U N I T E D S T A T E S
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K
CURRENT REPORT
Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
Date of Report
(Date of earliest event reported) August 14, 1998
PACIFIC CENTURY FINANCIAL CORPORATION
- -----------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 1-6887 99-0148992
- ------------------------ -------------- -------------------
(State of incorporation) (Commission (IRS Employer
File Number) Identification No.)
130 Merchant Street, Honolulu, Hawaii 96813
- ---------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(Registrant's telephone number,
including area code) (808) 643-3888
Item 5. Other Events.
Exhibits are filed herewith in connection with a proposed
offering of subordinated notes by Bank of Hawaii, a subsidiary of
Pacific Century Financial Corporation.
Item 7. Financial Statements, Pro Forma Financial Information
and Exhibits
EXHIBIT
(24) Consolidated Financial Statements of
Bank of Hawaii and Subsidiaries for the
Years ended December 31, 1997, 1996 and
1995 with Report of Independent Auditors.
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act
of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned thereunto duly authorized.
Date: August 14, 1998 PACIFIC CENTURY FINANCIAL
CORPORATION
/s/ RICHARD J. DAHL
(Signature)
Richard J. Dahl
President and Chief
Operating Officer
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
PACIFIC CENTURY FINANCIAL CORPORATION
EXHIBIT TO CURRENT REPORT ON
FORM 8-K DATED August 14, 1998
Commission File Number 1-6887
Exhibit Index
Exhibit No. Description Page
(19) Consolidated Financial Statements
Bank of Hawaii and Subsidiaries for
The Years ended December 31, 1997,
1996 and 1995 with Report of
Independent Auditors .........................5
Consolidated Financial Statements
Bank of Hawaii and subsidiaries
Years ended December 31, 1997, 1996 and 1995
with Report of Independent Auditors
Bank of Hawaii and subsidiaries
Consolidated Financial Statements
Years ended December 31, 1997, 1996 and 1995
Contents
Report of Independent Auditors . . . . . . . . . . . . . . 1
Consolidated Statements of Condition . . . . . . . . . . . 2
Consolidated Statements of Income . . . . . . . . . . . . .4
Consolidated Statements of Shareholder's Equity . . . . . .6
Consolidated Statements of Cash Flows . . . . . . . . . . .7
Notes to Consolidated Financial Statements . . . . . . . . 9
Report of Independent Auditors
Board of Directors
Bank of Hawaii
We have audited the accompanying consolidated statements of
condition of Bank of Hawaii and subsidiaries as of December 31,
1997, 1996 and 1995, and the related consolidated statements of
income, shareholder's equity, and cash flows for the years then
ended. These financial statements are the responsibility of the
Bank's management. Our responsibility is to express an opinion on
these financial statements based on our audits.
We conducted our audits in accordance with generally accepted
auditing standards. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether
the consolidated financial statements are free of material
misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the
consolidated financial statements. An audit also includes
assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall
consolidated financial statement presentation. We believe that
our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above
present fairly, in all material respects, the consolidated
financial position of Bank of Hawaii and subsidiaries at
December 31, 1997, 1996 and 1995, and the consolidated results of
their operations and their cash flows for the years then ended,
in conformity with generally accepted accounting principles.
/s/ ERNST & YOUNG LLP
January 23, 1998
except for Note 16, as to which the date is February 17, 1998
Bank of Hawaii and subsidiaries
Consolidated Statements of Condition
December 31
1997 1996 1995
----------------------------------------------
(In Thousands)
Assets
Interest-bearing deposits $ 335,128 $ 612,771 $ 772,874
Investment securities
-Held to maturity (market value of
$1,103,375, $1,125,614 and
$1,115,290, respectively) 1,101,617 1,125,455 1,109,805
-Available for sale 2,382,098 2,334,420 2,152,368
Funds sold 80,457 141,920 116,173
Loans: 7,659,518 7,414,235 6,889,331
Unearned income (194,379) (169,767) (132,572)
Allowance for loan losses (144,390) (149,431) (133,872)
---------------------------------------------------
Net loans 7,320,749 7,095,037 6,622,887
---------------------------------------------------
Total earning assets 11,220,049 11,309,603 10,774,107
Cash and non-interest bearing deposits 677,922 561,076 449,938
Advances to affiliates - 15,000 25,000
Premises and equipment 251,514 255,123 228,378
Customers' acceptance liability 21,258 21,178 16,825
Accrued interest receivable 76,441 78,701 76,374
Other real estate 4,265 8,765 7,986
Intangibles, including goodwill 57,372 62,191 49,885
Other assets 155,528 156,401 148,528
---------------------------------------------------
Total assets $12,464,349 $12,468,038 $11,777,021
===================================================
Liabilities and shareholder's equity
Domestic deposits:
Demand-non-interest bearing $ 1,364,475 $ 1,381,030 $ 1,514,503
Demand-interest bearing 1,621,975 1,474,761 1,350,217
Savings 667,249 754,092 882,847
Time 1,783,274 1,878,567 1,684,992
Foreign deposits:
Demand-non-interest bearing 351,179 553,274 46,056
Time due to banks 660,827 804,818 664,269
Other savings and time 1,200,958 929,069 605,264
---------------------------------------------------
Total deposits 7,649,937 7,775,611 6,748,148
Securities sold under agreements to
repurchase 2,278,424 2,075,571 1,925,240
Funds purchased 1,037,475 707,996 814,700
Other short-term borrowings 107,631 223,529 336,358
Bank's acceptances outstanding 21,258 21,178 16,825
Accrued pension costs 17,047 18,946 21,145
Accrued interest payable 54,959 67,361 46,973
Payable to parent in lieu of income taxes 143,202 135,828 144,812
Minority interest 5,758 9,307 2,961
Other liabilities 58,512 67,852 51,624
Long-term debt 217,744 499,098 798,891
---------------------------------------------------
Total liabilities 11,591,947 11,602,277 10,907,677
Shareholder's equity:
Capital stock ($8 par value),
authorized 1,875,000 shares; issued
and outstanding 1,863,516.5 shares
each year 14,908 14,908 14,908
Capital surplus 420,341 420,341 420,341
Unrealized valuation adjustments (24,929) (4,241) 12,576
Retained earnings 462,082 434,753 421,519
---------------------------------------------------
Total shareholder's equity 872,402 865,761 869,344
---------------------------------------------------
Total liabilities and shareholder's equity $12,464,349 $12,468,038 $11,777,021
===================================================
See accompanying notes to consolidated financial statements.
/TABLE
Bank of Hawaii and subsidiaries
Consolidated Statements of Income
Year ended December 31
1997 1996 1995
----------------------------------------------
(In Thousands)
Interest income
Interest on loans $582,688 $556,159 $515,230
Loan fees 30,791 26,841 26,010
Income on lease financing 34,884 27,123 12,384
Interest and dividends on investment securities:
Taxable 72,707 64,160 87,283
Non-taxable 1,135 1,167 1,347
Income on investment securities available for
sale 148,599 145,316 106,339
Interest on deposits 33,298 39,904 39,370
Interest on security resale agreements 86 - 445
Interest on funds sold 3,726 4,039 3,442
-----------------------------------------------
Total interest income 907,914 864,709 791,850
Interest expense
Interest on deposits 264,715 250,264 210,407
Interest on security repurchase agreements 115,435 100,063 121,891
Interest on funds purchased 40,848 32,673 32,913
Interest on short-term borrowings 12,300 15,743 9,884
Interest on long-term debt 16,728 41,536 43,599
-----------------------------------------------
Total interest expense 450,026 440,279 418,694
Net interest income 457,888 424,430 373,156
Provision for loan losses 29,398 21,517 16,672
-----------------------------------------------
Net interest income after provision for loan
losses 428,490 402,913 356,484
Non-interest income
Trust income 52,349 49,877 49,585
Service charges on deposit accounts 26,219 25,820 25,002
Fees, exchange and other service charges 66,852 60,032 47,452
Other operating income 32,420 24,983 19,252
Investment securities gains 1,490 455 887
-----------------------------------------------
Total non-interest income 179,330 161,167 142,178
Non-interest expense
Salaries $153,921 $148,415 $131,404
Pensions and other employee benefits 48,621 45,372 40,286
Net occupancy expense 40,823 35,767 37,367
Net equipment expense 35,943 32,912 30,712
Other operating expense 137,668 117,492 90,870
Minority interest 1,488 1,444 1,116
-----------------------------------------------
Total non-interest expense 418,464 381,402 331,755
-----------------------------------------------
Income before income taxes 189,356 182,678 166,907
Provision in lieu of income taxes 67,174 63,279 63,161
-----------------------------------------------
Net income $122,182 $119,399 $103,746
===============================================
See accompanying notes to consolidated financial statements.
