We believe this information reflects all adjustments, consisting of normal recurring adjustments, necessary for a fair statement of the consolidated statements of financial position, profit, changes in equity, and cash flows for the periods presented. The preparation of financial statements, in conformity with accounting principles generally accepted in the United States of America, requires management to make estimates and assumptions that affect the reported amounts. The most significant estimates are the allowance for credit losses and residual values for leased assets. Other significant estimates are the assumptions used to determine the fair value of derivatives and retained interests in securitizations. Actual results may differ from these estimates and the results for interim periods do not necessarily indicate the results we expect for the year.

Certain amounts for prior periods have been reclassified to conform to the current period presentation.

Our segment data is based on disclosure requirements of Statement of Financial Accounting Standards No. 131, which requires that financial information be reported on the basis that is used internally for measuring segment performance. Internally, we report information for operating segments based on management responsibility. The five segments offer primarily the same types of services.

On January 1, 2005, a portion of Cat Power Finance was reclassified to the North America segment. Prior year data has been reclassified to conform to the new structure. We segregate information as follows:

Debt and other expenses for the Global Accounts, Marine Services, and Cat Power Finance divisions are allocated to their respective segments from the North America, Europe, and/or Asia-Pacific segments based on their respective portfolios. The related interest expense is calculated based on the amount of allocated debt at current market rates.and the rates associated with that debt. Inter-segment revenues are also based on current market rates.the amount of respective portfolio and the rates associated with that portfolio.

Our earnings and cash flow are subject to fluctuations due to changes in foreign currency exchange rates and interest rates. Our “RiskRisk Management Policy”Policy (Policy) allows for the use of derivative financial instruments to prudently manage foreign currency exchange rate and interest rate exposure. Our Policy specifies that derivatives are not to be used for speculative purposes. Derivatives that we use are primarily foreign currency forward and option contracts and interest rate swaps. Our derivative activities are subject to the management, direction, and control of our senior financial officers. Risk management practices, including the use of financial derivative instruments, are presented to the Audit Committee of the Caterpillar Inc. Board of Directors at least annually.

In managing foreign currency risk, our objective is to minimize earnings volatility resulting from conversion and the remeasurementre-measurement of net foreign currency balance sheet positions. Our Policy allows the use of foreign currency forward contracts to offset the risk of currency mismatch between our receivables and debt. None of these foreign currency forward contracts are designated as a hedge. Other revenue included gains of $10$23 and $16$1 on the undesignated contracts for the three months ended March 31,(gains of $34 and $17 for the six months ended) June 30, 2005 and 2004, respectively, substantially offset by balance sheet remeasurementre-measurement and conversion losses.

Due to the long-term nature of our net investments in foreign subsidiaries, we generally do not hedge the related currency exposure.

Interest rate movements create a degree of risk to our operations by affecting the amount of our interest payments and the value of our fixed rate debt. Our practice is to use interest rate swap agreements to manage our exposure to interest rate changes and in some cases to lower the cost of borrowed funds.

We have a match funding policy wherebythat addresses interest rate risk by aligning the interest rate profile (fixed rate or floating rate) of our debt portfolio largely matcheswith the interest rate profile of our receivables portfolio within established guidelines.pre-determined ranges on an ongoing basis. In connection with that policy, we use interest rate derivative instruments to modify the debt structure to match these assets.assets within the receivables portfolio. This match funding reduces the volatility of margins between interest-bearing assets and interest-bearing liabilities, regardless of which direction interest rates move. We alsoAt times, the use of these instruments to gain an economic and/or competitive advantage throughresults in a lowerlowered cost of borrowed funds. This is accomplished by changing the characteristics of existing debt instruments or entering into new agreements in combination with the issuance of new debt.

There were no circumstances where hedge treatment was discontinued during the three or six months ended March 31,June 30, 2005 or 2004.

As of June 30, 2005, and 2004, a gain or loss of less than $1 was included in Other revenue for both the ineffectiveness of our floating-to-fixed interest rate swaps designated as cash flow hedges and our mark-to-market of floating-to-fixed interest rate swaps that are not designated as a hedge.

