Edgar Filing: SCHWAB CHARLES CORP

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Form 10-Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2013

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

of incorporation or organization)

(I.R.S. Employer Identification No.)

211 Main Street, San Francisco, CA 94105

(Address of principal executive offices and zip code)

Registrant’s telephone number, including area code: (415) 667-7000

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

1,279,979,406 shares of $.01 par value Common Stock

Outstanding on April 23, 2013

THE CHARLES SCHWAB CORPORATION

Quarterly Report on Form 10-Q

For the Quarter Ended March 31, 2013

Index


		Page
Part I - Financial Information

Item 1.	Condensed Consolidated Financial Statements (Unaudited):

	Statements of Income		1

	Statements of Comprehensive Income		2

	Balance Sheets		3

	Statements of Cash Flows		4

	Notes		5 – 22

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		23 – 40

Item 3.	Quantitative and Qualitative Disclosures About Market Risk		41 – 42

Item 4.	Controls and Procedures		42

Part II - Other Information

Item 1.	Legal Proceedings		43

Item 1A.	Risk Factors		43

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds		43

Item 3.	Defaults Upon Senior Securities		44

Item 4.	Mine Safety Disclosures		44

Item 5.	Other Information		44

Item 6.	Exhibits		45 – 46

Signature			47

Part I – FINANCIAL INFORMATION

Item 1. Condensed Consolidated Financial Statements

THE CHARLES SCHWAB CORPORATION

Condensed Consolidated Statements of Income

(In millions, except per share amounts)

(Unaudited)


	Three Months Ended March 31,
	2013			2012
Net Revenues
Asset management and administration fees	$	552		$	484

Interest revenue		497			472
Interest expense		(28	)		(38	)

Net interest revenue		469			434

Trading revenue		223			243
Other		56			46
Provision for loan losses		(6	)		—
Net impairment losses on securities⁽¹⁾		(4	)		(18	)


Total net revenues		1,290			1,189

Expenses Excluding Interest
Compensation and benefits		536			465
Professional services		99			96
Occupancy and equipment		77			76
Advertising and market development		74			67
Communications		54			58
Depreciation and amortization		51			48
Other		68			66

Total expenses excluding interest		959			876

Income before taxes on income		331			313
Taxes on income		125			118

Net Income		206			195


Preferred stock dividends		8			—

Net Income Available to Common Stockholders	$	198		$	195


Weighted-Average Common Shares Outstanding — Diluted		1,282			1,273

Earnings Per Common Share — Basic	$	.15		$	.15
Earnings Per Common Share — Diluted	$	.15		$	.15

⁽¹⁾	Net impairment losses on securities include total other-than-temporary impairment losses of $0 million and $2 million, net of $(4) million and $(16) million reclassified from other comprehensive income, for the three months ended March 31, 2013 and 2012, respectively.

See Notes to Condensed Consolidated Financial Statements.

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THE CHARLES SCHWAB CORPORATION

Condensed Consolidated Statements of Comprehensive Income

(In millions)

(Unaudited)


	Three Months Ended March 31,
	2013			2012
Net Income	$	206		$	195
Other comprehensive income, before tax:
Change in net unrealized gain on securities available for sale:
Net unrealized (loss) gain		(3	)		89
Reclassification of impairment charges included in net impairment losses on securities		4			18
Other		1			—

Other comprehensive income, before tax		2			107

Income tax effect		—			39

Other comprehensive income, net of tax		2			68

Comprehensive Income	$	208		$	263

See Notes to Condensed Consolidated Financial Statements.

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THE CHARLES SCHWAB CORPORATION

Condensed Consolidated Balance Sheets

(In millions, except per share and share amounts)

(Unaudited)


	March 31, 2013			December 31, 2012
Assets
Cash and cash equivalents	$	6,931		$	12,663
Cash and investments segregated and on deposit for regulatory purposes (including resale agreements of $18,387 at March 31, 2013 and $19,325 at December 31, 2012)		26,897			28,469
Receivables from brokers, dealers, and clearing organizations		467			333
Receivables from brokerage clients — net		12,454			13,458
Other securities owned — at fair value		545			636
Securities available for sale		48,809			46,123
Securities held to maturity (fair value — $23,316 at March 31, 2013 and $18,732 at December 31, 2012)		22,920			18,194
Loans to banking clients — net		11,300			10,726
Equipment, office facilities, and property — net		681			675
Goodwill		1,231			1,228
Intangible assets — net		302			319
Other assets		787			813

Total assets	$	133,324		$	133,637

Liabilities and Stockholders’ Equity
Deposits from banking clients	$	82,424		$	79,377
Payables to brokers, dealers, and clearing organizations		1,152			1,068
Payables to brokerage clients		36,888			40,330
Accrued expenses and other liabilities		1,453			1,641
Long-term debt		1,631			1,632

Total liabilities		123,548			124,048

Stockholders’ equity:
Preferred stock — $.01 par value per share; aggregated liquidation preference of $885 at both March 31, 2013 and December 31, 2012		866			865
Common stock — 3 billion shares authorized; $.01 par value per share; 1,487,543,446 shares issued		15			15
Additional paid-in capital		3,911			3,881
Retained earnings		8,674			8,554
Treasury stock, at cost — 207,704,836 shares at March 31, 2013 and 210,014,305 shares at December 31, 2012		(3,990	)		(4,024	)
Accumulated other comprehensive income		300			298

Total stockholders’ equity		9,776			9,589

Total liabilities and stockholders’ equity	$	133,324		$	133,637

See Notes to Condensed Consolidated Financial Statements.

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THE CHARLES SCHWAB CORPORATION

Condensed Consolidated Statement of Cash Flows

(In millions)

(Unaudited)


	Three Months Ended March 31,
	2013			2012
Cash Flows from Operating Activities
Net income	$	206		$	195
Adjustments to reconcile net income to net cash (used for) provided by operating activities:
Provision for loan losses		6			—
Net impairment losses on securities		4			18
Stock-based compensation		37			25
Depreciation and amortization		51			48
Premium amortization, net, on securities available for sale and securities held to maturity		44			52
Other		7			—
Originations of loans held for sale		—			(335	)
Proceeds from sales of loans held for sale		—			354
Net change in:
Cash and investments segregated and on deposit for regulatory purposes		1,572			(871	)
Receivables from brokers, dealers, and clearing organizations		(134	)		(360	)
Receivables from brokerage clients		1,003			(136	)
Other securities owned		91			137
Other assets		(29	)		22
Payables to brokers, dealers, and clearing organizations		84			170
Payables to brokerage clients		(3,442	)		868
Accrued expenses and other liabilities		132			(89	)

Net cash (used for) provided by operating activities		(368	)		98

Cash Flows from Investing Activities
Purchases of securities available for sale		(6,703	)		(6,836	)
Proceeds from sales of securities available for sale		—			250
Principal payments on securities available for sale		3,997			2,759
Purchases of securities held to maturity		(6,031	)		(1,193	)
Principal payments on securities held to maturity		1,279			1,308
Net (increase) decrease in loans to banking clients		(530	)		34
Purchase of equipment, office facilities, and property		(49	)		(42	)
Other investing activities		2			—

Net cash used for investing activities		(8,035	)		(3,720	)

Cash Flows from Financing Activities
Net change in deposits from banking clients		3,047			1,405
Repayment of commercial paper		(300	)		—
Repayment of long-term debt		(2	)		(1	)
Net proceeds from preferred stock offerings		—			394
Dividends paid		(98	)		(77	)
Proceeds from stock options exercised and other		25			15
Other financing activities		(1	)		1

Net cash provided by financing activities		2,671			1,737

Decrease in Cash and Cash Equivalents		(5,732	)		(1,885	)
Cash and Cash Equivalents at Beginning of Period		12,663			8,679

Cash and Cash Equivalents at End of Period	$	6,931		$	6,794


Supplemental Cash Flow Information
Cash paid during the period for:
Interest	$	40		$	36
Income taxes	$	35		$	12

See Notes to Condensed Consolidated Financial Statements.

