BMO Financial Group Reports Good Third Quarter Results, Contributing to Strong Year-to-Date Performance
(firmenpresse) - TORONTO, ONTARIO -- (Marketwire) -- 08/23/11 -- BMO Financial Group (TSX: BMO)(NYSE: BMO) and BMO Bank of Montreal -
For the third quarter ended July 31, 2011, BMO Financial Group reported net income of $793 million or $1.27 per share. On an adjusted basis, net income was $843 million or $1.36 per share.
"BMO continues to perform well, with adjusted earnings of $843 million for the quarter and more than $2.4 billion for the first nine months of the year," said Bill Downe, President and Chief Executive Officer, BMO Financial Group. "The investments we are making continue to contribute to top-line growth and this remains our priority as we steadily introduce new initiatives that further enhance the experience of our customer."
During the quarter, BMO completed the acquisition of Marshall & Ilsley Corporation (M&I). Over 26 days, M&I's operations added $117 million of revenue to BMO's third quarter results and $32 million of adjusted net income, which excludes integration and related costs.
"This purchase is transforming our U.S. presence by adding scale and providing a strong entry into attractive new markets," said Mr. Downe. "We have more than doubled our U.S. branch count to 688 branches and are competing from a position of strength in a contiguous six-state area with a population and GDP greater than Canada's. The closing process was on time and efficient. Integration efforts are moving forward as planned as we welcome M&I shareholders as shareholders of BMO.
"In addition, the transaction almost triples the size of our U.S. wealth businesses as measured by assets under management and administration and our U.S. private banking presence now operates from twice as many outlets.
"Banks succeed when customers succeed. We are focused on deepening customer relationships and developing new ones. We are growing commercial loan balances in Canada. In the United States, our goal is to be the leading commercial lender in the Midwest. And we're competing aggressively in every market in which we do business. We have committed to making an additional US$5 billion available to small and medium-sized businesses over the next two years to play our part in supporting the economic recovery by spurring business investment and job creation.
"Global economic conditions have given us every reason to be cautious. We have been vigilant and continue to be vigilant by moderating the pace of investment. At the same time, we remain confident in our ability to grow and deliver an experience to customers that stands out, while maintaining our well-earned reputation for disciplined risk management," concluded Mr. Downe.
Concurrent with the release of results, BMO announced a fourth quarter dividend of $0.70 per common share, unchanged from the preceding quarter and equivalent to an annual dividend of $2.80 per common share.
Operating Segment Overview
P&C Canada
Net income was $432 million, up $8 million or 1.8% from a year ago. Volume growth continued across most products but growth has slowed while net interest margin has declined slightly. Revenue increased 3.6% from the second quarter while expense growth moderated to 1.1%, as we manage our expenses prudently while investing in our strategic priorities.
We continue to make improvements in enhancing the customer experience through investment in our workforce, improved processes and leveraging our performance management discipline. Customer loyalty, as measured by net promoter score, continues to improve in both our personal and commercial businesses and we have seen an increase in the average number of product categories used by both personal and commercial customers.
In personal banking, the productivity of our sales and distribution network continues to strengthen. New branch openings and renovations continue, as we opened seven new branches and redeveloped nine in the first nine months of the year. We have enhanced our online banking features that make it more convenient for customers to access their banking information and apply for products online. Early indicators demonstrate that our investments in our business are having an impact. There were more than 10 times the number of youth accounts opened in the first three months of our BMO SmartSteps for Parents campaign as were opened in the same timeframe last year. Online sales are up 14% year over year across all retail product categories and in the three months following our online bank account application upgrade, chequing and savings account sales were up almost 50%. We are confident that we are well positioned for future growth.
In commercial banking, we continue to rank second in market share for loans to small and medium-sized businesses with market share remaining stable year over year. In June, BMO was the only Canadian bank recognized in the top international information technology awards announced in International Data Group's CIO magazine. The award recognized BMO for its Online Banking for Business platform, a multi-channel, global commercial online banking solution that allows our customers to manage all of their global cash management, foreign exchange and card services online in a secure environment. In addition, earlier this year we launched a new mobile banking service that enables our business banking customers to make payments anytime and anywhere over mobile devices safely and securely. This is consistent with our ongoing investment in delivering a great customer experience to our business banking customers. We are committed to providing seamless, simple, and personalized access to all of their business banking services from one platform. Our goal is to become the bank of choice for businesses across Canada, by providing the knowledge, advice and guidance our customers want.
P&C U.S. (all amounts in US$)
Net income of $95 million increased $45 million or 94% from $50 million a year ago, with the acquired M&I business contributing $27 million of the increase. M&I results included in P&C U.S. reflect an $18 million charge for expected credit losses on the M&I portfolio, determined on a basis consistent with BMO's methodologies and in the same manner as expected losses are determined for other loans in P&C U.S. Differences between expected losses and actual losses on the portfolio are charged (or credited) to Corporate Services.
Excluding the M&I business, net income increased $18 million or 39%, primarily due to increased revenue from improved net interest margin and higher securities gains, partially offset by lower fee revenue. Revenue increased by 47% on a reported basis and by 8.1% excluding M&I. Higher provisions for credit losses under BMO's expected loss provisioning methodology were offset by lower expenses.
During the quarter, certain impaired real estate secured assets, primarily commercial real estate loans, were transferred to Corporate Services to allow our businesses to focus on ongoing customer relationships and leverage our risk management expertise in our special assets management unit. Prior period loan balances, revenues and expenses have been restated to reflect the transfer. Similar assets acquired in the M&I transaction have also been included in Corporate Services.
The M&I acquisition substantially increases our market presence in the Midwest. We have an enviable market position that will enable us to compete aggressively everywhere we do business. We plan to increase our focus on developing new customer relationships and deepening existing relationships across our businesses, and we are making an additional $5 billion in credit available to small and medium-sized businesses in our markets over the next two years.
We continue to focus on the customer experience, as reflected in our high loyalty scores. Our personal retail net promoter score of 43 continues to improve, and with three quarters of sequential growth and an increase of one point from 42 in the prior quarter, our score remains very strong compared to the scores of our major competitors. The preceding scores do not reflect any adjustments for the M&I acquisition and M&I loyalty scores.
