10-Q
 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10–Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
     
For the Quarterly Period Ended September 30, 2005   Commission file number 1-5805

JPMORGAN CHASE & CO.
(Exact name of registrant as specified in its charter)
 
     
Delaware   13-2624428
(State or other jurisdiction of   (I.R.S. Employer
incorporation or organization)   Identification No.)
     
270 Park Avenue, New York, New York   10017
(Address of principal executive offices)   (Zip Code)
Registrant’s telephone number, including area code (212) 270-6000
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes [X] No [    ]
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).
Yes [X] No [    ]
     
Common Stock, $1 Par Value   3,499,064,504
 
Number of shares outstanding of each of the issuer’s classes of common stock on October 31, 2005.
 

 


 

FORM 10–Q
TABLE OF CONTENTS
                 
            Page
Part I — Financial information        
Item 1  
Consolidated Financial Statements — JPMorgan Chase & Co.:
       
            65  
            66  
            67  
            68  
            69  
            89  
            91  
Item 2          
            3  
            4  
            6  
            8  
            11  
            15  
            42  
            43  
            46  
            47  
            62  
            63  
            63  
Item 3       96  
Item 4       96  
Part II — Other information        
Item 1       96  
Item 2       97  
Item 3       98  
Item 4       98  
Item 5       98  
Item 6       98  
 

2


 

JPMORGAN CHASE & CO.
CONSOLIDATED FINANCIAL HIGHLIGHTS
                                                         
                                            Nine months ended  
(in millions, except per share, ratio and headcount data)                                           September 30,  
 
As of or for the period ended
    3Q 2005       2Q 2005       1Q 2005       4Q 2004       3Q 2004       2005       2004 (f)
 
Selected income statement data
                                                       
Net interest income
  $ 4,852     $ 5,001     $ 5,225     $ 5,329     $ 5,452     $ 15,078     $ 11,432  
Noninterest revenue
    9,613       7,742       8,422       7,621       7,053       25,777       18,715  
 
Total net revenue
    14,465       12,743       13,647       12,950       12,505       40,855       30,147  
Provision for credit losses(a)
    1,245       587       427       1,157       1,169       2,259       1,387  
Noninterest expense before Merger costs and Litigation reserve charge
    9,243       8,748       8,892       8,863       8,625       26,883       20,431  
Merger costs
    221       279       145       523       752       645       842  
Litigation reserve charge
          1,872       900                   2,772       3,700  
 
Total noninterest expense
    9,464       10,899       9,937       9,386       9,377       30,300       24,973  
 
Income before income tax expense
    3,756       1,257       3,283       2,407       1,959       8,296       3,787  
Income tax expense
    1,229       263       1,019       741       541       2,511       987  
 
Net income
  $ 2,527     $ 994     $ 2,264     $ 1,666     $ 1,418     $ 5,785     $ 2,800  
Per common share
                                                       
Net income per share:
                                                       
Basic
  $ 0.72     $ 0.28     $ 0.64     $ 0.47     $ 0.40     $ 1.65     $ 1.09  
Diluted
    0.71       0.28       0.63       0.46       0.39       1.62       1.06  
Cash dividends declared per share
    0.34       0.34       0.34       0.34       0.34       1.02       1.02  
Book value per share
    30.26       29.95       29.78       29.61       29.42                  
Common shares outstanding (average)
                                                       
Basic
    3,485       3,493       3,518       3,515       3,514       3,498       2,533  
Diluted
    3,548       3,548       3,570       3,602       3,592       3,555       2,599  
Common shares at period-end
    3,503       3,514       3,525       3,556       3,564                  
Selected ratios
                                                       
Return on common equity (“ROE”)(b)
    9 %     4 %     9 %     6 %     5 %     7 %     6 %
Return on assets (“ROA”)(b)(c)
    0.84       0.34       0.79       0.57       0.50       0.66       0.42  
Tier 1 capital ratio
    8.2       8.2       8.6       8.7       8.6                  
Total capital ratio
    11.3       11.3       11.9       12.2       12.0                  
Tier 1 leverage ratio
    6.2       6.2       6.3       6.2       6.5                  
Selected balance sheet data (period-end)
                                                       
Total assets
  $ 1,203,033     $ 1,171,283     $ 1,178,305     $ 1,157,248     $ 1,138,469                  
Securities
    68,697       58,573       75,251       94,512       92,816                  
Total loans
    420,504       416,025       402,669       402,114       393,701                  
Deposits
    535,123       534,640       531,379       521,456       496,454                  
Long-term debt
    101,853       101,182       99,329       95,422       91,754                  
Common stockholders’ equity
    105,996       105,246       105,001       105,314       104,844                  
Total stockholders’ equity
    106,135       105,385       105,340       105,653       105,853                  
Credit quality metrics
                                                       
Allowance for credit losses
  $ 7,615     $ 7,233     $ 7,423     $ 7,812     $ 8,034     $ 7,615     $ 8,034  
Nonperforming assets
    2,839       2,832       2,949       3,231       3,637       2,839       3,637  
Allowance for loan losses to total loans(d)
    1.88 %     1.76 %     1.83 %     1.94 %     2.01 %     1.88 %     2.01 %
Net charge-offs
  $ 870     $ 773     $ 816     $ 1,398     $ 865     $ 2,459     $ 1,701  
Net charge-off rate(b)(d)
    0.90 %     0.83 %     0.88 %     1.47 %     0.93 %     0.87 %     0.89 %
Wholesale net charge-off (recovery) rate(b)(d)
    (0.12 )     (0.17 )     (0.03 )     0.21       (0.08 )     (0.11 )     0.17  
Managed Card net charge-off rate(b)
    4.70       4.87       4.83       5.24       4.88       4.80       5.29  
Headcount
    168,955       168,708       164,381       160,968       162,275                  
Share price(e)
                                                       
High
  $ 35.95     $ 36.50     $ 39.69     $ 40.45     $ 40.25     $ 39.69     $ 43.84  
Low
    33.31       33.35       34.32       36.32       35.50       33.31       34.62  
Close
    33.93       35.32       34.60       39.01       39.73       33.93       39.73  
 
(a)  
Third quarter 2005 includes a $400 million special provision related to Hurricane Katrina: Retail Financial Services $250 million, Card Services $100 million, Commercial Banking $35 million, Asset & Wealth Management $3 million and Corporate $12 million.
(b)  
Based on annualized amounts.
(c)  
Represents Net income divided by Total average assets.
(d)  
Excluded from this ratio were loans held-for-sale.
(e)  
JPMorgan Chase’s common stock is listed and traded on the New York Stock Exchange, the London Stock Exchange Limited and the Tokyo Stock Exchange. The high, low and closing prices of JPMorgan Chase’s common stock are from The New York Stock Exchange Composite Transaction Tape.
(f)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.

3


 

MANAGEMENT’S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This section of this Form 10–Q provides management’s discussion and analysis (“MD&A”) of the financial condition and results of operations of JPMorgan Chase. See the Glossary of terms on pages 91–92 for a definition of terms used throughout this Form 10–Q. The MD&A included in this Form 10–Q contains statements that are forward looking within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements are based upon the current beliefs and expectations of JPMorgan Chase’s management and are subject to significant risks and uncertainties. Actual results may differ from those set forth in the forward-looking statements. Factors that could cause JPMorgan Chase’s results to differ materially from those described in the forward-looking statements can be found on page 95.
INTRODUCTION
JPMorgan Chase & Co. (“JPMorgan Chase” or the “Firm”), a financial holding company incorporated under Delaware law in 1968, is a leading global financial services firm and one of the largest banking institutions in the United States, with $1.2 trillion in assets, $106 billion in stockholders’ equity and operations in more than 50 countries. The Firm is a leader in investment banking, financial services for consumers and businesses, financial transaction processing, asset and wealth management and private equity. Under the JPMorgan, Chase and Bank One brands, the Firm serves millions of customers in the United States and many of the world’s most prominent corporate, institutional and government clients.
JPMorgan Chase’s principal bank subsidiaries are JPMorgan Chase Bank, National Association (“JPMorgan Chase Bank”), a national banking association with branches in 17 states; and Chase Bank USA, National Association, a national bank headquartered in Delaware that is the Firm’s credit card issuing bank. JPMorgan Chase’s principal nonbank subsidiary is J.P. Morgan Securities Inc. (“JPMSI”), its U.S. investment banking firm.
The headquarters for JPMorgan Chase is in New York City. The retail banking business, which includes the consumer banking, small business banking and consumer lending activities (with the exception of credit card), is headquartered in Chicago. Chicago also serves as the headquarters for Commercial Banking.
JPMorgan Chase’s activities are organized, for management reporting purposes, into six business segments, as well as Corporate. The Firm’s wholesale businesses are comprised of the Investment Bank, Commercial Banking, Treasury & Securities Services, and Asset & Wealth Management. The Firm’s consumer businesses are comprised of Retail Financial Services and Card Services. A description of the Firm’s business segments, and the products and services they provide to their respective client bases, follows:
Investment Bank
JPMorgan Chase is one of the world’s leading investment banks, as evidenced by the breadth of its client relationships and product capabilities. The Investment Bank (“IB”) has extensive relationships with corporations, financial institutions, governments and institutional investors worldwide. The Firm provides a full range of investment banking products and services in all major capital markets, including advising on corporate strategy and structure, capital raising in equity and debt markets, sophisticated risk management, and market-making in cash securities and derivative instruments. The IB also commits the Firm’s own capital to proprietary investing and trading activities.
Retail Financial Services
Retail Financial Services (“RFS”) includes Home Finance, Consumer & Small Business Banking, Auto & Education Finance and Insurance. Through this group of businesses, the Firm provides consumers and small businesses with a broad range of financial products and services including deposits, investments, loans and insurance. Home Finance is a leading provider of consumer real estate loan products and is one of the largest originators and servicers of home mortgages. Consumer & Small Business Banking offers one of the largest branch networks in the United States, covering 17 states with 2,549 branches and 7,136 automated teller machines. Auto & Education Finance is the largest bank originator of automobile loans as well as a top provider of loans for college students. Through its Insurance operations, the Firm sells and underwrites an extensive range of financial protection products and investment alternatives, including life insurance, annuities and debt protection products.
Card Services
Card Services (“CS”) is the largest issuer of general purpose credit cards in the United States, with over 98 million cards in circulation, and is the largest merchant acquirer. CS offers a wide variety of products to satisfy the needs of its cardmembers, including cards issued on behalf of many well-known partners, such as major airlines, hotels, universities, retailers and other financial institutions.

4


 

Commercial Banking
Commercial Banking (“CB”) serves more than 25,000 clients including corporations, municipalities, financial institutions and not-for-profit entities, with annual revenues generally ranging from $10 million to $2 billion. A local market presence and a strong customer service model, coupled with a focus on risk management, provide a solid infrastructure for CB to provide the Firm’s complete product set – lending, treasury services, investment banking and investment management. CB clients benefit from the Firm’s retail branch network and commercial banking offices, including locations in 10 out of the top 15 major metropolitan areas in the U.S.
Treasury & Securities Services
Treasury & Securities Services (“TSS”) is a global leader in providing transaction, investment and information services to support the needs of corporations, issuers and institutional investors worldwide. TSS is the largest cash management provider in the world and a leading global custodian. The Treasury Services (“TS”) business provides clients with a broad range of capabilities, including U.S. dollar and multi-currency clearing, ACH, trade, and short-term liquidity and working capital tools. The Investor Services (“IS”) business provides a wide range of capabilities, including custody, funds services, securities lending, and performance measurement and execution products. The Institutional Trust Services (“ITS”) business provides trustee, depository and administrative services for debt and equity issuers. Treasury Services partners with the Commercial Banking, Consumer & Small Business Banking and Asset & Wealth Management businesses to serve clients firmwide. As a result, certain Treasury Services revenues are included in other segments’ results. TSS has combined the management of the Investor Services and Institutional Trust Services businesses under the name Worldwide Securities Services to create an integrated franchise which will provide custody and investor services as well as securities clearance and trust services to clients globally.
Asset & Wealth Management
Asset & Wealth Management (“AWM”) provides investment management to retail and institutional investors, financial intermediaries and high-net-worth families and individuals globally. For retail investors, AWM provides investment management products and services, including a global mutual fund franchise, retirement plan administration and brokerage services. AWM delivers investment management to institutional investors across all asset classes. The Private Bank and Private Client Services businesses provide integrated wealth management services to ultra-high-net-worth and high-net-worth clients, respectively.
OTHER BUSINESS EVENTS
Sears Canada credit card business
On August 31, 2005, JPMorgan Chase announced that it had entered into an agreement to purchase the credit card operation, including both the private-label Sears card accounts and the co-branded Sears MasterCard® accounts, of Sears Canada Inc. The credit card operation includes approximately 10 million accounts and CAD$2.5 billion in outstanding loans. Sears Canada and JPMorgan Chase will enter into an ongoing arrangement under which JPMorgan Chase will offer private-label and co-branded credit cards to both new and existing customers. The transaction is expected to close by year-end 2005.
Neovest Holdings, Inc.
On September 1, 2005, JPMorgan Chase completed its acquisition of Neovest Holdings, Inc., a provider of high-performance trading technology and direct market access. This transaction will enable the Investment Bank to offer a leading, broker-neutral trading platform across asset classes to institutional investors, asset managers and hedge funds.
Sale of BrownCo
On September 29, 2005, JPMorgan Chase announced that it had signed a definitive agreement to sell BrownCo, an on-line deep-discount brokerage business, to E*TRADE Financial for a cash purchase price of $1.6 billion. JPMorgan Chase expects to recognize an after-tax gain of approximately $700 million. The sale is subject to normal regulatory approvals and is expected to close by year-end 2005.
Agreement with First Data Corp. to integrate Chase Merchant Services, Paymentech
On October 5, 2005, JPMorgan Chase and First Data Corp. announced that they have completed an agreement to integrate the companies’ jointly-owned Chase Merchant Services and Paymentech merchant businesses, to be operated under the name of Chase Paymentech Solutions, LLC. The combined business will be the largest financial transaction processor in the U.S. for businesses accepting payments via traditional point of sale, internet, catalog and recurring billing.

5


 

EXECUTIVE OVERVIEW
This overview of management’s discussion and analysis highlights selected information and may not contain all of the information that is important to readers of this Form 10–Q. For a more complete understanding of events, trends and uncertainties, as well as the liquidity, capital, credit and market risks, and the critical accounting estimates, affecting the Firm and its various lines of business, this Form 10–Q should be read in its entirety.
CEO transition
The Board of Directors of JPMorgan Chase announced on October 19, 2005, that James Dimon, currently President and Chief Operating Officer, will succeed Chairman and Chief Executive Officer William B. Harrison, Jr. at year-end as Chief Executive Officer. Mr. Harrison will continue as Chairman of the Board.
Business overview
The Firm reported 2005 third-quarter net income of $2.5 billion, or $0.71 per share, compared with net income of $1.4 billion, or $0.39 per share, for the third quarter of 2004. Return on common equity for the quarter was 9%. Results included $137 million of after-tax Merger charges, or $0.04 per share. Excluding these charges, operating earnings were $2.7 billion, or $0.75 per share, and return on common equity was 10%.
Earnings for the third quarter of 2005 also included a special provision for credit losses of $400 million, or $0.07 per share, to cover probable credit losses due to Hurricane Katrina. This provision is related to expected credit losses for businesses and individuals located in the affected areas of the Gulf Coast region. The $400 million was allocated to the lines of business as follows: $250 million in RFS ($140 million in Consumer Real Estate Lending, $90 million in Consumer & Small Business Banking and $20 million in Auto & Education Finance), $100 million in CS, $35 million in CB, $3 million in AWM and $12 million in Corporate.
Net income for the first nine months of 2005 was $5.8 billion, or $1.62 per share, compared with $2.8 billion, or $1.06 per share, in the comparable period last year. The increase was primarily attributable to the Merger. Return on common equity was 7%. The results included after-tax nonoperating litigation reserve charges of $1.7 billion and Merger costs of $400 million. Nonoperating litigation charges consisted of a $1.2 billion after-tax charge taken in the second quarter of 2005 in connection with the Firm’s settlement of the Enron class action lawsuit and for certain of its other material legal proceedings, and a $558 million after-tax charge taken in the first quarter of 2005 for the settlement costs of the WorldCom class action litigation. Excluding these litigation charges and Merger costs, operating earnings were $7.9 billion, or $2.22 per share, and return on common equity was 10%.
The Firm successfully completed two large conversions in the third quarter. The Firm converted 31 million heritage Chase credit card accounts with $69 billion in balances to a new processing system and completed its major systems conversion in Texas, uniting 400 Chase and Bank One branches, and over 800 ATMs under common systems and branding. These conversions continued a successful year of technology and operations upgrades following the Merger.
Global economic and market conditions affect performance in each of the Firm’s businesses. In the third quarter of 2005, both the global and U.S. economies continued to grow steadily, and the market environment was favorable. However, Hurricanes Katrina and Rita contributed to a surge in energy prices, and consumer confidence declined sharply late in the quarter. The volatility in energy markets provided opportunities for the trading businesses within the Investment Bank and contributed to the quarter’s record trading results. While there was no immediate material adverse impact on the Firm’s consumer businesses’ revenue as a result of these events, the Firm did provide for higher probable credit losses associated with Hurricane Katrina. In addition, record bankruptcy filings leading up to new bankruptcy legislation that went into effect on October 17 raised credit costs within Card Services.
The following discussion of the performance in each line of business compares the third quarter of 2005 with the comparable period in the prior year, unless otherwise noted.
Strong Investment Bank earnings were driven by record revenues, resulting from record trading revenues and continued strength in investment banking fees. Trading results were strong across all areas, with particular strength in energy, an area of significant investment. Partially offsetting the improved revenues were higher performance-based incentive compensation and a reduced benefit from the loan loss provision.
Retail Financial Services earnings declined from the prior year and included a special provision for credit losses related to Hurricane Katrina. Performance reflected lower MSR risk management results, a net loss associated with the transfer of auto loans to held-for-sale, and narrower spreads on consumer real estate loans. Earnings benefited from favorable credit trends and lower expenses due to merger-related expense savings and other efficiencies. Production results were strong across most product offerings and included year-over-year increases in checking accounts, average total deposits, mortgage originations, third-party mortgage loans serviced and average home equity balances.
Card Services earnings growth resulted from higher revenues and lower expenses. The increased revenues reflected higher loan balances and increased interchange income from higher charge volume, partially offset by an increase in loan balances in their introductory rate period, higher volume-driven payments to partners and by rewards expense. Lower expenses were driven by merger savings, including lower compensation and processing costs. Partially offsetting these benefits was a higher provision for credit losses related to increased bankruptcies and to the special provision for credit losses related to Hurricane Katrina.

