UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2003 Commission file number 1-9700
THE CHARLES SCHWAB CORPORATION
(Exact name of Registrant as specified in its charter)
Delaware 94-3025021
(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or organization)
120 Kearny Street, San Francisco, CA 94108
(Address of principal executive offices and zip code)
Registrant's telephone number, including area code: (415) 627-7000
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
--- ---
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
Yes X No
--- ---
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
1,356,592,538 shares of $.01 par value Common Stock
Outstanding on October 31, 2003
THE CHARLES SCHWAB CORPORATION
Quarterly Report on Form 10-Q
For the Quarter Ended September 30, 2003
Index
Page
----
Part I - Financial Information
Item 1. Condensed Consolidated Financial Statements:
Statement of Income 1
Balance Sheet 2
Statement of Cash Flows 3
Notes 4 - 11
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 12 - 29
Item 3. Quantitative and Qualitative Disclosures About Market Risk 29 - 31
Item 4. Controls and Procedures 32
Part II - Other Information
Item 1. Legal Proceedings 32
Item 2. Changes in Securities and Use of Proceeds 32
Item 3. Defaults Upon Senior Securities 32
Item 4. Submission of Matters to a Vote of Security Holders 32
Item 5. Other Information 32
Item 6. Exhibits and Reports on Form 8-K 32 - 33
Signature 34
Part I - FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements
THE CHARLES SCHWAB CORPORATION
Condensed Consolidated Statement of Income
(In millions, except per share amounts)
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
2003 2002 2003 2002
- ------------------------------------------------------------------------------------------------------------------------------------
Revenues
Asset management and administration fees $ 467 $ 431 $1,340 $1,316
Commissions 320 305 873 893
Interest revenue 236 287 719 899
Interest expense (55) (83) (183) (264)
------- ------- ------- -------
Net interest revenue 181 204 536 635
Principal transactions 45 47 121 147
Other 38 33 99 114
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Total 1,051 1,020 2,969 3,105
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Expenses Excluding Interest
Compensation and benefits 445 466 1,311 1,391
Other compensation - merger retention programs - - - 22
Occupancy and equipment 108 109 330 338
Depreciation and amortization 71 78 218 240
Communications 62 62 180 195
Advertising and market development 32 50 101 153
Professional services 45 41 126 134
Commissions, clearance and floor brokerage 21 19 54 53
Restructuring charges 37 159 61 188
Impairment charges - - 5 -
Other 33 37 107 95
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Total 854 1,021 2,493 2,809
- ------------------------------------------------------------------------------------------------------------------------------------
Income (loss) from continuing operations before taxes on income
and extraordinary gain 197 (1) 476 296
Taxes on income (73) - (152) (110)
- ------------------------------------------------------------------------------------------------------------------------------------
Income (loss) from continuing operations before extraordinary gain 124 (1) 324 186
Gain (loss) from discontinued operations, net of tax 3 (3) - (10)
Extraordinary gain on sale of corporate trust business, net of tax expense - - - 12
- ------------------------------------------------------------------------------------------------------------------------------------
Net Income (Loss) $ 127 $ (4) $ 324 $ 188
====================================================================================================================================
Weighted-Average Common Shares Outstanding - Diluted 1,366 1,358 1,361 1,382
====================================================================================================================================
Earnings Per Share - Basic
Income (loss) from continuing operations before extraordinary gain $ .09 - $ .24 $ .14
Gain (loss) from discontinued operations, net of tax - - - $ (.01)
Extraordinary gain, net of tax expense - - - $ .01
Net income (loss) $ .09 - $ .24 $ .14
Earnings Per Share - Diluted
Income (loss) from continuing operations before extraordinary gain $ .09 - $ .24 $ .14
Gain (loss) from discontinued operations, net of tax - - - $ (.01)
Extraordinary gain, net of tax expense - - - $ .01
Net income (loss) $ .09 - $ .24 $ .14
====================================================================================================================================
Dividends Declared Per Common Share $ .014 $ .011 $ .036 $ .033
====================================================================================================================================
All periods have been adjusted to summarize the impact of The Charles Schwab Corporation's sale of its United Kingdom brokerage
subsidiary, Charles Schwab Europe, in gain (loss) from discontinued operations.
See Notes to Condensed Consolidated Financial Statements.
- 1 -
THE CHARLES SCHWAB CORPORATION
Condensed Consolidated Balance Sheet
(In millions, except share and per share amounts)
(Unaudited)
September 30, December 31,
2003 2002
- ------------------------------------------------------------------------------------------------------------------------------------
Assets
Cash and cash equivalents $ 2,515 $ 3,114
Cash and investments segregated and on deposit for federal or other
regulatory purposes(1) (including resale agreements of $17,891 in 2003
and $16,111 in 2002) 22,419 21,005
Securities owned - at market value (including securities pledged of $374
in 2003 and $337 in 2002) 2,744 1,716
Receivables from brokers, dealers and clearing organizations 306 222
Receivables from brokerage clients - net 7,666 6,845
Loans to banking clients - net 5,616 4,555
Loans held for sale 75 -
Equipment, office facilities and property - net 976 868
Goodwill - net 605 603
Other assets 838 777
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Total $ 43,760 $ 39,705
====================================================================================================================================
Liabilities and Stockholders' Equity
Deposits from banking clients $ 6,508 $ 5,231
Drafts payable 149 134
Payables to brokers, dealers and clearing organizations 3,171 1,476
Payables to brokerage clients 26,124 26,401
Accrued expenses and other liabilities 1,318 1,302
Short-term borrowings 1,402 508
Long-term debt 776 642
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Total liabilities 39,448 35,694
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Stockholders' equity:
Preferred stock - 9,940,000 shares authorized; $.01 par value per share;
none issued - -
Common stock - 3 billion shares authorized; $.01 par value per share;
1,392,091,544 and 1,391,991,180 shares issued in 2003 and 2002, respectively 14 14
Additional paid-in capital 1,747 1,744
Retained earnings 3,007 2,769
Treasury stock - 36,841,293 and 47,195,631 shares in 2003 and 2002,
respectively, at cost (348) (465)
Unamortized stock-based compensation (96) (33)
Accumulated other comprehensive loss (12) (18)
- ------------------------------------------------------------------------------------------------------------------------------------
Total stockholders' equity 4,312 4,011
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Total $ 43,760 $ 39,705
====================================================================================================================================
(1) Amounts included represent actual balances on deposit, whereas cash and investments required to be segregated for federal or
other regulatory purposes were $21,845 million and $21,252 million at September 30, 2003 and December 31, 2002, respectively.
On October 2, 2003, the Company withdrew $170 million of excess segregated cash. On January 2, 2003, the Company deposited $655
million into its segregated reserve bank accounts.
See Notes to Condensed Consolidated Financial Statements.
- 2 -
THE CHARLES SCHWAB CORPORATION
Condensed Consolidated Statement of Cash Flows
(In millions)
(Unaudited)
Nine Months Ended
September 30,
2003 2002
- ------------------------------------------------------------------------------------------------------------------------------------
Cash Flows from Operating Activities
Net income $ 324 $ 188
Adjustments to reconcile net income to net cash used for operating activities:
Depreciation and amortization 218 240
Impairment charges 5 -
Tax benefit from, and amortization of, stock-based awards 19 22
Deferred income taxes 5 44
Non-cash restructuring charges 9 17
Extraordinary gain on sale of corporate trust business, net of tax expense - (12)
Other (11) (1)
Originations of loans held for sale (1,267) -
Proceeds from sales of loans held for sale 1,197 -
Net change in:
Cash and investments segregated and on deposit for federal or other
regulatory purposes (2,142) (1,531)
Securities owned (excluding securities available for sale) (118) 42
Receivables from brokers, dealers and clearing organizations (102) 245
Receivables from brokerage clients (825) 2,540
Other assets (66) (60)
Drafts payable 14 (177)
Payables to brokers, dealers and clearing organizations 1,719 269
Payables to brokerage clients 418 (2,134)
Accrued expenses and other liabilities (71) (69)
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Net cash used for operating activities (674) (377)
- ------------------------------------------------------------------------------------------------------------------------------------
Cash Flows from Investing Activities
Purchases of securities available for sale (1,725) (1,085)
Proceeds from sales of securities available for sale 369 578
Proceeds from maturities, calls and mandatory redemptions of securities
available for sale 537 275
Net increase in loans to banking clients (1,063) (483)
Proceeds from sale of banking client loans - 196
Purchase of equipment, office facilities and property - net (101) (114)
Cash payments for business combinations and investments, net of cash received (9) -
Proceeds from sales of subsidiaries 53 26
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Net cash used for investing activities (1,939) (607)
- ------------------------------------------------------------------------------------------------------------------------------------
Cash Flows from Financing Activities
Net change in deposits from banking clients 1,277 (748)
Net increase in short-term borrowings 894 182
Proceeds from long-term debt - 100
Repayment of long-term debt (100) (203)
Dividends paid (49) (45)
Purchase of treasury stock (32) (230)
Proceeds from stock options exercised 24 23
- ------------------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used for) financing activities 2,014 (921)
- ------------------------------------------------------------------------------------------------------------------------------------
Decrease in Cash and Cash Equivalents (599) (1,905)
Cash and Cash Equivalents at Beginning of Period 3,114 4,407
- ------------------------------------------------------------------------------------------------------------------------------------
Cash and Cash Equivalents at End of Period $ 2,515 $ 2,502
====================================================================================================================================
See Notes to Condensed Consolidated Financial Statements.
- 3 -
THE CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Amounts and Ratios)
(Unaudited)
1. Basis of Presentation
The Charles Schwab Corporation (CSC) is a financial holding company
engaged, through its subsidiaries, in securities brokerage, banking, and related
financial services. Charles Schwab & Co., Inc. (Schwab) is a securities
broker-dealer with 352 domestic branch offices in 48 states, as well as a branch
in the Commonwealth of Puerto Rico. U.S. Trust Corporation (USTC, and with its
subsidiaries collectively referred to as U.S. Trust) is a wealth management firm
that through its subsidiaries also provides fiduciary services and private
banking services with 34 offices in 13 states. Other subsidiaries include
Charles Schwab Investment Management, Inc., the investment advisor for Schwab's
proprietary mutual funds, Schwab Capital Markets L.P. (SCM), a market maker in
Nasdaq and other securities providing trade execution services primarily to
broker-dealers and institutional clients, CyberTrader, Inc. (CyberTrader), an
electronic trading technology and brokerage firm providing services to highly
active, online traders, and Charles Schwab Bank, N.A. (Schwab Bank), a retail
bank which commenced operations in the second quarter of 2003.
The accompanying unaudited condensed consolidated financial statements
include CSC and its majority-owned subsidiaries (collectively referred to as the
Company). These financial statements have been prepared pursuant to the rules
and regulations of the Securities and Exchange Commission and, in the opinion of
management, reflect all adjustments necessary to present fairly the financial
position, results of operations, and cash flows for the periods presented in
conformity with generally accepted accounting principles in the U.S. (GAAP). All
adjustments were of a normal recurring nature, except as discussed in Note "6 -
Discontinued Operations." Certain items in prior periods' financial statements
have been reclassified to conform to the 2003 presentation. All material
intercompany balances and transactions have been eliminated. These financial
statements should be read in conjunction with the consolidated financial
statements and notes thereto included in the Company's 2002 Annual Report to
Stockholders, which is filed as Exhibit 13.1 to the Company's Form 10-K for the
year ended December 31, 2002, and the Company's Quarterly Reports on Form 10-Q
for the periods ended March 31, 2003 and June 30, 2003. The Company's results
for any interim period are not necessarily indicative of results for a full year
or any other interim period.
2. New Accounting Standards
Financial Accounting Standards Board Interpretation (FIN) No. 45 -
Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others, was issued in November 2002. This
interpretation addresses the disclosures to be made by a guarantor in its
interim and annual financial statements about its obligations under certain
guarantees. FIN No. 45 also clarifies that a guarantor is required to recognize,
at the inception of a guarantee, a liability for the fair value of the
obligation undertaken in issuing the guarantee. In accordance with FIN No. 45,
the Company adopted the disclosure requirements on December 31, 2002 and the
recognition requirements on January 1, 2003. The adoption of FIN No. 45 did not
have a material impact on the Company's financial position, results of
operations, earnings per share (EPS), or cash flows.
FIN No. 46 - Consolidation of Variable Interest Entities, an Interpretation
of Accounting Research Bulletin No. 51 - Consolidated Financial Statements, was
issued in January 2003. This interpretation provides new criteria for
determining whether a company is required to consolidate (i.e., record the
assets and liabilities on the balance sheet) a variable interest entity. Upon
adoption of this interpretation in the first quarter of 2003, the Company
consolidated a special purpose trust (Trust) that was formed in 2000 to finance
the acquisition and renovation of an office building and land. The Trust,
through an agent, raised the $245 million needed to acquire and renovate the
building and land by issuing long-term debt ($235 million) and raising equity
capital ($10 million). Upon adoption, the Company recorded: the building and
land at a cost of $245 million, net of accumulated depreciation of $16 million;
long-term debt of $235 million; and a net reduction of accrued expenses and
other liabilities of $7 million. The cumulative effect of this accounting change
was immaterial.
The building is being depreciated on a straight-line basis over twenty
years. The long-term debt consists of a variable-rate note maturing in June
2005. The interest rate on the note was 1.55% at September 30, 2003, and ranged
from 1.54% to 1.66% during the quarter, and 1.54% to 1.82% for the first nine
months of 2003. The building and land have been pledged as collateral for the
long-term debt. At September 30, 2003, the carrying value of the building and
land was $221 million (net of accumulated depreciation of $24 million).
Additionally, the Company has guaranteed the debt of the Trust up to a maximum
of $202 million. The lender does not have recourse to any other assets of the
Company.
- 4 -
The annual impact of the adoption of FIN No. 46 on the Company's Condensed
Consolidated Statement of Income is to cease both amortizing the shortfall of
the residual value guarantee and recording rent expense on the lease and to
record both the depreciation on the building and the interest expense associated
with the debt. The adoption of FIN No. 46 did not have and is not expected to
have a material impact on the Company's results of operations, EPS, or cash
flows.
Statement of Financial Accounting Standards (SFAS) No. 149 - Amendment of
Statement 133 on Derivative Instruments and Hedging Activities was issued in
April 2003. This statement amends and clarifies financial accounting and
reporting for derivative instruments, including certain derivative instruments
embedded in other contracts and for hedging activities under SFAS No. 133 -
Accounting for Derivative Instruments and Hedging Activities. SFAS No. 149 also
amends certain other existing pronouncements. The Company adopted the provisions
of this statement on June 30, 2003. The adoption of this statement did not have
and is not expected to have a material impact on the Company's financial
position, results of operations, EPS, or cash flows.
SFAS No. 150 - Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity was issued in May 2003. This
statement establishes standards for how to classify and measure certain
financial instruments with characteristics of both liabilities and equity (e.g.,
redeemable preferred stock). The Company adopted the provisions of this
statement on July 1, 2003. The adoption of this statement did not have an impact
on the Company's financial position, results of operations, EPS, or cash flows.
3. Stock Incentive Plans
The Company's stock incentive plans provide for granting options to
employees, officers, and directors. Options are granted for the purchase of
shares of common stock at an exercise price not less than market value on the
date of grant, and expire within ten years from the date of grant. Options
generally vest over a four-year period from the date of grant.