Private Client Group (PCG)
Net income was $120 million, up $15 million or 14% from the same quarter a year ago. Private Client Group net income, excluding the insurance business, increased $30 million or 43% to $101 million as we continue to see growth across all of these businesses. Included in the current quarter is $4 million of earnings from the wealth businesses relating to M&I. As well, the current quarter includes results of Lloyd George Management (LGM), an acquisition that was completed on April 28, 2011 and was net income neutral in the quarter. Insurance net income was $19 million for the quarter, down $15 million or 45% from a year ago, primarily due to the effect of unfavourable long-term interest rate movements on policyholder liabilities relative to the prior year.
Revenue was $617 million, up $73 million or 13% from the prior year with growth across all of our businesses as we remain focused on continuing to deliver the high level of service and advice that our clients expect. The LGM acquisition and M&I wealth businesses together added $39 million to revenue. The productivity ratio of 74.7% increased by 30 basis points from the prior year.
Assets under management and administration improved by $177 billion to $429 billion as the M&I and LGM acquisitions brought $153 billion in client assets to our business. Assets in our U.S. wealth business increased from US$77 billion to US$239 billion. On a basis that excludes the impact of the M&I and LGM acquisitions and the weaker U.S. dollar, assets under management and administration grew $30 billion or 12% from a year ago.
As a result of the M&I acquisition, we have almost doubled our U.S. private banking footprint. Our Global Asset Management business is a multi-asset management firm that now manages over $100 billion in combined assets and is one of the 100 largest investment managers worldwide as measured by assets under management. By continuing to provide an exceptional client experience, we are building a strong foundation and positioning ourselves for expansion of our business.
BMO's Exchange Traded Fund (ETF) business has grown to $2.7 billion in assets under management. Since inception in June 2009, BMO's ETF product portfolio has grown to 40 funds that offer numerous benefits to investors including lower costs, diversification and tax efficiencies, while providing investment exposure to a broad range of asset classes, sectors and regions.
BMO Capital Markets
Net income for the quarter was $279 million, an increase of $149 million from a year ago. Return on equity was 25.5%, compared with 11.8% a year ago. Revenue was $837 million, up $158 million or 23% from the prior year. Trading revenues have increased significantly, as the trading environment has improved from the challenging conditions of a year ago. Mergers and acquisitions revenues have also shown strong growth over the previous year. Results also benefited from a recovery of prior periods' income taxes. BMO Capital Markets strategy remains focused on its core clients and businesses and remains on track to successfully deliver profitable growth over time.
As a testament to its expertise in trade finance, BMO Capital Markets has, for the second year in a row, been named as the winner of the "Best Trade Bank in Canada" award for excellence by Trade Finance magazine.
In the third quarter of 2011, BMO Capital Markets participated in 125 new issues, including 37 corporate debt deals, 32 government debt deals, 51 common equity transactions and five issues of preferred shares, raising $51 billion.
Corporate Services
Corporate Services net loss in the quarter was $130 million, including a $38 million loss related to M&I integration planning and foreign exchange hedging costs, up from a loss of $42 million a year ago. Revenues were $28 million worse, primarily due to the impact of the M&I acquisition and a less favourable impact year over year from hedging activities, partly offset by a lower group teb offset (see the Revenue section for an explanation of teb). Expenses were $51 million higher, mainly due to costs relating to the M&I integration. Provisions for credit losses were better by $34 million, contributing $24 million to Corporate Services net income, as a result of lower provisions charged to Corporate Services under BMO's expected loss provisioning methodology. BMO employs a methodology for segmented reporting purposes whereby expected credit losses are charged to the client operating groups, and the difference between expected losses and actual losses is charged (or credited) to Corporate Services.
Acquisition of Marshall & Ilsley Corporation (M&I)
On July 5, 2011, BMO completed the acquisition of M&I for consideration of approximately $4.0 billion in the form of approximately 67 million common shares issued to M&I shareholders. M&I Bank combined with Harris to form BMO Harris Bank. In addition, immediately prior to the closing of the transaction, a BMO subsidiary purchased from the U.S. Treasury all of M&I's outstanding Troubled Asset Relief Program (TARP) preferred shares and warrants for cash consideration of approximately US$1.7 billion.
The acquisition of M&I added $29 billion of loans, after adjustment for future expected losses, and $34 billion of deposits. The allocation of the purchase price is subject to refinement as we complete the valuation of the assets acquired and liabilities assumed. The acquisition together with our existing U.S. operations more than doubles our U.S. branch count to 688, adds approximately two million customers and increases BMO's total assets under management and administration to over $530 billion.
We expect that annual cost savings from the integration of M&I and BMO will exceed US$300 million. We also expect there to be opportunities to add to revenues through expanded access to existing and new markets with increased brand awareness and a better ability to compete in the market. As previously indicated, we also anticipate that in fiscal 2011 M&I will contribute modestly positive net income to BMO's consolidated results, excluding integration and restructuring costs.
Integration and restructuring costs are included in non-interest expense in Corporate Services and are expected to approximate a total of US$600 million over the next few years. We recorded $53 million of such expenses in the current quarter and $25 million in the immediately preceding quarter. These costs include amounts related to system conversions, severance and other employee-related charges as well as other integration amounts, such as consulting fees and marketing costs in connection with customer communications and rebranding activities.
M&I's activities are primarily reflected in our P&C U.S., Private Client Group and Corporate Services segments, with a small amount included in BMO Capital Markets.
Prior to the close of the transaction, approximately US$1.0 billion of impaired real estate secured assets, comprised primarily of commercial real estate loans, were transferred from P&C U.S. to Corporate Services to allow our businesses to focus on ongoing customer relationships and leverage our risk management expertise in our special assets management unit. Prior period loan balances, revenues and expenses have been restated to reflect the transfer. In addition, similar assets valued at approximately US$1.5 billion that were acquired on the M&I acquisition were included in Corporate Services for the same reasons.
