UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ________ TO ________
COMMISSION FILE NO. 1-7657
AMERICAN EXPRESS COMPANY
(Exact name of registrant as specified in its charter)
NEW YORK 13-4922250
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
WORLD FINANCIAL CENTER
200 VESEY STREET
NEW YORK, NEW YORK 10285
(Address of principal executive offices) (Zip Code)
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REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (212) 640-2000
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
NAME OF EACH EXCHANGE
TITLE OF EACH CLASS ON WHICH REGISTERED
--------------------------------------------- ----------------------------
Common Shares (par value $0.20 per Share) New York Stock Exchange
Boston Stock Exchange
Chicago Stock Exchange
Pacific Stock Exchange
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SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: None
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ___
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes [X] No [ ]
The aggregate market value, as of June 30, 2004, of voting shares held by non-affiliates of the registrant was approximately $64.0 billion. Common shares of the registrant outstanding at February 28, 2005 were 1,248,000,259.
DOCUMENTS INCORPORATED BY REFERENCE
Parts I, II and IV: Portions of Registrant's 2004 Annual Report to Shareholders.
Part III: Portions of Registrant's Proxy Statement to be filed with the
Securities and Exchange Commission in connection with the Annual Meeting of Shareholders to be held on April 27, 2005.
TABLE OF CONTENTS
FORM 10-K
ITEM NUMBER
PART I PAGE
1. Business.................................................................................. 1
Introduction.......................................................................... 1
Travel Related Services............................................................... 3
American Express Financial Advisors................................................... 33
American Express Bank................................................................. 61
Corporate and Other................................................................... 73
Foreign Operations.................................................................... 76
Important Factors Regarding Forward-Looking Statements................................ 76
Segment Information and Classes of Similar Services................................... 82
Executive Officers of the Company..................................................... 82
Employees............................................................................. 84
2. Properties................................................................................ 84
3. Legal Proceedings......................................................................... 85
4. Submission of Matters to a Vote of Security Holders....................................... 91
PART II
5. Market for Company's Common Equity, Related Stockholder Matters and Issuer
Purchases of Equity Securities........................................................ 91
6. Selected Financial Data................................................................... 93
7. Management's Discussion and Analysis of Financial Condition and Results of Operation...... 93
7A. Quantitative and Qualitative Disclosures About Market Risk................................ 93
8. Financial Statements and Supplementary Data............................................... 93
9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure...... 93
9A. Controls and Procedures................................................................... 93
9B. Other Information......................................................................... 94
PART III
10. Directors and Executive Officers of the Company........................................... 94
11. Executive Compensation.................................................................... 94
12. Security Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters................................................................... 94
13. Certain Relationships and Related Transactions............................................ 94
14. Principal Accounting Fees and Services.................................................... 95
PART IV
15. Exhibits and Financial Statement Schedules............................................... 95
Signatures................................................................................ 96
Index to Financial Statements............................................................. F-1
Consent of Independent Auditors........................................................... F-2
Exhibit Index............................................................................. E-1
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PART I*
ITEM 1. BUSINESS
INTRODUCTION
Overview
American Express Company, together with its consolidated subsidiaries ("American Express", the "Company", "we", "us" or "our"), is a leading provider of travel related services, payment services, financial advisory services and international banking services throughout the world. We were founded in 1850 as a joint stock association. We were incorporated in 1965 as a New York corporation.
Our headquarters are located in New York, New York in lower Manhattan. We also have offices in other locations in North America, as well as throughout the world. We have three operating segments: Travel Related Services ("TRS"), American Express Financial Advisors ("AEFA") and American Express Bank ("AEB"), each of whose businesses we will describe below.
Securities Exchange Act Reports And Additional Information
We maintain an Investor Relations Web site on the Internet at http://ir.americanexpress.com. We make available free of charge, on or through this Web site, our annual, quarterly and current reports and any amendments to those reports as soon as reasonably practicable following the time they are electronically filed with or furnished to the Securities and Exchange Commission. To access these, just click on the "SEC Filings" link found on our Investor Relations homepage.
You can also access our Investor Relations Web site through our main Web site at www.americanexpress.com by clicking on the "About American Express" link, which is located at the bottom of our homepage. Information contained on our Web site is not incorporated by reference into this report or any other report filed with the SEC.
2004 Highlights
We achieved record revenues and earnings in 2004, driven by growth in our credit and charge card businesses, gains in our financial services business and a rebound in travel activity. We began the year with good momentum built during the latter half of 2003, and as the year progressed, our performance strengthened.
* Some of the statements in this report constitute forward-looking statements. In some cases, you can identify forward-looking statements by words such as "believe," "expect," "anticipate," "optimistic," "intend," "plan," "aim," "will," "may," "should," "could," "would," "likely", "estimate," "predict," "potential," or "continue" or the negative of these terms or other similar expressions. We discuss certain factors that may cause our actual results to differ materially from these forward-looking statements under "Important Factors Regarding Forward Looking Statements" below.
We were able to achieve record revenues and net income while at the same time continuing to invest in our future by significantly increasing our spending on business-building activities, which resulted in growth in spending on our card products and cards-in-force, higher sales and asset levels at AEFA and higher private banking holdings at AEB.
Compared with 2003, we delivered:
- Revenues of $29.1 billion, up 13% from $25.8 billion
- Net income of $3.4 billion, up 15% from $3.0 billion
- Diluted earnings per share of $2.68, up 17% from $2.30
- Return on equity of 22.0%, compared with 20.6%
These results exceeded our long-term targets of 12% to 15% earnings per share growth, 8% revenue growth and 18% to 20% return on equity, on average and over time.
For a complete discussion of our financial results, including financial information regarding each of our three operating segments, see pages 26-123 of the Company's 2004 Annual Report to Shareholders, which are incorporated herein by reference. For a summary of the Company and our operating segments, and a discussion of our principal sources of revenue, see pages 26-29 and pages 82-84 of the 2004 Annual Report to Shareholders.
Spin-off of AEFA
On February 1, 2005, we announced our intention to pursue a spin-off of our AEFA operating unit to our shareholders. In the transaction, American Express shareholders would receive 100% of the common shares of American Express Financial Corporation ("AEFC"), the wholly-owned subsidiary that directly and through its subsidiaries and affiliates conducts our AEFA business. The transaction is intended to be tax free to shareholders and is expected to be completed in the third quarter of 2005, subject to certain conditions.
Upon completion of the spin-off, our shareholders would have a separate interest in two distinct corporate groups - the American Express group and the AEFC group. The American Express group would consist primarily of the network, charge and credit card, Travelers Cheque and prepaid services and travel businesses of the TRS operating segment. It would also include the consumer financial services, private banking and financial institutions businesses of the AEB operating segment. The AEFC group would be comprised primarily of the asset accumulation and investments and insurance businesses, whose products are offered principally through AEFA's network of over 12,300 financial advisors. The two groups would be independent, have separate public ownership, boards of directors and management. To facilitate AEFC's separation from American Express, the companies presently intend to continue certain existing arrangements for a transitional period following completion of the transaction.
At the time of the spin-off, we intend to provide additional capital to AEFC that will enable it to achieve a senior debt rating that permits it efficient access to the capital markets. Additionally, American Express intends to capitalize the AEFC group's insurance business in a manner that would confirm its current financial strength ratings.
Following the spin-off, we plan to raise our return on equity target from 18-20 percent to 28-30 percent, on average and over time, and maintain our current dividend.
We anticipate that we will incur spin-off related expenses associated with establishing an independent company. Cumulatively, these expenses could be significant. We expect to disclose these transitional operating expenses in our future filings with the SEC, as well as in the announcements of our quarterly results.
The spin-off is subject to conditions, including the necessary regulatory approvals, the receipt of a favorable tax ruling from the Internal Revenue Service and/or a favorable tax opinion from outside counsel and final approval by our Board of Directors. We have not yet determined the final terms of the transaction and plan to disclose these in our future filings with the SEC.
This report describes American Express as presently structured and operated. Where appropriate, we make reference to the proposed spin-off transaction.
TRAVEL RELATED SERVICES
The TRS operating segment includes our card, merchant, network, Travelers Cheque and travel businesses. It provides a variety of products and services worldwide, including, among others:
- global card network services;
- charge card and credit cards for consumers and businesses worldwide;
- consumer and small business lending products;
- American Express(R) Travelers Cheques and prepaid card products;
- business expense management products and services;
- business travel and travel management services;
- consumer travel services;
- merchant acquiring and transaction processing;
- point-of-sale and back-office products and services for merchants;
- tax, accounting and business consulting services; and
- magazine publishing.
In certain countries we have granted licenses to partially-owned affiliates and unaffiliated entities to offer some of these products and services.
Our general purpose card network and card issuing businesses are global in scope. We are a world leader in providing charge and credit cards to consumers, small businesses and corporations. American Express(R)-branded Cards ("Cards") are currently issued in over 45 currencies. This includes Cards issued by third-party banks and other institutions. In 2004, TRS' worldwide billed business (spending on American Express cards, including our branded cards issued by third parties) was $416 billion, with approximately $111 billion coming from Cardmembers domiciled outside the United States. Our Cards permit Cardmembers to charge purchases of goods and services in most countries around the world at the millions of merchants that accept cards bearing our logo. TRS added a net total of 4.9 million cards in 2004, bringing
total worldwide cards-in-force to 65.4 million (including our branded Cards issued by third parties).
We believe that our "spend-centric" business model (in which we focus primarily on generating revenues by driving spending on our Cards and secondarily by finance charges and fees) has significant competitive advantages. Card issuers generate the majority of their income through some combination of customer spending (which generates payments from merchants for card transactions), lending (which generates finance charges on revolving credit balances) and customer fees. We have strength in all three revenue streams, and we have a competitive edge in spending. On average, U.S. Cardmembers spend about four times as much on their American Express Cards as they do on other cards. For merchants, our Cardmembers' higher spending represents greater value to them in the form of higher sales and loyal customers, which gives us the ability to earn a premium discount rate. As a result, we can generate higher revenues from spending and have the flexibility to offer more attractive rewards and other incentives to keep customers spending more on their Cards. This, in turn, drives more business to merchants that accept our Card products. This business model gives us a competitive advantage that we seek to leverage to provide more value to Cardmembers, merchants and Card-issuing partners.
TRS' business as a whole has not experienced significant seasonal fluctuations, although travel sales tend to be highest in the second quarter; Travelers Cheque sales and Travelers Cheques outstanding tend to be greatest each year in the summer months, peaking in the third quarter; and Card-billed business tends to be moderately higher in the fourth quarter than in other quarters.
TRS places significant importance on its trademarks and servicemarks and diligently protects its intellectual property rights around the world.
GLOBAL NETWORK SERVICES
TRS operates a global general purpose charge and credit card network through its Global Network Services ("GNS") business. Network functions include operations, service delivery, systems, authorization, clearing, settlement and brand advertising and marketing; the development of new and innovative products for the network; and establishing and enhancing relationships with merchants globally, both online and offline.
Since May 1996, we have been pursuing a strategy of inviting U.S. banks and other institutions to issue American Express-branded cards on the American Express merchant network, building on a business strategy we have implemented successfully in a number of countries outside the United States, where we have many banks and other financial institutions issuing Cards on the American Express network. By leveraging our global infrastructure and the appeal of the American Express brand, we aim to broaden our Cardmember and merchant base for our network worldwide. Our GNS business has established 87 card-issuing or merchant acquiring partnership arrangements with banks and other institutions in over 95 countries.
A key asset of our merchant network is the American Express brand, which is one of the world's most highly recognized and respected brands. Cards bearing our logo are issued by TRS
and by qualified licensed institutions, and are accepted at all merchant locations worldwide that accept American Express-branded Cards. In addition, depending on the product, Cards bearing our logo may also be accepted at all ATM locations worldwide that accept American Express-branded cards. TRS issues the vast majority of Cards on our network.
GNS focuses on partnering with qualified third-party financial institutions to issue American Express-branded Cards accepted on our global merchant network. While TRS' network arrangements are customized to the particular market and partner requirements, as well as to our strategic plans in that marketplace, all GNS partnerships are designed to help our partners develop products for their highest-spending and most affluent customers and to support the value of American Express Card acceptance to merchants. We choose GNS partners who share a core set of attributes such as commitment to high quality standards, strong marketing expertise and compatibility with the American Express brand, and we require our GNS partners to adhere to our product, brand and service standards.
Our GNS arrangements fall into three main categories. The first and most common type of GNS partnership arrangement is known as a network card license ("NCL") (which we formerly referred to as a non-proprietary license). At the end of 2004, we had 45 of these arrangements in place. In an NCL arrangement, we grant the partner a license to issue American Express-branded cards. We generally pursue these arrangements in markets where we already have a strong, well-established local business. In an NCL arrangement, American Express maintains the responsibility to acquire and service the merchants in the local market that accept Cards. Our NCL partner owns the customer relationships for all Cards it issues, provides service, billing and credit management, and designs the Card product features, subject to meeting certain standards. We operate the merchant network and route and process Card transactions from the merchant's point of sale through submission to the issuing partner, and settle with issuing partners. The NCL is the model that we are discussing with banks in the United States. Examples of NCL arrangements include our partnerships with MBNA America Bank, N.A. ("MBNA") and Banco Popular in Puerto Rico.
GNS' revenues in NCL arrangements are derived from the level of Cardmember spending, royalties and fees charged to the Card issuer based on charge volume, and our provision of value-added services for the issuer's cards such as Cardmember insurance products and other Card features and benefits. As indicated above, the NCL partner bears the credit risk for the issued Cards, as well as the Card marketing and acquisition costs, fraud costs and costs of rewards and other loyalty initiatives. We bear the risk arising from the GNS partner's potential failure to meet its settlement obligations to us. We mitigate this risk by selecting GNS partners whom we believe are financially sound and will meet their obligations, and by monitoring our GNS partners' financial health, their compliance with the terms of their relationship with us and the political and economic environment in which they operate. In addition, we generally require GNS partners to post a letter of credit, bank guarantee or other collateral to reduce this risk.
The second type of GNS partnership is known as an independent operator ("IO") arrangement. As of the end of 2004, we had over 30 of these arrangements around the world. Under this type of arrangement, our bank partner issues local currency Cards in the particular market(s) in which it is located and also serves as the local merchant acquirer and processor.
Our local IO partner owns the customer relationships and credit risk for the issued Cards, and makes the decisions about which customers will be issued Cards. GNS' sources of revenues in IO arrangements include fees paid by the IO partner that are largely driven by the number of Cards issued by our IO partners, by the subsequent spending on those Cards and by total charge volume on all Cards at merchants with whom the GNS partner has an agreement to accept our branded Cards. Our IO partner is responsible for transaction authorizations, billing, pricing, Cardmember servicing and funding Card receivables. In addition, all issuers on the American Express network benefit from the expanded merchant coverage driven by our IO partner, which accommodates inbound spending by Cardmembers from other parts of the world. That, in turn, generates additional revenue for the issuer in the Cardmember's home market.
We typically establish IO arrangements in markets where we have not built a significant local currency Card business of our own. The IO partner's local presence and relationships help the American Express network reach merchant coverage goals more quickly, and operate at economic scales and cost levels that would be difficult for us to achieve on our own. Examples of countries where we have entered into IO arrangements include Denmark, Ecuador, Pakistan, Croatia, Peru and Vietnam.
The third type of GNS partnership is a joint venture. We have utilized this type of arrangement in Switzerland, Belgium and several other countries. In these markets, TRS joins with a third party to establish a separate business in which TRS has a significant ownership stake. The joint venture typically signs new merchants to the American Express network and issues local currency Cards locally that carry our logo. In a joint venture arrangement, the joint venture assumes the Cardmember credit risk, and bears the operating and marketing costs. The economics of the joint venture are similar to our proprietary card issuing business, which we discuss below under "Consumer Card, Small Business and Consumer Travel Services," and we receive a portion of the joint venture's income depending on the level of our ownership interest.
Gross revenues we receive per dollar spent on a Card issued by a GNS partner are lower than those from our proprietary card issuing business. However, because the GNS partner is responsible for most of the operating costs and risk of its card issuing business, our expenses are lower than those in our proprietary card issuing business. The GNS business model generates an attractive earnings stream and risk profile that requires a lower level of capital support. The return on equity in our GNS business can thus be significantly higher than that of our proprietary card issuing business. Because the majority of GNS costs are fixed, the GNS business is highly scalable. GNS partners benefit from their association with the American Express brand and their ability to gain attractive revenue streams and expand and differentiate their product offerings with innovative marketing programs.
In 2004, we signed new GNS relationships with 14 financial institutions. GNS partners launched a total of 67 new products during 2004, bringing the total number of American Express-branded GNS partner products to over 400. During the year, we also implemented two arrangements outside the United States in which the GNS partner acts as the local merchant acquirer in a particular market, but does not issue Cards.
Some of the highlights of our GNS business outside the United States in 2004 include:
- an agreement with the Industrial & Commercial Bank of China, the largest bank in China (with 20,000 branch locations), to issue the first American Express-branded credit cards in China, denominated in both local Chinese currency and U.S. dollars, including the first issuance of those Cards in December 2004;
- an agreement with CorpBanca in Chile to issue American Express-branded Gold charge and credit cards denominated in Chilean pesos and U.S. dollars;
- a partnership with Westpac Banking in Australia to issue the cobranded Altitude American Express Credit Card, a companion card to qualified Westpac Altitude cardmembers;
- the launch of two SN Brussels Airlines American Express Charge Cards from SN Brussels Airlines and our joint venture partner, Fortis Bank, which combines the features of the American Express Card with the benefits of SN Brussels Airlines frequent flyer program.
In addition, we entered into an agreement with HSBC Bank International Limited to market HSBC-branded American Express International Currency Gold and Platinum charge cards in both Euros and U.S. dollars to HSBC's offshore banking customers.
In contrast to the situation outside the United States, where banks and other qualified institutions have issued Cards on our network for many years, until 2004 no major U.S. banks had issued Cards in the United States on the American Express global merchant network. This situation was the result of rules and policies of Visa U.S.A. and Visa International Service Association (together, "VISA") and MasterCard, Incorporated and MasterCard International, Inc. (together, "MasterCard") in the United States, which mandated expulsion of members who issued American Express-branded cards. No bank was willing to risk forfeiting membership in VISA and/or MasterCard to issue cards on our network. In a lawsuit filed in October 1998 against VISA and MasterCard, the U.S. Department of Justice alleged that these rules and policies violated the antitrust laws of the United States. The lawsuit went to trial in the summer of 2000, and in October 2001, the trial judge ruled in favor of the U.S. Department of Justice, holding that these rules and policies violate the antitrust laws. VISA and MasterCard appealed the decision and were able to obtain a stay of the court's judgment throughout the appeals process.
After the U.S. Court of Appeals for the Second Circuit affirmed the trial court's decision, we renewed our discussions with banks about establishing NCL partnership arrangements in the United States. In January 2004, we announced an agreement with MBNA under which MBNA would issue American Express-branded Cards in the United States once the legal process was concluded and the restrictive rules were finally struck down.
In October 2004, the Supreme Court declined to hear VISA's and MasterCard's appeal. This decision marked the end of the VISA and MasterCard rules that prevented their member banks from issuing cards on competitive networks and cleared the way for implementation of the trial court's order requiring the repeal of the illegal rules. We view this decision as a major victory for U.S. consumers as well as U.S. banks because it opens the door to more vigorous network competition and more innovative card products and services.
For American Express, the Supreme Court's decision means that we are now able to open our network to other card issuers in the United States, just as we have done internationally. Building a network business in the United States that operates in addition to our proprietary card business provides us with new and substantial opportunities for growth.
In early November 2004, MBNA launched its first American Express-branded credit cards through more than 1,000 affinity groups affiliated with MBNA, including alumni associations, professional groups and recreational and philanthropic organizations. In December 2004, we announced an agreement with Citibank (South Dakota) to issue cards that will be accepted on our global merchant network. We expect that Citibank will begin to issue American Express-branded cards in the fourth quarter of 2005.
In November 2004, we filed a lawsuit against VISA, MasterCard and certain of their member banks seeking monetary damages resulting from the illegal rules that were struck down in the U.S. Department of Justice lawsuit discussed above. (You can read more about this lawsuit in the "Legal Proceedings" section of this report below.)
With more than 400 different card products launched so far by our bank partners, GNS is an increasingly important business that is strengthening our market presence, driving more transaction volume onto our merchant network and increasing the number of merchants accepting the American Express Card. Since the creation of the GNS business unit, GNS partners have added over 8.6 million new Cards to our network (net of attrition). Since 1999, Cards-in-force issued by GNS partners have grown at a compound annual growth rate of 25%. Outside the United States, one of every two cards acquired in 2004 was a card issued by one of our GNS partners, and GNS partners brought nearly one of every three merchants into our network. Spending on these Cards has grown at a compound annual rate of 18% since 1999 and totaled more than $17.7 billion in 2004.
Local government regulations governing the issuance of charge and credit cards have not been a significant factor impacting TRS' arrangements with banks and qualifying financial institutions in any country in which such arrangements exist, because such banks and institutions generally are already licensed to issue general purpose cards. Accordingly, our GNS partners have generally not had difficulty in obtaining appropriate government authorization in the markets in which TRS has chosen to enter into GNS partnership arrangements.
Competition
Our network competes with other card networks, including, among others, VISA, MasterCard, Diners Club (which, in the United States, is being folded into the network operated by MasterCard), Discover Business Services, a business unit of Morgan Stanley (primarily in the United States), and JCB Co., Ltd. (primarily in Asia). The principal competitive factors that affect the network business include:
- the number of cards in force and amount of spending on these cards;
- the quantity and quality of the places where the cards can be used;
- the economic attractiveness to card issuers and merchant acquirers of participating in the network;
- the success of marketing and promotional campaigns;
- reputation and brand recognition;
- innovation in systems, technology and product offerings; and
- the quality of customer service.
GLOBAL ESTABLISHMENT SERVICES
TRS operates a global merchant services business, which includes signing merchants to accept our branded Cards (merchant acquisition) and accepting and processing Card transactions and paying merchants (transaction processing) that accept Cards for purchases made by Cardmembers with Cards ("Charges"). TRS also provides point-of-sale and back office products and services to merchants.
Our objective is to achieve merchant coverage so that Cardmembers are able to use the Card wherever and however they desire, as well as to increase coverage in key geographic areas and in new industries that have not, to date, accepted general purpose credit and charge cards as a means of payment. We add new merchants to our network through a number of sales channels: a proprietary sales force, third-party sales agents, strategic alliances with banks, the Internet, telemarketing and inbound "Want to Honor" calls (i.e., merchants desiring to accept the Card contacting us directly).
Since the early 1990's, we have significantly expanded the number of merchants that accept our card products as well as the kinds of businesses that accept the Card. In recent years, we have focused our efforts on increasing the use of our Cards for everyday spending. In 1990, 65% of our U.S. billings came from the travel and entertainment sectors and 35% came from retail and other sectors. That proportion has now been more than reversed. In 2004, U.S. non-travel and entertainment billings represented 67% of the U.S. billed business on American Express Cards. This shift resulted from the growth, over time, in the types of merchants who began to accept charge and credit cards in response to consumers' increased desire to use these cards for more of their purchases, and our focus on expanding Card acceptance to meet Cardmembers' needs. In recent years, this shift was important because of a decrease in spending in travel and entertainment resulting from the overall economic and political environment.
During 2004, TRS continued its ongoing efforts to encourage consumers to use the Card for everyday spending. TRS continued to increase the number and types of merchants in retail
and everyday spending categories that accept the Card, such as quick-serve restaurants, retail stores, supermarkets and gas stations.
Key signings of merchants in 2004 brought Card acceptance to industries where cash or checks are the predominant form of payment. For example, TRS signed agreements this past year with Transport for London Underground, Metrogas Utilities in Argentina, Sigma Pharmaceuticals in Australia and Safeway Inc. and Allstate Group in the United States. In addition, Card acceptance at hotels and conference centers for business meetings and events, business-to-business purchases and apartment rentals are other examples of new industries in which the Card is now accepted, and which have the potential to contribute to increasing our average Cardmember spending.
As in prior years, during 2004, we continued to grow merchant acceptance of our card products around the world and to refine our approach to calculating merchant coverage in accordance with changes in the marketplace. Globally, acceptance of general purpose charge and credit cards continues to increase, including among merchants in industries that have not traditionally accepted charge and credit cards. Additionally, as our GNS partners help grow merchant acceptance in their local markets, and as American Express Card issuance expands in emerging markets outside the United States, we have begun to include merchant coverage information data from GNS merchant acquirers and from these emerging markets. As a result of this refined approach, management estimates that, as of the end of 2004, TRS' merchant network in the United States accommodated more than 90% of Cardmembers' general purpose charge and credit card spending, and our international merchant network accommodated over 80% of our Cardmembers' general purpose charge and credit card spending.
We earn "discount" revenue from fees charged to merchants for accepting Cards as payment for goods or services sold. The merchant discount is the fee charged to the merchant for accepting Cards and is generally expressed as a percentage of the amount charged on a Card. The merchant discount rate is generally deducted from the amount of the payment that the "merchant acquirer" (in most cases, TRS) pays to a merchant for charges submitted. A merchant acquirer is the entity that contracts for Card acceptance with the merchant, accepts transactions from the merchant, pays the service establishment for these transactions and submits the transactions through the American Express network to the appropriate Card issuer for billing to the cardmember. When a cardmember presents the Card for payment, the merchant creates a record of charge for the transaction and submits it to the merchant acquirer for payment. The merchant discount is generally deducted from payment to the service establishment where TRS is the merchant acquirer and is recorded by us as discount revenue at the time the transaction is captured. Where we act as the merchant acquirer and the Card presented at a merchant is issued by a third-party bank or financial institution, such as in the case of some of our GNS partnership arrangements, we will make financial settlement to the merchant and receive the discount revenue. We will also receive financial settlement from the Card issuer, who receives an issuer rate (i.e., the amount that card issuers receive for transactions charged on our network with Cards that they issue, which is usually expressed as a percentage of the charged amount). The difference between the discount revenue and the issuer rate generates a return to the network. Where we are the Card issuer and the merchant acquirer is a third-party bank or financial institution, we receive an issuer rate in our settlement with the merchant acquirer.
The level of the merchant discount rate that we charge is principally determined by the value we deliver to the merchant and generally represents a premium over other card networks. We deliver value to the merchant through higher spending Cardmembers relative to cards issued on competing card networks, the overall higher volume of spending by all Cardmembers, marketing programs and the insistence of Cardmembers to use their Cards when enrolled in rewards or other Card loyalty programs.
The merchant discount rate varies with the industry in which the merchant does business, the charge volume, the timing and method of payment to the merchant, the method of submission of charges and, in certain instances, the scope of the Card acceptance agreement signed with us (local or global), and the average charge amount. In 2004, as in prior years, we have experienced some reduction in our global weighted average merchant discount rate, primarily reflecting the impact of stronger than average growth in the lower rate "everyday spend" merchant categories. Based on our business strategy, we expect to see continued changes in the mix of business. This, along with volume-related pricing discounts and selective repricing initiatives, will likely continue to result in some erosion over time of the weighted average merchant discount rate. Over the past few years, VISA and MasterCard have announced a number of increases in their U.S. credit card interchange rates, which can increase the cost to merchants of accepting VISA and MasterCard cards.
While most merchants understand our merchant discount rate pricing in
relation to the value provided, we do encounter a relatively small number of
merchants that accept our Cards, but tell their customers that they prefer to
accept another type of payment and, consequently, suppress use of the Card. We
devote significant resources to respond to this issue. We have made progress by:
concentrating on acquiring merchants where Cardmembers want to use the Card;
continuing to enhance the value we provide by programs such as "American Express
Selects", which enables merchants to gain valuable exposure and additional sales
by making online offers, such as discounts on purchases available to Cardmembers
on a Web site maintained by us; providing better and earlier communication of
our value proposition; and when necessary, by canceling merchants who suppress
the use of our Card products.
Merchant satisfaction is a key goal of our Global Establishment Services business. We focus on understanding and addressing factors that influence merchant satisfaction, executing programs that increase Card usage at merchants and strengthening our relationships with merchants through an expanding roster of services that help them meet their business goals. We offer a full range of point-of-sale solutions, including terminals, integrated point-of-sale terminals and direct links that allow our merchant partners to accept American Express Cards, as well as bankcards, debit cards and checks. All proprietary point-of-sale solutions support direct processing (i.e., direct connectivity) to American Express, which lowers a merchant's cost of Card acceptance and avoids any payment delays caused by a third party. During 2004, we also launched Business Savings for all U.S. merchants that accept American Express Cards, which provides them with ways to reduce expenses for office supplies, cellular phone service, temporary staffing and shipping through pre-negotiated discounts at select partners.
We continue to support the fast-growing recurring billing industry through the Automated Bill Payment platform, a product that allows merchants to bill Cardmembers on a regular basis for recurring Charges such as insurance premiums, newspaper subscriptions, health club memberships, commutation costs and cable TV service. We have also made modifications to our host authorization system to approve more transactions and reduce Cardmember inconvenience at the point-of-sale without a corresponding increase in fraud or credit losses.
Wherever we manage both the acquiring relationship with merchants and the Card-issuing side of the business, there is a "closed loop," which distinguishes our network from the bankcard networks in that there is access to information at both ends of the Card transaction. This enables us to provide targeted marketing for merchants and special offers to Cardmembers through a variety of channels, subject to applicable legal requirements. We work closely with our Card issuing bank partners to maintain key elements of this closed loop, which permits them to customize marketing efforts, deliver greater value to their Cardmembers and help us to direct increased business to merchants who accept the Card.
As the merchant acquirer, we have certain contingent liabilities that arise if a billing dispute between a Cardmember and a merchant is settled in favor of the Cardmember. Drivers of this liability are returns in the normal course of business, disputes over fraudulent charges, the quality or non-delivery of goods and services and billing errors. Typically, we offset the amount due to the Cardmember against the merchant's current or future submissions for payment. We can realize losses when offsetting submissions cease, such as when the merchant commences a bankruptcy proceeding or goes out of business. We actively monitor our merchant base to assess the risk of this exposure. When appropriate, we will take action to reduce the net exposure to a given merchant by either holding cash reserves funded through cash holdbacks from a merchant or lengthening the time between when the merchant submits a charge for payment and when we pay the merchant. We also establish reserves on our balance sheet for these contingencies.
In some markets outside the United States, particularly in the United Kingdom, third party processors and some bankcard acquirers have begun to offer merchants the capability of converting credit card transactions from the local currency to the currency of the cardholder's residence (i.e., the cardholder's billing currency) at the point-of-sale, and submitting the transaction in the cardholder's billing currency, thus bypassing the traditional foreign currency conversion process of the card network. This practice is known as "dynamic currency conversion." If a merchant utilizes a dynamic currency conversion process, the merchant and processor share any fee assessed or spread earned for converting the transaction at the point of sale, thus reducing or eliminating revenue for card issuers and card networks relating to the conversion of foreign charges to the cardholder's billing currency. This practice is not widespread, and it is uncertain to what extent consumers will prefer to have foreign currency transactions converted by merchants in this way. Our policy generally requires merchants to submit charges and be paid in the currency of the country in which the transaction occurs, and we convert the transaction to the Cardmember's billing currency. We are reviewing the potential impact of dynamic currency conversion, including considering whether and to what extent we should develop our own dynamic currency conversion process.
Regulation
In recent years, regulators in several countries have focused on the fees involved in the operation of card networks, including the fees merchants are charged to accept cards. Regulators in the United Kingdom, European Union, Australia, Mexico and Switzerland, among others, have conducted, and are continuing to conduct, investigations into the way bankcard network members collectively set the "interchange," which is the fee paid by the bankcard merchant acquirer to the card-issuing bank. The interchange fee is generally the largest component of the merchant discount rate charged to merchants by the merchant acquirer for bankcard charges. Although the regulators' focus has primarily been on VISA and MasterCard as the dominant card networks, government regulation of the bankcard associations' pricing could ultimately affect all card service providers by requiring reduction of the levels of interchange, which will drive down merchant discount rates. Downward movement of interchange and merchant discount fees may affect the relative economic attractiveness to card issuers and merchant acquirers of participation in a particular network. Loss of merchant discount revenue may lead card service providers to look for other sources of revenue such as annual card fees, as well as to reduce costs by scaling back or eliminating rewards programs. Reductions in bankcard interchange mandated by the Reserve Bank of Australia in 2003 have resulted in lower merchant discount rates for VISA and MasterCard. As a result of changes in the marketplace, we have reduced our own merchant discount rates in Australia although we continue to believe that we have strong economics in that market. In addition, under legislation recently enacted in Argentina, a merchant acquirer is required to charge the same merchant discount rate to all merchants in the same industry category, and merchant discount rates cannot exceed 3%. In the event governmental or regulatory activity to limit interchange continues or increases, our revenues and profitability could be adversely affected.
Regulators have also considered the industry practice of prohibiting merchants from passing the cost of merchant discount fees along to consumers through surcharges on card purchases. Although some countries, such as the United Kingdom, and more recently, Australia, permit merchants to levy a surcharge on credit card purchases, there has been a relatively low incidence of surcharging, as merchants do not want to risk offending customers or losing customers to those competitors that do not assess surcharges for credit card purchases.
CONSUMER CARD, SMALL BUSINESS AND CONSUMER TRAVEL SERVICES
As a significant part of its proprietary Card issuing business, TRS issues a wide range of Card products and services to consumers around the world and to small businesses primarily in the United States. Our consumer travel business, which provides travel services to Cardmembers and other consumers, complements our Card business. The proprietary Card business offers a broad set of card products to attract a greater number of customers. Core elements of our strategy are:
- focusing on acquiring and retaining high-spending, creditworthy Cardmembers across multiple groups;
- designing card products with features that appeal to specific customer segments;
- the use of strong incentives to drive spending on our various card products, including our Membership Rewards(R) program and other rewards features;
- the use of loyalty programs such as Delta SkyMiles, sponsored by our cobrand and other partners to drive spending;
- the development and nurturing of wide-ranging relationships with cobrand and other partners;
- a multi-card strategy (having multiple card products in customers' wallets); and
- high-quality customer service.
We and our licensees offer individual consumer charge cards such as the American Express Card, the American Express(R) Gold Card, the Platinum Card(R), and the ultra-premium Centurion(R) Card; revolving credit cards such as Blue from American Express(R), Blue Cash(R) from American Express and the Optima(R) Card, among others; and a variety of cards sponsored by and cobranded with other corporations and institutions, such as the Delta SkyMiles(R) Credit Card from American Express, the American Express(R) Platinum Cash Rebate Card and True Earnings Card exclusively for Costco Members and the Hilton HHonors Platinum Credit Card from American Express.
Charge Cards
Our charge Cards, which are marketed in the United States and many other countries and carry no pre-set spending limits, are primarily designed as a method of payment and not as a means of financing purchases of goods or services. Charges are approved based on a variety of factors including a Cardmember's account history, credit record and personal resources. Cardmembers generally must pay the full amount billed each month, and no finance charges are assessed. Charge card accounts that are past due are subject, in most cases, to a delinquency assessment and, if not brought to current status, may be canceled. The no-preset-spending limit and pay-in-full nature of these products attract high-spending Cardmembers who want to use a charge card to facilitate larger payments.
The Sign & Travel program gives qualified U.S. Cardmembers the option of extended payments for airline, cruise and certain travel charges that are purchased with our charge cards. The Extended Payment Option offers qualified U.S. Cardmembers the option of extending payment for certain charges on the Charge Card in excess of a specified amount. Various flexible payment options are offered to Cardmembers in international markets as well.
Revolving Credit Cards
TRS and its licensees also offer a variety of revolving credit cards in the United States and other countries. These cards have a range of different payment terms, grace periods and rate and fee structures. Since late 1994, when we began aggressively to expand our credit card business, our lending balance growth has been among the top tier of card issuers. Much of this growth has been due to the breadth of our lending products, such as Blue from American Express, Blue Cash from American Express and the Delta SkyMiles Credit Card from American Express, as well as the increased number of charge Cardmembers who have taken advantage of our "lending on charge" options (such as the Sign & Travel(R) and Extended Payment Option programs described above).
Among other products introduced in 2004, we launched the IN:NYC card, a fee-free credit card that helps Cardmembers get the most out of New York City by providing exclusive offers for Cardmembers and double points through a unique loyalty program, INSIDE REWARDS.
American Express Centurion Bank and American Express Bank, FSB as Issuers of Certain Cards
Our revolving credit cards in the United States are issued by American Express Centurion Bank ("Centurion Bank"), and American Express Bank, FSB ("AEBFSB"), each of which is a wholly owned subsidiary of American Express Travel Related Services Company, Inc. Centurion Bank issues Blue from American Express, Blue Cash from American Express, the Optima Card, and certain other American Express-branded revolving credit cards in the United States. In addition, Centurion Bank has outstanding lines of credit in association with certain Charge Cards and offers unsecured loans to Cardmembers in connection with the Sign & Travel and Extended Payment Option programs. Centurion Bank is also the issuer of certain Charge Cards in the United States.
In 2004, AEBFSB acquired certain credit card accounts and receivables from Centurion Bank and TRS and home equity loans, deposits and other lending portfolios from Centurion Bank. In addition, AEBFSB became the issuing bank of the related American Express charge and credit card accounts, including the consumer and small business credit cards cobranded with Delta Air Lines and Costco Wholesale and certain charge cards issued to small business customers.
International Proprietary Card Business
TRS continued to bolster its international proprietary Card business through the launch of more than 80 new or enhanced Card products during 2004. These are cards that we issue, either on our own or, as further described below, as cobrands with partnering institutions. This past year, among other new proprietary products, we introduced:
- Centurion Cards in The Netherlands, Sweden, France, Italy, Spain and Australia;
- a Platinum Card in Austria;
- a new American Express Credit Card in Thailand; and
- new Platinum Credit Cards in the Philippines, Puerto Rico, Singapore and Taiwan.
Cobrand Cards
TRS issues Cards under cobrand agreements with selected commercial firms both in the United States and internationally. Examples of new or enhanced cobrand products introduced in 2004 include:
- agreements with Costco Wholesale to issue the True Earnings Card for consumers and the True Earnings Business Card for small businesses;
- a cobranded credit card with BMW in Thailand;
- a cobranded charge card with Hotel Okura Co., Ltd., featuring the Okura Club Point program; and
- a cobranded credit card with Indian Airlines.
During 2004, we also extended our existing cobrand arrangements in the United States with two of our largest cobrand partners, Delta Air Lines and Costco Wholesale.
The competition among card issuers and networks for attractive cobrand card partnerships is quite intense because they can generate high-spending loyal cardholders. The duration of our cobrand arrangements generally range from five to ten years. Cardmembers earn rewards provided by the partners' respective loyalty programs based upon their spending on the cobrand cards, such as frequent flyer miles, hotel loyalty points and cash back. We make payments to our cobrand partners, which can be significant, based primarily on the amount of Cardmember spending and corresponding rewards earned on such spending and, under certain arrangements, on the number of accounts acquired and retained. We expense amounts due under cobrand arrangements in the month earned. Payment terms vary by arrangement, but are monthly or quarterly. Once we make payment to the cobrand partner, as described above, the partner is solely liable with respect to providing rewards to the Cardmember under the cobrand partner's own loyalty program. As the issuer of the cobrand card, we retain all the credit risk with the Cardmember and bear the receivables funding and operating expenses with respect to such cards. The cobrand partner retains the risk associated with the miles, points or other currency earned by the Cardmember under the partner's loyalty program.
Bank Distribution of Proprietary Cards
We also issue Cards under distribution arrangements with banks, primarily outside the United States. Such bank distribution agreements involve the offering of a standard product (issued by TRS or one of its subsidiaries) to customers of the bank, generally with the bank's logo on the Card. In a bank distribution arrangement, we make payments to the bank partners that are primarily based on the number of accounts acquired and retained through the arrangement and the amount of Cardmember spending on such Cards. The duration of such arrangements generally ranges from five to seven years.
We also signed an agreement to distribute American Express Platinum and Gold Cards to customers of Banco Banif, the private banking division of Grupo Santander in Spain, and a distribution agreement with Alandsbanken in Finland to distribute American Express-branded products as part of that bank's new Premium service.
Another example of our distribution partnerships is affinity cards with fraternal, professional, educational and other organizations. For instance, we have been successful in penetrating the affinity card segment in Australia, where we issue cards with the majority of the largest professional associations in that country. In Australia, affinity cards are a substantial part of our total revolving portfolio and contribute to our proprietary consumer lending activities.
Card Pricing and Account Management
Certain of our Cards, particularly charge Cards, charge an annual fee that varies based on the type of Card, the number of Cards for each account, the currency in which the Card is denominated and the country of residence of the Cardmember. We also offer many revolving credit Cards with no annual fee but on which we assess finance charges for revolving balances. Depending on the product, we also charge Cardmember fees to participate in rewards programs, in respect of account performance (e.g., late fees) or for certain services (e.g., additional copies of account statements). We apply standards and criteria for creditworthiness to each Cardmember through a variety of means both at the time of initial solicitation or application and on an ongoing basis during the Card relationship. We use sophisticated credit models and techniques in our risk management operations and believe that our strong risk management capabilities provide us with a competitive advantage.
Membership Rewards(R) Program
During 2004, we also continued to expand our U.S. Membership Rewards program - - the largest program of its kind. Customers enrolled in the Membership Rewards program earn points toward a variety of travel, entertainment, and retail rewards. Customers earn one point for virtually every dollar they spend. Membership Rewards points have no expiration date as long as the customer maintains a Membership Rewards account with an eligible, enrolled Card. There is no limit to the number of points earned, and bonus point opportunities help our customers earn rewards faster. We continued to add new Membership Rewards partners to the U.S. program, including JetBlue Airways, Fairmont Hotels, Wyndham Hotels and Resorts, Bloomingdale's, Restoration Hardware and Benihana. Our Membership Rewards program continues to be an important driver of Cardmember spending and loyalty.
As in the United States, rewards programs are a strong driver of Cardmember spending in the international consumer business. We have over 1,200 Membership Rewards partners that participate in our international Membership Rewards programs with an average of 70 partners in each country; fewer than 30% of these partners are in the travel industry. Cardmembers can redeem their points with 35 airlines and over 275 hotel chains. Our non-travel redemption options include retail - ranging from The Gap to Takashimaya, an upscale Japanese department store. Other redemption categories include dining, spas, charities, movie theatres, automobiles, and special events like the MTV Music Video Awards in Europe. In 2004, we signed 50 new Membership Rewards partners and continued to enhance our rewards programs in several markets, offering more flexible choices that enable Cardmembers to redeem points more quickly. In this vein, during 2004 we launched the Membership Rewards Direct Ticket in New Zealand, which lowered the amount of money Cardmembers need to spend in order to earn free travel and allows the Cardmember to redeem points directly with us to purchase a travel award rather than having to first transfer points to a Membership Rewards partner. We launched Double Points Membership Rewards in Indonesia and an enhanced Membership Rewards program in Japan that allows Cardmembers to carry over their earned Membership Plus points indefinitely.
When a Cardmember enrolled in the Membership Rewards program uses the Card, we establish balance sheet reserves in connection with estimated future reward redemptions. When a Membership Rewards program enrollee redeems a reward using Membership Rewards points, we make a payment to the Membership Rewards program partner providing the
reward pursuant to contractual arrangements. Because of higher charge volumes and greater redemption rates, the expense of the program has increased both in the United States and internationally over the past several years and continues to grow. Despite the increasing costs of Membership Rewards as penetration and usage expand, this program plays a vital role in our profitability. We believe, based on historical experience, that Cardmembers enrolled in rewards and cobrand programs yield higher spend, better retention, stronger credit performance and greater profit for us. By offering a broader range of redemption choices, we have improved customer satisfaction with the Membership Rewards program and lowered our average cost per point. We continually seek to contain the overall cost of the program and make changes to enhance its value to Cardmembers.
Cardmember Special Services and Programs
Throughout the world, Cardmembers have access to a variety of free and fee-based special services and programs, depending on the type of Cards they have and their country of residence. We recently introduced American Express Selects, a new benefit for Cardmembers worldwide, providing shopping, dining and travel values from merchants in 11 countries. During 2004, we also launched Identity Theft Assistance, a new benefit available to all Cardmembers at no extra cost provide dedicated support that can help Cardmembers safeguard their personal information and determine if their identity has been stolen. Other special services and programs include:
- the Membership Rewards program;
- Global Assist(R) Hotline;
- Buyer's Assurance Plan;
- Car Rental Loss and Damage Insurance;
- Travel Accident Insurance;
- Purchase Protection Plan;
- Best Value Guarantee;
- Emergency Card Replacement;
- Emergency Check Cashing Privileges;
- Automatic Flight Insurance;
- Premium Baggage Protection;
- Assured Reservations;
- Online Fraud Protection Guarantee;
- Credit Card Registry;
- Credit Bureau Monitoring and Credit Insurance services.
Certain Cards provide Cardmembers with access to additional services, such as a Year-End Summary of Charges Report.
The Platinum Card, a charge card offered to consumers in the United States and in virtually all other countries in which we issue Cards, provides access to additional and enhanced travel, financial, insurance, personal assistance and other services. We offer the Centurion Card by invitation to consumers in the United States and 11 other countries. The Centurion Card is an ultra-premium charge card providing highly personalized customer service and an array of travel, lifestyle and financial benefits. We send the Customer Relationship Statements to Personal, Gold, Platinum and Centurion Cardmembers, to communicate both our and merchants' special offers for products and services.
Service and Technology Infrastructure
We continue to make significant investments, both in the United States and internationally, in our card systems and infrastructure to allow faster introduction and greater customization of products. We also are using technology to develop and improve our service capabilities to continue to deliver a high quality customer experience. For example, we maintain a service delivery platform that our employees use in the card business to support a variety of customer servicing and account management activities such as account maintenance, updating of Cardmember information, the addition of new cards to an account and resolving customer satisfaction issues. In international markets, we are building flexibility and enhancing our global platforms and capabilities in revolving credit, our full service banking platform called iWealthview, and consumer payment options. You can find a description of our arrangement regarding the outsourcing of many of our technology operations to IBM in the "Corporate and Other" section of this report.
We continued to leverage the Internet to lower costs and improve service quality. During 2004, we expanded the number of services and capabilities available to customers online and increased their utilization. For example, within the United States, approximately 90% of our card servicing call volume can now be handled online. We now have more online interactions with U.S. customers than we do by telephone or in person. Our Online Card sales grew steadily in 2004 as well.
At year-end, customers enrolled approximately 15 million Cards in our "Manage Your Card Account Service." This service enables Cardmembers to review and pay their American Express bills electronically, view and service their Membership Rewards program accounts and conduct various other functions quickly and securely online. We now have an online presence in 48 markets.
OPEN: The Small Business Network(SM) from American Express
In addition to its U.S. and international consumer Card businesses, TRS is also a leading provider of financial services to small businesses (firms that generally have less than 100 employees and/or sales of $10 million or less), a key growth area in the United States. OPEN: The Small Business Network from American Express(SM) ("OPEN") offers small business owners a wide range of tools, services and savings designed to meet their evolving needs, including charge and credit cards, access to credit lines and loans up to $100,000, expense management reporting, enhanced online account management capabilities and travel services.
During 2004, we continued to expand the breadth of products and services offered by OPEN. We also introduced the Business Green Rewards Card, Blue Cash(R) for Business credit card, the Costco TrueEarnings(SM) Business card from Costco and American Express and new travel benefits for the Executive Business Card. We also introduced OPEN Savings(SM), a new program for OPEN customers, offering automatic savings at AT&T, FedEx, Hertz, Staples and others simply by using their American Express Business card. These savings may be combined with any existing discounts or offers. In addition, we introduced enhanced electronic management reports, improved information concerning categories of spend and limits on supplemental Cards (the ability to set a spending limit on Cards issued on a cardmember's account to persons authorized by the Cardmember).
In 2004, we sold the leasing product line of OPEN's small business financing unit, American Express Business Finance Corporation, with a loan portfolio of approximately $1.5 billion.
American Express Consumer Travel Network -- USA
The American Express Consumer Travel Network -- USA provides travel, financial and Cardmember services to consumers through American Express-owned travel service offices, call centers and participating American Express Representatives (independently-owned travel agency locations that operate under the American Express brand). U.S. Consumer Travel has distinguished itself in the luxury marketplace through its Platinum Travel Services and Centurion Travel Services, which provide programs such as the International Airline Program, which offers two-for-one fares on international first and business class tickets, and the Fine Hotels & Resorts program, a luxury hotel program offering room upgrades and value-added amenities. Other premium programs developed by Consumer Travel for Centurion and Platinum cardmembers include Cruise Privileges, Centurion and Platinum Destinations Vacations and the Private Jets Program.
In addition, the Consumer Travel business operates a wholesale travel business in the United States. (A wholesaler purchases inventory, such as hotel rooms or airline seats, from suppliers and then resells the services to the customer at retail prices that the wholesaler determines.) Our wholesale travel business packages American Express Vacations and distributes travel packages through other retail travel agents, and a cruise subsidiary in the United States, which markets value-added cruise products called the Mariner's Club. Consumer Travel also provides Membership Rewards program cruise and tour fulfillment, fee-free American Express Travelers Cheques, and foreign exchange services.
In 2004, we enhanced our Consumer Travel Web site with private-label versions of the Travelocity Inc. booking service for air, hotel and car rental reservations, and a private-label online cruise booking service from OurVacationStore.com. Our Web site now offers consumers fares and rates that are competitive with other leading travel Web sites, along with value-added benefits for cardmembers, including double Membership Rewards points.
We also attracted 13 new members last year to our representative network, including Cruise Planner, Inc., the first cruise franchiser to join the American Express Travel Network.
TRS' worldwide travel network of more than 1,700 retail travel locations is important in supporting the American Express brand and providing customer service throughout the world.
Competition
Our proprietary Card business encounters substantial and intense competition. As a card issuer, we compete in the United States with financial institutions (such as Citibank, Bank of America, JPMorgan Chase, MBNA and Capital One Financial) that are members of VISA and/or MasterCard and that issue general purpose credit cards, primarily under revolving credit plans, on one or both of those systems, and the Morgan Stanley affiliate that issues the Discover Card
on the Discover Business Services network. Internationally, we are also subject to competition from multinational banks, such as Citibank, HSBC and Banco Santander, as well as many local banks and financial institutions. Globally, we view Citibank and HSBC as our strongest competitors as they offer card products in a large number of markets. We also encounter limited competition from businesses that issue their own cards or otherwise extend credit to their customers, such as retailers and airline associations, although these cards are not generally substitutes for our Cards because of their limited acceptance. As a result of continuing consolidations among banking and financial services companies and credit card portfolio acquisitions by major card issuers, there are now a smaller number of significant issuers and the largest issuers have continued to grow using their greater resources, economies of scale and brand recognition to compete.
Competing card issuers offer a variety of products and services to attract cardholders including premium cards with enhanced services or lines of credit, airline frequent flyer program mileage credits, cash rebates and other reward or rebate programs, "teaser" promotional interest rates for both credit card acquisition and balance transfers, and cobranded arrangements with partners that offer benefits to cardholders.
Most financial institutions that offer demand deposit accounts also issue debit cards to permit depositors to access their funds. Use of debit cards for point-of-sale purchases has grown as most financial institutions have replaced ATM cards with general purpose debit cards bearing either the VISA or MasterCard logo. As a result, the volume of transactions made with debit cards in the United States has continued to increase significantly and, in the United States, has grown more rapidly than credit and charge card transactions. Debit cards are marketed as replacements for cash and checks, and transactions made with debit cards are typically for small dollar amounts. While debit cards may be used instead of credit and charge cards for certain kinds of transactions, the ability to substitute debit cards for credit and charge cards is limited because the consumer must have sufficient funds in his or her demand deposit account to cover the transaction in question. For example, larger purchases or delayed purchases may not be appropriate for debit cards. We do not currently issue point-of-sale debit cards on the American Express merchant network.
The principal competitive factors that affect the card-issuing business are:
- the features and the quality of the services, including rewards programs, provided to Cardmembers;
- the number, spending characteristics and credit performance of Cardmembers;
- the quantity and quality of the establishments that accept a card;
- the cost of cards to Cardmembers;
- pricing, payment and other card account terms and conditions;
- the number and quality of other payment instruments available to Cardmembers;
- the nature and quality of expense management data capture and reporting capability;
- the success of targeted marketing and promotional campaigns;
- reputation and brand recognition;
- the ability of issuers to implement operational and cost efficiencies; and
- the quality of customer service.
American Express Consumer Travel competes with traditional "brick and mortar" travel agents, online travel agents and travel suppliers that distribute their products to consumers directly via the internet or telephone-based customer service centers. In recent years we have experienced increasing competition from online travel agents utilizing the merchant business model under which the agent receives inventory (hotel rooms, airline seats, car rentals, destination services) from suppliers at negotiated rates. The agent then determines the retail price paid by the customer and processes the transactions as the merchant of record for the transaction. We believe the merchant model was particularly effective during the years following the September 11, 2001 terrorist attacks when travel volumes were depressed and suppliers tended to make greater amounts of their inventory available to agencies utilizing this model.
New competition has also emerged in the past year in the form of several software companies that offer robotic searches of other Web sites to direct consumers to the site that offers the lowest prices according to the customer's search parameters.
Financing Activities
American Express Credit Corporation, a wholly owned subsidiary of TRS, along with its subsidiaries ("Credco"), purchases the majority of Charge Card receivables arising from the use of Cards issued in the United States and in certain currencies outside the United States. Credco finances the purchase of receivables principally through the issuance of commercial paper and the sale of medium- and long-term notes. Centurion Bank and AEBFSB finance their revolving credit receivables through the sale of short- and medium-term notes and certificates of deposit in the United States. TRS, Centurion Bank and AEBFSB also fund receivables through asset securitization programs. The cost of funding Cardmember receivables and loans is a major expense of Card operations. (You can find a discussion of TRS' and Centurion Bank's securitization and other financing activities on pages 26-27, page 35, pages 37-40, page 41, pages 45-47, and pages 51-56 under the caption "Financial Review," and Note 4 on pages 97-98 of the Company's 2004 Annual Report to Shareholders, which portions we incorporate herein by reference.)
Regulation
Centurion Bank is a Utah-chartered industrial loan company regulated, supervised and regularly examined by the Utah Department of Financial Institutions and the Federal Deposit Insurance Corporation ("FDIC"). Centurion Bank is an FDIC-insured depository institution. AEBFSB is a federal savings bank regulated and supervised by the federal Office of Thrift Supervision ("OTS"), a division of the United States Department of the Treasury. AEBFSB is an FDIC-insured depository institution. Among the activities of Centurion Bank and AEBFSB that are regulated at the federal level are their respective anti-money laundering compliance activities. We have taken steps to maintain compliance programs for anti-money laundering and other requirements consistent with applicable standards. You can find a further discussion of the anti-money laundering initiatives affecting us under "Corporate and Other" below.
Centurion Bank is subject to the risk-based capital adequacy requirements promulgated by the FDIC. Under these regulations, a bank is deemed to be well- capitalized if it maintains a tier one risk-based capital ratio of at least 6%, a total risk-based capital ratio of at least 10% and a leverage ratio of at least 5%. Based on Centurion Bank's tier one risk-based capital, total risk-based capital and leverage ratios, Centurion Bank was considered to be well-capitalized as of December 31, 2004.
AEBFSB is subject to the risk-based capital adequacy requirements promulgated by the OTS. Under these regulations, a federal savings bank is deemed to be well-capitalized if it maintains a tier one risk-based capital ratio of at least 6%, a total risk-based capital ratio of at least 10%, and a tier one core capital ratio of at least 5%. Based on AEBFSB's tier one risk-based capital, total risk-based capital and tier one core capital ratios, AEBFSB was considered to be well-capitalized at December 31, 2004.
In 2003, AEBFSB and certain of its affiliates received OTS approval to, among other things, offer certain credit, charge and consumer lending products, small business loans, mortgages and mortgage-related products and to operate a transactional Internet site. The implementation of the changes to AEBFSB's business plan, which provides more flexibility for us, began in the first quarter of 2004 with the transfer of certain Card accounts and other assets from Centurion Bank to AEBFSB. AEBFSB continues to provide personal trust, custodial, agency and investment management services to individual clients of AEFA. AEBFSB is registered with the SEC as an investment adviser. AEBFSB is authorized to transact business in all 50 states and the District of Columbia, and utilizes AEFA as its primary distribution channel for these services.
The charge card and consumer lending businesses are subject to extensive regulation in the United States, as well as in foreign jurisdictions. In the United States, the business is subject to a number of federal laws and regulations, including:
- the Equal Credit Opportunity Act (which generally prohibits discrimination in the granting and handling of credit);
- the Fair Credit Reporting Act (which, among other things, regulates use by creditors of consumer credit reports and credit prescreening practices and requires certain disclosures when an application for credit is rejected);
- the Truth in Lending Act (which, among other things, requires extensive disclosure of the terms upon which credit is granted);
- the Fair Credit Billing Act (which, among other things, regulates the manner that billing inquiries are handled and specifies certain billing requirements);
- the Fair Credit and Charge Card Disclosure Act (which mandates certain disclosures on credit and charge card applications); and
- the Electronic Funds Transfer Act (which regulates disclosures and settlement of transactions for electronic funds transfers including those at ATMs).
Certain federal privacy-related laws and regulations govern the collection and use of customer information by financial institutions (see "Corporate and Other" below). Federal legislation also regulates abusive debt collection practices. In addition, a number of states, the European Union, and many foreign countries in which we operate have significant consumer credit protection, disclosure and privacy-related laws (in certain cases more stringent than the laws in the United States). The application of bankruptcy and debtor relief laws affect us to the extent that such laws result in amounts owed being classified as delinquent and/or charged off as uncollectible. Card issuers and card networks are subject to anti-money laundering and anti-terrorism legislation, including, in the United States, the USA PATRIOT Act. (For a discussion of this legislation and its effect on our business see, "Corporate and Other" below.)
Centurion Bank, AEBFSB and our other bank entities are subject to a variety of laws and regulations applicable to financial institutions. Changes in such laws and regulations or in the regulatory application or judicial interpretation thereof could impact the manner in which we conduct our business and the costs of compliance. The regulatory environment in which our Card and lending businesses operate has become increasing complex and robust. More recently, regulators (as well as various consumer advocacy groups) have begun to focus increasing attention on the types and levels of fees charged by card issuers for, among other things, late payments, returned checks, payments by telephone, copies of statements and the like. We regularly review and, as appropriate, refine our business practices in light of existing and anticipated developments in laws, regulations and industry trends so we can continue to manage our business prudently and consistent with regulatory requirements and expectations.
In January 2003, the Federal Financial Institutions Examination Council (the "FFIEC"), an interagency body composed of the principal U.S. federal entities that regulate banks and other financial institutions, issued new guidance to the industry on credit card account management and loss allowance practices (the "Guidance"). The Guidance covers five areas: (i) credit line management, (ii) over-limit practices, (iii) minimum payment and negative amortization practices, (iv) workout and forbearance practices, and (v) certain income (fee) recognition and loss allowance practices. The Guidance is generally applicable to all institutions under the supervision of the federal bank regulatory agencies that comprise the FFIEC, although it is primarily the result of the identification by bank regulators in their examinations of other credit card lenders practices deemed by them to be inappropriate, particularly, but not exclusively, with regard to subprime lending programs. At present, we do not have any lending programs that target the subprime market. The Guidance has not had any material impact on our businesses or practices and we do not believe that the Guidance will have any material impact on our practices in the future, nor does the Guidance mandate any changes to our practices.
GLOBAL CORPORATE SERVICES
TRS' Global Corporate Services business ("GCS") helps companies around the world better manage the costs and processes associated with a range of expenses, including travel, entertainment and everyday purchases of business products and services. GCS offers three primary products and services:
- Corporate Card, issued to individuals through a corporate account established by their employer and designed primarily for travel and entertainment spending;
- Corporate Purchasing Solutions, an account established by a company to pay for everyday business expenses such as office and computer supplies; and
- Business Travel, which helps businesses manage their travel expenses through a variety of travel-related products and services.
Corporate Card and Corporate Purchasing Solutions
The American Express(R) Corporate Card is a charge card that individuals may obtain through a corporate account established by their employer for business purposes. Through the Corporate Card program, companies can manage their travel, entertainment and purchasing
expenses and improve negotiating leverage with suppliers, among other benefits. We use our direct relationships with merchants to offer Corporate Card clients superior data about company spending, as well as streamlined dispute resolution. We issue local currency Corporate Cards in 36 countries, which we distribute through proprietary operations and partner banks, and international dollar Corporate Cards in 85 countries. Additionally, with the launch of our Global Dollar Card offering, we have the capability to offer our products to customers in over 200 countries. In 2004, we launched the American Express Gold Corporate Card in Brazil and the Platinum Card in Canada.
Corporate Purchasing Solutions ("CPS") helps large and middle market companies manage their everyday spending. CPS is used by corporations to buy everyday goods and services, such as office supplies and industrial supplies and equipment, in 24 markets around the world. This type of spending by corporations is less susceptible to economic downturns than traditional travel and entertainment spending and helps to diversify the spending mix on our Cards.
GCS is a leading provider of expense management services to global, multinational and large businesses worldwide. GCS established the Global Business Partnerships group which serves a highly select group of Fortune 100 companies that have globalized their approach to travel and entertainment expense management and have structured their purchasing requirements in a global manner to more effectively manage and optimize their investments in travel and entertainment, as well as everyday corporate expenses.
In addition, our GCS business provides Corporate Card and travel expense management services to middle market companies (defined in the United States as firms with annual revenues of $10 million to $1 billion) in developed economies worldwide, including the United States, Canada, the United Kingdom, France, Sweden, Germany, Australia, Singapore and Mexico. GCS is focused on continuing to expand its business with midsize companies, which we believe present us with significant growth opportunities. Businesses of this size often do not have corporate card programs. However, once enrolled in the program, midsized companies, which usually do not have well-defined purchasing programs, will typically put a significant portion of their business spending (both travel and entertainment and non-T&E, such as office supplies) on the Card because they can gain control, savings and employee benefits. In 2004, our GCS business invested in a wide range of marketing programs and product enhancements, and added sales staff to generate more Card and travel business with midsize firms. GCS also offers the Savings at WorkSM program in the United States, as well as similar programs globally, which provides companies with discounts on everyday products and services, such as office supplies, and a range of business services.
During 2004, we added or retained several major clients in the United States and internationally for the Corporate Card, including Johnson & Johnson, Motorola, ICI, Avaya, Owens Corning, Schering-Plough, Medtronic, and Siemens.
In 2004, we also announced a new business alliance with CorpVat under which it provides certain value added tax (VAT) recovery services to GCS commercial card clients. We also announced a new alliance with Deutsche Bank to launch a jointly-branded Corporate Card and Business Travel Account program to Deutsche Bank's corporate customers. TRS also
entered into a cobrand card alliance with Paradigm Total Salary Management in Australia for both employees and employers to benefit from outsourced salary packaging administration.
In addition, in 2004, we entered into an agreement with Navigant International, Inc., a leading provider of travel management services in the United States, to distribute our Corporate Cards to its clients in the United States.
With the increased focus on cost containment by firms, we have experienced significant growth over the past few years in the Corporate Meeting Card, which helps U.S.-based companies control company meeting expenses. The Corporate Meeting Card provides clients with a tool to capture such spending and provides company meeting planners with a tool to simplify the meetings payment process and access to data to negotiate with suppliers. GCS also offers the Corporate Defined Expense Program. This product allows companies to set a maximum amount to be charged on a Card before expiration and permits them to segregate spending data for specific purposes on projects. It is designed for companies that want to allocate funds for a specific purpose, such as employee relocations or training.
GCS also offers American Express @ Work(R), a secure, web-based suite of online tools that enables Corporate Card, CPS and Corporate travel customers to perform account review and servicing and access management reports on a 24/7 basis through a single user interface. This suite helps companies manage expenses and manipulate spend data more efficiently than offline alternatives, while decreasing the costs associated with servicing. These products enable companies to review, combine and manipulate Corporate Card, Corporate Travel and Corporate Purchasing Solutions data. One of the products also allows companies to reconcile the data with its internal accounting system.
Competition - Global Commercial Card Business
Competition in the commercial card (Corporate Card and CPS) business is increasingly intense at both the card network and card issuer levels. At the network level, Diners Club (which, as mentioned above, is being folded into the network operated by MasterCard in the United States) remains a significant global competitor. In addition, both VISA and MasterCard have increased efforts to support card issuers such as U.S. Bank, JPMorgan Chase, GE Capital Financial Inc. and Citibank (in the United States and globally), who are willing to build and support data collection and reporting necessary to satisfy customer requirements. In the past few years, MasterCard has promoted enhanced web-based support for its corporate card issuing members, and VISA International supported the creation of a joint venture by a number of its member banks from around the world to compete against us and Diners Club for the business of multinational companies. The key competitive factors in the commercial card business are, in addition to the factors cited above under "Consumer Card, Small Business and Consumer Travel Services -- Competition":
- the ability to capture and deliver detailed transaction data and expense management reports;
- the number and types of businesses that accept the cards;
- pricing;
- the range and innovativeness of products and services to suit business needs
- quality of customer services; and
- global presence.
Global Travel Services
GCS Global Travel Services consists of American Express Business Travel (BT) and Consumer Travel International & Foreign Exchange Services (CTI&FES).
American Express Business Travel provides travel reservation advice and booking transaction processing; travel expense management policy consultation; supplier negotiation and consultation; management information reporting, data analysis and benchmarking; and group and incentive travel services.
Business Travel services customers directly in 36 key markets worldwide, of which 31 are proprietary operations and five are managed through joint ventures. In addition, Business Travel also serves customers in numerous other markets through franchise partnerships. We continued to expand our global reach with our 2003 acquisition of Rosenbluth International, the integration of which was completed in the second half of 2004. We believe that the Rosenbluth acquisition has helped us expand an advantage over other competitors by enhancing our servicing capabilities, the integration of superior customer products and services, adding high performing talent and creating economies of scale.
In 2004, we were awarded the corporate travel business of, among other new clients, General Motors, Electronic Data Systems A.T. Kearny, the European Aeronautic Defence and Space Company, DHL and the U.K. Ministry of Defence.
Business Travel continues to modify its economic model and invest in new products, services and technologies to address ongoing travel industry challenges and opportunities. For example, we have substantially reduced our reliance on commission revenues from suppliers (such as airlines or hotels), and now generate revenues primarily from customers who pay for the services that we provide. We announced a comprehensive cost-saving travel management offering for the small- and mid-sized business travel segment in the United States, featuring webfare guarantees, a new travel management loyalty program with double Membership Rewards(R) points for individual travelers and automatic ticket refunds. In addition, Business Travel launched the Preferred Extras Hotel Program and Preferred Savings Programs for our North America customer base. Business Travel also offers the TravelBahn(R) Distribution Solution, a proprietary distribution solution alternative that provides access to the best airline inventory and fares for American Express Business Travel customers with a number of carriers, in North America and in select international markets.
Business Travel has moved many of its business processes and customer servicing online, which streamlines processes, reduces costs, increases productivity and enhances the quality of customer service. To this end, we launched a redesign of our Business Travel website at the end of 2004. By the end of 2004, in the United States, 33% of all of GCS' corporate travel
transactions were processed online, and online penetration rates in the United Kingdom, Canada, Mexico and Australia achieved levels within the 6% to 18% range.
Global Travel Services, through its CTI&FES organization, provides American Express customers around the globe with travel related products and services. CTI&FES encompasses four key areas of business: Premium Travel and Lifestyle Services, Travel Service Network, Retail Foreign Exchange, and Corporate Foreign Exchange.
Premium Travel and Lifestyle Services provides concierge services, a unique benefit that exemplifies the world-class customer experience provided to Platinum and Centurion Card customers through 22 exclusively dedicated international call centers. Our retail leisure travel service network manages customer relationships on our behalf worldwide through more than 1,700 travel office locations in more than 130 countries. We are aggressively expanding our retail presence worldwide through franchising, nearly tripling the size of our international franchise network in the past three years alone.
Our retail foreign exchange business has a presence in many of our travel offices, as well as in 26 of the world's major international airports, including London's Heathrow, the Aeroports de Paris and Changi Airport in Singapore. Today, American Express is the third largest currency provider in airports. For corporate clients, our International Payments online payment product allows companies and banks to make cross-border payments in more than 110 foreign currencies at competitive rates. Wholesale banknote services are also provided to select financial institutions and travel-related companies.
Competition - Travel Services
Business Travel faces intense competition in the United States and internationally from numerous traditional and online travel management companies, as well as from direct sales by airlines and other travel suppliers. Competition among travel management companies is mainly based on price, service, convenience, global capabilities and proximity to the customer. In addition, competition comes from corporate customers themselves, as some companies have become accredited as in-house corporate travel agents.
In 2004, several U.S.-based online travel agencies expanded their offerings and marketing efforts beyond their traditional target customer set, with increasing focus on corporate travel. Orbitz, Expedia and Travelocity have all begun to pursue midsized and larger corporate travel customers in North America. While the majority of the online agencies' efforts to penetrate the managed corporate travel sector has to date occurred in the United States, it is likely that they will focus more of their efforts to expand into key, developed international markets like Canada, the United Kingdom and other European markets in 2005.
Since 1995, travel agents have received reduced levels of revenue from airlines, and this trend is expected to continue. The airline industry has been under severe financial pressure in recent years and, as a result, has increased its efforts to reduce distribution expenses. In March 2002, U.S. airlines and some international carriers stopped paying "base" commissions to travel
agents for tickets sold in the United States and Canada on all domestic and international travel. Subsequently, airlines in many international markets followed suit. In addition, low-cost carriers have begun to target business travelers to help fuel their growth, putting further strain on the ability of the traditional carriers to remain competitive. Low-cost carriers do not rely on travel agents to distribute their products and services. The traditional carriers have also increased the number of transactions they book directly through their Web sites and other means. These trends have reduced the revenue opportunities for travel agents who do not receive distribution revenue from directly booked transactions.
Overall, the ongoing trends of airline direct transactions, rise of low-cost carriers and ongoing reductions in airline commissions continue to put pressure on revenue for travel agents. We believe that the restructuring of the business model over the last few years, transitioning many of our services online and reducing other costs has helped us to balance these revenue pressures.
GLOBAL TRAVELERS CHEQUES AND PREPAID SERVICES
We have been in the business of issuing and selling travelers checks for well over 100 years. Today, that business is operated through our Global Travelers Cheques and Prepaid Services Group ("TCPS"). TCPS also offers the TravelFunds Direct(R) service, which provides direct delivery of foreign bank notes and Travelers Cheques in selected markets.
We sell the American Express Travelers Cheque ("Travelers Cheque" or "Cheque") as a safe and convenient alternative to cash. The Travelers Cheque has no expiration date and is payable by the issuer in the currency of issuance when presented for the purchase of goods and services or for redemption. Travelers Cheques are available in nine currencies, including Euros. We also issue and sell other forms of travelers checks: American Express Gift Cheques are designed for gift-giving purposes, and the American Express-Secure Funds is offered in certain countries as a safe way to keep cash at home. American Express Gift Cheques are available in U.S. and Canadian dollars. American Express Cheques-Secure Funds are issued in U.S. dollars and Euros.
Since 2002, we began to expand our prepaid offerings beyond paper into plastic cards. In 2004, TCPS continued to offer two prepaid gift cards in the United States: the American Express Gift Card, which can be used in the United States at retail as well as restaurant establishments that accept American Express Cards, and the Be My Guest(R) Card, specifically designed for restaurant dining. Also in 2004, TCPS expanded sales of gift cards through shopping malls and a limited number of retail establishments in the United States. At the end of 2004, TCPS began to sell a Japanese Yen-denominated American Express Gift Card in Japan for use in that country at selected retail locations that accept our Cards.
In October 2003, we launched the American Express TravelFunds Card ("TFC") in the United States, and in 2004, we launched TFC in Germany under the name "Travelers Cheque Card." The TFC is a reloadable, prepaid card that we market as a plastic form of our Travelers Cheque. The TFC is available in U.S. dollars, British pounds sterling and Euros, is sold in the
United States, the United Kingdom and Germany and can be used worldwide at all merchants and ATMs that accept the American Express Card. The TFC offers the same customer service and security of the Travelers Cheque, including passport and credit card replacement assistance.
TCPS is continually evaluating additional prepaid products to offer to our customers.
As noted, we sell American Express paper and plastic prepaid card products through a variety of channels. We sell these products ourselves directly to consumers via phone and the Internet, and these sales, while representing a relatively small portion of all sales, continued to grow in 2004. Paper Travelers Cheques and Gift Cheques are sold primarily through a broad network of selling outlets worldwide, including American Express travel offices; independent travel agents; financial institutions; and many other financial, travel and commercial businesses. Many of the same sellers also sell our prepaid cards. We sometimes compensate selling outlets for their sales. We are increasingly seeking new travel and commercial sellers for our prepaid cards. We also continued to expand the distribution channels for prepaid products with the addition of retail, airline, car rental, and hotel sellers, as well as postal services in Australia, Canada and the United States.
Arrangements with a diverse group of sellers continue to be critical to TCPS' expansion of its sales distribution network. In 2004, TCPS gained a number of new distributors, including department stores and convenience stores.
During the year, overall Travelers Cheque sales (including TFC sales) increased 2% globally, and consumer Gift Product sales (including sales of paper Gift Cheques and Gift Cards) increased 49%. Gift Cheque growth, which is calculated from a much lower base than Travelers Cheques, is primarily the result of new advertising and marketing programs. An improved travel environment contributed to an increase in both Traveler's Cheque and TFC sales.
We invest the proceeds from sales of our Travelers Cheques and prepaid cards issued by TRS predominantly in highly rated debt securities consisting primarily of intermediate- and long-term state and municipal obligations.
Regulation - Travelers Checks and Prepaid Cards
As an issuer of travelers checks, TRS is regulated in the United States under the "money transmitter" laws of most states. These laws require travelers check (and, where applicable, prepaid card) issuers to obtain licenses, to meet certain safety and soundness criteria, to hold outstanding proceeds of sale in highly rated and secure investments, and to provide detailed reports. Many states audit licensees annually. In addition, travelers check issuers are required by the laws of many states to comply with state unclaimed and abandoned property laws under which issuers must pay to states the face amount of any travelers check that is uncashed or unredeemed after 15 years. A few states have amended their abandoned property laws to apply to prepaid cards. Some states have recently enacted laws pertaining to the issuance and the sale of gift certificates, which may also cover the gift cards we issue. Some of these laws restrict the fees that consumers can be charged and the expiration dates of the cards. We continue to monitor state legislative activity in this area very closely to ensure we comply with all applicable
regulation, which varies from state to state. Federal anti-money laundering regulations require, among other things, the registration of traveler check issuers as "Money Service Businesses" and compliance with anti-money laundering recording and reporting requirements by issuers and selling outlets. At this time, stored value issuers and redeemers, while considered to be "Money Service Businesses," are not required to register. Outside the United States, there are varying anti-money laundering requirements, including some that are similar to those in the United States.
Competition - Travelers Checks and Prepaid Cards
Travelers Cheques compete with a wide variety of financial payment products, including cash, foreign currency, checks, other brands of travelers checks, and, increasingly, debit and ATM cards, as well as credit and charge cards (even though travelers checks and prepaid cards are not substitutes for charge and credit cards) and, to a limited extent, competing prepaid cards. The principal competitive factors affecting the travelers check and prepaid card industry are:
- the number and location of merchants willing to accept the form of payment;
- the availability to the consumer of other forms of payment;
- the amount of fees charged to the consumer;
- the compensation paid to, and frequency of settlement by, selling outlets;
- the accessibility of sales and refunds for the products;
- the success of marketing and promotional campaigns; and
- the ability to service the customer satisfactorily, including for lost or stolen instruments.
Our prepaid cards (cards that can be used at many different unaffiliated locations) compete with all of the same payment methods; however, gift cards compete primarily with cash and checks.
OTHER PRODUCTS AND SERVICES
American Express Tax and Business Services Inc. ("TBS") is a tax, accounting, consulting and business advisory firm that primarily provides services to small and middle market companies. TBS delivers a wide range of services, including tax planning and accounting, litigation support, business reorganization, business management advisory, business technology, internal audit outsourcing and other accounting, advisory and consulting services to its customers. TBS is not licensed to practice public accounting, but employs certified public accountants who deliver, along with other professionals, the non-attest services described above. TBS has a continuing professional services relationship with several independent, licensed public accounting firms to which it leases personnel. These public accounting firms offer attest services to their clients. TBS has more than 35 offices in 12 states with approximately 2,400 employees.
Through American Express Publishing, we also publish luxury lifestyle magazines such as Travel+Leisure(R), T+L Family, a supplement to Travel+Leisure, T+L Golf(R), Food & Wine(R) and Departures(R); travel resources such as SkyGuide(R); business resources such as the American Express Appointment Book and SkyGuide Executive Travel, a business traveler supplement; a
variety of general interest, cooking, travel, wine, financial and time management books; branded membership services; a growing roster of international magazine editions; as well as directly sold and licensed products. American Express Publishing also has a custom publishing group and is expanding its service-driven Web sites such as: travelandleisure.com, foodandwine.com, departures.com, tlgolf.com, tlfamily.com and skyguide.net.
AMERICAN EXPRESS FINANCIAL ADVISORS
Our American Express Financial Advisors operating segment ("AEFA") principally includes American Express Financial Corporation ("AEFC") and its subsidiaries and affiliates described below. AEFA has two principal businesses:
- ASSET ACCUMULATION AND INVESTMENTS provided by AEFC and certain of its subsidiaries; and
- INSURANCE products issued by IDS Life Insurance Company ("IDS Life") and its subsidiaries (collectively, the "IDS Life Companies"), as well as IDS Property Casualty Insurance Company ("IDS Property Casualty") and its subsidiaries.
The products and services of these businesses are principally offered through AEFA's network of over 12,300 financial advisors. Through this business model, AEFA builds long-term relationships with clients based on trusted, knowledgeable advice.
For discussion of the Company's plans to pursue a spin-off of AEFA, see the "Introduction" to this report above.
ASSET ACCUMULATION AND INVESTMENTS
Through its asset accumulation and investments business, AEFA offers a broad array of proprietary and non-proprietary investment products and services to help retail and institutional clients meet their financial goals. For retail clients, AEFA's financial advisors are guided by the financial planning process as defined by the "Principles for Financial Planning," issued by the Certified Financial Planner Board of Standards, Inc. Retail clients, including clients with an AEFA financial plan, and institutional clients select among investment products such as mutual funds, annuities, face-amount certificates, collective funds, real estate investment trusts, collateralized debt obligations and hedge funds; and investment services including wrap programs, financial planning services and separately managed accounts. Additionally, AEFA offers a variety of tax-qualified products, including individual retirement accounts, employer-sponsored retirement plans and Section 529 college savings plans; personal trust services; and retail securities brokerage through American Express Financial Advisors Inc. ("AEFAI"), an AEFC subsidiary.
Approximately 76% of AEFA's revenues and 70% of AEFA's pre-tax income in 2004 were attributable to its asset accumulation and investments business. Our asset accumulation and investments business primarily derives revenues from the fees we receive from the asset management, financial planning and distribution services we provide, along with the spread income earned on annuity assets held in fixed accounts. AEFA currently has over $410 billion in assets owned, managed and administered.
One of our primary goals is to increase the competitiveness of AEFA's proprietary products and services for both retail and institutional customers. In furtherance of this goal, there were several key accomplishments during 2004 that helped to enhance product and retail service offerings,
improve our competitive position, strengthen our asset management capabilities, and improve investment management performance, including:
- continued development of our AXP family of mutual funds, including the merger of several equity funds and the launch of a series of strategic asset allocation funds;
- nationwide rollout of American Express Gold Financial Services, designed for retail clients with more than $100,000 in assets with AEFA;
- broadening of our asset management reach internationally through the successful integration of Threadneedle Asset Management Holdings Limited ("Threadneedle"), an AEFC subsidiary, and the creation of a global fund of hedge funds platform; and
- enhancing investment management leadership, talent and infrastructure.
We achieved record financial planning sales and fee revenue in 2004. Our investment management business benefited in 2004 from an increase in management fee revenue resulting from higher average assets under management. This reflected, in large part, the full-year impact of the Threadneedle acquisition in the fall of 2003, along with improved equity market performance and overall net asset inflows for AEFA. Outflows from the AXP retail mutual funds (the "AXP Funds") and non-Threadneedle institutional assets partially offset the gains in assets under management. Since most fees that AEFA receives for asset management and related services are based on assets under management, market appreciation results in increased revenues, and inversely, market depreciation will act to depress revenues. Revenues will also fluctuate due to net inflows or outflows of assets.
