ANNUAL REPORT

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-K

 


 

Annual Report Pursuant to Section 13 or 15(d)

of the Securities Exchange Act of 1934

 

For the fiscal year ended:

 

December 31, 2002

 

Commission File Number: 1-10853

 

BB&T CORPORATION

(Exact name of Registrant as specified in its Charter)

 

North Carolina

 

56-0939887

(State of Incorporation)

 

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

200 West Second Street

   

Winston-Salem, North Carolina

 

27101

(Address of principal executive offices)

 

(Zip Code)

 

(336) 733-2000

(Registrant's telephone number, including area code)

 


 

Securities Registered Pursuant to Section 12(b) of the Securities Exchange Act of 1934:

 

Title of each class


 

Name of each exchange

on which registered


Common Stock, $5 par value

 

New York Stock Exchange

Share Purchase Rights

 

New York Stock Exchange

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by references in Part III of this Form 10-K or any amendment to this Form 10-K.  ¨

 

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  YES x  NO ¨

 

Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). YES x  NO ¨

 

The aggregate market value of the voting stock held by non-affiliates of the Registrant at June 30, 2002, was approximately $18.2 billion. The number of shares of the Registrant's Common Stock outstanding on January 31, 2003, was 470,949,530. No shares of preferred stock were outstanding at January 31, 2003.

 

Portions of the Proxy Statement of the Registrant for the Annual Meeting of Shareholders to be held on April 22, 2003, are incorporated by reference in Part III of this report.

 

The Exhibit Index begins on page 114.

 


 



CROSS REFERENCE INDEX

 

              

Page


PART I

  

Item 1

  

Business

  

4

    

Item 2

  

Properties

  

16, 74

    

Item 3

  

Legal Proceedings

  

92

    

Item 4


  

Submission of Matters to a Vote of Shareholders

 

None.

    

PART II

  

Item 5

  

Market for the Registrant’s Common Stock and Related Shareholder Matters

  

48

    

Item 6

  

Selected Financial Data

  

51

    

Item 7

  

Management’s Discussion and Analysis of Financial Condition and Results of Operations

  

22

    

Item 7A

  

Quantitative and Qualitative Disclosures About Market Risk

  

40

    

Item 8

  

Financial Statements and Supplementary Data

    
         

Consolidated Balance Sheets at December 31, 2002 and 2001

  

56

         

Consolidated Statements of Income for each of the years in the three-year period ended December 31, 2002

  

57

         

Consolidated Statements of Changes in Shareholders’ Equity for each of the years in the three-year period ended December 31, 2002

  

58

         

Consolidated Statements of Cash Flows for each of the years in the three-year period ended December 31, 2002

  

59

         

Notes to Consolidated Financial Statements

  

60

         

Reports of Independent Public Accountants

  

54, 55

         

Quarterly Financial Summary for 2002 and 2001

  

50

    

Item 9


  

Changes in and Disagreements with Accountants on Accounting and Financial Disclosures.

 

None.

    

PART III

  

Item 10

  

Directors and Executive Officers of the Registrant

  

*, 16

    

Item 11

  

Executive Compensation

  

*

    

Item 12

  

Security Ownership of Certain Beneficial Owners and Management

  

*

    

Item 13

  

Certain Relationships and Related Transactions

  

*

    

Item 14

  

Controls and Procedures

  

108

PART IV

  

Item 15

  

Exhibits, Financial Statement Schedules and Reports on Form 8-K

  

114

         

Signatures

  

109

         

Certification of Chief Executive Officer

  

112

         

Certification of Chief Financial Officer

  

113

 

2


 

  (a)   See Item 8

 

  (b)   Current Reports on Form 8-K filed during the fourth quarter of 2002.

 

Type


  

Date Filed


  

Reporting Purpose


Item 9.

  

October 3, 2002

  

To announce the signing of a definitive agreement to acquire FloridaFirst Bancorp, Inc. of Lakeland, Florida

Item 9.

  

October 11, 2002

  

To announce BB&T’s third quarter earnings.

Item 5.

  

October 31, 2002

  

To announce that the merger agreement between BB&T and FloridaFirst Bancorp had been terminated.

 

  (c)   Exhibits—See Item 15

 

  (d)   Financial Statement Schedules—See Item 15

 

   *   The information required by Item 10 is incorporated herein by reference to the information that appears under the headings “Election of Directors” and “Section 16(a) Beneficial Ownership Reporting Compliance” in the Registrant’s Proxy Statement for the 2003 Annual Meeting of Shareholders.

 

The information required by Item 11 is incorporated herein by reference to the information that appears under the headings “Compensation of Executive Officers”, “Retirement Plans” and “Compensation Committee Report on Executive Compensation” in the Registrant’s Proxy Statement for the 2003 Annual Meeting of Shareholders.

 

The information required by Item 12 is incorporated herein by reference to the information that appears under the headings “Security Ownership” and “Section 16(a) Beneficial Ownership Reporting Compliance” in the Registrant’s Proxy Statement for the 2003 Annual Meeting of Shareholders.

 

The information required by Item 13 is incorporated herein by reference to the information that appears under the headings “Compensation Committee Interlocks and Insider Participation” and “Transactions with Executive Officers and Directors” in the Registrant’s Proxy Statement for the 2003 Annual Meeting of Shareholders.

 

3


DESCRIPTION OF BUSINESS

 

General

 

BB&T Corporation (“BB&T” or “the Corporation”) is a financial holding company headquartered in Winston-Salem, North Carolina. BB&T conducts its business operations primarily through its banking subsidiaries, which have offices in North Carolina, South Carolina, Virginia, Maryland, Georgia, West Virginia, Tennessee, Kentucky, Alabama, Florida, Indiana and the metropolitan Washington, D.C. area.

 

Forward-Looking Statements

 

This report contains forward-looking statements with respect to the financial condition, results of operations and business of BB&T. These forward-looking statements involve risks and uncertainties and are based on the beliefs and assumptions of the management of BB&T, and on the information available to management at the time that these disclosures were prepared. Factors that may cause actual results to differ materially from those contemplated by such forward-looking statements include, among others, the following possibilities: (1) competitive pressures among depository and other financial institutions may increase significantly; (2) changes in the interest rate environment may reduce net interest margins and/or the volumes and values of loans made or held as well as the value of other financial assets held; (3) general economic or business conditions, either nationally or regionally, may be less favorable than expected, resulting in, among other things, a deterioration in credit quality and/or a reduced demand for credit or other services; (4) legislative or regulatory changes, including changes in accounting standards, may adversely affect the businesses in which BB&T is engaged; (5) costs or difficulties related to the integration of the businesses of BB&T and its merger partners may be greater than expected; (6) expected cost savings associated with pending or recently completed mergers may not be fully realized or realized within the expected time frame; (7) deposit attrition, customer loss or revenue loss following pending or recently completed mergers may be greater than expected; (8) competitors of BB&T may have greater financial resources and develop products that enable such competitors to compete more successfully than BB&T; and (9) adverse changes may occur in the securities markets.

 

Significant Subsidiaries

 

At December 31, 2002, the principal assets of BB&T included all of the outstanding shares of common stock of:

 

  ·   Branch Banking and Trust Company, Winston-Salem, North Carolina;

 

  ·   Branch Banking and Trust Company of South Carolina, Greenville, South Carolina;

 

  ·   Branch Banking and Trust Company of Virginia, Richmond, Virginia;

 

  ·   Regional Acceptance Corporation, Greenville, North Carolina;

 

  ·   Scott & Stringfellow, Inc., Richmond, Virginia;

 

  ·   MidAmerica Gift Certificate Company, Louisville, Kentucky;

 

  ·   Sheffield Financial LLC, Clemmons, North Carolina; and

 

  ·   BB&T Factors Corporation, High Point, North Carolina.

 

4


 

Branch Banking and Trust Company (“Branch Bank”), BB&T’s largest subsidiary, was chartered in 1872 and is the oldest bank headquartered in North Carolina. The following table reflects BB&T’s deposit market share and branch locations by state at December 31, 2002.

 

Table 1

BB&T Deposit Market Share and Branch Locations by State

December 31, 2002

 

      

% of BB&T’s Deposits


    

Deposit Market Share Rank


    

Number of Branches


North Carolina *

    

32 

%

  

2nd

    

335

Virginia

    

19

 

  

4th

    

241

Georgia

    

11

 

  

6th

    

117

Kentucky

    

8

 

  

3rd

    

105

South Carolina

    

10

 

  

3rd

    

94

West Virginia

    

9

 

  

1st

    

88

Maryland

    

7

 

  

6th

    

76

Tennessee

    

2

 

  

12th

    

38

Florida

    

1

 

  

33rd

    

18

Washington, D.C.

    

1

 

  

6th

    

7


  *   Excludes home office deposits
      Source:   SNL Financial

 

In addition to the markets described in the table above, BB&T operated two branches in Alabama and one branch in Indiana. After the completion of pending acquisitions with Equitable Bank and First Virginia Banks, Inc., BB&T will operate 539 branches in Virginia, 136 branches in Maryland and 49 branches in Tennessee, and increase its deposits market share rank to 2nd, 10th, and 4th in Virginia, Tennessee and the Washington D.C. area, respectively. BB&T’s presence and deposit market share in other states listed in the table above will not change as a result of these pending acquisitions.

 

Branch Bank’s principal subsidiaries include BB&T Leasing Corp., based in Charlotte, North Carolina, which provides lease financing to commercial businesses; BB&T Investment Services, Inc., located in Charlotte, North Carolina, which offers nondeposit investment alternatives, including fixed-rate and variable-rate annuities, mutual funds and discount brokerage services; BB&T Insurance Services, Inc., headquartered in Raleigh, North Carolina, which was the 10th largest retail insurance broker in the country at December 31, 2002, and offers property and casualty, life, employee benefits, surety, title, and other insurance products through its 71 agencies in 8 states; and Stanley, Hunt, DuPree & Rhine Inc., with dual headquarters in Greensboro, North Carolina and Greenville, South Carolina, which offers group medical plans, insurance and investment consulting, and actuarial services.

 

Branch Bank has a number of additional subsidiaries including but not limited to the following: Prime Rate Premium Finance Corporation, Inc. (“Prime Rate”), located in Florence, South Carolina, which provides insurance premium financing primarily to clients in BB&T’s principal market area; Laureate Capital Corp. (“Laureate”), located in Charlotte, North Carolina, which principally specializes in arranging and servicing commercial mortgage loans; Lendmark Financial Services, Inc. (“Lendmark”), located in Conyers, Georgia, which offers alternative consumer and mortgage loans to clients unable to meet BB&T’s normal consumer and mortgage loan guidelines; and Cooney Rikard & Curtin Inc. (“CRC”), based in Birmingham, Alabama, which was the 4th largest wholesale insurance broker in the country with 14 offices and representation in 47 states at December 31, 2002.

 

Branch Banking and Trust Company of South Carolina (“BB&T-SC”) operated 94 banking offices at December 31, 2002. BB&T-SC is the third largest bank in South Carolina in terms of deposit market share.

 

Branch Banking and Trust Company of Virginia (“BB&T-VA”) operated 241 banking offices in Virginia at December 31, 2002. BB&T-VA is the fourth largest bank in Virginia in terms of deposit market share.

 

5


 

Scott & Stringfellow, Inc. (“Scott & Stringfellow”) is an investment banking and full-service brokerage firm located in Richmond, Virginia. At December 31, 2002, Scott & Stringfellow operated 23 full-service retail brokerage offices in Virginia, 12 in North Carolina, and 7 in South Carolina. Scott & Stringfellow specializes in the origination, trading and distribution of fixed-income securities and equity products in both the public and private capital markets. Scott & Stringfellow also has a public finance department that provides investment banking, financial advisory services, and debt underwriting services to a variety of regional tax-exempt issuers.

 

The primary services offered by BB&T’s subsidiaries include:

 

  ·   small business lending

 

  ·   commercial middle market lending

 

  ·   real estate lending

 

  ·   retail lending

 

  ·   home equity lending

 

  ·   sales finance

 

  ·   mortgage lending

 

  ·   leasing

 

  ·   asset management

 

  ·   trust services

 

  ·   agency insurance

 

  ·   wholesale insurance brokerage

 

  ·   treasury services

 

  ·   investment brokerage services

 

  ·   capital markets services

 

  ·   factoring

 

  ·   asset-based lending

 

  ·   international banking services

 

  ·   cash management

 

  ·   electronic payment services

 

  ·   credit and debit card services

 

  ·   consumer finance

 

  ·   payroll processing

 

  ·   gift certificate services

 

6


The following table discloses selected financial information related to BB&T’s significant banking subsidiaries. Additionally, please see Note 20 in the “Notes to Consolidated Financial Statements” for further discussion relating to BB&T’s reportable business segments.

 

Table 2

Selected Financial Data of Significant Banking Subsidiaries

(Dollars in thousands)

 

    

As of / For the Year Ended

December 31, 2002


    

Branch Bank


  

BB&T-SC


  

BB&T-VA


Total assets

  

$

65,629,555

  

$

6,279,959

  

$

11,797,675

Securities

  

 

13,679,859

  

 

127,567

  

 

3,287,671

Loans and leases, net of unearned income (1)

  

 

43,659,450

  

 

5,303,769

  

 

7,394,505

Deposits

  

 

39,486,381

  

 

4,372,746

  

 

9,053,880

Shareholder’s equity

  

 

6,462,209

  

 

542,184

  

 

1,017,837

Net interest income

  

 

2,151,764

  

 

191,355

  

 

329,163

Provision for loan and lease losses

  

 

173,322

  

 

34,925

  

 

9,463

Noninterest income

  

 

1,446,179

  

 

93,646

  

 

139,253

Noninterest expense

  

 

1,925,328

  

 

147,560

  

 

291,387

Net income

  

 

1,107,470

  

 

65,874

  

 

110,831

    

As of / For the Year Ended

December 31, 2001


    

Branch Bank


  

BB&T-SC


  

BB&T-VA


Total assets

  

$

54,887,883

  

$

6,294,110

  

$

10,945,076

Securities

  

 

13,226,304

  

 

232,304

  

 

2,711,756

Loans and leases, net of unearned income (1)

  

 

36,384,003

  

 

4,723,568

  

 

6,165,161

Deposits

  

 

32,900,901

  

 

4,569,321

  

 

8,297,098

Shareholder’s equity

  

 

4,939,604

  

 

504,439

  

 

1,009,316

Net interest income

  

 

1,821,086

  

 

211,839

  

 

335,451

Provision for loan and lease losses

  

 

138,533

  

 

21,666

  

 

33,933

Noninterest income

  

 

1,164,030

  

 

81,792

  

 

147,343

Noninterest expense

  

 

1,691,672

  

 

151,143

  

 

370,451

Net income

  

 

811,182

  

 

80,759

  

 

48,889

    

As of / For the Year Ended

December 31, 2000


    

Branch Bank


  

BB&T-SC


  

BB&T-VA


Total assets

  

$

50,094,076

  

$

5,249,100

  

$

9,785,950

Securities

  

 

13,132,843

  

 

389,331

  

 

1,696,508

Loans and leases, net of unearned income (1)

  

 

32,603,764

  

 

4,008,789

  

 

6,018,130

Deposits

  

 

30,966,539

  

 

3,952,819

  

 

7,827,976

Shareholder’s equity

  

 

4,033,970

  

 

378,740

  

 

913,019

Net interest income

  

 

1,515,718

  

 

230,877

  

 

369,419

Provision for loan and lease losses

  

 

85,852

  

 

12,554

  

 

16,414

Noninterest income

  

 

653,004

  

 

55,306

  

 

73,968

Noninterest expense

  

 

1,391,964

  

 

125,123

  

 

288,042

Net income

  

 

484,347

  

 

95,175

  

 

88,844


(1)   Includes loans held for sale.

 

7


 

Merger Strategy

 

BB&T’s growth in business, profitability and market share over the past several years has been enhanced significantly by mergers and acquisitions. BB&T’s acquisition strategy is focused on three primary objectives:

 

  ·   to pursue acquisitions of banks and thrifts in the Carolinas, Virginia, Maryland, Washington D.C., Georgia, West Virginia, Tennessee, Kentucky, Ohio and Florida, generally with assets in the $250 million to $10 billion range,

 

  ·   to acquire companies in niche markets that provide products or services that can be offered through the existing distribution system to BB&T’s current customer base, and

 

  ·   to consider strategic acquisitions in new markets that are economically feasible and provide positive long-term benefits.

 

BB&T has consummated acquisitions of 56 community banks and thrifts, 60 insurance agencies and 21 non-bank financial services providers over the last fifteen years. BB&T expects, in the long-term, to continue to take advantage of the consolidation in the financial services industry and expand and enhance its franchise through mergers and acquisitions. The consideration paid for these acquisitions may be in the form of cash, debt or BB&T stock. The amount of consideration paid to complete these transactions may be in excess of the book value of the underlying net assets acquired, which could have a dilutive effect on BB&T’s earnings per share or book value. In addition, acquisitions often result in significant front-end charges against earnings; however, cost savings and revenue enhancements, especially incident to in-market bank and thrift acquisitions, are also typically anticipated.

 

Competition

 

The financial services industry is highly competitive and dramatic change continues to occur. BB&T’s subsidiaries compete actively with national, regional and local financial services providers, including banks, thrifts, securities dealers, mortgage bankers, finance companies and insurance companies. Competition among providers of financial products and services continues to increase with consumers having the opportunity to select from a growing variety of traditional and nontraditional alternatives. The industry continues to rapidly consolidate, which affects competition by eliminating some regional and local institutions, while strengthening the franchise of acquirers. For additional information concerning markets, BB&T’s competitive position and business strategies, see “Market Area” and “Lending Activities” below.

 

Market Area

 

BB&T’s primary market area consists of North and South Carolina, Virginia, Maryland, Georgia, eastern Tennessee, West Virginia, Kentucky, northern Florida and Washington, D.C. The area’s employment base is diverse and primarily consists of manufacturing, general services, agricultural, wholesale/retail trade, technology and financial services. BB&T believes its current market area is economically stable and will support consistent growth in assets and deposits in the future. Even so, management intends to continue expanding and diversifying the BB&T franchise. Management strongly believes that BB&T’s community bank approach to providing client service is a competitive advantage, which strengthens the Corporation’s ability to enter new markets and effectively provide financial products and services to businesses and individuals in these markets.