/TABLE
Bank of Hawaii and subsidiaries
Consolidated Statements of Shareholder's Equity
Unrealized
Capital Capital Valuation Retained
Total Stock Surplus Adjustments Earnings
---------------------------------------------------------------------
(In Thousands Except Per Share Amounts)
Balance at December 31, 1994 $779,122 $14,908 $420,341 $(18,326) $362,199
Changes during 1995:
Net income 103,746 103,746
Unrealized valuation adjustments:
Investment securities 27,508 27,508
Foreign currency translation
adjustment 3,394 3,394
Cash dividends paid of $23.84 per
share (44,426) (44,426)
--------------------------------------------------------------------
Balance at December 31, 1995 869,344 14,908 420,341 12,576 421,519
Changes during 1996:
Net income 119,399 119,399
Unrealized valuation adjustments:
Investment securities (8,307) (8,307)
Foreign currency translation
adjustment (8,510) (8,510)
Cash dividends paid of $56.97 per
share (106,165) (106,165)
--------------------------------------------------------------------
Balance at December 31, 1996 865,761 14,908 420,341 (4,241) 434,753
Changes during 1997:
Net income 122,182 122,182
Unrealized valuation adjustments:
Investment securities 3,500 3,500
Foreign currency translation
adjustment (24,188) (24,188)
Cash dividends paid of $50.90 per
share (94,853) (94,853)
--------------------------------------------------------------------
Balance at December 31, 1997 $872,402 $14,908 $420,341 $(24,929) $462,082
====================================================================
See accompanying notes to consolidated financial statements.
/TABLE
Bank of Hawaii and subsidiaries
Consolidated Statements of Cash Flows
Year ended December 31
1997 1996 1995
-----------------------------------------------
(In Thousands)
Operating activities
Net income $122,182 $119,399 $103,746
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for loan losses 29,398 21,517 16,672
Depreciation and amortization 36,619 29,091 23,073
Deferred income taxes 8,438 3,651 8,468
Realized losses (gains) on investment securities
available for sale (1,482) (438) 293
Amortization of deferred lease income (30,077) (25,804) (24,905)
Amortization of deferred loan fee income (9,969) (25,902) (22,148)
Decrease (increase) in interest receivable 1,507 (1,364) (6,390)
Increase (decrease) in interest payable (12,946) 14,432 (181)
Decrease (increase) in other assets 9,010 (24,681) (46,571)
Decrease in other liabilities (23,598) (12,285) (9,994)
-----------------------------------------------
Net cash provided by operating activities 129,082 97,616 42,063
Investing activities
Proceeds from redemptions of investment securities
held to maturity 165,007 558,667 877,190
Purchases of investment securities held to maturity (93,700) (552,209) (482,803)
Proceeds from sales of investment securities available
for sale 721,840 688,231 650,285
Proceeds from redemptions of investment securities
available for sale 88,217 81,757 150,000
Purchases of investment securities available for sale (850,421) (969,108) (1,361,057)
Net (increase) decrease in interest-bearing deposits
placed in other banks 278,501 416,191 (54,416)
Net (increase) decrease in funds sold 61,463 (25,747) (60,274)
Net (increase) decrease in loans (193,399) 132,275 (104,459)
Purchases of premises and equipment (23,754) (37,017) (48,262)
Proceeds from sale of premises and equipment - - 4,788
Purchase of Bank of Hawaii (PNG) Ltd., net of cash
and non-interest bearing deposits acquired (5,371) - -
Purchase of Banque d'Hawaii (Vanuatu), Ltd., net of
cash and non-interest bearing deposits acquired - - 6,808
Purchase of additional interest in Credipac Polynesie
and Credipac Nouvelle Caledonie, net of cash and
non-interest bearing deposits acquired - (4,114) -
-----------------------------------------------
Carry forward 148,383 288,926 (422,200)
Brought forward $148,383 $288,926 $(422,200)
Purchase of Banque de Tahiti and Banque de Nouvelle
Caledonie, net of cash and non-interest bearing
deposits acquired - 18,090 -
-----------------------------------------------
Net cash provided (used) by investing activities 148,383 307,016 (422,200)
-----------------------------------------------
Financing activities
Net increase (decrease) in demand, savings and time
deposits (191,633) 180,176 342,782
Proceeds from long-term debt 113,491 425,287 756,134
Principal payments on long-term debt (394,845) (725,080) (655,415)
Net increase (decrease) in short-term borrowings 416,408 (69,202) (73,086)
Net decrease in advance to affiliates 15,000 10,000 3,000
Cash dividends (94,853) (106,165) (44,426)
-----------------------------------------------
Net cash provided (used) by financing activities (136,432) (284,984) 328,989
Effect of exchange rate changes on cash (24,187) (8,510) 3,394
-----------------------------------------------
Increase (decrease) in cash and non-interest bearing
deposits 116,846 111,138 (47,754)
Cash and non-interest bearing deposits at beginning of
year 561,076 449,938 497,692
-----------------------------------------------
Cash and non-interest bearing deposits at end of year $677,922 $561,076 $449,938
===============================================
See accompanying notes to consolidated financial statements.
/TABLE
Bank of Hawaii and subsidiaries
Notes to Consolidated Financial Statements
December 31, 1997, 1996 and 1995
1. Summary of Significant Accounting Policies
The accounting principles followed by Bank of Hawaii and its
subsidiaries and the methods of applying those principles conform
with generally accepted accounting principles and general
practices within the banking industry. The preparation of
financial statements in conformity with generally accepted
accounting principles requires management to make estimates and
assumptions that affect the amounts reported in financial
statements and accompanying notes. Actual results may differ from
those estimates and such differences could be material to the
financial statements. Certain accounts have been reclassified to
conform with the 1997 presentation. The significant accounting
policies are summarized below.
Nature of Operations
The Bank of Hawaii and its subsidiaries (the Bank) is the largest
bank headquartered in the State of Hawaii and is the primary
subsidiary of Pacific Century Financial Corporation (Pacific
Century), formerly known as Bancorp Hawaii, Inc. The Bank of
Hawaii provides various financial services to customers primarily
in Hawaii, areas of the West and South Pacific, and Asia. The
majority of the Bank's operations consist of customary commercial
and consumer banking services, including, but not limited to,
lending, leasing, deposit services, trust and investment
activities and trade financing.
Consolidation
The consolidated financial statements include the accounts of
Bank of Hawaii and its subsidiaries. Significant intercompany
accounts have been eliminated and minority interests recognized
in consolidation.
Accounting Changes
On January 1, 1997 Bank of Hawaii adopted the Financial
Accounting Standards Board's, (FASB) Statement of Financial
Accounting Standards (SFAS) No. 125, "Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of
Liabilities." SFAS No. 125 provides accounting and reporting
standards for transfers of financial assets where the transferor
has retained some continuing involvement with the asset
transferred. Examples of continuing involvement include
repurchase agreements, recourse arrangements, and servicing
obligations which may be accounted for as a sale if the
transferor has surrendered control over the asset.
SFAS No. 125 also requires the recognition of a servicing asset
or a servicing liability at fair value whenever an entity agrees
to service financial assets and eliminates the previous treatment
of an in-substance defeasance by specifying that a debtor shall
extinguish a liability if an only if it has been extinguished.
The pronouncement also requires that servicing assets be
evaluated for impairment by risk characteristics and carried at
the lower of capitalized cost or fair value. There was no
material effect on Bank of Hawaii's financial position at
December 31, 1997 or results of operations for the year then
ended from adopting SFAS No. 125.
In June 1997, the FASB issued SFAS No. 130, "Reporting
Comprehensive Income." SFAS No. 130 establishes standards for
reporting and displaying comprehensive income and its components
in a full set of financial statements. The Statement requires
that all items that meet the definition of components of
comprehensive income be reported in a financial statement for the
period in which they are recognized. SFAS No. 130 does not
specify a specific format for reporting comprehensive income in
financial statements, but requires that the amount representing
total comprehensive income be displayed in the financial
statements. Under existing accounting standards, other
comprehensive income include foreign currency translation
adjustments, minimum pension liability adjustments, and
unrealized gains and losses on available-for-sale securities.
SFAS No. 130 is effective for fiscal years beginning after
December 15, 1997 and requires the restatement of financial
statements for earlier periods. Its implementation will have no
impact on Bank of Hawaii's financial position or results of
operations.
In June 1997, the FASB issued SFAS No. 131, "Disclosures about
Segments of an Enterprise and Related Information." SFAS No. 131
establishes standards for the reporting of financial information
about operating segments in annual financial statements to
stockholders, and requires certain selected segment information
in interim reports. It also establishes standards for related
disclosures about products and services, geographic areas, and
major customers. The adoption of SFAS No. 131 will have no
material impact on Bank of Hawaii's financial statements. SFAS
No. 131 will become effective in 1998 and requires comparative
information for earlier years.
Acquisitions
In March 1997, Bank of Hawaii International, Inc. (BOH), a
wholly-owned subsidiary of the Bank, acquired 100% of Indosuez
Niugini Bank, Ltd. in Papua New Guinea, for approximately $5.6
million. Indosuez Niugini Bank, Ltd. has been renamed Bank of
Hawaii (PNG) Ltd. The acquisition was accounted for as a
purchase, resulting in $3,328,000 in goodwill, which is being
amortized over 15 years. At December 31, 1997 the Bank of Hawaii
(PNG) Ltd. had approximately $80,325,000 in total assets.
