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ACCESSION NUMBER: 0000950117-04-000966
CONFORMED SUBMISSION TYPE: 10-K
PUBLIC DOCUMENT COUNT: 7
CONFORMED PERIOD OF REPORT: 20031231
FILED AS OF DATE: 20040312
FILER:
COMPANY DATA:
COMPANY CONFORMED NAME: AMERICAN EXPRESS CO
CENTRAL INDEX KEY: 0000004962
STANDARD INDUSTRIAL CLASSIFICATION: FINANCE SERVICES [6199]
IRS NUMBER: 134922250
STATE OF INCORPORATION: NY
FISCAL YEAR END: 1231
FILING VALUES:
FORM TYPE: 10-K
SEC ACT: 1934 Act
SEC FILE NUMBER: 001-07657
FILM NUMBER: 04665860
BUSINESS ADDRESS:
STREET 1: 200 VESEY STREET
STREET 2: 50TH FLOOR
CITY: NEW YORK
STATE: NY
ZIP: 10285
BUSINESS PHONE: 2126402000
MAIL ADDRESS:
STREET 1: 200 VESEY STREET
STREET 2: 50TH FLOOR
CITY: NEW YORK
STATE: NY
ZIP: 10285
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<DESCRIPTION>AMERICAN EXPRESS COMPANY
<TEXT>
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================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
----------
FORM 10-K
----------
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ________to ________
Commission File No. 1-7657
American Express Company
(Exact name of registrant as specified in its charter)
New York 13-4922250
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
World Financial Center
200 Vesey Street
New York, New York 10285
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (212) 640-2000
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange
------------------- on which registered
Common Shares (par value $0.20 per Share) ---------------------
New York Stock Exchange
Boston Stock Exchange
Chicago Stock Exchange
Pacific Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
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 if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes [X] No [ ]
The aggregate market value, as of June 30, 2003, of voting shares held by
non-affiliates of the registrant was approximately $53.8 billion. Common
shares of the registrant outstanding at March 8, 2004 were 1,290,080,248.
Documents Incorporated By Reference
Parts I, II and IV: Portions of Registrant's 2003 Annual Report to Shareholders.
Part III: Portions of Registrant's Proxy Statement for the Annual Meeting of
Shareholders to be held on April 26, 2004.
================================================================================
<PAGE>
TABLE OF CONTENTS
Form 10-K
Item Number
<TABLE>
<CAPTION>
Page
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<S> <C>
PART I
1. Business............................................................................... 1
Introduction........................................................................ 1
Travel Related Services............................................................. 2
American Express Financial Advisors................................................. 26
Financial Planning.................................................................. 27
Competitive Environment............................................................. 31
American Express Bank............................................................... 51
Corporate and Other................................................................. 61
Foreign Operations.................................................................. 64
Important Factors Regarding Forward-Looking Statements.............................. 65
Segment Information and Classes of Similar Services................................. 70
Executive Officers of the Company................................................... 70
Employees........................................................................... 72
2. Properties............................................................................. 72
3. Legal Proceedings...................................................................... 73
4. Submission of Matters to a Vote of Security Holders.................................... 78
PART II
5. Market for Company's Common Equity and Related Stockholder Matters..................... 78
6. Selected Financial Data................................................................ 80
7. Management's Discussion and Analysis of Financial Condition and Results of Operation... 80
7A.Quantitative and Qualitative Disclosures About Market Risk............................. 80
8. Financial Statements and Supplementary Data............................................ 81
9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure... 81
9A.Controls and Procedures................................................................ 81
PART III
10.Directors and Executive Officers of the Company........................................ 82
11.Executive Compensation................................................................. 82
12.Security Ownership of Certain Beneficial Owners and Management......................... 82
13.Certain Relationships and Related Transactions......................................... 82
14.Principal Accounting Fees and Services................................................. 82
PART IV
15.Exhibits, Financial Statement Schedules, and Reports on Form 8-K....................... 83
Signatures............................................................................. 85
Index to Financial Statements.......................................................... F-1
Consent of Independent Auditors........................................................ F-2
Exhibit Index.......................................................................... E-1
</TABLE>
<PAGE>
PART I*
ITEM 1. BUSINESS
INTRODUCTION
American Express Company (including its subsidiaries, unless the context
indicates otherwise, the "Company") was founded in 1850 as a joint stock
association and was incorporated under the laws of the State of New York in
1965. The Company is primarily engaged in the business of providing travel
related services, financial advisory services and international banking services
throughout the world.
The Company maintains an Investor Relations Web site on the Internet at
http://ir.americanexpress.com. The Company's filings with the Securities and
Exchange Commission ("SEC"), including its Annual Report on Form 10-K, Quarterly
Reports on Form 10-Q, Current Reports on Form 8-K and all amendments to those
reports are available free of charge as soon as reasonably practicable following
the time they are filed with or furnished to the SEC by clicking on the "SEC
Filings" link found on the Investor Relations homepage. Interested persons are
also able to access the Company's Investor Relations Web site through the
Company's main Web site at www.americanexpress.com by clicking on the "About
American Express" link, which is located at the bottom of the Company's
homepage. Information on such website is not incorporated by reference in this
report.
American Express achieved record earnings in 2003, while significantly
increasing its investments in its businesses to generate future growth. The
Company entered the year in a defensive posture and with a cautious view of the
environment as a result of continued weak corporate spending and equity markets,
the war in Iraq and SARS. Nonetheless, during the latter part of the year, the
Company was able to build strong momentum as equity markets gained strength, the
U.S. economy grew and the global travel industry began to grow again from the
depressed levels of the last several years.
Significant growth in the Company's credit and charge card business, strong
credit quality, the success of the Company's ongoing reengineering efforts
(which yielded benefits in excess of $1 billion for the third consecutive year)
and progress at American Express Financial Advisors ("AEFA") all played a role
in 2003 performance. For the year, the Company delivered:
o Revenues of $25.9 billion, up 9% from $23.8 billion in 2002
o Net income of $2.99 billion, up 12% from $2.67 billion in 2002
o Diluted earnings per share of $2.30, up 14% from $2.01 in 2002
o Return on equity of 20.6%, compared with 20.2% in 2002
For a complete discussion of the Company's financial results, including
financial information regarding each of the Company's three operating segments,
see pages 27 through 108 of the Company's 2003 Annual Report to Shareholders
(the "2003 Annual Report"), which are incorporated herein by reference. For
a summary of the Company and its operating segments, and discussion of the
Company's principal sources of revenue, see pages 78 through 80 of the 2003
Annual Report.
- ---------------
* Various forward-looking statements are made in this Annual Report on
Form 10-K, which generally include the words "believe," "expect,"
"anticipate," "optimistic," "intend," "plan," "aim," "will," "may," "should,"
"could," "would," "likely" and similar expressions. Certain factors that
may cause actual results to differ materially from these forward-looking
statements are discussed on pages 65-70.
1
<PAGE>
These results met or exceeded the Company's long-term targets of 12% to 15%
earnings per share growth, 8% revenue growth and 18% to 20% return on equity, on
average and over time.
The Company believes that its 2003 results reflect its ability to
capitalize on the changes it began to initiate in 2001 to build a more flexible
and adaptable business. These changes focused on improving the Company's
economics, diversifying its card business, lowering its risk and investing in
growth. They were designed to help the Company meet its long-term financial
targets in an environment of slower economic growth and market appreciation. In
addition, these changes were intended to help it capitalize quickly on improving
market conditions, which the Company believes it was able to do in 2003 as it
increased expenditures in business building initiatives as the economy and
markets improved during the latter half of the year. These expenditures were
used for the launch of many new Card products, increased marketing efforts and
the successful completion of two targeted acquisitions, all of which helped to
drive substantially higher growth in Cardmember spending and loans at the TRS
operating segment and higher results at the AEFA operating segment.
TRAVEL RELATED SERVICES
American Express Travel Related Services Company, Inc. (including its
subsidiaries, unless the context indicates otherwise, "TRS"), which includes the
Company's card, travel, merchant and network businesses, provides a variety of
products and services worldwide, including, among others, global card network,
issuing and processing services, customized charge card and credit cards for
consumers and businesses worldwide, other consumer and corporate lending and
banking products, American Express'r' Travelers Cheques and prepaid card
products, business expense management products and services, corporate travel
and travel management services, consumer travel services, tax, accounting and
business consulting services, magazine publishing, merchant transaction
processing and point-of-sale and back-office products and services. In certain
countries, partly owned affiliates and unaffiliated entities offer some of these
products and services under licenses from TRS.
TRS' general purpose card network and card issuing businesses are global in
scope. TRS is a world leader in providing charge and credit cards to consumers,
small businesses and corporations. American Express'r' Cards are currently
issued in 47 currencies, including Cards issued by third-party banks and other
qualified institutions. In 2003, TRS' worldwide billed business (spending on
American Express Cards, including Cards issued by third parties) was $352
billion, with approximately $90 billion coming from Cardmembers domiciled
outside the United States. Cards permit Cardmembers to charge purchases of goods
and services in most countries around the world at the millions of merchants
that accept the American Express Card. In 2003, TRS rolled out numerous new Card
products and entered into various cobrand and other Card arrangements. TRS added
a net total of 3.5 million cards in 2003, bringing total worldwide
cards-in-force to 60.5 million (including Cards issued by third parties). As a
result of the global reach of American Express' brand, its card issuing
capabilities and its general purpose card network, the Company is positioned to
take advantage of the growth opportunities in the global payments services
business.
2
<PAGE>
Further, the Company believes that its "spend-centric" business model has
significant competitive advantages. Card issuers generate the majority of their
income through some combination of customer spending (which generates payments
from merchants for card transactions), lending (which generates finance charges
on revolving credit balances) and customer fees. The Company has strength in all
three revenue streams, but has a unique edge in spending. On average, U.S.
consumers spend about four times as much on their American Express Cards as they
do on other cards. TRS generates revenue from this spending through the discount
rate charged to merchants for Card transactions. Because of American Express
Cardmembers' spending patterns, TRS can deliver greater value to merchants in
the form of higher spending Cardmembers and therefore earn a premium discount
rate. As a result, TRS can generate higher revenues from spending and has the
flexibility to offer more attractive rewards and other incentives to keep
customers spending more on their Cards. This, in turn, drives more business to
merchants that accept the Card. This business model gives TRS a competitive
advantage that TRS seeks to leverage to provide more value to its customers,
merchants and Card-issuing partners.
TRS' business as a whole has not experienced significant seasonal
fluctuation, although travel sales tend to be highest in the second quarter,
Travelers Cheque sales and Travelers Cheques outstanding tend to be greatest
each year in the summer months, peaking in the third quarter, and Card-billed
business tends to be moderately higher in the fourth quarter than in other
quarters.
TRS places significant importance on its trademarks and service marks and
diligently protects its intellectual property rights around the world.
Global Network Services
TRS operates a global general purpose charge and credit card network.
Network functions include operations, service delivery, systems, authorization,
clearing, settlement and brand advertising and marketing; the development of new
and innovative products for the network; and establishing and enhancing
relationships with merchants globally, both online and offline. Since May 1996,
the Company has been pursuing a strategy of inviting U.S. banks and other
institutions to issue American Express-branded cards on the American Express
merchant network, building on a business strategy it has implemented
successfully in a number of countries outside the United States. By leveraging
its global infrastructure and the appeal of the American Express brand, the
Company aims to gain even broader reach for its network worldwide. American
Express has established 79 card-issuing partnership arrangements in 89
countries. In January 2004, TRS and MBNA America Bank, NA ("MBNA") signed an
agreement under which MBNA will issue its own American Express-branded credit
cards in the United States and confirmed plans for MBNA to issue American
Express-branded credit cards in Canada, Spain and the United Kingdom. As a
result of this agreement, MBNA will become the first major U.S. bank to issue
credit cards that are accepted on the American Express merchant network. MBNA's
issuance of American Express-branded cards is subject to the elimination of VISA
USA, Inc.'s ("VISA") and MasterCard International, Incorporated's ("MasterCard")
rules prohibiting such issuance (see the discussion below describing the
Department of Justice litigation).
3
<PAGE>
One of the key assets of the American Express merchant network is the
American Express brand, which is one of the world's most highly recognized and
respected brands. Cards bearing the American Express logo ("Cards") are issued
by TRS and by qualified licensed institutions, and are accepted at ATMs and at
all merchant locations worldwide that accept the American Express Card. TRS
issues the vast majority of Cards on the American Express network.
The Global Network Services business ("GNS") of TRS authorizes third-party
financial institutions to issue American Express-branded cards that are accepted
on the American Express merchant network. While TRS' network arrangements are
customized to the particular market and partner requirements, all GNS
partnerships are designed to help its partners develop products for their
high-spending and best customers. Network arrangements include independent
operator ("IO") arrangements, under which GNS' partner issues local currency
American Express Cards in a particular market and serves as the local merchant
acquirer and processor; joint venture arrangements, under which a joint venture
in which TRS has an ownership stake acts as the merchant acquirer and issues
Cards locally; and non-proprietary license arrangements, under which TRS grants
the partner a license to issue American Express Cards and the partner owns the
customer relationships, provides service, billing, and credit management and
designs the Card product features and TRS processes the transactions and
maintains the merchant acquirer relationship with merchants. In 2003, TRS also
entered into several arrangements outside the United States in which the GNS
partner acts as the local merchant acquirer in a particular market, but does not
issue Cards. TRS chooses GNS partners who share a core set of attributes such as
commitment to high quality standards, strong marketing expertise and
compatibility with the American Express brand, and TRS requires its GNS partners
to adhere to its product, brand and service standards.
In 2003, the Company entered into nine new GNS relationships with financial
institutions. GNS partners launched a total of 30 new products during 2003,
bringing the total number of American Express-branded GNS partner products to
over 350. In 2003, for example, Nedcor Bank launched a Gold credit card and
a Gold corporate card in South Africa, Banco Comercial Portugues launched
Blue V2, the first credit card with a smart chip in Portugal and the Nations
Trust Bank in Sri Lanka issued American Express Personal and Gold credit cards.
GNS is an important strategic business that helps to increase American
Express' market presence, drive more transaction volume onto the American
Express merchant network and increase the number of merchants accepting the
American Express Card. Since the creation of the GNS business in 1997, GNS
partners have added 6.4 million new Cards to the American Express network (net
of attrition). In addition, GNS merchant acquiring partners have added more than
2.5 million new establishments to the American Express network around the world.
Since 1999, Cards-in-force issued by GNS partners have grown at a compounded
annual growth rate of 24%. Spending on these Cards has grown at a compounded
annual rate of 16% and totaled more than $12 billion in 2003.
GNS' sources of revenues in IO arrangements include fees that are largely
driven by the number of Cards issued and spending on those Cards. The credit
risk for the issued cards resides with the local issuer, not with the Company.
In addition, TRS benefits from expanded merchant
4
<PAGE>
coverage, which accommodates more inbound spending by Cardmembers from other
parts of the world. In joint venture arrangements, the economics of the joint
venture are similar to TRS' proprietary business, and TRS receives its
contractual portion of the venture's income.
GNS' revenues in non-proprietary license arrangements are derived from the
level of Cardholder spending, royalties and fees charged to the Card issuer
based on transaction volume, and the provision of value-added issuer services
such as insurance products and consulting services. The GNS partner bears the
credit risk for the issued cards, as well as the Card marketing and acquisition
costs, fraud costs and costs of rewards and other loyalty initiatives; however,
TRS does bear the risk arising from the GNS partner's potential failure to meet
its settlement obligations to TRS as a result of the GNS partner's inability or
unwillingness to make payment to TRS in respect of transactions made on the
Company's network. TRS mitigates this risk by selecting GNS partners whom it
believes will meet their obligations and by monitoring its GNS partners'
financial health, their compliance with the terms of their relationship with TRS
and the political and economic environment in which they operate. In certain
instances, TRS may require GNS partners to post a letter of credit, bank
guarantee or other collateral to reduce this risk.
Even though TRS' gross revenues from GNS business volumes are lower than
from TRS' proprietary issuing business, since the GNS partner is responsible
for most of the operating costs and risk, TRS' expenses are lower as well. The
result is a highly attractive earnings stream and risk profile, requiring
modest capital support. The leverage inherent in the GNS business cost
structure is very attractive and will become even more valuable as the GNS
business grows. Since the majority of GNS costs are fixed, the GNS business is
highly scalable. GNS partners benefit from their association with the American
Express brand and their ability to gain attractive revenue streams and expand
and differentiate their product offerings.
Local restrictive regulations governing the issuance of charge and credit
cards have not been a significant factor impacting TRS' arrangements with banks
and qualifying financial institutions in any country in which such arrangements
exist, because such banks and institutions generally are already licensed to
issue cards (e.g., VISA and MasterCard cards) prior to their issuing cards on
the American Express network. Accordingly, TRS' GNS partners have generally not
had difficulty in obtaining appropriate government authorization in the markets
in which TRS has chosen to enter into these partnership arrangements.
In contrast to the situation outside the United States, where banks and
other qualified institutions have issued Cards on the network for many years,
there have been no major U.S. banks issuing Cards on the American Express
network in the United States. This situation is the result of rules and policies
of VISA and MasterCard in the United States calling for expulsion of members who
issue American Express-branded cards. No banks have been willing to forfeit
membership in VISA and/or MasterCard to issue cards on the American Express
network. In a lawsuit filed in October 1998 against VISA and MasterCard, the
U.S. Department of Justice alleged that these rules and policies violate the
antitrust laws of the United States. In October 2001, the trial judge ruled in
favor of the U.S. Department of Justice, holding that these rules and policies
do violate such laws. TRS views this decision as a major victory for U.S.
consumers because it will ultimately lead to more vigorous network competition
and more innovative card products and services.
VISA and MasterCard appealed the decision and obtained a stay of the
court's judgment during the appeals process. In September 2003, the U.S. Court
of Appeals for the Second Circuit affirmed the trial court's decision, and in
January 2004, the Court of Appeals denied VISA and MasterCard's motions for
rehearing. In February 2004, the Court of Appeals continued the stay of the
trial court's judgment while VISA and MasterCard file petitions for certiorari
with the U.S. Supreme Court. However, in light of the Second Circuit's
affirmation of the trial court's decision, followed by its denial of VISA and
MasterCard's motions for rehearing, the Company
5
<PAGE>
has renewed its discussions with banks about establishing network partnership
agreements in the United States. In this regard, as stated above, the Company
announced an agreement with MBNA in January 2004 under which MBNA will issue
American Express-branded credit cards in the United States once VISA and
MasterCard's rules are no longer in place.
As a network, TRS competes with other card networks, including, among
others, VISA, MasterCard, Diners Club, Discover Business Services, a business
unit of Morgan Stanley (primarily in the United States), and JCB Co., Ltd.
(primarily in Asia). The principal competitive factors that affect the network
business are (i) the number of cards in force and amount of spending on these
cards; (ii) the quantity and quality of establishments that accept the cards;
(iii) the economic attractiveness to card issuers and merchant acquirers of
participating in the network; (iv) the success of targeted marketing and
promotional campaigns; (v) reputation and brand recognition; (vi) innovation in
systems, technology and product offerings; and (vii) the quality of customer
service.
Global Merchant Services
TRS operates a global merchant services business, which includes signing-up
merchants to accept American Express Cards and receiving, processing and paying
Cardmember charges for merchants that accept Cards. During 2003, TRS continued
its ongoing efforts to encourage consumers to use the American Express Card as
their card of choice for everyday spending at establishments, as well as for
their travel and entertainment spending. TRS also continued to increase the
range of merchants in retail and everyday spending categories that accept the
Card, such as quick-serve restaurants, retail stores, supermarkets and gas
stations.
Other key signings of merchants also helped the Company to bring Card
acceptance to industries where cash or checks are the predominant form of
payment. For example, TRS signed agreements with eight major property management
companies across the United States to accept the Card for rental payments at
their luxury properties bringing the total number to ten. TRS also signed AIG
Marketing, Inc. to accept the Card for insurance premium payments.
TRS' objective is to achieve merchant coverage wherever and however
Cardmembers want to use the Card, as well as to increase coverage in key
geographic areas and new industries that have not, to date, accepted general
purpose credit and charge cards as a means of payment. TRS adds new merchants to
the American Express network through a number of sales channels: a proprietary
sales force, third-party sales agents, strategic alliances with banks, the
Internet, telemarketing and inbound "Want to Honor" calls (i.e., merchants
desiring to accept the Card contacting the Company directly).
As in prior years, during 2003, TRS continued to grow merchant acceptance
of American Express Cards around the world and to refine its approach to
calculating merchant coverage in accordance with changes in the marketplace.
Globally, acceptance of general purpose charge and credit cards continues to
increase, including among merchants that have not traditionally accepted charge
and credit cards. Additionally, as the Global Network Services business signs
partners in countries around the world who help to grow merchant acceptance in
their local markets, and as American Express Card issuance expands in "emerging
markets" outside the
6
<PAGE>
United States, TRS has begun to include merchant coverage information from GNS
merchant acquirers and from these "emerging markets". As a result of this
refined approach, TRS estimates that, as of the end of 2003, TRS' merchant
network in the United States accommodated more than 90% of Cardmembers' general
purpose charge and credit card spending, and its international merchant network
accommodated over 80% of Cardmembers' general purpose charge and credit card
spending.
TRS earns "discount" revenue from fees charged to "service establishments"
for accepting Cards. The discount, which is the fee charged to the service
establishment for accepting Cards, is deducted from the amount of the payment
that the "merchant acquirer" (generally TRS) pays to a service establishment for
charges submitted. A service establishment is defined as a merchant that enters
into an agreement to accept Cards as a method of payment for goods and services.
A merchant acquirer is the entity that contracts for Card acceptance with the
service establishment, receives all Card transactions from the service
establishment, pays the service establishment for these transactions and submits
the transactions to TRS, which in turn submits them to the appropriate Card
issuer for billing to the Cardmember. When a Cardmember presents the Card for
payment, the service establishment creates a record of charge for the
transaction and submits it to the merchant acquirer for payment. The discount is
deducted from payment to the service establishment where TRS is the merchant
acquirer and is recorded by TRS as discount revenue at the time the transaction
is captured. Where TRS acts as the merchant acquirer and the Card presented at a
service establishment is issued by a third-party bank or financial institution,
such as in the case of some of TRS' GNS partnership arrangements, TRS will make
financial settlement with the Card issuer. Such shared amounts are recorded by
TRS as a reduction of discount revenue. Where the merchant acquirer is a
third-party bank or financial institution, TRS also receives a portion of the
discount revenue charged to such service establishments. Such amounts shared
with and paid to TRS are recorded by TRS as discount revenue.
The discount rate, which is generally expressed as a percentage of the
amount charged on a Card, is contractually agreed with the service
establishment. The level of the discount rate charged by TRS is principally
determined by the value that is delivered to the service establishment and
generally includes a premium over other card networks. Value is delivered to the
service establishment through higher spending Cardmembers relative to competing
card networks, the volume of spending by all Cardmembers, marketing programs and
the insistence of Cardmembers to use their Cards when enrolled in rewards or
other Card loyalty programs.
The discount rate varies with the industry in which the service
establishment does business, the charge volume, the timing and method of payment
to the service establishment, the method of submission of charges and, in
certain instances, the scope of the Card acceptance agreement signed with TRS
(local or global), the average charge amount and the amount of information
provided. TRS has generally been able to charge higher discount rates to
participating service establishments than its competitors as a result of TRS'
attractive Cardmember base. In 2003, as in prior years, the Company experienced
some erosion in its discount rate, primarily reflecting the impact of stronger
than average growth in the lower rate "everyday spend" merchant categories.
Based on the Company's business strategy, it expects to see continued changes in
the mix of business. This, along with volume-related pricing discounts
7
<PAGE>
and selective re-pricing initiatives, will probably continue to result in some
discount rate erosion over time.
While many establishments understand the pricing in relation to the value
provided, TRS has continued to encounter merchants that accept Cards, but prefer
another type of payment and, consequently, suppress use of the Card. TRS
continues to devote significant resources to respond to this issue, and has made
progress by concentrating on acquiring merchants where Cardmembers want to use
the Card, providing better and earlier communication of the American Express
value proposition and, when necessary, by canceling merchants who suppress use
of American Express Cards.
TRS focuses on understanding and addressing key factors that influence
merchant satisfaction, on executing programs that increase Card usage at
merchants and on strengthening its relationships with merchants through an
expanded roster of services that help them meet their business goals. TRS offers
a full range of point-of-sale solutions that allow its merchant partners to
accept American Express Cards as well as bankcards, debit cards and checks. All
proprietary point-of-sale solutions support direct processing (i.e., direct
connectivity) to American Express, which lowers a merchant's cost of Card
acceptance and avoids any payment delays caused by a third party.
In 2003, TRS introduced satellite technology within its point-of-sale
product portfolio to meet the increasing merchant demand for high speed credit
card processing. TRS continues to invest in various broadband connectivity
options, including wireless and IP-based technology in order to facilitate Card
acceptance in new and emerging industries.
TRS continues to support the fast-growing recurring billing industry
through the Automated Bill Payment platform, a product that allows merchants to
bill Cardmembers on a regular basis for repeated charges such as insurance
premiums and subscriptions. In 2003, TRS also made modifications to its host
authorization system in order to approve more transactions and reduce Cardmember
disruption at the point-of-sale without a corresponding increase in fraud or
credit losses. These enhancements were primarily focused on the recurring
billing industry. TRS also introduced address verification improvements, which
assist merchants in reducing the risk of fraud by validating addresses for
shipments to addresses other than the Cardmember's billing address.
Wherever TRS manages both the acquiring relationship with merchants and the
Card-issuing side of the business, there is a "closed loop," which distinguishes
the American Express network from the bankcard networks in that there is access
to information at both ends of the Card transaction. This enables TRS to provide
targeted marketing for merchants and special offers to Cardmembers through a
variety of channels. In addition, the closed loop allows TRS's Card-issuing bank
partners to further customize marketing efforts and to work with TRS to drive
business to merchants who accept the Card.
TRS, as the merchant acquirer, has certain contingent liabilities that
arise in the event that a billing dispute between a Cardmember and a merchant is
settled in favor of the Cardmember. Drivers of this liability are returns in the
normal course of business, disputes over quality or non-
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delivery, and billing errors. Typically, the amount due to the Cardmember is
offset against current or future submissions from the merchant. TRS can realize
losses when offsetting submissions cease, such as when the merchant commences a
bankruptcy proceeding or goes out of business. TRS actively monitors its
merchant base to assess the risk of this exposure. When appropriate, the Company
will take action to reduce the net exposure to a given merchant by either
holding a set amount of the merchant's funds or lengthening the time between
when the merchant submits a charge for payment and when TRS pays the merchant.
TRS also holds reserves against these contingencies.
In recent years there has been considerable interest on the part of a
number of government regulators around the world regarding the fees involved in
the operation of card networks, including the fees that merchants are charged to
accept cards. Most significantly, regulators in the United Kingdom, European
Union, Australia and Switzerland have conducted, and are continuing to conduct,
investigations into the way that bankcard network members collectively set the
"interchange," which is the fee paid by the merchant acquirer to the
card-issuing bank. The interchange fee is generally the largest component of the
merchant discount rate charged to merchants by the merchant acquirer with
respect to bankcard charges. Although the regulators' focus has for the most
part been specifically on VISA and MasterCard as the dominant card networks,
government regulation of the card associations' pricing could ultimately affect
all card service providers by mandating reduction of the levels of interchange
and merchant discount. Downward movement of interchange and merchant discount
fees may impact the relative economic attractiveness to card issuers and
merchant acquirers of participating in a particular network, and may drive card
service providers to look for other sources of revenue such as annual card fees,
as well as reduction of costs by scaling back or eliminating rewards programs.
In Spain, a parliamentary resolution in 2003 called on the government to take
action to reduce the level of credit card interchange. In October 2003, new
regulations issued by the Reserve Bank of Australia came into force that limit
the interchange fees that VISA and MasterCard may charge to a "cost" basis
formula. American Express and Diners Club were not included in the scope of
these regulations. However, American Express and Diners Club may face increased
pressure on merchant rates in Australia as the VISA and MasterCard rates are
lowered.
Regulators have also considered the industry practice of prohibiting
merchants from passing the cost of merchant discount fees along to consumers
through surcharges on card purchases. As a result of action taken by the Reserve
Bank of Australia, as of January 1, 2003, merchants in Australia are permitted
to surcharge card transactions, including American Express Card transactions. To
date, only limited incidence of surcharging has occurred in Australia. Although
surcharging of credit card purchases has been permitted in other countries, such
as the United Kingdom, for a number of years, there has been relatively low
incidence of surcharging, as merchants do not wish to risk offending customers
or losing customers to competitors who do not surcharge.
In some markets outside the United States, particularly in the United
Kingdom, third party processors have begun to offer merchants the capability of
converting credit card transactions from the local currency to the currency of
the cardholder's residence (i.e., the cardholder's billing currency) at the
point-of-sale, and submitting the transaction in the
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cardholder's billing currency, thus bypassing the traditional foreign currency
conversion process of the card network and card issuer. The merchant and
processor would retain some or all of the revenue resulting from the
point-of-sale conversion, thus reducing or eliminating revenue for card issuers
and card networks relating to the conversion of foreign charges to the billing
currency. This practice is not widespread, and it is uncertain to what extent
consumers will prefer to have foreign currency transactions converted by
merchants rather than their card issuer in accordance with terms disclosed by
the issuer in the cardholder agreement and elsewhere. American Express is
reviewing the potential impact of point-of-sale foreign currency conversion on
revenues and Cardmembers. American Express' policy generally requires merchants
to submit charges and be paid in the currency of the country in which the
transaction occurs, and American Express itself converts the transaction to the
Cardmember's billing currency.
Consumer Card, Small Business and Consumer Travel Services
TRS' Card business has a significant presence worldwide and serves a range
of customer groups, including consumers and small businesses. TRS' consumer Card
business is complemented by its consumer travel business, which provides travel
services to Cardmembers and other consumers. TRS' Card business is focused on
offering a broad set of card products, including customizing existing products
to reach a greater number of customers. Core elements of TRS' strategy are its
focus on acquiring and retaining high-spending, creditworthy Cardmembers across
multiple groups; its breadth of product offering; the use of strong incentives
to drive spending on the Card; the development and nurturing of wide-ranging
relationships with cobrand, Membership Rewards'r' program and other partners; a
multi-card strategy (having multiple Card products in a customer's wallet); and
high-quality customer service.
TRS and its licensees offer individual consumers charge cards such as the
American Express Card, the American Express'r' Gold Card, the Platinum Card'r',
and the ultra-premium Centurion'r' Card; revolving credit cards such as Blue
from American Express'r', Blue Cash'r' from American Express and the Optima'r'
Card, among others; and a variety of cards sponsored by and cobranded with other
corporations and institutions, such as the Delta SkyMiles'r' Credit Card from
American Express, the American Express'r' Platinum Cash Rebate Card exclusively
for Costco Members and the Hilton HHonors Platinum Credit Card from American
Express.
Charge cards, which are marketed in the United States and many other
countries and carry no pre-set spending limits, are primarily designed as a
method of payment and not as a means of financing purchases of goods or
services. Charges are approved based on a variety of factors including a
Cardmember's account history, credit record and personal resources. Charge Cards
generally require payment by the Cardmember of the full amount billed each
month, and no finance charges are assessed. Charge Card accounts that are past
due are subject, in most cases, to a delinquency assessment and, if not brought
to current status, may be canceled. The no-preset-spending limit and pay-in-full
nature of this product attracts high-spending Cardmembers who want to use a
charge card to facilitate larger payments.
TRS and its licensees also offer a variety of revolving credit cards in the
United States and other countries. These cards have a range of different payment
terms, grace periods and rate and fee structures. Since late 1994, when the
Company began aggressively to expand its credit
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card business, its lending balance growth has been among the top tier of card
issuers. Much of this growth has been due to the breadth of the Company's
lending products, such as Blue from American Express, Blue Cash from American
Express and the Delta SkyMiles Credit Card from American Express, as well as the
increased number of Charge Cardmembers who have taken advantage of the Company's
"lending on charge" options (such as the Sign & Travel'r' and Extended Payment
Option programs).
The Sign & Travel program gives qualified U.S. Cardmembers the option of
extended payments for airline, cruise and certain travel charges that are
purchased with the Charge Card. The Extended Payment Option offers qualified
U.S. Cardmembers the option of extending payment for certain charges on the
Charge Card in excess of a specified amount. Various flexible payment options
are offered to Cardmembers in international markets as well.
American Express Centurion Bank ("Centurion Bank"), a wholly owned
subsidiary of TRS, issues Blue from American Express, Blue Cash from American
Express, the Optima Card, and all other American Express-branded revolving
credit cards in the United States. In addition, Centurion Bank has outstanding
lines of credit in association with certain Charge Cards and offers unsecured
loans to Cardmembers in connection with its Sign & Travel and Extended Payment
Option programs. Centurion Bank is also the issuer of certain Charge Cards in
the United States.
TRS continued to bolster its proprietary international Card business
through the launch of more than 80 new or enhanced Card products during 2003.
These are cards that American Express issues, either on its own or cobranded
with partnering institutions. They included Centurion cards in Mexico and Japan,
the International Dollar Platinum Card in 43 Latin American and Caribbean
markets, and several Gold Card products in markets including India, Japan and
Indonesia, as well as cards with premier partners like Holt Renfrew in Canada,
BMW in Australia and E-Plus in Germany.
TRS issues Cards under cobrand agreements with selected commercial firms
both in the United States and internationally. Examples of TRS' cobrand
arrangements include agreements with Indian Airlines, KLM, Holt Renfrew,
Aeroplan, a subsidiary of Air Canada, Peninsula Hotel (Hong Kong), AeroMexico,
Air France, Loyalty Management Group Canada, Inc. (Air Miles'r'*), Alitalia,
Delta Air Lines, British Airways, Costco, Hilton Hotels, Shop Rite Supermarkets,
Singapore Airlines and Starwood Hotels and Resorts. The duration of such
arrangements generally range from five to ten years. Cardmembers earn rewards
provided by the commercial firms' respective loyalty programs based upon their
spending on the cobrand cards, such as frequent flyer miles, hotel loyalty
points and rebates. TRS makes payments to its cobrand partners based primarily
on the amount of Cardmember spending and corresponding rewards earned on such
spending, and, under certain arrangements, on the number of accounts acquired
and retained. TRS expenses amounts due under cobrand arrangements in the month
earned. Payment terms vary by arrangement, but are monthly or quarterly. Once
TRS makes payment to the cobrand partner, as described above, the partner is
solely liable with respect to providing rewards to the Cardmember under the
cobrand partner's own loyalty program.
- ----------
* Trademark of AirMiles International Trading B.V. Used under license by Loyalty
Management Group Canada Inc. and American Express Bank of Canada.
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The Company also issues Cards under distribution arrangements with banks,
primarily outside the United States. Such bank distribution agreements involve
the offering of a standard Company product (issued by TRS or one of its
subsidiaries) to customers of the bank, generally with the bank's logo on the
Card. In a bank distribution arrangement, the Company makes payments to the bank
partners that are primarily based on the number of accounts acquired and
retained through the arrangement and the amount of Cardmember spending on such
Cards. The duration of such arrangements generally range from five to seven
years. During 2003, new distribution agreements were signed with MeesPierson
Asia Limited in Hong Kong, Phillips Securities in Singapore and ING Comercial
America in Mexico.
In addition to the payments to cobrand and bank partners referred to above,
the arrangements with such entities may contain other terms unique to the
arrangement with the partner, including an obligation on the part of TRS to make
payments under certain circumstances.
Many TRS Cardmembers, particularly Charge Card holders, are charged an
annual fee that varies based on the type of Card, the number of Cards for each
account, the currency in which the Card is denominated and the country of
residence of the Cardmember. Many revolving credit Cards are offered with no
annual fee. Each Cardmember must meet standards and criteria for
creditworthiness that are applied through a variety of means both at the time of
initial solicitation or application and on an ongoing basis during the Card
relationship. The Company uses sophisticated credit models and techniques in its
risk management operations and believes that its strong risk management
capabilities provide it with a competitive advantage.
Several products launched or renewed by TRS in the United States in the
last few years continued to make significant contributions to its results in
2003, including the American Express'r' Rewards Green and American Express'r'
Rewards Gold Cards for U.S. consumers. These Cards offer automatic enrollment in
the Membership Rewards program and double points for purchases at supermarkets,
gas stations, drugstores, and other everyday spend locations. Rewards-based
products not only drive higher spending, they also have very favorable economics
in terms of Cardmember attrition, credit and payment performance. These Cards
provide Cardmembers with enhanced opportunities to earn rewards and support TRS'
efforts to drive spending at everyday spend locations. Early in 2003, TRS
introduced Blue Cash from American Express for U.S. consumers. This Card, which
is in large part replacing the Company's Cash Rebate Card in the United States,
carries no annual fee and offers up to five percent cash back on certain types
of spending, based on a Cardmember's annual spending and payment activity.
During 2003, TRS also continued to expand its U.S. Membership Rewards
program - the largest program of its kind. TRS continued to add new Membership
Rewards partners in a range of industries, including Elizabeth Arden Red Door
Salons, Hyatt Hotels and Resorts, Telecharge.com, SeaWorld and Busch Gardens
Adventure Parks, Fortunoff and Escada. TRS also introduced a new offering called
Your Reward'r' that allows enrollees to create their own unique redemption
packages, as well as to select from a diverse menu of ready-made adventures and
experiences. TRS' Membership Rewards program continues to be an important driver
of
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Cardmember spending and loyalty. The Company believes, based on historical
experience, that Cardmembers enrolled in rewards and co-brand programs yield
higher spend, better retention, stronger credit performance and greater profit
for the Company.
As in the United States, rewards are a strong driver of Cardmember spending
in the international consumer business. In 2003, TRS continued to enhance its
rewards programs in several markets, offering richer and more flexible choices
that enable Cardmembers to earn points more quickly, including the launch in New
Zealand of the American Express Platinum Membership Rewards'sm' Credit Card
and the Rewards Maximiser Card in Australia. TRS also introduced a rewards
"Accelerator" program in ten markets that drives spending by enabling
Cardmembers to earn points faster.
When a Cardmember enrolled in the Membership Rewards program uses the Card,
TRS establishes reserves in connection with estimated future reward redemptions.
When a Membership Rewards program enrollee redeems a reward using the Membership
Rewards program points, TRS makes a payment to the Membership Rewards program
partner providing the reward pursuant to contractual arrangements. Due to higher
charge volumes and greater program participation and penetration, the expense of
Membership Rewards has increased over the past several years and continues to
grow. By offering a broader range of redemption choices, TRS has improved
customer satisfaction with the Membership Rewards program. TRS continually seeks
ways to contain the overall cost of the program and make changes to enhance its
value to Cardmembers.
Throughout the world, Cardmembers have access to a variety of free and
fee-based special services and programs, depending on the type of Card they have
and their country of residence. These include the Membership Rewards program,
Global Assist'r' Hotline, Buyer's Assurance Plan, Car Rental Loss and Damage
Insurance, Travel Accident Insurance, Purchase Protection Plan, Best Value
Guarantee, Emergency Card Replacement, Emergency Check Cashing Privileges,
Automatic Flight Insurance, Premium Baggage Protection, Assured Reservations,
Online Fraud Protection Guarantee, Credit Card Registry, Credit Bureau
Monitoring and Credit Insurance services. Certain Cards provide Cardmembers with
access to additional services, such as a Year-End Summary of Charges Report.
The Platinum Card, a charge card offered to consumers in the United States
and in virtually all other countries in which TRS issues Cards, provides access
to additional and enhanced travel, financial, insurance, personal assistance and
other services. The Centurion Card, which is offered by invitation to consumers
in the United States and five other countries, is an ultra-premium charge card
providing highly personalized customer service and an array of travel, lifestyle
and financial benefits. Personal, Gold, Platinum and Centurion Cardmembers
receive the Customer Relationship Statement, which is used to communicate
special offers for products and services of both merchants and the Company.
Over the past ten years, TRS has significantly expanded the number of
service establishments that accept TRS' card products as well as the kinds of
businesses that accept the Card. As discussed above, in recent years, TRS has
focused its efforts on increasing the use of
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its Cards for everyday spending. In 1990, 65% of all of TRS' U.S. billings came
from the travel and entertainment sectors and 35% came from retail and other
sectors. By 2003, that proportion was reversed, with retail and non-travel and
entertainment spending in the United States accounting for approximately 65% of
the business billed on American Express Cards. This shift resulted from the
growth, over time, in the types of merchants who began to accept charge and
credit cards in response to consumers' increased desire to use these cards for
more of their purchases, and TRS' focus on expanding Card acceptance to exploit
these opportunities. In recent years, this shift was important because of a
decrease in spending in travel and entertainment resulting from the overall
economic and political environment.
TRS continues to make significant investments, both in the United States
and internationally, in its card processing system and infrastructure to allow
faster introduction and greater customization of products. TRS also is using
technology to develop and improve its service capabilities in order to continue
to deliver a high quality customer experience. For example, TRS maintains a
service delivery platform that its employees use in the card business to support
a variety of customer servicing and account management activities such as
account maintenance, updating of Cardmember information, the addition of new
cards to an account and resolving customer satisfaction issues. In international
markets, TRS is building flexibility and enhancing its global platforms and
capabilities in revolving credit, its full service banking platform called
iWealthview, and consumer payment options. See "Corporate and Other" for a
description of the Company's arrangement regarding the outsourcing of many of
its technology operations to IBM.
The Company continued to leverage the Internet to lower costs and improve
service quality. During 2003, it expanded the number of services and
capabilities available to customers online and increased their utilization. For
example, within the United States, approximately 86% of the Company's card
servicing call volume can now be handled online. The Company now has more online
interactions with U.S. customers than it does by telephone or in person. Online
Card sales grew steadily in 2003 as well.
At year-end, approximately twelve million Cards were enrolled in "Manage
Your Card Account Service". This service enables Cardmembers to review and pay
their American Express bills electronically, view and service their Membership
Rewards program accounts and conduct various other functions quickly and
securely online. The Company now has an online presence in 55 markets.
In addition to its U.S. and international consumer Card businesses, TRS is
also a leading provider of financial and travel services to small businesses
(firms that generally have less than 100 employees and/or sales of $10 million
or less), a key growth area in the United States. OPEN: The Small Business
Network'sm' from American Express ("OPEN Network") offers small business owners
a wide range of tools, services and savings designed to meet their needs,
including charge and credit cards, access to working capital, expense management
reporting, enhanced online account management capabilities and savings on
business services from OPEN Network partners.
During 2003, TRS continued to expand the OPEN Network breadth of products
and
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services, including the introduction of the Business Cash Rebate Credit Card and
the Platinum Business Credit Card. TRS also expanded its ability to offer
line-of-credit products to U.S. small businesses through SBA Express, an
innovative federal loan program that enables TRS to offer lines of credit backed
by the U.S. Small Business Administration. During 2003, TRS introduced Online
Expense Management Reports, an online tool that helps small business owners
track and manage their business expenses, and Online Upgrades, which provides
Cardmembers a quick and convenient new way to upgrade their Accounts. The OPEN
Network also provides small business Cardmembers with the benefits of its
Everyday Savings program, which provides savings to Cardmembers when they use
their Cards to make purchases at program partners. Everyday Savings partners are
leaders in categories relevant to businesses, including car rental, document
reproduction, office supplies, shipping and wireless phones.
The American Express Consumer Travel Network provides travel, financial and
Cardmember services to consumers through American Express-owned travel service
offices, call centers and participating American Express Representatives
(independently-owned travel agency locations). Consumer Travel's vision and
strategy is to be the premium travel service provider of choice to American
Express Cardmembers. Consumer Travel markets unique travel products and services
in conjunction with the Card to provide an end-to-end experience. U.S. Consumer
Travel has distinguished itself in the luxury marketplace through its Platinum
Travel Services and Centurion Travel Services, which provide programs such as
the International Airline Program, which offers two-for-one fares on
international first and business class tickets, and the Fine Hotels & Resorts
program, a luxury hotel program offering room upgrades and value-added
amenities.
In addition, the Consumer Travel business operates a wholesale travel
business in the United States, which packages American Express Vacations and
distributes travel packages through other retail travel agents, and a cruise
subsidiary in the United States, which markets value-added cruise products
called the Mariner's Club. Consumer Travel also provides Membership Rewards
program cruise and tour fulfillment, fee-free Traveler's Cheques, and foreign
exchange.
TRS' worldwide travel network of more than 1,700 retail travel locations is
important in supporting the American Express brand and providing customer
service throughout the world.
TRS encounters substantial and increasingly intense competition with
respect to the Card-issuing business. As a card issuer, TRS competes in the
United States with financial institutions (such as Citibank, Bank One and
JPMorgan Chase (which announced their plans to merge), MBNA, and Capital One
Financial) that are members of VISA and/or MasterCard and that issue general
purpose cards, primarily under revolving credit plans, on one or both of those
systems, and the Morgan Stanley affiliate that issues the Discover Card on the
Discover Business Services network. Internationally, TRS is also subject to
competition from multinational banks, such as Citibank, HSBC and Banco
Santander, as well as many local banks and financial institutions. TRS also
encounters limited competition from businesses that issue their own cards or
otherwise extend credit to their customers, such as retailers and airline
associations, although these cards are not generally substitutes for TRS' Cards
because of their limited acceptance. As a result of continuing consolidations
among banking and financial services companies and credit
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card portfolio acquisitions by major card issuers, there are now a smaller
number of significant issuers and the largest issuers have continued to grow
using their greater resources, economies of scale and brand recognition to
compete.
