Northern Trust Corp (NTRSO) 2006 Q1 法說會逐字稿

Good day, everyone, and welcome to the Northern Trust Corporation first quarter 2006 earnings conference call. Today's call is being recorded. At this time I would like to turn the call over to the Director of Investor Relations, Ms. Beverly Fleming, for opening remarks and introductions. Please go ahead, ma'am.

Thank you, Abe. Good morning and thank you for joining us to review Northern Trust first quarter 2006 financial results. Joining me this morning are Steve Fradkin, our Chief Financial Officer, Aileen Blake, Controller, and Mark Bette from our Investor Relations team. I want to point out that this is Mark's last quarter supporting our Investor Relations efforts at Northern Trust. Effective May 1st, Mark will be transferring out of Investor Relations and into a leadership role in our C&IS Financial Management Group. Mark has been a very valued member of our Investor Relations team for over five years and we wish him well in his new role. During our second quarter 2006 earnings conference call, we will introduce you to Mark's replacement on our Investor Relations team. For those of you who might not have received our earnings press release or financial trend report by e-mail this morning, they are both available on our website at northerntrust.com. In addition this April 18th call is being webcast live on northerntrust.com. The only authorized rebroadcast of this call is the replay that will be available through April 25th.

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 read our 2005 financial annual report and our periodic reports to the SEC for detailed information about the factors that could affect actual results. Similar to last quarter and to assist you in your analysis of our quarterly performance, let me quickly review the line items in our first quarter income statement that were impacted by the Financial Services Group acquisition or FSG. After I've given you those figures, I will hand the call over to Steve Fradkin, Northern Trust's Chief Financial Officer.

On the revenue side of the income statement, the FSG acquisition added 45.5 million in revenues during the first quarter of 2006. Note that this figure excludes the funding impact of the acquisition which equalled 6.2 million during the first quarter. If you include the funding costs as an interest expense and therefore a reduction to revenues, first quarter revenues associated with FSG equaled a net 39.3 million. This FSG revenue contribution can be broken down by income statement line items as follows. 31.6 million in custody and fund administration fees in our Corporate and Institutional Services business unit. 5 million in foreign exchange trading income. 2.4 million in personal financial services trust investment and other servicing fees. 5.9 million in net interest income offset by 6.2 million in acquisition funding cost, as I mentioned earlier, and $600,000 in other income.

On the expense side of the income statement the acquisition added 34.9 million in expenses during the first quarter. Total expenses associated with the acquisition included approximately 2.4 million in integration expenses and 3.3 million in intangibles amortization. Effective this quarter we are no longer providing a line by line breakdown of FSG expenses, given how far along we are with the integration and the increasing difficulty of precisely differentiating FSG expenses from the pull of our business in Europe. We recorded a $500,000 loan loss provision for FSG as we continue transitioning the FSG loan portfolio to our loan loss reserve methodology. On an after tax basis the FSG acquisition was accretive to overall corporate earnings in the first quarter by approximately $2.5 million or $0.01 per share. With those details behind us, let me now 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 first quarter 2006 earnings conference call. Earlier this morning Northern Trust reported first quarter 2006 earnings of $0.74 per share, up 17% compared to the $0.63 we reported in the first quarter of 2005. Net income for the quarter equalled a record $163 million, also up 17% year-over-year. Compared with the fourth quarter of last year, earnings per share and net income were both up a strong 10% on a sequential quarter basis. As with prior calls we've organized today's remarks to address three basic areas. First, I will provide several highlights on the quarter and outline a few items to consider as you analyze our first quarter results. Second, I will review our financial performance in some level of detail. And finally, I will offer a few comments on our FSG acquisition, efforts in India, a perspective on the tempo we're seeing in our businesses and a few other closing thoughts. As always, Bev and I will then be pleased to answer your questions. We are very pleased with our results in the first quarter.

Revenues were at record levels with strong and broad based performance results. Foreign exchange trading income, net interest income and securities commissions all exhibited strong growth, each recording a record result for the first quarter. Trust investment and other servicing fees also experienced strong growth and reached record levels in both our personal and institutional businesses. Assets under custody also reached record levels surpassing the $3 trillion mark during the quarter. Custody assets equalled $3.1 trillion at March 31, up 19.5% or $510 billion compared with one year ago and up $200 billion or 7% sequentially. This very strong performance was mirrored on the managed asset side of our business. Assets under management equalled a record $653 billion at the end of the first quarter, up 11% or $64 billion versus one year ago and up 6% or $35 billion sequentially. As you analyze our first quarter results, I want to draw your attention to three particular items that impacted reported results.

