14

Chapter One: The Business of Financial Institutions

Problem 1-1
The Unidentified Financial Institutions Exercise
As described above, the various classes of financial intermediaries perform
economically similar functions. As a matter of public perception, however, there is a
substantial difference between categories of financial intermediaries. Most people and
most politicians perceive mutual funds, for example, in a very different light than
commercial banks. Insurance companies are thought to differ in material respects from
thrift institutions. Reality falls somewhere between economic theory and popular
sensibilities.
As a step towards understanding the differences among the different classes of
financial intermediaries to be touched upon in this course, work your way through the
following exercise and try to address these questions:
1) Analyze as best you can the financial statements given for Unidentified
Institution A. How profitable was this institution in 1997? Where did the
institution=s income come from? What were its expenses? How might management
go about improving profitability?
2) Match the following financial statements of Unidentified Institution A
and those of the other institutions provided on the following pages with the different
types of financial institutions listed below.
3) If you have time, compare the relative profitability of these institutions.
Within the financial services industry, one important measure of profitability is return
on assets (ROA), which is defined to be the ratio of net income to total assets. How
does ROA vary from institution to institution? What other financial ratios offer a
meaningful basis of comparison?
The institutions depicted in the following financial statements are:
1. A Commercial Bank: Commercial banks are the most diversified and
numerous of all United State financial institutions; they are intermediaries that
attract funds largely through deposits and invest money in consumer and
business loans, state and local government bonds, and United States
governments.

Unidentified Financial Institutions Exercise

15

2. A Savings Bank: Savings banks traditionally have been organized in mutual

(as opposed to stock) form. Savings banks are primarily depository institutions that
invest their funds in securities, bonds, and various other types of loans.
3. A Finance Company: Finance companies have traditionally supplied
installment loans to consumers and various types of business credit. In recent years,
many finance companies, including the one in this exercise, have diversified into
other areas of intermediation.
4. A Life Insurance Company: Life insurance companies accumulate savings
for individuals and insure people against death, accidents, illness, and other
misfortunes.
5. A Broker-Dealer: These companies underwrite and otherwise facilitate the
issuance of securities and also promote the exchange of securities in the secondary
markets.
6. An Investment Company: Investment companies, which in certain forms are
also known as mutual funds, offer individual and corporate investors pools of
diversified marketable instruments, such as stocks or bonds, which are selected by
professional money managers according to predetermined investment guidelines.
7. A Money Market Mutual Fund: A money market mutual fund is a special
form of investment company that limits itself to high-quality, short-term investments.

16

Chapter One: The Business of Financial Institutions

Institution A
Balance Sheet as of October 31, 1997
Assets
Cash and Due From Banks
Short Term Investments
Investment Securities
Mortgage/Commercial Real Estate Loans
Commercial and Industrial Loans
Other Loans
Allowance for Possible Loan Losses
Total Loans
Premises and Equipment
Other Assets
Total Assets
Liabilities and Surplus
Deposits
Other Liabilities
Retained Earnings
Unrealized Gain on Securities Available for Sale
Total Liabilities and Surplus

$Million
$15.08
$32.14
$249.36
$561.25
$173.27
$19.93
($3.31)
$751.45
$28.28
$21.90
$1,097.91
$Million
$984.40
$21.09
$92.361
$0.06
$1097.91

Income Statement for Year Ending October 31, 1997

Interest on Short-Term Investments and Investment
Securities
Interest on Total Loans
Interest Expense on Deposits
Provision for Possible Loan Losses
Net Income After Provision for Possible Losses
Non-Interest Income
Salaries and Benefits
Office Occupancy and Equipment
Other Expenses
Total Non-Interest Expense
Income Before Taxes
Taxes
Net Income

$Million
$18.69
$54.85
($40.25)
($0.40)
$33.32
$2.32
($12.98)
($4.54)
($7.32)
($24.84)
$10.80
$4.11
$6.69

% of Assets
1.37%
2.93%
22.71%
51.12%
15.78%
1.82%
-0.30%
68.44%
2.58%
1.99%
100.00%
% of Assets
89.66%
1.92%
8.41%
0.01%
100.00%

Unidentified Financial Institutions Exercise

17

Institution B
Balance Sheet as of December 31, 1997
Assets
Cash
Investment Securities
Home Equity Receivables
Visa/Mastercard Receivables
Other Receivables
Private Label
Net Receivables
Advances to parent Company and Affiliates
Acquired Intangibles
Properties and Equipment
Other Assets
Total Assets

$Million
$291.4
$1,723.8
$6,953.1
$4,105.0
$2,354.0
$3,365.2
$17,667.8
$10.5
$1,734.2
$337.8
$1,159.2
$22,934.7

% of Assets
1.27%
7.52%
30.32%
17.90%
10.26%
14.67%
77.04%
0.05%
7.56%
1.47%
5.05%
100.00%

Liabilities and Shareholder==s Equity

Commercial Paper, Bank and Other Borrowings
Insurance Policy and Claim Reserves
Senior and Senior Subordinate Debt
Other Liabilities
Total Liabilities
Common Shareholders= Equity
Total Liabilities and Shareholders== Equity

