|TEV||-290,089||TEV/EBIT||-8||TTM 2019-03-31, in MM, except price, ratios|
|Item 17 ¨ Item 18 ¨|
|Item 1. Identity of Directors, Senior Management and Advisers.|
|Item 2. Offer Statistics and Expected Timetable.|
|Item 3. Key Information.|
|Item 4. Information on The Company.|
|Item 4A. Unresolved Staff Comments.|
|Item 5. Operating and Financial Review and Prospects.|
|Item 6. Directors, Senior Management and Employees.|
|Item 7. Major Shareholders and Related Party Transactions.|
|Item 8. Financial Information.|
|Item 9. The Offer and Listing.|
|Item 10. Additional Information.|
|Item 11. Quantitative and Qualitative Disclosures About Credit, Market and Other Risk.|
|Item 12. Description of Securities Other Than Equity Securities.|
|Item 13. Defaults, Dividend Arrearages and Delinquencies.|
|Item 14. Material Modifications To The Rights of Security Holders and Use of Proceeds.|
|Item 15. Controls and Procedures.|
|Item 16A. Audit Committee Financial Expert.|
|Item 16B. Code of Ethics.|
|Item 16C. Principal Accountant Fees and Services.|
|Item 16D. Exemptions From The Listing Standards for Audit Committees.|
|Item 16E. Purchases of Equity Securities By The Issuer and Affiliated Purchasers.|
|Item 16F. Change in Registrant's Certifying Accountant.|
|Item 16G. Corporate Governance.|
|Item 17. Financial Statements.|
|Item 18. Financial Statements.|
|Item 19. Exhibits.|
|Balance Sheet||Income Statement||Cash Flow|
Rev, G Profit, Net Income
Ops, Inv, Fin
As filed with the Securities and Exchange Commission on August 16, 2010
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
¨ REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF
THE SECURITIES EXCHANGE ACT OF 1934
x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended March 31, 2010
¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period to
¨ SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
Date of event requiring this shell company report
Commission file number 1-10277
KABUSHIKI KAISHA MITSUBISHI UFJ FINANCIAL GROUP
(Exact name of Registrant as specified in its charter)
MITSUBISHI UFJ FINANCIAL GROUP, INC.
(Translation of Registrants name into English)
(Jurisdiction of incorporation or organization)
7-1, Marunouchi 2-chome
Chiyoda-ku, Tokyo 100-8330
(Address of principal executive offices)
Naoki Muramatsu, +81-3-3240-8111, +81-3-3240-7073, address is same as above
(Name, Telephone, Facsimile number and Address of Company Contact Person)
Securities registered or to be registered pursuant to Section 12(b) of the Act:
Title of each class
|Name of each exchange on which registered|
Common stock, without par value
|New York Stock Exchange(1)|
American depositary shares, each of which represents one share of common stock
|New York Stock Exchange|
|(1)||The listing of the registrants common stock on the New York Stock Exchange is for technical purposes only and without trading privileges.|
Securities registered or to be registered pursuant to Section 12(g) of the Act: None
Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act:
$2,300,000,000 Fixed/Floating Rate Non-Cumulative Preferred Securities of MUFG Capital Finance 1 Limited, and Mitsubishi UFJ Financial Group, Inc.s Guarantee thereof
750,000,000 Fixed/Floating Rate Non-Cumulative Preferred Securities of MUFG Capital Finance 2 Limited, and Mitsubishi UFJ Financial Group, Inc.s Guarantee thereof
¥120,000,000,000 Fixed/Floating Rate Non-Cumulative Preferred Securities of MUFG Capital Finance 3 Limited, and Mitsubishi UFJ Financial Group, Inc.s Guarantee thereof
Indicate the number of outstanding shares of each of the issuers classes of capital or common stock as of the close of the period covered by the annual report:
At March 31, 2010, (1) 14,148,414,920 shares of common stock (including 21,069,229 shares of common stock held by the registrant and its consolidated subsidiaries as treasury stock), (2) 100,000,000 shares of first series of class 3 preferred stock, (3) 156,000,000 shares of first series of class 5 preferred stock, and (4) 1,000 shares of class 11 preferred stock.
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes x No ¨
If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.
Yes ¨ No x
NoteChecking the box above will not relieve any registrant required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 from their obligations under those Sections.
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days:
Yes x No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes x No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer x
|Accelerated filer ¨||Non-accelerated filer ¨|
Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:
U.S. GAAP x
International Financial Reporting Standards as issued
by the International Accounting Standards Board ¨
If Other has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow.
Item 17 ¨ Item 18 ¨
If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes ¨ No x
|Identity of Directors, Senior Management and Advisers||4|
|Offer Statistics and Expected Timetable||4|
|Information on the Company||19|
|Unresolved Staff Comments||43|
|Operating and Financial Review and Prospects||44|
|Directors, Senior Management and Employees||101|
|Major Shareholders and Related Party Transactions||114|
|The Offer and Listing||118|
|Quantitative and Qualitative Disclosures about Credit, Market and Other Risk||142|
|Description of Securities Other than Equity Securities||159|
|Defaults, Dividend Arrearages and Delinquencies||161|
|Material Modifications to the Rights of Security Holders and Use of Proceeds||161|
|Controls and Procedures||161|
|Audit Committee Financial Expert||164|
|Code of Ethics||164|
|Principal Accountant Fees and Services||164|
|Exemptions from the Listing Standards for Audit Committees||165|
|Purchases of Equity Securities by the Issuer and Affiliated Purchasers||166|
|Change in Registrants Certifying Accountant||166|
For purposes of this Annual Report, we have presented our consolidated financial statements in accordance with accounting principles generally accepted in the United States, or US GAAP, except for risk-adjusted capital ratios, business segment financial information and some other specifically identified information. Unless otherwise stated or the context otherwise requires, all amounts in our financial statements are expressed in Japanese yen.
When we refer in this Annual Report to MUFG, we, us, our and the Group, we generally mean Mitsubishi UFJ Financial Group, Inc. and its consolidated subsidiaries, but from time to time as the context requires, we mean Mitsubishi UFJ Financial Group, Inc. as an individual legal entity. Similarly, references to MTFG and UFJ Holdings are to Mitsubishi Tokyo Financial Group, Inc. and to UFJ Holdings, Inc., respectively, as well as to MTFG and UFJ Holdings and their respective consolidated subsidiaries, as the context requires. Unless the context otherwise requires, references in this Annual Report to the financial results or business of the MTFG group and the UFJ group refer to those of MTFG and UFJ Holdings and their respective consolidated subsidiaries. In addition, our banking subsidiaries refers to The Bank of Tokyo-Mitsubishi UFJ, Ltd. and Mitsubishi UFJ Trust and Banking Corporation and, as the context requires, their respective consolidated subsidiaries engaged in the banking business. References in this Annual Report to yen or ¥ are to Japanese yen and references to US dollars, US dollar, dollars, US$ or $ are to United States dollars. Our fiscal year ends on March 31 of each year. References to years not specified as being fiscal years are to calendar years.
We usually hold the ordinary general meeting of shareholders of Mitsubishi UFJ Financial Group, Inc. in June of each year in Tokyo.
We may from time to time make written or oral forward-looking statements. Written forward-looking statements may appear in documents filed with or submitted to the US Securities and Exchange Commission, or SEC, including this Annual Report, and other reports to shareholders and other communications.
The US Private Securities Litigation Reform Act of 1995 provides a safe harbor for forward-looking information to encourage companies to provide prospective information about themselves. We rely on this safe harbor in making these forward-looking statements.
Forward-looking statements appear in a number of places in this Annual Report and include statements regarding our intent, business plan, targets, belief or current expectations or the current belief or current expectations of our management with respect to our results of operations and financial condition, including, among other matters, our problem loans and loan losses. In many, but not all cases, we use words such as anticipate, aim, believe, estimate, expect, intend, plan, probability, risk, will, may and similar expressions, as they relate to us or our management, to identify forward-looking statements. These statements reflect our current views with respect to future events and are subject to risks, uncertainties and assumptions. Should one or more of these risks or uncertainties materialize or should underlying assumptions prove incorrect, actual results may vary materially from those which are aimed, anticipated, believed, estimated, expected, intended or planned, or otherwise stated.
Our forward-looking statements are not guarantees of future performance and involve risks and uncertainties. Actual results may differ from those in the forward-looking statements as a result of various factors. We identify in this Annual Report in Item 3.D. Key InformationRisk Factors, Item 4.B. Information on the CompanyBusiness Overview, Item 5. Operating and Financial Review and Prospects and elsewhere, some, but not necessarily all, of the important factors that could cause these differences.
We do not intend to update our forward-looking statements. We are under no obligation, and disclaim any obligation, to update or alter our forward-looking statements, whether as a result of new information, future events or otherwise.
|Item 1.||Identity of Directors, Senior Management and Advisers.|
|Item 2.||Offer Statistics and Expected Timetable.|
|Item 3.||Key Information.|
|A.||Selected Financial Data|
The selected statement of operations data and selected balance sheet data set forth below have been derived from our audited consolidated financial statements. On October 1, 2005, Mitsubishi Tokyo Financial Group, Inc., or MTFG, merged with UFJ Holdings, Inc. with MTFG being the surviving entity. Upon consummation of the merger, MTFG changed its name to Mitsubishi UFJ Financial Group, Inc., or MUFG. The merger was accounted for under the purchase method of accounting, and the assets and liabilities of UFJ Holdings and its subsidiaries were recorded at fair value as of October 1, 2005. Therefore, numbers as of March 31, 2006 reflect the financial position of MUFG while numbers for the fiscal year ended March 31, 2006 comprise the results of MTFG and its subsidiaries for the six months ended September 30, 2005 and the results of MUFG from October 1, 2005 to March 31, 2006. Numbers as of and for the fiscal years ended March 31, 2007, 2008, 2009 and 2010 reflect the financial position and results of MUFG.
Except for risk-adjusted capital ratios, which are calculated in accordance with Japanese banking regulations based on information derived from our consolidated financial statements prepared in accordance with accounting principles generally accepted in Japan, or Japanese GAAP, and the average balance information, the selected financial data set forth below are derived from our consolidated financial statements prepared in accordance with US GAAP.
You should read the selected financial data set forth below in conjunction with Item 5. Operating and Financial Review and Prospects and our consolidated financial statements and other financial data included elsewhere in this Annual Report on Form 20-F. These data are qualified in their entirety by reference to all of that information.
|Fiscal years ended March 31,|
|(in millions, except per share data and number of shares)|
Statement of operations data:
Net interest income
Provision for credit losses
Net interest income after provision for credit losses
Income (loss) from continuing operations before income tax expense (benefit) and cumulative effect of a change in accountings principle
Income tax expense (benefit)
Income (loss) from continuing operations
Income (loss) from discontinued operationsnet
Cumulative effect of a change in accounting principle, net of tax(1)
Net income (loss) before attribution of noncontrolling interests
Net income (loss) attributable to noncontrolling interests
Net income (loss) attributable to Mitsubishi UFJ Financial Group
Net income (loss) available to common shareholders of Mitsubishi UFJ Financial Group
Amounts per share:
Basic earnings (loss) per common shareincome (loss) from continuing operations available to common shareholders of Mitsubishi UFJ Financial Group before cumulative effect of a change in accounting principle
Basic earnings (loss) per common sharenet income (loss) available to common shareholders of Mitsubishi UFJ Financial Group
Diluted earnings (loss) per common shareincome (loss) from continuing operations available to common shareholders of Mitsubishi UFJ Financial Group before cumulative effect of a change in accounting principle
Diluted earnings (loss) per common sharenet income (loss) available to common shareholders of Mitsubishi UFJ Financial Group
Number of shares used to calculate basic earnings (loss) per common share (in thousands)
Number of shares used to calculate diluted earnings (loss) per common share (in thousands)
Cash dividends per share declared during the fiscal year:
Preferred stock (Class 1)
Preferred stock (Class 3)
Preferred stock (Class 5)
Preferred stock (Class 8)
Preferred stock (Class 9)
Preferred stock (Class 10)
Preferred stock (Class 11)
Preferred stock (Class 12)
|At March 31,|
Balance sheet data:
Loans, net of allowance for credit losses
|Fiscal years ended March 31,|
|(in millions, except percentages)|
Other financial data:
Return on equity and assets:
Net income (loss) available to common shareholders as a percentage of total average assets
Net income (loss) available to common shareholders as a percentage of total average equity(3)
Dividends per common share as a percentage of basic earnings per common share
Total average equity as a percentage of total average assets(3)
Net interest income as a percentage of total average interest-earning assets
Credit quality data:
Allowance for credit losses
Allowance for credit losses as a percentage of loans
Nonaccrual and restructured loans, and accruing loans contractually past due 90 days or more
Nonaccrual and restructured loans, and accruing loans contractually past due 90 days or more as a percentage of loans
Allowance for credit losses as a percentage of nonaccrual and restructured loans, and accruing loans contractually past due 90 days or more
Net loan charge-offs
Net loan charge-offs as a percentage of average loans
Average interest rate spread
Risk-adjusted capital ratio calculated under Japanese GAAP(6)
|(1)||Effective March 31, 2006, we adopted new accounting guidance regarding conditional asset retirement obligations.|
|(2)||Includes the common shares potentially issuable by conversion of the Class 11 Preferred Stock.|
|(3)||Effective April 1, 2009, we adopted new accounting guidance regarding noncontrolling interests in subsidiaries. See Noncontrolling Interests under Accounting Changes in Note 1 to our consolidated financial statements included elsewhere in this Annual Report for details. As a result, we have reclassified average balances, as well as year end balances, of Total liabilities and Total equity in the fiscal years ended March 31, 2006 to 2009. Accordingly Net income (loss) available to common shareholders as a percentage of total average equity and Total average equity as a percentage of total average assets have been reclassified.|
|(4)||Amounts include common shares. Redeemable Class 1, 3 and 5 Preferred Stock are excluded.|
|(5)||Percentages of basic loss per common share have not been presented because such information is not meaningful.|
|(6)||Risk-adjusted capital ratios have been calculated in accordance with Japanese banking regulations, based on information derived from our consolidated financial statements prepared in accordance with Japanese GAAP.|
Exchange Rate Information
The tables below set forth, for each period indicated, the noon buying rate in New York City for cable transfers in Japanese yen as certified for customs purposes by the Federal Reserve Bank of New York, expressed in Japanese yen per US$1.00. On August 6, 2010, the noon buying rate was ¥85.25 to US$1.00 and the inverse noon buying rate was US$1.17 to ¥100.00.
|(1)||Period from August 1, 2010 to August 6, 2010.|
|Fiscal years ended March 31,|
Average (of month-end rates)
|B.||Capitalization and Indebtedness|
|C.||Reasons for the Offer and Use of Proceeds|
Investing in our securities involves a high degree of risk. You should carefully consider the risks described in this section, which is intended to disclose all of the risks that we consider material based on the information currently available to us, as well as all the other information in this Annual Report, including our consolidated financial statements and related notes, Item 5. Operating and Financial Review and Prospects, Item 11. Quantitative and Qualitative Disclosures about Credit, Market and Other Risk and Selected Statistical Data.
Our business, operating results and financial condition could be materially and adversely affected by any of the factors discussed below. The trading price of our securities could decline due to any of these factors. This Annual Report also contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of various factors, including the risks faced by us described in this section and elsewhere in this Annual Report. See Forward-Looking Statements.
Risks Related to Our Business
If the global economy remains weak or deteriorates again, our credit-related losses may increase, and the value of the financial instruments we hold may decrease, resulting in losses.
We have been, and may continue to be, affected by the weak global economy. Despite some signs of a slow recovery, the global economy remains susceptible to developments in various economic and political areas. For example, the recent sovereign credit crises in some European Union member states and the political instabilities in some parts of Asia have raised serious concerns of another global financial downturn. If the current weakness in the global economy continues or worsens, the availability of credit may remain limited or become further limited, and some of our borrowers may default on their loan obligations to us, increasing our credit losses. Some of our credit derivative transactions may also be negatively affected, including the protection we sold through single name credit default swaps, index and basket credit default swaps, and credit linked notes. The notional amounts of these protections sold as of March 31, 2010 were ¥2.9 trillion, ¥0.9 trillion and ¥0.2 trillion, respectively. In addition, if credit market conditions remain stagnant or worsen, our capital funding structure may need to be adjusted or our funding costs may increase, which could have a material adverse impact on our financial condition and results of operations.
Furthermore, we have incurred losses, and may incur further losses, as a result of changes in the fair value of our financial instruments resulting from deteriorating market conditions. For example, declines in fair value of our investment securities, particularly equity investment securities, resulted in our recording impairment losses of ¥1,543.8 billion, ¥858.9 billion and ¥117.5 billion for each of the three fiscal years ended March 31, 2010. As of March 31, 2010, approximately 40% of our total assets were financial instruments for which we measure fair value on a recurring basis, and less than 1% of our total assets were financial instruments for which we measure fair value on a nonrecurring basis. Generally, in order to establish the fair value of these instruments, we rely on quoted market prices. If the value of these financial instruments declines, a corresponding write-down may be recognized in our consolidated statement of operations. For more information on our valuation method for financial instruments, see Item 5. Operating and Financial Review and ProspectsCritical Accounting Estimates.
We may suffer additional credit-related losses in the future if our borrowers are unable to repay their loans as expected or if the measures we take in reaction to, or in anticipation of, our borrowers deteriorating repayment abilities prove inappropriate or insufficient.
When we lend money or commit to lend money, we incur credit risk, or the risk of losses if our borrowers do not repay their loans. We may incur significant credit losses or have to provide for a significant amount of additional allowance for credit losses if:
large borrowers become insolvent or must be restructured;
domestic or global economic conditions, either generally or in particular industries in which large borrowers operate, deteriorate;
the value of the collateral we hold, such as real estate or securities, declines; or
we are adversely affected by corporate credibility issues among our borrowers, to an extent that is worse than anticipated.
As a percentage of total loans, nonaccrual and restructured loans and accruing loans contractually past due 90 days or more ranged from 1.70% to 2.18% as of the five recent fiscal year-ends. The percentage increased to 2.18% as of March 31, 2010 compared to the previous year-end mainly due to downgrades in the credit ratings of borrowers in the domestic manufacturing, communication and information services, wholesale and retail, services and other industry segments and the foreign governments and official institutions segment. In particular, as of March 31, 2010, our domestic loans accounted for 78.1% of our total loans outstanding, and the domestic portion of our nonaccrual and restructured loans and accruing loans contractually past due 90 days or more accounted for 85.3% of the total of such loans. If the recession in Japan worsens, our problem loans and credit-related expenses may increase. An increase in problem loans and credit-related expenses would adversely affect our results of operations, weaken our financial condition and erode our capital base. For a discussion of our problem loans, see Item 5. Operating and Financial Review and ProspectsB. Liquidity and Capital ResourcesFinancial Condition and Selected Statistical DataLoan Portfolio.
We may provide additional loans, equity capital or other forms of support to troubled borrowers in order to facilitate their restructuring and revitalization efforts. We may also forbear from exercising some or all of our rights as a creditor against them, and we may forgive loans to them in conjunction with their debt restructuring. These practices may substantially increase our exposure to troubled borrowers and increase our losses. Credit losses may also increase if we elect, or are forced by economic or other considerations, to sell or write off our problem loans at a larger discount, in a larger amount or in a different time or manner, than we may otherwise want.
Although we, from time to time, enter into credit derivative transactions, including credit default swap contracts, to manage our credit risk exposure, such transactions may not provide the protection against credit defaults that we intended due to counterparty defaults or otherwise. The credit default swap contracts could also result in significant losses. As of March 31, 2010, the notional amount of the credit default swaps we sold was
¥3.8 trillion. In addition, negative changes in financial market conditions may restrict the availability and liquidity of credit default swaps. For more information on our credit derivative transactions, see Note 23 to our consolidated financial statements included elsewhere in this Annual Report.
Our loan losses could prove to be materially different from our estimates and could materially exceed our current allowance for credit losses, in which case we may need to provide for additional allowance for credit losses and may also record credit losses beyond our allowance. Our allowance for credit losses in our loan portfolio is based on evaluations about customers creditworthiness and the value of collateral we hold. Negative changes in economic conditions or our borrowers repayment abilities could require us to provide for additional allowance. For example, as a result of the weakening of the financial condition of borrowers, especially in the manufacturing, wholesale and retail, and other industry segments, provision for credit losses increased to ¥647.8 billion for the fiscal year ended March 31, 2010 from ¥626.9 billion for the fiscal year ended March 31, 2009. As of March 31, 2010, our allowance for credit losses as a percentage of loans increased to 1.43% compared to 1.15% as of March 31, 2009, since the allowance for credit losses increased due to the credit quality deterioration of borrowers in those segments, whereas our total outstanding loans decreased. The regulatory standards or guidance on establishing allowances may also change, causing us to change some of the evaluations used in determining the allowances. As a result, we may need to provide for additional allowance for credit losses. For a discussion of our allowance policy, see Item 5. Operating and Financial Review and ProspectsB. Liquidity and Capital ResourcesFinancial Condition.
If the Japanese stock market or other global markets decline in the future, we may incur losses on our securities portfolio and our capital ratios will be adversely affected.
A decline in Japanese stock prices could reduce the value of the Japanese domestic marketable equity securities that we hold, which accounted for 8.3% of our total investment securities portfolio, or 2.2% of our total assets, as of March 31, 2010, a decrease from 10.9% and an increase from 2.0% as of March 31, 2009, respectively. The Nikkei Stock Average, which is an average of 225 blue chip stocks listed on the Tokyo Stock Exchange, declined from ¥11,244.40 at April 1, 2010 to ¥9,572.49 at August 9, 2010, mainly reflecting investor sentiment that remains cautious in light of uncertainties surrounding the global financial and capital markets. If stock market prices further decline or do not improve, we may incur additional losses on our securities portfolio. Further declines in the Japanese stock market or other global markets may also materially and adversely affect our capital ratios and financial condition. For a detailed discussion of our holdings of marketable equity securities and the effect of market declines on our capital ratios, see Item 5. Operating and Financial Review and ProspectsB. Liquidity and Capital ResourcesCapital Adequacy and Selected Statistical DataInvestment Portfolio.