Competing card issuers offer a variety of products and services to attract
cardholders including premium cards with enhanced services or lines of credit,
airline frequent flyer program mileage credits and other reward or rebate
programs, "teaser" promotional interest rates for both credit card acquisition
and balance transfers, and cobranded arrangements with partners that offer
benefits to cardholders. Target customers are segmented based on factors such as
financial needs and preferences, brand loyalty, interest in rewards programs and
creditworthiness, and specific products are tailored to specific customer
segments.
Most financial institutions that offer demand deposit accounts also issue
debit cards to permit depositors to access their funds. Use of debit cards for
point-of-sale purchases has grown as many financial institutions have replaced
ATM cards with general purpose debit cards bearing either the VISA or MasterCard
logo. As a result, the volume of transactions made with debit cards in the
United States has continued to increase significantly and, in the United States,
has grown more rapidly than credit and charge card transactions. Debit cards are
marketed as replacements for cash and checks, and transactions made with debit
cards are typically for small dollar amounts. While debit cards may be used
instead of credit and charge cards for certain kinds of transactions, the
ability to substitute debit cards for credit and charge cards is limited because
the consumer must have sufficient funds in his or her demand deposit account to
cover the transaction in question. For example, larger purchases or delayed
purchases may not be appropriate for debit cards. TRS does not currently issue
point-of-sale debit cards on the American Express merchant network.
The principal competitive factors that affect the Card-issuing business are
(i) the features and the quality of the services and products, including rewards
programs provided to Cardmembers; (ii) the number, spending characteristics and
credit performance of Cardmembers; (iii) the quantity and quality of the
establishments that accept a card; (iv) the cost of cards to Cardmembers; (v)
the terms of payment available to Cardmembers; (vi) the number and quality of
other payment instruments available to Cardmembers; (vii) the nature and quality
of expense management data capture and reporting capability; (viii) the success
of targeted marketing and promotional campaigns; (ix) reputation and brand
recognition; (x) the ability of issuers to implement operational and cost
efficiencies; and (xi) the quality of customer service.
American Express Credit Corporation, a wholly owned subsidiary of TRS,
along with its subsidiaries ("Credco"), purchases the majority of Charge Card
receivables arising from the use of Cards issued in the United States and in
designated currencies outside the United States. Credco finances the purchase of
receivables principally through the issuance of commercial paper and the sale of
medium- and long-term notes. Centurion Bank finances its revolving credit
receivables through the sale of short- and medium-term notes and certificates of
deposit in the United States. TRS and Centurion Bank also fund receivables
through asset securitization programs. The Company utilizes the gains from its
securitization activities to help fund certain marketing and promotion
activities. The cost of funding Cardmember receivables and loans is a major
expense of Card operations. (For a further discussion of TRS' and Centurion
Bank's
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securitization and other financing activities, see page 27, pages 37 through 38,
page 43, pages 44 through 47 and pages 53 through 57 under the caption
"Financial Review," and Note 4 on pages 88 through 90 of the Company's 2003
Annual Report to Shareholders, which portions of such report are incorporated
herein by reference.)
Centurion Bank's deposits are insured by the Federal Deposit Insurance
Corporation ("FDIC") for up to $100,000 per depositor. Centurion Bank is a
Utah-chartered industrial loan company regulated, supervised and regularly
examined by the Utah Department of Financial Institutions and the FDIC. Among
the activities of Centurion Bank that are regulated at the federal level are its
anti-money laundering compliance activities. The Company has taken steps to
maintain a compliance program consistent with applicable standards. For further
discussion of the anti-money laundering initiatives affecting the Company, see
"Corporate and Other" below. Centurion Bank is subject to the risk-based capital
adequacy requirements promulgated by the FDIC. Under these regulations, a bank
is deemed to be well capitalized if it maintains a tier one risk-based capital
ratio of at least 6%, a total risk-based capital ratio of at least 10%, and a
leverage ratio of at least 5%. As of December 31, 2003, AECB met the "well
capitalized" standard, with a tier one risk-based capital ratio of 9.00%, a
total risk-based capital ratio of 10.33%, and a leverage ratio of 11.55%.
American Express Bank, FSB ("AEBFSB") is a federal savings bank regulated
and supervised by the Office of Thrift Supervision ("OTS"). In December 2003,
AEBFSB and certain of its affiliates received OTS approval to, among other
things, transfer ownership of the federal savings bank from AEFA to TRS,
relocate its headquarters from Minneapolis, Minnesota to West Valley, Utah, and
amend its business plan to permit AEBFSB to offer certain credit, charge and
consumer lending products, small business loans, mortgages and mortgage-related
products and to operate a transactional Internet site. The implementation of the
changes to AEBFSB's business plan, which will provide more flexibility to the
Company, began in the first quarter of 2004 with the transfer of certain Card
accounts from Centurion Bank to AEBFSB. AEBFSB continues to provide personal
trust, custodial, agency and investment management services to individual
clients of AEFA. AEBFSB is registered with the SEC as an investment adviser.
AEBFSB is authorized to transact business in all 50 states and the District of
Columbia, and utilizes AEFA as its primary distribution channel for these
services.
The charge card, ATM and consumer lending businesses are subject to
extensive regulation in the United States, as well as in foreign jurisdictions.
In the United States, the business is subject to a number of federal laws and
regulations, including the Equal Credit Opportunity Act (which generally
prohibits discrimination in the granting and handling of credit); the Fair
Credit Reporting Act (which, among other things, regulates use by creditors of
consumer credit reports and credit prescreening practices and requires certain
disclosures when an application for credit is rejected); the Truth in Lending
Act (which, among other things, requires extensive disclosure of the terms upon
which credit is granted); the Fair Credit Billing Act (which, among other
things, regulates the manner that billing inquiries are handled and specifies
certain billing requirements); the Fair Credit and Charge Card Disclosure Act
(which mandates certain disclosures on credit and charge card applications); and
the Electronic Funds Transfer Act (which regulates disclosures and settlement of
transactions for electronic funds transfers including those at ATMs). Certain
federal privacy-related laws and regulations govern
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the collection and use of customer information by financial institutions (see
"Corporate and Other" below). Federal legislation also regulates abusive debt
collection practices. In addition, a number of states, the European Union, and
many foreign countries in which the Company operates have significant consumer
credit protection, disclosure and privacy-related laws (in certain cases more
stringent than the laws in the United States). The application of bankruptcy
and debtor relief laws affect the Company to the extent that such laws result
in amounts owed being classified as delinquent and/or charged off as
uncollectible. Card issuers and card networks are subject to anti-money
laundering and anti-terrorism legislation, including, in the United States,
the USA PATRIOT Act. (For a discussion of this legislation and its effect on the
Company's business see "Corporate and Other" below.) Centurion Bank, AEBFSB
and the Company's other bank entities are subject to a variety of laws and
regulations applicable to financial institutions. Changes in such laws and
regulations or in the regulatory application or judicial interpretation thereof
could impact the manner in which the Company conducts its business and the costs
of compliance. The regulatory environment in which the Company's Card and
lending businesses operate has become increasing complex and robust. The
Company regularly reviews and, as appropriate, refines its business practices
in light of existing and anticipated developments in laws, regulations and
industry trends so that it can continue to manage its business prudently and
consistent with regulatory requirements and expectations.
In January 2003, the Federal Financial Institutions Examination Council
(the "FFIEC"), an interagency body composed of the principal U.S. federal
entities that regulate banks and other financial institutions, issued in final
form its guidance on Credit Card Account Management and Loss Allowance Practices
(the "Guidance"). The Guidance covers five areas: (i) credit line management,
(ii) over-limit practices, (iii) minimum payment and negative amortization
practices, (iv) workout and forbearance practices, and (v) certain income (fee)
recognition and loss allowance practices. The Guidance is generally applicable
to all institutions under the supervision of the federal bank regulatory
agencies that comprise the FFIEC, although it is primarily the result of the
identification by bank regulators in their examinations of other credit card
lenders practices deemed by them to be inappropriate, particularly, but not
exclusively, with regard to subprime lending programs. The Company does not have
any lending programs that target the subprime market. The Guidance has not had
any material impact on the Company's businesses or practices and the Company
does not believe that the Guidance will have any material impact on its
practices in the future, nor does the Guidance mandate any changes to the
Company's practices.
Global Corporate Services
TRS' Global Corporate Services business ("GCS") helps companies around the
world better manage the costs and processes associated with a range of expenses,
including travel and entertainment and everyday business products and services.
GCS offers three primary products and services: Corporate Card, issued to
individuals through a corporate account established by their employer and
designed primarily for travel and entertainment spending; Corporate Purchasing
Solutions, an account established by a company to pay for everyday business
expenses such as office and computer supplies; and Corporate Travel, a large
corporate travel agency, which helps businesses manage their travel expenses
through a variety of travel-related products and services.
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The American Express'r' Corporate Card is a charge card issued to
individuals through a corporate account established by their employer for
business purposes. Through the Corporate Card program, companies can monitor
travel and entertainment expenses and improve negotiating leverage with
suppliers, among other benefits. American Express uses its direct relationships
with merchants that accept the Card to offer Corporate Card clients superior
data about company spending, as well as streamlined dispute resolution. American
Express issues local currency Corporate Cards in 37 countries (both through
proprietary operations and partner banks), and international dollar Corporate
Cards in other countries.
Corporate Purchasing Solutions ("CPS") provides large and middle market
companies with tools to better manage their everyday spending. CPS is used by
corporations to buy everyday goods and services, such as office supplies and
industrial supplies and equipment, in 24 markets around the world. This type of
spending by corporations is less susceptible to economic downturns than
traditional travel and entertainment spending and helps to diversify the
spending mix on the Company's Cards.
GCS is a leading provider of expense management services to global,
multinational and large businesses worldwide. GCS established the Global
Business Partnerships group which serves a highly select group of Fortune 100
companies that have globalized their approach to travel and entertainment
expense management and have structured their purchasing requirements in a global
manner to more effectively manage and optimize their investments in travel and
entertainment, as well as everyday corporate expenses.
In addition, GCS provides Corporate Card and travel expense management
services to middle market companies (defined in the United States as firms with
annual revenues of $10 million to $1 billion) in mature economies worldwide,
including the United States, Canada, the United Kingdom, France, Sweden,
Germany, Australia, Singapore and Mexico. GCS is focused on continuing to expand
its business with midsize companies and believes this market offers a strong
growth opportunity, as it encompasses a segment of customers that typically do
not have corporate card programs. In 2003, GCS invested in a wide range of
marketing programs and product enhancements, and added sales staff to generate
more Card and travel business with midsize firms. To enhance the card product
for midsize and certain large market firms in the United States, in 2003 GCS
expanded its Savings at Work'sm' program, which provides companies with
discounts on everyday products and services, such as office supplies, and a
range of business services.
During 2003, GCS added several major clients in the United States and
internationally for the Corporate Card, including Oracle, Merrill Lynch, Sony
Corporation of America and BearingPoint. Raytheon and Novartis became CPS
clients during the year.
In 2003, TRS announced a new partnership with American Airlines in the U.S.
Corporate Card business. The American Express Business ExtrAA Corporate Card, a
cobranded Card for midsize and certain large market companies, delivers savings
in the form of cash rebates on a company's airline spending, as well as bonus
points and discounts on everyday business spending. The new partnership with
American Airlines adds a new level of premium value to
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TRS' Corporate Card portfolio, providing a growth opportunity in attracting
and cultivating the loyalty of midsize companies. TRS also announced similar
cobrand issuing arrangements with Qantas Airways, KLM Royal Dutch Airlines and
Aeroplan, a wholly owned subsidiary of Air Canada.
With the increased focus on cost containment by firms, GCS has seen
significant growth over the past few years in the Corporate Meeting Card, which
helps U.S.-based companies control company meeting expenses. The Corporate
Meeting Card provides clients with a tool to capture such spending and provides
company meeting planners with a tool to simplify the meetings payment process
and access to data to negotiate with suppliers. GCS also launched the Corporate
Defined Expense Program in 2003. This product allows companies to set a maximum
amount to be charged on a Card before expiration and permits them to segregate
spending data for specific purposes on projects. It is designed for companies
that want to allocate funds for a specific purpose, such as employee relocations
or training.
In 2003, GCS expanded sales of American Express @ Work'r', a secure,
web-based suite of online tools that enables Corporate Card, CPS and Corporate
travel customers to perform account review and servicing and access management
reports on a 24/7 basis through a single user interface. This suite helps
companies manage expenses and manipulate spend data more efficiently than
offline alternatives, while decreasing the costs associated with servicing.
These products enable companies to review, combine and manipulate Corporate
Card, Corporate Travel and Corporate Purchasing Solutions data. One of the
products also allows companies to reconcile the data with its internal
accounting system.
Competition in the commercial card (Corporate Card and CPS) business is
increasingly intense at both the card network and card issuer levels. At the
network level, Diners Club remains a significant global competitor. In addition,
both VISA and MasterCard have increased efforts to support card issuers such as
U.S. Bank, JPMorgan Chase, GE Capital Financial Inc. and Citibank (in the United
States and globally), who are willing to build and support data collection and
reporting necessary to satisfy customer requirements. In the past few years,
MasterCard has promoted enhanced web-based support for its corporate card
issuing members, and VISA International supported the creation of a joint
venture by a number of its member banks from around the world to compete against
GCS and Diners Club for the business of multinational companies. The key
competitive factors in the commercial card business are, in addition to the
factors cited on page 16, (i) the ability to capture and deliver detailed
transaction data and expense management reports; (ii) the number and types of
businesses that accept the cards; (iii) pricing; (iv) the range and
innovativeness of products and services to suit business needs; (v) quality of
customer services; and (vi) global presence.
GCS also provides a wide variety of travel services to customers traveling
for business and is one of the world's largest corporate travel management
companies. American Express Corporate Travel provides travel reservation advice
and booking transaction processing; travel expense management policy
consultation; supplier negotiation and consultation; management information
reporting, data analysis and benchmarking; and group and incentive travel
services. Corporate Travel services customers in 37 key markets worldwide, of
which 31 are proprietary operations and six are managed through joint ventures.
In 2003, GCS was awarded the corporate
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travel business of companies including BearingPoint, British Telecom and the
French Government's Ministry of Defense.
In October 2003, the Company continued pursuing its growth strategy and
expanded its global reach by completing the acquisition of Rosenbluth
International, a corporate travel company that was the fifth-largest travel
management company in the United States. The Rosenbluth acquisition added nearly
400 servicing locations and, as of year-end, approximately 2,700 employees in
the United States, Canada, and the United Kingdom, as well as other strategic
markets in Europe, Asia and the Pacific Rim. The Company believes that the
Rosenbluth acquisition helps the Company expand an advantage over other
competitors and online travel agencies that do not offer similar worldwide
servicing capabilities. The Rosenbluth acquisition also has increased customer
volume in both the large and middle market segments and will enable the
continued development of a high quality product and services portfolio by
integrating the technology and customer solutions from both companies.
GCS continues to modify its economic model and invest in new technologies
to address ongoing travel industry challenges. For example, GCS has been
successful in its efforts to diminish its reliance on commission revenues from
suppliers, such as airlines or hotels, and now relies more on customers to pay
transaction or management fees for its travel services. In 2003, a smaller
portion of U.S. corporate travel revenues came from airlines, hotels, rental car
companies and other suppliers, and a majority came from customers. A few years
ago, that mix was the reverse. In addition, GCS has moved many of its business
processes and customer servicing for corporate travel online. Key initiatives
included the acceleration of the use of interactive travel processes in the
United States and other key markets, which streamlines processes, increases
productivity, enhances the quality of customer service and satisfaction and
improves overall GCS profitability. By the end of 2003, in the United States,
25% of all of GCS' corporate travel transactions were processed online, and
online penetration rates in the United Kingdom, Canada, Mexico and Australia
achieved levels within the 5% to 10% range.
The corporate travel division of GCS faces vigorous competition in the
United States and internationally from numerous traditional and online travel
management companies, as well as from direct sales by airlines and other travel
suppliers. Competition among travel management companies is mainly based on
price, service, convenience, global capabilities and proximity to the customer.
In addition, competition comes from corporate customers themselves, as some
companies have become accredited as in-house corporate travel agents.
In 2003, several U.S.-based online travel agencies strategically expanded
their offerings and marketing efforts beyond their traditional target customer
set, which had formerly been primarily the leisure traveler, with increasing
focus on small or middle market companies in the United States. Orbitz, Expedia
and Travelocity have all begun to pursue midsized and larger corporate travel
customers in North America. While the majority of the online agencies' efforts
to penetrate the managed corporate travel sector has to date occurred in the
United States, it is likely that these efforts will be expanded to Canada, the
United Kingdom and other mature European markets in 2004. Competition for these
larger corporate travel customers will intensify as a result of these efforts.
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Airlines have continued their efforts to reduce distribution expenses.
Following the industry-wide action in March 2002 when U.S. airlines and some
international carriers announced they would no longer pay "base" commissions to
travel agents for tickets sold in the United States and Canada on all domestic
and international travel, airlines in other markets followed suit. During late
2002 and throughout 2003, in the United Kingdom, Scandinavia, the Netherlands,
Australia, Mexico, Brazil, and some Asia Pacific countries, the leading market
airline has discontinued or drastically reduced base commission payments to
travel agencies. Similar actions are expected in France and Germany in 2004.
The impact in 2003 of global macro events, including the continued
worldwide economic uncertainty, the war in Iraq, fear of terrorism and other
geopolitical uncertainty and SARS, adversely impacted the travel industry and
caused some travel agencies to go out of business and encouraged others to seek
consolidation opportunities. For example, the North American Airlines Reporting
Corporation ("ARC") reported 13% fewer ARC-accredited agencies operating in
North America in 2003 versus the number of agencies in 2002.
This year also saw the continued rise in popularity, relevance and
profitability of the low-cost air carrier segment in the United States, Europe
and Asia, including the successful launch of several new low-cost carriers, some
of which are subsidiaries of financially troubled U.S. "mainline" carriers.
While this segment has focused in the past primarily on leisure travelers, 2003
saw a continued rise in the number and percentage of business travelers using
these low-cost airlines.
Until the last few years, GCS had received commissions and fees for
ticketing and reservations from airlines and other travel suppliers, and
management and transaction fees from corporate travel customers. The ongoing
trends of airline alliances, airline websites permitting travelers to book
business directly and ongoing rate reductions in airline commissions continue to
reduce revenue for travel companies and raise costs for travelers. In 2003, GCS
announced its TravelBahn'r' Distribution Solution in North America, a
proprietary distribution network alternative that provides access to best
airline inventory and fares for American Express Corporate Travel customers with
a number of carriers. The Company continues its negotiations with additional
airline carriers to finalize similar distribution agreements.
In response to the changing operating environment and the accelerated
fluidity in airline and hotel pricing caused by unsteady capacity and demand,
GCS has consulted with customers regarding the growing need to develop new, more
fluid purchasing models. These new models attempt to utilize negotiated annual
corporate fares for airline and hotel inventory often on short notice or on a
last-minute basis. Late in 2003, GCS launched the PreferredExtras'sm' Hotel
Program, designed to guarantee North American corporate travel customers the
lowest available hotel rates at 1,400 locations globally among a select
portfolio of preferred hotel partners.
GCS, through its Consumer Travel International and Foreign Exchange
Services Group ("CTI & FES"), provides leisure travel services outside the
United States and retail and wholesale currency exchange and Cardmember services
worldwide through a global retail network of American Express-owned and
franchised offices. The division experienced material
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volume decreases due to the war in Iraq, the impact of the SARS virus on global
travel volumes and the fear of terrorism, all of which were particularly
detrimental to leisure travel spending.
CTI & FES expanded its retail presence in the airports with new signings at
New Delhi, Newark and Munich airports, and with contract expansions or
extensions at Rio de Janeiro, Mexico City and Sao Paolo airports. CTI & FES also
provides electronic funds transfer services, primarily in the United States,
Canada, the United Kingdom and Australia. These services offer small and midsize
businesses an Internet-based solution to transfer, record and track payments to
international suppliers and banks. CTI & FES also offers wholesale currency
services to financial institutions and key corporate clients from its
distribution and processing centers in the United Kingdom and Australia.
In retail consumer travel, the group significantly expanded its number of
retail locations in Australia and China through large partner franchise
agreements in those markets. Membership Travel Services ("MTS") provides Card,
travel and lifestyle servicing to the Company's premium Cardmembers, including
Gold, Platinum and Centurion Cardmembers outside the United States, with the
majority of operations in the United Kingdom, France, Italy, Germany, Spain,
Belgium, Japan, Australia, Hong Kong, Singapore and Mexico. In 2003, MTS focused
on rationalizing its customer servicing platforms and standardizing its service
delivery, as well as investing in exclusive Cardmember benefits for travel,
entertainment, recreation and dining offers through a network of preferred
suppliers.
Global Travelers Cheques and Prepaid Services
The Company, through its Global Travelers Cheques and Prepaid Services
Group ("TCPS"), is a leading issuer of travelers checks. In 2001, the Company
made the decision to stop offering Money Order and Official Check products and
will be fully exited from this business by August 2004. The Company will,
however, continue to honor all previously issued and sold Money Orders and
Official Checks. TCPS also offers the TravelFunds Direct'r' service, which
provides direct delivery of foreign bank notes and Travelers Cheques in selected
markets.
The American Express Travelers Cheque ("Travelers Cheque" or "Cheque") is
sold as a safe and convenient alternative to currency. The Travelers Cheque is a
negotiable instrument, has no expiration date and is payable by the issuer in
the currency of issuance when presented for the purchase of goods and services
or for redemption. During 2003, TCPS launched a new Travelers Cheque product in
Russia and Argentina, the American Express Cheque - Secure Funds. This product
offers the same functionality and security as a Travelers Cheque and addresses
consumers' desire to keep extra funds available at home. Gift Cheques, another
type of travelers check, are used for gift-giving purposes.
Travelers Cheques are issued in eight currencies, including a
Euro-denominated Travelers Cheque, both directly by the Company and through a
joint venture company in which the Company holds an equity interest. American
Express Cheque - Secure Funds is issued in two currencies, U.S. dollars and
Euros. Gift Cheques are issued in U.S. dollars and Canadian dollars.
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American Express Travelers Cheques are sold through a broad network of
selling outlets worldwide, including travel offices of the Company, its
affiliates and representatives; travel agents; commercial banks; savings banks;
savings and loan associations; credit unions; and other financial, travel and
commercial businesses. The Company sometimes compensates selling outlets for
their sale of Travelers Cheques.
Arrangements with sellers continue to be critical to TCPS' expansion of its
sales distribution network. In 2003, TCPS gained a number of new distributors,
including AARP in the United States, TUI in Germany, Aeromexico in Mexico and
the Thomas Cook UK Limited website. In addition, the Company's sale of Travelers
Cheques and Gift Cheques over the Internet continued to grow.
TCPS has also grown its prepaid card business. In 2003, TCPS introduced the
TravelFunds'sm' Card ("TFC"), a prepaid, reloadable travel money card. The TFC
is available in U.S. Dollars, British Pounds Sterling and Euros, and can be used
worldwide at all merchants and ATMs that accept the American Express Card. The
TFC offers the same customer service and security of the Travelers Cheque,
including passport and credit card replacement assistance. The group also
continued to expand the distribution channels for prepaid products with the
addition of retail, airline, car rental, hotel and travel agency sellers, as
well as postal services in Australia, Canada and the United States. In 2003,
TCPS also continued to offer two prepaid gift products, the American Express
Gift Card, which can be used at retail as well as restaurant establishments that
accept American Express Cards, and the Be My Guest'r' Card, specifically
designed for restaurant dining. TCPS is continually evaluating additional
prepaid products to offer a variety of consumer segments.
During the year, overall Travelers Cheque sales (including TFC sales)
decreased 13.7% globally, and consumer Gift Product sales (including sales of
paper Gift Cheques and Gift Cards) increased 28%. Gift Cheque growth, which is
off a much lower base than Travelers Cheques, is primarily the result of new
advertising and marketing programs. The lag in Travelers Cheque sales was
primarily driven by the continuing global economic slowdown, the loss of the AAA
account and by increasing competition from other forms of payment (including the
convenient access to cash through ATMs).
The proceeds from sales of Travelers Cheques and prepaid cards issued by
TRS are invested predominantly in highly rated debt securities consisting
primarily of intermediate- and long-term state and municipal obligations.
Issuers of travelers checks are regulated in the United States under most
states' "money transmitter" laws. Some states also regulate issuers of prepaid
cards in the same manner. These laws require travelers check (and, where
applicable, prepaid card) issuers to obtain licenses, to meet certain safety and
soundness criteria, to hold outstanding proceeds of sale in highly rated and
secure investments, and to provide detailed reports. Many states audit licensees
annually. In addition, travelers check issuers are required to comply with state
unclaimed and abandoned property laws. The U.S. state laws require issuers to
pay to states the face amount of any travelers check that is uncashed or
unredeemed after 15 years. A few states have amended their abandoned property
laws to apply to prepaid cards. On December 31, 2001, new federal anti-
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money laundering regulations became effective. These regulations required, among
other things, the registration of traveler check issuers as "Money Service
Businesses" and compliance with anti-money laundering recording and reporting
requirements by issuers and selling outlets. At this time, stored value issuers
and redeemers, while considered to be "Money Service Businesses", are not
required to register. Outside the United States, there are varying anti-money
laundering requirements, including some that are similar to those in the United
States.
Travelers Cheques compete with a wide variety of financial payment
products. Consumers may choose to use their credit or charge cards when they
travel instead of carrying Travelers Cheques, although a Travelers Cheque would
not typically be an acceptable substitute for most transactions made with credit
or charge cards. Other payment mechanisms that might substitute for Travelers
Cheques include cash, checks, other brands of travelers checks, debit cards and
cards accepted at ATM networks. The principal competitive factors affecting the
travelers check industry are (i) the availability to the consumer of other forms
of payment; (ii) the amount of the fee charged to the consumer; (iii) the
availability and acceptability of travelers checks throughout the world; (iv)
the compensation paid to, and frequency of settlement by, selling outlets; (v)
the accessibility of travelers check sales and refunds; (vi) the success of
marketing and promotional campaigns; and (vii) the ability to service the check
purchaser satisfactorily if the checks are lost or stolen.
Other Products and Services
Interactive Enterprise Development ("IED") leverages interactive
technologies to develop new businesses and enhance existing businesses. IED
leads and coordinates the deployment of the Company's enterprise-wide
interactive strategy with a focus on providing Internet and interactive
capabilities to meet customer needs.
American Express Tax and Business Services Inc. ("TBS") is a tax,
accounting, consulting and business advisory firm that primarily provides
services to small and middle market companies. TBS delivers a wide range of
services, including tax planning and accounting, litigation support, business
reorganization, business management advisory, business technology, internal
audit outsourcing and other accounting, advisory and consulting services. TBS is
not licensed to practice public accounting, but employs certified public
accountants who deliver, along with professionals, the non-attest services
described above. TBS has a continuing professional services relationship with
several independent, licensed public accounting firms to which it leases
personnel. These public accounting firms offer attest services to their clients.
TBS has more than 50 offices in 17 states with approximately 2,700 employees.
TRS, through American Express Publishing, also publishes luxury lifestyle
magazines such as Travel+Leisure'r', T+L Family, a supplement to Travel+Leisure,
T+L Golf'r', Food & Wine'r' and Departures'r'; travel resources such as
SkyGuide'r'; business resources such as the American Express Appointment Book,
Fortune Small Business magazine and SkyGuide Executive Travel, a business
traveler supplement; a variety of general interest, cooking, travel, wine,
financial and time management books; branded membership services; a growing
roster of international magazine editions; as well as directly sold and licensed
products. American Express Publishing also has a custom publishing group and is
expanding its service-driven
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websites such as: travelandleisure.com, foodandwine.com, departures.com,
tlgolf.com, tlfamily.com and skyguide.net.
AMERICAN EXPRESS FINANCIAL ADVISORS
The Company, through its American Express Financial Advisors operating
segment ("AEFA"), makes available a variety of financial products and services
to help individuals, businesses and institutions establish and achieve their
financial goals. Financial planning is at the core of AEFA's business, which
helps clients meet their long-term financial goals. The AEFA operating segment
principally includes American Express Financial Corporation ("AEFC") and its
subsidiaries and affiliates described below. AEFA's business consists of three
principal components: Retail Distribution, Asset Management and Insurance and
Annuities.
Retail Distribution
AEFA strives to help clients achieve their financial objectives prudently
and thoughtfully through a long term relationship based on trusted,
knowledgeable advice. AEFA's financial advisors work with retail clients to
develop strong relationships and long-term financial strategies. AEFA's
financial advisors also provide each client access to a broad array of
proprietary and non-proprietary product and service solutions to meet their
individual needs, including annuities; a variety of insurance products,
including life insurance, disability income insurance, long term care insurance,
and property and casualty insurance; a variety of investment products, including
investment certificates and mutual funds; investment services, including wrap
programs; a variety of tax-qualified products, including individual retirement
accounts, employer-sponsored retirement plans and Section 529 college savings
plans; personal trust services; and retail securities brokerage. AEFA also
offers online direct brokerage services.
Sales Force
At December 31, 2003, AEFA maintained a nationwide field sales force of
over 12,100 financial advisors, which represented a 4% increase over 2002
and served more than 2.5 million clients throughout the United States.
AEFA's organizational structure provides advisors several choices in how they
affiliate with the organization, each having separate levels of service and
compensation. The employee advisor platform provides compensation as a draw
against commission. The employee advisors receive a higher level of support in
exchange for a lower payout rate. In the branded independent franchisee advisor
platform, advisors earn a higher payout rate, but cover their own expenses,
including real estate and staff. AEFA also operates a non-American Express
branded independent platform, Securities America, Inc., a broker-dealer owned by
AEFC. Securities America distributes mutual funds, annuities and insurance
products, as well as individual securities and wrap products.
Approximately 25% of AEFA's financial advisors are American Express
employees; approximately 62% are American Express-branded franchisees; and
approximately 13% are in the unbranded platform. As discussed below, AEFA
receives a variety of fees and expenses in connection with the products sold by
its financial advisors. In turn, AEFA pays a significant portion of the revenue
received in the form of sales charges and 12b-1 distribution fees to
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advisors for their role in serving clients. The rate of commission paid to each
advisor is determined by a schedule that takes into account the type of product
sold, the manner in which the advisor is affiliated with AEFA (as discussed
above) and other criteria.
During 2003, AEFA continued to focus on improved recruiting and selection
of employee advisors to drive higher retention of first year advisors. AEFA
further improved the service and tools provided to franchisee advisors. AEFA
also continued efforts to increase the size of its dedicated field force to
further enhance its ability to attract and serve new clients and to compete
effectively with the large sales forces of certain competitors. In attracting
and retaining members of the field force, AEFA competes with financial planning
firms, insurance companies, securities broker-dealers and other financial
institutions.
Financial Planning
AEFA's financial planning services are intended to help clients meet
important financial goals, such as providing an education to their children,
purchasing a home and providing for their retirement years. The financial
planning process generally begins with a written analysis and plan based on the
client's personal information, goals and needs. Advisors typically recommend a
range of proprietary and non-proprietary financial products and services based
on such plan and work with the client to obtain such products and services for
the client's account.
For its financial planning services, AEFA generally receives fees based
upon the services that the client selects and the complexity of the client's
financial situation. Clients may be charged a flat fee, an hourly rate or a
combination of the two. The fee is not based on or related to the performance of
a client's funds or assets. Depending on what is most appropriate for their
situation, clients may select a limited engagement period or may elect to
receive ongoing financial planning services from their American Express
financial advisor. The fees paid in connection with financial planning services
are separate from and in addition to fees paid for any financial products and
services purchased from or through AEFA or its affiliates.
AEFA achieved record financial planning sales and fee revenue in 2003. Plan
sales increased by 13% and fees from financial plans and other fee-based advice
increased by 6% over 2002. During 2003, nearly 51% of new retail clients had a
financial plan developed for them by an AEFA advisor, up 4% from 2002. As has
been the case historically, clients with plans tend to buy more products. On
average, they own almost three times as many accounts as non-planning clients
and have more than twice as much cash invested with AEFA. In 2003, product sales
generated through financial planning services were 75% of total advisor sales,
an increase of 2% over 2002. Also in 2003, AEFA reached a significant milestone,
exceeding one million current clients with a financial plan.
AEFA continues to invest in the development of tools and training for its
advisors to further strengthen its ability to offer sound advice and ongoing
financial planning services. In December 2002, AEFA contracted with Morningstar
Associates, LLC to provide investment advice tools that serve both retail and
workplace markets. As a complement to AEFA's own proprietary suite of financial
planning tools, the Morningstar'r' tools are intended to enable advisors to meet
the ongoing financial and investment planning needs of more affluent clients.
AEFA launched the research and illustration features of these tools in November
2003.
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Brokerage Services
AEFA has taken steps to integrate its direct retail distribution channel
with the advisor channel. AEFA's online brokerage business, American Express
Brokerage, allows clients to purchase and sell securities online, obtain
research and information about a wide variety of securities, use self-directed
asset allocation and financial planning tools, contact an advisor, as well as
have access to more than 3,000 proprietary and non-proprietary mutual funds,
among other services.
AEFA's American Express One'r' Financial Account is an integrated financial
management account that combines clients' investment, banking and lending
relationships into a single account. The American Express One Financial Account
enables clients to access a single cash account to fund a variety of financial
transactions, including investments in mutual funds and other securities.
Additional features of the American Express One Financial Account include
unlimited check writing with overdraft protection, an American Express Gold
Card, online bill payments, ATM access and a high-yield savings account.
In 2003, AEFA launched an incentive program that pays Membership Rewards'r'
program Bonus Points and American Express Gift Cheques to persons opening and
funding an American Express One Financial Account and who then take additional
steps to transfer funds into the account on an ongoing basis through direct
deposit or bank authorization.
AEFA also launched its Financial Accounts data aggregation service, which
is an online capability that enables clients to view and manage their entire
American Express relationship (i.e., brokerage, Card, 401(k), banking, financial
advisor) in one place via the Internet. The Financial Accounts Service also
allows clients to add third party account information, providing a consolidated
view of their financial services account relationships.
In recent years, AEFA has increased its sale of non-proprietary products,
particularly mutual funds, to meet the demands of clients for a broader choice
of investment products. During the past year, AEFA created the Select Group
Program for mutual funds. As of year end 2003, this program consisted of twelve
fund families, including American Express Funds, offering more than 700 mutual
funds. Fund families are selected to participate in the Select Group Program
based on several criteria including brand recognition, product breadth,
investment performance and training and wholesaling support. In exchange for
certain benefits, such as broader access to American Express financial advisors,
fund families in the Select Group Program are required to pay AEFA for
participation in the program by sharing with AEFA a portion of the revenue
generated from the sales and ongoing management of fund shares. AEFA may also
receive payment from other non-proprietary fund families whose products are
available through American Express financial advisors and online brokerage. AEFA
also receives administrative services fees from most funds sold through its
distribution network. Sales of non-proprietary products on a stand-alone basis
generally are less profitable than proprietary sales.
In addition to purchases of non-proprietary products on a stand-alone
basis, clients may purchase mutual funds in connection with fee-based programs
or services and pay a fee based on a percentage of assets. One such program
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sponsored by AEFA is American Express'r' Strategic Portfolio Service Advantage,
a non-discretionary wrap program for investments in proprietary and
non-proprietary mutual funds and individual securities built around
asset-allocation strategies. A substantial portion of AEFA's non-proprietary
mutual fund sales are made in these programs, and they tend to be more
profitable than the sale of non-proprietary mutual funds alone.
During 2003, AEFA launched American Express'r' Premier Portfolio Services
("Premier"), a service that allows customers to receive consolidated reporting
and information on one or more fee-based accounts. The fee-based accounts
available in Premier include non-discretionary brokerage accounts, for which
clients pay a flat asset-based fee in lieu of individual commissions on
transactions executed in mutual funds and individual securities. Also available
in Premier is the Separately Managed Account Program, a wrap fee program in
which clients select one or more professional investment managers to provide
discretionary asset management services. Clients in American Express'r' Wealth
Management Service ("WMS"), another professionally managed discretionary wrap
service sponsored by AEFA that is being discontinued, have been given the option
to transition to the Separately Managed Account Program within Premier.
AEFA financial advisors also sell real estate investment trusts sponsored
by other companies. AEFA also services, but does not sell, managed futures
limited partnerships in which an AEFC subsidiary is a co-general partner, which
subjects AEFA and its affiliated co-general partner to regulation by the CFTC.
Additional Capabilities
In 2003, AEFA continued to expand its securities brokerage services.
American Enterprise Investment Services Inc. ("AEIS"), a wholly owned subsidiary
of AEFC, provides securities execution and clearance services for retail and
institutional clients of AEFA. As of December 31, 2003, AEIS held over $60
billion in assets for clients, an increase of $18 billion from December 31,
2002. AEIS is registered as a broker-dealer with the SEC, is a member of the
National Association of Securities Dealers, Inc. ("NASD") and the Chicago Stock
Exchange and is registered with appropriate states.
American Express Financial Advisors Inc. ("AEFAI"), AEFC's principal
marketing subsidiary, does business as a broker-dealer and investment adviser in
all 50 states and the District of Columbia. AEFAI is registered as a
broker-dealer and investment advisor regulated by the SEC and is a member of the
NASD. AEFA's financial advisors must obtain all required state and NASD licenses
and registrations.
AEFA also acts as custodian and broker for Individual Retirement Accounts,
Tax-Sheltered Custodial Accounts and other retirement plans for individuals and
small and mid-sized businesses. As of December 31, 2003, these tax-qualified
assets equaled $77.5 billion, which is in excess of 21% of total institutional
and retail assets owned, managed and administered by AEFA.
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AEFA is the primary distribution channel for The Personal Trust Services
Division ("PTS") of American Express Bank, FSB ("AEBFSB"), which provides
personal trust, custodial, agency and investment management services to
individual clients. AEBFSB is a federal savings bank regulated and supervised by
the Office of Thrift Supervision (the "OTS") and registered with the SEC as an
investment adviser. As disclosed above (in "Travel Related Services") in
December, 2003, AEBFSB and certain of its affiliates received OTS approval to
amend its business plan to permit it to offer certain credit, charge and
consumer lending products, small business loans, mortgages and mortgage-related
products and to operate a transactional Internet site.
Business Development
Consistent with the Company's goal of leveraging business development
across all of its units, AEFA continues to increase its sales to customers from
other American Express businesses. AEFA's Financial Education and Planning
Services ("FEPS") group provides workplace financial education and advisory
services programs to the 401(k) client base of American Express Retirement
Services ("AERS") and American Express Trust Company and to other major
corporations and small businesses. Focused on the goal of creating advisor
relationships with individual employees of client companies, FEPS trains and
supports advisors working on-site at company locations presenting educational
seminars, conducting one-on-one meetings and participating in company
educational events. In 2003, AEFA expanded its on-site activities with 401(k)
clients and had significant increases in sales of financial education
relationships to companies that do not have a 401(k) relationship with AERS.
During 2003, AEFA also provided financial advice service offerings tailored
to discrete employee segments, such as FEPS Executive Financial Services. The
growth and success of FEPS is consistent with industry research and AEFA's
belief that marketplace demand for employee financial education is expected to
remain high, particularly given the continuing trend toward increased employee
responsibility for selecting retirement investments. As this service need grows,
so too does the number of competitors seeking to provide employee education and
planning services.
In 2003, AEFA continued to leverage other American Express relationships
with major companies to create alliances that help generate new financial
services clients. AEFA continued its relationship with Costco Wholesale in 2003.
The Costco Wholesale/AEFA relationship offers advisors an opportunity to market
financial planning and advice services to millions of Costco Wholesale members,
through various marketing channels. In 2003, AEFA entered into a new marketing
alliance with Delta Air Lines. The Delta/AEFA marketing alliance provides AEFA
with the opportunity to market to the millions of consumers who have a
relationship with Delta through its Delta SkyMiles'r' program, including those
consumers who already carry the cobranded American Express/Delta SkyMiles credit
card. AEFA also has a marketing agreement with Sallie Mae, Inc., the educational
loan company. The agreement, which was executed in July 2003, allows Sallie Mae
customers to take advantage of special financial advice and product offerings
through AEFA Internet, e-mail, direct mail and newsletter promotions.
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The Internet also continues to be an important and cost effective tool for
acquiring new customers. Advisor leads are generated via the Internet at a
substantially reduced cost versus alternative channels. Additionally, the
Internet continues to represent an important vehicle for customer service across
all channels of distribution.
Competitive Environment
Competition in the financial services industry focuses primarily on cost,
investment performance, yield, convenience, service, reliability, safety,
innovation, distribution systems, reputation and brand recognition. Also,
reputation and brand integrity are becoming increasingly more important as the
mutual fund industry generally and certain firms in particular have come under
regulatory and media scrutiny. See " - Regulation of Retail Distribution and
Asset Management" below. Competition in this industry is very intense. AEFA
competes with a variety of financial institutions such as banks, securities
brokers, mutual funds and insurance companies. Some of these institutions are
larger, have greater resources and are more global than AEFA. Many of these
financial institutions also have products and services that increasingly cross
over the traditional lines that previously differentiated one type of
institution from another, thereby heightening competition for AEFA. The ability
of certain financial institutions to offer online investment and information
services has also affected the competitive landscape over the past few years.
AEFA believes that its focus on financial planning and advice, coupled with
an ability to provide broad-based products and services on a relationship basis,
is a competitive advantage. Management believes this business model is more
relevant today than in the past as a result of the significant market volatility
experienced during the past few years.
Unlike many of AEFA's competitors, whose field forces typically comprise
brokers who focus on completing transactions, many of AEFA's advisors are
Certified Financial Planner'r'* practitioners who work closely with clients to
develop long-term financial plans. AEFA believes that this has contributed to an
annual client retention rate that exceeds 94%. Many major brokerage firms are
attempting to move away from their historical transaction orientation and toward
financial planning and advice, AEFA's historical focus and longstanding
strength.
AEFA's business does not, as a whole, experience significant seasonal
fluctuations.
Asset Management
AEFA's asset management business offers a range of products and services,
including investment management services for fixed income, equity and
international investment strategies. AEFA affiliates provide asset management
and related services to two major groups of retail investment products, the AXP
Funds, American Express's family of proprietary mutual funds, and American
Express Certificate Company, an issuer of face amount investment certificates.
Additionally, AEFA provides asset management products and services to its
insurance companies' general and separate accounts. The separate accounts are
organized as unit investment trusts, which in turn invest in various proprietary
and non-proprietary registered
- ----------
* Registered trademark of Certified Financial Planner Board of Standards Inc.
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investment companies. AEFA's asset management business provides investment
management services to the proprietary registered investment companies that
include the VP Funds, a part of the AXP Fund family, IDS Life Series Funds, Inc.
and Funds A & B. For institutional customers, AEFA offers services such as
separate account asset management, institutional trust and custody, and employee
benefit plan administration as well as investment products, such as hedge funds.
In 2003, one of AEFA's goals was to increase the competitiveness of its
proprietary products and services for both retail and institutional customers.
In furtherance of this goal AEFA took several steps to strengthen its asset
management capabilities and investment management performance, including:
o The acquisition of Threadneedle Asset Management Holdings Ltd.
("Threadneedle"), a group based in London that manages assets for
insurance companies, private investors, corporations, investment
funds, pension plans, and affiliated companies of Zurich
Financial Services Group, the party from which Threadneedle was
acquired;
o The reorganization of its fixed income investment management
staff into teams responsible for portfolio management and
trading, and teams responsible for research for investment grade
corporate bonds, high yield bonds, and cash; and
o The announcement of plans to merge several equity mutual funds in
2004.
Overall, despite some weaker than targeted performance in some of AEFA's
equity funds in 2003, AEFA has made substantial improvements in investment
performance over the past few years. Nonetheless, AEFA recognizes the need to
continue to build on this progress in order to increase its competitiveness in
the industry.
AEFA's investment management business benefited in 2003 from an increase in
management fees resulting from higher average assets under management,
reflecting the Threadneedle acquisition. Since most fees that AEFA receives for
asset management services are based on assets under management, market
appreciation results in increased revenues, and inversely, market depreciation
will depress AEFA's revenues.
Mutual Funds
AEFA offers a variety of proprietary mutual funds, for which AEFAI acts as
principal underwriter (distributor of shares). AEFA mutual funds are distributed
exclusively by AEFA advisors and through the retirement services and insurance
third party distribution businesses discussed below. AEFC acts as investment
manager for the funds, and AEFC and its affiliates perform various
administrative services for the funds. As of December 31, 2003, the AXP Funds
consisted of 64 retail mutual funds, of which six were launched in 2003, with
varied investment objectives. The AXP Funds, with combined assets at December
31, 2003, of $68.8 billion, were the 29th largest mutual fund family in the
United States and, excluding money market funds, were the 17th largest. The VP
Funds consist of 22 variable product portfolios (including three
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portfolios that were added in early 2004) that offer a variety of investment
strategies including cash management, fixed income and domestic and
international equity. The VP Funds had combined assets at December 31, 2003, of
$15.7 billion.
Late in 2003, Threadneedle personnel, as associated persons of American
Express Asset Management International, Inc., assumed responsibility for several
of AEFA's international equity portfolios, including several of the AXP and VP
Funds. In a continuing effort to improve its line of mutual fund products, AEFA
proposed to the boards of directors of the AXP Funds that several funds be
merged. Subsequent to year-end, the fund boards approved the proposed mergers
and recommended that they be put to vote of the funds' respective shareholders,
which is expected to occur in the second quarter of 2004.
