Form 10-Q
Table of Contents

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

[ ü ] Quarterly Report Pursuant To Section 13 or 15(d)

of the Securities Exchange Act of 1934

For the Quarterly Period Ended September 30, 2011

or

[     ] Transition Report Pursuant to Section 13 or 15(d)

of the Securities Exchange Act of 1934

Commission File No. 000-52710

THE BANK OF NEW YORK MELLON CORPORATION

(Exact name of registrant as specified in its charter)

 

Delaware   13-2614959

(State or other jurisdiction of

incorporation or organization)

  (I.R.S. Employer Identification No.)

One Wall Street

New York, New York 10286

(Address of principal executive offices)(Zip Code)

Registrant’s telephone number, including area code — (212) 495-1784

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes ü     No         

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes ü     No         

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

  Large accelerated filer   [ü ]      Accelerated filer    [    ]
  Non-accelerated filer   [     ]  (Do not check if a smaller reporting company)      Smaller reporting company    [    ]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes          No ü

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Class  

Outstanding as of

Sept. 30, 2011

Common Stock, $0.01 par value   1,212,632,113


Table of Contents

THE BANK OF NEW YORK MELLON CORPORATION

Third Quarter 2011 Form 10-Q

Table of Contents

 

 

 

     Page  

Consolidated Financial Highlights (unaudited)

     2   

Part I – Financial Information

  

Items 2. and 3. Management’s Discussion and Analysis of Financial Condition and Results of Operations; Quantitative and Qualitative Disclosures About Market Risk:

  

General

     4   

Overview

     4   

Third quarter 2011 event

     5   

Highlights of third quarter 2011 results

     5   

Fee and other revenue

     7   

Net interest revenue

     11   

Average balances and interest rates

     12   

Noninterest expense

     14   

Income taxes

     15   

Review of businesses

     15   

Critical accounting estimates

     28   

Consolidated balance sheet review

     29   

Liquidity and dividends

     40   

Capital

     44   

Trading activities and risk management

     47   

Foreign exchange and other trading

     48   

Asset/liability management

     49   

Off-balance sheet arrangements

     49   

Supplemental information – Explanation of Non-GAAP financial measures

     49   

Recent accounting and regulatory developments

     53   

Government monetary policies and competition

     61   

Website information

     61   

Item 1. Financial Statements:

  

Consolidated Income Statement (unaudited)

     62   

Consolidated Balance Sheet (unaudited)

     64   

Consolidated Statement of Cash Flows (unaudited)

     65   

Consolidated Statement of Changes in Equity (unaudited)

     66   

Notes to Consolidated Financial Statements:

  

Note 1 – Basis of presentation

     67   

Note 2 – Accounting changes and new accounting guidance

     67   

Note 3 – Acquisitions

     68   

Note 4 – Discontinued operations

     69   

Note 5 – Securities

     69   

Note 6 – Loans and asset quality

     73   

Note 7 – Goodwill and intangible assets

     80   

Note 8 – Other assets

     81   

Note 9 – Net interest revenue

     82   

Note 10 – Employee benefit plans

     83   

Note 11 – Restructuring charges

     83   

Note 12 – Income taxes

     84   

Note 13 – Securitizations and variable interest entities

     85   

Note 14 – Fair value of financial instruments

     87   

Note 15 – Fair value measurement

     89   

Note 16 – Fair value option

     100   

Note 17 – Derivative instruments

     101   

Note 18 – Commitments and contingent liabilities

     105   

Note 19 – Review of businesses

     110   

Note 20 – Supplemental information to the Consolidated Statement of Cash Flows

     114   

Item 4. Controls and Procedures

     115   

Forward-looking Statements.

     116   

Part II - Other Information

  

Item 1. Legal Proceedings

     118   

Item 1A. Risk Factors

     118   

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

     119   

Item 6. Exhibits

     119   

Signature

     120   

Index to Exhibits

     121   


Table of Contents

The Bank of New York Mellon Corporation

Consolidated Financial Highlights (unaudited)

 

     Quarter ended          Nine months ended  

(dollar amounts in millions, except per share amounts

and unless otherwise noted)

   Sept. 30,
2011
   

June 30,

2011

    Sept. 30,
2010 (a)
          Sept. 30,
2011
    Sept. 30,
2010 (a)
 

Net income basis:

             

Reported results applicable to common shareholders of The Bank of New York Mellon Corporation:

             

Net income

   $ 651      $ 735      $ 622         $ 2,011      $ 1,839   

Basic EPS

     0.53        0.59        0.51           1.61        1.51   

Diluted EPS

     0.53        0.59        0.51           1.61        1.51   

Return on common equity (annualized)

     7.6     8.8     7.7        8.0     8.0

Return on average assets (annualized)

     0.83     1.06     1.03        0.95     1.06

Continuing operations:

             

Results from continuing operations applicable to common shareholders of The Bank of New York Mellon Corporation:

             

Income from continuing operations

   $ 651      $ 735      $ 625         $ 2,011      $ 1,894   

Basic EPS from continuing operations

     0.53        0.59        0.51           1.61        1.56   

Diluted EPS from continuing operations

     0.53        0.59        0.51           1.61        1.55   

Fee and other revenue

   $ 2,887      $ 3,056      $ 2,668         $ 8,781      $ 7,752   

Income of consolidated investment management funds

     32        63        37           205        167   

Net interest revenue

     775        731        718           2,204        2,205   
  

 

 

   

 

 

   

 

 

      

 

 

   

 

 

 

Total revenue

   $ 3,694      $ 3,850      $ 3,423         $ 11,190      $ 10,124   

Return on common equity (annualized) (b)

     7.6     8.8     7.8        8.0     8.3

Return on tangible common equity (annualized) – Non-GAAP (b)

     22.1     26.3     26.3        24.2     25.9

Fee revenue as a percentage of total revenue excluding net securities gains (losses)

     78     79     78        78     77

Annualized fee revenue per employee (based on average headcount) (in thousands)

   $ 233      $ 248      $ 234         $ 240      $ 238   

Percentage of non-U.S. total revenue (c)

     39     37     36        38     35

Pre-tax operating margin

     26     27     24        26     27

Net interest margin (FTE)

     1.30 %      1.41     1.67        1.39 %      1.77

Assets under management at period end (in billions)

   $ 1,198      $ 1,274      $ 1,141         $ 1,198      $ 1,141   

Assets under custody and administration at period end (in trillions)

   $ 25.9      $ 26.3      $ 24.4         $ 25.9      $ 24.4   

Equity securities

     28     31     29        28     29

Fixed income securities

     72     69     71        72     71

Cross-border assets at period end (in trillions)

   $ 9.6      $ 10.1      $ 8.8         $ 9.6      $ 8.8   

Market value of securities on loan at period end (in billions) (d)

   $ 250      $ 273      $ 279         $ 250      $ 279   

Average common shares and equivalents outstanding (in thousands):

             

Basic

     1,214,126        1,230,406        1,210,534           1,226,132        1,205,911   

Diluted

     1,215,527        1,233,710        1,212,684             1,229,042        1,209,688   

 

2    BNY Mellon


Table of Contents

The Bank of New York Mellon Corporation

Consolidated Financial Highlights (unaudited) (continued)

 

      Quarter ended           Nine months ended  

(dollar amounts in millions, except per share amounts

and unless otherwise noted)

   Sept. 30,
2011
    June 30,
2011
    Sept. 30,
2010 (a)
          Sept. 30,
2011
    Sept. 30,
2010 (a)
 

Capital ratios:

             

Estimated Basel III Tier 1 common equity ratio – Non-GAAP (b)(e)

     6.5 % (f)      6.5 % (f)      N/A           6.5 % (f)      N/A   

Tier 1 common equity to risk-weighted assets ratio – Non-GAAP (b)(g)

     12.5     12.6     10.7        12.5     10.7

Tier 1 capital ratio (g)

     14.0     14.1     12.2        14.0     12.2

Total (Tier 1 plus Tier 2) capital ratio (g)

     16.1     16.7     15.8        16.1     15.8

Common shareholders’ equity to total assets ratio (b)

     10.5     11.1     12.7        10.5     12.7

Tangible common shareholders’ equity to tangible assets of operations ratio – Non-GAAP (b)

     5.9     6.0     5.3        5.9     5.3

Selected average balances:

             

