for the years ended December 31:
($ in millions)
Components of net periodic benefit cost:
Service cost
Interest cost
Expected return on assets
Amortization of net actuarial loss
Amortization of net prior service cost
Settlement
Net periodic benefit cost
($ in millions)
Other changes in plan assets and benefit
obligations recognized in other
comprehensive income:
Net actuarial loss
Net prior service cost
Amortization of net actuarial loss
Amortization of prior service cost
Settlements
Total recognized in other comprehensive
income
Total recognized in net periodic benefit
cost and other comprehensive income
2008
2007
2006
$ -
13
(18)
7
1
10
$13
-
14
(19)
7
1
7
10
1
13
(19)
9
1
8
13
2008
2007
$93
-
(7)
(1)
(10)
75
$88
10
-
(7)
(1)
(7)
(5)
5
The plan assumptions are evaluated annually and are updated as
necessary. The discount rate assumption reflects the yield on a
portfolio of high quality fixed-income instruments that have a
similar duration to the plan’s liabilities. The expected long-term
rate of return assumption reflects the average return expected on
the assets invested to provide for the plan’s liabilities. In
determining the expected long-term rate of return, the Bancorp
evaluated actuarial and economic inputs, including long-term
inflation rate assumptions and broad equity and bond indices
long-term return projections, as well as actual long-term historical
plan performance.
The following table summarizes the plan assumptions for
the years ended December 31:
Weighted-average assumptions
For measuring benefit obligations at
year end:
Discount rate
Rate of compensation increase
Expected return on plan assets
For measuring net periodic benefit cost:
Discount rate
Rate of compensation increase
Expected return on plan assets
2008
2007
2006
6.11 %
5.00
8.53
6.45
5.00
8.50
6.26
5.00
8.52
5.80
5.00
8.50
5.80
5.00
8.50
5.375
5.00
8.45
The Bancorp’s qualified defined benefit plan and other retirement
plans are currently underfunded. The benefit plan’s benefits were
frozen in 1998, except for grandfathered employees. The
Bancorp’s other retirement plans consist of nonqualified,
supplemental retirement plans, which are funded on an as needed
basis. A majority of these plans were obtained in acquisitions
from prior years.
Lowering both the expected rate of return on the plan and
the discount rate by 0.25% would have increased the 2008
pension expense by approximately $1 million.
Plan assets consist primarily of common trust and mutual
funds (equities and fixed income) and Bancorp common stock.
As of December 31, 2008 and 2007, $124 million and $153
million, respectively, of plan assets were managed by Fifth Third
Bank, a subsidiary of the Bancorp, through common trust and
mutual funds and included $3 million and $9 million, respectively,
of Bancorp common stock. Plan assets are not expected to be
returned to the Bancorp during 2009.
Fifth Third Bancorp 91
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Bancorp’s policy for the investment of plan assets is to
employ investment strategies that achieve a range of weighted-
average target asset allocations relating to equity securities
(including the Bancorp’s common stock), fixed income securities
and cash. The following table provides the Bancorp’s targeted
and actual weighted-average asset allocations by asset category for
2008 and 2007:
Weighted-average asset allocation
Equity securities
Bancorp common stock
Total equity securities
Total fixed income securities
Cash
Total
Targeted
range
70 – 80%
20 – 25
0 - 5
2008
68%
2
70
27
3
100%
2007
71
5
76
20
4
100
The risk tolerance for the plan is determined by management
to be moderate to aggressive, recognizing that higher returns
involve some volatility and that periodic declines in the portfolio’s
value are tolerated in an effort to achieve real capital growth.
Prohibited asset classes of the plan include precious metals,
venture capital, short sales and leveraged transactions. Per the
Employee Retirement Income Security Act
the
Bancorp’s common stock cannot exceed ten percent of the fair
(ERISA),
market value of plan assets.
The accumulated benefit obligation for all defined benefit
plans was $227 million and $235 million at December 31, 2008
and 2007, respectively. At December 31, 2008 and 2007, amounts
relating to the Bancorp’s defined benefit plans with benefit
obligations exceeding assets were as follows:
($ in millions)
Projected benefit obligation
Accumulated benefit obligation
Fair value of plan assets
2008
$228
227
144
2007
36
36
-
Based on actuarial assumptions, the Bancorp’s minimum
required contribution is $168,000 for 2009. Estimated pension
benefit payments, which reflect expected future service, are $21
million in 2009, $19 million in 2010, $19 million in 2011, $19
million in 2012 and $17 million in 2013. The total estimated
payments for the years 2014 through 2018 is $78 million.
The Bancorp’s profit sharing plan expense was $18 million
for 2008, $13 million for 2007 and $22 million for 2006.
Expenses recognized during the years ended December 31, 2008,
2007 and 2006 for matching contributions to the Bancorp’s
defined contribution savings plans were $37 million, $37 million
and $35 million, respectively.
24. EARNINGS PER SHARE
The calculation of earnings per share and the reconciliation of earnings per share to earnings per diluted share for the years ended December 31:
(in millions, except per share data)
Earnings per share:
Net income (loss) before cumulative effect
Dividends on preferred stock
Net income (loss) available to common
shareholders before cumulative effect
Cumulative effect of change in accounting
principle, net of tax
Net income (loss) available to common
2008
Average
Shares
Per Share
Amount
Income
$1,076
1
Income
($2,113)
67
(2,180)
553
($3.94)
1,075
-
-
-
-
shareholders
($2,180)
553
($3.94)
$1,075
2007
Average
Shares
Per Share
Amount
2006
Average
Shares
Per Share
Amount
Income
$1,184
-
538
-
538
$2.00
1,184
-
4
$2.00
$1,188
555
-
555
$2.13
.01
$2.14
Earnings per diluted share:
Net income (loss) available to common
shareholders before cumulative effect
Effect of dilutive securities:
Stock based awards
Convertible preferred stock (a) (b)
Income (loss) plus assumed conversions
before cumulative effect
Cumulative effect of change in accounting
principle, net of tax
Net income (loss) available to common
($2,180)
553
($3.94)
$1,075
538
$2.00
$1,184
555
$2.13
-
(2,180)
-
-
-
553
-
-
-
-
(3.94)
1,076
-
-
2
-
540
-
(.01)
-
-
$1.99
1,184
-
4
2
-
557
-
(.01)
-
2.12
.01
shareholders plus assumed conversions
$2.13
($3.94)
(a) The effect of dilutive securities on the dividends on preferred stock for year ended December 31, 2008 was included in the calculation of net income available to common shareholders, however, it was
($2,180)
$1,188
$1,076
$1.99
540
557
553
excluded from assumed conversions because the effect would be anti-dilutive.
(b) The additive effect to income from dividends on convertible preferred stock is $.580 million and the average share dilutive effect from convertible preferred stock is .308 million shares for the years
ended December 31, 2007 and 2006.
Due to the net loss for the year ended December 31, 2008, the
diluted earnings per share calculation excludes all common stock
equivalents,
including 43 million stock options and stock
appreciation rights, 6 million shares of restricted stock, 96 million
common shares from convertible preferred stock and 44 million
shares under warrants related to the CPP as their inclusion would
have been anti-dilutive to earnings per share.
At December 31, 2007 and 2006, there were 36.2 million and
33.1 million shares outstanding, respectively, that were not
included in the computation of net income per diluted share. The
outstanding shares consist of options and stock appreciation
rights that had not yet been exercised, and unvested restricted
stock. The options and stock appreciation rights are excluded
from the computation of net income per diluted shares because
the exercise price of the shares was greater than the average
market price of the common shares and, therefore, the effect
would be anti-dilutive. Restricted shares are excluded from the
calculation until vested.
During the first quarter of 2006, the Bancorp recognized a
benefit for the cumulative effect of change in accounting principle
of $4 million, net of $2 million of tax, related to the adoption of
SFAS No. 123(R). The benefit recognized relates to the
Bancorp’s estimate of forfeiture experience to be realized for all
unvested stock-based awards outstanding.
92 Fifth Third Bancorp
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
transaction between market participants at
25. FAIR VALUE MEASUREMENTS
Effective January 1, 2008, the Bancorp adopted SFAS No. 157,
which provides a framework for measuring fair value under
accounting principles generally accepted in the United States of
America. SFAS No. 157 defines fair value as the price that would
be received to sell an asset or paid to transfer a liability in an
orderly
the
measurement date. SFAS No. 157 also establishes a fair value
hierarchy, which prioritizes the inputs to valuation techniques
used to measure fair value into three broad levels. The fair value
hierarchy gives the highest priority to quoted prices in active
markets for identical assets or liabilities (Level 1) and the lowest
priority to unobservable inputs (Level 3). A financial instrument’s
categorization within the fair value hierarchy is based upon the
lowest level of input that is significant to the instrument’s fair
value measurement. The three levels within the fair value
hierarchy are described as follows:
Level 1 - Quoted prices (unadjusted) in active markets for
identical assets or liabilities that the Bancorp has the ability
to access at the measurement date.
Level 2 - Inputs other than quoted prices included within
Level 1 that are observable for the asset or liability, either
directly or indirectly. Level 2 inputs include: quoted prices
for similar assets or liabilities in active markets; quoted prices
for identical or similar assets or liabilities in markets that are
not active;
inputs other than quoted prices that are
observable for the asset or liability; and inputs that are
is
little,
derived principally from or corroborated by observable
market data by correlation or other means.
Level 3 - Unobservable inputs for the asset or liability for
if any, market activity at the
which there
measurement date.
the
Unobservable
Bancorp’s own assumptions about what market participants
would use to price the asset or liability. The inputs are
developed based on the best information available in the
circumstances, which might include the Bancorp’s own
financial data such as internally developed pricing models,
discounted cash flow methodologies, as well as instruments
for which the fair value determination requires significant
management judgment.
inputs reflect
Effective January 1, 2008, the Bancorp adopted SFAS No.
159, which allows an entity the irrevocable option to elect fair
value for the initial and subsequent measurement for certain
financial assets and liabilities on an instrument-by-instrument
basis. Upon election of the fair value option in accordance with
SFAS No. 159, subsequent changes in fair value are recorded as
an adjustment to earnings.
Assets and Liabilities Measured at Fair Value on a
Recurring Basis
The following table summarizes assets and liabilities measured at
fair value on a recurring basis, including financial instruments in
which the Bancorp has elected the fair value option in accordance
with SFAS No. 159.
As of December 31, 2008 ($ in millions)
Assets:
Available-for-sale securities (a)
Trading securities
Loans held for sale (b)
Residential mortgage loans (c)
Other assets (d)
Total assets
Fair Value Measurements Using
Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
Significant
Other
Observable
Significant
Unobservable
Inputs
(Level 2)
Inputs
(Level 3)
Total Fair Value
$634
1
-
-
6
$641
11,151
1,190
881
-
3,189
16,411
146(f)
-
-
7
30
183
6
6
$11,931
1,191
881
7
3,225
$17,235
$2,049
$2,049
Liabilities:
Other liabilities (e)
Total liabilities
(a) Excludes FHLB and FRB restricted stock totaling $545 million and $252 million, respectively, which are carried at par.
(b) Includes residential mortgage loans held for sale.
(c) Includes residential mortgage loans originated as held for sale and subsequently transferred to held for investment.
(d) Includes derivatives with a positive fair value.
(e) Includes derivatives with a negative fair value and short positions.
(f) See Note 10 for a sensitivity analysis on residual interests from securitizations of automobile loans.
$30
$30
2,013
2,013
The following is a description of the valuation methodologies
used for significant instruments measured at fair value, as well as
the general classification of such instruments pursuant to the
valuation hierarchy.
Available-for-sale and trading securities
Where quoted prices are available in an active market, securities
are classified within Level 1 of the valuation hierarchy. Level 1
securities
include government bonds and exchange traded
equities. If quoted market prices are not available, then fair
values are estimated using pricing models, quoted prices of
securities with similar characteristics, or discounted cash flows.
instruments, which would generally be
Examples of such
classified within Level 2 of the valuation hierarchy, include
corporate and municipal bonds, mortgage-backed securities,
asset-backed securities and VRDNs. In certain cases where there
is limited activity or less transparency around inputs to the
valuation, securities are classified within Level 3 of the valuation
hierarchy. Securities classified within Level 3 consist primarily of
residual interests in securitizations of automobile loans. These
residual interests are valued using discounted cash flow models
that integrate significant unobservable inputs, including discount
rates, prepayment speeds, and loss rates which are estimated
based on actual performance of similar loans transferred in
previous securitizations. Refer to Note 10 for further information
on residual interests.
Fifth Third Bancorp 93
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Residential mortgage loans held for sale
For residential mortgage loans held for sale, fair value is estimated
based upon mortgage-backed securities prices and spreads to
those prices or, for certain assets, discounted cash flow models
that may incorporate the anticipated portfolio composition, credit
spreads of asset-backed securities with similar collateral, and
market conditions. Residential mortgage loans held for sale are
classified within Level 2 of the valuation hierarchy. For
residential mortgage loans reclassified from held for sale to held
for investment, the fair value estimation is based primarily on the
underlying collateral values. Therefore, these loans are classified
within Level 3 of the valuation hierarchy.
Derivatives
Exchange-traded derivatives valued using quoted prices are
classified within Level 1 of the valuation hierarchy. However, few
classes of derivative contracts are listed on an exchange. Most
derivative contracts are valued using discounted cash flow or
other models that incorporate current market interest rates, credit
spreads assigned to the derivative counterparties, and other
market parameters. The majority of the Bancorp's derivative
positions are valued utilizing models that use as their basis readily
observable market parameters and are classified within Level 2 of
the valuation hierarchy. Such derivatives include basic and
structured interest rate swaps and options. Derivatives that are
valued based upon models with significant unobservable market
parameters are classified within Level 3 of the valuation hierarchy.
At December 31, 2008, derivatives classified as Level 3 consisted
primarily of interest rate lock commitments, which utilize
internally generated loan closing rate assumptions as a significant
unobservable input in the valuation process. The net fair value of
the interest rate lock commitments was $22 million at December
31, 2008. At December 31, 2008, immediate decreases in current
interest rates of 25 bp and 50 bp would result in increases in the
fair value of the interest rate lock commitments of approximately
$12 million and $20 million, respectively. Immediate increases of
current interest rates of 25bp and 50 bp would result in decreases
in the fair value of the interest rate lock commitments of
approximately $16 million and $37 million, respectively. The
change in fair value of interest rate lock commitments at
December 31, 2008 due to immediate 10% and 20% adverse
rates would be
changes
approximately $2 million and $4 million respectively, and due to
immediate 10% and 20% favorable changes in the assumed loan
closing rates would be approximately $2 million and $4 million,
respectively. These sensitivities are hypothetical and should be
used with caution, as changes in fair value based on a variation in
assumptions
the
relationship of the change in assumptions to the change in fair
value may not be linear.
typically cannot be extrapolated because
the assumed
loan closing
in
The following table is a reconciliation of all assets and
liabilities measured at fair value on a recurring basis using
significant unobservable inputs (Level 3) for the year ended
December 31, 2008:
Fair Value Measurements Using Significant Unobservable Inputs (Level 3)
Available-for-
Sale Securities
$10
Residential
Mortgage
Loans
Derivatives, Net
(a)
Total
Fair Value
$6
($ in millions)
Beginning balance
Total gains or losses (realized/unrealized):
Included in earnings
Included in other comprehensive income
Purchases, sales, issuances and settlements, net
Transfers in and/or out of Level 3 (b)
Ending balance
The amount of total gains or losses for the period included in earnings
attributable to the change in unrealized gains or losses relating to assets still
held at December 31, 2008 (c)
(a) Net derivatives include derivative assets and liabilities of $30 million and $6 million, respectively, at December 31, 2008, and derivative assets and liabilities of
38
1
124
8
$177
(15)
1
150
-
$146
54
-
(26)
-
24
(1)
-
-
8
7
($15)
$11
(1)
(4)
27
-
$9 million and $13 million, respectively, at January 1, 2008.
Includes residential mortgage loans held for sale that were transferred to held for investment.
Includes interest income and expense.
