================================================================================ U N I T E D S T A T E S SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark One) [X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended June 30, 2001 or [_] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period from _____________ to _____________ Commission File Number 1-6887 PACIFIC CENTURY FINANCIAL CORPORATION - ------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) Delaware 99-0148992 ------------------------ --------------------------------- (State of incorporation) (IRS Employer Identification No.) 130 Merchant Street, Honolulu, Hawaii 96813 ---------------------------------------- ---------- (Address of principal executive offices) (Zip Code) (808) 537-8430 ---------------------------------------------------- (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months, and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [_] Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Common Stock, $.01 Par Value; outstanding at July 31, 2001 - 80,750,640 shares ================================================================================
Index Pacific Century Financial Corporation and Subsidiaries Part I. - Financial Information Item 1. Financial Statements (Unaudited) Consolidated Statements of Income - Three months and Six months ended June 30, 2001 and 2000 Consolidated Balance Sheets - June 30, 2001, December 31, 2000, and June 30, 2000 Consolidated Statements of Shareholders' Equity - Six months ended June 30, 2001 and 2000 Consolidated Statements of Cash Flows - Six months ended June 30, 2001 and 2000 Notes to Consolidated Financial Statements Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Item 3. Quantitative and Qualitative Disclosure of Market Risk Part II. - Other Information Item 1. Exhibits and Reports on Form 8-K Item 4. Submission of Matters to a Vote of Shareholders Signatures
Pacific Century Financial Corporation and subsidiaries Consolidated Statements of Income (Unaudited) <TABLE> <CAPTION> - ------------------------------------------------------------------------------------------------------------------------------------ Three Months Ended Six Months Ended June 30 June 30 June 30 June 30 (dollars in thousands except per share amounts) 2001 2000 2001 2000 - ------------------------------------------------------------------------------------------------------------------------------------ <S> <C> <C> <C> <C> Interest Income Interest and Fees on Loans and Leases $ 163,815 $ 197,980 $ 352,974 $ 389,382 Interest and Dividends on Investment Securities 11,046 13,564 22,822 28,079 Income on Investment Securities Available for Sale 36,146 41,161 75,447 82,194 Deposits 4,903 3,834 10,117 7,598 Funds Sold and Security Resale Agreements 1,353 491 2,450 974 - ------------------------------------------------------------------------------------------------------------------------------------ Total Interest Income 217,263 257,030 463,810 508,227 Interest Expense Deposits 60,061 71,064 132,080 139,278 Security Repurchase Agreements 20,843 26,021 45,473 48,974 Funds Purchased 2,333 7,834 8,456 16,361 Short-Term Borrowings 2,764 6,514 5,994 11,046 Long-Term Debt 14,459 13,319 29,773 26,007 - ------------------------------------------------------------------------------------------------------------------------------------ Total Interest Expense 100,460 124,752 221,776 241,666 - ------------------------------------------------------------------------------------------------------------------------------------ Net Interest Income 116,803 132,278 242,034 266,561 Provision for Loan Losses 6,413 83,407 58,879 96,929 - ------------------------------------------------------------------------------------------------------------------------------------ Net Interest Income After Provision for Loan Losses 110,390 48,871 183,155 169,632 Non-Interest Income Trust and Asset Management 15,247 16,317 31,042 33,204 Mortgage Banking 4,606 2,799 9,683 4,878 Service Charges on Deposit Accounts 9,878 10,180 19,818 19,737 Fees, Exchange, and Other Service Charges 20,000 25,393 43,593 49,485 Gain on Sale of Card Portfolio and Branches 24,794 - 100,208 - Gain on Settlement of Pension Obligation - 11,900 - 11,900 Investment Securities Gains (Losses) 11,681 (515) 31,884 (233) Other Operating Income 12,170 13,097 22,883 28,672 - ------------------------------------------------------------------------------------------------------------------------------------ Total Non-Interest Income 98,376 79,171 259,111 147,643 Non-Interest Expense Salaries 47,722 44,460 95,605 92,007 Pensions and Other Employee Benefits 12,543 10,788 26,896 25,418 Net Occupancy Expense 12,488 12,480 24,612 24,296 Net Equipment Expense 13,729 12,066 27,108 24,133 Goodwill and Other Intangibles Amortization 3,633 4,278 7,583 8,340 Restructuring and Other Related Costs 37,751 - 82,189 - Minority Interest 84 107 163 176 Other Operating Expense 33,885 36,998 70,319 72,209 - ------------------------------------------------------------------------------------------------------------------------------------ Total Non-Interest Expense 161,835 121,177 334,475 246,579 - ------------------------------------------------------------------------------------------------------------------------------------ Income Before Income Taxes 46,931 6,865 107,791 70,696 Provision for Income Taxes 20,192 158 47,375 24,224 - ------------------------------------------------------------------------------------------------------------------------------------ Net Income $ 26,739 $ 6,707 $ 60,416 $ 46,472 ==================================================================================================================================== Basic Earnings Per Share $0.33 $0.08 $0.75 $0.58 Diluted Earnings Per Share $0.32 $0.08 $0.74 $0.58 Dividends Declared Per Share $0.18 $0.18 $0.36 $0.35 Basic Weighted Average Shares 80,516,216 79,425,245 80,120,449 79,623,305 Diluted Weighted Average Shares 82,975,267 80,002,989 82,030,085 79,975,904 ==================================================================================================================================== </TABLE> See accompanying notes to consolidated financial statements.
Pacific Century Financial Corporation and subsidiaries Consolidated Statements of Condition (Unaudited) <TABLE> <CAPTION> - --------------------------------------------------------------------------------------------------------------------------------- June 30 December 31 June 30 (dollars in thousands) 2001 2000 2000 - --------------------------------------------------------------------------------------------------------------------------------- <S> <C> <C> <C> Assets Interest Bearing Deposits $ 458,696 $ 188,649 $ 199,020 Investment Securities - Held to Maturity (Market Value of $628,393, $676,621 and $721,617, 616,412 670,038 730,445 respectively) Investment Securities - Available for Sale 2,202,718 2,507,076 2,493,066 Securities Purchased Under Agreements to Resell 7,688 3,969 - Funds Sold 318,182 134,644 50,646 Loans Held for Sale 571,395 179,229 128,720 Loans 7,618,407 9,235,158 9,615,277 Allowance for Loan Losses (199,800) (246,247) (246,559) - --------------------------------------------------------------------------------------------------------------------------------- Net Loans 7,418,607 8,988,911 9,368,718 - --------------------------------------------------------------------------------------------------------------------------------- Total Earning Assets 11,593,698 12,672,516 12,970,615 Cash and Non-Interest Bearing Deposits 391,552 523,969 473,950 Premises and Equipment 242,040 254,621 259,037 Customers' Acceptance Liability 4,184 14,690 9,406 Accrued Interest Receivable 61,702 68,585 75,883 Foreclosed Assets 40,077 4,526 4,915 Goodwill and Other Intangibles 157,515 192,264 198,363 Other Assets 264,743 282,645 302,456 - --------------------------------------------------------------------------------------------------------------------------------- Total Assets $12,755,511 $14,013,816 $14,294,625 ================================================================================================================================= Liabilities Domestic Deposits Demand - Non-Interest Bearing $ 1,591,824 $ 1,707,724 $ 1,696,106 - Interest Bearing 1,914,474 2,008,730 2,091,074 Savings 758,262 665,239 684,572 Time 2,602,035 2,836,083 2,781,868 Foreign Deposits Demand - Non-Interest Bearing 319,165 385,366 378,497 Time Due to Banks 265,768 535,126 442,678 Other Savings and Time 656,940 942,313 1,034,351 - --------------------------------------------------------------------------------------------------------------------------------- Total Deposits 8,108,468 9,080,581 9,109,146 Securities Sold Under Agreements to Repurchase 1,632,774 1,655,173 1,573,980 Funds Purchased 176,768 413,241 663,234 Short-Term Borrowings 242,781 211,481 530,231 Bank's Acceptances Outstanding 4,184 14,690 9,406 Accrued Retirement Expense 35,946 37,868 37,214 Accrued Interest Payable 59,559 72,460 64,579 Accrued Taxes Payable 170,815 130,766 83,343 Minority Interest 4,014 4,536 4,350 Other Liabilities 93,619 94,512 107,569 Long-Term Debt 830,852 997,152 902,174 - --------------------------------------------------------------------------------------------------------------------------------- Total Liabilities 11,359,780 12,712,460 13,085,226 Shareholders' Equity Common Stock ($.01 par value), authorized 500,000,000 shares; issued / outstanding: June 2001 - 81,368,629 / 80,948,825; December 2000 - 80,558,811 / 79,612,178; June 2000 - 80,555,424 / 79,399,919 806 806 806 Capital Surplus 367,390 346,045 346,018 Accumulated Other Comprehensive Income 25,886 (25,079) (75,462) Retained Earnings 1,028,036 996,791 959,041 Deferred Stock Grants (17,891) - - Treasury Stock, at Cost - (Shares: June 2001 - 419,804; December 2000 - 946,633; and June 2000 - 1,155,505) (8,496) (17,207) (21,004) - --------------------------------------------------------------------------------------------------------------------------------- Total Shareholders' Equity 1,395,731 1,301,356 1,209,399 - --------------------------------------------------------------------------------------------------------------------------------- Total Liabilities and Shareholders' Equity $12,755,511 $14,013,816 $14,294,625 ================================================================================================================================= </TABLE> See accompanying notes to consolidated financial statements.