6


 

Commercial Banking produced strong earnings growth, driven by a lower provision for credit losses, increased revenue and a decline in expenses. Results included a special provision for credit losses attributable to Hurricane Katrina. Improved underlying credit quality and management of the portfolio drove the decline in the provision for credit losses. Higher spreads and volume related to liability balances, increased loan balances and growth in investment banking revenue, partially offset by lower loan spreads, resulted in higher revenues. Expenses declined due to lower compensation costs, partially offset by increased unit costs for Treasury Services products.
Treasury & Securities Services earnings increased significantly, benefiting from higher revenues and lower expenses. Revenue growth reflected wider spreads on liability balances, business growth and increased average liability balances, while the reduction in expenses was primarily due to a significant software-impairment charge in the prior year, lower allocations of Corporate segment expenses and increased product unit costs charged to other lines of business.
Record earnings in Asset & Wealth Management resulted from increased revenues, partially offset by higher compensation expense. Revenue growth was driven by the acquisition of a majority interest in Highbridge Capital Management, LLC in the fourth quarter of 2004 and net asset inflows, mainly in equity-related and liquidity products. Also contributing to the increase in revenue were global equity market appreciation and increased brokerage activity. Assets under supervision increased over the prior year, and Assets under management grew to a record level.
The loss in the Corporate segment increased from the prior year as lower revenues more than offset lower expenses. The decline in revenues was driven primarily by the absence of a one-time gain on the sale of an investment and by treasury portfolio losses versus gains in the prior year. This was partially offset by higher private equity gains. Lower compensation, merger-related savings and other efficiencies drove the expense decline.
For the quarter ended September 30, 2005, approximately $500 million (pre-tax) of merger savings have been realized, which is an annualized rate of $2.0 billion. Management continues to estimate that annual merger savings of approximately $3.0 billion (pre-tax) will be achieved by the end of 2007; approximately two-thirds of the savings are anticipated to be realized by the end of 2005. Merger costs of $221 million (pre-tax) were expensed during the third quarter of 2005, bringing the total amount expensed year-to-date to $645 million and $2.0 billion (pre-tax) cumulative since the Merger announcement. Management continues to estimate remaining Merger costs of $1.0 billion to $1.5 billion (pre-tax), which are expected to be expensed over the next two years. These estimated merger-related charges will result from actions taken with respect to both JPMorgan Chase’s and Bank One’s operations, facilities and employees. The charges will be recorded based upon the nature and timing of these integration actions.
The Firm’s balance sheet remained strong, with total stockholders’ equity of $106 billion and a Tier 1 capital ratio of 8.2% at September 30, 2005. The Firm repurchased $500 million, or 14.4 million shares, of common stock during the quarter and $2.4 billion, or 67.2 million shares, of common stock during the first nine months of the year.
Business outlook
Within the Investment Bank, the outlook for Investment banking fees remains favorable, reflecting a strong pipeline at September 30, 2005. Trading results reflect market conditions and are difficult to predict. However, given that trading results in the third quarter were at record levels, trading revenue in the fourth quarter is likely to be lower than the third quarter. In addition, the Firm anticipates that wholesale credit costs will return to more normal levels in 2006.
In Retail Financial Services, a flatter yield curve and rising short term interest rates may contribute to modest compression of net interest margin for Consumer & Small Business Banking. Credit costs for RFS have been at historically low levels; the business anticipates a return to more normal levels in coming quarters, in part due to a seasonal uptick in the fourth quarter. Investment in retail banking distribution and sales is expected to continue.
Card Services also expects modest net interest margin compression to continue, due, not only to the flattening yield curve and rising interest rates, but also to the increased number of balances in their introductory period.
The industry experienced an accelerated level of bankruptcy filings related to the new bankruptcy legislation, which generally became effective on October 17, 2005. The unprecedented number of bankruptcy filings, particularly in the week immediately preceding the effective date of the new legislation, led to a backlog in the processing of such bankruptcy filings and, accordingly, credit card net charge-offs are currently expected to be higher than previously anticipated. It is currently estimated that total managed credit card net charge-offs in the fourth quarter of 2005 will be approximately $2.3 billion, up from $1.6 billion in the prior quarter. The Firm believes that a portion of the expected increase in bankruptcy losses is an acceleration of net charge-offs that would have been experienced in future periods. The Firm will evaluate the impact of the surge in bankruptcy filings on its allowance for credit losses and currently believes that there could be a reduction in the allowance in the fourth quarter, given that the allowance provides for expected losses, which may be lower as a result of the large number of accelerated filings (assuming all other factors affecting the allowance are equal).
Finally, new minimum-payment rules are anticipated to be fully implemented by the end of the first quarter of 2006, resulting in higher required payments from some customers. It is anticipated that this may increase delinquency and net charge-offs and lower revenues in 2006. The magnitude of the impact of the new minimum-payment rules is currently being assessed.
Private Equity gains are generally not stable quarter to quarter and are therefore difficult to predict. Given the large gains realized year-to-date, management currently estimates that gains for the fourth quarter will be in the range of $100 million to $200 million, although results can be volatile.

7


 

CONSOLIDATED RESULTS OF OPERATIONS
The following section provides a discussion of JPMorgan Chase’s consolidated results of operations on a reported basis. Factors that are primarily related to a single business segment are discussed in more detail within that business segment. For a discussion of the Critical accounting estimates used by the Firm that affect the Consolidated results of operations, see page 63 of this Form 10–Q, and pages 77–79 of the JPMorgan Chase 2004 Annual Report.
The following table presents the components of Total net revenue:
                                                 
Total net revenue   Three months ended September 30,     Nine months ended September 30,  
(in millions)   2005     2004     Change     2005     2004(a)   Change  
 
Investment banking fees
  $ 989     $ 879       13 %   $ 2,943     $ 2,464       19 %
Trading revenue
    2,499       408       NM       4,745       3,001       58  
Lending & deposit related fees
    865       943       (8 )     2,536       1,769       43  
Asset management, administration and commissions
    2,628       2,185       20       7,667       5,835       31  
Securities/private equity gains (losses)
    343       413       (17 )     705       1,305       (46 )
Mortgage fees and related income
    201       233       (14 )     899       721       25  
Credit card income
    1,855       1,782       4       5,352       3,018       77  
Other income
    233       210       11       930       602       54  
                     
Noninterest revenue
    9,613       7,053       36       25,777       18,715       38  
Net interest income
    4,852       5,452       (11 )     15,078       11,432       32  
                     
Total net revenue
  $ 14,465     $ 12,505       16 %   $ 40,855     $ 30,147       36 %
 
(a)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
Net revenue for the third quarter of 2005 was up $2.0 billion, or 16%, from the prior year. The increase was primarily due to record Trading revenue of $2.5 billion and higher Asset management, administration and commissions revenue. For the first nine months of the year, net revenue was up 36%, primarily as a result of the Merger.
Investment banking fees rose from the third quarter and first nine months of 2004. The improvement from both periods reflected strong advisory fees, with particular strength in Europe, which benefited from the joint venture with Cazenove Group plc (“Cazenove”). In addition, the third quarter 2005 results were driven by higher equity underwriting fees, while the year-to-date results included increased debt underwriting fees. Trading revenue for both periods benefited from strong results across all areas. For a further discussion of Investment banking fees and Trading revenue, which are primarily recorded in the IB, see the IB segment results on pages 16–20 of this Form 10–Q.
Lending & deposit related fees declined in comparison with the 2004 third quarter, primarily driven by lower service charges on wholesale deposits due to rising interest rates. In this environment, customers earn more credit from their deposit balances, and thus compensate the Firm using balances instead of fees. For the first nine months of 2005, the unfavorable effect of the rising rate environment was more than offset by the positive contributions from the Merger. For a further discussion on liability balances (including deposits), see page 43 of this Form 10–Q.
The increases in Asset management, administration and commissions revenue for the third quarter and first nine months of 2005 were driven by incremental fees from several recent investments, including a majority interest in Highbridge Capital Management, LLC, the joint venture with Cazenove and the acquisition of Vastera. Also contributing to the higher level of revenue were an increase in assets under management, reflecting net asset inflows and global equity market appreciation, an increase in assets under custody, reflecting market value appreciation and new business, and higher brokerage commissions. For additional information on these fees and commissions, see the segment discussions for IB on pages 16–20, AWM on pages 36–39 and TSS on pages 33–35 of this Form 10–Q.
The decline in Securities/private equity gains (losses) reflected securities losses recognized in the third quarter and first nine months of 2005 related to repositioning the Treasury portfolio to manage the Firm’s exposure to rising interest rates. In particular, during the first quarter of 2005, the Firm recognized a loss of $822 million on the sale of securities available-for-sale. The securities losses were partly offset by higher private equity gains due to improved market conditions. For a further discussion of Securities/private equity gains (losses), which are primarily recorded in the Firm’s Treasury and Private Equity businesses, see the Corporate segment discussion on pages 39–41 of this Form 10–Q.
Mortgage fees and related income declined in comparison with the third quarter of 2004, primarily due to MSR risk management results, which were a $38 million loss compared with a $153 million gain in the 2004 third quarter. Higher production-related revenue attributable to higher margins and volume provided a favorable offset. For the first nine months, Mortgage fees and related income rose from the prior-year period, reflecting higher production-related revenue. Mortgage fees and related income excludes the impact of NII and AFS securities gains related to home mortgage activities. For a discussion of Mortgage fees and related income, which is primarily recorded in RFS’s Home Finance business, see the Home Finance discussion on pages 22–24 of this Form 10–Q.

8


 

Credit card income increased from both the third quarter and first nine months of 2004 as a result of higher interchange income associated with growth in charge volume. This increase was partially offset by higher volume-driven payments to partners and by rewards expense. For a further discussion of Credit card income, see CS’s segment results on pages 28–30 of this Form 10–Q.
Other income was up slightly compared with the third quarter of 2004, reflecting higher gains on securities from loan workouts and revenues from auto operating leases, partly offset by the absence of a one-time gain in the prior year on the sale of an investment and by a current period write-down on auto loans transferred to held-for-sale. On a year-to-date basis, Other income increased significantly due to the Merger, partially offset by write-downs on auto loans transferred to held-for-sale in 2005.
Net interest income declined from the 2004 third quarter, primarily due to narrower spreads on consumer and wholesale loans and reduced Treasury portfolio levels. These declines were partially offset by higher volume of, and wider spreads on, liability balances. On a year-to-date basis, net interest income increased due to the Merger. The Firm’s total average interest-earning assets for the three months ended September 30, 2005, were $922 billion, up 6% from September 30, 2004, as a result of an increase in loans and other liquid interest-earning assets. The net interest yield on these assets, on a fully taxable-equivalent basis, was 2.12%, a decrease of 36 basis points from the prior year. The Firm’s total average interest-earning assets for the nine months ended September 30, 2005, were $911 billion, up 31% from September 30, 2004, primarily as a result of the Merger. The net interest yield on these assets, on a fully taxable-equivalent basis, was 2.24%, an increase of 4 basis points from the prior-year period.
Provision for credit losses
The Provision for credit losses rose from the third quarter of 2004, primarily due to a $400 million special provision for credit losses related to Hurricane Katrina, partially offset by a $333 million charge taken in the third quarter of 2004 to conform accounting policies. The special provision was related to expected credit losses for businesses and individuals who are located in the affected areas of the Gulf Coast region and was established based upon management’s current estimate of probable loss. In developing the estimate of probable credit losses, management considered factors such as the areas most severely affected, level and type of insurance coverage, collateral and lien position, direct communication with customers, financial condition of the borrower, environmental impact and other factors. The provision may need to be increased in the future as the quality of data and access to the affected areas improve. Excluding the impact of the special provision in the current quarter and the impact of conforming accounting policies in the third quarter of last year, the wholesale provision for credit losses would have been a benefit of $149 million for the quarter, compared with a benefit of $137 million in the prior year, reflecting continued strength in credit quality. Total consumer provision for credit losses, excluding the Hurricane Katrina impact, would have been $1.0 billion, up slightly from the third quarter of 2004, which excludes the impact of conforming accounting policies in the third quarter of last year. Lower net charge-offs and positive delinquency trends in Retail Financial Services were offset by a higher provision in Card Services, primarily related to accelerated bankruptcy filings prior to the enactment of new legislation that became effective on October 17, 2005.
For the first nine months of 2005, the higher Provision for credit losses was due primarily to the Merger. The impact of Hurricane Katrina and accelerated bankruptcy filings also contributed to the increase. For further information about the Provision for credit losses, see the table on page 59 of this Form 10–Q.
Noninterest expense
The following table presents the components of Noninterest expense:
                                                 
    Three months ended September 30,     Nine months ended September 30,  
(in millions)   2005     2004     Change     2005     2004(a)     Change  
 
Compensation expense
  $ 5,001     $ 4,050       23 %   $ 13,969     $ 10,295       36 %
Occupancy expense
    549       604       (9 )     1,654       1,475       12  
Technology and communications expense
    899       1,046       (14 )     2,715       2,651       2  
Professional & outside services
    1,018       1,103       (8 )     3,222       2,671       21  
Marketing
    512       506       1       1,532       907       69  
Other expense
    882       920       (4 )     2,641       1,878       41  
Amortization of intangibles
    382       396       (4 )     1,150       554       108  
                     
Total noninterest expense before merger costs and litigation reserve charge
    9,243       8,625       7       26,883       20,431       32  
Merger costs
    221       752       (71 )     645       842       (23 )
Litigation reserve charge
                NM       2,772       3,700       (25 )
                     
Total noninterest expense
  $ 9,464     $ 9,377       1 %   $ 30,300     $ 24,973       21 %
 
(a)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
Noninterest expense for the third quarter of 2005 was essentially flat to the 2004 third quarter, as higher performance-based incentive compensation was offset by significantly lower Merger costs and other declines in noncompensation expense, reflecting merger-related savings, other efficiencies and lower software-impairment charges. For the first nine months of 2005, the increase in noninterest expense due to the Merger was partly offset by lower nonoperating Litigation reserve charges and Merger costs and

9


 

lower noninterest expense-resulting from expense-management initiatives. The discussion that follows highlights factors other than the Merger that affected the comparison of results.
The increases in Compensation expense from the third quarter and first nine months of 2004 were primarily the result of higher performance-based incentive accruals; additional headcount due to the insourcing of the Firm’s global technology infrastructure (effective December 31, 2004, JPMorgan Chase terminated its outsourcing agreement with IBM); the impact of several investments, including Highbridge, Cazenove and Vastera; and business growth. These increases were partially offset by merger-related savings throughout the Firm.
Occupancy expense included a net release of excess property-tax accruals, compared with charges for excess real estate of $35 million in the third quarter of 2004.
Technology and communications expense declined from the third quarter of last year, reflecting the insourcing of the Firm’s global technology infrastructure, which resulted in a shift of certain expenses to compensation expense and to professional and outside services expense. On a year-to-date basis, the expense increased slightly, with the decrease from the insourcing offset by the costs of investments in the Firm’s hardware and software.
Professional & outside services were slightly lower compared with the third quarter of 2004, reflecting the benefits of expense management initiatives. These savings were partly offset by the termination of the aforementioned IBM outsourcing agreement. For the first nine months, the addition of the costs from the Merger was partly offset by expense-management initiatives.
Marketing expense, compared with the 2004 third quarter, was flat. On a year-to-date basis marketing expense increased as a result of the Merger and the cost of advertising campaigns to introduce the Chase brand to Bank One markets.
The decline in Other expense from the third quarter of 2004 was due to lower software-impairment charges and a decrease in operating charges for legal matters. These declines were partly offset by incremental expenses related to several recent investments, including Highbridge, Cazenove and Vastera. For the first nine months, the addition from the Merger was the primary driver of the increase in Other expense. In addition, business growth, a $93 million (pre-tax) charge taken in the 2005 second quarter to terminate a client contract in Treasury & Securities Services and a $40 million (pre-tax) charge taken in the first quarter of 2005 related to the dissolution of a student loan joint venture, contributed to the increase. These items were partially offset by merger-related savings and other efficiencies.
For a discussion of Amortization of intangibles and Merger costs, refer to Note 14 and Note 7 on pages 81–82 and 73, respectively, of this Form 10–Q.
There were no nonoperating Litigation charges in the third quarters of 2005 and 2004. In the second quarter of 2005, the Firm recorded a $1.9 billion ($1.2 billion after-tax) nonoperating charge related to the settlement of the Enron class action litigation and for certain of its other material legal proceedings. In the first quarter of 2005, the Firm took a $900 million charge ($558 million after-tax) for the settlement costs of the WorldCom class action litigation. In the second quarter of 2004, the Firm recorded a $3.7 billion ($2.3 billion after-tax) nonoperating litigation charge to increase litigation reserves. For a further discussion of litigation, refer to Note 17 on page 84, and Part II, Item 1, Legal Proceedings, on pages 96–97 of this Form 10–Q.
Income tax expense
The Firm’s Income before income tax expense, Income tax expense and effective tax rate were as follows for each of the periods indicated:
                                 
    Three months ended     Nine months ended  
    September 30,     September 30,  
(in millions, except rate)   2005     2004     2005     2004(a)  
 
Income before income tax expense
  $ 3,756     $ 1,959     $ 8,296     $ 3,787  
Income tax expense
    1,229       541       2,511       987  
Effective tax rate
    32.7 %     27.6 %     30.3 %     26.1 %
 
(a)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
The increase in the effective tax rate for the third quarter and first nine months of 2005, as compared with prior-year periods, was primarily the result of higher reported pre-tax income combined with changes in the proportion of income subject to federal, state and local taxes. Also contributing to the increase in the effective tax rate were lower 2005 nonoperating charges, reflecting a tax benefit at a 38% marginal tax rate.

10


 

 
EXPLANATION AND RECONCILIATION OF THE FIRM’S USE OF NON-GAAP FINANCIAL MEASURES
 
The Firm prepares its Consolidated financial statements using accounting principles generally accepted in the United States of America (“U.S. GAAP”); these financial statements appear on pages 65–68 of this Form 10–Q. That presentation, which is referred to as “reported basis,” provides the reader with an understanding of the Firm’s results that can be consistently tracked from year to year and enables a comparison of the Firm’s performance with other companies’ U.S. GAAP financial statements.
In addition to analyzing the Firm’s results on a reported basis, management reviews the Firm’s and the lines of business’ results on an “operating basis,” which is a non-GAAP financial measure. The definition of operating basis starts with the reported U.S. GAAP results. In the case of the IB, noninterest revenue on an operating basis includes, in Trading revenue, Net interest income related to trading activities. Trading activities generate revenues, which are recorded for U.S. GAAP purposes in two line items on the income statement: Trading revenue, which includes the mark-to-market gains or losses on trading positions; and Net interest income, which includes the interest income or expense related to those positions. Combining both the Trading revenue and related Net interest income enables management to evaluate IB’s trading activities, by considering all revenue related to these activities, and facilitates operating comparisons to other competitors.
In the case of CS, operating, or managed, basis excludes the impact of credit card securitizations on total net revenue, the Provision for credit losses, net charge-offs and loan receivables. Through securitization the Firm transforms a portion of its credit card receivables into securities, which are sold to investors. The credit card receivables are removed from the Consolidated balance sheets through the transfer of principal credit card receivables to a trust, and the sale of undivided interests in the trusts to investors that entitle the investors to specific cash flows generated from the credit card receivables. The Firm retains the remaining undivided interests in the trust as seller’s interests, which are recorded in Loans on the Consolidated balance sheets. A gain or loss on the sale of credit card receivables to investors is recorded in Other income. Securitization also affects the Firm’s Consolidated statements of income by reclassifying as Credit card income, interest income, certain fee revenue, recoveries in excess of interest paid to the investors, gross credit losses and other trust expenses related to the securitized receivables. For a reconciliation of reported to managed basis of CS results, see page 30 of this Form 10–Q. For information regarding loans and residual interests sold and securitized, see Note 12 on pages 76–79 of this Form 10–Q. JPMorgan Chase uses the concept of “managed receivables” to evaluate the credit performance and overall financial performance of its underlying credit card loans, both sold and not sold: as the same borrower is continuing to use the credit card for ongoing charges, a borrower’s credit performance will affect both the loan receivables sold under SFAS 140 and those not sold. Thus, in its disclosures regarding managed loan receivables, JPMorgan Chase treats the sold receivables as if they were still on the balance sheet in order to disclose the credit performance (such as net charge-off rates) of the entire managed credit card portfolio. In addition, CS operations are funded, operating results are evaluated, and decisions about allocating resources such as employees and capital are based on managed financial information.
Operating basis also excludes Merger costs, litigation reserve charges deemed nonoperating and accounting policy conformity adjustments, as management believes these items are not part of the Firm’s normal daily business operations (and, therefore, are not indicative of trends) and do not provide meaningful comparisons with other periods. For additional detail on nonoperating litigation charges, see the Glossary of Terms on page 92 of this Form 10–Q.
Finally, commencing with the first quarter of 2005, Operating revenue (Noninterest Revenue and Net interest income) for each of the segments and the Firm is presented on a tax-equivalent basis. Accordingly, revenue from tax-exempt securities and investments that receive tax credits are presented in the operating results on a basis comparable to taxable securities and investments. This allows management to assess the comparability of revenues arising from both taxable and tax-exempt sources. The corresponding income tax impact related to these items is recorded within Income tax expense. The Corporate sector’s and the Firm’s operating revenue and income tax expense for the periods prior to the first quarter of 2005 have been restated to be similarly presented on a tax-equivalent basis. Previously, only the segments’ operating results were presented on a tax-equivalent basis, and the impact of the segments’ tax-equivalent adjustments was eliminated in the Corporate sector. This restatement had no impact on the Corporate sector’s or the Firm’s operating earnings.
Management also uses certain non-GAAP financial measures at the segment level. Management believes these non-GAAP financial measures provide information to investors in understanding the underlying operational performance and trends of the particular business segment and facilitate a comparison of the business segment with the performance of competitors.