Interest-earning assets

   $ 240,253      $ 209,933      $ 172,759         $ 213,641      $ 167,804   

Assets of operations

   $ 298,325      $ 264,254      $ 226,378         $ 268,847      $ 218,672   

Total assets

   $ 311,463      $ 278,480      $ 240,325         $ 282,745      $ 231,582   

Interest-bearing deposits

   $ 125,795      $ 125,958      $ 104,033         $ 122,790      $ 101,687   

Noninterest-bearing deposits

   $ 73,389      $ 43,038      $ 33,198         $ 51,808      $ 33,718   

Total The Bank of New York Mellon Corporation shareholders’ equity

   $ 34,008      $ 33,464      $ 31,868         $ 33,437      $ 30,691   

Other information at period end:

             

Full-time employees

     49,600        48,900        47,700           49,600        47,700   

Cash dividends per common share

   $ 0.13      $ 0.13      $ 0.09         $ 0.35      $ 0.27   

Dividend yield (annualized)

     2.8     2.0     1.4        2.5     1.4

Dividend payout ratio

     25     22     18        22     18

Closing common stock price per common share

   $ 18.59      $ 25.62      $ 26.13         $ 18.59      $ 26.13   

Market capitalization

   $ 22,543      $ 31,582      $ 32,413         $ 22,543      $ 32,413   

Book value per common share – GAAP (b)

   $ 27.79      $ 27.46      $ 25.92         $ 27.79      $ 25.92   

Tangible book value per common share – Non-GAAP (b)

   $ 10.55      $ 10.28      $ 8.59         $ 10.55      $ 8.59   

Common shares outstanding (in thousands)

     1,212,632        1,232,691        1,240,454             1,212,632        1,240,454   

 

(a) Presented on a continuing operations basis.
(b) See Supplemental Information beginning on page 49 for a calculation of these ratios.
(c) Includes fee revenue, net interest revenue and income of consolidated investment management funds, net of noncontrolling interests.
(d) Represents the securities on loan managed by the Investment Services business.
(e) Our estimated Basel III Tier I common equity ratio (Non-GAAP) reflects our current interpretation of the Basel III rules. Our estimated Basel III Tier 1 common equity ratio could change in the near future as the U.S. regulatory agencies implement Basel III or if our businesses change.
(f) Restated to reflect updated guidelines issued in October 2011.
(g) Determined under Basel I regulatory guidelines. The three-month and nine-month periods ended Sept. 30, 2010 include discontinued operations.

 

BNY Mellon    3


Table of Contents

Part I – Financial Information

Items 2. and 3. Management’s Discussion and Analysis of Financial Condition and Results of Operations; Quantitative and Qualitative Disclosures about Market Risk

 

 

General

In this Quarterly Report on Form 10-Q, references to “our,” “we,” “us,” “BNY Mellon,” the “Company,” and similar terms refer to The Bank of New York Mellon Corporation and its consolidated subsidiaries, while references to the “Parent” refer solely to The Bank of New York Mellon Corporation, the parent company.

Certain business terms used in this document are defined in the glossary included in our Annual Report on Form 10-K for the year ended Dec. 31, 2010 (“2010 Annual Report”).

The following should be read in conjunction with the Consolidated Financial Statements included in this report. Investors should also read the section entitled “Forward-looking Statements.”

How we reported results

Information for all periods in 2010 in this Quarterly Report on Form 10-Q is reported on a continuing operations basis, unless otherwise noted. For a discussion of discontinued operations, see Note 4 to the Notes to Consolidated Financial Statements.

Throughout this Form 10-Q, certain measures, which are noted, exclude certain items. BNY Mellon believes that these measures are useful to investors because they permit a focus on period-to-period comparisons, using measures that relate to our ability to enhance revenues and limit expenses in circumstances where such matters are within our control. We present the net interest margin on a fully taxable equivalent (“FTE”) basis. We believe that this presentation provides comparability of amounts arising from both taxable and tax-exempt sources, and is consistent with industry practice. Certain immaterial reclassifications have been made to prior periods to place them on a basis comparable with the current period presentation. See “Supplemental information – Explanation of Non-GAAP financial measures” beginning on page 49 for a reconciliation of financial measures presented in accordance with GAAP to adjusted Non-GAAP financial measures.

In the first quarter of 2011, BNY Mellon realigned its internal reporting structure and business presentation to focus on its two principal businesses,

Investment Management and Investment Services. The realignment reflects management’s approach to assessing performance and decisions regarding resource allocations. Investment Management includes the former Asset Management and Wealth Management businesses. Investment Services includes the former Asset Servicing, Issuer Services and Clearing Services businesses as well as the Cash Management business previously included in the former Treasury Services business. The credit-related activities, which were previously included in the former Treasury Services business, are now included in the Other segment. The income statement has been changed to reflect this realignment as follows:

 

   

Investment management and performance fees consist of the former asset and wealth management fee revenue; and

   

Investment services fees consist of the former securities servicing fees, including asset servicing, issuer services, clearing services, as well as treasury services fee revenue.

All prior periods were reclassified. The reclassifications did not affect the results of operations.

Overview

BNY Mellon is the corporate brand of The Bank of New York Mellon Corporation (NYSE symbol: BK). BNY Mellon is a leading manager and servicer of financial assets globally, operating in 36 countries and serving more than 100 markets. Our global client base consists of the world’s largest financial institutions, corporations, government agencies, high-net-worth individuals, families, endowments and foundations and related entities. At Sept. 30, 2011, we had $25.9 trillion in assets under custody and administration and $1.2 trillion in assets under management, serviced $11.9 trillion in outstanding debt and, on average, processed $1.6 trillion of global payments per day.

BNY Mellon’s businesses benefit from the global growth in financial assets and from the globalization of the investment process. Over the long term, our financial goals are focused on deploying capital to accelerate the long-term growth of our businesses

 

 

4    BNY Mellon


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and achieving superior total returns to shareholders by generating first quartile earnings per share growth over time relative to a group of peer companies.

Key components of our strategy include: providing superior client service versus peers; strong investment performance relative to investment benchmarks; above-median revenue growth relative to peer companies; increasing the percentage of revenue and income derived from outside the U.S.; successful integration of acquired businesses; competitive margins; and positive operating leverage. We have established Tier 1 capital as our principal capital measure and have established a targeted ratio of Tier 1 capital to risk-weighted assets of 10%. We expect to update our capital targets once Basel III guidelines are finalized.

Third quarter 2011 event

Change in executive management

Effective Aug. 31, 2011, Robert P. Kelly stepped down as chairman, chief executive officer and director by mutual agreement with the Board of Directors, due to differences in approach to managing the Company. Also effective on Aug. 31, 2011, Gerald L. Hassell, BNY Mellon’s president and a board member since 1998, was appointed chairman and chief executive officer of the Company.

Highlights of third quarter 2011 results

We reported net income applicable to common shareholders of BNY Mellon of $651 million, or $0.53 per diluted common share, in the third quarter of 2011 compared with $622 million, or $0.51 per diluted common share, in the third quarter of 2010 and $735 million, or $0.59 per diluted common share, in the second quarter of 2011.

Highlights for the third quarter of 2011 include:

 

   

Assets under custody and administration (“AUC”) totaled $25.9 trillion at Sept. 30, 2011 compared with $26.3 trillion at June 30, 2011 and $24.4 trillion at Sept. 30, 2010. This represents an increase of 6% compared with the prior year and a decrease of 2% sequentially. The year-over-year increase reflects net new business. The sequential decrease primarily reflects lower equity market values, partially offset by net new business. (See the Investment Services business on page 23).

   

Assets under management (“AUM”), excluding securities lending assets, totaled $1.20 trillion at Sept. 30, 2011 compared with $1.27 trillion at June 30, 2011 and $1.14 trillion at Sept. 30, 2010. This represents an increase of 5% compared with the prior year and a decrease of 6% sequentially. The year-over-year increase reflects net new business. On a sequential basis, long-term inflows were more than offset by lower equity markets and short-term outflows. (See the Investment Management business on page 20).

   

Investment services fees totaled $1.8 billion in the third quarter of 2011 compared with $1.6 billion in the third quarter of 2010. The increase primarily resulted from seasonally higher Depositary Receipts revenue, which had traditionally been generated in the fourth quarter and net new business, partially offset by higher money market fee waivers. (See the Investment Services business on page 23).

   

Investment management and performance fees totaled $729 million in the third quarter of 2011 compared with $696 million in the third quarter of 2010. The increase was driven by net new business and higher average equity markets, partially offset by higher money market fee waivers. (See the Investment Management business beginning on page 20).