A summary of option activity follows:
- --------------------------------------------------------------------------------
2003 2002
----------------- -------------------
Weighted- Weighted-
Number Average Number Average
of Exercise of Exercise
Options Price Options Price
- --------------------------------------------------------------------------------
Outstanding at
beginning of year 156 $15.38 153 $16.20
Granted:
Quarter ended March 31 -(1) $ 9.26 7 $13.15
Quarter ended June 30 2 $ 8.93 2 $12.12
Quarter ended September 30 -(1) $11.30 2 $ 9.68
- --------------------------------------------------------------------------------
Total granted 2 $ 9.09 11 $12.42
Exercised (4) $ 6.23 (4) $ 6.53
Canceled (12) $18.58 (8) $20.58
- --------------------------------------------------------------------------------
Outstanding
at September 30 142 $15.26 152 $15.92
================================================================================
Exercisable
at September 30 85 $14.27 73 $12.65
- --------------------------------------------------------------------------------
Available for future
grant at September 30 41 47
- --------------------------------------------------------------------------------
Weighted-average fair
value of options granted:
Quarter ended March 31 $ 4.34 $ 6.33
Quarter ended June 30 $ 3.96 $ 5.51
Quarter ended September 30 $ 5.06 $ 4.58
- --------------------------------------------------------------------------------
(1) Less than 500,000 options were granted during each of the first and third
quarters of 2003.
The fair value of each option granted is estimated as of the grant date
using the Black-Scholes option pricing model with the following assumptions:
- --------------------------------------------------------------------------------
Three Months Ended
March 31, June 30, September 30,
-------------- ------------- -------------
2003 2002 2003 2002 2003 2002
- --------------------------------------------------------------------------------
Expected dividend yield .30% .30% .30% .30% .30% .30%
Expected volatility 52% 50% 49% 50% 49% 50%
Risk-free interest rate 2.9% 4.1% 2.6% 4.4% 2.9% 3.5%
Expected life (in years) 5 5 5 5 5 5
- --------------------------------------------------------------------------------
The Company applies Accounting Principles Board Opinion No. 25 - Accounting
for Stock Issued to Employees, and related interpretations, for its stock-based
employee
- 5 -
compensation plans. Because the Company grants stock option awards at market
value, there is no compensation expense recorded, except for
restructuring-related expense for modifications of officers' stock options.
Had compensation expense for the Company's stock option awards been
determined based on the Black-Scholes fair value at the grant dates for awards
under those plans consistent with the fair value method of SFAS No. 123 -
Accounting for Stock-Based Compensation, the Company would have recorded
additional compensation expense and its net income and EPS would have been
reduced to the pro forma amounts presented in the following table:
- --------------------------------------------------------------------------------
Three Nine
Months Ended Months Ended
September 30, September 30,
2003 2002 2003 2002
- --------------------------------------------------------------------------------
Compensation expense for stock
options (after-tax):
As reported $ 6 $ - $ 6 $ 2
Pro forma (1) $ 31 $ 36 $ 89 $114
- --------------------------------------------------------------------------------
Net income (loss):
As reported $127 $ (4) $324 $188
Pro forma $102 $ (40) $241 $ 76
- --------------------------------------------------------------------------------
Basic EPS:
As reported $.09 $ - $.24 $.14
Pro forma $.08 $(.03) $.18 $.06
Diluted EPS:
As reported $.09 $ - $.24 $.14
Pro forma $.07 $(.03) $.18 $.06
- --------------------------------------------------------------------------------
(1) Includes pro forma compensation expense related to stock options granted in
both current and prior periods. Pro forma stock option compensation is
amortized on a straight-line basis over the vesting period beginning with
the month in which the option was granted.
4. Restructuring
In 2001, the Company initiated a restructuring plan to reduce operating
expenses due to economic uncertainties and difficult market conditions. This
restructuring plan was completed in 2002 and included a workforce reduction, a
reduction in operating facilities, and the removal of certain systems hardware,
software, and equipment from service. Included in these initiatives were costs
associated with the withdrawal from certain international operations.
In the third quarter of 2002, the Company commenced additional
restructuring initiatives due to continued difficult market conditions. These
initiatives were intended to reduce operating expenses and adjust the Company's
organizational structure to improve productivity, enhance efficiency, and
increase profitability. The restructuring initiatives were substantially
completed in 2002 and primarily included further reductions in the Company's
workforce and facilities.
In the third quarter of 2003, the Company commenced additional
restructuring initiatives to further adjust the Company's workforce and
facilities in response to the market environment and the 2002 restructuring
initiatives, which resulted in the centralization of several support functions.
The third quarter initiatives included mandatory staff reductions of 175
employees and the consolidation of certain facilities, including 20 Schwab
domestic branch offices. The Company recorded pre-tax restructuring charges of
$31 million in the third quarter of 2003 related to these restructuring
initiatives.
The Company recorded total pre-tax restructuring charges of $37 million and
$61 million in the third quarter of 2003 and first nine months of 2003,
respectively. These charges include the amounts noted above related to the 2003
restructuring initiatives, as well as charges primarily due to changes in
estimates of sublease income associated with previously announced efforts to
sublease excess facilities. The Company recorded total pre-tax restructuring
charges of $159 million and $188 million in the third quarter of 2002 and first
nine months of 2002, respectively, all of which related to its 2001 and 2002
restructuring initiatives. The actual costs of the Company's restructuring
initiatives could differ from the estimated costs, depending primarily on the
Company's ability to sublease properties.
- 6 -
A summary of the activity in the restructuring reserve related to the
Company's restructuring initiatives for the third quarter of 2003 and the nine
months ended September 30, 2003 is as follows:
- --------------------------------------------------------------------------------
Three months ended Workforce Facilities
September 30, 2003 Reduction Reduction Total
- --------------------------------------------------------------------------------
Balance at June 30, 2003 $ 27 $ 218 $ 245
Restructuring charges 21 16 37
Cash payments (12) (20) (32)
Non-cash charges (1) (8) (1) (9)
Other (2) - 2 2
- --------------------------------------------------------------------------------
Balance at September 30, 2003 $ 28 (3) $ 215 (4) $ 243
================================================================================
- --------------------------------------------------------------------------------
Nine months ended Workforce Facilities
September 30, 2003 Reduction Reduction Total
- --------------------------------------------------------------------------------
Balance at December 31, 2002 $ 68 $ 227 $ 295
Balance related to discontinued
operations - (3) (3)
Restructuring charges 21 40 61
Cash payments (53) (54) (107)
Non-cash charges (1) (8) (1) (9)
Other (2) - 6 6
- --------------------------------------------------------------------------------
Balance at September 30, 2003 $ 28 (3) $ 215 (4) $ 243
================================================================================
(1) Primarily includes charges for officers' stock option compensation and
write-downs of fixed assets.
(2) Primarily includes the accretion of facilities restructuring reserves,
which are initially recorded at net present value. Accretion expense is
recorded in occupancy and equipment expense on the Company's Condensed
Consolidated Statement of Income.
(3) Includes $4 million, $12 million, and $12 million related to the Company's
2001, 2002, and 2003 restructuring initiatives, respectively. The Company
expects to substantially utilize the remaining workforce reduction reserve
through cash payments for severance pay and benefits over the respective
severance periods through 2005.
(4) Includes $123 million, $85 million, and $7 million related to the Company's
2001, 2002, and 2003 restructuring initiatives, respectively. The Company
expects to substantially utilize the remaining facilities reduction reserve
through cash payments for the net lease expense over the respective lease
terms through 2017.
5. Sale of Corporate Trust Business
In June 2001, U.S. Trust sold its Corporate Trust business to The Bank of
New York Company, Inc. During the first quarter of 2002, the Company recorded an
extraordinary gain of $22 million, or $12 million after tax, which represented
the remaining proceeds from this sale that were realized upon satisfaction of
certain client retention requirements.
6. Discontinued Operations
On January 31, 2003, the Company sold its United Kingdom (U.K.) brokerage
subsidiary, Charles Schwab Europe (CSE), to Barclays PLC. The results of the
operations of CSE, net of income taxes, have been presented as discontinued
operations on the Condensed Consolidated Statement of Income. A summary of
revenues and pre-tax gains (losses) for CSE is as follows:
- --------------------------------------------------------------------------------
Three Nine
Months Ended Months Ended
September 30, September 30,
2003 2002 2003 2002
- --------------------------------------------------------------------------------
Revenues $ - $ 11 $ 4 $ 34
Pre-tax gains (losses) $ 5 $ (5) $ - $(16)
After-tax gains (losses) $ 3 $ (3) $ - $(10)
- --------------------------------------------------------------------------------
An after-tax loss of $2 million on the sale was recorded in the first
quarter of 2003 and included the estimated costs associated with certain CSE
obligations that were retained by the Company, principally related to facilities
leases and other contracts. In the third quarter of 2003, the Company recorded a
pre-tax gain of $5 million (after-tax gain of $3 million) primarily due to
changes in estimates of costs related to this sale.
7. Business Acquisition and Divestiture
In June 2003, the Company sold its investment in Aitken Campbell, a
market-making joint venture in the U.K., to the Company's joint venture partner,
TD Waterhouse Group, Inc. In the first quarter of 2003, the Company recorded an
impairment charge of $5 million pre tax to reduce the carrying value of its
investment and a deferred income tax benefit of $16 million that was realized
following the completion of the sale. The Company's share of Aitken Campbell's
historical earnings, which was accounted for under the equity method, has not
been material to the Company's results of operations, EPS, or cash flows.
In June 2003, the Company announced that U.S. Trust agreed to acquire State
Street Corporation's Private Asset Management group, a provider of wealth
management services to clients in the New England area, for $365 million to be
paid in cash, subject to certain possible adjustments. See note "16 - Subsequent
Event" for further discussion on this acquisition.
- 7 -
8. Loans to Banking Clients and Related Allowance for Credit Losses
An analysis of the composition of the loan portfolio is as follows:
- --------------------------------------------------------------------------------
September 30, December 31,
2003 2002
- --------------------------------------------------------------------------------
Residential real estate mortgages $ 4,514 $ 3,580
Consumer loans 681 630
Other 447 369
- --------------------------------------------------------------------------------
Total loans 5,642 4,579
Less: allowance for credit losses (26) (24)
Loans to banking clients - net $ 5,616 $ 4,555
================================================================================
Included in the loan portfolio are nonaccrual loans totaling $1 million at
both September 30, 2003 and December 31, 2002. Nonaccrual loans are considered
impaired by the Company, and represent all of the Company's nonperforming assets
at both September 30, 2003 and December 31, 2002. For each of the three- and
nine-month periods ended September 30, 2003 and 2002, the impact of interest
revenue which would have been earned on nonaccrual loans versus interest revenue
recognized on these loans was not material to the Company's results of
operations.
The amount of loans accruing interest that were contractually 90 days or
more past due was immaterial at both September 30, 2003 and December 31, 2002.
Recoveries and charge-offs related to the allowance for credit losses on
the loan portfolio were not material for each of the three- and nine-month
periods ended September 30, 2003 and 2002.
9. Deposits from Banking Clients
Deposits from banking clients consist of money market and other savings
deposits, noninterest-bearing deposits and certificates of deposit. Deposits
from banking clients are as follows:
- --------------------------------------------------------------------------------
September 30, December 31,
2003 2002
- --------------------------------------------------------------------------------
Interest-bearing deposits $ 5,951 $ 4,471
Noninterest-bearing deposits 557 760
- --------------------------------------------------------------------------------
Total $ 6,508 $ 5,231
================================================================================
The average rate paid by the Company on its interest-bearing deposits from
banking clients was 1.72% and 2.39% for the three-month periods ended
September 30, 2003 and 2002, respectively, and 1.90% and 2.37% for the
nine-month periods ended September 30, 2003 and 2002, respectively.
10. Comprehensive Income
Comprehensive income includes net income and changes in equity except those
resulting from investments by, or distributions to, stockholders. Comprehensive
income is presented in the following table:
- --------------------------------------------------------------------------------
Three Nine
Months Ended Months Ended
September 30, September 30,
2003 2002 2003 2002
- --------------------------------------------------------------------------------
Net income (loss) $127 $ (4) $324 $188
Other comprehensive income (loss):
Net gain (loss) on cash flow
hedging instruments 7 (8) 13 (10)
Foreign currency translation
adjustment - 2 5 8
Change in net unrealized gain
on securities available for sale (10) 10 (12) 17
- --------------------------------------------------------------------------------
Total comprehensive income,
net of tax $124 $ - $330 $203
================================================================================
- 8 -
11. Earnings Per Share
Basic EPS excludes dilution and is computed by dividing net income by the
weighted-average number of common shares outstanding for the period. Diluted EPS
reflects the potential reduction in EPS that could occur if securities or other
contracts to issue common stock were exercised or converted into common stock.
EPS under the basic and diluted computations are presented in the following
table:
- --------------------------------------------------------------------------------
Three Nine
Months Ended Months Ended
September 30, September 30,
2003 2002 2003 2002
- --------------------------------------------------------------------------------
Net income (loss) $ 127 $ (4) $ 324 $ 188
- --------------------------------------------------------------------------------
Weighted-average common
shares outstanding - basic 1,342 1,358 1,341 1,364
Common stock equivalent shares
related to stock incentive plans 24 - 20 18
- --------------------------------------------------------------------------------
Weighted-average common
shares outstanding - diluted 1,366 1,358 1,361 1,382
================================================================================
Basic EPS:
Income (loss) from continuing
operations before
extraordinary gain $ .09 $ - $ .24 $ .14
Gain (loss) from discontinued
operations, net of tax - - - $(.01)
Extraordinary gain, net of
tax expense - - - $ .01
Net income (loss) $ .09 $ - $ .24 $ .14
- --------------------------------------------------------------------------------
Diluted EPS:
Income (loss) from continuing
operations before
extraordinary gain (1) $ .09 $ - $ .24 $ .14
Gain (loss) from discontinued
operations, net of tax - - - $(.01)
Extraordinary gain, net of
tax expense - - - $ .01
Net income (loss) $ .09 $ - $ .24 $ .14
- --------------------------------------------------------------------------------
(1) For the three months ended September 30, 2002 this computation excludes
common stock equivalent shares related to stock incentive plans of
14 million because inclusion of such shares would be antidilutive.
The computation of diluted EPS excludes outstanding stock options to
purchase 88 million and 114 million shares for the three months ended
September 30, 2003 and 2002, respectively, and 111 million and 114 million
shares for the nine months ended September 30, 2003 and 2002, respectively,
because the exercise prices for those options were greater than the average
market price of the common shares, and therefore the effect would be
antidilutive.
12. Regulatory Requirements
CSC is a financial holding company, which is a type of bank holding company
subject to supervision and regulation by the Board of Governors of the Federal
Reserve System (the Federal Reserve Board) under the Bank Holding Company Act of
1956, as amended (the Act).
Under the Act, the Federal Reserve Board has established consolidated
capital requirements for bank holding companies. The regulatory capital and
ratios of the Company, U.S. Trust, United States Trust Company of New York
(U.S. Trust NY), and Schwab Bank are presented in the following table:
- --------------------------------------------------------------------------------
2003 2002
----------------- -----------------
September 30, Amount Ratio(1) Amount Ratio(1)
- --------------------------------------------------------------------------------
Tier 1 Capital:
Company $ 3,784 23.6% $ 3,574 23.5%
U.S. Trust $ 647 15.3% $ 618 17.5%
U.S. Trust NY $ 361 10.3% $ 381 13.4%
Schwab Bank(2) $ 276 60.0% - -
Total Capital:
Company $ 3,813 23.7% $ 3,601 23.7%
U.S. Trust $ 673 15.9% $ 641 18.2%
U.S. Trust NY $ 384 10.9% $ 401 14.1%
Schwab Bank(2) $ 276 60.0% - -
Tier 1 Leverage:
Company $ 3,784 9.0% $ 3,574 9.6%
U.S. Trust $ 647 8.8% $ 618 9.5%
U.S. Trust NY $ 361 5.9% $ 381 7.3%
Schwab Bank(2) $ 276 24.7% - -
- --------------------------------------------------------------------------------
(1) Minimum tier 1 capital, total capital, and tier 1 leverage ratios are 4%,
8%, and 3%-5%, respectively, for bank holding companies and banks.
