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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
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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, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM __________ TO __________
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COMMISSION FILE NUMBER 1-15286
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CITIGROUP GLOBAL MARKETS HOLDINGS INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
NEW YORK 11-2418067
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NO.)
INCORPORATION OR ORGANIZATION)
388 GREENWICH STREET, NEW YORK, NEW YORK 10013
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
(212) 816-6000
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
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REDUCED DISCLOSURE FORMAT
THE REGISTRANT MEETS THE CONDITIONS SET FORTH IN GENERAL INSTRUCTION I (1)(a)
AND (b) OF FORM 10-K AND IS THEREFORE FILING THIS FORM 10-K WITH THE REDUCED
DISCLOSURE FORMAT.
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. [X]
INDICATE BY CHECK MARK WHETHER THE REGISTRANT IS AN ACCELERATED FILER (AS
DEFINED IN EXCHANGE ACT RULE 12b-2). YES NO X
----- -----
BECAUSE THE REGISTRANT IS A WHOLLY OWNED SUBSIDIARY OF CITIGROUP INC., NONE OF
THE REGISTRANT'S OUTSTANDING VOTING STOCK IS HELD BY NONAFFILIATES OF THE
REGISTRANT. AS OF THE DATE HEREOF, 1,000 SHARES OF THE REGISTRANT'S COMMON
STOCK, $.01 PAR VALUE, WERE ISSUED AND OUTSTANDING.
DOCUMENTS INCORPORATED BY REFERENCE: NONE
AVAILABLE ON THE WEB @ WWW.CITIGROUP.COM
[COVER PAGE 1 OF 4 PAGES.]
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
NAME OF EACH EXCHANGE ON WHICH
TITLE OF EACH CLASS REGISTERED
------------------- ------------------------------
EQUITY LINKED NOTES BASED UPON THE DOW JONES INDUSTRIAL CHICAGO BOARD OPTIONS EXCHANGE
AVERAGE (SM) DUE SEPTEMBER 6, 2005
PRINCIPAL-PROTECTED EQUITY LINKED NOTES BASED UPON THE S&P AMERICAN STOCK EXCHANGE
500(R)INDEX DUE 2005
PRINCIPAL-PROTECTED EQUITY LINKED NOTES BASED UPON THE S&P CHICAGO BOARD OPTIONS EXCHANGE
500(R) INDEX DUE 2005
CALLABLE PRINCIPAL-PROTECTED EQUITY LINKED NOTES BASED UPON CHICAGO BOARD OPTIONS EXCHANGE
THE S&P 500(R) INDEX DUE 2006
CALLABLE EQUITY LINKED NOTES BASED UPON THE THESTREET.COM AMERICAN STOCK EXCHANGE
INTERNET SECTOR INDEX DUE 2006
0.25% CASH EXCHANGEABLE NOTES LINKED TO A BASKET OF AMERICAN STOCK EXCHANGE
TELECOMMUNICATIONS STOCKS DUE 2005
0.25% NOTES EXCHANGEABLE FOR A BASKET OF SELECTED AMERICAN STOCK EXCHANGE
TECHNOLOGY STOCKS, DUE 2005
0.25% NOTES EXCHANGEABLE FOR A BASKET OF SELECTED AMERICAN STOCK EXCHANGE
TECHNOLOGY STOCKS, DUE 2007
NOTES EXCHANGEABLE FOR THE COMMON STOCK OF PFIZER INC., DUE AMERICAN STOCK EXCHANGE
2008
TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS (SM)) OF AMERICAN STOCK EXCHANGE
SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF BANK
ONE CORPORATION
PRINCIPAL-PROTECTED NOTES LINKED TO THE S&P 500(R) INDEX DUE AMERICAN STOCK EXCHANGE
2007
TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS (SM)) OF AMERICAN STOCK EXCHANGE
SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF AMGEN
INC.
PRINCIPAL-PROTECTED NOTES LINKED TO THE NASDAQ-100 INDEX(R) AMERICAN STOCK EXCHANGE
DUE 2007
PRINCIPAL-PROTECTED NOTES LINKED TO THE DOW JONES EURO STOXX AMERICAN STOCK EXCHANGE
50 INDEX (SM) DUE 2007
TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS (SM)) OF AMERICAN STOCK EXCHANGE
SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF DELL
COMPUTER CORPORATION
TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS (SM)) OF AMERICAN STOCK EXCHANGE
SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF
INTERNATIONAL BUSINESS MACHINES CORPORATION
STOCK MARKET UPTURN NOTES (SM) BASED UPON THE DOW JONES AMERICAN STOCK EXCHANGE
INDUSTRIAL AVERAGE (SM) DUE 2005
STOCK MARKET UPTURN NOTES (SM) LINKED TO THE NASDAQ-100 AMERICAN STOCK EXCHANGE
INDEX(R) DUE 2006
SELECT EQUITY INDEXED NOTES (SM) BASED UPON THE COMMON STOCK OF AMERICAN STOCK EXCHANGE
INTEL CORPORATION DUE 2005
SELECT EQUITY INDEXED NOTES (SM) BASED UPON THE COMMON STOCK OF AMERICAN STOCK EXCHANGE
TEXAS INSTRUMENTS INCORPORATED DUE 2005
SELECT EQUITY INDEXED NOTES (SM) BASED UPON THE CLASS A SPECIAL AMERICAN STOCK EXCHANGE
COMMON STOCK OF COMCAST CORPORATION DUE 2005
[COVER PAGE 2 OF 4 PAGES.]
TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS (SM)) OF AMERICAN STOCK EXCHANGE
SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF TIME
WARNER INC.
7.5% MEDIUM-TERM EQUITY LINKED SECURITIES (ELKS (SM)) BASED ON AMERICAN STOCK EXCHANGE
THE COMMON STOCK OF HEWLETT-PACKARD COMPANY DUE 2005
SELECT EQUITY INDEXED NOTES (SM) BASED UPON THE COMMON STOCK OF AMERICAN STOCK EXCHANGE
APPLIED MATERIALS, INC. DUE 2006
TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS (SM)) OF AMERICAN STOCK EXCHANGE
SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF CISCO
SYSTEMS, INC.
INDEX LEADING STOCKMARKET RETURN SECURITIES (INDEX LASERS AMERICAN STOCK EXCHANGE
(SM)) BASED UPON THE DOW JONES INDUSTRIAL AVERAGE DUE 2008
EQUITY LINKED SECURITIES (ELKS (SM)) BASED ON THE AMERICAN STOCK EXCHANGE
COMMON STOCK OF NEWMONT MINING CORPORATION DUE 2005
7% MEDIUM-TERM EQUITY LINKED SECURITIES (ELKS (SM)) BASED AMERICAN STOCK EXCHANGE
ON THE COMMON STOCK OF NEWMONT MINING CORPORATION DUE 2005
SELECT EQUITY INDEXED NOTES (SM) BASED ON THE COMMON STOCK OF AMERICAN STOCK EXCHANGE
HEWLETT-PACKARD COMPANY DUE 2005
PRINCIPAL-PROTECTED EQUITY LINKED NOTES BASED UPON THE S&P AMERICAN STOCK EXCHANGE
500(R) INDEX DUE 2009
PRINCIPAL-PROTECTED EQUITY LINKED NOTES BASED UPON THE DOW AMERICAN STOCK EXCHANGE
JONES GLOBAL TITANS 50 INDEX (SM) DUE 2009
TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS (SM)) OF AMERICAN STOCK EXCHANGE
SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF
ALCOA INC.
PRINCIPAL-PROTECTED EQUITY LINKED NOTES BASED UPON THE AMERICAN STOCK EXCHANGE
NASDAQ-100 INDEX DUE 2009
EQUITY LINKED SECURITIES (ELKS (SM)) BASED ON THE COMMON STOCK AMERICAN STOCK EXCHANGE
OF YAHOO! INC. DUE 2005
INDEX LEADING STOCKMARKET RETURN SECURITIES (INDEX LASERS AMERICAN STOCK EXCHANGE
(SM)) BASED UPON THE NIKKEI 225 STOCK AVERAGE DUE 2008
SELECT EQUITY INDEXED NOTES (SM) BASED ON THE COMMON STOCK OF AMERICAN STOCK EXCHANGE
MOTOROLA, INC. DUE 2005
STOCK MARKET UPTURN NOTES (SM) BASED UPON THE S&P 500(R) INDEX AMERICAN STOCK EXCHANGE
DUE 2006
EQUITY LINKED SECURITIES (ELKS (SM)) BASED ON THE COMMON STOCK AMERICAN STOCK EXCHANGE
OF GENENTECH, INC. DUE 2005
PRINCIPAL-PROTECTED EQUITY LINKED NOTES BASED UPON THE DOW AMERICAN STOCK EXCHANGE
JONES INDUSTRIAL AVERAGE (SM) DUE 2009
TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS (SM)) OF AMERICAN STOCK EXCHANGE
SUBSIDIARY TRUST WITH RESPECT TO AMERICAN DEPOSITARY RECEIPTS
REPRESENTING ORDINARY SHARES OF NOKIA CORPORATION
SELECT EQUITY INDEXED NOTES (SM) BASED UPON THE COMMON STOCK OF AMERICAN STOCK EXCHANGE
APPLE COMPUTER, INC. DUE 2005
PRINCIPAL-PROTECTED EQUITY LINKED NOTES BASED UPON THE S&P AMERICAN STOCK EXCHANGE
500(R) INDEX DUE 2010
[COVER PAGE 3 OF 4 PAGES.]
PREMIUM MANDATORY CALLABLE EQUITY-LINKED SECURITIES (PACERS AMERICAN STOCK EXCHANGE
(SM)) BASED UPON THE COMMON STOCK OF JPMORGAN CHASE & CO. DUE
2007
TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS (SM)) OF AMERICAN STOCK EXCHANGE
SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF NEWMONT
MINING CORPORATION
STOCK MARKET UPTURN NOTES (SM) BASED UPON THE DOW JONES AMERICAN STOCK EXCHANGE
INDUSTRIAL AVERAGE (SM) DUE 2006
EQUITY LINKED SECURITIES (ELKS (SM)) BASED ON THE COMMON STOCK AMERICAN STOCK EXCHANGE
OF TEXAS INSTRUMENTS INCORPORATED DUE 2006
TARGETED GROWTH ENHANCED TERMS SECURITIES (TARGETS (SM)) OF AMERICAN STOCK EXCHANGE
SUBSIDIARY TRUST WITH RESPECT TO THE COMMON STOCK OF INTEL
CORPORATION
PRINCIPAL-PROTECTED EQUITY LINKED NOTES BASED UPON THE DOW AMERICAN STOCK EXCHANGE
JONES INDUSTRIAL AVERAGE (SM) DUE 2010
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
NONE
[COVER PAGE 4 OF 4 PAGES.]
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
ANNUAL REPORT ON FORM 10-K
FOR FISCAL YEAR ENDED DECEMBER 31, 2004
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TABLE OF CONTENTS
FORM 10-K
ITEM NUMBER PAGE
- ----------- ----
PART I
1. Business................................................... 1
2. Properties................................................. 10
3. Legal Proceedings.......................................... 10
4. Omitted Pursuant to General Instruction I
PART II
5. Market For Registrant's Common Equity, Related
Stockholder Matters, and Issuer Purchases of Equity
Securities.............................................. 18
6. Omitted Pursuant to General Instruction I
7. Management's Discussion and Analysis of Financial
Condition and Results of Operations..................... 19
7A. Quantitative and Qualitative Disclosures About Market
Risk.................................................... 48
8. Financial Statements And Supplementary Data................ 48
9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure..................... 48
9A. Controls and Procedures.................................... 48
9B. Other Information.......................................... 48
PART III
10-13. Omitted Pursuant to General Instruction I
14. Principal Accountant Fees and Services..................... 49
PART IV
15. Exhibits and Financial Statement Schedules................. 51
Exhibit Index.............................................. 52
Signatures................................................. 53
Index to Consolidated Financial Statements and Schedules... F-1
PART I
ITEM 1. BUSINESS.
Citigroup Global Markets Holdings Inc. (formerly Salomon Smith Barney Holdings
Inc.) ("CGMHI"), operating through its subsidiaries, engages in full-service
investment banking and securities brokerage business. As used in this Form 10-K,
"Citigroup Global Markets" and the "Company" refer generally to CGMHI and its
consolidated subsidiaries, and where the context requires refer to specific
subsidiaries. Citigroup Global Markets provides a full range of financial
advisory, research and capital raising services to corporations, governments and
individuals. Citigroup Global Markets operates in three business segments: (i)
Investment Services, (ii) Private Client Services and (iii) Asset Management,
and through these business segments, the Company provides investment banking,
securities and commodities trading, capital raising, asset management, advisory,
research, brokerage and other financial services to its customers, and executes
proprietary trading strategies on its own behalf.
Citigroup Inc. ("Citigroup"), CGMHI's parent, is a diversified holding company
whose businesses provide a broad range of financial services to consumer and
corporate customers around the world. Citigroup's activities are conducted
through the Global Consumer, Global Corporate and Investment Bank, Global Wealth
Management, Global Investment Management, and Proprietary Investment Activities
business segments. The periodic reports of Citigroup provide additional business
and financial information concerning that company and its consolidated
subsidiaries.
The principal offices of CGMHI are located at 388 Greenwich Street, New York,
New York 10013, telephone number (212) 816-6000. CGMHI was incorporated in New
York in 1977 and is the successor to Salomon Smith Barney Holdings Inc., a
Delaware corporation, following a statutory merger effective on July 1, 1999,
for the purpose of changing its state of incorporation. On April 7, 2003, CGMHI
filed a Restated Certificate of Incorporation in the State of New York changing
its name from Salomon Smith Barney Holdings Inc. to Citigroup Global Markets
Holdings Inc.
INVESTMENT SERVICES
INVESTMENT BANKING AND TRADING
The Company's global investment banking services encompass a full range of
capital market activities, including the underwriting and distribution of debt
and equity securities for United States and foreign corporations and for state,
local and other governmental and government sponsored authorities. Citigroup
Global Markets frequently acts as an underwriter or private placement agent in
corporate and public securities offerings and provides alternative financing
options. It also provides financial advice to investment banking clients on a
wide variety of transactions including mergers and acquisitions, divestitures,
leveraged buyouts, financial restructurings and a variety of cross-border
transactions.
Citigroup Global Markets executes securities and commodity futures brokerage
transactions on all major United States securities and futures exchanges and
major international exchanges on behalf of customers and for its own account.
Citigroup
1
Global Markets' significant capital base and extensive distribution capabilities
also enable it to provide liquidity to investors across a broad range of markets
and financial instruments, and to execute capital-intensive transactions on
behalf of its customers and for its own account. It executes transactions in
large blocks of exchange-listed stocks, usually with institutional investors,
and often acts as principal to facilitate these transactions. It makes markets,
buying and selling as principal, in approximately 1,980 equity securities traded
on the NASDAQ system. Additionally, Citigroup Global Markets makes markets in
convertible and preferred stocks, warrants and other equity securities.
The Company also engages in principal transactions in fixed income securities,
and it is a major dealer in government securities in New York, London, Frankfurt
and Tokyo. Citigroup Global Markets makes inter-dealer markets and trades as
principal in corporate debt and equity securities, including those of United
States and foreign corporate issuers, United States and foreign government and
agency securities, mortgage-related securities, whole loans, municipal and other
tax-exempt securities, commercial paper and other money market instruments as
well as emerging market debt securities and foreign exchange. It also enters
into repurchase and reverse repurchase agreements to provide financing for
itself and its customers, and engages in securities lending and borrowing
transactions.
Citigroup Global Markets is a major participant in the over-the-counter ("OTC")
market for derivative instruments involving a wide range of products, including
interest rate, equity, currency, and commodity swaps, caps and floors, options,
warrants, and other derivative products. It also creates and sells various types
of structured securities. Citigroup Global Markets' ability to execute
transactions is enhanced by its established presence in international capital
markets, its use of information technology and quantitative risk management
tools, its research capabilities, and its knowledge and experience in various
derivative markets.
Citigroup Global Markets also trades for its own account in various markets
throughout the world, and uses many different strategies involving a broad
spectrum of financial instruments and derivative products. Historically, these
trading strategies have primarily involved the fixed income securities of the
G-7 countries, but they also involve the trading of fixed income securities
globally (including emerging markets) as well as currencies and equities.
Because these trading strategies are often designed with time horizons of one
year or more, profits or losses reported in interim periods can be volatile and
may not reflect the ultimate success or failure of these strategies. For a
discussion of certain of the risks involved in CGMHI's securities trading and
investment activities, and its strategies to manage these risks, see Item 7,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
TRUST SERVICES
Certain subsidiaries of Citigroup are chartered as trust companies and provide a
full range of fiduciary services with a particular emphasis on personal trust
services. Another Citigroup subsidiary offers a broad range of trustee services
for qualified retirement plans, with particular emphasis on the 401(k) plan
market. Each of these trust companies is subject to supervision by either
federal or state banking authorities, as appropriate, based upon the
jurisdiction in which such trust
2
company is chartered, and uses the distribution network of Citigroup Global
Markets to market its services. Citigroup Global Markets provides certain
advisory and support services to the trust companies and receives fees for such
services. Certain subsidiaries of CGMHI also operate a private trust services
business that is licensed as a bank and trust company in the Cayman Islands.
PHIBRO
Phibro conducts a global proprietary commodities trading and dealer business
through its offices in Westport (Connecticut), London and Singapore. Commodities
traded include crude oil, refined oil products, natural gas, metals and various
soft commodities. Phibro makes extensive use of futures markets and is a
participant in the OTC physical and derivatives markets. Its principal
competitors are major integrated oil companies, other commodity trading
companies, certain investment banks, utility companies and other financial
institutions.
Phibro's strategy is to focus on taking positions in commodities on a
longer-term horizon while also trading with counterparties on a short-term
basis. Phibro's operating results are subject to a high degree of volatility,
particularly on a quarterly basis, due to the predominance of directional
positions in commodities that have a longer-term horizon until realization.
Thus, results are better evaluated over the longer term.
PRIVATE CLIENT SERVICES
Private Client Services provides investment advice, financial planning and
brokerage services to affluent individuals, small and mid-size companies,
non-profits and large corporations primarily through a network of more than
12,100 Smith Barney Financial Consultants in more than 500 offices worldwide. In
addition, Private Client Services provides independent client-focused research
to individuals and institutions around the world.
A significant portion of Private Client Services revenue is generated from fees
earned by managing client assets as well as commissions earned as a broker for
its clients in the purchase and sale of securities. Additionally, Private Client
Services generates net interest revenue by financing customers' securities
transactions and other borrowing needs through securities-based lending. Private
Client Services also receives commissions and other sales and service revenues
through the sale of proprietary and third-party mutual funds. As part of Private
Client Services, Global Equity Research produces equity research to serve both
institutional and individual investor clients. The majority of expenses for
Global Equity Research are allocated to the Global Equities business and Private
Client Services businesses.
3
ASSET MANAGEMENT
The portion of Citigroup's Asset Management segment housed within CGMHI is
comprised primarily of two asset management business platforms: Salomon Brothers
Asset Management and Smith Barney Asset Management (the "Asset Management
Group"). These platforms offer a broad range of asset management products and
services from global investment centers, including mutual funds, closed-end
funds and managed accounts. In addition, the Asset Management Group offers a
broad range of unit investment trusts.
Clients include private and public retirement plans, endowments, foundations,
banks, insurance companies, other corporations, government agencies, high net
worth and other individuals. Client relationships may be introduced through
Smith Barney's network of Financial Consultants and other cross-marketing and
distribution opportunities within the Citigroup structure, through the Asset
Management Group's own sales force or through independent sources.
The Company receives ongoing fees, generally stated as a percentage of the
client's assets, from asset management clients. At December 31, 2004 client
assets under management were approximately $320.5 billion, as compared to
approximately $303.6 billion at December 31, 2003 and approximately $256.6
billion at December 31, 2002. These amounts include separately managed accounts
with assets of approximately $125.8 billion at December 31, 2004, approximately
$114.4 billion at December 31, 2003 and approximately $85.6 billion at December
31, 2002.
The following table shows the aggregate assets in, and number of, investment
companies managed by the Asset Management Group at December 31st for each of the
last three years.
INVESTMENT COMPANY ASSETS UNDER MANAGEMENT
DECEMBER 31,
---------------------------------------------------
2004 2003 2002
--------------- --------------- ---------------
(Dollars in billions)
NO. OF NO. OF NO. OF
FUNDS ASSETS FUNDS ASSETS FUNDS ASSETS
------ ------ ------ ------ ------ ------
Money market 40 $ 97.6 35 $ 93.9 29 $ 97.0
Mutual funds 173 74.1 173 73.8 171 56.5
Annuity funds 32 7.4 36 7.6 36 6.0
Closed-end funds 24 10.3 22 8.3 20 6.2
--- ------ --- ------ --- ------
Total 269 $189.4 266 $183.6 256 $165.7
=== ====== === ====== === ======
At December 31, 2004, the Asset Management Group managed 213 mutual funds
(open-end investment companies), including taxable and tax-exempt money market
funds, equity funds, and taxable and tax-exempt fixed income funds sold
primarily through Smith Barney Financial Consultants, the sales force of
Primerica Financial Services, an affiliate of CGMHI, and other affiliates of
CGMHI. In addition, certain of the funds are sold through a variety of other
national and regional brokerage firms pursuant to dealer agreements. Of the
mutual funds managed by the Asset Management Group, 62 are domiciled outside the
United States and are offered to non-resident aliens through Citigroup Global
Markets and other
4
financial intermediaries. In addition, at December 31, 2004, the Asset
Management Group managed 32 mutual fund portfolios serving as funding vehicles
for variable annuity contracts, including certain variable annuities and other
individual products of the Travelers Life and Annuity unit of Citigroup, which
are sold by Smith Barney Financial Consultants. The Asset Management Group also
serves as the primary investment manager to 24 closed-end investment companies,
the shares of which are listed for trading on one or more securities exchanges.
At December 31, 2004, the Asset Management Group managed approximately $10.3
billion of closed-end investment company assets.
The Asset Management Group provides separate account discretionary and
non-discretionary investment management services to a wide variety of individual
and institutional clients, including private and public retirement plans,
endowments, foundations, banks, insurance companies, other corporations and
government agencies. Client relationships may be introduced through
cross-marketing and distribution opportunities within the Citigroup structure,
including Smith Barney's network of Financial Consultants, through the Asset
Management Group's own sales force, or through independent sources such as
consultant evaluations as well as through individual and institutional client
relationships.
The Asset Management Group also sponsors and oversees the portfolios of a large
number of unit investment trusts, which are unmanaged investment companies, the
portfolios of which are generally static. Such unit investment trusts may hold
domestic and foreign equity and debt securities, including municipal bonds.
Certain trusts are sponsored and overseen solely by the Asset Management Group;
other trusts are jointly sponsored through a syndicate of major broker-dealers
of which Citigroup Global Markets is a member. At December 31, 2004, outstanding
unit trust assets held by Citigroup Global Markets' clients were approximately
$5.3 billion, as compared to approximately $5.6 billion at December 31, 2003 and
approximately $5.3 billion at December 31, 2002.
5
OTHER INFORMATION
OPERATIONS BY GEOGRAPHIC AREA
For a summary of the Company's operations by geographic area, see Note 5 to the
consolidated financial statements.
DERIVATIVES AND RISK MANAGEMENT
Derivative instruments are contractual commitments or payment exchange
agreements between counterparties that "derive" their value from some underlying
asset, index, interest rate or exchange rate. Citigroup Global Markets enters
into various financial contracts involving future settlement, which are based
upon a predetermined principal or par value (referred to as the "notional"
amount). Such instruments include swaps, swap options, caps and floors, futures
contracts, forward currency contracts, option contracts and warrants.
Derivatives activities, like the Company's other ongoing business activities,
give rise to market, credit and operational risks, although the Company also
uses derivative instruments to manage these risks in its other businesses. For a
more complete discussion of Citigroup Global Markets' use of derivative
financial instruments and certain of the related risks, see Item 7,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and Notes 1, 4, 7, 12, 14, 15 and 17 to the consolidated financial
statements.
COMPETITION
The businesses in which Citigroup Global Markets is engaged are highly
competitive. The principal factors affecting competition in the investment
banking and brokerage industry are the quality and ability of professional
personnel and the relative prices of services and products offered. In addition
to competition from other investment banking firms, both domestic and
international, and securities brokerage companies and discount and on-line
securities brokerage operations, including regional firms in the United States,
there has been increasing competition from other sources, such as commercial
banks, insurance companies and other major companies that have entered the
investment banking and securities brokerage industry, in many cases through
acquisitions. Certain of those competitors may have greater capital and other
resources than CGMHI. Competitors of the mutual funds and asset management
groups include a large number of mutual fund management and sales companies,
asset management firms, banks and insurance companies. Competition in mutual
fund sales and investment management is based on a variety of factors, including
investment performance, service to clients and product design.
REGULATION
Certain of CGMHI's subsidiaries are subject to various securities and
commodities regulations and capital adequacy requirements promulgated by the
regulatory and exchange authorities of the jurisdictions in which they operate.
Some subsidiaries are registered as broker-dealers and as investment advisers
with the U.S. Securities and Exchange Commission (the "SEC") and as futures
commission merchants and as commodity pool operators with the Commodity Futures
Trading
6
Commission ("CFTC"). Certain of CGMHI's subsidiaries are also members of the New
York Stock Exchange, Inc. (the "NYSE") and other principal United States
securities exchanges, as well as the National Association of Securities Dealers,
Inc. ("NASD") and the National Futures Association ("NFA"), a not-for-profit
membership corporation designated as a registered futures association by the
CFTC. CGMHI's primary U.S. broker-dealer subsidiary, Citigroup Global Markets
Inc. ("CGMI"), is registered as a broker-dealer in all 50 states, the District
of Columbia, Puerto Rico, Taiwan and Guam. CGMI is also a primary dealer in U.S.
Treasury securities and a member of the principal United States futures
exchanges. CGMI is subject to extensive regulation, including minimum capital
requirements, which are promulgated and enforced by, among others, the SEC, the
CFTC, the NFA, the NASD, the NYSE, various other self-regulatory organizations
of which CGMI is a member and the securities administrators of the 50 states,
the District of Columbia, Puerto Rico and Guam. The SEC and the CFTC also
require certain registered broker-dealers (including CGMI) to maintain records
concerning certain financial and securities activities of affiliated companies
that may be material to the broker-dealer, and to file certain financial and
other information regarding such affiliated companies.
CGMHI's operations abroad are conducted through various subsidiaries and
affiliates, principally Citigroup Global Markets Limited in London and Nikko
Citigroup Limited (a joint venture formed in February 1999, between the Company
(49%) and Nikko Cordial, Ltd., Ltd (51%)) in Tokyo. Its activities in the United
Kingdom, which include investment banking, trading, and brokerage services, are
subject to the Financial Services and Markets Act 2000, which regulates
organizations that conduct investment businesses in the United Kingdom
(including imposing capital and liquidity requirements), and to the rules of the
Financial Services Authority. Nikko Citigroup Limited is a registered foreign
securities company in Japan and, as such, its activities in Japan are subject to
Japanese law applicable to non-Japanese securities firms and are regulated
principally by the Financial Services Agency. These and other subsidiaries of
CGMHI are also members of various securities and commodities exchanges and are
subject to the rules and regulations of those exchanges. Citigroup Global
Markets' other offices are also subject to the jurisdiction of local financial
services regulatory authorities.
