Northern Trust Corp (NTRSO) 2004 Q4 法說會逐字稿

Good day, everyone, and welcome to this Northern Trust Corporation's fourth quarter 2004 earnings results conference call. Today's call is being recorded. At this time, for opening remarks and introductions, I would like to introduce Miss Beverly Fleming, Director of Investor Relations. Please go ahead.

Thank you, Jake, and good morning and thank you, everyone, for joining us to review Northern Trust's fourth quarter 2004 financial results. Joining me this morning are Steve Fradkin, our Chief Financial Officer; Harry Short, Controller; Aileen Blake, Controller Designate; and Mark Bette from our Investor Relations team. For those who might not have received our earnings release or financial trend report via e-mail this morning, they are both available on our website at www.northerntrust.com. In addition, this January 19th call is being webcast live on northerntrust.com. The only authorized rebroadcast of this call is the replay that will be available through January 26th. Northern Trust disclaims any continuing accuracy of the information provided in this call after today.

Now for our Safe Harbor statement. What we say during today's conference call may include forward-looking statements which are Northern Trust's current estimates or expectations of future events or future results. Actual results, of course, could differ materially from those indicated by these statements, because the realization of those results is subject to many risks and uncertainties. I urge you to real our 2003 annual report and our periodic reports to the SEC for detailed information about factors that could affect actual results. Now let me hand the call over to Steve Fradkin.

Thank you, Bev, and good morning, everyone. Let me extend my welcome to all of you listening to Northern Trust's fourth quarter 2004 earnings conference call. Now as we have done in recent quarters, we will be conducting today's call in 4 sections: First, I will highlight some of the key financial items in our fourth quarter results. Second, I'll review our fourth quarter numbers in some detail, providing you with our perspective on the specific performance achieved on each of the major line items. Third, I will take -- I will take a few minutes to share observations on developments we have seen in our businesses. And then finally, Bev and I will be pleased to take your questions.

Earlier this morning, Northern Trust reported record fourth quarter 2004 earnings per share of $0.60, up 3 percent compared to $0.58 reported in the fourth quarter of 2003, and up 15 percent from $0.52 reported in the third quarter of 2004. Recall that our third quarter results included an after-tax charge of $10.6 million, or $0.05 per share, related to a pending litigation settlement. The $0.05 per share charge was included in our $0.52 reported earnings per share for the third quarter. For the full year, Northern Trust earned record net income of $505.6 million, or $2.27 per share.

Let me highlight for you several key factors that influenced our results in the fourth quarter. First, we experienced strong top-line revenue growth in trust fees, both institutional and private clients, foreign exchange, trading profits, net interest income, and other operating income. I'll review each of these revenue line items in detail later in this call. Second, the market environment in which we operate improved both versus last year and sequentially. The S&P 500, Nasdaq, and EFA indices were up 9 percent, 9 percent, and 18 percent respectively as compared to year-end 2003. Market performance in the fourth quarter also improved with the S&P, Nasdaq, and EFA indices up 9, 15, and 15 percent, respectively. Third, credit quality, again, remained very strong in the fourth quarter. During the quarter, we sold all of our remaining nonperforming asbestos-related exposure. Primarily as a result of these loan sales, nonperforming loans fell to $33 million, down from $64 million last quarter, and $80 million 1 year ago. We recorded a gain on the sale of these loans of $5 million and recorded a negative loan loss provision of $10 million.

The positive momentum seen in both revenues and credit quality was partially offset by growth in non-interest expenses, which equaled $400 million in the fourth quarter, up 15 percent year-over-year, and 6 percent sequentially. As we've profiled in previous years, the fourth quarter is typically one that sees some pickup in expenses. Nevertheless, the increase this quarter included some unusual items and requires explanation. Later in this call, I will review expenses in detail and provide some perspective on this increase. Let me start with a review of our key revenue drivers in the quarter. Total revenues of $603 million were at record levels in the fourth quarter, up 11 percent or $59 million compared to last year. Trust fee growth was the biggest contributor to this year-over-year growth, up 9 percent, followed closely by growth in both foreign exchange trading profits and net interest income. On a sequential basis, revenues were up 8 percent versus the third quarter of 2004, with foreign exchange trading profits, institutional trust fees, and net interest income all contributing to the strong sequential growth.

