Fifth Third Bank 2013 Annual Report Download - page 136

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
134 Fifth Third Bancorp
Visa litigation
The Bancorp, as a member bank of Visa prior to Visa’s
reorganization and IPO (the “IPO”) of its Class A common shares
in 2008, had certain indemnification obligations pursuant to Visa’s
certificate of incorporation and by-laws and in accordance with their
membership agreements. In accordance with Visa’s by-laws prior to
the IPO, the Bancorp could have been required to indemnify Visa
for the Bancorp’s proportional share of losses based on the pre-IPO
membership interests. As part of its reorganization and IPO, the
Bancorp’s indemnification obligation was modified to include only
certain known litigation (the “Covered Litigation”) as of the date of
the restructuring. This modification triggered a requirement to
recognize a $3 million liability for the year ended December 31,
2007 equal to the fair value of the indemnification obligation.
Additionally during 2007, the Bancorp recorded $169 million for its
share of litigation formally settled by Visa and for probable future
litigation settlements. In conjunction with the IPO, the Bancorp
received 10.1 million of Visa’s Class B shares based on the
Bancorp’s membership percentage in Visa prior to the IPO. The
Class B shares are not transferable (other than to another member
bank) until the later of the third anniversary of the IPO closing or
the date which the Covered Litigation has been resolved; therefore,
the Bancorp’s Class B shares were classified in other assets and
accounted for at their carryover basis of $0. Visa deposited $3
billion of the proceeds from the IPO into a litigation escrow
account, established for the purpose of funding judgments in, or
settlements of, the Covered Litigation. If Visa’s litigation committee
determines that the escrow account is insufficient, then Visa will
issue additional Class A shares and deposit the proceeds from the
sale of the shares into the litigation escrow account. When Visa
funds the litigation escrow account, the Class B shares are subject to
dilution through an adjustment in the conversion rate of Class B
shares into Class A shares. During 2008, the Bancorp recorded
additional reserves of $71 million for probable future settlements
related to the Covered Litigation and recorded its proportional share
of $169 million of the Visa escrow account net against the
Bancorp’s litigation reserve.
During 2009, Visa announced it had deposited an additional
$700 million into the litigation escrow account. As a result of this
funding, the Bancorp recorded its proportional share of $29 million
of these additional funds as a reduction to its net Visa litigation
reserve liability and a reduction to noninterest expense. Later in
2009, the Bancorp completed the sale of Visa, Inc. Class B shares
for proceeds of $300 million. As part of this transaction the
Bancorp entered into a total return swap in which the Bancorp will
make or receive payments based on subsequent changes in the
conversion rate of the Class B shares into Class A shares. The swap
terminates on the later of the third anniversary of Visa’s IPO or the
date on which the Covered Litigation is settled. The Bancorp
calculates the fair value of the swap based on its estimate of the
probability and timing of certain Covered Litigation settlement
scenarios and the resulting payments related to the swap. The
counterparty to the swap as a result of its ownership of the Class B
shares will be impacted by dilutive adjustments to the conversion
rate of the Class B shares into Class A shares caused by any Covered
Litigation losses in excess of the litigation escrow account. If actual
judgments in, or settlements of, the Covered Litigation significantly
exceed current expectations, then additional funding by Visa of the
litigation escrow account and the resulting dilution of the Class B
shares could result in a scenario where the Bancorp’s ultimate
exposure associated with the Covered Litigation (the “Visa
Litigation Exposure”) exceeds the value of the Class B shares
owned by the swap counterparty (the “Class B Value”). In the event
the Bancorp concludes that it is probable that the Visa Litigation
Exposure exceeds the Class B Value, the Bancorp would record a
litigation reserve liability and a corresponding amount of other
noninterest expense for the amount of the excess. Any such
litigation reserve liability would be separate and distinct from the
fair value derivative liability associated with the total return swap.
As of the date of the Bancorp’s sale of Visa Class B shares and
through December 31, 2013, the Bancorp has concluded that it is
not probable that the Visa Litigation Exposure will exceed the Class
B value. Based on this determination, upon the sale of Class B
shares, the Bancorp reversed its net Visa litigation reserve liability
and recognized a free-standing derivative liability associated with the
total return swap with an initial fair value of $55 million. The sale of
the Class B shares, recognition of the derivative liability and reversal
of the net litigation reserve liability resulted in a pre-tax benefit of
$288 million ($187 million after-tax) recognized by the Bancorp for
the year ended December 31, 2009. In the second and fourth
quarters of 2010, Visa funded an additional $500 million and $800
million, respectively, into the escrow account which resulted in
further dilution in the conversion of Class B shares into Class A
shares and required the Bancorp to make cash payments of $20
million and $35 million, respectively, (each of which reduced the
swap liability) to the swap counterparty in accordance with the
terms of the swap contract. In the second quarter of 2011, Visa
funded an additional $400 million into the litigation escrow account.
Upon Visa’s funding of the litigation escrow account in the second
quarter of 2011, along with additional terms of the total return
swap, the Bancorp made a $19 million cash payment (which reduced
the swap liability) to the swap counterparty. During the fourth
quarter of 2011, Visa announced it decided to fund an additional
$1.565 billion into the litigation escrow account which increased the
swap liability approximately $54 million. Upon Visa’s funding of the
litigation escrow account in the first quarter of 2012, along with
additional terms of the total return swap, the Bancorp made a $75
million cash payment (which reduced the swap liability) to the swap
counterparty. On July 24, 2012, Visa funded an additional $150
million into the litigation escrow account which resulted in further
dilution in the conversion of Class B shares into Class A shares and
required the Bancorp to make a $6 million cash payment (which
reduced the swap liability) to the swap counterparty during the
quarter ended September 30, 2012. The fair value of the swap
liability was $48 million and $33 million as of December 31, 2013
and 2012, respectively. Refer to Note 18 for further information.