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THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)

Introduction and Basis of Presentation

The Charles Schwab Corporation (CSC) is a savings and loan holding company engaged, through its subsidiaries, in securities brokerage, banking, money management, and financial advisory services. Charles Schwab & Co., Inc. (Schwab) is a securities broker-dealer with over 300 domestic branch offices in 45 states, as well as a branch in each of the Commonwealth of Puerto Rico and London, U.K. In addition, Schwab serves clients in Hong Kong through one of CSC’s subsidiaries. Other subsidiaries include Charles Schwab Bank (Schwab Bank), a federal savings bank, and Charles Schwab Investment Management, Inc. (CSIM), the investment advisor for Schwab’s proprietary mutual funds, which are referred to as the Schwab Funds^®, and for Schwab’s exchange-traded funds, which are referred to as the Schwab ETFs™.

The accompanying unaudited condensed consolidated financial statements include CSC and its majority-owned subsidiaries (collectively referred to as the Company). Intercompany balances and transactions have been eliminated. These condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States (U.S.), which require management to make certain estimates and assumptions that affect the reported amounts in the accompanying financial statements. Certain estimates relate to other-than-temporary impairment of securities available for sale and securities held to maturity, valuation of goodwill, allowance for loan losses, and legal and regulatory reserves. Actual results may differ from those estimates. These condensed consolidated financial statements reflect all adjustments that are, in the opinion of management, necessary for a fair presentation of the results for the periods presented. These adjustments are of a normal recurring nature. Certain prior period amounts have been reclassified to conform to the 2013 presentation. The Company’s results for any interim period are not necessarily indicative of results for a full year or any other interim period. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2012.

Securities Available for Sale and Securities Held to Maturity

The amortized cost, gross unrealized gains and losses, and fair value of securities available for sale and securities held to maturity are as follows:


March 31, 2013	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
Securities available for sale:
U.S. agency mortgage-backed securities	$	19,465	$	354	$	—	$	19,819
Asset-backed securities		9,706		81		1		9,786
Corporate debt securities		7,554		65		2		7,617
Certificates of deposit		5,890		11		1		5,900
U.S. agency notes		4,040		2		6		4,036
Non-agency residential mortgage-backed securities		747		4		42		709
Commercial paper		649		—		—		649
Other securities		278		15		—		293

Total securities available for sale	$	48,329	$	532	$	52	$	48,809

Securities held to maturity:
U.S. agency mortgage-backed securities	$	22,188	$	470	$	63	$	22,595
Other securities		732		—		11		721

Total securities held to maturity	$	22,920	$	470	$	74	$	23,316

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THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)


December 31, 2012	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
Securities available for sale:
U.S. agency mortgage-backed securities	$	20,080	$	396	$	—	$	20,476
Asset-backed securities		8,104		62		2		8,164
Corporate debt securities		6,197		61		2		6,256
Certificates of deposit		6,150		12		1		6,161
U.S. agency notes		3,465		2		3		3,464
Non-agency residential mortgage-backed securities		796		2		65		733
Commercial paper		574		—		—		574
Other securities		278		17		—		295

Total securities available for sale	$	45,644	$	552	$	73	$	46,123

Securities held to maturity:
U.S. agency mortgage-backed securities	$	17,750	$	558	$	19	$	18,289
Other securities		444		—		1		443

Total securities held to maturity	$	18,194	$	558	$	20	$	18,732

A summary of securities with unrealized losses, aggregated by category and period of continuous unrealized loss, is as follows:


	Less than 12 months				12 months or longer				Total
March 31, 2013	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
Securities available for sale:
Asset-backed securities	$	—	$	—	$	768	$	1	$	768	$	1
Corporate debt securities		1,232		2		—		—		1,232		2
Certificates of deposit		499		1		—		—		499		1
U.S. agency notes		2,300		6		—		—		2,300		6
Non-agency residential mortgage-backed securities		66		1		494		41		560		42

Total	$	4,097	$	10	$	1,262	$	42	$	5,359	$	52

Securities held to maturity:
U.S. agency mortgage-backed securities	$	7,177	$	63	$	—	$	—	$	7,177	$	63
Other securities		621		11		—		—		621		11

Total	$	7,798	$	74	$	—	$	—	$	7,798	$	74

Total securities with unrealized losses ⁽¹⁾	$	11,895	$	84	$	1,262	$	42	$	13,157	$	126

⁽¹⁾	The number of investment positions with unrealized losses totaled 128 for securities available for sale and 67 for securities held to maturity.

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THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)


	Less than 12 months				12 months or longer				Total
December 31, 2012	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
Securities available for sale:
Asset-backed securities	$	—	$	—	$	801	$	2	$	801	$	2
Corporate debt securities		878		2		—		—		878		2
Certificates of deposit		599		1		—		—		599		1
U.S. agency notes		2,102		3		—		—		2,102		3
Non-agency residential mortgage-backed securities		46		1		549		64		595		65

Total	$	3,625	$	7	$	1,350	$	66	$	4,975	$	73

Securities held to maturity:
U.S. agency mortgage-backed securities	$	2,680	$	19	$	—	$	—	$	2,680	$	19
Other securities		240		1		—		—		240		1

Total	$	2,920	$	20	$	—	$	—	$	2,920	$	20

Total securities with unrealized losses ⁽¹⁾	$	6,545	$	27	$	1,350	$	66	$	7,895	$	93

⁽¹⁾	The number of investment positions with unrealized losses totaled 139 for securities available for sale and 24 for securities held to maturity.

Unrealized losses in securities available for sale of $52 million as of March 31, 2013, were concentrated in non-agency residential mortgage-backed securities. Included in non-agency residential mortgage-backed securities are securities collateralized by loans that are considered to be “Prime” (defined as loans to borrowers with a Fair Isaac Corporation (FICO) credit score of 620 or higher at origination), and “Alt-A” (defined as Prime loans with reduced documentation at origination). At March 31, 2013, the amortized cost and fair value of Alt-A residential mortgage-backed securities were $295 million and $269 million, respectively.

Certain Alt-A and Prime residential mortgage-backed securities experienced continued credit deterioration in the first quarter of 2013. Based on the Company’s cash flow projections, management determined that it does not expect to recover all of the amortized cost of these securities and therefore determined that these securities were other-than-temporarily impaired (OTTI). The Company employs a buy and hold strategy relative to its mortgage-related securities, and does not intend to sell these securities and will not be required to sell these securities before anticipated recovery of the unrealized losses on these securities. Further, the Company has adequate liquidity at March 31, 2013, with cash and cash equivalents totaling $6.9 billion, a loan-to-deposit ratio of 14%, adequate access to short-term borrowing facilities and regulatory capital ratios in excess of “well capitalized” levels. Because the Company does not intend to sell these securities and it is not “more likely than not” that the Company will be required to sell these securities, the Company recognized an impairment charge equal to the securities’ expected credit losses of $4 million during the first quarter of 2013. The expected credit losses were measured as the difference between the present value of expected cash flows and the amortized cost of the securities. Further deterioration in the performance of the underlying loans in the Company’s non-agency residential mortgage-backed securities portfolio could result in the recognition of additional impairment losses.

The following table is a rollforward of the amount of credit losses recognized in earnings for OTTI securities held by the Company during the period for which a portion of the impairment was recognized in other comprehensive income:


	Three Months Ended March 31,
	2013		2012
Balance at beginning of period	$	159	$	127
Credit losses recognized into current period earnings on debt securities for which an other-than-temporary impairment was not previously recognized		—		1
Credit losses recognized into current period earnings on debt securities for which an other-than-temporary impairment was previously recognized		4		17

Balance at end of period	$	163	$	145

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THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)

The maturities of securities available for sale and securities held to maturity at March 31, 2013, are as follows:


	Within 1 year		After 1 year through 5 years		After 5 years through 10 years		After 10 years		Total
Securities available for sale:
U.S. agency mortgage-backed securities ⁽¹⁾	$	—	$	126	$	3,986	$	15,707	$	19,819
Asset-backed securities		400		589		760		8,037		9,786
Corporate debt securities		1,879		5,738		—		—		7,617
Certificates of deposit		4,083		1,817		—		—		5,900
U.S. agency notes		—		1,625		2,411		—		4,036
Non-agency residential mortgage-backed securities		—		—		6		703		709
Commercial paper		649		—		—		—		649
Other securities		—		—		—		293		293

Total fair value	$	7,011	$	9,895	$	7,163	$	24,740	$	48,809
Total amortized cost	$	6,995	$	9,828	$	7,021	$	24,485	$	48,329

Securities held to maturity:
U.S. agency mortgage-backed securities ⁽¹⁾	$	—	$	—	$	11,540	$	11,055	$	22,595
Other securities		—		100		363		258		721

Total fair value	$	—	$	100	$	11,903	$	11,313	$	23,316
Total amortized cost	$	—	$	100	$	11,676	$	11,144	$	22,920

⁽¹⁾	Mortgage-backed securities have been allocated to maturity groupings based on final contractual maturities. Actual maturities will differ from final contractual maturities because borrowers on a certain portion of loans underlying these securities have the right to prepay their obligations.