(b)
(c)
The total gains and losses included in earnings for the year ended December 31, 2008 for assets and liabilities measured at fair value on a
recurring basis using significant unobservable inputs (Level 3) were recorded in the Consolidated Statements of Income as follows:
($ in millions)
Interest income
Corporate banking revenue
Mortgage banking net revenue
Other noninterest income
Securities losses, net
Total gains
Gains (Losses)
$7
(4)
53
5
(23)
$38
The total gains and losses included in earnings for the year ended December 31, 2008 attributable to changes in unrealized gains and losses
related to Level 3 assets and liabilities still held at December 31, 2008 were recorded in the Consolidated Statements of Income as follows:
($ in millions)
Interest income
Corporate banking revenue
Mortgage banking net revenue
Other noninterest income
Securities losses, net
Total gains
94 Fifth Third Bancorp
Gains (Losses)
$7
1
21
5
(23)
$11
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
Certain assets and liabilities are measured at fair value on a nonrecurring basis. These assets and liabilities are not measured at fair value on an
ongoing basis; however, they are subject to fair value adjustments in certain circumstances, such as when there is evidence of impairment.
($ in millions)
Loans held for sale
Commercial loans
Commercial mortgage loans
Commercial construction loans
Servicing rights
Total
Fair Value Measurements Using
Total Losses
Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
Significant Other
Observable
Inputs
(Level 2)
$90
-
-
-
-
$90
-
-
-
-
-
-
Significant
Unobservable
Inputs
(Level 3)
383
512
461
743
496
2,595
Total
$473
512
461
743
496
$2,685
Year Ended
December 31, 2008
($523)
(298)
(186)
(274)
(207)
($1,488)
During the fourth quarter of 2008, the Bancorp transferred
certain commercial, commercial mortgage and commercial
construction loans from the portfolio to loans held for sale. The
Bancorp recognized losses from fair value adjustments of
approximately $523 million on these commercial loans at the time
of their reclassification to loans held for sale. For $90 million of
the loans, the fair value was based on executable broker quotes
from active market participants comparable to the executed bids
for similar loans sold by the Bancorp during the fourth quarter of
2008. Therefore, these loans were classified within Level 1 of the
valuation hierarchy. For $383 million of the loans, the fair value
was based on appraisals of the underlying collateral value.
Therefore, these loans were classified within Level 3 of the
valuation hierarchy.
During 2008,
recorded nonrecurring
commercial,
adjustments
loans
commercial mortgage and commercial construction
measured for impairment in accordance with SFAS No. 114. Such
amounts are generally based on the fair value of the underlying
collateral supporting the loan. In cases where the carrying value
exceeds the fair value of the collateral, an impairment loss is
recognized. The fair values and recognized impairment losses are
reflected in the previous table.
collateral-dependent
the Bancorp
certain
to
Fair Value Option
The Bancorp elected on January 1, 2008 to measure residential
mortgage loans held for sale at fair value in accordance with
SFAS No. 159. The election was prospective, at the instrument
level, for residential mortgage loans that have a designation as
held for sale on the day the specific loan closes. Electing to
measure residential mortgage loans held for sale at fair value
reduces certain timing differences, better matches changes in the
value of these assets with changes in the value of derivatives used
as economic hedges for these assets and eliminates the complex
hedge accounting requirements that were followed prior to the
adoption of SFAS No. 159.
specific
Management’s intent to sell residential mortgage loans
classified as held for sale may change over time due to such
factors as changes in the overall liquidity in markets or changes in
characteristics
sale.
to certain
Consequently, these loans may be reclassified to loans held for
investment and maintained in the Bancorp’s loan portfolio. In
such cases, the loans will continue to be measured at fair value in
accordance with SFAS No. 159. Residential loans with a fair
value of $7 million at December 31, 2008, including fair value
losses of $1 million, were transferred to the Bancorp’s portfolio
during 2008.
loans held
for
During 2008, the Bancorp recognized temporary impairment
of $207 million in certain classes of the mortgage servicing rights
portfolio in which the carrying value of the MSRs was written
down to their fair value as of December 31, 2008. MSRs do not
currently trade in an active, open market with readily observable
prices. While sales of MSRs do occur, the precise terms and
conditions typically are not readily available. Accordingly, the
Bancorp estimates the fair value of MSRs using discounted cash
flow models with certain unobservable
inputs, primarily
prepayment speed assumptions, resulting in a classification within
Level 3 of the valuation hierarchy. Refer to Note 10 for further
information on the Bancorp's mortgage servicing rights.
Fair value changes included in earnings for instruments for
which the fair value option was elected included gains of $13
million for the year ended December 31, 2008 and are reported as
mortgage banking net revenue in the Consolidated Statements of
Income.
Losses included in earnings attributable to changes in
instrument-specific credit risk for residential mortgage loans
reclassified from held for sale to held for investment were $1
million for the year ended December 31, 2008. Instrument-
specific credit risk for residential mortgage loans held for sale
measured at fair value are
the Bancorp’s
Consolidated Financial Statements due to the short time period
between the origination and sale of the loans. Interest on
residential mortgage loans measured at fair value is accrued as it is
earned using the effective interest method and is reported as
interest income in the Consolidated Statements of Income.
immaterial
to
The following table summarizes the difference between the aggregate fair value and the aggregate unpaid principal balance for residential
mortgage loans measured at fair value as of December 31, 2008.
($ in millions)
Residential mortgage loans measured at fair value
Past due loans of 90 days or more
Nonaccrual loans
Aggregate
Fair Value
$888
2
-
Aggregate Unpaid
Principal Balance
Difference
848
3
-
$40
(1)
-
Fifth Third Bancorp 95
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Financial Instruments Pertaining to SFAS No. 107, "Disclosures about Fair Value of Financial Instruments"
The following table summarizes carrying amounts and estimated fair values for certain financial instruments, excluding financial instruments
recorded at fair value on a recurring basis at December 31:
2008
2007
Carrying
Amount
Carrying
Amount
Fair Value
($ in millions)
Financial assets:
Cash and due from banks
Other securities (a)
Held-to-maturity securities
Other short-term investments
Loans held for sale (b)
Portfolio loans and leases, net (b)
Financial liabilities:
Deposits
Federal funds purchased
Other short-term borrowings
Long-term debt
(a)
(b) Excludes residential mortgage loans measured at fair value on a recurring basis in accordance with SFAS No. 159 at December 31, 2008.
$2,739
797
360
3,578
571
81,349
2,739
797
360
3,578
571
74,234
78,613
287
9,959
13,585
79,145
287
9,969
11,022
Includes FHLB and FRB restricted stock.
2,660
722
355
620
4,329
79,316
75,445
4,427
4,747
12,857
Fair Value
2,660
722
355
620
4,371
79,600
75,512
4,427
4,747
13,298
Loans held for sale
Fair values for commercial loans held for sale were valued based
on executable broker quotes when available, or on the fair value
of the underlying collateral. Based upon the timing of the
transfer of the commercial loans to held for sale, current carrying
values approximate fair value as of December 31, 2008. Fair
values for other consumer loans held for sale are based on
contractual values upon which the loans may be sold to a third
party, and approximate their carrying value as of December 31,
2008 and 2007.
Portfolio loans and leases, net
Fair values were estimated by discounting future cash flows using
the current market rates as similar loans would be made to
borrowers for the same remaining maturities.
Long-term debt
Fair value of long-term debt was based on quoted market prices,
when available, or a discounted cash flow calculation using
LIBOR/swap interest rates and, in some cases, a spread for new
issues for borrowings of similar terms.
Short-term financial assets, other securities and liabilities
For financial instruments with a short-term or no stated maturity,
prevailing market rates and limited credit risk, carrying amounts
approximate fair value. Those financial instruments include cash
and due from banks, FHLB and FRB restricted stock, other
short-term
interest
checking, savings, money market and foreign office deposits), and
federal funds purchased. Fair values for other time deposits,
certificates of deposit $100,000 and over, and other short-term
borrowings were estimated using a discounted cash flow
calculation that applied prevailing LIBOR/swap interest rates for
the same maturities.
investments, certain deposits
(demand,
Held-to-maturity securities
The Bancorp's held-to-maturity securities are primarily composed
of instruments that provide income tax credits as the economic
return on the investment. The fair value of these instruments is
estimated based on current U.S. Treasury tax credit rates.
96 Fifth Third Bancorp
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
26. CERTAIN REGULATORY REQUIREMENTS AND CAPITAL RATIOS
The principal source of income and funds for the Bancorp (parent
company) are dividends from its subsidiaries. During 2008, the
amount of dividends the bank subsidiaries could pay to the
Bancorp without prior approval of regulatory agencies was limited
to their 2008 eligible net profits, as defined, and the adjusted
retained 2007 and 2006 net income of those subsidiaries.
subject to limitations, general allowances for loan and lease losses.
Assets are adjusted under the risk-based guidelines to take into
account different risk characteristics. Average assets for this
purpose does not include goodwill and any other intangible assets
and investments that the FRB determines should be deducted
from Tier I capital.
The Bancorp’s subsidiary banks must maintain cash reserve
balances when total reservable deposit liabilities are greater than
the regulatory exemption. These reserve requirements may be
satisfied with vault cash and noninterest-bearing cash balances on
reserve with a Federal Reserve Bank. In 2008 and 2007, the
subsidiary banks were required to maintain average cash reserve
balances of $403 million and $330 million, respectively.
The FRB adopted guidelines pursuant to which it assesses the
adequacy of capital in examining and supervising a bank holding
company and in analyzing applications to it under the Bank
Holding Company Act of 1956, as amended. These guidelines
include quantitative measures that assign risk weightings to assets
and off-balance sheet items, as well as define and set minimum
regulatory capital requirements. All bank holding companies are
required to maintain core capital (Tier I) of at least 4% of risk-
weighted assets and off-balance sheet items (Tier I capital ratio),
total capital of at least 8% of risk-weighted assets and off-balance
sheet items (Total risk-based capital ratio) and Tier I capital of at
least 3% of adjusted quarterly average assets (Tier I leverage ratio).
Failure to meet the minimum capital requirements can initiate
certain actions by regulators that could have a direct material effect
on the Consolidated Financial Statements of the Bancorp.
Tier I capital consists principally of shareholders’ equity
including Tier I qualifying trust preferred securities or notes
payable pertaining to unconsolidated special purpose entities that
issue trust preferred securities. It excludes unrealized gains and
losses on available-for-sale securities and unrecognized pension
actuarial gains and losses and prior service cost, less goodwill and
certain other intangibles.
Tier II capital consists principally of perpetual and trust
preferred stock that is not eligible to be included as Tier I capital,
term subordinated debt, intermediate-term preferred stock and,
Both the FRB and the OCC have issued regulations regarding
the capital adequacy of subsidiary banks. These requirements are
substantially similar to those adopted by the FRB regarding bank
holding companies, as described above. In addition, the federal
banking agencies have issued substantially similar regulations to
implement the system of prompt corrective action established by
Section 38 of the Federal Deposit Insurance Act. Under the
regulations, a bank generally shall be deemed to be well-capitalized
if it has a Total risk-based capital ratio of 10% or more, a Tier I
capital ratio of 6% or more, a Tier I leverage ratio of 5% or more
and is not subject to any written capital order or directive. If an
institution becomes undercapitalized, it would become subject to
significant additional oversight, regulations and requirements as
mandated by the Federal Deposit Insurance Act. The Bancorp
and each of its subsidiary banks had Tier I, Total risk-based capital
and Tier I leverage ratios above the well-capitalized levels at
December 31, 2008 and 2007. As of December 31, 2008, the most
recent notification from the FRB categorized the Bancorp and
each of its subsidiary banks as well-capitalized under the regulatory
framework for prompt corrective action. To continue to qualify
for financial holding company status pursuant to the Gramm-
Leach-Bliley Act of 1999, the Bancorp’s subsidiary banks must,
among other things, maintain “well-capitalized” capital ratios.
U.S. bank regulatory authorities and international bank
supervisory organizations, principally the Basel Committee on
Banking Supervision, are currently considering changes to the risk-
based capital adequacy framework for banks, including emphasis
on credit, market and operational risk components, which
ultimately could affect the appropriate capital guidelines for bank
holding companies such as the Bancorp. Capital and risk-based
capital and leverage ratios for the Bancorp and its significant
subsidiary banks at December 31:
($ in millions)
Total risk-based capital (to risk-weighted assets):
Fifth Third Bancorp (Consolidated)
Fifth Third Bank (Ohio)
Fifth Third Bank (Michigan)
Fifth Third Bank, N.A.
Tier I capital (to risk-weighted assets):
Fifth Third Bancorp (Consolidated)
Fifth Third Bank (Ohio)
Fifth Third Bank (Michigan)
Fifth Third Bank, N.A.
Tier I leverage (to average assets):
Fifth Third Bancorp (Consolidated)
Fifth Third Bank (Ohio)
Fifth Third Bank (Michigan)
Fifth Third Bank, N.A.
2008
2007
Amount
Ratio
Amount
Ratio
$16,646
6,444
6,664
948
14.78 %
10.92
12.95
17.59
$11,733
6,058
5,787
519
10.16 %
10.39
10.13
21.76
11,924
4,799
5,692
880
11,924
4,799
5,692
880
10.59
8.13
11.06
16.33
10.27
7.03
10.45
14.11
8,924
4,744
5,191
503
8,924
4,744
5,191
503
7.72
8.13
9.09
21.07
8.50
8.11
10.55
25.59
Fifth Third Bancorp 97
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Condensed Statements of Cash Flows (Parent Company Only)
For the years ended December 31
2007
Operating Activities
Net income (loss)
Adjustments to reconcile net income to net
cash provided by operating activities:
Provision (benefit) for deferred income
($2,113)
2008
1,076
2006
1,188
1
(1)
17
(642)
-
(14)
11
(85)
40
1,903
57
(5)
(7)
(98)
132
(276)
-
46
(192)
873
549
(2,423)
(2,000)
-
(42)
(328)
(4,793)
763
2,126
(1,714)
(687)
4,480
4
(9)
(304)
-
6
(565)
-
(863)
13
2,135
(209)
(898)
-
50
-
(19)
-
(13)
-
(1,084)
(30)
4,931
(54)
115
$61
(23)
(13)
128
115
(544)
(25)
-
(107)
-
(676)
5
748
(13)
(867)
-
43
-
-
(82)
(8)
(174)
(301)
429
128
taxes
Increase in other assets
Increase in accrued expenses and other
liabilities
Decrease (increase) in undistributed
earnings of subsidiaries
Goodwill impairment
Other, net
Net Cash (Used in) Provided by
Operating Activities
Investing Activities
Increase in short-term investments
Capital contribution to subsidiaries
Decrease in held-to-maturity and available-
for-sale securities
(Increase) decrease in loans to subsidiaries
Net cash paid in business combinations
Net Cash Used in Investing Activities
Financing Activities
Increase in other short-term borrowings
Proceeds from issuance of long-term debt
Repayment of long-term debt
Payment of cash dividends
Issuance of preferred stock, series F, G
Exercise of stock-based awards
Retirement of preferred shares, series D, E
Dividends on redemption of preferred
shares, series D, E
Purchases of treasury stock
Other, net
Net Cash Provided by (Used in)
Financing Activities
Decrease in Cash
Cash at Beginning of Year
Cash at End of Year
2007
2008
2006
27. PARENT COMPANY FINANCIAL STATEMENTS
($ in millions)
Condensed Statements of Income (Parent Company Only)
For the years ended December 31
Income
Dividends from subsidiaries
Interest on loans to subsidiaries
Other
Total income
Expenses
Interest
Goodwill impairment
Other
Total expenses
Income (Loss) Before Income Taxes and
Change in Undistributed Earnings of
Subsidiaries
162
-
80
242
293
57
24
374
900
75
9
984
120
-
22
142
605
46
2
653
$ -
80
-
80
(294)
84
742
(58)
511
(35)
Applicable income tax (benefit) expense
Income (Loss) Before Change in
Undistributed Earnings of Subsidiaries
(210)
800
546
(Decrease) increase in undistributed
earnings of subsidiaries
Net Income (Loss)
(1,903)
($2,113)
276
1,076
642
1,188
Condensed Balance Sheets (Parent Company Only)
As of December 31
Assets
Cash
Short-term investments
Loans to subsidiaries
Investment in subsidiaries
Goodwill
Other assets
Total Assets
Liabilities
Commercial paper and other short-term
borrowings
Accrued expenses and other liabilities
Long-term debt
Total Liabilities
Shareholders’ Equity
Total Liabilities and Shareholders’ Equity
2008
2007
$61
3,508
1,243
13,453
80
959
$19,304
$783
119
6,325
7,227
12,077
$19,304
115
1,085
1,201
11,991
137
188
14,717
20
320
5,216
5,556
9,161
14,717
98 Fifth Third Bancorp
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
28. SEGMENTS
The Bancorp reports on five business segments: Commercial
Banking, Branch Banking, Consumer Lending, Processing
Solutions and Investment Advisors.
