soverreigh bancorp 2000_annual_report

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soverreigh bancorp 2000_annual_report

  1. 1. S ove reign B a n c o rp, I nc. 2 0 0 0 A n n u a l R e p o r t Striving to Increase Shareholder Value 300% Within the Next 5 Ye a rs
  2. 2. Company Profile Vision Sovereign Bancorp, Inc. is a $33 billion When consumers and financial services holding company businesses think of a World Class financial whose principal subsidiary is Sovereign services provider, they choose Sovereign Bank. Bank. Sovereign Bank’s franchise includes 556 community banking offices reaching from north of Boston to south of Mission Philadelphia. Sovereign Bank is among Sovereign Bank is a World Class financial the 30 largest financial institutions services provider, committed to helping in the country, the third largest bank our customers succeed by understanding headquartered in Pennsylvania and and anticipating their individual financial one of the largest lenders to small needs and providing customized solutions, and medium sized businesses in the resulting in an average customer having four Northeastern United States. plus services with the Bank. TA BL E O F C O N T E N T S FORWARD-LOOKING STATEMENTS Financial Highlights 1 The following discussion and Sovereign Bank Market Area 2 other portions of this Annual Letter to Fellow Shareholders 4 Report contain various forward-looking statements. Building a Solid Foundation for the Future 6 Please refer to page 12 for a Five-Year Financial Summary 11 discussion of the various Management’s Discussion and Analysis 12 factors that could adversely affect the actual results-- Financial Statements and Supplementary Data 40 causing them to differ Officers and Boards of Directors 76 materially from those expressed herein. Corporate Information Inside Back Cover
  3. 3. Financial Highlights CASH EARNINGS 2000 1999 %Change (dollars in millions, except per share data) (in millions of dollars) FOR THE YEAR Cash Earnings (1) $ 308.6 $ 231.5 33% (1) Operating Earnings 239.9 202.3 19% Net Income/(Loss) (includes special charges) (30.2) 179.3 (117%) Net Interest Income 854.8 614.7 39% Net Interest Margin (2) 3.19% 2.88% 11% PER SHARE Cash Earnings Per Share(1) $ 1.48 $ 1.34 10% Core Revenue Per Diluted Share(3) 5.26 4.31 22% Operating Earnings Per Share(1) 1.15 1.18 (3%) OPERATING EARNINGS (in millions of dollars) Net Income/(Loss) Per Share (includes special charges) (0.13) 1.01 (113%) (4) Book Valueat End of Period 8.60 8.08 6% Common Stock Price at End of Period 8.13 7.45 9% AT YEAR-END Total Assets $ 33,458 $ 26,607 26% Demand Deposits 7,723 2,961 161% Total Deposits 24,499 12,013 104% Total Loans 21,912 14,288 53% Stockholders’ Equity 1,949 1,821 7% FINANCIAL RAT I O S ASSETS (in billions of dollars) Cash Return on Average Assets(1) 0.99% 0.97% 2% Operating Return on Average Assets(1) 0.77% 0.85% (9%) (1) Cash Return on Average Equity 18.32% 17.73% 4% Operating Return on Average Equity(1) 14.24% 15.51% (8%) Efficiency Ratio(5) 54.31% 48.64% 12% Non-Performing Assets to Total Assets 0.56% 0.32% 75% Allowance for Loan Losses to Total Loans 1.17% 0.93% 26% (1) Cash earnings are operating earnings excluding amortization of intangible assets and ESOP-related expense. Operating earnings include certain one-time tax benefits and exclude the following special charges for 2000: merger-related, restructuring and integration charges related to recent acquisitions, as well as the impact on net interest income and shares outstanding from the early issuance of certain debt and equity instruments issued to finance Sovereign’s New England retail banking and middle market lending acquisition. (2) Net interest margin is on an operating basis and excludes negative carry from escrowed financing proceeds and reduced reinvestment income from net proceeds of equity offerings. (3) Core Revenue is net interest income after provision for loan losses plus non-interest income, excluding securities transactions. (4) Book value equals equity divided by common shares outstanding. (5) Efficiency Ratio equals operating expenses e xcluding merger-related and other integration charges as a percentage of total revenue, defined as the sum of net interest income excluding the negative carry from escrowed financing proceeds plus non-interest income excluding securities transactions. 1
  4. 4. Geographic Market Area Sovereign Bank Among the 30 largest financial institutions in US Among the largest Lenders to Small Businesses in the Northeast 3rd largest bank headquartered in PA 3rd largest banking franchise in New England Dominant Market Share: New England #3 Massachusetts #3 Rhode Island #3 Hartford, Connecticut #5 New Hampshire Mid Atlantic #3 Southeastern Pennsylvania #4 Central and Northern New Jersey 2
  5. 5. One Bank Multiple Markets S ove reign Bank Locations (1) BankingOffices ATMs Pennsylvania(1) 135 259 • New Jersey(1) 136 169 • “A large Delaware(1) 6 15 • New York 0 9 • MID ATLANTIC TOTAL 277 452 Regional Bank Connecticut 37 75 • Massachusetts 180 369 • with a small New Hampshire 13 21 • Rhode Island 49 90 • Community Vermont 0 20 • NEW ENGLAND TOTAL 279 575 GRAND TOTAL 556 1,027 Bank touch” (1) Includes one office in Pennsylvania, eleven offices in New Jersey and six offices in Delaware expected to be sold in 2001. 3
