SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2002 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 Number)
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
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
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Common Stock - $.01 par value New York Stock Exchange
Pacific Exchange
Securities registered pursuant to Section 12(g) of the Act: None
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 if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.
---
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes X No
--- ---
As of June 28, 2002, the aggregate market value of the voting stock held by
nonaffiliates of the registrant was $12,227,271,269. For purposes of this
information, the outstanding shares of Common Stock owned by directors and
executive officers of the registrant, and certain investment companies managed
by Charles Schwab Investment Management, Inc. were deemed to be shares of the
voting stock held by affiliates.
The number of shares of Common Stock outstanding as of March 10, 2003 was
1,352,529,053.
DOCUMENTS INCORPORATED BY REFERENCE
Parts I, II and III of this Form 10-K incorporate certain information contained
in the registrant's 2002 Annual Report to Stockholders by reference to portions
of that document. Part III of this Form 10-K incorporates certain information
contained in the registrant's definitive proxy statement for its annual meeting
of stockholders to be held May 9, 2003 by reference to portions of that
document.
THE CHARLES SCHWAB CORPORATION
Annual Report On Form 10-K
For Fiscal Year Ended December 31, 2002
---------------------------------------
TABLE OF CONTENTS
Part I
Item 1. Business ------------------------------------------------------------ 1
Item 2. Properties --------------------------------------------------------- 14
Item 3. Legal Proceedings -------------------------------------------------- 14
Item 4. Submission of Matters to a Vote of Security Holders ---------------- 14
Item 4A. Executive Officers of the Registrant ------------------------------- 14
Part II
Item 5. Market for Registrant's Common Equity and Related Stockholder
Matters ----------------------------------------------------------- 15
Item 6. Selected Financial Data -------------------------------------------- 15
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations --------------------------------------------- 15
Item 7A. Quantitative and Qualitative Disclosures About Market Risk --------- 16
Item 8. Financial Statements and Supplementary Data ------------------------ 16
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure ---------------------------------------------- 16
Part III
Item 10. Directors and Executive Officers of the Registrant ------------------16
Item 11. Executive Compensation --------------------------------------------- 19
Item 12. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters ------------------------------------ 19
Item 13. Certain Relationships and Related Transactions --------------------- 19
Item 14. Controls and Procedures -------------------------------------------- 20
Part IV
Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K ---- 20
Exhibit Index ----------------------------------------------------- 21
Signatures -------------------------------------------------------- 26
Certifications ------------------------------------------------- 27-29
Index to Financial Statement Schedules --------------------------- F-1
FORWARD-LOOKING STATEMENTS - This Annual Report on Form 10-K, including the
information incorporated by reference, 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," "anticipate," "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 our senior
management. These statements relate to, among other things, the impact of the
sales of its European operations on the Company's results of operations, the
impact of its expense reduction measures on the Company's results of operations,
the Company's ability to pursue its strategy of attracting and retaining client
assets as well as achieve its strategic priorities, and the availability of the
Company's information systems. Achievement of the expressed beliefs, objectives
and expectations is subject to certain risks and uncertainties that could cause
actual results to differ materially from those beliefs, objectives and
expectations. Readers are cautioned not to place undue reliance on these
forward-looking statements, which speak only as of the date of this Annual
Report on Form 10-K or, in the case of documents incorporated by reference, as
of the date of those documents.
THE CHARLES SCHWAB CORPORATION
PART I
Item 1. Business
(a) General Development of Business
The Charles Schwab Corporation (CSC, and with its subsidiaries collectively
referred to as the Company) was incorporated in 1986 and engages, through its
subsidiaries, in securities brokerage and related financial services. Charles
Schwab & Co., Inc. (Schwab) was incorporated in 1971 and is a securities
broker-dealer that entered the discount brokerage business in 1974. U.S. Trust
Corporation (USTC, and with its subsidiaries collectively referred to as U.S.
Trust), which merged with CSC in May 2000, is a wealth management firm that
through its subsidiaries also provides fiduciary services and private banking
services.
Other subsidiaries of CSC include Charles Schwab Investment Management,
Inc. (CSIM), Schwab Capital Markets L.P. (SCM), CyberTrader, Inc. (CyberTrader),
and The Charles Schwab Trust Company (CSTC). CSIM acts as the investment advisor
for Schwab's proprietary mutual funds. The Company refers to certain funds for
which CSIM is the investment advisor as the SchwabFunds(R). SCM is a market
maker in Nasdaq and other securities providing trade execution services
primarily to broker-dealers and institutional clients. CyberTrader, a subsidiary
acquired in March 2000, is an electronic trading technology and brokerage firm
providing services to highly active, online traders. CSTC serves as trustee for
employee benefit plans, primarily 401(k) plans.
Available Information
On the Company's Internet Web site, www.schwab.com, the Company posts the
following filings as soon as reasonably practicable after they are
electronically filed with or furnished to the Securities and Exchange Commission
(SEC): the Company's annual report on Form 10-K, the Company's quarterly reports
on Form 10-Q, the Company's current reports on Form 8-K, and any amendments to
those reports filed or furnished pursuant to Section 13(a) or 15(d) of the
Securities Exchange Act of 1934. All such filings on the Company's Web site are
available free of charge.
Subsequent Events
On January 31, 2003, the Company sold Charles Schwab Europe (CSE), a
subsidiary located in the United Kingdom, to Barclays PLC (Barclays) in a
transaction approved by the Board of Directors (Board) on January 30, 2003. The
impact of this sale on the Company's results of operations is not expected to be
material. See note "27 - Subsequent Event" in the Notes to Consolidated
Financial Statements in the Company's 2002 Annual Report to Stockholders, which
is incorporated herein by reference to Exhibit No. 13.1 of this report.
On March 13, 2003, the Company announced that due to geopolitical
uncertainties and a further decline in its clients' trading activity, it plans
to implement a series of expense reduction measures until such time as the
business environment improves sufficiently. These measures include a
postponement of some of the Company's planned marketing investments, reductions
in discretionary expenses, further restrictions on hiring, and adjustments to
certain employee benefits. These measures are targeted to reduce quarterly
expenses by about $40 million, largely beginning in the second quarter of 2003.
On March 14, 2003, the Board authorized the repurchase of up to an
additional $250 million of CSC's common stock. Including $100 million remaining
under an authorization granted by the Board on September 20, 2001, CSC now has
authority to repurchase a total of $350 million of its common stock. The shares
may be repurchased through open market or privately negotiated transactions
based on prevailing market conditions.
On March 19, 2003, the Company announced an agreement to sell its 50%
ownership interest in Glasgow, Scotland-based Aitken Campbell to its joint
venture partner, TD Waterhouse Group, Inc. The sale is expected to close in the
next few months, subject to regulatory and other approvals. While financial
terms are undisclosed, the Company expects to recognize a tax benefit associated
with this transaction; the effect of this benefit will be to increase net income
by approximately $10 million in the first quarter of 2003. Except for the effect
of the tax benefit, the impact of this sale on the Company's results of
operations is not expected to be material.
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(b) Financial Information About Segments
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 domestic and international retail 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. For financial information by segment and
geographic area, and for revenues by major client for the three years ended
December 31, 2002, see note "25 - Segment Information" in the Notes to
Consolidated Financial Statements in the Company's 2002 Annual Report to
Stockholders, which is incorporated herein by reference to Exhibit No. 13.1 of
this report.
(c) Narrative Description of Business
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. Meeting these investment needs entails
offering a variety of financial services including retail brokerage, investment
and wealth management, custody and fiduciary services, support services for IAs,
investment services to companies and their employees (including 401(k) defined
contribution plans), equity securities market-making, and banking and other
financial services. Additionally, the Company provides institutional clients
with equity trade execution services, mutual fund clearing services, investment
management, and fiduciary services. The Company, through its subsidiaries,
serves 8.0 million active client accounts(a). Client assets in these accounts
totaled $764.8 billion at December 31, 2002.
To pursue its strategy and its objective of long-term profitable growth,
the Company plans to leverage its competitive advantages, which include:
- - a broad range of products, services, and advice offerings,
- - multi-channel delivery systems,
- - an ongoing investment in technology, and
- - nationally recognized brands.
Management continues to believe that the key to sustaining the Company's
competitive advantages will be its ability to combine people and technology in
ways that provide investors with the access, information, guidance, advice and
control they expect - as well as high-quality service - all at a lower cost than
traditional providers of financial services.
The Company's infrastructure and resources are focused on pursuing six
strategic priorities:
- - providing the spectrum of affluent investors with the advice,
relationships, and choices that support their desired investment outcomes;
- - delivering the information, technology, service, and pricing needed to
remain a leader in serving active traders;
- - continuing to provide high-quality service to emerging affluent clients -
those with less than $250,000 in assets;
- - providing individual investing services through employers, including
retirement and option plans as well as personal brokerage accounts;
- - offering selected banking services and developing investment products that
give clients greater control and understanding of their finances; and
- - retaining a strong capital markets business to address investors' financial
product and trade execution needs.
For further discussion on 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 incorporated herein by reference to
Exhibit No. 13.1 of this report.
The table below shows the Company's sources of revenues on a comparative
basis for the three years ended December 31, 2002.
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(a) Accounts with balances or activity within the preceding eight months.
- 2 -
Sources of Revenues
(In millions)
Year Ended December 31,
- ------------------------------------------------------------------------------------------------------------------------------------
2002 2001 2000
----------------------------------------------------------------
Amount Percent Amount Percent Amount Percent
----------------------------------------------------------------
Revenues
Asset management and administration fees
Mutual fund service fees:
Proprietary funds (SchwabFunds(R)
and Excelsior(R)) $ 874 21% $ 818 19% $ 673 12%
Mutual Fund OneSource(R) 264 7% 282 6% 331 6%
Other 42 1% 41 1% 35
Asset management and related services 581 14% 534 12% 544 9%
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Asset management and administration fees 1,761 43% 1,675 38% 1,583 27%
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Commissions
Exchange-listed securities 552 13% 540 12% 832 14%
Nasdaq and other equity securities 444 11% 606 14% 1,126 19%
Mutual funds 111 3% 95 2% 132 2%
Options 99 2% 114 3% 204 4%
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Commissions 1,206 29% 1,355 31% 2,294 39%
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Net interest revenue
Margin loans to clients 459 11% 832 19% 1,772 30%
Investments, client-related 337 8% 555 13% 338 6%
Private banking loans 236 6% 240 5% 219 4%
Securities available for sale 76 2% 79 2% 69 1%
Other 78 2% 151 3% 191 4%
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Interest revenue 1,186 29% 1,857 42% 2,589 45%
Interest expense (345) (9%) (928) (21%) (1,352) (24%)
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Net interest revenue 841 20% 929 21% 1,237 21%
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Principal transactions
Fixed income securities 92 3% 65 2% 53 1%
Nasdaq and other equity securities 80 2% 173 4% 470 8%
Other 12 17 47 1%
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Principal transactions 184 5% 255 6% 570 10%
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Other 143 3% 139 4% 104 3%
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Total revenues $ 4,135 100% $ 4,353 100% $ 5,788 100%
====================================================================================================================================
This table should be read in connection with the Company's consolidated financial statements and notes in the Company's 2002 Annual
Report to Stockholders, which is incorporated herein by reference to Exhibit No. 13.1 of this report. Certain prior years' revenues
and expenses have been reclassified to conform to the 2002 presentation.
Products, Services, and Advice Offerings
The Company offers a broad range of products, services, and advice
offerings to address its clients' varying investment and financial needs. Such
offerings are made through the Company's four segments - Individual Investor,
Institutional Investor, Capital Markets, and U.S. Trust.
Individual Investors
Investors at Schwab, through the Individual Investor segment or indirectly
through the Institutional Investor segment, have access to the accounts,
features, tools, services, and products described below.
Accounts and Features. Through various types of brokerage accounts, Schwab
offers the purchase and sale of securities which include Nasdaq, exchange-listed
and other equity securities, options, mutual funds, unit investment trusts,
variable annuities and fixed income investments, including U.S. Treasuries,
zero-coupon bonds, exchange-listed and over-the-counter corporate bonds,
municipal bonds, Government National Mortgage Association securities and
certificates of deposit. Schwab also offers certain of its clients
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initial and secondary public stock offerings, debt underwritings, and access to
futures and commodities trading. Additionally, Schwab provides clients access to
a variety of life insurance and annuity products through third-party insurance
companies.
Clients approved for margin transactions may borrow a portion of the price
of certain securities purchased through Schwab, or may sell securities short.
Clients must have specific approval to trade options; as of December 31, 2002,
401,000 accounts had such approval. To write uncovered options, clients must go
through an additional approval process and must maintain a significantly higher
level of equity in their brokerage accounts.
Schwab Signature Client(TM) is designed to serve self-directed individual
investors who want to manage their own portfolios. For these clients, Schwab
offers the Schwab One(R) account, which is an asset management account that
allows clients to combine investments and cash in one account. A client may
access available funds in his or her Schwab One account either with a personal
check, a VISA(R) debit card with ATM access, or Schwab BillPay(R), in addition
to the Schwab MoneyLink(R) service offered with all brokerage accounts. When a
Schwab One client is approved for margin trading, the checks and debit card also
provide access to margin cash available. For cash balances awaiting investment,
Schwab pays interest to Schwab One clients. Alternatively, qualifying Schwab One
clients may choose to invest in several SchwabFunds(R) sweep money market funds,
including state-specific municipal tax-exempt funds.
For affluent clients who meet certain trading or asset levels, Schwab
offers additional benefits such as premium research, priority handling of their
service calls, access to IAs, and other services. Additionally, Schwab offers
the Schwab Access(R) account to clients with combined assets of $100,000 or more
at Schwab. The Schwab Access account is a payment account designed to work
alongside the Schwab One account, allowing clients to manage their investments
and conduct many of their cash management activities all within one
relationship. The Schwab Access account features include online bill payment,
unlimited check writing, a VISA Gold debit card with ATM access, returned check
copies, and unlimited money transfers within Schwab accounts. Cash balances in a
Schwab Access account are swept daily into the Schwab Government Cash Reserves
Fund, a sweep money fund.
Schwab Private Client is a fee-based service designed for investors with at
least $500,000 in assets at Schwab who desire investment guidance and advice,
yet want to be actively involved with day-to-day investment decisions. The
Schwab Private Client account is structured with an asset-based pricing fee and
includes portfolio construction guidance, ongoing monitoring, and a number of
commission-free equity trades. Through Schwab Private Client, investors have
access to a team of consultants who can provide financial guidance as discussed
below under "Help and Advice, Investment Education, Research, and Analysis
Tools."
Schwab Signature Platinum(R), the successor to the Schwab Signature
Services(R) program, is designed to meet the specific needs of self-directed
affluent investors with at least $500,000 in assets at Schwab. Schwab Signature
Platinum offers a tailored set of complimentary benefits, including priority
service, an expanded suite of investing resources, and preferred pricing.
For active traders, Schwab offers accounts that include access to special
features and services such as advanced trading tools, priority access to a
dedicated team of trading specialists, and reduced pricing on equity trades.
Additionally, depending on trading levels, active traders may qualify for Schwab
Strategic Trading Resources(TM) benefits, which includes access to a team of
trading experts, free premium research (including foreign stock research),
discounted commissions, and other exclusive benefits. CyberTrader also offers a
brokerage account to its clients. Features of this account include access to
CyberTrader's proprietary software designed to benefit highly active traders and
the choice of manual or automated order routing for placing trades.