In connection with the mutual funds business, CGMHI and its subsidiaries must
comply with regulations of a number of regulatory agencies and organizations,
including the SEC, the NASD and regulatory agencies in several foreign
countries. CGMHI is the direct or indirect parent of investment advisers
registered and regulated under the Investment Advisers Act of 1940. Such
investment advisers are subject to the Investment Company Act of 1940 in
advising mutual funds registered under such Act. Under these Acts, the advisory
contracts between CGMHI's registered investment adviser subsidiaries and the
registered mutual funds they serve ("Registered Funds") would automatically
terminate upon an assignment of such contracts by the investment adviser. Such
an assignment would be presumed to have occurred if any party were to acquire
more than 25% of Citigroup's voting securities. In that event, consent to the
assignment from the shareholders of the Registered Funds involved would be
needed for the advisory relationships to continue. In addition, CGMHI's
affiliates, including its registered investment adviser subsidiaries, and the
Registered Funds are subject to certain restrictions in their dealings with each
other. For example, CGMI may act as broker to a Registered Fund in a transaction
involving an exchange-traded security only when that fund maintains procedures
that govern, among other things, the execution price of the transaction and the
commissions paid; it may not, however, conduct principal transactions with a
Registered Fund. Further, a
7
Registered Fund may acquire securities during the existence of an underwriting
where CGMI is a principal underwriter only in certain limited situations.
CGMI is a member of the Securities Investor Protection Corporation ("SIPC"),
which, in the event of liquidation of a broker-dealer, provides protection for
customers' securities accounts held by the firm of up to $500,000 for each
eligible customer, subject to a limitation of $100,000 for claims for cash
balances. To supplement the SIPC coverage, CGMI has purchased additional
protection, subject to an aggregate loss limit of $600,000,000 for CGMI and a
per client cash loss limit of up to $1.9 million.
CAPITAL REQUIREMENTS
As a registered broker-dealer, CGMI is subject to the SEC's net capital rule,
Rule 15c3-1 (the "Net Capital Rule"), promulgated under the Exchange Act. CGMI
computes net capital under the alternative method of the Net Capital Rule, which
requires the maintenance of minimum net capital, as defined. A member of the
NYSE may be required to reduce its business if its net capital is less than 4%
of aggregate debit balances (as defined) and may also be prohibited from
expanding its business or paying cash dividends if resulting net capital would
be less than 5% of aggregate debit balances. Furthermore, the Net Capital Rule
does not permit withdrawal of equity or subordinated capital if the resulting
net capital would be less than 5% of such aggregate debit balances.
The Net Capital Rule also limits the ability of broker-dealers to transfer large
amounts of capital to parent companies and other affiliates. Under the Net
Capital Rule, equity capital cannot be withdrawn from a broker-dealer without
the prior approval of that broker-dealer's designated examining authority (in
the case of CGMI, the NYSE) in certain circumstances, including when net capital
after the withdrawal would be less than (i) 120% of the minimum net capital
required by the Net Capital Rule, or (ii) 25% of the broker-dealer's securities
position "haircuts," i.e., deductions from capital of certain specified
percentages of the market value of securities to reflect the possibility of a
market decline prior to disposition. In addition, the Net Capital Rule requires
broker-dealers to notify the SEC and the appropriate self-regulatory
organization two business days before a withdrawal of excess net capital if the
withdrawal would exceed the greater of $500,000 or 30% of the broker-dealer's
excess net capital, and two business days after a withdrawal that exceeds the
greater of $500,000 or 20% of excess net capital. Finally, the Net Capital Rule
authorizes the SEC to order a freeze on the transfer of capital if a
broker-dealer plans a withdrawal of more than 30% of its excess net capital and
the SEC believes that such a withdrawal would be detrimental to the financial
integrity of the firm or would jeopardize the broker-dealer's ability to pay its
customers.
Compliance with the Net Capital Rule could limit those operations of the Company
that require the intensive use of capital, such as underwriting and trading
activities and the financing of customer account balances, and also could
restrict CGMHI's ability to withdraw capital from its broker-dealer
subsidiaries, which in turn could limit CGMHI's ability to pay dividends and
make payments on its debt.
8
At December 31, 2004, CGMI had net capital, computed in accordance with the Net
Capital Rule, of $4.5 billion, which exceeded the minimum net capital
requirement by $3.9 billion. For further discussion of capital requirements
related to the Company's principal regulated subsidiaries, see Note 9 to the
consolidated financial statements.
GENERAL BUSINESS FACTORS
In the judgment of the Company's management, no material part of the business of
CGMHI and its subsidiaries is dependent upon a single customer or group of
customers, the loss of any one of which would have a materially adverse effect
on CGMHI, and no one customer or group of affiliated customers accounts for as
much as 10% of CGMHI's consolidated revenues.
At December 31, 2004, CGMHI had approximately 38,000 full-time and 2,000
part-time employees.
SOURCE OF FUNDS
For a discussion of CGMHI's sources of funds and maturities of the long-term
debt of CGMHI and its subsidiaries, see Item 7, "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Liquidity and
Capital Resources," and Notes 6 and 7 to the consolidated financial statements.
TAXATION
For a discussion of tax matters affecting CGMHI and its operations, see Note 11
to the consolidated financial statements.
CODE OF ETHICS
CGMHI has adopted a code of ethics for financial professionals which applies to
CGMHI's principal executive officer, principal financial officer and principal
accounting officer. The code of ethics for financial professionals is listed on
the Exhibit Index to this Form 10-K.
9
ITEM 2. PROPERTIES.
CGMHI's principal executive offices are located at 388 Greenwich Street, New
York, New York. The Company owns two buildings located at 388 and 390 Greenwich
Street, New York, totaling approximately 2,300,000 square feet.
Most of the Company's other offices are located in leased premises, the leases
for which expire at various times. CGMHI believes that these facilities are
adequate for the purposes for which they are used and are well maintained. For
further information concerning leases, see Note 8 to the consolidated financial
statements.
ITEM 3. LEGAL PROCEEDINGS.
ENRON CORP.
In April 2002, Citigroup Inc. ("Citigroup") was named as a defendant along with,
among others, commercial and/or investment banks, certain current and former
Enron officers and directors, lawyers and accountants in a putative consolidated
class action complaint that was filed in the United States District Court for
the Southern District of Texas seeking unspecified damages. The action, brought
on behalf of individuals who purchased Enron securities (NEWBY, ET AL. V. ENRON
CORP., ET AL.), alleges violations of Sections 11 and 15 of the Securities Act
of 1933, as amended, and Sections 10(b) and 20(a) of the Securities Exchange Act
of 1934, as amended. In May 2003, plaintiffs filed an amended consolidated class
action complaint. Citigroup filed a motion to dismiss in June 2003, which motion
was denied in April 2004. Citigroup answered the operative complaint in May
2004. Plaintiffs filed a motion for class certification in May 2003, which
motion remains pending. The parties are engaging in discovery.
Additional actions have been filed against Citigroup and certain of its
affiliates, including CGMI, along with other parties, including (i) actions
brought by a number of pension and benefit plans, investment funds, mutual
funds, and other individual and institutional investors in connection with the
purchase of Enron and Enron-related equity and debt securities, alleging
violations of various state and federal securities laws, state unfair
competition statutes, common law fraud, misrepresentation, unjust enrichment,
breach of fiduciary duty, conspiracy and other violations of state law; (ii)
actions by banks that participated in Enron revolving credit facilities,
alleging fraud, gross negligence, breach of implied duties, aiding and abetting
and civil conspiracy in connection with defendants' administration of a credit
facility with Enron; (iii) an action brought by several funds in connection with
secondary market purchases of Enron debt securities, alleging violations of the
federal securities laws, including Section 11 of the Securities Act of 1933, as
amended, and claims for fraud and misrepresentation; (iv) a series of putative
class actions by purchasers of NewPower Holdings common stock, alleging
violations of various federal securities laws; the Citigroup defendant (along
with all other defendants) settled all claims without admitting any wrongdoing,
and the settlement was preliminarily approved by the United States District
Court for the Southern District of New York in September 2004; (v) a putative
class action brought by clients of CGMI in connection with research reports
concerning Enron, alleging breach of contract; (vi) an action brought by
purchasers in the secondary market of Enron bank debt, alleging
10
claims for common law fraud, conspiracy, gross negligence, negligence and breach
of fiduciary duty; (vii) an action brought by an investment company, alleging
that Citigroup and others aided Enron in fraudulently inducing it to enter into
a commodity sales contract; (viii) five adversary proceedings filed by Enron in
its chapter 11 bankruptcy proceedings to recover alleged preferential payments
and fraudulent transfers involving Citigroup, certain of its affiliates and
other entities, and to disallow or to subordinate claims that Citigroup and
other entities have filed against Enron; in one such proceeding, Enron also
alleges various common law claims, including a claim for aiding and abetting of
breach of fiduciary duty; (ix) third-party actions brought by former Enron
officers and directors, alleging violation of state securities and other laws
and a right to contribution from Citigroup, in connection with claims under
state securities and common law brought against the officers and directors; (x)
a purported class action brought on behalf of Connecticut municipalities,
alleging violation of state statutes, conspiracy to commit fraud, aiding and
abetting a breach of fiduciary duty and unjust enrichment; (xi) actions brought
by the Attorney General of Connecticut in connection with various commercial and
investment banking services provided to Enron; (xii) third-party actions brought
by Arthur Andersen as a defendant in Enron-related litigations, alleging a right
to contribution from Citigroup; (xiii) an action brought by the indenture
trustee for the Yosemite and ECLN Trusts and the Yosemite Securities Co.,
alleging fifteen causes of action sounding in tort and contract and relating to
the initial notes offerings and the post-bankruptcy settlement of the notes;
(xiv) putative class actions brought by investors that purchased and held Enron
and Enron-related securities, alleging negligence, misrepresentation, fraud,
breach of fiduciary duty, and aiding and abetting breach of fiduciary duty; (xv)
actions brought by utilities concerns, alleging that Citigroup and others aided
Enron in fraudulently overcharging for electricity; and (xvi) adversary
proceedings filed by Enron in its chapter 11 bankruptcy proceedings against
entities that purchased Enron bankruptcy claims from Citigroup, seeking to
disallow or to subordinate those claims. Several of these cases have been
consolidated or coordinated with the NEWBY action and are stayed, except for
certain discovery, pending the Court's decision on the pending motion for class
certification in NEWBY.
DYNEGY INC.
On June 6, 2003, the complaint in a pre-existing putative class action pending
in the United States District Court for the Southern District of Texas (IN RE:
DYNEGY INC. SECURITIES LITIGATION) brought by purchasers of publicly traded debt
and equity securities of Dynegy Inc. was amended to add Citigroup, Citibank and
CGMI as defendants. The plaintiffs allege violations of Sections 10(b) and 20(a)
of the Securities Exchange Act of 1934, as amended, against the Citigroup
defendants. The Citigroup defendants filed a motion to dismiss in March 2004,
which motion was granted by the District Court in October 2004. The court denied
lead plaintiff's request for leave to appeal.
WORLDCOM, INC.
Citigroup, CGMI and certain executive officers and current and former employees
were named as defendants--along with twenty-two other investment banks, certain
current and former WorldCom officers and directors, and WorldCom's former
auditors--in a consolidated class action (IN RE WORLDCOM, INC. SECURITIES
LITIGATION) brought on behalf of individuals and entities who purchased or
acquired publicly traded securities of WorldCom between April 29, 1999 and June
25, 2002. The class action complaint asserted claims against CGMI under (i)
Sections 11 and 12(a)(2) of the Securities
11
Act of 1933, as amended, in connection with certain bond offerings in which it
served as underwriter, and (ii) Sections 10(b) and 20(a) of the Securities
Exchange Act of 1934, as amended, and Rule 10b-5 promulgated under Section
10(b), alleging that it participated in the preparation and/or issuance of
misleading WorldCom registration statements and disseminated misleading research
reports concerning WorldCom stock. In 2003, the Court denied CGMI's motion to
dismiss the consolidated class action complaint and granted the plaintiffs'
motion for class certification.
On May 10, 2004, Citigroup announced that it had agreed to settle all claims
against it in the consolidated class action. Under the terms of the settlement,
Citigroup will make a payment of $2.58 billion ($1.59 billion after-tax) to the
settlement class. Citigroup reached this settlement agreement without admitting
any wrongdoing or liability, and the agreement reflects that Citigroup denies
that it or its subsidiaries committed any act or omission giving rise to any
liability or violation of the law. On November 10, 2004, the United States
District Court for the Southern District of New York entered an order granting
final approval of the settlement.
The District Court also consolidated with the consolidated class action two
other putative class actions which assert claims (i) under federal securities
laws against Citigroup, CGMI and certain former employees on behalf of
purchasers and acquirers of Targeted Growth Enhanced Terms Securities With
Respect to the Common Stock of MCI WorldCom, Inc. ("TARGETS"), based on CGMI's
research reports concerning WorldCom and its role as underwriter of TARGETS (IN
RE TARGETS SECURITIES LITIGATION); and (ii) under common law against CGMI and
certain former employees on behalf of persons who held WorldCom securities based
on CGMI's research reports concerning WorldCom (WEINSTEIN, ET AL. V. EBBERS, ET
AL.). On June 28, 2004, the District Court dismissed all claims under the
Securities Act of 1933 and certain claims under the Securities Exchange Act of
1934 in IN RE TARGETS SECURITIES LITIGATION, leaving only claims under the 1934
Act for purchases of TARGETS after July 30, 1999. On October 20, 2004, the
parties signed a Memorandum of Understanding setting forth the terms of a
settlement of all remaining claims in this action. The settlement was
preliminarily approved by the Court on January 11, 2005. On September 17, 2004,
the District Court dismissed WEINSTEIN, ET AL. v. EBBERS, ET AL. with prejudice,
and in its entirety. On October 15, 2004, the plaintiffs noticed their appeal of
this decision to the United States Court of Appeals for the Second Circuit. The
parties have reached an agreement in principle on the terms of a settlement of
this action.
Approximately seventy WorldCom individual actions remain pending in various
federal and state courts. Pursuant to an order entered on May 28, 2003, the
District Court presently has before it approximately two-thirds of these
individual actions that have been consolidated with the class action for
pretrial proceedings. The claims asserted in these individual actions are
substantially similar to the claims alleged in the class action and assert state
and federal securities law claims based on CGMI's research reports concerning
WorldCom and/or CGMI's role as an underwriter in WorldCom offerings. Plaintiffs
in certain of these actions filed motions to remand their cases to state court.
The District Court denied these motions and its rulings were upheld on appeal.
12
A number of other individual actions asserting claims against CGMI in connection
with its research reports about WorldCom and/or its role as an investment banker
for WorldCom are pending in other federal and state courts. These actions have
been remanded to various state courts, are pending in other federal courts, or
have been conditionally transferred to the United States District Court for the
Southern District of New York to be consolidated with the class action. In
addition to the court suits, actions asserting claims against Citigroup and
certain of its affiliates relating to its WorldCom research reports are pending
in numerous arbitrations around the country. These actions assert claims that
are substantially similar to the claims asserted in the class action.
GLOBAL CROSSING
On or about January 28, 2003, lead plaintiff in a consolidated putative class
action in the United States District Court for the Southern District of New York
(IN RE GLOBAL CROSSING, LTD. SECURITIES LITIGATION) filed a consolidated
complaint on behalf of purchasers of the securities of Global Crossing and its
subsidiaries, which named as defendants, among others, Citigroup, CGMI and
certain executive officers and current and former employees, asserting claims
under the federal securities laws for allegedly issuing research reports without
a reasonable basis in fact and for allegedly failing to disclose conflicts of
interest with Global Crossing in connection with published investment research.
On March 22, 2004, lead plaintiff amended its consolidated complaint to add
claims on behalf of purchasers of the securities of Asia Global Crossing. The
added claims assert causes of action under the federal securities laws and
common law in connection with CGMI's research reports about Global Crossing and
Asia Global Crossing and for CGMI's roles as an investment banker for Global
Crossing and as an underwriter in the Global Crossing and Asia Global Crossing
offerings. The Citigroup-related defendants moved to dismiss all of the claims
against them on July 2, 2004. In March 2005, the plaintiffs and the
Citigroup-related defendants reached a settlement of all claims against the
Citigroup -related defendants, including both research and underwriting claims,
and including claims concerning losses in both Global Crossing and Asia Global
Crossing, for a total of $75 million. The Court granted preliminary approval of
the settlement on March 8, 2005.
In addition, on or about January 27, 2004, the Global Crossing Estate
Representative filed in the United States Bankruptcy Court for the Southern
District of New York (i) an adversary proceeding against, among others,
Citigroup, CGMI and certain executive officers and current and former employees,
asserting claims under federal bankruptcy law and common law in connection with
CGMI's research reports about Global Crossing and for its role as an underwriter
in Global Crossing offerings, and (ii) an adversary proceeding against Citigroup
and several other financial institutions seeking to rescind the payment of a $1
billion loan made to a subsidiary of Global Crossing. The Citigroup-related
defendants moved to dismiss the former action on June 26, 2004, and the latter
on May 28, 2004. In addition, actions asserting claims against Citigroup and
certain of its affiliates relating to CGMI Global Crossing research reports are
pending in numerous arbitrations around the country. These arbitration
proceedings assert claims that are substantially similar to the claims asserted
in the putative class action.
13
RESEARCH
Since May 2002, Citigroup, CGMI and certain executive officers and current and
former employees have been named as defendants in numerous putative class action
complaints and arbitration demands by purchasers of various securities, alleging
that they violated federal securities law, including Sections 10 and 20 of the
Securities Exchange Act of 1934, as amended, for allegedly issuing research
reports without a reasonable basis in fact and for allegedly failing to disclose
conflicts of interest with companies in connection with published investment
research, including AT&T Corp. ("AT&T"), Winstar Communications, Inc.
("Winstar"), Level 3 Communications, Inc. ("Level 3"), Metromedia Fiber Network,
Inc. ("MFN"), XO Communications, Inc. ("XO"), Williams Communications Group Inc.
("Williams"), and Focal Communications, Inc. Almost all of these putative class
actions are pending before a single judge in the United States District Court
for the Southern District of New York for coordinated proceedings. The Court has
consolidated these actions into separate proceedings corresponding to the
companies named above. On December 2, 2004, the Court granted in part and denied
in part the Citigroup-related defendants' motions to dismiss the claims against
it in the AT&T, Level 3, XO and Williams actions. On January 5, 2005, the Court
dismissed the Winstar action in its entirety with prejudice. On January 6, 2005,
the Court granted in part and denied in part Citigroup's motion to dismiss the
claims against it in the MFN action.
In addition to the putative research class actions, several individual actions
have been filed against Citigroup and CGMI relating to, among other things,
research on Qwest Communications International, Inc. These actions allege
violations of state and federal securities laws in connection with CGMI's
publication of research about Qwest and its underwriting of Qwest securities.
Two putative class actions against CGMI asserting common law claims on behalf of
CGMI customers in connection with published investment research have been
dismissed by United States District Courts, both of which were affirmed on
appeal, one by the United States Court of Appeals for the Ninth Circuit, and one
by the United States Courts of Appeals for the Third Circuit. Two more putative
class actions raising similar claims are pending against CGMI, one in the United
States District Court for the Southern District of New York (NORMAN V. SALOMON
SMITH BARNEY, ET AL.) and the other in Illinois state court (DISHER V. CITIGROUP
GLOBAL MARKETS INC.). On June 9, 2004, the District Court denied CGMI's motion
to dismiss NORMAN V. SALOMON SMITH BARNEY, ET AL., a case which asserts
violations of the Investment Advisers Act of 1940 and various common law claims
in connection with certain investors who maintained guided portfolio management
accounts at Smith Barney.
In addition, actions asserting claims against Citigroup and certain of its
affiliates relating to its research reports on these companies are pending in
numerous arbitrations around the country. These arbitration proceedings assert
claims that are substantially similar to the claims asserted in the class and
individual actions.
14
In May 2003, the SEC, NYSE and NASD issued a subpoena and letters to CGMI
requesting documents and information with respect to their continuing
investigation of individuals in connection with the supervision of the research
and investment banking departments of CGMI. Other parties to the Research
Settlement have received similar subpoena and letters.
On June 23, 2003, the West Virginia Attorney General filed an action against
CGMI and nine other firms that were parties to the Research Settlement. The West
Virginia Attorney General alleges that the firms violated the West Virginia
Consumer Credit and Protection Act in connection with their research activities
and seeks monetary penalties. CGMI's and the other defendants' motion to dismiss
the action was denied. In January 2005, CGMI and the other defendants were
granted leave to appeal the dismissal to the Supreme Court of West Virginia on
the certified issue of whether the West Virginia Consumer Credit and Protection
Act applies to securities transactions.
ADELPHIA COMMUNICATIONS CORPORATION
On July 6, 2003, an adversary proceeding was filed by the Official Committee of
Unsecured Creditors on behalf of Adelphia Communications Corporation against
certain lenders and investment banks, including CGMI, Citibank, N.A., Citicorp
USA, Inc., and Citigroup Financial Products, Inc. (together, the Citigroup
Parties). The complaint alleges that the Citigroup Parties and numerous other
defendants committed acts in violation of the Bank Holding Company Act and
common law. The complaints seek equitable relief and an unspecified amount of
compensatory and punitive damages. In November 2003, a similar adversary
proceeding was filed by the Equity Holders Committee of Adelphia. In June 2004,
motions to dismiss were filed with respect to the complaints of the Official
Committee of Unsecured Creditors and the Equity Holders Committee. The motions
are currently pending.
In addition, CGMI is among the underwriters named in numerous civil actions
brought to date by investors in Adelphia debt securities in connection with
Adelphia securities offerings between September 1997 and October 2001. Three of
the complaints also assert claims against Citigroup Inc. and Citibank, N.A. All
of the complaints allege violations of federal securities laws, and certain of
the complaints also allege violations of state securities laws and the common
law. The complaint seeks unspecified damages. In December 2003, a second amended
complaint was filed and consolidated before the same judge of the United States
District Court for the Southern District of New York. In February 2004, motions
to dismiss the class and individual actions pending in the United States
District Court for the Southern District of New York were filed. The motions are
currently pending.
TRANSFER AGENCY
Citigroup's 2004 results reflect an aggregate reserve of $196 million ($151
million after-tax) related to the expected resolution of the previously
disclosed SEC investigation into mutual fund transfer agent matters that began
in November 2003.
In 1999, Citigroup Asset Management ("CAM") recommended that an affiliate become
the transfer agent for certain mutual funds managed by CAM. The affiliate that
became the transfer agent, Citicorp Trust Bank ("CTB"), subcontracted transfer
15
agency work to the previous (unaffiliated) transfer agent. At the time CAM
entered the business, CAM concluded a separate agreement with the sub-transfer
agent that guaranteed certain benefits to CAM and its affiliates. That
agreement, and a one-time payment related to termination of the agreement, were
not disclosed to the boards of the mutual funds that approved the retention of
the affiliated transfer agent.
As previously discussed, in July 2004, the staff of the SEC indicated that it
was considering recommending an enforcement proceeding against CAM and certain
of its affiliates relating to the transfer agency and sub-transfer agency
arrangements, including the creation and operation of this transfer agency, the
compensation received by CTB and the adequacy of CAM's disclosures to the fund
boards. The staff subsequently informed four individuals (none of whom remains
in his or her prior position with CAM) that it was also considering similar
enforcement proceedings against them. The Company is cooperating with the SEC in
its investigation. The reserve fully covers the financial terms that the SEC
staff has agreed to recommend to the Commission for resolution of this matter.
The Citigroup offer of settlement is subject to final negotiation, and any
settlement of this matter with the SEC will require approval by the Board of
Directors of Citigroup and acceptance by the SEC.
MUTUAL FUNDS
Citigroup and certain of its affiliates, including CGMI, have been named in
several class action litigations pending in various Federal District Courts
arising out of alleged violations of the federal securities laws, including the
Investment Company Act, and common law (including breach of fiduciary duty and
unjust enrichment). The claims concern practices in connection with the sale of
mutual funds, including allegations involving market timing, revenue sharing,
incentive payments for the sale of proprietary funds, undisclosed breakpoint
discounts for the sale of certain classes of funds, inappropriate share class
recommendations and inappropriate fund investments. The litigations involving
market timing have been consolidated under the MDL rules in the United States
District Court for the District of Maryland, and the litigations involving
revenue sharing, incentive payment and other issues are pending in the United
States District Court for the Southern District of New York. The plaintiffs in
these litigations generally seek unspecified compensatory damages, recessionary
damages, injunctive relief, costs and fees. In the principal market timing cases
that name Citigroup, a lead plaintiff has been appointed but that plaintiff has
not yet filed an amended complaint. In the principal cases concerning revenue
sharing, incentive payment and other issues, the lead plaintiff filed a
consolidated and amended complaint on December 15, 2004.
Several issues in the mutual fund industry have come under scrutiny of federal
and state regulators. The Company has received subpoenas and other requests for
information from various government regulators regarding market timing,
financing, fees, sales practices and other mutual fund issues in connection with
various investigations. The Company is cooperating with all such reviews.
16
IPO ALLOCATION LITIGATION
In April 2002, consolidated amended complaints were filed against CGMI and other
investment banks named in numerous putative class actions filed in the United
States District Court for the Southern District of New York, alleging violations
of certain federal securities laws (including Section 11 of the Securities Act
of 1933, as amended, and Section 10(b) of the Securities Exchange Act of 1934,
as amended) with respect to the allocation of shares for certain initial public
offerings and related aftermarket transactions and damage to investors caused by
allegedly biased research analyst reports. On February 19, 2003, the Court
issued an opinion denying defendants' motion to dismiss. On October 13, 2004,
the court granted in part the motion to certify class actions for six focus
cases in the securities litigation. CGMI is not a defendant in any of the six
focus cases. The underwriter defendants in the focus cases have filed a petition
to the United States Court of Appeals for the Second Circuit seeking review of
this decision. Also filed in the Southern District of New York against CGMI and
other investment banks were several putative class actions that were
consolidated into a single class action, alleging violations of certain federal
and state antitrust laws in connection with the allocation of shares in initial
public offerings when acting as underwriters. On November 3, 2003, the Court
granted CGMI's motion to dismiss the consolidated amended complaint in the
antitrust case. Plaintiff has appealed the motion to dismiss to the United
States Court of Appeals for the Second Circuit in New York. That appeal is
pending.
INVESTIGATIONS OF EURO ZONE GOVERNMENT BONDS TRADE
On August 2, 2004, Citigroup Global Markets Limited executed certain large
trades in Euro Zone Government bonds in London that were carried out on the MTS
trading platform. On August 19, 2004, the UK Financial Services Authority
commenced an enforcement investigation into certain aspects of these trades.
Other European regulators have also commenced similar investigations. Recently,
the German regulator, BaFin, referred the results of its investigation into the
trades to prosecutors for possible prosecution against employees of the Company.
Citigroup is cooperating with these investigations.
OTHER
In March 1999, a complaint seeking in excess of $250 million was filed by a
hedge fund and its investment advisor against CGMI in the Supreme Court of the
State of New York, County of New York (MKP MASTER FUND, LDC ET AL. V. SALOMON
SMITH BARNEY INC.). Plaintiffs allege that while acting as their prime broker
CGMI breached its contracts with plaintiffs, converted plaintiffs' monies and
engaged in tortious conduct, including breaching its fiduciary duties. In
October 1999, the court dismissed plaintiffs' tort claims, including the breach
of fiduciary duty claims, but allowed the breach of contract and conversion
claims to stand. In December 1999, CGMI filed an answer and asserted
counterclaims against the investment advisor. In response to plaintiffs' motion
to strike the counterclaims, in January 2000, CGMI amended its counterclaims
against the investment advisor to seek indemnification and contribution.
Plaintiffs moved to strike CGMI's amended counterclaims in February 2000. In
September 2000, the court denied plaintiffs' motion to dismiss CGMI's
counterclaims based on indemnification and contribution. In July 2003, the court
granted CGMI's motion for summary
17
judgment and plaintiffs subsequently filed a notice of appeal. In October 2004,
the Appellate Division affirmed the grant of summary judgment.