Let me now discuss each of our major revenue line items in detail. Corporate and institutional services trust fees of $173 million increased 11 percent, or $17.5 million from the fourth quarter of 2003, demonstrating strong year-over-year growth. C&IS trust fees were also up 5 percent, or $8 million, on a sequential basis. Custody fees in C&IS increased 12 percent, or $7 million year-over-year, to $69 million, and increased 1 percent sequentially. Recall that C&IS custody fees are billed primarily on a 1 quarter lag. At September 30th, the markets were down for the quarter, with the S&P 500 down 2 percent, thereby offering no market support for sequential custody fees, and actually providing a small drag on fees. The strong year-over-year growth in custody fees was driven by our global business. Global custody assets at year end reached the $1 trillion mark, an increase of 34 percent, or $255 billion versus one year ago, and 16 percent or $138 billion sequentially. Global custody assets now represent 41 percent of total C&IS assets under administration, up from just 15 percent 1 decade ago. Securities lending fees equaled $30 million, up 31 percent or $7 million versus 1 year ago, and up 19 percent or $5 million as compared to the third quarter.

The year-over-year increase was primarily driven by growth in the volume of securities on loan, while the sequential increase was the result of both volume growth and some expansion in spreads. Securities lending collateral volumes equaled a record $188 billion at year end. This record level of securities lending collateral is up 42 percent or $55 billion versus 1 year ago, and 11 percent or $19 billion sequentially.

Volume growth this quarter was driven by new business, higher demand, and market appreciation. Demand in the marketplace for lent (ph) securities has picked up in recent quarters due to improvement in the overall economy and renewed M&A and IPO activity. Investment management fees in C&IS of $59 million were up 6 percent, or $3 million versus 1 year ago, and up 3 percent or $1.5 million sequentially. As of year end, approximately 38 percent of our managed assets in C&IS were equity assets, with the remainder representing short duration, fixed income, and other alternative asset classes. Assets under Administration in C&IS were up 24 percent or $468 billion from a year ago, to a record $2.4 trillion, and up 10 percent or $229 billion versus last quarter. Approximately half the sequential increase in assets under Administration relates to improved markets, with the S&P 500 up 8.7 percent in the fourth quarter, and the MSCI World Index up 7.8 percent.

We experienced strong asset flows in C&IS during the quarter from both new and existing clients. Our new client flows are exemplified by the transition of organizations including, but not limited to, Folksam in Sweden, the City of Los Angeles Police and Fire Pension Commissioners, the Michigan Catholic Conference, and AAA insurance of Michigan. New and existing client flows accounted for approximately one-third of the sequential increase in total C&IS assets under Administration. The remainder of the sequential increase is attributable to the translation of non-dollar global custody assets. C&IS managed assets of $462 billion were at record levels, up $87 billion, or 23 percent from last year, and up $33 billion or 8 percent from last quarter. We continue to see particularly good traction in the quantitative, large cap value, hedge fund, manager of managers, and investment program outsourcing areas. Our Personal Financial Services business unit reported fourth quarter trust fees of $166 million, an increase of 7 percent, or $11 million as compared to the year-ago quarter.

Sequentially, PFS trust fees were up 2 percent or $3.5 million. The year-over-year and sequential performance was driven by both new client wins and market appreciation. For those of you who maintain detailed fee models on PFS trust fees, recall that all PFS states are now on a consistent monthly fee methodology. Our only exception to this approach is in our Wealth Management Group. Using our monthly fee methodology, the S&P 500 was up slightly, 2 percent, as compared to the month-end values that were relevant to our third quarter fees. This is an important factor in our performance at the state level, and is indicative of the fact that our private client franchise did not get much help from the equity market in the fourth quarter.

Trust fees in our Wealth Management Group, which typically serves families with assets of $75 million or more, equaled $20 million, up 13 percent or $2 million versus a year ago. Wealth Management fees were flat sequentially. Again, for those of you with detailed fee models, our Wealth Management fees remain on a 1 quarter lag. Recall that the major equity market indices were down modestly as of September 30th, with the S&P 500 down 2.3 percent from June 30th to September 30th. Assets under Administration and Wealth Management equaled $105 billion, up 23 percent, or $20 billion from 1 year ago, and up $10 billion, or 11 percent, from last quarter. Managed assets in Wealth Management totaled $20 billion at December 31, up 17 percent or $3 billion, from $17 billion 1 year ago, and up 5 percent or $1 billion from $19 billion at September 30th.

Our Wealth Management Group has experienced very strong growth in recent years, indicative of our unique leadership position at the ultra high-end of the affluent market. Over the past 5 years, Wealth Management assets have grown at a compound annual growth rate of 15 percent. This compares quite favorably to the overall downdraft in the markets during that same period, with the S&P 500 down 4 percent on a compound annual growth basis, and the Nasdaq down 14 percent. Northern Trust currently enjoys a relationship with 24 percent of the Forbes 400 richest Americans. Total assets under Administration and PFS at year end equaled $221 billion, up 13 percent, or $26 billion from a year ago, and up 8 percent or $16 billion from September 30th. Managed assets in PFS equaled $110 billion, up 6 percent or $6 billion from a year ago, and up 5 percent or $5 billion from September 30th.