Schwab acts as custodian, as well as broker, for Individual Retirement
Accounts (IRAs) and Keogh accounts. In Schwab IRAs, cash balances are swept
daily into one of three SchwabFunds money market funds. Schwab's IRA-related
services include the Personal Rollover Specialist, a service designed to help
clients process transfers of retirement assets from former employers and/or
consolidate their retirement investments. Active IRAs and Keogh accounts at
December 31, 2002 totaled 3,500,000, up 5% from December 31, 2001, while client
assets in all IRAs and Keogh accounts decreased 9% to $184.5 billion.
Help and Advice, Investment Education, Research, and Analysis Tools. The
Company seeks to provide clients with customized advice which is objective,
uncomplicated, and not driven by sales commissions. The Company's approach to
advice is based on long-term investment strategies and guidance on portfolio
diversification and asset allocation. This approach is designed to be offered
consistently across all of Schwab's delivery channels and provides clients with
a wide selection of choices for their investment needs. Schwab's products,
services, and advice offerings cross the spectrum of its clients - those who
manage their own investments and make independent investment decisions, those
who want ongoing access to guidance while retaining control over their
investment decisions, and those who desire to have experienced professionals
manage their assets.
For affluent investors who make independent investment decisions, the
Company offers research, analytic tools, and access to fee-based portfolio
consultations and financial planning services. Clients looking for more guidance
have access to advanced research, trading and planning resources,
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combined with professional advice from Schwab's investment specialists designed
to assist in developing an investment strategy and carrying out investment and
portfolio management decisions.
The Company's full-service advice and relationship service offer includes
the Schwab Advisor Network(TM) (the Network), Schwab Private Client, and Schwab
Equity Ratings(TM).
The Network, the successor to the Schwab AdvisorSource(R) referral program,
is designed for investors who want the assistance of an independent professional
in managing their financial affairs. The IAs in the Network provide investors
with personalized portfolio management, financial planning and wealth management
solutions. The Network has over 340 participating IAs who have an average of 17
years of experience and $500 million of assets under management at December 31,
2002. The Network strengthens the Schwab/advisor/client relationship through a
pricing model that allows for sharing fee income on referred accounts and
features IAs more prominently in advertising that targets affluent investors.
Through a separate program, Schwab clients and potential clients who desire
personalized investment management, wealth management, trust, and private
banking services can receive referrals to U.S. Trust.
Schwab Private Client features a face-to-face advice relationship with a
designated Schwab consultant who offers individualized service, provides ongoing
investment strategy and execution, and acts as a liaison between clients and a
team of Schwab professionals. Additionally, Schwab Private Client provides
access to dedicated support resources, expanded asset management capabilities,
and enhanced portfolio tracking and performance reporting. Schwab Private Client
includes over 160 designated Schwab consultants and their support teams at
December 31, 2002.
Schwab Equity Ratings provide clients with an objective stock rating system
on more than 3,000 stocks, assigning each equity a single grade: A, B, C, D, or
F. On average, A-rated stocks are expected to strongly outperform the overall
market over the next 12 months, while F-rated stocks are expected to strongly
underperform the market. Rated stocks are ranked and the number of 'buy
consideration' ratings - As and Bs - equals the number of 'sell consideration'
ratings - Ds and Fs. Schwab Equity Ratings leverages Schwab's November 2000
acquisition of Chicago Investment Analytics, Inc. (CIA) by applying CIA's
research and technology strengths to a systematic ratings methodology that
complements the variety of perspectives already available to clients from
Goldman Sachs, Standard & Poor's, Argus, and First Call.
Schwab's MarketPlace is an internal Web site which includes the
AdviceSuite, a software platform that enables service representatives to apply a
consistent set of principles and practices when providing market viewpoints and
investment advice. Schwab enhanced MarketPlace to include an 'Investment
Products' home page with lists of investment perspectives across various
products, sectors, and styles. MarketPlace also provides tools to support
discussions with clients about events such as retirement and college planning
and charitable giving. Schwab's Mutual Fund internal Web site provides service
representatives with news, research, and analytic tools designed to support
their fund-related advice interactions with clients. In addition, to support
service representatives' fund-related advice interactions, Schwab's internal
Mutual Fund Web site provides representatives with Morningstar analysis on over
1,400 funds. Schwab redesigned its Mutual Fund Select List(R) to include
qualitative analyses for each asset class as well as an integrated view that
includes asset class summaries, category descriptions, and average expenses for
each fund, presented together on a single page.
Schwab strives to demystify investing by educating and assisting clients in
the development of investment plans. Educational tools include: WebShop(R), a
series of workshops designed to help investors increase their skills in using
Schwab's online services; the Schwab Learning Center(R), interactive courses
designed to help clients learn more about investing principles and use of the
online channel; and the Smart Investor(TM), a centralized location on
schwab.com(TM) for educational information about investing. The Live Online
program is a series of workshops that utilize the Internet to bring Schwab
representatives and clients together to discuss investing strategies, retirement
planning and wealth management in a highly interactive format. Representatives
from the Schwab Center for Investment Research(R), Schwab Equity Research(TM),
and Schwab Investment Center routinely host Webcasts designed to help investors
navigate the current markets. Along with advice on investment objectives,
diversification, and risk management, representatives share their perspectives
on current market conditions and possible investment opportunities.
Schwab provides various Internet-based research and analysis tools which
are designed to help clients achieve better investment outcomes, including: the
Positions Monitor, which tracks clients' mutual fund and equity holdings'
historical performance; the Schwab Portfolio Checkup(R), an asset allocation
tool that also allows clients to include non-Schwab holdings in their analyses;
and SchwabAlerts(R), which delivers investment and market activity news to
clients via both wireless and e-mail. Additionally, Schwab provides a variety of
stock selection tools. For investors seeking ideas, Schwab provides the Stock
Screener, which allows clients to search over 9,000 equities using their own
criteria, and Schwab Stock Lists(TM), which are compiled using an unbiased and
systematic approach. For investors desiring to analyze a specific equity
security, Schwab provides the Charles Schwab Stock Analyzer(R), which provides
data for the specific equity security and helps clients interpret such data.
Schwab's research and analysis tools include OptionStreet(R), which offers
improved online trading screens, tools, and educational content to clients who
use options in managing their portfolios. On the schwab.com 'My Home' section,
clients can view and manage all of their account balances, watch
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lists, quotes, research, and market information on one customizable page.
Additionally, quotes on money market yields and Schwab BillPay(R) enrollment are
available online. Schwab also has a feature on its Web site that guides
prospective clients to selected service offerings, based on their individual
investing behavior and needs.
Trading Technology and Tools. The Company strives to deliver information,
technology, service and pricing which meets the needs of active traders. For
highly active traders, CyberTrader offers integrated software-based trading
platforms - CyberX2(TM) and CyberTrader Pro(TM), which utilize direct access and
intelligent order routing technology. CyberX2 is a user-friendly trading system
with point and click order entry, advanced charting capabilities, streaming
news, stock watch lists, multiple Electronic Communication Network (ECN) Book
quotes, and advanced risk management tools. CyberTrader Pro is a multifaceted
trading platform that offers all of the features of CyberX2 plus additional
features including analytical tools, stock filtering tools, and live charting
capabilities. Additionally, CyberTrader offers CyberTrader.com(TM), a streaming
Web trading platform which includes real-time market data, direct access
technology, intelligent order routing, options trading, and premium stock
research. When clients are away from their trading platforms, CyberTrader keeps
them connected with CyberTrader Wireless(TM), a service giving clients access
via handheld communication devices to order-routing capabilities, real-time
quotes, customizable stock lists, and account information. Through CyberTrader's
Web site, clients have access to CyberTrader U(TM), which offers a variety of
introductory and intermediate online classes committed to assisting individuals
become more educated traders. The Company offers competitive pricing across all
of CyberTrader's platforms with prices as low as $9.95 for equity trades
depending on trading levels.
For active traders, Schwab also offers Velocity(R), a desktop trading
software, and StreetSmart Pro(R), which leverages CyberTrader's trading
technology and combines Nasdaq Level II quotes, real-time streaming news,
unlimited watch lists, and real-time streaming interactive charts with account
management features, risk management tools, multi-channel access, and dedicated
personal support. StreetSmart Pro allows clients to execute their trades through
SmartEx(R) - Schwab's proprietary order-routing technology - without having to
access another trading program. Through education initiatives such as the Branch
Active Trader program, Schwab clients can receive training from specially
qualified representatives on all of these advanced trading platforms. To support
representatives' conversations with active traders, the Company offers Active
Trader Street, an internal Web site that provides Schwab representatives with a
comprehensive suite of investing perspectives, trading strategies, and
educational tools. Clients can experience these active trader offerings
firsthand by meeting with a specially-trained field consultant in a branch
office.
Client Financing and Clearing Services. Clients' securities transactions
are conducted on either a cash or margin basis. Generally, a client buying
securities in a cash-only brokerage account is required to make payment by
settlement date, usually three business days after the trade is executed.
However, for purchases of certain types of securities, such as certain mutual
fund shares, a client must have a cash or money market fund balance in his or
her account sufficient to pay for the trade prior to execution. When selling
securities, a client is required to deliver the securities, and is entitled to
receive the proceeds, on settlement date. In an account authorized for margin
trading, Schwab may lend a client a portion of the market value of certain
securities up to the limit established by the Board of Governors of the Federal
Reserve System (Federal Reserve Board), which for most equity securities is
initially 50%. These loans are collateralized by the securities in the client's
account. Short sales of securities represent sales of borrowed securities and
create an obligation for the client to purchase the securities at a later date.
Clients may sell securities short in a margin account subject to minimum equity
and applicable margin requirements and the availability of such securities to be
borrowed and delivered. Interest on margin loans to clients provides an
important source of revenue to Schwab. During 2002, Schwab's outstanding margin
loans to clients averaged $8.0 billion and were $6.6 billion at December 31,
2002.
In permitting a client to engage in transactions, Schwab faces credit risk
if the client fails to meet his or her obligations in the event of adverse
changes in the market value of the securities positions in his or her account.
Under applicable rules and regulations for margin transactions, Schwab, in the
event of such an adverse change, requires the client to deposit additional
securities or cash, so that the amount of the client's obligation is not greater
than specified percentages of the cash and market values of the securities in
the account. As a matter of policy, Schwab generally requires its clients to
maintain higher percentages of collateral values than the minimum percentages
required under these regulations.
Schwab may use cash balances in client accounts to extend margin credit to
other clients. Pursuant to the requirements of Rule 15c3-3 under the Securities
Exchange Act of 1934 (Rule 15c3-3), the portion of such cash balances not used
to extend margin credit (increased or decreased by certain other client-related
balances) must be held in segregated investment accounts. The balances in these
segregated investment accounts must be invested in cash or qualified securities,
as defined by Rule 15c3-3. To the extent Schwab's clients elect to have cash
balances in their brokerage accounts swept into certain SchwabFunds(R) money
market funds, the cash balances available to Schwab for investments or for
financing margin loans are reduced.
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However, Schwab receives asset management and administration fees from such
funds based upon average daily invested balances. See also "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
incorporated herein by reference to Exhibit No. 13.1 of this report, and
"Regulation" in this report.
Schwab performs clearing services for all securities transactions in its
client accounts. Schwab clears the vast majority of client transactions through
the facilities of The Depository Trust & Clearing Corporation or the Options
Clearing Corporation. Certain other transactions, such as mutual fund
transactions and transactions in securities not eligible for settlement through
a clearing corporation, are settled directly with the mutual funds or other
financial institutions. Schwab is obligated to settle transactions with clearing
corporations, mutual funds and other financial institutions even if Schwab's
client fails to meet his or her obligations to Schwab. In addition, for
transactions that do not settle through a clearing corporation, Schwab assumes
the risk of the other party's failure to settle the trade. See note "23 -
Financial Instruments Subject to Off-Balance-Sheet Risk, Credit Risk or Market
Risk" in the Notes to Consolidated Financial Statements in the Company's 2002
Annual Report to Stockholders, which is incorporated herein by reference to
Exhibit No. 13.1 of this report.
Mutual Funds. The Company provides mutual fund services primarily through
the Individual Investor, Institutional Investor, and U.S. Trust segments.
Schwab's Mutual Fund Marketplace(R) provides clients with the ability to invest
in over 3,100 mutual funds from a wide variety of fund companies. Within the
Mutual Fund Marketplace, Schwab's Mutual Fund OneSource(R) service offers
clients access to over 1,700 no-load mutual funds from a variety of fund
families without incurring transaction fees. The Mutual Fund Marketplace also
includes Schwab's mutual fund clearing service, which provides mutual fund
trading and clearing services to banks and broker-dealers.
Schwab's Mutual Fund OneSource service allows investors to access multiple
mutual fund companies, avoid brokerage transaction fees, and achieve investment
diversification among fund families. In addition, investors' recordkeeping and
investment monitoring are simplified through one consolidated statement. Fees
received by Schwab for providing services, including recordkeeping and
shareholder services, from the Mutual Fund OneSource program are based upon the
daily balances of client assets invested in the participating funds through
Schwab and are paid by the funds and/or fund sponsors. Client assets invested in
third-party funds that have been purchased through the Mutual Fund OneSource
service were $73.6 billion at December 31, 2002.
Schwab charges a transaction fee on trades placed in non-Mutual Fund
OneSource funds included in the Mutual Fund Marketplace. These fees are recorded
as commission revenues. In addition to the third-party funds available through
the Mutual Fund Marketplace, Schwab offers a family of proprietary funds,
referred to as the SchwabFunds(R), and U.S. Trust offers the Excelsior(R) family
of funds. Fees received by the Company from the SchwabFunds and the Excelsior
funds, for providing shareholder services, administration, investment management
and other services, are based upon the net asset value of the funds.
SchwabFunds include money market funds, equity index funds, bond funds,
asset allocation funds, funds that primarily invest in stock, bond and money
market funds, and actively-managed equity funds. Schwab's proprietary funds also
include the Schwab MarketMasters Funds(TM), Schwab Core Equity Fund(TM), and
Schwab Hedged Equity Fund(TM). Schwab MarketMasters Funds is a suite of four
funds designed to spread investment risk and reduce volatility by employing
third-party investment managers with different styles and strategies. The Schwab
Core Equity Fund and the Schwab Hedged Equity Fund combine the equity selection
capabilities of Schwab Equity Ratings(TM) with the diversification and
convenience of a mutual fund. Client assets invested in the SchwabFunds were
$144.8 billion at December 31, 2002.
Excelsior funds include actively-managed domestic equity funds,
international equity funds, taxable fixed income funds, tax-exempt fixed income
funds and money market funds. Client assets invested in the Excelsior funds were
$12.6 billion at December 31, 2002.
International. The Company's international business serves both foreign
investors and non-English-speaking U.S. clients. At December 31, 2002, the
Company had a presence in the United Kingdom, Hong Kong and the Cayman Islands.
In the U.S., the Company serves Chinese-, Korean-, Vietnamese-, and
Spanish-speaking clients through a combination of designated branch offices and
Web-based and telephonic services. As of December 31, 2002, client assets in the
Company's international business totaled $19.4 billion. See note "27 -
Subsequent Event" in the Notes to Consolidated Financial Statements in the
Company's 2002 Annual Report to Stockholders, which is incorporated herein by
reference to Exhibit No. 13.1 of this report.
Institutional Investors
Services for IAs. Schwab provides custodial, trading, technology, Web, and
other support services to IAs, whose services are integral to the Company's
advice offerings, through the Institutional Investor segment. To attract the
business of these advisors, Schwab has a dedicated business unit which includes
experienced registered representatives assigned to individual advisors.