  6. 6. L et te r to Fellow Sh areholders Two thousand was another monumental year for Sovereign. Cash earnings per share increased 10%, while cash return on average equity was 18.3% and cash return on average assets was .99%. We more than doubled our deposit franchise, increased our net interest margin and completely transformed our balance sheet into a diversified commercial bank model. We are proud to highlight just a few of our team’s main accomplishments during 2000, which have created new opportunities for our customers and shareholders, as well as Jay S. Sidhu, President and Chief Executive Officer, exciting challenges for our team members. Sovereign Bancorp, Inc. and Sovereign Bank We are Financial Results committed Sovereign achieved cash earnings per share Non-interest income excluding securities to achieving of $1.48, an increase of 10% over 1999. transactions for the year was $229.7 million, above average Our 2000 core revenue (operating net interest an 82% increase from $126.1 million in 1999, annual increases income plus non-interest income, excluding and Sovereign Bank’s deposit fees were securities transactions) was $1.1 billion, an $91.3 million, an increase of 86% for 2000 as in shareholder increase of 48.0% over 1999. compared to $49.2 million reported in 1999. value Core revenue was $5.26 per diluted share, Business Line Gains up 22.0% from $4.31 per diluted share in Sovereign Bank’s commercial loan 1999. Sovereign’s operating net interest originations for the year were $2.3 billion margin improved 31 basis points to 3.19%. with commercial loans totaling $7.8 Our balance sheet repositioning continued billion, representing 36% of the loan with overall borrowing levels reduced by $6.1 portfolio, compared to $4.1 billion and CASH EPS billion or a reduction of 50% for the year. 29% of the loan portfolio at year end 1999. Consumer loans originated during On an operating basis, our earnings for 2000 2000 totaled $2.1 billion with the consumer were $239.9 million, up from $202.3 million loan portfolio increasing to $6.1 billion for the same period last year. Operating from $4.5 billion in 1999. Consumer loans earnings per share was $1.15 versus $1.18 comprised 28% of Sovereign Bank’s loan in 1999. The net impact of tax benefits plus portfolio in 2000 compared to 31% in 1999. merger related and restructuring of balance sheet special charges for the year were $243.8 Sovereign Bank’s retail-banking group million after-tax. Sovereign’s 2000 net loss, finished the year posting solid sales results. which includes the special charges noted As a result of Sovereign Bank’s Customer above, was $30.2 million, or $.13 per share. 4
  7. 7. Acquisition Strategy intitatives, checking and personal touch of a small community bank money market deposit growth for the year, with the sophistication of a large commercial excluding the New England acquisition bank. and branch sales, was a net increase of $684 million, a growth rate of 16.4% over 1999. Building a Solid Foundation The deposit generation initiatives coupled for the Future with the successful deposit retention efforts During 2000, Sovereign successfully integrated in New England, resulted in an increase of a large, very strategic acquisition that has $12.5 billion in total deposit balances for the dramatically improved the quality of our year. Core deposits, which include checking, franchise and balance sheet. We believe we savings, and money market accounts, have built a solid foundation and a strong increased $8.8 billion for the year. management team that can deliver, on Richard E. Mohn, average, a double-digit growth rate in cash Chairman of the Board, Sovereign Bank exceeded its own internal Sovereign Bancorp, Inc. and operating earnings. We believe our game and Sovereign Bank goals by successfully integrating the largest plan will result in above average growth in branch divestiture in U.S. banking history revenues. We expect to increase our tangible with virtually no net deposit or loan run off. Over the past 10 equity base by over $500 million by year end At the outset of the New England acquisition, 2002, without any new capital offerings. We years, operating we recognized the importance of customer are very clear about consistently focusing on earnings have retention, and team member efforts in this our critical success factors, as we look toward increased an area have been tremendous—contributing achieving a 300% increase in shareholder to a 99.8% net deposit retention rate through average of 19% value within the next five years. year-end—well ahead of our expectations. a year and the There is a lot of optimism and excitement total return Highly Focused Growth Strategy at Sovereign as we look to build upon our to shareholders Sovereign’s goal remains to achieve, over the stronger foundation. We are greatly indebted has averaged long-term, above average financial results and to the dedication of our team members, and 25% a year shareholder returns by implementing our the support from our customers and share- clearly defined corporate strategy. Over the holders as we continue to build a world class past ten years, operating earnings have financial services company in the Northeast increased an average of 19% a year and the United States. CORE REVENUE total return to shareholders has averaged 25% PER DILUTED SHARE a year. Our corporate strategy has been to achieve a dominant market position in high growth markets and differentiate ourselves on Richard E. Mohn the basis of quality of service provided, while Chairman of the Board closely monitoring asset quality, interest rate risk, efficiency ratios plus retaining and developing a highly motivated, well trained team. We are focusing on the middle income consumer market and businesses with less Jay S. Sidhu than $100 million in sales, and combining the President and Chief Executive Officer 5
  8. 8. Building a Solid Foun We believe the transformation Sovereign has undergone in recent years has been instrumental in building a solid Sovereign’s CEO, foundation for the future. We believe Sovereign is now positioned to achieve its vision of “when consumers and businesses think of a World Class financial services provider, Jay Sidhu, they choose Sovereign”. We believe this vision will result in above average returns to our shareholders. Our goal is to answers some increase shareholder value 300% within five years. of the most Q. What should shareholders expect from risk, which resulted in a significantly lower P/E and, hence, a lower stock price. Now that Sovereign over the next few years? we have proven to the marketplace that our A. Sovereign continually strives to frequently asked team has successfully completed the entire outperform the market in terms of quality integration, that capital levels are being of earnings, growth in cash and GAAP restored very quickly, and a solid foundation earnings, return on equity and, hence, above has been built, we believe Sovereign is average returns for shareholders. Although questions from poised to achieve higher average returns growth in operating earnings has been for shareholders. consistent over the years, we have had bumps in share price increases at certain times. Q. How does tangible capital build so fast However, the total return to shareholders has shareholders after October 2001? averaged 25% a year over the past ten years. A. Sovereign negotiated with FleetBoston to And now, Sovereign has set a goal to increase defer about $340 million of the purchase price shareholder value 300% or an average of over for the acquisition through October 2001. 