KeyBank 2007 Annual Report Download - page 43

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MANAGEMENT’S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION & RESULTS OF OPERATIONS KEYCORP AND SUBSIDIARIES
Other investments
Most of Key’s other investments (primarily principal investments) are not traded
on a ready market. Management determines the fair value at which these
investments should be recorded based on the nature of the specific investment
and all available information and relevant facts about the issuer’s performance.
Management’s review may encompass such factors as the issuer’s past financial
performance and future potential, the values of public companies in comparable
businesses, the risks associated with the particular business or investment
type, current market conditions, the nature and duration of resale restrictions,
the issuer’s payment history, management’s knowledge of the industry and
other relevant factors. During 2007, net gains from Key’s principal investing
activities totaled $134 million, which included $59 million of net unrealized
gains. These net gains are recorded as “net gains from principal investing”
on the income statement. Additional information pertaining to Key’s other
investments is presented in Note 1 (“Summary of Significant Accounting
Policies”) under the heading “Other Investments” on page 66.
Deposits and other sources of funds
“Core deposits” — domestic deposits other than certificates of deposit of
$100,000 or more — are Key’s primary source of funding. These deposits
generally are stable, have a relatively low cost and typically react more slowly
to changes in interest rates than market-based deposits. During 2007, core
deposits averaged $51.1 billion, and represented 62% of the funds Key used
to support loans and other earning assets, compared to $51.4 billion and
65% during 2006, and $47.4 billion and 62% during 2005. The composition
of Key’s deposits is shown in Figure 8, which spans pages 28 and 29.
The slight reduction in the level of Key’s average core deposits during 2007
was due to decreases in NOW and money market deposit accounts, and
savings deposits. These decreases were offset in part by growth in time
deposits and noninterest-bearing deposits. Average noninterest-bearing
deposits increased from 2006 because Key continued to emphasize cross-
selling of products, focused sales and marketing efforts on free checking
products, and obtained additional escrow deposits in connection with the
servicing of commercial real estate loans. The decrease in NOW and money
market deposit accounts was due in part to the February 2007 sale of the
McDonald Investments branch network, in which Key transferred
approximately $1.3 billion of NOW and money market deposit accounts
to the buyer. McDonald Investments’ NOW and money market deposit
accounts averaged $1.5 billion for 2006. Adjusting for the sale of the
McDonald Investments branch network, average core deposits were up
approximately $1.2 billion from 2006.
Purchased funds, comprising large certificates of deposit, deposits in the
foreign office and short-term borrowings, averaged $17.4 billion during
2007, compared to $12.4 billion during 2006 and $13.0 billion in 2005. The
significant increase from 2006 to 2007 was attributable to growth in all
components of purchased funds, with the largest increases coming from
federal funds purchased and securities sold under repurchase agreements,
and foreign office deposits. During 2007, Key used purchased funds more
heavily to accommodate borrowers’ increased reliance on commercial
lines of credit in the volatile capital markets environment, to compensate for
the core deposits transferred in connection with the sale of the McDonald
Investments branch network, and to satisfy a temporary need for additional
short-term funding to facilitate the repositioning of the securities portfolio.
In addition, these funds were used to pay down long-term debt.
Key has a program under which deposit balances (above a defined
threshold) in certain NOW accounts and noninterest-bearing checking
accounts are transferred to money market deposit accounts, thereby
reducing the level of deposit reserves required to be maintained with the
Federal Reserve. Based on certain limitations, funds are periodically
transferred back to the checking accounts to cover checks presented for
payment or withdrawals. As a result of this program, average deposit
balances for 2007 include demand deposits of $8.3 billion that are
classified as money market deposit accounts. In Figure 8, these demand
deposits continue to be reported as noninterest-bearing checking
accounts. In an effort to further reduce the deposit reserve requirement,
Key converted approximately $3.4 billion of noninterest-bearing deposits
to NOW and money market deposit accounts late in November 2007.
States and Weighted
Political Other Average
dollars in millions Subdivisions Securities Total Yield
a
DECEMBER 31, 2007
Remaining maturity:
One year or less $5 $ 6 $11 6.64%
After one through five years 4 13 17 6.97
Amortized cost $9 $19 $28 6.84%
Fair value 91928 —
Weighted-average yield 8.66% 5.40%
b
6.84%
b
—
Weighted-average maturity 1.8 years 1.7 years 1.7 years —
DECEMBER 31, 2006
Amortized cost $20 $21 $41 7.05%
Fair value 21 21 42 —
DECEMBER 31, 2005
Amortized cost $35 $56 $91 5.25%
Fair value 36 56 92 —
a
Weighted-average yields are calculated based on amortized cost. Such yields have been adjusted to a taxable-equivalent basis using the statutory federal income tax rate of 35%.
b
Excludes securities of $8 million at December 31, 2007, that have no stated yield.
FIGURE 24. HELD-TO-MATURITY SECURITIES
Held-to-maturity securities. Commercial paper and securities issued by
states and political subdivisions constitute most of Key’s held-to-maturity
securities. Figure 24 shows the composition, yields and remaining
maturities of these securities.