BB&T 10-K 2009
Documents found in this filing:
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Annual Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the fiscal year ended:
December 31, 2008
Commission File Number: 1-10853
(Exact name of Registrant as specified in its Charter)
(Registrants telephone number, including area code)
Securities Registered Pursuant to Section 12(b) of the Securities Exchange Act of 1934:
Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. YES þ NO ¨
Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act YES ¨ NO þ
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 þ NO ¨
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 Registrants 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 is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act.
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act). YES ¨ NO þ
At January 31, 2009, the Corporation had 559,298,182 shares of its Common Stock, $5 par value, outstanding. The aggregate market value of voting stock held by nonaffiliates of the Corporation is approximately $12.7 billion (based on the closing price of such stock as of June 30, 2008).
CROSS REFERENCE INDEX
The information required by Item 11 is incorporated herein by reference to the information that appears under the headings Compensation Discussion and Analysis, Compensation of Executive Officers, Compensation Committee Report on Executive Compensation, Compensation Committee Interlocks and Insider Participation, and Compensation of Directors in the Registrants Proxy Statement for the 2009 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, Compensation of Executive Officers and Equity Compensation Plan Information in the Registrants Proxy Statement for the 2009 Annual Meeting of Shareholders.
The information required by Item 13 is incorporated herein by reference to the information that appears under the headings Corporate Governance Matters and Transactions with Executive Officers and Directors in the Registrants Proxy Statement for the 2009 Annual Meeting of Shareholders.
The information required by Item 14 is incorporated herein by reference to the information that appears under the headings Fees to Auditors and Corporate Governance Matters in the Registrants Proxy Statement for the 2009 Annual Meeting of Shareholders.
BB&T Corporation (BB&T, the Company or the Corporation), is a financial holding company headquartered in Winston-Salem, North Carolina. BB&T conducts its business operations primarily through its commercial bank subsidiary, Branch Banking and Trust Company (Branch Bank), which has offices in North Carolina, South Carolina, Virginia, Maryland, Georgia, West Virginia, Tennessee, Kentucky, Alabama, Florida, Indiana and Washington, D.C. In addition, BB&Ts operations consist of a federally chartered thrift institution, BB&T Financial, FSB (BB&T FSB), and several nonbank subsidiaries, which offer financial services products. Substantially all of the loans by BB&Ts subsidiaries are to businesses and individuals in these market areas.
This Annual Report on Form 10-K contains forward-looking statements with respect to the financial condition, results of operations and businesses of BB&T. These forward-looking statements involve certain risks and uncertainties and are based on the beliefs and assumptions of the management of BB&T and 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:
Risk Factors Related to BB&Ts Business
Changes in national and local economic conditions could lead to higher loan charge-offs and reduce BB&Ts net income and growth.
BB&Ts business is subject to periodic fluctuations based on national and local economic conditions. These fluctuations are not predictable, cannot be controlled, and may have a material adverse impact on the Companys operations and financial condition even if other favorable events occur. BB&Ts banking operations are locally oriented and community-based. Accordingly, the Company expects to continue to be dependent upon local business conditions as well as conditions in the local residential and commercial real estate markets it serves. For example, an increase in unemployment, a decrease in real estate values or increases in interest rates, as well as
other factors, could weaken the economies of the communities BB&T serves. Weakness in BB&Ts market area could depress the Companys earnings and consequently its financial condition because:
Any of the latter three scenarios could require the Company to charge off a higher percentage of loans and/or increase provisions for credit losses, which would reduce the Companys net income. For example, beginning in the third quarter of 2007 and continuing through 2008, BB&T experienced increasing credit deterioration due to ongoing challenges in the residential real estate markets. This period of credit deterioration combined with flat to declining real estate values resulted in increasing loan charge-offs and higher provisions for credit losses, which negatively impacted BB&Ts net income.
Weakness in the markets for residential or commercial real estate, including the secondary residential mortgage loan markets, could reduce BB&Ts net income and profitability.
Since 2007, softening residential housing markets, increasing delinquency and default rates, and increasingly volatile and constrained secondary credit markets have been affecting the mortgage industry generally. BB&Ts financial results have been adversely affected by changes in real estate values, primarily in Georgia, Florida and metro Washington, D.C. Decreases in real estate values have adversely affected the value of property used as collateral for loans and investments in BB&Ts portfolio. The poor economic conditions experienced in 2007 and 2008 resulted in decreased demand for real estate loans, and BB&Ts net income and profits have suffered as a result.
The declines in home prices in many markets across the U.S., including a number of markets in BB&Ts banking footprint (primarily Georgia, Florida and metro Washington, D.C.), along with the reduced availability of mortgage credit, has also resulted in increases in delinquencies and losses in BB&Ts portfolio of loans related to residential real estate, including its acquisition, development and construction loan portfolio. Further declines in home prices within BB&Ts banking footprint (including markets that to date have not experienced significant declines) coupled with a deepening economic recession and associated rises in unemployment levels could drive losses beyond the levels provided for in BB&Ts allowance for loan losses. In that event, BB&Ts earnings would be adversely affected.
Significant ongoing disruption in the secondary market for residential mortgage loans has limited the market for and liquidity of most mortgage loans other than conforming Fannie Mae, Freddie Mac and Ginnie Mae loans. The effects of ongoing mortgage market challenges, combined with the ongoing correction in residential real estate market prices and reduced levels of home sales has resulted in price reductions in single family home values, adversely affecting the value of collateral securing mortgage loans held and mortgage loan originations. Continued declines in real estate values and home sales volumes within BB&Ts banking footprint, and financial stress on borrowers as a result of job losses, or other factors, could have further adverse effects on borrowers that result in higher delinquencies and greater charge-offs in future periods, which would adversely affect BB&Ts financial condition and results of operations.
Market developments may adversely affect BB&Ts industry, business and results of operations.
Significant declines in the housing market in recent months, with falling home prices and increasing foreclosures and unemployment, have resulted in significant write-downs of asset values by many financial institutions, including government-sponsored entities and major commercial and investment banks. These write-downs, initially of mortgage-backed securities but spreading to credit default swaps and other derivative securities, caused many financial institutions to seek additional capital, to merge with larger and stronger institutions and, in some cases, to fail. To date, BB&T has not experienced material asset write downs and it has produced quarterly earnings during 2007 and 2008, however, during this time BB&T has experienced significant challenges, its credit quality has deteriorated and its net income and results of operations have been adversely
impacted. Reflecting concern about the stability of the financial markets generally and the strength of counterparties, many lenders and institutional investors have reduced, and in some cases, ceased to provide funding to borrowers including other financial institutions. Although to date BB&T has performed relatively well during the current financial crisis as compared with the Companys peers and several of the largest financial institutions, BB&T is part of the financial system and a systemic lack of available credit, a lack of confidence in the financial sector, increased volatility in the financial markets and reduced business activity could materially and adversely affect BB&Ts business, financial condition and results of operations.
The capital and credit markets have experienced unprecedented levels of volatility.
During 2008, the capital and credit markets experienced extended volatility and disruption. In the third quarter of 2008, the volatility and disruption reached unprecedented levels. In some cases, the markets produced downward pressure on stock prices and credit capacity for certain issuers without regard to those issuers underlying financial strength. If these levels of market disruption and volatility continue, worsen or abate and then arise at a later date, BB&Ts ability to access capital could be materially impaired. BB&Ts inability to access the capital markets could constrain the Companys ability to make new loans, to meet the Companys existing lending commitments and, ultimately, jeopardize the Companys overall liquidity and capitalization.
In response to financial conditions affecting the banking system and financial markets and the potential threats to the solvency of investment banks and other financial institutions, the U.S. government has taken unprecedented actions. These actions include the government assisted acquisition of Bear Stearns by JPMorgan Chase, the federal conservatorship of Fannie Mae and Freddie Mac, and the plan of the United States Department of the Treasury (the Treasury Department) to inject capital and to purchase mortgage loans and mortgage-backed and other securities from financial institutions for the purpose of stabilizing the financial markets or particular financial institutions. Investors should not assume that these governmental actions will necessarily benefit the financial markets in general, or BB&T in particular. BB&T could also be adversely impacted if one or more of its direct competitors are beneficiaries of selective governmental interventions (such as FDIC assisted transactions) and BB&T does not receive comparable assistance. Further, investors should not assume that the government will continue to intervene in the financial markets at all. Investors should be aware that governmental intervention (or the lack thereof) could materially and adversely affect BB&Ts business, financial condition and results of operations.
The soundness of other financial institutions could adversely affect BB&T.
Financial services institutions are interrelated as a result of trading, clearing, counterparty, or other relationships. BB&T has exposure to many different industries and counterparties, and BB&T and certain of its subsidiaries routinely execute transactions with counterparties in the financial services industry, including brokers and dealers, commercial banks, investment banks, mutual and hedge funds, and other institutional clients. Many of these transactions expose the Company to credit risk in the event of default of its counterparty or client. In addition, the Companys credit risk may be exacerbated when the collateral held by it cannot be realized upon or is liquidated at prices not sufficient to recover the full amount of the loan or derivative exposure due BB&T. These types of losses could materially and adversely affect BB&Ts results of operations or earnings.
Changes in interest rates may have an adverse effect on BB&Ts profitability.
BB&Ts earnings and financial condition are dependent to a large degree upon net interest income, which is the difference between interest earned from loans and investments and interest paid on deposits and borrowings. The narrowing of interest rate spreads, meaning the difference between interest rates earned on loans and investments and the interest rates paid on deposits and borrowings, could adversely affect BB&Ts earnings and financial condition. The Company cannot predict with certainty or control changes in interest rates. Regional and local economic conditions and the policies of regulatory authorities, including monetary policies of the Federal Reserve Board, affect interest income and interest expense. The Company has ongoing policies and procedures designed to manage the risks associated with changes in market interest rates. However, changes in interest rates still may have an adverse effect on BB&Ts profitability. For example, high interest rates could adversely affect the Companys mortgage banking business because higher interest rates could cause customers to apply for fewer mortgage refinancings or purchase mortgages.
Changes in banking laws could have a material adverse effect on BB&T.
BB&T is extensively regulated under federal and state banking laws and regulations that are intended primarily for the protection of depositors, federal deposit insurance funds and the banking system as a whole. In addition, the Company is subject to changes in federal and state laws as well as changes in banking and credit regulations, and governmental economic and monetary policies. BB&T cannot predict whether any of these changes may adversely and materially affect the Company. The current regulatory environment for financial institutions entails significant potential increases in compliance requirements and associated costs, including those related to consumer credit, with a focus on mortgage lending. For example, the North Carolina legislature has passed a number of bills that impose additional requirements, limitations and liabilities on mortgage loan brokers, originators and servicers. Generally, these enactments cover banks as well as state-licensed mortgage lenders. The legislatures of other states, such as Georgia, Maryland and South Carolina, may enact similar legislation in the future.
Federal and state banking regulators also possess broad powers to take supervisory actions as they deem appropriate. These supervisory actions may result in higher capital requirements, higher insurance premiums and limitations on BB&Ts activities that could have a material adverse effect on the Companys business and profitability.
Legislative and regulatory actions taken now or in the future to address the current liquidity and credit crisis in the financial industry may significantly affect BB&Ts financial condition, results of operation, liquidity or stock price.
The Emergency Economic Stabilization Act of 2008 (the EESA), which established the Treasury Departments Troubled Asset Relief Program (TARP), was enacted on October 3, 2008. As part of the TARP, the Treasury Department created the Capital Purchase Program (CPP), under which the Treasury Department will invest up to $250 billion in senior preferred stock of U.S. banks and savings associations or their holding companies for the purpose of stabilizing and providing liquidity to the U.S. financial markets. On February 17, 2009, the American Recovery and Reinvestment Act of 2009 (the ARRA) was enacted as a sweeping economic recovery package intended to stimulate the economy and provide for extensive infrastructure, energy, health, and education needs. There can be no assurance as to the actual impact that EESA or its programs, including the CPP, and ARRA or its programs, will have on the national economy or financial markets. The failure of these significant legislative measures to help stabilize the financial markets and a continuation or worsening of current financial market conditions could materially and adversely affect BB&Ts financial condition, results of operation, liquidity or stock price.