There were no sales of securities available for sale in the first quarter of 2013. Proceeds received from sales of securities available for sale were $250 million in the first quarter of 2012. There were no gross realized gains or losses from sales of securities available for sale in the first quarter of 2012.

Loans to Banking Clients and Related Allowance for Loan Losses

The composition of loans to banking clients by loan segment is as follows:


	March 31, 2013			December 31, 2012
Residential real estate mortgages	$	7,102		$	6,507
Home equity lines of credit		3,193			3,287
Personal loans secured by securities		1,035			963
Other		29			25

Total loans to banking clients ⁽¹⁾		11,359			10,782
Allowance for loan losses		(59	)		(56	)

Total loans to banking clients – net	$	11,300		$	10,726

⁽¹⁾	All loans are evaluated for impairment by loan segment.

The Company has commitments to extend credit related to unused home equity lines of credit (HELOCs), personal loans secured by securities, and other lines of credit, which totaled $5.4 billion at both March 31, 2013, and December 31, 2012, respectively.

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THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)

Changes in the allowance for loan losses were as follows:


Three Months Ended	March 31, 2013									March 31, 2012
	Residential real estate mortgages			Home equity lines of credit			Total			Residential real estate mortgages			Home equity lines of credit			Total
Balance at beginning of period	$	36		$	20		$	56		$	40		$	14		$	54
Charge-offs		(2	)		(2	)		(4	)		(3	)		(2	)		(5	)
Recoveries		1			—			1			1			—			1
Provision for loan losses		5			1			6			(1	)		1			—

Balance at end of period	$	40		$	19		$	59		$	37		$	13		$	50

Included in the loan portfolio are nonaccrual loans totaling $42 million and $48 million at March 31, 2013 and December 31, 2012, respectively. There were no loans accruing interest that were contractually 90 days or more past due at March 31, 2013 or December 31, 2012. Nonperforming assets, which include nonaccrual loans and other real estate owned, totaled $46 million and $54 million at March 31, 2013 and December 31, 2012, respectively.

In 2012, Schwab Bank launched a co-branded loan origination program for Schwab Bank clients (the Program) with Quicken Loans, Inc. (Quicken^® Loans^®). Pursuant to the Program, Quicken Loans originates and services first lien residential real estate mortgage loans (First Mortgages) and HELOCs for Schwab Bank clients. Under the Program, Schwab Bank purchases certain First Mortgages and HELOCs that are originated by Quicken Loans. Schwab Bank sets the underwriting guidelines and pricing for all loans it intends to purchase for its portfolio. Schwab Bank purchased First Mortgages of $1.3 billion and $71 million during the first quarters of 2013 and 2012, respectively. The First Mortgages purchased under the Program are included in the First mortgages loan class in the tables below.

The delinquency analysis by loan class is as follows:


March 31, 2013	Current		30-59 days past due		60-89 days past due		>90 days past due		Total past due		Total loans
Residential real estate mortgages:
First mortgages	$	6,906	$	9	$	1	$	29	$	39	$	6,945
Purchased first mortgages		151		2		—		4		6		157
Home equity lines of credit		3,175		7		2		9		18		3,193
Personal loans secured by securities		1,035		—		—		—		—		1,035
Other		29		—		—		—		—		29

Total loans to banking clients	$	11,296	$	18	$	3	$	42	$	63	$	11,359


December 31, 2012	Current		30-59 days past due		60-89 days past due		>90 days past due		Total past due		Total loans
Residential real estate mortgages:
First mortgages	$	6,291	$	22	$	2	$	33	$	57	$	6,348
Purchased first mortgages		154		1		—		4		5		159
Home equity lines of credit		3,269		5		2		11		18		3,287
Personal loans secured by securities		963		—		—		—		—		963
Other		22		3		—		—		3		25

Total loans to banking clients	$	10,699	$	31	$	4	$	48	$	83	$	10,782

In addition to monitoring delinquency, the Company monitors the credit quality of residential real estate mortgages and HELOCs by stratifying the portfolios by the year of origination, borrower FICO scores at origination (Origination FICO), updated borrower FICO scores (Updated FICO), LTV ratios at origination (Origination LTV), and estimated current LTV ratios (Estimated Current LTV), as presented in the following tables. Borrowers’ FICO scores are provided by an independent third party credit reporting service and were last updated in March 2013. The Origination LTV and Estimated Current LTV ratios for a HELOC include any first lien mortgage outstanding on the same property at the time of the

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THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)

HELOC’s origination. The Estimated Current LTV for each loan is estimated by reference to a home price appreciation index.

- 10 -

THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)


	Residential real estate mortgages
March 31, 2013	First mortgages		Purchased first mortgages		Total			Home equity lines of credit
Year of origination
Pre-2009	$	813	$	59	$	872		$	2,248
2009		269		5		274			314
2010		747		10		757			230
2011		1,065		47		1,112			187
2012		2,938		29		2,967			170
2013		1,113		7		1,120			44

Total	$	6,945	$	157	$	7,102		$	3,193

Origination FICO
<620	$	11	$	1	$	12		$	—
620 - 679		99		16		115			22
680 - 739		1,236		37		1,273			612
³740		5,599		103		5,702			2,559

Total	$	6,945	$	157	$	7,102		$	3,193

Updated FICO
<620	$	53	$	6	$	59		$	48
620 - 679		194		14		208			113
680 - 739		952		29		981			493
³740		5,746		108		5,854			2,539

Total	$	6,945	$	157	$	7,102		$	3,193

Origination LTV
£70%	$	4,626	$	101	$	4,727		$	2,154
>70% - £90%		2,302		49		2,351			1,013
>90% - £100%		17		7		24			26

Total	$	6,945	$	157	$	7,102		$	3,193


March 31, 2013	Balance		Weighted Average Updated FICO		Utilization Rate ⁽¹⁾			Percent of Loans that are 90+ Days Past Due and Less than 90 Days Past Due but on Nonaccrual Status
Residential real estate mortgages:
Estimated Current LTV
£70%	$	5,178		774		N/A			0.04	%
>70% - £90%		1,579		764		N/A			0.23	%
>90% - £100%		133		746		N/A			1.37	%
>100%		212		734		N/A			6.71	%

Total	$	7,102		770		N/A			0.30	%

Home equity lines of credit:
Estimated Current LTV
£70%	$	1,829		773		36	%		0.09	%
>70% - £90%		880		765		47	%		0.15	%
>90% - £100%		218		755		57	%		0.77	%
>100%		266		749		60	%		0.73	%

Total	$	3,193		768		41	%		0.21	%

⁽¹⁾	The Utilization Rate is calculated using the outstanding HELOC balance divided by the associated total line of credit.

N/A	Not applicable.

