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Merrill Lynch Annual Report 2007
Merrill Lynch Annual Report 2007
Where We Stand
For the financial services industry, including Merrill Lynch,
2007 was a sobering year. The good news is that most of our
businesses continue to perform at record levels and we have
moved quickly to strengthen our balance sheet, capital position
and risk management.
Most importantly, we never lost sight of where we stand or
who we are. We remain squarely by the side of our clients as
an essential partner, navigating a dynamic global economy
and creating value across asset classes and geographies.
Front cover (left to right): Dianne Greene, José Tavarez, Stanley Heilbronn, Savita Subramanian, Thanh Hong, Lyle LaMothe, Terri Ludwig, Lisa Clyde,
Erick Bronner; Back cover (left to right), bottom row: Linda Esposito, David Stith, Todd Sears, Patricia Lee; middle row: Ninon Marapachi,
Vilas Mhatre, Maria Minardo, Ryan McDay, Gabriela Velasquez de Orner, Andrew Scott; top row: Marlene Debel, Mark Pollard, Isabelle O’Hara,
Jennifer Choi, Harold Razón, Deann Dubey, Corey Baylor, Dorothy Hurley, Erin F. Donnelly, David Ratcliffe, Taquana Bailey, Marge Benson
To our shareholders: When Charlie Merrill pioneered the investment business that defined
his life’s work, he set forth principles that guided this firm and established the standards for investing
throughout America and the world. For nearly a century, the dedication of Merrill Lynch to the principles
of client service, integrity, excellence and teamwork built a company whose culture and leadership
stood strongly and resolutely through years of prosperity and adversity. I am honored to be the CEO
of this great global franchise. I am excited by the challenge to serve our clients and lead our company
forward through these turbulent times.
In my first letter to you, our shareholders, I would like to address three topics, starting with our results
in 2007 and my priorities during my early months. Then I will review the performance of each of our
businesses. I will close by looking ahead at goals and opportunities for our clients and our company.
While U.S. economic prospects are uncertain, we anticipate growth in our businesses in 2008, at home
and across the world.
2007 RESULTS
Let me begin with 2007. While many of our businesses produced
excellent, some even record-breaking results, we suffered the
worst performance in the history of Merrill Lynch. We reported a net
loss from continuing operations for the full year of $8.6 billion, or
$10.73 per fully diluted share, following write-downs resulting from
our exposures to the U.S. mortgage market in U.S. ABS CDOs and
sub-prime residential mortgages and securities.
First, anticipating the possibility of a liquidity squeeze at year end, we reduced the size of our balance
sheet and freed up additional liquidity and more than $2 billion of capital through the sale of non-core
assets. We ended the year with the holding company’s excess liquidity of nearly $80 billion.
Our second priority was to bolster our capital base. We raised $12.8 billion, which exceeded what we lost,
and we could have raised substantially more. I am happy to report that the rating agencies affirmed our
credit ratings, and we are well capitalized. We can now set our sights on growing our businesses and
leveraging global opportunities. Let me also note that our new shareholders represent a diverse group of
long-term, passive, strategic investors who can help us in key markets.
Our third priority is to strengthen our management and organizational structure. We want the best
people leading Merrill Lynch and we want to create a flatter, more horizontal structure to strengthen
accountability, performance and teamwork. Toward that end, I have increased the number of my direct
reports and ensured that experienced veterans are filling key leadership roles. I have also bolstered
our risk management process to include a committee of senior executives, combining credit and risk
management functions, which now reports directly to me every week. Risk-taking is intrinsic to the
page 1
A record performance We enter 2008 with a strong
in Global Wealth Management, capital position and nearly
Mergers & Acquisitions, Equities, $80 billion of excess liquidity on our
and Rates and Currencies. balance sheet.
mission and success of Merrill Lynch, and we will strive to assure that it is appropriately sized to each
business. Prudence in trading goes hand-in-hand with management of our balance sheet, including
reducing illiquid assets.
Finally, we want to break down any silos and to build up teamwork, cross-selling and a one-firm mindset
across the company. As a first step, we are changing our compensation philosophy. Just as we put our
clients’ interests first in our businesses, we want to put the firm’s collective financial results first when it
comes to determining compensation. Teamwork is a core value of Merrill Lynch and will be an essential
element as we serve our clients in today’s volatile markets. We want to leverage to the fullest the talent,
innovation and resources across our franchise.
Global Wealth Management is the face of our franchise in communities across America and the world.
We consider our relationships with our clients our most valued resource. During 2007, GWM reported
revenue growth of 18%, pretax earnings growth of 59%, and record assets of $1.75 trillion. GWM also
generated $30 billion in net new money in the fourth quarter of 2007, the biggest increase since 2000, an
inspiring performance in very challenging markets.
Global Markets & Investment Banking results suffered as a result of our exposure to U.S. ABS CDOs
and sub-prime mortgages and securities; however we did see revenue growth in certain key businesses
including a record year from both Equity Markets and Investment Banking (IBK). IBK growth was
balanced, coming from both Advisory and Equity Origination. We placed in the top five league table
rankings globally and are well-positioned with a balanced and growing presence in Europe, the Pacific
Rim and emerging markets. Our goal is to rise into the top three in league table rankings globally in 2008.
Our Equity Markets business also had a record year, with revenue growth of 23%. Equity Markets is a
strong business with a balanced mix between our cash and derivative businesses. We are driving robust
growth in equities globally, in the U.S., EMEA and the Pacific Rim.
Finally, in Fixed Income, Currencies and Commodities (FICC), strong revenues in global rates and global
currencies were more than offset by negative revenues from U.S. ABS CDOs and sub-prime mortgages
and securities. Within FICC, a number of individual businesses generated record revenues, including our
interest rate and currencies businesses, which we expect to remain robust in 2008. Our presence in the
U.S. and internationally is strong in interest rates, currencies and commodities.
Our Global Research group continues to create profitable investment ideas for clients, and, among other
awards, was named by The Wall Street Journal as “Best on the Street” for stock picking. The group is well
positioned to identify global growth opportunities, while maintaining a leading U.S. presence.
In closing, I want to express my gratitude to our shareholders and clients for your trust. I am confident
that your loyalty will be rewarded. We have faced adversity, tackled tough decisions and moved the
company to a position of renewed strength. My pledge to our clients is to do our utmost, every day, to
provide you the best of Merrill Lynch. My goal for our shareholders is to transform Merrill Lynch into the
premier financial services franchise in the world. My message to our people is, let’s get started.
Thank you,
John A. Thain
Chairman and Chief Executive Officer
February 22, 2008
page 3
At Merrill Lynch, our greatest strength has always
been a powerful focus on our clients. With compre-
hensive capabilities, global reach, market intelligence
and innovative ideas, we meet all of their needs —
identifying and capitalizing on opportunities to help
them achieve their goals.
karen Sullivan
washington •
page 5
We stand at the center of many of the world’s
largest and most innovative transactions…
scotland •
• belgium
spain •
$100B
At $100 billion, the largest financial
institution transaction ever and one of
the most complex M&A transactions ever
$75B
Amid a turbulent market, set a record,
at $75 billion, as the largest financing ever
committed and raised by Merrill Lynch
page 7
...transactions that transcend borders
and impact business around the world.
japan •
colorado •
arizona • • new mexico
peru •
chile •
page 9
We stand at the center of a changing global economy,
from Brazil to Dubai...
Marfrig In 2005, Marfrig Dubai Merrill Lynch has oper- Porsche By strengthening Giant Interactive Giant
was the seventh-largest beef ated in the Middle East for 45 the long-standing cooperation Interactive Group Inc., one of
processing company in Brazil. years, but 2007 was pivotal in with Volkswagen AG, Porsche China’s leading online game
Since then, working in partner- expanding our presence in what knew it could better meet the developers and operators,
ship with Merrill Lynch and rapidly has become a world- global challenges of its indus- made a big play in the U.S.
other banks, Marfrig has been class capital market. try. In its effort to acquire a markets with a $1.05 billion
able to capitalize on several stake in VW, Porsche wanted to initial public offering. Merrill
In the beginning of the year,
rare opportunities. Merrill engineer a business transaction Lynch acted as a bookrunner
the Dubai Financial Services
Lynch originated and invested as innovative as their sporty and global coordinator for
Authority issued Merrill Lynch
in a convertible security, and premium cars. Merrill Lynch the largest-ever U.S. listing
an investment banking license.
co-led a team that underwrote was chosen as one of the banks by a private Chinese company,
With our wealth management
a $530 million IPO in June to help launch a €35 billion and the largest sole NYSE
license already in place, we
2007. Supporting the new mandatory takeover offer, listing by a non-Japanese
now can serve the needs of
publicly traded company, our as well as organize Europe’s Asian company.
institutional and individual
Latin American M&A group largest non-rated acquisition
clients from our recently The rapidly emerging markets
helped Marfrig acquire eight financing. The transaction
opened Merrill Lynch regional of Asia and the Pacific Rim are
new plants. Today, Marfrig is the largest offer for an
headquarters in the Dubai an increasingly important piece
is the fourth-largest beef automotive original equipment
International Financial of our growth strategy. We
processing company in the manufacturer and the largest
Centre — a vital global hub. are getting out in front of this
world and primed for success. German domestic tender
unprecedented opportunity
To cap off a banner year, we led offer ever.
Throughout Latin America, with significant investments in
DP World’s $4.22 billion IPO,
local companies are trans- At Merrill Lynch, we understand talent and capabilities. All of
the first offering by Dubai’s
forming into international the industries that drive the our clients may not be in the
government. This was also the
corporations. Merrill Lynch markets we serve. Throughout massively multiplayer online
largest-ever global ports IPO
is there to provide the advice, Europe, our local knowledge game business, but we’re defi-
and the largest IPO in Middle
access to capital and expertise and global perspective help our nitely helping them play to win.
East history.
they need to compete at a clients meet the challenges of
global level. today, while preparing for the
road ahead.
Jon Pratt
head of Debt Capital Markets, Asia Origination, Merrill Lynch
india •
ICICI During a period of market volatility, ICICI Bank, India’s largest private sector bank, appointed Merrill
Lynch as a joint bookrunner to raise funding for its overseas branches. The result was a $2 billion single tranche
bond offering, the largest ever from Asia.
In order to gauge investor interest, Merrill Lynch and the other mandated banks organized a two-team, fi ve-
day program of investor meetings, covering major cities across Asia, Europe and the U.S. The strategy paid off.
Despite the large size of the issue, the order book opened and closed in a single day, spanning time zones from
Mumbai to Malibu.
As the fi rst signifi cant benchmark deal from Asia after the liquidity crisis hit the credit markets in July, the ICICI
offering helped revitalize the regional bond market.
Inset photo (left to right): Merrill Lynch Investment Banking and Debt Syndication Team, Asia: Raj kataria, Ashish Malhotra, Jon Pratt.
Full-bleed photo: Mumbai, India.
page 11
...the Asia Pacifi c and beyond.
• japan
Tomoyuki Noguchi
Wealth Manager
page 13
We stand at the center of our communities...
Gary E. Knell
President and CEO of Sesame Workshop
PANWAPA With clients, employees and offices in 40 countries, Merrill Lynch has both a global commitment
to philanthropy and a deep appreciation of the value of education as a tool to make this world a better place.
To help spread that message — especially to the young children who will someday lead this world — Merrill
Lynch worked with Sesame Workshop, the nonprofit organization behind Sesame Street, to create the concept of
Panwapa, a floating island inhabited by Muppets who visit communities and cultures in every corner of the planet.
Through the citizens of Panwapa Island, children gain awareness of the wider world and learn to take responsibility for
their own behavior, to be active in building local and global communities, and to be responsive to economic disparity.
In the Tshiluba language, Panwapa means “here on this earth.” At Merrill Lynch we believe “good neighbor” is the
same in any language.
GREENER OPPORTUNITIES At Merrill Lynch, we recognize the importance of protecting the global
ecosystem, reducing the use of natural resources and encouraging investment in ways that support responsible
and sustainable development. As a company with a longstanding commitment to the fundamental principles of
corporate social responsibility, it would be untenable for us not to take a strong stand by upholding a policy of
environmental excellence.
As a truly global investment bank, we believe that we can make a significant impact in this area: as a provider
of capital; as an investor looking into new opportunities such as green tech and alternative energy; as a wealth
manager whose clients want to use their capital not just to build wealth but also to benefit society; as a trader,
market maker and advocate; and as an employer of smart, concerned people who care deeply about the environ-
ment. We recognize our responsibility to make, wherever possible and practical, a positive contribution to global
ecological health while, at the same time, minimizing our business activities’ adverse impact on the environment.
This year, we launched our new environmental framework, governance structure and sustainability website.
And because environmental responsibility begins at home, we are implementing cost-efficient initiatives aimed
at further reducing our operational impact. We have committed to reducing energy consumption and
emissions firm-wide, on a per occupant basis, by an average of 2% annually.
page 15
We stand together as one company, able to deliver an extraordinary
scope of capabilities to each client relationship.
We enter 2008 from a position of strength and optimism, as the
premier client service, client-centered and client-focused firm
in our industry.
Results of Operations
Total Revenues $ 62,675 $ 69,352 $ 46,848 $ 31,916 $ 27,392
Less Interest Expense 51,425 35,571 21,571 10,416 7,844
Revenues, Net of Interest Expense 11,250 33,781 25,277 21,500 19,548
Non-Interest Expenses 24,081 23,971 18,516 15,992 14,474
Pre-Tax (Loss)/Earnings from Continuing Operations (12,831) 9,810 6,761 5,508 5,074
Income Tax (Benefit)/Expense (4,194) 2,713 1,946 1,244 1,341
Net (Loss)/Earnings from Continuing Operations $ (8,637) $ 7,097 $ 4,815 $ 4,264 $ 3,733
Pre-Tax Earnings from Discontinued Operations $ 1,397 $ 616 $ 470 $ 327 $ 146
Income Tax Expense $ 537 $ 214 $ 169 $ 155 $ 43
Net Earnings from Discontinued Operations $ 860 $ 402 $ 301 $ 172 $ 103
Net (Loss)/Earnings Applicable to
Common Stockholders(1) $ (8,047) $ 7,311 $ 5,046 $ 4,395 $ 3,797
Financial Position
Total Assets $ 1,020,050 $ 841,299 $ 681,015 $ 628,098 $ 480,233
Short-Term Borrowings(2) 316,545 284,226 221,389 180,058 111,727
Deposits 103,987 84,124 80,016 79,746 79,457
Long-Term Borrowings 260,973 181,400 132,409 119,513 85,178
Junior Subordinated Notes
(related to trust preferred securities) 5,154 3,813 3,092 3,092 3,203
Total Stockholders’ Equity $ 31,932 $ 39,038 $ 35,600 $ 31,370 $ 28,884
Common Share Data
(in thousands, except per share amounts)
(Loss)/Earnings Per Share:
Basic (Loss)/Earnings Per Common Share from
Continuing Operations $ (10.73) $ 7.96 $ 5.32 $ 4.62 $ 4.10
Basic Earnings Per Common Share from
Discontinued Operations 1.04 0.46 0.34 0.19 0.12
Basic (Loss)/Earnings Per Common Share $ (9.69) $ 8.42 $ 5.66 $ 4.81 $ 4.22
Diluted (Loss)/Earnings Per Common Share from
Continuing Operations $ (10.73) $ 7.17 $ 4.85 $ 4.21 $ 3.77
Diluted Earnings Per Common Share from
Discontinued Operations 1.04 0.42 0.31 0.17 0.10
Diluted (Loss)/Earnings Per Common Share $ (9.69) $ 7.59 $ 5.16 $ 4.38 $ 3.87
Weighted-Average Shares Outstanding:
Basic 830,415 868,095 890,744 912,935 900,711
Diluted 830,415 962,962 977,736 1,003,779 980,947
Shares Outstanding at Year-End 939,112 867,972 919,201 931,826 949,907
Book Value Per Share $ 29.34 $ 41.35 $ 35.82 $ 32.99 $ 29.96
Dividends Paid Per Share $ 1.40 $ 1.00 $ 0.76 $ 0.64 $ 0.64
Financial Ratios
Pre-Tax Profit Margin from Continuing Operations N/M 29.0% 26.7% 25.6% 26.0%
Common Dividend Payout Ratio N/M 11.9% 13.4% 13.3% 15.2%
Return on Average Assets N/M 0.9% 0.7% 0.8% 0.8%
Return on Average Common Stockholders’ Equity from
Continuing Operations N/M 20.1% 15.0% 13.8% 14.4%
Other Statistics
Full-Time Employees:
U.S. 48,700 43,700 43,200 40,200 38,200
Non-U.S. 15,500 12,500 11,400 10,400 9,900
Total(3) 64,200 56,200 54,600 50,600 48,100
Financial Advisors 16,740 15,880 15,160 14,140 13,530
Client Assets (dollars in billions) $ 1,751 $ 1,619 $ 1,458 $ 1,359 $ 1,267
Note: Certain prior period amounts have been reclassified to conform to current period presentation.
N/M = Not Meaningful
(1) Net (loss)/earnings less preferred stock dividends.
(2) Consists of payables under repurchase agreements and securities loaned transactions and short-term borrowings.
(3) Excludes 700, 100, 200, 100 and 200 full-time employees on salary continuation severance at year-end 2007, 2006, 2005, 2004 and 2003 respectively.
page 19
Management’s Discussion and Analysis of
Financial Condition and Results of Operations
Forward-Looking Statements and Non-GAAP Financial Measures
We have included certain statements in this report which may be considered forward-looking, including those about management
expectations, strategic objectives, growth opportunities, business prospects, anticipated financial results, the impact of off-balance
sheet exposures, significant contractual obligations, anticipated results of litigation and regulatory investigations and proceedings, risk
management policies andother similarmatters. These forward-looking statements represent only Merrill Lynch & Co., Inc.’s (“ML & Co.”
and, together with its subsidiaries, “Merrill Lynch”, the “company”, “we”, “our” or “us”) beliefs regarding future performance, which is
inherently uncertain. There are a variety of factors, many of which are beyond our control, which affect our operations, performance,
business strategy and results and could cause our actual results and experience to differ materially from the expectations and objectives
expressed in any forward-looking statements. These factors include, but are not limited to, actions and initiatives taken by both current
and potential competitors and counterparties, general economic conditions, market conditions, the effects of current, pending and
future legislation, regulation and regulatory actions, the actions of rating agencies and the other risks and uncertainties detailed in this
report. See “Risk Factors that Could Affect Our Business”. Accordingly, readers are cautioned not to place undue reliance on forward-
looking statements, which speak only as of the dates on which they are made. We do not undertake to update forward-looking statements
to reflect the impact of circumstances or events that arise after the dates they are made. The reader should, however, consult further
disclosures we may make in future filings of our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports
on Form 8-K.
From time to time, we may also disclose financial information on a non-GAAP basis where management uses this information and
believes this information will be valuable to investors in gauging the quality of our financial performance, identifying trends in our results
and providing more meaningful period-to-period comparisons. For a reconciliation of non-GAAP measures presented throughout this
report see Exhibit 99.1 filed with our 2007 Form 10-K.
Available Information
We file annual, quarterly and current reports, proxy statements and other information with the Securities and Exchange Commission
(“SEC”). You may read and copy any document we file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Room 1580,
Washington, DC 20549. Please call the SEC at 1-800-SEC-0330 for information on the Public Reference Room. The SEC maintains an
internet site that contains annual, quarterly and current reports, proxy and information statements and other information that we file
electronically with the SEC. The SEC’s internet site is www.sec.gov.
Our internet address is www.ml.com, and the investor relations section of our website can be accessed directly at www.ir.ml.com. We
make available, free of charge, our proxy statements, Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports
on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of
1934. These reports are available through our website as soon as reasonably practicable after such reports are electronically filed with,
or furnished to, the SEC. We have also posted on our website corporate governance materials including our Guidelines for Business
Conduct, Code of Ethics for Financial Professionals, Director Independence Standards, Corporate Governance Guidelines, Related Party
Transactions Policy and charters for the committees of our Board of Directors. In addition, our website (through a link to the SEC’s
website) includes information on purchases and sales of our equity securities by our executive officers and directors, as well as
disclosures relating to certain non-GAAP financial measures (as defined in the SEC’s Regulation G) that we may make public orally,
telephonically, by webcast, by broadcast or by similar means from time to time.
We will post on our website amendments to our Guidelines for Business Conduct and Code of Ethics for Financial Professionals and any
waivers that are required to be disclosed by the rules of either the SEC or the New York Stock Exchange. You can obtain printed copies of
these documents, free of charge, upon written request to Judith A. Witterschein, Corporate Secretary, Merrill Lynch & Co., Inc.,
222 Broadway, 17th Floor, New York, NY 10038 or by email at corporate [email protected]. The information on our website is not
incorporated by reference into this Report.
Introduction
Merrill Lynch was formed in 1914 and became a publicly traded company on June 23, 1971. In 1973, we created the holding company, ML &
Co., a Delaware corporation that, through its subsidiaries, is one of the world’s leading capital markets, advisory and wealth
management companies with offices in 40 countries and territories and total client assets of almost $2 trillion at December 28,
2007. As an investment bank, we are a leading global trader and underwriter of securities and derivatives across a broad range of asset
classes, and we serve as a strategic advisor to corporations, governments, institutions and individuals worldwide. In addition, we own a
45% voting interest and approximately half of the economic interest of BlackRock, Inc. (“BlackRock”), one of the world’s largest publicly
traded investment management companies with approximately $1.4 trillion in assets under management at December 28, 2007.
Since the fourth quarter of 2006, our business segment reporting reflects the management reporting lines established after the merger
of our Merrill Lynch Investment Managers (“MLIM”) business with BlackRock on September 29, 2006 (the “BlackRock merger”).
We also provide a variety of research services on a global basis through Global Research. These services are at the core of the value
proposition we offer to institutional and individual investor clients and are an integral component of the product offerings to GMI and
GWM. This group distributes research focusing on four main disciplines globally: fundamental equity research, fixed income and equity-
linked research, economics and foreign exchange research and investment strategy research. We consistently rank among the leading
research providers in the industry, and our analysts and other professionals cover approximately 3,600 companies.
We are a Consolidated Supervised Entity (“CSE”) and subject to group-wide supervision by the SEC. As a CSE, we compute allowable
capital and allowances and permit the SEC to examine the books and records of the holding company and of any subsidiary that does not
have a principal regulator. We have also adopted SEC reporting, record-keeping, and notification requirements. We were in compliance
with applicable CSE standards as of December 28, 2007. In respect of the European Union (“EU”) Financial Conglomerates (or “Financial
Groups”) Directive, the U.K. Financial Services Authority (“FSA”) has determined that the SEC undertakes equivalent consolidated
supervision for Merrill Lynch.
page 21
Executive Overview
Company Results
We reported a net loss from continuing operations for 2007 of $8.6 billion, or $10.73 loss perdiluted share, compared to net earnings from
continuing operations of $7.1 billion, or $7.17 per diluted share for 2006. Net revenues for 2007 were $11.3 billion, down 67% from
$33.8 billion in 2006, while the 2007 pre-tax loss from continuing operations was $12.8 billion compared to pre-tax earnings from
continuing operations of $9.8 billion for 2006.
Our substantially reduced performance during the year was primarily driven by significant declines in Fixed Income, Currencies &
Commodities (“FICC”) net revenues for the second half of the year, which more than offset record full year net revenues in Equity Markets,
Investment Banking and GPC, and record first half net revenues from FICC. During the second half of 2007, FICC net revenues were
materially impacted by a weaker business environment which resulted in full year net write-downs that included approximately
$23.2 billion related to U.S. collateralized debt obligations (“CDOs”) comprised of asset-backed securities (“ABS CDOs”), U.S. sub-prime
residential mortgages and securities, and credit valuation adjustments related to hedges with financial guarantors on U.S. ABS CDOs.
FICC net revenues were negative $15.9 billion for 2007, impacted primarily by net write-downs of $16.7 billion related to U.S. ABS CDOs,
write-downs of $3.2 billion related to U.S. sub-prime residential mortgage exposures, credit valuation adjustments of $2.6 billion related
to our hedges with financial guarantors on U.S. ABS CDOs and write-downs of approximately $700 million related to sub-prime related
securities in our U.S. banks investment securities portfolio. To a lesser extent, FICC was impacted by write-downs related to other
residential mortgage and commercial real estate exposures and liabilities recorded for probable losses of non-investment grade lending
commitments. In addition, the business environment for FICC became more challenging towards the end of 2007, and resulted in
substantially reduced client flows and decreased trading opportunities.
Equity Markets net revenues for 2007 were a record $8.3 billion, up 23% from 2006, driven by strong trading volumes in ourcash equities
platform where we achieved a market leading position in U.S. and London Stock Exchange listed stocks. Full year results were also
driven by strength in equity-linked trading and the financing and services businesses. These increases in net revenues for the year more
than offset a year-over-year decline in net revenues from our private equity business.
Investment Banking net revenues for 2007 were a record $4.9 billion, up 22% from the prior year. This reflects substantial growth in net
revenues for both our equity origination and strategic advisory businesses, which increased 34% and 58% respectively, and the
momentum in our global origination franchise, as evidenced by our role as sole advisor to the consortium including Royal Bank of
Scotland, Fortis and Banco Santanderon their landmark acquisition of ABN AMRO. These increases in net revenues forequity origination
and strategic advisory services were partially offset by a decline of 9% in debt origination revenues which were impacted by the difficult
credit markets.
GPC net revenues for 2007 were a record $12.9 billion, up 14% year-over-year, with revenue growth across all major product lines. Fee-
based revenues rose significantly reflecting higher market values and strong flows into fee-based products, and transaction and
origination revenues grew strongly driven by higher client transaction volumes, particularly outside the United States, and growth in
origination activity across all products. Net interest profit rose as well, reflecting increased revenues from U.S. bank deposits and the
results of First Republic Bank (“First Republic”), which we acquired on September 21, 2007.
GIM net revenues for 2007 were $1.1 billion, up 107% from 2006, driven by the inclusion of a full year’s revenue from the investment in
BlackRock, as well as strong growth in GIM’s alternative investments business and strategic holdings in investment manage-
ment companies.
Client Assets
U.S. $ 1,586 $ 1,483
Non-U.S. 165 136
Total Client Assets 1,751 1,619
Assets in Annuitized-Revenue Products 655 611
Net New Money
All Client Accounts(1) $ 80 $ 60
Annuitized-Revenue Products(1)(2) 38 48
Financial Advisors 16,740 15,880
Note: Certain prior period amounts have been reclassified to conform to the current period presentation.
(1) Net new money excludes flows associated with the Institutional Advisory Division which serves certain small- and middle-market companies, as well as net inflows at BlackRock from
distribution channels other than Merrill Lynch.
(2) Includes both net new client assets into annuitized-revenue products, as well as existing client assets transferred into annuitized-revenue products.
Capital Transactions
As a result of the decrease in ourequity capital due to the large write-downs we incurred in 2007, one of our key priorities towards the end
of the year and continuing into the start of 2008 has been to focus on capital management which has led to the following stock issuances:
• Issuance of 80 million shares of common stock for $3.8 billion during the fourth quarter of 2007 in connection with equity investments
from Temasek Capital (Private) Limited (“Temasek”) and Davis Selected Advisors LP (“Davis”);
• Issuance of 49.2 million shares of common stock for $2.4 billion during the first quarterof 2008 in connection with equity investments
from Temasek and assignees; and
• Issuance of $6.6 billion of mandatory convertible preferred stock (convertible into a maximum of 126 million shares of common stock)
during the first quarter of 2008 to long-term investors including the Korea Investment Corporation, Kuwait Investment Authority and
Mizuho Corporate Bank.
Strategic Transactions
During 2007 we executed the following strategic transactions:
Merrill Lynch Insurance Group
On August 13, 2007, we announced a strategic business relationship with AEGON, N.V. (“AEGON”) in the areas of insurance and
investment products. As part of this relationship, we agreed to sell Merrill Lynch Life Insurance Company and ML Life Insurance
Company of New York (together “Merrill Lynch Insurance Group” or “MLIG”) to AEGON for $1.3 billion. We will continue to serve the
insurance needs of our clients through our core distribution and advisory capabilities. The sale of MLIG was completed in the fourth
quarter of 2007 and resulted in an after-tax gain of $316 million. The gain along with the results of MLIG have been reported within
discontinued operations for all periods presented. We previously reported the results of MLIG in the GWM business segment. Refer to
Note 17 to the Consolidated Financial Statements for additional information.
As a result of the MLIG and Merrill Lynch Capital transactions we will be able to more effectively reallocate capital among our businesses.
page 23
Outlook
The challenging market conditions at the end of 2007 have continued into 2008, driven largely by significant weakness in the U.S. and
European credit markets, which we expect to persist in the near term with continued asset repricing and valuation pressures across
multiple asset classes. This continued weakness may negatively impact the valuation of our net exposures to U.S. super senior ABS
CDOs, sub-prime related assets and other residential and commercial real estate related loans and securities, which would result in
additional write-downs. Certain of these assets are held by our U.S. banks in their investment portfolio and are classified as available-
for-sale securities. Current market conditions may also result in additional write-downs to the carrying amount of our investment
portfolio. Additionally, negative economic conditions have begun to adversely impact other consumer lending asset classes.
Specifically, we ended 2007 with sizeable long and short exposures to U.S. ABS CDOs as well as exposure to various residential real
estate assets including U.S. sub-prime, U.S. Alt A, U.S. prime and non-U.S. residential loans and securities. See the U.S. ABS CDO and
Other Mortgage-Related Activities section on pages 34 to 38 for descriptions and additional information on these net exposures.
To economically hedge certain of our ABS CDO and U.S. sub-prime mortgage exposures, we entered into credit default swaps with
various counterparties, including financial guarantors. At December 28, 2007, our short exposure from credit default swaps with
financial guarantors to economically hedge certain U.S. super senior ABS CDOs was $13.8 billion, which represented credit default
swaps with a notional amount of $19.9 billion that have been adjusted for mark-to-market gains of $6.1 billion. The fair value of these
credit default swaps at December 28, 2007 was $3.5 billion, after taking into account a $2.6 billion credit valuation adjustment related to
certain financial guarantors. We also have credit derivatives with financial guarantors across other referenced assets. The fair value of
these credit derivatives at December 28, 2007 was $2.0 billion, after taking into account a $0.5 billion credit valuation adjustment.
Subsequent to year-end, market conditions deteriorated and have led to negative rating agency actions for certain financial guarantors.
We continue to monitor industry and company specific developments. Further credit deterioration of the underlying assets hedged with
the financial guarantors and/or the financial guarantors themselves could have an adverse impact on our future financial performance.
Conditions in both the Leveraged Finance and Commercial Real Estate markets, which began to deteriorate in the middle of 2007, have
continued to experience significant spread widening and price declines since the beginning of 2008. While difficult to predict, future
market conditions will likely remain challenged due to increased volatility, uncertain economic conditions, overhang of the supply of
certain large transactions that have not yet been successfully syndicated, and reduced demand from some market participants. Merrill
Lynch continues to aggressively focus on reducing its aggregate exposures, monitoring the underlying fundamentals of these positions
and exercising prudent underwriting discipline with respect to any new financing commitments.
Overall, with these challenging credit conditions and declines in most global equity indices in 2008, volatility in the financial markets
remains high, and capital markets uncertainty has increased. While these factors may negatively impact investment banking activity and
GWM asset values in the near term, we expect certain FICC and Equity Markets businesses to benefit from increased client trading
activity and proprietary trading opportunities. In addition, despite this near-term uncertainty, client interest in various strategic and
financial transactions remains active globally, and investment banking pipelines continue to be at healthy levels.
For the long-term, we continue to be optimistic about the outlook for our businesses. We expect global GDP growth to remain strong,
particularly in emerging markets such as Brazil, China, India and the Middle East, which we expect to offset potentially slowing growth in
the U.S. and certain other mature economies. Given our regional and product diversification, we expect continued growth of the global
capital markets and ongoing wealth creation around the world to provide a favorable environment forour businesses over the long-term.
Market Risk
Our business may be adversely impacted by global market and economic conditions that may cause fluctuations in interest
rates, exchange rates, equity and commodity prices and credit spreads. We are exposed to potential changes in the value of
financial instruments caused by fluctuations in interest rates, currency exchange rates, equity and commodity prices, credit spreads,
and/orother risks. These fluctuations may result from changes in economic conditions, investor sentiment, monetary and fiscal policies,
the liquidity of global markets, availability and cost of capital, the actions of credit rating agencies, international and regional political
events, and acts of waror terrorism. We have large proprietary trading and investment positions, which include positions in fixed income,
currency, commodities and equity securities, as well as in real estate, private equity and other investments. We have incurred losses and
may incur additional losses as a result of increased market volatility or decreased market liquidity, as these fluctuations may adversely
We may incur additional material losses in future periods due to write-downs in the value of financial instruments. We
recorded significant net write-downs in the 2007 fiscal year, primarily related to U.S. ABS CDOs, sub-prime residential mortgages, and
credit valuation adjustments related to hedging transactions with financial guarantors on U.S. ABS CDOs. The markets for U.S. ABS
CDOs and other sub-prime residential mortgage exposures remain extremely illiquid in early 2008 and as a result, valuation of these
exposures is complex and involves a comprehensive process including the use of quantitative modeling and management judgment.
Valuation of these exposures will also continue to be impacted by external market factors including default rates, a decline in the value of
the underlying property, such as residential or commercial real estate, rating agency actions, the prices at which observable market
transactions occur and the financial strength of counterparties, such as financial guarantors, with whom we have economically hedged
some of our exposure to these assets. Our ability to mitigate our risk by selling or hedging our exposures is also limited by the
market environment.
Our business has been and may be adversely impacted by significant holdings of financial assets or significant loans or
commitments to extend loans. In the course of our business, we often commit substantial amounts of capital to certain types of
businesses or asset classes, including our trading, structured credit, residential and commercial real estate-related activities,
investment banking, private equity and leveraged finance businesses. This commitment of capital exposes us to a number of risks,
including market risk, in the case of our holdings of concentrated or illiquid positions in a particular asset class as part of our trading,
structured credit, residential and commercial real estate-related activities, and credit risk, in the case of our leveraged lending
businesses. Any decline in the value of such assets may reduce our revenues or result in losses.
Credit Risk
Our business may be adversely impacted by an increase in our credit exposure related to trading, lending, and other business
activities. We are exposed to potential credit-related losses that can occur as a result of an individual, counterparty or issuer being
unable or unwilling to honor its contractual obligations. These credit exposures exist within lending relationships, commitments, letters
of credit, derivatives, including transactions we may enter into to hedge our exposure to various assets, foreign exchange and other
transactions. These exposures may arise, forexample, from a decline in the financial condition of a counterparty, from entering into swap
or other derivative contracts under which counterparties have obligations to make payments to us, from a decrease in the value of
securities of third parties that we hold as collateral, or from extending credit to clients through loans or other arrangements. As our
credit exposure increases, it could have an adverse effect on our business and profitability if material unexpected credit losses occur.
International Risk
We have an increasing international presence and as a result, we are increasingly subject to a number of risks in various
jurisdictions. In the past years, we have expanded our international operations and expect to continue to do so in the future. This
expansion, however, gives us a greaterexposure to a numberof risks, including economic, market, reputational, litigation and regulatory
risks. For example, in many emerging markets, the regulatory regime governing financial services firms is still developing, and the
regulatory authorities may adopt restrictive regulation or policies, such as exchange, price orcapital controls, that could have an adverse
effect on our businesses. In addition, in virtually all markets, we are competing with a number of established competitors that in some
cases may have significant competitive advantages over us in those markets.
Liquidity Risk
Our business and financial condition may be adversely impacted by an inability to borrow funds or sell assets to meet our
obligations. We are exposed to liquidity risk, which is the potential inability to repay short-term borrowings with new borrowings or
liquid assets that can be quickly converted into cash while meeting other obligations and continuing to operate as a going concern. Our
liquidity may be impaired due to circumstances that we may be unable to control, such as general market disruptions, disruptions in the
markets for any specific class of assets, including any disruption that would require us to honor commitments to provide liquidity to
certain off-balance sheet vehicles, or an operational problem that affects our trading clients or ourselves. Our ability to sell assets may
page 25
also be impaired if other market participants are seeking to sell similar assets at the same time. Our inability to borrow funds or sell
assets to meet obligations, a negative change in our credit ratings that would have an adverse effect on our ability to borrow funds,
increases in the amount of collateral required by counterparties, or regulatory capital restrictions imposed on the free flows of funds
between us and our subsidiaries may have a negative effect on our business and financial condition.
Operational Risk
We may incur losses due to the failure of people, internal processes and systems or from external events. Our business may be
adversely impacted by operational failures or from unfavorable external events. Such operational risks may include exposure to theft and
fraud, improper business practices, client suitability and servicing risks, unauthorized transactions, product complexity and pricing risk
or from improper recording, evaluating or accounting for transactions. We could suffer financial loss, disruption of our business, liability
to clients, regulatory intervention or reputational damage from such events, which would affect our business and financial condition.
We may incur losses as a result of an inability to effectively evaluate or mitigate the risks in our businesses. Our businesses
expose us to a wide and increasing number of risks, including market risk, credit risk, liquidity risk, operational risk and litigation risk.
For each of these and other risks that we face, we attempt to formulate and refine a framework to identify and address such risk. We have
in the past and may in the future incur losses as a result of a failure to correctly evaluate or effectively address the risks in our
business activities.
Litigation Risk
Legal proceedings could adversely affect our operating results for a particular period and impact our credit ratings. We have
been named as a defendant in various legal actions, including arbitrations, class actions, and other litigation arising in connection with
our activities as a global diversified financial services institution. Some of the legal actions against us include claims for substantial
compensatory and/or punitive damages or claims for indeterminate amounts of damages. Any prolonged decline in securities prices
may lead to increased actions against many firms, including Merrill Lynch, and may lead to increased legal expenses and potential
liability. In some cases, the issuers who would otherwise be the primary defendants are bankrupt orotherwise in financial distress. Given
the number of these matters, some are likely to result in adverse judgments, penalties, injunctions, fines, or other relief. We are also
involved in investigations and/or proceedings by governmental and self-regulatory agencies.
We may explore potential settlements before a case is taken through trial because of uncertainty, risks, and costs inherent in the
litigation process. In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 5, Accounting for Contingencies
(“SFAS No. 5”), we will accrue a liability when it is probable that a liability has been incurred and the amount of the loss can be reasonably
estimated. In many lawsuits, arbitrations and investigations, including almost all of the class action lawsuits disclosed in “Other
Information (Unaudited) — Legal Proceedings”, it is not possible to determine whether a liability has been incurred or to estimate the
ultimate or minimum amount of that liability until the matter is close to resolution, in which case no accrual is made until that time. In
view of the inherent difficulty of predicting the outcome of such matters, particularly in matters in which claimants seek substantial or
indeterminate damages, we cannot predict what the eventual loss or range of loss related to such matters will be. Potential losses may
be material to our operating results for any particular period and may impact our credit ratings.
Competitive Environment
Competitive pressures in the financial services industry could adversely affect our business and results of operations. We
compete globally for clients on the basis of price, the range of products that we offer, the quality of our services, our financial resources,
and product and service innovation. The financial services industry continues to be affected by an intensely competitive environment, as
demonstrated by the introduction of new technology platforms, consolidation through mergers, increased competition from new and
established industry participants and diminishing margins in many mature products and services. We compete with U.S. and
non-U.S. commercial banks and other broker-dealers in brokerage, underwriting, trading, financing and advisory businesses. For
example, the financial services industry in general, including us, has experienced intense price competition in brokerage, as the ability to
For further information on trading risks refer to Note 3 to the Consolidated Financial Statements.
We early adopted the provisions of SFAS No. 157 Fair Value Measurements (“SFAS No. 157”) in the first quarter of 2007. SFAS No. 157
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
marketplace participants at the measurement date (i.e., the exit price). An exit price notion does not assume that the transaction price is
the same as the exit price and thus permits the recognition of inception gains and losses on a transaction in certain circumstances. An
exit price notion requires the valuation to consider what a marketplace participant would pay to buy an asset or receive to assume a
liability. Therefore, we must rely upon observable market data before we can utilize internally derived valuations.
Fair values for exchange-traded securities and certain exchange-traded derivatives, principally certain options contracts, are based on
quoted market prices. Fair values for OTC derivatives, principally forwards, options, and swaps, represent amounts estimated to be
received from or paid to a market participant in settlement of these instruments. These derivatives are valued using pricing models
based on the net present value of estimated future cash flows and directly observed prices from exchange-traded derivatives, other OTC
page 27
trades, or external pricing services and other inputs such as quoted interest and currency indices, while taking into account the
counterparty’s credit rating, or our own credit rating as appropriate.
New and/or complex instruments may have immature or limited markets. As a result, the pricing models used for valuation often
incorporate significant estimates and assumptions that market participants would use in pricing the instrument, which may impact the
results of operations reported in the Consolidated Financial Statements. For example, on long-dated and illiquid contracts we apply
extrapolation methods to observed market data in order to estimate inputs and assumptions that are not directly observable. This
enables us to mark to fair value all positions consistently when only a subset of prices is directly observable. Values for OTC derivatives
are verified using observed information about the costs of hedging the risk and other trades in the market. As the markets for these
products develop, we continually refine our pricing models to correlate more closely to the market price of these instruments. Obtaining
the fair value for OTC derivative contracts requires the use of management judgment and estimates. In addition, during periods of market
illiquidity, the valuation of certain cash products can also require significant judgment and the use of estimates by management.
Examples of specific instruments and inputs that require significant judgment include:
Asset-Backed Securities Valuation
In the most liquid markets, readily available orobservable prices are used in valuing asset backed securities. In less liquid markets, such
as those that we have encountered in the second half of 2007, the lack of these prices necessitates the use of other available information
and modeling techniques to approximate the fair value for some of these securities.
For certain classes of asset-backed securities where lack of observable prices is most severe, we employ a fundamental cashflow
valuation approach. To determine fair value for these instruments, we employ various econometric techniques, coupled with collateral
performance analysis, and review of market comparables, if any. We then project collateral expected losses, leading to deal-specific
discounting of cash flows at market levels. More specifically, the valuation for our U.S. ABS CDO super senior securities is based on cash
flow analysis including cumulative loss assumptions. These assumptions are derived from multiple inputs including mortgage
remittance reports, housing prices and other market data. Relevant ABX indices are also analyzed as part of the overall valua-
tion process.
Correlation
We enter into a number of transactions where the performance is wholly or partly dependent on the relative performance of two or more
assets. In these transactions, referred to as correlation trades, correlation between the assets can be a significant factor in the valuation.
Examples of this type of transaction include: equity or foreign exchange baskets, constant maturity swap spreads (i.e., options where the
performance is determined based upon the fluctuations between two benchmark interest rates), and commodity spread trades. Many
correlations are available through external pricing services. Where external pricing information is not available, management uses
estimates based on historical data, calibrated to more liquid market information. Unobservable credit correlation, such as that
influencing the valuation of complex structured CDOs, is calibrated using a proxy approach (e.g., using implied correlation from traded
credit index tranches as a proxy for calibrating correlation for a basket of single-name corporate investment grade credits that are
infrequently traded).
Volatility
We hold derivative positions whose values are dependent on volatilities for which market observable values are not available. These
volatilities correspond to options with long-dated expiration dates, strikes significantly in or out of the money, and/or in the case of
interest rate underlyings, a large tenor (i.e., an underlying interest rate reference that itself is long-dated). We use model-based
extrapolation, proxy techniques, or historical analysis, to derive the unobservable volatility. These methods are selected based on
available market information and are used across all asset classes. Volatility estimation can have a significant impact on valuations.
Prior to adoption of SFAS No. 157, we followed the provisions of EITF 02-3, Issues Involved in Accounting for Derivative Contracts Held for
Trading Purposes and Contracts Involved in Energy Trading and Risk Management Activities (“EITF 02-3”). Under EITF 02-3, recognition of
day one gains and losses on derivative transactions was prohibited when model inputs that significantly impacted valuation were not
observable. Day one gains and losses deferred at inception under EITF 02-3 were recognized at the earlier of when the valuation of such
derivative became observable or at the termination of the contract. SFAS No. 157 nullifies this guidance in EITF 02-3. Although this
guidance in EITF 02-3 has been nullified, the recognition of significant inception gains and losses that incorporate unobservable inputs
are reviewed by management to ensure such gains and losses are derived from observable inputs and/or incorporate reasonable
assumptions about the unobservable component, such as implied bid-offer adjustments.
Valuation Adjustments
Certain financial instruments recorded at fair value are initially measured using mid-market prices which results in gross long and short
positions marked-to-market at the same pricing level prior to the application of position netting. The resulting net positions are then
adjusted to fair value representing the exit price as defined in SFAS No. 157. The significant adjustments include liquidity and
counterparty credit risk.
In accordance with SFAS No. 157, we have categorized our financial instruments, based on the priority of the inputs to the valuation
technique, into a three level fair value hierarchy. The fair value hierarchy gives the highest priority to quoted prices in active markets for
identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). If the inputs used to measure the financial
instruments fall within different levels of the hierarchy, the categorization is based on the lowest level input that is significant to the fair
value measurement of the instrument.
Financial assets and liabilities recorded on the Consolidated Balance Sheets are categorized based on the inputs to the valuation
techniques as follows:
Level 1
Financial assets and liabilities whose values are based on unadjusted quoted prices for identical assets or liabilities in an active market
that we have the ability to access (examples include active exchange-traded equity securities, exchange traded derivatives, most
U.S. Government and agency securities, and certain other sovereign government obligations).
Level 2
Financial assets and liabilities whose values are based on quoted prices in markets that are not active or model inputs that are
observable either directly or indirectly for substantially the full term of the asset or liability. Level 2 inputs include the following:
a) Quoted prices for similar assets or liabilities in active markets (for example, restricted stock);
b) Quoted prices for identical or similar assets or liabilities in non-active markets (examples include corporate and municipal bonds,
which trade infrequently);
c) Pricing models whose inputs are observable for substantially the full term of the asset or liability (examples include most over-
the-counter derivatives including interest rate and currency swaps); and
d) Pricing models whose inputs are derived principally from or corroborated by observable market data through correlation or other
means for substantially the full term of the asset or liability (examples include certain residential and commercial mortgage
related assets, including loans, securities and derivatives).
Level 3
Financial assets and liabilities whose values are based on prices or valuation techniques that require inputs that are both unobservable
and significant to the overall fair value measurement. These inputs reflect management’s own assumptions about the assumptions a
market participant would use in pricing the asset or liability (examples include certain private equity investments, certain residential and
commercial mortgage related assets (including loans, securities and derivatives), and long-dated or complex derivatives including
certain equity derivatives and long-dated options on gas and power).
page 29
Litigation
We have been named as a defendant in various legal actions, including arbitrations, class actions, and other litigation arising in
connection with our activities as a global diversified financial services institution. We are also involved in investigations and/or
proceedings by governmental and self-regulatory agencies. In accordance with SFAS No. 5, we will accrue a liability when it is probable
that a liability has been incurred, and the amount of the loss can be reasonably estimated. In many lawsuits and arbitrations, including
class action lawsuits, it is not possible to determine whether a liability has been incurred or to estimate the ultimate or minimum amount
of that liability until the case is close to resolution, in which case no accrual is made until that time. In view of the inherent difficulty of
predicting the outcome of such matters, particularly in cases in which claimants seek substantial or indeterminate damages, we cannot
predict or estimate what the eventual loss or range of loss related to such matters will be. See Note 11 to the Consolidated Financial
Statements and Other Information — Legal Proceedings for further information.
Income Taxes
Tax laws are complex and subject to different interpretations by us and various taxing authorities. We regularly assess the likelihood of
assessments in each of the taxing jurisdictions by making judgments and interpretations about the application of these complex tax laws
and estimating the impact to our financial statements.
We are under examination by the Internal Revenue Service (“IRS”) and other tax authorities in countries including Japan and the United
Kingdom, and states in which we have significant business operations, such as New York. The tax years under examination vary by
jurisdiction. The IRS audits are in progress for the tax years 2004–2006. Japan tax authorities have recently commenced the audit for the
fiscal tax years March 31, 2004 through March 31, 2007. In the United Kingdom, the audit for the tax year 2005 is in progress. The Canadian
tax authorities have commenced the audit of the tax years 2004–2005. New York State and New York City audits are in progress for the
years 2002–2006. Also, we paid an assessment to Japan in 2005 for the fiscal tax years April 1, 1998 through March 31, 2003, in relation to
the taxation of income that was originally reported in other jurisdictions. During the third quarter of 2005, we started the process of
obtaining clarification from international tax authorities on the appropriate allocation of income among multiple jurisdictions to prevent
double taxation. See Note 14 to the Consolidated Financial Statements for a description of tax years that remain subject to examination by
major tax jurisdiction.
We filed briefs with the U.S. Tax Court in 2005 with respect to a tax case, which had been remanded for further proceedings in accordance
with a 2004 opinion of the U.S. Court of Appeals for the Second Circuit. The U.S. Court of Appeals affirmed the initial adverse opinion that
the U.S. Tax Court rendered in 2003 against us, with respect to a 1987 transaction, but remanded the case to the U.S. Tax Court to consider
a new argument raised. The amount in dispute has been fully paid, and no benefit has been recognized. The U.S. Tax Court has not issued
a decision on this remanded matter, and it is uncertain as to when a decision will be rendered.
At December 28, 2007, we had a United Kingdom net operating loss carryforward of approximately $13.5 billion. This loss has an
unlimited carryforward period and a tax benefit has been recognized for the deferred tax asset with no valuation allowance.
During 2007, we adopted FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement
No. 109 (“FIN 48”). We believe that the estimate of the level of unrecognized tax benefits is in accordance with FIN 48 and is appropriate in
relation to the potential for additional assessments. We adjust the level of unrecognized tax benefits when there is more information
available, or when an event occurs requiring a change. The reassessment of unrecognized tax benefits could have a material impact on
our effective tax rate in the period in which it occurs.
Global equity indices generally ended the year with mixed results. In Europe, the Dow Jones STOXX 50 Index was flat from 2006 while the
FTSE 100 Index increased 4%. Asian equity markets were mixed as Japan’s Nikkei 225 Stock Average fell 11% while Hong Kong’s Hang
Seng Index surged 37%. India’s Sensex Index rose 47%. In Latin America, Brazil’s Bovespa Index was up 44% from 2006.
U.S. equity trading volumes increased during the year as both the dollar volume and number of shares traded on the New York Stock
Exchange and on the Nasdaq increased compared to 2006. Equity market volatility increased significantly for both the S&P 500 and the
Nasdaq 100 during the year, as indicated by higher average levels for the Chicago Board Options Exchange SPX Volatility Index and the
American Stock Exchange QQQ Volatility Index, respectively.
Global debt and equity underwriting volumes for the full year of 2007 were $7.0 trillion, down 5% from 2006 impacted by decreased
volumes during the second half of the year which were down 27%. Global debt underwriting volumes for the full year of 2007 were
$5.9 trillion, down 11% from 2006 and were down 39% during the second half of the year compared to the prior-year period. Global equity
underwriting volumes of $1.1 trillion were up 50% compared to 2006.
Merger and acquisition (“M&A”) activity increased during 2007 as the value of global announced deals was $4.9 trillion, up 24% from 2006.
Global completed M&A activity was $4.6 trillion, up 28% from 2006.
While our results may vary based on global economic and market trends, we believe that the outlook for growth in most of our global
businesses, including Equity Markets, Investment Banking, Global Wealth Management and certain FICC businesses remains favorable
due to positive underlying fundamentals, high market volumes, and the resiliency of these markets. This remains especially true for
markets outside of the United States, such as the Pacific Rim. However, the challenging conditions in certain credit markets, such as the
sub-prime mortgage market, have continued into early 2008. Since year-end, these markets have shown renewed signs of volatility and
weakness as evidenced by recent rating agency downgrades of residential mortgage-backed securities and U.S. ABS CDOs, increased
expectations of future rating agency actions, and increased default and delinquency rates.
During 2007, FICC revenues were adversely affected by the substantial deterioration in the value of many of these exposures, particularly
during the second half of 2007. At the end of 2007, we maintained exposures to these markets through securities, derivatives, loans and
loan commitments. See U.S. ABS CDO and Other Mortgage-Related Activities on page 34 for further detail.
The markets for these U.S. ABS CDO exposures remain extremely illiquid and as a result, valuation of these exposures is complex and
involves a comprehensive process including the use of quantitative modeling and management judgment. Valuation of these exposures
will also continue to be impacted by external market factors including default rates, rating agency actions, and the prices at which
observable market transactions occur. Our ability to mitigate our risk by selling or hedging our exposures is also limited by the market
environment. Our future results may continue to be materially impacted by these positions.