Additionally, Schwab Bank is subject to a minimum tier 1 leverage ratio of
8% for its first three years of operations. Well-capitalized tier 1
capital, total capital, and tier 1 leverage ratios are 6%, 10%, and 5%,
respectively. Each of CSC's other depository institution subsidiaries
exceed the well-capitalized standards set forth by the banking regulatory
authorities.
(2) Schwab Bank commenced operations in the second quarter of 2003. Therefore,
Schwab Bank regulatory capital and ratios are not presented for 2002.
Based on their respective regulatory capital ratios at September 30, 2003
and 2002, the Company, U.S. Trust, and U.S. Trust NY are considered well
capitalized (the highest category). Additionally, based on its regulatory
capital ratios at September 30, 2003, Schwab Bank is also considered well
capitalized. There are no conditions or events that management believes have
changed the Company's, U.S. Trust's, U.S. Trust NY's or Schwab Bank's
well-capitalized status.
In the first quarter of 2003, the Company implemented a value-at-risk (VAR)
model to estimate the risks associated with its inventory portfolios. Since VAR
is considered to be a
- 9 -
comprehensive measurement tool for estimating market risk, the Federal Reserve
Board requires certain bank holding companies to incorporate VAR in determining
their Tier 1 Capital and Total Capital ratios. The implementation of VAR had the
effect of increasing both the Company's Tier 1 Capital and Total Capital ratios
by .9% at September 30, 2003.
Schwab and SCM are subject to the Uniform Net Capital Rule under the
Securities Exchange Act of 1934 (the Rule). Schwab and SCM compute net capital
under the alternative method permitted by this Rule. This method requires the
maintenance of minimum net capital, as defined, of the greater of 2% of
aggregate debit balances arising from client transactions or a minimum dollar
requirement, which is based on the type of business conducted by the
broker-dealer. The minimum dollar requirement for both Schwab and SCM is
$1 million. Under the alternative method, a broker-dealer may not repay
subordinated borrowings, pay cash dividends, or make any unsecured advances or
loans to its parent or employees if such payment would result in net capital of
less than 5% of aggregate debit balances or less than 120% of its minimum dollar
requirement. At September 30, 2003, Schwab's net capital was $1.2 billion (16%
of aggregate debit balances), which was $1.1 billion in excess of its minimum
required net capital and $832 million in excess of 5% of aggregate debit
balances. At September 30, 2003, SCM's net capital was $76 million, which was
$75 million in excess of its minimum required net capital.
13. Commitments and Contingent Liabilities
Guarantees: The Company provides certain indemnifications (i.e., protection
against damage or loss) to counterparties in connection with the disposition of
certain of its assets. These indemnification agreements have various expiration
dates and the Company's liability under these agreements is generally limited to
certain maximum amounts. The Company, however, remains subject to certain
uncapped potential liabilities. Other than the possible uncapped obligations, at
September 30, 2003, the Company's maximum potential liability under these
indemnification agreements is limited to approximately $100 million.
Standby letters of credit (LOCs) are conditional commitments issued by
U.S. Trust to guarantee the performance of a client to a third party. At
September 30, 2003, U.S. Trust had LOCs outstanding totaling $73 million, which
are short-term in nature and generally expire within one year.
In accordance with FIN No. 45, the Company recognizes, at the inception of
a guarantee, a liability for the estimated fair value of the obligation
undertaken in issuing the guarantee. The fair values of the obligations relating
to LOCs are estimated based on fees charged to enter into similar agreements,
considering the creditworthiness of the counterparties. The fair values of the
obligations relating to other guarantees are estimated based on transactions for
similar guarantees or expected present value measures. The Company does not
believe that any material loss related to indemnification agreements, including
the uncapped indemnification obligations, or LOCs is likely and therefore at
September 30, 2003, the liabilities recorded for these guarantees are
immaterial.
Legal contingencies: The nature of the Company's business subjects it to
claims, lawsuits, regulatory examinations, and other proceedings in the ordinary
course of business. The results of these matters cannot be predicted with
certainty. There can be no assurance that these matters will not have a material
adverse effect on the Company's results of operations in any future period,
depending partly on the results for that period, and a substantial judgment
could have a material adverse impact on the Company's financial condition,
results of operations, and cash flows. However, it is the opinion of management,
after consultation with legal counsel, that the ultimate outcome of existing
claims and proceedings will not have a material adverse impact on the financial
condition, results of operations, or cash flows of the Company.
For further discussion of legal proceedings, see Part II - Other
Information, Item 1 - Legal Proceedings.
14. Segment Information
The Company structures its segments according to its various types of
clients and the services provided to those clients. These segments have been
aggregated, based on similarities in economic characteristics, types of clients,
services provided, distribution channels, and regulatory environment, into four
reportable segments - Individual Investor, Institutional Investor, Capital
Markets, and U.S. Trust.
Financial information for the Company's reportable segments is presented in
the following table. The Company periodically reallocates certain revenues and
expenses among the segments to align them with the changes in the Company's
organizational structure. Previously-reported segment information has been
revised to reflect changes during the year in the Company's internal
organization. The Company evaluates the performance of its segments based on
adjusted operating income before taxes (a non-GAAP income measure), which
excludes restructuring charges, acquisition-related charges, impairment charges,
discontinued operations, and extraordinary gains. Intersegment revenues are not
material and are therefore not disclosed. Total revenues, income from continuing
operations before taxes on income and extraordinary gain, and net income are
equal to the
- 10 -
amounts as reported on the Company's Condensed Consolidated Statement of Income.
- --------------------------------------------------------------------------------
Three Nine
Months Ended Months Ended
September 30, September 30,
2003 2002 2003 2002
- --------------------------------------------------------------------------------
Revenues:
Individual Investor $ 605 $ 584 $1,699 $1,774
Institutional Investor 210 211 602 632
Capital Markets 78 65 208 196
U.S. Trust 158 160 460 503
- --------------------------------------------------------------------------------
Total $1,051 $1,020 $2,969 $3,105
================================================================================
Adjusted operating income
(loss) before taxes:
Individual Investor $ 153 $ 95 $ 293 $ 229
Institutional Investor 53 37 174 162
Capital Markets (4) (5) (7) 9
U.S. Trust (1) 32 31 82 111
- --------------------------------------------------------------------------------
Adjusted operating income
before taxes 234 158 542 511
Excluded items (2) (37) (159) (66) (215)
- --------------------------------------------------------------------------------
Income (loss) from continuing
operations before taxes on
income and extraordinary gain 197 (1) 476 296
Taxes on income (73) - (152) (110)
Gain (loss) from discontinued
operations, net of tax (3) 3 (3) - (10)
Extraordinary gain on sale of
corporate trust business,
net of tax expense - - - 12
- --------------------------------------------------------------------------------
Net Income (Loss) $ 127 $ (4) $ 324 $ 188
================================================================================
(1) Excludes an extraordinary pre-tax gain of $22 million for the nine months
ended September 30, 2002 relating to the sale of U.S. Trust's Corporate
Trust business (see note "5 - Sale of Corporate Trust Business").
(2) Includes restructuring charges of $37 million and $61 million (see note "4
- Restructuring") for the three and nine months ended September 30, 2003,
respectively. Also includes an impairment charge of $5 million related to
the Company's investment in its U.K. market-making operation for the nine
months ended September 30, 2003 (see note "7 - Business Acquisition and
Divestiture"). Includes restructuring charges of $159 million and
$188 million for the three and nine months ended September 30, 2002,
respectively, and acquisition-related charges of $27 million for the nine
months ended September 30, 2002.
(3) Represents the impact of the Company's sale of its U.K. brokerage
subsidiary, which was previously included in the Individual Investor
segment (see note "6 - Discontinued Operations").
15. Supplemental Cash Flow Information
Certain information affecting the cash flows of the Company is presented in
the following table:
- --------------------------------------------------------------------------------
Nine
Months Ended
September 30,
2003 2002
- --------------------------------------------------------------------------------
Income taxes paid $ 167 $ 81
- --------------------------------------------------------------------------------
Interest paid:
Brokerage client cash balances $ 63 $ 135
Deposits from banking clients 65 63
Long-term debt 33 51
Short-term borrowings 12 19
Other 13 5
- --------------------------------------------------------------------------------
Total interest paid $ 186 $ 273
================================================================================
Non-cash investing and financing activities:
Consolidation of special purpose trust: (1)
Building and land $ 229 -
Long-term debt and other liabilities $ 228 -
Common stock and options issued
for purchase of businesses $ 4 $ 4
- --------------------------------------------------------------------------------
(1) Upon adoption of FIN No. 46 in the first quarter of 2003, the Company
consolidated a special purpose trust. See note "2 - New Accounting
Standards."
16. Subsequent Event
U.S. Trust's acquisition of State Street Corporation's Private Asset
Management group closed on October 31, 2003.
- 11 -
THE CHARLES SCHWAB CORPORATION
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Description of Business
The Company: The Charles Schwab Corporation (CSC) and its subsidiaries
(collectively referred to as the Company) provide securities brokerage, banking,
and related financial services for 7.6 million active client accounts(a). Client
assets in these accounts totaled $876.7 billion at September 30, 2003. Charles
Schwab & Co., Inc. (Schwab) is a securities broker-dealer with 352 domestic
branch offices in 48 states, as well as a branch in the Commonwealth of Puerto
Rico. U.S. Trust Corporation (USTC, and with its subsidiaries collectively
referred to as U.S. Trust) is a wealth management firm that through its
subsidiaries also provides fiduciary services and private banking services with
34 offices in 13 states. Other subsidiaries include Charles Schwab Investment
Management, Inc. (CSIM), the investment advisor for Schwab's proprietary mutual
funds, Schwab Capital Markets L.P. (SCM), a market maker in Nasdaq and other
securities providing trade execution services primarily to broker-dealers and
institutional clients, CyberTrader, Inc. (CyberTrader), an electronic trading
technology and brokerage firm providing services to highly active, online
traders, and Charles Schwab Bank, N.A. (Schwab Bank), a retail bank which
commenced operations in the second quarter of 2003.
The Company provides financial services to individuals, institutional
clients, and broker-dealers through four segments - Individual Investor,
Institutional Investor, Capital Markets, and U.S. Trust. The Individual Investor
segment includes the Company's retail brokerage and banking operations. The
Institutional Investor segment provides custodial, trading and support services
to independent investment advisors (IAs), serves company 401(k) plan sponsors
and third-party administrators, and supports company stock option plans. The
Capital Markets segment provides trade execution services in Nasdaq,
exchange-listed, and other securities primarily to broker-dealers, including
Schwab, and institutional clients. The U.S. Trust segment provides investment,
wealth management, custody, fiduciary, and private banking services to
individual and institutional clients.
Business Strategy: The Company's primary strategy is to serve the needs of
individual investors either directly or indirectly through intermediaries, IAs,
or corporate retirement plan sponsors. The Company's products and services are
designed to meet clients' varying investment and financial needs, including help
and advice and access to extensive investment research, news and information.
The Company's infrastructure and resources are focused on pursuing six strategic
priorities:
o providing the spectrum of affluent investors with the advice,
relationships, and choices that support their desired investment outcomes;
o delivering the information, technology, service, and pricing needed to
remain a leader in serving active traders;
o continuing to provide high-quality service to emerging affluent clients -
those with less than $250,000 in assets;
o providing individual investing services through employers, including
retirement and option plans as well as personal brokerage accounts;
o offering selected banking services and developing investment products that
give clients greater control and understanding of their finances; and
o retaining a strong capital markets business to address investors' financial
product and trade execution needs.
For further discussion of the Company's business strategy, see
"Management's Discussion and Analysis of Results of Operations and Financial
Condition - Description of Business - Business Strategy" in the Company's 2002
Annual Report to Stockholders, which is filed as Exhibit 13.1 to the Company's
Form 10-K for the year ended December 31, 2002. See also Item 1 - Business
Narrative Description of Business - "Products, Services, and Advice Offerings"
in the Company's Form 10-K for the year ended December 31, 2002. Significant
recent developments relating to certain of these strategic priorities, as well
as other significant developments, follow:
Services for Affluent Investors: The Company's full-service advice and
relationship service offering includes Schwab Advisor Network(R), Schwab Private
Client(TM), and Schwab Equity Ratings(TM). The Schwab Advisor Network is a
referral program that provides investors who want the assistance of an
independent professional with access to approximately 330 participating IAs.
Schwab Private Client is a fee-based service designed to help clients who want
access to an ongoing, face-to-face advice relationship with a designated Schwab
consultant while retaining day-to-day responsibility for their investment
decisions. Schwab Equity Ratings provide clients with an objective stock rating
system
- --------
(a) Accounts with balances or activity within the preceding eight months.
Reflects the removal of 192,000 accounts in the second quarter of 2003
related to the Company's withdrawal from the Employee Stock Purchase Plan
business and the transfer of those accounts to other providers.
- 12 -
on more than 3,000 stocks, assigning each equity a single grade: A, B, C, D, or
F.
For investors enrolled in Schwab Private Client, the Company introduced the
Schwab Personal Portfolio Dividend Equity(TM) account, a managed account that
invests primarily in dividend-paying stocks that have been rated A or B by
Schwab Equity Ratings.
Schwab is focused on enhancing the support services it offers to IAs. IAs
provide customized and personalized portfolio management and financial planning
services to investors who prefer to delegate their financial management
responsibilities to an independent professional. During the third quarter of
2003, the Company sponsored a series of 13 Institutional Workshops across the
country. These workshops provided over 800 IA back office staff with training
and suggestions designed to improve operating efficiency as part of our overall
effort to help IAs focus on growing their practices. In addition, The Schwab
Fund for Charitable Giving(R) introduced Charitable Asset Management, a service
which enables IAs working with our Services for Investment Managers group or
U.S. Trust to manage the donated assets in client Charitable Gift Accounts of
$500,000 or more in a flexible, personalized manner.
In June 2003, the Company announced that U.S. Trust agreed to acquire State
Street Corporation's Private Asset Management group (PAM), a provider of wealth
management services to clients in the New England area, for $365 million to be
paid in cash, subject to certain possible adjustments. This transaction is
intended to provide U.S. Trust with an immediate presence in an important wealth
market, as well as enable the Company to add a full array of private banking
capabilities to complement the investment management and fiduciary services
already provided by PAM. See note "16 - Subsequent Event" in the Notes to
Condensed Consolidated Financial Statements for further discussion on this
acquisition.
Services for Active Traders: In the third quarter of 2003, the Company
announced a price reduction for those clients who trade more than 30 times a
quarter - commissions were lowered to $14.95, or $.01 per share for trades over
1,000 shares with a $14.95 minimum. Additionally, the Company introduced the
Profit Taking Strategies online seminar, which covers strategies for setting and
adhering to price targets. The Company also commenced a new service that enables
CyberTrader(R) clients to trade E-mini S&P 500(R) and Nasdaq 100 stock index
futures contracts.
Corporate Services: In the third quarter of 2003, the Company launched a
new service for participants in bundled 401(k) plans serviced by Schwab.
Participants in these plans now have either online, telephonic, or in-person
access to customized advice provided by a third party, including specific
recommendations about savings rates and the core investment fund choices
available in a given retirement plan. Participants also have the option of
automatic account rebalancing.
Banking and Other Financial Products: Schwab Bank received final regulatory
approvals and commenced operations as a retail bank in the second quarter of
2003. Schwab Bank is focused on providing mortgage, home equity line of credit,
and deposit services to Schwab's existing clients, as well as new clients.
