Annual Report (Form 10-K), fiscal year 1994

ITEM 1. BUSINESS
GENERAL DESCRIPTION OF BUSINESS
UST Corp. (the "Company"), a bank holding company registered with the Board of Governors of the Federal Reserve System (the "Federal Reserve Board"), was organized as a Massachusetts business corporation in 1967. The Company is subject to examination by, and is required to file reports with, the Commissioner of Banks of the Commonwealth of Massachusetts (the "Massachusetts Commissioner"). The Company's banking subsidiaries are USTrust and United States Trust Company ("USTC"), each headquartered in Boston and each a Massachusetts trust company, and UST Bank/Connecticut ("UST/Conn"), headquartered in Bridgeport, a Connecticut trust company. All of the common stock of USTrust, USTC, and UST/Conn is issued to and owned by the Company. In addition, the Company owns, indirectly through its banking subsidiaries, all of the outstanding stock of three active nonbanking subsidiaries, all Massachusetts corporations: UST Leasing Corporation, UST Data Services Corp. and UST Capital Corp.
The Company engages in one line of business, that of providing financial services through its banking and nonbanking subsidiaries. A broad range of financial services is provided principally to individuals and small- and medium-sized companies in New England including those located in low- and moderate-income neighborhoods. In addition, an important component of the Company's financial services is the provision of trust and money management services to professionals, corporate executives, nonprofit organizations, labor unions, foundations, mutual funds and owners of closely-held businesses in the New England region.
As of the close of business on December 31, 1994, the Company's total assets were approximately $1.8 billion and USTrust, the lead bank, had over $1.7 billion or 94% of the Company's consolidated assets.
THE SUBSIDIARY BANKS
USTrust and UST/Conn are engaged in a general commercial banking business and accept deposits which are insured by the Federal Deposit Insurance Corporation ("FDIC"). USTC, which has full banking powers and accepts deposits which are insured by the FDIC, focuses its activity on trust and money management, venture capital and other fee generating businesses. Two of the Company's banking subsidiaries are located in Massachusetts and one is located in Connecticut.
RECENT DEVELOPMENTS
Recent Operating History and Asset Quality Summary
The Company reported net income of $4.75 million, or $0.27 per share for 1994, as compared with a net loss of $20.1 million, or $1.31 per share in 1993. Non-performing assets at December 31, 1994, consisting of nonaccrual loans, restructured loans, accruing loans greater than 90 days past due and other real estate owned, were $84.9 million, down from a level of $110.8 million at December 31, 1993. Loans measured as substandard by the Company's internal risk rating system, also declined during the year from a level of $255 million at December 31, 1993 to $115 million at December 31, 1994. Under the Company's definition, substandard loans are characterized by the distinct possibility that some loss will be sustained if the credit deficiencies are not corrected. The substandard classification, however, does not necessarily imply ultimate loss for each individual loan so classified. See pages 20 and 24 in Management's Discussion and Analysis of Financial Condition and Results of Operations.
Bank Regulatory Agreements and Orders
In February 1992, USTC and USTrust entered into separate Consent Agreements and Orders with the FDIC and the Massachusetts Commissioner. The Company also entered into a written agreement with the Federal Reserve Bank of Boston (the "FRB-Boston") and the Massachusetts Commissioner in August 1992. Since June 1991, the Company's Connecticut-based banking subsidiary, UST/Conn, has been operating under a Stipulation and Agreement with the Commissioner of Banks for the State of Connecticut (the "Connecticut Commissioner"), which agreement was amended in August 1992, November 1993 and July
1994. (The foregoing are hereinafter collectively referred to as the "Regulatory Agreements."). In February 1994, the FDIC and the Massachusetts Commissioner terminated and lifted the Consent Agreement and Order with USTC.
The remaining Regulatory Agreements require that the Company, USTrust and UST/Conn refrain from paying dividends without prior regulatory consent and the Company has not paid a cash dividend to its stockholders since July 1991. Despite the termination of its Regulatory Agreement, USTC has agreed to continue to request regulatory consent prior to the payment of dividends. The Regulatory Agreements further require USTrust and UST/Conn to maintain Tier 1 leverage capital ratios at or in excess of 6%. Each of the Company's subsidiary banks is in compliance with its respective capital requirements. As provided in the Regulatory Agreements, the Company, USTrust and UST/Conn have reduced levels of nonperforming assets and have implemented written plans and policies concerning, among other matters credit administration, loan review and intercompany transactions. USTrust and UST/Conn have also revised and expanded their investment and funds management policies as required by the Regulatory Agreements. Moreover, the Company has agreed to give the FRB-Boston and the Massachusetts Commissioner prior notice of certain significant expenditures and certain increases in management compensation. The Company has filed (and will continue to file) with the regulatory agencies a broad range of periodic reports and updated strategic plans. For a discussion of capital in the context of the Regulatory Agreements, see "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Capital" on page 18.
In addition to the foregoing, in 1994, UST/Conn entered into an informal Memorandum of Understanding with the FDIC under the significant terms of which UST/Conn undertook to: increase the level of Board monitoring of UST/Conn's Community Reinvestment Act ("CRA") activities and lending data; develop and implement an improved CRA marketing program; and consider more effective utilization of available government lending programs and certain other matters.
Asset Management Employment Agreements
As of January 1, 1995, the Company and USTC, subject to regulatory approval, entered into Employment Agreements with five key executives in the Asset Management Division of USTC. These Employment Agreements are designed: (i) to induce those key executives to continue in the employ of USTC and to accept certain non-competition agreements; (ii) to raise the share of Asset Management Division revenues retained by Management of the Division; (iii) to provide assurances to those key executives that they will be allowed to continue to manage the Division with the degree of independence they currently enjoy; and (iv) to provide strong economic incentives for those executives to increase the Division's aggregate revenues. Although the foregoing Employment Agreements were entered into as of January 1, 1995, the revised revenue sharing arrangements were effective as of July 1, 1994 and were reflected in the previously reported third and fourth quarter financial results of the Company. Each of the Employment Agreements provide for two and one-half year original terms commencing January 1, 1995 and (unless terminated by the employee by giving the Company and USTC six months prior notice) successive six month renewal terms thereafter. In the event, however, that a Triggering Event or change in ownership of USTC or the Company (as defined in the Employment Agreements) occurs during the original term or a renewal term, a new, approximately three-year term will be triggered and the key employee will receive in exchange for an extension of his or her employment period together with the related noncompetition agreements, a Formula Payment, as defined in the Employment Agreement, which will be based upon the Asset Management Division's revenues during the year preceding the Triggering Event. For a further discussion of the financial impact of these new compensation arrangements, see pages 26 and 27 in Management's Discussion and Analysis of Financial Condition and Results of Operations.
BUSINESS SERVICES
USTrust and UST/Conn provide commercial banking services, including deposit, investment, cash management, payroll, wire transfer, leasing and lending services throughout New England. Commercial and industrial lending takes the form primarily of direct loans and includes lines of credit, revolving credits, domestic and foreign letters of credit, term loans, mortgage loans, receivable, inventory and equipment loans
and other specialized lending services. Furthermore, the Company provides additional services to small business customers through utilization of government sponsored and assisted loan programs and through the Company's Minority Enterprise loan program. In 1994, USTrust was certified by the SBA as a "Small Business Association Lender". USTrust also provides merchant credit card services. USTC provides deposit services and other banking services, but focuses its activities on money management, venture capital and other fee generating services. Through loan participations, each bank is able to provide credit to businesses in its area up to the limit available to the combined banks. At December 31, 1994, the combined lending limit to a single borrower of the subsidiary banks was approximately $29 million.
CONSUMER SERVICES
Consumer services are provided by USTrust and UST/Conn to customers in their respective areas. These services include savings and checking accounts, NOW and money market accounts, consumer loans, night depositories, credit cards (through a private label arrangement), safe deposit box facilities and travelers' checks. In 1994 the Company repriced and added further enhancements to its Choice Checking retail account product, which combines a relatively modest fee structure with ancillary travel, insurance and other "lifestyle" benefits. The Company in 1994 also began offering a basic savings account service to accompany its basic checking account service, both of which are designed to serve the needs of individual customers of moderate means. Consumer loans include residential first mortgage and home equity loans and loans to finance education costs as well as open-ended credit via cash reserve facilities. Automobile loans reached a volume of approximately $94 million as of December 31, 1994. In 1994, the Company's Affordable Mortgage Program, designed to provide certain customers of USTrust and UST/Conn who may not qualify for traditional mortgage financing with an alternate means of financing or refinancing a residence, saw increased volume. The Company's banking subsidiaries, which currently have an aggregate of 33 banking offices, maintain an automated teller machine system which through membership in the Cirrus and InfiNet Payment Services, Inc. networks provides the Company's customers with access to their accounts at locations throughout the United States. Most of the Company's ATM machines provide information to customers in three languages, English, Spanish and Portuguese. The Company provides a broad range of services in connection with its consumer automobile lending program. The Company's banking subsidiaries offer an integrated Preferred Banking Services which combines a wide range of the Company's retail banking products.
INVESTMENT SERVICES
The Investment Group located at USTrust and UST/Conn was formed in May 1994. The Investment Group, through Essex National Securities, Inc., an unaffiliated, licensed broker-dealer, offers mutual funds (whose investments are managed by nonaffiliated third parties), treasury bills, notes, corporate bonds, state, federal and municipal bonds and discount brokerage services to the customers of USTrust and UST/Conn.
SPECIALIZED SERVICES FOR INDIVIDUALS
The Company provides services to meet the financial needs of individuals, such as self-employed professionals, corporate executives and entrepreneurs. The Company's services include deposit accounts, specialized credit facilities, an account management system for escrow funds, consumer banking and other personal financial products.
REAL ESTATE SERVICES
USTrust and UST/Conn provide a broad range of industrial and commercial real estate lending services, residential mortgage banking services and other related financial services.
ASSET AND MONEY MANAGEMENT AND TRUST SERVICES
Asset and money management, custodial and trust services are provided by USTC. In addition, USTC provides services as executor, administrator and trustee of estates and acts, under the terms of agreements, in various capacities such as escrow agent, bond trustee and trustee and agent of pension, profitsharing and other employee benefit trusts. At December 31, 1994, the total assets under management of USTC were
approximately $3.1 billion. See "Recent Developments -- Asset Management Employment Agreements", above.
SECURITIES PORTFOLIOS MAINTAINED BY THE COMPANY
The subsidiary banks maintain securities portfolios consisting primarily of U.S. Treasury, U.S. Government Agency, corporate and municipal securities. Essentially all of the Company's securities are deemed "available-for-sale" which enhances the liquidity position of the Company and allows for flexibility in management of interest rate risk. USTrust's securities portfolio also includes certain other equity investments as allowed within limits prescribed by Massachusetts law. Such investments currently include, among others, equity interests in the Massachusetts Housing Investment Corporation's Limited Partnership Equity Fund for Affordable Housing, and in the Massachusetts Minority Enterprise Corporation. The Treasury Division of the Company provides securities portfolio advisory services to the Company's affiliated banks.
PRINCIPAL NONBANKING SUBSIDIARIES
UST Leasing Corporation, a subsidiary of USTrust organized in 1987, provides a broad range of equipment leasing services to major corporations headquartered throughout the United States. In 1994, UST Leasing Corporation developed a line of leasing products designed to meet the needs of the Company's small business customers and other business entities with similar needs. As of December 31, 1994, UST Leasing Corporation's total assets were approximately $26.8 million.
UST Data Services Corp., organized in 1981 and a subsidiary of USTrust, provides a full range of electronic data processing, deposit and other operations services to the Company and its affiliates.
UST Capital Corp., organized in 1961 and acquired by the Company in 1969, is a subsidiary of USTC and is a licensed Small Business Investment Company. It specializes in equity and longterm debt financing for growth-oriented companies.
COMPETITIVE CONDITIONS
The Company's banking and nonbanking subsidiaries face substantial competition throughout Massachusetts and Connecticut. This competition is provided by commercial banks, savings banks, credit unions, consumer finance companies, insurance companies, "nonbank banks," money market mutual funds, government agencies, investment management companies, investment advisors, brokers and investment bankers. In addition, the Company anticipates increased competition from out-of-state and foreign banks and bank holding companies as those entities increase their usage of interstate banking powers granted since 1983 as well as by the September 1994 enactment of the Riegle-Neal Interstate Banking and Branching Act (discussed under "Supervision and Regulation of the Company and its Subsidiaries" below). During the past several years, the closing by regulators of a number of banks and bank holding companies in Eastern Massachusetts and Connecticut followed, in general, by acquisitions of small- and medium-sized banks and bank holding companies by the largest New England bank holding companies, as well as recently somewhat improved economic conditions within the region have resulted in fewer but financially stronger competitors in the local markets served by the Company's banking subsidiaries.
SUPERVISION AND REGULATION OF THE COMPANY AND ITS SUBSIDIARIES
GENERAL
As a bank holding company registered under the Bank Holding Company Act of 1956, as amended (the "BHC Act"), the Company is subject to substantial regulation and supervision by the Federal Reserve Board. As state-chartered banks, USTC, USTrust and UST/Conn (collectively, the "Subsidiary Banks") are subject to substantial regulation and supervision by the FDIC and the applicable state bank regulatory agencies. Such activities are often intended primarily for the protection of depositors or are aimed at carrying out broad public policy goals that may not be directly related to the financial services provided by the Company and its subsidiaries. Federal and state banking and other laws impose a number of requirements and restrictions on the business operations, investments and other activities of depository institutions and their affiliates. Since
1992, the Company and its banking subsidiaries have been operating under regulatory agreements and orders with state and federal bank regulatory authorities. In February 1994, the order under which USTC was operating was lifted and terminated. See "Recent Developments-Bank Regulatory Agreements and Orders" above.
GENERAL SUPERVISION AND REGULATION
The Company, as a bank holding company under the BHC Act, is registered with the Federal Reserve Board and is regulated under the provisions of the BHC Act. Under the BHC Act the Company is prohibited, with certain exceptions, from acquiring direct or indirect ownership or control of more than 5% of the voting shares of any company which is not a bank and from engaging in any business other than that of banking, managing or controlling banks or furnishing services to, or acquiring premises for, its affiliated banks, except that the Company may engage in and own voting shares of companies engaging in certain activities determined by the Federal Reserve Board, by order or by regulation, to be so closely related to banking or to managing or controlling banks "as to be a proper incident thereto."