11


 

The following summary table provides a reconciliation from the Firm’s reported U.S. GAAP results to operating results:
                                                         
Three months ended September 30,   2005  
    Reported     Trading     Credit     Merger     Litigation     Tax-equivalent     Operating  
(in millions, except per share and ratio data)   results     reclass(d)     card(e)     costs(f)     charge(f)     adjustments     basis  
 
Revenue
                                                       
Investment banking fees
  $ 989     $     $     $     $     $     $ 989  
Trading revenue
    2,499       (103 )                             2,396  
Lending & deposit related fees
    865                                     865  
Asset management, administration and commissions
    2,628                                     2,628  
Securities/private equity gains (losses)
    343                                     343  
Mortgage fees and related income
    201                                     201  
Credit card income
    1,855             (733 )                       1,122  
Other income
    233                               155       388  
 
Noninterest revenue
    9,613       (103 )     (733 )                 155       8,932  
Net interest income
    4,852       103       1,600                   67       6,622  
 
Total net revenue
    14,465             867                   222       15,554  
Provision for credit losses(a)
    1,245             867                         2,112  
Noninterest expense
Merger costs
    221                   (221 )                  
Litigation reserve charge
                                         
All other noninterest expense
    9,243                                     9,243  
 
Total noninterest expense
    9,464                   (221 )                 9,243  
 
Income before income tax expense
    3,756                   221             222       4,199  
Income tax expense
    1,229                   84             222       1,535  
 
Net income
  $ 2,527     $     $     $ 137     $     $     $ 2,664  
 
Earnings per share — diluted
  $ 0.71     $     $     $ 0.04     $     $     $ 0.75  
 
Return on common equity
    9 %     %     %     1 %     %     %     10 %
Return on equity — goodwill(b)
    16                   1                   17  
 
Return on assets
    0.84       NM       NM       NM       NM       NM       0.84  
 
Overhead ratio
    65       NM       NM       NM       NM       NM       59  
 
Effective income tax rate
    33       NM       NM       38       NM       100       37  
 
                                                                 
Three months ended September 30,   2004  
                                            Accounting              
    Reported     Trading     Credit     Merger     Litigation     policy     Tax-equivalent     Operating  
(in millions, except per share and ratio data)   results     reclass(d)     card(e)     costs(f)     charge(f)     conformity     adjustments     basis  
 
Revenue
                                                               
Investment banking fees
  $ 879     $     $     $     $     $     $     $ 879  
Trading revenue
    408       424                                     832  
Lending & deposit related fees
    943                                           943  
Asset management, administration and commissions
    2,185                                           2,185  
Securities/private equity gains (losses)
    413                                           413  
Mortgage fees and related income
    233                                           233  
Credit card income
    1,782             (848 )                             934  
Other income
    210             (3 )                 118       64       389  
 
Noninterest revenue
    7,053       424       (851 )                 118       64       6,808  
Net interest income
    5,452       (424 )     1,779                         (36 )     6,771  
 
Total net revenue
    12,505             928                   118       28       13,579  
Provision for credit losses
    1,169             928                   (333 )           1,764  
Noninterest expense
                                                               
Merger costs
    752                   (752 )                        
Litigation reserve charge
                                               
All other noninterest expense
    8,625                                           8,625  
 
Total noninterest expense
    9,377                   (752 )                       8,625  
 
Income before income tax expense
    1,959                   752             451       28       3,190  
Income tax expense
    541                   290             172       28       1,031  
 
Net income
  $ 1,418     $     $     $ 462     $     $ 279     $     $ 2,159  

12


 

Earnings per share — diluted
  $ 0.39     $     $     $ 0.13     $     $ 0.08     $     $ 0.60  
 
Return on common equity
    5 %                 2 %           1 %           8 %
Return on equity — goodwill(b)
    9                   3             2             14  
 
Return on assets
    0.50       NM       NM       NM       NM       NM       NM       0.72  
 
Overhead ratio
    75       NM       NM       NM       NM       NM       NM       64  
 
Effective income tax rate
    28       NM       NM       39       NM       38       100 %     32  
 
                                                         
Nine months ended September 30,   2005  
    Reported     Trading     Credit     Merger     Litigation     Tax-equivalent     Operating  
(in millions, except per share and ratio data)   results     reclass(d)     card(e)     costs(f)     charge(f)     adjustments     basis  
 
Revenue
                                                       
Investment banking fees
  $ 2,943     $     $     $     $     $     $ 2,943  
Trading revenue
    4,745       423                               5,168  
Lending & deposit related fees
    2,536                                     2,536  
Asset management, administration and commissions
    7,667                                     7,667  
Securities/private equity gains (losses)
    705                                     705  
Mortgage fees and related income
    899                                     899  
Credit card income
    5,352             (2,276 )                       3,076  
Other income
    930                               413       1,343  
 
Noninterest revenue
    25,777       423       (2,276 )                 413       24,337  
Net interest income
    15,078       (423 )     4,990                   212       19,857  
 
Total net revenue
    40,855             2,714                   625       44,194  
Provision for credit losses(a)
    2,259             2,714                         4,973  
Noninterest expense
Merger costs
    645                   (645 )                  
Litigation reserve charge
    2,772                         (2,772 )            
All other noninterest expense
    26,883                                     26,883  
 
Total noninterest expense
    30,300                   (645 )     (2,772 )           26,883  
 
Income before income tax expense
    8,296                   645       2,772       625       12,338  
Income tax expense
    2,511                   245       1,053       625       4,434  
 
Net income
  $ 5,785     $     $     $ 400     $ 1,719     $     $ 7,904  
 
Earnings per share — diluted
  $ 1.62     $     $     $ 0.12     $ 0.48     $     $ 2.22  
 
                                                       
Return on common equity
    7 %     %     %     1 %     2 %     %     10 %
Return on equity — goodwill(b)
    12                   1       4             17  
 
Return on assets
    0.66       NM       NM       NM       NM       NM       0.85  
 
Overhead ratio
    74       NM       NM       NM       NM       NM       61  
 
Effective income tax rate
    30       NM       NM       38       38       100       36  
 

13


 

                                                                 
Nine months ended September 30,(c)   2004  
                                            Accounting              
(in millions, except per share and   Reported     Trading     Credit     Merger     Litigation     policy     Tax-equivalent     Operating  
  ratio data)   results     reclass(d)     card(e)     costs(f)     charge(f)     conformity     adjustments     basis  
 
Revenue
                                                               
Investment banking fees
  $ 2,464     $     $     $     $     $     $     $ 2,464  
Trading revenue
    3,001       1,439                                     4,440  
Lending & deposit related fees
    1,769                                           1,769  
Asset management, administration and commissions
    5,835                                           5,835  
Securities/private equity gains (losses)
    1,305                                           1,305  
Mortgage fees and related income
    721                                           721  
Credit card income
    3,018             (1,481 )                             1,537  
Other income
    602             (87 )                 118       139       772  
 
Noninterest revenue
    18,715       1,439       (1,568 )                 118       139       18,843  
Net interest income
    11,432       (1,439 )     3,455                         (4 )     13,444  
 
Total net revenue
    30,147             1,887                   118       135       32,287  
Provision for credit losses
    1,387             1,887                   (333 )           2,941  
Noninterest expense
                                                               
Merger costs
    842                   (842 )                        
Litigation reserve charge
    3,700                         (3,700 )                  
All other noninterest expense
    20,431                                           20,431  
 
Total noninterest expense
    24,973                   (842 )     (3,700 )                 20,431  
 
Income before income tax expense
    3,787                   842       3,700       451       135       8,915  
Income tax expense
    987                   320       1,406       172       135       3,020  
 
 
                                                               
Net income
  $ 2,800     $     $     $ 522     $ 2,294     $ 279     $     $ 5,895  
 
Earnings per share — diluted
  $ 1.06     $     $     $ 0.20     $ 0.88     $ 0.11     $     $ 2.25  
 
Return on common equity
    6 %     %     %     1 %     5 %     %     %     12 %
Return on equity — goodwill(b)
    8                   2       6       1             17  
 
Return on assets
    0.42       NM       NM       NM       NM       NM       NM       0.83  
 
Overhead ratio
    83       NM       NM       NM       NM       NM       NM       63  
 
Effective income tax rate
    26       NM       NM       38       38       38       100       34  
 
(a)  
Third quarter 2005 includes a $400 million special provision related to Hurricane Katrina: Retail Financial Services $250 million, Card Services $100 million, Commercial Banking $35 million, Asset & Wealth Management $3 million and Corporate $12 million.
(b)  
Net income applicable to common stock divided by total average common equity (net of goodwill). The Firm uses return on equity less goodwill, a non-GAAP financial measure, to evaluate the operating performance of the Firm. The Firm utilizes this measure to facilitate operating comparisons to other competitors.
(c)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
(d)  
The reclassification of trading-related net interest income from Net interest income to Trading revenue primarily impacts the Investment Bank segment results.
(e)  
The impact of credit card securitizations affects Card Services. See pages 28–30 of this Form 10–Q for further information.
(f)  
The impact of Merger costs and nonoperating Litigation reserve charges are excluded from Operating earnings, as management believes these items are not part of the Firm’s normal daily business operations (and, therefore, are not indicative of trends), and do not provide meaningful comparisons with other periods.
                                                 
Three months ended September 30,   2005     2004  
(in millions)   Reported     Securitized     Managed     Reported     Securitized     Managed  
 
Loans — Period-end
  $ 420,504     $ 69,095     $ 489,599     $ 393,701     $ 71,256     $ 464,957  
Total assets — average
    1,196,045       67,021       1,263,066       1,117,335       69,035       1,186,370  
 
                                                 
Nine months ended September 30,   2005     2004  
(in millions)   Reported     Securitized     Managed     Reported     Securitized     Managed  
 
Loans — Period-end
  $ 420,504     $ 69,095     $ 489,599     $ 393,701     $ 71,256     $ 464,957  
Total assets — average
    1,178,420       66,917       1,245,337       897,978 (a)     45,227 (a)     943,205 (a)
 
(a)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.

14


 

 
BUSINESS SEGMENT RESULTS
 
The Firm is managed on a line-of-business basis. The business segment financial results presented reflect the organization of JPMorgan Chase. Currently, there are six major reportable business segments: the Investment Bank, Retail Financial Services, Card Services, Commercial Banking, Treasury & Securities Services and Asset & Wealth Management, as well as a Corporate segment. The segments are based on the products and services provided, or the type of customer served, and they reflect the manner in which financial information is currently evaluated by management. Results of these lines of business are presented on an operating basis. For a further discussion of Business segment results, see pages 28–29 of JPMorgan Chase’s 2004 Annual Report.
Segment results for the nine months ended September 30, 2004, reflect three months of the combined Firm’s results and six months of heritage JPMorgan Chase results and have been restated to reflect the current business segment organization and reporting classifications. The following table summarizes the business segment results for the periods indicated:
                                                                                         
Segment results – Operating basis(a)                                                                           Return on  
Three months ended September 30,   Total net revenue     Noninterest expense     Operating earnings     equity-goodwill  
(in millions, except ratios)   2005     2004     Change     2005     2004     Change     2005     2004     Change     2005     2004  
 
Investment Bank
  $ 4,461     $ 2,701       65 %   $ 2,875     $ 1,924       49 %   $ 1,063     $ 627       70 %     21 %     12 %
Retail Financial Services
    3,590       3,800       (6 )     2,156       2,238       (4 )     656       822       (20 )     19       25  
Card Services
    3,980       3,771       6       1,286       1,437       (11 )     541       421       29       18       14  
Commercial Banking
    909       833       9       461       480       (4 )     301       215       40       35       25  
Treasury & Securities Services
    1,556       1,339       16       1,107       1,156       (4 )     263       96       174       55       20  
Asset & Wealth Management
    1,449       1,193       21       976       884       10       315       197       60       52       33  
Corporate
    (391 )     (58 )     NM       382       506       (25 )     (475 )     (219 )     (117 )     NM       NM  
 
Total
  $ 15,554     $ 13,579       15 %   $ 9,243     $ 8,625       7 %   $ 2,664     $ 2,159       23 %     17 %     14 %
 
                                                                                         
                                                                            Return on  
Nine months ended September 30,(b)   Total net revenue     Noninterest expense     Operating earnings     equity-goodwill  
(in millions, except ratios)   2005     2004     Change     2005     2004     Change     2005     2004     Change     2005     2004  
 
Investment Bank
  $ 11,391     $ 9,404       21 %   $ 7,578     $ 6,306       20 %   $ 2,994     $ 2,288       31 %     20 %     19 %
Retail Financial Services
    11,236       7,246       55       6,444       4,610       40       2,624       1,424       84       26       24  
Card Services
    11,645       6,915       68       3,982       2,601       53       1,605       759       111       18       16  
Commercial Banking
    2,659       1,489       79       1,392       892       56       718       354       103       28       29  
Treasury & Securities Services
    4,626       3,444       34       3,366       2,967       13       737       295       150       52       14  
Asset & Wealth Management
    4,153       2,869       45       2,827       2,214       28       874       418       109       49       13  
Corporate
    (1,516 )     920       NM       1,294       841       54       (1,648 )     357       NM       NM       NM  
 
Total
  $ 44,194     $ 32,287       37 %   $ 26,883     $ 20,431       32 %   $ 7,904     $ 5,895       34 %     17 %     17 %
 
(a)  
Represents reported results on a tax-equivalent basis and excludes the impact of credit card securitizations, Merger costs and litigation reserve charges deemed nonoperating.
(b)  
Year-to-date 2004 results include three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
Description of business segment reporting methodology
Results of the business segments are intended to reflect each segment as if it were essentially a stand-alone business. The management reporting process that derives these results allocates income and expense using market-based methodologies. At the effective time of the Merger, July 1, 2004, several of the allocation methodologies were revised. For a further discussion of those methodologies, see page 29 of JPMorgan Chase’s 2004 Annual Report. In addition, during the first quarter of 2005, the Firm refined cost allocation methodologies related to certain corporate functions and technology and operations expense in order to provide better consistency in reporting across business segments. Prior periods have not been revised to reflect these new cost allocation methodologies. The Firm intends to continue to assess the assumptions, methodologies and reporting reclassifications used for segment reporting, and it is anticipated that further refinements may be implemented in future periods.

15


 

 
INVESTMENT BANK
 
For a discussion of the business profile of the IB, see pages 30–32 of JPMorgan Chase’s 2004 Annual Report.
                                                 
Selected income statement data(a)   Three months ended September 30,     Nine months ended September 30,  
(in millions, except ratios)   2005     2004     Change     2005     2004(f)     Change  
 
Revenue
                                               
Investment banking fees:
                                               
Advisory
  $ 300     $ 273       10 %   $ 922     $ 688       34 %
Equity underwriting
    210       170       24       553       568       (3 )
Debt underwriting
    475       468       1       1,460       1,236       18  
                     
Total investment banking fees
    985       911       8       2,935       2,492       18  
 
                                               
Trading-related revenue:
                                               
Fixed income and other
    2,083       657       217       4,938       3,835       29  
Equities
    329       220       50       274       469       (42 )
Credit portfolio
    23       (35 )     NM       36       50       (28 )
                     
Total trading-related revenue(b)
    2,435       842       189       5,248       4,354       21  
 
                                               
Lending & deposit related fees
    148       155       (5 )     451       363       24  
Asset management, administration and commissions
    445       313       42       1,266       1,054       20  
Other income
    94       91       3       491       150       227  
                     
Noninterest revenue
    4,107       2,312       78       10,391       8,413       24  
Net interest income(b)
    354       389       (9 )     1,000       991       1  
                     
Total net revenue(c)
    4,461       2,701       65       11,391       9,404       21  
 
                                               
Provision for credit losses
    (46 )     (151 )     70       (755 )     (467 )     (62 )
Credit reimbursement from TSS(d)
    38       43       (12 )     114       47       143  
 
                                               
Noninterest expense
                                               
Compensation expense
    1,883       992       90       4,691       3,504       34  
Noncompensation expense
    992       932       6       2,887       2,802       3  
                     
Total noninterest expense
    2,875       1,924       49       7,578       6,306       20  
                     
Operating earnings before income tax expense
    1,670       971       72       4,682       3,612       30  
Income tax expense
    607       344       76       1,688       1,324       27  
                     
Operating earnings
  $ 1,063     $ 627       70     $ 2,994     $ 2,288       31  
                     
 
                                               
Financial ratios
                                               
ROE
    21 %     12 %             20 %     19 %        
ROA
    0.68       0.50               0.68       0.68          
Overhead ratio
    64       71               67       67          
Compensation expense as % of total net revenue
    42       37               41       37          
                     
Revenue by business(e)
                                               
Investment banking fees
  $ 985     $ 911       8     $ 2,935     $ 2,492       18  
Fixed income markets
    2,431       1,115       118       6,138       4,784       28  
Equities markets
    713       455       57       1,341       1,248       7  
Credit portfolio
    332       220       51       977       880       11  
                     
Total net revenue
  $ 4,461     $ 2,701       65     $ 11,391     $ 9,404       21  
                     
Revenue by region
                                               
Americas
  $ 2,690     $ 1,591       69     $ 6,747     $ 5,041       34  
Europe/Middle East/Africa
    1,272       741       72       3,361       3,069       10  
Asia/Pacific
    499       369       35       1,283       1,294       (1 )
                     
Total net revenue
  $ 4,461     $ 2,701       65     $ 11,391     $ 9,404       21  
 
(a)  
For a discussion of selected lines of business metrics, see page 93 of this Form 10–Q.
(b)  
Trading revenue, on a reported basis, excludes the impact of net interest income related to the IB’s trading activities; this income is recorded in Net interest income. However, in this presentation, to assess the profitability of the IB’s trading business, the Firm combines these revenues for segment reporting. The amount reclassified from Net interest income to Trading revenue was $(101) million and $430 million for the three months ended September 30, 2005 and 2004, respectively, and $430 million and $1.4 billion for the nine months ended September 30, 2005 and 2004, respectively.