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IAs participating in this program who custody client accounts at Schwab may
use the SchwabLink(R) for Windows(R) product, the Schwab Institutional(R) Web
site, and the Managed Account Connection(R) service, and their clients can use
the Schwab Signature Services Alliance(TM) program. SchwabLink for Windows, a
proprietary software, provides IAs with up-to-date client account information,
as well as mutual fund trading and management fee capabilities. The Schwab
Institutional Web site is the core platform for IAs to conduct daily business
activities online with Schwab, including trading, submitting client account
information, and retrieving news and market information. The Managed Account
Connection service enables IAs to provide their clients with personalized equity
portfolio management by a variety of institutional asset managers. The Schwab
Signature Services Alliance provides enhanced personalized services to clients
of IAs, including access to a dedicated team of representatives and the Schwab
Alliance Web site.
Schwab's services to help IAs manage and build their practices include the
Electronic Account Submission service, which allows IAs to establish new client
account numbers immediately upon request, and the Managed Account Select(R)
service, which enables IAs to provide clients with access to pre-screened money
managers and fixed income managers under a simplified single-fee structure.
Schwab's Centerpiece(R), a portfolio management system for IAs, combines
portfolio accounting, performance measurement, fixed income analysis and
tracking, and report customization capabilities into a single networked
application. To further assist IAs in growing their businesses, Schwab conducts
advisor education workshops on operational, trading, and technology solutions.
At December 31, 2002, Schwab client assets held in accounts managed by
approximately 5,900 active IAs totaled $222.4 billion.
Corporate Services. The Company also serves individuals through their
workplace in a variety of ways. The Company provides 401(k) recordkeeping and
other retirement plan services directly through a dedicated sales force, as well
as indirectly through alliances with third-party administrators. SchwabPlan(R),
the Company's 401(k) retirement plan product, offers plan sponsors a wide array
of investment options, participant education and servicing, trustee services,
and participant-level recordkeeping. SchwabPlan features include an electronic
desktop delivery service that allows plan participants to receive detailed
account information via encrypted e-mail, and a Web site that allows individuals
who are using Schwab's retirement plan services through third-party
administrators to utilize the education, planning, and investment tools that are
available to SchwabPlan participants. SchwabPlan Select(TM) is a comprehensive
bundled 401(k) plan designed specifically to meet the needs of 401(k) programs
with between $2 million and $20 million in participant assets. Under SchwabPlan
Select, plan sponsors can build investment menus from hundreds of different
mutual funds and participants have full access to Schwab's online planning and
education tools, regional client telephone service centers, and Web support.
Retirement plan sponsors have access to a monthly online report that allows them
to monitor activity and investment performance in their plans against customized
criteria and benchmarks. The report also provides plan asset allocations and
trend data, market commentary, industry data, fund summaries, and the most
recent mutual fund Schwab Focus List(TM), which is specifically designed for
retirement plan sponsors. At December 31, 2002, client assets in
employer-sponsored retirement plans totaled $88.4 billion, which included $29.3
billion serviced by Schwab's retirement plan services business.
The Company offers stock option plan and restricted stock services to
companies, as well as trade execution and education services to their employees.
These services include online tools such as Schwab OptionCenter(R), which allows
access to stock option accounts where employees can research, model and exercise
their options and StockPlanManager(TM), which allows companies to search, view
and run reports on stock option data. The Company offers a live interactive
seminar called 'Stock Option Strategies and Issues' for clients looking for
information on what to consider when developing a personalized stock option
strategy.
Capital Markets
The Company provides its clients with quick and efficient access to the
securities markets by offering trade execution services in Nasdaq,
exchange-listed and other securities through its market maker and specialist
operations. Clients also have the ability to access extended-hours trading
through the Company's participation in Archipelago, an ECN, and analyze and
trade a variety of fixed income securities through Schwab's multi-channel
delivery systems.
Schwab has specialist operations on the Boston Stock Exchange to make
markets in exchange-listed securities. The majority of trades originated by the
clients of Schwab in exchange-listed securities for which Schwab makes a market
are directed to this operation. At December 31, 2002, Schwab had three
specialists on the Boston Stock Exchange that made markets in 156 securities.
Additionally, SCM makes markets in Nasdaq stocks, which totaled over 5,000 at
December 31, 2002.
The Company continues to enhance its trade execution capabilities and
financial product offerings. Through selective hirings, SCM expanded its equity
trading capabilities to focus on improving execution services for institutional
clients. Additionally, most Nasdaq marketable orders up to 2,000 shares received
by Schwab for execution are routed using SmartEx(R), its proprietary order
routing technology that combines intelligent order routing with market maker
liquidity enhancements. SmartEx is available for Schwab
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client orders in securities in which SCM makes a market. Further, through an
agreement with Goldman Sachs, clients have access to OptEx (a service mark of
Goldman, Sachs & Co.), which uses advanced technology to scan the entire options
marketplace and route orders automatically based on the best price available
nationwide and other execution quality factors.
Clients also have the ability to analyze and trade a variety of fixed
income securities through Schwab's multi-channel delivery systems. Through
Schwab's alliance with Valubond, individual and IA clients can analyze and trade
fixed income securities through the Schwab Web site. Schwab's fixed income
offering includes Schwab BondSource(R) - a fully automated, online bond trading
system that provides clients with access to a wide variety of bond investments
to meet their needs and risk tolerance. Schwab recently expanded its BondSource
platform to provide additional information, new analytical tools, and enhanced
fixed income securities price quotes to support more efficient client service.
Schwab's fixed income offering also includes Schwab CDSource(R), a service that
enables clients to research and purchase certificates of deposits from a variety
of FDIC-insured depository institutions, including U.S. Trust, entirely online.
Additionally, Schwab has dedicated Schwab Bond Specialists(R) to assist clients
in their decisions.
See also "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 incorporated herein by reference to Exhibit No. 13.1 of
this report, and "Regulation" in this report.
U.S. Trust
U.S. Trust provides an array of financial services for affluent clients and
their families. These services include investment and wealth management, trust,
custody, financial and estate planning, and private banking. U.S. Trust provides
both individually managed balanced portfolios (i.e., portfolios that are
invested in several different asset classes with the overall goal of preserving
and enhancing those assets) and specialized investment management services to
clients with $2 million to $50 million in assets at U.S. Trust. U.S. Trust
offers Wealth Advisory Accounts, an investment advisory service that utilizes
the Excelsior(R) family of mutual funds, to clients that have over $250,000 in
assets at U.S. Trust. In addition to investment management services, U.S. Trust
provides specialized fiduciary, financial planning, enhanced master custody, and
philanthropic consulting services to clients that have over $50 million in
assets at U.S. Trust. U.S. Trust also offers private banking services to assist
in meeting the credit and liquidity requirements of its clients. These services
include mortgage and personal lending vehicles and an array of deposit-taking
products. Additionally, affluent investors may receive referrals to U.S. Trust
from Schwab. U.S. Trust's Web site provides clients with secure access to
consolidated account information as well as updated equity pricing, proprietary
research, and financial information from third-party providers. Additionally,
clients can download their account information into selected financial software
programs, view their portfolio asset allocations in real-time, and make bill
payments directly from the Web site.
For institutional clients, including corporations, endowments, foundations,
and pension plans, U.S. Trust provides investment management, brokerage, and
special fiduciary services. Through these investment management services, U.S.
Trust offers a wide range of investment options, including balanced and
specialized domestic and international equity investments, structured
investments, alternative investments, fixed income securities, and short-term
cash management. Institutional clients can also utilize the Excelsior funds.
Additionally, U.S. Trust offers to its institutional clients investment,
consulting and fiduciary services for employee stock ownership plans. Special
fiduciary services also include trustee services for non-qualified or
supplemental employee benefit plans, also known as rabbi trusts.
Multi-Channel Delivery Systems
The Company's multi-channel delivery systems allow clients to choose how
they prefer to do business with the Company. In addition to its branch office
network, Schwab maintains four regional client telephone service centers as well
as automated telephonic and online channels, primarily serving retail investors
through the Individual Investor and Institutional Investor segments. U.S. Trust
maintains offices serving clients through the U.S. Trust segment.
Office Network
To enable clients to obtain services in person with a Company
representative, the Company maintains a network of offices. At December 31,
2002, Schwab operated 388 domestic branch offices in 48 states, as well as a
branch in the Commonwealth of Puerto Rico. At December 31, 2002, U.S. Trust
operated 34 offices in 12 states. In addition, the Company had offices in the
Cayman Islands, Hong Kong and the United Kingdom. The Company's office network
plays a key role in building its business. With the client service support of
regional client telephone service centers and automated telephonic and online
channels, office personnel focus a significant portion of their time on business
development and help and advice interactions with clients. Clients can use
Schwab's branch offices to open accounts, deliver and receive checks and
securities, obtain market information, place orders, and obtain related client
services in person, yet most of these activities are conducted by telephone,
mail, and online channels. Schwab's branch offices
- 9-
also provide investors with access to the Internet and to Schwab's registered
representatives who can assist investors in developing asset allocation
strategies and evaluating their investment choices. U.S. Trust's clients can
meet with wealth management professionals at regional offices to obtain access
to U.S. Trust's wide array of financial services and products.
Regional Client Telephone Service Centers
Schwab's four regional client telephone service centers, located in Denver,
Indianapolis, Orlando, and Phoenix, handle client trading and service calls. The
Company closed its telephone service center in Austin, Texas in 2002 as part of
its restructuring initiatives.
Schwab's client service approach is to use teams led by registered
representatives in the service centers, who work closely with office network
personnel. Additionally, certain teams at these centers provide specialized
services to affluent clients. Each registered representative has immediate
access to the client account and market-related information necessary to respond
to client inquiries. For most client orders, registered representatives can
enter the order and confirm the transaction immediately. As a result of this
approach, the departure of a registered representative generally does not result
in a loss of clients for Schwab.
Online and Automated Telephonic Channels
Clients are able to obtain financial information and execute trades on an
automated basis through Schwab's automated telephonic and online channels. These
channels are designed to provide added convenience for clients and minimize
Schwab's costs of responding to and processing routine client transactions.
Schwab's automated telephonic channels include TeleBroker(R) - Schwab's
touch-tone telephone quote and trading service, and Schwab by Phone(TM) -
Schwab's voice recognition quote and trading service. Schwab's automated
telephonic channels handled over 70% of client calls received in 2002. Schwab
handled approximately 59 million automated and live calls received in 2002.
Online channels include the Charles Schwab Web Site, an information and
trading service on the Internet at schwab.com(TM); the Schwab Institutional(R)
Web site, a platform for IAs to conduct daily activities; the SchwabPlan(R) Web
site, a service on the Internet at schwabplan.com where plan participants and
sponsors can manage their 401(k) accounts; and Schwab Wireless(TM), a wireless
information and trading service. Additionally, online mediums designed for
highly active traders include StreetSmart Pro(R) and Velocity(R), online trading
systems which provide enhanced trade information and order execution, and
CyberTrader's integrated software-based trading platforms. While most client
transactions are completed through the online channel, the Company continues to
stress the importance of Clicks and Mortar access - blending the power of the
Internet with personal service to create a full-service client experience. The
Company's online channels handled 83% of total trades in 2002.
Technology
The Company's ongoing investment in technology is a key element in
expanding its product and service offerings, enhancing its delivery systems,
providing fast and consistent client service, reducing processing costs, and
facilitating the Company's ability to handle significant increases in client
activity without a corresponding rise in staffing levels. The Company uses
technology to empower its clients to manage their financial affairs and is a
leader in driving technological advancements in the financial services industry.
The Company's operations rely heavily on its information processing and
communications systems. The Company's system for processing a securities
transaction is highly automated. Registered representatives equipped with online
computer terminals can access client account information, obtain securities
prices and related information, and enter orders online.
To support its multi-channel delivery systems, as well as other
applications such as clearing functions, account administration, recordkeeping,
and direct client access to investment information, the Company maintains a
sophisticated computer network connecting all of the offices and regional client
telephone service centers. The Company's computers are also linked to the major
registered U.S. securities markets and The Depository Trust & Clearing
Corporation.
Failure of the Company's information processing or communications systems
for a significant period of time could limit the Company's ability to process
its large volume of transactions accurately and rapidly. This could cause the
Company to be unable to satisfy its obligations to clients and other securities
firms, and could result in regulatory violations. External events, such as an
earthquake, terrorist attack, or power failure, loss of external information
feeds such as security price information, as well as internal malfunctions such
as those that could occur during the implementation of system modifications,
could render part or all of such systems inoperative.
To enhance the reliability of the system and integrity of data, the Company
maintains backup and recovery functions. These include logging of all critical
files intraday, duplication and storage of all critical data every twenty-four
hours, and maintenance of facilities for backup and communications. They also
include the maintenance and periodic testing of a disaster recovery plan that
management believes would permit the Company to recommence essential computer
operations if its central computer site were to become inaccessible. To minimize
business interruptions, the
- 10 -
Company has data centers intended, in part, to further improve the recovery of
business processing in the event of an emergency.
Nationally Recognized Brands
The Company's advertising and marketing programs support its strategy by
continually reinforcing the strengths and key attributes of Schwab's
full-service offering, U.S. Trust's wealth management services, and
CyberTrader's trading technology. In 2002, Schwab launched a new advertising
campaign designed to differentiate Schwab's service model from those of other
full-service firms. Additionally, the Company launched a new print advertising
campaign to increase awareness of the U.S. Trust brand and educate investors
about wealth management. To build its CyberTrader(R) brand, the Company launched
an advertising campaign complemented with promotional offers. By maintaining a
consistent level of visibility in the marketplace, the Company seeks to
establish Schwab, U.S. Trust, and CyberTrader as leading financial services
brands in a focused and cost-effective manner. The Company primarily uses a
combination of network, cable and local television, print media, direct mail,
athletic event sponsorship, and online channels in its advertising.
Employees
As of December 31, 2002, the Company had full-time, part-time and temporary
employees, and persons employed on a contract basis that represented the
equivalent of 16,700 full-time employees.
Risk Management
The Company's business and activities expose it to different types of
risks. Proper identification, assessment, and management of these risks are
essential to the success and financial soundness of the Company. For a
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
incorporated herein by reference to Exhibit No. 13.1 of this report, and
"Technology" and "Regulation" in this report.
Business Environment
The Company's business, like that of other securities brokerage and related
financial services firms, is directly affected by the fluctuations in securities
trading volumes and price levels that occur in fundamentally cyclical financial
markets, by changes in government monetary policies that impact the growth of
bank loans and investments and the level of interest charged for loans and paid
on deposits and other funding sources, and by changes in the geopolitical
environment. The Company may experience significant variations in revenues from
period to period depending on changes in these factors and the overall business
environment. Given the nature of the Company's revenues, expenses and risk
profile, the Company's earnings and CSC's common stock price may be subject to
significant volatility from period to period. For a discussion of the business
environment faced by the Company in 2001 and 2002, see "Management's Discussion
and Analysis of Results of Operations and Financial Condition - Results of
Operations - Financial Overview" in the Company's 2002 Annual Report to
Stockholders, which is incorporated herein by reference to Exhibit No. 13.1 of
this report.
Competition
The Company faces significant competition from companies seeking to attract
client financial assets, including traditional, discount and online brokerage
firms, mutual fund companies, banks, and asset management and wealth management
companies. For a discussion of competition, see "Management's Discussion and
Analysis of Results of Operations and Financial Condition - Risk Management -
Competition" in the Company's 2002 Annual Report to Stockholders, which is
incorporated herein by reference to Exhibit No. 13.1 of this report.
Regulation
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's depository institution
subsidiaries are subject to regulation and supervision and to various
requirements and restrictions under federal and state law. For a discussion of
bank holding company requirements, see note "21 - Regulatory Requirements" in
the Notes to Consolidated Financial Statements in the Company's 2002 Annual
Report to Stockholders, which is incorporated herein by reference to Exhibit No.