(1) Debt and equity underwriting and merger and acquisition volumes were obtained from Dealogic.
page 31
Results of Operations
% CHANGE
2007 VS. 2006 VS.
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS) 2007 2006 (1) 2005 2006 2005
Revenues
Principal transactions $ (12,067) $ 7,248 $ 3,647 N/M 99%
Commissions 7,284 5,985 5,277 22% 13
Investment banking 5,582 4,648 3,777 20 23
Managed accounts and other fee-based revenues 5,465 6,273 5,701 (13) 10
Earnings from equity method investments 1,627 556 567 193 (2)
Other (2,190) 2,883 1,848 N/M 56
Subtotal 5,701 27,593 20,817 (79) 33
Interest and dividend revenues 56,974 39,790 26,031 43 53
Less interest expense 51,425 35,571 21,571 45 65
Net interest profit 5,549 4,219 4,460 32 (5)
Gain on merger – 1,969 – N/M N/M
Revenues, net of interest expense 11,250 33,781 25,277 (67) 34
Non-interest expenses:
Compensation and benefits 15,903 16,867 12,314 (6) 37
Communications and technology 2,057 1,838 1,599 12 15
Brokerage, clearing, and exchange fees 1,415 1,096 855 29 28
Occupancy and related depreciation 1,139 991 931 15 6
Professional fees 1,027 885 729 16 21
Advertising and market development 785 686 593 14 16
Office supplies and postage 233 225 209 4 8
Other 1,522 1,383 1,286 10 8
Total non-interest expenses 24,081 23,971 18,516 0 29
Pre-tax (loss)/earnings from continuing operations $ (12,831) $ 9,810 $ 6,761 N/M 45
Income tax (benefit)/expense (4,194) 2,713 1,946 N/M 39
Net (loss)/earnings from continuing operations $ (8,637) $ 7,097 $ 4,815 N/M 47
Discontinued operations:
Pre-tax earnings from discontinued operations $ 1,397 $ 616 $ 470 127 31
Income tax expense 537 214 169 151 27
Net earnings from discontinued operations $ 860 $ 402 $ 301 114 34
Net interest profit is a function of (i) the level and mixof total assets and liabilities, including trading assets owned, deposits, financing and
lending transactions, and trading strategies associated with our businesses, and (ii) the prevailing level, term structure and volatility of
interest rates. Net interest profit is an integral component of trading activity. In assessing the profitability of our client facilitation and
trading activities, we view principal transactions and net interest profit in the aggregate as net trading revenues. Changes in the
composition of trading inventories and hedge positions can cause the mixof principal transactions and net interest profit to fluctuate. Net
interest profit was $5.5 billion, up 32% from 2006 due primarily to higher net interest revenue from deposit spreads earned and higher
returns from interest-bearing assets reflecting higher average asset balances in 2007, partially offset by increased interest expense
driven by increased average long and short-term borrowings in 2007. Net interest profit is reported in both our GMI and GWM
business segments.
Commissions revenues primarily arise from agency transactions in listed and OTC equity securities and commodities, insurance
products and options. Commission revenues also include distribution fees for promoting and distributing mutual funds and hedge funds.
Commission revenues were $7.3 billion, up 22% from 2006, due primarily to an increase in global transaction volumes, particularly in
listed equities and mutual funds as a result of increased market volatility. Commissions revenues are primarily reported in our GMI
business segment, and a portion is also reported in GWM.
Investment banking revenues include (i) origination revenues representing fees earned from the underwriting of debt, equity and equity-
linked securities, as well as loan syndication and commitment fees and (ii) strategic advisory services revenues including merger and
acquisition and other investment banking advisory fees. Investment banking revenues were $5.6 billion, up 20% from 2006, driven by
increased revenues in equity origination and strategic advisory services, which were partially offset by a decline in revenues from debt
origination primarily related to the leveraged finance business. Investment banking revenues are primarily reported in our GMI business
segment but also include origination revenues in GWM. Please refer to the Investment Banking discussion within the GMI business
segment results for additional detail on the key drivers.
Managed accounts and other fee-based revenues primarily consist of asset-priced portfolio service fees earned from the administration
of separately managed and other investment accounts for retail investors, annual account fees, and certain other account-related fees.
In addition, until the BlackRock merger at the end of the third quarter of 2006, managed accounts and other fee-based revenues also
included fees earned from the management and administration of retail mutual funds and institutional funds such as pension assets,
and performance fees earned on certain separately managed accounts and institutional money management arrangements. Managed
accounts and other fee-based revenues were $5.5 billion, down 13% from 2006, driven primarily by the absence of MLIM’s asset
management revenues in 2007 as a result of the BlackRock merger at the end of the third quarter of 2006. This decrease was partially
offset by higher asset-based fees in GWM reflecting the impact of net inflows into fee-based accounts and higher average equity market
values. Managed accounts and other fee-based revenues are primarily driven by our GWM business segment. Please refer to the GWM
business segment discussion for additional detail on the key drivers.
Earnings from equity method investments include our pro rata share of income and losses associated with investments accounted for
under the equity method of accounting. Earnings from equity method investments were $1.6 billion, up 193% from 2006 primarily driven
page 33
by increased earnings from our investments in BlackRock and certain partnerships. Refer to Note 5 to the Consolidated Financial
Statements for further information on equity method investments.
Other revenues include gains/(losses) on investment securities, including unrealized losses on certain available-for-sale securities,
gains/(losses) on private equity investments that are held forcapital appreciation and/orcurrent income, and gains/(losses) on loans and
other miscellaneous items. Other revenues were negative $2.2 billion, compared to $2.9 billion in 2006. The decrease primarily reflects
loan-related losses of $1.7 billion, a year-over-year decrease in the value of our private equity investments of $1.2 billion, due primarily
to the decline in value of our publicly traded investments, other than temporary impairment charges on available-for-sale securities of
approximately $900 million and write-downs of approximately $600 million on leveraged finance commitments.
The gain on the merger with BlackRock was $2.0 billion in 2006. This non-recurring gain entirely related to the merger of Merrill Lynch’s
MLIM business with BlackRock that was completed in the third quarter of 2006. For more information on this merger, refer to Note 18 to
the Consolidated Financial Statements.
Compensation and benefits expenses were $15.9 billion for 2007, compared to $16.9 billion in 2006, which included a one-time charge of
approximately $1.8 billion related to the adoption of SFAS No. 123R Share Based Payment (“SFAS No. 123R”). Excluding this one-time
charge in 2006, compensation expenses were up approximately 6%, reflecting higher staffing levels and increased productivity from
financial advisors, partially offset by the absence of compensation expenses related to MLIM in 2007. While compensation expenses
increased, average compensation per employee was down in 2007 from 2006 levels. See Exhibit 99.1, filed with our 2007 10-K, for a
reconciliation of non-GAAP measures.
Non-compensation expenses were $8.2 billion in 2007, up 15% from 2006. Communication and technology costs were $2.1 billion, up
12% from 2006 primarily due to increased costs related to a significant numberof system development projects. Brokerage, clearing and
exchange fees were $1.4 billion, up 29% from 2006, primarily due to higher transaction volumes, higher equity brokerage fees and
exchange fees. Occupancy costs and related depreciation were $1.1 billion, up 15% from a year-ago principally due to higher office rental
expenses and office space added via acquisitions. Professional fees were $1.0 billion, up 16% from 2006 driven by higher legal and other
professional costs. Advertising and market development costs were $785 million, up 14% from 2006 primarily due to increased costs
associated with increased business activity and higher deal-related expenses. Other expenses were $1.5 billion, up 10% from a year ago
due primarily to the write-off of $160 million of identifiable intangible assets related to our acquisition of the First Franklin mortgage
origination franchise and related servicing platform acquired from National City Corporation (collectively “First Franklin”). For further
information on First Franklin, refer to Note 16 to the Consolidated Financial Statements.
As part of our U.S. sub-prime residential mortgage-related activities, sub-prime mortgage loans were originated through First Franklin
or purchased in pools from third-party originators for subsequent sale or securitization. Mortgage-backed securities are structured
based on the characteristics of the underlying mortgage collateral, sold to investors and subsequently traded in the secondary capital
markets. As a result of the significant deterioration in the sub-prime mortgage market in 2007, we have substantially reduced our
U.S. sub-prime residential mortgage origination, mortgage purchase, and securitization activities, as well as warehouse lending
facilities. As of December 28, 2007 we have ceased originating sub-prime mortgages and are evaluating our continued involvement in
this market.
At December 28, 2007, our U.S. sub-prime residential mortgage net exposure (excluding Merrill Lynch’s bank sub-prime residential
mortgage-related securities portfolio which is described in U.S. Banks Investment Securities Portfolio) consisted of the following:
• Sub-prime whole loans: First Franklin originated mortgage loans through its retail and wholesale channels. Additionally, we
purchased pools of whole loans from third-party mortgage originators. As a result of the significant deterioration in the sub-prime
mortgage market in 2007, we currently are not originating or purchasing sub-prime residential mortgages. Prior to their sale or
securitization, whole loans are predominantly reported on our consolidated balance sheets in loans, notes and mortgages and we
account for such loans as held for sale.
The following table provides a summary of our residential mortgage-related net exposures and losses, excluding net exposures to
residential mortgage-backed securities held in our U.S. banks for investment purposes which is described in the U.S. Banks Investments
Securities Portfolio section below.
NET EXPOSURES NET LOSSES FOR THE
AS OF YEAR ENDED
(DOLLARS IN MILLIONS) DEC. 28, 2007 DEC. 28, 2007 (1)
During 2007, our U.S. sub-prime residential mortgage-related net exposures declined significantly as a result of unrealized losses
incurred, securitizations, sales, hedges and changes in loan commitments and related funding.
• U.S. Alt-A: We had net exposures of $2.7 billion at the end of 2007, which consisted primarily of residential mortgage-backed
securities collateralized by Alt-A residential mortgages. These net exposures resulted from secondary market trading activity or
were retained from our securitizations of Alt-A residential mortgages, which were purchased from third-party mortgage originators.
We do not originate Alt-A mortgages.
We view Alt-A mortgages as single-family residential mortgages that are generally higher credit quality than sub-prime loans but
have characteristics that would disqualify the borrower from a traditional prime loan. Alt-A lending characteristics may include one
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or more of the following: (i) limited documentation; (ii) high combined-loan-to-value (‘‘CLTV”) ratio (CLTV greater than 80%); (iii) loans
secured by non-owner occupied properties; or (iv) debt-to-income ratio above normal limits.
• U.S. Prime: We had net exposures of $28.2 billion at the end of 2007, which consisted primarily of prime mortgage whole loans,
including approximately $12 billion of prime loans originated with GWM clients and $9.7 billion of prime loans originated by First
Republic, an operating division of Merrill Lynch Bank & Trust Co., FSB (“MLBT-FSB”). We also purchase prime whole loans from
third-party originators for securitization and for the investment portfolios of Merrill Lynch Bank USA (“MLBUSA”) and MLBT-FSB.
• Non-U.S.: We had net exposures of $9.6 billion at the end of 2007 which consisted primarily of residential mortgage whole loans
originated in the United Kingdom, as well as through mortgage originators in the Pacific Rim.
• Mortgage Servicing Rights: We own approximately $400 million of mortgage servicing rights which represent the right to current
and future cash flows based on contractual servicing fees for mortgage loans. In connection with our residential mortgage
businesses, we may retain or acquire mortgage servicing rights. See Note 6 to the Consolidated Financial Statements for
further information.
U.S. ABS CDO Activities
In addition to our U.S. sub-prime residential mortgage-related exposures, we have exposure to U.S. ABS CDOs, which are securities
collateralized by a pool of asset-backed securities (“ABS”), for which the underlying collateral is primarily sub-prime residential
mortgage loans.
We engaged in the underwriting and sale of U.S. ABS CDOs, which involved the following steps: (i) determining investor interest or
responding to inquiries or mandates received; (ii) engaging a CDO collateral manager who is responsible for selection of the ABS
securities that will become the underlying collateral for the U.S. ABS CDO securities; (iii) obtaining credit ratings from one or more rating
agencies for U.S. ABS CDO securities; (iv) securitizing and pricing the various tranches of the U.S. ABS CDO at representative market
rates; and (v) distributing the U.S. ABS CDO securities to investors or retaining them for Merrill Lynch. As a result of the significant
deterioration in the sub-prime mortgage market in 2007, we currently are not underwriting U.S. ABS CDOs.
Our U.S. ABS CDO net exposure primarily consists of our super senior ABS CDO portfolio, as well as secondary trading exposures related
to our ABS CDO business.
U.S. Super Senior ABS CDO Portfolio
Super senior positions represent our exposure to the senior most tranche in an ABS CDO’s capital structure. This tranche’s claims have
priority to the proceeds from liquidated cash ABS CDO assets. Our exposure to super senior ABS CDOs includes the following securities,
which are primarily held as derivative positions in the form of total return swaps:
• High-grade super senior positions, which are ABS CDOs with underlying collateral having an average credit rating of Aa3/A1 at
inception of the underwriting by Moody’s Investor Services;
• Mezzanine super senior positions, which are ABS CDOs with underlying collateral having an average credit rating of Baa2/Baa3 at
inception of the underwriting by Moody’s Investor Services; and
• CDO-squared super senior positions, which are ABS CDOs with underlying collateral consisting of other ABS CDO securities which
have collateral attributes typically similar to high-grade and mezzanine super senior positions.
Despite the credit rating of these ABS CDO securities (typically AAA at inception of the underwriting), their fairvalue at December 28, 2007
reflected unprecedented market illiquidity and the deterioration in the value of the underlying sub-prime mortgage collateral.
Additionally, rating agencies have been actively reviewing, and in some cases downgrading, these assets and we expect that they will
continue to be subject to ongoing rating agency review in the near term.
Secondary Trading Related to the ABS CDO Business
We have secondary trading exposures related to our ABS CDO business, which consists of RMBS and CDO positions previously held in
CDO warehouses awaiting securitization, retained securities from CDO securitizations, and related hedges.
For total U.S. super senior ABS CDOs, long exposures were $30.4 billion and short exposures were $23.6 billion at December 28, 2007.
Short exposures primarily consist of purchases of credit default swap protection from various third parties, including financial
guarantors, insurers and other market participants.
Financial Guarantors
We hedge a portion of our gross exposures to U.S. super senior ABS CDOs with various market participants, including financial
guarantors. Financial guarantors are generally highly rated monoline insurance companies that provide credit support for a security
either through a financial guaranty insurance policy on a particular security or through an instrument such as a credit default swap
(“CDS”). Under a CDS, the financial guarantor generally agrees to compensate the counterparty to the swap for the deterioration in the
value of the underlying security upon an occurrence of a credit event, such as a failure by the underlying obligor on the security to pay
principal or interest.
We hedged a portion of our gross exposures on U.S. super senior ABS CDOs with certain financial guarantors through the execution of
CDS that are structured to replicate standard financial guaranty insurance policies, which provide for timely payment of interest and
ultimate payment of principal at their scheduled maturity date. CDS gains and losses are based on the fair value of the referenced ABS
CDOs. Depending upon the creditworthiness of the financial guarantor hedge counterparty, we may record credit valuation adjustments
in estimating the fair value of the CDS.
At December 28, 2007 our short exposures from credit default swaps with financial guarantors to economically hedge certain U.S. super
senior ABS CDOs was $13.8 billion, which represented credit default swaps with a notional amount of $19.9 billion that have been
adjusted for mark-to-market gains of $6.1 billion. The fair value of these credit default swaps at December 28, 2007 was $3.5 billion, after
taking into account a $2.6 billion credit valuation adjustment related to certain financial guarantors. Subsequent to year-end, market
conditions have deteriorated resulting in negative rating agency actions forcertain financial guarantors. We continue to monitor industry
and company specific developments. Further credit deterioration of the financial guarantors who are counterparties to our credit
derivatives could have an adverse effect on our future financial performance.
The following table provides a summary of our total financial guarantor exposures for U.S. super senior ABS CDOs as of Decem-
ber 28, 2007.
NOTIONAL
OF CDS,
NET OF GAINS MARK-TO-MARKET
PRIOR TO CREDIT GAINS PRIOR TO CREDIT
NOTIONAL VALUATION CREDIT VALUATION VALUATION MARK-TO-MARKET
(DOLLARS IN MILLIONS) OF CDS (1) ADJUSTMENT ADJUSTMENTS ADJUSTMENTS VALUE OF CDS
page 37
U.S. Banks Investment Securities Portfolio
The investment securities portfolio of MLBUSA and MLBT-FSB includes investment securities comprising various asset classes. The
investment portfolio includes sub-prime mortgage-related securities, as well as ABS CDOs whose underlying collateral includes
certain sub-prime residential mortgage-backed securities. See Note 5 to the Consolidated Financial Statements for realized and
unrealized gains and losses associated with Merrill Lynch’s investment securities.
At December 28, 2007, our net exposures to sub-prime mortgage related securities and ABS CDOs whose underlying collateral includes
sub-prime residential mortgage-backed securities in the U.S. banks investment portfolio was $4.2 billion. The amount of losses related
to these securities recognized in our 2007 Consolidated Statement of (Loss)/Earnings was approximately $700 million.
MLBUSA acts as administrator to a Merrill Lynch established asset-backed commercial paperconduit (“Conduit”) vehicle and previously
acted as administrator for another Merrill Lynch established Conduit. MLBUSA also either provides or provided liquidity facilities to
these Conduits and to a third Conduit, not established by Merrill Lynch, that protect commercial paper holders against short term
changes in the fair value of the assets held by the Conduits in the event of a disruption in the commercial paper market, as well as credit
facilities to the Conduits that protect commercial paper investors against credit losses for up to a certain percentage of the portfolio of
assets held by the respective Conduits. The assets owned by these Conduits included sub-prime residential mortgage-backed securities
and ABS CDO securities whose underlying collateral included certain sub-prime residential mortgage-backed securities. During the
fourth quarter of 2007, Merrill Lynch purchased the remaining assets of one of the Merrill Lynch established Conduits through the
exercise of its liquidity facility and as a result the facility is no longer outstanding. Merrill Lynch does not have any remaining exposure to
this Conduit as it is inactive. The assets remaining in the other Merrill Lynch established Conduit are primarily auto and equipment loans
and lease receivables. In the fourth quarter of 2007, Merrill Lynch became the primary beneficiary for the remaining Conduit, which was
not established by Merrill Lynch, as a result of a reconsideration event under FIN 46R. This Conduit was consolidated by Merrill Lynch and
the facility is not considered outstanding. Refer to Notes 6 and 11 to the Consolidated Financial Statements for more information
on Conduits.
Compensation and benefits expenses were $16.9 billion in 2006, up 37% from 2005, reflecting higher incentive compensation associated
with increased net revenues, as well as higher staffing levels. Our 2006 compensation and benefit expenses also reflect the non-cash
compensation expenses incurred in 2006 of $1.8 billion related to the adoption of SFAS No. 123R. Compensation and benefits expenses
were 49.9% of net revenues for 2006, as compared to 48.7% in 2005. Excluding the one-time impacts related to the adoption of
SFAS No. 123R and the BlackRock merger, compensation and benefits were 47.0% of net revenues for 2006. See Exhibit 99.1, filed with
our 2007 10-K, for a reconciliation of non-GAAP measures.
Non-compensation expenses were $7.1 billion in 2006, up 15% from 2005. Communications and technology costs were $1.8 billion, up
15% from 2005, due primarily to costs related to technology investments for growth, including acquisitions, and higher market
information and communications costs. Brokerage, clearing and exchange fees were $1.1 billion, up 28% from 2005, mainly due to
increased transaction volumes. Professional fees were $885 million, up 21% from 2005, reflecting higher legal and consulting fees
primarily associated with increased business activity levels. Advertising and market development expenses were $686 million, up 16%
Income Taxes
Income taxes from continuing operations for 2007 were a net credit of $4.2 billion, reflecting a tax benefit associated with the Company’s
pre-tax losses. Our 2007 effective tax rate from continuing operations was 32.7%, compared with an effective rate of 27.7% in 2006. The
change in the effective tax rate reflected a tax benefit from carry-back claims that reduced the 2006 tax rate and the mix of business. Our
2006 effective tax rate of 27.7% compared with 28.8% in 2005 and reflected a $296 million reduction in the tax provision arising from carry-
back claims covering the years 2001 and 2002. Our 2005 tax provision of $1.9 billion reflected the net impact of the business mix, tax
settlements, and $97 million of tax associated with the repatriation of $1.8 billion of foreign earnings.
Business Segments
Our operations are currently organized into two business segments: GMI and GWM. GMI provides full service global markets and
origination products and services to corporate, institutional, and government clients around the world. GWM creates and distributes
investment products and services for individuals, small- and mid-size businesses, and employee benefit plans. For information on the
principal methodologies used in preparing the segment results, refer to Note 2 of the Consolidated Financial Statements.
The following segment results represent the information that is relied upon by management in its decision-making processes. These
results exclude corporate items. Prior year business segment results are restated to reflect reallocations of revenues and expenses that
result from changes in our business strategy and organizational structure. Revenues and expenses associated with inter-segment
activities are recognized in each segment. In addition, revenue and expense sharing agreements for joint activities between segments
are in place, and the results of each segment reflect their agreed-upon apportionment of revenues and expenses associated with these
activities. See Note 2 to the Consolidated Financial Statements for further information. Segment results are presented from continuing
operations and exclude results from discontinued operations. Refer to Note 17 to the Consolidated Financial Statements for additional
information on discontinued operations.
Results for the year ended December 29, 2006 include one-time compensation expenses, as follows: $1.4 billion in GMI, $281 million in
GWM and $109 million in MLIM; refer to Note 1 of the Consolidated Financial Statements for further information on one-time
compensation expenses.
Global Markets and Investment Banking
GMI provides trading, capital markets services, and investment banking services to issuer and investor clients around the world. The
Global Markets division consists of the fixed income, currencies, commodities, and equity sales and trading activities for investor clients
and on a proprietary basis, while the Investment Banking division provides a wide range of origination and strategic advisory services for
issuer clients. Global Markets makes a market in securities, derivatives, currencies, and other financial instruments to satisfy client
demands. In addition, Global Markets engages in certain proprietary trading activities. Global Markets is a leader in the global
distribution of fixed income, currency and energy commodity products and derivatives. Global Markets also has one of the largest equity
trading operations in the world and is a leader in the origination and distribution of equity and equity-related products. Further, Global
Markets provides clients with financing, securities clearing, settlement, and custody services and also engages in principal investing in a
variety of asset classes and private equity investing. The Investment Banking division raises capital for its clients through underwritings
and private placements of equity, debt and related securities, and loan syndications. Investment Banking also offers advisory services to
clients on strategic issues, valuation, mergers, acquisitions and restructurings.
Global Markets
Global Markets revenues are reported in two major categories based on asset class: FICC and Equity Markets. These categories include
the following businesses:
page 39
• Municipals — responsible for origination, sales and trading of U.S. municipal securities;
• Global Rates — responsible for sales and trading activities for interest rate derivatives, U.S. government and other federal agency
securities, obligations of other sovereigns, repurchase and resale financing and debt financial futures and options;
• Global Structured Finance & Investments — responsible for asset-based lending, residential real estate lending, servicing and
securitizations related to these transactions, asset-liability management for the investment securities portfolios of our bank
subsidiaries, as well as principal and equity investments in other secured assets; and
• Other FICC — includes gains and losses from other FICC related investments and activities not directly attributable to the businesses
above and corporate allocations, including the impact associated with the widening of our credit spreads on the carrying value of
certain long-term liabilities.
Equity Markets
• Global Cash Equity Trading — responsible for our full-service cash equity trading and portfolio and electronic trading capabilities;
• Global Equity-Linked Products — responsible for sales and trading activities in equity-linked derivatives including exchange-traded
and OTC options, convertible securities, financial futures and structured products;
• Global Markets Financing and Services — responsible for equity financing and services, including prime brokerage, stock lending,
money manager services and clearing, settlement and custody functions;
• Global Private Equity — executes private equity investments and manages these assets primarily for our own account and for that of
certain investment partnerships, including employee partnerships;
• Strategic Risk Group — responsible for proprietary risk trading that encompasses both qualitative and quantitative strategies across
multiple asset classes; and
• Other Equity Markets — includes gains and losses from other Equity Markets related investments and activities not directly
attributable to the businesses above and corporate allocations, including the impact associated with the widening of our credit
spreads on the carrying value of certain long-term liabilities.
Investment Banking
Investment Banking includes the following groups:
• Corporate Finance — responsible for structured product capabilities, financial product development and commodities origination;
• Country/Sector Coverage — responsible for all origination and advisory activities across countries and sectors on behalf of
issuer clients;
• Debt Capital Markets — responsible for all capital related activities for issuer clients generated in the high-grade debt markets
including derivative products, liability management, private placements, money markets, and structured transactions;
• Equity Capital Markets — responsible for all capital related activities for issuer clients generated in the equity markets, including
convertible securities and equity derivative products;
• Executive Client Coverage — senior client relationship managers who focus exclusively on strengthening relationships and max-
imizing opportunities with key clients;
• Leveraged Finance — responsible for all financing activities for non-investment grade issuer clients, including high-yield bonds and
syndicated loans; and
• Mergers and Acquisitions — responsible for advising clients regarding strategic alternatives, divestitures, mergers, acquisition and
restructuring activities.
In FICC, many of our businesses away from U.S. ABS CDO and U.S. sub-prime continued to perform well. Our global rates and global
currencies businesses both had record years, as we continued to strengthen these businesses with incremental headcount and
infrastructure. Additionally, we continued to broaden the scope of the global commodities business in terms of product, geography, and
linkage to the broader client franchise, including trading in oil and metals and geographically in the Pacific Rim.
On December 24, 2007, we announced that we had reached an agreement to sell most of Merrill Lynch Capital, a wholly owned middle
market commercial financing business within FICC to GE Capital. This transaction reflects our continued strategic focus on divesting
non-core assets and optimizing capital allocation across businesses. The sale was completed on February 4, 2008.
Global Markets
FICC $ (15,873) $ 7,552 $ 5,798 N/M 30%
Equity Markets 8,286 6,730 4,356 23% 54
Total Global Markets revenues, net of interest
expense (7,587) 14,282 10,154 N/M 41
Investment Banking
Origination:
Debt 1,550 1,704 1,424 (9) 20
Equity 1,629 1,220 952 34 28
Strategic Advisory Services 1,740 1,099 882 58 25
Total Investment Banking revenues, net of interest
expense 4,919 4,023 3,258 22 23
Total GMI revenues, net of interest expense (2,668) 18,305 13,412 N/M 36
Non-interest expenses before one-time
compensation expenses 13,677 11,644 8,744 17 33
One-time compensation expenses – 1,369 – N/M N/M
Pre-tax (loss)/earnings from continuing
operations $ (16,345) $ 5,292 $ 4,668 N/M 13
Pre-tax profit margin N/M 28.9% 34.8%
Total full-time employees 12,300 9,500 7,700
N/M = Not Meaningful
GMI’s 2007 net revenues were negative $2.7 billion, down significantly from the record net revenues recorded in 2006. Pre-tax loss from
continuing operations was $16.3 billion, compared to record earnings from continuing operations of $5.3 billion in the prior-year period.
The 2007 loss was primarily driven by net write-downs of $20.6 billion related to U.S. ABS CDOs and sub-prime mortgages and securities,
and $2.6 billion related to increased credit valuation adjustments against financial guarantor counterparties related to U.S. ABS CDOs.
GMI’s 2007 net revenues also included a gain of approximately $1.9 billion due to the impact of the widening of Merrill Lynch’s credit
spreads on the carrying value of certain of our long-term liabilities.
GMI’s 2006 net revenues were $18.3 billion, up 36% from the prior year. Pre-tax earnings of $5.3 billion and pre-tax profit margin of 28.9%
included $1.4 billion in one-time compensation expenses incurred in the first quarter of 2006. Excluding these one-time compensation
expenses, pre-tax earnings for 2006 were $6.7 billion, up 43% from the prior year, and the pre-tax profit margin was 36.4%, compared to
34.8% in 2005. Refer to Note 1 to the Consolidated Financial Statements for further detail on the one-time compensation expenses. See
Exhibit 99.1, filed with our 2007 Form 10-K, for a reconciliation of non-GAAP measures. GMI’s growth in net revenues and pre-tax
earnings in 2006 were a result of increased revenues in FICC, Equity Markets and Investment Banking.
page 41
For 2007, FICC net revenues were negative $15.9 billion as strong revenues in global rates and globalcurrencies were more than offset by
declines in global credit and global structured finance and investments businesses, as discussed below. FICC’s 2007 net revenues
include a net benefit of approximately $1.2 billion related to changes in our credit spreads on the carrying value of certain of our long-
term liabilities.
During 2007, FICC was adversely impacted by the deterioration in the credit markets evidenced by lower levels of liquidity, reduced price
transparency, increased volatility and a weaker U.S. housing market. The combination of these market conditions resulted in
approximately $20.6 billion of net write-downs in 2007 related to our U.S. ABS CDOs, as well as our U.S. sub-prime residential
mortgage-related assets including whole loans, warehouse lending, residual positions, residential mortgage-backed securities and
sub-prime related securities held in our U.S. banks investment securities portfolio. FICC net revenues also included credit valuation
adjustments related to our hedges with financial guarantors of negative $3.1 billion including negative $2.6 billion related to U.S. super
senior ABS CDOs. These amounts reflect the write-down of ourcurrent exposure to a non-investment grade counterparty from which we
had purchased hedges covering a range of asset classes including U.S. super senior ABS CDOs.
To a lesserextent, FICC net revenues were also impacted by write-downs related to ourcorporate and financial sponsor, non-investment
grade lending commitments and write-downs related to commercial real estate exposures.
Partially offsetting these losses were strong performances in ourglobal rates and global currencies businesses, which were up 77% and
36%, respectively, compared to the prior year. Our rates business benefited from strong client flow in interest rate swaps and options and
was well positioned to take advantage of increases in both market and interest rate volatility. We also generated strong results from both
the flow derivative and short-term interest rate trading businesses. Our global currencies business performed well in all regions, where
we were well positioned to take advantage of favorable market conditions, increased volatility and increased client flow. Our global
commodities business results were down 26% from the prior year due to limited trading opportunities in commodity markets.
In 2006, FICC net revenues of $7.6 billion increased 30% from 2005, as net revenues increased for all major products. The increases in net
revenues were primarily driven by record year-over-year results in global commodities, global credit, global currencies, and global
commercial real estate.
Equity Markets
Equity Markets net revenues include commissions, principal transaction revenues and net interest profit (which we believe should be
viewed in aggregate to assess trading results), revenues from equity method investments, changes in fair value on private equity
investments, and other revenues.
For 2007, Equity Markets net revenues were a record $8.3 billion, up 23% from the prior year period, driven by our equity-linked business
which was up nearly 80%, global cash equity trading business which was up over 30% and global markets financing and services
business, which includes prime brokerage, which was up over 45%. Results in our global cash equity trading business were driven by
volume growth in our electronic trading business, which increased 90% over 2006. Equity prime broker balances increased over 50%
from 2006. Ourequity-linked business increased over 2006 due to client related activities in structured products and index options. These
increases in Equity Markets net revenues for the year more than offset a year-over-year decline in net revenues from our global private
equity business of $1.2 billion, driven primarily by the decline in the value of our publicly traded investments. Equity Markets 2007 net
revenues include a gain of approximately $700 million related to changes in the carrying value of certain of our long-term liabilities.
Equity Markets net revenues in 2006 of $6.7 billion increased 54% from 2005 with positive results across every major line of business. The
increase in revenues was primarily driven by global private equity, the strategic risk group, global equity-linked trading and the global
markets equity financing and services business, which includes prime brokerage.
Investment Banking
For 2007, Investment Banking net revenues were a record $4.9 billion, up 22% from the prior-year period. The increases in strategic
advisory services and equity origination, more than offset a decline in debt origination revenues.
Origination
Origination revenues represent fees earned from the underwriting of debt, equity and equity-linked securities as well as loan
syndication fees.
For 2007, origination revenues were $3.2 billion, up 9% from 2006. Equity origination revenues were up 34% compared with 2006, while
debt origination revenues were down 9%. The increase in revenues forequity origination compared to the prior-year period was primarily
related to an increase in deal volume for the first half of 2007, partially offset by the industry-wide slowdown in activity during the second
half of 2007. Debt origination experienced similar trends with deal volume increasing for the first half of 2007, while the industry-wide
slowdown in activity during the second half of 2007 more than offset the increases in the first half of the year.
Strategic advisory services revenues were $1.1 billion in 2006, up 25% from 2005 on increased transaction volumes.
For additional information on GMI’s segment results, refer to Note 2 to the Consolidated Financial Statements.
GPC provides a full range of wealth management products and services to assist clients in managing all aspects of their financial profile
through the Total Merrill| platform. Total Merrill| is the platform for GPC’s core strategy offering investment choices, brokerage, advice,
planning and/or performance analysis to its clients. GPC’s offerings include commission and fee-based investment accounts; banking,
cash management, and credit services, including consumer and small business lending and Visa® cards; trust and generational
planning; retirement services; and insurance products. GPC services individuals and small- and middle-market corporations and
institutions through approximately 16,740 FAs and 200 First Republic relationship managers in 735 offices around the world as of
December 28, 2007.
GIM includes our interests in creating and managing wealth management products, including alternative investment products for
clients. GIM also includes our share of net earnings from our ownership positions in other investment management companies,
including BlackRock.
To be more responsive to our clients’ needs and to enhance the quality of our clients’ experience, GPC offers a multi-channel service
model that more closely aligns our FAs with clients based on levels of investable assets. The FAs focus primarily on clients with more
than $100,000, but less than $10 million of investable assets. Private Wealth Advisors who have completed a rigorous accreditation
program focus primarily on clients with more than $10 million of investable assets. GPC’s Financial Advisory Center, a team-based
service platform with client access by telephone and internet, is focused primarily on U.S. clients with less than $100,000 of investable
assets. GPC also uses International Financial Advisory Centers to more effectively serve non-U.S. clients with lower levels of
investable assets.
To help align products and services to each client’s specific investment requirements and goals, GPC offers a choice of traditional
commission-based investment accounts, a variety of asset-priced investment advisory services and self-directed online accounts.
Assets in GPC accounts totaled $1.75 trillion at December 28, 2007, an 8% increase from December 29, 2006, due primarily to net new
money and market appreciation.
Individual clients access the full range of GPC brokerage and advisory services through the Cash Management Account® (“CMA®”), a
product that combines investment and cash management transactions, as well as Visa® cards, check writing and ATM access. At the end
of 2007, there were approximately 2.3 million CMA® accounts with aggregate assets of approximately $809 billion. Small- and medium-
page 43
sized businesses obtain a wide range of securities account and cash management services through the Working Capital Management
Account® (“WCMA account”) and related services. The WCMA account combines business checking, investment and electronic funds
transfer services into one account for participating business clients. At the end of 2007, there were approximately 115,400 WCMA
accounts with aggregate assets of more than $126 billion.
GPC provides electronic brokerage services through Merrill Lynch Direct®, an internet-based brokerage service for U.S. clients
preferring a self-directed approach to investing. Merrill Lynch Direct® offers trading of equities, mutual funds and select fixed income
securities, access to our proprietary research as well as other research, and a variety of online investing tools.
Retirement Services
The Merrill Lynch Retirement Group is responsible for approximately $442 billion in retirement assets for approximately 6.5 million
individuals. This group provides a wide variety of investment and custodial services to individuals in the United States through Individual
Retirement Accounts (“IRAs”) or through one of approximately 39,000 workplace-based retirement programs serviced by the group. We
also provide investment, administration, communications and consulting services to corporations and their employees for their
retirement programs. These programs include equity award and executive services, 401(k), pension, profit-sharing and non-qualified
deferred compensation plans, as well as other retirement benefit plans. In addition, we offer Merrill Lynch Advice Access®, an investment
advisory service for individuals in retirement plans that provides plan participants with the option of obtaining advice through their local
FA, an advisor at the Financial Advisory Center or through our Benefits Online® website.
Alternative Investments
Through its alternative investments business, GIM creates and manages a broad array of alternative investment choices for clients.
Unlike traditional investments such as mutual funds, whose performance is largely dependent on the direction of the broader market,
many alternative investment strategies seek positive returns in any market or economic environment. Our alternative investments
business offers a range of investment choices, including offering qualified high-net-worth clients access to a wide range of hedge
fund strategies.
BlackRock
We own a 45% voting interest and approximately half of the economic interest of BlackRock, which is one of the world’s largest publicly
traded investment management firms with approximately $1.4 trillion in assets under management at the end of 2007. BlackRock
manages assets on behalf of institutions and individuals worldwide through a variety of equity, fixed income, cash management, and
alternative investment products.
On September 21, 2007, we acquired all of the outstanding common shares of First Republic in exchange for a combination of cash and
stock for a total transaction value of $1.8 billion. First Republic, which now operates as a division of Merrill Lynch Bank & Trust Co. FSB,
provides personalized, relationship-based banking services, including private banking, private business banking, real estate lending,
trust, brokerage and investment management. The results of operations of First Republic have been included in GWM since the
transaction closed. Refer to Note 16 to the Consolidated Financial Statements for additional information.
On December 28, 2007, we sold MLIG to AEGON for $1.3 billion, which resulted in an after-tax gain of $316 million in discontinued
operations. We will maintain a strategic business relationship with AEGON in the areas of insurance and investment products, and will
GPC
Fee-based revenues $ 6,278 $ 5,499 $ 4,743 14% 16%
Transactional and origination revenues 3,887 3,397 3,264 14 4
Net interest profit and related hedges(1) 2,318 2,103 1,763 10 19
Other revenues 416 301 310 38 (3)
Total GPC revenues, net of interest expense 12,899 11,300 10,080 14 12
GIM
Total GIM revenues, net of interest expense 1,122 541 409 107 32
Total GWM revenues, net of interest expense 14,021 11,841 10,489 18 13
Non-interest expenses before one-time
compensation expenses 10,391 9,270 8,422 12 10
One-time compensation expenses – 281 – N/M N/M
Pre-tax earnings from continuing operations $ 3,630 $ 2,290 $ 2,067 59 11
Pre-tax profit margin 25.9% 19.3% 19.7%
Total full-time employees 31,000 28,400 26,900
Total Financial Advisors 16,740 15,880 15,160
N/M = Not Meaningful
(1) Includes interest component of non-qualifying derivatives which are included in other revenues on the Consolidated Statements of (Loss)/Earnings.
GWM’s net revenues in 2007 were $14.0 billion, an increase of 18% over the prior year, reflecting strong growth in both GPC and GIM’s
businesses. GWM generated $3.6 billion of pre-tax earnings from continuing operations, up 59% from the prior year. The pre-tax profit
margin was 25.9% in 2007, compared with 19.3% in the prior year. Our share of the after-tax earnings of BlackRock is included in the GIM
portion of GWM revenues for the full year of 2007, but for only the fourth quarter of 2006, as the BlackRock merger occurred on
September 29, 2006.
GWM’s net revenues in 2006 were $11.8 billion, an increase of 13% over 2005, reflecting strong growth in both GPC and GIM’s businesses,
as well as the inclusion of our share of fourth quarter 2006 after-tax earnings of BlackRock. Pre-tax earnings were up 11% to $2.3 billion.
Assets in annuitized-revenue products at year-end 2007 were $655 billion, up 7% from 2006, driven by both market appreciation and net
inflows. Total client assets in GWM accounts ended the year at $1.75 trillion. Total net new money was $80 billion in 2007, up 33% from
2006. This was the highest full year net new money inflow in over six years and included higher than normal inflows into money funds and
other low risk asset classes, consistent with clients seeking to reduce their risk exposure during the difficult second half of the year.
GWM’s net inflows of client assets into annuitized-revenue products were $38 billion in 2007, down 21% from 2006 due to regulatory
changes that resulted in our decision to no longer offer fee-based brokerage accounts.
In March 2007, the U.S. Court of Appeals for the District of Columbia Circuit held that the SEC exceeded its rulemaking authority with
respect to Rule 202(a)(11)-1 of the Investment Advisers Act of 1940 (the “Fee-Based Rule”). The Fee-Based Rule generally exempted
certain broker-dealers from the requirement to register as investment advisers under the Advisers Act with respect to the offering of fee-
based brokerage services. In its decision, the court overturned the Fee-Based Rule in its entirety. During the third quarter of 2007, after
review of this decision with representatives of the SEC, we informed clients of our decision to no longer offer our Merrill Lynch Unlimited
Advantage® (“MLUA”) account, and our Financial Advisors worked with MLUA clients to transfer their assets to an alternative account
platform. During the fourth quarter of 2007, more than $100 billion of client assets were transitioned from MLUA accounts into other
account platforms with approximately 75% transitioning into other fee-based accounts. While the remaining 25% of client assets
migrated to traditional commission-based accounts, virtually no client assets were transferred outside of Merrill Lynch. Excluding the
impact of the MLUA transition, net new money into annuitized-revenue products would have been over $20 billion higher in 2007. While
this decision affected certain of our service offerings to certain clients, we do not expect it to have a material impact on our future
financial results.
page 45
due to higher asset values and strong flows into fee-based products, as well as higher net interest profit and transactional and
origination revenues.
In 2007, GPC added a net of 860 FAs, driven by continued retention of current FAs and recruitment of new FAs, as GPC continued to
successfully execute its strategy for recruiting and training high-quality FAs.
GPC generated a record $6.3 billion of fee-based revenues in 2007, up 14% from 2006. In 2006, fee-based revenues totaled $5.5 billion, up
16% from 2005. Both 2007 and 2006 increases in fee-based revenues were due to higher market values and strong flows into
annuitized-revenue products.
The value of client assets in GWM accounts at year-end 2007, 2006 and 2005 follows:
(DOLLARS IN BILLIONS) 2007 2006 2005
Transactional and origination revenues were $3.4 billion in 2006, up 4% from the prior year with increases in both transaction-related
revenues and origination revenues.
Net Interest Profit and Related Hedges
Net interest profit (interest revenues less interest expenses) and related hedges include GPC’s allocation of the interest spread earned in
our banking subsidiaries fordeposits, as well as interest earned, net of provisions for loan losses, on securities-based loans, mortgages,
small- and middle-market business and other loans, corporate funding allocations, and the interest component of non-qualify-
ing derivatives.
GPC’s net interest profit and related hedges were $2.3 billion in 2007, up 10% from 2006, primarily due to higher net interest revenue from
deposits and additional interest from First Republic since the date of acquisition on September 21, 2007. GPC’s net interest profit and
related hedges were $2.1 billion in 2006, up 19% from 2005. The 2006 increase primarily reflected higher margins on deposits resulting
from rising short-term interest rates and lower provisions for loan losses associated with the small- and middle-market business
loan portfolio.
Other Revenues
GPC’s other revenues were $416 million in 2007, up 38% from 2006, primarily due to additional revenues from the distribution of mutual
funds and foreign exchange gains.
GPC’s other revenues were $301 million in 2006, down 3% from 2005, due in part to lower mortgage-related revenues.
GIM’s 2007 revenues of $1.1 billion were up 107% from 2006, driven by the inclusion of revenues for a full year from our investment in
BlackRock, and to a lesser extent increases in revenues from our investments in other alternative asset management companies. GIM’s
2006 revenues of $541 million were up 32% from 2005, primarily due to the inclusion of revenues from our ownership position in
BlackRock, as well as growth in revenues from our investments in other alternative asset management companies.
MLIM
Asset management fees $ 1,560 $ 1,573 (1)%
Commissions 83 105 (21)
Other revenues 257 129 99
Total MLIM net revenues, net of interest expense 1,900 1,807 5
Non-interest expenses before one-time compensation expenses 1,154 1,221 (5)
One-time compensation expenses 109 – N/M
Pre-tax earnings from continuing operations $ 637 $ 586 9
Pre-tax profit margin 33.5% 32.4%
Total full-time employees – 2,600
N/M = Not Meaningful
(1) 2006 results include only nine months of operations prior to the BlackRock merger at the end of the third quarter of 2006.
MLIM’s net revenues for 2006, reflecting only nine months of operations, increased 5% over those for the full year 2005, to $1.9 billion,
driven by strong net sales and asset appreciation. Pre-tax earnings of $637 million, reflecting only nine months of operations, and pre-tax
profit margin of 33.5% included $109 million in one-time compensation expenses incurred in 2006. Excluding these one-time
compensation expenses, pre-tax earnings were $746 million, increasing 27% over the prior year, and the pre-tax profit margin
was 39.3%, up nearly 7 percentage points from 32.4% in 2005. Refer to Note 1 to the Consolidated Financial Statements for further detail
on the one-time compensation expenses. See Exhibit 99.1, filed with our 2007 Form 10-K, for a reconciliation of non-GAAP measures.
Asset management fees for the first nine months of 2006 were $1.6 billion, down slightly from the full year revenues in 2005, but up 37%
from the first nine months of 2005, driven by strong net sales and asset appreciation.
Commissions
Commissions for MLIM principally consisted of distribution fees and contingent deferred sales charges (“CDSC”) related to mutual
funds. The distribution fees represented revenues earned for promoting and distributing mutual funds, and the CDSC represented fees
earned when a shareholder redeemed shares prior to the required holding period. Commission revenues were $83 million for the first
nine months of 2006, down 21% from the full year of 2005, but up 5% from the first nine months of 2005.
Other Revenues
Other revenues primarily included net interest profit, investment gains and losses and revenues from consolidated investments. Other
revenues totaled $257 million for the first nine months of 2006, up from $129 million for the full year of 2005 reflecting increased
investment gains from consolidated investments.
page 47
Geographic Information
Our operations are organized into five regions which include: the United States; Europe, Middle East, and Africa (“EMEA”); Pacific Rim;
Latin America; and Canada. Revenues and expenses are generally recorded based on the location of the employee generating the
revenue or incurring the expense without regard to legal entity. The information that follows, in management’s judgment, provides a
reasonable representation of each region’s contribution to the consolidated net revenues:
% CHANGE
2007 VS. 2006 VS.
(DOLLARS IN MILLIONS) 2007 2006 (1) 2005 2006 2005
Non-U.S. net revenues for 2007 increased to a record $12.9 billion, up 7% from 2006. This increase was mainly attributable to higher net
revenues generated from the Pacific Rim and Latin America regions, partially offset by a decrease in EMEA. Growth in non-U.S. net
revenues was generated across all major businesses in 2007. For GMI, non-U.S. net revenues increased 16% from the prior year. For
GWM, non-U.S. net revenues increased 24% from 2006 and represented 11% of the total GWM net revenues.
Net revenues in EMEA were $6.0 billion in 2007, a decrease of 13% from 2006, which included MLIM net revenues of approximately
$775 million. The decrease from the prior year was also driven by lower net revenues from GMI, mainly within FICC. Within our FICC
business, we experienced lower net revenues primarily driven by our structured finance and commercial real estate businesses. In
addition, net revenues from our private equity business declined in 2007 by approximately $400 million compared to 2006. These
decreases were partially offset by higher net revenues in our Equity Markets business reflecting strong performances from equity-
linked, financing and services (which includes prime brokerage), and cash equities trading activities. Investment Banking net revenues
increased from a year ago as increases from our strategic advisory services and equity origination activities more than offset declines in
our debt origination.
Net revenues in EMEA were $6.9 billion in 2006, up 45% from 2005. This increase resulted from higher net revenues throughout GMI
businesses. Within FICC, higher net revenues were driven by increases from commodities, credit related and structured finance
activities, while Equity Markets’ strong results reflected increases from equity-linked and cash equities trading activities. Private equity
net revenues increased over $200 million in 2006 compared to 2005. Investment Banking net revenues were higher across all areas with
the strongest increase generated from debt origination.
Net revenues in the Pacific Rim were $5.1 billion in 2007, an increase of 37% from 2006. These results reflected increases across multiple
businesses and products within GMI and GWM. Within GMI, higher net revenues in Equity Markets were driven by our equity-linked and
cash equities trading activities, while higher net revenues in FICC were primarily driven by commercial real estate. GWM net revenues
rose 27% to over $500 million in 2007.
Net revenues in the Pacific Rim were $3.7 billion in 2006, an increase of 38% from 2005, mainly reflecting growth across GMI businesses.
In FICC, higher net revenues primarily reflected increases from our commercial real estate business as well as our rates and currency
trading activities. Increased net revenues in Equity Markets were driven by cash equities trading activities and increased net revenues
from our private equity business. Investment Banking net revenues increased across all activities with the most significant increase
generated from equity origination.
Net revenues in Latin America increased 39% in 2007, reflecting strong results in both our GMI and GWM businesses. In GMI, all
businesses generated higher net revenues with the most significant increases resulting from FICC credit and currency trading activities.
Net revenues in Canada increased 11% in 2007, due to strong results in our GMI businesses.
U.S. net revenues were negative $1.6 billion in 2007, down from $21.8 billion in 2006, which included a $2.0 billion gain related to the
BlackRock merger and approximately $900 million of net revenues from MLIM. The decreases were mainly driven by lower net revenues
Assets
Trading-Related
Securities financing assets $ 400,002 $ 490,729 $ 321,907 $ 362,090
Trading assets 234,669 254,421 203,848 193,911
Other trading-related receivables 95,753 93,556 71,621 69,510
730,424 838,706 597,376 625,511
Non-Trading-Related
Cash 64,345 54,068 45,558 37,760
Investment securities 82,532 85,982 83,410 70,827
Loans, notes, and mortgages, net 94,992 81,704 73,029 70,992
Other non-trading assets 47,757 52,150 41,926 43,012
289,626 273,904 243,923 222,591
Total assets $ 1,020,050 $ 1,112,610 $ 841,299 $ 848,102
Liabilities
Trading-Related
Securities financing liabilities $ 336,876 $ 459,827 $ 291,045 $ 332,741
Trading liabilities 123,588 146,073 98,862 117,873
Other trading-related payables 91,550 107,198 75,622 80,238
552,014 713,098 465,529 530,852
Non-Trading-Related
Short-term borrowings 24,914 20,231 18,110 17,104
Deposits 103,987 88,319 84,124 81,109
Long-term borrowings 260,973 211,118 181,400 141,278
Junior subordinated notes (related to trust preferred securities) 5,154 4,263 3,813 3,091
Other non-trading liabilities 41,076 36,180 49,285 37,251
436,104 360,111 336,732 279,833
Total liabilities 988,118 1,073,209 802,261 810,685
Total stockholders’ equity 31,932 39,401 39,038 37,417
Total liabilities and stockholders’ equity $ 1,020,050 $ 1,112,610 $ 841,299 $ 848,102
(1) Averages represent our daily balance sheet estimates, which may not fully reflect netting and other adjustments included in period-end balances. Balances for certain assets and liabilities are not
revised on a daily basis.
The increases in trading-related assets and liabilities as of December 28, 2007, when compared to December 29, 2006, primarily reflect
higher levels of securities financing activity, which includes increased client matched-book transactions. We continued to expand our
prime brokerage business during the year, which resulted in increases in securities financing transactions.
The increase in non-trading related assets as of December 28, 2007, when compared to December 29, 2006, primarily relates to an
increase in loans, notes, and mortgages and cash. The increase in loans, notes, and mortgages primarily relates to the origination of
commercial loans, and to a lesser extent, residential mortgages, which included loans associated with our First Republic acquisition.
page 49
The increase in cash is primarily driven by issuances of long-term borrowings. See the Cash Flows section in our MD&A for furtherdetails
on changes in cash. Non-trading related liabilities were higher as of December 28, 2007, when compared to December 29, 2006,
primarily due to increases in long-term borrowings and deposits to maintain sufficient funding to support our businesses and ensure
adequate liquidity.
Stockholders’ equity at December 28, 2007 was $31.9 billion, down 18% from $39.0 billion at December 29, 2006. This decrease primarily
resulted from our net loss from continuing operations, common stock repurchases, and dividends paid, which were partially offset by
common and preferred stock issuances and the net effect of employee stock transactions.
See Note 1 to the Consolidated Financial Statements for further information on balance sheet captions.
Other Guarantees
In conjunction with certain structured investment funds, we guarantee the return of the initial principal investment at the termination
date of the fund. These funds are generally managed based on a formula that requires the fund to hold a combination of general
investments and highly liquid risk-free assets that, when combined, will result in the return of principal at the maturity date unless there
is a significant market event. At December 28, 2007 a liability of $7 million was recorded on the Consolidated Balance Sheet for
these guarantees.
We also provide indemnifications related to the U.S. tax treatment of certain foreign tax planning transactions. The maximum exposure to
loss associated with these transactions is $167 million; however, we believe that the likelihood of loss with respect to these
arrangements is remote. At December 28, 2007 no liabilities were recorded on the Consolidated Balance Sheet for these guarantees.