Additional lawsuits containing claims similar to those described above may be
filed in the future.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Pursuant to General Instruction I of Form 10-K, the information required by Item
4 is omitted.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS, AND
ISSUER PURCHASES OF EQUITY SECURITIES.
All of the outstanding common stock of the Company is owned by Citigroup Inc.
ITEM 6. SELECTED FINANCIAL DATA.
Pursuant to General Instruction I of Form 10-K, the information required by Item
6 is omitted.
18
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
SETTLEMENT OF WORLDCOM CLASS ACTION LITIGATION AND CHARGE FOR REGULATORY AND
LEGAL MATTERS
During the 2004 second quarter, the Company recorded a charge of $6.5 billion
($4.1 billion after-tax) related to a settlement of class action litigation
brought on behalf of purchasers of WorldCom securities and an increase in
litigation reserves ("WorldCom and Litigation Reserve Charge").
Subject to the terms of the settlement and its eventual approval by the courts,
Citigroup will make a payment of approximately $2.575 billion, or $1.59 billion
after-tax, to the settlement class, which consists of all persons who purchased
or otherwise acquired publicly traded securities of WorldCom during the period
from April 29, 1999 through and including June 25, 2002. The payment will be
allocated between purchasers of WorldCom stock and purchasers of WorldCom bonds.
Plaintiffs' attorneys' fees will come out of the settlement amount.
In connection with the settlement of the WorldCom class action, the Company
reevaluated and increased its reserves for numerous other lawsuits and legal
proceedings arising out of alleged misconduct in connection with:
(i) underwritings for, and research coverage of, WorldCom;
(ii) underwritings for Enron and other transactions and activities related to
Enron and Dynegy;
(iii) transactions and activities related to research coverage of companies
other than WorldCom; and
(iv) transactions and activities related to securities sold in initial public
offerings.
As of December 31, 2004, the Company's litigation reserve for these matters, net
of the amount to be paid upon final approval of the WorldCom class action
settlement, was $4.7 billion on a pretax basis.
The Company believes that this reserve is adequate to meet all of its remaining
exposure for these matters. However, in view of the large number of these
matters, the uncertainties of the timing and outcome of this type of litigation,
the novel issues presented, and the significant amounts involved, it is possible
that the ultimate costs of these matters may exceed or be below the reserve. The
Company will continue to defend itself vigorously in these cases, and seek to
resolve them in the manner management believes is in the best interest of the
Company.
19
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
RESERVE FOR THE SECURITIES AND EXCHANGE COMMISSION'S TRANSFER AGENT
INVESTIGATION
During the 2004 fourth quarter, the Company recorded a $131 million after-tax
reserve related to the expected resolution of the previously disclosed SEC
investigation of transfer agent matters, which, combined with a $20 million
after-tax reserve taken in the 2004 third quarter, fully covers the financial
terms that the SEC staff has agreed to recommend to the Commission for
resolution of this matter.
SETTLEMENT OF CERTAIN LEGAL AND REGULATORY MATTERS
On July 28, 2003, Citigroup entered into final settlement agreements with the
Securities and Exchange Commission ("SEC"), the Office of the Comptroller of the
Currency ("OCC"), the Federal Reserve Bank of New York and the Manhattan
District Attorney's Office that resolved on a civil basis their investigations
into Citigroup's structured finance work for Enron. Citigroup also announced
that its settlement agreement with the SEC concluded that agency's investigation
into certain Citigroup work for Dynegy. The agreements were reached by Citigroup
(and, in the case of the agreement with the OCC, Citibank, N.A.) without
admitting or denying any wrongdoing or liability, and the agreements do not
establish wrongdoing or liability for the purpose of civil litigation or any
other proceeding. The Company and certain other Citigroup subsidiaries have paid
from previously established reserves an aggregate amount of $145.5 million in
connection with these settlements.
On April 28, 2003, Salomon Smith Barney Inc., now named Citigroup Global Markets
Inc. ("CGMI"), announced final agreements with the SEC, the National Association
of Securities Dealers, the New York Stock Exchange, and the New York Attorney
General (as lead state among the 50 states, the District of Columbia and Puerto
Rico) to resolve on a civil basis all of their outstanding investigations into
its research and IPO allocation and distribution practices ("the Research
Settlement"). CGMI reached these final settlement agreements without admitting
or denying any wrongdoing or liability. The Research Settlement does not
establish wrongdoing or liability for purposes of any other proceeding. The
Company paid from previously established reserves an aggregate amount of $300
million and committed to spend an additional $75 million to provide independent
third-party research at no charge to clients in connection with these
settlements.
CHARGE FOR REGULATORY AND LEGAL MATTERS
During the 2002 fourth quarter, the Company recorded an $863 million after-tax
charge related to the establishment of reserves for regulatory settlements and
related civil litigation.
20
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
SIGNIFICANT ACCOUNTING POLICIES AND SIGNIFICANT ESTIMATES
The notes to the consolidated financial statements contain a summary of the
Company's significant accounting policies, including a discussion of
recently-issued accounting pronouncements. Certain of these policies, as well as
estimates made by management, are considered to be important to the portrayal of
the Company's financial condition, since they require management to make
difficult, complex or subjective judgments and estimates, some of which may
relate to matters that are inherently uncertain. These policies include
accounting for securitizations, the valuation of financial instruments and
contractual commitments, legal reserves and income taxes. Additional information
about these policies can be found in Note 1 to the consolidated financial
statements.
Certain of the statements below are forward-looking statements within the
meaning of the Private Securities Litigation Reform Act. See "Forward-Looking
Statements" on page 47.
SECURITIZATIONS
Securitization is a process by which a legal entity issues certain securities to
investors, which securities pay a return based on the principal and interest
cash flows from a pool of loans or other financial assets. The Company
securitizes financial assets that it originated and/or purchased and also
assists its clients in securitizing the clients' financial assets. The Company
may provide administrative, underwriting, liquidity facilities and/or other
services to the resulting securitization entities. See the Off-Balance Sheet
Arrangements section of Management's Discussion and Analysis for additional
information about our securitization programs.
There are two key accounting determinations that must be made relating to
securitizations. In the case where the Company originated or previously owned
the financial assets transferred to the securitization entity, a decision must
be made as to whether that transfer would be considered a sale under accounting
principles generally accepted in the United States of America. This would result
in the transferred assets being removed from the Company's consolidated
statement of financial condition with a gain or loss recognized. Alternatively,
the transfer would be considered a financing resulting in recognition of a
liability in the Company's consolidated statement of financial condition. The
second key determination to be made is whether the securitization entity should
be consolidated by the Company and be included in the Company's consolidated
financial statements or whether the entity is sufficiently independent that it
does not need to be consolidated.
If the securitization entity's activities are sufficiently restricted to meet
certain accounting requirements to be considered a qualifying special purpose
entity ("QSPE"), the securitization entity is not consolidated by the seller of
the transferred assets. In January 2003, the Financial Accounting Standards
Board ("FASB") issued a new
21
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
interpretation on consolidation that was adopted by the Company on July 1, 2003.
Under this interpretation, FASB Interpretation No. 46, "Consolidation of
Variable Interest Entities" ("FIN 46"), if the securitization entities other
than QSPE's meet the definition of a variable interest entity ("VIE"), the
Company must evaluate whether it is the primary beneficiary of the entity and,
if so, must consolidate it. The entity would be considered a VIE if it requires
additional subordinated support or if the equity investors lack certain
characteristics of a controlling financial interest. In December 2003, FASB
issued a revised version of FIN 46 ("FIN 46-R"), which the Company implemented
in January 2004. This revised version included substantial changes from the
original FIN 46, including changes in the calculations of the expected losses
and expected residual returns. Its impact on the financial statements was an
increase to assets and liabilities of $510 million. However, most of the
Company's securitization transactions continued to meet the criteria for sale
accounting and non-consolidation.
The Company's securitization activities are conducted on behalf of our clients
and to generate revenues for services provided to the special purpose entities
("SPEs"). The Company uses SPEs for securitizing mortgage-backed securities and
clients' trade receivables, to create investment opportunities for clients
through collateralized debt obligations ("CDOs"), and to meet other client needs
through structured financing transactions. All the mortgage-backed securities
transactions use QSPEs, as do certain CDOs and structured finance transactions.
At December 31, 2004, the Company was involved with SPEs with assets of $836.4
billion, including SPEs with assets of $5.5 billion that were consolidated by
the Company and QSPEs with assets amounting to $586.5 billion. This compares
with December 31, 2003, where the Company was involved with SPEs with assets of
$709.2 billion, including SPEs with assets of $4.0 billion that were
consolidated by the Company and QSPEs with assets amounting to $426 billion.
Additional information on the Company's securitization activities can be found
in Note 17 to the consolidated financial statements.
VALUATIONS OF FINANCIAL INSTRUMENTS AND CONTRACTUAL COMMITMENTS
Financial instruments and contractual commitments include fixed maturity and
equity securities, commodities, derivatives and structured securities. The
Company's policy is to carry its financial instruments and contractual
commitments at market value, or when market prices are not readily available, at
fair value. For the substantial majority of our portfolios, fair values are
determined based upon quoted prices or validated models with externally
verifiable model inputs. Changes in the fair value of trading account assets and
liabilities are recognized in earnings. Changing economic conditions - global,
regional, or related to specific issuers or industries - could adversely affect
these values.
22
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
If available, quoted market prices are generally the best indication of value.
If quoted market prices are not available for fixed maturity securities, equity
securities, derivatives or commodities, the Company discounts the expected cash
flows using market interest rates commensurate with the credit quality and
duration of the investment. Alternatively, matrix or model pricing may be used
to determine an appropriate fair value. It is the Company's policy that all
models used to produce valuations for the published financial statements be
validated by qualified personnel independent from those who created the models.
The determination of market or fair value considers various factors, including
time value and volatility factors, underlying options, warrants, and
derivatives; price activity for equivalent synthetic instruments; counterparty
credit quality; the potential impact on market prices or fair value of
liquidating the Company's positions in an orderly manner over a reasonable
period of time under current market conditions; and derivative transaction
maintenance costs during the period. For derivative transactions, trading profit
at inception is recognized when the fair value of that derivative is obtained
from a quoted market price, supported by comparison to other observable market
transactions, or based upon a valuation technique incorporating observable
market data. The Company defers trade-date gains or losses on derivative
transactions where the fair value is not determined based upon observable market
transactions and market data. The deferral is recognized in income when the
market data becomes observable or over the life of the transaction. Changes in
assumptions could affect the fair value of financial instruments and contractual
commitments.
In certain situations (primarily equity securities), including thinly-traded
securities, large block holdings, restricted shares or other special situations,
the quoted market price is adjusted to produce an estimate of the attainable
fair value for the securities. For investments that are not publicly-traded,
estimates of fair value are made based upon a review of the investee's financial
results, condition and prospects, together with comparisons to similar companies
for which quoted market prices are available.
For the Company's trading portfolios amounting to assets of $182.1 billion and
$153.8 billion and liabilities of $84.7 billion and $74.6 billion at December
31, 2004 and 2003, respectively, fair values were verified in the following
ways: externally verified via comparison to quoted market prices or third-party
broker quotations; by using models that were validated by qualified personnel
independent of the area that created the models and inputs that were verified by
comparison to third-party broker quotations or other third-party sources; or by
using alternative procedures such as comparison to comparable securities and/or
subsequent liquidation prices. At December 31, 2004 and 2003, respectively,
approximately 94% and 95% of the trading portfolios gross assets and liabilities
(prior to netting positions pursuant to FASB Interpretation No. 39, "Offsetting
of Amounts Relating to Certain Contracts" ) were considered verified and
approximately 6% and 5% were considered unverified. Of the unverified assets at
December 31, 2004 and 2003, respectively, approximately 75% and 69% consists of
cash products, where independent quotes were not available and/or alternative
procedures were not feasible, and 25% and 31% consists of derivative products
where either the model was not validated or the inputs were not verified due to
lack of appropriate market quotations. Such values are actively reviewed by
management.
23
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
In determining the fair values of our securities portfolios, management also
reviews the length of time trading positions have been held to identify aged
inventory. During 2004, the average monthly aged inventory designated as
available for immediate sale was approximately $7.3 billion compared to $5.3
billion in 2003. Inventory positions that are aged and whose values are
unverified amounted to approximately $2.8 billion and $2.1 billion at December
31, 2004 and 2003, respectively. The fair value of the aged inventory is
actively monitored and, where appropriate, is discounted to reflect the implied
illiquidity for positions that have been available for immediate sale longer
than 90 days. At December 31, 2004 and 2003, such valuation adjustments amounted
to $77 million and $64 million, respectively.
LEGAL RESERVES
The Company is subject to legal, regulatory, and other proceedings and claims
arising from conduct in the ordinary course of business. These proceedings
include actions brought against the Company in its various roles, including
acting as an underwriter, broker-dealer or investment adviser. Reserves are
established for legal and regulatory claims based upon the probability and
estimability of losses and to fairly present, in conjunction with the
disclosures of these matters in the Company's financial statements and SEC
filings, management's view of the Company's exposure. The Company reviews
outstanding claims with internal as well as external counsel to assess
probability and estimates of loss. The risk of loss is reassessed as new
information becomes available and reserves are adjusted, as appropriate. The
actual cost of resolving a claim may be substantially higher than the amount of
the recorded reserve. See Note 13 to the consolidated financial statements and
the discussion of "Legal Proceedings" beginning on page 10.
INCOME TAXES
The Company is subject to the income tax laws of the U.S., its states and
municipalities and those of the foreign jurisdictions in which the Company
operates. These tax laws are complex and subject to different interpretations by
the taxpayer and the relevant Governmental taxing authorities. In establishing a
provision for income tax expense the Company must make judgments and
interpretations about the application of these inherently complex tax laws. The
Company must also make estimates, such as those disclosed in Note 11 to the
consolidated financial statements, and estimates about when in the future
certain items will affect taxable income in the various tax jurisdictions, both
domestic and foreign.
Disputes and controversies over interpretations of the tax laws may be subject
to review/adjudication by the court systems of the various tax jurisdictions or
may be settled with the taxing authority upon examination or audit.
24
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The Company reviews these balances quarterly and as new information becomes
available the balances are adjusted, as appropriate.
SFAS No. 109 "Accounting for Income Taxes" ("SFAS 109") requires companies to
make adjustments to their financial statements in the quarter that new tax
legislation is enacted. In the fourth quarter, the U.S. Congress passed, and the
President signed into law a new tax bill, "The American Jobs Creation Act of
2004." The Homeland Investment Act ("HIA") provision of the American Jobs
Creation Act of 2004 is intended to provide companies with a one time 85%
reduction in the U.S. net tax liability on cash dividends paid by foreign
subsidiaries in 2005, to the extent that they exceed a baseline level of
dividends paid in prior years. The provisions of the Act are complicated and
companies, including CGMHI, are awaiting clarification of several provisions
from the Treasury Department. The Company is still evaluating the provision and
the effects it would have on financing the Company's foreign operations. In
accordance with FASB Staff Position FAS 109-2, "Accounting and Disclosure
Guidance for the Foreign Earnings Repatriation Provision with the American Jobs
Creation Act of 2004", the Company has not recognized any income tax effects of
the repatriation provisions of the Act and will not do so until the above issues
are resolved, sometime in 2005. The reasonably possible amounts that may be
repatriated in 2005, that would be subject to the provision of the Act, range
from $0 to $125 million. The related potential income tax effects range from a
tax benefit of $0 to a tax provision of $10 million, under current law. There is
a Technical Corrections Bill pending in the U.S. Congress that would amend the
computation of the HIA benefit. If this bill is enacted, the range of potential
tax benefits would be from a benefit of $0 to a provision of $4 million, net of
the impact of remitting income earned in 2005 that would otherwise have been
indefinitely invested overseas.
See Note 11 to the consolidated financial statements for a further description
of the Company's provision for income taxes and related income tax assets and
liabilities.
FUTURE APPLICATION OF ACCOUNTING STANDARDS
See Note 1 to the consolidated financial statements for a discussion of the
future application of accounting standards.
RESULTS OF OPERATIONS
In 2004, the Company recorded a net loss of $1,441 million compared to net
income of $2,893 million and $1,787 million for the years ended December 31,
2003 and 2002, respectively. The decline in 2004 is primarily the result of the
WorldCom and Litigation Reserve Charge. The increase in 2003 compared to 2002
reflected an improvement in the financial markets during 2003. During 2002, the
Company recorded an after-tax charge for legal and regulatory settlements of
$863 million which resulted in a decline in net income. Revenues, net of
interest expense, were $16.7 billion in 2004 compared to $15.7 billion and $14.4
billion in 2003 and 2002, respectively.
25
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
In 2002, the Company recorded a cumulative after-tax loss of $24 million (net of
tax benefit of $16 million) which related to the adoption of SFAS No. 142,
"Goodwill and Other Intangible Assets."
Asset management and administration fees contributed to the increase in revenue
in 2004 as a result of positive market action and cumulative net flows, and
higher asset-based revenue, reflecting increased client asset levels. Also
contributing to the increase was higher transactional revenues reflecting
slightly higher customer trading. Commission revenue also increased in 2004
primarily due to an increase in OTC commissions. Principal transactions revenues
declined significantly as a result of decreases in fixed income and global
equity trading. Investment banking revenues decreased slightly due to a decline
in high-grade debt underwriting, offset partially by an increase in equity
underwriting. Net interest and dividends increased primarily as a result of
increased dividend income in the European Finance and European Equity Derivative
businesses and increased interest income due to higher levels of municipal
holdings. Total non-interest expenses increased primarily due to the WorldCom
and Litigation Reserve Charge, increased compensation and benefits, voice and
market data and floor brokerage and other production expenses. The WorldCom and
Litigation Reserve Charge was included in "Other operating and administrative
expenses" in the accompanying consolidated statement of operations.
Principal transactions revenues contributed largely to the increase in revenue
in 2003 due to an increase in fixed income trading. Investment banking revenues
increased as a result of increases in high-grade debt and high-yield
underwriting, partially offset by a decrease in merger and acquisition fees.
Included in investment banking revenues for 2002 were fees from the Travelers
Property Casualty Corp. initial public offering. Commission revenues decreased
in 2003 compared to 2002 due to lower over-the-counter ("OTC") commissions.
Total non-interest expenses decreased 3% in 2003 compared to 2002. The decrease
was primarily the result of a charge to earnings in 2002 relating to the
establishment of reserves for the cost of the settlement with regulators and
toward estimated costs of the private litigation related to the matters that
were the subject of the settlement as well as the regulatory inquiries and
private litigation related to Enron. The charge was included in "Other operating
and administrative expenses" in the accompanying consolidated statement of
operations. The decrease was partially offset by an increase in compensation and
benefits expense in 2003 reflecting increased revenues of the Company.
Following is a discussion of the results of operations of the Company's three
operating segments, Investment Services, Private Client Services and Asset
Management.
26
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
INVESTMENT SERVICES
Dollars in millions
For the year ended December 31, 2004 2003 2002
- ------------------------------- ------- ------ ------
Revenues, net of interest expense $ 9,155 $8,908 $7,513
Total non-interest expenses 13,102 5,767 6,154
------- ------ ------
Income (loss) before income taxes (3,947) 3,141 1,359
Provision (benefit) for income taxes (1,598) 1,190 600
------- ------ ------
Net income (loss) $(2,349) $1,951 $ 759
======= ====== ======
The Company's investment services segment recorded a net loss in 2004 of $2.35
billion compared to net income of $1.95 billion and $759 million for the years
ended December 31, 2003 and 2002, respectively. During 2002, the segment
recorded a restructuring credit of $9 million ($5 million net of tax). See Note
2 to the consolidated financial statements for further discussion of the
restructuring credit.
Revenues, net of interest expense, increased 3% and 19% to $9.2 billion and $8.9
billion in 2004 and 2003, respectively. Following is a discussion of the
significant changes to the segment's revenues. Principal transactions revenues
decreased in 2004 as a result of declines in global fixed income and global
equities trading. In 2003, principal transactions revenues increased
significantly due to an increase in global fixed income trading. For further
information related to principal transactions revenues, see Note 4 to the
consolidated financial statements. In 2004, investment banking revenues were
essentially unchanged. In 2003, investment banking revenues increased as a
result of increases in high grade debt and high-yield underwritings, offset by
declines in equity underwriting and merger and acquisition fees. Included in
investment banking revenues in 2002 were fees from the Travelers Property
Casualty Corp. initial public offering which occurred in the first quarter of
2002. Commission revenues increased in 2004 primarily due to increases in OTC
and futures commissions. Commission revenues were down in 2003, as compared to
2002, due to a decrease in listed commissions.
Net interest and dividends increased in 2004 and 2003. Net interest and
dividends increased primarily as a result of increased dividend income in the
European Finance and European Equity Derivative businesses and increased
interest income due to higher levels of municipal holdings. In 2003, the
increase primarily related to increased dividend income and widening spreads in
equity financing.
In 2004, total non-interest expenses increased primarily due to the WorldCom and
Litigation Reserve Charge, increased compensation and benefits, voice and market
data and floor brokerage and other production expenses. Total non-interest
expenses, excluding restructuring-related items, decreased 6% in 2003 compared
to 2002 primarily due to a charge related to the establishment of reserves in
2002 for the settlement with regulators and
27
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
toward estimated costs of the private litigation related to the matters that
were the subject of the settlement as well as the regulatory inquiries and
private litigation related to Enron. Also contributing to the decrease were
reduced communications, occupancy and equipment and floor brokerage and other
production expenses. These decreases were partially offset by an increase in
compensation and benefits expense reflecting increased revenues of the Company.
PRIVATE CLIENT SERVICES
Dollars in millions
For the year ended December 31, 2004 2003 2002
- ------------------------------- ------ ------ ------
Revenues, net of interest expense $6,303 $5,700 $5,736
Total non-interest expenses 4,990 4,552 4,536
------ ------ ------
Income before income taxes 1,313 1,148 1,200
Provision for income taxes 520 443 447
------ ------ ------
Net income $ 793 $ 705 $ 753
====== ====== ======
Private Client Services net income was $793 million in 2004 compared to $705
million in 2003 and $753 million in 2002. Private Client Services net income
increased $88 million or 13% during 2004 primarily due to increases in both
transactional revenue and asset-based revenue, partially offset by higher
production related costs and legal costs. Net income decreased $48 million or 6%
during 2003 primarily reflecting decreases in customer transaction volumes, net
interest revenue on security-based lending and asset-based fee revenue.
Revenues, net of interest expense, increased $603 million in 2004 to $6,303
million primarily due to increases in asset-based revenue reflecting higher
assets under fee based management and transactional revenue reflecting slightly
higher customer trading. Revenues, net of interest expense, decreased $36
million in 2003 to $5,700 million, primarily due to declines in fees from
managed accounts, lower net interest revenue on security-based lending and lower
customer transaction volumes.
Total assets under fee-based management were $240.3 billion, $208.8 billion and
$157.8 billion as of December 31, 2004, 2003 and 2002, respectively (see table
on the following page for detail of Private Client Services assets under
fee-based management). The increase in both 2004 and 2003 was primarily due to
positive net flows and higher equity market values. Total client assets,
including assets under fee-based management of $1,156 billion in 2004 increased
$88 billion or 8% from $1,068 billion in 2003, which in turn increased $177
billion from 2002. The increase in 2004 and 2003 is primarily due to higher
equity market values and net positive flows of $24 and $28 billion,
respectively. Balances in Smith Barney's bank deposit program totaled $43
billion in 2004, which increased slightly from 2003.
28
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Operating expenses increased $438 million in 2004 and $16 million in 2003. The
increase in 2004 and 2003 primarily reflects higher legal, advertising and
marketing costs.
Assets under fee-based management were as follows:
Dollars in billions
At December 31, 2004 2003 2002
- ------------------- ------ ------ ------
Financial Consultant managed accounts $ 83.8 $ 71.7 $ 52.2
Consulting Group and internally managed assets 156.5 137.1 105.6
------ ------ ------
Total assets under fee-based management (1) $240.3 $208.8 $157.8
====== ====== ======
(1) Includes assets managed jointly with Citigroup Asset Management.
ASSET MANAGEMENT
Dollars in millions
For the year ended December 31, 2004 2003 2002
- ------------------------------- ------ ------ ------
Revenues, net of interest expense $1,236 $1,054 $1,157
Total non-interest expenses 997 670 663
------ ------ ------
Income before income taxes and cumulative
effect of change in accounting principle 239 384 494
Provision for income taxes 124 147 195
Cumulative effect of change in accounting
principle (net of tax benefit of $16) -- -- (24)
------ ------ ------
Net income $ 115 $ 237 $ 275
====== ====== ======
The asset management segment revenues, net of interest expense, of $1.24
billion, $1.05 billion and $1.16 billion for the years ended 2004, 2003, and
2002, respectively, increased $182 million or 17% from 2003 and decreased $103
million or 9% from 2002. The primary revenue component for the asset management
segment is asset management and administration fees, which were $1.21 billion in
2004, $1.02 billion in 2003 and $1.12 billion in 2002. The increase in revenues
in 2004 is primarily due to positive market action and cumulative net flows,
partially offset by a change in presentation of certain fee-sharing arrangements
which decreased both revenue and expenses by $16 million. The results for 2003
reflect the impact of weakness in global equity markets on average, reduced fee
revenues and the impact of a decrease in U.S. retail money market funds. The
reduced fee revenues primarily resulted from changes in product mix,
revenue-sharing arrangements with internal Citigroup distributors and a change
in presentation of certain fee-sharing arrangements, which decreased revenues
and expenses by $41 million.
29
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Assets under management for the segment increased 6% in 2004 and 18% in 2003
(see the table below for details of assets under fee-based
management).
Total non-interest expenses were $997 million in 2004 compared to $670 million
in 2003 and $663 million in 2002. The increase of 49% in 2004 reflects a reserve
of $196 million relating to resolution of the previously disclosed SEC
investigation into transfer agent matters. The 1% increase in 2003 is primarily
due to the increase in variable expenses and higher expenses related to legal
matters.
Assets under fee-based management were as follows:
Dollars in billions
At December 31, 2004 2003 2002
- ------------------- ------ ------ ------
Money market funds $ 97.6 $ 93.9 $ 97.0
Mutual funds 91.8 89.7 68.7
Managed accounts 125.8 114.4 85.6
Unit investment trusts held in client accounts 5.3 5.6 5.3
------ ------ ------
Total $320.5 $303.6 $256.6
====== ====== ======
OUTLOOK
The Company's business is significantly affected by the levels of activity in
the securities markets, which, in turn, are influenced by the level and trend of
interest rates, the general state of the global economy and the national and
worldwide political environments, among other factors.
Limited staff reductions will be made in the Company in early 2005. The
reductions will affect an estimated 500 staff and will result in an
approximately $150 million pre-tax charge during the 2005 first quarter.
On February 11, 2005, Citigroup announced it would consolidate its capital
markets funding activities in two legal entities: i) Citigroup Inc., which will
continue to issue long-term debt, trust preferred securities, preferred and
common stock, and ii) Citigroup Funding Inc., a newly formed, fully guaranteed,
first-tier subsidiary of Citigroup, which will issue commercial paper and
medium-term notes. It is anticipated that this funding consolidation will
commence during the 2005 second quarter.
As part of the funding consolidation, it is expected that Citigroup will
unconditionally guarantee the Company's outstanding public indebtedness. Upon
issuance of the guarantee, the Company will no longer file periodic reports with
the SEC and will continue to be rated on the basis of a guarantee of its
financial obligations from Citigroup.
30
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
CAPITAL AND LIQUIDITY MANAGEMENT
Management of capital and liquidity is critical to a financial institution such
as the Company. It is the policy of the Company to maintain sufficient capital
to support all business initiatives and to ensure access to funding under all
market conditions. The confidence of creditors and counterparties in the
Company's ability to perform pursuant to its contractual obligations is
essential to the Company's continued success.