We have guaranteed to repurchase loans of certain Caterpillar dealers from third party lenders in the event of default. These guarantees nowarose in conjunction with our relationship with third party dealers who sell Caterpillar equipment. These guarantees generally have one-year terms and are secured primarily by dealer assets, including Caterpillar equipment. Most of our guarantees arose due to our relationship with Caterpillar dealers.assets. We have also provided a limited indemnity to a third party bank with a current maximum payment amount of $43for $42 resulting from the assignment of certain leases to that bank. The leases are supported by, among other things, political risk insurance. The indemnity is triggered only if a valid claim under the political risk insurance is filed by the insurer rated “A” or higher by A.M. Best and Company; the claim is accepted by such insurer when filed; and such insurer subsequently fails to pay such claim because the insurer then becomes insolvent. The indemnity is for eight yearsexpires December 15, 2012 and is unsecured. No loss has been experienced or is anticipated under these guarantees. The related book value (liability) was $10 at March 31,At June 30, 2005, and December 31, 2004.2004, the book value of these guarantees was $9 and $10, respectively. The maximum potential amount of future payments (undiscounted and without reduction for any amount that may possibly be recovered under recourse or collateralized provisions) we could be required to make under the guarantees are as follows:

On April 28,During the second quarter of 2005, we completed a public securitization ofsecuritized retail installment sale contracts and finance leases. The netleases into a public asset-backed securitization facility. These finance receivables, which are being held in a securitization trust, are secured by new and used equipment. We retained servicing responsibilities and subordinated interests related to this securitization. Subordinated interests include subordinated certificates with an initial fair value of $8, an interest in future cash flows (excess) with an initial fair value of $1, and a reserve account with an initial fair value of $12. Our retained interests are generally subordinate to the investors' interests. Net proceeds includingreceived were $850, which includes both cash proceeds and retained interests. A net gain of $12 was recognized on this transaction. We determine the fair value based on discounted cash flow models that incorporate assumptions including credit losses, prepayment rates, and discount rates. These assumptions are based on our historical experience, market trends, and anticipated performance relative to the particular assets securitized. Significant assumptions used to estimate the fair value of the retained interests and subordinate certificates include a 10.8% discount rate, a weighted-average prepayment rate of 14.0%, and expected credit losses of 1.0%. We receive annual servicing fees of 1.0% of the unpaid note value.

In the second quarter of 2004, a public securitization also occurred. Subordinated interests included subordinated certificates with an initial fair value of $8, an interest in future cash flows (excess) with an initial fair value of $2, and a reserve account with an initial fair value of $10. Net proceeds received were $850$659, which includes both cash proceeds and retained interests. A net gain of $13 was recognized on this transaction. Significant assumptions used to estimate the fair

In June 2005, the wholesale securitization was restructured. As a result, the trust was terminated and the net gain was $12.receivables held by the trust were transferred back to Cat Financial. Cat Financial transferred an undivided interest in the receivables to the third party purchasers. In accordance with Statement of Financial Accounting Standard 140 (SFAS

The preparation of financial statements, in conformity with accounting principles generally accepted in the United States of America, requires management to make estimates and assumptions that affect reported amounts. The most significant estimates include those related to our residual values for leased assets and forto our allowance for credit losses. Actual results may differ from these estimates.

The residual value, which is the estimated future wholesale market value of leased equipment at the time of the expiration of the lease term, represents a careful analysis of historical wholesale market sales prices, projected forward on a level trend line without consideration for inflation or possible future pricing action. At the inception of the lease, the residual value is derived from consideration of the following critical factors: market size and demand, any known significant market/product trends, total expected hours of usage, machine configuration, application, location, model changes, quantities, and past re-marketing experience. Many impact factors are gathered in an application survey that is completed prior to quotation. The lease agreement also clearly defines applicable return conditions and remedies for non-compliance, in order to ensure that the leased equipment will be in good operating condition upon return. Model changes and updates, as well as market strength and product acceptance, are monitored, and residual adjustments are made in accordance with the significance of any such changes. Remarketing sales staff works closely with customers and dealers to manage the sale of lease returns and the recovery of residual exposure. During the term of the leases, residual amounts are monitored. If estimated market values significantly decline due to economic factors, obsolescence, or other adverse circumstances, the residuals are adjusted to the lower estimated values by a charge to earnings. For equipment on operating leases, the charge is recognized through depreciation expense. For finance leases, it is recognized through a reduction of finance revenue.