<TABLE> <CAPTION> Pacific Century Financial Corporation and subsidiaries Consolidated Statements of Shareholders' Equity (Unaudited) - ------------------------------------------------------------------------------------------------------------------------------------ Accumulated Other Common Capital Comprehensive Retained Deferred Treasury Comprehensive (dollars in thousands) Total Stock Surplus Income Earnings Stock Grants Stock Income - ------------------------------------------------------------------------------------------------------------------------------------ <S> <C> <C> <C> <C> <C> <C> <C> <C> Balance at December 31, 2000 $1,301,356 $806 $346,045 $(25,079) $ 996,791 $ - $(17,207) Comprehensive Income Net Income 60,416 - - - 60,416 - $ 60,416 Other Comprehensive Income, Net of Tax Investment Securities 22,775 - - 22,775 - - - 22,775 Foreign Currency Translation Adjustment 27,496 - - 27,496 - - - 27,496 Pension Liability Adjustments (159) - - (159) - - - (159) -------- Total Comprehensive Income $110,528 ======== Common Stock Issued 32,942 Profit Sharing Plan 725 - 180 - - - 545 416,413 Stock Option Plan 7,073 - 643 - (381) - 6,811 64,791 Dividend Reinvestment Plan 1,419 - 326 - - - 1,093 3,672 Directors' Restricted Shares and Deferred Compensation Plan 343 - 81 - - - 262 741,000 Employees' Restricted Shares 925 - 18,816 - - (17,891) - 65,146 Hawaii Insurance Network 1,299 - 1,299 - - - - Stock Compensation 853 - 853 - - - Cash Dividends Paid (28,790) - - - (28,790) - - - --------------------------------------------------------------------------------------------------------------------- Balance at June 30, 2001 $1,395,731 $806 $367,390 $ 25,886 $1,028,036 $(17,891) $ (8,496) ===================================================================================================================== Balance at December 31, 1999 $1,212,330 $806 $345,851 $(66,106) $ 942,177 $ - $(10,398) Comprehensive Income Net Income 46,472 - - - 46,472 - - $ 46,472 Other Comprehensive Income, Net of Tax Investment Securities (10,696) - - (10,696) - - - (10,696) Foreign Currency Translation Adjustment 1,340 - - 1,340 - - - 1,340 -------- Total Comprehensive Income $ 37,116 ======== Common Stock Issued 39,382 Profit Sharing Plan 723 - 18 - (128) - 833 140,260 Stock Option Plan 2,018 - 3 - (1,019) - 3,034 115,574 Dividend Reinvestment Plan 1,899 - 52 - (616) - 2,463 4,696 Directors' Restricted Shares and Deferred Compensation Plan 94 - 94 - - - - Treasury Stock Purchased (16,936) - - - - - (16,936) Cash Dividends Paid (27,845) - - - (27,845) - - - --------------------------------------------------------------------------------------------------------------------- Balance at June 30, 2000 $1,209,399 $806 $346,018 $(75,462) $ 959,041 $ - $(21,004) ===================================================================================================================== See accompanying notes to consolidated financial statements. </TABLE>
<TABLE> <CAPTION> Pacific Century Financial Corporation and subsidiaries Consolidated Statements of Cash Flows (Unaudited) ============================================================================================= Six Months ended June 30 (dollars in thousands) 2001 2000 ============================================================================================= <S> <C> <C> Operating Activities Net Income $ 60,416 $ 46,472 Adjustments to reconcile net income to net cash provided (used) by operating activities: Provision for loan losses 58,879 96,929 Depreciation and amortization 30,427 28,908 Amortization of deferred loan fees and leasing income (21,330) (23,051) Amortization of deferred stock grants 1,778 -- Deferred income taxes (10,652) (24,685) Investment security (gains) losses (31,884) 78 Proceeds from sales of loans held for sale 195,922 120,151 Originations of loans held for sale (588,088) (112,774) Gain on sale of card portfolio and branches (100,208) -- Net change in other assets and liabilities 49,716 (942) -------------------------- Net cash provided (used) by operating activities (355,024) 131,086 - --------------------------------------------------------------------------------------------- Investing Activities Proceeds from redemptions of investment securities held to maturity 102,322 84,074 Purchases of investment securities held to maturity (48,696) (18,197) Proceeds from sales and redemptions of investment securities available for sale 683,078 86,216 Purchases of investment securities available for sale (324,061) (54,955) Net decrease (increase) in loans and lease financing 925,953 (297,845) Proceeds from sale of card portfolio and branches 707,010 -- Premises and equipment, net (7,976) (6,475) -------------------------- Net cash provided (used) by investing activities 2,037,630 (207,182) - --------------------------------------------------------------------------------------------- Financing Activities Net decrease in demand, savings, and time deposits (972,113) (285,072) Proceeds from lines of credit and long-term debt 2,048 200,048 Repayments of long-term debt (168,348) (25,531) Net decrease in short-term borrowings (227,572) (22,134) Proceeds from issuance of common stock, net of common stock repurchased 9,560 (12,202) Cash dividends (28,790) (27,845) -------------------------- Net cash used by financing activities (1,385,215) (172,736) - --------------------------------------------------------------------------------------------- Effect of exchange rate changes on cash 27,496 1,340 -------------------------- Increase (Decrease) in cash and cash equivalents 324,887 (247,492) Cash and cash equivalents at beginning of year 851,231 971,108 -------------------------- Cash and cash equivalents at end of period $ 1,176,118 $ 723,616 ============================================================================================= </TABLE> See accompanying notes to consolidated financial statements.
Pacific Century Financial Corporation Notes to Consolidated Financial Statements (Unaudited) Note 1. Summary of Significant Accounting Policies Basis of Presentation The accompanying unaudited consolidated financial statements of Pacific Century Financial Corporation (the Company) have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, the consolidated financial statements reflect all normal recurring adjustments necessary for a fair presentation of the results for the interim periods. Certain prior period amounts have been reclassified to conform to current period classifications. These statements should be read in conjunction with the audited consolidated financial statements and related notes included in the Company's 2000 Annual Report on Form 10-K. Operating results for the three and six months ended June 30, 2001 are not necessarily indicative of the results that may be expected for the year ending December 31, 2001. International operations include certain activities located domestically in Hawaii, as well as branches and subsidiaries domiciled outside the United States. The operations of Bank of Hawaii and First Savings and Loan Association of America (First Savings) located in the West and South Pacific that are denominated in U.S. dollars are classified as domestic. The Company's international operations are primarily concentrated in Hong Kong, Japan, Singapore, South Korea, Taiwan, French Polynesia, Fiji, New Caledonia, Papua New Guinea and Vanuatu. Cash and Cash Equivalents For purposes of reporting cash flows, cash and cash equivalents include: cash and non-interest bearing deposits, interest bearing deposits, securities purchased under agreements to resell and funds sold. All amounts are readily convertible to cash and have maturities less than ninety days. Income Taxes The provision for income taxes is computed by applying statutory federal, foreign, and state income tax rates to income before income taxes as reported in the Consolidated Statements of Income after adjusting for non-taxable items, principally from tax-exempt interest income, bank owned life
insurance income and goodwill written off in the second quarter of 2001. The write-off was associated with the Company's divestiture of its California bank. The tax provision is also reduced by low-income housing, and investment tax credits. Regulatory Matters The Company continues to comply with the terms of the previously disclosed Memorandum of Understanding. The Company obtained regulatory approval for dividend payments for the first, second and third quarters of 2001. In addition, regulatory approval was obtained for a $70 million share repurchase program which began on July 26, 2001. Note 2. Restructuring On April 23, 2001 the Company announced its new strategic plan designed to maximize shareholder value by strengthening its Hawaii and West Pacific operations and divesting most other holdings. The Company plans to divest or wind down its operations in California, the South Pacific and Asia. It will maintain its operations in Hawaii, the West Pacific, American Samoa, Japan and a leasing office in Arizona. On June 5, 2001, the Company announced the sale of Pacific Century Bank, N.A, its California bank subsidiary. The sale of all 20 branches includes approximately $640 million in deposits, $570 million in loans and 300 employees. The sale is expected to be completed in the third quarter. The Company also expects to sell its operations in the South Pacific and to close its Asian branches by the end of 2001. In connection with these divestitures, the Company incurred restructuring and related costs as follows. (in millions) Three-Months Ended Six-Months Ended June 30, 2001 June 30, 2001 Foreign Currency Translation Losses $ 2.2 $30.2 Write-down of goodwill 15.5 15.5 Termination Costs 14.3 15.7 Unrealizable Foreign Tax Credit - 5.0 Unrecoverable Investments - 6.1 Contract and Lease Terminations 3.1 3.1 Consulting fees 1.5 2.1 Other 1.2 4.5 ----- ----- Total $37.8 $82.2 ===== ===== In addition, $1.2 million of accelerated depreciation on assets to be disposed of in connection with the closure of the Asian branches was incurred in the second quarter 2001. The foreign currency translation losses were for the write-off of the deferred tax assets associated with translation losses that were previously recognized. The $15.5 million goodwill impairment charge was taken in anticipation of the sale of the California bank subsidiary and reflects the after tax loss that will occur as a result of the sale. The termination costs accrued were primarily for severance costs that will be paid out over the next six months to 474 employees of the Asia Division and the California bank. The termination costs and the