In May 1996, BOHI finalized its purchase of majority ownership in
Banque de Tahiti (BDT), Bank of Hawaii-Nouvelle Caledonie (BNC),
formally known as Banque de Nouvelle Caledonie, and two smaller
finance companies for an aggregate cost of $60,500,000. After the
acquisitions, BOHI's ownership in BDT increased to 92.4% from 38%
and in BNC it increased to 91.5% from 21%. These acquisitions
were accounted for using the purchase method, and the resulting
goodwill of $12,200,000 is being amortized over 15 years on a
straight line basis. Total assets of both BDT and BNC were
$921,721,000 and $981,400,000 at year-end 1997 and 1996,
respectively.
In March 1995, BOHI acquired the remaining 20% of the shares of
Banque d'Hawaii (Vanuatu), Limited. This residual acquisition,
like the original 80% purchase of Banque Indosuez Vanuatu,
Limited, in 1993, was accounted for using the purchase method.
The goodwill recorded in this transaction was $1.1 million and is
being amortized over 15 years. The combined purchase price
totaled $13.8 million. Total assets were $90,600,000, $89,500,000
and $74,200,000 at year-end 1997, 1996 and 1995, respectively.
The following table discloses assets acquired and liabilities
assumed in conjunction with these acquisitions:
1997 1996 1995
-------------------------------------------------
(In Thousands)
Assets acquired $1,239,616 $552,657 $14,127
Cash paid for capital stock (209,023) (60,583) (1,786)
-------------------------------------------------
Liabilities assumed $1,030,593 $492,074 $12,341
=================================================
In December 1997, Bank of Hawaii entered into a definitive
purchase contract to acquire Group Paribas' interest in Banque
Paribas Pacifique (located in New Caledonia) and Banque Paribas
Polynesie (located in French Polynesia). The purchase, which is
expected to close in the second quarter of 1998, is subject to
approval by regulators in France and the United States. Upon
completion of this transaction at least 85% of the Banque Paribas
Pacifique shares and 70% of the Banque Paribas Polynesie shares
will be transferred to BOHI or its subsidiaries. At December 31,
1997, total assets of Banque Paribas Pacifique and Banque Paribas
Polynesia in the aggregate were $291,893,000.
Advertising Costs
The nature of Bank of Hawaii's marketing programs generally do
not include direct-response advertising. Bank of Hawaii,
therefore, recognizes its advertising costs as incurred.
Advertising expenses were $8,472,000, $9,480,000 and $9,374,000
for 1997, 1996 and 1995, respectively.
Credit Card Costs
Bank of Hawaii issues it own VISA and Mastercard credit cards for
which all costs are recognized as period costs. In 1996, Bank of
Hawaii entered into certain arrangements with third parties to
originate VISA cards in specific target markets. As of year-end
1997 and 1996 the unamortized capitalized origination costs
totaled $1,611,000 and $3,740,000, respectively. These costs are
being amortized over the anticipated life of the cards, currently
five years. As cards are canceled, the unamortized costs are
expensed. In 1997, capitalized origination costs totaling
$1,606,000 were charged-off due to higher than expected levels of
card cancellations.
Cash and Non-Interest Bearing Deposits
Cash and non-interest bearing deposits include the amounts due
from other financial institutions as well as in-transit
clearings. Under the terms of the Depository Institution
Deregulation and Monetary Control Act, the Bank is required to
place reserves with the Federal Reserve Bank based on the amount
of deposits held. For 1997, 1996 and 1995, the average amount of
these reserve balances were $133,314,000, $129,926,000, and
$149,040,000, respectively.
Income Taxes
The Bank files a consolidated federal income tax return with
Pacific Century and its domestic subsidiaries. Deferred income
taxes are provided to reflect the tax effect of temporary
differences between financial statement carrying amounts and the
corresponding tax basis of assets and liabilities.
The Bank's tax sharing policy provides for the settlement of
income taxes between each entity as if each one had filed a
separate return. Payments are made to Pacific Century by each
entity with tax liabilities, and entities that generate tax
benefits receive payments for the benefits as used. Deferred
taxes are recorded on the books of the entity which generated the
temporary difference.
For lease arrangements, which are accounted for by the financing
method, investment tax credits are deferred and amortized over
the lives of the respective leases.
Intangible Assets and Amortization
The excess of cost over the fair market value of tangible assets
and liabilities purchased in various transactions by the Bank is
being amortized using the straight-line method over various
periods not exceeding 15 years. Intangibles are reviewed
periodically for other than temporary impairment. The
amortization expense of these intangibles was $5,634,000,
$5,635,000 and $4,212,000 for 1997, 1996 and 1995, respectively.
As of December 31, 1997, the accumulated amortization totaled
$23,156,000.
Servicing assets are recognized when mortgage loans are
originated and sold or securitized with servicing rights
retained. The capitalized cost of servicing assets is amortized
over the estimated life of the related loans. The fair value of
servicing assets is estimated based on a review of servicing
right values of loans with similar characteristics. An impairment
analysis is performed on a periodic basis and includes a review
of prepayment trends, delinquency and other relevant factors. For
purposes of measuring impairment, servicing assets are stratified
by product type. Impairment is recognized when the carrying value
of the servicing assets for a stratum exceed its fair value.
Interest Rate and Foreign Currency Risk Management
The Bank utilizes off-balance sheet derivative financial
instruments, primarily as an end-user in connection with its risk
management activities and, to a lesser extent, as a service to
accommodate the needs of customers. Most of the Bank's derivative
transactions consist of interest rate swaps and foreign exchange
contracts. Other derivative instruments may be employed, from
time to time, but in the aggregate, these instruments generally
are immaterial.
The Bank utilizes interest rate swaps for purpose other than
trading to manage its exposure to interest rate risks. Interest
rate swaps are contractual agreements that generally require the
exchange of fixed and floating rate payments based on specified
financial indices and the underlying notional amount over the
life of the agreements.
The accrual method is used to account for interest rate swaps.
Under this method, the differential between interest to be paid
and received is accrued and recognized as an adjustment to
interest income or expense of the designated asset or liability.
The fair value of these agreements is not recorded in the
consolidated financial statements. Changes in the fair value of
swap contracts are not recognized as long as the hedge
correlation continues to exist. If the hedge correlation ceases
to exist based on effectiveness tests, any existing gain or loss
is amortized over the remaining term of the agreement, and future
changes in fair value are accounted for on a mark-to-market
basis. If the designated asset or liability matures, or is
extinguished, any unrealized gain or loss on the related
derivative instrument is recognized immediately.
A foreign exchange contract is a commitment to exchange foreign
currency at a contracted price on a specified date. These
derivative instruments are used for purposes other than trading
primarily for asset and liability management activities, and
changes in the fair value of both the foreign exchange contracts
and related assets or liabilities hedged are offset and not
included in the financial results.
Derivative instruments entered into for trading purposes consist
of foreign exchange contracts that are used to offset foreign
currency positions taken on behalf of the customers and for the
company's own account. These derivatives are carried at fair
value, and the associated unrealized gains and losses are
recognized currently in the statement of income.
International Operations
International operations include certain activities located
domestically in the International Banking Group, as well as
branches and subsidiaries domiciled outside the United States.
The activities of branches located in the West and South Pacific
which are denominated in U.S. dollars are classified as domestic.
The Bank's international operations are primarily located in
Japan, South Korea, Singapore, Hong Kong, Taiwan, French
Polynesia and New Caledonia.
Investment Securities
The Bank adopted the provisions of SFAS No. 115, "Accounting for
Certain Investments in Debt and Equity Securities," affecting the
statement of condition as of December 31, 1993. Pursuant to the
transition provisions of the FASB's Special Report on Statement
115, in December 1995, the Bank transferred $235,099,000 of
investment securities classified as held to maturity to the
available for sale category. The unrealized gains and losses
relating to these securities were $2,082,000 and $2,491,000,
respectively. The primary reason for selecting these securities
for reclassification was to further enhance the Bank's
flexibility in managing its investment portfolio.
Investment securities held to maturity are those securities,
which the Bank has the ability and positive intent to hold to
maturity. These securities are stated at cost adjusted for
amortization of premiums and accretion of discounts. Restricted
equity securities represent Federal Home Loan Bank shares
recorded at par, which reflects fair value.
Investment securities available for sale are recorded at fair
value with unrealized gains and losses recorded as a valuation
adjustment in equity, net of taxes. The fair value of mortgage-
backed securities is based on quoted prices.
The Bank uses the specific identification method to determine the
cost of all investment securities sold.
Loans
Loans are carried at the principal amount outstanding. Interest
income is generally recognized on the accrual basis. Net loan
fees are deferred and amortized as an adjustment to yield.
The Bank's policy is to place loans on non-accrual when a loan is
delinquent over 90 days, unless collection is probable based on
specific factors such as the type of borrowing agreement and/or
collateral. At the time a loan is placed on non-accrual, all
accrued but unpaid interest is reversed against current earnings.
Subsequent payments received are generally applied to reduce the
principal balance.
Other Real Estate
Other real estate consist of properties acquired through
foreclosure proceedings, acceptance of a deed-in-lieu of
foreclosure, abandoned bank premises and loans for which
possession of the collateral has been taken. These properties are
carried at the lower of cost or fair market value based on
current appraisals less selling costs. Losses arising at the time
of acquiring of such property are charged against the reserve for
loan losses. Subsequent declines in property value are recognized
through charges to operating expense.