First, as Bev outlined for you, our acquisition of the Financial Services Group of Baring Asset Management, or FSG, contributed $45.5 million in total revenues, excluding $6.2 million in acquisition related funding costs. FSG also added $34.9 million in expenses, which includes $2.4 million in integration expenses. FSG was accretive to corporate earnings in the first quarter of 2006 by approximately $2.5 million or $0.01 per share. Second, Northern Trust adopted SFAS 123R on January 1, 2006, resulting in the expensing of stock options for the first time in our first quarter 2006 financial statements. During the first quarter stock option expense equalled $10.2 million and appears in the compensation line item on our income statement. We estimate that full year 2006 stock option expense will equal approximately $18 million with approximately $8 million in total stock option expense estimated to be recorded in the remaining three quarters of 2006. Stock option expense in the first quarter was higher than the expected run rate for the remaining three quarters of 2006. The higher level of stock option expense this quarter is due to the requirement to immediately expense options granted to retirement eligible employees.

Finally, C&IS custody fees included a $4.5 million accrual adjustment in the first quarter. This item was nonrecurring in nature, representing an adjustment from prior periods and was a one-time increase to C&IS custody fees in the quarter. With that backdrop, let me review the quarter's financial performance beginning with our key revenue drivers. Total revenues equalled a record $743 million in the first quarter, up 20% or $122 million compared to last year. Excluding the impact of the FSG acquisition, revenue growth year-over-year was also a strong 13%. Trust investment and other servicing fees were the biggest contributor to the quarterly growth in revenues, up $85 million or 24% compared to the first quarter of last year. Even excluding FSG, trust investment and other servicing fees increased at a double digit rate, up 14%. Strong year-over-year fee growth was followed closely by excellent growth in net interest income, up $19 million or 11%, and foreign exchange trading income up $18 million or 46%.

Corporate and institutional services fees of $253 million increased 37% or $68 million year-over-year and included $31.6 million in FSG fees and the $4.5 million prior period accrual adjustment that I mentioned earlier. Excluding FSG fees and the accrual adjustment, year-over-year C&IS fee growth equalled 18%. C&IS fees were up 15% or $33 million on a sequential quarter basis and up 13% sequentially when excluding the impact of the FSG acquisition and the accrual adjustment. Custody and fund administration fees in C&IS increased 64% year-over-year to $125 million. Included in reported C&IS custody fees were $31.6 million in FSG fees and the previously mentioned $4.5 million nonrecurring accrual adjustment. Excluding FSG fees and the accrual adjustment, custody and fund administration fees increased a strong 17% year-over-year. The primary driver of our year-over-year custody fee growth was continued strong new business internationally.

Global custody assets at year-end equalled $1.4 trillion, an increase of 34% or $349 billion versus one year ago and 11% or $136 billion sequentially. The equity market environment also contributed to year-over-year growth in C&IS custody fees. Recall that C&IS custody fees are built primarily on a one quarter lag basis. At December 31, the S&P 500 was up a modest 3% versus the prior year and the IFA index was up 11%. On a sequential quarter basis, custody fees in C&IS increased 13% or $15 million. The $4.5 million accrual adjustment, higher FSG fees, higher quarter lag equity markets and new business in our international activities all contributed to the sequential increase in C&IS custody fees. Securities lending fees equalled $48 million, up 42% or $14 million versus one year ago and up 48% or $16 million compared to the fourth quarter. Both the year-over-year and sequential quarter increases were driven by wider investment spreads and growth in the volume of securities on loan.

Securities lending collateral volumes equalled $240 billion at March 31, up 14% or $30 billion versus one year ago and up 11% or $23 billion as compared with December 31. Volume growth this quarter was driven by increased loan demand and higher equity markets. Investment management fees in C&IS of $63.5 million were up 7% or $4 million versus one year ago and up 3% or $2 million sequentially. The year-over-year growth in our C&IS investment management fees was driven by our index management, manager of managers and mutual funds businesses, as well as support from the stronger equity markets. Assets under custody in C&IS equalled a record $2.9 trillion at March 31, up 20% or $484 billion from a year ago and up 7% or $190 billion versus year-end. Growth in C&IS custody assets this quarter was driven by favorable equity markets and new business transition during the quarter. C&IS managed assets equalled $531 billion at March 31, up 11% or $54 billion from last year and up 6% or $31 billion sequentially.

Approximately half of the year-over-year increase in C&IS managed assets was the result of outstanding growth in our securities lending business, with the remainder emanating from our international and global asset management activities. Our Personal Financial Services business unit reported record first quarter fees of $190 million, an increase of 10% or $17 million compared to the year ago quarter. PFS fees included $2.4 million in FSG private client fees in the first quarter. PFS fee growth excluding FSG was 8% year-over-year. The equity market environment contributed favorably to the year-over-year comparison. Recall that all PFS states are on a consistent monthly fee methodology. Using this monthly methodology, the S&P 500 was up 5.9% compared to last year. Recall, too, that PFS manages balanced accounts for clients. The asset allocation of PFS managed assets as of March 31 was 50% equities, 34% fixed income and 16% cash and other.