LIQUIDITY AND CAPITAL RESOURCES
The Company's total assets were $441 billion at December 31, 2004, an increase
from $361 billion at year-end 2003. Due to the nature of the Company's trading
activities, it is not uncommon for the Company's asset levels to fluctuate
significantly from period to period.
The Company's consolidated statement of financial condition is highly liquid,
with the vast majority of its assets consisting of marketable securities and
collateralized short-term financing agreements arising from securities
transactions. The highly liquid nature of these assets provides the Company with
flexibility in financing and managing its business. The Company monitors and
evaluates the adequacy of its capital and borrowing base on a daily basis in
order to allow for flexibility in its funding, to maintain liquidity, and to
ensure that its capital base supports the regulatory capital requirements of its
subsidiaries.
The Company funds its operations through the use of collateralized and
uncollateralized short-term borrowings, long-term borrowings, and its equity.
Collateralized short-term financing, including repurchase agreements, and
secured loans are the Company's principal funding source. Such borrowings are
reported net by counterparty, when applicable, pursuant to the provisions of
FASB Interpretation No. 41, "Offsetting of Amounts Related to Certain Repurchase
and Reverse Repurchase Agreements" ("FIN 41"). Excluding the impact of FIN 41,
short-term collateralized borrowings totaled $256.3 billion at December 31,
2004. Uncollateralized short-term borrowings provide the Company with a source
of short-term liquidity and are also utilized as an alternative to secured
financing when they represent a less expensive funding source. Sources of
short-term uncollateralized borrowings include commercial paper, unsecured bank
borrowings, promissory notes and corporate loans. Short-term uncollateralized
borrowings totaled $25.3 billion at December 31, 2004.
The Company has 364-day committed uncollateralized revolving line of credit
facilities with unaffiliated banks totaling $3.3 billion. These facilities have
a two-year term-out provision with any borrowings maturing on various dates
through 2007. The Company also has three-year facilities totaling $1.4 billion
with unaffiliated banks with any borrowings maturing on various dates in 2007.
The Company may borrow under these revolving credit facilities at
31
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
various interest rate options (LIBOR, Fed Funds or base rate) and compensates
the banks for these facilities through facility fees. At December 31, 2004,
there were no outstanding borrowings under these facilities. The Company also
has committed long-term financing facilities with unaffiliated banks. At
December 31, 2004, the Company had drawn down the full $1.5 billion then
available under these facilities. A bank can terminate these facilities by
giving the Company prior notice (generally one year). The Company compensates
the banks for these facilities through facility fees. Under all of these
facilities, the Company is required to maintain a certain level of consolidated
adjusted net worth (as defined in the agreements). At December 31, 2004, this
requirement was exceeded by approximately $6.8 billion. The Company also has
substantial borrowing arrangements consisting of facilities that the Company has
been advised are available, but where no contractual lending obligation exists.
These arrangements are reviewed on an ongoing basis to ensure flexibility in
meeting the Company's short-term requirements.
Unsecured term debt is a significant component of the Company's long-term
capital. Term debt totaled $59.3 billion at December 31, 2004, compared with
$43.7 billion at December 31, 2003. The Company utilizes interest rate swaps to
convert the majority of its fixed-rate term debt used to fund inventory-related
working capital requirements into variable rate obligations. Term debt issuances
denominated in currencies other than the U.S. dollar that are not used to
finance assets in the same currency are effectively converted to U.S. dollar
obligations through the use of cross-currency swaps and forward currency
contracts. At December 31, 2004, the average remaining maturity of the Company's
term debt was 5 years, including pass-through entities whose debt of $523
million matures in periods ranging from 2025 to 2097 and are required to be
consolidated under accounting principles generally accepted in the United States
of America. The average remaining maturity of the Company's term debt excluding
these pass-through entities was 4.7 years at December 31, 2004. See Note 7 to
the consolidated financial statements for additional information regarding term
debt and an analysis of the impact of interest rate swaps on term debt.
The Company's borrowing relationships are with a broad range of banks, financial
institutions and other firms, including affiliates, from which it draws funds.
The volume of the Company's borrowings generally fluctuates in response to
changes in the level of the Company's financial instruments, commodities and
contractual commitments, customer balances, the amount of securities purchased
under agreements to resell and securities borrowed transactions. As the
Company's activities increase, borrowings generally increase to fund the
additional activities. Availability of financing to the Company can vary
depending upon market conditions, credit ratings and the overall availability of
credit to the securities industry. The Company seeks to expand and diversify its
funding mix as well as its creditor sources. Concentration levels for these
sources, particularly for short-term lenders, are closely monitored both in
terms of single investor limits and daily maturities.
The Company monitors liquidity by tracking asset levels, collateral and funding
availability to maintain flexibility to meet its financial commitments. As a
policy, the Company attempts to maintain sufficient capital and funding sources
in order to have the capacity to finance itself on a fully collateralized basis
in the event that the Company's
32
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
access to uncollateralized financing is temporarily impaired. The Company's
liquidity management process includes a contingency funding plan designed to
ensure adequate liquidity even if access to unsecured funding sources is
severely restricted or unavailable. This plan is reviewed periodically to keep
the funding options current and in line with market conditions. The management
of this plan includes an analysis used to determine the Company's ability to
withstand varying levels of stress, including ratings downgrades, which could
impact its liquidation horizons and required margins. The Company maintains a
loan value of unencumbered securities in excess of its outstanding short-term
unsecured liabilities. In addition, the Company monitors its leverage and
capital ratios on a daily basis.
OFF-BALANCE SHEET ARRANGEMENTS
The Company is involved with several types of off-balance sheet arrangements,
including SPEs, lines and letters of credit, and loan commitments. The volume
and types of our loan commitments and lines and letters of credit are described
in the following section.
SECURITIZATIONS AND SPES
The principal uses of SPEs are to obtain sources of liquidity while reducing
credit risk by securitizing the Company's financial assets, to assist our
clients in securitizing their financial assets, or to create customized
investment products for specific investors.
SPEs may be organized as trusts, partnerships, or corporations. In a
securitization, the company transferring assets to an SPE converts those assets
into cash before they would have been realized in the normal course of business.
The SPE obtains the cash needed to pay the transferor for the assets received by
issuing securities to investors in the form of debt instruments, certificates,
commercial paper, and other notes of indebtedness. Investors usually have
recourse to the assets in the SPE, and often benefit from other enhancements,
such as a cash collateral account or overcollateraliztion in the form of excess
assets in the SPE, or from a liquidity facility. Accordingly, the SPE can
typically obtain a more favorable credit rating from rating agencies, such as
Standard and Poor's, Moody's Investors Service, or Fitch Ratings, than the
transferor could obtain for its own debt issuances, resulting in less expensive
financing costs. The cash proceeds from the sale are used for other business
purposes. The SPE may also enter into derivative contracts, typically a swap, in
order to convert the yield or currency of the underlying assets to match the
needs of the SPE's investors or limit or change the credit risk of the SPE. The
company may be the counterparty to any such derivative. The securitization
process enhances the liquidity of the financial markets, may spread credit risk
among several market participants, and makes new funds available to extend
credit to consumers and commercial entities.
33
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
CREATION OF INVESTMENT AND FINANCING PRODUCTS
The Company acts as an intermediary or agent for its corporate clients,
assisting them in obtaining sources of liquidity by selling the clients'
financial assets to an SPE.
The Company packages and securitizes assets purchased in the financial markets
in order to create new security offerings, including arbitrage CDOs and
synthetic CDOs for institutional clients and retail customers, that match the
clients' investment needs and preferences. Typically, these instruments
diversify investors' risk to a pool of assets as compared with investments in an
individual asset. The VIEs, which are issuers of CDO securities, are generally
organized as limited liability corporations. The Company typically receives fees
for structuring and/or distributing the securities sold to investors. In some
cases, the Company may repackage the investment with higher-rated debt CDO
securities or U. S. Treasury securities to provide a greater or a very high
degree of certainty, respectively, of the return of invested principal. A
third-party manager is typically retained by the VIE to select collateral for
inclusion in the pool and then actively manage it or, in other cases, only to
manage work-out credits.
The Company packages and securitizes assets purchased in the financial markets
in order to create new security offerings, including hedge funds, mutual funds,
unit investment trusts, and other investment funds, for institutional and
Citigroup's Private Banking clients as well as retail customers, that match the
clients' investment needs and preferences. The SPEs may be credit-enhanced by
excess assets in the investment pool or by third-party insurers assuming the
risks of the underlying assets, thus reducing the credit risk assumed by the
investors and diversifying investors' risk to a pool of assets as compared with
investments in individual assets. The Company typically manages the SPEs for
market-rate fees. In addition, the Company may be one of several liquidity
providers to the SPEs and may place the securities with investors.
In addition, the Company securitizes purchased mortgage loans, creating
collateralized mortgage obligations ("CMOs") and other mortgage-backed
securities ("MBSs") and distributes them to investors. In 2004 and 2003, the
Company organized 29 and 52 mortgage securitizations with assets of $23.6
billion and $64.0 billion, respectively. For 2004 and 2003, the Company's
revenues were $464 million and $418 million, respectively, and estimated
expenses were $78 million and $84 million, respectively. Expenses have been
estimated based upon a percentage of product revenues to total business
revenues.
CONTRACTUAL OBLIGATIONS
The following table includes aggregated information about the Company's
contractual obligations. These contractual obligations impact the Company's
short- and long-term liquidity and capital resource needs. The table includes
information about payments due under specified contractual obligations,
aggregated by type of contractual
34
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
obligation, including the maturity profile of the Company's consolidated
long-term debt payments and operating leases at December 31, 2004. In addition,
the Company's contractual obligations include other purchase obligations that
are enforceable and legally binding on the Company. For the purposes of the
table below, purchase obligations are included through the termination date
specified in the respective agreements even if the contract is renewable. Many
of the agreements for the purchase of goods and services include clauses that
would allow the Company to cancel the agreement prior to the expiration of the
contract within a specified notice period; however, the table includes the
Company's obligations without regard to these termination clauses (unless actual
notice of the Company's intention to terminate the agreement has been
communicated to the counterparty).
Contractual Obligations By Year
-----------------------------------------------------------
In millions of dollars 2005 2006 2007 2008 2009 Thereafter
- ---------------------- -------- ------- ------ ------ ------- ----------
Long-term debt obligations (1) $ 6,789 $ 9,786 $6,010 $5,178 $10,874 $20,670
Operating lease obligations (2) 156 152 131 106 83 178
Purchase obligations 118 50 9 2 2 --
Repurchase agreements 144,926 907 1,708 484 1,408 2,000
Investment contracts 34 9 7 -- -- 5
Other long-term liabilities
reflected on the
Company's balance sheet 2,605 40 28 18 -- --
-------- ------- ------ ------ ------- -------
Total $154,628 $10,944 $7,893 $5,788 $12,367 $22,853
======== ======= ====== ====== ======= =======
(1) For additional information about long-term debt, see Note 7 to the
Consolidated Financial Statements.
(2) For additional information about leases, see Note 8 to the Consolidated
Financial Statements.
OTHER COMMERCIAL COMMITMENTS
A summary of the Company's Other Commercial Commitments at December 31, 2004 are
as follows:
Other Commercial Total Less
Commitments Amounts than 1-3 4-5 Over 5
(Dollars in millions) Committed 1 Year Years Years Years
- --------------------- --------- ------ ----- ----- ------
Loan commitments $178 $ -- $153 $25 $--
Guarantees 219 210 9 -- --
Lines of credit 268 268 -- -- --
Other commitments 278 278 -- -- --
---- ---- ---- --- ---
Total Commercial
Commitments $943 $756 $162 $25 $--
==== ==== ==== === ===
The loan commitments in the above table primarily consist of agreements to
deliver secured financing that is more than 100% collateralized by securities
issued by G-7 governments or other highly-rated securities.
35
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
DERIVATIVE INSTRUMENTS
Derivatives are an integral element of the world's financial and commodity
markets. Globalization of economic activity has brought more market participants
in contact with foreign exchange and interest rate risk at a time when market
volatility has increased. The Company has developed many techniques using
derivatives to enhance the efficiency of capital and trading risk management.
DERIVATIVE INSTRUMENTS - OVERVIEW
Derivative instruments are contractual commitments or payment exchange
agreements between counterparties that "derive" their value from some underlying
asset, index, interest rate or exchange rate. The markets for these instruments
have grown tremendously over the past decade. A vast increase in the types of
derivative users and their motivations in using these products has resulted in
an expansion of geographic coverage, transaction volume and liquidity, and the
number of underlying products and instruments.
Derivatives have been used quite successfully by multinational corporations to
hedge foreign currency exposure, by financial institutions to manage gaps in
maturities between assets and liabilities, by investment companies to reduce
transaction costs and take positions in foreign markets without assuming
currency risk and by non-financial companies to fix the prices of inputs into
the manufacturing process or prices of the products they sell. Derivatives are
also used by investors when, considering such factors as taxes, regulations,
capital and liquidity, they provide the most efficient means of taking a desired
market position. These are just a few of the business objectives for which
derivatives are used.
Derivatives are accounted for and settled differently than cash instruments and
their use requires special management oversight. Such oversight should ensure
that management understands the transactions to which it commits their firm and
that the transactions are executed in accordance with sensible corporate risk
policies and procedures.
Derivatives activities, like the Company's other ongoing business activities,
give rise to market, credit, and operational risks. Market risk represents the
risk of loss from adverse market price movements. While market risk relating to
derivatives is clearly an important consideration for intermediaries such as the
Company, such risk represents only a component of the Company's overall market
risk, which arises from activities in non-derivative instruments as well.
Consequently, the scope of the Company's market risk management procedures
extends beyond derivatives to include all financial instruments and commodities.
Credit risk is the loss that the Company would incur if counterparties failed to
perform pursuant to their contractual obligations. While credit risk is not a
principal consideration with respect to exchange-traded instruments, it is a
major factor with respect to non-exchange-traded
36
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
OTC instruments. Whenever possible, the Company uses industry master netting
agreements to reduce aggregate credit exposure. Swap and foreign exchange
agreements are generally documented utilizing counterparty master netting
agreements supplemented by trade confirmations. The Company's funding and risk
management of its derivatives activities have been enhanced through the
increased use of bilateral security agreements. Based on notional amounts, at
December 31, 2004 and 2003, approximately 91% and 93%, respectively, of the
Company's swap portfolio (the largest component of the Company's derivative
portfolio) was subject to the bilateral exchange of collateral. See "Risk
Management" for discussions of the Company's management of market, credit, and
operational risks.
NATURE AND TERMS OF DERIVATIVE INSTRUMENTS
The Company enters into various financial contracts involving future settlement,
which are based upon a predetermined principal or par value (referred to as the
"notional" amount). Such instruments include swaps, swap options, caps and
floors, futures contracts, forward purchase and sale agreements, option
contracts and warrants. Transactions are conducted either through organized
exchanges or OTC. For a discussion of the nature and terms of these instruments
see Notes 1 and 14 to the consolidated financial statements.
THE COMPANY'S USE OF DERIVATIVE INSTRUMENTS
The Company's use of derivatives can be broadly classified between trading and
non-trading activities. The vast majority of the Company's derivatives use is in
its trading activities, which include market-making activities for customers and
the execution of trading strategies for its own account ("proprietary trading").
The Company's derivative counterparties consist primarily of other major
derivative dealers, financial institutions, insurance companies, pension funds
and investment companies, and other corporations. The scope of permitted
derivatives activities both for trading and non-trading purposes for each of the
Company's businesses is defined by senior management.
TRADING ACTIVITIES
A fundamental activity of the Company is to provide market liquidity to its
customers across a broad range of financial instruments, including derivatives.
The Company also seeks to generate returns by executing proprietary trading
strategies. By their very nature, proprietary trading activities represent the
assumption of risk. However, trading positions are constructed in a manner that
seeks to define and limit risk taking only to those risks that the Company
intends to assume. The most significant derivatives-related activity conducted
by the Company is in fixed-income derivatives, which include interest rate
swaps, financial futures, swap options, and caps and floors. Other derivative
transactions, such as currency swaps, forwards and options as well as
derivatives linked to equities, are
37
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
also regularly executed by the Company. The Company generally earns a spread
from market-making transactions involving derivatives, as it generally does from
its market-making activities for non-derivative transactions. The Company also
utilizes derivatives to manage the market risk inherent in the securities
inventories and derivative portfolios which it maintains for market-making
purposes as well as its "book" of swap agreements and related transactions with
customers. The Company conducts its commodities dealer activities in spot and
forward physical markets, organized futures exchanges as well as in OTC
financially-settled markets where the Company executes transactions involving
commodities options, forwards and swaps, much in the same manner as it does in
the financial markets.
NON-TRADING ACTIVITIES
The Company also makes use of financial derivatives for non-trading, or end
user, purposes. These instruments include interest rate swaps, cross-currency
swaps and forward currency contracts, which provide the Company with added
flexibility in the management of its capital and funding costs. Interest rate
swaps are utilized to effectively convert the majority of the Company's
fixed-rate term debt to variable-rate obligations. Cross-currency swaps are
utilized to effectively convert a portion of its non-U.S. dollar denominated
term debt to U.S. dollar denominated obligations. Forward currency contracts are
utilized to minimize the variability in equity otherwise attributable to
exchange rate movements.
For additional derivatives-related disclosures contained in the consolidated
financial statements see the following:
- Note 1 - Summary of Significant Accounting Policies
- Note 4 - Principal Transactions Revenues
- Note 7 - Term Debt
- Note 12 - Pledged Assets, Commitments, Contingencies, and
Guarantees
- Note 14 - Financial Instruments and Contractual Commitments and
Related Risks
- Note 15 - Fair Value Information
- Note 17 - Securitizations and Variable Interest Entities
38
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
RISK MANAGEMENT
----------
Effective management of the risks inherent in the Company's businesses is
critical. The following section discusses certain of the risks inherent in the
Company's businesses, procedures in place to manage such risks, and initiatives
underway to continue to enhance the Company's management of risk.
----------
MARKET RISK
Market risk represents the potential loss or decrease in economic value the
Company may incur as a result of absolute and relative price movements in
financial instruments, commodities and contractual commitments due to price
volatility, changes in yield curves, currency fluctuations and changes in market
liquidity. The Company manages aggregate market risk across both on- and
off-balance sheet products and, therefore, a separate discussion of market risk
for individual products, including derivatives, is not meaningful. See "Risk
Management - Credit Risk - Credit Exposure from Derivative Activities."
Within the Company's trading businesses, sound management of market risk has
always been a critical consideration. The sections that follow discuss
organizational elements of market risk management, as well as specific risk
management tools and techniques. The Company has sought to institutionalize
these elements across all its businesses. Efforts to further strengthen the
Company's management of market risk are ongoing and the enhancement of risk
management systems and reporting, including the development and utilization of
quantitative tools, is of major importance.
THE COMPANY'S RISK MANAGEMENT CONTROL FRAMEWORK
The Company's risk management control framework is based upon the ongoing
participation of senior management and business unit managers and the
coordinated efforts of various support units throughout the Company.
The Company's risk management efforts include the establishment of market and
credit risk controls, policies and procedures; senior management risk oversight
with thorough risk analysis and reporting; and independent risk management with
capabilities to evaluate and monitor risk limits.
VALUATION AND CONTROL OF TRADING POSITIONS
With regard to the Company's trading positions (financial instruments,
commodities and contractual commitments), the Chairman and Chief Executive
Officer determines the desired risk profile of the Company with assistance from
39
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
the Risk Management Committee. This Committee, chaired by the Senior Risk
Officer, is comprised of the Chief Executive Officer, senior business managers,
and the Chief Financial Officer and is documented by the Market Risk Officer as
Secretary. The Committee reviews appropriate levels of risk, risk capital
allocations, balance sheet and regulatory capital usage by business units and
overall risk policies and controls. An independent Global Market Risk Management
Group provides technical and quantitative analysis of the market risk associated
with trading positions to the Senior Risk Officer and the Chief Executive
Officer on a frequent basis.
Trading positions are necessary for an active market maker, but can be a major
source of liquidity risk. Monitoring the Company's trading inventory levels and
composition is the responsibility of the Global Market Risk Management Group and
various support units, which monitor trading positions on a position by position
level. Independent oversight of pricing is the responsibility of the
Controller's organization, with review by the Risk Management Group. The Company
also provides for liquidity risk by imposing markdowns for illiquid concentrated
positions. Additionally, inventory event risk, both for issuer credit and
emerging markets, is analyzed with the involvement of senior traders, economists
and credit department personnel. Market scenarios for the major emerging markets
are maintained and updated to reflect the event risk for the emerging market
positions. In addition, the Company, as a dealer of securities in the global
capital markets, has risk to issuers of fixed income securities for the timely
payment of principal and interest. Principal risk is reviewed by the Global
Market Risk Management Group, which identifies and reports major risks
undertaken by the trading businesses. The Credit Department (the "Department")
combines principal risk positions with credit risks resulting from counterparty
pre-settlement and settlement risk to review aggregate exposures by
counterparty, industry and country.
RISK LIMITS
The Company's trading businesses have implemented business unit limits on
exposure to risk factors. These limits, which are intended to enforce the
discipline of communicating and gaining approval for higher risk positions are,
by policy, set by the Senior Risk Officer. Business units may not exceed these
risk limits without prior approval from the Global Market Risk Management Group.
TOOLS FOR RISK MANAGEMENT AND REPORTING
The Company's market risk measurement begins with the identification of relevant
market risk factors. These core risk factors vary from market to market, and
region to region. Risk factors are used in three types of analysis: stress
analysis, scenario analysis and value-at-risk analysis.
40
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
STRESS ANALYSIS The Company performs stress analysis by repricing inventory
positions for specified upward and downward moves in risk factors, and computing
the revenue implications of these repricings. Stress analysis is a useful tool
for identifying exposures that appear to be relatively small in the current
environment but grow more than proportionately with changes in risk factors.
Such risk is typical of a number of derivative instruments, including options
sold, mortgage derivatives and structured products. Stress analysis provides for
the measurement of the potential impact of extremely large moves in risk
factors, which, though infrequent, can be expected to occur from time to time.
SCENARIO ANALYSIS Scenario analysis is a tool that generates forward-looking
"what-if" simulations for specified changes in market factors. For example, the
scenario analysis simulates the impact of significant changes in domestic and
foreign interest rates. The revenue implications of the specified scenario are
quantified on a business unit and geographic basis.
VALUE AT RISK ANALYSIS Value at risk ("VAR") is a statistical tool for measuring
the potential variability of trading revenue. The VAR reported is an estimate of
the potential range of loss in the market value of the trading portfolio, over a
one-day period, at the 99% confidence level, assuming a static portfolio. This
level implies that on 99 trading days out of 100, the mark-to-market of the
portfolio will likely either (1) increase in value, or (2) decrease in value by
less than the VAR estimate; and that on 1 trading day out of 100, the
mark-to-market of the portfolio will likely decrease in value by an amount that
will exceed the VAR estimate.
VAR is calculated by simulating changes in the key underlying market risk
factors (e.g., interest rates, interest rate spreads, equity prices, foreign
exchange rates, commodity prices, and option volatilities) to calculate the
potential distribution of changes in the market value of the Company's
portfolios of market risk sensitive financial instruments.
Measuring market risk using statistical risk management models has recently
become the main focus of risk management efforts by many companies whose
earnings are exposed to changes in the fair value of financial instruments.
Management believes that statistical models alone do not provide a reliable
method of monitoring and controlling risk. While VAR models are relatively
sophisticated, they have several known limitations. Most significantly, standard
VAR models do not incorporate the potential loss caused by very unusual market
events. Stress testing is necessary as a complement to VAR to measure this
potential risk.
41
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The following table summarizes the Company's VAR at the 99% confidence level,
which includes substantially all of the Company's financial assets and
liabilities which are marked-to-market, as of December 31, 2004 and 2003, along
with the 2004 daily average, high and low (based on daily VARs). The VAR
relating to accrual portfolios has been excluded from this analysis.
RISK EXPOSURES December 31, December 31,
(IN MILLIONS) 2004 2004 Average 2004 High 2004 Low 2004
- -------------- ------------ ------------ --------- -------- ------------
Interest rate $ 66 $ 92 $170 $60 $ 73
Equity 37 31 191 17 21
Commodity 17 17 26 5 7
Foreign exchange 16 10 17 6 9
Covariance adjustment (53) (51) N/A N/A (34)
---- ---- ---- --- ----
TOTAL - ALL MARKET RISK
FACTORS, INCLUDING GENERAL AND
SPECIFIC RISK $ 83 $ 99 $256 $65 $ 76
---- ---- ---- --- ----
Specific risk component 9 8 17 -- 10
---- ---- ---- --- ----
TOTAL - GENERAL MARKET FACTORS ONLY $ 74 $ 91 $239 $65 $ 66
==== ==== ==== === ====
The specific risk component represents the level of issuer-specific risk
embedded in the VAR, arising from both debt and equity securities. The Company's
specific risk model conforms with the 4x multiplier treatment approved by the
Federal Reserve and is subject to extensive hypothetical back testing (performed
on an annual basis), including many portfolios with position concentrations.
The quantification of market risk using VAR analysis requires a number of key
assumptions. In calculating VAR at December 31, 2004, the Company simulates
changes in market factors by using historical volatilities and correlations and
assuming lognormal (or sometimes normal) distributions for changes in each
market factor. VAR is calculated at the 99% confidence level, assuming a static
portfolio subject to a one-day change in market factors. The historical
volatilities and correlations used in the simulation are calculated using a look
back period of three years. VAR reflects the risk profile of the Company at
December 31, 2004 and is not a predictor of future results.
The following describes the components of market risk:
INTEREST RATE RISK
Interest rate risk arises from the possibility that changes in interest rates
will affect the value of financial instruments. In connection with the Company's
dealer and proprietary trading activities, including market-making in OTC
42
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
derivative contracts, the Company is exposed to interest rate risk arising from
changes in the level or volatility of interest rates, mortgage prepayment speeds
or the shape and slope of the yield curve. The Company's corporate bond
activities expose it to the risk of loss related to changes in credit spreads.
When appropriate, the Company attempts to hedge its exposure to interest rate
risk by entering into transactions such as interest rate swaps, options, U.S.
and non-U.S. government securities and futures and forward contracts designed to
mitigate such exposure.
EQUITY PRICE RISK
The Company is exposed to equity price risk as a consequence of making markets
in equity securities and equity derivatives. Equity price risk results from
changes in the level or volatility of equity prices, which affect the value of
equity securities, or instruments that derive their value from a particular
stock, a basket of stocks or a stock index. The Company attempts to reduce the
risk of loss inherent in its inventory in equity securities by entering into
hedging transactions, including equity options and futures, designed to mitigate
the Company's market risk profile.
COMMODITY PRICE RISK
Commodity price risk results from the possibility that the price of the
underlying commodity (principally oil, natural gas and metals) may rise or fall.
FOREIGN EXCHANGE RISK
Foreign exchange risk arises from the possibility that changes in foreign
exchange rates will impact the value of financial instruments. When the Company
buys or sells a foreign currency or financial instrument denominated in a
currency other than the local currency of the trading center, exposure exists
from a net open currency position. Until the position is covered by selling or
buying an equivalent amount of the same currency or by entering into a financing
arrangement denominated in the same currency, the Company is exposed to a risk
that the exchange rate may move against it.
CREDIT RISK
Credit risk represents the loss the Company could incur if a debtor, an issuer
or counterparty is unable or unwilling to perform on its commitments, including
the timely payment of principal and interest or settlement of swap and foreign
exchange transactions, repurchase agreements, securities purchases and sales,
and other contractual obligations. The Company's credit risk management process
considers the many factors that influence the probability of a potential loss,
including, but not limited to, the issuer's or counterparty's financial profile,
its business prospects and reputation, the specific terms and duration of the
transactions, the pledging of collateral, the exposure of the transactions to
market risk, macroeconomic developments and sovereign risk.