The Company is required by the BHC Act to file with the Federal Reserve Board an annual report and such additional reports as the Federal Reserve Board may require. The Federal Reserve Board also makes periodic inspections of the Company and its subsidiaries. The BHC Act requires every bank holding company to obtain the prior approval of the Federal Reserve Board before it may acquire substantially all of the assets of any bank, or ownership or control of any voting shares of any bank, if, after such acquisition, it would own or control, directly or indirectly, more than 5% of the voting shares of such bank.
Because the Company is also a bank holding company under the Massachusetts General Laws, the Massachusetts Commissioner has authority to require certain reports from the Company from time to time and to examine the Company and each of its subsidiaries. The Massachusetts Commissioner also has enforcement powers designed to prevent banks from engaging in unfair methods of competition or unfair or deceptive acts or practices involving consumer transactions. Prior approval of the Massachusetts Board of Bank Incorporation is also required before the Company may acquire any additional commercial banks located in Massachusetts or in those states which permit acquisitions of banking institutions located in their states by Massachusetts bank holding companies.
The Connecticut General Statutes require that the Company furnish to the Connecticut Commissioner such reports as the Connecticut Commissioner deems appropriate to the proper supervision of the Company. The Connecticut Commissioner is also authorized to make examinations of the Company and its Connecticut subsidiaries including UST/Conn, and to order the Company to cease and desist from engaging in any activity which constitutes a serious risk to the financial safety, soundness or stability of the Company or UST/Conn, or is inconsistent with sound banking principles or the provisions of the banking laws of Connecticut.
The location of nonbank subsidiaries of the Company is not restricted geographically under the BHC Act. In 1989, after the passage of the Financial Institutions Reform, Recovery and Enforcement Act of 1989 ("FIRREA"), the Federal Reserve Board amended its regulations under the BHC Act to permit bank holding companies, as a nonbanking activity, to own and operate savings associations without geographical restrictions. Furthermore, in September, 1994, the Riegle-Neal Interstate Banking and Branching Act of 1994 (the "Interstate Banking Act") was enacted. The Interstate Banking Act's provisions, among other things: (i) permit bank holding companies, under certain circumstances, to acquire control of banks in any state beginning September 28, 1995, subject to (a) specified maximum national and state deposit concentration limits; (b) any applicable state law provisions requiring that the acquired bank has to have been in existence for a specified period of up to 5 years; (c) any applicable nondiscriminatory state provisions that make an acquisition of a bank contingent upon a requirement to hold a portion of such bank's assets available for call by a state sponsored housing entity; and (d) applicable anti-trust laws; (ii) authorize interstate mergers by banks in different states, including branching through bank mergers, beginning June 1, 1997, subject to the provisions noted in (i) and to any state laws that opt in as of an earlier date or opt out of the provision entirely; (iii) authorize states to enact legislation permitting interstate de novo branching; and (iv) provide for parity of treatment for foreign bank branch activities. Proposed legislation has been filed in each of Massachusetts and
Connecticut which, if enacted, would cause those jurisdictions to "opt-in" prior to June 1, 1997. The full impact of the Interstate Banking Act will not be clear until the state legislatures have voted and the banking regulatory agencies have adopted final regulations.
The Subsidiary Banks, whose deposits are insured by the FDIC, and the subsidiaries of such banks are subject to a number of regulatory restrictions, including certain restrictions upon: (i) extensions of credit to the Company and the Company's nonbanking affiliates (collectively with the Company, the "Affiliates"), (ii) the purchase of assets from Affiliates, (iii) the issuance of a guarantee or acceptance of a letter of credit on behalf of Affiliates and (iv) investments in stock or other securities issued by Affiliates or acceptance thereof as collateral for an extension of credit. In addition, all transactions among the Company and its direct and indirect subsidiaries must be made on an arm's length basis and valued on fair market terms. The Subsidiary Banks pay substantial deposit insurance premiums to the FDIC. Such deposit premium rates were substantially increased in 1992 pursuant to regulations issued under the Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"). In early 1995, the FDIC proposed that deposit premiums be reduced substantially, except for banks with the most unfavorable risk profiles. It is too early to determine whether this proposal will be implemented or what effect it will have on the Company's earnings.
Federal Reserve Board Policy requires bank holding companies to serve as a source of strength to their subsidiary banks by standing ready to use available resources to provide adequate capital funds to subsidiary banks during periods of financial stress or adversity. A bank holding company also can be liable under certain provisions of FDICIA for the capital deficiencies of an undercapitalized bank subsidiary. In the event of a bank holding company's bankruptcy under Chapter 11 of the U.S. Bankruptcy Code, the trustee will be deemed to have assumed and is required to cure immediately any deficit under any commitment by the debtor to any of the federal banking agencies to maintain the capital of an insured depository institution, and any claim for breach of such obligation will generally have priority over most other unsecured claims. Under the cross-guarantee provisions of the Federal Deposit Insurance Act, if any or all of the Subsidiary Banks were placed in conservatorship or receivership, the Company, as sole stockholder, would likely lose its investment in the applicable Subsidiary Bank or Subsidiary Banks, and, in addition, its investment in its other Subsidiary Bank or Subsidiary Banks would be at risk.
The Company and all its subsidiaries are also subject to certain restrictions with respect to engaging in the issue, flotation, underwriting, public sale or distribution of certain types of securities. In addition, under both Section 106 of the 1970 Amendments to the BHC Act and regulations which have been issued by the Federal Reserve Board, the Company and its subsidiaries are prohibited from engaging in certain tie-in arrangements in connection with any extension of credit, lease or sale of any property or the furnishing of any service. Various consumer laws and regulations also affect the operations of the Subsidiary Banks.
The Subsidiary Banks, two of which are chartered under Massachusetts law and one of which is chartered under Connecticut law, are subject to federal requirements to maintain cash reserves against deposits, and to state mandated restrictions upon the nature and amount of loans which may be made by the banks (including restrictions upon loans to "insiders" of the Company and its subsidiary banks) as well as to restrictions relating to dividends, investments, branching and other bank activities.
FDICIA prescribes the supervisory and regulatory actions that will be taken against undercapitalized insured depository institutions for the purposes of promptly resolving problems at such institutions at the least possible long-term loss to the FDIC. Five categories of depository institutions have been established by FDICIA in accordance with their capital levels: "well capitalized," "adequately capitalized," "undercapitalized," "significantly undercapitalized," and "critically undercapitalized." The federal banking agencies have adopted uniform regulations to implement the prompt regulatory action provisions of FDICIA.
Under the uniform regulations, a well-capitalized institution has a minimum tier 1 capital-to-total risk-based assets ratio of 6 percent, a minimum total capital-to-total risk-based assets ratio of 10 percent and a minimum leverage ratio of 5 percent and is not subject to any written agreement, order or capital directive. An adequately capitalized institution meets all of its minimum capital requirements under the existing capital adequacy guidelines. An undercapitalized institution is one that fails to meet any one of the three minimum capital requirements. A significantly undercapitalized institution has a tier 1 capital-to-total risk-based assets
ratio of less than 3 percent, a tier 1 leverage ratio of less than 3 percent or a total capital-to-total risk-based assets ratio of less than 6 percent. A critically undercapitalized institution has a tier 1 leverage ratio of 2 percent or less. An institution whose capital ratios meet the criteria for a well capitalized institution may be classified as an adequately capitalized institution due to qualitative and/or quantitative factors other than capital adequacy. An adequately capitalized institution or undercapitalized institution, may under certain circumstances, be required to comply with supervisory action as it if were in the next lower category.
An undercapitalized institution is required to submit a capital restoration plan for acceptance by the appropriate federal banking agency and will be subject to close monitoring of both its condition and compliance with, and progress made pursuant to, its capital restoration plan. The capital restoration plan will be accepted only if (i) it specifies the steps that will be taken to become adequately capitalized and the activities in which the institution will engage, (ii) it is based upon realistic assumptions and it is likely to succeed in restoring the institution's capital, (iii) it does not appreciably increase the institution's risk exposure and (iv) each holding company that controls the institution provides appropriate assurances of performance and guaranties that the institution will comply with the plan until the institution is adequately capitalized on an average basis for each of four consecutive quarters. Liability under the guaranty is the lesser of (i) five percent of the institution's total assets at the time it become undercapitalized and (ii) the amount necessary to bring the institution into compliance with all applicable capital standards as of the time the institution fails to comply with the plan. An institution that fails to submit an acceptable plan may be placed into conservatorship or receivership unless its capital restoration plan is accepted. An undercapitalized institution will also be subject to restrictions on asset growth, acquisitions, branching, new activities, capital distributions and the payment of management fees.
FDICIA requires the appropriate regulatory agencies to take one or more specific actions against significantly undercapitalized institutions and undercapitalized institutions that fail to submit acceptable capital restoration plans, which actions include but are not limited to (i) requiring the institution to sell shares or other obligations to raise capital, (ii) limiting deposit interest rates, (iii) requiring the election of a new board of directors and/or dismissing senior executive officers and directors who held such positions for more than 180 days before the institution became undercapitalized, (iv) prohibiting receipt of deposits from correspondent banks, (v) requiring divestiture or liquidation of one or more subsidiaries and (vi) requiring the parent company to divest the institution if such divestiture will improve the institution's financial condition and future prospects. In addition, an insured institution that receives a less-than-satisfactory rating for asset quality, management, earnings or liquidity may be deemed by its appropriate federal banking regulator to be engaging in an unsafe or unsound practice for purposes of issuing an order to cease and desist or to take certain affirmative actions. If the unsafe or unsound practice is likely to weaken the institution, cause insolvency or substantial dissipation of assets or earnings or otherwise seriously prejudice the interest of depositors or the FDIC, a receiver or conservator could be appointed. Finally, subject to certain exceptions FDICIA requires critically undercapitalized institutions to be placed into receivership or conservatorship within 90 days after becoming critically undercapitalized.
The Federal Reserve Board has indicated that it will consult with each federal banking agency regulating the bank subsidiaries of a holding company to monitor required supervisory actions, and based upon an assessment of these developments, will take appropriate action at the holding company level.
Under FDICIA, federal bank regulators are also required to see that changes are made in the operations and/or management of a bank or bank holding company if the financial institution is deemed to be "undercapitalized." Under FDICIA, a depository institution that is "adequately capitalized" but not "well capitalized" is generally prohibited from accepting brokered deposits and offering interest rates on deposits higher than the prevailing rate in its market. In addition, "pass through" insurance coverage may not be available for certain employee benefit accounts. The Company believes that the application of these limitations to it would not have a material effect on its funding or liquidity.
USTC is currently classified as "well capitalized" and USTrust and UST/Conn are each currently classified as "adequately capitalized".
Additional regulations adopted pursuant to FDICIA include: (1) real estate lending standards for depository institutions, which provide guidelines concerning loan-to-value ratios for various types of real estate loans; (2) rules requiring depository institutions to develop and implement internal procedures to evaluate and control credit and settlement exposure to their correspondent banks; (3) rules implementing the FDICIA provisions prohibiting, with certain exceptions, insured state banks from making equity investments or engaging in activities of the types and amounts not permissible for national banks; and (4) rules and guidelines for enhanced financial reporting and audit requirements. Rules currently proposed for adoption pursuant to FDICIA include: (1) revisions to the risk-based capital guidelines regarding interest rate risk, concentrations of credit risk and the risks posed by "nontraditional activities", and (2) rules addressing various "safety and soundness" issues, including operations and managerial standards, standards for asset quality, earnings and compensation standards.
The status of the Company as a registered bank holding company does not exempt it from certain federal and state laws and regulations applicable to corporations generally, including, without limitation, certain provisions of the federal securities laws and the Massachusetts corporate laws. With the passage of FIRREA in 1989, the Crime Control Act in 1990 and FDICIA in 1991, federal bank regulatory agencies including the Federal Reserve Board and the FDIC were granted substantially broader enforcement powers to restrict the activities of financial institutions and to impose or seek the imposition of increased civil and/or criminal penalties upon financial institutions, the individuals who manage or control such institutions and "institution affiliated parties" of such entities.
Pursuant to the Community Reinvestment Act ("CRA"), federal regulatory authorities review the performance of the Company and its subsidiary banks in meeting the credit needs of the communities served by the subsidiary banks. The applicable federal regulatory authority considers compliance with this law in connection with applications for, among other things, approval of branches, branch relocations and acquisitions of banks and bank holding companies. USTrust's current CRA rating is "outstanding" and UST/Conn's current CRA rating is "needs improvement". UST/Conn in 1994 entered into an informal Memorandum of Understanding concerning CRA matters with the FDIC as described under "Recent Developments -- Bank Regulatory Agreements and Orders" above. The FDIC has determined that it will no longer examine USTC, which focuses upon trust and asset management activities, for CRA compliance. The Massachusetts Commissioner has continued to examine USTC for CRA compliance, and currently rates USTC "satisfactory".
On September 23, 1994, the federal Riegle Community Development and Regulatory Improvement Act of 1994 (the "Community Development Act") was enacted. The Community Development Act establishes financial and other assistance for entities involved primarily in community development activities. The Community Development Act's provisions also make changes in a number of areas including, among others: (i) increasing restrictions on some types of high interest loans; (ii) improving small business access to capital; (iii) requiring federal banking agencies to, among other things, coordinate examinations and establish uniform regulations and guidelines where appropriate; (iv) simplifying and expediting the processing and approvals for certain applications; (v) expanding the exemptions available to a holding company's subsidiary banks with respect to FDICIA's audit requirements; (vi) adding flexibility to FDICIA's safety and soundness standards by, among other things, permitting their issuance as guidelines and allowing banking agencies more discretion in handling noncompliance; (vii) amending certain requirements on insider loans; (viii) modifying local residency requirements for national bank directors; (ix) limiting the applicability of certain real estate settlement procedures; and (x) extending some management interlocks exemptions. It is anticipated that the Community Development Act will reduce slightly certain regulatory burdens on financial institutions, including the Company's subsidiaries.
From time to time various proposals are made in the United States Congress as well as state legislatures which would alter the powers of, and place restrictions on, different types of bank organizations as well as bank and nonbank activities. Such legislative proposals include proposals related to expansion of bank powers and increased consumer compliance disclosure requirements. It is impossible to predict whether any of the current proposals will be adopted and the impact of such adoption on the business of the Company or its subsidiaries.