In connection with residential mortgage loan and other securitization transactions, Merrill Lynch typically makes representations and
warranties about the underlying assets. If there is a material breach of such representations and warranties, Merrill Lynch may have an
obligation to repurchase the assets or indemnify the purchaser against any loss. For residential mortgage loan and other securitizations,
the maximum potential amount that could be required to be repurchased is the current outstanding asset balance. Specifically related to
First Franklin activities, there is currently approximately $40 billion of outstanding loans that First Franklin sold in various asset sales
and securitization transactions over the last 36 months. Merrill Lynch has recognized a liability of approximately $520 million at
December 28, 2007 arising from these residential mortgage sales and securitization transactions.
We also fund selected assets, including CDOs and CLOs, via derivative contracts with third party structures that are not consolidated on
our balance sheets. Of the total notional amount of these total return swaps, approximately $24 billion is term financed through facilities
provided by commercial banks, $35 billion of long term funding is provided by third party special purpose vehicles and $11 billion is
financed with asset backed commercial paper conduits. In certain circumstances, we may be required to purchase these assets which
would not result in additional gain or loss to us as such exposure is already reflected in the fair value of our derivative contracts.
In order to facilitate client demand for structured credit products, we sell protection on high grade collateral and buy protection on lesser
grade collateral to certain SPEs which then issue structured credit notes.
Acting in our market making capacity, we enter into other derivatives with SPEs, both Merrill Lynch sponsored and third party, including
interest rate swaps, credit default swaps and other derivative instruments.
• Municipal bond securitization SPEs: SPEs that issue medium-term paper, purchase municipal bonds as collateral and purchase a
guarantee to enhance the creditworthiness of the collateral.
• Asset-backed securities SPEs: SPEs that issue different classes of debt, from super senior to subordinated, and equity and
purchase assets as collateral, including residential mortgages, commercial mortgages, auto leases and credit card receiveables.
• ABS CDOs: SPEs that issue different classes of debt, from super senior to subordinated, and equity and purchase asset-backed
securities collateralized by residential mortgages, commercial mortgages, auto leases and credit card receivables.
• Synthetic CDOs: SPEs that issue different classes of debt, from super senior to subordinated, and equity, purchase high grade assets
as collateral and enter into a portfolio of credit default swaps to synthetically create the credit risk of the issued notes.
• Credit-linked note SPEs: SPEs that issue notes linked to the credit risk of a company, purchase high grade assets as collateral and
enter into credit default swaps to synthetically create the credit risk to pay the return on the notes.
• Tax planning SPEs: SPEs are sometimes used to legally isolate transactions for the purpose of deriving certain tax benefits on
behalf of our clients as well as ourselves. The assets and capital structure of these entities vary for each structure.
• Trust preferred security SPEs: These SPEs hold junior subordinated debt issued by Merrill Lynch, or our subsidiaries, and issue
preferred stock on substantially the same terms to third party investors. We also provide a parent guarantee, on a junior subordinated
basis, of the distributions and other payments on the preferred stock to the extent that the SPEs have funds legally available. The debt
we issue into the SPE is classified as long-term borrowings on our Consolidated Balance Sheets. The ML & Co. parent guarantees of
its own subsidiaries are not required to be recorded in the Consolidated Financial Statements.
• Conduits: Generally, entities that issue commercial paper and subordinated capital, purchase assets, and enter into total return
swaps or repurchase agreements with higher rated counterparties, particularly banks. The Conduits generally have a liquidity and/or
credit facility to further enhance the credit quality of the commercial paper issuance. A single seller conduit will execute total return
swaps, repurchase agreements, and liquidity and credit facilities with one financial institution. A multi-seller conduit will execute
total return swaps, repurchase agreements, and liquidity and credit facilities with numerous financial institutions. Refer to Notes 6
and 11 to the Consolidated Financial Statements for additional information on Conduits.
page 51
Our involvement with SPEs includes off-balance sheet arrangements discussed above, as well as the following activities:
We issue U.S. dollar and non-U.S. dollar-denominated long-term borrowings with both variable and fixed interest rates, as part of our
overall funding strategy. For further information on funding and long-term borrowings, see the Capital and Funding section in our MD&A
and Note 9 to the Consolidated Financial Statements. In the normal course of business, we enter into various noncancellable long-term
operating lease agreements, various purchasing commitments, commitments to extend credit and other commitments. For detailed
information regarding these commitments, see Note 11 to the Consolidated Financial Statements.
As disclosed in Note 14 of the Consolidated Financial Statements, Merrill Lynch has unrecognized tax benefits as of December 28, 2007 of
approximately $1.5 billion in accordance with FIN 48. Of this total, approximately $1.2 billion (net of federal benefit of state issues,
competent authority and foreign tax credit offsets) represents the amount of unrecognized tax benefits that, if recognized, would
favorably affect the effective tax rate in future periods. As indicated in Note 14, unrecognized tax benefits with respect to the U.S. Tax
Court case and the Japanese assessment, while paid, have been included in the $1.5 billion and the $1.2 billion amounts above. Due to the
uncertainty of the amounts to be ultimately paid as well as the timing of such payments, all FIN 48 liabilities which have not been paid
have been excluded from the Contractual Obligations table.
• Maintain sufficient long-term capital to support the execution of our business strategies and to achieve our financial
performance objectives;
• Ensure liquidity across market cycles and through periods of financial stress; and
• Comply with regulatory capital requirements.
Long-Term Capital
Our long-term capital sources include equity capital, long-term borrowings and certain deposits in bank subsidiaries that we consider to
be long-term or stable in nature.
At December 28, 2007 and December 29, 2006 total long-term capital consisted of the following:
(DOLLARS IN MILLIONS) 2007 2006
At December 28, 2007, our long-term capital sources of $288.9 billion exceeded our estimated long-term capital requirements. In
addition, on a pro forma basis forequity issuances completed subsequent to year-end and described on page 54, our pro forma long-term
capital was $297.9 billion. See Liquidity Risk in the Risk Management Section for additional information.
Equity Capital
At December 28, 2007, equity capital, as defined by Merrill Lynch, was $36.7 billion and comprised of $27.5 billion of common equity,
$4.4 billion of preferred stock, and $4.7 billion of trust preferred securities. We define equity capital more broadly than stockholders’
equity under U.S. generally accepted accounting principles, as we include othercapital instruments with equity-like characteristics such
as trust preferred securities. We view trust preferred securities as equity capital because they are either perpetual or have maturities of
at least 50 years at issuance. These trust preferred securities represent junior subordinated notes, net of related investments. Junior
subordinated notes (related to trust preferred securities) are reported on the Consolidated Balance Sheets as liabilities for accounting
purposes. The related investments are reported as investment securities on the Consolidated Balance Sheets.
We regularly assess the adequacy of our equity capital base relative to the estimated risks and needs of our businesses, the regulatory
and legal capital requirements of our subsidiaries, standards required by the SEC’s CSE rules and capital adequacy methodologies of
rating agencies. At December 28, 2007 Merrill Lynch was in compliance with applicable CSE standards. Refer to Note 15 to the
page 53
Consolidated Financial Statements for additional information on regulatory requirements. We also assess the impact of our capital
structure on financial performance metrics.
We have developed economic capital models to determine the amount of equity capital we need to cover potential losses arising from
market, credit and operational risks. These models align closely with our regulatory capital requirements. We developed these
statistical risk models in conjunction with our risk management practices, and they allow us to attribute an amount of equity to each of
our businesses that reflects the risks of that business, both on- and off-balance sheet. We regularly review and periodically refine
models and other tools used to estimate risks, as well as the assumptions used in those models and tools to provide a reasonable and
conservative assessment of our risks across a stressed market cycle. We also assess the need for equity capital to support risks that we
believe may not be adequately measured through these risk models.
In addition, we consider how much equity capital we may need to support normal business growth and strategic initiatives. In the event
that we generate common equity capital beyond our estimated needs, we seek to return that capital to shareholders through share
repurchases and dividends, considering the impact on our financial performance metrics. Likewise, we will seek to raise additional
equity capital to the extent we determine it necessary.
Major components of the changes in our equity capital for 2007 and 2006 are as follows:
(DOLLARS IN MILLIONS) 2007 2006
Our equity capital of $36.7 billion at December 28, 2007 decreased $5.7 billion, or 13%, from December 29, 2006. Equity capital decreased
in 2007 primarily as a result of net losses, common stock repurchases and dividends. The equity capital decrease was partially offset by
the issuance of common stock, the net issuance of preferred stock and trust preferred securities and the net effect of employee stock
transactions. On a pro forma basis for equity issuances completed subsequent to year-end and described below, we had $45.6 billion of
pro forma equity capital which was comprised of $29.9 billion in common equity, $11.0 billion in preferred stock and $4.7 billion in trust
preferred securities.
Common Stock
On December 24, 2007, we reached agreements with each of Temasek and Davis, on behalf of various investors, to sell an aggregate of
116.7 million shares of newly issued common stock at a price of $48.00 per share, for aggregate proceeds of approximately $5.6 billion.
Temasek purchased 55 million shares in December 2007 and the remaining 36.7 million shares in January 2008. In addition, Temasek and
its assignees exercised options to purchase an additional 12.5 million shares of ourcommon stock at a purchase price of $48.00 per share
in February 2008. Davis purchased 25 million shares in December 2007. See “Other Information (Unaudited) — Unregistered Sales of
Equity Securities, Use of Proceeds and Issuer Purchases of Equity Securities” for additional detail on these transactions.
Upon closing the First Republic acquisition on September 21, 2007, we issued 11.6 million shares of common stock as a portion of the
consideration.
On January 18, 2007, the Board of Directors declared a 40% increase in the regular quarterly dividend to 35 cents per common share.
During 2007, we repurchased 62.1 million common shares at an average repurchase price of $84.88 per share. On April 30, 2007 the
Board of Directors authorized the repurchase of an additional $6 billion of our outstanding common shares. During 2007, we had
completed the $5 billion repurchase program authorized in October 2006 and had $4.0 billion of authorized repurchase capacity
remaining under the repurchase program authorized in April 2007. We did not repurchase any common stock during the fourth quarterof
2007 and do not anticipate additional repurchases of common shares.
Preferred Stock
On January 15, 2008, we reached agreements with several long-term investors to sell an aggregate of 66,000 shares of newly issued
9.00% Non-Voting Mandatory Convertible Non-Cumulative Preferred Stock, Series 1, par value $1.00 per share and liquidation
preference $100,000 per share (the “Mandatory Convertible Preferred Stock”), at a price of $100,000 per share, for an aggregate
In conjunction with the acquisition of First Republic on September 21, 2007 we issued $65 million of 6.70% non-cumulative perpetual
preferred stock and $50 million of 6.25% non-cumulative preferred stock in exchange for First Republic’s preferred stock Series A and B,
respectively.
On March 20, 2007, Merrill Lynch issued $1.5 billion of floating rate, non-cumulative, perpetual preferred stock.
On August 22, 2007, Merrill Lynch Capital Trust III issued $750 million of 7.375% trust preferred securities and invested the proceeds in
junior subordinated notes issued by ML & Co.
The table below sets forth the information with respect to purchases made by or on behalf of us or any “affiliated purchaser” of our
common stock during the year ended December 28, 2007.
TOTAL NUMBER APPROXIMATE
OF SHARES DOLLAR VALUE
PURCHASED OF SHARES THAT
AS PART OF MAY YET BE
TOTAL NUMBER AVERAGE PUBLICLY PURCHASED
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS) OF SHARES PRICE PAID ANNOUNCED UNDER THE
PERIOD PURCHASED PER SHARE PROGRAM (1) PROGRAM
page 55
Balance Sheet Leverage
Assets-to-equity leverage ratios are commonly used to assess a company’s capital adequacy. We believe that a leverage ratio adjusted to
exclude certain assets considered to have low risk profiles and assets in customer accounts financed primarily by customer liabilities
provides a more meaningful measure of balance sheet leverage in the securities industry than an unadjusted ratio. We calculate adjusted
assets by reducing total assets by (1) securities financing transactions and securities received as collateral less trading liabilities net of
derivative contracts and (2) segregated cash and securities and separate accounts assets.
As leverage ratios are not risk sensitive, we do not rely on them to measure capital adequacy. When we assess our capital adequacy, we
consider more sophisticated measures that capture the risk profiles of the assets, the impact of hedging, off-balance sheet exposures,
operational risk, regulatory capital requirements and other considerations.
The following table provides calculations of our leverage ratios at December 28, 2007 and December 29, 2006:
(DOLLARS IN MILLIONS) 2007 2006
The table above does not reflect the impact of the following transactions that occurred subsequent to our 2007 year end:
• Issuance of 49.2 million shares of common stock for $2.4 billion during the first quarter of 2008 in connection with our agreement
with Temasek;
• Issuance of 66,000 shares of our 9.00% Non-Voting Mandatory Convertible Non-Cumulative Preferred Stock, Series 1 (convertible
into a maximum of 126 million shares of common stock) for approximately $6.6 billion during the first quarter of 2008 to long-term
investors, including the Korea Investment Corporation, Kuwait Investment Authority and Mizuho Corporate Bank; and
• On a pro forma basis for equity issuances completed subsequent to year-end and described above, our pro forma leverage ratio,
adjusted leverage ratio and tangible adjusted leverage ratio would have been 22.6x, 14.4x, and 16.1x, respectively.
See “Other Information (Unaudited) — Unregistered Sales of Equity Securities, Use of Proceeds and Issuer Purchases of Equity
Securities” for additional detail on these transactions.
Funding
We fund our assets primarily with a mix of secured and unsecured liabilities through a globally coordinated funding strategy. We fund a
portion of our trading assets with secured liabilities, including repurchase agreements, securities loaned and other short-term secured
borrowings, which are less sensitive to our credit ratings due to the underlying collateral. A portion of our short-term borrowings are
secured under a master note lending program. These notes are similar in nature to other collateralized financing sources such as
securities sold under agreements to repurchase. Refer to Note 9 to the Consolidated Financial Statements for additional information
regarding our borrowings.
Our primary funding objectives are maintaining sufficient funding sources to support our existing business activities and future growth
while ensuring that we have liquidity across market cycles and through periods of financial stress. To achieve our objectives, we have
established a set of funding strategies that are described below:
• Diversify funding sources;
• Maintain sufficient long-term borrowings;
• Concentrate unsecured funding at ML & Co.;
• Use deposits as a source of funding; and
• Adhere to prudent governance principles.
We also diversify our funding sources by issuing various types of debt instruments, including structured notes. Structured notes are debt
obligations with returns that are linked to other debt or equity securities, indices, currencies or commodities. We typically hedge these
notes with positions in derivatives and/or in the underlying instruments. We could be required to immediately settle certain structured
note obligations for cash or other securities under certain circumstances, which we take into account for liquidity planning purposes.
Structured notes outstanding were $59.0 billion and $33.8 billion at December 28, 2007 and December 29, 2006, respectively.
page 57
Extendible notes are debt obligations that provide the holder an option to extend the note monthly but not beyond the stated final maturity
date. These notes are included in the long-term borrowings while the time to the stated final maturity is greater than one year. Total
extendible notes outstanding were $1.8 billion and $11.4 billion at December 28, 2007 and December 29, 2006, respectively. Consistent
with the market environment for this type of security, the majority of extendible notes holders elected not to extend their note’s maturity
during the second half of 2007. The amount that has not been extended is included in the current portion of long-term borrowings.
At December 28, 2007, the weighted average maturity of our long-term borrowings exceeded four years. The following chart presents
our long-term borrowings maturity profile as of December 28, 2007 (quarterly for two years and annually thereafter):
$90
$0
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2013 &
2008 2008 2008 2008 2009 2009 2009 2009 2010 2011 2012 thereafter
The $65 billion of long-term debt maturing in 2008 consists of the following:
(DOLLARS IN BILLIONS)
Major components of the change in long-term borrowings, excluding junior subordinated debt (related to trust preferred securities), for
2007 and 2006 were as follows:
(DOLLARS IN BILLIONS) 2007 2006
Subordinated debt is an important component of our long-term borrowings. During 2007, ML & Co. issued $4.4 billion of subordinated
debt in multiple currencies with maturities ranging from 2017 to 2037. This subordinated debt was issued to satisfy certain anticipated
CSE capital requirements. All of ML & Co.’s subordinated debt is junior in right of payment to ML & Co.’s senior indebtedness.
At December 28, 2007, senior and subordinated debt issued by ML & Co. or by subsidiaries and guaranteed by ML & Co., including short-
term borrowings, totaled $250.5 billion. Except for the $2.2 billion of zero-coupon contingent convertible debt (Liquid Yield Option Notes
We use derivative transactions to more closely match the duration of borrowings to the duration of the assets being funded, thereby
enabling interest rate risk to be within limits set by our Market Risk Management group. Interest rate swaps also serve to convert our
interest expense and effective borrowing rate principally to floating rate. We also enter into currency swaps to hedge assets that are not
financed through debt issuance in the same currency. We hedge investments in subsidiaries in non-U.S. dollar currencies in whole or in
part to mitigate foreign exchange translation adjustments in accumulated other comprehensive loss. See Notes 1 and 3 to the
Consolidated Financial Statements for further information.
Deposit Funding
At December 28, 2007, our global bank subsidiaries had $104.0 billion in customer deposits, which provide a diversified and stable base
for funding assets within those entities. Our U.S. deposit base of $76.6 billion includes an estimated $59.7 billion of FDIC-insured
deposits, which we believe are less sensitive to our credit ratings. We predominantly source deposit funding from our customer base in
the form of our bank sweep programs and time deposits. In addition, the acquisition of First Republic has further diversified and
enhanced our bank subsidiaries deposit funding base.
Deposits are not available as a source of funding to ML & Co. See Liquidity Risk in the Risk Management section for more information
regarding our deposit liabilities.
Prudent Governance
We manage the growth and composition of our assets and set limits on the overall level of unsecured funding. Funding activities are
subject to regular senior management review and control through Asset/Liability Committee meetings with treasury management and
other independent risk and control groups. Through 2007 our funding strategy and practices were reviewed by the Risk Oversight
Committee (“ROC”), our executive management and the Finance Committee of the Board of Directors. In 2008, the responsibility of the
ROC in this regard has been assumed by the Regulatory Oversight and Controls Committee.
Credit Ratings
Our credit ratings affect the cost and availability of our unsecured funding, and it is our objective to maintain high quality credit ratings. In
addition, credit ratings are important when we compete in certain markets and when we seek to engage in certain long-term
transactions, including OTC derivatives. Factors that influence our credit ratings include the credit rating agencies’ assessment of the
general operating environment, our relative positions in the markets in which we compete, our reputation, level and volatility of our
earnings, our corporate governance and risk management policies, and our capital management practices.
The following table sets forth ML & Co.’s unsecured credit ratings as of February 15, 2008. Rating agencies express outlooks from time to
time on these credit ratings. Ratings from Fitch Ratings, Moody’s Investor Service, Inc., and Standard & Poor’s Ratings Services reflect
one-notch downgrades from those agencies on October 24, 2007. Rating outlooks from those agencies remain negative, where they were
placed on October 5, 2007. Also, on October 24, 2007, Dominion Bond Rating Service Ltd. affirmed the Company’s ratings and outlook as
stable. On December 7, 2007, Rating & Investment Information, Inc. (Japan) downgraded the Company’s long-term and subordinated
debt ratings. The outlook on these ratings remains negative, where they were placed on October 25, 2007. Following our announcement
of fourth quarter and full-year 2007 results on January 17, 2008, all five agencies affirmed their ratings and outlooks.
SENIOR PREFERRED
DEBT SUBORDINATED STOCK COMMERCIAL RATING
RATING AGENCY RATINGS DEBT RATINGS RATINGS PAPER RATINGS OUTLOOK
Dominion Bond Rating Service Ltd. AA (low) A (high) A R-1 (middle) Stable
Fitch Ratings A+ A A F1 Negative
Moody’s Investors Service, Inc. A1 A2 A3 P-1 Negative
Rating & Investment Information, Inc. (Japan) AA- A+ Not Rated a-1+ Negative
Standard & Poor’s Ratings Services A+ A A- A-1 Negative
page 59
In connection with certain OTC derivatives transactions and other trading agreements, we could be required to provide additional
collateral to or terminate transactions with certain counterparties in the event of a downgrade of the senior debt ratings of ML & Co. The
amount of additional collateral required depends on the contract and is usually a fixed incremental amount and/or the market value of
the exposure. At December 28, 2007, the amount of additional collateral and termination payments that would be required for such
derivatives transactions and trading agreements was approximately $4 billion in the event of a one-notch downgrade and approximately
an additional $670 million in the event of a two-notch downgrade of ML & Co.’s long-term senior debt credit rating. Our liquidity risk
analysis considers the impact of additional collateral outflows due to changes in ML & Co. credit ratings as well as for collateral that is
owed by us and is available for payment, but has not been called for by our counterparties.
Cash Flows
Our previously issued Consolidated Statements of Cash Flows for the fiscal years ended December 29, 2006 and December 30, 2005 were
restated to correct an overstatement of cash used for operating activities and a corresponding overstatement of cash provided by
financing activities. Refer to Note 20 to the Consolidated Financial Statements for further information. This restatement has been
reflected in the following discussion.
Cash and cash equivalents of $41.3 billion at year-end 2007 increased by $9.2 billion from 2006. Cash flows from financing activities
provided $88.7 billion during 2007, primarily due to issuances and resales of long-term borrowings, net of settlements and repurchases
of $71.8 billion, cash from deposits of $9.9 billion and cash from the issuance of common stock of $4.8 billion, offset by common stock
repurchases of $5.3 billion. Cash flows used for investing activities during 2007 were $7.1 billion and were primarily due to net cash used
for available-for-sale securities of $5.6 billion and other investments of $5.0 billion, offset by loans held for investment. Cash flows used
for operating activities during 2007 were $72.4 billion and were primarily due to net cash used for resale agreements and securities
borrowed transactions and net cash used for loans, notes and mortgages held for sale, partially offset by cash provided by trading
liabilities, repurchase agreements and securities loaned transactions.
Our cash and cash equivalents increased $17.5 billion to $32.1 billion at year-end 2006. Cash flows from financing activities provided
$52.3 billion in 2006, primarily due to the issuances and resales of long-term borrowings, net of settlements and repurchases, of
$45.3 billion and cash from commercial paper and short-term borrowings of $9.1 billion. Cash flows used for investing activities in 2006
were $11.0 billion and were primarily due to purchases of available-for-sale securities, net of sales and maturities, of $2.0 billion, and
cash used for other investments of $6.5 billion. Cash flows used for operating activities in 2006 were $23.8 billion and were primarily due
to net cash used for trading assets and liabilities of $45.8 billion, offset by increases in customer payables of $13.8 billion.
Risk Management
Risk Management Philosophy
Risk-taking is integral to the core businesses in which we operate. In the course of conducting our business operations, we are exposed to
a variety of risks including market, credit, liquidity, operational and other risks that are material and require comprehensive controls and
ongoing oversight. Senior managers of our core businesses are responsible and accountable for management of the risks associated with
their business activities. In addition, independent risk groups monitor market risk, credit risk, liquidity risk and operational risk.
We have taken a numberof steps to reinforce a culture of disciplined risk-taking. First, in September 2007, we integrated the independent
control functions of market and credit risk in the new Global Risk Management group under a single Chief Risk Officer, the former head of
Global Credit and Commitments, who now reports directly to the Chief Executive Officer. Within Global Risk Management, we have
combined the Credit and Market Risk teams in order to take a more integrated approach to the risks of each business. In addition, in
January 2008, we announced the hiring of a senior, experienced risk professional who will join Merrill Lynch as co-Chief Risk Officer. The
co-Chief Risk Officers will report jointly to the Chief Executive Officer. Global Treasury, which manages liquidity risk, and the Operational
Risk Group, which manages operational risk, continue to fall under the management responsibility of our Chief Financial Officer.
Second, in January 2008, our Chief Executive Officer established a weekly risk meeting attended by the heads of the trading businesses,
the Chief Risk Officer, the Chief Financial Officer, and a Vice Chairman (the “Weekly Risk Review”). At this Weekly Risk Review, updates
from the businesses and Global Risk Management on risk-related matters are provided with particular attention paid to risk
concentrations, liquidity concerns, efficient balance sheet usage and strategic risk-return considerations.
• A risk governance structure that defines the responsibilities of the independent groups that monitor risk and the oversight activities of
the board committees, the Regulatory Oversight and Controls Committee and Weekly Risk Review;
Independent risk and control groups interact with the core businesses to establish and maintain this overall risk management control
process. We are reinforcing risk management control processes to ensure that our risk tolerance is well-defined and understood by our
businesses as well as by our executive management. In particular, we are working to ensure that all material single-name, sector and
product concentrations are appropriately recognized and managed. We are undertaking efforts to ensure that all highly correlated risks
across different products and strategies are appropriately aggregated and monitored. We are also paying special attention to ensure that
the risks taken by any business are well proportioned to its earnings potential. While no risk management system can ever be absolutely
complete, the goal of these independent risk and control group processes is to mitigate risk-related losses so that they fall within
acceptable, predefined levels, under foreseeable scenarios. Overall, these enhancements include improvements to our methodologies
and changes in risk management and governance structure that are intended to bring experience and seasoned judgment to risk
management decisions.
Despite the foregoing, losses on U.S. sub-prime residential mortgage-related exposures and U.S. ABS CDOs in 2007 reflected a
significant concentration in securities that accumulated as a result of our activities as a leading underwriterof CDOs. Our stress tests and
other risk measures significantly underestimated the magnitude of actual loss from the unprecedented credit market environment over
page 61
the second half of 2007, in particular the extreme dislocation that affected U.S. sub-prime residential mortgage-related and U.S. ABS
CDO positions. In addition to actions taken in 2007, we continue to pursue opportunities to reduce our remaining exposure to these
instruments but options to do so are limited due to the current illiquidity of the market for these assets. See U.S. ABS CDO and Other
Mortgage Related Activities on page 34.
Regulatory Oversight and Controls Committee (“ROCC”) and Other Governance Committees
We are establishing the Regulatory Oversight and Controls Committee in 2008 to oversee management procedures and controls related
to risk, including the frameworks for managing market, credit, and operational risks, internal audit plans and information technology
controls. The ROCC will oversee the activities of a number of additional existing governance committees, including new product,
transaction review, and monitoring and oversight committees, that create policy, review activity, and verify that new and existing
business initiatives remain within established risk tolerance levels. Representatives of the independent risk and control groups
participate as members of these committees along with members from the businesses. The ROCC will report periodically to the Audit
Committee of the Board.
We will continue to take risk as appropriate and expand risk-taking judiciously where there are clear opportunities and where the
business skill-set is in place to manage and understand the risk and its changing nature. Business lines will continue to have
responsibility and accountability for managing the risk, and we will continue to deepen capabilities in a number of areas. In addition, we
believe that the high level of focus on risk by our Chief Executive Officer and other senior managers, the additional senior management
resources in the form of dedicated co-Chief Risk Officers, the integration of the credit and market risk functions, and our emphasis on
reinforcing a culture of disciplined risk taking are enhancing our capacity to monitor the associated risk levels and conformity to
corporate risk guidelines and risk tolerance levels.
Market Risk
We define market risk as the potential change in value of financial instruments caused by fluctuations in interest rates, exchange rates,
equity and commodity prices, credit spreads, and/or other risks.
Global Risk Management and other independent risk and control groups are responsible for approving the products and markets in
which we transact and take risk. Moreover, Global Risk Management is responsible for identifying the risks to which these business units
will be exposed in these approved products and markets. Global Risk Management uses a variety of quantitative methods to assess the
risk of our positions and portfolios. In particular, Global Risk Management quantifies the sensitivities of ourcurrent portfolios to changes
in market variables. These sensitivities are then utilized in the context of historical data to estimate earnings and loss distributions that
ourcurrent portfolios would have incurred throughout the historical period. From these distributions, Global Risk Management derives a
number of useful risk statistics, including value at risk (“VaR”) which are used to measure and monitor market risk exposures in our
trading portfolios.
VaR is a statistical measure of the potential loss in the fair value of a portfolio due to adverse movements in underlying risk factors. We
have a Risk Framework that is designed to define and communicate our market risk tolerance and broad overall limits across Merrill
Lynch by defining and constraining exposure to specific asset classes, market risk factors and VaR.
The VaR disclosed in the accompanying table (excluding U.S. sub-prime residential ABS CDO net exposures) is an estimate of the amount
that our current trading portfolios could lose with a specified degree of confidence, over a given time interval. To calculate VaR, we
aggregate sensitivities to market risk factors and combine them with a database of historical market factor movements to simulate a
series of profits and losses. The level of loss that is exceeded in that series 5% of the time is used as the estimate for the 95% confidence
level VaR. The overall VaR amounts are presented across major risk categories, which include exposure to volatility risk found in certain
products, such as options.
The calculation of VaR requires numerous assumptions and thus VaR should not be viewed as a precise measure of risk. Rather, it should
be evaluated in the context of known limitations. These limitations include but are not limited to the following:
The table that follows presents our average and year-end VaR for trading instruments for 2007 and 2006. Additionally, high and low VaR
for 2007 is presented independently for each risk category and overall. Because high and low VaR numbers for these risk categories may
have occurred on different days, high and low numbers for diversification benefit would not be meaningful.
The aggregate VaR for our trading portfolios is less than the sum of the VaRs for individual risk categories because movements in
different risk categories occur at different times and, historically, extreme movements have not occurred in all risk categories
simultaneously. In addition, the difference between the sum of the VaRs for individual risk categories and the VaR calculated for all risk
categories is shown in the following table and may be viewed as a measure of the diversification within our portfolios.
Given the market experiences of U.S. sub-prime residential ABS CDO and residual securities, the modeling of these positions using
traditional VaR measures is of limited interpretive value due to the known limitations of VaR enumerated above and the illiquidity of the
positions themselves. Therefore, for 2007, the scope of the portfolio covered by the trading VaR has been changed to exclude the U.S. sub-
prime residential ABS CDO and residual securities positions. The excluded positions are those shown in the U.S. ABS CDO net exposures
and losses table on page 37 and the residuals line item in the U.S. sub-prime residential mortgage-related net exposures and losses
table on page 35.
Trading Value at Risk Excluding U.S. Sub-Prime Residential ABS CDO and Residual Securities Positions
YEAR-END DAILY AVERAGE HIGH LOW YEAR-END DAILY AVERAGE
(DOLLARS IN MILLIONS) 2007 2007 2007 2007 2006 2006
Trading Value-at-Risk(1)
Interest rate and credit spread $ 52 $ 52 $ 77 $ 36 $ 48 $ 48
Equity 26 28 47 13 29 19
Commodity 15 18 26 13 13 11
Currency 5 5 11 2 3 4
Subtotal(2) 98 103 93 82
Diversification benefit (33) (38) (41) (32)
Overall $ 65 $ 65 $ 92 $ 41 $ 52 $ 50
(1) Based on a 95% confidence level and a one-day holding period.
(2) Subtotals are not provided for highs and lows as they are not meaningful.
Daily average VaR (excluding U.S. sub-prime residential ABS CDO and residual securities) was higher in 2007 than in 2006 due to growth
in risk exposures in all risk categories. The increase was accentuated by an increase in the volatility of several major markets during the
second half of 2007 (which is captured in the historical data used to calculate trading VaR).
If U.S. sub-prime residential ABS CDO and residual securities positions were included under traditional VaR treatment, the daily average
VaR for 2007 would have been $83 million and the 2007 year-end VaR would have been $157 million due to the increase in volatility of the
sub-prime residential indices used to model the excluded positions. However, as noted, we believe that the application of traditional VaR
techniques is not reflective of the true levels of risk in these positions.
The histogram below shows the distribution of daily net revenues from our trading businesses (principal transactions and net interest
profit) for 2007 excluding U.S. sub-prime ABS CDO and residual securities.
60 58
2007 Distribution
Number of Trading Days
50
45
40 40 of Daily Net-Trading
30 29 Revenues
20 21 (excluding U.S. sub-prime ABS
15
10 11 9
12 CDO and residual securities)
6 6 6
0 2
< $(60) $(40)-(60) $(20)-(40) $(0)-(20) $0-20 $20-40 $40-60 $60-80 $80-100 $100-120 $120-140 $140-160 > $160 (dollars in millions)
page 63
Non-Trading Market Risk
Non-trading market risk includes the risks associated with certain non-trading activities, including investment securities, securities
financing transactions and certain equity and principal investments. Interest rate risks related to funding activities are also included;
however, potential gains and losses due to changes in credit spreads on the firm’s own funding instruments are excluded. Risks related
to lending activities are covered separately in the Counterparty Credit Risk section that follows.
The primary market risk of non-trading investment securities and repurchase and reverse repurchase agreements is expressed as
sensitivity to changes in the general level of credit spreads, which are defined as the differences in the yields on debt instruments from
relevant LIBOR/Swap rates. Non-trading investment securities include securities that are classified as available-for-sale and held-to-
maturity. At the end of 2007, the total credit spread sensitivity of these instruments was a pre-tax loss of $24 million in economic value for
an increase of one basis point, which is one one-hundredth of a percent, in credit spreads, which is unchanged from that at the end of
2006. This change in economic value is a measurement of economic risk which may differ significantly in magnitude and timing from the
actual profit or loss that would be realized under generally accepted accounting principles.
The interest rate risk associated with the non-trading positions, together with funding activities, is expressed as sensitivity to changes in
the general level of interest rates. Our funding activities include LYONs®, trust preferred securities and other long-term debt issuances
together with interest rate hedges. At the end of 2007, the net interest rate sensitivity of these positions is a pre-tax loss in economic value
of $1 million for a parallel one basis point increase in interest rates across all yield curves, compared to $2 million at the end of 2006. This
change in economic value is a measurement of economic risk which may differ significantly in magnitude and timing from the actual
profit or loss that would be realized under generally accepted accounting principles.
Other non-trading equity investments include direct private equity interests, private equity fund investments, hedge fund interests,
certain direct and indirect real estate investments and other principal investments. These investments are broadly sensitive to general
price levels in the equity or commercial real estate markets as well as to specific business, financial and credit factors which influence
the performance and valuation of each investment uniquely. Refer to Note 5 to the Consolidated Financial Statements for additional
information on these investments.
Global Risk Management assesses the creditworthiness of existing and potential individual clients, institutional counterparties and
issuers, and determines firm-wide credit risk levels within the Credit Risk Framework among other tools. This group reviews and
monitors specific transactions as well as portfolio and other credit risk concentrations both within and across businesses. This group is
also responsible forongoing monitoring of credit quality and limit compliance and actively works with all of our business units to manage
and mitigate credit risk.
Global Risk Management uses a variety of methodologies to set limits on exposure and potential loss resulting from an individual,
counterparty or issuer failing to fulfill its contractual obligations. The group performs analyses in the context of industrial, regional, and
global economic trends and incorporates portfolio and concentration effects when determining tolerance levels. Credit risk limits take
into account measures of both current and potential exposure as well as potential loss and are set and monitored by broad risk type,
product type, and maturity. Credit risk mitigation techniques include, where appropriate, the right to require initial collateral or margin,
the right to terminate transactions or to obtain collateral should unfavorable events occur, the right to call for collateral when certain
exposure thresholds are exceeded, the right to call for third party guarantees and the purchase of credit default protection. With senior
management involvement, we conduct regular portfolio reviews, monitor counterparty creditworthiness, and evaluate potential
transaction risks with a view toward early problem identification and protection against unacceptable credit-related losses. We continue
to invest additional resources to enhance Merrill Lynch’s methods and policies to assist in managing our credit risk and to address
evolving regulatory requirements.
Senior members of Global Risk Management chair various commitment committees with membership across business, control and
support units. These committees review and approve commitments, underwritings and syndication strategies related to debt,
syndicated loans, equity, real estate and asset-based finance, among other products and activities.
Asset-based finance facilities are typically secured by financial assets such as mortgages, auto loans, leases, credit card and other
receivables. Clients often use these facilities for the origination and purchase of assets during a warehousing period leading up to
securitization. Credit assessment for these facilities relies primarily on the amount, asset type, quality, and liquidity of the supporting
collateral, as the collateral is the expected source of repayment. Limits are monitored against potential loss upon default taking these
factors into consideration.
Our commercial finance activities primarily consist of corporate finance, healthcare finance, equipment finance and commercial real
estate lending to qualifying business clients. Substantially all of these facilities are secured by liens on property, plant, and equipment,
third party guarantees or other similar arrangements. Our other commercial real estate related activities consist of commercial
mortgage originations and other extensions of credit connected to the financing of commercial properties or portfolios of properties. We
may reduce these exposures through third-party syndications or securitizations. Our assessment of creditworthiness and credit
approval is highly dependent upon the anticipated performance of the underlying property and/or associated cash flows.
On December 24, 2007 we announced that we had reached an agreement with GE Capital to sell substantially all of Merrill Lynch Capital’s
operations, including its commercial real estate division. This transaction closed on February 4, 2008. Refer to Note 17 to the
Consolidated Financial Statements for additional information.
The following tables present a distribution of commercial loans and closed commitments by credit quality, industry and country for year-
end 2007, gross of allowances for loan losses and credit valuation adjustments, without considering the impact of purchased credit
protection. Closed commitments represent the unfunded portion of existing commitments available for draw down and do not include
contingent commitments extended but not yet closed.
(DOLLARS IN MILLIONS) CLOSED
BY CREDIT QUALITY (1)(2) LOANS COMMITMENTS
page 65
CLOSED
BY COUNTRY LOANS COMMITMENTS
As of December 28, 2007, our largest commercial lending industry concentration was to consumer goods and services. Commercial
borrowers were predominantly domiciled in the United States or had principal operations tied to the United States or its economy. The
majority of all outstanding commercial loan balances had a remaining maturity of less than five years. Additional detail on our
commercial lending related activities can be found in Note 7 to the Consolidated Financial Statements.
Residential Mortgage Lending
We originate and purchase residential mortgage loans, certain of which include features that may result in additional credit risk when
compared to more traditional types of mortgages. In connection with the acquisition of First Franklin on December 30, 2006, Merrill
Lynch acquired sub-prime mortgage loans and originated a significant volume of sub-prime mortgage loans during the first half of 2007.
As the year developed, delinquencies and defaults in the sub-prime mortgage loan market increased significantly leading to tighter
underwriting criteria for new mortgages. As a result, First Franklin substantially reduced its sub-prime lending activities and currently is
only making loans that are underwritten to prime underwriting criteria. The majority of First Franklin’s loans were sold either through
whole loans or securitizations and are not reflected on Merrill Lynch’s Consolidated Balance Sheet at December 28, 2007. In addition,
Merrill Lynch acquired loans that have these features in connection with the acquisition of First Republic (see Note 16 to the Consolidated
Financial Statements). The additional credit risk arising from these mortgages is addressed first through adherence to underwriting
guidelines. These guidelines are established within the business units and monitored by Global Risk Management. Credit risk is closely
monitored in order to ensure that valuation adjustments are sufficient and valuations are appropriate. The majority of these loans held in
loans, notes and mortgages include:
• Loans where the borrower is subject to potential payment increases over the life of the loan including:
• Interest-only loans where the borrower makes no principal payments on the loan during an initial period and is required to make
both interest and principal payments either during the later stages of the loan or in one lump sum at maturity. These loans
therefore require the borrower to make larger payments later in the life of the loans if the loans are not otherwise repaid through a
refinancing or sale of the property. These loans are underwritten based on a variety of factors including, for example, the
borrower’s credit history, income, the debt-to-income ratio, disposable income and cash reserves, and the loan-to-value (“LTV”)
ratio on the property, typically using a qualifying formula that conforms to the guidance issued by the federal banking agencies with
respect to non-traditional mortgage loans. In instances where the borrower is of lower credit standing, the loans are typically
underwritten to have a lower LTV ratio and/or other mitigating factors. Interest-only loans comprise the significant majority of
loans that we hold where the borrower may be subject to payment increases.
• Loans with low rates early in the loan term. The loans are underwritten based on the borrower’s ability to make the principal and
interest payments, and borrowers of a lower credit standing are typically underwritten to a lower LTV ratio.
• High LTV ratio loans where the principal amount of the loan is greater than 80% of the value of the mortgaged property and the
borrower is not required to obtain private mortgage insurance (“PMI”), and/or loans where a mortgage and home equity loan are
simultaneously established for the same property. Under our current policy, the maximum LTV ratio for originated residential
mortgages with no PMI orother security is 85%, which can on an exception basis be extended to 90%. High LTV ratio loans also include
Merrill Lynch’s Mortgage100| product. The Mortgage100| product permits borrowers to pledge eligible securities in lieu of a cash
down payment. The securities are subject to daily monitoring and additional collateral is required if the value of the pledged securities
declines below certain levels. The net LTV ratio on real estate collateral in the Mortgage 100| program typically does not exceed 70%
including the pledge.
Approximately 56% of the high LTV ratio loans in the table above were made to borrowers in the United States; the majority of the
remaining loans were made to borrowers in the United Kingdom. Approximately 89% of the loans where the borrower is subject to
payment increase were made to borrowers in the United States; the majority of the remaining loans were made to borrowers in the
United Kingdom.
Derivatives
We enter into International Swaps and Derivatives Association, Inc. (“ISDA”) master agreements or their equivalent (“master netting
agreements”) with substantially all of ourderivative counterparties as soon as possible. Master netting agreements provide protection in
bankruptcy in certain circumstances and, in some cases, enable receivables and payables with the same counterparty to be offset for risk
management purposes. Agreements are negotiated bilaterally and can require complex terms. While we make reasonable efforts to
execute such agreements, it is possible that a counterparty may be unwilling to sign such an agreement and, as a result, would subject us
to additional credit risk. The enforceability of master netting agreements under bankruptcy laws in certain countries or in certain
industries is not free from doubt, and receivables and payables with counterparties in these countries or industries are accordingly
recorded on a gross basis.
In addition, to reduce the risk of loss, we require collateral, principally cash and U.S. Government and agency securities, on certain
derivative transactions. From an economic standpoint, we evaluate risk exposures net of related collateral that meets speci-
fied standards.
The following is a summary of counterparty credit ratings for the replacement cost (net of $19.4 billion of collateral, of which $13.5 billion
represented cash collateral) of OTC trading derivatives in a gain position by maturity at December 28, 2007.
YEARS TO MATURITY
(DOLLARS IN MILLIONS) MATURITY
CREDIT RATING(1) 0–3 3 + –5 5 + –7 OVER 7 NETTING (2) TOTAL
In addition to obtaining collateral, we attempt to mitigate our default risk on derivatives whenever possible by entering into transactions
with provisions that enable us to terminate or reset the terms of our derivative contracts.
Liquidity Risk
We define liquidity risk as the potential inability to meet financial obligations, on- or off-balance sheet, as they come due. Liquidity risk
relates to the ability of a company to repay short-term borrowings with new borrowings or with assets that can be quickly converted into
cash while meeting other obligations and continuing to operate as a going concern. This is particularly important for financial services
firms. Liquidity risk also includes both the potential inability to raise funding with appropriate maturity, currency and interest rate
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characteristics and the inability to liquidate assets in a timely manner at a reasonable price. We actively manage the liquidity risks in our
business that can arise from asset-liability mismatches, credit sensitive funding, commitments or contingencies.
The Liquidity Risk Management Group is responsible for measuring, monitoring and controlling our liquidity risks. This group
establishes methodologies and specifications for measuring liquidity risks, performs scenario analysis and liquidity stress testing, and
sets and monitors liquidity limits. The group works with our business units to limit liquidity risk exposures and reviews liquidity risks
associated with products and business strategies. The Liquidity Risk Management Group also reviews liquidity risk with other
independent risk and control groups and Treasury Management in Asset/Liability Committee meetings.
Our primary liquidity objectives are to ensure liquidity through market cycles and periods of financial stress and to ensure that all funding
requirements and unsecured debt obligations that mature within one year can be met without issuing new unsecured debt or requiring
liquidation of business assets. In managing liquidity, we place significant emphasis on monitoring the near term cash flow profiles and
exposures through extensive scenario analysis and stress testing. To achieve our objectives, we have established a set of liquidity
management practices that are outlined below:
• Maintain excess liquidity in the form of unencumbered liquid assets and committed credit facilities;
• Match asset and liability profiles appropriately;
• Perform scenario analysis and stress testing; and
• Maintain a well formulated and documented contingency funding plan, including access to lenders of last resort.
Excess Liquidity and Unencumbered Assets
Consistent with our objectives, we maintain excess liquidity at ML & Co. and selected subsidiaries in the form of cash and high quality
unencumbered liquid assets, which represent our “Global Liquidity Sources” and serve as our primary source of liquidity risk protection.
We maintain these sources of liquidity at levels we believe are sufficient to sustain Merrill Lynch in the event of stressed liquidity
conditions. In assessing liquidity, we monitor the extent to which the unencumbered assets are available as a source of funds, taking into
consideration any regulatory or other restrictions that may limit the availability of unencumbered assets of subsidiaries to ML & Co. or
other subsidiaries.
As of December 28, 2007 and December 29, 2006, the aggregate Global Liquidity Sources were $200 billion and $178 billion, respectively,
consisting of the following:
(DOLLARS IN BILLIONS) DECEMBER 28, 2007 DECEMBER 29, 2006
The excess liquidity pool is maintained at, or readily available to, ML & Co. and can be deployed to meet cash outflow obligations under
stressed liquidity conditions. The excess liquidity pool includes cash and cash equivalents, investments in short-term money market
mutual funds, U.S. government and agency obligations and other liquid securities. In the first quarter of 2007, we changed our
investment strategy and eliminated our exposure to long-term fixed rate assets. At December 28, 2007 and December 29, 2006, the total
carrying value of the excess liquidity pool, net of related hedges, was $79 billion and $63 billion, respectively, which included liquidity
sources at subsidiaries that we believe are available to ML & Co. without restrictions. We regularly test our ability to access components
of our excess liquidity pool. We fund our excess liquidity pool with debt that has an appropriate term maturity structure. Additionally, our
policy is to fund at least $15 billion of ourexcess liquidity pool with debt that has a remaining maturity of at least one year. At December 28,
2007, the amount of our excess liquidity pool funded with debt with a remaining maturity of at least one year exceeded this requirement.
We manage the size of ourexcess liquidity pool by taking into account the potential impact of unsecured debt maturities, normal business
volatility, cash and collateral outflows under various stressed scenarios, and stressed draws for unfunded commitments and
contractual obligations. At December 28, 2007, our excess liquidity pool and other liquidity sources including maturing short-term
assets and committed credit facilities significantly exceeded short-term obligations and other contractual and contingent cash outflows
based on our estimates.
At December 28, 2007 and December 29, 2006, unencumbered liquid assets of $57 billion in the form of unencumbered investment grade
asset-backed securities and prime residential mortgages were available at our regulated bank subsidiaries to meet potential deposit
obligations, business activity demands and stressed liquidity needs of the bank subsidiaries. Our liquidity model conservatively assumes
that these unencumbered assets are restricted from transfer and unavailable as a liquidity source to ML & Co. and other non-bank
subsidiaries.
We also maintain two committed, secured credit facilities which totaled $6.5 billion at December 28, 2007 and $7.5 billion at
December 29, 2006. These facilities expire in May 2008 and December 2008. Both facilities include a one-year term-out feature that
allows ML & Co., at its option, to extend borrowings under the facilities for an additionalyear beyond their respective expiration dates. The
secured facilities permit borrowings by ML & Co. and select subsidiaries, secured by a broad range of collateral. At December 28, 2007
and December 29, 2006, we had no borrowings outstanding under either facility.
In addition, we maintain committed, secured credit facilities with two financial institutions that totaled $11.75 billion at December 28,
2007 and December 29, 2006. The secured facilities may be collateralized by government obligations eligible for pledging. The facilities
expire at various dates through 2014, but may be terminated earlier with at least a nine-month notice by either party. At December 28,
2007 and December 29, 2006, we had no borrowings outstanding under these facilities.
Asset-Liability Management
We manage the profiles of our assets and liabilities and the relationships between them with the objective of ensuring that we maintain
sufficient liquidity to meet our funding obligations in all environments, including periods of financial stress. This asset-liability
management involves maintaining the appropriate amount and mix of financing related to the underlying asset profiles and liquidity
characteristics, while monitoring the relationship between cash flow sources and uses. Our asset-liability management takes into
account restrictions at the subsidiary level with coordinated and centralized oversight at ML & Co. We consider a legal entity focus
essential in view of the regulatory, tax and other considerations that can affect the transfer and availability of liquidity between legal
entities. We assess the availability of cash flows to fund maturing liability obligations when due under stressed market liquidity
conditions in time frames from overnight through one year, with an emphasis on the near term periods during which liquidity risk is
considered to be the greatest.
An important objective of our asset-liability management is ensuring that sufficient funding is available for our long-term assets and
other long-term capital requirements. Long-term capital requirements are determined using a long-term capital model that takes
into account:
• The portion of assets that cannot be self-funded in the secured financing markets, considering stressed market conditions,
including illiquid and less liquid assets;
• Subsidiaries’ regulatory capital;
• Collateral on derivative contracts that may be required in the event of changes in our credit ratings or movements in the
underlying instruments;
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• Portions of commitments to extend credit based on our estimate of the probability of draws on these commitments; and
• Other contingencies based on our estimates.
In assessing the appropriateness of our long-term capital, we seek to: (1) ensure sufficient matching of our assets based on factors such
as holding period, contractual maturity and regulatory restrictions and (2) limit the amount of liabilities maturing in any particular period.
We also consider liquidity needs for business growth and circumstances that might cause contingent liquidity obligations. Our policy is to
operate with an excess of long-term capital sources of at least $15 billion over our long-term capital requirements. At December 28,
2007, our long-term capital sources of $288.9 billion exceeded our estimated long-term capital requirements by more than $15 billion.
Our regulated bank subsidiaries maintain strong liquidity positions and manage the liquidity profile of their assets, liabilities and
commitments so that they can appropriately balance cash flows and meet all of their deposit and other funding obligations when due.
This asset-liability management includes: projecting cash flows, monitoring balance sheet liquidity ratios against internal and
regulatory requirements, monitoring depositor concentrations, and maintaining liquidity and contingency plans. In managing liquidity,
our bank subsidiaries place emphasis on a stable and diversified retail deposit base, which serves as a reliable source of liquidity. The
banks’ liquidity models use behavioral and statistical approaches to measure and monitor the liquidity characteristics of the deposits.
Our asset-liability management process also focuses on maintaining diversification and an appropriate mix of borrowings through
application and monitoring of internal concentration limits and guidelines on various factors, including debt instrument types,
maturities, currencies, and single investors.
In our scenario analysis, we assume loss of access to unsecured funding markets during periods of financial stress. Various levels of
severity are assessed through sensitivity analysis around key liquidity risk drivers and assumptions. Key assumptions that are stressed
include diminished access to the secured financing markets, run-off in deposits, draws on liquidity facilities, cash outflows due to the
loss of funding from off-balance sheet third party structures including asset-backed commercial paper conduits, derivative collateral
outflows and changes in our credit ratings. In our modeling we evaluate all sources of funds that can be accessed during a stress event
with particular focus on matching by legal entity locally available sources with corresponding liquidity requirements.
Management judgment is applied in scenario modeling. The Liquidity Risk Management Group works with Global Risk Management to
incorporate the results of their judgment and analytics where credit or market risk implications exist. We assess the cash flow exposures
under the various scenarios and use the results to refine liquidity assumptions, size our excess liquidity pools and/or adjust the asset-
liability profiles.
Contingency Funding Plan
We maintain a contingency funding plan that outlines our responses to liquidity stress events of various levels of severity. The plan
includes the funding action steps, potential funding strategies and a range of communication procedures that we will implement in the
event of stressed liquidity conditions. We periodically review and test the contingency funding plan to achieve ongoing validity
and readiness.
Our U.S. bank subsidiaries also retain access to contingency funding through the Federal Reserve discount window and Federal Home
Loan Banks, while certain non-U.S. subsidiaries have access to the central banks for the jurisdictions in which they operate. While we do
not rely on these sources in our liquidity modeling, we maintain the policies, procedures and governance processes that would enable us
to access these sources.
Operational Risk
We define operational risk as the risk of loss resulting from the failure of people, internal processes and systems, or from external
events. Operational risk can arise from many sources including theft and fraud, improper business practices, claims from clients, and
from events which disrupt business.
The primary responsibility for managing operational risk on a day-to-day basis lies with our businesses and support functions. Each
business and support group has established processes, systems and controls to address operational risks within their unit. These
include the use of technology to automate processes and key controls; the provision and testing of business continuity plans to protect
against major disruptions; the establishment of control committees to oversee the effectiveness of the control environment; and the
training, supervision, and development of staff.
• Identification, Assessment, & Monitoring of Risks — ORM works closely with business management as well as with Global Risk
Management and other independent control functions to identify, assess, and monitor the critical operational risks impacting
the business;
• Loss Analysis — ORM systematically captures, analyzes, and reports operational risk loss data based on a structured classification of
risk. Risk categories used for analysis of both firm and industry loss data include business disruption, business practices, client
selection and exposure, client suitability and servicing, employment practices, key person, technology, theft and fraud, transaction
execution, and valuation and reporting; and
• Reporting to Governance Committees — ORM presents analyses of all elements of the operational risk framework to key governance,
risk, and control committees both regionally and globally.