In addition, there have been numerous actions undertaken in connection with or following EESA and ARRA by the Federal Reserve Board, Congress, the Treasury Department, the FDIC, the SEC and others in efforts to address the current liquidity and credit crisis in the financial industry that followed the sub-prime mortgage market meltdown which began in late 2007. These measures include homeowner relief that encourages loan restructuring and modification; the establishment of significant liquidity and credit facilities for financial institutions and investment banks; the lowering of the federal funds rate; emergency action against short selling practices; a temporary guaranty program for money market funds; the establishment of a commercial paper funding facility to provide back-stop liquidity to commercial paper issuers; a mandatory stress test requirement for banking institutions with assets in excess of $100 billion to analyze capital sufficiency and risk exposure; and coordinated international efforts to address illiquidity and other weaknesses in the banking sector. The purpose of these legislative and regulatory actions is to help stabilize the U.S. banking system. However, the EESA, the ARRA and any current or future legislative or regulatory initiatives may not have their desired effect, or may have an adverse effect when applied to BB&T.
BB&T may experience significant competition in its market area, which may reduce the Companys customer base.
There is intense competition among commercial banks in BB&Ts market area. In addition, BB&T competes with other providers of financial services, such as savings and loan associations, credit unions, consumer finance companies, securities firms, insurance companies, commercial finance and leasing companies, the mutual funds industry, full-service brokerage firms and discount brokerage firms, some of which are subject to less extensive regulations than BB&T is with respect to the products and services they provide. Some of BB&Ts larger
competitors, including certain national banks that have a significant presence in BB&Ts market area, may have greater resources than BB&T, may have higher lending limits and may offer products and services not offered by BB&T.
BB&T also experiences competition from a variety of institutions outside of the Companys market area. Some of these institutions conduct business primarily over the Internet and may thus be able to realize certain cost savings and offer products and services at more favorable rates and with greater convenience to the customer who can pay bills and transfer funds directly without going through a bank. This disintermediation could result in the loss of fee income, as well as the loss of customer deposits and income generated from those deposits. In addition, changes in consumer spending and saving habits could adversely affect BB&Ts operations, and the Company may be unable to timely develop competitive new products and services in response to these changes.
Maintaining or increasing BB&Ts market share may depend on lowering prices and market acceptance of new products and services.
BB&Ts success depends, in part, on its ability to adapt its products and services to evolving industry standards. There is increasing pressure to provide products and services at lower prices. Lower prices can reduce BB&Ts net interest margin and revenues from its fee-based products and services. In addition, the widespread adoption of new technologies, including internet services, could require the Company to make substantial expenditures to modify or adapt its existing products and services. Also, these and other capital investments in BB&Ts business may not produce expected growth in earnings anticipated at the time of the expenditure. The Company may not be successful in introducing new products and services, achieving market acceptance of its products and services, or developing and maintaining loyal customers.
Acts or threats of terrorism and political or military actions taken by the United States or other governments could adversely affect general economic or industry conditions.
Geopolitical conditions may affect BB&Ts earnings. Acts or threats of terrorism and political or military actions taken by the United States or other governments in response to terrorism, or similar activity, could adversely affect general economic or industry conditions.
Unpredictable catastrophic events could have a material adverse effect on BB&T.
The occurrence of catastrophic events such as hurricanes, tropical storms, earthquakes, pandemic disease, windstorms, floods, severe winter weather (including snow, freezing water, ice storms and blizzards), fires and other catastrophes could adversely affect BB&Ts consolidated financial condition or results of operations. Unpredictable natural and other disasters could have an adverse effect on the Company in that such events could materially disrupt its operations or the ability or willingness of its customers to access the financial services offered by BB&T. The Companys property and casualty insurance operations also expose it to claims arising out of catastrophes. The incidence and severity of catastrophes are inherently unpredictable. Although the Company carries insurance to mitigate its exposure to certain catastrophic events, catastrophic events could nevertheless reduce BB&Ts earnings and cause volatility in its financial results for any fiscal quarter or year and have a material adverse effect on BB&Ts financial condition or results of operations.
BB&T faces significant operational risk.
BB&T is exposed to many types of operational risks, including reputational risk, legal and compliance risk, the risk of fraud or theft by employees or outsiders, unauthorized transactions by employees or operational errors, including clerical or record-keeping errors or those resulting from faulty or disabled computer or telecommunications systems. Negative public opinion can result from BB&Ts actual or alleged conduct in any number of activities, including lending practices, corporate governance and acquisitions and from actions taken by government regulators and community organizations in response to those activities. Negative public opinion can adversely affect BB&Ts ability to attract and keep customers and can expose it to litigation and regulatory action.
Because the nature of the financial services business involves a high volume of transactions, certain errors may be repeated or compounded before they are discovered and successfully rectified. BB&Ts necessary
dependence upon automated systems to record and process its transaction volume may further increase the risk that technical flaws or employee tampering or manipulation of those systems will result in losses that are difficult to detect. BB&T also may be subject to disruptions of its operating systems arising from events that are wholly or partially beyond its control (for example, computer viruses or electrical or telecommunications outages), which may give rise to disruption of service to customers and to financial loss or liability. BB&T is further exposed to the risk that its external vendors may be unable to fulfill their contractual obligations (or will be subject to the same risk of fraud or operational errors by their respective employees as is BB&T) and to the risk that BB&Ts (or its vendors) business continuity and data security systems prove to be inadequate.
The Treasury Departments investment in BB&T imposes restrictions and obligations limiting BB&Ts ability to increase dividends, repurchase common stock or preferred stock and access the equity capital markets.
In November 2008, BB&T issued preferred stock and a warrant to purchase common stock to the Treasury Department under the CPP. Prior to November 14, 2011, unless BB&T has redeemed all of the preferred stock, or the Treasury Department has transferred all of the preferred stock to a third party, the consent of the Treasury Department will be required for BB&T to, among other things, increase common stock dividends or effect repurchases of common stock or other preferred stock (with certain exceptions, including the repurchase of BB&T common stock to offset share dilution from equity-based employee compensation awards). BB&T has also granted registration rights to the Treasury Department pursuant to which BB&T has agreed to lock-up periods prior to and following the effective date of an underwritten offering of the preferred stock, the warrant or the underlying common stock held by the Treasury Department, during such time when BB&T would be unable to issue equity securities.
BB&Ts liquidity could be impaired by an inability to access the capital markets or an unforeseen outflow of cash.
Liquidity is essential to BB&Ts businesses. Due to circumstances that BB&T may be unable to control, such as a general market disruption or an operational problem that affects third parties or BB&T, BB&Ts liquidity could be impaired by an inability to access the capital markets or an unforeseen outflow of cash. BB&Ts credit ratings are important to its liquidity. A reduction in BB&Ts credit ratings could adversely affect its liquidity and competitive position, increase its borrowing costs, limit its access to the capital markets or trigger unfavorable contractual obligations.
BB&Ts reported financial results depend on managements selection of accounting methods and certain assumptions and estimates.
BB&Ts accounting policies and methods are fundamental to the methods by which the Company records and reports its financial condition and results of operations. The Companys management must exercise judgment in selecting and applying many of these accounting policies and methods so they comply with generally accepted accounting principles and reflect managements judgment of the most appropriate manner to report BB&Ts financial condition and results. In some cases, management must select the accounting policy or method to apply from two or more alternatives, any of which may be reasonable under the circumstances, yet may result in the Company reporting materially different results than would have been reported under a different alternative.
Certain accounting policies are critical to presenting BB&Ts financial condition and results. They require management to make difficult, subjective or complex judgments about matters that are uncertain. Materially different amounts could be reported under different conditions or using different assumptions or estimates. These critical accounting policies include: the allowance for credit losses; the determination of fair value for financial instruments; the valuation of goodwill and other intangible assets; the accounting for pension and postretirement benefits and the accounting for income taxes. Because of the uncertainty of estimates involved in these matters, the Company may be required to do one or more of the following: significantly increase the allowance for credit losses and/or sustain credit losses that are significantly higher than the reserve provided; recognize significant impairment on its goodwill and other intangible asset balances; or significantly increase its accrued taxes liability.
BB&Ts business could suffer if it fails to attract and retain skilled people.
BB&Ts success depends, in large part, on its ability to attract and retain key people. Competition for the best people in most activities in which the Company engages can be intense. As a result of BB&Ts participation
in the CPP, BB&T is required to meet certain standards for executive compensation as set forth under the EESA, and related interim regulations. The recently enacted ARRA requires the Treasury Department to adopt additional standards with respect to executive compensation and governance that may impact certain of BB&Ts executive officers and employees. Such restrictions imposed as a result of the Treasury Departments investment in BB&T, in addition to other competitive pressures, may have an adverse effect on the ability of BB&T to attract and retain skilled personnel, resulting in BB&T not being able to hire the best people or to retain them.
BB&T relies on other companies to provide key components of its business infrastructure.
Third party vendors provide key components of BB&Ts business infrastructure such as internet connections, network access and mutual fund distribution. While BB&T has selected these third party vendors carefully, its does not control their actions. Any problems caused by these third parties, including those which result from their failure to provide services for any reason or their poor performance of services, could adversely affect BB&Ts ability to deliver products and services to its customers and otherwise to conduct its business. Replacing these third party vendors could also entail significant delay and expense.
Significant litigation could have a material adverse effect on BB&T.
BB&T faces legal risks in its business, and the volume of claims and amount of damages and penalties claimed in litigation and regulatory proceedings against financial institutions remain high. Substantial legal liability or significant regulatory action against BB&T may have material adverse financial effects or cause significant reputational harm to BB&T, which in turn could seriously harm BB&Ts business prospects.
BB&T faces systems failure risks as well as security risks, including hacking and identity theft.
The computer systems and network infrastructure BB&T and others use could be vulnerable to unforeseen problems. These problems may arise in both the Companys internally developed systems and the systems of its third-party service providers. The Companys operations are dependent upon its ability to protect computer equipment against damage from fire, power loss or telecommunication failure. Any damage or failure that causes an interruption in the Companys operations could adversely affect BB&Ts business and financial results. In addition, the Companys computer systems and network infrastructure present security risks, and could be susceptible to hacking or identity theft.
Differences in interpretation of tax laws and regulations may adversely impact BB&Ts financial statements.
Local, state or federal tax authorities may interpret tax laws and regulations differently than BB&T and challenge tax positions that BB&T has taken on its tax returns. This may result in the disallowance of deductions or credits, and/or differences in the timing of deductions and result in the payment of additional taxes, interest or penalties that could materially affect BB&Ts performance.
Changes in accounting standards could materially impact BB&Ts financial statements.
From time to time the Financial Accounting Standards Board (FASB) changes the financial accounting and reporting standards that govern the preparation of BB&Ts financial statements. These changes can be hard to predict and can materially impact how the Company records and reports its financial condition and results of operations. In some cases, the Company could be required to apply a new or revised standard retroactively, resulting in changes to previously reported financial results, or a cumulative charge to retained earnings.
BB&T may not be able to successfully integrate bank or nonbank mergers and acquisitions.
Difficulties may arise in the integration of the business and operations of bank holding companies, banks and other nonbank entities BB&T acquires and, as a result, the Company may not be able to achieve the cost savings and synergies that it expects will result from such transactions. Achieving cost savings is dependent on consolidating certain operational and functional areas, eliminating duplicative positions and terminating certain agreements for outside services. Additional operational savings are dependent upon the integration of the acquired or merged entitys businesses with BB&T or one of BB&Ts subsidiaries, the conversion of core operating systems, data systems and products and the standardization of business practices. Complications or difficulties in the conversion of the core operating systems, data systems and products may result in the loss of
customers, damage to BB&Ts reputation within the financial services industry, operational problems, one-time costs currently not anticipated or reduced cost savings resulting from such mergers or acquisitions. Annual cost savings in each such transaction may be materially less than anticipated if the holding company, bank merger or nonbank merger or acquisition is delayed unexpectedly, the integration of operations is delayed beyond what is anticipated or the conversion to a single data system is not accomplished on a timely basis.
Difficulty in integrating an acquired company may cause the Company not to realize expected revenue increases, cost savings, increases in geographic or product presence and/or other projected benefits from the acquisition. The integration could result in higher than expected deposit attrition, loss of key employees, disruption of BB&Ts businesses or the businesses of the acquired company, or otherwise adversely affect the Companys ability to maintain relationships with customers and employees or achieve the anticipated benefits of the acquisition. Also, the negative effect of any divestitures required by regulatory authorities in acquisitions or business combinations may be greater than expected.
BB&T may not receive the regulatory approvals required to complete a bank merger.