lease and contract termination are included in the restructuring accrual as of June 30, 2001. Activity in the Restructuring Accrual Balance at December 31, 2000 $ - Restructuring Charges 2.3 ------ Balance at March 31, 2001 $ 2.3 Restructuring Charges 17.4 Payments (1.2) ------ Balance at June 30, 2001 $ 16.2 Note 3. Business Segments The Company is a financial services organization that has maintained a broad presence throughout the Pacific region. This presence will change over the remainder of the year in conjunction with management's announced intention to divest non-core holdings. Operations in Hawaii, the West Pacific, American Samoa and Japan will be retained, as well as an office in Arizona for its leasing operations and technology support. Consequently, during the first quarter of 2001, the Company realigned its business from geographic segments into the following segments: Retail Banking, Commercial Banking, Financial Services Group, Divestiture Businesses and Treasury and Other Corporate. Corporate Restructuring Related Activities have been segregated for the current year due to their non-recurring nature. Business segment results are determined based on the Company's internal financial management organizational structure. The Company uses a variety of techniques to assign and transfer balance sheet and income statement amounts between business segments including allocations of common costs and capital. These techniques and accounting practices are not covered by accounting principles generally accepted in the United States. The Company is continuing to develop its business segment accounting practices and, during the first half of 2001, implemented changes in the way that segment results are used. Accordingly, the previously presented operating results for the periods ended June 30, 2000 have been reclassified to be consistent with the periods ended June 30, 2001. It is possible that further revision of segment accounting practices may be made in future periods, accordingly prior segment information may be reclassified. The financial results for the three and six months ended June 30, 2001 and 2000 are presented below for each of the Company's principal segments. Business Segment Selected Financial Information <TABLE> <CAPTION> Corporate Restruc- Financial Treasury turing Consoli- Services Divestiture and Other Related dated Retail Commercial Group Businesses Corporate Activities Total --------- ---------- --------- ----------- ---------- ---------- --------- <S> <C> <C> <C> <C> <C> <C> <C> Three Months Ended June 30, 2001 Net Interest Income $ 42,150 $ 41,096 $ 2,863 $ 28,979 $ 1,715 -- $ 116,803 Loan Loss Provision (1,724) (848) -- (3,841) -- -- (6,413) --------- --------- --------- --------- --------- --------- --------- Net Interest Income after Provision 40,426 40,248 2,863 25,138 1,715 -- 110,390 Gains from Divestitures -- -- -- -- -- 35,929 35,929 Other Non-Interest Income 20,370 6,474 20,959 7,507 7,137 -- 62,447 --------- --------- --------- --------- --------- --------- --------- Total Revenue 60,796 46,722 23,822 32,645 8,852 35,929 208,766 Restructuring & Other related costs -- -- -- -- -- 38,988 38,988 Non-Interest Expense 45,394 22,749 19,843 30,625 4,236 -- 122,847 --------- --------- --------- --------- --------- --------- --------- Net Income (Loss) Before Income Taxes 15,402 23,973 3,979 2,020 4,616 (3,059) 46,931 Income Taxes (7,140) (9,845) (1,672) (828) 394 (1,101) (20,192) --------- --------- --------- --------- --------- --------- --------- Net Income (Loss) $ 8,262 $ 14,128 $ 2,307 $ 1,192 $ 5,010 ($ 4,160) $ 26,739 ========= ========= ========= ========= ========= ========= ========= </TABLE> <TABLE> <CAPTION> Corporate Restruc- Financial Treasury turing Consoli- Services Divestiture and Other Related dated Retail Commercial Group Businesses Corporate Activities Total --------- ---------- --------- ----------- ---------- ---------- --------- <S> <C> <C> <C> <C> <C> <C> <C> Three Months Ended June 30, 2000 Net Interest Income $ 40,041 $ 49,695 $ 2,069 $ 38,213 $ 2,260 -- $ 132,278 Loan Loss Provision (2,026) (58,117) -- (15,596) (7,668) -- (83,407) --------- --------- --------- --------- --------- --------- --------- Net Interest Income after Provision 38,015 (8,422) 2,069 22,617 (5,408) -- 48,871 Gains from Divestitures -- -- -- -- -- -- -- Other Non-Interest Income 18,634 8,067 21,780 11,517 19,173 -- 79,171 --------- --------- --------- --------- --------- --------- --------- Total Revenue 56,649 (355) 23,849 34,134 13,765 -- 128,042 Restructuring & Other related costs -- -- -- -- -- -- -- Non-Interest Expense 39,511 22,810 16,952 33,746 8,158 -- 121,177 --------- --------- --------- --------- --------- --------- --------- Net Income (Loss) Before Income Taxes 17,138 (23,165) 6,897 388 5,607 -- 6,865 Income Taxes (7,198) 9,720 (2,896) 675 (459) -- (158) --------- --------- --------- --------- --------- --------- --------- Net Income (Loss) $ 9,940 ($ 13,445) $ 4,001 $ 1,063 $ 5,148 -- $ 6,707 ========= ========= ========= ========= ========= ========= ========= </TABLE> Business Segment Selected Financial Information <TABLE> <CAPTION> Corporate Restruc- Financial Treasury turing Consoli- Services Divestiture and Other Related dated Retail Commercial Group Businesses Corporate Activities Total --------- ---------- --------- ----------- ---------- ---------- --------- <S> <C> <C> <C> <C> <C> <C> <C> Six Months Ended June 30, 2001 Net Interest Income $ 84,307 $ 81,713 $ 5,395 $ 66,945 $ 6,118 (2,444) $ 242,034 Loan Loss Provision (4,470) (10,152) -- (7,541) -- (36,716) (58,879) --------- --------- --------- --------- --------- --------- --------- Net Interest Income after Provision 79,837 71,561 5,395 59,404 6,118 (39,160) 183,155 Gains from Divestitures -- -- -- -- -- 132,282 132,282 Other Non-Interest Income 41,972 15,492 41,867 20,581 10,217 (3,300) 126,829 --------- --------- --------- --------- --------- --------- --------- Total Revenue 121,809 87,053 47,262 79,985 16,335 89,822 442,266 Restructuring & Other related costs -- -- -- -- -- 83,426 83,426 Non-Interest Expense 86,557 46,240 39,024 68,970 10,258 -- 251,049 --------- --------- --------- --------- --------- --------- --------- Net Income (Loss) Before Income Taxes 35,252 40,813 8,238 11.015 6,077 6,396 107,791 Income Taxes (14,805) (18,690) (3,460) (2,450) (257) (7,713) (47,375) --------- --------- --------- --------- --------- --------- --------- Net Income (Loss) $ 20,447 $ 22,123 $ 4,778 $ 8,565 $ 5,820 ($ 1,317) $ 60,416 ========= ========= ========= ========= ========= ========= ========= </TABLE> <TABLE> <CAPTION> Corporate Restruc- Financial Treasury turing Consoli- Services Divestiture and Other Related dated Retail Commercial Group Businesses Corporate Activities Total --------- ---------- --------- ----------- ---------- ---------- --------- <S> <C> <C> <C> <C> <C> <C> <C> Six Months Ended June 30, 2000 Net Interest Income $ 81,830 $ 98,164 $ 3,874 $ 76,148 $ 18,098 -- $ 278,114 Loan Loss Provision (4,477) (64,917) -- (19,866) (7,669) -- (96,929) --------- --------- --------- --------- --------- --------- --------- Net Interest Income after Provision 77,353 33,247 3,874 56,282 10,429 -- 181,185 Gains from Divestitures -- -- -- -- -- -- -- Other Non-Interest Income 36,797 15,595 44,206 22,942 17,952 -- 137,492 --------- --------- --------- --------- --------- --------- --------- Total Revenue 114,150 48,842 48,080 79,224 28,381 -- 318,677 Restructuring & Other related costs -- -- -- -- -- -- -- Non-Interest Expense 80,327 45,025 34,532 70,870 17,227 -- 247,981 --------- --------- --------- --------- --------- --------- --------- Net Income (Loss) Before Income Taxes 33,823 3,817 13,548 8,354 11,154 -- 70,696 Income Taxes (14,206) (807) (5,690) (2,619) (902) -- (24,224) --------- --------- --------- --------- --------- --------- --------- Net Income (Loss) $ 19,617 $ 3,010 $ 7,858 $ 5,735 $ 10,252 -- $ 46,472 ========= ========= ========= ========= ========= ========= ========= </TABLE> Note 4. Recent Accounting Pronouncements During 2001, the Company adopted the requirements of Statement of Financial Accounting Standards (SFAS) No. 140, Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities (SFAS 140). SFAS 140 revised the criteria for accounting for securitizations and other transfers of financial assets and collateral, and introduced new disclosures. Adoption of SFAS 140 had no material effect on the Company's financial statements. On June 29, 2001, the Financial Accounting Standards Board issued SFAS No. 141, Business Combinations, and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS 141, effective June 30, 2001, requires that all business combinations initiated after June 30, 2001 be accounted for under the purchase method of accounting. SFAS 142 eliminates amortization of goodwill associated with business combinations completed after June 30, 2001. During a transition period from July 1, 2001 through December 31, 2001, goodwill associated with business combinations completed prior to July 1, 2001 will continue to be amortized through the income statement. Effective January 1, 2002, all goodwill amortization expense will cease and goodwill will be assessed (at least annually) for impairment at the reporting unit level by applying a fair-value based test. SFAS 142 also provides additional guidance on acquired intangibles that should be separately recognized and amortized. Under SFAS 142 intangibles with indefinite lives will no longer be amortized to the income statement. Beginning January 1, 2002, under SFAS 142 the elimination of goodwill amortization is expected to increase net income by approximately $1.8 million, after taking into consideration the goodwill that will be eliminated with the Company's planned divestitures. The Company will also perform an initial goodwill assessment to determine if a transition impairment charge will be recognized under SFAS 142.
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Forward Looking Statements This report contains forward-looking statements regarding the Company's beliefs, estimates, projections and assumptions, which are provided to assist in the understanding of certain aspects of the Company's anticipated future financial performance. The Company cautions readers not to place undue reliance on any forward-looking statement. Forward-looking statements are subject to significant risks and uncertainties, many of which are beyond the Company's control. Although the Company believes that the assumptions underlying its forward-looking statements are reasonable, any assumption could prove to be inaccurate and actual results may differ from those contained in or implied by such forward-looking statements for a variety of reasons. Factors that might cause differences to occur include, but are not limited to, economic conditions in the markets that the Company serves including those in Hawaii, the U.S. Mainland, Asia and the South Pacific; shifts in interest rates; fluctuations in currencies of Asian Rim and South Pacific countries relative to the U.S. dollar; factors impacting the implementation of the strategic plan (including restructuring of the Company), which may result in the plan not being completed within the expected financial and time estimates; credit markets may deteriorate; credit quality initiatives may fall short of the Company's goals; the expense reductions may not be achieved; the Company may not be able to maintain its net interest margin; proposed equity repurchases may not be implemented within the expected financial and time estimates; implementation of the strategic plan may cause unanticipated organizational disruptions; customer acceptance of our business as restructured may be less than expected; changes in applicable federal, state, and foreign income tax laws and regulatory and monetary policies; and increases in competitive pressures in the banking and financial services industry could increase, particularly in connection with product delivery and pricing. Unless expressly stated, the Company does not undertake and specifically disclaims any obligation to update any forward- looking statements to reflect events or circumstances after the date of such statements. PERFORMANCE HIGHLIGHTS The Company reported earnings for the three months ended June 30, 2001 of $26.7 million, compared to $6.7 million for the three months ended June 30, 2000. Diluted earnings per share were $0.32 for the second quarter of 2001 compared to $0.08 in the second quarter of 2000. The Company's net income for the first six months of 2001 was $60.4 million, compared to $46.5 million for the corresponding period of the prior year. On April 23, 2001 the Company announced a new strategic plan designed to maximize shareholder value by strengthening its Hawaii and West Pacific operations and divesting most other holdings. In connection with this plan, the Company announced in June 2001, the sale of Pacific Century Bank, N.A., the California bank subsidiary. The sale is expected to be completed in the third quarter. The Company also plans to sell its operations in the South Pacific and close its Asian branches by the end of 2001. It will maintain its operations in Hawaii, the West Pacific, American Samoa, Japan and a leasing office in Arizona. As a consequence of the plan, the Company recognized restructuring and other related costs of $39.0 million and $83.4 million during the three and six months ended June 30, 2001.