Results of the Bancorp’s business segments are presented
based on its management structure and management accounting
practices. The structure and accounting practices are specific to
the Bancorp; therefore, the financial results of the Bancorp’s
business segments are not necessarily comparable with similar
information for other financial institutions. The Bancorp refines
its methodologies from time to time as management accounting
practices are improved and businesses change.
The Bancorp manages interest rate risk centrally at the
corporate level by employing an FTP methodology. This
methodology insulates the business segments from interest rate
volatility, enabling them to focus on serving customers through
loan originations and deposit taking. The FTP system assigns
charge rates and credit rates to classes of assets and liabilities,
respectively, based on expected duration and the LIBOR swap
curve. Matching duration allocates interest income and interest
expense to each segment so its resulting net interest income is
insulated from interest rate risk. In a rising rate environment, the
Bancorp benefits from the widening spread between deposit costs
and wholesale funding costs. However, the Bancorp’s FTP
system credits this benefit to deposit-providing businesses, such as
Branch Banking and Investment Advisors, on a duration-adjusted
basis. The net impact of the FTP methodology is captured in
General Corporate and Other.
The business segments are charged provision expense based
on the actual net charge-offs experienced by the loans owned by
each segment. Provision expense attributable to loan growth and
changes in factors in the allowance for loan and lease losses are
captured in General Corporate and Other. The financial results of
the business segments include allocations for shared services and
headquarters expenses. Even with these allocations, the financial
results are not necessarily indicative of the business segments’
financial condition and results of operations as if they were to
exist as independent entities. Additionally, the business segments
form synergies by taking advantage of cross-sell opportunities and
when funding operations by accessing the capital markets as a
collective unit. Results of operations and average assets by
segment for each of the three years ended December 31 are:
2008 ($ in millions)
Net interest income (a)
Provision for loan and lease losses
Net interest income (loss) after provision
Commercial
Banking
$1,645
1,864
Branch
Banking
1,662
352
Consumer
Lending
497
425
Processing
Solutions
7
16
Investment
Advisors
183
49
General
Corporate
(458)
1,854
Eliminations
-
-
Total
3,536
4,560
(219)
1,310
for loan and lease losses
Noninterest income:
Electronic payment processing
Service charges on deposits
Corporate banking revenue
Investment advisory revenue
Mortgage banking net revenue
Other noninterest income
Securities gains (losses), net
Total noninterest income
Noninterest expense:
(2)
186
414
5
-
52
-
655
Salaries, wages and incentives
Employee benefits
Net occupancy expense
Payment processing expense
Technology and communications
Equipment expense
Goodwill impairment
Other noninterest expense
253
46
17
1
(2)
4
750
599
1,668
Total noninterest expense
Income (loss) before income taxes
(1,232)
Applicable income tax expense (benefit) (a) (535)
(697)
Net income (loss)
Dividends on preferred stock
-
Net income (loss) available to common
72
-
-
-
-
184
38
124
346
108
26
8
-
2
1
215
224
584
(166)
(58)
(108)
-
(9)
796
1
-
-
-
46
-
843
67
13
4
265
42
2
-
161
554
280
98
182
-
134
2
9
18
354
1
2
-
386
133
26
10
-
2
1
-
204
376
144
51
93
-
189
447
12
84
13
67
-
812
409
108
159
6
16
44
-
503
1,245
877
309
568
-
shareholders
Average assets
(a) Includes taxable-equivalent adjustments of $22 million.
(b) Electronic payment processing service revenues provided to the banking segments are eliminated in the Consolidated Statements of Income.
(c) Revenue sharing agreements between Investment Advisors and Branch Banking are eliminated in the Consolidated Statements of Income.
($697)
$47,849
(108)
23,039
568
46,178
93
5,496
182
968
(2,312)
-
(1,024)
(7)
(2)
-
(6)
1
158
(90)
54
367
59
102
2
131
78
-
(452)
287
(2,545)
(394)
(2,151)
67
(2,218)
(9,234)
(66)(b)
-
-
(84)(c)
-
-
-
(150)
-
-
-
-
-
-
-
(150)
(150)
-
-
-
-
-
-
912
641
444
353
199
363
34
2,946
1,337
278
300
274
191
130
965
1,089
4,564
(2,642)
(529)
(2,113)
67
(2,180)
114,296
Fifth Third Bancorp 99
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2007 ($ in millions)
Net interest income (a)
Provision for loan and lease losses
Net interest income after provision for loan and
Commercial
Banking
$1,311
127
Branch
Banking
1,464
162
Consumer
Lending
404
149
Processing
Solutions
(6)
11
Investment
Advisors
153
12
General
Corporate
(293)
167
Eliminations
-
-
Total
3,033
628
1,184
1,302
(6)
154
341
3
-
66
-
558
174
421
13
90
7
73
-
778
255
-
-
-
-
122
69
6
197
(17)
700
(1)
3
-
-
41
-
743
141
1
7
10
386
2
1
-
407
lease losses
Noninterest income:
Electronic payment processing
Service charges on deposits
Corporate banking revenue
Investment advisory revenue
Mortgage banking net revenue
Other noninterest income
Securities gains (losses), net
Total noninterest income
Noninterest expense:
Salaries, wages and incentives
Employee benefits
Net occupancy expense
Payment processing expense
Technology and communications
Equipment expense
Other noninterest expense
220
44
15
-
4
3
514
800
942
244
698
-
$698
$38,800
379
100
136
6
14
37
450
1,122
958
338
620
-
620
44,925
48
26
8
-
2
1
167
252
200
70
130
-
130
23,713
62
13
4
237
31
4
123
474
252
89
163
-
163
1,068
140
27
10
-
2
1
215
395
153
54
99
-
99
5,891
Total noninterest expense
Income before income taxes
Applicable income tax expense (benefit) (a)
Net income
Dividends on preferred stock
Net income available to common shareholders
Average assets
(a) Includes taxable-equivalent adjustments of $24 million.
(b) Electronic payment processing service revenues provided to the banking segments are eliminated in the Consolidated Statements of Income.
(c) Revenue sharing agreements between Investment Advisors and Branch Banking are eliminated in the Consolidated Statements of Income.
(460)
-
(2)
-
(5)
2
(97)
21
(81)
390
68
96
1
116
77
(345)
403
(944)
(310)
(634)
1
(635)
(11,920)
-
(43)(b)
-
-
(92)(c)
-
-
-
(135)
-
-
-
-
-
-
(135)
(135)
-
-
-
-
-
-
2,405
826
579
367
382
133
153
27
2,467
1,239
278
269
244
169
123
989
3,311
1,561
485
1,076
1
1,075
102,477
2006 ($ in millions)
Net interest income (a)
Provision for loan and lease losses
Net interest income after provision for loan and
Commercial
Banking
$1,318
99
Branch
Banking
1,300
108
Consumer
Lending
409
94
Processing
Solutions
(3)
9
Investment
Advisors
138
4
General
Corporate Eliminations
-
-
(263)
29
Total
2,899
343
lease losses
Noninterest income:
Electronic payment processing
Service charges on deposits
Corporate banking revenue
Investment advisory revenue
Mortgage banking net revenue
Other noninterest income
Securities gains (losses), net
Securities gains, net – non qualifying hedges
on mortgage servicing rights
Total noninterest income
Noninterest expense:
Salaries, wages and incentives
Employee benefits
Net occupancy expense
Payment processing expense
Technology and communications
Equipment expense
Other noninterest expense
Total noninterest expense
Income before income taxes and cumulative
effect
1,219
1,192
(5)
146
292
3
-
40
-
-
476
201
44
14
-
-
2
467
728
159
365
15
87
5
80
-
-
711
355
100
121
15
13
32
398
1,034
315
-
-
-
-
148
76
-
3
227
57
30
7
-
2
1
167
264
(12)
601
(1)
1
-
-
35
(1)
-
635
57
13
3
169
32
4
130
408
134
1
7
7
367
2
2
-
-
386
143
29
10
-
2
1
196
381
967
274
693
869
306
563
278
98
180
Applicable income tax expense (benefit) (a)
Income before cumulative effect
Cumulative effect of change in accounting
principle, net of tax
Net income
Dividends on preferred stock (d)
Net income available to common shareholders
Average assets
(a) Includes taxable-equivalent adjustments of $26 million.
(b) Electronic payment processing service revenues provided to the banking segments are eliminated in the Consolidated Statements of Income.
(c) Revenue sharing agreements between Investment Advisors and Branch Banking are eliminated in the Consolidated Statements of Income.
(d) Dividends on preferred stock were $.740 million.
-
693
-
$693
$35,141
-
180
-
180
22,137
-
563
-
563
43,426
-
90
-
90
5,463
-
139
-
139
586
215
76
139
139
49
90
100 Fifth Third Bancorp
(292)
(1)
-
3
(3)
-
66
(363)
-
(298)
361
76
90
-
92
76
(470)
225
(815)
(334)
(481)
4
(477)
-
(477)
(1,515)
-
(38)(b)
-
-
(87)(c)
-
-
-
-
(125)
-
-
-
-
-
-
(125)
(125)
-
-
-
-
-
-
-
-
2,556
717
517
318
367
155
299
(364)
3
2,012
1,174
292
245
184
141
116
763
2,915
1,653
469
1,184
4
1,188
-
1,188
105,238
ANNUAL REPORT ON FORM 10-K
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2008
Commission file number 001-33653
FIFTH THIRD BANCORP
Incorporated in the State of Ohio
I.R.S. Employer Identification No. 31-0854434
Address: 38 Fountain Square Plaza
Cincinnati, Ohio 45263
Telephone: (513) 534-5300
Securities registered
pursuant to Section
12(b) of the Act:
Common Stock , Without
Par Value
8.5% Non-Cumulative Series G
Convertible Perpetual Preferred
Stock
7.25% Trust Preferred Securities
of Fifth Third Capital Trust V
7.25% Trust Preferred Securities
of Fifth Third Capital Trust VI
8.875% Trust Preferred Securities
of Fifth Third Capital Trust VII
Name of exchange on
on which registered:
The NASDAQ Stock
Market LLC
The NASDAQ Stock
Market LLC
New York Stock Exchange
New York Stock Exchange
New York Stock Exchange
Indicate by checkmark if the registrant is a well-known
seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes: ⌧ No: (cid:133)
Indicate by checkmark if the registrant is not required to file
reports pursuant to Section 13 or Section 15(d) of the Act.
Yes: (cid:133) No: ⌧
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12
months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes: ⌧ No: (cid:133)
Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of Regulation S-K(§229.405 of this
chapter) is not contained herein, and will not be contained, to
the best of registrant’s knowledge, in definitive proxy or
information statements incorporated by reference in Part III of
this Form 10-K or any amendment to this Form 10-K. ⌧
Indicate by check mark whether the registrant is a large
accelerated filer, an accelerated filer, a non-accelerated filer, or
a smaller reporting company. See definitions of “large
accelerated filer,” “accelerated filer” and “smaller reporting
company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ⌧
Accelerated filer (cid:133)
Non-accelerated filer (cid:133) (Do not check if a smaller reporting
company)
Smaller reporting company (cid:133)
Indicate by check mark whether the registrant is a shell
company (as defined in Rule 12b-2 of the Act). Yes: (cid:133) No: ⌧
There were 577,364,046 shares of the Bancorp’s Common
Stock, without par value, outstanding as of January 31, 2009.
The Aggregate Market Value of the Voting Stock held by non-
affiliates of the Bancorp was $5,093,484,456 as of June 30,
2008.
report
incorporates
DOCUMENTS INCORPORATED BY REFERENCE
This
the
into a single document
requirements of the U.S. Securities and Exchange Commission
(SEC) with respect to annual reports on Form 10-K and annual
reports to shareholders. The Bancorp’s Proxy Statement for the
2009 Annual Meeting of Shareholders is incorporated by
reference into Part III of this report.
Only those sections of this 2008 Annual Report to
Shareholders that are specified in this Cross Reference Index
constitute part of the Registrant’s Form 10-K for the year ended
December 31, 2008. No other information contained in this
2008 Annual Report to Shareholders shall be deemed to
constitute any part of this Form 10-K nor shall any such
information be incorporated into the Form 10-K and shall not
be deemed “filed” as part of the Registrant’s Form 10-K.
15-16, 102-106
28
30-34, 99-100
25
24-26
38-39, 67-68
37, 68-69
41-48
39-40
14
40, 79
20-23
None
106-107
83-84
107
107
10-K Cross Reference Index
PART I
Item 1.
Business
Employees
Segment Information
Average Balance Sheets
Analysis of Net Interest Income and Net Interest Income
Changes
Investment Securities Portfolio
Loan and Lease Portfolio
Risk Elements of Loan and Lease Portfolio
Deposits
Return on Equity and Assets
Short-term Borrowings
Item 1A. Risk Factors
Item 1B. Unresolved Staff Comments
Item 2.
Item 3.
Item 4.
Properties
Legal Proceedings
Submission of Matters to a Vote of Security Holders
Executive Officers of the Bancorp
PART II
Item 5. Market for Registrant’s Common Equity, Related
Stockholder Matters and Issuer Purchases of Equity
Securities
Selected Financial Data
Item 6.
Item 7. Management’s Discussion and Analysis of Financial
Condition and Results of Operations
Item 7A. Quantitative and Qualitative Disclosures About Market
Item 8.
Item 9.
Risk
Financial Statements and Supplementary Data
Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure
Item 9A. Controls and Procedures
Item 9B. Other Information
PART III
Item 10. Directors, Executive Officers and Corporate Governance
Item 11. Executive Compensation
Item 12.
Security Ownership of Certain Beneficial Owners and
Management and Related Stockholder Matters
Item 13. Certain Relationships and Related Transactions, and
Director Independence
Principal Accounting Fees and Services
Item 14.
PART IV
Item 15. Exhibits, Financial Statement Schedules
SIGNATURES
108
14
14-53
41-51
56-100
None
54
None
110
110
87-88, 110
110
110
110-113
114
Fifth Third Bancorp 101
ANNUAL REPORT ON FORM 10-K
AVAILABILITY OF FINANCIAL INFORMATION
The Bancorp files reports with the SEC. Those reports include
the annual report on Form 10-K, quarterly reports on Form 10-
Q, current event reports on Form 8-K and proxy statements, as
well as any amendments to those reports. The public may read
and copy any materials the Bancorp files with the SEC at the
SEC’s Public Reference Room at 450 Fifth Street, NW,
Washington, DC 20549. The public may obtain information on
the operation of the Public Reference Room by calling the SEC
at 1-800-SEC-0330. The SEC maintains an internet site that
contains reports, proxy and information statements and other
information regarding issuers that file electronically with the
SEC at www.sec.gov. The Bancorp’s annual report on Form 10-
K, quarterly reports on Form 10-Q, current reports on Form 8-
K, proxy statements, and amendments to those reports filed or
furnished pursuant to section 13(a) or 15(d) of the Exchange
Act are accessible at no cost on the Bancorp’s web site at
www.53.com on a same day basis after they are electronically
filed with or furnished to the SEC.