Also included in Corporate Services are the fair value adjustments that we have established at this time for future expected losses on the M&I loan portfolio and for the valuation of loans, deposits and debt instruments at market rates on the closing date. Corporate Services results will include in the provisions for credit losses any changes in our estimate of future expected losses and will also include the adjustments to net interest income that will occur as a result of having valued assets and liabilities at market rates on the closing date. These items were not significant to Corporate Services results in the quarter. The operating groups' results will reflect the provision for credit losses on an expected loss basis and net interest income based on the contractual rates for loans and deposits.
While the acquisition of M&I adds scale and provides a strong entry into new markets, integration risk is a key focus for the organization. It includes risk of customer and employee retention and system integration. The risks are addressed by maintaining our program management office, along with experienced BMO and M&I staff focused on ensuring these risks are well managed. Both organizations have considerable experience with integrating acquired businesses and the integration is now well underway. Our first critical milestone, closing the transaction and opening the combined bank for business on July 6, was successfully completed.
Adjusted Net Income
Management assesses performance on both a GAAP basis and adjusted basis and considers both bases to be useful in assessing underlying, ongoing business performance. Adjusted results for the third quarter of 2011 exclude the following items:
- costs for M&I of $53 million ($32 million after tax) for integration costs such as professional fees for integration planning as well as costs for systems development and certain severance;
- amortization of acquisition-related intangible assets of $17 million ($12 million after tax); and
- a charge to revenue for the hedge of foreign currency risk on the purchase of M&I of $9 million ($6 million after tax).
Adjusted net income was $843 million for the third quarter of 2011, up $165 million or 24% from a year ago. Adjusted earnings per share were $1.36, up 19% from $1.14 a year ago. The adjusting items above were recorded in Corporate Services except for the amortization of acquisition-related intangibles, which is charged across the groups. Adjusted results and measures are non-GAAP. Adjusted results and items excluded in determining adjusted results are disclosed in more detail in the Non-GAAP Measures section at the end of the MD&A, together with comments on the uses and limitations of such measures.
Caution
The foregoing sections contain forward-looking statements. Please see the Caution Regarding Forward-Looking Statements.
MD&A commentary is as of August 23, 2011. Unless otherwise indicated, all amounts are in Canadian dollars and have been derived from financial statements prepared in accordance with Canadian generally accepted accounting principles (GAAP). The MD&A should be read in conjunction with the unaudited consolidated financial statements for the period ended July 31, 2011, included in this document, and the annual MD&A for the year ended October 31, 2010, included in BMO's 2010 Annual Report. The material that precedes this section comprises part of this MD&A.
Management's Responsibility for Financial Information
Bank of Montreal's Chief Executive Officer and Chief Financial Officer have signed certifications relating to the appropriateness of the financial disclosures in our interim MD&A and unaudited interim consolidated financial statements for the period ended July 31, 2011 and relating to the design of our disclosure controls and procedures and internal control over financial reporting. Bank of Montreal's management, under the supervision of the CEO and CFO, has evaluated the effectiveness, as at July 31, 2011, of Bank of Montreal's disclosure controls and procedures (as defined in the rules of the Securities and Exchange Commission and the Canadian Securities Administrators) and has concluded that such disclosure controls and procedures are effective. On July 5, 2011, BMO completed the acquisition of Marshall & Ilsley Corporation (M&I) which has not been included in our evaluation of the design effectiveness of the bank's disclosure controls and procedures and internal control over financial reporting as at July 31, 2011. M&I represents 8.9% of consolidated assets, 3.8% of consolidated revenue and 3.5% of consolidated net income as at and for the period ended July 31, 2011. The estimated fair values of the assets acquired and the liabilities assumed at the date of acquisition are outlined in Note 7 of the attached unaudited interim consolidated financial statements.
Bank of Montreal's internal control over financial reporting includes policies and procedures that: pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of BMO; provide reasonable assurance that transactions are recorded as necessary to permit preparation of the financial statements in accordance with Canadian generally accepted accounting principles and the requirements of the Securities and Exchange Commission in the United States, as applicable; ensure receipts and expenditures of BMO are being made only in accordance with authorizations of management and directors of Bank of Montreal; and provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of BMO assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting can provide only reasonable assurance and may not prevent or detect misstatements. Further, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
There were no changes in our internal control over financial reporting during the quarter ended July 31, 2011 that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
As in prior quarters, Bank of Montreal's audit committee reviewed this document, including the unaudited interim consolidated financial statements, and Bank of Montreal's Board of Directors approved the document prior to its release.
A comprehensive discussion of our businesses, strategies and objectives can be found in Management's Discussion and Analysis in BMO's 2010 Annual Report, which can be accessed on our website at . Readers are also encouraged to visit the site to view other quarterly financial information.
Caution Regarding Forward-Looking Statements
Bank of Montreal's public communications often include written or oral forward-looking statements. Statements of this type are included in this document, and may be included in other filings with Canadian securities regulators or the U.S. Securities and Exchange Commission, or in other communications. All such statements are made pursuant to the safe harbour provisions of, and are intended to be forward-looking statements under, the United States Private Securities Litigation Reform Act of 1995 and any applicable Canadian securities legislation. Forward-looking statements may involve, but are not limited to, comments with respect to our objectives and priorities for 2011 and beyond, our strategies or future actions, our targets, expectations for our financial condition or share price, and the results of or outlook for our operations or for the Canadian and U.S. economies.
By their nature, forward-looking statements require us to make assumptions and are subject to inherent risks and uncertainties. There is significant risk that predictions, forecasts, conclusions or projections will not prove to be accurate, that our assumptions may not be correct and that actual results may differ materially from such predictions, forecasts, conclusions or projections. We caution readers of this document not to place undue reliance on our forward-looking statements as a number of factors could cause actual future results, conditions, actions or events to differ materially from the targets, expectations, estimates or intentions expressed in the forward-looking statements.
The future outcomes that relate to forward-looking statements may be influenced by many factors, including but not limited to: general economic and market conditions in the countries in which we operate; weak, volatile or illiquid capital and/or credit markets; interest rate and currency value fluctuations; changes in monetary, fiscal or economic policy; the degree of competition in the geographic and business areas in which we operate; changes in laws or in supervisory expectations or requirements, including capital and liquidity requirements and guidance; judicial or regulatory proceedings; the accuracy and completeness of the information we obtain with respect to our customers and counterparties; our ability to execute our strategic plans and to complete and integrate acquisitions; critical accounting estimates; operational and infrastructure risks; general political conditions; global capital markets activities; the possible effects on our business of war or terrorist activities; disease or illness that affects local, national or international economies; disruptions to public infrastructure, such as transportation, communications, power or water supply; and technological changes.