Supervision, regulation and examination of the Subsidiary Banks by the bank regulatory agencies are not intended for the protection of the Company's security holders.
GOVERNMENTAL POLICIES, ECONOMIC CONDITIONS AND CREDIT RISK CONCENTRATION
The earnings and business of the Company's subsidiaries are and will be affected by a number of external influences, including general economic conditions in the United States and particularly in New England and the policies of various regulatory authorities of the United States, including the Federal Reserve Board. The Federal Reserve Board regulates the supply of money and of bank credit to influence general economic conditions within the United States and throughout the world. From time to time, the Federal Reserve Board takes specific steps to dampen domestic inflation and to control the country's money supply. The instruments of monetary policy employed by the Federal Reserve Board for these purposes (including the level of cash reserves banks, including nonmember banks such as all three of the Company's banking subsidiaries, are required to maintain against deposits) influence in various ways the interest rates paid on interest-bearing liabilities and the interest received on earning assets, and the overall level of bank loans, investments and deposits. The impact upon the future business and earnings of the Company of prospective domestic economic conditions, and of the policies of the Federal Reserve Board as well as other U.S. regulatory authorities, cannot be predicted accurately.
During the period from 1990 through 1993, the Company's primary loan market, the New England region, suffered from a weak economic environment. The economic climate contributed to a decline in real estate values and adversely affected the net worth of certain borrowing customers of the Company's subsidiary banks and the Company's collateral position with respect to certain loans. The New England regional economy improved somewhat in 1994, which aided the Company's loan workout efforts in 1994. The New England region, however, still lags behind the economic growth experienced in the other regions of the United States. Most of the Company's loans outstanding are from borrowers located in Eastern Massachusetts and a substantial portion of these loans are various types of real estate loans; still others have real estate as additional collateral. At year-end 1994, the Company's exposure to credit risk from borrowers who had real estate as their primary collateral support, included $426 million of loans. In addition to the foregoing, during the second half of 1994 and early 1995 prevailing interest rates rose substantially. The current increase and further increases, if any, in the Base Lending Rate used by the Company's subsidiary banks may have an adverse effect upon the ability of some borrowers to repay their loans. See "Management's Discussion and Analysis of Financial Conditions and Results of Operations" below.
GENERAL
No significant portion of the loans or deposits of any of the Company's banking subsidiaries results from one or several accounts, the loss of which would materially affect its business. The Company does not experience significant seasonal fluctuations in its business.
EMPLOYEES
As of December 31, 1994, the Company and its subsidiaries employed approximately 870 full-time plus part-time people.
ITEM 2.



ITEM 2. PROPERTIES
USTrust owns a twelve-story brick and steel building constructed in 1915 and located at Government Center, 30-40 Court Street, Boston, Massachusetts. The banking premises of USTrust, USTC and the offices of the Company and all of its nonbanking subsidiaries utilize 99.9% of the 89,014 square feet in the building and the remaining space is leased as offices to one tenant.
The Company currently leases a three-story brick office building of approximately 37,900 square feet as well as 29,003 square feet in a recently-constructed adjacent office tower at 141 Portland Street, Cambridge, Massachusetts, all of which is used by USTrust and UST Data Services Corp. USTrust also leases approximately 26,080 square feet of space at 25-55 Court Street, Boston, which is used primarily to house staff
support services. In 1991, USTC sold the 25-55 Court Street, Boston, building to a third party, unaffiliated with the Company.
USTrust owns six branch offices in Boston, Milton Village, Norwood, Randolph, Stoughton and Swampscott, Massachusetts, all of which were acquired by the Company in 1991 from the Resolution Trust Corporation as part of the acquisition and assumption of certain assets, deposits and branches of Home Owners Savings Bank F.S.B. USTrust also owns four branch offices in Canton, Gloucester, Milton, and Natick, Massachusetts. UST/Conn owns one branch office in Huntington, Connecticut. UST/Conn also owns a former branch building in Shelton, Connecticut, which it expects to sell to a non-affiliated third party in 1995. The remaining branch offices of the Company occupy leased premises.
The 1995 annual leasehold commitment for all premises leased by the Company's subsidiaries totals approximately $3,955,000, not including expenses related to tax or maintenance escalation provisions. See Note 14 to the Company's Consolidated Financial Statements.
ITEM 3.

ITEM 3. LEGAL PROCEEDINGS
In the ordinary course of operations, the Company and its subsidiaries become defendants in a variety of judiciary and administrative proceedings. In the opinion of management, however, there is no proceeding pending, or to the knowledge of management threatened, which is likely to result in a material adverse change in the financial condition or results of operations of the Company and its subsidiaries.
ITEM 4.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
--NONE--
PART II
ITEM 5.

ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED SECURITY HOLDER MATTERS
The common stock of the Company is traded over the counter and its price is quoted on the NASDAQ National Market System. During the period January 1, 1993, to December 31, 1994, the range of bid prices was as follows:
Such over-the-counter market quotations reflect inter-dealer prices, without retail markup, markdown or commission and may not represent actual transactions.
The number of holders of record of common stock of the Company was 2,059 at January 31,1995.
There were no dividends declared during 1994 and 1993.
Future dividends will depend upon the financial condition and earnings of the Company and its subsidiaries, their need for funds and other factors, including applicable government regulations and regulatory consent. See "Recent Developments -- Bank Regulatory Agreements and Orders" in Part 1, Item 1 above, and the discussion of capital in Management's Discussion and Analysis of Financial Condition and Results of Operations below.
In connection with the $20 million senior debt private placement transaction of August 1986 of which $8 million currently remains outstanding (see Note 8 to the Notes to Consolidated Financial Statements of the Company), the Company agreed not to make dividend payments in excess of 60% of cumulative net earnings since December 31, 1985 plus $7 million. The Company does not expect that this provision will adversely affect its ability to pay future dividends which it deems appropriate.
ITEM 6.

ITEM 6. SELECTED FINANCIAL DATA
UST CORP. CONSOLIDATED SUMMARY OF SELECTED FINANCIAL DATA(1)
ITEM 7.

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FINANCIAL CONDITION AT DECEMBER 31, 1994
INTRODUCTION
During 1994 the Company continued its emphasis on the resolution of problem assets. As a result, the Company successfully reduced the level of substandard loans, as measured by the Company's internal risk rating system, by over 50 percent from a level of $255 million at December 31, 1993 to $115 million at December 31, 1994. See "Credit Quality and Reserve for Possible Loan Losses" on page 20 of this Form 10-K for a further discussion.
During the period 1990 to 1993, the Company's primary loan market, the New England region, suffered from a weak economic environment. The economic climate contributed to a decline in real estate values and adversely affected the net worth of certain borrowing customers of the Company's subsidiary banks and the Company's collateral position with respect to certain loans. The New England regional economy improved throughout 1994 which has aided loan workout efforts. The region, however, still lags behind the economic growth experienced nationally.
The local economic factors and the Company's efforts to reduce nonperforming assets and substandard loans continued to influence the Company's financial results for 1994; particularly with regard to the provision for possible loan losses and the high level of expenses associated with foreclosed assets and loan workout.
This discussion should be read in conjunction with the financial statements, notes, and tables included elsewhere in this Form 10-K. Certain amounts reported for prior periods have been reclassified to conform with the 1994 presentation.
ASSETS
Total assets at December 31, 1994 were $1.80 billion compared with $2.04 billion a year ago. The Company's loan portfolio decreased 5 percent, or $72.7 million, to $1.27 billion. The decrease reflects a combination of normal amortization and increased competition for the small-to-middle market credits. Another factor in the reduction of the loan portfolio was the outflow of problem loans through collection, chargeoff or third-party refinancing. See "Credit Quality and Reserve for Possible Loan Losses" herein.
Presently, the Company anticipates a modest growth in earning assets in the coming year from a combination of business development efforts to expand the commercial and retail loan portfolios moderated by the continued reduction of existing problem assets. Funding for asset growth will be provided by deposit growth achieved through more aggressive pricing and deposit product promotion.
Loans
The following table presents the composition of the loan portfolio:
Indirect automobile installment loans represent loans purchased without recourse from automobile dealers. Automobile loans made directly to consumers are not significant and are included with other consumer loans.
As a result of a 1990 transaction with the Resolution Trust Corporation ("RTC") wherein the Company purchased certain assets and assumed certain deposit liabilities of a failed savings and loan institution, Home Owners Federal Savings Bank F.S.B., the Company had $513.6 million of loans held for sale at December 31, 1990, and, therefore, not included in the above table. All of these loans were repurchased by the RTC in 1991.
Loan Maturity Distribution
The following table reflects the maturity and interest sensitivity of commercial and financial, and real estate loans, at December 31, 1994:
The Company does not have an automatic rollover (renewal) policy for maturing loans. Renewal requests are reviewed and approved in substantially the same manner as applications by new customers for extensions
of credit. Additionally, any renewal of a loan rated Substandard or lower in the Company's risk rating profile, irrespective of size, requires Senior Lending Management and Board of Directors approval.
Securities
Securities decreased $72.3 million since year-end 1993 to $401.6 million at December 31, 1994, reflecting the maturity of short-term U. S. Treasury and Agency securities. At December 31, 1994, securities were principally comprised of mortgage-backed securities, U. S. Treasury and Agency securities, and corporate notes.
On December 31, 1993, the Company adopted Statement of Financial Accounting Standards No. 115 ("SFAS No. 115"), "Accounting for Certain Investments in Debt and Equity Securities," issued by the Financial Accounting Standards Board. The Statement addresses the accounting and reporting for debt and equity securities that have readily determinable market values. According to SFAS No. 115, these securities must be classified as either held-to-maturity, available-for-sale, or trading and are reported at either amortized cost or fair value, depending upon the classification. Refer to Note 1 to the Notes to Consolidated Financial Statements of this Form 10-K for a further discussion on SFAS No. 115. At December 31, 1994, the Company's portfolio consisted of $.1 million of securities held-to-maturity and $401.5 million available-for-sale. At December 31, 1993, all securities were classified in the available-for-sale category. The application of SFAS No. 115 resulted in a net decrease of $26.9 million to stockholders' investment in 1994, representing the change from an unrealized gain of $3.3 million after tax at December 31, 1993 to an unrealized loss of $23.6 million after tax at December 31, 1994. In light of the size of the unrealized loss and its current level of taxable income, the Company concluded that full recognition of the deferred tax amount was not appropriate and as such limited the amount of the recorded benefit to $5.4 million at December 31, 1994. The decline in market value reflects the rapid increase in interest rates and corresponding decline in market prices for bonds, which occurred throughout 1994.
The Company has a policy of purchasing securities primarily rated A or better by Moody's Investors Services and in U.S. Government securities. Due to the Tax Reform Act of 1986, and the resulting reduction in their tax-exempt nature, the Company decided to forego major new investments in its tax-exempt portfolio. The following table sets forth the book value of the securities owned by the Company. Data presented for 1994 and 1993 includes securities available-for-sale at fair value of $401.5 million and $473.9 million, respectively. Data presented for 1992 includes both the investment portfolio and securities held for sale.
The following table includes securities available-for-sale with their maturities at December 31, 1994, and the approximate weighted tax equivalent yields (at the statutory federal tax rate of 34%). Mortgage-backed securities are shown at or based on their final maturity but are expected to have shorter average lives. Yields presented in this table have been computed using the amortized cost of the securities.
At December 31, 1994 the Company owned the following corporate notes, whose aggregate fair value was in excess of 10% of stockholders' investment.
These securities are unsecured corporate notes of investment grade. They carry the normal credit risk associated with such instruments.
All securities carry interest rate risk. Additionally, mortgage-backed securities carry prepayment risk. See Note 1 to the Notes to Consolidated Financial Statements, "Summary of Significant Accounting Policies" on page 36 of this Form 10-K for a discussion of prepayment risk.
LIQUIDITY AND FUNDING
Liquidity involves the Company's ability to raise or gain access to funds in order to fulfill its existing and anticipated financial obligations. It may be provided through the maturity or sale of an entity's assets, such as loans and securities available-for-sale, liability sources such as increased deposits and purchased or borrowed funds, and access to the capital markets. While the Company's security portfolio is currently classified almost entirely as available-for-sale, the Company has no present intention or need to sell any of its securities or existing loan portfolio, other than a nominal volume of fixed-rate residential mortgage loans sold to investors as they are originated.
At December 31, 1994, liquidity, which includes excess cash, excess funds sold and unpledged securities, totaled approximately $259 million, or 14% of total assets, a $51 million decrease from 1993.
The funds needed to support the Company's loan and securities portfolios are provided through a combination of commercial and retail deposits and short-term borrowings. Total deposits decreased $150 million, or 9%, to $1.5 billion since December 31, 1993. Approximately 97% of the decline occurred in savings and time deposits. For most of 1994, rate-conscious investors utilized mutual funds and other nonbank
vehicles to obtain higher rates of return but began to take advantage of the bank's competitive certificate of deposit rates by the end of the year.
As shown in the Consolidated Statements of Cash Flows, cash and cash equivalents increased $2.9 million during 1994. Cash provided by operations resulted largely from net interest income from loans and securities, less the net difference of noninterest expense over noninterest income. Cash provided by investing activities was due principally to the net decreases in short-term investments, net decreases in loans through repayment, and to an excess of proceeds from sales and maturities of securities over securities purchases. Cash used for financing activities was primarily the result of decreases in both demand deposits and certificates of deposit and a net decrease in short-term borrowings.
At December 31, 1994, the parent company had $16 million in securities available-for-sale. This balance reflects the investment of proceeds received from the sale of 2.87 million shares of the Company's common stock to more than sixty institutional investors in a European offering made under Regulation S of the United States Securities and Exchange Commission on August 12, 1993. These investments were reduced from $21 million to $16 million during 1994 as the Company paid its third annual principal installment of $4 million and accrued interest on its 8.5% Senior Notes.
For the year ended December 31, 1994, the Company received a total of $3 million in dividends from its asset management and trust subsidiary, United States Trust Company ("USTC"). During the same period $4.9 million was contributed to UST Bank/Connecticut ("UST/Conn") and $500 thousand was contributed to USTrust by the Company to supplement their respective equity capital accounts.