When we deem prudent, we purchase insurance to protect us against certain operational and other risks.
Other Risks
We encounter a variety of other risks, which could have the ability to impact the viability, profitability, and cost-effectiveness of present or
future transactions. Such risks include political, tax, and regulatory risks that may arise due to changes in local laws, regulations,
accounting standards, or tax statutes. To assist in the mitigation of such risks, we rigorously review new and pending legislation and
regulations. Additionally, we employ professionals in jurisdictions in which we operate to actively follow issues of potential concern or
impact to Merrill Lynch and to participate in related interest groups.
In December 2007, the FASB issued Statement No. 141R, Business Combinations (“SFAS No. 141R”), which significantly changes the
financial accounting and reporting for business combinations. SFAS No. 141R will require:
• More assets and liabilities measured at fair value as of the acquisition date,
• Liabilities related to contingent consideration to be remeasured at fair value in each subsequent reporting period with
changes reflected in earnings and not goodwill, and
• An acquirer in pre-acquisition periods to expense all acquisition-related costs.
SFAS No. 141R is required to be adopted on a prospective basis concurrently with SFAS No. 160 and is effective for business combinations
with an acquisition date in fiscal 2009. Early adoption is prohibited. We are currently evaluating the impact of SFAS No. 141R on the
Consolidated Financial Statements.
In December 2007, the American Securitization Forum (“ASF”) issued the “Streamlined Foreclosure and Loss Avoidance Framework for
Securitized Subprime Adjustable Rate Mortgage Loans” (the “ASF Framework”). The ASF Framework provides guidance for servicers to
streamline borrower evaluation procedures and to facilitate the use of foreclosure and loss prevention efforts (including refinancings,
forbearances, workout plans, loan modifications, deeds-in-lieu and short sales or short payoffs). The ASF Framework attempts to
reduce the number of U.S. subprime residential mortgage borrowers who might default because the borrowers cannot afford to pay the
increased interest rate on their loans after their subprime residential mortgage variable loan rate resets.
The ASF Framework is focused on U.S. subprime first-lien adjustable-rate residential mortgages that have an initial fixed interest rate
period of 36 months or less, were originated between January 1, 2005 and July 31, 2007, have an initial interest rate reset date between
January 1, 2008 and July 31, 2010, and are included in securitized pools (these loans are referred to as “Segment 2 subprime ARM loans”
within the ASF Framework). The ASF Framework requires a borrower and its U.S. subprime residential mortgage variable rate loan to
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meet specific conditions to qualify for a fast track loan modification under which the qualifying borrower’s interest rate will be kept at the
existing initial rate, generally for five years following the upcoming reset.
In January 2008, the SEC’s Office of Chief Accountant (the “OCA”) issued a letter (the “OCA Letter”) addressing accounting issues that may
be raised by the ASF Framework. The OCA Letter expressed the view that if a Segment 2 subprime ARM loan is modified pursuant to the
ASF Framework and that loan could legally be modified, the OCA will not object to the continued status of the transferee as a QSPE under
SFAS No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities (a replacement of FASB
Statement No. 125) (“SFAS No. 140”). The OCA requested the FASB to immediately address the issues that have arisen in the application of
the QSPE guidance in SFAS No. 140.
Merrill Lynch may make loan modifications in accordance with the ASF Framework in 2008 but does not expect them to have a material
effect on our accounting for U.S. sub-prime residential mortgage loans or securitizations or retained interests in securitizations of
U.S. sub-prime residential mortgage loans.
In June 2007, the Accounting Standards Executive Committee of the AICPA issued Statement of Position 07-1, Clarification of the Scope of
the Audit and Accounting Guide Investment Companies and Accounting by Parent Companies and Equity Method Investors for Investments in
Investment Companies (“SOP 07-1”). The intent of SOP 07-1 is to clarify which entities are within the scope of the AICPA Audit and
Accounting Guide, Investment Companies (the “Guide”). For those entities that are investment companies under SOP 07-1, the SOP also
addresses whether the specialized industry accounting principles of the Guide (referred to as “investment company accounting”) should
be retained by the parent company in consolidation or by an investor that accounts for the investment under the equity method because it
has significant influence over the investee. On October 17, 2007, the FASB proposed an indefinite delay of the effective dates of SOP 07-1
to allow the Board to address certain implementation issues that have arisen and possibly revise SOP 07-1.
In April 2007, the FASB issued FSP No. FIN 39-1, Amendment of FASB Interpretation No. 39 (“FSP FIN 39-1”). FSP FIN 39-1 modifies
FIN No. 39, Offsetting of Amounts Related to Certain Contracts, and permits companies to offset cash collateral receivables or payables
with net derivative positions. FSP FIN 39-1 is effective for fiscal years beginning after November 15, 2007 with early adoption permitted.
FSP FIN 39-1 will not have a material effect on our Consolidated Financial Statements as it clarified the acceptability of existing market
practice, which we apply, for netting of cash collateral against net derivative assets and liabilities.
In February 2007, the FASB issued SFAS No. 159, which provides a fair value option election that allows companies to irrevocably elect fair
value as the initial and subsequent measurement attribute for certain financial assets and liabilities. Changes in fair value for assets and
liabilities for which the election is made will be recognized in earnings as they occur. SFAS No. 159 permits the fair value option election
on an instrument-by-instrument basis at initial recognition of an asset or liability or upon an event that gives rise to a new basis of
accounting for that instrument. SFAS No. 159 is effective as of the beginning of an entity’s first fiscal year that begins after November 15,
2007. Early adoption is permitted as of the beginning of a fiscal year that begins on or before November 15, 2007 provided that the entity
makes that choice in the first 120 days of that fiscal year, has not yet issued financial statements for any interim period of the fiscal yearof
adoption, and also elects to apply the provisions of SFAS No. 157 (described below). We early adopted SFAS No. 159 in the first quarter of
2007. In connection with this adoption, management reviewed its treasury liquidity portfolio and determined that we should decrease our
economic exposure to interest rate risk by eliminating long-term fixed rate assets from the portfolio and replacing them with floating
rate assets. The fixed rate assets had been classified as available-for-sale and the unrealized losses related to such assets had been
recorded in accumulated other comprehensive loss. As a result of the adoption of SFAS No. 159, the loss related to these assets was
removed from accumulated other comprehensive loss and a loss of approximately $185 million, net of tax, primarily related to these
assets, was recorded as a cumulative-effect adjustment to beginning retained earnings, with no material impact to total stockholders’
equity. Refer to Note 3 to the Consolidated Financial Statements for additional information.
In September 2006, the FASB issued SFAS No. 157. SFAS No. 157 defines fair value, establishes a framework for measuring fair value,
establishes a fair value hierarchy based on the quality of inputs used to measure fair value and enhances disclosure about fair value
measurements. SFAS No. 157 nullifies the guidance provided by EITF 02-3 that prohibits recognition of day one gains or losses on
derivative transactions where model inputs that significantly impact valuation are not observable. In addition, SFAS No. 157 prohibits the
use of block discounts for large positions of unrestricted financial instruments that trade in an active market and requires an issuer to
incorporate changes in its own credit spreads when determining the fair value of its liabilities. SFAS No. 157 is effective for fiscal years
beginning after November 15, 2007 with early adoption permitted provided that the entity has not yet issued financial statements for that
fiscal year, including any interim periods. The provisions of SFAS No. 157 are to be applied prospectively, except that the provisions
related to block discounts and existing derivative financial instruments measured under EITF 02-3 are to be applied as a one-time
cumulative effect adjustment to opening retained earnings in the year of adoption. We early adopted SFAS No. 157 in the first quarter of
2007. The cumulative-effect adjustment to beginning retained earnings was an increase of approximately $53 million, net of tax,
primarily representing the difference between the carrying amounts and fair value of derivative contracts valued using the guidance in
In September 2006, the FASB issued SFAS No. 158, Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans, an
amendment of FASB Statements No. 87, 88, 106 and 132R (“SFAS No. 158”). SFAS No. 158 requires an employer to recognize the overfunded
or underfunded status of its defined benefit pension and other postretirement plans, measured as the difference between the fair value of
plan assets and the benefit obligation as an asset or liability in its statement of financial condition. Upon adoption, SFAS No. 158 requires
an entity to recognize previously unrecognized actuarial gains and losses and prior service costs within accumulated other com-
prehensive loss, net of tax. In accordance with the guidance in SFAS No. 158, we adopted this provision of the standard for year-end 2006.
The adoption of SFAS No. 158 resulted in a net credit of $65 million to accumulated other comprehensive loss recorded on the
Consolidated Financial Statements at December 29, 2006. SFAS No. 158 also requires defined benefit plan assets and benefit obligations
to be measured as of the date of the company’s fiscal year-end. We have historically used a September 30 measurement date. Under the
provisions of SFAS No. 158, we will be required to change our measurement date to coincide with our fiscal year-end. This provision of
SFAS No. 158 will be effective for us in fiscal 2008. We are currently evaluating the impact of adoption of this provision of SFAS No. 158 on
the Consolidated Financial Statements.
In June 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement No. 109
(“FIN 48”). FIN 48 clarifies the accounting for uncertainty in income taxes recognized in a company’s financial statements and prescribes
a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or
expected to be taken in a tax return. The Interpretation also provides guidance on derecognition, classification, interest and penalties,
accounting in interim periods, disclosure and transition. We adopted FIN 48 in the first quarter of 2007. The impact of the adoption of
FIN 48 resulted in a decrease to beginning retained earnings and an increase to the liability for unrecognized tax benefits of
approximately $66 million. See Note 14 to the Consolidated Financial Statements for further information.
In March 2006, the FASB issued SFAS No. 156, Accounting for Servicing of Financial Assets (“SFAS No. 156”). SFAS No. 156 amends SFAS
No. 140 to require all separately recognized servicing assets and servicing liabilities to be initially measured at fair value, if practicable.
SFAS No. 156 also permits servicers to subsequently measure each separate class of servicing assets and liabilities at fair value rather
than at the lower of amortized cost or market. For those companies that elect to measure their servicing assets and liabilities at fair
value, SFAS No. 156 requires the difference between the carrying value and fair value at the date of adoption to be recognized as a
cumulative-effect adjustment to retained earnings as of the beginning of the fiscal year in which the election is made. Prior to adoption of
SFAS No. 156, we accounted for servicing assets and servicing liabilities at the lower of amortized cost or market. We adopted
SFAS No. 156 on December 30, 2006. We have not elected to subsequently fair value those mortgage servicing rights (“MSR”) held as of
the date of adoption or those MSRs acquired or retained after December 30, 2006. The adoption of SFAS No. 156 did not have a material
impact on the Consolidated Financial Statements.
In February 2006, the FASB issued SFAS No. 155, Accounting for Certain Hybrid Financial Instruments an amendment of FASB Statements
No. 133 and 140 (“SFAS No. 155”). SFAS No. 155 clarifies the bifurcation requirements forcertain financial instruments and permits hybrid
financial instruments that contain a bifurcatable embedded derivative to be accounted for as a single financial instrument at fair value
with changes in fair value recognized in earnings. This election is permitted on an instrument-by-instrument basis for all hybrid financial
instruments held, obtained, or issued as of the adoption date. At adoption, any difference between the total carrying amount of the
individual components of the existing bifurcated hybrid financial instruments and the fair value of the combined hybrid financial
instruments is recognized as a cumulative-effect adjustment to beginning retained earnings. We adopted SFAS No. 155 on a prospective
basis beginning in the first quarter of 2007. Since SFAS No. 159 incorporates accounting and disclosure requirements that are similar to
SFAS No. 155, we apply SFAS No. 159, rather than SFAS No. 155, to our fair value elections for hybrid financial instruments.
We adopted the provisions of SFAS No. 123 (revised 2004), Share-Based Payment, a revision of SFAS No. 123, Accounting for Stock-Based
Compensation (“SFAS No. 123R”) as of the beginning of the first quarterof 2006. Under SFAS No. 123R, compensation expenses for share-
based awards that do not require future service are recorded immediately, and share-based awards that require future service continue
to be amortized into expense over the relevant service period. We adopted SFAS No. 123R under the modified prospective method
whereby the provisions of SFAS No. 123R are generally applied only to share-based awards granted or modified subsequent to adoption.
Thus, for Merrill Lynch, SFAS No. 123R required the immediate expensing of share-based awards granted or modified in 2006 to
retirement-eligible employees, including awards that are subject to non-compete provisions.
Prior to the adoption of SFAS No. 123R, we had recognized expense for share-based compensation over the vesting period stipulated in
the grant for all employees. This included those who had satisfied retirement eligibility criteria but were subject to a non-compete
agreement that applied from the date of retirement through each applicable vesting period. Previously, we had accelerated any
unrecognized compensation cost for such awards if a retirement-eligible employee left Merrill Lynch. However, because SFAS No. 123R
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applies only to awards granted or modified in 2006, expenses for share-based awards granted prior to 2006 to employees who were
retirement-eligible with respect to those awards must continue to be amortized over the stated vesting period.
In addition, beginning with performance year 2006, for which we granted stock awards in January 2007, we accrued the expense for
future awards granted to retirement-eligible employees over the award performance year instead of recognizing the entire expense
related to the award on the grant date. Compensation expense for 2006 performance year and all future stock awards granted to
employees not eligible for retirement with respect to those awards will be recognized over the applicable vesting period.
SFAS No. 123R also requires expected forfeitures of share-based compensation awards for non-retirement-eligible employees to be
included in determining compensation expense. Prior to the adoption of SFAS No. 123R, any benefits of employee forfeitures of such
awards were recorded as a reduction of compensation expense when the employee left Merrill Lynch and forfeited the award. In the first
quarter of 2006, we recorded a benefit based on expected forfeitures which was not material to the results of operations for the quarter.
The adoption of SFAS No. 123R resulted in a charge to compensation expense of approximately $550 million on a pre-tax basis and
$370 million on an after-tax basis in the first quarter of 2006.
The adoption of SFAS No. 123R, combined with other business and competitive considerations, prompted us to undertake a
comprehensive review of our stock-based incentive compensation awards, including vesting schedules and retirement eligibility
requirements, examining their impact to both Merrill Lynch and its employees. Upon the completion of this review, the Management
Development and Compensation Committee of Merrill Lynch’s Board of Directors determined that to fulfill the objective of retaining high
quality personnel, future stock grants should contain more stringent retirement provisions. These provisions include a combination of
increased age and length of service requirements. While the stock awards of employees who retire continue to vest, retired employees
are subject to continued compliance with the strict non-compete provisions of those awards. To facilitate transition to the more stringent
future requirements, the terms of most outstanding stock awards previously granted to employees, including certain executive officers,
were modified, effective March 31, 2006, to permit employees to be immediately eligible for retirement with respect to those earlier
awards. While we modified the retirement-related provisions of the previous stock awards, the vesting and non-compete provisions for
those awards remain in force.
Since the provisions of SFAS No. 123R apply to awards modified in 2006, these modifications required us to record additional one-time
compensation expense in the first quarter of 2006 for the remaining unamortized amount of all awards to employees who had not
previously been retirement-eligible under the original provisions of those awards.
The one-time, non-cash charge associated with the adoption of SFAS No. 123R, and the policy modifications to previous awards resulted
in a net charge to compensation expense in the first quarter of 2006 of approximately $1.8 billion pre-tax, and $1.2 billion after-tax, or a
net impact of $1.34 and $1.21 on basic and diluted earnings per share, respectively. Policy modifications to previously granted awards
amounted to $1.2 billion of the pre-tax charge and impacted approximately 6,300 employees.
Prior to the adoption of SFAS No. 123R, we presented the cash flows related to income tax deductions in excess of the compensation
expense recognized on share-based compensation as operating cash flows in the Consolidated Statements of Cash Flows.
SFAS No. 123R requires cash flows resulting from tax deductions in excess of the grant-date fair value of share-based awards to
be included in cash flows from financing activities. The excess tax benefits of $283 million related to total share-based compensation
included in cash flows from financing activities in the first quarter of 2006 would have been included in cash flows from operating
activities if we had not adopted SFAS No. 123R.
As a result of adopting SFAS No. 123R, approximately $600 million of liabilities associated with the Financial Advisor Capital
Accumulation Award Plan (“FACAAP”) were reclassified to stockholders’ equity. In addition, as a result of adopting SFAS No. 123R,
the unamortized portion of employee stock grants, which was previously reported as a separate component of stockholders’ equity on
the Consolidated Balance Sheets, has been reclassified to paid-in capital.
In June 2005, the FASB ratified the consensus reached by the Emerging Issues Task Force on Issue 04-5, Determining Whether a General
Partner, or the General Partners as a Group, Controls a Limited Partnership or Similar Entity When the Limited Partners Have Certain Rights
(“EITF 04-5”). EITF 04-5 presumes that a general partner controls a limited partnership, and should therefore consolidate a limited
partnership, unless the limited partners have the substantive ability to remove the general partner without cause based on a simple
majority vote or can otherwise dissolve the limited partnership, or unless the limited partners have substantive participating rights over
decision making. The guidance in EITF 04-5 was effective beginning in the third quarter of 2005 for all new limited partnership
agreements and any limited partnership agreements that were modified. For those partnership agreements that existed at the date
EITF 04-5 was issued, the guidance became effective in the first quarter of 2006. The adoption of this guidance did not have a material
impact on the Consolidated Financial Statements.
Merrill Lynch, Pierce, Fenner & Smith Incorporated (“MLPF&S”) in the United States, acts as a broker (i.e., agent) for corporate,
institutional, government, and otherclients and as a dealer (i.e., principal) in the purchase and sale of corporate securities. MLPF&S also
acts as a broker and/or a dealer in the purchase and sale of mutual funds, money market instruments, government securities, high yield
bonds, municipal securities, financial futures contracts and options. The futures business and foreign exchange activities are conducted
through MLPF&S and other subsidiaries. MLPF&S holds memberships and/or has third-party clearing relationships with all major
commodity and financial futures exchanges and clearing associations in the United States and it also carries positions reflecting trades
executed on exchanges outside of the United States through affiliates and/or third-party clearing brokers. As a leading investment
banking entity, MLPF&S provides corporate, institutional, and government clients with a wide variety of financial services including
underwriting the sale of securities to the public, structured and derivative financing, private placements, mortgage and lease financing
and financial advisory services, including advice on mergers and acquisitions.
MLPF&S also provides securities clearing services for its own account and for unaffiliated broker-dealers through its Broadcort Division
and through its subsidiary Merrill Lynch Professional Clearing Corp. (“ML Pro”). ML Pro is involved in our prime brokerage business and
also makes a market in listed option contracts on various options exchanges.
MLPF&S also provides discretionary and non-discretionary investment advisory services. These advisory services include Merrill Lynch
Consults® Service, the Personal Investment Advisory Program, the Merrill Lynch Mutual Fund Advisor® program, the Merrill Lynch
Mutual Fund Advisor Selects® program, Merrill Lynch Personal Advisor program, and Merrill Lynch Global Selects. MLPF&S also offers
fee-based financial planning services, including the Financial Foundation® report. MLPF&S provides financing to clients, including
margin lending and other extensions of credit. Through the Beyond Banking® account, our customers have access to a special securities
account product designed for everyday transactions, savings and cash management that combines Visa, check writing and ATM access
with available advice and guidance. We also offer Merrill Lynch branded credit cards which are issued by an unaffiliated bank.
Through its retirement group, MLPF&S provides a wide variety of investment and custodial services to individuals through Individual
Retirement Accounts and small business retirement programs. MLPF&S also provides investment, administration, communications,
and consulting services to corporations and theiremployees for their retirement programs, including 401(k), pension, profit-sharing and
nonqualified deferred compensation plans.
Merrill Lynch International (“MLI”) is a United Kingdom-based dealer in equity and fixed income securities of a significant number of
global issuers, sovereign government obligations and asset-backed securities, and in loans and related financial instruments. Outside
the United States, MLI is a registered market maker and regularly makes a market in the equity securities of the more actively traded
non-U.S. corporations. MLI is also our primary non-U.S. credit and equity derivatives and futures product dealer.
Merrill Lynch Government Securities, Inc. (“MLGSI”) is a primary dealer in obligations issued or guaranteed by the U.S. Government
and regularly makes a market in securities issued by Federal agencies and other government-sponsored entities, such as, among
others, Government National Mortgage Association, Fannie Mae and Freddie Mac. MLGSI deals in mortgage-backed pass-through
instruments issued by certain of these entities and also in related futures, options, and forward contracts for its own account, to hedge its
own risk, and to facilitate customers’ transactions. As a primary dealer, MLGSI acts as a counterparty to the Federal Reserve Bank of New
York (“FRBNY”) in the conduct of open market operations and regularly reports positions and activities to the FRBNY. An integral part of
MLGSI’s business involves entering into repurchase agreements and securities lending transactions.
Merrill Lynch Capital Services, Inc. (“MLCS”) and Merrill Lynch Derivative Products AG (“MLDP”) are interest rate and currency
derivative product dealers. MLCS primarily acts as a counterparty for certain derivative financial products, including interest rate and
currency swaps, caps and floors and options. MLCS maintains positions in interest-bearing securities, financial futures and forward
contracts to hedge its interest rate and currency risk related to derivative exposures. In the normal course of its business, MLCS enters
into repurchase and resale agreements with certain affiliated companies. MLDP acts as an intermediary for certain derivative products,
including interest rate and currency swaps, between Merrill Lynch dealers and counterparties that are highly rated or otherwise
acceptable to MLDP. Its activities address certain swap customers’ preference to limit their trading to those dealers having the highest
credit quality. MLDP has been assigned the Aaa, AAA and AAA counterparty rating by the rating agencies Moody’s Investors Service,
Standard & Poor’s Ratings Services and Fitch Ratings, respectively. Customers meeting certain credit criteria enter into swaps with
MLDP and, in turn, MLDP enters into offsetting mirror swaps with such Merrill Lynch dealers. However, such Merrill Lynch dealers are
required to provide MLDP with collateral to mitigate certain exposures MLDP may have to such Merrill Lynch dealers. In addition, MLCS’s
subsidiaries, Merrill Lynch Commodities, Inc., and other Merrill Lynch subsidiaries trade as principal in physically and financially settled
page 75
contracts in energy, weather and a broad range of other commodities. These subsidiaries also provide asset optimization and other
energy management and risk management services for third parties.
Merrill Lynch Bank USA (“MLBUSA”) and Merrill Lynch Bank & Trust Co., FSB (“MLBT-FSB”) provide the U.S. management
platform for Merrill Lynch’s banking products and services.
Merrill Lynch, primarily through MLBUSA, provides syndicated and bridge financing, asset-based lending, commercial real estate
lending, equipment financing, and standby or “backstop” credit in various forms for large institutional clients generally in connection
with their commercial paper programs. MLBUSA also offers securities-based loans primarily to individual clients. MLBUSA is a state-
chartered depository institution whose deposits are insured by the FDIC, and is a wholesale bank for Community Reinvestment Act
(“CRA”) purposes. MLBT-FSB is an FDIC-insured federal savings bank and is a retail bank for CRA purposes. MLBUSA and MLBT-FSB
offer certificates of deposit, transaction accounts and money market deposit accounts and issue Visa® debit cards.
MLBT-FSB, through its First Republic division, its Merrill Lynch Credit Corporation and First Franklin subsidiaries, offers residential
mortgage financing throughout the United States enabling clients to purchase and refinance their homes as well as to manage their
other personalcredit needs. In addition, through its First Republic division and Merrill Lynch Business Financial Services Inc. (“MLBFS”),
a subsidiary of MLBUSA, offers commercial financing for qualifying small and middle-market businesses, including lines of credit,
revolving loans, term loans and equipment leases and loans. MLBFS has been moved to Merrill Lynch Commercial Finance Corp, a
subsidiary of MLBUSA, as of December 29, 2007. MLBFS also provides qualifying business clients with acquisition, working capital and
equipment financing, commercial real estate financing, and other specialized asset financing through its ML Capital business. The sale
of the ML Capital business to GE Capital closed on February 4, 2008.
Financial Data Services Inc., a wholly-owned subsidiary of MLBUSA, is a registered transfer agent and provides support and services for
mutual fund products.
Merrill Lynch International Bank Limited (“MLIB”), formerly known as Merrill Lynch Capital Markets Bank Limited, is the primary
non-U.S. banking entity for Merrill Lynch. Headquartered in Ireland, with branch offices in Amsterdam, Bahrain, Brussels, Frankfurt,
London, Madrid, Milan, Paris and Singapore, MLIB acts as a principal for debt derivative transactions and engages in advisory, lending,
loan trading, and institutional sales activities. MLIB also provides collateralized (including mortgage) lending, letters of credit,
guarantees and foreign exchange services to, and accepts deposits from, its clients.
MLIB, through its subsidiaries, Mortgages plc and Wave Lending Limited, provides mortgage lending, administration and servicing in the
U.K. nonconforming residential mortgage market.
Merrill Lynch Bank (Suisse) S.A., a subsidiary of MLIB, is a Swiss licensed bank that provides a full array of banking, asset management
and brokerage products and services to international clients, including securities trading and custody, secured loans and overdrafts,
fiduciary deposits, foreign exchange trading and portfolio management services.
Merrill Lynch Mortgage Capital Inc. (“MLMCI”) transacts in syndicated commercial loans. As an integral part of its business, MLMCI
enters into repurchase agreements whereby it obtains funds by pledging its own whole loans as collateral. The repurchase agreements
provide financing for MLMCI’s inventory and serve as short-term investments for MLMCI’s customers. MLMCI also enters into reverse
repurchase agreements through which it provides funds to customers collateralized by whole loan mortgages, thereby providing the
customers with temporary liquidity. MLMCI, through its subsidiary Merrill Lynch Mortgage Lending, Inc. (“MLML”), transacts in whole
loan mortgages, mortgage loan participations and mortgage loan servicing. MLML also originates and purchases from lenders, both
commercial and multi-family mortgage loans and then securitizes these loans for sale to investors. MLML purchases prime, subprime,
nonperforming and subperforming residential mortgage loans from originators of these loans and aggregates these loans for sale in the
securitization market. Wilshire Credit Corporation, a subsidiary of MLMCI, services subprime, nonperforming and reperforming
residential mortgages.
Merrill Lynch Japan Securities Co., Ltd. (“MLJS”) is a Japan-based broker-dealer that provides clients with a variety of financial
services, including the purchase and sale of equity and fixed income securities, futures and options. MLJS also acts as an underwriter
and seller of securities in both publicly registered transactions and private placements.
ML IBK Positions, Inc. is a U.S.-based entity involved in private equity and principal investing that makes proprietary investments in all
levels of the capital structure of U.S. and non-U.S. companies, and in special purpose companies owning real estate, mortgage loans,
consumer receivables and other assets, and may make direct equity investments in real estate assets, mortgage loans and other assets.
In addition, through its subsidiary, Merrill Lynch Capital Corporation, it provides senior and subordinated financing to certain companies.
ML & Co. has established a Disclosure Committee to assist the Chief Executive Officer and Chief Financial Officer in fulfilling their
responsibilities for overseeing the accuracy and timeliness of disclosures made by ML & Co. The Disclosure Committee is made up of
senior representatives of Merrill Lynch’s Finance, Investor Relations, Office of the General Counsel, Treasury, Tax and independent risk
groups, and is responsible for implementing and evaluating disclosure controls and procedures on an ongoing basis. The Disclosure
Committee meets at least eight times a year. Meetings are held as needed to review key events and disclosures impacting the period
throughout each fiscal quarter and prior to the filing of ML & Co.’s Form 10-K and 10-Q reports and proxy statement with the SEC.
The Board of Directors designated Merrill Lynch’s Guidelines for Business Conduct as the company’s code of ethics fordirectors, officers
and employees in performing their duties. The Guidelines set forth written standards for employee conduct with respect to conflicts of
interest, disclosure obligations, compliance with applicable laws and rules and other matters. The Guidelines also set forth information
and procedures for employees to report ethical or accounting concerns, misconduct or violations of the Guidelines in a confidential
manner. The Board of Directors adopted Merrill Lynch’s Code of Ethics for Financial Professionals in 2003. The Code, which applies to all
Merrill Lynch professionals who participate in our public disclosure process, supplements our Guidelines for Business Conduct and is
designed to promote honest and ethical conduct, full, fair and accurate disclosure and compliance with applicable laws.
The independent registered public accounting firm, Deloitte & Touche LLP, performs annual audits of Merrill Lynch’s financial
statements in accordance with the Standards of the Public Company Accounting Oversight Board (United States). They openly discuss
with the Audit Committee their views on the quality of the financial statements and related disclosures and the adequacy of Merrill
Lynch’s internal accounting controls. Quarterly review reports on the unaudited interim financial statements are also issued by
Deloitte & Touche LLP. The Audit Committee appoints the independent registered public accounting firm. The independent registered
public accounting firm is given unrestricted access to all financial records and related data, including minutes of meetings of
stockholders, the Board of Directors, and committees of the Board.
As part of their oversight role, committees of the Board supervise management in the formulation of corporate policies, procedures and
controls. The Audit Committee, which consists of four independent directors, oversees the internal audit function and considers the
adequacy of our internal controls. In addition, the Audit Committee reviews the framework established by management to assess and
manage the major categories of risk affecting Merrill Lynch; the policies and procedures for managing operational, legal and
reputational risk; and oversees the compliance function. It also reviews the annual Consolidated Financial Statements and other
material financial information with management and Merrill Lynch’s independent registered public accounting firm, and evaluates the
performance, independence and fees of our independent registered public accounting firm and the professional services it provides. The
Audit Committee also has the authority to appoint or replace the independent registered public accounting firm and monitors the
treatment of concerns relating to accounting, internal accounting controls and auditing matters reported by employees, shareholders
and other interested parties.
The Finance Committee, which consists of four independent directors, reviews, recommends, and approves policies regarding financial
commitments and investments. It also reviews and approves certain financial commitments, acquisitions, divestitures, and proprietary
investments. In addition, the Finance Committee oversees balance sheet and capital management, corporate funding policies and
financing plans. It also reviews Merrill Lynch’s policies and procedures for managing exposure to market and credit risks, and when
appropriate, reviews significant risk exposures and trends in these categories of risk.
page 77
Disclosure Controls and Procedures
During the 2007 year-end financial close process, management implemented additional reviews and analyses of certain financial data
presented in the Consolidated Financial Statements, including an enhanced review of the Consolidated Statements of Cash Flows. As a
result of the enhanced reviews, the Company discovered an error, due to an adjustment that incorrectly reflected cash flows received
from certain customer transactions, affecting its Consolidated Statements of Cash Flows for 2005 and 2006. The adjustment resulted in
an overstatement of cash flows received from derivatives financing transactions (financing activities) and was offset by a corresponding
overstatement in cash flows used for trading liabilities (operating activities). Management determined that its 2005 and 2006
Consolidated Statements of Cash Flows should be restated and has done so in its 2007 Annual Report.
ML & Co.’s Disclosure Committee assists with implementing, monitoring and evaluating our disclosure controls and procedures.
ML & Co.’s Chief Executive Officer, Chief Financial Officer and Disclosure Committee have evaluated the effectiveness of ML & Co.’s
disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934) as of the end of the period
covered by this Report. Based on that evaluation, ML & Co.’s Chief Executive Officer and Chief Financial Officer have concluded that ML &
Co.’s disclosure controls and procedures are effective.
No other change in ML & Co.’s internal control over financial reporting (as defined in Rule 13a-15(f) under the Securities Exchange Act of
1934) occurred during the fourth fiscal quarter of 2007 that has materially affected, or is reasonably likely to materially affect, ML & Co.’s
internal control over financial reporting.
Deloitte & Touche LLP, Merrill Lynch’s independent registered public accounting firm, has issued an opinion on the effectiveness of
Merrill Lynch’s internal control over financial reporting as of December 28, 2007, based on the criteria established in Internal Control-
Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. This report appears under
“Report of Independent Registered Public Accounting Firm” on the following page.
To the Board of Directors and Stockholders of Merrill Lynch & Co., Inc.:
We have audited the internal control over financial reporting of Merrill Lynch & Co., Inc. and subsidiaries (“Merrill Lynch”) as of
December 28, 2007, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission. Merrill Lynch’s management is responsible for maintaining effective internal control over
financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying
Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on Merrill Lynch’s internal control over
financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over
financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over
financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of
internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances.
We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed by, or under the supervision of, the company’s principal
executive and principal financial officers, or persons performing similar functions, and effected by the company’s board of directors,
management, and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control
over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail,
accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that
transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting
principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and
directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition,
use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of the inherent limitations of internal control over financial reporting, including the possibility of collusion or improper
management override of controls, material misstatements due to erroror fraud may not be prevented ordetected on a timely basis. Also,
projections of any evaluation of the effectiveness of the internal control over financial reporting to future periods are subject to the risk
that the controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or
procedures may deteriorate.
In our opinion, Merrill Lynch maintained, in all material respects, effective internal control over financial reporting as of December 28,
2007, based on the criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations
of the Treadway Commission.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the
consolidated financial statements as of and for the yearended December 28, 2007 of Merrill Lynch and our report dated February 25, 2008
expressed an unqualified opinion on those financial statements, included an explanatory paragraph regarding the changes in accounting
methods in 2007 relating to the adoption of Statement of Financial Accounting Standards No. 157, “Fair Value Measurement,” Statement of
Financial Accounting Standards No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities — Including an amendment of
FASB Statement No. 115,” and FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement
No. 109,” and in 2006 for share-based payments to conform to Statement of Financial Accounting Standards No. 123 (revised 2004),
“Share-Based Payment” and included an explanatory paragraph relating to the restatement discussed in Note 20 to the consolidated
financial statements.
page 79
Report of Independent Registered Public Accounting Firm
To the Board of Directors and Stockholders of Merrill Lynch & Co., Inc.:
We have audited the accompanying consolidated balance sheets of Merrill Lynch & Co., Inc. and subsidiaries (“Merrill Lynch”) as of
December 28, 2007 and December 29, 2006, and the related consolidated statements of (loss)/earnings, changes in stockholders’ equity,
comprehensive (loss)/income and cash flows for each of the three years in the period ended December 28, 2007. These financial
statements are the responsibility of Merrill Lynch’s management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Merrill Lynch as of
December 28, 2007 and December 29, 2006, and the results of its operations and its cash flows for each of the three years in the period
ended December 28, 2007, in conformity with accounting principles generally accepted in the United States of America.
As discussed in Notes 1, 3, 13 and 14 to the consolidated financial statements, in 2007 Merrill Lynch adopted Statement of Financial
Accounting Standards No. 157, “Fair Value Measurement,” Statement of Financial Accounting Standards No. 159, “The Fair Value Option for
Financial Assets and Financial Liabilities — Including an amendment of FASB Statement No. 115,” and FASB Interpretation No. 48,
“Accounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement No. 109,” and in 2006 Merrill Lynch changed its method of
accounting for share-based payments to conform to Statement of Financial Accounting Standards No. 123 (revised 2004), “Share-
Based Payment”.
As discussed in Note 20, the 2006 and 2005 consolidated financial statements have been restated.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Merrill
Lynch’s internal control over financial reporting as of December 28, 2007, based on the criteria established in Internal Control —
Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated
February 25, 2008 expressed an unqualified opinion on Merrill Lynch’s internal control over financial reporting.
Revenues
Principal transactions $ (12,067) $ 7,248 $ 3,647
Commissions 7,284 5,985 5,277
Investment banking 5,582 4,648 3,777
Managed accounts and other fee-based revenues 5,465 6,273 5,701
Earnings from equity method investments 1,627 556 567
Other (2,190) 2,883 1,848
5,701 27,593 20,817
Interest and dividend revenues 56,974 39,790 26,031
Less interest expense 51,425 35,571 21,571
Net interest profit 5,549 4,219 4,460
Gain on merger – 1,969 –
Revenues, Net of Interest Expense 11,250 33,781 25,277
Non-Interest Expenses
Compensation and benefits 15,903 16,867 12,314
Communications and technology 2,057 1,838 1,599
Brokerage, clearing, and exchange fees 1,415 1,096 855
Occupancy and related depreciation 1,139 991 931
Professional fees 1,027 885 729
Advertising and market development 785 686 593
Office supplies and postage 233 225 209
Other 1,522 1,383 1,286
Total Non-Interest Expenses 24,081 23,971 18,516
Pre-Tax (Loss)/Earnings from Continuing Operations (12,831) 9,810 6,761
Income tax (benefit)/expense (4,194) 2,713 1,946
Net (Loss)/Earnings from Continuing Operations $ (8,637) $ 7,097 $ 4,815
Discontinued Operations:
Pre-tax earnings from discontinued operations 1,397 616 470
Income tax expense 537 214 169
Net Earnings from Discontinued Operations 860 402 301
Net (Loss)/Earnings $ (7,777) $ 7,499 $ 5,116
Preferred stock dividends 270 188 70
Net (Loss)/Earnings Applicable to Common Stockholders $ (8,047) $ 7,311 $ 5,046
Basic (loss)/earnings per common share from continuing operations $ (10.73) $ 7.96 $ 5.32
Basic earnings per common share from discontinued operations 1.04 0.46 0.34
Basic (Loss)/Earnings Per Common Share $ (9.69) $ 8.42 $ 5.66
Diluted (loss)/earnings per common share from continuing operations $ (10.73) $ 7.17 $ 4.85
Diluted earnings per common share from discontinued operations 1.04 0.42 0.31
Diluted (Loss)/Earnings Per Common Share $ (9.69) $ 7.59 $ 5.16
Dividend Paid Per Common Share $ 1.40 $ 1.00 $ 0.76
Average Shares Used in Computing Earnings Per Common Share
Basic 830.4 868.1 890.7
Diluted 830.4 963.0 977.7
See Notes to Consolidated Financial Statements.
page 81
Consolidated Balance Sheets
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS) DEC. 28, 2007 DEC. 29, 2006
Assets
Cash and cash equivalents $ 41,346 $ 32,109
Cash and securities segregated for regulatory purposes or deposited with
clearing organizations 22,999 13,449
Securities financing transactions
Receivables under resale agreements (includes $100,214 measured at fair value in 2007
in accordance with SFAS No. 159) 221,617 178,368
Receivables under securities borrowed transactions 133,140 118,610
354,757 296,978
Trading assets, at fair value (includes securities pledged as collateral that can be sold
or repledged of $78,787 in 2007 and $58,966 in 2006)
Derivative contracts 72,689 36,262
Equities and convertible debentures 60,681 48,527
Corporate debt and preferred stock 37,849 32,854
Mortgages, mortgage-backed, and asset-backed 28,013 44,401
Non-U.S. governments and agencies 15,082 21,075
U.S. Government and agencies 11,219 13,086
Municipals, money markets and physical commodities 9,136 7,643
234,669 203,848
Other receivables
Customers (net of allowance for doubtful accounts of $24 in 2007 and $41 in 2006) 70,719 49,427
Brokers and dealers 22,643 18,900
Interest and other 33,487 21,054
126,849 89,381
Loans, notes, and mortgages (net of allowances for loan losses of $533 in 2007 and
$478 in 2006) (includes $1,149 measured at fair value in 2007 in accordance with SFAS No. 159) 94,992 73,029
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNT) DEC. 28, 2007 DEC. 29, 2006
Liabilities
Securities financing transactions
Payables under repurchase agreements (includes $89,733 measured at fair value in 2007 in
accordance with SFAS No. 159) $ 235,725 $ 222,624
Payables under securities loaned transactions 55,906 43,492
291,631 266,116
Short-term borrowings 24,914 18,110
Deposits 103,987 84,124
Trading liabilities, at fair value
Derivative contracts 73,294 42,040
Equities and convertible debentures 29,652 23,268
Non-U.S. governments and agencies 9,407 13,385
U.S. Government and agencies 6,135 12,510
Corporate debt and preferred stock 4,549 6,323
Municipals, money markets and other 551 1,336
123,588 98,862
Obligation to return securities received as collateral, at fair value 45,245 24,929
Other payables
Customers 63,582 49,414
Brokers and dealers 24,499 24,282
Interest and other 44,545 38,897
132,626 112,593
Separate accounts liabilities – 12,314
Long-term borrowings (includes $76,334 measured at fair value in 2007 in accordance
with SFAS No. 159) 260,973 181,400
Junior subordinated notes (related to trust preferred securities) 5,154 3,813
Total Liabilities 988,118 802,261
Commitments and Contingencies
Stockholders’ Equity
Preferred Stockholders’ Equity (liquidation preference of $30,000 per share; issued:
2007 — 155,000 shares; 2006 — 105,000 shares; liquidation preference of $1,000 per share;
issued: — 2007 — 115,000 shares) 4,383 3,145
Common Stockholders’ Equity
Shares exchangeable into common stock 39 39
Common stock (par value $1.331⁄3 per share; authorized: 3,000,000,000 shares;
issued: 2007 — 1,354,309,819 shares; 2006 — 1,215,381,006 shares) 1,805 1,620
Paid-in capital 27,163 18,919
Accumulated other comprehensive loss (net of tax) (1,791) (784)
Retained earnings 23,737 33,217
50,953 53,011
Less: Treasury stock, at cost (2007 — 418,270,289 shares; 2006 — 350,697,271 shares) 23,404 17,118
Total Common Stockholders’ Equity 27,549 35,893
Total Stockholders’ Equity 31,932 39,038
Total Liabilities and Stockholders’ Equity $ 1,020,050 $ 841,299
See Notes to Consolidated Financial Statements.
page 83
Consolidated Statements of Changes in Stockholders’ Equity
page 85
Consolidated Statements of Cash Flows
• Merrill Lynch, Pierce, Fenner & Smith Incorporated (“MLPF&S”), a U.S.-based broker-dealer in securities and futures
commission merchant;
• Merrill Lynch International (“MLI”), a U.K.-based broker-dealer in securities and dealer in equity and credit derivatives;
• Merrill Lynch Government Securities Inc. (“MLGSI”), a U.S.-based dealer in U.S. Government securities;
• Merrill Lynch Capital Services, Inc., a U.S.-based dealer in interest rate, currency, credit derivatives and commodities;
• Merrill Lynch Bank USA (“MLBUSA”), a U.S.-based, state chartered, Federal Deposit Insurance Corporation (“FDIC”)-insured
depository institution;
• Merrill Lynch Bank & Trust Co., FSB (“MLBT-FSB”), a U.S.-based, federally chartered, FDIC-insured depository institution;
• Merrill Lynch International Bank Limited (“MLIB”), an Ireland-based bank;
• Merrill Lynch Mortgage Capital, Inc., a U.S.-based dealer in syndicated commercial loans;
• Merrill Lynch Japan Securities Co., Ltd. (“MLJS”), a Japan-based broker-dealer;
• Merrill Lynch Derivative Products, AG, a Switzerland-based derivatives dealer; and
• ML IBK Positions Inc., a U.S.-based entity involved in private equity and principal investing.
Basis of Presentation
The Consolidated Financial Statements include the accounts of ML & Co. and subsidiaries (collectively, “Merrill Lynch”). The
Consolidated Financial Statements are presented in accordance with U.S. Generally Accepted Accounting Principles, which include
industry practices. Intercompany transactions and balances have been eliminated. Certain reclassifications have been made to the prior
period financial statements to conform to the current period presentation.
The Consolidated Financial Statements are presented in U.S. dollars. Many non-U.S. subsidiaries have a functional currency (i.e., the
currency in which activities are primarily conducted) that is other than the U.S. dollar, often the currency of the country in which a
subsidiary is domiciled. Subsidiaries’ assets and liabilities are translated to U.S. dollars at year-end exchange rates, while revenues and
expenses are translated at average exchange rates during the year. Adjustments that result from translating amounts in a subsidiary’s
functional currency and related hedging, net of related tax effects, are reported in stockholders’ equity as a component of accumulated
other comprehensive loss. All other translation adjustments are included in earnings. Merrill Lynch uses derivatives to manage the
currency exposure arising from activities in non-U.S. subsidiaries. See the Derivatives section for additional information on accounting
for derivatives.
During the fourth quarterof 2007, Merrill Lynch began reporting revenues and expenses from special purpose entity (“SPE”) investments
that are consolidated under Statement of Financial Accounting Standards (“SFAS”) No. 94, Consolidation of All Majority-Owned
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Subsidiaries (“SFAS No. 94”) and Financial Accounting Standards Board (“FASB”) Interpretation No. 46, Consolidation of Variable Interest
Entities — an interpretation of ARB No. 51 (“FIN 46R”), in their respective line items in the Consolidated Statements of Earnings, whereas
in prior periods, these amounts were reported separately as revenues from consolidated investments and expenses of consolidated
investments. The majority of the revenues and expenses that were reclassified are now reported in interest and other revenues and other
expenses. All prior period amounts have been reclassified to conform to the current period presentation.
Merrill Lynch offers a broad array of products and services to its diverse client base of individuals, small to mid-size businesses,
employee benefit plans, corporations, financial institutions, and governments around the world. These products and services are offered
from a number of locations globally. In some cases, the same or similar products and services may be offered to both individual and
institutional clients, utilizing the same infrastructure. In other cases, a single infrastructure may be used to support multiple products
and services offered to clients. When Merrill Lynch analyzes its profitability, it does not focus on the profitability of a single product or
service. Instead, Merrill Lynch looks at the profitability of businesses offering an array of products and services to various types of clients.
The profitability of the products and services offered to individuals, small to mid-size businesses, and employee benefit plans is analyzed
separately from the profitability of products and services offered to corporations, financial institutions, and governments, regardless of
whether there is commonality in products and services infrastructure. As such, Merrill Lynch does not separately disclose the costs
associated with the products and services sold or general and administrative costs either in total or by product.
When determining the prices for products and services, Merrill Lynch considers multiple factors, including prices being offered in the
market for similar products and services, the competitiveness of its pricing compared to competitors, the profitability of its businesses
and its overall profitability, as well as the profitability, creditworthiness, and importance of the overall client relationships.
Shared expenses that are incurred to support products and services and infrastructures are allocated to the businesses based on various
methodologies, which may include headcount, square footage, and certain other criteria. Similarly, certain revenues may be shared
based upon agreed methodologies. When looking at the profitability of various businesses, Merrill Lynch considers all expenses
incurred, including overhead and the costs of shared services, as all are considered integral to the operation of the businesses.
Discontinued Operations
On August 13, 2007, we announced that we will form a strategic business relationship with AEGON, N.V. (“AEGON”) in the areas of
insurance and investment products. As part of this relationship, we had agreed to sell Merrill Lynch Life Insurance Company and ML Life
Insurance Company of New York (together “Merrill Lynch Insurance Group” or “MLIG”) to AEGON for $1.3 billion. We will continue to
serve the insurance needs of our clients through our core distribution and advisory capabilities. The sale of MLIG was completed in the
fourth quarter of 2007 and resulted in an after-tax gain of approximately $316 million. The gain along with the financial results of MLIG,
have been reported within discontinued operations for all periods presented. We previously reported the results of MLIG in the Global
Wealth Management (“GWM”) business segment. Refer to Note 17 to the Consolidated Financial Statements for additional information.
On December 24, 2007 we announced that we had reached an agreement with GE Capital to sell Merrill Lynch Capital, a wholly-owned
middle-market commercial finance business. The sale includes substantially all of Merrill Lynch Capital’s operations, including its
commercial real estate division. This transaction closed on February 4, 2008. We have included results of Merrill Lynch Capital within
discontinued operations for all periods presented. We previously reported results of Merrill Lynch Capital in the Global Markets and
Investment Banking (“GMI”) business segment. Refer to Note 17 to the Consolidated Financial Statements for additional information.
Merrill Lynch determines whether it is required to consolidate an entity by first evaluating whether the entity qualifies as a voting rights
entity (“VRE”), a variable interest entity (“VIE”), or a QSPE.
VREs — In accordance with the guidance in FIN 46R, VREs are defined to include entities that have both equity at risk that is sufficient to
fund future operations and have equity investors with decision making ability that absorb the majority of the expected losses and
expected returns of the entity. In accordance with SFAS No. 94, Merrill Lynch generally consolidates those VREs where it holds a
controlling financial interest. For investments in limited partnerships and certain limited liability corporations that Merrill Lynch does
not control, Merrill Lynch applies Emerging Issues Task Force (“EITF”) Topic D-46, Accounting for Limited Partnership Investments, which
requires use of the equity method of accounting for investors that have more than a minor influence, which is typically defined as an
investment of greater than 3% of the outstanding equity in the entity. For more traditional corporate structures, in accordance with
Accounting Principles Board Opinion No. 18, The Equity Method of Accounting for Investments in Common Stock, Merrill Lynch applies the
equity method of accounting where it has significant influence over the investee. Significant influence can be evidenced by a significant
VIEs — Those entities that do not meet the VRE criteria as defined in FIN 46R are generally analyzed for consolidation as either VIEs or
QSPEs. Merrill Lynch consolidates those VIEs in which it absorbs the majority of the variability in expected losses and/or the variability in
expected returns of the entity as required by FIN 46R. Merrill Lynch relies on a qualitative and/or quantitative analysis, including an
analysis of the design of the entity, to determine if it is the primary beneficiary of the VIE and therefore must consolidate the VIE. Merrill
Lynch reassesses whether it is the primary beneficiary of a VIE upon the occurrence of a reconsideration event.
QSPEs — QSPEs are passive entities with significantly limited permitted activities. QSPEs are generally used as securitization vehicles
and are limited in the type of assets they may hold, the derivatives that they can enter into and the level of discretion they may exercise
through servicing activities. In accordance with SFAS No. 140, Accounting for Transfers and Servicing of Financial Assets and Extin-
guishment of Liabilities (“SFAS No. 140”), and FIN 46R, Merrill Lynch does not consolidate QSPEs.
Securitization Activities
In the normal course of business, Merrill Lynch securitizes: commercial and residential mortgage loans and home equity loans;
municipal, government, and corporate bonds; and other types of financial assets. Merrill Lynch may retain interests in the securitized
financial assets through holding tranches of the securitization. In accordance with SFAS No. 140, Merrill Lynch recognizes transfers of
financial assets that relinquish control as sales to the extent of cash and any proceeds received. Control is considered to be relinquished
when all of the following conditions have been met:
• The transferred assets have been legally isolated from the transferor even in bankruptcy or other receivership;
• The transferee has the right to pledge or exchange the assets it received, or if the entity is a QSPE the beneficial interest holders
have that right; and
• The transferor does not maintain effective control over the transferred assets (e.g. the ability to unilaterally cause the holder to
return specific transferred assets).
Revenue Recognition
Principal transactions revenues include both realized and unrealized gains and losses on trading assets and trading liabilities and
investment securities classified as trading investments. These instruments are recorded at fair value. Fair value is the price that would
be received to sell an asset or paid to transfer a liability in an orderly transaction between marketplace participants. Gains and losses are
recognized on a trade date basis.
Commissions revenues includes commissions, mutual fund distribution fees and contingent deferred sales charge revenue, which are
all accrued as earned. Commissions revenues also includes mutual fund redemption fees, which are recognized at the time of
redemption. Commissions revenues earned from certain customer equity transactions are recorded net of related brokerage, clearing
and exchange fees.
Investment banking revenues include underwriting revenues and fees for merger and acquisition advisory services, which are accrued
when services for the transactions are substantially completed. Underwriting revenues are presented net of transaction-related
expenses. Transaction-related expenses, primarily legal, travel and other costs directly associated with the transaction, are deferred
and recognized in the same period as the related revenue from the investment banking transaction to match revenue recognition.
Managed accounts and other fee-based revenues primarily consist of asset-priced portfolio service fees earned from the administration
of separately managed accounts and other investment accounts for retail investors, annual account fees, and certain other account-
related fees. In addition, until the merger of our Merrill Lynch Investment Management (“MLIM”) business with BlackRock, Inc.
(“BlackRock”) at the end of the third quarter of 2006 (“BlackRock merger”), managed accounts and other fee-based revenues also
included fees earned from the management and administration of retail mutual funds and institutional funds such as pension assets,
and performance fees earned on certain separately managed accounts and institutional money management arrangements. For
additional information regarding the BlackRock merger, refer to Note 18 to the Consolidated Financial Statements.
Earnings from equity method investments includes Merrill Lynch’s pro rata share of income and losses associated with investments
accounted for under the equity method.
Other revenues include gains/(losses) on investment securities, including unrealized losses on certain available-for-sale securities,
gains/(losses) on private equity investments that are held forcapital appreciation and/orcurrent income, and gains/(losses) on loans and
other miscellaneous items.