With respect to the M&I transaction, such factors include, but are not limited to: the possibility that the anticipated benefits from the transaction such as it being accretive to earnings and other impacts on earnings, expanding our North American presence and synergies are not realized in the time frame anticipated or at all as a result of changes in general economic and market conditions, interest and exchange rates, monetary policy, laws and regulations (including changes to capital requirements) and their enforcement, and the degree of competition in the geographic and business areas in which the combined businesses now operate; the ability to promptly and effectively integrate the businesses of M&I and BMO; reputational risks and the reaction of M&I's customers to the transaction; diversion of management time on integration and restructuring related issues; and increased exposure to exchange rate fluctuations. A significant amount of M&I's business involved making loans or otherwise committing resources to specific companies, industries or geographic areas. Unforeseen events affecting such borrowers, industries or geographic areas could have a material adverse effect on the performance of our integrated U.S. operations.
We caution that the foregoing list is not exhaustive of all possible factors. Other factors could adversely affect our results. For more information, please see the discussion on pages 29, 30, 61 and 62 of BMO's 2010 Annual Report, which outlines in detail certain key factors that may affect Bank of Montreal's future results. When relying on forward-looking statements to make decisions with respect to Bank of Montreal, investors and others should carefully consider these factors, as well as other uncertainties and potential events, and the inherent uncertainty of forward-looking statements. Bank of Montreal does not undertake to update any forward-looking statements, whether written or oral, that may be made, from time to time, by the organization or on its behalf, except as required by law. The forward-looking information contained in this document is presented for the purpose of assisting our shareholders in understanding our financial position as at and for the periods ended on the dates presented and our strategic priorities and objectives, and may not be appropriate for other purposes.
In calculating the pro-forma impact of Basel III on our regulatory capital and regulatory capital ratios, we have assumed our interpretation of the proposed rules announced by the Basel Committee on Banking Supervision (BCBS) as of this date and our models used to assess those requirements are consistent with the final requirements that will be promulgated by BCBS and the Office of the Superintendent of Financial Institutions Canada (OSFI). We have also assumed that the proposed changes affecting capital deductions, risk-weighted assets, the regulatory capital treatment for non-common share capital instruments (i.e. grandfathered capital instruments) and the minimum regulatory capital ratios are adopted as proposed by BCBS and OSFI. We also assumed that existing capital instruments that are non-Basel III compliant but are Basel II compliant can be fully included in such estimates. The full impact of the Basel III proposals has been quantified based on our financial and risk positions at July 31 or as close to July 31 as was practical. The impacts of the changes from IFRS are based on our analysis to date, as set out in Transition to International Financial Reporting Standards in the Future Changes in Accounting Policies - IFRS section in our 2010 Annual Report and later in this document. In setting out the expectation that we will be able to refinance certain capital instruments in the future, as and when necessary to meet regulatory capital requirements, we have assumed that factors beyond our control, including the state of the economic and capital markets environment, will not impair our ability to do so.
In determining the impact of reductions to interchange fees in the U.S. Legislative Developments section, we have assumed that business volumes remain consistent with our expectations and that certain management actions are implemented that will modestly reduce the impact of the rules on our revenues.
Assumptions about the performance of the Canadian and U.S. economies as well as overall market conditions and their combined effect on the bank's business are material factors we consider when determining our strategic priorities, objectives and expectations for our business. In determining our expectations for economic growth, both broadly and in the financial services sector, we primarily consider historical economic data provided by the Canadian and U.S. governments and their agencies.
Regulatory Filings
Our continuous disclosure materials, including our interim filings, annual MD&A and audited consolidated financial statements, Annual Information Form and Notice of Annual Meeting of Shareholders and Proxy Circular are available on our website at , on the Canadian Securities Administrators' website at and on the EDGAR section of the SEC's website at .
Economic Outlook and Review
The global economic outlook has deteriorated in recent months. Stock markets worldwide have fallen sharply, undermining household wealth and confidence. The S&P downgrade of the U.S.'s triple-A credit rating to AA+ and the intense political resistance to raising the U.S. government's borrowing capacity have heightened concerns about the U.S. fiscal outlook, which risks damaging business confidence. The European debt crisis remains unresolved and there are concerns about European bank exposure to sovereign debt. While we do not anticipate another recession, we have revised down meaningfully our outlook for the Canadian and U.S. economies.
Following good growth earlier this year, Canada's economy has slowed as a result of weak U.S. demand and disruptions to automobile production following the earthquake and tsunami in Japan. Despite strong employment growth, consumer spending slowed due to elevated levels of debt and high gasoline prices, restraining personal loan growth. Home sales moderated as well, partly in response to mortgage rule changes that took effect in March. Economic activity is expected to improve moderately in the second half of the year in response to a recovery in auto production and firmer U.S. demand. Business investment is projected to remain healthy due to strong demand for resources from emerging-market economies, supporting commercial loan growth. After expanding 3.2% in 2010, the Canadian economy is expected to grow at more modest rates of 2.4% in 2011 and 2.3% in 2012, held back by the impact of a strong Canadian dollar and more restrictive fiscal policies. The Bank of Canada will likely refrain from raising interest rates until mid-2012 due to the uncertain global economic environment. The Canadian dollar should continue to trade above parity with the U.S. dollar in 2012, benefiting from firm commodity prices and Canada's relatively healthy fiscal standing among advanced economies. Home sales should remain healthy in response to low borrowing costs, supporting residential mortgage demand. After climbing sharply in the past year, existing house prices are expected to stabilize in 2012.