 

Lending Activities

 

The primary goal of the BB&T lending function is to help clients achieve their financial goals by providing quality loans that are fair to the clients and profitable to the Corporation. This purpose can best be accomplished by building strong, profitable client relationships over time, with BB&T becoming an important contributor to the prosperity and well being of its clients. BB&T’s philosophy of lending is to attempt to meet the business and consumer credit needs within defined market segments where standards of profitability, client relationships and credit quality can be met. Based on internal analyses, this philosophy has resulted in BB&T’s loan portfolio consistently outperforming the average of a group of BB&T’s peer banks in terms of asset quality, portfolio yield and rate of growth.

 

 

8


BB&T focuses lending efforts on small to intermediate commercial and industrial loans, one-to-four family residential mortgage loans and consumer loans. Typically, fixed-rate conforming residential mortgage loans are sold in the secondary mortgage market and adjustable-rate residential mortgages are generally retained in the portfolio. Servicing rights on mortgage loans sold are typically retained by BB&T. As of December 31, 2002, BB&T’s total residential mortgage servicing portfolio was approximately $34.8 billion. BB&T conducts the majority of its lending activities in the context of the Corporation’s community bank operating model, with lending decisions made as close to the client as practicable.

 

The following table summarizes BB&T’s loan portfolio based on the underlying collateral, rather than the primary purpose of the loan.

 

Table 3

Composition of Loan and Lease Portfolio

 

    

December 31,


 
    

2002


    

2001


    

2000


    

1999


    

1998


 
    

(Dollars in thousands)

 

Commercial, financial and agricultural loans

  

$

7,061,493

 

  

$

6,551,073

 

  

$

6,555,578

 

  

$

6,025,337

 

  

$

5,675,978

 

Lease receivables

  

 

5,156,307

 

  

 

5,012,110

 

  

 

4,453,598

 

  

 

2,606,002

 

  

 

1,620,326

 

Real estate—construction and land development loans

  

 

5,291,719

 

  

 

5,334,108

 

  

 

4,264,275

 

  

 

4,227,146

 

  

 

3,288,411

 

Real estate—mortgage loans

  

 

30,023,470

 

  

 

25,542,288

 

  

 

25,239,698

 

  

 

22,712,509

 

  

 

20,574,669

 

Consumer loans

  

 

6,412,563

 

  

 

5,965,010

 

  

 

5,891,059

 

  

 

5,091,840

 

  

 

4,505,704

 

    


  


  


  


  


Total loans and leases held for investment

  

 

53,945,552

 

  

 

48,404,589

 

  

 

46,404,208

 

  

 

40,662,834

 

  

 

35,665,088

 

Loans held for sale

  

 

2,377,707

 

  

 

1,907,416

 

  

 

906,244

 

  

 

390,338

 

  

 

1,375,135

 

    


  


  


  


  


Total loans and leases

  

 

56,323,259

 

  

 

50,312,005

 

  

 

47,310,452

 

  

 

41,053,172

 

  

 

37,040,223

 

Less: unearned income

  

 

(2,805,246

)

  

 

(2,868,832

)

  

 

(2,483,377

)

  

 

(1,250,129

)

  

 

(746,031

)

    


  


  


  


  


Net loans and leases

  

$

53,518,013

 

  

$

47,443,173

 

  

$

44,827,075

 

  

$

39,803,043

 

  

$

36,294,192

 

    


  


  


  


  


 

Mortgage Banking

 

Branch Bank is a large originator of residential mortgage loans, with originations in 2002 of $14.1 billion. Branch Bank offers various types of fixed- and adjustable-rate loans for the purpose of constructing, purchasing or refinancing owner-occupied properties. Risks associated with the residential lending function include interest rate risk, which is mitigated through the sale of substantially all conforming fixed-rate loans, and default risk by the borrower, which is lessened through underwriting procedures and mortgage insurance. Branch Bank also purchases residential mortgage loans from more than 100 correspondent originators. The loans purchased from third-party originators are subject to the same underwriting and risk management criteria as loans originated internally.

 

Laureate Capital, a wholly owned subsidiary of Branch Bank, provides commercial mortgage banking services that include arranging and servicing permanent commercial mortgage loans for third party investors.

 

Commercial Lending

 

BB&T’s commercial lending program is generally targeted to serve small-to-middle market businesses with sales of $200 million or less. The bank also makes loans to larger corporate customers where requirements of quality, profitability and relationship are met. Commercial lending includes commercial, financial, agricultural, industrial and real estate loans. Pricing on commercial loans is usually tied to market indexes, such as the prime rate and the London Interbank Offered Rate (“LIBOR”). For the fifth consecutive year, BB&T received recognition from the U.S. Small Business Administration as one of the top two “small business friendly” banks in the United States. Management believes that commercial lending to small and mid-sized businesses is among BB&T’s strongest markets.

 

9


 

Construction Lending

 

Real estate construction loans include construction / permanent loans, which are intended to convert to permanent one-to-four family residential mortgage loans upon completion of the construction and loans to builders and developers of residential properties. BB&T is also a commercial construction lender. Loans for commercial construction are usually granted to in-market developers, businesses, individuals or real estate investors for the construction of commercial structures in BB&T’s market area. They are made for purposes including, but not limited to, the construction of industrial facilities, apartments, shopping centers, office buildings, hotels and warehouses. The properties may be constructed for sale, lease or owner-occupancy.

 

Consumer Lending

 

BB&T offers a wide variety of consumer loan products. Various types of secured and unsecured loans are marketed to qualifying, existing clients and to other creditworthy candidates in BB&T’s market area. Home equity loans and lines are underwritten with note amounts and credit limits that ensure consistency with the Corporation’s policies. Numerous forms of unsecured loans, including revolving credits (e.g. credit cards, checking account overdraft protection and personal lines of credit) are provided and various installment loan products, such as vehicle loans, are offered.

 

Leasing

 

BB&T provides commercial leasing services through BB&T Leasing Corp. (“Leasing”), a subsidiary of Branch Bank. Leasing provides three primary products: finance or capital leases, true leases (as defined under the Internal Revenue Code) and other operating leases for vehicles, rolling stock and tangible personal property. Leasing also provides lease-related services for small to medium-sized commercial customers. In addition to the services offered by Leasing, other BB&T subsidiaries provide leases to municipalities and invest in various types of leveraged lease transactions.

 

The following table presents BB&T’s total loan portfolio based on the primary purpose of the loan, rather than the underlying collateral:

 

Table 4

Composition of Loan and Lease Portfolio Based on Loan Purpose

 

    

December 31,


    

2002


  

2001


  

2000


  

1999


  

1998


    

(Dollars in thousands)

Loans and leases, net of unearned income

                                  

Business loans

  

$

26,441,309

  

$

23,640,081

  

$

21,885,646

  

$

18,884,501

  

$

16,308,568

Lease receivables

  

 

2,527,173

  

 

2,319,061

  

 

2,100,965

  

 

1,508,396

  

 

992,684

    

  

  

  

  

Total commercial loans and leases

  

 

28,968,482

  

 

25,959,142

  

 

23,986,611

  

 

20,392,897

  

 

17,301,252

    

  

  

  

  

Sales Finance

  

 

3,374,419

  

 

2,940,364

  

 

2,844,970

  

 

2,565,439

  

 

2,254,190

Revolving Credit

  

 

1,050,738

  

 

951,319

  

 

863,089

  

 

713,585

  

 

602,521

Direct Retail

  

 

9,522,451

  

 

8,273,829

  

 

8,336,368

  

 

7,526,163

  

 

6,466,926

    

  

  

  

  

Total consumer loans

  

 

13,947,608

  

 

12,165,512

  

 

12,044,427

  

 

10,805,187

  

 

9,323,637

    

  

  

  

  

Residential mortgage loans

  

 

10,601,923

  

 

9,318,519

  

 

8,796,037

  

 

8,604,959

  

 

9,669,303

    

  

  

  

  

Total loans and leases (1)

  

$

53,518,013

  

$

47,443,173

  

$

44,827,075

  

$

39,803,043

  

$

36,294,192

    

  

  

  

  


(1)   Includes loans held for sale.

 

10


 

The following table reflects the scheduled maturities of commercial, financial and agricultural loans, as well as construction loans:

 

Table 5

Selected Loan Maturities and Interest Sensitivity (1)

 

    

December 31, 2002


    

Commercial,

Financial

and

Agricultural


  

Real Estate:

Construction


  

Total


    

(Dollars in thousands)

Fixed rate:

                    

1 year or less (2)

  

$

406,565

  

$

145,528

  

$

552,093

1-5 years

  

 

692,026

  

 

249,139

  

 

941,165

After 5 years

  

 

137,169

  

 

76,296

  

 

213,465

    

  

  

Total

  

 

1,235,760

  

 

470,963

  

 

1,706,723

    

  

  

Variable rate:

                    

1 year or less (2)

  

 

3,227,456

  

 

2,781,576

  

 

6,009,032

1-5 years

  

 

2,184,650

  

 

1,721,010

  

 

3,905,660

After 5 years

  

 

413,627

  

 

318,170

  

 

731,797

    

  

  

Total

  

 

5,825,733

  

 

4,820,756

  

 

10,646,489

    

  

  

Total loans and leases (3)

  

$

7,061,493

  

$

5,291,719

  

$

12,353,212

    

  

  


(1)   Balances include unearned income.
(2)   Includes loans due on demand.

 

    

(Dollars in thousands)


(3)    The above table excludes:

      

(i)       consumer loans to individuals for household, family and other personal expenditures

  

$

6,412,563

(ii)      real estate mortgage loans

  

 

30,023,470

(iii)     loans held for sale

  

 

2,377,707

(iv)     lease receivables

  

 

5,156,307

    

Total

  

$

43,970,047

    

 

Scheduled repayments are reported in the maturity category in which the payment is due. Determinations of maturities are based upon contract terms. BB&T’s credit policy does not permit automatic renewals of loans. At the scheduled maturity date (including balloon payment date), the customer must request a new loan to replace the matured loan and execute a new note with rate, terms and conditions negotiated at that time.

 

Allowance for Loan and Lease Losses

 

The allowance for loan and lease losses is management’s estimate of probable inherent credit losses in the loan and lease portfolios at the balance sheet date. The Company determines the allowance based on an ongoing evaluation of the loan and lease portfolios. This evaluation is inherently subjective because it requires material estimates, including the amounts and timing of cash flows expected to be received on impaired loans. Those estimates may be susceptible to significant change. Increases to the allowance are made by charges to the provision for loan and lease losses, which is reflected in the Consolidated Statements of Income. Loans or leases deemed to be uncollectible are charged against the allowance. Recoveries of previously charged-off amounts are credited to the allowance.

 

The allowance is the accumulation of various components that are calculated based on independent methodologies. All components of the allowance represent estimates performed pursuant to either SFAS  No. 5, “Accounting for Contingencies,” or SFAS No. 114, “Accounting by Creditors for Impairment of a Loan.” Management’s estimate of each SFAS No. 5 component is based on certain observable data that management believes are most reflective of the underlying credit losses being estimated. This evaluation includes credit quality trends; collateral values; loan volumes; geographic, borrower and industry loan concentrations; seasoning of the loan portfolio; the findings of internal credit quality assessments and results from external bank regulatory examinations. Reserves for commercial loans are determined by applying loss percentages to the portfolio based

 

11


on management’s evaluation and “risk grading” of the commercial loan portfolio adjusted to give effect to current economic trends. Reserves are provided for noncommercial loan categories based on a four-year weighted average of actual loss experience adjusted to give effect to current economic trends, which is applied to the total outstanding loan balance of each loan category. Specific reserves are typically provided on all impaired commercial loans in excess of a defined threshold that are classified in the Special Mention, Substandard or Doubtful risk grades. The specific reserves are determined on a loan-by-loan basis based on management’s evaluation of BB&T’s exposure for each credit, given the current payment status of the loan and the value of any underlying collateral. Loans for which specific reserves are provided under SFAS No. 114 are excluded from the reserves calculated in accordance with SFAS No. 5 to prevent duplicate reserves. BB&T’s objective is to maintain a loan portfolio that is diverse in terms of loan type, industry concentration, geographic distribution and borrower concentration in order to manage overall credit risk by minimizing the adverse impact of any single event or combination of related events.

 

A portion of the Corporation’s allowance for loan and lease losses is not allocated to any specific category of loans. This unallocated portion of the allowance reflects the elements of imprecision and estimation risk inherent in the calculation of the overall allowance. Due to the subjectivity involved in determining the overall allowance, including the unallocated portion, the portion of the allowance considered unallocated may fluctuate from period to period based on management’s evaluation of the factors affecting the assumptions used in calculating the allowance, including historical loss experience, current economic conditions, industry or borrower concentrations and the status of merged institutions. While the unallocated allowance is available to absorb losses in excess of the amounts allocated to specific loan categories, allocated portions of the allowance are also available to absorb losses in any loan or lease category. Management evaluates the adequacy of the allowance for loan and lease losses based on the combined total of the allocated and unallocated components.

 

While management uses the best information available to establish the allowance for loan and lease losses, future adjustments to the allowance or to the reserving methodology may be necessary if economic conditions differ substantially from the assumptions used in making the valuations or, if required by regulators, based upon information at the time of their examinations. Such adjustments to original estimates, as necessary, are made in the period in which these factors and other relevant considerations indicate that loss levels may vary from previous estimates.

 

The following table presents an allocation of the allowance for loan and lease losses at the end of each of the past five years. The allowance has been allocated by applying the methodologies described above to the loan portfolios based on the underlying collateral of the loans. Amounts applicable to years prior to 2002 have been restated for acquisitions accounted for as poolings of interests. This allocation of the allowance for loan and lease losses is calculated on an approximate basis and is not necessarily indicative of future losses. The entire amount of the allowance is available to absorb losses occurring in any category of loans and leases.

 

Table 6

Allocation of Allowance for Loan and Lease Losses by Category

 

   

December 31,


 
   

2002


  
   

2001


  
   

2000


  
   

1999


  
   

1998


  
 
   

Amount


  

% Loans

in each

category


   

Amount


  

% Loans

in each

category


   

Amount


  

% Loans

in each

category


   

Amount


  

% Loans

in each

category


   

Amount


  

% Loans

in each

category


 
   

(Dollars in thousands)

 

Balances at end of period applicable to:

                                                                

Commercial, financial and agricultural

 

$

150,700

  

12.5

%

 

$

133,238

  

13.0

%

 

$

120,486

  

13.9

%

 

$

99,424

  

14.7

%

 

$

81,641

  

15.3

%

Real estate:

                                                                

Construction and land development

 

 

85,525

  

9.4

 

 

 

79,443

  

10.6

 

 

 

55,874

  

9.0

 

 

 

42,041

  

10.3

 

 

 

30,484

  

8.9

 

Mortgage

 

 

332,490

  

57.5

 

 

 

234,872

  

54.6

 

 

 

199,864

  

55.3

 

 

 

173,862

  

56.3

 

 

 

170,578

  

59.3

 

   

  

 

  

 

  

 

  

 

  

Total real estate

 

 

418,015

  

66.9

 

 

 

314,315

  

65.2

 

 

 

255,738

  

64.3

 

 

 

215,903

  

66.6

 

 

 

201,062

  

68.2

 

   

  

 

  

 

  

 

  

 

  

Consumer

 

 

64,209

  

11.4

 

 

 

54,668

  

11.9

 

 

 

49,575

  

12.5

 

 

 

60,255

  

12.4

 

 

 

58,939

  

12.2

 

Lease receivables

 

 

45,173

  

9.2

 

 

 

38,098

  

9.9

 

 

 

30,702

  

9.3

 

 

 

18,193

  

6.3

 

 

 

6,726

  

4.3

 

Unallocated

 

 

45,588

  

—  

 

 

 

104,099

  

—  

 

 

 

121,606

  

—  

 

 

 

135,461

  

—  

 

 

 

142,251

  

—  

 

   

  

 

  

 

  

 

  

 

  

Total

 

$

723,685

  

100.0

%

 

$

644,418

  

100.0

%

 

$

578,107

  

100.0

%

 

$

529,236

  

100.0

%

 

$

490,619

  

100.0

%

   

  

 

  

 

  

 

  

 

  

 

12


 

Information relevant to BB&T’s allowance for loan and lease losses for the last five years is presented in the following table.

 

Table 7

Analysis of Allowance for Loan and Lease Losses

 

    

December 31,


 
    

2002


    

2001


    

2000


    

1999


    

1998


 
    

(Dollars in thousands)

 

 

Balance, beginning of period

  

$

644,418

 

  

$

578,107

 

  

$

529,236

 

  

$

490,619

 

  

$

435,693

 

    


  


  


  


  


Charge-offs:

                                            

Commercial, financial and agricultural

  

 

(84,967

)

  

 

(63,387

)

  

 

(33,214

)

  

 

(34,693

)

  

 

(23,605

)

Real estate

  

 

(61,608

)

  

 

(41,035

)

  

 

(20,759

)

  

 

(19,239

)

  

 

(16,165

)

Consumer

  

 

(144,609

)

  

 

(124,359

)

  

 

(93,040

)

  

 

(79,075

)

  

 

(85,505

)

Lease receivables

  

 

(5,965

)

  

 

(2,448

)

  

 

(3,502

)

  

 

(993

)

  

 

(1,167

)

    


  


  


  


  


Total charge-offs

  

 

(297,149

)

  

 

(231,229

)

  

 

(150,515

)

  

 

(134,000

)

  

 

(126,442

)

    


  


  


  


  


Recoveries:

                                            

Commercial, financial and agricultural

  

 

18,029

 

  

 

14,985

 

  

 

12,358

 

  

 

13,087

 

  

 

9,649

 

Real estate

  

 

6,345

 

  

 

4,824

 

  

 

3,788

 

  

 

4,823

 

  

 

4,787

 

Consumer

  

 

24,890

 

  

 

23,955

 

  

 

21,430

 

  

 

17,344

 

  

 

15,645

 

Lease receivables

  

 

1,353

 

  

 

375

 

  

 

312

 

  

 

107

 

  

 

425

 

    


  


  


  


  


Total recoveries

  

 

50,617

 

  

 

44,139

 

  

 

37,888

 

  

 

35,361

 

  

 

30,506

 

    


  


  


  


  


Net charge-offs

  

 

(246,532

)

  

 

(187,090

)

  

 

(112,627

)

  

 

(98,639

)

  

 

(95,936

)

    


  


  


  


  


Provision charged to expense

  

 

263,700

 

  

 

224,318

 

  

 

147,187

 

  

 

126,559

 

  

 

126,269

 

    


  


  


  


  


Allowance of loans acquired in purchase transactions, net

  

 

62,099

 

  

 

29,083

 

  

 

14,311

 

  

 

10,697

 

  

 

24,593

 

    


  


  


  


  


Balance, end of period

  

$

723,685

 

  

$

644,418

 

  

$

578,107

 

  

$

529,236

 

  

$

490,619

 

    


  


  


  


  


Average loans and leases (1)

  

$

50,851,417

 

  

$

46,587,780

 

  

$

41,933,641

 

  

$

37,819,870

 

  

$

34,216,258

 

    


  


  


  


  


Net charge-offs as a percentage of average loans and leases

  

 

.48

%

  

 

.40

%

  

 

.27

%

  

 

.26

%

  

 

.28

%

    


  


  


  


  



(1)   Loans and leases are net of unearned income and include loans held for sale.

