花旗銀行 (C) 2004 Q3 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to Citigroup's third quarter 2004 earnings review featuring Citigroup CEO Chuck Prince and CFO Todd Thomson.

Today's call will be hosted by Art Tilsley, Director Investor Relations.

We ask that you hold all questions until the completion of the formal remarks, at which time will you be given instructions for the questions-and-answer session.

Mr. Tilsley, you may begin.

Thank you and good morning, everyone.

And thank you for joining us for our third quarter 2004 earnings presentation.

We have Chuck Prince with us and Todd Thomson.

Chuck will begin with some remarks and then Todd will take us through the presentation, then they both will be happy to take your questions right after the presentation.

So with that, let me turn it over to Chuck.

Art, thank you and again, welcome everybody.

Thank you for joining us this morning.

I've got two topics I want to talk about.

The first is a highlight of some of the numbers this quarter.

Todd will go into detail.

And then I want to talk about some of the issues that have been in the press recently.

I'll start with the numbers.

We had a record quarter, $5.31 billion of earnings, EPS of $1.02, up 13%, and it really is in the environment in which we're all operating, I think a very nice quarter for us.

Double digit earnings in many of our businesses overall as well.

Earnings off a revenue base of $20 billion, which itself grew 6%, led by our fantastic international businesses.

I especially want to call out our consumer business.

Earnings of almost $3.1 billion, up 23% on 15% revenue growth, and, as you'll see from the detail as Todd goes through it, very, very strong account growth which we will get in terms of how we think about our future.

In our capital markets business we obviously are part of a market environment now which is a little more challenging.

Despite that, we had an outstanding quarter in corporate underwriting, our 12th consecutive quarter number one of debt equity and we were number one in U.S. equity underwriting which was a nice thing for us.

All of you saw the rankings, 15 out of 25 number one placements.

It's really just an extraordinary placement for our business.

And I also want to especially compliment Frank and the GTS team for their quarter, earnings up 45% with revenues up 18%.

We've also made very strong progress in our M&A advisory business.

As you've seen from some of our participation in the very large transactions that have occurred.

International has been very good for us.

International is really what distinguishes us from the rest of the world, and our international revenue growth of 14%, with Asia revenues up 25%, is really just very, very good, and we continue to expand our franchise in Asia and we'll come to that in just a second.

In addition to the things that worked very well, some things worked a little less well than we're used to.

We have the best fixed income franchise in the world, and their results this year were okay this quarter, were okay, as compared to the usual fantastic that we're expecting from them.

So in the environment we're in we're certainly pleased, but it wasn't their usual fantastic quarter.

We also had some declines in our equity markets revenue, again reflecting the outside environment, and those same capital markets kinds of slowdowns affected other parts of our business, Private Bank and Private Client.

We do continue to be in a very good credit environment.

The numbers for our credit reserves are very strong, and we see that in the light of allowing us to make the kind of investments that we feel are important for the future, and so in this good credit environment we're able to make investments, show up as expenses, but make investments, really, that we think will be very strong for us in the future.

Of our 12% expense growth, about half of it is attributable to acquisitions that, of course, bring in both expenses and revenue.

You've seen Sears, Home Depot, Washington Mutual, Korea Bank, Principal Mortgage.

In this quarter alone we've announced Lava Trading, Knight's Trading platform, First American Bank, and Texas.

Of the remainder of the expense growth, about two-thirds was related to investment spending and about one-third related to increases in legal expenses.

In terms of the investment spending, an important part of that relates to advertising.

I hope many of you have seen and like our ads.

We've also expanded our branch network.

We've opened 79 new branches globally, including 28 in India and Brazil, and part of our investment spending involves our technology platform, and in the past 12 months alone we've made almost 800 permanent new hires in technology at our corporate investment bank.

We're also focused on allocating our capital properly with our new capital allocation models that Todd has worked on so hard the last year or so.

As you know, we've sold down our Nikko Cordial stake, we sold our stake down in Fubon and we sold our CitiCapital European leasing business, and we're continuing to focus on the garage sale and to try to cull out some of these activities which are not core to our ongoing businesses.

We all know that the bottom line is, what do we do for the stockholders, and on our 110 billion of equity and trust preferreds we again earned in excess of 21% ROE for the quarter, a standard that we've come to enjoy on a regular basis.

Now before I turn it over to Todd to go over the numbers, I also want to talk a little bit about some of the things that have been in the papers recently.

Citigroup is a unique company, not only in terms of our platform, in terms of our global reach, but in terms of our history and our legacy.

Citibank will reach its 200th anniversary in a few years, and the legacy that we have, the history that we have, is a precious thing that we really treasure here at Citigroup.

And when things happen that cause that legacy and history to be tarnished a little bit, it hurts all of us, it hurts me personally.

And we've had a couple of examples of that, obviously the one in Japan is the one that sticks in peoples' minds, and I just want to make it very clear to all of you that for all of us, examples like that are simply not acceptable.

And we're taking very strong action, we've taken some already, more to come that will address that, but this is something that will not continue in this company, certainly while I'm in charge and while Bob Willumstad is my partner.

Our focus is on our customers, our focus is on building our platform and investing in our future, and no one will have the right to put that franchise in question.

Now, Todd, can I turn it over to you?

And give us all the good details on numbers as well.

Great.

Thank you, Chuck.

Overall, I actually, I think we're quite pleased with the bottom line performance here.