43
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
ORIGIN OF CREDIT RISK
In the normal course of its operations, the Company enters into various
transactions that may give rise to various types of credit risk. The different
forms of credit risk to which the Company may be exposed include:
- - LENDING CREDIT RISK: The risk that an obligor may default on principal or
interest payments of a loan.
- - ISSUER CREDIT RISK: The risk that the issuer of a security will default on
principal or interest payments. One component of the market risk of
securities and derivatives on particular securities is that caused by the
credit risk of the issuer. This component of market risk is also called the
specific risk component of market risk.
- - COUNTERPARTY CREDIT RISK: The risk that a counterparty to a trade will
default on its obligations. Counterparty credit risk takes two forms:
- SETTLEMENT RISK: The risk that a counterparty will fail to perform
during an exchange of cash or other assets. This risk arises from the
requirement, in certain circumstances, to release cash or securities
before receiving payment.
- PRE-SETTLEMENT CREDIT RISK: The risk that a counterparty to a forward,
derivative or repurchase transaction will default prior to the final
cash settlement of the transaction. The magnitude of pre-settlement
credit exposure depends on the potential market value of the contracts
and on the presence of any legally enforceable risk mitigating
agreements that have been entered into, such as netting, margin or an
option to early termination.
For both forms of counterparty credit risk, the Company sets credit limits
or requires specific approvals that attempt to anticipate the potential
exposure of transactions.
CREDIT RISK MANAGEMENT
The Senior Risk Officer, who is independent of any revenue-generating function,
manages the Department, whose professionals assess, approve, monitor, and
coordinate the extension of credit on a global basis. In considering such risk,
the Department evaluates the risk/return trade-offs as well as current and
potential credit exposures to a counterparty or to groups of counterparties that
are related because of industry, geographic, or economic characteristics. The
Department also has established various credit policies and control procedures
used singularly or in combination, depending upon the circumstances.
44
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
CREDIT RISK MANAGEMENT OF COMMODITIES-RELATED TRANSACTIONS
Credit limits for counterparties in commodities-related activities are
determined by independent credit management. Exposure reports, which contain
detailed information about cash flows with customers, goods in transit and
pre-settlement and settlement exposures, are reviewed daily.
CREDIT EXPOSURE FROM DERIVATIVE ACTIVITIES
The Company's credit exposure for swap agreements, swap options, caps and floors
and foreign exchange contracts and options at December 31, 2004, as represented
by amounts reported on the Company's consolidated statement of financial
condition, is primarily with investment grade counterparties. These amounts do
not present potential credit exposure that may result from factors that
influence market risk or from the passage of time. Severe changes in market
factors may cause credit exposure to increase suddenly and dramatically. Swap
agreements, swap options, caps and floors include transactions with both short-
and long-term periods of commitment. See Note 14 to the consolidated financial
statements for further discussion of credit exposure from derivative activities.
With respect to sovereign risk related to derivatives, credit exposure at
December 31, 2004 was primarily to counterparties in the U.S. ($5.1 billion),
United Kingdom ($4.8 billion), Cayman Islands ($.9 billion), Germany ($.9
billion), and France ($.5 billion).
OPERATIONAL RISK
As a major intermediary in financial and commodities markets, the Company is
directly exposed to market risk and credit risk which arise in the normal course
of its business activities. Slightly less direct, but of critical importance,
are risks pertaining to operational and back office support. This is
particularly the case in a rapidly changing and increasingly global environment
with increasing transaction volumes and an expansion in the number and
complexity of products in the marketplace.
Such risks include:
- - Operational/Settlement Risk - the risk of financial and opportunity loss
and legal liability attributable to operational problems, such as
inaccurate pricing of transactions, untimely trade execution, clearance
and/or settlement, or the inability to process large volumes of
transactions. The Company is subject to increased risks with respect to its
trading activities in emerging market securities, where clearance,
settlement, and custodial risks are often greater than in more established
markets.
45
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
- - Technological Risk - the risk of loss attributable to technological
limitations or hardware failure that constrain the Company's ability to
gather, process, and communicate information efficiently and securely,
without interruption, with customers, among units within the Company, and
in the markets where the Company participates.
- - Legal/Documentation Risk - the risk of loss attributable to deficiencies in
the documentation of transactions (such as trade confirmations) and
customer relationships (such as master netting agreements) or errors that
result in noncompliance with applicable legal and regulatory requirements.
- - Financial Control Risk - the risk of loss attributable to limitations in
financial systems and controls. Strong financial systems and controls
ensure that assets are safeguarded, that transactions are executed in
accordance with management's authorization, and that financial information
utilized by management and communicated to external parties, including the
Company's stockholder, creditors, and regulators, is free of material
errors.
As the preceding risks are largely interrelated, so are the Company's actions to
mitigate and manage them. The Company's Chief Administrative Officer is
responsible for, among other things, oversight of global operations and
technology. Essential elements in mitigating the risks noted above are the
optimization of information technology and the ability to manage and implement
change. To be an effective competitor in an information-driven business of a
global nature requires the development of global systems and databases that
ensure increased and more timely access to reliable data.
ENVIRONMENTAL RISK
The Company may be subject to environmental risk from two primary sources:
discontinued commodities processing and oil refining operations, and existing
energy-related transportation activities.
The Company may be subject to remedial liability as a result of
commodities-related industrial operations, which were discontinued in or prior
to 1984. Such liability arises under the Comprehensive Environmental Response,
Compensation and Liability Act of 1980, as amended ("CERCLA" or "Superfund"),
which provides that potentially responsible parties ("PRPs") may be held jointly
and severally liable for the cost of site clean-up. The Company may also be
subject to liability under state or other U.S. environmental laws. Management
believes, based upon currently known facts and established reserves, that the
ultimate disposition of these matters will not have a material adverse effect on
the Company's financial condition.
46
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
Certain of the statements contained herein that are not historical facts are
forward-looking statements within the meaning of the Private Securities
Litigation Reform Act. The Company's actual results may differ materially from
those included in the forward-looking statements. Forward-looking statements are
typically identified by words or phrases such as "believe," "expect,"
"anticipate," "intend," "estimate," "may increase," "may fluctuate" and similar
expressions or future or conditional verbs such as "will," "should," "would" and
"could". These forward-looking statements involve risks and uncertainties
including, but not limited to, the following: global economic conditions,
including the performance of global financial markets, and risks associated with
fluctuating currency values and interest rates; competitive, regulatory or tax
changes that affect the cost of or the demand for the Company's products; the
impact of the implementation of new accounting rules; the resolution of
environmental matters; and the resolution of legal and regulatory proceedings
and related matters. Readers are also directed to other risks and uncertainties
discussed in documents filed by the Company with the Securities and Exchange
Commission.
47
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
See Item 7, "Management's Discussion and Analysis of Financial Condition
and Results of Operations" above.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
See Index to Consolidated Financial Statements and Schedules on page F-1
hereof.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
Not applicable.
ITEM 9A. CONTROLS AND PROCEDURES.
DISCLOSURE 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 in recording,
processing, summarizing and reporting, on a timely basis, information required
to be disclosed by the Company in the reports that it files or submits under the
Exchange Act.
INTERNAL CONTROL OVER FINANCIAL REPORTING
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 fiscal quarter ended December 31, 2004 that have
materially affected, or are reasonably likely to materially affect, the
Company's internal control over financial reporting.
ITEM 9B. OTHER INFORMATION.
Not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
Pursuant to General Instruction I of Form 10-K, the information required by
Item 10 is omitted.
ITEM 11. EXECUTIVE COMPENSATION.
Pursuant to General Instruction I of Form 10-K, the information required by
Item 11 is omitted.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS.
Pursuant to General Instruction I of Form 10-K, the information required by
Item 12 is omitted.
48
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Pursuant to General Instruction I of Form 10-K, the information required by
Item 13 is omitted.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
The following is a description of the fees earned by KPMG, independent
registered public accounting firm for the Company, which include those fees
billed to the Company as well as those not yet billed, for services rendered to
the Company for the years ended December 31, 2004 and 2003:
AUDIT FEES: Audit fees include fees paid by the Company to KPMG in connection
with the annual audit of the Company's consolidated financial statements, KPMG's
audits of subsidiary financial statements and KPMG's review of the Company's
interim financial statements. Audit fees also include fees for services
performed by KPMG that are closely related to the audit and in many cases could
only be provided by our independent registered public accounting firm. Such
services include comfort letters and consents related to SEC registration
statements and other capital raising activities and certain reports relating to
the Company's regulatory filings, reports on internal control reviews required
by regulators, and accounting advice on completed transactions. The aggregate
fees earned by KPMG for audit services rendered to the Company and its
subsidiaries for the years ended December 31, 2004 and December 31, 2003 totaled
approximately $10.3 million and $6.7 million, respectively.
AUDIT RELATED FEES: Audit related services include due diligence services
related to contemplated mergers and acquisitions, accounting consultations,
internal control reviews not required by regulators, securitization related
services, employee benefit plan audits and certain attestation services as well
as certain agreed upon procedures. The aggregate fees earned by KPMG for audit
related services rendered to the Company and its subsidiaries for the years
ended December 31, 2004 and December 31, 2003 totaled approximately $1.1 million
and $0.8 million, respectively.
TAX FEES: Tax fees include corporate tax compliance, counsel and advisory
services. As noted below, tax counsel and advisory services will no longer be
provided by KPMG. The aggregate fees earned by KPMG for the tax related services
rendered to the Company and its subsidiaries for the years ended December 31,
2004 and December 31, 2003 totaled approximately $0.3 million and $1.0 million,
respectively.
Of the $0.3 million of tax fees earned by KPMG in 2004, approximately $0.2
million was related to tax compliance services and the balance, approximately
$0.1 million, was related to tax counsel and advisory services which will mostly
be discontinued under the new policy described below. Of the $1.0 million of tax
fees earned by KPMG in 2003, approximately $0.9 million was related to tax
compliance services and the balance, approximately $0.1 million, was related to
tax counsel and advisory services.
ALL OTHER FEES: The aggregate fees earned by KPMG for all other services
rendered to the Company and its subsidiaries for matters such as general
consulting totaled approximately $16 thousand for the year ended December 31,
2003.
The Company has not engaged KPMG for any additional non-audit services other
than those permitted under its policy unless such services were individually
approved by the Citigroup audit and risk management committee.
APPROVAL OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM SERVICES AND FEES
Citigroup's audit and risk management committee has reviewed and approved all
fees charged by the Company's independent registered public accounting firm, and
actively monitored the relationship between audit and non-audit services
provided. The audit and risk management committee has concluded that the
provision of services by KPMG was consistent with the maintenance of the
external auditors' independence in the conduct of its auditing functions.
Effective January 1, 2003, the Company adopted a policy that it would no longer
engage its primary independent registered public accounting firm for non-audit
services other than "audit related services," as defined by the SEC, certain tax
services, and other permissible non-audit services as specifically approved by
the chair of the audit and risk management committee and presented to the full
committee at its next regular meeting. The policy also includes
49
limitations on the hiring of KPMG partners and other professionals to ensure
that we satisfy the SEC's auditor independence rules.
During 2004, the following changes were made in Citigroup's policy for approval
of audit fees and services. Pre-approval of the audit and risk management
committee is required for all internal control engagements and, effective
December 31, 2004, Citigroup further restricted the scope of tax services that
may be provided by KPMG and determined that it will no longer use KPMG for tax
advisory services, including consulting and tax planning, except as related to
tax compliance services.
Under the Citigroup policy approved by the audit and risk management committee,
the committee must pre-approve all services provided by the Company's
independent registered public accounting firm and fees charged. The committee
annually considers the provision of audit services and, if appropriate,
pre-approves certain defined audit fees, audit related fees, tax fees and other
fees with specific dollar value limits for each category of service. During the
year, the committee periodically monitors the levels of KPMG fees against the
pre-approved limits. The audit and risk management committee also considers on a
case by case basis and, if appropriate, approves specific engagements that are
not otherwise pre-approved. Beginning in 2004 they also individually reviewed
internal control engagements. Any proposed engagement that does not fit within
the definition of a pre-approved service may be presented to the chair of the
audit and risk management committee for approval and to the full audit and risk
management committee at its next regular meeting.
Administration of the policy is centralized in, and monitored by, Citigroup
senior corporate financial management, which reports throughout the year to the
audit and risk management committee.
50
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
(a) Documents filed as a part of the report:
(1) Financial Statements. See Index to Consolidated Financial
Statements and Schedules on page F-1 hereof.
(2) Financial Statement Schedules. See Index to Consolidated
Financial Statements and Schedules on page F-1 hereof.
(3) Exhibits:
See Exhibit Index.
51
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION OF EXHIBIT
- ------- ----------------------
3.01 Restated Certificate of Incorporation of Citigroup Global Markets
Holdings Inc. (the "Company"), effective April 7, 2003, incorporated
by reference to Exhibit 99.1 to the Company's Current Report on Form
8-K filed on April 7, 2003 (File No. 1-4346).
3.02 By-Laws of the Company, incorporated by reference to Exhibit 4(b) to
the Company's Registration Statement on Form S-3 (No. 333-106272).
12.01+ Computation of ratio of earnings to fixed charges.
14.01 Code of Ethics, incorporated by reference to Exhibit 14.01 to the
Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 2002 (File No. 1-4346).
21.01 Pursuant to General Instruction I of Form 10-K, the list of
subsidiaries of the Company is omitted.
23.01+ Consent of KPMG LLP.
31.01+ Certification of principal executive officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
31.02+ Certification of principal financial officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
32.01+ Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002.
- ----------
+ Filed herewith.
The total amount of securities authorized pursuant to any instrument defining
rights of holders of long-term debt of the Company does not exceed 10% of the
total assets of the Company and its consolidated subsidiaries. The Company will
furnish copies of any such instrument to the SEC upon request.
Copies of any of the exhibits referred to above will be furnished at a cost of
$.25 per page to security holders who make written request therefor to Citigroup
Global Markets Holdings Inc., 388 Greenwich Street, New York, New York 10013,
Attention: Corporate Secretary.
52
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized, on the 18th day of
March, 2005.
CITIGROUP GLOBAL MARKETS HOLDINGS INC.
(Registrant)
By: /s/ Robert Druskin
------------------------------------
Robert Druskin,
Chairman, President and Chief
Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed by the following persons on behalf of the registrant and
in the capacities indicated on the 18th day of March, 2005.
SIGNATURE TITLE
--------- -----
/s/ Robert Druskin
- -------------------------------------- Chairman and Chief Executive Officer
Robert Druskin (Principal Executive Officer)
/s/ John C. Morris
- -------------------------------------- Director and Chief Financial Officer
John C. Morris (Principal Financial Officer)
/s/ William T. Bozarth
- -------------------------------------- Principal Accounting Officer
William T. Bozarth
53
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULES
PAGE
----
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM F-2
CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Statements of Operations for the years ended
December 31, 2004, 2003 and 2002 F-3
Consolidated Statements of Financial Condition as of
December 31, 2004 and 2003 F-4
Consolidated Statements of Changes in Stockholder's Equity
for the years ended December 31, 2004, 2003 and 2002 F-6
Consolidated Statements of Cash Flows for the years ended
December 31, 2004, 2003 and 2002 F-7
Notes to Consolidated Financial Statements F-8
QUARTERLY FINANCIAL DATA (UNAUDITED) F-44
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Stockholder of
Citigroup Global Markets Holdings Inc. and Subsidiaries:
We have audited the accompanying consolidated statements of financial condition
of Citigroup Global Markets Holdings Inc. and Subsidiaries (formerly Salomon
Smith Barney Holdings Inc.) (the "Company") as of December 31, 2004 and 2003,
and the related consolidated statements of operations, changes in stockholder's
equity and cash flows for each of the years in the three-year period ended
December 31, 2004. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Citigroup Global
Markets Holdings Inc. and Subsidiaries as of December 31, 2004 and 2003, and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 2004, in conformity with U.S. generally
accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements, in 2003 the
Company changed its methods of accounting for variable interest entities and
stock-based compensation and in 2002 the Company changed its methods of
accounting for goodwill and intangible assets.
/s/ KPMG LLP
New York, New York
March 18, 2005
F-2
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Dollars in millions
Year Ended December 31, 2004 2003 2002
- ----------------------- --------- ------- -------
Revenues:
Commissions $ 4,222 $ 3,749 $ 3,845
Asset management and administration fees 4,044 3,378 3,547
Investment banking 3,527 3,607 3,420
Principal transactions 846 1,886 576
Other 418 181 262
-------- ------- -------
Total non-interest revenues 13,057 12,801 11,650
-------- ------- -------
Interest and dividends 10,008 7,921 9,600
Interest expense 6,371 5,060 6,844
-------- ------- -------
Net interest and dividends 3,637 2,861 2,756
-------- ------- -------
Revenues, net of interest expense 16,694 15,662 14,406
-------- ------- -------
Non-interest expenses:
Compensation and benefits 8,852 8,008 7,425
Communications 856 633 664
Floor brokerage and other production 785 712 710
Occupancy and equipment 580 545 554
Professional services 552 384 312
Advertising and market development 383 276 289
Other operating and administrative expenses 7,081 431 1,408
Restructuring credit, net -- -- (9)
-------- ------- -------
Total non-interest expenses 19,089 10,989 11,353
-------- ------- -------
Income (loss) before income taxes and cumulative
effect of change in accounting principle (2,395) 4,673 3,053
Provision (benefit) for income taxes (954) 1,780 1,242
-------- ------- -------
Income (loss) before cumulative effect of change
in accounting principle (1,441) 2,893 1,811
Cumulative effect of change in accounting principle
(net of tax benefit of $16) -- -- (24)
-------- ------- -------
Net income (loss) ($1,441) $ 2,893 $ 1,787
======== ======= =======
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
Dollars in millions
December 31, 2004 2003
- ------------------- -------- --------
Assets:
Cash and cash equivalents $ 6,113 $ 6,312
Cash segregated and on deposit for Federal
and other regulations or deposited with clearing organizations 4,129 2,806
Collateralized short-term financing agreements:
Securities purchased under agreements to resell $120,667 $108,984
Deposits paid for securities borrowed 71,292 50,192
-------- --------
191,959 159,176
Financial instruments owned and contractual commitments:
(Approximately $100 billion and $63 billion were pledged to
various parties at December 31, 2004 and 2003)
Corporate debt securities 42,910 33,221
Equity securities 42,888 19,610
U.S. government and government agency securities 35,894 51,205
Contractual commitments 16,128 15,554
Mortgage loans and collateralized mortgage securities 13,900 8,275
Non-U.S. government and government agency securities 13,675 11,929
Municipal securities 12,389 7,736
Money market instruments 3,671 5,369
Other financial instruments 616 946
-------- --------
182,071 153,845
Receivables:
Customers 24,493 18,831
Brokers, dealers and clearing organizations 14,529 7,560
Other 3,763 2,865
-------- --------
42,785 29,256
Property, equipment and leasehold improvements, net of
accumulated depreciation and amortization of $1,210 and
$1,081, respectively 1,523 1,384
Goodwill 1,922 1,531
Intangibles 854 800
Other assets 9,246 6,151
-------- --------
Total assets $440,602 $361,261
======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
Dollars in millions, except share data
December 31, 2004 2003
- -------------------------------------- -------- --------
Liabilities and Stockholder's Equity:
Commercial paper and other short-term borrowings $ 25,970 $ 22,644
Collateralized short-term financing agreements:
Securities sold under agreements to repurchase $151,434 $135,301
Deposits received for securities loaned 25,632 19,503
-------- --------
177,066 154,804
Financial instruments sold, not yet purchased, and
contractual commitments:
Contractual commitments 24,358 18,698
U.S. government and government agency securities 19,830 16,524
Non-U.S. government and government agency securities 17,926 24,373
Corporate debt securities and other 13,358 10,593
Equity securities 9,225 4,436
-------- --------
84,697 74,624
Payables and accrued liabilities:
Customers 37,040 23,848
Brokers, dealers and clearing organizations 8,971 11,317
Other 30,394 14,660
-------- --------
76,405 49,825
Term debt 59,307 43,742
Stockholder's equity:
Common stock (par value $.01 per share 1,000 shares
authorized; 1,000 shares issued and outstanding) -- --
Additional paid-in capital 8,443 4,241
Retained earnings 8,642 11,375
Accumulated changes in equity from nonowner sources 72 6
-------- --------
Total stockholder's equity 17,157 15,622
-------- --------
Total liabilities and stockholder's equity $440,602 $361,261
======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER'S EQUITY
Accumulated
Changes In
Additional Equity From Total
Common Paid-In Retained Nonowner Stockholder's
Dollars in millions Stock Capital Earnings Sources Equity
- ------------------- ------ ---------- -------- ----------- -------------
Balance at December 31, 2001 -- 2,479 9,224 (5) 11,698
Net income 1,787 1,787
Common dividends (1,468) (1,468)
Capital contribution from Parent 500 500
Other capital transactions 37 37
Other comprehensive income 4 4
--- ------ ------- --- -------
Balance at December 31, 2002 -- 3,016 9,543 (1) 12,558
Net income 2,893 2,893
Common dividends (1,061) (1,061)
Capital contribution from Parent 1,152 1,152
Other capital transactions 73 73
Other comprehensive income 7 7
--- ------ ------- --- -------
Balance at December 31, 2003 -- 4,241 11,375 6 15,622
Net loss (1,441) (1,441)
Common dividends (1,292) (1,292)
Capital contributions from Parent 4,100 4,100
Other capital transactions 102 102
Other comprehensive income 66 66
--- ------ ------- --- -------
Balance at December 31, 2004 $-- $8,443 $ 8,642 $72 $17,157
=== ====== ======= === =======
The accompanying notes are an integral part of these consolidated financial
statements.
F-6
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Dollars in millions
Year Ended December 31, 2004 2003 2002
- ----------------------- -------- --------- --------
Cash flows from operating activities:
Net income (loss) ($ 1,441) $ 2,893 $ 1,787
Adjustments to reconcile net income (loss) to net cash used in
operating activities:
Deferred income tax provision (benefit) (2,395) 69 (25)
Depreciation and amortization 343 387 323
Cumulative effect of changes in accounting principles -- -- 24
Net change in:
Cash segregated and on deposit for Federal and other
regulations or deposited with clearing organizations (1,323) (345) 2,866
Securities borrowed or purchased under agreements to resell (32,783) (19,058) (673)
Financial instruments owned and contractual commitments (24,194) (45,265) (3,772)
Receivables (13,466) (1,645) 9,514
Other assets 754 1,159 1,983
Securities loaned or sold under agreements to repurchase 22,262 25,487 (9,851)
Financial instruments sold, not yet purchased, and
contractual commitments 6,599 13,492 5,437
Payables and accrued liabilities 26,000 16,740 (13,860)
-------- -------- --------
Net cash used in operating activities (19,644) (6,086) (6,247)
-------- -------- --------
Cash flows from financing activities:
Net increase in commercial paper and other
short-term borrowings 3,326 92 3,729
Proceeds from issuance of term debt 33,812 24,996 12,776
Term debt maturities and repurchases (19,491) (14,690) (8,207)
Dividends paid (1,292) (1,056) (1,727)
Repayment of mandatorily redeemable securities
of subsidiary trusts -- (400) --
Capital contribution from Parent 4,100 500 500
Other capital transactions -- (26) 12
-------- -------- --------
Net cash provided by financing activities 20,455 9,416 7,083
-------- -------- --------
Cash flows from investing activities:
Property, equipment, leasehold improvements and
business acquisitions (1,010) (740) (132)
-------- -------- --------
Net cash used in investing activities (1,010) (740) (132)
-------- -------- --------
Net increase (decrease) in cash and cash equivalents (199) 2,590 704
Cash and cash equivalents at beginning of year 6,312 3,722 3,018
-------- -------- --------
Cash and cash equivalents at end of year $ 6,113 $ 6,312 $ 3,722
======== ======== ========
Cash payments for interest were $5.6 billion, $5.1 billion and $7.0 billion for
the years ended December 31, 2004, 2003 and 2002, respectively.
The accompanying notes are an integral part of these consolidated financial
statements.
F-7
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The consolidated financial statements reflect the accounts of Citigroup Global
Markets Holdings Inc. (formerly Salomon Smith Barney Holdings Inc.) ("CGMHI"
and, collectively with its subsidiaries, the "Company"), a New York corporation
(the successor to Salomon Smith Barney Holdings Inc., a Delaware corporation).
The Company is a direct wholly owned subsidiary of Citigroup Inc. ("Citigroup").
The Company provides investment banking, asset management, brokerage, securities
trading, advisory and other financial services to customers, and engages in
proprietary trading activities for its own account.
The consolidated financial statements are prepared in accordance with accounting
principles generally accepted in the United States of America, which require the
use of management's best judgment and estimates. Estimates, including the fair
value of financial instruments and contractual commitments, the outcome of
litigation, realization of deferred tax assets and other matters that affect the
reported amounts and disclosures of contingencies in the consolidated financial
statements, may vary from actual results. Certain prior period amounts have been
reclassified to conform to current period presentation.
Material intercompany transactions have been eliminated in consolidation.
Long-term investments in operating joint ventures and affiliated (20% to 50%
owned) companies are carried on the equity method of accounting and are included
in "Other assets." The Company's equity in the earnings of joint ventures and
affiliates is reported in "Other" revenues.
Assets and liabilities denominated in non-U.S. dollar currencies are translated
into U.S. dollar equivalents using year-end spot foreign exchange rates.
Revenues and expenses denominated in non-U.S. dollar currencies are translated
monthly at amounts that approximate weighted average exchange rates, with
resulting gains and losses included in income. The effects of translating the
statements of financial condition of non-U.S. subsidiaries with functional
currencies other than the U.S. dollar are recorded, net of related hedge gains
and losses and income taxes, as cumulative translation adjustments, a separate
component of stockholder's equity. Hedges of such exposure include forward
currency contracts and, to a lesser extent, designated issues of non-U.S. dollar
term debt.
ACCOUNTING POLICIES
CASH AND CASH EQUIVALENTS - The Company defines "Cash and cash equivalents" as
highly liquid investments with original maturities of three months or less,
other than investments held for sale in the ordinary course of business.
CASH SEGREGATED AND ON DEPOSIT FOR FEDERAL AND OTHER REGULATIONS OR DEPOSITED
WITH CLEARING ORGANIZATIONS - Cash segregated and on deposit for Federal and
other regulations or deposited with clearing
F-8
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
organizations represent cash segregated in compliance with Federal and other
regulations and represent funds deposited by customers and funds accruing to
customers as a result of trades or contracts. Also included are funds segregated
and held in separate accounts in accordance with Section 4d(2) and Regulation
30.7 of the Commodity Exchange Act and Rule 4.3.3 of the Financial Services
Authority of the United Kingdom.
COLLATERALIZED SHORT-TERM FINANCING AGREEMENTS - Securities purchased under
agreements to resell ("reverse repurchase agreements") and securities sold under
agreements to repurchase ("repurchase agreements") are collateralized
principally by government and government agency securities and generally have
terms ranging from overnight to up to one year and are carried at their
contractual amounts, including accrued interest as specified in the respective
agreements.
It is the Company's policy to take possession of the underlying collateral,
monitor its market value relative to the amounts due under the agreements, and,
when necessary, require prompt transfer of additional collateral or a reduction
in the loan balance in order to maintain contractual margin protection. In the
event of counterparty default, the financing agreement provides the Company with
the right to liquidate the collateral held. Reverse repurchase and repurchase
agreements are reported net by counterparty, when applicable, pursuant to the
provisions of Financial Accounting Standards Board ("FASB") Interpretation No.
41, Offsetting of Amounts Related to Certain Repurchase and Reverse Repurchase
Agreements ("FIN 41"). Excluding the impact of FIN 41, reverse repurchase
agreements totaled $199.2 billion and $187.7 billion at December 31, 2004 and
2003, respectively.