RETAIL PRODUCTS AND SERVICES
AXP Family of Mutual Funds
AEFAI acts as the principal underwriter (distributor of shares) for the AXP family of mutual funds. In addition, AEFC acts as investment manager and AEFC and its subsidiaries perform various services for the funds, including accounting, administrative, transfer agency and custodial services. As of December 31, 2004, the AXP family of mutual funds consisted of two groups of funds: (1) the AXP Funds, a group of retail mutual funds offered to the public primarily through proprietary channels, and (2) the AXP Variable Portfolio Funds ("VP Funds"), which are a series of variable product portfolios. The VP Funds are available only as underlying investment options in our proprietary variable annuity and variable life products and through certain non-proprietary variable annuity products. Both the AXP Funds and the VP Funds include domestic and international equity, fixed income, cash management and balanced funds with a variety of investment objectives.
The AXP family of mutual funds has increased its use of subadvisors over the last few years to diversify and enhance investment management expertise. As of June 2004, Threadneedle International Limited ("TINTL"), a Threadneedle company and an indirect wholly owned subsidiary of AEFC, began subadvising the international equity funds within the AXP family of funds. Previously, these mutual funds were managed by Threadneedle personnel through an arrangement with American Express Asset Management International, Inc. ("AEAMI"). Kenwood Capital Management LLC ("Kenwood"), another AEFC affiliate, also
provides sub-advisory services to one small cap AXP Fund and one small cap VP Fund. In addition to TINTL and Kenwood, 20 unaffiliated sub-advisors provide investment management services to the AXP Partners Funds, part of the AXP Funds.
Eight new AXP Funds and four new VP Funds were launched during 2004:
- six AXP(R) Portfolio Builder Series mutual funds, a collection of strategic asset allocation funds of mutual funds that address multiple investment needs;
- the AXP Real Estate Fund, which invests primarily in stocks of real estate investment trusts (REITs);
- the AXP Inflation Protected Securities Fund, which invests primarily in inflation-indexed bonds; and
- four VP Funds with a variety of fixed income and equity strategies.
In 2004, several AXP Funds and VP Funds were also merged into existing AXP Funds and VP Funds, respectively, primarily to achieve economies of scale by combining similar funds into larger funds. In addition, the board of directors of AXP MidCap Index Fund approved the liquidation of that fund.
The AXP family of mutual funds now has 89 funds with more than $83.5 billion in assets under management compared to 83 funds with more than $84.5 billion at December 31, 2003. As of December 31, 2004, the AXP Funds consisted of 66 retail mutual funds, including the eight launched in 2004, with varied investment objectives. The AXP Funds had combined assets at December 31, 2004 of $65.3 billion compared to $68.8 billion at the end of 2003. At December 31, 2004, the AXP Funds were the 31st largest retail mutual fund family in the United States and, excluding money market funds, were the 23rd largest according to Strategic Insight. The VP Funds consist of 23 variable product portfolios (four of which commenced operations in 2004) that offer a variety of investment strategies including cash management, fixed income and domestic and international equity. The VP Funds had combined assets at December 31, 2004, of $18.2 billion compared to $15.7 billion at the end of 2003.
As stated above, we have taken some major steps to improve investment performance of the AXP family of mutual funds by enhancing investment management leadership, talent and infrastructure. Focused on outperforming specific benchmarks, we began improving our fixed income performance in 2003, followed up with a strong 2004. We also implemented Blackrock Solutions(R) as our primary portfolio management, trading and risk management system for fixed income investment management. In equities, we saw strong results in many funds, particularly those in which new fund managers were hired over the past few years. Notwithstanding these efforts, a few large AXP equity funds underperformed their benchmarks in 2004. Also, many of the AXP Funds have certain asset levels that do not allow them to benefit from the economies of scale experienced by our competitors, which results in expense ratios that may be higher than competing funds. Overall, the AXP Funds experienced significant asset outflows in 2004.
AEFC earns management fees for managing the assets of the AXP family of mutual funds based on the underlying asset values. AEFC and certain of its subsidiaries also earn fees by
providing other services to the AXP family of mutual funds. AXP Funds that are equity or balanced funds have a performance incentive adjustment ("PIA"). This PIA adjusts the level of management fees received, both upward and downward, based on the fund's performance as measured against a designated external index of peers, which has a corresponding impact on management fee revenue. Aggregate management fees from the AXP family of mutual funds were adjusted downward by $21.1 million for performance incentive adjustments attributable to calendar year 2004.
AEFAI earns commissions for distributing the AXP Funds through sales charges (front-end or back-end loads) on certain classes of shares and distribution (12b-1) fees based on a percentage of fund assets, and receives intercompany allocation payments from AEFC.
AEFC affiliates also serve as sub-advisors to certain offshore mutual funds sponsored by AEB that are organized as Luxembourg funds and advised by American Express Asset Management (Cayman) Ltd.
Non-Proprietary Mutual Funds
We have increased our sale of non-proprietary products, particularly mutual funds, to meet the demands of clients for a broader choice of investment products. In 2004, our retail sales of non-proprietary mutual funds accounted for a substantial portion of our total retail mutual fund sales. We offer more than 2,000 non-proprietary mutual funds from more than 200 mutual fund families. In 2003, we created the Select Group Program for mutual funds. As of the end of 2004, this program consisted of 12 fund families, including the AXP Funds, offering approximately 790 mutual funds. We chose non-proprietary fund families to participate in the Select Group Program based on several criteria including brand recognition, product breadth, investment performance, advisor training and wholesaling support, and revenue sharing payments. In exchange for certain benefits, such as broader access to our financial advisors, non-proprietary fund families in the Select Group Program are required to pay us for participation in the program by sharing a portion of the revenue generated from the sales of those funds and from the ongoing management of fund assets attributable to our clients' ownership in shares of Select Group funds. We also receive payment from certain other non-proprietary fund families whose products are available through our financial advisors and online brokerage. As described below under "Regulation - Asset Accumulation and Investments," AEFA and other industry participants are the subject of various regulatory inquiries with respect to several mutual fund industry practices, including revenue sharing. We expect to adopt revised revenue sharing practices in 2005, which are likely to result in a reduction of revenue sharing rates and could result in a reduction in revenues. We also receive administrative services fees from most mutual funds sold through our distribution network.
We make available both proprietary and non-proprietary mutual funds on a "stand-alone" basis (i.e., outside of wrap accounts, which are described under "Wrap Accounts" below). Sales of non-proprietary mutual funds on a stand-alone basis generally are less profitable to us than sales of proprietary mutual funds.
Wrap Accounts
In addition to purchases of proprietary and non-proprietary mutual funds on a stand-alone basis, clients may purchase mutual funds, among other securities, in connection with "wrap" and other fee-based programs or services and pay fees based on a percentage of their assets. Investors in wrap accounts generally pay an asset-based fee on investments made within the wrap account. In 2004, a small portion of our proprietary mutual fund sales and approximately one-half of our non-proprietary mutual fund sales were made in these wrap programs. The sale of mutual funds made through wrap programs generally is more profitable than the sale of mutual funds on a stand-alone basis.
One such wrap program we sponsor is American Express(R) Strategic Portfolio Service Advantage ("SPS"), a non-discretionary investment advisory wrap program designed for investments in proprietary and non-proprietary mutual funds and other individual securities. The SPS wrap program had total client assets valued at $35 billion at December 31, 2004 compared to $24 billion at the end of 2003.
We also provide American Express(R) Premier Portfolio Services ("Premier"), a service that allows customers to receive consolidated reporting and information on one or more fee-based accounts. The fee-based accounts available in Premier currently include non-discretionary brokerage accounts, for which clients pay an asset-based fee in lieu of individual sales charges and/or commissions on mutual fund and individual securities transactions. Also available in Premier is the Separately Managed Account Program, an investment advisory wrap program in which clients select one or more professional independent and/or affiliated investment managers to provide discretionary asset management services. Clients in American Express(R) Wealth Management Service ("WMS"), another professionally managed discretionary investment advisory wrap service sponsored by AEFAI that is being discontinued, have been given the option to transition to the Separately Managed Account Program within Premier. The Premier and WMS wrap programs had total combined client assets valued at $1.9 billion at December 31, 2004 compared to $1.6 billion at the end of 2003.
An operating division of American Express Asset Management Group Inc. ("AEAMG"), an AEFC subsidiary, also serves as the discretionary manager for clients participating in discretionary wrap programs sponsored by AEAMI and AEB.
Annuities
AEFA offers both variable and fixed annuity products issued primarily by the IDS Life Companies. Our financial advisors do not offer annuity products of our competitors, except for annuities specifically designed for use in the small employer 401(k) market that are issued by two insurance companies not affiliated with American Express. AEFAI serves as the distributor of variable annuities issued by IDS Life and IDS Life of New York.
IDS Life is one of the largest issuers of annuities in the United States. For the year ended December 31, 2004, the IDS Life Companies, on a consolidated basis, ranked eleventh in new sales of variable annuities according to VARDS(R), an independent annuity rating service. AEFA continues to expand distribution by delivering annuity products issued by
the IDS Life Companies through non-affiliated representatives and agents of third-party distributors. These products are specifically offered through American Enterprise Life Insurance Company ("American Enterprise Life") and American Centurion Life Assurance Company ("American Centurion Life"), both IDS Life subsidiaries.
The IDS Life Companies posted fixed and variable annuity cash sales in 2004 of $6.1 billion, a slight decrease from 2003, reflecting increased variable annuity sales, offset by decreased fixed annuity sales. The relative proportion between fixed and variable annuity sales is generally driven by the relative performance of the equity and fixed income markets. In times of lackluster performance in equity markets, fixed sales are generally stronger. In times of superior performance in equity markets, variable sales are generally stronger. The relative proportion between fixed and variable annuity sales is also influenced by product design and other factors.
The IDS Life Companies' earnings from fixed annuities are based upon the spread between the interest crediting rate on our fixed annuity contracts and the returns earned on investment of premiums and deposits in the IDS Life Companies' general accounts. Variable annuities provide us with fee-based revenue in the form of mortality and expense charges, and fees charged for optional features elected by the contract owner and other contract charges. We also receive fees charged on assets allocated to our separate accounts to cover administrative costs, as well as a portion of the management fees from the underlying investment accounts in which assets are invested, as discussed below under "Variable Annuities." Investment management performance is critical to the profitability of our annuity business.
Variable and fixed annuities issued by IDS Life and its subsidiaries may be deferred, where assets accumulate until the contract is surrendered, the contract owner dies, or the contract owner begins receiving benefits under an annuity payout option; or immediate, where payments begin within one year of issue and continue for life or for a fixed period of time.
A discussion of certain insurance-related aspects of the annuity products we provide, including a discussion of deferred acquisition costs and our insurance company ratings, is included under the "Insurance" section below.
Variable Annuities. A variable annuity provides a contract owner with investment returns linked to underlying investment accounts of the contract owner's choice. These investment options may include the VP Funds discussed above as well as non-proprietary funds. Variable annuity products also offer a fixed account investment option with guaranteed minimum interest crediting rates ranging from 0% to 4% at December 31, 2004.
Contract owners can also choose among various contract provisions, including guaranteed minimum death benefit ("GMDB") and guaranteed minimum income benefit ("GMIB") riders. The GMDB rider protects contract beneficiaries from a drop in death benefits due to performance of the underlying subaccounts. The GMIB rider guarantees, after a certain waiting period from contract issuance, minimum annuity payments based on a specified rate of contract accumulation value growth and predetermined annuity purchase rates. The general account assets of the IDS Life Companies support the obligations under the GMDB and GMIB riders (see "Institutional Products and Services - IDS Life Companies General Accounts" section
below). As a result, the IDS Life Companies bear the risk that protracted under-performance of the financial markets could result in GMDBs and GMIBs being higher than what current account values would support. The IDS Life Companies' exposure to risk from GMDBs and GMIBs generally will increase when equity markets decline.
Fixed Annuities. The IDS Life Companies' fixed annuity products provide cash value that increases by a fixed interest rate. The rate is periodically reset at the discretion of the IDS Life Companies subject to certain policy terms relative to minimum interest crediting rates. The IDS Life Companies reset interest rates based on a number of factors, including interest rate scenario models and risk/return measures. The annuity contracts issued by the IDS Life Companies provide guaranteed minimum interest crediting rates ranging from 1.5% to 5% at December 31, 2004. In 2003 and in response to a declining interest rate environment, several states adopted an interim regulation allowing for a guaranteed minimum interest crediting rate of 1.5% and/or a model regulation providing for a guaranteed rate that was indexed. A number of states now follow the model regulation. In response, the IDS Life Companies filed a number of contract changes in 2003 and 2004 to begin taking advantage of lower minimum guarantees. The IDS Life Companies will continue to implement contract changes as states adopt the new model regulation or as the interim regulation sunsets.
Liabilities and Reserves. The IDS Life Companies must maintain adequate financial reserves to cover the risks associated with GMDB, GMIB and certain other riders they offer. Generally, reserves represent estimated assets that the IDS Life Companies need to provide adequately for future benefits and expenses. Actual experience may differ from the IDS Life Companies' estimates. You can find a discussion of liabilities and reserves related to our annuity products in Note 1 to the Company's consolidated financial statements under "Insurance and Annuity Reserves" on pages 89-90 of our 2004 Annual Report to Shareholders, which portion of such report is incorporated herein by reference.
Face-Amount Certificates
American Express Certificate Company ("AECC"), a wholly owned subsidiary of AEFC, issues face-amount certificates and similar products. AECC is registered as an investment company under the Investment Company Act of 1940. AECC currently issues nine different types of certificate products. Owners of AECC certificates invest funds with AECC and are entitled to receive, at maturity or the end of a stated term, a determinable amount of money equal to their aggregate investments in the certificate plus interest at rates declared from time to time by AECC, less any withdrawals and early withdrawal penalties. For three types of certificate products, the rate of interest is calculated in whole or in part based on any upward movement in a broad-based stock market index up to a variable maximum return.
We believe that AECC is the largest issuer of face-amount certificates in the United States. At December 31, 2004, it had approximately $6 billion in assets. AECC's earnings are based upon the spread between the interest rates credited to certificate holders and the interest earned on the certificate assets invested by AECC. A portion of these earnings are used to compensate the various affiliated and unaffiliated entities that provide management, administrative and other services to AECC. AECC's certificates compete with many other
investments offered by banks, savings and loan associations, credit unions, mutual funds, insurance companies and similar financial institutions, which may be viewed by potential customers as offering a comparable or superior combination of safety and return on investment. In times of weak performance in the equity markets, certificate sales are generally stronger. AEFAI serves as the distributor of face-amount certificates issued by AECC.
AEFC also operates a joint venture called American Express International Deposit Company ("AEIDC") in the Cayman Islands with its affiliate, AEB. AEIDC offers deposits similar to face-amount certificates in U.S. dollar, Euro, pound sterling and Australian dollar denominations.
Financial Planning Services
AEFA's financial planning services assist clients in meeting important financial goals, like retirement, education and home buying. The financial planning process generally begins with gathering client data, including goals. The financial advisors provide clients with a written analysis based on the clients' personal goals and needs. Based on the written advice, our financial advisors work with their clients to identify suitable proprietary and non-proprietary products and services to help them meet their needs and achieve their financial goals.
In providing our financial planning services, we are guided by the "Principles for Financial Planning," issued by the Certified Financial Planner Board of Standards, Inc. Clients pay fees to us for financial planning services based upon the services they select and the complexity of their financial situation. We charge clients a flat fee, an hourly rate or a combination of the two. The fee is not based on, or related to, the performance of a client's funds or assets. Depending on what is appropriate for their situation, clients may select a limited engagement period or may elect to receive ongoing financial planning services from their financial advisor. Financial planning clients are under no obligation to purchase products from AEFA in order to implement the recommendations in their financial plan, but if they choose to implement with us, AEFA and our financial advisors generally receive a sales commission for the investment, insurance and other financial products that clients purchase, which is separate from and in addition to the fee they receive for the provision of financial planning advice.
We achieved record financial planning sales and fee revenue in 2004. Plan sales increased by 14% and fees from financial planning relationships increased by 15% over 2003. During 2004, just over 52% of our new retail clients had a financial plan developed for them by one of our financial advisors, up slightly from 51% in 2003. Historically, we have found that financial planning clients tend to have deeper and longer-term relationships with us. Product sales generated through financial planning services were 75% of total advisor sales in 2003 and 2004. As of December 31, 2004, we had over one million current clients with a financial plan, an increase of 3% over 2003.
We continue to invest in the development of tools and training for our financial advisors to further strengthen their ability to offer sound advice and ongoing financial planning services. In late 2002, we contracted with Morningstar Associates, LLC to provide investment advice tools that serve both retail and workplace markets. As a complement to our own proprietary
suite of financial planning tools, we rolled-out Morningstar(R) Advisor Workstation(SM) (which includes the proprietary American Express Lifetime Optimizer(SM)) to all advisors in 2004. This tool further enables our advisors to meet the ongoing financial and investment planning needs of clients, especially the needs of more affluent clients.
We believe that our focus on financial planning and advice, coupled with an ability to provide broad-based products and services on a relationship basis, is a competitive advantage. We believe this business model is more relevant today than in the past as a result of the significant market volatility experienced during the past few years, the increased number and types of products available to investors, increased consumer focus on preparing for retirement, and the increased complexity of the financial markets.
Brokerage Services and Other Products
Our online brokerage business, American Express Brokerage, allows clients to purchase and sell securities online, obtain independent research and information about a wide variety of securities, use self-directed asset allocation and financial planning tools, contact a financial advisor, as well as have access to proprietary and non-proprietary mutual funds, among other services.
Our American Express One(R) Financial Account is an integrated financial management account that combines a client's investment, banking and lending relationships into a single account. The American Express One Financial Account enables clients to access a single cash account to fund a variety of financial transactions, including investments in mutual funds and other securities. Additional features of the American Express One Financial Account include unlimited check writing with overdraft protection, an American Express Gold or Platinum Card (subject to certain eligibility requirements), online bill payments, ATM access and a high-yield savings account. We also offer an incentive program that pays Membership Rewards(R) program Bonus Points and American Express Gift Cheques to persons opening and funding an American Express One Financial Account who also take additional steps to transfer funds into the account on an ongoing basis through direct deposit or bank authorization.
We also offer Financial Accounts data aggregation service to clients, which is an online capability that enables clients to view and manage their entire American Express relationship (i.e., brokerage, Card, 401(k), banking, financial advisor) in one place via the Internet. The Financial Accounts service also allows clients to add third party account information, providing a consolidated view of their financial services account relationships.
Our financial advisors may also sell real estate investment trusts ("REITs") issued by other companies. We believe that we are one of the largest distributors of privately-issued REITs in the United States. In addition, we service, but do not sell, managed futures limited partnerships in which an AEFC subsidiary is a co-general partner. These products subject AEFAI and its co-general partner subsidiary to regulation by the Commodity Futures Trading Commission ("CFTC").
American Enterprise Investment Services Inc. ("AEIS"), a wholly owned subsidiary of AEFC, provides securities execution and clearance services for our retail and institutional clients. As of December 31, 2004, our AEIS subsidiary administered or otherwise held over $80 billion in assets for clients, an increase of over $18 billion from December 31, 2003.
Personal Trust
AEFAI is the primary distribution channel for Personal Trust Services ("PTS"), a division of American Express Bank, FSB ("AEBFSB"), which provides personal trust, custodial, agency and investment management services to individual clients. AEBFSB is a federal savings bank regulated and supervised by the Office of Thrift Supervision (the "OTS"). It is also registered with the SEC as an investment adviser. As discussed earlier in the TRS section of this report, AEBFSB and certain of its affiliates also offer certain credit, charge and consumer lending products, small business loans, mortgages and mortgage-related products and operate a transactional Internet site. You can find additional information regarding AEBFSB under "Consumer Card, Small Business and Consumer Travel Services."
RETAIL DISTRIBUTION
Financial Advisors
AEFA's investment products and services are provided to retail clients primarily through our network of financial advisors. Our financial advisors work with retail clients to develop strong relationships and long-term financial strategies. As registered representatives of AEFAI, our financial advisors also provide clients access to the broad array of investment products and services discussed above, as well as a variety of insurance products, including life insurance, disability income insurance, long term care insurance, and property and casualty insurance described under "Insurance" below. AEFA also operates a non-American Express-branded independent platform, Securities America, Inc. ("SAI"), a broker-dealer owned by AEFC. SAI distributes mutual funds, annuities and insurance products, in addition to providing securities brokerage services to its clients.
At December 31, 2004, we maintained a nationwide sales force of over 12,300 financial advisors, including over 10,700 affiliated with AEFAI and over 1,600 affiliated with SAI, which represented a 1.8% increase over 2003. Our financial advisors served more than 2.7 million clients throughout the United States at December 31, 2004, compared to more than 2.5 million clients at the end of 2003.
AEFAI's organizational structure consists of two options for branded advisors to affiliate with the organization. Each affiliation offers separate levels of support and compensation.
- Employee Advisors. The employee financial advisor affiliation provides compensation to the advisor, an American Express employee, as a draw against commissions. Our employee advisors receive a higher level of support in exchange for a lower payout rate.
- American Express-Branded Franchisee Advisors And Associate Advisors. In our branded franchisee advisor affiliation, advisors are independent contractor franchisees affiliated with AEFAI, who have the right to associate themselves with the American
Express brand. Franchisee advisors earn a higher payout rate, but pay their own business expenses, such as real estate and staff, including any associate advisors employed by the franchisee.
Approximately 26% of AEFAI's financial advisors are American Express employees; approximately 61% are American Express-branded franchisees; and approximately 13% are associate advisors. AEFAI pays a significant portion of the revenue received in the form of financial planning fees, wrap account fees, sales charges and 12b-1 distribution fees to advisors for their role in serving clients. The rate of commission AEFAI pays to each advisor is determined by a schedule that takes into account the type of service provided or product sold, the type of advisor affiliation and other criteria.
During 2004, we continued to focus on improving our recruitment, selection and training of employee advisors, which has resulted in improved retention of first-year advisors. We also improved the service and tools provided to franchisee advisors. In addition, we continued efforts to increase our dedicated field force to further enhance our ability to attract and serve new clients and compete effectively with the large sales forces of certain competitors. As noted above, we did realize a net increase in the field force in 2004.
AEFA's strategy focuses on building relationships with high-value clients in the mass affluent segment -- individuals with $100,000 to $1 million in investable assets. In May 2004, we began the nationwide rollout of American Express Gold Financial Services to offer personalized solutions to recognize and reward our clients with more than $100,000 invested with us. Clients with over $500,000 invested with us may qualify for Platinum Financial Services, offered by a subset of specially qualified financial advisors who are trained to provide guidance on these clients' special financial needs. Clients must meet detailed eligibility and maintenance rules to qualify for and retain Gold or Platinum status. These tiered offerings provide a one-on-one relationship with one of our financial advisors, front-of-the-line customer service, annual fee waiver on IRA rollovers, quarterly fee waiver on the American Express ONE(R) Financial Account, upgrade to the highest tier interest rate on the ONE High-Yield Savings Account and preferred pricing and bonus rates on special product offers, subject to the terms of those offers. Financial planning services are available for a separate fee as described above under "Retail Products and Services - Financial Planning Services." In addition, Gold and Platinum Financial Services clients receive a fee-waived American Express Preferred Rewards Gold or Platinum Card(SM), respectively, with access to all the privileges and services that Card membership provides.
Alliances
An important aspect of AEFA's strategy is to leverage the client relationships of our other businesses by working with major companies to create alliances that help generate new financial services clients for us. In 2004, we continued our relationship with Costco Wholesale Corporation ("Costco") and Delta Loyalty Management Services, Inc. ("Delta") in 2004 and
created new alliances with American Century Services Corporation ("American Century"), Target Corporation ("Target") and Marriott Ownership Resorts, Inc. ("Marriott"). The relationship with Costco offers advisors an opportunity to market financial planning and advice services to millions of Costco members through various marketing channels. The Delta marketing alliance provides us with the opportunity to market financial planning and advice services to the millions of consumers who have a relationship with Delta Air Lines through its Delta SkyMiles(R) program, including those consumers who already carry the cobranded American Express/Delta SkyMiles credit card. In April 2004, we entered into a new marketing alliance with American Century. This alliance provides us with the opportunity to market our financial planning and advice services to shareholders of American Century's proprietary mutual fund family. In May 2004, we established a relationship with Target that provides us with an opportunity to market our financial planning and advice services to Target customers. Under our agreement with Marriott, which was entered into in November 2004, our advisors conduct financial education sessions at vacation ownership properties marketed by Marriott under its Marriott Vacation Club International label.
Financial Services Center
In 2004, we established the Financial Services Center, a special call center for remote-based sales and service. The Financial Services Center provides client services for those retail customers who do not have access to or do not need a face-to-face relationship with an advisor. Financial consultants in the Financial Services Center provide personal service and guidance through phone-based interactions and may provide product choices in the context of the clients' needs and objectives.
INSTITUTIONAL PRODUCTS AND SERVICES
Separately Managed Accounts
AEAMG provides investment management services to pension, profit-sharing, employee savings and endowment funds, the accounts of large- and medium-sized businesses and governmental clients, as well as the accounts of high-net-worth individuals and smaller institutional clients, including tax-exempt and not-for-profit organizations. The management services AEAMG offers include the investment of funds on a discretionary or non-discretionary basis, and related services including trading, cash management and reporting. AEAMG and other AEFC affiliates share certain portfolio management and trading personnel across entities.
AEAMG offers various fixed and equity investment strategies for institutional separate account management and advice. Through a subadvisory arrangement with TINTL and Kenwood, AEAMG also offers certain international and U.S. equity strategies.
At December 31, 2004, AEAMG, either directly or through its affiliates, managed institutional separate account assets on behalf of clients (including assets managed or administered on behalf of the Company and its affiliates) of $6.8 billion compared to $9.9 billion at December 31, 2003.
For its investment management services, AEAMG generally receives fees based on the market value of assets under management. Clients may also pay fees to AEAMG based on the performance of their portfolio.
IDS Life Companies General Accounts
AEFC and certain of its affiliates provide investment management services for assets held in the "general accounts" of the IDS Life Companies. The general account assets are managed according to a fixed-income strategy designed to provide for a consolidated and targeted rate of return on investments while controlling risk. At December 31, 2004, AEFC managed general account assets on behalf of IDS Life and its subsidiaries of approximately $32 billion, which was unchanged from the end of 2003.
To guide AEFC in its management of the general account assets, and in accordance with regulatory investment guidelines, the IDS Life Companies, through their respective Boards of Directors' investment committees or staff functions, review models projecting different interest rate scenarios, risk/return measures, and their effect on profitability. They also review the distribution of assets in the portfolio by type and credit risk sector. The objective is to structure the investment security portfolio in the general accounts to meet contractual obligations under our insurance and annuity products and achieve targeted levels of profitability within defined risk parameters.
Hedge Funds
AEAMG and AEAMI provide investment advice and related services to private, pooled investment vehicles organized as limited partnerships, limited liability corporations or foreign (non-U.S.) entities. These funds are exempt from U.S. fund registration under the Investment Company Act of 1940 and are organized as either domestic or foreign funds. AEFC affiliates also serve as investment advisers to several separately managed accounts that offer a hedge fund investment option. AEFC also provides investment advice and related services to an SEC-registered closed-end, non-diversified management company that is a fund of hedge funds.
In 2004, we strategically aligned our funds to better meet the needs of the marketplace by adding four new fund strategies, including increasing our offering of opportunistic funds, and exiting two fund strategies. In February 2004, we announced the creation of a global fund of hedge funds platform that includes funds of hedge funds managed in the United States and Switzerland. This platform is operated by both AEB and AEFA.
At December 31, 2004, AEFC affiliates managed hedge fund assets (including separate account assets with a hedge fund strategy) totaling $2.2 billion. Included in this total is $936 million from funds of hedge fund assets that were migrated to AEAMI from American Express Bank (Cayman).
For their investment management services, AEFC affiliates generally receive fees based on the market value of assets under management. Depending on the fund, AEFC affiliates may also receive performance-based fees.
CDOs/SLTs
AEAMG provides investment management services as collateral manager to special purpose vehicles that issue collateralized debt obligations ("CDOs"), which are securities collateralized by a pool of assets, typically high-yield bonds and bank loans. AEAMG also provides investment management services to secured loan trusts ("SLTs"), which provide returns to investors primarily based on the performance of an underlying portfolio of bank loans. For its management of CDOs and SLTs, AEAMG earns fees based on assets under management and may also receive performance-based fees. In 2004, AEAMG assumed the management of the collateral pool for one new CDO. AEAMG also ceased management of an SLT that was liquidated in 2004.
AEAMG or one or more other AEFC affiliates has invested its own money in CDOs and SLTs, including in residual or "equity" interests, which are illiquid and the most subordinated (and accordingly, riskiest and most volatile) interests in such vehicles. The IDS Life Companies and AEFC also have an interest in a securitization trust discussed below, which is comprised principally of CDO securities. CDOs are illiquid investments. As of December 31, 2004, the carrying value of the CDO residual tranches owned by AEAMG or another AEFA affiliate but not consolidated pursuant to FASB Interpretation No. 46, as revised ("FIN 46") was $27 million.
The IDS Life Companies' and AEFC's investment return on a CDO correlates to the performance of portfolios of high-yield bonds and/or bank loans included in that CDO. Deterioration in the value of high-yield bonds or bank loans would likely result in deterioration of investment return on the relevant CDO. In the event of significant deterioration of a portfolio, the relevant CDO may be subject to early liquidation, which could result in further deterioration of the investment return or, in severe cases, loss of the CDO carrying amount. Deterioration of a portfolio would likely have a negative impact on collateral management fees.
During 2001, the IDS Life Companies and AEFC placed a majority of their rated CDOs and related accrued interest, as well as a relatively minor amount of other liquid securities, having an aggregate book value at such time of $905 million, into a securitization trust. In return, IDS Life Companies and AEFC combined received a total of $120 million in cash (excluding transaction expenses) relating to sales to unaffiliated investors and retained interests in the trust with allocated book amounts aggregating $785 million. As of December 31, 2004, the retained interests had a carrying value of $705 million, of which $523 million is considered investment grade. Neither the Company nor any of its AEFA subsidiaries have any obligations, contingent or otherwise, to the unaffiliated investors to whom interests in the trust were sold, nor do they provide management services to the trust.
Collective Funds
American Express Trust Company ("AETC"), a wholly owned subsidiary of AEFC, is a Minnesota chartered, limited service trust company that provides investment management services to collective investment funds and also provides the services described under "Additional Services -- Retirement Services" below. Collective funds are non-SEC registered investment funds offered primarily through banks and other financial institutions to institutional clients such as retirement, pension and profit sharing plans. In
some situations, AETC may utilize the assistance of an affiliated or unaffiliated investment adviser in managing a particular collective fund. At December 31, 2004, AETC served as investment manager to 47 collective funds covering a broad spectrum of investment strategies. For its investment management services, AETC receives fees that are generally based upon a percentage of the market value of assets under management. AETC clients typically do not pay investment management fees to AETC based on the performance of their portfolio. At December 31, 2004, AETC had $12.1 billion in collective fund assets under management compared to $12.6 billion at the end of 2003.
INTERNATIONAL PRODUCTS AND SERVICES - THREADNEEDLE
We also offer international investment management services through our U.K.-based Threadneedle subsidiary. The Threadneedle group of companies consists of wholly owned subsidiaries of AEFC that provide investment management services independent from other AEFC affiliates. Threadneedle offers a full range of asset management services, including segregated asset management, mutual funds and hedge funds, to institutional clients and to intermediaries, banks and fund platforms primarily in the United Kingdom, Germany, Austria and elsewhere in Europe. These services comprise most asset classes, including equities, fixed income, cash and real estate.
Through its TINTL subsidiary, Threadneedle also offers investment management services to U.S. investment companies and other U.S. institutional clients, including certain AXP Funds and VP Funds.
The acquisition of Threadneedle by AEFC in September 2003 has helped facilitate consolidation of our international asset management activities in the United Kingdom. Threadneedle has benefited from growth in assets under management both through new client business and organic market growth of existing funds.
Threadneedle is headquartered in London and has a branch office in Germany, and representative offices in Austria, France and Switzerland. Threadneedle has approximately 785 employees.
Threadneedle's distribution is organized along three lines: retail, institutional and strategic alliances.
Retail. The retail business line includes Threadneedle's U.K. mutual fund family, which ranks as the third largest retail fund complex in the United Kingdom in terms of retail assets under management. Threadneedle sells mutual funds mostly in the United Kingdom and Germany through financial intermediaries and institutions. The retail business unit also includes Threadneedle's hedge funds comprising three long/short equity funds and one fixed income fund.
Institutional. Threadneedle's institutional business offers traditional segregated asset management to U.K. and international pension funds and other institutions as well as offering
mutual fund and insurance-based products to pension clients. Threadneedle experienced growth in the management of assets for U.K. institutions during 2004.
Strategic Alliances. Threadneedle's strategic alliances business comprises the asset management activities undertaken by Threadneedle for The Zurich Group, and for American Express companies and certain other clients. The Zurich Group is Threadneedle's single largest client. Threadneedle manages assets for The Zurich Group for both its U.K. and international life funds and for its general insurance assets, as well as offering Threadneedle managed funds through Zurich's sales distribution channels. Under the terms of the agreement AEFC entered into with The Zurich Group when AEFC acquired Threadneedle, Threadneedle will continue to manage certain assets of Zurich Financial Services U.K., which includes a majority of Threadneedle assets under management, subject to its meeting standard performance criteria. There are under seven years remaining under this agreement.
Threadneedle also has a controlling interest in an institutional multi-manager business (MM Asset Management, formerly known as Attica Asset Management) with $1.1 billion under management. This business manages two Dublin-based institutional fund-of-funds that are sold to smaller pension fund clients in the United Kingdom through consulting actuary firms. Threadneedle intends to support the continued growth of this business in the institutional and multi-manager markets in the United Kingdom.
Threadneedle expects to develop additional hedge funds and other products for both the retail and institutional markets as well as to continue its efforts to attract new retail and institutional clients. In 2004, Threadneedle was the first group to launch U.K.-domiciled mutual funds with true performance fees in its new Accelerando funds and introduced its first fund of hedge funds aimed primarily at the German retail market.
At December 31, 2004, the Threadneedle group of companies managed $116.9 billion in the aggregate compared to $95.6 billion at the end of 2003.
ADDITIONAL SERVICES
Retirement Services
In addition to the investment management services it provides on collective investment fund assets, described above, AETC, often through the American Express Retirement Services ("AERS") banner, also provides trustee, custodial, recordkeeping, securities lending and common trust fund services for employer-sponsored retirement plans, including pension, profit sharing, 401(k) and other qualified and non-qualified employee retirement plans. The primary market is for retirement plans with at least $10 million in assets. These retirement plans are generally sponsored by mid- and large-size private employers, governmental entities and labor unions. Additional services are provided to employer-sponsored retirement plans by affiliates of AETC. Some additional services include providing a wide array of proprietary and non-proprietary mutual fund investment options, participant education offerings and both telephone and Internet-based plan servicing. Through its trustee and custodial services, AETC may enter into agreements to provide services to qualified employer-sponsored retirement plans holding employer stock.
In 2004, we introduced a retirement plan product called "NEXTPlan" aimed at retirement plans with between $5 and $50 million in assets. The NEXTPlan product is introduced to plan sponsors by the AERS direct sales force, unaffiliated broker-dealers, and American Express financial advisors. Plan administration and recordkeeping services under NEXTPlan are outsourced to a third-party recordkeeper.
At December 31, 2004, AETC acted as directed trustee or custodian of 263 benefit plans, which represented approximately $31.4 billion in assets managed or administered (including approximately $5.2 billion of assets managed or administered on behalf of the Company), and approximately 900,000 participants.
In addition to the services described above, AETC also acts as custodian, and AEFAI acts as broker, for Individual Retirement Accounts, Tax-Sheltered Custodial Accounts and other retirement plans for individuals and small and mid-sized businesses. As of December 31, 2004, these tax-qualified assets equaled $81.8 billion, which is approximately 19% of total institutional and retail assets owned, managed and administered by AEFA.
AETC also provides institutional asset custodial services to AEFC affiliates providing mutual funds, face-amount certificates, asset management and life insurance. As of December 31, 2004, AETC's institutional assets under custody were approximately $111.3 billion. AETC receives fees for its custody services that are generally based upon a percentage of the market value of assets under management. AETC also receives transaction-related fees for its institutional custody services.
Financial Education and Planning Services
AEFA's Financial Education and Planning Services ("FEPS") group provides workplace financial education and advisory services programs to the 401(k) client base of AERS and AETC and to other major corporations and small businesses. FEPS focuses on the goal of creating advisor relationships with individual employees of client companies. It trains and supports advisors working on-site at company locations to present educational seminars, conduct one-on-one meetings and participate in client educational events. In 2004, we expanded our on-site activities with 401(k) clients and increased sales of financial education relationships to companies that do not have a 401(k) relationship with AERS.
We also provide financial advice service offerings, such as FEPS Executive Financial Services, tailored to discrete employee segments. The growth and success of FEPS is consistent with industry research and our belief that marketplace demand for employee financial education is expected to remain high, particularly given the continuing trend toward increased employee responsibility for selecting retirement investments. As this service need grows, so too does the number of competitors seeking to provide employee education and planning services.
Competition - Asset Accumulation And Investments
Competition in the financial services industry focuses primarily on cost, investment performance, yield, depth and breadth of products, convenience, service, reliability, safety,
innovation, distribution systems, reputation, brand recognition, and insurance company ratings. Reputation and brand integrity are becoming increasingly more important as the mutual fund industry generally and certain firms in particular have come under regulatory and media scrutiny. See "Regulation - Asset Accumulation and Investments" below. Competition in this industry is very intense. AEFA competes with a variety of financial institutions such as banks, securities brokers, mutual funds and insurance companies. Some of these institutions are larger, have greater resources and have a greater global presence than AEFA. Many of these financial institutions also have products and services that increasingly cross over the traditional lines that previously distinguished one type of institution from another, thereby heightening competition for AEFA. The ability of certain financial institutions to offer online investment and information services has also affected the competitive landscape over the past few years.
Following are competitive factors related to specific products and services provided through our asset accumulation and investments business:
Asset Management. AEFA competes against a substantial number of larger firms to acquire and maintain assets under management. Competitive factors in the asset management business include:
- the quality, reputation and "track record" of portfolio managers;
- relative and absolute investment performance;
- global capabilities;
- the range of investment strategies offered;
- the ability to effectively market investment management services;
- the quality and timeliness of client service; and
- fee arrangements.
AEFA also faces intense competition in attracting and retaining qualified employees. Our ability to continue to compete effectively depends upon our ability to attract and retain skilled and high performing investment professionals and non-investment professionals who play a critical role in the administration of our asset management business.
Mutual Funds. The AXP Funds face competition from non-proprietary funds, including funds that have no sales charge ("no-load" funds), funds distributed through independent brokerage firms and exchange traded funds. Mutual funds also face competition from an increasing number of alternative investment products. The competitive factors affecting the sale of mutual funds include the following:
- relative and absolute investment performance;
- the variety of products and services offered;
- sales charges paid;
- administrative expenses;
- the quality of customer service;
- the ability to attract and retain a network of third-party distributors;
- convenience to the investor;
- the effectiveness of advertising and promotional campaigns; and
- general market conditions.
Additionally, for mutual funds, high ratings from rating services, such as Morningstar and Lipper, or favorable mention in financial publications may influence sales and lead to increases in assets under management. As a mutual fund's assets increase, management fee revenue increases and the fund may achieve economies of scale that make it more attractive to investors because of potential resulting reductions in the fund's expense ratio.
Annuities. The IDS Life Companies' annuity business competes with numerous other insurance companies, as well as certain banks, securities brokerage firms, independent financial advisors and other financial intermediaries that market annuities, mutual funds and other retirement-oriented products. Competitive factors affecting the sale of annuities include:
- mortality, expense and other contract charges;
- investment performance;
- financial strength ratings from rating agencies such as A.M. Best;
- the breadth, quality and design of products and services offered;
- the effectiveness of advertising and promotional campaigns;
- reputation and recognition in the marketplace;
- distribution capabilities and compensation;
- the level of interest crediting rates; and
- the quality of customer service.
With respect to variable annuities, customers also focus on guaranteed payment features that help to insulate them from equity market risk.
Retail Distribution. Our AEFAI subsidiary competes with financial planning firms, insurance companies, securities broker-dealers and other financial institutions in attracting and retaining members of the field force.
Retirement Services. The retirement services business is highly competitive. AERS competes against a substantial number of larger firms in seeking to acquire and maintain assets under management. Competitive factors in this business include fees, recordkeeping and technological capabilities, investment performance and client servicing.
Regulation - Asset Accumulation and Investments
AEFA's asset accumulation and investments business is regulated by the SEC, NASD, the Commodity Futures Trading Commission, the National Futures Association, state securities regulators and state insurance regulators. Certain aspects of AEFA's retirement services business are regulated by the U.S. Department of Labor ("DOL") and the U.S. Department of Treasury ("Treasury"). As has the rest of the financial services industry, AEFA has experienced, and believes it will continue to be subject to, increased regulatory oversight of the securities and commodities industries at all levels. During the past year, mutual funds and investment advisers were required by the SEC to adopt and implement written policies and procedures designed to
prevent violation of the federal securities laws and to designate a chief compliance officer responsible for administering these policies and procedures. The SEC and NASD have also heightened requirements for and continued scrutiny of the effectiveness of supervisory procedures and compliance programs of broker-dealers, including certification by senior officers regarding the effectiveness of these procedures and programs. The SEC and NASD recently adopted regulatory requirements regarding revenue sharing, market timing, increased disclosures of breakpoint discounts in mutual fund prospectuses and an investment adviser code of ethics. Because these new regulatory requirements have been either recently implemented or adopted, there is uncertainty over how these new requirements will ultimately impact AEFA's business, including the extent to which increased technology expenditures may be necessary to comply with such requirements. In addition, the SEC and NASD proposed revisions to rules on trading and market structure for broker-dealers, suitability requirements for variable annuity sales, as well as increased transaction disclosure information on customer confirmations. While there is a significant amount of uncertainty as to what legislative and regulatory initiatives may ultimately be adopted, these initiatives could affect industry participants' results, including AEFA's, in future periods.
AEFAI does business as a broker-dealer and investment adviser in all 50 states and the District of Columbia. AEFAI is registered as a broker-dealer and investment advisor regulated by the SEC and is a member of the NASD. AEFAI's financial advisors must obtain all required state and NASD licenses and registrations. AEIS is also registered as a broker-dealer with the SEC, is a member of the NASD and the Chicago Stock Exchange and is registered with appropriate states.
AEFC and certain subsidiaries also do business as registered investment advisers and are regulated by the SEC and state securities regulators where required. The IDS Life Companies are subject to regulation by state insurance regulators as described under "Insurance - Regulation of Insurance." IDS Life is also registered as a broker-dealer with the SEC and is a member of the NASD.
AETC is primarily regulated by the Minnesota Department of Commerce (Banking Division) and is subject to net capital requirements under Minnesota law. AETC may not accept deposits or make personal or commercial loans. As a provider of products and services to tax-qualified retirement plans and IRAs, certain aspects of AEFA's business, including the activities of AETC, fall within the compliance oversight of the DOL and the Treasury, particularly the Employee Retirement Income Security Act of 1974 ("ERISA") and the tax reporting requirements applicable to such accounts.
Compliance with these and other regulatory requirements adds to the cost and complexity of operating AEFA's business. In addition, the SEC, DOL, Treasury, self-regulatory organizations and state securities and insurance regulators may conduct periodic examinations and administrative proceedings, which may result in censure, fine, the issuance of cease-and-desist orders or suspension or expulsion of a broker-dealer or an investment adviser and its officers or employees. Individual investors also can bring complaints against AEFA. Because AEFA is structured as a franchise system, it is also subject to Federal Trade Commission and state franchise requirements.
As has been widely reported, the SEC, the NASD and several state attorneys general have brought numerous enforcement proceedings challenging several mutual fund industry practices, including late trading (allowing mutual fund customers to receive 4:00 PM ET prices for orders placed or confirmed after 4:00 PM ET), market timing (abusive rapid trading in mutual fund shares), disclosure of revenue sharing arrangements (payments by fund advisers or companies to brokerage firms who agree to sell those funds), and inappropriate sales of (no front end load) Class B shares. AEFA has received requests for information and has been contacted by regulatory authorities concerning its practices and is cooperating fully with these inquiries. In May 2004, AEFAI received notification from the NASD indicating that it had made a preliminary determination to recommend enforcement action against AEFAI for potential violations of the federal securities laws and the rules and regulations of the SEC and the NASD. The NASD's allegations relate to AEFAI's revenue sharing arrangements described under "Retail Products and Services -- Non-Proprietary Mutual Funds" above. In February 2005, the New Hampshire Bureau of Securities Regulation filed a petition alleging that AEFAI failed to disclose revenue sharing and directed brokerage payments, incentives for advisors to sell proprietary products and other alleged conflicts of interest. AEFAI also has settled an NASD enforcement action regarding mutual fund breakpoints (discounts from sales charges on mutual fund purchases). You can read more about these issues in the "Legal Proceedings" section.
A description of the insurance-related regulation of AEFA's annuities business can be found under "Regulation - Insurance" below.
INSURANCE
IDS Life and IDS Property Casualty, and their respective subsidiaries, collectively, are the issuers of a variety of insurance products, including life insurance, disability income insurance, long term care insurance, and property and casualty insurance. IDS Life and its subsidiaries are also the issuers of the annuity products described under "Asset Accumulation and Investments - Retail Products and Services - Annuities." The insurance products we provide are important products to AEFA's overall business. Approximately 24% of AEFA's revenues and 30% of AEFA's pre-tax income in 2004 were attributable to the insurance business. AEFA's insurance businesses generate income from the spread between the IDS Life Companies' earnings on the investment of general account assets and the interest rates credited to contract owners fixed accounts, and from fees and charges under the policies it issues, including management fees and the cost of insurance.
IDS Life Companies
IDS Life and its subsidiaries are the issuers of variable life insurance, universal life insurance, traditional life insurance, including whole life and term life, disability income insurance and long term care insurance. A wholly owned subsidiary of AEFC, IDS Life is a stock life insurance company organized under Minnesota law. IDS Life has four wholly owned subsidiaries: IDS Life Insurance Company of New York, a New York stock life insurance company ("IDS Life of New York"); American Partners Life Insurance Company, an Arizona
stock life insurance company ("American Partners Life"); American Enterprise Life, an Indiana stock life insurance company; and American Centurion Life, a New York stock life insurance company. For convenience, we refer to IDS Life and its four insurance company subsidiaries as the "IDS Life Companies" and individually as an "IDS Life Company."
- IDS LIFE issues insurance and annuity products to residents of the District of Columbia and all states except New York.
- IDS LIFE OF NEW YORK issues insurance and annuity products to New York residents.
- AMERICAN PARTNERS LIFE issues its annuity products directly to consumers, generally persons holding an American Express Card, outside New York.
- AMERICAN CENTURION LIFE issues fixed and variable annuity contracts to New York residents primarily through financial institutions and independent broker-dealers, and also markets directly to persons generally holding an American Express Card.
- AMERICAN ENTERPRISE LIFE issues fixed and variable annuity contracts primarily through regional and national financial institutions and regional and/or independent broker-dealers, in all states except New York.
Insurance Products and Features
The IDS Life Companies issue a wide range of insurance products, each described below. IDS Life's sales of individual life insurance in 2004, as measured by scheduled annual premiums and excluding lump sum and excess premiums, consisted of 87% variable life, 43% universal life and 10% term and whole life, based on year-end cash sales reports. The IDS Life Companies issue only non-participating policies, which do not pay dividends to policyholders from the insurer's earnings.
Assets supporting policy values associated with fixed account life insurance products, as well as those assets associated with fixed account investment options under variable insurance products (collectively, the "fixed accounts"), are part of the IDS Life Companies' general accounts. Under fixed accounts each IDS Life Company bears the investment risk. More information on the IDS Life Companies general accounts is found in the "Institutional Products and Services - IDS Life Companies General Accounts" section under "Asset Accumulation and Investments" above.
Variable Life Insurance. IDS Life's and IDS Life of New York's biggest selling life insurance products are variable life insurance policies. Variable life insurance provides life insurance coverage along with investment returns linked to underlying investment accounts of the policyholder's choice, options which may include the VP Funds discussed above as well as non-proprietary funds. These products also offer a fixed account investment option with guaranteed minimum interest crediting rates ranging from 4.0% to 4.5% at December 31, 2004. For the year ended December 31, 2004, IDS Life ranked second in variable life insurance sales on the basis of premiums, according to the Value Survey provided by Tillinghast, a consulting firm that provides research, consulting and other services to insurance and financial services companies worldwide.
Universal Life Insurance. IDS Life's and IDS Life of New York's universal life insurance products provide life insurance coverage and cash value that increases by a fixed interest rate. The rate is periodically reset at the discretion of the issuing company subject to certain policy terms relative to minimum interest crediting rates. Policies provide guaranteed minimum interest crediting rates ranging from 4% to 5% at December 31, 2004.
Traditional Life Insurance Products. IDS Life's and IDS Life of New York's traditional life insurance products include whole life insurance and term life insurance. Whole life insurance combines a death benefit with a cash value that generally increases gradually in amount over a period of years and does not pay a dividend (non-participating). IDS Life and IDS Life of New York have sold very little traditional whole life insurance in recent years. Term life insurance provides only a death benefit, does not build up cash value and does not pay a dividend. The policyholder chooses the term of coverage with guaranteed premiums at the time of issue. During the chosen term, IDS Life and IDS Life of New York cannot raise premium rates even if claims experience were to deteriorate. At the end of the chosen term, coverage continues with higher premiums until the maximum age is attained, at which point the policy expires with no value.
Disability Income Insurance. IDS Life and IDS Life of New York also issue disability income ("DI") insurance. DI insurance provides monthly benefits to individuals who are unable to earn income at either their occupation at time of disability ("own occupation") or at any suitable occupation ("any occupation"). Depending upon occupational and medical underwriting criteria, applicants for DI insurance can choose "own occupation" and "any occupation" coverage for varying benefit periods up to age 65. Applicants may also choose various benefit riders to help them integrate individual DI insurance benefits with Social Security or similar benefit plans and to help them protect their DI insurance benefits from the risk of inflation. IDS Life believes it has a significant presence in the DI insurance market.
Long-Term Care Insurance. As of December 31, 2002, IDS Life and IDS Life of New York generally discontinued underwriting long-term care ("LTC") insurance. Although new product sales were generally discontinued during the fourth quarter of 2002, IDS Life and IDS Life of New York retained 50% of the risk on existing contracts and ceded the remaining 50% of the risk to General Electric Capital Assurance Company, one of the Genworth Financial insurance companies ("GECA"). In addition, in May 2003, IDS Life and IDS Life of New York began outsourcing claims administration on their existing block of LTC policies to GECA.
In 2004, IDS Life filed for approval to implement rate increases on its existing block of nursing home only indemnity LTC insurance policies. Implementation of these rate increases began in early 2005 and will continue throughout the year as regulatory approvals are obtained.
Our financial advisors now sell only non-proprietary LTC insurance, primarily products offered by GECA. In limited circumstances, advisors may sell LTC products of other unaffiliated insurers.
Distribution of Insurance Products
The IDS Life Companies sell insurance products almost exclusively through AEFA's financial advisors. In turn, our financial advisors offer insurance products issued almost exclusively by the IDS Life Companies, but do offer insurance products of other unaffiliated carriers in limited circumstances. You can find a further discussion of AEFAI's financial advisors in the "Retail Distribution - Financial Advisors" section under "Asset Accumulation and Investments" above.
Liabilities and Reserves
The IDS Life Companies must maintain adequate financial reserves to cover the insurance risks associated with the insurance products they issue. Generally, reserves represent estimated assets that the IDS Life Companies need to provide adequately for future benefits and expenses. You can find a discussion of liabilities and reserves related to our insurance products in Note 1 to the Company's consolidated financial statements under "Insurance and Annuity Reserves" on pages 89-90 of our 2004 Annual Report to Shareholders, which portion of such report is incorporated herein by reference.
Deferred Acquisition Costs
The IDS Life Insurance Companies' deferred acquisition costs ("DAC") represent the costs of acquiring new business, principally direct sales commissions and other distribution and underwriting costs that have been deferred on the sale of insurance and the annuity products described in the "Retail Products and Services - Annuities" section under "Asset Accumulation and Investments" above. These costs are deferred to the extent they are recoverable from future profits. DAC are amortized over periods approximating the lives of the business, principally as a percentage of premiums or estimated gross profits associated with the products.
You can find a complete discussion of DAC on pages 35-36, pages 59-60 and pages 87-88 of our 2004 Annual Report to Shareholders, which portion of such report is incorporated herein by reference.
Reinsurance
IDS Life and IDS Life of New York reinsure a portion of the insurance risks associated with their life and LTC insurance products through reinsurance agreements with unaffiliated insurance companies. Reinsurance is used in order to limit losses, reduce exposure to large risks, provide additional capacity for future growth and to effect business-sharing arrangements. IDS Life and IDS Life of New York evaluate the financial condition of reinsurers to minimize exposure to significant losses from reinsurer insolvencies. IDS Life and IDS Life of New York remain primarily liable as the direct insurers on all risks reinsured.
Generally, IDS Life and IDS Life of New York reinsure 90% of the death benefit liability related to individual variable, universal, and term life insurance products. As a result, IDS Life and IDS Life of New York typically retain, and are at risk for, at most, 10% of each policy's death benefit from the first dollar of coverage for new sales of these policies. IDS Life began reinsuring risks at this level during 2001 for term
life insurance and 2002 for variable and universal life insurance. IDS Life of New York began reinsuring risks at this level during 2002 for term life insurance and 2003 for variable and universal life insurance. Policies issued prior to these dates are not subject to these same reinsurance levels. Generally, the maximum amount of life insurance risk retained by IDS Life and IDS Life of New York is $750,000 on any policy insuring a single life and $1.5 million on any flexible premium survivorship variable life policy. For existing LTC policies, IDS Life (and IDS Life of New York for 1996 and later issues) retained 50% of the risk and ceded the remaining 50% risk to GECA. Risk on variable life and universal life policies is reinsured on a yearly renewable term basis. Risk on recent term life and LTC policies is reinsured on a coinsurance basis, a type of reinsurance in which the reinsurer participates proportionately in all material risks and premiums associated with a policy.
IDS Life and IDS Life of New York retain all risk for claims on disability income contracts. Risk is currently managed by limiting the amount of disability insurance written on any one individual. IDS Life and IDS Life of New York also retain all risk on accidental death benefit claims and waiver of premium provisions.
Ratings
IDS Life receives ratings from independent rating agencies. Generally, its four insurance subsidiaries do not receive an individual rating, but receive the same rating as IDS Life. These agencies evaluate the financial soundness and claims-paying ability of insurance companies based on a number of different factors. The ratings reflect each agency's estimation of the IDS Life Companies' ability to meet their contractual obligations such as making annuity payouts and paying death benefits and other distributions to contract holders, as well as more generally, the IDS Life Companies' financial strength and operating performance. As such, the ratings relate to the IDS Life Companies' general accounts and not to the management or performance of the variable accounts of the contracts.
Ratings are important to maintaining public confidence in the IDS Life
Companies. Lowering of the IDS Life Companies' ratings could have a material
adverse effect on their ability to market their products and could lead to
increased surrenders of their products. Rating agencies continually review the
financial performance and condition of insurers. As of the end of 2004, IDS Life
was rated "A+" (Superior) by A.M. Best Company, Inc. and its claims-paying
ability/financial strength was rated "Aa3" (Excellent) by Moody's Investors
Service, Inc. ("Moody's"), and "AA" (Very Strong) by Fitch. On February 1, 2005,
A.M. Best placed the IDS Life Companies' financial strength rating of A+ under
review with negative implications and Fitch lowered IDS Life Companies'
financial strength rating to "AA-" and placed them on "Rating Watch Negative"
following the Company's announcement that it intends to pursue a spin-off of its
full ownership of AEFC, the holding company for the IDS Life Companies. In
connection with the spin-off, the Company intends to provide additional capital
to AEFA's insurance businesses to confirm its current financial strength
ratings.
Risk-Based Capital
The National Association of Insurance Commissioners ("NAIC") defines Risk-Based Capital ("RBC") requirements for life insurance companies. The RBC requirements are to be used as minimum capital requirements by the NAIC and states to identify companies that merit further regulatory action. At December 31, 2004, IDS Life had total adjusted capital of approximately $2.7 billion on a statutory accounting basis. The Minnesota Department of Commerce, IDS Life's primary insurance regulator, requires insurance companies to maintain a minimum RBC called the "authorized control level." If total adjusted capital fell below the authorized control level, the Minnesota Department of Commerce would be authorized to exercise management control over IDS Life. For IDS Life, the authorized control level RBC was $372.9 million at December 31, 2004.
In addition, IDS Life, like other life insurance companies, is expected to maintain capital above the level at which IDS Life would require it to file an action plan with the Minnesota Department of Commerce. This is referred to as the "company action level." For IDS Life, the company action level RBC was $745.9 million at December 31, 2004.
As described above, the IDS Life Companies maintain levels of RBC in excess of the authorized control and company action levels required by their state insurance regulators.
IDS Property Casualty
IDS Property Casualty and its wholly owned subsidiary, AMEX Assurance Company ("AMEX Assurance") (collectively, the "Property Casualty Companies"), offer auto, homeowners and American Express Card-related insurance products. IDS Property Casualty, a subsidiary of AEFC, is a stock insurance company organized under the laws of Wisconsin. AMEX Assurance is a stock insurance company organized under the laws of Illinois.
The Property Casualty Companies provide personal auto and homeowner's coverage to clients in 37 states and the District of Columbia. AMEX Assurance also provides certain American Express Card-related insurance products such as travel accident insurance. The Property Casualty Companies market their products through alliances with financial institutions, affinity groups, such as alumni associations, and directly to American Express Cardmembers and the general public. The Property Casualty Companies have a major distribution agreement with Costco Insurance Agency, Inc., Costco's affiliated insurance agency. As of December 31, 2004, this arrangement offered auto insurance in 36 states and the District of Columbia and homeowner's insurance in 35 states to Costco members.
The Property Casualty Companies receive two ratings from A.M. Best, one related to AMEX Assurance as a separate company and one for the combined Property Casualty Companies. The rating assigned is developed from an in-depth evaluation of a company's balance sheet strength, operating performance, and business profile. Balance sheet strength reflects the company's ability to meet its current and ongoing obligations to its policyholders and includes analysis of the company's capital adequacy. The evaluation of operating performance centers on the stability and sustainability of the company's sources of earnings. The analysis of business profile reviews the company's mix of business, market position and depth and experience of management. As of the end of 2004, both AMEX Assurance and the combined Property Casualty Companies received A ratings (Excellent) by A.M. Best.
Competition - Insurance
The insurance business is highly competitive, and competitors of the IDS Life Companies and the Property Casualty Companies consist of both stock and mutual insurance companies, as well as other financial intermediaries marketing insurance products.
Competitive factors affecting the sale of life and disability insurance products include:
- cost of insurance and other contract charges;
- the level of premium rates;
- investment performance;
- the level of interest crediting rates;
- financial strength ratings from rating agencies such as A.M. Best;
- the breadth, quality and design of products and services offered;
- the quality of underwriting;
- reputation and recognition in the marketplace;
- the quality of customer service;
- the effectiveness of advertising and promotional campaigns; and
- distribution capabilities and compensation.
Competitive factors affecting the sale of property casualty insurance products include:
- brand recognition;
- distribution capabilities;
- product pricing;
- breadth;
- quality and design;
- customer service; and
- claims handling.
Regulation - Insurance
The Minnesota Department of Commerce (Insurance Division), the Indiana Department of Insurance, the Arizona Department of Insurance, the Wisconsin Office of the Commissioner of Insurance and the Illinois Insurance Department (collectively, and with the New York Insurance Department, "Domiciliary Regulators") regulate IDS Life, American Enterprise Life, American Partners Life, and IDS Property Casualty and Amex Assurance, respectively. The New York State Department of Insurance regulates American Centurion Life and IDS Life of New York. In addition to being regulated by their Domiciliary Regulators, the IDS Life Companies and the Property Casualty Companies are also regulated by each of the insurance regulators in the states where each is authorized to transact the business of insurance. These other states also regulate such matters as the licensing of sales personnel and, in some cases, the marketing and contents of insurance policies and annuity contracts. The primary purpose of such regulation and supervision is to protect the interests of policyholders and contract holders. Financial regulation of the IDS Life Companies and the Property Casualty Companies is extensive, and their financial and intercompany transactions (such as intercompany dividends, capital contributions and investment activity) are often subject to pre-notification and continuing evaluation by the Domiciliary Regulators. Virtually all states require participation in insurance guaranty associations, which assess fees to insurance companies in order to fund claims of policyholders and contract owners of insolvent insurance companies.
Insurance companies have recently been the subject of increasing regulatory, legislative and judicial scrutiny. Numerous state and federal regulatory agencies have commenced investigations regarding sales and marketing practices, compensation arrangements and anticompetitive activities, and market timing and late trading in connection with insurance, annuity and mutual fund products. The IDS Life Companies and the Property Casualty Companies have been contacted by regulatory agencies for information relating to some of these investigations and are cooperating with those inquiries. The IDS Life Companies and the Property Casualty Companies are reviewing their compensation arrangements and other operations that may be affected by these regulatory investigations, and the legal precedents and new industry-wide legislation, rules and regulations that may arise from these investigations.
At the federal level, there is periodic interest in enacting new regulations relating to various aspects of the insurance industry, including taxation of annuities and life insurance policies, accounting procedures, as well as the treatment of persons differently because of gender, with respect to terms, conditions, rates or benefits of an insurance policy. New federal regulation in any of these areas could potentially have an adverse effect upon the IDS Life Companies. Also, recent federal legislative proposals aimed at the promotion of tax-advantaged savings through Lifetime Savings Accounts and Retirement Savings Accounts may adversely impact IDS Life Companies' sales of annuity and life insurance products if enacted.
AMERICAN EXPRESS BANK
Our American Express Bank operating segment ("AEB") offers products that meet the financial service needs of three primary client groups: retail customers, wealthy individuals and financial institutions. AEB's operations are conducted primarily through our indirect wholly-owned subsidiary, American Express Bank Ltd., and its subsidiaries. AEB does not directly or indirectly do business in the United States except as may be incidental to its activities outside the United States. Accordingly, the following discussion relating to AEB generally does not distinguish between U.S.- and non-U.S.-based activities.
AEB's three primary business lines are Consumer Financial Services ("CFS"), The Private Bank and the Financial Institutions Group ("FIG"). CFS provides consumer products in direct response to specific financial needs of retail customers and includes interest-bearing deposits, unsecured lines of credit, installment loans, money market funds, mortgage loans, auto loans and mutual funds. The Private Bank focuses on high net worth individuals by providing them with investment management, trust and estate planning and banking services, including secured lending. FIG provides financial institution clients with a wide range of correspondent banking products including international payments processing (wire transfers and checks), trade-related payments and financing, cash management, loans, extensions of credit and investment products, including third-party distribution of AEB offshore mutual funds. AEB also provides treasury and capital market products and services to its customers, including foreign exchange, foreign exchange options and other derivatives and interest rate risk management products.
With the exit of its corporate banking business virtually completed during 2004, AEB continued its strategy of growing its consumer and financial institutions businesses. Corporate clients now represent only 1% of AEB's total loan portfolio. These changes align AEB's businesses more closely with those of our other business units and positions it to play a more important role in the delivery of financial services on a global basis. This change in strategy is reflected in the following loan information: AEB reduced its corporate banking loans by $97 million to $76 million at December 31, 2004, increased its consumer and private banking loans by $377 million, and increased its FIG loans by $121 million. Loans outstanding worldwide were $6.9 billion at December 31, 2004 and $6.5 billion at December 31, 2003. During 2004, The Private Bank client holdings rose 15% to a total of $18.6 billion, client holdings in CFS decreased 4% and FIG-related non-credit fee revenue increased by 28%.
AEB's fund products are sold by The Private Bank and CFS business lines to individual customers and by FIG through distributors in several foreign markets. AEB continued to expand its number of third-party relationships in Europe and Asia. During 2004, AEB signed approximately 60 distribution agreements in Europe and Asia for the sale of its own American Express-branded products, including a strategic alliance in Taiwan with Shanghai Commercial & Savings Bank Ltd. to distribute product and service offerings of AEB, AEFA and AEFA's Threadneedle subsidiary. AEB's assets under management in its fund products and related managed accounts and administered assets totaled approximately $5.7 billion at year-end (as compared with $5.3 billion at December 31, 2003).
In 2004 AEB added a number of investment portfolios and share classes to its existing Luxembourg investment company umbrella fund. In addition, AEB transferred its fund of funds portfolios from a Cayman-domiciled hedge fund structure to American Express Alternative Investment Fund (LUX), a newly established Luxembourg fund of funds. By publicly registering its shares in Luxembourg, the fund will be allowed to seek public registration of its shares in a variety of other jurisdictions and thereby enhance AEB's distribution activities. AEB also introduced new investment options, which combine standard mutual funds, hedge funds and cash products within its discretionary asset management wrap structure and increased the number of third-party products available to customers. The asset management business of AEFA (which includes Threadneedle) provides investment management services to many of AEB's Luxembourg umbrella fund portfolios.
AEB also continued to work closely with other parts of American Express to cross-sell a range of payment, lending, insurance and financial service products and build deeper relationships with affluent and pre-affluent consumer and small business customers in key international markets. AEB markets Private Bank services to a highly selective group of Cardmembers outside the United States. AEB offers credit products such as installment loans and revolving lines of credit to both Cardmembers and non-Cardmembers in Germany, Greece, United Kingdom, Hong Kong, India, Singapore and Taiwan. AEB also markets a wide range of investment and savings products to Cardmembers and select non-Cardmembers in Germany, Greece, Hong Kong, India, Indonesia, Singapore, Taiwan and Philippines. AEB has also contracted with AECC to market AECC's investment certificates, and separately operates a joint venture (American Express International Deposit Company) with AEFC in the Cayman Islands that issues deposit certificates denominated in U.S. dollars, Euros, pounds sterling and Australian dollars.
AEB has a global network with offices in 45 countries. Its worldwide headquarters is located in New York City. It maintains an international banking agency in New York City and facility offices in San Francisco, San Diego and Los Angeles, California. Its wholly owned Edge Act subsidiary, American Express Bank International ("AEBI"), is headquartered in Miami, Florida, and has branches in New York City and Miami.
In November 2004, AEB entered into an agreement to sell certain of its operations in Luxembourg. The sale was completed in January 2005. In addition, in December 2004, AEB made the decision to sell certain of its operations in Bangladesh, Egypt and Pakistan.
AEB's business does not, as a whole, experience significant seasonal fluctuations.
Selected Financial Information Regarding AEB
Subject to certain requirements related to transactions with affiliates, AEB provides banking services to the Company and its subsidiaries. AEB is only one of many international and local banks used by American Express and its other subsidiaries. American Express and its subsidiaries constitute only a few of AEB's many customers.
AEB's total assets were $13.4 billion at December 31, 2004 and $14.2 billion at December 31, 2003. Liquid assets, consisting of cash and deposits with banks, trading account assets and investments, were $4.7 billion at December 31, 2004 and $5.4 billion at December 31, 2003.
The following table sets forth a summary of financial data for AEB at and for each of the three years in the period ended December 31, 2004 (dollars in millions):
2004 2003 2002
-------- -------- --------
Net financial revenues $ 825 $ 801 $ 745
Non-interest expenses $ 679 $ 650 $ 624
Net income (a) $ 96 $ 102 $ 80
-------- -------- --------
Cash and deposits with banks $ 1,380 $ 1,890 $ 2,420
Investments $ 3,034 $ 3,341 $ 3,169
Loans, net $ 6,790 $ 6,371 $ 5,466
Total assets $ 13,373 $ 14,232 $ 13,234
-------- -------- --------
Customers' deposits $ 10,445 $ 10,775 $ 9,501
Shareholder's equity $ 924 $ 949 $ 947
-------- -------- --------
Return on average assets (b) .70% .74% .66%
Return on average total shareholder's equity (b) 10.0% 10.8% 9.6%
-------- -------- --------
Reserve for loan losses/total loans 1.38% 1.70% 2.70%
30+ days past due CFS loans as a % of total CFS loans 4.5% 6.6% 5.4%
Total loans/deposits from customers 65.91% 60.17% 59.12%
Average total shareholder's equity/average assets (b) 7.07% 6.85% 6.89%
Risk-based capital ratios: (c)
Tier 1 11.0% 11.4% 10.9%
Total 10.1% 11.3% 11.4%
Leverage ratio (c) 5.8% 5.5% 5.3%
Qualifying capital: (c)
Tier 1 capital $ 754 $ 775 $ 652
Total capital $ 693 $ 767 $ 680
Adjusted risk-weighted assets (c) $ 6,894 $ 6,804 $ 5,985
Adjusted average assets (c) $ 13,119 $ 14,186 $ 12,208
Average interest rates earned: (d) -------- -------- --------
Loans (e) 4.86% 5.19% 6.41%
Investments (f) 4.68% 5.26% 5.88%
Deposits with banks 2.80% 1.87% 2.15%
-------- -------- --------
Total interest-earning assets (f) 4.54% 4.57% 5.44%
-------- -------- --------
Average interest rates paid: (d)
Deposits from customers 1.98% 1.97% 2.38%
Borrowed funds, including long-term debt 1.69% 1.53% 3.46%
-------- -------- --------
Total interest-bearing liabilities 1.96% 1.93% 2.55%
-------- -------- --------
Net interest income/total average interest-earning assets (f) 2.64% 2.77% 3.23%
-------- -------- --------
|
(a) 2004 net income includes $44 million ($29 million after tax) of restructuring charges in connection with AEB's decision to sell certain of its operations in Bangladesh, Egypt, Luxembourg and Pakistan. The aggregate charges include $30 million of employee severance obligations and $14 million of other costs primarily related to currency translation
losses (previously recorded in shareholder's equity) and the early termination of certain real estate property leases. Included in 2003 net income is a net restructuring reserve reversal of $2 million ($1 million after tax). Included in 2002 net income is a net restructuring reserve reversal of $3 million ($2 million after tax).
(b) Computed on a trailing 12-month basis using total assets and total shareholder's equity as included in the Consolidated Financial Statements prepared in accordance with GAAP. Prior period amounts have been revised to conform to current presentation.
(c) Based on the legal entity financial statements of American Express Banking Corp.
(d) Based on average balances and related interest income and expense, including the effect of interest rate products where appropriate and transactions with related parties.
(e) Interest rates have been calculated based upon average total loans, including those in non-performing status.
(f) On a tax equivalent basis.
The following tables set forth the composition of AEB's gross loan portfolio at year-end for each of the five years in the period ended December 31, 2004 (millions):
BY GEOGRAPHIC REGION (A) 2004 2003 2002 2001 2000
------------------------ -------- -------- -------- -------- --------
Asia/Pacific $ 2,069 $ 2,320 $ 2,117 $ 2,052 $ 1,791
Europe 2,023 1,502 1,553 1,370 1,500
Latin America 1,454 1,344 801 871 856
North America 889 780 533 273 352
Indian Subcontinent 292 375 439 440 442
Middle East 127 128 94 197 302
Africa 31 35 80 82 100
-------- -------- -------- -------- --------
TOTAL $ 6,885 $ 6,484 $ 5,617 $ 5,285 $ 5,343
======== ======== ======== ======== ========
|
(a) Based primarily on the domicile of the borrower.
2004
------------------------------
Due
After1 Year Due
Due Through After 5
Within 1 5 Years Years
BY TYPE AND MATURITY Year (a) (a) 2004 2003 2002 2001 2000
--------------------------------------- -------- ----------- ------- ------ ------ ------ ------ -----
Consumer and private banking loans:
Loans secured by real estate $ 29 $ 8 $ 246 $ 283 $ 340 $ 397 $ 486 $ 361
Installment, revolving credit and other 4,145 397 -- 4,542 4,108 3,338 2,705 1,839
------ ---- ------ ------ ------ ------ ------ ------
4,174 405 246 4,825 4,448 3,735 3,191 2,200
------ ---- ------ ------ ------ ------ ------ ------
Commercial loans:
Loans secured by real estate 7 9 3 19 65 61 139 157
Loans to businesses (b) 4 53 -- 57 108 307 732 1,397
Loans to banks and other financial
institutions 1,672 312 -- 1,984 1,863 1,399 1,168 1,519
Loans to governments and official
institutions -- -- -- -- -- 29 28 34
------ ---- ------ ------ ------ ------ ------ ------
1,683 374 3 2,060 2,036 1,796 2,067 3,107
------ ---- ------ ------ ------ ------ ------ ------
All other loans (c) -- -- -- -- -- 86 27 36
------ ---- ------ ------ ------ ------ ------ ------
TOTAL $5,857 $779 $ 249 $6,885 $6,484 $5,617 $5,285 $5,343
====== ==== ====== ====== ====== ====== ====== ======
|
(a) Loans due after one year at fixed (predetermined) interest rates totaled $454 million, while those at floating (adjustable) interest rates totaled $574 million.
(b) Business loans, which accounted for approximately 1% of the portfolio as of December 31, 2004, were distributed over 26 commercial and industrial categories.
(c) Included in 2002 are $37 million of loans resulting from a change in ownership of AEB's Brazilian operations from that of a joint venture to a consolidated subsidiary.
The following tables present information about AEB's impaired (or non-performing) loans. AEB defines an impaired loan as any loan (other than certain smaller-balance consumer loans) on which the accrual of interest is discontinued because the contractual payment of principal or interest has become 90 days past due or if, in management's opinion, the borrower is unlikely to meet its contractual obligations. For smaller-balance consumer loans, management establishes reserves it believes to be adequate to absorb credit losses inherent in the portfolio. Generally, these loans are written off in full when an impairment is determined (e.g., borrower's personal bankruptcy) or when the loan becomes 120 or 180 days past due, depending on loan type.
(in millions: December 31,) 2004 2003 2002 2001 2000
---- ---- ---- ---- ----
Loans to businesses $37 $67 $103 $116 $135
Loans to financial institutions and other -- 11 16 7 2
--- --- ---- ---- ----
TOTAL $37 $78 $119 $123 $137
=== === ==== ==== ====
|
December 31,
-----------------
(in millions) 2004 2003
---- ----
Recorded investment in impaired loans not requiring an
allowance (a) $ - $ 1
Recorded investment in impaired loans requiring an
allowance 37 77
---- ----
Total recorded investment in impaired loans $ 37 $ 78
==== ====
Credit reserves for impaired loans $ 17 $ 43
==== ====
|
December 31,
-----------------
(in millions) 2004 2003 2002
---- ---- ----
Average recorded investment in impaired loans $ 52 $ 98 $121
Interest income recognized on a cash basis $ 1 $ 1 $ 1
|
(a) These loans do not require a reserve for credit losses since the values of the impaired loans equal or exceed the recorded investments in the loans.
In addition to the above, AEB had other non-performing assets totaling $1 million at December 31, 2004 and $15 million at December 31, 2003 and 2002. The 2004, 2003 and 2002 balances primarily consist of matured foreign exchange and derivative contracts and credit-related commitments.
The following table sets forth a summary of AEB's reserve for credit losses at and for each of the five years in the period ended December 31, 2004 (dollars in millions):
2004 2003 2002 2001 2000
------ ------ ------ ------ ------
Reserve for credit losses -
January 1, $ 121 $ 158 $ 148 $ 153 $ 189
Provision for credit losses (a) 37 102 147 91 28
Translation and other (1) (3) 10 (2) (4)
------ ------ ------ ------ ------
Subtotal 157 257 305 242 213
------ ------ ------ ------ ------
Write-offs:
Consumer loans (b) 72 118 115 38 19
Loans to businesses 9 33 39 72 43
Loans to banks and other financial institutions 5 - 7 - 2
Foreign exchange and derivative contracts - - - 1 6
Recoveries:
Consumer loans (17) (9) (5) (6) (6)
Loans to businesses (9) (5) (8) (10) (3)
Loans to banks and other financial institutions - (1) (1) (1) (1)
------ ------ ------ ------ ------
Net write-offs (recoveries) 60 136 147 94 60
------ ------ ------ ------ ------
Reserve for credit losses
December 31, (c) $ 97 $ 121 $ 158 $ 148 $ 153
====== ====== ====== ====== ======
|
(a) The increases in 2002 and 2001 were primarily due to credit loss provisions related to the CFS business in the Asia/Pacific region, particularly Hong Kong. The provision for 2001 includes a restructuring-related provision of $26 million relating to the further reduction of corporate lending activities in parts of Asia, Latin America and Europe.
(b) The increases in 2003 and 2002 were primarily due to write-offs in the CFS business in the Asia/Pacific region, primarily Hong Kong.
(c) Allocation:
2004 2003 2002 2001 2000
------ ------ ------ ----- ------
Loans $ 95 $ 113 $ 151 $ 128 $ 137
Other assets, primarily matured
foreign exchange and other
derivatives 1 6 6 4 14
Credit-related commitments 1 2 1 16 2
----- ----- ----- ----- -----
Total reserve for credit losses $ 97 $ 121 $ 158 $ 148 $ 153
===== ===== ===== ===== =====
|
AEB recognizes interest income on an accrual basis. When AEB's management places loans on non-performing status, it reverses all previously accrued but unpaid interest against current interest income. AEB recognizes cash receipts of interest on non-performing loans either as interest income or as a reduction of principal, based upon management's judgment as to the ultimate collectibility of principal. Generally, a non-performing loan may be returned to performing status when all contractual amounts due are reasonably assured of repayment within a reasonable period and the borrower shows sustained repayment performance, in accordance with the contractual terms of the loan or when the loan has become well secured and is in the process of collection.
Interest-earning advances under lines of credit and other similar consumer loans are written off against the reserve for credit losses upon reaching specified contractual delinquency stages, or earlier in the event of the borrower's personal bankruptcy or if the loan is otherwise deemed uncollectible. Interest income on these loans generally accrues until the loan is written off.
AEB separately maintains and provides for reserves relating to credit losses for loans, derivatives and other credit-related commitments. The reserve is established by charging a provision for credit losses against income. The amount charged to income is based upon several factors, including historical credit loss experience in relation to outstanding credits, a continuous assessment of the collectibility of each credit and management evaluation of exposures in each applicable country as related to current and anticipated economic and political conditions. Management's assessment of the adequacy of the reserve is inherently subjective, as significant estimates are required. Amounts deemed uncollectible are charged against the reserve and subsequent recoveries, if any, are credited to the reserve.
The reserve for credit losses related to loans is reported as a reduction of loans. The reserve related to derivatives is reported as a reduction of trading assets, and the reserve related to other credit-related commitments is reported in other liabilities.
Risks
The global nature of AEB's business activities is such that concentrations of credit to geographic regions are not unusual. AEB continually monitors and actively manages its credit concentrations to reduce the associated risk. At December 31, 2004, AEB had significant investments in certain on- and off-balance sheet financial instruments, which were primarily represented by deposits with banks, securities, loans, forward contracts, contractual amounts of letters of credit (standby and commercial) and guarantees. The counterparties to these financial instruments were primarily unrelated to AEB, and principally consisted of consumers to whom AEB has extended loans, banks and other financial institutions and foreign government agencies operating geographically within the Asia/Pacific region, Europe, North America, Latin America, the Indian Subcontinent and Middle East/Africa.
AEB's earnings are sensitive to interest rates due to the fact that the maturity of liabilities does not, generally, match the maturity of assets. AEB invests excess liquidity in high grade fixed income investment securities and maintains mandatory investment portfolios in a number
of countries as required by central banks. AEB monitors and controls interest rate risk through a rigorous Earnings at Risk process both on a country and global level. AEB manages the duration/maturity mismatch of assets and liabilities through adjusting the duration/maturity of assets and/or by using derivatives. On occasion, AEB may decide to mismatch in anticipation of a change in future interest rates in accordance with guidelines. AEB sells foreign exchange products to its customer base and may decide to take proprietary trading positions as a result of this business. The foreign exchange risk is managed at the branch and global level through a rigorous Value at Risk process. AEB manages counterparty credit exposure on foreign exchange and interest rate derivatives through a dynamic mark-to-market and potential future exposure process, in which the current positive fair value and potential future exposure are calculated and managed against counterparty loan equivalent limits. You can find more information on AEB's management of its foreign exchange risk on pages 43-44 and page 67 under the caption "American Express Company Risk Management - Market Risk Management Process" in our 2004 Annual Report to Shareholders, which portion of such report is incorporated herein by reference.
Because AEB conducts significant business in emerging market countries and in countries that are less politically and economically stable than the United States or those in Western Europe, its Private Banking, CFS and FIG activities may be subject to greater credit and compliance risks than are found in more well-developed jurisdictions. AEB continually monitors its exposures in such jurisdictions, and regularly evaluates its client base to identify potential legal risks as a result of clients' use of AEB's banking services.