13.1 of this report.
The securities industry in the United States is subject to extensive
regulation under both federal and state laws. The
- 11 -
SEC is the federal agency charged with administration of the federal securities
laws. Schwab, SCM, and CyberTrader are registered as broker-dealers with the
SEC. Schwab and CSIM are registered as investment advisors with the SEC.
Additionally, Schwab is regulated by the Commodities Futures Trading Commission
(CFTC) with respect to its introduced futures and commodities trading
activities.
Much of the regulation of broker-dealers has been delegated to
self-regulatory organizations, principally the national securities exchanges
such as the New York Stock Exchange (NYSE), which has been designated by the SEC
as Schwab's primary regulator with respect to its securities activities, and the
NASD, which has been designated as Schwab's primary regulator with respect to
its options trading activities. The NASD has been designated by the SEC as SCM's
and CyberTrader's primary regulator with respect to its securities activities.
The National Futures Association (NFA) has been designated by the CFTC as
Schwab's primary regulator with respect to its futures and commodities trading
activities. These self-regulatory organizations adopt rules (subject to approval
by the SEC or CFTC) governing the industry and conduct periodic examinations of
broker-dealers. Securities firms are also subject to regulation by state
securities authorities in the states in which they do business. In addition to
its membership in the NYSE, Schwab is also a member of all other major U.S.
securities exchanges and is consequently subject to their rules and regulations.
Schwab and SCM were registered as broker-dealers in fifty states, the District
of Columbia and Puerto Rico as of December 31, 2002.
The principal purpose of regulating and disciplining broker-dealers and
investment advisors is the protection of clients and the securities markets,
rather than protection of creditors and stockholders of broker-dealers and
investment advisors. The regulations to which broker-dealers and investment
advisors are subject cover all aspects of the securities business, including
sales methods, trading practices among broker-dealers, uses and safekeeping of
clients' funds and securities, capital structure of securities firms,
recordkeeping and reporting, fee arrangements, disclosure to clients, and the
conduct of directors, officers and employees. As registered investment advisors,
Schwab and CSIM are subject to the requirements of the Investment Advisers Act
of 1940 and the regulations thereunder, which impose, among other things,
various recordkeeping, reporting, and disclosure requirements and impose
limitations on fees and principal transactions between an advisor and its
clients.
Additional legislation, changes in rules promulgated by the SEC, other
federal and state regulatory authorities, and self-regulatory organizations, or
changes in the interpretation or enforcement of existing laws and rules may
directly affect the method of operation and profitability of broker-dealers and
investment advisors. The profitability of broker-dealers and investment advisors
could also be affected by rules and regulations which impact the business and
financial communities in general, including changes to the laws governing
taxation, antitrust regulation, and electronic commerce. The SEC, CFTC,
self-regulatory organizations, and state securities authorities may conduct
civil or administrative proceedings which can result in censure, fine, cease and
desist orders, or suspension or expulsion of a broker-dealer or an investment
advisor, its officers, or employees. Schwab and SCM have been the subject of
such administrative proceedings.
As registered broker-dealers and NASD member organizations, Schwab, SCM,
and CyberTrader are required by federal law to belong to the Securities Investor
Protection Corporation (SIPC), which provides, in the event of the liquidation
of a broker-dealer, protection for securities held in client accounts held by
the firm of up to $500,000 per client, subject to a limitation of $100,000 for
claims of cash balances. SIPC is funded through assessments on registered
broker-dealers. In addition, Schwab purchased from a private surety company
account protection for clients above the SIPC limit, as defined, of up to the
net equity value for client securities and cash in each account. Stocks, bonds,
mutual funds, options, unit investment trusts, and money market funds are
considered securities for the purposes of SIPC protection and the additional
protection (i.e., protected securities may either be replaced or converted into
an equivalent market value as of the date a SIPC trustee is appointed). Neither
SIPC protection nor the additional protection applies to fluctuations in the
market value of securities.
Schwab is authorized by the Municipal Securities Rulemaking Board to
conduct transactions in municipal securities on behalf of its clients and has
obtained certain additional registrations with the SEC and state regulatory
agencies necessary to permit it to engage in certain other activities incidental
to its brokerage business.
Margin lending by Schwab and SCM is subject to the margin rules of the
Federal Reserve Board and the NYSE. Under such rules, broker-dealers are limited
in the amount they may lend in connection with certain purchases and short sales
of securities and are also required to impose certain maintenance requirements
on the amount of securities and cash held in margin accounts. In addition, those
rules and rules of the Chicago Board Options Exchange govern the amount of
margin clients must provide and maintain in writing uncovered options.
As a California state-chartered trust company, CSTC is primarily regulated
by the State of California Department of Financial Institutions. Since it
provides employee benefit plan trust services, CSTC is also required to comply
with the Employee Retirement Income Security Act of 1974 (ERISA) and,
consequently, is subject to oversight by both the Internal Revenue Service and
Department of Labor. CSTC is required under ERISA to maintain a fidelity bond
for the protection of employee benefit trusts for which it serves as trustee.
- 12 -
The Company's business is also subject to regulation by various non-U.S.
governments, securities exchanges, and regulatory bodies, particularly in those
countries where it has acquired subsidiaries. Such regulation may directly
affect the method of operation and profitability of the Company's foreign
operations.
As registered broker-dealers, certain subsidiaries of CSC, including Schwab
and SCM, are subject to the Uniform Net Capital Rule (Rule 15c3-1) under the
Securities Exchange Act of 1934 (the Net Capital Rule), which has also been
adopted through incorporation by reference in NYSE Rule 325. The CFTC and NFA
also impose net capital requirements. The Net Capital Rule specifies minimum net
capital requirements that are intended to ensure the general financial soundness
and liquidity of broker-dealers. Failure to maintain the required net capital
may subject a firm to suspension or expulsion by the NYSE and the NASD, certain
punitive actions by the SEC and other regulatory bodies, and ultimately may
require a firm's liquidation. Because CSC itself is not a registered
broker-dealer, it is not subject to the Net Capital Rule. However, if Schwab or
SCM failed to maintain specified levels of net capital, such failure would
constitute a default by CSC under certain debt covenants.
"Net capital" is essentially defined as net worth (assets minus
liabilities), plus qualifying subordinated borrowings, less certain deductions
that result from excluding assets that are not readily convertible into cash and
from conservatively valuing certain other assets. These deductions include
charges that discount the value of firm security positions to reflect the
possibility of adverse changes in market value prior to disposition.
The Net Capital Rule requires notice of equity capital withdrawals to be
provided to the SEC prior to and subsequent to withdrawals exceeding certain
sizes. Such rule prohibits withdrawals that would reduce a broker-dealer's net
capital to an amount less than 25% of its deductions required by the Net Capital
Rule as to its security positions. The Net Capital Rule also allows the SEC,
under limited circumstances, to restrict a broker-dealer from withdrawing equity
capital for up to twenty business days.
Schwab and SCM have elected the alternative method of calculation under
paragraph (a)(1)(ii) of the Net Capital Rule, which requires a broker-dealer to
maintain minimum net capital equal to the greater of 2% of its "aggregate debit
items," computed in accordance with the Formula for Determination of Reserve
Requirements for Brokers and Dealers under Rule 15c3-3, or a minimum dollar
amount, which is based on the type of business conducted by the broker-dealer.
The minimum dollar amount for both Schwab and SCM is $1 million. "Aggregate
debit items" are assets that have as their source transactions with clients,
primarily margin loans. Under the alternative method of the Net Capital Rule, a
broker-dealer may not (a) pay, or permit the payment or withdrawal of, any
subordinated borrowings or (b) pay cash dividends or permit equity capital to be
removed if, after giving effect to such payment, withdrawal, or removal, its net
capital would be less than 5% of its aggregate debit items.
Under NYSE Rule 326, Schwab is required to reduce its business if its net
capital is less than 4% of aggregate debit items for more than fifteen
consecutive business days; NYSE Rule 326 also prohibits the expansion of
business if net capital is less than 5% of aggregate debit items for more than
fifteen consecutive business days. The provisions of NYSE Rule 326 also become
operative if capital withdrawals (including scheduled maturities of subordinated
borrowings during the following six months) would result in a reduction of a
firm's net capital to the levels indicated.
If compliance with applicable net capital rules were to limit Schwab's or
SCM's operations and their ability to repay subordinated debt to CSC, this in
turn could limit CSC's ability to repay debt, pay cash dividends and purchase
shares of its outstanding stock. See also "Management's Discussion and Analysis
of Results of Operations and Financial Condition - Liquidity and Capital
Resources - Liquidity" and note "21 - Regulatory Requirements" in the Notes to
Consolidated Financial Statements in the Company's 2002 Annual Report to
Stockholders, which is incorporated herein by reference to Exhibit No. 13.1 of
this report.
- 13 -
Item 2. Properties
The Company's corporate headquarters and its principal executive offices
are located in leased office space, totaling 433,000 square feet, at 120 Kearny
Street in San Francisco, California. These leases have expiration dates that
range from 2009 to 2011, and include two five-year extension options at the then
current market rates. Schwab also leases a 28-story building at 101 Montgomery
Street in San Francisco, California. The building contains 296,000 square feet
and is leased by Schwab under a term expiring in the year 2010. Schwab has three
successive five-year options to renew this lease at the then current market
rates. Schwab also has a lease for 412,000 square feet of office space located
at 211 Main Street in San Francisco that serves as the corporate technology
support center. A portion of this lease expires in 2010 and has one five-year
extension option at the then current market rates, while the remaining portion
of this lease expires in 2018 and has two seven-year extension options at the
then current market rates. In addition to these locations, Schwab leases space
in other buildings for its San Francisco and Pleasanton operations aggregating
831,000 additional square feet. U.S. Trust's headquarters are located in leased
office space, totaling 487,000 square feet, in New York City, New York. This
lease expires in 2014 and includes two ten-year extension options at the then
current market rates. SCM's headquarters are located in leased office space,
aggregating 122,000 square feet in Jersey City, New Jersey; this lease expires
in 2012. In addition, Schwab and SCM lease an additional 335,000 square feet in
Jersey City which is presently on the market to be subleased.
A subsidiary of Schwab leases a building, totaling approximately 372,000
square feet, located at 215 Fremont Street in San Francisco, California. Upon
the expiration of this lease in June 2005, the Company may renew the lease for
an additional five years subject to certain approvals and conditions, or arrange
a sale of the office building to a third party. The Company also has an option
to purchase the office building for $245 million at any time after June 18,
2003. For additional information, see note "22 - Commitments and Contingent
Liabilities" in the Notes to Consolidated Financial Statements in the Company's
2002 Annual Report to Stockholders, which is incorporated herein by reference to
Exhibit No. 13.1 of this report.
Substantially all of the Company's branch offices are located in leased
premises, generally with lease expiration dates of less than ten years from
inception. In addition, the Company has four regional client telephone service
centers. The Company owns the service centers located in Phoenix and
Indianapolis, with 330,000 and 164,000 square feet, respectively. The Company
also leases an additional 128,000 square feet as part of its Phoenix service
center. The Company leases its service centers located in Denver and Orlando,
with 352,000 and 329,000 square feet, respectively. In 2002, the Company closed
its fifth service center located in Austin and is currently seeking to sublease
this space, which totals 456,000 square feet. The Company owns its data center
and administration support center located in Phoenix and aggregating 624,000
square feet.
The square footage of the above locations are presented net of space that
has been subleased to third parties.
While the corporate headquarters and data centers support all of the
Company's segments, the offices and service centers primarily support the
Individual Investor, Institutional Investor, and U.S. Trust segments. U.S.
Trust's headquarters support the U.S. Trust segment and SCM's headquarters
support the Capital Markets segment.
In 2002 and 2001, the Company initiated restructuring initiatives that
included a reduction in facilities. For a discussion of such initiatives, see
"Management's Discussion and Analysis of Results of Operations and Financial
Condition - Results of Operations" and note "3 - Restructuring and Other
Charges" in the Notes to Consolidated Financial Statements in the Company's 2002
Annual Report to Stockholders, which is incorporated herein by reference to
Exhibit 13.1 of this report.
Item 3. Legal Proceedings
The information required to be furnished pursuant to this item is included
in note "22 - Commitments and Contingent Liabilities" in the Notes to
Consolidated Financial Statements in the Company's 2002 Annual Report to
Stockholders, which is incorporated herein by reference to Exhibit No. 13.1 of
this report.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of the Company's security holders
during the fourth quarter of 2002.
Item 4A. Executive Officers of the Registrant
Information relating to the executive officers of the Company is
incorporated by reference from Part III, Item 10 of this report.
- 14 -
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
The Company's common stock is listed on the NYSE and the Pacific Exchange
under the ticker symbol SCH. The number of common stockholders of record as of
March 10, 2003 was 12,929. The closing market price per share on that date was
$6.85.
The other information required to be furnished pursuant to this item is
included in "Quarterly Financial Information (Unaudited)" in the Company's 2002
Annual Report to Stockholders, which is incorporated herein by reference to
Exhibit No. 13.1 of this report.
Item 6. Selected Financial Data
The information required to be furnished pursuant to this item is included
in "Selected Financial and Operating Data" in the Company's 2002 Annual Report
to Stockholders, which is incorporated herein by reference to Exhibit No. 13.1
of this report.
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The information required to be furnished pursuant to this item is included
in "Management's Discussion and Analysis of Results of Operations and Financial
Condition" in the Company's 2002 Annual Report to Stockholders, which is
incorporated herein by reference to Exhibit No. 13.1 of this report.
Average balances and interest rates for the fourth quarters of 2002 and
2001 are summarized as follows (dollars in millions):
- --------------------------------------------------------------------------------
Three Months Ended
December 31,
2002 2001
- --------------------------------------------------------------------------------
Interest-Earning Assets (client-related and other):
Investments (client-related):
Average balance outstanding $20,225 $16,667
Average interest rate 1.61% 2.55%
Margin loans to clients:
Average balance outstanding $ 6,576 $ 9,145
Average interest rate 5.46% 5.85%
Private banking loans:
Average balance outstanding $ 4,204 $ 3,886
Average interest rate 5.50% 6.39%
Securities available for sale:
Average balance outstanding $ 1,508 $ 1,245
Average interest rate 4.27% 5.42%
Average yield on interest-earning assets 3.01% 4.12%
Funding Sources (client-related and other):
Interest-bearing brokerage client cash balances:
Average balance outstanding $22,926 $22,550
Average interest rate .54% 1.57%
Interest-bearing banking deposits:
Average balance outstanding $ 4,046 $ 3,561
Average interest rate 2.58% 2.72%
Other interest-bearing sources:
Average balance outstanding $ 1,271 $ 903
Average interest rate 1.53% 2.55%
Average noninterest-bearing portion $ 4.270 $ 3,929
Average interest rate on funding sources .76% 1.53%
Summary:
Average yield on interest-earning assets 3.01% 4.12%
Average interest rate on funding sources .76% 1.53%
- --------------------------------------------------------------------------------
Average net interest spread 2.25% 2.59%
================================================================================
The decrease in interest revenue, net of interest expense, from the fourth
quarter of 2001 to the fourth quarter of 2002 was primarily due to lower levels
of, and lower rates received on, margin loans to clients, as well as lower rates
received on client-related investments, partially offset by lower rates paid on
brokerage client cash balances and higher average balances of client-related
investments.