Schwab Bank offers its products through a variety of channels, including its
main office in Reno, Nevada, as well as telephone and online channels. During
the third quarter of 2003, Schwab Bank originated $1.1 billion in first
mortgages and outstanding home equity lines of credit totaled $101 million at
quarter end. In addition, Schwab Bank's loan commitments at September 30, 2003
included approximately $350 million in first mortgages and approximately
$450 million in new home equity lines of credit. Currently, substantially all
fixed-rate first mortgage loans originated by Schwab Bank are intended for sale,
and are classified as held for sale on the Company's Condensed Consolidated
Balance Sheet. Schwab Bank had total assets of $1.6 billion and deposits from
banking clients of $1.2 billion at September 30, 2003.
Capital Markets: In the third quarter of 2003, the Company increased its
institutional equities trading capabilities by adding 2 more professionals to
lead its sales function for exchange-listed securities and a new Chicago office.
Revenues from institutional equities trading were $91 million in the first nine
months of 2003, up 78% from the first nine months of 2002. Institutional
equities trading is an integral part of the Schwab Liquidity Network(TM), a
market-making system that pools the orders of the Company's individual investor
client base with those of hundreds of broker-dealers and institutional
investment firms in a manner designed to offer greater opportunities for the
best possible price on most stock trades. The Schwab Liquidity Network traded
over 11,000 securities at September 30, 2003, up from about 5,000 securities at
its launch in February 2003.
Other Significant Developments: The Company introduced the Schwab Dividend
Equity Fund(TM), a mutual fund designed to offer clients current income and
capital appreciation by primarily investing in dividend-paying stocks that have
been rated A or B by Schwab Equity Ratings. This fund, which recognizes the
importance of recent changes in dividend taxation, is the fourth member of the
SchwabFunds Family(R) that utilizes Schwab Equity Ratings to help guide stock
selection.
Regulatory Developments: As with other major mutual fund companies in the
United States and broker-dealers that
- 13 -
distribute mutual fund shares, affiliates of the Company are responding to
inquiries from federal and state regulators as part of an industry-wide review
of mutual fund trading, distribution and servicing practices. These inquiries
include examinations by the Securities and Exchange Commission of affiliates of
CSC and USTC, and subpoenas issued to affiliates of USTC by the New York State
Attorney General. The Company is cooperating with regulators and is conducting
its own review of fund trading, distribution and servicing practices at or
through Company affiliates. Among other things, the Company is investigating
circumstances in which a small number of parties were permitted to engage in
short-term trading of U.S. Trust's Excelsior(R) Funds; and a limited number of
instances at Schwab in which fund orders may have been entered or processed
after the 4:00 p.m. E.S.T. closing time in a manner contrary to Schwab policies.
The Company's investigation is ongoing and the Company is taking steps to ensure
compliance with its policies on market timing and late trading.
In addition, various securities regulators are considering new regulations
concerning mutual fund distribution and servicing, some of which, if adopted,
could have a negative impact on mutual fund investing generally, including
investments through mutual fund supermarkets such as the Company's Mutual Fund
Marketplace(R) service. The Company is currently unable to predict whether any
such regulations will be adopted or the final form of any potential new
regulations.
Risk Management
For discussion on the Company's principal risks and some of the policies
and procedures for risk identification, assessment, and mitigation, see
"Management's Discussion and Analysis of Results of Operations and Financial
Condition - Risk Management" in the Company's 2002 Annual Report to
Stockholders, which is filed as Exhibit 13.1 to the Company's Form 10-K for the
year ended December 31, 2002. See Liquidity and Capital Resources of this report
for a discussion on liquidity risk; and see Item 3 - Quantitative and
Qualitative Disclosures About Market Risk for additional information relating to
market risk.
The Company expects to continue to evaluate and consider potential
strategic transactions, including business combinations, acquisitions and
dispositions of businesses, services, and other assets. At any given time, the
Company may be engaged in discussions or negotiations with respect to one or
more of such transactions. Any such transaction could have a material impact on
the Company's financial position, results of operations, earnings per share
(EPS), or cash flows. There is no assurance that any such discussions or
negotiations will result in the consummation of any transaction. In addition,
the process of integrating any acquisition may create unforeseen operating
difficulties, expenditures, and other risks.
Given the nature of the Company's revenues, expenses, and risk profile, the
Company's earnings and CSC's common stock price have been and may continue to be
subject to significant volatility from period to period. The Company's results
for any interim period are not necessarily indicative of results for a full year
or any other interim period. Risk is inherent in the Company's business.
Consequently, despite the Company's attempts to identify areas of risk, oversee
operational areas involving risk, and implement policies and procedures designed
to mitigate risk, there can be no assurance that the Company will not suffer
unexpected losses due to operating or other risks.
Forward-Looking Statements
This Quarterly Report on Form 10-Q contains "forward-looking statements"
within the meaning of Section 27A of the Securities Act, and Section 21E of the
Securities Exchange Act of 1934. Forward-looking statements are identified by
words such as "believe," "expect," "intend," "plan," "will," "may," and other
similar expressions. In addition, any statements that refer to expectations,
projections or other characterizations of future events or circumstances are
forward-looking statements. These forward-looking statements, which reflect
management's beliefs, objectives, and expectations as of the date hereof, are
necessarily estimates based on the best judgment of the Company's senior
management. These statements relate to, among other things, the Company's
ability to achieve its strategic priorities (see Description of Business -
Business Strategy), the impact of potential new regulations concerning mutual
fund distribution and servicing (see Description of Business - Business Strategy
- - Regulatory Developments), the potential impact of future strategic
transactions (see Risk Management), the impact of expense reduction measures on
the Company's results of operations (see Financial Overview), sources of
liquidity and capital (see Liquidity and Capital Resources - Liquidity and -
Commitments), the Company's cash position, cash flows, and capital expenditures
(see Liquidity and Capital Resources - Cash and Capital Resources), the impact
of the Company's trading risk as estimated by a value-at-risk measurement
methodology (see Item 3 - Quantitative and Qualitative Disclosures About Market
Risk - Financial Instruments Held For Trading Purposes), net interest expense
under interest rate swaps (see Item 3 - Quantitative and Qualitative Disclosures
About Market Risk - Financial Instruments Held For Purposes Other Than Trading -
Interest Rate Swaps), and contingent liabilities (see Part II - Other
Information, Item 1 - Legal Proceedings). Achievement of the expressed beliefs,
objectives and expectations described in these statements is subject to certain
risks and uncertainties that could cause actual results
- 14 -
to differ materially from the expressed beliefs, objectives and expectations.
Important factors that may cause such differences are noted in this interim
report and include, but are not limited to: the Company's success in building
fee-based relationships with its clients; the effect of client trading patterns
on Company revenues and earnings; changes in revenues and profit margin due to
cyclical securities markets and fluctuations in interest rates; the level and
continuing volatility of equity prices; a significant downturn in the securities
markets over a short period of time or a sustained decline in securities prices,
trading volumes, and investor confidence; geopolitical developments affecting
the securities markets, the economy, and investor sentiment; the size and number
of the Company's insurance claims; and a significant decline in the real estate
market, including the Company's ability to sublease certain properties. Other
more general factors that may cause such differences include, but are not
limited to: the Company's inability to attract and retain key personnel; the
timing and impact of changes in the Company's level of investments in personnel,
technology, or advertising; changes in technology; computer system failures and
security breaches; evolving legislation, regulation and changing industry
practices adversely affecting the Company; adverse results of litigation or
regulatory matters; the inability to obtain external financing at acceptable
rates; the effects of competitors' pricing, product and service decisions; and
intensified industry competition and consolidation.
Critical Accounting Policies
Certain of the Company's accounting policies that involve a higher degree
of judgment and complexity are discussed in "Management's Discussion and
Analysis of Results of Operations and Financial Condition - Critical Accounting
Policies" in the Company's 2002 Annual Report to Stockholders, which is filed as
Exhibit 13.1 to the Company's Form 10-K for the year ended December 31, 2002.
There have been no material changes to these critical accounting policies during
the first nine months of 2003.
Three Months Ended September 30, 2003 Compared To Three
Months Ended September 30, 2002
All references to EPS information in this report reflect diluted earnings
per share unless otherwise noted.
FINANCIAL OVERVIEW
The Company's financial performance in the third quarter of 2003 reflects
continued improvement in the market environment, which led to higher levels of
client asset valuations and trading activity. The Company's trading revenues
increased 4% from the third quarter of 2002, primarily due to higher client
trading activity, partially offset by lower average revenue per trade (reflected
in commission revenues).
Non-trading revenues, which include asset management and administration
fees, interest revenue, net of interest expense (referred to as net interest
revenue), and other revenues, increased 3% in the third quarter of 2003 compared
to the year-ago level. The increase in non-trading revenues was primarily due to
an 8% increase in asset management and administration fees, partially offset by
an 11% decrease in net interest revenue. The increase in asset management and
administration fees was primarily due to increases in average assets in and
service fees earned on Schwab's Mutual Fund OneSource(R) service, as well as
higher account fees. The decrease in net interest revenues was primarily due to
lower rates received on and lower levels of margin loans to clients.
Total expenses excluding interest during the third quarter of 2003 were
$854 million, down 16% from the third quarter of 2002. This decrease was
primarily due to lower restructuring charges and decreases in almost all expense
categories as a result of the Company's continued expense reduction measures.
On January 31, 2003, the Company sold its United Kingdom (U.K.) brokerage
subsidiary, Charles Schwab Europe (CSE), to Barclays PLC (Barclays). The results
of CSE's operations have been summarized as gain or loss from discontinued
operations, net of tax, on the Condensed Consolidated Statement of Income. The
reported gain was $3 million for the third quarter of 2003, primarily due to
changes in estimates of costs related to this sale, compared to a loss of
$3 million for the third quarter of 2002. The Company's consolidated prior
period revenues, expenses, and taxes on income have been adjusted to reflect
this presentation. For further information, see note "6 - Discontinued
Operations" in the Notes to Condensed Consolidated Financial Statements.
Income from continuing operations before taxes on income and extraordinary
gain was $197 million for the third quarter of 2003, compared to a $1 million
loss from continuing operations before taxes and extraordinary gain in the third
quarter of 2002. This increase was primarily due to the combination of factors
discussed separately above - lower restructuring charges and declines in almost
all expense categories, as well as higher revenues. Net income for the third
quarter of 2003 was $127 million, or $.09 per share, compared to a net loss of
$4 million for the third quarter of 2002. The change from a net loss to net
income was primarily due to higher income from continuing operations before
taxes on income and extraordinary gain as discussed above. The Company's
after-tax profit margin for the third quarter of 2003 was 12.1%, up from (.4%)
for the third quarter of 2002. The annualized return on
- 15 -
stockholders' equity for the third quarter of 2003 was 12%, up from 0% for the
third quarter of 2002.
In the third quarter of 2003, net income of $127 million included the
following items which in total had the effect of decreasing after-tax income by
$20 million: $23 million of restructuring charges and a $3 million gain from
discontinued operations. In the third quarter of 2002, net loss of $4 million
included the following items which in total had the effect of decreasing
after-tax income by $103 million: $100 million of restructuring charges and a $3
million loss from discontinued operations.
Segment Information: In evaluating the financial performance of the Company's
segments, management uses adjusted operating income, a non-generally accepted
accounting principles (non-GAAP) income measure which excludes the items
described in the preceding paragraph. Management believes that adjusted
operating income is a useful indicator of the ongoing financial performance of
the Company's segments, and a tool that can provide meaningful insight into
financial performance without the effects of certain material items that are not
expected to be an ongoing part of operations. As detailed in note "14 - Segment
Information" in the Notes to Condensed Consolidated Financial Statements,
adjusted operating income before taxes was $234 million for the third quarter of
2003, up $76 million, or 48%, from the third quarter of 2002 primarily due to
increases of $58 million, or 61%, in the Individual Investor segment and
$16 million, or 43%, in the Institutional Investor segment. The increase in the
Individual Investor segment was primarily due to lower expenses as a result of
the Company's expense reduction measures and higher revenues resulting from
increased client trading activity. The increase in the Institutional Investor
segment was primarily due to lower expenses as a result of the Company's expense
reduction measures.
Restructuring: In 2001, the Company initiated a restructuring plan to reduce
operating expenses due to economic uncertainties and difficult market
conditions. The restructuring plan was completed in 2002 and included a
workforce reduction, a reduction in operating facilities, and the removal of
certain systems hardware, software, and equipment from service. Included in
these initiatives were costs associated with the withdrawal from certain
international operations.
In the third quarter of 2002, the Company commenced additional
restructuring initiatives due to continued difficult market conditions. These
initiatives were intended to reduce operating expenses and adjust the Company's
organizational structure to improve productivity, enhance efficiency, and
increase profitability. These restructuring initiatives were substantially
completed in 2002 and primarily included further reductions in the Company's
workforce and facilities.
In the third quarter of 2003, the Company commenced additional
restructuring initiatives to further adjust the Company's workforce and
facilities in response to the market environment and the 2002 restructuring
initiatives, which resulted in the centralization of several support functions.
These initiatives include mandatory staff reductions of approximately 265
employees and the consolidation of certain facilities. Although the workforce
and facilities decisions were made and communicated in the third quarter, the
accounting treatment of the related expense spans both the third and fourth
quarters of 2003. The Company recorded pre-tax restructuring charges of
$31 million in the third quarter of 2003, primarily reflecting severance costs
for approximately 175 employees and the consolidation of certain facilities,
including 20 Schwab domestic branch offices. The Company expects to recognize
pre-tax restructuring charges in the fourth quarter of 2003 of approximately
$20 million, reflecting severance costs for the approximately 90 remaining
employees who were notified in the third quarter and the consolidation of
certain facilities, including 13 additional Schwab domestic branch offices. The
Company expects that selective hiring in certain areas will offset some of the
mandatory staff reductions. The actual costs of these restructuring initiatives
could differ from the estimated costs, depending primarily on the Company's
ability to sublease properties. The Company estimates that its 2003
restructuring initiatives will reduce pre-tax operating expenses for full-year
2004 by approximately $40 million compared to annualized third quarter of 2003
operating expenses. The Company expects, however, that these reductions will be
substantially offset by reinvestment in other areas of the Company.
The Company recorded total pre-tax restructuring charges of $37 million in
the third quarter of 2003. These charges include amounts related to the 2003
restructuring initiatives, as well as charges primarily due to changes in
estimates of sublease income associated with previously announced efforts to
sublease excess facilities. The Company recorded total pre-tax restructuring
charges of $159 million in the third quarter of 2002, all of which related to
its 2001 and 2002 restructuring initiatives.
As of September 30, 2003, the remaining facilities restructuring reserve of
$215 million related to the Company's restructuring initiatives is net of
estimated future sublease income of approximately $320 million. This estimated
future sublease income amount is determined based upon a number of factors,
including current and expected commercial real estate lease rates in the
respective properties' real estate markets, and estimated vacancy periods prior
to execution of tenant subleases. At September 30, 2003, approximately 45% of
the total square footage targeted for sublease under the restructuring
initiatives has been subleased, up from approximately 25% at December 31, 2002.
- 16 -
For further information on the Company's restructuring initiatives, see
note "4 - Restructuring" in the Notes to Condensed Consolidated Financial
Statements.