For the quarter ended June 30, 2001, earnings included gains of $24.8 million from the sale of Pacific Century Bank N.A.'s Arizona branches, and $11.1 million from the sale of investment securities. During the first quarter of 2001, the Company realized a gain of $75.4 million on the sale of its credit card portfolio and a gain of $20.9 million on the exchange of stock in Star Systems, Inc. for Concord EFS, Inc. The provision for loan and lease losses was $6.4 million for the second quarter 2001, approximating net charge-offs. The prior quarter and comparable quarter last year included provisions for loan and lease losses of $52.5 million and $83.4 million, respectively, which strengthened the allowance for loan and lease losses. The Company continued to improve its asset quality during the second quarter. Non-performing assets, exclusive of accruing loans past due 90 days or more, decreased to $118.9 million at June 30, 2001, relatively unchanged from March 31, 2001 and down from $183.0 million at December 31, 2000 and $210.6 million at June 30, 2000. At June 30, 2001 and March 31, 2001 the allowance for loan losses was $199.8 million compared with $246.2 million and $246.6 million at December 31 and June 30, 2000, respectively. The ratio of the allowance to loans was 2.62% and 2.56% at June 30, 2001 and 2000, respectively. In the second quarter of 2001, return on average assets (ROAA) and return on average equity (ROAE) were 0.83% and 7.69%, respectively, compared to 0.19% and 2.19% in the second quarter of 2000. On a year-to-date basis, ROAA was 0.91% and 0.66% in 2001 and 2000, respectively, and ROAE was 9.0% in 2001 compared to 7.65% in 2000. Total assets at June 30, 2001 were $12.8 billion, down from $14.0 billion at December 31, 2000 and $14.3 billion at June 30, 2000. The decrease in total assets was largely due to reductions in the Company's loan portfolio, which was $2.0 billion lower at June 30, 2001 as compared to June 30, 2000. The decline in loans was partially due to sales in 2001 of commercial loans, credit card loans, the Company's Arizona branches and planned risk reduction in the portfolio, partially offset by a $106.9 million increase in the mortgage loan portfolio. In addition, since December 31, 2000, loans in the Company's Asia branches have declined as the branches are winding down their operations. <TABLE> <CAPTION> Highlights Table 1 - ------------------------------------------------------------------------------------------- (dollars in thousands except per share amounts) Earnings Highlights and Performance Ratios 2001 2000 - ------------------------------------------------------------------------------------------- <S> <C> <C> Three Months Ended June 30 Net Income $26,739 $6,707 Basic Earnings Per Share 0.33 0.08 Diluted Earnings Per Share 0.32 0.08 Cash Dividends 14,426 14,305 Return on Average Assets 0.83% 0.19% Return on Average Equity 7.69% 2.19% Net Interest Margin 3.92% 4.11% Core Efficiency Ratio (a) 68.74% 60.57% Six Months Ended June 30 Net Income $60,416 $46,472 Basic Earnings Per Share 0.75 0.58 Diluted Earnings Per Share 0.74 0.58 Cash Dividends 28,790 27,845 Return on Average Assets 0.91% 0.66% Return on Average Equity 9.00% 7.65% Net Interest Margin 3.94% 4.12% Core Efficiency Ratio (a) 66.98% 61.26% Summary of Results Excluding the Effect of Intangibles (b) - ------------------------------------------------------------------------------------------- Three Months Ended June 30 Net Income $28,676 $10,526 Basic Earnings per Share $0.36 $0.13 Diluted Earnings per Share $0.35 $0.13 Return on Average Assets 0.90% 0.30% Return on Average Equity 9.41% 4.10% Core Efficiency Ratio (a) 66.71% 58.43% Six Months Ended June 30 Net Income $67,383 $53,973 Basic Earnings per Share $0.84 $0.68 Diluted Earnings per Share $0.82 $0.67 Return on Average Assets 1.03% 0.77% Return on Average Equity 11.59% 10.66% Core Efficiency Ratio (a) 64.96% 59.18% (a) Core earnings excludes restructuring and non-recurring transactions. (b) Intangibles include goodwill, core deposit and trust Intangibles, and other intangibles. June 30 June 30 Statement of Condition Highlights 2001 2000 - ------------------------------------------------------------------------------------------- Total Assets $12,755,511 $14,294,625 Net Loans 7,418,607 9,368,718 Total Deposits 8,108,468 9,109,146 Total Shareholders' Equity 1,395,731 1,209,399 Book Value Per Common Share $17.24 $15.23 Allowance / Loans Outstanding 2.62% 2.56% Average Equity / Average Assets 10.08% 8.59% Employee (FTE) 4,197 4,275 Branches 156 174 Common Stock Price Range Quarter Ended Closing $25.79 $14.63 High $25.80 $23.19 Low $19.38 $14.63 </TABLE>
STATEMENT OF INCOME ANALYSIS Net Interest Income Taxable-equivalent net interest income was $116.9 million for the second quarter of 2001, down $17.2 million, or 12.8% from the comparable period in 2000. Taxable-equivalent net interest income was $242.2 million for the six- months ended June 30, 2001, down $26.4 million, or 9.8% from the same period in 2000. The decline in net interest income was attributable to: 1) decreases in the Company's loan portfolio, in particular the sale of the credit card portfolio and Arizona branches which portfolios were higher yielding than the portfolios that remain, and 2) interest rate reductions during 2001 as a result of actions taken by the Federal Reserve. During the second quarter of 2001, the Federal Reserve reduced interest rates by 125 basis points. Since the end of the second quarter 2000 interest rates have been reduced by 275 basis points. The income statement presentation has been modified effective June 30, 2001. All prior periods have been reclassified. The modifications include: presenting mortgage banking related activities as a separate financial statement line, combining Interest on Loans, Loan Fees and Income on Lease Financing into one financial statement line, reclassifying interchange and other fees to Fees, Exchange, and Other Service charges, and separately classifying goodwill and other intangible amortization. The following illustrates the reclassifications for the three and six months ended June 30, 2000. <TABLE> <CAPTION> Three Months Ended 6/30/00 Six Months Ended 6/30/00 ============================================================================================================= (in thousands) Previously Amounts after Previously Amounts after Reported Reclassification Reported Reclassification - ------------------------------------------------------------------------------------------------------------- <S> <C> <C> <C> <C> Interest & Fees on Loans & Leases $185,584 $197,980 $365,986 $389,382 Income from Lease Financing 9,747 -- 17,726 -- Loan Fees 8,977 -- 17,223 -- Mortgage Banking -- 2,799 -- 4,878 Fees, Exchange, and Other Service Charges 22,586 25,393 44,212 49,485 Goodwill & Other Intangible Amortization -- 4,278 -- 8,340 Other Operating Expense 41,998 36,998 81,951 72,209 </TABLE> The Company's net interest margin was 3.92% in the quarter ended June 30, 2001, a decrease of 19 basis points from the comparable period a year ago. For the first six-months of the year, the net interest margin was 3.94%, compared to 4.12% for the comparable period in 2000. Presented in Table 2 are average balances, yields earned, and rates paid for the three and six-month periods ended June 30, 2001 and June 30, 2000. <TABLE> <CAPTION> Consolidated Average Balances and Interest Rates Taxable Equivalent Table 2 ============================================================================================================================= Three Months Ended Three Months Ended June 30, 2001 June 30, 2000 Average Income/ Yield/ Average Income/ Yield/ (in millions of dollars) Balance Expense Rate Balance Expense Rate ============================================================================================================================= <S> <C> <C> <C> <C> <C> <C> Earning Assets Interest Bearing Deposits $414.3 $4.9 4.75% $220.0 $3.6 6.49% Investment Securities Held to Maturity -Taxable 638.4 10.9 6.85 723.3 13.3 7.41 -Tax-Exempt 3.7 0.2 23.78 8.3 0.4 18.04 Investment Securities Available for Sale 2,318.3 36.2 6.25 2,514.8 41.2 6.58 Funds Sold 120.3 1.4 4.51 32.2 0.5 6.13 Net Loans -Domestic 7,341.8 144.5 7.90 8,104.4 174.6 8.66 -Foreign 1,136.9 19.3 6.80 1,532.5 25.1 6.58 -------------------------------------- ----------------------------- Total Loans 8,478.7 163.8 7.75 9,636.9 199.6 8.33 -------------------------------------- ----------------------------- Total Earning Assets 11,973.7 217.4 7.28 13,135.5 258.5 7.92 Cash and Due From Banks 367.6 444.0 Other Assets 655.1 638.8 --------- --------- Total Assets $12,996.4 $14,218.4 ========= ========= Interest Bearing Liabilities Domestic Deposits - Demand $1,905.0 9.3 1.95 $2,097.8 12.3 2.36 - Savings 698.8 3.7 2.14 691.5 3.5 2.03 - Time 2,654.1 37.3 5.64 2,744.0 36.4 5.33 -------------------------------------- ----------------------------- Total Domestic 5,257.9 50.3 3.83 5,533.3 52.1 3.79 Foreign Deposits - Time Due to Banks 317.4 3.5 4.45 422.0 6.2 5.90 - Other Time and Savings 709.3 6.3 3.55 1,133.8 12.4 4.42 -------------------------------------- ----------------------------- Total Foreign 1,026.7 9.8 3.83 1,555.8 18.6 4.82 -------------------------------------- ----------------------------- Total Interest Bearing Deposits 6,284.6 60.1 3.83 7,089.1 70.8 4.02 Short-Term Borrowings 2,108.2 25.9 4.94 2,728.1 40.4 5.95 Long-Term Debt 864.5 14.5 6.71 807.2 13.3 6.64 -------------------------------------- ----------------------------- Total Interest Bearing Liabilities 9,257.3 100.5 4.35 10,624.4 124.5 4.71 -------------------------------------- ----------------------------- Net Interest Income 116.9 134.1 Interest Rate Spread 2.93% 3.21% Net Interest Margin 3.92% 4.11% Demand Deposits - Domestic 1,567.8 1,666.5 - Foreign 348.4 366.0 --------- --------- Total Demand Deposits 1,916.2 2,032.5 Other Liabilities 428.5 331.5 Shareholders' Equity 1,394.4 1,230.0 --------- --------- Total Liabilities and Shareholders' Equity $12,996.4 $14,218.4 ========= ========= Provision for Loan Losses 6.4 83.4 Net Overhead 63.5 43.1 --------- --------- Income Before Income Taxes 47.0 7.6 Provision for Income Taxes 20.2 0.2 Tax-Equivalent Adjustment 0.1 0.7 --------- --------- Net Income $26.7 $6.7 ========= ========= </TABLE> <TABLE> <CAPTION> Six Months Ended Six Months Ended June 30, 2001 June 30, 2000 Average Income/ Yield/ Average Income/ Yield/ Balance Expense Rate Balance Expense Rate ============================================================================================================= <S> <C> <C> <C> <C> <C> <C> Earning Assets Interest Bearing Deposits $373.5 $10.1 5.46% $226.0 $7.3 6.51% Investment Securities Held to Maturity -Taxable 645.5 22.5 7.04 749.4 27.6 7.40 -Tax-Exempt 3.7 0.4 23.53 9.1 0.8 17.65 Investment Securities Available for Sale 2,398.7 75.4 6.34 2,520.9 82.2 6.56 Funds Sold 100.5 2.5 4.92 33.6 1.0 5.83 Net Loans -Domestic 7,662.0 311.9 8.21 8,001.2 341.2 8.58 -Foreign 1,206.9 41.1 6.87 1,559.3 49.9 6.44 --------------------------- -------------------------- Total Loans 8,868.9 353.0 8.03 9,560.5 391.1 8.23 --------------------------- -------------------------- Total Earning Assets 12,390.8 463.9 7.55 13,099.5 510.0 7.83 Cash and Due From Banks 402.7 475.3 Other Assets 625.2 635.1 ---------- --------- Total Assets $13,418.7 $14,209.9 ========= ========= Interest Bearing Liabilities Domestic Deposits - Demand $1,956.4 20.9 2.16 $ 2,106.7 24.5 2.34 - Savings 682.3 7.1 2.09 695.8 7.0 2.03 - Time 2,777.7 80.4 5.84 2,754.4 71.5 5.22 Total Domestic 5,416.4 108.4 4.04 5,556.9 103.0 3.73 Foreign Deposits - Time Due to Banks 402.9 10.2 5.09 454.9 13.2 5.84 - Other Time and Savings 754.9 13.4 3.60 1,127.7 22.8 4.06 Total Foreign 9,700.1 23.6 4.12 1,582.6 36.0 4.57 Total Interest Bearing Deposits 6,574.2 132.0 4.05 7,139.5 139.0 3.92 Short-Term Borrowings 2,235.8 59.9 5.40 2,677.4 76.4 5.74 Long-Term Debt 890.1 29.8 6.75 790.1 26.0 6.62 Total Interest Bearing Liabilities 9,700.1 221.7 4.61 10,607.0 241.4 4.58 Net Interest Income 242.2 268.6 Interest Rate Spread 2.94% 3.25% Net Interest Margin 3.94% 4.12% Demand Deposits - Domestic 1,602.1 1,665.0 - Foreign 362.8 392.8 --------- --------- Total Demand Deposits 1,964.9 2,057.8 Other Liabilities 400.7 324.1 Shareholders' Equity 1,353.0 1,221.0 --------- --------- Total Liabilities and Shareholders' Equity $13,418.7 $14,209.9 ========= ========= Provision for Loan Losses 58.9 96.9 Net Overhead 75.4 100.0 ----- ----- Income Before Income Taxes 107.9 71.7 Provision for Income Taxes 47.4 24.2 Tax-Equivalent Adjustment 0.1 1.0 ----- ----- Net Income $60.4 $46.5 ===== ===== </TABLE>