It's nice in my 19th and final quarterly call to have our highest ever quarterly earnings, $5.31 billion, $1.02 a share, up 13%, pleased with revenue growth up 6% and I'll get into some more detail on that revenue growth.

I think the underlying business revenue growth actually was stronger than that.

And we also continued with our double-digit growth in our customer balances in almost every business which again, bodes well for the future.

Now, we did this while continuing to make investments to strengthen the business for the future.

So during the quarter we built 79 new branches across our business.

We increased the amount, continued to increase amount of money that we are investing in advertising and marketing, hiring sales people, and the amount of money that we're investing in technology to work with our customers better, our clients better, as well as to become more efficient, so we expect those investments that we're making today, and the customer balances that we're adding today, to add to our performance in the future.

There's a lot of moving parts underneath the top-line numbers, so I'll get into that in a minute, but at the headlines, what you'll see, I think, is continued very strong performance in our consumer businesses.

Each one of our consumer businesses had a record quarter, a very challenging quarter for capital market related businesses.

I think everyone has seen that kind of performance across the street, so whether it's our Private Client business, our capital markets and banking business, our Private Bank, anything that's capital markets-related had a challenging quarter.

And we saw continued extremely positive consumer and corporate credit environment, and as a result of that we had further credit reserve releases.

And the extraordinarily good credit environment allowed us to, I think, be a bit more aggressive in our investment spending as well as overcome what's currently a challenging litigation environment and some, you know, difficult market-related issues, and still deliver very strong bottom-line growth.

I think the quarter is a perfect example of why it's so powerful to have this diversified platform that we have as a company, and so I think it really does demonstrate the strength of this business model.

So in a quarter where you have very sluggish results on the corporate side, with revenue up 1% and income up 7, we had fantastic growth on the consumer side with revenue up 15% and income up 23%.

In a quarter where you have a very good credit environment and reserve releases on the corporate banking side, on the other hand, we had subdued markets and reduced volatility on the investment banking side.

In a quarter where in the U.S. we had good stability, good margins, but only 9% income growth, internationally, where sometimes you get volatility, we saw a terrific growth environment out there.

So internationally we had revenue up 14% and income up 35%.

In an environment where interest rates are moving, we've got a fee business as a compliment to our deposit and lending business.

So I think it's that strength of having this diversification, of having the consumer and the corporate, the corporate banking and the investment banking, the U.S. and the international, the fee business and the deposit lending business, that's a real strength of our business model.

Let me move into the details a bit in the presentation, then we'll move to take questions.

On page one, I just wanted to highlight what we thought was critical in the economic and market environment for the quarter.

Obviously the most, one of the most interesting things was the flattening of the yield curve, so you saw short rates move up and long rates, to the surprise of many out there, actually move down.

And so I think we ended up being well positioned at our treasury, and we had a bias towards long rates rising in our fixed income trading, so that was more lackluster than we would have liked.

But that's an unusual event for that business which I believe is by far the best across the street.

The credit environment, you can see in the corporate side, the Moody's default rates now are better than the hey days of '99 and 2000.

Fabulous performance on the corporate side and bankruptcies coming down, delinquencies coming down on the consumer side.

So that's a very positive sign.

In terms of activity, in the bottom left graph you can see that volatility continued to decline so that hurts our derivatives business, and to some degree our trading business.

And you can see that stock exchange volumes NYSE and NASDAQ down 9% from last quarter and down 6% from a year ago, so that obviously also affects our trading businesses.

On the other hand, consumer activity continues to be quite strong, which is the bottom right.

So that's the backdrop for the quarter, and obviously that had an impact on our results.

Move to page two, the highlights.

Revenues of $20.5 billion, net income of 5.3 billion, a record quarter for cards, consumer finance, retail banking, and our transactions services business, favorable credit environment.

We'll talk about that in more detail.

We continue to make investments to drive our future organic growth.

And during the quarter we closed a couple of the acquisitions that we had announced last quarter, which was Principal Mortgage and Lava Trading.

We also announced the Knight Trading derivatives markets acquisition, and First American Bank which our first foray into Texas, adds about 100 branches in Texas for us.

We had extremely good momentum in underwriting during the quarter, and I'll spend some more time on that, but extremely good momentum, good revenue growth versus a year ago in underwriting and extremely good [link] table performance for the quarter.

So we feel good about that momentum.

The summary income statement on page three, overall for the place you can see revenue up 6 and operating expenses up 12%. 50% of that was from acquisitions and FX changes, so obviously that brought revenue along with it, and every one of our acquisitions was added positively to our net income during the quarter, so each one of those are performing quite well.

Of the rest of the increase about two-thirds of it were specific investments that we're making in technology and advertising marketing new branches, et cetera, and the rest of the one-third was essentially increased legal costs which, again, we and others have been facing for awhile here.

Credit, better by 23% from a year ago, and so you see net income up 13% as well as EPS.

By segment, on the next page, page four, the consumer businesses 23% income for Global Consumer, 7% up for GCIB, Private Client down 5, Investment Management had some Latin America-related charges a year ago.

I'll get into that when we get into individual businesses, so because of that, the year-ago income was depressed and we saw good growth this year as we didn't have those charges and, in fact, had a little benefit this quarter.

Proprietary investment activities came on about as expected, and then corporate/other, you can see year-ago that was a positive 152.

We had a tax release a year ago of $200 million for the Associates businesses.