Deposits paid for securities borrowed ("securities borrowed") and deposits
received for securities loaned ("securities loaned") are recorded at the amount
of cash advanced or received and are collateralized principally by government
and government agency securities, corporate debt and equity securities. The
Company monitors the market value of securities borrowed and securities loaned
daily, and additional collateral is obtained as necessary.
FINANCIAL INSTRUMENTS AND CONTRACTUAL COMMITMENTS - Financial instruments and
contractual commitments (also referred to as "derivatives" or "derivative
instruments"), are recorded at either market value or, when market prices are
not readily available, fair value, which is determined under an alternative
approach, such as matrix or model pricing. It is the Company's policy that all
models used to produce valuations for the published financial statements be
validated by qualified personnel independent from those who created the models.
The determination of market or fair value considers various factors, including:
closing exchange or over-the-counter ("OTC") market price quotations; prices of
other transactions with similarly rated counterparties; derivative transaction
maintenance costs during that period; time value and volatility factors of
underlying options, warrants and contractual commitments; price activity for
equivalent or synthetic instruments in markets located in different time zones;
counterparty credit quality; and the potential impact on market prices or fair
value of liquidating the Company's positions in an orderly manner over a
reasonable period of time under current market conditions. The fair value of
aged inventory is actively monitored and, where appropriate, is discounted to
reflect the implied illiquidity for positions that have been
available-for-immediate-sale for longer than 90 days. Financial instruments and
contractual commitments include related accrued interest or dividends.
F-9
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The majority of the Company's financial instruments and contractual commitments
are recorded on a trade date basis. Recording the remaining instruments on a
trade date basis would not materially affect the consolidated financial
statements. Customer securities transactions are recorded on a settlement date
basis with the related revenue and expense recorded on trade date. Commissions,
underwriting, and principal transaction revenues and related expenses are
recognized in income on a trade date basis. Fees for mergers and acquisition
advisory services are accrued when services for the transactions are
substantially completed.
DERIVATIVE INSTRUMENTS
Derivatives Used for Trading Purposes
Derivatives used for trading purposes include interest rate, equity, currency
and commodity swap agreements, swap options, caps and floors, options, warrants,
as well as financial and commodity futures and forward contracts. The fair
values (unrealized gains and losses) associated with contractual commitments are
reported net by counterparty, in accordance with FASB Interpretation No. 39,
"Offsetting of Amounts Relating to Certain Contracts," ("FIN 39"), provided a
legally enforceable master netting agreement exists, and are netted across
products and against cash collateral when such provisions are stated in the
master netting agreement. Contractual commitments in a net receivable position,
as well as options owned and warrants held, are reported as assets in
"Contractual commitments." Similarly, contractual commitments in a net payable
position, as well as options written and warrants issued, are reported as
liabilities in "Contractual commitments." Cash collateral received in connection
with derivative transactions totaled $6,628 million and $6,255 million at
December 31, 2004 and 2003, respectively, and cash collateral paid totaled
$7,857 million and $8,374 million, respectively. Revenues generated from
derivative instruments used for trading purposes are reported as "Principal
transactions" and include realized gains and losses as well as unrealized gains
and losses resulting from changes in the market or fair value of such
instruments. During the fourth quarter of 2002, the Company adopted EITF Issue
No. 02-3, "Issues Involved in Accounting for Derivative Contracts Held for
Trading Purposes and Contracts Involved in Energy Trading and Risk Management
Activities" ("EITF 02-3"). Under EITF 02-3, recognition of a trading profit at
inception of a derivative transaction is prohibited unless the fair value of
that derivative is obtained from a quoted market price, supported by comparison
to other observable market transactions, or based upon a valuation technique
incorporating observable market data. The Company defers trade date gains or
losses on derivative transactions where the fair value is not determined based
upon observable market transactions and market data. The deferral is recognized
in income when the market data becomes observable or over the life of the
transaction.
Margin on futures contracts is included in "Receivables - Brokers, dealers and
clearing organizations" and "Payables and accrued liabilities - Brokers, dealers
and clearing organizations" in the consolidated statement of financial
condition.
Derivatives Used for Non-Trading Purposes
The Company uses interest rate swaps to effectively convert the majority of its
fixed rate term debt to variable rate term debt. Certain interest rate swap
transactions have been designated as fair value hedges under Statement of
Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133"). Where such
F-10
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
designations have been made, the changes in the fair value of the swaps and the
gain or loss on the hedged term debt are recorded currently in the consolidated
statement of operations in "Other revenue." To the extent that these two amounts
do not offset, hedge ineffectiveness is therefore deemed to result and is
recognized in income. The Company monitors the effectiveness of interest rate
swaps designated as hedges on a daily basis.
Upon early termination of a designated hedging relationship, hedge accounting
will cease. Derivatives previously designated are then marked to market in
earnings with no offset of fair value changes from the hedged debt.
See Notes 7 and 14 to the consolidated financial statements for a further
discussion of the use of interest rate swaps for non-trading purposes.
The Company also designates forward currency contracts and non-U.S. dollar term
debt issued by the Company as hedges of net investments in certain subsidiaries
with functional currencies other than the U.S. dollar. To the extent that the
hedge is effective, the impact of marking the forward contracts to prevailing
forward rates and the impact of revaluing non-U.S. dollar term debt to
prevailing exchange rates, both net of the related tax effects, are included in
cumulative translation adjustments, a component of "Accumulated changes in
equity from nonowner sources" in the consolidated statement of financial
condition, to offset the impact of translating the investments being hedged. The
Company monitors the effectiveness of forward currency contracts designated as
hedges at least quarterly.
See Note 7 to the consolidated financial statements for a further discussion of
the use of forward currency contracts for non-trading purposes.
Derivative instruments that do not meet the criteria to be designated as hedges
are considered trading derivatives and are recorded at market or fair value.
Derivatives and Hedge Accounting
Under SFAS 133, an entity is required to recognize all freestanding and embedded
derivative instruments at fair value in earnings unless the derivative
instruments can be designated as hedges of certain exposures for which specific
hedge accounting is prescribed. If certain conditions are met, a derivative
instrument may be designated as a hedge of the fair value changes of a
recognized asset, liability or an unrecognized firm commitment; or a hedge of
the exposure to variable cash flows of a recognized asset, liability or a
forecasted transaction; or a hedge of the foreign currency exposure of a
recognized asset, liability, a net investment in a foreign operation, an
unrecognized firm commitment or a forecasted transaction. If certain conditions
are met, a non-derivative instrument may be designated as a fair value hedge of
a foreign currency denominated unrecognized firm commitment or a hedge of the
foreign currency exposure of a net investment in a foreign operation.
F-11
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the twelve months ended December 31, 2004, hedge ineffectiveness resulting
from designating interest rate swaps as fair value hedges of fixed rate term
debt was reported in the consolidated statement of operations in "Other revenue"
and was not material.
For the twelve months ended December 31, 2004 and 2003, hedges of net
investments in foreign operations were considered effective and the losses of
$18 million and $141 million, net of tax, respectively, that pertained to the
designated hedging instruments were included in cumulative translation
adjustments, a component of "Accumulated changes in equity from nonowner
sources" in the consolidated statement of financial condition.
RECEIVABLES AND PAYABLES AND ACCRUED LIABILITIES - CUSTOMERS - Receivables from
and payables to customers include amounts due on cash and margin transactions.
Securities owned by customers, including those that collateralize margin or
similar transactions are not reflected on the consolidated statement of
financial condition.
RECEIVABLES AND PAYABLES AND ACCRUED LIABILITIES - BROKERS, DEALERS AND CLEARING
ORGANIZATIONS - Receivables from brokers, dealers and clearing organizations
include amounts receivable for securities not delivered by the Company to a
purchaser by the settlement date ("fails to deliver"), margin deposits,
commissions and net receivables arising from unsettled trades. Payables to
brokers and dealers include amounts payable for securities not received by the
Company from a seller by the settlement date ("fails to receive"), and net
payables arising from unsettled trades.
PROPERTY, EQUIPMENT AND LEASEHOLD IMPROVEMENTS - Property, equipment and
leasehold improvements are carried at cost less accumulated depreciation and
amortization. Depreciation and amortization are recorded substantially on a
straight-line basis over the lesser of the estimated useful lives of the related
assets or noncancelable lease terms, as appropriate. Maintenance and repairs are
charged to "Occupancy and equipment" expense as incurred. Certain internal use
software costs are capitalized and amortized on a straight-line basis over the
lesser of the estimate useful lives of the related asset or three years.
GOODWILL - Goodwill represents an acquired company's acquisition cost less the
fair value of net tangible and intangible assets. Goodwill is subject to annual
impairment tests whereby goodwill is allocated to the Company's reporting units
and an impairment is deemed to exist if the carrying value of a reporting unit
exceeds its estimated fair value. Furthermore, on any business dispositions,
goodwill is allocated to the business disposed of based on the ratio of the fair
value of the business disposed to the fair value of the reporting unit.
SECURITIZATIONS - The Company securitizes various types of assets including
commercial and residential mortgages, high yield bonds, government, agency and
corporate securities, and municipal bonds. In connection with these activities,
the Company utilizes special purpose entities principally for (but not limited
to) the securitizations of these financial assets. The Company derecognizes
financial assets transferred in securitizations provided the Company has
relinquished control over such assets. The Company may retain an interest in the
financial assets it securitizes ("retained interests") which may include assets
in the
F-12
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
form of residual interest in the special purpose entities established to
facilitate the securitization. Any retained interests are included in "Financial
instruments owned and contractual commitments" within the consolidated statement
of financial condition. The Company values retained interests at fair value
using either financial models, quoted market prices, or sales of similar assets.
Where quoted market prices are not available, the Company estimates the fair
value of these retained interests by determining the present value of future
expected cash flows using modeling techniques that incorporate management's best
estimates of key assumptions, including prepayment speeds, credit losses, and
discount rates. Changes in the fair value of retained interests are recorded in
the consolidated statement of operations as principal transaction revenues.
For each securitization entity with which the Company is involved, the Company
makes a determination of whether the entity should be consolidated by the
Company and be included in the Company's consolidated financial statements or
whether the entity is sufficiently independent that it does not need to be
consolidated. If the securitization entity's activities are sufficiently
restricted to meet certain accounting requirements to be a qualifying special
purpose entity, the securitization entity is not consolidated by the Company as
seller of the transferred assets. If the securitization entity is determined to
be a variable interest entity ("VIE"), the Company consolidates the VIE if it is
the primary beneficiary. For all other securitizations in which the Company
participates, a consolidation decision is made by evaluating several factors,
including how much of the entity's ownership is in the hands of third party
investors, who controls the securitization entity, and who reaps the rewards and
bears the risks of the entity. Only securitization entities controlled by the
Company are consolidated (See note 17 to the consolidated financial statements
for further discussion on securitizations).
INCOME TAXES - Deferred taxes are recorded for the future tax consequences of
events that have been recognized in the consolidated financial statements or tax
returns, based upon enacted tax laws and rates. Deferred tax assets are
recognized subject to management's judgment that realization is more likely than
not. The Company and its wholly-owned domestic subsidiaries file a consolidated
Federal income tax return with its parent.
ACCOUNTING FOR STOCK-BASED COMPENSATION
Prior to January 1, 2003, the Company applied Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees," ("APB 25") and the
related interpretations in accounting for its stock-based compensation plans.
Under APB 25 there is generally no charge to earnings for employee stock option
awards because the options granted under these plans have an exercise price
equal to the market value of the underlying common stock on the grant date.
Alternatively, SFAS No. 123, "Accounting for Stock-Based Compensation" ("SFAS
123"), allows companies to recognize compensation expense over the related
service period based on the grant date fair value of the stock award. On January
1, 2003, the Company adopted SFAS 123.
F-13
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Had the Company applied SFAS 123 in accounting for all the Company's stock
option plans net income would have been the pro forma amounts indicated below:
Dollars in millions
Twelve months ended December 31, 2004 2003 2002
- -------------------------------- ------- ------ ------
Compensation expense
related to stock option As reported $ 61 $ 41 $ --
plans, net of tax Pro forma 122 142 163
Net income (loss) As reported $(1,441) $2,893 $1,787
Pro forma (1,502) 2,792 1,624
ACCOUNTING CHANGES
DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
On July 1, 2003, the Company adopted SFAS No. 149, "Amendment of Statement 133
on Derivative Instruments and Hedging Activities" ("SFAS 149"). SFAS 149 amends
and clarifies accounting for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging activities
under SFAS 133. In particular, SFAS 149 clarifies under what circumstances a
contract with an initial net investment meets the characteristics of a
derivative and when a derivative contains a financing component that warrants
special reporting in the statement of cash flows. SFAS 149 is generally
effective for contracts entered into or modified after June 30, 2003 and did not
have a material impact on the Company's consolidated financial statements.
EITF 02-3
During the fourth quarter of 2002, the Company adopted EITF 02-3. Under EITF
02-3, recognition of a trading profit at inception of a derivative transaction
is prohibited unless the fair value of that derivative is obtained from a quoted
market price, supported by comparison to other observable market transactions,
or based upon a valuation technique incorporating observable market data. The
initial adoption and ongoing effects of EITF 02-3 are not material to the
Company's consolidated financial statements.
BUSINESS COMBINATIONS AND GOODWILL AND OTHER INTANGIBLE ASSETS
On January 1, 2002, the Company adopted the remaining provisions of SFAS No.
142, "Goodwill and Other Intangible Assets" ("SFAS 142") when the rules became
effective for calendar year companies. Under the new rules, effective January 1,
2002, goodwill and intangible assets deemed to have indefinite lives are no
longer amortized, but are subject to annual impairment tests. Other intangible
assets will continue to be amortized over their useful lives. The initial
adoption resulted in a cumulative adjustment of $24 million (net of tax benefit
of $16 million) recorded as a charge to earnings related to the impairment of
certain intangible assets.
F-14
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATION OF VARIABLE INTEREST ENTITIES
On January 1, 2004, the Company adopted Financial Accounting Standards Board
("FASB") Interpretation No. 46, "Consolidation of Variable Interest Entities
(revised December 2003)" ("FIN 46-R"), which includes substantial changes from
the original FIN 46. Included in these changes, the calculation of expected
losses and expected residual returns has been altered to reduce the impact of
decision maker and guarantor fees in the calculation of expected residual
returns and expected losses. In addition, the definition of a variable interest
has been changed in the revised guidance. The cumulative effect of adopting FIN
46-R was an increase to assets and liabilities of approximately $510 million,
primarily due to certain structured finance transactions.
FIN 46 and FIN 46-R change the method of determining whether certain entities,
including securitization entities, should be included in the Company's
Consolidated Financial Statements. An entity is subject to FIN 46 and FIN 46-R
and is called a variable interest entity ("VIE") if it has (1) equity that is
insufficient to permit the entity to finance its activities without additional
subordinated financial support from other parties, or (2) equity investors that
cannot make significant decisions about the entity's operations or that do not
absorb the expected losses or receive the expected returns of the entity. All
other entities are evaluated for consolidation under Statement of Financial
Accounting Standards ("SFAS") No. 94, "Consolidation of All Majority-Owned
Subsidiaries" ("SFAS 94"). A VIE is consolidated by its primary beneficiary,
which is the party involved with the VIE that has a majority of the expected
losses or a majority of the expected residual returns or both.
For any VIEs that must be consolidated under FIN 46 that were created before
February 1, 2003, the assets, liabilities, and noncontrolling interests of the
VIE are initially measured at their carrying amounts with any difference between
the net amount added to the balance sheet and any previously recognized interest
being recognized as the cumulative effect of an accounting change. If
determining the carrying amounts is not practicable, fair value at the date FIN
46 first applies may be used to measure the assets, liabilities, and
noncontrolling interests of the VIE. In October 2003, FASB announced that the
effective date of FIN 46 was deferred from July 1, 2003 to periods ending after
December 15, 2003 for VIEs created prior to February 1, 2003. The Company
elected to implement the provisions of FIN 46 in the third quarter of 2003,
resulting in the consolidation of VIEs increasing both total assets and total
liabilities by approximately $712 million. The implementation of FIN 46
encompassed a review of thousands of entities to determine the impact of
adoption and considerable judgment was used in evaluating whether or not a VIE
should be consolidated. See Note 17 to the consolidated financial statements.
PROFIT RECOGNITION ON BIFURCATED HYBRID INSTRUMENTS
On January 1, 2004, the Company revised the application of Derivatives
Implementation Group ("DIG") Issue B6, "Embedded Derivatives: Allocating the
Basis of a Hybrid Instrument to the Host Contract and the Embedded Derivative."
In December 2003, the Securities and Exchange Commission ("SEC") staff gave a
speech which revised the accounting for derivatives embedded in financial
instruments ("hybrid instruments") to preclude the recognition of any profit on
the trade date for hybrid instruments that must be bifurcated for accounting
purposes. The trade-date profit must instead be amortized
F-15
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
over the life of the hybrid instrument, which on the average is approximately
four years. The impact of this change in application was a $178 million pre-tax
reduction in revenue, net of amortization, for the year ended December 31, 2004.
This revenue will be recognized over the life of the transactions.
GUARANTEES AND INDEMNIFICATIONS
In November 2002, FASB issued FASB Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others" ("FIN 45"), which requires that, for
guarantees within the scope of FIN 45 issued or amended after December 31, 2002,
a liability for the fair value of the obligation undertaken in issuing the
guarantee be recognized. On January 1, 2003, the Company adopted the recognition
and measurement provisions of FIN 45. The impact of adopting FIN 45 was not
material. FIN 45 also requires additional disclosures in financial statements
for periods ending after December 15, 2002. Accordingly, these disclosures are
included in Note 12 to the consolidated financial statements.
ACCOUNTING FOR STOCK-BASED COMPENSATION
On January 1, 2003, the Company adopted the fair value recognition provisions of
SFAS 123 prospectively for all awards granted, modified, or settled after
December 31, 2002. The prospective method is one of the adoption methods
provided for under SFAS No. 148, "Accounting for Stock-Based Compensation -
Transition and Disclosure," issued in December 2002. SFAS 123 requires that
compensation cost for all stock awards be calculated and recognized over the
service period (generally equal to the vesting period). This compensation cost
is determined using option pricing models intended to estimate the fair value of
the awards at the grant date. Similar to APB 25, the alternative method of
accounting, under SFAS 123 an offsetting increase to stockholder's equity is
recorded equal to the amount of compensation expense charged. During the first
quarter of 2004, the Company changed its option valuation from the Black-Scholes
model to the binomial method. The impact of this change was not material to the
Company's consolidated financial statements.
The Company, through its parent, Citigroup, has made changes to various
stock-based compensation plan provisions for future awards. For example, the
vesting period and the term of stock options granted in 2003 have been shortened
to three and six years, respectively. In addition, with certain limited
exceptions in certain overseas locations, the sale of underlying shares acquired
through the exercise of options granted in 2003 is restricted for a two-year
period. The Company, through its parent, Citigroup, continues its existing stock
ownership commitment for senior executives which requires executives to retain
at least 75% of the shares they own and acquire from the Company over the term
of their employment. Original option grants in 2003 and thereafter will not have
a reload feature; however, previously granted options will retain that feature.
Other changes may also be made that may impact the SFAS 123 adoption estimates
previously disclosed.
COSTS ASSOCIATED WITH EXIT OR DISPOSAL ACTIVITIES
On January 1, 2003, the Company adopted SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities" ("SFAS 146"). SFAS 146 requires
that a liability for costs associated with exit or disposal activities, other
than in
F-16
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
a business combination, be recognized when the liability is incurred. Previous
generally accepted accounting principles provided for the recognition of such
costs at the date of management's commitment to an exit plan. In addition, SFAS
146 requires that the liability be measured at fair value and be adjusted for
changes in estimated cash flows.
The provisions of the new standard are effective for exit or disposal activities
initiated after December 31, 2002. The impact of adopting SFAS 146 did not have
a material impact on the Company's consolidated financial statements.
LIABILITIES AND EQUITY
In May 2003, the FASB issued SFAS No. 150 "Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity" ("SFAS 150").
SFAS 150 establishes standards for how an issuer measures certain financial
instruments with characteristics of both liabilities and equity and classifies
them in its statement of financial position. It requires that an issuer classify
a financial instrument that is within its scope as a liability (or an asset in
some circumstances) when that financial instrument embodies an obligation of the
issuer. SFAS 150 is effective for financial instruments entered into or modified
after May 31, 2003, and otherwise is effective July 1, 2003, and did not have a
material impact on the Company's consolidated financial statements.
FUTURE APPLICATION OF ACCOUNTING STANDARDS
STOCK-BASED COMPENSATION
In December 2004, FASB issued SFAS No. 123 (Revised 2004), "Shared-Based
Payment" ("SFAS 123-R"), which replaces the existing SFAS 123 and supersedes APB
25. SFAS 123-R requires companies to measure and record compensation expense for
stock options and other share-based payment based on the instruments fair value.
SFAS 123-R is effective for interim and annual reporting periods beginning after
June 15, 2005. The Company will adopt SFAS 123-R on July 1, 2005 by using a
modified prospective approach which requires recognizing expense for options
granted prior to the adoption date equal to the fair value of the unvested
amounts over their remaining vesting period. The portion of these options' fair
value attributable to periods prior to the adoption of SFAS 123-R is never
recognized. For unvested stock-based awards granted before January 1, 2003 ("APB
25 Awards"), the Company will expense the fair value of the awards as at the
grant date over the remaining vesting period. The impact of recognizing
compensation expense for the unvested APB 25 Awards will be approximately $10
million and $9 million of additional expense in the third and fourth quarters of
2005, respectively. In addition, approximately $17 million of additional
compensation expense will be disclosed as the impact in both the first and
second quarters of 2005, as if the standard had been adopted as of January 1,
2005, but will not be recognized in earnings. The Company continues to evaluate
other aspects of adopting SFAS 123-R.
F-17
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 2. RESTRUCTURING CREDIT
In the third quarter of 2002, the Company recorded an adjustment of $9 million
($5 million after tax) to the restructuring reserve, which was recorded in 2001.
The adjustment relates to severance related costs, which were lower than
originally anticipated. At December 31, 2002, this reserve had been fully
charged off.
NOTE 3. COMPREHENSIVE INCOME
Comprehensive income represents the sum of net income and other changes in
stockholder's equity from nonowner sources which, for the Company, are comprised
of cumulative translation adjustments and unrealized gains and losses on certain
investments held by equity method investees, net of tax:
Dollars in Millions
Year Ended December 31, 2004 2003 2002
- ----------------------- -------- ------ ------
Net income (loss) ($1,441) $2,893 $1,787
Other changes in equity from non-owner sources 72 7 4
======= ====== ======
Total comprehensive income ($1,369) $2,900 $1,791
======= ====== ======
NOTE 4. PRINCIPAL TRANSACTIONS REVENUES
The following table presents principal transactions revenues by business
activity for the years ended December 31, 2004, 2003 and 2002:
Dollars in millions
Year Ended December 31, 2004 2003 2002
- ----------------------- ----- ------ ----
Fixed income $ 848 $1,711 $499
Commodities 472 108 62
Equities (499) 105 45
Other 25 (38) (30)
----- ------ ----
Total principal transactions revenues $ 846 $1,886 $576
===== ====== ====
FIXED INCOME Fixed income revenues include realized and unrealized gains and
losses arising from the proprietary and customer trading of government and
government agency securities, investment and non-investment grade corporate
debt, municipal securities, preferred stock, mortgage securities (primarily U.S.
government agencies, including interest only and principal only strips), and
emerging market fixed income securities and derivatives. Revenues also include
realized and unrealized gains and losses arising from the spot and forward
trading of currencies and exchange-traded and OTC currency options. Revenues
also included realized and unrealized gains and losses from changes in the
market or fair value of options
F-18
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
on fixed income securities, interest rate swaps, currency swaps, swap options,
caps and floors, financial futures, options and forward contracts on fixed
income securities are reflected as fixed income revenue.
COMMODITIES The Company, through its wholly owned subsidiaries, including Phibro
Inc. (collectively with its subsidiaries "Phibro"), conducts a commodities
trading and dealer business. Commodities traded include crude oil, refined oil
products, natural gas, metals and various soft commodities. Commodity revenues
consist of realized and unrealized gains and losses from trading these
commodities and related derivative instruments.
EQUITIES Revenues from equities consist of realized and unrealized gains and
losses arising from proprietary and customer trading of U.S. and non-U.S. equity
securities, including common and convertible preferred stock, convertible
corporate debt, equity-linked notes, equity swaps and exchange-traded and OTC
equity options and warrants.
NOTE 5. SEGMENT INFORMATION
The Company's reportable segments include Investment Services, Private Client
Services and Asset Management. The Investment Services segment includes
investment banking and trading, as well as related derivative and commodity
trading. The Company's global investment banking services encompass a full range
of capital market activities, including the underwriting and distribution of
debt and equity securities for United States and foreign corporations and for
state, local and other governmental and government sponsored authorities.
Investment Services executes securities and commodities futures brokerage
transactions on all major exchanges on behalf of its customers and its own
account. Investment services engages in principal transactions in fixed income
securities and is a major participant in the OTC market for various derivative
instruments. The segment earns commissions as a broker for its clients in the
purchase and sale of securities.
Private Client Services provides investment advice and financial planning and
brokerage services, primarily through the network of the Company's Financial
Consultants. A significant portion of Private Client Services' revenue is
generated from the commissions earned as a broker for its clients in the
purchase and sale of securities as well as fees earned by managing client
assets. Private Client Services generates additional revenue by financing
customers' securities transactions through secured margin lending. Private
Client Services also receives commissions and other sales and service revenues
through the sale of proprietary mutual funds and third-party mutual funds. As
part of Private Client Services, Global Equity Research creates equity research
to serve both institutional and individual investor clients and as such the
group's expenses are allocated primarily to the Global Equities and Global
Private Client businesses.
The Asset Management segment provides discretionary and non-discretionary asset
management services to a wide array of mutual funds and institutional and
individual investors, with respect to domestic and foreign equity and debt
securities, municipal bonds, money market instruments and related options and
futures contracts. The segment receives ongoing fees, generally determined as a
percentage of the client's assets, from asset management clients.
F-19
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Segment data presented includes the allocation of all corporate overhead.
Inter-segment revenues and expenses have been eliminated. Information concerning
operations in the Company's business segments is as follows:
Year ended December 31,
Dollars in millions 2004 2003 2002
- ----------------------- -------- -------- --------
Revenues, net of interest expense:
Investment Services $ 9,155 $ 8,908 $ 7,513
Private Client Services 6,303 5,700 5,736
Asset Management 1,236 1,054 1,157
-------- -------- --------
Total $ 16,694 $ 15,662 $ 14,406
======== ======== ========
Total expenses:
Investment Services $ 13,102 $ 5,767 $ 6,154
Private Client Services 4,990 4,552 4,536
Asset Management 997 670 663
-------- -------- --------
Total $ 19,089 $ 10,989 $ 11,353
======== ======== ========
Net income (loss):
Investment Services $ (2,349) $ 1,951 $ 759
Private Client Services 793 705 753
Asset Management 115 237 275
-------- -------- --------
Total $ (1,441) $ 2,893 $ 1,787
======== ======== ========
Year-end total assets:
Investment Services $422,695 $345,950 $278,462
Private Client Services 15,987 13,601 11,884
Asset Management 1,920 1,710 1,645
-------- -------- --------
Total $440,602 $361,261 $291,991
======== ======== ========
F-20
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table summarizes the Company's operations by geographic areas
which are determined principally by the respective legal jurisdictions of
CGMHI's subsidiaries. Substantially all amounts for the asset management segment
are included in North America. For purposes of this disclosure, North America
consists of the United States and Canada; Europe primarily consists of the
United Kingdom and Germany; and Asia and other primarily consists of Japan, Hong
Kong and Australia. Because of the global nature of the markets in which the
Company competes and the integration of the Company's worldwide business
activities, the Company believes that amounts determined in this manner are not
particularly useful in understanding its business.