On a sequential basis, PFS fees were up 3% or $6 million. The primary drivers of the sequential growth were net new business and support from the month lag equity markets, represented by a 3.4% rise in the S&P 500. Total assets under custody in PFS at March 31 equalled $236 billion, up 12% or $26 billion from a year ago and up 4% or $10 billion sequentially. Managed assets in PFS equalled $121.5 billion, up 9% from a year ago and 4% sequentially. Our Wealth Management Group, which serves families with assets of $75 million or more, continues to be a very strong contributor to PFS results. Wealth management fees in the first quarter equalled $27 million, an increase of 26% or $6 million year-over-year. Note that Wealth Management fees now include the results of the private client FSG operation in Europe, which is being integrated into our Wealth Management business. FSG fees included in Wealth Management results equalled $2.4 million in the first quarter. All prior periods have been restated in our financial trends report to reflect FSG fees as a component of overall Wealth Management fees.

Excluding FSG fees, Wealth Management fees were still up a very strong 15%, primarily representing excellent new business. One indication of our continued success is manifested in Wealth Management's growth in assets. Custody assets in Wealth Management equalled $119 billion, up 18% or $18 billion from a year ago and up 5% or $6 billion sequentially. Managed assets in Wealth Management totalled $23 billion at March 31, up 13% year-over-year and up 2% as compared to December 31. Foreign exchange trading income equalled $56 million during the first quarter, up 46% or $18 million versus last year and up 27% or $12 million sequentially. The FSG acquisition added approximately $5 million in foreign exchange trading income during the first quarter. Client volumes were strong during the quarter on both the year-over-year and sequential quarter basis.

Other operating income in the first quarter equalled $21 million, up $1 million compared with the year earlier period and down $7.5 million sequentially. The sequential decline primarily reflects the nonrecurring gains that were included in the fourth quarter 2005 results related to asset sales, including a $3.1 million gain on the sale of a building in Sarasota, Florida. Net interest income equalled a record $191 million, up 11% or $19 million from a year ago and up 2% or $3 million sequentially. Our net interest margin equalled 1.79% in the first quarter, unchanged compared with one year ago and down 1 basis point sequentially. The primary driver of the increase in net interest income both year-over-year and sequentially was balance sheet growth. Average earning assets equalled $43.2 billion in the first quarter, an increase of 11% or $4 billion year-over-year. On a sequential quarter basis, average earning assets increased 5% or $2 billion as compared to the fourth quarter of 2005.

Growth on the liability side of the balance sheet continued to fuel the increase in earning assets and was once again driven by foreign office time deposits, which averaged $19.4 billion in the first quarter, up 33% or almost $5 billion versus last year. Continued growth in foreign office time deposits is directly related to our international and global custody success worldwide. Foreign office time deposits represented 52% of total interest related funding in the first quarter, up from 45% one year ago and 31% at the end of 2000. Growth in earning assets was broad based with securities up 19% to average $11 billion in the quarter, loans up 9% to average almost $20 billion and money market assets up 7% to average $12 billion. Residential mortgages increased 3% versus last year to $8.3 billion and represented 42% of our total average loan portfolio in the first quarter. Commercial loans increased 6% from a year ago to average $3.7 billion. Commercial loan growth was fueled by new business in our middle market group, which in turn was driven by demand for loans to fund acquisitions, working capital needs and capital expenditures.

International loans averaged $1.3 billion in the first quarter, more than double the prior year, primarily due to the FSG acquisition and overall growth in our international business. Credit quality at Northern Trust continues to be excellent. Nonperforming loans totalled only $31 million at March 31, compared with $34 million one year ago. We recorded a loan loss provision of $4 million in the first quarter, compared with no provision taken in the first or fourth quarters of 2005. The $4 million loan loss provision reflects loan growth and credit rating downgrades on a limited number of client names in the portfolio, partially offset by the repayment of a nonperforming loan. During the first quarter, we recorded a de minimis $100,000 in net chargeoffs. Now let me shift my comments to a review of expenses. Expenses during the first quarter of 2006 equalled $473 million, up 20% from the year ago quarter and up 4% sequentially. Expenses in the first quarter of 2006 included $34.9 million related to FSG. Expenses excluding FSG were up 11% year-over-year.

As Bev mentioned earlier, we are no longer providing a line by line breakdown of FSG expenses. As our successful integration and efforts have progressed, it's become increasingly difficult to precisely differentiate FSG expenses from the whole of our business in Europe. Compensation expense equalled $217 million, up 22% or $38 million year-over-year and up 8% or $16 million sequentially. The year-over-year increase in compensation expense reflects FSG, stock option expense, higher incentive compensation due to improved corporate performance, additional staff to accommodate our continued growth and expansion and the April, 2005 annual salary merit increases. Staffing levels equalled approximately 9,100 full time equivalent positions at March 31, up 3% from the year earlier period.