Premises and Equipment
Premises and equipment are stated of cost less allowances for
depreciation and amortization.
Depreciation is computed using the straight-line method over
lives of two to fifty years for premises and improvements and
three to ten years for equipment.
Allowance for Loan Losses
The allowance for loan losses is established through provisions
that are charged against income. Loans deemed to be uncollectible
are charged against the allowance for loan losses, and subsequent
recoveries, if any, are credited to the allowance.
The allowance for loan losses is maintained at a level believed
adequate by management to absorb estimated future losses.
Management's periodic evaluation of the adequacy of the allowance
is based on the Bank's past loan loss experience, known and
inherent risks in the portfolio, adverse conditions that may
affect the borrower's ability to repay (including the timing of
future payments), the estimated value of any underlying
collateral, composition of the loan portfolio, current economic
conditions, and other factors. This evaluation is inherently
subjective as it requires material estimates including the
amounts and timing of future cash flows expected to be received
on loans that may be susceptible to significant changes.
In 1995, the Bank adopted SFAS No. 114. Under the standard, a
loan is considered impaired when it is probable that all amounts
due according to the contractual terms of the loan will not be
collected. Impairment is measured based on discounted cash flows
using the loan's initial effective interest rate or the fair
value of the collateral for certain collateral dependent loans.
Prior to 1995, loan losses were based on undiscounted cash flows,
the fair value of the collateral for collateral dependent loans
or other factors specific to the credit. Cash receipts on
impaired loans generally are applied to reduce the carrying value
of the loan.
Large groups of smaller balance homogeneous loans, such as
residential mortgages and consumer loans are excluded form the
scope of SFAS No. 114. Loans in these groups are evaluated
collectively for impairment based primarily on the historical
loss experience for each portfolio.
2. Investment Securities
The following presents the details of the investment securities
portfolio as of December 31, 1997:
Gross Gross
Amortized Unrealized Unrealized Aggregate
Cost Gains Losses Fair Value
------------------------------------------------------------------
(In Thousands)
Securities held to maturity
Restricted equity securities $ 42,987 $ 1 $ - $ 42,988
Debt securities issued by:
United States Treasury and
agencies 379,239 421 (379) 379,281
State and municipalities of the
United States 11,814 1,259 - 13,073
Foreign governments 62,102 1 (567) 61,536
Mortgage backed-securities 563,892 2,458 (1,847) 564,503
Other debt securities 41,583 417 (6) 41,994
------------------------------------------------------------------
$1,101,617 $ 4,557 $(2,799) $1,103,375
==================================================================
Securities available for sale
Debt securities issued by:
United States Treasury and
agencies $ 894,331 $ 3,283 $(1,147) $ 896,467
Corporate debt securities 64,572 - - 64,572
Mortgage-backed securities 1,393,141 11,498 (4,915) 1,399,724
Other debt securities 21,335 - - 21,335
------------------------------------------------------------------
$2,373,379 $14,781 $(6,062) $2,382,098
==================================================================
The following presents the details of the investment securities
portfolio as of December 31, 1996:
Gross Gross
Amortized Unrealized Unrealized Aggregate
Cost Gains Losses Fair Value
------------------------------------------------------------------
(In Thousands)
Securities held to maturity
Restricted equity securities $ 39,835 $ - $ - $ 39,835
Debt securities issued by:
United States Treasury and
agencies 319,288 492 (1,428) 318,352
State and municipalities of the
United States 12,413 1,470 - 13,883
Foreign governments 74,685 1,922 (7) 76,600
Mortgage backed-securities 679,234 2,857 (5,147) 676,944
------------------------------------------------------------------
$1,125,455 $ 6,741 $ (6,582) $1,125,614
==================================================================
Securities available for sale
Debt securities issued by:
United States Treasury and
agencies $ 966,756 $ 5,423 $ (4,146) $ 968,033
Foreign governments 31,185 - - 31,185
Corporate debt securities 66,311 - - 66,311
Mortgage-backed securities 1,267,238 8,894 (7,284) 1,268,848
Other debt securities 43 - - 43
------------------------------------------------------------------
$2,331,533 $14,317 $(11,430) $2,334,420
==================================================================
The following presents the details of the investment securities
portfolio as of December 31, 1995:
Gross Gross
Amortized Unrealized Unrealized Aggregate
Cost Gains Losses Fair Value
------------------------------------------------------------------
(In Thousands)
Securities held to maturity
Restricted equity securities $ 36,824 $ - $ - $ 36,824
Debt securities issued by:
United States Treasury and
agencies 481,846 909 (833) 481,922
State and municipalities of the
United States 33,589 1,802 - 35,391
Foreign governments 29,090 326 - 29,416
Mortgage backed-securities 525,929 4,696 (1,392) 529,233
Other debt securities 2,527 1 (24) 2,504
------------------------------------------------------------------
$1,109,805 $ 7,734 $(2,249) $1,115,290
==================================================================
Securities available for sale
Equity securities $ 22,663 $ - $ - $ 22,663
Debt securities issued by:
United States Treasury and
agencies 652,740 8,942 (2) 661,680
Foreign governments 26,201 - - 26,201
Mortgage-backed securities 1,434,038 12,502 (4,716) 1,441,824
------------------------------------------------------------------
$2,135,642 $21,444 $(4,718) $2,152,368
==================================================================
The following presents an analysis of the contractual maturities
of the investment securities portfolio as of December 31, 1997:
Estimated
Cost Fair Value
---------------------------
(In Thousands)
Securities held to maturity
Due in one year or less $ 367,594 $ 367,286
Due after one year through five years 126,799 128,243
Due after five years through ten years 130 130
Due after ten years 215 225
---------------------------
494,738 495,884
Mortgage-backed securities 563,892 564,503
Restricted equity securities 42,987 42,988
---------------------------
1,101,617 1,103,375
===========================
Securities available for sale
Due in one year or less 152,466 153,465
Due after one year through five years 667,490 667,114
Due after five years through ten years 46,644 46,765
Due after ten years 113,638 115,030
---------------------------
980,238 982,374
Mortgage-backed securities 1,393,141 1,399,724
---------------------------
$2,373,379 $2,382,098
===========================
Proceeds from sales of investment securities available for sale
during 1997 were $810.1 million. Gross gains of $169,000 and
gross losses of $558,000 were realized on those sales. Tax
benefits related to these gains and losses were $136,000 in 1997.
The cumulative investment valuation reserve was $5,231,000 (net
of taxes) as of December 31, 1997.
Investment securities carried at $3,233,000,000, $3,228,450,000
and $3,142,067,000 were pledged to secure deposits of public
(governmental) entities, repurchase agreements and swap
agreements at December 31, 1997, 1996 and 1995, respectively. The
December 31, 1997 amount included investment securities with a
carrying value of $2,299,749,000 and a market value of
$2,306,749,000 which were pledged solely for repurchase
agreements.
3. Loans
Loans consisted of the following at year-end:
1997 1996 1995
----------------------------------------------
(In Thousands)
Domestic loans:
Commercial and industrial $1,681,980 $1,755,902 $1,857,597
Real estate:
Construction - Commercial 200,251 204,616 189,661
- Residential 8,185 16,535 25,056
Mortgage - Commercial 1,104,341 1,103,947 1,187,774
- Residential 1,737,843 1,595,195 1,679,608
Installment 804,365 799,304 767,972
----------------------------------------------
Total domestic loans 5,536,965 5,475,499 5,707,668
Foreign loans 1,608,667 1,506,447 795,477
----------------------------------------------
Subtotal 7,145,632 6,981,946 6,503,145
Lease financing:
Direct 240,680 176,156 118,027
Leveraged 273,206 256,133 268,159
----------------------------------------------
Total lease financing 513,886 432,289 386,186
----------------------------------------------
Total loans $7,659,518 $7,414,235 $6,889,331
==============================================
Transactions in the allowance for loan losses were as follows:
1997 1996 1995
----------------------------------------------
(In Thousands)
Balance at beginning of year $149,431 $133,872 $131,323
Provision charged to operations 29,398 21,517 16,672
Reserves acquired 898 6,881 -
Charge-offs (52,871) (42,932) (26,812)
Recoveries 17,534 30,093 12,689
----------------------------------------------
Net charge-offs (35,337) (12,839) (14,123)
----------------------------------------------
Balance at end of year $144,390 $149,431 $133,872
==============================================
Commercial and mortgage loans totaling $675,228,000 were pledged
to secure public deposits and the Federal Home Loan Bank advance
at December 31, 1997.
As of December 31, 1997, $96,156,000 of loans included in the
Mortgage - Residential category above are maintained in an
available for sale portfolio. The portfolio was recorded at the
lower of cost or market on an aggregate basis.
During 1997, Bank of Hawaii capitalized $2,439,000 in mortgage
servicing rights; approximately $889,000 for loans purchased and
$1,549,000 for loans originated. As of December 31, 1997, Bank of
Hawaii's capitalized mortgage servicing rights totaled
$6,442,000. In 1997, $833,000 in amortized mortgage servicing
rights was recognized as expense. As of December 31, 1997, Bank
of Hawaii's servicing portfolio totaled
$1.495 billion.