   

Foreign exchange and other trading revenue totaled $194 million in the third quarter of 2011 compared with $146 million in the third quarter of 2010. In the third quarter of 2011, foreign exchange revenue totaled $221 million, an increase of 38% compared with the third quarter of 2010, driven by increased volatility and higher volumes. Other trading revenue was a loss of $27 million in the third quarter of 2011 compared with a loss of $14 million in the third quarter of 2010. The decrease was primarily driven by the $40 million net impact of wider credit spreads on the credit valuation adjustment (“CVA”), recorded in the third quarter of 2011. (See Fee and other revenue beginning on page 7).

   

Investment income and other revenue totaled $89 million in the third quarter of 2011 compared with $97 million in the third quarter of 2010. The decrease primarily resulted from mark-to-market losses on seed capital, partially offset by gains related to loans held-for-sale retained from a previously divested bank subsidiary. (See Fee and other revenue beginning on page 7).

 

 

BNY Mellon    5


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Net interest revenue totaled $775 million in the third quarter of 2011 compared with $718 million in the third quarter of 2010. The increase was primarily driven by growth in client deposits which were invested in short-term, low-yielding assets, and the increase in the securities portfolio. The net interest margin (FTE) for the third quarter of 2011 was 1.30% compared with 1.67% in the third quarter of 2010. The decline reflects the increase in client deposits, which were invested in short-term, low-yielding assets, partially offset by the increase in the securities portfolio. (See Net interest revenue beginning on page 11).

   

The provision for credit losses was a credit of $22 million in the third quarter of 2011 compared with a credit of $22 million in the third quarter of 2010. The credit in the provision in the third quarter of 2011 primarily resulted from an improvement in the loan portfolio and a decline in criticized assets. (See Asset quality and allowance for credit losses beginning on page 35).

   

Noninterest expense totaled $2.8 billion in the third quarter of 2011 compared with $2.6 billion in the third quarter of 2010. The third quarter of 2011 included $80 million of litigation expense and a $22 million charge as a result of a change in executive management. The increase also reflects higher variable expenses in support of revenue growth and higher legal costs. (See Noninterest expense beginning on page 14).

   

Unrealized net of tax gain on our total investment securities portfolio was $461 million at Sept. 30, 2011 compared with $408 million at June 30, 2011. The improvement in the valuation of the investment securities portfolio was driven by a decline in interest rates. (See Investment securities beginning on page 31).

   

At Sept. 30, 2011, our estimated Basel III Tier 1 common equity ratio was 6.5%, compared with 6.5% at June 30, 2011. The ratio was impacted by earnings in the third quarter of 2011, which were offset by share repurchases and higher risk-weighted assets primarily driven by balance sheet growth.

   

We generated $718 million of Basel I Tier 1 common equity in the third quarter of 2011, primarily driven by earnings. Our Basel I Tier 1 capital ratio was 14.0% at Sept. 30, 2011 compared with 14.1% at June 30, 2011. (See Capital beginning on page 44).

   

In the third quarter of 2011, we repurchased 20.4 million common shares in the open market at an average price of $22.63 per share for a total of $462 million. In the first nine months of 2011, we repurchased 31.3 million common shares.

 

 

6    BNY Mellon


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Fee and other revenue

 

Fee and other revenue                         3Q11 vs.           Year-to-date     YTD11  
(dollars in millions, unless otherwise noted)    3Q11     2Q11     3Q10     3Q10     2Q11           2011     2010    

vs.

YTD10

 

Investment services fees:

                                                                     

Asset servicing (a)

   $ 928      $ 980      $ 870        7     (5 )%       $ 2,831      $ 2,175        30

Issuer services

     442        365        364        21        21           1,158        1,051        10   

Clearing services

     297        292        252        18        2           881        727        21   

Treasury services

     127        127        132        (4     -             382        388        (2

Total investment services fees

     1,794        1,764        1,618        11        2           5,252        4,341        21   

Investment management and performance fees

     729        779        696        5        (6        2,272        2,068        10   

Foreign exchange and other trading revenue

     194        222        146        33        (13        614        628        (2

Distribution and servicing

     43        49        56        (23     (12        145        155        (6

Financing-related fees

     40        49        49        (18     (18        132        147        (10

Investment income

     57        71        64        (11     (20        195        244        (20

Other

     32        74        33        (3     (57          120        143        (16

Total fee revenue

     2,889        3,008        2,662        9        (4        8,730        7,726        13   

Net securities gains (losses)

     (2     48        6        N/M        N/M             51        26        N/M   

Total fee and other revenue

   $ 2,887      $ 3,056      $ 2,668          8%      (6 )%         $8,781        $7,752        13

Fee revenue as a percent of total revenue excluding net securities gains (losses)

     78     79     78            78     77  

Market value of AUM at period end (in billions)

   $ 1,198      $ 1,274      $ 1,141        5     (6 )%       $ 1,198      $ 1,141        5

Market value of AUC and administration at period end (in trillions)

   $ 25.9      $ 26.3      $ 24.4        6     (2 )%         $ 25.9      $ 24.4        6

 

(a) Asset servicing fees include securities lending revenue of $41 million in the third quarter of 2011, $62 million in the second quarter of 2011, $37 million in the third quarter of 2010, $140 million in the first nine months of 2011 and $113 million in the first nine months of 2010.
N/M – Not meaningful.

 

Fee revenue

Fee revenue increased 9% year-over-year and decreased 4% (unannualized) sequentially. The year-over-year increase primarily reflects seasonally higher Depositary Receipts revenue, higher foreign exchange volumes and volatility, and net new business, partially offset by higher money market fee waivers due to lower rates and shortened maturities in our money market funds. The sequential decrease primarily reflects lower market values and higher money market fee waivers, lower gains on loans held-for-sale retained from a previously divested bank subsidiary and the impact of credit spreads on the CVA, partially offset by higher Depositary Receipts revenue and new business.

Investment services fees

Investment services fees were impacted by the following, compared with the third quarter of 2010 and second quarter of 2011:

 

   

Asset servicing fees were $928 million, an increase of 7% year-over-year and a decrease of 5% (unannualized) sequentially. The year-over-

 

year increase was primarily driven by net new business. The sequential decrease reflects seasonally lower securities lending revenue and the impact of lower equity market values, partially offset by net new business.

   

Issuer services fees were $442 million, an increase of 21% both year-over-year and (unannualized) sequentially. The year-over-year and sequential increases primarily resulted from seasonally higher Depositary Receipts revenue, which had traditionally been generated in the fourth quarter. Both increases also reflect net new business, partially offset by lower revenue in our Shareowner Services and Corporate Trust businesses.

   

Clearing services fees were $297 million, an increase of 18% year-over-year and 2% (unannualized) sequentially. The year-over-year increase reflects net new business, growth in mutual fund assets and positions and a 29% increase in daily average revenue trades (“DARTS”), partially offset by higher money market fee waivers. Sequentially, higher cash management fund balances and a 6% increase in DARTS were partially offset by higher money market fee waivers.

 

 

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Treasury services fees were $127 million, a decrease of 4% year-over-year and unchanged sequentially. The year-over-year decrease was primarily driven by lower capital markets fees.

See the “Investment Services business” in “Review of businesses” for additional details.

Investment management and performance fees

Investment management and performance fees totaled $729 million in the third quarter of 2011, an increase of 5% year-over-year and a decrease of 6% (unannualized) sequentially. The year-over-year increase was driven by net new business and higher average equity markets, partially offset by higher money market fee waivers. The sequential decrease primarily reflects lower period-end and average equity market values and higher money market fee waivers, partially offset by net new business. Performance fees were $11 million in the third quarter of 2011 compared with $16 million in the third quarter of 2010 and $18 million in the second quarter of 2011.

Total AUM for the Investment Management business was $1.20 trillion at Sept. 30, 2011 compared with $1.27 trillion at June 30, 2011 and $1.14 trillion at Sept. 30, 2010. The year-over-year increase reflects net new business. On a sequential basis, long-term inflows were more than offset by lower equity markets and short-term outflows. The S&P 500 Index was 1131 at Sept. 30, 2011 compared with 1321 at June 30, 2011 (a 14% decrease) and 1141 at Sept. 30, 2010.

See the “Investment Management business” in “Review of businesses” for additional details regarding the drivers of investment management and performance fees.

Foreign exchange and other trading revenue

 

Foreign exchange and other trading revenue  
           Year-to-date  
(in millions)    3Q11     2Q11     3Q10           2011     2010  

Foreign exchange

   $ 221      $ 184      $ 160         $ 578      $ 581   

Fixed income

     (21     28        (7        24        41   

Credit derivatives (a)

     1        (1     (6        (1     (4

Other

     (7     11        (1          13        10   

Total

   $ 194      $ 222      $ 146           $ 614      $ 628   

 

(a) Used as economic hedges of loans.