50% a year over the next five years. When the U.S. Government had ordered Q. Why did Sovereign do the FleetBoston deal? FleetBoston to divest this franchise, they were prohibited from directly soliciting customers or A. In 1997, we had articulated our goal of employees of the acquirer for two years. If becoming a high performing commercial bank FleetBoston violates this agreement, Sovereign that has a diversified loan portfolio, a low-cost can withhold payments. This negotiated deposit base, higher margins and a dominant agreement with FleetBoston decreased the market position. The FleetBoston acquisition goodwill recorded by approximately $340 accelerated this transformation at a very million, and gave Sovereign the ability to pay reasonable price of under seven times for the acquisition from current profits rather earnings. We acquired 100% of the Fleet Bank than additional borrowings or equity franchise in eastern Massachusetts, 100% of issuances. This payment is expected to be the Bank Boston franchise in Rhode Island, completed by October 2001. After that date, and parts of the Bank Boston franchise in we expect generation of internal tangible western Massachusetts and Connecticut. This equity to increase to approximately $40 franchise included the entire small business million a month or over $430 million in 2002, and middle market lending groups and no after making dividend payments. Therefore, non-performing assets. In the short run, we going forward, we believe capital should not took on a significant integration and capital be a problem for Sovereign. 6
  9. 9. dation the Future Q. What do you see as the company’s top business plans. In consumer banking, we are three weaknesses? implementing our strategies to increase non- interest revenues by over 50% within two A. Our top three weaknesses are a below OPERATING EARNINGS years through superior sales efforts, and to PER SHARE average holding company tangible capital increase our lower cost core deposits by 10% ratio, facing a probable slowdown in the a year, which will result in an improved economy which could put short term pressures efficiency ratio. In the corporate banking area, on asset quality, and a need to continue to our primary focus is on maintaining superior build the infrastructure for a solid commercial asset quality during these uncertain times bank which may result in a higher than and on increasing our market share among desired efficiency ratio. small to medium sized businesses with less than $100 million in sales. In addition, we Our holding company Tier 1 capital ratio is expect to build in excess of $500 million in about 3.50%, which is expected to increase to internally generated tangible common equity about 5% by year-end 2002. At the bank level, by year end 2002, that will allow us to we have a goal of keeping a minimum Tier 1 strengthen our equity capital while we pay leverage ratio of 6.75% and risk based capital off our holding company debt. ratio of 10.25%. This gives our bank significant strength, especially during these uncertain e= projected estimate As a result of this focused and differentiated economic times. Asset quality continues to strategy of combining the best of a smaller receive high priority among top management. community-oriented commercial bank with the Over the long haul, we expect our efficiency best of a large bank, while paying attention to ratios to be in the low 50’s or high 40’s. our four critical success factors, we will be striving to achieve $2.00 per share in earnings Q. What is Sovereign’s strategy to by 2005, hopefully resulting in a stock price achieve above average financial results and between $24 and $30. Our management shareholder value over the next few years? short-term and long-term bonus plans are Striving A. Now that we have built a strong aligned with these financial goals. foundation for the future, we are totally focused on executing our financial and to increase Our Beliefs and Principles We achieve our mission and practice our values in an ethical, moral and legal shareholder atmosphere, where mutual trust and understanding are practiced. We keep our promises, admit our mistakes and abide by these basic principles in decision making and the way we do business: • We encourage all team members to have a Business Plan and a Personal Development value 300% Plan, suggesting and supporting stretch goals. • We give individuals the authority to use their capabilities to the fullest to provide solutions for our customers’ needs. within the • We communicate frequently with candor, listening to each other, regardless of level or position or tenure. • We focus on situation, issue or behavior, not on the person. next 5 years • We acknowledge problems openly and honestly and deal with conflicts as they arise. • We believe in maintaining the self-confidence and self-esteem of others. • We always strive to make things better, while maintaining constructive relationships and leading by example. 7