The U.S. economy slowed sharply in the first half of the year in response to higher gasoline prices, disruptions in auto production and reductions in government spending. Consumer spending stalled in the second quarter, though business investment and exports remained healthy. Employment growth slowed, raising the unemployment rate back above 9%. Real estate markets remained weak and prices declined further in most regions. Economic growth is projected to improve only modestly in the second half of the year as a result of an upturn in motor vehicle production, lower oil prices, a weak U.S. dollar and strong demand from emerging-market economies. Business investment should remain healthy, benefiting from tax incentives and the solid earnings growth of U.S. multinational corporations. However, restrictive fiscal policy will continue to temper the expansion. After expanding 3.0% in 2010, the U.S. economy is expected to grow 1.7% in 2011 and 2.5% in 2012. Inflation should decline due to steadier commodity prices and subdued wage growth. The Federal Reserve is projected to maintain its low-interest rate policy well into 2013 to address high unemployment. Continued low interest rates should support capital markets activity this year, but the uncertain economic outlook and volatile equity markets will temper the benefit.
In the Midwest, where the bulk of our U.S. operations are located, the economy slowed in the spring. Consumer spending and manufacturing weakened, while construction and house prices remained subdued. However, business spending was steady and credit conditions improved. In the year ahead, the Midwest economy should benefit from stronger automobile production, continued strength in exports and high agricultural prices. Growth is expected to improve modestly, consistent with the overall U.S. economy, supporting personal and business loan demand. Firmer job growth should support home sales and residential mortgage demand.
This Economic Outlook section contains forward-looking statements. Please see the Caution Regarding Forward-Looking Statements.
Foreign Exchange
The Canadian dollar equivalents of BMO's U.S.-dollar-denominated net income, revenues, expenses, provisions for credit losses and income taxes were decreased relative to the third quarter of 2010 by the weakening of the U.S. dollar but were unchanged relative to the second quarter of 2011. The average Canadian/U.S. dollar exchange rate, expressed in terms of the Canadian dollar cost of a U.S. dollar, fell by 7.9% from a year ago and increased by 0.1% from the average of the second quarter of 2011. The following table indicates the relevant average Canadian/U.S. dollar exchange rates and the impact of changes in the rates.
At the start of each quarter, BMO assesses whether to enter into hedging transactions that are expected to partially offset the pre-tax effects of exchange rate fluctuations in the quarter on our expected U.S.-dollar-denominated net income for that quarter. As such, these activities partially mitigate the impact of exchange rate fluctuations, but only within that quarter. As a result, the sum of the hedging gains/losses for the four quarters in a year is not directly comparable to the impact of year-over-year exchange rate fluctuation on earnings for the year. Over the course of the current quarter, the U.S. dollar strengthened modestly, as the exchange rate increased from Cdn$0.9464 per U.S. dollar at April 30, 2011 to an average of Cdn$0.9628. Hedging transactions resulted in an after-tax loss of $1 million for the quarter and after-tax gain of $2 million for the year to date. The gain or loss from hedging transactions in future periods will be determined by both future currency fluctuations and the amount of underlying future hedging transactions, since the transactions are entered into each quarter in relation to expected U.S.-dollar-denominated net income for the next three months.
The effect of currency fluctuations on our investments in foreign operations is discussed in the Income Taxes section.
Other Value Measures
BMO's average annual total shareholder return for the five-year period ended July 31, 2011 was 3.9%.
Net economic profit (NEP) was $226 million, compared with $293 million in the second quarter and $158 million in the third quarter of 2010. NEP is a non-GAAP measure. The decrease from the second quarter was largely due to an increased cost of capital due to the issuance of common shares in connection with the M&I acquisition in the quarter. NEP of $226 million represents the net income that is available to common shareholders ($754 million), plus the after-tax amortization of intangible assets ($12 million), net of a charge for capital ($540 million), and is considered an effective measure of added economic value. Please see the Non-GAAP Measures section at the end of the MD&A for a discussion on the use and limitations of non-GAAP measures.
Net Income
Q3 2011 vs Q3 2010
Net income was $793 million for the third quarter of 2011, up $124 million or 18% from a year ago. Earnings per share were $1.27, up 12% from $1.13 a year ago. BMO completed the acquisition of M&I on July 5, 2011 and issued approximately 67 million BMO common shares, as disclosed in the preceding Acquisition of Marshall & Ilsley Corporation section, and its results are included with BMO's as of that date. Results for the quarter in respect of M&I included a loss of $10 million and adjusted net income of $32 million.
Management assesses performance on both a GAAP basis and adjusted basis and considers both bases to be useful in assessing underlying, ongoing business performance. Adjusted results for the third quarter of 2011 exclude the following items:
- costs for M&I of $53 million ($32 million after tax) for integration costs such as professional fees for integration planning as well as costs for systems development and certain severance;
- amortization of acquisition-related intangible assets of $17 million ($12 million after tax) including $7 million ($4 million after tax) for M&I; and
- a charge to revenue for the hedge of foreign currency risk on the purchase of M&I of $9 million ($6 million after tax).
Adjusted net income was $843 million for the third quarter of 2011, up $165 million or 24% from a year ago. Adjusted earnings per share were $1.36, up 19% from $1.14 a year ago. Adjusted results and measures are non-GAAP. Adjusted results and items excluded in determining adjusted results are disclosed in more detail in the Non-GAAP Measures section at the end of the MD&A, together with comments on the uses and limitations of such measures.
There were improved results in each of the operating groups with particularly strong growth in BMO Capital Markets due in part to a more favourable environment than a year ago, resulting in good growth in trading revenue and mergers and acquisitions revenue. P&C U.S. grew strongly, benefiting from the inclusion of M&I's results. Private Client Group net income growth was also good, with growth across all businesses except insurance. There was reduced net income in Corporate Services due to lower revenues and integration costs.
Revenue increases outpaced expense increases in all of the operating groups, although operating leverage was modestly negative in both P&C Canada and Private Client Group. Provisions for credit losses in the current quarter decreased in the improved credit environment.
Q3 2011 vs Q2 2011
Net income decreased $7 million from the second quarter and earnings per share decreased $0.07 or 5.2% from $1.34. Adjusted net income increased $39 million or 4.8% from $804 million in the second quarter. The increase was largely attributable to the inclusion of M&I results. Adjusting items are detailed in the Non-GAAP Measures section at the end of the MD&A.
Revenue increased due to the addition of M&I. Expenses increased but, excluding the impact of M&I, were lower. Specific provisions for credit losses were modestly lower than in the second quarter but overall provisions were higher due to a reduction in the general allowance in the second quarter.