We had an additional benefit this quarter of $147 million, and so we're seeing our group Treasury results at a more normalized level now, and then we also had the benefit of this $147 million tax settlement during this quarter.

We move to the businesses themselves on page five, and I want to highlight four of them especially.

The insurance and annuities and asset management, again the year-on-year growth had a bit more to do with the charges in Argentina a year ago, but let me highlight transaction services which continues to have fabulous performance, another record quarter for them, 18% revenue growth, 45% income growth, very good momentum in that business.

Consumer Finance also 35% revenue growth, record quarter for them as well.

Cards, another record quarter, 29% growth, and then retail banking 10% revenue growth there.

Very strong performance internationally, and up 15% to a record for that business as well.

And the bottom of the page you can see the capital markets-related businesses which did have a challenging quarter, capital markets and banking performance flat, Private Client Services down 5% in the Private Bank, which had the combination of a tough transactional quarter as well as a significant drop off in revenue in the Japan Private Bank as a result of the regulatory issues out there.

So a tough quarter for them.

On a regional basis, again, internationally, very strong performance with the exception of Europe.

We continue to see that as the weakest growing area in the world today.

We've got the continued increase in credit cost in Germany as we've talked about for the last few quarters, so the consumer business didn't perform particularly well, and then on the corporate side, you saw market volumes down, low volatility, increased legal charges, so the same issues that we see in some of the U.S. capital markets businesses caused that to decline as well.

So EMEA was the only region that was down from a year ago, and international in total, including that rough performance in Europe up 14% of revenue, and up 35% in net income growth.

That's now just about 40% of our income as a company, and I think a real unique differentiator for Citigroup versus others.

Let me talk about revenue a bit on the next page.

Again you can see very strong performance from cards, down through asset management, consumer finance was actually relatively strong as well.

We did some repositioning of the liabilities there during the quarter which brought down our revenue growth for this quarter, but that will benefit us going forward, so the actual performance was a bit stronger than what you see, the underlying performance was a bit stronger than what you see here with the 5%.

And then tough performance in Private Client and Services and capital markets and banking, but I want to also highlight at the bottom of the page in proprietary investments and in corporate other we saw a decline of about $700 million in revenue, so not necessarily having to do with the underlying revenue of our businesses, but proprietary investments revenue tends to jump around a bit, and corporate other has to do with the changed treasury environment from a year ago where a year ago we had rates coming down and a very steep yield curve and we're able to get gains out of that portfolio.

Obviously those positives begin to go away when the yield curve begins to flatten.

Do continue to deliver on our strategic goals, so page seven we have talked about expanding the equities and fixed income platforms and investing in them, and so you've seen us acquire and close the Lava Trading deals, the Knight Trading derivatives markets deal was announced, we've built our distressed debt business, and we've made a significant amount of investments in technologies to expand our capabilities and derivatives in both equities and fixed income.

And those are beginning to pay off in better revenues in that business.

Also focused on expanding the retail footprint, as you've seen a number of the announcements we've made, and then making sure that we're focused on investing appropriately in technology, advertising, marketing, et cetera, to get closer and closer to our customers and deepen our relationships with them and we will continue to do that going forward.

On page eight, I just want to highlight again the growth in customer balances.

For me this is the, if you will, the forward-looking view of the kind of performance we are seeing in our businesses, a sense of whether some of these investments are paying off, and you can see double-digit growth in our customer balances in most of our businesses, so very pleased about that.

And we continue, on page nine, to have very strong returns.

Overall return on equity of over 21%, return on our risk capital of 42%, and a return on invested capital of 21%.

So extremely strong, and, once again, important to recognize that it's strong for each one of our businesses.

Even proprietary investment activities is at 12% above our cost of equity, but from capital markets and banking all the way up to cards we feel very good about the returns in each one of our businesses.

I do want to highlight on page 10 some new disclosures that you'll find in the supplement to the press release.

And, in fact, during this year we've had a number of new disclosures as we've tried to be as clear as possible about the performance of the business and also respond to the request from investors from each of you.

So during this year we've had our rink capital disclosure come out by business.

We've also broken out private label as we made the Sears acquisition, so we want to be clear and understand and make sure that you understood the difference in how the private label business operates versus the bank card business and be able to see that performance separately so we broke that out.

We refreshed the corporate investment banking disclosure and the life and annuity disclosure, and now we have segment balance sheets for the first time, so you can look at the performance of the balance sheet by business.

And, again, I think this is a good way to combine looking at the income by segment with the balance sheet by segment and get a sense of where the assets in each one of our segments exists, and also we've put at the bottom of the page the risk capital that is assigned to each segment.

So hopefully you find that helpful as you continue to analyze the company.

Let me get into the business highlights a bit.

Global Consumer on page 11, again, record earnings for each one of these businesses.

You can see in cards, North America very good performance, international very good performance, North America still benefiting from the acquisition of Sears and Home Depot.

International primarily very strong organic growth, a little bit of benefit during the quarter from the KorAm acquisition but most of that is organic growth.

We're seeing high payment rates continue in the U.S. which makes it challenging for us to build our receivables balance, but we did have good growth linked quarter in receivables in cards so I think we're beginning to see the pay off of the increased investment in marketing and the changing in the advertising approach.

Net credit margin, which is our NIM minus credit cost, actually increased in the quarter, despite a little bit higher cost of funds.

So we're seeing very good returns in the cards business.