Employee benefit expenses equalled $55 million in the first quarter, up 19% or $9 million versus last year and up 17% or $8 million sequentially. Both the year-over-year and sequential increases represent higher pension expense and FICA insurance. Occupancy expense in the first quarter equalled $35 million, up 16% or $5 million year-over-year and down 6% or $2 million sequentially. The year-over-year increase primarily represents higher rent and building operations expense associated with our international activities including FSG. The sequential decline represents lower real estate taxes due to a tax credit received during the quarter and lower building depreciation. Other operating expenses of $147 million were up 21% or $26 million year-over-year and down 2% or $2.5 million sequentially. The year-over-year growth was driven by higher technical, consulting and legal fees, increased volume based expenses such as global sub custodian, sub adviser and broker clearing fees, and higher intangibles amortization associated with FSG.

We repurchased 735,000 shares of Northern Trust common stock in the first quarter at a cost of $38 million. Diluted shares averaged 221 million, down 87,000 from last quarter. We can purchase an additional 2.5 million shares under our buy-back authorization. In keeping with our practice, we increased average common equity by 10% versus one year ago to a record 3.63 billion at March 31. This represents the 72nd consecutive quarter that we have increased common equity. Let me wrap up with a few thoughts on the FSG integration, our new operation center in India, the continued strength of our businesses, and a few other perspectives. We acquired the Financial Services Group from Baring Asset Management slightly over one year ago. We continue to be very pleased with the strategic rationale behind this acquisition and with the market success we are experiencing.

Our expanded product rep is achieving the objective we had set, to make available a broader suite of services to our fund manager clients and to strengthen our position as a leader in the growing global fund manager marketplace. We continue to make good progress integrating the fund administration and related capabilities into our operations. The migration of clients to our worldwide custody platform is now complete. The migration of our fund accounting clients is also proceeding and on plan with almost 70% of funds having been transitioned to our operating system. An important element of Northern Trust's overall acquisition strategy, as exemplified in this acquisition, has been to fully integrate acquired entities into our core businesses, which creates a more seamless service experience for our clients. As we discussed with you last year, we will no longer report separate financials for FSG beyond today's first quarter report. Beginning in the second quarter, the year-over-year financials will be comparable and the majority of our integration efforts will be close to completion.

Another important effort in the international arena has been the development of an operation center in Bangalore, India. This facility will supplement our existing North American and European operation centers in Chicago and London respectively. Our Bangalore facility will provide us with an important location in the Asia/Pacific region and time zone, as well as significant operational support. While planning has been underway for some time, efforts ramped up in earnest in the fourth quarter of 2005 with the signing of a lease on a new 43,000 square-foot building and the hiring of our first staff members. Fourth quarter 2005 expenses included approximately $2 million related to our India effort, with the majority of that expense having been devoted to local planning, infrastructure, hiring and training support. We incurred expenses in the first quarter of 2006 of approximately $1.5 million, primarily representing staff hiring, training and facility preparation. At year-end 2005, we had approximately 75 staff members hired in India. That number has grown to about 90 staff at March 31, representing the majority of our first quarter increase in corporate headcount.

Let me now provide a brief update on the positioning of each of our businesses. In C&IS we began 2006 with strong first quarter new business results, including the publicized wins of the $1.6 billion Federated City Employees Retirement System of San Jose, custody of Reader's Digest Association $670 million pension plan and management of $165 million in passive assets on their behalf, the Charities AID Foundation in the United Kingdom's $750 million in charity assets, and Dutch travel industry pension scheme, Vervoer, selection of Northern Trust to provide global custody and related services for $9 billion in assets. Cross selling opportunities with existing clients was equally strong and continues to represent an important new business revenue stream to C&IS. Additional services sold to existing clients once again represented approximately half of our new business during the first quarter. Our global business continues to grow in C&IS as global custody assets now account for 48% of C&IS assets under custody, up from just 9% in 1990.

We have achieved a 31% compound annual growth rate in our global custody assets over the past 15 years across a variety of market environments. Our success in the marketplace continues to be recognized worldwide. In February, Northern Trust was named Custodian of the Year at the Annual Global Pensions Award ceremony in London. Also in February, Asia Asset Management magazine named Northern Trust Best Global Custodian in the Asia/Pacific region and in March we were named European Pension Fund Custodian of the Year by International Custody and Fund Administration magazine for the third consecutive year. These awards reflect the strong competitive positioning we have in this business worldwide. In PFS we also experienced solid net new business results in the first quarter. We were particularly pleased with the new business results across our Midwest states and in our Wealth Management Group.

Our Wealth Management Group has grown assets under custody at a compound annual growth rate of 22% over the last decade, signifying our leadership position in this marketplace. We continue to serve over 20% of the Forbes 400 wealthiest families in America. More broadly in PFS, we continue to leverage our event marketing strategies both locally and nationally. The King Tutankhamun exhibit, for which we are the national sponsor, moves to the Field Museum in Chicago next month. The move to our headquarter city of Chicago follows successful tours in Los Angeles and Florida, where we hosted many clients, prospects and centers of influence and tracked measurable new business wins from the activities we held around the exhibit and our sponsorship. In a press release issued just yesterday, we announced the latest results of our wealth in America study of over 1,000 affluent households. The study highlights issues of utmost importance to our target private client market.