Because a large portion of our assets are located in Japan and our business operations are conducted primarily in Japan, we may incur further losses if economic conditions in Japan worsen.
Our performance is particularly affected by the general economic conditions of Japan where we are headquartered and conduct a significant amount of our business. As of March 31, 2008, 2009 and 2010, 71.8%, 73.9% and 74.5% of our total assets were related to Japanese domestic assets, respectively, including Japanese national government and Japanese government agency bonds which accounted for 45.2%, 69.8% and 75.8% of our total investment securities portfolio. Moreover, approximately three quarters of our total interest and non-interest income related to Japanese domestic income.
During the fiscal year ended March 31, 2010, although there were early signs of a recovery of economic conditions in Japan from the recent global recession that began in the second half of 2008, a number of factors still remain that could thwart the recovery of, or lead to another downturn in the Japanese economy. For example, between April 15, 2010 and July 1, 2010, the Nikkei Stock Average declined from ¥11,273.79 to ¥9,191.60. In addition, Japans real gross domestic product decreased 2.0 percentage points in the fiscal year ended March 31, 2010, which was a continuing decrease for the second consecutive year. Japans consumer price index for March 2010 decreased 1.2 percentage points year-on-year, and Japans unemployment rate for March 2010 rose 0.2 percentage points year-on-year to 5.0%. Japans economic recovery may be further influenced by increased
uncertainties surrounding the Japanese political environment, particularly after the ruling Democratic Party lost control of the upper house of the Japanese Diet in the national elections in July 2010. Due to the high concentration of our investment portfolio in Japanese national government and Japanese government agency bonds, significant interest rate fluctuations, and resulting price fluctuations in those securities, may adversely affect our capital ratios. In addition, the economic conditions in Japan are affected by changes in the global economy, which also have a direct impact on our foreign operations. If the economic conditions in Japan or globally remain stagnant or deteriorate, we may report losses on our Japanese national government and Japanese government agency bonds as well as Japanese equity securities. For a further discussion of our results of operations on a geographic basis, see Item 5. Operating and Financial Review and ProspectsA. Operating ResultsGeographic Segment Analysis. Deteriorating or stagnant economic conditions may also result in a decrease in the volume in financial transactions in general, which in turn may reduce our income from fees and commissions. For example, our income from fees and commission decreased to ¥1,139.5 billion for the fiscal year ended March 31, 2010 from ¥1,188.5 billion for the previous fiscal year mainly due to lower transaction volume.
If our strategic alliance with Morgan Stanley fails, we could suffer financial or reputational loss.
In an effort to better cope with the rapidly changing global business and regulatory environment, we have recently entered into, and plan to continue to seek opportunities for, arrangements to strengthen our global strategic alliance with Morgan Stanley. In May 2010, we and Morgan Stanley created two joint venture securities companies in Japan, Mitsubishi UFJ Morgan Stanley Securities Co., Ltd., or MUMSS, and Morgan Stanley MUFG Securities Co., Ltd., or MSMS. We and Morgan Stanley integrated our respective securities subsidiaries in Japan, Mitsubishi UFJ Securities Co., Ltd., or MUS, and Morgan Stanley Japan Securities Co., Ltd., to establish the two joint venture companies. We hold a 60% economic interest in each of MUMSS and MSMS through Mitsubishi UFJ Securities Holdings Co., Ltd., or MUSHD, an intermediate holding company, and Morgan Stanley indirectly holds a 40% economic interest in each of MUMSS and MSMS. We hold a 60% voting interest through MUSHD and Morgan Stanley indirectly holds a 40% voting interest in MUMSS, while we hold a 49% voting interest through MUSHD and Morgan Stanley indirectly holds a 51% voting interest in MSMS. Because MUSs business represented our core securities business in Japan prior to the formation of the joint venture companies, and because the joint venture companies will be the primary channel through which our retail and wholesale securities business will be conducted, the failure of the joint venture companies to achieve their intended goals due to unanticipated difficulties in integrating their IT or internal control systems or personnel, or the inability to cross-sell products and services as expected, could negatively affect our retail and wholesale securities business.
In addition, we hold an approximately 20% interest (on a fully diluted basis) in Morgan Stanley. With our current interest in Morgan Stanley, we cannot control its operations and assets or make major decisions without the consent of other shareholders. Thus, Morgan Stanley may make a decision that is inconsistent with our interests. Although we do not control Morgan Stanley, given the magnitude of investment that we have made, if Morgan Stanley encounters financial or other business difficulties, we may suffer a financial loss on our investment or damage to our reputation.
For a more detailed discussion of our joint ventures with, and investment in, Morgan Stanley, see Item 4.B. Information on the CompanyBusiness Overview and Item 5. Operating and Financial Review and ProspectsRecent Developments.
Because of our loans to consumers and our shareholdings in companies engaged in consumer lending, changes in the business or regulatory environment for consumer finance companies in Japan may further adversely affect our financial results.
We have a large loan portfolio in the consumer lending industry as well as large shareholdings in subsidiaries and equity method investees in the consumer finance industry. Our domestic loans to consumers amount to approximately one-fifth of our total outstanding loans.
The Japanese government has been implementing regulatory reforms affecting the consumer lending industry in recent years. In December 2006, the Diet passed legislation to reform the regulations relating to the consumer lending business, including amendments to the Law Concerning Acceptance of Investment, Cash Deposit and Interest Rate, etc., which, effective June 18, 2010, reduced the maximum permissible interest rate from 29.2% per annum to 20% per annum. The regulatory reforms also included amendments to the Law Concerning Lending Business, which, effective June 18, 2010, abolished the so-called gray-zone interest. Gray-zone interest refers to interest rates exceeding the limits stipulated by the Interest Rate Restriction Law (between 15% per annum to 20% per annum depending on the amount of principal). Prior to June 18, 2010, gray-zone interest was permitted under certain conditions set forth in the Law Concerning Lending Business. As a result of the regulatory reforms, all interest rates are now subject to the lower limits imposed by the Interest Rate Restriction Law, compelling lending institutions, including our consumer finance subsidiaries and equity method investees, to lower the interest rates they charge borrowers. The new regulations that became effective on June 18, 2010 may also have a further negative impact on the business of consumer finance companies as those new regulations require, among other things, consumer finance companies to review the repayment capability of borrowers before making loans to individual borrowers, thereby limiting the amount of borrowing available to those borrowers.
In addition, as a result of decisions by the Supreme Court of Japan prior to June 18, 2010 imposing stringent requirements under the Law Concerning Lending Business for charging gray-zone interest rates, consumer finance companies have experienced a significant increase in borrowers claims for reimbursement of previously collected interest payments in excess of the limits stipulated by the Interest Rate Restriction Law. As of March 31, 2009 and 2010, we had ¥77 billion and ¥84 billion of allowance for repayment of excess interest, respectively. For the fiscal years ended March 31, 2009 and 2010, we recorded provisions for repayment of excess interest of ¥47.9 billion and ¥44.8 billion, respectively. For the same periods, one of our equity method investees engaged in consumer lending had a negative impact of ¥15.8 billion and ¥23.1 billion, respectively, on equity in losses of equity method investees in our consolidated statement of operations.
These developments have adversely affected, and these and any future developments may further adversely affect, the operations and financial condition of our subsidiaries and borrowers which are engaged in consumer lending, which in turn may affect the value of our related shareholdings and loan portfolio. In particular, to further strengthen our consumer finance business as a core business of our group, in August 2008, we increased our interest in our consolidated subsidiary, Mitsubishi UFJ NICOS Co., Ltd., and separately, in October 2008, increased our interest in an equity method investee, ACOM CO., LTD. As a result of these investments, any negative developments in the consumer finance industry may have a greater impact on our consolidated results of operations and financial condition.
Increases in interest rates could adversely affect the value of our bond portfolio.
The aggregate estimated fair value of the Japanese government and corporate bonds and foreign bonds, including US Treasury bonds, that we hold has increased in recent fiscal years to 22.9% of our total assets as of March 31, 2010. In particular, the Japanese government and Japanese government agency bonds accounted for 20.2% of our total assets as of March 31, 2010. For a detailed discussion of our bond portfolio, see Selected Statistical DataInvestment Portfolio.
The Bank of Japan has been maintaining a very low policy rate (uncollateralized overnight call rate) of 0.10% in an effort to lift the economy out of deflation. Short-term interest rates continue to decline because of the Bank of Japans so-called monetary easing policy. Interest rates in other major global financial markets, including the United States and the European Union, have remained at historic low levels in recent years. An increase in relevant interest rates, particularly if such increase is unexpected or sudden, may have a significant negative effect on the value of our bond portfolio. See Operating and Financial Review and ProspectsBusiness Environment.
Fluctuations in foreign currency exchange rates may result in transaction losses on translation of monetary assets and liabilities denominated in foreign currencies as well as foreign currency translation losses with respect to our foreign subsidiaries and equity method investees.
Fluctuations in foreign currency exchange rates against the Japanese yen create transaction gains or losses on the translation into Japanese yen of monetary assets and liabilities denominated in foreign currencies. To the extent that our foreign currency-denominated assets and liabilities are not matched in the same currency or appropriately hedged, we could incur losses due to future foreign exchange rate fluctuations. During the fiscal year ended March 31, 2010, the average balance of our foreign interest-bearing assets was ¥47.6 trillion and the average balance of our foreign interest-bearing liabilities was ¥33.7 trillion, representing 27.1% of our average total interest-earning assets and 21.3% of our average total interest-bearing liabilities during the same period. For the fiscal year ended March 31, 2010, net foreign exchange gains, which primarily include transaction gains on the translation into Japanese yen of monetary assets and liabilities denominated in foreign currencies and net gains on currency derivatives instruments entered into for trading purposes, were ¥216.7 billion, compared to net foreign exchange losses of ¥206.2 billion for the previous fiscal year. In addition, we may incur foreign currency translation losses with respect to our foreign subsidiaries and equity method investees due to fluctuations in foreign currency exchange rates. The average exchange rate for the fiscal year ended March 31, 2010 was ¥92.85 per US$1.00, compared to the average exchange rate for the fiscal year ended March 31, 2009 of ¥100.54 per US$1.00. The average exchange rate for the conversion of the US dollar financial statements of some of our foreign subsidiaries for the fiscal year ended December 31, 2009 was ¥93.57 per US$1.00, compared to the average exchange rate for the fiscal year ended December 31, 2008 of ¥103.46 per US$1.00. The change in the average exchange rate of the Japanese yen against the US dollar and other foreign currencies had the effect of decreasing total revenue by ¥181.3 billion, net interest income by ¥67.0 billion and income from continuing operations before income tax expense by ¥78.3 billion, respectively, for the fiscal year ended March 31, 2010. For more information on foreign exchange gains and losses and foreign currency translation gains and losses, see Item 5. Operating and Financial Review and ProspectsA. Operating ResultsResults of Operations.
Any adverse changes in the business of Union Bank, an indirect wholly-owned subsidiary in the United States, could significantly affect our results of operations.
Union Bank, N.A., or Union Bank, is the primary subsidiary of UnionBanCal Corporation, or UNBC, which is an indirect wholly-owned subsidiary. Union Bank has historically contributed to a significant portion of our net income. UNBC reported net income of $608.1 million and $269.9 million for the fiscal years ended December 31, 2007 and 2008, and a net loss of $65.0 million for the fiscal year ended December 31, 2009. Compared to fiscal years prior to the fiscal year ended March 2009, any adverse developments which could arise at Union Bank will have a greater negative impact on our results of operation and financial condition, because Union Bank became, through UNBC, our wholly owned subsidiary in November 2008 compared with approximately 64% ownership in prior years. Moreover, the risks relating to Union Bank have increased as Union Bank has been expanding its business through acquisitions of community banks. In April 2010, Union Bank acquired approximately $600 million in total assets and assumed more than $400 million in deposits of Tamalpais Bank, a California-based bank, and acquired approximately $3.2 billion in total assets and assumed approximately $2.5 billion in deposits of Frontier Bank, a Washington-based bank, pursuant to its respective purchase and assumption agreements with the US Federal Deposit Insurance Corporation. If Union Bank is unable to achieve the benefits expected from its business strategies, including its business expansion strategy through acquisitions of failing community banks, we will suffer an adverse financial impact. Other factors that have negatively affected, and could continue to negatively affect, Union Banks results include adverse economic conditions in California, including the downturn in the real estate and housing industries in California, substantial competition in the California banking market, uncertainty over the US economy, the threat of terrorist attacks, fluctuating oil prices, rising interest rates, negative trends in debt ratings, and additional costs which may arise from enterprise-wide compliance, or failure to comply, with applicable laws and regulations, such as the US Bank Secrecy Act and related amendments under the USA PATRIOT Act.
We may incur further losses as a result of financial difficulties relating to other financial institutions, both directly and through the effect they may have on the overall banking environment and on their borrowers.
Some domestic and foreign financial institutions, including banks, non-bank lending and credit institutions, securities companies and insurance companies, have experienced declining asset quality and capital adequacy and other financial problems. This may lead to severe liquidity and solvency problems, which have in the past resulted in the liquidation, government control or restructuring of affected institutions. Many banks, securities companies, insurance companies and other financial institutions, especially US and European institutions, continue to face significant pressure due to declining asset quality as a result of the continuing weakness of the global financial markets and due to legislative and regulatory developments affecting them. Allegations or governmental prosecution of improper trading activities or inappropriate business conduct of a specific financial institution could also negatively affect the public perception of other global financial institutions individually and the global financial industry as a whole. These developments may continue to adversely affect our financial results.
Financial difficulties relating to financial institutions could adversely affect us because we have extended loans, some of which may need to be classified as nonaccrual and restructured loans, to banks, securities companies, insurance companies and other financial institutions that are not our consolidated subsidiaries. Our loans to banks and other financial institutions have been more than 5% of our total loans as of each year-end in the three fiscal years ended March 31, 2010, with the percentage increasing from 7.5% to 7.7% between March 31, 2009 and 2010. We may also be adversely affected because we are a shareholder of some other banks and financial institutions that are not our consolidated subsidiaries, including Japanese regional banks as part of our general equity investment securities portfolio. In addition, we held an approximately 20% interest in Morgan Stanley on a fully diluted basis as of March 31, 2010. We may also be adversely affected because we enter into transactions, such as derivative transactions, in the ordinary course of business, with other banks and financial institutions as counterparties. For example, we enter into credit derivatives with banks, broker-dealers, insurance and other financial institutions for managing credit risk exposures, for facilitating client transactions, and for proprietary trading purpose. The notional amount of the protection we sold through these instruments was ¥4.1 trillion as of March 31, 2010.
In addition, financial difficulties relating to financial institutions could indirectly have an adverse effect on us because:
we may be requested to participate in providing assistance to support distressed financial institutions that are not our consolidated subsidiaries;
the government may elect to provide regulatory, tax, funding or other benefits to those financial institutions to strengthen their capital, facilitate their sale or otherwise, which in turn may increase their competitiveness against us;
deposit insurance premiums could rise if deposit insurance funds prove to be inadequate;
bankruptcies or government support or control of financial institutions could generally undermine confidence in financial institutions or adversely affect the overall banking environment; and
negative media coverage of the financial industry, regardless of its accuracy and applicability to us, could affect customer or investor sentiment, harm our reputation and have a materially adverse effect on our business or the price of our securities.
Our strategy to expand the range of our financial products and services and the geographic scope of our business globally may fail if we are unable to anticipate or manage new or expanded risks that entail such expansion.
We continue to seek opportunities to expand the range of our products and services beyond our traditional banking and trust businesses, through development and introduction of new products and services or through acquisitions of or investments in financial institutions with products and services that complement our business. For
example, taking advantage of our financial holding company status which enables us to underwrite securities, we are currently seeking to expand our corporate banking operations in the United States. In addition, the sophistication of financial products and management systems has been growing significantly in recent years. As a result, we are exposed to new and increasingly complex risks. Some of the activities that our subsidiaries are expected to engage in, such as derivatives and foreign currency trading, present substantial risks. In some cases, we have only limited experience with the risks related to the expanded range of these products and services. In addition, we may not be able to successfully develop or operate the necessary information systems. As a result, we may not be able to foresee the risks relating to new products and services. As we expand the geographic scope of our business, we will also be exposed to risks that are unique to particular jurisdictions or markets. Our risk management systems may prove to be inadequate and may not work in all cases or to the degree required. The substantial market, credit, compliance and regulatory risks in relation to the expanding scope of our products, services and trading activities or expanding our business beyond our traditional markets, could result in us incurring substantial losses. In addition, our efforts to offer new services and products or penetrate new markets may not succeed if product or market opportunities develop more slowly than expected, if our new services or products are not well accepted among customers, or if the profitability of opportunities is undermined by competitive pressures. For a detailed discussion of our risk management systems, see Item 11. Quantitative and Qualitative Disclosures about Credit, Market and Other Risk.
Unanticipated economic changes in, and measures taken in response to such changes by, emerging market countries could result in additional losses.
We are increasingly active, through a network of branches and subsidiaries, in emerging market countries, particularly countries in Asia, Latin America, Central and Eastern Europe, and the Middle East, whose economies can be volatile and susceptible to adverse changes and trends in the global financial markets. For example, a decline in the value of local currencies of these countries could negatively affect the creditworthiness of some of our borrowers in these countries. The loans we have made to borrowers and banks in these countries are often denominated in US dollars, Euro or other foreign currencies. These borrowers often do not hedge the loans to protect against fluctuations in the values of local currencies. A devaluation of the local currency would make it more difficult for a borrower earning income in that currency to pay its debts to us and other foreign lenders. In addition, some countries in which we operate may attempt to support the value of their currencies by raising domestic interest rates. If this happens, the borrowers in these countries would have to devote more of their resources to repaying their domestic obligations, which may adversely affect their ability to repay their debts to us and other foreign lenders. The limited credit availability resulting from these conditions may adversely affect economic conditions in some countries. This could cause a further deterioration of the credit quality of borrowers and banks in those countries and cause us to incur further losses. Some emerging market countries may also change their monetary or other economic policies in response to political instabilities or pressures, which are difficult to predict. As of March 31, 2010, based on the domicile of obligors, our assets in Europe, Asia and Oceania (excluding Japan), and other areas (excluding Japan and the United States) were ¥15.8 trillion, ¥8.4 trillion and ¥5.2 trillion, representing 7.9%, 4.2% and 2.6% of our total assets. See Item 5. Operating and Financial Review and ProspectsB. Liquidity and Capital ResourcesFinancial Condition.
Our business may be adversely affected by competitive pressures, which have partly increased due to regulatory changes and recent market changes in the financial industry domestically and globally.
In recent years, the Japanese financial system has been undergoing significant changes and regulatory barriers to competition have been reduced. In particular, any further reform of the Japanese postal savings system, under which the Japan Post Group companies, including Japan Post Bank Co., Ltd., were established in October 2007, could substantially increase competition within the financial services industry as Japan Post Bank, with the largest deposit base and branch network in Japan, may begin to offer financial services in competition with our business operations generating fee income. In addition, there has been significant consolidation and convergence among financial institutions domestically and globally, and this trend may continue in the future and further increase competition in the market. A number of large commercial banks and other broad-based financial
services firms have merged or formed strategic alliances with, or have acquired, other financial institutions both in Japan and overseas. As a result of the strategic alliance and the joint venture companies that we formed with Morgan Stanley, we may be newly perceived as a competitor by some of the financial institutions with which we had a more cooperative relationship in the past. If we are unable to compete effectively in this more competitive and deregulated business environment, our business, results of operations and financial condition will be adversely affected. For a more detailed discussion of our competition in Japan, see Item 4.B. Information on the CompanyBusiness OverviewCompetitionJapan.
Future changes in accounting standards and regulatory requirements could have a negative impact on our business and results of operations.
Future developments or changes in laws, regulations, policies, standards, voluntary codes of practice and their effects are unpredictable and beyond our control. For example, Japanese and other international organizations that set accounting standards have released proposals to revise accounting standards applicable to retirement benefit obligations. For example, the Accounting Standards Board of Japan has published proposals that, if adopted, would require companies preparing their financial statements in accordance with Japanese GAAP to record as liabilities on balance sheets actuarial losses and unrecognized past service cost, which are currently not recorded as liabilities on balance sheets. The proposed changes, if adopted, could have a significant negative impact on our capital ratios since we calculate our capital ratios in accordance with Japanese banking regulations based on information derived from our financial statements prepared in accordance with Japanese GAAP. For more information, see Risks Related to Our BusinessWe may not be able to maintain our capital ratios above minimum required levels, which could result in the suspension of some or all of our operations.
In addition, in response to the recent instabilities in financial markets, several international organizations which set accounting standards have released proposals to revise standards on accounting for financial instruments. Accounting standards applicable to financial instruments remain subject to debate and revision by international organizations which set accounting standards. If the current accounting standards change in the future, the reported values of some of our financial instruments may need to be modified, and such modification could have a significant impact on our financial results or financial condition. For more information, see Item 5. Operating and Financial Review and ProspectsCritical Accounting Estimates.
We could also be required to incur significant expenses to comply with new standards and regulations. For example, if we adopt a new accounting system in the future, we may be required to incur significant additional costs for establishing and implementing effective internal controls, which may materially and adversely affect our financial condition and results of operations.
In addition, additional regulatory requirements could have an adverse impact on our future business and results of operations. For example, new regulations relating to the consumer lending business which became effective in June 2010 impose, among other things, stricter requirements for consumer finance companies in Japan to review the repayment capabilities of borrowers before lending, thereby limiting the amount of borrowing available to individual borrowers, which in turn may negatively affect our profitability. For more information on regulatory changes in the consumer finance industry, see Risks Related to Our BusinessBecause of our loans to consumers and our shareholdings in companies engaged in consumer lending, changes in the business or regulatory environment for consumer finance companies in Japan may further adversely affect our financial results.