Q3 YTD 2011 vs Q3 YTD 2010
Net income increased $298 million or 14% to $2,369 million. Adjusted net income increased $337 million or 16% to $2,431 million. A strong increase in reported revenue outpaced the increase in reported expense and there were reduced provisions for credit losses.
Revenue
BMO analyzes consolidated revenues on a GAAP basis. However, like many banks, BMO analyzes the revenues of its operating groups and associated ratios computed using revenue on a taxable equivalent basis (teb). This basis includes an adjustment that increases GAAP revenues and the GAAP provision for income taxes by an amount that would raise revenues on certain tax-exempt items to a level equivalent to amounts that would incur tax at the statutory rate. The offset to the group teb adjustments is reflected in Corporate Services revenues and income tax provisions.
Total revenue for the third quarter of 2011 increased $367 million or 13% from a year ago, due in part to M&I revenue of $117 million. Adjusted revenue increased $376 million or 13%. There was solid growth in net interest income and also in non-interest revenue, both due in part to M&I. The weaker U.S. dollar decreased revenue growth by $73 million or 2.5 percentage points.
Revenue increased $57 million or 1.7% from the second quarter with solid growth in net interest income. Increased revenues were in part due to M&I and the impact of three more days in the third quarter. Net interest income was higher in each of the operating groups and non-interest revenue was higher in each of the operating groups except BMO Capital Markets. Revenues were lower in Corporate Services.
Changes in net interest income and non-interest revenue are reviewed in the sections that follow.
Net Interest Income
Net interest income increased $121 million or 7.7% from a year ago, with solid growth in P&C Canada, P&C U.S. and Private Client Group. Higher average earning assets drove the overall increase.
BMO's overall net interest margin decreased by 10 basis points year over year to 1.78%. There were decreases in P&C Canada and BMO Capital Markets and increases in P&C U.S. and Private Client Group. The reduction in net interest margin in P&C Canada was mainly due to lower deposit spreads in a low interest environment. The reduction in net interest margin in BMO Capital Markets was primarily attributable to lower trading net interest income. Increased margin in P&C U.S. was mainly due to improved loan spreads, as a result of a favourable change in the mix of loan balances, and higher deposit balances. In Private Client Group, the increase was due to higher deposit balances in private banking and higher deposit spreads in the brokerage businesses.
Average earning assets increased $45.3 billion or 14% relative to a year ago, and adjusted to exclude the impact of the weaker U.S. dollar, increased by $57.1 billion. Average earning assets included approximately one month of M&I balances, which added approximately $9.9 billion to BMO's average earning asset levels. Higher asset levels were attributable to loan growth in P&C Canada, increased trading assets in BMO Capital Markets and increases in personal loans in Private Client Group's Canadian private banking business. There were also higher cash balances, representing increased deposits with the U.S. Federal Reserve. Excluding the impact of M&I, P&C U.S. average earning assets were lower as credit and economic conditions continue to affect credit utilization. There was improved commercial loan growth in certain categories, in addition to increases from the acquisition of certain assets and liabilities of a Rockford, Illinois-based bank, but these were offset by planned run-off in the portfolio and new mortgage originations sold in the secondary market.
Relative to the second quarter, net interest income increased $72 million or 4.4%. There was higher net interest income in each of the groups, due to asset growth.
BMO's overall net interest margin decreased 11 basis points from the second quarter to 1.78%. Reduced net interest income in Corporate Services was a significant contributor to the overall reduction in net interest margin.
Net interest margin was stable in P&C Canada with a small decrease due to lower mortgage refinancing fees. Net interest margin in P&C U.S. was unchanged including the impact of M&I but otherwise increased by 6 basis points as a result of improved loan spreads due to the continuation of a favourable change in the mix of loan balances and increased deposit balances, partially offset by reduced spreads on deposits.
Average earning assets increased $24.4 billion or 6.9% from the second quarter due in part to the inclusion of M&I assets. There were increases across all the operating groups. There was growth in trading assets in BMO Capital Markets and growth across all lines in Private Client Group. P&C Canada average earning assets increased 5.1% year over year and 1.1% quarter over quarter.
Year to date, net interest income increased $314 million or 6.8%, due to higher revenues in all operating groups, except BMO Capital Markets. There were increased average earning assets in all operating groups and increased margins in all groups except BMO Capital Markets.
BMO's overall net interest margin decreased by 4 basis points to 1.83% for the year to date. P&C Canada was relatively unchanged. P&C U.S. margin increased due to improved loan spreads, as discussed above, and higher deposit balances. Private Client Group margin increased primarily due to improved deposit spreads in the brokerage businesses, partially offset by growth in insurance assets, which have no net interest income impact. BMO Capital Markets experienced lower trading net interest income and held higher deposits with the U.S. Federal Reserve, resulting in lower net interest margin.
Average earning assets for the year to date increased $30.3 billion or 9.2%, and by $38.9 billion adjusted to exclude the impact of the weaker U.S. dollar. M&I contributed $3.4 billion to growth as its assets were included in the average for only 26 days. On a Canadian dollar basis, there was organic growth in P&C Canada, Private Client Group and BMO Capital Markets, combined with an increase in Corporate Services. As indicated above, in P&C U.S., there was improved commercial loan growth in certain categories but the effects were offset by other factors. Private Client Group grew average earning assets across most lines of business and in BMO Capital Markets there was growth in trading assets.
Non-Interest Revenue
Non-interest revenue in the current quarter increased $246 million or 18% from a year ago. Results included $48 million related to M&I, consisting primarily of investment management fees in Private Client Group, deposit and payment service charges in P&C U.S., and other revenue. Overall growth in BMO's total non-interest revenue was mostly attributable to strong growth in BMO Capital Markets and a solid increase in Private Client Group. Non-interest revenue is detailed in the attached summary unaudited consolidated financial statements.
Non-interest revenue in the quarter improved from a year ago, due to strong growth in BMO Capital Markets mergers and acquisitions fees, as well as good growth in trading revenues, which were very low in the weak trading environment of a year ago. There were also healthy increases in Private Client Group mutual fund revenues and investment management and custodial fees. There was a $1.3 billion credit card securitization late in the second quarter; as a result, credit card fees were lowered this quarter and securitization non-interest revenue was increased.