REVENUES
Revenues increased by $31 million, or 3%, to $1.1 billion in the third
quarter of 2003 compared to the third quarter of 2002, primarily due to a
$36 million, or 8%, increase in asset management and administration fees and a
$15 million, or 5%, increase in commission revenues, partially offset by a
$23 million, or 11%, decrease in net interest revenue. The Company's non-trading
revenues represented 65% of total revenues for each of the third quarters of
2003 and 2002 as shown in the following table:
- --------------------------------------------------------------------------------
Three Months
Ended
September 30,
Composition of Revenues 2003 2002
- --------------------------------------------------------------------------------
Asset management and administration fees 44% 42%
Net interest revenue 17 20
Other 4 3
- --------------------------------------------------------------------------------
Total non-trading revenues 65 65
- --------------------------------------------------------------------------------
Commissions 30 30
Principal transactions 5 5
- --------------------------------------------------------------------------------
Total trading revenues 35 35
- --------------------------------------------------------------------------------
Total 100% 100%
================================================================================
While the Individual Investor and Institutional Investor segments generate
both trading and non-trading revenues, the Capital Markets segment generates
primarily trading revenues and the U.S. Trust segment generates primarily
non-trading revenues. The $31 million increase in revenues from the third
quarter of 2002 was primarily due to increases in revenues of $21 million, or
4%, in the Individual Investor segment, and $13 million, or 20%, in the Capital
Markets segment. See note "14 - Segment Information" in the Notes to Condensed
Consolidated Financial Statements for financial information by segment.
Asset Management and Administration Fees
Asset management and administration fees include mutual fund service fees,
as well as fees for other asset-based financial services provided to individual
and institutional clients. The Company earns mutual fund service fees for
recordkeeping and shareholder services provided to third-party funds, and for
transfer agent services, shareholder services, administration, and investment
management provided to its proprietary funds. These fees are based upon the
daily balances of client assets invested in third-party funds and upon the
average daily net assets of the Company's proprietary funds. Mutual fund service
fees are earned through the Individual Investor, Institutional Investor, and
U.S. Trust segments. The Company also earns asset management and administration
fees for financial services, including investment management and consulting,
trust and fiduciary services, custody services, financial and estate planning,
and private banking services, provided to individual and institutional clients.
These fees are primarily based on the value and composition of assets under
management and are earned through the U.S. Trust, Individual Investor, and
Institutional Investor segments.
Asset management and administration fees were $467 million for the third
quarter of 2003, up $36 million from the third quarter of 2002, as shown in the
following table (in millions):
- --------------------------------------------------------------------------------
Three Months
Ended
September 30, Percent
Asset Management and Administration Fees 2003 2002 Change
- --------------------------------------------------------------------------------
Mutual fund service fees:
Proprietary funds
(SchwabFunds(R), Excelsior(R) and other) $223 $218 2%
Mutual Fund OneSource(R) 76 61 25
Other 13 10 30
Asset management and related services 155 142 9
- --------------------------------------------------------------------------------
Total $467 $431 8%
================================================================================
The increase in asset management and administration fees was primarily due
to increases in average assets in and service fees earned on Schwabs Mutual
Fund OneSource service, and higher asset-based fees from certain client
relationships.
Assets in client accounts were $876.7 billion at September 30, 2003, an
increase of $149.9 billion, or 21%, from a year ago as shown in the following
table. This increase from a year ago included net new client assets of
$41.4 billion and net market gains of $108.5 billion related to client accounts.
- 17 -
- --------------------------------------------------------------------------------
Change in Client Assets and Accounts
(In billions, at quarter end, September 30, Percent
except as noted) 2003 2002 Change
- --------------------------------------------------------------------------------
Assets in client accounts
Schwab One(R), other cash
equivalents and deposits
from banking clients $ 31.8 $ 29.0 10%
Proprietary funds (SchwabFunds(R),
Excelsior(R) and other):
Money market funds 124.4 129.2 (4)
Equity and bond funds 30.7 26.8 15
- --------------------------------------------------------------------------------
Total proprietary funds 155.1 156.0 (1)
- --------------------------------------------------------------------------------
Mutual Fund Marketplace(R) (1):
Mutual Fund OneSource(R) 90.1 70.0 29
Mutual fund clearing services 28.4 19.8 43
All other 88.3 68.5 29
- --------------------------------------------------------------------------------
Total Mutual Fund Marketplace 206.8 158.3 31
- --------------------------------------------------------------------------------
Total mutual fund assets 361.9 314.3 15
- --------------------------------------------------------------------------------
Equity and other securities (1) 355.9 272.9 30
Fixed income securities (2) 134.6 117.5 15
Margin loans outstanding (7.5) (6.9) 9
- --------------------------------------------------------------------------------
Total client assets $876.7 $726.8 21%
================================================================================
Net change in assets
in client accounts
(for the quarter ended)
Net new client assets $ 10.6 $ 10.6
Net market gains (losses) 21.4 (80.8)
- ---------------------------------------------------------------------
Net growth (decline) $ 32.0 $(70.2)
=====================================================================
New client accounts
(in thousands, for the
quarter ended) 123.9 159.6 (22%)
Active client accounts
(in millions) (3) 7.6 8.0 (5%)
- --------------------------------------------------------------------------------
Active online Schwab client
accounts (in millions) (4) 4.0 4.2 (5%)
Online Schwab client assets $341.5 $279.1 22%
- --------------------------------------------------------------------------------
(1) Excludes all proprietary money market, equity, and bond funds.
(2) Includes $23.8 billion and $15.1 billion at September 30, 2003 and 2002,
respectively, of certain other securities serviced by Schwab's fixed income
division, including exchange-traded unit investment trusts, real estate
investment trusts, and corporate debt.
(3) Active client accounts are defined as accounts with balances or activity
within the preceding eight months. Reflects the removal of 192,000 accounts
in the second quarter of 2003 related to the Company's withdrawal from the
Employee Stock Purchase Plan business and the transfer of those accounts to
other providers.
(4) Active online accounts are defined as all active individual and U.S.
dollar-based international accounts within a household that has had at
least one online session within the past twelve months. Excludes
independent investment advisor accounts and U.S. Trust accounts.
Commissions
The Company earns revenues by executing client trades primarily through the
Individual Investor and Institutional Investor segments, as well as the Capital
Markets segment. These revenues are affected by the number of client accounts
that trade, the average number of revenue-generating trades per account, and the
average revenue earned per revenue trade. As shown in the following table (in
millions), commission revenues for the Company were $320 million for the third
quarter of 2003, up $15 million, or 5%, from the third quarter of 2002. This
increase was primarily due to higher daily average trades, partially offset by
lower average revenue per revenue trade.
- --------------------------------------------------------------------------------
Three Months
Ended
September 30, Percent
Commissions 2003 2002 Change
- --------------------------------------------------------------------------------
Equity and other securities $ 267 $ 254 5%
Mutual funds 29 30 (3)
Options 24 21 14
- --------------------------------------------------------------------------------
Total $ 320 $ 305 5%
================================================================================
Total commission revenues include $17 million in the third quarter of 2003
and $20 million in the third quarter of 2002 related to certain securities
serviced by Schwab's fixed income division, including exchange-traded unit
investment trusts, real estate investment trusts, and corporate debt. Schwab's
fixed income division also generates principal transaction revenues.
Additionally, commission revenues include $29 million in the third quarter of
2003 and $15 million in the third quarter of 2002 related to Schwab's
institutional trading business. Schwab's institutional trading business also
generates principal transaction revenues, as well as other revenues.
- 18 -
The Company's client trading activity is shown in the following table (in
thousands):
- --------------------------------------------------------------------------------
Three Months
Ended
September 30, Percent
Daily Average Trades (1) 2003 2002 Change
- --------------------------------------------------------------------------------
Revenue Trades (2)
Online 125.9 107.3 17%
TeleBroker(R) and Schwab by Phone(TM) 4.8 5.4 (11)
Regional client telephone service
centers, branch offices, and other 14.4 16.4 (12)
- --------------------------------------------------------------------------------
Total 145.1 129.1 12%
================================================================================
Mutual Fund OneSource(R) and
Other Asset-Based Trades
Online 52.6 47.9 10%
TeleBroker and Schwab by Phone .4 .3 33
Regional client telephone service
centers, branch offices, and other 5.0 8.3 (40)
- --------------------------------------------------------------------------------
Total 58.0 56.5 3%
================================================================================
Total Daily Average Trades
Online 178.5 155.2 15%
TeleBroker and Schwab by Phone 5.2 5.7 (9)
Regional client telephone service
centers, branch offices, and other 19.4 24.7 (21)
- --------------------------------------------------------------------------------
Total 203.1 185.6 9%
================================================================================
(1) Effective in the third quarter of 2003, the Company considers reduced
exchange trading sessions as half days in calculating daily average trades.
(2) Includes all client trades (both individuals and institutions) that
generate either commission revenue or revenue from principal markups (i.e.,
fixed income).
As shown in the following table, the total number of client revenue trades
executed by the Company has increased 12% as the trading activity per account
that traded has increased, slightly offset by decreases in the number of client
accounts that traded during the quarter and the number of trading days.
- --------------------------------------------------------------------------------
Three Months
Ended
September 30, Percent
Trading Activity 2003 2002 Change
- --------------------------------------------------------------------------------
Total revenue trades
(in thousands) (1) 9,215 8,263 12%
Accounts that traded during
the quarter (in thousands) 1,267 1,284 (1)
Average revenue trades
per account that traded 7.3 6.4 14
Trading frequency proxy (2) 3.8 3.9 (3)
Number of trading days (3) 63.5 64.0 (1)
Average revenue earned
per revenue trade $36.96 $39.71 (7)
- --------------------------------------------------------------------------------
(1) Includes all client trades (both individuals and institutions) that
generate either commission revenue or revenue from principal markups (i.e.,
fixed income).
(2) Represents annualized revenue trades per $100,000 in total client assets.
(3) Effective in the third quarter of 2003, the Company considers reduced
exchange trading sessions as half days.
Net Interest Revenue
Net interest revenue is the difference between interest earned on assets
(mainly margin loans to clients, investments of segregated client cash balances,
loans to banking clients, and securities available for sale) and interest paid
on liabilities (mainly brokerage client cash balances and deposits from banking
clients). Net interest revenue is affected by changes in the volume and mix of
these assets and liabilities, as well as by fluctuations in interest rates and
hedging strategies.
Substantially all of the Company's net interest revenue is earned through
the Individual Investor, Institutional Investor, and U.S. Trust segments.
- 19 -
Net interest revenue was $181 million for the third quarter of 2003, down
$23 million, or 11%, from the third quarter of 2002 as shown in the following
table (in millions):
- --------------------------------------------------------------------------------
Three Months
Ended
September 30, Percent
2003 2002 Change
- --------------------------------------------------------------------------------
Interest Revenue
Margin loans to clients $ 86 $ 107 (20%)
Investments, client-related 67 87 (23)
Loans to banking clients 57 59 (3)
Securities available for sale 17 20 (15)
Other 9 14 (36)
- --------------------------------------------------------------------------------
Total 236 287 (18)
- --------------------------------------------------------------------------------
Interest Expense
Brokerage client cash balances 14 41 (66)
Deposits from banking clients 23 24 (4)
Long-term debt 8 10 (20)
Short-term borrowings 4 6 (33)
Other 6 2 n/m
- --------------------------------------------------------------------------------
Total 55 83 (34)
- --------------------------------------------------------------------------------
Net interest revenue $ 181 $ 204 (11%)
================================================================================
n/m Not meaningful
Client-related daily average balances, interest rates, and average net
interest spread for the third quarters of 2003 and 2002 are summarized in the
following table (dollars in millions):
- --------------------------------------------------------------------------------
Three Months Ended
September 30,
2003 2002
- --------------------------------------------------------------------------------
Interest-Earning Assets (client-related and other):
Investments (client-related):
Average balance outstanding $ 22,168 $ 18,247
Average interest rate 1.20% 1.90%
Margin loans to clients:
Average balance outstanding $ 7,159 $ 7,344
Average interest rate 4.78% 5.79%
Loans to banking clients:
Average balance outstanding $ 5,188 $ 4,226
Average interest rate 4.38% 5.57%
Securities available for sale:
Average balance outstanding $ 1,776 $ 1,590
Average interest rate 3.76% 5.22%
Average yield on interest-earning assets 2.50% 3.47%
Funding Sources (client-related and other):
Interest-bearing brokerage client cash balances:
Average balance outstanding $ 23,269 $ 22,232
Average interest rate .25% .71%
Interest-bearing banking deposits:
Average balance outstanding $ 5,427 $ 4,123
Average interest rate 1.72% 2.39%
Other interest-bearing sources:
Average balance outstanding $ 2,898 $ 1,022
Average interest rate .98% 2.18%
Average noninterest-bearing portion $ 4,697 $ 4,030
Average interest rate on funding sources .49% .89%
Summary:
Average yield on interest-earning assets 2.50% 3.47%
Average interest rate on funding sources .49% .89%
- --------------------------------------------------------------------------------
Average net interest spread 2.01% 2.58%
================================================================================
The decrease in net interest revenue from the third quarter of 2002 was
primarily due to lower rates received on client-related investments, and lower
levels of, and lower rates received on, margin loans to clients and the
Company's cash and cash equivalents, partially offset by lower rates paid on
brokerage client cash balances and higher average balances of client-related
investments.
Principal Transactions
Principal transaction revenues are primarily comprised of revenues from
client fixed income securities trading activity, which are included in the
Capital Markets, Individual Investor, and Institutional Investor segments, and
net gains from market-making activities in equity securities, which are included
in the Capital Markets segment. Factors that influence principal transaction
revenues include the volume of client trades, market price volatility, average
- 20 -
revenue per equity share traded, and changes in regulations and industry
practices.
Principal transaction revenues were $45 million for the third quarter of
2003, down $2 million, or 4%, from the third quarter of 2002, as shown in the
following table (in millions):
- --------------------------------------------------------------------------------
Three Months
Ended
September 30, Percent
Principal Transactions 2003 2002 Change
- --------------------------------------------------------------------------------
Fixed income securities $ 22 $ 25 (12%)
Equity securities 23 19 21
Other - 3 (100)
- --------------------------------------------------------------------------------
Total (1) $ 45 $ 47 (4%)
================================================================================
(1) Includes $6 million in the third quarter of 2003 and $9 million in the
third quarter of 2002 related to Schwab's institutional trading business.
The decrease in principal transaction revenues was primarily due to lower
average revenue per equity share traded, partially offset by higher equity share
volume handled by SCM as a result of increased institutional trading activity,
as well as lower levels of revenues from client fixed income securities trading
activity and revenues related to Schwab's specialist operations.
Other Revenues
Other revenues include fees for services (such as order handling fees),
account service fees, net gains and losses on certain investments, and software
maintenance fees. Other revenues are earned primarily through the Individual
Investor, Institutional Investor, and U.S. Trust segments. These revenues were
$38 million for the third quarter of 2003, up $5 million, or 15%, from the third
quarter of 2002. This increase was primarily due to net losses on investments in
2002 and gains on sales of loans in 2003, partially offset by lower service fees
in 2003.
EXPENSES EXCLUDING INTEREST
Total expenses excluding interest for the third quarter of 2003 was
$854 million, down $167 million, or 16%, from the third quarter of 2002,
primarily due to lower restructuring charges and decreases in almost all expense
categories as a result of the Company's continued expense reduction measures.
Compensation and benefits expense was $445 million for the third quarter of
2003, down $21 million, or 5%, from the third quarter of 2002 primarily due to a
reduction in full-time equivalent employees and lower levels of employee
benefits, partially offset by higher levels of incentive compensation and
discretionary bonuses to employees.