PART I
ITEM 1. BUSINESS
General Information
Fifth Third Bancorp, an Ohio corporation organized in 1975, is
a bank holding company as defined by the Bank Holding
Company Act of 1956, as amended (the “BHCA), and is
registered as such with the Board of Governors of the Federal
Reserve System (FRB). The Bancorp’s principal office is
located in Cincinnati, Ohio.
The Bancorp’s subsidiaries provide a wide range of
financial products and services to the retail, commercial,
financial, governmental, educational and medical sectors,
including a wide variety of checking, savings and money
market accounts, and credit products such as credit cards,
installment loans, mortgage loans and leases. Each of the
banking subsidiaries has deposit insurance provided by the
Federal Deposit Insurance Corporation (FDIC) through the
Deposit Insurance Fund. Refer to Exhibit 21 filed as an
attachment to this Annual Report on Form 10-K for a list of all
the subsidiaries of the Bancorp.
Additional information regarding the Bancorp’s businesses
is included in Management’s Discussion and Analysis of
Financial Condition and Results of Operations.
Competition
The Bancorp competes for deposits, loans and other banking
services in its principal geographic markets as well as in
selected national markets as opportunities arise. In addition to
the challenge of attracting and retaining customers for
traditional banking services, the Bancorp’s competitors include
investment
securities dealers, brokers, mortgage bankers,
advisors and insurance companies. These competitors, with
focused products
targeted at highly profitable customer
segments, compete across geographic boundaries and provide
customers increasing access to meaningful alternatives to
banking services in nearly all significant products. The
increasingly competitive environment is a result primarily of
changes in regulation, changes in technology, product delivery
systems and the accelerating pace of consolidation among
financial service providers. These competitive trends are likely
to continue.
Acquisitions
The Bancorp’s strategy for growth includes strengthening its
presence in core markets, expanding into contiguous markets
and broadening its product offerings while taking into account
the integration and other risks of growth. The Bancorp
102 Fifth Third Bancorp
evaluates strategic acquisition opportunities and conducts due
diligence activities in connection with possible transactions. As
a result, discussions, and in some cases, negotiations may take
place and future acquisitions involving cash, debt or equity
securities may occur. These typically involve the payment of a
premium over book value and current market price, and
therefore, some dilution of book value and net income per share
may occur with any future transactions.
Additional information regarding acquisitions is included
in the Regulation and Supervision section in addition to Note 2
of the Notes to Consolidated Financial Statements.
Regulation and Supervision
In addition to the generally applicable state and federal laws
governing businesses and employers, the Bancorp and its
subsidiary banks are subject to extensive regulation by federal
and state
to financial
laws and regulations applicable
institutions and their parent companies. Virtually all aspects of
the business of the Bancorp and its subsidiary banks are subject
to specific requirements or restrictions and general regulatory
oversight. The principal objectives of state and federal banking
laws are the maintenance of the safety and soundness of
financial institutions and the federal deposit insurance system
and the protection of consumers or classes of consumers, rather
than the specific protection of shareholders of a bank or the
parent company of a bank, such as the Bancorp. In addition, the
supervision, regulation and examination of the Bancorp and its
subsidiaries by the bank regulatory agencies is not intended for
the protection of the Bancorp’s security holders. To the extent
the following material describes statutory or regulatory
provisions, it is qualified in its entirety by reference to the
particular statute or regulation.
The Bancorp is subject to regulation and supervision by the
FRB and the Ohio Division of Financial Institutions (the
“Division). The Bancorp is required to file various reports with,
and is subject to examination by, the FRB and the Division. The
FRB has the authority to issue orders to bank holding
companies to cease and desist from unsound banking practices
and violations of conditions imposed by, or violations of
agreements with, the FRB. The FRB is also empowered to
assess civil money penalties against companies or individuals
who violate the Bank Holding Company Act (BHCA) or orders
or regulations thereunder, to order termination of non-banking
activities of non-banking subsidiaries of bank holding
companies, and to order termination of ownership and control
of a non-banking subsidiary by a bank holding company.
The BHCA requires the prior approval of the FRB, for a
bank holding company to acquire substantially all the assets of
a bank or acquiring direct or indirect ownership or control of
more than 5% of any class of the voting shares of any bank,
bank holding company or savings association, or increasing any
such non-majority ownership or control of any bank, bank
holding company or savings association, or merging or
consolidating with any bank holding company.
The Riegle-Neal
Interstate Banking and Branching
Efficiency Act of 1994 generally authorizes bank holding
companies to acquire banks located in any state, subject to
certain state-imposed age and deposit concentration limits, and
also generally authorizes interstate bank holding company and
bank mergers and to a lesser extent, interstate branching.
The Gramm-Leach-Bliley Act of 1999 (GLBA) permits a
qualifying bank holding company to become a financial holding
company (FHC) and thereby to engage directly or indirectly in
a broader range of activities than had previously been permitted
for a bank holding company under the BHCA. Permitted
activities include securities underwriting and dealing, insurance
ANNUAL REPORT ON FORM 10-K
underwriting and brokerage, merchant banking and other
activities that are declared by the FRB, in cooperation with the
Treasury Department, to be “financial in nature or incidental
thereto” or are declared by the FRB unilaterally to be
“complementary” to financial activities. In addition, a FHC is
allowed to conduct permissible new financial activities or
acquire permissible non-bank financial companies with after-
the-fact notice to the FRB. A bank holding company may elect
to become a FHC if each of its subsidiary banks is “well
capitalized,” is “well managed” and has at least a “Satisfactory”
rating under the Federal Community Reinvestment Act (CRA).
In 2000, the Bancorp elected and qualified for FHC status under
the GLBA.
Unless a bank holding company becomes a FHC under
GLBA, the BHCA also prohibits a bank holding company from
acquiring a direct or indirect interest in or control of more than
5% of any class of the voting shares of a company that is not a
bank or a bank holding company and from engaging directly or
indirectly in activities other than those of banking, managing or
controlling banks or furnishing services to its subsidiary banks,
except that it may engage in and may own shares of companies
engaged in certain activities the FRB has determined to be so
closely related to banking or managing or controlling banks as
to be proper incident thereto.
The FRB has authority to prohibit bank holding companies
from paying dividends if such payment is deemed to be an
unsafe or unsound practice. The FRB has indicated generally
that it may be an unsafe or unsound practice for bank holding
companies to pay dividends unless a bank holding company’s
net income is sufficient to fund the dividends and the expected
rate of earnings retention is consistent with the organization’s
capital needs, asset quality and overall financial condition. The
Bancorp depends in part upon dividends received from its
subsidiary banks to fund its activities, including the payment of
dividends. Each of the subsidiary banks is subject to regulatory
limitations on the amount of dividends it may declare and pay.
Under FRB policy, a bank holding company is expected to
act as a source of financial and managerial strength to each of
its subsidiary banks and to commit resources to their support.
This support may be required at times when the bank holding
company may not have the resources to provide it. Similarly,
under the cross-guarantee provisions of the Federal Deposit
Insurance Act (FDIA), the FDIC can hold any FDIC-insured
depository institution liable for any loss suffered or anticipated
by the FDIC in connection with (1) the “default” of a
commonly controlled FDIC-insured depository institution; or
(2) any assistance provided by the FDIC to a commonly
controlled FDIC-insured depository institution “in danger of
default.”
The Bancorp owns two state banks, Fifth Third Bank and
Fifth Third Bank (Michigan), chartered under the laws of Ohio
and Michigan, respectively. These banks are subject to
extensive state regulation and examination by the appropriate
state banking agency in the particular state or states where each
state bank is chartered, by the FRB, and by the FDIC, which
insures the deposits of each of the state banks to the maximum
extent permitted by law. The federal and state laws and
regulations that are applicable to banks regulate, among other
matters, the scope of their business, their investments, their
reserves against deposits, the timing of the availability of
deposited funds, the amount of loans to individual and related
borrowers and the nature, amount of and collateral for certain
loans, and the amount of interest that may be charged on loans.
Various state consumer laws and regulations also affect the
operations of the state banks.
The Bancorp’s national subsidiary bank, Fifth Third Bank, N.A.
is subject to regulation and examination primarily by the Office
of the Comptroller of the Currency (OCC) and secondarily by
the FRB and the FDIC, which insures the deposits to the
maximum extent permitted by law. The federal laws and
regulations that are applicable to national banks regulate,
among other matters, the scope of their business, their
investments, their reserves against deposits, the timing of the
availability of deposited funds, the amount of loans to
individual and related borrowers and the nature, amount of and
collateral for certain loans, and the amount of interest that may
be charged on loans.
in establishing
in adjusting deposit
In 2006, the Federal Deposit Insurance Reform Act of
2005 was signed into law (FDIRA). Pursuant to the FDIRA,
the Bank Insurance Fund and Savings Association Fund were
merged to create the Deposit Insurance Fund. The FDIC was
insurance
granted broader authority
the
premium rates and more flexibility
designated reserve ratio. FDIRA provided assessment credits to
insured depository institutions that could be used to offset 100%
of insurance premiums in 2007 and 90% of premiums in 2008-
2010 or until they are fully exhausted. Insured depository
institutions are placed into one of four risk categories under
FDIRA, with the vast majority qualifying for Risk Category I.
Risk Category I institutions insurance premiums are based upon
CAMELS ratings, long-term debt issuer ratings (if applicable)
and various financial ratios derived from the Consolidated
Report of Condition and Income (Call Report). In 2008, the
FDIC set the Deposit Insurance Fund’s designated reserve ratio
at 1.25%. Due to recent bank failures, on December 16, 2008,
the FDIC adopted a final rule increasing its risk based deposit
insurance assessment scale uniformly by seven (7) basis points
for the first quarter of 2009. The assessment scale for the first
quarter of 2009 for Risk Category I will range from 12 to 14
basis points. The FDIC has proposed to make, beginning in the
second quarter of 2009, further risk based changes to its deposit
insurance assessment system. The Bancorp fully exhausted its
assessment credits in the second quarter of 2008.
Federal law, Sections 23A and 23B of the Federal Reserve
Act, restricts transactions between a bank and an affiliated
company, including a parent bank holding company. The
subsidiary banks are subject to certain restrictions on loans to
affiliated companies, on investments in the stock or securities
thereof, on the taking of such stock or securities as collateral for
loans to any borrower, and on the issuance of a guarantee or
letter of credit on their behalf. Among other things, these
restrictions limit the amount of such transactions, require
collateral in prescribed amounts for extensions of credit,
prohibit the purchase of low quality assets and require that the
terms of such transactions be substantially equivalent to terms
of similar transactions with non-affiliates. One result of these
restrictions is a limitation on the subsidiary banks to fund the
Bancorp. Generally, each subsidiary bank is limited in its
extensions of credit to any affiliate to 10% of the subsidiary
bank’s capital and its extension of credit to all affiliates to 20%
of the subsidiary bank’s capital.
The CRA generally requires insured depository institutions
to identify the communities they serve and to make loans and
investments and provide services that meet the credit needs of
these communities. Furthermore, the CRA requires the FRB to
evaluate the performance of each of the subsidiary banks in
helping to meet the credit needs of their communities. As a part
of the CRA program, the subsidiary banks are subject to
the FRB, and must maintain
periodic examinations by
comprehensive records of their CRA activities for this purpose.
Fifth Third Bancorp 103
ANNUAL REPORT ON FORM 10-K
During these examinations, the FRB rates such institutions’
compliance with CRA as “Outstanding,” “Satisfactory,” “Needs
to Improve" or "Substantial Noncompliance.” Failure of an
institution to receive at least a “Satisfactory” rating could
inhibit such institution or its holding company from undertaking
certain activities, including engaging in activities permitted as a
financial holding company under the GLBA and acquisitions of
other financial institutions, or, as discussed above, require
divestitures. The FRB must take into account the record of
performance of banks in meeting the credit needs of the entire
community served,
low- and moderate-income
neighborhoods. Fifth Third Bank, Fifth Third Bank (Michigan)
and Fifth Third Bank, N.A. all received a “Satisfactory” CRA
rating. Because the Bancorp is an FHC, with limited exceptions,
the Bancorp may not commence any new financial activities or
acquire control of any companies engaged in financial activities
in reliance on the GLBA if any of the subsidiary banks receives
a CRA rating of less than “Satisfactory.”
including
The FRB has established capital guidelines for financial
holding companies. The FRB and the OCC have also issued
regulations establishing capital requirements for banks. Failure
to meet capital requirements could subject the Bancorp and its
subsidiary banks to a variety of restrictions and enforcement
actions. In addition, as discussed previously, each of the
Bancorp’s subsidiary banks must remain well capitalized for the
Bancorp to retain its status as a financial holding company.
The minimum risk-based capital requirements adopted by the
federal banking agencies follow the Capital Accord of the Basel
Committee on Banking Supervision. In 2004, the Basel
Committee published its new capital guidelines (Basel II)
governing the capital adequacy of large, internationally active
banking organizations (core” banking organizations with at
least $250 billion in total assets or at least $10 billion in foreign
exposure). The final rule to implement the advanced approaches
of Basel II for core banking organizations became effective on
April 1, 2008. Under Basel II, after a transition period, core
banking organizations are required to enhance the measurement
and management of their risks, including credit risk and
operational risk, through the use of advanced approaches for
calculating risk-based capital requirements. Other U.S. banking
organizations may elect to adopt the requirements of this rule (if
they meet applicable qualification requirements), but they are
not required to apply them.
rule
In July 2008, the federal banking agencies issued a
proposed
that would give all non-core banking
organizations, which are not required to adopt Basel II’s
advance approaches, such as Bancorp, with the option to adopt
a new risk-based framework. This framework would adopt the
standardized approach of Basel II for credit risk, the basic
indicator approach of Basel II for operational risk, and related
disclosure requirements. The proposed rule, if adopted, will
replace the earlier proposal to adopt the so-called Basel IA
option. Until such time as the new rules for non-core banking
organizations are adopted, Bancorp is unable to predict whether
it will adopt a standardized approach under Basel II.
The FRB, FDIC and other bank regulatory agencies have
adopted final guidelines (the “Guidelines) for safeguarding
confidential, personal customer information. The Guidelines
require each financial institution, under the supervision and
ongoing oversight of its Board of Directors or an appropriate
committee thereof, to create, implement and maintain a
comprehensive written information security program designed
to ensure
the security and confidentiality of customer
information, protect against any anticipated threats or hazards to
the security or integrity of such information and protect against
104 Fifth Third Bancorp
unauthorized access to or use of such information that could
result in substantial harm or inconvenience to any customer.
The Bancorp has adopted a customer information security
program that has been approved by the Bancorp’s Board of
Directors (the “Board).
the statute requires explanations
The GLBA requires financial institutions to implement
policies and procedures regarding the disclosure of nonpublic
personal information about consumers to non-affiliated third
to
parties. In general,
consumers on policies and procedures regarding the disclosure
of such nonpublic personal information, and, except as
otherwise
such
information except as provided in the subsidiary banks policies
and procedures. The subsidiary banks have implemented a
privacy policy effective since the GLBA became law, pursuant
to which all of its existing and new customers are notified of the
privacy policies.
law, prohibits disclosing
required by
The Uniting and Strengthening America by Providing
Appropriate Tools Required to Intercept and Obstruct Terrorism
Act of 2001 (the “Patriot Act), designed to deny terrorists and
others the ability to obtain access to the United States financial
system, has significant implications for depository institutions,
brokers, dealers and other businesses involved in the transfer of
money. The Patriot Act, as implemented by various federal
regulatory agencies, requires financial institutions, including the
Bancorp and its subsidiaries, to implement new policies and
procedures or amend existing policies and procedures with
laundering,
to, among other matters, anti-money
respect
compliance, suspicious activity and currency
transaction
reporting and due diligence on customers. The Patriot Act and
its underlying regulations also permit information sharing for
counter-terrorist purposes between federal law enforcement
agencies and financial institutions, as well as among financial
institutions, subject to certain conditions, and require the FRB
(and other
the
effectiveness of an applicant in combating money laundering
activities when considering applications filed under Section 3 of
the BHCA or the Bank Merger Act. The Bancorp’s Board has
approved policies and procedures that are believed to be
compliant with the Patriot Act.
federal banking agencies)
to evaluate
Certain mutual fund and unit investment trust custody and
administrative clients are regulated as “investment companies”
as that term is defined under the Investment Company Act of
1940, as amended (the “ICA), and are subject to various
examination and reporting requirements. The provisions of the
ICA and the regulations promulgated thereunder prescribe the
type of institution that may act as a custodian of investment
company assets, as well as the manner in which a custodian
administers the assets in its custody. As a custodian for a
number of investment company clients, these regulations
require, among other things, that certain minimum aggregate
capital, surplus and undivided profit levels are maintained by
the subsidiary banks. Additionally, arrangements with clearing
agencies or other securities depositories must meet ICA
requirements for segregation of assets, identification of assets
and client approval. Future legislative and regulatory changes in
laws and regulations governing custody of
the existing
investment company assets, particularly with respect
to
custodian qualifications, may have a material and adverse
impact on the Bancorp. Currently, management believes the
Bancorp is in compliance with all minimum capital and
securities depository requirements. Further, the Bancorp is not
aware of any proposed or pending regulatory developments,
which, if approved, would adversely affect its ability to act as
custodian to an investment company.