Relative to the second quarter, non-interest revenue decreased $15 million or 1.0%. The reduction was attributable to decreases in Corporate Services and BMO Capital Markets, partially offset by improved revenues in P&C U.S. and Private Client Group. P&C U.S. non-interest revenues included increased investment securities gains and Private Client Group benefited from higher investment management fees. Private Client Group experienced declines in securities and commission fees but saw improvements in insurance revenues. The second quarter was affected by unusually high reinsurance claims from the earthquakes in Japan and New Zealand. The current quarter was affected, to a lesser extent, by increases in the adverse effects of unfavourable long-term interest rate movements on policyholder liabilities. Credit card fees decreased and securitization revenues rose, as discussed above. Corporate Services reduced non-interest revenue was due to a net reduction in a number of small items in other non-interest revenue in the third quarter and a credit card loan securitization gain in the second quarter.
Year to date, non-interest revenue increased $542 million or 12%. Non-interest revenue growth in BMO Capital Markets was very strong due to sizable increases in underwriting and advisory fees, securities commissions and trading revenues. Private Client Group also grew strongly with good growth in securities commissions, investment management and custodial fees and mutual fund revenues. Growth in insurance revenue was more than offset by the earthquake-related reinsurance claims and the adverse effect from unfavourable long-term interest rate movements on policyholder liabilities relative to the same period a year ago. P&C Canada non-interest revenue growth was driven by the inclusion of two more months of Diners Club North American franchise results in the current year and higher mutual fund revenues, offset in part by lower card fees.
Non-Interest Expense
Non-interest expense for the third quarter of 2011 increased $213 million or 11% from a year ago to $2,111 million. Adjusted non-interest expense increased $153 million or 8.0% from a year ago to $2,041 million. Adjusted expense excludes $53 million of integration costs relating to the M&I acquisition and $17 million in respect of the amortization of acquisition-related intangible assets. M&I increased expense by $137 million and adjusted non-interest expense by $76 million. Non-interest expense is detailed in the attached summary unaudited consolidated financial statements.
Increased employee compensation accounted for approximately two-thirds of the increase in reported expense and one-third of that amount was attributable to M&I. The growth was due in part to higher performance-based compensation, in line with improved revenues. There were also continued investments in the business including staffing increases across groups and higher costs from our other acquisitions. Computer and equipment costs and travel expense also increased. Professional fees increased substantially due to M&I. Lower other expenses include the benefit of a sales tax recovery. The weaker U.S. dollar reduced expense growth by $50 million or 2.6 percentage points, but the harmonized sales tax that was implemented in both Ontario and British Columbia on July 1, 2010 increased expenses year over year by approximately one-third of that amount.
Relative to the second quarter, non-interest expense increased $88 million or 4.3%, but fell when adjusted for the $137 million of M&I costs included in results in the quarter and the $25 million of pre-acquisition integration planning costs in the second quarter. On a reported basis, there were increases in employee compensation, travel and business development due to continued investment, partially offset by lower other expenses including the benefit of the sales tax recovery. The nominally stronger U.S. dollar relative to the second quarter had no impact on quarter-over-quarter expense growth.
Non-interest expense for the year to date increased $613 million or 11% to $6,180 million. Adjusted non-interest expense increased $525 million or 9.5%. M&I accounted for $162 million of expense growth and $76 million of adjusted expense growth. There was growth in employee compensation, including performance-based costs in line with improved results, increased computer and equipment costs, and higher professional fees and travel and business development expense. Expense growth was due in part to continued investment in our P&C and wealth businesses including technology development initiatives and the addition of employees, as well as the effects of our other acquisitions.
Risk Management
The global economic recovery has slowed due to heightened uncertainty surrounding both the European and U.S. economies. In the United States, continued high unemployment levels and weak real estate markets have weakened consumer confidence and increased ongoing economic uncertainty.
Loans acquired in connection with the M&I transaction were recorded at fair value at acquisition and as a result, no allowance for credit losses has been recorded on these loans. The fair value of the purchased portfolio of $29.2 billion included an adjustment for estimated future losses of $3.3 billion. In addition, an adjustment to the fair value of undrawn commitments and letters of credit of $206 million has been recorded in other liabilities. As the purchased portfolio was written down at acquisition to the amount expected to be collected, the purchased loans are not included in gross impaired loans. We expect to recover the fair value (or new carrying amount) of the purchased portfolio.
Provisions for credit losses totalled $174 million in the third quarter of 2011. Specific provisions were $174 million or an annualized 39 basis points of average net loans and acceptances, compared with $187 million or 45 basis points in the second quarter and $214 million or 50 basis points in the third quarter of 2010. The preceding ratios have been calculated excluding the impact of the purchased portfolios that were recorded at fair value at acquisition and prior quarters have been restated accordingly. There was no change in the general allowance in the current quarter or in the third quarter of 2010. There was a $42 million reduction in the general allowance in the second quarter of 2011.
On a geographic basis, specific provisions in Canada and other countries (excluding the United States) were $94 million in the third quarter of 2011, $97 million in the second quarter of 2011 and $110 million in the third quarter of 2010. Provisions in the United States for the comparable periods were $80 million, $90 million and $104 million, respectively.
BMO employs a methodology for segmented reporting purposes whereby credit losses are charged to the client operating groups quarterly, based on their share of expected credit losses. The difference between quarterly charges based on expected losses and required quarterly provisions based on actual losses is charged (or credited) to Corporate Services. The following paragraphs outline credit losses by client operating group based on actual credit losses, rather than their share of expected credit losses.
Actual credit losses in the third quarter of 2011 were: $161 million in P&C Canada; $51 million in P&C U.S.; $7 million in BMO Capital Markets; and a recovery of $2 million in Private Client Group. In addition, there were $19 million of actual credit losses in the quarter in respect of the loans transferred from P&C U.S. to Corporate Services. The P&C Canada losses of $161 million include credit losses of $62 million related to securitized assets, which are not included in BMO's $174 million of specific provisions.