AEFC earns management fees for managing the assets of the AXP Funds based
on the underlying asset values. Most of the proprietary equity mutual funds have
a performance incentive adjustment ("PIA"). This PIA adjusts the level of
management fees received, both upward and downward, based on the specific fund's
relative performance as measured against a designated external index of peers.
AEFA earns fees for distributing the AXP Funds through point-of-sale fees (sales
charges or loads) and distribution fees (12b-1 fees) based on a percentage of
assets.
The AXP Funds are sold in multiple classes. For most funds, shares are sold
in four classes - A, B, C and Y. Index fund shares are sold in two classes - D
and E. Class A shares are sold at net asset value plus any applicable sales
charge. The maximum sales charge is 5.75% for equity funds and 4.75% for income
funds, with reduced sales charges for larger purchases. The sales charge may be
waived for certain purchases, including those made through an investment product
sponsored by AEFAI or another authorized financial intermediary. Class B shares
are sold with a contingent deferred sales charge or back-end load. The maximum
deferred sales charge is 5%, declining to no charge for shares held more than
six years. Class C shares do not have a front-end sales charge. A 1% contingent
deferred sales charge may apply to shares redeemed less than one year after
purchase. Class Y shares are primarily sold to institutional clients with no
load. There are two index funds, which are sold in two no-load classes. Class D
shares are sold with a 0.25% fee for distribution services, but without a sales
charge, through an investment product sponsored by AEFAI or another authorized
financial institution. Class E shares are sold without a sales or distribution
fee through American Express brokerage accounts and qualifying institutional
accounts.
Face-Amount Certificates
American Express Certificate Company ("AECC"), a wholly owned subsidiary of
AEFC, issues face-amount certificates. AECC is registered as an investment
company under the Investment Company Act of 1940. AECC currently issues nine
types of face-amount certificates. Owners of AECC certificates are entitled to
receive, at maturity, a stated amount of money equal to the aggregate
investments in the certificate plus interest at rates declared from time to time
by AECC. In addition, persons owning three types of certificates may have their
interest calculated in whole or in part based on any upward movement in a
broad-based stock market index up to a variable maximum return. The certificates
issued by AECC are not insured
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by any government agency. AEFC acts as investment manager for AECC. Certificates
are sold by AEFA's field force. American Express Bank also markets AECC
certificates.
AECC believes it is the largest issuer of face-amount certificates in the
United States. At December 31, 2003, it had approximately $5.3 billion in
assets. AECC's certificates compete with many other investments offered by
banks, savings and loan associations, credit unions, mutual funds, insurance
companies and similar financial institutions, which may be viewed by potential
customers as offering a comparable or superior combination of safety and return
on investment. In times of weak performance in the equity markets, certificate
sales are generally stronger.
AEFC also operates a joint venture in the Cayman Islands with its
affiliate, American Express Bank, that issues deposit certificates denominated
in U.S. dollars, Euros, pounds sterling and Australian dollars.
Institutional Products and Services
American Express Asset Management Group Inc. ("AEAMG"), a subsidiary of
AEFC and an SEC registered investment adviser, directly or through operating
divisions, affiliates or subsidiaries, provides investment management services
to:
o Pension, profit-sharing, employee savings and, endowment funds
and other investments of large- and medium-sized businesses,
governmental units and other large institutional clients;
o Smaller accounts of wealthy individuals and small institutional
clients; and
o Alternative investment products such as hedge funds, including
funds structured as limited liability entities and offshore
corporations, a fund of hedge funds structured as a closed-end
mutual fund; and special purpose vehicles that issue their own
securities and that are backed by high-yield bonds and bank loans
(collateralized debt obligations ("CDO")).
For its investment services, AEAMG generally receives fees based on the
market value of assets under management. Clients may also pay fees to AEAMG
based on the performance of their portfolio. At December 31, 2003, AEAMG managed
assets on behalf of clients (including assets managed or administered on behalf
of the Company and its affiliates) in separate accounts and alternative
investment vehicles in the United States totaling $15.1 billion compared to
$14.8 billion at December 31, 2002.
AEAMG provides investment management services as collateral manager to
various special purpose vehicles that issue securities collateralized by a pool
of assets, i.e., CDOs. AEAMG also provides investment management services to
secured loan trusts ("SLTs"). AEAMG or one or more of its affiliated companies
has invested its own money in such vehicles, including in residual or "equity"
interests, which are illiquid and the most subordinated (and accordingly,
riskiest and most volatile) interests in such vehicles. Pursuant to its adoption
of
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FASB Interpretation No. 46, "Consolidation of Variable Interest Entities" ("FIN
46"), AEFA was required to consolidate one CDO and three SLTs as of December 31,
2003, which resulted in a non-cash charge of $13 million ($20 million pretax)
and the consolidation of $1.2 billion in new assets and $500 million in new
liabilities. Ongoing valuation adjustments specifically related to the
application of FIN 46 to the CDO are also non-cash and will be reflected in
operating results over the remaining life of the structure. The Company expects,
in the aggregate, such gains and losses related to the CDO, including the
implementation charge, to reverse themselves over time as the structure matures,
because the debt issued to the investors in the CDO is non-recourse to the
Company, and further reductions in value of the related assets will be absorbed
by the third-party investors. To the extent losses are incurred on the SLT
portfolio, charges could be incurred that may or may not be reversed. For a
complete discussion of the impact of FIN 46 on AEFA and the Company, see pages
29 through 30 and pages 66 through 67 of the 2003 Annual Report, as well as Note
1 to the Consolidated Financial Statements of the Company on page 78 and pages
83 through 84 of the 2003 Annual Report.
As of December 31, 2003, the carrying values of the CDO residual tranches
and SLT notes managed by AEFA but not consolidated pursuant to FIN 46 were $16
million and nil, respectively. AEFA also has an interest in a CDO securitization
(see " - Insurance and Annuities - Securitization of Certain Insurance Assets"),
as well as an additional $28 million in rated CDO tranches and $27 million in
minority-owned SLTs, both of which are managed by third parties and not
consolidated pursuant to FIN 46. CDOs and SLTs are illiquid investments. AEFA's
investment return on CDOs correlates to the performance of portfolios of
high-yield bonds and/or bank loans and its return on SLTs is based on a
reference portfolio of loans. Generally, the SLTs are structured such that the
principal amount of the loans in the reference portfolio to which the SLTs
correlate may be up to five times that of the par amount of the notes held by
AEFA. Deterioration in the value of high-yield bonds or bank loans would likely
result in deterioration of investment return on the relevant CDO or SLT, as the
case may be. In the event of significant deterioration of a portfolio, the
relevant CDO or SLT may be subject to early liquidation, which could result in
further deterioration of the investment return or, in severe cases, loss of the
carrying amount. Deterioration of a portfolio would likely have a negative
impact on collateral management fees.
International investment management services are offered to domestic and
international institutional clients and mutual funds by other subsidiaries of
AEFC. The acquisition of Threadneedle in September 2003 helped facilitate
consolidation of international asset management activities in the United
Kingdom, resulting in the cessation of management activities in Singapore and
Tokyo. At December 31, 2003, AEAMG's international asset management subsidiary
managed $3.4 billion in the aggregate, of which $2.4 billion represented mutual
fund assets.
Threadneedle
AEFA's international asset management business is based in London and
operates under the Threadneedle group of companies. Threadneedle offers asset
management services, including segregated asset management, mutual funds and
hedge funds to institutional clients and to intermediaries, banks and funds
platforms primarily in the United Kingdom, Germany,
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Austria and elsewhere in Europe. With the recovery of markets in 2003,
Threadneedle benefited from growth in assets under management both through new
client business and organic market growth of existing funds. Those assets
comprise most asset classes including equities, fixed income, cash and real
estate.
Threadneedle employs approximately 1,000 persons and maintains all of its
asset management and support arrangements. Threadneedle has a sales and
marketing presence in Germany and representative offices in France and
Switzerland.
Threadneedle's businesses are organized along three lines, namely, retail,
institutional and strategic alliances.
The retail business line includes Threadneedle's U.K. mutual fund family,
which ranks as the second largest retail fund complex in the United Kingdom.
Threadneedle mutual funds are sold primarily in the United Kingdom and Germany
through financial intermediaries and institutions. In 2003 Threadneedle saw a
continued trend in the aggregation of retail business in Europe through funds of
funds, banks and funds platforms. The retail business unit also includes
Threadneedle's hedge funds comprising two long/short equity funds and one fixed
income fund. Inflows into these hedge fund products during 2003 brought assets
under management in these products to $1.3 billion.
The institutional business offers traditional segregated asset management
to U.K. and international pension funds and institutions as well as offering
mutual fund-based products to pension funds. Threadneedle experienced continued
growth in the management of assets for U.K. institutions during 2003 as it
attracted several new clients.
Threadneedle's strategic alliances business comprises the asset management
activities undertaken by Threadneedle for the Zurich Group and for other
American Express companies and clients. The Zurich Group represents
Threadneedle's single largest client. Threadneedle manages assets for the Zurich
Group for both its U.K. and international life funds and for its general
insurance assets as well as offering Threadneedle mutual funds products through
Zurich's U.K. sales force. Threadneedle will continue to manage certain assets
of Zurich Financial Services U.K., which comprise a majority of Threadneedle
assets under management, for an initial term of up to eight years, subject to
its meeting standard performance criteria. As a result of its acquisition by
AEFA, Threadneedle portfolio management personnel have begun to undertake asset
management activity for American Express and its clients, which added
approximately $3.7 billion of assets under Threadneedle's management during the
latter part of 2003 consisting of mutual funds sold by other business groups
within AEFA and the Company and institutional segregated account business, of
which $3.3 billion was co-managed by AEFA.
In addition to these three main lines of business, during 2003 Threadneedle
also acquired a substantial interest in an institutional multi-manager business
(MM Asset Management (formerly known as Attica Asset Management)) with $612
million under management. This business manages two Dublin-based institutional
funds-of-funds that are sold to small market pension fund clients in the United
Kingdom through consulting actuary firms. Threadneedle
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intends to support the continued growth of this business in the institutional
and multi-manager markets in the United Kingdom.
Threadneedle's overall strategy is to continue to grow assets under
management in each of its three businesses at effective margins. To execute this
strategy Threadneedle expects to develop additional hedge funds and other
products for both the retail and institutional markets as well as continued
efforts to attract new retail and institutional clients.
Additional Capabilities
Through American Express Trust Company ("AETC"), AEFA offers retirement
plan-related services to mid- and large-size private employers, governmental
entities and labor unions. The primary market is for retirement plans with at
least $10 million in assets. AETC is a Minnesota chartered, limited service
trust company that primarily provides trustee, custodial, record keeping,
investment management, securities lending and common trust fund services for
employer-sponsored retirement plans, including pension, profit sharing, 401(k)
and other qualified and non-qualified employee retirement plans. Services
include a wide array of investment options, participant education offerings and
both telephone and Internet-based plan servicing.
At December 31, 2003, AETC acted as directed trustee or custodian of 297
benefit plans, which represented approximately $31.5 billion in assets managed
or administered (including approximately $3.1 billion of assets managed or
administered on behalf of the Company and its affiliates), and approximately one
million participants. This includes approximately $5.5 billion invested in
proprietary mutual funds, $5.8 billion invested in non-proprietary mutual funds,
$12.6 billion actively managed by AETC through both separate investment accounts
and collective investment funds, $7.6 billion of assets administered by AETC,
$57.6 million invested through participant directed brokerage accounts, and
$20.0 million invested in annuities.
For its investment management services, AETC receives fees that are
generally based upon a percentage of the market value of assets under
management. AETC clients typically do not pay fees to AETC based on the
performance of their portfolio. AEFA will also receive revenues based upon
servicing agreements from both the proprietary and non-proprietary mutual funds
that are generally based upon a percentage of the market value of assets
invested in the mutual funds, and, in limited circumstances, may also include
revenues on a per participant basis. While AETC and American Express Retirement
Services may also receive fees that are assessed as a flat fee or on a per
participant basis, revenues are principally based upon the value of assets
managed or administered, which may fluctuate due to many factors, most notably
due to net inflows or outflows of assets and fluctuations within the equity and
fixed-income markets. Through its trustee and custodial services, AETC may enter
into agreements to provide services to qualified employer-sponsored retirement
plans holding employer stock.
AETC also provides institutional asset custodial services to AEFC and the
AEFA affiliates providing mutual funds, investment certificates, asset
management and life insurance. As of December 31, 2003, AETC's institutional
assets under custody were approximately $110.8 billion. AETC custody revenues
are principally based upon the value of assets in custody, which
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may fluctuate due to many factors, most notably due to net inflows or outflows
of assets and fluctuations within the equity and fixed-income markets.
Competition
AEFA's asset management business is subject to intense competition. In
addition to full-commission and discount brokerage firms, competitors include
other financial institutions, such as banks and insurance companies. Trends in
the market over the last decade, including the increased demand for mutual funds
by retail investors, have expanded the number of competitors in the industry.
Some competitors are larger and more diversified, offer a greater number of
products and may have an advantage over AEFA in their ability to attract and
retain customers on the basis of their being able to market themselves as a
"one-stop shop" that can meet all of their clients' personal financial needs or
in their ability to distribute their funds through multiple channels of
distribution. The competitive factors affecting the sale of mutual funds include
sales charges paid, administrative expenses, services received, the ability to
attract and retain a network of third-party distributors, investment
performance, fund ratings issued by third-parties such as Morningstar, the
variety of products and services offered, convenience to the investor,
advertising and promotion campaigns and general market conditions. The mutual
funds compete with other investment products, including funds that have no sales
charge ("no-load" funds), funds distributed through independent brokerage firms
and exchange traded funds.
The institutional investment management business is highly competitive and
2003 was a challenging year in which there was an overall reduction in AEFA's
institutional assets under management (excluding the Threadneedle acquisition).
AEAMG and its affiliates must compete against a substantial number of larger
firms in seeking to acquire and maintain assets under management. Competitive
factors in this business include fees, investment performance, including the
quality and "track record" of portfolio managers, global capabilities, range of
portfolios offered and client service.
AEFA also faces intense competition in attracting and retaining qualified
employees. Its ability to continue to compete effectively will depend upon its
ability to attract and retain skilled and high performing asset management
professionals.
The business climate for retirement services is also highly competitive.
AERS competes against a substantial number of larger firms in seeking to acquire
and maintain assets under management. Competitive factors in this business
include fees, record keeping and technological capabilities, investment
performance and client servicing. Due in part to favorable market conditions,
AERS's assets under management and assets administered in the retirement
services business increased by 14% and 30%, respectively, over 2002.
Regulation of Retail Distribution and Asset Management
AEFA's retail distribution and asset management businesses are regulated by
the SEC, NASD, the Commodity Futures Trading Commission, the National Futures
Association and state securities regulators. AEFA has experienced, and believes
it will continue to be subject to, increased regulatory oversight of the
securities and commodities industries at all levels. In
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addition, the SEC and NASD heightened applicable requirements for and continued
scrutiny of the effectiveness of supervisory procedures and compliance programs
generally, as well as the effectiveness of procedures for and oversight of
recently adopted regulatory requirements regarding books and records, business
continuation planning and anti-money laundering. The SEC and NASD also recently
adopted revisions to various advertising rules for investment companies and
broker dealers, new proxy rules and other compliance requirements for investment
advisers and investment companies, including a requirement to appoint a separate
chief compliance officer.
AETC is primarily regulated by the Minnesota Department of Commerce
(Banking Division), and as such, is subject to net capital requirements under
Minnesota law. AETC may not accept deposits or make personal or commercial
loans. As a provider of products and services to tax-qualified retirement plans
and IRAs, certain aspects of AEFA's business, including the activities of AETC,
fall within the compliance oversight of the U.S. Department of Labor ("DOL") and
the U.S. Department of Treasury ("Treasury"), particularly with respect to the
Employee Retirement Income Security Act of 1974 ("ERISA") and the tax reporting
requirements applicable to such accounts.
Compliance with these and other regulatory requirements adds to the cost
and complexity of operating AEFA's business. In addition, the SEC, DOL,
Treasury, self-regulatory organizations and state securities and insurance
regulators may conduct periodic examinations and administrative proceedings,
which may result in censure, fine, the issuance of cease-and-desist orders or
suspension or expulsion of a broker-dealer or an investment advisor and its
officers or employees. Individual investors also can bring complaints against
AEFA. Because AEFA is structured as a franchise system, it is also subject to
Federal Trade Commission and state franchise requirements.
As has been widely reported, the SEC, the NASD and several state attorneys
general have brought proceedings challenging several mutual fund industry
practices, including late trading, market timing, charging of 12b-1 fees,
disclosure of revenue sharing arrangements and inappropriate sales of B shares.
AEFA has received requests for information concerning its practices and is
providing information and cooperating fully with these inquiries.
In February 2004 AEFA was one of 15 firms that settled an enforcement
action brought by the SEC and the NASD relating to breakpoint discounts (which
are volume discounts available to investors who make large mutual fund
purchases) pursuant to which AEFA agreed to pay a fine of $3.7 million and to
reimburse customers to whom the firm failed to deliver such discounts. These
amounts were accrued by AEFA in 2003.
In addition, Congress has proposed legislation and the SEC has proposed
and, in some instances, adopted rules relating to the mutual fund industry,
including expenses and fees, mutual fund corporate governance and disclosures to
customers. While there remains a significant amount of uncertainty as to what
legislative and regulatory initiatives may ultimately be adopted, these
initiatives could impact mutual fund industry participants' results, including
AEFA's, in future periods.
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Insurance and Annuities
Insurance and annuities are important AEFA products. AEFA sells these
products primarily through IDS Life Insurance Company ("IDS Life") and its
insurance subsidiaries. A wholly owned subsidiary of AEFC, IDS Life is a stock
life insurance company organized under Minnesota law. IDS Property and Casualty
Insurance Company and AMEX Assurance Company - subsidiaries of AEFC - offer
automotive, homeowners and American Express Card-related insurance products. IDS
Life has four wholly owned subsidiaries: IDS Life Insurance Company of New York,
a New York corporation ("IDS Life of New York"); American Partners Life
Insurance Company, an Arizona corporation ("American Partners Life"); American
Enterprise Life Insurance Company, an Indiana corporation ("American Enterprise
Life"); and American Centurion Life Assurance Company, a New York corporation
("American Centurion Life"). IDS Life and its four insurance company
subsidiaries are referred to collectively in this section as the "IDS Life
Companies" and individually as an "IDS Life Company."
IDS Life serves residents of all states except New York and distributes its
products exclusively through AEFA's retail distribution channel. IDS Life of New
York serves New York residents and also distributes its products exclusively
through AEFA's retail distribution channel. Generally, retail advisors of AEFA
offer only IDS Life or IDS Life of New York variable and fixed annuities and, in
certain circumstances, variable and fixed annuities issued by American
Enterprise Life. Retail advisors affiliated with AEFAI do not offer annuity
products of AEFA's competitors, except for annuities specifically designed for
use in the small employer 401(k) market issued by two unaffiliated firms. Retail
advisors affiliated with AEFAI may also offer life insurance products of AEFA's
competitors under limited circumstances. Registered representatives of
Securities America, Inc. offer annuities and insurance of many unaffiliated
issuers. American Partners Life distributes its products directly to consumers,
generally persons holding an American Express Card, outside New York. American
Centurion Life offers one of its annuities directly to consumers in New York.
In addition, AEFA continues to expand distribution by delivering
proprietary insurance and annuity products through non-affiliated
representatives and agents of third-party distributors. These products are
offered through American Enterprise Life and American Centurion Life. American
Enterprise Life provides financial institution clients with American
Express-branded financial products and wholesaling services to support their
retail insurance and annuity operations. It underwrites variable annuity
contracts, fixed annuity contracts and variable life insurance primarily through
regional and national financial institutions and regional and/or independent
broker-dealers, in all states except New York and New Hampshire. American
Centurion Life markets fixed and variable annuities in New York. American
Enterprise Life remained competitive during the year due to its continued growth
and attention to expense and risk management of its product line. In addition,
in recognition of excellence in customer service for variable and fixed
annuities, American Enterprise Life was awarded the 2003 Key Honors Award by
DALBAR, Inc., a recognized independent financial services research organization.
Business sold through AEFA's retail distribution channel by IDS Life and
IDS Life of New York represents the majority of the insurance and annuity
business for the IDS Life Companies. Business sold through third party
distribution by American Enterprise Life and
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American Centurion Life ranks second. Business sold directly to consumers by
American Partners Life and American Centurion Life ranks a distant third.
Insurance: Product Features and Risks
The IDS Life Companies issue a wide range of insurance products including
variable life insurance, universal life insurance, traditional whole life
insurance, traditional term life insurance and disability income insurance. IDS
Property Casualty Insurance Company and AMEX Assurance Company, affiliates of
the IDS Life Companies, offer personal auto and homeowner's insurance. The IDS
Life Companies issue no short-duration life insurance policies. The IDS Life
Companies issue only non-participating contracts.
Variable Life Insurance. IDS Life's and IDS Life of New York's biggest
selling life insurance products are variable life insurance policies. Variable
life insurance provides life insurance coverage along with investment returns
linked to the underlying investments the policyholder chooses. These products
also offer a fixed account with a guaranteed minimum interest crediting rate
ranging from 4.0% to 4.5%. According to LIMRA, IDS Life ranked third in variable
life insurance sales on the basis of premiums in 2003.
IDS Life's variable life insurance products include American Express'r'
Variable Universal Life IV/American Express'r' Variable Universal Life IV -
Estate Series, which are individual flexible premium policies. The Estate Series
policy is available to policyholders with initial specified amounts of $1
million or more. IDS Life also issues American Express Succession Select, a
flexible premium survivorship policy that insures two lives. Succession Select
is often used for estate planning purposes. Finally, IDS Life issues American
Express'r' Single Premium Variable Life, an individual single premium variable
life insurance policy.
Beginning in 1999 and 2000, respectively, IDS Life and IDS Life of New York
reinsured 80% of the mortality risk attributable to new sales of individual
flexible premium variable life insurance. This means that on these product
sales, IDS Life and IDS Life of New York are at risk for only 20% of each
policy's death benefit from the first dollar of coverage. Beginning at the end
of 2002 for IDS Life and the third quarter of 2003 for IDS Life of New York, the
amount reinsured was increased to 90%, with 10% retained by the IDS Life
Companies. In contrast and prior to this arrangement, IDS Life and IDS Life of
New York generally retained risk up to $750,000 on each insured life and
reinsured only those amounts in excess of $750,000. Generally, the prior
arrangement left IDS Life and IDS Life of New York with more of the risk for the
death benefit than the more recent practice.
Universal Life Insurance. IDS Life's and IDS Life of New York's universal
life insurance products provide life insurance coverage and cash value that
increases by a fixed interest rate. The rate is periodically reset according to
the terms of the policy at the discretion of the issuing company. Policies
issued by IDS Life and IDS Life of New York also provide a guaranteed minimum
interest crediting rate ranging from 4% to 5%.
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IDS Life's universal life insurance products include Life Protection Plus,
Life Protection Select and Life Protection Select Estate Series. The Estate
Series policy is available to policyholders with initial specified amounts of $1
million or more.
Traditional Life Insurance Products. IDS Life's and IDS Life of New York's
traditional life insurance products include whole life insurance and term life
insurance. Whole life insurance combines a death benefit with a cash value that
generally increases gradually in amount over a period of years and does not pay
a dividend. IDS Life and IDS Life of New York have sold very little traditional
whole life insurance in recent years. Term life insurance provides only a death
benefit, does not build up cash value and does not pay a dividend. The
policyholder chooses the term of coverage at the time of issue. During the
chosen term, IDS Life and IDS Life of New York cannot raise premium rates even
if claims experience were to deteriorate. Beginning in 2001 and 2002,
respectively, IDS Life and IDS Life of New York have reinsured 90% of the
mortality risk attributable to new term insurance sales. This means that on
these more recent product sales, IDS Life and IDS Life of New York are at risk
for only 10% of each policy's death benefit from the first dollar of coverage.
In contrast and prior to this arrangement, IDS Life and IDS Life of New York
generally retained risk up to $750,000 on each insured life and reinsured only
amounts in excess of $750,000. Generally, the prior arrangement left IDS Life
and IDS Life of New York with more of the risk for the death benefit than the
more recent practice.
Disability Income Insurance. IDS Life and IDS Life of New York also issue
disability income ("DI") insurance. DI insurance provides monthly benefits to
individuals who are unable to earn income at either their occupation at time of
disability ("own occupation") or at any suitable occupation ("any occupation").
Depending upon occupational and medical underwriting criteria, applicants for DI
insurance can choose "own occupation" and "any occupation" coverage for varying
benefit periods up to age 65. Applicants may also choose various benefit riders
to help them integrate individual DI insurance benefits with Social Security or
similar benefit plans and to help them protect their DI insurance benefits from
the risk of inflation. IDS Life believes it has a significant presence in the DI
insurance market.
Long-Term Care Insurance. IDS Life and IDS Life of New York no longer issue
long-term care ("LTC") insurance, but do retain risk on a large block of
existing contracts, 50% of which is reinsured by General Electric Capital
Assurance Company. As of December 31, 2002, IDS Life and IDS Life of New York
generally discontinued underwriting LTC insurance. (A small number of
applications were taken in early 2003.) Retail advisors of AEFA now sell only
non-proprietary LTC insurance, primarily products offered by General Electric
Capital Assurance Company ("GECA") and, in limited circumstances, those of other
unaffiliated insurers. In addition, in May 2003, IDS Life and IDS Life of New
York began outsourcing claims administration to GECA.
Property Casualty Insurance. IDS Property Casualty Insurance Company and
its wholly owned subsidiary, AMEX Assurance Company, provide personal auto and
homeowner's coverage to clients in 37 states and the District of Columbia. IDS
Property Casualty is regulated by the Commissioner of Insurance for Wisconsin.
AMEX Assurance Company, which also provides certain American Express Card
related insurance products, is regulated by the
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Commissioner of Insurance for Illinois. IDS Property Casualty and AMEX Assurance
market through alliances with financial institutions, affinity groups, such as
alumni associations, and direct to American Express Cardmembers and the general
public. IDS Property Casualty and AMEX Assurance have a major distribution
agreement with Costco's affiliated insurance agency. As of December 31, 2003,
this arrangement offered auto insurance in 36 states and homeowner's insurance
in 35 states to Costco members.
Insurance Risks. IDS Life's sales of individual life insurance in 2003, as
measured by scheduled annual premiums and excluding lump sum premiums, consisted
of 82% variable life, 6% universal life and 12% term life.
Competitive factors applicable to the insurance business include product
features, the interest rates credited to products, the charges deducted from the
cash values of such products, investment performance, the financial strength of
the organization, distribution and management expenses, claims paying ratings
and the services provided to policyholders.
For long-term profitability, it is crucial to ensure adequate pricing to
cover insurance risks and to accumulate adequate reserves. Reserves are a
measure of the assets that the IDS Life Companies estimate are needed to
adequately provide for future benefits and expenses.
Annuities: Product Features and Risks
The IDS Life Companies offer variable and fixed annuities to a broad range
of consumers through multiple distribution channels. Annuities may be deferred,
where assets accumulate until the contract is surrendered, the contract owner
dies, or the contract owner begins receiving benefits under an annuity payout
option; or immediate, where payments begin within one year of issue and continue
for life or for a fixed period of time.
IDS Life is one of the largest issuers of annuities in the United States.
As of the end of the third quarter of 2003, IDS Life, on a consolidated basis,
ranked 11th among the top annuity writers. The IDS Life Companies posted annuity
cash sales in 2003 of over $8 billion, a decrease of 2% across all distribution
channels.
Variable Annuities. Like variable life insurance, variable annuities
provide contract owners with investment returns linked to the underlying
investments the contract owner chooses. These products also offer a fixed
account with a guaranteed minimum interest crediting rate ranging from 1.5% to
4%. One of IDS Life's variable annuities, the American Express Retirement
Advisor Advantage'r' Variable Annuity, was the 12th largest-selling annuity in
the country in 2003. In January 2004 IDS Life introduced an enhanced version of
this annuity named American Express Retirement Advisor Advantage Plus'sm'
Variable Annuity.
Fixed Annuities. The IDS Life Companies' fixed annuities provide cash value
that increases by a fixed interest rate. The rate is periodically reset
according to the terms of the contract at the discretion of the IDS Life
Companies. The contracts provide a guaranteed minimum interest crediting rate
ranging from 1.5% to 4%. In 2003, a number of states adopted a model regulation
providing for an indexed guaranteed minimum interest crediting rate, and a
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number of states now follow this model. The IDS Life Companies filed a number of
contract changes to begin taking advantage of the lower rate guarantee offer on
new product sales.
Annuity Risks. The relative proportion between fixed and variable annuities
sales is generally driven by the relative performance of the equity and fixed
income markets. In times of lackluster performance in equity markets, fixed
sales are generally stronger. In times of superior performance in equity
markets, variable sales are generally stronger. In addition, investment
management performance is critical to the profitability of an annuity business.
In past years, innovative features for annuity products have continually
been evolving. These features include guaranteed minimum death benefits
("GMDBs") that protect beneficiaries from a drop in death benefits due to
performance of the related underlying investments. The standard GMDB in the
"flagship" annuity offered by IDS Life and IDS Life of New York in 2003, the
American Express Retirement Advisor Advantage Variable Annuity, provides that if
the contract owner and annuitant are age 80 or younger on the date of death, the
beneficiary will receive the greatest of (i) the contract value, (ii) purchase
payments minus adjusted partial surrenders, or (iii) the contract value as of
the most recent sixth contract anniversary, plus purchase payments and minus
adjusted partial surrenders since that anniversary. Under the new American
Express Retirement Advisor Advantage Plus'sm' Variable Annuity, the standard
GMDB provides that if the contract owner is age 75 or younger on the date of
death, the beneficiary will receive the greater of (i) the contract value less a
pro rata portion of any rider fees, or (ii) purchase payments minus adjusted
partial surrenders.
Additional optional GMDBs are also available. For example, IDS Life and IDS
Life of New York contract owners may purchase a maximum anniversary value death
benefit for an additional charge. This death benefit rider guarantees that the
death benefit will not be less than the highest contract value achieved on a
contract anniversary before the contract owner reaches the age of 81, adjusted
for partial withdrawals. IDS Life contract owners also may purchase an enhanced
earnings death benefit or an enhanced earnings plus death benefit for an
additional charge. These death benefit riders are intended to provide additional
benefits to a beneficiary to offset expenses after the contract owner's death.
Other IDS Life Companies also issue annuity contracts with a variety of standard
and optional GMDBs.
To the extent a GMDB is higher than the current account value at the time
of death, the IDS Life Companies incur a cost. For fiscal years beginning before
December 16, 2003, GAAP did not prescribe advance recognition of the projected
future net costs associated with these guarantees, and accordingly, the IDS Life
Companies did not record a liability corresponding to these future obligations
for death benefits in excess of annuity account value. Through December 31,
2003, the amount paid in excess of contract value was expensed when payable.
Amounts expensed in 2003 and 2002 were $32 million and $37 million,
respectively. In July 2003, the American Institute of Certified Public
Accountants ("AICPA") issued Statement of Position 03-1, "Accounting and
Reporting by Insurance Enterprises for Certain Nontraditional Long-Duration
Contracts and for Separate Accounts" ("SOP 03-1"). The IDS Life Companies will
adopt SOP 03-1 in the first quarter of 2004 (with an effective date of January
1, 2004), and will then be required by the IDS Life Companies to begin to
establish reserves related to
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GMDBs. The impact of that requirement as well as other provisions of SOP 03-1
are still subject to interpretation and are currently being evaluated.
The general account assets of the IDS Life Companies support these GMDBs
(see "The General Accounts" below). The IDS Life Companies bear the risk that
protracted under-performance of the financial markets could result in GMDBs
being higher than what current account values would support. Actual experience
may differ from the IDS Life Companies' estimates. The IDS Life Companies'
exposure to risk from these guarantees generally will increase when equity
markets decline.
The General Accounts
Assets supporting contract values associated with fixed account life
insurance and annuity products, as well as those associated with fixed account
options under variable insurance and annuity products (collectively, the "fixed
accounts"), are part of each IDS Life Company's "general account." Under fixed
accounts, each IDS Life Company bears the investment risk. In investing their
general account assets, the IDS Life Companies seek to maintain a dependable and
targeted difference or "spread" between the interest rate earned on general
account assets and the interest rate the IDS Life Company credits to contract
owners' fixed accounts. This spread is a major driver of net income for the IDS
Life Companies.
The general account assets also include funds accumulated through insurance
premiums and cost of insurance and annuity product charges. These premiums and
charges are major sources of revenue for IDS Life and IDS Life of New York.
In the general account, the IDS Life Companies primarily invest in fixed
income securities over a broad range of maturities for the purpose of providing
a targeted rate of return on their investments while controlling risk. The
majority of these fixed income securities are interest-bearing investments such
as government obligations, mortgage backed obligations and various corporate
debt instruments. The IDS Life Companies do not invest in securities to generate
trading profits.
Each of the IDS Life Companies, through their respective Boards of
Directors' investment committees or staff functions, reviews models projecting
different interest rate scenarios, risk/return measures, and their effect on
profitability. They also review the distribution of assets in the portfolio by
type and credit risk sector. The objective is to structure the investment
security portfolio based upon the type and expected behavior of products in the
liability portfolio to meet contractual obligations and achieve targeted levels
of profitability within defined risk parameters.
The IDS Life Companies have the discretion to set the rate of interest
credited to contract owners' accounts. However, this discretion is limited by
the contract's guaranteed minimum interest crediting rate. Prior to 2003, this
rate varied among fixed accounts and was as low as 3% and as high as 5%. To the
extent the yield on IDS Life Companies' invested general account asset portfolio
declines below its target spread plus the minimum guarantee, the IDS Life
Companies' profitability would be negatively affected.
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The interest rates credited to contract owners' fixed accounts are
generally reset at shorter intervals than the maturity of underlying
investments. Therefore, margins may be negatively impacted by increases in the
general level of interest rates. Part of each IDS Life Company's strategy
includes the use of derivatives, such as interest rate caps, swaps and floors,
for risk management purposes. These derivatives help protect margins by
increasing investment returns if there is a sudden and severe rise in interest
rates, thereby mitigating the impact of an increase in rates credited to
contract owners' fixed accounts. Conversely, in a low interest rate environment,
such as that experienced recently, margins may be negatively impacted as the
interest rates available on the IDS Life Companies' invested assets approach
guaranteed minimum interest rates on the insurance or annuity contracts. This
negative impact may be compounded by the fact that many of these
interest-bearing investments are callable or prepayable by the issuer and calls
and prepayments are more likely to occur in a low interest rate environment. In
light of the present environment in which interest rates are at historic lows,
the IDS Life Companies imposed fixed account allocation and transfer rules for
new variable annuity sales in the summer of 2003.
The IDS Life Companies sold approximately $16 billion of their invested
assets during the year, on a consolidated basis. In addition, approximately $3
billion in assets were redeemed during the year. The cash generated by these
sales and redemptions has been or will be reinvested.
The Variable Accounts
Variable insurance and annuity products also offer variable account
investment options in addition to fixed account options. Under variable
accounts, contract owners bear the investment risk. The variable accounts are
registered as unit investment trusts under the Investment Company Act of 1940.
The IDS Life Companies' major source of revenue from the variable insurance
and annuities is the fees it receives, including mortality and expense fees.
Prior to 2003, these fees included investment advisory fees for internally
managed funds. In 2003, AEFC assumed these duties for the funds and retained IDS
Life, and its non-New York subsidiaries, to provide underlying administrative
services. In March 2004, a similar structure for the New York subsidiaries was
approved by the New York Insurance Department effective as of February 1, 2004.
Fees payable from AEFC to the IDS Life Companies include administrative service
fees.
Generally, the variable accounts consist of a number of subaccounts, each
of which invests in shares of a particular fund. Contract owners can allocate
their payments among these variable subaccounts. The underlying funds are
managed both by internal and unaffiliated third-party money managers. These
funds invest in portfolios containing a variety of securities including common
stocks, bonds, managed assets and/or short-term securities. The value of the
subaccounts fluctuates with the investment return of the funds in which the
subaccounts invest.
Variable life insurance and annuities are "separate account" rather than
general account products. This means that state insurance law prohibits charging
variable accounts with
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liabilities of the general business. Under the subaccounts of each variable
account, the IDS Life Companies credit or charge income, capital gains and
capital losses only to that subaccount.
Competition
The insurance business is highly competitive, and the IDS Life Companies'
competitors consist of both stock and mutual insurance companies, as well as
other financial intermediaries' marketing insurance products. American
Enterprise Life and American Centurion Life compete directly with many other
insurers in the third party distribution channel.
Competitive factors affecting the sale of life insurance products include
cost of insurance and other contract charges, the level of premium rates,
investment performance, the level of interest rates, financial strength ratings
from third party agencies such as A. M. Best, the breadth and quality of
products and services offered, the quality of underwriting and customer service
and any advertising and promotion campaigns.
The IDS Life Companies' annuity business competes with numerous other
insurance companies, as well as certain banks, securities brokerage firms,
independent financial advisors and other financial intermediaries that market
annuities, mutual funds and other retirement-oriented products. Competitive
factors affecting the sale of annuities include investment performance and
financial strength ratings, product design, reputation and recognition in the
marketplace, distribution capabilities, levels of charges and credited rates and
customer service. With respect to variable annuities, customers also focus on
equity market guarantee features that help them invest in a volatile equity
market.
Regulation
IDS Life, American Enterprise Life and American Partners Life are subject
to comprehensive regulation by the Minnesota Department of Commerce (Insurance
Division), the Indiana Department of Insurance, and the Arizona Department of
Insurance, respectively (collectively, and with the New York Insurance
Department, "Domiciliary Regulators"). American Centurion Life and IDS Life of
New York are regulated by the New York State Department of Insurance. The laws
of the other states in which these companies do business also regulate such
matters as the licensing of sales personnel and, in some cases, the marketing
and contents of insurance policies and annuity contracts. The primary purpose of
such regulation and supervision is to protect the interests of policyholders.
Financial regulation of the IDS Life Insurance Companies is extensive. The IDS
Life Companies' financial and intercompany transactions (such as intercompany
dividends, capital contributions and investment activity) are often subject to
pre-approval and continuing evaluation by the Domiciliary Regulators.
Regulatory and judicial scrutiny of market conduct practices of insurance
companies, including sales, marketing and replacements of life insurance and
annuities, agent practices, "bonus" annuities and market timing and late trading
under variable insurance and annuities, increased significantly in recent years
and continues to affect the manner in which companies approach various
operational issues, including compliance. Virtually all states mandate
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participation in insurance guaranty associations, which assess insurance
companies in order to fund claims of contract owners of insolvent insurance
companies.
On the federal level, there is periodic interest in enacting new
regulations relating to various aspects of the insurance industry, including
taxation of annuities and life insurance policies, accounting procedures, as
well as the treatment of persons differently because of gender, with respect to
terms, conditions, rates or benefits of an insurance contract. New federal
regulation in any of these areas could potentially have an adverse effect upon
the IDS Life Companies. More specifically, recent federal legislative proposals
aimed at the promotion of tax-advantaged savings through Lifetime Savings
Accounts and Retirement Savings Accounts may adversely impact IDS Life
Companies' sales of annuity and life insurance products if enacted.
Ratings
The IDS Life Companies had consolidated assets at December 31, 2003 of
approximately $66 billion, based on U.S. generally accepted accounting
principles, and had total capital and surplus as of December 31, 2003 of $2.8
billion, on a statutory accounting basis.
IDS Life receives ratings from independent rating agencies. Generally, its
four insurance subsidiaries do not receive an individual rating, but receive the
same rating as IDS Life. These agencies evaluate the financial soundness and
claims-paying ability of insurance companies based on a number of different
factors. The ratings reflect each agency's estimation of the IDS Life Companies'
ability to meet their contractual obligations such as making annuity payouts and
paying death benefits and other distributions from the contracts. As such, the
ratings relate to the IDS Life Companies' general accounts and not to the
management or performance of the variable accounts of the contracts.
Ratings are important to maintaining public confidence in the IDS Life
Companies. Lowering of the IDS Life Companies' ratings could have a material
adverse effect on their ability to market their products and could lead to
increased surrenders of their products. Rating agencies continually review the
financial performance and condition of insurers. As of the end of 2003, IDS Life
was rated "A+" (Superior) by A.M. Best Company, Inc. and its claims-paying
ability/financial strength was rated "Aa3" (Excellent) by Moody's Investors
Service, Inc. (Moody's), and "AA" (Very Strong) by Fitch.
The foregoing ratings reflect each rating agency's opinion of the IDS Life
Companies' financial strength, operating performance and ability to meet its
obligations to contract owners. Such factors are of primary concern to contract
owners, agents and intermediaries, but also may be of interest to investors.
Risk Based Capital
The National Association of Insurance Commissioners ("NAIC") adopted Risk
Based Capital ("RBC") requirements for life insurance companies. The RBC
requirements are to be used as minimum capital requirements by the NAIC and
states to identify companies that merit
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further regulatory action. At December 31, 2003, IDS Life had total adjusted
capital of approximately $3.1 billion on a statutory accounting basis. As
defined by the NAIC, total adjusted capital includes certain asset valuation
reserves excluded from the $2.8 billion of statutory capital and surplus
referred to above. The Minnesota Department of Commerce, IDS Life's insurance
regulator, requires insurance companies to maintain a minimum RBC called the
"authorized control level." If total adjusted capital fell below the authorized
control level, the Minnesota Department of Commerce would be authorized to
exercise management control over IDS Life. For IDS Life, the authorized control
level capital was $507.1 million at December 31, 2003.
In addition, IDS Life, like other life insurance companies, is expected to
maintain capital at a level above which would require a company to file an
action plan with the Minnesota Department of Commerce. This is referred to as
the "company action level." For IDS Life, the company action level capital was
$1 billion at December 31, 2003.
As described above, IDS Life maintains levels of RBC far in excess of the
authorized control and company action levels required by the Minnesota
Department of Commerce. The level of capital maintained in IDS Life is thought
to be appropriate by management and is more commensurate with standards
necessary to maintain IDS Life's ratings with the various credit and
claims-paying rating agencies.
Liabilities and Reserves
Insurance Liabilities and Reserves. The liabilities for reported and unpaid
life insurance claims are equal to the death benefits payable under the
policies. For DI insurance and LTC insurance claims, unpaid claim liabilities
are equal to benefit amounts due and accrued. For life insurance, DI insurance,
and LTC insurance, liabilities for incurred but not reported claims are
estimated based on periodic analysis of the actual reported historical claim
lag. Where applicable, amounts recoverable from reinsurers (i.e., other insurers
who share in the risk of the products the IDS Life Companies offer) are
separately recorded as receivables.
The claim adjustment expense reserves for DI insurance and LTC insurance
are based on the claim reserves. These reserves represent the expense of
reviewing claims and making benefit payment determinations. For life insurance,
no claim adjustment expense reserve is held.
Policy liabilities for fixed and variable universal life insurance are
accumulation values, i.e., the aggregate of the values contract owners have on
account. Policy reserves for future benefits on term and whole life insurance
are based on the net level premium method, using anticipated mortality rates
(the likelihood of an insured's death), policy persistency rates (the likelihood
that a policy will be continued by the policyholder), and interest rates earned
on the assets supporting reserves. Anticipated mortality rates are based on
established industry mortality tables, with modifications based on the IDS Life
Companies' experience. Anticipated policy persistency rates vary by policy form,
issue age and policy duration. IDS Life and IDS Life of New York generally
anticipate persistency rates on level term and cash value plans to be better
than persistency on yearly renewable term insurance plans. Anticipated interest
rates on
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assets held to support reserves range from 4% to 10%, depending on policy form,
issue year and policy duration.
Liabilities for future DI insurance and LTC insurance policy benefits
include both policy reserves and claim reserves. IDS Life and IDS Life of New
York base policy reserves on the net level premium method, using anticipated
morbidity rates (meaning, claim frequency and severity), mortality rates (the
likelihood of an insured's death, which means no DI insurance or LTC insurance
benefits will become payable), policy persistency rates, and interest rates
earned on the assets supporting reserves. They base anticipated morbidity and
mortality rates on established industry morbidity and mortality tables.
Anticipated policy persistency rates vary by policy form, issue age, policy
duration and, for DI insurance policies, occupation class. Anticipated interest
rates on assets supporting DI policy reserves are 7.5% at policy issue and grade
to 5% over five years. Anticipated interest rates on assets supporting LTC
policy reserves are currently 5.9% and grade up to 8.9% over 30 years.
IDS Life and IDS Life of New York calculate claim reserves for DI insurance
and LTC insurance based on claim continuance tables and anticipated interest
rates earned on assets supporting these reserves. They base anticipated claim
continuance rates on established industry tables. Anticipated interest rates on
assets held to support claim reserves for both DI insurance and LTC insurance
range from 5% to 8%, with an average rate of approximately 5.7%.
Annuity Liabilities. Liabilities for fixed and variable deferred annuities
are accumulation values, i.e., the aggregate of the values contract owners have
on account.
Liabilities for fixed annuities in a benefit or "payout" status are based
on established industry mortality tables and interest rates established in the
year of issue or commencement of payout. The latter range from 4.6% to 9.5%,
with an average rate of approximately 6.3%.