Foreign exchange and other trading revenue was $194 million in the third quarter of 2011 compared with $146 million in the third quarter of 2010 and

$222 million in the second quarter of 2011. In the third quarter of 2011, foreign exchange revenue totaled $221 million, an increase of 38% year-over-year and 20% (unannualized) sequentially. Both increases resulted from increased volatility. The year-over-year increase also reflects higher volumes, while sequentially, volumes were steady. Other trading revenue was a loss of $27 million in the third quarter of 2011 compared with a loss of $14 million in the third quarter of 2010 and revenue of $38 million in the second quarter of 2011. The decreases were primarily driven by the $40 million net impact of wider credit spreads on the CVA, recorded in the third quarter of 2011. Foreign exchange revenue is primarily reported in the Investment Services business. Other trading revenue is primarily reported in the Other segment.

The foreign exchange trading engaged in by the Company generates revenues, which are influenced by the volume of client transactions and the spread realized on these transactions. The level of volume and spreads is affected by market volatility, the level of cross-border assets held in custody for clients, the level and nature of underlying cross-border investments and other transactions undertaken by corporate and institutional clients. These revenues also depend on our ability to manage the risk associated with the currency transactions we execute. A substantial majority of our foreign exchange trades is undertaken for our custody clients in transactions where BNY Mellon acts as principal, and not as an agent or broker. As a principal, we earn a profit, if any, based on our ability to risk manage the aggregate foreign currency positions that we buy and sell on a daily basis. Generally speaking, custody clients enter into foreign exchange transactions in one of three ways: negotiated trading with BNY Mellon, BNY Mellon’s standing instruction program, or transactions with third party foreign exchange providers. Negotiated trading generally refers to orders entered by the client or the client’s investment manager, with all decisions related to the transaction, usually on a transaction-specific basis, made by the client or its investment manager. Such transactions may be initiated by (i) contacting one of our sales desks to negotiate the rate for specific transactions, (ii) using electronic trading platforms, or (iii) electing other methods such as those pursuant to a benchmarking arrangement, in which pricing is determined by an objective market rate plus a pre-negotiated spread. The preponderance of the notional value of our trading volume with clients is in negotiated trading. Our standing instruction program provides custody

 

 

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clients and their investment managers with an end-to-end solution that allows them to shift to BNY Mellon the cost, management and execution risk, often in small transactions not otherwise eligible for a more favorable rate or transactions in restricted and difficult to trade currencies. We incur substantial costs in supporting the global operational infrastructure required to administer the standing instruction program; on a per-transaction basis, the costs associated with the standing instruction program exceed the costs associated with negotiated trading. Our custody clients choose to use third party foreign exchange providers other than BNY Mellon for a substantial majority of their U.S. dollar equivalent volume foreign exchange transactions.

We typically price negotiated trades for our custody clients at a spread over our estimation of the current market rate for a particular currency or based on an agreed third-party benchmark. With respect to our standing instruction program, we typically assign a price derived from the daily pricing range for marketable-size foreign exchange transactions (generally more than $1 million) executed between global financial institutions, known as the “interbank range”. Using the interbank range for the given day, we typically price purchases of currencies at or near the low end of this range and sales of currencies at or near the high end of this range. For the nine months ended Sept. 30, 2011, our total revenue for all types of foreign exchange trading transactions was $578 million, which is approximately 5% of our total revenue. Of that 5%, consistent with the second quarter of 2011, approximately 40% resulted from foreign exchange transactions undertaken through our standing instruction program.

Distribution and servicing fees

Distribution and servicing fees earned from mutual funds are primarily based on average assets in the funds and the sales of funds that we manage or administer and are primarily reported in the Investment Management business. These fees, which include 12b-1 fees, fluctuate with the overall level of net sales, the relative mix of sales between share classes and the funds’ market values.

Distribution and servicing fee revenue decreased $13 million compared with the third quarter of 2010 and $6 million compared with the second quarter of 2011. Both decreases primarily reflect increased money market fee waivers as well as equity market changes. The impact of distribution and servicing fees on income in any one period is partially offset

by distribution and servicing expense paid to other financial intermediaries to cover their cost for distribution and servicing of mutual funds. Distribution and servicing expense is recorded as noninterest expense on the income statement.

Financing-related fees

Financing-related fees, which are primarily reported in the Other segment, include capital markets fees, loan commitment fees and credit-related fees. Financing-related fees decreased $9 million both year-over-year and sequentially. Both decreases were primarily driven by lower capital markets fees.

Investment income

 

Investment income                          Year-to-date  
(in millions)    3Q11     2Q11     3Q10      2011      2010  

Corporate/bank-owned life insurance

   $ 40      $ 42      $ 39       $ 119       $ 112   

Lease residual gains (losses)

     14        (5     1         22         67   

Equity investment income

     12        19        9         36         41   

Private equity gains (losses)

     (7     12        8         15         19   

Seed capital gains (losses)

     (2     3        7         3         5   

Total investment income

   $ 57      $ 71      $ 64       $ 195       $ 244   

Investment income, which is primarily reported in the Other segment and Investment Management business, includes income from insurance contracts, lease residual gains and losses, gains and losses on seed capital investments and private equity investments, and equity investment income. The decrease, compared with the third quarter of 2010, resulted from private equity and seed capital losses, offset in part by higher lease residual gains. The decrease, compared with the second quarter of 2011, reflects private equity losses and lower equity investment income, partially offset by higher lease residual gains.

Other revenue

 

Other revenue                          Year-to-date  
(in millions)    3Q11     2Q11     3Q10      2011     2010  

Asset-related gains

   $ 28      $ 66      $ 11       $ 108      $ 17   

Expense reimbursements from joint ventures

     11        8        10         28        28   

Economic value payments

     1        1        3         4        3   

Other income (loss)

     (8     (1     9         (20     95   

Total other revenue

   $ 32      $ 74      $ 33       $ 120      $ 143   

Other revenue includes asset-related gains, expense reimbursements from joint ventures, economic value

 

 

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payments and other income (loss). Asset-related gains include loan, real estate and other asset dispositions. Expense reimbursements from joint ventures relate to expenses incurred by BNY Mellon on behalf of joint ventures. Economic value payments relate to deposits from the acquisition of Global Investment Servicing (“GIS”) on July 1, 2010 that have not yet transferred to BNY Mellon. Other income (loss) primarily includes foreign currency translation, other investments and various miscellaneous revenues.

Total other revenue decreased $1 million in the third quarter of 2011 compared with the third quarter of 2010 and decreased $42 million compared with the second quarter of 2011. The sequential decrease primarily resulted from lower gains related to loans held-for-sale retained from a previously divested bank subsidiary.

Net securities gains (losses)

Net securities losses totaled $2 million in the third quarter of 2011, compared with gains of $6 million in the third quarter of 2010 and gains of $48 million in the second quarter of 2011. In the third quarter of 2011, $3 million of gains on sales of U.S. Treasury securities were more than offset by $6 million of impairment charges on European floating rate notes, subprime and Alt-A securities.

The following table details net securities gains by type of security. See “Consolidated balance sheet review” for further information on the investment securities portfolio.

 

Net securities gains (losses)                              
(in millions)   3Q11     2Q11     3Q10     YTD11     YTD10  

U.S. Treasury

  $ 3      $ 41      $ -      $ 44      $ 15   

Agency RMBS

    -        8        -        8        14   

Alt-A RMBS

    (1     (1     -        3        (13

Prime RMBS

    -        -        -        9        -   

Subprime RMBS

    (1     (6     -        (13     -   

European floating rate notes

    (4     (12     (3     (19     (3

Other

    1        18        9        19        13   

Net securities gains (losses)

  $ (2   $ 48      $ 6      $ 51      $ 26   

Year-to-date 2011 compared with year-to-date 2010

Fee and other revenue for the first nine months of 2011 totaled $8.8 billion compared with $7.8 billion in the first nine months of 2010. The increase primarily reflects the impact of the acquisitions of GIS and BHF Asset Servicing GmbH (“BAS”) on Aug. 2, 2010 (collectively, “the Acquisitions”), net new business, higher Depositary Receipts revenue, and higher securities lending revenue, offset in part by lower investment and other income, lower financing-related fees as well as lower foreign exchange and other trading revenue.