As I mentioned earlier, foreign exchange trading profits equaled $42.6 million during the fourth quarter, up 57 percent or $15 million versus last year, and up 60 percent or $16 million sequentially. The primary driver of both year-over-year and sequential performance was currency volatility, which was higher, particularly during the latter half of the quarter. A further contributor to both year-over-year and sequential increases was an increase in client activity during the fourth quarter. Treasury management fees equaled $20 million during the fourth quarter, down 14 percent or $3 million compared to last year, and 11 percent or $2 million compared to the third quarter. The rising rate environment has led some clients to pay for a higher proportion of treasury management services through compensating balances. This phenomenon accounts for the majority of the annual and sequential quarterly declines.

Security commissions and trading income equaled $12 million down 12 percent year-over-year, and up 3 percent sequentially. Historically, retail commissions, including equities, fixed income, and mutual funds, have represented the bulk of this revenue line item. Fixed income volumes were weak on a year-over-year basis, with the rising rate environment as a key contributing factor. The sequential increase relates primarily to transition management revenues, which can be uneven quarter to quarter, based on the number and size of transition assignments completed and commission recapture revenues which tend to parallel changes in daily average volumes on the major exchanges.

Other operating income of -- in the fourth quarter equaled $25 million, as compared to $20 million in the same period last year, and $20 million last quarter. As I mentioned earlier, during the fourth quarter, we sold 2 asbestos-related nonperforming loans. We recorded -- recorded a combined gain of $5 million on the sale of these 2 loans, which is reflected in other operating income. Pricing on these bankruptcy credits improved markedly in the fourth quarter for 2 primary reasons: First, the perceived prospects for tort reform and its impact on asbestos litigation improved with the re-election of President Bush. Second, the anticipated favorable exodus from bankruptcy of both companies enhanced the prospects for repayment of both principle and accrued interest on these 2 loans.

Net interest income equaled a record $165 million, up 10 percent, or $15 million from a year ago, and up 8 percent or $12 million sequentially. Our net interest margin equaled 1.66 percent, up 3 basis points from last year and unchanged sequentially. 3 primary factors fueled the year-over-year increase. First, and similar to the third quarter, we continued to benefit from an environment where the industry lagged increases in retail deposit rates. At year end, Northern Trust had a retail interest-bearing deposit base of $9 billion related to our PFS business. As short-term interest rates continued to rise during the quarter, retail deposit pricing lagged the corresponding increases in loan asset yields that are tied to short-term market rates, such as LIBOR, fed funds, and prime. The lag served to increase our spread on retail deposits during the fourth quarter as compared to the year earlier period.

Second, the year-over-year comparison benefited from a decline in long-term funding costs, due primarily to growth in non-interest-related funding, as well as the roll-off of some higher cost long-term funding. Finally, continued growth in our global custody business provided a corresponding increase in foreign office time deposits, which averaged $14 billion during the quarter, up 27 percent year-over-year, and up 19 percent sequentially. This growth in foreign deposits can be seen on the asset side of the balance sheet in the money market asset category, which was up 38 percent year-over-year. These same 3 factors lagged retail deposit rates, strong growth in our global business, and lower long-term funding costs, all contributed to the sequential increase in net interest income of $12 million.

Loans during the fourth quarter averaged $17.8 billion, up 2 percent compared with year-ago levels. Loans to individuals were up modestly, with residential mortgages up 2 percent versus last year, to $8 billion, and personal loans up 11 percent to $2.8 billion. Residential mortgages represented 45 percent of our total average loan portfolio at year end. Commercial loans declined 6 percent from a year ago, to average $3.3 billion in the quarter.

Commercial loan demand has seen some slight pick-up recently, but considerable liquidity in the marketplace continues to limit growth prospects. As I mentioned at the outset of this call, credit quality continues to be very strong. Given the sale of the 2 asbestos loans, we were able to release reserves, resulting in a $10 million negative loan loss provision during the fourth quarter. This compares to a negative loan loss provision of $15 million in the fourth quarter of 2003, and a zero provision last quarter. Nonperforming loans totaled $33 million down from $80 million one year ago, and $64 million last quarter. The sale of the 2 asbestos loans was partially offset by the addition of 1 nonperforming loan. Nonperforming loans are at their lowest levels since early 1999. Our loan loss reserve covers total nonperforming loans 4-to-1, the highest level in almost 6 years.