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THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)


	Residential real estate mortgages
December 31, 2012	First mortgages		Purchased first mortgages		Total			Home equity lines of credit
Year of origination
Pre-2009	$	867	$	62	$	929		$	2,338
2009		305		6		311			338
2010		909		12		921			249
2011		1,270		53		1,323			198
2012		2,997		26		3,023			164

Total	$	6,348	$	159	$	6,507		$	3,287

Origination FICO
<620	$	10	$	1	$	11		$	—
620 - 679		98		16		114			23
680 - 739		1,141		40		1,181			633
³740		5,099		102		5,201			2,631

Total	$	6,348	$	159	$	6,507		$	3,287

Updated FICO
<620	$	54	$	6	$	60		$	49
620 - 679		191		13		204			117
680 - 739		940		34		974			510
³740		5,163		106		5,269			2,611

Total	$	6,348	$	159	$	6,507		$	3,287

Origination LTV
£70%	$	4,189	$	97	$	4,286		$	2,225
>70% - £90%		2,142		54		2,196			1,036
>90% - £100%		17		8		25			26

Total	$	6,348	$	159	$	6,507		$	3,287


December 31, 2012	Balance		Weighted Average Updated FICO		Utilization Rate ⁽¹⁾			Percent of Loans that are 90+ Days Past Due and Less than 90 Days Past Due but on Nonaccrual Status
Residential real estate mortgages:
Estimated Current LTV
£70%	$	4,162		772		N/A			0.05	%
>70% - £90%		1,841		764		N/A			0.22	%
>90% - £100%		168		750		N/A			0.51	%
>100%		336		741		N/A			5.34	%

Total	$	6,507		768		N/A			0.38	%

Home equity lines of credit:
Estimated Current LTV
£70%	$	1,559		773		36	%		0.14	%
>70% - £90%		1,020		766		46	%		0.18	%
>90% - £100%		267		759		54	%		0.44	%
>100%		441		753		59	%		1.06	%

Total	$	3,287		767		42	%		0.31	%

⁽¹⁾	The Utilization Rate is calculated using the outstanding HELOC balance divided by the associated total line of credit.

N/A	Not applicable.

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THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)

The Company monitors the credit quality of personal loans secured by securities by reviewing the fair value of collateral to ensure adequate collateralization of at least 100% of the principal amount of the loans. All of these personal loans were fully collateralized by securities with fair values in excess of borrowings at March 31, 2013 and December 31, 2012.

Commitments and Contingencies

The Company has clients that sell (i.e., write) listed option contracts that are cleared by the Options Clearing Corporation – a clearing house that establishes margin requirements on these transactions. The Company partially satisfies the margin requirements by arranging unsecured standby letter of credit agreements (LOCs), in favor of the Options Clearing Corporation, which are issued by multiple banks. At March 31, 2013, the aggregate face amount of these LOCs totaled $225 million. In connection with its securities lending activities, the Company is required to provide collateral to certain brokerage clients. The Company satisfies the collateral requirements by arranging LOCs in favor of these brokerage clients, which are issued by multiple banks. At March 31, 2013, the aggregate face amount of these LOCs totaled $104 million. There were no funds drawn under any of these LOCs at March 31, 2013.

The Company also provides guarantees to securities clearing houses and exchanges under standard membership agreements, which require members to guarantee the performance of other members. Under the agreements, if another member becomes unable to satisfy its obligations to the clearing houses and exchanges, other members would be required to meet shortfalls. The Company’s liability under these arrangements is not quantifiable and may exceed the cash and securities it has posted as collateral. However, the potential requirement for the Company to make payments under these arrangements is remote. Accordingly, no liability has been recognized for these guarantees.

Legal contingencies: The Company is subject to claims and lawsuits in the ordinary course of business, including arbitrations, class actions and other litigation, some of which include claims for substantial or unspecified damages. The Company is also the subject of inquiries, investigations, and proceedings by regulatory and other governmental agencies.

The Company believes it has strong defenses in all significant matters currently pending and is contesting liability and any damages claimed. Nevertheless, some of these matters may result in adverse judgments or awards, including penalties, injunctions or other relief, and the Company may also determine to settle a matter because of the uncertainty and risks of litigation. Described below are certain matters in which there is a reasonable possibility that a material loss could be incurred or where the matter may otherwise be of significant interest to stockholders. With respect to all other pending matters, based on current information and consultation with counsel, it does not appear that the outcome of any such matter could be material to the financial condition, operating results or cash flows of the Company. However, predicting the outcome of a litigation or regulatory matter is inherently difficult, requiring significant judgment and evaluation of various factors, including the procedural status of the matter and any recent developments; prior experience and the experience of others in similar cases; available defenses, including potential opportunities to dispose of a case on the merits or procedural grounds before trial (e.g., motions to dismiss or for summary judgment); the progress of fact discovery; the opinions of counsel and experts regarding potential damages; potential opportunities for settlement and the status of any settlement discussions; and potential insurance coverage and indemnification. Often, as in the case of the Auction Rate Securities Regulatory Inquiries and Total Bond Market Fund Litigation matters described below, it is not possible to reasonably estimate potential liability, if any, or a range of potential liability until the matter is closer to resolution – pending, for example, further proceedings, the outcome of key motions or appeals, or discussions among the parties. Numerous issues may have to be developed, such as discovery of important factual matters and determination of threshold legal issues, which may include novel or unsettled questions of law. Reserves are established or adjusted or further disclosure and estimates of potential loss are provided as the matter progresses and more information becomes available.

Auction Rate Securities Regulatory Inquiries: Schwab has been responding to industry wide inquiries from federal and state regulators regarding sales of auction rate securities to clients who were unable to sell their holdings when the normal auction process for those securities froze unexpectedly in February 2008. On August 17, 2009, a civil complaint was filed against Schwab in New York state court by the Attorney General of the State of New York (NYAG) alleging material misrepresentations and omissions by Schwab regarding the risks of auction rate securities, and seeking restitution, disgorgement, penalties and other relief, including repurchase of securities held in client accounts. As reflected in a statement issued August 17, 2009, Schwab has responded that the allegations are without merit, and has been contesting all charges. By order dated October 24, 2011, the court granted Schwab’s motion to dismiss the complaint with prejudice. The NYAG has appealed to the Appellate Division, where the case is currently pending.

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THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)

Total Bond Market Fund Litigation: On August 28, 2008, a class action lawsuit was filed in the U.S. District Court for the Northern District of California on behalf of investors in the Schwab Total Bond Market Fund™ (Northstar lawsuit). The lawsuit, which alleges violations of state law and federal securities law in connection with the fund’s investment policy, names Schwab Investments (registrant and issuer of the fund’s shares) and CSIM as defendants. Allegations include that the fund improperly deviated from its stated investment objectives by investing in collateralized mortgage obligations (CMOs) and investing more than 25% of fund assets in CMOs and mortgage-backed securities without obtaining a shareholder vote. Plaintiffs seek unspecified compensatory and rescission damages, unspecified equitable and injunctive relief, costs and attorneys’ fees. Plaintiffs’ federal securities law claim and certain of plaintiffs’ state law claims were dismissed in proceedings before the court and following a successful petition by defendants to the Ninth Circuit Court of Appeals. On August 8, 2011, the court dismissed plaintiffs’ remaining claims with prejudice. Plaintiffs have again appealed to the Ninth Circuit, where the case is currently pending.

optionsXpress Regulatory Matters: optionsXpress entities and individual employees have been responding to certain pending regulatory matters which predate the Company’s acquisition of optionsXpress. On April 16, 2012, optionsXpress, Inc. was charged by the SEC in an administrative proceeding alleging violations of the firm’s close-out obligations under SEC Regulation SHO (short sale delivery rules) in connection with certain customer trading activity. Trial in the administrative proceeding commenced September 5, 2012. The Company disputes the allegations and is contesting the charges. Separately, on April 19, 2012, the SEC instituted an administrative proceeding alleging violations of the broker-dealer registration requirements by an unregistered optionsXpress entity. On September 5, 2012, the administrative law judge hearing the case ruled on summary disposition that applicable registration requirements were violated. Certain other issues, including relief, remain to be determined at trial. The Company continues to dispute the allegations and is contesting the charges. The Company has a contingent liability associated with the two separate matters, which was not material at March 31, 2013.

Fair Values of Assets and Liabilities

For a description of the fair value hierarchy and the Company’s fair value methodologies, including the use of independent third-party pricing services, see note “2 – Summary of Significant Accounting Policies” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2012. The Company did not transfer any assets or liabilities between Level 1 and Level 2 during the quarter ended March 31, 2013, or the year ended December 31, 2012. In addition, the Company did not adjust prices received from the primary independent third-party pricing service at March 31, 2013, or December 31, 2012.