Deposits
The following table sets forth the remaining maturities of certificates of deposit in the amount of $100 thousand or more at December 31, 1994:
Short-term Borrowings
The Company's short-term borrowings consist primarily of federal funds purchased and securities sold under agreements to repurchase. These instruments are generally overnight funds.
INTEREST RATE RISK
Volatility in interest rates requires the Company to manage interest rate risk which arises from differences in the timing of repricing of assets and the liabilities. Management monitors and adjusts the difference between interest-sensitive assets and interest-sensitive liabilities ("GAP" position) within various
time frames. An institution with more assets repricing than liabilities within a given time frame is considered asset sensitive ("positive GAP") and in time frames with more liabilities repricing than assets it is liability sensitive ("negative GAP"). Within GAP limits established by the Board of Directors, the Company seeks to balance the objective of insulating the net interest margin from rate exposure with that of taking advantage of anticipated changes in rates in order to enhance income. The Company's policy is to limit its one-year cumulative GAP position to 2.5 times equity, presently equal to approximately 18% of total assets. The Company manages its interest rate GAP primarily by lengthening or shortening the maturity structure of the Company's securities portfolio.
The Company's GAP presentation may not reflect the degrees to which interest-earning assets and core deposit costs respond to changes in market interest rates. The Company's rate-sensitive assets consist primarily of loans tied to the prime rate. As interest rates rose during 1994, the prime rate and, therefore, the Company's yield on earning assets increased faster than the rate paid on interest-bearing liabilities.
The following table summarizes the Company's GAP position at December 31, 1994. The majority of loans are included in 0-30 days as they reprice in response to changes in the interest rate environment. Interest-bearing deposits are classified according to their expected interest rate sensitivity. Actual sensitivity of these deposits is reviewed periodically and adjustments are made in the Company's GAP analysis that management deems appropriate. Securities and noninterest-bearing demand deposits are categorized according to their expected lives based on published industry prepayment estimates in the case of securities and current management estimates for demand deposits. Securities are evaluated in conjunction with the Company's asset/liability management strategy and may be purchased or sold in response to expected or actual changes in interest rates, prepayment risk, loan growth and similar factors. The reserve for possible loan losses is included in the "Over 1 Year" category of loans. At December 31, 1994, the one-year cumulative GAP position was slightly positive at $50 million, or approximately 3% of total assets.
During the fourth quarter of 1994, management reclassified certain deposit liabilities from 0-30 days to periods greater than 30 days. The effect of this reclassification was an increase in cumulative GAP and higher percentages of total assets for all periods presented.
CAPITAL
There are three capital requirements which banks and bank holding companies must meet. Two requirements take into consideration risks inherent in assets for both on-balance and off-balance sheet items on a risk weighted basis ("risk-based assets"). Risk weightings are as determined by banking regulators for the industry as a whole. Under these requirements, the Company must meet minimum Tier 1 and Total risk-based capital ratios (capital, as defined in the regulations, divided by risk-based assets) of 4% and 8%,
respectively. Tier 1 capital is essentially shareholders' investment, net of intangible assets and Tier 2 capital is the allowable portion of the loan loss reserve (as defined) and discounted subordinated debt. Total capital is the combination of Tier 1 and Tier 2. The third requirement is a leverage capital ratio, defined as Tier 1 capital divided by total average assets, net of intangibles. All but the most highly-rated banks are required to maintain a minimum of 4%. While the Company has not been notified of a specific requirement above the minimum, two of the Company's banking subsidiaries are required under regulatory agreements to maintain, and in fact have, over 6% Tier 1 leverage capital. Those two banking subsidiaries comprise almost all of the consolidated assets of the Company. See discussion below concerning capital requirements for the Company and its banking subsidiaries resulting from regulatory agreements.
At December 31, 1994 and 1993, the Company's consolidated risk-based assets were $1.52 billion and $1.64 billion, respectively. The capital ratios and regulatory minimum requirements applicable to the Company were:
Capital ratios have been calculated consistent with regulatory policy which excludes the impact of SFAS No. 115 and the recording of an unrealized gain/loss on securities available-for-sale. However, as required, any net unrealized loss on marketable equity securities has been deducted from Tier 1 capital.
Effective August 3, 1992, UST Corp. entered into a written agreement with the FRB-Boston and the Massachusetts Commissioner which requires the Company to maintain Tier 1, Total risk-based and Tier 1 leverage capital ratios which conform to the Capital Adequacy Guidelines of the Board of Governors of the Federal Reserve System, and which take into account the current and future capital requirements of the subsidiary banks, without specifying a numeric minimum for the Tier 1 leverage capital ratio. The Company believes its consolidated ratios meet the required minimums.
Additionally, per this agreement, the Company has agreed not to pay any dividends to stockholders, nor take any dividends from its banking subsidiaries, without prior regulatory approval. Similarly, the banking subsidiaries in agreements with their primary regulators have agreed to refrain from transferring funds in the form of dividends to the Company without prior regulatory approval. See "Recent Developments -- Bank Regulatory Agreements and Orders," page 1. The FDIC and Massachusetts Commissioner terminated and lifted the Consent Agreement and Order with USTC in February 1994; however, USTC has agreed to continue to request regulatory consent prior to the payment of dividends. As previously mentioned in this Form 10-K, regulatory approval was obtained for dividends to the Company of $3 million from USTC and the Company's capital contribution of $4.9 million to UST/Conn and $500 thousand to USTrust.
The Tier 1 leverage capital ratios and regulatory minimum requirements for the Company's subsidiary banks at December 31, 1994 and 1993 were:
In February 1992, the Company's two Massachusetts-based banking subsidiaries, USTC and USTrust, each entered into a Consent Agreement and Order with the FDIC and the Massachusetts Commissioner. In accordance with these agreements, the banks agreed to, among other things, maintain a Tier 1 leverage capital ratio at or in excess of 6% by February 1993. In February 1994, the FDIC and Massachusetts Commissioner terminated and lifted the Consent Agreement and Order with USTC. Since June 1991, the Company's Connecticut-based banking subsidiary, UST/Conn, has been operating under a Stipulation and Agreement with the Commissioner of Banks for the State of Connecticut. This agreement was amended in August 1992, November 1993 and July 1994 and requires UST/Conn to maintain a 6% Tier 1 leverage capital ratio.
Recent amendments to risk-based capital guidelines will affect the amount of deferred tax assets that may be included in Tier 1 capital for risk-based and leverage capital purposes. Under the new rule, which becomes effective April 1, 1995, deferred tax assets would be limited to the amount that an institution expects to realize within one year, or 10% of Tier 1 capital, whichever is less. The Company's consolidated Tier 1, Total risk-based capital and leverage capital ratios at December 31, 1994 would be unaffected by this new regulation. The revised regulation would have an insignificant effect on the Tier 1 leverage capital ratios of USTrust and USTC. Earlier this year UST/Conn's FDIC and state regulators indicated that the bank should be using the more stringent calculation which the December 31, 1994 numbers above reflect.
The Company and each of its subsidiary banks are currently in compliance with their respective capital requirements under these regulatory agreements.
CREDIT QUALITY AND RESERVE FOR POSSIBLE LOAN LOSSES
In 1993 a strategy was adopted which recognized that many troubled credit situations will need to be handled in an expeditious manner in order to reduce the management and staff involvement and, in some cases, carrying costs of these workouts. This would allow the Company's resources to be redirected toward new business. It would increase the up-front cost of the workouts, however. As a result, the company recorded a $64.3 million provision for possible loan losses in that year. Included in that amount was a special provision of $30 million recorded in the second quarter of 1993. This special provision was management's estimate of the additional losses to be incurred from the strategic change referred to above, the continued sluggish economic climate and losses to be recorded during the remainder of 1993 on these and other credits as a result of recent events or new facts.
In 1994 the Company continued with its strategy to reduce the level of problem credits while maintaining its reserve for possible loan losses position. Net chargeoffs for the year were $23.7 million which were almost entirely matched by provisions to the loan loss reserve. As a result, the reserve for possible loan losses decreased only slightly to $61.9 million and equaled 4.9% of loans outstanding, 126% of nonaccrual loans and 73% of total nonperforming assets compared with 4.7%, 127% and 56%, respectively, a year ago. Total nonperforming assets were reduced $25.9 million to $84.9 million, primarily as a result of a lower level of troubled debt restructurings.
Loans classified as Substandard, Doubtful or Loss, as determined by the Company in its internal credit risk rating profile, were $115 million at December 31, 1994 compared with $255 million a year ago, a decrease of $140 million. Loans classified as Substandard and Doubtful were $96 million and $19 million, respectively, at year-end 1994 and no loans were classified as Loss. The level of loans in these categories and their total are an important factor in the Company's analysis of the adequacy of its reserve for possible loan losses. Under the Company's definition, Substandard loans are characterized by the distinct possibility that some loss will be sustained if the credit deficiencies are not corrected. The Substandard classification, however, does not necessarily imply ultimate loss for each individual loan so classified. Loans classified as Doubtful have all the weaknesses inherent in Substandard loans with the added characteristic that the weaknesses make collection of 100 percent of the assets questionable and improbable.
As of year end 1994, approximately 70 percent of loans classified as Substandard or Doubtful were collateralized with real estate, and the remainder were collateralized with accounts receivable, inventory, equipment and other business assets. Of the loans secured by real estate, approximately 55 percent were collateralized by commercial real estate development, approximately 30 percent by owner-occupied commer-
cial properties and approximately 10 percent by residential real estate. The remaining loans were collateralized by real estate under construction and raw land.
Nonperforming Assets
The following table displays the Company's total nonperforming assets and measures performance regarding key indicators of asset quality:
--------------- (1) The amount of interest on December 31, 1994 nonaccrual and restructured loans that would have been recorded had the loans been paying in accordance with their original terms during 1994 was approximately $6,259,000. The amount of interest income on these loans included in net income in 1994 was approximately $3,188,000.
(2) Other real estate owned ("OREO") represents assets to which title to the collateral has been taken through foreclosure or in-substance. Other real estate owned is recorded at the lower of the recorded investment in the loan or fair value minus estimated costs to sell ("net realizable value"). Prior to 1992, other real estate owned was recorded at the lower of recorded investment in the loan or fair value. Included in OREO are automobiles owned which are vehicles repossessed for reason of nonpayment. The balance is stated at the lower of the recorded investment in the loan or net realizable value.
(3) Restructured loans are those where interest rates and/or principal repayments have been restructured to defer or reduce payment as a result of financial difficulties of the borrower.
(4) Prior to December 1992, when the Company adopted AICPA Statement of Position 92-3, OREO was reduced to its fair value by direct charges to the asset. Since then, the Company, like other bank holding companies, has used reserves to indicate the net realizable value of its OREO.
At December 31, 1994, in addition to loans on nonaccrual, loans over 90 days and accruing, troubled debt restructurings and other real estate owned, $67 million of accruing commercial and real estate loans, of which, 99 percent were current, have nonetheless been classified as Substandard in the Company's internal risk rating profile. This compares with $206 million a year ago.
Also, at December 31, 1994 loans rated Special Mention in the Company's internal risk rating profile amounted to $16 million, of which 96 percent were current. This compares with $30 million a year ago. Special Mention loans, as defined by the Company, have potential weaknesses that deserve management's close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the assets. There were no loans classified Doubtful that were not disclosed in the above table.
Adverse economic conditions in the future could result in further deterioration of the Company's loan portfolio and the value of its OREO portfolio. Such conditions would also likely result in increases in delinquencies, nonperforming assets, restructured loans, and OREO writedowns which individually or collectively could have a material negative effect on future earnings through reduced interest income, increased provisions for possible loan losses, and higher costs to collect loans and maintain repossessed collateral.
CREDIT QUALITY MONITORING
Credit quality within the commercial and commercial real estate loan portfolios of each subsidiary is quantified by a corporate credit rating system designed to parallel regulatory criteria and categories of loan risk. Lenders monitor their loans to ensure appropriate rating assignments are made on a timely basis. Risk ratings and overall loan quality are also assessed on a regular basis by an independent Loan Review Department which reports to the Company's Board of Directors and its Asset Quality Committee. Loan Review personnel conduct ongoing portfolio trend analyses and individual credit reviews to evaluate loan risk and compliance with corporate lending policies. Results and recommendations from this process provide senior management and the Board of Directors with independent information on loan portfolio condition.
Installment and credit card loan quality is evaluated on the basis of delinquent data due to the large number of such loans and relatively small size of individual credits. Historical trend analysis reports are reviewed on a monthly basis by senior lending officers and the Company's Board of Directors.
All past due loans, nonaccrual loans, and troubled debt restructurings are reviewed at least quarterly by Loan Review Department management and Senior Credit Committee whose membership includes the Chief Executive Officer of the Company and the most senior lending officers in the major lending and credit-related divisions. Loans are placed on nonaccrual when there is doubt as to the collectibility of interest or principal or if loans are 90 days or more past due unless they are both well secured and in the process of collection. In every case, a loan reaching 180 days past due is placed on nonaccrual.
Greater levels of Board and Management attention are being focused on asset quality. In 1992 an Asset Quality Committee of the Company's Board of Directors was established which monitors asset quality trends, reviews the loan loss reserve analyses monthly and actively monitors the large credit exposures. In 1994 this committee began reporting to the Audit Committee. Also in 1992 a new loan administration function, the Credit Risk Control Department, was assigned the responsibility of ensuring compliance with the lending policies, procedures and administrative guidelines of the commercial lending portfolio. The Department head reports to the Chief Executive Officer. An appraisal review function was established within the group to review third-party appraisals for adherence to Federal requirements and to establish policies relating to collateral appraisal.
In a further step to increase the level of control over the troubled loan portfolio and in order to focus specialized expertise, a Workout Department was established during 1992. Most nonaccrual and other troubled loans are handled by this group or in the Commercial Real Estate Department which is under the
direction of the Workout Department management thereby allowing Commercial Loan officers to concentrate their efforts on developing new lending relationships.
In 1993 staffing was increased in both the Loan Review and the Credit Risk Control Departments. Furthermore, a number of systems changes were implemented in 1993 and 1994 to improve control over credit administration. Smaller commercial loans were transferred to the Installment Lending Department where they can be more efficiently monitored.
