SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2004

OR

     [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934

Commission file number 001-15495

CHARTER ONE FINANCIAL, INC.

(216) 566-5300

NOT APPLICABLE

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 Exchange Act). Yes  [X] No [  ]

The number of shares outstanding of the registrant’s sole class of common stock as of July 31, 2004 was 225,814,336.

TABLE OF CONTENTS

PART I – FINANCIAL INFORMATION

ITEM 1. Financial Statements

CHARTER ONE FINANCIAL, INC. AND SUBSIDIARIES

1

CHARTER ONE FINANCIAL, INC. AND SUBSIDIARIES

2

CHARTER ONE FINANCIAL, INC. AND SUBSIDIARIES

3

CHARTER ONE FINANCIAL, INC. AND SUBSIDIARIES

1.		These interim consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Charter One Financial, Inc. (the “Company” or “Charter One”) Annual Report on Form 10-K for the year ended December 31, 2003. The interim financial statements reflect all adjustments which are, in the opinion of management, necessary for a fair presentation of the results for the periods presented. Such adjustments are of a normal recurring nature. The results of operations for the interim periods disclosed herein are not necessarily indicative of the results that may be expected for a full year.
2.		Charter One has one operating segment, consumer banking, which offers an array of products and services to its customers. Pursuant to its consumer banking strategy, emphasis is placed on building relationships and identifying cross-sell opportunities with its customers, as opposed to building specific lines of business. As a result, Charter One works as an integrated unit to customize solutions for its customers, with business line emphasis and product offerings changing over time as needs and demands change.
3.		On December 31, 2002, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 148, “Accounting for Stock-Based Compensation -Transition and Disclosure,” an amendment of SFAS No. 123, “Accounting for Stock-Based Compensation.” SFAS No. 148 provides alternative methods of transition for an entity that voluntarily changes to the fair value based method of accounting for stock-based employee compensation. It also amends the disclosure provisions of SFAS No. 123 to require prominent disclosure about the effects on reported net income of an entity’s accounting policy decisions with respect to stock-based employee compensation. Finally, SFAS No. 148 amends Accounting Principles Board (“APB”) Opinion No. 28, “Interim Financial Reporting,” to require disclosure about those effects in interim financial information. The Company has elected to continue application of APB Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations in accounting for its stock-based employee compensation plans. Accordingly, no stock-based employee compensation cost is, or is expected to be, reflected in net income, as all options granted under the Company’s stock-based employee compensation plans had an exercise price equal to the market value of the underlying common stock on the date of grant. Had stock-based employee compensation costs of the Company’s stock option plans been determined based on the fair value at the grant dates for awards under those plans consistent with the method of SFAS No. 123, as amended by SFAS No. 148, the Company’s net income and earnings per share would have been reduced to the pro forma amounts indicated below:

The fair value of each stock option grant was estimated on the date of grant using the Black-Scholes option-pricing model with the following assumptions used for grants in the three and six months ended June 30, 2004 and 2003:

4

		The estimated weighted-average date of grant fair value (based on the above option-pricing model and assumptions) was $12.47 and $10.76 for stock options granted in the three months ended June 30, 2004 and 2003, respectively, and $12.44 and $10.98 for stock options granted in the six months ended June 30, 2004 and 2003, respectively.
4.		In January 2003, the FASB issued Interpretation No. (“FIN”) 46, which provides guidance on how to identify a variable interest entity (“VIE”) and determine when the assets, liabilities, noncontrolling interests, and results of operations of a VIE are to be included in a company’s consolidated financial statements. A VIE exists when either the total equity investment at risk is not sufficient to permit the entity to finance its activities by itself, or the equity investors lack one of three characteristics associated with owning a controlling financial interest. Those characteristics include the direct or indirect ability to make decisions about an entity’s activities through voting rights or similar rights, the obligation to absorb the expected losses of an entity if they occur, or the right to receive the expected residual returns of the entity if they occur. In December 2003, the FASB reissued FIN 46 with certain modifications and clarifications. Application of this guidance was effective for interests in certain VIEs commonly referred to as special-purpose entities as of December 31, 2003. Application for all other types of entities was required for periods ending after March 15, 2004, unless previously applied. The adoption of FIN 46 did not have a material impact on the Company’s consolidated financial condition or results of operations.
5.		On May 4, 2004, Citizens Financial Group, Inc. (“Citizens”), a subsidiary of The Royal Bank of Scotland Group plc, announced it reached an agreement to acquire Charter One in a cash transaction. The cash purchase price is $44.50 per share or approximately $10.5 billion. The transaction is expected to close by the fourth quarter of 2004, subject to regulatory approval and approval by Charter One shareholders. A special shareholder meeting to vote on the transaction is scheduled for August 23, 2004. As part of this transaction, Charter One’s national bank charter will remain.
		Citizens is a $78 billion commercial bank holding company. It is headquartered in Providence, Rhode Island, and has more than 880 offices, approximately 1,650 ATMs and more than 15,500 employees in seven states. It operates as Citizens Bank in Connecticut, Delaware, Massachusetts, New Hampshire, New Jersey, Pennsylvania and Rhode Island. Citizens is one of the 20 largest commercial bank holding companies in the United States. Citizens is owned by The Royal Bank of Scotland Group plc.

5

ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

HOLDING COMPANY BUSINESS

The following financial review presents an analysis of the asset and liability structure of Charter One Financial, Inc. and a discussion of the results of operations for each of the periods presented.

General

Headquartered in Cleveland, Ohio, Charter One Financial, Inc., hereafter referred to as “Charter One” or the “Company,” is a financial holding company. Charter One is a Delaware corporation and owns all of the outstanding capital stock of Charter One Bank, N.A., which we sometimes refer to in this document as the “Bank.” The Bank’s primary business is providing consumer banking services to certain major markets in Ohio, Michigan, Illinois, New York, Vermont and in some markets of Massachusetts, Indiana, Connecticut and Pennsylvania. As of June 30, 2004, the Bank and its subsidiaries were doing business through 478 traditional banking centers, 174 in-store banking centers, 29 loan production offices and 1,017 ATMs.

Acquisition

On May 4, 2004, Citizens Financial Group, Inc. (“Citizens”), a subsidiary of The Royal Bank of Scotland Group plc, announced it reached an agreement to acquire Charter One in a cash transaction. The cash purchase price is $44.50 per share or approximately $10.5 billion. The transaction is expected to close by the fourth quarter of 2004, subject to regulatory approval and approval by Charter One shareholders. A special shareholder meeting to vote on the transaction is scheduled for August 23, 2004. As part of this transaction, Charter One’s national bank charter will remain.

Citizens is a $78 billion commercial bank holding company. It is headquartered in Providence, Rhode Island, and has more than 880 offices, approximately 1,650 ATMs and more than 15,500 employees in seven states. It operates as Citizens Bank in Connecticut, Delaware, Massachusetts, New Hampshire, New Jersey, Pennsylvania and Rhode Island. Citizens is one of the 20 largest commercial bank holding companies in the United States. Citizens is owned by The Royal Bank of Scotland Group plc.

Discussion of Forward-Looking Statements

This document, including information incorporated by reference, contains, and future filings by Charter One on Form 10-K, Form 10-Q and Form 8-K and future oral and written statements and press releases by Charter One and its management may contain, forward-looking statements about Charter One which we believe are within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements include, without limitation, statements with respect to anticipated future operating and financial performance, including revenue creation, lending origination, operating efficiencies, loan sales, charge-offs and loan loss provisions, deposits and refinancing of liabilities, growth opportunities, interest rates, acquisition and divestiture opportunities, and synergies, efficiencies, cost savings and funding advantages expected to be realized from prior acquisitions. These forward-looking statements are based on currently available competitive, financial and economic data and management’s views and assumptions regarding future events. These forward-looking statements are inherently uncertain, and investors must recognize that actual results may differ from those expressed or implied in the forward-looking statements. Accordingly, Charter One cautions readers not to place undue reliance on any forward-looking statements.