- 15 -
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
The information required to be furnished pursuant to this item is included
in "Management's Discussion and Analysis of Results of Operations and Financial
Condition - Risk Management - Market Risk" in the Company's 2002 Annual Report
to Stockholders, which is incorporated herein by reference to Exhibit No. 13.1
of this report.
Item 8. Financial Statements and Supplementary Data
The information required to be furnished pursuant to this item is included
in the Consolidated Financial Statements and "Quarterly Financial Information
(Unaudited)" in the Company's 2002 Annual Report to Stockholders, which is
incorporated herein by reference to Exhibit No. 13.1 of this report.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None.
PART III
Item 10. Directors and Executive Officers of the Registrant
The information relating to directors of the Company required to be
furnished pursuant to this item is incorporated by reference from portions of
the Company's definitive proxy statement for its annual meeting of stockholders
to be filed with the SEC pursuant to Regulation 14A by April 30, 2003 (the Proxy
Statement) under "The Board of Directors" and "Other Information - Section 16(a)
Beneficial Ownership Reporting Compliance."
Executive Officers of the Registrant
The following table provides certain information about each of the
Company's current executive officers. Other information relating to executive
officers required to be furnished pursuant to this item is incorporated by
reference from portions of the Proxy Statement under "Appendix A - Description
of Charles R. Schwab's Employment and License Agreements," and "Appendix H -
Description of Lon Gorman's Employment Agreement."
- 16 -
THE CHARLES SCHWAB CORPORATION
================================================================================
Executive Officers of the Registrant
Name Age Title
---- --- -----
Charles R. Schwab 65 Chairman, Co-Chief Executive Officer, and Director
David S. Pottruck 54 President, Co-Chief Executive Officer, and Director
William L. Atwell 52 Executive Vice President - Institutional,
International, and Banking
Jody L. Bilney 41 Executive Vice President and Chief Marketing Officer
John Philip Coghlan 51 Vice Chairman, President - Schwab Individual Investor
Christopher V. Dodds 43 Executive Vice President and Chief Financial Officer
Lon Gorman 54 Vice Chairman, President - Schwab Capital Markets/
Asset Management Products and Services
Daniel O. Leemon 49 Executive Vice President and Chief Strategy Officer
Dawn G. Lepore 48 Vice Chairman - Technology, Operations, and
Administration
Mary S. McLeod 47 Executive Vice President - Human Resources
Geoffrey J. Penney 57 Executive Vice President and Chief Information
Officer
Alan J. Weber 54 Executive Vice President of The Charles Schwab
Corporation, Chairman and Chief Executive Officer
of U.S. Trust Corporation
================================================================================
Mr. Schwab has been Co-Chief Executive Officer of the Company since 1998,
and Chairman and a director of the Company since its incorporation in 1986.
Effective May 9, 2003, Mr. Schwab will become Chairman and director and will
cease serving as Co-Chief Executive Officer. Mr. Schwab was Chief Executive
Officer of the Company from 1986 to 1997. Mr. Schwab was a founder of Schwab in
1971 and has been its Chairman since 1978. Mr. Schwab is currently a director of
USTC and its principal subsidiary, U.S. Trust NY; Gap, Inc.; Siebel Systems,
Inc., a company that provides support for software systems; and Xign, Inc., a
developer of electronic payment systems using digitally signed electronic check
technology. Mr. Schwab is also a trustee of The Charles Schwab Family of Funds,
Schwab Investments, Schwab Capital Trust and Schwab Annuity Portfolios, all
registered investment companies.
Mr. Pottruck has been Co-Chief Executive Officer of the Company since 1998,
a director of the Company since 1994, and President of the Company since 1992.
Mr. Pottruck's appointment as the sole Chief Executive Officer will become
effective on May 9, 2003. Mr. Pottruck was Chief Operating Officer of the
Company from 1994 to 1998. Mr. Pottruck joined Schwab in 1984. Mr. Pottruck is
currently a director of USTC; U.S. Trust NY; the Nasdaq Stock Market; Intel
Corporation, a maker of microcomputer components and related products; and
DoveBid, Inc., a provider of online business-to-business capital asset auctions
and valuation services.
- 17 -
Mr. Atwell has been Executive Vice President - Institutional, International
and Banking of the Company and Schwab since June 2002 and Executive Vice
President - International and Banking of Schwab from February 2002 to May 2002.
Mr. Atwell was Executive Vice President - International of Schwab from 2000 to
January 2002. Prior to joining Schwab, Mr. Atwell was Senior Vice President -
National Sales and Delivery Network for CIGNA Healthcare from 1996 to 2000.
Ms. Bilney has been Executive Vice President and Chief Marketing Officer of
the Company and Schwab since July 2002. Prior to joining Schwab, Ms. Bilney was
Senior Vice President - Brand Management and Marketing Communications from 2001
to 2002, President - Consumer Markets Group from 2000 to 2001, Vice President -
Consumer Markets Group from 1999 to 2000, Vice President - General Manager,
Consumer Sales from 1997 to 1999, and Vice President - Marketing from 1996 to
1997 for Verizon Communications, a provider of telecommunication services.
Mr. Coghlan has been Vice Chairman of the Company and Schwab since 1999,
President - Individual Investor of Schwab since July 2002 and Executive Vice
President of the Company since 1992. Mr. Coghlan was Enterprise President -
Schwab Institutional of Schwab from March 2001 to July 2002. Mr. Coghlan was
Enterprise President - Services for Investment Managers of Schwab from 1998 to
March 2001 and Enterprise President - Retirement Plan Services of Schwab from
1997 to March 2001. Mr. Coghlan was Executive Vice President of Schwab and
General Manager of Schwab Institutional from 1992 to 1997. Mr. Coghlan joined
Schwab in 1986.
Mr. Dodds has been Chief Financial Officer of the Company and Schwab since
1999 and Executive Vice President of the Company and Schwab since 1998. Mr.
Dodds was Corporate Controller of Schwab from 1997 to 1999 and Corporate
Treasurer of Schwab from 1993 to 1997. Mr. Dodds joined Schwab in 1986.
Mr. Gorman has been Vice Chairman of the Company and Schwab since 1999,
President - Asset Management Products and Services since February 2002,
Enterprise President - Schwab Capital Markets of Schwab and Executive Vice
President of the Company since 1997. Mr. Gorman was Executive Vice President -
Schwab Capital Markets of the Company and Schwab from 1996 to 1997. Mr. Gorman
joined Schwab in 1996.
Mr. Leemon has been Executive Vice President and Chief Strategy Officer of
the Company and Schwab since 1995. Mr. Leemon joined Schwab in 1995. Mr. Leemon
is currently a director of LiveCapital, a provider of online small business
financing.
Ms. Lepore has been Vice Chairman - Technology, Operations, and
Administration of the Company and Schwab since July 2002 and Vice Chairman -
Technology and Administration of the Company and Schwab from October 2001 to
July 2002. Ms. Lepore was Vice Chairman and Chief Information Officer of the
Company and Schwab from 1999 to October 2001 and Executive Vice President and
Chief Information Officer of the Company and Schwab from 1993 to 1999. Ms.
Lepore joined Schwab in 1983. Ms. Lepore is currently a director of Wal-Mart
Stores, Inc. and eBay Inc.
Ms. McLeod has been Executive Vice President - Human Resources of the
Company and Schwab since 2001. Ms. McLeod was appointed to the Company's
Executive Committee effective January 1, 2003. Prior to joining Schwab, Ms.
McLeod was Vice President of Human Resources for the Global Sales Organization
of Cisco Systems from 2000 to 2001 and Senior Vice President of Human Resources
for Hallmark Cards from 1997 to 2000.
Mr. Penney has been Executive Vice President and Chief Information Officer
of the Company and Schwab since 2001. Mr. Penney was appointed to the Company's
Executive Committee effective January 1, 2003. Mr. Penney was Executive Vice
President - Schwab Technology of Schwab from 1998 to 2001. Mr. Penney joined
Schwab in 1997 as Senior Vice President of Financial Products and International
Technology of Schwab. Mr. Penney is currently a director of Keynote Systems, an
internet performance management company.
Mr. Weber has been Executive Vice President of the Company, Chief Executive
Officer of USTC and U.S. Trust NY, and a director of USTC since October 2002.
Mr. Weber was appointed Chairman of USTC as of January 31, 2003. Prior to
joining USTC, Mr. Weber was Vice Chairman and Chief Financial Officer for Aetna,
Inc. from 1998 to 2001 and Chairman of Citibank International from 1994 to 1998.
- 18 -
Item 11. Executive Compensation
The information required to be furnished pursuant to this item is
incorporated by reference from portions of the Proxy Statement under
"Compensation Committee Interlocks and Insider Participation," "Director
Compensation," "Summary Compensation Table," "Option Grants," "Options
Exercised," "Pension Plan Table," "Compensation Committee Report," "Other
Information - Certain Transactions," "Appendix A - Description of Charles R.
Schwab's Employment and License Agreements," "Appendix B - Description of H.
Marshall Schwarz's Separation and Employment Agreements," and "Appendix C -
Description of Jeffrey S. Maurer's Separation and Employment Agreements," and
"Appendix H - Description of Lon Gorman's Employment Agreement."
Item 12. Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters
The information relating to security ownership of certain beneficial owners
and management required to be furnished pursuant to this item is incorporated by
reference from portions of the Proxy Statement under "Principal Stockholders."
Securities Authorized for Issuance Under Equity Compensation Plans
The following table summarizes information as of December 31, 2002 with
respect to equity compensation plans approved and not approved by stockholders
(shares in millions):
- --------------------------------------------------------------------------------
(C)
(A) (B) Shares Available
Shares to be Issued Weighted-Average for Future Issuance
Upon Exercise of Exercise Price of (Excluding Shares
Plan Category Outstanding Options Outstanding Options in Column A)
- --------------------------------------------------------------------------------
Equity compensation
plans approved by
stockholders 109 (1) $14.37 38
Equity compensation
plans not approved
by stockholders 47 (2) $17.76 3
- --------------------------------------------------------------------------------
Total 156 $15.38 41 (3)
================================================================================
(1) Represents shares of common stock issuable upon exercise of outstanding
options under CSC's 1987 Stock Option Plan, 1987 Executive Officer Stock
Option Plan, and the 1992 and 2001 Stock Incentive Plans, which are
generally used for grants to officers and directors. Although stock and
stock-based awards are still outstanding under the 1987 Stock Option Plan
and 1987 Executive Officer Stock Option Plan, no new shares are available
under these plans for future grants.
(2) Represents shares of common stock issuable upon exercise of outstanding
options under CSC's Employee Stock Incentive Plan. Grants under this plan
are used for employees other than officers and directors and accordingly,
did not require stockholders' approval. The material features of this plan
are described in note "17 - Employee Incentive and Deferred Compensation
Plans" in the Notes to Consolidated Financial Statements in the Company's
2002 Annual Report to Stockholders, which is incorporated herein by
reference to Exhibit No. 13.1 of this report. This narrative is an
abbreviated description of the plan. For a complete description, see the
plan document that is Exhibit 10.226 which was filed with the Company's
Form 10-Q for the quarter ended September 30, 2001 and incorporated herein
by reference.
(3) In addition to options, restricted shares may be granted under the 1992 and
2001 Stock Incentive Plans and the Employee Stock Incentive Plan, and
performance-based shares may be granted under the 1992 and 2001 Stock
Incentive Plans.
Item 13. Certain Relationships and Related Transactions
The information required to be furnished pursuant to this item is
incorporated by reference from a portion of the Proxy Statement under "Other
Information - Certain Transactions."
- 19 -
Item 14. Controls and Procedures
An evaluation was performed under the supervision and with the
participation of the Company's management, including the Co-Chief Executive
Officers and Chief Financial Officer, of the effectiveness of the design and
operation of the Company's disclosure controls and procedures within 90 days
before the filing date of this annual report. Based on that evaluation, the
Company's management, including the Co-Chief Executive Officers and Chief
Financial Officer, concluded that the Company's disclosure controls and
procedures were effective. There have been no significant changes in the
Company's internal controls or in other factors that could significantly affect
internal controls subsequent to their evaluation.
PART IV
Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) Documents filed as part of this Report
1. Financial Statements
The financial statements and independent auditors' report are included in
the Company's 2002 Annual Report to Stockholders, which is incorporated herein
by reference to Exhibit No. 13.1 of this report and are listed below:
Consolidated Statement of Income
Consolidated Balance Sheet
Consolidated Statement of Cash Flows
Consolidated Statement of Stockholders' Equity
Notes to Consolidated Financial Statements
Independent Auditors' Report
2. Financial Statement Schedules
The financial statement schedules required to be furnished pursuant to this
item are listed in the accompanying index appearing on page F-1.
(b) Reports on Form 8-K
On November 12, 2002, the Registrant filed a Current Report on Form 8-K
which included certifications executed by the Chairman of the Board and Co-Chief
Executive Officer, President and Co-Chief Executive Officer, and Executive Vice
President and Chief Financial Officer in accordance with 18 U.S.C. Section 1350
(as adopted by Section 906 of the Sarbanes-Oxley Act of 2002).
- 20 -
THE CHARLES SCHWAB CORPORATION
(c) Exhibits
The exhibits listed below are filed as part of this annual report on Form
10-K.
- --------------------------------------------------------------------------------
Exhibit
Number Exhibit
- --------------------------------------------------------------------------------
1.3 The Charles Schwab Corporation Medium-Term Notes Distribution
Agreement filed as Exhibit 1.3 to the Registrant's Form 10-Q for the
quarter ended June 30, 2000 and incorporated herein by reference.
2.1 Agreement and Plan of Merger dated as of January 12, 2000, by and
among The Charles Schwab Corporation, Patriot Merger Corporation and
U.S. Trust Corporation, filed as Exhibit 2.1 to the Registrant's Form
8-K dated January 12, 2000 and incorporated herein by reference.
3.9 Second Restated Bylaws, as amended on September 22, 1998, of the
Registrant (supersedes Exhibit 3.8) filed as Exhibit 3.9 to the
Registrant's Form 10-Q for the quarter ended September 30, 1998 and
incorporated herein by reference.
3.10 Fourth Restated Certificate of Incorporation, effective July 30, 1999,
of the Registrant, which includes amendments through May 20, 1999
(supersedes Exhibit 3.7), filed as Exhibit 3.10 to the Registrant's
Form 10-Q for the quarter ended September 30, 1999 and incorporated
herein by reference.
3.11 Fifth Restated Certificate of Incorporation, effective May 7, 2001, of
the Registrant (supersedes Exhibit 3.10), filed as Exhibit 3.11 to the
Registrant's Form 10-Q for the quarter ended September 30, 2001 and
incorporated herein by reference.
4.2 Neither the Registrant nor its subsidiaries are parties to any
instrument with respect to long-term debt for which securities
authorized thereunder exceed 10% of the total assets of the Registrant
and its subsidiaries on a consolidated basis. Copies of instruments
with respect to long-term debt of lesser amounts will be provided to
the SEC upon request.
10.4 Form of Release Agreement dated as of March 31, 1987 among BAC,
Registrant, Schwab Holdings, Inc., Charles Schwab & Co., Inc. and
former shareholders of Schwab Holdings, Inc. *
10.57 Registration Rights and Stock Restriction Agreement, dated as of March
31, 1987, between the Registrant and the holders of the Common Stock,
filed as Exhibit 4.23 to Registrant's Registration Statement No.
33-16192 on Form S-1 and incorporated herein by reference.
10.72 Restatement of Assignment and License, as amended January 25, 1988,
among Charles Schwab & Co., Inc., Charles R. Schwab and the
Registrant, filed as Exhibit 10.72 to the Registrant's Form 10-K for
the year ended December 31, 1999 and incorporated herein by reference.