BB&T must generally receive federal and/or state regulatory approvals before it can acquire a bank or bank holding company. In determining whether to approve a proposed bank acquisition, bank regulators will consider, among other factors, the effect of the acquisition on competition, financial condition and future prospects including current and projected capital ratios and levels, the competence, experience and integrity of management and record of compliance with laws and regulations, the convenience and needs of the communities to be served, including the acquiring institutions record of compliance under the Community Reinvestment Act and the effectiveness of the acquiring institution in combating money laundering activities. In addition, BB&T cannot be certain when or if, or on what terms and conditions, any required regulatory approvals will be granted. In specific cases the Company may be required to sell banks or branches, or take other actions as a condition to receiving regulatory approval.
BB&Ts stock price can be volatile.
BB&Ts stock price can fluctuate widely in response to a variety of factors including:
General market fluctuations, industry factors and general economic and political conditions and events, such as economic slowdowns or recessions, interest rate changes, credit loss trends, or currency fluctuations could also cause BB&Ts stock price to decrease regardless of the Companys operating results.
At December 31, 2008, the principal operating subsidiaries of BB&T included the following:
Branch Bank, BB&Ts largest subsidiary, was chartered in 1872 and is the oldest bank headquartered in North Carolina. Branch Bank provides a wide range of banking and trust services for retail and commercial clients in its geographic markets, including small and mid-size businesses, public agencies, local governments and individuals through 1,511 offices (as of December 31, 2008) located in North Carolina, South Carolina, Virginia, Maryland, Georgia, Kentucky, Florida, West Virginia, Tennessee, Washington D.C., Alabama and Indiana. Branch Banks principal operating subsidiaries include:
BB&T FSB is a federal savings bank. BB&T FSB provides services to clients throughout the United States and was formed to help improve the operating efficiency of certain business activities for subsidiaries which are national in scope. In addition to credit card lending, the following businesses operate as either subsidiaries or divisions of BB&T FSB:
Major Nonbank Subsidiaries
BB&T also has a number of nonbank subsidiaries, including:
The primary services offered by BB&Ts subsidiaries include:
The following table reflects BB&Ts deposit market share and branch locations by state at December 31, 2008.
BB&T Deposit Market Share and Branch Locations by State
December 31, 2008
In addition to the markets described in the table above, BB&T operates three branches in Alabama and two branches in Indiana. Please refer to Note 21 Operating Segments in the Notes to Consolidated Financial Statements for additional disclosures.
Significant accomplishments in 2008
In the opinion of BB&Ts management, the Corporations most significant accomplishments during 2008 were as follows (amounts include the impact of acquisitions where applicable):
BB&Ts business has become more dynamic and complex in recent years. Consequently, management has annually evaluated and, as necessary, adjusted the Corporations business strategy in the context of the current operating environment. During this process, management considers the current financial condition and performance of the Company and its expectations for future economic activity, both on a national and local market scale. The achievement of BB&Ts key strategic objectives and established long-term financial goals is subject to many uncertainties and challenges. In the opinion of management, the challenges that are most relevant and likely to have a near term impact on performance are presented below:
The financial services industry is highly competitive and dramatic change continues to occur in all aspects of the Companys business. The ability of nonbank financial entities to provide services previously reserved for commercial banks has intensified competition. BB&Ts 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 consolidate, which affects competition by eliminating some regional and local institutions, while strengthening the franchises of acquirers. In addition, many financial services are experiencing significant challenges as a result of the economic crisis, resulting in bank and thrift failures and significant intervention from the U.S. Government. For additional information concerning markets, BB&Ts competitive position and business strategies, and recent government interventions see Market Area, General Business Development and Regulatory Considerations below.
BB&Ts primary market area consists of North and South Carolina, Virginia, Maryland, Georgia, eastern Tennessee, West Virginia, Kentucky, Florida and Washington, D.C. This areas 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 will support growth in assets and deposits in the future. Management strongly believes that BB&Ts community bank approach to providing client service is a competitive advantage that strengthens the Corporations ability to effectively provide financial products and services to businesses and individuals in its markets.
General Business Development
BB&T is a regional financial holding company. BB&T has maintained a long-term focus on a strategy that includes expanding and diversifying the BB&T franchise in terms of revenues, profitability and asset size. During the 1990s and the first part of this decade, BB&Ts growth resulted largely from mergers and acquisitions as the economics of business combinations were compelling. Recently, BB&T has focused more on organic growth. Tangible evidence of this focus is the growth in average total assets, loans and deposits, which have increased over the last five years at compound annual rates of 9.9%, 10.5%, and 9.3%, respectively.
BB&Ts growth in business, profitability and market share has historically been enhanced by strategic mergers and acquisitions. Management intends to remain disciplined and focused with regard to future merger
and acquisition opportunities. BB&T will continue to assess bank and thrift acquisitions subject to market conditions and suitable candidates, primarily within BB&Ts existing footprint, and will pursue economically advantageous acquisitions of insurance agencies, specialized lending businesses, and fee income generating financial services businesses. BB&Ts acquisition strategy is focused on three primary objectives:
BB&T completed acquisitions of 40 community banks and thrifts, 85 insurance agencies and 33 nonbank financial services providers over the last fifteen years. In the long-term, BB&T expects 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 common 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&Ts earnings. 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.
The primary goal of the BB&T lending function is to help clients achieve their financial goals by providing quality loan products that are fair to the client and profitable to the Corporation. Management believes that 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. In addition to the importance placed on client knowledge and continuous involvement with clients, BB&Ts lending process incorporates the standards of a consistent company-wide credit culture and an in-depth local market knowledge. Furthermore, the Corporation employs strict underwriting criteria governing the degree of assumed risk and the diversity of the loan portfolio in terms of type, industry and geographical concentration. In this context, BB&T strives to meet the credit needs of businesses and consumers in its markets while pursuing a balanced strategy of loan profitability, loan growth and loan quality.
BB&T conducts the majority of its lending activities within the framework of the Corporations community bank operating model, with lending decisions made as close to the client as practicable.
The following table summarizes BB&Ts loan portfolio based on the regulatory classification of the portfolio, which focuses on the underlying loan collateral, and differs from internal classifications presented herein that focus on the primary purpose of the loan.
Composition of Loan and Lease Portfolio
BB&Ts loan portfolio is approximately 50% commercial and 50% retail by design, and is divided into six major categoriescommercial, sales finance, revolving credit, direct retail, mortgage and specialized lending. BB&T lends to a diverse customer base that is substantially located within the Corporations primary market area. At the same time, the loan portfolio is geographically dispersed throughout BB&Ts branch network to mitigate concentration risk arising from local and regional economic downturns.
The following discussion presents the principal types of lending conducted by BB&T and describes the underwriting procedures and overall risk management of BB&Ts lending function. The relative risk of each loan portfolio is presented in the Asset Quality section of Managements Discussion and Analysis of Financial Condition and Results of Operations herein.
Recognizing that the loan portfolio is a primary source of profitability, proper loan underwriting is critical to BB&Ts long-term financial success. BB&Ts underwriting approach is designed to define acceptable combinations of specific risk-mitigating features that ensure credit relationships conform to BB&Ts risk philosophy. Provided below is a summary of the most significant underwriting criteria used to evaluate new loans and loan renewals:
Commercial Loan and Lease Portfolio
The commercial loan and lease portfolio represents the largest category of the Corporations total loan portfolio. BB&Ts commercial lending program is generally targeted to serve small-to-middle market businesses with sales of $200 million or less. In addition, BB&Ts Corporate Banking Group provides lending solutions to large corporate clients. Traditionally, lending to small and mid-sized businesses has been among BB&Ts strongest market segments.
Commercial and small business loans are primarily originated through BB&Ts banking network. In accordance with the Corporations lending policy, each loan undergoes a detailed underwriting process, which incorporates BB&Ts underwriting approach, procedures and evaluations described above. In addition, Branch Bank has adopted an internal maximum credit exposure lending limit of $245 million for a best grade credit, which is considerably below Branch Banks maximum legal lending limit. Commercial loans are typically priced with an interest rate tied to market indices, such as the prime rate and the London Interbank Offered Rate (LIBOR), or a fixed-rate. Commercial loans are individually monitored and reviewed for any possible deterioration in the ability of the client to repay the loan. Approximately 92% of BB&Ts commercial loans are secured by real estate, business equipment, inventories and other types of collateral. BB&Ts commercial leases consist of investments in various types of leveraged lease transactions.
Sales Finance Loan Portfolio
The sales finance category primarily includes secured indirect installment loans to consumers for the purchase of new and used automobiles, boats and recreational vehicles. Such loans are originated through approved franchised and independent dealers throughout the BB&T market area. These loans are relatively homogenous and no single loan is individually significant in terms of its size and potential risk of loss. Sales finance loans are subject to the same rigorous lending policies and procedures as described above for commercial loans and are underwritten with note amounts and credit limits that ensure consistency with the Corporations risk philosophy. In addition to its normal underwriting due diligence, BB&T uses application systems and scoring systems to help underwrite and manage the credit risk in its sales finance portfolio. Also included in the sales finance category are commercial lines, serviced by the Sales Finance Department, to finance dealer wholesale inventory (Floor Plan Lines) for resale to consumers. Floor Plan Lines are underwritten by commercial loan officers in compliance with the same rigorous lending policies described above for commercial loans. In addition, Floor Plan Lines are subject to intensive monitoring and oversight to ensure quality and mitigate risk from fraud.
Revolving Credit Loan Portfolio
The revolving credit portfolio is comprised of the outstanding balances on credit cards and BB&Ts checking account overdraft protection product, Constant Credit. BB&T markets credit cards to its existing banking client base and does not solicit cardholders through nationwide programs or other forms of mass marketing. Such balances are generally unsecured and actively managed by BB&T FSB.
Direct Retail Loan Portfolio
The direct retail loan portfolio consists of a wide variety of loan products offered through BB&Ts banking network. Various types of secured and unsecured loans are marketed to qualifying existing clients and to other creditworthy candidates in BB&Ts market area. The vast majority of direct retail loans are secured by first or second liens on residential real estate, and include both closed-end home equity loans and revolving home equity lines of credit. Direct retail loans are subject to the same rigorous lending policies and procedures as described above for commercial loans and are underwritten with note amounts and credit limits that ensure consistency with the Corporations risk philosophy
Mortgage Loan Portfolio
BB&T is a large originator of residential mortgage loans, with originations in 2008 totaling $16.4 billion. Branch Bank offers various types of fixed- and adjustable-rate loans for the purpose of constructing, purchasing or refinancing residential properties. BB&T primarily originates conforming mortgage loans and higher quality
jumbo and construction-to-permanent loans for owner-occupied properties. Conforming loans are loans that are underwritten in accordance with the underwriting standards set forth by the Federal National Mortgage Association (Fannie Mae) and the Federal Home Loan Mortgage Corporation (Freddie Mac). They are generally collateralized by one-to-four-family residential real estate, have loan-to-collateral value ratios of 80% or less, and are made to borrowers in good credit standing.
Risks associated with the mortgage lending function include interest rate risk, which is mitigated through the sale of substantially all conforming fixed-rate loans in the secondary mortgage market and an effective mortgage servicing rights hedge process. Borrower risk is lessened through rigorous underwriting procedures and mortgage insurance. The right to service the loans and receive servicing income is generally retained when conforming loans are sold. Management believes that the retention of mortgage servicing is a primary relationship driver in retail banking and a vital part of managements strategy to establish profitable long-term customer relationships and offer high quality client service. BB&T also purchases residential mortgage loans from correspondent originators. The loans purchased from third-party originators are subject to the same underwriting and risk-management criteria as loans originated internally.
Specialized Lending Portfolio
BB&Ts specialized lending portfolio consists of loans originated through six business units that provide specialty finance alternatives to consumers and businesses including: dealer-based financing of equipment for small businesses and consumers, commercial equipment leasing and finance, direct and indirect consumer finance, insurance premium finance, indirect subprime automobile finance, and full-service commercial mortgage banking. BB&T offers these services to bank clients as well as nonbank clients within and outside BB&Ts primary geographic market area.
BB&Ts specialized lending subsidiaries adhere to the same overall underwriting approach as the commercial and consumer lending portfolio and also utilize automated credit scoring to assist with underwriting the credit risk. The majority of these loans are relatively homogenous and no single loan is individually significant in terms of its size and potential risk of loss. The majority of the loans are secured by real estate, automobiles, equipment or unearned insurance premiums. As of December 31, 2008, included in the specialized lending portfolio are loans to subprime borrowers of approximately $2.7 billion, or 2.8% of the total BB&T loan and lease portfolio. Of these, approximately $380 million are residential real estate loans and included in the disclosures in Table 6 herein.