Non-performing assets, including non-accrual and restructured
loans and foreclosed real estate, totaled $78,500,000,
$69,406,000 and $47,080,000, as of December 31, 1997, 1996, and
1995, respectively.
4. Premises and Equipment
The following is a summary of data for major categories of
premises and equipment:
Accumulated
Depreciation and
Cost Amortization Net Book Value
---------------------------------------------
(In Thousands)
December 31, 1997
Premises $266,486 $(93,138) $173,348
Capital leases 4,464 (893) 3,571
Equipment 193,228 (118,633) 74,595
---------------------------------------------
$464,178 $(212,664) $251,514
=============================================
December 31, 1996
Premises $275,714 $ (92,930) $182,784
Capital leases 4,464 (714) 3,750
Equipment 172,323 (103,734) 68,589
---------------------------------------------
$452,501 $(197,378) $255,123
=============================================
December 31, 1995
Premises $249,039 $ (73,920) $175,119
Capital leases 4,464 (536) 3,928
Equipment 131,940 (82,609) 49,331
---------------------------------------------
$385,443 $(157,065) $228,378
=============================================
The amounts of depreciation and amortization (including capital
lease amortization) included in consolidated expense were
$31,110,000, $29,209,000 and $22,300,000, in 1997, 1996 and 1995,
respectively.
The Bank's operating leases are for certain branch premises and
data processing equipment. The majority of the premises leases
provide for a base rent over a specified period with various
renewal options thereafter. Portions of certain properties are
subleased to others for periods expiring in various years through
2000. Lease terms generally provide for the lessee to pay
operating costs such as taxes and maintenance.
Future minimum payments, by year and in the aggregate, for
capital leases and noncancelable operating leases with initial or
remaining terms of one year or more consisted of the following at
December 31, 1997:
Capital Operating
Leases Leases
----------------------------
(In Thousands)
1998 $ 7 $ 11,069
1999 7 10,254
2000 7 9,487
2001 7 8,567
2002 7 7,145
Thereafter 34,924 98,843
------- --------
Total minimum lease payments 34,959 $145,365
========
Amounts representing interest 28,660
-------
Present value of net minimum
lease payments $ 6,299
=======
Minimum future rentals receivable under subleases for
noncancelable operating leases at December 31, 1997 amounted to
$3,106,000.
Rental expense for all operating leases consisted of:
1997 1996 1995
----------------------------------------------
(In Thousands)
Minimum rentals $19,708 $18,123 $19,454
Sublease rental income (274) (365) (273)
----------------------------------------------
$19,434 $17,758 $19,181
==============================================
5. Deposits
Interest on deposit liabilities in 1997, 1996 and 1995 consisted
of the following:
1997 1996 1995
----------------------------------------------
(In Thousands)
Domestic interest bearing
demand accounts $ 42,009 $ 40,675 $ 45,355
Domestic savings accounts 18,200 20,808 27,375
Domestic time accounts 102,611 99,023 72,080
Foreign accounts 101,895 89,758 65,597
----------------------------------------------
$264,715 $250,264 $210,407
==============================================
Time deposits with balances of $100,000 or more were
$2,632,610,000 in 1997. Of this amount, $84,281,000 represents
deposits of public (governmental) entities which require
collateralization by acceptable securities. The majority of
deposits in the foreign category are time deposits in
denominations of $100,000 or more.
Maturities of time deposits of $100,000 or more at December 31,
1997 are summarized as follows:
Domestic Foreign
----------------------------
(In Thousands)
Under 3 months $408,303 $1,262,044
4 to 6 months 141,822 416,786
7 to 12 months 164,414 64,759
Greater than 1 to 2 years 49,486 18,204
Greater than 2 to 3 years 18,212 2,083
Greater than 3 to 4 years 6,419 1,437
Greater than 4 to 5 years 4,851 -
Greater than 5 years 12,735 61,055
----------------------------
$806,242 $1,826,368
============================
6. Short-term Borrowings
Details of short-term borrowings for 1997, 1996 and 1995 were as
follows:
Securities Sold
Other Under
Short-Term Agreements to
Funds Purchased Borrowings Repurchase
-------------------------------------------------
(In Thousands)
1997
Amounts outstanding December 31 $1,037,475 $107,631 $2,278,424
Average amount outstanding during year $ 783,176 $231,364 $2,108,252
Maximum amount outstanding at any
month end $1,037,475 $399,151 $2,309,775
Weighted-average interest rate during year* 5.22% 5.32% 5.48%
Weighted-average interest rate on balance
outstanding at end of year 5.98% 4.30% 5.47%
1996
Amounts outstanding December 31 $ 707,996 $223,529 $2,075,571
Average amount outstanding during year $ 533,647 $315,744 $1,856,842
Maximum amount outstanding at any
month end $ 759,138 $429,638 $2,075,571
Weighted-average interest rate during year* 6.12% 4.99% 5.39%
Weighted-average interest rate on balance
outstanding at end of year 5.84% 5.38% 4.91%
1995
Amounts outstanding December 31 $ 814,700 $336,358 $1,925,240
Average amount outstanding during year $ 537,620 $329,420 $2,117,412
Maximum amount outstanding at any
month end $ 814,700 $503,815 $2,259,775
Weighted-average interest rate during year* 6.12% 3.00% 5.76%
Weighted-average interest rate on balance
outstanding at end of year 5.57% 4.81% 5.57%
*Average rates for the year are computed by dividing actual interest expense on borrowings by average daily
borrowings.
Funds purchased generally mature on the day following the date of
purchase. Other short-term borrowings consist mainly of Foreign
Call deposits generally mature in 90 days and bear interest rates
that are reflective of rates on borrowings with similar maturities.
A one year Bank note for $150.0 million bearing a fixed interest
rate of 5.63% matured in November 1997. A Federal Home Loan Bank
advance totaling $15.0 million bears an interest rate of 5.65% and
matures in December 1998.
Securities sold under agreements to repurchase are accounted for as
financing transactions and the obligations to repurchase the
identical securities are recorded as liabilities in the statement
of condition. The securities underlying the agreements to
repurchase continue to be reflected as an asset of the Bank and are
held in collateral accounts with third party trustees. At
December 31, 1997, the weighted average contractual maturity of
these agreements was 103 days and represent investments by public
(governmental) entities, primarily the State of Hawaii ($1.5
billion) and local municipalities ($0.8 billion).
A schedule of maturities of these agreements as of December 31,
1997 are as follows (in thousands):
Overnight $ -
Less than 30 days 576,296
30 to 90 days 849,484
Over 90 days 852,644
----------
$2,278,424
==========
7. Long-Term Debt
Amounts outstanding as of year-end were as follows:
1997 1996 1995
----------------------------------------------
(In Thousands)
Subordinated notes $118,755 $118,707 $118,658
Medium-term notes - 199,956 649,746
Federal Home Loan Bank advance 50,000 125,000 25,000
Foreign debt 42,690 49,556 -
Capitalized lease obligations 6,299 5,879 5,487
----------------------------------------------
$217,744 $499,098 $798,891
==============================================
The subordinated notes, which were issued in 1993, bear a fixed
interest rate of 6.875% and mature in 2003.
In 1995, the Bank incorporated its existing medium term note
program into a $1.0 billion revolving note program. Under the terms
of this program, upon repayment of the outstanding notes, the Bank
may issue additional notes provided that the aggregate amount
outstanding does not exceed $1.0 billion. At December 31, 1997,
there was a total of $24,991,000 outstanding under this program,
all of which was classified as
short-term.
The Federal Home Loan Bank advance bears an interest rate of 6.14%
and matures in 1998. At December 31, 1997, loans totaling
$60,000,00 were pledged to secure this advance, along with FHLB
stock.
In 1996, Bank of Hawaii borrowed the equivalent of $50.0 million
USD in French Francs. The debt has a fixed interest rate of 5.16%
and matures in 1999.
Capitalized lease obligations are for certain condominium units in
the Financial Plaza of the Pacific. The lease began in 1993 and has
a 60 year term. Lease payments are fixed at $7,000 per year until
2002; $605,000 per year from 2003 to 2007; and $665,000 per year
from 2008 to 2012 and are negotiable thereafter.
Long-term debt maturities for the five years succeeding
December 31, 1997 are $50,000,000 in 1998, $42,690,000 in 1999;
none in 2000, none in 2001 and none in 2002.
Interest paid on long-term debt in 1997 totaled $28,230,000.
8. Shareholder's Equity
The Bank is subject to regulatory restrictions that limit cash
dividends and loans to Pacific Century. As of December 31, 1997,
$342,760,000 of undistributed earnings of the Bank was available
for distribution to Pacific Century without prior regulatory
approval.
The following is a breakdown of the unrealized valuation adjustment
component of shareholder's equity as of December 31:
1997 1996 1995
---------------------------------------------
(In Thousands)
Foreign currency translation
adjustment $(30,160) $(5,974) $ 2,536
Investment securities 5,231 1,733 10,040
---------------------------------------------
Unrealized valuation adjustments $(24,929) $(4,241) $12,576
=============================================
The Bank is required to maintain certain minimum levels of capital
to meet regulatory guidelines. For evaluating capital adequacy, the
regulators require the Bank to maintain three capital ratios at
specific minimum levels. Tier 1 Capital (common equity reduced by
certain intangibles and increased for qualifying preferred shares
and minority interests) expressed as a percentage of average risk
weighted assets is the Tier 1 Capital Ratio. Total Capital (Tier 1
capital plus qualifying portions of the reserve for loan losses)
expressed as a percentage of average risk weighted assets is the
Total Capital Ratio. The third ratio is the Leverage Ratio which is
Tier 1 Capital divided by average assets. The table below presents
the minimum levels that an institution must maintain to qualify as
"well capitalized" as it applies to the Bank.