10.87 Trust Agreement under the Charles Schwab Profit Sharing and Employee
Stock Ownership Plan, effective November 1, 1990, dated October 25,
1990, filed as Exhibit 10.87 to the Registrant's Form 10-Q for the
quarter ended September 30, 2000 and incorporated herein by reference.
+
- 21 -
10.101 First Amendment to the Trust Agreement under the Charles Schwab Profit
Sharing and Employee Stock Ownership Plan, effective January 1, 1992,
dated December 20, 1991, filed as Exhibit 10.101 to the Registrant's
Form 10-K for the year ended December 31, 2001 and incorporated herein
by reference. +
10.116 Second Amendment to the Trust Agreement for the Charles Schwab Profit
Sharing and Employee Stock Ownership Plan effective July 1, 1992,
dated June 30, 1992, filed as Exhibit 10.116 to the Registrant's Form
10-Q for the quarter ended June 30, 2002 and incorporated herein by
reference. +
10.138 Form of Nonstatutory Stock Option Agreement for Non-Employee
Directors, filed as Exhibit 4.4 to the Registrant's Registration
Statement No. 33-47842 on Form S-8 and incorporated herein by
reference. +
10.140 Form of Restricted Shares Agreement, filed as Exhibit 4.6 to the
Registrant's Registration Statement No. 33-54701 on Form S-8 and
incorporated herein by reference. +
10.149 Employment Agreement dated as of March 31, 1995 between the Registrant
and Charles R. Schwab, filed as Exhibit 10.149 to the Registrant's
Form 10-K for the year ended December 31, 1999 and incorporated herein
by reference. +
10.169 Third Amendment to the Trust Agreement for the Charles Schwab Profit
Sharing and Employee Stock Ownership Plan effective January 1, 1996,
dated May 8, 1996 filed as Exhibit 10.169 to the Registrant's Form
10-Q for the quarter ended June 30, 2002 and incorporated herein by
reference. +
10.191 Form of Restricted Shares Award Agreement of The Charles Schwab
Corporation 1992 Stock Incentive Plan (supersedes Exhibit 10.171). +
10.192 Form of Nonstatutory Stock Option Agreement of The Charles Schwab
Corporation 1992 Stock Incentive Plan (supersedes Exhibit 10.172). +
10.200 Form of Indemnification Agreement entered into between Registrant and
members of the Board of Directors of Registrant (supersedes Exhibit
10.34), filed as Exhibit 10.200 to the Registrant's Form 10-K for the
year ended December 31, 1998 and incorporated herein by reference.
10.202 Fourth Amendment to the Trust Agreement for the Charles Schwab Profit
Sharing and Employee Stock Ownership Plan effective January 1, 1998,
filed as Exhibit 10.202 to the Registrant's Form 10-K for the year
ended December 31, 1998 and incorporated herein by reference. +
10.212 The Charles Schwab Corporation Corporate Executive Bonus Plan, amended
and restated as of January 1, 2000 (supersedes Exhibit 10.182), filed
as Exhibit 10.212 to the Registrant's Form 10-Q for the quarter ended
March 31, 2000 and incorporated herein by reference. +
10.215 The Charles Schwab Corporation Directors' Deferred Compensation Plan,
restated to include amendments through December 13, 2000 (supersedes
Exhibit 10.209), filed as Exhibit 10.215 to the Registrant's Form 10-K
for the year ended December 31, 2000 and incorporated herein by
reference. +
- 22 -
10.217 Executive Employment Agreement and Covenants Not to Compete for H.
Marshall Schwarz, filed as Exhibit 10.217 to the Registrant's Form
10-Q for the quarter ended March 31, 2001 and incorporated herein by
reference. +
10.218 Executive Employment Agreement and Covenant Not To Compete for Jeffrey
S. Maurer, filed as Exhibit 10.218 to the Registrant's Form 10-Q for
the quarter ended March 31, 2001 and incorporated herein by reference.
+
10.220 The Charles Schwab Corporation Annual Executive Individual Performance
Plan, as amended and restated, approved at the Annual Meeting of
Stockholders on May 7, 2001 (supersedes Exhibit 10.211), filed as
Exhibit 10.220 to the Registrant's Form 10-Q for the quarter ended
June 30, 2001 and incorporated herein by reference. +
10.221 The SchwabPlan Retirement Savings and Investment Plan, restated and
amended as of April 1, 2001 (supersedes Exhibit 10.216), filed as
Exhibit 10.221 to the Registrant's Form 10-Q for the quarter ended
June 30, 2001 and incorporated herein by reference. +
10.222 The Charles Schwab Corporation 1987 Stock Option Plan, restated and
amended as of September 20, 2001, with form of Non-Qualified Stock
Option Agreement attached (supersedes Exhibit 10.186), filed as
Exhibit 10.222 to the Registrant's Form 10-Q for the quarter ended
September 30, 2001 and incorporated herein by reference. +
10.223 The Charles Schwab Corporation Executive Officer Stock Option Plan
(1987), restated and amended as of September 20, 2001, with form of
Non-Qualified Stock Option Agreement attached (supersedes Exhibit
10.188), filed as Exhibit 10.223 to the Registrant's Form 10-Q for the
quarter ended September 30, 2001 and incorporated herein by reference.
+
10.224 The Charles Schwab Corporation 1992 Stock Incentive Plan, restated and
amended as of September 20, 2001 (supersedes Exhibit 10.214), filed as
Exhibit 10.224 to the Registrant's Form 10-Q for the quarter ended
September 30, 2001 and incorporated herein by reference. +
10.225 The Charles Schwab Corporation 2001 Stock Incentive Plan, restated and
amended as of September 20, 2001 (supersedes Exhibit 10.219), filed as
Exhibit 10.225 to the Registrant's Form 10-Q for the quarter ended
September 30, 2001 and incorporated herein by reference. +
10.226 The Charles Schwab Corporation Employee Stock Incentive Plan, restated
and amended as of September 20, 2001 (supersedes Exhibit 10.190),
filed as Exhibit 10.226 to the Registrant's Form 10-Q for the quarter
ended September 30, 2001 and incorporated herein by reference. +
10.227 Benefit Equalization Plan of U.S. Trust Corporation, filed as Exhibit
10.227 to the Registrant's Form 10-Q for the quarter ended September
30, 2001 and incorporated herein by reference. +
- 23 -
10.228 1990 Change in Control and Severance Policy for Top Tier Officers of
United States Trust Company of New York and Affiliated Companies,
filed as Exhibit 10.228 to the Registrant's Form 10-Q for the quarter
ended September 30, 2001 and incorporated herein by reference. +
10.231 1989 Stock Compensation Plan and Predecessor Plans of U.S. Trust
Corporation, filed as Exhibit 10.231 to the Registrant's Form 10-Q for
the quarter ended September 30, 2001 and incorporated herein by
reference. +
10.234 Executive Deferred Compensation Plan of U.S. Trust Corporation, as
amended and restated effective as of January 1, 2001 (supersedes
Exhibit 10.229), filed as Exhibit 10.234 to the Registrant's Form 10-K
for the year ended December 31, 2001 and incorporated herein by
reference. +
10.235 Executive Incentive Plan of U.S. Trust Corporation, as amended and
restated effective as of January 1, 2001 (supersedes Exhibit 10.230),
filed as Exhibit 10.235 to the Registrant's Form 10-K for the year
ended December 31, 2001 and incorporated herein by reference. +
10.236 U.S. Trust Corporation 401(k) Plan, as amended and restated effective
as of January 1, 2001 (supersedes Exhibit 10.233), filed as Exhibit
10.236 to the Registrant's Form 10-K for the year ended December 31,
2001 and incorporated herein by reference. +
10.237 U.S. Trust Corporation Employees' Retirement Plan, as amended and
restated effective as of January 1, 2001 (supersedes Exhibit 10.232),
filed as Exhibit 10.237 to the Registrant's Form 10-K for the year
ended December 31, 2001 and incorporated herein by reference. +
10.238 Credit Agreement (364-Day Commitment) dated as of June 22, 2001
between the Registrant and the financial institutions listed therein
(supersedes Exhibit 10.198 and 10.206), filed as Exhibit 10.238 to the
Registrant's Form 10-K for the year ended December 31, 2001 and
incorporated herein by reference.
10.239 The Charles Schwab Corporation Annual Executive Individual Performance
Plan, restated to include amendments approved at the Annual Meeting of
Stockholders on May 13, 2002 (supersedes Exhibit 10.220), filed as
Exhibit 10.239 to the Registrant's Form 10-Q for the quarter ended
June 30, 2002 and incorporated herein by reference. +
10.240 The Charles Schwab Corporation Corporate Executive Bonus Plan,
restated to include amendments approved at the Annual Meeting of
Stockholders on May 13, 2002 (supersedes Exhibit 10.212), filed as
Exhibit 10.240 to the Registrant's Form 10-Q for the quarter ended
June 30, 2002 and incorporated herein by reference. +
10.241 Credit Agreement (364-Day Commitment) dated as of June 21, 2002
between the Registrant and the financial institutions listed therein
(supersedes Exhibit 10.238), filed as Exhibit 10.241 to the
Registrant's Form 10-Q for the quarter ended June 30, 2002 and
incorporated herein by reference.
- 24 -
10.242 The Charles Schwab Corporation 1987 Stock Option Plan, amended and
restated as of September 25, 2002, with form of Non-Qualified Stock
Option Agreement attached (supersedes Exhibit 10.222), filed as
Exhibit 10.242 to the Registrant's Form 10-Q for the quarter ended
September 30, 2002 and incorporated herein by reference. +
10.243 The Charles Schwab Corporation 1987 Executive Officer Stock Option
Plan, amended and restated as of September 25, 2002, with form of
Non-Qualified Stock Option Agreement attached (supersedes Exhibit
10.223), filed as Exhibit 10.243 to the Registrant's Form 10-Q for the
quarter ended September 30, 2002 and incorporated herein by reference.
+
10.244 The Charles Schwab Corporation 1992 Stock Incentive Plan, amended and
restated as of September 25, 2002 (supersedes Exhibit 10.224), filed
as Exhibit 10.244 to the Registrant's Form 10-Q for the quarter ended
September 30, 2002 and incorporated herein by reference. +
10.245 The Charles Schwab Corporation 2001 Stock Incentive Plan, amended and
restated as of September 25, 2002 (supersedes Exhibit 10.225), filed
as Exhibit 10.245 to the Registrant's Form 10-Q for the quarter ended
September 30, 2002 and incorporated herein by reference. +
10.246 Executive Employment Agreement by and among The Charles Schwab
Corporation, Schwab Capital Markets L.P., and Lon Gorman, and
Supplemental Agreement thereto, filed as Exhibit 10.246 to the
Registrant's Form 10-Q for the quarter ended September 30, 2002 and
incorporated herein by reference. +
10.247 The Charles Schwab Severence Pay Plan, restated as of August 1, 2002,
filed as Exhibit 10.247 to the Registrant's Form 10-Q for the quarter
ended September 30, 2002 and incorporated herein by reference. +
10.248 The Charles Schwab Corporation 2001 Stock Incentive Plan, restated to
include amendments through October 23, 2002 (supersedes Exhibits
10.225 and 10.245). +
10.249 Separation Agreement by and between H. Marshall Schwarz and The
Charles Schwab Corporation. +
10.250 Separation Agreement by and between Jeffrey S. Maurer and The Charles
Schwab Corporation. +
12.1 Computation of Ratio of Earnings to Fixed Charges.
13.1 Portions of The Charles Schwab Corporation 2002 Annual Report to
Stockholders, which have been incorporated herein by reference. Except
for such portions, such annual report is not deemed to be "filed"
herewith.
21.1 Subsidiaries of the Registrant.
23.1 Independent Auditors' Consent.
* Incorporated by reference to the identically-numbered exhibit to
Registrant's Registration Statement No. 33-16192 on Form S-1, as
amended and declared effective on September 22, 1987.
+ Management contract or compensatory plan.
- 25 -
THE CHARLES SCHWAB CORPORATION
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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, on March 21, 2003.
THE CHARLES SCHWAB CORPORATION
(Registrant)
BY: /s/ Charles R. Schwab
-------------------------
Charles R. Schwab
Chairman, Co-Chief Executive Officer
and Director
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities indicated, on March 21, 2003.
Signature / Title Signature / Title
----------------- -----------------
/s/ Charles R. Schwab /s/ David S. Pottruck
- ------------------------ -------------------------
Charles R. Schwab, David S. Pottruck,
Chairman, Co-Chief Executive Officer President, Co-Chief Executive
and Director Officer and Director
(principal executive officer) (principal executive officer)
/s/ Christopher V. Dodds
- -------------------------
Christopher V. Dodds,
Executive Vice President
and Chief Financial Officer
(principal financial and accounting officer)
/s/ Nancy H. Bechtle /s/ C. Preston Butcher
- ------------------------- -------------------------
Nancy H. Bechtle, Director C. Preston Butcher, Director
- ------------------------- -------------------------
Donald G. Fisher, Director Anthony M. Frank, Director
/s/ Frank C. Herringer /s/ Stephen T. McLin
- ------------------------- -------------------------
Frank C. Herringer, Director Stephen T. McLin, Director
/s/ Arun Sarin /s/ George P. Shultz
- ------------------------- -------------------------
Arun Sarin, Director George P. Shultz, Director
/s/ Paula A. Sneed /s/ Roger O. Walther
- ------------------------- -------------------------
Paula A. Sneed, Director Roger O. Walther, Director
- 26 -
THE CHARLES SCHWAB CORPORATION
CERTIFICATION
I, Charles R. Schwab, certify that:
1. I have reviewed this annual report on Form 10-K of The Charles Schwab
Corporation;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report
is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this annual report (the Evaluation Date); and
c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: March 21, 2003 /s/ Charles R. Schwab
---------------- ----------------------------------
Charles R. Schwab
Chairman of the Board and Co-Chief Executive Officer
- 27 -
THE CHARLES SCHWAB CORPORATION
CERTIFICATION
I, David S. Pottruck, certify that:
1. I have reviewed this annual report on Form 10-K of The Charles Schwab
Corporation;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report
is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this annual report (the Evaluation Date); and
c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: March 21, 2003 /s/ David S. Pottruck
---------------- ----------------------------------
David S. Pottruck
President and Co-Chief Executive Officer
- 28 -
THE CHARLES SCHWAB CORPORATION
CERTIFICATION
I, Christopher V. Dodds, certify that:
1. I have reviewed this annual report on Form 10-K of The Charles Schwab
Corporation;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report
is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this annual report (the Evaluation Date); and
c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: March 21, 2003 /s/ Christopher V. Dodds
---------------- ----------------------------------
Christopher V. Dodds
Executive Vice President and Chief Financial Officer
- 29 -
THE CHARLES SCHWAB CORPORATION
Index to Financial Statement Schedules
Page
----
Independent Auditors' Report F-2
Schedule I - Condensed Financial Information of Registrant:
Condensed Balance Sheet F-3
Condensed Statement of Income F-4
Condensed Statement of Cash Flows F-5
Notes to Condensed Financial Information F-6 - F-8
Schedule II - Valuation and Qualifying Accounts F-9
U.S. Trust Corporation Supplemental Financial Data (Unaudited) F-10 - F-16
Schedules not listed are omitted because of the absence of the conditions under
which they are required or because the information is included in the Company's
consolidated financial statements and notes in the Company's 2002 Annual Report
to Stockholders, which is incorporated herein by reference to Exhibit No. 13.1
of this report.