Now let me shift my comments to a detailed review of expenses. Expenses during the fourth quarter of 2004 equaled $400 million, up 15 percent or $15 million -- $53 million from the year-ago quarter, and up 6 percent or $22 million sequentially. Compensation expense equaled $168 million, up $9 million or 6 percent year-over-year, and up $6 million or 4 percent sequentially. The year-over-year increase in compensation expense reflects annual salary merit increases and higher incentive compensation due to better corporate performance. The sequential increase relates to additional hires during the quarter, and higher incentive compensation due to record net income. Staffing levels equaled 8,022 full-time equivalent positions at year-end, down 34 positions from last year, and up 42 positions from September 30th. The majority of the fourth quarter's hiring occurred in our worldwide operations and technology business unit, where we are handling greater volumes and more clients due to 2004's strong business growth. Despite this addition to staff in worldwide operations during the fourth quarter, that important unit remains staffed at a level 2 percent below that we reported 1 year ago, reflecting our continued focus on technological innovation and productivity improvements.

Employee benefit expenses equaled $46.7 million in the fourth quarter, up 47 percent or $15 million versus last year, and up 39 percent or $13 million sequentially. To better understand our employee benefit expense increases, it is easiest to start by reviewing this line item in full-year terms. For the full-year 2004, total employee benefit expenses equaled $161.5 million, an increase of 21 percent, or $28 million compared with 2003. 3 expense categories drove that increase: First, our pension expense increased $10 million year-over-year, and accounted for about one-third of the annual increase in employee benefit expenses. 80 percent, or $8 million of this increase was outlined in our 2003 annual report as an expected increase in domestic plan pension expense.

The domestic plan increase reflects lower interest rates, the aging of participants, and salary increases. The remainder of the increase in pension expense relates primarily to plans for employees located outside the United States. Second, expenses associated with our employee stock ownership plan increased over $7 million in 2004, compared to 2003. Recall that in 2003, our corporate net income performance was negatively impacted by the special charges we took in the second quarter related to our strategic repositioning. Those charges negatively impacted net income, resulting in the corporation making the base contribution of 1 percent of salary. We made no performance-related contribution in 2003 to our ESOP.

In 2004, we experienced an entirely different phenomenon, as our record net income performance resulted in the corporation contributing approximately 3 percent of salary to the ESOP plan, which includes both the base contribution and the performance-related component. Third, and also related to our improved financial performance, the corporation's contribution to our 401-K plan increased by approximately $4 million. As with the ESOP, a portion of the corporation's contribution to the 401-K plan is contingent upon meeting a predetermined net income target. That target was not met in 2003, due to the special charges, but was met in 2004, resulting in higher 401-K expense. These 3 items, pension, ESOP, and 401-K expense, accounted for three-quarters of the increase in employee benefit expense when comparing full-year 2004 with full-year 2003. The remainder of the year-over-year increase was due to higher FICA, insurance, and health care costs.

As we move into 2005, we do not expect to -- to experience quarterly swings in employee benefit expenses, like those swings that occurred in 2004. One reason for the expected diminution in volatility is because we merged our ESOP into our 401-K plan effective January 1, 2005. This merger serves several purposes, including reducing the complexity associated with maintaining 2 separate plans, while at the same time lowering -- lowering the overall cost of the plan by having 1 trustee rather than 2. In addition, while we have raised the minimum corporate contribution to match the new combined plan, as compared with the 2 formerly separate plans, the maximum contribution is lower, thereby narrowing the range between minimum and maximum corporate contribution. This is the change that should have the greatest impact on lessening potential future quarter-to-quarter swings in employee benefit expenses.

Moving on, occupancy expenses of $29 million were down $1 million, or 3 percent compared to the prior year, and down $1 million or 4 percent sequentially. Equipment expenses of $23 million were up $1 million or 6 percent year-over-year, and up $1 million or 7 percent sequentially. There were no significant items impacting either occupancy or equipment expense this quarter. Other operating expenses of $133 million were up $28 million or 27 percent year-over-year, and up $3 million or 2 percent sequentially. Recall that our results in the fourth quarter of last year were abnormally low, due to a reduction of a reserve for a corporate action event, and due to our expense initiatives implemented in mid-2003. Also recall that our results in the third quarter of 2004 were abnormally high due to the $17 million charge for a pending litigation settlement. With that as background, let me review the biggest contributors to the $28 million year-over-year increase in our other operating expenses.