Contractual interest and dividends received and paid on trading assets and trading liabilities, excluding derivatives, are recognized on an
accrual basis as a component of interest and dividend revenues and interest expense. Interest and dividends on investment securities are
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recognized on an accrual basis as a component of interest and dividend revenues. Interest related to loans, notes, and mortgages,
securities financing activities and certain short- and long-term borrowings are recorded on an accrual basis with related interest
recorded as interest revenue or interest expense, as applicable. Contractual interest expense on structured notes is recorded as a
component of interest expense.
Use of Estimates
In presenting the Consolidated Financial Statements, management makes estimates regarding:
• Valuations of assets and liabilities requiring fair value estimates;
• The outcome of litigation;
• The realization of deferred taxes and the recognition and measurement of uncertain tax positions;
• Assumptions and cash flow projections used in determining whether VIEs should be consolidated and the determination of
the qualified status of QSPEs;
• The carrying amount of goodwill and intangible assets;
• The amortization period of intangible assets with definite lives;
• Valuation of share-based payment compensation arrangements; and
• Other matters that affect the reported amounts and disclosure of contingencies in the financial statements.
Estimates, by their nature, are based on judgment and available information. Therefore, actual results could differ from those estimates
and could have a material impact on the Consolidated Financial Statements, and it is possible that such changes could occur in the near
term. A discussion of certain areas in which estimates are a significant component of the amounts reported in the Consolidated Financial
Statements follows:
New and/or complex instruments may have immature or limited markets. As a result, the pricing models used for valuation often
incorporate significant estimates and assumptions that market participants would use in pricing the instrument, which may impact the
results of operations reported in the Consolidated Financial Statements. For instance, on long-dated and illiquid contracts extrapolation
methods are applied to observed market data in order to estimate inputs and assumptions that are not directly observable. This enables
Merrill Lynch to mark to fair value all positions consistently when only a subset of prices are directly observable. Values for OTC
derivatives are verified using observed information about the costs of hedging the risk and other trades in the market. As the markets for
these products develop, Merrill Lynch continually refines its pricing models to correlate more closely to the market price of
these instruments.
Prior to adoption of SFAS No. 157, Merrill Lynch followed the provisions of EITF 02-3. Under EITF 02-3, recognition of day one gains and
losses on derivative transactions where model inputs that significantly impact valuation are not observable were prohibited. Day one
gains and losses deferred at inception under EITF 02-3 were recognized at the earlier of when the valuation of such derivative became
Certain financial instruments recorded at fair value are initially measured using mid-market prices which results in gross long and short
positions marked-to-market at the same pricing level prior to the application of position netting. The resulting net positions are then
adjusted to fair value representing the exit price as defined in SFAS No. 157. The significant adjustments include liquidity and
counterparty credit risk.
Liquidity
Merrill Lynch makes adjustments to bring a position from a mid-market to a bid or offer price, depending upon the net open position.
Merrill Lynch values net long positions at bid prices and net short positions at offer prices. These adjustments are based upon either
observable or implied bid-offer prices.
Counterparty Credit Risk
In determining fair value Merrill Lynch considers both the credit risk of its counterparties, as well its own creditworthiness. Credit risk to
third parties is generally mitigated by entering into netting and collateral arrangements. Net exposure is then measured with
consideration of a counterparty’s creditworthiness and is incorporated into the fair value of the respective instruments. The calculation
of the credit adjustment for derivatives is generally based upon observable market credit spreads.
SFAS No. 157 requires that Merrill Lynch’s own creditworthiness be considered when determining the fair value of an instrument. The
approach to measuring the impact of Merrill Lynch’s own credit on an instrument is the same approach as that used to measure third
party credit risk.
Legal Reserves
Merrill Lynch is a party in various actions, some of which involve claims for substantial amounts. Amounts are accrued for the financial
resolution of claims that have either been asserted or are deemed probable of assertion if, in the opinion of management, it is both
probable that a liability has been incurred and the amount of the liability can be reasonably estimated. In many cases, it is not possible to
determine whether a liability has been incurred or to estimate the ultimate or minimum amount of that liability until years after the
litigation has been commenced, in which case no accrual is made until that time. Accruals are subject to significant estimation by
management with input from outside counsel.
Income Taxes
Merrill Lynch provides for income taxes on all transactions that have been recognized in the Consolidated Financial Statements in
accordance with SFAS No. 109, Accounting for Income Taxes (“SFAS No. 109”). Accordingly, deferred taxes are adjusted to reflect the tax
rates at which future taxable amounts will likely be settled or realized. The effects of tax rate changes on future deferred tax liabilities and
deferred tax assets, as well as other changes in income tax laws, are recognized in net earnings in the period during which such changes
are enacted. Valuation allowances are established when necessary to reduce deferred tax assets to the amounts expected to be realized.
Merrill Lynch assesses its ability to realize deferred tax assets primarily based on the earnings history and other factors of the legal
entities through which the deferred tax assets will be realized as discussed in SFAS No. 109. See Note 14 to the Consolidated Financial
Statements for further discussion of income taxes.
Merrill Lynch recognizes and measures its unrecognized tax benefits in accordance with FASB Interpretation No. 48, Accounting for
Uncertainty in Income Taxes. Merrill Lynch estimates the likelihood, based on their technical merits, that tax positions will be sustained
upon examination based on the facts and circumstances and information available at the end of each period. Merrill Lynch adjusts the
level of unrecognized tax benefits when there is more information available, or when an event occurs requiring a change. The
reassessment of unrecognized tax benefits could have a material impact on Merrill Lynch’s effective tax rate in the period in which
it occurs.
ML & Co. and certain of its wholly-owned subsidiaries file a consolidated U.S. federal income tax return. Certain other Merrill Lynch
entities file tax returns in their local jurisdictions.
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performance of assets held by the VIE, taking into account estimates of credit risk, estimates of the fair value of assets, timing of cash
flows, and other significant factors. It should also be noted that although a VIE’s actual results may differ from projected outcomes, a
revised consolidation analysis is not required unless a reconsideration event occurs. If a VIE meets the conditions to be considered a
QSPE, it is typically not required to be consolidated by Merrill Lynch. A QSPE’s activities must be significantly limited. A servicer of the
assets held by a QSPE may have discretion in restructuring or working out assets held by the QSPE as long as the discretion is
significantly limited and the parameters of that discretion are fully described in the legal documents that established the QSPE.
Determining whether the activities of a QSPE and its servicer meet these conditions requires the use of judgment by management.
Resale and repurchase agreements are accounted for as collateralized financing transactions and may be recorded at their contractual
amounts plus accrued interest or at fair value under the fair value option election in SFAS No. 159. Resale and repurchase agreements
recorded at fair value are generally valued based on pricing models that use inputs with observable levels of price transparency. Changes
in the fair value of resale and repurchase agreements are reflected in principal transactions revenues and the contractual interest
coupon is recorded as interest revenue or interest expense, respectively. For further information refer to Note 3 to the Consolidated
Financial Statements. Resale and repurchase agreements recorded at theircontractual amounts plus accrued interest approximate fair
value, as the fair value of these items is not materially sensitive to shifts in market interest rates because of the short-term nature of
these instruments or to credit risk because the resale and repurchase agreements are fully collateralized.
Merrill Lynch’s policy is to obtain possession of collateral with a market value equal to or in excess of the principal amount loaned under
resale agreements. To ensure that the market value of the underlying collateral remains sufficient, collateral is valued daily and Merrill
Lynch may require counterparties to deposit additional collateral or may return collateral pledged when appropriate.
Merrill Lynch may use securities received as collateral for resale agreements to satisfy regulatory requirements such as Rule 15c3-3
of the SEC.
Securities borrowed and loaned transactions are recorded at the amount of cash collateral advanced or received. Securities borrowed
transactions require Merrill Lynch to provide the counterparty with collateral in the form of cash, letters of credit, or other securities.
Merrill Lynch receives collateral in the form of cash or other securities for securities loaned transactions. For these transactions, the
fees received or paid by Merrill Lynch are recorded as interest revenue or expense. On a daily basis, Merrill Lynch monitors the market
value of securities borrowed or loaned against the collateral value, and Merrill Lynch may require counterparties to deposit additional
collateral or may return collateral pledged, when appropriate. The carrying value of these instruments approximates fair value as these
items are not materially sensitive to shifts in market interest rates because of their short-term nature and/or their variable
interest rates.
All firm-owned securities pledged to counterparties where the counterparty has the right, by contract or custom, to sell or repledge the
securities are disclosed parenthetically in trading assets or, if applicable, in investment securities on the Consolidated Balance Sheets.
In transactions where Merrill Lynch acts as the lender in a securities lending agreement and receives securities that can be pledged or
sold as collateral, it recognizes an asset on the Consolidated Balance Sheets carried at fair value, representing the securities received
(securities received as collateral), and a liability for the same amount, representing the obligation to return those securities (obligation to
return securities received as collateral). The amounts on the Consolidated Balance Sheets result from non-cash transactions.
Trading assets and liabilities are generally recorded on a trade date basis at fair value. Included in trading liabilities are securities that
Merrill Lynch has sold but did not own and will therefore be obligated to purchase at a future date (“short sales”). Commodities inventory
is recorded at the lowerof cost or market value. Changes in fair value of trading assets and liabilities (i.e., unrealized gains and losses) are
recognized as principal transactions revenues in the current period. Realized gains and losses and any related interest amounts are
included in principal transactions revenues and interest revenues and expenses, depending on the nature of the instrument.
Derivatives
A derivative is an instrument whose value is derived from an underlying instrument or index, such as interest rates, equity securities,
currencies, commodities or credit spreads. Derivatives include futures, forwards, swaps, or option contracts, or other financial
instruments with similar characteristics. Derivative contracts often involve future commitments to exchange interest payment streams
or currencies based on a notional or contractual amount (e.g., interest rate swaps or currency forwards) or to purchase or sell other
financial instruments at specified terms on a specified date (e.g., options to buy or sell securities or currencies). Derivative activity is
subject to Merrill Lynch’s overall risk management policies and procedures.
SFAS No. 133, as amended, establishes accounting and reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts (“embedded derivatives”) and for hedging activities. SFAS No. 133 requires that an entity
recognize all derivatives as either assets or liabilities in the Consolidated Balance Sheets and measure those instruments at fair value.
The fair value of all derivatives is recorded on a net-by-counterparty basis on the Consolidated Balance Sheets where management
believes a legal right of setoff exists under an enforceable netting agreement.
The accounting for changes in fair value of a derivative instrument depends on its intended use and if it is designated and qualifies as an
accounting hedging instrument.
Merrill Lynch enters into derivatives to facilitate client transactions, for proprietary trading and financing purposes, and to manage risk
exposures arising from trading assets and liabilities. Derivatives entered into for these purposes are recognized at fair value on the
Consolidated Balance Sheets as trading assets and liabilities, and changes in fair value are reported in current period earnings as
principal transactions revenues.
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Merrill Lynch also enters into derivatives in order to manage risk exposures arising from assets and liabilities not carried at fair value
as follows:
1. Merrill Lynch routinely issues debt in a variety of maturities and currencies to achieve the lowest cost financing possible. In addition,
Merrill Lynch’s regulated bank entities accept time deposits of varying rates and maturities. Merrill Lynch enters into derivative
transactions to hedge these liabilities. Derivatives used most frequently include swap agreements that:
• Convert fixed-rate interest payments into variable payments;
• Change the underlying interest rate basis or reset frequency; and
• Change the settlement currency of a debt instrument.
2. Merrill Lynch enters into hedges on marketable investment securities to manage the interest rate risk, currency risk, and net
duration of its investment portfolios.
3. Merrill Lynch has fair value hedges of long-term fixed rate resale and repurchase agreements to manage the interest rate risk of
these assets and liabilities. Subsequent to the adoption of SFAS No. 159, Merrill Lynch elects to account for these instruments on a fair
value basis rather than apply hedge accounting.
4. Merrill Lynch uses foreign-exchange forward contracts, foreign-exchange options, currency swaps, and foreign-currency-
denominated debt to hedge its net investments in foreign operations. These derivatives and cash instruments are used to
mitigate the impact of changes in exchange rates.
5. Merrill Lynch enters into futures, swaps, options and forward contracts to manage the price risk of certain commodity inventory.
Derivatives entered into by Merrill Lynch to hedge its funding, marketable investment securities and net investments in foreign
subsidiaries are reported at fair value in other assets or interest and other payables on the Consolidated Balance Sheets. Derivatives
used to hedge commodity inventory are included in trading assets and trading liabilities on the Consolidated Balance Sheets.
Derivatives that qualify as accounting hedges under the guidance in SFAS No. 133 are designated as one of the following:
1. A hedge of the fair value of a recognized asset or liability (“fair value” hedge). Changes in the fair value of derivatives that are
designated and qualify as fair value hedges of interest rate risk, along with the gain or loss on the hedged asset or liability that is
attributable to the hedged risk, are recorded in current period earnings as interest revenue or expense. Changes in the fair value of
derivatives that are designated and qualify as fair value hedges of commodity price risk, along with the gain or loss on the hedged asset
or liability that is attributable to the hedged risk, are recorded in current period earnings in principal transactions.
2. A hedge of the variability of cash flows to be received or paid related to a recognized asset or liability (“cash flow” hedge). Changes in
the fair value of derivatives that are designated and qualify as effective cash flow hedges are recorded in accumulated other
comprehensive loss until earnings are affected by the variability of cash flows of the hedged asset or liability (e.g., when periodic
interest accruals on a variable-rate asset or liability are recorded in earnings).
3. A hedge of a net investment in a foreign operation. Changes in the fair value of derivatives that are designated and qualify as hedges of
a net investment in a foreign operation are recorded in the foreign currency translation adjustment account within accumulated other
comprehensive loss. Changes in the fair value of the hedge instruments that are associated with the difference between the spot
translation rate and the forward translation rate are recorded in current period earnings in other revenues.
Merrill Lynch formally assesses, both at the inception of the hedge and on an ongoing basis, whether the hedging derivatives are highly
effective in offsetting changes in fair value orcash flows of hedged items. When it is determined that a derivative is not highly effective as a
hedge, Merrill Lynch discontinues hedge accounting. Under the provisions of SFAS No. 133, 100% hedge effectiveness is assumed for
those derivatives whose terms meet the conditions of SFAS No. 133 “short-cut method.”
As noted above, Merrill Lynch enters into fair value and cash flow hedges of interest rate exposure associated with certain investment
securities and debt issuances. Merrill Lynch uses interest rate swaps to hedge this exposure. Hedge effectiveness testing is required for
certain of these hedging relationships on a quarterly basis. For fair value hedges, Merrill Lynch assesses effectiveness on a prospective
basis by comparing the expected change in the price of the hedge instrument to the expected change in the value of the hedged item
under various interest rate shock scenarios. For cash flow hedges, Merrill Lynch assesses effectiveness on a prospective basis by
comparing the present value of the projected cash flows on the variable leg of the hedge instrument against the present value of the
projected cash flows of the hedged item (the “change in variable cash flows” method) under various interest rate, prepayment and credit
shock scenarios. In addition, Merrill Lynch assesses effectiveness on a retrospective basis using the dollar-offset ratio approach. When
assessing hedge effectiveness, there are no attributes of the derivatives used to hedge the fair value exposure that are excluded from the
assessment. Ineffectiveness associated with these hedges was immaterial for all periods presented. The deferred net gains on
derivative instruments designated as cash flow hedges that were in accumulated other comprehensive loss at December 28, 2007 and
are expected to be reclassified into earnings during 2008 is approximately $44 million.
For hedges of net investments in foreign operations, $432 million and $1.1 billion of net losses related to non-U.S. dollar hedges of
investments in non-U.S. dollar subsidiaries were included in accumulated other comprehensive loss on the Consolidated Balance
Sheets for the years ended 2007 and 2006, respectively. These amounts were substantially offset by net gains on the hedged investments.
Investment Securities
Investment securities consist of marketable investment securities and non-qualifying investments. Refer to Note 5 to the Consolidated
Financial Statements for further information.
Marketable Investments
ML & Co. and certain of its non-broker-dealer subsidiaries follow the guidance prescribed by SFAS No. 115 when accounting for
investments in debt and publicly traded equity securities. Merrill Lynch classifies those debt securities that it has the intent and ability to
hold to maturity as held-to-maturity securities. Held-to-maturity securities are carried at cost unless a decline in value is deemed other-
than-temporary, in which case the carrying value is reduced. For Merrill Lynch, the trading classification under SFAS No. 115 generally
includes those securities that are bought and held principally for the purpose of selling them in the near term, securities that are
economically hedged, or securities that contain a bifurcatable embedded derivative as defined in SFAS No. 133. Securities classified as
trading are marked to fair value through earnings. All other qualifying securities are classified as available-for-sale with unrealized
gains and losses reported in accumulated othercomprehensive loss. Any unrealized losses deemed other-than-temporary are included
in current period earnings and removed from accumulated other comprehensive loss.
Realized gains and losses on investment securities are included in current period earnings. For purposes of computing realized gains
and losses, the cost basis of each investment sold is generally based on the average cost method.
Investment securities are reviewed at least quarterly to assess whether any impairment is other-than-temporary. The determination of
other-than-temporary impairment requires judgment and will depend on several factors, including but not limited to the severity and
duration of the decline in value of the investment securities and the financial condition of the issuer. Merrill Lynch’s impairment review
generally includes:
• Identifying investments with indicators of possible impairment;
• Analyzing individual investments with fair value less than amortized cost, including estimating future cash flows, and
considering the length of time and extent to which the investment has been in an unrealized loss position;
• Discussion of evidential matter, including an evaluation of factors or triggers that could cause individual investments to
qualify as having other-than-temporary impairment; and
• Documenting the analysis and conclusions.
To the extent that Merrill Lynch has the ability and intent to hold the investments for a period of time sufficient for a forecasted market
price recovery up to or beyond the cost of the investment, no impairment charge will be recognized.
Non-Qualifying Investments
Non-qualifying investments are those investments that are not within the scope of SFAS No. 115 and primarily include private equity
investments accounted for at fair value and securities carried at cost or under the equity method of accounting.
Private equity investments that are held for capital appreciation and/or current income are accounted for under the AICPA Accounting
and Auditing Guide, Investment Companies (“the Investment Company Guide”) and carried at fair value. Additionally, certain private equity
investments that are not accounted for under the Investment Company Guide may be carried at fair value under the fair value option
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election in SFAS No. 159. The carrying value of private equity investments reflects expected exit values based upon market prices orother
valuation methodologies including expected cash flows and market comparables of similar companies.
Merrill Lynch has minority investments in the common shares of corporations and in partnerships that do not fall within the scope of
SFAS No. 115 or the Investment Company Guide. Merrill Lynch accounts for these investments using either the cost or the equity method
of accounting based on management’s ability to influence the investees (See Consolidation Accounting Policies section for
more information).
For investments accounted for using the equity method, income is recognized based on Merrill Lynch’s share of the earnings or losses of
the investee. Dividend distributions are generally recorded as reductions in the investment balance. Impairment testing is based on the
guidance provided in APB Opinion No. 18, The Equity Method of Accounting for Investments in Common Stock, and the investment is
reduced when an impairment is deemed other-than-temporary.
For investments accounted for at cost, income is recognized as dividends are received. Impairment testing is based on the guidance
provided in FASB Staff Position Nos. SFAS 115-1 and SFAS 124-1, The Meaning of Other-Than-Temporary Impairment and Its Application to
Certain Investments, and the cost basis is reduced when an impairment is deemed other-than-temporary.
Loans held for investment are carried at amortized cost, less an allowance for loan losses. The provision for loan losses is based on
management’s estimate of the amount necessary to maintain the allowance for loan losses at a level adequate to absorb probable
incurred loan losses and is included in interest revenue in the Consolidated Statements of (Loss)/Earnings. Management’s estimate of
loan losses is influenced by many factors, including adverse situations that may affect the borrower’s ability to repay, current economic
conditions, prior loan loss experience, and the estimated fair value of any underlying collateral. The fair value of collateral is generally
determined by third-party appraisals in the case of residential mortgages, quoted market prices for securities, or other types of
estimates for other assets.
Management’s estimate of loan losses includes judgment about collectibility based on available information at the balance sheet date,
and the uncertainties inherent in those underlying assumptions. While management has based its estimates on the best information
available, future adjustments to the allowance for loan losses may be necessary as a result of changes in the economic environment or
variances between actual results and the original assumptions.
In general, loans are evaluated for impairment when they are greater than 90 days past due or exhibit credit quality weakness. Loans are
considered impaired when it is probable that Merrill Lynch will not be able to collect the contractual principal and interest due from the
borrower. All payments received on impaired loans are applied to principal until the principal balance has been reduced to a level where
collection of the remaining recorded investment is not in doubt. Typically, when collection of principal on an impaired loan is not in doubt,
contractual interest will be credited to interest income when received.
Loans held for sale are carried at lower of cost or fair value and loans for which the fair value option has been elected are carried at fair
value; estimation is required in determining these fair values. The fair value of loans made in connection with commercial lending activity,
consisting primarily of senior debt, is primarily estimated using discounted cash flows or the market value of publicly issued debt
instruments. Merrill Lynch’s estimate of fair value for other loans, notes, and mortgages is determined based on the individual loan
characteristics. For certain homogeneous categories of loans, including residential mortgages, automobile loans, and home equity
loans, fair value is estimated using an “as-if” securitized price based on estimated performance of the underlying asset pool collateral,
rating agency credit structure assumptions and market pricing for similar securitizations previously executed. Declines in the carrying
value of loans held for sale and loans accounted for at fair value under the fair value option are included in other revenues in the
Consolidated Statements of (Loss)/Earnings.
Nonrefundable loan origination fees, loan commitment fees, and “draw down” fees received in conjunction with financing arrangements
are generally deferred and recognized over the contractual life of the loan as an adjustment to the yield. If, at the outset, or any time
during the term of the loan, it becomes highly probable that the repayment period will be extended, the amortization is recalculated using
the expected remaining life of the loan. When the loan contract does not provide for a specific maturity date, management’s best estimate
of the repayment period is used. At repayment of the loan, any unrecognized deferred fee is immediately recognized in earnings. If the
loan is accounted for as held for sale, the fees received are deferred and recognized as part of the gain or loss on sale in other revenues. If
Depreciation and amortization are computed using the straight-line method. Equipment is depreciated over its estimated useful life,
while leasehold improvements are amortized over the lesser of the improvement’s estimated economic useful life or the term of the
lease. Maintenance and repair costs are expensed as incurred.
Included in the occupancy and related depreciation expense category was depreciation and amortization of $258 million, $216 million,
and $198 million in 2007, 2006, and 2005, respectively. Depreciation and amortization recognized in the communications and technology
expense category was $394 million, $303 million, and $271 million for 2007, 2006, and 2005, respectively.
Qualifying costs incurred in the development of internal-use software are capitalized when costs exceed $5 million and are amortized
over the useful life of the developed software, generally not exceeding three years.
Goodwill
Goodwill is the cost of an acquired company in excess of the fair value of identifiable net assets at acquisition date. Goodwill is tested
annually (or more frequently under certain conditions) for impairment at the reporting unit level in accordance with SFAS No. 142,
Goodwill and Other Intangible Assets (“SFAS No. 142”).
Intangible Assets
Intangible assets consist primarily of value assigned to customer relationships and core deposits. Intangible assets are tested for
impairment in accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (“SFAS No. 144”), whenever
certain conditions exist which would indicate the carrying amount of such assets may not be recoverable. Intangible assets with definitive
lives are amortized over their respective estimated useful lives.
Other Assets
Other assets include unrealized gains on derivatives used to hedge Merrill Lynch’s non-trading borrowing and investing activities. All of
these derivatives are recorded at fair value with changes reflected in earnings or accumulated other comprehensive loss (refer to the
Derivatives section for more information). Other assets also include prepaid pension expense related to plan contributions in excess of
obligations, other prepaid expenses, and other deferred charges. Refer to Note 12 to the Consolidated Financial Statements for
further information.
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In addition, real estate purchased for investment purposes is also included in this category. Real estate held in this category may be
classified as either held and used or held for sale depending on the facts and circumstances. Real estate held and used is valued at cost,
less depreciation, and real estate held for sale is valued at the lower of cost or fair value, less estimated cost to sell.
Deposits
Savings deposits are interest-bearing accounts that have no maturity or expiration date, whereby the depositor is not required by the
deposit contract, but may at any time be required by the depository institution, to give written notice of an intended withdrawal not less
than seven days before withdrawal is made. Time deposits are accounts that have a stipulated maturity and interest rate. Depositors
holding time deposits may recover their funds prior to the stated maturity but may pay a penalty to do so. In certain cases, Merrill Lynch
enters into interest rate swaps to hedge the fair value risk in these time deposits. The carrying amount of deposits approximates fair
value amounts. Refer to the Derivatives section for more information.
Merrill Lynch issues structured debt instruments that have coupons or repayment terms linked to the performance of debt or equity
securities, indices, currencies, or commodities, generally referred to as hybrid debt instruments or structured notes. The contingent
payment components of these obligations may meet the definition in SFAS No. 133 of an “embedded derivative.” Historically, these hybrid
debt instruments were assessed to determine if the embedded derivative required separate reporting (i.e. bifurcation) and accounting,
and if so, the embedded derivative was accounted for at fair value and reported in long-term borrowings on the Consolidated Balance
Sheets along with the debt obligation. Changes in the fair value of the bifurcated embedded derivative and related economic hedges were
reported in principal transactions revenues. Separating an embedded derivative from its host contract required careful analysis,
judgment, and an understanding of the terms and conditions of the instrument. Beginning in the first quarter of 2007, Merrill Lynch
elected the fair value option in SFAS No. 159 for all hybrid debt instruments issued subsequent to December 29, 2006. Changes in fair
value of the entire hybrid debt instrument are reflected in principal transactions revenues and the contractual interest coupon, if any, is
recorded as interest expense. For further information refer to Note 3 to the Consolidated Financial Statements.
Merrill Lynch uses derivatives to manage the interest rate, currency, equity, and other risk exposures of its borrowings. See the
Derivatives section for additional information on accounting policy for derivatives.
Stock-Based Compensation
Merrill Lynch adopted the provisions of SFAS No. 123 (revised 2004), Share-Based Payment, a revision of SFAS No. 123, Accounting for
Stock-Based Compensation (“SFAS No. 123R”) beginning in the first quarter of 2006. Under SFAS No. 123R, compensation expenses for
share-based awards that do not require future service are recorded immediately, and share-based awards that require future service
continue to be amortized into expense over the relevant service period. Merrill Lynch adopted SFAS No. 123R under the modified
prospective method whereby the provisions of SFAS No. 123R are generally applied only to share-based awards granted or modified
subsequent to adoption. Thus, for Merrill Lynch, SFAS No. 123R required the immediate expensing of share-based awards granted or
modified in 2006 to retirement-eligible employees, including awards that are subject to non-compete provisions.
Prior to the adoption of SFAS No. 123R, Merrill Lynch had recognized expense for share-based compensation over the vesting period
stipulated in the grant for all employees. This included those who had satisfied retirement eligibility criteria but were subject to a non-
compete agreement that applied from the date of retirement through each applicable vesting period. Previously, Merrill Lynch had
accelerated any unrecognized compensation cost for such awards if a retirement-eligible employee left Merrill Lynch. However, because
SFAS No. 123R applies only to awards granted or modified in 2006, and thereafter, expenses for share-based awards granted prior to
2006 to employees who were retirement-eligible with respect to those awards must continue to be amortized over the stated
vesting period.
In December 2007, the FASB issued SFAS No. 141R, Business Combinations (“SFAS No. 141R”), which significantly changes the financial
accounting and reporting for business combinations. SFAS No. 141R will require:
• More assets and liabilities measured at fair value as of the acquisition date,
• Liabilities related to contingent consideration to be remeasured at fair value in each subsequent reporting period with
changes reflected in earnings and not goodwill, and
• An acquirer in pre-acquisition periods to expense all acquisition-related costs.
SFAS No. 141R is required to be adopted on a prospective basis concurrently with SFAS No. 160 and is effective for business combinations
with an acquisition date in fiscal 2009. Early adoption is prohibited. We are currently evaluating the impact of SFAS No. 141R on the
Consolidated Financial Statements.
In June 2007, the Accounting Standards Executive Committee of the AICPA issued Statement of Position 07-1, Clarification of the Scope of
the Audit and Accounting Guide Investment Companies and Accounting by Parent Companies and Equity Method Investors for Investments in
Investment Companies (“SOP 07-1”). The intent of SOP 07-1 is to clarify which entities are within the scope of the AICPA Audit and
Accounting Guide, Investment Companies (the “Guide”). For those entities that are investment companies under SOP 07-1, the SOP also
addresses whether the specialized industry accounting principles of the Guide (referred to as “investment company accounting”) should
be retained by the parent company in consolidation or by an investor that accounts for the investment under the equity method because it
has significant influence over the investee. On October 17, 2007, the FASB proposed an indefinite delay of the effective dates of SOP 07-1
to allow the Board to address certain implementation issues that have arisen and possibly revise SOP 07-1.
In April 2007, the FASB issued FSP No. FIN 39-1, Amendment of FASB Interpretation No. 39 (“FSP FIN 39-1”). FSP FIN 39-1 modifies
FIN No. 39, Offsetting of Amounts Related to Certain Contracts, and permits companies to offset cash collateral receivables or payables
with net derivative positions. FSP FIN 39-1 is effective for fiscal years beginning after November 15, 2007 with early adoption permitted.
FSP FIN 39-1 will not have a material effect on our Consolidated Financial Statements as it clarified the acceptability of existing market
practice, which we apply, for netting of cash collateral against net derivative assets and liabilities.
In February 2007, the FASB issued SFAS No. 159, which provides a fair value option election that allows companies to irrevocably elect fair
value as the initial and subsequent measurement attribute for certain financial assets and liabilities. Changes in fair value for assets and
liabilities for which the election is made will be recognized in earnings as they occur. SFAS No. 159 permits the fair value option election
on an instrument-by-instrument basis at initial recognition of an asset or liability or upon an event that gives rise to a new basis of
accounting for that instrument. SFAS No. 159 is effective as of the beginning of an entity’s first fiscal year that begins after November 15,
2007. Early adoption is permitted as of the beginning of a fiscal year that begins on or before November 15, 2007 provided that the entity
makes that choice in the first 120 days of that fiscal year, has not yet issued financial statements for any interim period of the fiscal year of
adoption, and also elects to apply the provisions of SFAS No. 157 (described below). We early adopted SFAS No. 159 in the first quarter of
2007. In connection with this adoption management reviewed its treasury liquidity portfolio and determined that we should decrease our
economic exposure to interest rate risk by eliminating long-term fixed rate assets from the portfolio and replacing them with floating
rate assets. The fixed rate assets had been classified as available-for-sale and the unrealized losses related to such assets had been
recorded in accumulated other comprehensive loss. As a result of the adoption of SFAS No. 159, the loss related to these assets was
removed from accumulated other comprehensive loss and a loss of approximately $185 million, net of tax, primarily related to these
assets, was recorded as a cumulative-effect adjustment to beginning retained earnings, with no material impact to total stockholders’
equity. Refer to Note 3 to the Consolidated Financial Statements for additional information.
In September 2006, the FASB issued SFAS No. 157. SFAS No. 157 defines fair value, establishes a framework for measuring fair value,
establishes a fair value hierarchy based on the quality of inputs used to measure fair value and enhances disclosure about fair value
measurements. SFAS No. 157 nullifies the guidance provided by EITF 02-3 that prohibits recognition of day one gains or losses on
derivative transactions where model inputs that significantly impact valuation are not observable. In addition, SFAS No. 157 prohibits the
use of block discounts for large positions of unrestricted financial instruments that trade in an active market and requires an issuer to
incorporate changes in its own credit spreads when determining the fair value of its liabilities. SFAS No. 157 is effective for fiscal years
beginning after November 15, 2007 with early adoption permitted provided that the entity has not yet issued financial statements for that
fiscal year, including any interim periods. The provisions of SFAS No. 157 are to be applied prospectively, except that the provisions
related to block discounts and existing derivative financial instruments measured under EITF 02-3 are to be applied as a one-time
cumulative effect adjustment to opening retained earnings in the year of adoption. We early adopted SFAS No. 157 in the first quarter of
2007. The cumulative-effect adjustment to beginning retained earnings was an increase of approximately $53 million, net of tax,
page 99
primarily representing the difference between the carrying amounts and fair value of derivative contracts valued using the guidance in
EITF 02-3. The impact of adopting SFAS No. 157 was not material to our Consolidated Statement of (Loss)/Earnings. Refer to Note 3 to the
Consolidated Financial Statements for additional information.
In September 2006, the FASB issued SFAS No. 158, Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans, an
amendment of FASB Statements No. 87, 88, 106 and 132R (“SFAS No. 158”). SFAS No. 158 requires an employer to recognize the overfunded
or underfunded status of its defined benefit pension and other postretirement plans, measured as the difference between the fair value of
plan assets and the benefit obligation as an asset or liability in its statement of financial condition. Upon adoption, SFAS No. 158 requires
an entity to recognize previously unrecognized actuarial gains and losses and prior service costs within accumulated other com-
prehensive loss, net of tax. In accordance with the guidance in SFAS No. 158, we adopted this provision of the standard for year-end 2006.
The adoption of SFAS No. 158 resulted in a net credit of $65 million to accumulated other comprehensive loss recorded on the
Consolidated Financial Statements at December 29, 2006. SFAS No. 158 also requires defined benefit plan assets and benefit obligations
to be measured as of the date of the company’s fiscal year-end. We have historically used a September 30 measurement date. Under the
provisions of SFAS No. 158, we will be required to change our measurement date to coincide with our fiscal year-end. This provision of
SFAS No. 158 will be effective for us in fiscal 2008. We are currently evaluating the impact of adoption of this provision of SFAS No. 158 on
the Consolidated Financial Statements.
In June 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement No. 109
(“FIN 48”). FIN 48 clarifies the accounting for uncertainty in income taxes recognized in a company’s financial statements and prescribes
a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or
expected to be taken in a tax return. The Interpretation also provides guidance on derecognition, classification, interest and penalties,
accounting in interim periods, disclosure and transition. We adopted FIN 48 in the first quarter of 2007. The impact of the adoption of
FIN 48 resulted in a decrease to beginning retained earnings and an increase to the liability for unrecognized tax benefits of
approximately $66 million. See Note 14 to the Consolidated Financial Statements for further information.
In March 2006, the FASB issued SFAS No. 156, Accounting for Servicing of Financial Assets (“SFAS No. 156”). SFAS No. 156 amends SFAS
No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities, to require all separately recognized
servicing assets and servicing liabilities to be initially measured at fair value, if practicable. SFAS No. 156 also permits servicers to
subsequently measure each separate class of servicing assets and liabilities at fair value rather than at the lower of amortized cost or
market. For those companies that elect to measure their servicing assets and liabilities at fair value, SFAS No. 156 requires the difference
between the carrying value and fair value at the date of adoption to be recognized as a cumulative-effect adjustment to retained earnings
as of the beginning of the fiscal year in which the election is made. Prior to adoption of SFAS No. 156 we accounted for servicing assets and
servicing liabilities at the lower of amortized cost or market. We adopted SFAS No. 156 on December 30, 2006. We have not elected to
subsequently fair value those mortgage servicing rights (“MSR”) held as of the date of adoption or those MSRs acquired or retained after
December 30, 2006. The adoption of SFAS No. 156 did not have a material impact on the Consolidated Financial Statements.
In February 2006, the FASB issued SFAS No. 155, Accounting for Certain Hybrid Financial Instruments an amendment of FASB Statements
No. 133 and 140 (“SFAS No. 155”). SFAS No. 155 clarifies the bifurcation requirements forcertain financial instruments and permits hybrid
financial instruments that contain a bifurcatable embedded derivative to be accounted for as a single financial instrument at fair value
with changes in fair value recognized in earnings. This election is permitted on an instrument-by-instrument basis for all hybrid financial
instruments held, obtained, or issued as of the adoption date. At adoption, any difference between the total carrying amount of the
individual components of the existing bifurcated hybrid financial instruments and the fair value of the combined hybrid financial
instruments is recognized as a cumulative-effect adjustment to beginning retained earnings. We adopted SFAS No. 155 on a prospective
basis beginning in the first quarter of 2007. Since SFAS No. 159 incorporates accounting and disclosure requirements that are similar to
SFAS No. 155, we apply SFAS No. 159, rather than SFAS No. 155, to our fair value elections for hybrid financial instruments.
Merrill Lynch adopted the provisions of SFAS No. 123R as of the beginning of the first quarter of 2006. Under SFAS No. 123R,
compensation expenses for share-based awards that do not require future service are recorded immediately, and share-based awards
that require future service continue to be amortized into expense over the relevant service period. We adopted SFAS No. 123R under the
modified prospective method whereby the provisions of SFAS No. 123R are generally applied only to share-based awards granted or
modified subsequent to adoption. Thus, for Merrill Lynch, SFAS No. 123R required the immediate expensing of share-based awards
granted or modified in 2006 to retirement-eligible employees, including awards that are subject to non-compete provisions.
Prior to the adoption of SFAS No. 123R, we had recognized expense for share-based compensation over the vesting period stipulated in
the grant for all employees. This included those who had satisfied retirement eligibility criteria but were subject to a non-compete
agreement that applied from the date of retirement through each applicable vesting period. Previously, we had accelerated any
unrecognized compensation cost for such awards if a retirement-eligible employee left Merrill Lynch. However, because SFAS No. 123R
applies only to awards granted or modified in 2006, expenses for share-based awards granted prior to 2006 to employees who were
retirement-eligible with respect to those awards must continue to be amortized over the stated vesting period.
SFAS No. 123R also requires expected forfeitures of share-based compensation awards for non-retirement-eligible employees to be
included in determining compensation expense. Prior to the adoption of SFAS No. 123R, any benefits of employee forfeitures of such
awards were recorded as a reduction of compensation expense when the employee left Merrill Lynch and forfeited the award. In the first
quarter of 2006, we recorded a benefit based on expected forfeitures which was not material to the results of operations for the quarter.
The adoption of SFAS No. 123R resulted in a charge to compensation expense of approximately $550 million on a pre-tax basis and
$370 million on an after-tax basis in the first quarter of 2006.
The adoption of SFAS No. 123R, combined with other business and competitive considerations, prompted us to undertake a
comprehensive review of our stock-based incentive compensation awards, including vesting schedules and retirement eligibility
requirements, examining their impact to both Merrill Lynch and its employees. Upon the completion of this review, the Management
Development and Compensation Committee of Merrill Lynch’s Board of Directors determined that to fulfill the objective of retaining high
quality personnel, future stock grants should contain more stringent retirement provisions. These provisions include a combination of
increased age and length of service requirements. While the stock awards of employees who retire continue to vest, retired employees
are subject to continued compliance with the strict non-compete provisions of those awards. To facilitate transition to the more stringent
future requirements, the terms of most outstanding stock awards previously granted to employees, including certain executive officers,
were modified, effective March 31, 2006, to permit employees to be immediately eligible for retirement with respect to those earlier
awards. While we modified the retirement-related provisions of the previous stock awards, the vesting and non-compete provisions for
those awards remain in force.
Since the provisions of SFAS No. 123R apply to awards modified starting in 2006, these modifications required us to record additional one-
time compensation expense in the first quarter of 2006 for the remaining unamortized amount of all awards to employees who had not
previously been retirement-eligible under the original provisions of those awards.
The one-time, non-cash charge associated with the adoption of SFAS No. 123R, and the policy modifications to previous awards resulted
in a net charge to compensation expense in the first quarter of 2006 of approximately $1.8 billion pre-tax, and $1.2 billion after-tax, or a
net impact of $1.34 and $1.21 on basic and diluted earnings per share, respectively. Policy modifications to previously granted awards
amounted to $1.2 billion of the pre-tax charge and impacted approximately 6,300 employees.
Prior to the adoption of SFAS No. 123R, we presented the cash flows related to income tax deductions in excess of the compensation
expense recognized on share-based compensation as operating cash flows in the Consolidated Statements of Cash Flows.
SFAS No. 123R requires cash flows resulting from tax deductions in excess of the grant-date fair value of share-based awards to
be included in cash flows from financing activities. The excess tax benefits of $283 million related to total share-based compensation
included in cash flows from financing activities in the first quarter of 2006 would have been included in cash flows from operating
activities if we had not adopted SFAS No. 123R.
As a result of adopting SFAS No. 123R, approximately $600 million of liabilities associated with the Financial Advisor Capital
Accumulation Award Plan (“FACAAP”) were reclassified to stockholders’ equity. In addition, as a result of adopting SFAS No. 123R,
the unamortized portion of employee stock grants, which was previously reported as a separate component of stockholders’ equity on
the Consolidated Balance Sheets, has been reclassified to Paid-in capital.
In June 2005, the FASB ratified the consensus reached by the Emerging Issues Task Force on Issue 04-5, Determining Whether a General
Partner, or the General Partners as a Group, Controls a Limited Partnership or Similar Entity When the Limited Partners Have Certain Rights
(“EITF 04-5”). EITF 04-5 presumes that a general partner controls a limited partnership, and should therefore consolidate a limited
partnership, unless the limited partners have the substantive ability to remove the general partner without cause based on a simple
majority vote or can otherwise dissolve the limited partnership, or unless the limited partners have substantive participating rights over
decision making. The guidance in EITF 04-5 was effective beginning in the third quarter of 2005 for all new limited partnership
agreements and any limited partnership agreements that were modified. For those partnership agreements that existed at the date
EITF 04-5 was issued, the guidance became effective in the first quarter of 2006. The adoption of this guidance did not have a material
impact on the Consolidated Financial Statements.
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Note 2. Segment and Geographic Information
Segment Information
Merrill Lynch’s operations are organized into two business segments: Global Markets and Investment Banking (“GMI”) and Global
Wealth Management (“GWM”). GMI provides full service global markets and origination products and services to corporate, institutional,
and government clients around the world. GWM creates and distributes investment products and services for individuals, small- to mid-
size businesses, and employee benefit plans. Prior to the fourth quarter of 2006, Merrill Lynch reported its business activities in three
business segments: GMI, Global Private Client (“GPC”) and MLIM. Effective with the merger of the MLIM business with BlackRock, Inc.
(“BlackRock”) in September 2006 (the “BlackRock Merger”), MLIM ceased to exist as a separate business segment.
Results for year-end 2006 include one-time compensation expenses incurred in the first quarter of 2006, as follows: $1.4 billion in GMI,
$281 million in GWM and $109 million in MLIM; refer to Note 1, New Accounting Pronouncements, to the Consolidated Financial
Statements for further information on one-time compensation expenses.
The principal methodologies used in preparing the segment results in the table that follows are:
• Revenues and expenses are assigned to segments where directly attributable;
• Principal transactions, net interest and investment banking revenues and related costs resulting from the client activities of
GWM are allocated among GMI and GWM based on production credits, share counts, trade counts, and other measures which
estimate relative value;
• Through the third quarter of 2006, MLIM received a net advisory fee from GWM relating to certain MLIM-branded products
offered through GWM’s 401(k) product offering;
• Through the third quarter of 2006, revenues and expenses related to mutual fund shares bearing a contingent deferred sales
charge were reflected in segment results as if MLIM and GWM were unrelated entities;
• Interest (cost of carry) is allocated by charging each segment based on its capital usage and Merrill Lynch’s blended cost
of capital;
• Acquisition financing costs and other corporate interest are included in the Corporate items because management excludes
these items from segment operating results in evaluating segment performance;
• Merrill Lynch has revenue and expense sharing agreements for joint activities between segments, and the results of each
segment reflect the agreed-upon apportionment of revenues and expenses associated with these activities; and
• Residual expenses (i.e., those related to overhead and support units) are attributed to segments based on specific
methodologies (e.g., headcount, square footage, intersegment agreements).
2007
Non-interest revenues $ (4,950) $ 11,719 $ – $ (1,068) $ 5,701
Net interest profit(3) 2,282 2,302 – 965 5,549
Revenues, net of interest expense (2,668) 14,021 – (103) 11,250
Non-interest expenses 13,677 10,391 – 13 24,081
Pre-tax (loss)/earnings from continuing
operations(4) $ (16,345) $ 3,630 $ – $ (116) $ (12,831)
Year-end total assets $ 917,227 $ 97,266 $ – $ 5,557 $ 1,020,050
2006
Non-interest revenues $ 15,947 $ 9,738 $ 1,867 $ 2,010 $ 29,562
Net interest profit(3) 2,358 2,103 33 (275) 4,219
Revenues, net of interest expense 18,305 11,841 1,900 1,735 33,781
Non-interest expenses 13,013 9,551 1,263 144 23,971
Pre-tax earnings from continuing
operations(4) $ 5,292 $ 2,290 $ 637 $ 1,591 $ 9,810
Year-end total assets $ 745,692 $ 92,660 $ – $ 2,947 $ 841,299
2005
Non-interest revenues $ 10,155 $ 8,844 $ 1,780 $ 38 $ 20,817
Net interest profit(3) 3,257 1,645 27 (469) 4,460
Revenues, net of interest expense 13,412 10,489 1,807 (431) 25,277
Non-interest expenses 8,744 8,422 1,221 129 18,516
Pre-tax earnings/(loss) from continuing
operations(4) $ 4,668 $ 2,067 $ 586 $ (560) $ 6,761
Year-end total assets $ 590,054 $ 76,908 $ 7,470 $ 6,583 $ 681,015
(1) MLIM ceased to exist in connection with the BlackRock merger in September 2006.
(2) Includes the impact of junior subordinated notes (related to trust preferred securities) and other corporate items. In addition, results for 2007 include an allocation of non-interest
revenues (principal transactions) and net interest profit among the business and corporate segments associated with certain hybrid financing instruments accounted for under
SFAS No. 159. Results for 2006 include $2.0 billion of non-interest revenues and $202 million of non-interest expenses related to the closing of the BlackRock merger.
(3) Management views interest income net of interest expense in evaluating results.
(4) See Note 17 to the Consolidated Financial Statements for further information on discontinued operations.
Geographic Information
Merrill Lynch conducts its business activities through offices in the following five regions:
• United States;
• Europe, Middle East, and Africa;
• Pacific Rim;
• Latin America; and
• Canada.
The principal methodologies used in preparing the geographic information below are as follows:
• Revenues and expenses are generally recorded based on the location of the employee generating the revenue or incurring the
expense without regard to legal entity;
• Pre-tax earnings or loss from continuing operations include the allocation of certain shared expenses among regions; and
• Intercompany transfers are based primarily on service agreements.
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The information that follows, in management’s judgment, provides a reasonable representation of each region’s contribution to the
consolidated net revenues and pre-tax earnings or loss from continuing operations:
(DOLLARS IN MILLIONS) 2007 2006 (1) 2005
Financial assets and liabilities recorded on the Consolidated Balance Sheets are categorized based on the inputs to the valuation
techniques as follows:
Level 1. Financial assets and liabilities whose values are based on unadjusted quoted prices for identical assets or liabilities in an active
market that Merrill Lynch has the ability to access (examples include active exchange-traded equity securities, exchange-traded
derivatives, most U.S. Government and agency securities, and certain other sovereign government obligations).
Level 2. Financial assets and liabilities whose values are based on quoted prices in markets that are not active or model inputs that are
observable either directly or indirectly for substantially the full term of the asset or liability. Level 2 inputs include the following:
a) Quoted prices for similar assets or liabilities in active markets (for example, restricted stock);
Level 3. Financial assets and liabilities whose values are based on prices or valuation techniques that require inputs that are both
unobservable and significant to the overall fair value measurement. These inputs reflect management’s own assumptions about the
assumptions a market participant would use in pricing the asset or liability (examples include certain private equity investments, certain
residential and commercial mortgage-related assets (including loans, securities and derivatives), and long-dated or complex
derivatives including certain equity derivatives and long-dated options on gas and power).
As required by SFAS No. 157, when the inputs used to measure fair value fall within different levels of the hierarchy, the level within which
the fair value measurement is categorized is based on the lowest level input that is significant to the fair value measurement in its
entirety. For example, a Level 3 fair value measurement may include inputs that are observable (Levels 1 and 2) and unobservable
(Level 3). Therefore gains and losses for such assets and liabilities categorized within the Level 3 table below may include changes in fair
value that are attributable to both observable inputs (Levels 1 and 2) and unobservable inputs (Level 3). Further, it should be noted that
the following tables do not take into consideration the effect of offsetting Level 1 and 2 financial instruments entered into by Merrill Lynch
that economically hedge certain exposures to the Level 3 positions.
A review of fair value hierarchy classifications is conducted on a quarterly basis. Changes in the observability of valuation inputs may
result in a reclassification for certain financial assets or liabilities. Reclassifications impacting Level 3 of the fair value hierarchy are
reported as transfers in/out of the Level 3 category as of the beginning of the quarter in which the reclassifications occur. During the third
quarter of 2007, a significant amount of assets and liabilities were reclassified from Level 2 to Level 3. This reclassification primarily
relates to sub-prime mortgage related assets and liabilities, including CDOs, because of the significant decrease in the observability of
market pricing for these instruments. Refer to credit concentrations in the Trading Risk Management section of this note for further
information about exposures to these instruments.
The following table presents Merrill Lynch’s fair value hierarchy for those assets and liabilities measured at fair value on a recurring
basis as of December 28, 2007.
FAIR VALUE MEASUREMENTS ON A RECURRING BASIS
AS OF DECEMBER 28, 2007
NETTING
(DOLLARS IN MILLIONS) LEVEL 1 LEVEL 2 LEVEL 3 ADJ (1) TOTAL
Assets:
Securities segregated for regulatory purposes
or deposited with clearing organizations $ 1,478 $ 5,595 $ 84 $ – $ 7,157
Receivables under resale agreements(2) – 100,214 – – 100,214
Trading assets, excluding derivative contracts 71,038 81,169 9,773 – 161,980
Derivative contracts 4,916 522,014 26,038 (480,279) 72,689
Investment securities 2,240 53,403 5,491 – 61,134
Securities received as collateral 42,451 2,794 – – 45,245
Loans, notes and mortgages – 1,145 63 – 1,208
Other assets(3) 7 1,739 – (24) 1,722
Liabilities:
Payables under repurchase agreements(2) $ – $ 89,733 $ – $ – $ 89,733
Trading liabilities, excluding derivative
contracts 43,609 6,685 – – 50,294
Derivative contracts 5,562 526,780 35,107 (494,155) 73,294
Obligation to return securities received as
collateral 42,451 2,794 – – 45,245
Long-term borrowings(4) – 75,984 4,765 – 80,749
Other payables — interest and other(3) 2 287 – (13) 276
(1) Represents counterparty and cash collateral netting.
(2) Resale and repurchase agreements are shown gross of counterparty netting.
(3) Primarily represents certain derivatives used for non-trading purposes.
(4) Includes bifurcated embedded derivatives carried at fair value.
page 105
Level 3 Assets and Liabilities
Level 3 trading assets primarily include corporate bonds and loans of $5.4 billion and U.S. ABS CDOs of $2.4 billion, of which $1.0 billion
was sub-prime related.
Level 3 derivative contracts (assets) primarily relate to derivative positions on U.S. ABS CDOs of $18.9 billion, of which $14.7 billion is
sub-prime related, and $5.1 billion of equity derivatives that are long-dated and/or have unobservable correlation.
Level 3 investment securities primarily relate to certain private equity and principal investment positions of $4.0 billion, as well as
U.S. ABS CDOs of $834 million that are accounted for as trading securities under SFAS No. 115.
Level 3 derivative contracts (liabilities) primarily relate to derivative positions on U.S. ABS CDOs of $25.1 billion, of which $23.9 billion
relates to sub-prime, and $8.3 billion of equity derivatives that are long-dated and/or have unobservable correlation.
Level 3 long-term borrowings primarily relate to structured notes with embedded long-dated equity and currency derivatives.
The following table provides a summary of changes in fair value of Merrill Lynch’s Level 3 financial assets and liabilities for the year-
ended December 28, 2007.
LEVEL 3 FINANCIAL ASSETS AND LIABILITIES
YEAR ENDED DECEMBER 28, 2007
TOTAL
REALIZED AND
UNREALIZED
TOTAL REALIZED AND UNREALIZED GAINS OR
GAINS PURCHASES,
(LOSSES) INCLUDED IN INCOME
OR (LOSSES) ISSUANCES
BEGINNING PRINCIPAL OTHER INCLUDED IN AND TRANSFERS ENDING
(DOLLARS IN MILLIONS) BALANCE TRANSACTIONS REVENUE INTEREST INCOME SETTLEMENTS IN (OUT) BALANCE
Assets:
Securities segregated for regulatory
purposes or deposited with clearing
organizations $ – $ (5) $ – $ 1 $ (4) $ – $ 88 $ 84
Trading assets 2,021 (4,180) – 46 (4,134) 2,945 8,941 9,773
Derivative contracts, net (2,030) (7,687) 4 25 (7,658) 465 154 (9,069)
Investment securities 5,117 (2,412) 518 8 (1,886) 3,000 (740) 5,491
Loans, notes and mortgages 7 – (18) – (18) (5) 79 63
Liabilities:
Long-term borrowings $ – $ 524 $ 7 $ – $ 531 $ 2,203 $ 3,093 $ 4,765
Net losses in principal transactions were due primarily to $16.7 billion of write-downs related to U.S. ABS CDOs and other sub-prime
related instruments that are classified as Level 3, partially offset by $1.4 billion in gains on non-subprime mortgage-related items and
net gains in equity-related products.