RESERVE FOR POSSIBLE LOAN LOSSES
The Company maintains a reserve for possible loan losses to absorb future chargeoffs of loans and leases in the existing portfolio. The reserve is increased when a loan loss provision is recorded in the income statement. When a loan, or portion thereof, is considered uncollectible, it is charged against the reserve. Recoveries on amounts previously charged-off are added to the reserve when collected. Adequacy of the reserve for possible loan losses is determined using a consistent, systematic methodology which analyzes the size and risk of the loan and lease portfolio on a monthly basis. Factors in this analysis include historical loss experience and asset quality, as reflected by delinquency trends, nonaccrual and restructured loans and the Company's credit risk rating profile. The Company's credit risk rating profile uses categories of risk based on those currently utilized by its primary regulators. Accuracy of assigned ratings is monitored by an ongoing evaluation by the Company's Loan Review Department. Consideration is also given to the current and expected economic conditions and in particular how such conditions affect the types of credits in the portfolio and the market area in general. This analysis is documented monthly using a combination of numerical, statistical and qualitative analysis (including sensitivity tests) and a written conclusion discussing the rationale supporting the monthly adequacy of the loan loss reserve.
No portion of the reserve is restricted to any loan or group of loans, and the entire reserve is available to absorb future realized losses. Realized losses and the timing thereof may vary from current estimates. An allocation of the loan loss reserve and ratio of loans in each category to total loans at December 31, 1990 through 1994 is presented below:
A summary of loan loss experience for the years ended December 31, 1990 through 1994 is presented below:
RESULTS OF OPERATIONS
COMPARISON OF 1994 WITH 1993
For the year ended December 31, 1994, net income was $4.75 million, or $0.27 per share, compared with a net loss of $20.1 million, or $1.31 per share in 1993. A key factor behind 1994's positive results was a provision for possible loan loss of $23.1 million compared with $64.3 million in 1993. In addition, 1994 writedowns of other real estate owned were $3.8 million compared with $16.2 million in 1993, a decrease of $12.4 million.
The Company's net interest income on a fully taxable equivalent basis decreased slightly from $93.9 million in 1993 to $93.1 million. The decrease reflects a lower volume of interest-earning assets offset by
an improvement in interest rate spread and margin. Spread and margin benefited from interest rate increases throughout the year. See "Net Interest Income Analysis" below.
A comparative analysis for return on average assets and return on average stockholder's investment is shown below:
Return on Average Assets -- Component Analysis
Return on Average Equity -- Component Analysis
Net Interest Income Analysis
After a decline in yield on earning assets, principally loans, in the fourth quarter of 1993 and early 1994, yields, driven by higher interest rates, rose considerably throughout the remainder of the year. The result was an improvement in yield on earning assets from 7.51 percent in 1993 to 7.58 percent in 1994. The cost of interest-bearing liabilities, principally deposits, remained relatively stable during 1994 until the fourth quarter when the Company adopted more aggressive deposit pricing. The cost of interest-bearing liabilities for the year was 2.94 percent compared with 3.13 percent in 1993. The increased yield on earning assets, which outpaced increases in the cost of interest-bearing liabilities, produced an improvement in interest rate spread and margin from 4.38 percent and 4.97 percent in 1993 to 4.64 percent and 5.29 percent, respectively, in 1994. The net effect from changes in rates was an increase in net interest income of $5.4 million.
Current spreads and margins are at historically high levels and are not expected to continue into the future. Rates on loans and other interest-earning assets may continue to increase; however, rates on deposits are expected to rise at a persistent pace, and narrow the current levels of spread and margin.
Average loans outstanding during the year were $1.27 billion, a decrease of $148 million from 1993. Average interest-bearing deposits were $1.18 billion, $111 million below the 1993 level. The effect from changes in volume of loans, deposits and other interest-bearing balances was a decrease in net interest income of $6.2 million.
The following table attributes changes in interest income and interest expense to changes in interest rates and changes in the volume of interest-earning assets and interest-bearing liabilities for the year ended December 31, 1994 when compared with the year ended December 31, 1993. Changes attributable to both rate and volume are allocated on a weighted basis.
Noninterest Income
Total noninterest income was $30.3 million in 1994, a decrease of $6.4 million from 1993. Gains from the sale of securities decreased $3.3 million, Asset Management fees decreased $1.4 million and service charges on deposit accounts decreased $.5 million due to decline in fee-based deposit accounts as well as higher average individual customer account balances which reduced the amount of fees assessed. Residual income on maturing equipment leases decreased $.8 million.
Other noninterest income of $1.4 million declined $.3 million from 1993. Income recognized in connection with home equity loans purchased from the Resolution Trust Corporation decreased $.4 million. These loans were originally purchased at a substantial discount in 1991 and have returned principal on a schedule closer to the original contractual amount. These decreases to other noninterest income were partially offset by fees derived from sales of mutual funds, a new product introduced in May 1994.
Noninterest Expense
Total noninterest expense decreased $5 million to $92.5 million in 1994. Foreclosed asset and workout expense declined $13.4 million as a result of lower writedowns of other real estate owned. Salary and employee benefits increased $4.2 million over 1993. In 1994 salary and employee benefits includes expenses related to severance agreements of $1 million and a $1.2 million asset management division revenue-sharing provision (see discussion below). The increase in salary and employee benefits also reflects the addition of a qualified mutual fund sales staff and increases in professional staff to improve loan administration and monitoring of
credit quality. In addition, the rise reflects normal merit raises and employee benefit cost increases. Occupancy expenses were $.9 million higher reflecting writedowns of $.5 million in connection with a sale of two former UST/Conn branch buildings. FDIC deposit insurance premiums declined $.4 million as a result of a lower level of deposits compared with 1993.
Other noninterest expense increased $3.5 million in 1994, reflecting $1 million in increased legal fees, $1 million in advertising and promotion, $.4 million in collateral appraisal fees and $.9 million in fees for consulting services by certain former Company executives. The higher other noninterest expense also stems from a $.8 million reduction in the Company's reserve for litigation recorded in 1993. The increases were partially offset by a reduction in property and casualty insurance of $.4 million.
In 1994, the Company and senior executives of USTC's Asset Management Division negotiated the terms of employment agreements designed to maximize the profitability and grow the assets under management of the asset management business. The agreements, which remain subject to regulatory approval, are designed to increase the foregoing executives' participation in the value created in the asset management business and, in a change-in-control situation, increase the likelihood that a prospective purchaser will retain the services of the executives. The agreements contain revenue-sharing provisions which will permit the asset management division to use a specified percentage of its base revenues for the payment of expenses of the operation, including incentive compensation. In connection therewith, the Company recorded in 1994 a revenue-sharing provision of $1.2 million.
Income Taxes
The Company recorded income taxes of $2.1 million in 1994 compared with a $11.5 million tax benefit in 1993. The variations in income taxes are attributable to the level and composition of pretax income or loss. Refer to Note 11 to the Notes to Consolidated Financial Statements of this Form 10-K for a further discussion of income taxes.
In 1993 the Company adopted Financial Accounting Standard No. 109 "Accounting for Income Taxes." This Standard changed the accounting for deferred income tax to the "liability method." This change, a one-time event, increased net income by $750 thousand in January 1993 representing the cumulative effect of adopting the new standard on the balance sheet. Refer to Note 1 to the Notes to Consolidated Financial Statements of this Form 10-K for a further discussion of this matter.
As of December 31, 1994, the Company had a deferred tax asset of approximately $11.7 million, net of a valuation allowance of $6.4 million, included in other assets which is expected to be realized against future taxable income. Management believes that it is more likely than not that the Company will realize the benefit of these deferred assets.
Fair Value of Financial Instruments
In December 1991, the FASB approved SFAS No. 107, "Disclosures about Fair Value of Financial Instruments," effective for fiscal year ending December 31, 1992. The methods and assumptions used by the Company to estimate the fair value of each class of financial instruments as of December 31, 1994 and 1993 are disclosed in Note 17 to the Notes to Consolidated Financial Statements of this Form 10-K. Financial instruments do not include all of the assets and liabilities recorded on a company's balance sheet. Therefore, the aggregate fair value amounts of the financial instruments do not represent the underlying value of a company.
As a result of those assumptions and valuation methodologies, the estimated fair value of Financial Instrument assets and liabilities of the Company as of December 31, 1994 was $1.70 billion and $1.66 billion, respectively. The estimated fair value of Financial Instrument assets and liabilities of the Company as of December 31, 1993 was $1.92 billion and $1.89 billion, respectively. The excess of fair value over the carrying value of Financial Instrument assets increased slightly from a year ago. In the opinion of management, the effect of higher interest rates on certain fair value calculations at December 31, 1994, was more than offset by the positive effect of lower substandard loans and resulting reduction in credit risk. The decreased amount of excess in the valuation of Financial Instrument liabilities over their carrying values, in the opinion of management, is attributed primarily to the increase in interest rates. Refer to Note 17 to the Notes to Consolidated Financial Statements of this Form 10-K for a further discussion.
COMPARISON OF 1993 WITH 1992
Net Interest Income Analysis
The following table attributes changes in interest income and interest expense to changes in interest rates and changes in the volume of interest-earning assets and interest-earning liabilities for the year ended December 31, 1993 when compared with the year ended December 31, 1992. Changes attributable to both rate and volume are allocated on a weighted basis.
Noninterest Income
Total noninterest income of $36.7 million declined $5.6 million in 1993. Gains on sale of securities decreased $9.3 million. Asset management fees rose by $3.3 million due to new business and appreciation of existing clients' asset portfolios, partly offsetting the decrease in securities gains noted above. Corporate services income increased $1 million, or 13%, in 1993 due to changes in the fee system and continued expansion of the product base.
Other noninterest income decreased $.5 million in 1993 and the following are the more significant reasons: Leasing fee income declined $.3 million as the Company continued to minimize its activity in this area until taxable income increases sufficiently. Real estate appraisal fees decreased $.2 million due to a curtailment of third-party activities. Home equity loans purchased from the Resolution Trust Corporation at a substantial discount in late 1991 returned principal on a schedule closer to the original contractual amount. This accounted for an increase of $.4 million compared with 1992 and partially offset the decreases noted above. Additionally, in the first quarter of 1992, the Company sold $5.7 million of its credit card portfolio to an unaffiliated bank. This transaction produced a gain of $.2 million for the quarter ended March 31, 1992. All other miscellaneous noninterest income declined $.2 million.
Noninterest Expense
Noninterest expense of $97.5 million remained essentially unchanged in 1993 compared with 1992. Increases in foreclosed asset and workout expense amounted to $3.1 million. Increases in writedowns of foreclosed real estate properties totaled $1.7 million while other foreclosed asset and workout expenses increased $1.4 million. Other noninterest income decreased $5.9 million in 1993. In 1992, the Company added $3.8 million to a reserve for losses arising from securitized loans. These losses resulted from an unexpectedly high delinquency and default rate on securitized automobile loans, which, when recalculating the gain or loss on the transactions during the Company's regular and systematic review, necessitated the charge to earnings. There was no comparable expense for 1993 as there were no loans securitized. The remaining decrease in other noninterest expense was principally due to a reduction in the Company's provision for litigation in 1993 as compared with 1992.
AVERAGE BALANCES, INTEREST RATES AND INTEREST RATE DIFFERENTIAL
The table below presents the following information: average earning assets (including nonaccrual loans) and average interest-bearing liabilities supporting earning assets; and interest income and interest expense expressed as a percentage of the related asset or liability. The average balances and, therefore, the rates presented do not include the effect of fair value adjustments under SFAS No. 115 "Accounting for Certain Investments in Debt and Equity Securities."
ITEM 8.


ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY MATERIAL.
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Stockholders and Board of Directors of UST Corp.:
We have audited the accompanying consolidated balance sheets of UST Corp. (a Massachusetts corporation) and Subsidiaries as of December 31, 1994 and 1993, and the related consolidated statements of income, changes in stockholders' investment and cash flows for each of the three years in the period ended December 31, 1994. 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 generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated 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 UST Corp. and Subsidiaries as of December 31, 1994 and 1993, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1994, in conformity with generally accepted accounting principles.
As explained in Note 1 to the consolidated financial statements, the Company changed its method of accounting for income taxes and investments by adopting Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes" and Statement of Financial Accounting Standards No. 115, "Accounting for Certain Investments in Debt and Equity Securities," effective January 1, 1993 and December 31, 1993, respectively.
ARTHUR ANDERSEN LLP
Boston, Massachusetts January 30, 1995
UST CORP.
CONSOLIDATED BALANCE SHEETS
UST CORP.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' INVESTMENT
UST CORP.
CONSOLIDATED STATEMENTS OF CASH FLOWS
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1994
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accounting and reporting policies of UST Corp. (the "Company") conform with generally accepted accounting principles and general practice in the banking industry. The significant policies are summarized below.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All material intercompany balances and transactions have been eliminated. The parent company only financial statements contained in Note 16 reflect investments in subsidiaries using the equity method of accounting.
Certain reclassifications have been made to prior year balances to conform with the current year presentation. Assets owned by others and held in a fiduciary or agency capacity are not included in the consolidated balance sheets.
SECURITIES
On December 31, 1993 the Company adopted Statement of Financial Accounting Standards No. 115 (SFAS No. 115), "Accounting for Certain Investments in Debt and Equity Securities." This Statement addresses the accounting and reporting for investments in equity securities that have readily determinable fair values and for all investments in debt securities. Under this statement such securities are classified as held-to-maturity, trading, or available-for-sale.
Securities Held-to-Maturity -- Debt securities which management has the positive intent and ability to hold to maturity are classified as held-to-maturity, and are carried at cost adjusted for the amortization of premium or the accretion of discount.
Trading Securities -- Debt and equity securities with readily determinable market values that are bought and held principally for the purpose of selling them in the near term are classified as trading securities and are carried at fair value, with unrealized gains and losses included in current earnings. At December 31, 1994 and 1993, the Company had no securities classified as trading.
Securities Available-for-Sale -- Debt and equity securities not classified as either held-to-maturity or trading are classified as available-for-sale and carried at fair value, with unrealized after-tax gains and losses reported as a separate component of stockholders' investment. At December 31, 1994, stockholders' investment was reduced by an unrealized loss related to SFAS No. 115 of $29,023,000 net of an income tax benefit of $5,422,000.
Securities that do not have readily determinable market values are carried at cost and classified in other assets. At December 31, 1994 and 1993 such securities amounted to $3,908,000 and $5,071,000, respectively.