Transactions with counterparties in countries designated by the US Department of State as state sponsors of terrorism may lead some potential customers and investors in the United States and other countries to avoid doing business with us or investing in our shares.
We, through our banking subsidiaries, engage in operations with entities in or affiliated with Iran and Syria, including transactions with entities owned or controlled by the Iranian or Syrian governments, and the banking
subsidiary has a representative office in Iran. The US Department of State has designated Iran, Syria and other countries as state sponsors of terrorism, and US law generally prohibits US persons from doing business with such countries. Our activities with counterparties in or affiliated with Iran, Syria and other countries designated as state sponsors of terrorism are conducted in compliance in all material respects with both applicable Japanese and US regulations.
Our operations with entities in Iran consist primarily of loans for petroleum projects and trade financing for general commercial purposes, as well as letters of credit and foreign exchange services. Our operations relating to Syria are primarily foreign exchange services. We do not believe our operations relating to Iran and Syria are material to our business or financial condition. As of March 31, 2010, the loans outstanding to borrowers in or affiliated with Iran were approximately $48.0 million, which represented less than 0.01% of our total assets, and we did not have any loans outstanding to the financial institutions specifically listed by the US government. We did not have any loans outstanding with entities in or affiliated with Syria, including the financial institutions specifically listed by the US government. In addition, we receive deposits or hold assets on behalf of several individuals resident in Japan who are citizens of countries designated as state sponsors of terrorism.
We are aware of initiatives by US governmental entities and US institutional investors, such as pension funds, to adopt or consider adopting laws, regulations or policies prohibiting transactions with or investment in, or requiring divestment from, entities doing business with Iran, Syria and other countries identified as state sponsors of terrorism. It is also possible that such initiatives may result in our being unable to gain or retain entities subject to such prohibitions as customers or as investors in our shares. In addition, depending on socio-political developments, our reputation may suffer due to our association with these countries. The above circumstances could have an adverse effect on our business and financial condition. The US government has recently enacted new legislation designed to limit economic and financial transactions with Iran. This or any similar legislative developments initiated by the US government may further restrict our business operations, and our failure to comply may result in regulatory action against us.
We may not be able to maintain our capital ratios above minimum required levels, which could result in the suspension of some or all of our operations.
We, as a holding company, and our Japanese banking subsidiaries are required to maintain risk-weighted capital ratios above the levels specified in the capital adequacy guidelines of the Financial Services Agency of Japan. As of March 31, 2010, our total risk-adjusted capital ratio was 14.87% compared to the minimum risk-adjusted capital ratio required of 8.00%, and our Tier I capital ratio was 10.63% compared to the minimum Tier I capital ratio required of 4.00%. Our capital ratios are calculated in accordance with Japanese banking regulations based on information derived from our financial statements prepared in accordance with Japanese GAAP. In addition, some of our subsidiaries are also subject to the capital adequacy rules of various foreign countries, including the United States where each of MUFG, BTMU, MUTB and UNBC is a financial holding company under the US Bank Holding Company Act. We or our banking subsidiaries may be unable to continue to satisfy the capital adequacy requirements because of:
increases in credit risk assets and expected losses we or our subsidiaries may incur due to fluctuations in our or our subsidiaries loan and securities portfolios as a result of deteriorations in the credit of our borrowers and the issuers of equity and debt securities;
increases in credit costs we or our subsidiaries may incur as we or our subsidiaries dispose of problem loans or as a result of deteriorations in the credit of our borrowers;
declines in the value of our or our subsidiaries securities portfolio;
changes in the capital ratio requirements or in the guidelines regarding the calculation of bank holding companies or banks capital ratios or changes in the regulatory capital requirements for securities firms;
a reduction in the value of our or our subsidiaries deferred tax assets;
adverse changes in foreign currency exchange rates; or
other adverse developments discussed in these risk factors.
In December 2009, the Basel Committee on Banking Supervision released proposals designed to strengthen global capital and liquidity regulations. The various proposals, if adopted, could impose stricter capital requirements and new liquidity requirements on global financial institutions such as us. If the proposals, including any new proposals released thereafter, are adopted, the Japanese capital ratio framework is expected to be revised in substantial conformity with them, thereby imposing possibly more stringent requirements on Japanese financial institutions, including us.
If our capital ratios fall below required levels, the Financial Services Agency of Japan could require us to take a variety of corrective actions, including withdrawal from all international operations or suspension of all or part of our business operations. In addition, if the capital ratios of our subsidiaries subject to capital adequacy rules of foreign jurisdictions fall below the required levels, the local regulators could also take action against them that may result in reputational damage or financial losses to us. For a discussion of our capital ratios and the related regulatory guidelines, see Item 4.B. Information on the CompanyBusiness OverviewSupervision and Regulation and Item 5. Operating and Financial Review and ProspectsB. Liquidity and Capital ResourcesCapital Adequacy.
If the goodwill recorded in connection with our acquisitions becomes impaired, we may be required to record impairment charges, which may adversely affect our financial results and the price of our securities.
In accordance with US GAAP, we have accounted for our acquisitions using the purchase method of accounting. We recorded the excess of the purchase price over the fair value of the assets and liabilities of the acquired companies as goodwill. US GAAP requires us to test goodwill for impairment at least annually, or more frequently if events or changes in circumstances indicate that goodwill may be impaired.
The recent global financial crisis and recession led to the decline in our market capitalization and negatively affected the fair value of our reporting units for purposes of our periodic testing of goodwill for impairment. As a result, we recorded ¥893.7 billion, ¥845.8 billion and ¥0.5 billion of goodwill impairment charges for the fiscal years ended March 31, 2008, 2009 and 2010, respectively. As of March 31, 2010, the balance of goodwill was ¥381.5 billion.
We may be required to record additional impairment charges relating to goodwill in future periods if the fair value of any of our reporting units declines below the fair value of related assets net of liabilities. Any additional impairment charges will negatively affect our financial results, and the price of our securities could be adversely affected. For a detailed discussion of the goodwill recorded and our periodic testing of goodwill for impairment, see Item 5. Operating and Financial Review and ProspectsCritical Accounting EstimatesAccounting for Goodwill and Intangible Assets and Item 5. Operating and Financial Review and ProspectsB. Liquidity and Capital ResourcesFinancial ConditionGoodwill.
Risks Related to Owning Our Shares
It may not be possible for investors to effect service of process within the United States upon us or our directors, corporate auditors or other management members, or to enforce against us or those persons judgments obtained in US courts predicated upon the civil liability provisions of the US federal or state securities laws.
We are a joint stock company incorporated under the laws of Japan. Almost all of our directors, corporate auditors or other management members reside outside the United States. Many of our assets and the assets of these persons are located in Japan and elsewhere outside the United States. It may not be possible, therefore, for US investors to effect service of process within the United States upon us or these persons or to enforce, against us or these persons, judgments obtained in the US courts predicated upon the civil liability provisions of the US federal or state securities laws.
We believe there is doubt as to the enforceability in Japan, in original actions or in actions brought in Japanese courts to enforce judgments of US courts, of claims predicated solely upon the US federal or state securities laws mainly because the Civil Execution Act of Japan requires Japanese courts to deny requests for the enforcement of judgments of foreign courts if foreign judgments fail to satisfy the requirements prescribed by the Civil Execution Act, including:
the jurisdiction of the foreign court be recognized under laws, regulations, treaties or conventions;
proper service of process be made on relevant defendants, or relevant defendants be given appropriate protection if such service is not received;
the judgment and proceedings of the foreign court not be repugnant to public policy as applied in Japan; and
there exist reciprocity as to the recognition by a court of the relevant foreign jurisdiction of a final judgment of a Japanese court.
Judgments obtained in the US courts predicated upon the civil liability provisions of the US federal or state securities laws may not satisfy these requirements.
Risks Related to Owning Our ADSs
As a holder of ADSs, you have fewer rights than a shareholder of record in our shareholder register since you must act through the depositary to exercise these rights.
The rights of our shareholders under Japanese law to take actions such as voting, receiving dividends and distributions, bringing derivative actions, examining our accounting books and records and exercising appraisal rights are available only to shareholders of record. Because the depositary, through its custodian, is the record holder of the shares underlying the American Depositary Shares, or ADSs, only the depositary can exercise shareholder rights relating to the deposited shares. ADS holders, in their capacity, will not be able to directly bring a derivative action, examine our accounting books and records and exercise appraisal rights. We have appointed The Bank of New York Mellon as depositary, and we have the authority to replace the depositary.
Pursuant to the deposit agreement among us, the depositary and a holder of ADSs, the depositary will make efforts to exercise voting or any other rights associated with shares underlying ADSs in accordance with the instructions given by ADS holders, and to pay to ADS holders dividends and distributions collected from us. However, the depositary can exercise reasonable discretion in carrying out the instructions or making distributions, and is not liable for failure to do so as long as it has acted in good faith. Therefore, ADS holders may not be able to exercise voting or any other rights in the manner that they had intended, or may lose some or all of the value of the dividends or the distributions. Moreover, the depositary agreement that governs the obligations of the depositary may be amended or terminated by us and the depositary without your consent, notice, or any reason. As a result, you may be prevented from having the rights in connection with the deposited shares exercised in the way you had wished or at all.
ADS holders are dependent on the depositary to receive our communications. We send to the depositary all of our communications to ADS holders, including annual reports, notices and voting materials, in Japanese. ADS holders may not receive all of our communications with shareholders of record in our shareholder register in the same manner or on an equal basis. In addition, ADS holders may not be able to exercise their rights as ADS holders due to delays in the depositary transmitting our shareholder communications to ADS holders. For a detailed discussion of the rights of ADS holders and the terms of the deposit agreement, see Item 10.B. Additional InformationMemorandum and Articles of Association.
|Item 4.||Information on the Company.|
|A.||History and Development of the Company|
Mitsubishi UFJ Financial Group, Inc.
MUFG is a bank holding company incorporated as a joint stock company (kabushiki kaisha) under the Company Law of Japan. We are the holding company for The Bank of Tokyo-Mitsubishi UFJ, Ltd., or BTMU, Mitsubishi UFJ Trust and Banking Corporation, or MUTB, Mitsubishi UFJ Securities Holdings Co., Ltd., or MUSHD, Mitsubishi UFJ Morgan Stanley Securities Co., Ltd., or MUMSS, Mitsubishi UFJ NICOS Co., Ltd., or Mitsubishi UFJ NICOS, and other companies engaged in a wide range of financial businesses.
On April 2, 2001, The Bank of Tokyo-Mitsubishi, Ltd., Mitsubishi Trust and Banking Corporation, or Mitsubishi Trust Bank, and Nippon Trust Bank Limited established MTFG to be a holding company for the three entities. Before that, each of the banks had been a publicly held company. On April 2, 2001, through a stock-for-stock exchange, they became wholly owned subsidiaries of MTFG, and the former shareholders of the three banks became shareholders of MTFG. Nippon Trust Bank Limited was later merged into Mitsubishi Trust Bank.
On April 1, 2004, we implemented a new integrated business group system, which currently integrates the operations of BTMU, MUTB and MUSHD and MUMSS into the following three areasRetail, Corporate, and Trust Assets. This new measure was intended to enhance synergies by promoting more effective and efficient collaboration between our subsidiaries.
On July 1, 2005, MTFG made Mitsubishi Securities Co., Ltd., a directly held subsidiary by acquiring all of the shares of Mitsubishi Securities common stock held by Bank of Tokyo-Mitsubishi and Mitsubishi Trust Bank.
On June 29, 2005, the merger agreement between MTFG and UFJ Holdings was approved at the general shareholders meetings of MTFG and UFJ Holdings. As the surviving entity, Mitsubishi Tokyo Financial Group, Inc. was renamed Mitsubishi UFJ Financial Group, Inc. The merger of the two bank holding companies was completed on October 1, 2005.
On September 30, 2007, MUSHD, which was then called Mitsubishi UFJ Securities Co., Ltd., or MUS, became a wholly owned subsidiary of MUFG through a share exchange transaction.
On August 1, 2008, Mitsubishi UFJ NICOS became a wholly owned subsidiary of MUFG through a share exchange transaction. On the same day, we entered into a share transfer agreement with The Norinchukin Bank, or Norinchukin, under which we sold some of our shares of Mitsubishi UFJ NICOS common stock to Norinchukin. Currently, Mitsubishi UFJ NICOS is a consolidated subsidiary of MUFG.
On October 13, 2008, we made an investment in Morgan Stanley as part of a global strategic alliance. We beneficially own approximately 20% of the common stock of Morgan Stanley (assuming full conversion of the convertible preferred stock of Morgan Stanley we currently own), and are pursuing a variety of business opportunities in Japan and abroad.
On October 21, 2008, we completed a tender offer for outstanding shares of ACOM CO., LTD. common stock, raising our ownership in ACOM to approximately 40%.
On November 4, 2008, BTMU completed the acquisition of all of the shares of common stock of UnionBanCal Corporation, or UNBC, not owned by BTMU and, as a result, UNBC became a wholly owned indirect subsidiary of MUFG.
On April 1, 2010, the former MUS was renamed MUSHD, and a newly created operating subsidiary of MUSHD succeeded to the former MUSs domestic operations, as a result of a corporate split transaction.
On May 1, 2010, the new operating subsidiary of MUSHD succeeded to the investment banking operations conducted in Japan by Morgan Stanley Japan Securities Co., Ltd., as a joint venture company of Morgan Stanley and us, which was renamed MUMSS.
Our registered address is 7-1, Marunouchi 2-chome, Chiyoda-ku, Tokyo 100-8330, Japan, and our telephone number is 81-3-3240-8111.
For a discussion of recent developments, see Item 5. Operating and Financial Review and ProspectsRecent Developments.
The Bank of Tokyo-Mitsubishi UFJ, Ltd.
BTMU is a major commercial banking organization in Japan that provides a broad range of domestic and international banking services from its offices in Japan and around the world. BTMUs registered head office is located at 7-1, Marunouchi 2-chome, Chiyoda-ku, Tokyo 100-8388, Japan, and its telephone number is 81-3-3240-1111. BTMU is a joint stock company (kabushiki kaisha) incorporated in Japan under the Company Law.
BTMU was formed through the merger, on January 1, 2006, of Bank of Tokyo-Mitsubishi and UFJ Bank Limited after their respective parent companies, MTFG and UFJ Holdings, merged to form MUFG on October 1, 2005.
Bank of Tokyo-Mitsubishi was formed through the merger, on April 1, 1996, of The Mitsubishi Bank, Limited and The Bank of Tokyo, Ltd.
The origins of Mitsubishi Bank can be traced to the Mitsubishi Exchange Office, a money exchange house established in 1880 by Yataro Iwasaki, the founder of the Mitsubishi industrial, commercial and financial group. In 1895, the Mitsubishi Exchange Office was succeeded by the Banking Division of the Mitsubishi Goshi Kaisha, the holding company of the Mitsubishi group of companies. Mitsubishi Bank had been a principal bank to many of the Mitsubishi group companies but broadened its relationships to cover a wide range of Japanese industries, small and medium-sized companies and individuals.
Bank of Tokyo was established in 1946 as a successor to The Yokohama Specie Bank, Ltd., a special foreign exchange bank established in 1880. When the government of Japan promulgated the Foreign Exchange Bank Law in 1954, Bank of Tokyo became the only bank licensed under that law. Because of its license, Bank of Tokyo received special consideration from the Ministry of Finance in establishing its offices abroad and in many other aspects relating to foreign exchange and international finance.
UFJ Bank was formed through the merger, on January 15, 2002, of The Sanwa Bank, Limited and The Tokai Bank, Limited.
Sanwa Bank was established in 1933 when the three Osaka-based banks, the Konoike Bank, the Yamaguchi Bank, and the Sanjyushi Bank merged. Sanwa Bank was known as a city bank having the longest history in Japan, since the foundation of Konoike Bank can be traced back to the Konoike Exchange Office established in 1656. The origin of Yamaguchi Bank was also a money exchange house, established in 1863. Sanjyushi Bank was founded by influential fiber wholesalers in 1878. The corporate philosophy of Sanwa Bank had been the creation of the premier banking services especially for small and medium-sized companies and individuals.
Tokai Bank was established in 1941 when the three Nagoya-based banks, the Aichi Bank, the Ito Bank, and the Nagoya Bank merged. In 1896, Aichi Bank took over businesses of the Jyuichi Bank established by wholesalers in 1877 and the Hyakusanjyushi Bank established in 1878. Ito Bank and Nagoya Bank were established in 1881 and 1882, respectively. Tokai Bank had expanded the commercial banking business to contribute to economic growth mainly of the Chubu area in Japan, which is known for the manufacturing industry, especially automobiles.
Mitsubishi UFJ Trust and Banking Corporation
MUTB is a major trust bank in Japan, providing trust and banking services to meet the financing and investment needs of clients in Japan and the rest of Asia, as well as in the United States and Europe. MUTBs registered head office is located at 4-5, Marunouchi 1-chome, Chiyoda-ku, Tokyo 100-8212, Japan, and its telephone number is 81-3-3212-1211. MUTB is a joint stock company (kabushiki kaisha) incorporated in Japan under the Company Law.
MUTB was formed on October 1, 2005 through the merger of Mitsubishi Trust and Banking Corporation, or Mitsubishi Trust Bank, and UFJ Trust Bank Limited. As the surviving entity, Mitsubishi Trust Bank was renamed Mitsubishi UFJ Trust and Banking Corporation.
Mitsubishi Trust Bank traces its history to The Mitsubishi Trust Company, Limited, which was founded by the leading members of the Mitsubishi group companies in 1927. The Japanese banking and financial industry was reconstructed after World War II and, in 1948, Mitsubishi Trust Bank was authorized to engage in the commercial banking business, in addition to its trust business, under the new name Asahi Trust & Banking Corporation. In 1952, the bank changed its name again, to The Mitsubishi Trust and Banking Corporation.
Nippon Trust Bank and The Tokyo Trust Bank, Ltd., which were previously subsidiaries of Bank of Tokyo-Mitsubishi, were merged into Mitsubishi Trust Bank on October 1, 2001.
UFJ Trust Bank was founded in 1959 as The Toyo Trust & Banking Company, Limited, or Toyo Trust Bank. The Sanwa Trust & Banking Company, Limited, which was a subsidiary of Sanwa Bank, was merged into Toyo Trust Bank on October 1, 1999. The Tokai Trust & Banking Company, Limited, which was a subsidiary of Tokai Bank, was merged into Toyo Trust Bank on July 1, 2001. Toyo Trust Bank was renamed UFJ Trust Bank Limited on January 15, 2002.
Mitsubishi UFJ Securities Holdings Co., Ltd.
MUSHD is a wholly owned subsidiary of MUFG. MUSHD functions as an intermediate holding company of MUFGs global securities business. MUSHDs registered head office is located at 4-1, Marunouchi 2-chome, Chiyoda-ku, Tokyo 100-6317, Japan, and its telephone number is 81-3-6213-2550. MUSHD is a joint stock company (kabushiki kaisha) incorporated in Japan under the Company Law. MUSHD has major overseas subsidiaries in London, New York, Hong Kong, Singapore, Shanghai and Geneva.
In April 2010, MUS became an intermediate holding company by spinning off its business operations to a wholly owned operating subsidiary established in December 2009. Upon the consummation of the corporate spin-off transaction, MUS was renamed Mitsubishi UFJ Securities Holdings Co., Ltd. and the operating subsidiary was renamed Mitsubishi UFJ Securities Co., Ltd.
MUS was formed through the merger between Mitsubishi Securities Co., Ltd. and UFJ Tsubasa Securities Co., Ltd. on October 1, 2005, with Mitsubishi Securities being the surviving entity. The surviving entity was renamed Mitsubishi UFJ Securities Co., Ltd. and, in September 2007, became our wholly-owned subsidiary through a share exchange transaction.
Mitsubishi Securities was formed in September 2002 through a merger of Bank of Tokyo-Mitsubishis securities subsidiaries and affiliate, KOKUSAI Securities Co., Ltd., Tokyo-Mitsubishi Securities Co., Ltd. and Tokyo-Mitsubishi Personal Securities Co., Ltd., and Mitsubishi Trust Banks securities affiliate, Issei Securities Co., Ltd. In July 2005, MTFG made Mitsubishi Securities a directly-held subsidiary by acquiring all of the shares of Mitsubishi Securities common stock held by Bank of Tokyo-Mitsubishi and Mitsubishi Trust Bank.
Mitsubishi UFJ Morgan Stanley Securities Co., Ltd.
MUMSS is our core securities and investment banking subsidiary. MUMSS was created as one of the two Japanese joint venture securities companies in May 2010 between Morgan Stanley and us as part of our global strategic alliance. MUMSS succeeded to the investment banking operations conducted in Japan by a subsidiary of Morgan Stanley and the wholesale and retail securities businesses conducted in Japan by MUS. MUFG, through MUSHD, holds 60% voting and economic interests in MUMSS. MUMSSs registered head office is located at 5-2 Marunouchi 2-chome, Chiyoda-ku, Tokyo, Japan, and its telephone number is 81-3-6213-8500. MUMSS is a joint stock company (kabushiki kaisha) incorporated in Japan under the Company Law. For more information on our strategic alliance with Morgan Stanley, see B. Business Overview and Item 5. Operating and Financial Review and ProspectsRecent Developments.
MUMSS engages in underwriting and brokerage of securities, mergers and acquisitions, derivatives, corporate advisory and securitization operations. In addition to its own independent branches, MUMSS serves individual customers of BTMU and MUTB through a network of MUFG Plazas, which provide individual customers with one-stop access to services and products offered by MUMSS, BTMU and MUTB.
In the securities business, MUMSS offers its customers a wide range of investment products. The equity sales staff members provide services to clients ranging from individual investors to institutional investors in Japan and abroad. Through derivative products, MUMSS provides solutions to meet customers risk management needs. MUMSS also offers structured bonds utilizing various types of derivatives in response to customers investment needs. In the investment trust business, MUMSS provides its retail and corporate customers a wide variety of products. MUMSS also offers investment banking services in such areas as bond underwriting, equity underwriting, initial public offerings, support for IR activities, securitization of assets and mergers and acquisitions. MUMSS has research functions and provides in-depth company and strategy reports.