16


 

(c)  
Total net revenue includes tax-equivalent adjustments, primarily due to tax-exempt income from municipal bonds and income tax credits related to affordable housing investments, of $200 million and $9 million for the three months ended September 30, 2005 and 2004, respectively, and $561 million and $107 million for the nine months ended September 30, 2005 and 2004, respectively.
(d)  
TSS is charged a credit reimbursement related to certain exposures managed within the IB credit portfolio on behalf of clients shared with TSS. For a further discussion, see Credit reimbursement on page 29 of the JPMorgan Chase 2004 Annual Report.
(e)  
See account details of Fixed Income Markets, Equities Markets and Credit Portfolio in the Composition of Revenues table on pages 19–20.
(f)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
Quarterly results
Operating earnings of $1.1 billion were strong, up $436 million, or 70%, from the prior year and 75% from the prior quarter. The increases were driven primarily by record trading revenues of $2.4 billion, up $1.6 billion from the prior year and $1.8 billion from the prior quarter. Trading results were strong across all trading areas. In addition, results benefited from continued strength in investment banking fees. Partially offsetting the improved revenues were higher performance-based incentive compensation and a reduced benefit from the loan loss provision.
Net revenue of $4.5 billion was a quarterly record, up $1.8 billion, or 65%, from the prior year and up 62% from the prior quarter. Investment banking fees of $985 million were up 8% from the prior year showing continued strength. Europe was a strong contributor to these results, benefiting from the joint venture with Cazenove. Advisory fees of $300 million were up 10% over the prior year. Debt underwriting fees of $475 million were roughly flat to the prior year, while equity underwriting fees of $210 million were up 24% over the prior year and more than doubled versus last quarter. Fixed Income Markets revenue of $2.4 billion represented a record quarter, more than double the prior year and up 71%, or $1.0 billion, from the prior quarter. The increase over both periods was driven by strong trading results in all areas, with particular strength in energy, an area of significant investment. Client-related and proprietary trading were very strong across all asset classes. Equity Markets revenue of $713 million increased by $258 million, or 57%, over the prior year and $641 million over the prior quarter. This performance was driven primarily by improved trading results across regions and by higher commissions.
The provision for credit losses was a benefit of $46 million, compared with a benefit of $151 million in the prior year and a $343 million benefit in the prior quarter. The benefit reflects the continued strong quality of the credit portfolio.
Noninterest expense was $2.9 billion, up $951 million, or 49%, from the prior year and up $697 million, or 32%, from the prior quarter. The increase in both periods was primarily driven by higher performance-based incentive compensation. The comparison to the prior year was also affected by the joint venture with Cazenove, which closed in the first quarter of 2005.
Year-to-date results
Variances to the prior nine-month period are due, in part, to the Merger. Operating earnings of $3.0 billion increased by $706 million, or 31%, from the prior year. Increases in Trading-related revenue, Investment banking fees and other noninterest revenue, as well as an increased benefit from the Provision for credit losses, were partially offset by higher compensation expense.
Net revenue of $11.4 billion was up $2.0 billion, or 21%, over the prior year driven by strong Trading-related revenue and Investment banking fees. Investment banking fees of $2.9 billion increased 18% from the prior year driven by strong advisory and debt underwriting fees as well as the Cazenove joint venture. Advisory revenues of $922 million were up 34% from the prior year. Debt underwriting revenues increased 18% to $1.5 billion driven by strong loan syndication fees. Equity underwriting fees of $553 million were down slightly from the prior year. Fixed Income Markets revenues of $6.1 billion increased 28%, or $1.4 billion, driven by improved trading performance across currency and commodities, emerging markets, rate markets and proprietary trading. Equities Markets revenues increased 7% to $1.3 billion, primarily due to increased commissions, which were partially offset by lower trading revenues. Credit Portfolio revenues were $977 million, up 11% from the prior year, due to gains from loan workouts and sales, partially offset by lower average loan balances and spreads.
The provision for credit losses was a benefit of $755 million, compared with a benefit of $467 million a year ago. The increased benefit was due primarily to the improvement in the credit quality of the loan portfolio and to net recoveries compared with net charge-offs for the prior nine-month period. Nonperforming loans decreased by 26% from year-end 2004.
Noninterest expense increased 20% to $7.6 billion, largely reflecting higher performance-based incentive compensation due to improved performance. The compensation-to-revenue ratio increased to 41% versus 37% for the prior year, reflecting current market conditions as well as a change in business mix. Noncompensation expenses were up 3% from the prior year, while the overhead ratio remained flat at 67%.

17


 

                                                 
Selected metrics   Three months ended September 30,     Nine months ended September 30,  
(in millions, except headcount                                    
and ratio data)   2005     2004     Change     2005     2004(h)     Change  
 
Selected balance sheets data (average)
                                               
Total assets
  $ 615,888     $ 496,347       24 %   $ 591,863     $ 452,714       31 %
Trading assets–debt and equity instruments
    234,722       197,150       19       231,057       187,008       24  
Trading assets–derivatives receivables
    52,399       60,465       (13 )     57,429       56,492       2  
Loans:
                                               
Credit portfolio
    33,819       31,129       9       31,180       28,357       10  
Other loans(a)
    24,517       14,650       67       21,262       12,563       69  
                     
Total loans(b)
    58,336       45,779       27       52,442       40,920       28  
Adjusted assets(c)
    462,056       401,010       15       453,990       380,740       19  
Equity(d)
    20,000       20,000             20,000       16,380       22  
 
                                               
Headcount
    19,526       17,420       12       19,526       17,420       12  
 
                                               
Credit data and quality statistics
                                               
Net charge-offs (recovery)
  $ (69 )   $ (16 )     (331 )   $ (121 )   $ 33       NM  
Nonperforming assets:
                                               
Nonperforming loans(e)
    702       1,075       (35 )     702       1,075       (35 )
Other nonperforming assets
    232       246       (6 )     232       246       (6 )
Allowance for loan losses
    1,002       1,841       (46 )     1,002       1,841       (46 )
Allowance for lending-related commitments
    211       358       (41 )     211       358       (41 )
 
                                               
Net charge-off (recovery) rate(b)
    (0.67 )%     (0.17 )%             (0.43 )%     0.13 %        
Allowance for loan losses to average loans(b)
    2.45       4.78               2.65       5.26          
Allowance for loan losses to nonperforming loans(e)
    168       172               168       172          
Nonperforming loans to average loans
    1.20       2.35               1.34       2.63          
 
                                               
Market risk–average trading and credit portfolio VAR(f)(g)
                                               
Trading activities:
                                               
Fixed income(f)
  $ 57     $ 80       (29 )   $ 66     $ 77       (14 )
Foreign exchange
    24       13       85       23       17       35  
Equities
    41       25       64       35       31       13  
Commodities and other
    24       10       140       16       9       78  
Diversification
    (62 )     (43 )     (44 )     (56 )     (45 )     (24 )
                     
Total trading VAR
    84       85       (1 )     84       89       (6 )
Credit portfolio VAR(g)
    15       13       15       14       14        
Diversification
    (13 )     (9 )     (44 )     (12 )     (8 )     (50 )
                     
Total trading and credit portfolio VAR
  $ 86     $ 89       (3 )   $ 86     $ 95       (9 )
 
(a)  
Other Loans include warehouse loans held as part of the IB’s mortgage-backed, asset-backed and other securitization businesses, loans held for proprietary investing purposes and certain other loans.
(b)  
Total loans include loans held-for-sale, which are excluded from Total loans for the allowance coverage ratio and net charge-off rate. Average third quarter 2005 loans held-for-sale were $17,357 million. Prior end-of-period loans held-for-sale were $7,281 million for the quarter ended September 30, 2004.
(c)  
Adjusted assets, a non-GAAP financial measure, equals total assets minus (i) securities purchased under resale agreements and securities borrowed less securities sold, not yet purchased; (ii) assets of variable interest entities (VIEs) consolidated under FIN 46R; (iii) cash and securities segregated and on deposit for regulatory and other purposes; and (iv) goodwill and intangibles. The amount of adjusted assets is presented to assist the reader in comparing the IB’s asset and capital levels to other investment banks in the securities industry. Asset-to-equity leverage ratios are commonly used as one measure to assess a company’s capital adequacy. The IB believes an adjusted asset amount, which excludes certain assets considered to have a low-risk profile, provides a more meaningful measure of balance sheet leverage in the securities industry. See Capital management on pages 43–45 of this Form 10–Q for a discussion of the Firm’s overall capital adequacy and capital management.
(d)  
Equity includes $15.2 billion and $15.7 billion of economic risk capital assigned to the IB for the quarters ended September 30, 2005 and 2004, respectively.

18


 

(e)  
Nonperforming loans include loans held-for-sale of $106 million and $4 million as of September 30, 2005 and 2004, respectively. These amounts are not included in the allowance coverage ratios.
(f)  
Includes all mark-to-market trading activities, plus available-for-sale securities held for proprietary purposes.
(g)  
Includes VAR on derivative credit valuation adjustments, credit valuation adjustment hedges and mark-to-market hedges of the accrual loan portfolio, which are all reported in Trading revenue. This VAR does not include the accrual loan portfolio, which is not marked to market.
(h)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
According to Thomson Financial, the Firm was ranked #1 in Global Syndicated Loans, #3 in Global Announced M&A, #4 in Global Long Term Debt and #6 in Global Equity and Equity-Related for the first nine months of 2005.
According to Dealogic, the Firm was ranked #2 in Investment Banking Fees generated for the first nine months of 2005.
                                 
    Nine months ended September 30, 2005   Full Year 2004
Market shares and rankings(a)   Market Share   Rankings   Market Share   Rankings
 
Global debt, equity and equity-related
    6 %     # 4       7 %     # 3  
Global syndicated loans
    16       # 1       19       # 1  
Global long-term debt
    6       # 4       7       # 2  
Global equity and equity-related
    7       # 6       6       # 6  
Global announced M&A
    22       # 3       25       # 2  
U.S. debt, equity and equity-related
    7       # 4       8       # 5  
U.S. syndicated loans
    29       # 1       32       # 1  
U.S. long-term debt
    11       # 2       12       # 2  
U.S. equity and equity-related
    8       # 6       8       # 6  
U.S. announced M&A
    16       # 8       33       # 1  
 
(a)  
Source: Thomson Financial Securities data. Global announced M&A is based upon rank value; all other rankings are based upon proceeds, with full credit to each book manager/equal if joint. Because of joint assignments, market share of all participants will add up to more than 100%. The market share and rankings for the year ended December 31, 2004, are presented on a combined basis, as if the merger of JPMorgan Chase and Bank One had been in effect during the period.
COMPOSITION OF REVENUES
                                                         
                            Asset                      
    Investment     Trading-     Lending &     management,                      
Three months ended September 30,   banking     related     deposit     administration     Other             Total net  
(in millions)   fees     revenue     related fees     and commissions     income     NII     revenue  
 
2005
                                                       
Investment banking fees
  $ 985     $     $     $     $     $     $ 985  
Fixed income markets
          2,083       64       52       40       192       2,431  
Equities markets
          329             384       (18 )     18       713  
Credit portfolio
          23       84       9       72       144       332  
 
Total
  $ 985     $ 2,435     $ 148     $ 445     $ 94     $ 354     $ 4,461  
 
 
                                                       
2004
                                                       
Investment banking fees
  $ 911     $     $     $     $     $     $ 911  
Fixed income markets
          657       69       54       154       181       1,115  
Equities markets
          220             252       (29 )     12       455  
Credit portfolio
          (35 )     86       7       (34 )     196       220  
 
Total
  $ 911     $ 842     $ 155     $ 313     $ 91     $ 389     $ 2,701  
 

19


 

                                                         
                            Asset                      
    Investment     Trading-     Lending &     management,                      
Nine months ended September 30,   banking     related     deposit     administration     Other             Total net  
(in millions)   fees     revenue     related fees     and commissions     income     NII     revenue  
 
2005
                                                       
Investment banking fees
  $ 2,935     $     $     $     $     $     $ 2,935  
Fixed income markets
          4,938       189       166       336       509       6,138  
Equities markets
          274             1,067       (55 )     55       1,341  
Credit portfolio
          36       262       33       210       436       977  
 
Total
  $ 2,935     $ 5,248     $ 451     $ 1,266     $ 491     $ 1,000     $ 11,391  
 
 
                                                       
2004(a)
                                                       
Investment banking fees
  $ 2,492     $     $     $     $     $     $ 2,492  
Fixed income markets
          3,835       123       222       215       389       4,784  
Equities markets
          469             809       (80 )     50       1,248  
Credit portfolio
          50       240       23       15       552       880  
 
Total
  $ 2,492     $ 4,354     $ 363     $ 1,054     $ 150     $ 991     $ 9,404  
 
(a)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
 
RETAIL FINANCIAL SERVICES
 
For a discussion of the business profile of RFS and each of its businesses, see pages 33–38 of JPMorgan Chase’s 2004 Annual Report.
                                                 
Selected income statement data   Three months ended September 30,     Nine months ended September 30,  
(in millions, except ratios)   2005     2004     Change     2005     2004(b)     Change  
 
Revenue
                                               
Lending & deposit related fees
  $ 380     $ 395       (4 )%   $ 1,078     $ 640       68 %
Asset management, administration and commissions
    370       375       (1 )     1,133       652       74  
Securities/private equity gains
          6       NM       10       6       67  
Mortgage fees and related income
    212       211             921       749       23  
Credit card income
    109       89       22       308       133       132  
Other income
    7       18       (61 )     63       4       NM  
                     
Noninterest revenue
    1,078       1,094       (1 )     3,513       2,184       61  
Net interest income
    2,512       2,706       (7 )     7,723       5,062       53  
                     
Total net revenue
    3,590       3,800       (6 )     11,236       7,246       55  
Provision for credit losses(a)
    378       239       58       566       371       53  
Noninterest expense
                                               
Compensation expense
    842       855       (2 )     2,484       1,814       37  
Noncompensation expense
    1,189       1,250       (5 )     3,585       2,661       35  
Amortization of intangibles
    125       133       (6 )     375       135       178  
                     
Total noninterest expense
    2,156       2,238       (4 )     6,444       4,610       40  
                     
Operating earnings before income tax expense
    1,056       1,323       (20 )     4,226       2,265       87  
Income tax expense
    400       501       (20 )     1,602       841       90  
                     
Operating earnings
  $ 656     $ 822       (20 )   $ 2,624     $ 1,424       84  
                     
 
                                               
Financial ratios
                                               
ROE
    19 %     25 %             26 %     24 %        
ROA
    1.14       1.44               1.55       1.11          
Overhead ratio
    60       59               57       64          
 
(a)  
Third quarter 2005 includes a $250 million special provision related to Hurricane Katrina allocated as follows: $140 million in Consumer Real Estate Lending, $90 million in Consumer & Small Business Banking and $20 million in Auto & Education Finance.
(b)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.

20


 

Quarterly results
Operating earnings of $656 million were down $166 million, or 20%, from the prior year. Results reflected a special provision for credit losses of $250 million attributable to Hurricane Katrina. Excluding the impact of the special provision, operating earnings would have been $811 million, down $11 million, or 1%. Performance reflected lower MSR risk management results, a net loss associated with the transfer of auto loans to held-for-sale, and narrower spreads on consumer real estate loans. Earnings benefited from favorable credit trends and lower expenses due to merger-related expense savings and other efficiencies. Production results were strong across most product offerings and included year-over-year increases of 8% in checking accounts, 15% in mortgage originations and 8% in average home equity balances.
Net revenue was down 6%, or $210 million, from the prior year, to $3.6 billion. Net interest income of $2.5 billion declined by $194 million, primarily due to both narrower spreads on consumer real estate loans and the absence of loan portfolios sold in late 2004 and early 2005. These decreases were partially offset by higher mortgage and home equity balances. Noninterest revenue of $1.1 billion was down $16 million, or 1%, driven by a reduction of $191 million in MSR risk management revenue and a $48 million write-down on auto loans transferred to held-for-sale. Higher prime mortgage production revenue provided a favorable offset.
The provision for credit losses was $378 million, up $139 million, or 58%, from the prior year. Excluding the special provision for Hurricane Katrina, the provision for credit losses would have been $128 million, down $111 million, or 46%. Results reflected continued good credit quality trends across all business segments and the benefit of certain portfolios in run-off.
Noninterest expense was $2.2 billion, down $82 million, or 4%, from the prior year. The reduction reflected increased operating efficiencies in nearly all businesses, partially offset by ongoing investments in retail banking distribution and sales and increased depreciation expense on owned automobiles subject to operating leases.
Year-to-date results
Operating earnings were $2.6 billion, up $1.2 billion from the prior year. The increase was largely due to the Merger but also reflected increased deposit balances and spreads, improved credit quality, higher mortgage and home equity balances, and expense savings in all businesses. These benefits were partially offset by net losses associated with transfers of auto loans to held-for-sale and by narrower spreads on consumer real-estate loans.
Net revenue increased to $11.2 billion, up $4.0 billion, or 55%, primarily due to the Merger. Net interest income of $7.7 billion increased $2.7 billion as a result of the Merger, increased deposit balances and spreads, and growth in retained consumer real estate loans. These benefits were partially offset by lower prime mortgage warehouse balances, the absence of loan portfolios sold in late 2004 and early 2005, and narrower spreads on consumer real-estate loans. Noninterest revenue of $3.5 billion increased $1.3 billion due to the Merger, higher mortgage production revenue and banking card fees. These increases were offset in part by losses on auto loans transferred to held-for-sale.
The provision for credit losses totaled $566 million, up $195 million, or 53%, from last year. Excluding the special provision for Hurricane Katrina, the provision for credit losses would have been $316 million, down $55 million, or 15%. The decline reflected reductions in the allowance for loan losses due to improved credit trends in most consumer lending portfolios, and loan portfolio sales. These reductions were partially offset by the Merger and higher provision expense related to the decision to retain subprime mortgage loans.
Noninterest expense rose to $6.4 billion, an increase of $1.8 billion from the prior year. The increase primarily reflected the Merger, but also included continued investment in retail banking distribution and sales, increased depreciation expense on owned automobiles subject to operating leases and a $40 million charge related to the dissolution of a student loan joint venture. These increases were more than offset by expense savings across all businesses.
                                                 
Selected metrics   Three months ended September 30,     Nine months ended September 30,  
(in millions, except headcount and ratios)   2005     2004     Change     2005     2004(e)     Change  
 
Selected balance sheets (ending)
                                               
Total assets
  $ 230,698     $ 227,952       1 %   $ 230,698     $ 227,952       1 %
Loans(a)
    200,434       201,116             200,434       201,116        
Core deposits(b)
    160,592       154,589       4       160,592       154,589       4  
Total deposits
    187,621       180,307       4       187,621       180,307       4  
 
                                               
Selected balance sheets (average)
                                               
Total assets
  $ 227,875     $ 227,716           $ 226,200     $ 171,585       32  
Loans(c)
    199,057       198,244             198,421       149,454       33  
Core deposits(b)
    160,914       158,800       1       160,552       107,912       49  
Total deposits
    187,216       183,501       2       186,035       122,059       52  
Equity
    13,475       13,050       3       13,276       7,764       71  
Headcount
    60,375       60,691       (1 )     60,375       60,691       (1 )

21


 

                                                 
Credit data and quality statistics
                                               
Net charge-offs
  $ 144     $ 219       (34 )   $ 410     $ 384       7  
Nonperforming loans(d)
    1,203       1,308       (8 )     1,203       1,308       (8 )
Nonperforming assets
    1,387       1,557       (11 )     1,387       1,557       (11 )
Allowance for loan losses
    1,375       1,764       (22 )     1,375       1,764       (22 )
Net charge-off rate(c)
    0.31 %     0.47 %             0.30 %     0.38 %        
Allowance for loan losses to ending loans(a)
    0.75       0.94               0.75       0.94          
Allowance for loan losses to nonperforming loans(d)
    115       143               115       143          
Nonperforming loans to total loans
    0.60       0.65               0.60       0.65          
 
(a)  
Includes loans held-for-sale of $17,695 million and $12,816 million at September 30, 2005 and 2004, respectively. These amounts are not included in the allowance coverage ratios.
(b)  
Includes demand and savings deposits.
(c)  
Average loans include loans held-for-sale of $15,707 million and $14,479 million for the quarters ended September 30, 2005 and 2004, respectively. The year-to-date average loans held-for-sale were $15,395 million and $15,140 million for 2005 and 2004, respectively. These amounts are not included in the net charge-off rate.
(d)  
Nonperforming loans include loans held-for-sale of $10 million and $74 million at September 30, 2005 and 2004, respectively. These amounts are not included in the allowance coverage ratios.
(e)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
HOME FINANCE
                                                 
Selected income statement data   Three months ended September 30,     Nine months ended September 30,  
(in millions)   2005     2004     Change     2005     2004(a)     Change  
 
Prime production and servicing
                                               
Production
  $ 214     $ 168       27 %   $ 577     $ 532       8 %
Servicing:
                                               
Mortgage servicing revenue, net of amortization
    161       134       20       449       482       (7 )
MSR risk management results
    (38 )     153       NM       234       300       (22 )
                     
Total net revenue
    337       455       (26 )     1,260       1,314       (4 )
Noninterest expense
    231       296       (22 )     689       849       (19 )
Operating earnings
    67       103       (35 )     361       296       22  
Consumer real estate lending
                                               
Total net revenue
  $ 684     $ 704       (3 )   $ 2,104     $ 1,651       27  
Provision for credit losses
    177       65       172       245       94       161  
Noninterest expense
    244       264       (8 )     716       639       12  
Operating earnings
    168       237       (29 )     729       586       24  
Total Home Finance
                                               
Total net revenue
  $ 1,021     $ 1,159       (12 )   $ 3,364     $ 2,965       13  
Provision for credit losses
    177       65       172       245       94       161  
Noninterest expense
    475       560       (15 )     1,405       1,488       (6 )
Operating earnings
    235       340       (31 )     1,090       882       24  
 
(a)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
Quarterly results
Home Finance operating earnings were $235 million, down $105 million from the prior year. Excluding the special provision for credit losses associated with Hurricane Katrina, operating earnings would have been $322 million, down $18 million from the prior year.
Operating earnings for the Prime production & servicing segment totaled $67 million, down $36 million. The decline in performance was the result of MSR risk management losses of $38 million, a decrease of $191 million. Earnings benefited from higher production-related revenue attributable to increased margins and volume and lower expenses. Improvement during the quarter reflected a better mix of loan production from more profitable origination channels and reduced cost to originate. Mortgage servicing revenue was $161 million, up $27 million, benefiting from a 5% increase in third-party loans serviced.
Operating earnings for the Consumer Real Estate Lending segment totaled $168 million, down $69 million. Excluding the special provision for credit losses related to Hurricane Katrina, operating earnings would have totaled $255 million, up $18 million. Improvement reflected increased loan balances and the absence of prior-year write-downs attributable to subprime mortgage loans held-for-sale. These benefits were offset by narrower spreads on the home equity loan portfolio, largely due to accelerated loan payoffs.