Prior to December 31, 1993, debt securities were designated at the time they were purchased as either held for sale or held to maturity, based on management intent at the time. Securities which management had the ability and intent to hold on a long-term basis or until maturity were classified as held to maturity. Securities which were to be held for indefinite periods of time and not intended to be held to maturity or on a long-term basis were classified as securities held for sale and carried at the lower of aggregate cost or market value.
For mortgage-backed securities, the Company recalculates the effective yield on the investment to reflect the actual prepayment results and anticipated future payments. The net investment in these securities is adjusted to the amount that would have existed had the new estimated average life and effective yield been
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
applied since the acquisition of the securities. Such adjustments are charged or credited to interest income in the current period.
The Company determines the securities sold by the specific identification method. The amount of taxes paid on gains is dependent upon the overall results of operations of the subsidiary incurring the gain.
PREMISES, FURNITURE AND EQUIPMENT
Premises, furniture and equipment are stated at cost, less accumulated depreciation and amortization. The Company provides for depreciation using the straight-line method by charges to expense in amounts estimated to amortize the cost over the estimated useful lives of the respective assets as follows:
Leasehold improvements are amortized over the life of the lease agreements.
LOAN INCOME AND FEES
Certain installment loans and commercial time loans are made on a discounted basis. The unearned discount applicable to such loans is recorded as income monthly by use of the actuarial method. Interest income on nondiscounted loans is accrued based on the principal amount of loans outstanding.
Loans are placed on nonaccrual, with the reversal of all accrued interest receivable, when there is doubt as to the collectibility of interest or principal or if loans are 90 days or more past due unless they are both well secured and in the process of collection. In every case, a loan reaching 180 days past due is placed on nonaccrual. Interest received on nonaccrual loans is applied to principal if collection of principal is doubtful; otherwise, it is reflected in interest income on a cash basis.
The Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 114 (SFAS No. 114), "Accounting by Creditors for Impairment of a Loan," as amended by SFAS No. 118. SFAS No. 114 requires that impaired loans, as defined, be measured based on the present value of the expected future cash flows discounted at the loan's effective interest rate, or the fair value of the collateral if the loan is collateral dependent. This Statement is effective for fiscal years beginning after December 15, 1994. Management believes that adoption of this Statement will not have a material effect on the financial condition or results of operations of the Company.
RESERVE FOR POSSIBLE LOAN LOSSES
The reserve for possible loan losses is maintained at a level considered adequate by management to provide for possible losses from loans, leases and commitments to extend credit. Adequacy of the reserve is determined by management using a consistent methodology which analyzes the size and risk of the loan portfolio on a monthly basis. Factors in this analysis include past loan loss experience and asset quality, as reflected by trends of delinquent, nonaccrual and restructured loans and the Company's credit risk rating profile. Consideration is also given to the current and expected economic conditions and, in particular, how such conditions affect the types of credits in the portfolio and the market area in general. This analysis is documented using a combination of numerical, statistical and qualitative analysis (including sensitivity tests), and a written conclusion discussing the rationale supporting reserve adequacy. The reserve is based on estimates, and ultimate losses may vary from current estimates. These estimates are reviewed periodically and, as adjustments become necessary, they are reported in earnings in the current period.
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
OTHER REAL ESTATE OWNED
Other real estate owned includes both actual and in-substance repossessions. In December 1992 the Company adopted Statement of Position No. 92-3 ("SOP 92-3") issued by the American Institute of Certified Public Accountants. This SOP states that foreclosed assets are presumed to be held for sale. Therefore, they should be carried at the lower of cost or fair value, minus estimated costs to sell ("net realizable value"). In 1992 the pretax charge to income resulting from implementation was $750,000.
INCOME TAXES
The Company provides for income taxes in accordance with the comprehensive income tax allocation method. This method recognizes the tax effects of all income and expense transactions in each year's statement of income regardless of the year in which the transactions are reported for tax purposes.
The Company follows the deferral method of accounting for investment tax credits. Under the deferral method, the credit is reflected as a reduction of tax expense ratably over the period during which the asset is depreciated for financial reporting purposes.
FASB has issued SFAS No. 109 "Accounting for Income Taxes," a modification of SFAS No. 96, effective January 1, 1993. While the FASB retained the existing requirement to record deferred taxes for transactions that are reported in different years for financial reporting and tax purposes, it revised the computation of deferred taxes so that the amount of deferred taxes on the balance sheet is adjusted whenever tax rates or other provisions of the income tax law are changed. This is known as the "liability method" of providing deferred income taxes. This change in accounting principle increased net income $750,000 in January 1993, representing the cumulative effect of the new standard on the balance sheet at the date of adoption.
EARNINGS (LOSS) PER SHARE
Earnings per share is computed using the weighted average number of shares of common stock and common stock equivalents outstanding. Common stock equivalents consist primarily of dilutive outstanding stock options computed under the treasury stock method. Average dilutive common stock equivalents were 379,059 for 1994. Loss per share computations for 1993 and 1992 do not include common stock equivalents due to their antidilutive effect. The dual presentation of primary and fully diluted earnings per share is not presented since the difference from earnings per share is less than 3 percent.
GOODWILL AND CORE DEPOSIT INTANGIBLES
Goodwill and core deposit intangibles are stated at cost less accumulated amortization. Cost of purchased businesses in excess of net assets acquired ("goodwill") includes amounts being amortized over twenty- and forty-year periods. Amortization expense was $122,500 in each of 1994, 1993 and 1992. Values assigned to deposits of purchased businesses ("core deposit intangibles") are being amortized over seven- and thirteen-year periods. Amortization expense was $1,245,000 in each of 1994, 1993 and 1992.
On a periodic basis, the Company reviews its goodwill and core deposit intangible assets for events or changes in circumstances that may indicate that the carrying amount of the assets may not be recoverable.
RETIREMENT BENEFITS
In December 1990, the FASB issued SFAS No. 106, "Employers' Accounting for Postretirement Benefits Other Than Pensions." SFAS No. 106 is effective for fiscal years beginning after December 15, 1992. This statement did not have any impact on the Company's financial position or results of operations.
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In November 1992, the FASB issued SFAS No. 112, "Employers' Accounting for Postemployment Benefits." SFAS No. 112 is effective for fiscal years beginning after December 15, 1993. This statement did not have any impact on the Company's financial position or results of operations.
STATEMENTS OF CASH FLOWS
For the purpose of reporting cash flows, cash and cash equivalents include cash on hand, amounts due from banks and interest-bearing deposits.
(2) RESTRICTIONS ON CASH AND DUE FROM BANKS
At December 31, 1994 and 1993, cash and due from banks included $34,173,000 and $42,072,000, respectively, to satisfy the reserve requirements of the Federal Reserve Board.
(3) SECURITIES
A comparison of the amortized cost, estimated fair value and gross unrealized gains and losses as of December 31, 1994 and December 31, 1993 for securities available-for-sale and held-to-maturity follows:
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The amortized cost and estimated market value of debt securities at December 31, 1994 and 1993, by contractual maturity, are shown in the table below. Actual maturities are expected to differ from contractual maturities because some borrowers have the right to prepay without prepayment penalty. Mortgage-backed securities are shown at their final maturity but are expected to have shorter average lives. Equity securities, which have no contractual maturity, are presented in the aggregate.
Proceeds from sales of debt securities held in the investment portfolio, held for sale, or available-for-sale during 1994 were $60,061,000 and $162,956,000 during 1993. Gross gains of $79,000 for 1994 and $3,038,000 for 1993 and gross losses of $137,000 for 1993 and none for 1994 were realized on those sales. Net gains on sales of all securities held in the investment portfolio, held for sale, trading accounts, and available-for-sale
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
were $1,105,000, $4,403,000, and $13,724,000 for 1994, 1993, and 1992, respectively. The 1994 gains were comprised principally from the sale of equity securities.
At December 31, 1994, securities carried at $203,246,000 were pledged to secure public and trust deposits, securities sold under agreements to repurchase and for other purposes as required by law.
(4) LOANS
The composition of the loan portfolio (net of unearned discount) at December 31, 1994 and 1993 was as follows:
Nonaccrual loans were $49.4 million and $49.3 million at December 31, 1994 and December 31, 1993, respectively. Accruing restructured loans totaled $15.8 million and $41.5 million at December 31, 1994 and 1993, respectively. Had nonaccruing and accruing restructured loans been paying in accordance with their original terms, approximately $3,071,000 and $6,247,000 of additional interest income would have been recorded in 1994 and 1993, respectively.
Most of the Company's business activity is with customers located within the states of Massachusetts and Connecticut. At year-end 1994, the Company's exposure to credit risk principally secured by commercial real estate, home equity and residential real estate included $426 million of loans. See Note 15 for additional discussion of concentration of credit risk.
Analysis of the reserve for possible loan losses for the three years ended December 31, 1994, 1993 and 1992 is as follows:
In June 1993 the Company recorded a special $30 million provision for loan losses which is included in the above table.
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(5) PREMISES, FURNITURE AND EQUIPMENT
A summary of the accounts as of December 31, 1994 and 1993 is as follows:
Depreciation and amortization expenses reflected in the consolidated statements of income were $3,927,000, $3,662,000 and $3,665,000 in 1994, 1993 and 1992, respectively.
On January 3, 1991, the Company sold one of its buildings to an unaffiliated third party for $8.2 million. A portion of the building houses certain functions of the Company which were leased back from the purchaser. This transaction resulted in a gain of approximately $5 million of which $3 million was recognized in 1991 with the difference amortized to income over the life of the lease.
(6) OTHER REAL ESTATE OWNED
Other real estate owned includes in-substance foreclosures of $8,448,000 and $8,197,000 at December 31, 1994 and 1993, respectively. The balance is stated net of valuation allowances of $3,187,000 in 1994 and $6,553,000 in 1993. In 1994 provisions charged to foreclosed asset and workout expense were $3,093,000 and chargeoffs recorded against the valuation reserve were $6,883,000.
The net cost of other real estate owned included in foreclosed asset and workout expense in the income statement was $6,504,000, $21,256,000 and $18,276,000 in 1994, 1993 and 1992, respectively. These costs include the above-mentioned provisions to reflect reductions in net realizable value, net gain or loss on sales and cost of maintaining and operating the properties.
(7) SHORT-TERM BORROWINGS
Short-term borrowings consisted of the following at December 31, 1994 and 1993:
The weighted average interest rates at December 31, 1994 and 1993 were 4.74% and 3.35%. The average outstanding short-term borrowings were $180,325,000 in 1994 and $227,944,000 in 1993. The approximate weighted average interest rates during the year were 3.46% in 1994 and 2.74% in 1993. The maximum amount of short-term borrowings outstanding at any month end was $212,174,000 in 1994 and $320,338,000 in 1993.
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(8) OTHER BORROWINGS
Other borrowings consisted of the following at December 31, 1994 and 1993:
Payments required under the above obligations were $4,322,000 in 1994 and will amount to $5,821,000 in 1995 and the balance of $4,143,000 in 1996.
During 1986, the Company issued $20,000,000 of 8.5% subordinated notes to an insurance company. The debt is payable in annual installments of $4 million from 1992 through 1996. Under the terms of the agreement, the Company may not make dividend payments in excess of 60% of cumulative net earnings since December 31, 1985 plus $7 million.
The Company has an employee stock ownership plan ("ESOP") which covers substantially all of its employees. The plan is administered by a committee designated by the Board of Directors and is maintained in a separate trust established for that purpose. The trustee obtained third-party financing to purchase shares of UST Corp. common stock and UST Corp. has guaranteed this debt. The purchased shares are allocated to the participants on a pro-rata basis, over the period in which they are earned.
(9) EMPLOYEE BENEFIT PLANS
The Company has a noncontributory retirement plan covering all employees who meet specified age and employment requirements. The plan provides pension benefits that are based on the employee's compensation during the highest consecutive five of the last ten years before retirement. The following summary sets forth the plan's funded status and amounts included in the Company's consolidated balance sheets as of December 31, 1994 and 1993:
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The weighted-average discount rate and rate of increase of future compensation levels used in determining the actuarial present value of the projected benefit obligation was 8.5% and 5.0%, respectively, for 1994 and 7.0% and 5.0%, respectively, for 1993. The expected long-term rate of return on assets used was 9.0% and 9.5%, respectively, for 1994 and 1993.
Net pension cost (income) for 1994, 1993 and 1992 included the following components:
The Company has a qualified Profit-Sharing Plan covering substantially all employees. Under the plan, up to six percent of net income before income taxes, as defined, may be contributed to the profit-sharing trust. The Company did not make a contribution to the profit-sharing trust in 1994, 1993 or 1992.
In January 1994, the Company added an Employee's Savings feature to the existing Profit Sharing Plan that qualifies as a deferred salary arrangement under Section 401(k) of the Internal Revenue Code. The new plan was named the UST Corp. Employee Savings Plan. Under the Savings feature, participating employees may defer a portion up to 8% of their pretax earnings not to exceed the Internal Revenue Service annual contribution limits. The Company matches 25% of each eligible employee's contributions up to 4% of the employee's earnings. The Company made a matching contribution of $198,000 in 1994, the first year of the new feature.
The Company also has an ESOP for substantially all employees. Under the plan, the Company contributes either a fixed amount or a percentage of compensation of all participants.
The Company has a Restricted Stock Ownership Plan adopted in 1989 for key employees under which 448,375 shares of common stock have been granted. The shares vest to the employee over varying schedules. In 1994, 56,701 restricted shares vested under this plan. At December 31, 1994 there were 87,700 unvested restricted shares outstanding.
Expenses (income) relating to the plans were as follows:
(10) STOCK OPTIONS
The Company has a Stock Compensation Plan adopted in 1992 and amended in 1994, under the terms of which the Company may issue incentive stock options, nonqualified stock options and shares of restricted stock. At December 31, 1994, 8,479 shares of the Company's common stock remained available for future grants to officers and key employees. The Company's Stock Compensation Plan provides that the number of shares of common stock reserved for future grants under the plan be increased by an amount equal to 1.25 percent of the number of shares outstanding on the first day of each fiscal year. As a result, as of January 1, 1995, 220,185 additional common shares were reserved for future grants.
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In May 1990, the stockholders approved a Directors Stock Option Plan under which each outside director would receive a grant of 5,250 shares. The total number of shares outstanding at December 31, 1994 were 47,250. All shares to current outside directors have been granted. The Directors Stock Option Plan terminates on March 18, 1995, any outstanding options on that date will expire.