The increases attributable to purchases, issuances, and settlements on Level 3 assets and liabilities included the exercise of certain
purchase obligations in the third quarter of 2007 that required Merrill Lynch to buy underlying assets, primarily U.S. ABS CDOs. In
addition, Level 3 assets and liabilities increased due to the consolidation of an SPE which also primarily contained U.S. ABS CDOs.
The increases attributable to net transfers in on Level 3 assets and liabilities were due primarily to the decrease in observability of market
pricing for instruments which had previously been classified as Level 2. These were primarily U.S. ABS CDOs and related instruments of
$6.8 billion and corporate bonds and loans that are classified as trading assets of $3.9 billion, offset by $2.7 billion of net transfers out of
equity derivatives.
The following table provides the portion of gains or losses included in income for the year-ended December 28, 2007 attributable to
unrealized gains or losses relating to those Level 3 assets and liabilities still held at December 28, 2007.
UNREALIZED GAINS OR (LOSSES) FOR LEVEL 3 ASSETS
AND LIABILITIES STILL HELD AT DECEMBER 28, 2007
PRINCIPAL OTHER
(DOLLARS IN MILLIONS) TRANSACTIONS REVENUE INTEREST TOTAL
Assets:
Securities segregated for regulatory purposes or deposited with
clearing organizations $ (5) $ – $ 1 $ (4)
Trading assets (4,205) – 4 (4,201)
Derivative contracts, net (7,826) (2) 25 (7,803)
Investment securities (2,412) 428 8 (1,976)
Loans, notes and mortgages – 1 – 1
Liabilities:
Long-term borrowings $ 524 $ 7 $ – $ 531
Certain assets and liabilities are measured at fair value on a non-recurring basis and are not included in the tables above. These assets
and liabilities include loans and loan commitments held for sale and reported at lower-of-cost-or-market and loans held for investment
that were initially measured at cost and have been written down to fair value as a result of an impairment. The following table shows the
fair value hierarchy for those assets and liabilities measured at fair value on a non-recurring basis as of December 28, 2007.
LOSSES
NON-RECURRING BASIS AS OF DECEMBER 28, 2007
YEAR-ENDED
(DOLLARS IN MILLIONS) LEVEL 1 LEVEL 2 LEVEL 3 TOTAL DECEMBER 28, 2007
Assets:
Loans, notes, and mortgages $– $ 32,594 $ 7,157 $ 39,751 $ (1,304)
Liabilities:
Other liabilities $– $ 666 $ – $ 666 $ (502)
Loans, notes, and mortgages include held for sale loans that are carried at the lower of cost or market and for which the fair value was
below the cost basis at December 28, 2007. It also includes certain impaired held for investment loans where an allowance for loan losses
has been calculated based upon the fair value of the loans. Level 3 assets primarily relate to residential and commercial real estate loans
that are classified as held for sale of $4.1 billion in the United Kingdom where there continues to be significant illiquidity in the
securitization market. The losses on the Level 3 loans were calculated primarily by a fundamental cash flow valuation analysis. This cash
flow analysis includes cumulative loss assumptions derived from multiple inputs including mortgage remittance reports, housing prices
and other market data.
Other liabilities include amounts recorded for loan commitments at lower of cost or fair value where the funded loan will be held for sale,
particularly leveraged loan commitments in the U.S. The losses were calculated by models incorporating significant observable
market data.
The following table presents a summary of eligible financial assets and financial liabilities for which the fair value option was elected on
December 30, 2006 and the cumulative-effect adjustment to retained earnings recorded in connection with the initial adoption
of SFAS No. 159.
TRANSITION
ADJUSTMENTS CARRYING
TO RETAINED VALUE
CARRYING VALUE EARNINGS AFTER
(DOLLARS IN MILLIONS) PRIOR TO ADOPTION GAIN/(LOSS) ADOPTION
Assets:
Investment securities $ 8,723 $ (268) $ 8,732
Loans, notes and mortgages 1,440 2 1,442
Liabilities:
Long-term borrowings $ 10,308 $ (29) $ 10,337
Pre-tax cumulative-effect of adoption $ (295)
Deferred tax benefit 110
Cumulative effect of adoption of the fair value option $ (185)
page 107
The following table provides information about where in the Consolidated Statement of (Loss)/Earnings changes in fair values, for which
the fair value option has been elected, are included for the year-ended December 28, 2007.
CHANGES IN FAIR VALUE FOR THE YEAR ENDED DECEMBER 28, 2007, FOR
ITEMS MEASURED AT FAIR VALUE PURSUANT TO FAIR VALUE OPTION
GAINS/ TOTAL
(LOSSES) GAINS CHANGES
PRINCIPAL OTHER IN FAIR
(DOLLARS IN MILLIONS) TRANSACTIONS REVENUES VALUE
Assets:
Receivables under resale agreements $ 124 $ – $ 124
Investment securities 234 43 277
Loans, notes and mortgages (2) 73 71
Liabilities:
Payables under repurchase agreements $ (7) $ – $ (7)
Long-term borrowings 3,857 1,182 5,039
The following describes the rationale forelecting to account forcertain financial assets and liabilities at fair value, as well as the impact of
instrument-specific credit risk on the fair value.
Investment Securities:
Merrill Lynch elected the fair value option for certain fixed rate securities in its treasury liquidity portfolio previously classified as
available-for-sale securities as management modified its investment strategy and economic exposure to interest rate risk by
eliminating long-term fixed rate assets in its liquidity portfolio and replacing them with floating rate assets. These securities were
carried at fair value in accordance with SFAS No. 115 prior to the adoption of SFAS No. 159. An unrealized loss of $172 million, net of tax,
related to such securities was reclassified from accumulated other comprehensive loss to retained earnings.
At December 28, 2007 investment securities primarily represented non-marketable convertible preferred shares for which Merrill Lynch
has economically hedged a majority of the position with derivatives.
Long-Term Borrowings:
Merrill Lynch elected the fair value option for certain long-term borrowings that are risk managed on a fair value basis, including
structured notes, and for which hedge accounting under SFAS No. 133 had been difficult to obtain. The changes in the fair value of
liabilities for which the fair value option was elected that was attributable to changes in Merrill Lynch credit spreads were estimated
gains of $2.0 billion for the year-ended December 28, 2007. Changes in Merrill Lynch specific credit risk is derived by isolating fair value
changes due to changes in Merrill Lynch’s credit spreads as observed in the secondary cash market.
The fair value option was also elected for certain non-recourse long-term borrowings issued by consolidated SPEs. The fair value of
these long-term borrowings is unaffected by changes in Merrill Lynch’s creditworthiness.
Assets:
Receivables under resale agreements $ 100,214 $ 100,090 $ 124
Loans, notes and mortgages(1) 1,149 1,355 (206)
Liabilities:
Long-term borrowings(2) $ 76,334 $ 81,681 $ (5,347)
(1) The majority of the difference relates to loans purchased at a substantial discount from the principal amount.
(2) The majority of the difference relates to the impact of the widening of Merrill Lynch’s credit spreads, the change in fair value of non-recourse debt, and zero coupon notes issued at a
substantial discount from the principal amount.
• A risk governance structure that defines the oversight process and its components;
• A regular review of the risk management process by the Audit Committee of the Board of Directors as well as a regular
review of credit, market and liquidity risks and processes by the Finance Committee of the Board of Directors;
• Clearly defined risk management policies and procedures supported by a rigorous analytical framework;
• Communication and coordination among the businesses, executive management, and risk functions while maintaining strict
segregation of responsibilities, controls, and oversight; and
• Clearly articulated risk tolerance levels, defined and regularly reviewed by Global Risk Management and reviewed by senior
management, that are consistent with its business strategy, capital structure, and current and anticipated market conditions.
Independent risk and control groups interact with the businesses to establish and maintain this overall risk management control
process. While no risk management system can ever be absolutely complete, the goal of these independent risk and control groups is to
mitigate risk-related losses so that they fall within acceptable, predefined levels, under foreseeable scenarios.
Market Risk
Market risk is the potential change in an instrument’s value caused by fluctuations in interest and currency exchange rates, equity and
commodity prices, credit spreads, or other risks. The level of market risk is influenced by the volatility and the liquidity in the markets in
which financial instruments are traded.
Merrill Lynch seeks to mitigate market risk associated with trading inventories by employing hedging strategies that correlate rate,
price, and spread movements of trading inventories and related financing and hedging activities. Merrill Lynch uses a combination of
cash instruments and derivatives to hedge its market exposures. The following discussion describes the types of market risk faced by
Merrill Lynch.
page 109
decision to manage interest rate risk using futures or swap contracts, as opposed to buying or selling short U.S. Treasury or other
securities, depends on current market conditions and funding considerations.
Interest rate agreements used by Merrill Lynch include caps, collars, floors, basis swaps, leveraged swaps, and options. Interest rate
caps and floors provide the purchaser with protection against rising and falling interest rates, respectively. Interest rate collars combine
a cap and a floor, providing the purchaser with a predetermined interest rate range. Basis swaps are a type of interest rate swap
agreement where variable rates are received and paid, but are based on different index rates. Leveraged swaps are another type of
interest rate swap where changes in the variable rate are multiplied by a contractual leverage factor, such as four times three-month
London Interbank Offered Rate (“LIBOR”). Merrill Lynch’s exposure to interest rate risk resulting from these leverage factors is typically
hedged with other financial instruments.
Currency Risk
Currency risk arises from the possibility that fluctuations in foreign exchange rates will impact the value of financial instruments. Merrill
Lynch’s trading assets and liabilities include both cash instruments denominated in and derivatives linked to more than 50 currencies,
including the euro, Japanese yen, British pound, and Swiss franc. Currency forwards and options are commonly used to manage
currency risk associated with these instruments. Currency swaps may also be used in situations where a long-dated forward market is
not available or where the client needs a customized instrument to hedge a foreign currency cash flow stream. Typically, parties to a
currency swap initially exchange principal amounts in two currencies, agreeing to exchange interest payments and to re-exchange the
currencies at a future date and exchange rate.
Merrill Lynch has established policies and procedures for mitigating credit risk on principal transactions, including reviewing and
establishing limits for credit exposure, maintaining qualifying collateral, purchasing credit protection, and continually assessing the
creditworthiness of counterparties.
In the normal course of business, Merrill Lynch executes, settles, and finances various customer securities transactions. Execution of
these transactions includes the purchase and sale of securities by Merrill Lynch. These activities may expose Merrill Lynch to default risk
arising from the potential that customers or counterparties may fail to satisfy their obligations. In these situations, Merrill Lynch may be
required to purchase or sell financial instruments at unfavorable market prices to satisfy obligations to other customers or
counterparties. Additional information about these obligations is provided in Note 11 to the Consolidated Financial Statements. In
addition, Merrill Lynch seeks to control the risks associated with its customer margin activities by requiring customers to maintain
collateral in compliance with regulatory and internal guidelines.
At December 28, 2007, Merrill Lynch’s most significant concentration of credit risk was with the U.S. Government and its agencies. This
concentration consists of both direct and indirect exposures. Direct exposure, which primarily results from trading asset and investment
security positions in instruments issued by the U.S. Government and its agencies, excluding mortgage-backed securities, amounted to
$11.1 billion and $15.0 billion at December 28, 2007 and December 29, 2006, respectively. Merrill Lynch’s indirect exposure results from
maintaining U.S. Government and agencies securities as collateral for resale agreements and securities borrowed transactions. Merrill
Lynch’s direct credit exposure on these transactions is with the counterparty; thus Merrill Lynch has credit exposure to the
U.S. Government and its agencies only in the event of the counterparty’s default. Securities issued by the U.S. Government or its
agencies held as collateral for resale agreements and securities borrowed transactions at December 28, 2007 and December 29, 2006
totaled $105.2 billion and $116.3 billion, respectively.
At December 28, 2007, Merrill Lynch had otherconcentrations of credit risk, the largest of which was related to a foreign bank carrying an
internal credit rating of AA, reflecting diversification across products, sound capital adequacy and flexibility. Total outstanding unsecured
exposure to this counterparty was approximately $4.5 billion, or 0.45% of total assets.
Merrill Lynch’s most significant industry credit concentration is with financial institutions. Financial institutions include banks,
insurance companies, finance companies, investment managers, and otherdiversified financial institutions. This concentration arises in
the normal course of Merrill Lynch’s brokerage, trading, hedging, financing, and underwriting activities. Merrill Lynch also monitors
credit exposures worldwide by region. Outside the United States, financial institutions and sovereign governments represent the most
significant concentrations of credit risk.
In the normal course of business, Merrill Lynch purchases, sells, underwrites, and makes markets in non-investment grade
instruments. Merrill Lynch also provides extensions of credit and makes equity investments to facilitate leveraged transactions.
These activities expose Merrill Lynch to a higher degree of credit risk than is associated with trading, investing in, and underwriting
investment grade instruments and extending credit to investment grade counterparties.
Concentration of Risk to the U.S. Sub-Prime Residential Mortgage Market
At December 28, 2007, Merrill Lynch had sizeable exposure to U.S. sub-prime residential mortgages through securities, derivatives,
loans and loan commitments. This included:
• Net exposure of $2.7 billion in U.S. sub-prime residential mortgage-related positions, excluding Merrill Lynch’s U.S. banks
investment security portfolio;
• Net exposure of $4.8 billion in super senior U.S. ABS CDOs and secondary trading exposures related to the ABS CDO business; and
• Net exposure of $4.2 billion in sub-prime residential mortgage-backed securities and U.S. ABS CDOs held in Merrill Lynch’s
U.S. banks’ investment portfolio.
Valuation of these exposures will continue to be impacted by external market factors including default rates, rating agency actions, and
the prices at which observable market transactions occur. Merrill Lynch’s ability to mitigate its risk by selling or hedging its exposures is
also limited by the market environment. Merrill Lynch’s future results may continue to be materially impacted by the valuation
adjustments applied to these positions.
page 111
Merrill Lynch also has credit derivatives with financial guarantors on other referenced assets. The mark-to-market gains on these credit
derivatives at December 28, 2007 were $2.0 billion, after taking into account a $0.5 billion credit valuation adjustment.
Derivatives
Merrill Lynch’s trading derivatives consist of derivatives provided to customers and derivatives entered into for proprietary trading
strategies or risk management purposes.
Default risk exposure varies by type of derivative. Default risk on derivatives can occur for the full notional amount of the trade where a
final exchange of principal takes place, as may be the case for currency swaps. Swap agreements and forward contracts are generally
OTC-transacted and thus are exposed to default risk to the extent of their replacement cost. Since futures contracts are exchange-traded
and usually require daily cash settlement, the related risk of loss is generally limited to a one-day net positive change in market value.
Generally such receivables and payables are recorded in customers’ receivables and payables on the Consolidated Balance Sheets.
Option contracts can be exchange-traded or OTC. Purchased options have default risk to the extent of their replacement cost. Written
options represent a potential obligation to counterparties and typically do not subject Merrill Lynch to default risk except under
circumstances where the option premium is being financed or in cases where Merrill Lynch is required to post collateral. Additional
information about derivatives that meet the definition of a guarantee for accounting purposes is included in Note 11 to the Consolidated
Financial Statements.
Merrill Lynch generally enters into ISDA master agreements or their equivalent with substantially all of its counterparties, as soon as
possible. Master netting agreements provide protection in bankruptcy in certain circumstances and, in some cases, enable receivables
and payables with the same counterparty to be offset on the Consolidated Balance Sheets, providing for a more meaningful balance
sheet presentation of credit exposure. Agreements are negotiated bilaterally and can require complex terms. While reasonable efforts
are made to execute such agreements, it is possible that a counterparty may be unwilling to sign such an agreement and, as a result,
would subject Merrill Lynch to additional credit risk. The enforceability of master netting agreements under bankruptcy laws in certain
countries or in certain industries is not free from doubt and receivables and payables with counterparties in these countries or industries
are accordingly recorded on a gross basis.
To reduce the risk of loss, Merrill Lynch requires collateral, principally cash and U.S. Government and agency securities, on certain
derivative transactions. Merrill Lynch nets cash collateral paid or received under credit support annexes associated with legally
enforceable master netting agreements against derivative inventory. At December 28, 2007, cash collateral netted against derivative
inventory was $13.5 billion. From an economic standpoint, Merrill Lynch evaluates default risk exposures net of related collateral. In
addition to obtaining collateral, Merrill Lynch attempts to mitigate default risk on derivatives by entering into transactions with
provisions that enable Merrill Lynch to terminate or reset the terms of the derivative contract.
Many of Merrill Lynch’s derivative contracts contain provisions that could, upon an adverse change in ML & Co.’s credit rating, trigger a
requirement for an early payment or additional collateral support.
Merrill Lynch additionally receives securities as collateral in connection with certain securities for securities transactions in which
Merrill Lynch is the lender. In instances where Merrill Lynch is permitted to sell or repledge securities received, Merrill Lynch reports the
fair value of such securities received as collateral and the related obligation to return securities received as collateral in the
Consolidated Balance Sheets.
• SFAS No. 115 investments held by ML & Co. and certain of its non-broker-dealer entities, including Merrill Lynch banks. SFAS No. 115
investments consist of:
• Debt securities, including debt held for investment and liquidity and collateral management purposes that are classified as
available-for-sale, debt securities held for trading purposes, and debt securities that Merrill Lynch intends to hold until maturity;
• Marketable equity securities, which are generally classified as available-for-sale.
• Non-qualifying investments are those that do not fall within the scope of SFAS No. 115. Non-qualifying investments consist
principally of:
• Equity investments, including investments in partnerships and joint ventures. Included in equity investments are investments
accounted for under the equity method of accounting, which consist of investments in (i) partnerships and certain limited liability
corporations where Merrill Lynch has more than minor influence (i.e. generally defined as greater than a three percent interest)
and (ii) corporate entities where Merrill Lynch has the ability to exercise significant influence over the investee (i.e. generally
defined as ownership and voting interest of 20% to 50%). Also included in equity investments are private equity investments that
Merrill Lynch holds for capital appreciation and/or current income and which are accounted for at fair value in accordance with the
Investment Company Guide, as well as private equity investments accounted for at fair value under the fair value option election in
SFAS No. 159. The carrying value of private equity investments reflects expected exit values based upon market prices or other
valuation methodologies including discounted expected cash flows and market comparables of similar companies.
• Investments of insurance subsidiaries for year-end 2006, which primarily represent insurance policy loans and are accounted for
at amortized cost.
• Deferred compensation hedges, which are investments economically hedging deferred compensation liabilities and are
accounted for at fair value.
Fair value for non-qualifying investments is estimated using a number of methods, including earnings multiples, discounted cash flow
analyses, and review of underlying financial conditions and other market factors. These instruments may be subject to restrictions (e.g.,
sale requires consent of other investors to sell) that may limit Merrill Lynch’s ability to currently realize the estimated fair value.
Accordingly, Merrill Lynch’s current estimate of fair value and the ultimate realization for these instruments may differ.
page 113
Investment securities reported on the Consolidated Balance Sheets at December 28, 2007 and December 29, 2006 are as follows:
(DOLLARS IN MILLIONS) 2007 2006
Investment securities
Available-for-sale(1) $ 50,922 $ 56,292
Trading 5,015 6,512
Held-to-maturity 267 269
Non-qualifying(2)
Equity investments(3) 29,623 21,290
Investments of insurance subsidiaries(4) – 1,360
Deferred compensation hedges(5) 1,710 1,752
Investments in trust preferred securities and other investments 438 715
Total $ 87,975 $ 88,190
(1) At December 28, 2007 and December 29, 2006, includes $5.4 billion and $4.8 billion, respectively, of investment securities reported in cash and securities segregated for regulatory
purposes or deposited with clearing organizations.
(2) Non-qualifying for SFAS No. 115 purposes.
(3) Includes Merrill Lynch’s investment in BlackRock.
(4) Primarily represents insurance policy loans held by MLIG. Refer to Note 17 to the Consolidated Financial Statements for further information on MLIG.
(5) Represents investments that economically hedge deferred compensation liabilities.
Investment securities accounted for under SFAS No. 115 are classified as available-for-sale, held-to-maturity, or trading as described in
Note 1 to the Consolidated Financial Statements.
Available-for-Sale
Mortgage- and asset-backed $ 50,904 $ 29 $ (2,384) $ 48,549 $ 48,394 $ 104 $ (331) $ 48,167
Corporate debt 729 10 (18) 721 2,242 9 (24) 2,227
U.S. Government and agencies 322 – – 322 1,833 – (28) 1,805
Certificate of deposits 290 – – 290 3,114 – (2) 3,112
Other(1) 910 6 – 916 760 – (3) 757
Total debt securities 53,155 45 (2,402) 50,798 56,343 113 (388) 56,068
Equity securities 110 25 (11) 124 213 17 (6) 224
Total $ 53,265 $ 70 $ (2,413) $ 50,922 $ 56,556 $ 130 $ (394) $ 56,292
Held-to-Maturity
Municipals $ 254 $ – $ – $ 254 $ 254 $ – $ – $ 254
Mortgage- and asset-backed 13 – – 13 15 – – 15
Total $ 267 $ – $ – $ 267 $ 269 $ – $ – $ 269
(1) Includes investments in Non-U.S. Government and agency securities.
The majority of the unrealized losses relate to mortgage- and asset-backed securities issued by U.S. agencies.
Merrill Lynch reviews its held-to-maturity and available-for-sale securities at least quarterly to assess whether any impairment is
other-than-temporary. Factors considered in the review include estimated future cash flows, length of time and extent to which market
value has been less than cost, the financial condition and near term prospects of the issuer, and Merrill Lynch’s intent and ability to retain
the security to allow for an anticipated recovery in market value. Merrill Lynch’s impairment review generally includes:
As of December 28, 2007, Merrill Lynch determined that certain available-for-sale securities primarily related to U.S. ABS CDO
securities were other-than-temporarily impaired and recognized a loss of approximately $900 million for the year-ended
December 28, 2007.
The amortized cost and estimated fair value of debt securities at December 28, 2007 by contractual maturity, for available-for-sale and
held-to-maturity investments follow:
AVAILABLE-FOR-SALE HELD-TO-MATURITY
ESTIMATED ESTIMATED
AMORTIZED FAIR AMORTIZED FAIR
(DOLLARS IN MILLIONS) COST VALUE COST VALUE
page 115
The proceeds and gross realized gains (losses) from the sale of available-for-sale investments are as follows:
(DOLLARS IN MILLIONS) 2007 2006 2005
Net unrealized gains and (losses) from investment securities classified as trading included in the 2007, 2006, and 2005 Consolidated
Statements of (Loss)/Earnings were $(2.6) billion, $125 million, and $(13) million, respectively.
In connection with the BlackRock merger on September 29, 2006 (see Note 18 to the Consolidated Financial Statements for further
information on the BlackRock merger), Merrill Lynch received an equity interest in BlackRock. As of December 28, 2007, the aggregate
market value of Merrill Lynch’s common equity interest in BlackRock was $11.5 billion, based on the closing stock price on the New York
Stock Exchange. This market value does not reflect Merrill Lynch’s preferred equity interest in BlackRock. The carrying amount of Merrill
Lynch’s investment in BlackRock at December 28, 2007 was $4.7 billion more than the underlying equity in net assets due to equity
method goodwill, indefinite-lived intangible assets and definite-lived intangible assets, of which Merrill Lynch amortized $48 million and
$10 million in 2007 and 2006, respectively. Such amortization is reflected in earnings from equity method investments in the
Consolidated Statements of (Loss)/Earnings.
Summarized aggregate financial information for Merrill Lynch’s most significant equity method investees (BlackRock Inc., Bloomberg
L.P., Warburg Pincus Fund IX, L.P. and WCG Master Fund Ltd.), which represents 100% of the investees’ financial information for the
periods in which Merrill Lynch held the investments is as follows:
(DOLLARS IN MILLIONS) 2007 2006 2005
Merrill Lynch securitized assets of approximately $173.1 billion and $147.5 billion for the years ended December 28, 2007 and
December 29, 2006, respectively. For the years ended December 28, 2007 and December 29, 2006, Merrill Lynch received $175.9 billion
and $148.8 billion, respectively, of proceeds, and other cash inflows, from securitization transactions, and recognized net securitization
gains of $154.6 million and $333.2 million, respectively, in Merrill Lynch’s Consolidated Statements of (Loss)/Earnings.
The table below summarizes the cash inflows received by Merrill Lynch from securitization transactions related to the following
underlying asset types:
(DOLLARS IN MILLIONS) 2007 2006
Asset category
Residential mortgage loans $ 100,219 $ 95,883
Municipal bonds 55,514 29,482
Commercial and corporate loans and bonds 18,078 21,087
Other 2,122 2,317
Total $ 175,933 $ 148,769
In certain instances, Merrill Lynch retains interests in the senior tranche, subordinated tranche, and/or residual tranche of securities
issued by certain SPEs created to securitize assets. The gain or loss on the sale of the assets is determined with reference to the previous
carrying amount of the financial assets transferred, which is allocated between the assets sold and the retained interests, if any, based on
their relative fair value at the date of transfer.
Retained interests are recorded in the Consolidated Balance Sheets at fair value. To obtain fair values, observable market prices are used
if available. Where observable market prices are unavailable, Merrill Lynch generally estimates fair value initially and on an ongoing
basis based on the present value of expected future cash flows using management’s best estimates of credit losses, prepayment rates,
forward yield curves, and discount rates, commensurate with the risks involved. Retained interests are either held as trading assets,
with changes in fair value recorded in the Consolidated Statements of (Loss)/Earnings, or as securities available-for-sale, with changes
in fair value included in accumulated other comprehensive loss. Retained interests held as available-for-sale are reviewed periodically
for impairment.
Retained interests in securitized assets were approximately $6.1 billion and $6.8 billion at December 28, 2007 and December 29, 2006,
respectively, which related primarily to residential mortgage loan, municipal bond, and commercial and corporate loan and bond
securitization transactions. As a result of the illiquidity in the mortgage-backed securities market at the end of 2007, the majority of the
mortgage-backed securities retained interest balance had limited price transparency at December 28, 2007. As of December 29, 2006,
the majority of retained interest balance of mortgage-backed securities had observable market prices. The majority of these retained
interests include mortgage-backed securities that Merrill Lynch had expected to sell to investors in the normal course of its
underwriting activity. However, the timing of any sale is subject to current and future market conditions. A portion of the retained interests
represent residual interests in U.S. sub-prime mortgage securitizations and is included in the Level 3 U.S. ABS CDO exposure disclosed
in Note 3 to the Consolidated Financial Statements.
page 117
The following table presents information on retained interests, excluding the offsetting benefit of financial instruments used to hedge
risks, held by Merrill Lynch as of December 28, 2007 arising from Merrill Lynch’s residential mortgage loan, municipal bond and other
securitization transactions. The pre-tax sensitivities of the current fair value of the retained interests to immediate 10% and 20% adverse
changes in assumptions and parameters are also shown.
RESIDENTIAL
MORTGAGE MUNICIPAL
(DOLLARS IN MILLIONS) LOANS BONDS OTHER (2)
The preceding sensitivity analysis is hypothetical and should be used with caution. In particular, the effect of a variation in a particular
assumption on the fair value of the retained interest is calculated independent of changes in any other assumption; in practice, changes
in one factor may result in changes in another, which might magnify or counteract the sensitivities. Further, changes in fair value based
on a 10% or 20% variation in an assumption or parameter generally cannot be extrapolated because the relationship of the change in the
assumption to the change in fair value may not be linear. Also, the sensitivity analysis does not include the offsetting benefit of financial
instruments that Merrill Lynch utilizes to hedge risks, including credit, interest rate, and prepayment risk, that are inherent in the
retained interests. These hedging strategies are structured to take into consideration the hypothetical stress scenarios above such that
they would be effective in principally offsetting Merrill Lynch’s exposure to loss in the event these scenarios occur.
The weighted average assumptions and parameters used initially to value retained interests relating to securitizations that were still
held by Merrill Lynch as of December 28, 2007 are as follows:
RESIDENTIAL
MORTGAGE MUNICIPAL
LOANS BONDS OTHER
For residential mortgage loan and other securitizations, the investors and the securitization trust generally have no recourse to Merrill
Lynch upon the event of a borrower default. See Note 11 to the Consolidated Financial Statements for information related to
representations and warranties.
For municipal bond securitization SPEs, in the normal course of dealer market-making activities, Merrill Lynch acts as liquidity provider.
Specifically, the holders of beneficial interests issued by municipal bond securitization SPEs have the right to tender their interests for
purchase by Merrill Lynch on specified dates at a specified price. Beneficial interests that are tendered are then sold by Merrill Lynch to
investors through a best efforts remarketing where Merrill Lynch is the remarketing agent. If the beneficial interests are not successfully
remarketed, the holders of beneficial interests are paid from funds drawn under a standby liquidity letter of credit issued by
Merrill Lynch.
The following table summarizes the total principal amounts outstanding and delinquencies of securitized financial assets held in SPEs,
where Merrill Lynch holds retained interests, as of December 28, 2007 and December 29, 2006:
RESIDENTIAL
MORTGAGE MUNICIPAL
(DOLLARS IN MILLIONS) LOANS BONDS OTHER (1)
Net credit losses associated with securitized financial assets held in these SPEs for the years ended December 28, 2007 and
December 29, 2006 approximated $1.1 billion and $180 million, respectively.
In March 2006 the FASB issued SFAS No. 156, which amends SFAS No. 140, and requires all separately recognized servicing assets and
servicing liabilities to be initially measured at fair value, if practicable. SFAS No. 156 also permits servicers to subsequently measure
each separate class of servicing assets and liabilities at fair value rather than at the lower of amortized cost or market. Merrill Lynch
adopted SFAS No. 156 on December 30, 2006. Merrill Lynch has not elected to subsequently fair value those MSRs held as of the date of
adoption or those MSRs acquired or retained after December 30, 2006.
Retained MSRs are initially recorded at fair value and subsequently amortized in proportion to and over the period of estimated future net
servicing revenues. MSRs are assessed for impairment, at a minimum, on a quarterly basis. Management’s estimates of fair value of
MSRs are determined using the net discounted present value of future cash flows, which consists of projecting future servicing cash
flows and discounting such cash flows using an appropriate risk-adjusted discount rate. These valuations require various assumptions,
including future servicing fees, servicing costs, credit losses, discount rates and mortgage prepayment speeds. Due to subsequent
changes in economic and market conditions, these assumptions can, and generally will, change from quarter to quarter.
Mortgage servicing rights, December 29, 2006 (fair value is $164) $ 122
Additions(1) 513
Amortization (246)
Mortgage servicing rights, December 28, 2007 (fair value is $476) $ 389
(1) Includes MSRs obtained in connection with the acquisitions of First Franklin and First Republic.
The amount of contractually specified revenues for the yearended December 28, 2007, which are included within managed accounts and
other fee-based revenues in the Consolidated Statements of (Loss)/Earnings include:
(DOLLARS IN MILLIONS) 2007
page 119
The following table presents Merrill Lynch’s key assumptions used in measuring the fair value of MSRs at December 28, 2007 and the
pre-tax sensitivity of the fair values to an immediate 10% and 20% adverse change in these assumptions:
(DOLLARS IN MILLIONS)
The sensitivity analysis above is hypothetical and should be used with caution. In particular, the effect of a variation in a particular
assumption on the fair value of MSRs is calculated independent of changes in any other assumption; in practice, changes in one factor
may result in changes in another factor, which may magnify orcounteract the sensitivities. Furtherchanges in fair value based on a single
variation in assumptions generally cannot be extrapolated because the relationship of the change in a single assumption to the change in
fair value may not be linear.
Where an entity is a significant variable interest holder, FIN 46R requires that entity to disclose its maximum exposure to loss as a result
of its interest in the VIE. It should be noted that this measure does not reflect Merrill Lynch’s estimate of the actual losses that could result
from adverse changes because it does not reflect the economic hedges Merrill Lynch enters into to reduce its exposure.
The following tables summarize Merrill Lynch’s involvement with certain VIEs as of December 28, 2007 and December 29, 2006,
respectively. The table below does not include information on QSPEs or those VIEs where Merrill Lynch is the primary beneficiary and
holds a majority of the voting interests in the entity.
SIGNIFICANT VARIABLE
PRIMARY BENEFICIARY INTEREST HOLDER
TOTAL NET RECOURSE TOTAL
ASSET ASSET TO MERRILL ASSET MAXIMUM
(DOLLARS IN MILLIONS) SIZE (4) SIZE (5) LYNCH (6) SIZE (4) EXPOSURE
At December 28, 2007, Merrill Lynch had liquidity and credit facilities outstanding or maximum exposure to loss with a second Conduit
for $1.2 billion. The maximum exposure to loss assumes a total loss on the assets in the Conduit. The underlying assets in the Conduit
are primarily auto and equipment loans and lease receivables totaling $0.9 billion. The Conduit also has unfunded loan commitments
for $250 million. This Conduit remains active and continues to issue commercial paper, although during the latter half of 2007 there
were instances when it was required to draw on its liquidity facility with Merrill Lynch. As of year end 2007, Merrill Lynch had
purchased loans and asset backed securities under these facilities of $222 million in the fourth quarter and $1.1 billion earlier in 2007.
Merrill Lynch carries these assets as loans held for investment and investment securities — available-for-sale, respectively. Total
losses related to the partial exercise of the facility were $4 million in 2007. Merrill Lynch also periodically purchased commercial
paper issued by this Conduit, which resulted in reconsideration events under FIN 46R that required Merrill Lynch to reassess whether
it must consolidate the Conduit. As of the last reconsideration event, Merrill Lynch concluded it is not required to consolidate the
Conduit and, additionally, no longer holds a significant variable interest.
The decrease in total asset size and maximum exposure in the table above is attributable to Merrill Lynch no longer having a
significant variable interest in these Merrill Lynch established Conduits as described above.
page 121
Merrill Lynch also provided a similar liquidity facility to a third party sponsored Conduit in which Merrill Lynch also held commercial
paper. Total losses related to the exercise of the facility were approximately $280 million in 2007. As a result of a reconsideration event
in the fourth quarter of 2007 and deterioration in the value of the assets and subordinated notes of the Conduit, Merrill Lynch was
deemed to be the primary beneficiary of the Conduit and the facility is no longer considered outstanding. The assets held by this
Conduit, which is consolidated by Merrill Lynch, are primarily residential and commercial backed securities and are classified as
investment securities — available-for-sale in Merrill Lynch’s Consolidated Financial Statements.
The liquidity and credit facilities are further discussed in Note 11 to the Consolidated Financial Statements.
• Consumer loans, which are substantially secured, including residential mortgages, home equity loans, and other loans to individuals
for household, family, or other personal expenditures.
• Commercial loans including corporate and institutional loans (including corporate and financial sponsor, non-investment grade lending
commitments), commercial mortgages, asset-based loans, small- and middle-market business loans, and other loans to businesses.
Consumer:
Mortgages $ 26,939 $ 18,346 $ 7,023 $ 7,747
Other 5,392 4,224 3,298 547
Commercial and small- and middle-market business(4):
Investment grade 18,917 22,452 36,921 45,264
Non-investment grade 44,277 28,485 30,990 42,812
95,525 73,507 78,232 96,370
Allowance for loan losses (533) (478) – –
Reserve for lending-related commitments – – (1,408) (381)
Total, net $ 94,992 $ 73,029 $ 76,824 $ 95,989
(1) Commitments are outstanding as of the date the commitment letter is issued and are comprised of closed and contingent commitments. Closed commitments represent the unfunded
portion of existing commitments available for draw down. Contingent commitments are contingent on the borrower fulfilling certain conditions or upon a particular event, such as an
acquisition. A portion of these contingent commitments may be syndicated among other lenders or replaced with capital markets funding.
(2) See Note 11 to the Consolidated Financial Statements for a maturity profile of these commitments.
(3) In addition to the loan origination commitments included in the table above, at December 28, 2007, Merrill Lynch entered into agreements to purchase $330 million of loans that, upon
settlement of the commitment, will be classified in loans held for investment and loans held for sale. Similar loan purchase commitments totaled $1.2 billion at December 29, 2006. See
Note 11 to the Consolidated Financial Statements for additional information.
(4) Includes loans and commitments of $12.6 billion and $8.6 billion as of December 28, 2007, respectively, and $11.3 billion and $7.0 billion as of December 29, 2006, respectively that have
been subsequently sold in connection with the sale of Merrill Lynch Capital to GE Capital.
Consumer loans, which are substantially secured, consisted of approximately 245,100 individual loans at December 28, 2007.
Commercial loans consisted of approximately 23,200 separate loans. The principal balance of non-accrual loans was $607 million
at December 28, 2007 and $209 million at December 29, 2006. The investment grade and non-investment grade categorization is
determined using the credit rating agency equivalent of internal credit ratings. Non-investment grade counterparties are those rated
lower than the BBB- category. In some cases Merrill Lynch enters into single name and index credit default swaps to mitigate credit
exposure related to funded and unfunded commercial loans. The notional value of these swaps totaled $16.1 billion and $11.2 billion at
December 28, 2007 and December 29, 2006, respectively. For information on credit risk management see Note 3 to the Consolidated
Financial Statements.
The above amounts include $49.0 billion and $18.6 billion of loans held for sale at December 28, 2007 and December 29, 2006,
respectively. Loans held for sale are loans that management expects to sell prior to maturity. At December 28, 2007, such loans consisted
of $11.6 billion of consumer loans, primarily residential mortgages and automobile loans, and $37.4 billion of commercial loans,
approximately 19% of which are to investment grade counterparties. At December 29, 2006, such loans consisted of $7.4 billion of
consumer loans, primarily residential mortgages and automobile loans, and $11.2 billion of commercial loans, approximately 38% of
which are to investment grade counterparties.
The fair values of loans, notes, and mortgages were approximately $95 billion and $73 billion at December 28, 2007 and December 29,
2006, respectively. Merrill Lynch estimates the fair value of loans utilizing a number of methods ranging from market price quotations to
discounted cash flows.
page 123
Merrill Lynch generally maintains collateral on secured loans in the form of securities, liens on real estate, perfected security interests
in other assets of the borrower, and guarantees. Consumer loans are typically collateralized by liens on real estate, automobiles, and
other property. Commercial secured loans primarily include asset-based loans secured by financial assets such as loan receivables and
trade receivables where the amount of the loan is based on the level of available collateral (i.e., the borrowing base) and commercial
mortgages secured by real property. In addition, for secured commercial loans related to the corporate and institutional lending
business, Merrill Lynch typically receives collateral in the form of either a first or second lien on the assets of the borrower or the stock of
a subsidiary, which gives Merrill Lynch a priority claim in the case of a bankruptcy filing by the borrower. In many cases, where a security
interest in the assets of the borrower is granted, no restrictions are placed on the use of assets by the borrower and asset levels are not
typically subject to periodic review; however, the borrowers are typically subject to stringent debt covenants. Where the borrower grants
a security interest in the stock of its subsidiary, the subsidiary’s ability to issue additional debt is typically restricted.
Merrill Lynch enters into commitments to extend credit, predominantly at variable interest rates, in connection with corporate finance
and loan syndication transactions. Customers may also be extended loans or lines of credit collateralized by first and second mortgages
on real estate, certain assets of small businesses, or securities. Merrill Lynch considers commitments to be outstanding as of the date
the commitment letter is issued. These commitments usually have a fixed expiration date and are contingent on certain contractual
conditions that may require payment of a fee by the counterparty. Once commitments are drawn upon, Merrill Lynch may require the
counterparty to post collateral depending on its creditworthiness and general market conditions.
Merrill Lynch originates and purchases portfolios of loans that have certain features that may be viewed as increasing Merrill Lynch’s
exposure to nonpayment risk by the borrower. In connection with the acquisition of First Franklin on December 30, 2006, Merrill Lynch
acquired sub-prime mortgage loans and originated a significant volume of sub-prime mortgage loans during the first half of 2007. As the
year developed, delinquencies and defaults in the sub-prime mortgage loan market increased significantly leading to tighter
underwriting criteria for new mortgages. As a result, First Franklin substantially reduced its sub-prime lending activities and
currently is only making loans that are underwritten to prime underwriting criteria. As of December 28, 2007, we have ceased originating
sub-prime mortgages and are evaluating our continued involvement in this market. In addition, Merrill Lynch acquired loans that have
these features in connection with the acquisition of First Republic (see Note 16 to the Consolidated Financial Statements). Specifically,
these loans include commercial and residential loans held in loans, notes, and mortgages as of December 28, 2007 that have the
following features:
• negative amortizing features that permit the borrower to draw on unfunded commitments to pay current interest
(commercial loans only);
• subject the borrower to payment increases over the life of the loan; and
• high LTV ratios.
Although these features may be considered non-traditional for residential mortgages, interest-only features are considered traditional
for commercial loans. Therefore, the table below includes only those commercial loans with features that permit negative amortization.
The table below summarizes the level of exposure to each type of loan at December 28, 2007 and December 29, 2006:
(DOLLARS IN MILLIONS) 2007 (2) 2006
The negative amortizing loan products that Merrill Lynch issues include loans where the small- and middle-market or commercial
borrower receives a loan and an unfunded commitment, which together equal the maximum amount Merrill Lynch is willing to lend. The
unfunded commitment is automatically drawn on in order to meet current interest payments. These loans are often made to real estate
developers where the financed property will not generate current income at the beginning of the loan term. This balance also includes
working capital lines of credit that are issued to small- and middle-market investors and are secured by the assets of the business.
Loans where borrowers may be subject to payment increases primarily include interest-only loans. This caption also includes
mortgages with low initial rates. These loans are underwritten based on a variety of factors including, for example, the borrower’s credit
history, debt to income ratio, employment, the LTV ratio, and the borrower’s disposable income and cash reserves; typically using a
qualifying formula that conforms to the guidance issued by the federal banking agencies with respect to non-traditional mortgage loans.
High LTV loans include all mortgage loans where the LTV is greater than 80% and the borrower has not purchased private mortgage
insurance (“PMI”). High LTV loans also include residential mortgage products where a mortgage and home equity loan are
simultaneously established for the same property. The maximum original LTV ratio for the mortgage portfolio with no PMI or
other security is 85%, which can, on an exception basis, be extended to 90%. In addition, the Mortgage 100| product is included in this
category. The Mortgage 100| product permits high credit quality borrowers to pledge eligible securities in lieu of a traditional down
payment. The securities portfolio is subject to daily monitoring, and additional collateral is required if the value of the pledged securities
declines below certain levels.
The contractual amounts of these commitments represent the amounts at risk should the contract be fully drawn upon, the client
defaults, and the value of the existing collateral becomes worthless. The total amount of outstanding commitments may not represent
future cash requirements, as commitments may expire without being drawn upon. For a maturity profile of these and othercommitments
see Note 11 to the Consolidated Financial Statements.
The following table sets forth the changes in the carrying amount of Merrill Lynch’s goodwill by business segment, for the years-ended
December 28, 2007 and December 29, 2006:
(DOLLARS IN MILLIONS) GMI GWM MLIM (1) TOTAL
Goodwill:
December 30, 2005 $ 1,144 $ 299 $ 4,360 $ 5,803
Goodwill acquired 729 10 – 739
Translation adjustment and other 34 (7) 361 388
Goodwill disposed – – (4,721) (4,721)
December 29, 2006 $ 1,907 $ 302 $ – $ 2,209
Goodwill acquired $ 1,009 $ 1,315 $ – $ 2,324
Translation adjustment and other 54 3 – 57
December 28, 2007 $ 2,970 $ 1,620 $ – $ 4,590
(1) MLIM ceased to exist in connection with the BlackRock merger in September 2006.
GWM 2007 activity primarily relates to goodwill acquired in connection with the acquisition of First Republic. The change in the recorded
amount of goodwill for GMI relates primarily to goodwill acquired in connection with the acquisition of First Franklin whose operations
were integrated into GMI’s mortgage securitization business. GMI 2006 activity primarily relates to goodwill acquired in connection with
investments in an Indian joint venture and a boutique investment banking company. At December 28, 2007, in response to the
deterioration in the sub-prime mortgage markets, Merrill Lynch performed a goodwill impairment test. Based on this test, Merrill Lynch
determined that there was no impairment of goodwill on a consolidated basis.
In connection with the BlackRock merger, the goodwill associated with the MLIM business was derecognized on the Consolidated
Balance Sheet as of September 29, 2006.
Intangible Assets
Intangible assets at December 28, 2007 consist primarily of value assigned to customer relationships and core deposits. Intangible
assets with definite lives are tested for impairment in accordance with SFAS No. 144 whenever certain conditions exist which would
indicate the carrying amounts of such assets may not be recoverable. Intangible assets with definite lives are amortized over their
respective estimated useful lives.
In connection with the acquisition of First Franklin in 2007, Merrill Lynch recorded identifiable intangible assets of $185 million. In
response to the deterioration in the sub-prime mortgage markets, Merrill Lynch reviewed its identifiable intangible assets for
impairment and recorded impairment charges of $107 million and $53 million related to mortgage broker relationships of First Franklin
in the third and fourth quarters of 2007, respectively. At December 28, 2007 the entire amount of mortgage broker relationships has been
written off.
page 125
The table below presents the gross carrying amount, accumulated amortization, and net carrying amounts of other intangible assets as
of December 28, 2007 and December 29, 2006:
(DOLLARS IN MILLIONS) 2007 2006
Amortization expense and the write-offs of identifiable intangible assets related to First Franklin mortgage broker relationships were
$249 million for the year ended December 28, 2007. Amortization expense for 2006 and 2005 was $40 million and $25 million,
respectively.
The estimated future amortization of other intangible assets through 2012 is as follows:
(DOLLARS IN MILLIONS)
2008 $ 82
2009 72
2010 58
2011 53
2012 50
The value of Merrill Lynch’s debt instruments as recorded on the Consolidated Balance Sheet does not necessarily represent the amount
at which they will be repaid at maturity. This is due to the following:
• Certain debt issuances are issued at a discount to their redemption amount, which will accrete up to the redemption amount as they
approach maturity;
• Certain debt issuances are accounted for at fair value and incorporate changes in Merrill Lynch’s creditworthiness as well as other
underlying risks (see Note 3 to the Consolidated Financial Statements);
• Certain structured notes whose coupon or repayment terms are linked to the performance of debt and equity securities, indices,
currencies or commodities will take into consideration the fair value of those risks; and
• Certain debt issuances are adjusted for the impact of the application of fair value hedge accounting (see Note 1 to the Consolidated
Financial Statements).
Borrowing activities may create exposure to market risk, most notably interest rate, equity, commodity and currency risk. Other
subsidiary financing — non-recourse is primarily attributable to debt issued to third parties by consolidated entities that are VIEs.
Additional information regarding VIEs is provided in Note 6 to the Consolidated Financial Statements.
Borrowings at December 28, 2007 and December 29, 2006, are presented below:
(DOLLARS IN MILLIONS) 2007 2006
Short-term borrowings
Commercial paper $ 12,908 $ 6,357
Promissory notes 2,750 –
Secured short-term borrowings 4,851 9,800
Other unsecured short-term borrowings 4,405 1,953
Total $ 24,914 $ 18,110
(1)
Long-term borrowings
Fixed-rate obligations(2)(4) $ 102,020 $ 58,366
Variable-rate obligations(3)(4) 156,743 120,794
Zero-coupon contingent convertible debt (LYONs®) 2,210 2,240
Total $ 260,973 $ 181,400
Deposits
U.S. $ 76,634 $ 62,294
Non U.S. 27,353 21,830
Total $ 103,987 $ 84,124
(1) Excludes junior subordinated notes (related to trust preferred securities).
(2) Fixed-rate obligations are generally swapped to floating rates.
(3) Variable interest rates are generally based on rates such as LIBOR, the U.S. Treasury Bill Rate, or the Federal Funds Rate.
(4) Included are various equity-linked or other indexed instruments.
The fair value of short-term borrowings approximated carrying values at December 28, 2007 and December 29, 2006.
In determining fair value of long-term borrowings at December 28, 2007 for the purposes of the disclosure requirements under
SFAS No. 107, Disclosures about Fair Value of Financial Instruments, an entity’s own creditworthiness is required to be incorporated into
the fair value measurements per the guidance in SFAS No. 157. The fair value of total long-term borrowings is estimated using a
discounted cash flow model with inputs for similar types of borrowing arrangements. The fair value of long-term borrowings at
December 28, 2007 that are not accounted for at fair value under SFAS No. 159 was approximately $9.0 billion less than the carrying
amount primarily due to the widening of Merrill Lynch credit spreads. In addition, the amount of long-term borrowings that are accounted
for at fair value under SFAS No. 159 was approximately $76.3 billion at December 28, 2007. The credit spread component for the long-
term borrowings carried at fair value was $2.0 billion and has been included in earnings. Refer to Note 3 to the Consolidated Financial
Statements for additional information. At December 29, 2006, the fair value of long-term borrowings approximated carrying amounts.
page 127
At December 28, 2007, long-term borrowings mature as follows:
(DOLLARS IN MILLIONS)
Certain long-term borrowing agreements contain provisions whereby the borrowings are redeemable at the option of the holder (“put”
options) at specified dates prior to maturity. These borrowings are reflected in the above table as maturing at their put dates, rather than
their contractual maturities. Management believes, however, that a portion of such borrowings will remain outstanding beyond their
earliest redemption date.
A limited number of notes whose coupon or repayment terms are linked to the performance of debt and equity securities, indices,
currencies or commodities may be accelerated based on the value of a referenced index or security, in which case Merrill Lynch may be
required to immediately settle the obligation for cash or other securities. Refer to Note 1 to the Consolidated Financial Statements,
Embedded Derivatives section for additional information.
Except for the $2.2 billion of aggregate principal amount of floating rate zero-coupon contingently convertible liquid yield option notes
(“LYONs®”) that were outstanding at December 28, 2007, senior and subordinated debt obligations issued by ML & Co. and senior debt
issued by subsidiaries and guaranteed by ML & Co. do not contain provisions that could, upon an adverse change in ML & Co.’s credit
rating, financial ratios, earnings, cash flows, or stock price, trigger a requirement for an early payment, additional collateral support,
changes in terms, acceleration of maturity, or the creation of an additional financial obligation.
The effective weighted-average interest rates for borrowings at December 28, 2007 and December 29, 2006 were as follows:
2007 2006
Long-Term Borrowings
Floating Rate LYONs®
At December 28, 2007, $2.2 billion of LYONs® were outstanding. The LYONs® are unsecured and unsubordinated indebtedness of Merrill
Lynch and mature in 2032.
At maturity, holders of the LYONs® will receive the original principal amount of $1,000 increased daily by a rate that resets on a quarterly
basis. Upon conversion, holders of the LYONs® will receive the value of 14.0915 shares of Merrill Lynch common stock based on the
conditions described below. This value will be paid in cash in an amount equal to the contingent principal amount of the LYONs® on the
conversion date and the remainder, at Merrill Lynch’s election, will be paid in cash, common stock or a combination thereof.
In addition, under the terms of the LYONs®:
• Merrill Lynch may redeem the LYONs® at any time on or after March 13, 2008.
• Investors may require Merrill Lynch to repurchase the LYONs® in March 2008, 2012, 2017, 2022 and 2027. Repurchases may be settled
only in cash.
• Until March 2008, the conversion rate on the LYONS® will be adjusted upon the issuance of a quarterly cash dividend to holders of
Merrill Lynch common stock to the extent that such dividend exceeds $0.16 per share. In 2007, Merrill Lynch’s common stock dividend
exceeded $0.16 per share and, as a result, Merrill Lynch adjusted the conversion ratio to 14.0915 from 13.9447 in February 2008. In
addition, the conversion rate on the LYONs® will be adjusted for any othercash dividends ordistributions to all holders of Merrill Lynch
common stock until March 2008. After March 2008, cash dividends and distributions will cause the conversion ratio to be adjusted only
to the extent such dividends are extraordinary.