22


 

Year-to-date results
Operating earnings were $1.1 billion, up $208 million from the prior year, primarily due to the Merger and lower expenses.
Operating earnings for the Prime Production & Servicing segment totaled $361 million, up $65 million from the prior year. Net revenue of $1.3 billion declined by $54 million, reflecting lower MSR risk management results. Higher mortgage production revenue attributable to increased margins provided a favorable offset. Noninterest expense of $689 million decreased by $160 million, reflecting production-related expense savings.
Operating earnings for the Consumer Real Estate Lending segment increased by $143 million to $729 million. Net revenues of $2.1 billion were up $453 million primarily due to the Merger, as well as growth in home equity and subprime mortgage loan balances. These benefits were partially offset by the absence of the $4 billion manufactured home loan portfolio sold in late 2004 and narrower spreads in the prime mortgage portfolio. The provision for credit losses was $245 million, up $151 million from the prior year, largely due to the special provision for Hurricane Katrina and the effect of the Merger. Noninterest expense rose $77 million to $716 million, primarily due to the Merger, partially offset by expense savings.
                                                 
Selected metrics(a)   Three months ended September 30,     Nine months ended September 30,  
(in millions, except ratios and where                                    
otherwise noted)   2005     2004     Change     2005     2004(f)     Change  
 
Origination volume by channel (in billions)
                                               
Retail
  $ 23.7     $ 19.7       20 %   $ 64.8     $ 55.7       16 %
Wholesale
    14.6       11.6       26       38.5       36.8       5  
Correspondent
    5.1       5.4       (6 )     11.0       18.6       (41 )
Correspondent negotiated transactions
    10.2       11.3       (10 )     24.5       31.5       (22 )
                     
Total
  $ 53.6     $ 48.0       12     $ 138.8     $ 142.6       (3 )
                     
Origination volume by business (in billions)
                                               
Mortgage
  $ 39.3     $ 34.1       15     $ 96.8     $ 112.2       (14 )
Home equity
    14.3       13.9       3       42.0       30.4       38  
                     
Total
  $ 53.6     $ 48.0       12     $ 138.8     $ 142.6       (3 )
                     
Business metrics (in billions)
                                               
Third party mortgage loans serviced (ending)(b)
  $ 450.3     $ 427.3       5     $ 450.3     $ 427.3       5  
MSR net carrying value (ending)
    6.1       5.2       17       6.1       5.2       17  
End of period loans owned
                                               
Mortgage loans held-for-sale
  $ 13.4     $ 9.5       41     $ 13.4     $ 9.5       41  
Mortgage loans retained
    46.7       46.5             46.7       46.5        
Home equity and other loans
    74.3       67.3       10       74.3       67.3       10  
                     
Total end of period loans owned
  $ 134.4     $ 123.3       9     $ 134.4     $ 123.3       9  
Average loans owned
                                               
Mortgage loans held-for-sale
  $ 13.5     $ 10.9       24     $ 11.8     $ 12.8       (8 )
Mortgage loans retained
    47.6       44.0       8       46.3       39.4       18  
Home equity and other loans
    71.8       66.2       8       69.2       39.2       77  
                     
Total average loans owned
  $ 132.9     $ 121.1       10     $ 127.3     $ 91.4       39  
                     
Overhead ratio
    47 %     48 %             42 %     50 %        
Credit quality statistics
                                               
30+ day delinquency rate(c)
    1.31 %     1.50 %             1.31 %     1.50 %        
Net charge-offs
                                               
Mortgage
  $ 6     $ 6           $ 20     $ 14       43  
Home equity and other loans
    32       57       (44 )     97       105       (8 )
                     
Total net charge-offs
    38       63       (40 )     117       119       (2 )
Net charge-off rate
                                               
Mortgage
    0.05 %     0.05 %             0.06 %     0.05 %        
Home equity and other loans
    0.18       0.34               0.19       0.36          
Total net charge-off rate(d)
    0.13       0.23               0.14       0.20          
Nonperforming assets(e)
  $ 846     $ 997       (15 )   $ 846     $ 997       (15 )
 
(a)  
For a discussion of selected line of business metrics, see page 93 of this Form 10–Q.
(b)  
Includes prime first mortgage loans and subprime loans.
(c)  
Excludes delinquencies related to loans eligible for repurchase as well as loans repurchased from GNMA pools that are insured by government agencies of $0.8 billion and $0.9 billion, for September 30, 2005 and 2004, respectively. These amounts are excluded as reimbursement is proceeding normally.
(d)  
Excludes mortgage loans held for sale.

23


 

(e)  
Excludes nonperforming assets related to loans eligible for repurchase as well as loans repurchased from GNMA pools that are insured by government agencies of $1.0 billion and $1.3 billion for September 30, 2005 and 2004, respectively. These amounts are excluded as reimbursement is proceeding normally.
(f)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
The table below reconciles management’s disclosure of Home Finance’s revenue to the reported U.S. GAAP line items shown on the Consolidated statements of income and in the related Notes to consolidated financial statements:
                                                 
    Prime production     Consumer real        
Three months ended September 30,   and servicing     estate lending     Total revenue  
(in millions)   2005     2004     2005     2004     2005     2004  
 
Net interest income
  $ 115     $ 183     $ 663     $ 732     $ 778     $ 915  
Securities/private equity gains
          5                         5  
Mortgage fees and related income(a)
    222       267       21       (28 )     243       239  
 
Total
  $ 337     $ 455     $ 684     $ 704     $ 1,021     $ 1,159  
 
                                                 
    Prime production     Consumer real        
Nine months ended September 30,(b)   and servicing     estate lending     Total revenue  
(in millions)   2005     2004     2005     2004     2005     2004  
 
Net interest income
  $ 341     $ 568     $ 2,014     $ 1,538     $ 2,355     $ 2,106  
Securities/private equity gains
    3       1                   3       1  
Mortgage fees and related income(a)
    916       745       90       113       1,006       858  
 
Total
  $ 1,260     $ 1,314     $ 2,104     $ 1,651     $ 3,364     $ 2,965  
 
(a)  
Includes activity reported elsewhere as Other income.
(b)  
Year-to-date 2004 results include three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
The following table details the MSR risk management results in the Home Finance business:
                                 
MSR Risk Management Results   Three months ended September 30,     Nine months ended September 30,  
(in millions)   2005     2004     2005     2004(c)  
 
Reported amounts:
                               
MSR valuation adjustments(a)
  $ 775     $ (722 )   $ 623     $ (126 )
Derivative valuation adjustments and other risk management gains (losses)(b)
    (813 )     875       (389 )     426  
 
MSR risk management results
  $ (38 )   $ 153     $ 234     $ 300  
 
(a)  
Excludes subprime loan MSR activity of $(9) million and $(4) million for the three months ended September 30, 2005 and 2004, respectively, and $(10) million for the nine months ended September 30, 2005. Subprime MSR loan activity for the nine months ended September 30, 2004, was less than $1 million.
(b)  
Includes gains, losses, and interest income associated with derivatives, both designated and not designated, as a SFAS 133 hedge, and securities classified as both trading and available-for-sale.
(c)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
Home Finance uses a combination of derivatives, AFS securities and trading securities to manage changes in the fair value of the MSR asset. These risk management activities are intended to protect the economic value of the MSR asset by providing offsetting changes in the fair value of related risk management instruments. The type and amount of hedging instruments used in this risk management activity change over time as market conditions and approach dictate.
During the third quarter of 2005, positive MSR valuation adjustments of $775 million were more than offset by $813 million of aggregate risk management losses, including net interest earned on AFS securities. In the third quarter of 2004, negative MSR valuation adjustments of $722 million were more than offset by $875 million of aggregate risk management gains, including net interest earned on AFS securities. There were no unrealized gains/(losses) on AFS securities at September 30, 2005. Unrealized gains/(losses) on AFS securities were $(121) million at September 30, 2004. For a further discussion of MSRs, see Critical accounting estimates on page 63 and Note 14 on pages 81–82 of this Form 10–Q.

24


 

CONSUMER & SMALL BUSINESS BANKING
                                                 
Selected income statement data   Three months ended September 30,     Nine months ended September 30,  
(in millions)   2005     2004     Change     2005     2004(a)     Change  
 
Noninterest revenue
  $ 733     $ 734       %   $ 2,203     $ 1,154       91 %
Net interest income
    1,336       1,342             4,128       2,126       94  
                     
Total net revenue
    2,069       2,076             6,331       3,280       93  
Provision for credit losses
    119       79       51       180       126       43  
Noninterest expense
    1,369       1,379       (1 )     4,070       2,619       55  
Operating earnings
    356       377       (6 )     1,270       330       285  
 
(a)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
Quarterly results
Consumer & Small Business operating earnings were $356 million, down $21 million from the prior year. Excluding the special provision for credit losses related to Hurricane Katrina, operating earnings would have been $412 million, up $35 million. Net revenue was essentially unchanged from the prior year. Higher deposit balances and increased debit and credit card fees were offset by declines in deposit spreads and service charges and by lower investment sales revenue related to a shift in the product sales mix. Earnings benefited from a lower provision and a decline in expenses as a result of merger efficiencies, despite continued investment in retail banking distribution and sales.
Year-to-date results
Operating earnings totaled $1.3 billion, up $940 million from the prior year. While growth largely reflected the Merger, results also included wider spreads on deposits and higher deposit balances. These factors contributed to net revenue increasing to $6.3 billion from $3.3 billion in the prior year. The provision for credit losses of $180 million increased by $54 million; excluding the special provision related to Hurricane Katrina, it would have decreased by $36 million from the prior year reflecting lower net charge-offs and improved credit quality trends. Noninterest expense increased $1.5 billion to $4.1 billion, which reflected the Merger and continued investment in branch distribution and sales, partially offset by merger efficiencies.
                                                 
Selected metrics(a)   Three months ended September 30,     Nine months ended September 30,  
(in millions, except ratios and where                                    
  otherwise noted)   2005     2004     Change     2005     2004(d)     Change  
 
Business metrics (in billions)
                                               
End-of-period balances
                                               
Small business loans
  $ 12.6     $ 12.4       2 %   $ 12.6     $ 12.4       2 %
Consumer and other loans(b)
    1.7       2.3       (26 )     1.7       2.3       (26 )
                     
Total loans
    14.3       14.7       (3 )     14.3       14.7       (3 )
Core deposits(c)
    149.0       144.5       3       149.0       144.5       3  
Total deposits
    176.0       170.2       3       176.0       170.2       3  
 
                                               
Average balances
                                               
Small business loans
    12.5       12.4       1       12.4       5.6       121  
Consumer and other loans(b)
    1.8       2.3       (22 )     2.1       2.1        
                     
Total loans
    14.3       14.7       (3 )     14.5       7.7       88  
Core deposits(c)
    148.0       147.8             148.9       96.8       54  
Total deposits
    174.2       172.5       1       174.3       110.9       57  
 
                                               
Number of:
                                               
Branches
    2,549       2,467       82 #     2,549       2,467       82 #
ATMs
    7,136       6,587       549       7,136       6,587       549  
Personal bankers
    6,719       5,744       975       6,719       5,744       975  
Personal checking accounts (in thousands)
    7,866       7,222       644       7,866       7,222       644  
Business checking accounts (in thousands)
    930       891       39       930       891       39  
Active online customers (in thousands)
    4,099       3,152       947       4,099       3,152       947  
Debit cards issued (in thousands)
    9,102       8,282       820       9,102       8,282       820  
 
                                               
Overhead ratio
    66 %     66 %             64 %     80 %        
 
                                               
Retail brokerage business metrics
                                               
Investment sales volume
  $ 2,745     $ 2,563       7 %   $ 8,522     $ 4,554       87 %
Number of dedicated investment sales representatives
    1,478       1,393       6       1,478       1,393       6  

25


 

                                                 
Credit quality statistics
                                               
Net charge-offs
Small business
  $ 25     $ 24       4     $ 69     $ 45       53  
Consumer and other loans
    11       36       (69 )     24       53       (55 )
                     
Total net charge-offs
    36       60       (40 )     93       98       (5 )
Net charge-off rate
Small business
    0.79 %     0.77 %             0.74 %     1.07 %        
Consumer and other loans
    2.42       6.23               1.53       3.37          
Total net charge-off rate
    1.00       1.62               0.86       1.70          
Nonperforming assets
  $ 293     $ 313       (6 )   $ 293     $ 313       (6 )
 
(a)  
For a discussion of selected line of business metrics, see page 93 of this Form 10-Q.
(b)  
Primarily community development loans.
(c)  
Includes demand and savings deposits.
(d)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
AUTO & EDUCATION FINANCE
                                                 
Selected income statement data   Three months ended September 30,     Nine months ended September 30,  
(in millions)   2005     2004     Change     2005     2004(a)     Change  
 
Total net revenue
  $ 342     $ 397       (14 )%   $ 1,061     $ 781       36 %
Provision for credit losses
    82       95       (14 )     141       151       (7 )
Noninterest expense
    184       163       13       559       324       73  
Operating earnings
    47       85       (45 )     220       186       18  
 
(a)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
Quarterly results
Auto & Education Finance operating earnings were $47 million, down $38 million from the prior year. Excluding the special provision for credit losses related to Hurricane Katrina, operating earnings would have been $59 million, down $26 million. This decline in performance reflected a net loss of $43 million associated with the transfer of $1.5 billion of auto loans to held-for-sale, as well as lower loan and lease-related assets. Favorable credit trends and lower credit costs continued to provide an offset to reduced operating revenue. Excluding the impact of increased depreciation expense on owned automobiles subject to operating leases, expenses would have declined as the cost structure was aligned with reduced production volumes.
Year-to-date results
Operating earnings were $220 million, up $34 million from the prior year. The current period included a net loss of $83 million associated with a $2.3 billion auto loan securitization; a net loss of $43 million associated with the transfer of $1.5 billion of auto loans to held-for-sale; a $40 million charge related to the dissolution of a student loan joint venture; a benefit of $34 million arising from the sale of a $2 billion recreational vehicle loan portfolio; and the $20 million special provision for credit losses related to Hurricane Katrina. The prior-year results included a $40 million charge related to auto lease residuals. Excluding the after-tax impact of these items, operating earnings would have increased by $102 million over the prior year, primarily due to the Merger and improved credit quality. Results continued to reflect lower production volumes and narrower spreads.
                                                 
Selected metrics   Three months ended September 30,     Nine months ended September 30,  
(in millions, except ratios and where otherwise noted)
  2005     2004     Change     2005     2004(d)     Change  
 
Business metrics (in billions)
                                               
End of period loans and lease related assets
                                               
Loans outstanding
  $ 46.2     $ 53.7       (14 )%   $ 46.2     $ 53.7       (14 )%
Lease related assets(a)
    5.8       8.9       (35 )     5.8       8.9       (35 )
                     
Total end-of-period loans and lease related assets
    52.0       62.6       (17 )     52.0       62.6       (17 )
 
                                               
Average loans and lease related assets
                                               
Loans outstanding(b)
  $ 45.9     $ 52.9       (13 )   $ 49.6     $ 41.1       21  
Lease related assets(c)
    6.2       9.2       (33 )     6.9       9.1       (24 )
                     
Total average loans and lease related assets(b)(c)
    52.1       62.1       (16 )     56.5       50.2       13  
 
                                               
Overhead ratio
    54 %     41 %             53 %     41 %        

26


 

                                                 
Credit quality statistics
                                               
30+ day delinquency rate
    1.59 %     1.38 %             1.59 %     1.38 %        
Net charge-offs
                                               
Loans
  $ 66     $ 83       (20 )   $ 185     $ 134       38  
Lease receivables(c)
    4       13       (69 )     15       33       (55 )
                     
Total net charge-offs
    70       96       (27 )     200       167       20  
Net charge off rate
                                               
Loans(b)
    0.60 %     0.65 %             0.54 %     0.46 %        
Lease receivables
    0.28       0.56               0.30       0.48          
Total net charge-off rate(b)
    0.56       0.64               0.51       0.46          
Nonperforming assets
  $ 248     $ 247           $ 248     $ 247        
 
(a)  
Includes operating lease related assets of $0.7 billion for the quarter ended September 30, 2005. Balances prior to March 31, 2005, were insignificant.
(b)  
Average loans include loans held-for-sale of $2.2 billion for each of the quarters ended September 30, 2005 and 2004. The year-to-date average loans held-for-sale were $3.6 billion and $1.9 billion for 2005 and 2004, respectively. These are not included in the net charge-off rate.
(c)  
Includes operating lease related assets of $0.6 billion for the quarter ended September 30, 2005. The year-to-date average operating lease related assets were $0.3 billion for 2005. Balances prior to March 31, 2005, were insignificant. These are not included in the net charge-off rate.
(d)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
INSURANCE
                                                 
Selected income statement data   Three months ended September 30,     Nine months ended September 30,  
(in millions)   2005     2004     Change     2005     2004(b)     Change  
 
Total net revenue
  $ 158     $ 168       (6 )%   $ 480     $ 220       118 %
Noninterest expense
    128       136       (6 )     410       179       129  
Operating earnings
    18       20       (10 )     44       26       69  
 
                                               
Memo: Consolidated gross insurance-related revenue(a)
    409       429       (5 )     1,229       770       60  
 
(a)  
Includes revenue reported in the results of other businesses.
(b)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
Quarterly results
Insurance operating earnings were $18 million, down $2 million from the prior year, on net revenue of $158 million. The decline was primarily due to increased proprietary annuity sales commissions, partially offset by increased net interest spread earned on proprietary annuity activity.
Year-to-date results
Operating earnings totaled $44 million, an increase of $18 million from the prior year, on net revenues of $480 million. The increase was primarily due to the Merger. Results also reflected an increase in proprietary annuity sales commissions paid.
                                                 
Selected metrics(a)   Three months ended September 30,     Nine months ended September 30,  
(in millions, except where otherwise noted)   2005     2004     Change     2005     2004(b)     Change  
 
Business metrics — ending balances
                                               
Invested assets
  $ 7,754     $ 7,489       4 %   $ 7,754     $ 7,489       4 %
Policy loans
    391       398       (2 )     391       398       (2 )
Insurance policy and claims reserves
    7,672       7,477       3       7,672       7,477       3  
Term life sales — first year annualized premiums
    15       15             45       15       200  
Term life premium revenues
    119       115       3       351       115       205  
Proprietary annuity sales
    151       39       287       552       173       219  
Number of policies in force — direct/assumed (in thousands)
    2,195       2,633       (17 )     2,195       2,633       (17 )
Insurance in force — direct/assumed
    283,766       274,390       3       283,766       274,390       3  
Insurance in force — retained
    87,764       76,727       14       87,764       76,727       14  
A.M. Best rating
    A       A               A       A          
 
(a)  
For a discussion of selected line of business metrics, see page 93 of this Form 10-Q.
(b)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.