The allowance for credit losses is evaluated on a regular basis and adjusted based upon management's best estimate of probable losses inherent in our finance receivables. In estimating probable losses, we review accounts that are past due, non-performing, or in bankruptcy. We also review accounts that may be at risk using information available about the customer, such as financial statements, news reports, and published credit ratings. We also use general information regarding industry trends and the general economic environment. Using an estimate of current fair market value of collateral and factoring in credit enhancements, such as additional collateral and third party guarantees, we arrive at an estimated loss for specific accounts and estimate an additional amount for the remainder of the finance receivables based upon historical trends. Adverse economic conditions or other factors that might cause deterioration of the financial health of our customers could change the timing and level of payments received and thus necessitate a change in our estimated losses.

Wholesale revenue (including revenues related to retained interests in securitized wholesale receivables) and retail finance revenue for the firstsecond quarter of 2005 was $325,$344, an increase of $76$92 from the same period last year. The increase was principally due to a 21%19% increase in the average receivable plus the average retained interests in securitized wholesale receivables balance outstanding and a 5077 basis point increase in the average interest rate. The annualized average interest rate on these assets was 6.41%6.57% for the firstsecond quarter of 2005 compared with 5.91%5.80% for the firstsecond quarter of 2004, including the annualized average interest rate on Notes receivable from Caterpillar.

Operating lease revenue for the firstsecond quarter of 2005 was $188,$192, or $10$16 higher than the same period last year primarily due to an increase in equipment on operating leases that resulted from higher customer demand.

Other revenue for the firstsecond quarter of 2005 was $51, an increase of $12 from the same period last year. The increase was primarily due to a $6 increase in gain on sale of equipment returned from lease and 2004 was $30.a $3 increase in forward points on foreign exchange contracts. Other revenue items for the three months ended March 31,June 30, included:

Interest expense for the firstsecond quarter of 2005 was $173,$188, an increase of $52$67 from the same period last year. This increase was primarily due to the increase in the average cost of funds of 6293 basis points, to 3.50%3.72% for the firstsecond quarter of 2005 from 2.88%2.79% for the firstsecond quarter of 2004, and the impact of a 19%16% increase in average debt levels to fund new finance receivables and operating leases.

Depreciation expense on equipment leased to others was $152,$154, up $10$14 over the firstsecond quarter of 2004 due to the increase in equipment on operating leases discussed in the Revenues section above.

General, operating, and administrative expenses were $76$85 during the firstsecond quarter of 2005 compared to $65$74 the same period last year. The increase primarily resulted from increased labor and other costs to support growth in earning assets. There were 1,3921,459 full-time employees at March 31,June 30, 2005, an increase of 108125 from March 31,June 30, 2004.

The provision for credit losses decreased from $20$32 for the firstsecond quarter of 2004 to $16$20 for the firstsecond quarter of 2005. The allowance for credit losses was 1.38% of finance receivables, net of unearned income, plus retained interestinterests in securitized wholesale receivables at March 31,June 30, 2005, compared to 1.48%1.47% at March 31,June 30, 2004. The decrease in the allowance as a percentage of finance receivables reflects continued improvementimprovements in past due finance receivables and an overall improvement in general economic conditions. The Notes receivable from Caterpillar are not included in this calculation.

Profit for the firstsecond quarter of 2005 was $83,$90, up $11$27 from the firstsecond quarter of 2004.

On a pre-tax basis, profit was up $17 from first quarter 2004,$41, principally due to $30$33 from growth in earning assets, and$12 from a $4 decrease in the provision for credit losses due to improved portfolio health, and $6 from an increased gain on sale of equipment returned from lease, partially offset by $11 from higher operating expenses of $11 and by $6 from the decrease in the interest rate spread.