  10. 10. Building for the Future FOCUS ON CLEARLY DEFINED CRITICAL SUCCESS FA C T O R S In 1987, Sovereign defined its four critical success factors as superior asset quality, low interest rate risk, low overhead, and a strong sales and service culture supported through growth and development of team members. We will always strive to achieve our critical success factors and adhere to these enduring themes. S o v e re i g n ’ s G r o w t h Dennis S. Marlo, CPA, Chief Financial Officer and Treasurer, 1986(1) Sovereign Bancorp, Inc. 2000 and Sovereign Bank Assets . . . . . . . . . . . . . . . . . . . . $660 million $33 billion Branches . . . . . . . . . . . . . . . . . . 19 556 Asset quality overall Market Position . . . . . . . . . . . . . . 20th in PA 30th largest remains solid and in US (1) As originally reported. in-line with regional bank peers Superior Asset Quality Superior asset quality remains a high service and to ensure Sovereign Bank to priority at Sovereign Bank. Sovereign Bank better understand the customer’s business has quality control procedures to ensure and financial needs which, in turn, helps to that commercial credits are approved and maintain strong, healthy loan relationships. ALLOWANCE FOR LOAN LOSSES independently reviewed by teams of credit (in millions of dollars) and loan review officers. Sovereign Bank’s As Sovereign continues with the team of commercial and consumer relationship transformation of its balance sheet, officers and credit risk officers work closely Sovereign will continue to actively with our customers to ensure personalized manage the quality of its loan portfolios. As set Qual it y Ratios 1996 1999 2000 Non-Performing Assets to Total Assets . . . . . .78% .32% .56% Non-Performing Loans to Total Loans . . . . . 1.05% .55% .82% Allowance for Loan Losses to Total Loans . . . .76% .93% 1.17% Net Charge-Offs to Average Loans . . . . . . . . .19% .29% .35% Allowance to Non-Performing Loans . . . . . . 73% 168% 143% 8
  11. 11. Low Interest Rate Risk Interest rate risk management will always in interest rates. To this end, Sovereign’s be an important focus at Sovereign. primary strategy is to maintain a neutral Sovereign believes in consistency of gap position and minimize interest earnings and that the stability of earnings rate risk through active management of must not be materially affected by changes its earning assets and funding sources. Tra n s formed to a Higher Pe r f o r m ing Dive rsified Loan Mix December 2000 December 1997 John P. Hamill, Chairman and Chief Executive Officer Commercial of the Sovereign Bank New England 27% 28% Division, Sovereign Bank 36% Residential 61% 12% 36% As a result of the New Consumer England acquisition 7.8% 8.3% Yield completed in 2000, $11.6 billion $21.9 billion Size Sovereign Bank truly Transformed to a Stable Low Cost Deposit Mix became one bank December 2000 December 1997 in multiple markets Checking 30% 38% 31% 56% Time Deposits 14% 31% Other Core 4.2% 3.8% Cost $9.5 billion $24.5 billion Size Loan to 122% 89% Deposit Ratio Low Overhead Joseph P. Campanelli, President, Sovereign Bank New England Division and President, Business Banking Providing quality service in a low-cost of net interest income and recurring Division, Sovereign Bank and efficient manner continues to be a non-interest income) was 54.3%. Sovereign cornerstone of Sovereign Bank’s success, believes long-term performance belongs Our personalized with all team members being acutely to growth companies that have a clear service allows aware of the importance of having a highly cut, highly focused, disciplined strategy productive company. For the year ended providing efficiency ratios in the low 50’s Sovereign Bank December 31, 2000, Sovereign’s efficiency or high 40’s. to better understand ratio (all operating expenses as a percentage the customer’s business 9
  12. 12. Strong Sales and Service Culture The Sovereign Way is our company culture The Team Involvement Program, known and is the foundation from which Sovereign to team members as quot;TIPquot;, adds to the Bank grows. We understand the way we corporate culture by encouraging every perform our jobs has a direct correlation team member to become an active with the view a customer has of Sovereign participant in the business of the Company. Bank. We believe that team member The Team Involvement Program is an performance is a major determining force on-going process at Sovereign Bank that to the success of Sovereign Bank. Our goal provides a set of values which supports is to stand out among our competitors and team members to ask critical questions to become the bank with whom people about their jobs and investigate and want to do business. When consumers implement continuous process improvements. Lawrence M. Thompson, Jr., Esq., and businesses think of a World Class Chief Administrative Officer and Secretary, Sovereign Bancorp, Inc. financial services provider, we want This program encourages and empowers Chief Operating Officer and Division them to think of Sovereign Bank first. every team member to analyze current President of Consumer Banking Division, Sovereign Bank workflow, identify redundancies and quot;The Sovereign Wayquot; process is helping us inefficiencies and actively pursue process Sovereign Bank believes to build upon our corporate culture. It’s not improvements. Therefore, the Team that continued success a way to deliver customer service, but a Involvement Program is part of our corporate way of life. The program is comprised of culture that promotes productivity and bashes is dependent upon five modules with each module building bureaucracy. This program is a catalyst for World Class team upon the other, layering skills and strategies change, not an end in itself. The main focus members providing for providing World Class service. These of the Team Involvement Program is on the World Class service modules include Customer Relationship, process not the program. Listening and Communication Skills, Accuracy and Productivity, Customized The Sovereign Way and the Team Involvement DEPOSIT FEES Solutions, and Customer Satisfaction. Program incorporate bank wide strategic (in millions of dollars) Each module is studied for a minimum initiatives to enhance Sovereign Bank’s of four weeks during which time the corporate culture. These programs bring team members are observed by leaders Sovereign Bank’s mission and corporate to ensure that the concepts are absorbed values to life and we believe these values are and implemented. Upon completion of ultimately responsible for producing growth each module, certification is given. in shareholder wealth. With Sovereign Bank expanding into new regions, these values are The Sovereign Way is all about layering more important than ever before. Sovereign skills and strategies for providing World Bank believes that continued success is Class Service. The next phase, which builds dependent upon World Class team members upon the foundation of the Sovereign Way providing World Class service. is Sovereign’s Team Involvement Program. 10