Consumer Finance, strong performance in North America, good growth in North America, average loans up 10% overall, Washington Mutual doing very well, but most of that increase in income in North America is not Washington Mutual, it's actually our organic growth of the business there and improved credit performance.

International, also strong performance as you're seeing the continued turnaround of the credit in Japan and beginning to see some stabilization in the receivables in that business as well.

We've been aggressively building offices internationally.

Again, we build them today, but it takes awhile to get the sales force trained to be able to get new customers and new balances, so we should begin to see the pay off from those new offices in the future, although a lot of the expense is in today.

Retail Banking, average deposits up 9%.

Actually core deposits were up quite strongly, so we saw very good growth in the core deposits, checking accounts, savings accounts, et cetera, in North America.

And then we've consciously been letting some of the CDs and the higher cost funds roll off.

In our mortgage business our consumer assets mortgage originations are down 38% versus a year ago.

Obviously the quite strong refinancing boom happening a year ago, and so gains on sale are down for the quarter, but the mortgage servicing rights are higher as a result of some of the acquisitions we've made, and the pipeline actually is up 25% from the second quarter, so we're seeing the benefit of some of the decline in the long-term interest rate environment and some increased interest in mortgages, the pipeline up nicely from the second quarter.

Global corporate and investment bank on page 12.

You can see flat income overall.

I think the real story here is very strong underwriting performance and investment banking performance, where we saw overall 13% revenue growth there versus a year ago, so that's been terrific.

And that was offset by principal transactions, revenues down 73%, which was a bias towards higher rates primarily that we had.

We did have increased legal costs as well in the business, and the provision for credit costs decreased significantly.

We did have a loan loss release in capital markets and banking of about $200 million pretax.

Transaction services, another record quarter for them, revenues up 18%.

And again, more importantly, liability balances and assets under custody up more than 20%, and so that's going quite well.

We had a bit of a loan loss release there as well of $48 million that also helped their results.

We take a look at our market shares in underwriting and M&A on page 13.

You can see we remain year-to-date in the number one position for global debt and equity underwriting for global long-term debt, for our disclosed fees in debt and equity.

Number three in equity year-to-date.

But I also want to look on the right-hand side of that page a bit at how we did in the third quarter.

And you can see that the momentum that we've developed as we've been focusing on the investment banking part of our business is really beginning to pay off during this quarter, and so the market shares and ranks improved in every one of our product lines across the page with the exception of completed M&A.

So global debt and equity up to 10.1% share.

I want to highlight debt and equity disclosed fees at almost 15% share, and global equity at a 10.9% share, number two for the quarter, number one in underwriting in U.S. equities.

So the very good momentum happening in our investment banking business.

And you can see that also on page 14 this was one of my most favorite of the newspaper stories recently where Citigroup was highlighted, and this is out of the October 1st Wall Street Journal where you can see that we were number one in 15 of the 25 major league table categories.

Again, one of my favorite recent newspaper stories on, that highlights Citigroup.

And you can see that absolutely fabulous performance for our investment banking crowd.

Private Client Services on page 15, again, a story of transactional revenues, down 12% as investors continue to be concerned and conservative in how they're investing.

However, fee-based revenue is up 16% as we've continued to grow the fee-based assets over time, so that's been a very good story.

The net of all that was net revenue's up 2%, which I think compared to most of the industries is actually very good performance.

Continue to have, by far, the leading margins in the industry of 21% for this quarter, strong year-to-date net flows of 14 billion, and fee-based assets continue to grow, up 15% from a year ago, $221 billion.

Investment Management, on page 16, the life business we had a year ago losses in Argentina of $131 million.

So obviously that depressed the earnings in the international insurance manufacturing business there.

You see we had a negative $74 million after tax last year, that was because of the 121 charge that we had a year ago.

And this quarter we didn't take, we didn't, in taking those losses, we didn't take tax benefit for that a year ago, we did get an IRS ruling that allows us to take the tax benefit on those losses from a year ago, and so we got that recently, so we took that benefit this quarter of $47 million, which is in that $78 million for international insurance manufacturing in the third quarter of '04.

So there's a big swing there.

In TL&A you can see down a bit from a year ago, but keep in mind that we had $28 million of realized gains a year ago.

If you take that out, the performance was actually flat.

We had an increase in DAC cost this quarter in TL&A, and so expenses went up, but, again, very strong business volume growth in the business, very strong revenue growth, and as the environment continues to normalize on the investment side, we should see some good momentum in business.

Private Bank, everyone has probably read about the issues we had in Japan.

You can see Japan revenues declined 55% from last year so that's a difficult headwind for the business.

Other than that the business was performing well.

And again, just like in the Private Client business, you can see that the fee-based revenues were up but the transactional revenues were significantly down.

Asset management, we had revenues of 10%.

Again, year-ago you can see that $57 million that we made in '03 that included $51 million of write-downs for Argentina, and so you have to think about their performance in the context of that year-ago charge for Argentina, which we didn't have this year.

And this year, in this quarter we had some legal expenses, legal expenses that were substantially higher, so you saw the $84 million result for asset management.

I want to, on page 17, just highlight the approach we do take to our loan loss reserves.

I think our investors should feel comforted by the fact that we obviously have taken a structured and conservative approach to how we account for our loan loss reserves.

And as a result, when you see the improving credit environment like we've had for the past few quarters, we do release reserves.

It's a very analytic process, it's a very data-driven process.