Total assets were $24,543$24,229 at March 31,June 30, 2005, an increase of $3,981$3,084 over March 31,June 30, 2004, principally due to growth in finance receivables (retail and wholesale).

During the firstsecond quarter of 2005, we financed record new retail business of $2,443,$3,268, compared to $1,969$2,587 during the firstsecond quarter of 2004. The increase of $474$681 was primarily related to increased financing in our North America and Diversified Services segments.

We also manage and service receivables/leases that have been transferred through securitization or sale. These receivables/leases are not available to pay our creditors.

On April 28,Off-balance-sheet securitized wholesale receivables were $240 as of June 30, 2005 we completedand 2004.

Prior to June 2005, our wholesale securitization was a publicrevolving securitization structure whereby eligible dealer receivables purchased from Caterpillar were initially securitized into a trust. The trust subsequently issued a certificate collateralized by a portion of retail installment sale contracts and finance leases. The net proceeds, including cash proceeds andthose dealer receivables to third party purchasers with a corresponding reduction in our retained interests were $850in the trust. The retained interest in securitized wholesale receivables was $2,163 as of June 30, 2004. The trust was a QSPE through August 2004 and thus, in accordance with SFAS 140, was not consolidated. Due to a high volume of dealer receivable financing activity from September through December 2004, we held more than 90% of the beneficial interest of the trust in the form of retained interests. Thus, during this period, the trust did not qualify as a QSPE as defined by SFAS 140. We therefore consolidated the trust in accordance with FIN 46R, “Consolidation of Variable Interest Entities” (revised) as it represents a variable interest entity for which we are the primary beneficiary.

In June 2005, the wholesale securitization was restructured. As a result, the trust was terminated and the net gain was $12, which will be recognizedreceivables held by the trust were transferred back to Cat Financial. Cat Financial transferred an undivided interest in the second quarter 2005 results.receivables to the third party purchasers. In accordance with Statement of Financial Accounting Standard 140 (SFAS

Off-balance-sheet securitized retail receivables at March 31,June 30, were as follows:

Other off-balance-sheet managed receivables/leases at March 31,June 30, were as follows:

The following table shows activity related to the Allowance for credit losses for the three months ended June 30:

Bad debt write-offs, net of recoveries, were $5$3 for the firstsecond quarter of 2005 compared with $11$16 for the firstsecond quarter of 2004. The decrease wasDecreases in write-offs were experienced primarily in the North America segment.and Diversified Services segments. We will continue to monitor the allowance for credit losses to provide for an amount we believe is adequate, after consideringand adjust the valueallowance based upon management’s best estimate of any collateral, to cover uncollectibleprobable losses inherent in our finance receivables.

Finance receivables (excluding Notes receivable from Caterpillar) plus retained interests in securitized wholesale receivables plus rents receivable for operating leases (included in Other assets) that were past due over 30 days were 1.94%2.10% of these receivables at March 31,June 30, 2005, compared to 2.82%2.57% at March 31,June 30, 2004. The improvement was due to improved performance in the Diversified Services and North America segments, where past dues improved 3.782.18 and .68.37 percentage points, respectively. 

Operations for the first threesix months of 2005 were funded with a combination of borrowings, proceeds from sales of receivables, and retained earnings. We do not generate material funding through structured finance transactions.

ForThrough the first quartersix months of 2005, there were no collections of retained interests in securitized wholesale receivables as presented in the first quarterhalf of 2004. BecauseAs discussed in the Managed Assets section above, because the related trust did not meet the non-consolidation criteria for a qualifying special purpose entityQSPE during the first quarterhalf of 2005, we consolidated the trust and included the assets and related cash flows in with our finance receivables in the consolidated statements of financial position and cash flows.

DuringThrough the first quartersix months of 2005, we sold retail finance leases with servicing retained where the investor has no recourse to us. Proceedsgenerated $850 of $10 were receivedcapital resources from the salesecuritization of such contracts.finance receivables. The capital resources derived from the securitization of the finance receivables include both the cash proceeds and the retained interests.