The following table shows a comparison of certain compensation and benefits
components and employee data (dollars in millions, except as noted):
- --------------------------------------------------------------------------------
Three Months
Ended
September 30, Percent
Compensation and Benefits 2003 2002 Change
- --------------------------------------------------------------------------------
Salaries and wages $ 293 $ 320 (8%)
Incentive and variable compensation 93 73 27
Employee benefits and other 59 73 (19)
- --------------------------------------------------------------------------------
Total $ 445 $ 466 (5%)
================================================================================
Compensation and benefits expense as a
% of total revenues 42% 46%
Incentive and variable compensation as a
% of compensation and benefits expense 21% 16%
Compensation for temporary employees,
contractors and overtime hours as a
% of compensation and benefits expense 6% 6%
Full-time equivalent employees
(at end of quarter, in thousands) (1) 16.0 18.8 (15%)
Revenues per average full-time equivalent
employee (in thousands) $65.5 $54.5 20%
- -------------------------------------------------------------------------------
(1) Includes full-time, part-time and temporary employees, and persons employed
on a contract basis.
Employee benefits and other expenses decreased by $14 million, or 19%, from
the third quarter of 2002 primarily due to the continued suspension of the
Company's 401(k) employer contribution, which began in the first quarter of
2003, as well as a reduction in full-time equivalent employees, partially offset
by higher health benefit costs.
Advertising and market development expense was $32 million for the third
quarter of 2003, down $18 million, or 36%, from the third quarter of 2002. The
decrease was primarily due to reductions, as part of the Company's expense
reduction measures, in media spending.
The Company's effective income tax expense rate was 37.1% for the third
quarter of 2003, compared to a tax benefit rate of 33.3% for the third quarter
of 2002.
- 21 -
Nine Months Ended September 30, 2003 Compared To Nine
Months Ended September 30, 2002
FINANCIAL OVERVIEW
The Company's financial performance in the first nine months of 2003
reflects a continued rebound in the securities markets in the third quarter of
2003, following a difficult market environment which pressured both client asset
valuations and trading activity for most of the first half of the year. The
Company's trading revenues in the first nine months of 2003 decreased 4% from
the year-ago period, primarily due to lower average revenue per equity share
traded in the Capital Markets segment (reflected in principal transaction
revenues), and lower client trading activity in the Individual Investor and
Institutional Investor segments (reflected in commission revenues).
Non-trading revenues decreased 4% in the first nine months of 2003 compared
to the year-ago level. The decrease in non-trading revenues was primarily due to
a 16% decrease in net interest revenue and a 13% decrease in other revenues,
partially offset by a 2% increase in asset management and administration fees.
Average margin loans to clients in the first nine months of 2003 decreased 21%
from year-ago levels, which primarily caused the decline in net interest
revenue. Total expenses excluding interest during the first nine months of 2003
were $2.5 billion, down 11% from $2.8 billion during the first nine months of
2002. This decrease was primarily due to lower restructuring charges and
decreases in almost all expense categories as a result of the Company's
continued expense reduction measures.
The reported loss from discontinued operations related to the Company's
sale of its U.K. brokerage subsidiary was $10 million for the first nine months
of 2002, compared to a net gain of zero for the first nine months of 2003. For
further information, see note "6 - Discontinued Operations" in the Notes to
Condensed Consolidated Financial Statements.
In June 2003, the Company sold its investment in Aitken Campbell, a
market-making joint venture in the U.K., to the Company's joint venture partner,
TD Waterhouse Group, Inc. In the first quarter of 2003, the Company recorded an
impairment charge of $5 million pre tax to reduce the carrying value of its
investment and an income tax benefit of $16 million. The Company's share of
Aitken Campbell's historical earnings, which was accounted for under the equity
method, has not been material to the Company's results of operations, EPS, or
cash flows.
Income from continuing operations before taxes on income and extraordinary
gain was $476 million for the first nine months of 2003, up 61% from the first
nine months of 2002. This increase was primarily due to the combination of
factors discussed separately above - lower restructuring charges and declines in
almost all expense categories, partially offset by lower revenues. Net income
for the first nine months of 2003 was $324 million, or $.24 per share, up 72%
from $188 million, or $.14 per share, for the first nine months of 2002. The
Company's after-tax profit margin for the first nine months of 2003 was 10.9%,
up from 6.1% for the first nine months of 2002. The annualized return on
stockholders' equity for the first nine months of 2003 was 10%, up from 6% for
the first nine months of 2002.
In the first nine months of 2003, net income of $324 million included the
following items which in total had the effect of decreasing after-tax income by
$16 million: $38 million of restructuring charges, a $5 million investment
write-down related to the Company's U.K. market-making operation, a $16 million
tax benefit associated with the Company's sale of its U.K. market-making
operation, and an $11 million tax benefit associated with the Company's merger
with U.S. Trust. In the first nine months of 2002, net income of $188 million
included the following items which in total had the effect of decreasing
after-tax income by $131 million: a $10 million loss from discontinued
operations, a $12 million extraordinary gain on the sale of U.S. Trust's
corporate trust business, $117 million of restructuring charges, and $16 million
of acquisition-related charges.
Segment Information: As detailed in note "14 - Segment Information" in the Notes
to Condensed Consolidated Financial Statements, adjusted operating income before
taxes (a non-GAAP income measure) was $542 million for the first nine months of
2003, up $31 million, or 6%, from the first nine months of 2002 primarily due to
increases of $64 million, or 28%, in the Individual Investor segment and
$12 million, or 7%, in the Institutional Investor segment, partially offset by a
decrease of $29 million, or 26%, in the U.S. Trust segment. Additionally, the
Capital Markets segment had a loss before taxes and excluded items of $7 million
in the first nine months of 2003, compared to income before taxes and excluded
items of $9 million in the first nine months of 2002. The changes in the
Individual and Institutional Investor segments were due to lower expenses as a
result of the Company's expense reduction measures, partially offset by lower
client trading activity. The decrease in the U.S. Trust segment was primarily
due to lower average client assets related to declines in market valuations. The
decrease in the Capital Markets segment was primarily due to expense growth,
primarily compensation expense, which exceeded revenue growth.
Restructuring: The Company recorded total pre-tax restructuring charges of
$61 million in the first nine months of 2003. These charges include $31 million
related to the Company's 2003 restructuring initiatives, as well as charges
primarily due to changes in estimates of sublease income associated with
previously announced efforts to sublease
- 22 -
excess facilities. The Company recorded total pre-tax restructuring charges of
$188 million in the first nine months of 2002, all of which related to its 2001
and 2002 restructuring initiatives.
For further information on the Company's restructuring initiatives, see
note "4 - Restructuring" in the Notes to Condensed Consolidated Financial
Statements.
REVENUES
Revenues decreased by $136 million, or 4%, to $3.0 billion in the first
nine months of 2003 compared to the first nine months of 2002, due to a
$99 million, or 16%, decrease in net interest revenue, a $26 million, or 18%,
decrease in principal transaction revenues, a $20 million, or 2%, decrease in
commission revenues, and a $15 million, or 13%, decrease in other revenues,
partially offset by a $24 million, or 2%, increase in asset management and
administration fees. The Company's non-trading revenues represented 67% of total
revenues in the first nine months of 2003 and 2002 as shown in the following
table:
- --------------------------------------------------------------------------------
Nine Months
Ended
September 30,
Composition of Revenues 2003 2002
- --------------------------------------------------------------------------------
Asset management and administration fees 45% 42%
Net interest revenue 18 20
Other 4 5
- --------------------------------------------------------------------------------
Total non-trading revenues 67 67
- --------------------------------------------------------------------------------
Commissions 29 29
Principal transactions 4 4
- --------------------------------------------------------------------------------
Total trading revenues 33 33
- --------------------------------------------------------------------------------
Total 100% 100%
================================================================================
The $136 million decrease in revenues from the first nine months of 2002
was due to decreases in revenues of $75 million, or 4%, in the Individual
Investor segment, $30 million, or 5%, in the Institutional Investor segment, and
$43 million, or 9%, in the U.S. Trust segment, partially offset by a
$12 million, or 6%, increase in the Capital Markets segment. See note "14 -
Segment Information" in the Notes to Condensed Consolidated Financial Statements
for financial information by segment.
Asset Management and Administration Fees
Asset management and administration fees were $1.3 billion for the first
nine months of 2003, up $24 million, or 2%, from the first nine months of 2002,
as shown in the following table (in millions):
- --------------------------------------------------------------------------------
Nine Months
Ended
September 30, Percent
Asset Management and Administration Fees 2003 2002 Change
- --------------------------------------------------------------------------------
Mutual fund service fees:
Proprietary funds
(SchwabFunds(R), Excelsior(R) and other) $ 663 $ 655 1%
Mutual Fund OneSource(R) 200 204 (2)
Other 36 30 20
Asset management and related services 441 427 3
- --------------------------------------------------------------------------------
Total $1,340 $1,316 2%
================================================================================
The increase in asset management and administration fees was primarily due
to higher account fees and increases in average assets in and service fees
earned on Schwab's proprietary funds, partially offset by a decrease in average
U.S. Trust client assets.
During the first nine months of 2003, both net new client assets and new
accounts decreased from the first nine months of 2002 as shown in the following
table:
- --------------------------------------------------------------------------------
Nine Months
Ended
Change in Client Assets and Accounts September 30, Percent
(In billions, except as noted) 2003 2002 Change
- --------------------------------------------------------------------------------
Net change in assets
in client accounts
Net new client assets $ 31.3 $ 37.5
Net market gains (losses) 80.6 (156.6)
- -------------------------------------------------------------------
Net growth (decline) $ 111.9 $(119.1)
===================================================================
New client accounts
(in thousands) 446.8 616.5 (28%)
- --------------------------------------------------------------------------------
Commissions
As shown in the following table (in millions), commission revenues for the
Company were $873 million for the first nine months of 2003, down $20 million,
or 2%, from the first nine months of 2002. This decrease was primarily due to
lower daily average trades and lower revenue per revenue trade.
- --------------------------------------------------------------------------------
Nine Months
Ended
September 30, Percent
Commissions 2003 2002 Change
- --------------------------------------------------------------------------------
Equity and other securities $ 722 $ 741 (3%)
Mutual funds 82 84 (2)
Options 69 68 1
- --------------------------------------------------------------------------------
Total $ 873 $ 893 (2%)
================================================================================
- 23 -
Total commission revenues include $52 million in each of the first nine
months of 2003 and 2002 related to certain securities serviced by Schwab's fixed
income division, including exchange-traded unit investment trusts, real estate
investment trusts, and corporate debt. Additionally, commission revenues include
$76 million in the first nine months of 2003 and $31 million in the first nine
months of 2002 related to Schwab's institutional trading business.
The Company's client trading activity is shown in the following table (in
thousands):
- --------------------------------------------------------------------------------
Nine Months
Ended
September 30, Percent
Daily Average Trades (1) 2003 2002 Change
- --------------------------------------------------------------------------------
Revenue Trades (2)
Online 114.5 112.8 2%
TeleBroker(R) and Schwab by Phone(TM) 4.6 5.9 (22)
Regional client telephone service
centers, branch offices, and other 14.7 16.2 (9)
- --------------------------------------------------------------------------------
Total 133.8 134.9 (1%)
================================================================================
Mutual Fund OneSource(R) and
Other Asset-Based Trades
Online 50.8 47.0 8%
TeleBroker and Schwab by Phone .4 .4 -
Regional client telephone service
centers, branch offices, and other 5.3 10.2 (48)
- --------------------------------------------------------------------------------
Total 56.5 57.6 (2%)
================================================================================
Total Daily Average Trades
Online 165.3 159.8 3%
TeleBroker and Schwab by Phone 5.0 6.3 (21)
Regional client telephone service
centers, branch offices, and other 20.0 26.4 (24)
- --------------------------------------------------------------------------------
Total 190.3 192.5 (1%)
================================================================================
(1) Effective in the third quarter of 2003, the Company considers reduced
exchange trading sessions as half days in calculating daily average trades.
(2) Includes all client trades (both individuals and institutions) that
generate either commission revenue or revenue from principal markups (i.e.,
fixed income).
As shown in the following table, the total number of revenue trades
executed by the Company has decreased 1% as the number of client accounts that
traded has declined, while the trading activity per account that traded has
increased.
- --------------------------------------------------------------------------------
Nine Months
Ended
September 30, Percent
Trading Activity 2003 2002 Change
- --------------------------------------------------------------------------------
Total revenue trades
(in thousands) (1) 25,088 25,367 (1%)
Accounts that traded during
the period (in thousands) 2,249 2,474 (9)
Average revenue trades
per account that traded 11.2 10.3 9
Trading frequency proxy (2) 3.7 3.8 (3)
Number of trading days (3) 187.5 188.0 -
Average revenue earned
per revenue trade $37.33 $37.87 (1)
- --------------------------------------------------------------------------------
(1) Includes all client trades (both individuals and institutions) that
generate either commission revenue or revenue from principal markups (i.e.,
fixed income).
(2) Represents annualized revenue trades per $100,000 in total client assets.
(3) Effective in the third quarter of 2003, the Company considers reduced
exchange trading sessions as half days.
Net Interest Revenue
Net interest revenue was $536 million for the first nine months of 2003,
down $99 million, or 16%, from the first nine months of 2002 as shown in the
following table (in millions):
- --------------------------------------------------------------------------------
Nine Months
Ended
September 30, Percent
2003 2002 Change
- --------------------------------------------------------------------------------
Interest Revenue
Margin loans to clients $ 252 $ 368 (32%)
Investments, client-related 218 255 (15)
Loans to banking clients 169 178 (5)
Securities available for sale 52 59 (12)
Other 28 39 (28)
- --------------------------------------------------------------------------------
Total 719 899 (20)
- --------------------------------------------------------------------------------
Interest Expense
Brokerage client cash balances 62 134 (54)
Deposits from banking clients 69 69 -
Long-term debt 27 37 (27)
Short-term borrowings 11 19 (42)
Other 14 5 180
- --------------------------------------------------------------------------------
Total 183 264 (31)
- --------------------------------------------------------------------------------
Net interest revenue $ 536 $ 635 (16%)
================================================================================
Client-related and other daily average balances, interest rates, and
average net interest spread for the first nine months of 2003 and 2002 are
summarized in the following table (dollars in millions):
- 24 -
- --------------------------------------------------------------------------------
Nine Months Ended
September 30,
2003 2002
- --------------------------------------------------------------------------------
Interest-Earning Assets (client-related and other):
Investments (client-related):
Average balance outstanding $ 21,839 $ 17,425
Average interest rate 1.34% 1.96%
Margin loans to clients:
Average balance outstanding $ 6,716 $ 8,504
Average interest rate 5.02% 5.79%
Loans to banking clients:
Average balance outstanding $ 4,829 $ 4,139
Average interest rate 4.70% 5.75%
Securities available for sale:
Average balance outstanding $ 1,663 $ 1,568
Average interest rate 4.17% 5.07%
Average yield on interest-earning assets 2.65% 3.64%
Funding Sources (client-related and other):
Interest-bearing brokerage client cash balances:
Average balance outstanding $ 23,105 $ 22,496
Average interest rate .36% .80%
Interest-bearing banking deposits:
Average balance outstanding $ 4,879 $ 3,908
Average interest rate 1.90% 2.37%
Other interest-bearing sources:
Average balance outstanding $ 2,579 $ 1,035
Average interest rate 1.12% 2.23%
Average noninterest-bearing portion $ 4,484 $ 4,197
Average interest rate on funding sources .58% .93%
Summary:
Average yield on interest-earning assets 2.65% 3.64%
Average interest rate on funding sources .58% .93%
- --------------------------------------------------------------------------------
Average net interest spread 2.07% 2.71%
================================================================================
The decrease in net interest revenue from the first nine months of 2002 was
due to the factors described in the comparison between the three-month periods.