ANNUAL REPORT ON FORM 10-K
Investment companies are also subject to extensive record
keeping and reporting requirements. These requirements dictate
the type, volume and duration of the record keeping the
Bancorp undertakes, either in the role as custodian for an
investment company or as a provider of administrative services
to an investment company. Further, specific ICA guidelines
must be followed when calculating the net asset value of a
client mutual fund. Consequently, changes in the statutes or
regulations governing recordkeeping and reporting or valuation
calculations will affect the manner in which operations are
conducted.
New legislation or regulatory requirements could have a
significant impact on the information reporting requirements
applicable to the Bancorp and may in the short term adversely
affect the Bancorp’s ability to service clients at a reasonable
cost. Any failure to provide such support could cause the loss of
customers and have a material adverse effect on financial
results. Additionally, legislation or regulations may be proposed
or enacted to regulate the Bancorp in a manner that may
adversely affect financial results. Furthermore, the mutual fund
industry may be significantly affected by new laws and
regulations.
The GLBA amended the federal securities laws to
eliminate the blanket exceptions that banks traditionally have
had from the definition of “broker” and “dealer.” The GLBA
also required that there be certain transactional activities that
would not be “brokerage” activities, which banks could effect
without having to register as a broker. In September 2007, the
FRB and SEC approved Regulation R to govern bank securities
activities.
Various exemptions permit banks to conduct
activities that would otherwise constitute brokerage activities
under the securities laws. Those exemptions include conducting
brokerage activities related to trust, fiduciary and similar
services, certain services and also conducting a de minimis
number of riskless principal transactions, certain asset-backed
transactions and certain securities lending transactions. The
Bancorp only conducts non-exempt brokerage activities through
its affiliated registered broker-dealer.
to
(ii) auditor
responsibility measures,
The Sarbanes-Oxley Act of 2002, (Sarbanes-Oxley)
implements a broad range of corporate governance and
accounting measures for public companies (including publicly-
held bank holding companies such as the Bancorp) designed to
promote honesty and transparency in corporate America.
Sarbanes-Oxley’s principal provisions, many of which have
been interpreted through regulations, provide for and include,
among other things: (i) the creation of an independent
accounting oversight board;
independence
provisions that restrict non-audit services that accountants may
their audit clients; (iii) additional corporate
provide
the
governance and
requirement that the chief executive officer and chief financial
officer of a public company certify financial statements; (iv) the
forfeiture of bonuses or other incentive-based compensation and
profits from the sale of an issuer’s securities by directors and
senior officers in the twelve month period following initial
publication of any financial statements that later require
the oversight of, and
restatement; (v) an
enhancement of certain
to, audit
committees of public companies and how they interact with the
Bancorp’s independent auditors; (vi) requirements that audit
committee members must be independent and are barred from
accepting consulting, advisory or other compensatory fees from
the issuer; (vii) requirements that companies disclose whether at
least one member of the audit committee is a ‘financial expert’
(as such term is defined by the SEC) and if not discussed, why
in
requirements
including
increase
relating
the audit committee does not have a financial expert; (viii)
expanded disclosure requirements for corporate
insiders,
including accelerated reporting of stock transactions by insiders
and a prohibition on insider trading during pension blackout
periods; (ix) a prohibition on personal loans to directors and
officers, except certain loans made by insured financial
institutions on nonpreferential terms and in compliance with
other bank regulatory requirements; (x) disclosure of a code of
ethics and filing a Form 8-K for a change or waiver of such
code;
the
effectiveness of internal control over financial reporting and the
Bancorp’s Independent Registered Public Accounting Firm
attest to the assessment; and (xii) a range of enhanced penalties
for fraud and other violations.
that management assess
requirements
(xi)
Additional information regarding regulatory matters is
included in Note 26 of the Notes to Consolidated Financial
Statements.
Emergency Economic Stabilization Act of 2008
On October 3, 2008, in response to the recent stresses
experienced in the financial markets, the Emergency Economic
Stabilization Act (EESA) was enacted. EESA authorizes the
Secretary of the Treasury to purchase up to $700 billion in
troubled assets from financial institutions under the Troubled
Asset Relief Program or TARP. Troubled assets include
residential or commercial mortgages and related instruments
originated prior to March 14, 2008 and any other financial
instrument that the Secretary determines, after consultation with
the Chairman of the Board of Governors of the Federal Reserve
System, the purchase of which is necessary to promote financial
stability.
Capital Purchase Program
Pursuant to its authority under EESA, the Treasury Department
created the TARP Capital Purchase Program (CPP) under
which the Treasury Department will invest up to $250 billion in
senior preferred stock of U.S. banks and savings associations or
their holding companies. Qualifying financial institutions may
issue senior preferred stock with a value equal to not less than
1% of risk-weighted assets and not more than the lesser of $25
billion or 3% of risk-weighted assets. The senior preferred stock
will pay dividends at the rate of 5% per annum until the fifth
anniversary of the investment and thereafter at the rate of
9% per annum. The senior preferred stock may not be redeemed
for three years except with the proceeds from an offering of
common stock or preferred stock qualifying as Tier 1 capital in
an amount equal to not less than 25% of the amount of the
senior preferred. After three years, the senior preferred may be
redeemed at any time in whole or in part by the financial
institution. No dividends may be paid on common stock unless
dividends have been paid on the senior preferred stock. Until
the third anniversary of the issuance of the senior preferred, the
consent of the U.S. Treasury will be required for any increase in
the dividends on the common stock or for any stock repurchases
unless the senior preferred has been redeemed in its entirety or
the Treasury has transferred the senior preferred to third parties.
The senior preferred will not have voting rights other than the
right to vote as a class on the issuance of any preferred stock
ranking senior, any change in its terms or any merger, exchange
or similar transaction that would adversely affect its rights. The
senior preferred will also have the right to elect two directors if
dividends have not been paid for six periods. The senior
preferred will be
transferable and participating
institutions will be required to file a shelf registration statement
covering the senior preferred. The issuing institution must grant
the Treasury piggyback registration rights. Prior to issuance, the
freely
Fifth Third Bancorp 105
ANNUAL REPORT ON FORM 10-K
financial institution and its senior executive officers must
modify or terminate all benefit plans and arrangements to
comply with EESA. Senior executives must also waive any
claims against the Department of Treasury.
In connection with the issuance of the senior preferred,
participating institutions must issue to Treasury immediately
exercisable 10-year warrants to purchase common stock with an
aggregate market price equal to 15% of the amount of senior
preferred. The exercise price of the warrants will equal the
average closing price of the common stock for the 20 trading
days prior to the date of the Treasury’s approval. Treasury may
only exercise or transfer one-half of the warrants prior to the
earlier of December 31, 2009 or the date the issuing financial
institution has received proceeds equal to the senior preferred
investment from one or more offerings of common or preferred
stock qualifying as Tier 1 capital. Treasury will not exercise
voting rights with respect to any shares of common stock
acquired through exercise of the warrants. The financial
institution must file a shelf registration statement covering the
warrants and underlying common stock as soon as practicable
after issuance and grant piggyback registration rights. The
number of warrants will be reduced by one-half if the financial
institution raises capital equal to the amount of the senior
preferred through one or more offerings of common stock or
preferred stock qualifying as Tier 1 capital. If the financial
institution does not have sufficient authorized shares of
common stock available to satisfy the warrants or their issuance
financial
otherwise
institution must call a meeting of shareholders for that purpose
as soon as practicable after the date of investment. The exercise
price of the warrants will be reduced by 15% for each six
months that lapse before shareholder approval subject to a
maximum reduction of 45%.
shareholder approval,
requires
the
therein,
reference
incorporated by
On December 31, 2008, Bancorp entered into a Letter
Agreement (including the Securities Purchase Agreement—
Standard Terms
the
“Purchase Agreement) with Treasury pursuant to which the
Company issued and sold to Treasury for an aggregate purchase
price of approximately $3.4 billion in cash: (i) 136,320 shares
of the Company’s Fixed Rate Cumulative Perpetual Preferred
Stock, Series F, having a liquidation preference of $25,000 per
share (the “Series F Preferred Stock), and (ii) a ten-year warrant
to purchase up to 43,617,747 shares of the Company’s common
stock, no par value per share, at an initial exercise price of
$11.72 per share.
In the Purchase Agreement, the Bancorp agreed that, until
such time as Treasury ceases to own any debt or equity
securities of the Bancorp acquired pursuant to the Purchase
Agreement, the Bancorp will take all necessary action to ensure
that its benefit plans with respect to its senior executive officers
comply with Section 111(b) of EESA as implemented by any
guidance or regulation under the EESA that has been issued and
is in effect as of the date of issuance of the Series F Preferred
Stock and the Warrant, and has agreed to not adopt any benefit
plans with respect to, or which covers, its senior executive
officers that do not comply with the EESA.
Importantly, the CPP may be unilaterally amended by the
Treasury. There have also been
that new
obligations, such as a requirement to establish a foreclosure
relief program and/or increase lending levels, may be imposed
on CPP participants. Accordingly, the Company may be subject
to further restrictions or obligations as a result of
its
participation in the CPP.
indications
106 Fifth Third Bancorp
the TLGP was
TLG Program
Pursuant to EESA, on November 21, 2008, the FDIC adopted a
final rule relating to the Temporary Liquidity Guaranty
Program (TLGP). Included within
the
Transaction Account Guarantee Program in which the FDIC
will provide full FDIC deposit insurance coverage for all non-
interest-bearing transaction accounts through December 31,
2009. Coverage under the Transaction Account Guarantee
Program was available for the first 30 days without charge.
Thereafter, the fee assessment for deposit insurance coverage is
assessed on a quarterly basis at an annualized 10 basis points
per quarter on amounts
in covered accounts exceeding
$250,000. Pursuant to the Financial Stability Plan, discussed
below, the TLG Program was extended to October 31, 2009.
On December 5, 2008, the Company elected to participate in
the Transaction Account Guarantee Program.
Recent Developments
On February 10, 2009, the banking agencies issued a joint
statement announcing the framework for a new Financial
Stability Plan (FSP). The core plan elements of the FSP, which
is intended to replace the TARP, include the Financial Stability
Trust Program (FSTP), the Public-Private Investment Fund
(PPIF) and the Consumer and Business Lending Initiative
(CBLI).
Under the FSTP, financial institutions that desire to seek
capital support from Treasury must pass a comprehensive
“stress test” to determine whether they have sufficient capital to
continue lending and absorb potential losses that could result
from a more severe decline in the economy than projected. The
FSTP also includes a new Capital Assistance Program (CAP)
designed to serve as a “capital buffer” to help absorb losses and
serve as a bridge to receiving private capital. The CAP
investments are separate from and in addition to any capital a
banking organization may have received under the CPP.
The PPIF is a fund that will combine a mix of government
and private capital with financing supported by the Federal
Reserve and the FDIC to acquire real estate related “legacy”
assets. The PPIF is designed to enable the selling institutions to
“cleanse” their balance sheets. Prices of the assets will be set
the selling
by negotiations between private buyers and
institutions.
The CBLI will dramatically increase the size of the Term
Asset-Backed Securities Lending Facility (TALF) program
previously announced but not yet put in operation by the
Federal Reserve. Under the TALF as previously proposed,
Treasury and the Federal Reserve would provide up to $200
million of secured, non-recourse financing to holders of certain
asst-back securities, with Treasury seeding the facility with $20
billion of TARP funding and the Federal Reserve providing the
remaining $180 billion. Under the CBLI, Treasury and the
Federal Reserve have agreed to increase the size of the TALF
from $200 billion to as much as $1 trillion and to expand the
eligible asset classes.
ITEM 2. PROPERTIES
The Bancorp’s executive offices and the main office of Fifth
Third Bank are located on Fountain Square Plaza in downtown
Cincinnati, Ohio in a 32-story office tower, a five-story office
building with an attached parking garage and a separate ten-
story office building known as the Fifth Third Center, the
William S. Rowe Building and the 530 Building, respectively.
The Bancorp’s main operations center is located in Cincinnati,
Ohio, in a three-story building with an attached parking garage
known as the Madisonville Operations Center. A subsidiary of
the Bancorp owns 100 percent of these buildings.
ANNUAL REPORT ON FORM 10-K
At December 31, 2008, the Bancorp, through its banking
and non-banking subsidiaries, operated 1,307 banking centers,
of which 895 were owned, 278 were leased and 134 for which
the buildings are owned but the land is leased. The banking
centers are located in the states of Ohio, Kentucky, Indiana,
Michigan, Illinois, Florida, Tennessee, North Carolina, West
Virginia, Pennsylvania, Missouri, and Georgia. The Bancorp’s
significant owned properties are owned free from mortgages
and major encumbrances.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE BY
SECURITY HOLDERS
On December 29, 2008, the Bancorp held a Special Meeting of
Shareholders for which the Board of Directors solicited proxies.
At the Special Meeting of Shareholders, the shareholders voted
on the following proposals stated in the Proxy Statement dated
December 8, 2008, which is incorporated by reference herein.
The proposals voted on and approved or rejected by the
shareholders at the Special Meeting of Shareholders were as
follows:
1. Approval of the proposal to amend the Articles of
Incorporation to revise the express terms of the
authorized unissued shares of preferred stock to allow
for limited voting rights for a new series of preferred
stock and proposed amendments to the Code of
Regulations to revise the express terms related to the
removal of directors and the filling of director vacancies
by a vote from common shareholders of 412,727,093
for, 7,558,843 against, and 2,008,371 abstain and from
Series G preferred shareholders of 32,593 for, 2 against,
and 1,324 abstain.
2. Approval of the proposal to amend the Articles of
Incorporation to revise the express terms of the issued
and outstanding shares of Series G preferred stock to
provide those shares with similar voting rights as
proposed under Proposal 1 by a vote from common
shareholders of 410,076,326 for, 10,144,168 against,
and 2,073,813 abstain and from Series G preferred
shareholders of 32,593 for, 2 against, and 1,324 abstain.
3. Rejection of the proposal to provide Fifth Third
Bancorp with the ability to assign voting rights and
other terms to unissued or treasury shares of preferred
stock by a vote from common shareholders of
349,954,861 for, 70,246,781 against, and 2,092,663
abstain and from Series G preferred shareholders of
31,846 for, 749 against, and 1,324 abstain.
4. Approval of the proposal to approve a mechanism to
adjourn the Special Meeting of Shareholders to solicit
additional shares for the passage of the foregoing
propositions if necessary by a vote from common
shareholders of 383,040,122 for, 35,458,722 against,
and 3,794,712 abstain and from Series G preferred
shareholders of 31,920 for, 236 against, and 1,762
abstain.
