-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, MS6b8wElKaRc3EWmASqekyl8nnyhqEO7qkcZoonQgiHo7P77NcHI5m5lHF2YaJnJ 5bQMSNpIdMuAuukg8eHXvA== 0000316709-01-500019.txt : 20010813 0000316709-01-500019.hdr.sgml : 20010813 ACCESSION NUMBER: 0000316709-01-500019 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 20010630 FILED AS OF DATE: 20010810 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SCHWAB CHARLES CORP CENTRAL INDEX KEY: 0000316709 STANDARD INDUSTRIAL CLASSIFICATION: SECURITY BROKERS, DEALERS & FLOTATION COMPANIES [6211] IRS NUMBER: 943025021 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-09700 FILM NUMBER: 1703368 BUSINESS ADDRESS: STREET 1: 120 KEARNY STREET CITY: SAN FRANCISCO STATE: CA ZIP: 94104 BUSINESS PHONE: 4156277000 MAIL ADDRESS: STREET 1: 101 MONTGOMERY ST STREET 2: (SF120KNY-9) CITY: SAN FRANCISCO STATE: CA ZIP: 94104 10-Q 1 body.txt BODY, 10-Q, JUNE 30, 2001 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 June 30, 2001 Commission file number 1-9700 THE CHARLES SCHWAB CORPORATION (Exact name of Registrant as specified in its charter) Delaware 94-3025021 (State or other jurisdiction (I.R.S. Employer Identification No.) of incorporation or organization) 120 Kearny Street, San Francisco, CA 94108 (Address of principal executive offices and zip code) Registrant's telephone number, including area code: (415) 627-7000 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No --- --- Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. 1,381,464,486 shares of $.01 par value Common Stock Outstanding on July 31, 2001 THE CHARLES SCHWAB CORPORATION THE CHARLES SCHWAB CORPORATION Quarterly Report on Form 10-Q For the Quarter Ended June 30, 2001 Index Page Part I - Financial Information Item 1. Condensed Consolidated Financial Statements: Statement of Income 1 Balance Sheet 2 Statement of Cash Flows 3 Notes 4 - 9 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 10 - 25 Item 3. Quantitative and Qualitative Disclosures About Market Risk 25 - 26 Part II - Other Information Item 1. Legal Proceedings 27 - 28 Item 2. Changes in Securities and Use of Proceeds 28 Item 3. Defaults Upon Senior Securities 28 Item 4. Submission of Matters to a Vote of Security Holders 28 Item 5. Other Information 28 Item 6. Exhibits and Reports on Form 8-K 29 Signature 30 Part I - FINANCIAL INFORMATION Item 1. Condensed Consolidated Financial Statements
THE CHARLES SCHWAB CORPORATION Condensed Consolidated Statement of Income (In millions, except per share amounts) (Unaudited) Three Months Ended Six Months Ended June 30, June 30, 2001 2000 2001 2000 - ---------------------------------------------------------------------------------------------------------------------------------- Revenues Commissions $ 341 $ 542 $ 749 $1,330 Asset management and administration fees 408 390 819 762 Interest revenue, net of interest expense (1) 232 320 489 616 Principal transactions 55 128 150 373 Other 35 24 64 49 - ---------------------------------------------------------------------------------------------------------------------------------- Total 1,071 1,404 2,271 3,130 - ---------------------------------------------------------------------------------------------------------------------------------- Expenses Excluding Interest Compensation and benefits 479 593 972 1,255 Other compensation - merger retention programs 15 7 30 7 Occupancy and equipment 122 100 245 189 Communications 89 87 185 177 Advertising and market development 50 77 144 181 Depreciation and amortization 85 63 171 118 Professional services 50 71 106 135 Commissions, clearance and floor brokerage 23 34 51 77 Merger-related (2) 50 69 Goodwill amortization 14 14 28 19 Restructuring and other charges (3) 145 145 Other 25 55 56 138 - ---------------------------------------------------------------------------------------------------------------------------------- Total 1,097 1,151 2,133 2,365 - ---------------------------------------------------------------------------------------------------------------------------------- Income (loss) before taxes on income (loss) and extraordinary gain (26) 253 138 765 Tax expense (benefit) on income (loss) (7) 116 60 328 - ---------------------------------------------------------------------------------------------------------------------------------- Income (loss) before extraordinary gain (19) 137 78 437 Extraordinary gain on sale of corporate trust business, net of tax of $100 121 121 - ---------------------------------------------------------------------------------------------------------------------------------- Net Income $ 102 $ 137 $ 199 $ 437 ================================================================================================================================== Weighted-Average Common Shares Outstanding - Diluted 1,405 1,407 1,407 1,398 ================================================================================================================================== Earnings Per Share - Basic Income (loss) before extraordinary gain $ (.01) $ .10 $ .06 $ .33 Extraordinary gain, net of tax $ .08 $ .08 Net income $ .07 $ .10 $ .14 $ .33 Earnings Per Share - Diluted Income (loss) before extraordinary gain $ (.01) $ .09 $ .06 $ .31 Extraordinary gain, net of tax $ .08 $ .08 Net income $ .07 $ .09 $ .14 $ .31 ================================================================================================================================== Dividends Declared Per Common Share (4) $.0110 $.0094 $.0220 $.0187 ================================================================================================================================== (1) Interest revenue is presented net of interest expense. Interest expense for the three months ended June 30, 2001 and 2000 was $257 million and $331 million, respectively. Interest expense for the six months ended June 30, 2001 and 2000 was $589 million and $636 million, respectively. (2) Merger-related costs include professional fees, change in control related compensation expense and other expenses relating to the merger of The Charles Schwab Corporation with U.S. Trust Corporation (USTC). (3) Restructuring includes costs relating to workforce, facilities and systems hardware reductions. Other charges include a regulatory fine, professional service fees for operational and risk management remediation, and the write-off of certain software development costs. (4) Dividends declared per common share do not include dividends declared by USTC prior to the completion of the merger. See Notes to Condensed Consolidated Financial Statements.
THE CHARLES SCHWAB CORPORATION Condensed Consolidated Balance Sheet (In millions, except share and per share amounts) (Unaudited) June 30, December 31, 2001 2000 - ---------------------------------------------------------------------------------------------------------------------------- Assets Cash and cash equivalents $ 2,574 $ 4,876 Cash and investments segregated and on deposit for federal or other regulatory purposes (including resale agreements of $10,996 in 2001 and $7,002 in 2000) (1) 13,361 9,425 Securities owned - at market value (including securities pledged of $75 in 2001) 1,818 1,618 Receivables from brokers, dealers and clearing organizations 388 348 Receivables from brokerage clients - net 11,720 16,332 Loans to banking clients - net 3,529 3,147 Equipment, office facilities and property - net 1,152 1,133 Goodwill - net 515 509 Other assets 852 766 - ---------------------------------------------------------------------------------------------------------------------------- Total $35,909 $38,154 ============================================================================================================================ Liabilities and Stockholders' Equity Deposits from banking clients $ 4,139 $ 4,209 Drafts payable 287 544 Payables to brokers, dealers and clearing organizations 1,054 1,070 Payables to brokerage clients 23,717 25,715 Accrued expenses and other liabilities 1,313 1,277 Short-term borrowings 330 339 Long-term debt 746 770 - ---------------------------------------------------------------------------------------------------------------------------- Total liabilities 31,586 33,924 - ---------------------------------------------------------------------------------------------------------------------------- Stockholders' equity: Preferred stock - 9,940,000 shares authorized; $.01 par value per share; none issued Common stock - 3 billion shares authorized in 2001 and 2 billion shares authorized in 2000; $.01 par value per share; 1,389,111,618 shares issued in 2001 and 1,385,624,827 shares issued and outstanding in 2000 14 14 Additional paid-in capital 1,661 1,588 Retained earnings 2,867 2,713 Treasury stock - 6,990,782 shares in 2001, at cost (128) Unamortized stock-based compensation (55) (71) Accumulated other comprehensive loss (36) (14) - ---------------------------------------------------------------------------------------------------------------------------- Total stockholders' equity 4,323 4,230 - ---------------------------------------------------------------------------------------------------------------------------- Total $35,909 $38,154 ============================================================================================================================ (1) Amounts included represent actual balances on deposit, whereas cash and investments required to be segregated for federal or other regulatory purposes were $13,180 million and $10,998 million at June 30, 2001 and December 31, 2000, respectively. On July 3, 2001 and January 2, 2001, the Company deposited $12 million and $1,779 million, respectively, to meet its segregated cash requirement. See Notes to Condensed Consolidated Financial Statements.
THE CHARLES SCHWAB CORPORATION Condensed Consolidated Statement of Cash Flows (In millions) (Unaudited) Six Months Ended June 30, 2001 2000 - --------------------------------------------------------------------------------------------------------- Cash Flows from Operating Activities Net income $ 199 $ 437 Adjustments to reconcile net income to net cash used for operating activities: Depreciation and amortization 171 118 Goodwill amortization 28 19 Compensation payable in common stock 16 47 Deferred income taxes (21) 12 Tax benefits from stock options exercised and other stock-based compensation 23 229 Non-cash restructuring and other charges 28 Extraordinary gain on sale of corporate trust business, net of tax (121) Other 3 9 Net change in: Cash and investments segregated and on deposit for federal or other regulatory purposes (3,972) 2,596 Securities owned (excluding securities available for sale) (56) (82) Receivables from brokers, dealers and clearing organizations (42) (63) Receivables from brokerage clients 4,612 (3,222) Other assets (12) (159) Drafts payable (260) (25) Payables to brokers, dealers and clearing organizations (13) (272) Payables to brokerage clients (1,964) (586) Accrued expenses and other liabilities (153) 74 - --------------------------------------------------------------------------------------------------------- Net cash used for operating activities (1,534) (868) - --------------------------------------------------------------------------------------------------------- Cash Flows from Investing Activities Purchases of securities available for sale (720) (286) Proceeds from sales of securities available for sale 351 Proceeds from maturities, calls and mandatory redemptions of securities available for sale 241 108 Net change in loans to banking clients (318) (263) Purchase of equipment, office facilities and property - net (208) (274) Cash payments for business combinations and investments, net of cash received (23) (17) Proceeds from sale of corporate trust business 273 - --------------------------------------------------------------------------------------------------------- Net cash used for investing activities (404) (732) - --------------------------------------------------------------------------------------------------------- Cash Flows from Financing Activities Net decrease in deposits from banking clients (171) (243) Net change in short-term borrowings (9) 128 Proceeds from long-term debt 311 Repayment of long-term debt (24) Dividends paid (30) (32) Purchase of treasury stock (144) Proceeds from stock options exercised and other 14 62 - --------------------------------------------------------------------------------------------------------- Net cash provided by (used for) financing activities (364) 226 - --------------------------------------------------------------------------------------------------------- Effect of exchange rate changes on cash and cash equivalents (8) - --------------------------------------------------------------------------------------------------------- Decrease in Cash and Cash Equivalents (2,302) (1,382) Cash and Cash Equivalents at Beginning of Period 4,876 2,910 - --------------------------------------------------------------------------------------------------------- Cash and Cash Equivalents at End of Period $ 2,574 $ 1,528 ========================================================================================================= See Notes to Condensed Consolidated Financial Statements.
THE CHARLES SCHWAB CORPORATION Notes to Condensed Consolidated Financial Statements (Tabular Amounts in Millions, Except Per Share Amounts and Ratios) (Unaudited) 1. Basis of Presentation The accompanying unaudited condensed consolidated financial statements include The Charles Schwab Corporation (CSC) and its subsidiaries (collectively referred to as the Company). CSC is a financial holding company engaged, through its subsidiaries, in securities brokerage and related financial services. Charles Schwab & Co., Inc. (Schwab) is a securities broker-dealer with 403 domestic branch offices in 48 states, as well as branches in the Commonwealth of Puerto Rico and the U.S. Virgin Islands. U.S. Trust Corporation (USTC, and with its subsidiaries collectively referred to as U.S. Trust) is an investment management firm that through its subsidiaries also provides fiduciary services and private banking services with 33 offices in 11 states. Other subsidiaries include Charles Schwab Europe (CSE), a retail securities brokerage firm located in the United Kingdom, Charles Schwab Investment Management, Inc., the investment advisor for Schwab's proprietary mutual funds, Schwab Capital Markets L.P. (SCM), a market maker in Nasdaq and other securities providing trade execution services to broker-dealers and institutional clients, and CyberTrader, Inc. (CyberTrader), an electronic trading technology and brokerage firm providing services to highly active, online investors. These financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (SEC) and, in the opinion of management, reflect all adjustments necessary to present fairly the financial position, results of operations and cash flows for the periods presented in conformity with accounting principles generally accepted in the U.S. All adjustments were of a normal recurring nature, except as discussed in Note "2 - Accounting Change." All material intercompany balances and transactions have been eliminated. These financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's 2000 Annual Report to Stockholders on Form 10-K and the Company's Quarterly Report on Form 10-Q for the period ended March 31, 2001. The Company's results for any interim period are not necessarily indicative of results for a full year or any other interim period. Certain items in prior periods' financial statements have been reclassified to conform to the 2001 presentation. 2. Accounting Change On January 1, 2001, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 133 - Accounting for Derivative Instruments and Hedging Activities. The statement requires that all derivatives be recorded on the balance sheet at fair value. The cumulative effect of the accounting change was not material to the Company's financial statements. The Company uses interest rate swaps (Swaps) to hedge the interest rate risk associated with variable rate deposits from banking clients. These Swaps are recorded at fair value on the balance sheet, with changes in their fair value primarily recorded in other comprehensive income. Previously, Swaps were accounted for under the accrual method, whereby the difference between interest revenue and interest expense was recognized over the life of the contract in net interest revenue. Upon adoption of SFAS No. 133, the Company recorded a derivative liability of $20 million in accrued expenses and other liabilities and an after-tax net loss in other comprehensive income of $12 million for these Swaps. Other derivative instruments primarily consist of exchange-traded option contracts to mitigate market risk on inventories in Nasdaq and exchange-listed securities. These derivatives are recorded at fair value on the balance sheet, with changes to their fair value recorded in earnings. These derivatives were not material to the Company's financial statements for the six months ended June 30, 2001. 3. New Accounting Standards Pledged Collateral: On April 1, 2001, the Company completed its adoption of SFAS No. 140 - Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities. The Company adopted SFAS No. 140 in the fourth quarter of 2000 for recognition and reclassification of collateral and for disclosures relating to collateral, and in the second quarter of 2001 for transfers of financial assets and extinguishments of liabilities. The adoption of this statement did not have a material impact on the Company's financial position, results of operations, earnings per share or cash flows. Under SFAS No. 140, the Company is required to report the value of securities that it has received as collateral and which can in turn be used (or repledged) by the Company to generate financing such as securities lending, or to fulfill either client-originated or proprietary short sale transactions. The Company is also required to disclose the value of such securities that it has actually repledged as of the reporting date. Schwab receives securities collateral in connection with its business as a broker-dealer, including client margin lending. Additionally, Schwab and U.S. Trust receive securities collateral under collateralized resale agreements, principally with other broker-dealers. At June 30, 2001, the fair market value of securities collateral received that was available to be repledged was $27.1 billion. The fair market value of securities that were actually repledged as of that date was $1.8 billion, primarily in securities lending transactions to broker-dealers and to fulfill client short sale transactions. Business Combinations: SFAS No. 141 - Business Combinations, was issued in June 2001. This statement eliminates the pooling of interest method for accounting for business combinations and requires the use of the purchase method for business combinations initiated after June 30, 2001. Business combinations originally accounted for under the pooling of interest method that were completed prior to June 30, 2001 will continue to be accounted for under the pooling of interest method. This statement also broadens the criteria for recording intangible assets separately from goodwill. The adoption of this statement did not have an impact on the Company's financial position, results of operations, earnings per share or cash flows. Goodwill and Other Intangible Assets: SFAS No. 142 - Goodwill and Other Intangible Assets, was issued in June 2001 and establishes new standards for accounting for goodwill and intangible assets. This statement requires that goodwill and certain intangible assets with an indefinite useful life not be amortized. This statement also requires that goodwill and certain intangible assets be tested at least annually under new impairment testing criteria. The Company plans to adopt this statement on January 1, 2002. Goodwill and certain intangible assets existing as of June 30, 2001 will continue to be amortized through December 31, 2001. The Company is currently evaluating the impact of this statement on its financial position, results of operations, earnings per share and cash flows. 