Areas covered in the research included investment attitudes and behaviors, asset allocation, issues of retirement, philanthropy, use of advisers and attitudes about success. Our most recent research findings highlight the topic of rising healthcare costs and the impact that these costs will have on retirement. This landmark research is just one additional example of Northern Trust's thought and industry leadership in the private wealth market. In sum, we are very pleased with our results in the first quarter. We achieved record quarterly revenues, net income and earnings per share. Asset accumulation was strong, as assets under custody, global custody assets and managed assets all reached record levels at March 31. And we achieved positive operating leverage both year-over-year and sequentially when FSG results are excluded. As we wrap up, I also want to comment on some significant personnel announcements we made about two 30-plus year veterans of Northern Trust during the quarter.

Allison Winter announced her retirement earlier this month following a highly accomplished 35-year career at Northern Trust. Allison was the founding President and CEO of our California bank, led our PFS efforts in Illinois and was most recently President of our PFS region in the northeast. Allison was also a member of our Executive Management Committee. Allison's contributions were many, highlighted by her oversight of the opening of 20 PFS offices from coast-to-coast. We wish Allison and her family every happiness in retirement. She will be missed. Also during the first quarter we announced Rick Waddell's appointment as President and Chief Operating Officer. Rick is a 30 year veteran of Northern Trust, whose career has spanned from commercial banking to PFS responsibilities in California, on to Wealth Management, and most recently to leadership of our corporate and institutional services business. Rick will retain leadership of C&IS in addition to his duties as President & COO.

Lastly, before I conclude, I want to point out that our annual shareholder's meeting begins at 10:30 central time this morning. As is customary for our first quarter calls, I will need to conclude today's call allowing sufficient time for all of us to get to the annual meeting. Accordingly, please accept my apologies in advance in the event that we have to end the question and answer period earlier than we would otherwise normally do. And now Bev and I would be happy to answer your questions. Abe, please open the call.

Thank you. [OPERATOR INSTRUCTIONS] We will go first to Brian Bedell at Merrill Lynch.

I apologize, I got on late to the call after State Streets call. I will try to be brief with this. The custody service line that went from 110 million to 125 million, the nonrecurring accrual is in that in 1Q, correct?

That's correct.

So then the delta from 110 to 120, it's based on like pricing but it sounds like a big part of that is due to lagged pricing of non U.S. equity markets which performed a lot better. Is that a basic significant contributor?

I think, Brian, there certainly was a market effect. But I wouldn't want to diminish the continued new business that we are seeing, in particular on the international front. So it's difficult to do a full attribution because you are looking at market indices(ph), S&P, IFA, and of course our client assets don't perfectly approximate any of those indices. No question the market was an effect but it certainly was not the only factor.

Was the new business, is that basically all in the 1Q run rate or did you convert some of that very late in the quarter?

No, as always, it would be spread throughout the quarter. And so it would not all be in the run rate.

Okay, so we have a little tail to the second quarter. Then just if you can just talk about your global custody business in Europe. You have done very, very well in northern Europe and the UK. Do you see pretty good organic growth trends continuing in those markets or have you already taken quite a bit of share to the point where it's getting a little bit more mature? Then secondarily, what's your view on new type of asset servicing business in deeper into continental Europe over the next couple of years?

I think, Brian, one, I would say we have consistently, as we've talked about grown global custody assets across all cycles, taking from competitors as they exited, taking from current competitors. So I think our growth there continues to stand on its own and we still see it in the U.K., the Nordic markets and others. You will notice that we opened an office in the Dutch market, which is another step into continental Europe, where we have had longstanding client relationships and won the Vervoer, the $9 billion this quarter. So I see us as still very much in growth mode in Europe, both in our traditional markets of strength and in newer markets with our growth in Luxembourg, with the expansion of the Dutch office, and so forth. No, at least today there doesn't seem to be any moderation of that effect that we have seen over the last 15 year.

Okay, great. That's helpful. And just very last quickly, was there anything unusual in the FX and securities lending other than very strong client volumes?

No. In both instances you are going to see lumpiness. In both instances market conditions were favorable and we were able to benefit from that. Plus we had good client volumes in both activities.

Great. Thanks very much.

Thank you, Brian.

We'll go next to Nancy Bush, NAB Research LLC.

A couple of questions. On FSG, when I was out there in February you guys were feeling better about the expense side of FSG than you were feeling about the revenue side. Has that changed at all given that it was positive in the quarter?

Well, I think, Nancy, we have been happy with what we have seen in FSG, both in the alternative asset space and in the U.K. fund administration area. The pipeline of prospects continues to look good and it has sort of a focus on alternative assets which, of course, is the main reason we acquired FSG. When I say alternative assets I mean hedge fund and private equity. And as you know the market demand for those products generally is good. So it's going to be lumpy. There is no question about it. But no, we felt good about what we've seen thus far and remain optimistic on that front.

The second question, on occupancy cost you mentioned that you had a tax credit. Was that significant?

No. It was not significant.