EXECUTIVE OFFICERS OF THE BANCORP
Officers are appointed annually by the Board of Directors at the
meeting of Directors
the Annual
Meeting of Shareholders. The names, ages and positions of the
Executive Officers of the Bancorp as of February 27, 2009 are
listed below along with their business experience during the
past 5 years:
immediately following
Kevin T. Kabat, 52. Chairman, President and Chief Executive
Officer of the Bancorp since June 2008, June 2006 and April
2007, respectively. Previously, Mr. Kabat was Executive Vice
President of the Bancorp since December 2003. Prior to that he
was President and CEO of Fifth Third Bank (Michigan) since
April 2001.
Greg D. Carmichael, 47. Executive Vice President and Chief
Operating Officer of the Bancorp since June 2006. Prior to that
he was the Executive Vice President and Chief Information
Officer of the Bancorp since June 2003. Previously, Mr.
Carmichael was the Chief Information Officer of Emerson
Electric Company.
Charles D. Drucker, 45. Executive Vice President of the
Bancorp since June 2005 and President of Fifth Third
Processing Solutions since July 2004. Previously, Mr. Drucker
was Executive Vice President and Chief Operating Officer of
STAR ® Debit Services, a division of First Data Corporation.
Ross J. Kari, 50. Executive Vice President and Chief Financial
Officer of the Bancorp since November 2008. Previously, Mr.
Kari was CFO of Safeco Corp. since June 2006. Prior to that,
Mr. Kari was the Chief Operating Officer and Executive Vice
President of Federal Home Loan Bank of San Francisco since
March 2002.
Bruce K. Lee, 48. Executive Vice President of the Bancorp
since June 2005. Previously, Mr. Lee was President and CEO
of Fifth Third Bank (Northwestern Ohio) since July 2002 and
Executive Vice President, Commercial Banking Division, Fifth
Third Bank (Northwestern Ohio) since March 2001.
Nancy R. Phillips, 41. Executive Vice President and Chief
Human Resources Officer of the Bancorp since April 2008.
Previously, Ms. Phillips was senior Human Resources Director
for VetcoGray, General Electric Oil and Gas, since 2007. Prior
to that Ms. Phillips served as senior Human Resources Director
for GE Security, Homeland Protection since 2004.
Daniel T. Poston, 50. Executive Vice President of the Bancorp
since June 2003, and Controller of the Bancorp and Fifth Third
Bank since July 2007. Previously, Mr. Poston was the Chief
Financial Officer of the Bancorp from May 2008 to November
2008. Formerly, Mr. Poston was the Auditor of the Bancorp
since October 2001 and was Senior Vice President of the
Bancorp and Fifth Third Bank since January 2002.
Paul L. Reynolds, 47. Executive Vice President, Secretary and
General Counsel of the Bancorp since September 1999, January
2002 and January 2002, respectively.
Mahesh Sankaran, 46. Senior Vice President and Treasurer of
the Bancorp since June 2006. Previously, Mr. Sankaran was
Treasurer for Huntington Bancshares Incorporated since
February 2005. Prior to that Mr. Sankaran was Treasurer for
Compass Bankshares, Inc.
Robert A. Sullivan, 54. Senior Executive Vice President of the
Bancorp since December 2002. Previously, Mr. Sullivan was
President and CEO of Fifth Third Bank (Northwestern Ohio)
since March 9, 2001.
Mary E. Tuuk, 44. Executive Vice President and Chief Risk
Officer of the Bancorp since June 2007. Previously, Ms. Tuuk
was Senior Vice President of Fifth Third Bancorp since 2003
and Senior Vice President of Fifth Third Bank (Western
Michigan) since April 2001.
Terry E. Zink, 57. Executive Vice President of the Bancorp
since March 2007 and President and CEO of Fifth Third Bank
(Chicago) since January 2005. Previously Mr. Zink was the
Executive Vice President/Region President of Wells Fargo
Bank, Nebraska.
Fifth Third Bancorp 107
ANNUAL REPORT ON FORM 10-K
Notes to the Consolidated Financial Statements. Additionally,
as of December 31, 2008, the Bancorp had approximately
60,025 shareholders of record.
PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON
EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES
The information required by this item is included in the
Corporate Information found on the inside of the back cover
and
the
subsidiaries can pay to the Bancorp discussed in Note 26 of the
the discussion of dividend
limitations
that
in
Issuer Purchases of Equity Securities
Average
Price
Paid Per
Share
Maximum
Shares that
May Be
Purchased
Under the
Plans or
Period
Programs
19,201,518
October 2008
19,201,518
November 2008
19,201,518
December 2008
Total
19,201,518
(a) The Bancorp repurchased 25,394, 7,526 and 40 shares during October,
November and December of 2008 in connection with various
employee compensation plans of the Bancorp. These purchases are
not included against the maximum number of shares that may yet be
purchased under the Board of Directors authorization.
Shares
Purchased
as Part of
Publicly
Announced
Plans or
Programs
-
-
-
-
Shares
Purchased
(a)
25,394
7,526
40
32,960
$-
-
-
$-
108 Fifth Third Bancorp
ANNUAL REPORT ON FORM 10-K
The following performance graphs do not constitute soliciting material and should not be deemed filed or incorporated by
reference into any other Company filing under the Securities Act of 1933 or the Securities Exchange Act of 1934, except to the
extent the Bancorp specifically incorporates the performance graphs by reference therein.
Total Return Analysis
The graphs below summarize the cumulative return experienced by the Bancorp's shareholders over the years 2004 through 2008, and
1999 through 2008, respectively, compared to the S&P 500 Stock and the S&P Banks indices.
FIFTH THIRD BANCORP VS. MARKET INDICES
2004
2005
2006
2007
2008
Fifth Third (FITB)
S&P 500 (SPX)
S&P Banks (BIX)
5 YEAR RETURN
60
40
20
0
(20)
(40)
(60)
(80)
x
e
d
n
I
n
r
u
t
e
R
l
a
t
o
T
(100)
2003
10 YEAR RETURN
x
e
d
n
I
n
r
u
t
e
R
l
a
t
o
T
60
40
20
0
(20)
(40)
(60)
(80)
(100)
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
Fifth Third Bank (FITB)
S&P 500 (SPX)
S&P Banks (BIX)
Fifth Third Bancorp 109
ANNUAL REPORT ON FORM 10-K
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND
CORPORATE GOVERNANCE
The information required by this item relating to the Executive
Officers of the Registrant is included in PART I under
“EXECUTIVE OFFICERS OF THE BANCORP.”
The information required by this item concerning Directors
and the nomination process is incorporated herein by reference
under the caption “ELECTION OF DIRECTORS” of the
Bancorp’s Proxy Statement for the 2009 Annual Meeting of
Shareholders.
The information required by this item concerning the Audit
Committee and Code of Business Conduct and Ethics is
captions
incorporated herein by
“CORPORATE GOVERNANCE”
“BOARD OF
DIRECTORS,
ITS COMMITTEES, MEETINGS AND
FUNCTIONS” of the Bancorp’s Proxy Statement for the 2009
Annual Meeting of Shareholders.
reference under
and
the
The information required by this item concerning Section
16
is
(a) Beneficial Ownership Reporting Compliance
incorporated herein by reference under the caption “SECTION
16
REPORTING
COMPLIANCE” of the Bancorp’s Proxy Statement for the 2009
Annual Meeting of Shareholders.
OWNERSHIP
BENEFICIAL
(a)
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is incorporated herein by
reference under the captions “COMPENSATION DISCUSSION
“COMPENSATION COMMITTEE
AND ANALYSIS,”
REPORT”
COMMITTEE
INTERLOCKS AND INSIDER PARTICIPATION” of the
Bancorp’s Proxy Statement for the 2009 Annual Meeting of
Shareholders.
“COMPENSATION
and
ITEM 12. SECURITY OWNERSHIP OF CERTAIN
BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
Security ownership information of certain beneficial owners and
management is incorporated herein by reference under the
captions “CERTAIN BENEFICIAL OWNERS,” “ELECTION
OF DIRECTORS” and “COMPENSATION DISCUSSION
AND ANALYSIS” of the Bancorp’s Proxy Statement for the
2009 Annual Meeting of Shareholders.
The information required by this item concerning Equity
Compensation Plan information is included in Note 20 of the
Notes to the Consolidated Financial Statements.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED
TRANSACTIONS, AND DIRECTOR INDEPENDENCE
The information required by this item is incorporated herein by
reference under the captions “CERTAIN TRANSACTIONS”,
“CORPORATE
“ELECTION
ITS
GOVERNANCE” and “BOARD OF DIRECTORS,
COMMITTEES, MEETINGS AND FUNCTIONS” of
the
Bancorp’s Proxy Statement for the 2009 Annual Meeting of
Shareholders.
DIRECTORS”,
OF
ITEM 14. PRINCIPAL ACCOUNTING FEES AND
SERVICES
The information required by this item is incorporated herein by
reference under the caption “PRINCIPAL INDEPENDENT
REGISTERED PUBLIC ACCOUNTING FIRM FEES” of the
Bancorp’s Proxy Statement for the 2009 Annual Meeting of
Shareholders.
110 Fifth Third Bancorp
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT
SCHEDULES
Financial Statements Filed
Report of Independent Registered Public Accounting Firm
Fifth Third Bancorp and Subsidiaries Consolidated Financial
Statements
Notes to Consolidated Financial Statements
Pages
55
56-59
60-100
The schedules for the Bancorp and its subsidiaries are omitted
because of the absence of conditions under which they are
required, or because the information is set forth in the
Consolidated Financial Statements or the notes thereto.
The following lists the Exhibits to the Annual Report on Form 10-K.
3.1
Second Amended Articles of Incorporation of Fifth Third Bancorp,
as amended.
3.2
4.1
4.2
4.3
4.4
Code of Regulations of Fifth Third Bancorp, as amended.
Junior Subordinated Indenture, dated as of March 20, 1997 between
Fifth Third Bancorp and Wilmington Trust Company, as Debenture
Trustee. Incorporated by reference to Registrant’s Current Report on
Form 8-K filed with the Securities and Exchange Commission on
March 26, 1997.
Amended and Restated Trust Agreement, dated as of March 20, 1997
of Fifth Third Capital Trust II, among Fifth Third Bancorp, as
Depositor, Wilmington Trust Company, as Property Trustee, and the
Administrative Trustees named therein. Incorporated by reference to
Registrant’s Current Report on Form 8-K filed with the Securities
and Exchange Commission on March 26, 1997.
Guarantee Agreement, dated as of March 20, 1997 between Fifth
Third Bancorp, as Guarantor, and Wilmington Trust Company, as
Guarantee Trustee. Incorporated by reference to Registrant’s
Current Report on Form 8-K filed with the Securities and Exchange
Commission on March 26, 1997.
Agreement as to Expense and Liabilities, dated as of March 20, 1997
between Fifth Third Bancorp, as the holder of the Common
Securities of Fifth Third Capital Trust I and Fifth Third Capital Trust
II. Incorporated by reference to Registrant’s Current Report on Form
8-K filed with the Securities and Exchange Commission on March
26, 1997.
4.5
Indenture, dated as of May 23, 2003, between Fifth Third Bancorp
and Wilmington Trust Company, as Trustee. Incorporated by
reference to Registrant’s Current Report on Form 8-K filed with the
Securities and Exchange Commission on May 22, 2003.
4.6
Global security representing Fifth Third Bancorp’s $500,000,000
4.50% Subordinated Notes due 2018. Incorporated by reference to
Registrant’s Current Report on Form 8-K filed with the Securities
and Exchange Commission on May 22, 2003.
4.7
First Supplemental Indenture, dated as of December 20, 2006,
4.8
4.9
between Fifth Third Bancorp and Wilmington Trust Company, as
Trustee. Incorporated by reference to Registrant's Annual Report on
Form 10-K filed for the fiscal year ended December 31, 2006.
Global security representing Fifth Third Bancorp’s $500,000,000
5.45% Subordinated Notes due 2017. Incorporated by reference to
Registrant's Annual Report on Form 10-K filed for the fiscal year
ended December 31, 2006.
Global security representing Fifth Third Bancorp’s $250,000,000
Floating Rate Subordinated Notes due 2016. Incorporated by
reference to Registrant's Annual Report on Form 10-K filed for the
fiscal year ended December 31, 2006.
4.10 First Supplemental Indenture dated as of March 30, 2007 between
Fifth Third Bancorp and Wilmington Trust Company, as trustee, to
the Junior Subordinated Indenture dated as of May 20, 1997 between
Fifth Third and the Trustee. Incorporated by reference to Registrant’s
Current Report on Form 8-K filed with the Securities and Exchange
Commission on March 30, 2007.
4.11 Certificate Representing $500,000,000.00 of 6.50% Junior
Subordinated Notes of Fifth Third Bancorp. Incorporated by
reference to Registrant's Quarterly Report on Form 10-Q filed for the
quarter ended March 31, 2007.
4.12 Certificate Representing $250,010,000.00 of 6.50% Junior
Subordinated Notes of Fifth Third Bancorp. Incorporated by
reference to Registrant's Quarterly Report on Form 10-Q filed for the
quarter ended March 31, 2007.
4.13 Amended and Restated Declaration of Trust dated as of March 30,
2007 of Fifth Third Capital Trust IV among Fifth Third Bancorp, as
ANNUAL REPORT ON FORM 10-K
Sponsor, Wilmington Trust Company, as Property Trustee and
Delaware Trustee, and the Administrative Trustees named therein.
Incorporated by reference to Registrant's Quarterly Report on Form
10-Q filed for the quarter ended March 31, 2007.
4.14 Certificate Representing 500,000 6.50% Trust Preferred Securities of
Fifth Third Capital Trust IV (liquidation amount $1,000 per Trust
Preferred Security). Incorporated by reference to Registrant's
Quarterly Report on Form 10-Q filed for the quarter ended March 31,
2007.
4.15 Certificate Representing 250,000 6.50% Trust Preferred Securities of
Fifth Third Capital Trust IV (liquidation amount $1,000 per Trust
Preferred Security). Incorporated by reference to Registrant's
Quarterly Report on Form 10-Q filed for the quarter ended March 31,
2007.
4.16 Certificate Representing 10 6.50% Common Securities of Fifth Third
Capital Trust IV (liquidation amount $1,000 per Common Security).
Incorporated by reference to Registrant's Quarterly Report on Form
10-Q filed for the quarter ended March 31, 2007.
4.17 Guarantee Agreement, dated as of March 30, 2007 between Fifth
Third Bancorp, as Guarantor, and Wilmington Trust Company, as
Guarantee Trustee. Incorporated by reference to Registrant's
Quarterly Report on Form 10-Q filed for the quarter ended March 31,
2007.
4.18 Agreement as to Expense and Liabilities, dated as of March 30, 2007
between Fifth Third Bancorp and Fifth Third Capital Trust IV.
Incorporated by reference to Registrant's Quarterly Report on Form
10-Q filed for the quarter ended March 31, 2007.
4.19 Replacement Capital Covenant of Fifth Third Bancorp dated as of
March 30, 2007. Incorporated by reference to Registrant’s Current
Report on Form 8-K filed with the Securities and Exchange
Commission on March 30, 2007.
4.20 Second Supplemental Indenture dated as of August 8, 2007 between
Fifth Third Bancorp and Wilmington Trust Company, as trustee, to
the Junior Subordinated Indenture dated as of May 20, 1997 between
Fifth Third and the Trustee. Incorporated by reference to Registrant’s
Registration Statement on Form 8-A filed with the Securities and
Exchange Commission on August 8, 2007.
4.29 Certificate Representing $862,510,000 of 7.25% Junior Subordinated
Notes of Fifth Third Bancorp. Incorporated by reference to
Registrant’s Registration Statement on Form 8-A filed with the
Securities and Exchange Commission on October 31, 2007.
4.30 Amended and Restated Declaration of Trust dated as of October 30,
2007 of Fifth Third Capital Trust VI among Fifth Third Bancorp, as
Sponsor, Wilmington Trust Company, as Property Trustee and
Delaware Trustee, and the Administrative Trustees named therein.
Incorporated by reference to Registrant’s Registration Statement on
Form 8-A filed with the Securities and Exchange Commission on
October 31, 2007.