Deferred Acquisition Costs
The IDS Life Insurance Companies deferred acquisition costs represent the
costs of acquiring new business, principally direct sales commissions and other
distribution and underwriting costs that have been deferred on the sale of
annuity and insurance products. For these products, deferred acquisition costs
are amortized over periods approximating the lives of the business, generally as
a percentage of premiums or estimated gross profits or as a portion of the
interest margins associated with the products.
For a complete discussion of deferred acquisition costs, see pages 34
through 35, pages 62 through 63 and page 81 of the Company's 2003 Annual Report,
which are incorporated herein by reference.
Securitization of Certain Insurance Assets
During 2001, AEFA placed a majority of its rated CDO securities and related
accrued interest, as well as a relatively minor amount of other liquid
securities, having an aggregate book value of $905 million, into a
securitization trust. In return, the Company received $120 million
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in cash (excluding transaction expenses) relating to sales to unaffiliated
investors and retained interests in the trust with allocated book amounts
aggregating $785 million. As of December 31, 2003, the retained interests had a
carrying value of $694 million, of which $512 million is considered investment
grade. Neither AEFA nor the Company has any obligations, contingent or
otherwise, to such unaffiliated investors.
AMERICAN EXPRESS BANK
The Company's American Express Bank operating segment ("AEB") offers
products that meet the financial service needs of three primary client groups:
retail customers, wealthy individuals and financial institutions. AEB's
operations are conducted principally through American Express Bank Ltd., a
wholly owned indirect subsidiary of the Company, and its subsidiaries. AEB does
not directly or indirectly do business in the United States except as an
incident to its activities outside the United States. Accordingly, the following
discussion relating to AEB generally does not distinguish between United States
and non-United States based activities.
AEB's three primary business lines are Personal Financial Services ("PFS"),
The Private Bank and the Financial Institutions Group ("FIG"). PFS provides
consumer products in direct response to specific financial needs of retail
customers and includes interest-bearing deposits, unsecured lines of credit,
installment loans, money market funds, mortgage loans, auto loans and mutual
funds. The Private Bank focuses on high net worth individuals by providing such
customers with investment management, trust and estate planning and banking
services, including secured lending. FIG provides financial institution clients
with a wide range of correspondent banking products including international
payments processing (wire transfers and checks), trade-related payments and
financing, cash management, loans, extensions of credit and investment products,
including third-party distribution of AEB offshore mutual funds. AEB also
provides treasury and capital market products and services to its customers,
including foreign exchange, foreign exchange options and other derivatives and
interest rate risk management products.
In 2003 AEB neared completion of its shift in emphasis from corporate
clients to individuals and financial institutions. This change aligns AEB's
businesses more closely with those of the Company's other business units and
positions it to play a more important role in the delivery of financial services
on a global basis. Also, during the year, approximately $100 million of loans
previously classified as "Other" were reclassified to the consumer category.
These reclassified loans represent non-PFS consumer loans that are an ongoing
part of AEB's consumer business. Both the change in strategy and the
reclassification referred to in the previous sentences are reflected in the
following loan information: AEB reduced its corporate banking loans by $156
million to $173 million at December 31, 2003, increased its consumer and private
banking loans by $558 million, and increased its FIG loans by $464 million.
Loans outstanding worldwide were $6.5 billion at December 31, 2003 and $5.6
billion at December 31, 2002. During 2003, The Private Bank client holdings rose
16% to a total of $16.2 billion, client volumes in PFS increased 2% and
FIG-related non-credit fee revenue increased by 14%.
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AEB continued to broaden its offering of offshore mutual funds, hedge funds
and other managed products in 2003. AEB's fund products are sold by The Private
Bank and PFS business lines to individual customers and by FIG through
distributors in several foreign markets. AEB continued to expand its number of
third-party relationships in Europe and Asia. During 2003, AEB signed more than
60 distribution agreements in Europe and Asia for the sale of its own American
Express-branded products. AEB's assets under management in its fund products and
related managed accounts and administered assets totaled approximately $5.3
billion at year-end (as compared with $3.1 billion at December 31, 2002).
In 2003 AEB added a number of investment portfolios and share classes to
its existing Luxembourg investment company umbrella fund and its Cayman
domiciled hedge fund structure. AEB also introduced new investment options,
which combine standard mutual funds, hedge funds and cash products within a
wrap structure and increased the number of third party products available to
customers. The asset management business of AEB's affiliate, AEFA (which
includes its newly acquired subsidiary, Threadneedle Asset Management), provides
investment management services to many of the Luxembourg umbrella fund
portfolios.
AEB also continued to work closely with other parts of the Company to
cross-sell a range of payment, lending, insurance and financial service products
and build deeper relationships with affluent and pre-affluent consumer and small
business customers in key international markets. AEB markets The Private Bank
services to a highly selective group of Cardmembers outside the United States.
AEB offers credit products such as installment loans and revolving lines of
credit to both Cardmembers and non-Cardmembers in Germany, Greece, United
Kingdom, Hong Kong, India, Singapore and Taiwan. AEB also markets a wide range
of investment and savings products to TRS Cardmembers and select non-cardmembers
in Germany, Greece, Hong Kong, India, Indonesia, Singapore, Taiwan and
Philippines. AEB has also contracted with AECC to market AECC's investment
certificates, and separately operates a joint venture (American Express
International Deposit Company) with AEFC in the Cayman Islands that issues
deposit certificates denominated in U.S. dollars, Euros, pounds sterling and
Australian dollars.
AEB has a global network with offices in 44 countries. Its worldwide
headquarters is located in New York City. It maintains an international banking
agency in New York City and facility offices in San Francisco, San Diego and Los
Angeles, California. Its wholly owned Edge Act subsidiary, American Express Bank
International ("AEBI"), is headquartered in Miami, Florida and has branches in
New York City and Miami.
AEB's business does not, as a whole, experience significant seasonal
fluctuations.
Selected Financial Information Regarding AEB
Subject to certain requirements related to transactions with affiliates,
AEB provides banking services to the Company and its subsidiaries. AEB is only
one of many international and local banks used by the Company and its other
subsidiaries. The Company and its subsidiaries constitute only a few of AEB's
many customers.
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AEB's total assets were $14.2 billion at December 31, 2003 and $13.2
billion at December 31, 2002. Liquid assets, consisting of cash and deposits
with banks, trading account assets and investments, were $5.4 billion at
December 31, 2003 and $5.8 billion at December 31, 2002.
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<PAGE>
The following table sets forth a summary of financial data for AEB at and
for each of the three years in the period ended December 31, 2003 (dollars in
millions):
<TABLE>
<CAPTION>
2003 2002 2001
------- ------- -------
<S> <C> <C> <C>
Net financial revenues $ 801 $ 745 $ 649
Non-interest expenses $ 650 $ 624 $ 663
Net income (loss) (a) $ 102 $ 80 $ (13)
------- ------- -------
Cash and deposits with banks $ 1,890 $ 2,420 $ 2,215
Investments $ 3,341 $ 3,169 $ 3,044
Loans, net $ 6,371 $ 5,466 $ 5,157
Total assets $14,232 $13,234 $11,878
------- ------- -------
Customers' deposits $10,775 $ 9,501 $ 8,411
Shareholder's equity $ 949 $ 947 $ 761
------- ------- -------
Return on average assets (b) .74% .66% (.11)%
Return on average total shareholder's equity (b) 10.8% 9.6% (1.7)%
------- ------- -------
Reserve for loan losses/total loans 1.70% 2.70% 2.42%
30+ days past due PFS loans as a % of total PFS loans 6.6% 5.4% 4.5%
Total loans/deposits from customers 60.17% 59.12% 62.83%
Average total shareholder's equity/average assets (b) 6.85% 6.89% 6.42%
Risk-based capital ratios: (c)
Tier 1 11.4% 10.9% 11.1%
Total 11.3% 11.4% 12.2%
Leverage ratio (c) 5.5% 5.3% 5.3%
Qualifying capital: (c)
Tier 1 capital $ 775 $ 652 $ 592
Total capital $ 767 $ 680 $ 654
Adjusted risk-weighted assets (c) $ 6,804 $ 5,985 $ 5,403
Adjusted average assets (c) $14,186 $12,208 $11,146
------- ------- -------
Average interest rates earned: (d)
Loans (e) 5.19% 6.41% 7.32%
Investments (f) 5.26% 5.88% 6.49%
Deposits with banks 1.87% 2.15% 4.04%
------- ------- -------
Total interest-earning assets (f) 4.57% 5.44% 6.35%
------- ------- -------
Average interest rates paid: (d)
Deposits from customers 1.97% 2.38% 4.15%
Borrowed funds, including long-term debt 1.53% 3.46% 5.63%
------- ------- -------
Total interest-bearing liabilities 1.93% 2.55% 4.35%
------- ------- -------
Net interest income/total average interest-earning
assets (f) 2.77% 3.23% 2.75%
------- ------- -------
</TABLE>
(a) Included in 2003 net income is a net restructuring reserve reversal of $2
million ($1 million after-tax). Included in 2002 net income is a net
restructuring reserve reversal of $3 million
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<PAGE>
($2 million after-tax). Included in the 2001 net loss are restructuring
charges of $96 million ($65 million after-tax).
(b) Computed on a trailing 12-month basis using total assets and total
shareholder's equity as included in the Consolidated Financial Statements
prepared in accordance with GAAP. Prior period amounts have been revised to
conform to current presentation.
(c) Based on the legal entity financial statements of American Express Banking
Corp.
(d) Based on average balances and related interest income and expense,
including the effect of interest rate products where appropriate and
transactions with related parties.
(e) Interest rates have been calculated based upon average total loans,
including those in non-performing status.
(f) On a tax equivalent basis.
The following tables set forth the composition of AEB's gross loan
portfolio at year end for each of the five years in the period ended December
31, 2003 (millions):
<TABLE>
<CAPTION>
By Geographic Region (a) 2003 2002 2001 2000 1999
- ------------------------ ------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C>
Asia/Pacific $2,320 $2,117 $2,052 $1,791 $1,698
Europe 1,502 1,553 1,370 1,500 1,414
Latin America 1,344 801 871 856 824
North America 780 533 273 352 255
Indian Subcontinent 375 439 440 442 449
Middle East 128 94 197 302 346
Africa 35 80 82 100 111
------ ------ ------ ------ ------
Total $6,484 $5,617 $5,285 $5,343 $5,097
====== ====== ====== ====== ======
</TABLE>
55
<PAGE>
<TABLE>
<CAPTION>
2003
----------------------------
Due
After
1 Year Due
Due Through After 5
Within 1 5 Years Years
By Type and Maturity Year (b) (b) 2003 2002 2001 2000 1999
- --------------------------------------- -------- ------- ------- ------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Consumer and private banking loans:
Loans secured by real estate $ 17 $ 13 $310 $ 340 $ 397 $ 486 $ 361 $ 255
Installment, revolving credit and other 3,654 454 -- 4,108 3,338 2,705 1,839 1,637
------ ---- ---- ------ ------ ------ ------ ------
3,671 467 310 4,448 3,735 3,191 2,200 1,892
------ ---- ---- ------ ------ ------ ------ ------
Commercial loans:
Loans secured by real estate 48 15 2 65 61 139 157 141
Loans to businesses (c) 20 12 76 108 307 732 1,397 1,508
Loans to banks and other
financial institutions 1,702 161 -- 1,863 1,399 1,168 1,519 1,475
Loans to governments and
official institutions -- -- -- -- 29 28 34 37
------ ---- ---- ------ ------ ------ ------ ------
1,770 188 78 2,036 1,796 2,067 3,107 3,161
------ ---- ---- ------ ------ ------ ------ ------
All other loans (d) -- -- -- -- 86 27 36 44
-------- ------- ------- ------ ------ ------ ------ ------
Total $5,441 $655 $388 $6,484 $5,617 $5,285 $5,343 $5,097
======== ======= ======= ====== ====== ====== ====== ======
</TABLE>
(a) Based primarily on the domicile of the borrower.
(b) Loans due after one year at fixed (predetermined) interest rates totaled
$266 million, while those at floating (adjustable) interest rates totaled
$777 million.
(c) Business loans, which accounted for approximately 2% of the portfolio as of
December 31, 2003, were distributed over 25 commercial and industrial
categories.
(d) Included in 2002 is $37 million of loans resulting from a change in
ownership of AEB's Brazilian operations from that of a joint venture to a
consolidated subsidiary.
The following tables present information about AEB's impaired (or
non-performing) loans. AEB defines an impaired loan as any loan (other than
certain smaller-balance consumer loans) on which the accrual of interest is
discontinued because the contractual payment of principal or interest has become
90 days past due or if, in management's opinion, the borrower is unlikely to
meet its contractual obligations. For smaller-balance consumer loans, management
establishes reserves it believes to be adequate to absorb credit losses inherent
in the portfolio. Generally, these loans are written off in full when an
impairment is determined (e.g., borrower's
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<PAGE>
personal bankruptcy) or when the loan becomes 120 or 180 days past due,
depending on loan type.
<TABLE>
<CAPTION>
(in millions: December 31,) 2003 2002 2001 2000 1999
<S> <C> <C> <C> <C> <C>
Loans to businesses $67 $103 $116 $135 $149
Loans to financial institutions and other 11 16 7 2 12
Real estate loans-commercial -- -- -- -- 7
--- ---- ---- ---- ----
Total $78 $119 $123 $137 $168
=== ==== ==== ==== ====
</TABLE>
<TABLE>
<CAPTION>
December 31,
------------
(in millions) 2003 2002
---- ----
<S> <C> <C>
Recorded investment in impaired loans not requiring an
allowance (a) $ 1 $ 4
Recorded investment in impaired loans requiring
an allowance 77 115
--- ----
Total recorded investment in impaired loans $78 $119
=== ====
Credit reserves for impaired loans $43 $ 73
=== ====
<CAPTION>
December 31,
------------------
(in millions) 2003 2002 2001
---- ---- ----
<S> <C> <C> <C>
Average recorded investment in impaired loans $98 $121 $152
Interest income recognized on a cash basis $ 1 $ 1 --
</TABLE>
(a) These loans do not require a reserve for credit losses since the values of
the impaired loans equal or exceed the recorded investments in the loans.
In addition to the above, AEB had other non-performing assets totaling $15
million at December 31, 2003 and 2002, and $22 million at December 31, 2001. The
2003, 2002 and 2001 balances primarily consist of matured foreign exchange and
derivative contracts and credit-related commitments.
The following table sets forth a summary of AEB's reserve for credit losses
at and for each of the five years in the period ended December 31, 2003 (dollars
in millions):
57
<PAGE>
<TABLE>
<CAPTION>
2003 2002 2001 2000 1999
<S> <C> <C> <C> <C> <C>
Reserve for credit losses -
January 1, $158 $148 $153 $189 $259
Provision for credit losses (a) 102 147 91 28 29
Translation and other (3) 10 (2) (4) 1
---- ---- ---- ---- ----
Subtotal 257 305 242 213 289
---- ---- ---- ---- ----
Write-offs:
Consumer loans (b) 118 115 38 19 25
Real estate loans - commercial -- -- -- -- 1
Loans to businesses 33 39 72 43 50
Loans to banks and other financial
institutions -- 7 -- 2 14
Foreign exchange and derivative
contracts -- -- 1 6 20
Recoveries:
Consumer loans (9) (5) (6) (6) (7)
Loans to businesses (5) (8) (10) (3) (3)
Loans to banks and other financial
institutions (1) (1) (1) (1) --
---- ---- ---- ---- ----
Net write-offs (recoveries) 136 147 94 60 100
---- ---- ---- ---- ----
Reserve for credit losses December 31, (c) $121 $158 $148 $153 $189
==== ==== ==== ==== ====
</TABLE>
(a) The increases in 2002 and 2001 were primarily due to credit loss provisions
related to the PFS business in the Asia/Pacific region, particularly Hong
Kong. The provision for 2001 includes a restructuring-related provision of
$26 million relating to the further reduction of corporate lending
activities in parts of Asia, Latin America and Europe.
(b) The increases in 2003 and 2002 were primarily due to write-offs in the PFS
business in the Asia/Pacific region, primarily Hong Kong.
(c) Allocation:
<TABLE>
<CAPTION>
2003 2002 2001 2000 1999
<S> <C> <C> <C> <C> <C>
Loans $113 $151 $128 $137 $169
Other assets, primarily matured foreign
exchange and other derivatives 6 6 4 14 16
Credit-related commitments 2 1 16 2 4
---- ---- ---- ---- ----
Total reserve for credit losses $121 $158 $148 $153 $189
==== ==== ==== ==== ====
</TABLE>
Interest income is recognized on an accrual basis. When loans are placed on
non-performing status, all previously accrued but unpaid interest is reversed
against current interest income. Cash receipts of interest on non-performing
loans are recognized either as interest income or as a reduction of principal,
based upon management's judgment as to the ultimate collectibility of principal.
Generally, a non-performing loan may be returned to performing status when all
contractual amounts due are reasonably assured of repayment within a reasonable
period and the borrower shows sustained repayment performance, in accordance
with the contractual terms of the loan or when the loan has become well secured
and is in the process of collection.
Interest-earning advances under lines of credit and other similar consumer
loans are written off against the reserve for credit losses upon reaching
specified contractual delinquency stages, or earlier in the event of the
borrower's personal bankruptcy or if the loan is otherwise deemed uncollectible.
Interest income on these loans generally accrues until the loan is written off.
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<PAGE>
AEB separately maintains and provides for reserves relating to credit
losses for loans, derivatives and other credit-related commitments. The reserve
is established by charging a provision for credit losses against income. The
amount charged to income is based upon several factors, including historical
credit loss experience in relation to outstanding credits, a continuous
assessment of the collectibility of each credit, and management evaluation of
exposures in each applicable country as related to current and anticipated
economic and political conditions. Management's assessment of the adequacy of
the reserve is inherently subjective, as significant estimates are required.
Amounts deemed uncollectible are charged against the reserve and subsequent
recoveries, if any, are credited to the reserve.
The reserve for credit losses related to loans is reported as a reduction
of loans. The reserve related to derivatives is reported as a reduction of
trading assets and the reserve related to other credit-related commitments is
reported in other liabilities.
Risks
The global nature of AEB's business activities is such that concentrations
of credit to particular industries and geographic regions are not unusual. AEB
continually monitors and actively manages its credit concentrations to reduce
the associated risk. At December 31, 2003, AEB had significant investments in
certain on- and off-balance sheet financial instruments, which were primarily
represented by deposits with banks, securities, loans, forward contracts,
contractual amounts of letters of credit (standby and commercial) and
guarantees. The counterparties to these financial instruments were primarily
unrelated to AEB, and principally consisted of consumers to whom AEB has
extended loans, banks and other financial institutions and various commercial
and industrial enterprises and foreign government agencies operating
geographically within the Asia/Pacific region, Europe, North America, Latin
America, the Indian Subcontinent and Middle East/Africa.
During late 2001 and 2002, the Hong Kong market experienced a significant
increase in bankruptcy filings due to an economic slowdown and changes in Hong
Kong law regarding personal bankruptcy. Accordingly, during 2002 AEB
substantially increased its provision for consumer loan losses in its PFS
business to reflect the expectation of higher bankruptcy related write-offs and
suspended all new loan originations in Hong Kong. In 2003 losses in this PFS
portfolio stabilized. AEB continues to closely monitor this portfolio.
AEB's earnings are sensitive to interest rates due to the fact that the
maturity of liabilities does not, generally, match the maturity of assets. AEB
invests excess liquidity in high grade fixed income investment securities and
maintains mandatory investment portfolios in a number of countries as required
by central banks. AEB monitors and controls interest rate risk through a
rigorous Earnings at Risk process both on a country and global level. AEB
manages the duration/maturity mismatch of assets and liabilities through
adjusting the duration/maturity of assets and/or by using derivatives. On
occasion, AEB may decide to mismatch in anticipation of a change in future
interest rates in accordance with guidelines. AEB sells foreign exchange
products to its customer base and may decide to take proprietary trading
positions as a result of this business. The foreign exchange risk is managed at
the branch and global level through a
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<PAGE>
rigorous Value at Risk process. AEB manages counterparty credit exposure on
foreign exchange and interest rate derivatives with a maturity greater than one
year through a dynamic mark-to-market and potential future exposure process, in
which the current positive fair value and potential future exposure are
calculated and managed against counterparty loan equivalent limits.
Because AEB conducts significant business in emerging market countries and
in countries that are less politically and economically stable than the United
States or those in Western Europe, its Private Banking, PFS and FIG activities
may be subject to greater credit and compliance risks than are found in more
well-developed jurisdictions. AEB continually monitors its exposures in such
jurisdictions, and regularly evaluates its client base to identify potential
legal risks as a result of clients' use of AEB's banking services.
For a discussion relating to AEB's use of derivative financial instruments,
see page 72 under the caption "Risk Management," and Note 9 on pages 93 through
95 of the Company's 2003 Annual Report to Shareholders, which portions of such
report are incorporated herein by reference.
Competition
The banking services of AEB are subject to vigorous competition everywhere
AEB operates. Competitors include local and international banks whose assets
often exceed those of AEB, other financial institutions (including certain other
subsidiaries of the Company) and, in certain cases, governmental agencies.
Regulation
American Express Banking Corp. ("AEBC") is a New York investment company
organized under Article XII of the New York Banking Law and is a wholly owned
direct subsidiary of the Company. American Express Bank Ltd. ("AEBL") is a
wholly owned direct subsidiary of AEBC. AEBC, AEBL and AEBL's global network of
offices and subsidiaries are subject to continuous supervision and examination
by the New York State Banking Department ("NYSBD") pursuant to the New York
Banking Law. AEBC does not directly engage in banking activities.
AEBL's branches, representative offices and subsidiaries are licensed and
regulated in the jurisdictions in which they do business and are subject to the
same local requirements as other competitors that have the same license. Within
the United States, AEBL's New York agency is supervised and regularly examined
by the NYSBD. In addition, the Board of Governors of the Federal Reserve System
(the "Federal Reserve Board") regulates, supervises and examines AEBI and the
California Department of Financial Institutions supervises and examines AEBL's
San Francisco, Los Angeles and San Diego facility offices.
Since AEBC and AEBL do not do business in the United States, except as an
incident to their activities outside the United States, the Company's
affiliation with AEBC and AEBL neither causes the Company to be subject to the
provisions of the Bank Holding Company Act of 1956, as amended, nor requires it
to register as a bank holding company under the Federal
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<PAGE>
Reserve Board's Regulation Y. AEBC and AEBL are not members of the Federal
Reserve System, are not subject to supervision by the FDIC, and are not subject
to any of the restrictions imposed by the Competitive Equality Banking Act of
1987 other than anti-tie-in rules with respect to transactions involving
products and services of certain of its affiliates. AEBC and AEBL are not
financial holding companies under the Gramm-Leach-Bliley Act.
The NYSBD requires AEBC, on a consolidated basis, to comply with the
Federal Reserve Board's risk-based capital guidelines and complementary leverage
constraints applicable to state-chartered banks that are members of the Federal
Reserve System. Pursuant to the FDIC Improvement Act of 1991, the Federal
Reserve Board, among other federal banking agencies, adopted regulations
defining levels of capital adequacy. Under these regulations, a bank is deemed
to be well capitalized if it maintains a Tier 1 risk-based capital ratio of at
least 6%, a total risk-based capital ratio of at least 10%, and a leverage ratio
of at least 5%. Based on AEBC's Tier 1 risk-based capital, total risk-based
capital and leverage ratios, AEBC is considered to be well capitalized at
December 31, 2003.
In recent years U.S. and foreign regulatory authorities, together with
international organizations, have raised increasing concerns over the ability of
criminal organizations and corrupt persons to use global financial
intermediaries to facilitate money laundering. In the United States, the
Secretary of the Treasury has issued regulations pursuant to the USA PATRIOT Act
(the "Patriot Act") that specifically impact certain money laundering prevention
activities of entities involved, as AEBL is, in correspondent and private
banking activities. AEBL has taken steps as necessary to comply with these
regulations, and increased its compliance efforts to combat money laundering
generally. AEBL may increase these efforts to address further regulations
expected under the USA PATRIOT Act as well as other evolving supervisory
standards and requirements in jurisdictions in which AEBL does business.
In April 2003 the Basel Committee on Banking Supervision (the "Basel
Committee") issued a final consultative paper on the proposed new Basel Capital
Accord ("new Accord"). The new Accord proposes risk-based capital guidelines
that will replace the previous guidelines that have been in effect since 1988.
The Basel Committee is comprised of representatives of central banks and bank
supervisors from the major industrialized countries and develops broad
supervisory standards and guidelines governing the prudential supervision of
banking institutions. The new Accord sets capital requirements for operational
risk and refines the existing capital requirements for credit and market risk
exposures. The goal of the Basel Committee is to complete the new Accord by
mid-year 2004, with implementation to take effect in member countries by
year-end 2006. AEBC is monitoring the status and progress of the new Accord.
AEBC believes that implementation of the new Accord, to the extent applicable to
AEBC, could increase minimum risk-based capital requirements and result in
changes to certain of AEBC's information systems, processes and employee
training.
CORPORATE AND OTHER
The American Express brand and its attributes - trust, security, integrity,
quality and customer service - are key assets of the Company. The Company
continues to focus on the
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<PAGE>
brand by educating employees about its attributes and by further incorporating
these attributes into its programs, products and services.
During the year, the Company continued its strategy to obtain patents for
its businesses. In 2003, the Company filed 65 U.S. patent applications.
The Company has devoted substantial resources to its global technology
platforms and undertaken significant efforts to protect and manage its
proprietary systems and the data collected and stored on such systems. In this
vein, the Company has continued to focus on ways to secure such systems from
"hackers" and other unauthorized users.
The Company uses information about its customers to develop products and
services and to provide personalized services. Regulatory activity in the areas
of privacy and data protection continues to grow worldwide and is generally
being driven by the growth of technology and concomitant concerns about the
rapid and widespread dissemination and use of information.
The Gramm-Leach-Bliley Act ("GLBA") became effective on July 1, 2001. GLBA
provides for disclosure of a financial institution's privacy policies and
practices and affords customers the right to "opt out" of the institution's
disclosure of their personal financial information to unaffiliated third parties
(with limited exceptions). This legislation does not preempt state laws that
afford greater privacy protections to consumers, and several states have adopted
such legislation. For example, in 2003 California enacted that state's Financial
Information Privacy Act. The Company will continue its efforts to safeguard the
data entrusted to it in accordance with applicable law and its internal data
protection policies, including taking steps to reduce the potential for identity
theft, while seeking to properly collect and use data to achieve its business
objectives.
The Fair Credit Reporting Act of 1970 ("FCRA") regulates the disclosure of
consumer credit reports by consumer reporting agencies and the use of consumer
credit report information by banks and other companies. Provisions of FCRA that
preempt states from enacting legislation regarding the sharing of customer
information among affiliates and certain other uses of consumer credit report
information were set to expire on January 1, 2004. The January 1, 2004
expiration date of these provisions was removed by the enactment in December
2003 of the Fair and Accurate Credit Transactions Act ("FACT Act"). The FACT Act
significantly amends the FCRA to make the exchange of consumer information among
affiliates, together with several other activities involving consumer credit
report information, subject to only federal law. At the same time, the FACT Act
requires any company that receives information concerning a consumer from an
affiliate to permit the consumer to opt out from having that information used to
market the company's products to the consumer.
The FACT Act further amends FCRA by adding several new provisions designed
to prevent or mitigate identity theft and to improve the accuracy of consumer
credit information. New duties are imposed on both consumer reporting agencies
and on businesses that furnish or use information contained in consumer credit
reports. For example, a furnisher of information is required to implement
procedures to prevent the reporting of any information that it learns is the
result of identity theft. Also, if a consumer disputes the accuracy of
information provided to a
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<PAGE>
consumer reporting agency, the furnisher of that information must conduct an
investigation and respond to the consumer in a timely fashion. The FACT Act also
requires grantors of credit that use consumer credit report information to offer
a borrower credit on terms that are "materially less favorable" than the terms
offered to most of the lender's other customers to notify the borrower that the
terms are based on a consumer credit report and that the borrower is entitled to
receive a free copy of the report from the consumer reporting agency. The
effective dates and implementing regulations for many of the provisions of the
FACT Act are expected to be issued by various federal regulatory agencies during
2004. The FACT Act and the implementing regulations are not expected to have a
material impact on the Company's business operations or its ability to provide
personalized services to its customers.
In the United States, the Patriot Act was enacted in October 2001 in the
wake of the September 11th terrorist attacks. The Patriot Act contains a wide
variety of provisions aimed at fighting terrorism, including provisions aimed
at impeding terrorists' ability to access and move funds used in support of
terrorist activities. Among other things, the Patriot Act directs federal
regulators, led by the Secretary of the Treasury, to promulgate regulations
or take other steps to require financial institutions to establish anti-money
laundering programs that meet certain standards, including expanded reporting
and enhanced information gathering and record-keeping requirements. While the
Company has long maintained anti-money laundering programs in its businesses,
the Secretary of the Treasury has issued regulations under the Patriot Act
applicable to certain of the Company's business activities conducted within
AEB, TRS, AEFA and their subsidiaries and affiliates, prescribing minimum
standards for such anti-money laundering programs, and the Company has enhanced
existing programs and developed and implemented new ones in response to these
new regulations. For example, in April 2002, the U.S. Treasury issued draft
regulations applicable to operators of credit card networks (such as Visa,
MasterCard, Diners Club, Discover and American Express) that would require
credit card networks to have risk-based programs to screen institutions that are
licensed to issue cards or acquire transactions from merchants on their
networks. As a result, the Company developed and implemented a program for its
Global Network Services business, and in 2003 completed its screening of almost
all such licensed institutions. In 2004 and beyond, the Global Network Services
business will complete its screening of existing licensed institutions and apply
the screening under this program to all new licensing relationships. The Company
has also developed and implemented a Customer Identification Program applicable
to many of the Company's businesses, and has enhanced its Know Your Customer and
Enhanced Due Diligence programs in others. The Company intends to take steps to
comply with any additional regulations that are promulgated. In addition, the
Company will take steps to comply with anti-money laundering initiatives adopted
in other jurisdictions in which it conducts business.
The Company has significant operations in the European Union, including a
number of regulated businesses. The Company monitors developments in EU
legislation, as well as in the other markets in which it operates, in order to
ensure that it is in a position to comply with all applicable legal
requirements. Significant EU developments include the EU Insurance Mediation
Directive pursuant to which each EU member state is required to authorize
general insurance intermediaries in its state by mid-January 2005. Subject to
this authorization, intermediaries will then be permitted to conduct insurance
intermediation in other member states via the EU "passporting" regime. In
addition, the EU directive on the supplementary supervision
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of financial conglomerates is required to be implemented by each EU member state
by January 2005. This Directive contemplates that certain financial
conglomerates involved in banking, insurance and investment activities will be
subject to a system of supplementary supervision at the level of the holding
company constituting the financial conglomerate. The Directive requires such
financial conglomerates to, among other things, implement measures to prevent
excessive leverage and multiple gearing of capital, and to maintain internal
control processes to address risk concentrations as well as risks arising from
significant intragroup transactions.
In 2002, the Company outsourced most of its technology operations work to
IBM. This arrangement, which has a seven-year term with options to extend,
enables the Company to benefit from IBM's expertise while lowering its
information technology costs. IBM has taken on responsibility for managing most
of the Company's day-to-day technology operations functions, including
mainframe, midrange and desktop systems; web hosting; database administration;
help desk services; and data center operations. The Company's Technologies
organization continues to retain its core technology competencies, including
information technology strategy, managing strategic relationships with
technologies' partners, developing and maintaining applications and databases,
and managing the technologies' portfolios of its businesses.
FOREIGN OPERATIONS
The Company derives a significant portion of its revenues from the use of
the Card, Travelers Cheques, travel and other financial products and services in
countries outside the United States and continues to broaden the use of these
products and services outside the United States. (For a discussion of the
Company's revenue by geographic region, see Note 18 to the Company's
Consolidated Financial Statement, which can be found on pages 104 through 106 of
the Company's Annual Report to Shareholders.) Political and economic conditions
in these countries (including the availability of foreign exchange for the
payment by the local card issuer of obligations arising out of local
Cardmembers' spending outside such country, for the payment of card bills by
Cardmembers who are billed in other than their local currency, and for the
remittance of the proceeds of Travelers Cheque sales) can have an effect on the
Company's revenues. Substantial and sudden devaluation of local Cardmembers'
currency can also affect their ability to make payments to the local issuer of
the card in connection with spending outside the local country. The majority of
AEB's revenues are derived from business conducted in countries outside the
United States. Some of the risks attendant to those operations include currency
fluctuations and changes in political, economic and legal environments in each
such country.
As a result of its foreign operations, the Company is exposed to the
possibility that, because of foreign exchange rate fluctuations, assets and
liabilities denominated in currencies other than the United States dollar may be
realized in amounts greater or less than the United States dollar amounts at
which they are currently recorded in the Company's Consolidated Financial
Statements. Examples of transactions in which this may occur include the
purchase by Cardmembers of goods and services in a currency other than the
currency in which they are billed; the sale in one currency of a Travelers
Cheque denominated in a second currency; foreign exchange positions held by AEB
as a consequence of its client-related foreign exchange trading
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operations; and, in most instances, investments in foreign operations. These
risks, unless properly monitored and managed, could have an adverse effect on
the Company's operations.
The Company's policy in this area is generally to monitor closely all
foreign exchange positions and to minimize foreign exchange gains and losses,
for example, by offsetting foreign currency assets with foreign currency
liabilities, as in the case of foreign currency loans and receivables, which are
financed in the same currency. An additional technique used to manage exposures
is the spot and forward purchase or sale of foreign currencies as a hedge of net
exposures in those currencies as, for example, in the case of the Cardmember and
Travelers Cheque transactions described above. Additionally, Cardmembers may be
charged in United States dollars for their spending outside their local country.
The Company's investments in foreign operations are hedged by forward exchange
contracts or by identifiable transactions, where appropriate.
IMPORTANT FACTORS REGARDING FORWARD-LOOKING STATEMENTS
Various forward-looking statements have been made in this Form 10-K Annual
Report. Forward-looking statements may also be made in the Company's other
reports filed with the SEC, in its press releases and in other documents. In
addition, from time to time, the Company through its management may make oral
forward-looking statements. Forward-looking statements are subject to risks and
uncertainties, including those identified below, which could cause actual
results to differ materially from such statements. The words "believe,"
"expect," "anticipate," "optimistic," "intend," "plan," "aim," "will," "may,"
"should," "could," "would," "likely" and similar expressions are intended to
identify forward-looking statements. Readers are cautioned not to place undue
reliance on these forward-looking statements, which speak only as of the date on
which they are made. The Company undertakes no obligation to update publicly or
revise any forward-looking statements. Factors that could cause actual results
to differ materially from the Company's forward-looking statements include, but
are not limited to, the following:
The Company's ability to:
o successfully implement a business model that allows for significant
earnings growth based on revenue growth that is lower than historical
levels, including the ability to improve its operating expense to
revenue ratio both in the short-term and over time, which will depend
in part on the effectiveness of reengineering and other cost control
initiatives, as well as factors impacting the Company's revenues;
o grow its business and meet or exceed its return on equity target by
reinvesting approximately 35% of annually generated capital and
returning approximately 65% of such capital to shareholders, over
time, which will depend, in part, on the Company's ability to manage
its capital needs and the effect of business mix, acquisitions and
rating agency requirements;
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o increase investment spending, which will depend in part on the equity
markets, other factors affecting revenues and the success of
reengineering programs, and capitalize on such investments to improve
business metrics;
o extend the value of the American Express brand, which historically has
been associated with the card and travel businesses (e.g., perception
of trust, security and quality service), to a broad range of financial
products and services in the financial services industry;
o manage credit risk related to consumer debt, business loans, merchant
bankruptcies and other credit exposures, both in the United States and
abroad, including unseasoned balances in TRS' lending portfolios;
o accurately estimate the provision for credit losses in the Company's
outstanding portfolio of loans and receivables;
o accurately estimate the fair value of the assets in the Company's
investment portfolio and, in particular, those investments that are
not readily marketable;
o successfully achieve in a timely manner significant cost savings and
other benefits (totaling at least $1 billion in the aggregate) from
the reengineering efforts being implemented or considered by the
Company, including cost management, structural and strategic measures
such as vendor, process, facilities and operations consolidation,
outsourcing functions (including, among others, technologies
operations), relocating certain functions to lower cost overseas
locations, moving internal and external functions to the Internet to
save costs, the scale-back of corporate lending in certain regions,
and planned staff reductions relating to certain of such reengineering
actions;
o successfully expand its online and offline distribution channels and
cross-selling for financial, travel, card and other products and
services to its customer base, both in the United States and
internationally;
o participate in payment and other systems material to its businesses on
a fair and competitive basis;
o control and manage operating, infrastructure, advertising and
promotion and other expenses as business expands or changes, including
balancing the need for longer term investment spending;
o invest successfully in, and compete at the leading edge of, technology
developments across all businesses, e.g., transaction processing, data
management, customer interactions and communications, travel
reservations systems, prepaid products, multi-application smart cards
and risk management and compliance systems;
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o recover under its insurance policies for losses resulting from the
September 11th terrorist attacks;
o recognize evolutionary technology developments by competitors or
others which could hasten business model obsolescence or, because of
patent rights held by such competitors or others, limit or restrict
the Company's use of desired business technology or processes;
o develop and implement successfully enterprise-wide interactive
strategies;
o improve online customer satisfaction, Web site performance and online
availability for its customers and clients;
o effectively leverage its assets, such as its brand, customers and
international presence in the Internet environment; and
o attract and retain qualified employees in all its businesses.
TRS' ability to:
o increase consumer and business spending and borrowing on its credit
and charge Cards and travel related services products, gain market
share and develop and issue new or enhanced products that capture
greater share of customers' total spending on Cards issued on its
network both in the United States and in its international operations;
o execute the Company's global corporate services strategy including
greater penetration of middle market companies, increasing capture of
non-T&E spending through greater use of the Company's corporate
purchasing solutions and other means, and further globalizing business
capabilities;
o manage credit risk and exposure in a challenging economic environment;
o cost effectively manage and expand Cardmember benefits, including
moderating the growth of marketing, promotion and rewards expenses;
o accurately estimate the provision for the cost of the Company's
Membership Rewards program;
o expand the Global Network Services business, which, in the case of
expansion in the United States, will depend on the ultimate outcome in
the Department of Justice suit against Visa and MasterCard challenging
their restrictions on member banks' issuing cards on the American
Express Network in the United States, and which will depend more
generally on the extent to which such business enhances the Company's
brand, allows the Company to leverage its transaction processing
scale, expands merchant coverage of the network overall,
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provides GNS partners with the benefits of greater cardmember loyalty
and higher spend per customer, and benefits merchants through greater
transaction volume and additional higher spend customers;
o enhance significantly its international operations, which will depend
in part on its ability to reduce expenses for reinvestment in the
international business and expand the proprietary and third
party-issued Card businesses;
o retain Cardmembers in consumer lending products after low introductory
rate periods have expired; and
o sustain premium discount rates, increase merchant coverage and reduce
suppression, all of which will depend in part on its ability to
maintain a customer base that appeals to merchants and to develop
deeper merchant relationships through creation of new products and
services.
AEFA's ability to:
o sell certain high-yield investments at expected values and within
anticipated timeframes and to maintain its high-yield portfolio at
certain levels in the future;
o further improve investment performance in AEFA's businesses, including
attracting and retaining high-quality personnel, and reduce outflows
of invested funds;
o develop and roll out new and attractive products to clients in a
timely manner and effectively manage the economics in selling a
growing volume of non-proprietary products to clients;
o manage developments relating to AEFA's platform structure for
financial advisors, including the ability to increase advisor
productivity (including adding new clients), increase the growth of
productive new advisors and create efficiencies in the infrastructure;
o resolve the potential conflicts inherent in its growing multi-channel
delivery systems;
o make accurate assumptions used to determine the amount of amortization
of deferred acquisition costs ("DAC") with respect to sale of annuity,
insurance and certain mutual fund products;
o respond effectively to fluctuation in the equity and fixed income
markets, a short-term financial market crash or a long-term financial
market decline or stagnation, or a prolonged period of relatively low
or high interest rates, any of which could affect the amount and types
of investment products sold by AEFA, AEFA's ability to earn target
spreads on fixed account liabilities, the level of management,
distribution and other fees received based on the market value of
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managed assets, AEFA's ability to recover DAC as well as the timing of
that DAC amortization, and the level of guaranteed minimum death
benefits paid to clients;
o respond effectively to changes to or elimination of federal tax
benefits for AEFA's products and to other changes in laws and
regulations that could adversely affect sales of mutual fund,
insurance and annuity products;
o respond effectively if the independent directors of the mutual funds
managed by AEFA reduce the compensation paid to AEFA or terminate the
contracts to manage, distribute and/or service those funds; and
o respond effectively to changes in federal securities laws affecting
the mutual fund industry, including possible enforcement proceedings
and rules and regulations to prevent trading abuses or restrict or
eliminate certain types of fees, change mutual fund governance and
mandate additional disclosures.
In general:
o the continuation of favorable trends, such as increasing T&E spending,
strong equity markets, lower interest rates and improving credit
provisions;
o the potential negative effect on the Company's businesses and
infrastructure, including information technology systems, of terrorist
attacks, disasters or other catastrophic events in the future;
o the impact on the Company's businesses resulting from continuing
geopolitical uncertainty;
o relationships with third-party providers of various computer systems
and other services integral to the operations of the Company's
businesses;
o the triggering of obligations to make payments to certain cobrand
partners, merchants, vendors and customers under contractual
arrangements with such parties under certain circumstances;
o potential deterioration in the high-yield sector and other investment
areas, which could result in further losses in AEFA's investment
portfolio;
o credit trends and the rate of bankruptcies, which can affect spending
on card products, debt payments by individual and corporate customers
and businesses that accept the Company's card products, and returns on
the Company's investment portfolios;
o fluctuations in foreign currency exchange rates;
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o a downturn in the Company's businesses and/or negative changes in the
Company's and its subsidiaries' credit ratings, which could result in
contingent payments under contracts, decreased liquidity and higher
borrowing costs;
o the effect of fluctuating interest rates, which could affect AEFA's
spreads in the investment and insurance businesses and benefits
credited to clients' accounts, TRS' and AEB's borrowing costs;
o changes in laws or government regulations applicable to the Company's
businesses, including tax laws, or in regulatory activity in the areas
of customer privacy, consumer protection, business continuity and data
protection, which, among other things, could impact the sale of the
Company's products and services, the Company's ability to cross sell
products and services and the Company's ability to operate its
businesses generally, including to maintain present levels of fees,
finance charges and other revenues;
o political or economic instability in certain regions or countries,
which could affect commercial or other lending activities, among other
businesses, or restrictions on convertibility of certain currencies;
o the costs and integration of acquisitions;
o competitive pressures in all of the Company's major businesses; and
o outcomes and costs associated with litigation, compliance and
regulatory matters.
SEGMENT INFORMATION AND CLASSES OF SIMILAR SERVICES
Information with respect to the Company's operating segments, geographic
operations and classes of similar services is set forth in Note 18 to the
Consolidated Financial Statements of the Company, which appears on pages 104
through 106 of the Company's 2003 Annual Report to Shareholders, which Note is
incorporated herein by reference.
EXECUTIVE OFFICERS OF THE COMPANY
All of the executive officers of the Company as of March 1, 2004, none of
whom has any family relationship with any other and none of whom became an
officer pursuant to any arrangement or understanding with any other person, are
listed below. Each of such officers was elected to serve until the next annual
election of officers or until his or her successor is elected and qualified.
Each officer's age is indicated by the number in parentheses next to his or her
name.
KENNETH I. CHENAULT - Chairman and Chief Executive Officer;
Chairman and Chief Executive Officer, TRS
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Mr. Chenault (52) has been Chairman of the Company since April 2001 and
Chief Executive Officer of the Company since January 2001. Prior thereto he had
been President and Chief Operating Officer of the Company since February 1997.
He has also been Chairman of TRS since April 2001 and Chief Executive Officer of
TRS since February 1997.
JONATHAN S. LINEN - Vice Chairman
Mr. Linen (60) has been Vice Chairman of the Company since August 1993.
JAMES M. CRACCHIOLO - Group President, Global Financial Services;
President and Chief Executive Officer, AEFC;
Chairman and Chief Executive Officer, AEFA;
Chairman, AEB;
Mr. Cracchiolo (45) has been Group President, Global Financial Services of
the Company since June 2000, President and Chief Executive Officer of AEFC since
November 2000 and Chairman and Chief Executive Officer of AEFA since March
2001. Prior thereto he had been President and CEO of AEFA since June 2000. Mr.
Cracchiolo also had been President and Chief Executive Officer of TRS
International from May 1998 through July 2003.
GARY L. CRITTENDEN - Executive Vice President and Chief Financial Officer
Mr. Crittenden (50) has been Executive Vice President and Chief Financial
Officer of the Company since June 2000. Prior thereto he had been Senior Vice
President and Chief Financial Officer of Monsanto since September 1998.
URSULA F. FAIRBAIRN - Executive Vice President, Human Resources and Quality
Mrs. Fairbairn (61) has been Executive Vice President, Human Resources and
Quality of the Company since December 1996.
EDWARD P. GILLIGAN - Group President, Global Corporate Services and
International Payments, TRS
Mr. Gilligan (44) has been Group President, Global Corporate Services, TRS
since June 2000 and President, International Payments, since July 2003.