You can find a discussion of AEB's use of derivative financial instruments, on pages 43-44 and page 67 under the caption "American Express Company Risk Management - Market Risk Management Process," and in Note 9 on pages 104-105 of our 2004 Annual Report to Shareholders, which portions of such report are incorporated herein by reference.
Competition - Banking Services
The banking services of AEB are subject to vigorous competition everywhere AEB operates. Competitors include local and international banks whose assets often exceed those of AEB, other financial institutions (including certain other subsidiaries of ours) and, in certain cases, governmental agencies.
Regulation - Banking Services
American Express Banking Corp. ("AEBC") is a New York investment company organized under Article XII of the New York Banking Law and is a wholly owned direct subsidiary of American Express. American Express Bank Ltd. ("AEBL") is a wholly owned direct subsidiary of AEBC. AEBC, AEBL and AEBL's global network of offices and subsidiaries are subject to continuous supervision and examination by the New York State Banking Department ("NYSBD") pursuant to the New York Banking Law. AEBC does not directly engage in banking activities.
AEBL's branches, representative offices and subsidiaries are licensed and regulated in the jurisdictions in which they do business and are subject to the same local requirements as
other competitors that have the same license. Within the United States, AEBL's New York agency is supervised and regularly examined by the NYSBD. In addition, the Board of Governors of the Federal Reserve System (the "Federal Reserve Board") regulates, supervises and examines AEBI and the California Department of Financial Institutions supervises and examines AEBL's San Francisco, Los Angeles and San Diego facility offices.
Since AEBC and AEBL do not do business in the United States, except as may be incidental to their activities outside the United States, our affiliation with AEBC and AEBL neither causes us to be subject to the provisions of the Bank Holding Company Act of 1956, as amended, nor requires us to register as a bank holding company under the Federal Reserve Board's Regulation Y. AEBC and AEBL are not members of the Federal Reserve System, are not subject to supervision by the FDIC, and are not subject to any of the restrictions imposed by the Competitive Equality Banking Act of 1987 other than anti-tie-in rules with respect to transactions involving products and services of certain of its affiliates. AEBC and AEBL are not financial holding companies under the Gramm-Leach-Bliley Act.
The NYSBD requires AEBC, on a consolidated basis, to monitor its financial condition in reference to the Federal Reserve Board's risk-based capital guidelines and complementary leverage constraints applicable to state-chartered banks that are members of the Federal Reserve System. Pursuant to the FDIC Improvement Act of 1991, the Federal Reserve Board, among other federal banking agencies, adopted regulations defining levels of capital adequacy. Under these regulations, a bank is deemed to be well capitalized if it maintains a Tier 1 risk-based capital ratio of at least 6%, a total risk-based capital ratio of at least 10%, and a leverage ratio of at least 5%. Based on AEBC's Tier 1 risk-based capital, total risk-based capital and leverage ratios, AEBC is considered to be well capitalized at December 31, 2004.
In recent years, U.S. and foreign regulatory authorities, together with international organizations, have raised increasing concerns over the ability of criminal organizations and corrupt persons to use global financial intermediaries to facilitate money laundering. In the United States, the Secretary of the Treasury has issued regulations pursuant to the USA PATRIOT Act of 2001 (the "Patriot Act") that specifically impact certain money laundering prevention activities of entities involved, as AEBL is, in correspondent and private banking activities. Compliance efforts to combat money laundering remain a high priority for AEBL and it may increase these efforts to address further regulations expected under the Patriot Act as well as other evolving supervisory standards and requirements in jurisdictions in which AEBL does business.
In April 2003, the Basel Committee on Banking Supervision (the "Basel Committee") issued a final consultative paper on the proposed new Basel Capital Accord ("new Accord"). The new Accord proposes risk-based capital guidelines that will replace the previous guidelines that have been in effect since 1988. The Basel Committee is comprised of representatives of central banks and bank supervisors from the major industrialized countries and develops broad supervisory standards and guidelines governing the prudential supervision of banking institutions. The new Accord sets capital requirements for operational risk and refines the existing capital requirements for credit and market risk exposures. On May 11, 2004, the Basel Committee announced it achieved consensus on the new Accord and published the text of the
framework on June 26, 2004. Despite the release of the framework, it is not clear at this time whether and in what manner the new Accord will be adopted by bank regulators with respect to banking organizations that they supervise and regulate. AEBC will continue to monitor regulatory action on this matter and assess its potential impact. AEBC believes that implementation of the new Accord, to the extent applicable to AEBC, could increase minimum risk-based capital requirements and result in changes to certain of AEBC's information systems, processes and employee training.
CORPORATE AND OTHER
BRAND
Our brand and its attributes -- trust, security, integrity, quality and customer service -- are key assets of the Company. We continue to focus on the brand by educating employees about these attributes and by incorporating them into our programs, products and services.
TECHNOLOGY
We have devoted substantial resources to our global technology platforms and have undertaken significant efforts to protect and manage our proprietary systems and the data collected and stored on our systems. In this vein, we have continued to focus on ways to secure our systems from "hackers" and other unauthorized users.
In 2002, we outsourced most of our technology operations work to IBM. This arrangement, which has a seven-year term with options to extend, enables us to benefit from IBM's expertise while lowering our information technology costs. IBM has taken on responsibility for managing most of our day-to-day technology operations functions, including mainframe, midrange and desktop systems; web hosting; database administration; help desk services and data center operations. Our internal IT organization continues to retain the Company's technology competencies, including information technology strategy, managing strategic relationships with technologies' partners, developing and maintaining applications and databases and managing the technology portfolios of our businesses.
REGULATION - GENERAL
Most aspects of our business are subject to rigorous regulation by U.S. Federal and state regulatory agencies and securities exchanges and by non-U.S. government agencies or regulatory bodies and securities exchanges. Certain of our public disclosure, internal control environment and corporate governance principles are subject to the Sarbanes-Oxley Act of 2002 and related regulations and rules of the SEC and the New York Stock Exchange, Inc. New laws or regulations or changes to existing laws and regulations (including changes in interpretation or enforcement) could materially adversely affect our financial condition or results of operations. As a global financial institution, to the extent that different regulatory systems impose overlapping or inconsistent requirements on the conduct of our business, we face complexity and additional costs in our compliance efforts.
We use information about our customers to develop products and services and to provide personalized services. Regulatory activity in the areas of privacy and data protection continues to grow worldwide and is generally being driven by the growth of technology and related concerns about the rapid and widespread dissemination and use of information.
The Gramm-Leach-Bliley Act ("GLBA") became effective on July 1, 2001. GLBA provides for disclosure of a financial institution's privacy policies and practices and affords customers the right to "opt out" of the institution's disclosure of their personal financial
information to unaffiliated third parties (with limited exceptions). This legislation does not preempt state laws that afford greater privacy protections to consumers, and several states have adopted such legislation. For example, in 2003 California enacted that state's Financial Information Privacy Act. We will continue our efforts to safeguard the data entrusted to us in accordance with applicable law and our internal data protection policies, including taking steps to reduce the potential for identity theft, while seeking to collect and use data to properly achieve our business objectives.
The Fair Credit Reporting Act of 1970 ("FCRA") regulates the disclosure of consumer credit reports by consumer reporting agencies and the use of consumer credit report information by banks and other companies. Provisions of FCRA that preempt states from enacting legislation regarding the sharing of customer information among affiliates and certain other uses of consumer credit report information were set to expire on January 1, 2004. The January 1, 2004 expiration date of these provisions was removed by the enactment in December 2003 of the Fair and Accurate Credit Transactions Act ("FACT Act"). The FACT Act significantly amends the FCRA to make the exchange of consumer information among affiliates, together with several other activities involving consumer credit report information, subject to only federal law. (The California Financial Information Privacy Act ("SB1") became effective on July 1, 2004. SB1 requires, among other things, that financial institutions either stop sharing personal financial information among affiliates that are not in the same line of business, or provide customers with an opportunity to opt out of the disclosure of the information to the affiliate. Prior to the effective date, the American Bankers Association filed a lawsuit in an attempt to prevent certain provisions of SB1 from taking effect. On June 30, 2004, the U.S. District Court for the Eastern District of California issued a decision holding that SB1 was not preempted by the FCRA. The decision has been appealed to the U.S. Court of Appeals for the Ninth Circuit, and a decision on the appeal is expected to be issued during 2005.) At the same time, the FACT Act requires any company that receives information concerning a consumer from an affiliate to permit the consumer to opt out from having that information used to market the company's products to the consumer.
The FACT Act further amends the FCRA by adding several new provisions designed to prevent or decrease identity theft and to improve the accuracy of consumer credit information. New duties are imposed on both consumer reporting agencies and on businesses that furnish or use information contained in consumer credit reports. For example, a furnisher of information is required to implement procedures to prevent the reporting of any information that it learns is the result of identity theft. Also, if a consumer disputes the accuracy of information provided to a consumer reporting agency, the furnisher of that information must conduct an investigation and respond to the consumer in a timely fashion. The FACT Act also requires grantors of credit that use consumer credit report information in making a determination to offer a borrower credit on terms that are "materially less favorable" than the terms offered to most of the lender's other customers to notify the borrower that the terms are based on a consumer credit report. In such a case the borrower is entitled to receive a free copy of the report from the consumer reporting agency. Beginning August 1, 2005, grantors of credit using pre-screened consumer credit report information in credit solicitations must include an enhanced notice to consumers that they have the right to opt out from receiving further pre-screened offers of credit. The effective dates and implementing regulations for many of the other provisions of the FACT Act are expected to be
issued by various federal regulatory agencies during 2005. The Company is continuing to evaluate the effect of the FACT Act and the implementing regulations on the Company's business operations or its ability to provide personalized services to its customers.
In the United States, the Patriot Act of 2001 was enacted in October 2001 in the wake of the September 11th terrorist attacks. The Patriot Act substantially broadened existing anti-money laundering legislation and the extraterritorial jurisdiction of the United States. The Patriot Act contains a wide variety of provisions aimed at fighting terrorism, including provisions aimed at impeding terrorists' ability to access and move funds used in support of terrorist activities. Among other things, the Patriot Act requires federal regulators, led by the Secretary of the Treasury, to regulate or take other steps to require financial institutions to establish anti-money laundering programs that meet certain standards, including expanded reporting and enhanced information gathering and record-keeping requirements. While American Express has long maintained anti-money laundering programs in our businesses, the Secretary of the Treasury has issued regulations under the Patriot Act applicable to certain of our business activities conducted within AEB, TRS, AEFA and their affiliates, prescribing minimum standards for such anti-money laundering programs, and we have enhanced existing programs and developed and implemented new ones in response to these new regulations. For example, in April 2002, the U.S. Treasury issued draft regulations applicable to operators of credit card networks (such as VISA, MasterCard, Diners Club, Discover and American Express) that would require credit card networks to have risk-based programs to screen institutions that are licensed to issue cards or acquire merchants on their networks. As a result, we developed and implemented a program for our Global Network Services business, and in 2004 completed our screening of existing licensed institutions and will apply the screening under this program to all new licensing relationships. We have also developed and implemented a Customer Identification Program applicable to many of our businesses, and have enhanced our Know Your Customer and Enhanced Due Diligence programs in others. We intend to take steps to comply with any additional regulations that are adopted. In addition, we will take steps to comply with anti-money laundering initiatives adopted in other jurisdictions in which we conduct business.
We have significant operations in the European Union, including a number of regulated businesses. We monitor developments in EU legislation, as well as in the other markets in which we operate, to ensure that we are in a position to comply with all applicable legal requirements, including European Union directives applicable to credit institutions, insurance intermediaries and other financial institutions. Significant EU developments include the EU Insurance Mediation Directive pursuant to which each EU member state was required to authorize general insurance intermediaries in its state by mid-January 2005. Subject to this authorization, intermediaries will then be permitted to conduct insurance intermediation in other member states via the EU "passporting" regime. In addition, the EU directive on the supplementary supervision of financial conglomerates contemplates that certain financial conglomerates involved in banking, insurance and investment activities will be subject to a system of supplementary supervision at the level of the holding company constituting the financial conglomerate. The Directive requires such financial conglomerates to, among other things, implement measures to prevent excessive leverage and multiple gearing of capital, and to maintain internal control processes to address risk concentrations as well as risks arising from significant intragroup
transactions. We are evaluating the applicability of this directive to our business in light of the proposed spin-off of AEFC.
FOREIGN OPERATIONS
We derive a significant portion of our revenues from the use of our card products, Travelers Cheques, travel and other financial products and services in countries outside the United States and continue to broaden the use of these products and services outside the United States. (For a discussion of our revenue by geographic region, see Note 19 to our Consolidated Financial Statement, which you can find on pages 117-120 of our Annual Report to Shareholders and which is incorporated herein by reference.) Our revenues can be affected by political and economic conditions in these countries (including the availability of foreign exchange for the payment by the local card issuer of obligations arising out of local Cardmembers' spending outside such country, for the payment of card bills by Cardmembers who are billed in other than their local currency, and for the remittance of the proceeds of Travelers Cheque sales). Substantial and sudden devaluation of local Cardmembers' currency can also affect their ability to make payments to the local issuer of the card in connection with spending outside the local country. The majority of AEB's revenues are derived from business conducted in countries outside the United States. Some of the risks attendant to those operations include currency fluctuations and changes in political, economic and legal environments in each such country.
As a result of our foreign operations, we are exposed to the possibility that, because of foreign exchange rate fluctuations, assets and liabilities denominated in currencies other than the United States dollar may be realized in amounts greater or less than the United States dollar amounts at which they are currently recorded in our Consolidated Financial Statements. Examples of transactions in which this may occur include the purchase by Cardmembers of goods and services in a currency other than the currency in which they are billed; the sale in one currency of a Travelers Cheque denominated in a second currency; foreign exchange positions held by AEB as a consequence of its client-related foreign exchange trading operations; and, in most instances, investments in foreign operations. These risks, unless properly monitored and managed, could have an adverse effect on our operations.
Our policy in this area is generally to monitor closely all foreign exchange positions and to minimize foreign exchange gains and losses, for example, by offsetting foreign currency assets with foreign currency liabilities, as in the case of foreign currency loans and receivables, which are financed in the same currency. An additional technique that we may use to manage exposures is the spot and forward purchase or sale of foreign currencies as a hedge of net exposures in those currencies. Additionally, Cardmembers may be charged in United States dollars for their spending outside their local country. Our investments in foreign operations are hedged by forward exchange contracts or by identifiable transactions, where appropriate.
IMPORTANT FACTORS REGARDING FORWARD-LOOKING STATEMENTS
We have made various forward-looking statements in this report. Forward-looking statements may also be made in our other reports filed with the SEC, in our press releases and in
other documents. In addition, from time to time, we, through our management, may make oral forward-looking statements. Forward-looking statements are subject to risks and uncertainties, including those identified below, which could cause actual results to differ materially from such statements. The words "believe," "expect," "anticipate," "optimistic," "intend," "plan," "aim," "will," "may," "should," "could," "would," "likely" and similar expressions are intended to identify forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date on which they are made. We undertake no obligation to update publicly or revise any forward-looking statements. Factors that could cause actual results to differ materially from our forward-looking statements include, but are not limited to, the following:
American Express Company's ability to:
- complete our plan to spin-off the AEFA business unit to our shareholders, which is subject to final approval by our Board of Directors, the receipt of necessary regulatory approvals and a favorable tax ruling and/or opinion of outside counsel, and in connection with the spin-off, the Company's ability to capitalize AEFA consistent with rating agency requirements and to manage transition costs and implement effective transition arrangements post-spin-off with AEFA;
- grow our business and meet or exceed our return on equity target by reinvesting approximately 35% of annually-generated capital and returning approximately 65% of such capital to shareholders, over time, which will depend, in part, on our ability to manage our capital needs and the effect of business mix, acquisitions and rating agency requirements;
- successfully expand our online and offline distribution channels and cross-selling for financial, travel, card and other products and services to our customer base, both in the United States and abroad;
- generate sufficient revenues for expanded investment spending, which will depend in part on the success of reengineering programs, and the ability to capitalize on such investments to improve business metrics;
- invest successfully in, and compete at the leading edge of, technology developments across all businesses, e.g., transaction processing, data management, customer interactions and communications, travel reservations systems, prepaid products, multi-application smart cards and risk management and compliance systems;
- effectively leverage our assets, such as our brand, customers and international presence, in the Internet environment;
- recognize evolutionary technology developments by competitors or others that could hasten business model obsolescence or, because of patent rights held by such competitors or others, limit or restrict our use of desired business technology or processes;
- develop and implement successfully enterprise-wide interactive strategies;
- improve online customer satisfaction, Web site performance and online availability for our customers and clients;
- improve our operating expense to revenue ratio both in the short-term and over time, which will depend in part on the effectiveness of reengineering and other cost control initiatives, as well as factors impacting our revenues;
- successfully achieve in a timely manner significant cost savings and other benefits (totaling at least $1 billion in the aggregate) from the reengineering efforts being implemented or considered by us, including cost management, structural and strategic measures such as vendor, process, facilities and operations consolidation, outsourcing functions (including, among others, technologies operations), relocating certain functions to lower cost overseas locations, moving internal and external functions to the Internet to save costs and planned staff reductions relating to certain of such reengineering actions;
- participate in payment and other systems material to our businesses on a fair and competitive basis;
- control and manage operating, infrastructure, advertising and promotion and other expenses as business expands or changes, including the ability to accurately estimate the provision for the cost of our Membership Rewards program;
- accurately estimate the provision for credit losses in our outstanding portfolio of loans and receivables;
- manage credit risk related to consumer debt, business loans, merchant bankruptcies and other credit trends and the rate of bankruptcies, which can affect spending on card products, debt payments by individual and corporate customers and businesses that accept our card products and returns on our investment portfolio;
- manage a downturn in our businesses and/or negative changes in our and our subsidiaries' credit ratings, which could result in contingent payments under contracts, decreased liquidity and higher borrowing costs;
- accurately estimate the fair value of the assets in our investment portfolio and, in particular, those investments that are not readily marketable, including the valuation of the interest-only (I/O) strip relating to TRS' lending securitizations; and
- attract and retain qualified employees in all our businesses.
TRS' ability to:
- increase consumer and business spending and borrowing on our travel related services products, particularly credit and charge cards and Travelers Cheques and other prepaid products and growth in card lending balances, which depend in part on the ability to develop and issue new or enhanced card and prepaid products and increase revenues from such products, attract new Cardmembers, reduce Cardmember attrition, increase merchant coverage, and capture a greater share of customers' total spending on Cards issued on our network both in the United States and in our international operations;
- retain Cardmembers in consumer lending products after low introductory rate periods have expired;
- sustain premium discount rates on its card products in light of market and regulatory pressures, increase merchant coverage and reduce suppression, all of which will depend in part on its ability to maintain a customer base that appeals to merchants and to develop deeper merchant relationships through creation of new products and services;
- expand the Global Network Services business, which will depend in part on the extent to which such business enhances the Company's brand, allows the Company to leverage its transaction processing scale, expands merchant coverage of the network overall, provides GNS partners with the benefits of greater Cardmember loyalty and higher spend per customer, and benefits merchants through greater transaction volume and additional higher spend customers, and manage risks associated with a GNS partner's failure to meet its settlement obligations;
- execute the Company's global corporate services strategy including greater penetration of middle market companies, increasing capture of non-T&E spending through greater use of the Company's corporate purchasing solutions and other means, and further globalizing business capabilities;
- enhance significantly its international operations, which will depend in part on its ability to reduce expenses for reinvestment in the international business and expand the proprietary and third party-issued Card businesses;
- cost effectively manage and expand Cardmember benefits, including containing the growth of marketing, promotion and rewards expenses;
- manage bankruptcies, restructurings or similar events affecting the airline or any other industry representing a significant portion of TRS' billed business, including any potential negative effects on particular card products and services and billed business generally that could result from the actual or perceived weakness of key business partners in such industries;
- manage the triggering of obligations to make payments to certain cobrand partners, merchants, vendors and customers under contractual arrangements with such parties under certain circumstances; and
- manage risks associated with the Company's agreements with Delta Air Lines to prepay $500 million for the future purchases of Delta SkyMiles rewards points and its loan to Delta of up to $75 million.
AEFA's ability to:
- improve investment performance in AEFA's businesses, including attracting and retaining high-quality personnel, and reduce outflows of invested funds;
- develop and introduce new and attractive products to clients in a timely manner and effectively manage the economics in selling a growing volume of non-proprietary mutual funds and other retail financial products to clients;
- manage developments relating to AEFA's platform structure for financial advisors, including the ability to increase advisor productivity (including adding new clients), increase the growth of productive new advisors and create efficiencies in the infrastructure;
- make accurate assumptions related to the amount of amortization of deferred acquisition costs ("DAC") with respect to sale of annuity, insurance and certain mutual fund products, or changes in assumptions relating to DAC, which could impact the amount of DAC amortization;
- respond effectively to fluctuation in the equity and fixed income markets, a short-term financial market crash or a long-term financial market decline or stagnation, or a prolonged period of relatively low or high interest rates, any of which could affect the amount and types of investment products sold by AEFA, AEFA's ability to earn target spreads on fixed account liabilities, the level of management, distribution and other fees received based on the market value of managed assets and AEFA's ability to recover DAC, as well as the timing of that DAC amortization;
- make accurate estimates of the level of reserves required to fund guaranteed minimum death benefits, guaranteed minimum income benefits and guaranteed minimum withdrawal benefits paid to clients under its variable annuity products;
- resolve the potential conflicts inherent in its business model;
- respond effectively to changes in federal securities laws affecting the mutual fund industry, including possible enforcement proceedings and the adoption of rules and regulations designed to prevent trading abuses, restrict or eliminate certain types of fees, including fees generated through revenue sharing arrangements, change mutual fund governance and mandate additional disclosures, and the ability to make the
required investment to upgrade compliance systems and procedures in response to these changes;
- respond effectively to changes to or elimination of federal tax benefits for AEFA's products and to other changes in laws and regulations that could adversely affect sales of mutual fund, insurance and annuity products;
- respond effectively if the independent directors of the mutual funds managed by AEFA reduce the compensation paid to AEFA or terminate the contracts to manage, distribute and/or service those funds; and
- manage potential deterioration in the high-yield sector and other investment areas, which could result in losses in AEFA's investment portfolio.
In general:
- the continuation of favorable trends, such as increasing travel and entertainment spending and the overall level of consumer confidence, stable to appreciating equity markets and improving credit provisions;
- relationships with third-party providers of various computer systems and other services integral to the operations of our businesses;
- fluctuations in foreign currency exchange rates;
- the costs and integration of acquisitions;
- the amount of recovery under our insurance policies for losses resulting from the September 11, 2001 terrorist attacks;
- the potential negative effect on our businesses and infrastructure, including information technology systems, of terrorist attacks, disasters or other catastrophic events in the future;
- political or economic instability in certain regions or countries, which could affect commercial or other lending activities, among other businesses, or restrictions on convertibility of certain currencies;
- outcomes and costs associated with litigation and compliance and regulatory matters;
- deficiencies or inadequacies in our internal control over financial reporting, which could result in inaccurate or incomplete financial reporting; and
- competitive pressures in all of our major businesses.
SEGMENT INFORMATION AND CLASSES OF SIMILAR SERVICES
You can find information regarding the Company's operating segments, geographic operations and classes of similar services in Note 19 to the Consolidated Financial Statements of the Company, which appears on pages 117-120 of the Company's 2004 Annual Report to Shareholders, which Note is incorporated herein by reference.
EXECUTIVE OFFICERS OF THE COMPANY
Set forth below is a list of all our executive officers as of March 1, 2005. None of our executive officers has any family relationship with any other executive officer, and none of our executive officers became an officer pursuant to any arrangement or understanding with any other person. Each executive officer has been elected to serve until the next annual election of officers or until his or her successor is elected and qualified. Each officer's age is indicated by the number in parentheses next to his or her name.
KENNETH I. CHENAULT - Chairman and Chief Executive Officer; Chairman and Chief Executive Officer, TRS
Mr. Chenault (53) has been Chairman since April 2001 and Chief Executive Officer since January 2001. Prior thereto he had been President and Chief Operating Officer of the Company since February 1997. He has also been Chairman of TRS since April 2001 and Chief Executive Officer of TRS since February 1997.
JONATHAN S. LINEN - Vice Chairman
Mr. Linen (61) has been Vice Chairman since August 1993.
JAMES M. CRACCHIOLO - Group President, Global Financial Services;
President and Chief Executive Officer, AEFC;
Chairman and Chief Executive Officer, AEFA;
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Mr. Cracchiolo (46) has been Group President, Global Financial Services since June 2000, President and Chief Executive Officer of AEFC since November 2000 and Chairman and Chief Executive Officer of AEFA since March 2001. Prior thereto he had been President and CEO of AEFA since June 2000. Mr. Cracchiolo also had been President and Chief Executive Officer of TRS International from May 1998 through July 2003.
GARY L. CRITTENDEN - Executive Vice President and Chief Financial Officer
Mr. Crittenden (51) has been Executive Vice President and Chief Financial Officer since June 2000. Prior thereto he had been Senior Vice President and Chief Financial Officer of Monsanto since September 1998.
URSULA F. FAIRBAIRN - Executive Vice President, Human Resources and Quality
Mrs. Fairbairn (62) has been Executive Vice President, Human Resources and Quality of the Company since December 1996.
EDWARD P. GILLIGAN - Group President, Global Corporate Services and International Payments, TRS
Mr. Gilligan (45) has been Group President, Global Corporate Services, TRS since June 2000 and President, International Payments, since July 2003. Prior thereto he had been President, Corporate Services, TRS since February 1996.
JOHN D. HAYES - Executive Vice President, Global Advertising
and Brand Management and Chief Marketing
Officer
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Mr. Hayes (50) has been Executive Vice President, Global Advertising and Brand Management since May 1995 and Chief Marketing Officer of the Company since August 2003.
DAVID C. HOUSE - Group President, Global Network and
Establishment Services and Travelers Cheque
and Prepaid Services Group, TRS
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Mr. House (54) has been Group President, Global Network and Establishment Services and Travelers Cheque and Prepaid Services Group, TRS since June 2000. Prior thereto he had been President, TRS Establishment Services since October 1995.
ALFRED F. KELLY, JR. - Group President, U.S. Consumer and Small Business Services, TRS
Mr. Kelly (46) has been Group President, U.S. Consumer and Small Business Services, TRS since June 2000. Prior thereto he had been President, Consumer Card Services Group, TRS since October 1998.
LOUISE M. PARENT - Executive Vice President and General Counsel
Ms. Parent (54) has been Executive Vice President and General Counsel since May 1993.
GLEN SALOW - Executive Vice President and Chief Information Officer
Mr. Salow (48) has been Executive Vice President and Chief Information Officer since March 2000. Prior thereto he had been Senior Vice President, E-Commerce, United States Card and Travel Services, TRS since December 1999.
THOMAS SCHICK - Executive Vice President, Corporate Affairs and Communications
Mr. Schick (58) has been Executive Vice President, Corporate Affairs and Communications since March 1993.
EMPLOYEES
We had approximately 77,500 employees on December 31, 2004.
ITEM 2. PROPERTIES
Our principal executive offices are in a 51-story, 2.2 million square foot building located in lower Manhattan, which also serves as the headquarters for TRS and AEB. This building, which is on land leased from the Battery Park City Authority for a term expiring in 2069, is one of four office buildings in a complex known as the World Financial Center. We have a 49% ownership interest in the building. In 2002, an affiliate of Brookfield Financial Properties acquired the 51% interest in the building that had previously been owned by Lehman Brothers Holdings Inc.
Because of its proximity to the World Trade Center, our headquarters were damaged as a result of the terrorist attacks of September 11, 2001. As a result of these events, we were required to temporarily relocate our headquarters and we entered into five new leases for approximately 750,000 square feet of space in the New York, New Jersey and Connecticut area. The repair work to our headquarters was completed on schedule during 2002 and we relocated back into the Company headquarters. We have subleased a portion of the temporary space, and we continue our efforts to sublease out the remaining additional space in the tri-state area. We also relocated back to the World Financial Center employees from our Jersey City facility who had been permanently based at such location before September 11, 2001. We have subleased the Jersey City space to a third party.
Other principal locations of TRS include: the American Express Service Centers in Fort Lauderdale, Florida; Phoenix, Arizona; Greensboro, North Carolina; Salt Lake City, Utah; and the Amex Canada Inc. headquarters in Markham, Ontario, Canada.
AEFA operates its business from two principal locations, both of which are located in Minneapolis, Minnesota: the American Express Financial Center, which we lease, and the Client Service Center, which we own. Title to a third property, the Operations Center, which had been owned by AEFA, was transferred to TRS in the first quarter of 2004 to better reflect the operations being performed in the facility. AEFA's lease term for the American Express Financial Center, which began in November 2000, is for 20 years with several options to extend the term. AEFA also owns Oak Ridge Conference Center, a training facility and conference center in Chaska, Minnesota.
IDS Property Casualty, a subsidiary of AEFA, has its corporate headquarters in Ashwaubenon, Wisconsin, a suburb of Green Bay.
In December 2004, several of our subsidiaries entered into an agreement to sell and lease back a total of seven real properties located in the United States to designated affiliates of The Inland Real Estate Group, Inc. ("Inland") and closed on the sale of six of those properties. The six properties that were sold in December 2004 were the American Express Service Centers in Fort Lauderdale, Florida; Greensboro, North Carolina; and Phoenix, Arizona; the American Express Data Center in Minneapolis; the IDS Property Casualty Insurance Corporation headquarters in Ashwaubenon, Wisconsin; and the American Express Finance Center in Phoenix. The remaining property to be sold under this agreement is the American Express Service Center in Salt Lake City and that transaction is expected to close in March 2005, subject to customary closing conditions. In addition, in January 2005, one of our Canadian subsidiaries closed on the sale and lease back of the Amex Canada headquarters property referred to above in Markham, Ontario, Canada. These sale and leaseback transactions will enable us to monetize the value of these properties and use the proceeds for re-investment in our businesses.
At each closing, an affiliate of Inland leased the relevant property back to one of our subsidiaries for a ten-year term, with an option given to us to renew the lease for up to six renewal terms of five years each. (The same procedure will apply to the remaining property referenced above.) The leases are net leases whereby each American Express entity that leases back the property is responsible for all costs and expenses relating to the property (including maintenance, repair, utilities, operating expenses and insurance costs) in addition to annual rent. The eight properties comprise approximately 2.6 million square feet and have an aggregate net book value of approximately $235 million and an aggregate sales price of approximately $390 million. The aggregate annual rent for the first five years of the leases for all the eight properties will be approximately $25 million. The sale leaseback transactions will not materially impact our financial results in any year. Gains resulting from completed sale and leaseback transactions will be amortized over the initial ten-year lease periods. We continue to consider whether sale-leaseback transactions are appropriate for other properties that we currently own.
In February 2000, we entered into a ten-year agreement with Trammell Crow Corporate Services, Inc. for facilities, project and transaction management and other related services. The agreement covers North and South America and parts of Europe.
Generally, we and our subsidiaries lease the premises we occupy in other locations. We believe that the facilities we own or occupy suit our needs and are well maintained.
ITEM 3. LEGAL PROCEEDINGS
The Company and its subsidiaries are involved in a number of legal and arbitration proceedings, including class actions, concerning matters arising in connection with the conduct of our respective business activities. We believe we have meritorious defenses to each of these actions and we intend to defend them vigorously. We believe that we are not a party to, nor are any of our properties the subject of, any pending legal or arbitration proceedings that would have a material adverse effect on our consolidated financial condition, results of operations or liquidity. However, it is possible that the outcome of any such proceedings could have a material
impact on our results of operations in any particular reporting period as the proceedings are resolved. Certain legal proceedings involving the Company are described below.
CORPORATE PROCEEDINGS
Beginning in mid-July 2002, 12 putative class action lawsuits were filed in the United States District Court for the Southern District of New York. In October 2002, these cases were consolidated under the caption In re American Express Company Securities Litigation. These lawsuits allege violations of the federal securities laws and the common law in connection with alleged misstatements regarding certain investments in high-yield bonds and write-downs in the 2000-2001 timeframe. The purported class covers the period from July 18, 1999 to July 17, 2001. The actions seek unspecified compensatory damages as well as disgorgement, punitive damages, attorneys' fees and costs, and interest. On March 31, 2004, the Court granted the Company's motion to dismiss the lawsuit. Plaintiffs have appealed the dismissal to the United States Court of Appeals for the Second Circuit.
TRS PROCEEDINGS
The Company has been named in several purported class actions in various state courts alleging that the Company violated the respective state's laws by wrongfully collecting amounts assessed on converting transactions made in foreign currencies to U.S. dollars and/or failing to properly disclose the existence of such amounts in its Cardmember agreements and billing statements. The plaintiffs in the actions seek, among other remedies, injunctive relief, money damages and/or attorneys' fees on their own behalf and on behalf of the putative class of persons similarly situated. On October 15, 2004, the U.S. District Court for the Southern District of Florida granted preliminary approval of a nationwide class action settlement to resolve all lawsuits and allegations with respect to the Company's collection and disclosure of fees assessed on transactions made in foreign currencies in the case captioned Lipuma v. American Express Bank, American Express Travel Related Services Company, Inc. and American Express Centurion Bank (filed in August 2003). The settlement that has been preliminarily approved by the Court contemplates that the Company would (a) deposit $75 million into a fund that would be established to reimburse class members with valid claims, make certain contributions to charitable organizations to be identified later and pay attorneys' fees and (b) make certain changes to the disclosures in its Cardmember agreements and billing statements regarding its foreign currency conversion practices. The Company has established reserves to cover the proposed payment that would be made to reimburse class members and pay attorneys' fees. The preliminary approval order enjoins all other proceedings that make related allegations pending a final approval hearing including, but not limited to the following cases: (i) Environmental Law
Foundation, et al. v. American Express Company, et al., Superior Court of
Alameda County, California (filed March 2003); (ii) Rubin v. American Express
Company and American Express Travel Related Services Company, Inc., Circuit
Court of Madison County, Illinois (filed April 2003); (iii) Angie Arambula, et
al. v. American Express Company, et al., District Court of Cameron County,
Texas, 103rd Judicial District (filed May 2003); (iv) Fuentes v. American
Express Travel Related Services Company, Inc. and American Express Company,
District Court of Hidalgo County, Texas (filed May 2003); (v) Wick v. American
Express Company, et al., Circuit Court of Cook County, Illinois (filed May
2003); (vi) Bernd Bildstein v. American Express Company, et al., Supreme Court
of Queens County, New York (filed June 2003); (vii) Janowitz v. American Express
Company, et al., Circuit Court of Cook County, Illinois (filed September 2003);
(viii) Paul v. American Express Company, et al., Superior Court of Orange
County, California (filed January 2004); and (ix) Ball v. American Express, et
al., Superior Court of San Joaquin, California (filed August 2004).
In July 2004, a purported class action captioned Ross, et al. v. American Express Company, American Express Travel Related Services and American Express Centurion Bank was filed in the United States District Court for the Southern District of New York. The complaint alleges that AMEX conspired with Visa, MasterCard and Diners Club in the setting of foreign conversion rates and in the inclusion of arbitration clauses in certain of their cardmember agreements. The basis for these allegations is the presence of an American Express lawyer at a seminar where legal issues common to the financial services industry were discussed. Those meetings were attended by in-house lawyers of financial institutions including American Express. The suit seeks injunctive relief and unspecified damages. The class is defined as "all Visa, MasterCard and Diners Club general purpose cardholders who used cards issued by any of the MDL Defendant Banks...." American Express cardholders are not part of the class. The Company intends to file a motion to dismiss the complaint as to American Express.
In November 2004, a motion to authorize a class action captioned Sylvan Adams v. Amex Bank of Canada was filed in the Superior Court of Quebec, District of Montreal. The motion alleges that prior to December 2003, Amex Bank of Canada ("Amex Bank") charged a foreign currency conversion commission on transactions to purchase goods and services in currencies other than Canadian dollars and failed to disclose the commissions in monthly billing statements or solicitations directed to prospective cardmembers. The proposed class claims reimbursement of all foreign currency conversion commissions, CDN$1,000 in punitive damages per class member, interest and fees and costs.
In May 2003, a purported class action, captioned eGeneral Medical, Inc., et al. v. Visa U.S.A., Inc. et al., was filed in the Eastern District of North Carolina alleging that the fees charged to Internet merchants when funds have been advanced by American Express and are later charged back to those merchants because a consumer transaction has been determined to be the result of fraud, or when a transaction has been disputed by the consumer and the dispute is resolved in the consumer's favor, are excessive. The plaintiffs seek treble damages in an unspecified amount "but which is, at a minimum, hundreds of millions of dollars," disgorgement of fees earned, injunctive and other relief. In November 2003 the plaintiffs made a motion seeking the Court's permission to dismiss the action as to American Express Company without prejudice. Such motion has been approved and the case has been dismissed.
The Company has been named in a number of purported class actions in which
the plaintiffs allege an unlawful antitrust tying arrangement between the
Company's charge cards, credit cards and debit cards in violation of various
state and federal laws, including the following: (i) Cohen Rese Gallery et al.
v. American Express Company et al., U.S. District Court for the Northern
District of California (filed July 2003); (ii) Italian Colors Restaurant v.
American Express Company et al., U.S. District Court for the Northern District
of California (filed August 2003); (iii) DRF Jeweler Corp. v. American Express
Company et al., U.S. District Court for the Southern District of New York (filed
December 2003); (iv) Hayama Inc. v. American Express Company et al., Superior
Court of California, Los Angeles County (filed December 2003); (v) Chez Noelle
Restaurant v. American Express Company et al., U.S. District Court for the
Southern District of New York (filed January 2004); (vi) Mascari Enterprises
d/b/a Sound Stations v. American Express Company et al., U.S. District Court for
the Southern District of New York (filed January 2004); (vii) Mims Restaurant v.
American Express Company et al., U.S. District Court for the Southern District
of New York (filed February 2004); and (viii) The Marcus Corporation v. American
Express Company et al., U.S. District Court for the Southern District of New
York (filed July 2004). The plaintiffs in these actions seek injunctive relief
and an unspecified amount of damages. Upon motion to the Court by the Company,
the venue of the Cohen Rese and Italian Colors actions was moved to the U.S.
District Court for the Southern District of New York in December 2003. Each of
the above-listed actions (except for Hayama) is now pending in the U.S. District
Court for the Southern District of New York. On April 30, 2004, the Company
filed a motion to dismiss all the actions filed prior to such date that
were pending in the U.S. District Court for the Southern District of New York. A decision on that motion is pending. In addition, the Company has asked the Court in the Hayama action to stay that action pending resolution of the motion in the Southern District of New York. The Company has also filed a motion to dismiss the action filed by The Marcus Corporation.
In December 2004, a purported class action captioned National Supermarkets Association, Inc., Mascari Enterprises, Inc. d/b/a Sound Stations, and Bunda Starr Corp. d/b/a Brite Wines and Spirits v. MBNA America Bank, N.A., MBNA Corp., Citibank (South Dakota) N.A. and Citigroup, Incorporated, was filed in the United States District Court for the Southern District of New York. The action is a lawsuit related to the antitrust tying actions described in the preceding paragraph. Although the Company is not named as a defendant, the plaintiffs in this action are also plaintiffs in the direct actions against American Express described in the preceding paragraph. This lawsuit alleges that, by agreeing to issue American Express-branded cards, MBNA and Citibank have conspired with the Company in the alleged wrongful tying arrangement described in the preceding paragraph. The Company believes this lawsuit is without merit and is contrary to the Department of Justice's successful efforts to render unenforceable Visa's and MasterCard's rules that prevented banks from issuing American Express-branded cards in the United States. The Company also believes that this lawsuit is susceptible to the same defenses available to the Company in the direct actions filed against it, which are described in the preceding paragraph, and will seek to intervene in this action and have it dismissed.
In July 2003, a motion to authorize a class action captioned Option Consommateurs and Normand Painchaud v. American Express Bank of Canada et al. was filed in the Superior Court of Quebec, District of Montreal. The motion, which also names as defendants Citibank Canada, MBNA Canada, Capital One and Royal Bank of Canada, alleges that the defendants have violated the Quebec Consumer Protection Act by imposing finance charges on credit card transactions prior to 21 days following the receipt of the statement containing the charge. It is alleged that the Quebec Consumer Protection Act provisions which require a 21 day grace period prior to imposing finance charges applies to credit cards issued by American Express Bank of Canada in Quebec and that finance charges imposed prior to this grace period violate the Act. The proposed class seeks reimbursement of all finance charges imposed in violation of the Act, $200 in punitive damages per class member, interest and fees and costs.
In November 2004, the Company filed a lawsuit captioned American Express Travel Related Services Company, Inc. v. VISA USA Inc., MasterCard International, Inc. et al. in the U.S. District Court for the Southern District of New York. The lawsuit seeks unspecified monetary damages against VISA, MasterCard and eight major banks that are members of the two card associations for the business lost as a result of the illegal, anticompetitive practices of the card associations that effectively locked the Company out of the bank-issued card business in the United States. The lawsuit follows the U.S. Supreme Court's October 2004 decision not to hear an appeal from VISA and MasterCard that sought to overturn a lower court ruling that found the two card associations in violation of U.S. antitrust laws.
AEFA PROCEEDINGS
In November 2002, a suit, captioned Haritos et al. v. American Express Financial Corporation and IDS Life Insurance Company, was filed in the United States District Court for the District of Arizona. The suit is filed by plaintiffs who purport to represent a class of all persons that have purchased financial plans from AEFA advisors from November 1997 through July 2004. Plaintiffs allege that the sale of the plans violates the Investment Advisers Act of 1940 (the "IAA"). The suit seeks an unspecified amount of damages, rescission of the investment advisor plans and restitution of monies paid for such plans. In June 2004, the Court denied the Company's motion to dismiss the action as a matter of law. The Court did indicate, however, that the plaintiffs may not have a compelling case under the IAA. Notwithstanding the Court's denial of the Company's motion to dismiss, the Company believes that the plaintiffs' case suffers from various factual and legal weaknesses and it intends to continue to defend the case vigorously, and the Company has filed a motion to dismiss plaintiff's Second Amended Complaint.
In October 2004, a purported class action complaint captioned In re American Express Financial Advisors Securities Litigation was filed in the United States District Court for the Southern District of New York. The action names the following defendants: American Express, American Express Financial, American Express Advisors and James M. Cracchiolo in his capacity as President and CEO of American Express Financial and Chairman and CEO of American Express Advisors. Certain American Express Funds are also named as nominal defendants. The action is a consolidation of the following actions: (i) Naresh Chand v. American Express Company, American Express Financial Corporation and American Express Financial Advisors, Inc. (filed March 2004); (ii) Elizabeth Flenner v. American Express Company et al. (filed March 2004); (iii) John B. Perkins v. American Express Company et al. (filed March 2004); (iv) Kathie Kerr v. American Express Company et al. (filed April 2004); and (v) Leonard D. Caldwell, Gale D. Caldwell and Richard T. Allen v. American Express Company et al. (filed April 2004). The plaintiffs allege violations of certain federal securities laws and/or state statutory and common law. The plaintiffs, among other things, allege that AEFA's financial plans are used as a means to recommend mutual funds that pay "undisclosed kickbacks" to the Company. The Class Period at issue is March 10, 1999 through February 9, 2004. Plaintiffs seek to represent one class consisting of all AEFA clients who purchased the preferred mutual funds during the relevant period and another class comprised of those AEFA clients who also purchased financial plans during the relevant period. For their damages, plaintiffs seek restitution of the "undisclosed kickbacks" and the fees paid to the Company for the financial plans. The Company has filed a motion to dismiss the complaint. In addition, two lawsuits making similar allegations (based solely on state causes of actions) were filed in the Supreme Court of the State of New York: Beer v. American Express Company and American Express Financial Advisors and You v. American Express Company and American Express Financial Advisors. The Company has sought to remove these two actions to the United States District Court for the Southern District of New York. Plaintiffs have sought to remand the cases to state court. The Court's decision on the remand motion is pending.
In July 2003, a National Association of Securities Dealers, Inc. ("NASD") arbitration panel held Securities America, Inc. ("SAI"), a wholly owned subsidiary of the Company, liable in connection with certain claims filed by clients of a former broker of SAI who adopted an assumed identity to work for SAI and then allegedly engaged in improper practices in connection with his clients and their accounts. The arbitration panel awarded the clients approximately $1.4 million in compensatory damages and approximately $4.1 million in punitive damages. SAI filed a motion to have the decision of the arbitration panel vacated. The matter was subsequently settled for a reduced amount. To date, 16 additional claims by other clients (or groups of clients) of the former broker have been filed against SAI in various courts and before the NASD. Eleven of those claims have been settled or resolved by final judgment.
The SEC, NASD and several state attorneys general have brought numerous enforcement proceedings against individuals and firms challenging several mutual fund industry practices
including late trading (allowing mutual fund customers to receive 4:00 p.m. ET prices for orders placed or confirmed after 4:00 p.m. ET), market timing (abusive rapid trading in mutual fund shares), disclosure of revenue sharing arrangements, which are paid by fund advisers or companies to brokerage firms who agree to sell those funds, and inappropriate sales of Class B (i.e., no front end load) shares. AEFA has received requests for information and has been contacted by regulatory authorities concerning its practices and is cooperating fully with these inquiries.
In May 2004, the Company reported that the broker-dealer subsidiary of AEFA had received notification from the staff of the NASD indicating that it had made a preliminary determination to recommend that the NASD bring an action against AEFA for potential violations of federal securities laws and the rules and regulations of the SEC and the NASD. The notice received by AEFA comes in the context of a broader industry-wide review of the mutual fund and brokerage industries that is being conducted by various regulators. The NASD staff's allegations relate to AEFA's practices with respect to various revenue sharing arrangements pursuant to which AEFA receives payments from certain non-proprietary mutual funds for agreeing to make their products available through AEFA's national distribution network. In particular, the NASD has alleged that AEFA (i) failed to properly disclose such revenue sharing arrangements from January 2001 until May 2003, (ii) failed to properly disclose such revenue sharing arrangements in its brokerage confirmations and (iii) received directed brokerage from January 2001 until December 2003. The notice from the NASD staff is intended to give AEFA an opportunity to discuss the issues it has raised. AEFA has been availing itself of this opportunity and continues to cooperate fully with the NASD's inquiry regarding this matter, as well as with all other regulatory inquiries.
On February 17, 2005, the New Hampshire Bureau of Securities Regulation filed a petition against AEFA. The petition alleges that AEFA violated New Hampshire and federal securities laws by failing to disclose revenue sharing and directed brokerage payments received from non-proprietary mutual funds for agreeing to make their products available through AEFA's national distribution network. The petition also alleges that AEFA failed to disclose incentives for advisors to sell proprietary products and other alleged conflicts of interest. The petition seeks, among other things, an order to show cause why AEFA's broker-dealer license should not be denied, suspended or revoked, a proposed fine and restitution of financial planning fees during the relevant period (principally 1999 to 2003) in the amount of $17.5 million, and disgorgement of revenue sharing and directed brokerage payments and other relief. AEFA intends to cooperate fully in this matter.
In addition to the foregoing, in February, 2004 AEFA was one of 15 firms that settled an enforcement action brought by the SEC and the NASD relating to breakpoint discounts (i.e., volume discounts available to investors who make large mutual fund purchases) pursuant to which AEFA agreed to pay a fine of $3.7 million and to reimburse customers to whom the firm failed to deliver such discounts.
In June 2004, an action captioned John E. Gallus et al. v. American Express Financial Corp. and American Express Financial Advisors, Inc. was filed in the United States District Court for the District of Arizona. The plaintiffs allege that they are investors in several "AXP" mutual funds and they purport to bring the action derivatively on behalf of those funds under the Investment Company Act of 1940. The plaintiffs allege that fees allegedly paid to the defendants by the funds for investment advisory and administrative services are excessive. The plaintiffs seek remedies including restitution and rescission of investment advisory and distribution agreements. The plaintiffs voluntarily agreed to transfer this case to the United States District Court for the District of Minnesota. The Company has filed a motion to dismiss the complaint.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
We did not submit any matters to a vote of our security holders during the last quarter of our fiscal year ended December 31, 2004.
PART II
ITEM 5. MARKET FOR COMPANY'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
(a) Our Common Shares trade principally on The New York Stock Exchange under the trading symbol AXP. In addition, in the United States our Common Shares are also listed on the Boston, Chicago and Pacific Stock Exchanges. As of December 31, 2004, we had 50,394 common shareholders of record. You can find price and dividend information concerning our
Common Shares in Note 21 to the Consolidated Financial Statements, which can be found on page 123 of our Annual Report to Shareholders, which Note is incorporated herein by reference. You can find information on securities authorized for issuance under our equity compensation plans under the captions "Executive Compensation -- Share Plans" and "--Equity Compensation Plan Information" in the Company's definitive proxy statement for our Annual Meeting of Shareholders that is scheduled to be held on April 27, 2005. The information found under such captions is incorporated herein by reference. Our proxy statement for the Annual Meeting will be filed with the SEC not later than April 30, 2005 (i.e., within 120 days of the close of our most recently completed fiscal year).
(b) Not applicable.
(c) The table below sets forth the information with respect to purchases of our common stock made by or on behalf of the Company during the quarter ended December 31, 2004.
Total Number of Maximum Number of
Shares Purchased as Shares that May Yet
Part of Publicly Be Purchased Under
Total Number of Average Price Announced Plans or the Plans or
Period Shares Purchased Paid Per Share Programs(3) Programs
---------------------------- ---------------- -------------- ------------------- -------------------
October 1-31, 2004
Repurchase program (1) 1,500,000 $ 52.69 1,500,000 87,959,423
Employee transactions (2) 310,854 $ 52.36 N/A N/A
November 1-30, 2004
Repurchase program (1) 9,210,700 $ 55.23 9,210,700 78,748,723
Employee transactions (2) 728,682 $ 54.43 N/A N/A
December 1-31, 2004
Repurchase program (1) 4,252,300 $ 56.06 4,252,300 74,496,423
Employee transactions (2) 887,664 $ 55.86 N/A N/A
---------- ------------ ----------
Total
Repurchase program (1) 14,963,000 $ 55.21 14,963,000
Employee transactions (2) 1,927,200 $ 54.76 N/A
|
(1) Our Board of Directors authorized the repurchase of 120 million shares of common stock in November 2002. At present, there are approximately 74.5 million shares remaining under such authorization. Such authorization does not have an expiration date, and at present, there is no intention to modify or otherwise rescind such authorization. Since September 1994, we have acquired 495.5 million shares of our common stock under various Board authorizations to repurchase up to an aggregate of 570 million shares, including purchases made under agreements with third parties.
(2) Includes: (a) shares delivered by or deducted from holders of employee stock options who exercised options (granted under our incentive compensation plans in satisfaction of the exercise price and/or tax withholding obligation of such holders) and (b) restricted shares withheld (under the terms of grants under our incentive compensation plans) to offset tax withholding obligations that occur upon vesting and release of restricted shares. Our incentive compensation plans provide that the value of the shares delivered or attested to, or
withheld, shall be the average of the high and low price of the Company's common stock on the date the relevant transaction occurs.
(3) Share purchases under publicly announced programs are made pursuant to open market purchases or privately negotiated transactions (including with employee benefit plans) as market conditions warrant and at prices we deem appropriate.
ITEM 6. SELECTED FINANCIAL DATA
The "Consolidated Five-Year Summary of Selected Financial Data" appearing on page 123 of the Company's 2004 Annual Report to Shareholders is incorporated herein by reference.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION
The information set forth under the heading "Financial Review" appearing on pages 26-73 of the Company's 2004 Annual Report to Shareholders is incorporated herein by reference.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information set forth under the headings "American Express Company Risk Management" and "Risk Management" appearing on pages 41-44, page 56, page 64 and page 67 and Note 9 to the Consolidated Financial Statements on pages 104-105 of the Company's 2004 Annual Report to Shareholders is incorporated herein by reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The "Report of Independent Registered Public Accounting Firm," the "Consolidated Financial Statements" and the "Notes to Consolidated Financial Statements" appearing on pages 77-122 of the Company's 2004 Annual Report to Shareholders are incorporated herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not Applicable.
ITEM 9A. CONTROLS AND PROCEDURES
The Company's management, with the participation of the Company's Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company's disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")) as of the end of the period covered by this report. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Company's disclosure controls and procedures are effective.
There have not been any changes in the Company's internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the Company's fourth fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.
"Management's Report on Internal Control over Financial Reporting," which sets forth management's evaluation of internal control over financial reporting, and the "Report of Independent Registered Public Accounting Firm on Internal Control over Financial Reporting," appearing on pages 75-76 of the Company's 2004 Annual Report to Shareholders, are incorporated herein by reference.
ITEM 9B. OTHER INFORMATION
Not applicable.
PART III
ITEMS 10, 11, 12 AND 13. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY;
EXECUTIVE COMPENSATION; SECURITY OWNERSHIP OF
CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS; CERTAIN
RELATIONSHIPS AND RELATED TRANSACTIONS
We will file with the SEC, not later than April 30, 2005 (i.e., within 120 days after the close of our last fiscal year), a definitive proxy statement, pursuant to Regulation 14A of the SEC in connection with our Annual Meeting of Shareholders to be held April 27, 2005, which involves the election of directors. The following portions of such proxy statement are incorporated herein by reference:
o paragraph 6, sentence 1 included under the caption "Corporate Governance -
Summary of the Corporate Governance Principles";
o information under the caption "Corporate Governance - Board Meetings";
o information included in the table under the caption "Corporate Governance -
Membership on Board Committees";
o information under the caption "Corporate Governance - Compensation and
Benefits Committee";
o information under the caption "Corporate Governance - Nominating and
Governance Committee";
o information included under the caption "Corporate Governance - Audit
Committee";
o information included under the caption "Compensation of Directors";
o information included under the caption "Ownership of Our Common Shares";
o information included under the caption "Items to be Voted on by
Shareholders - Item 1 - Election of Directors";
o information included under the caption "Executive Compensation" (excluding
the Report of the Compensation and Benefits Committee, which precedes the
Summary Compensation Table, and excluding the information under the
caption "- Performance Graph");
o information under the caption "Certain Transactions"; and
o information under the caption "Section 16(a) Beneficial Ownership Reporting
Compliance."
In addition, the information regarding executive officers called for by Item 401(b) of Regulation S-K may be found under the caption "Executive Officers of the Company" in this report.
We have adopted a set of Corporate Governance Principles, which together with the charters of the five standing committees of the Board of Directors (Audit; Compensation and Benefits; Executive; Nominating and Governance; and Public Responsibility) and our Code of
Conduct (which constitutes the Company's code of ethics), provide the framework for the governance of the Company. A complete copy of our Corporate Governance Principles, the charters of each of the Board committees, the Code of Conduct (which applies not only to our Chief Executive Officer, Chief Financial Officer and Comptroller, but also to all other employees of the Company) and the Code of Business Conduct for the Members of the Board of Directors may be found by clicking on the "Corporate Governance" link found on our Investor Relations Web site at http://ir.americanexpress.com. You may also access our Investor Relations Web site through the Company's main Web site at www.americanexpress.com by clicking on the "About American Express" link, which is located at the bottom of the Company's homepage. (Information from such sites is not incorporated by reference into this report.) You may obtain free copies of these materials by also writing to our Secretary at the Company's headquarters.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information set forth under the heading "Item 2 -- Selection of Auditors -- Audit Fees"; "-- Audit-Related Fees"; " -- Tax Fees"; " -- All Other Fees"; " -- Services to Associated Organizations"; and " -- Policy on Pre-Approval of Services Provided by Independent Registered Public Accountants, which will appear in the Company's definitive proxy statement in connection with our Annual Meeting of Shareholders to be held April 27, 2005, is incorporated herein by reference.
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) 1. Financial Statements:
The financial statements filed as a part of this report are listed on page F-1 hereof under "Index to Financial Statements covered by Report of Independent Registered Public Accounting Firm", which is incorporated herein by reference.
2. Financial Statement Schedules:
The financial statement schedules required to be filed in this report are listed on page F-1 hereof under "Index to Financial Statements covered by Report of Independent Registered Public Accounting Firm", which is incorporated herein by reference.
3. Exhibits:
The list of exhibits required to be filed as exhibits to this report are listed on pages E-1 through E-5 hereof under "Exhibit Index", which is incorporated herein by reference.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
AMERICAN EXPRESS COMPANY
March 10, 2005 /s/ Gary L. Crittenden
----------------------------
Gary L. Crittenden
Executive Vice President and
Chief Financial Officer
|
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Company and in the capacities and on the date indicated.
/s/ Kenneth I. Chenault /s/ Peter R. Dolan ---------------------------------------------- ------------------- Kenneth I. Chenault Peter R. Dolan Chairman, Chief Executive Officer and Director Director /s/ Gary L. Crittenden /s/ Vernon E. Jordan, Jr. ---------------------------- ------------------------- Gary L. Crittenden Vernon E. Jordan, Jr. Executive Vice President and Director Chief Financial Officer /s/ Joan C. Amble ------------------------------------- --------------- Joan C. Amble Jan Leschly Senior Vice President and Comptroller Director /s/ Daniel F. Akerson /s/ Richard A. McGinn --------------------- --------------------- Daniel F. Akerson Richard A. McGinn Director Director /s/ Charlene Barshefsky /s/ Edward D. Miller ----------------------- -------------------- Charlene Barshefsky Edward D. Miller Director Director /s/ William G. Bowen /s/ Frank P. Popoff -------------------- ------------------- William G. Bowen Frank P. Popoff Director Director /s/ Ursula M. Burns /s/ Robert D. Walter ------------------- -------------------- Ursula M. Burns Robert D. Walter Director Director |
March 10, 2005
AMERICAN EXPRESS COMPANY
INDEX TO FINANCIAL STATEMENTS
COVERED BY REPORT OF INDEPENDENT REGISTERED
PUBLIC ACCOUNTING FIRM
(ITEMS 15(a)(1) and
15(a)(2) of Form 10-K)
ANNUAL REPORT TO
SHAREHOLDERS
FORM 10-K (PAGE)
--------- ----------------
American Express Company and Subsidiaries:
Data incorporated by reference from 2004 Annual Report to
Shareholders:
Management's report on internal control over financial reporting... 75
Report of independent registered public accounting firm on
internal control over financial reporting........................ 76
Report of independent registered public accounting firm............. 77
Consolidated statements of income for the three
years ended December 31, 2004.................................... 78
Consolidated balance sheets at December 31, 2004
and 2003......................................................... 79
Consolidated statements of cash flows for the
three years ended December 31, 2004.............................. 80
Consolidated statements of shareholders' equity for the
three years ended December 31, 2004.............................. 81
Notes to consolidated financial statements........................... 82-122
Consent of independent registered public accounting firm................. F-2
Schedules:
I - Condensed financial information of the Company.................... F-3 - F-7
II - Valuation and qualifying accounts for the three years ended
December 31, 2004................................................. F-8
|
All other schedules for American Express Company and subsidiaries have been omitted since the required information is not present or not present in amounts sufficient to require submission of the schedule, or because the information required is included in the respective financial statements or notes thereto.
***
The consolidated financial statements of American Express Company (including the report of independent registered public accounting firm) listed in the above index, which are included in the Annual Report to Shareholders for the year ended December 31, 2004, are hereby incorporated by reference. With the exception of the pages listed in the above index, unless otherwise incorporated by reference elsewhere in this Annual Report on Form 10-K, the 2004 Annual Report to Shareholders is not to be deemed filed as part of this report.
EXHIBIT 23
CONSENT OF INDEPENDENT REGISTERED
PUBLIC ACCOUNTING FIRM
We consent to the incorporation by reference in this Annual Report on Form 10-K of American Express Company of our reports dated February 18, 2005, with respect to the consolidated financial statements of American Express Company, and management's assessment of the effectiveness of internal control over financial reporting and the effectiveness of internal control over financial reporting of American Express Company, which are included in the 2004 Annual Report to Shareholders of American Express Company (the "Company").
Our audits also included the financial statement schedules of American Express Company listed in Item 14(a). These schedules are the responsibility of the Company's management. Our responsibility is to express an opinion based on our audits. In our opinion, as to which the date is February 18, 2005, the financial statement schedules referred to above, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein.
We also consent to the incorporation by reference in the Registration Statements (Form S-8 No. 2-46918, No. 2-59230, No. 2-64285, No. 2-73954, No. 2-89680, No. 33-01771, No. 33-02980, No. 33-28721, No. 33-33552, No. 33-36422, No. 33-48629, No. 33-62124, No. 33-65008, No. 33-53801, No. 333-12683, No. 333-41779, No. 333-52699, No. 333-73111, No. 333-38238, and No. 333-98479; Form S-3 No. 2-89469, No. 33-43268, No. 33-50997, No. 333-32525, No. 333-45445, No. 333-47085, No. 333-55761, No. 333-51828, No. 333-113768, and No. 333-117835) and in the related Prospectuses of our report dated February 18, 2005, with respect to the consolidated financial statements of American Express Company incorporated herein by reference, our report dated February 18, 2005, with respect to American Express Company management's assessment of the effectiveness of internal control over financial reporting and the effectiveness of internal control over financial reporting of American Express Company, included herein, and our report in the preceding paragraph with respect to the financial statement schedules of American Express Company included in this Annual Report on Form 10-K of American Express Company.
/s/ Ernst & Young LLP New York, New York March 7, 2005 |
AMERICAN EXPRESS COMPANY AND CONSOLIDATED SUBSIDIARIES
SCHEDULE I -- CONDENSED FINANCIAL INFORMATION OF THE COMPANY
CONDENSED STATEMENTS OF INCOME
(PARENT COMPANY ONLY)
(MILLIONS)
Years Ended December 31,
-------------------------------
2004 2003 2002
------- ------- -------
Revenues $ 220 $ 185 $ 241
------- ------- -------
Expenses:
Interest 427 383 339
Human resources 105 99 88
Other 186 121 242
------- ------- -------
Total 718 603 669
------- ------- -------
Pretax loss (498) (418) (428)
Income tax benefit (205) (159) (209)
------- ------- -------
Net loss before equity in net income of subsidiaries (293) (259) (219)
and affiliates
Equity in net income of subsidiaries and affiliates
(a) 3,738 3,246 2,890
------- ------- -------
Net income $ 3,445 $ 2,987 $ 2,671
======= ======= =======
|
(a) 2004 includes a $109 million non-cash pretax charge ($71 million after tax) relating to the January 1, 2004 adoption of Statement of Position 03-1, "Accounting and Reporting by Insurance Enterprises for Certain Nontraditional Long-Duration Contracts and for Separate Accounts." 2003 includes a $20 million non-cash pretax charge ($13 million after tax) relating to the December 31, 2003 adoption of Financial Accounting Standards Board Interpretation No. 46, "Consolidation of Variable Interest Entities," revised December 2003.
See Notes to Condensed Financial Information of the Parent Company on page F-6.
AMERICAN EXPRESS COMPANY AND CONSOLIDATED SUBSIDIARIES
SCHEDULE I -- CONDENSED FINANCIAL INFORMATION OF THE COMPANY
CONDENSED BALANCE SHEETS
(PARENT COMPANY ONLY)
(MILLIONS, EXCEPT SHARE AMOUNTS)
December 31,
---------------------
2004 2003
-------- --------
ASSETS
Cash and cash equivalents $ 3 $ 4
Equity in net assets of subsidiaries and affiliates 16,231 16,456
Accounts receivable and accrued interest, less
reserves 6 5
Land, buildings and equipment - at cost, less
accumulated depreciation: 2004, $82; and 2003, $77 47 47
Due from subsidiaries 6,033 6,286
Other assets 261 363
-------- --------
Total assets $ 22,581 $ 23,161
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Accounts payable and other liabilities $ 424 $ 321
Long-term debt 5,740 5,739
Due to subsidiaries 397 1,778
-------- --------
Total liabilities 6,561 7,838
Shareholders' equity:
Common shares, $.20 par value,
authorized 3.6 billion shares; issued and
outstanding 1,249 million shares in 2004
and 1,284 million shares in 2003 250 257
Additional paid-in capital 7,316 6,081
Retained earnings 8,196 8,793
Accumulated other comprehensive income (loss), net of
tax:
Net unrealized securities gains 760 931
Net unrealized derivatives losses (142) (446)
Foreign currency translation adjustments (344) (278)
Minimum pension liability (16) (15)
-------- --------
Total accumulated other comprehensive income 258 192
-------- --------
Total shareholders' equity 16,020 15,323
-------- --------
Total liabilities and shareholders' equity $ 22,581 $ 23,161
======== ========
|
See Notes to Condensed Financial Information of the Parent Company on page F-6.
AMERICAN EXPRESS COMPANY AND CONSOLIDATED SUBSIDIARIES
SCHEDULE I -- CONDENSED FINANCIAL INFORMATION OF THE COMPANY
CONDENSED STATEMENTS OF CASH FLOWS
(PARENT COMPANY ONLY)
(MILLIONS)
Years Ended December 31,
-------------------------------
2004 2003 2002
------- ------- -------
Cash flows from operating activities: $ 3,445 $ 2,987 $ 2,671
Net income
Adjustments to reconcile net income to cash
provided by (used in) operating activities:
Equity in net income of subsidiaries
and affiliates (3,738) (3,246) (2,890)
Dividends received from subsidiaries
and affiliates 3,435 1,688 1,812
Other operating activities, primarily with subsidiaries (76) (2,380) (705)
------- ------- -------
Net cash provided by (used in) operating activities 3,066 (951) 888
------- ------- -------
Purchase of land, building and equipment (10) (19) (93)
------- ------- -------
Net cash used in investing activities (10) (19) (93)
------- ------- -------
Cash flows from financing activities:
Issuance of American Express common shares 1,055 348 161
Repurchase of American Express
common shares (3,578) (1,391) (1,153)
Dividends paid (535) (471) (430)
Net increase in debt 1 2,994 625
Redemption of intercompany debentures -- (515) --
------- ------- -------
Net cash (used in) provided by financing activities (3,057) 965 (797)
------- ------- -------
Net decrease in cash and cash equivalents (1) (5) (2)
Cash and cash equivalents at beginning of year 4 9 11
------- ------- -------
Cash and cash equivalents at end of year $ 3 $ 4 $ 9
======= ======= =======
|
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for interest (net of amounts capitalized) in 2004, 2003 and 2002 was $174 million, $182 million and $169 million, respectively. Net cash received for income taxes in 2004, 2003 and 2002 was $384 million, $152 million and $231 million, respectively.
See Notes to Condensed Financial Information of the Parent Company on page F-6.
AMERICAN EXPRESS COMPANY AND CONSOLIDATED SUBSIDIARIES
SCHEDULE I -- CONDENSED FINANCIAL INFORMATION OF THE COMPANY
NOTES TO CONDENSED FINANCIAL INFORMATION OF THE COMPANY
(PARENT COMPANY ONLY)
1. Principles of Consolidation
The accompanying condensed financial statements include the accounts of American Express Company (the "Parent Company") and, on an equity basis, its subsidiaries and affiliates. Parent Company revenues and expenses, other than human resources expenses and interest expense on long-term debt, are primarily related to intercompany transactions with subsidiaries and affiliates. These financial statements should be read in conjunction with the consolidated financial statements and the accompanying notes thereto of American Express Company and its subsidiaries.
Certain amounts from prior years have been reclassified to conform to the current presentation.
2. Long-term debt consists of (millions):
December 31,
-----------------
2004 2003
------ -------
1.85% Convertible Senior Debentures due
December 1, 2033 $2,000 $2,000
3 3/4% Notes due November 20, 2007 747 746
4 3/4% Notes due June 17, 2009 499 --
4 7/8% Notes due July 15, 2013 994 993
5 1/2% Notes due September 12, 2006 1,001 1,002
6 3/4% Senior Debentures due June 23, 2004 -- 500
6 7/8% Notes due November 1, 2005 499 498
------ ------
$5,740 $5,739
====== ======
|
The Parent Company's 1.85% Convertible Senior Debentures due 2033 (the "Convertible Debentures") have a current base conversion price of $69.41 and a contingent conversion threshold of $86.76 per share. Prior to the third quarter of 2004, these Convertible Debentures were contingently convertible into cash or common shares of the Parent Company at the Parent Company's option. During the third quarter of 2004, in response to the issuance of EITF 04-08 (Emerging Issues Task Force 04-08, "The Effect of Contingently Convertible Instruments on Diluted Earnings Per Share"), the Parent Company notified the trustee and holders of the Convertible Debentures that the Parent Company was exercising its election stipulated in the Convertible Debentures that, upon conversion of the Convertible Debentures at any time after the date of such notice, the Parent Company will be required to deliver cash in an amount at least equal to the accreted principal amount of the Convertible Debentures converted. As a result of this election, the Parent Company will also be required to
AMERICAN EXPRESS COMPANY AND CONSOLIDATED SUBSIDIARIES
SCHEDULE I -- CONDENSED FINANCIAL INFORMATION OF THE COMPANY
NOTES TO CONDENSED FINANCIAL INFORMATION OF THE COMPANY
(PARENT COMPANY ONLY)
deliver only cash in connection with any principal value conversion pursuant to the trading price condition. The Parent Company may not revoke this election without the consent of holders of a least a majority of the original principal amount of the Convertible Debentures.
As a result of the proposed spin-off of American Express Financial Corporation, a wholly-owned subsidiary of the Parent Company, the Convertible Debentures will be convertible at the current base conversion price of $69.41 per share for a period of at least 20 days beginning on the day the Parent Company provides notice of the special dividend to the holders of the Convertible Debentures and ending on the day immediately prior to the commencement of "ex-dividend" trading of the distributed shares. The Parent Company will be obligated to pay at least the accreted principal amount in cash for any Convertible Debentures that are converted during the period. In addition, the per-share prices and conversion ratios contained in the Convertible Debentures will be adjusted under anti-dilution provisions.
Aggregate annual maturities of long-term debt for the five years ending December 31, 2009 are as follows (millions): 2005, $499; 2006, $1,001; 2007, $747; 2008, $0; and 2009, $499.
3. Intercompany debentures consisted solely of Junior Subordinated Debentures issued to American Express Company Capital Trust I, a wholly owned subsidiary of the Company. The Company exercised its option to redeem such Junior Subordinated Debentures, in whole, on July 16, 2003.
AMERICAN EXPRESS COMPANY AND CONSOLIDATED SUBSIDIARIES
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
THREE YEARS ENDED DECEMBER 31, 2004
(MILLIONS)
Reserve for credit losses, Reserve for doubtful
loans and discounts accounts receivable
------------------------------- -------------------------------------
2004 2003 2002 2004 2003 2002
------- ------- ------- ------- ------- -------
Balance at beginning of period $ 1,121 $ 1,226 $ 993 $ 934 $ 958 $ 1,166
Additions:
Charges to income 1,188 1,336 1,526 1,254(a) 1,304(a) 1,334(a)
Recoveries of amounts previously
written-off 94 61 101 -- -- --
Deductions:
Charges for which reserves were
provided (1,319) (1,502) (1,394) (1,292) (1,328) (1,542)
------- ------- ------- ------- ------- -------
Balance at end of period $ 1,084 $ 1,121 $ 1,226 $ 896 $ 934 $ 958
======= ======= ======= ======= ======= =======
|
(a) Before recoveries on accounts previously written-off, which are credited to income (millions): 2004 - $196, 2003 - $223 and 2002 - $241.
EXHIBIT INDEX
The following exhibits are filed as part of this Annual Report. The exhibit numbers preceded by an asterisk (*) indicate exhibits electronically filed herewith. All other exhibit numbers indicate exhibits previously filed and are hereby incorporated herein by reference. Exhibits numbered 10.1 through 10.21, 10.23 through 10.31 and 10.35 through 10.37 are management contracts or compensatory plans or arrangements.
3.1 Company's Restated Certificate of Incorporation (incorporated by reference to Exhibit 4.1 of the Company's Registration Statement on Form S-3, dated July 31, 1997 (Commission File No. 333-32525)).
3.2 Company's Certificate of Amendment of the Certificate of Incorporation (incorporated by reference to Exhibit 3.1 of the Company's Quarterly Report on Form 10-Q (Commission File No. 1-7657) for the quarter ended March 31, 2000).
3.3 Company's By-Laws, as amended through January 24, 2005 (incorporated by reference to Exhibit 3.1 of the Company's Current Report on Form 8-K (Commission File No. 1-7657) dated November 22, 2004 (filed January 28, 2005)).
4. The instruments defining the rights of holders of long-term debt
securities of the Company and its subsidiaries are omitted pursuant to
Section (b)(4)(iii)(A) of Item 601 of Regulation S-K. The Company
hereby agrees to furnish copies of these instruments to the SEC upon
request.
10.1 American Express Company 1989 Long-Term Incentive Plan, as amended and restated (incorporated by reference to Exhibit 10.1 of the Company's Quarterly Report on Form 10-Q (Commission File No. 1-7657) for the quarter ended March 31, 1996).
10.2 American Express Company 1989 Long-Term Incentive Compensation Plan Master Agreement, dated February 27, 1995 (incorporated by reference to Exhibit 10.4 of the Company's Current Report on Form 8-K (Commission File No. 1-7657), dated November 22, 2004 (filed January 28, 2005)).
10.3 Amendment dated February 28, 2000 of American Express Company 1989 Long-Term Incentive Compensation Plan Master Agreement dated February 27, 1995 (incorporated by reference to Exhibit 10.2 of the Company's Quarterly Report on Form 10-Q (Commission File No. 1-7657) for the quarter ended March 31, 2000).
10.4 American Express Company 1998 Incentive Compensation Plan, as amended on April 22, 2002 (incorporated by reference to Exhibit 10.1 of the Company's Quarterly Report on Form 10-Q (Commission File No. 1-7657) for the quarter ended March 31, 2002).
10.5 American Express Company 1998 Incentive Compensation Plan Master Agreement, dated April 27, 1998 (incorporated by reference to Exhibit 10.1 of the Company's Quarterly Report on Form 10-Q (Commission File No. 1-7657) for the quarter ended September 30, 2004).
10.6 Amendment of American Express Company 1998 Incentive Compensation Plan
Master Agreement, dated April 27, 1998 (incorporated by reference to
Exhibit 10.1 of the Company's Quarterly Report on Form 10-Q (Commission
File No. 1-7657) for the quarter ended March 31, 2000).
10.7 Description of Compensation Payable to Non-Management Directors
(incorporated by reference to Exhibit 10.1 of the Company's Current
Report on Form 8-K (Commission File No. 1-7657), dated November 22,
2004 (filed January 28, 2005)).
10.8 American Express Company Deferred Compensation Plan for Directors, as
amended through July 28, 2003 (incorporated by reference to Exhibit
10.3 of the Company's Current Report on Form 8-K (Commission File No.
1-7657), dated November 22, 2004 (filed January 28, 2005)).
10.9 Description of American Express Company Pay-for-Performance Deferral
Program (incorporated by reference to Exhibit 10.2 of the Company's
Current Report on Form 8-K (Commission File No. l-7657), dated November
22, 2004 (filed January 28, 2005)).
*10.10 American Express Company 2005 Pay-for-Performance Deferral Program
Guide
10.11 American Express Company 1983 Stock Purchase Assistance Plan, as
amended (incorporated by reference to Exhibit 10.6 of the Company's
Annual Report on Form 10-K (Commission File No. 1-7657) for the fiscal
year ended December 31, 1988).
10.12 American Express Company Retirement Plan for Non-Employee Directors, as
amended (incorporated by reference to Exhibit 10.12 of the Company's
Annual Report on Form 10-K (Commission File No. 1-7657) for the fiscal
year ended December 31, 1988).
10.13 Certificate of Amendment of the American Express Company Retirement
Plan for Non-Employee Directors dated March 21, 1996 (incorporated by
reference to Exhibit 10.11 of the Company's Annual Report on Form 10-K
(Commission File No. 1-7657) for the fiscal year ended December 31,
1995).
10.14 American Express Key Executive Life Insurance Plan, as amended
(incorporated by reference to Exhibit 10.12 of the Company's Annual
Report on Form 10-K (Commission File No. 1-7657) for the fiscal year
ended December 31, 1991).
10.15 Amendment of American Express Company Key Executive Life Insurance Plan
(incorporated by reference to Exhibit 10.3 of the Company's Quarterly
Report on Form 10-Q (Commission File No. 1-7657) for the quarter ended
September 30, 1994).
10.16 Amendment of American Express Company Key Executive Life Insurance Plan
(incorporated by reference to Exhibit 10.4 of the Company's Quarterly
report on Form 10-Q (Commission File No. 1-7657) for the quarter ended
March 31, 2000).
E-2
|
10.17 American Express Key Employee Charitable Award Program for Education
(incorporated by reference to Exhibit 10.13 of the Company's Annual
Report on Form 10-K (Commission File No. 1-7657) for the fiscal year
ended December 31, 1990).
10.18 American Express Directors' Charitable Award Program (incorporated by
reference to Exhibit 10.14 of the Company's Annual Report on Form 10-K
(Commission File No. 1-7657) for the fiscal year ended December 31,
1990).
10.19 American Express Company Salary/Bonus Deferral Plan (incorporated by
reference to Exhibit 10.20 of the Company's Annual Report on Form 10-K
(Commission File No. 1-7657) for the fiscal year ended December 31,
1988).
10.20 Amendment of American Express Company Salary/Bonus Deferral Plan
(incorporated by reference to Exhibit 10.4 of the Company's Quarterly
Report on Form 10-Q (Commission File No. 1-7657) for the quarter ended
September 30, 1994).
10.21 Amendment of American Express Salary/Bonus Deferral Plan (incorporated
by reference to Exhibit 10.5 of the Company's Quarterly Report on Form
10-Q (Commission File No. 1-7657) for the quarter ended March 31,
2000).
10.22 Tax Allocation Agreement, dated May 27, 1994, between Lehman Brothers
Holdings Inc. and the Company (incorporated by reference to Exhibit
10.2 of Lehman Brothers Holdings Inc.'s Transition Report on Form 10-K
(Commission File No. 1-9466) for the transition period from January 1,
1994 to November 30, 1994).
10.23 American Express Company 1993 Directors' Stock Option Plan, as amended
(incorporated by reference to Exhibit 10.11 of the Company's Quarterly
Report on Form 10-Q (Commission File No. 1-7657) for the quarter ended
March 31, 2000).
10.24 American Express Senior Executive Severance Plan Effective January 1,
1994 (as amended and restated through May 1, 2000) (incorporated by
reference to Exhibit 10.10 of the Company's Quarterly Report on Form
10-Q (Commission File No. 1-7657) for the quarter ended March 31,
2000).
10.25 Amendments to the American Express Senior Executive Severance Plan,
effective November 26, 2001 (incorporated by reference to Exhibit
10.30 of the Company's Annual Report on Form 10-K (Commission File No.
1-7657) for the year ended December 31, 2001).
10.26 Amendment of Long-Term Incentive Awards under the American Express
Company 1979 and 1989 Long-Term Incentive Plans (incorporated by
reference to Exhibit 10.6 of the Company's Quarterly Report on Form
10-Q (Commission File No. 1-7657) for the quarter ended September 30,
1994).
E-3
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10.27 Amendments of (i) Long-Term Incentive Awards under the American
Express Company 1979 and 1989 Long-Term Incentive Plans, (ii) the
American Express Senior Executive Severance Plan, (iii) the American
Express Supplemental Retirement Plan, (iv) the American Express
Salary/Bonus Deferral Plan, (v) the American Express Key Executive
Life Insurance Plan and (vi) the IDS Current Service Deferred
Compensation Plan(incorporated by reference to Exhibit 10.37 of the
Company's Annual Report on Form 10-K (Commission File No. 1-7657) for
the fiscal year ended December 31, 1997).
10.28 American Express Company Supplemental Retirement Plan Amended and
Restated Effective March 1, 1995 (incorporated by reference to Exhibit
10.1 of the Company's Quarterly Report on Form 10-Q (Commission File
No. 1-7657) for the quarter ended September 30, 1999).
10.29 Amendment to American Express Company Supplemental Retirement Plan
Amended and Restated Effective March 1, 1995 (incorporated by
reference to Exhibit 10.3 of the Company's Quarterly Report on Form
10-Q (Commission File No. 1-7657) for the quarter ended March 31,
2000).
10.30 American Express Directors' Stock Plan (incorporated by reference to
Exhibit 4.4 of the Company's Registration Statement on Form S-8, dated
December 9, 1997 (Commission File No. 333-41779)).
10.31 American Express Annual Incentive Award Plan (incorporated by
reference to Exhibit 10.6 of the Company's Quarterly Report on Form
10-Q (Commission File No. 1-7657) for the quarter ended March 31,
2000).
10.32 Agreement dated February 27, 1995 between the Company and Berkshire
Hathaway Inc. (incorporated by reference to Exhibit 10.43 of the
Company's Annual Report on Form 10-K (Commission File No. 1-7657) for
the fiscal year ended December 31, 1994).