4. Restructuring and Other Charges Restructuring In the second quarter of 2001, the Company initiated a restructuring plan (the Plan) to reduce operating expenses due to continued economic uncertainties and difficult market conditions. The Plan includes a workforce reduction, a reduction in operating facilities and the removal of certain systems hardware from service. The Company recorded a pre-tax charge of $117 million in the second quarter of 2001 for restructuring costs. The actual costs of the Plan could differ from the estimated costs, depending primarily on the Company's ability to sublease properties. Workforce: During the second quarter of 2001, the Company reduced full-time equivalent employees by approximately 2,820, or 11%, including 2,030 through mandatory staff reductions. Most of these employees were from Schwab's domestic retail brokerage division, which is included in the Individual Investor segment. The Company recorded a pre-tax charge of $54 million for workforce reduction in the second quarter of 2001, comprised of $50 million for severance pay and benefits and $4 million for non-cash compensation expense for officers' stock options. Facilities: The Plan includes a reduction of the Company's operating space, primarily through subleases of certain space subject to current and future lease commitments at the Company's telephone service and data centers, corporate administrative office space, and certain branch expansion space. The Plan also includes accelerated depreciation of leasehold improvements, furniture and equipment at these facilities over their shortened remaining estimated useful lives, as well as impairment losses on assets removed from service. The Company recorded a pre-tax charge of $51 million in the second quarter of 2001 for facilities reduction, comprised of $39 million for non-cancelable lease costs net of estimated sublease income, $6 million for accelerated depreciation, and $6 million for impairment losses. Systems: The Plan includes the removal of certain computer systems hardware from service at the Company's data center facilities. The Company recorded a pre-tax charge of $12 million in the second quarter of 2001 for the removal of such systems, primarily comprised of $7 million for equipment lease buyout costs and $5 million for impairment losses on equipment. A summary of the activity in the restructuring liability is as follows: - -------------------------------------------------------------------------------- Three and six months Workforce Facilities Systems ended June 30, 2001 Reduction Reduction Removal Total - -------------------------------------------------------------------------------- Restructuring charge $ 54 $ 51 $12 $117 Utilization: Cash payments (34) (1) (5) (40) Non-cash charges (4) (12) (5) (21) - -------------------------------------------------------------------------------- (1) (2) (1) Ending balance $ 16 $ 38 $ 2 $ 56 ================================================================================ (1) The Company expects to substantially utilize the remaining restructuring liability in the third quarter of 2001. (2) The Company expects to utilize the remaining restructuring liability through cash payments for the net lease expense over the respective lease terms through 2010. Other Charges The Company recorded other pre-tax charges of $28 million in the second quarter of 2001. These charges include a regulatory fine assessed to USTC and United States Trust Company of New York (U.S. Trust NY), professional service fees for operational and risk management remediation at USTC and U.S. Trust NY, and the write-off of certain software development costs at CSE. See Part II - Other Information, Item 1 - Legal Proceedings for a discussion of an order entered into between the Board of Governors of the Federal Reserve System (Federal Reserve Board) and the Superintendent of Banks of the State of New York and USTC and U.S. Trust NY. 5. Sale of Corporate Trust Business In June 2001, USTC sold its Corporate Trust business to The Bank of New York Company, Inc. (Bank of NY). During the second quarter of 2001, the Company recognized a pre-tax extraordinary gain of $221 million on this sale, or $121 million after tax. Total proceeds received were $273 million and the Company incurred pre-tax closing and exit costs of $30 million for severance, professional fees, and other related disposal costs. As part of the sale agreement, up to $22 million of the sale proceeds may be returned to Bank of NY if certain client retention requirements are not met during the ten-month period following the sale. This amount has been deferred and the appropriate amount will be recognized in earnings based upon actual client retention. 6. Allowance for Credit Losses on Banking Loans and Nonperforming Assets Loans to banking clients of $3.5 billion at June 30, 2001 and $3.1 billion at December 31, 2000 are presented net of the related allowance for credit losses. The allowance for credit losses on banking loans was $21 million at June 30, 2001 and $20 million at December 31, 2000. Recoveries and charge-offs were less than $1 million for each of the three-month and six-month periods ended June 30, 2001 and 2000. Nonperforming assets consist of non-accrual loans of $4 million at June 30, 2001 and $1 million at December 31, 2000. 7. Comprehensive Income Comprehensive income includes net income and changes in equity except those resulting from investments by, or distributions to, stockholders. Comprehensive income is as follows: - -------------------------------------------------------------------------------- Three Six Months Ended Months Ended June 30, June 30, 2001 2000 2001 2000 - -------------------------------------------------------------------------------- Net income $102 $137 $199 $437 Other comprehensive income (loss): Cumulative effect of accounting change for adoption of SFAS No. 133 (12) Net gain (loss) on cash flow hedging instruments 4 (7) Foreign currency translation adjustment 4 (5) (6) (9) Change in net unrealized gain (loss) on securities available for sale (5) 1 3 - -------------------------------------------------------------------------------- Total comprehensive income, net of tax $105 $133 $177 $428 ================================================================================ 8. Earnings Per Share Basic earnings per share (EPS) excludes dilution and is computed by dividing net income by the weighted-average number of common shares outstanding for the period. Diluted EPS reflects the potential reduction in EPS that could occur if securities or other contracts to issue common stock were exercised or converted into common stock. Earnings per share under the basic and diluted computations are as follows: - -------------------------------------------------------------------------------- Three Six Months Ended Months Ended June 30, June 30, 2001 2000 2001 2000 - -------------------------------------------------------------------------------- Net income $ 102 $ 137 $ 199 $ 437 ================================================================================ Weighted-average Common shares outstanding - basic 1,378 1,359 1,378 1,344 Common stock equivalent shares related to stock incentive plans 27 48 29 54 - -------------------------------------------------------------------------------- Weighted-average common shares outstanding - diluted 1,405 1,407 1,407 1,398 ================================================================================ Basic earnings per share: Income (loss) before extraordinary gain $ (.01) $ .10 $ .06 $ .33 Extraordinary gain, net of tax $ .08 $ .08 Net Income $ .07 $ .10 $ .14 $ .33 ================================================================================ Diluted earnings per share: Income (loss) before extraordinary gain (1) $ (.01) $ .09 $ .06 $ .31 Extraordinary gain, net of tax $ .08 $ .08 Net Income $ .07 $ .09 $ .14 $ .31 ================================================================================ (1) For the three months ended June 30, 2001 this computation excludes common stock equivalent shares related to stock incentive plans of 27 million because inclusion of such shares would be antidilutive. The computation of diluted EPS for the six months ended June 30, 2001 and 2000, respectively, excludes outstanding stock options to purchase 60 million and 7 million shares, respectively, because the exercise prices for those options were greater than the average market price of the common shares, and therefore the effect would be antidilutive. 9. Regulatory Requirements 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 (the Act). Under the Act, the Federal Reserve Board has established consolidated capital requirements for bank holding companies. CSC is subject to those guidelines. The regulatory capital and ratios of the Company, U.S. Trust and U.S. Trust NY are as follows: 2001 2000 --------------- --------------- June 30, Amount Ratio(1) Amount Ratio(1) - -------------------------------------------------------------------------------- Tier 1 Capital: Company $3,786 19.5% $3,251 12.5% U.S. Trust $ 657 21.8% $ 400 15.2% U.S. Trust NY $ 429 18.2% $ 249 11.4% Total Capital: Company $3,813 19.7% $3,285 12.7% U.S. Trust $ 678 22.5% $ 420 15.9% U.S. Trust NY $ 447 18.9% $ 267 12.2% Leverage: Company $3,786 10.5% $3,251 9.2% U.S. Trust $ 657 11.9% $ 400 8.2% U.S. Trust NY $ 429 10.3% $ 249 6.5% - -------------------------------------------------------------------------------- (1) Minimum tier 1 capital, total capital and tier 1 leverage ratios are 4%, 8% and 3%-5%, respectively, for bank holding companies and banks. Well-capitalized tier 1 capital, total capital and tier 1 leverage ratios are 6%, 10% and 5%, respectively. Each of CSC's other depository institution subsidiaries exceed the well-capitalized standards set forth by the banking regulatory authorities. Based on their respective regulatory capital ratios at June 30, 2001 and 2000, the Company, U.S. Trust and U.S. Trust NY are considered well capitalized (the highest category). There are no conditions or events that management believes have changed the Company's, U.S. Trust's and U.S. Trust NY's well-capitalized status. Schwab and SCM are subject to the Uniform Net Capital Rule under the Securities Exchange Act of 1934 (the Rule). Schwab and SCM compute net capital under the alternative method permitted by this Rule. This method requires the maintenance of minimum net capital, as defined, of the greater of 2% of aggregate debit balances arising from client transactions or a minimum dollar 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. Under the alternative method, a broker-dealer may not repay subordinated borrowings, pay cash dividends, or make any unsecured advances or loans to its parent or employees if such payment would result in net capital of less than 5% of aggregate debit balances or less than 120% of its minimum dollar amount requirement. At June 30, 2001, Schwab's net capital was $1.4 billion (12% of aggregate debit balances), which was $1.2 billion in excess of its minimum required net capital and $820 million in excess of 5% of aggregate debit balances. At June 30, 2001, SCM's net capital was $78 million, which was $77 million in excess of its minimum required net capital. Certain other subsidiaries of CSC are subject to regulatory and other requirements of the jurisdictions in which they operate. At June 30, 2001, these subsidiaries were in compliance with their applicable requirements. 10. Commitments and Contingent Liabilities On July 11, 2001 USTC and U.S. Trust NY (collectively, USTC/USTNY) entered into a cease and desist order with the Federal Reserve Board and the Superintendent of Banks of the State of New York (State). Under the order, USTC/USTNY neither admitted nor denied that it had violated any law, but was required to pay a $5 million penalty to the Federal Reserve Board and a $5 million penalty to the State for alleged violations of various reporting and recordkeeping requirements. There is no allegation that client assets were exposed to any risk of loss, nor that there was any evidence of misappropriation or misuse of client funds on the part of any USTC/USTNY employee. In addition, the order requires USTC/USTNY to take a number of steps to review and upgrade its risk management processes and systems with respect to the Bank Secrecy Act and banking and securities laws and to provide regular reports to regulators concerning the progress of such measures. USTC/USTNY has reached an agreement with the regulators on a plan to upgrade risk management processes and systems. The nature of the Company's business subjects it to claims, lawsuits, regulatory examinations and other proceedings in the ordinary course of its business. The ultimate outcome of such matters and legal proceedings cannot be determined at this time, and the results of these proceedings cannot be predicted with certainty. There can be no assurance that these legal proceedings will not have a material adverse effect on the Company's results of operations in any future period, depending partly on the results for that period, and a substantial judgment could have a material adverse impact on the Company's financial condition and results of operations. However, it is the opinion of management, after consultation with legal counsel, that the ultimate outcome of these actions will not have a material adverse impact on the financial condition or operating results of the Company. For further discussion of legal proceedings, see Part II - Other Information, Item 1 - Legal Proceedings. 11. Segment Information The Company structures its segments according to its various types of clients and the services provided to those clients. These segments have been aggregated, based on similarities in economic characteristics, types of clients, services provided, distribution channels and regulatory environment, into four reportable segments -- Individual Investor, Institutional Investor, Capital Markets and U.S. Trust. Financial information for the Company's reportable segments is presented in the following table. The Company evaluates the performance of its segments based on adjusted operating income before taxes, which excludes the restructuring and other charges, merger- and acquisition-related charges and the extraordinary gain. Intersegment revenues are immaterial and are therefore not disclosed. Total revenues and income (loss) before taxes on income (loss) and extraordinary gain are equal to the Company's consolidated amounts as reported in the condensed consolidated statement of income. - -------------------------------------------------------------------------------- Three Six Months Ended Months Ended June 30, June 30, 2001 2000 2001 2000 - -------------------------------------------------------------------------------- Revenues Individual Investor $ 629 $ 890 $1,325 $1,972 Institutional Investor 211 207 428 434 Capital Markets 67 146 185 409 U.S. Trust 164 161 333 315 - -------------------------------------------------------------------------------- Total $1,071 $1,404 $2,271 $3,130 ================================================================================ Income (loss) before taxes on income (loss) and extraordinary gain Individual Investor $ 64 $ 206 $ 142 $ 547 Institutional Investor 64 66 131 146 Capital Markets (4) 14 8 86 U.S. Trust (1) 25 38 62 81 - -------------------------------------------------------------------------------- Operating income before taxes on operating income and extraordinary gain 149 324 343 860 Restructuring and other charges (2) (145) (145) Merger- and acquisition-related charges (3) (30) (71) (60) (95) - -------------------------------------------------------------------------------- Total $ (26) $ 253 $ 138 $ 765 ================================================================================ (1) Excludes an extraordinary pre-tax gain of $221 million from the sale of USTC's Corporate Trust business. (2) Restructuring includes costs relating to workforce, facilities and systems hardware reductions. Other charges include a regulatory fine, professional service fees for operational and risk management remediation, and the write-off of certain software development costs. (3) Includes professional fees, change in control related and retention program compensation and other expenses related to the merger with USTC, and goodwill and intangible asset amortization and retention program compensation related to the acquisition of CyberTrader. 12. Supplemental Cash Flow Information Certain information affecting the cash flows of the Company follows: - -------------------------------------------------------------------------------- Six Months Ended June 30, 2001 2000 - -------------------------------------------------------------------------------- Income taxes paid $ 62 $245 ================================================================================ Interest paid: Brokerage client cash balances $468 $504 Deposits from banking clients 76 73 Long-term debt 29 18 Stock-lending activities 15 25 Short-term borrowings 11 9 Other 2 1 - -------------------------------------------------------------------------------- Total interest paid $601 $630 ================================================================================ Non-cash investing and financing activities: Common stock and options issued for purchases of businesses $ 36 $509 ================================================================================ THE CHARLES SCHWAB CORPORATION Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Description of Business The Company: The Charles Schwab Corporation (CSC) and its subsidiaries (collectively referred to as the Company) provide securities brokerage and related financial services for 7.7 million active client accounts(a). Client assets in these accounts totaled $858.3 billion at June 30, 2001. Charles Schwab & Co., Inc. (Schwab) is a securities broker-dealer with 403 domestic branch offices in 48 states, as well as branches in the Commonwealth of Puerto Rico and the U.S. Virgin Islands. U.S. Trust Corporation (USTC, and with its subsidiaries collectively referred to as U.S. Trust) is an investment management firm that through its subsidiaries also provides fiduciary services and private banking services with 33 offices in 11 states. Other subsidiaries include Charles Schwab Europe (CSE), a retail securities brokerage firm located in the United Kingdom, Charles Schwab Investment Management, Inc., the investment advisor for Schwab's proprietary mutual funds, Schwab Capital Markets L.P. (SCM), a market maker in Nasdaq and other securities providing trade execution services to broker-dealers and institutional clients, and CyberTrader, Inc. (CyberTrader), an electronic trading technology and brokerage firm providing services to highly active, online investors. - ------------------------ (a) Accounts with balances or activity within the preceding eight months. 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 managers, and serves company 401(k) plan sponsors and third-party administrators. The Capital Markets segment provides trade execution services in Nasdaq, exchange-listed and other securities primarily to broker-dealers and institutional clients. The U.S. Trust segment provides investment management, fiduciary services and private banking services to individual and institutional clients. The Company's strategy is to attract and retain client assets by focusing on a number of areas within the financial services industry - retail brokerage, investment management, fiduciary services, private banking services, support services for independent investment managers, 401(k) defined contribution plans, equity securities market-making and mutual funds. To pursue its strategy and its objective of long-term profitable growth, the Company plans to continue leveraging its competitive advantages. These advantages include nationally recognized brands, a broad range of products and services, multi-channel delivery systems and an ongoing investment in technology. While the Company's business is predominantly conducted in the U.S., the Company continues to evaluate its international expansion. Brands: The Company's worldwide 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. 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, athletic event sponsorship, and online channels in its advertising. Products and Services: The Company offers a broad range of value-oriented products and services to meet clients' varying investment and financial needs, including help and advice and access to extensive investment research, news and information. The Company's approach to advice is based on long-term investment strategies and guidance on portfolio diversification and asset allocation. Schwab strives to demystify investing by educating and assisting clients in the development of investment plans. 