The following table presents BB&Ts total loan portfolio based upon the primary purpose of the loan, as discussed herein, rather than upon regulatory reporting classifications:
Composition of Loan and Lease Portfolio Based on Loan Purpose
The following table reflects the scheduled maturities of commercial, financial and agricultural loans, as well as real estate construction loans:
Selected Loan Maturities and Interest Sensitivity (1)
Scheduled repayments are reported in the maturity category in which the payment is due. Determinations of maturities are based upon contract terms. BB&Ts credit policy typically does not permit automatic renewal of loans. At the scheduled maturity date (including balloon payment date), the customer generally must request a new loan to replace the matured loan and execute either a new note or note modification with rate, terms and conditions negotiated at that time.
Allowance for Loan and Lease Losses and Reserve for Unfunded Lending Commitments
The allowance for loan and lease losses is determined based on managements best estimate of probable losses that are inherent in the portfolio at the balance sheet date. BB&Ts allowance is driven by existing conditions and observations, and reflects losses already incurred, even if not yet identifiable.
The Corporation 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 credit 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.
In addition to the allowance for loan and lease losses, BB&T also estimates probable losses related to binding unfunded lending commitments. The methodology to determine such losses is inherently similar to the methodology used in calculating the allowance for commercial loans, adjusted for factors specific to binding commitments, including the probability of funding and exposure at funding. The reserve for unfunded lending commitments is included in accounts payable and other liabilities on the Consolidated Balance Sheets. Changes to the reserve for unfunded lending commitments are made by charges or credits to the provision for credit losses.
Reserve Policy and Methodology
The allowance for loan and lease losses consists of (1) a component for individual loan impairment recognized and measured pursuant to Statement of Financial Accounting Standards (SFAS) No. 114, Accounting by Creditors for Impairment of a Loan, and (2) components of collective loan impairment recognized pursuant to SFAS No. 5, Accounting for Contingencies, including a component that is unallocated. BB&T maintains specific reserves for individually impaired loans pursuant to SFAS No. 114. A loan is impaired when, based on current information and events, it is probable that BB&T will be unable to collect all amounts due (interest as well as principal) according to the contractual terms of the loan agreement. On a quarterly basis, BB&T reviews all commercial lending relationships with outstanding debt of $2 million or more that have been classified as substandard or doubtful. Loans are considered impaired when the borrower does not have the cash flow capacity or willingness to service the debt according to contractual terms, or it does not appear reasonable to assume that the borrower will continue to pay according to the contractual agreement. The amount of impairment is based on the present value of expected cash flows discounted at the loans effective interest rate, and/or the value of collateral adjusted for any origination costs and nonrefundable fees that existed at the time of origination.
Reserves established pursuant to the provisions of SFAS No. 5 for collective impairment reflect an estimate of losses inherent in the loan and lease portfolios as of the balance sheet reporting date. Embedded loss estimates are based on current migration rates and current risk mix. Embedded loss estimates may be adjusted to reflect current economic conditions and current portfolio trends including credit quality, concentrations, aging of the portfolio, and significant policy and underwriting changes. In the commercial lending portfolio, each loan is
assigned a risk grade at origination by the account officer and the assigned risk grade is subsequently reviewed and finalized through BB&Ts established loan review committee process. Loans are assigned risk grades based on an assessment of conditions that affect the borrowers ability to meet contractual obligations under the loan agreement. This process includes reviewing borrowers financial information, historical payment experience, credit documentation, public information, and other information specific to each borrower. The established risk management regimen includes a review of all credit relationships with total credit exposure of $1 million or more on an annual basis or at any point management becomes aware of information affecting the borrowers ability to fulfill their obligations. For small business and commercial clients where total credit exposure is less than $1 million, BB&T has developed an automated loan review system to identify and proactively manage accounts with a higher risk of loss. The score produced by this automated system is updated monthly. All of the loan portfolios grouped in the retail lending and specialized lending categories typically employ scoring models to segment credits into groups with homogenous risk characteristics. Scoring models are validated on a periodic basis in order to ensure reliable default rate information. This information is employed to evaluate the levels of risk associated with new production as well as to assess any risk migration in the existing portfolio.
A small portion of the Corporations allowance for loan and lease losses is not allocated to any specific category of loans. This unallocated portion of the allowance reflects managements best estimate of 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 considered unallocated may fluctuate from period to period based on managements 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. The allocated and unallocated portions of the allowance are 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.
The following table presents an estimated allocation of the allowance for loan and lease losses at the end of each of the past five years. This allocation of the allowance for loan and lease losses is calculated on an approximate basis and is not necessarily indicative of future losses or allocations. The entire amount of the allowance is available to absorb losses occurring in any category of loans and leases.
Allocation of Allowance for Loan and Lease Losses by Category
The following tables provide further details regarding BB&Ts commercial real estate lending, residential mortgage and consumer home equity portfolios as of December 31, 2008.
Real Estate Lending Portfolio Credit Quality and Geographic Distribution
Commercial Real Estate Loan Portfolio (1)
Residential Mortgage Portfolio
Home Equity Portfolio (2)
Investment securities represent a significant portion of BB&Ts assets. Branch Bank invests in securities as allowable under bank regulations. These securities include obligations of the U.S. Treasury, U.S. government agencies, U.S. government sponsored entities, including mortgage-backed securities, bank eligible obligations of any state or political subdivision, privately-issued mortgage-backed securities, structured notes, bank eligible corporate obligations, including corporate debentures, commercial paper, negotiable certificates of deposit, bankers acceptances, mutual funds and limited types of equity securities. Branch Bank also may deal in securities subject to the provisions of the Gramm-Leach-Bliley Act. Scott & Stringfellow, LLC, BB&Ts 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&Ts investment activities are governed internally by a written, board-approved policy. The investment policy is carried out by the Corporations Market Risk and Liquidity Committee (MRLC), which meets regularly to review the economic environment and establish investment strategies. The MRLC also has much
broader responsibilities, which are discussed in the Market Risk Management section in Managements Discussion and Analysis of Financial Condition and Results of Operations herein.
Investment strategies are established by the MRLC based on 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).
Deposits are the primary source of funds for lending and investing activities, and their cost is the largest category of interest expense. Scheduled payments, as well as prepayments, 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. BB&Ts funding activities are monitored and governed through BB&Ts overall asset/liability management process, which is further discussed in the Market Risk Management section in Managements Discussion and Analysis of Financial Condition and Results of Operations herein. BB&T conducts its funding activities in compliance with all applicable laws and regulations. Following is a brief description of the various sources of funds used by BB&T. For further discussion relating to outstanding balances and balance fluctuations, refer to the Deposits and Other Borrowings section in Managements Discussion and Analysis of Financial Condition and Results of Operations herein.
Deposits are attracted principally from clients within BB&Ts branch network 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 accounts, 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) the anticipated amount and timing of funding needs, (iii) the availability and cost of alternative sources of funding, and (iv) the anticipated future economic conditions and interest rates. Client deposits are attractive sources of funding 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. In addition, BB&T gathers a portion of its deposit base through wholesale funding products, which include negotiable certificates of deposit and Eurodollar deposits through the use of a Cayman branch facility. At December 31, 2008, these sources of deposits represented approximately 15% of BB&Ts total deposits.
The following table provides information regarding the scheduled maturities of time deposits that are $100,000 and greater at December 31, 2008:
Scheduled Maturities of Time Deposits $100,000 and Greater
December 31, 2008
(Dollars in millions)
BB&Ts ability to borrow funds from nondeposit sources provides additional flexibility in meeting the liquidity needs of the Company. Short-term borrowings include Federal funds purchased, securities sold under repurchase agreements, master notes, short-term FHLB advances, U.S. Treasury tax and loan depository note accounts and other short-term borrowings. See Note 9 Federal Funds Purchased, Securities Sold Under Agreements to Repurchase, and Short-Term Borrowed Funds in the Notes to Consolidated Financial Statements herein for additional disclosures related to these types of borrowings.
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&Ts long-term borrowings include long-term FHLB advances to Branch Bank, senior and subordinated debt issued by BB&T Corporation and Branch Bank, junior subordinated debt underlying trust preferred securities and capital leases. See Note 10 Long-Term Debt in the Notes to Consolidated Financial Statements herein for additional disclosures related to long-term borrowings.
At December 31, 2008, BB&T had approximately 29,600 full-time equivalent employees compared to approximately 29,400 full-time equivalent employees at December 31, 2007.
BB&T and its significant subsidiaries occupy headquarter offices that are either owned or operated under long-term leases. BB&T also owns 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 Corporations headquarters in Winston-Salem, North Carolina. At December 31, 2008, Branch Bank operated 1,511 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 businesses that occupy facilities. Office locations are either 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&Ts properties and other fixed assets.
Web Site Access to BB&Ts Filings with the Securities and Exchange Commission
All of BB&Ts 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, as amended, are made available at no cost on the Corporations web site, www.BBT.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&Ts SEC filings are also available through the SECs web site at www.sec.gov.
Executive Officers of BB&T
The following table lists the members of BB&Ts executive management team:
Set forth below is a graph comparing the total returns (assuming reinvestment of dividends) of BB&T Common Stock, the S&P 500 Index, and an Industry Peer Group Index. The graph assumes $100 invested on December 31, 2003 in BB&T Common Stock and in each of the indices. In 2008, the financial holding companies in the Industry Peer Group Index (the Peer Group) were Comerica Incorporated, Fifth-Third Bancorp, Huntington Bancshares, Incorporated, KeyCorp, M&T Bank Corporation, Marshall & Ilsley Corporation, PNC Financial Services Group, Inc., Popular, Incorporated, Regions Financial Corporation, SunTrust Banks, Inc., U.S. Bancorp and Zions Bancorporation. The Peer Group consists of bank holding companies with assets between approximately $38.9 billion and $291.1 billion.
The following discussion describes elements of an extensive regulatory framework applicable to bank holding companies, financial holding companies and banks and specific information about BB&T and its subsidiaries. Regulation of banks, bank holding companies and financial holding companies is intended primarily for the protection of depositors and the Deposit Insurance Fund (the DIF) rather than for the protection of shareholders and creditors. In addition to banking laws, regulations and regulatory agencies, BB&T and its subsidiaries and affiliates are subject to various other laws and regulations and supervision and examination by other regulatory agencies, all of which directly or indirectly affect the operations and management of BB&T and its ability to make distributions to shareholders.
As a bank holding company and a financial holding company under federal law, 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). Branch Bank and BB&T FSB are collectively referred to herein as the Banks. Branch Bank, a state-chartered commercial bank, is subject to regulation, supervision and examination by the North Carolina Commissioner of Banks. BB&T FSB, a federally chartered thrift institution, is subject to regulation, supervision and examination by the Office of Thrift Supervision (OTS). Each of the Banks also is subject to regulation, supervision and examination by the Federal Deposit Insurance Corporation (the FDIC).
State and federal law 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, although BB&T FSB is entitled to federal preemption of various state laws. Various consumer and compliance laws and regulations also affect the Banks operations. The Banks also are affected by the actions of the Federal Reserve Board as it attempts to control the monetary supply and credit availability in order to influence the economy.
In addition to federal and state banking laws and regulations, BB&T and certain of its subsidiaries and affiliates, including those that engage in securities underwriting, dealing, brokerage, investment advisory and insurance activities, are subject to other federal and state laws and regulations, and supervision and examination by other state and federal regulatory agencies and other regulatory authorities, including the SEC, the Financial Industry Regulatory Authority (the FINRA), the NYSE Euronext, Inc. (the NYSE), and various state insurance and securities regulators.
The earnings of BB&Ts subsidiaries, and therefore the earnings of BB&T, are affected by general economic conditions, management policies, changes in state and federal laws and regulations and actions of various regulatory authorities, including those referred to above. Proposals to change the laws and regulations to which BB&T and its subsidiaries are subject are frequently introduced at both the federal and state levels. The likelihood and timing of any such changes and the impact such changes may have on BB&T and its subsidiaries are impossible to determine with any certainty. The description herein summarizes the significant state and federal laws to which BB&T and the Banks currently are subject. To the extent statutory or regulatory provisions are described, the description is qualified in its entirety by reference to the particular statutory or regulatory provisions.