The Federal Deposit Insurance Corporation Improvements Act of 1991
(FDICIA) requires the federal banking regulators to take "prompt
corrective action" in respect of depository institutions that do
not meet minimum capital requirements and imposes certain
restrictions upon banks which meet minimum capital requirements but
are not "well capitalized" for purposes of FDICIA. Undercapitalized
institutions are subject to regulatory monitoring and may be
required to divest themselves of or liquidate subsidiaries.
Critically undercapitalized institutions are prohibited from making
payments of principal and interest on subordinated debt and are
generally subject to the mandatory appointment of a conservator or
receiver.
Bank of Hawaii has been notified by its primary regulator of its
status as "well capitalized." The Bank's capital ratios exceeded
the "well capitalized" minimums at December 31, 1997.
December 31
Well
Capitalized
(In Thousands) Minimum 1997 1996
--------------------------------------------------
Common equity $ 872,402 $ 865,761
Tier 1 capital 818,136 815,983
Total capital 1,055,129 1,054,089
Tier 1 capital ratio 6.0% 8.54% 8.57%
Total capital ratio 10.0% 11.01% 11.07%
Leverage ratio 5.0% 6.63% 6.63%
9. International Operations
The following table provides certain selected financial data for
the Bank's international operations for the years ended December
31, 1997, 1996 and 1995:
1997 1996 1995
---------------------------------------------
(In Thousands)
Average assets $3,005,084 $2,795,514 $1,724,347
Average loans 1,540,294 1,253,695 745,948
Average deposits 2,074,103 1,672,734 994,102
Operating income 215,876 192,084 107,884
Income before taxes 20,870 17,347 9,353
Net income 10,243 8,082 4,805
Average assets include short-term, interest-bearing deposits with
foreign branches of U.S. banks and large international banks. On
average, these deposits were $704,366,000, $584,622,000 and
$648,473,000 during 1997, 1996 and 1995, respectively.
To measure international profitability, the Bank maintains an
internal transfer pricing system that makes certain income and
expense allocations, including interest expense for the use of
domestic funds. Interest rates used in determining charges on
advances of funds are based on prevailing deposit rates. Overhead
is allocated based on services rendered by administration units to
profit centers.
By the end of 1997, an economic crisis that first began in Thailand
has spread throughout much of Asia. Many countries in the region
experienced significant devaluation of their currency, as well as
higher interest rates and a general tightening of credit. The
tighter credit environment escalated to a liquidity crisis that
required the intervention of the International Monetary Fund in
South Korea, Thailand and Indonesia. At December 31, 1997 the
Bank's cross-border exposure to South Korea, Thailand and Indonesia
were $413.2 million, $74.4 million and $21.1 million, respectively.
Given the inherent uncertainties and complexities related to the
troubled economies in Asia, it is possible that the Bank's estimate
of the impact of these uncertainties on its operations may change.
10. Contingent Liabilities
The Bank is a defendant in various legal proceedings and in
addition, there are various other contingent liabilities arising in
the normal course of business. After consultation with legal
counsel, management does not anticipate that the disposition of
these proceedings and contingent liabilities will have a material
effect upon the consolidated financial statements.
11. Profit Sharing, Retirement and Other Post Retirement Benefit
Plans
Pacific Century provides a deferred compensation profit-sharing
plan (Profit Sharing Plan) for the benefit of all employees of the
Bank and its subsidiaries who have met the Profit Sharing Plan's
eligibility requirements. The Profit Sharing Plan provides for
annual contributions based on a schedule of performance levels. The
schedule establishes the percentage of adjusted net income to be
contributed based on adjusted return on equity. Participants in the
Profit Sharing Plan receive up to 50% of their annual allocation in
cash. The remaining amounts are deferred and may be invested in
various mutual funds, including a fund that invests solely in the
common shares of Pacific Century Financial Corporation.
Contributions amounted to $8,940,000 in 1997, $8,416,000 in 1996
and $6,987,000 in 1995.
Effective January 1, 1996, the Profit Sharing Plan was enhanced
with a company match of $1.25 for each $1.00 in 401(k)
contributions made by qualified employees up to 2% of the
employee's compensation. For 1997, matching contributions totaled
$2,669,000.
In 1995, Pacific Century froze its non-contributory, qualified
defined-benefit retirement plan (Retirement Plan) and excess
retirement plan (Excess Plan) which covered salaried employees of
Pacific Century and participating subsidiaries who met the
Retirement Plan's eligibility requirements. The Excess Plan is a
non-qualified excess benefit plan which covers all employees of
Pacific Century and participating subsidiaries who have met
eligibility requirements. The unfunded Excess Plan recognizes the
liability to Excess Plan participants for amounts exceeding those
allowed to be included in the Retirement Plan. Benefits were based
on years of service and an average of the five highest years of
annual compensation. In freezing this Plan, all participants were
fully vested in the Plan and final benefits were determined as of
December 31, 1995. In conjunction with the termination of the
Retirement Plan, qualifying employees who were at least 50 years of
age and had 9 years or more of eligible service were offered an
early retirement option. The option provided for an extra 5 years
of service and 5 years of age for benefit calculation purposes. In
addition, the option also provided employees with $250.00 per month
until age 65 to defray medical benefit costs. The early retirement
option was elected by 340 staff members, almost 75% of those
eligible. At the Pacific Century level, the curtailment gain for
the retirement plan was $2,971,000 and the curtailment loss for the
excess retirement plan was $2,811,000 in 1995. Additionally,
qualifying employees whose combined age and years of service
exceeded 60 as of December 31, 1995, were provided a transition
benefit that allows for an increase in salary changes until the
year 2000. Pacific Century's funding policy is to contribute
annually an amount that falls within the minimum and maximum range
deductible for income tax purposes. Retirement Plan assets are
managed by investment advisors in accordance with investment
policies established by the Retirement Plan Trustees. Investments
are generally marketable securities including stocks, bonds and
money market funds.
The following table sets forth both the Retirement Plan and Excess
Plan's funded status and amounts recognized in Pacific Century's
statement of condition at December 31:
1997 1996 1995
---------------------------------------------
(In Thousands)
Actuarial present value of benefit
obligations:
Vested benefit obligation $76,599 $71,406 $71,159
=============================================
Accumulated benefit obligation $79,314 $74,550 $75,725
=============================================
Projected benefit obligation $84,243 $81,479 $82,443
Plan assets (primarily marketable
securities) at fair value 80,201 71,271 63,519
---------------------------------------------
Projected benefit obligation in
excess of plan assets (4,042) (10,208) (18,924)
Unrecognized net gain (10,459) (6,150) (836)
Unrecognized net asset at
December 31 (633) (951) (1,501)
---------------------------------------------
Accrued pension liability recognized
in the Statement of Condition of
Pacific Century Financial
Corporation $(15,134) $(17,309) $(21,261)
=============================================
Net pension costs included the following components:
1997 1996 1995
---------------------------------------------
(In Thousands)
Service cost benefits earned during
the period $ - $ - $6,881
Interest cost on projected benefit
obligation 6,065 6,046 8,000
Actual return on assets (13,502) (7,187) (6,122)
Net amortization and deferral 7,067 1,422 111
---------------------------------------------
Net periodic pension costs $ (370) $ 281 $8,870
=============================================
Assumptions used in the accounting were as follows:
December 31
1997 1996 1995
--------------------------------------------
Weighted-average discount rates 7.50% 7.75% 7.50%
Rates of increase in compensation
levels 5.00% 5.00% 5.00%
Expected long-term rate of return on
assets 9.00% 9.00% 8.50%
As of January 1, 1996, Pacific Century established a defined-
contribution money purchase plan for which it will contribute 4% of
compensation to all employees of the Bank and its subsidiaries
meeting certain eligibility and vesting requirements. The money
purchase plan has a one year eligibility requirement and a five
year vesting period. Employees meeting these requirements as of
January 1, 1996 immediately became participants. For 1997, the
money purchase plan contribution totaled $4,574,000.
Pacific Century's postretirement benefits plan provides retirees
with group life, dental and medical insurance coverage. The cost of
providing these benefits are "shared costs" where both the employer
and employees pay a portion of the premium cost. Most of the
employees of the Bank and its subsidiaries who have met the
eligibility requirements are covered by this plan. The Bank
recognizes the transition obligation over 20 years. The Bank has no
segregated assets to provide postretirement benefits.
The curtailment of the Retirement Plan and Excess Plan also
affected the post retirement benefit plan. A curtailment loss of
$772,000 was recorded in 1995 to reflect this change.