Many of these forward-looking statements appear throughout this document. Words such as may, could, should, would, believe, anticipate, estimate, expect, intend, plan and similar expressions are intended to identify these forward-looking statements. The important factors discussed below, as well as other factors discussed elsewhere in this document and factors identified in our filings with the Securities and Exchange Commission and those presented elsewhere by our management from time to time, could cause actual results to differ materially from those indicated by the forward-looking statements made in this document. Among the factors that could cause our actual results to differ from these forward-looking statements are:

•

the strength of the United States economy in general and the strength of the local economies in which we conduct our operations; general economic conditions, either nationally or regionally, may be less favorable than expected, resulting in, among other things, a deterioration in the credit quality of our loans and leases and other assets;

6

•		the effects of, and changes in, trade, monetary and fiscal policies and laws, including interest rate policies of the Federal Reserve Board;
•		financial markets, monetary and interest rate fluctuations, particularly the relative relationship of short-term interest rates to long-term interest rates;
•		the timely development of and acceptance of new products and services of Charter One and the perceived overall value of these products and services by users, including the features, pricing and quality compared to competitors’ products and services;
•		the impact of changes in financial services laws and regulations (including laws and regulations concerning taxes, accounting standards, banking, securities and insurance); legislative or regulatory changes may adversely affect the business in which we are engaged;
•		the impact of technological changes;
•		our ability to successfully integrate acquisitions into our existing operations, and the availability of new acquisitions, joint ventures and alliance opportunities that build shareholder value;
•		changes in consumer spending and saving habits; and
•		our success at managing the risks involved in the foregoing.

Charter One disclaims any obligation to update or revise any forward-looking statements based on the occurrence of future events, the receipt of new information, or otherwise.

RESULTS OF OPERATIONS

Performance Overview

Figure 1 sets forth financial results and annualized performance ratios for the three and six months ended June 30, 2004 and 2003, respectively. On January 27, 2004, we prepaid $2.3 billion in fixed rate Federal Home Loan Bank (“FHLB”) advances and incurred a prepayment penalty of $164.5 million before tax ($113.1 million after tax). Because of the unusual nature of the debt prepayment penalty, we believe it is important for comparability purposes to present selected financial results and ratios for the six months ended June 30, 2004 excluding the debt prepayment penalty.

Selected Financial Results and Ratios (Figure 1)

Net Interest Income

7

Net interest income is the difference between the interest and dividend income earned on our loans and investments and the interest expense on our deposits and borrowings. Net interest income is our principal source of earnings. Net interest income is affected by a number of factors including the level, pricing and maturity of interest-earning assets and interest-bearing liabilities, interest rate fluctuations and asset quality, as well as general economic conditions and regulatory policies.

The following table shows average balances, interest earned or paid, and average interest rates for the periods indicated. Nonaccrual loans are included in the average balance of loans. The mark-to-market adjustments on securities available for sale are included in noninterest-earning assets. Noninterest-bearing demand deposit accounts are included in noninterest-bearing liabilities. The cost of liabilities includes the annualized effect of interest rate risk management instruments.

Average Balances, Interest Rates and Yields/Costs (Figure 2)

8

9

Figure 3 shows the approximate relative contribution of changes in average interest rates and volume to changes in net interest income for the periods indicated. Changes not solely attributable to volume or rate have been allocated in proportion to the changes due to volume and rate. Amortization of net deferred loan costs and automobile dealer reserves included as a reduction in interest income was $31.4 and $28.9 million for the three months ended June 30, 2004 and 2003, respectively, and $63.7 and $56.4 million for the six months ended June 30, 2004 and 2003, respectively.

Rate/Volume Analysis (Figure 3)

Net interest income was $308.2 million for the three months ended June 30, 2004, up $12.8 million, or 4.3%, from the second quarter of 2003. Net yield on average interest-earning assets during the second quarter of 2004 was 3.08%, up 24 basis points from the second quarter of 2003. The improvement was attributable to the increase in average noninterest-bearing deposits, as well as a full quarter’s benefit from the prepayment of $2.3 billion in fixed rate FHLB advances on January 27, 2004. These FHLB advances carried a weighted average cost of 6.27% and were due to mature between June 2005 and January 2006.