10.33 Agreement dated July 20, 1995 between the Company and Berkshire
Hathaway Inc. and its subsidiaries (incorporated by reference to
Exhibit 10.1 of the Company's Quarterly Report on Form 10-Q
(Commission File No. 1-7657) for the quarter ended September 30,
1995).
10.34 Amendment dated September 8, 2000 to the agreement dated February 27,
1995 between the Company and Berkshire Hathaway Inc. (incorporated by
reference to Exhibit 99.3 of the Company's Current Report on Form 8-K
(Commission File No. 1-7657) dated January 22, 2001).
10.35 Description of a special grant of a stock option and restricted stock
award to Kenneth I. Chenault, the Company's President and Chief
Operating Officer (incorporated by reference to Exhibit 10.2 of the
Company's Quarterly Report on Form 10-Q (Commission File No. 1-7657)
for the quarter ended June 30, 1999).
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10.36 American Express Company 2003 Share Equivalent Unit Plan for
Directors, as adopted and effective April 28, 2003 (incorporated by
reference to Exhibit 10.1 of the Company's Quarterly Report on
Form 10-Q (Commission File No. 1-7657) for the quarter ended
March 31, 2003).
*10.37 Description of Base Salaries of Named Executive Officers for 2005.
*12 Computation in Support of Ratio of Earnings to Fixed Charges.
*13 Portions of the Company's 2004 Annual Report to Shareholders that are
incorporated herein by reference.
16 Letter from Ernst & Young LLP regarding change in certifying accountant
(incorporated by reference to Exhibit 16.1 of the Company's Current ,
which have been omitted from the filed copy and filed separately with
the Securities and Exchange Commission. Report on Form 8-K (Commission
File No. 1-7657), dated November 22, 2004 (as amended by the Company's
Current Report on Form 8-K/A (Commission File No. 1-7657), dated
November 22, 2004 (filed December 9, 2004) and the Company's Current
Report on Form 8-K/A (Commission File No. 1-7657), dated November 22,
2004 (filed March 10, 2005.))).
*21 Subsidiaries of the Company.
*23 Consent of Ernst & Young LLP (contained on page F-2 of this Annual
Report on Form 10-K).
*31.1 Certification of Kenneth I. Chenault, Chief Executive Officer, pursuant
to Rule 13a-14(a) promulgated under the Securities Exchange Act of
1934, as amended.
*31.2 Certification of Gary L. Crittenden, Chief Financial Officer, pursuant
to Rule 13a-14(a) promulgated under the Securities Exchange Act of
1934, as amended.
*32.1 Certification of Kenneth I. Chenault, Chief Executive Officer, and Gary
L. Crittenden, Chief Financial Officer, pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
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EXHIBIT 10.10
2005 Pay-For-Performance
Deferral Program Guide
[LOGO OF AMERICAN EXPRESS COMPANY]
Table of Contents
Page
2005 Pay-for-Performance Deferral Guide 2 - 13
Introduction 2
Payout Provisions 7
Additional Details on Initial Deferred Amount 11
Impact of Transfer on Initial Deferred Amount/Effect of 12
Deferred Amounts on Pension Calculations
Impact of Deferral on U.S. Section 401(k) Plans
and Other Benefit Plans 13
Appendix -- Deferral Election Forms 14 - 25
Worksheet for 2005 Pay-for-Performance
Deferral Program (required for any deferral request) 16
Election Form for 2005 Annual Incentive Award (otherwise 18
payable on or about February 2006)
Election Form for 2005 Base Salary (otherwise payable in 2005) 20
Election Form for PG-XVI Award Granted 22
(otherwise payable on or about February 2008)
Comprehensive Designation of Beneficiary Form (optional 24
for any deferral request)
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American Express Company
2005 PAY-FOR-PERFORMANCE
DEFERRAL PROGRAM GUIDE
These are the basic guidelines of the Compensation and Benefits Committee of the Board of Directors of American Express Company (the "Committee") concerning requests for deferred payment of:
- any cash awards related to the 2005 performance year ("2005 Annual Incentive Award") otherwise payable on or about February 2006, under the American Express Annual Incentive Award Plan or any successor plan or plans ("Incentive Plan") (a),
- 2005 base salary otherwise payable in 2005 under the applicable AXP Salary Deferral Plan or IDS Current Service Deferred Compensation Plan, or any successor plan or plans ("Deferral Plan"), and
- any eventual payout under the Portfolio Grant-XVI Award granted on or about 2005 and otherwise payable on or about February 2008 ("PG-XVI Award") under the American Express 1998 Incentive Compensation Plan (the "1998 Plan").(b)
A deferral of your 2005 Annual Incentive Award, 2005 base salary and/or PG-XVI Award is part of the 2005 Pay-for-Performance Deferral Program (the "Program").
Interest equivalents to be credited under the ROE formula rate have substantially changed for the 2005 Program as compared to prior years so that crediting amounts may be substantially less than under prior programs.
Congress has passed new legislation (known as the American Jobs Creation Act of 2004 (the "AJCA")), generally effective in 2005, which makes significant changes to the area of nonqualified deferred compensation. Any terms and features of, and rights and benefits under, the 2005 Pay-for-Performance Deferral Program Guide and your deferral election may be interpreted, modified or terminated by the Committee in its sole discretion in any manner and at any time without your prior consent or notice (including, but not limited to, deferring the payment date and alignment with legislative and regulatory developments) provided that such interpretation, modification or termination shall not cause deferred amounts to fail to meet the requirement for favorable tax treatment pursuant to the AJCA, applicable regulations thereunder, and other IRS guidance.
(a) The Committee may include other incentive programs or awards in its sole discretion. Such other arrangements will be included in the "2005 Award" and "Incentive Plan" references in this Guide.
(b) Also applies to any Performance Grant as determined by the Committee.
Eligible employees will be notified about the Program. Generally, you are eligible if you are an "active" (as defined) senior level employee (band 50 or above) who participates in the applicable Incentive Plan and: (i) is subject to U.S. income taxes, or (ii) is designated by the Company as an eligible U.S. Dollar-Paid Expatriate who is a U.S. Citizen or U.S. Greencard holder. You may request deferred payment of a 2005 Award, 2005 base salary and/or PG Award subject to the provisions of this Guide, the applicable Incentive Plan, the applicable Deferral Plan and the 1998 Plan.
You must be an "active" employee (i.e., providing services to the Company or an approved subsidiary) on December 31, 2004 and the remainder of 2005 to participate in the 2005 Program. Employees who become newly eligible during 2005 may request deferred payment of eligible compensation if they make their request to defer no later than 30 days after their first day of eligibility (e.g., date of employment for new hires). If your employee status changes to "inactive" during the year for any reason including but not limited to severance payments or your employment terminates (for any reason, including retirement, disability or death), all deferral elections become immediately void except for any deferral amounts already credited.
If you elect to defer a portion of your base salary and your employee status changes to "inactive" (as described above) during the year, your bi-weekly base salary deductions will be discontinued and previous deductions will be credited to your account. In the case of a leave of absence, the bi-weekly base salary deductions in effect prior to the leave will resume when you return from leave to "active" status. Your initial deferral amount for the purposes of the 2005 Program, therefore, will be reduced.
MODIFICATION OR TERMINATION
OF DEFERRAL
Any terms and features of, and benefits and rights under, the 2005 Pay-for-Performance Deferral Program Guide and your deferral election may be interpreted, modified or terminated by the Committee in its sole discretion in any manner and at any time without your prior consent or notice (including, but not limited to, alignment with legislative and regulatory developments) provided that such interpretation, modification or termination shall not cause deferred amounts to fail to meet the requirement for favorable tax treatment pursuant to the AJCA, applicable regulations thereunder, and other IRS guidance. The ROE Formula Rate applied to your deferred balance may be changed, prospectively or retroactively, in the sole discretion of the Committee without your prior consent or notice.
TIMING OF REQUEST
Your request for deferral must be received as indicated in the deferral form on or before Friday, December 31, 2004 and is irrevocable when made (see applicable form in the Appendix). If the deferral form is not received by this date, the deferral election will not be effective. However, employees who become newly eligible during 2005 may request deferred payment of eligible compensation if they make their request to defer no later than 30 days after their first day of eligibility (e.g., date of employment for a new hire).
INITIAL DEFERRED AMOUNT
You can request to defer from one or more of the following sources provided you defer a minimum of $5,000 from each source you select:
- any 2005 Annual Incentive Award that would otherwise be payable for 2005 performance (e.g., otherwise payable on or about February 2006 or possibly payable in whole or in part earlier if the Committee, in its discretion, so decides),
- 2005 base salary, and/or
- PG-XVI Award otherwise payable on or about February 2008.
The combined amounts that you elect to defer from your 2005 Annual Incentive Award, 2005 base salary and/or PG-XVI Award is the "Initial Deferred Amount."
The maximum total amount which you may elect to defer from your 2005 Annual Incentive Award, 2005 base salary and/or PG-XVI award combined is 100% of your annual base salary as of the later of December 31, 2004 or date of employment for a new hire.
Important additional details on the "Initial Deferred Amount" are shown on pages 11 and 12.
PERIOD OF DEFERRAL
You may request that payment(s) be deferred until one of the following (see also section on "Payout Provisions" on page 7):
- a specific date, at least five years from date of deferral (i.e., February 1, 2011 for base salary and Annual Incentive Award deferrals; February 1, 2013 for PG-XVI deferrals) or later; or
- your retirement*, or
- a specified date after your retirement (but not later than 10 years after retirement)*.
Your payment request is subject to the conditions described in this Guide.
DEFERRAL BOOKKEEPING ACCOUNT
A bookkeeping account will be established and maintained (for purposes of this Guide the "Deferral Bookkeeping Account") in your name and will initially be credited with your Initial Deferred Amount as of the applicable date (i.e., when amount would otherwise have been paid). "Interest" equivalents will be accrued on the Initial Deferred Amount and thereafter on the deferred balance in the account, as adjusted annually.
"INTEREST" EQUIVALENTS ON DEFERRED AMOUNT
The deferred balance is "credited" or "debited" with "interest" equivalents based on a schedule established by the Committee (the "ROE Formula Rate"), which is based on the Company's annual return on equity ("ROE"), as reported, subject to adjustment for major accounting changes as determined by the Committee in its sole discretion (see schedule on following page). The ROE Formula Rate applied to your deferred balance may be changed, prospectively or retroactively, in the sole discretion of the Committee without your prior consent or notice.
*Throughout this Guide, "retirement" means the date your employment terminates following your attainment of age 55 and 10 actual or deemed years of service with American Express Company or its affiliates, or such other meaning as determined by the Committee in its sole discretion. Also note that due to recent tax legislation (AJCA), the Company may not make deferred compensation payments upon a separation from service prior to the first day of the seventh calendar month beginning after the date of separation.
ROE Formula Rate Schedule For The
2005 Pay-For-Performance Deferral Program
----------------------------------------- ---------------------------------------------------
then the ROE Formula
If ROE (a) is: Rate (b) applied to the deferral
Bookkeeping Account is:
----------------------------------------- ---------------------------------------------------
0% (and below) ROE reduced by 1 percentage point
1 0%
2 0
3 0
4 0
5 4
6 4
7 4
8 4
9 4
10 5
11 5
12 5
13 6
14 7
15 7
16 8
17 8
18 9
19 9
20 9
21 10
22 11
23 12
24 13
25 (and above) 14 (maximum)
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-A- -B-
------------------------------------------------------ ----------------------------------------------------------
ROE means American Express Company's consolidated As shown above, the deferred balance may
annual Return on Equity as reported by the decrease in value if ROE is zero or negative
Company, subject to adjustment for significant in any year. The ROE Formula Rate applied to
accounting changes as determined by the Committee your deferred balance may be changed,
in its sole discretion. If te Company ROE is not prospectively or retroactively, in the sole
represented on the above Schedule, then the ROE discretion of the Committee without your prior
Formula Rate will be determined using consent or notice.
straight-line interpolation between the
applicable amounts shown.
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PAYOUT PROVISIONS
You may request that the payment of the amount credited to your Deferral Bookkeeping Account begin:
- on the first day of a specific month and year, at least five years from date of deferral (i.e., February 1, 2011 for base salary and Annual Incentive Award deferrals, and February 1, 2013 for PG-XVI deferrals) or later; or
- on the first day of the seventh calendar month beginning after the date of retirement, or
- on the first day of a specific month and year after retirement (but no later than 10 years after retirement and not prior to the first day of the seventh calendar month beginning after the date of retirement).
Payments may be made in a lump sum or in 2 to 15 approximately equal annual installments.
If you choose a lump sum payment, interest equivalents for the year in which payment occurs will be credited or debited through the elected payment date or event using the ROE Formula Rate for the prior year. If you choose annual installments, the balance remaining after each installment payment will continue to be credited or debited with interest equivalents based on the ROE Formula Rate in effect under the Program for that year, or as otherwise determined by the Committee. (In the latter case, references in this Guide to "ROE Formula Rate" and related value calculations would refer to such other rate or calculation as determined by the Committee.)
Generally, each annual installment payment is calculated using an "annuity due" formula, which assumes, for calculation purposes, that the applicable ROE Formula Rate remains constant for the remainder of the elected payment schedule. Because the actual ROE and the ROE Formula Rate could fluctuate, your actual payments could vary from year to year. The first installment payment will be made on the first day of the first month following the elected payment date or event, or as administratively feasible thereafter, and the interest equivalents for that year will be credited or debited through the elected payment date or event using the ROE Formula Rate for the prior year. Thus, the crediting rate applied for an election or event (as defined) effective December 1 will reflect the Rate of the year beginning 23 months earlier, and the crediting rate applied for an election of January 1 will reflect the rate of the year beginning 12 months earlier.
The remaining installment payments will be made on or about March 31st of each year thereafter with each payment credited or debited using the ROE formula rate for the prior year. Regardless of the payout method you choose, payment of your deferral Bookkeeping Account may be accelerated upon a "Change in Control" of American Express Company. Generally, subject to governing documents, a "Change in Control" includes the acquisition of beneficial ownership by certain persons of 25% or more of the Company's common shares or all outstanding voting securities of the Company, the current Board members of the Company cease to constitute a majority thereof or certain reorganizations, mergers, consolidations, liquidations or sales of all or substantially all of the Company's assets. The timing of the payout, and the definition of a "Change in Control" are governed by the provisions of the applicable annual and long-term incentive plans and Committee actions. Refer to these documents for additional information.
If your employment by American Express Company and its affiliates terminates at any time by reason of retirement as defined above, or by reason of disability as defined under the American Jobs Creation Act of 2004, the amount credited to your Deferral Bookkeeping Account will be paid out as soon as practicable following the time and in the manner you have elected in accordance with the Deferral Request Forms in the Appendix (but not later than 10 years following retirement and no earlier than the first day of the seventh
calendar month beginning after the date of retirement), with interest equivalents credited or debited as described above.
If you die before installment payments begin or are completed, your designated beneficiary (see Beneficiary Designation Form in the Appendix) or the legal representatives of your estate (if you do not designate a beneficiary or if your designated beneficiary does not survive you) will receive a lump sum as soon as practicable after your death, of the amount credited to your Deferral Bookkeeping Account, with interest equivalents credited or debited, using the ROE Formula Rate for the prior year.
If your employment by American Express Company and its affiliates terminates for any reason other than disability or death, your Deferral Bookkeeping Account will be paid out in a lump sum as soon as practicable after termination of employment (but no earlier than the first day of the seventh calendar month beginning after the date termination) with interest equivalents credited or debited for the entire period of deferral as described below:
- for terminations prior to the end of the minimum 5-year deferral period the lesser of: (i) the initial deferred amount credited or debited annually at the ROE Formula Rate, or (ii) the initial deferred amount credited annually with the rate of return on the applicable 5-year U.S. Treasury Note, with credits or debits through your termination date (for information on the deferral period, please refer to Page 6 of this Guide); or
- for terminations on or after the minimum 5-year deferral period:
credited or debited annually using the ROE Formula Rate, with credits or
debits through your termination date.
Notwithstanding anything herein to the contrary, if at the time that payment would otherwise be made to you under the Program, (i) you are an executive officer (within the meaning of Rule 3b-7 (or any successor rule) under the Securities Exchange Act of 1934 as amended from time to time) of the Company (an "Executive Officer"), or (ii) payment would be subject to the limitations of Section 162(m) of the Internal Revenue Code of 1986, as amended (or any successor provision) such that your employer would lose some or all of the federal income tax deduction for such payment, then such payment to you shall be further deferred (unless otherwise determined by the Committee in its sole discretion) until the first taxable year in which (x) you are no longer an Executive Officer and (y) you are no longer subject to such limitations in clause (ii) above, with appropriate income equivalents being credited or debited to your Deferral Bookkeeping Account under the Program during the additional period of deferral.
U.S. Federal/State/Local Income Tax (You are strongly urged to consult with your own personal financial, legal and tax advisors on these and any other tax consequences.)
Recent Federal Legislation: Congress recently passed the American Jobs Creation Act of 2004 (the "AJCA"), which is generally effective for 2005 and makes significant changes to area of nonqualified deferred compensation. The AJCA principally affects standards for deferral elections and distributions. Failure to satisfy the requirements of AJCA will result in the imposition of taxes, back interest, and an additional 20% penalty. In addition, the Company is now required to annually report deferred amounts on a participant's W-2 or 1099 for the year deferred, even if not currently includable in income for federal tax purposes.
In order to comply with the new rules, the Committee may, in its sole discretion in any manner and at any time without your prior consent or notice, decide to administer, operate, or amend the Program in conformity with the AJCA in an effort to maintain the effectiveness of deferral elections. See the section "Modification or Termination of Deferral" on Page 3.
Recent State Law Decisions: Recent court decisions in certain states have held that deferrals were constructively received in the year compensation was otherwise receivable and therefore subject to current taxation. Therefore, it is possible that your Initial Deferred Amount, together with interest equivalents credited thereon, may be subject to state income taxation prior to year of receipt even if the deferral is effective for federal taxation purposes. You are strongly urged to consult with your own personal tax advisor
regarding possible state tax obligations with respect to your Initial Deferred Amount under the Program.
If under the AJCA, applicable state tax law decisions or future legislative or administrative guidance your deferral elections are deemed to be ineffective or if the U.S. Internal Revenue Service ("IRS") otherwise does not give effect to your deferral election, either when made, or at a later date, this may result in the Initial Deferred Amount being included in your income in the year it is otherwise payable, and the inclusion of interest equivalents in your income in the year such interest equivalents are credited. These income amounts would be subject to current tax and tax withholding and you would also have to pay interest on any underpayment of tax together with an additional 20% penalty on compensation which is required to be included in income.
U.S. SOCIAL SECURITY TAX
For U.S. Social Security (FICA) tax purposes, the Initial Deferred Amount will
be subject to FICA tax in the year that your 2005 Annual Incentive Award, 2005
base salary and/or PG Awards would otherwise be payable as if the deferral had
not taken place. Thus, you will be subject to FICA tax on the initial deferral
amounts. As background, FICA tax consists of two components: (i) old-age,
survivors and disability insurance tax assessed at 6.2% on compensation up to
$90,000 for 2005, and (ii) Medicare tax assessed at a rate of 1.45% on all
applicable compensation. You should leave enough "net pay" in one or more of:
your 2005 Annual Incentive Award, 2005 base salary and/or PG Award, to cover
the total FICA tax amounts which will be taken at the time of deferral as well
as all other pre- and post-tax deductions.
In addition, premium interest earned on deferred compensation balances will be subject to FICA tax when vested. "Premium" interest consists of the excess of a program's annual interest rate over a benchmark rate. The highest rate approved by the IRS at this time is the Moody's Average Corporate Bond Yield, which the Company will use to calculate premium interest subject to FICA. Therefore, for example, if the crediting rate for 2005 were 15% and the Moody's rate for that year were 7%, the 8% premium interest credited would be subject to FICA when vested.
Under the 2005 Program, interest equivalents vest when the 5-year employment/deferral period is completed for each deferral amount you elect or when you become "retirement" eligible (worldwide definition under the Program of at least 55 years of age with at least 10 years of service). As each 5-year employment/deferral period following a deferral election is completed, the credited interest equivalents applicable to that election vest and the premium portion then becomes subject to FICA, to be withheld in February of the vesting year (e.g., premium interest equivalents credited under the 2005 Program for an AIA deferral will become subject to FICA tax withholding in 2/11). However, in the year you become retirement eligible, all unvested interest equivalents for all deferral elections vest, and the premium portion then becomes subject to FICA tax, to be withheld in February of the following year (e.g., if an employee becomes retirement eligible in 2006, the premium interest equivalents credited under the 2005 Program will become subject to FICA tax withholding in 2/07).
The two foregoing sections are not intended and should not be construed as tax advice. You are strongly urged to review all aspects of a possible deferral with your own tax advisor, including all U.S. federal, state or local and foreign tax consequences, in light of your individual circumstances. If you are working outside the U.S. and/or are subject to foreign tax laws, it is particularly important that you review a possible deferral with your tax advisor.
IRREVOCABILITY OF DEFERRAL REQUESTS:
HARDSHIP WITHDRAWALS
A request for deferred payment of your 2005 Annual Incentive Award, 2005 base salary and/or PG Award is irrevocable. You may not ask for different terms. An exception to this rule is possible subject to the provisions of the Guide and applicable Deferral Document, only if the occurrence of an unforeseeable emergency, as defined under the American Jobs Creation Act of 2004 (AJCA), is demonstrated to, and approved by, the Committee. Any withdrawal can never be returned to your Deferral Bookkeeping Account and will be subject to U.S. income tax and other taxes in the year it is received by you, as described in more detail above. Under these standards, hardship withdrawals will only be allowed under rare and unusual circumstances and should not be relied upon for financial planning purposes.
SOME CAVEATS
Since the request to defer payment of your 2005 Annual Incentive Award, 2005 base salary and/or PG-XVI Award, once approved, is irrevocable, the decision to do so requires careful personal financial planning. Please carefully review your planned deferral with your personal financial, legal and tax planning advisors prior to making such a request. Among the considerations may be: the impact on your participation in U.S. benefit plans (see pages 12 to 14); your cashflow needs; and planning for stock option exercises or stock purchases (e.g., to achieve your stock ownership guideline level, if you have been notified of participation in that program).
The Deferral Program is unfunded and all payments are made out of the general assets of your employer. Your employer is not required to establish any special or separate fund or to make any other segregation of assets to assure the payment of any amount under the Program. Payments under the Program are neither subordinate nor superior to the claims of the employer's general creditors. Amounts deferred under the Program may be used for any corporate purpose by your employer; you and anyone claiming under or through you will, of course, have no interest in any such corporate assets or in any proceeds therefrom.
As a condition to your eligibility to defer your 2005 Annual Incentive Award, 2005 base salary and/or PG-XVI Award, it is understood and agreed that you will provide complete and valid information (including, but not limited to, your U.S. Social Security number), signatures and consents on all documents, and you will take such other actions that the employer determines may be necessary or desirable.
It is understood that a deferral election does not constitute a contract or an agreement, express or implied, of your continued employment by the Company or its affiliates for any period of time.
All deferrals are subject to the provisions of this Guide, the applicable Incentive Plan document, the applicable Deferral Plan document, the 1998 Plan document, and the PG-XVI Award agreement. You should carefully review the applicable plan documents before making your deferral decision. Your applicable Incentive Plan document, Deferral Plan document and the 1998 Plan document are available upon request.
You should also consider, in consultation with your advisors, the impact of the recent U.S. federal tax legislation (AJCA), recent state tax decisions affecting deferred compensation and the possibility of future legislative or interpretive changes in the tax law, which might affect the taxation of deferred amounts and/or the interest equivalents credited or debited thereon.
ADDITIONAL DETAILS ON INITIAL DEFERRED AMOUNT
2005 ANNUAL INCENTIVE AWARD 2005 BASE SALARY PG-XVI AWARD
If your actual 2005 Annual The Initial Deferred Amount will be If your actual PG-XVI Award value
Incentive Award otherwise payable deducted in equal installments from available for deferral is less
on or about February 2006 is less your 2005 paychecks, starting where than your elected Initial Deferred
than your elected Initial Deferred administratively possible with the Amount, your entire PG-XVI Award
Amount, your entire 2005 Award first paycheck after January 24, would be deferred, and your
would be deferred, and your Initial 2005. Interest equivalents on your Initial Deferred Amount for the
Deferred Amount for the purposes of base salary deferral will be purposes of the 2005 Deferral
the 2005 Deferral Program would be credited or debited annually based Program would be reduced
reduced accordingly. on the amount of time deferred. accordingly.
(Note: if part of your 2005 Award When you are deciding how much base
is paid on an accelerated basis in salary, if any, to elect to defer,
late 2005, the Company will you should take into account these
determine the amount of the Initial factors:
Deferred Amount to be taken from
the late 2005 and the February 2006 BEFORE-TAX DEDUCTIONS
amounts. However, interest After deducting from your biweekly
equivalents on all deferred amounts base salary the biweekly deferral
will be credited/debited beginning amount (i.e., Initial Deferred
on the February 2006 payment date. Amount divided by the number of
It is possible that in these and paychecks remaining after January
other circumstances, less than all 24, 2005), the remaining base
of your elected Initial Deferred salary amount must at least cover
Amount will actually be deferred, your before-tax deductions for all
and your elected Initial Deferred employee benefit plans, such as the
Amount for the purposes of the 2005 Medical, Dental, Dependent Care and
Deferral Program would be reduced Health Care Reimbursement Plans
accordingly.) participation. If your "net pay"
is insufficient to cover before-tax
deductions, the Company retains the
right to reduce your deferral
election(s) in its sole discretion.
AFTER-TAX DEDUCTIONS
You must leave enough "net pay"
(i.e., after all before-tax benefit
deductions, deferrals and taxes) in
each paycheck to cover your after-tax
deductions (e.g., FICA/Medicare tax on
deferrals and other items such as tax on
dividends, life insurance, long term
disability, other benefits, United
Way, etc.). If your "net pay" is
insufficient to cover after-tax
deductions, the Company retains the
right to reduce your deferral
election(s) in its sole discretion.
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IMPACT OF TRANSFER ON INITIAL DEFERRED AMOUNT
2005 ANNUAL INCENTIVE AWARD 2005 BASE SALARY PG-XVI AWARD If you transfer from your current If you transfer from your If you transfer from your current employer to another American current employer to another employer to another American Express Company affiliate or American Express Company Express Company affiliate or American Express Company, as the affiliate or American Express American Express Company, as the case may be, your request for Company, as the case may be, case may be, your request for deferred payment of any 2005 Annual the deferral of your 2005 base deferred payment of your PG-XVI Incentive Award would first be met salary will continue with your Award will continue with your new from any 2005 Award granted to you, new employer to the extent employer to the extent and any remaining amount to be administratively feasible as administratively feasible as deferred to satisfy your deferral determined by the Company, determined by the Company, subject request would normally be taken subject to the provisions of to the provisions of this Guide. from any incentive award granted to this Guide. you by your new employer to the extent administratively feasible as determined by the Company, subject to the provisions of this Guide. |
Effect of Deferred Amounts on Pension Calculations
2005 ANNUAL INCENTIVE AWARD 2005 BASE SALARY PG-XVI AWARD
Under current U.S. IRS rules, Under current U.S. IRS rules, Not applicable, any payout under
deferred amounts cannot be included deferred amounts cannot be the PG-XVI Award is not included
for purposes of computing benefits included for purposes of for purposes of computing benefits
under a qualified, defined benefit computing benefits under a under any pension plan.
pension plan (e.g., the American qualified, defined benefit
Express Retirement Plan). However, pension plan (e.g., the
if you are eligible under the American Express Retirement
American Express Supplemental Plan). However, if you are
Retirement Plan, which is an eligible under the American
unfunded, non-qualified plan, the Express Supplemental Retirement
Initial Deferred Amount from a 2005 Plan, which is an unfunded,
Award may be treated as pensionable non-qualified plan, the base
compensation under that plan for salary deferral portion of the
the year in which it would Initial Deferred Amount may be
otherwise have been paid. treated as pensionable
compensation under that plan
for the year in which it would
otherwise have been paid.
|
IMPACT OF DEFERRAL ON U.S. SECTION 401(K) PLANS
AND OTHER BENEFIT PLANS
2005 ANNUAL INCENTIVE AWARD 2005 BASE SALARY PG-XVI AWARD
Not applicable If you currently contribute to a Not applicable
U.S. qualified Section 401(k)
defined contribution plan (e.g., the
American Express Incentive Savings
Plan), your designated "percent of
base salary" for that purpose will
be applied to your biweekly base
salary after it has been reduced by
the Initial Deferred Amount (on a
biweekly basis) that you elected to
defer under this base salary part of
the 2005 Deferral Program. Thus, the
total amount you can contribute to
the U.S. Section 401(k) plan and
your employer's contribution, if
any, could both be reduced if you
choose to defer base salary under
the 2005 Deferral Program. In
addition, your share of the
employer's U.S. ISP Profit Sharing
and Stock Contribution will be based
on the base salary after reduction
for deferrals. However, if you are
eligible under the U.S. American
Express Supplemental Retirement
Plan, which is an unfunded,
non-qualified plan, the base salary
deferral portion of the Initial
Deferred Amount may be treated as
eligible compensation for purposes
of certain Company allocations
(e.g., with respect to certain
employer contributions that cannot
be made under the qualified American
Express Incentive Savings Plan) in
the year the base salary would
otherwise have been paid. Also, the
Initial Deferred Amount and any
interest equivalents from this 2005
Deferral Program that are paid to
you in the future cannot be used as
a basis for contributions to the
Section 401(k) plan in the year of
receipt.
Any applicable benefits under U.S. life
insurance and long-term disability
programs are based on annual base
salary, and therefore, should not be
affected by an election to defer under
this base salary part of the 2005
Deferral Program.
|
APPENDIX
- Worksheet for 2005 Pay-for-Performance Deferral Program (required for any deferral request)
- Election Form for 2005 Annual Incentive Award (otherwise payable on or about February 2006)
- Election Form for 2005 Base Salary (otherwise payable in 2005)
- Election Form for PG-XVI Award Granted
(otherwise payable on or about February 2008)
- Comprehensive Designation of Beneficiary Form (optional for any deferral request)
This page left intentionally blank.
Worksheet for
2005Pay-for-Performance
Deferral Program
COMPLETION AND RETURN OF THIS FORM IS
REQUIRED FOR YOUR DEFERRAL ELECTION.
1. Print Full Name:
2. Annual Base Salary (as of 12/31/04 or a later start $ date for a new hire):
3. Deferral Amounts Elected From:
(a) 2005 Annual Incentive Award (otherwise payable on or about February 2006): $
(b) 2005 Base Salary (otherwise payable in 2005)*: $
(c) Portfolio Grant-XVI Award Value (otherwise payable on or about February 2008): $
Total (a,b,c) (minimum $5,000 from each source (a,b,c) $ you select to a maximum of 100% of base salary shown on line 2 from all three sources combined): $
Signature: Date:
*If you elect to defer your base salary, please keep in mind your base salary after deducting for your deferral amount must at least cover your before-tax contributions for all employee plans. In addition, please refer to Pages 12 and 13 of this Guide to ensure you understand the impact of deferrals on your 401(k) contributions and other benefit plans.
Any terms and features of, and rights and benefits under, the 2005 Pay-for-Performance Deferral Program Guide and your deferral election may be interpreted, modified or terminated by the Committee in its sole discretion in any manner and at any time without your prior consent or notice (including, but not limited to, deferring the payment date and alignment with legislative and regulatory developments) provided that such interpretation, modification or termination shall not cause deferred amounts to fail to meet the requirement for favorable tax treatment pursuant to the AJCA, applicable regulations thereunder, and other IRS guidance. The ROE Formula Rate applied to my deferred balance may be changed, prospectively or retroactively, in the sole discretion of the Committee without my prior consent or notice.
This page left intentionally blank.
DEFERRED PAYMENT REQUEST FORM
FOR ANY AWARD FOR 2005 PERFORMANCE UNDER
THE AMERICAN EXPRESS COMPANY ANNUAL
INCENTIVE AWARD PLAN
(TO THE EXTENT APPLICABLE TO YOU, INCLUDING
ANY SUCCESSOR PLAN, THE "INCENTIVE PLAN")
(AS PART OF THE 2005 PAY-FOR-PERFORMANCE DEFERRAL PROGRAM)
If you are requesting deferred payment, please fill in the appropriate information, and sign, date and return this form promptly as indicated below.
To: The Compensation and Benefits Committee of the Board of Directors of American Express Company
Subject to the provisions of the applicable Incentive Plan or any successor plan, and the 2005 Deferral Program Guide, I hereby request that any award for services rendered for performance year 2005 be paid to me as indicated on this form.
Print Full Name:
Initial Deferred Amount:
I hereby elect to defer the payment of a total of: $______________ of my 2005 Award otherwise payable on or about February 2006 under the Incentive Plan. If my actual 2005 Award is less than my elected deferral amount, the 2005 Award portion of my Initial Deferred Amount would then be equal to my actual 2005 Award amount. (Minimum deferral under the 2005 Pay-for-Performance Deferral Program is $5,000, taken separately from any one source; maximum deferral from all sources combined (annual incentive award, base salary, and/or Portfolio Grant-XVI Award) is equal to 100% of your annual base salary.) Please also complete and return the worksheet on page 16.
Period of Deferral:
Please begin deferred payment(s) on: (check and fill in only one choice)
[ ] First day of a specific month and year (i.e., February 1, 2011 or later):
__________________; or (month, year)
[ ] First day of the seventh calendar month beginning after the retirement date (i.e., the date my employment terminates following my attainment of age 55 and 10 actual or deemed years of service with American Express Company or its affiliates or such other date, all as determined by the Committee in its sole discretion): or
[ ] First day of a specific month and year after retirement:
____________________ years after retirement (not to exceed 10 years after
retirement but no earlier than the first day of the seventh month
beginning after the retirement date).
Payment Schedule:
The deferred payment(s) should be paid as follows (subject to earlier or later
payment provisions under the program):
Check and fill in only one choice.
[ ] Lump sum on or about the applicable date indicated on page 18; or
[ ] Paid in the following number of annual installments (not to exceed 15):
_______________, beginning on or about the applicable date indicated on
page 18 (subsequent installment payments will generally be made on or
about March 31st of each year thereafter).
I have read my applicable Incentive Plan document and the 2005 Deferral Program Guide, and understand and agree that:
-- This request is irrevocable.).
-- Any terms and features of, and rights and benefits under, the 2005 Pay-for-Performance Deferral Program Guide and my deferral election may be interpreted, modified or terminated by the Compensation and Benefits Committee of the Board of Directors of American Express Company (the "Committee"), in its sole discretion in any manner and at any time without my prior consent or notice (including, but not limited to, deferring the payment date and alignment with legislative and regulatory developments) provided that such interpretation, modification or termination shall not cause deferred amounts to fail to meet the requirement for favorable tax treatment pursuant to the AJCA, applicable regulations thereunder, and other IRS guidance. The ROE Formula Rate applied to my deferred balance may be changed, prospectively or retroactively, in the sole discretion of the Committee without my prior consent or notice.
-- Deferred amounts are subject to the conditions and provisions of my applicable Incentive Plan document or any successor plan, and to the 2005 Deferral Guide.
Print Full Name:
Social Security Number:
Business Unit, Location, Telephone:
Signature: Date:
This form must be received on or before Friday, December 31, 2004 by [Esther Blankenship], 200 Vesey St. New York, NY 10285 Mail Drop: 01-35-08, USA. Forms received after December 31, 2004 cannot be considered.
Note: Fax will be accepted, however, original must be sent immediately following.
Fax number: (212) 640-0345
American Express Company
SALARY DEFERRAL PLAN DEFERRED PAYMENT
REQUEST FORM FOR 2005 BASE SALARY
(AS PART OF THE 2005 PAY-FOR-PERFORMANCE DEFERRAL PROGRAM)
If you are requesting deferred payment, please fill in the appropriate information, and sign, date and return this form promptly as indicated below.
To: The Compensation and Benefits Committee of the Board of Directors of American Express Company
Subject to all applicable provisions of the Salary Deferral Plan and the 2005 Deferral Program Guide, I hereby request that my 2005 base salary be paid to me on a deferred basis as indicated on this form.
Print Full Name:
Initial Deferred Amount:
I hereby elect to defer the payment of a total of: $______________ of my 2005 base salary (otherwise payable in 2005), after deduction of any applicable before-tax benefit deductions, in equal installments from my 2005 paychecks, starting with the paycheck for services beginning on or about January 24, 2005 (e.g., February 4, 2005 paycheck). (Minimum deferral under the 2005 Pay-for-Performance Deferral Program is $5,000, taken separately from any one source; maximum deferral from all sources combined (annual incentive award, base salary, and/or Portfolio Grant-XVI Award) is equal to 100% of your annual base salary). Please also complete and return the worksheet on page 16.
Period of Deferral:
Please begin deferred payment(s) on: (check and fill in only one choice)
[ ] First day of a specific month and year (i.e., February 1, 2011 or later):
__________________; or (month, year)
[ ] First day of the seventh calendar month beginning after the retirement date (i.e., the date my employment terminates following my attainment of age 55 and 10 actual or deemed years of service with American Express Company or its affiliates or such other date, all as determined by the Committee in its sole discretion): or
[ ] First day of a specific month and year after retirement:
____________________ years after retirement (not to exceed 10 years after
retirement but no earlier than the first day of the seventh calendar
month beginning after the retirement date).
Payment Schedule:
The deferred payment(s) should be paid as follows (subject to earlier or later
payment provisions under the program):
Check and fill in only one choice.
[ ] Lump sum on or about the applicable date indicated on page 20; or
[ ] Paid in the following number of annual installments (not to exceed 15):
_______________, beginning on or about the applicable date indicated on
page 20 (subsequent installment payments will generally be made on or
about March 31st of each year thereafter).
I have read the Salary Deferral Plan and the 2005 Deferral Program Guide, and understand and agree that:
-- This request is irrevocable.
-- The terms and features of the 2005 Pay-for-Performance Deferral Program Guide and this deferral election may be interpreted, modified or terminated by the Compensation and Benefits Committee of the Board of Directors of American Express Company (the "Committee") at its sole discretion in any manner and at any time without prior consent by or notice to me, except as otherwise provided in the 2005 Deferral Program Guide.
-- Deferred amounts are subject to the provisions of the Salary Deferral Plan and the 2005 Deferral Guide.
Print Full Name:
Social Security Number:
Business Unit, Location, Telephone:
Signature: Date:
This form must be received on or before Friday, December 31, 2004 by Esther Blankenship, 200 Vesey St. New York, NY 10285, Mail Drop: 01-35-08, USA. Forms received after December 31, 2004 cannot be considered.
Note: Fax will be accepted, however, original must be sent immediately following.
Fax number: (212) 640-0345
Any terms and features of, and rights and benefits under, the 2005 Pay-for-Performance Deferral Program Guide and your deferral election may be interpreted, modified or terminated by the Compensation and Benefits Committee of the Board of Directors of American Express Company (the "Committee"), in its sole discretion in any manner and at any time without your prior consent or notice (including, but not limited to, deferring the payment date and alignment with legislative and regulatory developments) provided that such interpretation, modification or termination shall not cause deferred amounts to fail to meet the requirement for favorable tax treatment pursuant to the AJCA, applicable regulations thereunder, and other IRS guidance. The ROE Formula Rate applied to my deferred balance may be changed, prospectively or retroactively, in the sole discretion of the Committee without my prior consent or notice.
American Express Company
PORTFOLIO GRANT AWARD
DEFERRED PAYMENT REQUEST FORM
FOR "PG-XVI AWARD"
(AS PART OF THE 2005 PAY-FOR-PERFORMANCE DEFERRAL PROGRAM)
If you are requesting deferred payment, please fill in the appropriate information, and sign, date and return this form promptly as indicated below.
To: The Compensation and Benefits Committee of the Board of Directors of American Express Company
Subject to all applicable provisions of the American Express 1998 Incentive Compensation Plan (the "1998 Plan") and the 2005 Deferral Program Guide, I hereby request that the performance/portfolio grant ("PG") Award issued under the 1998 Incentive Compensation Plan on or about 2005 which will be valued based on 2005-2007 performance (known as the "PG-XVI Award") be paid to me as indicated on this form.
Print Full Name:
Initial Deferred Amount:
I hereby elect to defer the payment of a total of: $______________ of my PG-XVI Award (otherwise payable on or about February 2008). If my actual PG-XVI Award value is less than my elected deferral amount, the PG-XVI Award portion of my Initial Deferred Amount would then be equal to my actual PG-XVI Award amount. (Minimum deferral under the 2005 Pay-for-Performance Deferral Program is $5,000 taken separately from any one source, maximum deferral from all sources combined (annual incentive award, base salary, and/or Portfolio Grant-XVI Award) is equal to 100% of your annual base salary). Please also complete and return the worksheet on page 16.
Period of Deferral:
Please begin deferred payment(s) on: Check and fill in only one choice.
[ ] First day of a specific month and year (i.e., February 1, 2013 or later):
; or (month, year)
[ ] First day of the seventh calendar month beginning after the retirement date (i.e., the date my employment terminates following my attainment of age 55 and 10 actual or deemed years of service with American Express Company or its affiliates or such other date, all as determined by the Committee in its sole discretion): or
[ ] First day of a specific month and year after retirement:
____________________ years after retirement (not to exceed 10 years after
retirement but no earlier than the first day of the seventh calendar
month beginning after the retirement date).
Payment Schedule:
The deferred payment(s) should be paid as follows (subject to earlier or later
payment provisions under the program):
Check and fill in only one choice.
[ ] Lump sum on or about the applicable date indicated on page 22; or
[ ] Paid in the following number of annual installments (not to exceed 15):
_______________, beginning on or about the applicable date indicated on
page 22 (subsequent installment payments will generally be made on or
about March 31st of each year thereafter).
I have read the 1998 Plan, the PG-XVI Award letter and the 2005 Deferral Program Guide, and understand and agree that:
-- This request is irrevocable.
-- The terms and features of the 2005 Pay-for-Performance Deferral Program Guide and this deferral election may be interpreted, modified or terminated by the Compensation and Benefits Committee of the Board of Directors of American Express Company (the "Committee") at its sole discretion in any manner and at any time without prior consent by or notice to me, except as otherwise provided in the 2005 Deferral Program Guide.
-- Deferred amounts are subject to the conditions and provisions of the 1998 Plan, the PG-XVI Award agreement and the 2005 Deferral Guide.
Print Full Name:
Social Security Number:
Business Unit, Location, Telephone:
Signature: Date:
This form must be received on or before Wednesday, December 31, 2003 by Esther Blankenship, 200 Vesey St. New York, NY 10285, Mail Drop: 01-35-08, USA. Forms received after December 31, 2003 cannot be considered.
Note: Fax will be accepted, however, original must be sent immediately following.
Fax number:(212) 640-0345
Any terms and features of, and rights and benefits under, the 2005 Pay-for-Performance Deferral Program Guide and your deferral election may be interpreted, modified or terminated by the Compensation and Benefits Committee of the Board of Directors of American Express Company (the "Committee"), in its sole discretion in any manner and at any time without your prior consent or notice (including, but not limited to, deferring the payment date and alignment with legislative and regulatory developments) provided that such interpretation, modification or termination shall not cause deferred amounts to fail to meet the requirement for favorable tax treatment pursuant to the AJCA, applicable regulations thereunder, and other IRS guidance. The ROE Formula Rate applied to my deferred balance may be changed, prospectively or retroactively, in the sole discretion of the Committee without my prior consent or notice.
American Express Company
COMPREHENSIVE DESIGNATION OF BENEFICIARY
(Note: if you have previously submitted a Comprehensive Designation of Beneficiary Form, you do not need to submit a new form unless you are making a change.)
This beneficiary designation revokes all prior designations, if any, made by me under all deferral programs, including all prior Pay-for-Performance Deferral Programs, the American Express Company 1985 Career Investment Option Agreement, and the American Express Company 1990 Deferral Program. It also applies to deferrals to be made under the 2005 Pay-for-Performance deferral program guide and any subsequent deferral agreements which I may enter into with American Express Company or one of its subsidiaries. All of such past, present and future arrangements or agreements will be referred to collectively as the "Agreements." In accordance with the terms of the Agreements, which govern the dispensation of all deferred compensation arrangements which I have entered into, am entering into, or will enter into, I hereby revoke all prior beneficiary designations, if any, made by me under the Agreements. I hereby designate the following as the beneficiary or beneficiaries of all accounts payable under such Agreements by reason of my death. Subject to the provisions of the Agreements, the following designation of beneficiary will remain in effect unless specifically revoked by me in writing. If no beneficiary survives me, such payments shall be paid to the legal representative of my estate.
PRIMARY BENEFICIARY
-- If two primary beneficiaries are designated and one primary beneficiary predeceases me, such payment will be payable to the primary beneficiary who survives me.
-- If three or more primary beneficiaries are designated and if any primary beneficiary predeceases me, the primary beneficiaries living at my death shall share equally in that which would otherwise have been payable to such deceased primary beneficiaries. If there are no primary beneficiaries living at my death, please see secondary beneficiary election below.
Full Name Relationship Percentage Share of Beneficiary to Participant Full Address of Payments -------------- -------------- -------------------- ----------------- |
SECONDARY BENEFICIARY (TO TAKE IF NO PRIMARY BENEFICIARY SURVIVES ME):
-- If two secondary beneficiaries are designated and one secondary
beneficiary predeceases me, such payment will be payable to the secondary
beneficiary who survives me.
-- If three or more secondary beneficiaries are designated and if any secondary beneficiary predeceases me, the secondary beneficiaries living at my death shall share equally in that which would otherwise have been payable to such deceased secondary beneficiaries.
Full Name Relationship Percentage Share of Beneficiary to Participant Full Address of Payments -------------- -------------- -------------------- ----------------- |
COMPREHENSIVE DESIGNATION OF BENEFICIARY (CONTINUED)
-------------------------------------------- --------------------------------------------- Participant's Signature Date Spouse's Signature (if needed)* Date -------------------------------------------- --------------------------------------------- Print Full Name of Participant Print Full Name of Spouse -------------------------------------------- --------------------------------------------- Signature of Witness Date Signature of Witness Date -------------------------------------------- --------------------------------------------- Print Full Name of Witness Print Full Name of Witness |
*Spouse's signature is required if the award holder resides in a community property state (including, but not limited to, Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas or Washington).
The above Beneficiary Designation is hereby acknowledged and placed on file
this __________ day of _______________, 20____.
Plan Administrator
By: _______________________________________________________
Please return the original, executed form to: Esther Blankenship, 200 Vesey St. New York, NY 10285, Mail Drop: 01-35-08, USA.
Note: Signing this Beneficiary Designation will cause all prior designations, if any, made by me to no longer be in effect.
EXHIBIT 10.37
BASE SALARIES FOR NAMED EXECUTIVE OFFICERS
On January 24, 2005, the Compensation and Benefits Committee (the "Compensation Committee") of the Board of Directors of American Express Company (the "Company") approved the annual base salaries (effective as of such date) of the Company's executive officers after a review of performance and competitive market data. The following table sets forth the annual base salary levels of the Company's Named Executive Officers (which officers were determined by reference to the Company's proxy statement, dated March 10, 2004) for 2005 and 2004:
NAME AND POSITION YEAR BASE SALARY
------------------------------ ---- -----------
Kenneth I. Chenault
Chairman and Chief 2005 $1,100,000
Executive Officer 2004 1,000,000
James M. Cracchiolo
Group President 2005 475,000
Global Financial Services 2004 475,000
Gary L. Crittenden
Executive Vice President 2005 575,000
and Chief Financial Officer 2004 500,000
Edward P. Gilligan
Group President
Global Corporate Services 2005 575,000
and International Payments 2004 460,000
Alfred F. Kelly, Jr.
Group President
U.S. Consumer and Small 2005 575,000
Business Services 2004 475,000
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EXHIBIT 12
AMERICAN EXPRESS COMPANY
COMPUTATION IN SUPPORT OF RATIO OF EARNINGS TO FIXED CHARGES
(DOLLARS IN MILLIONS)
Years Ended December 31,
----------------------------------------------
2004 2003 2002 2001 2000
------ ------ ------ ------ ------
Earnings:
Pretax income from continuing operations $4,951 $4,247 $3,727 $1,596 $3,908
Interest expense 1,659 1,606 1,832 2,856 2,922
Other adjustments 154 157 174 175 163
------ ------ ------ ------ ------
Total earnings (a) $6,764 $6,010 $5,733 $4,627 $6,993
------ ------ ------ ------ ------
Fixed charges:
Interest expense $1,659 $1,606 $1,832 $2,856 $2,922
Other adjustments 145 140 151 170 165
------ ------ ------ ------ ------
Total fixed charges (b) $1,804 $1,746 $1,983 $3,026 $3,087
------ ------ ------ ------ ------
Ratio of earnings to fixed charges (a/b) 3.75 3.44 2.89 1.53 2.27
|
Included in interest expense in the above computation is interest expense related to the international banking operations of American Express Company (the "Company") and Travel Related Services' cardmember lending activities, which is netted against net investment income and cardmember lending net finance charge revenue, respectively, in the Consolidated Statements of Income.
For purposes of the "earnings" computation, other adjustments include adding the amortization of capitalized interest, the net loss of affiliates accounted for under the equity method whose debt is not guaranteed by the Company, the minority interest in the earnings of majority-owned subsidiaries with fixed charges, and the interest component of rental expense and subtracting undistributed net income of affiliates accounted for under the equity method.
For purposes of the "fixed charges" computation, other adjustments include
capitalized interest costs and the interest component of rental expense.
EXHIBIT 13
Financial Review
The financial section of American Express Company's (the Company) Annual Report consists of this Financial Review, the Consolidated Financial Statements and the related notes that follow. The following executive overview is designed to provide perspective regarding the information contained in the financial section. Certain key terms are defined in the Glossary of Selected Terminology at the end of this Financial Review.
EXECUTIVE OVERVIEW
American Express Company is engaged in a variety of businesses comprising three
operating segments: Travel Related Services (TRS), American Express Financial
Advisors (AEFA) and American Express Bank (AEB).
TRS includes a broad range of products including charge and credit cards; stored value products such as Travelers Cheques, Travelers Cheque funds cards and gift cards; travel agency services and travel, entertainment and purchasing expense management services; network services and merchant acquisition and merchant processing for our network partners and proprietary payments businesses. TRS' various products are sold globally to diverse customer groups, including consumers, small businesses, mid-market companies, large corporations and banking institutions. These products are sold through various channels including direct mail, on-line applications, targeted sales-forces and through direct response advertising.
TRS derives its revenues from a number of sources including discount revenue from business billed on its payment products, spread revenue earned on its lending receivables from customers, network fees and fees earned through the use of its merchant processing and merchant acquisition activities, and various revenues and fees from the sale of payment products, Membership Rewards, travel arrangements, insurance and other products. In 2004, the TRS segment accounted for approximately 74 percent and 83 percent of the Company's total revenues and net income, respectively.
AEFA is comprised primarily of asset management and insurance businesses whose products are principally offered through its network of over 12,000 financial advisors. In 2004, the AEFA segment accounted for approximately 24 percent and 21 percent of the Company's total revenues and net income, respectively.
On February 1, 2005, the Company announced plans to pursue a spin-off of AEFA to shareholders. Shareholders would receive 100 percent of the common shares of American Express Financial Corporation (AEFC), through which the financial advisors business is conducted. The transaction is intended to be tax-free to shareholders and is expected to be completed in the third quarter of 2005, subject to certain conditions, including necessary regulatory approvals and the receipt of a favorable tax ruling and/or opinion, as well as final board approval. See Note 23 to the Consolidated Financial Statements for further discussion of the proposed spin-off. All discussions that follow describe the Company's business and organization as currently structured.
AEB provides financial products and services to retail customers, wealthy individuals and financial institutions outside the United States.
The Company creates shareholder value by focusing on three core elements:
o Driving growth, whether organically, through related business opportunities
or through joint ventures and acquisitions;
o Delivering returns well above the Company's cost of capital; and
o Maintaining stability in results through forward planning, flexible expense
management and risk management, controls and compliance.
Overall, it is management's priority to increase shareholder value over the moderate to long-term by achieving four long-term financial targets, on average and over time:
o Earnings per share growth of 12 to 15 percent,
o Return on equity of 18 to 20 percent,
o Revenue growth of 8 percent, and
o Return to shareholders of 65 percent of capital generated.
For both 2004 and 2003, the Company exceeded all of these long-term financial targets, illustrating the benefits of the strong business momentum achieved through the business-building investments made over the past few years. Assuming the completion of the AEFA spin-off discussed above, the Company plans to raise its return on equity target to 28 to 30 percent while maintaining a 65 percent payout of free capital generated.
The Company follows accounting principles generally accepted in the United States (GAAP). In addition to information provided on a GAAP basis, the Company discloses certain data on a "managed basis." This information, which should be read only as a supple-
AXP
AR.04
...
ment to GAAP information, assumes there have been no securitization transactions at TRS, i.e., as if all securitized cardmember loans and related income effects are reflected in the Company's balance sheets and income statements. See the TRS Results of Operations section for further discussion of this approach.
Certain reclassifications of prior period amounts have been made to conform to the current presentation throughout this Annual Report.
Summary of the Company's Financial Performance
Years Ended December 31, (Millions, except per share Percent amounts and ratio data) 2004 2003 Increase ------------------------------------------------------------------------------- Revenues $29,115 $25,836 13% Expenses $24,164 $21,589 12 Income before accounting change $ 3,516 $ 3,000 17 Net income $ 3,445 $ 2,987 15 Earnings per common share before accounting change -- diluted $ 2.74 $ 2.31 19 Earnings per common share -- diluted $ 2.68 $ 2.30 17 Return on average shareholders' equity 22.0% 20.6% ------------------------------------------------------------------------------- |
The Company's 2004 consolidated income before accounting change rose 17 percent to $3.5 billion and diluted earnings per share (EPS) before accounting change rose 19 percent to $2.74 as compared to a year ago. The Company's consolidated net income for 2004 rose 15 percent to $3.4 billion and EPS rose 17 percent to $2.68 per share.
Consolidated revenues totaled $29.1 billion for 2004, an increase of 13 percent from 2003. Record cardmember billings, reflecting increased cards-in-force and higher average cardmember spending, greater lending balances, strong travel sales and higher client assets under management all played a major role in this strong performance. Revenue growth for the TRS segment comprised 73 percent of the Company's revenue growth, with TRS reporting total revenues of $21.6 billion, an increase of 12 percent from 2003.
Total consolidated expenses for 2004 rose 12 percent to $24.2 billion compared to a year ago. The TRS segment accounted for 72 percent of this increase reflecting higher costs for marketing, promotion, rewards and cardmember services and human resources. The success of the Company's ongoing reengineering efforts, which yielded in excess of $1 billion in benefits during 2004, contributed significantly to these results.
Summary of Segment Results
Percent
Increase
Years Ended December 31, (Millions) 2004 2003 (Decrease)
--------------------------------------------------------------------------------
Revenues
Travel Related Services $ 21,578 $ 19,189 12%
American Express
Financial Advisors 7,035 6,142 15
American Express Bank 825 801 3
Corporate and Other,
including adjustments
and eliminations (323) (296) (9)
--------------------------------------------------------------------------------
Total revenues $ 29,115 $ 25,836 13
================================================================================
Expenses
Travel Related Services $ 17,461 $ 15,618 12
American Express
Financial Advisors 5,949 5,283 13
American Express Bank 679 650 4
Corporate and Other,
including adjustments
and eliminations 75 38 97
--------------------------------------------------------------------------------
Total expenses $ 24,164 $ 21,589 12
================================================================================
Pretax income (loss)
before accounting
change
Travel Related Services $ 4,117 $ 3,571 15
American Express
Financial Advisors 1,086 859 26
American Express Bank 146 151 (3)
Corporate and Other (398) (334) (19)
--------------------------------------------------------------------------------
Total pretax income
before accounting
change $ 4,951 $ 4,247 17
================================================================================
Income (loss) before
accounting change
Travel Related Services $ 2,852 $ 2,430 17
American Express
Financial Advisors 806 682 18
American Express Bank 96 102 (6)
Corporate and Other (238) (214) (11)
--------------------------------------------------------------------------------
Total income before
accounting change $ 3,516 $ 3,000 17
================================================================================
Net income
Travel Related Services $ 2,852 $ 2,430 17
American Express
Financial Advisors 735 669 10
American Express Bank 96 102 (6)
Corporate and Other (238) (214) (11)
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Total net income $ 3,445 $ 2,987 15
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TRAVEL RELATED SERVICES
TRS generates revenue from a variety of sources including global payments, such
as charge and credit cards, travel services and stored value products, including
Travelers Cheques. Charge and credit cards generate revenue for the Company
primarily in three different ways:
o Discount revenue, the Company's largest single revenue source, which
represents fees charged to merchants when cardmembers use their cards to
purchase goods and services on our network,
o Finance charge revenue, which is earned on outstanding balances related to
the cardmember lending portfolio, and
o Card fees, which are earned for annual membership, and other commissions and
fees such as foreign exchange conversion fees and card-related fees and
assessments.
In addition to operating costs associated with these activities, other major expense categories are expenses related to marketing and reward programs that add new cardmembers, promote cardmember loyalty and spending and provisions for anticipated cardmember credit and fraud losses.
TRS' travel businesses provide travel services and earn transaction-based fees and other revenue from customers and travel suppliers. TRS' stored value products, including Travelers Cheques, earn investment income as prepaid cash is invested prior to encashment of the Travelers Cheque or use of other stored value products.
For 2004, TRS reported record net income of $2.9 billion, an increase of 17 percent from a year ago.
TRS reported total revenues of $21.6 billion for 2004, a 12 percent increase from 2003, primarily due to record cardmember spending, increased cards-in-force and higher travel sales. Discount revenue of $10.2 billion grew 17 percent compared to a year ago, primarily as a result of an 18 percent increase in billed business partially offset by a lower discount rate. The average discount rate in 2004 was 2.56% compared to 2.59% in 2003 primarily reflecting changes in the mix of spending between various merchant segments due to the cumulative impact of stronger than average growth in the lower rate retail and other "everyday spend" merchant categories (e.g., supermarkets, discounters, etc.). Based on the Company's business strategy, changes in the mix of business, volume-related pricing discounts and selective repricing initiatives will probably continue to result in some erosion of the average discount rate over time. Other commissions and fees increased 17 percent to $2.2 billion in 2004 as a result of volume-driven increases in foreign exchange conversion fees, card-related assessments and network partner-related fees. Travel commissions and fees of $1.8 billion rose 19 percent in 2004 primarily due to 25 percent growth in travel sales, reflecting the acquisition of Rosenbluth International (Rosenbluth) in late 2003 and improvement within the travel industry.
Expenses at TRS totaled $17.5 billion for 2004, an increase of 12 percent over 2003, primarily due to increased marketing, promotion, rewards and cardmember services and human resources expenses. TRS incurred increased rewards costs, reflecting a higher redemption rate, strong volume growth and greater cardmember loyalty program participation. Marketing costs rose due to continued focus on business-building initiatives and the launch of a new global brand advertising campaign. Growth in human resources expenses reflected severance-related restructuring costs, merit increases, higher employee benefits, greater management incentive costs, including the impact of an additional incremental year of higher stock-based compensation expenses, and the impact of the October 2003 Rosenbluth acquisition.
AMERICAN EXPRESS FINANCIAL ADVISORS
AEFA earns management and distribution fees on mutual funds, wrap products,
assets managed for institutions and separate accounts. AEFA's insurance and
annuity products generate revenue through premiums and other charges collected
from policyholders and contractholders and through investment income earned on
owned assets supporting these products. AEFA incurs various operating costs,
principally provision for losses and benefits for annuities, investment
certificates and insurance products.
AEFA reported 2004 income before accounting change of $806 million, an 18 percent increase from a year ago. Net income for 2004 rose 10 percent to $735 million.
AEFA's revenues of $7.0 billion grew 15 percent in 2004 primarily due to larger investment management and service fees, greater distribution fees, higher net investment income, greater property-casualty insurance premiums and higher other revenues. The acquisition of Threadneedle Asset Management Holdings LTD (Threadneedle) on September 30, 2003 contributed approximately 5 percent to the revenue growth. Expenses at AEFA for 2004 totaled $5.9 billion, a 13 percent increase from 2003, primarily due to the
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acquisition of Threadneedle, increases in human resources expenses and costs related to mutual fund industry regulatory and legal matters.
AMERICAN EXPRESS BANK
AEB offers financial products and services to retail customers, wealthy
individuals and financial institutions outside the United States that generate
interest income, commissions and fees, foreign exchange income and other
revenue. In addition to various operating costs, AEB recognizes provisions for
credit losses, mainly on its outstanding loans.
AEB reported net income of $96 million for 2004, a 6 percent decline from a year ago. Results for 2004 included $44 million of restructuring charges incurred in connection with the sale of certain foreign operations.
AEB's revenues totaled $825 million in 2004, an increase of 3 percent from 2003, primarily due to higher commissions and fees as well as higher foreign exchange income and other revenues, partially offset by a decline in net interest income. Total expenses at AEB for 2004 rose 4 percent to $679 million, primarily due to the restructuring charges discussed previously.
For a discussion of the Company's consolidated and segment results, see the respective Results of Operations sections of this Annual Report.
LIQUIDITY AND CAPITAL RESOURCES
The Company generates sufficient equity capital through net income to fund its
business needs and future growth as well as maintain high and stable debt
ratings. During 2004, the Company returned 87 percent of capital generated to
shareholders through a cash dividend of $0.44 per share of common stock and the
repurchase of 69 million shares of common stock. Management has developed a
contingent funding strategy to help ensure continued funding of the Company's
business operations during difficult economic, financial market and business
conditions if in an extreme situation access to its regular funding sources were
diminished or interrupted. See the Consolidated Liquidity and Capital Resources
section of this Annual Report for further discussion.
SIGNIFICANT EVENTS IN 2004
In October 2004, the U.S. Supreme Court declined to hear an appeal of lower
court rulings that Visa and Mastercard association bylaws and rules that
prevented banks from issuing cards on rival networks were illegal and must be
abolished. As a result, in November 2004, MBNA became the first U.S. bank to
issue credit cards accepted on the American Express network. The Company also
signed an agreement with Citibank in December 2004 to issue American Express
branded cards in the U.S. by late 2005.
Management believes that building a U.S. network business that will operate in addition to the Company's very strong proprietary card business will provide substantial new opportunities for growth. The incremental earnings produced will enable the Company to increase investments in key businesses. The returns that the Company will earn by leveraging the existing network infrastructure for network partner activity should benefit the Company's future return on equity.
OUTLOOK
In 2004, the Company's record results exceeded all long-term financial targets,
reflecting the strong competitive position and business momentum that has been
driven by higher levels of business-building investments over the past few
years. Looking forward, the proposed spin-off of AEFA will enable the Company
to focus on its card payments and network processing businesses and concentrate
its investment resources in these high-growth, high-return areas. These
businesses have high asset turnover, relatively low capital requirements,
substantial return on invested capital and superior cash flow that enables the
Company to grow its business while maintaining a high payback of capital to
shareholders. Management believes the Company is well-positioned to sustain
growth through its uniquely diversified business lines.
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AMERICAN EXPRESS COMPANY
Consolidated Results of Operations
STATEMENTS OF INCOME
Years Ended December 31, (Millions) 2004 2003 2002
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Revenues
Discount revenue $ 10,249 $ 8,781 $ 7,931
Net investment income 3,118 3,063 2,991
Management and
distribution fees 3,023 2,420 2,285
Cardmember lending
net finance charge
revenue 2,224 2,042 1,828
Net card fees 1,909 1,835 1,726
Travel commissions
and fees 1,795 1,507 1,408
Other commissions
and fees 2,284 1,960 1,867
Insurance and annuity
revenues 1,525 1,366 1,218
Securitization income,
net 1,132 1,105 1,049
Other 1,856 1,757 1,504
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Total 29,115 25,836 23,807
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Expenses
Human resources 7,359 6,303 5,725
Marketing, promotion,
rewards and
cardmember services 5,083 3,901 3,119
Provisions for losses
and benefits:
Annuities and
investment
certificates 1,261 1,306 1,217
Life insurance,
international
banking and other 1,094 1,052 1,040
Charge card 833 853 960
Cardmember lending 1,130 1,218 1,369
Professional services 2,507 2,248 2,021
Occupancy and equipment 1,641 1,529 1,458
Interest 867 905 1,082
Communications 519 517 514
Other 1,870 1,757 1,575
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Total 24,164 21,589 20,080
================================================================================
Pretax income before
accounting change 4,951 4,247 3,727
Income tax provision 1,435 1,247 1,056
Income before
accounting change 3,516 3,000 2,671
Cumulative effect of
accounting change,
net of tax (71) (13) --
--------------------------------------------------------------------------------
Net income $ 3,445 $ 2,987 $ 2,671
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Management believes the 2004 financial results illustrate the benefits of the strong business momentum achieved through business-building investments over the past few years. The strong growth reflects record levels of cardmember spending on American Express cards, along with higher average cardmember lending balances, strong travel sales and higher client asset levels.
The Company's 2004 consolidated income before accounting change rose 17 percent to $3.5 billion and EPS before accounting change rose 19 percent to $2.74. The Company's 2004 consolidated net income of $3.4 billion rose 15 percent from 2003 and EPS of $2.68 increased 17 percent from 2003. On a trailing 12-month basis, return on average shareholders' equity was 22.0 percent.
Net income and EPS for 2004 reflect the $109 million ($71 million after-tax) or $0.06 per diluted share impact of the Company's adoption of Statement of Position 03-1, "Accounting and Reporting by Insurance Enterprises for Certain Nontraditional Long-Duration Contracts and for Separate Accounts" (SOP 03-1). SOP 03-1 requires insurance enterprises to establish liabilities for benefits that may become payable under variable annuity death benefit guarantees or other insurance or annuity contract provisions. Prior to the adoption of SOP 03-1, these costs were expensed when payable. See Notes 1 and 11 to the Consolidated Financial Statements for further discussion regarding the Company's adoption of SOP 03-1. In addition, 2004 results include a $117 million ($76 million after-tax) net gain on the fourth quarter sale of the equipment leasing product line in TRS' small business financing unit and $102 million ($66 million after-tax) aggregate restructuring charges recorded in the fourth quarter in connection with several Company initiatives. These items are discussed in more detail below.
The Company's 2003 consolidated income before accounting change increased 12 percent to $3.0 billion and EPS before accounting change rose 15 percent to $2.31. The Company's 2003 consolidated net income of $3.0 billion rose 12 percent from 2002 and EPS of $2.30 increased 14 percent from 2002. Net income and EPS for 2003 reflect the impact of the Company's adoption of Financial Accounting Standards Board (FASB) Interpretation No. 46, "Consolidation of Variable Interest Entities," revised December 2003 (FIN 46), which addressed the consolidation of variable interest entities (VIEs). See Note 5 to the Consolidated Financial Statements for further discussion regarding the Company's interests in VIEs.
Both the Company's revenues and expenses are affected by changes in the relative values of non-U.S. currencies to the U.S. dollar. The currency rate changes increased
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both revenue and expense growth by approximately 2 percentage points in both 2004 and 2003.
The following discussion is presented on a basis prepared in accordance with GAAP unless otherwise noted.
REVENUES
Consolidated revenues were $29.1 billion, an increase of 13 percent from 2003
reflecting 12 percent growth at TRS, 15 percent growth at AEFA and 3 percent
growth at AEB. Consolidated revenues for 2003 were 9 percent higher than 2002.
As discussed in further detail below, the increase in 2004 was primarily due to
greater discount revenue, higher management and distribution fees, increased
travel and other commissions and fees, higher cardmember lending net finance
charge revenue and larger insurance and annuity revenues. The increase in 2003
was due to higher discount revenue, greater cardmember lending net finance
charge revenue, increased insurance and annuity revenues, larger management and
distribution fees and higher other revenues.
During 2004, discount revenue at TRS increased 17 percent to $10.2 billion as compared to a year ago primarily as a result of an 18 percent increase in worldwide billed business, reflecting a 13 percent increase in average cardmember spending per proprietary basic card and 8 percent growth in cards-in-force, offset in part by a lower discount rate. Similarly, discount revenue rose 11 percent to $8.8 billion during 2003 as a result of a 13 percent increase in billed business, from both growth in cards-in-force and higher average cardmember spending per proprietary basic card, partially offset by a lower discount rate.
Net investment income of $3.1 billion in 2004 rose 2 percent as a 4 percent increase at AEFA was offset by lower interest income on investment and liquidity pools held within card funding vehicles at TRS and lower net interest income at AEB. The increase at AEFA is primarily due to the benefits of higher levels of invested assets. Net investment income increased 2 percent to $3.1 billion in 2003 primarily due to higher levels of invested assets partially offset by lower average yields at AEFA and lower interest income on investment and liquidity pools held within card funding vehicles at TRS.
Management and distribution fees of $3.0 billion increased 25 percent during 2004 representing a 30 percent increase in management fees and a 19 percent increase in distribution fees. The management fees increase is due primarily to higher average assets under management, primarily reflecting the impact from the September 30, 2003 acquisition of Threadneedle as well as strengthening equity markets and net asset inflows. Distribution fees increased as a result of greater mutual fund fees, in particular wrap account fees, and increased brokerage-related activities. Management and distribution fees rose 6 percent in 2003 to $2.4 billion due primarily to a 2 percent increase in management fees resulting from higher average assets under management and a 12 percent increase in distribution fees. Distribution fees increased during 2003 primarily due to greater limited partnership product sales and increased brokerage-related activities.
During 2004, cardmember lending net finance charge revenue at TRS increased 9 percent to $2.2 billion as the effect of 15 percent growth in the average balance of the owned lending portfolio was partially offset by a lower average yield. The net interest yield on the worldwide lending portfolio decreased versus last year reflecting a higher average proportion of the portfolio on introductory or promotional rates during the year, lower revolve rates and improved credit quality, which reduces the proportion of the portfolio at default interest rates. During 2003, cardmember lending net finance charge revenue increased 12 percent to $2.0 billion as 13 percent growth in average worldwide lending balances was partially offset by lower yields.
Net card fees increased 4 percent to $1.9 billion in 2004 primarily reflecting 8 percent growth in cards-in-force partially offset by a slight decrease in the average annual fee per card. Net card fees rose 6 percent to $1.8 billion in 2003 reflecting 6 percent growth in cards-in-force and the benefit of selected annual fee increases. The average annual fee per proprietary card-in-force was $34 in 2004 compared to $35 in 2003 and $34 in 2002.
Travel commissions and fees of $1.8 billion for 2004 rose 19 percent primarily as a result of a 25 percent increase in travel sales, which includes the benefits of the acquisition of Rosenbluth in the fourth quarter of 2003, partially offset by lower transaction fees related to growth in on-line transaction activity. Travel commissions and fees increased 7 percent to $1.5 billion in 2003 due to higher revenue earned per dollar of sales coupled with a 3 percent increase in travel sales, primarily due to the acquisition of Rosenbluth.
Other revenues increased 6 percent in 2004 primarily due to higher fees earned on non-proprietary funds and greater financial planning and advice services fees at AEFA. Other revenues increased 17 percent in 2003 primarily due to greater merchant-related revenues at
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TRS and higher financial planning and advice services fees at AEFA.
EXPENSES
Consolidated expenses increased 12 percent to $24.2 billion in 2004, reflecting
increases of 12 percent at TRS, 13 percent at AEFA and 4 percent at AEB. As
discussed in further detail below, the increase in 2004 was driven primarily by
higher marketing, promotion, rewards and cardmember services expenses, greater
human resources costs, increased professional services expenses, greater
occupancy and equipment expenses and increased other expenses partially offset
by lower provisions for losses and lower funding costs.
Expenses in 2004 included $102 million in aggregate restructuring charges recorded in the fourth quarter in connection with several initiatives principally relating to the restructuring of the Company's business travel operations at TRS, the decision to sell certain operations of AEB and the relocation of certain functions in the Company's finance operations. These charges included $79 million of employee severance obligations included in human resources expense and $23 million of other exit costs. The other exit costs included $15 million recorded in occupancy and equipment expense principally related to the early termination of certain real estate property leases. The remainder of the other exit costs were included in professional services and other expenses. Also included in 2004 expenses was a $117 million net gain on the fourth quarter sale of the equipment leasing product line in TRS' small business financing unit, American Express Business Finance Corporation (AEBF).
Consolidated expenses increased 8 percent to $21.6 billion in 2003. The increase in 2003 was driven by higher marketing, promotion, rewards and cardmember services expenses, human resources expenses, professional services expense and other expenses partially offset by lower funding costs and provisions for losses.
Human resources expenses increased 17 percent in 2004 to $7.4 billion due to increased costs related to management incentives, including the impact of an additional incremental year of higher stock-based compensation expenses, the impact of the acquisitions of Rosenbluth and Threadneedle in late 2003, merit increases and employee benefit expenses, as well as the impact of the previously discussed restructuring of certain operations. The higher stock-based compensation expense from stock options reflects the Company's decision to expense stock options beginning in 2003. Higher expense related to restricted stock awards reflects the Company's decision to modify compensation practices and use restricted stock awards in place of stock options for middle management. Human resources expenses increased 10 percent to $6.3 billion in 2003 due to increased costs related to merit increases, employee benefit expenses and management incentive costs, as well as the impacts of fourth quarter 2003 acquisitions.
Marketing, promotion, rewards and cardmember services expenses of $5.1 billion for 2004 increased 30 percent over 2003, primarily due to a 30 percent increase at TRS, reflecting both greater rewards costs and higher marketing and promotion expenses. The growth in rewards costs is attributable to a higher redemption rate, strong volume growth and the continued increase in cardmember loyalty program participation. Management believes, based on historical experience, that cardmembers enrolled in rewards and co-brand programs yield higher spend, better retention, stronger credit performance and greater profit for the Company. The increase in marketing and promotion expenses during 2004 is primarily due to the Company's new global brand advertising campaign and the continued focus on business-building initiatives. Marketing, promotion, rewards and cardmember services expenses increased 25 percent in 2003 to $3.9 billion including a 26 percent increase at TRS. Higher expenses were a result of the continuation of brand and product advertising, an increase in selected card acquisition activities and higher cardmember rewards and services expenses reflecting higher volumes and greater rewards program participation and penetration.
Total provisions for losses and benefits in 2004 declined 2 percent to $4.3 billion primarily resulting from a combined 3 percent reduction in annuity and investment certificate provisions at AEFA and a 7 percent reduction in the cardmember lending provisions at TRS partially offset by a 4 percent increase in life insurance, international banking and other provisions. Total provisions for losses and benefits declined 3 percent in 2003, primarily driven by an 11 percent decline in both the charge card and cardmember lending provisions at TRS partially offset by a 7 percent net increase in annuity and investment certificate provisions at AEFA.
Professional services expense rose 12 percent to $2.5 billion in 2004 primarily due to increased technology costs related to higher business and service-related volumes at TRS. Professional services expense rose 11 percent during 2003 primarily due to higher business and service-related volumes at TRS.
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Interest expense for 2004 declined 4 percent primarily due to a 9 percent decrease in charge card interest expense at TRS, reflecting the benefit of a lower effective cost of funds partially offset by a higher average cardmember receivable balance. Interest expense declined 16 percent in 2003 including a 22 percent decrease in charge card interest expense at TRS primarily due to the benefit of a lower effective cost of funds, partially offset by a higher average cardmember receivable balance.
Other expenses rose 6 percent to $1.9 billion including costs related to the Threadneedle acquisition, various industry regulatory and legal matters at AEFA and costs incurred at AEB relating to the restructuring charges discussed earlier. These increases were partially offset by a $117 million net gain on the fourth quarter 2004 sale of the equipment leasing product line in TRS' small business financing unit, AEBF. Other expenses of $1.8 billion increased 12 percent in 2003 primarily due to acquisition-related expenses, the impact of fewer deferred acquisition costs (DAC) and expenses related to legal and industry regulatory matters at AEFA. See the AEFA Results of Operations section for further discussion of DAC and related adjustments.
The estimated gross benefits realized from reengineering initiatives during 2004 and 2003 were approximately $1.0 billion in each year, a portion of which flowed through to earnings while the rest was reinvested into business areas with high-growth potential.
The effective tax rate was 29 percent for both 2004 and 2003.
CRITICAL ACCOUNTING POLICIES
The Company's significant accounting policies are described in Note 1 to the
Consolidated Financial Statements. The following provides information about
critical accounting policies that are important to the Consolidated Financial
Statements and that involve estimates requiring significant management
assumptions and judgments about the effect of matters that are uncertain. These
policies relate to reserves for cardmember losses, Membership Rewards costs,
investment securities valuation, asset securitizations and deferred acquisition
costs.
RESERVES FOR CARDMEMBER LOSSES
The Company's reserves for losses relating to cardmember loans and receivables
represent management's estimate of the amount necessary to absorb losses
inherent in the Company's outstanding portfolio of loans and receivables.
Management's evaluation process requires certain estimates and judgments.
Reserves for these losses are primarily based upon models that analyze specific
portfolio statistics and also reflect, to a lesser extent, management's judgment
regarding overall adequacy. The analytic models take into account several
factors, including average write-off rates for various stages of receivable
aging (i.e., current, 30 days, 60 days, 90 days) over a 24-month period and
average bankruptcy and recovery rates. In exercising its judgment to adjust
reserves that are calculated by the analytic model, management considers the
level of coverage of past-due accounts, as well as external indicators, such as
leading economic indicators, unemployment rate, consumer confidence index,
purchasing manager's index, bankruptcy filings and the regulatory environment.
Management believes the impact of each of these indicators can change from time
to time and thus reviews these indicators in concert.
Loans and receivables are written-off when management deems amounts to be uncollectible, which is generally determined by the number of days past due. In general, bankruptcy and deceased accounts are written-off upon notification, or when 180 days past due for lending products and 360 days past due for charge card products. For all other accounts, write-off policy is based upon the delinquency and product. Given both the size and volatility of write-offs, management continually monitors evolving trends and adjusts its business strategy accordingly. To the extent historical credit experience is not indicative of future performance or other assumptions used by management do not prevail, loss experience could differ significantly, resulting in either higher or lower future provisions for losses, as applicable. As of December 31, 2004, if average write-off rates were 5 percent higher or lower, the reserve for losses would change by approximately $90 million.
MEMBERSHIP REWARDS COSTS
The Company's Membership Rewards program allows enrolled cardmembers to earn
points that can be redeemed for a broad range of rewards including travel,
entertainment, retail certificates and merchandise. The Company establishes
reserves to cover the cost of future reward redemptions and typically makes
payments to its reward partners when cardmembers redeem their points. The
reserve for Membership Rewards is estimated using models that analyze
redemption statistics and also reflect, to a lesser extent, management's
judgment regarding overall adequacy. The ultimate points to be redeemed by
cardmembers are estimated based on many factors including past redemption
behavior of cardmembers, product type, year of enrollment, spend level and
duration in the
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program. Past behavior is used to predict when current enrollees will leave the program and their ultimate redemption rate.
The provision for the cost of Membership Rewards is based upon points earned that are ultimately expected to be redeemed by cardmembers and the current weighted-average cost per point of redemption. The weighted-average cost per point is affected by the mix of rewards redeemed. The provision and related balance sheet reserve for unredeemed points are impacted over time based on a number of factors including changes in the number of cardmembers in the Membership Rewards program, the actual amount of points earned and redeemed, the actual weighted-average cost per point, the availability of Membership Rewards offerings by vendors, the redemption choices made by cardmembers, and future changes the Company could make to the program. As of December 31, 2004, if the ultimate redemption rate changed by 100 basis points, the reserve for Membership Rewards would change by approximately $130 million.
ASSET SECURITIZATIONS
Securitization of the Company's cardmember receivables and loans is accomplished
through the transfer of those assets to a special purpose entity created for the
securitization, generally a trust, which in turn issues securities that are
collateralized by the transferred assets to third-party investors. The Company
accounts for its securitization activities as either sales or secured borrowings
in accordance with Statement of Financial Accounting Standards (SFAS) No. 140,
"Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities -- a Replacement of FASB Statement No. 125." During 2004, the
Company recognized $26 million in net pretax gains from securitizations.
Management utilizes certain estimates and assumptions to determine the fair value of the Company's subordinated retained interests, including an interest-only strip, and gains or losses at the time of sale. These estimates and assumptions are generally based on projections of finance charges and fees paid related to the securitized assets, net credit losses, average loan life, the contractual fee to service the securitized assets and a discount rate commensurate with the retained interests. Changes in the estimates and assumptions used may have an impact on the Company's gain or loss calculation and the valuation of its subordinated retained interests. As of December 31, 2004, the total fair value of all subordinated retained interests was $315 million. A 10 percent adverse change in the key estimates and assumptions would result in a decrease in the total fair value of approximately $34 million.