27


 

 
CARD SERVICES
 
For a discussion of the business profile of CS, see pages 39–40 of JPMorgan Chase’s 2004 Annual Report.
JPMorgan Chase uses the concept of “managed receivables” to evaluate the credit performance of its underlying credit card loans, both sold and not sold. For further information, see Explanation and reconciliation of the Firm’s use of non-GAAP financial measures on page 11 of this Form 10–Q. Operating results exclude the impact of credit card securitizations on total net revenue, the provision for credit losses, net charge-offs and loan receivables. Securitization does not change reported net income versus operating earnings; however, it does affect the classification of items on the Consolidated statements of income.
                                                 
Selected income statement data – managed basis   Three months ended September 30,     Nine months ended September 30,  
(in millions, except ratios)   2005     2004     Change     2005     2004(b)     Change  
 
Revenue
                                               
Asset management, administration and commissions
  $     $ 26       NM     $     $ 75       NM  
Credit card income
    950       784       21 %     2,579       1,293       99 %
Other income
    60       44       36       113       86       31  
                     
Noninterest revenue
    1,010       854       18       2,692       1,454       85  
Net interest income
    2,970       2,917       2       8,953       5,461       64  
                     
Total net revenue
    3,980       3,771       6       11,645       6,915       68  
 
                                               
Provision for credit losses(a)
    1,833       1,662       10       5,110       3,116       64  
 
                                               
Noninterest expense
                                               
Compensation expense
    284       317       (10 )     860       623       38  
Noncompensation expense
    813       926       (12 )     2,556       1,660       54  
Amortization of intangibles
    189       194       (3 )     566       318       78  
                     
Total noninterest expense
    1,286       1,437       (11 )     3,982       2,601       53  
                     
Operating earnings before income tax expense
    861       672       28       2,553       1,198       113  
Income tax expense
    320       251       27       948       439       116  
                     
Operating earnings
  $ 541     $ 421       29     $ 1,605     $ 759       111  
                     
 
                                               
Financial metrics
                                               
ROE
    18 %     14 %             18 %     16 %        
Overhead ratio
    32       38               34       38          
 
(a)  
Third quarter 2005 includes a $100 million special provision related to Hurricane Katrina.
(b)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
Quarterly results
Operating earnings of $541 million were up $120 million, or 29%, from the prior year. Results reflected a special provision for credit losses of $100 million attributable to Hurricane Katrina. Excluding the impact of the special provision, operating earnings would have been $603 million, up $182 million, or 43%. Results benefited from higher revenue and lower expenses. Lower expenses were driven by merger savings, including lower compensation and processing costs. Partially offsetting these benefits was a higher provision for credit losses related to increased bankruptcies.
Net revenue was $4.0 billion, up $209 million, or 6%, from the prior year. Net interest income was $3.0 billion, up $53 million, or 2%, due to higher loan balances, partially offset by an increase in loan balances in their introductory rate period. Noninterest revenue of $1.0 billion was up $156 million, or 18%. This increase was driven by higher charge volume resulting in increased interchange income, partially offset by higher volume-driven payments to partners and by rewards expense.
The provision for credit losses was $1.8 billion, up $171 million, or 10%. This increase was driven by three factors. First, there were higher bankruptcy-related net charge-offs, which were partially offset by lower contractual net charge-offs. Second, the provision was increased by $100 million, related to significantly higher bankruptcy filings prior to the enactment of new legislation on October 17, 2005. The final factor was the special provision for credit losses of $100 million, related to Hurricane Katrina. Despite a record level of bankruptcy losses, the net charge-off rate improved, and the delinquency rate continued to be low. The managed net charge-off rate for the quarter declined to 4.70%, down from 4.88% in the prior year and 4.87% in the prior quarter. The 30-day managed delinquency rate was 3.39%, down from 3.81% in the prior year but up seasonally from 3.34% in the prior quarter.
Noninterest expense of $1.3 billion decreased by $151 million, or 11%. The decrease was driven primarily by lower processing and compensation costs. Both of these reductions were primarily related to merger savings, reduced vendor cost, the TSYS conversion and headcount reductions.

28


 

Year-to-date results
Operating earnings of $1.6 billion were up $846 million from the prior year due to the Merger, higher revenue and lower expenses.
Net revenue was $11.6 billion, up $4.7 billion, or 68%. Net interest income of $9.0 billion increased by $3.5 billion, primarily due to the Merger, including the acquisition of a private label portfolio. In addition, higher loan balances were partially offset by an increase in loan balances in their introductory rate period, driven by a significant increase in new account originations. Noninterest revenue of $2.7 billion was up $1.2 billion, driven primarily by the Merger and by higher charge volume resulting in increased interchange income, partially offset by higher volume-driven payments to partners and by rewards expense.
The provision for credit losses was $5.1 billion, up $2.0 billion, or 64%, primarily due to the Merger, including the acquisition of a private label portfolio. The provision also increased due to three other factors: higher bankruptcy-related net charge-offs, which were partially offset by lower contractual net charge-offs; significantly higher bankruptcy filings prior to the enactment of new legislation on October 17, 2005; and the special provision for credit losses related to Hurricane Katrina. Despite a record level of bankruptcy losses, the net charge-off rate improved, and the delinquency rate continued to be low. The year-to-date managed net charge-off rate was 4.80%, down from 5.29% in the prior year. The 30-day managed delinquency rate was 3.39%, down from 3.81% in the prior year.
Noninterest expense of $4.0 billion increased by $1.4 billion, or 53%, primarily due to the Merger, including the acquisition of a private label portfolio. Additionally, merger savings, including lower processing and compensation costs, were partially offset by higher marketing expenses and an operating charge to increase litigation reserves.
                                                 
Selected metrics(a)   Three months ended September 30,     Nine months ended September 30,  
(in millions, except headcount, ratios and where otherwise noted)
  2005     2004     Change     2005     2004(d)     Change  
 
Net securitization gains (amortization)
  $ 25     $ (2 )     NM     $ 28     $ (8 )     NM  
 
                                               
% of average managed outstandings:
                                               
Net interest income
    8.55 %     8.90 %             8.83 %     9.37 %        
Provision for credit losses
    5.28       5.07               5.04       5.35          
Noninterest revenue
    2.91       2.61               2.66       2.49          
Risk adjusted margin(b)
    6.18       6.44               6.45       6.52          
Noninterest expense
    3.70       4.39               3.93       4.46          
Pre-tax income
    2.48       2.05               2.52       2.05          
Operating earnings
    1.56       1.28               1.58       1.30          
 
                                               
Business metrics
                                               
Charge volume (in billions)
  $ 76.4     $ 73.3       4 %   $ 222.3     $ 118.3       88 %
Net accounts opened (in thousands)
    3,022       2,755       10       8,555       4,794       78  
Credit cards issued (in thousands)
    98,236       95,946       2       98,236       95,946       2  
Number of registered internet customers (in millions)
    14.6       12.4       18       14.6       12.4       18  
 
                                               
Merchant acquiring business
                                               
Bank card volume (in billions)
  $ 143.4     $ 123.5       16     $ 409.7     $ 260.3       57  
Total transactions (in millions)
    4,872       3,972       23       13,892       7,604       83  
 
                                               
Selected ending balances
                                               
Loans:
                                               
Loans on balance sheets
  $ 68,479     $ 60,241       14     $ 68,479     $ 60,241       14  
Securitized loans
    69,095       71,256       (3 )     69,095       71,256       (3 )
                     
Managed loans
  $ 137,574     $ 131,497       5     $ 137,574     $ 131,497       5  
                     
 
                                               
Selected average balances
                                               
Managed assets
  $ 144,225     $ 136,753       5     $ 141,180     $ 80,211       76  
Loans:
                                               
Loans on balance sheets
  $ 68,877     $ 59,386       16     $ 66,759     $ 31,296       113  
Securitized loans
    68,933       70,980       (3 )     68,791       46,575       48  
                     
Managed loans
  $ 137,810     $ 130,366       6     $ 135,550     $ 77,871       74  
                     
Equity
    11,800       11,800             11,800       6,200       90  
 
                                               
Headcount
    19,463       20,473       (5 )     19,463       20,473       (5 )

29


 

                                                 
Credit quality statistics
                                               
Net charge-offs
  $ 1,633     $ 1,598       2     $ 4,864     $ 3,086       58  
Net charge-off rate
    4.70 %     4.88 %             4.80 %     5.29 %        
12 month lagged loss ratio(c)
    4.97       5.08               5.09       NA          
 
                                               
Delinquency ratios
                                               
30+ days
    3.39 %     3.81 %             3.39 %     3.81 %        
90+ days
    1.55       1.75               1.55       1.75          
 
                                               
Allowance for loan losses
  $ 3,255     $ 2,273       43     $ 3,255     $ 2,273       43  
Allowance for loan losses to period-end loans
    4.75 %     3.77 %             4.75 %     3.77 %        
 
(a)  
For a discussion of selected line of business metrics, see page 94 of this Form 10–Q.
(b)  
Represents Total net revenue less Provision for credit losses.
(c)  
For further information on this business metric, see the Form 8-K/A furnished by JPMorgan Chase to the Securities and Exchange Commission on July 20, 2005.
(d)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
The financial information presented below reconciles reported basis and managed basis to disclose the effect of securitizations.
                                                 
    Three months ended September 30,     Nine months ended September 30,  
(in millions)   2005     2004     Change     2005     2004(c)     Change  
 
Income statement data
                                               
Credit card income
                                               
Reported data for the period
  $ 1,683     $ 1,632       3 %   $ 4,855     $ 2,774       75 %
Securitization adjustments
    (733 )     (848 )     14       (2,276 )     (1,481 )     (54 )
                     
Managed credit card income
  $ 950     $ 784       21     $ 2,579     $ 1,293       99  
                     
 
                                               
Other income
                                               
Reported data for the period
  $ 60     $ 47       28     $ 113     $ 173       (35 )
Securitization adjustments
          (3 )     NM             (87 )     NM  
                     
Managed other income
  $ 60     $ 44       36     $ 113     $ 86       31  
                     
 
                                               
Net interest income
                                               
Reported data for the period
  $ 1,370     $ 1,138       20     $ 3,963     $ 2,006       98  
Securitization adjustments
    1,600       1,779       (10 )     4,990       3,455       44  
                     
Managed net interest income
  $ 2,970     $ 2,917       2     $ 8,953     $ 5,461       64  
                     
 
                                               
Total net revenue(a)
                                               
Reported data for the period
  $ 3,113     $ 2,843       9     $ 8,931     $ 5,028       78  
Securitization adjustments
    867       928       (7 )     2,714       1,887       44  
                     
Managed total net revenue
  $ 3,980     $ 3,771       6     $ 11,645     $ 6,915       68  
                     
 
                                               
Provision for credit losses
                                               
Reported data for the period(b)
  $ 966     $ 734       32     $ 2,396     $ 1,229       95  
Securitization adjustments
    867       928       (7 )     2,714       1,887       44  
                     
Managed provision for credit losses(b)
  $ 1,833     $ 1,662       10     $ 5,110     $ 3,116       64  
                     
 
                                               
Balance sheets — average balances
                                               
Total average assets
                                               
Reported data for the period
  $ 77,204     $ 67,718       14     $ 74,263     $ 34,984       112  
Securitization adjustments
    67,021       69,035       (3 )     66,917       45,227       48  
                     
Managed average assets
  $ 144,225     $ 136,753       5     $ 141,180     $ 80,211       76  
                     
 
                                               
Credit quality statistics
                                               
Net charge-offs
                                               
Reported net charge-offs data for the period
  $ 766     $ 670       14     $ 2,150     $ 1,199       79  
Securitization adjustments
    867       928       (7 )     2,714       1,887       44  
                     
Managed net charge-offs
  $ 1,633     $ 1,598       2     $ 4,864     $ 3,086       58  
 
(a)  
Includes Credit card income, Other income and Net interest income.
(b)  
Third quarter 2005 includes a $100 million special provision related to Hurricane Katrina.
(c)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.

30


 

 
COMMERCIAL BANKING
 
For a discussion of the business profile of CB, see pages 41–42 of JPMorgan Chase’s 2004 Annual Report.
                                                 
Selected income statement data   Three months ended September 30,     Nine months ended September 30,  
(in millions, except ratios)   2005     2004     Change     2005     2004(c)     Change  
 
Revenue
                                               
Lending & deposit related fees
  $ 146     $ 162       (10 )%   $ 431     $ 294       47 %
Asset management, administration and commissions
    16       12       33       46       20       130  
Other income(a)
    93       51       82       255       106       141  
                     
Noninterest revenue
    255       225       13       732       420       74  
Net interest income
    654       608       8       1,927       1,069       80  
                     
Total net revenue
    909       833       9       2,659       1,489       79  
 
                                               
Provision for credit losses(b)
    (46 )     14       NM       90       20       350  
 
                                               
Noninterest expense
                                               
Compensation expense
    165       176       (6 )     488       312       56  
Noncompensation expense
    281       286       (2 )     855       562       52  
Amortization of intangibles
    15       18       (17 )     49       18       172  
                     
Total noninterest expense
    461       480       (4 )     1,392       892       56  
                     
Operating earnings before income tax expense
    494       339       46       1,177       577       104  
Income tax expense
    193       124       56       459       223       106  
                     
Operating earnings
  $ 301     $ 215       40     $ 718     $ 354       103  
                     
 
                                               
Financial ratios
                                               
ROE
    35 %     25 %             28 %     29 %        
ROA
    2.12       1.53               1.72       1.58          
Overhead ratio
    51       58               52       60          
 
(a)  
IB-related and commercial card revenues are included in Other income.
(b)  
Third quarter 2005 includes a $35 million special provision related to Hurricane Katrina.
(c)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
Quarterly results
Operating earnings were $301 million, up $86 million, or 40%, from the prior year. Results reflected a special provision for credit losses of $35 million, attributable to Hurricane Katrina. Excluding the impact of the special provision, earnings would have been $323 million, up $108 million, or 50%. This increase was due to a lower provision for credit losses, growth in revenue and a decline in expenses.
Net revenue was $909 million, up $76 million, or 9%, from the prior year. Net interest income was $654 million, up $46 million, or 8%, due to higher spreads and volume related to liability balances and increased loan balances, partially offset by lower loan spreads. Noninterest revenue was $255 million, up $30 million, or 13%, primarily reflecting growth in investment banking revenue, partially offset by lower service charges on deposits.
Each business within Commercial Banking showed revenue growth over the prior year. Middle Market revenue was $592 million, an increase of $41 million, or 7%, driven by increased liability spreads and higher liability and loan balances. Corporate Banking revenue of $140 million increased by $31 million, or 28%, due to growth in investment banking revenue and wider spreads on higher liability balances. Real Estate revenue was $143 million, up $20 million, or 16%, primarily reflecting increased liability balances and wider spreads.
Provision for credit losses was a net benefit of $46 million, an improvement from both the prior year and prior quarter of $60 million and $188 million, respectively. Excluding the special provision of $35 million related to Hurricane Katrina, the provision for credit losses would have been a net benefit of $81 million, compared with a provision of $14 million in the prior year and $142 million in the prior quarter. The positive variance from the prior periods was the result of improved underlying credit quality, particularly in Middle Market. In addition, continued management of the portfolio led to a decline in nonperforming loans of $210 million, or 36%, from the prior year and $65 million, or 15%, from the prior quarter.
Noninterest expense was $461 million, down $19 million, or 4%, from the prior year, primarily due to lower compensation costs. Partially offsetting this benefit were increased unit costs for Treasury Services products.

31


 

Year-to-date results
Operating earnings of $718 million were up $364 million from the prior year, primarily due to the Merger.
Net revenue of $2.7 billion increased by $1.2 billion, or 79%, primarily as a result of the Merger. In addition to the increase from the Merger, net interest income was $1.9 billion, up $858 million, driven by wider spreads on liability balances and growth in liability and loan balances, partially offset by narrower loan spreads. Noninterest revenue of $732 million was negatively affected by lower services charges on deposits.
Each business within Commercial Banking showed revenue growth over the prior year, primarily due to the Merger. Middle Market revenue was $1.8 billion, an increase of $830 million over the prior year; Corporate Banking revenue was $401 million, an increase of $176 million; and Real Estate revenue was $393 million, up $158 million. In addition to the Merger, revenue was higher for each business due to higher spreads and volume related to liability balances and higher investment banking revenue, partially offset by lower loan spreads.
Provision for credit losses of $90 million increased by $70 million, primarily due to refinements in the data used to estimate the prior quarter’s allowance for credit losses and the special provision related to Hurricane Katrina recorded in the current quarter, partially offset by improved underlying credit quality and continued management of the portfolio. The credit quality of the portfolio remains strong with net charge-offs of $5 million, down $11 million from the prior year, and nonperforming loans of $369 million, down $210 million.
Noninterest expense of $1.4 billion increased by $500 million, or 56%, primarily due to the Merger and to increased unit costs for Treasury Services products.
                                                 
Selected metrics(a)   Three months ended September 30,     Nine months ended September 30,  
(in millions, except headcount and ratio data)   2005     2004     Change     2005     2004(c)     Change  
 
Revenue by product:
                                               
Lending
  $ 265     $ 314       (16 )%   $ 819     $ 484       69 %
Treasury services
    582       499       17       1,682       939       79  
Investment banking
    53       24       121       155       59       163  
Other
    9       (4 )     NM       3       7       (57 )
                     
Total Commercial Banking revenue
  $ 909     $ 833       9     $ 2,659     $ 1,489       79  
                     
 
                                               
Revenue by business:
                                               
Middle market
  $ 592     $ 551       7     $ 1,758     $ 928       89  
Corporate banking
    140       109       28       401       225       78  
Real estate
    143       123       16       393       235       67  
Other
    34       50       (32 )     107       101       6  
                     
Total Commercial Banking revenue
  $ 909     $ 833       9     $ 2,659     $ 1,489       79  
                     
Selected balance sheet data (average)
                                               
Total assets
  $ 56,265     $ 55,957       1     $ 55,774     $ 29,921       86  
Loans and leases
    51,756       50,324       3       50,976       26,356       93  
Liability balances(b)
    72,699       66,944       9       72,274       47,271       53  
Equity
    3,400       3,400             3,400       1,654       106  
 
                                               
Memo:
                                               
Loans by business:
                                               
Middle market
  $ 31,362     $ 29,307       7     $ 30,880     $ 13,265       133  
Corporate banking
    6,421       6,087       5       6,152       3,757       64  
Real estate
    10,433       11,646       (10 )     10,316       6,547       58  
Other
    3,540       3,284       8       3,628       2,787       30  
                     
Total Commercial Banking loans
  $ 51,756     $ 50,324       3     $ 50,976     $ 26,356       93  
 
                                               
Headcount
    4,478       4,595       (3 )     4,478       4,595       (3 )
 
                                               
Credit data and quality statistics
                                               
Net charge-offs (recoveries)
  $ 6     $ (13 )     NM     $ 5     $ 16       (69 )
Nonperforming loans
    369       579       (36 )     369       579       (36 )
Allowance for loan losses
    1,423       1,350       5       1,423       1,350       5  
Allowance for lending-related commitments
    161       164       (2 )     161       164       (2 )
 
                                               
Net charge-off (recovery) rate
    0.05 %     (0.10 )%             0.01 %     0.08 %        
Allowance for loan losses to average loans
    2.75       2.68               2.79       5.12          
Allowance for loan losses to nonperforming loans
    386       233               386       233          
Nonperforming loans to average loans
    0.71       1.15               0.72       2.20          
 
(a)  
For a discussion of selected line of business metrics, see page 94 of this Form 10–Q.
(b)  
Liability balances include deposits and deposits that are swept to on-balance sheet liabilities.
(c)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.