First, the prior year's fourth quarter benefited from a $4 million reduction in a reserve established in the second quarter of 2002 related to a corporate action event. In addition, in the fourth quarter of 2004, we settled a lawsuit to an issue that dates back to the late 1990s. These 2 items account for about one-fourth of the year-over-year increase in other operating expenses. Second, fees related to professional services, such as legal, hiring, and relocation expenses, were up both year-over-year and sequentially. The growth in our businesses requires continued recruitment of top-flight people and the movement of our people around the enterprise.

We also incurred some unusual expenses associated with an opportunistic transaction that did not materialize. Third, as our business grows, so, too, do volume-related expenses, such as sub-custodian fees and sub-advisor fees. Keep in mind that the outstanding growth that we have experienced in our global custody business, up 31 percent annually on a compound annual growth basis over the past decade. And finally, travel, business promotion, charitable giving, and advertising expenses were higher than last year.

With regard to the sequential increase in other operating expense, we typically see a fourth quarter rise in the run rate of other operating expenses due to fourth quarter activities such as travel, contributions, and year-end legal bills. That phenomenon did occur in 2004. The sequential increase was primarily attributed -- attributable to higher business promotion expenses, software amortization, legal fees, hiring expense, and employee relocation. We repurchased 726,000 shares of Northern Trust common stock in the fourth quarter at a cost of $32 million. Diluted shares averaged 222.4 million, down 100,000 from last quarter. We can purchase an additional 6.8 million shares under our buyback authorization. Finally, in keeping with our practice, we increased common equity by 8 percent versus 1 year ago, to a record 3.2 billion at year end. This represents the 67th consecutive quarter that we have increased common equity.

Let me now take the final minutes of this call to provide some broader thoughts and perspectives on the quarter, and our businesses. First, a reminder about the expensing of stock options. We continue to account for stock-based incentives under APB Opinion No. 25 and to disclose pro forma impacts under FASB number 123. Our form 10-K filing will show that the pro forma impact of expensing stock options was 13 cents per share in 2004, versus 21 cents in 2003. The lower pro forma impact in 2004 reflects the elimination of our broadbased stock option plan, and the elimination of our cash equivalent bonus options. Our traditional executive stock option program remains in place. As we discussed last quarter, we will begin expensing stock options in the third quarter of 2005.

Second, I want to offer some perspective on our continuing investment in our core businesses. In PFS, we continue to focus our efforts on an advice-driven model, offering clients integrated investment solutions delivered locally. Our client franchise is expanding, as is our geographic presence, with a new office opening just announced in Minneapolis, and lease negotiations in the final stages in Boston. These 2 new office -- offices augment our other relatively recent expansion in New York, Connecticut, Delaware, and Georgia, bringing our current franchise to 83 offices in 17 states. In C&IS, the year brought us many new clients, some that you are aware of through our issuance of press releases. Marquee clients joined us in 2004, such as Folksam in Sweden, Julius Baer, the City of Los Angeles Police and Fire Commissioners, and Halifax Financial Services.

We have expanded our geographic reach with the addition of an office in Luxembourg, and are working on the opening this year of a representative office in Beijing, China. Most importantly, we continue to enhance our product set for the clients we target.

Most notably exemplified by our announced planned acquisition of the Financial Services Group of Baring Asset Management. This acquisition will be another milestone for our growing International business, one that saw global custody assets surpass the $1 trillion mark at year end. Our investment arm, Northern Trust Global Investments, is now the 9th largest asset manager, as ranked by Global Investor Magazine. Our product range is broad, and we had particularly strong growth in 2004 in the passive and quantitative, large cap value, hedge funded funds, securities lending, and manager of manager areas. We continue to be very well positioned to serve the investment needs of our target markets, private clients in the United States, and institutional clients worldwide.

In closing, I thought I might offer a few panoramic observations on 2004 as a whole. We feel very good about the year and our overall performance, particularly coming off a difficult 2003, in which we made some strategic decisions and pared our expense base. In 2004, we had to execute. By that, I mean we had to focus, and focus we did. We focused on serving our clients in the best possible way, with the objective of maintaining their confidence and earning future opportunities with them.

We focused on growing the franchise, with personal clients and institutional clients, domestically and globally. We also focused on new geographies, Luxembourg, China, and Delaware, to name a few. And we focused on strengthening the product spectrum we have available, from asset management to custody, administrative services, and on to fiduciary and banking capabilities. In sum, our success in 2004 was derived from this focus, and is evidenced by strong momentum in our core revenue lines, and excellent organic growth in both assets under custody and managed assets. And now, Bev and I would be happy to answer any questions you may have. Jake, please open up the call for questions

(OPERATOR INSTRUCTIONS) Gerard Cassidy, RBC.