 

Nonperforming Assets and Classified Assets

 

Nonperforming assets include nonaccrual loans and leases, foreclosed real estate and other repossessed collateral. BB&T generally places loans and leases on nonaccrual status when any portion of principal or interest becomes 90 days past due, or earlier if full collection of principal and interest become doubtful. Loans past due 90 days or more may remain on accrual status if management determines that concern over the collectibility of principal and interest is not significant. When loans are placed on nonaccrual status, interest receivable is reversed against interest income in the current period. Interest payments received thereafter are applied as a reduction of the remaining principal balance so long as the ultimate collection of the principal remains in doubt. Loans and leases are removed from nonaccrual status when they become current as to both principal and interest and when the collectibility of principal or interest is no longer doubtful.

 

Investment Activities

 

Investment securities represent a sizeable portion of BB&T’s assets. BB&T’s subsidiary banks invest in securities as allowable under bank regulations. These securities include all obligations of the U.S. Treasury, agencies of the U.S. government, including mortgage-backed securities and certain derivatives, bank eligible

 

13


obligations of any state or political subdivision, bank eligible corporate obligations, including commercial paper, negotiable certificates of deposit, bankers acceptances, mutual funds and limited types of equity securities. BB&T’s bank subsidiaries may also deal in securities subject to the provisions of the GLB Act. Scott & Stringfellow, Inc., BB&T’s full-service brokerage and investment banking subsidiary, engages in the underwriting, trading and sales of equity and debt securities subject to the risk management policies of the Corporation.

 

BB&T’s investment activities are governed internally by a written, board-approved policy. Investment policy is carried out by the Corporation’s Asset/Liability Committee (“ALCO”), which meets regularly to review the economic environment, assess current activities for appropriateness and establish investment strategies. The ALCO also has much broader responsibilities, which are discussed in “Market Risk Management”, in “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

 

Investment strategies are established by the ALCO in consideration of the interest rate environment, balance sheet mix, actual and anticipated loan demand, funding opportunities and the overall interest rate sensitivity of the Corporation. In general, the investment portfolio is managed in a manner appropriate to the attainment of the following goals: (i) to provide a sufficient margin of liquid assets to meet unanticipated deposit and loan fluctuations and overall funds management objectives; (ii) to provide eligible securities to secure public funds, trust deposits as prescribed by law and other borrowings; and (iii) to earn the maximum return on funds invested that is commensurate with meeting the requirements of (i) and (ii).

 

The following table provides information regarding the composition of BB&T’s securities portfolio at the end of each of the past three years. The trading securities reflected in the accompanying table represent positions held primarily by Scott & Stringfellow, Inc.

 

Table 8

Composition of Securities Portfolio

 

    

December 31,


    

2002


  

2001


  

2000


    

(Dollars in thousands)

Trading Securities (at estimated fair value):

  

$

148,488

  

$

97,675

  

$

96,719

    

  

  

Securities held to maturity (at amortized cost):

                    

U.S. Treasury and U.S. government agency obligations

  

 

55,523

  

 

40,496

  

 

536,863

States and political subdivisions

  

 

—  

  

 

—  

  

 

80,479

Mortgage-backed securities

  

 

—  

  

 

—  

  

 

1,739

Other securities

  

 

—  

  

 

—  

  

 

3,021

    

  

  

Total securities held to maturity

  

 

55,523

  

 

40,496

  

 

622,102

    

  

  

Securities available for sale (at estimated fair value):

                    

U.S. Treasury and U.S. government agency obligations

  

 

11,560,414

  

 

10,918,219

  

 

9,727,118

States and political subdivisions

  

 

912,598

  

 

1,008,973

  

 

1,038,555

Mortgage-backed securities

  

 

3,869,037

  

 

3,425,288

  

 

2,805,607

Other securities

  

 

1,257,428

  

 

1,269,204

  

 

1,659,843

    

  

  

Total securities available for sale

  

 

17,599,477

  

 

16,621,684

  

 

15,231,123

    

  

  

Total securities

  

$

17,803,488

  

$

16,759,855

  

$

15,949,944

    

  

  

 

Sources of Funds

 

Deposits are the primary source of funds for lending and investing activities. Scheduled payments, as well as prepayments, loan sales and maturities from portfolios of loans and investment securities also provide a stable source of funds. Federal Home Loan Bank (“FHLB”) advances, other secured borrowings, Federal funds purchased and other short-term borrowed funds, as well as longer-term debt issued through the capital markets, all provide supplemental liquidity sources.

 

14


 

Deposits

 

Deposits are attracted principally from clients within BB&T’s market area through the offering of a broad selection of deposit instruments to individuals and businesses, including noninterest-bearing checking accounts, interest-bearing checking accounts, savings accounts, money rate savings, investor deposit accounts, certificates of deposit and individual retirement accounts. Deposit account terms vary with respect to the minimum balance required, the time period the funds must remain on deposit and service charge schedules. Interest rates paid on specific deposit types are determined based on (i) the interest rates offered by competitors, (ii) anticipated amount and timing of funding needs, (iii) availability of and cost of alternative sources of funding, and (iv) anticipated future economic conditions and interest rates. Client deposits are attractive sources of liquidity because of their stability and relative cost. Deposits are regarded as an important part of the overall client relationship and provide opportunities to cross-sell other BB&T services.

 

The following table provides information regarding the scheduled maturities of time deposits that are $100,000 and greater at December 31, 2002.

 

Table 9

Scheduled Maturities of Time Deposits $100,000 and Greater

December 31, 2002

(Dollars in thousands)

 

Maturity Schedule

      

Less than three months

  

$

2,138,248

Three through six months

  

 

1,156,286

Seven through twelve months

  

 

926,910

Over twelve months

  

 

2,092,191

    

Total

  

$

6,313,635

    

 

Borrowed Funds

 

BB&T’s ability to borrow funds from nondeposit sources provides additional flexibility in meeting the liquidity needs of customers. Short-term borrowed funds include master notes, securities sold under repurchase agreements, short-term FHLB advances, Federal funds purchased and U.S. Treasury tax and loan depository note accounts. See Note 9. in the “Notes to Consolidated Financial Statements” for additional disclosures related to short-term borrowed funds. The following table summarizes certain pertinent information for the past three years with respect to BB&T’s short-term borrowed funds:

 

Table 10

Short-Term Borrowed Funds

 

    

As of / For the Year Ended December 31,


 
  

2002


      

2001


      

2000


 
    

(Dollars in thousands)

 

Securities Sold Under Agreements to Repurchase

                              

Maximum outstanding at any month-end during the year

  

$

2,568,897

 

    

$

2,532,813

 

    

$

2,401,223

 

Balance outstanding at end of year

  

 

2,511,530

 

    

 

2,175,510

 

    

 

2,371,054

 

Average outstanding during the year

  

 

2,479,185

 

    

 

2,162,917

 

    

 

2,220,242

 

Average interest rate during the year

  

 

2.02

%

    

 

3.76

%

    

 

5.74

%

Average interest rate at end of year

  

 

1.64

 

    

 

2.07

 

    

 

5.76

 

Other Short-term Borrowed Funds

                              

Maximum outstanding at any month-end during the year

  

$

4,542,536

 

    

$

4,866,565

 

    

$

6,421,042

 

Balance outstanding at end of year

  

 

2,885,429

 

    

 

4,473,590

 

    

 

4,938,924

 

Average outstanding during the year

  

 

2,914,294

 

    

 

4,101,183

 

    

 

4,690,607

 

Average interest rate during the year

  

 

1.58

%

    

 

3.82

%

    

 

6.05

%

Average interest rate at end of year

  

 

1.00

 

    

 

4.39

 

    

 

6.22

 

 

15


 

BB&T also utilizes longer-term borrowings when management determines that the pricing and maturity options available through these sources create cost-effective options for funding asset growth and satisfying capital needs. BB&T’s long-term borrowings include capitalized leases, medium-term bank notes, long-term FHLB advances, and other secured borrowings, subordinated debt issued by BB&T Corporation or the subsidiary banks and trust preferred securities. See Note 10. in the “Notes to Consolidated Financial Statements” for additional disclosures related to long-term borrowings.

 

Employees

 

At December 31, 2002, BB&T had approximately 22,500 full-time equivalent employees compared to approximately 20,400 full-time equivalent employees at December 31, 2001.

 

Properties

 

BB&T and its significant subsidiaries occupy headquarters offices that are either owned or operated under long-term leases, and also own free-standing operations centers, with its primary operations and information technology center located in Wilson, North Carolina. BB&T also owns or leases significant office space used as the Corporation’s headquarters in Winston-Salem, North Carolina. At December 31, 2002, BB&T’s subsidiary banks operated 1,122 branch offices in North Carolina, South Carolina, Virginia, Maryland, Georgia, West Virginia, Tennessee, Kentucky, Alabama, Florida, Indiana and Washington, D.C. BB&T also operates numerous insurance agencies and other facilities. Office locations are owned or leased. Management believes that the premises occupied by BB&T and its subsidiaries are well-located and suitably equipped to serve as financial services facilities. See Note 6. “Premises and Equipment” in the “Notes to Consolidated Financial Statements” in this report for additional disclosures related to BB&T’s properties and other fixed assets.

 

Executive Officers of BB&T

 

BB&T’s Chairman and Chief Executive Officer is John A. Allison, IV. As of December 31, 2002, Mr. Allison is 54 and has 32 years of service with the Corporation. Henry G. Williamson, Jr., is BB&T’s Chief Operating Officer. Mr. Williamson is 55 and has 31 years of service with the Corporation. Kelly S. King is the President of BB&T Corporation and is the Senior Executive Vice President for the Branch Network. Mr. King is 54 and has 31 years of service with the Corporation. W. Kendall Chalk is a Senior Executive Vice President and the Corporation’s Chief Credit Officer. Mr. Chalk is 57 and has served the Corporation for 28 years. Scott E. Reed is a Senior Executive Vice President and the Corporation’s Chief Financial Officer. Mr. Reed is 54 and has 31 years of service with the Corporation. Robert E. Greene is the President of Branch Banking and Trust Company and is the Senior Executive Vice President for Administrative Services for the Corporation. Mr. Greene is 52 and has served the Corporation for 30 years. Sherry A. Kellett is a Senior Executive Vice President and the Corporation’s Controller. Ms. Kellett is 58 and has 18 years of service with the Corporation. C. Leon Wilson III is a Senior Executive Vice President and is the Corporation’s Operations Division Manager. Mr. Wilson is 47 and has served BB&T for 26 years.

 

Web Site Access to BB&T’s Filings with the Securities and Exchange Commission

 

All of BB&T’s electronic filings with the Securities and Exchange Commission (“SEC”), including the Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to these reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, are made available at no cost on the Corporation’s web site, www.bbandt.com, through the Investor Relations link as soon as reasonably practicable after BB&T files such material with, or furnishes it to, the SEC. BB&T’s SEC filings are also available through the SEC’s web site at www.sec.gov.

 

16


REGULATORY CONSIDERATIONS

 

General

 

As a financial holding company under the Gramm-Leach-Bliley Act of 1999, BB&T is subject to regulation under the Bank Holding Company Act of 1956, as amended, (the “BHCA”) and the examination and reporting requirements of the Board of Governors of the Federal Reserve System (the “Federal Reserve Board”). As state-chartered commercial banks, Branch Bank, BB&T-SC and BB&T-VA (collectively, the “Banks”) are subject to regulation, supervision and examination by state bank regulatory authorities in their respective home states. These authorities include the North Carolina Commissioner of Banks, in the case of Branch Bank, the South Carolina Commissioner of Banking, in the case of BB&T-SC, and the Virginia State Corporation Commission’s Bureau of Financial Institutions, in the case of BB&T-VA. Each of the State-Chartered Banks is also subject to regulation, supervision and examination by the Federal Deposit Insurance Corporation (the “FDIC”). State and Federal law also govern the activities in which the Banks engage, the investments they make and the aggregate amount of loans that may be granted to one borrower. Various consumer and compliance laws and regulations also affect the Banks’ operations.

 

In addition to banking laws, regulations and regulatory agencies, BB&T and certain of its subsidiaries and affiliates are subject to various other laws and regulations, and supervision and examination by other state and federal regulatory agencies. These include the regulation, examination and supervision of BB&T’s subsidiaries and affiliates engaged in securities underwriting, dealing, brokerage, investment advisory activities and insurance activities.

 

The earnings of BB&T’s subsidiaries, and therefore the earnings of BB&T, are affected by general economic conditions, management policies, changes in state and Federal legislation and actions of various regulatory authorities, including those referred to above. The following description summarizes the significant state and Federal laws to which BB&T and the Banks are subject. To the extent statutory or regulatory provisions or proposals are described, the description is qualified in its entirety by reference to the particular statutory or regulatory provisions or proposals.

 

The Gramm-Leach-Bliley Act of 1999

 

The Gramm-Leach-Bliley Act of 1999 (the “GLB Act” or the “Act”), signed into law on November 12, 1999, amended a number of Federal banking laws that affect BB&T and its subsidiary banks, and the provisions of the Act that are believed to be of most significance to BB&T are discussed below. In particular, the GLB Act permits a bank holding company to elect to become a financial holding company. In order to become and maintain its status as a financial holding company, the bank holding company and all of its affiliated depository institutions must be well-capitalized, well managed, and have at least a satisfactory Community Reinvestment Act rating. BB&T filed an election and on June 14, 2000, became a financial holding company.

 

Under the BHCA, a financial holding company may not directly or indirectly acquire ownership or control of more than 5% of the voting shares or substantially all of the assets of any bank or merge or consolidate with another bank holding company without the prior approval of the Federal Reserve Board. The BHCA, as amended by the GLB Act, now generally limits the activities of a bank holding company that is a financial holding company to that of banking, managing or controlling banks; performing certain servicing activities for subsidiaries; and engaging in any activity, or acquiring and retaining the shares of any company engaged in any activity, that is either (1) financial in nature or incidental to such financial activity, as determined by the Federal Reserve Board in consultation with the Secretary of the Treasury; or (2) complementary to a financial activity and does not pose a substantial risk to the safety and soundness of depository institutions or the financial system generally, as determined by the Federal Reserve Board. Activities that are “financial in nature” include those activities that the Federal Reserve Board had determined, by order or regulation in effect prior to enactment of the GLB Act, to be so closely related to banking or managing or controlling banks as to be a proper incident thereto.

 

The GLB Act covers a broad range of issues, including a repeal of most of the restrictions on affiliations among depository institutions, securities firms and insurance companies. In particular, the GLB Act repeals sections 20 and 32 of the Glass-Stegall Act, thus permitting unrestricted affiliations between banks and securities

 

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firms. The Act also provides that, while the states continue to have the authority to regulate insurance activities, in most instances they are prohibited from preventing or significantly interfering with the ability of a bank, directly or through an affiliate, to engage in insurance sales, solicitations or cross-marketing activities. A financial holding company, therefore, may engage in or acquire companies that engage in a broad range of financial services, including securities activities such as underwriting, dealing, brokerage, investment and merchant banking; and insurance underwriting, sales and brokerage activities. Although the states generally must regulate bank insurance activities in a nondiscriminatory manner, the states may continue to adopt and enforce rules that specifically regulate bank insurance activities in certain areas identified in the Act. The Act directs the Federal bank regulatory agencies to adopt insurance consumer protection regulations that apply to sales practices, solicitations, advertising and disclosures, and such regulations have been adopted and became effective April 1, 2001.

 

The GLB Act includes a system of functional regulation under which the Federal Reserve Board is confirmed as the umbrella regulator for bank holding companies, but bank holding company affiliates are to be principally regulated by functional regulators such as the FDIC for state nonmember bank affiliates, the Securities and Exchange Commission for securities affiliates and state insurance regulators for insurance affiliates. The Act repealed the broad exemption of banks from the definitions of “broker” and “dealer” for purposes of the Securities Exchange Act of 1934, but identifies a set of specific activities, including traditional bank trust and fiduciary activities, in which a bank may engage without being deemed a “broker”, and a set of activities in which a bank may engage without being deemed a “dealer”. The Act also makes conforming changes in the definitions of “broker” and “dealer” for purposes of the Investment Company Act of 1940 and the Investment Advisers Act of 1940.

 

The GLB Act contains extensive customer privacy protection provisions. Under these provisions, a financial institution must provide to its customers, at the inception of the customer relationship and annually thereafter, the institution’s policies and procedures regarding the handling of customers’ nonpublic personal financial information. The Act provides that, except for certain limited exceptions, an institution may not provide such personal information to unaffiliated third parties unless the institution discloses to the customer that such information may be so provided and the customer is given the opportunity to opt out of such disclosure. An institution may not disclose to a non-affiliated third party, other than to a consumer reporting agency, customer account numbers or other similar account identifiers for marketing purposes. The Act also provides that the states may adopt customer privacy protections that are stricter than those contained in the Act. The Act also makes a criminal offense, except in limited circumstances, to obtain or attempt to obtain customer information of a financial nature by fraudulent or deceptive means. The Act also contains requirements for the posting of notices by operators of automated teller machines regarding fees charged for the use of such machines.