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 registered representatives can assist investors in developing asset allocation strategies and evaluating their investment choices, and refer investors who desire additional guidance to independent investment managers and certified financial planners through the Schwab AdvisorSource(TM) service. Schwab clients and potential clients in need of personalized wealth management services can receive referrals to U.S. Trust's investment management, trust and private banking capabilities as part of the AdvisorSource referral services program. Schwab also provides clients with access to Schwab Portfolio Consultation(TM), a package of analytical services and individual consultations with Schwab investment specialists designed to assist clients in evaluating their asset allocations. Additionally, Schwab offers investors investment education, research and analysis tools which include WebShops(TM) - a series of workshops designed to help investors increase their skills in using Schwab's online services, and The Analyst Center(R) - an Internet-based tool which connects clients to proprietary and third-party investment research, guidance and decision-making tools. U.S. Trust provides an array of financial services for affluent individuals and their families. These services include investment management, investment consulting, trust, financial and estate planning and private banking, including mortgage, personal lending and deposit products. U.S. Trust also provides investment management and special fiduciary services for corporations, endowments, foundations, pension plans and other institutional clients. Schwab also provides custodial, trading and support services to approximately 5,800 independent investment managers. As of June 30, 2001, these managers were guiding the investments of 1 million Schwab client accounts containing $239.0 billion in assets. Further, 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. In the direct channel, SchwabPlan(R), the Company's 401(k) retirement plan, offers plan sponsors a wide array of investment options, participant education and servicing, trustee services, and participant-level recordkeeping. The Company also 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; access to extended-hours trading through its participation in the REDIBook ECN LLC, an electronic communication network; and the ability to analyze and trade a variety of fixed income securities through Schwab's multi-channel delivery systems. Schwab's Mutual Fund Marketplace(R) provides clients with the ability to invest in 2,093 mutual funds from 338 fund families. Within the Mutual Fund Marketplace, Schwab's Mutual Fund OneSource(R) service enables clients to trade 1,142 mutual funds from 237 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. Delivery Systems: The Company's multi-channel delivery systems allow clients to choose how they prefer to do business with the Company. To enable clients to obtain services in person with a Company representative, the Company maintains a network of offices. Schwab's branch offices also provide investors with access to the Internet. U.S. Trust's clients can meet with wealth management professionals at regional offices to obtain access to U.S. Trust's financial services. Telephonic access to Schwab is provided primarily through five regional client telephone service centers and two online client support centers that operate both during and after normal market hours. Additionally, clients are able to obtain financial information on an automated basis through Schwab's automated telephonic and online channels. 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. Online channels include the Charles Schwab Web Site(TM), an information and trading service on the Internet at www.schwab.com, CyberTrader's integrated software-based trading platforms for highly active investors, PocketBroker(TM), a wireless information and trading service, PC-based services such as SchwabLink(R), a service for investment managers, as well as StreetSmart Pro(R) and Velocity(TM), online trading systems which provide enhanced trade information and order execution for certain of Schwab's clients who trade frequently. While most client transactions are completed through the online channel, the Company continues to stress the importance of Clicks and Mortar(TM) access - blending the power of the Internet with personal service to create a full-service client experience. 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. International: The Company's international business serves both foreign investors and non-English-speaking U.S. clients. The Company has established a presence in the United Kingdom, Canada, Hong Kong, Japan, Australia, the Cayman Islands and Brazil. 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 June 30, 2001, client assets in the Company's international business totaled $22.8 billion. New Developments During the Second Quarter of 2001: The Company responds to changing client needs with continued product, technology and service innovations. During the second quarter of 2001: o As part of its plan to sell its equity investment in Epoch Partners, Inc. to The Goldman Sachs Group, Inc. (Goldman), the Company signed an agreement to provide Schwab clients with access to Goldman's research and equity market offerings. o Schwab opened three pilot Schwab Private Client offices, which are designed to serve the needs of more affluent clients who desire a higher level of service yet wish to retain control of their investment decisions. o Schwab launched its MarketPlace, an internal Web site which provides service representatives with a consistent set of market viewpoints and investment ideas to support their discussions with clients. o CyberTrader upgraded its two direct access-trading platforms to include streaming news and remote trading, and enhanced its Web site to include an industry news center and CyberTrader U, which offers a variety of introductory and intermediate online classes for traders. o Schwab launched several new services to help independent investment managers manage and build their practices, including the Electronic Account Submission system, which allows independent investment managers to establish new client account numbers immediately upon request. In addition, Schwab introduced Managed Account Select(TM), which enables independent investment managers to provide clients with access to pre-screened money managers under a simplified single-fee structure. o USTC completed its acquisition of Resource Companies, Inc., a Minneapolis-based investment management, trust and private banking firm with approximately $2 billion in assets under management. Restructuring: In the second quarter of 2001, the Company initiated a restructuring plan (the Plan) to reduce operating expenses due to continued economic uncertainties and difficult market conditions. The Plan includes a workforce reduction, a reduction in operating facilities and the removal of certain systems hardware from service. The Plan is intended to realign the Company's workforce, facilities and systems capacity with the current market environment, allowing the Company to enhance financial performance while continuing to maintain suitable capacity and provide quality service to clients. The Company recorded a pre-tax charge of $117 million in the second quarter of 2001 for restructuring costs, comprised of $54 million for workforce reduction, $51 million for a reduction in operating facilities, and $12 million for the removal of certain systems hardware from service. The Company expects to recognize $15 million to $20 million in restructuring costs during the third quarter of 2001 as the remaining elements of the Plan are completed. The total estimated restructuring charge is higher than the amount disclosed in the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 2001 due to (1) costs for additional leased facilities which were identified during the finalization of the restructuring plan in the second quarter of 2001, (2) reductions in the estimates of sublease income due to softening in the commercial real estate market, and (3) noncash compensation expense for the extension of officers' stock option expiration dates through the end of their severance period. The Company expects that the Plan will reduce pre-tax operating expenses by approximately $35 million in the third quarter of 2001. This amount is expected to gradually increase to $43 million per quarter by the first quarter of 2002, including reductions in compensation and benefits of approximately $32 million for mandatory staff reductions, and occupancy and equipment of approximately $10 million for reductions in future lease commitments and operating facilities. Additionally, employee attrition is estimated to result in a reduction in compensation and benefits of approximately $10 million per quarter beginning in the first quarter of 2002. For further information on the Plan, see note "4 - Restructuring and Other Charges" in the Notes to Condensed Consolidated Financial Statements. In light of prevailing business conditions, the Company continues to evaluate its operations and expense structure, including its project and media spending. Further restructuring initiatives, including additional workforce and technology capacity reductions, are likely to result in additional charges during the second half of 2001. Other Charges: The Company recorded other pre-tax charges of $28 million in the second quarter of 2001. These charges include a regulatory fine assessed to USTC and United States Trust Company of New York (U.S. Trust NY), professional service fees for operational and risk management remediation at USTC and U.S. Trust NY, and the write-off of certain software development costs at CSE. Risk Management For discussion on the Company's principal risks and some of the policies and procedures for risk identification, assessment and mitigation, see "Management's Discussion and Analysis of Results of Operations and Financial Condition - Risk Management" in the Company's 2000 Annual Report to Stockholders, which is filed as Exhibit 13.1 to the Company's Form 10-K for the year ended December 31, 2000. See Liquidity and Capital Resources of this report for a discussion on liquidity risk; and see Item 3 - Quantitative and Qualitative Disclosures About Market Risk for additional information relating to market risk. 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. The Company's results for any interim period are not necessarily indicative of results for a full year or any other interim period. Risk is inherent in the Company's business. Consequently, despite the Company's attempts to identify areas of risk, oversee operational areas involving risk and implement policies and procedures designed to mitigate risk, there can be no assurance that the Company will not suffer unexpected losses due to operating or other risks. Forward-Looking Statements This Quarterly Report on Form 10-Q contains "forward-looking statements" within the meaning of Section 27A of the Securities Act, and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements are identified by words such as "believe," "expect," "intend," "plan," "will," "may" and other similar expressions. In addition, any statements that refer to expectations, projections or other characterizations of future events or circumstances are forward-looking statements. These forward-looking statements, which reflect management's beliefs, objectives and expectations as of the date hereof, are necessarily estimates based on the best judgment of the Company's senior management. These statements relate to, among other things, the Company's ability to pursue its strategy of attracting and retaining client assets (see Description of Business: The Company), the impact of the restructuring plan on the Company's results of operations (see Description of Business: Restructuring), the impact of decimalization on the Company's results of operations (see Revenues - Principal Transactions), sources of liquidity and capital (see Liquidity and Capital Resources - Liquidity), capital expenditures and development spending (see Liquidity and Capital Resources - Cash Flows and Capital Resources), and contingent liabilities (see Part II - Other Information, Item 1 - Legal Proceedings). Achievement of the expressed expectations is subject to certain risks and uncertainties that could cause actual results to differ materially from the expressed expectations described in these statements. Important factors that may cause such differences are noted in this interim report and include, but are not limited to: the effect of client trading patterns on Company revenues and earnings; changes in revenues and profit margin due to cyclical securities markets and fluctuations in interest rates; the level and volatility of equity prices; a significant downturn in the securities markets over a short period of time or a sustained decline in securities prices and trading volumes; changes in the rates of employee attrition; the Company's inability to attract and retain key personnel; the timing and impact of changes in the Company's level of investments in personnel, technology, or advertising; changes in technology; computer system failures and security breaches; the effects of competitors' pricing, product and service decisions and intensified competition; evolving regulation and changing industry practices adversely affecting the Company; adverse results of litigation; the inability to obtain external financing at acceptable rates; a significant decline in the real estate market, including the Company's ability to sublease properties; and risks associated with international expansion and operations. Three Months Ended June 30, 2001 Compared To Three Months Ended June 30, 2000 All references to earnings per share information in this report reflect diluted earnings per share unless otherwise noted. Financial Overview While the securities markets showed intermittent signs of strengthening during the second quarter of 2001, the economic environment remained uncertain. In this continued difficult market environment, the Company's clients reduced their trading activity relative to year-earlier levels. As a result, the Company's trading revenues in the second quarter of 2001 decreased 41% from the second quarter of 2000 and total revenues decreased 24% for the same period. Revenues of $1.1 billion in the second quarter of 2001 declined $333 million from the second quarter of 2000 primarily due to decreases in revenues of $261 million, or 29%, in the Individual Investor segment and $79 million, or 54%, in the Capital Markets segment. See note "11 - Segment Information" in the Notes to Condensed Consolidated Financial Statements for financial information by segment. Total expenses excluding interest during the second quarter of 2001 were $1.1 billion, down 5% from $1.2 billion during the second quarter of 2000. This decrease was primarily caused by a significant decline in bonuses and the Company's continued expense reduction measures, partially offset by restructuring charges. In June 2001, USTC sold its Corporate Trust business to The Bank of New York Company, Inc. (Bank of NY). During the second quarter of 2001, the Company recognized a pre-tax extraordinary gain of $221 million on this sale, or $121 million after tax. Total proceeds received were $273 million and the Company incurred pre-tax closing and exit costs of $30 million for severance, professional fees and other related disposal costs. As part of the sale agreement, up to $22 million of the sale proceeds may be returned to Bank of NY if certain client retention requirements are not met during the ten-month period following the sale. This amount has been deferred and the appropriate amount will be recognized in earnings based upon actual client retention. In evaluating the Company's financial performance, management uses adjusted operating income, which excludes non-operating charges and the extraordinary gain. The Company's after-tax operating income for the second quarter of 2001 was $97 million, down 51% from the second quarter of 2000, and its after-tax operating profit margin for the second quarter of 2001 was 9.1%, down from 14.2% for the second quarter of 2000. A reconciliation of the Company's operating income to net income is shown in the following table (in millions): - -------------------------------------------------------------------------------- Three Months Ended June 30, Percent 2001 2000 Change - -------------------------------------------------------------------------------- Operating income, after tax $ 97 $199 (51%) Non-operating items: Extraordinary gain (1) 221 Tax effect (100) - -------------------------------------------------------------------------------- Net extraordinary gain 121 Non-operating charges: Restructuring (2) (117) Other charges (3) (28) Merger- and acquisition-related costs (4) (30) (71) (58) - -------------------------------------------------------------------------------- Total non-operating charges (175) (71) 146 Tax effect 59 9 n/m - -------------------------------------------------------------------------------- Net non-operating charges (116) (62) 87 - -------------------------------------------------------------------------------- Non-operating items (after tax) 5 (62) n/m - -------------------------------------------------------------------------------- Net income $ 102 $137 (26%) ================================================================================ (1) The Company recorded an extraordinary gain, net of closing and exit costs, from the sale of USTC's Corporate Trust business to Bank of NY. (2) The restructuring plan includes a workforce reduction, a reduction in operating facilities, and the removal of certain systems hardware from service. (3) Other pre-tax charges include a regulatory fine assessed against USTC and U.S. Trust NY, professional service fees for operational and risk management remediation at USTC and U.S. Trust NY, and the write-off of certain software development costs at CSE. (4) Includes pre-tax professional fees, change in control related and retention program compensation and other expenses related to the merger with USTC, and goodwill and intangible asset amortization and retention program compensation related to the acquisition of CyberTrader. n/m Not meaningful. The Company's operating income before taxes for the second quarter of 2001 was $149 million, down $175 million, or 54%, from the second quarter of 2000 due to decreases of $142 million, or 69%, in the Individual Investor segment, $2 million, or 3%, in the Institutional Investor segment, $18 million in the Capital Markets segment and $13 million, or 34%, in the U.S. Trust segment. These decreases were primarily due to lower levels of trading activity, lower levels of margin loans to clients and lower average revenue per share traded in the Capital Markets segment. Including the non-operating charges, the Company's loss before taxes and the extraordinary gain was $26 million for the second quarter of 2001, compared to income before taxes of $253 million for the second quarter of 2000. The Company's net income for the second quarter of 2001 decreased 26% to $102 million, or $.07 per share, down from $137 million, or $.09 per share, for the second quarter of 2000. The Company's after-tax profit margin for the second quarter of 2001 was 9.5%, which was slightly lower than the 9.8% margin in the second quarter of 2000. The annualized return on stockholders' equity for the second quarter of 2001 was 9%, down from 15% for the second quarter of 2000 primarily due to the decline in net income as discussed above, as well as a 19% increase in average stockholders' equity from the second quarter of 2000 to the second quarter of 2001. The Company's client trading activity is shown in the following table (in thousands): - -------------------------------------------------------------------------------- Three Months Ended June 30, Percent Daily Average Trades 2001 2000 Change - -------------------------------------------------------------------------------- Revenue Trades Online 134.5 199.0 (32%) TeleBroker(R)and Schwab by PhoneTM 7.6 7.0 9 Regional client telephone service centers, branch offices and other 18.3 28.7 (36) - -------------------------------------------------------------------------------- Total 160.4 234.7 (32%) ================================================================================ Mutual Fund OneSource(R) Trades Online 34.9 33.2 5% TeleBroker and Schwab by Phone .4 1.0 (60) Regional client telephone service centers, branch offices and other 17.3 19.1 (9) - -------------------------------------------------------------------------------- Total 52.6 53.3 (1%) ================================================================================ Total Daily Average Trades Online 169.4 232.2 (27%) TeleBroker and Schwab by Phone 8.0 8.0 Regional client telephone service centers, branch offices and other 35.6 47.8 (26) - -------------------------------------------------------------------------------- Total 213.0 288.0 (26%) ================================================================================ Assets in client accounts were $858.3 billion at June 30, 2001, a decrease of $72.9 billion, or 8%, from a year ago as shown in the following table. This decrease from a year ago included net new client assets of $123.6 billion offset by net market losses of $196.5 billion related to client accounts. - -------------------------------------------------------------------------------- Growth in Client Assets and Accounts (In billions, at quarter end, June 30, Percent except as noted) 2001 2000 Change - -------------------------------------------------------------------------------- Assets in client accounts Schwab One(R), other cash equivalents and deposits from banking clients $ 27.0 $ 26.1 3% Proprietary funds (SchwabFunds(R) and Excelsior(R)): Money market funds 122.7 97.8 25 Equity and bond funds 30.6 30.0 2 - -------------------------------------------------------------------------------- Total proprietary funds 153.3 127.8 20 - -------------------------------------------------------------------------------- Mutual Fund Marketplace(R)(1): Mutual Fund OneSource(R) 93.0 113.4 (18) Mutual Fund clearing services 21.0 7.8 169 All other 74.4 74.8 (1) - -------------------------------------------------------------------------------- Total Mutual Fund Marketplace 188.4 196.0 (4) - -------------------------------------------------------------------------------- Total mutual fund assets 341.7 323.8 6 - -------------------------------------------------------------------------------- Equity and other securities (1) 405.7 517.8 (22) Fixed income securities 95.4 83.7 14 Margin loans outstanding (11.5) (20.2) (43) - -------------------------------------------------------------------------------- Total client assets $858.3 $931.2 (8%) ================================================================================ Net growth in assets in client accounts (for the quarter ended) Net new client assets $ 11.3 $ 36.6 Net market gains (losses) 41.2 (57.6) - --------------------------------------------------------------------- Net growth (decline) $ 52.5 $(21.0) ===================================================================== New client accounts (in thousands, for the quarter ended) 265.9 400.1 (34%) Active client accounts (in millions) (2) 7.7 7.2 7% ================================================================================ Active online Schwab client accounts (in millions) (3) 4.3 4.1 5% Online Schwab client assets $349.2 $413.5 (16%) ================================================================================ (1) Excludes money market funds and all proprietary money market, equity and bond funds. (2) Active accounts are defined as accounts with balances or activity within the preceding eight months. (3) Active online accounts are defined as all accounts within a household that has had at least one online session within the past twelve months. REVENUES Revenues declined $333 million, or 24%, in the second quarter of 2001 compared to the second quarter of 2000, due to a $201 million, or 37%, decrease in commission revenues, an $88 million, or 28%, decrease in interest revenue net of interest expense (referred to as net interest revenue) and a $73 million, or 57%, decrease in principal transaction revenues. These declines were slightly offset by an $18 million, or 5%, increase in asset management and administration fees and an $11 million, or 46%, increase in other revenue. As trading volumes decreased significantly during the second quarter of 2001, the Company's non-trading revenues represented 63% of total revenues as compared to 52% for the second quarter of 2000 as shown in the following table. - -------------------------------------------------------------------------------- Three Months Ended June 30, Composition of Revenues 2001 2000 - -------------------------------------------------------------------------------- Commissions 32% 39% Principal transactions 5 9 - -------------------------------------------------------------------------------- Total trading revenues 37 48 - -------------------------------------------------------------------------------- Asset management and administration fees 38 28 Net interest revenue 22 23 Other 3 1 - -------------------------------------------------------------------------------- Total non-trading revenues 63 52 - -------------------------------------------------------------------------------- Total 100% 100% ================================================================================ Commissions The Company earns commission revenues by executing client trades primarily through the Individual Investor and Institutional Investor segments. These revenues are affected by the number of client accounts that trade, the average number of commission-generating trades per account, and the average commission per trade. Commission revenues for the Company were $341 million for the second quarter of 2001, down $201 million, or 37%, from the second quarter of 2000. As shown in the following table, the total number of revenue trades executed by the Company has decreased 32% as the number of client accounts that traded and client trading activity per account have declined. Average commission per revenue trade decreased 6%. This decline was mainly due to reduced pricing of equity trades made through automated telephone channels to align them with online pricing, as well as the impact of CyberTrader's lower pricing. - -------------------------------------------------------------------------------- Three Months Ended Commissions Earned on June 30, Percent Client Revenue Trades 2001 2000 Change - -------------------------------------------------------------------------------- Client accounts that traded during the quarter (in thousands) 1,426 1,898 (25%) Average client revenue trades per account 7.08 7.78 (9) Total revenue trades (in thousands) 10,098 14,772 (32) Average commission per revenue trade $ 34.50 $ 36.65 (6) Commissions earned on client revenue trades (in millions) (1) $ 348 $ 541 (36) ================================================================================ (1) Includes certain non-commission revenues relating to the execution of client trades. Excludes commissions on trades relating to specialist operations and U.S. Trust commissions on trades. Asset Management and Administration Fees Asset management and administration fees include mutual fund service fees, as well as fees for other asset-based financial services provided to individual and institutional clients. The Company earns mutual fund service fees for recordkeeping and shareholder services provided to third-party funds, and for transfer agent services, shareholder services, administration and investment management provided to its proprietary funds. These fees are based upon the daily balances of client assets invested in third-party funds and upon the average daily net assets of the Company's proprietary funds. Mutual fund service fees are earned primarily through the Individual Investor and Institutional Investor segments. The Company also earns asset management and administration fees for financial services, including investment management and consulting, trust and fiduciary services, financial and estate planning, and private banking services, provided to individual and institutional clients. These fees are primarily based on the value and composition of assets under management and are earned primarily through the U.S. Trust segment, as well as the Individual Investor and Institutional Investor segments. Asset management and administration fees were $408 million for the second quarter of 2001, up $18 million, or 5%, from the second quarter of 2000, as shown in the following table (in millions): - -------------------------------------------------------------------------------- Three Months Ended Asset Management June 30, Percent and Administration Fees 2001 2000 Change - -------------------------------------------------------------------------------- Mutual fund service fees: Proprietary funds (SchwabFunds(R)and Excelsior(R)) $200 $165 21% Mutual Fund OneSource(R) 73 81 (10) Other 7 7 Asset management and related services 128 137 (7) - -------------------------------------------------------------------------------- Total $408 $390 5% ================================================================================ The increase in asset management and administration fees was primarily due to increases in client assets in the Company's proprietary funds, partially offset by decreases in U.S. Trust's client assets and client assets in Schwab's Mutual Fund OneSource. Net Interest Revenue Net interest revenue is the difference between interest earned on assets (mainly margin loans to clients, investments required to be segregated for clients, securities available for sale, and private banking loans) and interest paid on liabilities (mainly brokerage client cash balances and banking deposits). Net interest revenue is affected by changes in the volume and mix of these assets and liabilities, as well as by fluctuations in interest rates and hedging strategies. Most of the Company's net interest revenue is earned by Schwab through the Individual Investor and Institutional Investor segments, as well as by U.S. Trust through the U.S. Trust segment. Net interest revenue was $232 million for the second quarter of 2001, down $88 million, or 28%, from the second quarter of 2000 as shown in the following table (in millions): - -------------------------------------------------------------------------------- Three Months Ended June 30, Percent 2001 2000 Change - -------------------------------------------------------------------------------- Interest Revenue Margin loans to clients $211 $464 (55%) Investments, client-related 161 69 133 Private banking loans 58 54 7 Securities available for sale 21 18 17 Other 38 46 (17) - -------------------------------------------------------------------------------- Total 489 651 (25) - -------------------------------------------------------------------------------- Interest Expense Brokerage client cash balances 195 263 (26) Deposits from banking clients 34 38 (11) Long-term debt 14 15 (7) Stock-lending activities 5 11 (55) Short-term borrowings 5 4 25 Other 4 n/m - -------------------------------------------------------------------------------- Total 257 331 (22) - -------------------------------------------------------------------------------- Net interest revenue $232 $320 (28%) ================================================================================ n/m Not meaningful. Client-related and other daily average balances, interest rates and average net interest spread for the second quarters of 2001 and 2000 are summarized in the following table (dollars in millions): - -------------------------------------------------------------------------------- Three Months Ended June 30, 2001 2000 - -------------------------------------------------------------------------------- Interest-Earning Assets (client-related and other): Margin loans to clients: Average balance outstanding $11,464 $20,756 Average interest rate 7.38% 8.99% Investments (client-related): Average balance outstanding $14,377 $ 5,283 Average interest rate 4.50% 5.23% Private banking loans: Average balance outstanding $ 3,269 $ 2,832 Average interest rate 7.12% 7.61% Securities available for sale: Average balance outstanding $ 1,317 $ 1,164 Average interest rate 6.45% 6.14% Average yield on interest-earning assets 5.95% 8.09% Funding Sources (client-related and other): Interest-bearing brokerage client cash balances: Average balance outstanding $22,247 $20,957 Average interest rate 3.52% 5.04% Interest-bearing banking deposits: Average balance outstanding $ 3,296 $ 3,050 Average interest rate 4.14% 4.99% Other interest-bearing sources: Average balance outstanding $ 1,154 $ 1,841 Average interest rate 4.58% 4.80% Average noninterest-bearing portion $ 3,730 $ 4,187 Average interest rate on funding sources 3.20% 4.32% Summary: Average yield on interest-earning assets 5.95% 8.09% Average interest rate on funding sources 3.20% 4.32% - -------------------------------------------------------------------------------- Average net interest spread 2.75% 3.77% ================================================================================ The decrease in net interest revenue from the second quarter of 2000 was primarily due to lower levels of margin loans to clients, partially offset by higher average balances of client-related investments. Principal Transactions Principal transaction revenues are primarily comprised of net gains from market-making activities in Nasdaq and other securities effected through the Capital Markets segment. Factors that influence principal transaction revenues include the volume of client trades, market price volatility, average revenue per share traded and changes in regulations and industry practices. Principal transaction revenues were $55 million for the second quarter of 2001, down $73 million, or 57%, from the second quarter of 2000. This decrease was primarily due to lower average revenue per share traded. The exchanges and Nasdaq completed phasing in decimal pricing for all equity securities on April 9, 2001. This change, which only affects the Capital Markets segment, has caused a significant decrease in average revenue per share traded. Accordingly, management considers it likely that decimalization will continue to adversely impact this segment's revenues. Expenses Excluding Interest Beginning in the fourth quarter of 2000, the Company implemented a number of expense reduction measures, including hiring restrictions. Although these reduction measures continued through the second quarter of 2001, the Company experienced increases in certain expenses during the second quarter of 2001 when compared to the second quarter of 2000. This was due to the Company's continued investment in people, technology and facilities made during 2000. During the second quarter of 2001, the Company initiated a restructuring plan to reduce operating expenses due to continued economic uncertainties and difficult market conditions. The Company recorded a pre-tax charge of $117 million in the second quarter of 2001 for restructuring charges. Compensation and benefits expense was $479 million for the second quarter of 2001, down $114 million, or 19%, from the second quarter of 2000 primarily due to a decline in variable compensation expense resulting from the Company's financial performance. The following table shows a comparison of certain compensation and benefits components and employee data (in thousands): - -------------------------------------------------------------------------------- Three Months Ended June 30, 2001 2000 - -------------------------------------------------------------------------------- Compensation and benefits expense as a % of total revenues 45% 42% Variable compensation as a % of compensation and benefits expense 10% 26% Compensation for temporary employees, contractors and overtime hours as a % of compensation and benefits expense 6% 11% Full-time equivalent employees (at end of quarter) (1) 22.4 24.3 Revenues per average full-time equivalent employee $46.0 $59.6 ================================================================================ (1) Includes full-time, part-time and temporary employees, and persons employed on a contract basis. Occupancy and equipment expense was $122 million for the second quarter of 2001, up $22 million, or 22%, from the second quarter of 2000. This increase was primarily due to facilities expansion to support the Company's growth in employees and enhancements in systems capacity during 2000. Advertising and market development expense was $50 million for the second quarter of 2001, down $27 million, or 35%, from the second quarter of 2000. This decrease was primarily a result of reductions in television and print media spending as part of the Company's expense reduction measures. Depreciation and amortization expense was $85 million for the second quarter of 2001, up $22 million, or 35%, from the second quarter of 2000. The increase was primarily due to an increase in information technology equipment and software during 2000. The increase was also due to amortization of additional leasehold improvements for new branches and office space, as well as internally-developed software. Merger-related expense for the second quarter of 2000 was $50 million. There were no such charges for the second quarter of 2001. Merger-related expense consists of professional fees and change in control related compensation from the merger with USTC. Other charges, included in restructuring and other charges, were $28 million for the second quarter of 2001 and include a regulatory fine, professional service fees for operational and risk management remediation, and the write-off of certain software development costs. There were no such charges for the second quarter of 2000. Other expenses were $25 million for the second quarter of 2001, down $30 million, or 55%, from the second quarter of 2000. This decrease was due to lower trade-related errors (primarily resulting from system downtime), travel and related costs and trading volume-related regulatory expenses. The Company's effective income tax rate was 47.7% for the second quarter of 2001, up slightly from 45.9% for the second quarter of 2000. Six Months Ended June 30, 2001 Compared To Six Months Ended June 30, 2000 All references to earnings per share information in this report reflect diluted earnings per share unless otherwise noted. Financial Overview During the first half of 2001, the securities markets experienced a continued slowdown, with the Nasdaq Composite Index decreasing 13% and the Standard & Poor's 500 Index decreasing 7% from December 31, 2000. In this difficult market environment, the Company's clients reduced their trading activity relative to year-earlier levels. As a result, the Company's trading revenues in the first half of 2001 decreased 47% from the first half of 2000 and total revenues decreased 27% for the same period. Revenues of $2.3 billion in the first half of 2001 declined $859 million from the first half of 2000 due to decreases in revenues of $647 million, or 33%, in the Individual Investor segment, $6 million, or 1%, in the Institutional Investor segment and $224 million, or 55%, in the Capital Markets segment. These decreases were slightly offset by an increase of $18 million, or 6%, in the U.S. Trust segment. Total expenses excluding interest during the first half of 2001 were $2.1 billion, down 10% from $2.4 billion during the first half of 2000. This decrease was primarily caused by a significant decline in bonuses and the Company's continued expense reduction measures, partially offset by restructuring charges. In evaluating the Company's financial performance, management uses adjusted operating income, which excludes non-operating charges and the extraordinary gain. The Company's after-tax operating income for the first half of 2001 was $217 million, down 58% from the first half of 2000, and its after-tax operating profit margin for the first half of 2001 was 9.6%, down from 16.7% for the first half of 2000. A reconciliation of the Company's operating income to net income is shown in the following table (in