Provision for Loan Losses The provision for loan losses was $6.4 million and $58.9 million for the three and six-month periods ended June 30, 2001, compared to $83.4 million and $96.9 million for the same respective periods in 2000. The provision for the second quarter 2001 approximated net charge-offs, while the quarters ended June 30, 2000 and March 31, 2001 included additional provisions intended to strengthen the allowance for loan losses. For further information on credit quality, refer to the section on "Corporate Risk Profile - Credit Risk - Allowance for Loan Losses" in this report. Non-Interest Income Non-interest income was $98.4 million and $259.1 million for the three and six- month periods ended June 30, 2001, compared to $79.2 million and $147.6 million for the comparable periods in 2000. Several transactions that resulted in gains being recognized, including the sales of the Company's Arizona branches and credit card portfolio and the sale of investment securities impacted non- interest income in 2001. After excluding non-recurring gains in 2001 and in 2000, core non-interest income was $62.4 million in the second quarter of 2001, compared to $67.3 million in the second quarter of 2000, and core non-interest income for the first half of 2001 was $130.1 million, compared to $137.5 million in the same period of 2000. The decrease in core non-interest income was largely due to the implementation of the Company's strategic plan, which called for an intentional scale-back in certain businesses. The $5.4 million decrease in the second quarter 2001 from the second quarter 2000 was due to a reduction in interchange fees, resulting from the sale of the Company's credit card portfolio, and foreign exchange, trading and letter of credit fees, resulting from the decision to reduce business in Asia. Trust and asset management income declined to $15.2 million in the second quarter of 2001, from $16.3 million in the second quarter of 2000. Trust and asset management income was $31.0 million for the first six months of 2001, also down from the corresponding period of the prior year. The decreases were primarily attributable to reduced fees associated with declines in assets under administration. Despite a 9% decrease in average demand deposits, service charges on deposit accounts declined only 3% to $9.9 million in the second quarter of 2001 compared to $10.2 million in the second quarter of 2000. This is primarily attributable to changes in deposit rate structures. Service charges were flat for the comparative six-month periods. Mortgage banking income was $4.6 million in second quarter of 2001, an increase of 64.2% from $2.8 million in the second quarter of 2000. For the six-months ended June 30, 2001 and 2000, mortgage banking income was $9.7 million and $4.9 million, respectively. The 2001 increase was due to increased mortgage originations and higher gains on the sale of mortgage loans, partially offset by valuation adjustments of the held-for-sale portfolio. Sales of investment securities during the three and six-months ended June 30, 2001 resulted in net investment security gains of $11.7 million and $31.9 million, respectively. These results compare to slight losses on the sale of
securities in the same periods of 2000. Second quarter gains on sales included $7.4 million related to the sale of the Company's ownership interest in Concord EFS, Inc. and $3.7 million from the sale of the Company's holdings in the Bank of Queensland. In the first quarter of 2001 a $20.9 million gain was recognized on the exchange of the Company's ownership interest in Star Systems, Inc. for Concord EFS, Inc. Non-Interest Expenses Non-interest expenses were $161.8 million and $334.5 million for the three and six-month periods ended June 30, 2001, compared to $121.2 million and $246.6 million for the comparable periods in 2000. After excluding restructuring and related costs, core non-interest expenses were $122.8 million in the second quarter of 2001, compared to $121.2 million in the second quarter of 2000, and core non-interest expenses for the first half of 2001 were $251.1 million, compared to $248.0 million in the same period of 2000. The restructuring and related costs that were referred to above totaled $37.8 million and $82.2 million for the three and six-month periods ended June 30, 2001. These expenses primarily related to severance costs, foreign exchange losses, and other expenses related to exiting certain businesses. Also included was a $15.5 million write-down of goodwill in anticipation of the Company's pending sale of the California bank. In addition, $1.2 million of accelerated depreciation on fixed assets to be abandoned in conjunction with the closure of the Asian branches was incurred in the second quarter. These expenses are included in net occupancy and net equipment expense. Refer to Note 2 to the Consolidated Financial Statements for further discussion. Salaries and pension and other employee benefits expense totaled $60.3 million and $122.5 million in the three and six-month periods of 2001, compared to $55.2 million and $117.4 million for the corresponding periods of 2000. The reduction in employees due to the sale of the Arizona branches was offset by the addition of employees to improve service levels in Hawaii. The increased expenses were primarily attributable to higher commission and incentive plan costs. In addition, the grants of restricted stock to employees increased costs by slightly less than $1.0 million. Net equipment expense was $13.7 million in the second quarter of 2001, an increase of 13.2% from $12.1 million for the same period in 2000, and was $27.1 million for the first half of 2001, an increase from $24.1 million for the same period last year. The increase was largely due to higher software and equipment maintenance costs incurred in 2001 and accelerated depreciation on assets to be abandoned upon closure of the Asian branches. Other operating expenses decreased to $33.9 million in the second quarter of 2001 from $37.0 million for the same quarter in 2000. On a year-to-date basis, other operating expenses decreased from $72.2 million in 2000 to $70.3 million in 2001. These decreases were primarily due to an adjustment to the insurance claims reserve of the Company's captive insurance company in the second quarter 2001. Other operating expenses were also lower due to a decrease in processing costs resulting from the sale of the credit card portfolio.
The increase in the efficiency ratio for the quarter is due largely to the divesting businesses where revenues declined faster than the corresponding expense levels. The Company anticipates that the efficiency ratio will return to a more normal level by the end of the year. Income Tax Provision The Company's effective tax rate was 43.0% for the second quarter 2001 and 43.9% for the first six-months of 2001. These effective rates compare to 2.3% and 34.3% in the corresponding periods of last year. The increases in 2001 were attributable to higher provisioning for state and foreign taxes, a higher level of non-deductible costs associated with the divestitures, the most significant of which was the write-off of $15.5 million of goodwill associated with the divestiture of the Company's California bank, and the write-off of $2 million of foreign tax assets. BALANCE SHEET ANALYSIS Loans As of June 30, 2001, loans outstanding, excluding loans held-for-sale, had declined to $7.6 billion, from $9.2 billion at year-end 2000 and $9.6 billion at June 30, 2000. Consistent with the Company's strategic plan, during the first half of 2001, the Company sold $166.8 million of commercial loans, its $209.3 million credit card portfolio, and its Arizona branches ($230 million in loans). In addition, loans in the Asian branches have declined $234.1 million or 52.7%. The remaining decline was attributable to other strategic risk reductions in the portfolio. Table 3 presents the composition of the loan portfolio by major loan categories as of June 30, 2001, March 31, 2001, December 31, 2000 and June 30, 2000. <TABLE> <CAPTION> Loan Portfolio Balances Table 3 - ----------------------------------------------------------------------------------------------------------------- June 30 March 31 December 31 June 30 (dollars in millions) 2001 2001 2000 2000 - ----------------------------------------------------------------------------------------------------------------- <S> <C> <C> <C> <C> Domestic Loans Commercial and Industrial $1,781.5 $2,088.7 $2,436.2 $2,674.8 Real Estate Construction -- Commercial 213.6 284.0 282.4 294.3 -- Residential 32.4 28.9 25.0 21.9 Mortgage -- Commercial 866.3 1,023.8 1,125.5 1,241.2 -- Residential 2,755.4 2,837.2 2,827.3 2,653.3 Installment 486.1 496.4 729.9 750.0 Lease Financing 532.3 522.7 511.1 503.5 - ----------------------------------------------------------------------------------------------------------------- Total Domestic 6,667.6 7,281.7 7,937.4 8,139.0 - ----------------------------------------------------------------------------------------------------------------- Foreign Loans 950.8 1,143.3 1,297.8 1,476.3 - ----------------------------------------------------------------------------------------------------------------- Total Loans $7,618.4 $8,425.0 $9,235.2 $9,615.3 ================================================================================================================= </TABLE> Loans Held for Sale Loans held for sale totaled $571.4 million at June 30, 2001, compared to $179.2 million at December 31, 2000, an increase of $392.2 million, and $128.7 million at June 30, 2000, an increase of $442.7 million. The loans held for sale were primarily residential mortgage loans and result from increased mortgage production during the first half of 2001. Investment Securities The Company's investment portfolio is managed to meet strategic asset/liability positioning, to provide both interest income and balance sheet liquidity and to collateralize customer deposits. Available-for-sale securities at June 30, 2001 were $2.2 billion, down 12.0% from $2.5 billion at year-end and the same date last year. Securities held to maturity were $616.4 million at June 30, 2001, declining from $670.0 million at year-end 2000 and $730.4 million a year ago. These decreases were largely due to maturities. Other short-term interest- earning assets totaled $784.6 million at the end of the second quarter, compared to $327.3 million and $249.7 million at December 31, 2000 and June 30, 2000, respectively. This increase resulted from the proceeds of the loan portfolio sales during the first half of 2001, and has enabled the Company to improve its liquidity. At June 30, 2001 and December 31, 2000 investment securities with a book value of $2.0 billion and $2.3 billion, respectively, were pledged as collateral for repurchase agreement.