  13. 13. F i v e – Y e a r F i n a n c i a l S u m m a r y (1) BALANCE SHEET DATA At December 31, (dollars in millions) 2000 1999 1998 1997 1996 ___________ ___________ ___________ ___________ ___________ Total assets $ 33,458 $ 26,607 $ 21,914 $ 17,655 $ 15,299 Loans 21,912 14,288 11,583 11,635 9,734 Deposits 24,499 12,013 12,460 9,537 8,661 Stockholders’ equity 1,949 1,821 1,204 1,048 890 STOCK STATISTICS(2) At or For the Year Ended December 31, (shares in millions, except per share data) 2000 1999 1998 1997 1996 ___________ ___________ ___________ ___________ ___________ Common shares outstanding 226.5 225.5 159.7 141.2 134.0 Common share price $ 8.13 $ 7.45 $ 14.25 $ 17.31 $ 9.13 Book value per share(3) 8.60 8.08 7.54 7.42 6.64 Dividends declared per common share(4) 0.10 0.10 0.08 0.11 0.14 SUMMARY STATEMENT OF OPERATIONS Year Ended December 31, (dollars in millions, except per share data) 2000 1999 1998 1997 1996 ___________ ___________ ___________ ___________ ___________ Total interest income $ 2,270 $ 1,607 $ 1,355 $ 1,179 $ 1,017 Total interest expense 1,415 992 862 747 630 ___________ ___________ ___________ ___________ ___________ Net interest income 855 615 493 432 387 Provision for loan losses 57 30 28 41 23 ___________ ___________ ___________ ___________ ___________ Net interest income after provision for loan losses 798 585 465 391 364 ___________ ___________ ___________ ___________ ___________ Other income 109 130 105 49 63 General and administrative expense(5) 731 393 327 244 228 Other expenses 282 54 32 26 61 ___________ ___________ ___________ ___________ ___________ Income/(loss) before taxes (106) 268 211 170 138 Income tax provision/(benefit) (65) 89 75 67 48 Gain on sale of FHLB advances(6) 11 - - - - ___________ ___________ ___________ ___________ ___________ Net income/(loss)(7) $ (30) $ 179 $ 136 $ 103 $ 90 ___________ ___________ ___________ ___________ ___________ Operating earnings(8) $ 240 $ 202 $ 170 $ 139 $ 115 ___________ ___________ ___________ ___________ ___________ Diluted earnings/(loss) per share $ (0.13) $ 1.01 $ 0.85 $ 0.66 $ 0.59 Operating earnings per share 1.15 1.18 1.06 0.89 0.76 Cash earnings per share(9) 1.48 1.34 1.17 0.99 0.87 (1) All financial highlights have been restated to reflect all acquisitions which have been accounted for under the pooling-of-interests method of accounting. (2) All per share data have been adjusted to reflect all stock dividends and stock splits. (3) Book value is calculated using equity divided by common shares outstanding at end of period. (4) The higher dividend rate in prior periods is the result of acquisitions which were accounted for as a pooling-of-interests. (5) General and Administrative expenses for the year ended December 31, 2000 and 1999 include special charges of $149 million and $50 million, respectively, related to merger and other integration expenses, restucturing charges, and non-solicitation expense. See Reconciliation of Net Income to Operating Earnings in “Management’s Discussion and Analysis” hereof. (6) Net of tax of $5.2 million. (7) The results for the years ended 2000, 1999, 1998 and 1997 include merger related and other integration charges of $270 million, $23 million, $34 million, and $37 million, after tax, respectively. (8) See a “Reconciliation of Net Income to Operating Earnings” in Management’s Discussion and Analysis for explanation of special charges excluded from operating earnings. (9) Cash earnings are operating earnings e xcluding amortization of intangible assets and ESOP–related expense. 11
  14. 14. Management’s Discussion and Analysis trade, monetary and fiscal policies and laws, including interest rate FORWARD-LOOKING STATEMENTS policies of the Board of Governors of the Federal Reserve System; (3) inflation, interest rate, market and monetary fluctuations; (4) the Sovereign Bancorp, Inc. (quot;Sovereignquot; or “the Company”) may from ability of Sovereign and Sovereign Bank to successfully integrate the time to time make quot;forward-looking statements,quot; including statements assets, liabilities, customers, systems and management we acquire contained in Sovereign's filings with the Securities and Exchange into our operations; (5) the timely development of competitive new Commission (including its Annual Report on Form 10-K and the products and services by Sovereign Bank and the acceptance of such Exhibits thereto), in its reports to shareholders (including this 2000 products and services by customers; (6) the willingness of customers Annual Report) and in other communications by Sovereign, which to substitute competitors’ products and services and vice versa; are made in good faith by Sovereign, pursuant to the quot;safe harborquot; (7) the success of Sovereign and Sovereign Bank in meeting the provisions of the Private Securities Litigation Reform Act of 1995. post-closing regulatory requirements with respect to the FleetBoston acquisition, and the ability to pay installments on a timely These forward-looking statements include statements with respect to basis related to the non-solicitation agreement in connection with the Sovereign's vision, mission, strategies, goals, beliefs, plans, objectives, acquisition; (8) the impact of changes in financial services’ laws and expectations, anticipations, estimates, intentions, financial condition, regulations and the application of such laws and regulations (including results of operations, future performance and business of Sovereign, laws concerning taxes, capital, liquidity, proper accounting treatment, including: (i) statements relating to Sovereign’s expectations and goals securities and insurance) and the impact of changes in generally with respect to (a) growth in cash earnings, operating earnings, net accepted accounting principles; (9) technological changes; (10) income, shareholder value and internal tangible equity generation; changes in consumer spending and savings habits; (11) unanticipated (b) growth in earnings per share; (c) return on