 

Many of the GLB Act’s provisions, including the customer privacy protection provisions, require the Federal bank regulatory agencies and other regulatory bodies to adopt regulations to implement those respective provisions, and the required implementing regulations have been adopted by the bank regulatory agencies. Neither the provisions of the GLB Act nor the Act’s implementing regulations, as proposed or adopted, have had a material impact on BB&T’s or the Banks’ regulatory capital ratios or well capitalized status (as discussed below) or ability to continue to operate in a safe and sound manner.

 

Payment of Dividends

 

BB&T is a legal entity separate and distinct from its subsidiaries. The majority of BB&T’s revenue is from dividends paid to BB&T by its banking subsidiaries. BB&T’s banking subsidiaries are subject to laws and regulations that limit the amount of dividends they can pay. In addition, both BB&T and its Subsidiary Banks are subject to various regulatory restrictions relating to the payment of dividends, including requirements to maintain capital at or above regulatory minimums. Banking regulators have indicated that banking organizations should generally pay dividends only if (1) the organization’s net income available to common shareholders over the past year has been sufficient to fully fund the dividends and (2) the prospective rate of earnings retention appears consistent with the organization’s capital needs, asset quality and overall financial condition. BB&T does not expect that any of these laws, regulations or policies will materially affect the ability of the Banks to pay dividends. During the year ended December 31, 2002, the Banks declared $974.5 million in dividends payable to

 

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BB&T. Subject to restrictions imposed by state laws and federal regulations, the Boards of Directors of the Subsidiary Banks could have declared dividends from their retained earnings up to $2.8 billion at December 31, 2002.

 

Capital

 

The Federal Reserve Board, the FDIC and the Office of the Comptroller of the Currency (the “OCC”) have issued substantially similar risk-based and leverage capital guidelines applicable to banking organizations they supervise. Additionally, as noted above under the GLB Act, a bank holding company that elects to become a financial holding company must be well-managed, have at least a satisfactory Community Reinvestment Act rating, and be well-capitalized. Under the risk-based capital requirements, BB&T and the Banks are each generally required to maintain a minimum ratio of total capital to risk-weighted assets (including certain off-balance sheet activities, such as standby letters of credit) of 8%. At least half of the total capital must be composed of common equity, retained earnings and qualifying perpetual preferred stock and certain hybrid capital instruments, less certain intangibles (“Tier 1 capital”). The remainder may consist of certain subordinated debt, certain hybrid capital instruments, qualifying preferred stock and a limited amount of the loan loss allowance (“Tier 2 capital” which, together with Tier 1 capital, composes “total capital”). To be considered well-capitalized under the risk-based capital guidelines, an institution must maintain a total risk-weighted capital ratio of at least 10% and a Tier 1 risk-weighted ratio of 6% or greater. The ratios of Tier 1 capital and total capital to risk-adjusted assets for BB&T and the Subsidiary Banks as of December 31, 2002, are shown in the following table.

 

In addition, each of the Federal bank regulatory agencies has established minimum leverage capital requirements for banking organizations. Pursuant to these requirements, banking organizations must maintain a minimum ratio of Tier 1 capital to adjusted average quarterly assets equal to 3% to 5% subject to federal bank regulatory evaluation of an organization’s overall safety and soundness. The leverage ratios of BB&T and the Subsidiary Banks as of December 31, 2002, also are reflected in the following table.

 

Table 11

Capital Adequacy Ratios of BB&T Corporation and Principal Banking Subsidiaries

December 31, 2002

 

      

Regulatory Minimums


      

Regulatory Minimums

to be Well-Capitalized


    

BB&T


    

Branch Bank


    

BB&T-

SC


    

BB&T-

VA


 

Risk-based capital ratios:

                                             

Tier 1 capital (1)

    

4.0

%

    

6.0

%

  

9.2

%

  

10.2

%

  

10.3

%

  

10.8

%

Total risk-based capital (2)

    

8.0

 

    

10.0

 

  

13.4

 

  

11.9

 

  

11.6

 

  

12.1

 

Tier 1 leverage ratio (3)

    

3.0

 

    

5.0

 

  

6.9

 

  

7.4

 

  

7.8

 

  

7.0

 


(1)   Shareholders’ equity plus corporation-obligated mandatorily redeemable capital securities, less unrealized gains (losses) on debt securities available for sale, net of deferred income taxes, less nonqualifying intangible assets; computed as a ratio of risk-weighted assets, as defined in the risk-based capital guidelines.
(2)   Tier 1 capital plus qualifying loan loss allowance and subordinated debt; computed as a ratio of risk-weighted assets, as defined in the risk-based capital guidelines.
(3)   Tier 1 capital computed as a percentage of fourth quarter average assets less nonqualifying intangibles.

 

The Federal Deposit Insurance Corporation Act of 1991 (“FDICIA”), among other things, identifies five capital categories for insured depository institutions: well-capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized. BB&T and each of the Banks are classified as “well-capitalized”. FDICIA also requires the bank regulatory agencies to implement systems for “prompt corrective action” for institutions that fail to meet minimum capital requirements within these five categories, with progressively more severe restrictions on operations, management and capital distributions according to the category in which an institution is placed. Failure to meet capital requirements can also cause an institution to be directed to raise additional capital. FDICIA also mandates that the agencies adopt safety and soundness

 

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standards relating generally to operations and management, asset quality and executive compensation, and authorizes administrative action against an institution that fails to meet such standards.

 

In addition, the Federal Reserve Board, the FDIC and the OCC each by regulation has adopted risk-based capital standards that explicitly identify concentrations of credit risk and the risk arising from non-traditional activities, as well as an institution’s ability to manage these risks, as important factors to be taken into account by each agency in assessing an institution’s overall capital adequacy. The capital guidelines also provide that an institution’s exposure to a decline in the economic value of its capital due to changes in interest rates be considered by the agency as a factor in evaluating a banking organization’s capital adequacy. The agencies also jointly adopted a regulation, effective January 1, 2002, amending their regulatory capital standards to change the treatment of certain recourse obligations, direct credit subsidies, residual interest and other positions in securitized transactions that expose banking organizations to credit risk. The regulation amends the agencies’ regulatory capital standards to align more closely the risk-based capital treatment of recourse obligations and direct credit subsidies, to vary the capital requirements for positions in securitized transactions (and certain other credit exposures) according to their relative risk, and to require capital commensurate with the risks associated with residual interests.

 

In addition to the “prompt corrective action” directives, failure to meet capital guidelines can subject a banking organization to a variety of other enforcement remedies, including additional substantial restrictions on its operations and activities, termination of deposit insurance by the FDIC, and under certain conditions the appointment of a conservator or receiver.

 

Deposit Insurance Assessments

 

The deposits of the Banks are insured by the FDIC up to the limits set forth under applicable law. A majority of the deposits of the Banks are subject to the deposit insurance assessments of the Bank Insurance Fund (“BIF”) of the FDIC. However, a portion of the Banks’ deposits (relating to the acquisitions of various savings associations) are subject to assessments imposed by the Savings Association Insurance Fund (“SAIF”) of the FDIC.

 

The FDIC equalized the assessment rates for BIF-insured and SAIF-insured deposits effective January 1, 1998. The assessments imposed on all FDIC deposits for deposit insurance have an effective rate ranging from 0 to 27 basis points per $100 of insured deposits, depending on the institution’s capital position and other supervisory factors. Legislation was enacted in 1997 requiring both SAIF-insured and BIF-insured deposits to pay a pro rata portion of the interest due on the obligations issued by the Financing Corporation (“FICO”). At December 31, 2002, the FDIC assessed BIF-insured and SAIF-insured deposits an additional 1.70 basis points per $100 of deposits to cover those obligations. At December 31, 2002, BB&T’s assessment is limited to this 1.70 basis points.

 

Other Safety and Soundness Regulations

 

There are a number of obligations and restrictions imposed on bank holding companies and their depository institution subsidiaries by Federal law and regulatory policy that are designed to reduce potential loss exposure to the depositors of such depository institutions and to the FDIC insurance funds in the event the depository institution is insolvent or is in danger of becoming insolvent. For example, under requirements of the Federal Reserve Board with respect to bank holding company operations, a bank holding company is required to serve as a source of financial strength to its subsidiary depository institutions and to commit resources to support such institutions in circumstances where it might not do so otherwise. In addition, the “cross-guarantee” provisions of Federal law require insured depository institutions under common control to reimburse the FDIC for any loss suffered or reasonably anticipated by either the SAIF or the BIF as a result of the insolvency of commonly controlled insured depository institutions or for any assistance provided by the FDIC to commonly controlled insured depository institutions in danger of failure. The FDIC may decline to enforce the cross-guarantee provision if it determines that a waiver is in the best interests of the SAIF or the BIF or both. The FDIC’s claim for reimbursement under the cross-guarantee provisions is superior to claims of shareholders of the insured depository institution or its holding company but is subordinate to claims of depositors, secured creditors and nonaffiliated holders of subordinated debt of the commonly controlled insured depository institutions.

 

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State banking regulators and the OCC also have broad enforcement powers over the Banks, including the power to impose fines and other civil and criminal penalties, and to appoint a conservator (with the approval of the Governor in the case of a North Carolina state bank) in order to conserve the assets of any such institution for the benefit of depositors and other creditors. The North Carolina Commissioner of Banks also has the authority to take possession of a North Carolina state bank in certain circumstances, including, among other things, when it appears that such bank has violated its charter or any applicable laws, is conducting its business in an unauthorized or unsafe manner, is in an unsafe or unsound condition to transact its business or has an impairment of its capital stock.

 

Interstate Banking and Branching

 

Current Federal law authorizes interstate acquisitions of banks and bank holding companies without geographic limitation. Effective June 1, 1998, a bank headquartered in one state was authorized to merge with a bank headquartered in another state, as long as neither of the states had opted out of such interstate merger authority prior to such date, and subject to any state requirement that the target bank shall have been in existence and operating for a minimum period of time, not to exceed five years; and certain deposit market-share limitations. After a bank has established branches in a state through an interstate merger transaction, the bank may establish and acquire additional branches at any location in the state where a bank headquartered in that state could have established or acquired branches under applicable Federal or state law.

 

International Money Laundering Abatement and Financial Anti-Terrorism Act of 2001

 

On October 26, 2001, the USA Patriot Act of 2001 was signed into law. This act contains the International Money Laundering Abatement and Financial Anti-Terrorism Act of 2001 (the “IMLAFA”). The IMLAFA contains anti-money laundering measures affecting insured depository institutions, broker-dealers and certain other financial institutions. The IMLAFA requires U.S. financial institutions to adopt new policies and procedures to combat money laundering and grants the Secretary of the Treasury broad authority to establish regulations and to impose requirements and restrictions on financial institutions’ operations. BB&T does not expect that compliance with the IMLAFA will have a material impact on BB&T’s or the Banks’ results of operations or financial condition.

 

Sarbanes-Oxley Act of 2002

 

On July 30, 2002, the Sarbanes-Oxley Act of 2002 (the “Sarbanes-Oxley Act”) was signed into law. The Sarbanes-Oxley Act represents a comprehensive revision of laws affecting corporate governance, accounting obligations and corporate reporting. The Sarbanes-Oxley Act is applicable to all companies with equity or debt securities registered under the Securities Exchange Act of 1934. In particular, the Sarbanes-Oxley Act establishes: (i) new requirements for audit committees, including independence, expertise, and responsibilities; (ii) additional responsibilities regarding financial statements for the Chief Executive Officer and Chief Financial Officer of the reporting company; (iii) new standards for auditors and regulation of audits; (iv) increased disclosure and reporting obligations for the reporting company and their directors and executive officers; and (v) new and increased civil and criminal penalties for violation of the securities laws. Many of the provisions became effective immediately while other provisions become effective over a period of 30 to 270 days and are subject to rulemaking by the Securities and Exchange Commission. Although BB&T anticipates that it will incur additional expense in complying with the provisions of the Sarbanes-Oxley Act and the resulting regulations, BB&T does not expect that such compliance will have a material impact on BB&T’s or the Banks’ results of operations or financial condition.

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

Overview

 

The following discussion and analysis of the consolidated financial condition and consolidated results of operations of BB&T Corporation and subsidiaries (“BB&T” or the “Corporation”) for each of the three years in the period ended December 31, 2002, and related financial information, are presented in conjunction with the consolidated financial statements and related notes to assist in the evaluation of BB&T’s 2002 performance.

 

Reclassifications

 

In certain circumstances, reclassifications have been made to prior period information to conform to the 2002 presentation.

 

Mergers and Acquisitions Completed during 2002

 

During 2002, BB&T completed the following mergers and acquisitions, all of which were accounted for as purchases as required by current accounting regulations.

 

On January 1, 2002, BB&T completed its acquisition of Cooney, Rickard & Curtin, Inc. (“CRC”), the largest independently owned wholesale insurance broker in the nation based in Birmingham, Alabama. In connection with the transaction, BB&T issued 2.5 million shares of common stock valued at $85.6 million. CRC’s assets totaled $108.6 million at time of acquisition. BB&T recorded $59.4 million in goodwill and $42.7 million in other intangible assets in connection with the acquisition.

 

On March 8, 2002, BB&T completed its acquisition of Louisville, Kentucky-based MidAmerica Bancorp (“MidAmerica”). To complete the acquisition, BB&T paid $94.9 million in cash and issued 8.2 million shares of common stock valued at $284.9 million in exchange for all of the outstanding common shares of MidAmerica. MidAmerica’s assets totaled $2.0 billion at the time of acquisition and BB&T recorded $230.4 million in goodwill and other intangible assets in connection with the acquisition.

 

On March 20, 2002, BB&T completed its acquisition of AREA Bancshares Corporation (“AREA”) of Owensboro, Kentucky. BB&T issued 13.2 million shares of common stock valued at $448.9 million in exchange for all of the outstanding common shares of AREA. AREA’s assets totaled $2.9 billion at the time of acquisition and BB&T recorded $279.2 million in goodwill and other intangible assets in connection with the acquisition.

 

On September 13, 2002, BB&T completed its acquisition of Regional Financial Corp. (“Regional”), the parent company for First South Bank based in Tallahassee, Florida. BB&T issued 7.3 million shares of common stock valued at $276.3 million in exchange for all of the outstanding common shares of Regional. Regional’s assets totaled $1.6 billion at the time of acquisition and BB&T recorded $235.7 million in goodwill and other intangible assets in connection with the acquisition.

 

BB&T also acquired the following nonbank financial services companies during 2002, all of which were immaterial in relation to BB&T: Ryan, Lee & Co. Inc., an investment banking and brokerage firm based in McLean, Virginia; The Pfefferkorn Company (“Pfefferkorn”), a mortgage banking company based in Winston-Salem, North Carolina; Virginia Investment Counselors, Inc. (“VIC”), an investment advisory firm based in Norfolk, Virginia; Hunt, DuPree, Rhine & Associates, Inc., an employee benefits and investment advisory firm based in Greenville, South Carolina; and American Marketing Center, Inc., a New York City-based wholesale insurance broker specializing in real estate products.

 

In addition to the mergers and acquisitions noted above, BB&T acquired a number of insurance agencies during 2002. See Note 2. in the “Notes to Consolidated Financial Statements” for further information regarding mergers and acquisitions.

 

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Pending Mergers and Acquisitions

 

On September 27, 2002, BB&T announced plans to acquire Equitable Bank (“Equitable”), based in Wheaton, Maryland. At the time of the announcement, Equitable had $477 million in assets and operated five full-service banking offices in Montgomery and Prince George’s counties. Shareholders of Equitable will receive one share of BB&T common stock in exchange for each share of Equitable. The transaction is expected to be completed in the first quarter of 2003. BB&T expects to issue $1.4 million shares of common stock to consummate the transaction.

 

On December 4, 2002, BB&T announced plans to acquire Southeastern Fidelity Corporation (“SEFCO”), an insurance premium finance company based in Tallahassee, Florida. Pending regulatory approval, the transaction is planned to be completed in the first quarter of 2003.

 

On January 21, 2003, BB&T announced plans to acquire First Virginia Banks, Inc. (“First Virginia”), a bank holding company headquartered in Falls Church, Virginia. First Virginia was the parent company to eight community banks and operated 364 branches in Virginia, Maryland, and northeast Tennessee at the time of the announcement. At December 31, 2002, First Virginia had $11.2 billion in assets, including $6.4 billion in loans and $4.0 billion in investment securities, and $9.2 billion of deposits. Shareholders of First Virginia will receive 1.26 BB&T shares in exchange for each share of First Virginia. The merger, which is subject to regulatory and shareholder approval, is expected to be completed in the second quarter of 2003. BB&T expects to issue $89.3 million shares of common stock to consummate the transaction.

 

Critical Accounting Policies

 

The accounting and reporting policies of BB&T Corporation and its subsidiaries are in accordance with accounting principles generally accepted in the United States and conform to general practices within the banking industry. BB&T’s financial position and results of operations are affected by management’s application of accounting policies, including estimates, assumptions and judgments made to arrive at the carrying value of assets and liabilities and amounts reported for revenues, expenses and related disclosures. Different assumptions in the application of these policies could result in material changes in BB&T’s consolidated financial position and/or consolidated results of operations. The more critical accounting and reporting policies include BB&T’s accounting for the allowance for loan and lease losses, valuation of mortgage servicing rights, mergers and acquisitions, and income taxes. BB&T’s accounting policies are fundamental to understanding BB&T’s consolidated financial position and consolidated results of operations. Accordingly, BB&T’s significant accounting policies are discussed in detail in Note 1 in the “Notes to Consolidated Financial Statements”.

 

The following is a summary of BB&T’s significant accounting policies that are highly dependent on estimates, assumptions and judgments.

 

The allowance for loan and lease losses is established and maintained at levels management deems adequate to cover probable losses inherent in the portfolio as of the balance sheet date and is based on management’s evaluation of the risks in the loan portfolio and changes in the nature and volume of loan activity. Estimates for loan losses are determined by analyzing historical loan losses, current trends in delinquencies and charge-offs, plans for problem loan administration, the opinions of our regulators, changes in the size, composition and risk assessment of the loan portfolio. Also included in management’s estimates for loan losses are considerations with respect to the impact of economic events, the outcome of which is uncertain. These events may include, but are not limited to, fluctuations in overall interest rates, political conditions, legislation that may directly or indirectly affect the banking industry and economic conditions affecting specific geographical areas and industries in which BB&T conducts business.