Mitsubishi UFJ NICOS Co., Ltd.
Mitsubishi UFJ NICOS is a major credit card company in Japan that issues credit cards, including those issued under the MUFG, NICOS, UFJ and DC brands, and provides a broad range of credit card and other related services for its card members in Japan. Mitsubishi UFJ NICOS is a consolidated subsidiary of MUFG. Mitsubishi UFJ NICOSs registered head office is located at 33-5, Hongo 3-chome, Bunkyo-ku, Tokyo 113-8411, Japan, and its telephone number is 81-3-3811-3111. Mitsubishi UFJ NICOS is a joint stock company (kabushiki kaisha) incorporated in Japan under the Company Law.
Mitsubishi UFJ NICOS was formed through the merger, on April 1, 2007, of UFJ NICOS Co., Ltd. and DC Card Co., Ltd. As the surviving entity, UFJ NICOS Co., Ltd. was renamed Mitsubishi UFJ NICOS Co., Ltd.
UFJ NICOS was formed through the merger, on October 1, 2005, of Nippon Shinpan Co., Ltd. and UFJ Card Co., Ltd. Originally founded in 1951 and listed on the Tokyo Stock Exchange in 1961, Nippon Shinpan was a leading company in the consumer credit business in Japan. Nippon Shinpan became a subsidiary of MUFG at the time of the merger with UFJ Card.
Prior to the merger between MTFG and UFJ Holdings in October 2005, DC Card was a subsidiary of MTFG while UFJ Card was a subsidiary of UFJ Holdings.
We are one of the worlds largest and most diversified financial groups with total assets of ¥200 trillion as of March 31, 2010. The Group is comprised of BTMU, MUTB, MUMSS, Mitsubishi UFJ NICOS and other subsidiaries and affiliates, for which we are the holding company. As a bank holding company, we are regulated under the Banking Law of Japan. Our services include commercial banking, trust banking, securities, credit cards, consumer finance, asset management, leasing and many more fields of financial services. The Group has the largest overseas network among the Japanese banks, comprised of offices and subsidiaries, including Union Bank, N.A., or Union Bank, in more than 40 countries.
While maintaining the corporate cultures and core competencies of BTMU, MUTB, MUMSS and Mitsubishi UFJ NICOS, we, as the holding company, seek to work with them to find ways to:
establish a more diversified financial services group operating across business sectors;
leverage the flexibility afforded by our organizational structure to expand our business;
benefit from the collective expertise of BTMU, MUTB, MUMSS and Mitsubishi UFJ NICOS;
achieve operational efficiencies and economies of scale; and
enhance the sophistication and comprehensiveness of the Groups risk management expertise.
In order to further enhance our operations and increase profits, in April 2004 we introduced an integrated business group system comprising three core business areas: Retail, Corporate, and Trust Assets. These three businesses serve as the Groups core sources of net operating profit. Our remaining business areas are grouped into Global Markets and Other. In addition, MUFGs role as the holding company has expanded from strategic coordination to integrated strategic management. Group-wide strategies are determined by the holding company and executed by the banking subsidiaries and other subsidiaries.
In October 2008, as part of our medium-term strategy to expand our operations in the United States, each of MUFG, BTMU, MUTB and UNBC became a financial holding company under the US Bank Holding Company Act. For more information, see Item 3.D. Risk FactorsRisks Related to Our BusinessWe may not be able to maintain our capital ratios above minimum required levels, which could result in the suspension of some or all of our operations and Item 4.B. Information on the CompanyBusiness OverviewSupervision and RegulationUnited States.
MUFG Management Philosophy
MUFGs management philosophy serves as the basic policy in conducting its business activities, and provides guidelines for all group activities. It is also the foundation for management decisions, including the formulation of management strategies and management plans, and serves as the core value for all employees. BTMU, MUTB, MUMSS and Mitsubishi UFJ NICOS adopted the MUFGs management philosophy as their own respective management philosophy, and the entire group strives to comply with this philosophy. The details of the MUFGs management philosophy are set forth below:
We will respond promptly and accurately to the diverse needs of our customers around the world and seek to inspire their trust and confidence;
We will offer innovative and high-quality financial services by actively pursuing the cultivation of new business areas and developing new technologies;
We will comply strictly with all laws and regulations and conduct our business in a fair and transparent manner to gain the publics trust and confidence;
We will seek to inspire the trust of our shareholders by enhancing corporate value through continuous business development and appropriate risk management, and by disclosing corporate information in a timely and appropriate manner;
We will contribute to progress toward a sustainable society by assisting with development in the areas in which we operate and conducting our business activities with consideration for the environment; and
We will provide the opportunities and work environment necessary for all employees to enhance their expertise and make full use of their abilities.
We have declared our message to the world as Quality for You, with managements emphasis on quality. Quality for You means that by providing high-quality services, we aspire to help improve the quality of the lives of individual customers, and the quality of each corporate customer. The You expresses the basic stance of MUFG that we seek to contribute not only to the development of our individual customers but also
communities and society. We believe that delivering superior quality services, reliability, and global coverage will result in more profound and enduring contributions to society.
Integrated Retail Banking Business Group
The Integrated Retail Banking Business Group covers all domestic retail businesses, including commercial banking, trust banking and securities businesses, and enables us to offer a full range of banking products and services, including financial consulting services, to retail customers in Japan. This business group integrates the retail business of BTMU, MUTB and MUMSS as well as retail product development, promotion and marketing in a single management structure. Many of our retail services are offered through our network of MUFG Plazas providing individual customers with one-stop access to our comprehensive financial product offerings of integrated commercial banking, trust banking and securities services.
Deposits and retail asset management services. We offer a full range of bank deposit products including a non-interest-bearing deposit account that is redeemable on demand and intended primarily for payment and settlement functions, and is fully insured without a maximum amount limitation.
We also offer a variety of asset management and asset administration services to individuals, including savings instruments such as current accounts, ordinary deposits, time deposits, deposits at notice and other deposit facilities. We also offer trust products, such as loan trusts and money trusts, and other investment products, such as investment trusts, performance-based money trusts and foreign currency deposits.
We create portfolios tailored to customer needs by combining savings instruments and investment products. We also provide a range of asset management and asset administration products as well as customized trust products for high net worth individuals, as well as advisory services relating to, among other things, the purchase and disposal of real estate and effective land utilization, and testamentary trusts.
Investment trusts. We provide a varied lineup of investment trust products allowing our customers to choose products according to their investment needs through BTMU, MUTB and MUMSS as well as kabu.com Securities, which specializes in online financial services. In the fiscal year ended March 31, 2010, BTMU offered a total of five new investment trusts. As of the end of March 2010, BTMU offered our clients a total of 73 investment trusts. Moreover, BTMU has placed significant importance on ensuring that aftercare is provided to all of our customers who have purchased our investment trust products.
Insurance. Since the Japanese government lifted the prohibition against sales of annuity insurance products by banks in October 2002, we have been actively offering insurance products to meet the needs of our customers. Our current lineup of insurance products consists of investment-type individual annuities, foreign currency-denominated insurance annuities and yen-denominated fixed-amount annuity insurance. Additionally, since January 2005, we have been offering single premium term insurance. BTMU has been offering life, medical and cancer insurance since December 2007, care insurance since April 2008 and car insurance since July 2009. As of March 31, 2010, BTMU offers 13 varieties of life insurance products (five life insurance, three medical insurance, three cancer insurance products, one endowment insurance, one educational insurance) at 466 BTMU branches. Professional insurance sales representatives, called Insurance Planners, have been assigned to each branch where these insurance products are sold in order to ensure that the branch responds to our customers needs. MUTB also offers whole term life insurance and medical insurance at all of its branches.
Financial products intermediation services. Our banking subsidiaries entered the securities industry following the lifting of the ban on securities intermediation by banks in Japan in December 2004, when we started offering financial products intermediation services through BTMU and MUTB and with the former MUS acting as an agent. We have expanded this service through BTMU with three MUFG securities companies (MUMSS, Mitsubishi UFJ Merrill Lynch PB Securities Co., Ltd., and kabu.com Securities Co., Ltd.) acting as agents and through MUTB with MUMSS acting as an agent. We offer securities, including publicly offered stocks, foreign and domestic investment trusts, Japanese government bonds, foreign bonds and various other
products. As of March 31, 2010, BTMU employed approximately 440 employees seconded from MUMSS. We seek to optimize the deployment of the securities service personnel within our group in accordance with our initiatives where approximately 180 of the 440 were assigned to branches in Japan as sales representatives, approximately 170 employees were employed in the capacity of Retail Money Desk, or RMD, representatives to assist the branch sales force, and the remaining 90 employees were assigned to the headquarters of BTMU (Financial Instruments Intermediary Service Office).
Loans. We offer housing loans, card loans, and other loans to individuals. With respect to housing loans, in addition to housing loans incorporating health insurance for seven major illnesses, BTMU began offering in June 2009 preferential interest rates under its Environmentally Friendly Support program to customers who purchase environment-conscious houses (e.g., houses with solar electric systems) which meet specific criteria in response to increasing public interest in environmental issues. In September 2009, BTMU launched housing loans with home mortgage insurance, which BTMU jointly developed with the Japan Housing Finance Agency, a governmental agency under the Japanese governments economic stimulus measures, under which the agency indemnifies BTMU for losses from housing loans. Since November 2007, BTMU has been offering a card loan service called BANQUIC, for which applications can be accepted through the internet, telephone, TV telephone and mobile phone. A customer who has an account with BTMU can obtain loans through the BANQUIC service by having the loan proceeds directly remitted to the customers BTMU account. The service is available at BTMU branches and BTMU-affiliated ATMs at convenience stores with no ATM transaction fees. BTMU continues to strive to meet a wide variety of customer needs by enhancing our product offerings and increasing customers ease of access to our services.
Credit cards. Among our group companies, Mitsubishi UFJ NICOS and BTMU issue credit cards and also offer some preferential services provided by other MUFG group companies (including preferential rates for BTMU housing loans) to holders of MUFG card issued by Mitsubishi UFJ NICOS and gold cards issued by BTMU. BTMU has expanded value-added services and benefits for bank-issued credit card holders, including a point program where credit card holders can earn points by using their credit cards and exchange the points earned for cash or other preferential treatment for banking transactions through BTMU.
Domestic Network. We offer products and services through a wide range of channels, including branches, ATMs (including convenience store ATMs shared by multiple banks), Mitsubishi-Tokyo UFJ Direct (telephone, internet and mobile phone banking), the Video Counter and postal mail.
We offer integrated financial services combining our banking, trust banking and securities services at MUFG Plazas. These Plazas provide retail customers with integrated and flexible suite of services at one-stop outlets. As of March 31 2010, we provided those services through 47 MUFG Plazas.
To provide exclusive membership services to high net worth individual customers, private banking offices have been established since December 2006 featuring lounges and private rooms where customers can receive wealth management advice and other services in a relaxing and comfortable setting. As of March 31, 2010, we had 28 private banking offices in the Tokyo metropolitan area, Nagoya and Osaka.
To improve customer convenience, BTMU has enhanced its ATM network and ATM related services. BTMU has also ceased to charge ATM transaction fees from customers of BTMU and MUTB for certain transactions. In addition, BTMU has reduced commissions for transactions conducted through ATMs located in convenience stores. Furthermore, BTMU currently shares it ATM network with eight Japanese local banks, AEON Bank, Ltd. and the banks belonging to the Japan Agricultural Cooperatives bank group. BTMU has also ceased to charge ATM transaction fees from customers who use these banks ATMs for certain transactions.
Jibun Bank Corporation is a partnership between BTMU and KDDI Corporation, a major telecommunications company in Japan. Jibun Bank provides banking services primarily through mobile phone networks. Since the launch of its banking services in July 2008, Jibun Bank has reached one million accounts and ¥154 billion in deposit balance as of March 31, 2010.
Trust agency operations. We offer MUTBs trust related products and advisory services through our trust agency system not only for MUTB customers but also for BTMU and MUMSS customers. As of March 31, 2010, BTMU engaged in eight businesses as the trust banking agent for MUTB: testamentary trusts, inheritance management, asset succession planning, inheritance management agency operations, business management financial consulting, lifetime gift trusts, share disposal trusts, and marketable securities administration trusts. MUMSS engaged in three businesses as the trust banking agent for MUTB: testamentary trusts, inheritance management and asset succession planning. In October 2006, BTMU accepted approximately 30 financial consultants (sales managers specializing in inheritance business) from MUTB. Because of Japans aging society, customer demand for inheritance-related advice is increasing and we aim to significantly strengthen our ability to cross-sell the inheritance products to our existing customers.
Integrated Corporate Banking Business Group
The Integrated Corporate Banking Business Group covers all domestic and overseas corporate businesses, including commercial banking, investment banking, trust banking and securities businesses as well as UNBC. UNBC is a wholly owned subsidiary of BTMU and a US bank holding company with Union Bank being its primary subsidiary. On December 18, 2008, Union Bank changed its name to the current name from Union Bank of California, N.A. Through the integration of these business lines, diverse financial products and services are provided to our corporate clients, from large corporations to medium-sized and small businesses. The business group has clarified strategic domains, sales channels and methods to match the different growth stages and financial needs of our corporate customers.
We provide various financial solutions, such as loans and fund management, remittance and foreign exchange services, to meet the requirements of SME customers. We also help our customers develop business strategies, such as inheritance-related business transfers and stock listings.
CIB (Corporate and Investment Banking)
We offer advanced financial solutions mainly to large corporations through corporate and investment banking services. Product specialists globally provide derivatives, securitization, syndicated loans, structured finance, and other services. We also provide investment banking services, such as M&A advisory, bond and equity underwriting, to meet our customers needs.
We provide online banking services that allow customers to make domestic and overseas remittances electronically. We also provide a global cash pooling/netting service, and the Treasury Station, a fund management system for a multi-company group. These services are designed particularly for customers who have global business activities.
MUTBs experience and know-how in the asset management business, real estate brokerage and appraisal services, and stock transfer agency service also enable us to offer services tailored to the financial strategies of each client, including securitization of real estate, receivables and other assets.
Our global Corporate and Investment Banking business, or Global CIB, primarily serves large corporations, financial institutions, and sovereign and multinational organizations with a comprehensive set of solutions for their financing needs. Global CIB generated about 20% of our net operating profit for the fiscal year ended March 31, 2010. Spearheaded by Group Head of Integrated Corporate Banking Business Group based in Tokyo,
our operations are predominantly located in the worlds primary financial centers, including New York, London, Singapore and Hong Kong. With our global reach, we provide a full range of services, including commercial banking services such as loans, deposits and cash management services, corporate banking services such as providing credit commitments and arranging the issuance of asset-backed commercial paper, and investment banking services such as debt/equity issuance and M&A advisory services to help clients develop financial strategies. To meet clients expectations for their various financing needs, Global CIB establishes a client-oriented coverage business model and coordinates our product experts who can offer innovative finance services all around the world.
Union Bank. UNBC is a wholly owned indirect subsidiary of MUFG. UNBC is a US bank holding company with Union Bank being its primary subsidiary. Union Bank is one of the largest commercial banks in California by both total assets and total deposits. Union Bank provides a wide range of financial services to consumers, small businesses, middle market companies and major corporations, primarily in California, Oregon, and Washington, as well as nationally and internationally.
Global Strategic Alliance with Morgan Stanley. In May 2010, pursuant to definitive agreements entered into in March 2010, we and Morgan Stanley formed two joint ventures in Japan by integrating our respective Japanese securities companies engaged in investment banking and securities businesses. We converted the wholesale and retail securities businesses conducted in Japan by the former MUS into one of the joint venture entities which is named Mitsubishi UFJ Morgan Stanley Securities, Co., Ltd., or MUMSS. Morgan Stanley contributed the investment banking operations conducted in Japan by its formerly wholly-owned subsidiary, Morgan Stanley Japan Securities Co., Ltd., or MSJS, into MUMSS and converted the sales and trading and capital markets businesses conducted in Japan by MSJS into a second joint venture entity called Morgan Stanley MUFG Securities, Co., Ltd., or MSMS. Following the respective contributions to the joint venture companies and a cash payment of ¥26 billion from us to Morgan Stanley at the closing of the transaction (subject to certain post-closing cash adjustments), we hold a 60% economic interest in each of the joint venture entities through Mitsubishi UFJ Securities Holdings Co., Ltd or MUSHD, our intermediate holding company, and Morgan Stanley indirectly holds a 40% economic interest in each of the joint venture companies. We hold a 60% voting interest through MUSHD and Morgan Stanley indirectly holds a 40% voting interest in MUMSS, while we hold a 49% voting interest through MUSHD and Morgan Stanley indirectly holds a 51% voting interest in MSMS. The board of directors of MUMSS has fifteen members, nine of whom are designated by us and six of whom are designated by Morgan Stanley. The board of directors of MSMS has ten members, six of whom are designated by Morgan Stanley and four of whom are designated by us. The CEO of MUMSS is designated by us and the CEO of MSMS is designated by Morgan Stanley. For a more detailed discussion on the Global Strategic Alliance, see Item 5. Operating and Financial Review and ProspectsRecent Developments.
We made a $9.0 billion preferred equity investment in Morgan Stanley in October 2008 as part of our global strategic alliance with Morgan Stanley. Since this initial investment, we have acquired a total of $705 million of shares of Morgan Stanley common stock and sold back to Morgan Stanley $705 million of the preferred securities in May 2009, and we have acquired a total of $471 million of additional shares of Morgan Stanley common stock in June 2009. We beneficially own approximately 20% of the common stock of Morgan Stanley (assuming full conversion of the convertible preferred stock of Morgan Stanley we currently own).
On June 30, 2009, the scope of the Global Strategic Alliance was expanded into new geographies and businesses, including (1) a loan marketing joint venture that will provide clients in the Americas with access to expanded, world-class lending and capital markets services from both companies, (2) an agreement to establish business referral arrangements in Asia, Europe, the Middle East and Africa, covering capital markets, loans, fixed income sales and other businesses, (3) a global commodities referral agreement whereby BTMU and its affiliates will refer clients in need of commodities-related hedging solutions to certain affiliates of Morgan Stanley, and (4) an employee secondment program to share best practices and expertise in a wide range of business areas.
See Item 3.D. Risk FactorsRisks Related to Our BusinessIf our strategic alliance with Morgan Stanley fails, we could suffer financial or reputational loss.
Integrated Trust Assets Business Group
The Integrated Trust Assets Business Group covers asset management and administration services for products such as pension trusts and security trusts by integrating the trust banking expertise of MUTB and the international strengths of BTMU. The business group provides a full range of services to corporate and pension funds, including stable and secure pension fund management and administration, advice on pension schemes, and payment of benefits to scheme members. Our Integrated Trust Assets Business Group combines MUTBs trust assets business, comprising trust assets management services, asset administration and custodial services, and the businesses of Mitsubishi UFJ Global Custody S.A., Mitsubishi UFJ Asset Management Co., Ltd. and KOKUSAI Asset Management Co., Ltd.
Mitsubishi UFJ Global Custody, which was established on April 11, 1974 and was formerly named Bank of Tokyo-Mitsubishi UFJ (Luxembourg) S.A., provides global custody services, administration services for investment funds and fiduciary and trust accounts, and other related services to institutional investors.
Mitsubishi UFJ Asset Management and KOKUSAI Asset Management provide asset management and trust products and services mainly to high net worth individuals, branch customers and corporate clients in Japan.
Global Markets consists of the treasury operations of BTMU and MUTB. Global Markets also conducts asset liability management and liquidity management and provides various financial operations such as money markets, foreign exchange operations and securities investments.
Other mainly consists of the corporate centers of the holding company, BTMU, MUTB and MUMSS.
We face strong competition in all of our principal areas of operation. The deregulation of the Japanese financial markets as well as structural reforms in the regulation of the financial industry have resulted in dramatic changes in the Japanese financial system. Structural reforms have prompted Japanese banks to merge or reorganize their operations, thus changing the nature of the competition from other financial institutions as well as from other types of businesses.
Deregulation. Competition in Japan has intensified as a result of the relaxation of regulations relating to Japanese financial institutions. Most of the restrictions that served to limit competition were lifted before the year 2000. Deregulation has eliminated barriers between different types of Japanese financial institutions, which are now able to compete directly against one another. Deregulation and market factors have also facilitated the entry of various large foreign financial institutions into the Japanese domestic market.
The Banking Law, as amended, now permits banks to engage in certain types of securities business, including retail sales of investment funds and government and municipal bonds, and, through a domestic and overseas securities subsidiary, all types of securities business, with appropriate registration with or approval of the Financial Services Agency, an agency of the Cabinet Office. The Banking Law was amended in December 2008 to expand the scope of permissible activities of banks, permitting banks to engage in emissions trading and, through their subsidiaries and certain affiliates, Islamic financing. Further increases in competition among financial institutions are expected in these new areas of permissible activities.
In terms of recent market entrants, other financial institutions, such as Orix Corporation, and non-financial companies, such as the Seven & i Holdings group and Sony Corporation, also began to offer various banking
services, often through non-traditional distribution channels. Also, in recent years, various large foreign financial institutions entered the Japanese domestic market. Citigroup Inc., for example, has expanded its banking operations in Japan through a locally incorporated banking subsidiary. The privatization of Japan Post, a government-run public services corporation that is the worlds largest holder of deposits, and the establishment of the Japan Post Group companies, including Japan Post Bank Co., Ltd., as part of the continuing privatization process, as well as the privatization of other governmental financial institutions, could also substantially increase competition within the financial services industry. In December 2009, the Japanese governments privatization plan for the Japan Post Group companies was suspended, and a bill was introduced to the Diet that, if enacted, would have doubled to ¥20 million the amount of deposits Japan Post Bank can accept from an individual depositor, permitted the Japan Post Bank to more easily enter new areas of business activities, required the government to retain more than one-third of the voting rights in Japan Post Holdings Co., Ltd. and required Japan Post Holdings to retain more than one-third of the voting rights in Japan Post Bank. However, it was not approved during the Diet session ended in June 2010.