equity; (d) return regulatory or judicial proceedings; (12) changes in asset quality; on assets; (e) efficiency ratio; (f) tier 1 leverage ratio; (g) annualized and (13) the success of Sovereign at managing the risks involved net charge-offs and other asset quality measures; (h) fee income as in the foregoing. a percentage of total revenue; (i) tangible equity to assets; (j) book value and tangible book value per share; (k) loan and deposit portfolio Operating earnings, cash earnings, and core revenue, as defined, compositions, employee retention, deposit retention, asset quality, and the related ratios using these measures are not a substitute for reserve adequacy; and (ii) statements preceded by, followed by other financial measures determined in accordance with generally or that include the words “may,” “could,” “should,” “pro forma,” accepted accounting principles (“GAAP”). Because all companies “looking forward,” “would,” “believe,” “expect,” “anticipate,” do not calculate these non-GAAP measures in the same fashion, “estimate,” “intend,” “plan,” “strive,” “hopefully,” “try,” or similar these measures as presented may not be comparable to other expressions. Although we believe that the expectations reflected in similarly titled measures of other companies. our forward-looking statements are reasonable, these forward-looking statements involve risks and uncertainties which are subject to change Sovereign cautions that the foregoing list of important factors is based on various important factors (some of which, in whole or in part, not exclusive, and neither such list nor any such forward-looking are beyond Sovereign’s control). The following factors, among others, statement takes into account the impact that any future acquisition could cause Sovereign’s financial performance to differ materially from may have on Sovereign and any such forward-looking statement. the goals, plans, objectives, intentions and expectations, forecasts and Sovereign does not undertake to update any forward-looking statement, projections (and underlying assumptions) expressed in such forward- whether written or oral, that may be made from time to time by or looking statements: (1) the strength of the United States economy in on behalf of Sovereign. general and the strength of the regional and local economies in which Sovereign conducts operations, (2) the effects of, and changes in, 12
  15. 15. MANAGEMENT'S DISCUSSION AND ANALYSIS Summary of Operations. Sovereign reported cash earnings for 2000 OF RESULTS OF OPERATIONS AND of $309 million, or $1.48 per share, up from $231 million and $1.34 FINANCIAL CONDITION per share in 1999. This represents an increase in cash earnings of 33% and a 10% increase in cash earnings per share. Cash earnings are operating earnings excluding amortization of intangible assets and General. Sovereign Bancorp, Inc., (“Sovereign” or “the Company”), ESOP-related expense. Operating earnings for 2000 were $240 million, with assets of $33.5 billion at December 31, 2000, was the 30th largest an increase of 19% from 1999 operating earnings of $202 million. banking company in the United States, with over 550 offices covering Operating earnings per share for 2000 was $1.15, as compared to a geographic region stretching from north of Boston to south of operating earnings per share of $1.18 in 1999 (for more information Philadelphia. The growth of Sovereign in 2000 was mainly due to the related to operating and cash earnings, see the Reconciliation of acquisition of $12.3 billion of deposits, $8.0 billion of loans, and over Net Income to Operating Earnings on page 14). Net loss for 2000 was 280 community banking offices from FleetBoston Financial (the “SBNE $30 million or $.13 per share. Net income for 1999 was $179 million acquisition”). Sovereign successfully completed the SBNE acquisition in or $1.01 per share. This represents a decrease in net income of $209 three phases on March 24, June 16, and July 21, 2000. The acquisition, which million, which is due to increased merger-related and other unusual became Sovereign Bank New England (SBNE), amounted to the largest charges recorded in 2000, primarily directly or indirectly related to branch acquisition in banking history as detailed below. (For more details the SBNE acquisition, and certain securities transactions. On an on the SBNE acquisition, and other acquisitions, see Note 2– Business operating basis, return on average equity and return on average Combinations in the quot;Notes to Consolidated Financial Statementsquot;) assets were 14.24% and .77%, respectively, for 2000 compared to 15.51% and .85%, respectively, for 1999. SUMMARY OF COMPLETED SBNE ACQUISITION (Dollars in billions) Sovereign analyzes its performance on a net income basis determined in accordance with generally accepted accounting principles, as well DATE DIVESTED UNITS DEPOSITS LOANS BRANCHES as on an operating and a cash operating basis before special charges referred to in this analysis as “operating earnings” and “cash earnings”. March 24, 2000 . . Rhode Island, Operating and cash earnings and related discussions are presented Connecticut (BankBoston) $ 4.2 $ 2.5 90 as supplementary information in this analysis to enhance the readers’ June 16, 2000 . . . Eastern Mass (Fleet) 3.8 3.5 86 understanding of, and highlight trends in, its core financial results July 21, 2000 . . . Central Mass, New Hampshire (Fleet) _____4.3 2.0 105 excluding the nonrecurring effects of discreet business acquisitions ___ _____ _______ $ 12.3 $ 8.0 281 and other transactions. The Company has included these additional disclosures of operations before special charges because this information is both relevant and useful in understanding performance of the Company. Operating and cash earnings should not be viewed as As a result of the SBNE acquisition, 2000 was a year of repositioning a substitute for net income and earnings per share as determined Sovereign for the future—more than doubling our deposit base, in accordance with generally accepted accounting principles. Merger- changing the mix of loans to be more similar to that of a commercial related charges and other items excluded from net income used to bank, adding