It results in creating a very clear bands which we keep within, and at this stage we are at the conservative end, remain at the conservative end of those bands despite these most recent credit releases, and I think also it's important to recognize that this is not an end of quarter process for us but, in fact, we start the process at the beginning of the quarter and the actual recommendations happen in the middle of the quarter, and then Dave Bushnell and I finalize those when we get to the end of the quarter, we get all the information about the quarter, but again, it's a very analytic, very data-driven process that we use.

Great story on credit, page 18, consumer side, improvements in NCLs for every one of our businesses globally.

And again we're seeing improvement just about in every place around the world.

You'll see a couple places where it got worse around the world, one is Germany, as we've talked about for a while, and the second place is Asia.

The Asia one is purely an accounting issue where, when we bought the KorAm business we knew that there was going to be high loss rates in the credit card business, and so they have reserves that have been established to cover those loss rates that we think are inherent in the business.

So the NCL looks high, looks like there's an uptick there, but in fact, the reserves that we have are used to cover those for the time being, and so that's purely an accounting issue.

Even despite that you see a great improvement in the cards NCLs, and delinquencies continue to also look good, so the credit environment on a forward-looking basis for consumer continues to look quite strong.

Bankruptcies, as I talked about before, are down so it's a very good environment consumer, and we did release $436 million in reserves, and that includes a build, you can see on the far right-hand side, a build of $56 million in Europe as a result of the situation in Germany.

Corporate credit, on page 19, you can see that we actually had recoveries, net recoveries, in NCLs, and so a very good situation in credit.

You can see in cash basis loans now are down to $2.2 billion, less than 2% of our corporate loans, and if you took out KorAm, which was about 300 million, we're actually down less than 2 billion on the base business versus going back to third quarter and second quarter of '03, more than twice that, so a substantial and rapid improvement in our cash basis loans which again has allowed to us release for the quarter $250 million in the reserves.

You can see that's 202 million in capital markets and banking, and 48 million in transaction services business.

We also laid it out by region here for you.

Capital, $110 billion of total equity and trust preferred so we've rapidly rebuilt our capital from the charge we took last quarter.

Our Tier One ratio is now 8.4% total capital, a very strong 11.5%, and as Chuck had mentioned, we're quite proud of delivering 21.3% return on our common equity, which is, I think, a terrific performance on the equity that the shareholders have entrusted us with.

GAAP assets now of a trillion four.

We paid $2.1 billion in dividends for the quarter and did not repurchase any shares during this quarter.

On the next page, page 21, at the request of a number of our shareholders and a number of the analysts that cover us, we've put together a table of the significant items that have been clearly disclosed in our press release and in our Q's over the past few quarters, I realize this is a big place, I realize it's complicated, and I realize it's not the only investment you have and not the only company that you cover, and so we thought it would be helpful to just lay that out for you.

I do want to caution people that obviously we run the business understanding that some of these things are going to happen, and so the fact, for example that credit's better, and the fact that we are having this credit releases allows us to make more investments in the business and still deliver the right kind of bottom line for our shareholders.

I also want to highlight that in general the standard we use, the rule of thumb we use for when we disclose things, numbers in our press releases, when we think they are significant enough to disclose, is when it gets to a penny a share.

So although a couple of these things are a little bit less than a penny a share, because we thought they were important within the context of that business, in general the rule of thumb that we use is if something happens, a significant item and it's more than a penny a share, we think it's very important to explain that to our shareholders, lay it out in the press release, and those are the things that are in this table.

So in summary, good consumer franchise momentum, we do expect capital markets to remain challenging in the near-term.

Our investment banking backlog is slightly lower than where it was in the beginning of last quarter, and we'll have to see how the trading markets continue.

The volatility remains relatively muted for the time being, but continued very strong international business momentum for the company and we continue to execute on our strategic initiatives.

We expect the credit environment to remain positive going forward.

Again, the forward-looking indicators on the consumer businesses look good.

Cash basis loans have continued to improve so we don't see any significant issues out there either on the corporate or consumer side going forward, but unless there's a significant improvement from today's credit environment, which is beginning to look unlikely because it really has gotten to be quite a good environment, then we wouldn't expect to see any large releases of our credit reserves in the future.

So with that summary, let me turn it over to questions you might have about the quarter for Chuck or for me.

Thank you.

If you'd like to ask questions please press star then one on your touch-tone phone.

Please press star then one with any questions.

Our first question today comes from Richard Strauss.

Please state your company name.

Deutsche.

Good morning.

Good morning, Richard.

A couple of quick questions.

Chuck, if you're there, you said that --

I'll be here or not, Richard, depending on the question.

How's that?

I think you said that what happened in Japan was absolutely not acceptable, you've taken action and certainly we've written about that, but you said there's more to come.

Can you just perhaps give us an indication of what you are referring, what you're talking about with regard to that?

No, I'm not prepared to go into that just yet, but there is more to come.

Okay.

And then also, with regard to any litigation that might arise from the Private Bank, the Japanese effort there, and the bond issue in Europe, do you think that, I know your last big charge, I mean that included Enron and everything else.

Do you feel that that still covers all these things that happened over the summer?

Well, the big charge we took last quarter was related to the --

And WorldCom, too.

The Wall Street scandals, and so it doesn't cover a much broader universe, in that it was intended to cover that universe, and we've got no indication that that isn't completely appropriate.

That is we thought it was appropriate at the time, we continue to feel that way.