Income (loss) Before
Income Taxes and
Revenues Cumulative Effect of
Before Interest Changes in Accounting Year End
Dollars in millions Expense Principles Total Assets
- ------------------- --------------- --------------------- ------------
Year Ended December 31, 2004
North America $17,109 ($2,262) $307,944
Europe 4,449 (561) 121,678
Asia and other 1,507 428 10,980
------- -------- --------
Consolidated $23,065 ($2,395) $440,602
======= ======== ========
Year Ended December 31, 2003
North America $15,246 $ 4,221 $261,209
Europe 4,686 291 91,922
Asia and other 790 161 8,130
------- -------- --------
Consolidated $20,722 $ 4,673 $361,261
======= ======== ========
Year Ended December 31, 2002
North America $16,583 $ 2,920 $217,169
Europe 3,932 21 70,895
Asia and other 735 112 3,927
------- -------- --------
Consolidated $21,250 $ 3,053 $291,991
======= ======== ========
F-21
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6. COMMERCIAL PAPER AND OTHER SHORT-TERM BORROWINGS
Information regarding the Company's short-term borrowings used to finance
operations, including the securities settlement process, is presented below.
Average balances were computed based on month-end outstanding balances.
Dollars in millions
Year Ended December 31, 2004 2003
- ----------------------- ------- -------
Bank borrowings:
Balance at year-end $ 1,427 $ 918
Weighted average interest rate 3.3% 1.7%
Annual averages --
Amount outstanding $ 1,802 $ 1,372
Weighted average interest rate 2.5% 2.6%
Maximum amount outstanding at any month-end $ 3,226 $ 2,085
------- -------
Commercial paper:
Balance at year-end $17,368 $17,626
Weighted average interest rate 2.3% 1.1%
Annual averages --
Amount outstanding $19,579 $15,872
Weighted average interest rate 1.4% 1.2%
Maximum amount outstanding at any month-end $21,005 $19,216
------- -------
Other short-term borrowings:
Balance at year-end $ 7,175 $ 4,100
Weighted average interest rate 2.3% 3.1%
Annual averages --
Amount outstanding $ 5,529 $ 4,088
Weighted average interest rate 2.0% 4.5%
Maximum amount outstanding at any month-end $ 7,176 $ 6,405
======= =======
Total commercial paper and other short term borrowings $25,970 $22,644
======= =======
Outstanding bank borrowings include both U.S. dollar and non-U.S. dollar
denominated loans. The non-U.S. dollar loans are denominated in various
currencies including Japanese yen, EURO, and U.K. sterling. All of the Company's
commercial paper outstanding at December 31, 2004 and 2003 was U.S. dollar
denominated. Included in "other short-term borrowings" at December 31, 2004 was
$171 million of borrowings with Citigroup and certain of its affiliates bearing
interest at various rates.
The Company has 364-day committed uncollateralized revolving line of credit
facilities with unaffiliated banks totaling $3.3 billion. These facilities have
a two-year term-out provision with any borrowings maturing on various dates
through 2007. The Company also has three-year facilities totaling $1.4 billion
with unaffiliated banks with any borrowings maturing on various dates in 2007.
The Company may borrow under these revolving credit facilities at various
interest rate options (LIBOR, Fed Funds or base rate) and compensates the banks
for these facilities through facility fees. At December 31, 2004, there were no
outstanding borrowings under these facilities. The Company also has committed
long-term financing facilities with
F-22
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
unaffiliated banks. At December 31, 2004, the Company had drawn down the full
$1.5 billion then available under these facilities. A bank can terminate these
facilities by giving the Company prior notice (generally one year). The Company
compensates the banks for these facilities through facility fees. Under all of
these facilities, the Company is required to maintain a certain level of
consolidated adjusted net worth (as defined in the agreements). At December 31,
2004, this requirement was exceeded by approximately $6.8 billion. The Company
also has substantial borrowing arrangements consisting of facilities that the
Company has been advised are available, but where no contractual lending
obligation exists. These arrangements are reviewed on an ongoing basis to ensure
flexibility in meeting the Company's short-term requirements.
NOTE 7. TERM DEBT
Term debt consists of issues with original maturities in excess of one year.
Certain issues are redeemable, in whole or in part, at par or at premiums prior
to maturity.
Equity-
Fixed Rate Fixed Rate Variable Linked &
Obligations Obligations Total Rate Indexed Total Total
Swapped to Not Fixed Rate Obligations Obligations December December
Dollars in millions Variable Converted Obligations (1) (2)(3) 31, 2004 31, 2003
- ------------------- ----------- ----------- ----------- ----------- ----------- -------- --------
U.S. dollar denominated:
Citigroup Global Markets
Holdings Inc. (CGMHI) $ 6,985 $118 $ 7,103 $23,726 $ 3,435 $34,264 $25,664
Subsidiaries 49 528 577 1,559 6,478 8,614 6,321
------- ---- ------- ------- ------- ------- -------
U.S. dollar denominated 7,034 646 7,680 25,285 9,913 42,878 31,985
------- ---- ------- ------- ------- ------- -------
Non-U.S. dollar denominated:
Citigroup Global Markets
Holdings Inc. (CGMHI) 4,413 -- 4,413 2,782 734 7,929 6,165
Subsidiaries -- -- -- 429 8,071 8,500 5,592
------- ---- ------- ------- ------- ------- -------
Non-U.S. dollar denominated 4,413 -- 4,413 3,211 8,805 16,429 11,757
------- ---- ------- ------- ------- ------- -------
Term debt $11,447 $646 $12,093 $28,496 $18,718 $59,307 $43,742
======= ==== ======= ======= ======= ======= =======
(1) Variable rate obligations includes $14.1 billion of debt with Citigroup, of
which $3 billion is subordinated.
(2) Includes Targeted Growth Enhanced Term Securities ("TARGETS") with carrying
values of $564 million issued by TARGETS Trusts XIII through XXIII at
December 31, 2004 and $541 million issued by TARGETS Trusts VIII through
XIX at December 31, 2003 (collectively, the "Trusts"). The Company owns all
of the voting securities of the Trusts which are consolidated in the
Company's consolidated statements of financial condition. The Trusts have
no assets, operations, revenues or cash flows other than those related to
the issuance, administration, and repayment of the TARGETS and the Trusts'
common securities. The Trusts' obligations under the TARGETS are fully and
unconditionally guaranteed by the Company.
(3) Approximately $17 billion of debt is included based on the requirements of
certain accounting pronouncements, primarily FIN 46, SFAS 133 and SFAS No.
140, "Accounting for Transfers and Servicing of Financial Assets and
Liabilities, a replacement of FASB Statement No. 125".
F-23
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The maturity structure of the Company's term debt was as follows at December 31,
2004:
Citigroup Global Markets
Holdings Inc.
Dollars in millions (CGMHI) Subsidiaries Total
- ------------------- ------------------------ ------------ -------
2005 $ 6,217 $ 572 $ 6,789
2006 7,029 2,757 9,786
2007 4,255 1,755 6,010
2008 2,350 2,828 5,178
2009 5,655 5,219 10,874
Thereafter 16,687 3,983 20,670
------- ------- -------
Total $42,193 $17,114 $59,307
======= ======= =======
The Company issues U.S. dollar and non-U.S. dollar denominated fixed and
variable rate term debt. The contractual interest rates on fixed rate debt
ranged from 0.05 % (Japanese yen denominated) to 9.18% (U.S. dollar denominated)
at December 31, 2004 and from .01% (Japanese yen denominated) to 12% (U.S dollar
denominated) at December 31, 2003. The weighted average contractual rate on
total fixed rate term debt (both U.S. dollar denominated and non-U.S. dollar
denominated) was 4.21% at December 31, 2004 and 4.9% at December 31, 2003. The
Company utilizes interest rate swap agreements to convert most of its fixed rate
term debt to variable rate obligations. The maturity structure of the swaps
generally corresponds with the maturity structure of the debt being hedged.
The Company's non-U.S. dollar fixed and variable rate term debt includes
Australian dollar, Canadian dollar, Swiss franc, Danish Krone, Euro, U.K.
sterling, Hong Kong dollar, Japanese yen, Korean Won, Swedish Krona, Singapore
Dollar, Slovak Korune and, consequently, bears a wide range of interest rates.
At December 31, 2004, the Company had outstanding approximately $16.4 billion of
non-U.S. dollar denominated term debt, which included $8.8 billion of Euro, $5.1
billion of Japanese yen denominated, $1.4 billion of U.K. sterling denominated,
$0.4 billion of Australian dollar denominated, $0.3 billion of Swedish Krona
denominated, $0.1 billion of Swiss Franc denominated and $0.1 billion of
Hong-Kong dollar denominated. Of the $16.4 billion, approximately $0.4 billion
of CGMHI Japanese yen denominated debt has been designated as a hedge of net
investments in certain subsidiaries with functional currencies other than the
U.S. dollar. Another $1.7 billion of CGMHI debt has been effectively converted
to U.S. dollar denominated obligations using cross-currency swaps. The remaining
$14.3 billion is used to finance other non-U.S. denominated assets.
F-24
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table summarizes the significant components of the Company's fixed
rate term debt that is converted to variable rate obligations at December 31,
2004 and 2003.
2004 2003
-------------------------------------------- ---------------------------------------------
Contractual Contractual
Weighted Weighted Weighted
Average Fixed Average Average Fixed Weighted Average
Rate on Variable Rate Rate on Variable Rate
Principal Swapped Fixed on Swapped Term Principal Swapped Fixed on Swapped Term
(Dollars in millions) Balance Rate Term Debt Debt Balance Rate Term Debt Debt
- --------------------- --------- -------------- --------------- --------- -------------- ----------------
U.S. dollar $7,033 5.0% 3.0% $6,349 6.1% 2.0%
Japanese yen 1,704 1.0 0.2 1,362 2.5 0.2
Japanese yen swapped to
U.S. dollar 576 2.0 0.4 688 3.0 0.3
Euro 1,825 3.6 2.4 722 3.6 2.3
U.K. sterling 44 2.8 4.9 135 7.8 4.3
Swedish Krona 154 3.7 2.2 -- -- --
The interest rates on variable rate term debt ranged from 0.05% (Japanese yen
denominated) to 6.3% (Australian dollar denominated) at December 31, 2004 and
from 0.01% (Japanese yen denominated) to 9.13% (U.S. dollar denominated) at
December 31, 2003. The weighted average contractual rates on total variable rate
term debt (both U.S. dollar denominated and non-U.S. denominated) was 2.52% and
1.72% at December 31, 2004 and 2003, respectively.
The following table summarizes the significant components of the Company's
variable rate term debt that is swapped at December 31, 2004 and 2003:
2004 2003
----------------------------------------- -----------------------------------------
Contractual Contractual
Weighted Weighted Weighted Weighted
Average Rate Average Average Rate Average
on Swapped Variable Rate on Swapped Variable Rate
Principal Variable Rate on Swapped Principal Variable Rate on Swapped
(Dollars in millions) Balance Term Debt Term Debt Balance Term Debt Term Debt
- ------------------------ --------- ------------- ------------- --------- ------------- -------------
U.S. dollar $1,764 2.9% 2.5% $153 1.6% 1.2%
Euro swapped to
U.S. dollar 100 2.8 2.5 92 2.6 1.5
Swedish Krona swapped to
U.S dollar 166 2.2 2.2 -- -- --
Term debt includes subordinated debt, which totaled $3.1 billion at December 31,
2004 and $130 million at December 31, 2003. Included in term debt at December
31, 2004, was $14.1 billion of U.S. dollar denominated variable rate debt with
Citigroup. This debt bears interest at rates ranging from 2.42% to 3.22% and
matures on various dates in 2009 and 2014.
The Company has 364-day committed uncollateralized revolving line of credit
facilities with unaffiliated banks totaling $3.3 billion. These facilities have
a two-year term-out provision with any borrowings maturing on various dates
through 2007. The Company also has three-year facilities totaling $1.4 billion
with unaffiliated banks with any borrowings maturing on various dates in 2007.
The Company may borrow under these revolving credit facilities at various
interest rate options (LIBOR, Fed Funds or base rate) and compensates the banks
for these facilities through facility fees. At December 31, 2004, there were no
outstanding borrowings under these facilities. The Company also has committed
long-term financing facilities with unaffiliated banks. At December 31, 2004,
the Company had drawn down the full $1.5 billion then available under these
facilities. A bank can terminate these facilities by giving the Company prior
notice (generally one year). The Company compensates the banks for these
facilities through facility fees. Under all of these facilities, the Company is
required to
F-25
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
maintain a certain level of consolidated adjusted net worth (as defined in the
agreements). At December 31, 2004, this requirement was exceeded by
approximately $6.8 billion. The Company also has substantial borrowing
arrangements consisting of facilities that the Company has been advised are
available, but where no contractual lending obligation exists. These
arrangements are reviewed on an ongoing basis to ensure flexibility in meeting
the Company's short-term requirements.
NOTE 8. LEASE COMMITMENTS
The Company has noncancelable leases covering office space and equipment
expiring on various dates through 2017. Presented below is a schedule of minimum
future rentals on noncancelable operating leases, net of subleases, as of
December 31, 2004. Various leases contain provisions for lease renewals and
escalation of rent based on increases in certain costs incurred by the lessors.
Dollars in millions
- -------------------
2005 $156
2006 152
2007 131
2008 106
2009 83
Thereafter 178
----
Minimum future rentals $806
====
Rent expense totaled $444 million, $442 million, and $475 million for the years
ended December 31, 2004, 2003, and 2002, respectively.
NOTE 9. CAPITAL REQUIREMENTS
Certain U.S. and non-U.S. broker/dealer subsidiaries are subject to various
securities and commodities regulations and capital adequacy requirements
promulgated by the regulatory and exchange authorities of the countries in which
they operate. Capital requirements related to the Company's principal regulated
subsidiaries are as follows:
Net Capital
(U.S.) or
Financial Excess over
Dollars in millions Resources minimum
Subsidiary Jurisdiction (U.K.) requirement
- ------------------- ----------------------------------------------- ----------- -----------
Citigroup Global Markets Inc. U.S. Securities and Exchange Commission Uniform $4,488 $3,879
Net Capital Rule (Rule 15c3-1)
Citigroup Global Markets Limited United Kingdom's Financial Services Authority $7,356 $1,904
Advances, dividend payments and other equity withdrawals from regulated
subsidiaries are restricted by the regulations of the U.S. Securities and
Exchange Commission, the New York Stock Exchange and other regulatory agencies
and by certain
F-26
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
covenants contained in the Company's revolving credit facilities. See Notes 6
and 7 to the consolidated financial statements. These restrictions may limit the
amounts that these subsidiaries pay as dividends or advances to the Company.
In addition, in order to maintain its triple-A rating, Salomon Swapco Inc.
("Swapco"), an indirect wholly owned subsidiary of the Company, must maintain
minimum levels of capital in accordance with agreements with its rating
agencies. At December 31, 2004, Swapco was in compliance with all such
agreements. Swapco's capital requirements are dynamic, varying with the size and
concentration of its counterparty receivables.
NOTE 10. EMPLOYEE BENEFIT AND INCENTIVE PLANS
RETIREMENT PLANS
The Company participates in defined benefit pension plans through Citigroup that
cover certain U.S. and non-U.S. employees. These plans resulted in expenses of
$170 million, $103 million, and $60 million in 2004, 2003, and 2002,
respectively. The Company has defined contribution employee savings plans
through Citigroup covering certain eligible employees. The costs relating to
these plans were $18 million, $16 million, and $17 million in 2004, 2003, and
2002, respectively.
HEALTH CARE AND LIFE INSURANCE
The Company participates in various benefit plans through Citigroup which
provide certain health care and life insurance benefits for its active
employees, qualifying retired U.S. employees and certain non-U.S. employees who
reach the retirement criteria specified by the various plans. At December 31,
2004, there were approximately 33,200 active and 1,900 retired employees
eligible for such benefits.
Expenses recorded for health care and life insurance benefits from continuing
operations were $208 million, $188 million, and $180 million in 2004, 2003, and
2002, respectively.
INCENTIVE PLANS
The Company, through Citigroup, has adopted a number of equity compensation
plans under which it administers stock options, restricted/deferred stock and
stock purchase programs to attract, retain, and motivate officers and employees,
to compensate them for their contributions to the growth and profits of the
Company, and to encourage employee stock ownership. All of these plans are
administered by the Personnel and Compensation of the Citigroup Board of
Directors, which is comprised entirely of independent non-employee directors.
PRO FORMA EFFECT OF SFAS 123
Prior to January 1, 2003, the Company applied APB 25 and the related
interpretations in accounting for its stock-based compensation plans. Under APB
25 there is generally no charge to earnings for employee stock option awards
because the options granted under these plans have an exercise price equal to
the market value of the underlying common stock on the grant date. Alternatively
SFAS 123 allows companies to recognize compensation expense over the related
service period based on the grant-date fair value of the stock award. Refer to
Note 1 for a further description of these accounting standards and a
presentation of the effect on net income had the Company applied SFAS 123 in
accounting for the Company's stock
F-27
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
option plans. The pro forma adjustments relate to stock options granted from
1995 through 2002, for which the fair value on the date of the grant was
determined using a Black-Scholes option pricing model. In accordance with SFAS
123, no effect has been given to options granted prior to 1995. The fair values
of stock-based awards are based on assumptions that were determined at the grant
date.
SFAS 123 requires that reload options be treated as separate grants from the
related original grants. Under the Company's reload program, upon exercise of an
option, employees use previously owned shares to pay the exercise price and
surrender shares otherwise to be received for related tax withholding, and
receive a reload option covering the same number of shares used for such
purposes. Reload options vest at the end of a six month period. Reload options
are intended to encourage employees to exercise options at an earlier date and
to retain the shares so acquired, in furtherance of the Company's long standing
policy of encouraging increased employee stock ownership. The result of this
program is that employees generally will exercise options as soon as they are
able and, therefore these options have shorter expected lives. Shorter option
lives result in lower valuations. However, such values are expensed more quickly
due to the shorter vesting period of reload options. In addition, since reload
options are treated as separate grants, the existence of the reload feature
results in a greater number of options being valued.
Shares received through option exercises under the reload program, as well as
certain other options granted, are subject to restrictions on sale. Discounts
have been applied to the fair value of options granted to reflect these sale
restrictions. The following assumptions were used to calculate the effect of
SFAS 123. For 2004, the Company utilized a binomial model to value stock
options. For 2003 and prior grants, the Black Scholes valuation model was
utilized:
Assumptions 2004 2003 2002
- ----------- ------ ----- -----
Expected volatility 26.0% 37.7% 37.2%
Risk-free interest rate 2.84% 2.00% 3.90%
Weighted average dividend yield 2.96% -- --
Expected annual dividends per share prior to July 14, 2003 -- $0.92 $0.92
Expected annual dividends per share on or
after July 14, 2003 -- $1.54 --
Expected annual forfeiture rate -original & reload grants 7% 7% 7%
Expected annual forfeiture rate-Stock Purchase Program
Grants 10% 10% --
RESTRICTED STOCK PLANS
The Company has various restricted stock plans through Citigroup, including the
Capital Accumulation Plan, under which stock of Citigroup is issued in the form
of restricted stock to participating officers and employees. The restricted
stock generally vests after a two- or three-year period. Except under limited
circumstances, during the vesting period the stock cannot be sold or transferred
by the participant, and is subject to total or partial cancellation if the
participant's employment is terminated. Certain participants may elect to
receive part of their awards in restricted stock and part in stock options.
Unearned compensation associated with the restricted stock grants is included in
"Other assets" in the consolidated statement
F-28
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
of financial condition and represents the market value of Citigroup common stock
at the date of grant and is recognized as a charge to income ratably over the
vesting period. These plans resulted in expenses of $1,085 million, $1,174
million, and $1,111 million for the years ended December 31, 2004, 2003, and
2002, respectively.
NOTE 11. INCOME TAXES
Under income tax allocation agreements with Citigroup, the Company's U.S.
federal, state and local income taxes are provided on a separate return basis
and are subject to the utilization of tax attributes in Citigroup's consolidated
income tax provision. Under the tax sharing agreement with Citigroup, the
Company remits its current tax liabilities to Citigroup throughout the year
except for certain liabilities expected to be payable as a separate taxpayer.
The components of income taxes reflected on the consolidated statements of
operations are:
Dollars in millions
Year Ended December 31, 2004 2003 2002
- ----------------------- ------- ------ ------
Current tax provision:
U.S. federal $ 1,067 $1,294 $ 972
State and local 193 285 261
Non-U.S 181 132 34
------- ------ ------
Total current tax provision 1,441 1,711 1,267
------- ------ ------
Deferred tax provision/(benefit):
U.S. federal (2,050) 95 (91)
State and local (321) 38 24
Non-U.S (24) (64) 42
------- ------ ------
Total deferred tax provision/(benefit) (2,395) 69 (25)
------- ------ ------
Provision (Benefit) for income taxes $ (954) $1,780 $1,242
======= ====== ======
Under SFAS 109, "Accounting for Income Taxes," temporary differences between
recorded amounts and the tax bases of assets and liabilities are measured using
the enacted tax rates and laws that will be in effect when such differences are
expected to reverse.
F-29
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
At December 31, 2004 and December 31, 2003, respectively, the Company's
consolidated statements of financial condition included net deferred tax assets
of $3,054 million and $960 million, comprised of the following:
Dollars in millions
Year Ended December 31, 2004 2003
- ----------------------- ------ ------
Deferred tax assets:
Employee benefits and deferred compensation $ 746 $1,023
Restructuring and settlement reserves 2,923 319
U.S. taxes provided on the undistributed earnings of
non-U.S subsidiaries 115 41
Cumulative translation adjustments 17 17
Other deferred tax assets 132 372
------ ------
Total deferred tax assets 3,933 1,772
------ ------
Deferred tax liabilities:
Intangible assets (342) (269)
Investment position activity (40) (48)
Lease obligations and fixed assets (338) (360)
Other deferred tax liabilities (159) (135)
------ ------
Total deferred tax liabilities (879) (812)
------ ------
Net deferred tax asset $3,054 $ 960
====== ======
The Company had a deferred tax valuation allowance of $0.6 million and $0.5
million at December 31, 2004 and 2003, respectively.
Management believes that the realization of the recognized net deferred tax
asset of $3,054 million is more likely than not based on existing carryback
ability and expectations as to future taxable income in the jurisdictions in
which it operates. Under a tax sharing agreement with Citigroup, the Company is
entitled to a current benefit if it incurs losses which are utilized in
Citigroup's consolidated return. Citigroup, which has a history of strong
earnings, has reported pretax financial statement income from continuing
operations of approximately $24 billion, on average, over the last three years.
Tax benefits (liabilities) allocated directly to stockholder's equity were as
follows:
Dollars in millions
Year Ended December 31, 2004 2003 2002
- ----------------------- ---- ---- ----
Foreign currency translation $(22) $19 $ 5
Other comprehensive income (4) (5) --
Employee stock plans 50 35 18
---- --- ---
Total tax benefits allocated directly to
stockholder's equity $ 24 $49 $23
==== === ===
The Company paid taxes of $1.7 billion, $1.5 billion and $2.1 billion in 2004,
2003 and 2002, respectively. As a result of the September 11, 2001 terrorist
attack, the United States Internal Revenue Service allowed affected taxpayers,
including the Company, to postpone year 2001's third and fourth quarter
estimated tax payments until January 15, 2002.
F-30
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Foreign pretax earnings approximated $(130.3) million in 2004, $474.1 million in
2003, and $104.8 million in 2002. As a U.S. corporation, Citigroup and its U.S.
subsidiaries are subject to U.S. taxation currently on all foreign pretax
earnings earned by a foreign branch. Pretax earnings of a foreign subsidiary or
affiliate are subject to U.S. taxation when effectively repatriated. The Company
provides income taxes on the undistributed earnings of foreign subsidiaries
except to the extent that such earnings are indefinitely invested outside the
United States. At December 31, 2004, $1.6 billion of accumulated undistributed
earnings of non-U.S. subsidiaries were indefinitely invested. At the existing
U.S. federal income tax rate, additional taxes of $458 million would have to be
provided if such earnings were remitted currently.
The Homeland Investment Act provision of the American Jobs Creation Act of 2004
is intended to provide companies with a one time 85% reduction in the U.S. net
tax liability on cash dividends paid by foreign subsidiaries in 2005, to the
extent that they exceed a baseline level of dividends paid in prior years. The
provisions of the Act are complicated and companies, including CGMHI, are
awaiting clarification of several provisions from the Treasury Department. The
Company is still evaluating the provision and the effects it would have on
financing the Company's foreign operations. In accordance with FASB Staff
Position FAS 109-2, "Accounting and Disclosure Guidance for the Foreign Earnings
Repatriation Provision with the American Jobs Creation Act of 2004," the Company
has not recognized any income tax effects of the Act and will not do so until
the above issues are resolved, sometime in 2005. The reasonably possible amounts
that may be repatriated in 2005, that would be subject to the provision of the
Act, range from $0 to $125 million. The related potential income tax effects
range from a tax benefit of $0 to a tax provision of $10 million, under current
law.
The following table reconciles the U.S. federal statutory income tax rate to the
Company's effective tax rate:
Year Ended December 31, 2004 2003 2002
- ----------------------- ---- ---- ----
Statutory U.S. federal income tax rate for corporations 35% 35% 35%
Impact of:
State and local (net of U.S. federal tax) and
foreign taxes 2 5 5
Tax advantaged income 6 (2) (1)
Foreign income tax rate differential 2 -- --
Federal interest requirement (4) -- --
Other, net (1) -- 2
--- --- ---
Effective tax rate 40% 38% 41%
=== === ===
NOTE 12. PLEDGED ASSETS, COMMITMENTS, CONTINGENCIES, AND GUARANTEES
At December 31, 2004 and 2003, respectively, the approximate market value of
collateral received by the Company that may be resold or repledged by the
Company, excluding amounts netted in accordance with FIN 41, was $386.3 billion
and $346.0 billion. This collateral was received in connection with reverse
repurchase agreements, securities borrowed and loaned, and margin broker loans.
F-31
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
At December 31, 2004 and 2003, substantially all of the collateral received by
the Company had been sold or repledged in connection with repurchase agreements,
financial instruments sold, not yet purchased, securities borrowed and loaned,
pledges to clearing organizations, and segregation requirements under securities
laws and regulations.
OTHER CONTINGENCIES
The Company had $1.6 billion and $1.1 billion of outstanding letters of credit
from banks to satisfy various collateral and margin requirements at December 31,
2004 and 2003, respectively.
OBLIGATIONS UNDER GUARANTEES
The Company provides a variety of guarantees and indemnifications to customers
to enhance their credit standing and enable them to complete a wide variety of
business transactions. The Company believes such guarantees relate to an asset,
liability, or equity security of the guaranteed parties.
In the normal course of business, the Company provides standard representations
and warranties to counterparties in contracts in connection with numerous
transactions and also provides indemnifications that protect the counterparties
to contracts in the event that additional taxes are owed due either to a change
in the tax law or an adverse interpretation of the tax law. Counterparties to
these transactions provide the Company with comparable indemnifications. While
such representations, warranties and tax indemnifications are essential
components of many contractual relationships, they do not represent the
underlying business purpose for the transactions. The indemnification clauses
are often standard contractual terms related to the Company's own performance
under the terms of a contract and are entered into in the normal course of
business based on an assessment that the risk of loss is remote. Often these
clauses are intended to ensure that terms of a contract are met at inception. No
compensation is received for these standard representations and warranties and
it is not possible to determine their fair value because they rarely, if ever,
result in payment. In many cases, there are no stated or notional amounts
included in the indemnification clauses and the contingencies potentially
triggering the obligation to indemnify have not occurred and are not expected to
occur. There are no amounts reflected on the accompanying consolidated statement
of financial condition as of December 31, 2004 and 2003 related to these
indemnifications.