Financial Holding Company Regulation
Under current federal law, a bank holding company, such as BB&T, may elect to become a financial holding company, which allows the holding company to offer customers virtually any type of service that is financial in nature or incidental thereto, including banking and activities closely related thereto, securities underwriting, insurance (both underwriting and agency) and merchant banking. In order to become and maintain its status as a financial holding company, a financial holding company and all of its affiliated depository institutions must be well-capitalized, well-managed, and have at least a satisfactory Community Reinvestment Act of 1977 (CRA) rating. If the Federal Reserve Board determines that a financial holding company is not well-capitalized or well-managed, the company has a period of time to come into compliance, but during the period of noncompliance, the
Federal Reserve Board can place any limitations on the financial holding company that it believes to be appropriate. Furthermore, if the Federal Reserve Board determines that a financial holding company has not maintained a satisfactory CRA rating, the company will not be able to commence any new financial activities or acquire a company that engages in such activities, although the company will still be allowed to engage in activities closely related to banking and make investments in the ordinary course of conducting merchant banking activities. BB&T became a financial holding company on June 14, 2000, and currently satisfies the requirements to maintain its status as a financial holding company.
Most of the financial activities that are permissible for financial holding companies also are permissible for a financial subsidiary of one or more of the Banks, except for insurance underwriting, insurance company portfolio investments, real estate investments and development, and merchant banking, which must be conducted in a financial holding company. In order for these financial activities to be engaged in by a financial subsidiary of a bank, federal law requires the parent bank (and its sister-bank affiliates) to be well-capitalized and well-managed; the aggregate consolidated assets of all of that banks financial subsidiaries may not exceed the lesser of 45% of its consolidated total assets or $50 billion; the bank must have at least a satisfactory CRA rating; and, if that bank is one of the 100 largest national banks, it must meet certain financial rating or other comparable requirements.
Current federal law also establishes a system of functional regulation under which the Federal Reserve Board is 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 OTS for thrifts, the SEC for securities affiliates and state insurance regulators for insurance affiliates. Certain specific activities, including traditional bank trust and fiduciary activities, may be conducted in the bank without the bank being deemed a broker or a dealer in securities for purposes of functional regulation. 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 identifiable areas.
Office of Thrift Supervision Regulation
As a federally chartered thrift, BB&T FSB is subject to regulation, supervision and examination by the OTS. In connection with the charter conversion of BB&T FSB, Sheffield Financial, LLC and MidAmerica Gift Certificate Company, which were previously direct operating subsidiaries of BB&T, became divisions or subsidiaries of BB&T FSB. In addition, Liberty Mortgage Corporation, formerly a subsidiary of Branch Bank, was reorganized as a subsidiary of BB&T FSB. These organizational structure changes were made to optimize the operating efficiency of these divisions or subsidiaries and have no impact on BB&Ts reportable segments.
BB&T complies with numerous laws related to its acquisition activity. Under the BHCA, a bank 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 holding company or bank or merge or consolidate with another bank holding company without the prior approval of the Federal Reserve Board. Current federal law authorizes interstate acquisitions of banks and bank holding companies without geographic limitation. Furthermore, a bank headquartered in one state is authorized to merge with a bank headquartered in another state, 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 subject to 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.
Other Safety and Soundness Regulations
The Federal Reserve Board has enforcement powers over bank holding companies and their nonbanking subsidiaries. The Federal Reserve Board has authority to prohibit activities that represent unsafe or unsound practices or constitute violations of law, rule, regulation, administrative order or written agreement with a federal regulator. These powers may be exercised through the issuance of cease and desist orders, civil money penalties or other actions.
There also 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 fund 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 financial 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 the DIF 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 DIF. The FDICs 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 institution.
Federal and state banking regulators 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.
Payment of Dividends
BB&T is a legal entity separate and distinct from its subsidiaries. The majority of BB&Ts revenue is from dividends paid to BB&T by Branch Bank. The Banks are subject to laws and regulations that limit the amount of dividends they can pay. In addition, BB&T and the Banks are subject to various regulatory restrictions relating to the payment of dividends, including requirements to maintain capital at or above regulatory minimums, and to remain well-capitalized under the prompt corrective action regulations summarized elsewhere in this section. Federal banking regulators have indicated that banking organizations should generally pay dividends only if (1) the organizations 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 organizations capital needs, asset quality and overall financial condition. North Carolina law states that, subject to certain capital requirements, the board of directors of a bank chartered under the laws of North Carolina may declare a dividend of as much of that banks undivided profits as the directors deem expedient. BB&T does not expect that these laws, regulations or policies will materially affect the ability of Branch Bank to pay dividends.
Each of the federal banking agencies, including the Federal Reserve Board, the FDIC and the OTS, has issued substantially similar risk-based and leverage capital guidelines applicable to banking organizations they supervise, including bank holding companies and banks. 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 shareholders equity excluding the over- or underfunded status of postretirement benefit obligations, unrealized gains or losses on debt securities available for sale, unrealized gains on equity securities available for sale and unrealized gains or losses on cash flow hedges, net of deferred income taxes; plus certain mandatorily redeemable capital securities; less nonqualifying intangible assets net of applicable deferred income taxes and certain nonfinancial equity investments. This is called Tier 1 capital. The remainder may consist of qualifying subordinated debt, certain hybrid capital instruments, qualifying preferred stock and a limited amount of the allowance for credit losses. This is called Tier 2 capital. Tier 1 capital and Tier 2 capital combined are referred to as total regulatory capital.
The Federal Reserve Board requires bank holding companies that engage in trading activities to adjust their risk-based capital ratios to take into consideration market risks that may result from movements in market prices of covered trading positions in trading accounts, or from foreign exchange or commodity positions, whether or not in trading accounts, including changes in interest rates, equity prices, foreign exchange rates or commodity prices. Any capital required to be maintained under these provisions may consist of a new Tier 3 capital consisting of forms of short-term subordinated debt.
Each of the federal bank regulatory agencies, including the Federal Reserve Board, the FDIC and the OTS, also has established minimum leverage capital requirements for banking organizations. These requirements provide that banking organizations that meet certain criteria, including excellent asset quality, high liquidity, low interest rate exposure and good earnings, and that have received the highest regulatory rating must maintain a ratio of Tier 1 capital to total adjusted average assets of at least 3%. Institutions not meeting these criteria, as well as institutions with supervisory, financial or operational weaknesses, are expected to maintain a minimum Tier 1 capital to total adjusted average assets ratio at least 100 basis points above that stated minimum. Holding companies experiencing internal growth or making acquisitions are expected to maintain strong capital positions substantially above the minimum supervisory levels without significant reliance on intangible assets. The Federal Reserve Board also continues to consider a tangible Tier 1 capital leverage ratio (deducting all intangibles) and other indicators of capital strength in evaluating proposals for expansion or new activity.
In addition, the Federal Reserve Board, the FDIC and the OTS all have adopted risk-based capital standards that explicitly identify concentrations of credit risk and the risk arising from non-traditional activities, as well as an institutions ability to manage these risks, as important factors to be taken into account by each agency in assessing an institutions overall capital adequacy. The capital guidelines also provide that an institutions 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 organizations capital adequacy. The agencies also require banks and bank holding companies to adjust their regulatory capital to take into consideration the risk associated with certain recourse obligations, direct credit subsidies, residual interest and other positions in securitized transactions that expose banking organizations to credit risk.
The ratios of Tier 1 capital, total capital to risk-adjusted assets, and leverage capital of BB&T, Branch Bank and BB&T FSB as of December 31, 2008, are shown in the following table.
Capital Adequacy Ratios of BB&T Corporation and Banks
December 31, 2008
The federal banking agencies, including the Federal Reserve Board, the FDIC and the OTS, are required to take prompt corrective action in respect of depository institutions and their bank holding companies that do not meet minimum capital requirements. The law establishes five capital categories for insured depository institutions for this purpose: well-capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized. To be considered well-capitalized under these standards, an institution must maintain a total risk-based capital ratio of 10% or greater; a Tier 1 risk-based capital ratio of 6% or greater; a leverage capital ratio of 5% or greater; and must not be subject to any order or written directive to meet and maintain a specific capital level for any capital measure. BB&T, Branch Bank and BB&T FSB are all classified as well-capitalized. Federal law also requires the bank regulatory agencies to implement systems for prompt corrective action for institutions that fail to meet minimum capital requirements within the five capital 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 also may cause an institution to be directed to raise additional capital. Federal law also mandates that the agencies adopt safety and soundness 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 to the prompt corrective action directives, failure to meet capital guidelines may 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 DIF of the FDIC up to the limits set forth under applicable law and are subject to the deposit insurance premium assessments of the DIF. The FDIC imposes a risk-based deposit premium assessment system, which was amended pursuant to the Federal Deposit Insurance Reform Act of 2005 (the Reform Act). Under this system, as amended, the assessment rates for an insured depository institution vary according to the level of risk incurred in its activities. To arrive at an assessment rate for a banking institution, the FDIC places it in one of four risk categories determined by reference to its capital levels and supervisory ratings. In addition, in the case of those institutions in the lowest risk category, the FDIC further determines its assessment rate based on certain specified financial ratios or, if applicable, its long-term debt ratings. On December 16, 2008, the FDIC adopted a final rule increasing risk-based assessment rates uniformly by 7 basis points, on an annual basis, for the first quarter of 2009. Currently, banks pay between 5 and 43 basis points of their domestic deposits for FDIC insurance. Under the final rule, risk-based rates would range between 12 and 50 basis points (annualized) for the first quarter 2009 assessment, depending on the insured institutions risk category as described above. The assessment rate schedule can change from time to time, at the discretion of the FDIC, subject to certain limits. The FDIC has published guidelines under the Reform Act on the adjustment of assessment rates for certain institutions. Under the current system, premiums are assessed quarterly. The Reform Act also provides for a one-time premium assessment credit for eligible insured depository institutions, including those institutions in existence and paying deposit insurance premiums on December 31, 1996, or certain successors to any such institution. The assessment credit is determined based on the eligible institutions deposits at December 31, 1996 and is applied automatically to reduce the institutions quarterly premium assessments to the maximum extent allowed, until the credit is exhausted. In addition, insured deposits have been required to pay a pro rata portion of the interest due on the obligations issued by the Financing Corporation (FICO) to fund the closing and disposal of failed thrift institutions by the Resolution Trust Corporation.
On February 27, 2009, the FDIC adopted an interim rule, with request for comment, which would institute a one-time special assessment of 20 cents per $100 of domestic deposits on FDIC insured institutions. If approved, BB&T estimates that the assessment would total approximately $175 million. The assessment would be payable on September 30, 2009.
Consumer Protection Laws
In connection with their lending and leasing activities, each of the Banks is subject to a number of federal and state laws designed to protect borrowers and promote lending to various sectors of the economy and population. These laws include the Equal Credit Opportunity Act, the Fair Credit Reporting Act, the Truth in Lending Act, the Home Mortgage Disclosure Act, the Real Estate Settlement Procedures Act, and their respective state law counterparts. BB&T FSB is entitled to federal preemption under the Home Owners Loan Act and OTS regulations of certain state laws.
Federal law currently 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 institutions policies and procedures regarding the handling of customers nonpublic personal financial information. These provisions also provide 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. Federal law makes it 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 CRA requires the Banks primary federal bank regulatory agency, the FDIC for Branch Bank and the OTS for BB&T FSB, to assess the banks record in meeting the credit needs of the communities served by each Bank, including low- and moderate-income neighborhoods and persons. Institutions are assigned one of four ratings: Outstanding, Satisfactory, Needs to Improve or Substantial Noncompliance. This assessment is reviewed for any bank that applies to merge or consolidate with or acquire the assets or assume the liabilities of an insured depository institution, or to open or relocate a branch office. The CRA record of each subsidiary bank of a financial holding company, such as BB&T, also is assessed by the Federal Reserve Board in connection with any acquisition or merger application.
USA Patriot Act
The USA Patriot Act of 2001 (the Patriot Act) contains anti-money laundering measures affecting insured depository institutions, broker-dealers and certain other financial institutions. The Patriot Act includes the International Money Laundering Abatement and Financial Anti-Terrorism Act of 2001 (the IMLAFA). The IMLAFA requires such financial institutions to implement policies and procedures to combat money laundering and the financing of terrorism and grants the Secretary of the Treasury Department (the Secretary) broad authority to establish regulations and to impose requirements and restrictions on financial institutions operations. In addition, the Patriot Act requires the federal bank regulatory agencies to consider the effectiveness of a financial institutions anti-money laundering activities when reviewing bank mergers and bank holding company acquisitions. The Treasury Department has issued a number of regulations implementing the Patriot Act, which impose obligations on financial institutions to maintain appropriate policies, procedures and controls to detect, prevent and report money laundering and terrorist financing. The obligations of financial institutions under the Patriot Act have increased, and may continue to increase. The increase in obligations of financial institutions has resulted in increased costs for BB&T, which may continue to rise, and also may subject BB&T to additional liability. As noted above, enforcement and compliance-related activities by government agencies has increased. Compliance with the Patriot Act, and in particular the IMLAFA, are among the areas receiving focus from bank regulators conducting examinations and this can be expected to continue.