In the corporate banking sector, the principal effect of these reforms has been the increase in competition as two structural features of Japans highly specialized and segmented financial system have eroded:
the separation of banking and securities businesses in Japan; and
the distinctions among the permissible activities of Japans two principal types of private banking institutionsordinary banks and trust banks. For a discussion of the two principal types of private banking institutions, see The Japanese Financial SystemPrivate Banking Institutions.
In addition, as foreign exchange controls have been generally eliminated, customers can now have direct access to foreign financial institutions, with which we must also compete.
In the consumer banking sector, deregulation has enabled banks to offer customers an increasingly attractive and diversified range of products. For example, banks are permitted to sell investment trusts and all types of insurance products. Recently, competition has increased due to the development of new products and distribution channels. For example, Japanese banks have started competing with one another by developing innovative proprietary computer technologies that allow them to deliver basic banking services in a more efficient manner, such as internet banking services, and to create sophisticated new products in response to customer demand.
The trust assets business is a promising growth area that is competitive and becoming more so because of changes in the industry. In addition, there is growing corporate demand for change in the trust regulatory environment, such as reform of the pension system and related accounting regulations under Japanese GAAP. However, competition may increase in the future as regulatory barriers to entry are lowered. The current Trust Business Law came into effect on December 30, 2004. Among other things, the Trust Business Law has expanded the types of property that can be entrusted and allows non-financial companies to conduct trust business upon approval. The law has also adopted a type of registration for companies that wish to conduct only the administration type trust business. The Trust Business Law was further amended in December 2006 in order to cope with new types of trusts and to amend the duties imposed on the trustee in accordance with the sweeping amendment to the law. As these regulatory developments have facilitated the expansion of the trust business, the competition in this area has also intensified.
Integration. Since their formation in 2000 and 2001, the so-called Japanese mega bank groups, including us, the Mizuho Financial Group, and the Sumitomo Mitsui Financial Group have continued to expand their businesses and financial group capabilities. Heightened competition among the mega bank groups is currently expected in the securities sector as they have recently announced plans to expand, or have expanded, their respective securities businesses. In May 2010, we and Morgan Stanley commenced operations of two joint venture companies, Mitsubishi UFJ Morgan Stanley Securities Co., Ltd. and Morgan Stanley MUFG Securities Co., Ltd., each of which was formed by integrating certain operations of MUS and Morgan Stanley Japan Securities. In May 2009, Mizuho Securities Co., Ltd. acquired Shinko Securities Co., Ltd., and in October 2009 the Sumitomo Mitsui Financial Group acquired Nikko Cordial Securities Inc. and other businesses from
Citigroup Inc. In October 2009, The Sumitomo Trust and Banking Co., Ltd. acquired Nikko Asset Management Co., Ltd. from Citigroup Inc., and in November 2009 The Sumitomo Trust and Banking Co., Ltd and Chuo Mitsui Trust Holdings Inc. entered into basic agreement to integrate the two groups. The mega bank groups are also expected to face heightened competition with other financial groups. For example, the Nomura Group acquired Lehman Brothers Holding, Inc.s franchise in the Asia-Pacific region and investment banking businesses in Europe and the Middle East in October 2008.
In the United States, we face substantial competition in all aspects of our business. We face competition from other large US and foreign-owned money-center banks, as well as from similar institutions that provide financial services. Through Union Bank, we currently compete principally with US and foreign-owned money-center and regional banks, thrift institutions, insurance companies, asset management companies, investment advisory companies, consumer finance companies, credit unions and other financial institutions.
In other international markets, we face competition from commercial banks and similar financial institutions, particularly major international banks and the leading domestic banks in the local financial markets in which we conduct business. In addition, we may face further competition as a result of recent investments, mergers and other business tie-ups among global financial institutions.
The Japanese Financial System
Japanese financial institutions may be categorized into three types:
the central bank, namely the Bank of Japan;
private banking institutions; and
government financial institutions.
The Bank of Japan
The Bank of Japans role is to maintain price stability and the stability of the financial system to ensure a solid foundation for sound economic development.
Private Banking Institutions
Private banking institutions in Japan are commonly classified into two categories (the following numbers are based on information published by the Financial Services Agency of Japan available as of July 20, 2010:
ordinary banks (127 ordinary banks and 58 foreign commercial banks with ordinary banking operations); and
trust banks (18 trust banks, including four Japanese subsidiaries of foreign financial institutions).
Ordinary banks in turn are classified as city banks, of which there are five, including BTMU, and regional banks, of which there are 106 and other banks, of which there are 16. In general, the operations of ordinary banks correspond to commercial banking operations in the United States. City banks and regional banks are distinguished based on head office location as well as the size and scope of their operations.
The city banks are generally considered to constitute the largest and most influential group of banks in Japan. Generally, these banks are based in large cities, such as Tokyo, Osaka and Nagoya, and operate nationally through networks of branch offices. City banks have traditionally emphasized their business with large corporate clients, including the major industrial companies in Japan. However, in light of deregulation and other competitive factors, many of these banks, including BTMU, in recent years have increased their emphasis on other markets, such as small and medium-sized companies and retail banking.
With some exceptions, the regional banks tend to be much smaller in terms of total assets than the city banks. Each of the regional banks is based in one of the Japanese prefectures and extends its operations into neighboring prefectures. Their clients are mostly regional enterprises and local public utilities, although the regional banks also lend to large corporations. In line with the recent trend among financial institutions toward mergers or business tie-ups, various regional banks have announced or are currently negotiating or pursuing integration transactions.
Trust banks, including MUTB, provide various trust services relating to money trusts, pension trusts and investment trusts and offer other services relating to real estate, stock transfer agency and testamentary services as well as banking services.
In recent years, almost all of the city banks have consolidated with other city banks and also, in some cases, with trust banks. Integration among these banks was achieved, in most cases, through the use of a bank holding company.
In addition to ordinary banks and trust banks, other private financial institutions in Japan, including shinkin banks or credit associations, and credit cooperatives, are engaged primarily in making loans to small businesses and individuals.
Government Financial Institutions
Since World War II, a number of government financial institutions have been established. These corporations are wholly owned by the government and operate under its supervision. Their funds are provided mainly from government sources. Certain types of operations undertaken by these institutions have been or are planned to be assumed by, or integrated with the operations of, private corporations, through privatization and other measures.
Among them are the following:
The Development Bank of Japan, which was established for the purpose of contributing to the economic development of Japan by extending long-term loans, mainly to primary and secondary sector industries, and which was reorganized as a joint stock company in October 2008 as part of its ongoing privatization process;
Japan Finance Corporation, which was formed in October 2008, through the merger of the International Financial Operations of the former Japan Bank for International Cooperation, National Life Finance Corporation, Agriculture, Forestry and Fisheries Finance Corporation, and Japan Finance Corporation for Small and Medium Enterprise, the primary purposes of which are to supplement and encourage the private financing of exports, imports, overseas investments and overseas economic cooperation, and to supplement private financing to the general public, small and medium enterprises and those engaged in agriculture, forestry and fishery;
Japan Housing Finance Agency, which was originally established in June 1950 as the Government Housing Loan Corporation for the purpose of providing housing loans to the general public, was reorganized as an incorporated administrative agency and became specialized in securitization of housing loans in April 2007; and
The Japan Post Group companies, a group of joint stock companies including Japan Post Bank, which were formed in October 2007 as a result of the reorganization of the former Japan Post, a government-run public services corporation, which had been the Postal Service Agency until March 2003. In December 2009, the Japanese governments privatization plan for the Japan Post Group companies was suspended, and a bill was introduced to the Diet outlining further modifications to the privatization plan. However, it was not approved during the Diet session ended in June 2010.
Supervision and Regulation
Supervision. The Financial Services Agency of Japan, an agency of the Cabinet Office, or FSA, is responsible for supervising and overseeing financial institutions, making policy for the overall Japanese financial system and conducting insolvency proceedings with respect to financial institutions. The Bank of Japan, as the central bank for financial institutions, also has supervisory authority over banks in Japan, based primarily on its contractual agreements and transactions with the banks.
The Banking Law. Among the various laws that regulate financial institutions, the Banking Law and its subordinated orders and ordinances are regarded as the fundamental law for ordinary banks and other private financial institutions. The Banking Law addresses bank holding companies, capital adequacy, inspections and reporting, as well as the scope of business activities, disclosure, accounting, limitation on granting credit and standards for arms length transactions. In addition, the amendment to the Banking Law which came into effect in April 2006 relaxed the standards relating to bank-agent eligibility, which encourages banks to expand their operations through the use of bank agents. As a result of the amendment to the Banking Law and Financial Instruments and Exchange Law effective as of June 2009, firewall regulations that separate bank holding companies/banks from affiliated securities companies have become less stringent, and instead, bank holding companies, banks and other financial institutions are now expressly required to establish an appropriate system to cope with conflicts of interest that may arise from their business operations.
Bank holding company regulations. A bank holding company is prohibited from carrying on any business other than the management of its subsidiaries and other incidental businesses. A bank holding company may have any of the following as a subsidiary: a bank, a securities company, an insurance company and a foreign subsidiary that is engaged in the banking, securities or insurance business. In addition, a bank holding company may have as a subsidiary, any company that is engaged in a finance-related business, such as a credit card company, a leasing company or an investment advisory company. Certain companies that are designated by a ministerial ordinance as those that cultivate new business fields may also become the subsidiary of a bank holding company.
Capital adequacy. The capital adequacy guidelines adopted by the FSA that are applicable to Japanese bank holding companies and banks with international operations closely follow the risk-weighted approach introduced by the Basel Committee on Banking Supervision of the Bank for International Settlements, or BIS. In June 2004, the Basel Committee released revised standards called International Convergence of Capital Measurement and Capital Standards: A Revised Framework, or Basel II, which has become applicable to Japanese banks since the end of March 2007. Basel II has three core elements, or pillars: requiring minimum regulatory capital, the self-regulation of financial institutions based on supervisory review, and market discipline through the disclosure of information. Basel II is based on the belief that these three pillars will collectively ensure the stability and soundness of financial systems. Although these amendments do not change the minimum capital requirements applicable to internationally active banks, they reflect the nature of risks at each bank more closely.
Basel II is designed to provide more risk-sensitive approaches and a range of options for measuring risks and determining the capital requirements. As a result, Basel II also reflects the nature of risks at each bank more closely. Under the FSA guidelines reflecting Basel II, we and our banking subsidiaries currently use the Advanced Internal Ratings-Based Approach, or the AIRB approach, to calculate capital requirements for credit risk. The Standardized Approach is used for some subsidiaries that are considered to be immaterial to the overall MUFG capital requirements and a few subsidiaries adopted a phased rollout of the internal ratings-based approach. We and our banking subsidiaries adopted the Standardized Approach to calculate capital requirements for operational risk. As for market risk, we and our banking subsidiaries adopted the Internal Models Approach mainly to calculate general market risk and adopted the Standardized Methodology to calculate specific risk.
The capital adequacy guidelines are in accordance with the standards of the BIS for a target minimum standard ratio of capital to modified risk-weighted assets of 8.0% on both consolidated and non-consolidated bases for banks with international operations, including BTMU and MUTB, or on a consolidated basis for bank holding companies with international operations, such as MUFG. Modified risk-weighted assets is the sum of risk-weighted assets compiled for credit risk purposes, market risk equivalent amount divided by 8% and operational risk equivalent amount divided by 8%. The capital adequacy guidelines place considerable emphasis on tangible common shareholders equity as the core element of the capital base, with appropriate recognition of other components of capital.
Capital is classified into three tiers, referred to as Tier I, Tier II and Tier III. Tier I capital generally consists of shareholders equity items, including common stock, preferred stock, capital surplus, noncontrolling interests and retained earnings (which includes deferred tax assets). However, recorded goodwill and other items, such as treasury stock, and unrealized losses on investment securities classified as securities available for sale under Japanese GAAP, net of taxes, if any, are deducted from Tier I capital. Tier II capital generally consists of:
The amount (up to a maximum of 0.6% of credit risk-weighted assets) by which eligible reserves for credit losses exceed expected losses in the internal ratings-based approach, and general reserves for credit losses, subject to a limit of 1.25% of modified risk-weighted assets determined by the partial use of the Standardized Approach (including a phased rollout of the internal ratings-based approach);
45% of the unrealized gains on investment securities classified as securities available for sale under Japanese GAAP;
45% of the land revaluation excess;
the balance of perpetual subordinated debt; and
the balance of subordinated term debt with an original maturity of over five years and preferred stock with a maturity up to 50% of Tier I capital.
Tier III capital generally consists of short-term subordinated debt with an original maturity of at least two years and which is subject to a lock-in provision, which stipulates that neither interest nor principal may be paid if such payment would cause the banks overall capital amount to be less than its minimum capital requirement. At least 50% of the minimum total capital requirements must be maintained in the form of Tier I capital.
Amendments to the capital adequacy guidelines limiting the portion of Tier I capital consisting of deferred tax assets became effective on March 31, 2006. The restrictions are targeted at major Japanese banks and their holding companies, which include MUFG and its banking subsidiaries. The banks subject to the restrictions will not be able to reflect in their capital adequacy ratios any deferred tax assets that exceed the limit of 20% of their Tier I capital.
In September 2009, the Group of Central Bank Governors and Heads of Supervision, the oversight body of the Basel Committee on Banking Supervision, announced a comprehensive set of measures to modify the existing three pillars of the Basel II framework. In December 2009, the Basel Committee announced a package of proposals to strengthen global capital and liquidity regulations with the goal of promoting a more resilient banking sector. The proposals cover the following four key areas;
raising the quality, consistency and transparency of the capital base;
strengthening the risk coverage of the capital framework;
introducing a leverage ratio as a supplementary measure to the Basel II risk-based framework with a view to migrating to a minimum capital requirement treatment based on appropriate review and calibration;
introducing a series of measures to promote the build-up of capital buffers in good times that can be drawn upon in periods of stress; and
Introducing a global minimum liquidity standard for internationally active banks that includes a 30-day liquidity coverage ratio requirement underpinned by a longer-term structural liquidity ratio.
These measures have not been adopted. However, if adopted, the Japanese capital ratio framework, which is currently based on Basel II, is expected to be revised to implement these measures, thereby imposing possibly more stringent requirements.
The various proposals could impose stricter capital requirements and new liquidity requirements on global financial institutions such as us. If adopted as proposed, the capital requirements could, among other things, significantly increase the aggregate common equity that financial institutions will be required to have issued in proportion to their total risk assets by disqualifying certain instruments that currently qualify as Tier I capital. In addition, the proposals also include a leverage ratio requirement. The proposals also include liquidity requirements that could result in financial institutions holding greater levels of lower yielding instruments as a percentage of their assets. The proposals would increase the level of risk-weighted assets, and could also increase the capital charges imposed on certain assets potentially making certain businesses more expensive to conduct. We will continue to assess the potential impact of the proposals.
Inspection and reporting. By evaluating banks systems of self-assessment, auditing their accounts and reviewing their compliance with laws and regulations, the FSA monitors the financial soundness of banks, including the status and performance of their control systems for business activities. The FSA implemented the Financial Inspection Rating System (FIRST) for deposit-taking financial institutions which has become applicable to major banks since April 1, 2007. By providing inspection results in the form of graded evaluations (i.e., ratings), the FSA expects this rating system to motivate financial institutions to voluntarily improve their management and operations. Additionally, the FSA currently takes the better regulation approach in its financial regulation and supervision. This consists of four pillars: optimal combination of rules-based and principles-based supervisory approaches; timely recognition of priority issues and effective response; encouraging voluntary efforts by financial firms and placing greater emphasis on providing them with incentives; improving the transparency and predictability of regulatory actions, in pursuit of improvement of the quality of financial regulation and supervision.
The FSA, if necessary to secure the sound and appropriate operation of a banks business, may request the submission of reports or materials from, or conduct an on-site inspection of, the bank or the bank holding company. If a banks capital adequacy ratio falls below a specified level, the FSA may request the bank to submit an improvement plan and may restrict or suspend the banks operations when it determines that action is necessary.
In addition, the Securities and Exchange Surveillance Commission inspects banks in connection with their securities business as well as financial instruments business operators, such as securities firms.
The Bank of Japan also conducts inspections of banks similar to those undertaken by the FSA. The Bank of Japan Law provides that the Bank of Japan and financial institutions may agree as to the form of inspection to be conducted by the Bank of Japan.
Laws limiting shareholdings of banks. The provisions of the Anti-Monopoly Law that prohibit a bank from holding more than 5% of another companys voting rights do not apply to a bank holding company. However, the Banking Law prohibits a bank holding company and its subsidiaries from holding, on an aggregated basis, more than 15% of the voting rights of companies other than those which can legally become subsidiaries of bank holding companies.
On September 30, 2006, a law which imposes a limitation on a banks shareholding of up to the amount equivalent to its Tier I capital took effect.
Financial Instruments and Exchange Law. The Financial Instruments and Exchange Law amending and replacing the Securities and Exchange Law became effective on September 30, 2007. The new law not only preserves the basic concepts of the Securities and Exchange Law, but is also intended to further protect investors. The new law also regulates sales of a wide range of financial instruments and services, requiring financial institutions to revise their sales rules and strengthen compliance frameworks and procedures accordingly. Among the instruments that the Japanese banks deal with, derivatives, foreign currency-denominated deposits, and variable insurance and annuity products are subject to regulations covered by sales-related rules of conduct.
Article 33 of the Financial Instruments and Exchange Law generally prohibits banks from engaging in securities transactions. However, bank holding companies and banks may, through a domestic or overseas securities subsidiary, conduct all types of securities business, with appropriate approval from the FSA. Similarly, registered banks are permitted to provide securities intermediation services and engage in certain other similar types of securities related transactions, including retail sales of investment funds and government and municipal bonds.
Anti-money laundering laws. Under the Law for Prevention of Transfer of Criminal Proceeds, banks and other financial institutions are required to report to responsible ministers, in the case of banks, the Commissioner of the FSA, any assets which they receive while conducting their businesses that are suspected of being illicit profits from criminal activity.
Law concerning trust business conducted by financial institutions. Under the Trust Business Law, joint stock companies that are licensed by the Prime Minister as trust companies are allowed to conduct trust business. In addition, under the Law Concerning Concurrent Operation for Trust Business by Financial Institutions, banks and other financial institutions, as permitted by the Prime Minister, are able to conduct trust business. The Trust Business Law was amended in December 2004 to expand the types of property that can be entrusted, to allow non-financial companies to conduct trust business and to allow a new type of registration for trustees who conduct only administration type trust business. The Trust Business Law was further amended in December 2006 in order to cope with new types of trust and to amend the duties imposed on the trustee in accordance with the sweeping amendment to the Trust Law.
Deposit insurance system and government measures for troubled financial institutions. The Deposit Insurance Law is intended to protect depositors if a financial institution fails to meet its obligations. The Deposit Insurance Corporation was established in accordance with that law.
City banks (including BTMU), regional banks, trust banks (including MUTB), and various other credit institutions participate in the deposit insurance system on a compulsory basis.
Under the Deposit Insurance Law, the maximum amount of protection is ¥10 million per customer within one bank. Since April 1, 2005, all deposits are subject to the ¥10 million maximum, except for non-interest bearing deposits that are redeemable on demand and used by the depositor primarily for payment and settlement functions (the settlement accounts). Such deposit accounts are fully protected without a maximum amount limitation. Certain types of deposits are not covered by the deposit insurance system, such as foreign currency deposits and negotiable certificates of deposit. Currently, the Deposit Insurance Corporation charges insurance premiums equal to 0.107% on the deposits in the settlement accounts, which are fully protected as mentioned above, and premiums equal to 0.082% on the deposits in other accounts.
Since 1998, the failure of a number of large-scale financial institutions has led to the introduction of various measures with a view to stabilizing Japans financial system, including financial support from the national budget.
Under the Deposit Insurance Law, a Financial Reorganization Administrator can be appointed by the Prime Minister if a bank is unable to fully perform its obligations with its assets or may suspend or has suspended
repayment of deposits. The Financial Reorganization Administrator will take control of the assets of the troubled bank, dispose of the assets and search for another institution willing to take over its business. The troubled banks business may also be transferred to a bridge bank established by the Deposit Insurance Corporation for the purpose of the temporary maintenance and continuation of operations of the troubled bank, and the bridge bank will seek to transfer the troubled banks assets to another financial institution or dissolve the troubled bank. The Deposit Insurance Corporation protects deposits, as described above, either by providing financial aid for costs incurred by the financial institution succeeding the insolvent bank or by paying insurance money directly to depositors. The financial aid, provided by the Deposit Insurance Corporation, may take the form of a monetary grant, loan or deposit of funds, purchase of assets, guarantee or assumption of debts, subscription of preferred stock, or loss sharing. The Deposit Insurance Law also provides for exceptional measures to cope with systemic risk in the financial industry.
Further, against the background of the global financial crisis, in December 2008 the Law Concerning Special Measures for Strengthening of Financial Function was amended in order to enable the Japanese government to take special measures in order to strengthen the capital of financial institutions. Under the law, banks and other financial institutions may apply to receive capital injections from the Deposit Insurance Corporation, subject to government approval, which will be granted subject to the fulfillment of certain requirements, including, among other things, the improvement of profitability and efficiency, facilitation of financing to mid-small business enterprises in the local communities, and that the financial institution is not insolvent. The application deadline is March 31, 2012.
Law Concerning the Temporary Measures for the Facilitation of Finance to Small and Medium-sized Firms and Others. On November 30, 2009, the Japanese Diet passed a new piece of legislation entitled the Law Concerning the Temporary Measures for the Facilitation of Finance to Small and Medium-sized Firms and Others. The legislation requires financial institutions, among other things, to make an effort to reduce their customers burden of loan payment by employing methods such as modifying the term of loans at the request of eligible borrowers including small and medium-sized firms and individual home loan borrowers. The new legislation also requires financial institutions to internally establish a system to implement the requirements of the legislation and periodically make public disclosure of and report to the relevant authority on the status of implementation. The legislation is scheduled to expire at the end of March 2011.