In accordance with the guidance in EITF Topic No. 90-19, Convertible Bonds with Issuer Option to Settle for Cash upon Conversion, and EITF
No. 03-7, Accounting for the Settlement of the Equity-Settled Portion of a Convertible Debt Instrument That Permits or Requires the Conversion
Spread to Be Settled in Stock (Instrument C of Issue 90-19), Merrill Lynch accounts for the proceeds received from the issuance of LYONs®
as long-term borrowings. Merrill Lynch does not separately account for the embedded conversion option in LYONs® as a result of the
scope exception in SFAS No. 133, which provides that contracts that are both indexed to an issuer’s own stock and classified in
stockholders’ equity are not considered to be derivatives. To the extent that the value of the conversion option is “in-the-money” at the
end of a reporting period, Merrill Lynch includes the appropriate numberof shares in diluted earnings per share using the treasury stock
method prescribed in SFAS No. 128, Earnings per Share, and EITF Topic No. D-72, Effect of Contracts That May Be Settled in Stock or Cash on
the Computation of Diluted Earnings per Share. See Note 10 to the Consolidated Financial Statements for further information regarding the
impact of LYONs® on diluted EPS.
The following table summarizes Merrill Lynch’s trust preferred securities as of December 28, 2007.
AGGREGATE
PRINCIPAL
AMOUNT AGGREGATE
OF TRUST PRINCIPAL ANNUAL EARLIEST
(DOLLARS IN MILLIONS) ISSUE PREFERRED AMOUNT DISTRIBUTION STATED REDEMPTION
TRUST DATE SECURITIES OF NOTES RATE MATURITY DATE
ML Preferred Capital Trust III Jan–1998 $ 750 $ 900 7.00% Perpetual Mar–2008
ML Preferred Capital Trust IV Jun–1998 400 480 7.12% Perpetual Jun–2008
ML Preferred Capital Trust V Nov–1998 850 1,021 7.28% Perpetual Sep–2008
ML Capital Trust I Dec–2006 1,050 1,051 6.45% Dec–2066(1) Dec–2011
ML Capital Trust II May–2007 950 951 6.45% Jun–2062(2) Jun–2012
ML Capital Trust III Aug–2007 750 751 7.375% Sep–2062(3) Sep–2012
Total $4,750(4) $5,154
(1) Merrill Lynch has the option to extend the maturity of the junior subordinated note until December 2086.
(2) Merrill Lynch has the option to extend the maturity of the junior subordinated note until June 2087.
(3) Merrill Lynch has the option to extend the maturity of the junior subordinated note until September 2087.
(4) Includes related investments of $25 million, which are deducted for equity capital purposes.
page 129
Borrowing Facilities
Merrill Lynch maintains credit facilities that are available to cover immediate funding needs. Merrill Lynch maintains a committed three-
year, multi-currency, unsecured bank credit facility that totaled $4.0 billion and $4.5 billion at December 28, 2007 and December 29, 2006,
respectively. This facility permits borrowings by ML & Co. and expires in April 2010. At December 28, 2007 Merrill Lynch had $1.0 billion of
borrowings outstanding under this facility. This facility requires Merrill Lynch to maintain a minimum consolidated net worth which it
significantly exceeded. There were no borrowings outstanding as of December 29, 2006.
Merrill Lynch also maintains two committed, secured credit facilities which totaled $6.5 billion at December 28, 2007 and $7.5 billion at
December 29, 2006. The facilities expire in May 2008 and December 2008. Both facilities include a one-year term-out option that allows
ML & Co. to extend borrowings under the facilities for an additional year beyond their respective expiration dates. The secured facilities
permit borrowings by ML & Co. and select subsidiaries, secured by a broad range of collateral. At December 28, 2007 and December 29,
2006, there were no borrowings outstanding under either facility.
In addition, Merrill Lynch maintains committed, secured credit facilities with two financial institutions that totaled $11.75 billion at
December 28, 2007 and December 29, 2006. The secured facilities may be collateralized by government obligations eligible for pledging.
The facilities expire at various dates through 2014, but may be terminated earlier with at least a nine-month notice by either party. At
December 28, 2007 and December 29, 2006, there were no borrowings outstanding under these facilities.
Deposits
Deposits at December 28, 2007 and December 29, 2006, are presented below:
(DOLLARS IN MILLIONS) 2007 2006
U.S.
Savings and Demand Deposits(1) $ 69,707 $ 58,972
Time Deposits 6,927 3,322
Total U.S. Deposits 76,634 62,294
Non-U.S.
Non-interest bearing 803 688
Interest bearing 26,550 21,142
Total Non-U.S. Deposits 27,353 21,830
Total Deposits $ 103,987 $ 84,124
(1) Includes $1.8 billion and $110 million of non-interest bearing demand deposits as of December 28, 2007 and December 29, 2006, respectively.
Certificates of deposit and other time deposit accounts issued in amounts of $100,000 or more totaled $5.8 billion and $3.3 billion at
December 28, 2007 and December 29, 2006, respectively. At December 28, 2007, $2.6 billion of these deposits mature in three months or
less, $2.5 billion mature in more than three but less than six months and the remaining balance matures in more than six months.
The effective weighted-average interest rates for deposits, which include the impact of hedges, at both December 28, 2007 and
December 29, 2006, was 3.5%. The fair values of deposits approximated carrying values at December 28, 2007 and December 29, 2006.
Other
Merrill Lynch also obtains standby letters of credit from issuing banks to satisfy various counterparty collateral requirements, in lieu of
depositing cash or securities collateral. Such standby letters of credit aggregated $5.8 billion and $2.5 billion at December 28, 2007 and
December 29, 2006, respectively.
On September 21, 2007, in connection with the acquisition of First Republic, Merrill Lynch issued two new series of preferred stock,
$65 million in aggregate principal amount of 6.70% Non-Cumulative, Perpetual Preferred Stock, Series 6, and $50 million in aggregate
principal amount of 6.25% Non-Cumulative, Perpetual Preferred Stock, Series 7. Each share of preferred stock of series 6 and 7 has a
On March 20, 2007, Merrill Lynch issued $1.5 billion in aggregate principal amount of Floating Rate, Non-Cumulative, Perpetual
Preferred Stock, Series 5.
The following table summarizes our preferred stock issued at December 28, 2007.
AGGREGATE
LIQUIDATION
INITIAL TOTAL PREFERENCE EARLIEST
ISSUE SHARES (DOLLARS IN REDEMPTION
SERIES DESCRIPTION DATE ISSUED MILLIONS) DIVIDEND DATE
1 Perpetual Floating Rate Non-Cumulative Nov-2004 21,000 $ 630 3-mo LIBOR + 75bps(3) Nov-2009
2 Perpetual Floating Rate Non-Cumulative Mar-2005 37,000 1,110 3-mo LIBOR + 65bps(3) Nov-2009
3 Perpetual 6.375% Non-Cumulative Nov-2005 27,000 810 6.375% Nov-2010
4 Perpetual Floating Rate Non-Cumulative Nov-2005 20,000 600(1) 3-mo LIBOR + 75bps(4) Nov-2010
5 Perpetual Floating Rate Non-Cumulative Mar-2007 50,000 1,500 3-mo LIBOR + 50bps(4) May-2012
6 Perpetual 6.70% Non-Cumulative Sept-2007 65,000 65 6.700% Feb-2009
7 Perpetual 6.25% Non-Cumulative Sept-2007 50,000 50 6.250% Mar-2010
Total 270,000 $ 4,765(2)
(1) Represents issuances of $240 million in November 2005 and $360 million in February 2006.
(2) Preferred stockholders’ equity reported on the Consolidated Balance Sheets is reduced by amounts held in inventory as a result of market making activities.
(3) Subject to 3.00% minimum rate per annum.
(4) Subject to 4.00% minimum rate per annum.
Mandatory Convertible
On January 15, 2008, Merrill Lynch reached separate agreements with several long-term investors, primarily Korea Investment
Corporation, Kuwait Investment Authority and Mizuho Corporate Bank, to sell an aggregate of 66 thousand shares of newly issued 9.00%
Non-Voting Mandatory Convertible Non-Cumulative Preferred Stock, Series 1, par value $1.00 per share and liquidation preference
$100,000 per share (the “Mandatory Convertible Preferred Stock”), at a price of $100,000 per share, for an aggregate purchase price of
approximately $6.6 billion. The shares of Mandatory Convertible Preferred Stock were issued on various dates between January 17, 2008
and February 1, 2008. Subject to certain conditions and exceptions, if Merrill Lynch sells or agrees to sell more than $1 billion of any
common stock (or equity securities convertible into common stock) within one year of closing at a purchase, conversion or reference
price per share less than $52.40, then the conversion ratio for the mandatory convertible preferred stock shall be adjusted to
compensate the investors.
Common Stock
On December 24, 2007, Merrill Lynch reached agreements with each of Temasek Capital (Private) Limited (“Temasek”) and Davis
Selected Advisors LP (“Davis”) to sell an aggregate of 116.7 million shares of newly issued common stock, par value $1.331⁄3 per share, at
$48.00 per share, for an aggregate purchase price of approximately $5.6 billion.
Davis purchased 25 million shares of Merrill Lynch common stock on December 27, 2007 at a price per share of $48.00, or an aggregate
purchase price of $1.2 billion. Temasek purchased 55 million shares on December 28, 2007 and the remaining 36.7 million shares on
January 11, 2008. In addition, Merrill Lynch granted Temasek an option to purchase an additional 12.5 million shares of common stock
undercertain circumstances. This option was exercised, with 2.8 million shares issued on February 1, 2008 and 9.7 million shares issued
on February 5, 2008, in each case at a purchase price of $48.00 per share for an aggregate purchase price of $600 million.
In connection with the Temasek transaction, if Merrill Lynch sells or agrees to sell any common stock (or equity securities convertible
into common stock) within one year of closing at a purchase, conversion or reference price per share less than $48.00, then it must make
a payment to Temasek to compensate Temasek for the aggregate excess amount per share paid by Temasek, which is settled in cash or
common stock at Merrill Lynch’s option.
Upon closing the First Republicacquisition on September 21, 2007, Merrill Lynch issued 11.6 million shares of common stock as a portion
of the consideration.
On January 18, 2007, the Board of Directors declared a 40% increase in the regular quarterly dividend to $0.35 per common share, from
$0.25 per common share. Dividends paid on common stock were $1.40 per share in 2007, $1.00 per share in 2006, and $0.76 per
share in 2005.
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During 2007, Merrill Lynch repurchased 62.1 million common shares at an average repurchase price of $84.88 per share. On April 30,
2007 the Board of Directors authorized the repurchase of an additional $6 billion of Merrill Lynch’s outstanding common shares. During
2007, Merrill Lynch had completed the $5 billion repurchase program authorized in October 2006 and had $4.0 billion of authorized
repurchase capacity remaining under the repurchase program authorized in April 2007. Merrill Lynch did not repurchase any common
stock during the fourth quarter of 2007 and does not anticipate additional repurchases of common shares.
(SHARES IN THOUSANDS)
Weighted-average basic shares outstanding(2) 830,415 868,095 890,744
Effect of dilutive instruments:
Employee stock options(3) – 42,802 42,117
FACAAP shares(3) – 21,724 22,140
Restricted shares and units(3) – 28,496 20,608
Convertible LYONs®(1) – 1,835 2,120
ESPP shares(3) – 10 7
Dilutive potential common shares – 94,867 86,992
Diluted Shares(4)(5) 830,415 962,962 977,736
Some of the legal actions include claims for substantial compensatory and/or punitive damages or claims for indeterminate amounts of
damages. In some cases, the issuers that would otherwise be the primary defendants in such cases are bankrupt or otherwise in
financial distress. Merrill Lynch is also involved in investigations and/or proceedings by governmental and self-regulatory agencies.
Merrill Lynch believes it has strong defenses to, and where appropriate, willvigorously contest, many of these matters. Given the number
of these matters, some are likely to result in adverse judgments, penalties, injunctions, fines, or other relief. Merrill Lynch may explore
potential settlements before a case is taken through trial because of the uncertainty, risks, and costs inherent in the litigation process. In
accordance with SFAS No. 5, Accounting for Contingencies, Merrill Lynch will accrue a liability when it is probable that a liability has been
incurred and the amount of the loss can be reasonably estimated. In many lawsuits and arbitrations, including almost all of the class
action lawsuits, it is not possible to determine whether a liability has been incurred or to estimate the ultimate or minimum amount of
that liability until the case is close to resolution, in which case no accrual is made until that time. In view of the inherent difficulty of
predicting the outcome of such matters, particularly in cases in which claimants seek substantial or indeterminate damages, Merrill
Lynch cannot predict what the eventual loss or range of loss related to such matters will be. Merrill Lynch continues to assess these
cases and believes, based on information available to it, that the resolution of these matters will not have a material adverse effect on the
page 133
financial condition of Merrill Lynch as set forth in the Consolidated Financial Statements, but may be material to Merrill Lynch’s
operating results or cash flows for any particular period and may impact ML & Co.’s credit ratings.
Specific Litigation
Enron Litigation
Newby v. Enron Corp. et al.: On April 8, 2002, Merrill Lynch was added as a defendant in a consolidated class action filed in the United
States District Court for the Southern District of Texas on behalf of the purchasers of Enron’s publicly traded equity and debt securities
during the period October 19, 1998 through November 27, 2001. The complaint alleges, among other things, that Merrill Lynch engaged
in improper transactions in the fourth quarter of 1999 that helped Enron misrepresent its earnings and revenues in the fourth quarter of
1999. The district court denied Merrill Lynch’s motions to dismiss, and certified a class action by Enron shareholders and bondholders
against Merrill Lynch and other defendants. On March 19, 2007, the Fifth Circuit Court of Appeals reversed the district court’s decision
certifying the case as a class action. On January 22, 2008, the Supreme Court denied plaintiffs’ petition to review the Fifth Circuit’s
decision. Merrill Lynch intends to move for summary judgment dismissing the action. Plaintiffs have stated they will oppose that motion.
Mortgage-Related Litigation
Merrill Lynch & Co. Shareholder Litigation: Beginning on October 30, 2007, purported class actions were filed in the United States District
Court for the Southern District of New York against Merrill Lynch and certain present or formerofficers and directors on behalf of persons
who acquired Merrill Lynch securities beginning as early as November 3, 2006 and ending as late as November 7, 2007. Among other
things, the complaints allege violations of the federal securities laws based on alleged false and misleading statements related to Merrill
Lynch’s exposure to collateralized debt obligations and the sub-prime lending markets. One such action is brought on behalf of persons
who exchanged the securities of First Republic Bank for the securities of Merrill Lynch in a merger that occurred on September 21, 2007.
Merrill Lynch intends to vigorously defend itself in these actions.
Shareholder Derivative Actions: Beginning on November 1, 2007, purported shareholder derivative actions were brought in federal and
state courts against certain present or former officers and directors of Merrill Lynch in which the Company is named as a nominal
defendant. The actions allege, among other things, breach of fiduciary duty, corporate waste, and abuse of control related to Merrill
Lynch’s exposure to collateralized debt obligations and the sub-prime lending markets. They also challenge the payment of alleged
severance to Merrill Lynch’s former chief executive officer and certain of the actions assert claims for contribution or indemnification on
the Company’s behalf. In addition, the Company has received letters from law firms, on behalf of purported shareholders, demanding
that the Board bring claims on behalf of Merrill Lynch against certain present and former directors and officers of Merrill Lynch based on
allegations substantially similar to those that are alleged in the shareholder derivative actions described above. The Board, with the
assistance of counsel, will review the claims made in the demand letters and determine whether the maintenance of the proposed
derivative suits is in the best interests of the Company.
ERISA Litigation: Beginning on November 13, 2007, purported class actions were filed in the United States District Court for the Southern
District of New York against Merrill Lynch and certain of its present or former officers and directors on behalf of the Merrill Lynch 401(k)
Savings and Investment Plan, Retirement Accumulation Plan, Employee Stock Ownership Plan and a class of similarly situated plan
participants. The actions are pending in the United States District Court for the Southern District of New York. These actions challenge
City of Cleveland v. Deutsche Bank Trust Company, et al.: On January 10, 2008, the City of Cleveland filed a lawsuit against twenty-one
financial services firms, including Merrill Lynch, alleging that the securitization of sub-prime mortgages created a “public nuisance” and
that defendants are, therefore, liable for the cost incurred by the City of Cleveland related to foreclosures. The case was initially filed in
the Cuyahoga County Common Pleas Court and was removed to the United States District Court for the Northern District of Ohio on
January 17, 2008. Plaintiff has filed a motion seeking an order remanding the case. Merrill Lynch intends to vigorously defend itself in
this action.
Regulatory Investigations: Merrill Lynch is cooperating with the SEC and other regulators and governmental authorities investigating
sub-prime mortgage-related activities.
Bank Sweep Programs Litigation
DeBlasio v. Merrill Lynch, et al.: On January 12, 2007, a purported class action was brought against Merrill Lynch and three other
securities firms in the United States District Court for the Southern District of New York alleging that their bank sweep programs violated
state law because their terms were not adequately disclosed to customers. On May 1, 2007, plaintiffs filed an amended complaint, which
added additional defendants. On November 12, 2007, defendants filed motions to dismiss the second amended complaint. Briefing on the
motion is expected to be completed by March 6, 2008.
Private Equity Litigation
Davidson, et al., v. Bain Capital Partners, LLC, et al.: On December 28, 2007, a purported class action was brought against sixteen
defendants, including Merrill Lynch, in the United States District Court for the District of Massachusetts. The complaint alleges that
defendants conspired to limit competition in bidding for private-equity sponsored acquisitions of public companies in violation of the
antitrust laws. Merrill Lynch intends to vigorously defend itself in this action.
Commitments
At December 28, 2007, Merrill Lynch’s commitments had the following expirations:
COMMITMENT EXPIRATION
LESS THAN 1–3 3 + –5 OVER 5
(DOLLARS IN MILLIONS) TOTAL 1 YEAR YEARS YEARS YEARS
Lending Commitments
Merrill Lynch primarily enters into commitments to extend credit, predominantly at variable interest rates, in connection with corporate
finance, corporate and institutional transactions and asset-based lending transactions. Clients may also be extended loans or lines of
credit collateralized by first and second mortgages on real estate, certain liquid assets of small businesses, or securities. These
commitments usually have a fixed expiration date and are contingent on certain contractual conditions that may require payment of a fee
by the counterparty. Once commitments are drawn upon, Merrill Lynch may require the counterparty to post collateral depending upon
creditworthiness and general market conditions. See Note 7 to the Consolidated Financial Statements for additional information.
The contractual amounts of these commitments represent the amounts at risk should the contract be fully drawn upon, the client
defaults, and the value of the existing collateral becomes worthless. The total amount of outstanding commitments may not represent
future cash requirements, as commitments may expire without being drawn upon.
For lending commitments where the loan will be classified as held for sale upon funding, liabilities are calculated at the lower of cost or
market, capturing declines in the fair value of the respective credit risk. For loan commitments where the loan will be classified as held
for investment upon funding, liabilities are calculated considering both market and historical loss rates. Loan commitments held by
entities that apply broker-dealer industry level accounting are accounted for at fair value.
page 135
Purchasing and Other Commitments
In the normal course of business, Merrill Lynch enters into institutional and margin-lending transactions, some of which are on a
committed basis, but most of which are not. Margin lending on a committed basis only includes amounts where Merrill Lynch has a
binding commitment. These binding margin lending commitments totaled $693 million at December 28, 2007 and $782 million at
December 29, 2006.
Merrill Lynch had commitments to purchase partnership interests, primarily related to private equity and principal investing activities, of
$3.1 billion and $928 million at December 28, 2007 and December 29, 2006, respectively. Merrill Lynch also has entered into agreements
with providers of market data, communications, systems consulting, and other office-related services. At December 28, 2007 and
December 29, 2006, minimum fee commitments over the remaining life of these agreements aggregated $453 million and $357 million,
respectively. Merrill Lynch entered into commitments to purchase loans of $3.0 billion (which upon settlement of the commitment will be
included in trading assets, loans held for investment and loans held for sale) at December 28, 2007. Such commitments totaled
$10.3 billion at December 29, 2006. Other purchasing commitments amounted to $0.9 billion and $2.1 billion at December 28, 2007 and
December 29, 2006, respectively.
In the normal course of business, Merrill Lynch enters into commitments for underwriting transactions. Settlement of these
transactions as of December 28, 2007 would not have a material effect on the consolidated financial condition of Merrill Lynch.
In connection with trading activities, Merrill Lynch enters into commitments to enter into resale and securities borrowing and also
repurchase and securities lending agreements that are primarily secured by collateral.
Leases
Merrill Lynch has entered into various noncancellable long-term lease agreements for premises that expire through 2024. Merrill Lynch
has also entered into various noncancellable short-term lease agreements, which are primarily commitments of less than one year
under equipment leases.
Merrill Lynch leases its Hopewell, New Jersey campus and an aircraft from a limited partnership. The leases with the limited partnership
are accounted for as operating leases and mature in 2009. Each lease has a renewal term to 2014. In addition, Merrill Lynch has entered
into guarantees with the limited partnership, whereby if Merrill Lynch does not renew the lease or purchase the assets under its lease at
the end of either the initial or the renewal lease term, the underlying assets will be sold to a third party, and Merrill Lynch has guaranteed
that the proceeds of such sale will amount to at least 84% of the acquisition cost of the assets. The maximum exposure to Merrill Lynch as
a result of this residual value guarantee is approximately $322 million as of December 28, 2007 and December 29, 2006. As of
December 28, 2007 and December 29, 2006, the carrying value of the liability on the Consolidated Balance Sheets is $13 million and
$17 million, respectively. Merrill Lynch’s residual value guarantee does not comprise more than half of the limited partnership’s assets.
On June 19, 2007, Merrill Lynch sold its ownership interest in Chapterhouse Holdings Limited, whose primary asset is Merrill Lynch’s
London Headquarters, for approximately $950 million. Merrill Lynch leased the premises back for an initial term of 15 years under an
agreement which is classified as an operating lease. The leaseback also includes renewal rights extending significantly beyond the initial
term. The sale resulted in a pre-tax gain of approximately $370 million which was deferred and is being recognized over the lease term as
a reduction of occupancy expense.
At December 28, 2007, future noncancellable minimum rental commitments under leases with remaining terms exceeding one year,
including lease payments to the limited partnerships discussed above are as follows:
(DOLLARS IN MILLIONS) WFC (1) OTHER TOTAL
The minimum rental commitments shown above have not been reduced by $681 million of minimum sublease rentals to be received in
the future under noncancellable subleases. The amounts in the above table do not include amounts related to lease renewal or purchase
options or escalation clauses providing for increased rental payments based upon maintenance, utility, and tax increases.
Guarantees
Merrill Lynch issues various guarantees to counterparties in connection with certain leasing, securitization and other transactions. In
addition, Merrill Lynch enters into certain derivative contracts that meet the accounting definition of a guarantee under FASB
Interpretation No. 45, Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indebtedness of Others (“FIN 45”).
FIN 45 defines guarantees to include derivative contracts that contingently require a guarantor to make payment to a guaranteed party
based on changes in an underlying (such as changes in the value of interest rates, security prices, currency rates, commodity prices,
indices, etc.), that relate to an asset, liability or equity security of a guaranteed party. Derivatives that meet the FIN 45 definition of
guarantees include certain written options and credit default swaps (contracts that require Merrill Lynch to pay the counterparty the par
value of a referenced security if that referenced security defaults). Merrill Lynch does not track, for accounting purposes, whether its
clients enter into these derivative contracts for speculative or hedging purposes. Accordingly, Merrill Lynch has disclosed information
about all credit default swaps and certain types of written options that can potentially be used by clients to protect against changes in an
underlying, regardless of how the contracts are used by the client. These guarantees and their expiration at December 28, 2007 are
summarized as follows:
MAXIMUM
PAYOUT/ LESS THAN CARRYING
(DOLLARS IN MILLIONS) NOTIONAL 1 YEAR 1–3 YEARS 3 + –5 YEARS OVER 5 YEARS VALUE
Derivative Contracts
Forcertain derivative contracts, such as written interest rate caps and written currency options, the maximum payout could theoretically
be unlimited, because, for example, the rise in interest rates or changes in foreign exchange rates could theoretically be unlimited. In
addition, Merrill Lynch does not monitor its exposure to derivatives based on the theoretical maximum payout because that measure
does not take into consideration the probability of the occurrence. As such, rather than including the maximum payout, the notionalvalue
of these contracts has been included to provide information about the magnitude of involvement with these types of contracts. However, it
should be noted that the notional value is not a reliable indicator of Merrill Lynch’s exposure to these contracts.
Merrill Lynch records all derivative transactions at fair value on its Consolidated Balance Sheets. As previously noted, Merrill Lynch does
not monitor its exposure to derivative contracts in terms of maximum payout. Instead, a risk framework is used to define risk tolerances
and establish limits to help to ensure that certain risk-related losses occur within acceptable, predefined limits. Merrill Lynch
economically hedges its exposure to these contracts by entering into a variety of offsetting derivative contracts and security positions.
See the Derivatives section of Note 1 to the Consolidated Financial Statements for further discussion of risk management of derivatives.
Merrill Lynch also funds selected assets, including CDOs and CLOs, via derivative contracts with third party structures that are not
consolidated on its balance sheet. Of the total notional amount of these total return swaps, approximately $24 billion is term financed
through facilities provided by commercial banks, $35 billion of long term funding is provided by third party special purpose vehicles and
$11 billion is financed with asset backed commercial paper conduits. In certain circumstances, Merrill Lynch may be required to
purchase these assets which would not result in additional gain or loss to the firm as such exposure is already reflected in the fair value of
our derivative contracts.
Merrill Lynch acts as liquidity provider to certain municipal bond securitization SPEs and provides both liquidity and credit default
protection to certain other municipal bond securitization SPEs. As of December 28, 2007, the value of the assets held by the SPEs plus any
additional collateral pledged to Merrill Lynch exceeded the amount of beneficial interests issued, which provides additional support to
Merrill Lynch in the event that the standby facilities are drawn. In certain of these facilities, Merrill Lynch is generally required to
provideliquidity support within seven days, while the remainder have third-party liquidity support for between 30 and 364 days before
page 137
Merrill Lynch is required to provide liquidity. A significant portion of the facilities where Merrill Lynch is required to provide liquidity
support within seven days are “net liquidity” facilities where upon draw Merrill Lynch may direct the trustee for the SPE to collapse the
SPE trusts and liquidate the municipal bonds, and Merrill Lynch would only be required to fund any difference between par and the sale
price of the bonds. “Gross liquidity” facilities require Merrill Lynch to wait up to 30 days before directing the trustee to liquidate the
municipal bonds. During the second half of 2007, Merrill Lynch began reducing facilities that require liquidity in seven days, and the total
amount of such facilities was $32.5 billion as of December 28, 2007, down from $40.7 billion as of June 29, 2007. Details of these liquidity
and credit default facilities as of December 28, 2007, are illustrated in the table below:
MUNICIPAL BONDS TO
MERRILL LYNCH LIQUIDITY FACILITIES CAN BE DRAWN:
WHICH MERRILL LYNCH
IN 7 DAYS WITH IN 7 DAYS WITH AFTER UP TO HAS RECOURSE IF
(DOLLARS IN MILLIONS) “NET LIQUIDITY” “GROSS LIQUIDITY” 364 DAYS(1) TOTAL(2) FACILITIES ARE DRAWN
In addition, Merrill Lynch, through a U.S. bank subsidiary has either provided or provides liquidity and credit facilities to three Conduits.
The assets in these Conduits included loans and asset-backed securities. In the event of a disruption in the commercial paper market,
the Conduits may draw upon their liquidity facilities and sell certain assets held by the respective Conduits to Merrill Lynch, thereby
protecting commercial paper holders against certain changes in the fair value of the assets held by the Conduits. The credit facilities
protect commercial paper investors against credit losses for up to a certain percentage of the portfolio of assets held by the
respective Conduits.
• During the fourth quarter of 2007, Merrill Lynch purchased the remaining assets of one of the Conduits through the exercise of its
liquidity facility and as a result the facility is no longeroutstanding. Merrill Lynch does not have any remaining exposure to this Conduit
as it is inactive. Although not legally terminated, Merrill Lynch does not anticipate utilizing this Conduit for off-balance-sheet
financing in the future.
• As a result of a reconsideration event under FIN 46R in the fourth quarter of 2007, Merrill Lynch became the primary beneficiary for
another Conduit. As a result, the Conduit was consolidated by Merrill Lynch and the facility is not considered outstanding.
• The outstanding amount of the facilities, or Merrill Lynch’s maximum exposure, related to the remaining Conduit is approximately
$1.2 billion as of December 28, 2007. The assets remaining in the Conduit are primarily auto and equipment loans and lease
receivables totaling $0.9 billion (which approximates their fair value) with unfunded loan commitments for $250 million. The
outstanding facility amount is net of $1.4 billion of assets that Merrill Lynch purchased during 2007. In addition, Merrill Lynch
periodically purchased commercial paper from this Conduit, but did not hold any commercial paper as of December 28, 2007 and is
under no obligation to purchase additional commercial paper. These liquidity and credit facilities are recorded off-balance sheet,
unless a liability is deemed necessary when a contingent payment is deemed probable and estimable.
Refer to Note 6 to the Consolidated Financial Statements for more information on Conduits.
Further, in conjunction with certain principal-protected mutual funds, Merrill Lynch guarantees the return of the initial principal
investment at the termination date of the fund. At December 28, 2007, Merrill Lynch’s maximum potentialexposure to loss with respect to
these guarantees is $430 million assuming that the funds are invested exclusively in other general investments (i.e., the funds hold no
risk-free assets), and that those other general investments suffer a total loss. As such, this measure significantly overstates Merrill
Lynch’s exposure or expected loss at December 28, 2007. These transactions met the SFAS No. 133 definition of derivatives and, as such,
were carried as a liability with a fair value of approximately $7 million at December 28, 2007.
In connection with residential mortgage loan and other securitization transactions, Merrill Lynch typically makes representations and
warranties about the underlying assets. If there is a material breach of such representations and warranties, Merrill Lynch may have an
obligation to repurchase the assets or indemnify the purchaser against any loss. For residential mortgage loan and other securitizations,
the maximum potential amount that could be required to be repurchased is the current outstanding asset balance. Specifically related to
First Franklin activities, there is currently approximately $40 billion of outstanding loans that First Franklin sold in various asset sales
and securitization transactions over the last 36 months. Merrill Lynch has recognized a liability of approximately $520 million at
December 28, 2007 arising from these residential mortgage sales and securitization transactions.
In addition to the guarantees described above, Merrill Lynch also provides guarantees to securities clearinghouses and exchanges.
Under the standard membership agreement, members are required to guarantee the performance of other members. Under the
agreements, if another member becomes unable to satisfy its obligations to the clearinghouse, other members would be required to
meet shortfalls. Merrill Lynch’s liability under these arrangements is not quantifiable and could exceed the cash and securities it has
posted as collateral. However, the potential for Merrill Lynch to be required to make payments under these arrangements is remote.
Accordingly, no liability is carried in the Consolidated Balance Sheets for these arrangements.
In connection with its prime brokerage business, Merrill Lynch provides to counterparties guarantees of the performance of its prime
brokerage clients. Under these arrangements, Merrill Lynch stands ready to meet the obligations of its customers with respect to
securities transactions. If the customer fails to fulfill its obligation, Merrill Lynch must fulfill the customer’s obligation with the
counterparty. Merrill Lynch is secured by the assets in the customer’s account as well as any proceeds received from the securities
transaction entered into by Merrill Lynch on behalf of the customer. No contingent liability is carried in the Consolidated Balance Sheets
for these transactions as the potential for Merrill Lynch to be required to make payments under these arrangements is remote.
In connection with providing supplementary protection to its customers, MLPF&S holds insurance in excess of that furnished by the
Securities Investor Protection Corporation (“SIPC”), and MLI holds insurance in excess of the protection provided by the United Kingdom
Compensation Scheme (Financial Services Compensation Scheme, “FSCS”). The policy provides total combined coverage up to
$600 million in the aggregate (including up to $1.9 million per customer for cash) for losses incurred by customers in excess of the SIPC
and/or FSCS limits. ML & Co. provides full indemnity to the policy provider syndicate against any losses as a result of this agreement. No
contingent liability is carried in the Consolidated Balance Sheets for this indemnification as the potential for Merrill Lynch to be required
to make payments under this agreement is remote.
In connection with its securities clearing business, Merrill Lynch performs securities execution, clearance and settlement services on
behalf of other broker-dealer clients for whom it commits to settle trades submitted for or by such clients, with the applicable
clearinghouse; trades are submitted either individually, in groups or series or, if specific arrangements are made with a particular
clearinghouse and client, all transactions with such clearing entity by such client. Merrill Lynch’s liability under these arrangements is
not quantifiable and could exceed any cash deposit made by a client. However, the potential for Merrill Lynch to be required to make
unreimbursed payments under these arrangements is remote due to the contractual capital requirements associated with clients’
activity and the regular review of clients’ capital. Accordingly, no liability is carried in the Consolidated Balance Sheets for these
transactions.
In connection with certain European mergers and acquisition transactions, Merrill Lynch, in its capacity as financial advisor, in some
cases may be required by law to provide a guarantee that the acquiring entity has or can obtain or issue sufficient funds or securities to
complete the transaction. These arrangements are short-term in nature, extending from the commencement of the offer through the
termination or closing. Where guarantees are required or implied by law, Merrill Lynch engages in a credit review of the acquirer, obtains
indemnification and requests other contractual protections where appropriate. Merrill Lynch’s maximum liability equals the required
funding for each transaction and varies throughout the year depending upon the size and number of open transactions. Based on the
review procedures performed, management believes the likelihood of being required to pay under these arrangements is remote.
Accordingly, no liability is recorded in the Consolidated Balance Sheets for these transactions.
In the course of its business, Merrill Lynch routinely indemnifies investors for certain taxes, including U.S. and foreign withholding taxes
on interest and other payments made on securities, swaps and other derivatives. These additional payments would be required upon a
change in law or interpretation thereof. Merrill Lynch’s maximum exposure under these indemnifications is not quantifiable. Merrill
Lynch believes that the potential for such an adverse change is remote. As such, no liability is recorded in the Consolidated
Balance Sheets.
page 139
Note 12. Employee Benefit Plans
Merrill Lynch provides pension and other postretirement benefits to its employees worldwide through defined contribution pension,
defined benefit pension and other postretirement plans. These plans vary based on the country and local practices. Merrill Lynch
reserves the right to amend or terminate these plans at any time.
Merrill Lynch accounts for its defined benefit pension plans in accordance with SFAS No. 87, Employers’ Accounting for Pensions and
SFAS No. 88, Employers’ Accounting for Settlements and Curtailments of Defined Benefit Pension Plans and for Termination Benefits. Its
postretirement benefit plans are accounted for in accordance with SFAS No. 106, Employers’Accounting for Postretirement Benefits Other
Than Pensions. Merrill Lynch discloses information regarding defined benefit pension and postretirement plans in accordance with
SFAS No. 132R, Employers’ Disclosures about Pensions and Other Postretirement Benefits. Postemployment benefits are accounted for in
accordance with SFAS No. 112, Employers’ Accounting for Postemployment Benefits.
In September 2006, the FASB issued SFAS No. 158, which requires an employer to recognize the overfunded and underfunded status of
its defined benefit pension and other postretirement plans, measured as the difference between the fair value of plan assets and the
benefit obligation, as an asset or liability in its statement of financial condition. The benefit obligation is defined as the projected benefit
obligation for pension plans and the accumulated postretirement benefit obligation for postretirement plans. Upon adoption,
SFAS No. 158 requires an entity to recognize previously unrecognized actuarial gains and losses and prior service costs within
accumulated other comprehensive income (loss), net of tax. The final net minimum pension liability (“MPL”) adjustments are recognized
prior to the adoption of SFAS No. 158. SFAS No. 158 also requires defined benefit plan assets and benefit obligations to be measured as of
the date of the company’s fiscal year end. Merrill Lynch has historically used a September 30 measurement date. Under the provisions of
SFAS No. 158, Merrill Lynch will be required to change its measurement date to coincide with its fiscal year end. This provision of
SFAS No. 158 will be effective for Merrill Lynch beginning with year end 2008. The following table illustrates the final net MPL adjustment
and the incremental effect of the application of SFAS No. 158:
BALANCE BEFORE NET
MPL ADJUSTMENT
AND SFAS NO. 158 ENDING
ADJUSTMENT FINAL NET SFAS NO. 158 BALANCE
(DOLLARS IN MILLIONS) 12/29/06 MPL ADJUSTMENT ADJUSTMENTS 12/29/06
Merrill Lynch established the RAP and the ESOP, collectively known as the “Retirement Program”, for the benefit of employees with a
minimum of one year of service. A notional retirement account is maintained for each participant. The RAP contributions are employer-
funded based on compensation and years of service. Merrill Lynch made a contribution of approximately $186 million to the Retirement
Program in order to satisfy the 2007 contribution requirement. These contributions for 2006 and 2005 were $165 million and $149 million,
respectively. Under the RAP, employees are given the opportunity to invest their retirement savings in a number of different investment
alternatives including ML & Co. common stock. Under the ESOP, all retirement savings are invested in ML & Co. common stock, until
employees have five years of service after which they have the ability to diversify. Merrill Lynch expects to make contributions of
approximately $187 million in 2008.
Merrill Lynch guarantees the debt of the ESOP. All dividends received by the ESOP on unallocated ESOP shares were used to pay down the
note. The note matured on December 31, 2007 and all outstanding balances were paid.
Merrill Lynch allocates ESOP shares of Merrill Lynch stock to all participants of the ESOP as principal from the ESOP loan is repaid. ESOP
shares are considered to be either allocated (contributed to participants’ accounts), committed (scheduled to be contributed at a
Employees can participate in the 401(k) by contributing, on a tax-deferred basis, or on an after-tax basis via Roth contributions beginning
January 1, 2007, a certain percentage of their eligible compensation, up to 25%, but not more than the maximum annual amount allowed
by law. Employees may also contribute up to 25% of eligible compensation in after-tax dollars up to an annual maximum of $10,000.
Employees over the age of 50 may also make a catch-up contribution up to the maximum annual amount allowed by law. Employees are
given the opportunity to invest their 401(k) contributions in a number of different investment alternatives including ML & Co. common
stock. Merrill Lynch’s contributions are made in cash and effective January 1, 2007, are equal to 100% of the first 4% of each participant’s
eligible compensation contributed to the 401(k), up to a maximum of $3,000 annually for employees with eligible compensation of less
than $300,000, and $2,000 for all others. Merrill Lynch makes contributions to the 401(k) on a pay period basis and expects to make
contributions of approximately $99 million in 2008.
Merrill Lynch also sponsors various non-U.S. defined contribution pension plans. The costs of benefits under the RAP, 401(k), and
non-U.S. plans are expensed during the related service period.
page 141
The following table provides a summary of the changes in the plans’ benefit obligations, fair value of plan assets, and funded status, for
the twelve-month periods ended September 30, 2007 and September 30, 2006, and amounts recognized in the Consolidated Balance
Sheets at year-end 2007 and 2006 for Merrill Lynch’s U.S. and non-U.S. defined benefit pension and postretirement benefit plans:
U.S. DEFINED NON-U.S. DEFINED TOTAL DEFINED
BENEFIT BENEFIT BENEFIT POSTRETIREMENT
PENSION PLANS PENSION PLANS (1) PENSION PLANS PLANS (2)
(DOLLARS IN MILLIONS) 2007 2006 2007 2006 2007 2006 2007 2006
Benefit obligations
Balance, beginning of year $ 1,804 $ 1,871 $ 1,662 $ 1,291 $ 3,466 $ 3,162 $ 307 $ 360
Service cost – – 28 28 28 28 7 8
Interest cost 96 95 81 66 177 161 16 17
Net actuarial losses (gains) (90) (54) (255) 166 (345) 112 (51) (60)
Employee contributions – – 2 2 2 2 – –
Amendments – – (6) – (6) – – –
Acquisition/merger(3) – – – (4) – (4) – –
Benefits paid (108) (108) (34) (33) (142) (141) (17) (18)
Curtailment and settlements(4) (21) – (28) (16) (49) (16) – (3)
Foreign exchange and other – – 48 162 48 162 1 3
Balance, end of period 1,681 1,804 1,498 1,662 3,179 3,466 263 307
Fair value of plan assets
Balance, beginning of year 2,273 2,325 1,103 844 3,376 3,169 – –
Actual return on plan assets 94 49 58 88 152 137 – –
Settlements(4) (21) – (28) (8) (49) (8) – –
Acquisition/merger(3) – – – (8) – (8) – –
Contributions 23 6 130 113 153 119 17 18
Benefits paid (108) (107) (34) (33) (142) (140) (17) (18)
Foreign exchange and other – – 34 107 34 107 – –
Balance, end of period 2,261 2,273 1,263 1,103 3,524 3,376 – –
Funded status end of period 580 469 (235) (559) 345 (90) (263) (307)
Fourth-quarter activity, net 2 – 5 60 7 60 4 4
Amount recognized in Consolidated
Balance Sheets 582 469 (230) (499) 352 (30) (259) (303)
Assets 592 500 19 6 611 506 – –
Liabilities (10) (31) (249) (505) (259) (536) (259) (303)
Amount recognized in Consolidated
Balance Sheets $ 582 $ 469 $ (230) $ (499) $ 352 $ (30) $ (259) $ (303)
(1) Primarily represents the U.K. pension plan which accounts for 77% of the benefit obligation and 82% of the fair value of plan assets at the end of the period.
(2) Approximately 90% of the postretirement benefit obligation at the end of the period relates to the U.S. postretirement plan.
(3) Relates to the BlackRock merger in 2006.
(4) Relates to settlement of one of the U.S. non-qualified pension plans and two non-U.S. pension plans in 2007 and primarily relates to the BlackRock merger in 2006.
The accumulated benefit obligation (“ABO”) for all defined benefit pension plans was $3,062 million and $3,310 million at September 30,
2007 and September 30, 2006, respectively.
The projected benefit obligation (“PBO”), ABO and fair value of plan assets for pension plans with ABO and PBO in excess of plan assets as
of September 30, 2007 and September 30, 2006 are presented in the tables below. These plans primarily represent U.S. supplemental
plans not subject to ERISA or non-U.S. plans where funding strategies vary due to legal requirements and local practices.
U.S. DEFINED NON-U.S. DEFINED TOTAL DEFINED
BENEFIT BENEFIT BENEFIT
PENSION PLANS PENSION PLANS PENSION PLANS
(DOLLARS IN MILLIONS) 2007 2006 2007 2006 2007 2006
The estimated net loss for the defined benefit pension plans that will be amortized from accumulated other comprehensive loss into net
periodic benefit cost over the next fiscal year is approximately $11 million. The estimated net gain and prior service credit for the
postretirement plans that will be amortized from accumulated other comprehensive loss into net periodic benefit cost over the next
fiscal year is approximately $5 million and $6 million, respectively.
The weighted average assumptions used in calculating the benefit obligations at September 30, 2007 and September 30, 2006 are
as follows:
U.S. DEFINED NON-U.S. DEFINED TOTAL DEFINED
BENEFIT BENEFIT BENEFIT POSTRETIREMENT
PENSION PLANS PENSION PLANS PENSION PLANS PLANS
2007 2006 2007 2006 2007 2006 2007 2006
Discount rate 6.0% 5.5% 5.8% 4.9% 5.9% 5.2% 6.0% 5.5%
Rate of compensation increase N/A N/A 4.7 4.5 4.7 4.5 N/A N/A
Healthcare cost trend rates(1)
Initial N/A N/A N/A N/A N/A N/A 8.8 9.5
Long-term N/A N/A N/A N/A N/A N/A 5.0 5.0
N/A = Not Applicable
(1) The healthcare cost trend rate is assumed to decrease gradually through 2013 and remain constant thereafter.
Total net periodic benefit cost for the years ended 2007, 2006, and 2005 included the following components:
U.S. PENSION NON-U.S. PENSION TOTAL PENSION POSTRETIREMENT
PLANS PLANS PLANS PLANS
(DOLLARS IN MILLIONS) 2007 2006 2005 2007 2006 2005 2007 2006 2005 2007 2006 2005
Defined contribution pension plan cost $ 278 $ 228 $ 199 $ 85 $ 68 $ 57 $ 363 $ 296 $ 256 N/A N/A N/A
Defined benefit and postretirement plans
Service cost(1) – – – 28 27 24 28 27 24 $ 7 $ 8 $ 18
Interest cost 96 95 95 81 66 58 177 161 153 16 17 31
Expected return on plan assets(2) (117) (112) (96) (81) (63) (49) (198) (175) (145) – – –
Amortization of (gains)/losses, prior
service costs and other (4) – – 31 20 14 27 20 14 (6) (5) 9
Total defined benefit and postretirement
plan costs (25) (17) (1) 59 50 47 34 33 46 17 20 58
Total net periodic benefit cost $ 253 $ 211 $ 198 $ 144 $ 118 $ 104 $ 397 $ 329 $ 302 $ 17 $ 20 $ 58
N/A = Not Applicable
(1) The U.S. plan was terminated in 1988 and thus does not incur service costs.
(2) Effective 2006 Merrill Lynch modified the investment policy relating to the U.S. Terminated Pension Plan which increased the expected long-term rate of return on plan assets. The increase in the
expected return on plan assets for the non-U.S. plans can primarily be attributed to the U.K. Pension Plan as a result of increased contributions, favorable actual investment returns and exchange
rate movements.
The net actuarial losses (gains) represent changes in the amount of either the projected benefit obligation or plan assets resulting from
actual experience being different than that assumed and from changes in assumptions. Merrill Lynch amortizes net actuarial losses
(gains) over the average future service periods of active participants to the extent that the loss or gain exceeds 10% of the greater of the
PBO or the fair value of plan assets. This amount is recorded within net periodic benefit cost. The average future service periods for the
U.K. defined benefit pension plan, the U.S. postretirement plan and the U.S. Terminated Pension Plan were 12 years, 13 years, and
13 years, respectively. Accordingly, the expense to be recorded in fiscal year ending 2008 related to the U.K. defined benefit pension plan
net actuarial loss is $12 million, while credits related to the U.S. postretirement plan and the U.S. Terminated Plan net actuarial gains to
be recorded in fiscal year ending 2008 are approximately $(4) million and $(2) million, respectively.
page 143
The weighted average assumptions used in calculating the net periodic benefit cost for the years ended September 30, 2007, 2006, and
2005 are as follows:
U.S. DEFINED NON-U.S. DEFINED TOTAL DEFINED
BENEFIT BENEFIT BENEFIT POSTRETIREMENT
PENSION PLANS PENSION PLANS PENSION PLANS PLANS
2007 2006 2005 2007 2006 2005 2007 2006 2005 2007 2006 2005
Discount rate 5.5% 5.3% 5.5% 4.9% 4.9% 5.3% 5.2% 5.1% 5.4% 5.5% 5.3% 5.7%
Expected long-term return on pension
plan assets 5.3 4.9 4.4 6.8 6.6 6.7 5.8 5.4 5.0 N/A N/A N/A
Rate of compensation increase N/A N/A N/A 4.5 4.3 4.2 4.5 4.3 4.2 N/A N/A N/A
Healthcare cost trend rates(1)
Initial N/A N/A N/A N/A N/A N/A N/A N/A N/A 9.5 10.3 11.9
Long-term N/A N/A N/A N/A N/A N/A N/A N/A N/A 5.0 4.9 4.9
N/A = Not Applicable
(1) The healthcare cost trend rate is assumed to decrease gradually through 2013 and remain constant thereafter.
Plan Assumptions
The discount rate used in determining the benefit obligation for the U.S. defined benefit pension and postretirement plans was developed
by selecting the appropriate U.S. Treasury yield, and the related swap spread, consistent with the duration of the plan’s obligation. This
yield was further adjusted to reference a Merrill Lynch specific Moody’s Corporate Aa rating. The discount rate for the U.K. pension plan
was selected by reference to the appropriate U.K. GILTS rate, and the related swap spread, consistent with the duration of the plan’s
obligation. This yield was further adjusted to reference a Merrill Lynch specific Moody’s Corporate Aa rating.
The expected long-term rate of return on plan assets reflects the average rate of earnings expected on the funds invested or to be
invested to provide for the benefits included in the projected benefit obligation. The U.S. terminated pension plan, which represents
approximately 64% of Merrill Lynch’s total pension plan assets as of September 30, 2007, is solely invested in a group annuity contract
which is currently 100% invested in fixed income securities. The expected long-term rate of return on plan assets for the U.S. terminated
pension plan is based on the U.S. Treasury strip plus 50 basis points which reflects the current investment policy. The U.K. pension plan,
which represents approximately 29% of Merrill Lynch’s total plan assets as of September 30, 2007, is currently invested in 57% equity
securities, 9% debt securities, 6% real estate, and 28% other. The expected long-term rate of return on the U.K. pension plan assets was
determined by Merrill Lynch and reflects estimates by the plan investment advisors of the expected returns on different asset classes
held by the plan in light of prevailing economic conditions at the beginning of the fiscal year. At September 30, 2007, Merrill Lynch
increased the discount rate used to determine the U.S. pension plan and postretirement benefit plan obligations to 6.0%. The expected
rate of return for the U.S. pension plan assets was increased from 4.9% in 2006 to 5.3% for 2007, which reduced expense by $7 million. The
discount rate at September 30, 2007 for the U.K. pension plan was increased from 5.0% in 2006 to 6.0% for 2007. The expected rate of
return for the U.K. pension plan was unchanged.
Although Merrill Lynch’s pension and postretirement benefit plans can be sensitive to changes in the discount rate, it is expected that a
25 basis point rate reduction would not have a material impact on the U.S. plan expenses for 2008. This change would increase the U.K.
pension plan expense for 2008 by approximately $7 million. Also, such a change would increase the U.S. and U.K. plan obligations at
September 30, 2007 by $46 million and $67 million, respectively. A 25 basis point decline in the expected rate of return for the U.S. pension
plan and the U.K. pension plan would result in an expense increase for 2008 of approximately $5 million and $3 million, respectively.
The assumed health care cost trend rate has a significant effect on the amounts reported for the postretirement health care plans. A one
percent change in the assumed healthcare cost trend rate would have the following effects:
1% INCREASE 1% DECREASE
(DOLLARS IN MILLIONS) 2007 2006 2007 2006
Effect on:
Other postretirement benefits cost $ 3 $ 10 $ (2) $ (8)
Accumulated benefit obligation 23 31 (20) (27)
The assets of the U.K. pension plan are invested prudently so that the benefits promised to members are provided, having regard to the
nature and the duration of the plan’s liabilities. The current planned investment strategy was set following an asset-liability study and
advice from the Trustees’ investment advisors. The asset allocation strategy selected is designed to achieve a higher return than the
Postemployment Benefits
Merrill Lynch provides certain postemployment benefits for employees on extended leave due to injury or illness and for terminated
employees. Employees who are disabled due to non-work-related illness or injury are entitled to disability income, medical coverage,
and life insurance. Merrill Lynch also provides severance benefits to terminated employees. In addition, Merrill Lynch is mandated by
U.S. state and federal regulations to provide certain other postemployment benefits. Merrill Lynch funds these benefits through a
combination of self-insured and insured plans.
Merrill Lynch recognized $335 million, $424 million, and $226 million in 2007, 2006, and 2005, respectively, of postemployment benefits
expense, which included severance costs for terminated employees of $323 million, $417 million, and $225 million in 2007, 2006, and
2005, respectively.
To align the interests of employees with those of stockholders, Merrill Lynch sponsors several employee compensation plans that
provide eligible employees with stock oroptions to purchase stock. The total pre-tax compensation cost recognized in earnings for stock-
based compensation plans for 2007 was $1.8 billion. Pre-tax compensation cost for 2006 was $3.1 billion (net of $18 million re-classified
to discontinued operations), which includes approximately $1.8 billion associated with one-time, non-cash compensation expenses
further described in Note 1 to the Consolidated Financial Statements. Pre-tax compensation cost for 2005 was $1.0 billion. Total related
tax benefits recognized in earnings for share-based payment compensation plans for 2007, 2006, and 2005 were $669 million, $1.2 billion
and $381 million, respectively. Total compensation cost recognized for share-based payments related to awards granted to retirement
page 145
eligible employees prior to adoption of SFAS No. 123R was $617 million. Merrill Lynch also sponsors deferred cash compensation plans
and award programs for eligible employees.
As of December 28, 2007, there was $2.2 billion of total unrecognized compensation cost related to non-vested share-based payment
compensation arrangements. This cost is expected to be recognized over a weighted average period of 2.2 years.
In January 2007 and 2006, Participation Units were granted from the Long-Term Incentive Compensation Plan under Merrill Lynch’s
Managing Partners Incentive Program. The awards granted under this program are fully at risk, and the potential payout varies
depending on Merrill Lynch’s financial performance against pre-determined return on average common stockholders’ equity (“ROE”)
targets. One-third of the Participation Units converted into Restricted Shares on January 31, 2007. Based on Merrill Lynch’s 2007
performance, no participation units will convert on January 31, 2008. The remaining Participation Units will convert on January 31, 2009,
subject to the satisfaction of minimum ROE targets determined for the 2008 fiscal year. Participation Units will cease to be outstanding
immediately following conversion. If the minimum target is not met, the Participation Units will expire without being converted.