The following schedule presents information regarding the accrued
post retirement liability and cost as of December 31:
1997 1996 1995
---------------------------------------------
(In Thousands)
Accumulated Postretirement Benefit
Obligation
Retirees $(14,652) $(15,163) $(14,515)
Other Fully Eligible Plan
Participants (4,452) (3,228) (3,054)
Other Active Plan Participants (8,643) (8,457) (11,095)
---------------------------------------------
Accumulated Postretirement Benefit
Obligation (27,747) (26,848) (28,664)
Unrecognized Transition Obligation
Being Amortized Over 20 years 10,446 11,142 11,838
Unrecognized Net Gain (5,302) (4,494) (459)
---------------------------------------------
Accrued Postretirement Benefit
Liability $(22,603) $(20,200) $(17,285)
============================================
The net periodic postretirement
benefit cost:
Service Cost $1,002 $1,262 $1,046
Interest Cost 1,894 2,057 1,912
Amortization of Transition
Obligation 696 696 647
Other Amortization and Deferral (189) - -
---------------------------------------------
Net Periodic Postretirement
Benefit cost $3,403 $4,015 $3,605
=============================================
The following table presents the assumptions utilized to determine
the expense and liability:
1997 1996 1995
--------------------------------------------
Health Care Cost Trend Rate 9.00% 9.00% 15.00%
Dental Care Cost Trend Rate 7.00% 7.00% 7.50%
Weighted Average Discount Rate 7.50% 7.75% 7.50%
Rate of Increase in
Compensation Level 5.00% 5.00% 5.00%
The health care cost trend rate has been revised in 1996 to 9% per
year until the year 1999 and leveling to 7% thereafter. A one
percent increase in this assumption (with all other assumptions
remaining constant) would increase the service and interest cost
components of the net periodic postretirement cost from $2,896,000
to $3,266,000. The impact of this one percent increase in the trend
rate would cause the accumulated postretirement benefit obligation
to rise from $27,747,000 to $30,457,000 at December 31, 1997.
12. Income Taxes
The Bank's assessment from its parent for income tax provision
includes the following significant components:
1997 1996 1995
---------------------------------------------
(In Thousands)
Current:
Federal $34,760 $38,095 $39,883
State 8,722 9,451 8,737
Foreign 15,254 12,082 6,073
----------------------------------------------
58,736 59,628 54,693
----------------------------------------------
Deferred:
Federal 8,708 2,939 7,817
State 643 712 651
Foreign (913) - -
----------------------------------------------
8,438 3,651 8,468
----------------------------------------------
Provision for income taxes $67,174 $63,279 $63,161
==============================================
The current provision includes taxes on the gains on the sale of
securities of $528,600, $157,600 and $335,700 for 1997, 1996 and
1995, respectively.
Deferred income taxes reflect the net tax effects of temporary
differences between the carrying amounts of assets and liabilities
for financial reporting purposes and the amounts used for income
tax purposes. Significant components of the Bank's deferred tax
liabilities and assets as of December 31, 1997, 1996 and 1995
reclassified based on the tax returns of its parent as filed, are
as follows:
1997 1996 1995
---------------------------------------------
(In Thousands)
Deferred tax liabilities
Lease transactions $187,566 $181,852 $181,377
Deferred investment tax credits 5,620 6,003 6,851
Accelerated depreciation 906 1,395 1,361
---------------------------------------------
Total deferred tax liabilities 194,092 189,250 189,589
---------------------------------------------
Deferred tax assets
Allowance for loan losses 49,644 52,046 50,850
Accrued postretirement benefits 8,741 7,276 6,343
Accrued pension cost 3,541 3,969 4,507
Securities valuation reserve (3,488) (1,154) (6,693)
Others, net 969 (355) 4,288
---------------------------------------------
Total deferred tax assets 59,407 61,782 59,295
---------------------------------------------
Net deferred tax liabilities $134,685 $127,468 $130,294
==============================================
For financial statement purposes, the Bank's parent had deferred
investment tax credits for property purchased for lease to
customers of $5,620,000, $6,003,000 and $6,851,000, at December 31,
1997, 1996 and 1995, respectively. In 1997, 1996 and 1995,
investment tax credits included in the computation of the provision
were $383,000, $848,000 and $467,000, respectively.
The following analysis reconciles the federal statutory income tax
rate to the effective consolidated income tax rate:
1997 1996 1995
-------------------------------------------
Statutory federal income tax rate 35.0% 35.0% 35.0%
Increase (decrease) in tax rate resulting
from:
State taxes, net of federal income tax and
foreign tax adjustments 3.2 3.6 3.7
Tax-exempt interest income (0.2) (0.3) (0.6)
Low income housing and investment
tax credits (4.3) (3.1) (0.8)
Other 1.8 (0.6) 0.5
-------------------------------------------
Effective tax rate 35.5% 34.6% 37.8%
===========================================
13. Financial Instruments with Off-Balance Sheet Risk
The Bank is a party to financial instruments with off-balance sheet
risk in the normal course of business to meet the financing needs
of its customers and to manage its own exposure to fluctuations in
interest and foreign exchange rates. These financial instruments
include commitments to extend credit, standby letters of credit,
foreign exchange contracts, interest rate swaps and interest rate
option swaps. To varying degrees, these instruments involve,
elements of credit foreign exchange contracts, and interest rate
risk in excess of the amount recognized in the statements of
condition. The contract or notional amounts of these instruments
reflect the extent of involvement that the Bank has in each class
of financial instruments. The FASB has categorized certain of these
off-balance sheet financial instruments that include foreign
exchange contracts and interest rate swaps as derivative financial
instruments. FASB has further categorized these derivative
financial instruments into "held or issued for purposes other than
trading" or "trading."
The Bank's exposure to off-balance sheet credit risk is defined as
the possibility of sustaining a loss due to the failure of the
counterparty to perform in accordance with the terms of the
contract. Credit risks associated with off-balance sheet financial
instruments are similar to those relating to on-balance sheet
financial instruments. The Bank manages off-balance sheet credit
risk with the same standards and procedures applied to its
commercial lending activity.
Traditional Off-Balance Sheet Risk Instruments
Commitments to extend credit are agreements to lend to a customer
as long as there is no violation of the terms or conditions
established in the contract. Commitments generally have fixed
expiration dates or other termination clauses and may require
payment of a fee. Since commitments may expire without being drawn,
the total commitment amount do not necessarily represent future
cash requirements. The Bank evaluates each customer's credit
worthiness on an individual basis. The amount of collateral
obtained is based on management's credit evaluation of the
customer. The type of collateral varies, but may include cash,
accounts receivable, inventory, and property, plant, and equipment.
Standby letters of credit are conditional commitments issued by the
Bank to guarantee the performance of a customer to a third party.
These guarantees are primarily issued to support borrowing
agreements. The credit risk involved in issuing letters of credit
is essentially the same as that involved in extending loan
facilities to customers. The Bank holds cash and deposits as
collateral supporting those commitments for which collateral is
deemed necessary.
Derivative Financial Instruments Held For Trading
Foreign exchange contracts are contracts for delayed delivery of
foreign currency in which the seller agrees to make delivery at a
specified future date at a specified price. Risks arise from the
possible inability of counterparties to meet the terms of their
contracts and from movements in currency rate. Collateral is
generally not required for these transactions.
At December 31, 1997, the notional amount of foreign exchange
contracts held for trading totaled $427.6 million, with a fair
value $(6.8) million. The Bank uses foreign exchange contracts to
offset foreign currency positions taken on behalf of its customers
and for its own account. The Bank does not maintain significant net
open positions in its foreign exchange trading account.
Derivative Financial Instruments Held or Issued for Other Than
Trading
At December 31, 1997 the notional amount of foreign exchange
contracts held for other than trading totaled $406.0 million with
a fair value of $15.7 million. The Bank uses these foreign exchange
contracts primarily for asset and liability management activities.
The Bank does not maintain significant net open foreign exchange
positions in its other than trading account.
Interest rate options, which primarily consist of caps and floors,
are interest rate protection instruments that involve the
obligation of the seller to pay the buyer an interest rate
differential in exchange for a premium paid by the buyer. This
differential represents the difference between current interest
rates and an agreed-upon rate applied to a notional amount.
Exposure to loss on these options will increase or decrease over
their respective lives as interest rates fluctuate. The Bank
transacts interest rate options on behalf of its customers and does
not maintain significant open positions.
The Bank utilizes interest-rates swaps in managing its exposure to
interest-rate risk. These financial instruments require the
exchange of fixed and floating rate interest payments based on the
notional amount of the contract for a specified period. The Bank
has used swap agreements to effectively convert portions of its
floating rate loan portfolio to fixed rate. At December 31, 1997,
$492.5 million of such "receive-fixed" swaps were in effect. During
the year the Bank also entered into several "pay-fixed" swaps
totaling $70.0 million to effectively convert the variable loan
portfolios of other affiliated subsidiaries of Pacific Century to
receive fixed rate.
The Bank's current credit risk exposure on interest-rate swaps is
equal to the market value of these instruments plus or minus the
market value of any collateral exchanged with swap counterparties.
The aggregate credit risk of swaps at year-end 1997 was $1.6
million. At December 31, 1997 the market value of all positions was
$(2.4) million compared with $(7.7) million at year-end 1996. Net
expense on interest rate swap agreements totaled $(2.5) million,
$(4.2) million and $(11.7) million for 1997, 1996 and 1995,
respectively.