INVESTMENT SECURITIES VALUATION
Generally, investment securities are carried at fair value on the balance sheet
with unrealized gains (losses) recorded in accumulated other comprehensive
income (loss) within equity, net of income tax provisions (benefits). At
December 31, 2004, the Company had net unrealized pretax gains on
Available-for-Sale securities of $1.3 billion. Gains and losses are recognized
in results of operations upon disposition of the securities. Losses are also
recognized when management determines that a decline in value is
other-than-temporary, which requires judgment regarding the amount and timing of
recovery. Indicators of other-than-temporary impairment for debt securities
include issuer downgrade, default or bankruptcy. The Company also considers the
extent to which cost exceeds fair value, the duration and size of that gap, and
management's judgment about the issuer's current and prospective financial
condition. Approximately 90% of the investment portfolio classified as
Available-for-Sale or trading is determined by quoted market prices. As of
December 31, 2004, there were $260 million in gross unrealized losses that
related to $18.3 billion of securities, of which $3.2 billion has been in a
continuous unrealized loss position for 12 months or more. As part of its
ongoing monitoring process, management has determined that substantially all of
the gross unrealized losses on these securities is attributable to changes in
interest rates. Additionally, the Company has the ability and intent to hold
these securities for a time sufficient to recover its amortized cost and has,
therefore, concluded that none of these securities is other-than-temporarily
impaired at December 31, 2004.
Included in the Company's investment portfolio discussed above are structured investments of various asset quality, including collateralized debt obligations (CDOs) (backed by high-yield bonds and bank loans), which are not readily marketable. The carrying values of these structured investments are based on future cash flow projections that require a significant degree of management judgment as to the amount and timing of cash payments, defaults and recovery rates of the underlying investments and, as such, are subject to change. The carrying value will vary if the actual cash flows differ from projected due to actual defaults or changes in estimated default or recovery rates. As an example, an increase in the near-term default rate by 100 basis points, in and of itself, would reduce the cash flow projections by approximately $10 million based
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on underlying investments as of December 31, 2004. The level of change in near-term default rates would have to be significantly higher than 100 basis points to cause a change in carrying value of the Company's structured investments due to previously recognized impairment losses coupled with subsequent improvement in actual default rates.
See Recently Issued Accounting Standards section of Note 1 to the Consolidated Financial Statements for a discussion of Emerging Issues Task Force (EITF) Issue 03-1, "The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments," which, when finalized by the FASB, may affect the Company's investment securities valuation policy.
DEFERRED ACQUISITION COSTS
Deferred acquisition costs (DAC) represent the costs of acquiring new insurance,
annuity and mutual fund business, principally direct sales commissions and other
distribution and underwriting costs that have been deferred on the sale of
annuity, life and health insurance and, to a lesser extent, property/casualty
and certain mutual fund products. These costs are deferred to the extent they
are recoverable from future profits. For annuity and insurance products, DAC are
amortized over periods approximating the lives of the business, principally as a
percentage of premiums or estimated gross profits associated with the products
depending on the product's characteristics. For certain mutual fund products,
DAC are generally amortized over fixed periods on a straight-line basis.
For annuity and life and health insurance products, the DAC balances at any reporting date are supported by projections that show management expects there to be adequate premiums, estimated gross profits or interest margins after that date to amortize the remaining DAC balances. These projections are inherently uncertain because they require management to make assumptions about financial markets, anticipated mortality and morbidity levels, and policyholder behavior over periods extending well into the future. Projection periods used for AEFA's annuity products are typically 10 to 25 years, while projection periods for AEFA's life and health insurance products are often 50 years or longer. Management regularly monitors financial market conditions and actual policyholder behavior experience and compares them to its assumptions. For annuity and universal life insurance products, the assumptions made in projecting future results and calculating the DAC balance and DAC amortization expense are management's best estimates. Management is required to update these assumptions whenever it appears that, based on actual experience or other evidence, earlier estimates should be revised. When assumptions are changed, the percentage of estimated gross profits or portion of interest margins used to amortize DAC might also change. A change in the required amortization percentage is applied retrospectively; an increase in amortization percentage will result in a decrease in DAC balance and an increase in DAC amortization expense while a decrease in amortization percentage will result in an increase in DAC balance and a decrease in DAC amortization expense.
The impact on results of operations of changing assumptions can be either positive or negative in any particular period and is reflected in the period in which such changes are made.
For other life and health insurance products, the assumptions made in calculating the DAC balance and DAC amortization expense are intended to provide for adverse deviations in experience and are revised only if management concludes experience will be so adverse that DAC is not recoverable. If management concludes that DAC is not recoverable, DAC is reduced to the amount that is recoverable based on best estimate assumptions.
For annuity and life and health insurance products, key assumptions underlying these long-term projections include interest rates (both earning rates on invested assets and rates credited to policyholder accounts), equity market performance, mortality and morbidity rates and the rates at which policyholders are expected to surrender their contracts, make withdrawals from their contracts and make additional deposits to their contracts. Assumptions about interest rates drive projected interest margins, while assumptions about rates credited to policyholder accounts and equity market performance drive projected customer asset value growth rates, and assumptions about surrenders, withdrawals and deposits comprise projected persistency rates. Management must also make assumptions to project maintenance expenses associated with servicing its annuity and insurance business during the DAC amortization period.
The customer asset value growth rate is the rate at which contract values are assumed to appreciate in the future. The rate is net of asset fees and anticipates a blend of equity and fixed income investments. Management reviews and, where appropriate, adjusts its assumptions with respect to customer asset value growth rates on a quarterly basis. The Company uses a mean reversion method as a monthly guideline in
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setting near-term customer asset value growth rates based on a long-term view of financial market performance as well as actual historical performance. In periods when market performance results in actual contract value growth at a rate that is different than that assumed, the Company will reassess the near-term rate in order to continue to project its best estimate of long-term growth. The near-term growth rate is reviewed to ensure consistency with management's assessment of anticipated equity market performance. Management is currently assuming a 7 percent long-term customer asset value growth rate. If the Company increased or decreased its assumption related to this growth rate by 100 basis points, the impact on DAC amortization expense would be a decrease or increase of approximately $50 million.
Management monitors other principal DAC assumptions, such as persistency, mortality, morbidity, interest margin and maintenance expense levels each quarter and, when assessed independently, each could impact the Company's DAC balances. For example, if the Company increased or decreased its interest margin on its universal life insurance and on the fixed portion of its variable universal life insurance products by 10 basis points, the impact on DAC amortization expense would be a decrease or increase of approximately $5 million. Additionally, if the Company extended or reduced the amortization periods by one year for variable annuities to reflect changes in premium paying persistency and/or surrender assumptions, the impact on DAC amortization expense would be a decrease or increase of approximately $20 million. The amortization impact of extending or reducing the amortization period any additional years is not linear.
The analysis of DAC balances and the corresponding amortization is a dynamic process that considers all relevant factors and assumptions discussed above. Unless management identifies a material deviation over the course of the quarterly monitoring, management reviews and updates these DAC assumptions annually in the third quarter of each year. An assessment of sensitivity associated with changes in any single assumption would not necessarily be an indicator of future results.
CONSOLIDATED LIQUIDITY AND CAPITAL
RESOURCES
CAPITAL STRATEGY
The Company generates equity capital primarily through net income to fund
current needs and future business growth and to maintain a targeted debt rating.
Equity capital generated in excess of these needs is returned to shareholders
through dividends and the share repurchase program. The maintenance of a solid
equity capital base provides the Company with a strong and stable debt rating
and uninterrupted access to diversified sources of financing to fund growth in
its assets, such as cardmember receivables and loans and other items. The
Company maintains flexibility in its equity capital planning and has developed a
contingency funding plan described below to ensure that it has adequate sources
of financing in difficult economic or market environments.
The Company believes allocating capital to its growing businesses with a return on risk-adjusted equity in excess of their cost of capital will continue to build shareholder value. The Company's philosophy is to retain earnings sufficient to enable it to meet its growth objectives, and, to the extent capital exceeds investment opportunities, return excess capital to shareholders. Assuming the Company achieves its financial objectives of 12 to 15 percent EPS growth, 18 to 20 percent return on equity and 8 percent revenue growth, on average and over time, it will seek to return to shareholders an average of 65 percent of capital generated, subject to business mix, acquisitions and rating agency requirements. The Company exceeded all three of its long-term financial objectives during 2004 and returned to shareholders, through dividends and share repurchases, approximately 87 percent of capital generated. The Company paid dividends of $535 million during the year ended December 31, 2004. Since the inception of the Company's current share repurchase program in 1994, approximately 68 percent of capital generated has been returned to shareholders.
The Company maintains sufficient equity capital to support its businesses. Flexibility is maintained to shift capital among business units as appropriate. For example, the Company may infuse additional capital into subsidiaries to maintain capital at targeted levels, which include consideration of debt ratings and regulatory requirements. These infused amounts can affect both Parent Company capital and liquidity levels. The Company maintains discretion to manage these effects, including the issuance of public debt or the reduction of projected common share buybacks. Additionally, the Company may transfer short-term funds within the Company to meet liquidity needs, subject to and in compliance with various contractual and regulatory constraints.
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SHARE REPURCHASES
As discussed previously, the Company has in place a share repurchase program to
return equity capital in excess of its business needs to shareholders. These
share repurchases are made to both offset the issuance of new shares as part of
employee compensation plans and to reduce shares outstanding. The Company
repurchases its common shares primarily by open market purchases using several
brokers at competitive commission and fee rates. In addition, common shares may
also be purchased from the Company-sponsored Incentive Savings Program (ISP) to
facilitate the ISP's required disposal of shares when employee-directed
activity results in an excess common share position. Such purchases are made at
market price without commissions or other fees. During 2004, the Company
repurchased 69.4 million common shares at an average price of $51.59. Since the
inception of the current share repurchase program, 495.5 million shares have
been acquired at an average price of $29.81 under total authorizations to
repurchase up to 570.0 million shares, including purchases made under past
agreements with third parties. In light of the Company's intention to provide
additional capital to AEFC in connection with its plans to pursue a spin-off of
AEFC to the Company's shareholders, the Company may modify its share repurchase
program during 2005 subject to its capital needs.
CASH FLOWS
CASH FLOWS FROM OPERATING ACTIVITIES
For the year ended December 31, 2004, net cash provided by operating activities
was $9.1 billion. The Company generated net cash from operating activities in
amounts greater than net income during 2004 primarily due to provisions for
losses and benefits, which represent expenses in the Consolidated Statements of
Income but do not require cash at the time of provision. Similarly,
depreciation and amortization represent non-cash expenses. In addition, net
cash was provided by fluctuations in other operating assets and liabilities.
In the normal course of business, these accounts can vary significantly due to
the amount and timing of various payments.
Net cash provided by operating activities was lower in 2003 than 2002, as higher net income in 2003 was more than offset by fluctuations in the Company's operating assets and liabilities, primarily reflecting the purchase of securities in 2002, settled in 2003.
Management believes cash flows from operations, available cash balances and short-term borrowings will be sufficient to fund the Company's operating liquidity needs.
CASH FLOWS FROM INVESTING ACTIVITIES
The Company's investing activities primarily include funding TRS' cardmember
loans and receivables and AEFA's Available-for-Sale investment portfolio.
For the year ended December 31, 2004, net cash used in investing activities of $11.6 billion decreased from 2003. The decrease reflects the sale of the equipment leasing product line in TRS' small business financing unit and the real estate sale-leaseback transaction (see Note 10 to the Consolidated Financial Statements) in 2004 as compared to the Threadneedle and Rosenbluth acquisitions in 2003. This was partially offset by net increases in cash used for funding cardmember receivables and loans and contingent liquidity portfolio investments at TRS and net increases in the investment portfolio reflecting the cumulative benefit of sales of annuities, insurance and certificate products at AEFA.
For the year ended December 31, 2003, net cash used in investing activities increased over 2002 primarily due to an increased investment portfolio and fewer sales of cardmember receivables and loans to TRS' securitization trusts as well as the Threadneedle and Rosenbluth acquisitions.
CASH FLOWS FROM FINANCING ACTIVITIES
The Company's financing activities primarily include the issuance of debt and
AEFA's sale of annuities and investment certificates, in addition to taking
customer deposits. The Company also regularly repurchases its common shares.
Net cash provided by financing activities of $6.2 billion for the year ended December 31, 2004 rose slightly compared to 2003, primarily due to a larger net increase in total debt compared to 2003 offset by a net decrease in customer deposits in 2004 versus a net increase in 2003 and higher share repurchase activity.
In 2003, financing activities provided net cash greater than in 2002, primarily due to a net increase in total debt compared to a net decrease in 2002.
FINANCING ACTIVITIES
The Company is committed to maintaining cost-effective, well-diversified
funding programs to support current and future asset growth in its global
businesses. Its funding plan is structured to meet expected and changing
business needs to fund asset balances efficiently and cost-effectively through
diversified sources of financing, to
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help ensure the availability of financing in unexpected periods of stress, and to be concurrently integrated into the asset-liability management of interest rate exposures. Liquidity refers to the Company's ability to meet its current and future cash needs. In addition to its funding plan described below, the Company's contingent funding strategy is designed to allow for the continued funding of business operations through difficult economic, financial market and business conditions when access to its regular funding sources could become diminished or interrupted.
TRS is the primary asset generating business with significant assets in both domestic and international cardmember receivable and lending activities. As such, the Company's most significant borrowing and liquidity needs are associated with TRS' card businesses. TRS pays merchants for card transactions and bills cardmembers accordingly. TRS funds merchant payments during the period cardmember loans and receivables are outstanding. AEFA's borrowing needs are less significant as it generates funds through its operations, primarily by the sale of insurance, annuity or certificate products. AEB also has limited borrowing needs as its principal funding source is customer deposits. See the Liquidity and Capital Resources section for TRS, AEFA and AEB for further discussion regarding each operating segment's funding activities and liquidity management practices.
The following discussion includes information on both a GAAP and managed basis. The managed basis presentation includes debt issued in connection with the Company's lending securitization activities, which are off-balance sheet. The Company's management views and manages funding requirements on a managed basis because asset securitization is just one of several ways for the Company to fund cardmember loans. Use of a managed basis presentation, including both on- and off-balance sheet debt, avoids distortions due to the mix of funding sources at any particular point in time.
FUNDING STRATEGY
The Company's funding sources are well-diversified and include commercial
paper, retail and institutional customer deposits, bank notes, medium-term
notes, senior debt, asset securitizations and other borrowed funds. Diversity
of funding sources by debt instrument and by investor base provides additional
insulation from unforeseen events in the short-term debt market. The Company
had the following consolidated debt, on both a GAAP and managed basis, and
customer deposits outstanding at December 31, 2004 and 2003:
December 31, (Billions) 2004 2003 -------------------------------------------------------------------------------- Short-term debt $ 14.2 $ 19.0 Long-term debt 33.0 20.7 -------------------------------------------------------------------------------- Total debt (GAAP basis) $ 47.2 $ 39.7 Off-balance sheet securitizations(a) 20.3 19.5 -------------------------------------------------------------------------------- Total debt (managed basis) $ 67.5 $ 59.2 Customer deposits $ 21.1 $ 21.3 -------------------------------------------------------------------------------- |
(a) Includes securitized equipment leasing receivables of $0.1 billion at December 31, 2003.
In addition to deposits and debt, the Company uses off-balance sheet arrangements, principally through the sales of consumer cardmember loans in securitizations. In 2004, the Company securitized $3.9 billion in loans from its consumer loans portfolio while $3.0 billion of investor interests matured. As of December 31, 2004 and 2003, the Company, through a lending securitization trust, held total assets of $24.7 billion and $26.8 billion, respectively, of which $20.3 billion and $19.4 billion, respectively, had been sold.
Additionally, the Company had securitized cardmember receivables of $7.4 billion at December 31, 2004 of which $1.9 billion had been sold. All securitized cardmember receivables remain on the Consolidated Balance Sheet.
In 2004, the Company continued to reduce its reliance on short-term debt. Term debt offerings of $15.2 billion in 2004 were issued to refinance maturing long-term obligations, fund business growth and decrease short-term debt obligations.
December 31, ($ in billions) 2004 2003 ------------------------------------------------------------------------------- Short-term debt $ 14.2 $ 19.0 Short-term debt percentage of total debt (GAAP basis) 30.0% 48.0% Short-term debt percentage of total debt (managed basis) 21.0% 32.2% -------------------------------------------------------------------------------- |
In 2004, medium- and long-term debt with maturities ranging from 2 to 5 years was issued. The Company's 2004 term offerings, which include those made by the Parent Company; American Express Credit Corporation (Credco), American Express Centurion Bank (Centurion Bank), and American Express Bank, FSB (FSB), all wholly-owned subsidiaries of TRS; and the American Express Credit Account Master Trust, are presented in the following table on a managed basis:
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Amount
Description (billions)
--------------------------------------------------------------------------------
American Express Company
(Parent Company only):
Fixed Rate Senior Notes $ 0.5
American Express Credit Corporation:
Floating Rate Medium-Term Notes $ 2.6
Fixed Rate Medium-Term Notes $ 2.7
Borrowings under bank credit facilities $ 3.4
American Express Centurion Bank:
Floating Rate Medium-Term Notes $ 3.5
Fixed Rate Senior Notes $ 0.5
American Express Bank, FSB:
Floating Rate Medium-Term Notes $ 1.6
American Express Credit Account
Master Trust:
Trust Investor Certificates
(off-balance sheet) $ 3.9
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Compared to the 2003 long-term funding activity, the long-term debt issues in 2004 have longer average maturities and a wider distribution along the maturity spectrum to reduce and spread out the refinancing requirement in future periods.
Beginning in late 2003, the Company also enhanced its contingent liquidity resources for alternative funding sources principally through the addition of an investment liquidity portfolio as discussed further in the TRS Liquidity and Capital Resources section. The Company believes that its funding strategy allows for the continued funding of business operations through difficult economic, financial market and business conditions.
The Company's funding strategy is designed to maintain high and stable debt ratings from the major credit rating agencies, Moody's, Standard & Poor's and FitchRatings. Maintenance of high and stable debt ratings is critical to ensuring the Company has continuous access to the capital and credit markets. It also enables the Company to reduce its overall borrowing costs. At December 31, 2004, its debt ratings were as follows:
Standard Fitch
Moody's & Poor's Ratings
--------------------------------------------------------------------------------
Short-term P-1 A-1 F-1
Senior unsecured A1 A+ A+
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|
See Note 23 to the Consolidated Financial Statements for the rating agency response to the proposed spin-off.
The Company actively manages the risk of liquidity and cost of funds resulting from the Company's financing activities. Management believes a decline in the Company's long-term credit rating by two levels could result in the Company having to significantly reduce its commercial paper and other short-term borrowings. Remaining borrowing requirements would be addressed through other means such as the issuance of long-term debt, additional securitizations, increased deposit taking, the sale of investment securities or drawing on existing credit lines. This would result in higher interest expense on the Company's commercial paper and other debt, as well as higher fees related to unused lines of credit. The Company believes a two level downgrade is highly unlikely due to its capital position and growth prospects.
PARENT COMPANY FUNDING
Total Parent Company long-term debt outstanding was $5.7 billion at both
December 31, 2004 and 2003. During 2004, the Parent Company issued $500 million
of 4.75% Senior Notes due 2009 under the shelf registrations to be used for
general corporate purposes. During 2003, the Parent Company issued $1 billion
of 4.875% Senior Global Notes due in 2013 and $2 billion of 1.85% Convertible
Senior Debentures (the Debentures) due in 2033. See Notes 1 and 7 to the
Consolidated Financial Statements for a more complete discussion regarding the
terms of the Debentures. See Note 23 to the Consolidated Financial Statements
for a discussion of the potential effect of the proposed spin-off of AEFA on
the Debentures.
At December 31, 2004 and 2003, the Parent Company had $4.3 billion and $1.8 billion, respectively, of debt or equity securities available for issuance under shelf registrations filed with the Securities and Exchange Commission (SEC).
The Board of Directors authorized a Parent Company commercial paper program supported by a $1.96 billion multi-purpose committed bank credit facility that expires incrementally through 2009. There was no Parent Company commercial paper outstanding during 2004 and 2003, and no borrowings have been made under its bank credit facility. The Company maintained total committed bank lines of credit with approximately 54 large financial institutions totaling $13.8 billion at December 31, 2004, which include the Parent Company credit lines. The availability of the credit lines is subject to the Company's compliance with certain financial covenants. See TRS' Liquidity and Capital Resources discussion for details of the principal covenants that govern this committed bank credit facility. See Note 23 to the Consolidated Financial Statements for a discussion of the impact of the proposed spin-off on the Company's credit lines.
In addition, TRS; Centurion Bank; Credco; American Express Overseas Credit Corporation Limited, a
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wholly-owned subsidiary of Credco; and AEB have established a program for the issuance, outside the United States, of debt instruments to be listed on the Luxembourg Stock Exchange. The maximum aggregate principal amount of debt instruments outstanding at any one time under the program will not exceed $6.0 billion. At December 31, 2004, $3.4 billion was outstanding under this program, including $2.9 billion issued by Credco during the year. At December 31, 2003, $0.5 billion of debt was outstanding under this program.
OFF-BALANCE SHEET ARRANGEMENTS AND
CONTRACTUAL OBLIGATIONS
The Company has identified off-balance sheet transactions, arrangements,
obligations and other relationships that may have a material current or future
effect on its financial condition, changes in financial condition, results of
operations or liquidity and capital resources.
CONTRACTUAL OBLIGATIONS
The contractual obligations identified in the table below include both on- and
off-balance sheet transactions that represent material expected or
contractually committed future obligations of the Company. Purchase obligations
include agreements to purchase goods and services that are enforceable and
legally binding on the Company and that specify significant terms, including:
fixed or minimum quantities to be purchased; fixed, minimum or variable price
provisions; and the approximate timing of the transaction.
Payments due by year
-------------------------------------------------------
2010 and
(Millions) Total 2005 2006-2007 2008-2009 thereafter
----------------------------------------------------------------------------------------
On-Balance Sheet:
Long-term debt $ 33,061 $ 8,977 $ 11,861 $ 8,799 $ 3,424
Insurance and annuities(1) 54,755 3,366 7,036 6,937 37,416
Investment certificates(2) 11,332 10,867 465 -- --
Other long-term liabilities 4,902 1,982 1,243 834 843
Off-Balance Sheet:
Lease obligations 2,714 305 491 333 1,585
Purchase obligations(3) 5,049 1,168 1,496 1,199 1,186
----------------------------------------------------------------------------------------
Total $111,813 $26,665 $ 22,592 $18,102 $ 44,454
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|
(1) These scheduled payments are represented by reserves of $33 billion at December 31, 2004 and are based on interest credited, mortality, morbidity, lapse, surrender and premium payment assumptions. Actual payment obligations may differ if experience varies from these assumptions. Separate account liabilities have been excluded as associated contractual obligations would be met by separate account assets.
(2) The payments due by year are based on contractual maturities. However, contractholders have the right to redeem the investment certificates at their discretion subject to a surrender charge. Redemptions are most likely to occur in periods of dramatic increases in interest rates.
(3) The purchase obligation amounts include expected spend by period under contracts that were in effect at December 31, 2004. Minimum contractual payments associated with purchase obligations, including termination payments, were $222 million.
The Company also has certain contingent obligations for worldwide business arrangements. These payments relate to contractual agreements with partners entered into as part of the ongoing operation of the TRS business, primarily with co-brand partners. The contingent obligations under such arrangements were $3.7 billion as of December 31, 2004.
In addition to the off-balance sheet contractual obligations noted above, the Company has off-balance sheet arrangements that include guarantees, retained interests in structured investments, unconsolidated variable interest entities and other off-balance sheet arrangements as more fully described below.
GUARANTEES
The Company's principal guarantees are associated with cardmember services
provided to enhance the value of owning an American Express card. At December
31, 2004, the Company had guarantees totaling $90.7 billion related to TRS
cardmember protection plans, as well as other guarantees in the ordinary course
of business that are within the scope of FASB Interpretation No. 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others" (FIN 45). Expenses relating to
claims under these guarantees were approximately $20 million in 2004. During
the third quarter of 2004, the Company reduced its merchant-related reserves by
approximately $60 million reflecting changes made to certain merchant
agreements to mitigate loss exposure and ongoing favorable credit experience
with merchants.
The Company had $941 million of bank standby letters of credit and bank guarantees and other letters of credit within the scope of FIN 45. At December 31, 2004, the Company held $788 million of collateral supporting
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standby letters of credit and guarantees. Additionally, at December 31, 2004 the Company had $662 million of loan commitments and other lines of credit as well as $646 million of bank standby letters of credit, bank guarantees and bank commercial and other bank letters of credit that were outside the scope of FIN 45.
See Note 10 to the Consolidated Financial Statements for further discussion regarding the Company's guarantees.
RETAINED INTERESTS IN ASSETS TRANSFERRED TO
UNCONSOLIDATED ENTITIES
The Company held, as an investment, $108 million of subordinated retained
interests from securitizations and $207 million of an interest-only strip in
the cardmember loan securitization trust at December 31, 2004. See the TRS
Liquidity and Capital Resources section and Note 4 to the Consolidated
Financial Statements for details regarding TRS' securitization trusts.
Additionally, the Company, through its AEFA segment, held as an investment $705 million of retained interests in a CDO-related securitization trust at December 31, 2004. Of that total, approximately $523 million is considered investment grade. The securitization was the result of the Company placing a majority of its rated CDO securities into a trust in 2001. The rated CDO securities were held as part of the Company's investment strategy in order to pay a competitive rate to contract holders within the AEFA operating segment. One of the results of this transaction was that increases and decreases in future cash flows of the individual CDOs are combined into one overall cash flow for purposes of determining the carrying value of the retained interests and related impact on the results of operations.
UNCONSOLIDATED VARIABLE INTEREST ENTITIES
At December 31, 2004, the Company had interests in unconsolidated variable
interest entities including $375 million of investments in affordable housing
partnerships and CDO residual tranches with a carrying value of $27 million
which are managed by the Company. The affordable housing partnership interests
and the CDO residual tranches were obtained as part of the overall investment
strategies and as a condition of managing certain CDOs that generate management
fee income for the Company. The Company has no material future obligations
associated with these entities beyond the carrying values. These structures were
not impacted by the consolidation provisions of FIN 46, as the Company is not
the primary beneficiary. See the AEFA Liquidity and Capital Resources section
and Note 5 to the Consolidated Financial Statements for further discussion
regarding the Company's interests in variable interest entities.
CERTAIN OTHER OFF-BALANCE SHEET ARRANGEMENTS
At December 31, 2004, the Company had $176 billion of unused credit available
to cardmembers, as part of established lending product agreements. Total unused
credit available to cardmembers does not represent potential future cash
requirements as a significant portion of this unused credit will likely not be
drawn. The Company's charge card products have no pre-set limit and, therefore,
are not reflected in unused credit available to cardmembers. As discussed in
the TRS Liquidity and Capital Resources section, the Company's securitizations
of cardmember loans are also off-balance sheet. The Company's cardmember
receivables securitizations remain on the Consolidated Balance Sheets.
See Note 10 to the Consolidated Financial Statements for further discussion regarding the Company's other off-balance sheet arrangements.
AMERICAN EXPRESS COMPANY RISK MANAGEMENT
INTRODUCTION
Risk management is a key lever in driving profitable growth at the Company. By
creating transparent limits on risk exposures, optimizing investment
decision-making and identifying unacceptable risks, risk management plays a
fundamental role in the Company's efforts to create shareholder value.
In addition to business risk, the Company recognizes three fundamental sources
of risk:
o Credit Risk,
o Market Risk, and
o Operational Risk.
These risk types are interrelated and span the Company's business units and geographic locations. Given the nature and scope of these risks, the Company believes in centrally managing them at an enterprise level. Further, management has adopted well-defined principles regarding credit, market and operational risk to guide the Company's business strategy and achieve long-term shareholder objectives. The Company views underwriting credit risk as a significant lever in driving profitable growth. Market risk is hedged or managed within established parameters to sustain such earnings growth, while operational risk arising from the Company's business activities is carefully monitored to maintain it within acceptable limits.
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PRINCIPLES
The implementation of the Company's risk management objectives is based on the
following three principles:
o Independence of risk management oversight;
o Management of risk exposures through Board-approved risk limits; and
o Ultimate business ownership for risk-return decision making.
The Company's risk management leaders partner with business unit managers in making risk-return decisions by utilizing standardized risk metrics with predictable outcomes. The measurement and reporting of these risks are performed independently by risk management leaders. However, business unit managers ultimately remain accountable for the outcome of risk-return decisions within these established limits.
GOVERNANCE
Risk management governance at the Company begins with Board oversight of risk
management parameters. The Board's Audit Committee approves the Company's risk
management objectives, as well as major risk limits, policies and key process
controls. Supporting the Board in its oversight function is the Global
Leadership Team (GLT) and the Enterprise Risk Management Committee (ERMC). In
addition to risk-return decision-making, the GLT works with the ERMC to
increase awareness throughout the Company of risk-return tradeoffs on a daily
basis. The ERMC leads the Company's overall risk management activities by
measuring and monitoring enterprise-wide risk, and establishing enterprise-wide
risk management policies and practices.
Daily risk management occurs at the business unit level where the processes and infrastructure necessary to measure and manage risk are integrated into business unit goals. Business unit managers, in partnership with independent risk management leaders, make decisions regarding the assumption of risks that are within established limits and confined to an individual business unit. The Company has also developed a process that provides increased scrutiny throughout the risk management governance structure and requires higher levels of approval for exposures above defined risk thresholds or that may impact different business units.
The escalation process is designed so that the large majority of transactions and initiatives can continue to be accommodated within existing business unit risk management processes, while ensuring that risks with enterprise-wide implications receive enhanced scrutiny.
ROLES AND RESPONSIBILITIES
The ERMC is chaired by the Company's Chief Risk Officer. Credit officers
responsible for (i) cardmember credit risk management services, (ii) the
centralized functional responsibilities for worldwide card fraud and
information management, and (iii) banking services all report directly to the
Chief Risk Officer. Through the ERMC, the Chief Risk Officer is also
responsible for managing and controlling overall credit, market and operational
risk exposures throughout the Company.
In addition to the Chief Risk Officer, the ERMC is composed of:
o the senior risk leaders responsible for enterprise-wide market and
operational risk (including Internal Audit);
o the enterprise-wide leaders of compliance and controllership; and
o the senior risk leaders of the Company's three operating segments: TRS, AEFA
and AEB.
As the most senior risk management entity, the ERMC draws on its significant enterprise-wide risk expertise to analyze risk comprehensively and determine acceptable risk thresholds across the Company.
In order to enhance its enterprise-wide risk assessment, the ERMC has begun a multi-year effort to upgrade risk management capabilities to better measure, manage and transparently report on risk concentrations. The ERMC also launches focused risk management initiatives to assess the drivers of significant exposures and annually prepares a plan of the significant exposures to be reviewed by such initiatives.
CREDIT RISK MANAGEMENT PROCESS
Credit risk is defined as the risk of loss from obligor or counterparty
default. Leadership for overall credit risk management at the Company rests
with the Chief Risk Officer as Chairman of the ERMC. Credit risks in the
Company can be divided into two broad categories, each with distinct risk
management tools and metrics: consumer credit risk and institutional credit
risk.
CONSUMER CREDIT RISK
Consumer credit risk arises principally from the Company's cardmember
receivables and loans in TRS. As a portfolio consisting of millions of
borrowers and individual exposures, the portfolio effect from diversification
is considerable, with a loss distribution characterized by a high frequency but
manageable severity that is more closely linked to general economic conditions
than to borrower-specific events.
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Consumer credit risk is managed within a highly organized structure of Board-approved policies covering all facets of credit extension, including approvals, authorizations, line management and fraud prevention. The policies ensure consistent application of credit management principles and standardized reporting of asset quality and loss recognition metrics across domestic and international portfolios. Moreover, consumer credit risk management is supported by sophisticated proprietary scoring and decision-making models.
Credit underwriting decisions are made based on a sophisticated evaluation of product economics and customer behavior predictions. The Company has developed unique decision logic for each customer interaction, including prospect targeting, new accounts, line assignment, line management, balance transfer, cross sell and account management. Each decision has benefited from sophisticated modeling capability that uses the most up-to-date information on customers, including extensive payment history, purchase data and insights from proprietary data feeds from all three credit bureaus.
In addition to the impact of improved risk management processes, the Company's overall consumer credit performance has also benefited from the shifting mix of the portfolio towards products that reward the customer for spending. Rewards attract higher spending from premium customers, which in turn leads to lower credit loss rates. Moreover, rewards and other incentives offered at acquisition improve the risk profile of new customers. Since 2001, the percentage of accounts receivable from rewards-based products has increased from approximately 45 percent to 70 percent.
The combination of reward-related spending growth and improved risk management processes has resulted in lower credit losses for every vintage. For example, the loss rate of the 2004 vintage is 40 percent lower than that of the 2003 vintage. Similarly, the Company is experiencing lower credit losses for every tenure, with a 19 percent improvement since 2001 from accounts with a tenure greater than 5 years and a 12 percent improvement from accounts with a tenure less than 5 years.
The asset quality of the consumer portfolio is discussed in the TRS Results of Operations section.
INSTITUTIONAL CREDIT RISK
Institutional credit risk arises in each of the Company's operating segments:
o insurance and investment certificates at AEFA;
o the corporate card, large establishment services and network services
businesses within TRS; and
o the Financial Institutions Group at AEB.
Unlike consumer credit risk, institutional credit risk is characterized by a lower loss frequency but higher severity that, although affected by general economic conditions, is generally linked to more borrower-specific events. The Company's senior risk officers recognize that the absence of large losses in any given year or over several years is not representative of the riskiness of an institutional portfolio, given the infrequency of loss events in such a portfolio.
In 2004, the ERMC initiated a major project to upgrade risk management practices relating to institutional credit risk exposures. A key goal of this initiative is to establish escalation procedures for scrutinizing institutional exposures based on the size or riskiness of proposed exposures. These institutional credit management processes will be formalized in credit policies to be reviewed and approved by the Company's Board on an ongoing basis.
MARKET RISK MANAGEMENT PROCESS
Market risk represents the loss in value of portfolios and financial
instruments due to adverse changes in market variables. The Company's market
risk consists of:
o interest rate risk in its card, insurance and certificate businesses;
o foreign exchange risk in its international operations; and
o equity market risk in asset management.
Market risk is centrally managed by the corporate treasurer who also acts as the Vice Chairman of the ERMC. Within each business, market risk exposures are monitored and managed by various asset liability committees within the parameters of Board-approved policies covering derivative financial instruments, funding and investments. With respect to derivative financial instruments, the value of such instruments is derived from an underlying variable or multiple variables, including commodity, equity, foreign exchange and interest rate indices or prices. These instruments enable the end users to increase, reduce or alter exposure to various market risks and, as such, are an integral component of the Company's market risk and related asset liability management strategy and processes. Use of derivative financial instruments in each line of business risk management process is incorporated into the discussion below as well as the respective segment risk management section.
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Market exposure in TRS is a byproduct of the delivery of products and services to cardmembers. Interest rate risk is generated by funding cardmember charges and fixed rate loans with variable rate borrowings. Such assets and liabilities generally do not create naturally offsetting positions as it relates to basis, re-pricing, or maturity characteristics. By using derivative financial instruments, such as interest rate swaps, the interest rate profile can be adjusted to maintain and manage a desired profile. A portion of variable rate interest rate risk exposure usually remains unhedged, to enable the Company to take a view on interest rate changes. In addition, foreign exchange risk is generated by cardmember cross-currency charges, foreign currency denominated balance sheet exposures and foreign currency earnings in international units. The Company hedges this market exposure to the extent it is economically justified through various means including the use of derivative financial instruments, such as foreign exchange forward and cross-currency swap contracts, which can help "lock in" the Company's exposure to specific currencies at a specified rate. As a general matter, virtually all foreign exchange risk arising from cardmember cross-currency charges, foreign currency balance sheet exposures and foreign currency earnings is risk managed to mitigate the Company's exposure to currency rate fluctuations.
At AEFA, there are two principal components of market risk: interest rate risk through its insurance, annuity and investment certificate products and equity market risk within its asset management activities. Interest rate risk is managed through the use of a variety of tools that include modifying the maturities of investments in the insurance and certificates units and entering into derivative financial instruments, such as interest rate swaps, caps, floors, and swaptions, that change the interest rate characteristics of customer liabilities. Since certain of AEFA's investments and asset management activities are impacted by the value of its equity portfolios, from time to time, AEFA enters into hedging strategies, that may include the use of equity derivative financial instruments, such as equity options, to mitigate its exposure to the volatility in the equity markets.
Market risk arises at AEB from trading in foreign exchange (both directly through daily exchange transactions as well as through foreign exchange derivatives), interest rate derivatives (primarily swaps), equity derivatives and securities trading. Market risk is also generated by interest rate risk associated with short-funding the long-term investment portfolio.
Proprietary positions taken in foreign exchange instruments, interest rate instruments and the securities portfolio are monitored daily against Value-at-Risk (VaR) limits approved by the Board of AEB. Similarly, interest rate risk arising from funding the long-term investment portfolio is monitored against Earnings-at-Risk (EaR) limits established by the Board of AEB.
OPERATIONAL RISK MANAGEMENT PROCESS
The Company defines operational risk as the risk of not achieving business
objectives due to failed processes, people or information systems, or from the
external environment (e.g., natural disasters).
The management of operational risk is an important priority for the Company. Operational risk can impact an organization through direct or indirect financial loss, brand or reputational damage, customer dissatisfaction, or legal or regulatory penalties. The Company has an annual business unit review process that identifies its primary operational risk and mitigation strategies. Additionally, the Company is committed to improving its ability to prioritize and manage operational risk through the delivery of a comprehensive operational risk program. The Operational Risk Committee, which includes representatives from the business units, is developing enterprise-wide guidelines and tools for managing operational risk. The Committee is chaired by the Chief Operational Risk Officer and Vice Chairman of the ERMC who is responsible for overseeing the implementation of the Company's operational risk program. However, day-to-day management of operational risk lies with the business units.
During 2004, the Company continued to enhance its operational risk management practices through the implementation of a comprehensive self-assessment methodology. The self-assessment methodology is based on COSO (The Committee of Sponsoring Organizations of the Treadway Commission) principles, and facilitates compliance with Section 404 of the Sarbanes-Oxley Act. The implementation of this methodology has resulted in improved operational risk intelligence and a heightened level of preparedness to deal with operational risk events and conditions that may adversely impact the Company's operations.
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TRAVEL RELATED SERVICES
Results of Operations
STATEMENTS OF INCOME
Years Ended December 31, (Millions) 2004 2003 2002
--------------------------------------------------------------------------------
Net revenues:
Discount revenue $ 10,249 $ 8,781 $ 7,931
Lending:
Finance charge revenue 2,795 2,525 2,338
Interest expense 571 483 510
--------------------------------------------------------------------------------
Net finance charge
revenue 2,224 2,042 1,828
Net card fees 1,909 1,835 1,726
Travel commissions
and fees 1,795 1,507 1,408
Other commissions
and fees 2,230 1,901 1,833
Travelers Cheque
investment income 378 367 375
Securitization income, net 1,132 1,105 1,049
Other 1,661 1,651 1,571
--------------------------------------------------------------------------------
Total net revenues 21,578 19,189 17,721
--------------------------------------------------------------------------------
Expenses:
Marketing, promotion,
rewards and
cardmember services 4,944 3,814 3,027
Provision for losses
and claims:
Charge card 833 853 960
Lending 1,130 1,218 1,369
Other 176 127 149
--------------------------------------------------------------------------------
Total 2,139 2,198 2,478
Charge card interest
expense 713 786 1,001
Human resources 4,389 3,822 3,503
Other operating expenses:
Professional services 2,101 1,958 1,693
Occupancy and
equipment 1,300 1,199 1,102
Communications 465 452 443
Other 1,410 1,389 1,394
--------------------------------------------------------------------------------
Total other operating
expenses 5,276 4,998 4,632
================================================================================
Total expenses 17,461 15,618 14,641
--------------------------------------------------------------------------------
Pretax income 4,117 3,571 3,080
Income tax provision 1,265 1,141 945
--------------------------------------------------------------------------------
Net income $ 2,852 $ 2,430 $ 2,135
================================================================================
|
See Glossary of Selected Terminology section for definitions of key terms.
TRS reported net income of $2.9 billion in 2004, a 17 percent increase from $2.4 billion in 2003, which increased 14 percent from 2002.
The quality of TRS' card customer base, the breadth of its product portfolio, the benefits of its reward-based, spend oriented business model and its improved revolving credit capabilities combined to create a competitive advantage that was leveraged effectively to deliver strong TRS results. The Company's continued investments in growth initiatives over the past several years have resulted in strong growth in cardmember spending in the retail and everyday spending categories and continued improvement in the travel and entertainment sector, significant increases in cards-in-force from expansion of both proprietary and network card businesses, and quality lending balance growth. See Executive Overview for a general discussion of TRS' businesses and operations.
TRS' owned portfolio is primarily comprised of cardmember receivables generated by the Company's charge card products, unsecuritized U.S. cardmember loans and international cardmember loans.
As discussed more fully in the TRS Liquidity and Capital Resources section below, the Company securitizes U.S. cardmember loans as part of its financing strategy; consequently, the level of unsecuritized U.S. cardmember loans is primarily a function of the Company's financing requirements. As a portfolio, unsecuritized U.S. cardmember loans tend to be less seasoned than securitized loans, primarily because of the lead time required to designate and securitize each loan. The Company does not currently securitize international loans. Delinquency, reserve coverage and net write-off rates have historically been broadly comparable between the Company's owned and managed portfolios.
The following management discussion includes information on both a GAAP basis and managed basis. The Company presents TRS information on a managed basis because that is the way the Company's management views and manages the business. It differs from the accompanying financial statements, which are prepared in accordance with GAAP, as managed basis presentation assumes there have been no securitization transactions, i.e., as if all securitized cardmember loans and related income effects are reflected in the Company's balance sheet and income statement, respectively. Management believes that the trends in the Company's cardmember lending business are more accurately portrayed by evaluating the performance of both securitized and non-securitized cardmember loans. Asset securitization is just one of several ways the Company funds cardmember loans. Use of a managed basis presentation, including non-securitized and securitized cardmember loans, presents a more accurate picture of the key dynamics of the cardmember lending business, avoiding distortions due to the mix of funding sources
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at any particular point in time. For example, irrespective of the mix, it is important for management and investors to see metrics, such as changes in delinquencies and write-off rates, for the entire cardmember lending portfolio because it is more representative of the economics of the aggregate cardmember relationships and ongoing business performance and trends over time. It is also important for investors to see the overall growth of cardmember loans and related revenue and changes in market share, which are significant metrics in evaluating the Company's performance and which can only be properly assessed when all non-securitized and securitized cardmember loans are viewed together on a managed basis. Asset securitization activity of the Company is discussed in detail in the TRS Liquidity and Capital Resources section.
On a GAAP basis, results reflect finance charge revenue on the owned loan portfolio as well as finance charge revenue on the retained seller's interest from securitization activity. GAAP basis results also include investment income on the Company's investments in other subordinated retained interests from loan securitization issuances.
Additionally, on a GAAP basis, results reflect net securitization income, which is comprised of the non-credit provision components of the net gains and charges from securitization activities, excess spread related to securitized loans, net finance charge revenue on retained interests in securitized loans, and servicing income, net of related discounts or fees. Excess spread, which is the net positive cash flow from interest and fee collections allocated to the investor's interests after deducting the interest paid on investor certificates, credit losses, contractual servicing fees and other expenses is recognized in securitization income as it is earned. Net securitization income of $1.1 billion increased slightly in 2004 compared to 2003 as the impact of higher average securitized loan balances was partially offset by lower net gains from securitization activities. Net securitization income increased 5 percent to $1.1 billion in 2003 primarily as a result of a higher average balance of cardmember lending securitizations. See Selected Statistical Information below for data relating to TRS' owned loan portfolio.
During the years ended December 31, 2004, 2003 and 2002, TRS recognized net gains of $26 million ($17 million after-tax), $124 million ($81 million after-tax) and $136 million ($88 million after-tax), respectively, from net securitization activities. For the year ended December 31, 2004, the net gains consist of $230 million of income from the sale of $1.4 billion of certain subordinated retained interests and the securitization of $3.9 billion of cardmember loans, including the impact of the related credit reserves on the sold loans. This amount is partially offset by $204 million of charges related to the maturity of $3.0 billion of previously outstanding issuances, changes in interest-only strip assumptions and a current year reconciliation adjustment to lending receivable accounts. For the year ended December 31, 2003, $3.5 billion of U.S. lending receivables were securitized and $1.0 billion of securitization transactions matured.
Management views any net gains from securitizations as discretionary benefits to be used for card acquisition expenses, which are reflected in both marketing, promotion, rewards and cardmember services and other operating expenses. Consequently, the managed basis presentation for the years ended December 31, 2004, 2003 and 2002 assumes that the impact of this net activity was offset by higher marketing, promotion, rewards and cardmember services expenses of $16 million, $74 million and $81 million, respectively, and other operating expenses of $10 million, $50 million and $55 million, respectively. Accordingly, the incremental expenses, as well as the impact of this net activity, have been eliminated.
The following tables reconcile the GAAP basis for certain TRS income statement line items to the managed basis information, where different.
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GAAP Basis to Managed Basis Reconciliation -- Effect of Securitizations Years Ended December 31, (Millions)
GAAP Basis
-----------------------------------
2004 2003 2002
----------------------------------------------------------------------
Net revenues:
Discount revenue $ 10,249 $ 8,781 $ 7,931
Lending:
Finance charge revenue 2,795 2,525 2,338
Interest expense 571 483 510
--------------------------------------------------------------------------------
Net finance
charge revenue 2,224 2,042 1,828
Net card fees 1,909 1,835 1,726
Travel commissions
and fees 1,795 1,507 1,408
Other commissions
and fees 2,230 1,901 1,833
Travelers Cheque
investment income 378 367 375
Securitization income, net 1,132 1,105 1,049
Other 1,661 1,651 1,571
--------------------------------------------------------------------------------
Total net revenues 21,578 19,189 17,721
--------------------------------------------------------------------------------
Expenses:
Marketing, promotion,
rewards and
cardmember services 4,944 3,814 3,027
Provision for losses
and claims:
Charge card 833 853 960
Lending 1,130 1,218 1,369
Other 176 127 149
--------------------------------------------------------------------------------
Total 2,139 2,198 2,478
Charge card
interest expense 713 786 1,001
Human resources 4,389 3,822 3,503
Other operating
expenses:
Professional services 2,101 1,958 1,693
Occupancy and
equipment 1,300 1,199 1,102
Communications 465 452 443
Other 1,410 1,389 1,394
--------------------------------------------------------------------------------
Total other
operating expenses 5,276 4,998 4,632
--------------------------------------------------------------------------------
Total expenses 17,461 15,618 14,641
--------------------------------------------------------------------------------
Pretax income 4,117 3,571 3,080
Income tax provision 1,265 1,141 945
--------------------------------------------------------------------------------
Net income $ 2,852 $ 2,430 $ 2,135
--------------------------------------------------------------------------------
|
See Glossary of Selected Terminology section for definitions of key terms.
Effect of Securitizations
-----------------------------------------------------------------------------
Securitization Effect Managed Basis
-----------------------------------------------------------------------------
2004 2003 2002 2004 2003 2002
----------------------------------------------------------------------------------------------------------------
Net revenues:
Discount revenue
Lending:
Finance charge revenue $ 2,222 $2,172 $2,166 $ 5,017 $ 4,697 $ 4,504
Interest expense 384 317 340 955 800 850
----------------------------------------------------------------------------------------------------------------
Net finance
charge revenue 1,838 1,855 1,826 4,062 3,897 3,654
Net card fees
Travel commissions
and fees
Other commissions
and fees 210 193 185 2,440 2,094 2,018
Travelers Cheque
investment income
Securitization income, net (1,132) (1,105) (1,049) -- -- --
Other -- -- (14) 1,661 1,651 1,557
----------------------------------------------------------------------------------------------------------------
Total net revenues 916 943 948 22,494 20,132 18,669
----------------------------------------------------------------------------------------------------------------
Expenses:
Marketing, promotion,
rewards and
cardmember services (16) (74) (81) 4,928 3,740 2,946
Provision for losses
and claims:
Charge card
Lending 942 1,067 1,098 2,072 2,285 2,467
Other
----------------------------------------------------------------------------------------------------------------
Total 942 1,067 1,098 3,081 3,265 3,576
Charge card
interest expense -- -- (14) 713 786 987
Human resources
Other operating
expenses:
Professional services
Occupancy and
equipment
Communications
Other (10) (50) (55) 1,400 1,339 1,339
----------------------------------------------------------------------------------------------------------------
Total other
operating expenses (10) (50) (55) 5,266 4,948 4,577
----------------------------------------------------------------------------------------------------------------
Total expenses $ 916 $ 943 $ 948 $ 18,377 $ 16,561 $15,589
----------------------------------------------------------------------------------------------------------------
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SELECTED STATISTICAL INFORMATION
(Billions, except percentages and where indicated)
Years Ended December 31, 2004 2003 2002
--------------------------------------------------------------------------------
Total cards-in-force (millions)*
United States 39.9 36.4 34.8
Outside the United States 25.5 24.1 22.2
--------------------------------------------------------------------------------
Total 65.4 60.5 57.0
--------------------------------------------------------------------------------
Basic cards-in-force (millions)*
United States 30.3** 27.7 26.9
Outside the United States 21.0 19.9 18.3
--------------------------------------------------------------------------------
Total 51.3** 47.6 45.2
--------------------------------------------------------------------------------
Card billed business*
United States $ 304.8 $ 262.1 $ 234.1
Outside the United States 111.3 90.1 77.3
--------------------------------------------------------------------------------
Total $ 416.1 $ 352.2 $ 311.4
--------------------------------------------------------------------------------
Average discount rate 2.56% 2.59% 2.64%
Average basic cardmember
spending (dollars)* $ 9,460 $ 8,367 $ 7,645
Average fee per card --
managed (dollars)* $ 34 $ 35 $ 34
Travel sales $ 19.9 $ 16.0 $ 15.5
Travel commissions and
fees/sales 9.0% 9.4% 9.1%
Travelers Cheque and
prepaid products:
Sales $ 19.9 $ 19.2 $ 22.1
Average outstanding $ 7.0 $ 6.6 $ 6.5
Average investments $ 7.5 $ 7.1 $ 6.9
Investment yield 5.4% 5.4% 5.6%
Tax equivalent yield 8.4% 8.4% 8.7%
--------------------------------------------------------------------------------
|
* Card billed business and cards-in-force include activities related to proprietary cards and cards issued under network partnership agreements. Average basic cardmember spending and average fee per card are computed from proprietary card activities only.
** Revised from previous disclosure.
See Glossary of Selected Terminology section for definitions of key terms.
Years Ended December 31, 2004 2003 2002
--------------------------------------------------------------------------------
Worldwide cardmember receivables:
Total receivables $ 31.1 $ 28.4 $ 26.3
90 days past due as a %
of total 1.8% 1.9% 2.2%
Loss reserves (millions) $ 806 $ 916 $ 930
% of receivables 2.6% 3.2% 3.5%
% of 90 days past due 146% 171% 162%
Net loss ratio as a
% of charge volume 0.26% 0.28% 0.38%
Worldwide cardmember lending
-- owned basis:
Total loans $ 26.9 $ 25.8 $ 22.6
Past due loans as a %
of total:
30-89 days 1.5% 1.6% 1.9%
90+ days 0.9% 1.1% 1.3%
Loss reserves (millions):
Beginning balance $ 998 $ 1,030 $ 831
Provision 1,016 1,121 1,271
Net write-offs (1,040) (1,148) (1,167)
Other (2) (5) 95
--------------------------------------------------------------------------------
Ending balance $ 972 $ 998 $ 1,030
--------------------------------------------------------------------------------
% of loans 3.6% 3.9% 4.6%
% of past due 151% 145% 144%
Average loans $ 25.9 $ 22.6 $ 19.9
Net write-off rate 4.0% 5.1% 5.9%
Net interest yield 9.3% 9.8% 9.2%
Worldwide cardmember lending
-- managed basis:
Total loans $ 47.2 $ 45.3 $ 39.8
Past due loans as a %
of total:
30-89 days 1.5% 1.6% 1.9%
90+ days 0.9% 1.1% 1.2%
Loss reserves (millions):
Beginning balance $ 1,541 $ 1,529 $ 1,240
Provision 1,931 2,188 2,370
Net write-offs (1,957) (2,171) (2,176)
Other (40) (5) 95
--------------------------------------------------------------------------------
Ending Balance $ 1,475 $ 1,541 $ 1,529
================================================================================
% of loans 3.1% 3.4% 3.8%
% of past due 129% 127% 124%
Average loans $ 45.4 $ 41.6 $ 36.7
Net write-off rate 4.3% 5.2% 5.9%
Net interest yield 8.6% 9.1% 10.0%
================================================================================
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The following discussion of TRS' results is presented on a managed basis.
REVENUES
In 2004, TRS' net revenues increased 12 percent to $22.5 billion primarily due
to higher discount revenue from record cardmember spending and a greater number
of cards-in-force, higher travel and other commissions and fees, increased
cardmember lending net finance charge revenue, from higher average lending
balances, and increased net card fees. Net revenues of $20.1 billion in 2003
were 8 percent higher than 2002 as a result of increased discount revenues,
cardmember lending net finance charge revenue, and travel and other commissions
and fees.
Revenues and expenses are affected by changes in the relative values of non-U.S. currencies to the U.S. dollar. The currency rate changes had a favorable effect on revenue growth of approximately 2 percentage points in 2004 and 3 percentage points in 2003.
Discount revenue is the Company's largest single revenue source and is primarily driven by billed business volumes and the average discount rate earned on those volumes. Discount revenue rose 17 percent to $10.2 billion in 2004 as a result of an 18 percent increase in billed business partially offset by a lower discount rate. The average discount rate in 2004 was 2.56% compared to 2.59% in 2003 primarily reflecting changes in the mix of spending between various merchant segments due to the cumulative impact of stronger than average growth in the lower rate retail and other "everyday spend" merchant categories (e.g., supermarkets, discounters, etc.). Based on the Company's business strategy, it expects to see continued changes in the mix of business. This, combined with volume-related pricing discounts and selective repricing initiatives, will probably continue to result in some discount rate erosion over time. Discount revenue rose 11 percent to $8.8 billion during 2003 as a result of a 13 percent increase in billed business partially offset by a lower discount rate.
The 18 percent increase in billed business to $416.1 billion for 2004 resulted from a 13 percent increase in spending per proprietary basic card worldwide and 8 percent growth in cards-in-force. U.S. billed business rose 16 percent to $304.8 billion reflecting 16 percent growth within the consumer card business, 20 percent growth in small business services volume and a 12 percent increase within corporate services. U.S. non-T&E related volume categories, which represented approximately 67 percent of U.S. billed business in 2004, increased 19 percent over 2003 while U.S. T&E volumes rose 11 percent reflecting continued strengthening across all T&E industries. Total billed business outside the U.S., excluding the impact of foreign exchange translation, grew 15 percent reflecting strong double-digit improvement across all regions. Worldwide airline volumes, which represented 12 percent of total billed business volumes during 2004, increased 14 percent as a result of 15 percent growth in transaction volumes, partially offset by a 1 percent decrease in the average airline charge. Additionally, global network volumes grew over 30 percent as compared to last year.
U.S. cards-in-force rose 9 percent in 2004 to 39.9 million reflecting the benefit of continued strong card acquisition spending, an improved average customer retention level within proprietary issuing business and strong growth in U.S. network cards. Non-U.S. cards-in-force increased 6 percent in 2004 to 25.5 million due to growth in both proprietary and network partnership cards. Worldwide network cards-in-force increased over 30 percent during 2004. In 2003, U.S. cards-in-force rose 4 percent to 36.4 million and non-U.S. cards-in-force increased 9 percent to 24.1 million.
Cardmember lending net finance charge revenue of $4.1 billion rose 4 percent in 2004 primarily due to 9 percent growth in the average balance of the managed lending portfolio partially offset by lower average yields. The net interest yield on the managed worldwide lending portfolio decreased to 8.6% in 2004 from 9.1% in 2003 reflecting a higher average proportion of the portfolio on introductory or promotional rates during the year, lower revolve rates, and improved credit quality, which reduces the proportion of the portfolio at default interest rates. In 2003, cardmember lending net finance charge revenue increased 7 percent to $3.9 billion.
Net card fees increased 4 percent to $1.9 billion in 2004 reflecting the growth in cards-in-force. Key aspects of the Company's business strategy are retention of cardmembers as well as driving growth in cards-in force, whether organically, through related business opportunities, or through joint ventures and acquisitions. The average annual fee per proprietary card-in-force decreased to $34 in 2004 from $35 in 2003 which reflects the increase in the number of fee-free cards issued by the Company. Net card fees increased 6 percent to $1.8 billion in 2003 reflecting growth in cards-in-force and the benefit of selected annual fee increases.
Travel commissions and fees rose 19 percent to $1.8 billion in 2004 due to a 25 percent increase in travel sales, reflecting the Rosenbluth acquisition in late 2003 and improvement within the travel environment,
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partially offset by lower transaction fees related to growth in on-line transaction activity. The volume and type of travel sales are important as the Company earns revenue based on both the number of transactions as well as the sales mix of travel purchased. Travel commissions and fees rose 7 percent to $1.5 billion in 2003 as a result of higher revenue earned per dollar of sales coupled with a 3 percent increase in travel sales, primarily due to the acquisition of Rosenbluth in the fourth quarter of 2003.
Other commissions and fees of $2.4 billion increased 16 percent on greater volume-related foreign exchange conversion fees and higher card-related assessments and network partner-related fees. Other commissions and fees increased 4 percent in 2003 to $2.1 billion due to higher card-related fees and assessments.
EXPENSES
During 2004, TRS' expenses were up 11 percent to $18.4 billion reflecting
greater marketing, promotion, rewards and cardmember services expenses, higher
human resources expenses and increased total other operating expenses,
partially offset by reduced provisions for losses and lower interest costs.
Expenses in 2004 included $64 million in aggregate charges recorded in the
fourth quarter principally relating to the restructuring of business travel
operations. These charges included $46 million of employee severance
obligations included in human resources expenses and $18 million of other exit
costs primarily relating to the termination of certain real estate property
leases. Also included in 2004 expenses was a $117 million net gain on the
fourth quarter sale of the equipment leasing product line in the small business
financing unit. Expenses in 2003 of $16.6 billion were 6 percent higher than
2002 primarily due to greater marketing, promotion, rewards and cardmember
services, human resources and total other operating expenses, partially offset
by reduced provisions for losses and interest costs.
Marketing, promotion, rewards and cardmember services expenses increased 32 percent in 2004 to $4.9 billion reflecting both greater rewards costs and higher marketing and promotion expenses. The growth in rewards costs is attributable to a higher redemption rate, strong volume growth and the continued increase in cardmember loyalty program participation. The increase in marketing and promotion expenses is primarily due to the Company's new global brand advertising campaign and the continued focus on business- building initiatives. Marketing, promotion, rewards and cardmember services expenses increased 27 percent in 2003 to $3.7 billion on the continuation of brand and product advertising, an increase in selected card acquisition activities and higher cardmember rewards and services expenses reflecting higher volumes and a higher redemption rate.
Total provisions for losses decreased 6 percent in 2004 primarily as a result of a reduction in cardmember lending provision offset by a net increase in other provisions. Provision for losses on the worldwide lending portfolio decreased 9 percent to $2.1 billion in 2004, despite growth in loans outstanding and increased reserve coverage levels of past due accounts, due to well-controlled credit practices. The worldwide lending provision decreased 7 percent in 2003 to $2.3 billion. The net write-off rate for the worldwide lending portfolio was 4.3% in 2004 as compared to 5.2% and 5.9% in 2003 and 2002, respectively.
Other provisions increased in 2004 primarily reflecting a reconciliation of securitization-related cardmember loans, which resulted in a charge of $115 million (net of $32 million of reserves previously recorded), for balances accumulated over the prior five-year period as a result of a computational error. The amount of the error was immaterial to any of the periods in which it occurred.
Separately, other provisions were favorably impacted by a reduction in merchant-related reserves of approximately $60 million reflecting changes made to mitigate loss exposure and ongoing favorable credit experience with merchants.
In 2003, total provisions decreased 9 percent primarily due to the decrease in the lending provision noted above and an 11 percent reduction in the provision for losses on charge card products primarily due to strong credit quality reflected in an improved past due percentage and loss ratio.
Charge card interest expense declined 9 percent and 20 percent during 2004 and 2003, respectively, due to a lower effective cost of funds, partially offset by a higher average receivable balance. During the fourth quarter of 2004, the Company experienced an increase in the effective cost of funds.
Human resources expense increased 15 percent to $4.4 billion in 2004 primarily due to increased costs related to merit increases, greater management incentives and higher employee benefit costs as well as the impact of the late 2003 acquisition of Rosenbluth and $46 million of severance-related restructuring costs noted earlier. Human resources expenses increased 9 percent in 2003
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primarily due to merit increases and higher employee benefit and management incentive costs, partially offset by the benefits of reengineering efforts.
Total other operating expenses of $5.3 billion increased 6 percent during 2004 primarily due to increases in professional fees and occupancy and equipment expenses, partially offset by the $117 million net gain in connection with the sale of the equipment leasing product line noted earlier. The increase in professional fees primarily reflects the impact of higher business volume-related technology outsourcing costs. Occupancy and equipment expenses increased primarily due to outsourced data processing services and increased depreciation of data processing equipment as well as the impact of the fourth quarter restructuring charges noted earlier. In 2003, total other operating expenses rose 8 percent to $4.9 billion due to the impact of greater business and service volume-related costs, including outsourcing activities, partially offset by the benefits of reengineering initiatives and other cost containment efforts.
The effective tax rate was 31 percent in 2004 versus 32 percent in 2003. The effective tax rate was lower in 2004 as compared to 2003 primarily as a result of one-time and ongoing benefits related to the changes in international funding strategy during 2004, favorable variances between estimates of foreign tax expense and returns actually filed and favorable tax audit experience. The shifts in international funding strategy, which diversify funding sources and increase liquidity, are expected also to benefit TRS' effective tax rate and net income in future periods despite somewhat higher related funding costs.
AIRLINE INDUSTRY MATTERS
Historically, the Company has not experienced significant revenue declines
resulting from a particular airline's scaling-back or closure of operations due
to bankruptcy or other financial challenges because the volumes generated from
the airline are typically shifted to other participants in the industry that
accept the Company's card products. Nonetheless, the Company is exposed to
business and credit risk in the airline industry primarily through business
arrangements where the Company has remitted payment to the airline for a
cardmember purchase of tickets that have not yet been used or "flown". This
creates a potential exposure for the Company in the event that the cardmember is
not able to use the ticket and the Company, based on the facts and
circumstances, credits the cardmember for the unused ticket. Historically, this
type of exposure has not generated any significant losses for the Company
because of the need for an airline that is operating under bankruptcy protection
to continue accepting credit and charge cards and honoring requests for credits
and refunds in the ordinary course in furtherance of its reorganization and its
formal assumption, with bankruptcy court approval, of its card acceptance
agreement, including approval of the Company's right to hold cash to cover these
potential exposures to provide credits to cardmembers. Typically, as an
airline's financial situation deteriorates the Company increases cash held to
protect itself in the event of an ultimate liquidation of the airline. The
Company's goal in these distressed situations is to hold sufficient cash over
time to ensure that upon liquidation the cash held is equivalent to the credit
exposure related to any unused tickets.
Liquidity and Capital Resources
SELECTED BALANCE SHEET INFORMATION (GAAP BASIS)
December 31, (Billions, except percentages) 2004 2003 -------------------------------------------------------------------------------- Accounts receivable, net $ 31.8 $ 30.2 Travelers Cheque investments $ 8.4 $ 7.7 Cardmember loans $ 26.9 $ 25.8 Total assets $ 87.8 $ 79.3 Travelers Cheques outstanding $ 7.3 $ 6.8 Short-term debt $ 17.2 $ 21.8 Long-term debt $ 28.3 $ 16.6 Total liabilities $ 79.0 $ 71.4 Total shareholder's equity $ 8.8 $ 7.9 Return on average total shareholder's equity 33.4% 31.3% Return on average total assets 3.5% 3.4% -------------------------------------------------------------------------------- |
See Glossary of Selected Terminology section for definitions of key terms.
Net accounts receivable and worldwide cardmember loans increased as compared to December 31, 2003, primarily as a result of higher average cardmember spending and an increase in the number of cards-in-force.
Total debt increased compared to December 31, 2003 primarily as a result of increased funding requirements due to the noted increases in cardmember receivable and loan balances as well as the contingent liquidity program discussed below. New long-term borrowing activity during 2004 is described below.
FINANCING ACTIVITIES
TRS funds its cardmember receivables and loans using various funding sources,
such as short- and long-term debt, medium-term notes, and sales of cardmember
receivables and loans in securitizations. In 2004 and 2003, TRS had
uninterrupted access to the money and capital markets to fund its business
operations.
TRS funds its receivables and loans primarily through five entities. Credco finances the vast majority of cardmember receivables, while Centurion Bank and FSB
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principally fund cardmember loans originated from the Company's lending activities. In addition, two trusts are used by the Company in connection with the securitization and sale of receivables and loans generated in the ordinary course of TRS' card businesses. The assets securitized consist principally of U.S. consumer cardmember receivables and loans arising from TRS' charge card and lending activities.
TRS' funding needs are met primarily through the following sources:
o Commercial paper,
o Bank notes, institutional CDs and Fed Funds,
o Medium-term notes and senior unsecured debentures,
o Asset securitizations, and
o Long-term committed bank borrowing facilities in selected non-U.S. markets.
TRS' debt offerings are placed either directly, as in the case of its commercial paper program through Credco, or through securities brokers or underwriters. In certain international markets, bank borrowings are used to partially fund cardmember receivables and loans. During 2004, TRS diversified its funding base by borrowing under committed bank credit facilities as part of a change in local funding strategies in select international markets.
The following table highlights TRS' outstanding debt (including intercompany balances) and off-balance sheet securitizations as of December 31, 2004 and 2003:
December 31, (Billions) 2004 2003 -------------------------------------------------------------------------------- Short-term debt $ 17.2 $ 21.8 Long-term debt 28.3 16.6 -------------------------------------------------------------------------------- Total debt (GAAP basis) $ 45.5 $ 38.4 Off-balance sheet securitizations(a) 20.3 19.5 -------------------------------------------------------------------------------- Total debt (managed basis) $ 65.8 $ 57.9 ================================================================================ |
(a) Includes securitized equipment leasing receivables of $0.1 billion at December 31, 2003.
Short-term debt is defined as any debt with an original maturity of 12 months or less. The commercial paper market represents the primary source of short-term funding for the Company. Credco's commercial paper is a widely recognized name among short-term investors and is a principal source of debt for the Company. At December 31, 2004, Credco had $3.8 billion of commercial paper outstanding, net of certain short-term investments. The outstanding amount, net of certain short-term investments, declined $5.0 billion or 57 percent from a year ago primarily as a result of a change in Credco's funding strategy in certain international markets. Average commercial paper outstanding, net of certain short-term investments, was $5.7 billion and $7.7 billion in 2004 and 2003, respectively. TRS currently manages the level of commercial paper outstanding, net of certain short-term investments, such that the ratio of its committed bank credit facility to total short-term debt, which consists mainly of commercial paper, is not less than 100%.
Centurion Bank and FSB raise short-term debt through various instruments. Bank notes issued and Fed Funds purchased by Centurion Bank and FSB totaled approximately $5.2 billion as of December 31, 2004. Centurion Bank and FSB also raise customer deposits through the issuance of certificates of deposits to retail and institutional customers. As of December 31, 2004, Centurion Bank and FSB held $4.5 billion in customer deposits. Centurion Bank and FSB maintain $320 million and $300 million, respectively, of committed bank credit lines as a backup to short-term funding programs. Long-term funding needs are met principally through the sale of cardmember loans in securitization transactions. The Asset/Liability Committees of Centurion Bank and FSB provide management oversight with respect to formulating and ratifying funding strategy and to ensuring that all funding policies and requirements are met.
Medium- and long-term debt is raised through the offering of debt securities in the U.S. and international capital markets. Medium-term debt is generally defined as any debt with an original maturity greater than 12 months but less than 36 months. Long-term debt is generally defined as any debt with an original maturity greater than 36 months. At December 31, 2004, TRS and its subsidiaries had the following amounts of medium- and long-term debt outstanding (including intercompany balances):
Total Medium-
December 31, 2004 Medium-term Long-term and Long-term,
(Billions) Debt Debt Debt
-------------------------------------------------------------------------------
Credco $ 12.2 $ 6.4 $ 18.6
Centurion Bank 3.0 1.4 4.4
FSB 1.6 -- 1.6
Other Subsidiaries 1.7 2.0 3.7
-------------------------------------------------------------------------------
Total TRS $ 18.5 $ 9.8 $ 28.3
================================================================================
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In 2005, TRS along with its subsidiaries, Credco, Centurion Bank and FSB, as well as through its securitization trusts, expects to issue approximately $13 billion in medium- and long-term debt to fund business growth and refinance a portion of maturing medium- and long-term debt. The Company expects that its planned funding during the next year will be met through a combination of sources similar to those on which it currently relies. However, the Company continues to assess its
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needs and investor demand and may change its funding mix. The Company's funding plan is subject to various risks and uncertainties, such as disruption of financial markets, market capacity and demand for securities offered by the Company, accounting or regulatory changes, ability to sell receivables and the performance of receivables previously sold in securitization transactions. Many of these risks and uncertainties are beyond the Company's control.
As of December 31, 2004, Credco had the ability to issue approximately $7.3 billion of debt securities under shelf registration statements filed with the SEC.
COST OF FUNDS
Cost of funds is generally determined by a margin or credit spread over a
benchmark interest rate. Credit spreads are measured in basis points where 1
basis point equals one one-hundredth of one percentage point. Commercial paper
and other short-term debt funding costs are based on spreads benchmarked
against London Interbank Offered Rate (LIBOR), a commonly used interest rate.
Costs for unsecured long-term debt and securitized funding are based on spreads
benchmarked against LIBOR, U.S. Treasury securities of similar maturities or
other rates.
ASSET SECURITIZATIONS
TRS, through its subsidiaries, periodically securitizes cardmember receivables
and loans arising from its card business. The securitization market provides TRS
with very cost-effective funding for its long-term funding needs. Securitization
of cardmember receivables and loans is accomplished through the transfer of
those assets to a special purpose entity created for the securitization,
generally a trust, which in turn issues securities to third-party investors that
are collateralized by the transferred assets. The issued securities represent
undivided interests in the transferred assets. The proceeds from issuance are
distributed to TRS, through its wholly-owned subsidiaries, as consideration for
the transferred assets. Securitization transactions are accounted for as either
a sale or secured borrowing, based upon the structure of the transaction.
Securitization of cardmember receivables generated under designated consumer charge accounts are accomplished through the transfer of cardmember receivables to the American Express Master Trust (the Charge Trust). Securitizations of these receivables are accounted for as secured borrowings because the Charge Trust is not a qualifying special purpose entity (QSPE). Accordingly, the related assets being securitized are not treated as sold and the securities issued to third-party investors are reported as long-term debt on the Company's Consolidated Balance Sheets. There were no issuances of securities from the Charge Trust during 2004 and 2003. During 2004 and 2003, $1.1 billion and $2.0 billion, respectively, of previously issued trust securities matured.
Securitization of cardmember loans arising from various portfolios of consumer accounts are accomplished through the transfer of cardmember loans to a QSPE, the American Express Credit Account Master Trust (the Lending Trust). Securitizations of loans transferred to the Lending Trust are accounted for as sales. Accordingly, the Company removes the loans from its Consolidated Balance Sheets and recognizes both a gain on sale and other retained interests in the securitization as discussed below. As of December 31, 2004 and 2003, the Lending Trust held total assets of $24.7 billion and $26.8 billion, respectively, of which $20.3 billion and $19.4 billion, respectively, had been sold.
TRS' continued involvement with the securitized cardmember loans includes the process of managing and servicing the securitized loans. In addition, TRS, through its subsidiaries, maintains an undivided, pro-rata interest in all loans transferred (or sold), which is referred to as seller's interest, and is generally equal to the balance of the loans in the Lending Trust less the investors' portion of those assets. As the amount of the loans in the Lending Trust fluctuates due to customer payments, new charges and credit losses, the carrying amount of the seller's interest will vary. However, the seller's interest is required to be maintained at a minimum level of 7% of outstanding principal in the Lending Trust. As of December 31, 2004, the amount of seller's interest was approximately 18% of outstanding principal, well above the minimum requirement.
Additionally, the Company also retains subordinated interests in the securitized loans. Such interests include one or more investments in tranches of the securitization and an interest-only strip. The investments in the tranches of the securitization are accounted for at fair value as Available-for-Sale investment securities in accordance with SFAS No. 115, "Accounting for Certain Investments in Debt and Equity Securities," and are reported in investments on the Company's Consolidated Balance Sheets. As of December 31, 2004 and 2003, the ending fair value of these retained interests was $0.1 billion and $1.8 billion, respectively. The interest-only strip is also accounted for at fair value consistent with a SFAS No. 115 Available-for-Sale investment but is reported in other assets on the Company's
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Consolidated Balance Sheets. The fair value of the interest-only strip is the present value of estimated future excess spread expected to be generated by the securitized loans over the estimated life of those loans. Excess spread, which is the net positive cash flow from interest and fee collections allocated to the investors' interests after deducting the interest paid on investor certificates, credit losses, contractual servicing fees and other expenses is recognized in securitization income as it is earned. As of December 31, 2004 and 2003, the fair value of the interest-only strip was $207 million and $225 million, respectively.
In accordance with the Lending Trust agreements, the excess spread in the Lending Trust is required to be maintained at a level greater than 0% at any point in time in the Lending Trust. As of December 31, 2004, the percentage of excess spread was approximately 10%, well in excess of the minimum requirement.
Under the respective terms of the Lending Trust and the Charge Trust pooling and servicing agreements, the occurrence of certain events could result in either trust being required to paydown the investor certificates before their expected payment dates over an early amortization period. Examples of these events include:
o for either trust, the failure of the securitized assets to generate specified yields over a defined period of time,
o for the Lending Trust, the decline of the total of the securitized assets' principal balances below a specified percentage of total investor amounts outstanding after the failure to add additional securitized assets as required by the agreement, and
o for the Charge Trust, the decline of the total of the securitized assets' principal balances below a specified percentage of the total principal component.
The Company does not expect an early amortization trigger event to occur. In the event of a paydown of the Lending Trust, $20.3 billion of assets would revert to the balance sheet and an alternate source of funding of a commensurate amount would have to be obtained. Had a total paydown of the Lending Trust hypothetically occurred at a single point in time at December 31, 2004, the one-time negative effect on results of operations would have been approximately $800 million pretax to re-establish reserves and to derecognize the retained interests related to these securitizations that would have resulted when the securitized loans reverted back onto the balance sheet. Subject to the performance of the loans, the one-time negative effect would be offset by finance charge revenue over the life of the loans. Virtually no financial statement impact would occur from a paydown of the Charge Trust, but an alternate source of funding for the $1.9 billion of securities outstanding at December 31, 2004 would have to be obtained.
With respect to both the Lending Trust and the Charge Trust, a decline in the actual or implied short-term credit rating of TRS below A-1/P-1 will trigger a requirement that TRS, as servicer, transfer collections on the securitized assets to investors on a daily, rather than a monthly, basis or make alternative arrangements with the rating agencies to allow TRS to continue to transfer collections on a monthly basis. Such alternative arrangements include obtaining appropriate guarantees for the performance of the payment and deposit obligations of TRS, as servicer.
No officer, director or employee holds any equity interest in the trusts or receives any direct or indirect compensation from the trusts. The trusts in the Company's securitization programs do not own stock of the Company or the stock of any affiliate. Investors in the securities issued by the trusts have no recourse against the Company if cash flows generated from the securitized assets are inadequate to service the obligations of the trusts.
LIQUIDITY
The Company balances the trade-offs between having too much liquidity, which
can be costly and limit financial flexibility, with having inadequate
liquidity, which may result in financial distress during a liquidity event (see
Contingent Liquidity Planning section below). The Company considers various
factors in determining its liquidity needs, such as economic and financial
market conditions, seasonality in business operations, growth in business
segments, cost and availability of alternative liquidity sources and credit
rating agency considerations.
In 2004, TRS continued to strengthen its liquidity position by reducing its reliance on short-term debt, extending and spreading out its debt maturities and enhancing the capacity and flexibility of its contingent funding resources. Short-term debt on a GAAP basis as a percentage of total debt declined to 38% at December 31, 2004 from 57% at December 31, 2003. Short-term debt on a managed basis as a percentage of total debt declined to 26% at December 31, 2004 from 38% at December 31, 2003.
TRS estimates it will have funding requirements of approximately $16 billion within the next year related to the maturity of medium- and long-term debt obligations. These requirements include $6.4 billion related to certain securitization transactions that will enter their scheduled amortization period. In addition, TRS expects
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to maintain net short-term debt balances of approximately $14 billion over the period. TRS believes that its funding plan is adequate to meet these requirements.
TRS believes that its existing sources of funding provide sufficient depth and breadth to meet normal operating needs. In addition, alternative liquidity sources are available, mainly in the form of the liquidity portfolio, securitizations of cardmember receivables and loans and committed bank credit facilities, to provide uninterrupted funding over a twelve-month period should access to unsecured debt sources become impaired.
LIQUIDITY PORTFOLIO
During the normal course of business, funding activities may raise more
proceeds than are necessary for immediate funding needs. These amounts are
invested principally in overnight, highly liquid instruments. In addition, in
the fourth quarter of 2003, the Company began a program to develop a liquidity
portfolio in which proceeds raised from such borrowings are invested in U.S.
Treasury securities. At December 31, 2004, the Company held $4.0 billion of
U.S. Treasury notes under this program.
The invested amounts of the liquidity portfolio provide back-up liquidity, primarily for the commercial paper program at Credco, and also flexibility for other short-term funding programs at Centurion Bank and FSB. U.S. Treasury securities are the highest credit quality and most liquid of investment instruments available. The Company can easily sell these securities or enter into sale/repurchase agreements to immediately raise cash proceeds to meet liquidity needs.
COMMITTED BANK CREDIT FACILITIES
The Company maintained committed bank credit facilities with 54 large financial
institutions totaling $13.8 billion (including $1.96 billion at the Parent
Company and the $2.3 billion Australian Credit Facility discussed below) at
December 31, 2004. As contemplated, in the second quarter of 2004, Credco
borrowed $1.47 billion under these facilities as part of a change in local
funding strategy for business in Canada. Credco has the right to borrow a
maximum amount of $12.7 billion (including amounts outstanding) under these
facilities, with a commensurate reduction in the amount available to the Parent
Company. These facilities expire as follows (billions): 2005, $3.8; 2006, $2.2;
2007, $1.0 and 2009, $6.3. The remaining lines of $0.5 billion have no
expiration date.
The availability of the credit lines is subject to the Company's compliance with certain financial covenants, including the maintenance by the Company of consolidated tangible net worth of at least $8.75 billion, the maintenance by Credco of a 1.25 ratio of combined earnings and fixed charges to fixed charges, and the compliance by Centurion Bank and FSB with applicable regulatory capital adequacy guidelines. At December 31, 2004, the Company's consolidated tangible net worth was approximately $13.0 billion, Credco's ratio of combined earnings and fixed charges to fixed charges was 1.36 and Centurion Bank and FSB each exceeded the Federal Deposit Insurance Corporation's "well capitalized" regulatory capital adequacy guidelines. See Note 23 to the Consolidated Financial Statements for a discussion of the potential effect of the proposed spin-off of AEFA on the $8.75 billion tangible net worth covenant.
In the third quarter of 2004, Credco entered into a new 5-year multi-bank credit facility for Australian $3.25 billion (approximately U.S. $2.3 billion) and borrowed Australian $2.7 billion (approximately U.S. $1.9 billion) under this credit facility to provide an alternate funding source for business in Australia. The availability of the Australian credit facility is subject to Credco's maintenance of a 1.25 ratio of combined earnings and fixed charges to fixed charges.
Committed bank credit facilities do not contain material adverse change clauses, which may preclude borrowing under the credit facilities. The facilities may not be terminated should there be a change in the Company's credit rating.
CONTINGENT LIQUIDITY PLANNING
TRS has developed a contingent funding plan that enables it to meet its daily
funding obligations when access to unsecured funds in the debt capital markets
is impaired or unavailable. This plan is designed to ensure that the Company
and all of its main operating entities could continuously maintain normal
business operations for at least a twelve-month period in which its access to
unsecured funds is interrupted. From time to time, Credco, Centurion Bank or
FSB may increase its liquidity portfolio in order to pre-refund maturing debt
obligations when financial market conditions are favorable. These levels are
monitored and adjusted when necessary to maintain short-term liquidity needs in
response to seasonal or changing business conditions. In addition, the Company
maintains substantial flexibility to reduce its operating cash requirements,
such as through its share repurchase program, and the delay or deferment of
certain operating expenses.