4.31 Certificate Representing 20,000,000 7.25% Trust Preferred
Securities of Fifth Third Capital Trust VI (liquidation amount $25
per Trust Preferred Security). Incorporated by reference to
Registrant’s Registration Statement on Form 8-A filed with the
Securities and Exchange Commission on October 31, 2007. (Issuer
also entered into an identical certificate on October 30, 2007
representing $362,500,000 in aggregate liquidation amount of 7.25%
Trust Preferred Securities of Fifth Third Capital Trust VI.)
4.32 Certificate Representing 400 7.25% Common Securities of Fifth
Third Capital Trust VI (liquidation amount $25 per Trust Preferred
Security). Incorporated by reference to Registrant's Quarterly Report
on Form 10-Q filed for the quarter ended September 30, 2007.
4.33 Guarantee Agreement, dated as of October 30, 2007 between Fifth
Third Bancorp, as Guarantor, and Wilmington Trust Company, as
Guarantee Trustee. Incorporated by reference to Registrant’s
Registration Statement on Form 8-A filed with the Securities and
Exchange Commission on October 31, 2007.
4.34 Agreement as to Expense and Liabilities, dated as of October 30,
2007 between Fifth Third Bancorp and Fifth Third Capital Trust VI.
Incorporated by reference to Registrant's Quarterly Report on Form
10-Q filed for the quarter ended September 30, 2007.
4.35 Replacement Capital Covenant of Fifth Third Bancorp dated as of
October 30, 2007. Incorporated by reference to Registrant’s Current
Report on Form 8-K filed with the Securities and Exchange
Commission on October 31, 2007.
4.21 Certificate Representing $500,010,000 of 7.25% Junior Subordinated
4.36 Global security dated as of March 4, 2008 representing Fifth Third
Notes of Fifth Third Bancorp. Incorporated by reference to
Registrant’s Registration Statement on Form 8-A filed with the
Securities and Exchange Commission on August 8, 2007.
4.22 Amended and Restated Declaration of Trust dated as of August 8,
2007 of Fifth Third Capital Trust V among Fifth Third Bancorp, as
Sponsor, Wilmington Trust Company, as Property Trustee and
Delaware Trustee, and the Administrative Trustees named therein.
Incorporated by reference to Registrant’s Registration Statement on
Form 8-A filed with the Securities and Exchange Commission on
August 8, 2007.
4.23 Certificate Representing 20,000,000 7.25% Trust Preferred
Securities of Fifth Third Capital Trust V (liquidation amount $25 per
Trust Preferred Security). Incorporated by reference to Registrant’s
Registration Statement on Form 8-A filed with the Securities and
Exchange Commission on August 8, 2007.
4.24 Certificate Representing 400 7.25% Trust Preferred Securities of
Fifth Third Capital Trust V (liquidation amount $25 per Trust
Preferred Security). Incorporated by reference to Registrant's
Quarterly Report on Form 10-Q filed for the quarter ended June 30,
2007.
4.25 Guarantee Agreement, dated as of August 8, 2007 between Fifth
Third Bancorp, as Guarantor, and Wilmington Trust Company, as
Guarantee Trustee. Incorporated by reference to Registrant’s
Registration Statement on Form 8-A filed with the Securities and
Exchange Commission on August 8, 2007.
4.26 Agreement as to Expense and Liabilities, dated as of August 8, 2007
between Fifth Third Bancorp and Fifth Third Capital Trust V.
Incorporated by reference to Registrant's Quarterly Report on Form
10-Q filed for the quarter ended June 30, 2007.
4.27 Replacement Capital Covenant of Fifth Third Bancorp dated as of
August 8, 2007. Incorporated by reference to Registrant’s Current
Report on Form 8-K filed with the Securities and Exchange
Commission on August 8, 2007.
4.28 Third Supplemental Indenture dated as of October 30, 2007 between
Fifth Third Bancorp and Wilmington Trust Company, as trustee, to
the Junior Subordinated Indenture dated as of May 20, 1997 between
Fifth Third and the trustee. Incorporated by reference to Registrant’s
Registration Statement on Form 8-A filed with the Securities and
Bancorp’s $500,000,000 8.25% Subordinated Notes due 2038.
Incorporated by reference to Registrant's Quarterly Report on Form
10-Q filed for the quarter ended March 31, 2008. (1)
4.37 Indenture for Senior Debt Securities dated as of April 30, 2008
between Fifth Third Bancorp and Wilmington Trust Company, as
trustee. Incorporated by reference to Registrant’s Current Report on
Form 8-K filed with the Securities and Exchange Commission on
May 6, 2008.
4.38 Global security dated as of April 30, 2008 representing Fifth Third
Bancorp’s $500,000,000 6.25% Senior Notes due 2013. Incorporated
by reference to Registrant’s Current Report on Form 8-K filed with
the Securities and Exchange Commission on May 6, 2008. (2)
4.39 Fourth Supplemental Indenture dated as of May 6, 2008 between
Fifth Third Bancorp and Wilmington Trust Company, as trustee, to
the Junior Subordinated Indenture dated as of May 20, 1997 between
Fifth Third and the Trustee. Incorporated by reference to
Registrant’s Registration Statement on Form 8-A filed with the
Securities and Exchange Commission on May 6, 2008.
4.40 $400,010,000.00 8.875% Junior Subordinated Note dated as of May
6, 2008 of Fifth Third Bancorp. Incorporated by reference to
Registrant’s Registration Statement on Form 8-A filed with the
Securities and Exchange Commission on May 6, 2008.
4.41 Amended and Restated Declaration of Trust of Fifth Third Capital
Trust VII dated as of May 6, 2008 among Fifth Third Bancorp, as
Sponsor, Wilmington Trust Company, as Property Trustee and
Delaware Trustee, and the Administrative Trustees named therein.
Incorporated by reference to Registrant’s Registration Statement on
Form 8-A filed with the Securities and Exchange Commission on
May 6, 2008.
4.42 Certificate dated as of May 6, 2008 representing 16,000,000
($400,000,000) 8.875% Trust Preferred Securities of Fifth Third
Capital Trust VII (liquidation amount $25 per Trust Preferred
Security). Incorporated by reference to Registrant’s Registration
Statement on Form 8-A filed with the Securities and Exchange
Commission on May 6, 2008.
4.43 Certificate dated as of May 6, 2008 representing 400 ($10,000)
8.875% Common Securities of Fifth Third Capital Trust VII
(liquidation amount $25 per Common Security). Incorporated by
reference to Registrant’s Current Report on Form 8-K filed with the
Fifth Third Bancorp 111
ANNUAL REPORT ON FORM 10-K
Securities and Exchange Commission on May 6, 2008.
4.44 Guarantee Agreement dated as of May 6, 2008 for Fifth Third
Capital Trust VII between Fifth Third Bancorp, as Guarantor, and
Wilmington Trust Company, as Guarantee Trustee. Incorporated by
reference to Registrant’s Registration Statement on Form 8-A filed
with the Securities and Exchange Commission on May 6, 2008.
4.45 Agreement as to Expense and Liabilities, dated as of May 6, 2008
between Fifth Third Bancorp and Fifth Third Capital Trust VII.
Incorporated by reference to Registrant’s Current Report on Form 8-
K filed with the Securities and Exchange Commission on May 6,
2008.
4.46 Deposit Agreement dated June 25, 2008, between Fifth Third
Bancorp, Wilmington Trust Company, as depositary and conversion
agent and American Stock Transfer and Trust Company, as transfer
agent, and the holders from time to time of the Receipts described
therein. Incorporated by reference to Exhibit 4.3 of the Registrant’s
Current Report on Form 8-K filed with the Securities and Exchange
Commission on June 25, 2008.
4.47 Form of Certificate Representing the 8.50 % Non-Cumulative
Perpetual Convertible Preferred Stock, Series G, of Fifth Third
Bancorp. Incorporated by reference to Exhibit 4.2 of the Registrant’s
Current Report on Form 8-K filed with the Securities and Exchange
Commission on June 25, 2008.
4.48 Form of Depositary Receipt for the 8.50 % Non-Cumulative
Perpetual Convertible Preferred Stock, Series G, of Fifth Third
Bancorp. Incorporated by reference to Exhibit 4.4 of the Registrant’s
Current Report on Form 8-K filed with the Securities and Exchange
Commission on June 25, 2008.
4.49 Warrant to Purchase up to 43,617,747 shares of Common Stock.
Incorporated by reference to Exhibit 4.1 of the Registrant’s Current
Report on Form 8-K filed with the Securities and Exchange
Commission on December 31, 2008.
10.1 Fifth Third Bancorp Unfunded Deferred Compensation Plan for
Non-Employee Directors. Incorporated by reference to Registrant’s
Annual Report on Form 10-K filed for fiscal year ended December
31, 1985. *
10.2 Fifth Third Bancorp 1990 Stock Option Plan. Incorporated by
reference to Registrant’s filing with the Securities and Exchange
Commission as an exhibit to the Registrant’s Registration Statement
on Form S-8, Registration No. 33-34075. *
10.12 Amendment No. 1 to Fifth Third Bancorp Stock Option Gain
Deferral Plan. Incorporated by reference to Registrant’s Current
Report on Form 8-K filed with the Securities and Exchange
Commission on May 26, 2006. *
10.13 Old Kent Executive Stock Option Plan of 1986, as Amended.
Incorporated by reference to the following filings by Old Kent
Financial Corporation with the Securities and Exchange
Commission: Exhibit 10 to Form 10-Q for the quarter ended
September 30, 1995; Exhibit 10.19 to Form 8-K filed on March 5,
1997; Exhibit 10.3 to Form 8-K filed on March 2, 2000. *
10.14 Old Kent Stock Option Incentive Plan of 1992, as Amended.
Incorporated by reference to the following filings by Old Kent
Financial Corporation with the Securities and Exchange
Commission: Exhibit 10(b) to Form 10-Q for the quarter ended June
30, 1995; Exhibit 10.20 to Form 8-K filed on March 5, 1997; Exhibit
10(d) to Form 10-Q for the quarter ended June 30, 1997; Exhibit
10.3 to Form 8-K filed on March 2, 2000. *
10.15 Old Kent Executive Stock Incentive Plan of 1997, as Amended.
Incorporated by reference to Old Kent Financial Corporation’s
Annual Meeting Proxy Statement dated March 1, 1997. *
10.16 Old Kent Stock Incentive Plan of 1999. Incorporated by reference to
Old Kent Financial Corporation’s Annual Meeting Proxy Statement
dated March 1, 1999. *
10.17 Notice of Grant of Performance Units and Award Agreement.
Incorporated by reference to Registrant’s Annual Report on Form
10-K filed for the fiscal year ended December 31, 2004. *
10.18 Notice of Grant of Restricted Stock and Award Agreement (for
Executive Officers). Incorporated by reference to Registrant’s
Annual Report on Form 10-K filed for the fiscal year ended
December 31, 2004. *
10.19 Notice of Grant of Stock Appreciation Rights and Award
Agreement. Incorporated by reference to Registrant’s Annual Report
on Form 10-K filed for the fiscal year ended December 31, 2004. *
10.20 Notice of Grant of Restricted Stock and Award Agreement (for
Directors). Incorporated by reference to Registrant’s Annual Report
on Form 10-K filed for the fiscal year ended December 31, 2004. *
10.21 Franklin Financial Corporation 1990 Incentive Stock Option Plan.
Incorporated by reference to Franklin Financial Corporation’s
Annual Report on Form 10-K for the year ended December 31,
1989.*
10.3 Fifth Third Bancorp 1987 Stock Option Plan. Incorporated by
10.22 Franklin Financial Corporation 2000 Incentive Stock Option Plan.
reference to Registrant’s filing with the Securities and Exchange
Commission as an exhibit to the Registrant’s Registration Statement
on Form S-8, Registration No. 33-13252. *
10.4 Indenture effective November 19, 1992 between Fifth Third
Bancorp, Issuer and NBD Bank, N.A., Trustee. Incorporated by
reference to Registrant’s Current Report on Form 8-K filed with the
Securities and Exchange Commission on November 18, 1992 and as
Exhibit 4.1 to the Registrant’s Registration Statement on Form S-3,
Registration No. 33-54134.
10.5 Fifth Third Bancorp Master Profit Sharing Plan, as Amended.
Incorporated by reference to Registrant’s Annual Report on Form
10-K filed for the fiscal year ended December 31, 2004. *
10.6 Fifth Third Bancorp Incentive Compensation Plan. Incorporated by
reference to Registrant’s Proxy Statement dated February 19, 2004. *
10.7 Amended and Restated Fifth Third Bancorp 1993 Stock Purchase
Plan. Incorporated by reference to Registrant’s Annual Report on
Form 10-K filed for the fiscal year ended December 31, 2003. *
10.8 Fifth Third Bancorp 1998 Long-Term Incentive Stock Plan, as
Amended. Incorporated by reference to the Exhibits to Registrant’s
Quarterly Report on Form 10-Q for the quarter ended June 30,
2003.*
10.9 Fifth Third Bancorp Non-qualified Deferred Compensation Plan, as
Amended and Restated. Incorporated by reference to Registrant’s
Annual Report on Form 10-K filed for the fiscal year ended
December 31, 2007. *
10.10 CNB Bancshares, Inc. 1999 Stock Incentive Plan, 1995 Stock
Incentive Plan, 1992 Stock Incentive Plan and Associate Stock
Option Plan; and Indiana Federal Corporation 1986 Stock Option
and Incentive Plan. Incorporated by reference to Registrant’s filing
with the Securities and Exchange Commission as an exhibit to a
Registration Statement on Form S-4, Registration No. 333-84955
and by reference to CNB Bancshares Annual Report on Form 10-K,
as amended, for the fiscal year ended December 31, 1998. *
10.11 Fifth Third Bancorp Stock Option Gain Deferral Plan. Incorporated
by reference to Registrant’s Proxy Statement dated February 9,
2001.*
112 Fifth Third Bancorp
Incorporated by reference to Franklin Financial Corporation’s
Registration Statement on Form S-8, Registration No. 333-52928. *
10.23 Amended and Restated First National Bankshares of Florida, Inc.
2003 Incentive Plan. Incorporated by reference to First National
Bankshares of Florida, Inc.’s Annual Report on Form 10-K for the
year ended December 31, 2003. *
10.24 Southern Community Bancorp Equity Incentive Plan. Incorporated
by reference to Southern Community Bancorp’s Registration
Statement on Form SB-2, Registration No. 333-35548. *
10.25 Southern Community Bancorp Director Statutory Stock Option Plan.
Incorporated by reference to Southern Community Bancorp’s
Registration Statement on Form SB-2, Registration No. 333-35548. *
10.26 Peninsula Bank of Central Florida Key Employee Stock Option Plan.
Incorporated by reference to Southern Community Bancorp’s Annual
Report on Form 10-K for the year ended December 31, 2003. *
10.27 Peninsula Bank of Central Florida Director Stock Option Plan.
Incorporated by reference to Southern Community Bancorp’s Annual
Report on Form 10-K for the year ended December 31, 2003. *
10.28 First Bradenton Bank Amended and Restated Stock Option Plan.
Incorporated by reference to Registrant’s Annual Report on Form
10-K for the fiscal year ended December 31, 2004. *
10.29 Letter Agreement with R. Mark Graf. Incorporated by reference to
the Exhibits to Registrant’s Quarterly Report on Form 10-Q for the
quarter ended September 30, 2005. *
10.30 Amendment Dated January 16, 2006 to the Letter Agreement with R.
Mark Graf. Incorporated by reference to Registrant’s Current Report
on Form 8-K filed with the Securities and Exchange Commission on
January 17, 2006.
10.31 Separation Agreement between Fifth Third Bancorp and Neal E.
Arnold dated as of December 14, 2005. Incorporated by reference to
Registrant’s Current Report on Form 8-K filed with the Securities
and Exchange Commission on December 22, 2005. *
10.32 Stipulation and Agreement of Settlement dated March 29, 2005, as
Amended. Incorporated by reference to Registrant’s Current Report on
Form 8-K filed with the Securities and Exchange Commission on
November 18, 2005.