JOHN D. HAYES - Executive Vice President, Global Advertising and Brand
Management and Chief Marketing Officer
Mr. Hayes (49) has been Executive Vice President, Global Advertising and
Brand Management of the Company since May 1995 and Chief Marketing Officer of
the Company since August 2003.
DAVID C. HOUSE - Group President, Global Network and Establishment
Services and Travelers Cheque and Prepaid Services
Group, TRS
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Mr. House (54) has been Group President, Global Network and Establishment
Services and Travelers Cheque and Prepaid Services Group, TRS since June 2000.
Prior thereto he had been President, TRS Establishment Services since October
1995.
ALFRED F. KELLY, JR. - Group President, U.S. Consumer and Small Business
Services, TRS
Mr. Kelly (45) has been Group President, U.S. Consumer and Small Business
Services, TRS since June 2000. Prior thereto he had been President, Consumer
Card Services Group, TRS since October 1998.
LOUISE M. PARENT - Executive Vice President and General Counsel
Ms. Parent (53) has been Executive Vice President and General Counsel of
the Company since May 1993.
GLEN SALOW - Executive Vice President and Chief Information Officer
Mr. Salow (47) has been Executive Vice President and Chief Information
Officer of the Company since March 2000. Prior thereto he had been Senior Vice
President, E-Commerce, United States Card and Travel Services, TRS since
December 1999. Prior thereto he had been Senior Vice President, Information
Technology Strategy and Global Platform Development, TRS since April 1999. Prior
thereto he had been Senior Vice President, Technology Operations, TRS since
November 1997.
THOMAS SCHICK - Executive Vice President, Corporate Affairs and
Communications
Mr. Schick (57) has been Executive Vice President, Corporate Affairs and
Communications of the Company since March 1993.
EMPLOYEES
The Company had approximately 78,200 employees on December 31, 2003.
ITEM 2. PROPERTIES
The Company's principal executive offices are in a 51-story, 2.2 million
square foot building located in lower Manhattan, which also serves as the
headquarters for TRS and AEB. This building, which is on land leased from the
Battery Park City Authority for a term expiring in 2069, is one of four office
buildings in a complex known as the World Financial Center. The Company has a
48% ownership interest in the building. In 2002, an affiliate of Brookfield
Financial Properties acquired the 52% interest in the building that had
previously been owned by Lehman Brothers Holdings Inc.
Due to its proximity to the World Trade Center, the Company's headquarters
was damaged as a result of the terrorist attacks of September 11, 2001. As a
result of these events, the Company was required to temporarily relocate its
headquarters and the Company entered into
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five new leases for approximately 750,000 square feet of space in the New York,
New Jersey and Connecticut area. The repair work to the Company's headquarters
was completed on schedule during 2002 and the Company relocated back into the
Company headquarters. The Company has subleased a portion of this temporary
space, and continues its efforts to sublease the remaining additional space in
the tri-state area. The Company also relocated back to the World Financial
Center employees from its Jersey City facility who had been permanently based at
such location prior to September 11. The Company has subleased the Jersey City
space to a third party.
Other principal locations of TRS include: the American Express Service
Centers in Fort Lauderdale, Florida; Phoenix, Arizona; Greensboro, North
Carolina; Salt Lake City, Utah; and the Amex Canada Inc. headquarters in
Markham, Ontario, Canada, all of which are owned by the Company or its
subsidiaries.
AEFA operates its business from three principal locations, each of which is
located in Minneapolis, Minnesota: the American Express Financial Center, which
the Company leases, the Operations Center, which the Company owns, and the
Client Service Center, which the Company also owns. Title to the Operations
Center is being transferred to TRS, which transfer is expected to be completed
in the first quarter of 2004. AEFA's lease term for the American Express
Financial Center, which began in November 2000, is for 20 years with several
options to extend the term. AEFA also owns Oak Ridge Conference Center, a
training facility and conference center in Chaska, Minnesota.
IDS Property Casualty, a subsidiary of AEFA, owns its corporate
headquarters in Green Bay, Wisconsin.
Generally, the Company and its subsidiaries lease the premises they occupy
in other locations. Facilities owned or occupied by the Company and its
subsidiaries are believed to be adequate for the purposes for which they are
used and are well maintained.
In February 2000, the Company entered into a ten-year agreement with
Trammell Crow Corporate Services, Inc. for facilities, project and transaction
management and other related services. The agreement covers North and South
America and parts of Europe.
ITEM 3. LEGAL PROCEEDINGS
The Company and its subsidiaries are involved in a number of legal and
arbitration proceedings, including class actions, concerning matters arising in
connection with the conduct of their respective business activities. The Company
believes it has meritorious defenses to each of these actions and intends to
defend them vigorously. The Company believes that it is not a party to, nor are
any of its properties the subject of, any pending legal or arbitration
proceedings that would have a material adverse effect on the Company's
consolidated financial condition, results of operations or liquidity. However,
it is possible that the outcome of any such proceedings could have a material
impact on results of operations in any particular reporting period as the
proceedings are resolved. Certain legal proceedings involving the Company are
set forth below.
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On August 15, 2000, Roger M. Lindmark ("Lindmark") filed a putative class
action captioned Lindmark v. American Express Company, American Express Travel
Related Services Company, Inc. ("TRS") and American Express Centurion Bank
("AECB") in the United States District Court for the Central District of
California. The complaint principally alleges that class members improperly were
charged daily compounded interest on revolving credit cards and that AECB and
TRS improperly applied credits for returned merchandise against balance transfer
balances. Lindmark asserted various claims including violation of the federal
Truth in Lending Act, breach of contract, fraud and unfair and deceptive
practices and violations of the California Consumer Legal Remedies Act. The
action sought statutory and actual damages, restitution and injunctive relief.
Although the Company believed it had meritorious defenses to this action, in
light of the inherent uncertainties and the burden and expense of lengthy
litigation, the Company reached an agreement to settle the lawsuit. On April 23,
2003 the court approved the proposed settlement filed by the parties. The
settlement provided for certification of two classes. The first class, defined
as the "finance charge" class, included all customers who incurred finance
charges between August 1994 and September 2002. The settlement of the first
class consists of a settlement fund in the amount of $15,950,000 that will be
distributed with interest beginning in May 2004 on a pro rata basis to those
class members who are entitled to a refund. The second class, defined as the
"delayed notice" class, includes all customers who did not receive change in
terms notices and who, as a result, incurred increased charges between
September 2001 and September 2002. Commencing in April 2003, these class
members received a refund of charges affected by the terms changes that were
incurred during the class period. The Company has made appropriate reserves
for the settlement amounts.
In June 2002, British Airways filed an action in the United States District
Court for the Southern District of New York captioned British Airways PLC v.
American Express Travel Related Services Company, Inc. The action arose over
British Airways' decision not to accept any credit or charge cards (including
the American Express card) in the United Kingdom for payment of "corporate net
fares", which are privately negotiated fares with corporations. British Airways'
decision has the effect of requiring corporate customers who wish to use credit
or charge cards for U.K. corporate net fares to purchase tickets through travel
agents and pay a surcharge. The Company believes that British Airways' action is
a material breach of its Merchant Agreement with the Company. British Airways'
complaint asks the court for a declaration of whether its conduct is proper.
British Airways' complaint also seeks unspecified monetary damages, interest,
costs and attorneys' fees. British Airways has also amended its original
complaint to add various claims alleging breaches by the Company of various
contracts with the Company. American Express has filed an Answer and
Counterclaim to the British Airways' complaint, and amended complaint, seeking
unspecified monetary damages, interest, punitive damages, costs, attorneys'
fees, and injunctive relief.
Beginning in mid-July 2002, 12 putative class action lawsuits were filed in
the United States District Court for the Southern District of New York. In
October 2002, these cases were consolidated under the caption In Re American
Express Company Securities Litigation. These
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lawsuits allege violations of the federal securities laws and the common law in
connection with alleged misstatements regarding certain investments in
high-yield bonds and write downs in the 2000-2001 timeframe. The purported
class covers the period from July 18, 1999 to July 17, 2001. The actions seek
unspecified compensatory damages as well as disgorgement, punitive damages,
attorneys' fees and costs, and interest. The Company has filed a motion to
dismiss the complaint and is awaiting the court's ruling on such motion.
In November 2002, a suit, captioned Haritos et al. v. American Express
Financial Corporation and IDS Life Insurance Company, was filed in the United
States District Court for District of Arizona. The suit is filed by plaintiffs
who purport to represent a class of all persons that have purchased financial
plans from AEFA advisors during an undefined class period. Plaintiffs allege
that the sale of the plans violate the Investment Advisers Act of 1940. The suit
seeks an unspecified amount of damages, rescission and injunctive relief. The
Company believes that it has meritorious defenses to this suit and intends to
defend this case vigorously. The Company filed a motion to dismiss, which is
pending.
The Company has been named in several purported class actions in various
state courts alleging that the Company violated the respective state's laws by
wrongfully collecting amounts assessed on converting transactions made in
foreign currencies to U.S. dollars and/or failing to properly disclose the
existence of such amounts in its Cardmember agreements and billing statements.
The plaintiffs in the actions seek, among other remedies, injunctive relief,
money damages and/or attorneys' fees on their own behalf and on behalf of the
putative class of persons similarly situated. In February 2004, the Company and
certain of its subsidiaries filed a motion in the U.S. District Court for the
Southern District of Florida in the case captioned Lipuma v. American Express
Bank, American Express Travel Related Services Company, Inc. and American
Express Centurion Bank (filed in August 2003) seeking preliminary approval of a
nationwide class action settlement to resolve all lawsuits and allegations with
respect to the Company's collection and disclosure of fees assessed transactions
made in foreign currencies. The motion asked the Court to preliminarily approve
a settlement pursuant to which the Company would (a) deposit $66 million into a
fund that would be established to reimburse class members with valid claims and
pay attorneys' fees and (b) make certain changes to the disclosures in its
Cardmember agreements and billing statements regarding its foreign currency
conversion practices. The motion also asked the court to enjoin all other
proceedings that make related allegations pending a final approval hearing
including, but not limited to the following cases: (i) Environmental Law
Foundation, et al. v. American Express Company, et al., Superior Court of
Alameda County, California (file March 2003); (ii) Rubin v. American Express
Company and American Express Travel Related Services Company, Inc., Circuit
Court of Madison County, Illinois (filed April 2003); (iii) Angie Arambula, et
al. v. American Express Company, et al., District Court of Cameron County,
Texas, 103rd Judicial District (filed May 2003); (iv) Fuentes v. American
Express Travel Related Services Company, Inc. and American Express Company,
District Court of Hidalgo County, Texas (filed May 2003); (v) Wick v. American
Express Company, et al., Circuit Court of Cook County, Illinois (filed May
2003); (vi) Bernd Bildstein v. American Express Company, et al., Supreme Court
of Queens County, New York (filed June 2003); (vii) Janowitz v. American Express
Company, et al., Circuit Court of Cook County, Illinois (filed September 2003);
and (viii) Paul v. American Express Company, et al., Superior Court of Orange
County, California (filed January 2004). Such motion was
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approved by the Court in February 2004; however, the proposed settlement remains
subject to final approval which is expected to be considered by the Court later
in 2004. The Company has established reserves to cover the proposed payment that
would be made to reimburse class members and pay attorneys' fees.
In late April 2003, a purported class action, captioned Lorraine L. Osborne
v. ADC Telecommunications, Inc. et al. was filed in the United States District
Court, District of Minnesota. The action names American Express Trust Company
("AETC"), a wholly owned subsidiary of the Company, as a defendant in relation
to AETC's role as directed trustee of the retirement savings plan of ADC
Telecommunications (the "ADC Retirement Plan"). The complaint alleges that AETC
breached fiduciary duties under the Employee Retirement Income Security Act of
1974, as amended (ERISA), in relation to the retention of ADC common stock in
the ADC Retirement Plan. The complaint seeks certification of a class of all
participants who held ADC common stock in accounts in the ADC Retirement Plan
during the period from November 2, 2000 to the present. Based on these
allegations, the plaintiffs seek injunctive relief, restitution, unspecified
monetary damages and attorneys' fees and costs. AETC has been voluntarily
dismissed from this case without prejudice.
In May 2003, a purported class action, captioned eGeneral Medical, Inc., et
al. v. Visa U.S.A., Inc. et al., was filed in the Eastern District of North
Carolina alleging that the fees charged to Internet merchants when funds have
been advanced by American Express and are later charged back to those merchants
because a consumer transaction has been determined to be the result of fraud, or
when a transaction has been disputed by the consumer and the dispute is resolved
in the consumer's favor are excessive. The plaintiffs seek treble damages in an
unspecified amount "but which is, at a minimum, hundreds of millions of
dollars," disgorgement of fees earned, injunctive and other relief. In November
2003 the plaintiffs made a motion seeking the Court's permission to dismiss the
action as to American Express Company without prejudice. Such motion has been
preliminarily approved.
The Company has been named in a number of purported class actions in which
the plaintiffs allege an unlawful antitrust tying arrangement between the
Company's charge cards, credit cards and debit cards in violation of various
state and federal laws, including the following: (i) Cohen Rese Gallery et al.
v. American Express Company et al., U.S. District Court for the Northern
District of California (filed July 2003); (ii) Italian Colors Restaurant v.
American Express Company et al., U.S. District Court for the Northern District
of California (filed August 2003); (iii) DRF Jeweler Corp. v. American Express
Company et al., U.S. District Court for the Southern District of New York (filed
December 2003); (iv) Hayama Inc. v. American Express Company et al., Superior
Court of California, Los Angeles County (filed December 2003); (v) Chez Noelle
Restaurant v. American Express Company et al., U.S. District Court for the
Southern District of New York (filed January 2004); (vi) Mascari Enterprises
d/b/a Sound Stations v. American Express Company et al., U.S. District Court for
the Southern District of New York (filed January 2004) and (vii) Mims
Restaurant v. American Express Company et al., U.S. District Court for the
Southern District of New York (filed February 2004). The plaintiffs in these
actions seek injunctive relief and an unspecified amount of damages. Upon
motion to the Court by the Company, the venue of the Cohen Rese and Italian
Colors actions was moved to the U.S. District Court for the
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<PAGE>
Southern District of New York in December 2003. Each of the above-listed actions
(except for Hayama) is now pending in the U.S. District Court for the Southern
District of New York.
In June 2003, a purported class action captioned Hudgins Moving & Storage
Co., Inc. v. American Express Company et al., was filed in the Circuit Court for
Davidson County, Tennessee against the Company and one of its subsidiaries on
behalf of a class of Tennessee merchants, alleging an unlawful antitrust tying
arrangements among the Company's charge cards, credit cards and "debit cards".
The plaintiff alleged that the purported tying arrangement violated the
Tennessee Trade Practices Act and the Tennessee Consumer Protection Act of 1977.
Defendants removed this action to the United States District Court for the
Middle District of Tennessee. In July 2003, defendants moved to compel
arbitration or, alternatively, to dismiss the complaint for failure to state a
claim upon which relief can be granted. The case was remanded to the State Court
on plaintiff's motion and was dismissed voluntarily without prejudice in January
2004.
In July 2003, a National Association of Securities Dealers, Inc. ("NASD")
arbitration panel held Securities America, Inc. ("SAI"), a wholly owned
subsidiary of the Company, liable in connection with certain claims filed by
clients of a former broker of SAI who adopted an assumed identity to work for
SAI and then allegedly engaged in improper practices in connection with his
clients and their accounts. The arbitration panel awarded the clients
approximately $1.4 million in compensatory damages and approximately $4.1
million in punitive damages. SAI filed a motion to have the decision of the
arbitration panel vacated. The matter was subsequently settled for a reduced
amount. To date, 16 additional claims by other clients (or groups of clients) of
the former broker have been filed against SAI in various courts and before the
NASD. Eleven of those claims have been settled or resolved by final judgment.
In July 2003, a motion to authorize a class action captioned Option
Consommateurs and Normand Painchaud v. American Express Bank of Canada et al.
was filed in the Superior Court of Quebec, District of Montreal. The motion,
which also names as defendants Citibank Canada, MBNA Canada, Capital One and
Royal Bank of Canada, alleges that the defendants have violated the Quebec
Consumer Protection Act by imposing finance charges on credit card transactions
prior to 21 days following the receipt of the statement containing the charge.
It is alleged that the Quebec Consumer Protection Act provisions which require a
21 day grace period prior to imposing finance charges applies to credit cards
issued by American Express Bank of Canada in Quebec and that finance charges
imposed prior to this grace period violate the Act. The proposed class claims
seek reimbursement of all finance charges imposed in violation of the Act, $200
in punitive damages per class member, interest and fees and costs.
The SEC, NASD, and several state attorneys general has brought numerous
enforcement proceedings against individuals and firms challenging several mutual
fund industry practices including late trading (allowing mutual fund customers
to receive 4:00 p.m. ET prices for orders placed or confirmed after 4:00 p.m.
ET), market timing (abusive rapid trading in mutual fund shares), disclosure of
revenue sharing arrangements, which are paid by fund advisers or companies to
brokerage firms who agree to sell those funds, and inappropriate sales of B (no
front end load) shares. AEFA has received requests for information and has been
contacted by regulatory authorities concerning its practices and is cooperating
fully with these inquiries.
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In addition to the foregoing, in February 2004 AEFA was one of 15 firms
that settled an enforcement action brought by the SEC and the NASD relating to
breakpoint discounts (i.e., volume discounts available to investors who make
large mutual fund purchases) pursuant to which AEFA agreed to pay a fine of $3.7
million and to reimburse customers to whom the firm failed to deliver such
discounts. These amounts were accrued by AEFA in 2003.
In early March 2004, a purported class action, captioned Naresh Chand v.
American Express Company, American Express Financial Corporation and American
Express Financial Advisors, Inc. was filed in the United States District Court
for the Southern District of New York. The plaintiff alleges violations of
certain federal securities laws. In particular the plaintiff alleges that the
defendants did not adequately disclose "incentive arrangements" for the sale of
certain of the defendants' "preferred" mutual funds. The lawsuit seeks an
unspecified amount of damages, rescission and restitution.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of the Company's security holders
during the last quarter of its fiscal year ended December 31, 2003.
PART II
ITEM 5. MARKET FOR COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The principal market for the Company's Common Shares is The New York
Stock Exchange under the trading symbol AXP. Its Common Shares are also listed
in the United States on the Boston, Chicago and Pacific Stock Exchanges. The
Company had 47,967 common shareholders of record at December 31, 2003. For price
and dividend information with respect to such Common Shares, see Note 22 to the
Consolidated Financial Statements on page 108 of the Company's 2003 Annual
Report to Shareholders, which Note is incorporated herein by reference. For
information on securities authorized for issuance under equity compensation
plans, see the material included under the heading "Equity Compensation Plan
Information" on page 27 of the Company's definitive proxy statement for the
Company's Annual Meeting of Shareholders to be held on April 26, 2004, which
will be filed with the SEC within 120 days of the close of the Company's last
fiscal year. The material found under such heading is incorporated herein by
reference.
On November 21, 2003, the Company completed a private offering of $2.0
billion aggregate original principal amount of 1.85% convertible senior
debentures due 2033. The debentures were sold pursuant to a purchase agreement
among the Company and J.P. Morgan Securities Inc., Lehman Brothers Inc. and
Merrill Lynch, Pierce, Fenner & Smith Incorporated, as joint book-running
managers for the initial purchasers in reliance on the exemption from
registration under Section 4(2) of the Securities Act of 1933, as amended.
Pursuant to the purchase agreement, the debentures were offered and sold by the
initial purchasers only to qualified institutional buyers as defined in and
pursuant to Rule 144A under the Securities Act. The offering price of the
debentures was 100% of their principal amount. The initial purchasers of the
debentures received aggregate purchase discounts or commissions of $25 million.
The debentures are convertible into the Company's common stock (i) at any
time if the closing sale price of the Company's common stock for at least 20
trading days in a period of 30
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consecutive trading days of any calendar quarter is more than 125% of the base
conversion price (initially, 125% of $69.41, or $86.76) as of the last day of
such calendar quarter (the "contingent trigger price"), (ii) during any period
in which a credit rating assigned to the debentures by certain rating agencies
falls below a specified level or no credit rating is assigned to the debentures
by certain rating agencies, (iii) during the five business day period after any
five consecutive trading day period in which the trading price per debenture for
each day in that period is less than 96% of the product of the closing sale
price of the Company's common stock and the conversion rate on each such day,
provided that if the closing sale price of the Company's common stock on the day
prior to conversion is greater than the effective conversion rate but less than
or equal to 125% of the base conversion price, the debentures are convertible
into an amount equal to the accreted principal amount of the debentures plus
accrued and unpaid interest as of the conversion date, (iv) if the Company calls
the debentures for redemption, or (v) if the Company takes certain corporate
actions. The base conversion price and the conversion trigger price of a
debenture are dependent on the accreted principal amount of the debenture and
will increase as the principal amount of the debenture increases. The accreted
principal amount of a debenture will be equal to the original principal amount
of $1,000 per debenture increased daily by a yield, which until November, 30,
2006 will be equal to 0% per annum, and thereafter will be reset to 1.85% per
annum; provided that if a remarketing reset event (as described below) occurs,
the yield will equal the rate determined in connection with the remarketing of
the debentures unless the Company elects, in connection with a remarketing, to
have the debentures bear cash interest. The Company has the right to deliver on
conversion of debentures, in lieu of shares of the Company's common stock, cash
or a combination of common stock and cash, provided that at any time prior to
maturity, the Company may elect irrevocably to pay in cash the accreted
principal amount of any debentures submitted for conversion plus accrued and
unpaid interest as of the conversion date.
If the debentures are converted before December 1, 2006, (A) if the
applicable stock price of the Company's common stock (which is equal to the
average of the closing sale prices of the common stock over the ten trading day
period starting on the third trading day following the conversion date of the
debentures) is less than or equal to the base conversion price, a holder will
receive a number of shares for each debenture equal to the base conversion rate,
and (B) if the applicable stock price of the Company's common stock is greater
than the base conversion price, a holder will receive a number of shares for
each debenture equal to the base conversion rate plus an additional number of
shares based upon the amount by which the applicable stock price of the
Company's common stock exceeds the base conversion price, subject to an
aggregate limit of 22.7633 shares of common stock per debenture (such limit
being subject to the same adjustments as apply to the base conversion rate
discussed below). The base conversion rate is 14.4073 subject to adjustment for
(i) stock dividends, (ii) subdivisions or combinations, or certain
reclassifications, of the shares of the Company's common stock, (iii)
distributions to all holders of shares of the Company's common stock of certain
rights or warrants to purchase shares of the Company's common stock, (iv)
distributions to all holders of shares of the Company's common stock of shares
of the Company's capital stock or the Company's assets or evidences of
indebtedness, (v) cash dividends in excess of the Company's current cash
dividends, or (vi) certain payments made by the Company in connection with
tender offers and exchange offers.
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If the debentures are converted on or after December 1, 2006, a holder will
receive a number of shares of the Company's common stock for each debenture
equal to the fixed conversion rate. The fixed conversion rate will be
established pursuant to the provisions discussed in the preceding paragraph
assuming a conversion date that is 13 trading days prior to December 1, 2006,
and is subject to the same adjustments as apply to the base conversion rate.
If a remarketing reset event occurs, the debentures will no longer be
convertible. Otherwise, the ability to surrender debentures for conversion will
expire at the close of business on their stated maturity date, unless they have
previously been redeemed or repurchased. A remarketing reset event will occur if
the average closing sale prices of the Company's common stock over a ten trading
day period ending on the trading day immediately preceding December 1 of 2006,
2008, 2013, 2018, 2023 or 2028 is less than the effective conversion price as of
such trading day. The effective conversion price is equal to the accreted
principal amount per debenture (initially $1,000) divided by the conversion rate
then in effect (assuming a conversion date 13 trading days prior to the date of
determination).
Unless a remarketing reset event occurs, the Company can redeem all or a
portion of the debentures at any time on or after December 1, 2006 at a price
equal to 100% of the accreted principal amount of the debentures to be redeemed
plus any accrued and unpaid interest to but excluding the redemption date.
The holders may require the Company to purchase all or a portion of their
debentures on December 1 of 2006, 2008, 2013, 2018, 2023 or 2028 if the
debentures are not immediately convertible on such date and a remarketing reset
event has not occurred. The holders may also require the Company to purchase all
or a portion of their debentures upon a change of control. The purchase price is
equal to 100% of the accreted principal amount of the debentures to be purchased
plus any accrued and unpaid interest up to but excluding the date of purchase.
The Company used the aggregate net proceeds from the offering of debentures
for general corporate purposes.
ITEM 6. SELECTED FINANCIAL DATA
The "Consolidated Five-Year Summary of Selected Financial Data" appearing
on page 111 of the Company's 2003 Annual Report to Shareholders is incorporated
herein by reference.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION
The information set forth under the heading "Financial Review" appearing on
pages 27 through 73 of the Company's 2003 Annual Report to Shareholders is
incorporated herein by reference.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
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The information set forth under the headings "Risk Management" appearing on
pages 43 through 44, page 59, pages 68 through 69 and page 72 and Note 9 to the
Consolidated Financial Statements on pages 93 through 95 of the Company's 2003
Annual Report to Shareholders is incorporated herein by reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The "Consolidated Financial Statements," the "Notes to Consolidated
Financial Statements" and the "Report of Ernst & Young LLP Independent Auditors"
appearing on pages 74 through 108 and page 110 of the Company's 2003 Annual
Report to Shareholders are incorporated herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not Applicable.
ITEM 9A. CONTROLS AND PROCEDURES
The Company's management, with the participation of the Company's Chief
Executive Officer and Chief Financial Officer, has evaluated the effectiveness
of the Company's disclosure controls and procedures (as such term is defined in
Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as
amended (the "Exchange Act")) as of the end of the period covered by this
report. Based on such evaluation, the Company's Chief Executive Officer and
Chief Financial Officer have concluded that, as of the end of such period, the
Company's disclosure controls and procedures are effective. There have not been
any changes in the Company's internal control over financial reporting (as such
term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during
the Company's fourth fiscal quarter that have materially affected, or are
reasonably likely to materially affect, the Company's internal control over
financial reporting.
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PART III
ITEMS 10, 11, 12 and 13. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY;
EXECUTIVE COMPENSATION; SECURITY OWNERSHIP OF CERTAIN
BENEFICIAL OWNERS AND MANAGEMENT; CERTAIN
RELATIONSHIPS AND RELATED TRANSACTIONS
The Company will file with the SEC, within 120 days after the close of its
last fiscal year, a definitive proxy statement, pursuant to Regulation 14A,
which involves the election of directors. The following portions of such proxy
statement are incorporated herein by reference: page 4, paragraph 4, sentence
1 - material included under the heading "Corporate Governance"; page 5,
paragraph 6 - material included under the heading "Corporate Governance - Board
Meetings"; page 5 - material included in the table (including the footnotes
thereto) under the heading "Corporate Governance - Membership on Board
Committees"; page 6 - material included under the heading "Corporate
Governance - Audit Committee"; pages 8 through 9 - material included under the
heading "Compensation of Directors"; pages 10 through 11 - material included
under the heading "Ownership of Our Common Shares"; pages 11 through 13 -
material included under the heading "Item 1 - Election of Directors" and
pages 21 through 31 (excluding the material preceding the Summary Compensation
Table on page 21 and the portions titled "Performance Graph" on page 26 and
"Directors and Officers Liability Insurance" on page 31). In addition, the
Company has provided, under the caption "Executive Officers of the Company"
at pages 70 through 72 hereof, the information regarding executive officers
called for by Item 401(b) of Regulation S-K.
The Company has adopted a set of Corporate Governance Principles, which
together with the charters of the five standing committees of the Board of
Directors (Audit; Compensation and Benefits; Executive; Nominating and
Governance; and Public Responsibility) and the Company's Code of Conduct (which
constitutes the Company's code of ethics), provide the framework for the
governance of the Company. A complete copy of the Company's Corporate Governance
Principles, the Charters of each of the Board committees and the Code of Conduct
(which applies not only to the Company's Chief Executive Officer, Chief
Financial Officer and Comptroller, but also to all other employees of the
Company) may be found by clicking on the "Corporate Governance" link found on
the Company's Investor Relations Web site at http://ir.americanexpress.com.
Interested persons may also access the Company's Investor Relations Web site
through the Company's main Web site at www.americanexpress.com by clicking on
the "About American Express" link, which is located at the bottom of the
Company's homepage. (Information from such sites is not incorporated by
reference into this report.) Copies of these materials also are available
without charge upon written request to the Secretary of the Company.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information set forth under the heading "Item 2 -- Selection of
Auditors -- Audit Fees;" " -- Audit-Related Fees;" " -- Tax Fees;" " -- All
Other Fees;" " -- Other Services Provided by Ernst & Young;" and " -- Policy
on Pre-Approval of Retention of Independent Auditor which will appear on
pages 13 and 14 of the Company's definitive proxy statement, is incorporated
herein by reference.
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PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) 1. Financial Statements:
See Index to Financial Statements on page F-1 hereof.
2. Financial Statement Schedules:
See Index to Financial Statements on page F-1 hereof.
3. Exhibits:
See Exhibit Index on pages E-1 through E-6 hereof.
(b) Reports on Form 8-K:
Form 8-K, dated October 8, 2003, Item 9, reporting on the completion of the
acquisition of (i) Threadneedle Asset Management Holdings LTD from Zurich
Financial Services Group and (ii) Rosenbluth International, Inc.
Form 8-K, dated October 27, 2003, Items 9 and 12, reporting on the
Company's financial results for the three and nine months ended September 30,
2003, and including a 2003 Third Quarter Earnings Supplement.
Form 8-K, dated November 17, 2003, Items 5 and 7, announcing that it
intends to raise $1.8 billion through an offering of convertible debt securities
due 2033.
Form 8-K, dated November 18, 2003, Items 5 and 7, announcing the pricing of
$1.8 billion principal amount of convertible debt securities due 2033.
Form 8-K, dated November 21, 2003, Items 5 and 7, announcing the completion
of its sale of $2.0 billion principal amount of its convertible debt securities
due 2033.
Form 8-K, dated December 10, 2003, Item 9, announcing the appointment of
Joan Lordi Amble to the position of Senior Vice President and Comptroller.
Form 8-K, dated January 26, 2004, Items 9 and 12, reporting on the
Company's financial results for the three months and fiscal year ended December
31, 2003, and including a 2003 Fourth Quarter/Full Year Earnings Supplement.
Form 8-K, dated January 27, 2004, Item 9, announcing the election of Ursula
M. Burns to the Board of Directors of the Company.
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Form 8-K, dated February 2, 2004, Item 9, reporting on the announcement of
a card issuing alliance between the Company and MBNA America.
Form 8-K, dated February 4, 2004, Item 9, reporting on a presentation
delivered by Kenneth I. Chenault, Chairman and Chief Executive Officer of the
Company, and David C. House, Group President, Global Network and Establishment
Services, to the financial community.
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Company has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
AMERICAN EXPRESS COMPANY
March 12, 2004 /s/ Gary L. Crittenden
-------------------------------
Gary L. Crittenden
Executive Vice President and
Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the Company
and in the capacities and on the date indicated.
/s/ Kenneth I. Chenault /s/ F. Ross Johnson
- ----------------------------- -------------------------
Kenneth I. Chenault F. Ross Johnson
Chairman, Chief Executive Director
Officer and Director
/s/ Gary L. Crittenden /s/ Vernon E. Jordan, Jr.
- ----------------------------- -------------------------
Gary L. Crittenden Vernon E. Jordan, Jr.
Executive Vice President and Director
Chief Financial Officer
/s/ Joan Lordi Amble /s/ Jan Leschly
- -------------------------------------- -------------------------
Joan Lordi Amble Jan Leschly
Senior Vice President and Comptroller Director
/s/ Daniel F. Akerson /s/ Richard A. McGinn
- -------------------------------------- -------------------------
Daniel F. Akerson Richard A. McGinn
Director Director
/s/ Charlene Barshefsky /s/ Edward D. Miller
- -------------------------------------- -------------------------
Charlene Barshefsky Edward D. Miller
Director Director
/s/ William G. Bowen /s/ Frank P. Popoff
- -------------------------------------- -------------------------
William G. Bowen Frank P. Popoff
Director Director
/s/ Ursula M. Burns /s/ Robert D. Walter
- -------------------------------------- -------------------------
Ursula M. Burns Robert D. Walter
Director Director
/s/ Peter R. Dolan
- --------------------------------------
Peter R. Dolan
Director
March 12, 2004
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AMERICAN EXPRESS COMPANY
INDEX TO FINANCIAL STATEMENTS
COVERED BY REPORT OF INDEPENDENT AUDITORS
(Item 14(a))
<TABLE>
<CAPTION>
Annual
Report to
Shareholders
Form 10-K (Page)
------------- ------------
<S> <C> <C>
American Express Company and Subsidiaries:
Data incorporated by reference from attached 2003
Annual Report to Shareholders:
Report of independent auditors............................ 110
Consolidated statements of income for the three
years ended December 31, 2003......................... 74
Consolidated balance sheets at December 31, 2003
and 2002.............................................. 75
Consolidated statements of cash flows for the
three years ended December 31, 2003................... 76
Consolidated statements of shareholders' equity for the
three years ended December 31, 2003................... 77
Notes to consolidated financial statements................ 78
Consent of independent auditors............................... F-2
Schedules:
I - Condensed financial information of the Company........... F-3 - F-6
II - Valuation and qualifying accounts for the three
years ended December 31, 2003........................ F-7
</TABLE>
All other schedules for American Express Company and subsidiaries have been
omitted since the required information is not present or not present in amounts
sufficient to require submission of the schedule, or because the information
required is included in the respective financial statements or notes thereto.
The consolidated financial statements of American Express Company
(including the report of independent auditors) listed in the above index, which
are included in the Annual Report to Shareholders for the year ended December
31, 2003, are hereby incorporated by reference. With the exception of the pages
listed in the above index, unless otherwise incorporated by reference elsewhere
in this Annual Report on Form 10-K, the 2003 Annual Report to Shareholders is
not to be deemed filed as part of this report.
F-1
<PAGE>
EXHIBIT 23
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in this Annual Report on Form
10-K of American Express Company of our report dated January 26, 2004
(hereinafter referred to as our Report), included in the 2003 Annual Report to
Shareholders of American Express Company (the "Company").
Our audits included the financial statement schedules of American Express
Company listed in Item 14(a). These schedules are the responsibility of the
Company's management. Our responsibility is to express an opinion based on our
audits. In our opinion, the financial statement schedules referred to above,
when considered in relation to the basic financial statements taken as a whole,
present fairly in all material respects the information set forth therein.
We also consent to the incorporation by reference in the Registration
Statements (Form S-8 No. 2-46918, No. 2-59230, No. 2-64285, No. 2-73954, No.
2-89680, No. 33-01771, No. 33-02980, No. 33-28721, No. 33-33552, No. 33-36422,
No. 33-48629, No. 33-62124, No. 33-65008, No. 33-53801, No. 333-12683, No.
333-41779, No. 333-52699, No. 333-73111, No. 333-38238, and No. 333-98479; Form
S-3 No. 2-89469, No. 33-43268, No. 33-50997, No. 333-32525, No. 333-45445, No.
333-47085, No. 333-55761 and No. 333-51828) and in the related Prospectuses of
our Report with respect to the consolidated financial statements and schedules
of American Express Company included and incorporated by reference in this
Annual Report on Form 10-K for the year ended December 31, 2003.
/s/ Ernst & Young LLP
- ------------------------
New York, New York
March 9, 2004
F-2
<PAGE>
AMERICAN EXPRESS COMPANY AND CONSOLIDATED SUBSIDIARIES
SCHEDULE I--CONDENSED FINANCIAL INFORMATION OF THE COMPANY
CONDENSED STATEMENTS OF INCOME
(Parent Company Only)
(millions)
<TABLE>
<CAPTION>
Years Ended December 31,
-------------------------
2003 2002 2001
------ ------ ------
<S> <C> <C> <C>
Revenues $ 185 $ 241 $ 248
------ ------ ------
Expenses:
Interest 383 339 347
Human resources 99 88 64
Other (a) 121 242 261
------ ------ ------
Total 603 669 672
------ ------ ------
Pretax loss (418) (428) (424)
Income tax benefit (159) (209) (199)
------ ------ ------
Net loss before equity in net income of
subsidiaries and affiliates (259) (219) (225)
Equity in net income of subsidiaries and
affiliates (b) 3,246 2,890 1,536
------ ------ ------
Net income $2,987 $2,671 $1,311
====== ====== ======
</TABLE>
(a) 2001 includes restructuring charges of $14 million ($9 million after-tax).
(b) 2003 includes a $20 million non-cash pretax charge ($13 million after-tax)
relating to the December 31, 2003 adoption of Financial Accounting
Standards Board Interpretation No. 46, "Consolidation of Variable Interest
Entities," revised December 2003.
See Notes to Condensed Financial Information of the Parent Company on page F-6.
F-3
<PAGE>
AMERICAN EXPRESS COMPANY AND CONSOLIDATED SUBSIDIARIES
SCHEDULE I--CONDENSED FINANCIAL INFORMATION OF THE COMPANY
CONDENSED BALANCE SHEETS
(Parent Company Only)
(millions, except share amounts)
<TABLE>
<CAPTION>
December 31,
-----------------
2003 2002
------- -------
ASSETS
<S> <C> <C>
Cash and cash equivalents $ 4 $ 9
Equity in net assets of subsidiaries and affiliates 16,456 14,567
Accounts receivable and accrued interest, less
reserves 5 26
Land, buildings and equipment - at cost, less
accumulated depreciation: 2003, $77; 2002, $80 47 141
Due from subsidiaries 6,286 4,386
Other assets 363 292
------- -------
Total assets $23,161 $19,421
======= =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Accounts payable and other liabilities $ 321 $ 724
Long-term debt 5,739 2,745
Due to subsidiaries 1,778 1,576
Intercompany debentures -- 515
------- -------
Total liabilities 7,838 5,560
Shareholders' equity:
Common shares, $.20 par value, authorized 3.6
billion shares; issued and outstanding 1,284
million shares in 2003 and 1,305 million
shares in 2002 257 261
Capital surplus 6,081 5,675
Retained earnings 8,793 7,606
Other comprehensive income, net of tax:
Net unrealized securities gains (losses) 931 1,104
Net unrealized derivatives losses (446) (538)
Foreign currency translation adjustments (278) (198)
Minimum pension liability (15) (49)
------- -------
Accumulated other comprehensive income 192 319
------- -------
Total shareholders' equity 15,323 13,861
------- -------
Total liabilities and shareholders' equity $23,161 $19,421
======= =======
</TABLE>
See Notes to Condensed Financial Information of the Parent Company on page F-6.
F-4
<PAGE>
AMERICAN EXPRESS COMPANY AND CONSOLIDATED SUBSIDIARIES
SCHEDULE I--CONDENSED FINANCIAL INFORMATION OF THE COMPANY
CONDENSED STATEMENTS OF CASH FLOWS
(Parent Company Only)
(millions)
<TABLE>
<CAPTION>
Years Ended December 31,
---------------------------
2003 2002 2001
------- ------- -------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income $ 2,987 $ 2,671 $ 1,311
Adjustments to reconcile net income to cash
(used in) provided by operating activities:
Equity in net income of subsidiaries and affiliates (3,246) (2,890) (1,536)
Dividends received from subsidiaries and affiliates 1,688 1,812 1,006
Other operating activities, primarily with subsidiaries (2,380) (705) (486)
------- ------- -------
Net cash (used in) provided by operating activities (951) 888 295
------- ------- -------
Purchase of land, building and equipment (19) (93) (16)
------- ------- -------
Net cash used in investing activities (19) (93) (16)
------- ------- -------
Cash flows from financing activities:
Issuance of American Express common shares 348 161 84
Repurchase of American Express common shares (1,391) (1,153) (626)
Dividends paid (471) (430) (424)
Net increase in debt 2,994 625 696
Redemption of intercompany debentures (515) -- --
------- ------- -------
Net cash provided by (used in) financing activities 965 (797) (270)
------- ------- -------
Net (decrease) increase in cash and cash equivalents (5) (2) 9
Cash and cash equivalents at beginning of year 9 11 2
------- ------- -------
Cash and cash equivalents at end of year $ 4 $ 9 $ 11
======= ======= =======
</TABLE>
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for interest (net of amounts capitalized) in 2003, 2002 and 2001 was
$182 million, $169 million and $116 million, respectively. Net cash received for
income taxes in 2003, 2002 and 2001 was $152 million, $231 million and $109
million, respectively.
See Notes to Condensed Financial Information of the Parent Company on page F-6.
F-5
<PAGE>
AMERICAN EXPRESS COMPANY AND CONSOLIDATED SUBSIDIARIES
SCHEDULE I--CONDENSED FINANCIAL INFORMATION OF THE COMPANY
NOTES TO CONDENSED FINANCIAL INFORMATION OF THE COMPANY
(Parent Company Only)
1. Principles of Consolidation
The accompanying condensed financial statements include the accounts of
American Express Company (the "Parent Company") and, on an equity basis,
its subsidiaries and affiliates. Parent Company revenues and expenses,
other than human resources expenses, are primarily related to intercompany
transactions with subsidiaries and affiliates. These financial statements
should be read in conjunction with the consolidated financial statements
and the accompanying notes thereto of American Express Company and its
subsidiaries.
Certain amounts from prior years have been reclassified to conform to the
current presentation.
2. Long-term debt consists of (millions):
<TABLE>
<CAPTION>
December 31,
---------------
2003 2002
------ ------
<S> <C> <C>
1.85% Convertible Debentures due December 1, 2033 $2,000 $ --
3 3/4% Notes due November 20, 2007 746 744
4 7/8% Notes due July 15, 2013 993 --
5 1/2% Notes due September 12, 2006 1,002 1,003
6 3/4% Senior Debentures due June 23, 2004 500 500
6 7/8% Notes due November 1, 2005 498 498
------ ------
$5,739 $2,745
====== ======
</TABLE>
Aggregate annual maturities of long-term debt for the five years ending
December 31, 2008 are as follows (millions): 2004, $500; 2005, $498; 2006,
$1,002; 2007, $746; and 2008, $0.
3. Intercompany debentures consisted solely of Junior Subordinated Debentures
issued to American Express Company Capital Trust I, a wholly owned
subsidiary of the Company. The Company exercised its option to redeem such
Junior Subordinated Debentures, in whole, on July 16, 2003. See Note 7 to
the Consolidated Financial Statements on page 92 of the Company's 2003
Annual Report to Shareholders (which Note is incorporated herein by
reference).
F-6
<PAGE>
AMERICAN EXPRESS COMPANY AND CONSOLIDATED SUBSIDIARIES
SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS
THREE YEARS ENDED DECEMBER 31, 2003
(millions)
<TABLE>
<CAPTION>
Reserve for credit losses, Reserve for doubtful
loans and discounts accounts receivable
--------------------------- ------------------------------
2003 2002 2001 2003 2002 2001
------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
Balance at beginning of period $ 1,226 $ 993 $ 796 $ 958 $ 1,166 $ 932
Additions:
Charges to income 1,336 1,526 1,415 1,304(a) 1,334(a) 1,554(a)
Recoveries of amounts previously
written-off 22 68 78 -- -- --
Deductions:
Charges for which reserves were
provided (1,463) (1,361) (1,296) (1,328) (1,542) (1,320)
------- ------- ------- ------- ------- -------
Balance at end of period $ 1,121 $ 1,226 $ 993 $ 934 $ 958 $ 1,166
======= ======= ======= ======= ======= =======
</TABLE>
(a) Before recoveries on accounts previously written-off, which are credited to
income (millions): 2003 - $223, 2002 - $241 and 2001 - $227.
F-7
<PAGE>
EXHIBIT INDEX
The following exhibits are filed as part of this Annual Report or, where
indicated, were already filed and are hereby incorporated by reference
(*indicates exhibits electronically filed herewith). Exhibits numbered
10.1 through 10.18, 10.20 through 10.28, 10.32 through 10.34 are management
contracts or compensatory plans or arrangements.
<TABLE>
<S> <C>
3.1 Company's Restated Certificate of Incorporation (incorporated by
reference to Exhibit 4.1 of the Company's Registration Statement on Form
S-3, dated July 31, 1997 (Commission File No. 333-32525)).
3.2 Company's Certificate of Amendment of the Certificate of Incorporation
(incorporated by reference to Exhibit 3.1 of the Company's Quarterly
Report on Form 10-Q (Commission File No. 1-7657) for the quarter ended
March 31, 2000).
3.3 Company's By-Laws, as amended through November 26, 2001 (incorporated by
reference to Exhibit 99.2B of the Company's Current Report on Form 8-K
(Commission File No. 1-7657) dated November 26, 2001).
4. The instruments defining the rights of holders of long-term debt
securities of the Company and its subsidiaries are omitted pursuant to
Section (b)(4)(iii)(A) of Item 601 of Regulation S-K. The Company hereby
agrees to furnish copies of these instruments to the SEC upon request.
10.1 American Express Company 1989 Long-Term Incentive Plan, as amended and
restated (incorporated by reference to Exhibit 10.1 of the Company's
Quarterly Report on Form 10-Q (Commission File No. 1-7657) for the
quarter ended March 31, 1996).
10.2 Amendment of American Express Company 1989 Long-Term Incentive
Compensation Plan Master Agreement dated February 27, 1995 (incorporated
by reference to Exhibit 10.2 of the Company's Quarterly Report on Form
10-Q (Commission File No. 1-7657) for the quarter ended March 31, 2000).