The Company has a Directors Deferred Compensation Program under which up to 250,000 shares of the Company's common stock may be granted to Directors of the Company or its banking subsidiaries who choose to receive their Director's fees or stipend in shares of the Company in lieu of cash.
The following table presents the activity for the employee stock option program under the Stock Compensation Plan for the years ended December 31, 1994, 1993, and 1992:
In December 1989, April 1990, April 1991, and December 1994, the Board of Directors authorized an option substitution program permitting employees to surrender options with an option price of more than $14.29, $10.00, $6.07, and $9.75, respectively, in exchange for new options. Outstanding options for 149,331, 513,817, 516,502, and 273,500, respectively, were exchanged under the program. Options were exchanged on a one-for-one basis at an option price of $14.29, $10.00, $6.07, and $9.75, respectively, per share, the fair market value of the Company's common stock on the date of authorization. The new options vest ratably over a five-year period.
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(11) INCOME TAXES
The income tax provision (benefit) shown on the consolidated statements of income consisted of the following:
At December 31, 1994 and 1993, cumulative net deferred income tax benefits amounting to $11,679,000 and $10,911,000 were included in the consolidated balance sheets as other assets. Additionally, at December 31, 1994 and 1993 there were tax refund receivables of $2,998,000 and $9,549,000, respectively, included in other assets.
The components of the net deferred tax asset were as follows:
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The provisions for income taxes differ from the amounts computed by applying the U.S. statutory Federal tax rate of 34% in 1994 and 1992 and 35% in 1993 to income (loss) before income taxes principally due to:
(12) CAPITAL AND REGULATORY AGREEMENTS
On June 2, 1993 the Company sold 500,000 shares of its unregistered common stock in a private placement for a cash price of $3,750,000. Substantially all of the net proceeds of that placement were used to repay principal on the Company's long-term debt. On August 12, 1993, the Company sold 2.87 million shares of its common stock in a European offering. These shares were placed with more than sixty institutional investors and the offering was made under Regulation S of the United States Securities and Exchange Commission. Net proceeds of this placement were approximately $21 million.
The Company and its banking subsidiaries' ability to pay dividends is subject to certain limitations imposed by statutes of the Commonwealth of Massachusetts and the State of Connecticut, and limitations imposed by bank and bank holding company regulators. Massachusetts statutes restrict the amount of dividends payable by banks to be the balance of their undivided profits, net of any amount transferred to capital in excess of par value. In the case of Connecticut law, the limit is undivided profits plus reserve for possible loan losses. In any event, it is not likely that bank and bank holding company regulators would allow an institution to dividend any amounts which would reduce that institution's capital to below the minimum capital requirement in effect at that time.
In 1992 the Company and its two Massachusetts-based banking subsidiaries, United States Trust Company ("USTC") and USTrust, signed written agreements with the Federal Reserve Bank of Boston ("FRB-Boston"), Federal Deposit Insurance Corporation ("FDIC") and the Banking Commissioner of the Commonwealth of Massachusetts ("Massachusetts Commissioner"). In accordance with the agreements the Company agreed not to pay any dividends to stockholders, nor take any dividends from its banking subsidiaries, without prior regulatory approval. Similarly, the banking subsidiaries agreed to refrain from transferring funds in the form of dividends to the Company without prior regulatory approval. In 1994, the Company received a total of $3 million in dividends from USTC. During the same period $4.9 million was contributed to UST/Conn and $500 thousand was contributed to USTrust by the Company to supplement their respective equity capital accounts.
The banks also agreed to, among other matters, maintain a Tier 1 leverage capital ratio at or in excess of 6% beginning in February 1993. Tier 1 leverage capital ratio is defined by the Company's federal regulators to be essentially stockholders' investment, less intangible assets, divided by total average assets, less intangible assets. Based on average total assets at December 31, 1994, the Tier 1 leverage capital ratio was 39.46% for USTC and 7.55% for USTrust. In February 1994, the FDIC and the Massachusetts Commissioner terminated and lifted the Consent Agreement and Order with USTC. Despite the termination of its Regulatory Agreement, USTC has agreed to continue to request regulatory consent prior to the payment of dividends.
Since June 1991, UST/Conn has been operating under a Stipulation and Agreement with the Banking Commissioner of the State of Connecticut. This agreement was amended in August 1992, November 1993
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
and July 1994 and requires, among other things, that UST/Conn maintain a Tier 1 leverage capital ratio of 6%. At December 31, 1994 UST/Conn Tier 1 leverage capital ratio was 6.40%.
Additionally, the Company agreed to maintain Tier 1, Total risk-based and Tier 1 leverage capital ratios which conform to the Capital Adequacy Guidelines of the Board of Governors of the Federal Reserve System. At December 31, 1994, the Company's Tier 1, Total risk-based capital and Tier 1 leverage ratios were 9.82%, 11.45% and 8.27%, respectively. The Company believes its consolidated ratios meet the required minimums.
(13) RELATED PARTY TRANSACTIONS
In the ordinary course of business, the Company's banking subsidiaries have granted loans to certain of the Company's directors and executive officers. All such transactions are made on substantially the same terms as those prevailing at the same time for individuals not affiliated with the Company and its subsidiaries and at the time they were granted did not involve more than the normal risk of collectibility. At December 31, 1994, none of these transactions were on nonaccrual status, nor did they involve delinquent or restructured loans. However, at December 31, 1994 loans to directors of the Company or to their affiliated companies in the amount of approximately $14 million (all to Director Francis X. Messina and his related interests) were characterized as Substandard, in the Company's internal risk rating profile. Under the Company's definition, Substandard assets are characterized by the distinct possibility that some loss will be sustained if the credit deficiencies are not corrected. However, the Substandard classification does not imply ultimate loss for each individual asset so classified.
An analysis of loans outstanding in excess of $60,000 to directors and officers related to the foregoing entities at December 31, 1994 is as follows:
(14) COMMITMENTS AND CONTINGENCIES
Commitments for leased premises expire at various dates through 2012. At December 31, 1994, minimum rental commitments for noncancelable leases are as follows:
Rent expense for the years ended December 1994, 1993 and 1992 was $4,132,820, $3,932,074 and $4,432,156, respectively.
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In the ordinary course of business, the Company and its subsidiaries become defendants in a variety of judicial and administrative proceedings. In the opinion of management there is no proceeding pending, or to the knowledge of management threatened, which in the event of an adverse decision, would be likely to result in a material adverse change in the financial condition or results of operations of the Company and its subsidiaries.
(15) FINANCIAL INSTRUMENTS WITH ON- AND OFF-BALANCE SHEET RISK
The Company is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, standby letters of credit and financial guarantees. Those instruments involve, to varying degrees, elements of credit risk in excess of the amount contained in the balance sheet. The contract or notional amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments.
The Company's exposure to credit loss in the event of nonperformance by the other party to the financial instrument or commitments to extend credit and standby letters of credit and financial guarantees written is represented by the contractual notional amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments.
The Company generally requires collateral or other security to support financial instruments with credit risk.
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract during its term. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being fully drawn upon and, in fact, have a maturity of less than one year, the total commitment amounts do not necessarily represent future cash requirements. The Company evaluates each customer's credit worthiness on a case-by-case basis. Of the total commitments to extend credit, approximately $71 million and $31 million were secured by real estate at December 31, 1994 and December 31, 1993, respectively.
The amount of collateral obtained is based on management's evaluation of the credit risk. Collateral held on commitments and loans varies but may include cash, accounts receivable, inventory, property, plant and equipment.
Standby and commercial letters of credit and financial guarantees written are conditional commitments issued by the Company to guarantee the performance of, or payment by, a customer to a third party. Those guarantees are primarily issued to support private borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Company holds various collateral to support these commitments including (but not limited to) cash, accounts receivables, inventory, property plant and equipment. The extent of collateral held for those commitments
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
varies from zero to one hundred percent. Of the total standby and commercial letters of credit, approximately $15 million and $4 million were secured by real estate at December 31, 1994 and 1993, respectively.
The Company's primary loan market is the New England region. Most of the loans outstanding are from eastern Massachusetts and a substantial portion of these loans are various types of real estate loans; still others have real estate as additional collateral. Over 90% of the Company's outstanding commercial and real estate loans are collateralized.
The Company enters into offsetting agreements to purchase foreign currency and, in turn, sells it to its customers. These contracts carry credit risk because, in the event the customer fails to take delivery of the foreign currency, the Company is required to resell it to the open market.
The Company's securities portfolio consists largely of mortgage-backed securities. These securities carry prepayment risk due to the fact that prevailing interest rates could decline. Under such circumstances an unusually high percentage of homeowners may choose to refinance their first mortgages to take advantage of these lower rates with the result that, under the Company's accounting policy, adjustments reducing gross unamortized premiums would be required. See Note (1), Securities Policies.
In October 1994, the Financial Standards Board issued Statement of Financial Accounting Standards No. 119 (SFAS No. 119), "Disclosure about Derivative Financial Instruments and Fair Value of Financial Instruments," which is effective for fiscal years ending after December 15, 1994. SFAS No. 119 requires certain disclosures about derivative financial instruments including futures, forward swap and option contracts and other financial instruments with similar characteristics. As of December 31, 1994, the Company had no investments requiring disclosure under SFAS No. 119.
(16) PARENT COMPANY FINANCIAL INFORMATION
Summarized information relative to the balance sheets at December 31, 1994 and 1993 and statements of income and cash flows for the three years in the period ended December 31, 1994 of UST Corp. are presented as follows. All dividend income in the periods shown below are from banking subsidiaries:
BALANCE SHEETS -- PARENT COMPANY ONLY
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
STATEMENTS OF INCOME -- PARENT COMPANY ONLY
STATEMENTS OF CASH FLOWS -- PARENT COMPANY ONLY
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Cash dividends paid to the Company in 1994 by consolidated bank subsidiaries totaled $3,000,000 and $5,250,000 in 1993. There were no cash dividends paid to the Company in 1992. No cash dividends were paid to the Company by other subsidiaries in these years.
(17) FINANCIAL INSTRUMENTS
In December 1991, the FASB issued SFAS No. 107, "Disclosures about Fair Value of Financial Instruments." SFAS No. 107 requires disclosure of the fair market value of financial instruments, whether assets, liabilities or off-balance sheet commitments, if practicable. The following methods and assumptions were used to estimate the fair value of each class of financial instruments. Fair value estimates which were derived from discounted cash flows or broker quotes cannot be substantiated by comparison to independent markets and, in many cases, could not be realized in immediate settlement of the instrument.
Cash and due from banks, excess funds sold and other short-term investments -- For these short-term instruments the carrying amount is a reasonable estimate of fair value.
Securities available-for-sale -- For marketable securities fair values are based on quoted market prices or dealer quotes.
Loans -- For certain homogeneous categories of loans, such as residential mortgages and home equity loans, fair value is estimated based on broker quotes on sales of similar loans. The fair value of fixed rate loans was estimated by discounting anticipated future cash flows using current rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities. The fair value of performing variable rate loans is the same as the book value at the reporting date because the loans reprice when the market changes.
Deposit liabilities -- The fair value of noncertificate deposit accounts is the amount payable on demand at the reporting date. The fair value of fixed-maturity certificates of deposit is estimated by discounting the anticipated future cash payments using the rates currently offered for deposits of similar remaining maturities.
Short-term borrowings -- For these short-term instruments the carrying amount is a reasonable estimate of fair value.
Other borrowings -- The fair value of other borrowings were determined by discounting the anticipated future cash payments by using the rates currently available to the Company for debt with similar terms and remaining maturities.
Commitments to extend credit/sell loans -- The great majority of commitments, standby letters of credit and commercial letters of credit are short term in nature and therefore have been valued at their carrying amount.
Values not determined -- SFAS No. 107 excludes certain assets from its disclosure requirements including real estate included in banking premises and equipment, and the intangible value inherent in the Company's deposit relationships (i.e., core deposits). Accordingly, the aggregate fair value amounts presented below do not represent the underlying value of the Company.
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The carrying amount and estimated fair values of the Company's financial instruments at December 31, 1994 and 1993 are as follows:
(18) OTHER NONINTEREST EXPENSE
The major components of other noninterest expense were:
UST CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(19) CONSOLIDATED SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
As shown above, the Company has been modestly profitable throughout the two-year period, except for the second quarter of 1993, due to the high provision for possible loan losses.
In the second quarter of 1993, management changed its strategy regarding troubled credit situations. While the change would result in the handling of these situations in an expeditious manner, it was recognized that the up-front costs of these workouts would increase. As a result, the reserve for possible loan losses was increased by $19.8 million during the second quarter. To achieve the higher reserve level, the Company recorded a $42.7 million provision for possible loan losses in the second quarter. Included in that amount was a special provision of $50 million. This special provision was management's estimate of the additional losses to be incurred from the strategic change referred to above and a continued sluggish economic climate.
In 1994 the Company continued with its strategy to reduce the level of problem credits while maintaining its reserve for loan loss position. Net chargeoffs during each quarter were almost entirely matched by provisions to the loan loss reserve.
Noninterest income decreased after the first quarter of 1993 due to decreases in gains on sale of securities and declines in service charges on the deposit accounts and asset management fees. Noninterest expense reflects the high level of expenses associated with foreclosed asset and loan workouts, particularly in the second and fourth quarters of 1993 due to writedowns of other real estate owned.
ITEM 9.

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
-- NONE --
PART III
ITEM 10.



ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
EXECUTIVE POLICY COMMITTEE
In 1987, the Board of Directors of the Company created an Executive Policy Committee which is the primary management forum of the Company for all strategic and policy decisions. All decisions of the Executive Policy Committee are subject to the review and approval of the Board of Directors of the Company. The Executive Policy Committee has been directed by the Board of Directors to make recommendations to the Board concerning adoption of policies, strategies and programs concerning the following, among other matters: (a) acquisitions and dispositions of corporate entities, assets and/or investments; (b) the issuance of equity and/or debt; (c) engaging in new business activities; (d) the hiring, termination, training and motivation of senior management; (e) the development of marketing programs concerning financial services; (f) improvements to operations, service delivery and implementation of procedures for cost control; (g) improvements to the financial reporting and financial control systems; (h) improvements to the business information systems; and (i) improvements concerning risk management and legal and regulatory compliance programs. As of March 25, 1995, there were 10 members of the Executive Policy Committee. The members of the Committee are identified and the background of each Committee member is set forth below under "Executive Officers".