And still to occupancy costs, since it was down for the quarter, are you recognizing each quarter a lease cost for Bangalore or how is that coming into the occupancy cost?

We do have occupancy costs for Bangalore this year but it's a relatively small number.

Thanks.

You're welcome.

We'll go now to Joel Gomberg at William Blair.

Steve, maybe you can flush out a little bit more on the PFS growth. You mentioned you had some good traction in the Midwest region. Talk about some of the new states and then talk about reinvigorating the growth perhaps in some of the more mature states like Illinois and Florida.

Sure, Joel. I would start by saying we started the year with a relatively strong first quarter from a PFS new business perspective. The Midwest and wealth management were the strongest contributors. But our net new business was up double digits sequentially, so we feel quite good about that. I think what I would say is we have, at the wealth management level, been clearly demonstrating for sometime the strength of our position at that $75 million and above. We've seen a really nice traction in recent quarters from what we refer to as the wealth advisory segment. That's the 25 to $75 million open architecture platform. And in the traditional business, I think we've seen an improvement, the pipelines are good. As I say, the Midwest was very good in the first quarter. So that 84 office 18 state part of our business is also starting to pick up. So you are always going to see noise quarter in and quarter out. But I would say we feel good about what was delivered this quarter and are optimistic about where we can take it in the future.

Thanks a lot, Steve.

You're welcome, Joel.

We will go to Gerard Cassidy at RBC Capital Markets.

Good morning, thank you. Steve, can you share with us if there is anyway of estimating or guesstimating the benefit you all, not just you folks but your competitors received -- you can't estimate on their numbers, but their numbers were affected by this as well. The general improvement in the markets, particularly overseas, was very positive in the quarter. Is there any way for you guys to give us a handle of what percentage of revenues may have been attributed to just due to the improvement in the markets?

Gerard, it's a very difficult question. The answer is no. Typically we have suggested that for every 10% rise or fall in the markets, that that will translate to a corresponding 4% rise or fall in revenues and a 2% corresponding rise or fall in trust fees. But beyond that, it is very difficult to directly link the effects of the market relative to our client base and I suspect the same for everyone else.

I would agree with you. You guys on a sequential basis, I have been looking at your balance sheet March 31 versus December '05, it looked like most of the deposit categories actually had declines relative to the levels that you reported at the end of '05, with the exception of borrowed funds. Can you tell us, is this a trend that may continue or was it just some year-end numbers that pushed those number up higher than normal?

Yes. I certainly would not suggest to you that it's a trend. I think the decline, Gerard, was really the result of abnormally high deposit balances at the year-end in foreign office time deposits and savings in money market assets. And we have historically seen our year-end deposit balances spike by about $1 billion, mainly due to the Florida intangible tax effect. In 2005 the year-end domestic deposit spike was compounded by an increase in London's deposit. And then finally we had treasury tax and loan deposits were high at year-end as well. I don't think there is any trend there. I think we did have a spike in the fourth quarter and it's probably nothing more than that, that we can tell.

Okay. You guys have been very clear in the years past about the seasonality of the second quarter numbers on how they improve. Obviously that will happen again this year. The one line item that has really done well in the past, second quarter to the prior first quarter, has been the foreign exchange profits. With the great strength you had this quarter, do you think it will be as powerful of an uptick in Q2 this year versus first quarter as you have seen in the prior second quarters of the last two years?

Sure. Well, Gerard, as you know we don't give guidance. I would offer a couple of sort of commentary items. One, just as a reminder, this was a terrific quarter. But we will continue throughout the rest of the year to do a number of things to invest in capabilities to strengthen our geographic positioning and enhance our operational resiliency. And these are things we've talked about, the integration of FSG, the back and middle office implementation with insight, rhe buildout of Bangalore. As you know we will continue to expense stock options, $8 million over the next three quarters. So w've got some things to deal with as we continue to go through the year. That said, we do like our business mix in the longer term demographics. We like our competitive positioning and the way we are executing.

We have had very strong -- in the first quarter trust fees both PFS and C&IS and records across virtually all the other major revenue categories. The one thing I would say is that our securities lending and foreign exchange were very strong in the first quarter. So I can never forecast what they are going to be in the second quarter, but the same level of pop that we have historically seen, certainly in securities lending, would be hard to envision, not impossible, but hard to envision.

Thank you. Go ahead.

So it all leads to we just have to see where the environment and our clients take us next quarter.

Thank you very much.

You're welcome.

We'll go next to Glen Schorr at UBS.

Hi, it's Debbie Altman in for Glen Schorr. Just a quick question. If you could speak, it was a great quarter and if you had to find an issue with one thing it's the net interest margin. If you could speak to the soft trend there and sort of the rationale for reinvestment in mostly lower yielding money market assets on the earning asset side of the balance sheet? Thanks.