- 14 -

THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)

Financial Instruments Recorded at Fair Value

The following tables present the fair value hierarchy for assets measured at fair value. Liabilities recorded at fair value were not material, and therefore are not included in the following tables:


March 31, 2013	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Balance at Fair Value
Cash equivalents:
Money market funds	$	13	$	—	$	—	$	13
Commercial paper		—		738		—		738

Total cash equivalents		13		738		—		751
Investments segregated and on deposit for regulatory purposes:
Certificates of deposit		—		2,626		—		2,626
U.S. Government securities		—		1,766		—		1,766

Total investments segregated and on deposit for regulatory purposes		—		4,392		—		4,392
Other securities owned:
Schwab Funds^® money market funds		241		—		—		241
Equity and bond mutual funds		217		1		—		218
State and municipal debt obligations		—		48		—		48
Equity, U.S. Government and corporate debt, and other securities		7		31		—		38

Total other securities owned		465		80		—		545
Securities available for sale:
U.S. agency mortgage-backed securities		—		19,819		—		19,819
Asset-backed securities		—		9,786		—		9,786
Corporate debt securities		—		7,617		—		7,617
Certificates of deposit		—		5,900		—		5,900
U.S. agency notes		—		4,036		—		4,036
Non-agency residential mortgage-backed securities		—		709		—		709
Commercial paper		—		649		—		649
Other securities		—		293		—		293

Total securities available for sale		—		48,809		—		48,809

Total	$	478	$	54,019	$	—	$	54,497

- 15 -

THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)


December 31, 2012	Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Balance at Fair Value
Cash equivalents:
Money market funds	$	413	$	—	$	—	$	413
Commercial paper		—		1,076		—		1,076

Total cash equivalents		413		1,076		—		1,489
Investments segregated and on deposit for regulatory purposes:
Certificates of deposit		—		2,976		—		2,976
U.S. Government securities		—		1,767		—		1,767

Total investments segregated and on deposit for regulatory purposes		—		4,743		—		4,743
Other securities owned:
Schwab Funds^® money market funds		329		—		—		329
Equity and bond mutual funds		217		—		—		217
State and municipal debt obligations		—		48		—		48
Equity, U.S. Government and corporate debt, and other securities		2		40		—		42

Total other securities owned		548		88		—		636
Securities available for sale:
U.S. agency mortgage-backed securities		—		20,476		—		20,476
Asset-backed securities		—		8,164		—		8,164
Corporate debt securities		—		6,256		—		6,256
Certificates of deposit		—		6,161		—		6,161
U.S. agency notes		—		3,464		—		3,464
Non-agency residential mortgage-backed securities		—		733		—		733
Commercial paper		—		574		—		574
Other securities		—		295		—		295

Total securities available for sale		—		46,123		—		46,123

Total	$	961	$	52,030	$	—	$	52,991

- 16 -

THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)

Financial Instruments Not Recorded at Fair Value

Descriptions of the valuation methodologies and assumptions used to estimate the fair value of financial instruments not recorded at fair value are also described in note “2 – Summary of Significant Accounting Policies” in the Company’s Annual Report on

Form 10-K for the year ended December 31, 2012. There were no significant changes in these methodologies or assumptions during the quarter ended March 31, 2013. The following tables present the fair value hierarchy for financial instruments not recorded at fair value:


March 31, 2013	Carrying Amount		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Balance at Fair Value
Assets:
Cash and cash equivalents	$	6,180	$	—	$	6,180	$	—	$	6,180
Cash and investments segregated and on deposit for regulatory purposes		22,501		—		22,501		—		22,501
Receivables from brokers, dealers, and clearing organizations		467		—		467		—		467
Receivables from brokerage clients – net		12,448		—		12,448		—		12,448
Securities held to maturity:
U.S. agency mortgage-backed securities		22,188		—		22,595		—		22,595
Other securities		732		—		721		—		721

Total securities held to maturity		22,920		—		23,316		—		23,316
Loans to banking clients – net:
Residential real estate mortgages		7,062		—		7,231		—		7,231
Home equity lines of credit		3,174		—		3,151		—		3,151
Personal loans secured by securities		1,035		—		1,035		—		1,035
Other		29		—		29		—		29

Total loans to banking clients – net		11,300		—		11,446		—		11,446
Other assets		64		—		64		—		64

Total	$	75,880	$	—	$	76,422	$	—	$	76,422

Liabilities:
Deposits from banking clients	$	82,424	$	—	$	82,424	$	—	$	82,424
Payables to brokers, dealers, and clearing organizations		1,152		—		1,152		—		1,152
Payables to brokerage clients		36,888		—		36,888		—		36,888
Accrued expenses and other liabilities		528		—		528		—		528
Long-term debt		1,631		—		1,794		—		1,794

Total	$	122,623	$	—	$	122,786	$	—	$	122,786

- 17 -

THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)


December 31, 2012	Carrying Amount		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Balance at Fair Value
Assets:
Cash and cash equivalents	$	11,174	$	—	$	11,174	$	—	$	11,174
Cash and investments segregated and on deposit for regulatory purposes		23,723		—		23,723		—		23,723
Receivables from brokers, dealers, and clearing organizations		333		—		333		—		333
Receivables from brokerage clients – net		13,453		—		13,453		—		13,453
Securities held to maturity:
U.S. agency mortgage-backed securities		17,750		—		18,289		—		18,289
Other securities		444		—		443		—		443

Total securities held to maturity		18,194		—		18,732		—		18,732
Loans to banking clients – net:
Residential real estate mortgages		6,471		—		6,687		—		6,687
Home equity lines of credit		3,267		—		3,295		—		3,295
Personal loans secured by securities		963		—		963		—		963
Other		25		—		24		—		24

Total loans to banking clients – net		10,726		—		10,969		—		10,969
Other assets		64		—		64		—		64

Total	$	77,667	$	—	$	78,448	$	—	$	78,448

Liabilities:
Deposits from banking clients	$	79,377	$	—	$	79,377	$	—	$	79,377
Payables to brokers, dealers, and clearing organizations		1,068		—		1,068		—		1,068
Payables to brokerage clients		40,330		—		40,330		—		40,330
Accrued expenses and other liabilities		353		—		353		—		353
Long-term debt		1,632		—		1,782		—		1,782

Total	$	122,760	$	—	$	122,910	$	—	$	122,910

Securities lending: Payables from brokers, dealers, and clearing organizations include securities loaned. The Company loans client securities temporarily to other brokers in connection with its securities lending activities and receives cash as collateral for the securities loaned. Increases in security prices may cause the fair value of the securities loaned to exceed the amount of cash received as collateral. In the event the counterparty to these transactions does not return the loaned securities or provide additional cash collateral, the Company may be exposed to the risk of acquiring the securities at prevailing market prices in order to satisfy its client obligations. The Company mitigates this risk by requiring credit approvals for counterparties, monitoring the fair value of securities loaned, and requiring additional cash as collateral when necessary. The fair value of client securities pledged in securities lending transactions to other broker-dealers was $1.1 billion at March 31, 2013 and $852 million at December 31, 2012. Additionally, the Company borrows securities from other broker-dealers to fulfill short sales by clients, which are included in receivables from brokers, dealers, and clearing organizations. The fair value of these borrowed securities was $279 million at March 31, 2013 and $121 million at December 31, 2012. All of the Company’s securities lending transactions are subject to enforceable master netting arrangements with other broker-dealers. However, the Company does not net securities lending transactions and therefore, the Company’s securities loaned and securities borrowed are presented gross in the condensed consolidated balance sheets.

Resale agreements: Cash and investments segregated and on deposit for regulatory purposes include securities purchased under agreements to resell (resale agreements), which are collateralized by U.S. Government and agency securities. Schwab enters into collateralized resale agreements principally with other broker-dealers, which could result in losses in the event the counterparty fails to purchase the securities held as collateral for the cash advanced and the fair value of the securities declines. To mitigate this risk, Schwab requires that the counterparty deliver securities to a custodian, to be held as collateral, with a fair value in excess of the resale price. Schwab utilizes the collateral provided under these resale agreements to meet

- 18 -

THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)

obligations under broker-dealer client protection rules, which place limitations on its ability to access such segregated securities. The Company’s resale agreements are not subject to enforceable master netting arrangements.