experienced banking professionals to senior management derive operating and cash earnings and the effect of certain and over 3,000 staff to the organization. Sovereign successfully non-recurring tax benefits included in operating earnings may be integrated over 280 community banking branches, accounting and significant and may not be comparable to other companies. Special computer systems and achieved net retention equal to 99.8% of charges were $270.1 million after-tax for the year ended December 31, the $12.3 billion deposits acquired in the SBNE acquisition at 2000 and $23.0 million after-tax for the year ended 1999. December 31, 2000. Restructuring Charges. In November 2000, the Company announced Sovereign’s financial results for 2000 reflect the SBNE acquisition the results of a restructuring initiative called “Shaping Sovereign’s from the dates noted above. Additionally, the results reflect merger- Future” (SSF). In addition to realigning the Office of the Chief Executive related and integration charges related to all of Sovereign’s recent Officer and the Company around customer segments, Sovereign acquisitions, restructuring charges, and non-solicitation expenses analyzed front and back office operations and computer operating (for more information related to these expenses see the Reconciliation platforms and eliminated approximately 500 positions. In total, of Net Income to Operating Earnings on page 14). Sovereign recorded $18.5 million in restructuring costs, which was comprised of $14 million of severance and outplacement costs, and All per share amounts presented in Management’s Discussion and a $4.5 million write-off of a redundant computer-operating platform. Analysis of Financial Condition and Results of Operations have been adjusted to reflect all stock dividends and stock splits. 13
  16. 16. Management’s Discussion and Analysis Operating earnings include certain tax benefits related to the sale of minority interests and exclude special charges related to restructuring and merger-related costs as more fully described in the footnotes below. The net impact of the tax benefits and special charges for the year ended December 31, 2000 were $243.8 million after-tax. A reconciliation of net income to operating earnings is presented below: RECONCILIATION OF NET INCOME TO OPERATING EARNINGS (Dollars in thousands, except per share data – all amounts are after-tax) ____________________YEAR_ENDED ____________31,___________________ _____ _______ DECEMBER __ TOTAL _______________SHARE_________ PER ______ _______________________________ _____20______ __00 1999 _ 2000 ____19______ __99 ____________ ____________ Net income/(loss) as reported . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ (30,242) $ 179,299 $ (0.13) $ 1.01 Net negative carry on escrowed bond proceeds(1). . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18,589 3,123 0.08 0.02 Merger-related and integration costs related to recent acquisitions(2) . . . . . . . . . . . . . . . 97,063 20,576 0.43 0.12 Expense on convertible trust preferred securities (quot;PIERSquot;)(1) . . . . . . . . . . . . . . . . . . . . 6,502 2,125 0.03 0.01 Loss on securities due to restructuring of the balance sheet(3) . . . . . . . . . . . . . . . . . . . . 66,956 – 0.29 – Restructuring(4) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12,025 – 0.05 – Non-solicitation expense(5) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 78,039 – 0.35 – Assumed income from reinvestment of net proceeds of common equity and PIERS(1). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (9,051) (2,827) (0.04) (0.02) Impact of additional shares outstanding for 2000 common and PIERS securities offerings(6). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ____________– ___________– __________09 0.__ 0.04 _ _ ____________ Operating earnings(6)(7) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $____________ 239,881 _________29_ $ 202,__6 $ 1.15 $ 1.18 _ ____________ ____________ Cash earnings(6)(7) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ _____3___564 _08, ___ ___________7 $ 231,46_ __________48 $ 1.__ __________34 $ 1.__ _ (1) In connection with the SBNE acquisition, Sovereign raised $1.8 billion of debt and equity capital in November and December 1999 of which $1.3 billion of debt proceeds were in escrow with limited ability to reinvest the proceeds until the acquisition was completed on July 21, 2000. Consequently, the excess of negative carry and trust preferred expense over interest expense reduction realized on the raised capital resulted in a net reduction in pretax income of $24.7 million ($16.0 million after-tax) and $3.7 million ($2.4 million after-tax) comprised of the following components for the years ended December 31, 2000 and 1999: a) a reduction of net interest income of $28.6 million ($18.6 million after-tax) and $4.7 million ($3.1 million after-tax); b) expense of $10.0 million ($6.5 million after-tax) and $3.1 million ($2.1 million after-tax) associated with PIERS issued in November 1999; c) an assumed $13.9 million ($9.1 million after-tax) and $4.4 million ($2.8 million after-tax) of interest expense reduction from the assumed paydown of other borrowings with the proceeds of the Trust Preferred Securities and common stock offerings. (2) Merger-related and integration charges related to recent acquisitions include direct costs associated with the SBNE acquisition, including investment banking and debt commitment fees, indirect costs incurred to integrate recent acquisitions into Sovereign’s back-office systems, costs of training, relocation and associated travel, and management’s estimate of the carrying costs of certain facilities and personnel acquired in the first closing on March 24, 2000 that were not fully operational until July 21, 2000, the date of the final closing. Also included in merger-related and integration costs are expenses paid related to a structured real-estate transaction involving certain real estate related to SBNE. (3) In June and September 2000, Sovereign sold $2.1 billion of investment securities as part of a balance sheet deleveraging strategy and incurred a $103 million loss ($67.0 million