Deposits As of June 30, 2001, deposits totaled $8.1 billion, down $1 billion from $9.1 billion at both December 31, 2000 and June 30, 2000. During 2001, domestic deposits decreased $351.2 million, primarily due to the sale of the Company's Arizona branches, while foreign deposits declined by $620.9 million. The decline in foreign deposits is attributable to the Company's planned exit from many of its foreign markets and decreased funding needs. Table 4 presents average deposits by type as of June 30, 2001, December 31, 2000 and June 30, 2000. <TABLE> <CAPTION> Average Deposits Table 4 - --------------------------------------------------------------------------------------------------------------- June 30, 2001 December 31, 2000 June 30, 2000 ---------------------- ------------------- -------------------- (dollars in millions) Amount Mix Amount Mix Amount Mix - --------------------------------------------------------------------------------------------------------------- <S> <C> <C> <C> <C> <C> <C> Domestic Non-Interest Bearing Demand $1,567.8 19.1% $1,640.0 18.2% $1,666.5 18.3% Interest-Bearing Demand 1,905.0 23.2% 2,061.9 22.9% 2,097.8 23.0% Regular Savings 698.8 8.5% 684.8 7.6% 691.5 7.6% Time Certificates of Deposit ($100,000 or More) 1,250.2 15.3% 1,212.1 13.5% 1,231.0 13.5% All Other Time and Savings Certificates 1,403.9 17.1% 1,569.0 17.4% 1,513.0 16.6% - --------------------------------------------------------------------------------------------------------------- Total Domestic 6,825.7 83.2% 7,167.8 79.6% 7,199.8 79.0% - --------------------------------------------------------------------------------------------------------------- Foreign Non-Interest Bearing Demand 348.4 4.2% 371.4 4.1% 366.0 4.0% Time Due to Banks 317.4 3.9% 505.4 5.6% 422.0 4.6% Other Time and Savings 709.3 8.7% 960.5 10.7% 1,133.8 12.4% - --------------------------------------------------------------------------------------------------------------- Total Foreign 1,375.1 16.8% 1,837.3 20.4% 1,921.8 21.0% - --------------------------------------------------------------------------------------------------------------- Total $8,200.8 100.0% $9,005.1 100.0% $9,121.6 100.0% =============================================================================================================== </TABLE> Borrowings Short-term borrowings, including funds purchased and securities sold under agreements to repurchase, totaled $2.1 billion at June 30, 2001, $2.3 billion at December 31, 2000 and $2.8 billion at June 30, 2000. The decline in short-term borrowings reflected the lower funding needs resulting from the decrease in the Company's assets. Similarly, long-term debt at June 30, 2001 decreased to $830.9 million from $997.2 million at December 31, 2000 and $902.2 million at June 30, 2000. Subsequent to June 30, 2001, the Company repaid $125.0 million of long-term debt. Shareholders' Equity The Company's capital position remains strong. Total capital increased to $1.4 billion at June 30, 2001, an increase from $1.3 billion at December 31, 2000 and $1.2 billion at June 30, 2000. A further discussion of the Company's capital is included in the Corporate Risk Profile section of this report. LINE OF BUSINESS FINANCIAL REVIEW Beginning in December of 2000 and extending to the end of the first quarter, the Company performed an analytically rigorous self-assessment of all of its lines of business. The fundamental objective was to develop a plan to improve shareholder value. Management evaluated the attractiveness of each of the Company's businesses, as well as the ability to compete in those businesses in the future. Each business's performance was assessed in relation to the risks assumed and the extent to which returns are expected to exceed the cost of the capital allocated to them. It was concluded that three businesses: Pacific Century Bank, N.A., the Asia Division, and the South Pacific Division, excluding American Samoa, would not achieve sufficient returns to create shareholder value and therefore, would be divested or liquidated.
A new organizational structure was announced in April 2001 as a result of the assessment process. Businesses have been aligned into the following units: Retail Banking, Commercial Banking, Financial Services, Divestiture Businesses, and Treasury and Other Corporate. Corporate Restructuring Related Activities have been segregated in the current year due to their non-recurring nature. The Line of Business Financial Review in this report is presented in a format that is consistent with the new organization structure. Note 3 to the Consolidated Financial Statements includes the Company's business segment financial reports for the three and six-month periods ended June 30, 2001 and 2000. Key indicators of performance adopted by the Company include: Economic: - -------- - -- NIACC (Net Income After Capital Charge): The key indicator of creating value for the shareholder, it is determined by subtracting a charge for capital from economic net income. Positive value is created by generating net income above the Company's estimated cost of capital. - -- RAROC (Return on Risk Adjusted Capital): A complementary measure that indicates the economic return produced by the business on the risk-adjusted capital assigned to it. GAAP: - ---- - -- Net income after Taxes: Net income generated by the business using measurement practices consistent with accounting principles generally accepted in the United States. The key differences between the derivation of Economic and GAAP results are: Provision for Loan Losses: The GAAP provision represents the current period - ------------------------- change in reserve requirements. The Economic Provision represents estimated losses in the credit portfolio assuming a "normalized" economic environment and loss rate over the business cycle. Consequently, there is no recognition of the free funds value of the loan loss reserve for Economic accounting. Goodwill Amortization: Amortization of Goodwill is not reflected in Economic - --------------------- results since it is assumed to use shareholder funds supported entirely by capital. Excess Capital Funding Value: GAAP net income includes the free funding value of - ---------------------------- a share of the Company's excess capital not allocated to the segments to cover risk. Economic results are based on risk-adjusted capital, necessitating adjustment for the excess capital funding value. Economic NIACC and RAROC for each segment for the three months and six months ended June 30, 2001 are presented in Table 5.
<TABLE> <CAPTION> Economic NIACC and RAROC Table 5 (dollars in thousands) Corporate Financial Treasury Restructuring Services Divestiture and Other Related Retail Commercial Group Businesses Corporate Activities ------------------------------------------------------------------------------------------------- <S> <C> <C> <C> <C> <C> <C> Three Months Ended June 30, 2001 NIACC (Economic) 4,784 (4,548) 340 (12,228) (3,728) -- RAROC (Economic) 19% 11% 16% 0% -23% -- ================================================================================================= Three Months Ended June 30, 2000 NIACC (Economic) 4,303 1,692 (322) (10,146) (34,518) -- RAROC (Economic) 26% 17% 13% 6% -46% -- ================================================================================================= Six Months Ended June 30, 2001 NIACC (Economic) 7,535 (7,034) 473 (20,816) (14,233) -- RAROC (Economic) 24% 10% 17% 5% -7% -- ================================================================================================= Six Months Ended June 30, 2000 NIACC (Economic) 8,294 2,580 4,964 (23,785) 36,741 -- RAROC (Economic) 25% 16% 35% 4% -20% -- ================================================================================================= </TABLE> Retail Banking The Company's retail banking franchise and market share in Hawaii and American Samoa are key strengths of the Company. Retail Banking provides checking and savings services, small business, merchant services, installment, home equity and mortgage lending as well as other services. For the three and six months ended June 30, 2001 revenues improved due to increases in mortgage originations and increases in deposit service charges. Increases in non-interest expense are due to higher allocated costs as a result of new systems and increased usage of systems. Commercial Banking The Commercial Banking segment offers corporate banking, commercial products, leasing, commercial real estate lending and auto finance. The Company's West Pacific operations are included in this segment. The decline in net interest income in the three months and six months ended June 30, 2001 compared to the same periods in 2000 are the result of the planned reduction in the loan portfolios designed to reduce credit exposures in some of the Company's markets. Second quarter 2000 included an additional loan loss provision of $32.9 million that was to address weaknesses in the syndicated loan and Hawaii commercial real estate portfolio. The decline in other non-interest income in the second quarter 2001 was due to the aforementioned reduction in the loan portfolios, which resulted in reduced loan fees. Financial Services Group The Financial Services Group offers private banking, trust services, asset management, investments such as mutual funds and stocks, financial planning, and insurance. A significant portion of this segment's income is derived from fees, which are based on the market values of assets under management. Divestiture Businesses This segment includes the businesses the Company plans to divest or close. The Company expects to complete the divestitures and closures by December 31, 2001. Revenues and expenses in this segment declined from the prior year periods due to the sale of the credit card portfolio and Arizona branches. In addition, as the Asia offices wind down their business toward the closures that are expected to be completed in the fourth quarter business has declined. Treasury and Other Corporate The primary operations in this segment are Treasury, which consists of corporate asset and liability management activities including investment securities, federal funds purchased and sold, government deposits, short and long-term borrowings, and managing interest rate and foreign currency risks. Additionally, the net residual effect of transfer pricing of assets and liabilities is included in Treasury, along with other minor unallocated amounts. Eliminations of intercompany transactions are also reflected in this segment.