The increase in investment services fees reflects the impact of the Acquisitions, net new business and seasonally higher Depositary Receipts revenue. The first nine months of 2011 includes Depositary Receipts revenue which had traditionally been generated in the fourth quarter. The increase in investment management and performance fees reflects net new business and higher market values, offset in part by higher money market fee waivers. The decrease in foreign exchange and other trading revenue was driven by lower other trading revenue resulting from the impact of wider credit spreads on the CVA. The decrease in investment income reflects lower lease residual gains. The decrease in other revenue in the first nine months of 2011 reflects lower foreign currency translation gains, partially offset by gains on loans held-for-sale retained from a previously divested banking subsidiary. The lower financing-related fees were driven by lower credit-related fees. Net securities gains (losses) increased $25 million in the first nine months of 2011 compared with the first nine months of 2010.

 

 

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Net interest revenue

 

 

Net interest revenue

                                                    YTD11  
                       3Q11 vs.     Year-to-date     vs.  
(dollars in millions)    3Q11     2Q11     3Q10     3Q10     2Q11     2011     2010     YTD10  

Net interest revenue (non-FTE)

   $ 775      $ 731      $ 718        8     6   $ 2,204      $ 2,205        -

Tax equivalent adjustment

     7        6        5        N/M        N/M        17        15        N/M   

Net interest revenue (FTE) – Non-GAAP

   $ 782      $ 737      $ 723        8     6   $ 2,221      $ 2,220        -

Average interest-earning assets

   $ 240,253      $ 209,933      $ 172,759        39     14   $ 213,641      $ 167,804        27

Net interest margin (FTE)

     1.30     1.41     1.67     (37 )bps      (11 )bps      1.39     1.77     (38 )bps 

N/M – Not meaningful.

bps – basis points.

 

Net interest revenue totaled $775 million in the third quarter of 2011 compared with $718 million in the third quarter of 2010 and $731 million in the second quarter of 2011. The increase in net interest revenue compared with both prior periods was primarily driven by the increase in client deposits, which were invested in short-term, low-yielding assets, and the increase in the securities portfolio.

The net interest margin (FTE) was 1.30% in the third quarter of 2011 compared with 1.67% in the third quarter of 2010 and 1.41% in the second quarter of 2011. The declines in the net interest margin primarily reflect the increase in client deposits, which were invested in short-term, low-yielding assets, partially offset by the increase in the securities portfolio.

Year-to-date 2011 compared with year-to-date 2010

Net interest revenue totaled $2.2 billion in both the first nine months of 2011 and 2010. Compared with the first nine months of 2010, growth in client deposits and the securities portfolio offset the impact of lower spreads resulting from the low interest rate environment. The net interest margin (FTE) was 1.39% in the first nine months of 2011, compared with 1.77% in the first nine months of 2010. The decline primarily reflects tighter spreads and the investment of client deposits in short-term, low-yielding assets.

 

 

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Average balances and interest rates

 

Average balances and interest rates    Quarter ended  
     Sept. 30, 2011     June 30, 2011     Sept. 30, 2010  
(dollar amounts in millions)    Average
balance
    Average
rates
    Average
balance
    Average
rates
    Average
balance
    Average
rates
 

Assets

            

Interest-earning assets:

            

Interest-bearing deposits with banks (primarily foreign banks)

   $ 60,412        1.00   $ 59,291        0.98   $ 60,431        0.83

Interest-bearing deposits held at the Federal Reserve and other central banks

     61,115        0.31        34,078        0.32        9,813        0.40   

Federal funds sold and securities purchased under resale agreements

     4,865        0.71        4,577        0.46        4,559        0.46   

Margin loans

     9,379        1.34        9,508        1.34        6,269        1.47   

Non-margin loans:

            

Domestic offices

     21,583        2.43        21,093        2.54        21,072        2.74   

Foreign offices

     9,527        1.52        9,727        1.53        9,428        1.61   
  

 

 

     

 

 

     

 

 

   

Total non-margin loans

     31,110        2.15        30,820        2.24        30,500        2.39   

Securities:

            

U.S. government obligations

     14,079        1.57        14,337        1.63        7,229        1.63   

U.S. government agency obligations

     20,998        2.93        20,466        3.09        20,074        3.29   

State and political subdivisions – tax exempt

     1,611        4.13        934        5.32        615        6.43   

Other securities

     34,175        3.30        33,045        3.25        30,075        3.86   

Trading securities

     2,509        2.62        2,877        2.44        3,194        2.57   
  

 

 

     

 

 

     

 

 

   

Total securities

     73,372        2.86        71,659        2.87        61,187        3.36   
  

 

 

     

 

 

     

 

 

   

Total interest-earning assets

     240,253        1.55     209,933        1.70     172,759        1.99

Allowance for loan losses

     (437       (463       (538  

Cash and due from banks

     5,204          4,325          3,903     

Other assets

     53,305          50,459          50,007     

Assets of discontinued operations

     -          -          247     

Assets of consolidated investment management funds

     13,138                14,226                13,947           

Total assets

   $ 311,463              $ 278,480              $ 240,325           

Liabilities

            

Interest-bearing liabilities:

            

Interest-bearing deposits:

            

Money market rate accounts (a)

   $ 4,532        0.35   $ 4,029        0.41   $ 4,466        0.52

Savings

     1,692        0.15        1,646        0.16        1,389        0.26   

Certificates of deposit of $100,000 & over

     394        0.05        369        0.05        214        0.11   

Other time deposits (a)

     35,597        0.07        34,484        0.08        27,440        0.07   

Foreign offices

     83,580        0.26        85,430        0.26        70,524        0.13   
  

 

 

     

 

 

     

 

 

   

Total interest-bearing deposits

     125,795        0.21        125,958        0.22        104,033        0.13   

Federal funds purchased and securities sold under repurchase agreements

     10,164        0.03        10,894        0.06        5,984        0.09   

Trading liabilities

     1,911        0.39        1,524        1.09        1,961        1.57   

Other borrowed funds

     2,256        1.50        1,877        2.04        2,068        1.74   

Payables to customers and broker-dealers

     7,692        0.10        6,843        0.09        6,910        0.08   

Long-term debt

     18,256        1.60        17,380        1.63        16,798        2.04   
  

 

 

     

 

 

     

 

 

   

Total interest-bearing liabilities

     166,074        0.37     164,476        0.38     137,754        0.41

Total noninterest-bearing deposits

     73,389          43,038          33,198     

Other liabilities

     25,462          23,694          23,770     

Liabilities of discontinued operations

     -          -          247     

Liabilities and obligations of consolidated investment management funds

     11,728                12,966                12,778           

Total liabilities

     276,653          244,174          207,747     

Temporary equity

            

Redeemable noncontrolling interests

     61          65          27     

Permanent equity

            

Total BNY Mellon shareholders’ equity

     34,008          33,464          31,868     

Noncontrolling interests

     -          -          19     

Noncontrolling interests of consolidated investment management funds

     741                777                664           

Total permanent equity

     34,749                34,241                32,551           

Total liabilities, temporary equity and permanent equity

   $ 311,463              $ 278,480              $ 240,325           

Net interest margin – Taxable equivalent basis

             1.30             1.41             1.67
(a) In the second quarter of 2011, certain Money market rate accounts were reclassified to Other time deposits. All prior periods have been restated.
Note: Interest and average rates were calculated on a taxable equivalent basis, at tax rates approximating 35%, using dollar amounts in thousands and actual number of days in the year.