Actual credit losses in the second quarter of 2011 were: $151 million in P&C Canada; $79 million in P&C U.S.; $5 million in Private Client Group; and $nil in BMO Capital Markets. The P&C Canada losses of $151 million include credit losses of $48 million related to securitized assets, which are not included in BMO's $187 million of specific provisions.
Actual credit losses in the third quarter of 2010 were: $171 million in P&C Canada; $103 million in P&C U.S.; $nil in Private Client Group; and a recovery of $10 million in BMO Capital Markets. The P&C Canada losses of $171 million include credit losses of $50 million related to securitized assets, which are not included in BMO's $214 million of specific provisions.
Impaired loan formations totalled $252 million in the current quarter, up from $147 million in the second quarter of 2011 and $242 million a year ago. Consistent with recent quarters, U.S.-related formations represented over half of BMO's total formations in the quarter.
Total gross impaired loans were $2,290 million at the end of the current quarter, down from $2,465 million in the second quarter and from $2,801 million a year ago. Effective the third quarter of 2011, gross impaired loans exclude the purchased portfolios and prior quarters have been restated accordingly.
The acquisition of M&I has increased BMO's exposure to U.S. real estate related loans and to potential deterioration in U.S. real estate markets. However, we are satisfied that estimated future credit losses were appropriately considered in determining the fair value of the purchased portfolio at acquisition and we continue to proactively manage these exposures.
BMO's liquidity and funding, market and insurance risk management practices and key measures are outlined on pages 82 to 88 of BMO's 2010 Annual Report.
There were no significant changes to our level of liquidity and funding risk over the quarter. We remain satisfied that our liquidity and funding management framework provides us with a strong liquidity position. During the quarter, our core deposits increased to $172 billion from $136 billion primarily due to the addition of M&I's core deposit base.
Trading and Underwriting Market Value Exposure (MVE) rose quarter over quarter due to increased activity in our fixed income businesses. Exposure in the bank's available-for-sale (AFS) portfolios was virtually unchanged over the quarter and continues to be concentrated in portfolios holding significant levels of high quality, hedged bonds.
There were no significant changes in our structural market risk management practices during the quarter. Structural MVE is driven by rising interest rates and primarily reflects a lower market value for fixed-rate loans. Structural Earnings Volatility (EV) is driven by falling interest rates and primarily reflects the risk of prime-based loans repricing lower. MVE and EV increased modestly from the prior quarter primarily due to the acquisition of M&I assets and liabilities.
There were no significant changes in the risk management practices or risk levels of our insurance business during the quarter.
This Risk Management section contains forward-looking statements. Please see the Caution Regarding Forward-Looking Statements.
Income Taxes
As explained in the Revenue section, management assesses BMO's consolidated results and associated provisions for income taxes on a GAAP basis. We assess the performance of the operating groups and associated income taxes on a taxable equivalent basis and report accordingly.
The provision for income taxes of $178 million increased $71 million from the third quarter of 2010 and decreased $53 million from the second quarter of 2011. The effective tax rate for the quarter was 18.0%, compared with 13.4% in the third quarter of 2010 and 22.0% in the second quarter of 2011. The higher effective tax rate in the current quarter, as compared to the third quarter of 2010, was primarily due to lower tax-exempt income, partially offset by a reduction in the statutory Canadian income tax rate in 2011. The lower effective tax rate in the current quarter, as compared to the second quarter of 2011, was primarily due to a higher proportion of income from lower tax-rate jurisdictions and higher recoveries of prior periods' income taxes.
As explained at the end of the Q3 2011 Regulatory Capital Review section, to manage the impact of foreign exchange rate changes on BMO's investments in foreign operations and their effect on the bank's capital ratios to acceptable levels, BMO may partially or fully hedge foreign exchange risk by partially or fully funding its foreign investment in U.S. dollars. Under this program, the gain or loss from hedging and the unrealized gain or loss from translation of the investments in U.S. operations are charged or credited to shareholders' equity. For income tax purposes, the gain or loss on the hedging activities results in an income tax charge or credit in the current period in shareholders' equity, while the associated unrealized gain or loss on the investments in U.S. operations does not incur income taxes until the investments are liquidated. The income tax charge or benefit arising from a hedging gain or loss is a function of the fluctuation in the Canadian/U.S. exchange rate from period to period. Hedging of the investments in U.S. operations has given rise to an income tax recovery in shareholders' equity of $10 million for the quarter and an income tax charge of $170 million for the year to date. Refer to the Consolidated Statement of Changes in Shareholders' Equity included in the interim unaudited consolidated financial statements for further details.
Balance Sheet
Total assets were $476.6 billion at July 31, 2011. BMO completed the acquisition of M&I on July 5, 2011, acquiring $45.6 billion of assets. The M&I assets were comprised of loans totalling $29.2 billion, securities of $6.0 billion, cash of $2.8 billion and other items totalling $7.6 billion, including goodwill of $1.8 billion. The allocation of the purchase price for M&I is subject to refinement as we complete the valuation of the assets acquired and liabilities assumed.
Including the addition of the M&I assets, total assets increased $64.9 billion from October 31, 2010. The weaker U.S. dollar decreased the translated value of U.S.-dollar-denominated assets by $7.3 billion. There were increases in net loans and acceptances of $28.8 billion, cash and cash equivalents and interest bearing deposits with banks of $17.5 billion, securities borrowed or purchased under resale agreements of $10.2 billion, other assets of $4.9 billion and securities of $3.5 billion.
The $28.8 billion increase in net loans and acceptances was due to an increase in loans to businesses and governments of $17.0 billion, which included $19.5 billion from M&I, net of a reduction of $1.8 billion in other BMO loans due mainly to economic conditions. Spending remains weak and borrowers have reduced utilization of loan facilities. Given the low interest rate environment, more borrowers have accessed the capital markets at attractive rates and used the proceeds to pay down bank debt. There was an increase in consumer instalment and other personal loans of $6.9 billion including $4.4 billion from M&I, and a $2.8 billion increase in auto loans and home equity loans. There was a $5.8 billion increase in residential mortgages, including $3.9 billion from M&I. P&C Canada's commercial loan balances also increased. The above increases were partially offset by lower credit card loans due mainly to higher levels of securitization activity i
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Datum: 23.08.2011 - 05:31 Uhr
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