Question for you on the net interest margin and interest spread, you guys successfully managed through a narrower spread by keeping the margin unchanged from the prior quarter. Can you share with us the strategies you used to do that? And if we see fed funds rates going up this year, consensus, I think, is calling for a 3 percent rate sometime middle of the year, maybe 3.5 percent by the end of the year. Can you tell us what your margin would do in that kind of environment?

Well, I'll take the last one first. As you know, Gerard, we don't offer any forward-looking statements. So I will pass on that one. I think in terms of net interest income, you are right, it was a very good quarter. And as we alluded to, we have been in a position where we are generally very well matched. We have been short, and we really did benefit from the -- deposit -- the lag in deposit rates, and that was a beneficiary to us, as was the increased foreign deposits. So, it's a recipe that we have been on for some time and we anticipated would come, and it fortunately held up in the fourth quarter.

On the foreign deposits, they seem, according to your data here, excluding the notes and the long-term debt, they seem to be one of the more expensive type of deposits you have access to, with this quarter coming in slightly over 2 percent. With the global business growing, and foreign deposits being as big as they are now, is this going to come back and pressure the margin, because it is becoming a bigger part of the funding mix?

Again, I don't know that I would comment on what -- what will happen in the future. It continues to be an important source for our net interest income. And I think that's all I want to say in terms of where -- where it will take the margin. I will leave that for you to use your judgment on.

Sure. And then, 1 final question. On the non-interest expense numbers, should we -- that 133.4 in the other, other as you described some 1 time items, what would be a -- how would you identify, or what number would you identify in the fourth quarter, of being a more normalized number, that, you know, when you back out some of those 1 time items you mentioned?

Sure. Well I think the way I would look at that, Gerard, is I would say that -- start by looking at our full-year results to sort of assist you in getting to the run rate that you think is appropriate. And as you do that, I would urge you to keep the following unique things in mind that you might want to back out: First, recall that we had a litigation expense item of $17 million in the third quarter of 2004. We also had a processing loss of $11.6 million in the first quarter. You should also recall that expenses in this category typically do spike in the fourth quarter, the travel, the business promotion, and other items are generally higher in the final months of the year. And then finally, I think you have to keep in mind that some of our expenses such as sub-custody, sub-advisor fees, and so forth are volume driven and will rise as business activity rises. So in sum, I would say use the full year, back out the special items, and then come to your own judgments as to what is left, and what kind of run rate you might imply from that.

Mark Fitzgibbon, Sandler O'Neill.

The first question I had for you is one of your competitors today seemed to suggest that the environment in which you all operate has changed, sort of raising the trajectory of expense growth. First, I am wondering whether you share that view.

Well, I think I would say, Mark, that it is very competitive out there. There are some segments of the business -- I am not familiar with exactly what they were referring to, but there are some segments, particularly in the institutional business, where outsourcing and so forth has some front-end loaded costs, and I think some arguments can be made that that changes the expense profile to the extent that is a significant stream for you. But I think in our -- our core business, both in C&IS and PFS, I don't see anything inherent in those businesses that changes the run rate. You know, you are always going to have the real estate, employee benefit, health care, the normal escalators that are common to all businesses. But specific to our businesses, I am not sure I would extrapolate a new ongoing run rate.

Okay. Then the second question I had, still on the expense side. Do you give all your -- your annual salary increases in the fourth quarter, or do you spread them out throughout the year?

No, they are in the second quarter. But I think what you are referring to is that we were talking about the year-over-year and how that annualized affect impacts in the fourth quarter.

Got you. And then lastly, on the tax rate, I think it was about 37.5 percent effective rate for '04. Are -- have you put in place any tax strategies that are likely to cause that to change much?

No, there's nothing new on the tax front.

Carol Berger, Quest Investments.

I am still having a little trouble understanding why other expenses would be up so much. I mean it seems to me that even if you had true-ups in the quarter, this year's was much more than any of the last couple of years.

Well, I think as I outlined, you do need to back out some of the unusual items, and, you know, when you look year-over-year, you also have to remember that last year in the fourth quarter, we had an expense credit. So you've got a little bit of apples and oranges in doing the comparisons, both some credits on the prior year, and things that we experienced this year. So, again, I think personally I would not get too tangled up in the quarter, and I would suggest -- I would bring you back to looking at the full-year, with a backing out of unusual items that occurred both in -- well, in 2004.

Mike Mayo, Prudential.