millions): - -------------------------------------------------------------------------------- Six Months Ended June 30, Percent 2001 2000 Change - -------------------------------------------------------------------------------- Operating income, after tax $ 217 $522 (58%) Non-operating items: Extraordinary gain (1) 221 Tax effect (100) - -------------------------------------------------------------------------------- Net extraordinary gain 121 Non-operating charges: Restructuring (2) (117) Other charges (3) (28) Merger- and acquisition-related costs (4) (60) (95) (37) - -------------------------------------------------------------------------------- Total non-operating charges (205) (95) 116 Tax effect 66 10 n/m - -------------------------------------------------------------------------------- Net non-operating charges (139) (85) 64 - -------------------------------------------------------------------------------- Non-operating items (after tax) (18) (85) (79) - -------------------------------------------------------------------------------- Net income $ 199 $437 (54%) ================================================================================ (1) The Company recorded an extraordinary gain, net of closing and exit costs, from the sale of USTC's Corporate Trust business to Bank of NY. (2) The restructuring plan includes a workforce reduction, a reduction in operating facilities, and the removal of certain systems hardware from service. (3) Other pre-tax charges include a regulatory fine assessed against USTC and U.S. Trust NY, professional service fees for operational and risk management remediation at USTC and U.S. Trust NY, and the write-off of certain software development costs at CSE. (4) Includes pre-tax professional fees, change in control related and retention program compensation and other expenses related to the merger with USTC, and goodwill and intangible asset amortization and retention program compensation related to the acquisition of CyberTrader. n/m Not meaningful. The Company's operating income before taxes for the first half of 2001 was $343 million, down $517 million, or 60%, from the first half of 2000 due to decreases of $405 million, or 74%, in the Individual Investor segment, $15 million, or 10%, in the Institutional Investor segment, $78 million, or 91%, in the Capital Markets segment and $19 million, or 23%, in the U.S. Trust segment. These decreases were primarily due to the factors described in the comparison between the three-month periods. Including the non-operating charges, the Company's income before taxes and extraordinary gain for the first half of 2001 was $138 million, down $627 million, or 82%, from the first half of 2000. The Company's net income for the first half of 2001 decreased 54% to $199 million, or $.14 per share, down from $437 million, or $.31 per share, for the first half of 2000. The Company's after-tax profit margin for the first half of 2001 was 8.8%, which was lower than the 14.0% margin in the first half of 2000. The annualized return on stockholders' equity for the first half of 2001 was 9%, down from 27% for the first half of 2000 primarily due to the decline in net income as discussed above, as well as a 34% increase in average stockholders' equity from the first half of 2000 to the first half of 2001. The Company's client trading activity is shown in the following table (in thousands): - -------------------------------------------------------------------------------- Six Months Ended June 30, Percent Daily Average Trades 2001 2000 Change - -------------------------------------------------------------------------------- Revenue Trades Online 149.9 227.8 (34%) TeleBroker(R)and Schwab by Phone(TM) 8.3 9.3 (11) Regional client telephone service centers, branch offices and other 19.8 35.3 (44) - -------------------------------------------------------------------------------- Total 178.0 272.4 (35%) ================================================================================ Mutual Fund OneSource(R) Trades Online 36.8 40.3 (9%) TeleBroker and Schwab by Phone .4 1.5 (73) Regional client telephone service centers, branch offices and other 17.9 23.1 (23) - -------------------------------------------------------------------------------- Total 55.1 64.9 (15%) ================================================================================ Total Daily Average Trades Online 186.7 268.1 (30%) TeleBroker and Schwab by Phone 8.7 10.8 (19) Regional client telephone service centers, branch offices and other 37.7 58.4 (35) - -------------------------------------------------------------------------------- Total 233.1 337.3 (31%) ================================================================================ During the first six months of 2001, net new client assets and new accounts decreased from the first six months of 2000 as shown in the table below. - -------------------------------------------------------------------------------- Six Months Ended Growth in Client Assets and Accounts June 30, Percent (In billions, except as noted) 2001 2000 Change - -------------------------------------------------------------------------------- Net growth in assets in client accounts Net new client assets $ 42.2 $ 89.9 Net market losses (55.6) (4.7) - ------------------------------------------------------------- Net growth (decline) $(13.4) $ 85.2 ============================================================= New client accounts (in thousands) 546.3 897.2 (39%) ================================================================================ REVENUES Revenues declined $859 million, or 27%, in the first half of 2001 compared to the first half of 2000, due to a $581 million, or 44%, decrease in commission revenues, a $223 million, or 60%, decrease in principal transaction revenues and a $127 million, or 21%, decrease in net interest revenue. These declines were slightly offset by a $57 million, or 7%, increase in asset management and administration fees. As trading volumes decreased significantly during the first half of 2001, the Company's non-trading revenues represented 60% of total revenues as compared to 46% for the first half of 2000 as shown in the following table. - -------------------------------------------------------------------------------- Six Months Ended June 30, Composition of Revenues 2001 2000 - -------------------------------------------------------------------------------- Commissions 33% 42% Principal transactions 7 12 - -------------------------------------------------------------------------------- Total trading revenues 40 54 - -------------------------------------------------------------------------------- Asset management and administration fees 36 24 Net interest revenue 22 20 Other 2 2 - -------------------------------------------------------------------------------- Total non-trading revenues 60 46 - -------------------------------------------------------------------------------- Total 100% 100% ================================================================================ Commissions Commission revenues for the Company were $749 million for the first half of 2001, down $581 million, or 44%, from the first half of 2000. As shown in the following table, the total number of revenue trades executed by the Company has decreased 35% as the number of client accounts that traded and client trading activity per account have declined. Average commission per revenue trade decreased 12%. This decline was due to the factors described in the comparison between the three-month periods. - -------------------------------------------------------------------------------- Six Months Ended Commissions Earned on June 30, Percent Client Revenue Trades 2001 2000 Change - -------------------------------------------------------------------------------- Client accounts that traded during the period (in thousands) 2,224 3,016 (26%) Average client revenue trades per account 10.00 11.38 (12) Total revenue trades (in thousands) 22,247 34,315 (35) Average commission per revenue trade $34.13 $38.63 (12) Commissions earned on client revenue trades (in millions) (1) $ 759 $1,325 (43) ================================================================================ (1) Includes certain non-commission revenues relating to the execution of client trades. Excludes commissions on trades relating to specialist operations and U.S. Trust commissions on trades. Asset Management and Administration Fees Asset management and administration fees were $819 million for the first half of 2001, up $57 million, or 7%, from the first half of 2000, as shown in the following table (in millions): - -------------------------------------------------------------------------------- Six Months Ended Asset Management June 30, Percent and Administration Fees 2001 2000 Change - -------------------------------------------------------------------------------- Mutual fund service fees: Proprietary funds (SchwabFunds(R)and Excelsior(R)) $390 $324 20% Mutual Fund OneSource(R) 145 164 (12) Other 17 15 13 Asset management and related services 267 259 3 - -------------------------------------------------------------------------------- Total $819 $762 7% ================================================================================ The increase in asset management and administration fees was primarily due to increases in client assets in the Company's proprietary funds, partially offset by a decrease in client assets in Schwab's Mutual Fund OneSource. Net Interest Revenue Net interest revenue was $489 million for the first half of 2001, down $127 million, or 21%, from the first half of 2000 as shown in the following table (in millions): - -------------------------------------------------------------------------------- Six Months Ended June 30, Percent 2001 2000 Change - -------------------------------------------------------------------------------- Interest Revenue Margin loans to clients $ 513 $ 865 (41%) Investments, client-related 320 169 89 Private banking loans 116 104 12 Securities available for sale 42 35 20 Other 87 79 10 - -------------------------------------------------------------------------------- Total 1,078 1,252 (14) - -------------------------------------------------------------------------------- Interest Expense Brokerage client cash balances 460 504 (9) Deposits from banking clients 74 73 1 Long-term debt 29 25 16 Stock-lending activities 14 24 (42) Short-term borrowings 10 7 43 Other 2 3 (33) - -------------------------------------------------------------------------------- Total 589 636 (7) - -------------------------------------------------------------------------------- Net interest revenue $ 489 $ 616 (21%) ================================================================================ Client-related and other daily average balances, interest rates and average net interest spread for the first halves of 2001 and 2000 are summarized in the following table (dollars in millions): - -------------------------------------------------------------------------------- Six Months Ended June 30, 2001 2000 - -------------------------------------------------------------------------------- Interest-Earning Assets (client-related and other): Margin loans to clients: Average balance outstanding $12,860 $20,211 Average interest rate 8.04% 8.61% Investments (client-related): Average balance outstanding $13,171 $ 6,498 Average interest rate 4.90% 5.22% Private banking loans: Average balance outstanding $ 3,167 $ 2,763 Average interest rate 7.39% 7.54% Securities available for sale: Average balance outstanding $ 1,329 $ 1,155 Average interest rate 6.34% 6.03% Average yield on interest-earning assets 6.54% 7.70% Funding Sources (client-related and other): Interest-bearing brokerage client cash balances: Average balance outstanding $22,375 $20,841 Average interest rate 4.14% 4.87% Interest-bearing banking deposits: Average balance outstanding $ 3,315 $ 3,043 Average interest rate 4.52% 4.83% Other interest-bearing sources: Average balance outstanding $ 1,299 $ 2,103 Average interest rate 4.66% 4.40% Average noninterest-bearing portion $ 3,538 $ 4,640 Average interest rate on funding sources 3.72% 4.09% Summary: Average yield on interest-earning assets 6.54% 7.70% Average interest rate on funding sources 3.72% 4.09% - -------------------------------------------------------------------------------- Average net interest spread 2.82% 3.61% ================================================================================ The decrease in net interest revenue from the first half of 2000 was primarily due to the factors described in the comparison between the three-month periods. Principal Transactions Principal transaction revenues were $150 million for the first half of 2001, down $223 million, or 60%, from the first half of 2000. This decrease was due to lower average revenue per share traded, primarily caused by the change to decimal pricing, and lower share volume handled by SCM. Expenses Excluding Interest Beginning in the fourth quarter of 2000, the Company implemented a number of expense reduction measures which continued through the first half of 2001, and which have contributed to the 10% decline in total expenses excluding interest (see the factors described in the comparison between the three-month periods). Compensation and benefits expense was $972 million for the first half of 2001, down $283 million, or 23%, from the first half of 2000 primarily due to a decline in variable compensation expense resulting from the Company's financial performance, partially offset by an increase in compensation expense related to a greater number of average employees during the first half of 2001. The following table shows a comparison of certain compensation and benefits components and employee data (in thousands): - -------------------------------------------------------------------------------- Six Months Ended June 30, 2001 2000 - -------------------------------------------------------------------------------- Compensation and benefits expense as a % of total revenues 43% 40% Variable compensation as a % of compensation and benefits expense 10% 32% Compensation for temporary employees, contractors and overtime hours as a % of compensation and benefits expense 7% 10% Full-time equivalent employees (at end of period) (1) 22.4 24.3 Revenues per average full-time equivalent employee $93.2 $139.3 ================================================================================ (1) Includes full-time, part-time and temporary employees, and persons employed on a contract basis. Occupancy and equipment expense was $245 million for the first half of 2001, up $56 million, or 30%, from the first half of 2000. This increase was due to the factors described in the comparison between the three-month periods. Depreciation and amortization expense was $171 million for the first half of 2001, up $53 million, or 45%, from the first half of 2000. This increase was due to the factors described in the comparison between the three-month periods. Merger-related expense for the first half of 2000 was $69 million. There were no such charges for the first half of 2001. Restructuring and other charges were $145 million for the first half of 2001. There were no such charges for the first half of 2000. Other expenses were $56 million for the first half of 2001, down $82 million, or 59% from the first half of 2000. This decrease was due to the factors described in the comparison between the three-month periods, as well as a decrease in local business taxes on stock option exercises. The Company's effective income tax rate was 44.6% for the first half of 2001, up slightly from 42.9% for the first half of 2000. Liquidity and Capital Resources Upon completion of the merger with USTC, CSC became a financial holding company, which is a type of bank holding company subject to supervision and regulation by the Board of Governors of the Federal Reserve System (Federal Reserve Board) under the Bank Holding Company Act of 1956, as amended. CSC conducts virtually all business through its wholly owned subsidiaries. The capital structure among CSC and its subsidiaries is designed to provide each entity with capital and liquidity consistent with its operations. See note "9 - Regulatory Requirements" in the Notes to Condensed Consolidated Financial Statements. Liquidity CSC CSC's liquidity needs are generally met through cash generated by its subsidiaries, as well as cash provided by external financing. As discussed below, Schwab, CSC's depository institution subsidiaries and SCM are subject to regulatory requirements that may restrict them from certain transactions with CSC. Management believes that funds generated by the operations of CSC's subsidiaries will continue to be the primary funding source in meeting CSC's liquidity needs, maintaining CSC's depository institution subsidiaries' capital guidelines and maintaining Schwab's and SCM's net capital. Based on their respective regulatory capital ratios at June 30, 2001, the Company and its depository institution subsidiaries are considered well capitalized. CSC has liquidity needs that arise from its issued and outstanding $694 million Senior Medium-Term Notes, Series A (Medium-Term Notes), as well as from the funding of cash dividends, acquisitions and other investments. The Medium-Term Notes have maturities ranging from 2001 to 2010 and fixed interest rates ranging from 6.04% to 8.05% with interest payable semiannually. The Medium-Term Notes are rated A2 by Moody's Investors Service, A by Standard & Poor's Ratings Group and A+ by Fitch IBCA, Inc. CSC has a prospectus supplement on file with the Securities and Exchange Commission enabling CSC to issue up to $750 million in Senior or Senior Subordinated Medium-Term Notes, Series A. At June 30, 2001, all of these notes remained unissued. CSC has authorization from its Board of Directors to issue up to $1.2 billion in commercial paper. At June 30, 2001, no commercial paper has been issued. CSC's ratings for these short-term borrowings are P-1 by Moody's Investors Service and A-1 by Standard & Poor's Ratings Group. CSC maintains a $1.2 billion committed, unsecured credit facility with a group of twenty-three banks which is scheduled to expire in June 2002. The funds under this facility are available for general corporate purposes and CSC pays a commitment fee on the unused balance of this facility. The financial covenants in this facility require CSC to maintain a minimum level of tangible net worth, and Schwab and SCM to maintain specified levels of net capital, as defined. Management believes that these restrictions will not have a material effect on its ability to meet foreseeable dividend or funding requirements. This facility was unused during the first six months of 2001. CSC also has direct access to $645 million of the $825 million uncommitted, unsecured bank credit lines, provided by six banks, that are primarily utilized by Schwab to manage short-term liquidity. The amount available to CSC under these lines is lower than the amount available to Schwab because the credit line provided by one of these banks is only available to Schwab, while the credit line provided by another one of these banks includes a sub-limit on credit available to CSC. These lines were not used by CSC during the first six months of 2001. Schwab Liquidity needs relating to client trading and margin borrowing activities are met primarily through cash balances in brokerage client accounts, which were $22.0 billion and $25.2 billion at June 30, 2001 and December 31, 2000, respectively. Management believes that brokerage client cash balances and operating earnings will continue to be the primary sources of liquidity for Schwab in the future. Schwab is subject to regulatory requirements that are intended to ensure the general financial soundness and liquidity of broker-dealers. These regulations prohibit Schwab from repaying subordinated borrowings to CSC, paying cash dividends, or making unsecured advances or loans to its parent or employees if such payment would result in net capital of less than 5% of aggregate debit balances or less than 120% of its minimum dollar amount requirement of $1 million. At June 30, 2001, Schwab's net capital was $1.4 billion (12% of aggregate debit balances), which was $1.2 billion in excess of its minimum required net capital and $820 million in excess of 5% of aggregate debit balances. Schwab has historically targeted net capital