F-1
THE CHARLES SCHWAB CORPORATION
INDEPENDENT AUDITORS' REPORT
To the Stockholders and Board of Directors of
The Charles Schwab Corporation:
We have audited the consolidated financial statements of The Charles Schwab
Corporation and subsidiaries (the Company) as of December 31, 2002 and 2001, and
for each of the three years in the period ended December 31, 2002, and have
issued our report thereon dated February 24, 2003 (which report expresses an
unqualified opinion and includes an explanatory paragraph relating to an
accounting change); such consolidated financial statements and report are
included in your 2002 Annual Report to Stockholders and are incorporated herein
by reference. Our audits also included the financial statement schedules
(Schedules I and II) of the Company on pages F-3 through F-9. These financial
statement schedules are the responsibility of the Company's management. Our
responsibility is to express an opinion based on our audits. In our opinion,
such financial statement schedules, when considered in relation to the basic
consolidated financial statements taken as a whole, present fairly in all
material respects the information set forth therein.
/s/ Deloitte & Touche LLP
- -------------------------
San Francisco, California
February 24, 2003
F-2
SCHEDULE I
THE CHARLES SCHWAB CORPORATION
(PARENT COMPANY ONLY)
Condensed Financial Information of Registrant
Condensed Balance Sheet
(In millions)
December 31, 2002 2001
- --------------------------------------------------------------------------------
Assets
Cash and cash equivalents $ 1,079 $ 1,197
Securities owned - at market value 11
Advances to subsidiaries 339 324
Investments in subsidiaries, at equity 3,316 3,550
Other assets 105 48
- --------------------------------------------------------------------------------
Total $ 4,839 $ 5,130
================================================================================
Liabilities and Stockholders' Equity
Drafts payable $ 100
Accrued expenses and other liabilities $ 212 188
Intercompany borrowings 24
Long-term debt 592 679
- --------------------------------------------------------------------------------
Total liabilities 828 967
Stockholders' equity 4,011 4,163
- --------------------------------------------------------------------------------
Total $ 4,839 $ 5,130
================================================================================
See Notes to Condensed Financial Information.
F-3
SCHEDULE I
THE CHARLES SCHWAB CORPORATION
(PARENT COMPANY ONLY)
Condensed Financial Information of Registrant
Condensed Statement of Income
(In millions)
Year Ended December 31, 2002 2001 2000
- --------------------------------------------------------------------------------
Interest revenue $ 41 $ 73 $120
Interest expense (41) (53) (51)
- --------------------------------------------------------------------------------
Net interest revenue 20 69
Other revenues (losses) (2) 12 (5)
Restructuring expense (29) (30)
Other gains (expenses) 5 7 (28)
- --------------------------------------------------------------------------------
Income (loss) before income tax benefit (expense)
and equity in earnings of subsidiaries (26) 9 36
Income tax benefit (expense) 11 (1) (20)
- --------------------------------------------------------------------------------
Income (loss) before equity in earnings of subsidiaries (15) 8 16
Equity in earnings of subsidiaries:
Equity in undistributed earnings / (distributions
in excess of earnings) of subsidiaries (325) (529) 516
Dividends paid by subsidiaries 437 599 186
Equity in extraordinary item of subsidiary 12 121
- --------------------------------------------------------------------------------
Total 124 191 702
Net income $109 $199 $718
================================================================================
See Notes to Condensed Financial Information.
F-4
SCHEDULE I
THE CHARLES SCHWAB CORPORATION
(PARENT COMPANY ONLY)
Condensed Financial Information of Registrant
Condensed Statement of Cash Flows
(In millions)
Year Ended December 31, 2002 2001 2000
- --------------------------------------------------------------------------------
Cash Flows from Operating Activities
Net income $ 109 $ 199 $ 718
Adjustments to reconcile net income to net cash
provided by operating activities:
Distributions in excess of earnings/(equity in
undistributed earnings) of subsidiaries 325 529 (516)
Equity gain in extraordinary item of subsidiary (12) (121)
Net gain on sale of an investment (26)
Other 2 10
Net change in:
Other assets (32) (6) (3)
Drafts payable (100) (100)
Accrued expenses and other liabilities 6 9 26
- --------------------------------------------------------------------------------
Net cash provided by operating activities 298 494 225
- --------------------------------------------------------------------------------
Cash Flows from Investing Activities
Purchases of securities available for sale (6) (10)
Proceeds from sales of securities available for sale 11
Decrease in net advances to subsidiaries 37 384 545
Increase in investments in subsidiaries (51) (111) (436)
Cash payments for business combinations and
investments, net of cash received 1 (13) (29)
Proceeds from sale of an investment 49
- --------------------------------------------------------------------------------
Net cash provided by (used for) investing activities (2) 303 70
- --------------------------------------------------------------------------------
Cash Flows from Financing Activities
Proceeds from intercompany borrowings 24
Proceeds from long-term debt 311
Repayment of long-term debt (113) (39) (48)
Dividends paid (60) (61) (62)
Purchase of treasury stock (299) (368)
Proceeds from stock options exercised and other 34 30 85
Proceeds from issuance of stock to ESOP 25
- --------------------------------------------------------------------------------
Net cash provided by (used for) financing activities (414) (438) 311
- --------------------------------------------------------------------------------
Increase (Decrease) in Cash and Cash Equivalents (118) 359 606
Cash and Cash Equivalents at Beginning of Year 1,197 838 232
- --------------------------------------------------------------------------------
Cash and Cash Equivalents at End of Year $1,079 $1,197 $ 838
================================================================================
See Notes to Condensed Financial Information.
F-5
SCHEDULE I
The Charles Schwab Corporation
(PARENT COMPANY ONLY)
Condensed Financial Information of Registrant
Notes to Condensed Financial Information
1. Introduction and Basis of Presentation
The condensed financial information of The Charles Schwab Corporation (CSC)
should be read in conjunction with the consolidated financial statements of
The Charles Schwab Corporation and its majority-owned subsidiaries
(collectively referred to as the Company) and notes thereto included in the
Company's 2002 Annual Report to Stockholders, which is incorporated herein
by reference to Exhibit No. 13.1 of this report.
On May 31, 2000, CSC completed its merger (the Merger) with U.S. Trust
Corporation (USTC). The condensed financial statements, included in this
Annual Report on Form 10-K, give retroactive effect to the Merger, which
was accounted for as a pooling of interests in the consolidated financial
statements. The pooling of interests method of accounting requires the
restatement of all periods presented as if CSC and USTC had been operating
as a combined entity during such periods.
2. Supplemental Cash Flow Information
During 2000, CSC recorded a non-cash capital contribution of $19 million to
its subsidiary, Charles Schwab & Co., Inc. (Schwab), through the
contribution of net assets. Also during 2000, CSC recorded a non-cash
return of capital of $82 million from Schwab and a non-cash capital
contribution of $82 million to USTC in connection with Schwab's purchase of
rights to software from USTC.
Certain of CSC's subsidiaries have remitted the tax benefits from stock
options exercised and other stock-based compensation of $4 million in 2002,
$37 million in 2001 and $178 million in 2000 to CSC.
Certain information affecting the cash flows of CSC follows (in millions):
---------------------------------------------------------------------------
Year Ended December 31, 2002 2001 2000
---------------------------------------------------------------------------
Income taxes paid (refunded) $(21) $ 12 $ 10
===========================================================================
Interest paid:
Long-term debt $ 49 $ 52 $ 41
Other 1 2 1
---------------------------------------------------------------------------
Total interest paid $ 50 $ 54 $ 42
===========================================================================
Non-cash investing and financing activities:
Common stock and options issued for
purchases of businesses $ 4 $ 71 $529
===========================================================================
3. Long-term Debt
Long-term debt consists of Senior Medium-Term Notes, Series A (Medium-Term
Notes). At December 31, 2002, CSC had $566 million aggregate principal
amount of Medium-Term Notes outstanding with maturities ranging from 2003
to 2010 and fixed interest rates ranging from 6.04% to 8.05%. At December
31, 2002, the Medium-Term Notes carried a weighted-average interest rate of
7.29%. During 2002, CSC entered into interest rate swap agreements (Swaps)
with an aggregate notional principal amount of $293 million that
effectively convert the interest rate characteristics of a like amount 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. At December 31, 2002, the net
effect of the Swaps converted the hedged portion of the Medium-Term Notes
from a weighted-average fixed interest rate of 7.57% to a weighted-average
variable interest rate of 3.87%. These Swaps have been designated as fair
value hedges under Statement of Financial
F-6
Accounting Standards No. 133 - Accounting for Derivative Instruments and
Hedging Activities, and are recorded on the condensed balance sheet.
Changes in fair value of the Swaps are completely offset by changes in fair
value of the hedged Medium-Term Notes. At December 31, 2002, CSC recorded a
derivative asset of $26 million for these Swaps. Concurrently, the carrying
value of the Medium-Term Notes was increased by $26 million.
At December 31, 2001, CSC had $679 million aggregate principal amount of
Medium-Term Notes outstanding with maturities ranging from 2002 to 2010 and
fixed interest rates ranging from 6.04% to 8.05%. At December 31, 2001, the
Medium-Term Notes carried a weighted-average interest rate of 7.27%.
Annual maturities on long-term debt outstanding at December 31, 2002 are as
follows (in millions):
---------------------------------------------------------------------------
2003 $ 100
2004 81
2005 56
2006 68
2007 38
Thereafter 223
---------------------------------------------------------------------------
Total maturities 566
Fair value adjustment 26
---------------------------------------------------------------------------
Total $ 592
===========================================================================
4. Related Party Transactions
At December 31, 2002, receivables from affiliates, which is included in
advances to subsidiaries, was $8 million. At December 31, 2002, payables to
affiliates, which is included in accrued expenses and other liabilities,
was $44 million and is payable on demand and bears interest at variable
rates (1.4% at December 31, 2002).
CSC provides subordinated revolving credit facilities and other lending
arrangements to certain of its subsidiaries, including Schwab, USTC, Schwab
Capital Markets L.P. (SCM) and Charles Schwab Europe (CSE). The amount
outstanding under these facilities and arrangements totaled $331 million at
December 31, 2002.
Schwab has a $1.4 billion subordinated revolving credit facility which is
scheduled to expire in September 2003. The amount outstanding under this
facility was $220 million at both December 31, 2002 and 2001. At year end
2002, Schwab also had outstanding $25 million in fixed-rate subordinated
term loans from CSC maturing in 2004. The outstanding balance of these term
loans was $25 million at year end 2001.
USTC has a $300 million short-term credit facility maturing in December
2003. The amount outstanding under this facility was $35 million and $30
million at December 31, 2002 and 2001, respectively.
SCM has a $150 million subordinated lending arrangement with CSC which is
scheduled to expire in August 2003. This subordinated lending arrangement
was $70 million at the end of 2001. In addition, CSC provides SCM with a
$50 million short-term credit facility. The total amount outstanding under
these facilities at December 31, 2002 was $50 million. No funds were drawn
under either of these facilities at December 31, 2001.
F-7
CSE has a (pound sterling)50 million, equivalent to $81 million,
subordinated lending arrangement maturing in 2006, which was not used at
December 31, 2002. At December 31, 2001, CSE had a (pound sterling)50
million, equivalent to $73 million, subordinated lending arrangement, which
was not used as of that date.
CSC also provides other lending arrangements to certain of its
subsidiaries. At December 31, 2002, the total amount provided under these
lending arrangements was $28 million, of which $1 million was outstanding
and matures in 2003. These lending arrangements totaled $48 million, of
which $22 million was outstanding at December 31, 2001.
Interest earned by CSC from these subordinated revolving credit facilities
and other lending arrangements totaled $20 million in 2002, $42 million in
2001 and $90 million in 2000.
In 2002, two of CSC's subsidiaries established revolving credit facilities
for CSC which are scheduled to expire in 2005. The total amount available
to CSC under these borrowing arrangements was $28 million, of which $24
million was outstanding at December 31, 2002.
5. Commitments and Guarantees
During 2001, a subsidiary of CSC began occupying and making lease payments
on a newly renovated office building in San Francisco, California. The
lease for the building was arranged by working with a bank to create an
unconsolidated special purpose trust (Trust). The Trust, through an agent,
raised the $245 million needed to acquire and renovate the building by
issuing long-term debt ($235 million) and raising equity capital ($10
million). The subsidiary's lease payments to the Trust vary with
fluctuations in interest rates and are structured to cover the interest on
the debt obligations and a specified return on the equity (defined in the
Trust Agreement as 1.75% above the one-month LIBOR rate). This financing
arrangement is known as a synthetic lease. Upon the expiration of the lease
in June 2005, the subsidiary may renew the lease for an additional five
years subject to certain approvals and conditions, or arrange a sale of the
office building to a third party. The subsidiary also has an option to
purchase the office building for $245 million at any time after June 18,
2003. CSC has provided the Trust with a residual value guarantee, which
means that if the building is sold to a third party, CSC is responsible for
making up any shortfall between the actual sales price and the $245 million
funded by the Trust, up to a maximum of $202 million. Faced with continued
declines in the San Francisco, California commercial real estate market,
CSC obtained appraisals in the first and fourth quarters of 2002 in order
to estimate its obligations under the residual value guarantee. On the
basis of these appraisals, CSC determined that it was probable that the
fair value of the property at the end of the lease term would be less than
the residual value guaranteed by approximately $98 million. This shortfall
is being amortized as additional rent expense on a straight-line basis over
the initial lease term which ends in June 2005. Effective in the first
quarter of 2003, the subsidiary plans to cease amortizing the shortfall
upon adoption of Financial Accounting Standards Board Interpretation (FIN)
No. 46 - Consolidation of Variable Interest Entities. See FIN No. 46 in
note "2 - Significant Accounting Policies" in the Notes to Consolidated
Financial Statements in the Company's 2002 Annual Report to Stockholders,
which is incorporated herein by reference to Exhibit No. 13.1 of this
report.
CSC has provided certain indemnification agreements (i.e., protection
against damage or loss) to counterparties in connection with the
disposition of certain of the Company's assets. Such indemnifications
relate to employee terminations, ownership of intellectual property rights
(e.g., patents), accuracy of financial statements, compliance with laws and
regulations, and misrepresentations. At December 31, 2002, CSC had
indemnification agreements with various expiration dates and a maximum
potential liability of approximately $70 million. CSC does not believe that
any material loss related to such indemnifications is likely and therefore
no liability has been recognized.
F-8
SCHEDULE II
THE CHARLES SCHWAB CORPORATION
Valuation and Qualifying Accounts
(In millions)
Additions
Balance at --------------------- Balance at
Beginning Charged Written End
Description of Year to Expense Other(1) off of Year
- ----------- ---------- ---------- -------- ------- ----------
For the year ended
December 31, 2002:
Allowance for doubtful
accounts of
brokerage clients (2) $ 5 $ 3 $ 1 $ (5) $ 4
=====================================================
For the year ended
December 31, 2001:
Allowance for doubtful
accounts of
brokerage clients (2) $ 11 $ 3 $ (9) $ 5
=====================================================
For the year ended
December 31, 2000:
Allowance for doubtful
accounts of
brokerage clients (2) $ 11 $ 16 $ 2 $(18) $ 11
=====================================================
(1) Represents collections of previously written-off accounts.
(2) Excludes banking-related valuation and qualifying accounts. See "U.S. Trust
Corporation Supplemental Financial Data (Unaudited) - Loans to Banking
Clients and Related Allowance for Credit Losses" in this report for such
banking-related information.
F-9
The Charles Schwab Corporation
U.S. Trust Corporation Supplemental Financial Data (Unaudited)
The following supplemental financial data is presented in accordance with
the Securities Exchange Act of 1934, Industry Guide 3 - Statistical Disclosure
by Bank Holding Companies. The accompanying unaudited financial information only
includes U.S. Trust Corporation, a subsidiary of The Charles Schwab Corporation,
which is a wealth management firm that also provides fiduciary and private
banking services.