$Million
$4,962.0
$1,057.1
$12,022.0
$862.2
$18,903.3
$4,031.4
$22,934.7

% of Assets
21.64%
4.61%
52.42%
3.76%
82.42%
17.58%
100.00%

18

Chapter One: The Business of Financial Institutions

Institution B
Income Statement for Year Ending December 31, 1997
$Million
Interest and other Income from Securities
$22.1
Finance Income from Receivables
$2,131.3
Interest Expense
($998.5)
Provision for Credit Losses on Receivables
($801.1)
Net Interest Margin
$1,154.9
Securitization, Fee, and Other Income
$1,474.0
Insurance Premiums and Contract Benefits
$175.1
Total Other Revenues
$1,758.1
Salaries and Fringe Benefits
($479.5)
Other Operating Expenses
($681.2)
Policyholders= Benefits
($165.2)
Total Costs and Expenses
($1,326.2)
Income Before Taxes
$785.7
Taxes
($272.3)
Net Income
$513.4

Unidentified Financial Institutions Exercise

19

Institution C
Balance Sheet as of December 31, 1997
Assets
Cash and Demand Balances Due From Banks
Money Market Assets
Portfolio Securities
Trading Account
Domestic Loans, Net of Unearned Income
Allowance for Possible Credit Losses
Premises and Equipment
Customers= Liability on Acceptances
Other Assets
Total Assets
Liabilities and Shareholders= Equity
Deposits in Domestic Offices: Interest bearing
Non-Interest bearing
Deposits in Foreign Offices: Interest bearing
Non Interest bearing
Total Deposits
Federal Funds Purchased and Securities sold under
Agreement
Short-Term Borrowings & Commercial Paper
Senior and Long-term Notes
Other Liabilities
Total Liabilities
Stockholders Equity
Total Liabilities and Stockholders= Equity

$Million
$1,304.4
$678.9
$5,229.4
$53.2
$10,868.3
($130.9)
$314.6
$46.5
$1,769.1
$20,133.5

% of Assets
6.48%
3.37%
25.97%
0.26%
53.98%
0.65%
1.56%
0.23%
8.79%
100.00%

$Million
$8,489.7
$4,192.5
$1,731.4
$18.4
$14,432.0
12.18%
4.25%
2.38%
1.41%
91.89%
$1,632.6
100.00%

20

Chapter One: The Business of Financial Institutions

Institution C
Income Statement for Year Ending December 31, 1997
Interest on Loans Including Fees
Interest on Money Market Assets
Interest on Portfolio Securities
Total Interest Income
Interest Expense on Deposits
Interest Expense on Short-term Borrowings and
Commercial Paper
Interest Expense on Senior and Long-term notes
Total Interest Expense
Provision for Credit Losses
Net Interest Margin
Trust and Investment Management Fees
Trading Account, Foreign Exchange, Charge Card
& Service Fees
Securities gains (losses)
Other Noninterest Income
Total Other Revenues
Salaries, benefits & other compensation
Net Occupancy and Equipment
Deposit Insurance
Other Expense
Total Noninterest Expenses
Income Before Taxes
Taxes
Net Income

$Million
$927.1
$44.1
$298.4
$1,269.6
($475.7)
($156.6)
($66.4)
($698.7)
($58.4)
$512.5
$133.7
$159.0
$13.2
$71.8
$377.7
($372.1)
($104.7)
($3.0)
($183.9)
($663.7)
$226.7
($70.1)
$156.6

Unidentified Financial Institutions Exercise

21

Institution D
Balance Sheet as of December 31, 1997
Assets
Certificates of Deposits and Bank Notes
Commercial Paper and Corporate Notes
U.S. Government, Agency, & Instrumentality
Obligations
Repurchase Agreements
Other Assets
Total Assets
Liabilities and Shareholder==s Equity
Payable for Investments Purchased
Other Liabilities
Total Liabilities
Shareholders Equity
Total Liabilities and Shareholder Equity

$Million
$1,621.7
$4,353.8
$739.0
$250.0
$57.2
$7,021.7
$Million
$79.2
$2.1
$75.0
$6,946.7
$7,021.7

Income Statement for year Ending December 31, 1997

Investment Income
Investment Advisory Fee
Transfer Agent Fee
Distribution Fees
Printing and Shareholder Reports
Trustees and Custodian Fees and Expenses
Other Expenses
Total Expenses
Net Investment Income
Realized Gain on Investments
Change in Unrealized Appreciation on Investments
Net Increase in Shareholders== Equity from
Operations

$Million
$412.4
($25.8)
($11.4)
($8.2)
($0.3)
($0.4)
($1.0)
($47.2)
$365.2
$0.2
$0.3
$365.7

% of Assets
23.10%
62.00%
10.52%
3.56%
0.81%
100.00%
% of Assets
1.13%
0.03%
1.07%
98.93%
100.00%