The funding sources that would be relied upon depend on the exact nature of such a hypothetical liquidity crisis; nonetheless, TRS' liquidity sources are designed
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with the goal of ensuring there is sufficient cash on hand to fund business operations over a twelve-month period regardless of whether the liquidity crisis was caused by an external, industry or Company specific event. The contingent funding plan also addresses operating flexibilities in quickly making these funding sources available to meet all financial obligations. The simulated liquidity crisis is defined as a sudden and unexpected event that temporarily impairs access to or makes unavailable funding in the unsecured debt markets. The contingent funding plan includes access to diverse sources of alternative funding, including but not limited to its liquidity investment portfolio, committed bank lines, intercompany borrowings, sale of consumer loans and cardmember receivables through its existing securitization programs and sale of other eligible receivables, such as corporate and small business receivables and international cardmember loans and receivables, through enhanced securitization programs. TRS estimates that, under a worst case liquidity crisis scenario, it has in excess of $30 billion in alternate funding sources available to cover cash needs over the first 60 days after a liquidity crisis has occurred.
CONTINGENT SECURITIZATION CAPACITY
A key source in the Company's contingent funding plan is asset securitization.
Management expects that $17 billion of additional consumer loans, small
business loans and cardmember receivables could be sold to existing
securitization trusts. The Company has added the capabilities to sell a wider
variety of cardmember receivable portfolios to further enhance the Company's
flexibility in accessing diverse funding sources on a contingency basis.
The Company believes that the securitized financing would be available even through adverse conditions due to the structure, size and relative stability of the securitization market. Proceeds from secured financings completed during a liquidity crisis could be used to meet current obligations, to reduce or retire other contingent funding sources such as bank credit lines, or a combination of the two. However, other factors affect the Company's ability to securitize loans and receivables, such as credit quality of the assets and the legal, accounting, regulatory and tax environment for securitization transactions. Material changes in any of these factors may potentially limit the Company's ability to securitize its loans and receivables and could introduce certain risks to the Company's ability to meet its financial obligations. In such a case, the use of investment securities, asset dispositions, asset monetization strategies and flexibility to reduce operating cash needs could be utilized to meet its liquidity needs.
RISK MANAGEMENT
For TRS' charge card and fixed rate lending products, interest rate exposure is
managed through a combination of shifting the mix of funding toward fixed rate
debt and through the use of derivative instruments, with an emphasis on
interest rate swaps, that effectively fix TRS' interest expense for the length
of the swap. The Company endeavors to lengthen the maturity of interest rate
hedges in periods of falling interest rates and to shorten their maturity in
periods of rising interest rates. For the majority of its cardmember loans,
which are linked to a floating rate base and generally reprice each month, TRS
uses floating rate funding. TRS regularly reviews its strategy and may modify
it. Non-trading interest rate products, primarily interest rate swaps, with
notional amounts of approximately $37.8 billion, a portion of which extends to
2009, were outstanding at December 31, 2004.
The detrimental effect on TRS' pretax earnings of a hypothetical 100 basis point increase in interest rates would be approximately $61 million ($50 million related to the U.S. dollar) and $64 million ($50 million related to the U.S. dollar), based on the 2004 and 2003 year-end positions, respectively. This effect is primarily a function of the extent of variable rate funding of charge card and fixed rate lending products, to the degree that interest rate exposure is not managed by derivative financial instruments.
TRS' foreign exchange risk arising from cross-currency charges and balance sheet exposures is managed primarily by entering into agreements to buy and sell currencies on a spot or forward basis. At December 31, 2004, foreign currency products with total notional amounts of approximately $7.5 billion were outstanding.
Based on the year-end 2004 and 2003 foreign exchange positions, but excluding forward contracts managing the anticipated overseas operating results for the subsequent year, the effect on TRS' earnings of a hypothetical 10 percent change in the value of the U.S. dollar would be immaterial. With respect to forward contracts related to anticipated overseas operating results for the subsequent year, a 10 percent change would hypothetically impact pretax income by $68 million and $57 million related to the 2004 and 2003 year-end positions, respectively.
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AMERICAN EXPRESS FINANCIAL ADVISORS
Results of Operations
STATEMENTS OF INCOME
Years Ended December 31, (Millions) 2004 2003 2002
--------------------------------------------------------------------------------
Revenues:
Net investment income $ 2,375 $ 2,279 $ 2,058
Investment management
and service fees 1,732 1,336 1,316
Distribution fees 1,298 1,092 976
Variable life insurance and
variable annuity charges* 444 424 416
Life and health insurance
premiums 356 351 334
Property-casualty insurance
premiums 422 326 229
Other 408 334 288
--------------------------------------------------------------------------------
Total revenues 7,035 6,142 5,617
================================================================================
Expenses:
Provision for losses and
benefits:
Interest credited on
annuities and universal
life-type contracts 1,128 1,224 1,158
Benefits on insurance
and annuities 459 440 436
Interest credited on
investment certificates 224 201 183
Losses and expenses on
property-casualty
insurance 327 257 177
--------------------------------------------------------------------------------
Total 2,138 2,122 1,954
Human resources -- Field 1,332 1,067 979
Human resources --
Non-field 919 729 598
Amortization of deferred
acquisition costs 405 476 558
Other 1,155 889 663
--------------------------------------------------------------------------------
Total expenses 5,949 5,283 4,752
--------------------------------------------------------------------------------
Pretax income before
accounting change 1,086 859 865
Income tax provision 280 177 233
--------------------------------------------------------------------------------
Income before accounting
change 806 682 632
Cumulative effect of
accounting change, net
of tax (71) (13) --
--------------------------------------------------------------------------------
Net income $ 735 $ 669 $ 632
================================================================================
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* Includes variable universal life and universal life insurance charges.
See Glossary of Selected Terminology section for definitions of key terms.
SELECTED STATISTICAL INFORMATION
Years Ended December 31,
(Millions, except where indicated) 2004 2003 2002
--------------------------------------------------------------------------------
Life insurance inforce
(billions) $ 145.8 $ 131.4 $ 119.0
Deferred annuities inforce
(billions) $ 51.8 $ 47.4 $ 41.0
Assets owned, managed
or administered (billions):
Assets managed for
institutions $ 139.3 $ 116.4 $ 42.3
Assets owned, managed
or administered for
individuals:
Owned assets:
Separate account
assets 35.9 30.8 22.0
Other owned assets 61.2 53.8 51.7
--------------------------------------------------------------------------------
Total owned assets 97.1 84.6 73.7
Managed assets 117.5 110.2 81.6
Administered assets 58.8 54.1 33.0
--------------------------------------------------------------------------------
Total $ 412.7 $ 365.3 $ 230.6
================================================================================
Market appreciation
(depreciation) and foreign
currency translation
during the period:
Owned assets:
Separate account assets $ 3,198 $ 5,514 $ (5,057)
Other owned assets $ 45 $ (244) $ 898
Managed assets $23,447 $26,213 $(16,788)
Cash sales:
Mutual funds $35,025 $30,407 $ 31,945
Annuities 7,820 8,335 8,541
Investment certificates 7,141 5,736 4,088
Life and other insurance
products 907 760 710
Institutional 7,683 3,033 3,331
Other 4,477 5,787 5,201
--------------------------------------------------------------------------------
Total cash sales $63,053 $54,058 $ 53,816
================================================================================
Number of financial advisors 12,344 12,121 11,689
Fees from financial plans
and advice services $ 138.8 $ 120.7 $ 113.9
Percentage of total sales
from financial plans and
advice services 75.3% 74.8% 73.3%
================================================================================
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AEFA's 2004 income before accounting change rose 18 percent to $806 million, up from $682 million in 2003. AEFA's net income increased 10 percent to $735 million in 2004, up from $669 million in 2003 and $632 million in 2002. AEFA's 2004 results reflect the $71 million ($109 million pretax) impact of the January 1, 2004 adoption of SOP 03-1. SOP 03-1 requires insurance enterprises to establish liabilities for benefits that may become payable under variable annuity death benefit guarantees or other insurance and annuity contract provisions. Results for 2003 reflect the impact of the December 31, 2003 adoption of FIN 46, as revised, which addresses consolidation by business enterprises of VIEs and is discussed in more detail below.
REVENUES
Total revenues increased 15 percent in 2004 to $7.0 billion primarily due to
significantly higher investment management and service fees, greater
distribution fees, larger net investment income, greater property-casualty
insurance premiums and higher other revenues. In addition, the acquisition of
Threadneedle on September 30, 2003 contributed approximately 5 percent to the
revenue growth and a modest contribution to net income growth. Total revenues
rose 10 percent in 2003 to $6.1 billion due to higher net investment income,
increased distribution fees and larger property-casualty insurance premiums.
Net investment income increased 4 percent to $2.4 billion in 2004 primarily due to the benefits of higher levels of invested assets and net investment gains in 2004 compared to net investment losses in 2003. During 2003, net investment income increased reflecting higher levels of invested assets and the effect of appreciation in the S&P 500 on the value of options hedging outstanding stock market certificates and equity indexed annuities versus market depreciation in the previous year, which was offset in the related provisions for losses and benefits. These increases were partially offset by a lower average yield.
Realized gains and losses are recorded in net investment income and are summarized in the following table. For 2004, the total investment gains include $25 million in benefits reflecting lower than expected losses resulting from management's first quarter 2004 decision to liquidate a secured loan trust (SLT) managed by AEFA. Total investment losses during 2004 include $53 million of charges related to three SLT liquidations (including the original first quarter $49 million charge).
Years Ended December 31, (Millions) 2004 2003 2002
--------------------------------------------------------------------------------
Gross investment gains:
Available-for-Sale securities $ 68 $ 323 $ 342
SLT liquidation(a) 25 -- --
Structured investments(b) -- 18 17
Other 7 2 2
--------------------------------------------------------------------------------
Total $ 100 $ 343 $ 361
================================================================================
Gross investment losses:
Available-for-Sale securities $ (22) $(146) $(168)
SLT liquidation(a) (53) -- --
Commercial mortgages (10) (20) (26)
Structured investments(b) (2) (34) (40)
Other -- -- (2)
--------------------------------------------------------------------------------
Total $ (87) $(200) $(236)
================================================================================
Other-than-temporary
impairments:
Available-for-Sale securities $ (2) $(163) $(204)
--------------------------------------------------------------------------------
Total $ (2) $(163) $(204)
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(a) Relates to SLTs consolidated in accordance with FIN 46.
(b) Includes yield adjustments reflected in net investment income resulting from changes in cash flow estimates and the application of EITF 96-12, "Recognition of Interest Income and Balance Sheet Classification of Structured Notes."
Investment management and service fees increased 30 percent to $1.7 billion. Approximately 75 percent of the increase was due to the full-year impact of Threadneedle with the remaining increase primarily attributed to strengthening equity markets and net asset inflows. In 2003, investment management and services fees rose 2 percent due to higher average assets under management reflecting the Threadneedle acquisition.
Distribution fees increased 19 percent to $1.3 billion primarily due to greater mutual fund fees driven principally by fees earned on wrap account assets as well as increased retail and institutional brokerage fees. The asset values of wrap accounts were up 52 percent versus 2003 . In 2003, distribution fees increased 12 percent as a result of greater limited partnership product sales and an increase in brokerage-related activities.
Property-casualty insurance premiums rose significantly in 2004 and 2003 to $422 million and $326 million, respectively, driven primarily by an increase in the average number of policies inforce, primarily automobile insurance sold through the Costco relationship.
EXPENSES
Total provision for losses and benefits increased slightly to $2.1 billion from
2003 levels, which increased 9 percent from 2002. Interest credited on
annuities and universal life type contracts decreased 8 percent to $1.1 billion
due to lower interest crediting rates, partially offset by higher average
inforce levels.
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In 2003, interest credited on annuities and universal life type contracts increased 6 percent to $1.2 billion due to higher average inforce levels of both annuities and insurance products and the effect of appreciation in the S&P 500 on equity indexed annuities in 2003 versus depreciation in 2002, partially offset by lower interest crediting rates. Losses and expenses on property-casualty insurance increased 27 percent to $327 million during 2004 and 45 percent during 2003 primarily due to the increase in the average number of policies inforce noted earlier.
During 2004 and 2003, field force human resources expenses increased 25 percent and 9 percent, respectively, primarily due to increased advisor production levels, the Threadneedle acquisition, an increase in field force headcount during both years and, in 2004, the effect of reduced levels of DAC capitalization resulting from the mix of product sales.
Non-field human resources expenses increased 26 percent during 2004 primarily due to the full-year effect of the Threadneedle acquisition, higher salaries and benefits, and increased management incentives costs for employees (excluding financial advisors). The average number of employees (excluding financial advisors) was up 7 percent due to the acquisition of Threadneedle; excluding the Threadneedle impact, the average number of employees was level with 2003. Non-field human resources expenses increased 22 percent in 2003, reflecting merit increases and greater employee benefit and management incentive costs for employees (excluding financial advisors), as well as the effect of the Threadneedle acquisition.
DAC amortization expense of $405 million decreased 15 percent during 2004 primarily due to a first quarter $66 million DAC valuation benefit reflecting an adjustment associated with the lengthening of amortization periods for certain insurance and annuity products in conjunction with the adoption of SOP 03-1. In addition, DAC amortization expense was impacted by a net $22 million DAC valuation benefit from the third quarter review of DAC as compared to the prior year. During 2003, DAC amortization expense also decreased 15 percent primarily reflecting the impact of a net $46 million DAC valuation benefit from the third quarter review as compared to the prior year. See the DAC section below for further discussion of DAC and related 2004 and 2003 adjustments.
Other operating expenses increased 30 percent to $1.2 billion reflecting the full-year impact of the Threadneedle acquisition, higher costs related to various mutual fund regulatory and legal matters and higher advertising and promotion expense. During 2003, other operating expenses also increased significantly due to the impact of fewer capitalized DAC-related costs, the effect of the Threadneedle acquisition in late 2003 and greater legal costs related to various mutual fund industry regulatory matters.
The effective tax rate at AEFA increased to 26 percent in 2004 from 21 percent in 2003 primarily due to the impact of higher pretax income compared to tax-advantaged items, reduced low income housing credits and the one-time effect of favorable technical guidance related to the taxation of dividend income recognized in 2003.
DEFERRED ACQUISITION COSTS
Deferred acquisition costs represent the costs of acquiring new business,
principally direct sales commissions and other distribution and underwriting
costs that have been deferred on the sale of annuity, life and health insurance
and, to a lesser extent, property/casualty and certain mutual fund products.
These costs are deferred to the extent they are recoverable from future
profits. For annuity and insurance products, DAC are amortized over periods
approximating the lives of the business, generally as a percentage of premiums
or estimated gross profits or as a portion of the interest margins associated
with the products. For certain mutual fund products, DAC are generally
amortized over fixed periods on a straight-line basis.
For annuity and insurance products, the projections underlying the amortization of DAC require the use of certain assumptions, including interest margins, mortality rates, persistency rates, maintenance expense levels and customer asset value growth rates for variable products. Management routinely monitors a wide variety of trends in the business, including comparisons of actual and assumed experience. The customer asset value growth rate is the rate at which contract values are assumed to appreciate in the future. The rate is net of asset fees and anticipates a blend of equity and fixed income investments. Management reviews and, where appropriate, adjusts its assumptions with respect to customer asset value growth rates on a quarterly basis.
Management monitors other principal DAC assumptions, such as persistency, mortality rates, interest margin and maintenance expense level assumptions, each quarter. Unless management identifies a material deviation over the course of the quarterly monitoring, management reviews and updates these DAC assumptions annually in the third quarter of each year. When
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assumptions are changed, the percentage of estimated gross profits or portion of interest margins used to amortize DAC might also change. A change in the required amortization percentage is applied retrospectively; an increase in amortization percentage will result in an increase in DAC amortization expense while a decrease in amortization percentage will result in a decrease in DAC amortization expense. The impact on results of operations of changing assumptions with respect to the amortization of DAC can be either positive or negative in any particular period and is reflected in the period in which such changes are made. As a result of these reviews, AEFA took actions in both 2004 and 2003 that impacted DAC balances and expenses.
In the third quarter 2004, these actions resulted in a net $24 million DAC amortization expense reduction reflecting: (i) a $27 million DAC amortization reduction reflecting lower than previously assumed surrender and mortality rates on variable annuity products, higher surrender charges collected on universal and variable universal life products and higher than previously assumed interest rate spreads on annuity and universal life products; (ii) a $3 million DAC amortization reduction reflecting a change to the mid-term assumed growth rate on variable annuity and variable universal life products; and (iii) a $6 million DAC amortization increase primarily reflecting a reduction in estimated future premiums on variable annuity products.
In the third quarter 2003, these actions resulted in a net $2 million DAC amortization expense reduction reflecting: (i) a $106 million DAC amortization reduction resulting from extending 10-15 year amortization periods for certain flex annuity products to 20 years based on current measurements of meaningful life; (ii) a $92 million DAC amortization increase resulting from the recognition of premium deficiency on AEFA's long-term care products; and (iii) a $12 million net DAC amortization increase across AEFA's universal life, variable universal life and annuity products, primarily reflecting lower than previously assumed interest rate spreads, separate account fee rates and account maintenance expenses.
During the first quarter of 2004 and in conjunction with the adoption of SOP 03-1, AEFA (1) established additional liabilities for insurance benefits that may become payable under variable annuity death benefit guarantees or on single pay universal life contracts, which prior to January 1, 2004, were expensed when payable; and (2) extended the time periods over which DAC associated with certain insurance and annuity products are amortized to coincide with the liability funding periods in order to establish the proper relationships between these liabilities and DAC associated with the same contracts. As a result, AEFA recognized a $109 million charge due to the previously discussed accounting change on establishing the future liability under death benefit guarantees and recognized a $66 million reduction in DAC amortization expense to reflect the lengthening of the amortization periods for certain products impacted by SOP 03-1.
DAC balances for various insurance, annuity and other products sold by AEFA are set forth below:
December 31, (Millions) 2004 2003 -------------------------------------------------------------------------------- Life and health insurance $1,766 $1,602 Annuities 1,872 1,734 Other 309 382 -------------------------------------------------------------------------------- Total $3,947 $3,718 ================================================================================ |
IMPACT OF MARKET-VOLATILITY ON RESULTS OF OPERATIONS
Various aspects of AEFA's business are impacted by equity market levels and
other market-based events. Several areas in particular involve DAC and deferred
sales inducements, recognition of guaranteed minimum death benefits (GMDB) and
certain other variable annuity benefits, asset management fees and structured
investments. The direction and magnitude of the changes in equity markets can
increase or decrease amortization of DAC and deferred sales inducement
benefits, incurred amounts under GMDB and other variable annuity benefit
provisions and asset management fees and correspondingly affect results of
operations in any particular period. Similarly, the value of AEFA's structured
investment portfolios is impacted by various market factors. Persistency of, or
increases in, bond and loan default rates, among other factors, could result in
negative adjustments to the market values of these investments in the future,
which would adversely impact results of operations. See AEFA's Liquidity and
Capital Resources section for a further discussion of structured investments
and consolidated derivatives.
MUTUAL FUND INDUSTRY DEVELOPMENTS
As has been widely reported, the SEC, the National Association of Securities
Dealers, Inc. (NASD) and several state attorneys general have brought
proceedings challenging several mutual fund industry practices, including late
trading, market timing, disclosure of revenue sharing arrangements and
inappropriate sales of B shares. AEFA has received requests for information
concerning its practices and is providing information and cooperating fully
with these inquiries.
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In May 2004, the Company reported that the broker-dealer subsidiary of AEFA had received notification from the staff of the NASD indicating that it had made a preliminary determination to recommend that the NASD bring an action against AEFA for potential violations of federal securities laws and the rules and regulations of the SEC and the NASD. The notice received by AEFA comes in the context of a broader industry-wide review of the mutual fund and brokerage industries that is being conducted by various regulators. The NASD staff's allegations relate to AEFA's practices with respect to various revenue sharing arrangements pursuant to which AEFA receives payments from certain non-proprietary mutual funds for agreeing to make their products available through AEFA's national distribution network. In particular, the NASD has alleged that AEFA: (i) failed to properly disclose such revenue sharing arrangements from January 2001 until May 2003; (ii) failed to properly disclose such revenue sharing arrangements in its brokerage confirmations; and (iii) received directed brokerage from January 2001 until December 2003. The notice from the NASD staff is intended to give AEFA an opportunity to discuss the issues it has raised. AEFA has been availing itself of this opportunity and continues to cooperate fully with the NASD's inquiry regarding this matter, as well as all other regulatory inquiries.
In addition to the foregoing, in February 2004 AEFA was one of 15 firms that settled an enforcement action brought by the SEC and the NASD relating to breakpoint discounts (i.e., volume discounts available to investors who make large mutual fund purchases) pursuant to which AEFA paid a fine of $3.7 million and is in the process of reimbursing customers to whom the firm failed to deliver such discounts.
Congress has also proposed legislation and the SEC has proposed and, in some instances, adopted rules relating to the mutual fund industry, including expenses and fees, mutual fund corporate governance and disclosures to customers. For example, during the past year, mutual fund and investment advisors were required by the SEC to adopt and implement written policies and procedures designed to prevent violation of the federal securities laws and to designate a chief compliance officer responsible for administering these policies and procedures. While there remains a significant amount of uncertainty as to what legislative and regulatory initiatives may ultimately be adopted, these initiatives could negatively impact mutual fund industry participants' results, including AEFA's, in future periods.
Liquidity and Capital Resources
SELECTED BALANCE SHEET INFORMATION (GAAP BASIS)
December 31, (Billions, except percentages) 2004 2003 -------------------------------------------------------------------------------- Accounts receivable, net $ 5.9 $ 1.5 Investments $ 44.9 $ 42.1 Separate account assets $ 35.9 $ 30.8 Deferred acquisition costs $ 3.9 $ 3.7 Total assets $ 97.1 $ 84.6 Customers' deposits $ 5.6 $ 1.2 Client contract reserves $ 44.3 $ 41.2 Separate account liabilities $ 35.9 $ 30.8 Total liabilities $ 90.7 $ 77.5 Total shareholder's equity $ 6.4 $ 7.1 Return on average total shareholder's equity before accounting change 11.8% 10.4% Return on average total shareholder's equity 10.8% 10.2% -------------------------------------------------------------------------------- |
See Glossary of Selected Terminology section for definitions of key terms.
AEFA's total assets and liabilities increased in 2004 primarily due to higher investments, client contract reserves and separate account assets and liabilities, which increased as a result of new client inflows and market appreciation. In addition, accounts receivable and customer deposits increased due to the transfer of the Membership Banking activity into the AEFA operating segment (from TRS) in 2004. Investments primarily include corporate debt and mortgage-backed securities. AEFA's corporate debt securities comprise a diverse portfolio with the largest concentrations, accounting for approximately 67 percent of the portfolio, in the following industries: banking and finance, utilities, and communications and media. Investments also include $3.5 billion and $3.8 billion of investment loans at December 31, 2004 and 2003, respectively. Investments are principally funded by sales of insurance, annuities and certificates and by reinvested income. Maturities of these investments are largely matched with the expected future payments of insurance and annuity obligations.
Investments include $3.1 billion and $3.2 billion of below investment grade securities (excluding net unrealized appreciation and depreciation) at December 31, 2004 and December 31, 2003, respectively. These investments represent 7 percent and 8 percent of AEFA's investment portfolio at December 31, 2004 and 2003, respectively. Non-performing assets relative to invested assets (excluding short-term cash positions) were 0.02% and 0.07% at December 31, 2004 and 2003, respectively. Management believes a more relevant measure of exposure of AEFA's below investment grade securities and non-performing assets should exclude $230 million and $236 million, at December 31,
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2004 and 2003, respectively, of below investment grade securities (excluding net unrealized appreciation and depreciation), which were recorded as a result of the December 31, 2003 adoption of FIN 46. These assets are not available for AEFA's general use as they are for the benefit of the CDO debt holders and reductions in values of such investments will be fully absorbed by the third party investors. Excluding the impact of FIN 46, investments include $2.9 billion at both December 31, 2004 and 2003 of below investment grade securities (excluding net unrealized appreciation and depreciation), representing 7 percent of AEFA's investment portfolio, and non-performing assets relative to invested assets (excluding short-term cash positions) were less than 0.01% at both December 31, 2004 and 2003.
Assets consolidated as a result of the December 31, 2003 adoption of FIN 46 were $1.2 billion. The newly consolidated assets consisted of $844 million of cash, $244 million of below investment grade securities classified as Available-for-Sale (including net unrealized appreciation and depreciation), $64 million of derivatives and $15 million of loans and other assets, essentially all of which are restricted. The effect of consolidating these assets on AEFA's balance sheet was offset by AEFA's previously recorded carrying values of its investment in such structures, which totaled $673 million. The Company also recorded $500 million of newly consolidated liabilities, which consisted of $325 million of non-recourse debt, $175 million of other liabilities and $9 million of net unrealized after-tax appreciation on securities classified as Available-for-Sale.
The consolidation of FIN 46-related entities resulted in a cumulative effect of accounting change that reduced 2003 net income through a non-cash charge of $13 million ($20 million pretax). The net charge was comprised of a $57 million ($88 million pretax) non-cash charge related to the consolidated CDO offset by a $44 million ($68 million pretax) non-cash gain related to the consolidated SLTs. One of the three SLTs originally consolidated was liquidated in 2004 and the other two are in the process of being liquidated as of December 31, 2004.
The initial charge related to the application of FIN 46 for the CDO and SLTs had no cash flow effect on the Company. Ongoing valuation adjustments specifically related to the application of FIN 46 to the CDO are also non-cash items and will be reflected in the Company's quarterly results until maturity. These ongoing valuation adjustments, which will be reflected in operating results over the remaining lives of the structure subject to FIN 46 and which will be dependent upon market factors during such time, will result in periodic gains and losses. In the aggregate, such gains or losses related to the CDO, including the December 31, 2003 implementation charge, will reverse themselves over time as the structure matures, because the debt issued to the investors in the CDO is non-recourse to the Company, and further reductions in the value of the related assets will ultimately be absorbed by the third-party investors. Therefore, the Company's maximum cumulative exposure to pretax loss as a result of its investment in the CDO is represented by the carrying value prior to the adoption of FIN 46, which was nil. The expected impact related to the liquidation of the two remaining SLTs is $4 million and has been included in 2004 results of operations. However, further adjustments to that amount could occur based on market movements and execution of the liquidation process. To the extent further adjustments are incurred in the liquidation of the remaining SLT portfolios, the Company's maximum cumulative exposure to pretax loss is represented by the pretax net assets, which is $462 million at December 31, 2004.
As of December 31, 2004, AEFA continued to hold investments in CDOs managed by AEFA that were not consolidated pursuant to the adoption of FIN 46 as the Company was not considered the primary beneficiary. As a condition to its managing certain CDOs, AEFA is generally required to invest in the residual or "equity" tranche of the CDO, which is typically the most subordinated tranche of securities issued by the CDO entity. AEFA's exposure as an investor is limited solely to its aggregate investment in the CDOs, and it has no obligations or commitments, contingent or otherwise, that could require any further funding of such investments. As of December 31, 2004, the carrying values of the CDO residual tranches managed by AEFA were $27 million. AEFA also has a retained interest in a CDO-related securitization trust with a carrying value of $705 million, of which $523 million is considered investment grade. One of the results of this transaction is that increases and decreases in future cash flows of the individual CDOs are combined into one overall cash flow for purposes of determining the carrying value of the retained interests and related impact on results of operations. CDOs are illiquid investments. As an investor in the residual tranche of CDOs, AEFA's return correlates to the performance of portfolios of high-yield bonds and/or bank loans comprising the CDOs.
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The carrying value of the CDOs, as well as derivatives recorded on the balance sheet as a result of consolidating certain SLTs which are in the process of being liquidated, and AEFA's projected return are based on discounted cash flow projections that require a significant degree of management judgment as to assumptions primarily related to default and recovery rates of the high-yield bonds and/or bank loans either held directly by the CDOs or in the reference portfolio of the SLTs and, as such, are subject to change. Although the exposure associated with AEFA's investment in CDOs is limited to the carrying value of such investments, they have significant volatility associated with them because the amount of the initial value of the loans and/or other debt obligations in the related portfolios is significantly greater than AEFA's exposure. In the event of significant deterioration of a portfolio, the relevant CDO may be subject to early liquidation, which could result in further deterioration of the investment return or, in severe cases, loss of the CDO carrying amount. The derivatives recorded as a result of consolidating and now liquidating certain SLTs under FIN 46 are primarily valued based on the expected gains and losses from liquidating a reference portfolio of high-yield loans. As previously mentioned, the exposure to loss related to these derivatives is represented by the pretax net assets of the SLTs, which is $462 million at December 31, 2004. Deterioration in the value of the reference portfolio would likely result in deterioration of the consolidated derivative value.
AEFA holds reserves for current and future obligations that are primarily related to fixed annuities, investment certificates and life and health insurance. Reserves for fixed annuities, universal life contracts and investment certificates are equal to the underlying contract accumulation values. Reserves for other life and health insurance products are based on various assumptions, including mortality rates, morbidity rates and policy persistency.
Separate account assets represent funds held for the exclusive benefit of variable annuity and variable life insurance contract holders. These assets are generally carried at market value, and separate account liabilities are equal to separate account assets. AEFA earns investment management, administration and other fees from the related accounts. Separate account assets increased in 2004 due to net market appreciation, foreign currency translation impacts and net inflows.
The National Association of Insurance Commissioners (NAIC) has prescribed Risk-Based Capital (RBC) requirements for insurance companies. The RBC requirements are to be used as minimum capital and surplus requirements by the NAIC and state insurance regulators to identify companies that merit further regulatory attention.
At December 31, 2004, each of AEFA's insurance companies had adjusted capital and surplus in excess of amounts requiring such attention.
In addition to regular quarterly dividends, AEFA paid special dividends of $930 million to the Parent Company during 2004.
State insurance statutes also contain limitations as to the amount of dividends and distributions that insurers may make without providing prior notification to state regulators. For IDS Life, any dividends or distributions in 2005, whose amount, together with that of other distributions made within the preceding 12 months, exceeds IDS Life's 2004 statutory net gain from operations, would require notification to the Minnesota Commissioner of Commerce who would have the option to disapprove the proposed distribution based on consideration of general solvency as well as RBC requirements.
For discussion of the rating agency response to the proposed spin-off of AEFA, see Note 23 to the Consolidated Financial Statements.
CONTINGENT LIQUIDITY PLANNING
AEFA has developed a contingent funding plan that enables it to meet daily
customer obligations during periods in which its customers do not roll over
maturing certificate contracts and elect to withdraw funds from their annuity
and insurance contracts. This plan is designed to ensure that AEFA could meet
these customer withdrawals by selling or obtaining financing, through
repurchase agreements, of portions of its investment securities portfolio.
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RISK MANAGEMENT
At AEFA, interest rate exposures arise primarily with respect to its insurance,
annuity and investment certificate products. Rates credited to customers'
accounts generally reset at shorter intervals than the yield on underlying
investments. Therefore, AEFA's interest spread margins are affected by changes
in the general level of interest rates. The extent to which the level of rates
affects spread margins is managed primarily by a combination of modifying the
maturity structure of the investment portfolio and entering into swaps or other
derivative instruments that effectively lengthen the rate reset interval on
customer liabilities. Interest rate derivatives with notional amounts totaling
approximately $1.4 billion were outstanding at December 31, 2004 to hedge
interest rate exposures. Additionally, AEFA has entered into interest rate
swaptions with notional amounts totaling $1.2 billion to hedge the impact of
increasing interest rates on forecasted fixed annuity sales.
The negative effect on AEFA's pretax earnings of a 100 basis point increase in interest rates, which assumes repricings and customer behavior based on the application of proprietary models, to the book of business at December 31, 2004 and 2003 would be approximately $58 million and $53 million for 2004 and 2003 (including the impact of minority interest expense related to the joint venture with AEB), respectively.
AEFA has two primary exposures to the general level of equity markets. One exposure is that AEFA earns fees from the management of equity securities in variable annuities, variable insurance, proprietary mutual funds and other managed assets. The amount of fees is generally based on the value of the portfolios, and thus is subject to fluctuation with the general level of equity market values. To reduce the sensitivity of AEFA's fee revenues to the general performance of equity markets, AEFA may from time to time enter into various combinations of financial instruments that mitigate the negative effect on fees that would result from a decline in the equity markets. The second exposure is that AEFA writes and purchases index options to manage the margin related to certain investment certificate and annuity products that pay interest based upon the relative change in a major stock market index between the beginning and end of the product's term. At December 31, 2004, equity-based derivatives with a net notional amount of $283 million were outstanding to hedge equity market exposures.
The negative effect on AEFA's pretax earnings of a 10 percent decline in equity markets would be approximately $85 million and $89 million based on assets under management, certificate and annuity business inforce and index options as of December 31, 2004 and 2003, respectively.
AEFA's acquisition of Threadneedle resulted in balance sheet exposures to foreign exchange risk, which is managed primarily by entering into agreements to buy and sell currencies on a spot or forward basis. At December 31, 2004, foreign currency products with total notional amounts of approximately $870 million were outstanding. Based on the year-end 2004 foreign exchange positions, the effect on AEFA's earnings and equity of a hypothetical 10 percent change in the value of the U.S. dollar would be immaterial.
AEFA's owned investment securities are, for the most part, held to support its life insurance, annuity and investment certificate products, which primarily invest in long-term and intermediate-term fixed income securities to provide their contractholders with a competitive rate of return on their investments while controlling risk. Investment in fixed income securities is designed to provide AEFA with a targeted margin between the interest rate earned on investments and the interest rate credited to clients' accounts. AEFA does not trade in securities to generate short-term profits for its own account.
AEFA's Balance Sheet Management Committee and the Company's ERMC regularly review models projecting various interest rate scenarios and risk/return measures and their effect on the profitability of the Company. The committees' objectives are to structure their investment security portfolios based upon the type and behavior of the products in the liability portfolios to achieve targeted levels of profitability within defined risk parameters and to meet contractual obligations. Part of the committees' strategies include the use of derivatives, such as interest rate caps, swaps and floors, for risk management purposes.
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AMERICAN EXPRESS BANK
Results of Operations
STATEMENTS OF INCOME
Years Ended December 31, (Millions) 2004 2003 2002
--------------------------------------------------------------------------------
Net revenues:
Interest income $ 542 $ 575 $ 606
Interest expense 227 226 246
--------------------------------------------------------------------------------
Net interest income 315 349 360
Commissions and
fees 283 238 215
Foreign exchange
income and other
revenues 227 214 170
--------------------------------------------------------------------------------
Total net revenues 825 801 745
================================================================================
Expenses:
Human resources 298 271 236
Other operating
expenses 300 279 244
Provisions for losses 37 102 147
Restructuring Charges 44 (2) (3)
--------------------------------------------------------------------------------
Total expenses 679 650 624
--------------------------------------------------------------------------------
Pretax income 146 151 121
Income tax provision 50 49 41
--------------------------------------------------------------------------------
Net income $ 96 $ 102 $ 80
================================================================================
|
AEB's results before restructuring charges reflect the positive impact of growth within Private Banking and its Financial Institutions Group (FIG), partially offset by loan and other activity reductions within Corporate Banking, and within its Consumer Financial Services (CFS) lending business, particularly Hong Kong.
AEB reported net income of $96 million in 2004, $102 million in 2003 and $80 million in 2002. 2004 results include $44 million ($29 million after-tax) in aggregate restructuring charges ($35 million recognized in the fourth quarter as part of Company-wide restructuring initiatives) incurred in connection with the decision to sell certain AEB operations in Bangladesh, Egypt, Luxembourg and Pakistan. The aggregate charges include $30 million of employee severance-related obligations and $14 million of other costs primarily related to currency translation losses, previously recorded in shareholder's equity, and the early termination of certain real estate property leases.
Net revenues rose 3 percent to $825 million in 2004 primarily due to increased commissions and fees and higher foreign exchange income and other revenues, partially offset by lower net interest income. Net revenues of $801 million in 2003 rose 7 percent primarily due to higher commissions and fees as well as higher foreign exchange income and other revenues.
Net interest income of $315 million in 2004 declined 10 percent primarily due to lower levels of CFS loans, reflecting AEB's decision to temporarily curtail loan origination in Hong Kong, and lower spreads in the investment portfolio. These decreases were partially offset by the impact of growth in the Private Banking loan portfolio. Net interest income declined 3 percent in 2003 primarily due to lower levels of CFS loans and declining Corporate Banking loan balances due to AEB's exit strategy, partially offset by lower funding costs on the investment portfolio and strong growth in Private Banking loans.
During 2004 and 2003, commissions and fees increased 19 percent and 11 percent, respectively, primarily due to higher volumes in FIG and Private Banking, partially offset by lower volumes in CFS.
Foreign exchange income and other revenues rose 6 percent to $227 million reflecting higher Private Banking client activity. In 2003, foreign exchange income and other revenue of $214 million increased primarily because of higher client activity in Private Banking and higher mark-to-market gains on FIG seed capital investments in mutual funds.
Human resources expenses rose 10 percent to $298 million in 2004 reflecting merit increases and higher management incentive costs, partially offset by the benefits of reengineering activities. Human resources expenses of $271 million rose 15 percent in 2003 reflecting merit increases and increased employee benefit and management incentive costs as well as severance costs related to AEB's downsizing of its operations in Greece.
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Other operating expenses increased 8 percent to $300 million in 2004 due to higher technology and business volume-related expenses, partially offset by a gain on the sale of securities received from a settlement with a FIG client and the benefits of reengineering activities. Other operating expenses increased 14 percent in 2003 reflecting higher technology expenses and currency translation losses, previously recorded in shareholder's equity, resulting from AEB's scaling back of activities in Europe, partially offset by gains on the sale of real estate properties in Greece.
Provision for losses decreased substantially in 2004 and 2003 to $37 million and $102 million, respectively, due to lower CFS volumes and an improvement in bankruptcy-related write-offs in the consumer lending portfolio in Hong Kong.
On and effective January 21, 2005, AEB completed the sale of the local Private Banking client assets in Luxembourg. In connection with this transaction, AEB received gross proceeds of approximately $6 million, which were offset by cumulative pretax costs of approximately $6 million consisting of: (i) $4 million recorded in 2004 as part of AEB's restructuring charges; and (ii) $2 million recorded in January 2005 consisting primarily of incentive payments and other costs.
Liquidity and Capital Resources
SELECTED BALANCE SHEET INFORMATION (GAAP BASIS)
December 31,
(Billions, except percentages and where indicated) 2004 2003
--------------------------------------------------------------------------------
Total loans $ 6.9 $ 6.5
Total Non-CFS loans $ 5.5 $ 5.1
Non-CFS loan loss reserves
(millions):
Beginning balance $ 59 $ 92
Provision 5 9
Net charge-offs (9) (39)
Other 3 (3)
--------------------------------------------------------------------------------
Ending balance $ 58 $ 59
--------------------------------------------------------------------------------
% of Non-CFS loans 1.0% 1.1%
Total non-performing loans
(millions) $ 37 $ 78
Total CFS loans $ 1.4 $ 1.4
Past due as a % of total CFS loans:
30-89 days past due 3.8% 5.6%
90+ days past due 0.7% 1.0%
CFS loan reserves (millions):
Beginning balance $ 54 $ 59
Provision 33 93
Net charge-offs (50) (99)
Other -- 1
--------------------------------------------------------------------------------
Ending balance $ 37 $ 54
--------------------------------------------------------------------------------
% of CFS loans 2.7% 4.0%
% of 30 days past due
CFS loans 61% 60%
Net write-off rate 3.8% 6.8%
Assets owned, managed*/
administered:
Owned $ 13.4 $ 14.2
Managed/administered 19.2 16.2
--------------------------------------------------------------------------------
Total $ 32.6 $ 30.4
--------------------------------------------------------------------------------
Assets of non-consolidated
joint ventures** $ 1.8 $ 1.7
Deposits $ 10.4 $ 10.8
Total liabilities $ 12.4 $ 13.3
Total shareholder's equity
(millions) $ 924 $ 949
Return on average total assets 0.70% 0.74%
Return on average total
shareholder's equity 10.0% 10.8%
Risk-based capital ratios:
Tier 1 11.0% 11.4%
Total 10.1% 11.3%
Leverage ratio 5.8% 5.5%
--------------------------------------------------------------------------------
|
* Includes assets managed by AEFA. ** Excludes American Express International Deposit Company's total assets (which are 100% consolidated at AEFA). See Glossary of Selected Terminology section for definitions of key terms.
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AEB had worldwide loans outstanding at December 31, 2004 of approximately $6.9 billion, up from $6.5 billion at December 31, 2003. The following table summarizes the composition of AEB's loan portfolio by business line as of December 31, 2004 and 2003.
Percentage of total loans
-------------------------
December 31, 2004 2003
--------------------------------------------------------------------------------
Private Banking 48% 45%
Consumer 22 23
Financial Institution 29 29
Corporate Banking 1 3
================================================================================
|
In addition to the loan portfolio, other banking activities, such as securities, unrealized gains on foreign exchange and derivatives contracts, various contingencies and market placements added approximately $7.2 billion and $7.6 billion to AEB's credit exposures at December 31, 2004 and 2003, respectively. Included in these additional exposures are relatively lower risk cash and securities related balances totaling $4.7 billion at December 31, 2004 and $5.4 billion at December 31, 2003.
CONTINGENT LIQUIDITY PLANNING
AEB has in place a contingent funding plan that enables it to meet daily
customer obligations during periods in which its customers do not roll over
maturing deposits. This plan is designed to ensure that AEB could meet these
customer withdrawals by selling a portion of its investment securities or by
obtaining financing through repurchase agreements.
RISK MANAGEMENT
AEB employs a variety of financial instruments in managing its exposure to
fluctuations in interest and currency rates. Derivative instruments consist
principally of foreign exchange spot and forward contracts, foreign currency
options, interest rate swaps, futures and forward rate agreements. Generally,
they are used to manage specific interest rate and foreign exchange exposures
related to deposits, long-term debt, equity, loans and securities holdings. At
December 31, 2004, interest rate products with notional amounts totaling
approximately $11.6 billion for trading and non-trading purposes were
outstanding. Notional amounts outstanding at December 31, 2004 for foreign
currency products were approximately $28.2 billion for trading and non-trading
purposes. Additionally, equity products with notional amounts of $582 million
were outstanding at December 31, 2004.
The negative effect of a 100 basis point increase in interest rates on AEB's pretax earnings would be $44 million and $42 million at December 31, 2004 and 2003 (including the impact on pretax earnings related to the joint venture with AEFA), respectively. The effect on earnings of a 10 percent change in the value of the U.S. dollar would be immaterial and, with respect to translation exposure of foreign operations, would result in a $7 million and $9 million pretax reduction in equity as of December 31, 2004 and 2003, respectively.
AEB utilizes foreign exchange and interest rate products to meet the needs of its customers. Customer positions are usually, but not always, offset. They are evaluated in terms of AEB's overall interest rate or foreign exchange exposure. AEB also takes limited proprietary positions. Potential daily exposure from trading activities is calculated using a VaR methodology. This model employs a parametric technique using a correlation matrix based on historical data. The VaR measure uses a 99 percent confidence interval to estimate potential trading losses over a one-day period. The average VaR for AEB was less than $1 million for both 2004 and 2003.
Asset/liability and market risk management at AEB are supervised by the Asset and Liability Committee, which comprises senior business managers of AEB. It meets monthly and monitors: (i) liquidity, (ii) capital exposure, (iii) capital adequacy, (iv) market risk and (v) investment portfolios. The committee evaluates current market conditions and determines AEB's tactics within risk limits approved by AEB's Board of Directors. AEB's treasury and risk management operations issue policies and control procedures and delegate risk limits throughout AEB's regional trading centers.
CORPORATE AND OTHER
Corporate and Other reported net expenses of $238 million, $214 million and
$176 million in 2004, 2003 and 2002, respectively. Net expenses increased
during 2004 primarily due to increased corporate investment spending on
compliance and technology projects and increased interest expense on debt
issued in late 2003 in the Parent Company. Included in 2002 results were the
final preferred stock dividends from Lehman Brothers totaling $69 million ($59
million after-tax).
OTHER REPORTING MATTERS
ACCOUNTING DEVELOPMENTS
See Recently Issued Accounting Standards section of Note 1 to the Consolidated
Financial Statements.
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GLOSSARY OF SELECTED TERMINOLOGY
GENERAL
Return on average total assets -- Computed on a trailing 12-month basis using
total assets as included in the Consolidated Financial Statements prepared in
accordance with U.S. GAAP.
Return on average total shareholders' equity -- Computed on a trailing 12-month basis using total shareholders' equity as included in the Consolidated Financial Statements prepared in accordance with U.S. GAAP.
TRAVEL RELATED SERVICES
Asset securitizations -- Asset securitization involves the transfer and sale of
receivables or loans to a special purpose entity, a separate legal entity,
created for the securitization activity, typically a trust. The trust, in turn,
issues securities, commonly referred to as asset-backed securities that are
collateralized by the transferred receivables or loans. The trust utilizes the
proceeds from the sale of such securities to pay the purchase price for
receivables or loans that were sold into the trust.
Average discount rate -- Represents the percentage of billed business that is paid by a merchant accepting the American Express card as compensation for the Company providing its payment service. Discount rates vary by service establishment, industry sector, transaction volumes, payment plan, risk levels for loss due to fraud or credit within the industry and other factors.
Basic cards-in-force -- Represents the number of cards issued and outstanding to the primary account owners and does not include additional supplemental cards issued on such accounts.
Billed business -- Represents the dollar amount of charges on all American Express cards; also referred to as spend or charge volume. Proprietary billed business includes charges made on the Company's proprietary cards-in-force while non-proprietary billed business represents the charges through the Company's global network on cards issued by the Company's network partners.
Cardmember -- The individual holder of an issued American Express branded charge or credit card.
Cardmember lending net finance charge revenue -- Represents the net revenue earned on outstanding cardmember loans. Cardmember lending finance charges are assessed using the average daily balance method. They are recognized based upon the principal amount outstanding in accordance with the terms of the applicable account agreement until the outstanding balance is paid or written-off. Cardmember lending finance charges are presented net of the interest expense incurred by the Company to finance lending receivables.
Cardmember loans -- Represents the outstanding amount due from cardmembers for charges made on their American Express credit cards, as well as any interest charges and card-related fees due from the cardmember. Cardmember loans also include balances with extended payment terms on certain charge card products such as Sign & Travel and Extended Payment Option.
Cardmember receivables -- Represents the outstanding amount due from cardmembers for charges made on their American Express charge cards as well as any card-related fees.
Cards-in-force -- Represents the number of cards that are issued and outstanding. Total cards-in-force includes basic cards issued to the primary account owner and any supplemental cards which represent additional cards issued on that account. Proprietary cards-in-force represent card products where the Company owns the cardmember relationship including card issuance, billing and credit management and strategic plans such as marketing, promotion and development of card products and offerings. Proprietary cards-in-force include co-brand and affinity cards. For non-proprietary cards-in-force, the Company maintains the responsibility to acquire and service merchants that accept the Company's cards and the cardmember relationship is owned by the Company's network partners that issue the cards. Most of the Company's network partners provide cards-in-force data to the Company on a one-month lag basis.
Charge cards -- Represents cards that carry no pre-set spending limits and are primarily designed as a method of payment and not as a means of financing purchases of goods or services. Cardmembers generally must pay the full amount billed each month. No finance charges are assessed on charge cards.
Credit cards -- Represents cards that have a range of revolving payment terms, grace periods and rate and fee structures.
Discount revenue -- Represents revenue earned from fees charged to merchants with whom the company has entered into a card acceptance agreement for processing cardmember transactions. The discount fee is generally deducted from the Company's payment reimbursing the merchant.
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Interest-only strip -- Interest-only strips are generated from TRS securitization activity and are a form of retained interest held by the Company in the securitization. This financial instrument represents the present value of estimated future excess spread expected to be generated by the securitized assets over the estimated life of those assets. Excess spread is the net positive cash flow from interest and fee collections allocated to the third-party investors' interests in the securitization after deducting the interest paid on the investor certificates, credit losses, contractual servicing fees and other expenses.
Loss reserves as a percentage of loans -- Represents the amount of loss reserves expressed as a percentage of the outstanding loan balance.
Loss reserves as a percentage of past due accounts -- Represents the reserve coverage of past due accounts.
Net card fees -- Represents the card membership fees earned during the period. These fees are recognized as revenue over the card membership period (typically one year) covered by the card fee, net of provision for projected refunds of card fees for cancellation of card membership. Similarly, deferred acquisition costs are amortized into operating expenses over the card membership period covered by the card fee.
Net interest yield -- Represents the interest rate earned on outstanding loan balances, net of related funding costs.
Net loss ratio -- Represents the ratio of write-offs, net of recoveries on cardmember receivables expressed as a percentage of the total charge card volume.
Net write-off rate -- Represents the amount of loans written-off, net of recoveries as a percentage of the average loan balance during the period.
Network -- Represents the Company's global general purpose charge and credit card merchant network. Cards bearing the Company's logo issued by TRS and by qualified licensed institutions are accepted on this network at merchant locations worldwide that accept American Express branded cards.
Past due loans as a percentage of total loans -- Represents the percentage of loans that are 30 days or more past due compared to the total amount of loans outstanding.
Stored value and prepaid products -- Include Travelers Cheques and other prepaid products such as gift cheques and cards as well as reloadable Travelers Cheque cards. These products are sold as safe and convenient alternatives to currency and represent prepaid financial instruments for the holders to use for purchasing goods and services.
Travel sales -- Represents the total dollar amount of travel transaction volume for airline, hotel, car rental and other travel arrangements made for clients under travel management contracts. The Company earns revenue on these transactions by charging a transaction or management fee based on the contractual arrangement with travel clients.
AMERICAN EXPRESS FINANCIAL ADVISORS
Administered assets -- Assets serviced by AEFA for its clients, which include
those held in customers' brokerage accounts. AEFA does not exercise management
discretion over these assets and does not earn a management fee. These assets
are not reported in the Company's Consolidated Balance Sheet.
Assets managed for individuals -- Assets that are beneficially owned by customers substantially consisting of those held in retail mutual funds. AEFA receives management fees based on the value of the underlying assets. These assets are not reported on the Company's Consolidated Balance Sheet. Also included in this category are wrap account products provided to clients for which AEFA earns fees based on the asset levels of such accounts.
Assets managed for institutions -- Consists of assets within their defined contribution and defined benefit plans as well as assets managed for corporations for which AEFA earns management fees. These assets are not reported on the Company's Consolidated Balance Sheet.
Cash sales -- Represents the dollar volume generated from the sales of mutual funds, annuities, investment certificates, life and other insurance products, as well as institutional and other related products. This volume indicator captures gross new cash inflows which generate product revenue streams to AEFA. In the case of mutual funds, transfers between funds of the same family are generally excluded. In the case of life and other insurance products, cash sales are generally defined as the first year's premiums.
Collateralized debt obligations -- Represent securitized interests in pools of assets that serve as collateral. Multiple tranches of securities are issued offering investors various maturity and credit risk characteristics. Scheduled payments to investors are based on the
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performance of the CDOs' collateral. AEFA's investment in CDOs are backed by high-yield bonds and/or bank loans and are considered to be illiquid. Some of AEFA's holdings in these structured investments were required as a condition for managing them.
Deferred annuities inforce -- Represents the amount of deferred annuities currently inforce from annuities sold. Generally, the higher the number of policies in force, the higher the amount of revenues recognized.
Distribution fees -- Primarily represent point-of-sale fees (i.e., front-load mutual fund fees) and asset-based fees (i.e., 12b-1 fees) derived from the sale of certain products and fees earned from brokerage-related activities. These fees are generally based on a contractual fee as a percentage of assets.
Gross dealer concession sales -- a commonly used financial services industry measure of the sales production of the advisor channel.
Investment gains and losses -- Primarily represent gains and losses realized on the sale of investments, but also include other-than-temporary impairment losses recognized on Available-for-Sale securities and commercial mortgages as well as adjustments to the carrying value of structured investments.
Investment management and service fees -- Fees earned by the Company on assets that AEFA manages for customers. These assets primarily relate to managed assets for proprietary mutual funds, proprietary account assets and non-proprietary assets held within wrap accounts. Management fees are primarily based upon the level of assets under management by AEFA and are generally collected on a monthly basis. These fees include fees for services such as research, portfolio management, technology and related administrative services.
Life insurance inforce -- Represents the amount of life insurance currently inforce from life insurance policies issued. Generally, the higher the number of policies inforce, the higher the amount of revenues recognized.
Managed assets -- Represents assets managed by AEFA which are beneficially owned by clients and includes both proprietary and non-proprietary assets, substantially retail mutual funds managed for individuals. AEFA receives a fee based on the value of the assets. These assets are not reported on the Company's Consolidated Balance Sheet.
Non-proprietary funds -- A broad selection of third- party funds sold through AEFA's advisor network.
Owned assets -- Represent assets for which the Company bears all risks and rewards associated with ownership and are reported in the Company's Consolidated Balance Sheet. Owned assets consist principally of the fair value of Available-for-Sale and trading investment securities, as well as the net amortized cost of investment loans. Separate account assets are also included in owned assets. See definition of separate accounts for further discussion.
Proprietary funds -- Represent mutual funds that the Company establishes, markets and manages on behalf of its clients.
Sales inducement costs -- Primarily consist of bonus interest credits and premium credits added to certain annuity contract values. These benefits are capitalized to the extent they are incremental to amounts that would be credited on similar contracts without the applicable feature. Prior to the adoption of SOP 03-1, these costs had been previously included in DAC.
Secured loan trusts -- A structured investment wherein AEFA retains an interest (as a noteholder) whose return is based on a reference portfolio of loans. The SLT is generally structured such that the principal amount of the loans in the reference portfolio is a multiple of the par value of the notes held by AEFA. The investment is considered to be illiquid and AEFA's return is based on the performance of the underlying loans.
Separate accounts -- Represent assets and liabilities that are maintained and established primarily for the purpose of funding variable annuity and insurance products. The assets of the separate account are only available to fund the liabilities of the variable annuity contract holders and others with contracts requiring premiums or other deposits to the separate account. Clients elect to invest premiums in stock, bond and/or money market funds depending on their risk tolerance. All investment performance, net of fees, is passed through to the client.
Traditional life insurance -- Refers to term and whole life insurance policies that pay a specified sum to a beneficiary upon death of the insured. These policies do not subject the contractholder to the investment risks associated with universal and/or variable life insurance policies.
Universal life insurance -- Universal life insurance is a form of permanent life insurance that is characterized by its flexible premiums, its flexible face amounts and death benefit amounts, and its unbundling of the pricing factors (i.e., mortality, interest and expenses). In
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addition, a universal life insurance policyowner can determine within limits, the amount of the premium to pay for the coverage. The larger the premium that the policyowner pays, the larger amount of coverage that will be provided and the greater the universal life policy's cash value will be.
Variable life insurance -- Variable life insurance is a form of whole life insurance under which the death benefit and the cash value of the policy fluctuate according to the investment performance of a special investment account. In the United States, this special account is usually called a separate account. In other countries, it is usually called a segregated account. Most variable life policies in general permit policyowners to select from among several separate accounts and to change this selection from time to time.
Variable universal life insurance -- Variable universal life insurance combines the premium and death benefit flexibility of universal life insurance with the investment flexibility and risk of variable life insurance. Similar to a universal life policy, a variable universal life policy allows the policyholder to choose the premium amount and face amount. Similar to a variable life policy, the cash value of a variable universal life policy is placed in a separate investment account. The policyholder chooses from among several investment accounts and may change the chosen option at least annually.
Wrap account -- Represents an AEFA non-discretionary investment advisory program that offers clients the opportunity to select products that include proprietary and non-proprietary funds. AEFA earns fees at time of sale and ongoing management fees that are based on the value of the underlying assets invested.
AMERICAN EXPRESS BANK
Consumer Financial Services -- AEB business line which provides consumer
products in direct response to specific financial needs of retail customers and
includes interest-bearing deposits, unsecured lines of credit, installment
loans, money market funds, mortgage loans, auto loans and mutual funds.
Financial Institutions Group -- AEB business line which provides financial institution clients with a wide range of correspondent banking products including international payments processing (wire transfers and checks), trade-related payments and financing, cash management, loans, extensions of credit and investment products, including third-party distribution of AEB offshore mutual funds.
Non-performing loan -- Loans other than certain smaller-balance consumer loans (including loans impaired under SFAS No. 114, "Accounting by Creditors for Impairment of a Loan"), are placed on non-performing status when payments of principal or interest are 90 days past due or if, in management's opinion, the borrower is unlikely to meet its contractual obligations.
Private Banking -- AEB business line which focuses on high net worth individuals by providing such customers with investment management, trust, estate planning and banking services, including secured lending.
Risk-based capital -- Pursuant to the FDIC Improvement Act of 1991, the Federal Reserve Board, among other federal banking agencies, adopted regulations defining levels of capital adequacy. Under these regulations, the minimum ratio of qualifying total capital (Total Capital) to risk-weighted assets (including certain off-balance sheet items) is 8%. At least half of the Total Capital must consist of common stock, retained earnings, qualifying noncumulative perpetual preferred stock, minority interests in the equity accounts of consolidated subsidiaries (including preferred trust securities) and, for bank holding companies, a limited amount of qualifying cumulative perpetual preferred stock, less most intangibles including goodwill (Tier 1 Capital). The remainder (Tier 2 Capital) may consist of certain other preferred stock, certain other capital instruments, and limited amounts of subordinated debt and the allowance for loan and lease losses. Not more than 25% of qualifying Tier 1 Capital may consist of preferred trust securities. In addition, the Federal Reserve Board has established minimum leverage ratio (Tier 1 Capital to average total assets) guidelines for bank holding companies and banks. A bank is deemed to be well-capitalized if it maintains a Tier 1 risk-based capital ratio of at least 6%, a total risk-based capital ratio of at least 10% and a leverage ratio of 5%.
Value-at-Risk -- AEB manages counterparty credit exposure on foreign exchange and interest rate derivatives with a maturity greater than one year through a dynamic mark-to-market and potential future exposure process, in which the current positive fair value and potential future exposure are calculated and managed against counterparty loan equivalent limits.
FORWARD-LOOKING STATEMENTS
This report includes forward-looking statements, which are subject to risks and
uncertainties. The words "believe," "expect," "anticipate," "optimistic,"
"intend,"
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"plan," "aim," "will," "may," "should," "could," "would," "likely," and similar expressions are intended to identify forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date on which they are made. The Company undertakes no obligation to update or revise any forward-looking statements. Factors that could cause actual results to differ materially from these forward-looking statements include, but are not limited to, the following: the Company's ability to complete the planned spin-off of its AEFA business unit, which is subject to final approval by the Company's Board of Directors, the receipt of necessary regulatory approvals and a favorable tax ruling and/or opinion, and in connection with the proposed spin-off, the Company's ability to implement effective transition arrangements with AEFA on a post-completion basis; the Company's ability to grow its business and meet or exceed its return on shareholders' equity target by reinvesting approximately 35% of annually-generated capital, and returning approximately 65% of such capital to shareholders, over time, which will depend on the Company's ability to manage its capital needs and the effect of business mix, acquisitions and rating agency requirements; consumer and business spending on the Company's travel related services products, particularly credit and charge cards and Travelers Cheques and other prepaid products and growth in card lending balances, which depend in part on the ability to issue new and enhanced card and prepaid products and increase revenues from such products, attract new cardmembers, reduce cardmember attrition, capture a greater share of existing cardmembers' spending, sustain premium discount rates on its card products in light of market pressures, increase merchant coverage, retain cardmembers after low introductory lending rates have expired, and expand the global network services (GNS) business; the success of the GNS business in partnering with banks in the United States, which will depend in part on the extent to which such business further enhances the Company's brand, allows the Company to leverage its significant processing scale, expands merchant coverage of the network, provides U.S. GNS bank partners the benefits of greater cardmember loyalty and higher spend per customer, and merchant benefits such as greater transaction volume and additional higher spending customers; the continuation of favorable trends, including increased travel and entertainment spending and the overall level of consumer confidence; successfully cross-selling financial, travel, card and other products and services to the Company's customer base, both in the United States and abroad; the Company's ability to generate sufficient revenues for expanded investment spending, and the ability to capitalize on such investments to improve business metrics; the costs and integration of acquisitions; the success, timeliness and financial impact, including costs, cost savings and other benefits including increased revenues, and beneficial effect on the Company's operating expense to revenue ratio both in the short-term and over time, of reengineering initiatives being implemented or considered by the Company, including cost management, structural and strategic measures such as vendor, process, facilities and operations consolidation, outsourcing (including, among others, technologies operations), relocating certain functions to lower-cost overseas locations, moving internal and external functions to the Internet to save costs, and planned staff reductions relating to certain of such reengineering actions; the ability to control and manage operating, infrastructure, advertising and promotion expenses as business expands or changes, including the ability to accurately estimate the provision for the cost of the Membership Rewards program; the Company's ability to manage credit risk related to consumer debt, business loans, merchant bankruptcies and other credit trends and the rate of bankruptcies, which can affect spending on card products, debt payments by individual and corporate customers and businesses that accept the Company's card products and returns on the Company's investment portfolios; bankruptcies, restructurings or similar events affecting the airline or any other industry representing a significant portion of TRS' billed business, including any potential negative effect on particular card products and services and billed business generally that could result from the actual or perceived weakness of key business partners in such industries; the triggering of obligations to make payments to certain co-brand partners, merchants, vendors and customers under contractual arrangements with such parties under certain circumstances; a downturn in the Company's businesses and/or negative changes in the Company's and its subsidiaries' credit ratings, which could result in contingent payments under contracts, decreased liquidity and higher borrowing costs; risks associated with the Company's agreements with Delta Air Lines to prepay $500 million for the future purchases of Delta Skymiles rewards points and to loan up to $75 million to Delta; AEFA's ability to improve investment performance, including attracting and retaining high-quality personnel, and reduce outflows of invested funds; AEFA's ability to develop and introduce new and attractive products to clients in a timely manner and effectively manage the economics in selling a growing volume of non-proprietary mutual funds and other retail financial
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products to clients; fluctuation in the equity and fixed income markets, which can affect the amount and types of investment products sold by AEFA, the market value of its managed assets, and management, distribution and other fees received based on the value of those assets; AEFA's ability to recover deferred acquisition costs (DAC), as well as the timing of such DAC amortization, in connection with the sale of annuity, insurance and certain mutual fund products, and the level of guaranteed minimum death benefits paid to clients; changes in assumptions relating to DAC, which could impact the amount of DAC amortization; changes in federal securities laws affecting the mutual fund industry, including possible enforcement proceedings and the adoption of rules and regulations designed to prevent trading abuses, restrict or eliminate certain types of fees, change mutual fund governance, and mandate additional disclosures, and ability to make the required investment to upgrade compliance systems and procedures in response to these changes; AEFA's ability to avoid deterioration in its high-yield portfolio in order to mitigate losses in its investment portfolio; fluctuations in foreign currency exchange rates; fluctuations in interest rates, which impact the Company's borrowing costs, return on lending products and spreads in the insurance, annuity and investment certificate products; accuracy of estimates for the fair value of the assets in the Company's investment portfolio and, in particular, those investments that are not readily marketable, including the valuation of the interest-only strip relating to TRS' lending securitizations; the amount of recovery under the Company's insurance policies for losses resulting from the September 11th terrorist attacks; the potential negative effect on the Company's businesses and infrastructure, including information technology, of terrorist attacks, disasters or other catastrophic events in the future; political or economic instability in certain regions or countries, which could affect lending and other commercial activities, among other businesses, or restrictions on convertibility of certain currencies; changes in laws or government regulations, including changes in tax laws or regulations that could result in the elimination of certain tax benefits; outcomes and costs associated with litigation and compliance and regulatory matters; deficiencies and inadequacies in the Company's internal control over financial reporting, which could result in inaccurate or incomplete financial reporting; and competitive pressures in all of the Company's major businesses. A further description of these and other risks and uncertainties can be found in the Company's Annual Report on Form 10-K and its other reports filed with the SEC.
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Management's Report on Internal
Control over Financial Reporting
The management of American Express Company (the Company) is responsible for establishing and maintaining adequate internal control over financial reporting.
The Company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles, and includes those policies and procedures that:
o Pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company;
o Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and
o Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company's assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
The Company's management assessed the effectiveness of the Company's internal control over financial reporting as of December 31, 2004. In making this assessment, the Company's management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework.
Based on management's assessment and those criteria, we believe that, as of December 31, 2004, the Company's internal control over financial reporting is effective.
Ernst & Young LLP (E&Y), the Company's independent registered public accounting firm, has issued an audit report appearing on the following page on our assessment of the Company's internal control over financial reporting.
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Report of Independent Registered
Public Accounting Firm on Internal
Control over Financial Reporting
The Board of Directors and Shareholders of American Express Company
We have audited management's assessment, included in the accompanying Management's Report on Internal Control over Financial Reporting, that American Express Company maintained effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control--Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). American Express Company's management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management's assessment and an opinion on the effectiveness of the company's internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management's assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, management's assessment that American Express Company maintained effective internal control over financial reporting as of December 31, 2004, is fairly stated, in all material respects, based on the COSO criteria. Also, in our opinion, American Express Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2004, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets as of December 31, 2004 and 2003, and the related consolidated statements of income, shareholders' equity, and cash flows for each of the three years in the period ended December 31, 2004 of American Express Company and our report dated February 18, 2005 expressed an unqualified opinion thereon.
/s/ Ernst & Young LLP New York, New York February 18, 2005 |
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Report of Independent Registered
Public Accounting Firm
The Board of Directors and Shareholders of American Express Company
We have audited the accompanying consolidated balance sheets of American Express Company as of December 31, 2004 and 2003, and the related consolidated statements of income, shareholders' equity, and cash flows for each of the three years in the period ended December 31, 2004. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of American Express Company at December 31, 2004 and 2003, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2004, in conformity with U.S. generally accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements, in 2004, the Company adopted the provisions of the American Institute of Certified Public Accountants Statement of Position 03-1, "Accounting and Reporting by Insurance Enterprises for Certain Nontraditional Long-Duration Contracts and for Separate Accounts". Additionally, in 2003, the Company adopted the provisions of Financial Accounting Standards Board Interpretation No. 46 (revised December 2003), "Consolidation of Variable Interest Entities", and the fair value recognition provisions of Statement of Financial Accounting Standards (SFAS) No. 123, "Accounting for Stock-Based Compensation", prospectively for all stock options granted after December 31, 2002.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of American Express Company's internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control--Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 18, 2005 expressed an unqualified opinion thereon.
/s/ Ernst & Young LLP New York, New York February 18, 2005 |
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Consolidated Statements of Income
AMERICAN EXPRESS COMPANY
Years Ended December 31, (Millions, except per share amounts) 2004 2003 2002 --------------------------------------------------------------------------------------------------- Revenues Discount revenue $ 10,249 $ 8,781 $ 7,931 Net investment income 3,118 3,063 2,991 Management and distribution fees 3,023 2,420 2,285 Cardmember lending net finance charge revenue 2,224 2,042 1,828 Net card fees 1,909 1,835 1,726 Travel commissions and fees 1,795 1,507 1,408 Other commissions and fees 2,284 1,960 1,867 Insurance and annuity revenues 1,525 1,366 1,218 Securitization income, net 1,132 1,105 1,049 Other 1,856 1,757 1,504 --------------------------------------------------------------------------------------------------- Total 29,115 25,836 23,807 =================================================================================================== Expenses Human resources 7,359 6,303 5,725 Marketing, promotion, rewards and cardmember services 5,083 3,901 3,119 Provisions for losses and benefits: Annuities and investment certificates 1,261 1,306 1,217 Life insurance, international banking and other 1,094 1,052 1,040 Charge card 833 853 960 Cardmember lending 1,130 1,218 1,369 Professional services 2,507 2,248 2,021 Occupancy and equipment 1,641 1,529 1,458 Interest 867 905 1,082 Communications 519 517 514 Other 1,870 1,757 1,575 --------------------------------------------------------------------------------------------------- Total 24,164 21,589 20,080 =================================================================================================== Pretax income before accounting change 4,951 4,247 3,727 Income tax provision 1,435 1,247 1,056 --------------------------------------------------------------------------------------------------- Income before accounting change 3,516 3,000 2,671 Cumulative effect of accounting change, net of tax (Note 1) (71) (13) -- --------------------------------------------------------------------------------------------------- Net income $ 3,445 $ 2,987 $ 2,671 --------------------------------------------------------------------------------------------------- Earnings Per Common Share -- Basic: Income before accounting change $ 2.79 $ 2.34 $ 2.02 Net income $ 2.74 $ 2.33 $ 2.02 --------------------------------------------------------------------------------------------------- Earnings Per Common Share -- Diluted: Income before accounting change $ 2.74 $ 2.31 $ 2.01 Net income $ 2.68 $ 2.30 $ 2.01 --------------------------------------------------------------------------------------------------- Average common shares outstanding for earnings per common share: Basic 1,259 1,284 1,320 Diluted 1,285 1,298 1,330 =================================================================================================== |
See Notes to Consolidated Financial Statements.
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Consolidated Statements of Income
Consolidated Balance Sheets
AMERICAN EXPRESS COMPANY
December 31, (Millions, except share data) 2004 2003 -------------------------------------------------------------------------------------------------------- Assets Cash and cash equivalents (Note 1) $ 9,907 $ 6,156 Accounts receivable and accrued interest: Cardmember receivables, less reserves: 2004, $806; 2003, $916 30,270 27,487 Other receivables, less reserves: 2004, $90; 2003, $18 4,380 3,782 Investments (Note 2) 60,809 56,637 Loans: (Note 3) Cardmember lending, less reserves: 2004, $972; 2003, $998 25,933 24,836 International banking, less reserves: 2004, $95; 2003, $113 6,790 6,371 Other, less reserves: 2004, $17; 2003, $10 2,135 1,093 Separate account assets 35,901 30,809 Deferred acquisition costs 4,099 3,858 Land, buildings and equipment -- at cost, less accumulated depreciation: 2004, $3,297; 2003, $3,091 3,083 3,184 Other assets 9,331 10,334 -------------------------------------------------------------------------------------------------------- Total assets $ 192,638 $ 174,547 ======================================================================================================== Liabilities and Shareholders' Equity Customers' deposits $ 21,091 $ 21,250 Travelers Cheques outstanding 7,287 6,819 Accounts payable 8,291 6,591 Insurance and annuity reserves: Fixed annuities and variable annuity guarantees 27,012 26,377 Life and health policies 5,954 5,592 Investment certificate reserves 11,332 9,207 Short-term debt (Note 7) 14,182 19,046 Long-term debt (Note 7) 33,061 20,654 Separate account liabilities 35,901 30,809 Other liabilities 12,507 12,879 -------------------------------------------------------------------------------------------------------- Total liabilities 176,618 159,224 ======================================================================================================== Shareholders' Equity Common shares, $.20 par value, authorized 3.6 billion shares; issued and outstanding 1,249 million shares in 2004 and 1,284 million shares in 2003 (Note 8) 250 257 Additional paid-in capital 7,316 6,081 Retained earnings 8,196 8,793 Accumulated other comprehensive income (loss): Net unrealized securities gains, net of tax: 2004, ($409); 2003, ($501) 760 931 Net unrealized derivatives losses, net of tax: 2004, $77; 2003, $229 (142) (446) Foreign currency translation adjustments, net of tax: 2004, $55; 2003, $66 (344) (278) Minimum pension liability, net of tax: 2004, $8; 2003, $8 (16) (15) -------------------------------------------------------------------------------------------------------- Total accumulated other comprehensive income 258 192 -------------------------------------------------------------------------------------------------------- Total shareholders' equity 16,020 15,323 -------------------------------------------------------------------------------------------------------- Total liabilities and shareholders' equity $ 192,638 $ 174,547 ======================================================================================================== |
See Notes to Consolidated Financial Statements.
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Consolidated Statements of Cash Flows
AMERICAN EXPRESS COMPANY
Years Ended December 31, (Millions) 2004 2003 2002
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Cash Flows from Operating Activities
Net income $ 3,445 $ 2,987 $ 2,671
Adjustments to reconcile net income to net cash provided by
operating activities:
Provisions for losses and benefits 2,399 2,451 2,814
Depreciation and amortization 758 676 549
Deferred taxes, acquisition costs and other 574 118 170
Stock-based compensation 217 122 40
Changes in operating assets and liabilities, net of
effects of acquisitions and dispositions:
Accounts receivable and accrued interest (1,023) (692) 484
Other operating assets 778 (815) (295)
Accounts payable and other liabilities 1,159 (2,774) 1,365
Increase in Travelers Cheques outstanding 468 187 431
Increase in insurance reserves 297 265 271
Cumulative effect of accounting change, net of tax (Note 1) 71 13 --
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Net cash provided by operating activities 9,143 2,538 8,500
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Cash Flows from Investing Activities
Sale of investments 7,086 14,743 13,155
Maturity and redemption of investments 7,111 12,307 6,410
Purchase of investments (18,365) (30,174) (24,961)
Net increase in cardmember loans/receivables (7,656) (7,021) (7,793)
Cardmember receivables sold to trust -- -- 1,750
Cardmember receivables redeemed from trust (1,050) (2,085) --
Cardmember loans sold to trust 3,888 3,442 4,589
Cardmember loans redeemed from trust (3,000) (1,000) (2,000)
Loan operations and principal collections, net (486) (883) (115)
Purchase of land, buildings and equipment (740) (1,021) (670)
Sale of land, buildings and equipment 255 80 125
Dispositions (acquisitions), net of cash sold/acquired 1,347 (749) (58)
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Net cash used in investing activities (11,610) (12,361) (9,568)
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Cash Flows from Financing Activities
Net (decrease) increase in customers' deposits (468) 2,381 3,246
Sale of annuities and investment certificates 11,482 12,109 10,124
Redemption of annuities and investment certificates (8,874) (8,645) (5,782)
Net decrease in debt with maturities of three months or less (3,453) (712) (7,201)
Issuance of debt 20,074 19,220 19,392
Principal payments on debt (9,527) (16,498) (14,167)
Redemption of preferred beneficial interests securities -- (500) --
Issuance of American Express common shares 1,055 348 161
Repurchase of American Express common shares (3,578) (1,391) (1,153)
Dividends paid (535) (471) (430)
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Net cash provided by financing activities 6,176 5,841 4,190
Effect of exchange rate changes on cash 42 (150) (56)
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Net increase (decrease) in cash and cash equivalents 3,751 (4,132) 3,066
Cash and cash equivalents at beginning of year 6,156 10,288 7,222
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Cash and cash equivalents at end of year $ 9,907 $ 6,156 $ 10,288
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|
See Notes to Consolidated Financial Statements.
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Consolidated Statements of Shareholders' Equity
AMERICAN EXPRESS COMPANY
Accumulated
Additional Other
Common Paid-in Comprehensive Retained
Three years ended December 31, 2004 (Millions) Total Shares Capital Income/(Loss) Earnings
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Balances at December 31, 2001 $12,037 $ 266 $ 5,527 $ (177) $ 6,421
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Comprehensive income:
Net income 2,671 2,671
Change in net unrealized securities gains 770 770
Change in net unrealized derivatives losses (614) (614)
Derivatives losses reclassified to earnings 372 372
Foreign currency translation adjustments (86) (86)
Minimum pension liability adjustment 54 54
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Total comprehensive income 3,167
Repurchase of common shares (1,153) (7) (139) (1,007)
Other changes, primarily employee plans 235 2 287 (54)
Cash dividends declared:
Common, $0.32 per share (425) (425)
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Balances at December 31, 2002 13,861 261 5,675 319 7,606
============================================================================================================================
Comprehensive income:
Net income 2,987 2,987
Change in net unrealized securities gains (173) (173)
Change in net unrealized derivatives losses (323) (323)
Derivatives losses reclassified to earnings 415 415
Foreign currency translation adjustments (80) (80)
Minimum pension liability adjustment 34 34
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Total comprehensive income 2,860
Repurchase of common shares (1,391) (7) (160) (1,224)
Other changes, primarily employee plans 488 3 566 (81)
Cash dividends declared:
Common, $0.38 per share (495) (495)
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Balances at December 31, 2003 15,323 257 6,081 192 8,793
============================================================================================================================
Comprehensive income:
Net income 3,445 3,445
Change in net unrealized securities gains (171) (171)
Change in net unrealized derivatives losses 6 6
Derivatives losses reclassified to earnings 298 298
Foreign currency translation adjustments (66) (66)
Minimum pension liability adjustment (1) (1)
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Total comprehensive income 3,511
Repurchase of common shares (3,578) (14) (338) (3,226)
Other changes, primarily employee plans 1,320 7 1,573 (260)
Cash dividends declared:
Common, $0.44 per share (556) (556)
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Balances at December 31, 2004 $ 16,020 $ 250 $ 7,316 $ 258 $ 8,196
============================================================================================================================
|
See Notes to Consolidated Financial Statements.
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Notes to Consolidated
Financial Statements
Note 1 SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES
THE COMPANY
American Express Company (the Company) is primarily engaged in the business of
providing travel related services, financial services and international banking
services throughout the world.
TRAVEL RELATED SERVICES
The Company's Travel Related Services operating segment (TRS), which includes
the Company's card, travel, merchant and network businesses, provides a variety
of products and services worldwide, including, among others, global card
network, card issuing and processing services, customized charge card and
credit cards for consumers and businesses worldwide, other consumer and
corporate lending and banking products, American Express(R) Travelers
Cheques and prepaid card products, business expense management products and
services, corporate travel and travel management services, consumer travel
services, tax, accounting and business consulting services, magazine
publishing, merchant transaction processing and point-of-sale and back-office
products and services. The TRS segment operates primarily through the Company's
wholly-owned subsidiary American Express Travel Related Services Company, Inc.
and its subsidiaries.
AMERICAN EXPRESS FINANCIAL ADVISORS
The Company's American Express Financial Advisors operating segment (AEFA) is
comprised primarily of asset management and insurance businesses whose products
are principally offered through its network of over 12,000 financial advisors.
Financial planning and advice is at the core of AEFA's business, which helps
clients meet their long-term financial goals. The AEFA operating segment
principally includes American Express Financial Corporation (AEFC), and its
wholly-owned subsidiaries, the largest of which is IDS Life Insurance Company.
On February 1, 2005, the Company announced plans to pursue a tax-free spin-off of the common stock of AEFC through a special dividend to American Express common shareholders. See Note 23 for further information regarding this proposed transaction. The Notes to the Consolidated Financial Statements include disclosures that reflect the Company's business and organization as currently structured, unless otherwise specified.
AMERICAN EXPRESS BANK
The Company's American Express Bank operating segment (AEB) offers products
that meet the financial service needs of three primary client groups: retail
customers, wealthy individuals and financial institutions. AEB's operations are
conducted principally through American Express Bank Ltd., a wholly-owned
indirect subsidiary of the Company, and its subsidiaries. AEB does not do
business in the United States except as an incident to its activities outside
the United States.
PRINCIPLES OF CONSOLIDATION
The Company consolidates all non-variable interest entities in which it holds a
greater than 50 percent voting interest, except for immaterial seed money
investments in mutual and hedge funds, which are accounted for as trading
securities. Entities in which the Company holds a greater than 20 percent but
less than 50 percent voting interest are accounted for under the equity method.
All other investments are accounted for under the cost method unless the
Company determines that it exercises significant influence over the entity by
means other than voting rights, in which case these entities are either
accounted for under the equity method or are consolidated, as appropriate.
The Company also consolidates all Variable Interest Entities (VIEs) for which it is considered to be the primary beneficiary pursuant to Financial Accounting Standards Board (FASB) Interpretation No. 46, "Consolidation of Variable Interest Entities," as revised (FIN 46). The determination as to whether an entity is a VIE is based on the amount and characteristics of the entity's equity. In general, FIN 46 requires a VIE to be consolidated when an enterprise has a variable interest for which it is deemed to be the primary beneficiary, which means that it will absorb a majority of the VIE's expected losses or receive a majority of the VIE's expected residual return.
Qualifying Special Purpose Entities (QSPEs) under Statement of Financial Accounting Standards (SFAS) No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities," are not consolidated. Such QSPEs include those that the Company utilizes in connection with cardmember lending securitizations at the TRS segment, as well as a securitization trust containing a majority of the Company's rated collateralized debt obligations (CDOs) described in Note 2. Other entities where the Company has an interest or is the sponsor or transferor are evaluated using the control, risk and reward criteria
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as outlined under accounting principles generally accepted in the United States (GAAP).
All significant intercompany transactions are eliminated. Certain reclassifications of prior period amounts have been made to conform to the current presentation.