to be 10% of its aggregate debit balances, which primarily consist of client margin loans. To manage Schwab's regulatory capital position, CSC provides Schwab with a $1.4 billion subordinated revolving credit facility maturing in September 2002, of which $370 million was outstanding at June 30, 2001. At quarter end, Schwab also had outstanding $25 million in fixed-rate subordinated term loans from CSC maturing in 2003. Borrowings under these subordinated lending arrangements qualify as regulatory capital for Schwab. To manage short-term liquidity, Schwab maintains uncommitted, unsecured bank credit lines totaling $825 million at June 30, 2001 ($645 million of these lines are also available for CSC to use). The need for short-term borrowings arises primarily from timing differences between cash flow requirements and the scheduled liquidation of interest-bearing investments. Schwab used such borrowings for 14 days during the first half of 2001, with the daily amounts borrowed averaging $34 million. These lines were unused at June 30, 2001. To satisfy the margin requirement of client option transactions with the Options Clearing Corporation (OCC), Schwab had unsecured letter of credit agreements with twelve banks in favor of the OCC aggregating $855 million at June 30, 2001. Schwab pays a fee to maintain these letters of credit. These letters of credit were unused at June 30, 2001. U.S. Trust U.S. Trust's liquidity needs are generally met through earnings generated by its operations. U.S. Trust is subject to the Federal Reserve Board's risk-based and leverage capital guidelines. These regulations require banks and bank holding companies to maintain minimum levels of capital. In addition, CSC's depository institution subsidiaries are subject to limitations on the amount of dividends they can pay to USTC. In addition to traditional funding sources such as deposits, federal funds purchased and repurchase agreements, CSC's depository institution subsidiaries have established their own external funding sources. At June 30, 2001, U.S. Trust had $50 million in Trust Preferred Capital Securities outstanding with a fixed interest rate of 8.41%. Certain of CSC's depository institution subsidiaries have established credit facilities with the Federal Home Loan Bank System (FHLB) totaling approximately $537 million. At June 30, 2001, $2 million in long-term debt was outstanding under these facilities. CSC provides U.S. Trust with a $300 million short-term credit facility maturing in 2003. Borrowings under this arrangement do not qualify as regulatory capital for U.S. Trust. No funds were drawn under this facility at June 30, 2001. SCM SCM's liquidity needs are generally met through earnings generated by its operations. Most of SCM's assets are liquid, consisting primarily of cash and cash equivalents, marketable securities, and receivables from brokers, dealers and clearing organizations. SCM's liquidity is affected by the same net capital regulatory requirements as Schwab (see discussion above). At June 30, 2001, SCM's net capital was $78 million, which was $77 million in excess of its minimum required net capital. SCM may borrow up to $70 million under a subordinated lending arrangement with CSC maturing in 2002. Borrowings under this arrangement qualify as regulatory capital for SCM. The amount outstanding under this facility was $60 million at June 30, 2001. In addition, CSC provides SCM with a $50 million short-term credit facility. Borrowings under this arrangement do not qualify as regulatory capital for SCM. No funds were drawn under this facility at June 30, 2001. Cash Flows and Capital Resources Net income plus depreciation and amortization including goodwill amortization was $398 million for the first half of 2001, down 31% from $574 million for the first half of 2000. Depreciation and amortization expense related to equipment, office facilities and property was $162 million for the first half of 2001, as compared to $110 million for the first half of 2000, or 7% and 4% of revenues for each period, respectively. Amortization expense related to intangible assets was $9 million for the first half of 2001, as compared to $8 million for the first half of 2000. Goodwill amortization expense was $28 million for the first half of 2001, as compared to $19 million for the first half of 2000. This increase was primarily due to goodwill amortization related to the acquisition of CyberTrader. The Company's capital expenditures were $208 million in the first half of 2001 and $274 million in the first half of 2000, or 9% of revenues for each period. Capital expenditures in the first half of 2001 were for certain facilities expansion, equipment relating to the Company's information technology systems and software. Capital expenditures as described above include the capitalized costs for developing internal-use software of $47 million in the first half of 2001 and $46 million in the first half of 2000. Schwab opened 19 new domestic branch offices during the first half of 2001, compared to 23 during the first half of 2000. The number of U.S. Trust offices increased by 2 during the first half of 2001, compared to 3 during the first half of 2000. Capital expenditures may vary from period to period as business conditions change. A significant portion of the Company's liquidity needs arises from ongoing investments to support future growth. These investments, which the Company refers to as development spending, are comprised of two categories: media spending (including media and production expenses) and project spending. Project spending is generally targeted towards enhancing future revenue growth, improving productivity, upgrading existing and developing new systems, and ensuring compliance with appropriate risk management policies and industry practices. As discussed in the Company's 2000 Annual Report to Stockholders on Form 10-K, management anticipated that 2001 development spending would stay at approximately the 2000 level. Due to a continued economic slowdown and management's continued focus on cost containment, the Company further reduced its development spending in the first half of 2001. Management currently anticipates that full year 2001 development spending will be approximately 15% to 25% lower than 2000 levels. The Company repaid $24 million of long-term debt during the first half of 2001. During the first half of 2001, 2,845,100 of the Company's stock options, with a weighted-average exercise price of $5.12, were exercised with cash proceeds received by the Company of $14 million and a related tax benefit of $23 million. The cash proceeds are recorded as an increase in cash and a corresponding increase in stockholders' equity. The tax benefit is recorded as a reduction in income taxes payable and a corresponding increase in stockholders' equity. During the first half of 2001, CSC repurchased 8 million shares of its common stock for $144 million. During the first half of 2000, the Company did not repurchase any common stock. At June 30, 2001, the authorization granted by the Board of Directors allows for future repurchases of 12 million shares of CSC's common stock. During the first halves of 2001 and 2000, the Company paid common stock cash dividends of $30 million and $32 million, respectively. The Company monitors both the relative composition and absolute level of its capital structure. The Company's total financial capital (long-term debt plus stockholders' equity) at June 30, 2001 was $5.1 billion, up $69 million, or 1%, from December 31, 2000. At June 30, 2001, the Company had long-term debt of $746 million, or 15% of total financial capital, that bear interest at a weighted-average rate of 7.34%. At June 30, 2001, the Company's stockholders' equity was $4.3 billion, or 85% of total financial capital. Item 3. Quantitative and Qualitative Disclosures About Market Risk Financial Instruments Held For Trading Purposes The Company held municipal, other fixed income and government securities and certificates of deposit with a fair value of approximately $47 million and $27 million at June 30, 2001 and 2000, respectively. These securities, and the associated interest rate risk, are not material to the Company's financial position, results of operations or cash flows. Through Schwab and SCM, the Company maintains inventories in exchange-listed, Nasdaq and other equity securities on both a long and short basis. The fair value of these securities at June 30, 2001 was $99 million in long positions and $82 million in short positions. The fair value of these securities at June 30, 2000 was $123 million in long positions and $112 million in short positions. Using a hypothetical 10% increase or decrease in prices, the potential loss or gain in fair value is estimated to be approximately $1,700,000 and $1,100,000 at June 30, 2001 and 2000, respectively, due to the offset of change in fair value in long and short positions. In addition, the Company generally enters into exchange-traded option contracts to hedge against potential losses in equity inventory positions, thus reducing this potential loss exposure. This hypothetical 10% change in fair value of these securities at June 30, 2001 and 2000 would not be material to the Company's financial position, results of operations or cash flows. The notional amount and fair value of option contracts were not material to the Company's consolidated balance sheets at June 30, 2001 and 2000. Financial Instruments Held For Purposes Other Than Trading The Company maintains investments primarily in mutual funds related to its deferred compensation plan, which is available to certain employees. These investments were approximately $70 million and $63 million at June 30, 2001 and 2000, respectively. These securities, and the associated market risk, are not material to the Company's financial position, results of operations or cash flows. Debt Issuances At June 30, 2001, CSC had $694 million aggregate principal amount of Medium-Term Notes, with fixed interest rates ranging from 6.04% to 8.05%. At June 30, 2000, CSC had $766 million aggregate principal amount of Medium-Term Notes, with fixed interest rates ranging from 5.96% to 8.05%. At June 30, 2001 and 2000, U.S. Trust had $50 million Trust Preferred Capital Securities outstanding, with a fixed interest rate of 8.41%. In addition at June 30, 2001 and 2000, U.S. Trust had $2 million and $13 million FHLB long-term debt outstanding, respectively. The FHLB long-term debt had fixed interest rates ranging from 6.69% to 6.76% at June 30, 2001 and 6.59% to 6.76% at June 30, 2000. The Company has fixed cash flow requirements regarding these long-term debt obligations due to the fixed rate of interest. The fair value of these obligations at June 30, 2001 and 2000, based on estimates of market rates for debt with similar terms and remaining maturities, approximated their carrying amount. Net Interest Revenue Simulation The Company uses net interest revenue simulation modeling techniques to evaluate and manage the effect of changing interest rates. The simulation model (the model) includes all interest-sensitive assets and liabilities and Swaps utilized by U.S. Trust to hedge its interest rate risk. Key variables in the model include assumed margin loan and brokerage client cash balance growth, changes to the level and term structure of interest rates, the repricing of financial instruments, prepayment and reinvestment assumptions, loan, banking deposit, and brokerage client cash balance pricing and volume assumptions. The simulations involve assumptions that are inherently uncertain and as a result, the simulations cannot precisely estimate net interest revenue or precisely predict the impact of changes in interest rates on net interest revenue. Actual results may differ from simulated results due to the timing, magnitude and frequency of interest rate changes as well as changes in market conditions and management strategies, including changes in asset and liability mix. As demonstrated by the simulations presented below, the Company is positioned so that the consolidated balance sheet produces an increase in net interest revenue when interest rates rise and, conversely, a decrease in net interest revenue when rates fall (i.e., interest-earning assets are repricing more quickly than supporting liabilities). Historically, this position has partially offset decreases in trading activity, and therefore commission revenues, which have resulted during periods of rising interest rates. The change in simulated net interest revenue sensitivity from 2000 to 2001 was primarily an intentional move to a more neutral risk position. This move reflects the fact that as margin loans have decreased as a percentage of interest-earning assets, the Company has reinvested those funds in longer-term investments. In addition, U.S. Trust's interest-bearing liabilities are positioned to reprice more quickly than the related interest-earning assets, which acts as a natural offset to Schwab's asset-sensitive interest-rate risk exposure. The simulations in the following table assume that the asset and liability structure of the consolidated balance sheet would not be changed as a result of the simulated changes in interest rates. As the Company actively manages its consolidated balance sheet and interest rate exposure, in all likelihood the Company would take steps to manage any additional interest rate exposure that could result from changes in the interest rate environment. The following table shows the results of a gradual 200 basis point increase or decrease in interest rates and the effect on simulated net interest revenue over the next twelve months at June 30, 2001 and 2000. - -------------------------------------------------------------------------------- Impact on Net Interest Revenue Percentage Increase (Decrease) June 30, 2001 2000 - -------------------------------------------------------------------------------- Increase of 200 basis points 5.8% 8.7% Decrease of 200 basis points (5.9%) (8.7%) ================================================================================ The impact of the Company's hedging activities upon net interest revenue for the quarters ended June 30, 2001 and 2000 was immaterial to the Company's results of operations. PART II - OTHER INFORMATION Item 1. Legal Proceedings On July 11, 2001 USTC and U.S. Trust NY (collectively, USTC/USTNY) entered into a cease and desist order with the Federal Reserve Board and the Superintendent of Banks of the State of New York (State). Under the order, USTC/USTNY neither admitted nor denied that it had violated any law, but was required to pay a $5 million penalty to the Federal Reserve Board and a $5 million penalty to the State for alleged violations of various reporting and recordkeeping requirements. There is no allegation that client assets were exposed to any risk of loss, nor that there was any evidence of misappropriation or misuse of client funds on the part of any USTC/USTNY employee. In addition, the order requires USTC/USTNY to take a number of steps to review and upgrade its risk management processes and systems with respect to the Bank Secrecy Act and banking and securities laws and to provide regular reports to regulators concerning the progress of such measures. USTC/USTNY has reached an agreement with the regulators on a plan to upgrade risk management processes and systems. At this time, USTC/USTNY has made progress in implementing new processes and systems and is well underway to implementing the measures required by the order. USTC/USTNY expects that the measures it is undertaking will significantly strengthen its ability to manage the compliance obligations associated with a leading nationwide private banking and investment management business and thereby enhance its ability to provide clients with the highest levels of service. CSC is not a party to the order and the order does not allege that CSC has violated any law. Since the merger with U.S. Trust a year ago, CSC has devoted considerable resources to supporting and monitoring U.S. Trust's risk management program. CSC has increased the level of support and resources devoted to U.S. Trust since the entry of the order. As a financial holding company regulated by the Federal Reserve Board, the ability of CSC to acquire companies and enter new lines of business without seeking the Federal Reserve Board's prior approval is dependent upon the status of its subsidiary depository institutions. For this reason, CSC has entered into an agreement with the Federal Reserve Bank of San Francisco that commits CSC to support the remedial measures being taken by USTC/USTNY. This agreement confirms CSC's current ability to engage in acquisition and new business lines. If USTC/USTNY is unable to remedy the issues identified by the regulators within six months, or such additional time as the Federal Reserve may grant, CSC may be required to take additional steps, potentially including the limitation of other business activities and, in extraordinary circumstances, divestiture of U.S. Trust. At this time, CSC expects that the measures USTC/USTNY is taking, with the support of CSC, will be sufficient to ensure USTC/USTNY will remedy the issues in a timely manner. In January 2001, three purported class action complaints were filed against U.S. Trust NY and numerous other defendants. In subsequent months, a number of related individual cases were filed. U.S. Trust Company, N.A.(USTNA) was also named as a defendant in a number of these complaints. The plaintiffs in all of these cases are former personal injury plaintiffs (Payees) who are entitled to a stream of future payments under "structured settlement" agreements, most of which were reached in the early 1980s. The settlement payments are obligations of Stanwich Financial Services Corp. (Stanwich), as Trustor of certain Trusts, and Stanwich has defaulted on certain of those obligations. USTNA served as Trustee of the Trusts from approximately December 1992 to March 1994, and U.S. Trust NY served as Trustee from approximately September 1998 until its recent resignation. At the time of the structured settlements, U.S. Treasury securities were purchased with the settlement monies. Thereafter, at some time during the period from March 1994 to September 1998, while an unrelated trust company was the Trustee of the Trusts, the securities were pledged as collateral for loans and then lost through foreclosure. The class actions and all but two of the individual cases have been filed in California (the California cases), and have been consolidated for certain purposes. The other two individual cases have been filed in Montana (the Montana cases). In the complaints now applicable to the California cases, the plaintiffs allege that, as Trustee of the Trusts during their respective tenures, U.S. Trust NY and USTNA owed certain duties to the Payees, and breached those duties in various ways. The plaintiffs in these cases seek unspecified compensatory damages, punitive damages and other relief. The two complaints in the Montana cases make similar allegations and seek similar relief. In the California cases, U.S. Trust NY and USTNA have answered the complaints, denying the material allegations and raising certain affirmative defenses, and has filed cross-complaints for indemnity against other defendants in the case. In the Montana cases, U.S. Trust NY and USTNA have not yet filed their initial pleadings. U.S. Trust NY and USTNA intend to vigorously defend both the California and the Montana cases. On June 11, 2001, the United States Court of Appeals for the Fifth Circuit dismissed the appeals challenging the earlier settlement of two Louisiana payment for order flow and best execution lawsuits against Schwab that had been pending since 1995. As a result, the settlements, the terms of which are described in the Company's 2000 Annual Report to Shareholders on Form 10-K, are now final. The nature of the Company's business subjects it to claims, lawsuits, regulatory examinations and other proceedings in the ordinary course of its business. The ultimate outcome of such matters and the legal proceedings described above cannot be determined at this time, and the results of these proceedings cannot be predicted with certainty. There can be no assurance that these legal proceedings will not have a material adverse effect on the Company's results of operations in any future period, depending partly on the results for that period, and a substantial judgment could have a material adverse impact on the Company's financial condition and results of operations. However, it is the opinion of management, after consultation with legal counsel, that the ultimate outcome of these actions will not have a material adverse impact on the financial condition or operating results of the Company. Item 2. Changes in Securities and Use of Proceeds None. Item 3. Defaults Upon Senior Securities None. Item 4. Submission of Matters to a Vote of Security Holders The Company's Annual Meeting of Stockholders was held on May 7, 2001, and a total of 1,298,641,360 shares were present in person or by proxy at the Annual Meeting. The Company's stockholders voted upon the following proposals: Proposal No. 1 - Election of Four Directors: Shares Broker Shares For Withheld Non-Votes Donald G. Fisher 1,143,687,214 154,954,146 0 Anthony M. Frank 1,281,296,781 17,344,579 0 Jeffrey S. Maurer 1,230,839,652 67,801,708 0 Arun Sarin 1,281,265,262 17,376,098 0 The following directors did not stand for reelection at the 2001 Annual Meeting of Stockholders because their terms continued after the Annual Meeting: Charles R. Schwab, David S. Pottruck, Nancy H. Bechtle, C. Preston Butcher, Frank C. Herringer, Stephen T. McLin, H. Marshall Schwarz, George P. Shultz, and Roger O. Walther. Proposal No. 2 - Approval of an Amendment to the Company's Certificate of Incorporation to Increase the Number of Authorized Shares of Common Stock from 2 billion to 3 billion: Broker Shares For Shares Against Abstentions Non-Votes 1,272,161,889 21,440,858 5,038,613 0 Proposal No. 3 - Approval of the 2001 Stock Incentive Plan: Broker Shares For Shares Against Abstentions Non-Votes 952,014,678 131,362,866 6,558,216 208,705,600 Proposal No. 4 - Approval of the Annual Executive Individual Performance Plan, as amended: Broker Shares For Shares Against Abstentions Non-Votes 1,210,909,534 79,921,118 7,810,708 0 Item 5. Other Information On May 29, 2001, Linnet F. Deily, Vice Chairman - Office of the President of Schwab and Vice Chairman of the Company and Schwab resigned. Item 6. Exhibits and Reports on Form 8-K (a) The following exhibits are filed as part of this quarterly report on Form 10-Q. - -------------------------------------------------------------------------------- Exhibit Number Exhibit - -------------------------------------------------------------------------------- 10.219 The Charles Schwab Corporation 2001 Stock Incentive Plan, approved at the Annual Meeting of Stockholders on May 7, 2001. 