Corporate Restructuring Related Activites This segment reflects the implementation of the Company's strategic plan to improve credit quality and to divest underperforming businesses. It includes the gains and costs of divesting businesses (the credit card portfolio, Pacific Century Bank, N.A., Asia branches and the South Pacific Division) and the costs of restructuring the Company. It also includes losses associated with accelerated resolution of credit problems undertaken in the first quarter of 2001. FOREIGN OPERATIONS The Company has an international presence in the Asia-Pacific region that provides lending, correspondent banking, foreign exchange, trade finance and deposit gathering activities in these markets. The Company divides its international business into three areas: the West Pacific, the South Pacific, and Asia. The South Pacific consists of investments in subsidiary banks in French Polynesia, New Caledonia, Papua New Guinea, Vanuatu, and Bank of Hawaii branch operations in Fiji and American Samoa. As American Samoa is U.S. dollar based, its operation is included as domestic for financial reporting purposes. The Company decided to divest the entire South Pacific operations. This exit is anticipated to be complete by the end of 2001. The Asia Division is winding down its business and plans to curtail its Asia operations by year-end. The West Pacific includes Bank of Hawaii branches in Guam and in other locations in the West Pacific region. First Savings also operates branches in Guam. Since the U.S. dollar is used in these locations, operations in the West Pacific are not considered foreign for financial reporting purposes. The countries in which the Company maintains its largest exposure on a cross- border basis include Japan, South Korea, United Kingdom and France. Table 6 presents as of June 30, 2001, December 31, 2000, and June 30, 2000 a geographic distribution of the Company's cross-border assets for each country in which such assets exceed 0.75% of total assets. <TABLE> <CAPTION> Geographic Distribution of Cross-Border International Assets Table 6 ==================================================================================== (dollars in millions) Country June 30, 2001 December 31, 2000 June 30, 2000 ==================================================================================== <S> <C> <C> <C> Japan $ 126.1 $ 298.8 $ 236.7 South Korea 143.2 282.0 299.4 France 98.6 85.8 120.4 United Kingdom 212.6 -- -- All Others 420.6 423.8 537.1 --------- --------- ---------- $1,001.1 $1,090.4 $1,193.6 ========= ========= ========== </TABLE> In this table, cross-border outstandings are defined as foreign monetary assets that are payable to the Company in U.S. dollars or other non-local currencies, plus amounts payable in local currency but funded with U.S. dollars or other non-local currencies. Cross-border outstandings include loans, acceptances, interest-bearing deposits with other banks, other interest-bearing investments, and othermonetary assets. CORPORATE RISK PROFILE Credit Risk Non-Performing Assets Non-performing assets consist of non-accrual loans, including those held for sale and foreclosed real estate. Total non-performing assets decreased to $118.9 million, or 1.55% of total loans, at June 30, 2001. This represents a decrease of $64.1 million, or 35%, from December 31, 2000 non-
performing assets that totaled $183.0 million, or 1.98% of total loans. Non- performing assets at June 30, 2000 were $210.6 million, or 2.19% of loans. The decrease in domestic non-performing assets between December 31, 2000 and June 30, 2001 was largely due to loan sales and charge-off activity as management made significant progress on its commitment to improve asset quality. There was no significant in-migration of non-accrual loans during the quarter ended June 30, 2001. Two large Hawaiian real estate loans were transferred to foreclosed assets during the quarter as the loans proceed towards resolution. This caused the increase in foreclosed assets from year-end 2000. At June 30, 2001, foreclosed real estate totaled $40.1 million. Impaired loans at June 30, 2001 totaled $85.1 million compared to $221.0 million at December 31, 2000. The $75.2 million of impaired loans had a related allowance which totaled $21.3 million at June 30, 2001. Accruing loans past due 90 days or more were $6.2 million at June 30, 2001, down from $18.8 million at year-end 2000 and $17.0 million at June 30, 2000. For further information concerning non-performing assets refer to Table 7. <TABLE> <CAPTION> Consolidated Non-Performing Assets Table 7 ========================================================================================================================= June 30 March 31 Dec 31 Sept 30 June 30 (dollars in millions) 2001 2001 2000 2000 2000 ========================================================================================================================= <S> <C> <C> <C> <C> <C> Non-Accrual Loans Commercial and Industrial $11.8 $23.8 $55.4 $49.0 $52.7 Real Estate Construction 5.8 6.3 6.4 8.1 8.0 Commercial 14.4 29.7 60.1 86.8 62.2 Residential 16.2 18.5 22.7 22.0 23.2 Installment 0.2 0.1 - 0.1 0.1 Leases 0.4 0.2 0.4 0.2 0.3 ------------------------------------------------------------------------ Total Domestic 48.8 78.6 145.0 166.2 146.5 Foreign 18.5 16.9 33.5 48.3 59.2 ------------------------------------------------------------------------ Subtotal 67.3 95.5 178.5 214.5 205.7 Loans Held for Sale 11.5 12.8 -- -- -- Foreclosed Real Estate Domestic 39.8 10.9 4.2 4.9 4.6 Foreign 0.3 0.3 0.3 0.2 0.3 ------------------------------------------------------------------------ Subtotal 40.1 11.2 4.5 5.1 4.9 ------------------------------------------------------------------------ Total Non-Performing Assets 118.9 119.5 183.0 219.6 210.6 ------------------------------------------------------------------------ Total Loans $7,618 $8,425 $9,235 $9,339 $9,614 - ------------------------------------------------------------------------------------------------------------------------- Ratio of Non-Accrual Loans to Total Loans 0.88% 1.13% 1.93% 2.30% 2.14% - ------------------------------------------------------------------------------------------------------------------------- Ratio of Non-Performing Assets to Total Loans, Foreclosed Real Estate and Non-Performing Loans Held for Sale 1.55% 1.41% 1.98% 2.35% 2.19% - ------------------------------------------------------------------------------------------------------------------------- Changes in Non-Performing Assets Balance at December 31, 2000 $ 183.0 Additions Loans transferred 141.1 Reductions Payments (76.5) Return to Accrual (5.5) Sales of Foreclosed Assets (4.6) Charge-offs (118.6) ------- Total Reductions (205.2) Ending Balance June 30, 2001 $ 118.9 ======= </TABLE> Allowance for Loan and Lease Losses The allowance for loan and lease losses at June 30, 2001 was $199.8 million, or 2.62% of loans outstanding, compared with $246.2 million and $246.6 million, or 2.56% at June 30, 2000. A summary of the activity in the allowance for loan losses is presented in table 8. The provision for loan losses was $6.4 million for the second quarter of 2001, which approximated net charge-offs. The provision was $77.0 million lower than for the same quarter last year. Charge-offs during the quarter of $20.3 million were partially offset by loan loss recoveries of $13.4 million. The Company continued to reduce the level of internally criticized and classified assets during the quarter ended June 30, 2001. Exposure to syndicated loans and Asia were also significantly reduced during the 2001 quarters. <TABLE> <CAPTION> Consolidated Allowance for Loan and Lease Losses Table 8 ======================================================================================================================= Second First Second First Six First Six Quarter Quarter Quarter Months Months (dollars in millions) 2001 2001 2000 2001 2000 - ----------------------------------------------------------------------------------------------------------------------- <S> <C> <C> <C> <C> <C> Average Loans Outstanding $8,047.8 $9,061.8 $9,513.1 $8,552.0 $9,439.6 - ----------------------------------------------------------------------------------------------------------------------- Balance of Allowance for Loan and Lease Losses at Beginning of Period $199.8 $246.2 $195.4 $246.2 $194.2 Loans Charged-Off Commercial and Industrial 8.9 75.5 12.4 84.4 9.7 Real Estate Construction - - 0.5 - 0.5 Commercial 1.6 11.9 7.7 13.5 11.5 Residential 1.7 2.5 1.4 4.2 3.7 Installment 4.2 5.4 5.2 9.6 9.9 Leases - 0.1 0.2 0.1 0.2 - ----------------------------------------------------------------------------------------------------------------------- Total Domestic 16.4 95.4 27.4 111.8 35.5 Foreign 3.9 10.0 9.1 13.9 17.1 - ----------------------------------------------------------------------------------------------------------------------- Total Charged-Off 20.3 105.4 36.5 125.7 52.6 Recoveries on Loans Previously Charged-Off Commercial and Industrial 4.3 2.7 1.2 7.0 2.9 Real Estate Construction - - - - - Commercial 0.8 0.3 0.1 1.1 0.2 Residential 0.3 0.2 0.2 0.5 0.7 Installment 1.6 1.8 1.9 3.4 3.6 Leases 0.1 0.1 - 0.2 - - ----------------------------------------------------------------------------------------------------------------------- Total Domestic 7.1 5.1 3.4 12.2 7.4 Foreign 6.3 2.6 0.2 8.9 1.0 - ----------------------------------------------------------------------------------------------------------------------- Total Recoveries 13.4 7.7 3.6 21.1 8.4 - ----------------------------------------------------------------------------------------------------------------------- Net Charge-Offs (6.9) (97.7) (32.9) (104.6) (44.2) Provision for Loan Losses 6.4 52.5 83.4 58.9 96.9 Other Net Additions (Reductions)* 0.5 (1.2) 0.7 (0.7) (0.3) - ----------------------------------------------------------------------------------------------------------------------- Balance at End of Period $199.8 $199.8 $246.6 $199.8 $246.6 ======================================================================================================================= Ratio of Net Charge-Offs to Average Loans Outstanding (annualized) 0.34% 4.32% 1.39% 2.47% 0.95% - ----------------------------------------------------------------------------------------------------------------------- Ratio of Allowance to Loans Outstanding 2.62% 2.37% 2.56% 2.62% 2.56% - ----------------------------------------------------------------------------------------------------------------------- </TABLE> * Includes balance transfers, reserves acquired, and foreign currency translation adjustments. Market Risk The Company manages assets and liabilities to maximize long term, risk adjusted returns to shareholders. The Company's asset and liability management process involves measuring, monitoring, controlling and managing financial risks that can significantly impact financial position and operating results. Financial risks in the form of interest rate sensitivity, foreign currency exchange fluctuations, liquidity, and capital adequacy are balanced with expected returns with the objective to maximize earnings performance and shareholder value, while
limiting the volatility of each. The activities associated with these financial risks are categorized into either "other than trading" or "trading." Other Than Trading Activities A key element in the Company's ongoing process to measure and monitor interest rate risk is the utilization of a net interest income (NII) simulation model. This model is used to estimate the amount that NII will change over a one-year time horizon under various interest rate scenarios using numerous assumptions, which management believes are reasonable. The NII simulation model captures the dynamic nature of the balance sheet and provides a sophisticated estimate rather than a precise prediction of NII's exposure to higher or lower interest rates. Table 9 presents, as of June 30, 2001, December 31, 2000 and June 30, 2000, the estimate of the change in NII that would result from a gradual 200 basis point increase or decrease in interest rates, moving in parallel fashion over the entire yield curve, over the next 12-month period, relative to the measured base case scenario for NII. The resulting estimate in NII exposure is well within the approved Asset Liability Management Committee guidelines. <TABLE> <CAPTION> Market Risk Exposure to Interest Rate Changes Table 9 ======================================================================================================================== June 30, 2001 December 31, 2000 June 30, 2000 - ------------------------------------------------------------------------------------------------------------------------- Interest Rate Change Interest Rate Change Interest Rate Change (in basis points) (in basis points) (in basis points) -200 +200 -200 +200 -200 +200 - ------------------------------------------------------------------------------------------------------------------------- <S> <C> <C> <C> <C> <C> <C> Estimated Exposure as a Percent of Net Interest Income (1.7)% 0.7% (2.3)% 0.5% 0.0% (2.0)% </TABLE> To enhance and complement the results from the NII simulation model, the Company also reviews other measures of interest rate risk. These measures include the sensitivity of market value of equity and the exposure to basis risk and non- parallel yield curve shifts. There are some inherent limitations to these measures, but used along with the NII simulation model, the Company gains a better overall insight for managing its exposure to changes in interest rates. In managing interest rate risk, the Company relies primarily on the balance sheet, to manage its risk position. Approaches that are used to shift balance sheet mix or alter the interest rate characteristics of assets and liabilities include changing product pricing strategies and modifying investment portfolio strategies. The use of financial derivatives has been limited over the past several years. The Company's broad area of operations throughout the South Pacific and Asia has the potential to expose it to foreign currency risk. In general, however, most foreign currency denominated assets are funded by like currency liabilities, with imbalances corrected through the use of various hedge instruments. By policy, the net exposure in those balance sheet activities described above is insignificant. On the other hand, the Company is exposed to foreign currency exchange rate changes from the capital invested in its foreign subsidiaries and branches located throughout the South Pacific and Asian Rim. These investments are designed to diversify the Company's total balance sheet exposure. A portion of the capital investment in French Polynesia and New Caledonia is offset by a borrowing denominated in the euro and a foreign exchange currency hedge transaction. In the first quarter of 2001, the Company recognized losses of $28.0 million arising from foreign currency translation losses that could not be hedged. These losses were previously included in other comprehensive income.