32


 

 
TREASURY & SECURITIES SERVICES
 
For a discussion of the business profile of TSS, see pages 43–44 of JPMorgan Chase’s 2004 Annual Report.
                                                 
Selected income statement data   Three months ended September 30,     Nine months ended September 30,  
(in millions, except ratios)   2005     2004     Change     2005     2004(c)     Change  
 
Revenue
                                               
Lending & deposit related fees
  $ 178     $ 218       (18 )%   $ 545     $ 447       22 %
Asset management, administration and commissions
    733       600       22       2,161       1,815       19  
Other income
    135       103       31       404       270       50  
                     
Noninterest revenue
    1,046       921       14       3,110       2,532       23  
Net interest income
    510       418       22       1,516       912       66  
                     
Total net revenue
    1,556       1,339       16       4,626       3,444       34  
 
                                               
Provision for credit losses
    (1 )           NM       (2 )     4       NM  
Credit reimbursement to IB(a)
    (38 )     (43 )     12       (114 )     (47 )     (143 )
 
                                               
Noninterest expense
                                               
Compensation expense
    533       472       13       1,559       1,158       35  
Noncompensation expense
    546       654       (17 )     1,720       1,748       (2 )
Amortization of intangibles
    28       30       (7 )     87       61       43  
                     
Total noninterest expense
    1,107       1,156       (4 )     3,366       2,967       13  
                     
Operating earnings before income tax expense
    412       140       194       1,148       426       169  
Income tax expense
    149       44       239       411       131       214  
                     
Operating earnings
  $ 263     $ 96       174     $ 737     $ 295       150  
                     
 
                                               
Financial ratios
                                               
ROE
    55 %     20 %             52 %     14 %        
Overhead ratio
    71       86               73       86          
Pre-tax margin ratio(b)
    26       10               25       12          
 
(a)  
TSS is charged a credit reimbursement related to certain exposures managed within the IB credit portfolio on behalf of clients shared with TSS. For a further discussion, see Credit reimbursement on page 29 of the JPMorgan Chase 2004 Annual Report.
(b)  
Pre-tax margin represents operating earnings before income taxes divided by total net revenue, which is a comprehensive measure of pre-tax performance and is another basis by which TSS management evaluates its performance and that of its competitors. Pre-tax margin is an effective measure of TSS’ earnings after all operating costs are taken into consideration.
(c)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
Quarterly results
Operating earnings were $263 million, up $167 million from the prior year. Earnings benefited from higher revenues, due to wider spreads on liability balances, business growth, and increased average liability balances, and lower expenses. Prior-year results included a software-impairment charge of $53 million (after-tax).
Net revenue of $1.6 billion was up $217 million, or 16%, from the prior year. Noninterest revenue was $1.0 billion, up $125 million, or 14%. The improvement was due to an increase in assets under custody to $11.0 trillion, primarily driven by market value appreciation and new business; the acquisition of Vastera; and growth in foreign exchange, securities lending and wholesale card revenues, all driven primarily by broader product usage by existing customers. Partially offsetting this growth in noninterest revenue were lower service charges on deposits. Net interest income was $510 million, up $92 million from the prior year, primarily resulting from wider spreads on liability balances and an increase of 22% in average liability balances, to $167 billion.
Treasury Services net revenue of $648 million grew by $19 million, or 3%, from the prior year. Investor Services net revenue of $536 million grew by $132 million, or 33%, and Institutional Trust Services net revenue of $372 million grew by $66 million, or 22%. TSS firmwide net revenue, which includes Treasury Services net revenue recorded in other lines of business, grew to $2.2 billion, up $299 million, or 16%. Treasury Services firmwide net revenue grew to $1.3 billion, up $101 million, or 8%.

33


 

Credit reimbursement to the Investment Bank was $38 million, a decrease of $5 million from the prior year. TSS is charged a credit reimbursement related to certain exposures managed within the Investment Bank credit portfolio on behalf of clients shared with TSS.
Noninterest expense was $1.1 billion, down $49 million from the prior year. The reduction was primarily due to a significant software-impairment charge of $85 million in the prior year, lower allocations of Corporate segment expenses and increased product unit costs charged to other lines of business, primarily Commercial Banking. Partially offsetting these decreases was higher compensation expense, primarily related to new business growth and the Vastera acquisition.
Year-to-date results
Operating earnings were $737 million, an increase of $442 million, or 150%. Widening spreads on liability balances, business growth, average liability balance growth and the Merger were the primary drivers of revenue growth and more than offset the merger-related expense growth. Current period results included charges of $58 million (after-tax) to terminate a client contract. Results for the first nine months of 2004 included software-impairment charges of $95 million (after-tax) and a gain of $10 million (after-tax) on the sale of a business.
TSS net revenue of $4.6 billion increased $1.2 billion, or 34%. Net interest income grew to $1.5 billion, up $604 million, due to wider spreads on and growth in average liability balances, and the Merger. Noninterest revenue of $3.1 billion increased by $578 million, or 23%. This improvement was due to the Merger; an increase in assets under custody to $11.0 trillion, primarily driven by market value appreciation and new business; growth in securities lending; the acquisition of Vastera; and growth in wholesale cards and foreign exchange. Partially offsetting this growth were lower service charges on deposits and the absence, in the current period, of a gain on the sale of a business.
Treasury Services net revenue of $1.9 billion grew by $596 million, Investor Services net revenue of $1.6 billion grew by $333 million, and Institutional Trust Services net revenue of $1.1 billion grew by $253 million. TSS firmwide net revenue, which includes Treasury Services net revenue recorded in other lines of business, grew to $6.5 billion, up $2.0 billion, or 45%. Treasury Services firmwide net revenue grew to $3.9 billion, up $1.4 billion, or 59%.
Credit reimbursement to the Investment Bank was $114 million, an increase of $67 million, primarily as a result of the Merger. TSS is charged a credit reimbursement related to certain exposures managed within the Investment Bank credit portfolio on behalf of clients shared with TSS.
Noninterest expense of $3.4 billion was up $399 million, or 13%, due to the Merger, increased compensation expense resulting from new business growth and the Vastera acquisition, and charges of $93 million (pre-tax) to terminate a client contract. Partially offsetting these increases were lower allocations of Corporate segment expenses and increased product unit costs charged to other lines of business, primarily Commercial Banking. The prior year included software-impairment charges of $152 million (pre-tax).
                                                 
Selected metrics(a)   Three months ended September 30,     Nine months ended September 30,  
(in millions, except headcount and where otherwise noted)
  2005     2004     Change     2005     2004(k)     Change  
 
Revenue by business
                                               
Treasury Services
  $ 648     $ 629       3 %   $ 1,948     $ 1,352       44 %
Investor Services
    536       404       33       1,588       1,255       27  
Institutional Trust Services
    372       306       22       1,090       837       30  
                     
Total net revenue
  $ 1,556     $ 1,339       16     $ 4,626     $ 3,444       34  
                     
 
                                               
Business metrics
                                               
Assets under custody (in billions)(b)
  $ 10,991     $ 8,427       30     $ 10,991     $ 8,427       30  
Corporate trust securities under administration (in billions)(c)
    6,706       6,569       2       6,706       6,569       2  
 
                                               
Number of:
                                               
US$ ACH transactions originated (in millions)
    753       651       16       2,179       1,301       67  
Total US$ clearing volume (in thousands)
    24,906       21,781       14       70,811       58,572       21  
International electronic funds transfer volume (in thousands)(d)(e)
    22,723       11,794       93       59,896       29,911       100  
Wholesale check volume (in millions)(e)
    952     NA     NM       2,953     NA     NM  
Wholesale cards issued (in thousands)(f)
    12,810       11,260       14       12,810       11,260       14  

34


 

                                                 
Selected balance sheets (average)
                                               
Total assets
  $ 26,798     $ 24,831       8     $ 26,755     $ 21,715       23  
Loans
    10,328       8,457       22       10,126       7,131       42  
Liability balances(g)
    166,836       136,606       22       161,893       118,299       37  
Equity
    1,900       1,900             1,900       2,761       (31 )
 
                                               
Headcount
    24,176       22,246       9       24,176       22,246       9  
 
                                               
TSS Firmwide metrics
                                               
Treasury Services firmwide revenue(h)
  $ 1,306     $ 1,205       8     $ 3,857     $ 2,427       59  
Treasury & Securities Services firmwide revenue(h)
    2,214       1,915       16       6,535       4,519       45  
Treasury Services firmwide overhead ratio(i)
    56 %     59 %             55 %     63 %        
Treasury & Securities Services firmwide overhead ratio(i)
    62       72               63       76          
Treasury Services firmwide liability balances(j)
  $ 140,079     $ 125,813       11     $ 137,325     $ 93,478       47  
Treasury & Securities Services firmwide liability balances(j)
    239,535       203,550       18       234,167       165,571       41  
 
(a)  
For a discussion of selected line of business metrics, see page 94 of this Form 10–Q.
(b)  
Beginning March 31, 2005, assets under custody include an estimated $400 billion of Institutional Trust Services (“ITS”) assets under custody that have not been included previously. At September 30, 2005, an additional estimate of $130 billion of ITS-related AUC were included in the amount. Approximately 6% of total assets under custody were trust related.
(c)  
Corporate trust securities under administration include debt held in trust on behalf of third parties and debt serviced as agent.
(d)  
International electronic funds transfer includes non-US$ ACH and clearing volume.
(e)  
Prior periods have been restated to conform to current period presentation.
(f)  
Wholesale cards issued include domestic commercial card, stored value card, prepaid card, and government electronic benefit card products.
(g)  
Liability balances include deposits and deposits swept to on-balance sheet liabilities.
TSS Firmwide metrics
Treasury & Securities Services firmwide metrics include certain TSS product revenues and liability balances reported in other lines of business for customers who are also customers of those lines of business. In order to capture the firmwide impact of Treasury Services (“TS”) and TSS products and revenues, management reviews firmwide metrics such as liability balances, revenues and overhead ratios in assessing financial performance for TSS. Firmwide metrics are necessary in order to understand the aggregate TSS business.
  (h)  
Firmwide revenue includes TS revenue recorded in the Commercial Banking, Consumer & Small Business Banking and Asset & Wealth Management businesses (see below) and exclude FX revenues recorded in the IB for TSS-related FX activity. TSS firmwide FX revenue, which include FX revenue recorded in TSS and FX revenue associated with TSS customers who are FX customers of the IB, was $96 million for the quarter ended September 30, 2005, and $282 million for the nine months ended September 30, 2005.
  (i)  
Overhead ratios have been calculated based on firmwide revenues and TSS and TS expenses, respectively, including those allocated to certain other lines of business. FX revenues and expenses recorded in the IB for TSS-related FX activity are not included in this ratio.
  (j)  
Firmwide liability balances include TS’ liability balances recorded in certain lines of business. Liability balances associated with TS customers who are also customers of the Commercial Banking line of business are not included in TS liability balances.
                                                 
    Three months ended September 30,     Nine months ended September 30,  
    2005     2004     Change     2005     2004(k)     Change  
 
Treasury Services revenue reported in Commercial Banking
  $ 582     $ 499       17 %   $ 1,682     $ 939       79 %
Treasury Services revenue reported in other lines of business
    76       77       (1 )     227       136       67  
 
(k)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.

35


 

 
ASSET & WEALTH MANAGEMENT
 
For a discussion of the business profile of AWM, see pages 45–46 of JPMorgan Chase’s 2004 Annual Report.
                                                 
Selected income statement data   Three months ended September 30,     Nine months ended September 30,  
(in millions, except ratios)   2005     2004     Change     2005     2004(c)     Change  
 
Revenue
                                               
Lending & deposit related fees
  $ 7     $ 10       (30 )%   $ 22     $ 18       22 %
Asset management, administration and commissions
    1,065       859       24       3,034       2,188       39  
Other income
    110       55       100       274       155       77  
                     
Noninterest revenue
    1,182       924       28       3,330       2,361       41  
Net interest income
    267       269       (1 )     823       508       62  
                     
Total net revenue
    1,449       1,193       21       4,153       2,869       45  
 
                                               
Provision for credit losses(a)
    (19 )     1       NM       (46 )     7       NM  
 
                                               
Noninterest expense
                                               
Compensation expense
    554       452       23       1,601       1,120       43  
Noncompensation expense
    397       409       (3 )     1,151       1,066       8  
Amortization of intangibles
    25       23       9       75       28       168  
                     
Total noninterest expense
    976       884       10       2,827       2,214       28  
                     
Operating earnings before income tax expense
    492       308       60       1,372       648       112  
Income tax expense
    177       111       59       498       230       117  
                     
Operating earnings
  $ 315     $ 197       60     $ 874     $ 418       109  
                     
 
                                               
Financial ratios
                                               
ROE
    52 %     33 %             49 %     13 %        
Overhead ratio
    67       74               68       77          
Pre-tax margin ratio(b)
    34       26               33       23          
 
(a)  
Third quarter 2005 includes a $3 million special provision related to Hurricane Katrina.
(b)  
Pre-tax margin represents Operating earnings before income tax expense divided by Total net revenue, which is a comprehensive measure of pre-tax performance and is another basis by which AWM management evaluates its performance and that of its competitors. Pre-tax margin is an effective measure of AWM’s earnings, after all costs are taken into consideration.
(c)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
Quarterly results
Operating earnings were a record $315 million, up $118 million, or 60%, from the prior year. Performance was driven by increased revenues, partially offset by higher compensation expense.
Net revenue was $1.4 billion, up $256 million, or 21%, from the prior year. Noninterest revenue of $1.2 billion was up $258 million, or 28%. This increase was primarily due to the acquisition of a majority interest in Highbridge Capital Management in the fourth quarter of 2004 and net asset inflows, mainly in equity-related and liquidity products. Also contributing to the increase were global equity market appreciation and increased brokerage activity. Net interest income was $267 million, essentially unchanged from the prior year, as higher deposit and loan balances and wider loan spreads were offset by lower deposit spreads.
Private Bank client segment revenue grew 10% from the prior year, to $421 million, and Retail client segment revenue grew 42%, to $415 million. Institutional client segment revenue grew 34%, to $358 million, primarily due to the consolidation impact of Highbridge. Private Client Services client segment revenue grew 2%, to $255 million.
Assets under supervision were $1.2 trillion, up 15% from the prior year, and Assets under management were a record $828 billion, up 13%. The increases were primarily the result of market appreciation; net asset inflows primarily in equities and liquidity products; and the acquisition of a majority interest in Highbridge Capital Management. Custody, brokerage, administration and deposits were $325 billion, up 21%, primarily due to market appreciation and net inflows.
Provision for credit losses was a $19 million benefit, compared with a $1 million provision in the prior year.
Noninterest expense of $976 million was up $92 million, or 10%, from the prior year. This increase was primarily the result of the acquisition of Highbridge and higher performance-based incentives, partially offset by the benefit of expense efficiencies.

36


 

Year-to-date results
Operating earnings of $874 million were up $456 million from the prior year, due to the Merger and increased revenue, partially offset by higher compensation expense.
Net revenue was $4.2 billion, up $1.3 billion, or 45%. Noninterest revenue, principally fees and commissions, of $3.3 billion was up $969 million, principally due to the Merger, the acquisition of a majority interest in Highbridge Capital Management, LLC in the fourth quarter of 2004, net asset inflows and global equity market appreciation. Net interest income of $823 million was up $315 million primarily due to the Merger, higher deposit and loan balances and wider loan spreads, partially offset by lower deposit spreads.
Private Bank client segment revenue of $1.3 billion increased by $125 million. Retail client revenue of $1.1 billion increased by $298 million. Institutional client segment revenue was up $367 million to $993 million, which includes the consolidation impact of Highbridge. Private Client Services client segment revenue grew by $494 million, to $784 million.
Provision for credit losses was a benefit of $46 million, compared with a charge of $7 million in the prior year, due to lower net charge-offs and refinements in the data used to estimate the allowance for credit losses.
Noninterest expense of $2.8 billion increased by $613 million, or 28%, reflecting the Merger, the acquisition of Highbridge and increased compensation expense primarily related to higher performance-based incentives.
                                                 
Selected metrics(a)   Three months ended September 30,     Nine months ended September 30,  
(in millions, except ratio, headcount and ranking data, and where otherwise noted)
  2005     2004     Change     2005     2004(e)     Change  
 
Revenue by client segment
                                               
Private bank
  $ 421     $ 383       10 %   $ 1,252     $ 1,127       11 %
Retail
    415       292       42       1,124       826       36  
Institutional
    358       267       34       993       626       59  
Private client services
    255       251       2       784       290       170  
                     
Total net revenue
  $ 1,449     $ 1,193       21     $ 4,153     $ 2,869       45  
                     
 
                                               
Business metrics
                                               
Number of:
                                               
Client advisors
    1,417       1,334       6       1,417       1,334       6  
BrownCo average daily trades
    28,357       23,969       18       28,126       29,714       (5 )
Retirement plan services participants
    1,293,000       874,000       48       1,293,000       874,000       48  
 
                                               
Star rankings:(b)
                                               
% of customer assets in funds ranked 4 or better
    44 %     56 %     (21 )     44 %     56 %     (21 )
% of customer assets in funds ranked 3 or better
    77 %     80 %     (4 )     77 %     80 %     (4 )
Funds quartile ranking (1 year):(c)
                                               
% of AUM in 1st and 2nd quartiles
    62 %     63 %     (2 )     62 %     63 %     (2 )
 
                                               
Selected balance sheet data (average)
                                               
Total assets
  $ 42,427     $ 39,882       6     $ 41,391     $ 36,765       13  
Loans
    26,850       25,408       6       26,595       20,061       33  
Deposits(d)
    41,453       38,940       6       41,421       28,743       44  
Equity
    2,400       2,400             2,400       4,406       (46 )
 
                                               
Headcount
    12,531       12,368       1       12,531       12,368       1  
 
                                               
Credit quality statistics
                                               
Net charge-offs
  $ 23     $ 6       283     $ 15     $ 67       (78 )
Nonperforming loans
    118       125       (6 )     118       125       (6 )
Allowance for loan losses
    148       241       (39 )     148       241       (39 )
Allowance for lending-related commitments
    6       5       20       6       5       20  
 
                                               
Net charge-off rate
    0.34 %     0.09 %             0.08 %     0.45 %        
Allowance for loan losses to average loans
    0.55       0.95               0.56       1.20          
Allowance for loan losses to nonperforming loans
    125       193               125       193          
Nonperforming loans to average loans
    0.44       0.49               0.44       0.62          
 
(a)  
For a discussion of selected line of business metrics, see page 94 of this Form 10–Q.
(b)  
Derived from Morningstar for the United States; Micropal for the United Kingdom, Luxembourg, Hong Kong and Taiwan; and Nomura for Japan.