Sarbanes-Oxley Act of 2002
The Sarbanes-Oxley Act of 2002 comprehensively revised the laws affecting corporate governance, accounting obligations and corporate reporting for companies, such as BB&T, with equity or debt securities registered under the Securities Exchange Act of 1934, as amended. In particular, the Sarbanes-Oxley Act established: (1) new requirements for audit committees, including independence, expertise, and responsibilities; (2) new certification responsibilities for the Chief Executive Officer and Chief Financial Officer with respect to the Companys financial statements; (3) new standards for auditors and regulation of audits; (4) increased disclosure and reporting obligations for reporting companies and their directors and executive officers; and (5) new and increased civil and criminal penalties for violation of the federal securities laws.
Emergency Economic Stabilization Act of 2008
In response to recent unprecedented market turmoil, the EESA was enacted on October 3, 2008. EESA authorizes the Secretary to purchase or guarantee up to $700 billion in troubled assets from financial institutions under the TARP. Pursuant to authority granted under EESA, the Secretary has created the TARP CPP under which the Treasury Department will invest up to $250 billion in senior preferred stock of U.S. banks and savings associations or their holding companies. Qualifying financial institutions may issue senior preferred stock with a value equal to not less than 1% of risk-weighted assets and not more than the lesser of $25 billion or 3% of risk-weighted assets.
Institutions participating in the TARP or CPP are required to issue warrants for common or preferred stock or senior debt to the Secretary. If an institution participates in the CPP or if the Secretary acquires a meaningful equity or debt position in the institution as a result of TARP participation, the institution is required to meet certain standards for executive compensation and corporate governance, including a prohibition against incentives to take unnecessary and excessive risks, recovery of bonuses paid to senior executives based on materially inaccurate earnings or other statements and a prohibition against agreements for the payment of golden parachutes. Institutions that sell more than $300 million in assets under TARP auctions or participate in the CPP will not be entitled to a tax deduction for compensation in excess of $500,000 paid to its chief executive or
chief financial official or any of its other three most highly compensated officers. In addition, any severance paid to such officers for involuntary termination or termination in connection with a bankruptcy or receivership will be subject to the golden parachute rules under the Internal Revenue Code. Additional standards with respect to executive compensation and corporate governance for institutions that have participated or will participate in the TARP (including the CPP) were enacted as part of the ARRA, described below.
On November 14, 2008, BB&T entered into a Letter Agreement (the Purchase Agreement) with the Treasury Department under the CPP, pursuant to which BB&T agreed to issue 3,133.64 shares of BB&Ts Fixed Rate Cumulative Perpetual Preferred Stock, Series C (the Series C Preferred Stock), having a liquidation amount per share equal to $1 million, for a total price of $3.1 billion. The Series C Preferred Stock is to pay cumulative dividends at a rate of 5% per year for the first five years and thereafter at a rate of 9% per year. BB&T may not redeem the Series C Preferred Stock during the first three years except with the proceeds from a qualified equity offering (as defined in BB&Ts articles of incorporation). However, under the ARRA, BB&T may redeem the Series C Preferred Stock without a qualified equity offering, subject to the approval of its primary federal regulator. After three years, BB&T may, at its option, redeem the Series C Preferred Stock at par value plus accrued and unpaid dividends. The Series C Preferred Stock is generally non-voting, but does have the right to vote as a class on the issuance of any preferred stock ranking senior, any change in its terms or any merger, exchange or similar transaction that would adversely affect its rights. The holder(s) of Series C Preferred Stock also have the right to elect two directors if dividends have not been paid for six periods.
As part of its purchase of the Series C Preferred Stock, the Treasury Department received a warrant (the Warrant) to purchase 13.9 million shares of BB&Ts common stock at an initial per share exercise price of $33.81. The Warrant provides for the adjustment of the exercise price and the number of shares of BB&Ts common stock issuable upon exercise pursuant to customary anti-dilution provisions, such as upon stock splits or distributions of securities or other assets to holders of BB&Ts common stock, and upon certain issuances of BB&Ts common stock at or below a specified price relative to the initial exercise price. The Warrant expires ten years from the issuance date. If, on or prior to December 31, 2009, BB&T receives aggregate gross cash proceeds of not less than $3.1 billion from qualified equity offerings announced after October 13, 2008, the number of shares of common stock issuable pursuant to the Treasury Departments exercise of the Warrant will be reduced by one-half of the original number of shares, taking into account all adjustments, underlying the Warrant. Pursuant to the Purchase Agreement, the Treasury Department has agreed not to exercise voting power with respect to any shares of common stock issued upon exercise of the Warrant. Under the ARRA, the Warrant would be liquidated upon the redemption by BB&T of the Series C Preferred Stock.
Both the Series C Preferred Stock and the Warrant will be accounted for as components of Tier 1 capital.
Prior to November 14, 2011, unless BB&T has redeemed the Series C Preferred Stock or the Treasury Department has transferred the Series C Preferred Stock to a third party, the consent of the Treasury Department will be required for BB&T to (1) declare or pay any dividend or make any distribution on its common stock (other than regular quarterly cash dividends of not more than $0.47 per share of common stock) or (2) redeem, purchase or acquire any shares of its common stock or other equity or capital securities, other than in connection with benefit plans consistent with past practice and certain other circumstances specified in the Purchase Agreement.
American Recovery and Reinvestment Act of 2009
The ARRA was enacted on February 17, 2009. The ARRA includes a wide variety of programs intended to stimulate the economy and provide for extensive infrastructure, energy, health, and education needs. In addition, the ARRA imposes certain new executive compensation and corporate governance obligations on all current and future TARP recipients, including BB&T, until the institution has redeemed the preferred stock, which TARP recipients are now permitted to do under the ARRA without regard to the three year holding period and without the need to raise new capital, subject to approval of its primary federal regulator. The executive compensation restrictions under the ARRA (described below) are more stringent than those currently in effect under the CPP,
but it is yet unclear how these executive compensation standards will relate to the similar standards recently announced by the Treasury Department, or whether the standards will be considered effective immediately or only after implementing regulations are issued by the Treasury Department.
The ARRA amends Section 111 of the EESA to require the Secretary to adopt additional standards with respect to executive compensation and corporate governance for TARP recipients (including BB&T). The standards required to be established by the Secretary include, in part, (1) prohibitions on making golden parachute payments to senior executive officers and the next 5 most highly-compensated employees during such time as any obligation arising from financial assistance provided under the TARP remains outstanding (the Restricted Period), (2) prohibitions on paying or accruing bonuses or other incentive awards for certain senior executive officers and employees, except for awards of long-term restricted stock with a value equal to no greater than 1/3 of the subject employees annual compensation that do not fully vest during the Restricted Period or unless such compensation is pursuant to a valid written employment contract prior to February 11, 2009, (3) requirements that TARP CPP participants provide for the recovery of any bonus or incentive compensation paid to senior executive officers and the next 20 most highly-compensated employees based on statements of earnings, revenues, gains or other criteria later found to be materially inaccurate, with the Secretary having authority to negotiate for reimbursement, and (4) a review by the Secretary of all bonuses and other compensation paid by TARP participants to senior executive employees and the next 20 most highly-compensated employees before the date of enactment of the ARRA to determine whether such payments were inconsistent with the purposes of the Act.
The ARRA also sets forth additional corporate governance obligations for TARP recipients, including requirements for the Secretary to establish standards that provide for semi-annual meetings of compensation committees of the board of directors to discuss and evaluate employee compensation plans in light of an assessment of any risk posed from such compensation plans. TARP recipients are further required by the ARRA to have in place company-wide policies regarding excessive or luxury expenditures, permit non-binding shareholder say-on-pay proposals to be included in proxy materials, as well as require written certifications by the chief executive officer and chief financial officer with respect to compliance. The Secretary is required to promulgate regulations to implement the executive compensation and certain corporate governance provisions detailed in the ARRA.
Federal Deposit Insurance Corporation
Pursuant to the EESA, the maximum deposit insurance amount per depositor has been increased from $100,000 to $250,000 until December 31, 2009. Additionally, on October 14, 2008, after receiving a recommendation from the boards of the FDIC and the Federal Reserve, and consulting with the President, the Secretary of the Treasury signed the systemic risk exception to the FDIC Act, enabling the FDIC to establish its Temporary Liquidity Guarantee Program (TLGP). Under the transaction account guarantee program of the TLGP, the FDIC will fully guarantee, until the end of 2009, all non-interest-bearing transaction accounts, including NOW accounts with interest rates of 0.5 percent or less and IOLTAs (lawyer trust accounts). The TLGP also guarantees all senior unsecured debt of insured depository institutions or their qualified holding companies issued between October 14, 2008 and June 30, 2009 with a stated maturity greater than 30 days. All eligible institutions were permitted to participate in both of the components of the TLGP without cost for the first 30 days of the program. Following the initial 30 day grace period, institutions were assessed at the rate of ten basis points for transaction account balances in excess of $250,000 for the transaction account guarantee program and at the rate of either 50, 75, or 100 basis points of the amount of debt issued, depending on the maturity date of the guaranteed debt, for the debt guarantee program. Institutions were required to opt-out of the TLGP if they did not wish to participate. BB&T did not choose to opt out of either the transaction account guarantee program or debt guarantee program components of the TGLP.
Future Laws, Regulations and Governmental Programs
Various laws, regulations and governmental programs affecting financial institutions and the financial industry are from time to time introduced in Congress or otherwise promulgated by regulatory agencies. Such measures may change the operating environment of BB&T and its subsidiaries in substantial and unpredictable
ways. With the recent enactments of the EESA and the ARRA, the nature and extent of future legislative, regulatory or other changes affecting financial institutions is very unpredictable at this time.
Specifically, on February 10, 2009, the Treasury Department announced the Financial Stability Plan (the Plan), representing a set of measures intended to restore confidence in the strength of U.S. financial institutions and restart the flow of credit to households and businesses. Core elements of the Plan include, in part (1) a mandatory stress test requirement for banking institutions, such as BB&T, with assets in excess of $100 billion, which would require a comprehensive assessment of whether the institution has sufficient capital to continue lending and absorb potential losses and increased disclosure of risk exposure on the balance sheet of such banking institutions, (2) additional required disclosures from participants in the Plan related to the impact of assistance received under the Plan on the institutions lending practices, and (3) more robust limitations on dividend, stock repurchase, acquisition, and executive compensation activities. On February 18, 2009 the Treasury Department outlined the Homeowner Affordability and Stability Plan, which includes measures that could impact BB&T, including measures to (1) implement a comprehensive homeowner stability initiative that incentivizes financial institutions to reduce homeowners monthly mortgage payments, (2) develop clear and consistent guidelines for loan modifications that participants will be obligated to use, and (3) authorize judicial modifications of home mortgages in personal bankruptcy cases, which modifications must be accepted by the loan servicer or lender. The foregoing programs and actions remain subject to further clarification, and full implementation, and their full impact upon BB&T remains unpredictable at this time.
Other Regulatory Matters
BB&T and its subsidiaries and affiliates are subject to numerous examinations by federal and state banking regulators, as well as the SEC, the FINRA, the NYSE and various state insurance and securities regulators. BB&T and its subsidiaries have from time to time received requests for information from regulatory authorities in various states, including state insurance commissions and state attorneys general, securities regulators and other regulatory authorities, concerning their business practices. Such requests are considered incidental to the normal conduct of business.
Information with respect to BB&Ts corporate governance policies and principles is presented on BB&Ts web site, www.BBT.com, and includes:
BB&T intends to disclose any substantive amendments or waivers to the Code of Ethics for Directors or Senior Financial Officers on our web site at www.BBT.com/Investor.
The annual certification of BB&Ts Chief Executive Officer required to be furnished to the NYSE pursuant to Section 303A.12(a) of the NYSE Listed Company Manual was previously filed with the NYSE on May 19, 2008.
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of the consolidated financial condition and consolidated results of operations of BB&T Corporation and its subsidiaries for each of the three years in the period ended December 31, 2008, and related financial information, are presented in conjunction with the consolidated financial statements and related notes to assist in the evaluation of BB&Ts 2008 performance.
In certain circumstances, reclassifications have been made to prior period information to conform to the 2008 presentation. Such reclassifications had no effect on previously reported shareholders equity or net income.