- ------------------------------------------------------------------------------------------------------------------------------------
1. Analysis of Change in Net Interest Revenue
An analysis of the year-to-year changes in the categories of interest revenue and interest expense resulting from changes in volume
and rate, on a taxable equivalent basis, is as follows (in millions):
- ------------------------------------------------------------------------------------------------------------------------------------
2002 Compared to 2001 2001 Compared to 2000
Increase (Decrease) Due to Increase (Decrease) Due to
Change in: Change in:
-------------------------------- --------------------------------
Average Average Total Average Average Total
Balance Rate Balance Rate
- ------------------------------------------------------------------------------------------------------------------------------------
Interest-earning assets:
Cash equivalents $ (5) $ (4) $ (9) $ 6 $ (9) $ (3)
Loans to banking clients (1) 51 (54) (3) 46 (26) 20
Securities available for sale (2):
U.S. Treasury securities 6 (5) 1 (1) (1) (2)
U.S. Government agencies and
collateralized mortgage obligations (3) 4 (9) (5) 11 11
State and municipal obligations 1 (1) 2 2
- ------------------------------------------------------------------------------------------------------------------------------------
Total securities available for sale 11 (15) (4) 12 (1) 11
Other interest-earning assets 1 (1) 1 1
- ------------------------------------------------------------------------------------------------------------------------------------
Total interest-earning assets 58 (74) (16) 65 (36) 29
- ------------------------------------------------------------------------------------------------------------------------------------
Interest-bearing sources of funds:
Interest-bearing deposits from banking clients 25 (58) (33) 15 (42) (27)
Short-term borrowings 8 (13) (5) 22 (16) 6
Long-term debt 4 (2) 2 (1) (1)
- ------------------------------------------------------------------------------------------------------------------------------------
Total sources on which interest is paid 37 (73) (36) 36 (58) (22)
- ------------------------------------------------------------------------------------------------------------------------------------
Change in net interest revenue-taxable equivalent basis $ 21 $ (1) $ 20 $ 29 $ 22 $ 51
================================================================================== =============================== =========
Tax equivalent adjustment 1 (1)
Provision for credit loss (3)
- ------------------------------------------------------------------------------------------------------------------------------------
Change in net interest revenue $ 18 $ 50
====================================================================================================================================
Changes that are not due solely to volume or rate have been allocated ratably to their respective categories.
(1) Includes average principal balances of non-accrual and reduced rate loans.
(2) The average balance and average rate for securities available for sale have been calculated using their amortized cost.
(3) Includes collateralized mortgage obligations securities issued by agencies including GNMA, FNMA and FHLMC.
F-10
2. Three-year Net Interest Revenue (Tax Equivalent Basis) and Average Balances
- ------------------------------------------------------------------------------------------------------------------------------------
For the Year Ended December 31, 2002 2001 2000
--------------------------- --------------------------- ---------------------------
Average Average Average Average Average Average
(Dollars in Millions) Balance Interest Rate Balance Interest Rate Balance Interest Rate
- ------------------------------------------------------------------------------------------------------------------------------------
Assets:
Cash equivalents $ 193 $ 3 1.55% $ 338 $ 12 3.48% $ 241 $ 15 6.12%
Securities available for sale (1)(2) 1,508 80 5.31% 1,317 83 6.33% 1,133 72 6.37%
Loans to banking clients (3) 4,204 236 5.62% 3,469 240 6.91% 2,868 219 7.65%
Other interest-earning assets 45 2 4.49% 38 3 7.14% 28 2 7.02%
- ------------------------------------------------------------------------------------------------------------------------------------
Total interest-earning assets 5,950 321 5.40% 5,162 338 6.54% 4,270 308 7.22%
- ------------------------------------------------------------------------------------------------------------------------------------
Non-interest-earning assets 771 776 687
- ------------------------------------------------------------------------------------------------------------------------------------
Total Assets $ 6,721 $ 5,938 $ 4,957
====================================================================================================================================
Liabilities and Stockholder's Equity:
Interest-bearing deposits from banking
clients 4,045 95 2.36% 3,365 128 3.80% 3,071 155 5.05%
Short-term borrowings 813 19 2.30% 619 24 3.90% 288 18 6.44%
Long-term debt 97 6 6.28% 52 4 8.42% 59 5 8.19%
- ------------------------------------------------------------------------------------------------------------------------------------
Total sources on which interest is paid 4,955 120 2.43% 4,036 156 3.87% 3,418 178 5.22%
====================================================================================================================================
Non-interest-bearing deposits 632 797 779
Non-interest-bearing liabilities 446 469 349
Stockholder's equity 688 636 411
- ------------------------------------------------------------------------------------------------------------------------------------
Total Liabilities and Stockholder's Equity $ 6,721 $ 5,938 $ 4,957
====================================================================================================================================
Net interest revenue - taxable equivalent
basis 201 182 130
Net free funds $ 994 $ 1,126 $ 852
- ------------------------------------------------------------------------------------------------------------------------------------
Tax equivalent adjustment (2) (4) (5) (4)
Provision for credit loss (3)
- ------------------------------------------------------------------------------------------------------------------------------------
$ 194 $ 177 $ 126
====================================================================================================================================
Net yield on interest earning assets
(tax equivalent basis) 3.38% 3.51% 3.04%
- ------------------------------------------------------------------------------------------------------------------------------------
(1) The average balance and average rate for securities available for sale have been calculated using their amortized cost.
(2) Yields on state and municipal obligations are stated on a taxable equivalent basis, employing the federal statutory income tax
rate adjusted for the effect of state and local taxes, resulting in a marginal tax rate of approximately 45% for 2002, 42% for
2001, and 40% for 2000.
(3) Includes average principal balances of non-accrual and reduced rate loans.
F-11
3. Securities Available for Sale
The amortized cost, estimated fair value and gross unrealized gains and losses on securities available for sale are as follows (in
millions):
- ------------------------------------------------------------------------------------------------------------------------------------
December 31, 2002 2001 2000
- ------------------------------------------------------------------------------------------------------------------------------------
U.S. treasury securities:
Amortized cost $ 290 $ 159 $ 157
Aggregate fair value $ 296 $ 160 $ 157
Gross unrealized gains $ 6 $ 1
Gross unrealized losses
U.S. government sponsored agencies and corporations:
Amortized cost 701 748 774
Aggregate fair value 727 754 776
Gross unrealized gains 26 7 6
Gross unrealized losses 1 4
State and municipal obligations:
Amortized cost 169 154 134
Aggregate fair value 178 158 135
Gross unrealized gains 9 4 1
Gross unrealized losses
Collateralized mortgage obligations (1):
Amortized cost 88 84 129
Aggregate fair value 87 84 129
Gross unrealized gains
Gross unrealized losses 1
Other securities:
Amortized cost 33 32 23
Aggregate fair value 34 33 23
Gross unrealized gains 1 1
Gross unrealized losses
- ------------------------------------------------------------------------------------------------------------------------------------
Total securities available for sale:
Amortized cost $ 1,281 $ 1,177 $ 1,217
Aggregate fair value $ 1,322 $ 1,189 $ 1,220
Gross unrealized gains $ 42 $ 13 $ 7
Gross unrealized losses $ 1 $ 1 $ 4
====================================================================================================================================
(1) Collateralized by either GNMA, FNMA or FHLMC obligations.
F-12
4. Loans to Banking Clients and Related Allowance for Credit Losses
An analysis of the composition of the loan portfolio is as follows (in millions):
- ------------------------------------------------------------------------------------------------------------------------------------
December 31, 2002 2001 2000 1999 1998
- ------------------------------------------------------------------------------------------------------------------------------------
Private banking:
Residential real estate mortgages $ 3,594 $ 3,085 $ 2,249 $ 1,985 $ 1,630
Other 976 943 849 664 526
- ------------------------------------------------------------------------------------------------------------------------------------
Total private banking loans 4,570 4,028 3,098 2,649 2,156
- ------------------------------------------------------------------------------------------------------------------------------------
Loans to financial institutions
for purchasing and carrying securities 32 61 57 32
All other 9 7 8 3 3
- ------------------------------------------------------------------------------------------------------------------------------------
Total $ 4,579 $ 4,067 $ 3,167 $ 2,709 $ 2,191
====================================================================================================================================
An analysis of nonperforming assets is as follows (in millions):
- ------------------------------------------------------------------------------------------------------------------------------------
December 31, 2002 2001 2000 1999 1998
- ------------------------------------------------------------------------------------------------------------------------------------
Non-accrual loans $ 1 $ 5 $ 1 $ 2 $ 6
Other real estate owned, net 1
- ------------------------------------------------------------------------------------------------------------------------------------
Total $ 1 $ 5 $ 1 $ 2 $ 7
====================================================================================================================================
Average non-accrual loans $ 3 $ 4 $ 1 $ 1 $ 8
====================================================================================================================================
An analysis of the allowance for credit losses on the loan portfolio is as follows (in millions):
- ------------------------------------------------------------------------------------------------------------------------------------
2002 2001 2000 1999 1998
- ------------------------------------------------------------------------------------------------------------------------------------
Balance at beginning of year $ 21 $ 20 $ 20 $ 19 $ 18
Net recoveries:
Private banking 1 1 1
Other
- ------------------------------------------------------------------------------------------------------------------------------------
Net total recoveries 1 1 1
- ------------------------------------------------------------------------------------------------------------------------------------
Provision charged to income 3
- ------------------------------------------------------------------------------------------------------------------------------------
Balance at end of year $ 24 $ 21 $ 20 $ 20 $ 19
====================================================================================================================================
F-13
The maturities of the loan portfolio at December 31, 2002 is as follows (in millions):
- ------------------------------------------------------------------------------------------------------------------------------------
Within 1-5 Over
1 Year Years 5 Years Total
- ------------------------------------------------------------------------------------------------------------------------------------
Private banking:
Residential real estate mortgages (1) $ 852 $ 829 $ 1,913 $ 3,594
Other 917 40 19 976
- ------------------------------------------------------------------------------------------------------------------------------------
Total private banking loans 1,769 869 1,932 4,570
- ------------------------------------------------------------------------------------------------------------------------------------
Loans to financial institutions for purchasing
and carrying securities
All other 4 1 4 9
- ------------------------------------------------------------------------------------------------------------------------------------
Total $ 1,773 $ 870 $ 1,936 $ 4,579
====================================================================================================================================
Interest sensitivity of loans at December 31, 2002:
Loans with predetermined interest rates $ 223 $ 771 $ 994
Loans with floating or adjustable interest rates 647 1,165 1,812
- ------------------------------------------------------------------------------------------------------------------------------------
Total $ 870 $ 1,936 $ 2,806
====================================================================================================================================
(1) Maturities are based upon the contractual terms of the loans.
5. Summary of Credit Loss on Banking Loans Experience
- ------------------------------------------------------------------------------------------------------------------------------------
(Dollars in Millions) 2002 2001 2000 1999 1998
- ------------------------------------------------------------------------------------------------------------------------------------
Average loans $ 4,204 $ 3,469 $ 2,867 $ 2,404 $ 1,969
Allowance to year end loans .52% .53% .64% .74% .89%
Allowance to nonperforming loans n/m n/m n/m n/m n/m
Net recoveries to average loans .01% .02% .03%
Nonperforming assets to average
loans and real estate owned .03% .14% .05% .07% .34%
- ------------------------------------------------------------------------------------------------------------------------------------
n/m - Not meaningful, greater than two hundred percent.
At December 31, 2002, the loan portfolio included loans to individuals involved in the financial services industry of approximately
$1.1 billion. Recoveries exceeded charge-offs from loans to individuals involved in the financial services industry in 1998 through
2001. Recoveries approximated charge-offs from loans to individuals involved in the financial services industry in 2002.
6. Deposits from Banking Clients
- ------------------------------------------------------------------------------------------------------------------------------------
2002 2001 2000
-------------------- -------------------- --------------------
(Dollars in Millions) Amount Rate Amount Rate Amount Rate
- ------------------------------------------------------------------------------------------------------------------------------------
Analysis of average daily deposits:
Noninterest-bearing deposits $ 632 $ 797 $ 779
Certificates of deposits of $100 or more 63 2.30% 80 4.21% 54 5.61%
Money market and other savings deposits 3,983 2.98% 3,285 3.79% 3,017 5.15%
- ------------------------------------------------------------------------------------------------------------------------------------
Total deposits $ 4,678 $ 4,162 $ 3,850
====================================================================================================================================
F-14
- ------------------------------------------------------------------------------------------------------------------------------------
Certificates Other
(In Millions) of Deposit Deposits
- ------------------------------------------------------------------------------------------------------------------------------------
Maturity distribution of interest bearing deposits in Amounts of $100 or more
at December 31, 2002:
Three months or less $ 32 $ 2,773
Three through six months 33
Six through twelve months 4
Over twelve months 4
- ------------------------------------------------------------------------------------------------------------------------------------
Total $ 73 $ 2,773
====================================================================================================================================
7. Short-term Borrowings
An analysis of outstanding short-term borrowings is as follows (dollars in millions):
- ------------------------------------------------------------------------------------------------------------------------------------
December 31, 2002 2001 2000
- ------------------------------------------------------------------------------------------------------------------------------------
Federal funds purchased:
Year-end balance $ 16 $ 26 $ 12
Daily average balance $ 133 $ 66 $ 115
Maximum month-end balance $ 449 $ 63 $ 311
Weighted-average interest rate during the year 1.74% 3.89% 6.50%
Weighted-average interest rate at year end 1.13% 1.71% 5.81%
- ------------------------------------------------------------------------------------------------------------------------------------
Securities sold under agreements to repurchase:
Year-end balance $ 326 $ 183 $ 100
Daily average balance $ 296 $ 136 $ 72
Maximum month-end balance $ 388 $ 225 $ 102
Weighted-average interest rate during the year 2.20% 3.66% 5.98%
Weighted-average interest rate at year end 2.00% 2.26% 6.39%
- ------------------------------------------------------------------------------------------------------------------------------------
Other borrowed funds:
Year-end balance $ 166 $ 354 $ 227
Daily average balance $ 350 $ 415 $ 101
Maximum month-end balance $ 408 $ 867 $ 227
Weighted-average interest rate during the year 2.60% 3.99% 6.73%
Weighted-average interest rate at year end 1.43% 3.80% 6.76%
- ------------------------------------------------------------------------------------------------------------------------------------
F-15
8. Ratios
- ------------------------------------------------------------------------------------------------------------------------------------
Year ended December 31, 2002 2001 2000 1999 1998
- ------------------------------------------------------------------------------------------------------------------------------------
Return on average stockholder's equity (1) 4.53% 22.50% 10.54% 29.22% 26.20%
Return on average total assets (1) .46% 2.41% .87% 1.85% 1.68%
Average stockholder's equity as a percentage of
Average total assets 10.24% 10.70% 8.29% 6.35% 6.42%
- ------------------------------------------------------------------------------------------------------------------------------------
(1) Includes after-tax extraordinary gain related to the sale of corporate trust business of $12 million, merger retention program
costs of $13 million, and restructuring and other charges of $24 million in 2002. Excluding these costs, return on average
stockholder's equity would have been 8.17% and return on average total assets would have been .84%. In 2001, includes an
after-tax extraordinary gain on the sale of corporate trust business of $121 million, merger retention program costs of $31
million, and restructuring and other charges of $28 million. Excluding these costs, return on average stockholder's equity
would have been 12.67% and return on average total assets would have been 1.36%.
F-16