FOREIGN CURRENCY TRANSLATION
Assets and liabilities denominated in foreign currencies are translated into
U.S. dollars based upon exchange rates prevailing at the end of each year. The
resulting translation adjustments, along with any related hedge and tax
effects, are included in accumulated other comprehensive income (loss), a
component of shareholders' equity. Revenues and expenses are translated at the
average month end exchange rates during the year. Gains and losses related to
non-functional currency transactions, including non-U.S. operations where the
functional currency is the U.S. dollar, are reported net in other revenue in
the Company's Consolidated Statements of Income.
AMOUNTS BASED ON ESTIMATES AND ASSUMPTIONS
Accounting estimates are an integral part of the Consolidated Financial
Statements. In part, they are based upon assumptions concerning future events.
Among the more significant assumptions are those that relate to reserves for
cardmember credit losses, asset securitizations, Membership Rewards, financial
instruments valuation and deferred acquisition costs as discussed in detail
below. These accounting estimates reflect the best judgment of management and
actual results could differ.
REVENUES
The Company generates revenue from a wide range of business activities,
including payment instruments such as charge and credit cards; travel services
including airline, hotel and rental car reservations; and a wide range of
investment, savings, lending and insurance products.
DISCOUNT REVENUE
The Company earns discount revenue from fees charged to service establishments
with whom the Company has entered into card acceptance agreements for
processing cardmember transactions. The discount is generally deducted from the
payment to the service establishment and recorded as discount revenue at the
time the charge is captured.
NET INVESTMENT INCOME
Investment income for the Company's performing fixed income securities and
investment loans is generally accrued as earned using the effective interest
method, which makes an adjustment of the yield for security premiums and
discounts, fees and other payments, so that the related loan or security
recognizes a constant rate of return on the outstanding balance throughout its
term. Gains and losses on investments (other than trading securities) are
recognized using the specific identification method on a trade date basis and
charges are recorded when securities are determined to be other-than-temporarily
impaired.
Investment income for the Company's international banking and other loans is accrued on unpaid principal balances in accordance with the terms of the loans unless collection of interest is in doubt, in which case interest income is recognized only to the extent it is received in cash. Generally, the accrual of interest on these loans and advances is discontinued at the time the loan is 90 days delinquent, depending on loan type, or when an impairment is determined. When there is doubt regarding the ultimate collectibility of outstanding balances, all cash received is applied to reduce the carrying value of the loan or advance. Fees and deferred acquisition costs are amortized over the life of the loan or advance using the effective interest method. Net investment income is presented net of interest expense of $221 million, $218 million and $240 million for 2004, 2003 and 2002, respectively, related primarily to the Company's international banking operations.
MANAGEMENT AND DISTRIBUTION FEES
Management fees relate primarily to managed assets for proprietary mutual funds
and separate account assets, as well as employee benefit plan and institutional
investment management and administration services. They are primarily based on
the underlying asset values which are accrued daily and generally collected
monthly. Many of the proprietary mutual funds have a performance incentive
adjustment (PIA). This PIA adjusts the level of management fees received based
on the specific fund's relative performance as measured against a designated
external index. PIA fee revenue is recognized when the experience period has
ended. Distribution fees primarily include point-of-sale fees (i.e., front-load
mutual fund fees) and asset-based fees (i.e., 12b-1 fees and wrap account fees)
that are generally based on a contractual fee as a percentage of assets and
recognized when received.
CARDMEMBER LENDING NET FINANCE CHARGE REVENUE
Cardmember lending finance charges are assessed using the average daily balance
method for receivables owned and are recognized based upon the principal amount
outstanding in accordance with the terms of
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the applicable account agreement until the outstanding balance is paid or written-off. Cardmember lending net finance charge revenue is presented net of interest expense of $571 million, $483 million and $510 million for 2004, 2003 and 2002, respectively.
NET CARD FEES
Card fees are recognized as revenue over the card membership period covered by
the card fee, net of provision for projected refunds of card fees for
cancellation of card membership. Similarly, deferred card acquisition costs are
amortized into operating expenses over the card membership period covered by
the card fee.
TRAVEL COMMISSIONS AND FEES
Customer revenue is earned by charging a transaction or management fee for
airline or other transactions based on contractual agreements with travel
clients. Customer-related fees and other revenues are recognized at the time a
client books travel arrangements. Travel suppliers pay commissions on airline
tickets issued and on sales and transaction volumes, based on contractual
agreements. These revenues are recognized at the time a ticket is purchased.
Other travel suppliers that pay commissions on hotels and car rentals are
generally not under firm contractual agreements, and, therefore, revenue is
recognized when cash is received.
OTHER COMMISSIONS AND FEES
Other commissions and fees include foreign exchange conversion fees and other
card-related assessments, which are primarily recognized in the period charged
to the cardmember. Fees related to the Company's Membership Rewards program are
recognized over the period covered by the fee.
INSURANCE AND ANNUITY REVENUES
Insurance and annuity revenues include premiums on traditional life, disability
income, long-term care and property-casualty insurance and certain charges
assessed on universal and variable universal life insurance and annuities.
Premiums on traditional life, disability income and long-term care insurance are
recognized as revenue when due, whereas premiums on property-casualty insurance
are recognized ratably over the coverage period. Cost of insurance charges on
universal and variable universal life insurance are recognized as revenue when
earned, whereas contract charges and surrender charges on universal and variable
universal life insurance and annuities are recognized as revenue when collected.
SECURITIZATION INCOME, NET
Net securitization income includes non-credit provision components of the net
gains and charges from securitization activities, related impairment charges,
if any, of the related interest-only strip, excess spread related to
securitized cardmember loans, net finance charge revenue on retained interests
in securitized cardmember loans and servicing income, net of related discounts
or fees. Excess spread represents the net positive cash flow from interest and
fees collected from the securitized cardmember loans allocated to securities
sold to third-party investors after deducting the interest paid on investor
securities, credit losses, contractual servicing fees and other expenses. See
Note 4 for further information regarding securitizations.
OTHER
Other revenues primarily include fees from financial planning, consulting and
business services, which are recognized as services are performed.
EXPENSES
STOCK-BASED COMPENSATION
At December 31, 2004, the Company has two stock-based employee compensation
plans, which are described more fully in Note 15. Effective January 1, 2003,
the Company adopted the fair value recognition provisions of SFAS No. 123,
"Accounting for Stock-Based Compensation," prospectively for all stock options
granted after December 31, 2002. The fair value of each option is estimated on
the date of grant using a Black-Scholes option-pricing model. Prior to 2003,
the Company accounted for those plans under the recognition and measurement
provisions of Accounting Principles Board (APB) Opinion No. 25, "Accounting for
Stock Issued to Employees," and related Interpretations. Prior to the adoption
of the fair value recognition provisions of SFAS No. 123 in 2003, no employee
compensation expense was recorded in net income for stock options granted,
since all options granted under these plans had an exercise price equal to the
market value of the underlying common stock on the date of grant. For the years
ended December 31, 2004 and 2003, the Company expensed $83 million and $37
million pretax, respectively, related to stock options granted January 1, 2003
or later.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based Compensation -- Transition and Disclosure," which amended APB Opinion No. 28, "Interim Financial Reporting," to require disclosure about the pro forma effects of SFAS No. 123 on reported net income of stock-based compensation accounted for
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under APB Opinion No. 25. The following table illustrates the effect on net income and earnings per common share (EPS) assuming the Company had followed the fair value recognition provisions of SFAS No. 123 for all outstanding and unvested stock options and other stock-based compensation for the years ended December 31, 2004, 2003 and 2002:
(Millions, except per share amounts) 2004 2003 2002 ---------------------------------------------------------------------------------------- Net income as reported $ 3,445 $ 2,987 $ 2,671 Add: Stock-based employee compensation expense included in reported net income, net of related tax effects 141 79 26 Deduct: Total stock-based employee compensation expense determined under fair value based method, net of related tax effects (325) (349) (355) ---------------------------------------------------------------------------------------- Pro forma net income $3,261 $2,717 $2,342 ======================================================================================= Basic EPS: As reported $ 2.74 $ 2.33 $ 2.02 Pro forma $ 2.59 $ 2.12 $ 1.77 Diluted EPS: As reported $ 2.68 $ 2.30 $ 2.01 Pro forma $ 2.54 $ 2.09 $ 1.76 ======================================================================================= |
MARKETING, PROMOTION, REWARDS AND CARDMEMBER SERVICES
The Company expenses advertising costs in the year in which the advertising
first takes place.
The Company's Membership Rewards program allows enrolled cardmembers to earn points that can be redeemed for a broad range of rewards including travel, entertainment, retail certificates and merchandise. The Company establishes reserves to cover the cost of future reward redemptions and typically makes payments to its reward partners when cardmembers redeem their points. The reserve for Membership Rewards is estimated using models that analyze redemption statistics and also reflect, to a lesser extent, management's judgment regarding overall adequacy. The ultimate points to be redeemed by cardmembers are estimated based on many factors including past redemption behavior of cardmembers, product type, year of enrollment, spend level and duration in the program. Past behavior is used to predict when current enrollees will leave the program and their ultimate redemption rate.
The provision for the cost of Membership Rewards is based upon points earned that are ultimately expected to be redeemed by cardmembers and the current weighted-average cost per point of redemption. The weighted-average cost per point is affected by the mix of rewards redeemed. The provision and related balance sheet reserve for unredeemed points are impacted over time based on a number of factors including changes in the number of cardmembers in the Membership Rewards program, the actual amount of points earned and redeemed, the actual weighted-average cost per point, the availability of Membership Rewards offerings by vendors, the redemption choices made by cardmembers and future changes the Company could make to the program.
BALANCE SHEET
CASH AND CASH EQUIVALENTS
The Company has defined cash equivalents to include time deposits and other
highly liquid investments with original maturities of 90 days or less. At
December 31, 2004 and 2003, cash and cash equivalents included $1.0 billion and
$1.1 billion, respectively, segregated in special bank accounts for the benefit
of customers. The Company classified restricted cash totaling $1.1 billion and
$1.3 billion at December 31, 2004 and 2003, respectively, in other assets in
cases where cash cannot be utilized for operations.
INVESTMENTS
Available-for-Sale investment securities are carried at fair value on the
balance sheet with unrealized gains (losses) recorded in equity, net of income
tax provisions (benefits). Gains and losses are recognized in results of
operations upon disposition of the securities. In addition, losses are also
recognized when management determines that a decline in value is
other-than-temporary, which requires judgment regarding the amount and timing
of recovery. Indicators of other-than-temporary impairment for debt securities
include issuer downgrade, default or bankruptcy. The Company also considers the
extent to which cost exceeds fair value, the duration and size of that gap, and
management's judgment about the issuer's current and prospective financial
condition. Fair value is generally based on quoted market prices. However, the
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Company's investment portfolio also contains structured investments of various asset quality, including CDOs (backed by high-yield bonds and bank loans), which are not readily marketable. As a result, the carrying values of these structured investments are based on future cash flow projections that require a significant degree of management judgment as to the amount and timing of cash payments, defaults and recovery rates of the underlying investments and, as such, are subject to change. Investments also include AEFA's investment loans, primarily commercial mortgage loans, carried at amortized cost, net of reserves for losses, that consider factors such as underlying collateral values and historical loss experience. Trading investments are carried at fair value on the balance sheet with the changes in fair value recorded in results of operations.
ACCOUNTS RECEIVABLE
CARDMEMBER RECEIVABLES
Cardmember receivables represent amounts due from charge card customers and are
recorded at the time that a cardmember enters into a point-of-sale transaction
at a service establishment. Cardmember receivable balances are presented on the
balance sheet net of reserves for losses, which are discussed below, and
typically include principal and any related fees.
RESERVES FOR LOSSES -- CARDMEMBER RECEIVABLES
The Company's reserves for losses relating to cardmember receivables represent
management's estimate of the amount necessary to absorb losses inherent in the
Company's outstanding portfolio of receivables. Management's evaluation process
requires certain estimates and judgments. Reserves for these losses are
primarily based upon models that analyze specific portfolio statistics and also
reflect, to a lesser extent, management's judgment regarding overall adequacy.
The analytic models take into account several factors, including average
write-off rates for various stages of receivable aging (i.e., current, 30 days,
60 days, 90 days) over a 24-month period and average bankruptcy and recovery
rates. In exercising its judgment to adjust reserves that are calculated by the
analytic model, management considers the level of coverage of past-due accounts,
as well as external indicators, such as leading economic indicators,
unemployment rate, consumer confidence index, purchasing manager's index,
bankruptcy filings and the regulatory environment. Cardmember receivable
balances are written-off when management deems amounts to be uncollectible,
which is generally determined by the number of days past due. In general,
bankruptcy and deceased accounts are written-off upon notification, while other
accounts are written-off when 360 days past due. To the extent historical credit
experience is not indicative of future performance or other assumptions used by
management do not prevail, loss experience could differ significantly, resulting
in either higher or lower future provisions for losses, as applicable.
LOANS
CARDMEMBER LENDING
Cardmember loans at TRS represent amounts due from customers of the Company's
lending products, and are recorded at the time that a cardmember enters into a
point-of-sale transaction at a service establishment. These loans are presented
on the balance sheet net of reserves for cardmember losses, which are explained
further below, and include accrued interest receivable and fees as of the
balance sheet date. Additionally, cardmember loans include balances with
extended payment terms on certain charge card products, such as Sign and Travel
and Extended Payment Option. The Company's policy is to cease accruing for
interest receivable once a related cardmember loan is greater than 180 days
past due.
RESERVE FOR LOSSES -- CARDMEMBER LENDING
The Company's reserves for losses relating to cardmember loans represent
management's estimate of the amount necessary to absorb losses inherent in the
Company's outstanding loan portfolio. Management's evaluation process requires
certain estimates and judgments. Reserves for these losses are primarily based
upon models that analyze specific portfolio statistics and also reflect, to a
lesser extent, management's judgment regarding overall adequacy. The analytic
models take into account several factors, including average write-off rates for
various stages of receivable aging (i.e., current, 30 days, 60 days, 90 days)
over a 24-month period and average bankruptcy and recovery rates. In exercising
its judgment to adjust reserves that are calculated by the analytic model,
management considers the level of coverage of past-due accounts, as well as
external indicators, such as leading economic indicators, unemployment rate,
consumer confidence index, purchasing manager's index, bankruptcy filings and
the regulatory environment.
Cardmember loans are written-off when management deems amounts to be uncollectible, which is generally determined by the number of days past due. In general, bankruptcy and deceased accounts are written-off upon notification, while other accounts are written-off when 180 days past due. To the extent historical credit experience is not indicative of future performance or other
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assumptions used by management do not prevail, loss experience could differ significantly, resulting in either higher or lower future provisions for losses, as applicable.
INTERNATIONAL BANKING
International banking loans at AEB primarily represent amounts due from
consumers, high net worth individuals, banks and other institutions, and
corporations. Consumer and private banking loans include unsecured lines of
credit, installment loans, mortgage loans and auto loans to retail customers as
well as secured lending to high net worth individuals. Loans to banks and other
institutions represent trade-related financing and other extensions of credit.
Corporate loans represent commercial and industrial loans as well as mortgage
and real estate loans to corporate customers. International banking loans at
AEB are stated at the principal amount outstanding net of unearned income and
are presented on the balance sheet net of reserves for losses which are
discussed below.
RESERVE FOR LOSSES -- INTERNATIONAL BANKING
For smaller-balance consumer loans, management establishes reserves it believes
to be adequate to absorb losses inherent in the portfolio. Generally, these
loans are written-off in full when an impairment is determined or when the loan
becomes 120 or 180 days past due, depending on loan type. Loans, other than
smaller-balance consumer loans (including loans impaired under SFAS No. 114,
"Accounting by Creditors for Impairment of a Loan"), are placed on
nonperforming status when payments of principal or interest are 90 days past
due or if, in management's opinion, the borrower is unlikely to meet its
contractual obligations. The allowance for impaired loans is measured as the
excess of the loan's recorded investment over either the present value of
expected principal and interest payments discounted at the loan's effective
interest rate or, if more practical for collateral dependent loans, the fair
value of collateral. For floating rate impaired loans, the effective interest
rate is fixed at the rate in effect at the date the impairment criteria are met.
OTHER LOANS
Other loans primarily represent installment loans, revolving credit due from
TRS and AEFA customers, AEFA policyholder loans and interest-bearing advances
to airline partners. Interest-bearing advances to airline partners will be
reduced by mileage credits purchased from these partners through 2008.
ASSET SECURITIZATIONS
The Company periodically securitizes cardmember receivables and loans.
Securitization of the Company's cardmember receivables and loans is
accomplished through the transfer of those assets to a special purpose entity
created for the securitization, generally a trust, which in turn issues
securities that are collateralized by the transferred assets to third-party
investors. The Company accounts for its transfers of financial assets in
accordance with SFAS No. 140. In order for a securitization of financial assets
to be accounted for as a sale under SFAS No. 140, the transferor must surrender
control over those financial assets to the extent that consideration other than
beneficial interests in the transferred assets is received in exchange.
Cardmember loans are transferred to a qualifying special purpose entity, and
such transactions are structured to meet the sales criteria of SFAS No. 140.
Accordingly, when loans are sold through securitizations, the Company removes
the loans from its consolidated balance sheets and recognizes both a gain on
sale and the retained interests in the securitization.
Cardmember receivables are transferred to a special purpose entity that does
not meet the requirements for treatment as a qualifying sale under SFAS No.
140. Therefore, securitizations of cardmember receivables are accounted for as
secured borrowings in accordance with SFAS No. 140. The Company has securitized
cardmember receivables totaling $1.9 billion and $3.0 billion as of December
31, 2004 and 2003, respectively, which are included in cardmember receivables
on the Consolidated Balance Sheets as they do not qualify for off-balance sheet
treatment under SFAS No. 140; likewise, an equal amount of debt is included in
long-term debt.
SEPARATE ACCOUNT ASSETS AND LIABILITIES
Separate account assets and liabilities are funds held for the exclusive
benefit of variable annuity and variable life insurance contractholders. The
Company receives investment management fees, mortality and expense risk fees,
minimum death benefit guarantee fees and cost of insurance charges from the
related accounts.
DEFERRED ACQUISITION COSTS
Deferred acquisition costs (DAC) represent the costs of acquiring new business,
principally direct sales commissions and other distribution and underwriting
costs that have been deferred on the sale of annuity, life and health insurance
and, to a lesser extent, property/casualty and certain mutual fund products.
For annuity and insurance products, DAC are amortized over periods
approximating the lives of the business, generally as a percentage of
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premiums or estimated gross profits associated with the products depending on the product's characteristics. For certain mutual fund products, DAC are generally amortized over fixed periods on a straight-line basis. For annuity and insurance products, the projections underlying the amortization of DAC require the use of certain assumptions, including interest margins, mortality and morbidity rates, persistency rates, maintenance expense levels and customer asset value growth rates for variable products. Management routinely monitors a wide variety of trends in the business, including comparisons of actual and assumed experience. Management reviews and, where appropriate, adjusts its assumptions with respect to customer asset value growth rates on a quarterly basis. Management monitors other principal DAC assumptions, such as persistency, mortality and morbidity rates, interest margin and maintenance expense level assumptions, each quarter. Unless management identifies a material deviation over the course of the quarterly monitoring, management reviews and updates these DAC assumptions annually in the third quarter of each year. When assumptions are changed, the percentage of estimated gross profits or portion of interest margins used to amortize DAC may also change. A change in the required amortization percentage is applied retrospectively; an increase in amortization percentage will result in an acceleration of DAC amortization while a decrease in amortization percentage will result in a deceleration of DAC amortization. The impact on results of operations of changing assumptions with respect to the amortization of DAC can be either positive or negative in any particular period and is reflected in the period in which such changes are made.
LAND, BUILDINGS AND EQUIPMENT
LAND, BUILDINGS AND EQUIPMENT
Buildings and equipment, including leasehold improvements, are carried at cost
less accumulated depreciation. Costs incurred during construction, as well as
related interest, are capitalized and are depreciated once an asset is placed in
service. Depreciation is generally computed using the straight-line method over
the estimated useful lives of assets, which range from three to eight years for
equipment. Buildings are depreciated based upon their estimated useful life at
the acquisition date which generally ranges from 39 to 50 years. Leasehold
improvements are depreciated using the straight-line method over the lesser of
the remaining term of the leased facility or the economic life of the
improvement which ranges from 5 to 10 years.
SOFTWARE DEVELOPMENT COSTS
The Company capitalizes certain costs associated with the acquisition or
development of internal-use software. Once the software is ready for its
intended use, these costs are amortized on a straight-line basis over the
software's estimated useful life of five years.
GOODWILL AND OTHER INTANGIBLE ASSETS
GOODWILL
Goodwill represents the excess of acquisition cost of an acquired company over
the fair value of assets acquired and liabilities assumed. Goodwill is included
in other assets on the Consolidated Balance Sheets. The Company evaluates
goodwill for impairment annually and whenever events and circumstances make it
likely that impairment may have occurred, such as a significant adverse change
in the business climate or a decision to sell or dispose of a reporting unit.
In determining whether impairment has occurred, the Company uses a comparative
market multiples approach.
INTANGIBLE ASSETS
Intangible assets, including purchased credit card relationships, other
customer relationships and other intangible assets are amortized over their
estimated useful lives unless they are deemed to have indefinite useful lives.
Intangible assets are included in other assets on the Consolidated Balance
Sheets. The Company evaluates intangible assets annually for impairment and
whenever events and circumstances make it likely that impairment may have
occurred, such as a significant adverse change in the business climate or a
decision to sell or dispose of a reporting unit. For intangible assets subject
to amortization, impairment is recognized if the carrying amount is not
recoverable and the carrying amount exceeds the fair value of the intangible
asset.
DERIVATIVE FINANCIAL INSTRUMENTS AND HEDGING ACTIVITIES
SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities,"
as amended, establishes accounting and reporting requirements for derivative
financial instruments, including hedging activities. SFAS No. 133 requires that
all derivatives are recognized on balance sheet at fair value as either assets
or liabilities in the Company's Consolidated Balance Sheets. The fair value of
the Company's derivative financial instruments are determined using either
market quotes or valuation models that are based upon the net present value of
estimated future cash flows and incorporate current market data inputs. The
Company reports its derivative assets and liabilities in other assets and other
liabilities, respectively, on a net by
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counterparty basis where management believes the legal right of offset exists under enforceable netting agreements. The accounting for the change in the fair value of a derivative instrument depends on its intended use and the resulting hedge designation, if any.
CASH FLOW HEDGES
For derivative financial instruments that qualify as cash flow hedges, the
effective portions of the gain or loss on the derivatives are recorded in
accumulated other comprehensive income (loss) and reclassified into earnings
when the hedged item or transactions impact earnings. The amount that is
reclassified into earnings is presented in the income statement with the hedged
instrument or transaction impact, generally, in net investment income or
interest expense. Any ineffective portion of the gain or loss is reported as a
component of other revenue. If a hedge is de-designated or terminated prior to
maturity, the amount previously recorded in accumulated other comprehensive
income (loss) is recognized into earnings over the period that the hedged item
impacts earnings. For any hedge relationships that are discontinued because the
forecasted transaction is not expected to occur according to the original
strategy, any related amounts previously recorded in accumulated other
comprehensive income (loss) are recognized into earnings immediately.
FAIR VALUE HEDGES
For derivative financial instruments that qualify as fair value hedges, changes
in the fair value of the derivatives as well as of the corresponding hedged
assets, liabilities or firm commitments are recorded in earnings as a component
of other revenue. If a fair value hedge is de-designated or terminated prior to
maturity, previous adjustments to the carrying value of the hedged item are
recognized into earnings to match the earnings pattern of the hedged item.
NET INVESTMENT HEDGES IN FOREIGN OPERATIONS
For derivative financial instruments that qualify as net investment hedges in
foreign operations, the effective portions of the change in fair value of the
derivatives are recorded in accumulated other comprehensive income (loss) as
part of the cumulative translation adjustment. Any ineffective portions of net
investment hedges are recognized in other revenue during the period of change.
NON-DESIGNATED DERIVATIVES AND TRADING ACTIVITIES
For derivative financial instruments that do not qualify for hedge accounting,
are not designated under SFAS No. 133 as hedges or are comprised of customer or
proprietary trading activities, changes in fair value are reported in current
period earnings generally as a component of other revenue.
Derivative financial instruments that are entered into for hedging purposes are designated as such at the time that the Company enters into the contract. As required by SFAS No. 133, for all derivative financial instruments that are designated for hedging activities, the Company formally documents all of the hedging relationships between the hedge instruments and the hedged items at the inception of the relationships. Management also formally documents its risk management objectives and strategies for entering into the hedge transactions. The Company formally assesses, at inception and on a quarterly basis, whether derivatives designated as hedges are highly effective in offsetting the fair value or cash flows of hedged items. If it is determined that a derivative is not highly effective as a hedge, the Company will discontinue the application of hedge accounting.
INSURANCE AND ANNUITY RESERVES
FIXED ANNUITIES AND VARIABLE ANNUITY GUARANTEES
Liabilities for fixed and variable deferred annuities are equal to accumulation
values, which are the cumulative gross premium payments, credited interest and
fund performance less withdrawals and expense and mortality charges.
In addition, the majority of the variable annuity contracts offered by AEFA contain guaranteed minimum death benefit (GMDB) provisions. When market values of the customers' accounts decline, the death benefit payable on a contract with a GMDB may exceed the contract accumulation value. Other AEFA product offerings include variable annuities with death benefit provisions that gross up the amount payable by a certain percentage of contract earnings (gain gross-up benefits) and/or guaranteed minimum income benefit (GMIB) provisions. Effective January 1, 2004, liabilities for these variable annuity death and GMIB benefits have been established under the American Institute of Certified Public Accountants Statement of Position 03-1, "Accounting and Reporting by Insurance Enterprises for Certain Nontraditional Long-Duration Contracts and for Separate Accounts" (SOP 03-1). Actuarial models to simulate various equity market scenarios are used to project these benefits and contract assessments and include making significant assumptions related to customer asset value growth rates, mortality, persistency and investment margins. These assumptions, as well as their periodic review by management, are consistent
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with those used for DAC purposes. Prior to the adoption of SOP 03-1, amounts paid in excess of contract value were expensed. See Recently Issued Accounting Standards below for further discussion on SOP 03-1. Liabilities for equity indexed deferred annuities issued in 1999 or later are equal to the accumulation of host contract values covering guaranteed benefits and the market value of embedded equity options. Liabilities for equity indexed deferred annuities issued before 1999 are equal to the present value of guaranteed benefits and the intrinsic value of index-based benefits. Liabilities for fixed annuities in a benefit or payout status are based on future estimated payments using established industry mortality tables and interest rates, ranging from 4.6% to 9.5%, depending on year of issue, with an average rate of approximately 6.1%.
LIFE AND HEALTH POLICIES
Liabilities for life insurance claims that have been reported but have not yet
been paid (unpaid claim liabilities) are equal to the death benefits payable
under the policies. For disability income and long-term care claims, unpaid
claim liabilities are equal to benefit amounts due and accrued, including the
expense of reviewing claims and making benefit payment determinations.
Liabilities for claims that have occurred but have not been reported are
estimated based on periodic analysis of the actual lag between when a claim
occurs and when it is reported. Where applicable, amounts recoverable from
other insurers who share in the risk of the products offered (reinsurers) are
separately recorded as receivables.
Liabilities for fixed and variable universal life insurance are equal to accumulation values, which are the cumulative gross premium payments, credited interest and fund performance less withdrawals and expense and mortality charges.
Liabilities for future benefits on term and whole life insurance are based on the net level premium method, using anticipated premium payments, mortality rates, policy persistency and interest rates earned on the assets supporting the liability. Anticipated mortality rates are based on established industry mortality tables, with modifications based on Company experience. Anticipated policy premium payments and persistency rates vary by policy form, issue age and policy duration. Anticipated interest rates range from 4% to 10%, depending on policy form, issue year and policy duration.
Liabilities for future disability income and long-term care policy benefits include both policy reserves and claim reserves. Policy reserves are the amounts needed to meet obligations for future claims and are based on the net level premium method, using anticipated premium payments and morbidity, mortality, policy persistency and discount rates. Anticipated morbidity and mortality rates are based on established industry morbidity and mortality tables. Anticipated policy persistency rates vary by policy form, issue age, policy duration and, for disability income policies, occupation class. Anticipated discount rates for disability income policy reserves are 7.5% at policy issue and grade to 5% over 5 years. Anticipated discount rates for long-term care policy reserves are currently 5.9% grading up to 8.9% over 30 years.
Claim reserves are the amounts needed to meet obligations for continuing claim payments on already incurred claims. Claim reserves are calculated based on claim continuance tables which estimate the likelihood that an individual will continue to be eligible for benefits and anticipated interest rates earned on assets supporting the reserves. Anticipated claim continuance rates are based on established industry tables. Anticipated interest rates for claim reserves for both disability income and long-term care range from 3% to 8%, with an average rate of approximately 5.2%. The Company issues only non-participating life insurance contracts and does not issue short duration life insurance policies.
INCOME TAXES
Deferred taxes are recorded for future tax consequences of events that have
been recognized in the financial statements or tax returns, based upon enacted
tax laws and rates. Deferred tax assets are recognized subject to management's
judgment that realization is more likely than not. The Company and its 80% or
more owned domestic subsidiaries file a consolidated federal income tax return.
RECENTLY ISSUED ACCOUNTING STANDARDS
In December 2004, the FASB issued SFAS No. 123 (revised 2004), "Share-Based
Payment (SFAS No. 123(R))," effective as of the first interim or annual
reporting period that begins after June 15, 2005. SFAS No. 123(R) requires
entities to measure and recognize the cost of employee services received in
exchange for an award of equity instruments based on the grant-date fair value
of the award (with limited exceptions). As noted in the Stock-Based
Compensation section above, the Company adopted, in January 2003, the fair
value recognition provisions of SFAS No. 123 prospectively for all stock
options granted after December 31, 2002. Substantially all stock options for
which intrinsic value accounting was continued under APB Opinion No. 25 will
have vested by June 30, 2005. The Company is currently evaluating the impact of
the
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revised rule on the Company's results of operations and financial position. SFAS No. 123(R) also requires the benefits of tax deductions in excess of recognized compensation cost to be reported as a financing cash flow, rather than as an operating cash flow as required under current literature. This requirement will reduce net operating cash flows and increase net financing cash flows in periods after the effective date.
In December 2004, the FASB issued FASB Staff Position FAS 109-2, "Accounting and Disclosure Guidance for the Foreign Earnings Repatriation Provision within the American Jobs Creation Act of 2004 (the Act)" (FSP FAS 109-2) to allow additional time beyond the financial reporting period of enactment to evaluate the effect of the Act on the Company's plan for reinvestment or repatriation of foreign earnings for purposes of calculating the income tax provision. See Note 17 for further discussion of the Act, including the status of the Company's evaluation of the Act.
In October 2004, the FASB ratified Emerging Issues Task Force (EITF) Issue 04-08, "The Effect of Contingently Convertible Instruments on Diluted Earnings per Share" (EITF 04-08). Certain debt instruments, commonly referred to as "Co-Cos", are contingently convertible into the common share of the issuer after the common share price has exceeded a predetermined threshold for a specified period of time. Under the EITF guidance, Co-Cos must be included in diluted earnings per share calculations regardless of whether or not the contingency threshold has been met.
As of December 31, 2004, the Company has $2 billion principal outstanding of 1.85% Convertible Senior Debentures due 2033 (the Debentures) with a current base conversion price of $69.41 and a contingent conversion threshold of $86.76 per share. Prior to the third quarter of 2004, these Debentures were contingently convertible into cash or common shares of the Company, at the Company's option. During the third quarter of 2004, in response to the issuance of EITF 04-08, the Company notified the trustee and holders of the Debentures that the Company was exercising its election stipulated in the Debentures that, upon conversion of the Debentures at any time after the date of such notice, the Company will be required to deliver cash in an amount at least equal to the accreted principal amount of the Debentures converted. As a result of this election, the Company will also be required to deliver only cash in connection with any principal value conversion pursuant to the trading price condition. The Company may not revoke this election without the consent of holders of at least a majority of the original principal amount of the Debentures. See Note 7 for further information regarding the terms of the Debentures.
As a result of this election, in accordance with EITF 04-08, there will be no impact on the future dilutive earnings per share calculation related to these Debentures unless the Company's common share price exceeds the base conversion price. In that scenario, the Company would reflect the additional common shares in the calculation of diluted earnings per share using the treasury share method. See Note 8 for further information regarding common and preferred shares.
In May 2004, the FASB issued FASB Staff Position FAS 106-2, "Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003" (FSP FAS 106-2). The Company elected to early adopt the provisions of FSP FAS 106-2 on a prospective basis as of April 1, 2004. As the annual measurement date for the postretirement benefit plans is September 30, the Company's postretirement benefit obligation was remeasured as of January 1, 2004 giving effect to the actuarially equivalent subsidy benefits. The expected subsidy had the effect of reducing the Company's accumulated postretirement benefit obligation (APBO) by $29 million, which was recognized as a reduction in the unrecognized net actuarial loss. The unrecognized net gain or loss outside a corridor equal to 10% of the APBO is amortized over the average remaining service life of the Company's employees eligible for postretirement benefits. The expected subsidy also affects the service and interest cost of the plan, and reduced net periodic postretirement benefit expense for the second quarter 2004 by approximately $1 million. The expense amounts shown in Note 16 reflect the effects of the early adoption of FSP FAS 106-2.
Effective January 1, 2004, the Company adopted SOP 03-1. SOP 03-1 provides guidance on: (i) the classification and valuation of long-duration contract liabilities; (ii) the accounting for sales inducements; and (iii) separate account presentation and valuation. The adoption of SOP 03-1 as of January 1, 2004 resulted in a cumulative effect of accounting change that reduced first quarter 2004 results by $71 million ($109 million pretax). The cumulative effect of accounting change consisted of: (i) $43 million pretax from establishing additional liabilities for certain variable annuity guaranteed benefits ($33 million) and from considering these liabilities in valuing DAC and deferred sales inducement costs associated with those contracts ($10 million) and (ii) $66 million pretax from establishing additional liabilities for certain
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variable universal life and single pay universal life insurance contracts under which contractual cost of insurance charges are expected to be less than future death benefits ($92 million) and from considering these liabilities in valuing DAC associated with those contracts ($26 million offset). Prior to the adoption of SOP 03-1, amounts paid in excess of contract value were expensed when payable. Amounts expensed in 2004 to establish and maintain additional liabilities for certain variable annuity guaranteed benefits amounted to $53 million (of which $33 million was part of the adoption charges discussed earlier) as compared to amounts expensed in 2003 and 2002 of $32 million and $37 million, respectively. The Company's accounting for separate accounts was already consistent with the provisions of SOP 03-1 and, therefore, there was no impact related to this requirement. See Note 11 for further discussion regarding SOP 03-1.
In December 2003, the FASB issued SFAS No. 132 (Revised 2003), "Employers' Disclosures about Pensions and Other Postretirement Benefits." This Statement amends the disclosure requirements of SFAS No. 87, "Employers' Accounting for Pensions," No. 88, "Employers' Accounting for Settlements and Curtailments of Defined Benefit Pension Plans and for Termination Benefits," and No. 106, "Employers' Accounting for Postretirement Benefits Other Than Pensions." The Statement does not change the recognition and measurement requirements of those Statements. See Note 16 for disclosures regarding the Company's Retirement Plans.
In November 2003, the FASB ratified a consensus on the disclosure provisions of EITF 03-1, "The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments" (EITF 03-1). The Company complied with the disclosure provisions of this rule in its Annual Report on Form 10-K for the year ended December 31, 2003. In March 2004, the FASB reached a consensus regarding the application of a three-step impairment model to determine whether investments accounted for in accordance with SFAS No. 115, "Accounting for Certain Investments in Debt and Equity Securities," and other cost method investments are other-than-temporarily impaired. However, with the issuance of FSP EITF 03-1-1, "Effective Date of Paragraphs 10-20 of EITF 03-1," on September 30, 2004, the provisions of the consensus relating to the measurement and recognition of other-than-temporary impairments will be deferred pending further clarification from the FASB. The remaining provisions of this rule, which primarily relate to disclosure requirements, are required to be applied prospectively to all current and future investments accounted for in accordance with SFAS No. 115 and other cost method investments. The Company will evaluate the potential impact of EITF 03-1 after the FASB completes its reassessment.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on Derivative Instruments and Hedging Activities." The Statement amends and clarifies accounting for derivative instruments embedded in other contracts and for hedging activities under SFAS No. 133. The adoption of this Statement did not have a material impact on the Company's financial statements.
In January 2003, the FASB issued FIN 46 which addresses consolidation by business enterprises of variable interest entities and was subsequently revised in December 2003. The variable interest entities primarily impacted by FIN 46, which the Company consolidated as of December 31, 2003, relate to structured investments, including a CDO and three secured loan trusts (SLTs), which were both managed and partially owned by AEFA. The consolidation of FIN 46-related entities resulted in a cumulative effect of accounting change that reduced 2003 net income through a non-cash charge of $13 million ($20 million pretax). The net charge was comprised of a $57 million ($88 million pretax) non-cash charge related to the consolidated CDO offset by a $44 million ($68 million pretax) non-cash gain related to the consolidated SLTs. See Note 5 for further discussion of variable interest entities.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities." The Statement is effective for exit or disposal activities initiated after December 31, 2002. The Company has complied with the Statement's requirements for applicable transactions.
Note 2 INVESTMENTS
The following is a summary of investments at December 31:
(Millions) 2004 2003 -------------------------------------------------------------------------------- Available-for-Sale, at fair value $56,188 $51,848 Investment loans(a) (fair value: 2004, $3,776; 2003, $4,116) 3,523 3,794 Trading, at fair value 1,098 995 -------------------------------------------------------------------------------- Total $60,809 $56,637 ================================================================================ |
(a) The carrying value of these assets is at amortized cost, net of reserves, which totaled $56 million and $60 million as of December 31, 2004 and 2003, respectively.
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Available-for-Sale Investments
Investments classified as Available-for-Sale at December 31 are distributed by
type as presented below:
2004 2003
---------------------------------------------------------------------------------------------------------------------------
Gross Gross Gross Gross
Unrealized Unrealized Fair Unrealized Unrealized Fair
(Millions) Cost Gains Losses Value Cost Gains Losses Value
---------------------------------------------------------------------------------------------------------------------------
Corporate debt securities $ 23,072 $ 865 $ (81) $ 23,856 $ 20,666 $ 909 $ (111) $ 21,464
Mortgage and other
asset-backed securities 16,906 216 (71) 17,051 16,674 279 (84) 16,869
State and municipal
obligations 7,535 423 (8) 7,950 7,138 479 (5) 7,612
U.S. Government and
agencies obligations 4,509 16 (51) 4,474 1,150 17 -- 1,167
Foreign government
bonds and obligations 845 32 (8) 869 856 34 (2) 888
Structured investments(a) 774 -- (41) 733 826 4 (60) 770
Retained interests in
lending securitizations 107 1 -- 108 1,782 20 -- 1,802
Other 1,130 17 -- 1,147 1,264 21 (9) 1,276
---------------------------------------------------------------------------------------------------------------------------
Total $ 54,878 $ 1,570 $ (260) $ 56,188 $ 50,356 $ 1,763 $ (271) $ 51,848
===========================================================================================================================
|
(a) Includes unconsolidated CDOs at December 31, 2004 and unconsolidated CDOs and an SLT at December 31, 2003.
The following table provides information about Available-for-Sale investments with gross unrealized losses and the length of time that individual securities have been in a continuous unrealized loss position as of December 31, 2004:
(Millions) Less than 12 months 12 months or more Total
-----------------------------------------------------------------------------------------------------------------------
Gross Gross Gross
Fair Unrealized Fair Unrealized Fair Unrealized
Description of Securities Value Losses Value Losses Value Losses
-----------------------------------------------------------------------------------------------------------------------
Corporate debt securities $ 4,779 $ (47) $ 1,304 $ (34) $ 6,083 $ (81)
Mortgage and other asset-
backed securities 5,522 (40) 1,131 (31) 6,653 (71)
State and municipal obligations 386 (5) 95 (3) 481 (8)
U.S. Government and
agencies obligations 4,221 (51) 5 -- 4,226 (51)
Foreign government bonds
and obligations 144 (7) 9 (1) 153 (8)
Structured investments -- -- 705 (41) 705 (41)
Other 7 -- -- -- 7 --
-----------------------------------------------------------------------------------------------------------------------
Total $ 15,059 $ (150) $ 3,249 $ (110) $ 18,308 $ (260)
=======================================================================================================================
|
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In evaluating potential other-than-temporary impairments, the Company considers the extent to which amortized cost exceeds fair value and the duration and size of that difference. A key metric in performing this evaluation is the ratio of fair value to amortized cost. The following table summarizes the unrealized losses by ratio of fair value to cost as of December 31, 2004:
(Millions, except
number of securities) Less than 12 months 12 months or more Total
------------------------------------------------------------------------------------------------------------------------------------
Gross Gross Gross
Ratio of Fair Value to Number of Fair Unrealized Number of Fair Unrealized Number of Fair Unrealized
Amortized Cost Securities Value Losses Securities Value Losses Securities Value Losses
------------------------------------------------------------------------------------------------------------------------------------
95%-100% 815 $ 14,987 $ (143) 184 $ 2,484 $ (61) 999 $ 17,471 $ (204)
90%-95% 21 49 (5) 22 737 (44) 43 786 (49)
80%-90% 15 22 (2) 7 28 (5) 22 50 (7)
Less than 80% 2 1 -- 1 -- -- 3 1 --
------------------------------------------------------------------------------------------------------------------------------------
Total 853 $ 15,059 $ (150) 214 $ 3,249 $ (110) 1,067 $ 18,308 $ (260)
====================================================================================================================================
|
Substantially all of the gross unrealized losses on the securities are attributable to changes in interest rates. Credit spreads and specific credit events associated with individual issuers can also cause unrealized losses although these impacts are not significant as of December 31, 2004. As noted in the table above, a significant portion of the unrealized loss relates to securities that have a fair value to cost ratio of 95% or above resulting in an overall 99% ratio of fair value to cost for all securities with an unrealized loss. The holding with the largest unrealized loss relates to the retained interest in a CDO securitization trust which has $41 million of the $44 million in unrealized losses for securities with an unrealized loss for twelve months or more and a fair value to cost ratio in the 90-95% category. With regard to this security, the Company estimates future cash flows through maturity (2014) on a quarterly basis using judgment as to the amount and timing of cash payments and defaults and recovery rates of the underlying investments. These cash flows support full recovery of the Company's carrying value related to the retained interest in the CDO securitization trust as of December 31, 2004. The $5 million in unrealized losses for securities with an unrealized loss for twelve months or more and a fair value to cost ratio in the 80-90% category primarily relates to a commercial mortgage-backed security collateralized by a commercial property for which the Company expects that all contractual principal and interest will be received. The unrealized losses in the other categories are not concentrated in any individual industries or with any individual securities.
The Company monitors the investments and metrics discussed above on a quarterly basis to identify and evaluate investments that have indications of possible other-than-temporary impairment. See the Investments section of Note 1 for information regarding the Company's policy for determining when an investment's decline in value is other-than-temporary. As stated earlier, substantially all of the gross unrealized losses on its Available-for-Sale securities are attributable to changes in interest rates. Additionally, the Company has the ability and intent to hold these securities for a time sufficient to recover its amortized cost and has, therefore, concluded that none are other-than-temporarily impaired at December 31, 2004.
The change in net unrealized securities gains (losses) in other comprehensive income includes three components: (i) unrealized gains (losses) that arose from changes in market value of securities that were held during the period (holding gains (losses)); (ii) gains (losses) that were previously unrealized, but have been recognized in current period net income due to sales and other-than-temporary impairments of Available-for-Sale securities (reclassification for realized (gains) losses); and (iii) other items primarily consisting of adjustments in asset and liability balances, such as DAC, to reflect the expected impact on their carrying values had the unrealized gain/loss been realized immediately. The following table presents these components of other comprehensive income (loss) net of tax for the years ended December 31:
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(Millions, net of tax) 2004 2003 2002 -------------------------------------------------------------------------------- Holding (losses) gains $ (83) $(157) $ 783 Reclassification for realized (gains) losses (35) (31) 1 Other (53) 15 (14) -------------------------------------------------------------------------------- Net unrealized securities (losses) gains in other comprehensive income $(171) $(173) $ 770 ================================================================================ |
The following is a distribution of investments classified as Available-for-Sale by maturity as of December 31, 2004:
Fair
(Millions) Cost Value
--------------------------------------------------------------------------------
Due within 1 year $ 2,809 $ 2,823
Due after 1 year through 5 years 11,687 11,897
Due after 5 years through
10 years 14,323 14,876
Due after 10 years 8,161 8,582
--------------------------------------------------------------------------------
36,980 38,178
Mortgage and other asset-
backed securities 16,906 17,051
Structured investments 774 733
Equity securities 111 118
Retained interests in lending
securitizations 107 108
--------------------------------------------------------------------------------
Total $54,878 $56,188
================================================================================
|
The expected payments on mortgage and other asset-backed securities, structured investments, and retained interests in lending securitizations may not coincide with their contractual maturities. As such, these securities, as well as equity securities, were not included in the maturities distribution.
The table below includes purchases, sales and maturities of investments classified as Available-for-Sale for the years ended December 31:
(Billions) 2004 2003 -------------------------------------------------------------------------------- Purchases $ 17.9 $ 29.6 Sales $ 6.9 $ 14.7 Maturities $ 6.5 $ 11.2 ================================================================================ |
Included in net investment income are gross realized gains and losses on sales of securities, as well as other-than-temporary losses on investments classified as Available-for-Sale, as noted in the following table for the years ended December 31:
(Millions) 2004 2003 2002
--------------------------------------------------------------------------------
Gross investment gains
from sales and
prepayments:
Travel Related Services $ 17 $ 26 $ 19
American Express
Financial Advisors 68 323 342
American Express Bank 3 10 11
Corporate and Other -- -- 1
--------------------------------------------------------------------------------
Total $ 88 $ 359 $ 373
================================================================================
Gross investment losses
from sales and
prepayments:
Travel Related Services $ -- $ (2) $ (1)
American Express
Financial Advisors (22) (146) (168)
American Express Bank -- -- (2)
--------------------------------------------------------------------------------
Total $ (22) $(148) $(171)
================================================================================
Other-than-temporary
impairments:
Travel Related Services $ (7) $ -- $ --
American Express
Financial Advisors (2) (163) (204)
American Express Bank (1) -- --
Corporate and Other (2) -- --
--------------------------------------------------------------------------------
Total $ (12) $(163) $(204)
================================================================================
|
As of December 31, 2004, the Company's structured investments, which are classified as Available-for-Sale, represent interests in CDOs. CDOs are investments backed by high-yield bonds or loans and are not readily marketable. The Company invested in CDOs as a condition to managing certain CDOs and as part of its overall investment strategy in order to offer competitive rates to insurance, annuity and certificate contractholders.
During 2001, the Company placed a majority of its rated CDO securities and related accrued interest, as well as a relatively minor amount of other liquid securities (collectively referred to as transferred assets) having an aggregate book value of $905 million, into a securitization trust. In return, the Company received $120 million in cash (excluding transaction expenses) relating to sales to unaffiliated investors and retained interests with allocated book amounts aggregating $785 million. As of December 31, 2004, the retained interests had a carrying value of $705 million, of which $523 million is considered investment grade and are accounted for in accordance with EITF Issue 99-20, "Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interests in Securitized Financial Assets." One of the results of this transaction is that increases and decreases in future cash flows of the individual CDOs
AXP
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are combined into one overall cash flow for purposes of determining the carrying value of the retained interests and related impact on results of operations.
The 2003 adoption of FIN 46 required the consolidation of a CDO which contains debt issued to investors that is non-recourse to the Company and solely supported by a portfolio of high-yield bonds and loans. AEFA manages the portfolio of high-yield bonds and loans for the benefit of CDO debt held by investors and retains an interest in the residual and rated debt tranches of the CDO structure. This CDO included below investment grade corporate debt securities with a fair value of $249 million and $244 million at December 31, 2004 and 2003, respectively, which are included in corporate debt securities within the Available-for-Sale category discussed above. However, these assets are not available for the general use of the Company as they are for the benefit of CDO debt holders. Further discussion of this CDO is provided in Note 5.
INVESTMENT LOANS
Investment loans are primarily comprised of commercial and mortgage loans and
are classified within Investments as they support contractholder obligations
within AEFA similar to the Available-for-Sale portfolio at AEFA.
TRADING
Trading investments are primarily comprised of seed money investments in mutual
funds and hedge funds managed at AEFA, as well as other hedge funds managed by
third parties. There were $62 million, $80 million and $12 million of net gains
for 2004, 2003 and 2002, respectively, related to trading securities held at
each balance sheet date.
Note 3 LOANS
Loans at December 31 consisted of:
(Millions) 2004 2003
--------------------------------------------------------------------------------
Cardmember lending $26,905 $25,834
--------------------------------------------------------------------------------
International banking:
Consumer and private banking 4,825 4,448
Banks and other institutions 1,984 1,863
Corporate:
Commercial and industrial 57 108
Mortgage and real estate 19 65
--------------------------------------------------------------------------------
Total international banking 6,885 6,484
--------------------------------------------------------------------------------
Other 2,152 1,103
--------------------------------------------------------------------------------
Total loans - gross 35,942 33,421
Less: Loan loss reserves 1,084 1,121
--------------------------------------------------------------------------------
Total $34,858 $32,300
================================================================================
|
Note: AEFA's investment loans of $3.5 billion and $3.8 billion at December 31, 2004 and 2003, respectively, are included in Investments and are presented in Note 2.
The following table presents changes in loan loss reserves:
(Millions) 2004 2003 -------------------------------------------------------------------------------- Balance, January 1 $ 1,121 $ 1,226 Provision(a) 1,188 1,336 Write-offs(b) (1,319) (1,502) Recoveries and other(c) 94 61 -------------------------------------------------------------------------------- Balance, December 31 $ 1,084 $ 1,121 ================================================================================ |
(a) Provision for the years ended December 31, 2004 and 2003 includes $1,130 million and $1,218 million, respectively, related to cardmember lending and $58 million and $118 million, respectively, related to international banking and other.
(b) Write-offs for the years ended December 31, 2004 and 2003 include $1,205 million and $1,323 million, respectively, related to cardmember lending and $114 million and $179 million, respectively, related to international banking and other.
(c) Recoveries and other for the years ended December 31, 2004 and 2003 include $49 million and $73 million, respectively, related to cardmember lending and $45 million and ($12 million), respectively, related to international banking and other.
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Note 4 SECURITIZED LOANS
The Company periodically securitizes pools of its cardmember loans through the
American Express Credit Account Master Trust (the Lending Trust), which in turn
sells securities collateralized by the transferred cardmember loans to
third-party investors. Such securities represent undivided interests in the
transferred cardmember loans. The Company is required to maintain an undivided
interest in the transferred cardmember loans, which is referred to as seller's
interest and is reported as loans on the Company's Consolidated Balance Sheets.
Any billed finance charges related to the transferred cardmember loans are
reported as other receivables on the Company's Consolidated Balance Sheets. The
Company retains servicing responsibilities for the transferred assets and earns
a related fee. Pursuant to SFAS No. 140, no servicing asset or liability is
recognized at the time of a securitization, as management believes that the
Company receives adequate compensation relative to current market servicing
fees. As of December 31, 2004 and 2003, the Lending Trust held total assets of
$24.7 billion and $26.8 billion, respectively, of which $20.3 billion and $19.4
billion had been sold.
The Company also retains subordinated interests in the securitized cardmember loans. Such subordinated retained interests include one or more investments in tranches of the securitization and an interest-only strip. The investments in the tranches of the securitization are accounted for at fair value as Available-for-Sale investment securities in accordance with SFAS No. 115 and are reported in investments on the Company's Consolidated Balance Sheets. As of December 31, 2004 and 2003, the ending fair value of these subordinated retained interests was $0.1 billion and $1.8 billion, respectively, reflecting the sale of $1.4 billion of subordinated retained interests to third parties during 2004. The interest-only strip is also accounted for at fair value consistent with a SFAS No. 115 Available-for-Sale investment but is reported in other assets on the Company's Consolidated Balance Sheets. The fair value of the interest-only strip is the present value of estimated future excess spread expected to be generated by the securitized loans over the estimated life of those loans. Excess spread, which is the net positive cash flow from interest and fee collections allocated to the investors' interests after deducting the interest paid on investor certificates, credit losses, contractual servicing fees and other expenses, is recognized in securitization income as it is earned. As of December 31, 2004 and 2003, the fair value of the interest-only strip was $207 million and $225 million, respectively.
At the time of a cardmember loan securitization, the Company typically records a gain on sale, which is calculated as the difference between the proceeds from the sale and the book basis of the cardmember loans sold. That book basis on sold cardmember loans is determined by allocating the carrying amount of the cardmember loans, net of applicable credit reserves, between the cardmember loans sold and the interests retained based on their relative fair values. Such fair values are based on market prices at date of transfer for the sold cardmember loans and on the estimated present value of future cash flows for retained interests. Gains on sale from securitizations are reported in securitization income on the Company's Consolidated Statements of Income, except for the component resulting from the release of credit reserves upon sale, which is reported as a reduction of provision for losses from cardmember lending. Securitization transaction costs are offset against the gains on sales at the time of the transaction.
During 2004, 2003 and 2002, the Company sold $3.9 billion, $3.5 billion and $4.6 billion, respectively, of cardmember loans, or $3.9 billion, $3.1 billion and $4.2 billion, respectively, net of the Company's investments in subordinated retained interests. Additionally, during 2004, 2003 and 2002, $3.0 billion, $1.0 billion and $2.0 billion, respectively, of securities issued to investors from the Lending Trust matured. The pretax net gains on sale from securitizations, including the sale of subordinated retained interests, net of the impact of maturities, the effect of changes in interest-only strip valuation factors and a reconciliation adjustment charge were $26 million, $124 million and $136 million, respectively, for 2004, 2003 and 2002.
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Management utilizes certain estimates and assumptions to determine the fair value of the subordinated retained interests, including the interest-only strip. These estimates and assumptions are generally based on projections of finance charges and fees paid related to the securitized assets, net credit losses, average loan life, the contractual fee to service the transferred assets and a discount rate commensurate with the retained interest. Changes in the estimates and assumptions used may have a significant impact in the Company's fair valuation. The key economic assumptions used in measuring the subordinated retained interests at the time of issuance and during 2004 and 2003 were as follows (rates are per annum):
2004 2003
--------------------------------------------------------------------------------
Weighted average loan
life (months) 4 5
--------------------------------------------------------------------------------
Expected credit losses 3.98% - 4.67% 4.60% - 5.52%
--------------------------------------------------------------------------------
Residual cash flows
discounted at 8.3% - 12.0% 8.3% - 12.0%
--------------------------------------------------------------------------------
Returns to investors
Variable Contractual Contractual
spread spread
over LIBOR over LIBOR
ranging from ranging from
.04% to .90% .04% to 1.15%
Fixed 1.7% - 7.4% 1.7% - 7.4%
================================================================================
|
The following table presents quantitative information about delinquencies, net credit losses and components of securitized cardmember loans on a trust basis at December 31:
Principal
Amount of Net
Total Loans 30 Credit
Principal Days or Losses
Amount More Past During
(Billions) of Loans Due the Year
--------------------------------------------------------------------------------
2004
Cardmember loans managed $ 47.2 $ 1.2 $ 2.0
Less: Securitized
cardmember loans sold 20.3 0.6 1.0
--------------------------------------------------------------------------------
Cardmember loans on
balance sheet $ 26.9 $ 0.6 $ 1.0
================================================================================
2003
Cardmember loans managed $ 45.3 $ 1.3 $ 2.2
Less: Securitized
cardmember loans sold(a) 19.5 0.6 1.0
--------------------------------------------------------------------------------
Cardmember loans on
balance sheet $ 25.8 $ 0.7 $ 1.2
================================================================================
|
(a) Includes securitized equipment lease receivables of $0.1 billion at December 31, 2003.
The key economic assumptions and the sensitivity of the current year's fair value of the interest-only strip to immediate 10 percent and 20 percent adverse changes in assumed economics are as follows:
Cash Flows from
Expected Interest-only
Monthly Credit Strips
(Millions, except rates per annum) Payment Rate Losses Discounted at
--------------------------------------------------------------------------------
Assumption 24.3% 4.0% 12%
--------------------------------------------------------------------------------
Impact on fair value of
10% adverse change $14 $21 $ 0.5
--------------------------------------------------------------------------------
Impact on fair value of
20% adverse change $27 $41 $ 1.0
================================================================================
|
These sensitivities are hypothetical and will be different from what actually occurs in the future. Any change in fair value based on a 10 percent variation in assumptions cannot be extrapolated in part because the relationship of the change in an assumption on the fair value of the retained interest is calculated independent from any change in another assumption; in reality, changes in one factor may result in changes in another, which magnify or offset the sensitivities.
The table below summarizes cash flows received from all securitization trusts for 2004 and 2003:
(Millions) 2004 2003 -------------------------------------------------------------------------------- Proceeds from new securitizations during the period $ 3,888 $ 3,442 Proceeds from collections reinvested in revolving cardmember securitizations $54,933 $45,907 Servicing fees received $ 388 $ 378 Other cash flows received on retained interests(a) $ 1,845 $ 1,713 ================================================================================ |
(a) Represents cash flows from interest-only strips.
During the fourth quarter of 2004, the Company sold the equipment leasing product line in its small business financing unit. Prior to the sale, the Company securitized certain of the equipment lease receivables within that product line. At December 31, 2003, the amounts sold and outstanding to third-party investors was $138 million.
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Note 5 VARIABLE INTEREST ENTITIES
The variable interest entities for which the Company is considered the primary
beneficiary and which were consolidated beginning December 31, 2003, primarily
relate to structured investments, including a collateralized debt obligation
(CDO) and three secured loan trusts (SLTs), which are both managed and
partially-owned by AEFA. The CDO consolidated as a result of FIN 46 contains
debt issued to investors that is non-recourse to the Company and solely
supported by a portfolio of high-yield bonds and loans. AEFA manages the
portfolio of high-yield bonds and loans for the benefit of CDO debt held by
investors and retains an interest in the residual and rated debt tranches of
the CDO structure. The SLTs consolidated as a result of FIN 46 provide returns
to investors primarily based on the performance of an underlying portfolio of
high-yield loans which are managed by AEFA. One of the SLTs originally
consolidated was liquidated in 2004 and the remaining two SLTs are in the
process of being liquidated as of December 31, 2004.
Ongoing valuation adjustments specifically related to the application of FIN 46 to the CDO are non-cash items and will be reflected in the Company's results until its maturity. These ongoing valuation adjustments are dependent upon market factors during such time and result in periodic gains or losses. The Company expects, in the aggregate, such gains or losses related to the CDO, including the December 31, 2003 FIN 46 implementation non-cash charge of $57 million ($88 million pretax), to reverse themselves over time as the structure matures, because the debt issued to the investors in the consolidated CDO is non-recourse to the Company and further reductions in the value of the related assets will be absorbed by the third-party investors.
The 2004 results of operations (reported in net investment income) include a $24 million pretax, non-cash charge related to the complete liquidation of one SLT, and a $4 million pretax, non-cash charge related to the expected impact of liquidating the two remaining SLTs. However, further adjustments to that amount could occur based on market movements and execution of the liquidation process. To the extent further adjustments are included in the liquidation of the remaining SLT portfolios, the Company's maximum cumulative exposure to losses was $462 million at December 31, 2004.
The following table presents the consolidated assets, essentially all of which are restricted, and other balances related to these entities at December 31:
(Millions) 2004 2003
--------------------------------------------------------------------------------
Restricted cash $ 543 $ 844
Below investment grade
securities(a) 249 244
Derivative financial
instruments(b) 43 64
Loans and other assets 10 15
--------------------------------------------------------------------------------
Total assets $ 845 $1,167
--------------------------------------------------------------------------------
Debt $ 317 $ 325
Deferred tax liability 8 5
Other liabilities 119 175
--------------------------------------------------------------------------------
Total liabilities $ 444 $ 505
--------------------------------------------------------------------------------
Net unrealized after-tax
appreciation on
securities classified as
Available-for-Sale $ 14 $ 9
================================================================================
|
(a) Securities are classified as Available-for-Sale and include $22 million and $14 million of unrealized appreciation as of December 31, 2004 and 2003, respectively.
(b) Represents the estimated fair market value of the total return swap derivatives related to the consolidated SLTs which have a notional amount of $1.8 billion and $3.2 billion as of December 31, 2004 and 2003, respectively.
The Company has other significant variable interests for which it is not considered the primary beneficiary and, therefore, does not consolidate. These interests are represented by carrying values of $27 million of CDO residual tranches managed by the Company and $375 million of affordable housing partnerships as the Company is not the primary beneficiary. For the CDOs managed by the Company, the Company has evaluated its variability in losses and returns considering its investment levels, which are less than 50% of the residual tranches, and the fee received from managing the structures and has determined that consolidation is not required. The Company manages approximately $4.3 billion of underlying collateral within the CDO structures it manages. The Company is a limited partner in affordable housing partnerships in which the Company has a less than 50% interest and receives the benefits and accepts the risks consistent with other limited partners. In the limited cases in which the Company has a greater than 50% interest in affordable housing partnerships, it was determined that the relationship with the general partner is an agent relationship and the general partner was most closely related to the partnership as it is the key decision maker and controls the operations. The Company's maximum exposure to loss as a result of its investment in these entities is
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represented by the carrying values. FIN 46 does not impact the accounting for QSPEs as defined by SFAS No. 140, such as the Company's cardmember lending securitizations, as well as the CDO-related securitization trust established in 2001.
Note 6 GOODWILL AND OTHER INTANGIBLE ASSETS
The changes in the carrying amount of goodwill reported in the Company's
operating segments were as follows:
American
Travel Express American
Related Financial Express
(Millions) Services Advisors Bank Total
--------------------------------------------------------------------------------
Balance at January 1, 2003 $ 1,105 $ 223 $ 26 $ 1,354
Acquisitions 395 351 -- 746
Foreign currency translation 31 -- -- 31
--------------------------------------------------------------------------------
Balance at December 31, 2003 1,531 574 26 2,131
Acquisitions 11 9 -- 20
Dispositions(a) (26) -- -- (26)
Foreign currency translation 17 50 -- 67
--------------------------------------------------------------------------------
Balance at December 31, 2004 $ 1,533 $ 633 $ 26 $ 2,192
================================================================================
|
(a) Reflects the sale of the equipment leasing product line of American Express Business Finance Corporation.
Definite lived intangible assets as of December 31 consisted of:
2004 2003
-------------------------------------------------------------------------------------------------------------
Gross Net Gross Net
carrying Accumulated carrying carrying Accumulated carrying
(Millions) amount amortization amount amount amortization amount
-------------------------------------------------------------------------------------------------------------
Customer Relationships $ 263 $ 107 $ 156 $ 241 $ 48 $ 193
Contracts 307 95 212 338 82 256
Other 79 21 58 88 15 73
-------------------------------------------------------------------------------------------------------------
Total $ 649 $ 223 $ 426 $ 667 $ 145 $ 522
=============================================================================================================
|
The aggregate amortization expense for these intangible assets during 2004, 2003 and 2002 was $78 million, $56 million and $42 million, respectively. These assets have a weighted average remaining useful life of ten years. Estimated amortization expense associated with intangible assets for the five years ending December 31, 2009 is as follows (millions): 2005, $76; 2006, $70; 2007, $40; 2008, $36 and 2009, $31. During 2003, the Company acquired $312 million of intangible assets primarily related to AEFA's acquisition of Threadneedle Asset Management Holdings LTD and TRS' acquisition of Rosenbluth International. The decline in contracts during 2004 reflects a reduction of $39 million recognized in conjunction with the sale of the ATM business. Additionally, during 2004 the Company recognized $28 million of intangible asset impairments primarily related to prior portfolio acquisitions.
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Note 7 SHORT- AND LONG-TERM DEBT AND BORROWING AGREEMENTS
SHORT-TERM DEBT
The Company's short-term debt outstanding, defined as debt with original
maturities of less than one year, primarily consists of commercial paper,
borrowed funds and bank notes payable. Short-term debt at December 31 is as
follows:
(Dollars in millions) 2004
------------------------------------------------------------------------------------
Year-End
Year-End Effective
Notional Stated Interest
Outstanding Amount Rate on Rate with Maturity
Balance of Swaps Debt(a) Swaps(a) of Swaps
------------------------------------------------------------------------------------
Commercial paper $ 7,604 $ 363 2.17% 2.16% Various
Borrowed funds 3,207 -- 2.65% -- --
Bank notes payable 3,111 2,800 2.67% 3.49% 2005
Other 260 -- 1.60% -- --
------------------------------------------------------------------------------------
Total $14,182 $3,163 2.38%
====================================================================================
(Dollars in millions) 2003
------------------------------------------------------------------------------------
Year-End
Year-End Effective
Notional Stated Interest
Outstanding Amount Rate on Rate with Maturity
Balance of Swaps Debt(a) Swaps(a) of Swaps
------------------------------------------------------------------------------------
Commercial paper $10,339 $4,093 1.03% 2.05% Various
Borrowed funds 5,164 1,500 1.45% 2.69% 2004
Bank notes payable 3,430 -- 1.67% -- --
Other 113 26 0.65% 1.77% Various
------------------------------------------------------------------------------------
Total $19,046 $5,619 1.26%
====================================================================================
|
(a) For floating rate debt issuances, the stated and effective interest rates were based on the respective rates at December 31, 2004 and 2003. These rates are not indicative of future interest rates.
Unused lines of credit to support commercial paper borrowings were approximately $9.0 billion and $9.2 billion at December 31, 2004 and 2003, respectively.
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LONG-TERM DEBT
December 31, (Dollars in millions) 2004
------------------------------------------------------------------------------------------------
Year-End
Year-End Effective
Notional Stated Interest
Outstanding Amount Rate on Rate with Maturity
Balance of Swaps Debt(c) Swaps(c) of Swaps
------------------------------------------------------------------------------------------------
American Express Company
(Parent Company only)
Convertible Debentures
due December 1, 2033 $ 2,000 -- 1.85% -- --
Fixed Rate Senior Notes
due 2005 - 2013 3,740 -- 5.07% -- --
American Express Credit
Corporation
Fixed Rate Senior Notes
due 2006 - 2017 999 -- 3.00% -- --
Fixed Rate Medium-Term Notes
due 2005 - 2009 3,251 $ 350 5.22% 4.92% 2005
Floating Rate Medium-Term Notes
due 2005 - 2006(a) 10,681 8,000 2.45% 2.92% Various
Borrowings under Bank Credit
Facilities due 2009 3,683 1,537 4.54% 4.68% Various
American Express Centurion Bank
Fixed Rate Senior Notes due 2009 508 500 4.31% 4.31% 2009
Floating Rate Senior Notes
due 2005 331 -- 1.60% -- --
Floating Rate Medium-Term Notes
due 2005 - 2009 3,550 700 1.83% 1.91% Various
Subordinated Fixed Rate Notes
due 2004 -- -- -- -- --
Subordinated Floating Rate Notes
due 2005 27 -- 1.98% -- --
American Express Bank, FSB
Floating Rate Medium-Term Notes
due 2005 - 2007 1,602 -- 1.59% -- --
American Express Receivables
Finance Corporation
Fixed Rate Senior Notes due 2004 -- -- -- -- --
Floating Rate Senior Notes
due 2005 1,417 -- 1.60% -- --
Subordinated Fixed Rate Notes
due 2004 -- -- -- -- --
Subordinated Floating Rate Notes
due 2005 115 -- 1.98% -- --
Other
Fixed Rate Notes
due 2005 - 2014(b)(d) 810 -- 4.73% -- --
Floating Rate Notes
due 2006 - 2007(b) 347 106 4.90% 5.05% Various
------------------------------------------------------------------------------------------------
Total $ 33,061 $ 11,193 3.19%
================================================================================================
December 31, (Dollars in millions) 2003
------------------------------------------------------------------------------------------------
Year-End
Year-End Effective
Notional Stated Interest
Outstanding Amount Rate on Rate with Maturity
Balance of Swaps Debt(c) Swaps(c) of Swaps
------------------------------------------------------------------------------------------------
American Express Company
(Parent Company only)
Convertible Debentures
due December 1, 2033 $ 2,000 -- 1.85% -- --
Fixed Rate Senior Notes
due 2005 - 2013 3,739 -- 5.34% -- --
American Express Credit
Corporation
Fixed Rate Senior Notes
due 2006 - 2017 999 -- 3.00% -- --
Fixed Rate Medium-Term Notes
due 2005 - 2009 626 $ 350 3.56% 1.25% 2005
Floating Rate Medium-Term Notes
due 2005 - 2006(a) 8,931 1,300 1.22% 1.55% Various
Borrowings under Bank Credit
Facilities due 2009 -- -- -- -- --
American Express Centurion Bank
Fixed Rate Senior Notes due 2009 51 49 7.55% 1.99% 2004
Floating Rate Senior Notes
due 2005 407 -- 1.45% -- --
Floating Rate Medium-Term Notes
due 2005 - 2009 100 -- 1.15% -- --
Subordinated Fixed Rate Notes
due 2004 3 -- 7.95% -- --
Subordinated Floating Rate Notes
due 2005 33 -- 1.71% -- --
American Express Bank, FSB
Floating Rate Medium-Term Notes
due 2005 - 2007 -- -- -- -- --
American Express Receivables
Finance Corporation
Fixed Rate Senior Notes due 2004 261 251 7.55% 1.99% 2004
Floating Rate Senior Notes
due 2005 2,093 -- 1.45% -- --
Subordinated Fixed Rate Notes
due 2004 14 -- 7.95% -- --
Subordinated Floating Rate Notes
due 2005 170 -- 1.71% -- --
Other
Fixed Rate Notes
due 2005 - 2014(b)(d) 757 -- 6.25% -- --
Floating Rate Notes
due 2006 - 2007(b) 470 420 3.57% 4.79% Various
--------------------------------------------------------------------------------------------------
Total $ 20,654 $ 2,370 2.56%
==================================================================================================
|
(a) These balances include $2 billion and $1 billion notes which are subject to extension by the holders through March 5, 2008 and June 20, 2008, respectively.
(b) As a result of the December 31, 2003 adoption of FIN 46, these balances include a combined $317 million and $325 million, respectively, at December 31, 2004 and 2003 of debt related to a consolidated CDO. This debt is non-recourse to the Company and will be extinguished from the cash flows of the investments held within the portfolio of the CDO.
(c) For floating rate debt issuances, the stated and effective interest rates were based on the respective rate at December 31, 2004 and 2003. These rates are not indicative of future interest rates.
(d) These balances include $113 million related to two sale-leaseback transactions as described in Note 10.
AXP
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As of December 31, 2004, the Company had $2 billion principal outstanding of 1.85% Convertible Senior Debentures due 2033 (the Debentures), which are unsecured and unsubordinated obligations of the Company. The Debentures may be put to the Company at accreted principal amount on December 1, 2006, 2008, 2013, 2018, 2023 or 2028 if the Company's common stock is trading (during a specified averaging period) at or above the base conversion price (currently $69.41 per share) but below the contingent conversion threshold (currently $86.76 per share.) If the Company's common stock is trading (during the averaging period) below the base conversion price at any of the foregoing dates, the Debentures will cease to be convertible and interest will be reset periodically at the rate necessary to cause the Debentures to trade at their accreted principal amount. For a description of the conversion terms of the Debentures, see Note 1. See Note 23 for discussion of the impact of the proposed AEFA spin-off on the Debentures.
The Company paid interest (net of amounts capitalized or refunded) of $1.6 billion, $1.7 billion and $1.7 billion in 2004, 2003 and 2002, respectively. Debt issuance costs are deferred and amortized over the term of the related instrument or, if the holder has a put option, over the put term.
Aggregate annual maturities on long-term debt obligations (based on final maturity dates) at December 31, 2004, are as follows:
(Millions) 2005 2006 2007 2008 2009 Thereafter Total -------------------------------------------------------------------------------------------------------------------------------- American Express Company (Parent Company only) $ 499 $ 1,001 $ 747 -- $ 499 $ 2,994 $ 5,740 American Express Credit Corporation 5,734 5,300 1,151 $ 999 5,430 -- 18,614 American Express Centurion Bank 958 500 1,600 -- 1,358 -- 4,416 American Express Bank, FSB 252 850 500 -- -- -- 1,602 American Express Receivables Finance Corporation 1,532 -- -- -- -- -- 1,532 Other 2 145 67 13 500 430 1,157 -------------------------------------------------------------------------------------------------------------------------------- Total $ 8,977 $ 7,796 $ 4,065 $ 1,012 $ 7,787 $ 3,424 $ 33,061 ================================================================================================================================ |
Other financial institutions have committed to extend lines of credit to the Company of $13.8 billion and $11.5 billion at December 31, 2004 and 2003, respectively. Of these amounts, $10.1 billion and $11.5 billion were unutilized as of December 31, 2004 and 2003, respectively.
Note 8 COMMON AND PREFERRED SHARES
The Company has in place a share repurchase program to return equity capital in
excess of its business needs to shareholders. These share repurchases both
offset the issuance of new shares as part of employee compensation plans and
reduce the number of shares outstanding. In November 2002, the Company's Board
of Directors authorized the Company to repurchase up to 120 million additional
common shares from time to time as market conditions allow. At December 31,
2004, the Company has 74.5 million shares remaining under such authorization.
Such authorization does not have an expiration date, and at present, there is no
intention to modify or otherwise rescind such authorization. Since the inception
of repurchase programs in September 1994, the Company has repurchased 495.5
million shares pursuant to total authorizations to repurchase up to 570 million
shares, including purchases under past agreements with third parties.
Of the common shares authorized but unissued at December 31, 2004, 124.7 million shares were reserved for issuance for employee stock, employee benefit and dividend reinvestment plans, as well as convertible securities.
In August 1999 and March 2000, the Company entered into agreements under which a financial institution purchased an aggregate 29.5 million of the Company's common shares at an average purchase price of $50.41 per share. These agreements were entered into to partially offset the Company's exposure to the effect on diluted earnings per share of outstanding in-the-money stock options issued under the Company's stock option program. The agreements provided that upon their termination, the Company would be required to deliver an amount equal to the original purchase price for the shares less any prepayments. During 2003 and 2002, the Company elected to prepay $535 million and $600 million, respectively, of the aggregate outstanding
AXP
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amount. The 2003 prepayment amount includes $335 million related to the final payment and termination of the agreements.
The following table provides a reconciliation of common shares outstanding:
(Millions) 2004 2003 2002
--------------------------------------------------------------------------------
Shares outstanding at
beginning of year 1,284 1,305 1,331
Repurchases of
common shares:
Purchases from open
market and Incentive
Savings Plan (69) (21) (16)
Prepayments under
share purchase
agreements -- (15) (17)
Other, primarily
employee benefit plans 34 15 7
--------------------------------------------------------------------------------
Shares outstanding at end
of year 1,249 1,284 1,305
================================================================================
|
The Board of Directors is authorized to permit the Company to issue up to 20 million preferred shares without further shareholder approval.
At December 31, 2004 and 2003, no preferred shares were issued or outstanding.
Note 9 DERIVATIVES AND HEDGING ACTIVITIES
Derivative financial instruments enable the end users to manage exposure to
credit or various market risks. The value of such instruments is derived from
an underlying variable or multiple variables, including commodity, equity,
foreign exchange, and interest rate indices or prices. The Company enters into
various derivative financial instruments as part of its ongoing risk management
activities as well as for customer and limited trading purposes. The following
summarizes the Company's use of derivative financial instruments.
CASH FLOW HEDGES
The Company uses interest rate products, primarily interest rate swaps, to
manage funding costs and interest rate risk related to TRS' charge card
business, as well as AEFA's investment certificate and fixed premium products.
For its charge card business, TRS uses interest rate swaps to achieve a
targeted mix of fixed and floating rate funding as well as to protect the
Company from the interest rate risk through hedging of its existing long-term
debt, the rollover of short-term debt and the anticipated forecasted issuance
of additional funding. AEFA uses interest rate products to hedge the risk of
rising interest rates on investment certificates which reset at shorter
intervals than the average maturity of the investment portfolio. Additionally,
AEFA uses interest rate swaptions to hedge the risk of increasing interest
rates on forecasted fixed annuity sales. Finally, for selected major overseas
markets, the Company uses certain foreign currency forward contracts with
maturities not exceeding 22 months to offset the effect of changes in foreign
currency exchange rates on certain forecasted transactions. During 2004, 2003
and 2002, the Company reclassified into earnings pretax losses from accumulated
other comprehensive income of $459 million, $639 million and $572 million,
respectively ($298 million, $415 million and $372 million after-tax,
respectively). At December 31, 2004, the Company expects to reclassify $438
million of net pretax losses on derivative instruments from accumulated other
comprehensive income (loss) to earnings during the next twelve months.
Currently, the longest period of time over which the Company is hedging
exposure to the variability in future cash flows is approximately 14 years and
relates to forecasted fixed annuity sales. For 2004, 2003 and 2002, there were
no gains or losses on derivative transactions or portions thereof that were
excluded from the assessment of hedge effectiveness. During 2004, certain hedge
relationships were discontinued, and the related derivatives terminated because
certain forecasted transactions were not expected to occur according to the
original strategy. The amount of other comprehensive income that was
immediately recognized into earnings was a gain of approximately $16 million.
No hedge relationships were discontinued during the years ended December 31,
2003 and 2002 due to forecasted transactions no longer expected to occur
according to the original hedge strategy. The amount of hedge ineffectiveness
recognized for cash flow hedges in the year ended December 31, 2004 was a gain
of approximately $1 million. No hedge ineffectiveness was recognized for the
years ended December 31, 2003 and 2002.
FAIR VALUE HEDGES
The Company is exposed to interest rate risk associated with fixed rate debt
and uses interest rate swaps to convert certain fixed rate debt to floating
rate.
From time to time, the Company also uses interest rate swaps to hedge its firm commitments to transfer, at a fixed rate, receivables to trusts established in connection with its asset securitizations. AEFA is exposed to interest rate risk associated with its fixed rate corporate debt securities. AEFA enters into interest rate swaps to hedge the risk of changing interest rates as investment certificates reset at shorter intervals than the average maturity of the
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investment portfolio. For 2004, 2003 and 2002, there were no gains or losses on derivative transactions or portions thereof that were excluded from the assessment of hedge effectiveness. No hedge ineffectiveness was recognized for the years ended December 31, 2004, 2003 and 2002.
HEDGES OF NET INVESTMENT IN FOREIGN OPERATIONS
The Company designates foreign currency derivatives, primarily forward
agreements, as hedges of net investments in certain foreign operations. For the
year ended December 31, 2004, the amount of losses, including the impact of
forward points, related to the hedges reported in accumulated other
comprehensive income (loss), included in cumulative translation adjustment, was
$259 million.
DERIVATIVES NOT DESIGNATED AS HEDGES
The Company has economic hedges that either do not qualify or are not
designated for hedge accounting treatment under SFAS No. 133.
Foreign currency transaction exposures are economically hedged, where practical, through foreign currency contracts, primarily forward contracts and cross-currency swaps. The foreign currency forward contracts entered into by the Company generally mature within one year.
AEFA uses interest rate caps, swaps and floors to protect the margin between the interest rates earned on investments and the interest rates credited to holders of certain investment certificates and fixed annuities.
AEFA consolidated derivatives as a result of adopting FIN 46. The derivatives' value is based on the interest and gains and losses related to a reference portfolio of high-yield loans.
In addition, AEB enters into derivative contracts both to meet the needs of its clients and, to a limited extent, for trading purposes, including taking proprietary positions.
EMBEDDED DERIVATIVES
During the years ended December 31, 2004 and 2003, the Company identified
derivatives embedded in other financial instruments that were required to be
accounted for separately from the host financial instrument. Such items
included certain notes, annuities and investment products, provided primarily
by AEFA, which have returns tied to the performance of equity markets. AEFA
manages this equity market risk by entering into options and futures with
offsetting characteristics. The total fair value of these instruments was $387
million and $348 million at December 31, 2004 and 2003, respectively.
Note 10 GUARANTEES AND CERTAIN
OFF-BALANCE SHEET ITEMS
The Company, through its TRS operating segment, provides cardmember protection
plans that cover losses associated with purchased products, as well as certain
other guarantees in the ordinary course of business that are within the scope
of FASB Interpretation No. 45, "Guarantor's Accounting and Disclosure
Requirement for Guarantees, Including Indirect Guarantees of Indebtedness of
Others" (FIN 45).