 

BB&T has a significant mortgage loan-servicing portfolio and has capitalized the associated servicing rights. Mortgage servicing rights represent the present value of the future servicing fees from the right to service loans in the portfolio. The most critical accounting policy associated with mortgage servicing is the methodology used to determine the fair value of capitalized mortgage servicing rights, which requires the development of a number of estimates, including anticipated loan principal amortization and prepayments of principal. The value of capitalized mortgage servicing rights is significantly affected by interest rates available in the marketplace, which influence mortgage loan prepayment speeds. In general, during periods of declining interest rates, the

 

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value of mortgage servicing assets declines due to increasing prepayments attributable to increased mortgage refinance activity. Conversely, during periods of rising interest rates, the value of servicing assets generally increases due to reduced refinance activity. BB&T amortizes mortgage servicing rights over the estimated period that servicing income is expected to be received based on projections of the amount and timing of future cash flows. The amount and timing of servicing asset amortization is adjusted periodically based on actual results and updated projections. Please refer to Note 8 in the “Notes to Consolidated Financial Statements” for quantitative disclosures reflecting the effect that changes in management’s assumptions would have on the fair value of capitalized mortgage servicing rights.

 

BB&T’s growth in business, profitability and market share over the past several years has been enhanced significantly by mergers and acquisitions. Prior to 2002, BB&T’s acquisitions were accounted for using the pooling-of-interests and purchase business combination methods of accounting. Effective July 1, 2001, BB&T adopted SFAS No. 141, “Business Combinations,” which allows only the use of the purchase method of accounting. For purchase acquisitions, BB&T is required to record the assets acquired, including identified intangible assets, and liabilities assumed at their fair value, which in many instances involves estimates based on third party valuations, such as appraisals, or internal valuations based on discounted cash flow analyses or other valuation techniques. The determination of the useful lives of intangible assets is subjective as is the appropriate amortization period for such intangible assets. These estimates also include the establishment of various accruals and allowances based on planned facilities dispositions and employee severance considerations, among other acquisition-related items. In addition, purchase acquisitions typically result in goodwill, which is subject to ongoing periodic impairment tests based on the fair value of net assets acquired compared to the carrying value of goodwill.

 

The calculation of BB&T’s income tax provision is complex and requires the use of estimates and judgments in its determination. As part of the Company’s overall business strategy, management must consider tax laws and regulations that apply to the specific facts and circumstances under consideration. This analysis includes evaluating the amount and timing of the realization of income tax liabilities or benefits. Management closely monitors tax developments in order to evaluate the effect they may have on the Company’s overall tax position.

 

BB&T offers various pension plans and postretirement benefit plans to employees. The calculation of obligations and related expenses under these plans requires the use of actuarial valuation methods and assumptions. Actuarial valuations and the determination of future market values of plan assets are subject to management judgment and may differ significantly if different assumptions are used. Please refer to Note 13 in the “Notes to Consolidated Financial Statements” for disclosures related to BB&T’s benefit plans, including quantitative disclosures reflecting the impact that changes in certain assumptions would have on service and interest costs and benefit obligations.

 

Analysis of Financial Condition

 

For the year ended December 31, 2002, BB&T’s average assets totaled $75.8 billion, an increase of $7.0 billion, or 10.1%, compared to the 2001 average of $68.8 billion. The major balance sheet categories with increases in average balances were loans and leases, up $4.3 billion, or 9.2%, and securities, which increased $1.1 billion, or 6.6%. The primary components of growth in average loans and leases were commercial loans and leases, which increased $2.7 billion, or 10.7%; mortgage loans, which increased $325.1 million, or 3.5%; revolving credit loans, which increased $97.7 million, or 11.0%; and consumer loans, which increased $1.1 billion, or 10.1%. Total earning assets averaged $68.2 billion in 2002, an increase of $5.3 billion, or 8.5%, compared to 2001.

 

BB&T’s average deposits totaled $49.1 billion, reflecting growth of $4.9 billion, or 11.0%, compared to 2001. The categories of deposits with the highest growth rates were: money rate savings, which increased $2.3 billion, or 18.6%, noninterest-bearing deposits, which increased $995.4 million, or 16.0%, and certificates of deposit and other time deposits, which increased $1.6 billion, or 7.0%.

 

Short-term borrowed fund include Federal funds purchased, securities sold under repurchase agreements, master notes, short-term bank notes and Federal Home Loan Bank (“FHLB”) advances. Average short-term borrowed funds totaled $5.4 billion for the year ended December 31, 2002, a decrease of $870.6 million, or 13.9%, from the 2001 average. BB&T has also utilized long-term debt based on the flexibility and cost-effectiveness of

 

24


the alternatives available. Long-term debt includes FHLB advances, other secured borrowings by subsidiary banks and subordinated debt issued by the Corporation and Branch Bank. Average long-term debt totaled $12.1 billion for the year ended December 31, 2002, up $1.1 billion, or 10.0%, compared to 2001.

 

The compound annual rate of growth in average total assets for the five-year period ended December 31, 2002, was 10.6%. Over the same five-year period, average loans and leases increased at a compound annual rate of 10.7%, average securities increased at a compound annual rate of 7.5%, and average deposits grew at a compound annual rate of 7.9%. All balance sheet growth rates referred to include the effect of acquisitions accounted for as purchases, as well as internal growth.

 

Securities

 

The securities portfolios provide earnings and liquidity, as well as an effective tool in managing interest rate risk. Management has historically emphasized investments with a duration of five years or less to provide greater flexibility in managing the balance sheet in changing interest rate environments. U.S. Treasury securities and U.S. government agency obligations, excluding mortgage-backed securities, comprised 65.2% of the portfolio at December 31, 2002. The combined duration of the U.S. Treasury and U.S. government agency portfolios was 1.61 years at December 31, 2002. Mortgage-backed securities composed 21.7% of the total investment portfolio at year-end 2002. The effective duration of the mortgage-backed securities was 1.46 years at December 31, 2002. Total securities increased 6.2% in 2002, to a total of $17.8 billion at the end of the year. The duration of the total portfolio at December 31, 2002 was 1.74 years.

 

BB&T’s full-service brokerage subsidiary holds trading securities as a normal part of its operations. At December 31, 2002, trading securities reflected on BB&T’s consolidated balance sheet totaled $148.5 million. Market valuation gains and losses in the trading portfolio are reflected in current earnings.

 

Securities held to maturity are composed of investments in U.S. Treasury securities and made up less than 1% of the total portfolio at December 31, 2002. Securities held to maturity are carried at amortized cost and totaled $55.5 million at December 31, 2002, compared to $40.5 million outstanding at the end of 2001. During 2001, substantially all the securities in the held-to-maturity portfolio were transferred to the available-for-sale portfolio in connection with the implementation of SFAS No. 133. This was done to provide greater flexibility in the management of the overall securities portfolio. Unrealized market valuation gains and losses on securities in the Corporation’s held-to-maturity category affect neither earnings nor shareholders’ equity.

 

Securities available for sale totaled $17.6 billion at year-end 2002 and are carried at estimated fair value. Securities available for sale at year-end 2001 totaled $16.6 billion. Unrealized market valuation gains and losses on securities classified as available for sale are recorded as a separate component of shareholders’ equity, net of deferred income taxes. The available-for-sale portfolio is primarily composed of investments in U.S. Treasury securities, government agency obligations and mortgage-backed securities. This portfolio also contains investments in obligations of states and municipalities, which composed 5.2% of the available-for-sale portfolio, and equity and other securities, which comprised 7.1% of the available-for-sale portfolio.

 

During the year ended December 31, 2002, BB&T sold $2.6 billion of available-for-sale securities and realized net gains totaling $170.1 million. The majority of these gains were taken to economically offset increases in the valuation allowance necessary to reduce the carrying value of BB&T’s capitalized mortgage servicing rights.

 

During the first quarter of 2001, BB&T sold its ownership interest in an electronic transaction processing company to Concord EFS, Inc. (“Concord”), exchanging nonmarketable equity securities for unregistered Concord common stock. The Concord common shares were subsequently registered by Concord, and BB&T sold its holdings of Concord, which were included in securities available for sale. As a result of the transaction, BB&T recognized gains of $82.4 million that are reflected in securities gains (losses), net, in the Consolidated Statements of Income.

 

During the second and third quarters of 2000, BB&T restructured the available-for-sale securities portfolio. The restructuring was undertaken to improve the overall yield and liquidity of the portfolio, and reduce the overall duration of the portfolio. BB&T sold $5.9 billion of U.S. Treasuries, obligations of U.S. government agencies and mortgage-backed securities, and incurred approximately $222 million in pretax losses as a result of these sales. The proceeds from these sales were reinvested in higher yielding securities, primarily obligations of U.S. government agencies.

 

25


 

The following table presents BB&T’s securities portfolio at December 31, 2002, segregated by major category with ranges of maturities and average yields disclosed.

 

Table 12

Securities

 

    

December 31, 2002


 
    

Carrying Value


  

Weighted Average Yield (3)


 
    

(Dollars in thousands)

 

U.S. Treasury and U.S. government agency obligations (1):

             

Within one year

  

$

2,131,005

  

4.93

%

One to five years

  

 

8,174,216

  

4.84

 

Five to ten years

  

 

1,439,088

  

5.20

 

After ten years

  

 

3,740,665

  

5.39

 

    

  

Total

  

 

15,484,974

  

5.02

 

    

  

Obligations of states and political subdivisions:

             

Within one year

  

 

66,919

  

7.42

 

One to five years

  

 

209,955

  

6.93

 

Five to ten years

  

 

454,581

  

6.67

 

After ten years

  

 

181,143

  

7.43

 

    

  

Total

  

 

912,598

  

6.94

 

    

  

Other securities:

             

Within one year

  

 

91,953

  

1.43

 

One to five years

  

 

617

  

6.32

 

Five to ten years

  

 

50,000

  

5.01

 

After ten years

  

 

52,204

  

5.58

 

    

  

Total

  

 

194,774

  

3.48

 

    

  

Securities with no stated maturity (2)

  

 

1,211,142

  

4.72

 

    

  

Total securities (4)

  

$

17,803,488

  

5.08

%

    

  


(1)   Included in U.S. Treasury and U.S. government agency obligations are mortgage-backed securities totaling $3.9 billion classified as available for sale and carried at fair value. These securities are included in each of the maturity categories based upon final stated maturity dates. The original contractual lives of these securities range from five to 30 years; however, a more realistic average maturity would be substantially shorter because of the monthly return of principal on certain securities.
(2)   Securities with no stated maturity includes equity investments which totalled $1.1 billion and trading securities which totalled $148.5 million.
(3)   Yields on tax-exempt securities are calculated on a taxable-equivalent basis.
(4)   Includes securities held to maturity of $55.5 million carried at amortized cost and securities available for sale and trading securities carried at estimated fair values of $17.6 billion and $148.5 million, respectively.

 

The available-for-sale portfolio composed 98.9% of total securities at December 31, 2002. Management believes that the high concentration of securities in the available-for-sale portfolio allows greater flexibility in the day-to-day management of the overall investment portfolio.

 

The market value of the available-for-sale portfolio at year-end 2002 was $536.1 million greater than the amortized cost of these securities. At December 31, 2002, BB&T’s available-for-sale portfolio had net unrealized appreciation, net of deferred income taxes, of $329.1 million, which is reported as a separate component of shareholders’ equity. At December 31, 2001, the available-for-sale portfolio had net unrealized appreciation of $288.1 million, net of deferred income taxes.

 

26


 

The fully taxable equivalent (“FTE”) yield on the total securities portfolio was 6.22% for the year ended December 31, 2002, compared to 7.06% for the prior year. The decrease in FTE yield was caused by the lower interest rate environment, which resulted in cash flows from the payments, prepayments, sales, calls and maturities of higher yielding securities being reinvested at lower interest rates during 2002. The yield on U.S. Treasury and government agency obligations decreased from 7.09% in 2001 to 6.12% in 2002, while the yield on mortgage-backed securities decreased from 6.97% to 6.49% and the FTE yield on state and municipal securities increased from 7.37% last year to 7.47% in the current year.

 

Loans and Leases

 

BB&T’s loan growth was negatively affected by the continued weakness in general economic conditions during 2002. End of period loans, excluding loans held for sale, increased $5.6 billion, or 12.3%, as compared to 2001. Average total loans and leases for 2002 increased $4.3 billion, or 9.2%, compared to 2001.

 

BB&T is a full-service lender with approximately one-half of its loan portfolio composed of business loans and one-half composed of loans to individual consumers. BB&T’s management emphasizes loans to small business, commercial middle market, direct retail and residential mortgage borrowers. Average commercial loans, including lease receivables, increased $2.7 billion, or 10.7%, in 2002 as compared to 2001, and now compose 55.0% of the loan portfolio, compared to 54.0% in 2001. Average consumer loans, which include sales finance, revolving credit and direct retail, increased $1.2 billion, or 10.2%, for the year ended December 31, 2002 as compared to the same period in 2001, and compose 26.1% of average loans, compared to 25.8% in 2001. Average mortgage loans increased $325.1 million, or 3.5%, in 2002 as compared to 2001, and represented the remaining 18.9% of average total loans for 2002, compared to 20.2% a year ago. BB&T is a large originator of residential mortgage loans, with 2002 originations of $14.1 billion. To improve the overall yield of the loan portfolio and to mitigate interest rate risk, BB&T sells most of its fixed-rate mortgage loans in the secondary market or securitizes the loans and transfers them to the securities portfolio. At December 31, 2002, BB&T was servicing $34.8 billion in residential mortgages. The mix of the consolidated loan portfolio in 2002 was very similar to that of one year ago.

 

The growth rates of average loans in the current year were affected by loan portfolios held by companies that were acquired during 2002. Also, the securitization of $377.4 million in loans during 2001 affected the reported growth in average mortgage loans. During 2002, loans totaling $1.2 billion, $1.9 billion and $1.2 billion were acquired through the purchases of Regional, AREA and MidAmerica, respectively. Excluding the effect of these purchase accounting transactions and the mortgage loan securitizations, average “internal” loan growth for the year ended December 31, 2002, was 2.0% compared to 2001. Excluding the effects of purchase accounting transactions and loan securitizations, average mortgage loans, including loans held for sale, decreased 3.6%, commercial loans and leases grew 3.1%, and consumer loans increased 4.5% in 2002 as compared to 2001.

 

The average annualized fully taxable equivalent (“FTE”) yields on commercial, consumer and mortgage loans for 2002 were 6.17%, 8.49% and 6.97%, respectively, resulting in a yield for the total loan portfolio of 6.93%, compared to 8.37% for the total portfolio in 2001. The 144 basis point decrease in the average yield on loans resulted from a lower average prime rate during late 2001 and throughout 2002, which was the product of continued aggressive actions taken by the Federal Reserve Board to stimulate the economy. During 2001, the Federal Reserve reduced the target Federal Funds Rate from 6.50% to 1.75%. During 2002, the Federal Reserve further reduced the intended Federal Funds Rate to 1.25% late in the year. As a result of the Federal Reserve Board’s actions, the average prime rate, which is the basis for pricing many commerical and consumer loans, averaged 4.68% in 2002, compared to 6.92% for 2001.

 

Asset Quality

 

While the slowdown in the economy has resulted in higher levels of nonperforming assets and net charge-offs, BB&T’s lending strategy, which focuses on relationship-based lending within our markets and smaller individual loan balances, continues to produce strong credit quality. BB&T’s asset quality, as measured by relative levels of nonperforming assets and net charge-offs, has remained approximately one-half that of published industry averages.

 

Nonperforming assets, which are composed of foreclosed real estate, repossessions, nonaccrual loans and leases and restructured loans, totaled $451.7 million at December 31, 2002, as compared to $373.6 million at

 

27


year-end 2001, an increase of 20.9%. As a percentage of total assets, nonperforming assets were .56% at December 31, 2002, compared to .53% at the end of 2001. As a percentage of loans and leases plus foreclosed property, nonperforming assets totaled .84% at December 31, 2002, compared to .79% at the end of 2001. The allowance for loan and lease losses, as a percentage of loans and leases, was 1.35% at December 31, 2002, compared to 1.36% at year-end 2001. Excluding loans held for sale, the ratio of the allowance for loan and lease losses to total loans and leases was 1.42% at both December 31, 2002 and 2001. Loans 90 days or more past due and still accruing interest increased to $115.0 million at year-end 2002 compared to $101.8 million at December 31, 2001. Net charge-offs as a percentage of average loans and leases increased to .48% for the year ended December 31, 2002, from .40% in 2001. As a result of the increase in net charge-offs, the ratio of the allowance for loan and lease losses to net charge-offs decreased from a multiple of 3.44 at the end of 2001 to a multiple of 2.94 as of December 31, 2002.

 

The following table summarizes asset quality information for BB&T for the past five years.

 

Table 13

Asset Quality

 

    

December 31,


 
    

2002


    

2001


    

2000


    

1999


    

1998


 
    

(Dollars in thousands)

 

Nonaccrual loans and leases (1)

  

$

374,842

 

  

$

316,607

 

  

$

180,638

 

  

$

144,247

 

  

$

145,599

 

Restructured loans

  

 

175

 

  

 

—  

 

  

 

492

 

  

 

1,681

 

  

 

3,744

 

Foreclosed property

  

 

76,647

 

  

 

56,964

 

  

 

55,199

 

  

 

47,143

 

  

 

60,030

 

    


  


  


  


  


Nonperforming assets

  

$

451,664

 

  

$

373,571

 

  

$

236,329

 

  

$

193,071

 

  

$

209,373

 

    


  


  


  


  


Loans 90 days or more past due and still accruing

  

$

115,047

 

  

$

101,778

 

  

$

81,629

 

  

$

66,241

 

  

$

68,360

 

    


  


  


  


  


Asset Quality Ratios: (2)

                                            

Nonaccrual and restructured loans and leases as a percentage of loans and leases

  

 

.70

%

  

 

.67

%

  

 

.40

%

  

 

.37

%

  

 

.41

%

Nonperforming assets as a percentage of:

                                            

Total assets

  

 

.56

 

  

 

.53

 

  

 

.36

 

  

 

.33

 

  

 

.39

 

Loans and leases plus foreclosed property

  

 

.84

 

  

 

.79

 

  

 

.53

 

  

 

.48

 

  

 

.58

 

Net charge-offs as a percentage of average loans and leases

  

 

.48

 

  

 

.40

 

  

 

.27

 

  

 

.26

 

  

 

.28

 

Net charge-offs excluding specialized lending as a percentage of average loans and leases (3)

  

 

.39

 

  

 

.34

 

  

 

.22

 

  

 

.22

 

  

 

.25

 

Allowance for losses as a percentage of loans and leases

  

 

1.35

 

  

 

1.36

 

  

 

1.29

 

  

 

1.33

 

  

 

1.35

 

Allowance for losses as a percentage of loans and leases held for investment

  

 

1.42

 

  

 

1.42

 

  

 

1.32

 

  

 

1.34

 

  

 

1.40

 

Ratio of allowance for losses to:

                                            

Net charge-offs

  

 

2.94

x

  

 

3.44

x

  

 

5.13

x

  

 

5.37

x

  

 

5.11

x

Nonaccrual and restructured loans and leases

  

 

1.93

 

  

 

2.04

 

  

 

3.19

 

  

 

3.63

 

  

 

3.29

 


NOTE:   (1)   Includes $144.8 million, $130.7 million, $73.4 million, $68.4 million and $77.5 million of impaired loans at December 31, 2002, 2001, 2000, 1999 and 1998, respectively. See Note 4 in the “Notes to Consolidated Financial Statements.”
  (2)   Items referring to loans and leases are net of unearned income and include loans held for sale.
  (3)   Excludes net charge-offs and average loans from BB&T’s sub-prime indirect automobile lending operations, insurance premium finance business and direct consumer finance operations.