Net interest income was $612.8 million for the six months ended June 30, 2004, up $18.3 million, or 3.1%, from the comparable period of 2003. Net yield on average interest-earning assets during the six months ended June 30, 2004 was 3.06%, up 15 basis points from the six months ended June 30, 2003. The improvement was attributable to the increase in average noninterest-bearing deposits, as well as five months’ benefit from the prepayment of $2.3 billion in fixed rate FHLB advances discussed above.

Provision for Loan and Lease Losses

The provision for loan and lease losses for the three months ended June 30, 2004 was $7.2 million, a decrease of $28.2 million from the three months ended June 30, 2003. Net charge-offs totaled $17.8 million for the three months ended June 30, 2004, compared to $19.9 million for the three months ended June 30, 2003. The ratio of net charge-offs as a percent of average loans and leases decreased seven basis points to .23% (annualized) for the second quarter of 2004 compared to .30% (annualized) for the second quarter of 2003. The underlying trends in asset classifications, charge-offs and other credit indicators warranted a reduction in the provision for loan and lease losses year over year.

The provision for loan and lease losses for the six months ended June 30, 2004 was $25.8 million, a decrease of $71.1 million from the comparable period of 2003. Net charge-offs totaled $35.3 million for the six months ended

10

June 30, 2004, compared to $53.4 million for the six months ended June 30, 2003. The ratio of net charge-offs as a percent of average loans and leases decreased 18 basis points to .23% (annualized) for the six months ended June 30, 2004 compared to .41% (annualized) for the six months ended June 30, 2003.

See “Financial Condition – Asset Quality” for further information regarding our allowance for loan and lease losses.

Other Income

Other income for the three months ended June 30, 2004 was $166.8 million, a decrease of $11.1 million, or 6.3%, from $178.0 million for the three months ended June 30, 2003. This decrease was primarily attributable to net losses, partially offset by an increase in retail banking income, mortgage banking income and income from leasing operations.

Net losses totaled $14.2 million for the second quarter of 2004, compared to net gains of $108.5 million for the second quarter of 2003. Net losses for the second quarter of 2004 included $26.0 million in net losses from the sale of $1.9 billion of mortgage-backed securities. These mortgage-backed securities were sold as part of our ongoing strategy to reduce single-family exposure and the overall duration of interest-earning assets. We did not utilize any special-purpose entities for the sale of any of our mortgage-backed securities.

Mortgage banking income was $59.3 million for the three months ended June 30, 2004, compared to a loss of $23.9 million for the second quarter of 2003. During the second quarter of 2004, we reduced our valuation allowance on mortgage servicing rights by $47.0 million in response to the increase in interest rates. In the year ago quarter, we increased the valuation allowance on mortgage servicing rights by $9.5 million, and recorded a permanent impairment charge of $37.2 million. Total mortgage banking income, excluding the adjustments to the valuation allowance and the permanent impairment charge discussed above, was $12.3 million and $22.8 million in the second quarters of 2004 and 2003, respectively. This reduction in year over year mortgage banking income was due primarily to the decrease in the portfolio of loans serviced for others and lower mortgage production as compared to 2003. The portfolio of loans serviced for others totaled $15.1 billion, down 10.5% since December 31, 2003 and down 20.3% since June 30, 2003. The related mortgage servicing rights totaled $188.2 million at June 30, 2004. With an average servicing spread of 35.6 basis points, that translates into a servicing asset valuation of 3.5 times the servicing spread.

Retail banking income was $115.2 million for the three months ended June 30, 2004, an increase of $18.1 million, or 18.7%, over the three months ended June 30, 2003. The biggest driver of the increase was deposit-related revenue, which totaled $101.7 million for the three months ended June 30, 2004, up 19.8% over the year ago quarter. The increase in debit card transactions continued to be one of the biggest contributors to deposit-related revenue growth. The dollar volume of debit card transactions was 40% higher in the second quarter of 2004 than in the same quarter of last year. The other components of retail banking revenue included fees from retail brokerage activities ($9.8 million, up 16.4% from the year ago quarter) and other revenue related to retail operations ($3.7 million, down 3.0% from the year ago quarter).