Accumulated Other Comprehensive Income

Accumulated other comprehensive income represents cumulative gains and losses that are not reflected in earnings. The components of other comprehensive income are as follows:


Three Months Ended March 31,	2013									2012
	Before tax			Tax effect			Net of tax			Before tax		Tax effect		Net of tax
Change in net unrealized gain on securities available for sale:
Net unrealized (loss) gain	$	(3	)	$	(2	)	$	(1	)	$	89	$	32	$	57
Reclassification of impairment charges included in net impairment losses on securities		4			2			2			18		7		11

Change in net unrealized gain on securities available for sale		1			—			1			107		39		68

Other		1			—			1			—		—		—

Other comprehensive income	$	2		$	—		$	2		$	107	$	39	$	68

Accumulated other comprehensive income balances are as follows:


	Net unrealized gain on securities available for sale		Other			Total accumulated other comprehensive income
Balance at December 31, 2011	$	10	$	(2	)	$	8
Other net changes		68		—			68

Balance at March 31, 2012	$	78	$	(2	)	$	76

Balance at December 31, 2012	$	299	$	(1	)	$	298
Other net changes		1		1			2

Balance at March 31, 2013	$	300	$	—		$	300

- 19 -

THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)

Earnings Per Common Share

Basic earnings per common share (EPS) is computed by dividing net income available to common stockholders by the weighted-average number of common shares outstanding during the period. The computation of diluted EPS is similar to the computation of basic EPS except that the denominator is increased to include the number of additional common shares that would have been outstanding if dilutive potential common shares had been issued. Dilutive potential common shares include the effect of outstanding stock options and unvested restricted stock awards and units. EPS under the basic and diluted computations is as follows:


	Three Months Ended
	March 31,
	2013		2012
Net income	$	206	$	195
Preferred stock dividends		8		—

Net income available to common stockholders	$	198	$	195

Weighted-average common shares outstanding — basic		1,279		1,272
Common stock equivalent shares related to stock incentive plans		3		1
Weighted-average common shares outstanding — diluted ⁽¹⁾		1,282		1,273

Basic EPS	$	.15	$	.15
Diluted EPS	$	.15	$	.15

⁽¹⁾	Antidilutive stock options and restricted stock awards excluded from the calculation of diluted EPS totaled 45 million and 60 million shares for the first quarters of 2013 and 2012, respectively.

Regulatory Requirements

CSC is a savings and loan holding company and Schwab Bank, CSC’s depository institution subsidiary, is a federal savings bank. CSC is subject to supervision and regulation by the Board of Governors of the Federal Reserve System (the Federal Reserve) and Schwab Bank is subject to supervision and regulation by the Office of the Comptroller of the Currency (the OCC). CSC is currently not subject to specific statutory capital requirements, however CSC is required to serve as a source of strength for Schwab Bank. Under the “Dodd-Frank Wall Street Reform and Consumer Protection Act,” CSC will be subject to new minimum leverage and minimum risk-based capital ratio requirements that will be set by the Federal Reserve that are at least as stringent as the current requirements generally applicable to insured depository institutions.

Schwab Bank is subject to regulation and supervision and to various requirements and restrictions under federal and state laws, including regulatory capital guidelines. Among other things, these requirements also restrict and govern the terms of affiliate transactions, such as extensions of credit and repayment of loans between Schwab Bank and CSC or CSC’s other subsidiaries. In addition, Schwab Bank is required to provide notice to and may be required to obtain approval of the OCC and the Federal Reserve to declare dividends to CSC. The federal banking agencies have broad powers to enforce these regulations, including the power to terminate deposit insurance, impose substantial fines and other civil and criminal penalties, and appoint a conservator or receiver. Under the Federal Deposit Insurance Act, Schwab Bank could be subject to restrictive actions if it were to fall within one of the lowest three of five capital categories. Schwab Bank is required to maintain minimum capital levels as specified in federal banking laws and regulations. Failure to meet the minimum levels could result in certain mandatory, and possibly additional discretionary actions by the regulators that, if undertaken, could have a direct material effect on Schwab Bank. At March 31, 2013, CSC and Schwab Bank met the capital level requirements.

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THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)

The regulatory capital and ratios for Schwab Bank at March 31, 2013, are as follows:


	Actual					Minimum Capital Requirement					Minimum to be Well Capitalized
	Amount		Ratio			Amount		Ratio			Amount		Ratio
Tier 1 Risk-Based Capital	$	5,836		18.5	%	$	1,259		4.0	%	$	1,889		6.0	%
Total Risk-Based Capital	$	5,896		18.7	%	$	2,518		8.0	%	$	3,148		10.0	%
Tier 1 Leverage	$	5,836		6.6	%	$	3,538		4.0	%	$	4,423		5.0	%
Tangible Equity	$	5,836		6.6	%	$	1,769		2.0	%		N/A

N/A Not applicable.

Based on its regulatory capital ratios at March 31, 2013, Schwab Bank is considered well capitalized (the highest category) pursuant to banking regulatory guidelines. There are no conditions or events since March 31, 2013, that management believes have changed Schwab Bank’s capital category.

CSC’s principal U.S. broker-dealers are Schwab and optionsXpress, Inc. Schwab and optionsXpress, Inc. are both subject to Rule 15c3-1 under the Securities Exchange Act of 1934 (the Uniform Net Capital Rule). Schwab and optionsXpress, Inc. compute net capital under the alternative method permitted by the Uniform Net Capital Rule. This method requires the maintenance of minimum net capital, as defined, of the greater of 2% of aggregate debit balances arising from client transactions or a minimum dollar requirement ($250,000 for Schwab), which is based on the type of business conducted by the broker-dealer. Under the alternative method, a broker-dealer may not repay subordinated borrowings, pay cash dividends, or make any unsecured advances or loans to its parent company or employees if such payment would result in a net capital amount of less than 5% of aggregate debit balances or less than 120% of its minimum dollar requirement.

optionsXpress, Inc. is also subject to Commodity Futures Trading Commission Regulation 1.17 (Reg. 1.17) under the Commodity Exchange Act, which also requires the maintenance of minimum net capital. optionsXpress, Inc., as a futures commission merchant, is required to maintain minimum net capital equal to the greater of its net capital requirement under Reg. 1.17 ($1 million), or the sum of 8% of the total risk margin requirements for all positions carried in client accounts and 8% of the total risk margin requirements for all positions carried in non-client accounts (as defined in Reg. 1.17).

Net capital and net capital requirements for Schwab and optionsXpress, Inc. at March 31, 2013, are as follows:


												Net Capital
										Net Capital		in Excess of
			% of			Minimum		2% of		in Excess of		5% of
			Aggregate			Net Capital		Aggregate		Required		Aggregate
	Net Capital		Debit Balances			Required		Debit Balances		Net Capital		Debit Balances
Schwab	$	1,386		10	%	$	0.250	$	275	$	1,111	$	700
optionsXpress, Inc.	$	89		31	%	$	1	$	6	$	83	$	75

Segment Information

The Company structures its operating segments according to its clients and the services provided to those clients. The Company’s two reportable segments are Investor Services and Advisor Services. In the first quarter of 2013, the Company realigned its reportable segments as a result of organizational changes. The segment formerly reported as Institutional Services was renamed to Advisor Services. The Retirement Plan Services and Corporate Brokerage Services business units are now part of the Investor Services segment. Prior period segment information has been recast to reflect these organizational changes. The Investor Services segment provides retail brokerage and banking services to individual investors, retirement plan services, and corporate brokerage services. The Advisor Services segment provides custodial, trading, and support services to independent investment advisors, and retirement business services to independent retirement plan advisors and recordkeepers whose plan assets are held at Schwab Bank. Banking revenues and expenses are allocated to the Company’s two segments based on which segment services the client.

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THE CHARLES SCHWAB CORPORATION

Notes to Condensed Consolidated Financial Statements

(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)

(Unaudited)

The Company evaluates the performance of its segments on a pre-tax basis, excluding items such as significant nonrecurring gains, impairment charges on non-financial assets, discontinued operations, extraordinary items, and significant restructuring and other charges. Segment assets and liabilities are not used for evaluating segment performance or in deciding how to allocate resources to segments. There are no revenues from transactions between the segments.