I had a similar question. It looks like if you give -- if you treat some of the expenses as discretionary, it looks like you had a little bit of negative operating leverage. And I am just wondering how you see it, and how you think about operating leverage going forward. Thanks.

Well, I think we did have negative leverage in the quarter. We had very nicely positive leverage for the full year. And as you know, we try and maintain positive operating leverage. That's one of our key targets. That said, there is volatility that hits quarter to quarter, and we can't -- as much as we try, we can't get it in every quarter. So I think, Mike, I would say that when you think about the employee benefit expense and the accelerators on our ESOP and how that impacted us, and the other operating, I think we continue to strive for positive operating leverage. We generated it through the year, and we just have these unusual items in the fourth quarter.

And were the stock option expenses starting in the third quarter. Should we assume that 13 cents -- that footnoted for 2004, is kind of the run rate going forward? Or where is that one for the second half of 2005-2006?

I think, Mike, that -- again, we don't give you the run rate going forward. But as you can see and as we've talked about in multiple calls, we've gone down from 21 cents last year to 13 cents this year. And so the strategies that we've employed, understanding stock option expense and coming, have taken effect and I don't think there is anything else that will materially change that view.

Brian Harvey, Fox-Pitt Kelton.

Just had a couple of questions. One on expenses and one on fees. On the expense side, last quarter you talked about a reversal of the ESOP, because of the litigation charge you took last quarter, and now we are seeing an increase. I mean, did you guys hit your targets this year? Or did you not? And why is there a reversal of last quarter and an increase this quarter.

Yes, Brian, thanks for your question. There was some gyration, and I think the best way to think about it is, that we have a component, or had an important component of our ESOP and thrift incentive 401-K plan that was performance related, relative to net income performance relative to plan. And essentially what we had happen in 2004, was in the second quarter of the year, as our performance relative to plan started to accelerate, we increased the funding for those plans. In the third quarter, recall that we have the special charge, the $17 million litigation settlement. So we backed all of that out. And then in the fourth quarter, we had very strong performance, very strong top-line growth, and we had the negative provision and the gain on the sale. So we did have gyration in that line that is a little bit unusual. Again, we don't expect to have that going forward, because we have made some changes to the plan. But that's what explains the volatility during the year.

So we should think about that more on sort of a full-year basis, so we may have had a bit of a catch-up in the fourth quarter for some of the adjustments you made in the third. Is that fair?

That is exactly right. It is not a run-rate phenomenon. It is a full-year catch-up.

(inaudible) Brian, we would really encourage you, for the employee benefit expense line item, to look at the full-year 2004 results, and really use that as your starting point as you look into 2005. So definitely try and move beyond the quarter-to-quarter volatility. And the other thing that we should point out is that we do expect to see a similar increase in pension expense in 2005, as what we experienced in 2004. So you should take that into your run-rate consideration as well.

Okay. Thank you. The last question is just on the fee side. Steve, maybe can you comment about the growth in the -- or the lack of growth in the Florida business this past quarter. Was there any impact, I guess, from some of the hurricanes last quarter? Or I would have expected to see a little bit of a pick-up, just given the market lift. And if there is any comments you can make about new business growth in the PFS business. Thank you.

Sure, Brian. Florida actually performed well. I think one of the things to remember, is that the fee methodology in Florida -- or the fee methodology in all of our PFS states now, does not include the market list that occurred in December, because it is on a 1 month lag. So when you look at the quarter -- the indices by quarter for PFS, you are actually off by a month. And so when you look at Florida in that context, it actually performed well. In terms of the hurricane, no, I couldn't say that -- I can't quantify the impact that the hurricane had, but we are seeing momentum building in Florida. So we are quite positive about that.

Okay. And any comment about new business growth in general from your sense?

Yes, I would offer the following observations, starting with PFS. We see very positive signs in the PFS new business trends. The pipelines are good. They are the best that they have been in several years. We see continued momentum in financial planning, which is sort of a consultative dimension, and quite a good lead for us. We saw in the fourth quarter particularly good floats in Illinois, and Florida also appeared to pick up. In Wealth Management, we continue to be very strong and, again, as you look at Wealth Management fees, you have to remember the 1 quarter lag phenomenon. And we have even seen a return of some of the clients that left us in the past. So, in sum, looking at it through the narrow window of the fourth quarter, I would say lost business is slowing and new business is growing, and that's a powerful combination if we can maintain it, and if clients don't slow down their decision making. So in the PFS context, I think there is a very good story on new business in the quarter.