Income from leasing operations was a loss of $597,000 in the second quarter of 2004, compared with a loss of $12.2 million in the second quarter of 2003. Residual value adjustments reduced income by $1.6 million in the three months ended June 30, 2004, and $12.8 million in the year ago quarter.

Other income for the six months ended June 30, 2004 was $172.0 million, a decrease of $167.8 million, or 49.4%, from $339.8 million for the six months ended June 30, 2003. This decrease was primarily attributable to net losses, partially offset by an increase in income from leasing operations. Net losses totaled $105.3 million for the six months ended June 30, 2004, compared to net gains of $185.2 million for the six months ended June 30, 2003. Net losses for the 2004 period included a $164.5 million debt prepayment penalty. As discussed in “Performance Overview” above, we prepaid $2.3 billion in fixed rate FHLB advances in January 2004 and incurred a debt prepayment penalty of $164.5 million before tax. Transactions resulting in net gains and losses are primarily undertaken in an effort to mitigate interest rate risk while still achieving targeted net interest yield by managing the size and mix of the Bank’s interest sensitive asset and liability portfolios.

Income from leasing operations was $1.5 million for the six months ended June 30, 2004, compared with a loss of $19.1 million for the six months ended June 30, 2003. Residual value adjustments reduced income by $21.5 million in the six months ended June 30, 2003.

Administrative Expenses

Administrative expenses were $225.9 million for the three months ended June 30, 2004, an increase of $31.1 million, or 16.0%, from the second quarter of 2003. The increase in administrative expenses was primarily

11

attributable to increased compensation expense and marketing costs. Compensation expense increased $11.3 million and was primarily due to operating more banking centers than a year ago. During 2003, we initiated an aggressive de novo branch expansion plan. These efforts led to the net addition of 130 new banking centers since June 30, 2003, including 36 net new banking centers opened in the second quarter of 2004. Our plan is to continue the expansion in 2004 for a total of 125 additional banking centers. Marketing costs increased by $10.8 million from the year-ago quarter as we provided ongoing support for our retail bank expansion strategy and other franchise enhancing initiatives. Our efficiency ratio was 47.56% for the three months ended June 30, 2004, compared to 41.14% for the three months ended June 30, 2003.

Administrative expenses were $443.9 million for the six months ended June 30, 2004, an increase of $65.9 million, or 17.4%, from the six months ended June 30, 2003. The increase in administrative expenses was substantially the same as for the second quarter results discussed in the above paragraph. Due to the penalty associated with the debt prepayment discussed in “Performance Overview” above, the efficiency ratio was 56.57% for the six months ended June 30, 2004. Excluding the $164.5 million debt prepayment penalty, the efficiency ratio was 46.77% for the six months ended June 30, 2004, compared to 40.46% for the six months ended June 30, 2003.

Federal Income Tax

Federal income tax expense for the three months ended June 30, 2004 was $75.6 million, compared to $77.2 million for the same period in 2003. The primary reason for this decrease in the provision for federal income taxes was a decrease in pre-tax income. The effective tax rate was 31.3% for the 2004 period and 31.8% for the 2003 period.

Federal income tax expense for the six months ended June 30, 2004 was $98.5 million, compared to $145.9 million for the same period in 2003. The primary reason for this decrease in the provision for federal income taxes was a decrease in pre-tax income. This decrease in pre-tax income was primarily attributable to our prepayment penalty of $164.5 million on the early termination of the FHLB advances in the first quarter of 2004. The effective tax rate was 31.3% for the 2004 period and 31.8% for the 2003 period.

FINANCIAL CONDITION

Overview

At June 30, 2004, total assets were $42.5 billion, compared to total assets of $42.6 billion at December 31, 2003.

Loans and Leases

Composition of Loans and Leases (Figure 4)