 

Allowance for Loan and Lease Losses

 

BB&T’s allowance for loan and lease losses totaled $723.7 million at December 31, 2002, compared to $644.4 million at the end of 2001, an increase of 12.3%. As a percentage of loans and leases outstanding, the allowance decreased slightly from 1.36% at December 31, 2001, to 1.35% at the end of 2002. Excluding loans held for sale, the percentage was 1.42% at both period ends. The relatively steady ratio of the allowance as a percentage of loans and leases was a result of continued strong asset quality, including relatively stable levels of nonperforming assets as a percentage of total assets.

 

28


 

There were no significant changes in the estimation methods or fundamental assumptions used in the calculation of the allowance for loan losses at December 31, 2002 compared to 2001. See “Asset Quality” for disclosures regarding changes in the trends of credit quality.

 

Please refer to “Allowance for Loan and Lease Losses” in the “Description of Business” section, which describes BB&T’s allowance policy and methodologies and provides disclosures with respect to allowance allocations.

 

Deposits and Other Borrowings

 

Client deposits generated through the BB&T branch network are the largest source of funds used to support asset growth. While core deposits are BB&T’s primary source of funding, growth rates of core deposits have generally not kept pace with asset growth and, therefore, nondeposit funding sources have increasingly been used to support balance sheet growth.

 

Total deposits at December 31, 2002, were $51.3 billion, an increase of $6.5 billion, or 14.6%, compared to year-end 2001. The increase in deposits was driven by a $3.3 billion, or 23.6% increase in money rate savings accounts, a $924.7 million, or 13.3% increase in noninterest-bearing deposits, and a $2.3 billion, or 10.9% increase in certificates of deposits and other time deposits. For the year ended December 31, 2002, total deposits averaged $49.1 billion, an increase of $4.9 billion, or 11.0%, compared to 2001. The increase was the result of a $2.3 billion, or 18.6%, increase in average money rate savings, an increase of $1.6 billion, or 7%, in other time deposits, and a $995.4 million, or 16.0%, increase in noninterest-bearing deposits. During the same time periods, average savings and interest checking accounts remained flat at $3.4 billion. Other time deposits, including individual retirement accounts and certificates of deposit, remain BB&T’s largest category of deposits, comprising 48.3% of average total deposits for the year.

 

The average rates paid on interest-bearing deposits decreased to 2.39% during 2002, from 4.12% in 2001. The declining interest rate in 2002 was caused by the general slowdown in economic activity and aggressive actions by the Federal Reserve to lower short-term interest rates. The average rate paid on other time deposits, including individual retirement accounts and certificates of deposit, decreased to 3.42% in the current year from 5.45% in 2001. The average cost of money rate savings accounts decreased to 1.13% in the current year from 2.48% in 2001; interest checking decreased from 1.47% in 2001 to .67% in the current year; and the average cost of savings deposits decreased to .80% in 2002 from 1.42% in 2001.

 

During 2000, BB&T contracted with an independent third party for the disbursement of official checks. Under the terms of the agreement, BB&T acts as an agent for the third party in the issuance of official checks. Funds received from the buyers of official checks are transferred to the third party issuer to cover the checks when they are ultimately presented for payment. But for this arrangement with the third party, these funds would have remained at BB&T in the form of noninterest-bearing deposits. The official check program is contractually arranged to substantially limit BB&T’s exposure to loss, as the third party is required to invest the funds received and maintain a 1:1 relationship between outstanding checks and the balances available to cover the checks. BB&T monitors this relationship through a reconciliation process. The third party provided a letter of credit from another bank in favor of BB&T and has access to a revolving line of credit to further mitigate any risk that there would be inadequate funds to cover the outstanding balance of official checks sold. However, in the event that the third party failed to honor official checks BB&T had sold as its agent, it is likely that BB&T would choose to reimburse the purchasers, though not contractually obligated to do so. At December 31, 2002, the third party issuer had outstanding official checks that had been sold by BB&T totaling $580.1 million.

 

29


 

BB&T also uses various types of short-term borrowed funds to supplement deposits in order to fulfill funding needs. See Note 9. “Short-Term Borrowed Funds” in the “Notes to Consolidated Financial Statements” herein for further disclosure. The types of short-term borrowings utilized by the Corporation include Federal funds purchased, which composed 29.6% of total short-term borrowed funds, and securities sold under repurchase agreements, which comprised 46.5% of short-term borrowed funds at year-end 2002. Master notes, U.S. Treasury tax and loan deposit notes, short-term bank notes and short-term Federal Home Loan Bank (“FHLB”) advances are also utilized to meet short-term funding needs. Average short-term borrowed funds totaled $5.4 billion during 2002, a decrease of $870.6 million, or 13.9%, from 2001, while short-term borrowed funds at year-end 2002 were $5.4 billion, a decrease of $1.3 billion, or 18.8%, compared to year-end 2001. The rates paid on average short-term borrowed funds decreased from 3.80% in 2001 to 1.78% during 2002. The decrease in the cost of short-term borrowed funds resulted from the lower interest rate environment during 2002, including a 222 basis point decrease in the average Federal funds rate for 2002 compared to 2001.

 

BB&T also utilizes long-term debt to provide both funding and, to a lesser extent, regulatory capital. See Note 10. “Long-Term Debt” in the “Notes to Consolidated Financial Statements” herein for further disclosure. Long-term debt at December 31, 2002 totaled $13.6 billion, an increase of $1.9 billion, or 15.9%, from year-end 2001. The substantial increase in long-term borrowing during 2002 reflects BB&T’s efforts to take advantage of historically low interest rates. For the year ended December 31, 2002, average long-term debt increased $1.1 billion, or 10.0%, compared to the average for 2001. BB&T’s long-term debt consists primarily of FHLB advances to the Subsidiary Banks, which composed 70.5% of total outstanding long-term debt at December 31, 2002, and subordinated notes, which composed 17.3% of the year-end balance. FHLB advances are cost-effective long-term funding sources that provide BB&T with the flexibility to structure the debt in a manner that aids in the management of interest rate risk and liquidity. The remaining long-term debt consists of secured borrowings by Branch Bank, redeemable capital securities issued by the Corporation, mortgage indebtedness and capital leases. The average rate paid on long-term debt decreased from 5.53% during 2001 to 4.84% during 2002 because of the overall declining interest rate environment previously discussed.

 

Liquidity needs are a primary consideration in evaluating funding sources. BB&T’s strategy is to maintain funding flexibility, in order that the Corporation may react rapidly to opportunities that may become available in the marketplace. BB&T will continue to focus on traditional core funding strategies, supplemented by short-term and long-term borrowings. See “Liquidity, Inflation and Changing Interest Rates” for additional discussion.

 

Analysis of Results of Operations

 

Consolidated net income for 2002 totaled $1.3 billion, which generated basic earnings per share of $2.75 and diluted earnings per share of $2.72. Net income for 2001 was $973.6 million and net income for 2000 totaled $698.5 million. Basic earnings per share were $2.15 in 2001 and $1.55 in 2000, while diluted earnings per share were $2.12 and $1.53 for 2001 and 2000, respectively.

 

Two important and commonly used measures of bank profitability are return on average assets (net income as a percentage of average total assets) and return on average shareholders’ equity (net income as a percentage of average common shareholders’ equity). BB&T’s returns on average assets were 1.72%, 1.41% and 1.13% for the years ended December 31, 2002, 2001 and 2000, respectively. The returns on average common shareholders’ equity were 18.32%, 16.78% and 14.22% for the last three years.

 

Mergers and acquisitions have played an important role in the development of BB&T’s franchise. BB&T has been an active acquirer of financial institutions, insurance agencies and other nonbank fee income producing businesses. Refer to Note 2. in the “Notes to Consolidated Financial Statements” for a summary of mergers and acquisitions consummated during the three years ended December 31, 2002. As a result of this activity, the consolidated results of operations for the three year period covered by this discussion include the effects of merger-related and restructuring charges, expenses and certain gains related to the consummation of the transactions.

 

Merger-related charges and expenses include personnel-related items such as staff relocation costs, severance benefits, early retirement packages and contract settlements. They also include furniture, equipment and occupancy costs related to department and branch consolidations as well as costs related to converting the

 

30


data processing systems of the acquired companies to BB&T’s automation platform. Merger-related charges also include professional fees, advertising and asset write-offs incurred in connection with the mergers.

 

Merger-Related and Restructuring Charges

 

During 2002, BB&T recorded merger-related and restructuring charges of $39.3 million, which are reflected in BB&T’s Consolidated Statements of Income as noninterest expenses. These expenses were recorded in connection with the first quarter systems conversion of F&M National Corporation, the second quarter systems conversion of Community First Banking Company, and the mergers with MidAmerica, AREA, and Regional.

 

During 2001, BB&T recorded merger-related and restructuring charges of $199.0 million, which are reflected in BB&T’s Consolidated Statements of Income as noninterest expenses. In addition, $36.4 million was recorded as a provision for loan and lease losses in connection with the mergers with FCNB Corporation, Century South Banks, Inc., and F&M National Corporation. This provision was recorded to conform the merged entities’ credit policies to those of BB&T, including underwriting and risk rating standards, charge-offs, past due and nonaccrual loans, as well as to reflect impending changes in the management of problem loans.

 

During 2000, the Company recorded merger-related and restructuring charges totaling $143.2 million, which are reflected in BB&T’s Consolidated Statements of Income as noninterest expenses. In addition, $29.9 million of provision for loan and lease losses was recorded associated with BB&T’s mergers with Premier Bancshares, Inc., Hardwick Holding Company, First Banking Company of Southeast Georgia and One Valley Bancorp, Inc. These provisions were recorded to conform the merged entities’ credit policies to those of BB&T, including underwriting and risk rating standards, charge-offs, past due and nonaccrual loans, as well as to reflect impending changes in the management of problem loans.

 

The following table presents the components of merger-related and restructuring charges included in noninterest expenses. This table includes increases to previously recorded merger-related accruals and period expenses for merger-related items that must be expensed as incurred. Items that are required to be expensed as incurred include certain expenses associated with systems conversions, data processing, training, travel and other costs.

 

Summary of Merger-Related and Restructuring Charges

(Dollars in thousands)

 

    

For the Year Ended December 31,


    

2002


  

2001


  

2000


Severance and personnel-related costs

  

$

4,527

  

$

46,497

  

$

32,536

Occupancy and equipment charges

  

 

9,510

  

 

50,065

  

 

35,084

Systems conversions and related charges

  

 

11,700

  

 

35,025

  

 

31,880

Marketing and public relations

  

 

6,446

  

 

15,311

  

 

18,713

Asset write-offs, conforming policies and other merger-related charges

  

 

7,097

  

 

52,090

  

 

24,972

    

  

  

Total

  

$

39,280

  

$

198,988

  

$

143,185

    

  

  

 

Severance and personnel-related costs include severance, employee retention, payments related to change-in-control provisions of employment contracts, outplacement services and other benefits associated with employee termination, which typically occurs in corporate support and data processing functions. During 2002, BB&T estimated that 372 positions would be eliminated and 370 employees were, in fact, terminated prior to December 31, 2002. Approximately 90 of these employees will continue to receive severance payments during 2003. During 2001, BB&T estimated that approximately 400 positions would be eliminated and approximately 350 employees were terminated and received severance by the end of 2001. During 2000, BB&T estimated that 450 positions would be eliminated in connection with mergers and approximately 430 employees were terminated and received severance.

 

Occupancy and equipment charges represent merger-related costs associated with lease terminations, obsolete equipment write-offs, and the sale of duplicate facilities and equipment. Systems conversions and related charges include expenses necessary to convert and combine the acquired branches and operations of merged

 

31


companies. Marketing and public relations costs represent direct media advertising relative to the acquisitions and local charitable contributions that are required by the merger agreements. The other merger-related charges are composed of asset and supply inventory write-offs, which are primarily composed of unreconciled differences in an acquired institution’s accounts or unreconciled differences identified during systems conversions, litigation accruals, costs to conform an acquired institution’s accounting policies to those of BB&T and other similar charges.

 

In conjunction with the consummation of an acquisition and the completion of other requirements, BB&T typically accrues certain merger-related expenses related to estimated severance costs, costs to terminate lease contracts, costs related to the disposal of duplicate facilities and equipment, costs to terminate data processing contracts and other costs associated with the acquisition. The following tables present a summary of activity with respect to BB&T’s merger and restructuring accruals related to the mergers listed above, with the more significant mergers (One Valley Bancorp, Inc. and F&M National Corporation) presented separately. These tables include costs reflected as expenses, as presented in the table above, and accruals recorded through purchase accounting adjustments.

 

    

One Valley Bancorp, Inc.


    

(Dollars in thousands)

 

    

Balance December 31, 2000


  

Utilized in 2001


    

Balance December 31, 2001


  

Utilized in 2002


    

Balance December 31, 2002


Severance and personnel-related charges

  

$

3,719

  

$

3,719

    

$

—  

  

$

—  

    

$

—  

Occupancy and equipment charges

  

 

4,737

  

 

97

    

 

4,640

  

 

3,912

    

 

728

Systems conversions and related charges

  

 

128

  

 

117

    

 

11

  

 

11

    

 

—  

Other merger-related charges

  

 

10,009

  

 

10,009

    

 

—  

  

 

—  

    

 

—  

    

  

    

  

    

Total

  

$

18,593

  

$

13,942

    

$

4,651

  

$

3,923

    

$

728

    

  

    

  

    

 

   

F&M National Corporation


   

(Dollars in thousands)

 

   

Expensed in 2001


 

Utilized in 2001


  

Balance December 31, 2001


  

Expensed in 2002


 

Utilized in 2002


  

Balance December 31, 2002


Severance and personnel-related charges

 

$

15,830

 

$

4,775

  

$

11,055

  

$

1,417

 

$

11,592

  

$

880

Occupancy and equipment charges

 

 

20,455

 

 

9,463

  

 

10,992

  

 

—  

 

 

797

  

 

10,195

Systems conversions and related charges

 

 

5,165

 

 

790

  

 

4,375

  

 

2,825

 

 

7,200

  

 

—  

Other merger-related charges

 

 

11,099

 

 

7,989

  

 

3,110

  

 

—  

 

 

2,113

  

 

997

   

 

  

  

 

  

Total

 

$

52,549

 

$

23,017

  

$

29,532

  

$

4,242

 

$

21,702

  

$

12,072

   

 

  

  

 

  

 

The remaining accruals at December 31, 2002 for One Valley Bancorp, Inc. and F&M National Corporation are related primarily to costs to exit certain leases and to dispose of excess facilities and equipment. These liabilities will be utilized in the future upon termination of the various leases and sale of duplicate property. These accruals are expected to be utilized in 2003 unless they relate to specific contracts expiring in later years.

 

Activity with respect to the merger and restructuring accruals for all other mergers, which are discussed above, is presented in the accompanying table:

 

      

All Other Merger Accrual Activity


      

(Dollars in thousands)

 

      

Balance December 31, 2000


  

Additions in 2001


  

Utilized in 2001


    

Balance December 31, 2001


  

Additions in 2002


  

Utilized in 2002


    

Balance December 31, 2002


Severance and personnel-related charges

    

$

9,317

  

$

33,956

  

$

22,957

    

$

20,316

  

$

38,597

  

$

42,964

    

$

15,949

Occupancy and equipment charges

    

 

16,602

  

 

18,514

  

 

13,685

    

 

21,431

  

 

31,668

  

 

22,269

    

 

30,830

Systems conversions and related charges

    

 

3,601

  

 

11,935

  

 

8,583

    

 

6,953

  

 

9,453

  

 

14,668

    

 

1,738

Other merger-related charges

    

 

7,711

  

 

16,237

  

 

11,948

    

 

12,000

  

 

21,438

  

 

23,154

    

 

10,284

      

  

  

    

  

  

    

Total

    

$

37,231

  

$

80,642

  

$

57,173

    

$

60,700

  

$

101,156

  

$

103,055

    

$

58,801

      

  

  

    

  

  

    

 

The liabilities for severance and personnel-related costs relate to severance liabilities that will be paid out based on such factors as expected termination dates, the provisions of employment contracts and the terms of BB&T’s severance plans. The remaining occupancy and equipment accruals relate to costs to exit certain leases

 

32


and to dispose of excess facilities and equipment. This liability will be utilized upon termination of the various leases and sale of duplicate property. The liabilities associated with systems conversions relate to termination penalties on contracts with information technology service providers. These liabilities will be utilized as the contracts are paid out and expire. The other merger-related liabilities relate to litigation accruals, accruals to conform the accounting policies of acquired institutions to those of BB&T, and other similar charges.

 

Because BB&T often has multiple merger integrations in process, and, due to limited resources, must schedule in advance significant events in the merger conversion and integration process, BB&T’s merger process and utilization of merger accruals may cover an extended period of time. In general, a major portion of accrued costs are utilized in conjunction with or immediately following the systems conversion, when most of the duplicate positions are eliminated and the terminated employees begin to receive severance. Other accruals are utilized over time based on the sale, closing or disposal of duplicate facilities or equipment or the expiration of lease contracts. Merger accruals are re-evaluated periodically and adjusted as necessary. Most of the remaining accruals at December 31, 2002 are expected to be utilized during 2003, unless they relate to specific contracts that expire in later years.