10.3 American Express Company 1998 Incentive Compensation Plan, as amended on
April 22, 2002 (incorporated by reference to Exhibit 10.1 of the
Company's Quarterly Report on Form 10-Q (Commission File No. 1-7657) for
the quarter ended March 31, 2002.
10.4 Amendment of American Express Company 1998 Incentive Compensation Plan
Master Agreement dated April 27, 1998 (incorporated by reference to
Exhibit 10.1 of the Company's Quarterly Report on Form 10-Q (Commission
File No. 1-7657) for the quarter ended March 31, 2000).
10.5 American Express Company Deferred Compensation Plan for Directors, as
amended effective July 28, 1997 (incorporated by reference to Exhibit
10.1 of the Company's
</TABLE>
E-1
<PAGE>
<TABLE>
<S> <C>
Quarterly Report on Form 10-Q (Commission File No. 1-7657) for the
quarter ended June 30, 1997).
10.6 Description of American Express Company Pay for Performance Deferral
Program (incorporated by reference to Exhibit 10.8 of the Company's
Quarterly Report on Form 10-Q (Commission File No. l-7657) for the
quarter ended March 31, 2000).
10.7 Amendment to American Express Company Pay for Performance Deferral
Program (incorporated by reference to Exhibit 10.9 of the Company's
Quarterly Report on Form 10-Q (Commission File No. l-7657) for the
quarter ended March 31, 2000).
10.8 American Express Company 1983 Stock Purchase Assistance Plan, as amended
(incorporated by reference to Exhibit 10.6 of the Company's Annual
Report on Form 10-K (Commission File No. 1-7657) for the fiscal year
ended December 31, 1988).
10.9 American Express Company Retirement Plan for Non-Employee Directors, as
amended (incorporated by reference to Exhibit 10.12 of the Company's
Annual Report on Form 10-K (Commission File No. 1-7657) for the fiscal
year ended December 31, 1988).
10.10 Certificate of Amendment of the American Express Company Retirement Plan
for Non-Employee Directors dated March 21, 1996 (incorporated by
reference to Exhibit 10.11 of the Company's Annual Report on Form 10-K
(Commission File No. 1-7657) for the fiscal year ended December 31,
1995).
10.11 American Express Key Executive Life Insurance Plan, as amended
(incorporated by reference to Exhibit 10.12 of the Company's Annual
Report on Form 10-K (Commission File No. 1-7657) for the fiscal year
ended December 31, 1991).
10.12 Amendment of American Express Company Key Executive Life Insurance Plan
(incorporated by reference to Exhibit 10.3 of the Company's Quarterly
Report on Form 10-Q (Commission File No. 1-7657) for the quarter ended
September 30, 1994).
10.13 Amendment of American Express Company Key Executive Life Insurance Plan
(incorporated by reference to Exhibit 10.4 of the Company's Quarterly
report on Form 10-Q (Commission File No. 1-7657) for the quarter ended
March 31, 2000).
10.14 American Express Key Employee Charitable Award Program for Education
(incorporated by reference to Exhibit 10.13 of the Company's Annual
Report on Form 10-K (Commission File No. 1-7657) for the fiscal year
ended December 31, 1990).
10.15 American Express Directors' Charitable Award Program (incorporated by
reference to Exhibit 10.14 of the Company's Annual Report on Form 10-K
(Commission File No. 1-7657) for the fiscal year ended December 31,
1990).
</TABLE>
E-2
<PAGE>
<TABLE>
<S> <C>
10.16 American Express Company Salary/Bonus Deferral Plan (incorporated by
reference to Exhibit 10.20 of the Company's Annual Report on Form 10-K
(Commission File No. 1-7657) for the fiscal year ended December 31,
1988).
10.17 Amendment of American Express Company Salary/Bonus Deferral Plan
(incorporated by reference to Exhibit 10.4 of the Company's Quarterly
Report on Form 10-Q (Commission File No. 1-7657) for the quarter ended
September 30, 1994).
10.18 Amendment of American Express Salary/Bonus Deferral Plan (incorporated
by reference to Exhibit 10.5 of the Company's Quarterly Report on Form
10-Q (Commission File No. 1-7657) for the quarter ended March 31, 2000).
10.19 Tax Allocation Agreement, dated May 27, 1994, between Lehman Brothers
Holdings Inc. and the Company (incorporated by reference to Exhibit 10.2
of Lehman Brothers Holdings Inc.'s Transition Report on Form 10-K
(Commission File No. 1-9466) for the transition period from January 1,
1994 to November 30, 1994).
</TABLE>
E-3
<PAGE>
<TABLE>
<S> <C>
10.20 American Express Company 1993 Directors' Stock Option Plan, as amended
(incorporated by reference to Exhibit 10.11 of the Company's Quarterly
Report on Form 10-Q (Commission File No. 1-7657) for the quarter ended
March 31, 2000).
10.21 American Express Senior Executive Severance Plan Effective January 1,
1994 (as amended and restated through May 1, 2000) (incorporated by
reference to Exhibit 10.10 of the Company's Quarterly Report on Form
10-Q (Commission File No. 1-7657) for the quarter ended March 31, 2000).
10.22 Amendments to the American Express Senior Executive Severance Plan,
effective November 26, 2001 (incorporated by reference to Exhibit 10.30
of the Company's Annual Report on Form 10-K (Commission File No. 1-7657)
for the year ended December 31, 2001).
10.23 Amendment of Long-Term Incentive Awards under the American Express
Company 1979 and 1989 Long-Term Incentive Plans (incorporated by
reference to Exhibit 10.6 of the Company's Quarterly Report on Form 10-Q
(Commission File No. 1-7657) for the quarter ended September 30, 1994).
10.24 Amendments of (i) Long-Term Incentive Awards under the American Express
Company 1979 and 1989 Long-Term Incentive Plans, (ii) the American
Express Senior Executive Severance Plan, (iii) the American Express
Supplemental Retirement Plan, (iv) the American Express Salary/Bonus
Deferral Plan, (v) the American Express Key Executive Life Insurance
Plan and (vi) the IDS Current Service Deferred Compensation Plan
(incorporated by reference to Exhibit 10.37 of the Company's Annual
Report on Form 10-K (Commission File No. 1-7657) for the fiscal year
ended December 31, 1997).
</TABLE>
E-4
<PAGE>
<TABLE>
<S> <C>
10.25 American Express Company Supplemental Retirement Plan Amended and
Restated Effective March 1, 1995 (incorporated by reference to Exhibit
10.1 of the Company's Quarterly Report on Form 10-Q (Commission File No.
1-7657) for the quarter ended September 30, 1999).
10.26 Amendment to American Express Company Supplemental Retirement Plan
Amended and Restated Effective March 1, 1995 (incorporated by reference
to Exhibit 10.3 of the Company's Quarterly Report on Form 10-Q
(Commission File No. 1-7657) for the quarter ended March 31, 2000).
10.27 American Express Directors' Stock Plan (incorporated by reference to
Exhibit 4.4 of the Company's Registration Statement on Form S-8, dated
December 9, 1997 (Commission File No. 333-41779)).
10.28 American Express Annual Incentive Award Plan (incorporated by reference
to Exhibit 10.6 of the Company's Quarterly Report on Form 10-Q
(Commission File No. 1-7657) for the quarter ended March 31, 2000).
10.29 Agreement dated February 27, 1995 between the Company and Berkshire
Hathaway Inc. (incorporated by reference to Exhibit 10.43 of the
Company's Annual Report on Form 10-K (Commission File No. 1-7657) for
the fiscal year ended December 31, 1994).
10.30 Agreement dated July 20, 1995 between the Company and Berkshire Hathaway
Inc. and its subsidiaries (incorporated by reference to Exhibit 10.1 of
the Company's Quarterly Report on Form 10-Q (Commission File No. 1-7657)
for the quarter ended September 30, 1995).
10.31 Amendment dated September 8, 2000 to the agreement dated February 27,
1995 between the Company and Berkshire Hathaway Inc. (incorporated by
reference to Exhibit 99.3 of the Company's Current Report on Form 8-K
(Commission File No. 1-7657) dated January 22, 2001).
10.32 Description of a special grant of a stock option and restricted stock
award to Kenneth I. Chenault, the Company's President and Chief
Operating Officer (incorporated by reference to Exhibit 10.2 of the
Company's Quarterly Report on Form 10-Q (Commission File No. 1-7657) for
the quarter ended June 30, 1999).
10.33 Description of new hire payment to Gary L. Crittenden (incorporated by
reference to Exhibit 10.44 of the Company's Annual Report on Form 10-K
(Commission File No. 1-7657) for the year ended December 31, 2001).
</TABLE>
E-5
<PAGE>
<TABLE>
<S> <C>
10.34 American Express Company 2003 Share Equivalent Unit Plan for Directors,
as adopted and effective April 28, 2003 (incorporated by reference to
Exhibit 10.1 of the Company's Quarterly Report on Form 10-Q (Commission
File No. 1-7657) for the quarter ended March 31, 2003).
*12 Computation in Support of Ratio of Earnings to Fixed Charges.
*13 Portions of the Company's 2003 Annual Report to Shareholders that are
incorporated herein by reference.
*21 Subsidiaries of the Company.
*23 Consent of Ernst & Young LLP (contained on page F-2 of this Annual
Report on Form 10-K).
31.1 Certification of Kenneth I. Chenault, Chief Executive Officer, pursuant
to Rule 13a-14(a) promulgated under the Securities Exchange Act of 1934,
as amended.
31.2 Certification of Gary L. Crittenden, Chief Financial Officer, pursuant
to Rule 13a-14(a) promulgated under the Securities Exchange Act of 1934,
as amended.
32.1 Certification of Kenneth I. Chenault, Chief Executive Officer, and Gary
L. Crittenden, Chief Financial Officer, pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
</TABLE>
E-6
<PAGE>
================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2003 Commission File No. 1-7657
----------
American Express Company
(Exact name of Company as specified in charter)
EXHIBITS
================================================================================
STATEMENT OF DIFFERENCES
The registered trademark symbol shall be expressed as...................... 'r'
The service mark symbol shall be expressed as.............................. 'sm'
</TEXT>
</DOCUMENT>
<DOCUMENT>
<TYPE>EX-12
<SEQUENCE>3
<FILENAME>ex12.txt
<DESCRIPTION>EXHIBIT 12
<TEXT>
<PAGE>
EXHIBIT 12
AMERICAN EXPRESS COMPANY
COMPUTATION IN SUPPORT OF RATIO OF EARNINGS TO FIXED CHARGES
(Dollars in millions)
<TABLE>
<CAPTION>
Years Ended December 31,
------------------------------------------
2003 2002 2001 2000 1999
------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C>
Earnings:
Pretax income from continuing operations $4,247 $3,727 $1,596 $3,908 $3,438
Interest expense 1,617 1,846 2,888 2,952 2,178
Other adjustments 157 174 175 163 151
------ ------ ------ ------ ------
Total earnings (a) $6,021 $5,747 $4,659 $7,023 $5,767
------ ------ ------ ------ ------
Fixed charges:
Interest expense $1,617 $1,846 $2,888 $2,952 $2,178
Other adjustments 140 151 170 165 152
------ ------ ------ ------ ------
Total fixed charges (b) $1,757 $1,997 $3,058 $3,117 $2,330
------ ------ ------ ------ ------
Ratio of earnings to fixed charges (a/b) 3.43 2.88 1.52 2.25 2.48
</TABLE>
Included in interest expense in the above computation is interest expense
related to the international banking operations of American Express Company (the
"Company") and Travel Related Services' Cardmember lending activities, which is
netted against interest and dividends and Cardmember lending net finance charge
revenue, respectively, in the Consolidated Statements of Income.
For purposes of the "earnings" computation, other adjustments include adding the
amortization of capitalized interest, the net loss of affiliates accounted for
at equity whose debt is not guaranteed by the Company, the minority interest in
the earnings of majority-owned subsidiaries with fixed charges, and the interest
component of rental expense and subtracting undistributed net income of
affiliates accounted for at equity.
For purposes of the "fixed charges" computation, other adjustments include
capitalized interest costs and the interest component of rental expense.
</TEXT>
</DOCUMENT>
<DOCUMENT>
<TYPE>EX-13
<SEQUENCE>4
<FILENAME>ex13.txt
<DESCRIPTION>EXHIBIT 13
<TEXT>
<PAGE>
EXHIBIT 13
(p.27_axp_financial review)
Financial Review
INTRODUCTION
The financial section of American Express Company's (the Company) Annual Report
consists of this Financial Review, the Consolidated Financial Statements and
related notes that follow. This introduction is designed to provide perspective
regarding the information contained in the financial section.
Business Operations
American Express Company is a global travel, financial and network services
provider. The Company has three operating segments: Travel Related Services
(TRS), American Express Financial Advisors (AEFA) and American Express Bank
(AEB).
TRS includes the Company's card, travel, merchant and network businesses, as
well as the Travelers Cheque and other prepaid products and services. Through
its TRS businesses, the Company offers consumers and small businesses a variety
of charge and credit cards, Travelers Cheques and other stored value products.
The Company's Corporate Card services help companies and institutions manage
their travel, entertainment and purchasing expenses. TRS' global network
services business focuses on partnering with third-party financial institutions
that issue American Express-branded cards accepted on the Company's merchant
network.
As the world's largest travel agency, the Company offers travel and related
consulting services to individuals and corporations around the world.
AEFA is one of the leading financial planning companies in the United States.
AEFA has over 12,000 financial advisors nationwide and offers a wide array of
products and services, including financial planning, brokerage services, mutual
funds, insurance and other investment products.
AEB provides banking and other financial services to wealthy individuals,
financial institutions and retail customers outside the United States.
Financial Reporting
The Company follows accounting principles generally accepted in the United
States (GAAP). In addition to information provided on a GAAP basis, the Company
discloses certain data on a "managed basis." This information, which should be
read only as a supplement to GAAP information, assumes there have been no
securitization transactions at TRS, i.e., as if all securitized cardmember loans
and related income effects are reflected in the Company's balance sheet and
income statements. In addition, revenues are reported net of AEFA's provision
for losses and benefits for annuities, insurance and investment certificate
products, which are essentially spread businesses. See the TRS and AEFA Results
of Operations sections for further discussion of this approach. Certain
reclassifications of prior period amounts have been made to conform to the
current presentation.
Organization of Information
o This Financial Review section (pages 27 to 73) is designed to provide the
reader of the financial statements with a narrative on the Company's
financial results. It provides an Executive Overview of how the business
makes money and certain key performance indicators used by management. It
also discusses and analyzes the results of operations and liquidity and
capital resources on a consolidated basis and for each operating segment of
the Company.
o The Consolidated Financial Statements (pages 74 to 77) include the
Company's statements of income and cash flow and its financial position.
o The Notes to the Consolidated Financial Statements (pages 78 to 108)
contain the Company's accounting policies (pages 78 through 85), detailed
information on balances within the financial statements, certain
contingencies and commitments (pages 95 to 96), and the results of each of
the Company's segments and geographic operations (pages 104 to 106).
1
<PAGE>
(p.28_axp_financial review)
o The Report of Management (page 109) describes management's responsibilities
regarding the Company's financial statements.
o The Report of Independent Auditors (page 110) contains the opinion of Ernst
& Young LLP regarding the Company's financial statements.
EXECUTIVE OVERVIEW
The Company's three operating segments generate revenue from a number of
sources.
Travel Related Services
TRS generates revenue from a variety of sources including global payments, such
as charge and credit cards, travel services and stored value products such as
Travelers Cheques. Charge and credit cards generate revenue for the Company
primarily in three different ways:
o Discount revenue, the Company's largest single revenue source, represents
fees charged to merchants when cardmembers purchase goods and services,
o Card fees are earned for annual membership and other fees are earned for
various services provided, and
o Finance charge revenue is earned on outstanding card balances related to
the cardmember lending portfolio.
In addition to operating costs associated with these activities, other major
expense categories are provision for anticipated cardmember credit and fraud
losses and expenses related to marketing and reward programs that add new
cardmembers and promote cardmember loyalty and spending.
TRS' travel businesses provide travel services and earn transaction-based fees
and other revenue from customers and travel suppliers. TRS' stored value
products, including Travelers Cheques, earn investment income as prepaid cash is
invested prior to encashment of the Travelers Cheque or use of the other stored
value product.
American Express Financial Advisors
AEFA provides a variety of financial products and services to individuals,
businesses and institutions, primarily through its nationwide force of over
12,000 financial advisors. AEFA's insurance and annuity products generate
revenue through premium or other charges collected from contractholders and
through investment income earned on owned assets supporting these products. AEFA
also earns management and distribution fees on mutual funds, assets managed for
institutions and separate accounts. AEFA provides for benefits paid to customers
for annuities, investment certificates and insurance products. AEFA also incurs
various operating costs, including asset- and production-related compensation to
its financial advisors.
American Express Bank
AEB offers financial products and services to retail customers, wealthy
individuals and financial institutions outside the United States. These products
and services include a variety of lending products, investment management, trust
and estate planning, correspondent banking products, including international
payment processing, and treasury and capital market products and services that
generate interest income, commissions and fees, foreign exchange income and
other revenue. In addition to various operating costs AEB recognizes provisions
for credit losses, mainly on its loans outstanding.
***
Overall, it is management's priority to increase shareholder value over the
moderate to long-term by focusing on the following long-term financial targets,
on average and over time:
o Earnings per share growth of 12 to 15 percent,
o Return on equity of 18 to 20 percent, and
o Revenue growth of 8 percent.
In assessing its plans to achieve these targets, management makes the following
assumptions: annual billings growth of 6 to 10 percent, growth in the average
S&P 500 index of 8 percent and reengineering benefits that drive improved
margins.
2
<PAGE>
(p.29_axp_financial review)
In 2003, the Company met or exceeded all of these targets. Diluted earnings per
share (EPS) before accounting change of $2.31 was up 15 percent from a year ago.
The Company's 2003 return on equity was 20.6 percent. Revenues totaled $25.9
billion, up 9 percent from $23.8 billion a year ago.
Over the past few years, the Company has made changes to increase its
flexibility and improve its risk profile. These efforts have included:
o Shifting away from the Company's historic reliance on travel and
entertainment spending to more stable everyday spending activities;
o Diversifying revenue streams to incorporate revolving credit revenues in
addition to historical spend-based revenues;
o Making aspects of the Company's expense base more variable and creating a
dynamic reengineering capability; and
o Continually enhancing credit, risk and investment management capabilities.
Management believes the Company has significant opportunities for organic growth
and funded those opportunities in 2003. This funding contributed to increases in
cardmember spending, cards-in-force and loan balances. In addition, the Company
also completed two acquisitions during the year, Threadneedle Asset Management
Holdings LTD (Threadneedle), an investment manager in the United Kingdom, and
Rosenbluth International (Rosenbluth), a major corporate travel agency with
clients and operations around the world.
Looking forward to 2004, the Company expects continued growth in the United
States and many other global economies and continued strength and confidence in
the financial markets. The Company believes its business momentum and
competitive capabilities in both the payments and retail financial services
businesses will allow it to capitalize on these positive trends and
opportunities.
In September 2003, the Second U.S. Circuit Court of Appeals upheld a lower-court
decision saying that Visa USA, Visa International and MasterCard violated U.S.
antitrust laws by prohibiting their members from issuing American Express and
Discover cards in the United States. Visa and MasterCard have announced their
intent to seek Supreme Court review of this decision. Subsequent to the Circuit
Court of Appeals' ruling, the Company announced an agreement with MBNA America
Bank, NA (MBNA) pursuant to which MBNA would become the first major bank in the
U.S. to issue American Express-branded credit cards. The Company does not expect
a significant impact on EPS resulting from this agreement in 2004. The MBNA
agreement is a milestone for the Company, as well as for the entire U.S. credit
card industry. Once banks are free to issue cards on whichever network they
choose, there will be increased competition, which will spur more innovation
that will deliver greater value to merchants and increased benefits for
consumers. The Company will continue to talk with other banks and financial
institutions with a view towards ultimately forming a series of issuing
partnerships in the United States.
CONSOLIDATED RESULTS OF OPERATIONS
Management believes the 2003 financial results illustrate the benefits of the
fundamental changes made to its business and the strong momentum resulting from
the business-building expenditures over the last several years. The Company has
achieved strong growth in cardmember billings and lending balances, improved
credit quality and higher client assets.
The Company's 2003 consolidated income before accounting change rose 12 percent
to $3.00 billion and diluted EPS before accounting change rose 15 percent to
$2.31. The Company's 2003 consolidated net income of $2.99 billion rose 12
percent from $2.67 billion in 2002 and diluted EPS of $2.30 increased 14 percent
from $2.01 in 2002. The Threadneedle and Rosenbluth acquisitions together
contributed less than 1 percent to the Company's revenue and expense growth rate
in 2003 and had a negligible impact on net income and EPS for the year ended
December 31, 2003. In 2002, both net income and EPS were up significantly from
2001. The 2001 results included restructuring charges of $631 million ($411
million after-tax), $98 million ($65 million after-tax) of one-time costs and
waived customer fees resulting from the September 11th terrorist attacks, and a
charge of $1.01 billion ($669 million after-tax) reflecting losses in the
high-yield portfolio at AEFA.
Net income and EPS for 2003 reflect the impact of the Company's adoption of
Financial Accounting Standard Board (FASB) Interpretation No. 46, "Consolidation
of Variable Interest Entities," revised December 2003 (FIN 46), which addresses
the
3
<PAGE>
(p.30_axp_financial review)
consolidation of variable interest entities (VIEs). The impact of the adoption
is discussed in more detail in the AEFA Results of Operations section.
On a trailing 12-month basis, return on average shareholders' equity was 20.6
percent.
Both the Company's revenues and expenses are affected by changes in the relative
values of non-U.S. currencies to the U.S. dollar. The currency rate changes
increased both revenue and expense growth by approximately 2 percentage points
in 2003, and had a negligible impact on both revenue and expense growth in 2002.
The following discussion is presented on a basis consistent with GAAP unless
noted.
Revenues
Consolidated revenues were $25.9 billion, up 9 percent from $23.8 billion in
2002, reflecting 8 percent growth at TRS, 10 percent growth at AEFA and 7
percent growth at AEB. Revenues for 2002 were 5 percent higher than 2001. As
discussed below, the increase in 2003 was due to higher discount revenue and
lending net finance charge revenue, greater management and distribution fees,
higher insurance and annuity revenues, higher net card fees, improved travel
commissions and fees and higher net investment income, as well as higher other
revenues and net securitization income. The increase in 2002 was primarily due
to increases in net investment income, discount revenue, net securitization
income and insurance and annuity revenues. These increases in 2002 were
partially offset by lower management fees, weaker travel revenues and reduced
other revenues.
Discount revenue rose 11 percent during 2003 as a result of a 13 percent
increase in billed business, from both growth in cards-in-force and higher
average cardmember spending, partially offset by a lower discount rate. During
2002, discount revenue rose 3 percent as a result of a 4 percent increase in
billed business partially offset by a lower discount rate.
Net investment income increased 2 percent from 2002 primarily due to higher
levels of invested assets partially offset by lower average yields and lower
interest income on investment and liquidity pools held within card funding
vehicles at TRS. During 2002, net investment income increased 40 percent over
2001 primarily due to AEFA's $1.01 billion of investment losses during 2001.
Management and distribution fees rose 7 percent in 2003 primarily due to a 4
percent increase in management fees resulting from higher average assets under
management and a 12 percent increase in distribution fees. Distribution fees
increased due to greater limited partnership product sales and increased
brokerage-related activities. Management and distribution fees declined 7
percent in 2002 due to lower average assets under management partially offset by
higher distribution fees.
Cardmember lending net finance charge revenue at TRS increased 12 percent during
2003 due to 13 percent growth in average worldwide lending balances partially
offset by lower yields. The decrease in yields versus last year reflects an
increase in the proportion of the portfolio on introductory rates and the
evolving mix of products toward more lower-rate offerings, partially offset by
lower funding costs. Cardmember lending net finance charge revenue grew 7
percent during 2002 primarily due to improved spreads.
Net card fees rose 6 percent in 2003 reflecting 6 percent growth in
cards-in-force and the benefit of selected annual fee increases. The average
annual fee per proprietary card-in-force increased to $35 in 2003 versus $34 in
both 2002 and 2001. Net card fees increased 3 percent in 2002 reflecting growth
in cards-in-force.
Travel commissions and fees increased 7 percent in 2003 due to higher revenue
earned per dollar of sales coupled with a 3 percent increase in travel sales,
primarily due to the acquisition of Rosenbluth in the fourth quarter. Travel
commissions and fees declined 8 percent in 2002 as a result of a 10 percent
contraction in travel sales reflecting the weak corporate travel environment
throughout 2002.
Insurance and annuity revenues increased 12 percent in 2003 and 15 percent in
2002 due to strong property-casualty and higher life insurance-related revenues
in both years.
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Net securitization income at TRS rose 10 percent in 2003 as a result of a higher
average balance of cardmember lending securitizations. Net securitization income
at TRS rose 24 percent in 2002 primarily driven by a higher average balance of
cardmember lending securitizations as well as higher portfolio yields.
Other revenues increased 18 percent in 2003 primarily due to higher card and
merchant-related revenues at TRS and higher financial planning and advice
services fees at AEFA. Other revenues declined 5 percent during 2002.
Expenses
Consolidated expenses increased 8 percent in 2003 reflecting increases of 7
percent at TRS, 12 percent at AEFA and 4 percent at AEB. As discussed below, the
increase in 2003 was driven by increased marketing, promotion, rewards and
cardmember services expenses, higher human resources expense, greater
professional services expense and higher other expenses partially offset by
lower funding costs and provisions for losses. Consolidated expenses decreased 4
percent in 2002 primarily due to a decline in human resources expense, lower
interest expense, reduced provisions for losses and the benefits of
reengineering activities and expense control initiatives.
Human resources expense increased 11 percent in 2003 due to increased costs
related to merit increases, employee benefit expenses and management incentive
costs, including higher stock-based compensation costs from both stock options
and increased levels of restricted stock awards as well as the impacts of fourth
quarter acquisitions. The higher stock-based compensation expense from stock
options reflects the Company's decision to expense stock options beginning in
2003. Higher expense related to restricted stock awards reflects the Company's
decision to modify compensation practices and use restricted stock awards in
place of stock options for middle management. These increases were partially
offset by lower staffing levels, excluding the impact of the Rosenbluth and
Threadneedle acquisitions. Human resources expense declined 9 percent in 2002
primarily as a result of lower staffing levels and the benefit of reengineering
activities, including the impact of outsourcing agreements.
Total provisions for losses and benefits declined 3 percent in 2003, primarily
driven by an 11 percent decline in both the charge card and lending provisions
at TRS. The decrease in the provisions at TRS was primarily due to strong credit
quality as reflected in improved past due and write-off rates, despite
strengthening of past due reserve coverage ratios. These decreases were
partially offset by a 7 percent net increase in annuity and investment
certificate provisions at AEFA. Annuity provisions increased primarily due to
higher inforce levels, the effect of appreciation in the S&P 500 on equity
indexed annuities in 2003 versus depreciation in 2002, partially offset by the
benefit of lower interest crediting rates on fixed annuity contract values and
decreased costs related to guaranteed minimum death benefits. Investment
certificate provisions increased due to the effect on the stock market
certificate product of appreciation in the S&P 500 in 2003 versus depreciation
in 2002 and higher average investment certificate levels, partially offset by
the benefit of lower interest crediting rates. Total provisions for losses and
benefits declined 3 percent in 2002, resulting from a 20 percent reduction in
the charge card provision at TRS due to strong credit quality and an 8 percent
reduction in provision for losses and benefits on annuities and investment
certificates, primarily due to lower interest crediting rates on the investment
certificate product. These decreases were partially offset by a 14 percent
increase in life insurance, international banking and other provisions and a 4
percent increase in cardmember lending provisions at TRS.
Marketing, promotion, rewards and cardmember services expenses increased 25
percent in 2003 including a 26 percent increase at TRS. Higher expenses were a
result of the continuation of brand and product advertising, an increase in
selected card acquisition activities and higher cardmember rewards and services
expenses reflecting higher volumes and greater rewards program participation and
penetration. While the amount of these expenses is expected to continue to rise,
the growth rate for these costs is expected to be lower in 2004 as loyalty
program utilization begins to stabilize and the Company further leverages
expenditures made during 2003. Management believes, based on historical
experience, that cardmembers enrolled in rewards and co-brand programs yield
higher spend, better retention, stronger credit performance and greater profit
for the Company. Marketing, promotion, rewards and cardmember services expenses
increased 15 percent in 2002 primarily due to a 14 percent increase at TRS
relating to the launch of a new brand advertising campaign and the intro-
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duction of new card products, as well as increases in cardmember rewards and
services expenses reflecting higher volumes and greater program participation.
Professional services expense rose 11 percent and 22 percent during 2003 and
2002, respectively. The increase in 2003 was primarily due to higher business
and service-related volumes. The increase in 2002 is primarily the result of the
technology outsourcing agreements referenced earlier.
Occupancy and equipment expense increased 5 percent in 2003 as higher
amortization of capitalized computer software costs was partially offset by the
benefits of reengineering activities. Occupancy and equipment expense decreased
7 percent in 2002 primarily due to the benefits of reengineering activities.
Interest expense declined 16 percent in 2003 including a 22 percent decrease in
charge card interest expense at TRS primarily due to the benefit of a lower
effective cost of funds, partially offset by a higher average receivable
balance. Interest expense declined 28 percent in 2002 including a 31 percent
decrease in charge card interest expense at TRS due to the benefit of a lower
effective cost of funds.
Other expenses increased 11 percent in 2003 and 21 percent in 2002. The increase
in 2003 was primarily due to acquisition-related expenses, the impact of fewer
capitalized deferred acquisition cost (DAC)-related expenses and expenses
related to legal and industry regulatory matters at AEFA. The increases in 2002
resulted primarily from losses on certain strategic investments versus gains in
the prior year and increases in DAC-related expenses, including the net increase
in DAC-related expenses in the third quarter of 2002 as a result of a
comprehensive review of the Company's DAC-related practices. See AEFA's Results
of Operations for further discussion of DAC.
During 2003, the Company recognized a net pretax benefit of $2 million from
adjustments to restructuring reserves established in 2002 at AEB. During 2002,
the Company adjusted the 2001 restructuring charges by taking back into income a
net pretax amount of $31 million, which is comprised of the reversal of
severance and related benefits of $62 million partially offset by additional net
exit costs related to various office facilities of $31 million. Additionally,
during 2002, the Company recorded restructuring charges of $24 million, of which
$19 million was recorded at TRS and $5 million was recorded at AEB. These new
charges primarily relate to certain international operations and consist of $17
million of severance and related benefits and $7 million of other exit costs.
See Note 19 to the Consolidated Financial Statements for further information.
In the third and fourth quarters of 2001, the Company recorded aggregate
restructuring charges of $631 million ($411 million after-tax). The aggregate
restructuring charges consisted of $369 million for severance related to the
elimination of approximately 12,900 jobs and $262 million of exit costs
primarily consisting of $138 million of charges related to consolidation of real
estate facilities, $35 million of asset impairment charges, $26 million in loss
provisions, $25 million in contract termination costs and $24 million of
currency translation losses.
The estimated gross benefits realized from reengineering initiatives during both
2003 and 2002 were approximately $1.0 billion, which included the expected
restructuring from charges taken in 2001, a portion of which flowed through to
earnings while the rest was reinvested into business areas with high-growth
potential. Additionally, the Company expects reengineering benefits for 2004 to
be approximately $1.0 billion.
In the third quarter of 2001, the Company incurred $98 million ($65 million
after-tax) of one-time costs and business interruption losses related to the
September 11th terrorist attacks. These losses included provisions for credit
exposures to travel industry service establishments and insurance claims, as
well as waived finance charges and late fees. Further, during 2002, $7 million
($4 million after-tax) of this amount was reversed as a result of lower than
anticipated insured loss claims.
Effective January 1, 2002, the Company adopted Statement of Financial Accounting
Standards (SFAS) No. 142, "Goodwill and Other Intangible Assets," which
established new accounting and reporting standards for goodwill and other
intangible assets.
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The following table presents the impact to net income and EPS of goodwill
amortization for the year ended December 31,2001:
<TABLE>
<CAPTION>
(Millions, except per share amounts) Net Income Basic EPS Diluted EPS
- -----------------------------------------------------------------------------------
<S> <C> <C> <C>
Reported $1,311 $0.99 $0.98
Add back: Goodwill amortization (after-tax) 82 0.06 0.06
- -----------------------------------------------------------------------------------
Adjusted $1,393 $1.05 $1.04
===================================================================================
</TABLE>
Certain Critical Accounting Policies
The Company's significant accounting policies are described in Note 1 to the
Consolidated Financial Statements. The following provides information about
certain critical accounting policies that are important to the Consolidated
Financial Statements and that involve estimates requiring significant management
assumptions and judgments about the effect of matters that are uncertain. These
policies relate to reserves for cardmember credit losses, Membership Rewards
costs, investment securities valuation and deferred acquisition costs.
Reserves for cardmember credit losses
The Company's reserves for credit losses relating to cardmember loans and
receivables represent management's estimate of the amount necessary to absorb
future credit losses inherent in the Company's outstanding portfolio of loans
and receivables. Management's evaluation process requires many estimates and
judgments. Reserves for these credit losses are primarily based upon models that
analyze specific portfolio statistics and also reflect, to a lesser extent,
management's judgment regarding overall adequacy. The analytic models take into
account several factors, including average write-off rates for various stages of
receivable aging (i.e., current, 30 days, 60 days, 90 days) over a 24-month
period and average bankruptcy and recovery rates. In exercising its judgment to
adjust reserves that are calculated by the analytic model, management considers
the level of coverage of past-due accounts, as well as external indicators, such
as leading economic indicators, unemployment rate, consumer confidence index,
purchasing manager's index, bankruptcy filings and the regulatory environment.
Management believes the impact of each of these indicators can change from time
to time and thus reviews these indicators in concert.
Loans are charged-off when management deems amounts to be uncollectible, which
is generally determined by the number of days past due. In general, bankruptcy
and deceased accounts are written-off upon notification, or when 180 days past
due for lending products and 360 days past due for charge card products. For all
other accounts, write-off policy is based upon the delinquency and product.
Given both the size and volatility of write-offs, management continually
monitors evolving trends and adjusts its business strategy accordingly. To the
extent historic credit experience is not indicative of future performance or
other assumptions used by management do not prevail, loss experience could
differ significantly, resulting in either higher or lower future provisions for
credit losses, as applicable. As of December 31,2003, if average write-off rates
were 5% higher or lower, the reserve for credit losses would change by
approximately $100 million.
Membership Rewards costs
The Company's Membership Rewards loyalty program allows enrolled cardmembers to
earn points that can be redeemed for a broad range of travel rewards, retail
merchandise and gourmet gifts. The Company makes payments to its reward partners
when cardmembers redeem their points and establishes reserves to cover the cost
of future reward redemptions. The provision for the cost of Membership Rewards
is based upon points awarded that are ultimately expected to be redeemed by
cardmembers and the current weighted-average cost per point of redemption. The
ultimate points to be redeemed are estimated based on many factors, including a
review of past behavior of cardmembers segmented by product, year of enrollment
in the program, spend level and duration in the program. Past behavior is used
to predict when current enrollees will attrite and their ultimate redemption
rate. The weighted-average cost per point is affected by the mix of redemptions.
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In addition, the cumulative balance sheet liability for unredeemed points is
adjusted over time based on actual redemption and cost experience with respect
to redemptions. As of December 31, 2003, if the expected redemption rate for
unredeemed points was 100 basis points higher or lower, the reserve for
Membership Rewards costs would change by approximately $40 million.
In addition to the variables outlined above, the related provisions and reserves
will be affected over time as a result of changes in the number of cardmembers
in the Membership Rewards program, the actual amount of points awarded and
redeemed, the actual weighted-average cost per point, the economic environment,
the availability of Membership Rewards offerings by vendors, the choices that
cardmembers make in considering their rewards options, and possible changes that
the Company could make to the Membership Rewards program in the future.
Investment securities valuation
Generally, investment securities are carried at fair value on the balance sheet
with unrealized gains (losses) recorded in other comprehensive income (loss)
within equity, net of income tax provisions (benefits). At December 31, 2003,
the Company had net unrealized pretax gains on Available-for-Sale securities of
$1.5 billion. Gains and losses are recognized in results of operations upon
disposition of the securities. In addition, losses are also recognized when
management determines that a decline in value is other-than-temporary, which
requires judgment regarding the amount and timing of recovery. Indicators of
other-than-temporary impairment for debt securities include issuer downgrade,
default or bankruptcy. The Company also considers the extent to which cost
exceeds fair value, the duration and size of that gap, and management's judgment
about the issuer's current and prospective financial condition. Fair value is
generally based on quoted market prices. As of December 31, 2003, there were
$211 million in gross unrealized losses that related to $11.7 billion of
securities (excluding structured investments), of which only $14 million has
been in a continuous unrealized loss position for 12 months or more. The Company
does not believe that the unrealized loss on any individual security at December
31, 2003 represents an other-than-temporary impairment, and the Company has the
ability and intent to hold these securities for a time sufficient to recover its
amortized cost.
The Company's investment portfolio also contains structured investments of
various asset quality, including collateralized debt obligations (CDOs) and
secured loan trusts (backed by high-yield bonds and bank loans), which are not
readily marketable. As a result, the carrying values of these structured
investments are based on future cash flow projections that require a significant
degree of management judgment as to the amount and timing of cash payments,
defaults and recovery rates of the underlying investments and, as such, are
subject to change. The carrying value will vary if the actual cash flows differ
from projected due to actual defaults or an increase in the near-term default
rate. As an example, an increase in the near-term default rate by 100 basis
points, in and of itself, would reduce the cash flow projections by
approximately $15 million based on underlying investments as of December 31,
2003.
Deferred acquisition costs
Deferred acquisition costs represent the costs of acquiring new business,
principally direct sales commissions and other distribution and underwriting
costs that have been deferred on the sale of annuity, life and health insurance
and, to a lesser extent, property/casualty and certain mutual fund products. For
annuity and insurance products, DAC are amortized over periods approximating the
lives of the business, generally as a percentage of premiums or estimated gross
profits or as a portion of the interest margins associated with the products.
For certain mutual fund products, DAC are generally amortized over fixed periods
on a straight-line basis.
For annuity and life and health insurance products, the DAC balances at any
reporting date are supported by projections that show management expects there
to be adequate premiums, estimated gross profits or interest margins after that
date to amortize the remaining balances. These projections are inherently
uncertain because they require management to make assumptions about financial
markets and policyholder behavior over periods extending well into the future.
Projection periods used for AEFA's annuity business are typically 10 to 25
years, while projection periods for AEFA's life and health insurance products
are often 50 years or longer. Management regularly monitors financial market
conditions and compares actual
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policyholder behavior experience to its assumptions. For annuity and universal
life insurance products, the assumptions made in projecting future results and
calculating the DAC balance and DAC amortization expense are management's best
estimates. Management is required to update these assumptions whenever it
appears that, based on actual experience or other evidence, earlier estimates
should be revised. When assumptions are changed, the percentage of estimated
gross profits or portion of interest margins used to amortize DAC might also
change. A change in the required amortization percentage is applied
retrospectively; an increase in amortization percentage will result in a
decrease in DAC balance and increase in DAC amortization expense while a
decrease in amortization percentage will result in an increase in DAC balance
and a decrease in DAC amortization expense. The impact on results of operations
of changing assumptions can be either positive or negative in any particular
period and is reflected in the period in which such changes are made.
For other life and health insurance products, the assumptions made in
calculating the DAC balance and DAC amortization expense are intended to provide
for adverse deviations in experience and are revised only if management
concludes experience will be so adverse that DAC is not recoverable.
For annuity and life and health insurance products, key assumptions underlying
these long-term projections include interest rates, equity market performance,
mortality and morbidity rates and the rates at which policyholders are expected
to surrender their contracts, make withdrawals from their contracts and make
additional deposits to their contracts. Assumptions about interest rates drive
projected interest margins, while assumptions about equity market performance
drive projected customer asset value growth rates and assumptions about
surrenders, withdrawals and deposits comprise projected persistency rates.
Management must also make assumptions to project maintenance expenses associated
with servicing its annuity and insurance business during the DAC amortization
period.
The customer asset value growth rate is the rate at which contract values are
assumed to appreciate in the future. The rate is net of asset fees and
anticipates a blend of equity and fixed income investments. Management reviews
and, where appropriate, adjusts its assumptions with respect to customer asset
value growth rates on a quarterly basis. The Company uses a mean reversion
method as a guideline in setting near-term customer asset value growth rates
based on a long-term view of financial market performance. In periods when
market performance results in actual contract value growth at a rate that is
different than that assumed, the Company will reassess the near-term rate in
order to continue to project its best estimate of long-term growth. Management
is currently assuming a 7 percent long-term customer asset value growth rate. If
the Company increased or decreased its assumption related to this growth rate by
100 basis points, the impact on the DAC balance would be an increase or decrease
of approximately $40 million.
Management monitors other principal DAC assumptions, such as persistency,
mortality, morbidity, interest margin and maintenance expense levels each
quarter. Unless management identifies a material deviation over the course of
the quarterly monitoring, management reviews and updates these DAC assumptions
annually in the third quarter of each year.
The analysis of DAC balances and the corresponding amortization is a dynamic
process that considers all relevant factors and assumptions discussed above.
Therefore, an assessment of sensitivity associated with changes in any single
assumption would not necessarily be an indicator of future results.
CONSOLIDATED LIQUIDITY AND CAPITAL RESOURCES
Capital Strategy
The Company generates equity capital primarily through net income to fund
current needs and future business growth and to maintain a targeted debt rating.
Equity capital generated in excess of these needs is returned to shareholders
through dividends and the share repurchase program. The maintenance of a strong
and stable equity capital base provides the Company with a strong and stable
debt rating and uninterrupted access to diversified sources of deposit and debt
financing to fund growth in its assets, such as cardmember receivables. The
Company maintains flexibility in its equity capital planning and has developed a
contingency funding plan to ensure that it has adequate sources of financing in
difficult economic or market environments.
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The Company believes allocating capital to its growing businesses with a return
on risk-adjusted equity in excess of their cost of capital will continue to
build shareholder value. The Company's philosophy is to retain earnings
sufficient to enable it to meet its growth objectives, and, to the extent
capital exceeds investment opportunities, return excess capital to shareholders.
Assuming the Company achieves its financial objectives of 12 to 15 percent EPS
growth, 18 to 20 percent return on equity and 8 percent revenue growth, on
average and over time, it will seek to return to shareholders an average of 65
percent of capital generated, subject to business mix, acquisitions and rating
agency requirements. The Company met or exceeded all three of its financial
objectives during 2003 and invested in two business acquisitions. During 2003,
the Company returned to shareholders through dividends and share repurchases
approximately 54 percent of capital generated. Excluding the equity capital
required to support the Threadneedle and Rosenbluth acquisitions, the Company
returned 69 percent of capital generated in 2003. Since the inception of the
Company's current share repurchase program in 1994, approximately 64 percent of
capital generated has been returned to shareholders.
The Company maintains sufficient equity capital to support its businesses.
Flexibility is maintained to shift capital among business units as appropriate.
For example, the Company may infuse additional capital into subsidiaries to
maintain capital at targeted levels, which include consideration of debt ratings
and regulatory requirements. These infused amounts can affect both Parent
Company capital and liquidity levels. The Company maintains discretion to manage
these effects, including the issuance of public debt or the reduction of
projected common share buybacks. Additionally, the Company may transfer
short-term funds within the Company to meet liquidity needs, subject to and in
compliance with various contractual and regulatory constraints.
On September 30, 2003, the Company, through its AEFA segment, completed its
acquisition of Threadneedle Asset Management Holdings LTD, one of the premier
asset management organizations in the United Kingdom, for (pound)340 million
(approximately $565 million at September 30, 2003 exchange rates). As a result,
the Company acquired $3.6 billion of owned assets, which were consolidated into
the Company's balance sheets, and $81.1 billion of assets under management.
Included in the assets under management are certain assets of Zurich Financial
Services, U.K., which Threadneedle will continue to manage for an initial term
of up to eight years, subject to standard performance criteria. Additionally, in
October 2003, the Company announced the completion of the acquisition of
Rosenbluth International, a leading global travel management company with more
than $3 billion of annual travel volume.
Cash Flows
Cash Flows from Operating Activities
The Company generated net cash provided by operating activities in amounts
greater than net income for the years ended December 31, 2002 and 2001,
primarily due to provisions for losses and benefits, which represent expenses in
the Consolidated Statements of Income but do not require cash at the time of
provision. Similarly, depreciation and amortization represents a non-cash
expense.
Net cash provided by operating activities is lower in 2003 than 2002, as higher
net income in 2003 was more than offset by fluctuations in the Company's
operating assets and liabilities, primarily reflecting the purchase of
securities in 2002, settled in 2003. These accounts vary significantly in the
normal course of business due to the amount and timing of various payments. Net
cash provided by operating activities was higher in 2002 than in 2001 due to
higher net income and an increase in accounts payable.
Management believes cash flows from operations, available cash balances and
short-term borrowings will be sufficient to fund the Company's operating
liquidity needs.
Cash Flows from Investing Activities
The Company's investing activities primarily include funding TRS' cardmember
loans and receivables and AEFA's Available-for-Sale investment portfolio.