In terms of new litigation charges, I don't think that there's going to be anything of any similar consequence coming out of either of the two examples you talked about.

Okay.

And then, you know, I guess while I have you here, Chuck, last question here.

The hedge fund activity in the proprietary investments, I mean, it's basically been kind of breakeven all year long, and yet we're seeing, I mean there's obviously been huge flows into hedge funds.

We're seeing some deals that are at some pretty lofty levels with J.P., Highbridge, GLG, Lehman, discussion there, are you, well, A, what do you think about the valuations that are implied in this talk?

And, two, is this something that you would be considering?

Well, the usual disclaimers.

We're not here to announce future acquisition plans, but I think that in general for me personally, a transaction like that would not be high on my list.

We have a franchise and a platform that I think is exceptional, and I don't think that that's an area where I, at least, would see a need to go out and buy something to expand that platform.

Okay, great.

Thank you.

Guy Moszkowski, go ahead.

Please state your company name.

Good morning.

Merrill Lynch

Good morning, Guy.

First of all, I don't want to forget to thank you for the balance sheet disclosure and the significant items.

That stuff is very helpful and I appreciate it.

Where did that idea come from?

I don't know.

I wanted to ask you first of all on the cards.

There was a dramatic sequential decrease in loss rates, I think on the U.S. cards, 95 basis points.

Is that attributable to completion of the cleanup of the acquired portfolio from last year, or is it more really the underlying economic trends?

No, it's actually the underlying economic trends.

I know it looks significant, and we've been through that, obviously, with each of the businesses, but it's a significant improvement in the private label portfolio as well as in the bank card portfolio and it really has to do with what you've seen as improved contractual delinquencies or losses as delinquencies have improved over the past few quarters and now that's beginning to flow into lower loss rates, but also a much better bankruptcy environment on the retail side and that tends to have an impact right away because we write off bankruptcies right away.

Thanks.

On the expense breakdown you told us that half of it or more came from foreign exchange translation and the impact of acquisitions, but clearly on the 6% revenue growth some of that must also have been driven by those same factors.

Can you give us a sense for how much of it was driven by translation and the acquisitions that showed up relative to a year ago?

Well, I think you're right, Guy, that's why we broke that piece out.

Obviously acquisitions come with revenue and FX comes with revenue and in the case of acquisitions, every one of our acquisitions is generating net income for us, even the most recently closed ones during this quarter, although in some cases obviously it's quite small because the, very recently brought into the company, so all of them came with revenue as well.

Often it takes a little time, though, to get the same type of, if you will, operating leverage out of the acquisition because you buy them, day one they add some revenue and some expense, sometimes not at the same ratio that we would normally expect, and then as you begin to take expense out of that acquisition or you begin to add revenue to it because of our broad range of customers or products that we can offer to those customers, you see the operating leverage improve going forward.

Just to supplement that, Todd, all of these acquisitions are basically existing or operations that we think we can run in a far more effective way, not because they're not good people, but because we have such a big platform, a big product set, so at the early stages, as Todd says, they are all net positive, but the real upside is after a year or so, when we really are cranking through the full Citigroup model in a Korean Bank or a Texas bank, or a Lava situation.

You're really just trying to highlight the lag effect is what you're talking about.

Exactly right.

But even with the lag effect, day one, net positive.

And I do want to also make sure that people heard me on the corporate other and the investment activities revenue drop which is, especially on the investment activities side, is, you know, it overstates the change in the income in the business, in that particular business, and that tends to jump around a lot, but if you adjust for that 700 million you'd be at about 10% revenue growth for the company.

Okay.

And finally just a couple of questions on the sort of organic versus acquired growth in some of the North America consumer businesses.

You've got 12% loan growth in North America Consumer Finance.

Can you help us get a sense for how much of that was would WaMu versus organic?

And on the North America retail, you talked about 15% loan growth.

How much of that was organic versus anything that might have come, say, with the mortgage servicing acquisitions?

We haven't broken out the exact numbers on WaMu for you.

I think that when you get to, for example, a deal like WaMu, you quickly get to a question of whether when you bought WaMu and you begin to add loans to those branches is that because you bought WaMu or because, as Chuck said, we're able to add products to that system, add our brand to that system, and begin to grow that on an organic basis, and so that's why you get into some difficulty defining what's organic versus what's acquired.

But in the case of WaMu I would say it's about a third of that growth, and so the organic aside from that would be about two-thirds of that growth in the balance.

And the North American retail, the 15% loan growth?

In North America retail we really didn't make many acquisitions in that business.

We bought Principal Mortgage but that's not really a, that's a servicing business, not much loans came with that.

That was sort of the question.

Was there anything on the loan balances there, but sounds like not.

Really nothing there.

Okay.

Great.

Thanks very much, gentlemen.

Appreciate it.

Thanks, Guy.

Betsy Graseck go ahead.

Please state your company name.

Morgan Stanley.

Thank you.

Good morning, Betsy.

Good morning.

A couple of questions.

One on risk capital and the capital markets and banking section.

I know it's gone up over the past couple of quarters, third quarter over first quarter up about 27%, and I'd just like to understand a little bit of what's driving that.

Is it simply more volume in the trading and not really on the loan side, but on the trading side, or have you changed or added to your thoughts as to how you're allocating capital in that segment?

Yeah, in capital markets and banking, and we mentioned this on the call last quarter, the increase there is really two things.