Mergers and Acquisitions Completed During 2008
On December 12, 2008, BB&T announced the acquisition of all the deposits of Haven Trust Bank (Haven Trust) of Duluth, Georgia through an agreement with the FDIC. Haven Trust operated four branches with approximately $506 million in deposits. In addition to the acquisition noted above, BB&T acquired eleven insurance agencies and one nonbank financial services company during 2008. All of the acquisitions during 2008 were immaterial in relation to the consolidated results of BB&T. See Note 2 Business Combinations in the Notes to Consolidated Financial Statements for further information regarding mergers and acquisitions.
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 of America and conform to the accounting and reporting guidelines prescribed by bank regulatory authorities. BB&Ts financial position and results of operations are affected by managements 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 and expenses. Different assumptions in the application of these policies could result in material changes in BB&Ts consolidated financial position and/or consolidated results of operations and related disclosures. The more critical accounting and reporting policies include BB&Ts accounting for the allowance for loan and lease losses and reserve for unfunded lending commitments, determining fair value of financial instruments, intangible assets and other purchase accounting related adjustments associated with mergers and acquisitions, costs and benefit obligations associated with BB&Ts pension and postretirement benefit plans, and income taxes. Understanding BB&Ts accounting policies is fundamental to understanding BB&Ts consolidated financial position and consolidated results of operations. Accordingly, BB&Ts significant accounting policies and changes in accounting principles and effects of new accounting pronouncements are discussed in detail in Note 1 in the Notes to Consolidated Financial Statements.
The following is a summary of BB&Ts critical accounting policies that are highly dependent on estimates, assumptions and judgments. These critical accounting policies are reviewed with the Audit Committee of BB&Ts Board of Directors on a periodic basis.
Allowance for Loan and Lease Losses and Reserve for Unfunded Lending Commitments
It is the policy of BB&T to maintain an allowance for loan and lease losses and a reserve for unfunded lending commitments that equal managements best estimate of probable credit losses that are inherent in the portfolio at the balance sheet date. Estimates for loan and lease losses are determined by analyzing historical loan and lease losses, historical loan and lease migration to charge-off experience, current trends in delinquencies and charge-offs, plans for problem loan and lease administration, the results of regulatory examinations, and changes in the size, composition and risk assessment of the loan and lease portfolio. Also included in managements estimates for loan and lease losses are considerations with respect to the impact of current economic events, the outcomes of
which are 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. The methodology used to determine an estimate for the reserve for unfunded lending commitments is inherently similar to the methodology used in calculating the allowance for loans and leases adjusted for factors specific to binding commitments, including the probability of funding and exposure at the time of funding. A detailed discussion of the methodology used in determining the allowance for loan and lease losses and the reserve for unfunded lending commitments is included in the Overview and Description of BusinessAllowance for Loan and Lease Losses and Reserve for Unfunded Lending Commitments.
Fair Value of Financial Instruments
A significant portion of BB&Ts assets and certain liabilities are financial instruments carried at fair value. This includes securities available for sale, trading securities, derivatives, certain loans held for sale, residential mortgage servicing rights, certain short-term borrowings and venture capital investments. At December 31, 2008, the percentage of total assets and total liabilities measured at fair value was 24.3% and less than 1%, respectively. The vast majority of assets and liabilities carried at fair value are based on either quoted market prices or market prices for similar instruments. At December 31, 2008, 4.6% of assets measured at fair value were based on significant unobservable inputs. This is less than 1% of BB&Ts total assets. See Note 18 Disclosures about Fair Value of Financial Instruments in the Notes to Consolidated Financial Statements herein for additional disclosures regarding the fair value of financial instruments.
The fair values for available-for-sale and trading securities are generally based upon quoted market prices or observable market prices for similar instruments. These values take into account recent market activity as well as other market observable data such as interest rate, spread and prepayment information. When market observable data is not available, which generally occurs due to the lack of liquidity for certain trading securities, the valuation of the security is subjective and may involve substantial judgment. As of December 31, 2008, BB&T had approximately $1.1 billion of available-for-sale and trading securities, which is less than 1% of total assets, valued using unobservable inputs. These securities were primarily non-agency mortgage-backed securities.
Mortgage Servicing Rights
BB&T has a significant mortgage loan servicing portfolio and related mortgage servicing rights (MSRs). BB&T has two classes of MSRs for which it separately manages the economic risk: residential and commercial. Residential MSRs are carried at fair value with changes in fair value recorded as a component of mortgage banking income each period. BB&T uses various derivative instruments to mitigate the income statement effect of changes in fair value, due to changes in valuation inputs and assumptions, of its residential MSRs. MSRs do not trade in an active, open market with readily observable prices. While sales of MSRs do occur, the precise terms and conditions typically are not readily available. Accordingly, BB&T estimates the fair value of residential MSRs using an option adjusted spread (OAS) valuation model to project MSR cash flows over multiple interest rate scenarios, which are then discounted at risk-adjusted rates. The OAS model considers portfolio characteristics, contractually specified servicing fees, prepayment assumptions, delinquency rates, late charges, other ancillary revenue, costs to service and other economic factors. BB&T reassesses and periodically adjusts the underlying inputs and assumptions in the OAS model to reflect market conditions and assumptions that a market participant would consider in valuing the MSR asset. When available, fair value estimates and assumptions are compared to observable market data and to recent market activity and actual portfolio experience. Due to the nature of the valuation inputs, MSRs are classified within level 3 of the valuation hierarchy. The value of MSRs is significantly affected by mortgage interest rates available in the marketplace, which influence mortgage loan prepayment speeds. In general, during periods of declining interest rates, the value of MSRs declines due to increasing prepayments attributable to increased mortgage-refinance activity. Conversely, during periods of rising interest rates, the value of MSRs generally increases due to reduced refinance activity. Commercial MSRs are carried at lower of cost or market and amortized over the estimated period that servicing income is expected to be received based on projections of the amount and timing of estimated future cash flows. The amount and timing of servicing asset amortization is updated based on actual
results and updated projections. Please refer to Note 8 Loan Servicing in the Notes to Consolidated Financial Statements for quantitative disclosures reflecting the effect that changes in managements assumptions would have on the fair value of MSRs.
Loans Held for Sale
BB&T originates certain mortgage loans to be sold to investors. The majority of these loans are carried at fair value based on the Fair Value Option. For these loans, the fair value is primarily based on quoted market prices for securities backed by similar types of loans. Changes in the fair value are recorded as a component of mortgage banking income while mortgage loan origination costs for loans held for sale for which the Corporation elected the Fair Value Option are recognized in noninterest expense when incurred. The changes in fair value of these assets are largely driven by changes in interest rates subsequent to loan funding and changes in the fair value of servicing associated with the mortgage loan held for sale. BB&T uses various derivative instruments to mitigate the income statement effect of changes in fair value of the underlying loans.
BB&T uses derivatives to manage various financial risks. The fair values of derivative financial instruments are determined based on quoted market prices, dealer quotes and internal pricing models that are primarily sensitive to market observable data. BB&T mitigates the credit risk by subjecting counterparties to credit reviews and approvals similar to those used in making loans and other extensions of credit. In addition, certain counterparties are required to provide collateral to BB&T when their unsecured loss positions exceed certain negotiated limits. The fair value of interest rate lock commitments, which are related to mortgage loan commitments, is based on quoted market prices adjusted for commitments that BB&T does not expect to fund and includes the value attributable to the net servicing fee.
Venture Capital Investments
BB&T has venture capital investments that are carried at fair value. Changes in the fair value of these investments are recorded in other noninterest income each period. In many cases there are no observable market values for these investments and therefore management must estimate the fair value based on a comparison of the operating performance of the company to multiples in the marketplace for similar entities. This analysis requires significant judgment and actual values in a sale could differ materially from those estimated. As of December 31, 2008, BB&T had $183 million of venture capital investments, which is less than 1% of total assets.
BB&Ts growth in business, profitability and market share over the past several years has been enhanced significantly by mergers and acquisitions. BB&Ts mergers and acquisitions are accounted for using the purchase method of accounting. Under the purchase method, BB&T is required to record the assets acquired, including identified intangible assets, and liabilities assumed at their fair value, which often involves estimates based on third party valuations, such as appraisals, or internal valuations based on discounted cash flow analyses or other valuation techniques, which are inherently subjective. The amortization of identified intangible assets is based upon the estimated economic benefits to be received, which is also subjective. These estimates also include the establishment of various accruals and allowances based on planned facility 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. Please refer to Note 1 Summary of Significant Accounting Policies in the Notes to Consolidated Financial Statements for a description of BB&Ts impairment testing process. The major assumptions used in the impairment testing process include the estimated future cash flows of each business unit and discount rates. Discount rates are unique to each business unit and are based upon the cost of capital specific to the industry in which the business unit operates. Management has evaluated the effect of lowering the estimated future cash flows or increasing the discount rate for each business unit by 10% and determined that no impairment of goodwill would have been recognized under this evaluation. However, as a result of the market disruption and the decline in market capitalization, the excess of the fair value over the carrying value of several reporting units continues to narrow. A continuing period of market disruption, or further market deterioration, may result in impairment of goodwill in the future.
Pension and Postretirement Benefit Obligations
BB&T offers various pension plans and postretirement benefit plans to employees. The calculation of the obligations and related expenses under these plans requires the use of actuarial valuation methods and assumptions. Actuarial valuations and assumptions used in the determination of future values of plan assets and liabilities are subject to management judgment and may differ significantly if different assumptions are used. The discount rate assumption used to measure the postretirement benefit obligations is set by reference to published high-quality bond indices, as well as certain hypothetical spot-rate yield curves. These yield curves were constructed from the underlying bond price and yield data collected as of the plans measurement date and are represented by a series of annualized, individual discount rates with durations ranging from six months to thirty years. Each discount rate in the curve was derived from an equal weighting of the double A or higher bond universe, apportioned into distinct maturity groups. For durations where no bond maturities were available, the discount rates for these maturities were extrapolated based on historical relationships from observable data in similar markets. These indices and hypothetical curves give only an indication of the appropriate discount rate because the cash flows of the bonds comprising the indices and curves do not match the projected benefit payment stream of the plan precisely. For this reason, we also consider the individual characteristics of the plan, such as projected cash flow patterns and payment durations, when setting the discount rate. Please refer to Note 14 Benefit Plans in the Notes to Consolidated Financial Statements for disclosures related to BB&Ts benefit plans, including quantitative disclosures reflecting the impact that changes in certain assumptions would have on service and interest costs and benefit obligations.
The calculation of BB&Ts income tax provision is complex and requires the use of estimates and judgments. As part of the Companys analysis and implementation of business strategies, consideration is given to the tax laws and regulations that apply to the specific facts and circumstances for any tax position under evaluation. For tax positions that are uncertain in nature, management determines whether the tax position is more likely than not to be sustained upon examination. For tax positions that meet this threshold, management then estimates the amount of the tax benefit to recognize in the financial statements. Management closely monitors tax developments in order to evaluate the effect they may have on the Companys overall tax position and the estimates and judgments used in determining the income tax provision and records adjustments as necessary.
Analysis of Financial Condition
A summary of the more significant fluctuations in balance sheet accounts is presented below.
For the year ended December 31, 2008, BB&Ts average assets totaled $136.9 billion, an increase of $10.5 billion, or 8.3%, compared to the 2007 average of $126.4 billion, primarily reflecting growth in average loans and leases and investment securities. Average loans and leases for 2008 were up $7.2 billion, or 8.2%, from 2007 and average investment securities increased $1.2 billion, or 5.1%, compared to 2007. The growth in average loans and leases was led by growth in average commercial loans and leases, which increased $5.1 billion, or 12.0%; average mortgage loans, which increased $1.1 billion, or 6.2%; and growth in average loans originated by BB&Ts specialized lending subsidiaries, which increased $445 million, or 8.6%. Total earning assets averaged $120.9 billion in 2008, an increase of $8.5 billion, or 7.6%, compared to 2007. These averages and growth rates include the effects of acquisitions.
BB&Ts average deposits totaled $88.8 billion, reflecting growth of $5.3 billion, or 6.4%, compared to 2007. The categories of deposits with the highest growth rates were other interest-bearing deposits, which increased $2.1 billion, or 26.7%, and other client deposits, which increased $2.4 billion, or 7.0%.