 

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Average balances and interest rates    Nine months ended  
     Sept. 30, 2011     Sept. 30, 2010  
(dollar amounts in millions)    Average
balance
    Average
rates
    Average
balance
    Average
rates
 

Assets

        

Interest-earning assets:

        

Interest-bearing deposits with banks (primarily foreign banks)

   $ 59,124        0.96   $ 55,674        0.89

Interest-bearing deposits held at the Federal Reserve and other central banks

     38,671        0.31        13,399        0.35   

Federal funds sold and securities under resale agreements

     4,653        0.56        4,359        0.60   

Margin loans

     8,798        1.38        5,769        1.48   

Non-margin loans:

        

Domestic offices

     21,509        2.51        20,440        2.92   

Foreign offices

     9,495        1.50        9,683        1.59   
  

 

 

     

 

 

   

Total non-margin loans

     31,004        2.20        30,123        2.49   

Securities:

        

U.S. government obligations

     13,759        1.60        6,666        1.50   

U.S. government agency obligations

     20,564        3.01        19,714        3.45   

State and political subdivisions – tax exempt

     1,038        4.88        641        6.47   

Other securities

     33,006        3.34        28,781        4.06   

Trading securities

     3,024        2.49        2,678        2.57   
  

 

 

     

 

 

   

Total securities

     71,391        2.89        58,480        3.52   
  

 

 

     

 

 

   

Total interest-earning assets

     213,641        1.68     167,804        2.06

Allowance for loan losses

     (465       (519  

Cash and due from banks

     4,543          3,698     

Other assets

     51,128          47,223     

Assets of discontinued operations

     -          466     

Assets of consolidated investment management funds

     13,898                12,910           

Total assets

   $ 282,745              $ 231,582           

Liabilities

        

Interest-bearing liabilities:

        

Interest-bearing deposits:

        

Money market rate accounts (a)

   $ 4,656        0.37   $ 3,846        0.48

Savings

     1,646        0.16        1,383        0.27   

Certificates of deposit of $100,000 & over

     354        0.05        396        0.20   

Other time deposits (a)

     33,982        0.09        25,856        0.08   

Foreign offices

     82,152        0.24        70,206        0.11   
  

 

 

     

 

 

   

Total interest-bearing deposits

     122,790        0.20        101,687        0.12   

Federal funds purchased and securities sold under repurchase agreements

     8,762        0.05        4,715        0.12   

Trading liabilities

     2,063        0.89        1,605        1.41   

Other borrowed funds

     1,986        2.03        2,085        2.27   

Payables to customers and broker-dealers

     7,082        0.10        6,628        0.08   

Long-term debt

     17,555        1.70        16,689        1.76   
  

 

 

     

 

 

   

Total interest-bearing liabilities

     160,238        0.38     133,409        0.37

Total noninterest-bearing deposits

     51,808          33,718     

Other liabilities

     23,848          20,766     

Liabilities of discontinued operations

     -          466     

Liabilities and obligations of consolidated investment management funds

     12,598                11,792           

Total liabilities

     248,492          200,151     

Temporary equity

        

Redeemable noncontrolling interests

     67          13     

Permanent equity

        

Total BNY Mellon shareholders’ equity

     33,437          30,691     

Noncontrolling interests

     3          20     

Noncontrolling interests of consolidated investment management funds

     746                707           

Total permanent equity

     34,186                31,418           

Total liabilities, temporary equity and permanent equity

   $ 282,745              $ 231,582           

Net interest margin – Taxable equivalent basis

             1.39             1.77
(a) In the second quarter of 2011, certain Money market rate accounts were reclassified to Other time deposits. All prior periods have been restated.
Note: Interest and average rates were calculated on a taxable equivalent basis, at tax rates approximating 35%, using dollar amounts in thousands and actual number of days in the year.

 

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Noninterest expense

 

Noninterest expense                                                     YTD11  
                       3Q11 vs.     Year-to-date     vs.  
(dollars in millions)    3Q11     2Q11     3Q10     3Q10     2Q11     2011     2010     YTD10  

Staff:

                

Compensation

   $ 903      $ 903      $ 850        6     -   $ 2,682      $ 2,366        13

Incentives

     328        328        289        13        -        981        845        16   

Employee benefits

     226        232        205        10        (3     681        587        16   

Total staff

     1,457        1,463        1,344        8        -        4,344        3,798        14   

Professional, legal and other purchased services

     311        301        282        10        3        895        779        15   

Net occupancy

     151        161        150        1        (6     465        430        8   

Software

     113        121        108        5        (7     356        293        22   

Distribution and servicing

     100        109        94        6        (8     320        273        17   

Sub-custodian

     80        88        60        33        (9     236        177        33   

Furniture and equipment

     80        82        79        1        (2     246        225        9   

Business development

     57        73        63        (10     (22     186        183        2   

Other

     304        292        249        22        4        873        636        37   

Subtotal

     2,653        2,690        2,429        9        (1     7,921        6,794        17   

Amortization of intangible assets

     106        108        111        (5     (2     322        306        5   

Restructuring charges

     (5     (7     15        N/M        N/M        (18     7        N/M   

M&I expenses

     17        25        56        (70     (32     59        96        (39

Special litigation reserves

     N/A        N/A        N/A        N/M        N/M        N/A        164        N/M   

Total noninterest expense

   $ 2,771      $ 2,816      $ 2,611        6     (2 )%    $ 8,284      $ 7,367        12

Total staff expense as a percent of total revenue

     39     38     39         39     38  

Employees at period end

     49,600        48,900        47,700        4     1     49,600        47,700        4

N/A – Not applicable.

N/M – Not meaningful.

 

Total noninterest expense increased $160 million compared with the third quarter of 2010 and decreased $45 million compared with the second quarter of 2011. Excluding amortization of intangible assets, restructuring charges and merger and integration expenses (“M&I”), noninterest expense increased $224 million year-over-year and decreased $37 million sequentially. The third quarter of 2011 included $80 million of litigation expense and a $22 million charge as a result of a change in executive management. The year-over-year increase also reflects higher incentives and variable expenses in support of revenue growth, as well as higher legal costs, partially offset by state investment tax credits. Additionally, the sequential decrease primarily resulted from lower benefits and business development expenses, and state investment tax credits.

Staff expense

Given our mix of fee-based businesses, which are staffed with high quality professionals, staff expense comprised 55% of total noninterest expense in the third quarter of 2011, excluding amortization of intangible assets, restructuring charges and M&I expenses.

 

The increase in staff expense compared with the third quarter of 2010 primarily reflects higher incentives, the annual employee merit increase effective in the second quarter of 2011, and a $22 million charge as a result of a change in executive management. The sequential decrease resulted from lower employee benefits, compensation and incentive expenses, which were primarily offset by the previously mentioned charge resulting from a change in executive management.

Non-staff expense

Non-staff expense includes certain expenses that vary with the levels of business activity and levels of expensed business investments, fixed infrastructure costs and expenses associated with corporate activities related to technology, compliance, productivity initiatives and corporate development.

Non-staff expense, excluding amortization of intangible assets, restructuring charges and M&I expenses, totaled $1.2 billion in the third quarter of 2011 compared with $1.1 billion in the third quarter of 2010 and $1.2 billion in the second quarter of 2011. The year-over-year increase primarily reflects higher litigation expense and legal costs and increased variable expenses in support of revenue growth, partially offset by state investment tax

 

 

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credits. Non-staff expense decreased in the third quarter of 2011 compared with the second quarter of 2011, driven by state investment tax credits, lower business development expenses and lower variable costs, partially offset by higher litigation expense.

Given the severity of the economic downturn, the financial services industry has seen a continuing increase in the level of litigation activity. As a result, we anticipate litigation costs to continue to exceed historic trend levels. For additional information on litigation matters, see Note 18 of the Notes to Consolidated Financial Statements.

In August 2011, we announced an expense reduction initiative impacting approximately 1,500 positions or approximately 3% of our global workforce. We are also developing additional initiatives to increase productivity and reduce the growth rate of expenses. We expect to lessen any impact of the reductions on current staff by taking advantage of natural turnover, freezing hiring across much of the Company and reducing the use of temporary workers, consultants and contractors. We continue to evaluate the impact of our efficiency initiatives, and we expect they will result in a restructuring charge in the fourth quarter.

In the third quarter of 2011, we incurred $17 million of M&I expenses primarily related to the integration of the Acquisitions.

Year-to-date 2011 compared with year-to-date 2010

Noninterest expense in the first nine months of 2011 increased $917 million, or 12% compared with the first nine months of 2010. The increase primarily reflects the impact of the Acquisitions, higher incentives driven by new business, higher litigation expense and legal costs, as well as higher pension and healthcare and volume-related expenses.

Income taxes

The effective tax rate for the third quarter of 2011 was 29.7% compared with an effective tax rate of 26.4% on a continuing operations basis in the third quarter of 2010 and an effective tax rate of 26.9% in the second quarter of 2011. Adjusted for the impact of the consolidated investment management funds, the effective tax rate on an operating basis (Non-GAAP) was 29.0% in the third quarter of 2011, compared with 28.2% in the third quarter of 2010 and 30.0% in the second quarter of 2011. See the Supplemental information section beginning on page 49 for additional information.

Review of businesses

We have an internal information system that produces performance data along product and service lines for our two principal businesses, and the Other segment.