Principal Transactions
Principal transaction revenues were $121 million for the first nine months
of 2003, down $26 million, or 18%, from the first nine months of 2002, as shown
in the following table (in millions):
- --------------------------------------------------------------------------------
Nine Months
Ended
September 30, Percent
Principal Transactions 2003 2002 Change
- --------------------------------------------------------------------------------
Fixed income securities $ 67 $ 72 (7%)
Equity securities 52 66 (21)
Other 2 9 (78)
- --------------------------------------------------------------------------------
Total (1) $121 $147 (18%)
================================================================================
(1) Includes $12 million in the first nine months of 2003 and $16 million in
the first nine months of 2002 related to Schwab's institutional trading
business.
The decrease in principal transaction revenues was due to the factors
described in the comparison between the three-month periods.
Other Revenues
Other revenues were $99 million for the first nine months of 2003, down
$15 million, or 13%, from the first nine months of 2002. This decrease was due
to lower payments for order flow in 2003, and proceeds from the settlement of a
lawsuit and higher net gains on investments, both in 2002, partially offset by
gains on sales of loans in 2003.
EXPENSES EXCLUDING INTEREST
Total expenses excluding interest were $2.5 billion for the first nine
months of 2003, down $316 million, or 11%, from the first nine months of 2002,
primarily due to lower restructuring charges and decreases in almost all expense
categories as a result of the Company's continued expense reduction measures.
Compensation and benefits expense was $1.3 billion for the first nine
months of 2003, down $80 million, or 6%, from the first nine months of 2002,
primarily due to the factors described in the comparison between the three-month
periods.
The following table shows a comparison of certain compensation and benefits
components and employee data (dollars in millions, except as noted):
- --------------------------------------------------------------------------------
Nine Months
Ended
September 30, Percent
Compensation and Benefits 2003 2002 Change
- --------------------------------------------------------------------------------
Salaries and wages $ 897 $ 957 (6%)
Incentive and variable compensation 228 203 12
Employee benefits and other 186 231 (19)
- --------------------------------------------------------------------------------
Total $1,311 $1,391 (6%)
================================================================================
Compensation and benefits expense as a
% of total revenues 44% 45%
Incentive and variable compensation as a
% of compensation and benefits expense 17% 15%
Compensation for temporary employees,
contractors and overtime hours as a
% of compensation and benefits expense 6% 6%
Revenues per average full-time equivalent
employee (in thousands) $182.1 $163.3 12%
- --------------------------------------------------------------------------------
Employee benefits and other expenses decreased by $45 million, or 19%, from
the first nine months of 2002 primarily due to the factors described in the
comparison between the three-month periods.
- 25 -
Advertising and market development expense was $101 million for the first
nine months of 2003, down $52 million, or 34%, from the first nine months of
2002. This decrease was due to the factors described in the comparison between
the three-month periods.
The Company's effective income tax rate was 31.9% for the first nine months
of 2003, down from 37.7% for the first nine months of 2002. The decrease was due
to tax benefits in 2003 related to the Company's merger with U.S. Trust and the
Company's sale of its U.K. market-making operation.
Liquidity and Capital Resources
CSC is a financial holding company, which is a type of bank holding company
subject to supervision and regulation by the Federal Reserve Board under the
Bank Holding Company Act of 1956, as amended. CSC conducts virtually all
business through its wholly owned subsidiaries. The capital structure among CSC
and its subsidiaries is designed to provide each entity with capital and
liquidity to meet its operational needs and regulatory requirements. See note
"12 - Regulatory Requirements" in the Notes to Condensed Consolidated Financial
Statements.
Liquidity
CSC
CSC's liquidity needs are generally met through cash generated by its
subsidiaries, as well as cash provided by external financing. As discussed
below, Schwab, CSC's depository institution subsidiaries, and SCM are subject to
regulatory requirements that may restrict them from certain transactions with
CSC. Management believes that funds generated by the operations of CSC's
subsidiaries will continue to be the primary funding source in meeting CSC's
liquidity needs, meeting CSC's depository institution subsidiaries' capital
guidelines, and maintaining Schwab's and SCM's net capital. Based on their
respective regulatory capital ratios at September 30, 2003, the Company and its
depository institution subsidiaries are considered well capitalized.
CSC has liquidity needs that arise from its Senior Medium-Term Notes,
Series A (Medium-Term Notes), as well as from the funding of cash dividends,
acquisitions, and other investments. The Medium-Term Notes, of which
$466 million was issued and outstanding at September 30, 2003, have maturities
ranging from 2004 to 2010 and fixed interest rates ranging from 6.04% to 8.05%
with interest payable semiannually (see Item 3 - Quantitative and Qualitative
Disclosures About Market Risk - Financial Instruments Held For Purposes Other
Than Trading - Interest Rate Swaps). The Medium-Term Notes are rated A2 by
Moody's Investors Service (Moody's), A- by Standard & Poor's Ratings Group
(S&P), and A by Fitch IBCA, Inc. (Fitch).
CSC has a prospectus supplement on file with the Securities and Exchange
Commission enabling CSC to issue up to $750 million in Senior or Senior
Subordinated Medium-Term Notes, Series A. At September 30, 2003, all of these
notes remained unissued.
CSC has authorization from its Board of Directors to issue commercial paper
up to the amount of CSC's committed, unsecured credit facility (see below), not
to exceed $1.5 billion. At September 30, 2003, no commercial paper has been
issued. CSC's ratings for these short-term borrowings are P-1 by Moody's, A-2 by
S&P, and F1 by Fitch.
CSC maintains an $800 million committed, unsecured credit facility with a
group of twenty banks which is scheduled to expire in June 2004. This facility
replaced a facility that expired in June 2003. These facilities were unused
during the first nine months of 2003. Any issuances under CSC's commercial paper
program (see above) will reduce the amount available under this facility. The
funds under this facility are available for general corporate purposes and CSC
pays a commitment fee on the unused balance of this facility. The financial
covenants in this facility require CSC to maintain a minimum level of tangible
net worth, and Schwab and SCM to maintain specified levels of net capital, as
defined. Management believes that these restrictions will not have a material
effect on its ability to meet foreseeable dividend or funding requirements.
CSC also has direct access to $778 million of the $828 million uncommitted,
unsecured bank credit lines, provided by nine banks that are primarily utilized
by Schwab to manage short-term liquidity. The amount available to CSC under
these lines is lower than the amount available to Schwab because the credit line
provided by one of these banks is only available to Schwab. These lines were not
used by CSC during the first nine months of 2003.
Schwab
Liquidity needs relating to client trading and margin borrowing activities
are met primarily through cash balances in brokerage client accounts, which were
$25.5 billion and $24.9 billion at September 30, 2003 and December 31, 2002,
respectively. Management believes that brokerage client cash balances and
earnings will continue to be the primary sources of liquidity for Schwab in the
future.
Schwab is subject to regulatory requirements that are intended to ensure
the general financial soundness and liquidity of broker-dealers. These
regulations prohibit Schwab from repaying subordinated borrowings to CSC, paying
cash dividends, or making unsecured advances or loans to its parent or employees
if such payment would result in net capital of less than 5% of aggregate debit
- 26 -
balances or less than 120% of its minimum dollar requirement of $1 million. At
September 30, 2003, Schwab's net capital was $1.2 billion (16% of aggregate
debit balances), which was $1.1 billion in excess of its minimum required net
capital and $832 million in excess of 5% of aggregate debit balances. Schwab has
historically targeted net capital to be at least 10% of its aggregate debit
balances, which primarily consist of client margin loans.
To manage Schwab's regulatory capital requirement, CSC provides Schwab with
a $1.4 billion subordinated revolving credit facility which is scheduled to
expire in September 2004. The amount outstanding under this facility at
September 30, 2003 was $220 million. Borrowings under these subordinated lending
arrangements qualify as regulatory capital for Schwab.
Upon adoption of Financial Accounting Standards Board Interpretation
(FIN) No. 46 - Consolidation of Variable Interest Entities, an Interpretation of
Accounting Research Bulletin No. 51 - Consolidated Financial Statements in the
first quarter of 2003, the Company consolidated a special purpose trust (Trust)
that was formed in 2000 to finance the acquisition and renovation of an office
building and land. See note "2 - New Accounting Standards" in the Notes to
Condensed Consolidated Financial Statements. Upon adoption of FIN No. 46 in the
first quarter of 2003, Schwab recorded long-term debt totaling $235 million,
which was outstanding at September 30, 2003. The long-term debt consists of a
variable-rate note maturing in June 2005. The interest rate on the note was
1.55% at September 30, 2003, and ranged from 1.54% to 1.66% during the quarter,
and 1.54% to 1.82% for the first nine months of 2003. The building and land have
been pledged as collateral for the long-term debt. Additionally, the Company has
guaranteed the debt of the Trust up to a maximum of $202 million. The lender
does not have recourse to any other assets of the Company.
To manage short-term liquidity, Schwab maintains uncommitted, unsecured
bank credit lines with a group of nine banks totaling $828 million at
September 30, 2003 (as noted previously, $778 million of these lines are also
available for CSC to use). The need for short-term borrowings arises primarily
from timing differences between cash flow requirements and the scheduled
liquidation of interest-bearing investments. Schwab used such borrowings for 6
days during the first nine months of 2003, with the daily amounts borrowed
averaging $22 million. There were no borrowings outstanding under these lines at
September 30, 2003.
To satisfy the margin requirement of client option transactions with the
Options Clearing Corporation (OCC), Schwab had unsecured letter of credit
agreements with nine banks in favor of the OCC aggregating $630 million at
September 30, 2003. Schwab pays a fee to maintain these letters of credit. No
funds were drawn under these letters of credit at September 30, 2003.
U.S. Trust
U.S. Trust's liquidity needs are generally met through earnings generated
by its operations.
U.S. Trust is subject to the Federal Reserve Board's risk-based and
leverage capital guidelines. These regulations require banks and bank holding
companies to maintain minimum levels of capital. In addition, USTC's depository
institution subsidiaries are subject to limitations on the amount of dividends
they can pay to USTC.
In addition to traditional funding sources such as deposits, federal funds
purchased, and repurchase agreements, USTC's depository institution subsidiaries
have established their own external funding sources. At September 30, 2003,
U.S. Trust had $50 million in Trust Preferred Capital Securities outstanding
with a fixed interest rate of 8.41%. Certain of USTC's depository institution
subsidiaries have established credit facilities with the Federal Home Loan Bank
System (FHLB) totaling $758 million. At September 30, 2003, $500 million was
outstanding under these facilities. Additionally, at September 30, 2003,
U.S. Trust had $546 million of federal funds purchased and $354 million of
repurchase agreements outstanding.
CSC provides U.S. Trust with a $300 million short-term credit facility
maturing in December 2003. Borrowings under this facility do not qualify as
regulatory capital for U.S. Trust. The amount outstanding under this facility
was $45 million at September 30, 2003.
SCM
SCM's liquidity needs are generally met through its equity capital and
borrowings from CSC. Most of SCM's assets are liquid, consisting primarily of
cash and cash equivalents, marketable securities, and receivables from brokers,
dealers and clearing organizations.
SCM's liquidity is affected by the same regulatory net capital requirements
as Schwab (see discussion above). At September 30, 2003, SCM's net capital was
$76 million, which was $75 million in excess of its minimum required net
capital.
SCM may borrow up to $150 million under a revolving subordinated lending
arrangement with CSC which is scheduled to expire in August 2004. Borrowings
under this arrangement qualify as regulatory capital for SCM. The amount
outstanding under this facility at September 30, 2003 was $50 million. The
advances under this facility satisfy increased intra-day capital needs at SCM to
support the expansion of its institutional equities and trading businesses. In
addition, CSC provides SCM with a $50 million short-term credit facility.
Borrowings under this arrangement do not qualify as regulatory capital for SCM.
No funds were drawn under this facility at September 30, 2003.
- 27 -
Schwab Bank
Schwab Bank's current liquidity needs are generally met through deposits
from banking clients and equity capital. Schwab Bank is subject to the same
risk-based and leverage capital guidelines as U.S. Trust (see discussion above),
except that Schwab Bank is subject to a minimum tier 1 leverage ratio of 8% for
its first three years of operations. In addition, Schwab Bank is subject to
limitations on the amount of dividends it can pay to CSC.
Schwab Bank has access to traditional funding sources such as deposits,
federal funds purchased, and repurchase agreements. Additionally, CSC provides
Schwab Bank with a $100 million short-term credit facility which matures in
December 2005. Borrowings under this facility do not qualify as regulatory
capital for Schwab Bank. No funds were drawn under this facility at
September 30, 2003.
Liquidity Risk Factors
Specific risk factors which may affect the Company's liquidity position are
discussed in "Management's Discussion and Analysis of Results of Operations and
Financial Condition - Liquidity and Capital Resources - Liquidity Risk Factors"
in the Company's 2002 Annual Report to Stockholders, which is filed as
Exhibit 13.1 to the Company's Form 10-K for the year ended December 31, 2002.
There have been no material changes to these liquidity risk factors in the first
nine months of 2003.
Cash and Capital Resources
The Company's cash position (reported as cash and cash equivalents on the
Condensed Consolidated Balance Sheet) and cash flows are affected by changes in
brokerage client cash balances and the associated amounts required to be
segregated under federal or other regulatory guidelines. Timing differences
between cash and investments actually segregated on a given date and the amount
required to be segregated for that date may arise in the ordinary course of
business and are addressed by the Company in accordance with applicable
regulations. Other factors which affect the Company's cash position and cash
flows include investment activity in securities owned, levels of capital
expenditures, banking client deposit and loan activity, financing activity in
short-term borrowings and long-term debt, payment of dividends, and repurchases
of CSC's common stock.
In the first nine months of 2003, cash and cash equivalents decreased
$599 million, or 19%, to $2.5 billion primarily due to movements of brokerage
client-related funds to meet segregation requirements and increases in
investments in securities available for sale and loans to banking clients,
partially offset by increases in deposits and short-term borrowings. Management
does not believe that this decline in cash and cash equivalents is an indication
of a trend.
The Company's capital expenditures were $101 million in the first nine
months of 2003 compared to $114 million in the first nine months of 2002, or 3%
and 4% of revenues for each period, respectively. Capital expenditures in the
first nine months of 2003 were primarily for software and equipment relating to
the Company's information technology systems and certain facilities. Capital
expenditures as described above include the capitalized costs for developing
internal-use software of $46 million in the first nine months of 2003 and
$53 million in the first nine months of 2002.
During the first nine months of 2003, 4 million of the Company's stock
options, with a weighted-average exercise price of $6.23, were exercised with
cash proceeds received by the Company of $24 million and a related tax benefit
of $4 million. The cash proceeds are recorded as an increase in cash and a
corresponding increase in stockholders' equity. The tax benefit is recorded as a
reduction in income taxes payable and a corresponding increase in stockholders'
equity.
The Company increased its long-term debt by $235 million (see discussion
above in "Liquidity - Schwab") and repaid $100 million of long-term debt during
the first nine months of 2003.
The Company increased its short-term borrowings by $894 million during the
first nine months of 2003, primarily at U.S. Trust to fund increases in loans to
banking clients.
During the first nine months of 2003, CSC repurchased 4 million shares of
its common stock for $32 million. During the first nine months of 2002, CSC
repurchased 24 million shares of its common stock for $230 million. On March 14,
2003, the Board of Directors authorized the repurchase of up to an additional
$250 million of CSC's common stock. Including the amount remaining under an
authorization granted by the Board of Directors on September 20, 2001, CSC now
has authority to repurchase a total of $318 million.
During the first nine months of 2003 and 2002, the Company paid common
stock cash dividends of $49 million and $45 million, respectively.