37


 

(c)  
Quartile rankings sourced from Lipper for the United States and Taiwan; Micropal for the United Kingdom, Luxembourg, and Hong Kong; and Nomura for Japan.
(d)  
Reflects the transfer of certain consumer deposits from Retail Financial Services to Asset & Wealth Management.
(e)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
Assets under supervision
Assets under supervision (“AUS”) at September 30, 2005, were $1.2 trillion, up 15% from the prior year, and Assets under management (“AUM”) were $828 billion, up 13%. The increases resulted from global equity market appreciation; net asset inflows, primarily in equities and liquidity products; and the acquisition of a majority interest in Highbridge Capital Management, LLC. The Firm also has a 43% interest in American Century Companies, Inc., whose AUM totaled $100 billion and $89 billion at September 30, 2005 and 2004, respectively. Custody, brokerage, administration, and deposits were $325 billion, up 21%, due to market appreciation and net asset inflows.
                 
ASSETS UNDER SUPERVISION(a)            
September 30, (in billions)   2005     2004  
 
Asset class
               
Liquidity
  $ 239     $ 210  
Fixed income
    166       174  
Equities & balanced
    351       298  
Alternatives
    72       53  
 
Assets under management
    828       735  
Custody/brokerage/administration/deposits
    325       268  
 
Total Assets under supervision
  $ 1,153     $ 1,003  
 
 
               
Client segment
               
Institutional
               
Assets under management
  $ 479     $ 426  
Custody/brokerage/administration/deposits
    4       4  
 
Assets under supervision
    483       430  
Private bank
               
Assets under management
    142       136  
Custody/brokerage/administration/deposits
    167       143  
 
Assets under supervision
    309       279  
Retail
               
Assets under management
    155       122  
Custody/brokerage/administration/deposits
    106       81  
 
Assets under supervision
    261       203  
Private client services
               
Assets under management
    52       51  
Custody/brokerage/administration/deposits
    48       40  
 
Assets under supervision
    100       91  
 
Total Assets under supervision
  $ 1,153     $ 1,003  
 
 
               
Geographic region
               
Americas
               
Assets under management
  $ 557     $ 531  
Custody/brokerage/administration/deposits
    287       238  
 
Assets under supervision
    844       769  
International
               
Assets under management
    271       204  
Custody/brokerage/administration/deposits
    38       30  
 
Assets under supervision
    309       234  
 
Total Assets under supervision
  $ 1,153     $ 1,003  
 
 
               
Memo:
               
Mutual fund assets:
               
Liquidity
  $ 188     $ 163  
Fixed income
    39       48  
Equity, balanced & alternatives
    137       97  
 
Total mutual funds assets
  $ 364     $ 308  
 

38


 

                                 
    Three months ended September 30,     Nine months ended September 30,  
Assets under management rollforward   2005     2004     2005     2004(d)  
     
Beginning balance
  $ 783     $ 575     $ 791     $ 561  
Liquidity net asset flows
    19       (9 )     8       (13 )
Fixed income net asset flows
    (4 )     (5 )     (2 )     (6 )
Equity, balanced & alternative net asset flows
    4       (2 )     13       8  
Acquisitions(b)
          176             176  
Market/performance/other impacts(c)
    26             18       9  
 
Ending balance
  $ 828     $ 735     $ 828     $ 735  
 
 
                               
Custody/brokerage/administration/deposits rollforward
                               
Beginning balance
  $ 310     $ 221     $ 315     $ 203  
Custody/brokerage/administration net asset flows
    9       12       15       21  
Acquisitions(b)
          38             38  
Market/performance/other impacts(c)
    6       (3 )     (5 )     6  
 
Ending balance
  $ 325     $ 268     $ 325     $ 268  
 
 
                               
Assets under supervision rollforward
                               
Beginning balance
  $ 1,093     $ 796     $ 1,106     $ 764  
Net asset flows
    28       (4 )     34       10  
Acquisitions(b)
          214             214  
Market/performance/other impacts(c)
    32       (3 )     13       15  
 
Ending balance
  $ 1,153     $ 1,003     $ 1,153     $ 1,003  
 
(a)  
Excludes assets under management of American Century.
(b)  
Reflects the Merger with Bank One in the third quarter of 2004 ($214 billion).
(c)  
Includes AWM’s strategic decision to exit the Institutional Fiduciary business in the second quarter of 2005 ($12 billion).
(d)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
 
CORPORATE
 
For a discussion of the business profile of Corporate, see pages 47-48 of JPMorgan Chase’s 2004 Annual Report.
                                                 
Selected income statement data   Three months ended September 30,     Nine months ended September 30,  
(in millions)   2005     2004     Change     2005(b)     2004(c)     Change  
 
Revenue
                                               
Securities/private equity gains (losses)
  $ 274     $ 347       (21 )%   $ 454     $ 1,202       (62 )%
Other income
    (20 )     131       NM       115       277       (58 )
                     
Noninterest revenue
    254       478       (47 )     569       1,479       (62 )
Net interest income
    (645 )     (536 )     (20 )     (2,085 )     (559 )     (273 )
                     
Total net revenue
    (391 )     (58 )     NM       (1,516 )     920       NM  
 
                                               
Provision for credit losses(a)
    13       (1 )     NM       10       (110 )     NM  
 
                                               
Noninterest expense
                                               
Compensation expense
    740       786       (6 )     2,286       1,764       30  
Noncompensation expense
    987       1,146       (14 )     3,025       2,873       5  
                     
Subtotal
    1,727       1,932       (11 )     5,311       4,637       15  
Net expenses allocated to other businesses
    (1,345 )     (1,426 )     6       (4,017 )     (3,796 )     (6 )
                     
Total noninterest expense
    382       506       (25 )     1,294       841       54  
                     
Operating earnings before income tax expense
    (786 )     (563 )     (40 )     (2,820 )     189       NM  
Income tax expense (benefit)
    (311 )     (344 )     10       (1,172 )     (168 )     NM  
                     
Operating earnings (loss)
  $ (475 )   $ (219 )     (117 )   $ (1,648 )   $ 357       NM  
 
(a)  
Third quarter 2005 includes a $12 million special provision related to Hurricane Katrina.
(b)  
In the first quarter of 2005, the Corporate sector’s and the Firm’s operating revenue and income tax expense have been restated to be presented on a tax-equivalent basis. Previously, only the business segments’ operating revenue and income tax expense were presented on a tax-equivalent basis, and the impact of the business segments’ tax-equivalent adjustments was eliminated in the Corporate sector. This restatement had no impact on the Corporate sector’s or the Firm’s operating earnings.
(c)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.

39


 

Quarterly results
Operating loss was $475 million, compared with a loss of $219 million in the prior year.
Net revenue was negative $391 million, compared with negative $58 million in the prior year. Net interest income was negative $645 million compared with negative $536 million. The decline was driven primarily by repositioning of the Treasury portfolio in prior periods. Noninterest revenue of $254 million declined by $224 million, primarily due to the absence of a one-time gain on the sale of an investment and Treasury portfolio losses of $43 million versus gains of $109 million in the prior year. This was partially offset by private equity gains of $313 million, an increase of $78 million from the prior year.
Noninterest expense was $382 million, down $124 million, or 25%, from the prior year. The expense decline was primarily due to lower compensation, merger-related savings and other efficiencies.
Year-to-date results
Operating loss was $1.6 billion, down from earnings of $357 million in the prior year.
Net revenue was negative $1.5 billion, compared with $920 million in the prior year. Noninterest revenue of $569 million declined by $910 million and included securities losses in the Treasury portfolio of $955 million. These losses were the result of repositioning the portfolio to manage exposure to rising interest rates. Private equity gains were $1.4 billion, an increase of $479 million from the prior year.
Net interest income was negative $2.1 billion, compared with negative $559 million in the prior year. Actions and policies adopted in conjunction with the Merger and the repositioning of the Treasury portfolio were the main drivers of the decline.
Noninterest expense was $1.3 billion, up $453 million, or 54%, from the prior year, primarily due to the Merger, partially offset by merger-related savings, expense efficiencies and further refinements to certain cost allocation methodologies in order to provide consistency in reporting across business segments.
                                                 
Selected metrics   Three months ended September 30,     Nine months ended September 30,  
(in millions, except headcount data)   2005     2004     Change     2005     2004(e)     Change  
 
Selected average balance sheets
                                               
Short-term investments(a)
  $ 15,538     $ 26,432       (41 )%   $ 15,169     $ 13,025       16 %
Investment portfolio(b)
    47,311       74,708       (37 )     57,518       63,769       (10 )
Goodwill(c)
    43,535       42,958       1       43,456       14,652       197  
Total assets
    149,589       204,884       (27 )     162,175       150,293       8  
 
                                               
Headcount
    28,406       24,482       16       28,406       24,482       16  
 
                                               
Treasury
                                               
Securities gains (losses)(d)
  $ (43 )   $ 109       NM     $ (955 )   $ 270       NM  
Investment portfolio (average)
    39,351       65,508       (40 )     49,453       55,901       (12 )
Investment portfolio (ending)
    42,754       61,331       (30 )     42,754       61,331       (30 )
 
(a)  
Represents Federal funds sold, Securities borrowed, Trading assets – debt and equity instruments, and Trading assets – derivative receivables.
(b)  
Represents investment securities and private equity investments.
(c)  
Effective with the third quarter of 2004, all goodwill is allocated to the Corporate line of business. Prior to the third quarter of 2004, goodwill was allocated to the various lines of business.
(d)  
Losses in the first quarter of 2005 were primarily due to the sale of $20 billion of investment securities during the month of March 2005. Excludes gains/losses on securities used to manage risk associated with MSRs.
(e)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.

40


 

                                                 
Selected income statement and balance sheet data – Private equity                
    Three months ended September 30,     Nine months ended September 30,  
(in millions)   2005     2004     Change     2005     2004(c)     Change  
 
Private equity gains (losses)
                                               
Direct investments
                                               
Realized gains
  $ 430     $ 277       55 %   $ 1,618     $ 981       65 %
Write-ups/(write-downs)
    (71 )     (31 )     (129 )     2       (81 )     NM  
Mark-to-market (losses)
    (64 )     (27 )     (137 )     (306 )     (3 )     NM  
                     
Total direct investments
    295       219       35       1,314       897       46  
Third-party fund investments
    18       16       13       88       26       238  
                     
Total private equity gains (losses)
    313       235       33       1,402       923       52  
Other income
    10       14       (29 )     26       37       (30 )
Net interest income
    (51 )     (89 )     43       (157 )     (201 )     22  
                     
Total net revenue
    272       160       70       1,271       759       67  
Total noninterest expense
    53       73       (27 )     181       209       (13 )
                     
Operating earnings before income tax expense
    219       87       152       1,090       550       98  
Income tax expense
    78       27       189       390       187       109  
                     
Operating earnings
  $ 141     $ 60       135     $ 700     $ 363       93  
 
                         
Private equity portfolio information(a)                  
Direct investments   September 30, 2005     December 31, 2004     Change  
 
Publicly-held securities
                       
Carrying value
  $ 563     $ 1,170       (52 )%
Cost
    451       744       (39 )
Quoted public value
    795       1,758       (55 )
 
                       
Privately-held direct securities
                       
Carrying value
    4,793       5,686       (16 )
Cost
    6,187       7,178       (14 )
 
                       
Third-party fund investments(b)
                       
Carrying value
    561       641       (12 )
Cost
    920       1,042       (12 )
         
Total private equity portfolio
                       
Carrying value
  $ 5,917     $ 7,497       (21 )
Cost
  $ 7,558     $ 8,964       (16 )
 
(a)  
For further information on the Firm’s policies regarding the valuation of the private equity portfolio, see Note 9 on pages 98–100 of JPMorgan Chase’s 2004 Annual Report.
(b)  
Unfunded commitments to private third-party equity funds were $402 million and $563 million at September 30, 2005, and December 31, 2004, respectively.
(c)  
Includes three months of the combined Firm’s results and six months of heritage JPMorgan Chase results.
The carrying value of the Private Equity portfolio at September 30, 2005, was $5.9 billion, a net decrease of $1.6 billion from December 31, 2004. The decrease was primarily the result of sales of investments, consistent with management’s intention to reduce over time the capital committed to private equity.

41


 

 
BALANCE SHEET ANALYSIS
 
                 
Selected balance sheet data (in millions)   September 30, 2005     December 31, 2004  
 
Assets
               
Cash and due from banks
  $ 33,036     $ 35,168  
Deposits with banks and Federal funds sold
    19,804       28,958  
Securities purchased under resale agreements and Securities borrowed
    181,790       141,504  
Trading assets — debt and equity instruments
    250,171       222,832  
Trading assets — derivative receivables
    54,389       65,982  
Securities:
               
Available-for-sale
    68,613       94,402  
Held-to-maturity
    84       110  
Loans, net of allowance for loan losses
    413,284       394,794  
Other receivables
    39,630       31,086  
Goodwill and other intangible assets
    58,103       57,887  
All other assets
    84,129       84,525  
 
Total assets
  $ 1,203,033     $ 1,157,248  
 
Liabilities
               
Deposits
  $ 535,123     $ 521,456  
Securities sold under repurchase agreements and securities lent
    134,027       112,347  
Trading liabilities — debt and equity instruments
    99,163       87,942  
Trading liabilities — derivative payables
    53,329       63,265  
Long-term debt and capital debt securities
    113,475       105,718  
All other liabilities
    161,781       160,867  
 
Total liabilities
    1,096,898       1,051,595  
Stockholders’ equity
    106,135       105,653  
 
Total liabilities and stockholders’ equity
  $ 1,203,033     $ 1,157,248  
 
Balance sheet overview
At September 30, 2005, the Firm’s total assets were $1.2 trillion, an increase of $45.8 billion, or 4%, from December 31, 2004. Growth was primarily in securities purchased under resale agreements and securities borrowed, wholesale loans and debt and equity trading assets, partially offset by declines in available-for-sale (“AFS”) securities, derivative receivables trading assets, and deposits with banks and federal funds sold.
At September 30, 2005, the Firm’s total liabilities were $1.1 trillion, an increase of $45.3 billion, or 4%, from December 31, 2004. Growth was primarily driven by securities sold under repurchase agreements and securities lent, deposits, debt and equity trading liabilities, and long-term debt and capital debt securities. This growth was partially offset by a decline in derivative payables trading liabilities.
Securities purchased under resale agreements and Securities sold under repurchase agreements
The increase in Securities purchased under resale agreements and Securities sold under repurchase agreements from December 31, 2004, was primarily due to growth in client-driven financing activities in North America and Europe.
Trading assets and liabilities – debt and equity instruments
The Firm’s debt and equity trading instruments consist primarily of fixed income securities (including government and corporate debt) and equity and convertible cash instruments used for both market-making and proprietary risk-taking activities. The increase over December 31, 2004, was primarily due to growth in client-driven market-making activities across interest rate, credit and equity markets, as well as an increase in proprietary trading activities. For additional information, refer to Note 3 on page 71 of this Form 10–Q.
Trading assets and liabilities – derivative receivables and payables
The Firm uses various interest rate, foreign exchange, equity, credit and commodity derivatives for market-making, proprietary risk-taking and risk management purposes. The decline from December 31, 2004, was primarily due to the appreciation of the U.S. dollar and, to a lesser extent, higher interest rates, partially offset by rising commodity prices. For additional information, refer to Credit risk management and Note 3 on pages 49–59 and 71, respectively, of this Form 10–Q.
Securities
The AFS portfolio declined $25.8 billion from December 31, 2004, primarily due to securities sales as a result of management’s decision to reposition the investment portfolio to manage exposure to rising interest rates. For additional information related to securities, refer to Note 8 on pages 73–74 of this Form 10–Q.

42


 

Loans
The $18.4 billion increase in gross loans was due primarily to an increase of $16.5 billion in the wholesale portfolio. The increase in wholesale loans was primarily from the IB, reflecting higher balances of loans held-for-sale (“HFS”), related to securitization and syndication activities, and growth in the IB Credit Portfolio. Wholesale HFS loans were $17.9 billion as of September 30, 2005, compared with $7.7 billion as of December 31, 2004. For consumer loans, growth in consumer real estate and credit card loans from December 31, 2004, to September 30, 2005, was mostly offset by a decline in the auto portfolio. For a more detailed discussion of the loan portfolio and the Allowance for loan losses, refer to Credit risk management on pages 49–59 of this Form 10–Q.
Goodwill and Other intangible assets
The $216 million increase in Goodwill and Other intangible assets primarily resulted from the Cazenove joint venture; the Vastera and Neovest acquisitions; and higher MSRs, the result of business growth and favorable risk management results. Partially offsetting the increase were declines from the amortization of purchased credit card relationships and core deposit intangibles. For additional information, see Note 14 on pages 81–82 of this Form 10–Q.
Deposits
Deposits increased by 3% from December 31, 2004. Retail deposits increased, reflecting growth from new account acquisitions and the ongoing expansion of the retail branch distribution network. Wholesale deposits were higher, driven by growth in business volumes. For more information on deposits, refer to the RFS segment discussion and the Liquidity risk management discussion on pages 20–27 and 47–48, respectively, of this Form 10–Q. For more information on liability balances, refer to the CB and TSS segment discussions on pages 31–32 and 33–35, respectively, of this Form 10–Q.
Long-term debt and capital debt securities
Long-term debt and capital debt securities increased by $7.8 billion, or 7%, from December 31, 2004, primarily due to net new debt issuances. For additional information on the Firm’s long-term debt activity, see the Liquidity risk management discussion on pages 47–48 of this Form 10–Q.
Stockholders’ equity
Total stockholders’ equity increased $482 million from year-end 2004, to $106.1 billion at September 30, 2005. The increase was the result of net income for the first nine months of 2005 and common stock issued under employee plans, partially offset by cash dividends, stock repurchases and the redemption of $200 million of preferred stock. For a further discussion of capital, see the Capital management section that follows.
 
CAPITAL MANAGEMENT
 
The following discussion of JPMorgan Chase’s Capital Management highlights developments since December 31, 2004, and should be read in conjunction with pages 50-52 of JPMorgan Chase’s 2004 Annual Report.
The Firm’s capital management framework is intended to ensure that there is capital sufficient to support the underlying risks of the Firm’s business activities, measured by economic risk capital, and to maintain “well-capitalized” status under regulatory requirements. In addition, the Firm holds capital above these requirements in amounts deemed appropriate to achieve management’s debt rating objectives. The Firm’s capital framework is integrated into the process of assigning equity to the lines of business. The Firm may refine its methodology for assigning equity to the lines of business as the merger integration process continues.
Line of Business Equity
Equity for a line of business represents the amount the Firm believes the business would require if it were operating independently, incorporating sufficient capital to address economic risk measures, regulatory capital requirements, and capital levels for similarly rated peers. Return on equity is measured and internal targets for expected returns are established as a primary measure of a business segment’s performance.
For performance management purposes, the Firm does not allocate goodwill to the lines of business because it believes that the accounting-driven allocation of goodwill could distort assessments of relative returns. In management’s view, this approach fosters better comparison of returns among the lines of business, as well as a better comparison of line of business returns with external peers. The Firm assigns an amount of equity capital equal to the then current book value of the Firm’s goodwill to the Corporate segment. The return on invested capital related to the Firm’s goodwill assets is managed within the Corporate segment. In accordance with SFAS 142, the Firm allocates goodwill to the lines of business based on the underlying fair values of the businesses and then performs the required impairment testing. For a further discussion of goodwill and impairment testing, see Note 14 on pages 81–82 of this Form 10–Q, and Critical accounting estimates on page 79 of JPMorgan Chase’s 2004 Annual Report.

43


 

The current methodology used to assign line of business equity is not comparable to equity assigned to the lines of business prior to July 1, 2004.
                 
(in billions)   Quarterly Averages
Line of business equity   3Q05     3Q04  
 
Investment Bank
  $ 20.0     $ 20.0  
Retail Financial Services
    13.5       13.1  
Card Services
    11.8       11.8  
Commercial Banking
    3.4       3.4  
Treasury & Securities Services
    1.9       1.9  
Asset & Wealth Management
    2.4       2.4  
Corporate(a)
    52.5       51.8 &nb