ANNUAL REPORT ON FORM 10-K
10.33 Amendment to Stipulation dated May 10, 2005. Incorporated by
reference to Registrant’s Current Report on Form 8-K filed with the
Securities and Exchange Commission on November 18, 2005.
10.34 Second Amendment to Stipulation dated August 12, 2005.
Incorporated by reference to Registrant’s Current Report on Form 8-
K filed with the Securities and Exchange Commission on November
18, 2005.
10.35 Order and Final Judgment of the United States District Court for the
Southern District of Ohio. Incorporated by reference to Registrant’s
Current Report on Form 8-K filed with the Securities and Exchange
Commission on November 18, 2005.
10.36 Offer letter from Fifth Third Bancorp to Ross J. Kari. Incorporated
by reference to Registrant’s Current Report on Form 8-K filed with
the Securities and Exchange Commission on November 12, 2008. *
10.37 Separation Agreement between Fifth Third Bancorp and Christopher
G. Marshall dated May 1, 2008. Incorporated by reference to
Registrant’s Current Report on Form 8-K filed with the Securities
and Exchange Commission on May 2, 2008. *
10.38 Letter Agreement, dated December 31, 2008, including Securities
Purchase Agreement – Standard Terms incorporated by reference
therein, between the Company and the United States Department of
the Treasury. Incorporated by reference to Registrant’s Current
Report on Form 8-K filed with the Securities and Exchange
Commission on December 31, 2008.
10.39 Form of Waiver, executed by each of Messrs. Kevin Kabat, Ross
Kari, Greg Carmichael, Charles Drucker, Bruce Lee, Dan Poston,
Robert A. Sullivan and Terry Zink. Incorporated by reference to
Registrant’s Current Report on Form 8-K filed with the Securities
and Exchange Commission on December 31, 2008. *
10.40 Form of Letter Agreement, executed by each of Messrs. Kevin
Kabat, Ross Kari, Greg Carmichael, Charles Drucker, Bruce Lee,
Dan Poston, Robert A. Sullivan and Terry Zink with the Company.
Incorporated by reference to Registrant’s Current Report on Form 8-
K filed with the Securities and Exchange Commission on December
31, 2008. *
10.41 Form of Executive Agreements effective December 31, 2008,
between Fifth Third Bancorp and Kevin T. Kabat, Robert A.
Sullivan, Greg D. Carmichael, Ross Kari, Bruce K. Lee, Charles D.
Drucker and Terry Zink. Incorporated by reference to Registrant’s
Current Report on Form 8-K filed with the Securities and Exchange
Commission on December 31, 2008. *
10.42 Form of Executive Agreements effective December 31, 2008,
between Fifth Third Bancorp and Nancy Phillips, Daniel T. Poston,
Paul L. Reynolds and Mary E. Tuuk. Incorporated by reference to
Registrant’s Current Report on Form 8-K filed with the Securities
and Exchange Commission on December 31, 2008. *
10.43 Form of Executive Agreement effective December 31, 2008,
between Fifth Third Bancorp and Mahesh Sankaran. Incorporated by
reference to Registrant’s Current Report on Form 8-K filed with the
Securities and Exchange Commission on December 31, 2008. *
12.1 Computations of Consolidated Ratios of Earnings to Fixed Charges.
12.2 Computations of Consolidated Ratios of Earnings to Combined
Fixed Charges and Preferred Stock Dividend Requirements.
Code of Ethics. Incorporated by reference to Exhibit 14 of the
14
Registrant’s Current Report on Form 8-K filed with the Securities
and Exchange Commission on January 23, 2007.
21
23
Fifth Third Bancorp Subsidiaries, as of December 31, 2008.
Consent of Independent Registered Public Accounting Firm-Deloitte
& Touche LLP.
31(i) Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002 by Chief Executive Officer.
31(ii) Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002 by Chief Financial Officer.
32(i) Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 by Chief
Executive Officer.
32(ii) Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 by Chief
Financial Officer.
(1) Fifth Third Bancorp also entered into an identical security on March 4, 2008
representing an additional $500,000,000 of its 8.25% Subordinated Notes due
2038.
(2) Fifth Third Bancorp also entered into an identical security on April 30, 2008
representing an additional $250,000,000 of its 6.25% Senior Notes due 2013.
* Denotes management contract or compensatory plan or arrangement.
Fifth Third Bancorp 113
ANNUAL REPORT ON FORM 10-K
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the
Securities Exchange Act of 1934, the Registrant has duly caused
this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
FIFTH THIRD BANCORP
Registrant
Kevin T. Kabat
Chairman, President and CEO
Principal Executive Officer
February 27, 2009
Pursuant to requirements of the Securities Exchange Act of
1934, this report has been signed on February 27, 2009 by the
following persons on behalf of the Registrant and in the
capacities indicated.
OFFICERS:
Kevin T. Kabat
Chairman, President and CEO
Principal Executive Officer
Ross J. Kari
Executive Vice President and CFO
Principal Financial Officer
Daniel T. Poston
Executive Vice President and Controller
Principal Accounting Officer
DIRECTORS:
Darryl F. Allen
John F. Barrett
Ulysses L. Bridgeman, Jr.
James P. Hackett
Gary R. Heminger
Allen M. Hill
Kevin T. Kabat
Robert L. Koch II
Mitchel D. Livingston, Ph.D.
Hendrik G. Meijer
John J. Schiff, Jr.
Thomas W. Traylor
114 Fifth Third Bancorp
AVERAGE ASSETS ($ IN MILLIONS)
CONSOLIDATED TEN YEAR COMPARISON
Year
2008
2007
2006
2005
2004
2003
2002
2001
2000
1999
Loans and
Leases
$85,835
78,348
73,493
67,737
57,042
52,414
45,539
44,888
42,690
38,652
Interest-Earning Assets
Interest-Bearing
Deposits in
Banks (a)
183
147
144
113
195
215
184
132
82
103
Federal Funds
Sold (a)
438
257
252
88
120
92
155
69
118
224
Securities
$13,424
11,630
20,910
24,806
30,282
28,640
23,246
19,737
18,630
16,901
Total
$99,880
90,382
94,799
92,744
87,639
81,361
69,124
64,826
61,520
55,880
Cash and Due
from Banks
$2,490
2,275
2,477
2,750
2,216
1,600
1,551
1,482
1,456
1,628
Other
Assets
$13,411
10,613
8,713
8,102
5,763
5,250
5,007
5,000
4,229
3,344
Total
Average
Assets
$114,296
102,477
105,238
102,876
94,896
87,481
75,037
70,683
66,611
60,292
AVERAGE DEPOSITS AND SHORT-TERM BORROWINGS ($ IN MILLIONS)
Deposits
Year
2008
2007
2006
2005
2004
2003
2002
2001
2000
1999
Demand
$14,017
13,261
13,741
13,868
12,327
10,482
8,953
7,394
6,257
6,079
Interest
Checking
$14,095
14,820
16,650
18,884
19,434
18,679
16,239
11,489
9,531
8,553
Savings
$16,192
14,836
12,189
10,007
7,941
8,020
9,465
4,928
5,799
6,206
Money
Market
$6,127
6,308
6,366
5,170
3,473
3,189
1,162
2,552
939
1,328
INCOME ($ IN MILLIONS, EXCEPT PER SHARE DATA)
Other
Time
$11,135
10,778
10,500
8,491
6,208
6,426
8,855
13,473
13,716
13,858
Certificates
- $100,000
and Over
$9,531
6,466
5,795
4,001
2,403
3,832
2,237
3,821
4,283
4,197
Foreign
Office
$4,316
3,155
3,711
3,967
4,449
3,862
2,018
1,992
3,896
952
Total
$75,413
69,624
68,952
64,388
56,235
54,490
48,929
45,649
44,421
41,173
Short-Term
Borrowings
$10,246
6,890
8,670
9,511
13,539
12,373
7,191
8,799
9,725
8,573
Total
$85,659
76,514
77,622
73,899
69,774
66,863
56,120
54,448
54,146
49,746
Per Share (b)
Originally Reported
Year
2008
2007
2006
2005
2004
2003
2002
2001
2000
1999
Interest
Income
$5,608
6,027
5,955
4,995
4,114
3,991
4,129
4,709
4,947
4,199
Interest
Expense
$2,094
3,018
3,082
2,030
1,102
1,086
1,430
2,278
2,697
2,026
Noninterest
Income
$2,946
2,467
2,012
2,374
2,355
2,398
2,111
1,732
1,430
1,302
Noninterest
Expense
$4,564
3,311
2,915
2,801
2,863
2,466
2,265
2,397
1,981
1,954
Net Income
(Loss)
Available to
Common
Shareholders
$(2,180)
1,075
1,188
1,548
1,524
1,664
1,530
1,001
1,054
871
Earnings
$(3.94)
2.00
2.14
2.79
2.72
2.91
2.64
1.74
1.86
1.55
Diluted
Earnings
$(3.94)
1.99
2.13
2.77
2.68
2.87
2.59
1.70
1.83
1.53
Dividends
Declared
.75
1.70
1.58
1.46
1.31
1.13
.98
.83
.70
.582/3
Earnings
$(3.94)
2.00
2.14
2.79
2.72
2.91
2.64
1.74
1.70
1.32
Diluted
Earnings
$(3.94)
1.99
2.13
2.77
2.68
2.87
2.59
1.70
1.68
1.29
MISCELLANEOUS AT DECEMBER 31 ($ IN MILLIONS, EXCEPT SHARE DATA)
Shareholders’ Equity
Year
2008
2007
2006
2005
2004
2003
2002
2001
2000
1999
Common Shares
Outstanding (b)
577,386,612
532,671,925
556,252,674
555,623,430
557,648,989
566,685,301
574,355,247
582,674,580
569,056,843
565,425,468
Common
Stock
$1,295
1,295
1,295
1,295
1,295
1,295
1,295
1,294
1,263
1,255
Preferred
Stock
$4,241
9
9
9
9
9
9
9
9
9
Capital
Surplus
$848
1,779
1,812
1,827
1,934
1,964
2,010
1,943
1,454
1,090
Retained
Earnings
$5,824
8,413
8,317
8,007
7,269
6,481
5,465
4,502
3,982
3,551
Accumulated
Other
Comprehensive
Income
$98
(126)
(179)
(413)
(169)
(120)
369
8
28
(302)
Treasury
Stock
$(229)
(2,209)
(1,232)
(1,279)
(1,414)
(962)
(544)
(4)
(1)
-
Book Value
Per
Share (b)
$13.57
17.18
18.00
16.98
15.99
15.29
14.98
13.31
11.83
9.91
Allowance
for Loan
and Lease
Losses
$2,787
937
771
744
713
697
683
624
609
573
Total
$12,077
9,161
10,022
9,446
8,924
8,667
8,604
7,752
6,735
5,603
(a) Federal funds sold and interest-bearing deposits in banks are combined in other short-term investments in the Consolidated Financial Statements.
(b) Adjusted for stock splits in 2000.
Fifth Third Bancorp 115
FIFTH THIRD BANCORP
BOARD COMMITTEES
Finance Committee
Kevin T. Kabat, Chairman
James P. Hackett
Allen M. Hill
Robert L. Koch II
Dudley S. Taft
Audit Committee
Gary R. Heminger, Chairman
Darryl F. Allen, Vice Chairman
John F. Barrett
Ulysses L. Bridgeman, Jr.
Robert L. Koch II
Compensation Committee
Allen M. Hill, Chairman
Gary R. Heminger
Hendrik G. Meijer
James E. Rogers
Nominating and Corporate
Governance Committee
James P. Hackett, Chairman
Darryl F. Allen
Mitchel D. Livingston, Ph.D.
James E. Rogers
Risk and Compliance
Committee
John F. Barrett, Chairman
Ulysses L. Bridgeman, Jr.
Hendrik G. Meijer
Dudley S. Taft
Thomas W. Traylor
Trust Committee
Mitchel D. Livingston, Ph.D.,
Chairman
Kevin T. Kabat
John J. Schiff, Jr.
DIRECTORS AND OFFICERS
AFFILIATE CHAIRMEN
Charlie W. Brinkley, Jr.
Central Florida
H. Lee Cooper
Southern Indiana
Gordon E. Inman
Tennessee
Donald B. Shackelford
Central Ohio
John S. Szuch
Northwestern Ohio
REGIONAL PRESIDENTS
Todd F. Clossin
Dan W. Hogan
Robert A. Sullivan
Michelle L. VanDyke
Terry E. Zink
AFFILIATE PRESIDENTS
& CEOs
Samuel G. Barnes
Central Kentucky
John H. Bultema III
Western Michigan
David A. Call
South Florida
Todd F. Clossin
Northeastern Ohio
John N. Daniel
Southern Indiana
Karen Dee
Central Florida
David Girodat
Eastern Michigan
Dan W. Hogan
Tennessee
Robert E. James, Jr.
North Carolina
Brian P. Keenan
Tampa Bay
Robert W. LaClair
Northwestern Ohio
Philip R. McHugh
Louisville
Jordan A. Miller, Jr.
Central Ohio
John E. Pelizzari
Central Indiana
Robert A. Sullivan
Cincinnati
Terry E. Zink
Chicago
DIRECTORS EMERITI
Neil A. Armstrong
Philip G. Barach
Vincent H. Beckman
J. Kenneth Blackwell
Milton C. Boesel, Jr.
Douglas G. Cowan
Thomas L. Dahl
Ronald A. Dauwe
Gerald V. Dirvin
Thomas B. Donnell
Nicholas M. Evans
Richard T. Farmer
Louis R. Fiore
John D. Geary
Ivan W. Gorr
Joseph H. Head, Jr.
William G. Kagler
William J. Keating
Jerry L. Kirby
Robert B. Morgan
Michael H. Norris
David E. Reese
C. Wesley Rowles
Donald B. Shackelford
David B. Sharrock
Stephen Stranahan
Dennis J. Sullivan, Jr.
N. Beverley Tucker, Jr.
Alton C. Wendzel
FIFTH THIRD BANCORP
OFFICERS
Kevin T. Kabat
Chairman, President & CEO
Greg D. Carmichael
Executive Vice President &
Chief Operating Officer
Charles D. Drucker
Executive Vice President
Ross J. Kari
Executive Vice President &
Chief Financial Officer
Bruce K. Lee
Executive Vice President
Nancy R. Phillips
Executive Vice President &
Chief Human Resources Officer
Daniel T. Poston
Executive Vice President & Controller
Paul L. Reynolds
Executive Vice President, Secretary &
Chief Legal Officer
Mahesh Sankaran
Senior Vice President & Treasurer
Robert A. Sullivan
Senior Executive Vice President
Mary E. Tuuk
Executive Vice President &
Chief Risk Officer
Terry E. Zink
Executive Vice President
FIFTH THIRD BANCORP
DIRECTORS
Kevin T. Kabat
Chairman, President & CEO
Fifth Third Bancorp
Darryl F. Allen
Retired Chairman
President & CEO
Aeroquip-Vickers, Inc.
John F. Barrett
Chairman, President & CEO
Western & Southern Financial
Group
Ulysses L. Bridgeman, Jr.
President
ERJ Inc. and Manna, Inc.
James P. Hackett
President & CEO
Steelcase, Inc.
Gary R. Heminger
Executive Vice President
Marathon Oil Corporation
Allen M. Hill
Retired President & CEO
DPL, Inc.
Robert L. Koch II
President & CEO
Koch Enterprises, Inc.
Mitchel D. Livingston, Ph.D.
Vice President for Student Affairs
and Services
University of Cincinnati
Hendrik G. Meijer
Co-Chairman & CEO
Meijer, Inc.
James E. Rogers
Chairman, President & CEO
Duke Energy Corp.
John J. Schiff, Jr.
Chairman
Cincinnati Financial Corporation &
Cincinnati Insurance Company
Dudley S. Taft
President
Taft Broadcasting Company
Thomas W. Traylor
Chairman & CEO
Traylor Bros., Inc.
Marsha C. Williams
Senior Vice President & Chief
Financial Officer
Orbitz Worldwide, Inc.
116 Fifth Third Bancorp