- 28 -
The Company monitors both the relative composition and absolute level of
its capital structure. The Company's total financial capital (long-term debt
plus stockholders' equity) at September 30, 2003 was $5.1 billion, up
$435 million, or 9%, from December 31, 2002 due to higher stockholders' equity
and a net increase in long-term debt. At September 30, 2003, the Company had
long-term debt of $776 million, or 15% of total financial capital, that bears
interest at a weighted-average rate of 5.64%. At September 30, 2003, the
Company's stockholders' equity was $4.3 billion, or 85% of total financial
capital.
Commitments
A summary of the Company's principal contractual obligations and other
commitments as of September 30, 2003 is shown in the following table (in
millions). Management believes that funds generated by its operations, as well
as cash provided by external financing, will continue to be the primary funding
sources in meeting these obligations and commitments.
- --------------------------------------------------------------------------------
2004- 2007-
2003 2006 2008 Thereafter Total
- --------------------------------------------------------------------------------
Operating leases (1) $ 100 $ 579 $ 298 $ 625 $1,602
Long-term debt (2) - 440 53 258 751
Credit-related financial
instruments (3) 1,569 171 - - 1,740
Other commitments (4) 5 10 - - 15
- --------------------------------------------------------------------------------
Total $1,674 $1,200 $ 351 $ 883 $4,108
================================================================================
(1) Includes minimum rental commitments, net of sublease commitments, and
maximum guaranteed residual values under noncancelable leases for
equipment.
(2) Excludes the effect of interest rate swaps, see Item 3 - Quantitative and
Qualitative Disclosures About Market Risk - Financial Instruments Held For
Purposes Other Than Trading - Interest Rate Swaps.
(3) Includes U.S. Trust and Schwab Bank firm commitments to extend credit
primarily for mortgage loans to banking clients and standby letters of
credit.
(4) Includes committed capital contributions to venture capital funds.
In addition to the commitments summarized above, in the ordinary course of
its business the Company has entered into various agreements with third-party
vendors, including agreements for advertising, sponsorships of sporting events,
data processing equipment purchases, licensing, and software installation. These
agreements typically can be canceled by the Company if notice is given according
to the terms specified in the agreements.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Financial Instruments Held For Trading Purposes
The Company holds fixed income securities, which include municipal and
government securities, and corporate bonds, in inventory to meet clients'
trading needs. The fair value of such inventory was approximately $78 million
and $34 million at September 30, 2003 and December 31, 2002, respectively. These
securities, and the associated interest rate risk, are not material to the
Company's financial position, results of operations, or cash flows.
The Company maintains inventories in exchange-listed, Nasdaq, and other
equity securities on both a long and short basis. The fair value of these
securities at September 30, 2003 and December 31, 2002 are shown in the
following table (in millions):
- --------------------------------------------------------------------------------
September 30, December 31,
Equity Securities 2003 2002
- --------------------------------------------------------------------------------
Long positions $ 89 $ 79
Short positions (59) (7)
- --------------------------------------------------------------------------------
Net long positions $ 30 $ 72
================================================================================
Using a hypothetical 10% increase or decrease in prices, the potential loss
or gain in fair value is estimated to be approximately $3 million and $7 million
at September 30, 2003 and December 31, 2002, respectively.
In addition, the Company may enter into exchange-traded futures and options
contracts based on equity market indices to hedge potential losses in equity
inventory positions. There were no open futures or options contracts at
September 30, 2003. The notional amounts and fair values of these futures and
options contracts are shown in the following table (in millions):
- --------------------------------------------------------------------------------
September 30, December 31,
Exchange-traded Contracts 2003 2002
- --------------------------------------------------------------------------------
Net Short Futures (1):
Notional Amount - $ 63
Fair Value - $ 61
Long Put Options:
Notional Amount - $ 4
Fair Value - -
- --------------------------------------------------------------------------------
(1) Notional amount represents original contract price of the futures. Fair
value represents the index price. The difference between the notional and
fair value amounts are settled daily in accordance with futures market
requirements.
Using a hypothetical 10% increase or decrease in the underlying indices,
the potential loss or gain in fair value was estimated to be approximately
$6 million at December 31, 2002, which would substantially offset the
- 29 -
potential loss or gain on the equity securities previously discussed.
Value-at-risk
All trading activities are subject to market risk limits established by the
Company's businesses and approved by senior management who are independent of
the businesses. The Company manages trading risk through position policy limits,
value-at-risk (VAR) measurement methodology, and other market sensitivity
measures. Based on certain assumptions and historical relationships, VAR
estimates a potential loss from adverse changes in the fair values of the
Company's overnight trading positions. To calculate VAR, the Company uses a 99%
confidence level with a one-day holding period for most instruments. Stress
testing is performed on a regular basis to estimate the potential loss from
severe market conditions. It is the responsibility of the Company's Risk
Management department, in conjunction with the businesses, to develop stress
scenarios and use the information to assess the ongoing appropriateness of
exposure levels and limits.
The Company holds fixed income securities and equities for trading
purposes. The estimated VAR for both fixed income securities and equities at
September 30, 2003 and the high, low, and daily average during the first nine
months of 2003 was $1 million or less for each category and stated period.
The VAR model is a risk analysis tool that attempts to measure the
potential losses in fair value, earnings, or cash flows from changes in market
conditions and may not represent actual losses in fair value that may be
incurred by the Company. The Company believes VAR provides an indication as to
the Company's loss exposure in future periods. However, VAR relies on historical
data and statistical relationships. As a result, VAR must be interpreted with an
understanding of the method's strengths and limitations. The Company actively
works to improve its measurement and use of VAR.
Financial Instruments Held For Purposes Other Than Trading
Debt Issuances
At September 30, 2003, CSC had $466 million aggregate principal amount of
Medium-Term Notes, with fixed interest rates ranging from 6.04% to 8.05%. At
December 31, 2002, CSC had $566 million aggregate principal amount of
Medium-Term Notes, with fixed interest rates ranging from 6.04% to 8.05%. See
"Interest Rate Swaps" below.
At September 30, 2003 and December 31, 2002, U.S. Trust had $50 million
Trust Preferred Capital Securities outstanding, with a fixed interest rate of
8.41%.
The Company has fixed cash flow requirements regarding these long-term debt
obligations due to the fixed rate of interest. The fair value of these
obligations at September 30, 2003 and December 31, 2002, based on estimates of
market rates for debt with similar terms and remaining maturities, approximated
their carrying amount.
Interest Rate Swaps
As part of its consolidated asset and liability management process, the
Company utilizes interest rate swap agreements (Swaps) to manage interest rate
risk.
U.S. Trust uses Swaps to hedge the interest rate risk associated with its
variable rate deposits from banking clients. The Swaps are structured for
U.S. Trust to receive a variable rate of interest and pay a fixed rate of
interest. Information on these Swaps is summarized in the following table:
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September 30, December 31,
2003 2002
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Notional principal amount (in millions) $ 705 $ 790
Weighted-average variable interest rate 1.13% 1.57%
Weighted-average fixed interest rate 6.41% 6.38%
Weighted-average maturity (in years) 1.3 1.8
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These Swaps have been designated as cash flow hedges under SFAS No. 133 -
Accounting for Derivative Instruments and Hedging Activities, and are recorded
on the Condensed Consolidated Balance Sheet, with changes in their fair values
primarily recorded in other comprehensive income (loss), a component of
stockholders' equity. At September 30, 2003 and December 31, 2002, U.S. Trust
recorded a derivative liability of $43 million and $64 million, respectively,
for these Swaps. Based on current interest rate assumptions and assuming no
additional Swaps are entered into, U.S. Trust expects to reclassify
approximately $32 million, or $19 million after tax, from other comprehensive
loss to interest expense over the next twelve months.
CSC uses Swaps to effectively convert the interest rate characteristics of
a portion of its Medium-Term Notes from fixed to variable. These Swaps are
structured for CSC to receive a fixed rate of interest and pay a variable rate
of interest based on the three-month LIBOR rate. The variable interest rates
reset every three months. Information on these Swaps is summarized in the
following table:
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September 30, December 31,
2003 2002
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Notional principal amount (in millions) $ 293 $ 293
Weighted-average variable interest rate 3.59% 3.87%
Weighted-average fixed interest rate 7.57% 7.57%
Weighted-average maturity (in years) 5.5 6.3
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These Swaps have been designated as fair value hedges under SFAS No. 133,
and are recorded on the Condensed Consolidated Balance Sheet. Changes in fair
value of the Swaps are completely offset by changes in fair value of the hedged
Medium-Term Notes. Therefore, there is no effect on net income. At September 30,
2003, CSC recorded a derivative asset of $25 million for these Swaps.
Concurrently, the carrying value of the Medium-Term Notes was increased by
$25 million.
Loans Held for Sale
Schwab Bank's loans held for sale portfolio consists of fixed-rate and
hybrid mortgages, which are subject to a loss in value when market interest
rates rise. Schwab Bank uses forward sale commitments to manage this risk. At
September 30, 2003, the forward sale commitments were designated as hedging
instruments of the loans held for sale in effective cash flow hedges.
Accordingly, the fair values of the forward sale commitments are recorded on the
Condensed Consolidated Balance Sheet, with gains or losses recorded in other
comprehensive income (loss). At September 30, 2003, the derivative asset
recorded by Schwab Bank for these forward sale commitments was immaterial.
Deferred Compensation
The Company maintains investments in mutual funds related to its deferred
compensation plan, which is available to certain employees. These investments
were approximately $68 million and $49 million at September 30, 2003 and
December 31, 2002, respectively. These securities, and the associated market
risk, are not material to the Company's financial position, results of
operations, or cash flows.
Value-at-risk
The estimated VAR for equities held for purposes other than trading, which
primarily consist of mutual funds related to the Company's deferred compensation
plan and an equity investment, was $2 million at September 30, 2003 with a high,
low, and daily average of $2 million, $1 million, and $1 million, respectively,
during the first nine months of 2003. The estimated VAR for short-term
investments, which are subject to interest rate risk, held for purposes other
than trading at September 30, 2003 and the high, low, and daily average during
the first nine months of 2003 was $1 million or less for each. The estimated VAR
for foreign exchange investments, which consist of equity investments in the
Company's international subsidiaries, at September 30, 2003 and the high, low,
and daily average during the first nine months of 2003 was $1 million or less
for each.
Net Interest Revenue Simulation
The Company uses net interest revenue simulation modeling techniques to
evaluate and manage the effect of changing interest rates. The simulation model
(the model) includes all interest-sensitive assets and liabilities, as well as
Swaps utilized by the Company to hedge its interest rate risk. Key variables in
the model include assumed margin loan and brokerage client cash balance growth
or decline, changes in the level and term structure of interest rates, the
repricing of financial instruments, prepayment and reinvestment assumptions,
loan, banking deposit, and brokerage client cash balance pricing and volume
assumptions. The simulations involve assumptions that are inherently uncertain
and, as a result, the simulations cannot precisely estimate net interest revenue
or precisely predict the impact of changes in interest rates on net interest
revenue. Actual results may differ from simulated results due to the timing,
magnitude, and frequency of interest rate changes as well as changes in market
conditions and management strategies, including changes in asset and liability
mix.
As demonstrated by the simulations presented below, the Company is
positioned so that the consolidated balance sheet produces an increase in net
interest revenue when interest rates rise and, conversely, a decrease in net
interest revenue when interest rates fall (i.e., interest-earning assets are
repricing more quickly than interest-bearing liabilities).
The simulations in the following table assume that the asset and liability
structure of the consolidated balance sheet would not be changed as a result of
the simulated changes in interest rates. As the Company actively manages its
consolidated balance sheet and interest rate exposure, in all likelihood the
Company would take steps to manage any additional interest rate exposure that
could result from changes in the interest rate environment. The following table
shows the results of a gradual 100 basis point increase or decrease in interest
rates relative to the Company's current base rate forecast on simulated net
interest revenue over the next twelve months at September 30, 2003 and
December 31, 2002.
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Impact on Net Interest Revenue September 30, December 31,
Percentage Increase (Decrease) 2003 2002
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Increase of 100 basis points 2.0% 5.3%
Decrease of 100 basis points (7.8%) (12.1%)
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Item 4. Controls and Procedures
The Company's management, with the participation of the Company's Chief
Executive Officer and Chief Financial Officer, has evaluated the effectiveness
of the Company's disclosure controls and procedures as of September 30, 2003.
Based on this evaluation, the Company's Chief Executive Officer and Chief
Financial Officer concluded that the Company's disclosure controls and
procedures are effective for gathering, analyzing, and disclosing the
information the Company is required to disclose in the reports it files under
the Securities Exchange Act of 1934, within the time periods specified in the
Securities and Exchange Commission's rules and forms. Such evaluation did not
identify any change in the Company's internal control over financial reporting
that occurred during the quarter ended September 30, 2003 that has materially
affected, or is reasonably likely to materially affect, the Company's internal
control over financial reporting.
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
United States Trust Company of New York (U.S. Trust NY) was Escrow Agent
and Indenture Trustee in connection with an offering of approximately
$130 million in senior secured redeemable notes issued in July 1998 by Epic
Resorts, LLC (Epic Notes). In January 2002, certain noteholders filed a
complaint in the Supreme Court of New York, New York County against
U.S. Trust NY, alleging that U.S. Trust NY failed to comply with its obligations
as Escrow Agent and Indenture Trustee on the Epic Notes. In August 2003, the
parties agreed to a settlement of the case. Under the terms of the settlement,
plaintiffs released U.S. Trust NY from all liability. Other than an immaterial
deductible, the settlement was paid by USTC's insurance carrier. Although USTC
sold its Corporate Trust business in 2001, under the sale agreement, USTC
retained responsibility for certain litigation, including this case.
As with other major mutual fund companies in the United States and
broker-dealers that distribute mutual fund shares, affiliates of the Company are
responding to inquiries from federal and state regulators as part of an
industry-wide review of mutual fund trading, distribution and servicing
practices. For further information, see Regulatory Developments in Part I -
Financial Information, Item 2 - Management's Discussion and Analysis of
Financial Condition and Results of Operations - Description of Business -
Business Strategy.
Item 2. Changes in Securities and Use of Proceeds
None.
Item 3. Defaults Upon Senior Securities
None.
Item 4. Submission of Matters to a Vote of Security Holders
None.
Item 5. Other Information
None.
Item 6. Exhibits and Reports on Form 8-K
(a) The following exhibits are filed as part of this quarterly report on
Form 10-Q.
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Exhibit
Number Exhibit
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10.256 Separation Agreement and General Release by and among The Charles
Schwab Corporation, Charles Schwab & Co., Inc., and John Philip
Coghlan dated July 25, 2003.
12.1 Computation of Ratio of Earnings to Fixed Charges.
31.1 Certification Pursuant to Rule 13a-14(a)/15d-14(a), As Adopted
Pursuant to Section 302 of The Sarbanes-Oxley Act of 2002.
31.2 Certification Pursuant to Rule 13a-14(a)/15d-14(a), As Adopted
Pursuant to Section 302 of The Sarbanes-Oxley Act of 2002.
32.1 Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant
to Section 906 of The Sarbanes-Oxley Act of 2002.**
32.2 Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant
to Section 906 of The Sarbanes-Oxley Act of 2002.**
** Furnished as an exhibit to this quarterly report on Form 10-Q.
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(b) Reports on Form 8-K
On July 23, 2003, the Registrant furnished a Current Report on Form 8-K
announcing under Item 9 (Information Provided Under Item 12) in accordance with
Securities and Exchange Commission Release No. 33-8216, the financial results
for the quarter ended June 30, 2003.
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THE CHARLES SCHWAB CORPORATION
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
THE CHARLES SCHWAB CORPORATION
(Registrant)
Date: November 14, 2003 /s/ Christopher V. Dodds
------------------------ -------------------------------
Christopher V. Dodds
Executive Vice President and
Chief Financial Officer
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