On the C&IS front, we also had very good new business flows. Domestically, our pipeline is solid. We continue to expect to see good opportunities, particularly in the public fund space, which is a segment of the market where contracts expire and, therefore, the predictability of opportunities is a little bit better. On the international front, our pipeline also continues to be very solid. I would say in the C&IS context, the size and complexity of opportunities is exemplified by needs for things such as multinational pooling and middle office outback and middle office outsourcing are increasing. And then lastly, just briefly on the investment side within Northern Trust Global Investments. There, too, we saw good momentum, good sales strength, particularly in the multi-manager space, the quantitative area, short duration transitions, and we see positive trends in outsourcing on the investment front, as well. So overall, our new business momentum was very sound.

Thank you. That's very helpful.

Ken Usdin, Banc of America Securities.

I was wondering if you could talk a little bit about the East Coast office expansions, specifically on the PFS side, and kind of work us through where you are broadly, as far as the expense recognitions from the offices that have opened, and how you are planning on seeing them layer in, versus any revenue recognition that you guys have experienced to date. Where are we in that balance between expense up-fronting and revenue recognition?

Sure. Well, remember that New York and Connecticut, by and large, should be in the run rate. Delaware is new, it's quite a small office. So that office was opened, I think, the end the September, quite modest. So it shouldn't have a material impact on our expenses. I think the -- from -- I will sort of separate it in 2 ways. The momentum, again, continues to be very, very positive. The receptivity that we are seeing in the East Coast is good. The win rate that we have amongst opportunities that we are being allowed to bid on is good. The size of the opportunities, just in dollar terms, is large , and larger than our average. So all that is positive. In terms of the layering of expenses, we will have the expense of a Boston office coming on - a full-scale Boston office - coming on in stream in 2005. So we've got expenses to carry there. But the base -- the staffing for our New York, Connecticut is all in the base. So we've still got more to go, but I think we feel very positively about the momentum, receptivity, and continued opportunities in the East Coast.

And when does Minneapolis open, or when does that get in there?

We've started. We made a couple of hires just -- a hire just recently. And we signed a lease, so that will be -- it should be coming on stream pretty quickly here.

Okay. Last thing, Steve. Can you just remind us when the Baring FSG deal is expected to close, and have you seen any update on how that business is performing in the current environment?

The expectation, Ken, is that the Baring's transaction will close either late in the third -- late in the first quarter, or in the month of April. I don't really have a comment on how their business is performing. I would say that we have done a lot to begin our process of integration, as much as you can do before the close. We've got a team identified. We have got people moving over, and so forth. So we feel good about that business, and expect that that business should perform well if the market environment continues to improve. So, no comment specifically on it. But we are preparing and looking forward to having that close, as I say late in the first quarter or early next quarter.

Nancy Bush, NAB Research, LLC.

Just a couple of questions. On an addendum or addition to the Boston question, you said that will be full-scale in '05. Are you bringing with you in that office -- I mean, is there an existent book of business there that will make this not purely just an expense item but, you will also get some revenues that go with it?

We do have clients in Boston. Clients that touch us in a variety of ways. We do have some new clients that have come on in the Wealth Management space that have emanated from the Boston region. But to be fair, it is a new office, and I don't think the existing client franchise will make the day on expenses there. So, I would look at it by and large, as a new de novo office, though we do have contacts in the community.

And Nancy, what we do in a scenario like this is, we give -- the clients have the option of determining where they want to be serviced. So, if an existing client, who happens to reside in Boston, chooses to stay with their relationship team in another one of our offices, we certainly would not force them to move to the Boston office. So, it is really up to the client as to whether or not they want to be served locally out of that new office.

Right. And secondly, I would just ask -- you made an interesting comment about lost business slowing, new business flowing, and PFS. How much of that new business is flowing at sort of the lower end? I mean, you had made commentary as had Perry before you, about the reluctance of sort of the lower end, the 1 to 5 million, to get back in the market, et cetera, et cetera. Is that beginning to change?

I think, Nancy, I would characterize -- and I am giving you a perspective on the quarter, so keep the time frame in mind here. But I would say that the growing piece, the clients are growing, is broadbased. It's not just a Wealth Management phenomenon. It is happening across the franchise, at all levels, in all states. So I would say that there is definitely a positive trend on new business. And, again, I can't forecast what it will take to keep that. But it definitely is positive, and I would characterize it as broadly based.

KC Embrecht, Millennium.

Asked and answered. Thank you very much

And that will conclude today's question-and-answer session. I will turn it back over to your hosts for closing remarks.

Well, thank you very much for joining us for this call, and we will look forward to talking to you at the end of the first quarter, and updating you with our results at that time. Thank you very much

That will conclude today's program. We do thank you for your participation, and everyone may have a nice day. Thank you.