Sure. Well, I guess I would start by saying as you know, Debbie, we in the sort of earlier years, the 2000, 2001 period, had a net interest margin that was typically around 2%. In the last three quarters it's ranged between 1.79 and 1.81%, up from a low of about 1.6% in the second quarter of 2004. And we really don't expect much more expansion at this point in time. And the reason rather relates to a shift in the mix of our earning assets. If you go back to the second quarter of 2001 when the fed funds rate was 4.25%, loans represented 54% of earning assets. In the first quarter of 2006, loans represented 46% of earning assets.

So this asset shift has resulted from the significant growth that we've had in foreign office time deposits at a time when there simply was not sufficient loan demand to put those deposits to work in higher yielding loan assets. And just to put that in perspective, foreign office time deposits doubled from 2001 to 2005, averaging $8.6 billion in 2001 and $17.1 billion in 2005, and they were $19.4 billion in the first quarter. So to move our net interest margin back to that sort of 2% level, as a historical proxy, would really require a resurgence of loan demand that would change the mix in our earnings assets back to historic levels. And we just don't see that happening at the present time.

Got that. And I guess what's the rationale for reinvesting those foreign deposits into local money market assets rather than a higher yielding investment security overseas?

We have always tried to closely manage our interest rate risk and we have kept a very short duration perspective on that. So that has been our longstanding approach. We haven't tried to go out longer and dramatically change our interest rate risk profile. It's just the way we have looked at it and the way that we are comfortable in managing the interest rate risk dimension that we have to contend with.

Okay, great. And one quick follow-up. Is Europe still growing at two, three times the U.S. pace in terms of C&IS business?

You know, I don't have that number off the top. We have seen growth in the U.S. business, so I wouldn't want to ignore that. But there is no question that growth in the European theater has been significant. I don't have the number off the top of my head.

Thanks very much.

You're welcome, Debbie.

We will go to Robert Rutschow at Prudential Equity Group.

Just a couple questions. I apologize if you already said this. Can you tell us how much the FSG acquisition contributed to the increase in wealth management this quarter?

$2.4 million.

2.4 million. Okay. And in terms of the FSG integration, it seems like you are somewhere between maybe two-thirds and three-quarters done at this point. Is that a fair statement?

Well, I think what we have said is that we expect the integration expenses in 2006 to range between 14 and $16 million and we incurred $2.4 million in integration expenses in the first quarter. We have not made any revisions about our estimated 2006 integration expenses. So we still got work to do.

Okay. And you still expect to be integrating throughout the year?

That's correct.

Okay. And finally I guess just on -- if I can follow up on the money market yields. They are lower primarily because they are European. Is there any thought to trying to generate a higher yield by investing elsewhere?

Well, we always considered an array of alternatives on a risk adjusted basis. But no, there is no significant expected change in our plans.

Okay. Great. Thank you.

Thank you, Rob.

And we will go to Tom McCrohan at Janney Montgomery Scott.

Hi, good morning, great quarter.

Thank you.

I had a question regarding Baring and some new regulations in Europe, particularly the European savings tax directive, which I don't claim to be an expert on, but I think some of the pundits are saying that that new directive, which was implemented last year, will result in assets flowing back onshore from offshore. And I was wondering if you are seeing any trends along those lines, giving your Baring business is essentially an offshore fund business?

Tom, I will admit that my expertise around the European savings tax directive is modest. The answer is no, we have not seen an effect. That doesn't mean there won't be one. But I just candidly don't know. The one thing I would remind you, however, is that the capabilities that we have acquired and are integrating for Baring apply to onshore and offshore funds. So providing hedge fund administration, private equity administration, et cetera, is for managers of those assets, whether they happen to have onshore or offshore needs. Now, it's good news that we can serve offshore clients, which was something we weren't as well positioned before. But that was not the -- whether clients are domiciled onshore or offshore should not change the potential we have for that business on a long-term basis.

Okay. Great. And on a follow-up and more on a domestic PFS side, there was an article, like a week or two ago, in the "Wall Street Journal" talking about one of your competitors in the south that was building out their wealth management business. And they highlighted how they had particular strength in like certain sports teams and entertainment, certain entertainment pockets in the U.S. Can you remind us again, like for Northern Trust, I always think about your PFS business as being very synergistic with kind of mid-market, Midwest kind of small business, middle market business owners. But do you also have other kind of attributes to your PFS you can share with us that whether being you guys have figured out how to service the PGA golfers or something like that? Can you kind of maybe share with us some of the thoughts on that?

Sure, Tom. One, I certainly would not characterize our PFS business as simply mid-market, Midwest. Remember, as you know, we serve 20% of the Forbes 400 wealthiest families in the country and that spans the entire country. And our office footprint spans 84 offices in 18 states, only of which, I can't remember the exact number, 17, I think, are in the State of Illinois. It is a broad-based wealth footprint. Secondly, in terms of types of clients, we certainly do serve owner entrepreneurs. We do serve multi-generational wealth. We do serve sports stars. We do serve virtually every facet of the wealth spectrum. So I did see the announcement you were talking about. We have plenty of Hollywood superstars and athletic superstars as well. And they are spread all across this country. So no, I wouldn't want you to think that it is kind of a traditional Midwest centric business because it's much, much broader than that.