The table below summarizes by notional amounts the activity for
each major category of interest-rate swaps in 1997. The Bank had no
deferred gains or losses relating to terminated swap contracts in
1997.
(in Thousands) Receive Fixed Pay Fixed
- ---------------------------------------------------------------------------------------------------------------
Balance, December 31, 1994 $1,472,050 $119,297
Maturities/Amortizations (376,814) (100,524)
-------------------------------
Balance, December 31, 1995 1,095,236 18,773
Maturities/Amortizations (421,999) (18,773)
-------------------------------
Balance, December 31, 1996 673,237 -
Additions 50,000 70,000
Maturities/Amortizations (230,688) -
-------------------------------
Balance, December 31, 1997 $492,549 $70,000
===============================
The approximate annual maturities of interest-rate swap agreements
outstanding as of December 31, 1997 were:
Notional Principal Expected to Mature in
----------------------------------------
(In Thousands) 1998 1999 Total
Receive-fixed rate swaps:
Fixed maturity $100,000 $50,000 $150,000
Pay rate 5.72% - -
Receive rate 5.97% 6.46% -
Amortizing (a) $248,179 $94,370 $342,549
Pay rate 5.81% - -
Receive rate 5.21% 5.30% -
(a) Amortization estimated utilizing average prepayment speeds provided by various dealers in these
instruments.
In 1997 the Bank entered into three "pay-fixed interest rate swaps"
on behalf of its affiliate banks. One $10.0 million swap matures
in 1998 and the Bank's pay rate is 5.99% and receive rate is the
three month LIBOR rate. Two other "pay-fixed" swaps totaling $60.0
million mature in 1999 and pay a weighted average rate of 6.41%
while receiving interest at the three month LIBOR rate.
14. Fair Values of Financial Instruments
Fair value information about financial instruments, whether or not
recognized in the balance sheet are as follows. When possible, fair
values are measured based on quoted market prices for the same or
comparable instruments. Because many of the Bank's financial
instruments lack an available market price, management must use
its best judgment in estimating the fair value of those instruments
based on present value or other valuation techniques. Such
techniques are significantly affected by estimates and assumptions,
including the discount rate, future cash flows, economic
conditions, risk characteristics, and other relevant factors. These
estimates are subjective in nature and involve uncertain
assumptions and, therefore, cannot be determined with precision.
Many of the derived fair value estimates cannot be substantiated by
comparison to independent markets and could not be realized in
immediate settlement of the instrument. Certain financial
instruments and all non-financial instruments are excluded from
disclosure requirements. Accordingly, the aggregate fair value
amounts presented do not represent the underlying value of the
Bank.
The following methods and assumptions were used by the Bank in
estimating fair values of financial instruments:
Cash and Cash Equivalents
The carrying amounts reported in the balance sheet for cash and
short-term investments approximate the fair value of these
assets.
Investment Securities Held to Maturity, Investment Securities
Available for Sale and Trading Securities
Fair values for investment securities are based on quoted
market prices, when available. If quoted market prices are not
available, fair values are based on quoted market prices of
comparable instruments.
Loans
Fair values of loans are determined by discounting the expected
future cash flows of pools of loans with similar
characteristics. Loans are first segregated by type such as
commercial, real estate, consumer, and foreign and are then
further segmented into fixed and adjustable rate and loan
quality categories. Expected future cash flows are projected
based on contractual cash flows, adjusted for estimated
prepayments.
Deposit Liabilities
Fair values for non-interest bearing and interest bearing
demand deposits and savings are equal to the amount payable on
demand (i.e., their carrying amounts) because the products have
no stated maturity. Fair values for time deposits are estimated
using discounted cash flow analyses. The discount rates used
are based on rates currently offered for deposits with similar
remaining maturities.
Short-Term Borrowings
The carrying amounts of funds purchased, securities sold under
agreements to repurchase, and other short-term borrowings
approximate their fair values.
Long-Term Debt
Fair values for long-term debt are estimated using discounted
cash flow analyses, based on the Bank's current incremental
borrowing rates for similar types of borrowings.
Off-Balance Sheet Instruments
Fair values for off-balance sheet instruments (e.g.,
commitments to extend credit, standby letters of credit,
commercial letters of credit, foreign exchange and swap
contracts, and interest rate swap agreements) are based on fees
currently charged to enter into similar agreements, taking into
account the remaining terms of the agreements and the
counterparties' credit standing, current settlement values, or
quoted market prices of comparable instruments.
The following table presents the fair values of Bank of Hawaii's
financial instruments at December 31, 1997, 1996 and 1995.
1997 1996 1995
-------------------------------------------------------------------
Book or Book or Book or
Notional Notional Notional
Value Fair Value Value Fair Value Value Fair Value
-------------------------------------------------------------------
(In Thousands)
Financial Instruments - Assets
Loans (a) $6,916,200 $7,089,100 $6,741,000 $6,913,800 $6,342,400 $6,570,100
Investment securities (b) 3,483,700 3,442,500 3,459,900 3,460,000 3,262,200 3,267,700
Other financial assets (c) 415,600 415,600 754,700 754,700 889,100 889,100
Financial Instruments - Liabilities
Deposits 7,649,900 7,691,000 7,775,600 7,764,000 6,748,100 6,802,000
Short-term borrowings (d) 3,423,500 3,423,500 3,007,000 3,007,000 3,076,300 3,076,300
Long-term debt (e) 217,700 218,900 499,100 450,700 798,900 792,500
Financial Instruments - Off-Balance Sheet
Financial instruments whose contract amounts represent credit risk:
Commitments to
extend credit 4,122,300 10,700 3,840,200 10,200 3,615,200 9,600
Standby letters of
credit 258,700 5,000 259,700 4,900 224,400 4,200
Commercial letters of
credit 299,500 400 239,700 400 244,800 400
Financial instruments whose notional or contract amounts exceed the amount of
credit risk:
Foreign exchange
and swap contracts 833,600 8,900 631,300 900 510,800 1,200
Interest rate swap
agreements 562,500 (2,400) 673,200 (7,700) 1,114,000 (8,300)
(a) Includes all loans, net of reserve for loan losses, and excludes leases.
(b) Includes both held to maturity and available for sale securities.
(c) Includes interest-bearing deposits, funds sold, and trading securities.
(d) Includes securities sold under agreements to repurchase, funds purchased and
short-term borrowings.
(e) Excludes capitalized lease obligations.
15. Related Parties and Related Party Transactions
Included in deposits (foreign, demand non-interest bearing, and
demand interest bearing) are deposits from its parent and various
affiliates (subsidiaries of its parent), totaling $172,097,000 and
$10,557,000, respectively. Interest paid on these deposits totaled
$9,739,000 in 1997. The Bank paid insurance premiums of $2,954,000
to Pacific Century Insurance Services, an affiliate, in 1997.
Certain directors and executive officers of the Bank, its
subsidiary companies, companies in which they are principal owners,
and trusts and estates in which they are involved, were loan
customers during 1997, 1996 and 1995. These loans were made in the
ordinary course of business at the Bank's normal credit terms,
including interest rate and collateral requirements. Such loans at
December 31, 1997, 1996 and 1995 amounted to $21,383,000,
$19,069,000 and $29,869,000, respectively. During 1997, the
activity in these loans included new borrowings of $21,958,000 and
repayments of $23,636,000 and other adjustments of $3,992,000
relating to the changes in directors and the companies and trusts
in which they are involved.
16. Subsequent Event (Unaudited)
On February 17, 1998, Pacific Century unveiled a comprehensive two-
year reorganization and restructuring program to accelerate expense
reduction and improve efficiency. The program will see the merger
of First Federal Savings and Loan Association of America (First
Federal) with the Bank, the closing of approximately 25 branches in
the State of Hawaii, and a comprehensive customer-focused redesign
process to begin in 1999. At present, the timing of these changes
and their related cost and expenses (including intangibles) have
not been determined.
In the near term, the plan calls for First Federal, which was
acquired by Pacific Century in 1990, to be merged with the Bank
(pending regulatory approval). First Federal branches will be
consolidated into the Bank network, and up to 25 branches in Hawaii
(approximately 25% of the combined First Federal and the Bank
total) will be closed over the next two years. Customer accounts
will be consolidated into the Bank's remaining 75 branches
throughout the state.
Pacific Century's restructuring program will culminate in 1999 with
a comprehensive nine-month redesign process that will put the
company on track to met its financial goals. Pacific Century has
contracted with a nationally recognized corporate redesign
specialist, to aid in this activity.
17. Year 2000 Issues (Unaudited)
The Bank is currently in the process of addressing Year 2000 issues
that arise from past date coding practices in both computer
software and hardware that used only the last two digits to
identify the year. If not corrected, these systems will be unable
to correctly distinguish the date in the Year 2000.
The Bank is included in Pacific Century's consolidated Year 2000
project plan, which is designed to identify, assess, and resolve
Year 2000 issues. Pacific Century currently estimates the cost to
achieve Year 2000 compliance to be approximately $30 million.
Additional information regarding the consolidated Year 2000 project
is disclosed in Pacific Century's 1997 Annual Report to
shareholders.