In addition, the Company is a member of or shareholder in numerous value
transfer networks ("VTNs") (payment, clearing and settlement systems as well as
securities exchanges) around the world. As a condition of membership, many of
these VTNs require that members stand ready to backstop the net effect on the
VTNs of a member's default on its obligations. The Company's potential
obligation as a shareholder or member of VTN associations are excluded from the
scope of FIN 45, since the shareholders and members represent subordinated
classes of investors in the VTNs. Accordingly, there are no amounts reflected on
the accompanying consolidated statement of financial condition as of December
31, 2004 and 2003 for potential obligations that could arise from the Company's
involvement with VTN associations.
F-32
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Derivative instruments which include guarantees are credit default swaps, total
return swaps, written foreign exchange options, written put options, written
equity warrants, and written caps and floors. At December 31, 2004 and 2003, the
carrying amount of the liabilities related to these derivatives was $2.2 billion
and $2.4 billion, respectively.
The maximum potential loss represents the amounts that could be lost under the
guarantees if there were a total default by the guaranteed parties, without
consideration of possible recoveries under recourse provisions or from
collateral held or pledged. Such amounts bear no relationship to the anticipated
losses on these guarantees and greatly exceed anticipated losses. At December
31, 2004, the maximum potential loss at notional value related to credit default
swaps and total rate of return swaps amounted to $193.8 billion, of which $13.5
billion expires within one year and $180.3 billion expires after one year. At
December 31, 2003, the maximum potential loss at notional value related to
credit default swaps and total rate of return swaps amounted to $62.7 billion.
At December 31, 2004 and 2003, the maximum potential loss at fair value related
to derivative guarantees other than credit default swaps and total rate of
return swaps amounted to $1.8 billion and $2.1 billion, respectively.
Guarantees to joint ventures and other third parties primarily include
guarantees of their debt obligations. At December 31, 2004, the carrying amount
and the maximum potential loss related to these joint venture and other
third-party guarantees was $177 million, of which $73 million expires within one
year and $104 million expires after one year. At December 31, 2003, the carrying
amount and the maximum potential loss related to joint venture and other
third-party guarantees was $495 million. Securities and other marketable assets
held as collateral to reimburse losses under other third-party guarantees
amounted to $73 million and $48 million at December 31, 2004 and 2003,
respectively.
Guarantees of collection of contractual cash flows protect investors in
securitization trusts from loss of principal and interest relating to
insufficient collections on the underlying receivables in the trust. At December
31, 2004 and 2003, the carrying amount and the maximum potential loss related to
guarantees of collection of contractual cash flows was $24 million.
NOTE 13. LEGAL PROCEEDINGS
As described in the "Legal Proceedings" discussion on page 10, the Company is a
defendant in numerous lawsuits and other legal proceedings arising out of
alleged misconduct in connection with:
(i) underwritings for, and research coverage of, WorldCom;
(ii) underwritings for Enron and other transactions and activities related
to Enron and Dynegy;
(iii) transactions and activities related to research coverage of companies
other than WorldCom; and
(iv) transactions and activities related to securities sold in initial
public offerings.
During the 2004 second quarter, in connection with the settlement of the
WorldCom class action, the Company reevaluated and increased its reserves for
these matters. The Company recorded a charge of $6.5 billion ($4.1 billion
after-tax) relating to (i) the settlement of class action litigation brought on
behalf of purchasers of WorldCom securities, and (ii) an increase in
F-33
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
litigation reserves for the other matters described above. Subject to the terms
of the WorldCom class action settlement, and its eventual approval by the
courts, the Company will make a payment of $2.575 billion, or $1.59 billion
after-tax, to the WorldCom settlement class. As of December 31, 2004, the
Company's litigation reserve for these matters, net of the amount to be paid
upon final approval of the WorldCom class action settlement, was $4.7 billion on
a pretax basis.
The Company believes that this reserve is adequate to meet all of its remaining
exposure for these matters. However, in view of the large number of these
matters, the uncertainties of the timing and outcome of this type of litigation,
the novel issues presented, and the significant amounts involved, it is possible
that the ultimate costs of these matters may exceed or be below the reserve. The
Company will continue to defend itself vigorously in these cases, and seek to
resolve them in the manner management believes is in the best interests of the
Company.
In addition, in the ordinary course of business, Citigroup and its subsidiaries
are defendants or co-defendants or parties in various litigation and regulatory
matters incidental to and typical of the businesses in which they are engaged.
In the opinion of the Company's management, the ultimate resolution of these
legal and regulatory proceedings would not be likely to have a material adverse
effect on the consolidated financial condition of the Company but, if involving
monetary liability, may be material to the Company's operating results for any
particular period.
NOTE 14. FINANCIAL INSTRUMENTS AND CONTRACTUAL COMMITMENTS AND RELATED RISKS
The Company and its subsidiaries enter into a variety of contractual
commitments, such as interest rate, equity, currency and commodity swap
agreements, cap and floor agreements, swap options, forward purchase and sale
agreements, option contracts, warrants and commodity and financial futures and
forward contracts. These instruments generally represent future commitments to
swap interest payment streams, exchange currencies or purchase or sell other
financial instruments on specific terms at specified future dates, and are
either executed on an exchange or traded as OTC instruments. Contractual
commitments have widely varying terms, and durations that range from a few days
to a number of years depending on the instrument.
The Company also sells various financial instruments that have not been
purchased ("short sales"). In order to sell them short, the Company borrows
these securities, or receives the securities as collateral in conjunction with
short-term financing agreements and, at a later date, must deliver (i.e.,
replace) like or substantially the same financial instruments or commodities to
the parties from which they were originally borrowed. The Company is exposed to
market risk for short sales. If the market value of an instrument sold short
increases, the Company's obligation, reflected as a liability, would increase
and revenues from principal transactions would be reduced.
The way in which the Company accounts for and presents contractual commitments
in its financial statements depends on both the type and purpose of the
contractual commitment held or issued. As discussed in Note 1 to the
consolidated financial statements, the Company records all derivatives,
including those used to hedge trading positions, at market or fair value.
Consequently, changes in the amounts recorded in the Company's consolidated
statements of financial condition resulting
F-34
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
from movements in market or fair value are included in "Principal transactions"
in the period in which they occur. The accounting and reporting treatment of
derivatives used for non-trading purposes varies, depending on the nature of
exposure being hedged.
Contractual commitments and short sales risk may expose the Company to both
market risk and credit risk in excess of the amount recorded on the consolidated
statements of financial condition. These off-balance sheet risks are discussed
in more detail in the paragraphs that follow.
MARKET RISK
Market risk is the potential loss or decrease in economic value the Company may
incur as a result of changes in the market or fair value of a particular
financial instrument, commodity or contractual commitment. All financial
instruments, commodities and contractual commitments, including short sales, are
subject to market risk. The Company's exposure to market risk is determined by a
number of factors, including the size, duration, composition and diversification
of positions held, the absolute and relative levels of interest rates and
foreign currency exchange rates, as well as market volatility and illiquidity.
For instruments such as options and warrants, the time period during which the
options or warrants may be exercised and the relationship between the current
market price of the underlying instrument and the option's or warrant's
contractual strike or exercise price also affect the level of market risk. The
most significant factor influencing the overall level of market risk to which
the Company is exposed is its use of hedging techniques to mitigate such risk.
The Company manages market risk by setting risk limits and monitoring the
effectiveness of its hedging policies and strategies.
The Company's derivatives at December 31, 2004 and 2003 are summarized in the
table below, showing the related assets and liabilities by product:
DECEMBER 31, 2004 DECEMBER 31, 2003
-------------------- --------------------
Current Market or Current Market or
Fair Value Fair Value
-------------------- --------------------
Dollars in billions Assets Liabilities Assets Liabilities
- ------------------- ------ ----------- ------ -----------
Exchange-traded products:
Equity, fixed-income, foreign exchange and commodity
options $ 2.4 $ 2.9 $ 1.7 $ 1.8
OTC contractual commitments:
Swaps, swap options, caps, floors and forward rate
agreements 9.0 11.5 9.1 8.7
Options and warrants on equities and equity indices 2.0 7.9 1.9 4.9
Options and forward contracts on fixed income
securities 1.5 .9 1.7 2.0
Foreign exchange contracts and options 1.0 1.0 1.1 1.2
Commodity contracts .2 .2 .1 .1
----- ----- ----- -----
Total contractual commitments $16.1 $24.4 $15.6 $18.7
===== ===== ===== =====
CREDIT RISK
The Company regularly transacts business with retail customers, and transacts
with, or owns securities issued by, a broad range of corporations, governments,
international organizations, central banks and other financial institutions.
Phibro regularly transacts business with independent and government-owned oil
producers, a wide variety of end users, trading companies and financial
institutions. Credit risk is measured by the loss the Company would record if
its counterparties failed to perform pursuant to the terms of their contractual
obligations and the value of collateral held, if any, was not adequate to cover
such losses. The Company has established controls to monitor the
creditworthiness of counterparties, as well as the
F-35
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
quality of pledged collateral, and uses bilateral security agreements and master
netting agreements whenever possible to mitigate the Company's exposure to
counterparty credit risk. In accordance with FIN 39, the Company utilizes master
netting agreements to net certain assets and liabilities by counterparty. The
Company also nets across product lines and against cash collateral, provided
such provisions are established in the master netting and cash collateral
agreements. The Company may require counterparties to submit additional
collateral pursuant to the above agreements when deemed necessary.
The Company enters into collateralized financing agreements in which it extends
short-term credit, primarily to major financial institutions. The Company
controls access to the collateral pledged by the counterparties, which consists
largely of securities issued by the G-7 governments or their agencies that may
be liquidated in the event of counterparty default.
In addition, margin levels are monitored daily and additional collateral must be
deposited as required. If customers cannot meet collateral requirements, the
Company will liquidate sufficient underlying financial instruments to bring the
account in compliance with the required margin level.
CONCENTRATIONS OF CREDIT RISK
Concentrations of credit risk from financial instruments, including contractual
commitments, exist when groups of issuers or counterparties have similar
business characteristics or are engaged in like activities that would cause
their ability to meet their contractual commitments to be adversely affected, in
a similar manner, by changes in the economy or other market conditions. The
Company monitors credit risk on both an individual and group counterparty basis.
The Company's largest single concentration of credit risk is in securities
issued by the U.S. government and its agencies, which totaled $35.9 billion at
December 31, 2004 and $51.2 billion at December 31, 2003. With the addition of
U.S. government and U.S. government agency securities pledged as collateral by
counterparties in connection with collateralized financing activity, the
Company's total holdings of U.S. government securities were $194.4 billion or
37% of the Company's total assets before FIN 41 netting at December 31, 2004,
and $186.3 billion or 42% of the Company's total assets before FIN 41 netting at
December 31, 2003. Concentrations with non-U.S. governments totaled $61.6
billion at December 31, 2004 and $61.1 billion at December 31, 2003. These
consist predominantly of securities issued by the governments of major
industrial nations. Remaining concentrations arise principally from contractual
commitments with counterparties in financial or commodities transactions
involving future settlement and fixed income securities owned. North America and
Europe represent the largest geographic concentrations. Among industries, other
major derivatives dealers represent the largest group of counterparties.
NOTE 15. FAIR VALUE INFORMATION
SFAS 107, "Disclosures about Fair Value of Financial Instruments," requires the
disclosure of the fair value of all financial instruments. The following
information is presented to help the reader gain an understanding of the
relationship between the amounts reported in the Company's consolidated
financial statements and the related market or fair values. Specific accounting
policies are discussed in Note 1 to the consolidated financial statements.
F-36
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
At December 31, 2004, $427 billion or 97% of the Company's total assets and $411
billion or 97% of the Company's total liabilities were carried at market value
or fair value or at amounts that approximate such values. At December 31, 2003,
$351.4 billion or 97% of the Company's total assets and $336.1 billion or 97% of
the Company's total liabilities were carried at market value or fair value or at
amounts that approximate such values. Financial instruments recorded at market
or fair value include cash and cash equivalents, financial instruments, and
contractual commitments.
Financial instruments recorded at contractual amounts that approximate market or
fair value include collateralized short-term financing agreements, receivables,
commercial paper and other short-term borrowings, payables and accrued
liabilities, and variable rate term debt. The market values of such items are
not materially sensitive to shifts in market interest rates because of the
limited term to maturity of many of these instruments and/or their variable
interest rates.
The following table reflects financial instruments which are recorded at
contractual or historical amounts that do not necessarily approximate market or
fair value.
2004 2003
Liabilities Liabilities
---------------- ----------------
Dollars in billions Carrying Fair Carrying Fair
December 31, Value Value Value Value
- ------------------- -------- ----- -------- -----
Financial instruments primarily recorded at
contractual amounts or historical amounts that do
not necessarily approximate market or fair value:
Fixed rate term debt $12.1 $12.2 $9.5 $9.3
The fair value of fixed rate term debt has been estimated by using a discounted
cash flow analysis.
NOTE 16. RELATED PARTY BALANCES
The Company has related party balances with Citigroup and certain of its
subsidiaries and affiliates including cash accounts, collateralized financing
transactions, margin accounts, short-term borrowings, receivables and payables
from securities and underwriting transactions, derivative trading and charges
for operational support. The Company also has long-term borrowings from
Citigroup of $14.1 billion at December 31, 2004 of which $3 billion are
subordinated borrowings. Related party transactions are generally conducted at
prices equivalent to prices for transactions conducted at arm's length with
unrelated third parties. Amounts charged for operational support represent an
allocation of costs.
NOTE 17. SECURITIZATIONS AND VARIABLE INTEREST ENTITIES
During 2004 and 2003, the Company securitized various types of assets including
commercial and residential mortgages, high yield bonds, government, agency and
corporate securities, and municipal bonds. Proceeds from these securitizations
were approximately $37 billion in 2004, $29 billion in 2003, and $24 billion in
2002, which contributed to pre-tax gains and related fees of $323 million, $125
million, and $105 million in 2004, 2003, and 2002, respectively.
F-37
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
To a limited extent, the Company also retains interests in these securitizations
for which the Company was the securitizer. Such retained positions are carried
at fair value with the changes in fair value reported in earnings. As of
December 31, 2004 and 2003, the largest portion of these retained positions was
in securitizations of commercial and residential mortgages, agency mortgage
securities and collateralized debt obligations which totaled $1.5 billion and
$3.6 billion, respectively.
The key assumptions used in estimating the fair value of these retained
interests at December 31, 2004 and 2003, were:
COMMERCIAL MORTGAGES
2004 2003
----- ----
Discount Rate 3%-30% 2%-9%
RESIDENTIAL MORTGAGES
2004 2003
----- -----
Discount Rate 3%-99% 2%-81%
Expected Prepayment Rate 9%-46% 8%-48%
Anticipated Credit Loss 0%-80% 0%-80%
AGENCY SECURITIES
2004 2003
----- -----
Discount Rate 3%-30% 2%-56%
Expected Prepayment Rate 9%-44% 8%-29%
COLLATERALIZED DEBT OBLIGATIONS
2004 2003
------- -------
Discount Rate 0.4%-19% 0.4%-10%
Recovery Rate 50%-70% 30%-70%
At December 31, 2004 and 2003, the impact of altering, on a pre-tax basis, each
of the assumptions to assumptions that are 10% and 20% less favorable and do not
include the impact of hedges that the Company has in place, is as follows:
COMMERCIAL MORTGAGES
2004 2003
----------- -----------
(Dollars in millions) 10% 20% 10% 20%
- --------------------- ---- ---- ---- ----
Discount Rate $1.7 $3.3 $0.3 $0.6
RESIDENTIAL MORTGAGES
2004 2003
------------ -------------
(Dollars in millions) 10% 20% 10% 20%
- --------------------- ---- ----- ----- -----
Discount Rate $6.0 $11.8 $12.2 $20.5
Expected Prepayment rate $0.1 $ 0.6 $ -- $ 0.5
Anticipated Credit Loss $2.6 $ 3.3 $ 1.6 $ 2.1
F-38
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
AGENCY SECURITIES
2004 2003
------------- -------------
(Dollars in millions) 10% 20% 10% 20%
- --------------------- ----- ----- ----- -----
Discount Rate $12.6 $24.7 $33.5 $65.7
Expected Prepayment rate $ 1.4 $ 2.7 $ 0.2 $ 0.3
COLLATERALIZED DEBT OBLIGATIONS
2004 2003
----------- ------------
(Dollars in millions) 10% 20% 10% 20%
- --------------------- ---- ---- ---- -----
Discount Rate $2.2 $4.6 $5.1 $10.1
Recovery Rate $0.5 $0.8 $ -- $ --
VARIABLE INTEREST ENTITIES
The following table represents the carrying amounts and classification of
consolidated assets that are collateral for VIE obligations, including VIEs that
were consolidated prior to the implementation of FIN 46 under existing guidance
and VIEs that the Company became involved with after July 1, 2003:
IN MILLIONS OF DOLLARS DECEMBER 31, 2004 DECEMBER 31, 2003
- ---------------------- ----------------- -----------------
Cash $ 20 $ 25
Financial Instruments Owned & Contractual
Commitments 3,632 3,127
Receivables - Other 407 124
Other Assets 1,437 753
------ ------
Total Assets of Consolidated VIEs $5,496 $4,029
====== ======
The consolidated VIEs included in the table above represent hundreds of separate
entities with which the Company is involved and includes approximately $510
million related to VIEs newly consolidated as a result of adopting FIN 46-R. As
of December 31, 2004 and 2003, approximately $1.8 billion of the total assets of
consolidated VIEs represent structured transactions where the Company packages
and securitizes assets purchased in the financial markets or from clients in
order to create new security offerings and financing opportunities for its
clients. As of December 31, 2004 and 2003, approximately $3.7 billion and $2.2
billion, respectively, of the total assets of consolidated VIEs represents
investment vehicles that were established to provide a return to the investors
in the vehicles.
The Company may provide liquidity facilities to the VIEs, may be a party to
derivative contracts with VIEs, may provide loss enhancement in the form of
guarantees to the VIEs, and may also have an ownership interest or other
investment in certain
F-39
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
VIEs. In general, the investors in the obligations of consolidated VIEs have
recourse only to the assets of those VIEs and do not have recourse to the
Company except where the Company has provided a liquidity facility to the VIE, a
guarantee to the investors, or is the counterparty to a derivative transaction
involving the VIE.
In addition to the VIEs that are consolidated in accordance with FIN 46-R, the
Company has significant variable interests in certain other VIEs that are not
consolidated because the Company is not the primary beneficiary. These include
collateralized debt obligations ("CDOs"), structured finance transactions, and
various investment funds and are explained in the paragraphs which follow.
The Company packages and securitizes assets purchased in the financial markets
in order to create new security offerings, including arbitrage CDOs and
synthetic CDOs for institutional clients and retail customers, that match the
clients' investment needs and preferences. Typically these instruments diversify
investors' risk to a pool of assets as compared with investments in an
individual asset. The VIEs, which are issuers of CDO securities, are generally
organized as limited liability corporations. The Company typically receives fees
for structuring and/or distributing the securities sold to investors. In some
cases, the Company may repackage the investment with higher rated debt CDO
securities or U. S. Treasury securities to provide a greater or a very high
degree of certainty, respectively, of the return of invested principal. A
third-party manager is typically retained by the VIE to select collateral for
inclusion in the pool and then actively manage it, or, in other cases, only to
manage work-out credits. At December 31, 2004 and 2003, such transactions
involved VIEs with approximately $17.1 billion and $8.0 billion in assets,
respectively.
The Company packages and securitizes assets purchased in the financial markets
or from clients in order to create new security offerings and financing
opportunities for institutional and private bank clients as well as retail
customers, including hedge funds, mutual funds, unit investment trusts, and
other investment funds that match the clients' investment needs and preferences.
These transactions include trust preferred entities, investment vehicles and
other structured transactions. At December 31, 2004 and 2003, such transactions
involved VIEs with approximately $76.7 billion and $50.4 billion in assets,
respectively.
As previously mentioned, the Company may provide liquidity facilities to the
VIEs, may be a party to derivative contracts with VIEs, may provide loss
enhancement in the form of guarantees to the VIEs and may also have an ownership
interest in certain VIEs. Although actual losses are not expected to be
material, the Company's maximum exposure to loss as a result of its involvement
with VIEs that are not consolidated was $26.8 billion and $8.6 billion at
December 31, 2004, and 2003, respectively. For this purpose, maximum exposure is
considered to be the notional amounts of guarantees and liquidity facilities,
the notional amounts of credit default swaps and certain total return swaps, and
the amount invested where the Company has an ownership interest in the VIEs.
F-40
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 18. GOODWILL AND INTANGIBLE ASSETS
At January 1, 2004, the goodwill balance was $1,127 million for the Investment
Services segment, $369 million for the Private Client Services segment, and $35
million for the Asset Management segment. During 2004, no goodwill was impaired
or written off. During the year, the Company recorded $391 million of goodwill
related to the acquisition of Lava Trading and the purchase of certain assets of
Knight Trading. The Company's goodwill balances at December 31, 2004 were $1,516
million for the Investment Services segment, $371 million for the Private Client
Group segment, and $35 million for the Asset Management segment.
At December 31, 2004, $817 million of the Company's acquired intangible assets,
primarily asset management and administration contracts, were considered to be
of indefinite life and not subject to amortization.
All other acquired intangible assets are subject to amortization. During 2004
and 2003, the Company acquired $38 million and $5 million, respectively, in
software licenses, which will be amortized over approximately 3 years. No
significant residual value is estimated for these intangible assets. Intangible
assets amortization expense for the twelve months ended December 31, 2004 and
2003 was $25 million, and $17 million, respectively. The components of
intangible assets that are subject to amortization were as follows:
December 31, 2004 December 31, 2003
----------------------- -----------------------
Gross Gross
Carrying Accumulated Carrying Accumulated
(In millions) Amount Amortization Amount Amortization
- ------------- -------- ------------ -------- ------------
Software licenses $111 $74 $73 $49
==== === === ===
Intangible assets amortization expense is estimated to be $18 million in 2005,
$14 million in 2006, and $5 million in 2007.
NOTE 19. CGMHI ONLY CONDENSED FINANCIAL STATEMENTS
The following are condensed financial statements of Citigroup Global Markets
Holdings Inc. (CGMHI Only):
CGMHI ONLY CONDENSED STATEMENTS OF OPERATIONS
Dollars in millions
Year Ended December 31, 2004 2003 2002
- ----------------------- -------- ------ ------
Revenues, net of interest expense $ 78 $ 89 $ 100
Noninterest expenses 67 44 24
-------- ------ ------
Income before income taxes 11 45 76
Provision (benefit) for income taxes (105) 151 28
Equity in earnings (losses) of subsidiaries (1,557) 2,999 1,739
-------- ------ ------
Net income (loss) ($1,441) $2,893 $1,787
======== ====== ======
F-41
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CGMHI ONLY CONDENSED STATEMENTS OF FINANCIAL CONDITION
Dollars in millions
December 31, 2004 2003
- ------------------- ------- -------
Assets:
Cash and cash equivalents $ -- $ --
Financial instruments owned and contractual commitments 243 323
Receivables 1,084 1,004
Receivable from subsidiaries (1) 73,747 59,658
Investment in subsidiaries 15,352 12,614
Other assets 3,545 1,653
------- -------
Total assets $93,971 $75,252
======= =======
Liabilities and stockholder's equity:
Commercial paper and other short-term borrowings $19,263 $19,637
Payable to subsidiaries 5,838 1,117
Financial instruments sold, not yet purchased, and
contractual commitments 6,552 3,747
Other liabilities 1,017 1,610
Term debt 44,144 33,519
------- -------
Total liabilities 76,814 59,630
Stockholder's equity 17,157 15,622
------- -------
Total liabilities and stockholder's equity $93,971 $75,252
======= =======
(1) Includes $6.3 billion of subordinated note receivables at December 31, 2004
and December 31, 2003.
F-42
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
CGMHI ONLY CONDENSED STATEMENTS OF CASH FLOWS
Dollars in millions
Year ended December 31, 2004 2003 2002
- ----------------------- -------- -------- -------
Cash flows from financing activities:
Net increase (decrease) in commercial paper
and other short-term borrowings $ (374) $ (543) $ 4,139
Proceeds from issuance of term debt 23,325 15,429 8,898
Term debt maturities and repurchases (12,794) (10,285) (6,034)
Capital contribution from Parent 4,100 500 500
Other capital transactions -- (26) 12
Dividends paid (1,292) (1,056) (1,727)
-------- -------- -------
Cash provided by financing activities 12,965 4,019 5,788
-------- -------- -------
Cash flows from investing activities:
Increase in receivables from subsidiaries, net (14,103) (7,891) (7,533)
Dividends received from subsidiaries 1,025 1,170 2,236
Capital (infusions to) distributions from subsidiaries, net (5,300) 41 (261)
-------- -------- -------
Cash used in investing activities (18,378) (6,680) (5,558)
-------- -------- -------
Cash provided by (used in) operating activities 5,413 2,661 (230)
-------- -------- -------
Increase in cash and cash equivalents 0 0 0
Cash and cash equivalents at beginning of year 0 0 0
-------- -------- -------
Cash and cash equivalents at end of year $ 0 $ 0 $ 0
======== ======== =======
BASIS OF PRESENTATION
The accompanying condensed financial statements, which include the accounts of
CGMHI, a direct wholly owned subsidiary of Citigroup, should be read in
conjunction with the consolidated financial statements of the Company.
Investments in subsidiaries are accounted for under the equity method. For
information regarding the Company's term debt and commercial paper and other
short term borrowings, see Notes 6 and 7 to the consolidated financial
statements.
RELATED PARTY TRANSACTIONS
CGMHI engages in various transactions with its subsidiaries that are
characteristic of a consolidated group under common control. As a public debt
issuer, CGMHI has access to long-term sources of funds that are loaned from
CGMHI to certain of its subsidiaries. Such intercompany advances are payable on
demand and bear interest at varying rates.
F-43
CITIGROUP GLOBAL MARKETS HOLDINGS INC. AND SUBSIDIARIES
QUARTERLY FINANCIAL DATA (UNAUDITED)
Quarterly results for the year ended December 31, 2004 were as follows:
Quarter Ended
-----------------------------------------------
Dollars in millions March 31 June 30 September 30 December 31
- ------------------- -------- ------- ------------ -----------
Noninterest revenues $3,438 $ 3,334 $3,073 $3,212
Net interest and dividends 964 912 812 949
------ ------- ------ ------
Revenues, net of interest expense 4,402 4,246 3,885 4,161
Expenses, excluding interest 3,109 9,623 2,920 3,437
------ ------- ------ ------
Income (loss) before income taxes 1,293 (5,377) 965 724
Provision (benefit) for income
taxes 472 (2,049) 345 278
------ ------- ------ ------
Net income (loss) $ 821 $(3,328) $ 620 $ 446
====== ======= ====== ======
Quarterly results for the year ended December 31, 2003 were as follows:
Quarter Ended
-----------------------------------------------
Dollars in millions March 31 June 30 September 30 December 31
- ------------------- -------- ------- ------------ -----------
Noninterest revenues $3,096 $3,484 $3,054 $3,167
Net interest and dividends 660 736 676 789
------ ------ ------ ------
Revenues, net of interest expense 3,756 4,220 3,730 3,956
Expenses, excluding interest 2,718 3,014 2,661 2,596
------ ------ ------ ------
Income before income taxes 1,038 1,206 1,069 1,360
Provision for income taxes 388 467 406 519
------ ------ ------ ------
Net income $ 650 $ 739 $ 663 $ 841
====== ====== ====== ======
F-44