For the year ended December 31, 2003, net cash used in investing activities
increased over the prior year primarily due to an increased investment portfolio
reflecting the cumulative benefit of sales of annuities, insurance and
certificate products
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at AEFA and fewer sales of cardmember receivables and loans to TRS'
securitization trusts. The Company also invested in two acquisitions,
Threadneedle and Rosenbluth, increasing the net cash used in investing
activities.
The increase in investing activities in 2002 as compared to 2001 also relates to
increases in investments and cardmember receivables and loans.
Cash Flows from Financing Activities
The Company's financing activities primarily include the issuance of debt and
AEFA's sale of annuities and investment certificates, in addition to taking
customer deposits. The Company also regularly repurchases its common shares.
Net cash provided by financing activities for the year ended December 31, 2003
was greater than 2002, primarily due to a net increase in total debt compared to
a net decrease in 2002.
In 2002, financing activities provided net cash while in 2001 net cash was used
in financing activities, primarily due to a net decrease in debt.
Share Repurchases
As discussed previously, the Company has in place a share repurchase program to
return equity capital in excess of its business needs to shareholders. These
share repurchases both offset the issuance of new shares as part of employee
compensation plans and reduce shares outstanding.
The Company repurchases its common shares primarily by open market purchases
using several brokers at competitive commission and fee rates. In addition,
common shares may also be purchased from the Company-sponsored Incentive Savings
Program (ISP) to facilitate the ISP's required disposal of shares when
employee-directed activity results in an excess common share position. Such
purchases are made at market price without commissions or other fees.
Repurchases were also accomplished by cash prepayments under the Company's
agreements with third parties, which are described below. During 2003, the
Company repurchased 36 million common shares at an average price of $38. Since
the inception of the current share repurchase program, 426 million shares have
been acquired at an average price of $26 under authorizations to repurchase up
to 570 million shares, including purchases made under the agreements with third
parties. Included in the 2003 repurchase amount are 15 million shares delivered
to the Company as part of the prepayments discussed below.
In August 1999 and March 2000, the Company entered into agreements under which a
financial institution purchased an aggregate 29.5 million of the Company's
common shares at an average purchase price of $50.41 per share. These agreements
were entered into to partially offset the Company's exposure to the effect on
diluted earnings per share of outstanding in-the-money stock options issued
under the Company's stock option program. The agreements provided that upon
their termination, the Company would be required to deliver an amount equal to
the original purchase price for the shares less any prepayments. During 2003 and
2002, the Company elected to prepay $535 million and $600 million, respectively,
of the aggregate outstanding amount. The 2003 prepayment amount includes $335
million related to the final payment and termination of the agreements.
Financing Activities
The Company is committed to maintaining cost-effective, well-diversified funding
programs to support current and future asset growth in its global businesses.
Its funding plan is structured to meet expected and changing business needs to
fund asset balances efficiently and cost-effectively through diversified sources
of financing, to ensure the availability of financing in unexpected but
foreseeable periods of stress, and to be concurrently integrated into the
asset-liability management of interest rate exposures. Liquidity refers to the
Company's ability to meet its current and future cash needs. In addition to its
funding plan described below, the Company's contingent funding strategy is
designed to allow for the continued funding of business operations through
difficult economic, financial market and business conditions when access to its
regular funding sources could become diminished or interrupted.
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TRS is the primary asset generating business with significant assets in both
domestic and international cardmember charge card and lending activities. As
such, the Company's most significant borrowing and liquidity needs are
associated with TRS' card businesses. TRS pays merchants for card transactions
and bills cardmembers accordingly. TRS funds merchant payments during the period
cardmember loans and receivables are outstanding. AEFA's borrowing needs are
less significant as it generates funds through its operations, primarily by the
sale of insurance, annuity or certificate products. AEB also has limited
borrowing needs as its principal funding source is customer deposits. See the
Liquidity and Capital Resources section for TRS, AEFA and AEB for further
discussion regarding each operating segment's funding activities and liquidity
management practices.
The following discussion includes information on both a GAAP and managed basis.
The managed basis presentation includes debt issued in connection with the
Company's lending securitization activities, which are off-balance sheet. The
Company's management views and manages funding requirements on a managed basis
because asset securitization is just one of several ways for the Company to fund
cardmember loans. Use of a managed basis presentation, including both on-and
off-balance sheet debt, avoids distortions due to the mix of funding sources at
any particular point in time.
Funding Strategy
The Company's funding sources are well diversified and include commercial paper,
retail and institutional customer deposits, bank notes, medium-term notes,
senior debt, asset securitizations and other borrowed funds. Diversity of
funding sources by debt instrument and by investor base provides additional
insulation from unforeseen events in the short-term debt market. The Company had
the following consolidated debt on both a GAAP and managed basis and customer
deposits outstanding at December 31, 2003 and 2002:
<TABLE>
<CAPTION>
(in billions) 2003 2002
- --------------------------------------------------------------------------------
<S> <C> <C>
Short-term debt $19.0 $21.1
Long-term debt 20.7 16.3
- --------------------------------------------------------------------------------
Total debt (GAAP basis) $39.7 $37.4
Off-balance sheet securitizations 19.5 17.2
- --------------------------------------------------------------------------------
Total debt (managed basis) $59.2 $54.6
Customer deposits $21.3 $18.3
================================================================================
</TABLE>
In addition to deposits and debt, the Company uses off-balance sheet
arrangements, principally through the sales of consumer cardmember loans in
securitizations. In 2003, the Company securitized $3.5 billion in loans from its
consumer loans portfolio. The Company had $19.4 billion of securitized
cardmember loans as of December 31, 2003. Additionally, the Company had
securitized cardmember charge card receivables of $3.0 billion at December 31,
2003, which remain on the Consolidated Balance Sheet.
12
<PAGE>
(p.39_axp_financial review)
The Company's funding strategy is designed to maintain high and stable debt
ratings from the major credit rating agencies, Moody's, Standard & Poor's, and
FitchRatings. Maintenance of high and stable debt ratings is critical to
ensuring the Company has continuous access to the capital and credit markets. It
also enables the Company to reduce its overall borrowing costs. At December 31,
2003, its debt ratings were as follows:
<TABLE>
<CAPTION>
Standard
Moody's & Poor's FitchRatings
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Short-term P-1 A-1 F-1
Senior unsecured A1 A+ A+
================================================================================
</TABLE>
The Company has strengthened its liquidity position over the last few years
through reductions in the amount of short-term debt outstanding, by extending
and spreading out the maturities of long-term debt and through the establishment
of an investment pool of high quality, liquid assets.
<TABLE>
<CAPTION>
DEBT ISSUANCE GREATER THAN ONE YEAR: MATURITY DISTRIBUTION FOR 2003 AND 2002
(% of Total Term Debt Issued)
Maturity (Years)
-----------------------------------------------------------------------
1 1.5 2 3 4 5 7 10
-----------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
2003 1.6% 5.0% 19.0% 25.6% --% 42.5% --% 6.3%
2002 21.2% 16.4% 4.9% 20.5% 6.7% 26.3% 4.0% --%
</TABLE>
In 2003, the Company continued to reduce its reliance on short-term debt. At
December 31, 2003, on a GAAP basis short-term debt was 48.0% of total debt
versus 56.4% a year ago. On a managed basis, short-term debt at December 31,
2003 was 32.2% of total debt versus 38.6% a year ago. Term debt offerings of
$12.5 billion in 2003 were issued to refinance maturing long-term obligations,
fund business growth and decrease short-term debt obligations.
<TABLE>
<CAPTION>
December 31, ($ in billions) 2003 2002 2001
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Short-term debt $19.0 $21.1 $31.6
Short-term debt percentage of total debt (GAAP basis) 48.0% 56.4% 80.2%
Short-term debt percentage of total debt (managed basis) 32.2% 38.6% 58.0%
================================================================================
</TABLE>
13
<PAGE>
(p.40_axp_financial review)
In 2003, medium- and long-term debt with maturities ranging from 2 to 10 years
(excluding convertible debt securities issued by the Parent Company, that have a
final maturity of 30 years) was issued. The Company's 2003 term offerings on a
managed basis, which include those made by the Parent Company, American Express
Credit Corporation (Credco) and American Express Centurion Bank (Centurion
Bank), both wholly-owned subsidiaries of TRS, and the American Express Credit
Account Master Trust, are highlighted in the table below:
<TABLE>
<CAPTION>
Description Amount (millions) Coupon/Rate Index Maturity Entity
- -------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Senior Global Notes $1,000 4.88% July 15, 2013 Parent Company
Convertible Senior Debentures $2,000 1.85% December 1, 2033 Parent Company
Floating Rate Medium-Term Notes $4,891 1.24% Various Credco
Floating Rate Medium-Term
Extendible Notes $2,000 1.20% February 14, 2005(1) Credco
Floating Rate Extendible Notes $1,000 1.17% January 21, 2005(2) Credco
Fixed Rate Senior Notes $1,000 3.00% May 16, 2008 Credco
Floating Rate Senior Notes $ 500 1.32% May 16, 2006 Credco
Floating Rate Senior Notes $ 100 1.15% September 9, 2005 Centurion Bank
Trust Investors Certificates (off-balance sheet) $3,450 Various Various Master Trust
===============================================================================================================================
</TABLE>
Note: The above table excludes $325 million of debt consolidated upon adoption
of FIN 46.
(1) These floating rate medium-term extendible notes had an initial maturity
date of March 5, 2004 and are subject to extension by the holders through
March 5, 2008.
(2) These floating rate extendible notes had an initial maturity date of July
19, 2004 and are subject to extension by the holders through June 20, 2008.
These long-term debt issues have longer average maturities and a wider
distribution along the maturity spectrum as compared to the 2002 long-term
funding activity to reduce and spread out the refinancing requirement in future
periods.
The Company also enhanced its contingent liquidity resources for alternative
funding sources principally through the addition of an investment liquidity
portfolio as discussed further in the TRS Liquidity and Capital Resources
section. The Company believes that its funding strategy allows for the continued
funding of business operations through difficult economic, financial market and
business conditions.
The Company actively manages the risk of liquidity and cost of funds resulting
from the Company's financing activities. Management believes a decline in the
Company's long-term credit rating by two levels could result in the Company
having to significantly reduce its commercial paper and other short-term
borrowings. Remaining borrowing requirements would be addressed through other
means such as the issuance of long-term debt, additional securitizations,
increased deposit taking, the sale of investment securities or drawing on
existing credit lines. This would result in higher interest expense on the
Company's commercial paper and other debt, as well as higher fees related to
unused lines of credit. The Company believes a two level downgrade is highly
unlikely due to its capital position and growth prospects.
Parent Company Funding
Total Parent Company long-term debt outstanding was $5.7 billion and $2.7
billion at December 31,2003 and 2002, respectively. During 2003, the Parent
Company issued $1 billion of 4.875% Senior Global Notes due in 2013 and $2
billion of 1.85% convertible senior debt securities due in 2033. The convertible
securities cannot be called or put prior to December 1, 2006. After December 1,
2006, the Company may call the convertible securities at any time. The
convertible securities were offered to qualified institutional investors
pursuant to Rule 144A under the Securities Act of 1933, as amended. Proceeds
from these debt offerings were for general corporate purposes.
The convertible securities are convertible into common shares of American
Express Company if the per share price of American Express common stock exceeds
a contingent conversion trigger price of $86.76 per share, or approximately
97.5% above American Express' closing stock price of $43.93 on the issuance
date. Holders of the convertible securities will then have the right to convert
the convertible securities at an initial conversion price of $69.41 per share.
After December 1, 2006, both the contingent conversion trigger price and the
conversion price, as adjusted, will increase at a rate equal to 1.85%, the
annual rate of accretion of the convertible debt securities. Holders may require
the Company to purchase for cash a portion
14
<PAGE>
(p.41_axp_financial review)
of their Debentures on December 1, 2006, 2008, 2013, 2018, 2023 or 2028 at 100%
of the accreted principal amount, plus accrued and unpaid interest.
This convertible debt offering has a distribution of realized financing costs
that depends on the Company's share price performance. If share price remains
below the conversion price, then the Company benefits from issuing inexpensive
debt (at a 1.85% coupon). However, if the share price moves above the contingent
conversion price, then the debt may be converted into common shares of the
Company. This convertible debt offering was attractive due to the low effective
debt coupon and provided further diversification of the Company's funding
sources. See Note 6 to the Consolidated Financial Statements for a more complete
discussion regarding the terms of this offering.
At December 31, 2003 and 2002, the Parent Company had $1.8 billion and $2.8
billion, respectively, of debt or equity securities available for issuance under
shelf registrations filed with the Securities and Exchange Commission (SEC).
The Board of Directors has authorized a Parent Company commercial paper program
supported by a $1.29 billion multipurpose committed bank credit facility that
expires incrementally through 2007. There was no Parent Company commercial paper
outstanding during 2003 and 2002, and no borrowings have been made under its
bank credit facility. The Company maintained total committed bank lines of
credit with approximately 60 large financial institutions totaling $10.85
billion at December 31, 2003, which include the Parent Company credit lines. The
availability of the credit lines is subject to the Company's compliance with
certain financial covenants. See TRS' Liquidity and Capital Resources discussion
for details of the principal covenants that govern this committed bank credit
facility.
In addition, TRS, Centurion Bank, Credco, American Express Overseas Credit
Corporation Limited (a wholly-owned subsidiary of Credco) and AEB have
established programs for the issuance, outside the United States, of debt
instruments to be listed on the Luxembourg Stock Exchange. The maximum aggregate
principal amount of debt instruments outstanding at any one time under the
program will not exceed $6.0 billion. At both December 31, 2003 and 2002, $0.5
billion of debt was outstanding under this program.
Off-Balance Sheet Arrangements and Contractual Obligations
The Company has identified off-balance sheet transactions, arrangements,
obligations and other relationships that may have a material current or future
effect on its financial condition, changes in financial condition, results of
operations or liquidity and capital resources.
Contractual Obligations
The contractual obligations identified in the table below include both on- and
off-balance sheet transactions that represent material expected or contractually
committed future obligations of the Company:
<TABLE>
<CAPTION>
Payments due by year
- -----------------------------------------------------------------------------------------
2009 and
(Millions) Total 2004 2005-2006 2007-2008 thereafter
- -----------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
On-Balance Sheet:
Long-term debt $20,654 $3,452 $12,136 $1,747 $3,319
Lease obligations 53 5 19 11 18
Other long-term liabilities(1) 3,802 1,514 904 632 752
Off-Balance Sheet:
Lease obligations 2,487 273 446 328 1,440
Purchase obligations(2) 9,308 2,284 2,578 2,067 2,379
- -----------------------------------------------------------------------------------------
Total $36,304 $7,528 $16,083 $4,785 $7,908
=========================================================================================
</TABLE>
(1) Other long-term liabilities exclude insurance and annuity potential
payments that are primarily not time certain and are represented by
reserves of approximately $32 billion at December 31, 2003.
(2) Purchase obligations include agreements to purchase goods and services that
are enforceable and legally binding on the Company and that specify
significant terms, including: fixed or minimum quantities to be purchased;
fixed, minimum or variable price provisions; and the approximate timing of
the transaction. The purchase obligation amounts include expected spend by
period under contracts that were in effect at December 31, 2003. Minimum
contractual payments associated with purchase obligations, including
termination payments, were $340 million.
15
<PAGE>
(p.42_axp_financial review)
In addition, the Company has certain contingent obligations for worldwide
business arrangements. These payments relate to contractual agreements with
partners entered into as part of the ongoing operation of the TRS business. The
contingent obligations under such arrangements were $2.5 billion as of December
31, 2003.
In addition to the off-balance sheet contractual obligations noted above, the
Company has off-balance sheet arrangements that include guarantees, retained
interests in structured investments, unconsolidated variable interest entities
and other off-balance sheet arrangements as more fully described below.
Guarantees
The Company's principal guarantees are associated with cardmember services
provided to enhance the value of owning an American Express card. At December
31, 2003, the Company had guarantees totaling $82 billion related to TRS
cardmember protection plans, as well as other guarantees in the ordinary course
of business that are within the scope of FASB Interpretation No. 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others" (FIN 45). Expenses relating to
claims under these guarantees were approximately $30 million in 2003.
The Company had $955 million of bank standby letters of credit and bank
guarantees and other letters of credit within the scope of FIN 45. At December
31, 2003, the Company held $761 million of collateral supporting standby letters
of credit and guarantees. Additionally, at December 31, 2003 the Company had
$770 million of loan commitments and other lines of credit as well as $544
million of bank standby letters of credit, bank guarantees and bank commercial
and other bank letters of credit that were outside the scope of FIN 45.
See Note 10 to the Consolidated Financial Statements for further discussion
regarding the Company's guarantees.
Retained interests in assets transferred to unconsolidated entities
The Company held, as an investment, $1.8 billion of retained subordinated
security interests and $225 million of interest-only strips in a U.S. cardmember
loan securitization trust at December 31,2003. See the TRS Liquidity and Capital
Resources section and Note 4 to the Consolidated Financial Statements for
details regarding TRS' securitization trusts.
Additionally, the Company held, as an investment, $694 million of retained
interests in a CDO-related securitization trust at December 31,2003. Of that
total, approximately $512 million is considered investment grade. The
securitization was the result of the Company placing a majority of its rated CDO
securities into a trust in 2001. The rated CDO securities were held as part of
the Company's investment strategy in order to pay a competitive rate to
contractholders within the AEFA operating segment.
Unconsolidated variable interest entities
At December 31, 2003, the Company had interests in unconsolidated variable
interest entities including $422 million of investments in affordable housing
partnerships, $28 million of rated CDO tranches, $27 million of a minority-owned
structured loan trust (SLT) managed by third parties, and CDO residual tranches
with a carrying value of $16 million managed by the Company. These interests
were obtained as part of the consolidated tax strategy in the case of affordable
housing partnerships or as part of the overall investment strategies as it
relates to the other entities. Additionally, investments in the CDO residual
tranches are a condition to manage certain CDOs that generate management fee
income for the Company. The Company has no material future obligations
associated with these entities beyond the carrying values. These structures were
not impacted by the consolidation provisions of FIN 46 as the Company is not the
primary beneficiary. See the AEFA Liquidity and Capital Resources section for
further information.
16
<PAGE>
(p.43_axp_financial review)
Other Off-Balance Sheet Arrangements
At December 31, 2003, the Company had $156 billion of unused credit available to
cardmembers, as part of established lending product agreements. Total unused
credit available to cardmembers does not represent potential future cash
requirements as a significant portion of this unused credit will likely not be
drawn. The Company's charge card products have no pre-set limit and, therefore,
are not reflected herein. As discussed in the TRS Liquidity and Capital
Resources section, the Company also securitizes cardmember loans into special
purposes entities that are off-balance sheet. The Company's charge card
receivables securitizations remain on the Consolidated Balance Sheets.
Risk Management
The Company's risk management objective is to monitor and control risk exposures
to earn returns commensurate with the appropriate level of risk assumed.
Management establishes and oversees implementation of Board-approved policies
covering the Company's funding, investments and the use of derivative financial
instruments. The Company's Treasury department, along with various asset and
liability committees in its businesses, is responsible for managing financial
market risk exposures within the context of Board-approved policies. See Note 9
to the Consolidated Financial Statements for a discussion of the Company's use
of derivatives.
The Enterprisewide Risk Management Committee (ERMC) supplements the risk
management capabilities resident within the business segments by routinely
reviewing key financial market, credit, operational and other risk
concentrations across the Company and recommending action where appropriate. The
ERMC recommends risk limits, promotes an understanding of risks across the
Company and supports senior management in making risk-return decisions.
Hedging strategies for financial market risk exposures are established,
maintained and monitored by the Company's Treasury department and are employed
to manage interest rate, foreign currency and equity market exposures over a
multi-year time horizon. The extent of the Company's unhedged exposures varies
over time based on current foreign exchange and interest rates, equity market
levels, the macro-economic environment and the hedging impact on particular
business objectives.
The Company's policies generally require that derivatives may be used only to
meet business objectives and not be used for speculative purposes. AEB has a
small proprietary trading portfolio that includes derivatives and operates with
continuously monitored limits and tight controls.
Hedging counterparties at TRS and AEFA must be rated by a recognized rating
agency in one of its three highest categories. AEB provides derivative products
to meet the needs of certain customers that are not rated or, as a consequence
of the sovereign debt rating of the country in which they operate, are not able
to achieve one of the three highest rating categories. Derivative credit and
market exposures are aggregated to determine counterparty exposures. Netting
agreements and, in certain instances, collateral are utilized to mitigate these
exposures. Documentation is subject to counsel review and approval and is
generally written on standard industry agreements.
17
<PAGE>
(p.44_axp_financial review)
The Company's foreign exchange exposures arise primarily from cross-currency
charges made by cardmembers, as well as from cash flow and balance sheet
exposures denominated in foreign currencies. The Company primarily uses spot and
forward foreign exchange contracts to manage the cross border transaction
exposures resulting from cardmember cross border spending in which the merchant
transaction currency differs from the billing currency.
In addition, the Company funds a portion of its local currency operations by
raising U.S. dollar funding and converting U.S. dollars to local currency
through foreign exchange derivative contracts. These foreign exchange
instruments are sometimes combined with interest rate swaps to achieve the
desired level of local market interest rate risk. Finally, the U.S. dollar value
of anticipated future earnings in foreign currencies is economically managed
from time to time using foreign exchange forward contracts.
The risk management sections for each segment include sensitivity analyses of
different types of market risk and estimate the effects of hypothetical sudden
and sustained changes in the applicable market conditions on the ensuing year's
earnings, based on year-end positions. The market changes, assumed to occur as
of year-end, are a 100 basis point increase in market interest rates, a 10
percent strengthening of the U.S. dollar versus all other currencies, and a 10
percent decline in the value of equity securities under management at AEFA.
Computations of the prospective effects of hypothetical interest rate, foreign
exchange rate and equity market changes are based on numerous assumptions,
including relative levels of market interest rates, foreign exchange rates and
equity prices, as well as the levels of assets and liabilities. The hypothetical
changes and assumptions will be different from what actually occurs in the
future. Furthermore, the computations do not incorporate actions that management
could take if the hypothetical market changes actually occur. As a result,
actual earnings consequences will differ from those quantified.
SUPPLEMENTAL INFORMATION -- MANAGED NET REVENUES
The following supplemental information is presented on the basis used by
management to evaluate operations. It differs in two respects from the
accompanying financial statements, which are prepared in accordance with GAAP.
First, revenues are presented as if there had been no asset lending
securitizations at TRS. This format is generally termed on a managed basis, as
further discussed in the TRS section of the Financial Review. Second, revenues
are considered net of AEFA's provisions for losses and benefits for annuities,
insurance and investment certificate products, which are essentially spread
businesses, as further discussed in the AEFA section of the Financial Review. A
reconciliation of consolidated revenues from a GAAP to a net managed basis is as
follows:
<TABLE>
<CAPTION>
Years Ended December 31, (Millions) 2003 2002 2001
- ----------------------------------------------------------------------------------
<S> <C> <C> <C>
GAAP revenues $25,866 $23,807 $22,582
Effect of TRS securitizations 943 948 743
Effect of AEFA provisions for losses and benefits (2,122) (1,954) (1,966)
- ----------------------------------------------------------------------------------
Managed net revenues $24,687 $22,801 $21,359
==================================================================================
</TABLE>
Managed net revenues increased 8 percent in 2003 to $24.7 billion, compared with
$22.8 billion in 2002, which was 7 percent higher than 2001. Managed net
revenues rose in 2003 due to greater discount revenues, higher cardmember loan
balances, increased management and distribution fees, larger insurance and
annuity revenues, greater card fees and higher other revenues. Managed net
revenues rose in 2002 due to higher revenues related to AEFA's investment
portfolio, greater discount revenues, higher lending spreads and loan balances
and greater insurance and annuity revenues. In 2002, these items were partially
offset by lower management fees and weaker travel revenues.
See TRS and AEFA segments for a discussion of why a managed basis presentation
at TRS and net revenues at AEFA is used by management and is important to
investors.
18
<PAGE>
(p.45_axp_financial review)
TRAVEL RELATED SERVICES
Results of Operations
STATEMENTS OF INCOME
<TABLE>
<CAPTION>
Years Ended December 31, (Millions) 2003 2002 2001
- --------------------------------------------------------------------------------------
<S> <C> <C> <C>
Net revenues:
Discount revenue $ 8,781 $ 7,931 $ 7,714
Net card fees 1,835 1,726 1,675
Lending:
Finance charge revenue 2,525 2,338 2,643
Interest expense 483 510 939
- --------------------------------------------------------------------------------------
Net finance charge revenue 2,042 1,828 1,704
Travel commissions and fees 1,507 1,408 1,537
Other commissions and fees 1,901 1,833 1,861
Travelers Cheque investment income 367 375 394
Securitization income, net 1,150 1,049 846
Other revenues 1,606 1,571 1,628
- --------------------------------------------------------------------------------------
Total net revenues 19,189 17,721 17,359
- --------------------------------------------------------------------------------------
Expenses:
Marketing, promotion, rewards and cardmember services 3,814 3,027 2,654
Provision for losses and claims:
Charge card 853 960 1,195
Lending 1,218 1,369 1,318
Other 127 149 164
- --------------------------------------------------------------------------------------
Total 2,198 2,478 2,677
Charge card interest expense 786 1,001 1,443
Net discount expense -- -- 96
Human resources 3,822 3,503 3,992
Other operating expenses 4,998 4,636 4,025
Restructuring charges -- (4) 414
Disaster recovery charge -- -- 79
- --------------------------------------------------------------------------------------
Total expenses 15,618 14,641 15,380
- --------------------------------------------------------------------------------------
Pretax income 3,571 3,080 1,979
Income tax provision 1,141 945 520
- --------------------------------------------------------------------------------------
Net income $ 2,430 $ 2,135 $ 1,459
======================================================================================
</TABLE>
Note: Certain reclassifications of prior period amounts have been made to
conform to the current presentation.
Travel Related Services reported net income of $2.4 billion in 2003, a 14
percent increase from $2.1 billion in 2002, which increased 46 percent from
2001. Results for 2001 included restructuring charges of $414 million ($267
million after-tax) and one-time costs and waived customer fees directly related
to the September 11th terrorist attacks of $87 million ($57 million after-tax).
19
<PAGE>
(p.46_axp_financial review)
The quality of TRS' card customer base, the breadth of its product portfolio,
the benefits of its reward-based, spend-oriented business model and its improved
revolving credit capabilities combined to create a competitive advantage that
was leveraged effectively to deliver strong results at TRS, despite the
continuation of a difficult travel environment during most of 2003. TRS
continued to expand into everyday spending categories, and the Company's
investments in growth initiatives over the past two years drove strong
cardmember spending, cards-in-force and lending balance growth.
The following management discussion includes information on both a GAAP basis
and managed basis. The managed basis presentation assumes there have been no
securitization transactions, i.e., all securitized cardmember loans and related
income effects are reflected in the Company's balance sheet and income
statement, respectively. The Company presents TRS information on a managed basis
because that is the way the Company's management views and manages the business.
Management believes that a full picture of trends in the Company's cardmember
lending business can only be derived by evaluating the performance of both
securitized and non-securitized cardmember loans. Asset securitization is just
one of several ways for the Company to fund cardmember loans. Use of a managed
basis presentation, including non-securitized and securitized cardmember loans,
presents a more accurate picture of the key dynamics of the cardmember lending
business, avoiding distortions due to the mix of funding sources at any
particular point in time. For example, irrespective of the mix, it is important
for management and investors to see metrics, such as changes in delinquencies
and write-off rates, for the entire cardmember lending portfolio because it is
more representative of the economics of the aggregate cardmember relationships
and ongoing business performance and trends over time. It is also important for
investors to see the overall growth of cardmember loans and related revenue and
changes in market share, which are significant metrics in evaluating the
Company's performance and which can only be properly assessed when all
non-securitized and securitized cardmember loans are viewed together on a
managed basis.
On a GAAP basis, results reflect finance charge revenue on the owned portfolio
as well as finance charge revenue on retained, undivided interests in
securitized loans, referred to as seller's interest. GAAP basis results also
include interest income on the Company's subordinated securities, which are
retained security interests of a U.S. cardmember loan securitization trust, as
well as securitization income. Securitization income includes gains on
securitizations (as discussed below), cash flows from a third retained interest
known as interest-only strips (present value of future net cash flows related to
securitized loan balances) and servicing revenue, net of related discounts. Net
securitization income increased 10 percent in 2003 and 24 percent in 2002
primarily as a result of a higher average balance of cardmember lending
securitizations. See Selected Statistical Information below for data relating to
TRS' owned portfolio.
TRS' results for the years ended December 31, 2003, 2002 and 2001 included net
cardmember lending securitization gains of $124 million ($81 million after-tax),
$136 million ($88 million after-tax) and $155 million ($101 million after-tax),
respectively. Management views the gains from securitizations as discretionary
benefits to be used for card acquisition expenses, which are reflected in both
marketing, promotion, rewards and cardmember services expenses and other
operating expenses. Consequently, the managed basis presentation for the years
ended December 31, 2003, 2002 and 2001 assumes that lending securitization gains
were offset by higher marketing, promotion, rewards and cardmember services
expenses of $74 million, $81 million and $92 million, respectively, and other
operating expenses of $50 million, $55 million and $63 million, respectively.
Accordingly, the incremental expenses, as well as the gains, have been
eliminated. The following table compares and reconciles the GAAP basis for
certain TRS income statement line items to the managed basis information, where
different.
20
<PAGE>
(p.47_axp_financial review)
GAAP Basis to Managed Basis Reconciliation -- Effect of Securitizations
Years Ended December 31, (Millions)
<TABLE>
<CAPTION>
- ----------------------------------------------------------- ---------------------------------------------------------
Effect of Securitizations
---------------------------------------------------------
GAAP Basis Securitization Effect Managed Basis
--------------------------- ---------------------------------------------------------
2003 2002 2001 2003 2002 2001 2003 2002 2001
- ----------------------------------------------------------- ---------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Net revenues:
Discount revenue $ 8,781 $ 7,931 $ 7,714
Net card fees 1,835 1,726 1,675 $ -- $ -- $ 16 $ 1,835 $ 1,726 $ 1,691
Lending:
Finance charge revenue 2,525 2,338 2,643 2,172 2,166 1,979 4,697 4,504 4,622
Interest expense 483 510 939 272 340 545 755 850 1,484
- ----------------------------------------------------------- ---------------------------------------------------------
Net finance
charge revenue 2,042 1,828 1,704 1,900 1,826 1,434 3,942 3,654 3,138
Travel commissions
and fees 1,507 1,408 1,537
Other commissions
and fees 1,901 1,833 1,861 193 185 153 2,094 2,018 2,014
Travelers Cheque
investment income 367 375 394
Securitization income, net 1,150 1,049 846 (1,150) (1,049) (846) -- -- --
Other revenues 1,606 1,571 1,628 -- (14) (14) 1,606 1,557 1,614
- ----------------------------------------------------------- ---------------------------------------------------------
Total net revenues 19,189 17,721 17,359 943 948 743 20,132 18,669 18,102
- ----------------------------------------------------------- ---------------------------------------------------------
Expenses:
Marketing, promotion,
rewards and
cardmember services 3,814 3,027 2,654 (74) (81) (92) 3,740 2,946 2,562
Provision for losses
and claims:
Charge card 853 960 1,195 -- -- 36 853 960 1,231
Lending 1,218 1,369 1,318 1,067 1,098 925 2,285 2,467 2,243
Other 127 149 164
- ----------------------------------------------------------- ---------------------------------------------------------
Total 2,198 2,478 2,677 1,067 1,098 961 3,265 3,576 3,638
Charge card
interest expense 786 1,001 1,443 -- (14) 33 786 987 1,476
Net discount expense -- -- 96 -- -- (96) -- -- --
Human resources 3,822 3,503 3,992
Other operating
expenses 4,998 4,636 4,025 (50) (55) (63) 4,948 4,581 3,962
Restructuring charges -- (4) 414
Disaster recovery charge -- -- 79
- ----------------------------------------------------------- ---------------------------------------------------------
Total expenses 15,618 14,641 15,380 $ 943 $ 948 $ 743 $16,561 $15,589 $16,123
- ----------------------------------------------------------- ---------------------------------------------------------
Pretax income 3,571 3,080 1,979
Income tax provision 1,141 945 520
- -----------------------------------------------------------
Net income $ 2,430 $ 2,135 $ 1,459
===========================================================
</TABLE>
21
<PAGE>
(p.48_axp_financial review)
The following discussion of TRS' results is presented on a managed basis.
In 2003, TRS' net revenues were up 8 percent primarily due to greater cardmember
spending, higher lending balances, increased cards-in-force and greater travel
and other commissions and fees. Net revenues in 2002 were 3 percent higher than
2001 as a result of greater net finance charge and discount revenue, partially
offset by lower travel commissions and fees, Travelers Cheque investment income
and other revenues.
Revenues and expenses are affected by changes in the relative values of non-U.S.
currencies to the U.S. dollar. The currency rate changes had a favorable effect
on revenue growth of approximately 3 percentage points in 2003 and negligible
effect on revenue in 2002. Currency rate changes increased expenses by
approximately 3 percentage points in 2003 and had a negligible impact on
expenses in 2002.
Discount revenue rose 11 percent compared to a year ago as a result of a 13
percent increase in billed business partially offset by a lower discount rate
that primarily reflects the cumulative impact of stronger than average growth in
the lower rate retail and other "everyday spend" merchant categories (i.e.,
supermarkets, discounters, etc.). Based on the Company's business strategy, it
expects to see continued changes in the mix of business. This, along with
volume-related pricing discounts and selective repricing initiatives, will
probably continue to result in some discount rate erosion over time. Discount
revenue rose 3 percent during 2002 as a result of a 4 percent increase in billed
business partially offset by a lower discount rate. The 13 percent increase in
billed business in 2003 resulted from 6 percent growth in cards-in-force on
higher card acquisitions and an improved average customer retention level and 9
percent growth in spending per basic cardmember worldwide. U.S. cards-in-force
rose 4 percent and 2 percent in 2003 and 2002, respectively, reflecting the
continued benefit of increased card acquisition spending within the consumer and
small business segments and, in 2003, a return to growth within corporate
services. International cards-in-force increased 9 percent and 8 percent in 2003
and 2002, respectively, due to growth in both proprietary and network
partnership cards.
U.S. billed business rose 12 percent reflecting 13 percent growth within the
consumer card business, 16 percent growth in small business services volume and
a 4 percent increase within corporate services. U.S. non-T&E related volume
categories, which represented approximately 65 percent of U.S. billed business
during 2003, increased 16 percent over 2002 while U.S. T&E volumes rose 4
percent reflecting continued strengthening across all T&E industries as the year
progressed. Total billed business outside the U.S., excluding the impact of
foreign exchange translation, grew 5 percent reflecting mid double-digit
improvement in Latin America, high single-digit growth in both Canada and Asia
and low single-digit growth in Europe. Worldwide airline volumes, which
represented 13 percent of total volumes during 2003, increased 4 percent as a
result of a 5 percent growth in transaction volumes partially offset by a 1
percent decrease in the average airline charge.
22
<PAGE>
(p.49_axp_financial review)
Net card fees increased 6 percent in 2003 reflecting 6 percent growth in
cards-in-force and the benefit of selected annual fee increases. The average
annual fee per proprietary card-in-force increased to $35 in 2003 versus $34 in
both 2002 and 2001. Net card fees increased 2 percent in 2002 reflecting growth
in cards-in-force.
Cardmember lending net finance charge revenue rose 8 percent in 2003 primarily
due to a 13 percent increase in average worldwide lending balances partially
offset by lower yields. The net interest yield on the worldwide lending
portfolio decreased compared to 2002 reflecting an increase in the proportion of
the portfolio on introductory rates and the evolving mix of products toward more
lower-rate offerings, partially offset by lower funding costs. In 2002,
cardmember lending net finance charge revenue increased 16 percent.
Travel commissions and fees increased 7 percent in 2003 due to higher revenue
earned per dollar of sales coupled with a 3 percent increase in travel sales,
primarily due to the acquisition of Rosenbluth in the fourth quarter. Travel
commissions and fees declined 8 percent in 2002 as a result of a 10 percent
contraction in travel sales reflecting the weak corporate travel environment
throughout 2002.
Other commissions and fees increased 4 percent in 2003 due to higher
card-related fees and assessments. The balances were relatively flat in 2002.
Other revenues increased 3 percent in 2003 primarily due to greater
merchant-related revenues and larger insurance premiums partially offset by
lower interest income on investment and liquidity pools held within card funding
vehicles and lower ATM revenues. The decrease in other revenues in 2002 was
primarily due to significantly lower interest income on investment and liquidity
pools held within card funding vehicles, which partially offset higher insurance
related revenues.
In 2003, TRS' expenses were up 6 percent primarily due to greater marketing,
promotion, rewards and cardmember services expenses, higher human resources
expense and increased other expenses, partially offset by lower interest costs,
reduced provisions for losses and cost control initiatives. Expenses in 2002
were 3 percent lower than 2001 primarily due to decreases in interest costs,
human resources expense and provisions for losses, partially offset by increases
in marketing, promotion, rewards and cardmember services expenses and other
operating expenses.
Marketing, promotion, rewards and cardmember services expenses increased 27
percent in 2003 on the continuation of brand and product advertising, an
increase in selected card acquisition activities and higher cardmember rewards
and services expenses reflecting higher volumes and greater program
participation and penetration. While the amount of these expenses is expected to
continue to rise, the growth rate for these costs is expected to be lower in
2004 as loyalty program utilization begins to stabilize and the Company further
leverages expenditures made during 2003. Management believes, based on
historical experience, that cardmembers enrolled in rewards and co-brand
programs yield higher spend, better retention, stronger credit performance and
greater profit for the Company. Marketing, promotion, rewards and cardmember
services expense increased 15 percent in 2002 from the launch of a new brand
advertising campaign, the introduction of charge cards with Membership Rewards
built-in and the Cash Rebate card, more loyalty marketing, and an increase in
selected card acquisition activities, as well as increases in cardmember rewards
and services expenses reflecting higher volumes and greater program
participation.
23
<PAGE>
(p.50_axp_financial review)
The provision for losses on charge card products decreased 11 percent on strong
credit quality reflected in an improved past due percentage and loss ratio. The
net loss ratio as a percentage of charge volume decreased to 0.28% in 2003 from
0.38% in 2002. The worldwide charge card provision also decreased in 2002 due to
strong credit quality. The provision for losses on the worldwide lending
portfolio decreased 7 percent in 2003 despite growth in outstanding loans and
increased reserve coverage levels due to well-controlled credit practices and
improving economic trends. The worldwide lending provision increased in 2002,
reflecting portfolio growth and increased reserve coverage levels. The net
write-off rate for the worldwide lending portfolio was 5.2% in 2003 versus 5.9%
in 2002.
Charge card interest expense declined 20 percent in 2003 due to a lower
effective cost of funds, partially offset by a higher average receivable
balance. Charge card interest expense declined 33 percent in 2002 due to a lower
effective cost of funds and a lower average receivable balance.
Human resources expense increased 9 percent in 2003 as employee merit increases,
higher employee benefit expenses and increased management incentive costs were
partially offset by the benefits from reengineering efforts. Increases in 2003
management incentive costs included higher stock-based compensation costs from
both stock options and increased levels of restricted stock awards. The higher
stock-based compensation expense from stock options reflects the Company's
decision to expense stock options beginning in 2003. Higher expense related to
restricted stock awards reflects the Company's decision to modify compensation
practices and use restricted stock awards in place of stock options for middle
management. In 2002, human resources expense decreased 12 percent as a result of
a lower average number of employees, reflecting ongoing reengineering efforts
throughout 2002 and the impact of technology outsourcing agreements.
Other operating expenses increased 8 percent reflecting, in part, the impact of
greater business and service volume-related costs, including outsourcing
activities. This increase was partially offset by the benefits of reengineering
initiatives and other cost containment efforts. In 2002, other operating
expenses rose due to losses primarily from strategic investments versus gains in
the prior year, as well as the impact of outsourcing agreements, partially
offset by reengineering initiatives and other cost containment efforts.
24
<PAGE>
(p.51_axp_financial review)
SELECTED STATISTICAL INFORMATION
<TABLE>
<CAPTION>
(Billions, except percentages and where indicated)
Years Ended December 31, 2003 2002 2001
- -------------------------------------------------------------------------------
<S> <C> <C> <C>
Total cards-in-force* (millions):
United States 36.4 34.8 34.3
Outside the United States 24.1 22.2 20.6
- -------------------------------------------------------------------------------
Total 60.5 57.0 54.9
- -------------------------------------------------------------------------------
Basic cards-in-force (millions):
United States 27.7 26.9 26.8
Outside the United States 19.9 18.3 15.6
- -------------------------------------------------------------------------------
Total 47.6 45.2 42.4
- -------------------------------------------------------------------------------
Card billed business:
United States $262.1 $234.1 $224.5
Outside the United States 90.1 77.3 73.5
- -------------------------------------------------------------------------------
Total $352.2 $311.4 $298.0
- -------------------------------------------------------------------------------
Average discount rate* 2.59% 2.64% 2.67%
Average basic cardmember spending (dollars)* $8,367 $7,645 $7,666
Average fee per card -- managed (dollars)* $ 35 $ 34 $ 34
Non-Amex brand:**
Cards-in-force (millions) 0.7 0.7 0.7
Billed business $ 3.9 $ 3.7 $ 3.4
Travel sales $ 16.0 $ 15.5 $ 17.2
Travel commissions and fees/sales 9.4% 9.1% 8.9%
Travelers Cheque and prepaid products:
Sales $ 19.2 $ 22.1 $ 23.5
Average outstanding $ 6.6 $ 6.5 $ 6.4
Average investments $ 7.1 $ 6.9 $ 6.6
Investment yield 5.4% 5.6% 5.8%
Tax equivalent yield 8.4% 8.7% 9.0%
===============================================================================
</TABLE>
* Cards-in-force include proprietary cards and cards issued under network
partnership agreements outside the United States. Average discount rate,
average basic cardmember spending and average fee per card are computed
from proprietary card activities only. Total cards-in-force for prior
periods have been reduced, reflecting a correction to the number of
supplemental cards-in-force.
** These data relate to Visa and Eurocards issued in connection with joint
venture activities.
25
<PAGE>
(p.52_axp_financial review)
SELECTED STATISTICAL INFORMATION (continued)
<TABLE>
<CAPTION>
(Billions, except percentages and where indicated)
Years Ended December 31, 2003 2002 2001
- -------------------------------------------------------------------------------
<S> <C> <C> <C>
Worldwide charge card receivables:
Total receivables $ 28.4 $ 26.3 $ 26.2
90 days past due as a % of total 1.9% 2.2% 2.9%
Loss reserves (millions) $ 916 $ 930 $ 1,032
% of receivables 3.2% 3.5% 3.9%
% of 90 days past due 171% 162% 136%
Net loss ratio as a % of charge volume 0.28% 0.38% 0.42%
Worldwide lending -- owned basis:
Total loans $ 25.8 $ 22.6 $ 21.0
Past due loans as a % of total:
30-89 days 1.6% 1.9% 2.0%
90+ days 1.1% 1.3% 1.3%
Loss reserves (millions):
Beginning balance $ 1,030 $ 831 $ 650
Provision 1,121 1,271 1,231
Net charge-offs (1,148) (1,167) (1,086)
Other (5) 95 36
- -------------------------------------------------------------------------------
Ending balance $ 998 $ 1,030 $ 831
===============================================================================
% of loans 3.9% 4.6% 4.0%
% of past due 145% 144% 120%
Average loans $ 22.6 $ 19.9 $ 20.4
Net write-off rate 5.1% 5.9% 5.3%
Net interest yield 9.0% 9.2% 8.4%
Worldwide lending -- managed basis:
Total loans $ 45.3 $ 39.8 $ 36.0
Past due loans as a % of total:
30-89 days 1.6% 1.9% 2.1%
90+ days 1.1% 1.2% 1.2%
Loss reserves (millions):
Beginning balance $ 1,529 $ 1,240 $ 917
Provision 2,188 2,370 2,166
Net charge-offs (2,171) (2,176) (1,879)
Other (5) 95 36
- -------------------------------------------------------------------------------
Ending Balance $ 1,541 $ 1,529 $ 1,240
===============================================================================
% of loans 3.4% 3.8% 3.4%
% of past due 127% 124% 103%
Average loans $ 41.6 $ 36.7 $ 34.2
Net write-off rate 5.2% 5.9% 5.1%
Net interest yield 9.5% 10.0% 9.2%
===============================================================================
</TABLE>
26
<PAGE>
(p.53_axp_financial review)
TRS' owned portfolio is primarily comprised of cardmember receivables generated
by the Company's charge card products, unsecuritized U.S. cardmember loans,
international cardmember loans and unsecuritized equipment leasing receivables.
As discussed more fully in the TRS Liquidity and Capital Resources section
below, the Company securitizes U.S. cardmember loans as part of its financing
strategy; consequently, the level of unsecuritized U.S. cardmember loans is
primarily a function of the Company's financing requirements. As a portfolio,
unsecuritized U.S. cardmember loans tend to be less seasoned than securitized
loans, primarily because of the lead time required to designate and securitize
each loan. The Company does not currently securitize international loans.
Delinquency, reserve coverage and net write-off rates have historically been
broadly comparable between the Company's owned and managed portfolios.