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). 10.221 The SchwabPlan Retirement Savings and Investment Plan, restated and amended as of April 1, 2001 (supersedes Exhibit 10.216). 12.1 Computation of Ratio of Earnings to Fixed Charges. - -------------------------------------------------------------------------------- (b) Reports on Form 8-K None. SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. THE CHARLES SCHWAB CORPORATION (Registrant) Date: August 10, 2001 /s/ Christopher V. Dodds ----------------------- ---------------------------- Christopher V. Dodds Executive Vice President and Chief Financial Officer EX-10.219 3 exh10_219.txt EXHIBIT 10.219 Exhibit 10.219 THE CHARLES SCHWAB CORPORATION 2001 STOCK INCENTIVE PLAN Article 1. Introduction. The Plan was adopted by the Board of Directors on February 28, 2001. The purpose of this Plan is to promote the long-term success of the Company and the creation of incremental stockholder value by (a) encouraging Non-Employee Directors and Key Employees to focus on long-range objectives, (b) encouraging the attraction and retention of Non-Employee Directors and Key Employees with exceptional qualifications and (c) linking Non-Employee Directors and Key Employees directly to stockholder interests. The Plan seeks to achieve this purpose by providing for Awards in the form of Restricted Shares, Performance Share Awards or Options, which may constitute incentive stock options or nonstatutory stock options. The Plan shall be governed by, and construed in accordance with, the laws of the State of Delaware. Article 2. Administration. 2.1 The Committee. The Plan shall be administered by the Committee. The Committee shall consist of two or more Directors, who shall be appointed by the Board. 2.2 Committee Responsibilities. The Committee shall select the Key Employees who are to receive Awards under the Plan, determine the amount, vesting requirements and other conditions of such Awards, may interpret the Plan, and make all other decisions relating to the operation of the Plan. The Committee may adopt such rules or guidelines as it deems appropriate to implement the Plan. The Committee's determinations under the Plan shall be final and binding on all persons. Article 3. Limitations on Awards. The aggregate number of Restricted Shares, Performance Share Awards and Options awarded under the Plan shall not exceed 70,000,000. If any Restricted Shares, Performance Share Awards or Options are forfeited, or if any Performance Share Awards terminate for any other reason without the associated Common Shares being issued, or if any Options terminate for any other reason before being exercised, then such Restricted Shares, Performance Share Awards or Options shall again become available for Awards under the Plan. Subject to the overall limit on the aggregate shares set forth above, the following limitations shall apply: (a) The maximum number of Common Shares which may be granted subject to an Option to any one Participant in any one fiscal year shall be 5,000,000; and (b) The maximum number of Restricted Shares or Performance Share Awards which may be granted to any one Participant in any one fiscal year shall be 1,000,000. The limitations set forth in the preceding sentence shall be subject to adjustment pursuant to Article 10; and The limitations of this Article 3 shall each be subject to adjustment pursuant to Article 10. Any Common Shares issued pursuant to the Plan may be authorized but unissued shares or treasury shares. Article 4. Eligibility. 4.1 General Rule. Key Employees and Non-Employee Directors shall be eligible for designation as Participants by the Committee. 4.2 Non-Employee Directors. In addition to any awards pursuant to Section 4.1, Non-Employee Directors shall be entitled to receive the automatic NQSOs described in this Section 4.2. (a) Each Non-Employee Director shall receive an NQSO covering a number of Common Shares for each Award Year with respect to which he or she serves as a Non-Employee Director on the grant date described in subsection (b) below, to be calculated by dividing $150,000 by the Fair Market Value of the Common Shares on the grant date described in subsection (b) below; and (b) The NQSO for a particular Award Year shall be granted to each Non-Employee Director as of May 15 of each Award Year, and if May 15 is not a business day, then the grant shall be made on and as of the next succeeding business day; (c) Each NQSO shall be exercisable in full at all times during its term; (d) The term of each NQSO shall be 10 years; provided, however, that any unexercised NQSO shall expire on the earlier of the date 10 years after the date of grant or three (3) months following the date that the Optionee ceases to be a Non-Employee Director or a Key Employee for any reason other than death or disability. If an Optionee ceases to be a Non-Employee Director or Key Employee on account of death or disability, any unexercised NQSO shall expire on the earlier of the date 10 years after the date of grant or one year after the date of death or disability of such Director; and (e) The Exercise Price under each NQSO shall be equal to the Fair Market Value on the date of grant and shall be payable in any of the forms described in Article 6. 4.3 Ten-Percent Stockholders. A Key Employee who owns more than 10 percent of the total combined voting power of all classes of outstanding stock of the Company or any of its Subsidiaries shall not be eligible for the grant of an ISO unless (a) the Exercise price under such ISO is at least 110 percent of the Fair Market Value of a Common Share on the date of grant and (b) such ISO by its terms is not exercisable after the expiration of five years from the date of grant. 4.4 Attribution Rules. For purposes of Section 4.3, in determining stock ownership, a Key Employee shall be deemed to own the stock owned, directly or indirectly, by or for his or her brothers, sisters, spouse, ancestors or lineal descendants. Stock owned, directly or indirectly, by or for a corporation, partnership, estate or trust shall be deemed to be owned proportionately by or for its stockholders, partners or beneficiaries. Stock with respect to which the Key Employee holds an option shall not be counted. 4.5 Outstanding Stock. For purposes of Section 4.3, "outstanding stock" shall include all stock actually issued and outstanding immediately after the grant of the ISO to the Key Employee. "Outstanding stock" shall not include treasury shares or shares authorized for issuance under outstanding options held by the Key Employee or by any other person. 4.6 Options Issued To Non-Employee Directors In Lieu of Fee Deferrals. In addition to any awards pursuant to Sections 4.1 and 4.2, a Non-Employee Director who elects to defer the receipt of amounts pursuant to Section 5.1 of The Charles Schwab Corporation Directors' Deferred Compensation Plan (the "Directors Deferred Compensation Plan") and elects to receive stock options in lieu of a Deferral Account balance pursuant to Section 5.4(2) of the Directors Deferred Compensation Plan, shall be entitled to receive a grant of NQSOs hereunder on the date the amounts would have been payable to the Non-Employee Director if the Non-Employee Director had not made such deferral election. Any NQSOs issued pursuant to this Section shall be issued pursuant to the terms set forth in subsections (c), (d) and (e) of Section 4.2 hereof. 4.7 Performance Shares Issued To Non-Employee Directors Pursuant to Fee Deferrals. In addition to any awards pursuant to Sections 4.1 and 4.2, a Non-Employee Director who elects to defer the receipt of amounts pursuant to Section 5.1 of The Directors' Deferred Compensation Plan and elects to receive payment in Shares pursuant to Section 5.4(1) of the Directors Deferred Compensation Plan, shall be entitled to receive a grant of Performance Shares hereunder on the date the amounts would have been payable to the Non-Employee Director if the Non-Employee Director had not made such deferral election. For purposes of this section, the term Non-Employee Director shall also include non-employee directors of any Subsidiary, if the Committee has approved participation in the Directors Deferred Compensation Plan for such Subsidiary's non-employee directors. Article 5. Options. 5.1 Stock Option Agreement. Each grant of an Option under the Plan shall be evidenced by a Stock Option Agreement between the Optionee and the Company. Such Option shall be subject to all applicable terms and conditions of the Plan, and may be subject to any other terms and conditions which are not inconsistent with the Plan and which the Committee deems appropriate for inclusion in a Stock Option Agreement. The provisions of the various Stock Option Agreements entered into under the Plan need not be identical. The Committee may designate all or any part of an Option as an ISO (or, in the case of a Key Employee who is subject to the tax laws of a foreign jurisdiction, as an option qualifying for favorable tax treatment under the laws of such foreign jurisdiction), except for Options granted to Non-Employee Directors. 5.2 Options Nontransferability. Subject to the provisions of Section 14.2, no Option granted under the Plan shall be transferable by the Optionee other than by will or the laws of descent and distribution. An Option may be exercised during the lifetime of the Optionee only by him or her. No Option or interest therein may be transferred, assigned, pledged or hypothecated by the Optionee during his or her lifetime, whether by operation of law or otherwise, or be made subject to execution, attachment or similar process. 5.3 Number of Shares. Each Stock Option Agreement shall specify the number of Common Shares subject to the Option and shall provide for the adjustment of such number in accordance with Article 10. Each Stock Option Agreement shall also specify whether the Option is an ISO or an NQSO. 5.4 Exercise Price. Each Stock Option Agreement shall specify the Exercise Price. The Exercise Price under an Option shall not be less than 100 percent of the Fair Market Value of a Common Share on the date of grant, except as otherwise provided in Section 4.3. Subject to the preceding sentence, the Exercise Price under any Option shall be determined by the Committee. The Exercise Price shall be payable in accordance with Article 6. 5.5 Exercisability and Term. Each Stock Option Agreement shall specify the date when all or any installment of the Option is to become exercisable. The Stock Option Agreement shall also specify the term of the Option. The term of an ISO shall in no event exceed 10 years from the date of grant, and Section 4.3 may require a shorter term. Subject to the preceding sentence, the Committee shall determine when all or any part of an Option is to become exercisable and when such Option is to expire; provided that, in appropriate cases, the Company shall have the discretion to extend the term of an Option or the time within which, following termination of employment, an Option may be exercised, or to accelerate the exercisability of an Option. A Stock Option Agreement may provide for expiration prior to the end of its term in the event of the termination of the Optionee's employment and shall provide for the suspension of vesting when an employee is on a leave of absence for a period in excess of six months in appropriate cases, as determined by the Company; provided that, except to the extent otherwise specified by the Committee at the time of grant, (i) the exercisability of Options shall be accelerated in the event of the Participant's death or Disability; (ii) in the case of Retirement, the exercisability of all outstanding Options shall be accelerated, other than any Options that had been granted within two years of the date of the Optionee's Retirement; and (iii) vesting shall be suspended when an employee is on a leave of absence for a period in excess of six months in appropriate cases, as determined by the Company. Except as provided in Section 4.2, NQSOs may also be awarded in combination with Restricted Shares, and such an Award may provide that the NQSOs will not be exercisable unless the related Restricted Shares are forfeited. In addition, NQSOs granted under this Section 5 may be granted subject to forfeiture provisions which provide for forfeiture of the Option upon the exercise of tandem awards, the terms of which are established in other programs of the Company. 5.6 Limitation on Amount of ISOs. The aggregate fair market value (determined at the time the ISO is granted) of the Common Shares with respect to which ISOs are exercisable for the first time by the Optionee during any calendar year (under all incentive stock option plans of the Company) shall not exceed $100,000; provided, however, that all or any portion of an Option which cannot be exercised as an ISO because of such limitation shall be treated as an NQSO. 5.7 Effect of Change in Control. The Committee (in its sole discretion) may determine, at the time of granting an Option, that such Option shall become fully exercisable as to all Common Shares subject to such Option immediately preceding any Change in Control with respect to the Company. 5.8 Restrictions on Transfer of Common Shares. Any Common Shares issued upon exercise of an Option shall be subject to such special forfeiture conditions, rights of repurchase, rights of first refusal and other transfer restrictions as the Committee may determine. Such restrictions shall be set forth in the applicable Stock Option Agreement and shall apply in addition to any general restrictions that may apply to all holders of Common Shares. 5.9 Authorization of Replacement Options. Concurrently with the grant of any Option to a Participant (other than NQSOs granted pursuant to Section 4.2), the Committee may authorize the grant of Replacement Options. If Replacement Options have been authorized by the Committee with respect to a particular award of Options (the "Underlying Options"), the Option Agreement with respect to the Underlying Options shall so state, and the terms and conditions of the Replacement Options shall be provided therein. The grant of any Replacement Options shall be effective only upon the exercise of the Underlying Options through the use of Common Shares pursuant to Section 6.2 or Section 6.3. The number of Replacement Options shall equal the number of Common Shares used to exercise the Underlying Options, and, if the Option Agreement so provides, the number of Common Shares used to satisfy any tax withholding requirements incident to the exercise of the Underlying Options in accordance with Section 13.2. Upon the exercise of the Underlying Options, the Replacement Options shall be evidenced by an amendment to the Underlying Option Agreement. Notwithstanding the fact that the Underlying Option may be an ISO, a Replacement Option is not intended to qualify as an ISO. The Exercise Price of a Replacement Option shall be no less than the Fair Market Value of a Common Share on the date the grant of the Replacement Option becomes effective. The term of each Replacement Option shall be equal to the remaining term of the Underlying Option. No Replacement Options shall be granted to Optionees when Underlying Options are exercised pursuant to the terms of the Plan and the Underlying Option Agreement following termination of the Optionee's employment. The Committee, in its sole discretion, may establish such other terms and conditions for Replacement Options as it deems appropriate. 5.10 Options Granted to Non-United States Key Employees. In the case of Key Employees who are subject to the tax laws of a foreign jurisdiction, the Company may issue Options to such Key Employees that contain terms required to conform with any requirements for favorable tax treatment imposed by the laws of such foreign jurisdiction, or as otherwise may be required by the laws of such foreign jurisdiction. The terms of any such Options shall be governed by the Plan, subject to the terms of any Addendum to the Plan specifically applicable to such Options. Article 6. Payment for Option Shares. 6.1 General Rule. The entire Exercise Price of Common Shares issued upon exercise of Options shall be payable in cash at the time when such Common Shares are purchased, except that the Company may at any time accept payment pursuant to Section 6.2 or 6.3. 6.2 Surrender of Stock. To the extent that this Section 6.2 is applicable, payment for all or any part of the Exercise Price may be made with Common Shares which are surrendered to the Company. Such Common Shares shall be valued at their Fair Market Value on the date when the new Common Shares are purchased under the Plan. In the event that the Common Shares being surrendered are Restricted Shares that have not yet become vested, the same restrictions shall be imposed upon the new Common Shares being purchased. 6.3 Exercise/Sale. To the extent this Section 6.3 is applicable, payment may be made by the delivery (in a manner prescribed by the Company) of an irrevocable direction to Charles Schwab & Co., Inc. to sell Common Shares (including the Common Shares to be issued upon exercise of the Options) and to deliver all or part of the sales proceeds to the Company in payment of all or part of the Exercise Price and any withholding taxes. Article 7. Restricted Shares and Performance Share Awards. 7.1 Time, Amount and Form of Awards. The Committee may grant Restricted Shares or Performance Share Awards with respect to an Award Year during such Award Year or at any time thereafter. Each such Award shall be evidenced by a Stock Award Agreement between the Award recipient and the Company. The amount of each Award of Restricted Shares or Performance Share Awards shall be determined by the Committee. Awards under the Plan may be granted in the form of Restricted Shares or Performance Share Awards or in any combination thereof, as the Committee shall determine at its sole discretion at the time of the grant. Restricted Shares or Performance Share Awards may also be awarded in combination with NQSOs, and such an Award may provide that the Restricted Shares or Performance Share Awards will be forfeited in the event that the related NQSOs are exercised. 