Organization of our business

In the first quarter of 2011, BNY Mellon realigned its internal reporting structure and business presentation to focus on its two principal businesses, Investment Management and Investment Services. The realignment reflects management’s approach to assessing performance and decisions regarding resource allocations. Investment Management includes the former Asset Management and Wealth Management businesses; Investment Services includes the former Asset Servicing, Issuer Services and Clearing Services businesses, and the Cash Management business previously included in the Treasury Services business. The Other segment includes credit-related activities previously included in the Treasury Services business, the lease financing portfolio, corporate treasury activities, including our investment securities portfolio, our investment in ConvergEx Group, business exits and corporate overhead. All prior periods presented in this Form 10-Q are presented accordingly.

Also in the first quarter of 2011, we revised the net interest revenue for our businesses to reflect a new approach which adjusts our transfer pricing methodology to better reflect the value of certain domestic deposits. All prior period business results have been restated to reflect this revision. This revision did not impact the consolidated results.

Business accounting principles

Our business data has been determined on an internal management basis of accounting, rather than the generally accepted accounting principles used for consolidated financial reporting. These measurement principles are designed so that reported results of the businesses will track their economic performance.

For additional information on the accounting principles of our businesses, the primary types of revenue by business and how our businesses are presented and analyzed, see Note 19 of the Notes to Consolidated Financial Statements. In addition, client deposits serve as the primary funding source

 

 

BNY Mellon    15


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for our investment securities portfolio and we typically allocate all interest revenue to the businesses generating the deposits. Accordingly, the higher yield related to the restructured investment securities portfolio has been included in the results of the businesses.

The operations of acquired businesses are integrated with the existing businesses soon after the completion of the acquisition. As a result of the integration of staff support functions, management of customer relationships, operating processes and the financial impact of funding acquisitions, we cannot precisely determine the impact of acquisitions on income before taxes and therefore do not report it.

Information on our businesses is reported on a continuing operations basis for all periods in 2010. See Note 4 of the Notes to Consolidated Financial Statements for a discussion of discontinued operations.

The results of our businesses in the third quarter of 2011 compared with the third quarter of 2010 and second quarter of 2011 reflect seasonally higher Depositary Receipts revenue, net new business, changes in equity and fixed income market values, higher foreign exchange fee revenue and the adverse impact of the low interest rate environment.

Fee and other revenue, which increased year-over-year and decreased sequentially, was impacted by the factors mentioned above.

Net interest revenue both year-over-year and sequentially was impacted by higher average customer deposits, partially offset by the impact of low interest rates.

Noninterest expense increased year-over-year and decreased sequentially. The year-over-year increase reflects higher litigation expense and a charge as a result of a change in executive management, partially offset by state investment tax credits. The sequential decrease primarily resulted from lower benefits and business development expenses and state investment tax credits, partially offset by higher litigation expense and the previously mentioned charge as a result of a change in executive management.

Net securities gains (losses) and restructuring charges are recorded in the Other segment. In addition, M&I expenses are a corporate level item and are therefore recorded in the Other segment.

Fee revenue in Investment Management and to a lesser extent Investment Services is impacted by the value of market indices.

 

 

The following table presents the value of certain market indices at period end and on an average basis.

 

Market indices                                                                          YTD11  
                                      3Q11 vs.     Year-to-date      vs.  
   3Q10      4Q10      1Q11      2Q11      3Q11      3Q10     2Q11     2011      2010      YTD10  

S&P 500 Index (a)

     1141         1258         1326         1321         1131         (1 )%      (14 )%      1131         1141         (1 )% 

S&P 500 Index – daily average

     1095         1204         1302         1318         1227         12        (7     1282         1118         15   

FTSE 100 Index (a)

     5549         5900         5909         5946         5128         (8     (14     5128         5549         (8

FTSE 100 Index-daily average

     5312         5760         5945         5906         5470         3        (7     5767         5368         7   

Barclay’s Capital Aggregate Bondsm Index (a)

     329         323         328         341         346         5        1        346         329         5   

MSCI EAFE® Index (a)

     1561         1658         1703         1708         1373         (12     (20     1373         1561         (12

NYSE and NASDAQ Share Volume (in billions)

     233         219         225         213         250         7        17        688         778         (12

 

(a) Period end.

 

The period end S&P 500 Index decreased 14% sequentially and 1% year-over-year. The period end FTSE 100 Index decreased 14% sequentially and 8% year-over-year. On a daily average basis, the S&P 500 Index decreased 7% sequentially and increased 12% year-over-year while the FTSE 100 Index decreased 7% sequentially and increased 3% year-over-year.

At Sept. 30, 2011, using the S&P 500 Index as a proxy for global equity markets, we estimate that a 100 point change in the value of the S&P 500 Index, sustained for one year, would impact fee revenue by approximately 1 to 2% and fully diluted earnings per common share on a continuing operations basis by $0.06-$0.07. If the global equity markets over- or under-perform the S&P 500 Index, the impact to fee revenue and earnings per share could be different.

 

 

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The following consolidating schedules show the contribution of our businesses to our overall profitability.

 

For the quarter ended Sept. 30, 2011

 

(dollar amounts
in millions)

   Investment
Management
    Investment
Services
    Other     Consolidated  

Fee and other revenue

   $  760  (a)    $ 2,069      $ 77      $  2,906  (a) 

Net interest revenue

     51        679        45        775   

Total revenue

     811        2,748        122        3,681   

Provision for credit losses

     -        -        (22     (22

Noninterest expense

     678        1,953        140        2,771   

Income (loss) before taxes

   $  133  (a)    $ 795      $ 4      $ 932  (a) 

Pre-tax operating margin (b)

     17     29     N/M        25

Average assets

   $ 36,950      $ 224,131      $ 50,382      $ 311,463   

Excluding amortization of intangible assets:

        

Noninterest expense

   $ 625      $ 1,901      $ 139      $ 2,665   

Income before taxes

     186        847        5        1,038   

Pre-tax operating margin (b)

     23     31     N/M        28

 

(a) Total fee and other revenue and income before taxes for the third quarter of 2011 include income from consolidated investment management funds of $32 million, net of noncontrolling interests of $13 million, for a net impact of $19 million.
(b) Income before taxes divided by total revenue.
N/M – Not meaningful.

 

For the quarter ended June 30, 2011

 

(dollar amounts
in millions)

   Investment
Management
    Investment
Services
    Other     Consolidated  

Fee and other revenue

   $  865  (a)    $ 2,018      $ 215      $  3,098  (a) 

Net interest revenue

     47        668        16        731   

Total revenue

     912        2,686        231        3,829   

Provision for credit losses

     1        -        (1     -   

Noninterest expense

     696        1,891        229        2,816   

Income (loss) before taxes

   $  215  (a)    $ 795      $ 3      $  1,013  (a) 

Pre-tax operating margin (b)

     24     30     N/M        26

Average assets

   $ 36,742      $ 193,498      $ 48,240      $ 278,480   

Excluding amortization of intangible assets:

        

Noninterest expense

   $ 643      $ 1,837      $ 228      $ 2,708   

Income before taxes

     268        849        4        1,121   

Pre-tax operating margin (b)

     29     32     N/M        29

 

(a) Total fee and other revenue and income before taxes for the second quarter of 2011 include income from consolidated investment management funds of $63 million, net of noncontrolling interests of $21 million, for a net impact of $42 million.
(b) Income before taxes divided by total revenue.
N/M – Not meaningful.

 

For the quarter ended March 31, 2011

 

(dollar amounts
in millions)

   Investment
Management
    Investment
Services
    Other     Consolidated  

Fee and other revenue

   $  870  (a)    $ 1,950      $ 84      $  2,904  (a) 

Net interest revenue

     53        639        6        698   

Total revenue

     923        2,589        90        3,602   

Provision for credit losses

     -        -        -        -   

Noninterest expense

     685        1,816        196        2,697   

Income (loss) before taxes

   $  238  (a)    $ 773      $ (106   $ 905  (a) 

Pre-tax operating margin (b)

     26     30     N/M        25

Average assets

   $ 37,318      $ 178,752      $ 41,628      $ 257,698   

Excluding amortization of intangible assets:

        

Noninterest expense

   $ 630      $ 1,763      $ 196      $ 2,589   

Income (loss) before taxes

     293        826        (106     1,013   

Pre-tax operating margin (b)

     32     32     N/M        28

 

(a) Total fee and other revenue and income before taxes for the first quarter of 2011 include income from consolidated investment management funds of $110 million, net of noncontrolling interests of $44 million, for a net impact of $66 million.
(b) Income before taxes divided by total revenue.
N/M – Not meaningful.