Short-term borrowings include Federal funds purchased, securities sold under repurchase agreements, master notes, short-term bank notes, treasury tax and loan deposit notes payable and other short-term borrowings. Average short-term borrowings totaled $10.6 billion for the year ended December 31, 2008, an increase of $1.3 billion, or 13.5%, from the 2007 average. BB&T also has used long-term debt for a significant portion of its funding needs. Long-term debt includes Federal Home Loan Bank (FHLB) advances, other secured borrowings by Branch Bank, capital securities issued by unconsolidated trusts and senior and subordinated debt issued by the Corporation and Branch Bank. Average long-term debt totaled $19.8 billion for the year ended December 31, 2008, up $1.8 billion, or 9.9%, compared to 2007.
The compound annual rate of growth in average total assets for the five-year period ended December 31, 2008, was 9.9%. Over the same five-year period, average loans and leases increased at a compound annual rate of 10.5%, average securities increased at a compound annual rate of 7.5%, and average deposits grew at a compound annual rate of 9.3%. These balance sheet growth rates include the effect of acquisitions, as well as internal growth.
For more detailed discussions concerning the causes of these fluctuations, please refer to the sections that follow.
The securities portfolio provides earnings and liquidity, and is managed as part of the overall asset and liability management process to optimize net interest income and reduce exposure to interest rate risk. Management has historically emphasized investments with duration of five years or less to provide flexibility in managing the balance sheet in changing interest rate environments. Total securities increased 41.8% from year-end 2007 to year-end 2008, to a total of $33.2 billion at December 31, 2008. The growth in the securities portfolio reflects the initial deployment of the capital invested by the Treasury Department in connection with the CPP. The purchase of additional securities at year-end 2008 was the most efficient and effective means of deploying the capital investment by the Treasury Department. It is anticipated that cash flows from pay downs and maturities from the securities portfolio will be reinvested into loans during 2009, and the overall size of the securities portfolio will eventually decline to a more traditional level.
As of December 31, 2008, the total securities portfolio included $376 million in trading securities and $32.8 billion of available-for-sale securities. The available-for-sale portfolio comprised 98.9% of total securities at December 31, 2008. Management believes that the high concentration of securities in the available-for-sale portfolio allows flexibility in the management of the overall investment portfolio, consistent with the objectives of optimizing profitability, mitigating interest rate risk, supporting capital and providing liquidity.
The following table provides information regarding the composition of BB&Ts securities portfolio for the years presented:
Composition of Securities Portfolio
At December 31, 2008, trading securities reflected on BB&Ts consolidated balance sheet totaled $376 million compared to $1.0 billion at December 31, 2007. The decline in the trading portfolio was largely the result of a reduction in Scott & Stringfellows trading inventory primarily due to managements decision to reduce risk associated with trading activities.
The available-for-sale securities portfolio is primarily composed of mortgage-backed securities issued by U.S. government-sponsored entities. Mortgage-backed securities comprised 83.5% of the total available-for-sale securities portfolio at year-end 2008. The duration of the mortgage-backed securities was 1.60 years at December 31, 2008 compared to 2.91 years at December 31, 2007. The duration of the entire available-for-sale portfolio at December 31, 2008 was 2.77 years compared to 2.43 years at December 31, 2007.
The market value of the available-for-sale portfolio at year-end 2008 was $517 million lower than the amortized cost of these securities. At December 31, 2008, BB&Ts available-for-sale portfolio had net unrealized losses, net of deferred income taxes, of $324 million, which are reported as a component of shareholders equity. At December 31, 2007, the available-for-sale portfolio had net unrealized losses of $28 million, net of deferred income taxes. The decline in the fair value of the securities available-for-sale portfolio during 2008 was largely a result of declines in the value of non-agency mortgage-backed securities and municipal securities, as demand for securities in these asset classes has waned due to investor concerns about real estate related assets and the overall state of the economy. Declines in the values of these portfolios were partially offset by increases in the value of government sponsored entity securities.
During the year ended December 31, 2008, BB&T sold approximately $21.0 billion of available-for-sale securities and realized net gains totaling $211 million. In addition, BB&T periodically evaluates available-for-sale securities for other-than-temporary impairment. Based on its evaluations during 2008, BB&T recorded $104 million of other-than-temporary impairments related to certain debt and equity securities. No other-than-temporary impairments were recorded during 2007 and 2006.
On December 31, 2008, BB&T also held certain investment securities having continuous unrealized loss positions for more than 12 months. As of December 31, 2008, the unrealized losses on these securities totaled $412 million. Substantially all of these losses were in non-agency mortgage-backed and municipal securities. At December 31, 2008, all of the available-for-sale debt securities with the exception of four non-agency mortgage-backed securities were investment grade. During the fourth quarter of 2008, four non-agency mortgage-backed securities, with a book value of approximately $293 million, were downgraded below investment grade. BB&T evaluated all of its non-agency mortgage-backed securities based on the underlying collateral as well as capital structure. BB&T holds the senior position on all of the non-agency mortgage-backed securities. The unrealized losses for all of the securities having continuous unrealized loss positions for more than 12 months are the result of changes in market interest rates and liquidity. Based on the evaluation on December 31, 2008, there were no credit losses evident from these securities. At December 31, 2008, BB&T had the ability and intent to retain these securities for a period of time sufficient to recover all unrealized losses.
The following table presents BB&Ts securities portfolio at December 31, 2008, segregated by major category with ranges of maturities and average yields disclosed.
The fully taxable equivalent (FTE) yield on the total securities portfolio was 5.05% for the years ended December 31, 2008 and 2007. The FTE yield remained stable despite general declines in interest rates due to
changes in the overall composition of the securities portfolio with a larger concentration of higher-yielding mortgage-backed and municipal securities. The yield on mortgage-backed securities issued by government-sponsored entities decreased from 5.15% to 4.94% and the FTE yield on state and municipal securities decreased from 6.65% last year to 6.33% in the current year, while the yield on U.S. government-sponsored entity securities increased from 4.53% in 2007 to 4.86% in 2008. The yield on non-agency mortgage-backed securities increased from 5.78% during 2007 to 5.81% in 2008.
Loans and Leases
BB&T emphasizes commercial lending to small and medium-sized businesses, consumer lending, mortgage lending and specialized lending with an overall goal of maximizing the profitability of the loan portfolio while maintaining strong asset quality. The various categories of loan products offered by BB&T are discussed under Lending Activities in the Overview and Description of Business section herein. BB&T is a full-service lender with approximately one-half of its loan portfolio to businesses and one-half to individual consumers. Average commercial loans, including lease receivables, comprised 50.0% of the loan portfolio during 2008, compared to 48.3% in 2007. Average direct retail loans comprised 16.4% of average loans in 2008, compared to 17.6% in 2007. Average sales finance loans comprised 6.5% of average loans in 2008, compared to 6.7% in 2007. Average revolving credit loans comprised 1.7% of average loans in 2008 and 2007. Average mortgage loans comprised 19.5% of average total loans for 2008, compared to 19.9% a year ago. Average loans originated by BB&Ts specialized lending subsidiaries represented 5.9% of average total loans in 2008 compared to 5.8% in the prior year.
BB&Ts loan portfolio, excluding loans held for sale, increased $6.3 billion, or 7.0%, compared to year-end 2007. Average total loans and leases for 2008 increased $7.2 billion, or 8.2%, compared to 2007. The growth in the loan portfolio was primarily a result of strong internal growth in the commercial and industrial lending portfolio, as well as growth in the mortgage and specialized lending portfolios. The growth in average loans during 2008, includes the impact of the acquisition of Coastal Financial Corporation (Coastal), which was acquired during 2007.
Average commercial loans and leases increased $5.1 billion, or 12.0%, in 2008 as compared to 2007. Overall, the commercial loan and lease portfolio showed strong growth during 2008. The mix of the commercial loan portfolio has shifted somewhat, as commercial real estate lending has slowed due to a slower real estate market and managements efforts to reduce exposure to the real estate market. This has been offset by an increased focus on commercial and industrial loans. BB&T experienced stronger trends in the fourth quarter of 2008 both in commercial and industrial lending and income producing commercial real estate lending primarily due to challenges facing many in-market competitors that has allowed BB&T to attract new clients.
The pace of growth in the direct retail loan portfolio slowed further in 2008, due to a difficult residential real estate market, which decreased demand for home equity loan products. Sales finance loans and revolving credit reflected solid growth rates of 5.3% and 14.0%, respectively, during 2008. BB&T concentrates its efforts on the highest quality borrowers in both of these product markets. Sales finance loans were negatively affected by weak auto sales; however BB&T has been gaining market share in this portfolio as many competitors have withdrawn from indirect automobile lending in our footprint.
Average mortgage loans increased $1.1 billion, or 6.2%, compared to 2007. Management views mortgage loans as an integral part of BB&Ts relationship-based credit culture. BB&T is a large originator of residential mortgage loans, with 2008 originations of $16.4 billion. The vast majority of mortgage loans originated during 2008 were conforming mortgage loans that were either sold in the secondary market or held in the loans held for sale portfolio at year-end. Loans held for sale, which is almost entirely comprised of government-conforming mortgage loans increased 82.8% compared to year-end 2007 as refinance activity significantly increased late in the fourth quarter due to the historically low loan rates for mortgages. At December 31, 2008, BB&T was servicing $40.7 billion in residential mortgages owned by third parties and $19.0 billion of mortgage loans owned by BB&T, including $18.4 billion classified as mortgage loans and $573 million classified as securities available for sale.
Average loans originated by BB&Ts specialized lending subsidiaries increased $445 million, or 8.6%, compared to 2007. The growth in the specialized lending portfolio was driven by strong internal loan growth in
automobile lending, as many competitors exited this business during 2008. Additionally, healthy growth trends were evident in premium finance and equipment finance during the fourth quarter.
The average annualized FTE yield for 2008 for the total loan portfolio was 6.35% compared to 7.67% for the prior year. The 132 basis point decrease in the average yield on loans resulted primarily from the repricing of variable rate loans and maturing loans with higher yields that were replaced with lower-yielding loans and leases. The prime rate, which is the basis for pricing many commercial and consumer loans, declined 400 basis points during 2008 to 3.25% at year-end as the Federal Reserve Board lowered rates seven times during 2008 in response to the economic recession, challenges in the residential real estate markets, and disruptions in other financial markets. The average prime rate in effect during 2008 and 2007 was 5.09% and 8.05%, respectively.
Asset Quality and Credit Risk Management
BB&T has established the following general practices to manage credit risk:
BB&Ts lending strategy, which focuses on relationship-based lending within our markets and smaller individual loan balances, continues to produce credit quality that is better than its peer group of financial institutions. As measured by relative levels of nonperforming assets and net charge-offs, BB&Ts asset quality has remained significantly better than published industry averages.
The following table summarizes asset quality information for the past five years.
During 2008, BB&Ts credit quality declined as a result of a very challenging economic environment. Nonperforming assets and credit losses increased further during the year as a result of the distressed residential real estate market and economic recession. Nonperforming assets increased from .52% of total assets at December 31, 2007 to 1.34% at year-end 2008. Net charge-offs for 2008 were .89% of average loans and leases and reflected an increase of 51 basis points from the .38% level recorded during 2007. The increases in nonperforming assets and net charge-offs were driven by continued deterioration in residential real estate markets and the overall economy with the largest concentration of credit issues occurring in Georgia, Florida and metro Washington, D.C. If the economy continues to deteriorate as is currently forecasted, management anticipates that net charge-offs and nonperforming assets will continue to increase into 2009.
The following table summarizes nonperforming assets and past due loans by loan type for the past three years.
Summary of Nonperforming Assets and Past Due Loans
Allowance for Loan and Lease Losses and Reserve for Unfunded Lending Commitments
The allowance for loan and lease losses and the reserve for unfunded lending commitments compose BB&Ts allowance for credit losses. The allowance for credit losses totaled $1.6 billion at December 31, 2008, an increase of 58.3% compared to $1.0 billion at the end of 2007. The allowance for loan and lease losses, as a percentage of loans and leases held for investment, was 1.62% at December 31, 2008, compared to 1.10% at year-end 2007. The allowance for credit losses increased by $592 million during 2008, primarily as a result of higher loss rates for residential real estate related lending, and their effect on the overall allowance model. The increase of $592 million included an increase of $570 million in the allowance for loan and lease losses and $22 million in the reserve for unfunded lending commitments. These increases resulted from increased migration of loans and lending commitments to higher risk grades, with the most significant increases occurring in the single family residential real estate acquisition, development and construction loan portfolio. Please refer to Note 5 Allowance for Loan and Lease Losses and Reserve for Unfunded Lending Commitments in the Notes to Consolidated Financial Statements for additional disclosures.
Information relevant to BB&Ts allowance for loan and lease losses for the last five years is presented in the following table. The table is presented using regulatory classifications.
Analysis of Allowance for Credit Losses