One is, the balance sheet and the customer business that we're doing is growing, and so as we continue to do more derivatives for people and continue to, you know, increase the operations that we do for customers, then obviously the capital that's needed to support that increase is [inaudible], but the single biggest increase there was the operational risk for the business increased as a result of the charge that we took during the second quarter, so, you know, we constantly go back and look at the operational risk metrics business by business and, you know, as a result of that charge, and as a result of that increase in what clearly was a two standard deviation risk increase in the risk in that business we increased the risk capital assigned to the business.

And do you think that you would be, in the third quarter, that you effectively utilized all the capital in this business or do you feel that could you drive better returns going forward?

I mean obviously you had a pull-back in fixed income but given outlook for rates near-term, I guess I'm not expecting that to have a significantly better, you know, trajectory here for the next couple of quarters.

Should I be thinking differently there?

I think, you know, again, fabulous trading platform on fixed income in that business.

Again, I think it's the best in the street, and they've had an incredible track record.

This particular quarter it was more lackluster than we expect from them, and they had a bias toward rates declining.

Long-term rates went up and that hit us in principal transactions for the revenue for the quarter.

Right.

So I would hope that, and we would expect, and I think they would expect, that they're going to perform a bit better going forward than during this quarter.

And if you think about that and you can make whatever adjustments you want to make to it, then you would see even higher returns in capital markets and banking.

And so the adjustment for the increased risk in the business obviously is already, is done at the stage and the Q on Q increase that you had this quarter and risk capital is really a function of increased volumes?

Well, there's -- partly, but, again, because we took that charge, and we add the increase in risk capital at the end of the quarter, you're seeing the full effect of that.

You saw half of it last quarter, you saw the other half happening this quarter.

So I would expect on an ongoing basis any increase in risk capital will be as a result of growing the customer business or, you know, acquisitions that we may make that would fold into that business.

Okay.

And then just separately, there has been some talk recently about a possible tax holiday on non-U.S. earnings, and I'm sure you've seen that in the paper.

I know you have about 5.8 billion in indefinitely invested earnings.

Would you consider repatriating any of those if this tax holiday does get approved?

We definitely have looked at that, and we may, in fact, work through and do that.

I think it's a positive tax bill for Citigroup as it's currently structured.

And from what I gather, you need to be able to convince folks that would it, you know, repatriating the capital would drive more employment growth in the U.S., is that your understanding of what the hurdles are to repatriate that capital?

Well I think we'll have to wait and see how the bill gets finalized and which bill actually gets signed and whether there's changes to it, but I think you're right, that's how it's written today.

But again remember, we've got ---

We're expanding our business overseas.

Overseas, and we're expanding our business in the U.S., so we continue to look to hire more people in the U.S. and build businesses here as well as overseas.

Right.

I understand.

Okay.

Thank you.

Thank you, Betsy.

Glenn Schorr, go ahead.

Please state your company name.

Thanks, UBS.

Hey, Todd.

Hi, Glenn.

Repeat of last course, so I apologize, but different interest rates environments, so I want to make sure I understand the change in the change in the OCI line negative 2.4 billion.

I would have thought lower rates would have been better but I guess I don't see the duration of that portfolio or those portfolios.

So is that the same?

I don't think you've got the right numbers there.

Page 30, slide 30.

Our FAS 115 improved, so increased by a billion one.

The accumulated other changes in equity from non-owner sources improved by $914 million versus last quarter.

Okay.

That's a cumulative total.

Yes.

My bad.

Thank you.

On the legal side --

I just want to, since we had a fair amount of confusion apparently last time on this, I do want to remind people that most of this has to do with our insurance businesses where we've match-funded liabilities and assets, and so we're going to earn a spread no matter what happens with interest rates in that case.

The accounting rules cause you to mark one side of that to market and not mark the other side to market, and so the changes that occur here should not have any real impact on our income.

You will see change occur down here, but the reasons why it occurs down in this account rather than going through P&L is because the accounting industry understands that this is not likely to be a P&L item.

And for the record I agree with Todd.

Thank you, Glen.

The 20 million on the Nikko Cordial sales where does that pass through, which business?

Does that go through Private Client?

It's in capital markets and banking.

In capital markets.

Okay.

And then just last question.

Last quarter there was a slide that said our priorities, the last one was superior shareholder return, double-digit EPS growth.

Yes.

I mean, with given the credit environment that we have this year, and what added to results, and outlook for the go forward that you guys mentioned, is that why that doesn't show up in the slide this quarter?

We're going to have to do a little better proofreading of our slides, I guess, Glen, if you're going to red-line it like that.

No, obviously, the investments we're making now in this good credit environment, we believe will drive the kind of growth we want and expect from this organization in the future, and I think we're seeing that, especially in consumer and especially in international.

So, no, there's no hidden message there.

Okay.

I just wanted to make sure.

I see the receivable growth and the momentum.

I just want to make sure that you're not backing away from doable double-digit EPS growth, that's all.

Not on my watch, no.

Thank you.

Thanks, Glen.

Mike Mayo, go ahead.

Again, please state your company name.

Prudential Equity Group.

Good morning.

Good morning, Mike.

Can you comment on the pursuit of positive operating leverage?

I guess we heard Bob Willumstad, the international day, say for the pursuit of growth you might not always have positive operating leverage, and at other times we've heard the firm wants to have that.

If you could just say philosophically what you're leaning to right now.