 

The accruals utilized during 2002 in the table entitled “All Other Merger Accrual Activity” above include $10.5 million of accrual reversals resulting from revisions to BB&T’s initial estimates of merger accruals for facilities and personnel-related costs. There were no other material adjustments to merger-related accruals for any of the periods presented.

 

Net Interest Income

 

Net interest income is BB&T’s primary source of revenue. Net interest income is influenced by a number of factors, including the volume of interest-earning assets and interest-bearing liabilities and the interest rates earned and paid thereon. The difference between rates earned on interest-earning assets (with an adjustment made to tax-exempt income to provide comparability with taxable income, i.e. the “FTE” adjustment) and the cost of the supporting funds is measured by the net interest margin. The accompanying table presents the dollar amount of changes in interest income and interest expense, and distinguishes between the changes related to increases or decreases in average outstanding balances of interest-earning assets and interest-bearing liabilities (volume), and the changes related to increases or decreases in average interest rates on such assets and liabilities (rate). Changes attributable to both volume and rate have been allocated proportionately.

 

33


Table 14

FTE Net Interest Income and Rate Volume Analysis

For the Years Ended December 31, 2002, 2001 and 2000

 

                                                

2002 vs. 2001


    

2001 vs. 2000


 
   

Average Balances


 

Yield / Rate


    

Income / Expense


  

Increase

(Decrease)


   

Change due to


    

Increase (Decrease)


   

Change due to


 
   

2002


 

2001


 

2000


 

2002


   

2001


    

2000


    

2002


 

2001


 

2000


    

Rate


   

Volume


      

Rate


   

Volume


 

Assets

 

(Dollars in thousands)

Securities (1):

                                                                                                         

U.S. Treasury, U.S. government agency and other (5)

 

$

16,005,557

 

$

14,830,331

 

$

14,144,391

 

6.15

%

 

7.04

%

  

6.90

%

  

$

983,967

 

$

1,043,583

 

$

976,057

  

$

(59,616

)

 

$

(138,287

)

 

$

78,671

 

  

$

67,526

 

 

$

19,528

 

 

$

47,998

 

States and political subdivisions

 

 

933,532

 

 

1,056,401

 

 

1,096,852

 

7.47

 

 

7.37

 

  

7.49

 

  

 

69,743

 

 

77,868

 

 

82,143

  

 

(8,125

)

 

 

1,042

 

 

 

(9,167

)

  

 

(4,275

)

 

 

(1,279

)

 

 

(2,996

)

   

 

 

 

 

  

  

 

 

  


 


 


  


 


 


Total securities (5)

 

 

16,939,089

 

 

15,886,732

 

 

15,241,243

 

6.22

 

 

7.06

 

  

6.94

 

  

 

1,053,710

 

 

1,121,451

 

 

1,058,200

  

 

(67,741

)

 

 

(137,245

)

 

 

69,504

 

  

 

63,251

 

 

 

18,249

 

 

 

45,002

 

Other earning assets (2)

 

 

439,097

 

 

430,912

 

 

440,804

 

1.79

 

 

3.99

 

  

6.67

 

  

 

7,848

 

 

17,185

 

 

29,384

  

 

(9,337

)

 

 

(9,657

)

 

 

320

 

  

 

(12,199

)

 

 

(11,554

)

 

 

(645

)

Loans and leases, net of unearned income (1)(3)(4)(5)

 

 

50,851,417

 

 

46,587,780

 

 

41,933,641

 

6.93

 

 

8.37

 

  

9.36

 

  

 

3,523,050

 

 

3,900,844

 

 

3,924,491

  

 

(377,794

)

 

 

(713,443

)

 

 

335,649

 

  

 

(23,647

)

 

 

(435,680

)

 

 

412,033

 

   

 

 

 

 

  

  

 

 

  


 


 


  


 


 


Total earning assets

 

 

68,229,603

 

 

62,905,424

 

 

57,615,688

 

6.72

 

 

8.01

 

  

8.70

 

  

 

4,584,608

 

 

5,039,480

 

 

5,012,075

  

 

(454,872

)

 

 

(860,345

)

 

 

405,473

 

  

 

27,405

 

 

 

(428,985

)

 

 

456,390

 

   

 

 

 

 

  

  

 

 

  


 


 


  


 


 


Non-earning assets

 

 

7,549,430

 

 

5,917,605

 

 

4,197,727

                                                                                       
   

 

 

                                                                                       

Total assets

 

$

75,779,033

 

$

68,823,029

 

$

61,813,415

                                                                                       
   

 

 

                                                                                       

Liabilities and Shareholders' Equity

                                                                                                         

Interest-bearing deposits:

                                                                                                         

Savings and interest checking

 

$

3,363,118

 

$

3,361,694

 

$

3,888,958

 

0.75

 

 

1.44

 

  

1.89

 

  

 

25,062

 

 

48,408

 

 

73,470

  

 

(23,346

)

 

 

(23,366

)

 

 

20

 

  

 

(25,062

)

 

 

(15,961

)

 

 

(9,101

)

Money rate savings

 

 

14,824,396

 

 

12,502,120

 

 

10,494,588

 

1.13

 

 

2.48

 

  

3.68

 

  

 

167,329

 

 

310,196

 

 

386,635

  

 

(142,867

)

 

 

(192,504

)

 

 

49,637

 

  

 

(76,439

)

 

 

(141,478

)

 

 

65,039

 

Other time deposits

 

 

23,728,465

 

 

22,171,321

 

 

21,135,213

 

3.42

 

 

5.45

 

  

5.80

 

  

 

810,667

 

 

1,207,665

 

 

1,225,143

  

 

(396,998

)

 

 

(476,803

)

 

 

79,805

 

  

 

(17,478

)

 

 

(75,914

)

 

 

58,436

 

   

 

 

 

 

  

  

 

 

  


 


 


  


 


 


Total interest-bearing deposits

 

 

41,915,979

 

 

38,035,135

 

 

35,518,759

 

2.39

 

 

4.12

 

  

4.74

 

  

 

1,003,058

 

 

1,566,269

 

 

1,685,248

  

 

(563,211

)

 

 

(692,673

)

 

 

129,462

 

  

 

(118,979

)

 

 

(233,353

)

 

 

114,374

 

Short-term borrowed funds

 

 

5,393,479

 

 

6,264,100

 

 

6,910,849

 

1.78

 

 

3.80

 

  

5.95

 

  

 

95,823

 

 

238,315

 

 

411,528

  

 

(142,492

)

 

 

(113,021

)

 

 

(29,471

)

  

 

(173,213

)

 

 

(137,563

)

 

 

(35,650

)

Long-term debt

 

 

12,134,712

 

 

11,030,312

 

 

7,705,449

 

4.84

 

 

5.53

 

  

6.06

 

  

 

587,703

 

 

610,352

 

 

467,136

  

 

(22,649

)

 

 

(80,366

)

 

 

57,717

 

  

 

143,216

 

 

 

(43,721

)

 

 

186,937

 

   

 

 

 

 

  

  

 

 

  


 


 


  


 


 


Total interest-bearing liabilities

 

 

59,444,170

 

 

55,329,547

 

 

50,135,057

 

2.84

 

 

4.36

 

  

5.11

 

  

 

1,686,584

 

 

2,414,936

 

 

2,563,912

  

 

(728,352

)

 

 

(886,060

)

 

 

157,708

 

  

 

(148,976

)

 

 

(414,637

)

 

 

265,661

 

   

 

 

 

 

  

  

 

 

  


 


 


  


 


 


Noninterest-bearing deposits

 

 

7,202,129

 

 

6,206,746

 

 

5,897,181

                                                                                       

Other liabilities

 

 

2,019,244

 

 

1,484,547

 

 

869,742

                                                                                       

Shareholders' equity

 

 

7,113,490

 

 

5,802,189

 

 

4,911,435

                                                                                       
   

 

 

                                                                                       

Total liabilities and shareholders' equity

 

$

75,779,033

 

$

68,823,029

 

$

61,813,415

                                                                                       
   

 

 

                                                                                       

Average interest rate spread

                   

3.88

 

 

3.65

 

  

3.59

 

                                                                    

Net interest margin

                   

4.25

%

 

4.17

%

  

4.25

%

  

$

2,898,024

 

$

2,624,544

 

$

2,448,163

  

$

273,480

 

 

$

25,715

 

 

$

247,765

 

  

$

176,381

 

 

$

(14,348

)

 

$

190,729

 

                     

 

  

  

 

 

  


 


 


  


 


 


Taxable equivalent adjustment

                                       

$

150,564

 

$

190,865

 

$

133,666

                                                 
                                         

 

 

                                                 

(1)   Yields related to securities based on amortized cost, loans and leases exempt from income taxes are stated on a taxable equivalent basis assuming tax rates in effect for the periods presented which approximate 39% in total.
(2)   Includes Federal funds sold and securities purchased under resale agreements or similar arrangements.
(3)   Loan fees, which are not material for any of the periods shown, have been included for rate calculation purposes.
(4)   Nonaccrual loans have been included in the average balances. Only the interest collected on such loans has been included as income.
(5)   Includes assets which were held for sale or available for sale at amortized cost and trading securities at estimated fair value.

 

 

34


For 2002, net interest income on an FTE-adjusted basis totaled $2.9 billion, compared with $2.6 billion in 2001 and $2.4 billion in 2000. The increase in net interest income during 2002 resulted primarily from a decrease in total interest expense, which was caused by substantially lower interest rates during 2002 as compared to 2001. The lower average cost of funds resulted in a decrease of $728.4 million in total interest expense. Interest income from loans decreased $377.8 million, and interest income from investment securities decreased $67.7 million.

 

The FTE-adjusted net interest margin is the primary measure used in evaluating the effectiveness of the management of earning assets and the liabilities funding those assets. The FTE-adjusted net interest margin was 4.25% in 2002, 4.17% in 2001 and 4.25% in 2000. In addition to changes in the composition of BB&T’s earning assets and interest bearing liabilities, the primary reason for the fluctuations in the net interest margin was the rapidly declining interest rate environment prevailing during 2002 and 2001 as the Federal Reserve reduced short-term interest rates due to a weakening economy. Throughout 2001, the Federal Reserve took aggressive actions to lower the level of interest rates by reducing the benchmark federal funds rate by 475 basis points from 6.50% at the beginning of the year to 1.75% at year-end where it remained through the first eleven months of 2002. As a result, the prime rate, which is the basis for pricing many commercial and consumer loans, also declined by 475 basis points from 9.50% at the beginning of 2001 to 5.00% at year-end and remained at 4.75% during most of 2002. During the fourth quarter of 2002, the Federal Reserve further reduced the federal funds rate by 50 basis points to 1.25%, which in turn lowered the prime rate to 4.25% at the end of 2002. Such actions initially contributed to BB&T’s interest sensitive assets repricing more quickly overall than its interest-bearing liabilities during 2001, which resulted in an eight basis points decrease in the FTE-adjusted net interest margin during 2001 compared to 2000. During 2002, as interest rates stabilized, BB&T’s interest-bearing liabilities also repriced at the lower interest rates, which, together with a shift in the composition of deposits toward lower cost transaction accounts, resulted in an eight basis points increase in the FTE-adjusted net interest margin during 2002 compared to 2001.

 

Provision for Loan and Lease Losses

 

A provision for loan and lease losses is charged against earnings in order to maintain the allowance for loan and lease losses at a level that reflects management’s evaluation of the incurred losses inherent in the portfolio. The amount of the provision is based on continuing assessments of nonperforming and “watch list” loans, analytical reviews of loan loss experience in relation to outstanding loans, loan charge-offs, nonperforming asset trends and management’s judgment with respect to current and expected economic conditions and their impact on the existing loan portfolio. The provision for loan and lease losses recorded by BB&T in 2002 was $263.7 million, compared with $224.3 million in 2001 and $147.2 million in 2000.

 

The 17.6% increase in the current year provision for loan and lease losses resulted from a combination of factors, including a 31.8% increase in net charge-offs during the year and growth in the loan portfolio. Net charge-offs were .48% of average loans and leases for 2002 compared to .40% of average loans during 2001. The allowance for loan and lease losses was 1.35% of loans and leases outstanding and was 1.93x total nonaccrual and restructured loans and leases at year-end 2002, compared to 1.36% and 2.04x, respectively, at December 31, 2001.

 

Noninterest Income

 

Noninterest income includes service charges on deposit accounts, trust revenue, mortgage banking income, investment banking and brokerage fees, insurance commissions, gains and losses on securities transactions and other commissions and fees derived from bank-related activities.

 

Noninterest income for 2002 totaled $1.7 billion, compared with $1.4 billion in 2001 and $846.8 million in 2000. The 2002 noninterest income reflects an increase of $312.1 million, or 22.6%, compared to 2001. Noninterest income for 2001 was $533.6 million, or 63.0%, higher than 2000. The increase in noninterest income for 2002 is primarily the result of substantial growth in insurance commissions from BB&T’s agency network and gains from sales of securities available for sale as well as increased service charges on deposits, increased mortgage banking income, and higher levels of investment banking and brokerage fees and commissions. The 2000 results include the effect of the restructuring of the securities portfolio during the second and third quarters of the year (as further discussed in the “Securities” section), which reduced total noninterest income by $222 million. The major categories of noninterest income and their fluctuations are discussed in the following paragraphs.

 

35


 

Service charges on deposit accounts represent BB&T’s largest category of noninterest revenue. Such revenues totaled $402.5 million in 2002, an increase of $53.0 million, or 15.2%, compared to 2001. Service charges during 2001 totaled $349.5 million, which represented an increase of $57.0 million, or 19.5% compared to 2000. The primary factors contributing to the 2002 increase were NSF and overdraft charges on personal accounts, which were $34.9 million more than in 2001, and commercial account analysis fees, which grew $20.9 million. Increases in these same categories composed the bulk of the growth in this category of revenue in 2001 compared to 2000.

 

Income from mortgage banking activities (which includes revenues from originating, marketing and servicing mortgage loans and valuation adjustments related to capitalized mortgage servicing rights) totaled $172.8 million in 2002, $148.9 million in 2001 and $104.6 million in 2000. In 2002, mortgage banking income increased $23.9 million, or 16.0%, compared to 2001. The increase in mortgage banking income in 2002 resulted from substantially higher mortgage loan originations as a result of the continued low interest rate environment, which brought about increases in origination fees, underwriting fees and servicing fees, which rose $7.8 million, $8.2 million and $24.5 million, respectively, compared to 2001. BB&T originated a record $14.1 billion in mortgage loans in 2002 compared to $10.5 billion in 2001 and $4.7 billion in 2000. Accordingly, gains from the sale of mortgage loans increased by $62.9 million compared to 2001. While lower interest rates in 2002 produced record originations volume, they also led to increased prepayment rates which lowered the value of existing mortgage servicing rights. As a result, BB&T recorded net impairment charges of $152.4 million during 2002, compared to net impairment charges of $61.6 million in 2001. Mortgage revenues for 2002 included a $14.5 million gain due to a new accounting requirement to record interest rate lock commitments at fair value with related changes recorded in earnings. In 2001, mortgage banking income increased $44.4 million, or 42.4%, compared to 2000 as a result of factors caused by the 123% increase in mortgage loan origination volume.

 

BB&T has an extensive insurance agency network, which is the 10th largest in the nation. Commission income from BB&T’s insurance operations totaled $313.4 million in 2002, an increase of $123.0 million, or 64.6%, compared to 2001. Commission income for 2001 totaled $190.4 million, an increase of $28.4 million, or 17.5% compared to 2000. During 2002 and 2001, BB&T continued to expand its insurance operations through acquisitions of additional agencies in the Company’s market area. These acquisitions, all of which were accounted for as purchases, were responsible for $96.9 million of the increase in agency insurance commissions during 2002 and $24.6 million in 2001. Including growth from acquired agencies, BB&T’s property and casualty commissions increased $96.4 million. Similar growth in these product lines also drove the 2001 increase.

 

Revenue from corporate and personal trust services totaled $94.5 million in 2002, $90.9 million in 2001 and $80.0 million in 2000. The 2002 revenue reflects an increase of $3.6 million, or 3.9% over 2001, which was $10.9 million, or 13.6%, more than 2000. Managed assets totaled $20.9 billion at the end of 2002 compared to $16.7 billion at December 31, 2001. The revenue increase in 2002 was driven by higher general trust services income and revenues from the management of estates. The majority of the growth in trust revenue and managed assets in 2002 resulted from the acquisitions of AREA and MidAmerica. Growth in revenues and managed assets have been depressed during the last two years by declining equity markets. The revenue increase in 2001 was primarily the result of internal growth driven by increased general trust services income and mutual fund management fees.

 

Net gains on sales of securities totaled $170.1 million in 2002 and $122.1 million in 2001 compared to net losses of $219.4 million in 2000. Excluding the effect of gains realized during 2002 and 2001 to economically offset increases in the valuation allowance of mortgage servicing rights, the gain realized from the sale of BB&T’s investment in an electronic transaction processing company in 2001, and losses incurred as a result of the restructuring of the available-for-sale securities portfolio during 2000, all previously discussed in the “Securities” section, net gains on sales of securities were $13.7 million, $10.8 million, and $2.6 million for the years ended December 31, 2002, 2001, and 2000, respectively.

 

Investment banking and brokerage fees and commissions totaled $210.6 million in 2002, $175.3 million in 2001 and $163.5 million in 2000. The 2002 revenue reflects an increase of $35.3 million, or 20.1% over 2001, which was $11.8 million, or 7.2% greater than 2000. The large increase in 2002 over 2001 was due to higher fixed income securities underwriting fees, retail brokerage fees and investment banking income at BB&T’s full-service brokerage and investment banking subsidiary, Scott & Stringfellow. The increase in 2001 over 2000 resulted in part from the purchase of Edgar M. Norris & Co., which added $4.8 million in revenues, as well as internal growth in fees and commissions from brokerage and underwriting services.