Great. I apologize for characterizing it that way. I knew it was more than that. But I was just trying to understand it better.

No problem.

Thanks, guys.

You're welcome.

And we will go to Ken Houston at Banc of America Securities.

Good morning.

Hi, Ken.

Two questions. First, quarter to quarter, there was great sequential operating leverage, as you mentioned. Year-over-year was still slightly negative. I am just wondering as we move through the course of the year, would you expect that year-over-year comparison to get better?

Well, I can't forecast it, Ken. As you know, we have a long and well established history of positive operating leverage, 14 out of the last 17 quarters. As Bill Osborn, our CEO, mentioned at the Citigroup conference, we do plan to have operating leverage for the full year 2006. But, of course, that's all we can say. We will just have to see where the chips land this year.

And, Ken, I would also point out when you look at the year-over-year numbers, you need to keep in mind FSG in there, because certainly there were only a very small amount of early expenses for FSG in the first quarter of 2005. And if you actually adjust for FSG and take it out of both years, you do get year-over-year positive operating margin.

Okay, great. The second question is can you just give us a little color on kind of new versus old on the PFS side and update on kind of how the Boston, New York offices delivered this quarter. And also throughout the rest of the franchise did you see better incremental growth from the established franchises? Or the newer markets?

You know, Ken, looking at it in any one quarter is tricky. I would say the new markets looked good. New York, we continue to have terrific traction, deep pipelines with, again, all sorts of wealth. Boston is coming on stream, but we aren't even fully staffed yet in Boston. And, of course, for our upcoming investor day you will get a chance to see that office in May and get a flavor for that. I would characterize the new business as quite positive and diverse. Clearly we have strength at the top-end of the wealth spectrum. But equally, as I say, the Midwest, the other states look good. So we feel good about it.

Okay. Thanks a lot.

You're welcome.

We will go to Robert Lee at KBW.

Thank you. Good morning. Nice quarter.

Thank you.

Two quick questions. Steve, in looking at assets under management in the C&IS business, it appears that a lot of the sequential increase was driven by increase in SEC(ph) lending collateral. Could you maybe talk a little bit about some of the trends you seeing in that business away from SEC lending? Any thoughts about trends there? Then I have one follow-up question.

Sure. You are right. Securities lending was a strong performer in all respects this quarter and it did contribute. I think in the asset management context related to our C&IS business, there are a couple of buckets that seem to be getting the most success and attention. First, is the quantitative business. We are a little over $200 billion in quantitative assets under management. This is passive strategies, enhanced passive strategies. We had terrific success rolling out our Sudan Free Fund here in the State of Illinois, where we gathered $7.5 billion into that fund. And that seems a natural complement to our traditional asset servicing business.

The second bucket of asset management that certainly has performed well for us is our multi-manager business, which we call Northern Trust Global Advisers. And we use that platform both in our PFS business in the open architecture wealth advisory space and in our institutional business, particularly in the context of so-called investment program management, where a pension fund will -- or company will outsource the entire management of its pension fund to Northern Trust Global Advisers. And that is episodic but it is clearly a trend and we've performed well there. And then we've also had good success in the short duration area, which is, again, big business for us, a little over $200 billion in assets under management, both separate accounts and just assets moving into our mutual funds. So we do get movement quarter to quarter, and with a big short duration book, the short duration assets, you are not going to see as much of a market effect when the markets go up. But those would be the three principal areas, I think, that are contributing on the C&IS side.

Thanks. And one follow-up. As you pointed out, you've had over the last several years very strong growth in foreign time deposits as you've grown your business over there. I'm just curious, are you starting to see any shift in client behavior where maybe they're, for whatever reason, may be becoming a little bit more rate sensitive? Thinking more about shifting liquidity, not necessarily focus as much on deposits maybe more of an interest in doing non-balance sheet driven products or cash management products? Do you think if there is a trend there that would have some impact on the continued growth in that source of deposits?

Well, I think a couple thoughts. One, those are -- there is rate sensitivity around that and we do have to provide competitive rates in order to keep those deposits. They are generally large deposits with large institutional investors. There is on going competition on that front. Two, I think the underlying markets don't afford as many off-balance sheet options for investors there. We have had great success with our cash funds in Dublin. But those are generally for more stable balances, where as foreign office time deposits, though stable for us in the aggregate, on an individual client basis do move in and out. It's a long way of saying I don't see any trend today that is adverse on that front and actually, if you look at it over the last several years, it's the opposite and correlated to our overall growth.

Great, thank you very much. Nice quarter again.

Thank you, you're welcome.

And we have no other questions remaining, so I will turn the call back to the speakers for closing comments.

Thank you very much for joining us for this first quarter call. We will look forward to those of you who plan to join us at our May 10th investor day. And for the rest, we will look forward to updating you at our second quarter call. Thank you very much.

That you. That does conclude our call we do appreciate your participation. At this time you may disconnect. Thank you.