And also how much investment spending have you done year-to-date, and how does that compare to the last few years?

Thanks.

That's a very good question.

I think that for us positive operating leverage is clearly the long-term goal.

I think that we take opportunistically the opportunity to invest when things like the credit cycle give us that flexibility, and so we've made some very significant investments this year which we expect will pay off in very significant growth next year and we believe that we're seeing the signs of that already, and that Todd has identified those kinds of growth areas that we see.

But for a long-term model, positive operating growth is the right model for us.

So I think it would be a mistake for us to say even in good times we're not going to invest in these good times, now is the time to make the investments, and so that's the philosophical approach, if I can, to answer your question.

Now, what was your other question?

I'm sorry, Mike.

Well, if could you put some meat on the bones, how much are you actually spending on these investments, and how does that compare to the last few years?

Let's say we want to give you credit for all that investing for the future that you're doing.

Let me, again, let's put this in context, right.

So we have an expense base, operating expenses, of basically 10.5 billion a quarter, it was 10.7 billion this quarter.

So $40 billion, so $42 billion a year.

And we spend a significant amount of that on investments.

In the increase in those investments alone, which I think gets to the increase that we made, we've increased every quarter the amount of money that we're spending on things like opening branches, in technology, in advertising and marketing, and in this quarter alone, off of third quarter year-ago, which is when we actually started making these investments, so we already had some increase built into the quarter, we saw potentially two-thirds of the expense growth ex acquisition, so about 2% on that base of $10 million, more than that, actually, happen this quarter.

So we're seeing -- sorry, 4%.

So we saw 4% growth in expenses purely due to increases in the investments we're making.

And I think that's, we feel that we're very prudent in how we go through that.

We go through it business by business by business.

I think we, on the one hand this is a very cost conscious group of managers here who run this place like it's our own, and so we care about every penny.

On the other hand, we know that in order to grow this franchise we have to make these types of investments in technology and advertising and marketing in order to have the future growth that we think we need.

Thank you.

Yep.

Shawn McDonald, go ahead.

Please state your company name.

Hi.

Banc of America Securities.

Could you comment on domestic card whether you see additional cost saving opportunities that you expect to realize from the integration of the acquired portfolios?

I think at this point the things that we've bought which most recently were Sears and Home Depot, we've seen a significant amount of ability to take costs out of that as a result of combining those.

We'll continue to look for additional portfolios of private label businesses and compete for new private label business versus others and I think we'll have the most efficient platform out there because we have the right scale and we have very good operating managers.

Most of the cost benefit now, however, you've seen come out of those business, I think going forward it's more a matter of continuing to find new ways of working with those customers and building balances and building revenues.

Okay.

Thanks.

And with regard to buy backs, the capital ratios, you built those up a bit this quarter.

Could you comment on your strategy around buy backs and whether we might see more active approach going forward?

Well, we always think about that, but I think that our approach is to do that on a selective basis, and I think that that's something that is not, that's not in our thinking for the near-term.

Okay.

So we're not thinking about increasing the pace of buy backs?

In the near-term.

Okay.

Thank you.

David Hilder, go ahead.

Please state your company name.

Bear Stearns.

Hi, David.

Good morning.

Thank you.

Two questions.

First, Todd, has the company's overall interest rate sensitivity position changed?

In other words, when we look at the 10Q will we see significant changes in that table?

We did feel, with the decrease in long-term interest rates this quarter, that it was time to get more asset sensitive, and so you'll see a decrease in that liability sensitivity this quarter.

Can you quantify that at all?

I expect it to come down to something around the 400 to $450 million range for one-year movement.

Again, on a long-term basis, once you get out three or four years, we become asset sensitive.

So as interest rates move up as we expect them to do over the medium-term here, we'll actually make more money as interest rates move up.

In the very short-term, were there to be a shock to interest rates of up 100 basis points, then we'd have a decline of, now, I would say, some where in the 400 to $450 million range.

We're still finalizing the numbers.

They'll be in the Q obviously, which is down from in the $700 million range at the end of last quarter.

Great.

And Chuck, a question for you.

You obviously don't want to talk about other actions that you may take based on some of the events of the past year, but can we expect to see some action based on the government bond trading activity in Europe in August as well as some action on the Japanese private bank issues?

Well, I've already talked about Japan.

The answer to that was yes.

On the U.K. situation there is a process ongoing there that is regular process as it relates to employee matters and I would expect that to come to a conclusion which would reflect a consensus view of the impact of the transaction.

But there's a process ongoing inside the U.K. that relates to that.

Thanks very much.

Thanks, David.

Our last question today comes from Carol Berger.

Please state your company name.

Hi.

Crest investments.

Hi, Carol.

Actually, my question has been answered, thank you.

Thank you.

Was it answered well?

Well, sort of.

If it wasn't, we could try it again.

That's okay.

Thanks.

Any other questions?

I want to make sure that I was clear on Mike Mayo's question on the investments, which is the increase this quarter was about 4% on our investment base, so that's 350 to $400 million increase in the amount of investment we're making this quarter versus others.

Any other questions?

Before we all ring off I do want to say thank to you Todd.

This is his last earnings broadcast.

He's done a spectacular job as CFO.

Sallie has some, well, those are not the kind of shoes she would wear, but some unusual shoes to fill and we expect exactly the same kind of performance from Todd in his new responsibilities.

So Todd, thank you.

Thank you, Chuck.

And thank you everybody.

Thank you, operator.