after-tax). Sovereign used the proceeds from such sales primarily to repay short-term borrowings. (4) As more fully discussed in “Restructuring Charges”, Sovereign recorded $18.5 million ($12.0 million after-tax) primarily related to severance and outplacement related expenses. (5) As more fully discussed in Note 2 to the Financial Statements, Sovereign is required to pay to FleetBoston, subject to FleetBoston’s compliance with a non-solicitation agreement, $333 million over a 19 month period. Sovereign is expensing such payments ratably from the completion of the acquisition to the completion of the payment period. (6) Operating earnings per share and cash earnings per share are calculated using a weighted average number of shares which include for the years ended December 31, 2000 and 1999, a pro rata portion of the shares issued in November, 1999 in proportion to deposits acquired on March 24, 2000, June 16, 2000, and July 21, 2000 over total estimated SBNE deposits acquired in each phase of the SBNE acquisition. ( 7 )O p e rating earnings and cash earnings represent alternative measures of performance and do not represent earnings available to stockholders. 14
  17. 17. The escrow funds were invested in commercial paper which matured RESULTS OF OPERATIONS FOR THE YEARS in conjunction with the escrow break on the final closing of the ENDED DECEMBER 31, 2000 AND 1999 acquisition on July 21, 2000. Net Interest Income. Net interest income for 2000 was $855 Interest and fees on loans were $1.6 billion for 2000 compared to million compared to $615 million for 1999, or an increase of 39%. $959 million for 1999. The average balance of net loans was $19.4 The increase in net interest income in 2000 was due primarily to billion with an average yield of 8.40% for 2000 compared to an the increases in interest-earning assets from the SBNE acquisition average balance of $12.4 billion with an average yield of 7.77% for and internal asset growth, offset slightly by the deleveraging of the 1999. The increase in average loan volume was primarily the result balance sheet in the second and third quarters of 2000. The SBNE of the SBNE acquisition and internal loan growth. The acquisition acquisition added $8.0 billion to average loans and $6.9 billion to added $8.0 billion to average loans. The increase in the rate was average deposits (replacing higher cost FHLB borrowings) in 2000. due to a higher mix of higher yielding commercial and consumer Net interest margin – operating basis (net interest income adjusted loans, and rate increases reflected in the adjustable rate loans. to eliminate the negative impact from escrowed financing proceeds related to the SBNE acquisition, divided by average interest-earning Interest on total deposits was $735 million for 2000 compared to assets) was 3.19% for 2000 compared to 2.88% for 1999. $441 million for 1999. The average balance of total deposits was $19.2 billion with an average cost of 3.83% for 2000 compared to Interest on interest-earning deposits was $22.2 million for 2000 an average balance of $12.2 billion with an average cost of 3.61% compared to $4.7 million for 1999. The average balance of interest- for 1999. The increase in the average balance was due primarily earning deposits was $138 million with an average yield of 16.08% to the acquisition of deposits in the SBNE acquisition, which added for 2000 compared to an average balance of $15.2 million with an over $6.9 billion to average deposits during 2000. The increase in average yield of 31.12% for 1999. The increase in average interest- rates in 2000 mainly reflects the increase in time deposit and money earning deposits was due to $200 million placed on deposit with market account rates due to market conditions. FleetBoston in March 2000 until the acquisition was completed in July 2000. The high yields were the result of an outsourced accounts Interest on borrowings and long-term debt was $680 million for 2000 payable process whereby a third-party vendor performs check processing compared to $552 million for 1999. The average balance of total and reconcilement functions for Sovereign's disbursement accounts borrowings was $10.3 billion with an average cost of 6.54% for 2000 and pays Sovereign interest on disbursed funds during the two-to- compared to an average balance of $10.1 billion with an average cost three day float period, effectively producing interest income with no of 5.46% for 1999. Although the average balance was consistent corresponding asset balance. The decrease in rates was due primarily between 2000 and 1999, borrowings and debt decreased approximately to the lower relative interest rate earned on the $200 million deposit $6 billion on an absolute basis. mentioned above as compared to the implied rate earned on the accounts payable process. Average non-interest earning assets were $3.6 billion for 2000, as compared to $2.0 billion for 1999, an increase of $1.6 billion. The Interest on investment securities available-for-sale was $487 million increase was due primarily to additions of non-earning assets during for 2000 compared to $544 million for 1999. The decrease in interest 2000 including $1.1 billion in goodwill from the SBNE acquisition, income was due to the decrease in average investment securities an additional investment in bank owned life insurance (BOLI) of available for sale from $8.1 billion in 1999 to $6.8 billion in 2000, $200 million, and the addition of the precious metals business and which resulted from the sale of approximately $2.1 billion in investment equipment of $171 million, also related to the SBNE acquisition. securities in June and September. Interest on investment securities held-to-maturity was $132 million for 2000 compared to $99.8 million for 1999. The average balance of investment securities held-to-maturity was $2.0 billion with an average yield of 6.80% for 2000 compared to an average balance of $1.4 billion with an average yield of 6.94% for 1999. The increase in the average balance was primarily due to the creation of a $1.3 billion escrow fund in the fourth quarter 1999, which was used to fund the SBNE transaction. 15

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