As of June 30, 2001 the remainder of these capital investments, which aggregated $57.0 million, was not hedged. The comparative unhedged position at year-end 2000 was $71.2 million and $86.1 million at June 30, 2000. The increased provision and charge-off of loans in the South Pacific and Asia have created situations where liabilities exceeded assets as of June 30, 2001. This anomaly results in the negative equity reported in Table 10 for the other currency category. To estimate the potential loss from foreign currency exposure, the Company uses a value-at-risk (VAR) calculation. For net investments in subsidiaries, the Company's VAR is calculated at a 95% confidence interval. Table 10 presents, as of June 30, 2001, December 31, 2000 and June 30, 2000, the Company's foreign currency exposure from its net investment in subsidiaries and branch operations that were denominated in a foreign currency as measured by the VAR. <TABLE> <CAPTION> Market Risk Exposure From Changes in Foreign Exchange Rates Table 10 ================================================================================================================================ June 30, 2001 December 31, 2000 June 30, 2000 (dollars in millions) Book Value Value-at-Risk Book Value Value-at-Risk Book Value Value-at-Risk - -------------------------------------------------------------------------------------------------------------------------------- <S> <C> <C> <C> <C> <C> <C> Net Investments in Foreign Subsidiaries & Branches Japanese Yen $10.3 $1.8 $10.6 $1.4 $10.2 $1.9 Korean Won 27.9 4.4 29.6 5.1 32.3 2.6 Pacific Franc (1) 23.1 4.3 32.0 6.2 28.0 5.8 Other Currencies (4.3) 13.5 (1.0) 14.4 15.6 17.3 -------------------------------------------------------------------------------------------------- Total $57.0 $24.0 $71.2 $27.1 $86.1 $27.6 ================================================================================================== </TABLE> (1) Net of $33 million, $37 million and $37 million borrowing at June 30, 2001, December 31, 2000 and June 30, 2000, respectively, denominated in euro and foreign exchange hedge transactions of $24 million, $26 million and $22 million at June 30, 2001, December 31, 2000 and June 30, 2000. Trading Activities Trading activities include foreign currency and foreign exchange contracts that expose the Company to a minor degree of foreign currency risk. The Company manages its trading account such that it does not maintain significant foreign currency open positions. The exposure from foreign currency trading activities positions measured by VAR methodology as of June 30, 2001 continue to be immaterial. Liquidity Management Liquidity is managed to ensure that the Company has continuous access to sufficient, reasonably priced funding to conduct its business in a normal manner. The Company's liquidity management process is described in the 2000 Annual Report to Shareholders on Form 10K. The Company maintains a $25 million annually renewable line of credit for working capital purposes. Fees are paid on the unused balance of the line. During the first half of 2001 and throughout 2000, the line was not drawn upon. Bank of Hawaii and First Savings are both members of the Federal Home Loan Bank of Seattle (FHLB). The FHLB provides these institutions with an additional source for short and long-term funding. Borrowings from the FHLB were $438.0 million at June 30, 2001, compared to $520.0 million at year-end 2000 and $626.0 million at June 30, 2000. Additionally, Bank of Hawaii maintains a $1 billion senior and subordinated bank note program. Under this facility, Bank of Hawaii may issue additional notes provided that at any time the aggregate amount outstanding does not exceed $1 billion. At June 30, 2001, December 31, 2000 and June 30 2000 there was $125 million issued and outstanding under this program. Capital Management
The Company manages its capital level to optimize shareholder value, support asset growth, provide protection against unforeseen losses and comply with regulatory requirements. Capital levels are reviewed periodically relative to the Company's risk profile and current and projected economic conditions. The Company's objective is to hold sufficient capital on a regulatory basis to exceed the minimum guidelines of a well-capitalized institution. At June 30, 2001, the Company's shareholders' equity totaled $1.395 billion, 15.4% higher than at June 30, 2000. The increase in shareholders' equity during the first half of 2001 was primarily attributable to the Company's earnings, net unrealized gains in the investment portfolio, realized foreign currency translation adjustments, and issuance of common stock under various stock-based compensation plans, partially offset by cash dividends that were paid. In July 2001, the Company announced its plan to repurchase up to $70 million in common stock. The repurchases began on July 26, 2001 and, as of August 10, 2001, a total of 491,200 shares had been repurchased at a cost of $12.6 million. At June 30, 2001, the Company's regulatory capital ratios exceeded the minimum threshold levels established by federal bank regulators to qualify an institution as well-capitalized, which are as follows: Tier 1 Capital - 6%; Total Capital - 10%; and Leverage - 5%. The Company's regulatory capital ratios are shown on Table 11, along with the activities and balances in the Company's capital accounts. <TABLE> <CAPTION> Equity Capital Table 11 ========================================================================================================== Six Months Ended Year Ended Six Months Ended (dollars in millions) June 30, 2001 December 31, 2000 June 30, 2000 - ---------------------------------------------------------------------------------------------------------- <S> <C> <C> <C> Source of Common Equity: Net Income $60.4 $113.7 $46.5 Dividends Paid (28.8) (56.5) (27.8) Dividend Reinvestment Program 1.4 3.3 1.9 Stock Repurchases -- (17.0) (16.9) Other (1) 61.4 45.6 (6.6) - ---------------------------------------------------------------------------------------------------------- Increase in Equity $94.4 $89.1 ($2.9) ========================================================================================================== Common Equity $1,395.7 $1,301.4 $1,209.4 Add: 8.25% Capital Securities of Bancorp Hawaii Capital Trust I 100.0 100.0 100.0 Minority Interest 4.0 4.5 4.3 Less: Intangibles 127.4 163.9 169.6 Unrealized Valuation and Other Adjustments 25.0 2.2 (51.5) - ---------------------------------------------------------------------------------------------------------- Tier I Capital 1,347.3 1,239.8 1,195.6 Allowable Loan Loss Reserve 112.6 132.8 141.5 Subordinated Debt 148.4 172.1 195.9 Investment in Unconsolidated Subsidiary -- (3.4) (3.6) - ---------------------------------------------------------------------------------------------------------- Total Capital $1,608.3 $1,541.3 $1,529.4 ========================================================================================================== Risk Weighted Assets $8,918.9 $10,512.3 $11,216.5 ========================================================================================================== Key Ratios Tier I Capital Ratio 15.11% 11.78% 10.66% Total Capital Ratio 18.03% 14.64% 13.64% Leverage Ratio 10.47% 9.10% 8.51% ========================================================================================================== </TABLE> (1) Includes common stock issued under the profit sharing and stock option plans, unrealized valuation adjustments for investment securities, foreign currency translation, pension liability, and stock compensation. Item 3. Quantitative and Qualitative Disclosures of Market Risk See Management's Discussion and Analysis of Results of Operations and Financial Condition-Market Risk. Part II. - Other Information Items 1 to 3 and Item 5 omitted pursuant to instructions. Item 4 - Submission of Matters to a Vote of Shareholders At the annual shareholders meeting held on April 27, 2001, the following matters were submitted to a vote of the shareholders. a. Election of Directors - Three directors whose terms in office were expiring as well as one new director nominee were elected to the Board of Directors as follows: Mary G. Bitterman Votes cast for: 66,057,712 Votes cast against: 0 Votes withheld: 3,046,761
Martin A. Stein Votes cast for: 66,167,947 Votes cast against: 0 Votes withheld: 2,936,526 Stanley S. Takahashi Votes cast for: 66,126,845 Votes cast against: 0 Votes withheld: 2,977,628 Clinton R. Churchill Votes cast for: 66,335,096 Votes cast against: 0 Votes withheld: 2,769,377 b. Amendment to the Stock Option Plan to Increase Available Shares - The amendment to the plan increased the maximum shares of common stock that may be issued under the Plan by 5,000,000 to 14,650,000. Votes cast for: 46,932,953 Votes cast against: 13,148,286 Votes withheld: 731,367 c. Amendment to the Stock Option Plan to Allow the Number of Options Granted to Exceed 20% for the Chief Executive Officer (CEO) Upon Hire - The amendment permitted the Company to follow a separate maximum limitation equal to 23% of the total authorized pool of shares as it relates to the number of options granted to the CEO at the time of hire. Votes cast for: 56,402,027 Votes cast against: 11,974,788 Votes withheld: 727,658 d. Amendment to the Option Plan to Allow the Grant of Options to Independent Contractors - The amendment would allow the Company to grant awards to independent contractors providing services to the Company or a subsidiary. Votes cast for: 56,723,865 Votes cast against: 11,593,349 Votes withheld: 787,259 e. Election of Ernst & Young LLP as external auditor. Votes cast for: 66,911,276 Votes cast against: 1,805,426 Votes withheld: 387,771
Item 6 - Exhibits and Reports on Form 8-K (a) Exhibit Index Exhibit Number --------------- 12 Statement Regarding Computation of Ratios (b) The following reports on Form 8-K were filed during the quarter ended June 30, 2001. Current Report on Form 8-K dated April 23, 2001 and filed April 24, 2001 Item 5. Current Report on Form 8-K dated April 25, 2001 and filed April 27, 2001 Item 5. Current Report on Form 8-K dated June 5, 2001 and filed June 7, 2001 Item 5. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Date August 13, 2001 PACIFIC CENTURY FINANCIAL CORPORATION --------------------- /s/ Michael E. O'Neill ---------------------- (Signature) Michael E. O'Neill Chairman and Chief Executive Officer /s/ Allan R. Landon ---------------------- (Signature) Allan R.Landon Vice Chairman and Chief Financial Officer /s/ Leslie F. Paskett ------------------------ (Signature) Leslie F. Paskett Senior Vice President and Controller