22

Chapter One: The Business of Financial Institutions

Balance Sheet as of December 31, 1997

Assets
Bonds
Stocks
Mortgage Loans
Investment Real Estate
Policy Loans
Cash and Short-term Investments
Other Invested Assets
Premiums Deferred and Uncollected
Investment Income Due and Accrued
Separate Account Assets
Other Assets
Total Assets
Liabilities and Shareholder==s Equity
Reserves for Life and Health insurance and Annuities
Policyholders' Account Balances
Dividends due to Policyholders
Securities Sold under Agreements to Repurchase
Cash Collateral for Loaned Securities
Other Policy Liabilities
Short-term Debt
Long-term Debt
Liabilities Related to Separate Accounts
Other Liabilities
Total Liabilities
Surplus
Total Liabilities and Surplus

% of Assets
36.21%
3.41%
6.17%
0.59%
2.63%
6.07%
6.58%
2.31%
0.74%
28.54%
6.76%
100.00%
$Million
$65,581
$32,941
$1,269
$12,347
$14,117
$6,659
$6,774
$4,273
$73,658
$22,146
$239,764
$19,718
$259,482

% of Assets
25.27%
12.69%
0.49%
4.76%
5.44%
2.57%
2.61%
1.65%
28.39%
8.53%
92.40%
7.60%
100.00%

Unidentified Financial Institutions Exercise

Institution E
Income Statement for Year Ending December 31, 1997
Premiums, annuity considerations and deposit
funds
Consideration for supplementary contracts and
dividend accumulations
Net Investment Income
Other Income
Total Income
Benefit Payment (other than dividends)
Sales Practice Remediation Costs
Insurance Expenses and Taxes
Dividends to policyholders
Total Benefits and Expenses
Net Gain from Operations
Income Taxes
Net Income

$Million
$18,534
$2,979
$12,050
$6,489
$37,073
($20,251)
($1,640)
($11,926)
($2,429)
($36,246)
$827
($217)
$610

23

24

Chapter One: The Business of Financial Institutions

Institution F
Balance Sheet as of December 31, 1997
Assets
Cash and Interest-Bearing Equivalents
U.S. Government and Agency Securities
Foreign Government and Agency Securities
Corporate Debt
Options and Contractual Commitments
Equity Securities
Mortgage Loans/Collateralized Mortgage Securities
Other
Receivables
Property, Plant and Equipment
Other Assets, including Intangibles
Total Assets
Liabilities and Shareholder==s Equity
Short-Term Borrowings
Payables under Repurchase Agreements
Trading Liabilities
Other
Long Term Borrowings
Total Liabilities
Redeemable Preferred Stock, Series A
Stockholders= Equity
Total Liabilities and Stockholders== Equity

$Billion
$17.3
$9.8
$9.7
$32.5
$21.2
$23.6
$7.3
$16.9
$145.4
$2.1
$6.9
$292.8

% of Assets
5.91%
3.35%
3.31%
11.10%
7.24%
8.06%
2.49%
5.77%
49.66%
0.72%
2.36%
100.00%

$Billion
$44.9
$77.9
$70.1
$47.8
$43.1
$283.9
$0.4
$8.5
$292.8

% of Assets
15.33%
26.61%
23.94%
16.33%
14.72%
96.96%
0.14%
2.90%
100.00%

Unidentified Financial Institutions Exercise

Institution F
Income Statement for Year Ending December 31, 1997
$Million
Revenues
Interest and Dividends
Principal Transactions
Investment Banking
Commissions
Other
Total Revenues
Interest Expense
Revenues, Net of Interest Expense
Non-Interest Expenses
Compensation and Employee-Related
Other
Total Non-Interest Expenses
Income (Loss)
Income Tax Expense
Net Income (Loss)

$17.1
$3.8
$2.7
$4.7
$3.5
$31.8
($16.1)
$15.7
($8.0)
($4.6)
($12.6)
$3.1
($1.2)
$1.9

25

26

Chapter One: The Business of Financial Institutions

Institution G
Balance Sheet as of March 31, 1997
Assets
Equity Securities
Corporate Notes
U.S. Treasury Obligations
Investment in Securities
Other Assets
Cash
Total Assets

$Million
$33,909.4
$2,029.9
$3,643.5
$39,428.1
$356.3
$9.1
$39,793.5

% of Assets
85.21%
5.10%
9.16%
99.08%
0.90%
0.02%
100.00%

Liabilities and Shareholder==s Equity

Payable for Investments Purchased
Total Liabilities
Shareholder Equity
Total Liabilities and Shareholder Equity

$Million
$75.9
$75.9
$39,717.6
$39,793.5

% of Assets
0.19%
0.19%
99.81%
100.00%

Income Statement for Year Ending March 31, 1997

$Million
Revenues
Dividends
Interest
Total Income
Basic Management Fee
Distribution Expense
Transfer Agent Fees
Other Expenses
Total Expenses
Net Investment Income
Net Realized Gain on Investments
Net Unrealized Appreciation on Investments
Net Increase in Shareholders Equity From
Operations

$600.5
$279.1
$879.6
($90.4)
($79.7)
($20.1)
($11.1)
$201.30
$678.2
$3,800.2
$4,685.6
$9,164.0