Financial information for the Company’s reportable segments is presented in the following table:


	Investor Services						Advisor Services						Unallocated					Total
Three Months Ended March 31,	2013			2012			2013			2012			2013		2012			2013			2012
Net Revenues:
Asset management and administration fees	$	387		$	341		$	165		$	142		$	—	$	1		$	552		$	484
Net interest revenue		413			384			56			50			—		—			469			434
Trading revenue		149			174			74			69			—		—			223			243
Other		42			32			14			15			—		(1	)		56			46
Provision for loan losses		(5	)		—			(1	)		—			—		—			(6	)		—
Net impairment losses on securities		(4	)		(17	)		—			(1	)		—		—			(4	)		(18	)

Total net revenues		982			914			308			275			—		—			1,290			1,189

Expenses Excluding Interest		751			690			208			186			—		—			959			876

Income before taxes on income	$	231		$	224		$	100		$	89		$	—	$	—		$	331		$	313

Taxes on income																			125			118

Net Income																		$	206		$	195

10.

Subsequent Events

The Company has evaluated the impact of events that have occurred subsequent to March 31, 2013, through the date the condensed consolidated financial statements were filed with the SEC. Based on this evaluation, other than as recorded or disclosed within these condensed consolidated financial statements and related notes, the Company has determined none of these events were required to be recognized or disclosed.

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THE CHARLES SCHWAB CORPORATION

Management’s Discussion and Analysis of Financial Condition and Results of Operations

(Tabular Amounts in Millions, Except Ratios, or as Noted)

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

OVERVIEW

Management of The Charles Schwab Corporation (CSC) and its subsidiaries (collectively referred to as the Company) focuses on several key client activity and financial metrics in evaluating the Company’s financial position and operating performance. Results for the first quarters of 2013 and 2012 are:


	Three Months Ended March 31,						Percent Change
	2013			2012			Percent Change
Client Activity Metrics:
Net new client assets⁽¹⁾(in billions)	$	43.4		$	38.9			12	%
Client assets (in billions, at quarter end)	$	2,084.9		$	1,833.5			14	%
New brokerage accounts (in thousands)		244			240			2	%
Active brokerage accounts (in thousands, at quarter end)		8,865			8,639			3	%

Company Financial Metrics:
Net revenues	$	1,290		$	1,189			8	%
Expenses excluding interest		959			876			9	%

Income before taxes on income		331			313			6	%
Taxes on income		125			118			6	%

Net income	$	206		$	195			6	%

Net income available to common stockholders	$	198		$	195			2	%
Earnings per common share – diluted	$	.15		$	.15			—
Net revenue growth (decline) from prior year		8	%		(1	)%
Pre-tax profit margin		25.7	%		26.3	%
Return on average common stockholders’ equity (annualized) ⁽²⁾		9	%		10	%
Annualized net revenue per average full-time equivalent employee (in thousands)		369			340			9	%

⁽¹⁾	Includes inflows of $12.0 billion in the first quarter of 2012 from a mutual fund clearing services client.

⁽²⁾	Calculated as net income available to common stockholders divided by average common stockholders’ equity.

The broad equity markets improved during the first quarter of 2013 compared to the first quarter of 2012, as the Standard & Poor’s 500 Index, Dow Jones Industrial Average, and Nasdaq Composite Index increased 11%, 10%, and 6%, respectively. While the federal funds target rate remained unchanged at a range of zero to 0.25%, the average three-month Treasury Bill yield increased by 2 basis points to 0.08% during the first quarter of 2013 compared to the first quarter of 2012. At the same time, the average 10-year Treasury yield decreased by 9 basis points to 1.93%.

The Company’s key client activity metrics demonstrated strong business momentum during the first quarter of 2013 – net new client assets totaled $43.4 billion, up 12% from the first quarter of 2012 and were the highest first quarter core flows since 2000. Total client assets ended the quarter at a record $2.08 trillion, up 14% from the first quarter of 2012. In addition, the Company added 244,000 new brokerage accounts to its client base during the first quarter of 2013, and active brokerage accounts were 8.9 million, up 3% on a year-over-year basis.

For the first quarter of 2013, despite the low interest rate environment and relatively muted trading activity, the Company’s growing client base and continued investments in its clients helped net revenues grow by 8% from the first quarter of 2012. Net revenues increased primarily due to increases in asset management and administration fees and net interest revenue and lower net impairment losses on securities, partially offset by a decrease in trading revenue. Asset management and administration fees increased primarily due to increases in mutual fund service fees and advice solutions fees. Net interest revenue increased primarily due to higher balances of interest-earning assets partially offset by the effect of the continued low interest rate environment. Trading revenue decreased primarily due to lower daily average revenue trades.

Expenses excluding interest increased by 9% in the first quarter of 2013 compared to the first quarter of 2012 primarily due to an increase in compensation and benefits and advertising and market development. Compensation and benefits expense

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THE CHARLES SCHWAB CORPORATION

Management’s Discussion and Analysis of Financial Condition and Results of Operations

(Tabular Amounts in Millions, Except Ratios, or as Noted)

increased primarily due to higher incentive compensation and employee benefits, which included expenses relating to the transition to a new payout schedule for field incentive plans, increased and accelerated health savings account (HSA) contributions, and equity incentive plan changes to vesting for retirement-eligible employees in the first quarter of 2013.

As a result of the growth in net revenues, the Company achieved a pre-tax profit margin of 25.7% in the first quarter of 2013. Overall, net income increased by 6% and return on average common stockholders’ equity declined slightly to 9% in the first quarter of 2013 compared to the first quarter of 2012.

CURRENT MARKET AND REGULATORY ENVIRONMENT AND OTHER DEVELOPMENTS

As discussed above, interest rates remained at low levels during the first quarter of 2013. To the extent rates remain at these low levels, the Company’s net interest revenue will continue to be constrained, even as growth in average balances helps to increase such revenue. The low interest rate environment also affects asset management and administration fees. The overall yields on certain Schwab-sponsored money market mutual funds have remained at levels at or below the management fees on those funds. The Company continues to waive a portion of its management fees so that the funds can maintain a positive return to clients. These and other money market mutual funds may not be able to replace maturing securities with securities of equal or higher yields. As a result, the yields on such funds may remain around or decline from their current levels, and therefore below the stated management fees on those funds. To the extent this occurs, asset management and administration fees may be negatively affected.

In 2012, the Board of Governors of the Federal Reserve System (the Federal Reserve) issued notices of proposed rulemaking (NPRs) to meet certain requirements of the “Dodd-Frank Wall Street Reform and Consumer Protection Act” and to align current capital rules with the BASEL III capital standards. The NPRs would subject all savings and loan holding companies, including CSC, to consolidated capital requirements. In addition, the NPRs would establish more restrictive capital definitions, higher risk-weightings for certain asset classes, higher minimum capital ratios and capital buffers. The Company expects the capital standard rules to be phased in under an extended time frame after adoption. The comment period for the NPRs ended on October 22, 2012, and the NPRs are subject to further modification. CSC continues to monitor developments in order to assess the impact of the NPRs but does not expect them to have a material impact on the Company’s business, financial condition, and results of operations.

The Company is pursuing lawsuits in state court in San Francisco for rescission and damages against issuers, underwriters, and dealers of individual non-agency residential mortgage-backed securities on which the Company has experienced realized and unrealized losses. The lawsuits allege that offering documents for the securities contained material untrue and misleading statements about the securities and the underwriting standards and credit quality of the underlying loans. On January 27, 2012, and July 24, 2012, the court denied defendants’ motions to dismiss the claims with respect to all but 3 of the 51 securities, and discovery is proceeding.

In April 2013, the SEC published notice of a National Securities Clearing Corporation (NSCC) proposed rule change that would impose a supplemental liquidity funding obligation on certain NSCC participants. The stated purpose is to provide the NSCC with sufficient liquidity and financial resources to withstand a default by one of its members. The rule change, as currently proposed, could require the Company to provide a supplemental liquidity deposit. The Company does not have sufficient information to assess the potential impact of the proposed rule change, which is subject to comment and further modification.