The following table provides information related to TRS' guarantees that are within the scope of FIN 45 as of December 31:
2004 2003
-------------------------------------------------------------------------------------------------------------------------
Maximum amount Amount of related Maximum amount of Amount of related
of undiscounted liability at undiscounted future liability at
future payments(a) December 31, 2004 payments (a) December 31, 2003
Type of Guarantee (billions) (millions) (billions) (millions)
-------------------------------------------------------------------------------------------------------------------------
Credit Card Registry(b) $ 23.8 $ -- $ 23.4 $ --
Merchandise and Account Protection(c) 51.4 45 46.6 43
Merchant Protection(d) 7.1 46 5.6 108
Baggage Protection 8.2 19 9.5 18
Other (e) 0.2 147 0.4 317
-------------------------------------------------------------------------------------------------------------------------
Total $ 90.7 $ 257 $ 85.5 $ 486
=========================================================================================================================
|
(a) Calculated based on the hypothetical scenario that all claims occur within the next 12 months.
(b) This benefit will cancel and request replacements of any lost or stolen cards, and provides for fraud liability coverage and passport replacement, among other benefits.
(c) These benefits (i) protect eligible purchases made with the card against
accidental damage or theft for up to 90 days from the date of purchase;
(ii) ensure that a cardmember pays the lowest price available on covered
items purchased entirely with an eligible American Express card; and (iii)
provide account protection in the event that a cardmember is unable to
make payments on the account due to unforeseen hardship.
(d) Represents the Company's contingent liability arising from billing disputes between the cardmembers and the merchant, primarily for non-delivery of goods and services.
(e) Other primarily relates to contingent consideration obligations associated with American Express Tax and Business Services acquisition-related guarantees.
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The above table reflects only those TRS guarantees that are within the scope of FIN 45. Expenses relating to actual claims under these guarantees for 2004 and 2003 were approximately $20 million and $30 million, respectively. It is not an exhaustive list of all cardmember guarantee programs, many of which are outside the scope of FIN 45 as they primarily represent insurance products issued by Amex Assurance, a wholly-owned subsidiary of AEFC, and as such are accounted for under SFAS No. 60, "Accounting and Reporting by Insurance Enterprises."
The Company generally has no collateral or other recourse provisions related to these guarantees. With respect to merchant protection, the Company's loss exposure is mitigated by the Company's ability to offset amounts reimbursed to its cardholders against other amounts due to the Company's merchants. The Company may also hold cash back from a merchant. During the third quarter of 2004, the Company reduced its merchant-related reserves by approximately $60 million reflecting changes made to mitigate loss exposure and ongoing favorable credit experience with merchants.
The Company, through its AEB operating segment, provides various guarantees to its customers in the ordinary course of business that are also within the scope of FIN 45, including financial letters of credit, performance guarantees and financial guarantees. Generally, guarantees range in term from three months to one year. AEB receives a fee related to these guarantees, many of which help to facilitate customer cross-border transactions. At December 31, 2004, AEB held $788 million of collateral supporting these guarantees.
The following table provides information related to such guarantees as of December 31:
(Millions) 2004 2003
---------------------------------------------------------------------------------------------------------------
Maximum Maximum
amount of Amount of amount of Amount of
undiscounted related liability at undiscounted related liability at
Type of Guarantee future payments December 31, 2004 future payments December 31, 2003
---------------------------------------------------------------------------------------------------------------
Financial letters of credit $ 295 $ 0.4 $ 207 $ 1.1
Performance guarantees 92 1.1 119 0.4
Financial guarantees 554 2.0 629 0.5
---------------------------------------------------------------------------------------------------------------
Total $ 941 $ 3.5 $ 955 $ 2.0
===============================================================================================================
|
In addition, the Company had the following other commitments as of December 31:
(Millions) 2004 2003 -------------------------------------------------------------------------------- Loan commitments and other lines of credit $662 $770 Bank letters of credit and other bank guarantees out of scope of FIN 45 $646 $544 ================================================================================ |
The Company issues commercial and other letters of credit to facilitate the short-term trade-related needs of its banking clients, which typically mature within six months. At December 31, 2004 and 2003, the Company held $147 million and $114 million, respectively, of collateral supporting commercial and other letters of credit.
The Company also has commitments aggregating $176 billion and $156 billion related to its card business in 2004 and 2003, respectively, primarily related to commitments to extend credit to certain cardmembers as part of established lending product agreements. Many of these are not expected to be drawn; therefore, total unused credit available to cardmembers does not represent future cash requirements. The Company's charge card products have no preset spending limit and are not reflected in unused credit available to cardmembers.
During the fourth quarter of 2004, the Company announced that it signed agreements with Delta Air Lines to extend its co-brand, Membership Rewards and merchant partnerships. The agreements will extend these partnerships into the next decade. As part of the agreements, the Company committed to prepay $500 million for the future purchase of Delta SkyMiles rewards points. The prepayment has a three-year term, is fully collateralized by a pool of assets and is subject to certain conditions. As of December 31, 2004, the Company prepaid $250 million of Delta SkyMiles rewards points, which is reported in other loans on the Company's Consolidated Balance Sheet. Under the terms of the agreements, the Company will prepay the remaining $250 million of Delta SkyMiles rewards points in the first quarter of 2005.
In addition, the Company has certain contingent obligations for worldwide business arrangements that relate to contractual agreements with partners entered into as part of the ongoing operation of the TRS
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business, primarily with co-brand partners. The contingent obligations under such arrangements were $3.7 billion as of December 31, 2004.
The Company leases certain office facilities and operating equipment under noncancelable and cancelable agreements. Total rental expense amounted to $438 million, $420 million and $461 million in 2004, 2003 and 2002, respectively. At December 31, 2004, the minimum aggregate rental commitment under all noncancelable operating leases (net of subleases of $35 million) was:
(Millions) -------------------------------------------------------------------------------- 2005 $ 305 2006 263 2007 228 2008 188 2009 145 Thereafter 1,585 -------------------------------------------------------------------------------- Total $2,714 ================================================================================ |
In December 2004, the Company completed sale-leaseback transactions on six of its owned properties which were sold at fair value. Four of these transactions have been accounted for as sale-leasebacks and are included in total operating lease obligations. Proceeds from these transactions totaled $187 million and the aggregate net book value of these four properties removed from the Company's Consolidated Balance Sheet was $91 million. The pretax gain of approximately $94 million, net of $2 million in closing costs, has been deferred and will be amortized over the ten year term of the operating leasebacks as a reduction to rental expense.
Two of the sale-leaseback transactions have been accounted for as financings because of either the Company's ongoing continuing involvement with the sold and leased-back property or because of certain terms contained in the lease agreement. The $113 million in proceeds from these transactions have been classified as long-term debt. At December 31, 2004, the Company's minimum aggregate rental commitment under these two transactions is approximately $7 million per annum from 2005 through 2009 and $39 million thereafter.
Note 11 VARIABLE ANNUITIES AND SALES
INDUCEMENT COSTS
The majority of the variable annuity contracts offered by the Company contain
guaranteed minimum death benefits provisions. When market values of the
customer's accounts decline, the death benefit payable on a contract with a
GMDB may exceed the contract accumulation value. The Company also offers
variable annuities with death benefit provisions that gross-up the amount
payable by a certain percentage of contract earnings; these are referred to as
gain gross-up benefits (GGU). In addition, the Company offers contracts
containing guaranteed minimum income benefits (GMIB) provisions.
December 31, (Dollars in millions) 2004 2003 -------------------------------------------------------------------------------- Contracts with GMDB and GGU Total contract value $35,229 $30,812 Contract value in separate accounts $27,991 $23,978 Net amount at risk(a) $ 1,464 $ 2,217 Weighted average attained age 60 60 Contracts with GMIB Total contract value $ 603 $ 358 Contract value in separate accounts $ 518 $ 268 Net amount at risk(a) $ 12 $ 23 Weighted average attained age 59 59 ================================================================================ |
(a) Represents current death benefit less total contract value for GMDB, amount of gross-up for GGU and accumulated guaranteed minimum benefit base less total contract value for GMIB and assumes the actuarially remote scenario that all claims become payable on the same day.
The Company had variable annuity guarantee liabilities of approximately $33 million as of December 31, 2004 pertaining to the net amount at risk as of such date.
The majority of the GMDB contracts provide for six year reset contract values. In determining the additional liabilities for variable annuity death benefit and GMIB, the Company projects these benefits and contract assessments using actuarial models to simulate various equity market scenarios. Significant assumptions made in projecting future benefits and assessments relate to customer asset value growth rates, mortality, persistency and investment margins and are consistent with those used for DAC asset valuation for the same contracts.
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Sales inducement costs consist of bonus interest credits and premium credits added to certain annuity contract values. These benefits are capitalized to the extent they are incremental to amounts that would be credited on similar contracts without the applicable feature. Deferred sales inducement costs were $303 million and $279 million as of December 31, 2004 and 2003, respectively, and are included in other assets. These costs were previously included in DAC and were reclassified to other assets as part of the adoption of SOP 03-1. The amounts capitalized are amortized using the same methodology and assumptions used to amortize DAC. The Company capitalized $71 million and $72 million during 2004 and 2003, respectively, and amortized $34 million and $24 million during 2004 and 2003, respectively.
Note 12 CONTINGENCIES
The Company and its subsidiaries are involved in a number of legal and
arbitration proceedings concerning matters arising in connection with the
conduct of their respective business activities. These include several class
actions involving the Company's card and financial planning businesses among
other matters. The Company believes it has meritorious defenses to each of
these actions and intends to defend them vigorously.
As has been widely reported, the Securities and Exchange Commission (SEC), the National Association of Securities Dealers, Inc. (NASD) and several state attorneys general have brought proceedings challenging several mutual fund industry practices, including late trading, market timing, disclosure of revenue sharing arrangements and inappropriate sales of B shares. AEFA has received requests for information concerning its practices and is providing information and cooperating fully with these inquiries.
In May 2004, the Company reported that the broker-dealer subsidiary of AEFA had received notification from the staff of the NASD indicating that it had made a preliminary determination to recommend that the NASD bring an action against AEFA for potential violations of federal securities laws and the rules and regulations of the SEC and the NASD. The notice received by AEFA comes in the context of a broader industry-wide review of the mutual fund and brokerage industries that is being conducted by various regulators. The NASD staff's allegations relate to AEFA's practices with respect to various revenue sharing arrangements pursuant to which AEFA receives payments from certain non-proprietary mutual funds for agreeing to make their products available through AEFA's national distribution network. In particular, the NASD has alleged that AEFA: (i) failed to properly disclose such revenue sharing arrangements from January 2001 until May 2003; (ii) failed to properly disclose such revenue sharing arrangements in its brokerage confirmations and; (iii) received directed brokerage from January 2001 until December 2003. The notice from the NASD staff is intended to give AEFA an opportunity to discuss the issues it has raised. AEFA has been availing itself of this opportunity and continues to cooperate fully with the NASD's inquiry regarding this matter, as well as all other regulatory inquiries.
Congress also has proposed legislation and the SEC has proposed and, in some instances, adopted rules relating to the mutual fund industry, including expenses and fees, mutual fund corporate governance and disclosures to customers. For example, during the past year, mutual fund and investment advisors were required by the SEC to adopt and implement written policies and procedures designed to prevent violation of the federal securities laws and to designate a chief compliance officer responsible for administering these policies and procedures. While there remains a significant amount of uncertainty as to what legislative and regulatory initiatives may ultimately be adopted, these initiatives could negatively impact mutual fund industry participants' results, including AEFA's, in future periods.
The Company believes that it is not a party to, nor are any of its properties the subject of, any pending legal, arbitration or regulatory proceedings which would have a material adverse effect on the Company's consolidated financial condition, results of operations or liquidity. However, it is possible that the outcome of any such proceedings could have a material impact on results of operations in any particular reporting period as the proceedings are resolved.
Note 13 FAIR VALUES OF FINANCIAL
INSTRUMENTS
The following table discloses fair value information for financial instruments.
Certain items, such as life insurance obligations, employee benefit
obligations, investments accounted for under the equity method and deferred
acquisition costs are excluded. The fair values of financial instruments are
estimates based upon market conditions and perceived risks at December 31, 2004
and 2003 and require management judgment. These figures may not be indicative
of their future fair
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values. Additionally, management believes the value of excluded assets and liabilities is significant. The fair value of the Company, therefore, cannot be estimated by aggregating the amounts presented.
The following table discloses fair value information for financial instruments:
December 31, (Billions) 2004 2003
--------------------------------------------------------------------------------------------
Carrying Carrying
Value Fair Value Value Fair Value
--------------------------------------------------------------------------------------------
Financial Assets
Assets for which carrying values
approximate fair value $77.9 $77.9 $69.0 $69.0
Investments $60.8 $61.1 $56.6 $57.0
Loans $34.9 $35.0 $32.3 $32.4
--------------------------------------------------------------------------------------------
Financial Liabilities
Liabilities for which carrying values
approximate fair value $53.8 $53.8 $58.0 $58.0
Fixed annuity reserves $25.5 $24.8 $24.9 $24.1
Investment certificate reserves $11.3 $11.3 $ 9.2 $ 9.2
Long-term debt $33.1 $32.8 $20.7 $20.9
Separate account liabilities $31.7 $30.6 $27.3 $26.4
============================================================================================
|
See Note 2 for carrying and fair value information regarding investments and see Note 10 for carrying and fair value information regarding guarantees and certain off-balance sheet items. The following methods were used to estimate the fair values of financial assets and financial liabilities.
FINANCIAL ASSETS
Assets for which carrying values approximate fair values include cash and cash
equivalents, accounts receivable and accrued interest, separate account assets,
certain other assets and derivative financial instruments. Generally these
assets are either short-term in duration or are recorded at fair value on the
Consolidated Balance Sheets.
Generally, investments are carried at fair value on the Consolidated Balance Sheets and gains and losses are recognized in the Consolidated Statements of Income upon disposition of the securities or when management determines that a decline in value is other-than-temporary.
For variable-rate loans that reprice within one year and for which there has been no significant change in counterparties' creditworthiness, fair values approximate carrying values.
The fair values of all other loans (including investment loans), except those with significant credit deterioration, are estimated using discounted cash flow analysis, based on current interest rates for loans with similar terms to borrowers of similar credit quality. For loans with significant credit deterioration, fair values are based on estimates of future cash flows discounted at rates commensurate with the risk inherent in the revised cash flow projections, or for collateral dependent loans on collateral values.
FINANCIAL LIABILITIES
Liabilities for which carrying values approximate fair values include
customers' deposits, Travelers Cheques outstanding, accounts payable,
short-term debt, certain other liabilities and derivative financial
instruments. Generally these liabilities are either short-term in duration or
are recorded at fair value on the Consolidated Balance Sheets.
The fair values of fixed annuity reserves in deferral status are estimated as the accumulated value less applicable surrender charges and loans. For annuities in payout status, fair value is estimated using discounted cash flows, based on current interest rates. The carrying value and fair value of these reserves in the table above exclude life insurance related elements of $1.5 billion and $1.4 billion at December 31, 2004 and 2003, respectively.
For variable-rate investment certificates that reprice within one year, fair value of the related reserves approximates carrying value. For other investment certificate reserves, fair value is estimated using discounted cash flows based on current interest rates. The valuations are reduced by the amount of applicable surrender charges and related loans.
For variable-rate long-term debt that reprices within one year, fair value approximates carrying value. For other long-term debt, fair value is estimated using either quoted market prices or discounted cash flows
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based on the Company's current borrowing rates for similar types of borrowing.
The fair value of separate account liabilities, after excluding life insurance-related elements of $4.2 billion and $3.5 billion in 2004 and 2003, respectively, are estimated as the accumulated value less applicable surrender charges.
Note 14 SIGNIFICANT CREDIT CONCENTRATIONS
A credit concentration may exist if customers are involved in similar
industries, economic sectors and geographic regions. The Company's customers
operate in diverse economic sectors and geographic regions. Therefore,
management does not expect any material adverse consequences to the Company's
financial position to result from these types of credit concentrations.
Certain distinctions between categories require management judgment. The following table represents the Company's maximum credit exposure by industry, including the credit exposure associated with derivative financial instruments, at December 31:
(Billions, except percentages) 2004 2003
--------------------------------------------------------------------------------
Financial institutions(a) $ 28.2 $ 21.2
Individuals, including
cardmember receivables
and loans(b) 241.9 216.4
U.S. Government and
agencies(c) 25.7 24.0
All other 26.8 28.2
--------------------------------------------------------------------------------
Total $322.6 $289.8
================================================================================
Composition:
On-balance sheet 45% 46%
Off-balance sheet 55 54
--------------------------------------------------------------------------------
Total 100% 100%
================================================================================
|
(a) Financial institutions primarily include banks, broker-dealers, insurance companies and savings and loan associations.
(b) Charge card products have no preset spending limit; therefore, the quantified credit amount includes only cardmember receivables recorded on the Consolidated Balance Sheets. For cardmember loans, the quantified credit amount includes the total credit line available to cardmembers.
(c) U.S. Government and agencies represent the U.S. Government and its agencies, states and municipalities, and quasi-government agencies.
EXPOSURE TO AIRLINE INDUSTRY
Historically, the Company has not experienced significant revenue declines
resulting from a particular airline's scaling-back of operations due to
bankruptcy or other financial challenges because the volumes generated from the
airline are typically shifted to other participants in the industry that accept
the Company's card products. Nonetheless, the Company is exposed to business
and credit risk in the airline industry primarily through business arrangements
where the Company has remitted payment to the airline for a cardmember purchase
of tickets that have not yet been used or "flown". This creates a potential
exposure for the Company in the event that the cardmember is not able to use
the ticket and the Company, based on the facts and circumstances, credits the
cardmember for the unused ticket. Historically, this type of exposure has not
generated any significant losses for the Company because of the need for an
airline that is operating under bankruptcy protection to continue accepting
credit and charge cards and honoring requests for credits and refunds in the
ordinary course in furtherance of its reorganization and its formal assumption,
with bankruptcy court approval, of its card acceptance agreement, including
approval of the Company's right to hold cash when necessary. The Company's
current airline merchant agreements generally allow the Company to hold cash to
cover these potential exposures to provide credits to cardmembers. Typically,
as an airline's financial situation deteriorates the Company increases cash
held to protect itself in the event of an ultimate liquidation of the airline.
The Company's goal in these distressed situations is to hold sufficient cash
over time to ensure that upon liquidation the cash held is equivalent to the
credit exposure related to any unused tickets.
Note 15 STOCK PLANS
STOCK OPTION AND AWARD PROGRAMS
Under the 1998 Incentive Compensation Plan and previously under the 1989
Long-Term Incentive Plan (the Plans), awards may be granted to officers and
other key individuals who perform services for the Company and its
participating subsidiaries. These awards may be in the form of stock options,
restricted stock, performance grants and similar awards designed to meet the
requirements of non-U.S. jurisdictions. The Company also has options that
remain outstanding pursuant to a Directors' Stock Option Plan that expired in
2003. Under these plans, there were a total of 68 million, 78 million and 85
million common shares available for grant at December 31, 2004, 2003 and 2002,
respectively. Each option has an exercise price equal to the market price of
the Company's common stock on the date of grant and with a term of no more than
10 years. Options granted in 2004 and 2003 generally vest ratably at 25 percent
per year beginning with the first anniversary of the grant date. Options
granted prior to 1999 and in 2002 generally vest ratably at 33 1/3 percent per
year beginning with the first anniversary of the grant date. Options granted in
1999, 2000 and 2001 generally vest ratably at 33 1/3 percent
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per year beginning with the second anniversary of the grant date.
In 1998, the Compensation and Benefits Committee (CBC) adopted a restoration stock option program. This program provided that employees who exercised options that had been outstanding at least five years by surrendering previously owned shares as payment would automatically receive a new (restoration) stock option with an exercise price equal to the market price on the date of exercise. The size of the restoration option was equal to the number of shares surrendered plus any shares surrendered or withheld to satisfy the employees' income tax requirements. The term of the restoration option, which was exercisable six months after grant, was equal to the remaining life of the original option. In July 2003, the CBC approved the discontinuance of granting a restoration option upon the exercise of stock options granted on or after January 1, 2004. In July 2004, the CBC further approved the discontinuance of granting a restoration option upon the exercise of all stock options effective January 1, 2005.
The fair value of each option is estimated on the date of grant using a Black-Scholes option-pricing model with the following weighted average assumptions used for grants in 2004, 2003 and 2002:
2004 2003 2002
--------------------------------------------------------------------------------
Dividend yield 0.8% 1.0% 0.9%
Expected volatility 30% 34% 33%
Risk-free interest rate 2.9% 2.9% 4.3%
Expected life of stock
option (years) 4.2 4.5 4.5
Weighted average fair
value per option $13.27 $10.08 $11.68
================================================================================
|
The dividend yield reflects the assumption that the current dividend payout will continue with no anticipated increases. The expected life of the options is based on historical data and is not necessarily indicative of exercise patterns that may occur.
A summary of the status of the Company's stock option plans as of December 31, 2004, 2003 and 2002 and changes during each of the periods then ended is presented below:
(Shares in thousands) 2004 2003 2002
-----------------------------------------------------------------------------------------------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
-----------------------------------------------------------------------------------------------------------------
Outstanding at beginning of year 155,833 $ 37.92 166,232 $ 37.54 146,069 $ 37.42
Granted 14,930 $ 51.03 12,933 $ 35.01 40,430 $ 36.59
Exercised (35,310) $ 34.76 (13,943) $ 29.61 (7,934) $ 24.98
Forfeited/Expired (3,581) $ 41.13 (9,389) $ 40.43 (12,333) $ 40.93
-----------------------------------------------------------------------------------------------------------------
Outstanding at end of year 131,872 $ 39.97 155,833 $ 37.92 166,232 $ 37.54
-----------------------------------------------------------------------------------------------------------------
Options exercisable at end of year 89,358 $ 39.08 88,263 $ 36.58 61,903 $ 32.86
=================================================================================================================
|
The following table summarizes information about the stock options outstanding at December 31, 2004:
(Shares in thousands) Options Outstanding Options Exercisable
--------------------------------------------------------------------------------------------------------------
Weighted Average
Remaining
Number Contractual Life Weighted Average Number Weighted Average
Range of Exercise Prices Outstanding (Years) Exercise Price Exercisable Exercise Price
--------------------------------------------------------------------------------------------------------------
$11.33 - $29.99 11,951 2.8 $ 25.89 11,926 $ 25.88
$30.00 - $35.99 21,168 6.0 $ 34.41 13,891 $ 34.94
$36.00 - $42.99 32,085 6.7 $ 37.24 19,821 $ 37.29
$43.00 - $43.99 21,334 5.2 $ 43.66 21,206 $ 43.66
$44.00 - $49.99 29,536 6.0 $ 44.65 19,610 $ 44.67
$50.00 - $61.44 15,798 7.0 $ 51.75 2,904 $ 53.93
--------------------------------------------------------------------------------------------------------------
$11.33 - $61.44 131,872 5.9 $ 39.97 89,358 $ 39.08
==============================================================================================================
|
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The Company granted 5.0 million, 5.3 million and 0.3 million restricted stock awards (RSAs) with a weighted average grant date value of $50.33, $33.88 and $35.97 per share for 2004, 2003 and 2002, respectively. RSAs granted in 2004 and 2003 generally vest ratably at 25 percent per year beginning with the first anniversary of the grant date. RSAs granted prior to 2003 generally vest four years from date of grant.
The components of the Company's pretax stock-based compensation expense, net of cancellations, are as follows:
(Millions) 2004 2003 2002
--------------------------------------------------------------------------------
Stock options $ 83 $ 37 $ --
Restricted stock awards 134 85 40
--------------------------------------------------------------------------------
Total $217 $122 $ 40
================================================================================
|
AMERICAN EXPRESS COMPANY STOCK FUND
In addition to the Plans discussed above, the Company also sponsors the
American Express Incentive Savings Plan (ISP), a 401(k) plan, under which
purchases of the Company's common shares are made on behalf of participating
U.S. employees. Under the terms of the ISP, employees have the option of
investing in the American Express Company Stock Fund through accumulated
payroll deductions. In addition, at least quarterly the Company makes automatic
cash contributions equal to 1% per annum of a qualifying employee's base
salary. Such contributions are invested automatically in the American Express
Company Stock Fund, which invests primarily in the Company's common stock and,
effective August 2, 2004, can be redirected at any time into other ISP
investment options. Prior to August 2, 2004, these contributions could not be
redirected by the employee until the employee reached 55 years of age.
Compensation expense related to the Company's contribution was $19 million, $19
million and $20 million in 2004, 2003 and 2002, respectively, which is included
in defined contribution plan expense as further discussed in Note 16. The ISP
held 22 million and 23 million shares of American Express Common Stock at
December 31, 2004 and 2003, respectively, beneficially for employees.
Note 16 RETIREMENT PLANS
DEFINED BENEFIT PENSION PLANS
The Company sponsors the American Express Retirement Plan (the Plan), a
noncontributory defined benefit plan which is a qualified plan under the
Employee Retirement Income Security Act of 1974, as amended (ERISA), under
which the cost of retirement benefits for eligible employees in the United
States is measured by length of service, compensation and other factors and is
currently being funded through a trust. Funding of retirement costs for the
Plan complies with the applicable minimum funding requirements specified by
ERISA. The Plan is a cash balance plan and employees' accrued benefits are
based on notional account balances, which are maintained for each individual.
Each pay period these balances are credited with an amount equal to a
percentage, determined by an employee's age plus service, of compensation as
defined by the Plan (which includes, but is not limited to, base pay, certain
incentive pay and commissions, shift differential, overtime and transition
pay). Employees' balances are also credited daily with a fixed rate of interest
that is updated each January 1 and is based on the average of the daily
five-year U.S. Treasury Note yields for the previous October 1 through November
30, with a minimum crediting rate of 5%. Employees have the option to receive
annuity payments or a lump sum payout at vested termination or retirement.
In addition, the Company sponsors an unfunded non-qualified Supplemental Retirement Plan (the SRP) for certain highly compensated employees to replace the benefit that cannot be provided by the Plan due to Internal Revenue Service limits. The SRP generally parallels the Plan but offers different payment options.
Most employees outside the United States are covered by local retirement plans, some of which are funded, while other employees receive payments at the time of retirement or termination under applicable labor laws or agreements.
The Company measures the obligations and related asset values for its pension and other postretirement benefit plans as of September 30th.
The components of the net periodic pension cost for all defined benefit plans accounted for under SFAS No. 87, "Employers' Accounting for Pensions," are as follows:
(Millions) 2004 2003 2002 -------------------------------------------------------------------------------- Service cost $ 136 $ 115 $ 106 Interest cost 128 118 112 Expected return on plan assets (164) (146) (127) Amortization of: Prior service cost (6) (8) (9) Transition obligation (asset) 1 (2) (1) Recognized net actuarial loss 19 18 6 Settlement/curtailment loss 4 10 12 -------------------------------------------------------------------------------- Net periodic pension benefit cost $ 118 $ 105 $ 99 ================================================================================ |
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The prior service costs are amortized on a straight-line basis over the average remaining service period of active participants. Gains and losses in excess of 10 percent of the greater of the benefit obligation and the market-related value of assets are amortized over the average remaining service period of active participants.
The following tables provide a reconciliation of the changes in the plans' benefit obligation and fair value of assets for all plans accounted for under SFAS No. 87:
RECONCILIATION OF CHANGE IN BENEFIT OBLIGATION
(Millions) 2004 2003 -------------------------------------------------------------------------------- Benefit obligation, October 1 prior year $ 2,133 $ 1,845 Service cost 136 115 Interest cost 128 118 Benefits paid (57) (53) Actuarial loss 102 72 Plan amendments(a) (3) 25 Settlements/curtailments (63) (77) Foreign currency exchange rate changes 76 88 -------------------------------------------------------------------------------- Benefit obligation at September 30, $ 2,452 $ 2,133 ================================================================================ |
(a) The plan amendment in 2004 reduced the future benefit accruals under the Plan for employees supporting U.S. Business Travel effective January 1, 2005. In 2003 a cost of living adjustment was provided to certain retired participants of the Plan.
RECONCILIATION OF CHANGE IN FAIR VALUE OF PLAN ASSETS
(Millions) 2004 2003 -------------------------------------------------------------------------------- Fair value of plan assets, October 1 prior year $ 1,944 $ 1,352 Actual return on plan assets 246 241 Employer contributions 62 398 Benefits paid (57) (53) Settlements (63) (75) Foreign currency exchange rate changes 74 81 -------------------------------------------------------------------------------- Fair value of plan assets at September 30, $ 2,206 $ 1,944 ================================================================================ |
The Company complies with the minimum funding requirements in all countries. The following table reconciles the plans' funded status (benefit obligation less fair value of plan assets) to the amounts recognized on the Consolidated Balance Sheets:
FUNDED STATUS
(Millions) 2004 2003 -------------------------------------------------------------------------------- Funded status at September 30, $(246) $(189) Unrecognized net actuarial loss 583 553 Unrecognized prior service cost 7 4 Unrecognized net transition obligation 1 1 Fourth quarter contributions 5 7 -------------------------------------------------------------------------------- Net amount recognized at December 31, $ 350 $ 376 ================================================================================ |
The following table provides the amounts recognized on the Consolidated Balance Sheets as of December 31:
(Millions) 2004 2003 -------------------------------------------------------------------------------- Accrued benefit liability $(236) $(218) Prepaid benefit cost 562 570 Intangible asset -- 1 Minimum pension liability adjustment 24 23 -------------------------------------------------------------------------------- Net amount recognized at December 31, $ 350 $ 376 ================================================================================ |
The accumulated benefit obligation for all retirement plans as of December 31, 2004 and 2003 was $2.3 billion and $2.0 billion, respectively.
The projected benefit obligation and fair value of plan assets for pension plans with projected benefit obligations that exceed the fair value of plan assets are as follows:
(Millions) 2004 2003 -------------------------------------------------------------------------------- Projected benefit obligation $1,522 $1,480 Fair value of plan assets $1,240 $1,205 ================================================================================ |
The accumulated benefit obligation and fair value of plan assets for pension plans, primarily unfunded plans, with accumulated benefit obligations that exceed the fair value of plan assets are as follows:
(Millions) 2004 2003 -------------------------------------------------------------------------------- Accumulated benefit obligation $243 $222 Fair value of plan assets $ 15 $ 12 ================================================================================ |
The weighted average assumptions used to determine benefit obligations were:
2004 2003
--------------------------------------------------------------------------------
Discount rates 5.6% 5.7%
Rates of increase in compensation
levels 4.1% 4.0%
================================================================================
|
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The weighted average assumptions used to determine net periodic benefit cost were:
2004 2003 2002
--------------------------------------------------------------------------------
Discount rates 5.7% 6.2% 7.0%
Rates of increase in
compensation levels 4.0% 4.0% 4.2%
Expected long-term rates
of return on assets 7.9% 8.1% 9.3%
================================================================================
|
For 2004, the Company assumed on a weighted average basis a long-term rate of return on assets of 7.9%. In developing the 7.9% expected long-term rate assumption, management evaluated input from an external consulting firm, including their projection of asset class return expectations and long-term inflation assumptions. The Company also considered the historical returns on the plan assets.
The asset allocation for the Company's pension plans at September 30, 2004 and 2003, and the target allocation for 2005, by asset category, are below. Actual allocations will generally be within 5 percent of these targets.
Target Percentage of
Allocation Plan assets at
--------------------------------------------------------------------------------
2005 2004 2003
--------------------------------------------------------------------------------
Equity securities 68% 68% 66%
Debt securities 26% 27% 26%
Other 6% 5% 8%
--------------------------------------------------------------------------------
Total 100% 100% 100%
================================================================================
|
The Company invests in an aggregate diversified portfolio to ensure that adverse or unexpected results from a security class will not have a detrimental impact on the entire portfolio. The portfolio is diversified by asset type, performance and risk characteristics and number of investments. Asset classes and ranges considered appropriate for investment of the plans assets are determined by each plan's investment committee. The asset classes typically include domestic and foreign equities, emerging market equities, domestic and foreign investment grade and high-yield bonds and domestic real estate.
The Company's retirement plans expect to make benefit payments to retirees as follows (millions): 2005, $132; 2006, $141; 2007, $150; 2008, $160; 2009, $171; and 2010 - 2014, $1,013. In addition, the Company expects to contribute $59 million to its pension plans in 2005.
DEFINED CONTRIBUTION RETIREMENT PLANS
The Company sponsors defined contribution retirement plans, the principal plan
being the Incentive Savings Plan, a 401(k) savings plan with a profit sharing
and stock bonus plan feature which covers most employees in the United States.
See Note 15 for further discussion of this feature. The defined contribution
plan expense was $161 million, $145 million and $131 million in 2004, 2003 and
2002, respectively.
OTHER POSTRETIREMENT BENEFITS
The Company sponsors defined postretirement benefit plans that provide health
care and life insurance to certain retired U.S. employees. Net periodic
postretirement benefit expenses were $38 million, $42 million and $38 million
in 2004, 2003 and 2002, respectively. Effective January 1, 2004, the Company
decided to no longer provide a subsidy for these benefits for employees who
were not at least age 40 with at least 5 years of service as of that date. See
Note 1 for a discussion of the Company's election to early adopt FSP FAS 106-2.
The recognized liabilities for the Company's defined postretirement benefit plans are as follows:
RECONCILIATION OF ACCRUED BENEFIT COST AND TOTAL
AMOUNT RECOGNIZED
(Millions) 2004 2003 -------------------------------------------------------------------------------- Funded status of the plan $(397) $(428) Unrecognized prior service cost (13) (22) Unrecognized actuarial loss 162 206 Fourth quarter payments 8 10 -------------------------------------------------------------------------------- Net amount recognized $(240) $(234) -------------------------------------------------------------------------------- Accumulated benefit obligation at period end $(397) $(428) ================================================================================ |
Weighted average assumptions to determine benefit obligations:
2004 2003
--------------------------------------------------------------------------------
Discount rates 5.75% 6%
Health care cost increase rate:
Following year 10.5% 11%
Decreasing to the year 2016 5% 5%
================================================================================
|
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A one percentage-point change in assumed health care cost trend rates would have the following effects:
One One
percentage- percentage-
point increase point decrease
--------------------------------------------------------------------------------
(Millions) 2004 2003 2004 2003
--------------------------------------------------------------------------------
Increase (decrease) on
benefits earned and
interest cost for U.S.
plans $ 1 $ 1 $ (1) $ (1)
Increase (decrease)
on accumulated
postretirement
benefit obligation
for U.S. plans $ 20 $ 18 $(18) $(16)
================================================================================
|
Note 17 INCOME TAXES
The components of income tax provision included in the Consolidated Statements
of Income were as follows:
(Millions) 2004 2003 2002
--------------------------------------------------------------------------------
Current income tax provision:
U.S. federal $ 1,058 $ 469 $ 579
U.S. state and local 26 124 97
Foreign 185 267 227
--------------------------------------------------------------------------------
Total current provision $ 1,269 $ 860 $ 903
--------------------------------------------------------------------------------
Deferred income tax
provision (benefit):
U.S. federal $ 269 $ 414 $ 198
U.S. state and local 7 18 (16)
Foreign (110) (45) (29)
--------------------------------------------------------------------------------
Total deferred provision $ 166 $ 387 $ 153
--------------------------------------------------------------------------------
Total income tax
provision $ 1,435 $ 1,247 $ 1,056
================================================================================
|
A reconciliation of the U.S. federal statutory rate of 35% to the Company's effective income tax rate for 2004, 2003 and 2002 were as follows:
2004 2003 2002
--------------------------------------------------------------------------------
Combined tax at U.S.
statutory rate 35.0% 35.0% 35.0%
Changes in taxes
resulting from:
Tax-preferred
investments (5.0) (6.8) (7.3)
State and local
income taxes 0.4 2.2 1.4
All other (1.4) (1.0) (0.8)
--------------------------------------------------------------------------------
Effective tax rates 29.0% 29.4% 28.3%
================================================================================
|
Accumulated earnings of certain foreign subsidiaries, which totaled $2.7 billion at December 31, 2004, are intended to be permanently reinvested outside the United States. Accordingly, federal taxes, which would have aggregated approximately $550 million, have not been provided on those earnings.
As discussed in Note 1, the American Jobs Creation Act of 2004 (the Act) was enacted on October 22, 2004. The Act contains a provision that permits an 85% dividends received deduction for qualified repatriations of earnings that would otherwise be permanently reinvested outside of the United States. The Company is currently examining the specific requirements of the legislation to determine whether a qualifying repatriation is advisable and will make a decision in 2005.
The amount of a potential repatriation, if executed, will be between zero and $2.4 billion, which is the statutory limit for the Company. Depending upon the amount of the repatriation, if any, the Company will incur an additional tax expense between zero and $126 million. The final tax liability may be reduced by available foreign tax credits offset in part by the disallowance, for tax purposes, of expenses incurred to implement the repatriation.
Deferred income tax provision (benefit) results from differences between assets and liabilities measured for financial reporting and for income tax return purposes. The significant components of deferred tax assets and liabilities at December 31, 2004 and 2003 are reflected in the following table:
(Millions) 2004 2003
--------------------------------------------------------------------------------
Deferred tax assets:
Reserves not yet deducted for tax
purposes $3,407 $3,155
Deferred cardmember fees 30 342
Net unrealized derivatives losses 77 229
Other 408 795
--------------------------------------------------------------------------------
Total $3,922 $4,521
--------------------------------------------------------------------------------
Deferred tax liabilities:
Deferred acquisition costs $1,214 $1,122
Depreciation and amortization 507 718
Net unrealized securities gains 409 501
Asset securitizations 319 308
Deferred revenue 264 210
Other 334 584
--------------------------------------------------------------------------------
Total $3,047 $3,443
--------------------------------------------------------------------------------
Net deferred tax assets $ 875 $1,078
================================================================================
|
The gross deferred tax assets are shown net of a valuation allowance of $28 million and $18 million at December 31, 2004 and 2003, respectively.
Net income taxes paid by the Company during 2004, 2003 and 2002 were $1.1 billion, $1.2 billion and $0.9 billion, respectively, and include estimated tax payments and cash settlements relating to prior tax
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years. Comprehensive income in the Consolidated Statements of Shareholders' Equity is presented net of the following income tax provision (benefit) amounts:
COMPREHENSIVE INCOME COMPONENTS
(Millions) 2004 2003 2002 -------------------------------------------------------------------------------- Net unrealized securities (losses) gains $ (92) $ (91) $ 415 Net unrealized derivative gains (losses) 152 60 (130) Foreign currency translation gains (losses) 11 (5) (14) Minimum pension liability -- 18 29 -------------------------------------------------------------------------------- Net income tax provision (benefit) $ 71 $ (18) $ 300 ================================================================================ |
Note 18 EARNINGS PER COMMON SHARE
Basic EPS is computed using the average actual shares outstanding during the
period. Diluted EPS is basic EPS adjusted for the dilutive effect of stock
options, RSAs and other financial instruments that may be converted into common
shares. The basic and diluted EPS computations for the years ended December 31
are as follows:
(Millions, except per share amounts) 2004 2003 2002
--------------------------------------------------------------------------------
Numerator:
Income before
accounting change $ 3,516 $ 3,000 $ 2,671
Cumulative effect of
accounting change,
net of tax (71) (13) --
--------------------------------------------------------------------------------
Net Income $ 3,445 $ 2,987 $ 2,671
================================================================================
Denominator:
Basic: Weighted-
average shares
outstanding during
the period 1,259 1,284 1,320
Add: Dilutive effect of
stock options,
restricted stock
awards and other
dilutive securities 26 14 10
--------------------------------------------------------------------------------
Diluted 1,285 1,298 1,330
================================================================================
Basic EPS:
Income before
accounting change $ 2.79 $ 2.34 $ 2.02
Cumulative effect of
accounting change,
net of tax (0.05) (0.01) --
--------------------------------------------------------------------------------
Net income $ 2.74 $ 2.33 $ 2.02
================================================================================
Diluted EPS:
Income before
accounting change $ 2.74 $ 2.31 $ 2.01
Cumulative effect of
accounting change,
net of tax (0.06) (0.01) --
--------------------------------------------------------------------------------
Net income $ 2.68 $ 2.30 $ 2.01
================================================================================
|
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For the years ended December 31, 2004, 2003 and 2002, the dilutive effect of stock options excludes 13 million, 65 million and 101 million, respectively, from the computation of diluted EPS because to do so would have been antidilutive. As discussed in Note 1, the Debentures will not affect the computation of EPS unless the Company's common share price exceeds the base conversion price (currently $69.41 per share). In that scenario, the Company would reflect the additional common shares in the calculation of diluted earnings per share using the treasury stock method. The maximum number of shares issuable under the Debentures is 16.7 million.
Note 19 OPERATING SEGMENTS AND
GEOGRAPHIC OPERATIONS
OPERATING SEGMENTS
The Company is principally engaged in providing travel-related services,
financial services and international banking services throughout the world.
TRS' products and services include, among others, charge cards, cardmember
lending products, Travelers Cheques and corporate and consumer travel services.
AEFA is comprised primarily of asset management and insurance businesses whose products are principally offered through its network of over 12,000 financial advisors. AEB's products and services include providing private, financial institution and corporate banking; personal financial services and global trading. The Company operates on a global basis, although the principal market for financial advisory services is the United States.
The following table presents certain information regarding these operating segments, based on management's evaluation and internal reporting structure, at December 31, 2004, 2003 and 2002 and for each of the years then ended. For certain income statement items that are affected by asset securitizations at TRS, data are provided on both a GAAP basis, as well as on a managed basis, which excludes the effect of securitizations. Pretax income and net income are the same under both a GAAP and managed basis. See Note 4 for further information regarding the effect of securitizations on the financial statements.
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American
Travel Express American Adjustments
Related Financial Express Corporate and
(Millions) Services(b) Advisors(e) Bank and Other Eliminations Consolidated
------------------------------------------------------------------------------------------------------------------------
2004
Revenues (GAAP basis) $ 21,578 $ 7,035 $ 825 $ 147 $ (470) $ 29,115
Revenues (managed basis) 22,494 7,035 825 147 (470) 30,031
Net investment income 452 2,375 315 146 (170) 3,118
Cardmember lending net finance
charge revenue:
GAAP basis 2,224 -- -- -- -- 2,224
Managed basis 4,062 -- -- -- -- 4,062
Interest expense 713 52 -- 256 (154) 867
Pretax income (loss) before
accounting change 4,117 1,086 146 (398) -- 4,951
Income tax provision (benefit) 1,265 280 50 (160) -- 1,435
------------------------------------------------------------------------------------------------------------------------
Income (loss) before accounting change 2,852 806 96 (238) -- 3,516
------------------------------------------------------------------------------------------------------------------------
Cumulative effect of accounting
change, net of tax(a) -- (71) -- -- -- (71)
------------------------------------------------------------------------------------------------------------------------
Net income (loss)(a)(c) $ 2,852 $ 735 $ 96 $ (238) $ -- $ 3,445
------------------------------------------------------------------------------------------------------------------------
Total Assets $ 87,765 $97,151 $13,373 $17,351 $ (23,002) $192,638
------------------------------------------------------------------------------------------------------------------------
Total Equity $ 8,769 $ 6,436 $ 924 $12,803 $ (12,912) $ 16,020
=========================================================================================================================
2003
Revenues (GAAP basis) $ 19,189 $ 6,142 $ 801 $ 104 $ (400) $ 25,836
Revenues (managed basis) 20,132 6,142 801 104 (400) 26,779
Net investment income 472 2,279 349 101 (138) 3,063
Cardmember lending net finance
charge revenue:
GAAP basis 2,042 -- -- -- -- 2,042
Managed basis 3,897 -- -- -- -- 3,897
Interest expense 786 45 -- 214 (140) 905
Pretax income (loss) before
accounting change 3,571 859 151 (334) -- 4,247
Income tax provision (benefit) 1,141 177 49 (120) -- 1,247
------------------------------------------------------------------------------------------------------------------------
Income (loss) before accounting change 2,430 682 102 (214) -- 3,000
------------------------------------------------------------------------------------------------------------------------
Cumulative effect of accounting
change, net of tax(d) -- (13) -- -- -- (13)
------------------------------------------------------------------------------------------------------------------------
Net income (loss)(d) $ 2,430 $ 669 $ 102 $ (214) $ -- $ 2,987
------------------------------------------------------------------------------------------------------------------------
Total Assets $ 79,282 $84,569 $14,232 $19,129 $ (22,665) $174,547
------------------------------------------------------------------------------------------------------------------------
Total Equity $ 7,885 $ 7,063 $ 949 $12,710 $ (13,284) $ 15,323
=========================================================================================================================
|
(a) Results for 2004 reflect a $109 million non-cash pretax charge ($71 million after-tax) related to the January 1, 2004 adoption of SOP 03-1.
(b) TRS' 2004 results reflect a reconciliation of securitization-related cardmember loans, which resulted in a charge of $115 million (net of $32 million of reserves previously provided) for balances accumulated over the prior five-year period as a result of a computational error. The amount of the error was immaterial to any of the periods in which it occurred.
(c) Results for 2004 reflect aggregate restructuring charges of $102 million ($66 million after-tax) for initiatives executed during 2004. In addition, the Company recognized a $117 million ($76 million after-tax) net gain on the sale of the leasing product line of the Company's small business financing unit, American Express Business Finance Corporation.
(d) Results for 2003 reflect a $20 million non-cash pretax charge ($13 million after-tax) related to the December 31, 2003 adoption of FIN 46, as revised.
(e) AEFA's most significant subsidiary is IDS Life, which contributed $3.1 billion, $3.0 billion and $2.8 billion in total revenues during 2004, 2003 and 2002, respectively, derived principally from annuity and life and health related products and services.
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American
Travel Express American Adjustments
Related Financial Express Corporate and
(Millions) Services Advisors(a) Bank and Other Eliminations Consolidated
-------------------------------------------------------------------------------------------------------------
2002
Revenues (GAAP basis) $ 17,721 $ 5,617 $ 745 $ 99 $ (375) $ 23,807
Revenues (managed basis) 18,669 5,617 745 99 (375) 24,755
Net investment income 598 2,058 360 99 (124) 2,991
Cardmember lending net finance
charge revenue:
GAAP basis 1,828 -- -- -- -- 1,828
Managed basis 3,654 -- -- -- -- 3,654
Interest expense:
GAAP basis 1,001 32 -- 175 (126) 1,082
Managed basis 987 32 -- 175 (126) 1,068
Pretax income (loss) 3,080 865 121 (339) -- 3,727
Income tax provision (benefit) 945 233 41 (163) -- 1,056
-------------------------------------------------------------------------------------------------------------
Net income (loss) $ 2,135 $ 632 $ 80 $ (176) $ -- $ 2,671
-------------------------------------------------------------------------------------------------------------
Total Assets $ 72,205 $73,724 $13,234 $17,014 $(18,924) $157,253
-------------------------------------------------------------------------------------------------------------
Total Equity $ 7,253 $ 6,276 $ 947 $10,974 $(11,589) $ 13,861
=============================================================================================================
|
(a) AEFA's most significant subsidiary is IDS Life, which contributed $3.1 billion, $3.0 billion and $2.8 billion in total revenues during 2004, 2003 and 2002, respectively, derived principally from annuity and life and health related products and services.
Income tax provision (benefit) is calculated on a separate return basis; however, benefits from operating losses, loss carrybacks and tax credits (principally foreign tax credits) recognizable for the Company's consolidated reporting purposes are allocated based upon the tax sharing agreement among members of the American Express Company consolidated U.S. tax group.
Assets are those that are used or generated exclusively by each industry segment. The adjustments and eliminations required to determine the consolidated amounts shown above consist principally of the elimination of inter-segment amounts.
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Geographic Operations
The following table presents the Company's revenues and pretax income in
different geographic regions:
Adjustments
and
(Millions) United States Europe Asia/Pacific All Other Eliminations Consolidated
------------------------------------------------------------------------------------------------------------------------------
2004
Revenues $ 22,918 $ 3,137 $ 2,309 $ 2,067 $ (1,316) $ 29,115
Pretax income before accounting change(a) $ 3,980 $ 373 $ 285 $ 313 $ -- $ 4,951
2003
Revenues $ 20,859 $ 2,273 $ 1,992 $ 1,852 $ (1,140) $ 25,836
Pretax income before accounting change(b) $ 3,385 $ 396 $ 216 $ 250 $ -- $ 4,247
2002
Revenues $ 19,286 $ 1,943 $ 1,685 $ 1,586 $ (693) $ 23,807
Pretax income $ 2,983 $ 310 $ 181 $ 253 $ -- $ 3,727
==============================================================================================================================
|
(a) 2004 results reflect a $109 million non-cash pretax charge ($71 million after-tax) related to the January 1, 2004 adoption of SOP 03-1. In addition, 2004 results reflect aggregate restructuring charges of $102 million ($66 million after-tax).
(b) 2003 results reflect a $20 million non-cash pretax charge ($13 million after-tax) related to the December 31, 2003 adoption of FIN 46, as revised.
Net foreign currency transaction losses amounted to $186 million, $183 million and $77 million in 2004, 2003 and 2002, respectively.
Most services of the Company are provided on an integrated worldwide basis. Therefore, it is not practicable to separate precisely the U.S. and international services. Accordingly, the data in the above table are, in part, based upon internal allocations, which necessarily involve management's judgment.
Note 20 TRANSFER OF FUNDS FROM
SUBSIDIARIES
Restrictions on the transfer of funds exist under debt agreements and
regulatory requirements of certain of the Company's subsidiaries. These
restrictions have not had any effect on the Company's shareholder dividend
policy and management does not anticipate any effect in the future.
At December 31, 2004, the aggregate amount of net assets of subsidiaries that may be transferred to the Parent Company was approximately $11 billion. Should specific additional needs arise, procedures exist to permit immediate transfer of short-term funds between the Company and its subsidiaries, while complying with the various contractual and regulatory constraints on the internal transfer of funds.
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Note 21 QUARTERLY FINANCIAL DATA (Unaudited)
(Millions, except per share amounts) 2004 ------------------------------------------------------------------------------------------ Quarters Ended 12/31(a) 9/30(b) 6/30 3/31(c) ------------------------------------------------------------------------------------------ Revenues $ 7,771 $ 7,202 $ 7,232 $ 6,910 Pretax income before accounting change 1,183 1,254 1,266 1,248 Net income 896 879 876 794 Earnings per common share: Income before accounting change: Basic 0.72 0.70 0.69 0.68 Diluted 0.71 0.69 0.68 0.66 Net income: Basic 0.72 0.70 0.69 0.62 Diluted 0.71 0.69 0.68 0.61 Cash dividends declared per common share 0.12 0.12 0.10 0.10 Common share price: High 57.05 51.77 52.82 54.50 Low 50.86 47.70 47.32 47.43 ========================================================================================== (Millions, except per share amounts) 2003 ------------------------------------------------------------------------------------------ Quarters Ended 12/31(d) 9/30 6/30 3/31 ------------------------------------------------------------------------------------------ Revenues $ 7,038 $ 6,419 $ 6,356 $ 6,023 Pretax income before accounting change 1,090 1,064 1,097 996 Net income 763 770 762 692 Earnings per common share: Income before accounting change: Basic 0.61 0.60 0.59 0.53 Diluted 0.60 0.59 0.59 0.53 Net income: Basic 0.60 0.60 0.59 0.53 Diluted 0.59 0.59 0.59 0.53 Cash dividends declared per common share 0.10 0.10 0.10 0.08 Common share price: High 49.11 47.45 44.84 38.95 Low 43.53 41.04 32.86 30.90 ========================================================================================== |
(a) Fourth quarter 2004 results reflect aggregate restructuring charges of $102 million ($66 million after-tax) for initiatives executed during 2004. In addition, the Company recognized a $117 million ($76 million after-tax) net gain on the sale of the leasing product line of the Company's small business financing unit, American Express Business Finance Corporation.
(b) Third quarter 2004 results reflect a reconciliation of securitization-related cardmember loans, which resulted in a charge of $115 million (net of $32 million of reserves previously provided) for balances accumulated over the prior five year period as a result of a computational error. The amount of the error was immaterial to any of the periods in which it occurred. In addition, third quarter 2004 results reflect a reduction in merchant-related reserves of approximately $60 million that reflect changes made to mitigate loss exposure and ongoing favorable credit experience with merchants.
(c) First quarter 2004 results reflect a $109 million non-cash pretax charge ($71 million after-tax) related to the January 1, 2004 adoption of SOP 03-1.
(d) Fourth quarter 2003 results reflect a $20 million non-cash pretax charge ($13 million after-tax) related to the December 31, 2003 adoption of FIN 46, as revised.
Note 22 RESTRUCTURING CHARGES
During the fourth quarter of 2004, the Company recorded aggregate restructuring
charges of $102 million ($66 million after-tax) for initiatives executed during
2004. The aggregate restructuring charges consisted of $79 million of employee
severance obligations and $23 million of other exit costs principally relating
to the early termination of certain real property leases. The charges reflect
expenses in connection with several initiatives relating principally to the
restructuring of the Company's business travel operations within TRS, the
decision to sell certain of the operations of AEB in Bangladesh, Egypt,
Luxembourg and Pakistan and the relocation of certain functions in the
Company's finance operations. The charges related to severance obligations are
included in human resources and the other exit costs are included in occupancy
and equipment, professional services and other expenses in the Company's
Consolidated Statement of Income for the year ended December 31, 2004. As of
December 31, 2004, other liabilities include $81 million related to the
aggregate restructuring charges recorded for future cash outlays expected to be
paid out prior to the end of 2005. The following table summarizes by category
the Company's fourth quarter 2004 restructuring charges, cash payments and the
resulting liability balance as of December 31, 2004 for each of the Company's
operating segments:
Cash paid through Liability balance at
Restructuring Charges December 31, 2004 December 31, 2004
------------------------------------------------------------------------------------------------------------------------------
(Millions) Severance Other Total Severance Other Total Severance Other Total
------------------------------------------------------------------------------------------------------------------------------
Travel Related Services $ 46 $ 18 $ 64 $ 10 $ 10 $ 20 $ 36 $ 8 $ 44
American Express
Financial Advisors 3 -- 3 1 -- 1 2 -- 2
American Express Bank 30 5 35 -- -- -- 30 5 35
------------------------------------------------------------------------------------------------------------------------------
Total $ 79 $ 23 $ 102 $ 11 $ 10 $ 21 $ 68 $ 13 $ 81
==============================================================================================================================
|
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Note 23 SUBSEQUENT EVENT
On February 1, 2005, the Company announced plans to pursue a tax-free spin-off
of the common stock of AEFC through a special dividend to American Express
common shareholders. The final transaction, which is subject to certain
conditions including receipt of a favorable tax ruling and/or opinion,
necessary regulatory approvals and approval by the Company's Board of
Directors, is expected to close in the third quarter of 2005.
At the time of the spin-off, the Company intends to provide additional capital to AEFA that will provide additional liquidity and a senior debt rating that will allow AEFA to have efficient access to the capital markets. Furthermore, AEFA's operating segment results in Note 19 may not be fully representative of the results AEFA would have reported as an independent legal entity due to certain intercompany allocations and agreements. Additionally, the Company anticipates that it will incur spin-off related expenses associated with establishing an independent company that could be significant on a cumulative basis. These expenses will be recorded by the Company or AEFA, as appropriate, as they are incurred each quarter and will be disclosed in the quarterly financial results.
As a result of the proposed spin-off, the Debentures discussed in Note 7 will be convertible at the base conversion price (currently $69.41 per share) for a period of at least 20 days beginning on the day the Company provides notice of the special dividend to the Debenture holders and ending on the day immediately prior to the commencement of "ex-dividend" trading of the distributed shares. The Company will be obligated to pay at least the accreted principal amount in cash for any Debentures that are converted during the period. In addition, the per-share prices and conversion ratios contained in the Debentures will be adjusted under anti-dilution provisions.
The availability of credit lines under one of the Company's committed bank credit facilities is subject to maintaining consolidated tangible net worth of at least $8.75 billion. The Company expects that the proposed spin-off would cause consolidated tangible net worth to go below $8.75 billion. However, management anticipates that the terms of the covenant will be renegotiated prior to such event and no violation will occur.
Additionally, after the announcement of the proposed spin-off of the AEFA business unit, Moody's affirmed the Company's long-term and short-term debt ratings of P-1 and A1, respectively. Standard & Poor's and FitchRatings both affirmed the Company's short-term debt ratings of A-1 and F-1, respectively, and placed the Company on a negative credit watch for its A+ long-term debt ratings pending an understanding of the final details of the proposed spin-off. Moody's downgraded AEFC's senior debt rating to A2 from A1 and placed it on a review for a further downgrade. The insurance financial strength ratings for IDS Life Insurance Company (IDS Life) were downgraded to AA- by FitchRatings and affirmed at Aa3 by Moody's. AM Best also placed the insurance financial strength ratings for IDS Life, currently A+, under review with negative implications.
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...
Consolidated Five-Year Summary of Selected Financial Data
(Millions, except per share amounts, employees, shareholders and percentages) 2004(a) 2003(b) 2002 2001(c) 2000 ---------------------------------------------------------------------------------------------------------------------------- Operating Results Revenues $ 29,115 $ 25,836 $ 23,807 $22,582 $ 23,675 Percent increase (decrease) 13% 9% 5% (5)% 11% Expenses 24,164 21,589 20,080 20,986 19,767 Income before accounting change 3,516 3,000 2,671 1,311 2,810 Net income 3,445 2,987 2,671 1,311 2,810 Return on average shareholders' equity(d) 22.0% 20.6% 20.2% 10.8% 26.3% ---------------------------------------------------------------------------------------------------------------------------- Balance Sheet Cash and cash equivalents $ 9,907 $ 6,156 $ 10,288 $ 7,222 $ 8,487 Accounts receivable and accrued interest, net 34,650 31,269 29,087 29,498 30,543 Investments 60,809 56,637 53,638 46,488 43,747 Loans, net 34,858 32,300 27,822 26,440 26,088 Total assets 192,638 174,547 157,253 151,100 154,423 Customers' deposits 21,091 21,250 18,317 14,557 13,870 Travelers Cheques outstanding 7,287 6,819 6,623 6,190 6,127 Insurance and annuity reserves 32,966 31,969 28,683 24,536 24,098 Short-term debt 14,182 19,046 21,103 31,569 36,030 Long-term debt 33,061 20,654 16,308 7,788 4,711 Shareholders' equity 16,020 15,323 13,861 12,037 11,684 ---------------------------------------------------------------------------------------------------------------------------- Common Share Statistics Earnings per share: Income before accounting change: Basic $ 2.79 $ 2.34 $ 2.02 $ 0.99 $ 2.12 Diluted $ 2.74 $ 2.31 $ 2.01 $ 0.98 $ 2.07 Percent increase (decrease): Basic 19% 16% ++ (53)% 15% Diluted 19% 15% ++ (53)% 14% Net income: Basic $ 2.74 $ 2.33 $ 2.02 $ 0.99 $ 2.12 Diluted $ 2.68 $ 2.30 $ 2.01 $ 0.98 $ 2.07 Cash dividends declared per share $ 0.44 $ 0.38 $ 0.32 $ 0.32 $ 0.32 Book value per share: Actual $ 12.83 $ 11.93 $ 10.63 $ 9.05 $ 8.81 Market price per share: High $ 57.05 $ 49.11 $ 44.91 $ 57.06 $ 63.00 Low $ 47.32 $ 30.90 $ 26.55 $ 24.20 $ 39.83 Close $ 56.37 $ 48.23 $ 35.35 $ 35.69 $ 54.94 Average common shares outstanding for earnings per share: Basic 1,259 1,284 1,320 1,324 1,327 Diluted 1,285 1,298 1,330 1,336 1,360 Shares outstanding at period end 1,249 1,284 1,305 1,331 1,326 ---------------------------------------------------------------------------------------------------------------------------- Other Statistics Number of employees at period end: United States 40,500 41,800 41,100 48,700 53,400 Outside United States 37,000 36,400 34,400 35,700 35,500 ---------------------------------------------------------------------------------------------------------------------------- Total 77,500 78,200 75,500 84,400 88,900 ---------------------------------------------------------------------------------------------------------------------------- Number of shareholders of record 50,394 47,967 51,061 52,041 53,884 ============================================================================================================================= |
(a) Results for 2004 include five significant items: (1) a $109 million non-cash pretax charge ($71 million after-tax) related to the January 1, 2004 adoption of SOP 03-1; (2) a charge of $115 million (net of $32 million of reserves previously provided) related to a reconciliation of securitization-related cardmember loans; (3) a $117 million ($76 million after-tax) net gain on the sale of the equipment leasing product line of the Company's small business financing unit, American Express Business Finance Corporation; (4) aggregate restructuring charges of $102 million ($66 million after-tax) for initiatives executed during 2004; and (5) a reduction in merchant-related reserves of approximately $60 million that reflect changes made to mitigate loss exposure and ongoing favorable credit experience with merchants.
(b) Results for 2003 reflect a $20 million non-cash pretax charge ($13 million after-tax) related to the December 31, 2003 adoption of FIN 46, as revised.
(c) Results for 2001 include three significant items: (1) a charge of $1.01
billion pretax ($669 million after-tax) reflecting losses associated with
high-yield securities recorded during the first half of 2001; (2)
restructuring charges of $631 million pretax ($411 million after-tax); and
(3) the one-time adverse impact from the September 11th terrorist attacks of
$98 million pretax ($65 million after-tax).
(d) Computed on a trailing 12-month basis using total shareholders' equity as included in the Consolidated Financial Statements prepared in accordance with GAAP.
++ Denotes a variance of more than 100%.
AXP
AR.04
...
Financial Data
Exhibit 21
SUBSIDIARIES OF THE REGISTRANT
Unless otherwise indicated, all of the voting securities of these subsidiaries are directly or indirectly owned by the registrant. Where the name of the subsidiary is indented, the voting securities of such subsidiary are owned directly by the company under which its name is indented.
Jurisdiction
of
Name of Subsidiary Incorporation
I. American Express Travel Related Services Company, Inc.
and its Subsidiaries
American Express Travel Related Services Company, Inc. New York
Amex Canada Inc. Canada
1001675 Ontario Inc. Canada
1001674 Ontario Inc. Canada
Rexport, Inc. Canada
Amex Bank of Canada Canada
Sourcing Innovation, Inc. Canada
American Express Company (Mexico) S.A. de C.V. Mexico
American Express Servicios Profesionales, S.A. de C.V. Mexico
American Express Bank, FSB Utah
American Express Receivables Financing Corporation IV LLC Delaware
American Express Receivables Financing Corporation VII LLC Delaware
American Express Centurion Bank Utah
American Express Centurion Services Corporation Delaware
American Express Receivables Financing Corporation III LLC Delaware
American Express Receivables Financing Corporation VI LLC Delaware
American Express Credit Corporation Delaware
American Express Capital Australia Holdings LLC Delaware
American Express Euro Funding Limited Partnership Scotland
American Express Sterling Funding Limited Partnership Scotland
American Express Funding(Luxembourg) Sarl Luxembourg
American Express Overseas Credit Corporation Limited Jersey,
Channel Islands
AEOCC Finance Ltd. Jersey,
Channel Islands
AEOCC Management Company, Ltd. Jersey,
Channel Islands
American Express Overseas Credit Corporation N.V. Netherlands Antilles
Credco Receivables Corp. Delaware
Credco Finance, Inc. Delaware
American Express Canada Credit Corporation Canada
American Express Canada Finance, Inc. Canada
American Express Receivables Financing Corporation Delaware
American Express Receivables Financing Corporation II Delaware
American Express Receivables Financing Corporation V LLC Delaware
American Express Tax and Business Services Inc. Minnesota
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American Express TBS Investment Advisors, Inc. Delaware
American Express do Brasil Tempo & Cia, Inc. Delaware
Amex Latin American Holdings S.L. Spain
American Express Brasil S.A. Brazil
Banco American Express S.A. Brazil
American Express do Brasil Tempo Ltda. Brazil
American Express Corretagem de Seguros Ltda. Brazil
American Express Viagens e Turismo Ltda. Brazil
Swiss Branch Switzerland
American Express Limited Delaware
American Express (Malaysia) Sdn. Bhd. Malaysia
American Express (Thai) Co. Ltd. (78% owned) Thailand
TRS Card International Inc. (75% owned) Delaware
American Express de Espana, S.A.U. Spain
Amex Asesores de Seguros S.A.U. Spain
American Express Entidad Financiera de Credito S.A.U. Spain
American Express Foreign Exchange S.A.U. Spain
American Express Viajes, S.A.U. Spain
American Express International (B) SDN.BHD. Brunei
American Express International Holdings, LLC Delaware
South Pacific Credit Card Ltd. New Zealand
Centurion Finance, Ltd. New Zealand
American Express Argentina, S.A. Argentina
American Express Holdings (France) SAS France
American Express France SAS France
American Express Carte France, S.A. France
American Express (Paris) SAS France
American Express Assurances France
American Express Services S. A. France
American Express Voyages d'Affaires SAS France
American Express Change SAS France
American Express International, Inc. Delaware
Amex Travel Advisors, Limited Hong Kong
Swisscard AECS AG (50% owned) Switzerland
American Express Hungary KFT Hungary
American Express Hungary Rt. Hungary
American Express Company A/S Norway
American Express Locazioni Finanziarie, S.r.l. Italy
Amex Broker Assicurativo S.r.l. Italy
American Express International A.E.(Greece)(99% owned) Greece
American Express International (Taiwan), Inc. Taiwan
American Express Travel Holdings (Hong Kong) Limited Hong Kong
ACS AllCard Service GmbH Germany
American Express Bureau de Change S.A. Greece
AE Exposure Management Limited Jersey,
Channel Islands
American Express Poland S.A. Poland
American Express Poland Sp z o.o. Poland
Sociedad Internacional de Servicios de Panama, S.A. Panama
Amex Card Services Co. Ltd. Japan
American Express International Services Limited Russia
American Express Card Services Limited (95% owned) Russia
Amex Marketing Japan Limited Delaware
American Express (India) Private Ltd. India
|
P.T. American Express Travel Indonesia (80% owned) Indonesia
American Express spol. s.r.o. Czech Republic
Amex Travel Holding (Japan) Ltd. Japan
American Express Nippon Travel Agency, Inc. (55% owned) Japan
Amex Pre-Paid Card Y.K. Japan Japan
Schenker Rhenus Reisen Verwaltungsgesellschaft mbH Germany
American Express Holding AB Sweden
Resespecialisterna Syd AB Sweden
Forsakringsaktiebolaget Viator Sweden
Nyman & Schultz AB Sweden
Nyman & Schultz Corporate Card AB Sweden
Profil Reiser A/S (50% owned) Denmark
American Express Corporate Travel AS Norway
American Express Corporate Travel A/S Denmark
American Express Services India Limited (99.99% owned) India
American Express Foreign Exchange Services India Limited India
Mackinnons American Express Travel (Private) Limited (30% owned)Sri Lanka
American Express Superannuation Pty Limited Australia
American Express Wholesale Currency Services Pty. Limited Australia
American Express s.r.o. Slovakia
American Express Corporate Travel SA Belgium
American Express Corporate Travel SA Luxembourg
American Express Australia Limited Australia
American Express Holdings Limited England
American Express Services Europe Limited England & Wales
Uvet American Express Corporate Travel S.p. (35% owned) Italy
ICONCARD S.p.a. (50% owned) Italy
Immobiliare Spagna & Mignanelli S.r.l. (11.42% owned) Italy
Amex Insurance Marketing, Inc. Taiwan
American Express Publishing Corporation New York
Travellers Cheque Associates, Limited (54% owned) England & Wales
Bansamex S.A. (50% owned) Spain
Amex (Middle East) E.C. (50% owned) Bahrain
ASAL (American Express Saudi Arabia) (25% owned) Bahrain
American Express Europe Limited Delaware
American Express France Holdings I LLC Delaware
American Express Management SNC France
American Express France Finance SNC France
American Express France Holdings II LLC Delaware
American Express Group & Incentive Services, Inc. (90% owned) Michigan
American Express Insurance Services, Ltd. England & Wales
Cardmember Financial Services, Ltd. Jersey,
Channel Islands
Integrated Travel Systems, Inc. Texas
Amex General Insurance Agency Taiwan
American Express Bank (Mexico), S.A. Mexico
American Express Bank Services, S.A. de C.V. Mexico
American Express Incentive Services, Inc. Delaware
American Express Incentive Services, LLC (49% owned) Missouri
American Express International (NZ), Inc. Delaware
Cavendish Holdings, Inc. Delaware
American Express Business Loan Corporation Utah
|
Servicing Solutions, Inc. Delaware
Golden Bear Travel, Inc. Delaware
Travel Impressions, Ltd. Delaware
American Express Global Financial Services, Inc. Delaware
Sharepeople Group Limited England
American Express Financial Services Europe Limited England
American Express Insurance Services Europe Limited England
American Express Travel Holdings (M) Company SDN Malaysia
Mayflower American Express Travel Services SDN BHD Malaysia
Ketera Technologies, Inc. (20% owned) Delaware
Amex Card Services Company Delaware
Belgium Travel Belgium
Alpha Card SCRL (50% owned) Belgium
Alpha Card Merchant Services SCRL Belgium
South African Travellers Cheque Company (Pty) Ltd. (25% owned) South Africa
BOA Finance Company, Ltd. Thailand
American Express (China) Ltd. Delaware
Farrington American Express Travel Services Limited (37% owned) Hong Kong
American Express Insurance Agency of Puerto Rico, Inc. Puerto Rico
American Express Travel (Singapore) PTE Ltd. Singapore
Eclipse Advisors, Inc. Delaware
Rosenbluth International (Russia) Ltd. Pennsylvania
Rosenbluth France Holdings, S.A.R.I. France
Rosenbluth International France, S.A.R.I. France
Travel Management Investments Ltd. U.K. England
Rosenbluth International U.K. Limited England
Travel Elite Limited U.K. England
Rosenbluth International Hong Kong Ltd. Hong Kong
Rosenbluth International Mexico Mexico
Rosenbluth International Netherlands B.V. The Netherlands
Rosenbluth International B.V. The Netherlands
Rosenbluth Germany GMBH Germany
Rosenbluth International GMBH Germany
Rosenbluth International Reisebur GMBH Austria Austria
Rosenbluth International Limited Pennsylvania
Rosenbluth International Ireland Limited Ireland
Rosenbluth International (Israel) Ltd. Israel
II. American Express Financial Corporation and its Subsidiaries
American Express Financial Corporation Delaware
American Express Financial Advisors Inc. Delaware
American Express Financial Advisors Japan Inc. Delaware
American Express Management Company S.A. Luxembourg
American Express Trust Company Minnesota
IDS Life Insurance Company Minnesota
IDS REO 1, LLC Minnesota
IDS REO 2, LLC Minnesota
|
American Partners Life Insurance Company Arizona
IDS Life Insurance Company of New York New York
American Enterprise Life Insurance Company Indiana
American Enterprise REO 1, LLC Minnesota
American Centurion Life Assurance Company New York
American Express Corporation Delaware
American Express Certificate Company Delaware
Investors Syndicate Development Corp. Delaware
American Express Insurance Agency of Alabama Inc. Alabama
American Express Insurance Agency of Massachusetts Inc. Massachusetts
American Express Insurance Agency of New Mexico Inc. New Mexico
American Express Insurance Agency of Texas Inc. Texas
IDS Insurance Agency of Utah Inc. Utah
American Express Insurance Agency of Wyoming Inc. Wyoming
American Express Insurance Agency of Maryland Inc. Maryland
American Express Insurance Agency of Oklahoma Inc. Oklahoma
American Express Insurance Agency of Nevada Inc. Nevada
American Express Asset Management Group Inc. Minnesota
Advisory Capital Strategies Group Inc. Minnesota
Advisory Capital Partners LLC Delaware
Advisory Select LLC Delaware
Boston Equity General Partner LLC Delaware
Advisory Quantitative Equity (General Partner) LLC Delaware
Advisory Credit Opportunities GP LLC Delaware
Advisory European (General Partner) Inc. Cayman Islands
Advisory Convertible Arbitrage LLC Delaware
Kenwood Capitol Management LLC (51.1% owned) Delaware
Northwinds Marketing Group LLC (50.1% owned) Delaware
IDS Capital Holdings Inc. Minnesota
American Express Asset Management International Inc. Delaware
American Express Asset Management Ltd. England
IDS Management Corporation Minnesota
IDS Partnership Services Corporation Minnesota
IDS Cable Corporation Minnesota
IDS Futures Corporation Minnesota
IDS Realty Corporation Minnesota
IDS Cable II Corporation Minnesota
IDS Property Casualty Insurance Company Wisconsin
Amex Assurance Company Illinois
American Express Property Casualty Insurance Agency Inc. California
American Enterprise Investment Services Inc. Minnesota
American Express Insurance Agency of Arizona Inc. Arizona
American Express Insurance Agency of Idaho Inc. Idaho
American Express Property Casualty Insurance
Agency of Kentucky Inc. Kentucky
American Express Client Service Corporation Minnesota
|
American Express Property Casualty Insurance
Agency of Maryland Inc. Maryland
American Express Property Casualty Insurance
Agency of Mississippi Inc. Mississippi
American Express Property Casualty Insurance
Agency of Pennsylvania Inc. Pennsylvania
AEFA (Jersey) Limited Jersey,
Channel Islands
Securities America Financial Corporation Nebraska
Realty Assets, Inc. Nebraska
Securities America Advisors, Inc. Nebraska
Securities America, Inc. Nebraska
Securities America Insurance Agency of Alabama Alabama
Securities America Insurance Agency of Massachusetts Massachusetts
Securities America Insurance Agency of New Mexico New Mexico
Securities America Insurance Agency of Ohio Ohio
Securities America Insurance Agency of Wyoming Wyoming
American Express International Deposit Corp.
(50% owned and 50% owned by AEBL) Cayman Islands
American Express Asset Management (Australia) Limited Australia
Threadneedle Asset Management Holdings Ltd. England
Threadneedle Investments (Channel Islands) Ltd. Jersey,
Channel Islands
Threadneedle Asset Management Ltd. England
Threadneedle Portfolio Services Ltd. England
Threadneedle Investment Services Ltd. England
Threadneedle Asset Management (Nominees) Ltd. England
Threadneedle Investment Services GMbH Germany
Threadneedle International Fund Management Ltd. England
EMX Company Ltd. (22.5% owned) England
Cofunds Holdings Ltd. (16.3% owned) England
MM Asset Management Ltd. England
Eagle Star ISA Manager Ltd. England
Eagle Star Unit Managers Ltd. England
ADT Nominees Ltd. England
Threadneedle International Ltd. England
Threadneedle Management Services Ltd. England
Threadneedle Rural Property Services Ltd. England
Threadneedle Property Services Ltd. England
Threadneedle Pensions Ltd. England
Crockhamwell Road Management Ltd. (50% owned) England
Threadneedle Property GP Holdings Ltd. England
Threadneedle Property Investments Ltd. England
Sackville TCI Property (GP) Ltd. England
Sackville TCI Property Nominee (1) Ltd. England
Sackville TCI Property Nominee (2) Ltd. England
Sackville Property (GP) Ltd. England
Sackville Tandem Property (GP) Ltd. England
Sackville TPEN Property (GP) Ltd. England
Sackville TPEN Property Nominee Ltd. England
Sackville TPEN Property Nominee (2) Ltd. England
Sackville TSP Property (GP) Ltd. England
Sackville TSP Property Nominee Ltd. England
Castlepoint General Partner Ltd. (25% owned) England
|
III. American Express Banking Corp. and its Subsidiaries
American Express Banking Corp. New York
American Express Bank Ltd. Connecticut
Amex Holdings, Inc. Delaware
Amex Cyber International Ltd. British Virgin Islands
American Express Bank GmbH Germany
American Express FinanzManagement GmbH Germany
AEB - International Portfolios Management Company Luxembourg
Egyptian American Bank (41% owned) Egypt
American Express Bank (Switzerland) S.A. Switzerland
Amex International Trust (Guernsey) Limited Guernsey,
Channel Islands
Birdsong Limited Guernsey,
Channel Islands
Songbird Limited Guernsey,
Channel Islands
AITG Corporate Secretaries Limited Guernsey,
Channel Islands
Nominees One Limited Guernsey,
Channel Islands
Nominees Two Limited Guernsey,
Channel Islands
American Express Bank Asset Management (Cayman) Limited Cayman Islands
American Express Bank (Luxembourg) S.A. Luxembourg
Amex International Trust (Cayman) Ltd. Cayman Islands
Vesey Limited Cayman Islands
Global Nominees Limited Cayman Islands
American Express Bank International United States
Argentamex S.A. Argentina
Amex Nominees (S) Pte Ltd. Singapore
Amex Bank Nominee Hong Kong Limited Hong Kong
First International Investment Bank Ltd. (20% owned) Pakistan
Inveramex Chile Ltda. Chile
Amex Immobiliaria Ltda.(99% owned) Chile
American Express Bank Ltd., S.A. Argentina
|
American Express Bank Philippines (A Savings Bank), Inc. Philippines
AEB Global Trading Investments, Ltd. British Virgin Islands
American Express International Deposit Company Cayman Islands
Bankpar Participacoes Ltda. Brazil
American Express Bank (Brasil) Banco Multiplo S.A. Brazil
Inter American Express Arrendamento Mercantil S.A. Brazil
Mercantil, S.A. (95% owned) Brazil
Inter American Express Consultoria E Servicos Ltda. Brazil
MS Representacoes E Participacoes Ltda. Brazil
Inter American Express Overseas Ltd. Brazil
Imagra Imobiliaria E Agricola S.A. Brazil
Capital Promotora de Vendas Ltda. Brazil
The American Express Nominees Limited England & Wales
Amexco Nominees Pvt. Ltd. India
AEBL Uruguay Limited Uruguay
IV. Other Subsidiaries of the Registrant
Acuma Financial Services Ltd. Delaware
Acuma Ltd. Delaware
Ainwick Corporation Texas
American Express Asset Management Holdings, Inc. Delaware
Amexco Insurance Company Vermont
Amexco Risk Financing Holding Co. Delaware
checks-on-line, Inc. Delaware
National Express Company, Inc. New York
The Balcor Company Holdings, Inc. Delaware
The Balcor Company Delaware
Balcor Securities Company Illinois
Balcor Management Services, Inc. Illinois
International Capital Corp. Delaware
Intercapital Comercio e Participacoes Ltda. Brazil
Conepar Compania Nordestina de Participacoes S.A. (37% owned) Brazil
Acamex Holdings, Inc. Cayman Islands
Etisa Holdings Ltd. Cayman Islands
Empresas Turisticas Integradas, S.A. de C.V. (98% owned) Mexico
Floriano Representacoes Ltda. Brazil
International Capital Corp. (Ltd.) Cayman Cayman Islands
Rexport, Inc. Delaware
Drillamex, Inc. Delaware
UMPAWAUG I Corporation Delaware
UMPAWAUG II Corporation Delaware
UMPAWAUG III Corporation Delaware
UMPAWAUG IV Corporation Delaware
Daedalus Leasing Corp. New York
Dash 200 + Ltd. (50% owned) Cayman Islands
Nora Leasing, Inc. New York
Gemini Leasing Ltd. Cayman Islands
Far East Leasing Ltd. Cayman Islands
56th Street AXP Campus LLC (AZ) Arizona
FRC West Property L.L.C. Arizona
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EXHIBIT 31.1
CERTIFICATION
I, Kenneth I. Chenault, certify that:
1. I have reviewed this annual report on Form 10-K of American Express Company;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
(c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and
5. The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions):
(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.
Date: March 10, 2005
/s/ Kenneth I. Chenault
--------------------------
Kenneth I. Chenault
Chief Executive Officer
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EXHIBIT 31.2
CERTIFICATION
I, Gary L. Crittenden, certify that:
1. I have reviewed this annual report on Form 10-K of American Express Company;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
(c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and
5. The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions):
(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.
Date: March 10, 2005
/s/ Gary L. Crittenden
------------------------------
Gary L. Crittenden
Chief Financial Officer
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EXHIBIT 32.1
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Annual Report on Form 10-K of American Express Company (the "Company") for the fiscal year ended December 31, 2004, as filed with the Securities and Exchange Commission on the date hereof (the "Report"), Kenneth I. Chenault, as Chief Executive Officer of the Company, and Gary L. Crittenden, as Chief Financial Officer of the Company, each hereby certifies, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.
/s/ Kenneth I. Chenault ---------------------------------- Name: Kenneth I. Chenault Title: Chief Executive Officer Date: March 9, 2005 /s/ Gary L. Crittenden ---------------------------------- Name: Gary L. Crittenden Title: Chief Financial Officer Date: March 10, 2005 |
The foregoing certification is being furnished solely pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002, and is not being "filed" as part of the Form 10-K or as a separate
disclosure document for purposes of Section 18 of the Securities Exchange Act of
1934, as amended (the "Exchange Act"), or otherwise subject to liability under
that section. This certification shall not be deemed to be incorporated by
reference into any filing under the Securities Act of 1933, as amended, or the
Exchange Act except to the extent that this Exhibit 32.1 is expressly and
specifically incorporated by reference in any such filing.
A signed original of this written statement required by Section 906 has been provided to the Company and will be retained by the Company and furnished to the
Securities and Exchange Commission or its staff upon request.