Personal Information Protection Law. With regards to protection of personal information, the Personal Information Protection Law became fully effective on April 1, 2005. Among other matters, the law requires Japanese banking institutions to limit the use of personal information to the stated purpose and to properly manage the personal information in their possession, and forbids them from providing personal information to third parties without consent. If a bank violates certain provisions of the law, the FSA may advise or order the bank to take proper action. The FSA announced related guidelines for the financial services sector in December 2004. In addition, the Banking Law and the Financial Instruments and Exchange Law provide certain provisions with respect to appropriate handling of customer information.
Law concerning Protection of Depositors from Illegal Withdrawals Made by Counterfeit or Stolen Cards. This law became effective in February 2006 and requires financial institutions to establish internal systems to prevent illegal withdrawals of deposits made using counterfeit or stolen bank cards. The law also requires financial institutions to compensate depositors for any amount illegally withdrawn using counterfeit bank cards, unless the financial institution can verify that it acted in good faith without negligence, and there is gross negligence on the part of the relevant account holder.
Recent Regulatory Actions. In June 2009, the former MUS received from the FSA an order to improve business operations pursuant to Article 51 of the Financial Instruments and Exchange Law and to submit a report on the former MUSs progress on adopting and implementing remedial and preventative measures (which report was submitted to the FSA on July 2, 2009) and a recommendation pursuant to the first paragraph of Article 34 of the Personal Information Protection Law in connection with the incident where data including customer information were fraudulently stolen.
In July 2009, kabu.com Securities Co., Ltd., a consolidated subsidiary, received an order to improve business operations from the FSA in connection with a former employees trading activities in violation of Japanese insider trading regulations.
Government reforms to restrict maximum interest rates on consumer lending business. In December 2006, the Diet passed legislation to reform the regulations relating to the consumer lending business, including amendments to the Law Concerning Acceptance of Investment, Cash Deposit and Interest Rate etc., which, effective on June 18, 2010, reduced the maximum permissible interest rate from 29.2% per annum to 20% per annum. The regulatory reforms also included amendments to the Law Concerning Lending Business which, effective on June 18, 2010, abolished the so-called gray-zone interest. Gray-zone interest refers to interest rates exceeding the limits stipulated by the Interest Rate Restriction Law (between 15% per annum to 20% per annum depending on the amount of principal). Prior to June 18, 2010, gray-zone interests were permitted under certain conditions set forth in the Law Concerning Lending Business. As a result of the regulatory reforms, all interest rates are now subject to the lower limits imposed by the Interest Rate Restriction Law, compelling lending institutions, including our consumer finance subsidiaries and equity method investees, to lower the interest rates they charge borrowers. Furthermore, the new regulations, which became effective on June 18, 2010, require, among other things, consumer finance companies to review the repayment capability of borrowers before lending, thereby limiting the amount of borrowing available to individual borrowers.
In addition, as a result of recent decisions made by the Supreme Court of Japan prior to June 18, 2010, imposing stringent requirements for charging such gray-zone interest, and the business environment for consumer finance companies in Japan has been altered in favor of borrowers. Due to such changes, borrowers claims for reimbursement of such excess interest that they have paid to the consumer finance companies have significantly increased and are still holding at high levels.
As a result of our operations in the United States, we are subject to extensive US federal and state supervision and regulation.
Overall supervision and regulation. We are subject to supervision, regulation and examination with respect to our US operations by the Board of Governors of the Federal Reserve System, or the Federal Reserve Board, pursuant to the US Bank Holding Company Act of 1956, as amended, or the BHCA, and the International Banking Act of 1978, as amended, or the IBA, because we are a bank holding company and a foreign banking organization, respectively, as defined pursuant to those statutes. The Federal Reserve Board functions as our umbrella supervisor under amendments to the BHCA effected by the Gramm-Leach-Bliley Act of 1999, which among other things:
prohibited further expansion of the types of activities in which bank holding companies, acting directly or through nonbank subsidiaries, may engage;
authorized qualifying bank holding companies to opt to become financial holding companies, and thereby acquire the authority to engage in an expanded list of activities; and
modified the role of the Federal Reserve Board by specifying new relationships between the Federal Reserve Board and the functional regulators of nonbank subsidiaries of both bank holding companies and financial holding companies.
The BHCA generally prohibits each of a bank holding company and a foreign banking organization that maintains branches or agencies in the United States from, directly or indirectly, acquiring more than 5% of the voting shares of any company engaged in nonbanking activities in the United States unless the bank holding company or foreign banking organization has elected to become a financial holding company, as discussed above, or the Federal Reserve Board has determined, by order or regulation, that such activities are so closely related to banking as to be a proper incident thereto and has granted its approval to the bank holding company or foreign
banking organization for such an acquisition. The BHCA also requires a bank holding company or foreign banking organization that maintains branches or agencies in the United States to obtain the prior approval of an appropriate federal banking authority before acquiring, directly or indirectly, the ownership of more than 5% of the voting shares or control of any US bank or bank holding company. In addition, under the BHCA, a US bank or a US branch or agency of a foreign bank is prohibited from engaging in various tying arrangements involving it or its affiliates in connection with any extension of credit, sale or lease of any property or provision of any services.
On October 6, 2008, we became a financial holding company. At the same time, BTMU, MUTB, and UNBC, which are also bank holding companies, elected to become financial holding companies. As noted above, as a financial holding company we are authorized to engage in an expanded list of activities. These activities include those deemed to be financial in nature or incidental to such financial activity, including among other things merchant banking, insurance underwriting, and a full range of securities activities. In addition, we are permitted to engage in certain specified nonbanking activities deemed to be closely related to banking, without prior notice to or approval from the Federal Reserve Board. To date, we have utilized this expanded authority by electing to engage in certain securities activities, including securities underwriting, indirectly through certain of our securities subsidiaries. In order to maintain our status as a financial holding company that allows us to expand our activities, we must continue to meet certain standards established by the Federal Reserve Board. Those standards require that we exceed the minimum standards applicable to bank holding companies that have not elected to become financial holding companies. These higher standards include meeting the well capitalized and well managed standards for financial holding companies as defined in the regulations of the Federal Reserve Board. In addition, as a financial holding company, we must ensure that our US banking subsidiaries identified below meet certain minimum standards under the Community Reinvestment Act of 1977. At this time, we continue to comply with these standards.
US branches and agencies of subsidiary Japanese banks. Under the authority of the IBA, our banking subsidiaries, BTMU and MUTB, operate seven branches, two agencies and five representative offices in the United States. BTMU operates branches in Los Angeles and San Francisco, California; Chicago, Illinois; New York, New York; Portland, Oregon; and Seattle, Washington; agencies in Atlanta, Georgia and Houston, Texas; and representative offices in Washington, D.C; Minneapolis, Minnesota; Dallas, Texas; Jersey City, New Jersey; and Florence, Kentucky. MUTB operates a branch in New York, New York.
The IBA provides, among other things, that the Federal Reserve Board may examine US branches and agencies of foreign banks, and that each such branch and agency shall be subject to on-site examination by the appropriate federal or state bank supervisor as frequently as would a US bank. The IBA also provides that if the Federal Reserve Board determines that a foreign bank is not subject to comprehensive supervision or regulation on a consolidated basis by the appropriate authorities in its home country, or if there is reasonable cause to believe that the foreign bank or its affiliate has committed a violation of law or engaged in an unsafe or unsound banking practice in the United States, the Federal Reserve Board may order the foreign bank to terminate activities conducted at a branch or agency in the United States.
US branches and agencies of foreign banks must be licensed, and are also supervised and regulated, by a state or by the Office of the Comptroller of the Currency, or the OCC, the federal regulator of national banks. All of the branches and agencies of BTMU and MUTB in the United States are state-licensed. Under US federal banking laws, state-licensed branches and agencies of foreign banks may engage only in activities that would be permissible for their federally-licensed counterparts, unless the Federal Reserve Board determines that the additional activity is consistent with sound practices. US federal banking laws also subject state-licensed branches and agencies to the single-borrower lending limits that apply to federal branches and agencies, which generally are the same as the lending limits applicable to national banks, but are based on the capital of the entire foreign bank.
As an example of state supervision, the branches of BTMU and MUTB in New York are licensed by the New York State Superintendent of Banks, or the Superintendent, pursuant to the New York Banking Law. Under
the New York Banking Law and the Superintendents Regulations, each of BTMU and MUTB must maintain with banks in the State of New York eligible assets as defined and in amounts determined by the Superintendent. These New York branches must also submit written reports concerning their assets and liabilities and other matters, to the extent required by the Superintendent, and are examined at periodic intervals by the New York State Banking Department. In addition, the Superintendent is authorized to take possession of the business and property of BTMU and MUTB located in New York whenever events specified in the New York Banking Law occur.
US banking subsidiaries. We indirectly own and control three US banks:
Bank of Tokyo-Mitsubishi UFJ Trust Company, New York, New York (through BTMU, a registered bank holding company),
Mitsubishi UFJ Trust & Banking Corporation (U.S.A.), New York, New York (through MUTB, a registered bank holding company), and
Union Bank (through BTMU and its subsidiary, UNBC, a registered bank holding company).
Bank of Tokyo-Mitsubishi UFJ Trust Company and Mitsubishi UFJ Trust & Banking Corporation (U.S.A.) are chartered by the State of New York and are subject to the supervision, examination and regulatory authority of the Superintendent pursuant to the New York Banking Law. Union Bank is a national bank subject to the supervision, examination and regulatory authority of the OCC pursuant to the National Bank Act.
The Federal Deposit Insurance Corporation, or the FDIC, is the primary federal agency responsible for the supervision, examination and regulation of the two New York-chartered banks referred to above. The FDIC may take enforcement action, including the issuance of prohibitive and affirmative orders, if it determines that a financial institution under its supervision has engaged in unsafe or unsound banking practices, or has committed violations of applicable laws and regulations. The FDIC insures the deposits of all three US banking subsidiaries up to legally specified maximum amounts. In the event of the failure of an FDIC-insured bank, the FDIC is virtually certain to be appointed as receiver, and would resolve the failure under provisions of the Federal Deposit Insurance Act. An FDIC-insured institution that is affiliated with a failed or failing FDIC-insured institution can be required to indemnify the FDIC for losses resulting from the insolvency of the failed institution, even if this causes the affiliated institution also to become insolvent. In the liquidation or other resolution of a failed FDIC-insured depository institution, deposits in its US offices and other claims for administrative expenses and employee compensation are afforded priority over other general unsecured claims, including deposits in offices outside the United States, non-deposit claims in all offices and claims of a parent company. Moreover, under longstanding Federal Reserve Board policy, a bank holding company is expected to act as a source of financial strength for its banking subsidiaries and to commit resources to support such banks.
Bank capital requirements and capital distributions. Our US banking subsidiaries are subject to applicable risk-based and leverage capital guidelines issued by US regulators for banks and bank holding companies. In addition, BTMU and MUTB, as foreign banking organizations that have US branches and agencies and that are controlled by us as a financial holding company, are subject to the Federal Reserves requirements that they be well-capitalized based on Japans risk based capital standards, as well as well managed. All of our US banking subsidiaries and BTMU, MUTB, and UNBC are well capitalized as defined under, and otherwise comply with, all US regulatory capital requirements applicable to them. The Federal Deposit Insurance Corporation Improvement Act of 1991, or FDICIA, provides, among other things, for expanded regulation of insured depository institutions, including banks, and their parent holding companies. As required by FDICIA, the federal banking agencies have established five capital tiers ranging from well capitalized to critically undercapitalized for insured depository institutions. As an institutions capital position deteriorates, the federal banking regulators may take progressively stronger actions, such as further restricting affiliate transactions, activities, asset growth or interest payments. In addition, FDICIA generally prohibits an insured depository institution from making capital distributions, including the payment of dividends, or the payment of any management fee to its holding company, if the insured depository institution would subsequently become undercapitalized.
The availability of dividends from insured depository institutions in the United States is limited by various other statutes and regulations. The National Bank Act and other federal laws prohibit the payment of dividends by a national bank under various circumstances and limit the amount a national bank can pay without the prior approval of the OCC. In addition, state-chartered banking institutions are subject to dividend limitations imposed by applicable federal and state laws.
Other regulated US subsidiaries. Our nonbank subsidiaries that engage in securities-related activities in the United States are regulated by appropriate functional regulators, such as the SEC, any self-regulatory organizations of which they are members, and the appropriate state regulatory agencies. These nonbank subsidiaries are required to meet separate minimum capital standards as imposed by those regulatory authorities.
Anti-Money Laundering Initiatives and the USA PATRIOT Act. A major focus of US governmental policy relating to financial institutions in recent years has been aimed at preventing money laundering and terrorist financing. The USA PATRIOT Act of 2001 substantially broadened the scope of US anti-money laundering laws and regulations by imposing significant new compliance and due diligence obligations, creating new crimes and penalties and expanding the extra-territorial jurisdiction of the United States. The US Department of the Treasury has issued a number of implementing regulations that impose obligations on financial institutions to maintain appropriate policies, procedures and controls to detect, prevent and report money laundering and terrorist financing, and to verify the identity of their customers. In addition, the bank regulatory agencies carefully scrutinize the adequacy of an institutions policies, procedures and controls. As a result, there has been an increased number of regulatory sanctions and law enforcement authorities have been taking a more active role. Failure of a financial institution to maintain and implement adequate policies, procedures and controls to prevent money laundering and terrorist financing could in some cases have serious legal and reputational consequences for the institution, including the incurring of expenses to enhance the relevant programs, the imposition of limitations on the scope of their operations and the imposition of fines and other monetary penalties.
Regulatory Reform Legislation. In response to the financial crisis and the perception that lax supervision of the financial industry in the United States may have been a contributing cause, new legislation designed to reform the system for supervision and regulation of financial firms in the United States called the Dodd-Frank Wall Street Reform and Consumer Protection Act, or the Dodd-Frank Act, was signed into law on July 21, 2010. The Dodd-Frank Act is complex and extensive in its coverage and contains a wide range of provisions that would affect financial institutions operating in the United States, including our US operations. Included among these provisions, among other things, are sweeping reforms designed to reduce systemic risk presented by very large financial firms, promote enhanced supervision, regulation, and prudential standards for financial firms, establish comprehensive supervision of financial markets, impose new limitations on permissible financial institution activities and investments, expand regulation of the derivatives markets, protect consumers and investors from financial abuse, and provide the government with the tools needed to manage a financial crisis. Many aspects of the legislation require subsequent regulatory action by supervisory agencies for full implementation. Thus, we are unable to assess at this time the potential impact of any such enacted legislation on our operations.
The following chart presents our corporate structure summary as at March 31, 2010:
Set forth below is a list of our principal consolidated subsidiaries at March 31, 2010:
|Country of |
The Bank of Tokyo-Mitsubishi UFJ, Ltd.
Mitsubishi UFJ Trust and Banking Corporation
The Master Trust Bank of Japan, Ltd.
Mitsubishi UFJ Securities Co., Ltd.(2)
Mitsubishi UFJ Merrill Lynch PB Securities Co., Ltd.
kabu.com Securities Co., Ltd.
Mitsubishi UFJ NICOS Co., Ltd.
Tokyo Credit Services, Ltd.
Ryoshin DC Card Company, Ltd.
Tokyo Associates Finance Corp.
NBL Co., Ltd.
Mitsubishi UFJ Factors Limited
MU Frontier Servicer Co., Ltd.
Mitsubishi UFJ Capital Co., Ltd
MU Hands-on Capital Co., Ltd.
Defined Contribution Plan Consulting of Japan Co., Ltd.
KOKUSAI Asset Management Co., Ltd.
Mitsubishi UFJ Asset Management Co., Ltd.
MU Investments Co., Ltd.
Mitsubishi UFJ Real Estate Services Co., Ltd.
Mitsubishi UFJ Personal Financial Advisers Co., Ltd.
Mitsubishi UFJ Research and Consulting Ltd.
MU Business Engineering, Ltd.
Japan Shareholder Services Ltd.
BOT Lease Co., Ltd.
Mitsubishi UFJ Trust & Banking Corporation (U.S.A.)
Mitsubishi UFJ Global Custody S.A.
Mitsubishi UFJ Wealth Management Bank (Switzerland), Ltd.
Mitsubishi UFJ Securities International plc
Mitsubishi UFJ Securities (USA), Inc.
Mitsubishi UFJ Trust International Limited
Mitsubishi UFJ Securities (HK) Holdings, Limited
|Peoples Republic |
Mitsubishi UFJ Securities (Singapore), Limited
BTMU Capital Corporation
BTMU Leasing & Finance, Inc.
PT U Finance Indonesia
PT. BTMU-BRI Finance
BTMU Lease (Deutschland) GmbH
BTMU Participation (Thailand) Co., Ltd.
Mitsubishi UFJ Baillie Gifford Asset Management Limited
MU Trust Consulting (Shanghai) Co., Ltd.
|Peoples Republic |
|(1)||Includes shares held in trading accounts, custody accounts and others.|
|(2)||On April 1, 2010, Mitsubishi UFJ Securities Co., Ltd. transferred its domestic business operations to a subsidiary by way of a company split, adopted an intermediate holding company structure and changed its corporate name to Mitsubishi UFJ Securities Holdings Co., Ltd. On May 1, 2010, the company succeeding to the domestic business operations of Mitsubishi UFJ Securities Co., Ltd. was integrated with the investment banking division of Morgan Stanley Japan Securities Co., Ltd. and changed its corporate name to Mitsubishi UFJ Morgan Stanley Securities Co., Ltd. See Item 4.B. Information on the Company. and Item 5. Operating and Financial Review and ProspectsRecent Developments.|
|D.||Property, Plants and Equipment|
Premises and equipment at March 31, 2009 and 2010 consisted of the following:
|At March 31,|
Equipment and furniture
Construction in progress
Less accumulated depreciation
Premises and equipmentnet
|(1)||The balances of Buildings and Leasehold improvements at March 31, 2009 have been restated. For more information, see Note 7 to our consolidated financial statements included elsewhere in this Annual Report.|
Our registered address is 7-1, Marunouchi 2-chome, Chiyoda-ku, Tokyo. At March 31, 2010, we and our subsidiaries conducted our operations either in the premises we owned or in the properties we leased.
The following table presents the book values of our material offices and other properties at March 31, 2010:
The buildings and land we own are primarily used by us and our subsidiaries as offices and branches. Most of the buildings and land we own are free from material encumbrances.
During the fiscal year ended March 31, 2010, we invested approximately ¥114.2 billion in our subsidiaries primarily for office renovations and relocation.
|Item 4A.||Unresolved Staff Comments.|
We received a comment letter from the staff of the Division of Corporation Finance of the SEC dated March 15, 2010 and a subsequent comment letter dated August 10, 2010. The comments from the staff were issued with respect to its review of our annual report on Form 20-F for the fiscal year ended March 31, 2009. The comments covered information included in Item 3.D. Risk Factors, Item 5. Operating and Financial Review and Prospects, Item 6.B. Compensation and Item 7.B. Major Shareholders, and required either more robust disclosure or clarification with respect to our disclosure in those items.
|Item 5.||Operating and Financial Review and Prospects.|
The following discussion and analysis should be read in conjunction with Item 3.A. Key InformationSelected Financial Data, Selected Statistical Data and our consolidated financial statements and related notes included elsewhere in this Annual Report.
|Liquidity and Capital Resources||80|
|Research and Development, Patents and Licenses, etc.||98|
|Tabular Disclosure of Contractual Obligations||100|
We are a holding company for The Bank of Tokyo-Mitsubishi UFJ, Ltd., or BTMU, Mitsubishi UFJ Trust and Banking Corporation, or MUTB, Mitsubishi UFJ Morgan Stanley Securities Co., Ltd., or MUMSS through Mitsubishi UFJ Securities Holdings Co., Ltd., or MUSHD, an intermediate holding company, Mitsubishi UFJ NICOS Co., Ltd., or Mitsubishi UFJ NICOS, and other subsidiaries. Through our subsidiaries and affiliated companies, we engage in a broad range of financial businesses and services, including commercial banking, investment banking, trust banking and asset management services, securities businesses, and credit card businesses, and provide related services to individual and corporate customers.
Key Financial Figures
The following are some key figures prepared in accordance with US GAAP relating to our business.
Effective April 1, 2009, we adopted new accounting guidance regarding noncontrolling interests in subsidiaries. As a result, we have reclassified Non-interest expense for the fiscal years ended March 31, 2008 and 2009. See Noncontrolling Interests under Accounting Changes in Note 1 to our consolidated financial statements included elsewhere in this Annual Report.
|Fiscal years ended March 31,|
Net interest income
Provision for credit losses
Net income (loss) before attribution of noncontrolling interests
Net income (loss) attributable to Mitsubishi UFJ Financial Group
Total assets (at end of period)
Our revenues consist of net interest income and non-interest income.
Net interest income. Net interest income is a function of:
the amount of interest-earning assets,
the amount of interest-bearing liabilities,
the general level of interest rates,
the so-called spread, or the difference between the rate of interest earned on interest-earning assets and the rate of interest paid on interest-bearing liabilities, and
the proportion of interest-earning assets financed by non-interest-bearing liabilities and equity.