 

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For the quarter ended Dec. 31, 2010

 

(dollar amounts
in millions)

   Investment
Management
    Investment
Services
    Other     Total
continuing
operations
 

Fee and other revenue

   $  899  (a)    $ 2,010      $ 108      $  3,017  (a) 

Net interest revenue

     50        598        72        720   

Total revenue

     949        2,608        180        3,737   

Provision for credit losses

     2        -        (24     (22

Noninterest expense

     728        1,813        262        2,803   

Income (loss) before taxes

   $  219  (a)    $ 795      $ (58   $ 956  (a) 

Pre-tax operating margin (b)

     23     30     N/M        26

Average assets

   $ 37,648      $ 176,719      $ 41,819      $  256,186  (c) 

Excluding amortization of intangible assets:

        

Noninterest expense

   $ 667      $ 1,760      $ 261      $ 2,688   

Income (loss) before taxes

     280        848        (57     1,071   

Pre-tax operating margin (b)

     29     33     N/M        29

 

(a) Total fee and other revenue and income before taxes for the fourth quarter of 2010 include income from consolidated investment management funds of $59 million, net of noncontrolling interests of $14 million, for a net impact of $45 million.
(b) Income before taxes divided by total revenue.
(c) Including average assets of discontinued operations of $223 million for the fourth quarter of 2010, consolidated average assets were $256,409 million.
N/M – Not meaningful.

 

For the quarter ended Sept. 30, 2010

 

(dollar amounts
in millions)

   Investment
Management
    Investment
Services
    Other     Total
continuing
operations
 

Fee and other revenue

   $  793  (a)    $ 1,865      $ 59      $  2,717  (a) 

Net interest revenue

     50        589        79        718   

Total revenue

     843        2,454        138        3,435   

Provision for credit losses

     -        -        (22     (22

Noninterest expense

     683        1,683        245        2,611   

Income (loss) before taxes

   $  160  (a)    $ 771      $ (85   $ 846  (a) 

Pre-tax operating margin (b)

     19     31     N/M        25

Average assets

   $ 36,197      $ 160,597      $ 43,284      $  240,078  (c) 

Excluding amortization of intangible assets:

        

Noninterest expense

   $ 624      $ 1,631      $ 245      $ 2,500   

Income (loss) before taxes

     219        823        (85     957   

Pre-tax operating margin (b)

     26     34     N/M        28

 

(a) Total fee and other revenue and income before taxes for the third quarter of 2010 include income from consolidated investment management funds of $37 million, net of noncontrolling interests of $(12) million, for a net impact of $49 million.
(b) Income before taxes divided by total revenue.
(c) Including average assets of discontinued operations of $247 million for the third quarter of 2010, consolidated average assets were $240,325 million.
N/M – Not meaningful.

 

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For the nine months ended Sept. 30, 2011

 

(dollar amounts
in millions)

   Investment
Management
    Investment
Services
    Other     Consolidated  

Fee and other revenue

   $ 2,495  (a)    $ 6,037      $ 376      $ 8,908  (a) 

Net interest revenue

     151        1,986        67        2,204   

Total revenue

     2,646        8,023        443        11,112   

Provision for credit losses

     1        -        (23     (22

Noninterest expense

     2,059        5,660        565        8,284   

Income (loss) before taxes

   $ 586  (a)    $ 2,363      $ (99   $ 2,850  (a) 

Pre-tax operating margin (b)

     22     29     N/M        26

Average assets

   $ 37,002      $ 199,402      $ 46,341      $ 282,745   

Excluding amortization of intangible assets:

        

Noninterest expense

   $ 1,898      $ 5,501      $ 563      $ 7,962   

Income (loss) before taxes

     747        2,522        (97     3,172   

Pre-tax operating margin (b)

     28     31     N/M        29

 

(a) Total fee and other revenue and income before taxes for the first nine months of 2011 include income from consolidated investment management funds of $205 million, net of noncontrolling interests of $78 million, for a net impact of $127 million.
(b) Income before taxes divided by total revenue.

N/M – Not meaningful.

 

For the nine months ended Sept. 30, 2010

 

(dollar amounts
in millions)

   Investment
Management
    Investment
Services
    Other     Total
continuing
operations
 

Fee and other revenue

   $ 2,335  (a)    $ 5,169      $ 370      $ 7,874  (a) 

Net interest revenue

     155        1,850        200        2,205   

Total revenue

     2,490        7,019        570        10,079   

Provision for credit losses

     1        -        32        33   

Noninterest expense

     1,965        4,702        700        7,367   

Income (loss) before taxes

   $ 524  (a)    $ 2,317      $ (162   $ 2,679  (a) 

Pre-tax operating margin (b)

     21     33     N/M        27

Average assets

   $ 34,657      $ 156,512      $ 39,947      $ 231,116  (c) 

Excluding amortization of intangible assets:

        

Noninterest expense

   $ 1,789      $ 4,573      $ 699      $ 7,061   

Income (loss) before taxes

     700        2,446        (161     2,985   

Pre-tax operating margin (b)

     28     35     N/M        30

 

(a) Total fee and other revenue and income before taxes for the first nine months of 2010 include income from consolidated investment management funds of $167 million, net of noncontrolling interests of $45 million, for a net impact of $122 million.
(b) Income before taxes divided by total revenue.
(c) Including average assets of discontinued operations of $466 million for the first nine months of 2010, consolidated average assets were $231,582 million.

N/M – Not meaningful.

 

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Investment Management business

 

(dollar amounts in millions,
unless otherwise noted)
                                      3Q11 vs.     Year-to-date    

YTD11

vs.

 
   3Q10     4Q10     1Q11     2Q11     3Q11     3Q10     2Q11     2011     2010     YTD10  

Revenue:

                    

Investment management and performance fees:

                    

Mutual funds

   $ 270      $ 293      $ 283      $ 290      $ 263        (3 )%      (9 )%    $ 836      $ 773        8

Institutional clients

     282        300        319        319        311        10        (3     949        841        13   

Wealth management

     154        157        164        163        156        1        (4     483        466        4   

Performance fees

     16        75        17        18        11        (31     (39     46        48        (4

Total investment management and performance fees

     722        825        783        790        741        3        (6     2,314        2,128        9   

Distribution and servicing

     53        52        51        48        41        (23     (15     140        149        (6

Other (a)

     18        22        36        27        (22     N/M        N/M        41        58        (29

Total fee and other revenue (a)

     793        899        870        865        760        (4     (12     2,495        2,335        7   

Net interest revenue

     50        50        53        47        51        2        9        151        155        (3

Total revenue

     843        949        923        912        811        (4     (11     2,646        2,490        6   

Provision for credit losses

     -        2        -        1        -        N/M        N/M        1        1        N/M   

Noninterest expense (ex. amortization of intangible assets)

     624        667        630        643        625        -        (3     1,898        1,789        6   

Income before taxes (ex. amortization of intangible assets)

     219        280        293        268        186        (15     (31     747        700        7   

Amortization of intangible assets

     59        61        55        53        53        (10     -        161        176        (9

Income before taxes

   $ 160      $ 219      $ 238      $ 215      $ 133        (17 )%      (38 )%    $ 586      $ 524        12

Pre-tax operating margin

     19     23     26     24     17         22     21  

Pre-tax operating margin (ex. amortization of intangible assets and net of distribution and servicing
expense) (b)

     29     33     36     33     26         32     32  

Metrics:

                    

Changes in market value of AUM (in billions) (c):

                    

Beginning balance

   $ 1,047      $ 1,141      $ 1,172      $ 1,229      $ 1,274             

Net inflows (outflows):

                    

Long-term

     11        9        31        32        4             

Money market

     18        6        (5     (1     (15                                        

Total net inflows (outflows)

     29        15        26        31        (11          

Net market/currency impact

     65        16        31        14        (65                                        

Ending balance

   $ 1,141      $ 1,172      $ 1,229      $ 1,274      $ 1,198        5     (6 )%       

AUM at period end, by client type (in billions) (c):

                    

Institutional

   $ 639      $ 639      $ 701      $ 733      $ 719        13     (2 )%       

Mutual funds

     418        454        451        462        406        (3     (12      

Private client

     84        79        77        79        73        (13     (8                        

Total AUM

   $ 1,141      $ 1,172      $ 1,229      $ 1,274      $ 1,198        5     (6 )%       

Composition of AUM at period end, by product type (in billions) (c):

                    

Equity securities

   $ 352      $ 379      $ 417      $ 428      $ 354        1     (17 )%       

Fixed income securities

     348        342        362        398        419        20        5         

Money market

     329        332        337        337        321        (2     (5      

Alternative investments and overlay

     112        119        113        111        104        (7     (6                        

Total AUM

   $ 1,141      $ 1,172      $ 1,229