In March 2007, Participation Units were granted from the Long-Term Incentive Compensation Plan under Merrill Lynch’s GMI Managing
Partners Incentive Program. The awards granted under this program are fully at risk, and the potential payout varies depending on
Merrill Lynch’s financial performance against a pre-determined GMI year-over-year pre-tax profit growth target. Based on Merrill
Lynch’s 2007 performance, no participation units will convert on January 31, 2008. The remaining Participation Units will convert on
January 31, 2009, subject to the satisfaction of a minimum pre-tax growth target determined for the 2008 fiscal year. Participation Units
will cease to be outstanding immediately following conversion. If the minimum target is not met, the Participation Units will expire
without being converted.
In connection with the BlackRock merger, 1,564,808 Restricted Shares held by employees that transferred to BlackRock were converted
to Restricted Units effective June 2, 2006. The vesting period for such awards was accelerated to end on the transaction closing date of
September 29, 2006. In addition, the vesting periods for 1,135,477 Restricted Share and 156,118 Restricted Unit awards that were not
converted were accelerated to end on the transaction closing date of September 29, 2006.
SFAS No. 123R requires the immediate expensing of share-based payment awards granted or modified to retirement-eligible employees
in 2007 and 2006, including awards that are subject to non-compete provisions. The above activity contains awards with or without a
future service requirement, as follows:
NO FUTURE SERVICE REQUIRED FUTURE SERVICE REQUIRED
WEIGHTED AVG WEIGHTED AVG
SHARES/UNITS GRANT PRICE SHARES/UNITS GRANT PRICE
The total fair value of Restricted Shares and Units granted to retirement-eligible employees, or for which service criteria were satisfied
during 2007 and 2006 was $0.6 billion and $2.2 billion, respectively. The total fair value of Restricted Shares and Units vested during 2007
and 2006 was $1.7 billion and $303 million, respectively.
The weighted-average fair value per share or unit for 2007, 2006, and 2005 grants follows:
2007 2006 2005
LTIC Plans
Restricted Shares $ 80.56 $ 75.45 $ 58.70
Restricted Units 81.28 71.63 58.60
ECAP Restricted Shares 88.55 70.22 60.37
ESCP Plans
Restricted Shares 95.83 71.54 57.01
Restricted Units 95.60 71.67 57.01
page 147
The total number of Stock Appreciation Rights that remained outstanding at December 28, 2007 and December 29, 2006, were 245,402
and 304,774, respectively.
The activity for Non-qualified Stock Options under LTIC Plans for 2007, 2006, and 2005 follows:
OPTIONS WEIGHTED-AVERAGE
OUTSTANDING EXERCISE PRICE
All Options and Stock Appreciation Rights outstanding as of December 28, 2007 are fully vested or expected to vest.
At year-end 2007, the weighted-average remaining contractual terms of options outstanding and exercisable were 3.38 years and
3.20 years, respectively.
The weighted-average fair value of options granted in 2007, 2006, and 2005 was $19.29, $18.46, and $18.04, per option, respectively.
The fair value of option awards with vesting based solely on service requirements is estimated on the date of grant based on a Black-
Scholes option pricing model using the following weighted-average assumptions. Expected volatilities are based on historical volatility
of ML & Co. common stock. The expected term of options granted is equal to the contractual life of the options. The risk-free rate for
periods within the contractual life of the option is based on the U.S. Treasury yield curve in effect at the time of grant. The expected
dividend is based on the current dividend rate at the time of grant.
2007 2006 2005
In 2007, option awards with vesting that is partially dependent on pre-determined increases in the price of Merrill Lynch’s common stock
were granted to certain senior executive employees. The fair value of these option awards is estimated on the date of grant based on a
lattice option pricing model using the following weighted-average assumptions. Expected volatilities are based on historical volatility of
ML & Co. common stock. The expected life of options granted is based on performance conditions relating to minimum stock price
thresholds required for exercisability and assuming exercise when the stock price reaches a level equal to two times the exercise price.
The risk-free rate for periods within the contractual life of the option is based on the U.S. Treasury yield curve in effect at the time of grant.
The expected dividend is based on the current dividend rate at the time of grant.
2007
Merrill Lynch received approximately $894 million and $1.8 billion in cash from the exercise of stock options during 2007 and 2006,
respectively. The net tax benefit realized from the exercise of these options was $219 million and $394 million for 2007 and 2006,
respectively.
The total intrinsic value of options exercised during 2007 and 2006 was $925 million and $1.8 billion, respectively. As of December 28,
2007, the total intrinsic value of options outstanding and exercisable was $676 million and $673 million, respectively. As of December 29,
2006, the total intrinsic value of options outstanding and exercisable was $5.3 billion and $4.9 billion, respectively.
The weighted-average fair value of ESPP stock purchase rights exercised by employees in 2007, 2006, and 2005 was $4.24, $3.75, and
$2.67 per right, respectively.
Director Plans
Merrill Lynch provides stock-based compensation to its non-employee directors under the Merrill Lynch & Co., Inc. Deferred Stock Unit
Plan for Non-Employee Directors, which was approved by shareholders in 2005 (“New Directors Plan”) and the Deferred Stock Unit and
Stock Option Plan for Non-Employee Directors (“Old Directors Plan”) which was adopted by the Board of Directors in 1996 and
discontinued after stockholders approved the New Directors Plan. In 2005, shareholders authorized Merrill Lynch to issue
500,000 shares under the New Directors Plan and also authorized adding all shares that remained available for issuance under
the Old Directors Plan to shares available under the New Directors Plan for a total of approximately 1 million shares.
Under both plans, non-employee directors are to receive deferred stock units, payable in shares of ML & Co. common stock after a
deferral period of five years. Under the Old Directors Plan, 13,916 and 29,573 deferred stock units were outstanding at year-end 2007 and
2006, respectively. Under the New Directors Plan, 65,239 and 55,735 deferred stock units remained outstanding at year-end 2007 and
2006, respectively.
Additionally, the Old Directors Plan provided for the grant of stock options which the New Directors Plan eliminated. There were
approximately 110,961 and 121,051 stock options outstanding under the Old Directors Plan at year-end 2007 and 2006, respectively.
Merrill Lynch also sponsors several cash-based employee award programs, under which certain employees are eligible to receive future
cash compensation, generally upon fulfillment of the service and vesting criteria for the particular program.
When appropriate, Merrill Lynch maintains various assets as an economic hedge of its liabilities to participants under the deferred
compensation plans and award programs. These assets and the payables accrued by Merrill Lynch under the various plans and grants
are included on the Consolidated Balance Sheets. Such assets totaled $2.2 billion and $2.5 billion at December 28, 2007 and
page 149
December 29, 2006 respectively. Accrued liabilities at year-end 2007 and 2006 were $2.2 billion and $2.4 billion, respectively. Changes to
deferred compensation liabilities and corresponding returns on the assets that economically hedge these liabilities are recorded within
compensation and benefits expense on the Consolidated Statements of (Loss)/Earnings.
U.S. federal
Current $ (391) $ 1,370 $ 878
Deferred (867) 386 250
U.S. state and local
Current (73) 271 36
Deferred (112) (116) (49)
Non-U.S.
Current 1,194 1,432 817
Deferred (3,945) (630) 14
Total income tax (benefit)/expense from continuing operations (4,194) 2,713 1,946
Income tax expense from discontinued operations $ 537 $ 214 $ 169
The corporate statutory U.S. federal tax rate was 35% for the three years presented. A reconciliation of statutory U.S. federal income
taxes to Merrill Lynch’s income tax provisions for earnings from continuing operations follows:
(DOLLARS IN MILLIONS) 2007 2006 2005
The 2007, 2006 and 2005 effective tax rates reflect net benefits of $6 million, $496 million, and $156 million, respectively, related to
changes in estimates or rates with respect to prior years, and settlements with various tax authorities. The 2005 tax rate also included
$97 million of tax expense ($113 million tax expense recorded in the fourth quarter less $16 million tax benefit recorded in the second
quarter) associated with the foreign earnings repatriation of $1.8 billion.
Deferred income taxes are provided for the effects of temporary differences between the tax basis of an asset or liability and its reported
amount in the Consolidated Balance Sheets. These temporary differences result in taxable or deductible amounts in future years. In
addition, deferred taxes are recognized with respect to losses and credits that have been generated for tax purposes that will be
recognized in future periods. At December 28, 2007, Merrill Lynch had U.S. net operating loss carryforwards of approximately $2.7 billion,
U.S. foreign tax credit carryforwards of $543 million and United Kingdom loss carryforwards of $13.5 billion. The U.S. losses are primarily
state carryforwards expiring in various years from 2008 through 2027, while the U.S. foreign tax credit carryfowards expire in 2017. The
United Kingdom loss has an unlimited carryforward period and a tax benefit has been recognized for the deferred tax asset with no
valuation allowance. In addition, Merrill Lynch had approximately $31 million of state tax credit carryforwards expiring in various years
after 2007.
Merrill Lynch adopted FIN 48 effective the beginning of the first quarter of 2007 and recognized a decrease to beginning retained earnings
and an increase to the liability for unrecognized tax benefits of approximately $66 million.
A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows:
(DOLLARS IN MILLIONS)
Of the above balance at the end of the year, approximately $1.2 billion (net of federal benefit of state issues, competent authority and
foreign tax credit offsets) represents the amount of unrecognized tax benefits that, if recognized, would favorably affect the effective tax
rate in future periods. Merrill Lynch paid an assessment to Japan in 2005 for the fiscal years April 1, 1998 through March 31, 2003, in
relation to the taxation of income that was originally reported in other jurisdictions. During the third quarterof 2005, Merrill Lynch started
the process of obtaining clarification from international tax authorities on the appropriate allocation of income among multiple
jurisdictions to prevent double taxation. In addition, Merrill Lynch filed briefs with the U.S. Tax Court in 2005 with respect to a tax case,
which had been remanded for further proceedings in accordance with a 2004 opinion of the U.S. Court of Appeals for the Second Circuit.
The U.S. Court of Appeals affirmed the initial adverse opinion of the U.S. Tax Court rendered in 2003 against Merrill Lynch, with respect to
a 1987 transaction, but remanded the case to the U.S. Tax Court to consider a new argument. The U.S. Tax Court has not issued a decision
on this remanded matter, and it is uncertain as to when a decision will be rendered. The unrecognized tax benefits with respect to this
case and the Japanese assessment, while paid, have been included in the $1.5 billion and the $1.2 billion amounts above.
page 151
Merrill Lynch recognizes the accrual of interest and penalties related to unrecognized tax benefits in income tax expense. For the years
2007, 2006 and 2005, Merrill Lynch recognized net expense (benefit) of approximately $64 million, $(21) million and $(8) million in interest
and penalties. Merrill Lynch had approximately $156 million and $36 million (net of $71 million interest receivable relating to a carryback
claim) for the payment of interest and penalties accrued at December 28, 2007 and December 29, 2006, respectively.
Merrill Lynch is under examination by the Internal Revenue Service (“IRS”) and other tax authorities in countries including Japan and the
United Kingdom, and states in which Merrill Lynch has significant business operations, such as New York. The tax years under
examination vary by jurisdiction.
Below is a table of tax years that remain subject to examination by major tax jurisdiction:
YEARS SUBJECT TO
JURISDICTION EXAMINATION
US Federal 2004–2007
New York State and City 2002–2007
UK 2005–2007
Canada 2004–2007
India 3/31/92–3/31/07
Japan 3/31/04–3/31/07
Hong Kong 2004–2007
Singapore 1998–2007
The IRS audits for the years 2004–2006 may be completed in 2008. It is also reasonably possible that audits in other countries and states
may conclude in 2008. In 2008, Merrill Lynch may obtain clarification from international tax authorities on the appropriate allocation of
income among multiple jurisdictions (transfer pricing) to prevent double taxation resulting from the tax assessment paid to Japan in
2005. While it is reasonably possible that a significant reduction in unrecognized tax benefits may occur within 12 months of December 28,
2007, quantification of an estimated range cannot be made at this time due to the uncertainty of the potential outcome of outstand-
ing issues.
Income tax benefits of $641 million, $501 million, and $317 million were allocated to stockholders’ equity related to employee stock
compensation transactions for 2007, 2006, and 2005, respectively.
Cumulative undistributed earnings of non-U.S. subsidiaries were approximately $13.0 billion at December 28, 2007. No deferred
U.S. federal income taxes have been provided for the undistributed earnings to the extent that they are permanently reinvested in Merrill
Lynch’s non-U.S. operations. It is not practical to determine the amount of additional tax that may be payable in the event these earnings
are repatriated.
Certain U.S. and non-U.S. subsidiaries are subject to various securities and banking regulations and capital adequacy requirements
promulgated by the regulatory and exchange authorities of the countries in which they operate. These regulatory restrictions may
impose regulatory capital requirements and limit the amounts that these subsidiaries can pay in dividends or advance to Merrill Lynch.
Merrill Lynch’s principal regulated subsidiaries are discussed below.
Securities Regulation
As a registered broker-dealer, Merrill Lynch, Pierce, Fenner & Smith Incorporated (“MLPF&S”) is subject to the net capital requirements
of Rule 15c3-1 under the Securities Exchange Act of 1934 (“the Rule”). Under the alternative method permitted by the Rule, the minimum
required net capital, as defined, shall be the greater of 2% of aggregate debit items (“ADI”) arising from customer transactions or
$500 million. At December 28, 2007, MLPF&S’s regulatory net capital of $3,830 million was approximately 14.5% of ADI, and its
regulatory net capital in excess of the SEC minimum required was $3,266 million.
As a futures commission merchant, MLPF&S is also subject to the capital requirements of the Commodity Futures Trading Commission
(“CFTC”), which requires that minimum net capital should not be less than 8% of the total customer risk margin requirement plus 4% of
the total non-customer risk margin requirement. MLPF&S regulatory net capital of $3,830 million exceeded the CFTC minimum
requirement of $600 million by $3,230 million.
Merrill Lynch Government Securities Inc. (“MLGSI”), a primary dealer in U.S. Government securities, is subject to the capital adequacy
requirements of the Government Securities Act of 1986. This rule requires dealers to maintain liquid capital in excess of market and
credit risk, as defined, by 20% (a 1.2-to-1 capital-to-risk standard). At December 28, 2007, MLGSI’s liquid capital of $1,911 million was
256.0% of its total market and credit risk, and liquid capital in excess of the minimum required was $1,016 million.
Merrill Lynch Japan Securities Co. Ltd. (“MLJS”), a Japan-based regulated broker-dealer, is subject to capital requirements of the
Japanese Financial Services Agency (“JFSA”). Net capital, as defined, must exceed 120% of the total risk equivalents requirement of the
JFSA. At December 28, 2007, MLJS’s net capital was $1,729 million, exceeding the minimum requirement by $823 million.
Banking Regulation
Merrill Lynch Bank USA (“MLBUSA”) is a Utah-chartered industrial bank, regulated by the Federal Deposit Insurance Corporation
(“FDIC”) and the State of Utah Department of Financial Institutions (“UTDFI”). Merrill Lynch Bank & Trust Co., FSB (“MLBT-FSB”) is a full
service thrift institution regulated by the Office of Thrift Supervision (“OTS”), whose deposits are insured by the FDIC. Both MLBUSA and
MLBT-FSB are required to maintain capital levels that at least equal minimum capital levels specified in federal banking laws and
regulations. Failure to meet the minimum levels will result in certain mandatory, and possibly additional discretionary, actions by the
regulators that, if undertaken, could have a direct material effect on the banks. The following table illustrates the actual capital ratios and
capital amounts for MLBUSA and MLBT-FSB as of December 28, 2007.
MLBUSA MLBT-FSB
WELL-
CAPITALIZED ACTUAL ACTUAL ACTUAL ACTUAL
(DOLLARS IN MILLIONS) MINIMUM RATIO AMOUNT RATIO AMOUNT
As a result of its ownership of MLBT-FSB, ML & Co. is registered with the OTS as a savings and loan holding company (“SLHC”) and
subject to regulation and examination by the OTS as a SLHC. ML & Co. is classified as a unitary SLHC, and will continue to be so classified
as long as it and MLBT-FSB continue to comply with certain conditions. Unitary SLHCs are exempt from the material restrictions
imposed upon the activities of SLHCs that are not unitary SLHCs. SLHCs other than unitary SLHCs are generally prohibited from
engaging in activities other than conducting business as a savings association, managing or controlling savings associations, providing
services to subsidiaries or engaging in activities permissible for bank holding companies. Should ML & Co. fail to continue to qualify as a
unitary SLHC, in order to continue its present businesses that would not be permissible for a SLHC, ML & Co. could be required to divest
control of MLBT-FSB.
Merrill Lynch International Bank Limited (“MLIB”), an Ireland-based regulated bank, is subject to the capital requirements of the
Financial Regulator of Ireland. MLIB is required to meet minimum regulatory capital requirements under the European Union (“EU”)
banking law as implemented in Ireland by the Financial Regulator. At December 28, 2007, MLIB’s capital ratio was above the minimum
requirement at 11.1% and its financial resources were $10,382 million, exceeding the minimum requirement by $1,014 million.
On September 21, 2007, Merrill Lynch acquired all of the outstanding common shares of First Republic in exchange for a combination of
cash and stock for a total transaction value of $1.8 billion. First Republic provides personalized, relationship-based banking services,
including private banking, private business banking, real estate lending, trust, brokerage and investment management. The results of
operations of First Republic are included in GWM. In conjunction with the acquisition of First Republic, Merrill Lynch issued $65 million of
6.70% non-cumulative perpetual preferred stock and $50 million of 6.25% non-cumulative preferred stock in exchange for First Republic
Bank’s preferred stock Series A and B, respectively. Upon closing the First Republic acquisition, Merrill Lynch also issued 11.6 million
shares of common stock, par value $1.331⁄3 per share, as consideration.
page 153
Note 17. Discontinued Operations
On August 13, 2007, Merrill Lynch announced that it will form a strategic business relationship with AEGON in the areas of insurance and
investment products. As part of this relationship, Merrill Lynch had agreed to sell MLIG to AEGON for $1.3 billion. Merrill Lynch will
continue to serve the insurance needs of its clients through its core distribution and advisory capabilities. The sale of MLIG was
completed in the fourth quarterof 2007 and resulted in an after-tax gain of $316 million. The gain along with the financial results of MLIG,
have been reported within discontinued operations for all periods presented and the assets and liabilities were not considered material
for separate presentation. Merrill Lynch previously reported the results of MLIG in the GWM business segment.
On December 24, 2007 Merrill Lynch announced that it had reached an agreement with GE Capital to sell Merrill Lynch Capital, a wholly-
owned middle-market commercial finance business. The sale includes substantially all off Merrill Lynch Capital’s operations, including
its commercial real estate division. This transaction closed on February 4, 2008. Merrill Lynch has included results of Merrill Lynch
Capital within discontinued operations for all periods presented and the assets and liabilities were not considered material for separate
presentation. Merrill Lynch previously reported results of Merrill Lynch Capital in the GMI business segment.
Certain financial information included in discontinued operations on Merrill Lynch’s Consolidated Statements of (Loss)/Earnings is
shown below:
(DOLLARS IN MILLIONS) 2007 2006 2005
The following assets and liabilities related to discontinued operations are recorded on Merrill Lynch’s Consolidated Balance Sheets as of
December 28, 2007 and December 29, 2006:
(DOLLARS IN MILLIONS) 2007 2006
Assets:
Separate accounts assets $ – $ 12,312
Loans, notes and mortgages 12,995 11,327
Other assets 332 3,709
Total Assets $ 13,327 $ 27,348
Liabilities:
Separate accounts liabilities $ – $ 12,312
Other payables 489 3,268
Total Liabilities $ 489 $ 15,580
Davis purchased 25 million shares of Merrill Lynch common stock on December 27, 2007 at a price per share of $48.00, or an aggregate
purchase price of $1.2 billion. Temasek purchased 55 million shares on December 28, 2007 and the remaining 36.7 million shares on
January 11, 2008. In addition, Merrill Lynch granted Temasek an option to purchase an additional 12.5 million shares of common stock
undercertain circumstances. This option was exercised, with 2.8 million shares issued on February 1, 2008 and 9.7 million shares issued
on February 5, 2008, in each case at a purchase price of $48.00 per share for an aggregate purchase price of $600 million.
A summary presentation of this cash flow restatement for the years ended December 29, 2006 and December 30, 2005 is pre-
sented below.
AS PREVIOUSLY
(DOLLARS IN MILLIONS) PRESENTED ADJUSTMENT AS RESTATED
page 155
Supplemental Financial Information (Unaudited)
Quarterly Information
The unaudited quarterly results of operations of Merrill Lynch for 2007 and 2006 are prepared in conformity with U.S. generally accepted
accounting principles, which include industry practices, and reflect all adjustments that are, in the opinion of management, necessary
for a fair presentation of the results of operations for the periods presented. Results of any interim period are not necessarily indicative of
results for a full year.
FOR THE QUARTER ENDED
DEC. 28, SEPT. 28, JUNE 29, MAR. 30, DEC. 29, SEPT. 29, JUNE 30, MAR. 31,
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS) 2007 2007 2007 2007 2006 2006 (1) 2006 2006 (2)
With the exception of regulatory restrictions on subsidiaries’ abilities to pay dividends, there are no restrictions on ML & Co.’s present
ability to pay dividends on common stock, other than ML & Co.’s obligation to make payments on its preferred stock, mandatory
convertible preferred stock, trust preferred securities, and the governing provisions of Delaware General Corporation Law. Certain
subsidiaries’ ability to declare dividends may also be limited. See Note 15 to the Consolidated Financial Statements.
page 157
Stockholder Information
Consolidated Transaction Reporting System prices for ML & Co. common stock for the specified calendar quarters are noted below.
1ST QUARTER 2ND QUARTER 3RD QUARTER 4TH QUARTER
(AT CALENDAR PERIOD-END) HIGH LOW HIGH LOW HIGH LOW HIGH LOW
The approximate numberof holders of record of ML & Co. common stock as of February 15, 2008 was 20,796. As of February 15, 2008, the
closing price of ML & Co. common stock as reported on the New York Stock Exchange was $51.64.
300
Indexed Returns to
250
Shareholders
200
Merrill Lynch & Co., Inc.
150 S&P 500 Index
S&P 500 Financials Index
100(1)
Peer Group
50
Merrill Lynch & Co., Inc. 100.00 152.54 160.17 183.83 256.03 148.25
S&P 500 Index 100.00 127.47 143.41 150.45 174.21 183.78
S&P 500 Financials Index 100.00 129.63 146.00 155.45 185.28 150.77
Peer Group 100.00 143.94 152.57 165.97 213.55 161.39
• These regulatory agencies in the United States include, among others, the SEC, the CFTC, the Federal Energy Regulatory
Commission (“FERC”), the FDIC, the Municipal Securities Rulemaking Board (“MSRB”), the UTDFI and the OTS.
• Outside the United States, these regulators include the FSA in the United Kingdom; the Irish Financial Regulator; the Federal
Financial Supervisory Authority in Germany; the Commission Bancaire, the Comite des Establissements de Credit et des Enterprises
d’Investissement and the Autorite des marches financiers in France; the Swiss Federal Banking Commission; the Johannesburg
Securities Exchange; the Japanese Securities and Exchange Surveillance Commission; the Monetary Authority of Singapore; the
Office of the Superintendent of Financial Institutions in Canada; the National Securities Commission in Argentina; the Securities and
Exchange Commission in Brazil; the National Securities and Banking Commission in Mexico; the Securities and Exchange Board of
India; and the Securities and Futures Commission in Hong Kong, among many others.
Additional legislation and regulations, and changes in rules promulgated by the SEC or other U.S. federal and state government
regulatory authorities and self-regulatory organizations and by non-U.S. government regulatory agencies may directly affect the
manner of our operation and profitability. Certain of our operations are subject to compliance with privacy regulations enacted by the
U.S. federal and state governments, the EU, other jurisdictions and/or enacted by the various self-regulatory organizations or
exchanges. New laws or regulations or changes to existing laws either in the U.S. or in other jurisdictions where we conduct business
could adversely affect us. As we expand into new regions we are subject to different regulatory regimes which impose additional
complexities, compliance requirements and costs.
ML & Co. and certain U.S. and non-U.S. regulated subsidiaries are subject to regulatory capital requirements. Many of the principal
regulators for these legal entities either have revised or are in the process of revising their capital requirements to be consistent with the
Basel II capital standards issued by the Basel Committee on Banking Supervision. ML & Co. has adopted the Basel II capital standards
and as of January 1, 2008, MLI, MLIB and ourother regulated European subsidiaries also implemented the Basel II capital standards. We
continue to address implementation of these revised regulatory capital requirements forother relevant subsidiaries, as required. We are
investing in enhancements to our measurement and reporting systems to support effective implementation across the firm.
Broker-Dealer Regulation
MLPF&S, Merrill Lynch Professional Clearing Corp. (“ML Pro”) and certain other subsidiaries of ML & Co. are registered as broker-
dealers with the SEC and, as such, are subject to regulation by the SEC and by self-regulatory organizations, such as the Financial
Industry Regulatory Authority (“FINRA”). Certain Merrill Lynch subsidiaries and affiliates, including MLPF&S, are registered as
investment advisers with the SEC.
The Merrill Lynch entities that are broker-dealers registered with the SEC are subject to Rule 15c3-1 under the Securities Exchange Act
of 1934 (“Exchange Act”) which is designed to measure the general financial condition and liquidity of a broker-dealer. Under this rule,
these entities are required to maintain the minimum net capital deemed necessary to meet broker-dealers’ continuing commitments to
customers and others. Undercertain circumstances, this rule limits the ability of such broker-dealers to allow withdrawal of such capital
by ML & Co. or other Merrill Lynch subsidiaries. Additional information regarding certain net capital requirements is set forth in Note 15
to the Consolidated Financial Statements.
Sarbanes-Oxley and Related Rules
Aspects of our public disclosure, corporate governance principles and the roles of auditors and counsel are subject to the Sarbanes-
Oxley Act of 2002 (“Sarbanes-Oxley”) and certain related regulations and rules proposed and/or adopted by the SEC, the NYSE and other
self-regulatory organizations. Sarbanes-Oxley requirements include requiring our Chief Executive Officer and Chief Financial Officer to
certify that our financial information is fairly presented and fully complies with disclosure requirements. Additionally, they must evaluate
page 159
the effectiveness of disclosure controls and procedures and disclose the results of their evaluation. Additional areas of focus as a result
of Sarbanes-Oxley include: disclosures of off balance sheet arrangements and contractual obligations; management’s assessment of
internal controls and procedures for financial reporting; the adoption of a code of ethics for the Chief Executive Officer and senior
financial and accounting officers; and disclosure of whether the Audit Committee of the Board of Directors includes an Audit Committee
financial expert. Related FINRA and other self-regulatory organization rules require that our Chief Executive Officer certify compliance
with applicable corporate governance standards. These rules also require listed companies to, among other items, adopt corporate
governance guidelines and a code of business conduct, tighten applicable criteria fordetermining director and audit committee member
independence, and increase the authority and responsibilities of the Audit Committee.
Research Related Regulation
Over the previous several years, the research function at integrated broker-dealers has been the subject of substantial regulatory and
media attention. As a result of regulatory and legal mandates as well as firm initiatives, we enacted a number of new policies to enhance
the quality of our research product including: modifying the compensation system for research analysts; forming a Research
Recommendations Committee to review equity analysts’ investment recommendations; adopting a new simplified securities rating
system; implementing new policies and procedures to comply with all legal requirements, including those limiting communications
between equity research analysts and investment banking and other origination personnel; and adding additional disclosures on
research reports regarding potential conflicts of interest. We also appointed an independent consultant who identified independent
third-party research providers to provide fundamental research on certain companies that we cover. This research has been made
available to our clients in the United States beginning in July 2004 in accordance with legal requirements. Under the terms of the global
research settlement, in 2005 we appointed an independent monitor who reported on our compliance with the terms of the settlement.
Upon the fifth anniversary of the global settlement, October 31, 2008, the settling firms, including Merrill Lynch, are required to certify
their compliance with the terms of the global settlement and are permitted to request relief from its terms.
The compensation system for research analysts includes an evaluation of the performance of analysts’ recommendations, including the
extent to which the analyst’s insights and recommendations have benefited investors. The compensation of all analysts responsible for
the substance of an equity research report is required to be reviewed and approved by a committee reporting to the Board of Directors of
MLPF&S. The Management Development and Compensation Committee of the ML & Co. Board of Directors, a Committee consisting
entirely of independent directors, is also required to review this compensation process for consistency with certain legal requirements.
The Audit Committee of the ML & Co. Board of Directors is required to review the budget and expense allocation process for research for
consistency with the terms of the global research settlement. Our Investment Banking Group has no input into research analyst
compensation or the research budget.
FINRA continues to consider and propose changes to regulations relating to equity research and amendments to their rules are expected
to be adopted in 2008. Research activities also remain a focus of securities regulators’ rulemaking outside the U.S.
Merrill Lynch Commodities, Inc. (“MLCI”) is subject to regulation by the FERC, CFTC and other agencies with respect to certain aspects of
its activities. MLCI is also a member of the New York Mercantile Exchange and is subject to its rules.
MLGSI is subject to regulation by FINRA and, as a member of the Chicago Board of Trade, is subject to the rules of that exchange. It is
required to maintain minimum net capital pursuant to rules of the U.S. Department of the Treasury. Merrill Lynch’s municipal finance
professionals are subject to various trading and underwriting regulations of the MSRB.
MLBT-FSB, a federal savings bank, including its First Republic division, is subject to regulation by the OTS and the FDIC. Merrill Lynch
Credit Corporation and First Franklin are both subsidiaries of MLBT-FSB and their activities are regulated and subject to examination by
the OTS. As a result of its ownership of MLBT-FSB, ML & Co. is registered with the OTS as a SLHC and subject to regulation and
examination by the OTS as a SLHC.
MLBUSA is regulated primarily by the UTDFI and the FDIC. Merrill Lynch Commercial Finance Corp. (“MLCFC”) is a wholly-owned
subsidiary of MLBUSA, and its activities are regulated and subject to examination by the FDIC and the UTDFI. In addition to the UTDFI and
the FDIC, MLCFC is licensed or registered in several states, subjecting it to regulation and examination by the appropriate authorities in
those jurisdictions.
MLML is licensed or registered to conduct its commercial mortgage conduit business and its residential mortgage trading business in
multiple jurisdictions.
Merrill Lynch Financial Markets, Inc. (“MLFM”) is registered with, and received approval in January 2005 from, the SEC to act as an
OTC Derivatives Dealer. A special set of SEC rules apply to OTC Derivatives Dealers. MLFM is in an initial stage of operations.
On November 1, 2007, countries in the European Union implemented the Markets in Financial Instruments Directive (“MiFID”) marking a
significant change in the regulation of the European investment industry. The main objective of MiFID is to enhance the development of a
pan-European market in investment services through the establishment of a single set of European regulatory rules. Among its impacts
are changes in the way trades can be executed, the level of protection afforded to investors, the integration of commodity related financial
instruments into financial regulation and pre and post trade transparency in equity markets. These changes affect Merrill Lynch’s
European regulated entities and the clients and counterparties with which they trade. Under MiFID Merrill Lynch, through its European
regulated entities, undertook a global communication exercise to affected clients providing information on the impact of MiFID and
completed infrastructure enhancements to ensure affected Merrill Lynch entities are MiFID compliant.
MLI is regulated and supervised in the United Kingdom by the FSA and by local regulators in certain other jurisdictions with respect to its
branch offices. MLIB is authorized and regulated by the Irish Financial Regulator and by local regulators in certain other jurisdictions
with respect to its branch offices and subsidiaries. Merrill Lynch’s activities in Australia are regulated by the Australian Securities and
Investments Commission or the Australian Prudential Regulatory Authority, and its Hong Kong and Singapore operations are regulated
and supervised by the Hong Kong Securities and Futures Commission and the Monetary Authority of Singapore, respectively. Merrill
Lynch’s Japanese business is subject to the regulation of the JFSA as well as other Japanese regulatory authorities.
Merrill Lynch Bank (Suisse) S.A. is regulated by the Swiss Federal Banking Commission. Merrill Lynch Bank and Trust Company
(Cayman) Limited is regulated by the Cayman Islands Monetary Authority and its U.S. representative office by the Federal Reserve and
the Florida Financial Services Commission Office of Financial Regulation.
Merrill Lynch Commodities (Europe) Ltd. (“MLCE”) is a memberof the International Petroleum Exchange, Nordpool and otherexchanges
and is subject to their rules and is regulated by the FSA.
Merrill Lynch’s activities in Canada, Mexico, Brazil and Argentina are regulated by their respective securities commissions and
exchanges as well as other regulatory authorities.
page 161
Legal Proceedings
ML & Co., certain of its subsidiaries, including MLPF&S, and other persons have been named as parties in various legal actions and
arbitration proceedings arising in connection with the operation of ML & Co.’s businesses. In most cases, plaintiffs seek unspecified
damages and other relief. These actions include the following:
Enron Litigation
Newby v. Enron Corp. et al.: On April 8, 2002, Merrill Lynch was added as a defendant in a consolidated class action filed in the United
States District Court for the Southern District of Texas on behalf of the purchasers of Enron’s publicly traded equity and debt securities
during the period October 19, 1998 through November 27, 2001. The complaint alleges, among other things, that Merrill Lynch engaged
in improper transactions in the fourth quarter of 1999 that helped Enron misrepresent its earnings and revenues in the fourth quarter of
1999. The district court denied Merrill Lynch’s motions to dismiss, and certified a class action by Enron shareholders and bondholders
against Merrill Lynch and other defendants. On March 19, 2007, the Fifth Circuit Court of Appeals reversed the district court’s decision
certifying the case as a class action. On January 22, 2008, the Supreme Court denied plaintiffs’ petition to review the Fifth Circuit’s
decision. Merrill Lynch intends to move for summary judgment dismissing the action. Plaintiffs have stated they will oppose that motion.
Mortgage-Related Litigation
Merrill Lynch & Co. Shareholder Litigation: Beginning on October 30, 2007, purported class actions were filed in the United States District
Court for the Southern District of New York against Merrill Lynch and certain present or formerofficers and directors on behalf of persons
who acquired Merrill Lynch securities beginning as early as November 3, 2006 and ending as late as November 7, 2007. Among other
things, the complaints allege violations of the federal securities laws based on alleged false and misleading statements related to Merrill
Lynch’s exposure to collateralized debt obligations and the sub-prime lending markets. One such action is brought on behalf of persons
who exchanged the securities of First Republic Bank for the securities of Merrill Lynch in a merger that occurred on September 21, 2007.
Merrill Lynch intends to vigorously defend itself in these actions.
Shareholder Derivative Actions: Beginning on November 1, 2007, purported shareholder derivative actions were brought in federal and
state courts against certain present or former officers and directors of Merrill Lynch in which the Company is named as a nominal
defendant. The actions allege, among other things, breach of fiduciary duty, corporate waste, and abuse of control related to Merrill
Lynch’s exposure to collateralized debt obligations and the sub-prime lending markets. They also challenge the payment of alleged
severance to Merrill Lynch’s former chief executive officer and certain of the actions assert claims for contribution or indemnification on
the Company’s behalf. In addition, the Company has received letters from law firms, on behalf of purported shareholders, demanding
that the Board bring claims on behalf of Merrill Lynch against certain present and former directors and officers of Merrill Lynch based on
allegations substantially similar to those that are alleged in the shareholder derivative actions described above. The Board, with the
assistance of counsel, will review the claims made in the demand letters and determine whether the maintenance of the proposed
derivative suits is in the best interests of the Company.
page 163
Private Equity Litigation
Davidson, et al., v. Bain Capital Partners, LLC, et al.: On December 28, 2007, a purported class action was brought against sixteen
defendants, including Merrill Lynch, in the United States District Court for the District of Massachusetts. The complaint alleges that
defendants conspired to limit competition in bidding for private-equity sponsored acquisitions of public companies in violation of the
antitrust laws. Merrill Lynch intends to vigorously defend itself in this action.
Employment Litigation
McReynolds v. Merrill Lynch: On November 18, 2005, a purported class action was filed in the United States District Court for the Northern
District of Illinois seeking to certify a class of current and former African American Merrill Lynch employees, as well as African
Americans who applied for employment. Plaintiff alleges that the firm has engaged in a pattern and practice of discrimination against
African Americans in violation of federal Civil Rights statutes. Merrill Lynch is vigorously contesting these claims.
Other
Merrill Lynch has been named as a defendant in various other legal actions, including arbitrations, class actions, and other litigation
arising in connection with its activities as a global diversified financial services institution. Some of the legal actions include claims for
substantial compensatory and/or punitive damages or claims for indeterminate amounts of damages. In some cases, the issuers that
would otherwise be the primary defendants in such cases are bankrupt or otherwise in financial distress. Merrill Lynch is also involved in
investigations and/or proceedings by governmental and self-regulatory agencies.
Merrill Lynch believes it has strong defenses to, and where appropriate, willvigorously contest, many of these matters. Given the number
of these matters, some are likely to result in adverse judgments, penalties, injunctions, fines, or other relief. Merrill Lynch may explore
potential settlements before a case is taken through trial because of the uncertainty, risks, and costs inherent in the litigation process. In
accordance with SFAS No. 5, Merrill Lynch will accrue a liability when it is probable that a liability has been incurred and the amount of the
loss can be reasonably estimated. In many lawsuits, arbitrations, and investigations, including the class action lawsuits disclosed in ML &
Co.’s public filings, it is not possible to determine whether a liability has been incurred or to estimate the ultimate or minimum amount of
that liability until the matter is close to resolution, in which case no accrual is made until that time. In view of the inherent difficulty of
predicting the outcome of such matters, particularly in cases in which claimants seek substantial or indeterminate damages, Merrill
Lynch cannot predict what the eventual loss or range of loss related to such matters will be. Subject to the foregoing, Merrill Lynch
continues to assess these matters and believes, based on information available to it, that the resolution of these matters will not have a
material adverse effect on the financial condition of Merrill Lynch as set forth in the Consolidated Financial Statements, but may be
material to Merrill Lynch’s operating results or cash flows for any particular period and may impact ML & Co.’s credit ratings.
Properties
We have offices in various locations throughout the world. Other than those described below as being owned, substantially all of our
offices are located in leased premises. We believe that the facilities we own or occupy are adequate for the purposes for which they are
currently used and that they are well maintained. Set forth below is the location and the approximate square footage of our principal
facilities. Each of these principal facilities supports our GMI and GWM businesses. Information regarding our property lease
commitments is set forth in “Leases” in Note 11 to the Consolidated Financial Statements.
We own a 760,000 square foot building at 222 Broadway, New York and occupy 92% of this building. We also lease and occupy, pursuant to
an operating lease with an unaffiliated lessor, 1,251,000 square feet of office space and 273,000 square feet of ancillary buildings in
Hopewell, New Jersey. One of our subsidiaries is the lessee under such operating lease and owns the underlying land upon which the
Hopewell facilities are located. We also own a 54-acre campus in Jacksonville, Florida, with four buildings.
• the Long-Term Incentive Compensation Plan for executive officers (for stock grants made to executive officers)
(“LTICP-Executive”);
• the Equity Capital Accumulation Plan (for restricted share grants made to a broad group of employees) (“ECAP”);
• the Merrill Lynch & Co., Inc. 1986 Employee Stock Purchase Plan (“Employee Stock Purchase Plan”);
• the Merrill Lynch & Co., Inc. Employee Stock Compensation Plan (for stock grants made to key managers and producers)
(“ESCP”); and
• the Merrill Lynch & Co., Inc. Deferred Stock Unit Plan for Non-Employee Directors (for deferred stock unit grants to non-
employee directors) (“New Director Plan”).
Plans Not Approved by Shareholders
We have also adopted the following stock compensation plans that are used to compensate non-executive employees:
• the Financial Advisor Capital Accumulation Award Plan (stock-based compensation to the financial advisor population)
(“FACAAP”); and
• the Long-Term Incentive Compensation Plan for Managers and Producers (for stock grants made to key managers and
producers) (“LTICP-M&P”).
We previously provided for the issuance of deferred stock units and non-qualified stock options to the ML & Co. non-employee directors
as compensation for their director services under the Merrill Lynch & Co., Inc. Deferred Stock Unit and Stock Option Plan for Non-
Employee Directors (“Old Director Plan”). The New Director Plan described above was approved by stockholders in 2005 and has
replaced the Old Director Plan.
The numbers in the table are as of December 28, 2007, the last day of our 2007 fiscal year.
SECURITIES ISSUABLE WEIGHTED-AVERAGE SECURITIES THAT
UPON EXERCISE OF EXERCISE PRICE OF REMAIN AVAILABLE
OUTSTANDING OPTIONS, OUTSTANDING OPTIONS, FOR ISSUANCE
EQUITY COMPENSATION PLAN CATEGORY WARRANTS, AND RIGHTS (1) WARRANTS, AND RIGHTS UNDER PLANS
page 165
Unregistered Sales of Equity Securities, Use of Proceeds and
Issuer Purchases of Equity Securities
On January 15, 2008, we reached separate agreements with several long-term investors to sell an aggregate of 66,000 shares of newly
issued 9.00% Non-Voting Mandatory Convertible Non-Cumulative Preferred Stock, Series 1, par value $1.00 per share and liquidation
preference $100,000 per share (the “Mandatory Convertible Preferred Stock”), at a price of $100,000 per share, for an aggregate
purchase price of approximately $6.6 billion. Key terms of the investments are described in Exhibit 99.1 to our Current Report on
Form 8-K, dated January 16, 2008.
On December 24, 2007, we reached agreements with each of Temasek Capital (Private) Limited (“Temasek”) and Davis Selected Advisors
LP (“Davis”) to sell an aggregate of 116,666,666 shares of newly issued common stock, par value $1.331⁄3 per share, at $48.00 per share,
for an aggregate purchase price of approximately $5.6 billion. Temasek initially purchased 91,666,666 shares of our common stock (the
“Original Shares”) at a price of $48.00 per share, or an aggregate purchase price $4.4 billion. Temasek purchased 55,000,000 of the
Original shares in December 2007 and the remaining 36,666,666 in January 2008. In addition in February 2008, Temasek and its assignees
exercised options to purchase an additional 12,500,000 shares of our common stock at a purchase price of $48.00 per share for an
aggregate purchase price of $600 million. Temasek is subject to customary standstill provisions, including a prohibition on acquisitions
of additional voting securities that would cause Temasek to own 10% or more of our common stock, that will expire on the earlier of
(x) 2 years or (y) such time as Temasek owns less than 5% of our outstanding common stock. Certain terms of Temasek’s investment are
described in Exhibit 99.2 to our Current Report on Form 8-K, dated December 28, 2007.
Davis purchased 25,000,000 shares of Merrill Lynch common stock in December 2007 at a price per share of $48.00, or an aggregate
purchase price of $1.2 billion. There are no other material terms associated with the Davis investment.
The shares in the transactions described above were issued inseparate private placements to accredited investors pursuant to Section 4(2)
of the Securities Act of 1933, with each purchaser receiving customary registration rights for their respective shares. All the above-
mentioned investors are passive investors in Merrill Lynch and none of the investors have any rights of control or role in our governance.
Refer to Management’s Discussion and Analysis of Financial Condition and Results of Operations — Capital and Funding — Equity
Capital for details on purchases made by or on behalf of us or any “affiliated purchaser” of our common stock for the year ended
December 28, 2007.
John A. Thain (52) Chairman of the Board and Chief Executive Officer since December 2007; Chief Executive Officer of NYSE Euronext,
Inc. and its predecessor companies, NYSE Group, Inc. and New York Stock Exchange Inc., from January 2004 until November 2007;
President and Chief Operating Officer of The Goldman Sachs Group, Inc. from July 2003 to January 2004; President and Co-Chief
Operating Officer of The Goldman Sachs Group, Inc. from May 1999 to June 2003.
Rosemary T. Berkery (54) Vice Chairman since July 2007; Executive Vice President since October 2001; General Counsel since
September 2001; Senior Vice President and Head of U.S. Private Client (now a part of Global Private Client) Marketing and Investments
from June 2000 to September 2001; Co-Director of Global Securities Research & Economics Group from April 1997 to June 2000.
Nelson Chai (42) Executive Vice President and Chief Financial Officer since December 2007; Executive Vice President and Chief
Financial Officer of NYSE Euronext and its predecessor company NYSE Group, Inc., from January 2006 to December 2007; Chief Financial
Officer of Archipelago Holdings from June 2000 to December 2005.
Gregory J. Fleming (45) President and Chief Operating Officer since May 2007; Executive Vice President from October 2003 to May 2007;
President of GMI from August 2003 to May 2007; Chief Operating Officer of the Global Investment Banking Group of GMI from January
2003 to August 2003; Co-Head of the Global Financial Institutions Group of GMI from April 2001 to August 2003; Head of the United States
Financial Institutions Group of GMI from June 1999 to April 2001; Managing Director of the Global Investment Banking Group of GMI from
February 1999 to October 2003.
Robert J. McCann (49) Executive Vice President since August 2003; Vice Chairman and President of Global Private Client (now Global
Wealth Management) since June 2005; Vice Chairman, Wealth Management Group from August 2003 to June 2005; Vice Chairman and
Director of Distribution and Marketing for AXA Financial Inc. from March 2003 to August 2003; Head of the Global Securities Research &
Economics Group of Merrill Lynch from October 2001 to March 2003; Chief Operating Officer of GMI from September 2000 to October
2001; Head of the Global Institutional Client Division of GMI from August 1998 to September 2000.
page 167
Corporate Information
Wells Fargo Bank, N.A. • A Board of Directors composed of eleven directors — ten of whom
Shareowner Services are independent — and Board Committees composed solely of
161 North Concord Exchange independent directors;
South St. Paul, MN 55075 • A majority vote standard in the uncontested election of directors;
1-888-460-7641
www.wellsfargo.com/shareownerservices • Corporate Governance Guidelines that set forth specific criteria for
director qualifications, Board and Board Committee composition,
Preferred Stock director responsibilities, orientation and education requirements
and annual Board self-evaluation;
Exchange Listing
Depositary Shares representing 1⁄1200 of a share of Floating Rate • Director Independence Standards adopted by the Board of Directors
Non-Cumulative Preferred Stock, Series 1, Depositary Shares to form the basis of director independence determinations required
representing 1⁄1200 of a share of Floating Rate Non-Cumulative by NYSE rules;
Preferred Stock, Series 2, Depositary Shares representing 1⁄1200 of • Charters for each of our Board Committees reflecting current best
a share of 6.375% Non-Cumulative Preferred Stock, Series 3, corporate governance practices;
Depositary Shares representing 1⁄1200 of a share of Floating Rate • A Related Party Transactions Policy governing the approval of
Non-Cumulative Preferred Stock, Series 4, Depositary Shares related party transactions;
representing 1⁄1200 of a share of Floating Rate Non-Cumulative
Preferred Stock, Series 5, Depositary Shares representing 1⁄40 of a • Guidelines for Business Conduct adopted by the Board of
share of 6.75% non-cumulative perpetual preferred stock, Series 6, Directors as our code of ethics for our directors, officers and
and Depositary Shares representing 1⁄40 of a share of 6.25% non- employees and supplemented by our Code of Ethics for Financial
cumulative perpetual preferred stock, Series 7 are listed on the New Professionals; and
York Stock Exchange. • Designation of two Audit Committee members as audit committee
financial experts in accordance with SEC regulations.
Transfer Agent and Depositary Registrar
The Bank of New York Mellon Our Corporate Governance Guidelines, Director Independence
101 Barclay Street Standards, charters for our Board Committees, Guidelines for
New York, NY 10286 Business Conduct, Related Party Transactions Policy and Code of
Attn: Corporate Trust Administration Ethics for Financial Professionals are available on our Investor
Relations website at www.ir.ml.com. Shareholders may obtain
Form 10-K Annual Report for 2007 For copies of our 2007 Annual copies of these materials, free of charge, upon written request to
Report on Form 10-K (including financial schedules but excluding Judith A. Witterschein, Corporate Secretary, Merrill Lynch & Co., Inc.,
other exhibits), visit our Investor Relations website at www.ir.ml.com 222 Broadway, 17th Floor, New York, NY 10038-2510.
or write to Judith A. Witterschein, Corporate Secretary, Merrill
Lynch & Co., Inc., 222 Broadway, 17th Floor, New York, NY 10038-2510. We have included as exhibits to our Annual Report on Form 10-K for
the 2007 fiscal year filed with the Securities and Exchange
Equal Employment Opportunity We are fully committed to Equal Commission certificates of our Chief Executive Officer and Chief
Employment Opportunity and to attracting, retaining, developing and Financial Officer certifying the quality of our public disclosure. We
promoting the most qualified employees regardless of race, national have submitted to the New York Stock Exchange a certificate of our
origin, religion, sexual orientation, gender, age, disability or veteran Chief Executive Officer certifying that he is not aware of any violation
status or any other characteristic prohibited by state or local law. For by Merrill Lynch of their corporate governance listing standards.
more information, write to Christina Roberts, Assistant Vice
President, Leadership & Talent Management, Merrill Lynch & Co.,
Inc., 222 Broadway, 12th Floor, New York, NY 10038-2510. www.ml.com
John A. Thain Chairman and chief executive officer; former chief Judith Mayhew Jonas Former member of the U.K. government’s
executive officer of NYSE Euronext, Inc. and its predecessor Equalities Review Panel; former provost of Kings College,
companies, NYSE Group, Inc. and New York Stock Exchange Inc., Cambridge; former special advisor to the chairman of Clifford
from 2004 until 2007; president from 1999 to 2004, chief operating Chance, Solicitors; former vice chair of the London Development
officer from 2003 to 2004 and co-chief operating officer from 1999 Agency; 59 years old; director of Merrill Lynch since 2006.
to 2003 of The Goldman Sachs Group, Inc.; 52 years old; director
Aulana L. Peters Retired partner in the law firm of Gibson, Dunn
of Merrill Lynch since 2007.
& Crutcher L.L.P.; member of the International Public Interest
Carol T. Christ President of Smith College; former executive vice Oversight Board; member of the U.S. Comptroller General’s
chancellor and provost, University of California, Berkeley; 63 Accountability Advisory Panel; former member of the Public
years old; director of Merrill Lynch since 2007. Oversight Board of AICPA; former commissioner of the U.S.
Securities and Exchange Commission; 66 years old; director of
Armando M. Codina President and chief executive officer
Merrill Lynch since 1994.
of Flagler Development Group, a real estate investment,
development, construction, brokerage and property management Joseph W. Prueher Consulting professor and senior advisor to
firm; 61 years old; director of Merrill Lynch since 2005. the Stanford University Center for International Security and
Cooperation; U.S. Ambassador to the People’s Republic of China
Virgis W. Colbert Retired executive vice president of Worldwide
from 1999 to 2001; U.S. Navy Admiral (Ret.), commander-in-chief
Operations for Miller Brewing Company; 68 years old; director of
of U.S. Pacific Command from 1996 to 1999; 65 years old; director
Merrill Lynch since 2006.
of Merrill Lynch since 2001.
Alberto Cribiore Managing partner and founder of Brera Capital
Ann N. Reese Co-founder and co-executive director of the
Partners, a global private equity investment firm; former
Center for Adoption Policy, a not-for-profit corporation; former
co-president of Clayton, Dubilier & Rice, Inc.; 62 years old;
principal, Clayton, Dubilier & Rice, a private equity investment
director of Merrill Lynch since 2003; lead independent director
firm; former executive vice president and chief financial officer
since 2007.
of ITT Corporation, a hotel and leisure company; 55 years old;
John D. Finnegan Chairman of the board, president and chief director of Merrill Lynch since 2004.
executive officer of The Chubb Corporation, a property and
Charles O. Rossotti Senior advisor to The Carlyle Group,
casualty insurance company; former executive vice president
a private global investment firm; former commissioner of
of General Motors Corporation, and chairman and president of
Internal Revenue at the Internal Revenue Service; former
General Motors Acceptance Corporation, a subsidiary of General
chairman of the board, president and chief executive officer of
Motors Corporation; 59 years old; director of Merrill Lynch since 2004.
American Management Systems, an international business and
information technology consulting firm; 67 years old; director of
Merrill Lynch since 2004.
Virgis W. Colbert
Armando M. Codina
Judith Mayhew Jonas
Alberto Cribiore
John A. Thain
John D. Finnegan
Carol T. Christ
Joseph W. Prueher
Ann N. Reese
Aulana L. Peters
Charles O. Rossotti
The papers, paper mills and printers used in the production of this Annual Report are all certified to Forest Stewardship Council (FSC) standards,
which promote environmentally appropriate, socially beneficial and economically viable management of the world’s forests. The cover and narrative
sections are printed with 100% green renewable energy.
10691-08