Our net interest income for the fiscal year ended March 31, 2010 decreased compared to that for the prior fiscal year mainly as a result of decreases in our foreign deposit and lending volumes as well as decreases in interest rates. The following table shows changes in our net interest income by changes in volume and by changes in rate for the fiscal year ended March 31, 2009 compared to the fiscal year ended March 31, 2008 and the fiscal year ended March 31, 2010 compared to the fiscal year ended March 31, 2009:
|Fiscal year ended March 31, 2009 |
fiscal year ended March 31, 2008
|Fiscal year ended March 31, 2010 |
fiscal year ended March 31, 2009
|Increase (decrease) |
due to changes in
|Increase (decrease) |
due to changes in
|Volume(1)||Rate(1)||Net change||Volume(1)||Rate(1)||Net |
|(1)||Volume/rate variance is allocated based on the percentage relationship of changes in volume and changes in rate to the total net change.|
The continuing low global interest rate environment negatively affected our overall interest spread in the fiscal year ended March 31, 2010. The following is a summary of the amount of interest-earning assets and interest-bearing liabilities average interest rates, the interest rate spread and non-interest-bearing liabilities for the fiscal years ended March 31, 2008, 2009 and 2010:
|Fiscal years ended March 31,|
|(in billions, except percentages)|
Interest rate spread
Net interest income as a percentage of total interest-earning assets
Provision for credit losses. Provision for credit losses is charged to operations to maintain the allowance for credit losses at a level deemed appropriate by management.
Non-interest income. Non-interest income consists of:
fees and commissions, including
fees on funds transfer and service charges for collections,
fees and commissions on international business,
fees and commissions on credit card business,
service charges on deposits,
fees and commissions on securities business,
fees on real estate business,
fees and commissions on stock transfer agency services,
fees on investment funds business, and
other fees and commissions;
foreign exchange gains (losses)net, which primarily include net gains (losses) on currency derivative instruments entered into for trading purposes and transaction gains (losses) on the translation into Japanese yen of monetary assets and liabilities denominated in foreign currencies;
trading account profits (losses)net, which primarily include net profits (losses) on trading account securities and interest rate derivative contracts entered into for trading purposes;
investment securities gains (losses)net, which primarily include net gains (losses) on sales and impairment losses on securities available for sale;
equity in losses of equity method investees;
gains on sales of loans; and
other non-interest income.
The following table is a summary of our non-interest income for the fiscal years ended March 31, 2008, 2009 and 2010:
|Fiscal years ended March 31,|
Fees and commissions
Foreign exchange gains (losses)net
Trading account profits (losses)net
Investment securities gains (losses)net
Equity in losses of equity method investees
Gains on sales of loans
Other non-interest income
Total non-interest income
Core Business Areas
We operate our main businesses under an integrated business group system, which integrates the operations of BTMU, MUTB, MUMSS, Mitsubishi UFJ NICOS and other subsidiaries in the following three areasRetail, Corporate and Trust Assets. These three businesses serve as the core sources of our revenue. Operations that are not covered under the integrated business group system are classified under Global Markets and Other.
Our business segment information is based on financial information prepared in accordance with Japanese GAAP, as adjusted in accordance with internal management accounting rules and practice and is not consistent with our consolidated financial statements included elsewhere in this Annual Report, which have been prepared in accordance with US GAAP. The following tables sets forth the relative contributions to operating profit for the fiscal year ended March 31, 2010 of the three core business areas and the other business areas based on our business segment information:
|Integrated Corporate Banking Business Group||Integrated |
|Other than |
Operating profit (loss)
Summary of Our Recent Financial Results and Financial Condition
We reported net income attributable to Mitsubishi UFJ Financial Group of ¥859.8 billion for the fiscal year ended March 31, 2010, compared to a net loss attributable to Mitsubishi UFJ Financial Group of ¥1,468.0 billion for the fiscal year ended March 31, 2009. Our diluted earnings per share of common stock (net income available to common shareholders of Mitsubishi UFJ Financial Group) for the fiscal year ended March 31, 2010 was ¥67.87, an improvement from a diluted loss per share of common stock of ¥137.84 for the fiscal year ended March 31, 2009. Income from continuing operations before income tax expense for the fiscal year ended March 31, 2010 was ¥1,282.1 billion, compared to a loss from continuing operations before income tax benefit of ¥1,764.2 billion for the fiscal year ended March 31, 2009.
Our business and results of operations as well as our assets are heavily influenced by trends in economic conditions particularly in Japan. In the fiscal year ended March 31, 2010, there were signs of recovery in the Japanese economy from the negative trends that continued throughout the previous fiscal year. For example, although Japans real GDP contracted by 2.0% in the fiscal year ended March 31, 2010, stock prices in Japan generally increased during the fiscal year. The Nikkei Stock Average, which is an average of 225 blue chip stocks listed on the Tokyo Stock Exchange, increased from ¥8,109.53 at March 31, 2009 to ¥11,089.94 at March 31, 2010, mainly due to a rebound from the global financial crisis in the early part of the fiscal year. The closing price of the Tokyo Stock Price Index, or TOPIX, a composite index of all stocks listed on the First Section of the Tokyo Stock Exchange, also increased from 773.66 at March 31, 2009 to 978.81 at March 31, 2010. See IntroductionBusiness Environment.
In addition to the macro economic factors, our net income attributable to Mitsubishi UFJ Financial Group for the fiscal year ended March 31, 2010 mainly reflected the following:
Net interest income was ¥1,984.1 billion, a decrease of ¥312.3 billion from ¥2,296.4 billion for the previous fiscal year mainly due to the lower interest rate environment, which negatively affected our interest spread, and the decrease in returns from our foreign loans;
Provision for credit losses was ¥647.8 billion, an increase of ¥20.9 billion from ¥626.9 billion for the fiscal year ended March 31, 2009, reflecting in part a significant amount of allocated allowance for specifically identified problem loans due to the weakening of the financial condition of borrowers, particularly domestic manufacturing, wholesale and retail borrowers and foreign governments and official institutions;
Fees and commissions were ¥1,139.5 billion, a decrease ¥49.0 billion from ¥1,188.5 billion for the fiscal year ended March 31, 2009 primarily due to decreases of ¥18.2 billion in trust fees, ¥9.9 billion in fees and commissions on stock transfer agency services and ¥7.1 billion in guarantee fees, reflecting a general decrease in the volume of these businesses, partially offset by a ¥17.6 billion increase in fees and commissions on securities businesses as the overall volume of securities trading recovered with the improvement in stock prices in general;
Net foreign exchange gains were ¥216.7 billion, compared to net foreign exchange losses of ¥206.2 billion for the fiscal year ended March 31, 2009, mainly due to an improvement in our overall position in currency swap contracts and options fees, partially offset by the losses associated with the appreciation of Japanese yen against the US dollar and other currencies;
Net trading account profits were ¥761.5 billion, compared to net trading account losses of ¥257.8 billion for the fiscal year ended March 31, 2009, largely due to recording net profits on trading securities, excluding derivatives, of ¥850.0 billion for the fiscal year ended March 31, 2010, partially offset by net losses on interest rate and other derivative contracts of ¥88.5 billion for the fiscal year ended March 31, 2010;
Net investment securities gains were ¥223.0 billion, compared to net losses of ¥658.7 billion for the fiscal year ended March 31, 2009, mainly reflecting net gains on sales of marketable equity securities of
¥213.5 billion and net gains on sales of debt securities available for sale of ¥83.7 billion, partially offset by impairment losses on securities available for sale of ¥92.7 billion; and
Impairment of goodwill for the fiscal year ended March 31, 2010 was ¥0.5 billion, which was significantly lower than the impairment of goodwill of ¥845.8 billion for the fiscal year ended March 31, 2009. The impairment of goodwill for the fiscal year ended March 31, 2009 reflected the global financial market crisis and recession which negatively impacted the fair value of our reporting units for the purposes of our periodic testing of goodwill for impairment.
For the fiscal year ended March 31, 2010, domestic revenue, which consists of interest income and non-interest income, was ¥3,605.0 billion, while total foreign revenue was ¥1,607.4 billion, with the United States contributing ¥604.4 billion, Asia and Oceania (excluding Japan) contributing ¥482.6 billion and Europe contributing ¥355.0 billion. As a percentage of total revenue, for the three fiscal years ended March 31, 2010, domestic revenue has been on a declining trend, declining to 69.2%, and Asia and Oceania (excluding Japan) has been on an increasing trend, increasing to 9.3%, while the other geographic regions have fluctuated.
For the fiscal year ended March 31, 2010, domestic net income attributable to Mitsubishi UFJ Financial Group was ¥189.7 billion, while the corresponding total foreign net income was ¥670.1 billion. In particular, Asia and Oceania (excluding Japan) contributed ¥241.4 billion to our net income, more than half of which derived from net interest income from China, whereas Europe and the United States contributed ¥199.1 billion and ¥193.0 billion, respectively, reflecting trading gains and net interest income. In light of these trends, we plan to seek growth opportunities particularly in Asia and the United States.
Our net loans outstanding at March 31, 2010 were ¥90.87 trillion, a decrease of ¥8.28 trillion from ¥99.15 trillion at March 31, 2009. Before unearned income, net unamortized premiums and net deferred loan fees, our loan balance at March 31, 2010 consisted of ¥72.02 trillion of domestic loans and ¥20.27 trillion of foreign loans. As a result of a general decrease in the demand for loans, between March 31, 2009 and March 31, 2010, domestic loans decreased ¥5.28 trillion and foreign loans decreased ¥2.83 trillion. However, the total allowance for credit losses at March 31, 2010 was ¥1,315.6 billion, an increase of ¥159.0 billion from ¥1,156.6 billion at March 31, 2009 as we recorded a provision for credit losses of ¥647.8 billion, whereas we had net charge-offs of ¥468.4 billion. The increase in allowance reflected an increase in borrowers that may become bankrupt as well as an increase in restructured loans and nonaccrual loans throughout the period. As of March 31, 2010, our net loans outstanding accounted for 67.1% of our total deposits.
Investment securities increased ¥17.41 trillion to ¥55.05 trillion at March 31, 2010 from ¥37.64 trillion at March 31, 2009, primarily due to an increase of ¥15.26 trillion in Japanese national government bonds and Japanese government agency bonds and an increase of ¥1.56 trillion in foreign government and official institutions bonds between March 31, 2009 and March 31, 2010, partially offset by a ¥0.41 trillion decrease in corporate bonds. Our investment in Japanese national government and government agency bonds increased as part of our asset and liability management policy with respect to investing the amount of yen-denominated deposited funds exceeding our net loans. As a result, our holdings of Japanese national and government and Japanese government agency bonds as a percentage of our assets increased to relatively high levels as of March 31, 2010, accounting for 75.9% of our investment securities available for sale and being held to maturity, and 20.2% of our total assets. Regarding marketable equity securities, improvements in stock prices of Japanese equity securities resulted in an increase in our marketable equity securities by ¥0.59 trillion between March 31, 2009 and March 31, 2010.
Deferred tax assets decreased ¥0.88 trillion to ¥1.29 trillion at March 31, 2010 from ¥2.17 trillion at March 31, 2009. The decrease primarily reflected an increase in net unrealized gains on investment securities due to a recovery in the fair market value of these securities. A decrease in net operating loss carryforwards, which is attributable to our ability to utilize net operating loss carryforwards against taxable income for the fiscal year ended March 31, 2010, also contributed to the decrease in deferred tax assets.
In recent months, there have been some signs of improvement in the financial markets and general economy. Regarding the Japanese stock market, the closing price of the Nikkei Stock Average, which is an average of 225 blue chip stocks listed on the Tokyo Stock Exchange, increased from ¥8,109.53 at March 31, 2009 to ¥11,089.94 at March 31, 2010, and has been fluctuating between the ¥9,000 and ¥11,500 range since March 31, 2010. The current signs of improvement in the financial markets and overall economy, both in Japan and globally, may be temporary. Economic conditions may not improve as quickly or steadily as we anticipate, or there may be another economic downturn, in Japan or globally. Many of the negative trends in financial markets in Japan and globally may continue in the near future. The strong Japanese yen may affect our export-oriented borrowers and the value of our foreign assets as the Japanese yen appreciated against other currencies, fluctuating around ¥90 to US$1 in the last six months. As of August 6, 2010, the Japanese yen stood at ¥85.25 to US$1, an appreciation of ¥13.06 as compared to ¥98.31 as of March 31, 2009. As a result of such trends, we may suffer additional credit costs resulting mainly from deteriorating business conditions for our borrowers, and our fee income relating to investment products in retail business and derivative transactions in our corporate banking business and our trading income may decrease. The Bank of Japan has been maintaining a very low policy rate (uncollateralized overnight call rate) of 0.10% as part of its monetary easing policy. Interest rates in other major global financial markets, including the United States and the European Union, have remained at historic low levels in recent years. In addition, the current interest rate environment may continue in the near future, impacting our net interest income. However, an unanticipated interest rate movement may significantly affect the value of our debt securities portfolio. See Item 3.D. Risk Factors and Business Environment.
During the fiscal year ended March 31, 2010, we strengthened our alliances with other global financial institutions, including Morgan Stanley, and pursued a capital raising transaction to better respond to the rapidly changing regulatory and competitive environment and to contribute to the real economy, both domestically and globally, as a provider of a stable source of funds and high quality financial services.
Securities Joint Ventures with Morgan Stanley
As part of our strategic alliance with Morgan Stanley, in May 2010, we and Morgan Stanley integrated our respective Japanese securities companies by forming two joint venture companies. We converted the wholesale and retail securities businesses conducted in Japan by MUS into one of the joint venture entities called Mitsubishi UFJ Morgan Stanley Securities, Co., Ltd., or MUMSS. We also paid ¥26 billion in cash to Morgan Stanley at closing of the transaction (subject to certain post-closing cash adjustments). Morgan Stanley contributed the investment banking operations conducted in Japan by its formerly wholly-owned subsidiary, Morgan Stanley Japan Securities Co., Ltd., or Morgan Stanley Japan, to MUMSS, and converted the sales and trading and capital markets businesses conducted in Japan by Morgan Stanley Japan into a second joint venture entity called Morgan Stanley MUFG Securities, Co., Ltd., or MSMS. We hold a 60% economic interest in each of the joint venture companies and Morgan Stanley holds a 40% economic interest in each of the joint venture companies. We hold a 60% voting interest and Morgan Stanley holds a 40% voting interest in MUMSS, and we hold a 49% voting interest and Morgan Stanley holds a 51% voting interest in MSMS. Our and Morgan Stanleys economic and voting interests in the joint venture companies are held through a combination of intermediate holding companies and a partnership.
We created a wholly owned intermediate holding company called Mitsubishi UFJ Securities Holdings Co., Ltd., or MUSHD, which directly holds a 60% voting interest in MUMSS. Morgan Stanley created a wholly owned intermediate holding company called Morgan Stanley Japan Holdings Co., Ltd., or MSJHD, which directly holds a 51% voting interest in MSMS. The remaining voting shares in MUMSS and MSMS were contributed to a partnership created under the Civil Code of Japan called MM Partnership, in which MUSHD holds a 60% ownership interest and MSJHD holds a 40% ownership interest. Through this ownership structure of MM Partnership, MUSHD holds a 60% economic interest, and MSJHD holds a 40% economic interest, in each of MUMSS and MSMS. In addition, pursuant to the partnership agreement between us and Morgan Stanley,
MUSHD effectively holds a 49% voting interest in MSMS, and MSJHD effectively holds a 40% voting interest in MUMSS. MUMSS became our consolidated subsidiary, and MSMS became a consolidated subsidiary of Morgan Stanley.
Completion of Global Offering of Common Stock
In December 2009, we completed the sale of 2,337,000,000 shares of common stock in a public offering in Japan as well as private placements in other countries, including the United States, and the sale of 163,000,000 additional shares of common stock through a third-party allotment pursuant to the over-allotment option granted in connection with the Japanese offering. Immediately following the offering, we had 14,148,414,920 shares of common stock issued. The proceeds from the sale of these shares after underwriting discounts and commissions were ¥412.53 per share.
The total net proceeds from the offering after underwriting discounts and commissions and offering expenses were approximately ¥1.03 trillion. The total net proceeds from the offering after underwriting discounts and commissions and offering expenses were used to make an equity investment in BTMU to strengthen our overall group capital base. BTMU applied the funds for general corporate purposes.
Strategic Business and Capital Alliance between MUTB and Aberdeen
As part of our capital alliance with Aberdeen Asset Management PLC, or Aberdeen, in November 2009, a corporate officer of MUTB became a non-executive director of Aberdeen. MUTB held a 17.01% equity interest in Aberdeen as of March 31, 2010. MUTB and Aberdeen plan to continue to work towards further strengthening their strategic alliance by collaborating in marketing and product development.
Agreement on Integration between Bank of Ikeda and Senshu Bank
In October 2009, The Senshu Bank, Ltd., a regional bank subsidiary of BTMU headquartered in Osaka, and The Bank of Ikeda Ltd., another regional bank headquartered in Osaka, integrated their businesses by creating a holding company, which became our equity method affiliate. As a leading independent financial group in the Osaka region, the new integrated company seeks not only to contribute to the development of the regional society and economy but also to improve its enterprise value. In order to respect the business independence of the new financial group consisting of Bank of Ikeda, Senshu Bank and the new holding company, BTMU plans to divest a part of its common stock in the new holding company and intends to exclude the new holding company from being our equity method affiliate by September 30, 2014 at the latest. However, BTMU also intends to continuously and appropriately support the formation and development of the new financial group and, for that purpose, Nobuo Kuroyanagi, the Chairman of BTMU, has served as an outside director to the new holding company since its incorporation.
Redemption of Preferred Securities Issued by Special Purpose Company
In January 2010, we redeemed a total of ¥5 billion of non-cumulative and non-dilutive perpetual preferred securities issued by an overseas special purpose company in the Cayman Islands called UFJ Capital Finance 4 Limited. These preferred securities were reflected as part of our Tier I capital before redemption.
Acquisition and Cancellation of First Series of Class 3 Preferred Stock
In April 2010, we acquired and cancelled all of the outstanding shares of our First Series of Class 3 Preferred Stock at ¥2,500 per share for an aggregate purchase price of ¥250 billion. The preferred stock was reflected as part of our Tier 1 capital before acquisition and cancellation.
Agreements with the FDIC to Acquire Assets and Assume Liabilities of Failing Community Banks
In April 2010, Union Bank, our indirect wholly owned subsidiary in the United States, entered into a Purchase and Assumption Agreement with the FDIC as receiver of Frontier Bank of Everett, Washington to purchase certain assets and assume certain deposit and other liabilities of Frontier Bank. Of the approximately $3.2 billion in total assets acquired, Union Bank acquired approximately $2.8 billion in loans and other real estate owned which are covered under a loss share agreement with the FDIC. Union Bank also assumed approximately $2.5 billion in deposits.
Also in April 2010, Union Bank entered into a Purchase and Assumption Agreement with the FDIC as receiver of Tamalpais Bank of San Rafael, California to purchase certain assets and assume certain deposits and other liabilities of Tamalpais Bank. Of the approximately $0.6 billion in total assets acquired, Union Bank acquired approximately $0.5 billion in loans and other real estate owned which are covered under a loss share agreement with the FDIC. Union Bank also assumed more than $0.4 billion in deposits.
We engage, through our subsidiaries and affiliated companies, in a broad range of financial businesses and services, including commercial banking, investment banking, trust banking and asset management services, securities businesses and credit card businesses, and provide related services to individuals primarily in Japan and the United States and to corporate customers around the world. Our results of operations and financial condition are exposed to changes in various external economic factors, including:
general economic conditions;
currency exchange rates; and
stock and real estate prices.
See Item 3.D. Risk Factors.
Economic Environment in Japan
Japans economy continues to show signs of recovery with increasing exports, especially to Asia, and with governmental economic stimulus measures continuing to produce positive effects. Japans real GDP grew at an annualized 5.0% quarter on quarter for the January-March 2010 period, marking the fourth straight quarter of positive growth, with net exports (exports minus imports) contributing 2.7 percentage points and domestic private demand, including consumption and capital expenditures, contributing 2.1 percentage points. Japans annualized GDP growth rate over the past four quarters averaged 4.2% quarter on quarter, exceeding the potential growth rate of 0.5% to 0.8%. The unemployment rate and capacity utilization rates for plants began to show signs of improvement. However, the Japanese economy is still merely recovering from the historic global recession that began in the latter half of 2008, and domestic demand, capital expenditure and employment has only started to improve gradually to a self-sustaining recovery. In addition, the recent GDP growth in Japan reflects the positive impact of one-time factors such as the recent increase in demand for home appliances due in part to the governments economic stimulus measures. Moreover, the current positive trends in the overall Japanese economy may slow down or discontinue if economic conditions in other regions or globally deteriorate. For example, the Greek fiscal crisis, and the fear of another global economic downturn caused by such crisis, may have an adverse impact on not only the European Union, or EU financial markets but also financial markets in other countries and regions, including Japan.
The Bank of Japan has maintained a very low policy rate (uncollateralized overnight call rate) of 0.10% in an effort to lift the economy out of deflation since December 2008, while increasingly supplying funds through its expanded new operations introduced at the end of the fiscal year ended March 31, 2009. Short-term interest rates continued to decline throughout the fiscal year ended March 31, 2010 because of the Bank of Japans so-called monetary easing policy. Euro-yen 3-month TIBOR fell to approximately 0.38% as of July 1, 2010, the lowest level since 2006. Long-term interest rates have also been on a downward trend, as global risk aversion triggered by the Greek fiscal crisis and tightened fiscal regulations in Europe and in the United States resulted in lower benchmark government bond yields as investors preferred safer assets such as sovereign debt. The yield on newly-issued ten-year Japanese government bonds fell to around 1.05% as of early August 2010. The following chart shows the interest rate trends in Japan since April 2008:
Regarding the Japanese stock market, the closing price of the Nikkei Stock Average, which is an average of 225 blue chip stocks listed on the Tokyo Stock Exchange, increased from ¥8,109.53 at March 31, 2009 to ¥11,089.94 at March 31, 2010, showing a rebound from the global financial crisis starting in the early part of calendar year 2009. The closing price of the Tokyo Stock Price Index, or TOPIX, a composite index of all stocks listed on the First Section of the Tokyo Stock Exchange, also increased from 773.66 at March 31, 2009 to 978.81 at March 31, 2010. The Nikkei Stock Average has been fluctuating between the ¥9,000 and ¥11,500 range, and has not yet recovered to the pre-Lehman shock level of ¥12,000 or higher. Improvements in the Japanese corporate sectors profitability, signs of recovery from the global financial crisis and the Bank of Japans policy of increasing monetary supply, contributed to the upward stock price movement. However, investor sentiment remains cautious due in part to concerns surrounding the sovereign debt crises in several European countries, uncertainty regarding the Japanese political leadership and the appreciation of the Japanese yen against other currencies that may reduce the profitability of export-oriented companies in Japan. As of August 9, 2010, the closing price of the Nikkei Stock Average was ¥9,572.49 and that of the TOPIX was 857.62. The following chart shows the daily closing price of the Nikkei Stock Average since April 2008.