Liquidity and Capital Resources
SELECTED BALANCE SHEET INFORMATION (GAAP BASIS)
<TABLE>
<CAPTION>
December 31, (Billions, except percentages) 2003 2002
- --------------------------------------------------------------------------------
<S> <C> <C>
Accounts receivable, net $30.2 $28.1
Travelers Cheque investments $ 7.7 $ 7.4
Worldwide cardmember loans $25.8 $22.6
Total assets $79.3 $72.2
Travelers Cheques outstanding $ 6.8 $ 6.6
Short-term debt $21.8 $21.7
Long-term debt $16.6 $14.8
Total liabilities $71.4 $64.9
Total shareholder's equity $ 7.9 $ 7.3
Return on average total shareholder's equity* 31.3% 30.3%
Return on average total assets** 3.4% 3.2%
================================================================================
</TABLE>
* Computed on a trailing 12-month basis using total shareholder's equity as
included in the Consolidated Financial Statements prepared in accordance
with GAAP.
** Computed on a trailing 12-month basis using total assets as included in the
Consolidated Financial Statements prepared in accordance with GAAP.
Financing Activities
TRS funds its charge card receivables and cardmember loans using various funding
sources, such as short- and long-term debt, medium-term notes, and sales of
cardmember receivables and loans in securitizations. In 2003, TRS had
uninterrupted access to the money and capital markets to fund its business
operations. TRS funds its receivables and loans primarily through two entities.
Credco funds the vast majority of charge card receivables, and Centurion Bank
funds mainly cardmember loans originated from the Company's lending activities.
In addition, two trusts are used by the Company in connection with the
securitization and sale of receivables and loans generated in the ordinary
course of TRS' card businesses. The assets securitized consist principally of
consumer cardmember receivables and loans arising from TRS' charge card and
lending activities.
TRS' funding needs are met primarily through the following sources:
o Commercial paper issued by Credco
o Bank notes, institutional CDs and Fed Funds borrowed by Centurion Bank
o Medium-term notes and senior unsecured debentures
o Sale of cardmember receivables and loans through securitizations
o Local currency borrowings in selected markets
TRS' debt offerings are placed either directly, as in the case of its commercial
paper program through Credco, or through securities brokers or underwriters. In
certain international markets, bank borrowings are used to partially fund
cardmember receivables and loans.
27
<PAGE>
(p.54_axp_financial review)
Short-term debt is defined as any debt with an original maturity of 12 months or
less. The commercial paper market represents the primary source of short-term
funding for the Company. Credco's commercial paper is a widely recognized name
among short-term investors and is a principal source of debt for the Company. At
December 31, 2003, Credco had $8.8 billion of commercial paper outstanding, net
of certain short-term investments. The outstanding amount, net of certain
short-term investments, declined $0.5 billion or 5.6 percent from a year ago as
part of the Company's efforts to lessen its reliance on short-term funding
sources. Average commercial paper outstanding, net of certain short-term
investments, was $7.7 billion and $10.6 billion in 2003 and 2002, respectively.
TRS currently manages the level of commercial paper outstanding, net of certain
short-term investments, such that the ratio of its committed bank credit
facility to total short-term debt, which consists mainly of commercial paper, is
not less than 100%.
Centurion Bank raises short-term debt through various instruments. Bank notes
issued and Fed Funds purchased by Centurion Bank totaled approximately $7.6
billion as of December 31, 2003. Centurion Bank also raises customer deposits
through the issuance of certificates of deposits to retail and institutional
customers. As of December 31, 2003, Centurion Bank held $8.8 billion in customer
deposits. Long-term funding needs are met principally through the sale of
cardmember loans in securitization transactions. Centurion Bank maintains $320
million of committed bank credit lines as a backup to its short-term funding
programs. The Asset/Liability Committee of Centurion Bank provides management
oversight to Centurion Bank with respect to formulating and ratifying funding
strategy and to ensuring that all funding policies and requirements are met.
Medium- and long-term debt is raised through the offering of debt securities in
the U.S. and international capital markets. Medium-term debt is generally
defined as any debt with an original maturity greater than 12 months but less
than 36 months. Long-term debt is generally defined as any debt with an original
maturity greater than 36 months. At December 31, 2003, TRS and its subsidiaries
had the following amounts of medium- and long-term debt outstanding:
<TABLE>
<CAPTION>
(Billions) Credco Centurion Other Subsidiaries Total TRS
- --------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Medium-term debt $ 9.4 $0.1 $0.9 $10.4
Long-term debt 2.0 -- 4.2 6.2
- --------------------------------------------------------------------------------------
Total medium- and long-term debt $11.4 $0.1 $5.1 $16.6
======================================================================================
</TABLE>
During 2003, TRS further diversified its term funding sources through the
issuance of new types of debt instruments and through the issuance of debt at
maturities attractive to investor segments new to the Company:
o $2 billion of extendible medium-term notes, a new debt instrument issued by
Credco for the first time, raised proceeds for up to 5 years at an
attractive cost.
o $1 billion of extendible notes issued through a private placement. This
debt was offered to eligible money market fund investors and expanded
Credco's investor base.
o $1 billion of 5-year notes issued by Credco.
The following table highlights TRS' outstanding debt and off-balance sheet
securitizations as of December 31, 2003 and 2002:
<TABLE>
<CAPTION>
(Billions) 2003 2002
- --------------------------------------------------------------------------------
<S> <C> <C>
Short-term debt $21.8 $21.7
Long-term debt 16.6 14.8
- --------------------------------------------------------------------------------
Total debt (GAAP basis) $38.4 $36.5
Off-balance sheet securitizations 19.5 17.2
- --------------------------------------------------------------------------------
Total debt (managed basis) $57.9 $53.7
================================================================================
</TABLE>
28
<PAGE>
(p.55_axp_financial review)
In 2004, TRS along with its subsidiaries, Credco and Centurion Bank, expects to
issue approximately $20 billion in long-term debt to fund business growth and
refinance maturing debt. This amount includes approximately $2.6 billion in
connection with the Company's liquidity portfolio (which is discussed further in
the Liquidity section below). The Company expects that its planned funding
during the next year will be met through a combination of sources similar to
those on which it currently relies. However, the Company continues to assess its
needs and investor demand and may change its funding mix. The Company's funding
plan is subject to various risks and uncertainties, such as disruption of
financial markets, market capacity and demand for securities offered by the
Company, accounting or regulatory changes, ability to sell receivables, and the
performance of receivables previously sold in securitization transactions. Many
of these risks and uncertainties are beyond the Company's control.
As of December 31, 2003, Credco had the ability to issue approximately $9.8
billion of debt securities under shelf registration statements filed with the
SEC.
Cost of Funds
Cost of funds is generally determined by a margin or credit spread over a
benchmark interest rate. Credit spreads are measured in basis points where 1
basis point equals one one-hundredth of one percentage point. It is the smallest
measure used in quoting borrowing spreads. Commercial paper and other short-term
debt funding costs are based on spreads bench-marked against London Interbank
Offered Rate (LIBOR), a commonly used interest rate. Costs for unsecured
long-term debt and securitized funding are based on spreads benchmarked against
LIBOR, U.S. Treasury securities of similar maturities, or other rates. The table
below highlights average indicative spreads for 5-year unsecured and securitized
funding. Spreads shown are off of 1 month LIBOR for each respective time period:
<TABLE>
<CAPTION>
(Spread in basis points*) 2003 2002 2001
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Unsecured debt 21 45 37
Securitized debt** 11 12 13
================================================================================
</TABLE>
* Indicative spreads for each respective period.
** For AAA Lending Asset Backed Certificates only.
Securitizations
TRS uses asset securitization as a part of its overall funding program. TRS'
securitization programs are similar to those widely used by many financial
institutions. The securitization market in the United States is highly liquid,
efficient and mature with over $1.3 trillion of asset-backed securities
outstanding at December 31, 2003. This market provides TRS with very
cost-effective funding for its long-term funding needs. TRS, through its special
purpose subsidiaries, principally securitizes its cardmember charge card
receivables and cardmember loans arising from its card businesses.
Asset securitization involves selling receivables or loans into a separate legal
entity, typically a trust. The trust issues interest-bearing certificates,
commonly referred to as asset-backed securities, to third-party investors which
are secured by the future collections on the sold receivables or loans. The
trust utilizes the proceeds from the sale of such securities to pay the purchase
price for receivables or loans that were sold into the trust. TRS, through its
subsidiaries, retains an interest in the securitized receivables that may be
represented by subordinated securities, undivided interests in receivables or
loans, restricted cash held in segregated reserve funds for the benefit of the
trust and interest-only strips. TRS' use of trusts in its securitization
programs conforms to standard practices in the securitization market. The trusts
are used in securitizations to segregate the sold receivables or loans for the
benefit of the asset-backed securities investors. Assuming the criteria of
securitization accounting rules are met under generally accepted accounting
principles, the sold receivables and loans are removed from the balance sheet of
the trust's sponsor and the certificates are not recorded as a liability.
29
<PAGE>
(p.56_axp_financial review)
No officer, director or employee holds any equity interest in the trusts or
receives any direct or indirect compensation from the trusts. The trusts in the
Company's securitization programs do not own stock of the Company or the stock
of any affiliate.
TRS' securitization programs are operated through its special purpose
subsidiaries and two trusts. The American Express Credit Account Master Trust
(the Master Trust) securitizes assets consisting of loans arising in a portfolio
of designated consumer American Express Credit Card, Optima Line of Credit and
Sign & Travel/Extended Payment Option revolving credit accounts or features
owned by Centurion Bank. In the future, it may include other charge or credit
accounts, features or products. The Master Trust securitized $3.5 billion and
$4.6 billion of loans in 2003 and 2002, respectively, through the public
issuance of investor certificates. During 2003 and 2002, $1.0 billion and $2.0
billion, respectively, of investor certificates that were previously issued by
the Master Trust matured. When investor certificates mature, principal
collections received from the Master Trust assets are used to redeem the
certificates. At December 31, 2003 and 2002, TRS had a total of $19.4 billion
and $16.9 billion, respectively, of trust-related securitized cardmember loans
that are not on the Consolidated Balance Sheets. Retained subordinated interests
related to these assets totaled $1.8 billion and $1.5 billion at December 31,
2003 and 2002, respectively, and are on the Consolidated Balance Sheets.
Under the terms of the Master Trust pooling and servicing agreement, the
occurrence of certain events could result in the Master Trust being required to
pay down the investor certificates before their expected payment dates over an
early amortization period. Examples of these events include: the failure of the
securitized assets to generate specified yields over a defined period of time
and the decline of the total of the securitized assets' principal balances below
a specified percentage of total investor certificates outstanding after the
failure to add additional securitized assets as required by the agreement. The
Company does not expect an early amortization event to occur. In the event of a
pay down, $17.6 billion of assets would revert to the balance sheet and an
alternate source of funding of a commensurate amount would have to be obtained.
Had a total pay down hypothetically occurred at a single point in time at
December 31, 2003, the one-time negative effect on results of operations would
have been approximately $750 million pretax to re-establish reserves and
accelerate amortization of the interest-only strip related to these
securitizations that would revert to the balance sheet. Subject to the
performance of the loans, the one-time negative effect would be offset by
finance charge revenue over the life of the loans.
The second trust used by the Company, the American Express Master Trust (the
Trust), securitizes charge card receivables generated under designated American
Express Card, Gold Card and Platinum Card consumer accounts through the issuance
of trust certificates. The assets in this Trust remain on the Company's
Consolidated Balance Sheets. In 2002, the Trust securitized $1.8 billion of
accounts receivable trust certificates and, in 2003, $2.0 billion of accounts
receivable trust certificates that were previously issued by the Trust matured.
The Trust specifies events the occurrence of which would result in a pay down.
The Company does not expect a pay down to occur. While virtually no financial
statement impact would result from a pay down, an alternate source of funding
for the December 31, 2003 outstanding balance of $2.8 billion of receivables
would have to be obtained.
With respect to both the Master Trust and the Trust, a decline in the actual or
implied short-term credit rating of TRS below A-1/P-1 will trigger a requirement
that TRS, as servicer, transfer collections on the securitized assets to
investors on a daily, rather than a monthly, basis or make alternative
arrangements with the rating agencies to allow TRS to continue to transfer
collections on a monthly basis. Such alternative arrangements include obtaining
appropriate guarantees for the performance of the payment and deposit
obligations of TRS, as servicer.
30
<PAGE>
(p.57_axp_financial review)
TRS also securitizes equipment lease receivables. At December 31, 2003 and 2002,
the amount sold and outstanding to third party investors was $138 million and
$254 million, respectively. These sales resulted in a reduction of interest
expense and provisions for losses, as well as servicing revenue, all of which
are insignificant to the Company's results of operations.
Liquidity
The Company balances the trade-offs between having too much liquidity, which can
be costly and limit financial flexibility, with having inadequate liquidity,
which may result in financial distress during a liquidity crisis (see Contingent
Liquidity Planning section below). The Company considers various factors in
determining its liquidity needs, such as economic and financial market
conditions, seasonality in business operations, growth in business segments,
cost and availability of alternative liquidity sources, and credit rating agency
considerations.
In 2003, TRS continued to strengthen its liquidity position by reducing its
reliance on short-term debt through extension of its debt maturities. Short-term
debt on a GAAP basis as a percentage of total debt declined to 57% at December
31, 2003 from 59% at December 31, 2002. Additionally, short-term debt on a
managed basis as a percentage of total debt declined to 38% at December 31, 2003
from 40% at December 31, 2002.
TRS estimates it will have liquidity requirements of approximately $8.7 billion
within the next year related to the maturity of long-term debt obligations.
These requirements include $3.8 billion related to certain securitization
transactions that will enter their scheduled amortization period. In addition,
TRS expects to maintain net short-term debt balances of approximately $14
billion over the period. TRS believes that its funding plan is adequate to meet
these liquidity requirements.
TRS believes that its available liquidity provides sufficient funding to meet
normal operating needs at all times. In addition, alternative liquidity sources
are available, mainly in the form of the liquidity portfolio, securitizations
and committed bank credit facilities, to provide uninterrupted funding over a
twelve-month period should access to unsecured debt sources become impaired.
Liquidity Portfolio
During the normal course of business, funding activities may raise more proceeds
than are necessary for immediate funding needs. These amounts are invested
principally in overnight, highly liquid instruments. In addition, in the fourth
quarter of 2003, the Company began a program to develop a liquidity portfolio in
which proceeds raised from such borrowings are invested in two to three year
U.S. Treasury securities. At December 31, 2003, the Company held $800 million in
two year U.S. Treasury notes under this program. This program was increased to
approximately $4 billion in the first quarter of 2004.
The invested amounts of the liquidity portfolio provide back-up liquidity,
primarily for the commercial paper program at Credco, and also flexibility for
other short-term funding programs at Centurion Bank. U.S. Treasury securities
are the highest credit quality and most liquid of investment instruments
available. The Company can easily sell these securities or enter into
sale/repurchase agreements to immediately raise cash proceeds to meet liquidity
needs.
From time to time, either Credco or Centurion Bank may increase its liquidity
portfolio in order to pre-refund maturing debt obligations when financial market
conditions are favorable. These levels are monitored and adjusted when necessary
to maintain short-term liquidity needs in response to seasonal or changing
business conditions.
31
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(p.58_axp_financial review)
Committed Bank Credit Facilities
The Company maintained committed bank credit facilities with 60 large financial
institutions totaling $10.85 billion (including $1.29 billion at the Parent
Company) at December 31, 2003. These facilities expire as follows (billions):
2004, $5.4; 2005, $2.3; 2006, $2.2 and 2007, $1.0. The availability of the
credit lines is subject to the Company's compliance with certain financial
covenants, including the maintenance by the Company of consolidated tangible net
worth of at least $7.75 billion, the maintenance by Credco of a 1.25 ratio of
combined earnings and fixed charges to fixed charges, and the compliance by
Centurion Bank with applicable regulatory capital adequacy guidelines. At
December 31, 2003, the Company's consolidated tangible net worth was
approximately $12.4 billion, Credco's ratio of combined earnings and fixed
charges to fixed charges was 1.46 and Centurion Bank exceeded the Federal
Deposit Insurance Corporation's "well capitalized" regulatory capital adequacy
guidelines.
Committed bank credit facilities do not contain material adverse change clauses,
which may preclude borrowing under the credit facilities. The facilities may not
be terminated should there be a change in the Company's credit rating.
Contingent Liquidity Planning
TRS has developed a contingent funding plan that enables it to meet its daily
funding obligations when access to unsecured funds in the debt capital markets
is impaired or unavailable. This plan is designed to ensure that the Company and
all of its main operating entities could continuously maintain normal business
operations for at least a 12-month period in which its access to unsecured funds
is interrupted. The contingent funding plan includes access to diverse sources
of alternative funding, including but not limited to its liquidity investment
portfolio, committed bank lines, intercompany borrowings, sale of consumer loans
and cardmember receivables through its existing securitization programs and sale
of other eligible receivables, such as corporate and small business receivables
and international cardmember loans and receivables, through enhanced
securitization programs. In addition, the Company maintains substantial
flexibility to reduce its operating cash requirements, such as through its share
repurchase program, and the delay or deferment of certain operating expenses.
The funding sources that would be relied upon depend on the exact nature of such
a hypothetical liquidity crisis; nonetheless, TRS' liquidity sources are
designed with the goal of ensuring there is sufficient cash on hand to fund
business operations over a 12-month period regardless of whether the liquidity
crisis was caused by an external, industry or Company specific event. The
contingent funding plan also addresses operating flexibilities in quickly making
these funding sources available to meet all financial obligations. The simulated
liquidity crisis is defined as a sudden and unexpected event that impairs access
to or makes unavailable funding in the unsecured debt markets. It does not
address asset quality deterioration. Asset quality deterioration, if it were to
occur, would be expected to unfold over an extended time period and should allow
management sufficient time to take appropriate corrective actions to mitigate
further asset quality deterioration as it becomes more visible. TRS estimates
that, under a worst case liquidity crisis scenario, it has in excess of $25
billion in alternate funding sources available to cover cash needs over the
first 60 days after a liquidity crisis has occurred.
Contingent Securitization Capacity
A key source in the Company's contingent funding plan is asset securitization.
Management expects that $10 billion of additional consumer loans, cardmember
receivables and small business loans could be sold to existing securitization
trusts. In order to further enhance its flexibility, the Company is seeking to
add the capabilities to sell other assets from the loan and cardmember
receivables portfolios. The primary goal of adding this additional
securitization capacity is to further enhance the Company's flexibility in
accessing diverse funding sources on a contingency basis.
32
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(p.59_axp_financial review)
The Company believes that the securitized financing would be available even
through adverse conditions due to the structure, size and relative stability of
the securitization market. Proceeds from secured financings completed during a
liquidity crisis could be used to meet current obligations, to reduce or retire
other contingent funding sources such as bank credit lines, or a combination of
the two. However, other factors affect the Company's ability to securitize loans
and receivables and do so at a favorable cost to the Company, such as credit
quality of the assets and the legal, accounting, regulatory and tax environment
for securitization transactions. Material changes in any of these factors may
potentially limit the Company's ability to securitize its loans and receivables
and could introduce certain risks to the Company's ability to meet its financial
obligations. In such a case, the use of investment securities, asset
dispositions, asset monetization strategies and flexibility to reduce operating
cash needs could be utilized to meet its liquidity needs.
Risk Management
For TRS' charge card and fixed rate lending products, interest rate exposure is
managed through a combination of shifting the mix of funding toward fixed rate
debt and through the use of derivative instruments, with an emphasis on interest
rate swaps, that effectively fix TRS' interest expense for the length of the
swap. The Company endeavors to lengthen the maturity of interest rate hedges in
periods of falling interest rates and to shorten their maturity in periods of
rising interest rates. For the majority of its cardmember loans, which are
linked to a floating rate base and generally reprice each month, TRS uses
floating rate funding. TRS regularly reviews its strategy and may modify it.
Non-trading interest rate products, primarily interest rate swaps, with notional
amounts of approximately $39 billion (a portion of which extends to 2011) were
outstanding at December 31, 2003.
The detrimental effect on TRS' pretax earnings of a hypothetical 100 basis point
increase in interest rates would be approximately $64 million ($50 million
related to the U.S. dollar) and $50 million ($40 million related to the U.S.
dollar), based on the 2003 and 2002 year-end positions, respectively. This
effect is primarily a function of the extent of variable rate funding of charge
card and fixed rate lending products, to the degree that interest rate exposure
is not managed by derivative financial instruments.
TRS' foreign exchange risk arising from cross-currency charges and balance sheet
exposures is managed primarily by entering into agreements to buy and sell
currencies on a spot or forward basis. At December 31, 2003, foreign currency
products with total notional amounts of approximately $9.9 billion were
outstanding.
Based on the year-end 2003 and 2002 foreign exchange positions, but excluding
forward contracts managing the anticipated overseas operating results for the
subsequent year, the effect on TRS' earnings of a hypothetical 10 percent change
in the value of the U.S. dollar would be immaterial. With respect to forward
contracts related to anticipated overseas operating results for the subsequent
year, a 10 percent change would hypothetically impact pretax income by $57
million and $59 million related to the 2003 and 2002 year-end positions,
respectively.
33
<PAGE>
(p.60_axp_financial review)
AMERICAN EXPRESS FINANCIAL ADVISORS
Results of Operations
STATEMENTS OF INCOME
<TABLE>
<CAPTION>
Years Ended December 31, (Millions) 2003 2002 2001
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Revenues:
Investment income $2,279 $2,058 $1,162
Management and distribution fees 2,458 2,292 2,458
Other revenues 1,435 1,267 1,171
- --------------------------------------------------------------------------------
Total revenues 6,172 5,617 4,791
- --------------------------------------------------------------------------------
Expenses:
Provision for losses and benefits:
Annuities 1,104 1,034 989
Insurance 817 737 648
Investment certificates 201 183 329
- --------------------------------------------------------------------------------
Total 2,122 1,954 1,966
Human resources 2,090 1,898 1,969
Other operating expenses 1,101 907 762
Restructuring charges -- -- 107
Disaster recovery charge -- (7) 11
- --------------------------------------------------------------------------------
Total expenses 5,313 4,752 4,815
- --------------------------------------------------------------------------------
Pretax income (loss) before accounting change 859 865 (24)
Income tax provision (benefit) 177 233 (76)
- --------------------------------------------------------------------------------
Income before accounting change 682 632 52
Cumulative effect of accounting change, net of tax (13) -- --
- --------------------------------------------------------------------------------
Net income $ 669 $ 632 $ 52
================================================================================
</TABLE>
In 2003, American Express Financial Advisors generated improved revenues on
increased investment income and management and distribution fees primarily due
to strengthening markets, higher asset levels and the acquisition of
Threadneedle.
AEFA's 2003 income before accounting change rose 8 percent to $682 million.
AEFA's net income increased 6 percent to $669 million in 2003, up from $632
million in 2002 and $52 million in 2001. AEFA's 2003 results reflect a $41
million reduction in tax expense due to adjustments related to the finalization
of the 2002 tax return filed during the third quarter and the publication of
favorable technical guidance related to the taxation of dividend income. Results
for 2003 also reflect the impact of the December 31, 2003 adoption of FIN 46, as
revised, which addresses consolidation by business enterprises of VIEs and is
discussed in more detail below. Results for 2002 included a benefit of $7
million ($4 million after-tax) to reverse a portion of the 2001 September 11th
related reserves as a result of lower than anticipated insured loss claims.
Included in 2001 results are restructuring charges of $107 million ($70 million
after-tax) and one-time costs of $11 million ($8 million after-tax) directly
related to the September 11th terrorist attacks. In addition, investment income
and results for 2001 included $1.01 billion in charges ($669 million after-tax)
from the write down and sale of high-yield securities and from reducing risk
within its investment portfolio.
Total revenues increased 10 percent in 2003 primarily due to higher investment
income, increased management fees from higher average assets under management
primarily reflecting the Threadneedle acquisition, increased distribution fees
and greater insurance premiums. Total revenues rose 17 percent in 2002 due to
higher investment income, reflecting the impact of the high-yield losses noted
previously and higher levels of invested assets, higher insurance premiums and
advice services fees, and higher distribution fees, partially offset by reduced
management fees.
34
<PAGE>
(p.61_axp_financial review)
Investment income increased 11 percent in 2003 as higher levels of invested
assets and the effect of appreciation in the S&P 500 on the value of options
hedging outstanding stock market certificates and equity indexed annuities this
year versus depreciation last year, which was offset in the related provisions
for losses and benefits, were partially offset by a lower average yield. During
2002, investment income increased significantly reflecting the effect of the
$1.01 billion in investment losses in 2001 noted previously, higher average
invested assets and the effect of depreciation in the S&P 500 on the value of
options hedging stock market certificates and equity indexed annuities during
2002.
AEFA's gross realized gains on sales of securities classified as
Available-for-Sale, using the specific identification method, were $323 million,
$342 million and $157 million for the years ended December 31, 2003, 2002 and
2001, respectively. Gross realized losses on sales were ($146 million), ($168
million) and ($529 million) for the same periods. AEFA also recognized losses of
($163 million), ($204 million) and ($428 million) in other-than-temporary
impairments on Available-for-Sale securities for the years ended December 31,
2003, 2002 and 2001, respectively. Realized gains and losses are recorded in
investment income.
Management and distribution fees rose 7 percent in 2003. Management fees
increased 4 percent resulting from higher average assets under management
reflecting the Threadneedle acquisition. Distribution fees increased 12 percent
primarily due to greater limited partnership product sales and an increase in
brokerage-related activities. In 2002, management and distribution fees declined
7 percent due to lower average assets under management, partially offset by
higher distribution fees. The distribution fee increase was the result of lower
mutual fund sales being more than offset by other product related sales
increases.
Other revenues rose 13 percent and 8 percent in 2003 and 2002, respectively,
primarily due to higher property-casualty and life insurance-related revenues
coupled with higher financial planning and advice services fees.
In the following table, the Company presents AEFA's aggregate revenues on a
basis that is net of provisions for losses and benefits because the Company
manages the AEFA business and evaluates its financial performance, where
appropriate, in terms of the "spread" on its products. An important part of
AEFA's business is margin related, particularly the insurance, annuity and
certificate businesses.
One of the drivers for the AEFA business is the return on invested cash,
primarily generated by sales of insurance, annuity and investment certificates,
less provisions for losses and benefits on these products. These investments
tend to be interest rate sensitive. Thus, GAAP revenues tend to be higher in
periods of rising interest rates and lower in times of decreasing interest
rates. The same relationship is true of provisions for losses and benefits, only
it is more accentuated period-to-period because rates credited to customers'
accounts generally reset at shorter intervals than the yield on underlying
investments. The Company presents this portion of the AEFA business on a net
basis to eliminate potentially less informative comparisons of period-to-period
changes in revenue and provisions for losses and benefits in light of the impact
of these changes in interest rates.
<TABLE>
<CAPTION>
Years Ended December 31, (Millions) 2003 2002 2001
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Total GAAP revenues $6,172 $5,617 $4,791
Less: Provision for losses and benefits --
Annuities 1,104 1,034 989
Insurance 817 737 648
Investment certificates 201 183 329
- --------------------------------------------------------------------------------
Total 2,122 1,954 1,966
- --------------------------------------------------------------------------------
Net revenues $4,050 $3,663 $2,825
================================================================================
</TABLE>
35
<PAGE>
(p.62_axp_financial review)
The provision for losses and benefits for annuities increased 7 percent in 2003
due to higher average inforce levels and the effect of appreciation in the S&P
500 on equity indexed annuities in 2003 versus depreciation in 2002, partially
offset by the benefit of lower interest crediting rates on fixed annuity
contract values and lower costs related to guaranteed minimum death benefits. In
2002, the annuities provision increased 5 percent reflecting a higher inforce
level, increased costs related to guaranteed minimum death benefits, and the
effect of depreciation in the S&P 500 on equity indexed annuities, partially
offset by the benefit of lower interest crediting rates on fixed annuity
contract values. Insurance provisions rose in 2003 and 2002, reflecting higher
inforce levels and higher claims in both years, partially offset by the benefit
of lower interest crediting rates on fixed life insurance contract values.
Investment certificate provisions increased 10 percent in 2003 due to the effect
on the stock market certificate product of appreciation in the S&P 500 in 2003
versus depreciation in 2002 and higher average investment certificate levels,
partially offset by the benefit of lower interest crediting rates. Investment
certificate provisions decreased 44 percent during 2002 due to lower interest
crediting rates, partially offset by higher average investment certificate
levels and the effect on the stock market certificate product of depreciation in
the S&P 500 during 2002.
Human resources expense increased 10 percent in 2003 primarily due to merit
increases, greater employee benefit costs, higher management incentive costs for
employees (excluding financial advisors) and higher field force
compensation-related costs, as well as the effect of the Threadneedle
acquisition. Increases in 2003 management incentive costs included higher
stock-based compensation costs from both stock options and increased levels of
restricted stock awards. The higher stock-based compensation expense from stock
options reflects the Company's decision to expense stock options beginning in
2003. Higher expense related to restricted stock awards reflects the Company's
decision to modify compensation practices and use restricted stock awards in
place of stock options for middle management. These increases were also
partially offset by the effects of a $22 million favorable impact from DAC
adjustments in 2003 versus a $1 million favorable impact in 2002. These DAC
adjustments are discussed below. The average number of employees (excluding
financial advisors) was down 4 percent, excluding Threadneedle. Human resources
expense declined 4 percent in 2002, reflecting lower field force
compensation-related costs and the benefits of reengineering and cost
containment initiatives where the average number of employees (excluding
financial advisors) was down 15 percent from 2001.
Other operating expenses increased in both years. The 2003 increase is due to
the impact of fewer capitalized costs in the first half of 2003 due to the
ongoing impact of the comprehensive review of DAC-related practices in 2002,
professional fees related to various industry regulatory matters, the effect of
the Threadneedle acquisition and greater legal and acquisition-related costs.
See the DAC and related adjustments discussion below for further information.
The 2002 increase reflects the impact of technology outsourcing agreements,
which resulted in the transfer of costs from human resources expense, a higher
minority interest for the premium deposits joint venture with AEB, and the
recognition of additional expenses based on a comprehensive review of DAC
practices at AEFA. This DAC review is discussed below.
In addition, 2003 results include a $41 million reduction to tax expense noted
above.
For annuity and insurance products, the projections underlying the amortization
of DAC require the use of certain assumptions, including interest margins,
mortality rates, persistency rates, maintenance expense levels and customer
asset value growth rates for variable products. Management routinely monitors a
wide variety of trends in the business, including comparisons of actual and
assumed experience. The customer asset value growth rate is the rate at which
contract values are assumed to appreciate in the future. The rate is net of
asset fees and anticipates a blend of equity and fixed income investments.
Management reviews and, where appropriate, adjusts its assumptions with respect
to customer asset value growth rates on a quarterly basis.
36
<PAGE>
(p.63_axp_finanacial review)
Management monitors other principal DAC assumptions, such as persistency,
mortality rates, interest margin and maintenance expense level assumptions, each
quarter. Unless management identifies a material deviation over the course of
the quarterly monitoring, management reviews and updates these DAC assumptions
annually in the third quarter of each year. When assumptions are changed, the
percentage of estimated gross profits or portion of interest margins used to
amortize DAC might also change. A change in the required amortization percentage
is applied retrospectively; an increase in amortization percentage will result
in an increase in DAC amortization expense while a decrease in amortization
percentage will result in a decrease in DAC amortization expense. The impact on
results of operations of changing assumptions with respect to the amortization
of DAC can be either positive or negative in any particular period and is
reflected in the period in which such changes are made. As a result of these
reviews, AEFA took actions in both 2003 and 2002 that impacted DAC balance and
expenses.
In the third quarter of 2003, based on its detailed review, AEFA took certain
actions that resulted in a net $2 million DAC amortization expense reduction (a
$22 million reduction in human resources expense and a $20 million increase in
other operating expenses) reflecting:
o A $106 million DAC amortization reduction resulting from extending 10-15
year amortization periods for certain Flex Annuity contracts to 20 years.
o A $92 million DAC amortization increase resulting from the recognition of a
premium deficiency on AEFA's Long-Term Care (LTC) business.
o A $12 million net DAC amortization increase across AEFA's universal life,
variable universal life and fixed and variable annuity products.
In the third quarter of 2002, AEFA completed a comprehensive review of its
DAC-related practices and took actions that resulted in a net $44 million
increase in expenses (a $1 million reduction in human resources expense and a
$45 million increase in other operating expenses) reflecting:
o A $173 million DAC amortization increase resulting from resetting the
customer asset value growth rate assumptions for variable annuity and
variable life products to anticipate near-term and long-term growth at an
annual rate of 7%.
o A $155 million DAC amortization reduction from revising certain mortality
and persistency assumptions for universal and variable universal life
insurance products and fixed and variable annuity products to better
reflect actual experience and future expectations.
o A $26 million operating expense increase from the revision of the types and
amounts of costs deferred, in part to reflect the impact of advisor
platform changes and the effects of related reengineering. This revision,
which resulted in an increase in ongoing expenses, continued to impact 2003
results.
DAC balances for various insurance, annuity and other products sold by AEFA are
set forth below:
<TABLE>
<CAPTION>
December 31, (Millions) 2003 2002
- --------------------------------------------------------------------------------
<S> <C> <C>
Life and health insurance $1,602 $1,654
Annuities 2,013 1,656
Other 382 473
- --------------------------------------------------------------------------------
Total $3,997 $3,783
================================================================================
</TABLE>
37
<PAGE>
(p.64_axp_finanacial review)
Impact of Recent Market-Volatility on Results of Operations
Various aspects of AEFA's business are impacted by equity market levels and
other market-based events. Several areas in particular involve DAC, asset
management fees, structured investments and guaranteed minimum death benefits
(GMDB). The direction and magnitude of the changes in equity markets can
increase or decrease DAC expense levels and asset management fees and
correspondingly affect results of operations in any particular period.
Similarly, the value of AEFA's structured investment portfolio and derivatives
resulting from the consolidation of certain secured loan trusts are impacted by
various market factors. Persistency of, or increases in, bond and loan default
rates, among other factors, could result in negative adjustments to the market
values of these investments in the future, which would adversely impact results
of operations. See discussion of structured investments and consolidated
derivatives below.
The majority of the variable annuity contracts offered by AEFA contain GMDB
provisions. The standard GMDB provision in the "flagship" variable annuity
product offered by IDS Life Insurance Company (IDS Life) and IDS Life of New
York throughout 2003, American Express Retirement Advisor Advantage Variable
Annuity, provides that if the contract owner and annuitant are age 80 or younger
on the date of death, the beneficiary will receive the greatest of (i) the
contract value on the date of death, (ii) purchase payments minus adjusted
partial surrenders, or (iii) the contract value as of the most recent sixth
contract anniversary, plus purchase payment and minus adjusted partial
surrenders since that anniversary.
To the extent that the GMDB is higher than the current account value at the time
of death, AEFA incurs a benefit cost. For the results through December 31, 2003,
GAAP did not prescribe advance recognition of the projected future net costs
associated with these guarantees, and accordingly, AEFA did not record a
liability corresponding to these future obligations for death benefits in excess
of annuity account value. The amount paid in excess of contract value was
expensed when payable. Amounts expensed for the years ended December 31, 2003
and 2002 were $32 million and $37 million, respectively. In July 2003, the
American Institute of Certified Public Accountants (AICPA) issued Statement of
Position 03-1, "Accounting and Reporting by Insurance Enterprises for Certain
Nontraditional Long-Duration Contracts and for Separate Accounts" (SOP 03-1),
which is required to be adopted on January 1, 2004 and requires reserves related
to GMDBs. The impact of that requirement as well as other provisions of SOP 03-1
are still subject to interpretation and are currently being evaluated.
The Company's life and annuity products all have minimum interest rate
guarantees in their fixed accounts. These guarantees range from 1.5% to 5%. To
the extent the yield on AEFA's invested asset portfolio declines below its
target spread plus the minimum guarantee, AEFA's profitability would be
negatively affected.
Mutual Fund Industry Developments
As has been widely reported, the Securities and Exchange Commission, the
National Association of Securities Dealers, Inc. (NASD) and several state
attorneys general have brought proceedings challenging several mutual fund
industry practices, including late trading, market timing, disclosure of revenue
sharing arrangements and inappropriate sales of B shares. AEFA has received
requests for information concerning its practices and is providing information
and cooperating fully with these inquiries.
In February 2004, AEFA was one of 15 firms that settled an enforcement action
brought by the SEC and the NASD relating to breakpoint discounts pursuant to
which AEFA agreed to pay a fine of $3.7 million and to reimburse customers to
whom the firm failed to deliver such discounts. These amounts were fully accrued
by AEFA in 2003.
In addition, Congress has proposed legislation and the SEC has proposed and, in
some instances, adopted rules relating to the mutual fund industry, including
expenses and fees, mutual fund corporate governance and disclosures to
customers. While there remains a significant amount of uncertainty as to what
legislative and regulatory initiatives may ultimately be adopted, these
initiatives could impact mutual fund industry participants' results, including
AEFA's, in future periods.
38
<PAGE>
(p.65_axp_finanacial review)
SELECTED STATISTICAL INFORMATION
<TABLE>
<CAPTION>
Years Ended December 31, (Millions, except where indicated) 2003 2002 2001
- -------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Life insurance inforce (billions) $ 131.4 $ 119.0 $ 107.9
Deferred annuities inforce (billions) $ 47.4 $ 41.0 $ 41.3
Assets owned, managed or administered (billions):
Assets managed for institutions $ 116.4 $ 42.3 $ 49.7
Assets owned, managed or administered for individuals:
Owned assets:
Separate account assets 30.8 22.0 27.3
Other owned assets 53.8 51.7 44.2
- -------------------------------------------------------------------------------------------
Total owned assets 84.6 73.7 71.5
- -------------------------------------------------------------------------------------------
Managed assets 110.2 81.6 98.7
Administered assets* 54.1 33.0 33.4
- -------------------------------------------------------------------------------------------
Total $365.3 $ 230.6 $ 253.3
===========================================================================================
Market appreciation (depreciation) during the period:
Owned assets:
Separate account assets $ 5,514 $ (5,057) $ (5,752)
Other owned assets $ (244) $ 898 $ 879
Managed assets $26,213 $(16,788) $(18,662)
Cash sales:
Mutual funds $30,407 $ 31,945 $ 33,581
Annuities 8,335 8,541 5,648
Investment certificates 5,736 4,088 3,788
Life and other insurance products 760 710 895
Institutional 3,033 3,331 5,006
Other 5,787 5,201 5,276
- -------------------------------------------------------------------------------------------
Total cash sales $54,058 $ 53,816 $ 54,194
===========================================================================================
Number of financial advisors 12,121 11,689 11,535
Fees from financial plans and advice services $ 120.7 $ 113.9 $ 107.5
Percentage of total sales from financial plans and advice
services 74.8% 73.3% 72.5%
===========================================================================================
</TABLE>
* Excludes non-branded administered assets of $3.6 billion and $2.3 billion
at December 31, 2002 and 2001, respectively.
Liquidity and Capital Resources
SELECTED BALANCE SHEET INFORMATION (GAAP BASIS)
<TABLE>
<CAPTION>
December 31, (Billions, except percentages) 2003 2002
- --------------------------------------------------------------------------------
<S> <C> <C>
Investments $42.1 $38.2
Separate account assets $30.8 $22.0
Deferred acquisition costs $ 4.0 $ 3.8
Total assets $84.6 $73.7
Client contract reserves $41.2 $37.3
Separate account liabilities $30.8 $22.0
Total liabilities $77.5 $67.4
Total shareholder's equity $ 7.1 $ 6.3
Return on average total shareholder's equity* 10.4% 10.9%
================================================================================
</TABLE>
* Computed on a trailing 12-month basis using income before cumulative effect
of accounting change and total shareholder's equity as included in the
Consolidated Financial Statements prepared in accordance with GAAP.
39
<PAGE>
(p.66_axp_financial review)
On September 30, 2003, AEFA acquired Threadneedle for cash of 340 million
(pounds) (approximately $565 million at September 30, 2003 exchange rates). AEFA
received a $564 million capital contribution from the Parent Company for
purposes of this acquisition. Threadneedle is one of the premier asset
management organizations in the United Kingdom. Threadneedle will continue to
manage certain assets of Zurich Financial Services, U.K., which constitute a
substantial portion of Threadneedle assets under management, for an initial term
of up to eight years, subject to standard performance criteria. Effective
September 30, 2003, $3.6 billion of owned assets and $3.0 billion of
liabilities, and $81.1 billion of assets under management, were consolidated
into AEFA's balance sheet and statistical information, respectively.
AEFA's total assets and liabilities increased in 2003 primarily due to higher
investments, client contract reserves and separate account assets and
liabilities, which increased mainly as a result of market appreciation.
Investments primarily include corporate debt and mortgage-backed securities.
AEFA's corporate debt securities comprise a diverse portfolio with the largest
concentrations, accounting for approximately 65 percent of the portfolio, in the
following industries: banking and finance, utilities, and communications and
media. Investments also include $3.8 billion and $4.0 billion of investment
loans at December 31, 2003 and 2002, respectively. Investments are principally
funded by sales of insurance, annuities and certificates and by reinvested
income. Maturities of these investments are largely matched with the expected
future payments of insurance and annuity obligations.
Investments include $3.2 billion and $2.4 billion of below investment grade
securities (excluding net unrealized appreciation and depreciation) at December
31, 2003 and 2002, respectively. These investments represent 8 percent and 6
percent of AEFA's investment portfolio at December 31, 2003 and 2002,
respectively. Non-performing assets relative to invested assets (excluding
short-term cash positions) were 0.07% and 0.1% at December 31, 2003 and 2002,
respectively. Management believes a more relevant measure of exposure of AEFA's
below investment grade securities and non-performing assets should exclude $236
million of below investment grade securities (excluding net unrealized
appreciation and depreciation), which were recorded as a result of the December
31,2003 adoption of FIN 46. These assets are not available for AEFA's general
use as they are for the benefit of the CDO debt holders and reductions in values
of such investments will be fully absorbed by the third party investors.
Excluding the impacts of FIN 46, investments include $2.9 billion of below
investment grade securities (excluding net unrealized appreciation and
depreciation), representing 7 percent of AEFA's investment portfolio, and
non-performing assets relative to invested assets (excluding short-term cash
positions) were 0.01% at December 31, 2003.
Assets consolidated as a result of the December 31, 2003 adoption of FIN 46 were
$1.2 billion. The newly consolidated assets consisted of $844 million of cash,
$244 million of below investment grade securities classified as
Available-for-Sale (including net unrealized appreciation and depreciation), $64
million of derivatives and $15 million of loans and other assets, essentially
all of which are restricted. The effect of consolidating these assets on AEFA's
balance sheet was offset by AEFA's previously recorded carrying values of its
investment in such structures, which totaled $673 million, $500 million of newly
consolidated liabilities, which consisted of $325 million of non-recourse debt
and $175 million of other liabilities, and $9 million of net unrealized
after-tax appreciation on securities classified as Available-for-Sale.
The consolidation of FIN 46-related entities resulted in a cumulative effect of
accounting change that reduced 2003 net income through a non-cash charge of $13
million ($20 million pretax). The net charge was comprised of a $57 million ($88
million pretax) non-cash charge related to the consolidated CDO offset by a $44
million ($68 million pretax) non-cash gain related to the consolidated SLTs.
The initial charge related to the application of FIN 46 for the CDO and SLTs had
no cash flow effect on the Company. Ongoing valuation adjustments specifically
related to the application of FIN 46 to the CDO are also non-cash items and will
be reflected in the Company's quarterly results until maturity. These ongoing
valuation adjustments, which will be reflected in operating results over the
remaining lives of the structure subject to FIN 46 and which will be dependent
upon market factors during such time, will result in periodic gains and losses.
In the aggregate, such gains or losses related to the CDO, including the
December 31, 2003 implementation charge, will reverse themselves over time as
the structure matures, because the debt issued to the investors in the CDO is
non-recourse to the Company, and further reductions in the value of the related
assets will ultimately be absorbed by the third-party investors. To the extent
losses are incurred in the SLT
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portfolio, charges could be incurred that may or may not be reversed. Taken
together over the lives of the structures through their maturity, the Company's
maximum cumulative exposure to pretax loss as a result of its investment in
these entities is represented by the carrying values prior to adoption of FIN
46, which were nil and $673 million for the CDO and SLTs, respectively, as well
as the $68 million pretax non-cash gain recorded upon consolidation of the SLTs.
During 2003, AEFA continued to hold investments in CDOs and an SLT, some of
which are also managed by AEFA, and were not consolidated pursuant to the
adoption of FIN 46 as the Company was not considered a primary beneficiary. As a
condition to its managing certain CDOs, AEFA is required to invest in the
residual or "equity" tranche of the CDO, which is typically the most
subordinated tranche of securities issued by the CDO entity. AEFA invested in
CDOs and the SLT as part of its investment strategy in order to offer a
competitive rate to contractholders' accounts. AEFA's exposure as an investor is
limited solely to its aggregate investment in the CDOs and SLTs, and it has no
obligations or commitments, contingent or otherwise, that could require any
further funding of such investments. As of December 31, 2003, the carrying
values of the CDO residual tranches and SLT notes, managed by AEFA, were $16
million and nil, respectively. AEFA also has an interest in a CDO securitization
described below, as well as an additional $28 million in rated CDO tranches and
$27 million in a minority-owned SLT, both of which are managed by third parties.
CDOs and the SLT are illiquid investments. As an investor