EXECUTIVE OFFICERS
The names and ages of the executive officers of the Company and each executive officer's position with the Company and its principal subsidiaries are listed below. Each such executive officer is elected annually by the Directors of the Company (or the Directors of the applicable subsidiary of the Company) and serves until his or her successor is duly chosen and qualified or until his or her earlier death, removal or disqualification.
The following sets forth the principal occupation during the past five years of each of the executive officers of the Company.
Mr. Finnegan has served as President and Chief Executive Officer of the Company since April 1993. During the prior five years, Mr. Finnegan was Executive Vice President in charge of Private Banking at Bankers Trust Company, New York, New York. From 1986 to 1988, Mr. Finnegan was President and Chief Operating Officer of Bowery Savings Bank in New York City. From 1982 to 1986 he was Vice Chairman of Shawmut Corporation in Boston. Mr. Finnegan also serves as Vice Chairman of the Board of Trustees of Northeastern University. Mr. Finnegan is also a Director and President of USTrust and a Director and Chairman of the Executive Committee of USTC.
Mr. Huskins was elected Executive Vice President/Administration of the Company in August 1993. Mr. Huskins is also responsible for the leasing and retail banking activities of the Company. Prior to joining the Company, Mr. Huskins served as President, Sterling Protection Company, Watertown, MA (security systems) from 1990 to 1993 and as Vice Chairman of Chancellor Corporation, Boston, MA (leasing) from 1977 to 1989. Mr. Huskins also serves as a Director of UST/Conn and as Chairman of the Board of UST Leasing Corporation.
Mr. Colasacco was elected Executive Vice President and a Director of the Company in 1990. In 1993, he was also elected Chairman of the Board and President of USTC. Prior to that time, he served as an Executive Vice President of USTC. He also directs the trust and asset management and activities of the Company and its subsidiaries. Mr. Colasacco has been an officer of the Company or of one of its subsidiaries since 1974.
Mr. Fischer was elected Executive Vice President, General Counsel and Clerk of the Company in 1992. Prior to 1992, he served as Senior Vice President, General Counsel and Assistant Clerk of the Company. Before joining the Company in 1986, he served as Assistant General Counsel of Bank of Boston Corporation and its principal subsidiary, The First National Bank of Boston. Mr. Fischer is, and has been since 1984, a member of the faculty of the Morin Center for Banking and Financial Law Studies of Boston University School of Law. He also serves as Executive Vice President, General Counsel and Secretary of USTC and USTrust, and as Assistant Secretary of UST/Conn.
Mr. Hunt was elected Executive Vice President, Treasurer and Chief Financial Officer of the Company and of USTrust in July 1994. Prior to joining the Company, Mr. Hunt served as Executive Vice President at Peoples Bancorp of Worcester, Inc., Worcester, Massachusetts, from August 1987 through May 1994.
Ms. Lerner has served as Senior Vice President of the Company since she joined the Company in 1988. She directs the Human Resources activities of the Company. Prior to her joining the Company, Ms. Lerner served in a similar capacity for the Provident Institution for Savings in Boston.
Mr. McAlear was elected Executive Vice President/Controlled Loans of the Company in 1994. He has served as Vice Chairman of USTrust since he joined the Company in 1990. His primary responsibilities involve the supervision of the controlled loan and real estate lending and workout functions of USTrust and the Company. Prior to 1990, Mr. McAlear served as an Executive Vice President in the lending area of the Bank of New England.
Ms. Stevens was elected Executive Vice President and Senior Lending Officer of USTrust in 1993. Since joining the Company in 1985 and until 1993, Ms. Stevens served in the commercial banking function of USTC as Senior Vice President from 1985 through 1990 and as Executive Vice President from 1990 until 1993.
Mr. Sullivan has served as Senior Vice President/Operations of the Company since 1994 and President of UST Data Services Corp. since he joined the Company in 1988 to the present. In those capacities, he has responsibility for the data processing and information systems of the Company as well as for its operations activities. Prior to 1988, Mr. Sullivan served as Executive Vice President of Operations with BayBanks Systems, Inc. in Waltham, Massachusetts.
Ms. Armstrong was named Senior Vice President/Credit Administration of the Company and USTrust in 1994. She has served in the credit administration and credit risk control functions of USTrust since she
joined the Company in 1985. Ms. Armstrong is the Chairman of the Senior Credit Committee of the Company and USTrust.
Mr. Clarke was elected Senior Vice President and Controller of the Company in 1994. Prior to 1994 he served as Vice President and Controller of the Company since 1988. Before joining the Company, Mr. Clarke served as Deputy Comptroller of The First National Bank of Boston.
There are no arrangements or understandings between any executive officer and any other person pursuant to which he or she was selected as an executive officer.
Other than the information provided in the preceding paragraphs of this Item 10, this item has been omitted since the Company will have filed a definitive proxy statement within 120 days after December 31, 1994, the close of its fiscal year. The additional information required by this item is incorporated by reference to such proxy statement.
ITEM 11.

ITEM 11. EXECUTIVE COMPENSATION
This item has been omitted since the Company will have filed a definitive proxy statement within 120 days after December 31, 1994, the close of its fiscal year. The information required by this item is incorporated by reference to such proxy statement.
ITEM 12.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
This item has been omitted since the Company will have filed a definitive proxy statement within 120 days after December 31, 1994, the close of its fiscal year. The information required by this item is incorporated by reference to such proxy statement.
Section 16(a) of the Securities Exchange Act of 1934 requires the Company's executive officers and directors to file reports of ownership and changes in ownership with the Securities and Exchange Commission. Executive Officers and Directors are required by the SEC regulation to furnish the Company with copies of all Section 16(a) forms they file.
Based solely on its review of the copies of such forms received by it, the Company believes that, during 1994, all such filing requirements applicable to its executive officers and directors were complied with by such individuals.
ITEM 13.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
This item has been omitted since the Company will have filed a definitive proxy statement within 120 days after December 31, 1994, the close of its fiscal year. The information required by this item is incorporated by reference to such proxy statement.
PART IV
ITEM 14.

ITEM 14. EXHIBITS. FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) List the following documents filed as part of this report:
1.All financial statements
UST Corp. and Subsidiaries
See Index to Financial Statements on page 30.
2. Financial statement schedules required to be filed by Item 8 of Form 10-K and by Item 14(d)
None (Information included in Financial Statements).
3. Exhibits required to be filed by Item 501 of Regulation S-K and by Item 13(c)
(3) Articles: By-Laws
3(a) Articles of Organization of the Company as amended to date.*
3(b) By-laws of the Company as amended to date.*
(4) Instruments defining the rights of security holders, including indentures:
4(a) Specimen of the Company's Common Stock Certificate. (Exhibit 4.1 to Registrant's Registration Statement No. 2-67787 on Form S-l.)**
4(b) Description of rights of the holders of the Company's Common Stock (Appearing on Page 76 of Registrant's Registration Statement No. 33-11118 on Form S-4).**
4(c) Note Agreement, dated August 8, 1986, between the Company and holders of the Company's 8.5% Senior Notes Due August 1, 1996. (Exhibit 4(d) to Registrant's Annual Report on Form 10-K for the year ended December 31, 1986.)**
(10) Material Contracts
10(a) Deferred Compensation Program, as amended to June 16, 1992. (Exhibit to Form 10-K for year ended December 31, 1992)**
10(b) Incentive Stock Option Plan, as amended to May 15, 1990. (Exhibit to Form 10-K for year ended December 31, 1992)**
10(c) Pension Plan, as amended to January 1, 1990. (Exhibit to Form 10-K for year ended December 31, 1991)**
10(c)(i) December 20, 1994 Amendment to Pension Plan*
10(d) Employee Stock Ownership Plan, as amended to January 1, 1991. (Exhibit to Form 10-K for year ended December 31, 1991)**
10(d)(i) December 20, 1994 Amendment to Employee Stock Ownership Plan*
10(e) Employee Savings Plan (formerly known as Profit-Sharing Plan), as amended to January 1, 1991. (Exhibit to Form 10-K for year ended December 31, 1991)**
10(e)(i) Amendment, as of January 1, 1994, to Employee Savings Plan*
10(f) 1992 Stock Compensation Plan. (Registration Statement Nos. 33-54390 and 2-77803)**
10(f)(i) 1992 Stock Compensation Plan as amended and restated on November 15, 1994 (subject to stockholder ratification and approval)*
10(g) Dividend Reinvestment Plan, as amended. (Exhibit to Registration Statement No. 33-38836 on Form S-3.)**
10(h) 1989 Directors Stock Option Plan (Exhibit to Form 10-K for year ended December 31, 1989)**
10(i) 1995 Stock Option Plan for Non-Employee Directors (subject to stockholder ratification and approval, and, as to the specific award to James V. Sidell, subject to receipt of regulatory clearance)*
10(j) Purchase Agreement, dated as of June 1, 1993, between the Company and Kidder, Peabody Group, Inc. related to the private placement of 500,000 shares of UST Corp. Common Stock. (Exhibit to Form 8-K for quarter ended June 30, 1993)**
10(k) Registration Rights Agreement, dated as of June 1, 1993, between the Company and Kidder, Peabody Group, Inc. related to the private placement of 500,000 shares of UST Corp. Common Stock. (Exhibit to Form 8-K for quarter ended June 30, 1993)**
10(l) Employment Agreement, dated as of April 20, 1993, between the Company and Neal F. Finnegan, President and Chief Executive Officer of the Company. (Exhibit to Form 8-K dated March 25, 1993)**
10(l)(i) Amendment to Employment Agreement with Neal F. Finnegan*
10(m) Placing Agreement, dated July 28, 1993, between the Company and Fox-Pitt Kelton N.V., relating to the placement overseas of 2,870,000 shares of the Company's Common Stock. (Exhibit to Form 10-Q for quarter ended September 30, 1993)**
10(n) Transition Agreement, dated as of June 30, 1993, between the Company and James V. Sidell, former President and Chief Executive Officer of the Company. (Exhibit to Form 10-Q for quarter ended September 30, 1993)**
10(o) Separation Agreement dated August 16, 1993, between the Company and Robert G. Truslow, former President of the Company's wholly-owned subsidiary, USTrust. (Exhibit to Form 10-Q for quarter ended September 30, 1993)**
10(p) Separation Agreement, dated September 20, 1993, between the Company and Frank A. Morse, former President of the Company's wholly-owned subsidiary, UST Bank/Connecticut. (Exhibit to Form 10-Q for quarter ended September 30, 1993)**
10(q) Separation Agreement, dated April 6, 1994, between the Company and Theodore M. Shediac, former Chairman of the Company's wholly-owned subsidiary, USTrust.*
10(r) Retirement Agreement, dated September 27, 1994, between the Company and Paul M. Siskind, former Chairman of the Board of the Company*
10(s) Separation Agreement, dated March 31, 1994, between the Company and William C. Brooks, former Chief Financial Officer and Treasurer of the Company*
10(t) Resignation Agreement, dated as of February 1, 1995, and effective February 28, 1995, between the Company and James M. Breiner, former Director of the Company and Chairman of the Board of Directors of the Company's wholly-owned subsidiary, UST Bank/Connecticut.*
10(u) Employment Agreement as of July 11, 1990, between USTrust and Robert T. McAlear, effective August 31, 1990.*
10(v) Executive Employment Agreements with certain members of the Company's Executive Policy Committee, effective October 24, 1994:
10(v)(i) Employment Agreement between UST Corp. and Walter E. Huskins, Executive Vice-President of the Company*
10(v)(ii) Employment Agreement between UST Corp. and James K. Hunt, Executive Vice President, Chief Financial Officer and Treasurer of the Company*
10(v)(iii) Employment Agreement between UST Corp. and Eric R. Fischer, Executive Vice President, General Counsel and Clerk of the Company*
10(v)(iv) Employment Agreement between UST Corp. and Linda J. Lerner, Senior Vice President/Human Resources of the Company*
10(v)(v) Employment Agreement between UST Corp. and Kenneth L. Sullivan, President, UST Data Services Corp., a wholly-owned subsidiary of the Company*
10(v)(vi) Employment Agreement between UST Corp. and Katharine C. Armstrong, Senior Vice President/Credit Administration of the Company*
10(w) Severance Pay Plan, effective January 1, 1995*
10(x) Senior Officer Severance Pay Plan, effective January 1, 1995*
10(y) Asset Management Employment Agreement by and among Employee/Principals of the Asset Management Division of the United States Trust Company and United States Trust Company and UST Corp., effective as of January 1, 1995:
10(y)(i) Employment Agreement among UST Corp, USTC and Domenic Colasacco, President of USTC, a wholly owned subsidiary of the Company*
10(y)(ii) Employment Agreement among UST Corp., USTC and Robert A. Lincoln, Senior Vice President, Senior Portfolio Manager of USTC*
10(y)(iii) Employment Agreement among UST Corp., USTC and Stephen K. Moody, Senior Vice President, Senior Portfolio Manager of USTC*
10(y)(iv) Employment Agreement among UST Corp., USTC and Lucia B. Santini, Senior Vice President/Administrator of USTC*
10(y)(v) Employment Agreement among UST Corp., USTC and Robert B. Zevin, Senior Vice President, Economist and Senior Portfolio Manager of USTC*
10(z) Asset Management Unifying Agreement by and among Employee/Principals of the Asset Management Division of the United States Trust Company and United States Trust Company and UST Corp., effective as of January 1, 1995*
(11) Statement re: computation of per share earnings (See Note 1 to the Notes to Consolidated Financial Statements.)*
(21) Subsidiaries of the Registrant*
(23) Consent of Arthur Andersen LLP.*
(27) Article 9 Summary Financial Information for 12 months ended December 31, 1994 --------------- * Filed herewith
** Filed as part of a previous Commission filing and incorporated herein by reference.
(b) Reports on Form 8-K
A Report on Form 8-K was filed by the Company during the fourth quarter of 1994 on October 3, 1994 (Retirement and related resignation of Paul M. Siskind as Chairman of the Board and as a Director of the Company).
(c) Exhibits being filed
See Exhibit Index
(d) Financial Statement Schedules included in Financial Statements.
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.
UST CORP.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.