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THE CHARLES SCHWAB CORPORATION

Management’s Discussion and Analysis of Financial Condition and Results of Operations

(Tabular Amounts in Millions, Except Ratios, or as Noted)

RESULTS OF OPERATIONS

The following discussion presents an analysis of the Company’s results of operations for the first quarter of 2013 compared to the first quarter of 2012.

Net Revenues

The Company’s major sources of net revenues are asset management and administration fees, net interest revenue, and trading revenue. Asset management and administration fees and net interest revenue increased, while trading revenue decreased in the first quarter of 2013 compared to the first quarter of 2012.


Three Months Ended March 31,				2013						2012
	Percent Change			Amount			% of Total Net Revenues			Amount			% of Total Net Revenues
Asset management and administration fees
Schwab money market funds before fee waivers		4	%	$	230					$	222
Fee waivers		(5	)%		(155	)					(163	)

Schwab money market funds after fee waivers		27	%		75			6	%		59			5	%
Equity and bond funds		9	%		35			3	%		32			3	%
Mutual Fund OneSource^®		11	%		184			14	%		166			14	%

Total mutual funds		14	%		294			23	%		257			22	%
Advice solutions		17	%		163			13	%		139			12	%
Other		8	%		95			7	%		88			7	%

Asset management and administration fees		14	%		552			43	%		484			41	%


Net interest revenue
Interest revenue		5	%		497			38	%		472			40	%
Interest expense		(26	)%		(28	)		(2	)%		(38	)		(3	)%

Net interest revenue		8	%		469			36	%		434			37	%


Trading revenue
Commissions		(8	)%		211			16	%		229			19	%
Principal transactions		(14	)%		12			1	%		14			1	%

Trading revenue		(8	)%		223			17	%		243			20	%


Other		22	%		56			4	%		46			4	%

Provision for loan losses		N/M			(6	)		—			—			—

Net impairment losses on securities		(78	)%		(4	)		—			(18	)		(2	)%

Total net revenues		8	%	$	1,290			100	%	$	1,189			100	%

N/M Not meaningful.

Asset Management and Administration Fees

Asset management and administration fees include mutual fund service fees and fees for other asset-based financial services provided to individual and institutional clients. The Company earns mutual fund service fees for shareholder services, administration, and investment management provided to its proprietary funds, and recordkeeping and shareholder services provided to third-party funds. These fees are based upon the daily balances of client assets invested in these funds. The Company also earns asset management fees for advice solutions, which include advisory and managed account services that are based on the daily balances of client assets subject to the specific fee for service. The fair values of client assets included in proprietary and third-party mutual funds are based on quoted market prices and other observable market data. Other asset management and administration fees include various asset based fees, such as third-party mutual fund service fees, trust fees, 401k record keeping fees, and mutual fund clearing and other service fees. Asset management and administration fees vary

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THE CHARLES SCHWAB CORPORATION

Management’s Discussion and Analysis of Financial Condition and Results of Operations

(Tabular Amounts in Millions, Except Ratios, or as Noted)

with changes in the balances of client assets due to market fluctuations and client activity. For a discussion of the impact of current market conditions on asset management and administration fees, see “Current Market and Regulatory Environment and Other Developments.”

Asset management and administration fees increased by $68 million, or 14%, in the first quarter of 2013 compared to the first quarter of 2012 primarily due to increases in mutual fund service fees and advice solutions fees.

Mutual fund service fees increased by $37 million, or 14%, in the first quarter of 2013 compared to the first quarter of 2012 primarily due to growth in client assets invested in Mutual Fund OneSource funds and an increase in net money market mutual fund fees as a result of improved short-term rates.

Advice solutions fees increased by $24 million, or 17%, in the first quarter of 2013 compared to first quarter of 2012 primarily due to growth in client assets enrolled in retail advisory offers, including Windhaven^® and Schwab Private Client.

Net Interest Revenue

Net interest revenue is the difference between interest earned on interest-earning assets and interest paid on funding sources. Net interest revenue is affected by changes in the volume and mix of these assets and liabilities, as well as by fluctuations in interest rates and portfolio management strategies. The Company’s investment strategy is structured to produce an increase in net interest revenue when interest rates rise and, conversely, a decrease in net interest revenue when interest rates fall (i.e., interest-earning assets generally reprice more quickly than interest-bearing liabilities). When interest rates fall, the Company may attempt to mitigate some of this negative impact by extending the maturities of assets in investment portfolios to lock in asset yields, and by lowering rates paid to clients on interest-bearing liabilities. Since the Company establishes the rates paid on certain brokerage client cash balances and deposits from banking clients, as well as the rates charged on receivables from brokerage clients, and also controls the composition of its investment securities, it has some ability to manage its net interest spread. However, the spread is influenced by external factors such as the interest rate environment and competition. The current low interest rate environment limits the extent to which the Company can reduce interest expense paid on funding sources. For discussion of the impact of current market conditions on net interest revenue, see “Current Market and Regulatory Environment and Other Developments.”

The Company’s interest-earning assets are financed primarily by brokerage client cash balances and deposits from banking clients. Non-interest-bearing funding sources include non-interest-bearing brokerage client cash balances and proceeds from stock-lending activities, as well as stockholders’ equity.

Schwab Bank maintains investment portfolios for liquidity as well as to invest funds from deposits in excess of loans to banking clients and liquidity limits. Schwab Bank’s securities available for sale include mortgage-backed securities, asset-backed securities, corporate debt securities, certificates of deposit, U.S. agency notes, commercial paper, and other securities. Schwab Bank’s securities held to maturity include mortgage-backed and other securities. Schwab Bank lends funds to banking clients primarily in the form of mortgage loans and home equity lines of credit (HELOCs). These loans are largely funded by interest-bearing deposits from banking clients.

In clearing their clients’ trades, Charles Schwab & Co., Inc. (Schwab) and optionsXpress, Inc. hold cash balances payable to clients. In most cases, Schwab and optionsXpress, Inc. pay their clients interest on cash balances awaiting investment, and in turn invest these funds and earn interest revenue. Receivables from brokerage clients consist primarily of margin loans to brokerage clients. Margin loans are loans made to clients on a secured basis to purchase securities. Pursuant to applicable regulations, client cash balances that are not used for margin lending are generally segregated into investment accounts that are maintained for the exclusive benefit of clients, which are recorded in cash and investments segregated on the Company’s condensed consolidated balance sheets.

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THE CHARLES SCHWAB CORPORATION

Management’s Discussion and Analysis of Financial Condition and Results of Operations

(Tabular Amounts in Millions, Except Ratios, or as Noted)

The following table presents net interest revenue information corresponding to interest-earning assets and funding sources on the condensed consolidated balance sheet:


Three Months Ended March 31,	2013							2012
			Interest		Average					Interest		Average
	Average		Revenue/		Yield/			Average		Revenue/		Yield/
	Balance		Expense		Rate			Balance		Expense		Rate
Interest-earning assets:
Cash and cash equivalents	$	7,907	$	5		0.26	%	$	6,246	$	4		0.26	%
Cash and investments segregated		27,590		12		0.18	%		26,847		10		0.15	%
Broker-related receivables ⁽¹⁾		361		—		0.13	%		315		—		0.09	%
Receivables from brokerage clients		11,342		106		3.79	%		10,200		106		4.18	%
Securities available for sale ⁽²⁾		46,908		138		1.19	%		36,197		145		1.61	%
Securities held to maturity		21,063		131		2.52	%		14,972		99		2.66	%
Loans to banking clients		11,091		80		2.93	%		9,864		79		3.22	%
Loans held for sale		—		—		—			53		1		4.15	%

Total interest-earning assets		126,262		472		1.52	%		104,694		444		1.71	%

Other interest revenue				25							28

Total interest-earning assets	$	126,262	$	497		1.60	%	$	104,964	$	472		1.81	%


Funding sources:
Deposits from banking clients	$	80,341	$	10		0.05	%	$	61,105	$	10		0.07	%
Payables to brokerage clients		32,096		1		0.01	%		30,560		1		0.01	%
Long-term debt		1,632		17		4.22	%		2,001		27		5.43	%

Total interest-bearing liabilities

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Accelerated filer

Non-accelerated filer

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Smaller reporting company