The Japanese yen has appreciated against other currencies, somewhat fluctuating around ¥90 to US$1 in the last six months. As of August 6, 2010, the Japanese yen stood at ¥85.25 to US$1, an appreciation of ¥13.06 as compared to ¥98.31 as of March 31, 2009. The strong Japanese yen appears to reflect rising risk aversion and lower interest rates abroad, which led to lower capital outflow from Japan. The Japanese yen has also appreciated against the Euro increasingly since April 2010, reflecting the sovereign debt crises and the subsequent tightening of monetary policies in Europe. The Japanese yen stood at ¥113.83 to 1 as of August 9, 2010 as compared to ¥130.52 to 1 as of March 31, 2009. The following chart shows the foreign exchange rates expressed in Japanese yen per US dollar since April 2008:
In calendar year 2009, the average prices for both residential and commercial real estate experienced significant declines for the second consecutive year. According to a survey conducted by the Japanese government, the average residential land price declined by 4.2% between January 1, 2009 and January 1, 2010. The average commercial land price declined by 6.1% during the same period. In the three major metropolitan areas of Tokyo, Osaka and Nagoya, the average residential land price declined by 4.5% between January 1, 2009 and January 1, 2010, while the average commercial land price declined by 7.1% during the same period. In the local regions other than the major metropolitan areas in Japan, the average residential and commercial land prices continued to decline for the sixth consecutive year with the rates of decline between January 1, 2009 and January 1, 2010, being 3.8% and 5.3%, respectively.
According to Teikoku Databank, a Japanese research institution, the number of companies that filed for legal bankruptcy in Japan from April 2009 to March 2010 was approximately 12,900, a decrease by 2.8% from the previous fiscal year, reflecting a moderate recovery of the Japanese economy since the second quarter of the fiscal year ended March 31, 2010. The decrease in the number of companies that filed for legal bankruptcy was mainly due to the positive effects of the Japanese governments economic stimulus measures and policies to increase public construction work by commencing projects earlier than originally scheduled, which generated revenues for many construction companies. The aggregate amount of liabilities subject to bankruptcy filings between April 2009 and March 2010 was approximately ¥7.0 trillion, including ¥2,322 billion attributable to the corporate reorganization filings by Japan Airlines group companies in January 2010. The aggregate amount of liabilities subject to bankruptcy filings decreased approximately 48.6% compared to the same period of the previous year, reflecting the decrease in the number of legal bankruptcy filings, particularly in the number of large-scale bankruptcies in the construction and real estate industries.
International Financial Markets
With respect to the international financial and economic environment, the US economy recently began to recover with the annualized real GDP growth rate averaging 3.9% in the second half of calendar year 2009. Our research division forecasts that the real GDP growth rate will continue to expand at around 3.1% throughout calendar year 2010. According to the US Bureau of Labor Statistics, the unemployment rate decreased from its cyclical high at 10.1% in October 2009 to 9.5% in June 2010. Reflecting the continued yet weak recovery of the US economy, inflationary pressure has been limited thus far. In March 2010, the core CPI (consumer inflation less food and energy) inflation rate on a year-on-year basis decreased to 1.1%, the slowest rate since and roughly matching November 2003, which is on the lowest end of the Federal Reserves central tendency range of 1.1% to 1.7% for the entire calendar year 2010. Although household disposable income has been increasing due to the effects of economic stimulus measures and tax reductions by the US government, consumer sentiment remains weak in part because of the high unemployment rates. In the corporate sector, production continues on an upward trend due to improved inventory cycles and increasing exports and capital investments.
In the EU, the signs of recovery from the global recession have been weaker and, according to our research division, the real GDP is expected to grow at 0.6% throughout calendar year 2010. The industrial production growth rate year over year since April 2009 has been 9.5%, with lower growth rates of 1.5% and 0.8% in March and in April 2010, respectively, reflecting concerns over the Greek fiscal crisis. Retail sales in April 2010 declined by 1.5% year over year, which reflected a decrease in the consumer confidence index of 15.0 points. The unemployment rate in April 2010 was 10.1%, up by 0.1% from March 2010. While the unemployment rate is on a moderate declining trend in Germany, in many other EU member states, the unemployment rates remain high, stemming household consumption. With regard to consumer prices, the preliminary inflation rate in May 2010 was 1.6% year over year, which was lower than the European Central Banks inflationary target of 2.0%. Inflationary pressure from higher oil prices appears to have so far been contained by weak domestic demand.
In the United States, the target for the federal funds rate has been maintained at a range of zero to 0.25%. As of August 6, 2010, the rate was 0.18%. The European Central Banks interest rate policy has been established at 1.0%, which is the lowest level in the EUs history.
Our consolidated financial statements included elsewhere in this Annual Report are prepared in accordance with US GAAP. Many of the accounting policies require management to make difficult, complex or subjective judgments regarding the valuation of assets and liabilities. The accounting policies are fundamental to understanding our operating and financial review and prospects. The notes to our consolidated financial statements included elsewhere in this Annual Report provide a summary of our significant accounting policies. The following is a summary of the critical accounting estimates:
Allowance for Credit Losses
The allowance for credit losses represents managements estimate of probable losses in our loan portfolio. The evaluation process, including credit-ratings and self-assessments, involves a number of estimates and judgments. The allowance is based on two principles of accounting guidance: (1) the guidance on contingencies requires that losses be accrued when they are probable of occurring and can be estimated, and (2) the guidance on accounting by creditors for impairment of a loan requires that losses be accrued based on the difference between the loan balance, on the one hand, and the present value of expected future cash flows discounted at the loans effective interest rate and the fair value of collateral or the loans observable market value, on the other hand.
Our allowance for credit losses consists of an allocated allowance and an unallocated allowance. The allocated allowance comprises (a) the allowance for specifically identified problem loans, (b) the allowance for large groups of smaller balance homogeneous loans, (c) the allowance for loans exposed to specific country risk and (d) the formula allowance. Both the allowance for loans exposed to specific country risk and the formula
allowance are provided for performing loans that are not subject to either the allowance for specifically identified problem loans or the allowance for large groups of smaller balance homogeneous loans. The allowance for loans exposed to specific country risk covers transfer risk which is not specifically covered by other types of allowance. Each of these components is determined based upon estimates that can and do change when actual events occur.
The allowance for specifically identified problem loans, which represent large-balance, non-homogeneous loans that have been individually determined to be impaired, is calculated by using various techniques to arrive at an estimate of loss. Historical loss information, the present value of expected future cash flows, fair value of collateral and secondary market information are all used to estimate those losses.
Large groups of smaller balance homogeneous loans are collectively evaluated for impairment, and the allowance for such loans is established through a process that begins with estimates of probable losses inherent in the portfolio. These estimates are based upon various analyses, including historical delinquency and credit loss experience.
The allowance for loans exposed to specific country risk is based on an estimate of probable losses relating to our exposure to countries that we identify as having a high degree of transfer risk. We use a country risk grading system that assigns risk ratings to individual countries. To determine the risk rating, we consider the instability of foreign currency and difficulties regarding our borrowers ability to service their debt.
The formula allowance uses a model based on historical losses as an indicator of future probable losses. However, the use of historical losses is inherently uncertain and as a result could differ from losses incurred in the future. However, since this history is updated with the most recent loss information, the differences that might otherwise occur are mitigated.
Our actual losses could be more or less than the estimates. The unallocated allowance captures losses that are attributable to various economic events, industry or geographic sectors whose impact on the portfolio have occurred but have yet to be recognized in the allocated allowance. For further information regarding our allowance for credit losses, see B. Liquidity and Capital ResourcesFinancial ConditionAllowance for Credit Losses, Nonperforming and Past Due Loans.
In addition to the allowance for credit losses on our loan portfolio, we maintain an allowance for credit losses on off-balance-sheet credit instruments, including commitments to extend credit, a variety of guarantees and standby letters of credit and other financial instruments. Such allowance is included in other liabilities. With regard to the allocated allowance for specifically identified credit exposure and the allocated formula allowance, we apply the same methodologies that we use in determining the allowance for loan credit losses.
Determining the adequacy of the allowance for credit losses requires the exercise of considerable judgment and the use of estimates, such as those discussed above. To the extent that actual losses differ from managements estimates, additional provisions for credit losses may be required that would adversely impact our operating results and financial condition in future periods.
Impairment of Investment Securities
US GAAP requires the recognition in earnings of an impairment loss on investment securities for a decline in fair value that is other than temporary. Determination of whether a decline is other than temporary often involves estimating the outcome of future events. Management judgment is required in determining whether factors exist that indicate that an impairment loss has been incurred at the balance sheet date. These judgments are based on subjective as well as objective factors. We conduct a review semi-annually to identify and evaluate investment securities that have indications of possible impairment. The assessment of other than temporary impairment requires judgment and therefore can have an impact on the results of operations. Impairment is evaluated considering various factors, and their significance varies from case to case.
Debt and marketable equity securities. In determining whether a decline in fair value below cost is other than temporary for a particular equity security, we generally consider factors such as the ability and positive intent to hold the investments for a period of time sufficient to allow for any anticipated recovery in fair value. In addition, indicators of an other than temporary decline for marketable equity securities include, but are not limited to, the extent of decline in fair value below cost and the length of time that the decline in fair value below cost has continued. If a decline in fair value below cost is 20% or more or has continued for six months or more, we generally deem such decline as an indicator of an other than temporary decline. We also consider the current financial condition and near-term prospects of issuers primarily based on the credit standing of the issuers as determined by our credit rating system.
For debt securities, other than temporary impairment is recognized in earnings if we have an intent to sell the debt security or if it is more likely than not we will be required to sell the debt security before recovery of its amortized cost basis. When we do not intend to sell the debt security and if it is more likely than not that we will not be required to sell the debt security before recovery of its amortized cost basis, the credit component of an other than temporary impairment of a debt security is recognized in earnings, but the noncredit component is recognized in accumulated other changes in equity from nonowner sources.
Certain securities held by BTMU, MUTB and certain other subsidiaries, which primarily consist of debt securities issued by the Japanese national government and generally considered to be of minimal credit risk, are determined not to be impaired as the respective subsidiaries do not have intention to sell the securities, or those subsidiaries are not more likely than not required to sell before recovery of their amortized cost basis.
The determination of other than temporary impairment for certain debt securities held by UNBC, our US subsidiary, which primarily consist of residential mortgage backed securities and certain asset-backed securities, are made on the basis of a cash flow analysis and monitoring of performance of such securities, as well as whether UNBC intends to sell, or is more likely than not required to sell, the securities before recovery of their amortized cost basis.
Nonmarketable equity securities. Nonmarketable equity securities are equity securities of companies that are not publicly traded or are thinly traded. Such securities are primarily held at cost less other than temporary impairment if applicable. For the securities carried at cost, we consider factors such as the credit standing of issuers and the extent of decline in net assets of issuers to determine whether the decline is other than temporary. When we determine that the decline is other than temporary, nonmarketable equity securities are written down to the estimated fair value, determined based on such factors as the ratio of our investment in the issuer to the issuers net assets and the latest transaction price if applicable. When the decline is other than temporary, certain nonmarketable equity securities issued by public companies, such as preferred stock convertible to marketable common stock in the future, are written down to fair value estimated by commonly accepted valuation models, such as option pricing models based on a number of factors, including the quoted market price of the underlying marketable common stock, volatility and dividend payments as appropriate.
The markets for equity securities and debt securities are inherently volatile, and the values of both types of securities have fluctuated significantly in recent years. Accordingly, our assessment of potential impairment involves risks and uncertainties depending on market conditions that are global or regional in nature and the condition of specific issuers or industries, as well as managements subjective assessment of the estimated future performance of investments. If we later conclude that a decline is other than temporary, the impairment loss may significantly affect our operating results and financial condition in future periods.
For further information on the amount of the impairment losses and the aggregate amount of unrealized gross losses on investment securities, see Note 4 to our consolidated financial statements included elsewhere in this Annual Report.
Valuation of deferred tax assets. A valuation allowance for deferred tax assets is recognized if, based on the weight of available evidence, it is more likely than not that some portion or all of the deferred tax assets will not be realized. All available evidence, both positive and negative, is considered to determine whether, based on the weight of that evidence, a valuation allowance is needed. Future realization of the tax benefit of existing deductible temporary differences or carryforwards ultimately depends on the existence of sufficient taxable income in future periods.
In determining a valuation allowance, we perform a review of future taxable income (exclusive of reversing temporary differences and carryforwards) and future reversals of existing taxable temporary differences. Future taxable income is developed from forecasted operating results, based on recent historical trends and approved business plans, the eligible carryforward periods and other relevant factors. For certain subsidiaries where strong negative evidence exists, such as the existence of significant amounts of operating loss carryforwards, cumulative losses and the expiration of unused operating loss carryforwards in recent years, a valuation allowance is recognized against the deferred tax assets to the extent that it is more likely than not that they will not be realized.
Among other factors, forecasted operating results, which serve as the basis of our estimation of future taxable income, have a significant effect on the amount of the valuation allowance. In developing forecasted operating results, we assume that our operating performance is stable for certain entities where strong positive evidence exists, including core earnings based on past performance over a certain period of time. The actual results may be adversely affected by unexpected or sudden changes in interest rates as well as an increase in credit-related expenses due to the deterioration of economic conditions in Japan and material declines in the Japanese stock market to the extent that such impacts exceed our original forecast. In addition, near-term taxable income is also influential on the amount of the expiration of unused operating loss carryforwards since the Japanese corporate tax law permits operating losses to be deducted for a predetermined period generally no longer than seven years. For further information on the amount of operating loss carryforwards and the expiration dates, see Note 9 to our consolidated financial statements included elsewhere in this Annual Report.
Because the establishment of the valuation allowance is an inherently uncertain process involving estimates as discussed above, the currently established allowance may not be sufficient. If the estimated allowance is not sufficient, we will incur additional deferred tax expenses, which could materially affect our operating results and financial condition in future periods.
Tax reserves. We provide reserves for unrecognized tax benefits as required under guidance on accounting for uncertainty in income taxes. In applying the guidance, we consider the relative risks and merits of positions taken in tax returns filed and to be filed, considering statutory, judicial, and regulatory guidance applicable to those positions. The guidance requires us to make assumptions and judgments about potential outcomes that lie outside managements control. To the extent the tax authorities disagree with our conclusions, and depending on the final resolution of those disagreements, our effective tax rate may be materially affected in the period of final settlement with tax authorities.
Accounting for Goodwill and Intangible Assets
US GAAP requires us to test goodwill for impairment at least annually, or more frequently if events or changes in circumstances indicate that goodwill may be impaired, using a two-step process that begins with an estimation of the fair value of a reporting unit of our business, which is to be compared with the carrying amount of the unit, to identify potential impairment of goodwill. A reporting unit is an operating segment or component of an operating segment that constitutes a business for which discrete financial information is available and is regularly reviewed by management. The fair value of a reporting unit is defined as the amount at which the unit as a whole could be bought or sold in a current transaction between willing parties. For a reporting unit for which an observable quoted market price is not available, the fair value is determined using an income approach. In the
income approach, the present value of expected future cash flows is calculated by taking the net present value based on each reporting units internal forecasts. The discount rate reflects current market capitalization. A control premium factor is also considered in relation to market capitalization.
If the carrying amount of a reporting unit exceeds its estimated fair value, the second step of the goodwill impairment test is performed to measure the amount of impairment loss recorded in our consolidated statements of operations. This test requires comparison of the implied fair value of the units goodwill with the carrying amount of that goodwill. The estimate of the implied fair value of the reporting units goodwill requires us to allocate the fair value of a reporting unit to all of the assets and liabilities of that reporting unit, including unrecognized intangible assets, if any, since the implied fair value is determined as the excess of the fair value of a reporting unit over the net amounts assigned to its assets and liabilities in the allocation. Accordingly, the second step of the impairment test also requires an estimate of the fair value of individual assets and liabilities, including any unrecognized intangible assets that belong to that unit. A change in the estimation could have an impact on impairment recognition since it is driven by hypothetical assumptions, such as customer behavior and interest rate forecasts. The estimation is based on information available to management at the time the estimation is made.
Intangible assets are amortized over their estimated useful lives unless they have indefinite useful lives. Amortization for intangible assets is computed in a manner that best reflects the economic benefits of the intangible assets. Intangible assets having indefinite useful lives are subject to annual impairment tests. An impairment exists if the carrying value of an indefinite-lived asset exceeds its fair value. For other intangible assets subject to amortization, an impairment is recognized if the carrying amount exceeds the fair value of the intangible asset.
Accrued Severance Indemnities and Pension Liabilities
We have defined retirement benefit plans, including lump-sum severance indemnities and pension plans, which cover substantially all of our employees. Severance indemnities and pension costs are calculated based upon a number of actuarial assumptions, including discount rates, expected long-term rates of return on our plan assets and rates of increase in future compensation levels. In accordance with US GAAP, actual results that differ from the assumptions are accumulated and amortized over future periods, and affect our recognized net periodic pension costs and accrued severance indemnities and pension obligations in future periods. Differences in actual experience or changes in assumptions may affect our financial condition and operating results in future periods.
The discount rates for the domestic plans are set to reflect the interest rates of high-quality fixed-rate instruments with maturities that correspond to the timing of future benefit payments.
In developing our assumptions for expected long-term rates of return, we refer to the historical average returns earned by the plan assets and the rates of return expected to be available for reinvestment of existing plan assets, which reflect recent changes in trends and economic conditions, including market prices. We also evaluate input from our actuaries, as well as their reviews of asset class return expectations.
Valuation of Financial Instruments
We measure certain financial assets and liabilities at fair value. The majority of such assets and liabilities are measured at fair value on a recurring basis, including trading securities, trading derivatives and investment securities. In addition, certain other assets and liabilities are measured at fair value on a non-recurring basis, including held for sale loans which are carried at the lower of cost or fair value, collateral dependent loans and nonmarketable equity securities subject to impairment.
We have elected the fair value option for certain foreign securities classified as available for sale, whose unrealized gains and losses are reported in income.
The guidance on the measurement of fair values defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. We have an established and documented process for determining fair value in accordance with the guidance. To determine fair value, we use quoted market prices which include those provided from pricing vendors, where available. We generally obtain one price or quote per instrument and do not adjust it to determine fair value of the instrument. Certain asset-backed securities are valued based on non-binding quotes provided by independent broker-dealers where no or few observable inputs are available to measure fair value. We do not adjust such broker-dealer quotes to the extent that there is no evidence that would indicate that the quotes are not indicative of the fair values of the securities. We perform internal price verification procedures to ensure that the quotes provided from the independent broker-dealers are reasonable. Such verification procedures include analytical review of periodic price changes, comparison analysis between periodic price changes and changes of indices such as a credit default swap index, or inquiries of underlying inputs and assumptions used by the broker-dealers such as probability of default, prepayment rate and discount margin. These verification procedures are periodically performed by independent risk management departments. For collateralized loan obligations (CLOs) backed by general corporate loans, the fair value is determined by weighting the internal model valuation and the non-binding broker-dealer quotes. If quoted market prices are not available to determine fair value of derivatives, the fair value is based upon valuation techniques that use, where possible, current market-based or independently sourced parameters, such as interest rates, yield curves, foreign exchange rates, volatilities and credit curves. The fair values of trading liabilities are determined by discounting future cash flows at a rate which incorporates our own creditworthiness. In addition, valuation adjustments may be made to ensure that the financial instruments are recorded at fair value. These adjustments include, but are not limited to, amounts that reflect counterparty credit quality, liquidity risk, and model risk. Our financial models are validated and periodically reviewed by risk management departments independent of divisions that created the models.
For a further discussion of the valuation techniques or models applied to the material assets or liabilities, see Fair Value in Note 31 to our consolidated financial statements included elsewhere in this Annual Report.
Change in Valuation Method
We observed that the market for CLOs backed by general corporate loans became significantly inactive compared with normal market activity due to the reduction in liquidity of certain debt securities resulting from the global financial market instability in the second half of the fiscal year ended March 31, 2009. Under such circumstances, we concluded that the unadjusted non-binding quotes from broker-dealers became less reflective of the fair value as defined in guidance on the measurement of fair values with respect to CLOs backed by general corporate loans. Consequently, we changed the valuation method for estimating the fair value of such CLOs from the method adopting unadjusted quotes from independent broker-dealers to an estimation method by weighting the internal model prices and the non-binding broker-dealer quotes during the second half of the fiscal year ended March 31, 2009.
Fair Value Hierarchy
The guidance on the measurement of fair values establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels. The fair value hierarchy gives the highest priority to quoted prices in active markets and the lowest priority to unobservable data, for example, the reporting entitys own data. Based on the observability of the inputs used in the valuation techniques, the following three-level hierarchy is established by the guidance:
Level 1Unadjusted quoted prices for identical instruments in active markets.
Level 2Observable inputs other than Level 1 prices, such as quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the instruments.
Level 3Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the instruments.
A financial instruments categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement of the financial instrument. We review and update the fair value hierarchy on a half year basis. For the categorization within the valuation hierarchy by the financial instruments, see Fair Value in Note 31 to our consolidated financial statements included elsewhere in this Annual Report.
The following table summarizes the assets and liabilities accounted for at fair value on a recurring basis by level under the fair value hierarchy at March 31, 2009 and 2010:
|March 31, 2009||March 31, 2010|
|Fair Value||Percentage of Total||Fair Value||Percentage of Total|
|(in billions)||(in billions)|