 

36


 

Other nondeposit fees and commissions, including bankcard fees and merchant discounts, totaled $208.5 million in 2002, an increase of $21.0 million, or 11.2%, compared with $187.5 million earned in 2001, which represented an increase of $21.0 million, or 12.6%, over the $166.5 million in 2000 revenue. Major sources of the increase in 2002 revenue include bankcard fees and merchant discounts, which increased $6.0 million, or 9.8%, check card interchange fees, which increased $8.4 million, or 31.7%, and gift card income, which increased $5.1 million. The increase in other nondeposit fees and commissions in 2001 compared to 2000 was primarily the result of higher bankcard fees and merchant discounts, increased ATM and point of sale fees, and income from the official check outsourcing program, which began mid-year 2000.

 

Other income totaled $120.1 million in 2002, an increase of $4.5 million, or 3.9%, compared with $115.6 million earned in 2001, which represented an increase of $18.6 million, or 19.1%, over the $97.0 million earned in 2000. The primary components of the increase in 2002 were higher income from life insurance, which increased $22.7 million, or 34.5%, and higher income from check sales, which grew by $3.3 million. These increases were partially offset by a write-down in the value of investments in limited partnerships totaling $11.1 million, a decrease in amortization of negative goodwill in the amount of $4.8 million compared to 2001, and a loss on non-hedging derivatives in the amount of $5.6 million. The primary component of the increase in 2001 was income from life insurance, which increased $26.2 million, or 66.2%. This increase was partially offset a decrease in amortization of negative goodwill in the amount of $3.7 million, or 34.0%, compared to 2000.

 

The ability to generate significant amounts of noninterest revenues in the future will be very important to the continued success of BB&T. Through its subsidiaries, BB&T will continue to focus on asset management, mortgage banking, trust, insurance, investment and brokerage services, as well as other fee-producing products and services. BB&T plans to continue to pursue acquisitions of additional insurance agencies and asset management companies, as well as explore strategic acquisitions of other nonbank entities as a means of expanding fee-based revenues. Also, among BB&T’s principal strategies following the acquisition of a financial institution is the cross-sell of noninterest income generating products and services to the acquired institution’s client base.

 

The following table provides a breakdown of BB&T’s noninterest income:

 

Table 15

Noninterest Income

 

                     

% Change


 
    

Years Ended December 31,


    

2002 v. 2001


    

2001 v. 2000


 
    

2002


  

2001


  

2000


       
    

(Dollars in thousands)

 

Service charges on deposits

  

$

402,476

  

$

349,522

  

$

292,492

 

  

15.2

%

  

19.5

%

Mortgage banking income

  

 

172,829

  

 

148,936

  

 

104,579

 

  

16.0

 

  

42.4

 

Trust income

  

 

94,463

  

 

90,898

  

 

80,039

 

  

3.9

 

  

13.6

 

Insurance commissions

  

 

313,436

  

 

190,446

  

 

162,054

 

  

64.6

 

  

17.5

 

Securities gains (losses), net

  

 

170,100

  

 

122,126

  

 

(219,366

)

  

39.3

 

  

NM

 

Bankcard fees and merchant discounts

  

 

66,848

  

 

60,859

  

 

57,851

 

  

9.8

 

  

5.2

 

Investment banking and brokerage fees and commissions

  

 

210,586

  

 

175,296

  

 

163,480

 

  

20.1

 

  

7.2

 

Other bank service fees and commissions

  

 

132,945

  

 

118,832

  

 

101,284

 

  

11.9

 

  

17.3

 

International income

  

 

8,709

  

 

7,806

  

 

7,337

 

  

11.6

 

  

6.4

 

Other noninterest income

  

 

120,083

  

 

115,618

  

 

97,037

 

  

3.9

 

  

19.1

 

    

  

  


  

  

Total noninterest income

  

$

1,692,475

  

$

1,380,339

  

$

846,787

 

  

22.6

%

  

63.0

%

    

  

  


  

  


NM—not meaningful

 

Noninterest Expense

 

Noninterest expense totaled $2.4 billion in 2002, $2.2 billion in 2001 and $2.0 billion in 2000. Certain significant items principally stemming from mergers and acquisitions were recorded as charges to noninterest expense during 2002, 2001 and 2000. In 2002, $39.3 million in pretax merger-related charges were recorded, while 2001 included $199.0 million in merger-related charges and $143.2 million were recognized in 2000. Additional

 

37


disclosures related to these merger-related charges are presented above in “Merger-Related and Restructuring Charges.” Total noninterest expense increased $156.3 million, or 7.0%, from 2001 to 2002 and $228.2 million, or 11.4%, from 2000 to 2001. The 2002 growth rate includes the effects of acquisitions accounted for as purchases during 2002, including Regional, AREA, MidAmerica, CRC, and several nonbank financial services companies and insurance agencies, which added costs of $67.9 million. Excluding the effects of the timing of such purchase acquisitions, noninterest expense increased by 4.4% compared to 2001. The growth in 2001 was similarly affected by acquisitions accounted for as purchases during 2001, including Community First Banking Company, Virginia Capital Bancshares, Inc., FirstSpartan Financial Corp., BankFirst Corporation, Edgar M. Norris & Co., Laureate Capital Corp., and several insurance agencies. The categories of noninterest expense creating these increases are further explained below.

 

Total personnel expense, the largest component of noninterest expense, totaled $1.3 billion in 2002, an increase of 15.2%, compared to the $1.1 billion in personnel expense incurred in 2001. The 2001 expense reflected an increase of $111.1 million, or 10.9%, compared to the $1.0 billion recorded in 2000. Total personnel expense includes salaries and wages, as well as pension and other employee benefit costs. The 2002 increase in personnel expenses was primarily caused by the effect of acquisitions, which accounted for $137.2 million of the increase, as well as higher mortgage loan production incentive compensation and investment banking incentive compensation, which grew $15.1 million and $14.8 million, respectively. In addition, pension plan expense more than doubled, increasing $15.8 million, or 117%, compared to 2001. The increase in 2001 compared to 2000 was primarily due to the same factors that caused the 2002 increase.

 

Net occupancy and equipment expense totaled $341.1 million in 2002, $303.4 million in 2001 and $282.5 million in 2000. The net occupancy and equipment expense for 2002 reflects an increase of $37.7 million, or 12.4% compared to 2001, which was $20.9 million, or 7.4% greater than the expense incurred in 2000. The increase during 2002 was due to higher rent on buildings and premises, information technology equipment expenses, maintenance and utility expenses and real estate taxes, which increased $11.3 million, $8.3 million, $4.5 million, and $4.0 million, respectively, from 2001. The increase in 2001 compared to 2000 was generally due to the same factors that caused the 2002 increase.

 

Amortization expense associated with intangible assets totaled $20.9 million in 2002, $72.7 million in 2001 and $64.6 million in 2000. The decrease in 2002 is due to the adoption of SFAS No. 142, “Goodwill and Other Intangible Assets”, which ended the amortization of goodwill effective January 1, 2002. Amortization of capitalized mortgage servicing rights totaled $100.1 million, $46.0 million and $18.8 million during 2002, 2001 and 2000, respectively. These increases were caused by significant growth in the balance of capitalized mortgage servicing rights as a result of substantially higher mortgage loan originations during 2002 and 2001 as a result of favorable historically low interest rates.

 

Professional services expenses totaled $73.5 million, an increase of $14.2 million, or 24.0%, compared to the $59.3 million incurred in 2001. This increase was primarily driven by higher legal expenses and accounting fees. The 2001 professional services expenses reflect a $9.2 million, or 18.4%, increase over 2000. The increase was caused by the same factors that affected the 2002 increase.

 

Other noninterest expense totaled $512.9 million for 2002, an increase of $90.8 million, or 21.5%, compared to 2001, which reflected an increase of $4.1 million, or 1.0% compared to the $426.2 million incurred in 2000. The majority of the 2002 increase resulted from higher software expenses, deposit related expenses, employee travel, courier and postage expenses. The 2001 increase was caused by increases in the same categories that affected the 2002 expenses.

 

38


 

The following table presents a breakdown of BB&T’s noninterest expenses for the past three years:

 

Table 16

Noninterest Expense

 

                   

% Change


 
    

Years Ended December 31,


  

2002 v.

2001


    

2001 v.

2000


 
    

2002


  

2001


  

2000


     
    

(Dollars in thousands)

 

             

Salaries and wages

  

$

1,063,261

  

$

932,635

  

$

840,263

  

14.0

%

  

11.0

%

Pension and other employee benefits

  

 

234,586

  

 

194,223

  

 

175,512

  

20.8

 

  

10.7

 

Net occupancy expense on bank premises

  

 

156,670

  

 

133,768

  

 

125,402

  

17.1

 

  

6.7

 

Furniture and equipment expense

  

 

184,402

  

 

169,618

  

 

157,105

  

8.7

 

  

8.0

 

Regulatory charges

  

 

11,807

  

 

11,684

  

 

11,311

  

1.1

 

  

3.3

 

Foreclosed property expense

  

 

7,321

  

 

2,745

  

 

5,489

  

166.7

 

  

(50.0

)

Amortization of intangibles

  

 

20,885

  

 

72,693

  

 

64,634

  

(71.3

)

  

12.5

 

Software

  

 

36,608

  

 

28,415

  

 

21,956

  

28.8

 

  

29.4

 

Telephone

  

 

44,005

  

 

43,010

  

 

45,308

  

2.3

 

  

(5.1

)

Advertising and public relations

  

 

27,537

  

 

26,134

  

 

28,517

  

5.4

 

  

(8.4

)

Travel and transportation

  

 

24,012

  

 

23,555

  

 

20,149

  

1.9

 

  

16.9

 

Professional services

  

 

73,496

  

 

59,255

  

 

50,039

  

24.0

 

  

18.4

 

Supplies

  

 

32,464

  

 

32,484

  

 

30,559

  

(0.1

)

  

6.3

 

Loan and lease expense

  

 

64,225

  

 

52,007

  

 

41,295

  

23.5

 

  

25.9

 

Deposit related expense

  

 

25,750

  

 

20,492

  

 

17,950

  

25.7

 

  

14.2

 

Merger-related and restructuring charges

  

 

39,280

  

 

198,988

  

 

143,185

  

(80.3

)

  

39.0

 

Amortization of mortgage servicing rights

  

 

100,080

  

 

46,032

  

 

18,767

  

117.4

 

  

145.3

 

Other noninterest expenses

  

 

239,149

  

 

181,534

  

 

203,650

  

31.7

 

  

(10.9

)

    

  

  

  

  

Total noninterest expense

  

$

2,385,538

  

$

2,229,272

  

$

2,001,091

  

7.0

%

  

11.4

%

    

  

  

  

  

 

Provision for Income Taxes

 

BB&T’s provision for income taxes totaled $497.5 million for 2002, an increase of $110.7 million, or 28.6%, compared to 2001. The provision for income taxes totaled $386.8 million in 2001 and $314.5 million in 2000. BB&T’s effective tax rates for the years ended 2002, 2001 and 2000 were 27.8%, 28.4% and 31.0%, respectively. The decline in the effective rates reflected the elimination of nondeductible goodwill amortization in connection with the adoption of SFAS No. 142 in 2002 and the implementation of certain business and investment strategies that resulted in a reduction in the consolidated income tax provision. The increase in the provisions for both 2002 and 2001 compared to prior years results from higher pretax income, offset in part by lower effective tax rates.

 

During the last three years, BB&T entered into option contracts which legally transferred part of the responsibility for the management of future residuals of certain leveraged lease investments including the future remarketing or re-leasing of these assets to a wholly-owned subsidiary in a foreign jurisdiction having a lower income tax rate, thereby lowering the effective income tax rate applicable to these lease investments. These option contracts provide that the foreign subsidiary may purchase the lease investments at expiration of the existing leveraged leases for a fixed price. As a result, a portion of the residual value included in the consolidated leveraged lease analysis should be taxed at a lower tax rate than originally anticipated, resulting in a change in the total net income from the lease. The net income from the affected leases was recalculated from inception based on the new effective income tax rate. The recalculation had the effect of reducing net interest income for the years ended December 31, 2002, 2001, and 2000, by $9.7 million, $40.6 million and $14.3 million, respectively, and reducing the income tax provisions for the last three years by $20.2 million, $56.6 million and $19.8 million, respectively. BB&T intends to permanently reinvest the earnings of this subsidiary and, therefore, deferred income taxes associated with the foreign subsidiary arising from these transactions have not been provided.

 

During 2001, Branch Bank transferred certain securities and real estate secured loans to a subsidiary in exchange for additional common equity in the subsidiary. The transaction resulted in a difference between Branch Bank’s tax basis in the equity investment in the subsidiary and the assets transferred to the subsidiary. This difference in basis resulted in a net reduction in the provision for income taxes of $34.8 million for the year ended December 31, 2002.

 

 

39


The Internal Revenue Service (“IRS”) is conducting an examination of BB&T’s federal income tax returns for the years ended December 31, 1996, 1997 and 1998. In connection with this examination the IRS has issued Notices of Proposed Adjustment with respect to BB&T’s income tax treatment of certain leveraged lease investments that were entered into during the years under examination. Management believes that BB&T’s treatment of these leveraged leases was appropriate and in compliance with existing tax laws and regulations, and intends to vigorously defend this position. In addition, inasmuch as the proposed adjustments relate primarily to the timing of taxable revenue recognition and amortization expense, deferred taxes have been provided. Management does not expect that BB&T’s consolidated financial position or consolidated results of operations will be materially adversely affected as a result of the IRS examination.

 

Market Risk Management

 

The effective management of market risk is essential to achieving BB&T’s strategic financial objectives. As a financial institution, BB&T’s most significant market risk exposure is interest rate risk. The primary objective of interest rate risk management is to minimize the effect that changes in interest rates have on net interest income. This is accomplished through active management of asset and liability portfolios with a focus on the strategic pricing of asset and liability accounts and management of appropriate maturity mixes of assets and liabilities. The goal of these activities is the development of appropriate maturity and repricing opportunities in BB&T’s portfolios of assets and liabilities that will produce consistent net interest income during periods of changing interest rates. BB&T’s Asset / Liability Management Committee (“ALCO”) monitors loan, investment and liability portfolios to ensure comprehensive management of interest rate risk. These portfolios are analyzed for proper fixed-rate and variable-rate mixes under various interest rate scenarios.

 

The asset/liability management process is designed to achieve relatively stable net interest margins and assure liquidity by coordinating the volumes, maturities or repricing opportunities of earning assets, deposits and borrowed funds. It is the responsibility of the ALCO to determine and achieve the most appropriate volume and mix of earning assets and interest-bearing liabilities, as well as ensure an adequate level of liquidity and capital, within the context of corporate performance goals. The ALCO also sets policy guidelines and establishes long-term strategies with respect to interest rate risk exposure and liquidity. The ALCO meets regularly to review BB&T’s interest rate risk and liquidity positions in relation to present and prospective market and business conditions, and adopts funding and balance sheet management strategies that are intended to ensure that the potential impact on earnings and liquidity as a result of fluctuations in interest rates is within acceptable standards.

 

BB&T utilizes a variety of financial instruments to manage various financial risks. These instruments, commonly referred to as derivatives, primarily consist of interest rate swaps, caps, floors, collars, financial forward and futures contracts and options written and purchased. A derivative is a financial instrument that derives its cash flows, and therefore its value, by reference to an underlying instrument, index or referenced interest rate. BB&T uses derivatives primarily to hedge business loans, forecasted sales of mortgage loans, federal funds purchased, long-term debt and certificates of deposit. These hedges resulted in an increase in net interest income of $44.8 million and $.9 million in 2002 and 2001, respectively, and a decrease in net interest income of $8.1 million in 2000.

 

Derivative contracts are written in amounts referred to as notional amounts. Notional amounts only provide the basis for calculating payments between counterparties and do not represent amounts to be exchanged between parties and are not a measure of financial risk. On December 31, 2002, BB&T had derivative financial instruments outstanding with notional amounts totaling $11.7 billion. The estimated fair value of open contracts used for risk management purposes at December 31, 2002 had net unrealized gains of $149.5 million.

 

See Note 18. “Derivative Financial Instruments” in the Notes to Consolidated Financial Statements for additional disclosures.

 

40


 

Liquidity, Inflation and Changing Interest Rates

 

The majority of BB&T’s assets and liabilities are monetary in nature and, therefore, differ greatly from most commercial and industrial companies that have significant investments in fixed assets or inventories. Fluctuations in interest rates and actions of the Board of Governors of the Federal Reserve System (“FRB”) to regulate the availability and cost of credit have a greater effect on a financial institution’s profitability than do the effects of higher costs for goods and services. Through its balance sheet management function, which is monitored by the ALCO, BB&T is positioned to respond to changing needs for liquidity, changes in interest rates and inflationary trends.

 

BB&T’s interest rate sensitivity is illustrated in the following table. The table reflects rate-sensitive positions at December 31, 2002, and is not necessarily indicative of positions on other dates. The carrying amounts of interest rate sensitive assets and liabilities are presented in the periods in which they next reprice to market rates or mature and are aggregated to show the interest rate sensitivity gap. To reflect anticipated prepayments, certain asset and liability categories are shown in the table using estimated cash flows rather than contractual cash flows. The table does not reflect the impact of hedging strategies.

 

Table 17

Interest Rate Sensitivity Gap Analysis

December 31, 2002

 

   

Within

One Year


 

One to

Three Years


   

Three to

Five Years


 

After

Five Years


   

Total


Assets

 

(Dollars in thousands)

Securities and other interest-earning assets (1)

 

$

3,983,311

 

$

6,775,206

 

 

$

4,916,390

 

$

1,740,561

 

 

$

17,415,468

Federal funds sold and securities purchased under resale agreements or similar arrangements

 

 

294,448

 

 

—  

 

 

 

—  

 

 

—  

 

 

 

294,448

Loans and leases (2)

 

 

38,819,351

 

 

8,282,776

 

 

 

3,180,609

 

 

3,235,277

 

 

 

53,518,013

   

 


 

 


 

Total interest-earning assets

 

 

43,097,110

 

 

15,057,982

 

 

 

8,096,999

 

 

4,975,838

 

 

 

71,227,929

   

 


 

 


 

Liabilities

                                 

Savings and interest checking (3)

 

 

—  

 

 

1,842,931

 

 

 

614,310

 

 

614,310

 

 

 

3,071,551

Money rate savings (3)

 

 

8,594,471

 

 

8,594,471

 

 

 

—