7.2 Payment for Restricted Share Awards. To the extent that an Award is granted in the form of Restricted Shares, the Award recipient, as a condition to the grant of such Award, shall be required to pay the Company in cash an amount equal to the par value of such Restricted Shares. 7.3 Vesting or Issuance Conditions. Each Award of Restricted Shares shall become vested, in full or in installments, upon satisfaction of the conditions specified in the Stock Award Agreement. Common Shares shall be issued pursuant to Performance Share Awards in full or in installments upon satisfaction of the issuance conditions specified in the Stock Award Agreement. The Committee shall select the vesting conditions in the case of Restricted Shares, or issuance conditions in the case of Performance Share Awards, which may be based upon the Participant's service, the Participant's performance, the Company's performance or such other criteria as the Committee may adopt; provided that, in the case of an Award of Restricted Shares where vesting is based entirely on the Participant's service (except to the extent otherwise specified by the Committee at the time of grant), (i) vesting shall be accelerated in the event of the Participant's death or Disability; (ii) in the case of Retirement, vesting shall be accelerated for all Restricted Shares that had been granted more than two years prior to the date of the Participant's Retirement; and (iii) vesting shall be suspended when an employee is on a leave of absence for a period in excess of six months in appropriate cases, as determined by the Company. The Committee, in its sole discretion, may determine, at the time of making an Award of Restricted Shares, that such Award shall become fully vested in the event that a Change in Control occurs with respect to the Company. The Committee, in its sole discretion, may determine, at the time of making a Performance Share Award, that the issuance conditions set forth in such Award shall be waived in the event that a Change in Control occurs with respect to the Company. 7.4 Form of Settlement of Performance Share Awards. Settlement of Performance Share Awards shall only be made in the form of Common Shares. Until a Performance Share Award is settled, the number of Performance Share Awards shall be subject to adjustment pursuant to Article 10. 7.5 Death of Recipient. Any Common Shares that are to be issued pursuant to a Performance Share Award after the recipient's death shall be delivered or distributed to the recipient's beneficiary or beneficiaries. Each recipient of a Performance Share Award under the Plan shall designate one or more beneficiaries for this purpose by filing the prescribed form with the Company. A beneficiary designation may be changed by filing the prescribed form with the Company at any time before the Award recipient's death. If no beneficiary was designated or if no designated beneficiary survives the Award recipient, then any Common Shares that are to be issued pursuant to a Performance Share Award after the recipient's death shall be delivered or distributed to the recipient's estate. The Committee, in its sole discretion, shall determine the form and time of any distribution(s) to a recipient's beneficiary or estate. Article 8. Claims Procedures. Claims for benefits under the Plan shall be filed in writing with the Committee on forms supplied by the Committee. Written notice of the disposition of a claim shall be furnished to the claimant within 90 days after the claim is filed. If the claim is denied, the notice of disposition shall set forth the specific reasons for the denial, citations to the pertinent provisions of the Plan, and, where appropriate, an explanation as to how the claimant can perfect the claim. If the claimant wishes further consideration of his or her claim, the claimant may appeal a denied claim to the Committee (or to a person designated by the Committee) for further review. Such appeal shall be filed in writing with the Committee on a form supplied by the Committee, together with a written statement of the claimant's position, no later than 90 days following receipt by the claimant of written notice of the denial of his or her claim. If the claimant so requests, the Committee shall schedule a hearing. A decision on review shall be made after a full and fair review of the claim and shall be delivered in writing to the claimant no later than 60 days after the Committee's receipt of the notice of appeal, unless special circumstances (including the need to hold a hearing) require an extension of time for processing the appeal, in which case a written decision on review shall be delivered to the claimant as soon as possible but not later than 120 days after the Committee's receipt of the appeal notice. The claimant shall be notified in writing of any such extension of time. The written decision on review shall include specific reasons for the decision, written in a manner calculated to be understood by the claimant, and shall specifically refer to the pertinent Plan provisions on which it is based. All determinations of the Committee shall be final and binding on Participants and their beneficiaries. Article 9. Voting Rights and Dividends. 9.1 Restricted Shares. All holders of Restricted Shares shall have the same voting, dividend, and other rights as the Company's other stockholders. 9.2 Performance Share Awards. The holders of Performance Share Awards shall have no voting or dividend rights until such time as any Common Shares are issued pursuant thereto, at which time they shall have the same voting, dividend and other rights as the Company's other stockholders. Article 10. Protection Against Dilution; Adjustment of Awards. 10.1 General. In the event of a subdivision of the outstanding Common Shares, a declaration of a dividend payable in Common Shares, a declaration of a dividend payable in a form other than Common Shares, a combination or consolidation of the outstanding Common Shares (by reclassification or otherwise) into a lesser number of Common Shares, a recapitalization, a spinoff or a similar occurrence, the Committee shall make appropriate adjustments in one or more of (a) the number of Options, Restricted Shares and Performance Share Awards available for future Awards under Article 3, (b) the maximum number of Common Shares which may be granted under Article 3 to any one Participant in any one fiscal year either subject to an Option or as Restricted Shares or Performance Share Awards, (c) the number of Performance Share Awards included in any prior Award which has not yet been settled, (d) the number of Common Shares covered by each outstanding Option or (e) the Exercise Price under each outstanding Option. 10.2 Reorganizations. Subject to the provisions of Section 5.7, in the event that the Company is a party to a merger or other reorganization, outstanding Options, Restricted Shares and Performance Share Awards shall be subject to the agreement of merger or reorganization. Such agreement may provide, without limitation, for the assumption of outstanding Awards by the surviving corporation or its parent, for their continuation by the Company (if the Company is a surviving corporation), for accelerated vesting or for settlement in cash. 10.3 Reservation of Rights. Except as provided in this Article 10, a Participant shall have no rights by reason of any subdivision or consolidation of shares of stock of any class, the payment of any stock dividend or any other increase or decrease in the number of shares of stock of any class. Any issue by the Company of shares of stock of any class, or securities convertible into shares of stock of any class, shall not affect, and no adjustment by reason thereof shall be made with respect to, the number or Exercise Price of Common Shares subject to an Option. The grant of an Award pursuant to the Plan shall not affect in any way the right or power of the Company to make adjustments, reclassifications, reorganizations or changes of its capital or business structure, to merge or consolidate or to dissolve, liquidate, sell or transfer all or any part of its business or assets. Article 11. Limitation of Rights. 11.1 Employment Rights. Neither the Plan nor any Award granted under the Plan shall be deemed to give any individual a right to remain employed by the Company or any Subsidiary. The Company and its Subsidiaries reserve the right to terminate the employment of any employee at any time, with or without cause, subject only to a written employment agreement (if any). 11.2 Stockholders' Rights. A Participant shall have no dividend rights, voting or other rights as a stockholder with respect to any Common Shares covered by his or her Award prior to the issuance of such Common Shares, whether by issuance of a certificate, book entry or other procedure. No adjustment shall be made for cash dividends or other rights for which the record date is prior to the date when such certificate is issued, except as expressly provided in Articles 7, 9 and 10. 11.3 Creditors' Rights. A holder of Performance Share Awards shall have no rights other than those of a general creditor of the Company. Performance Share Awards represent unfunded and unsecured obligations of the Company, subject to the terms and conditions of the applicable Stock Award Agreement. 11.4 Government Regulations. Any other provision of the Plan notwithstanding, the obligations of the Company with respect to Common Shares to be issued pursuant to the Plan shall be subject to all applicable laws, rules and regulations, and such approvals by any governmental agencies as may be required. The Company reserves the right to restrict, in whole or in part, the delivery of Common Shares pursuant to any Award until such time as: (a) Any legal requirements or regulations have been met relating to the issuance of such Common Shares or to their registration, qualification or exemption from registration or qualification under the Securities Act of 1933, as amended, or any applicable state securities laws; and (b) Satisfactory assurances have been received that such Common Shares, when issued, will be duly listed on the New York Stock Exchange or any other securities exchange on which Common Shares are then listed. Article 12. Limitation of Payments. 12.1 Basic Rule. Any provision of the Plan to the contrary notwithstanding, in the event that the independent auditors most recently selected by the Board (the "Auditors") determine that any payment or transfer in the nature of compensation to or for the benefit of a Participant, whether paid or payable (or transferred or transferable) pursuant to the terms of this Plan or otherwise (a "Payment"), would be nondeductible for federal income tax purposes because of the provisions concerning "excess parachute payments" in section 280G of the Code, then the aggregate present value of all Payments shall be reduced (but not below zero) to the Reduced Amount; provided, however, that the Committee, at the time of making an Award under this Plan or at any time thereafter, may specify in writing that such Award shall not be so reduced and shall not be subject to this Article 12. For purposes of this Article 12, the "Reduced Amount" shall be the amount, expressed as a present value, which maximizes the aggregate present value of the Payments without causing any Payment to be nondeductible by the Company because of section 280G of the Code. 12.2 Reduction of Payments. If the Auditors determine that any Payment would be nondeductible because of section 280G of the Code, then the Company shall promptly give the Participant notice to that effect and a copy of the detailed calculation thereof and of the Reduced Amount, and the Participant may then elect, in his or her sole discretion, which and how much of the Payments shall be eliminated or reduced (as long as after such election, the aggregate present value of the Payments equals the Reduced Amount) and shall advise the Company in writing of his or her election within 10 days of receipt of notice. If no such election is made by the Participant within such 10-day period, then the Company may elect which and how much of the Payments shall be eliminated or reduced (as long as after such election the aggregate present value of the Payments equals the Reduced Amount) and shall notify the Participant promptly of such election. For purposes of this Article 12, present value shall be determined in accordance with section 280G(d)(4) of the Code. All determinations made by the Auditors under this Article 12 shall be binding upon the Company and the Participant and shall be made within 60 days of the date when a Payment becomes payable or transferable. As promptly as practicable following such determination and the elections hereunder, the Company shall pay or transfer to or for the benefit of the Participant such amounts as are then due to him or her under the Plan, and shall promptly pay or transfer to or for the benefit of the Participant in the future such amounts as become due to him or her under the Plan. 12.3 Overpayments and Underpayments. As a result of uncertainty in the application of section 280G of the Code at the time of an initial determination by the Auditors hereunder, it is possible that Payments will have been made by the Company which should not have been made (an "Overpayment") or that additional Payments which will not have been made by the Company could have been made (an "Underpayment"), consistent in each case with the calculation of the Reduced Amount hereunder. In the event that the Auditors, based upon the assertion of a deficiency by the Internal Revenue Service against the Company or the Participant which the Auditors believe has a high probability of success, determine that an Overpayment has been made, such Overpayment shall be treated for all purposes as a loan to the Participant which he or she shall repay to the Company on demand, together with interest at the applicable federal rate provided in section 7872(f)(2) of the Code; provided, however, that no amount shall be payable by the Participant to the Company if and to the extent that such payment would not reduce the amount which is subject to taxation under section 4999 of the Code. In the event that the Auditors determine that an Underpayment has occurred, such Underpayment shall promptly be paid or transferred by the Company to or for the benefit of the Participant, together with interest at the applicable federal rate provided in section 7872(f)(2) of the Code. 12.4 Related Corporations. For purposes of this Article 12, the term "Company" shall include affiliated corporations to the extent determined by the Auditors in accordance with section 280G(d)(5) of the Code. Article 13. Withholding Taxes. 13.1 General. To the extent required by applicable federal, state, local or foreign law, the recipient of any payment or distribution under the Plan shall make arrangements satisfactory to the Company for the satisfaction of any withholding tax obligations that arise by reason of such payment or distribution. The Company shall not be required to make such payment or distribution until such obligations are satisfied. 13.2 Nonstatutory Options, Restricted Shares or Performance Share Awards. The Committee may permit an Optionee who exercises NQSOs, or who receives Awards of Restricted Shares, or who receives Common Shares pursuant to the terms of a Performance Share Award, to satisfy all or part of his or her withholding tax obligations by having the Company withhold a portion of the Common Shares that otherwise would be issued to him or her under such Awards. Such Common Shares shall be valued at their Fair Market Value on the date when taxes otherwise would be withheld in cash. The payment of withholding taxes by surrendering Common Shares to the Company, if permitted by the Committee, shall be subject to such restrictions as the Committee may impose, including any restrictions required by rules of the Securities and Exchange Commission. Article 14. Assignment or Transfer of Award. 14.1 General Rule. Any Award granted under the Plan shall not be anticipated, assigned, attached, garnished, optioned, transferred or made subject to any creditor's process, whether voluntarily, involuntarily or by operation of law, except to the extent specifically permitted by Section 14.2. 14.2 Exceptions to General Rule. Notwithstanding Section 14.1, this Plan shall not preclude (i) a Participant from designating a beneficiary to succeed, after the Participant's death, to those of the Participant's Awards (including without limitation, the right to exercise any unexercised Options) as may be determined by the Company from time to time in its sole discretion, (ii) a transfer of any Award hereunder by will or the laws of descent or distribution, or (iii) a voluntary transfer of an Award (other than an ISO) to a trust or partnership for the exclusive benefit of one or more members of the Participant's family, but only if the Participant has sole investment control over such trust or partnership. Article 15. Future of Plans. 15.1 Term of the Plan. The Plan, as set forth herein, shall become effective on May 7, 2001. The Plan shall remain in effect until it is terminated under Section 15.2, except that no ISOs shall be granted after May 6, 2011. 15.2 Amendment or Termination. The Committee may, at any time and for any reason, amend or terminate the Plan; provided, however, that any amendment of the Plan shall be subject to the approval of the Company's stockholders to the extent required by applicable laws, regulations or rules. 15.3 Effect of Amendment or Termination. No Award shall be made under the Plan after the termination thereof. The termination of the Plan, or any amendment thereof, shall not affect any Option, Restricted Share or Performance Share Award previously granted under the Plan. Article 16. Definitions. 16.1 "Award" means any award of an Option, a Restricted Share or a Performance Share Award under the Plan. 16.2 "Award Year" means a fiscal year beginning January 1 and ending December 31 with respect to which an Award may be granted. 16.3 "Board" means the Company's Board of Directors, as constituted from time to time. 16.4 "Change in Control" means the occurrence of any of the following events after the effective date of the Plan as set out in Section 15.1: (a) A change in control required to be reported pursuant to Item 6(e) of Schedule 14A of Regulation 14A under the Exchange Act; (b) A change in the composition of the Board, as a result of which fewer than two-thirds of the incumbent directors are directors who either (i) had been directors of the Company 24 months prior to such change or (ii) were elected, or nominated for election, to the Board with the affirmative votes of at least a majority of the directors who had been directors of the Company 24 months prior to such change and who were still in office at the time of the election or nomination; (c) Any "person" (as such term is used in sections 13(d) and 14(d) of the Exchange Act) becomes the beneficial owner, directly or indirectly, of securities of the Company representing 20 percent or more of the combined voting power of the Company's then outstanding securities ordinarily (and apart from rights accruing under special circumstances) having the right to vote at elections of directors (the "Base Capital Stock"); provided, however, that any change in the relative beneficial ownership of securities of any person resulting solely from a reduction in the aggregate number of outstanding shares of Base Capital Stock, and any decrease thereafter in such person's ownership of securities, shall be disregarded until such person increases in any manner, directly or indirectly, such person's beneficial ownership of any securities of the Company. 16.5 "Code" means the Internal Revenue Code of 1986, as amended. 16.6 "Committee" means the Compensation Committee of the Board, as constituted from time to time. 16.7 "Common Share" means one share of the common stock of the Company. 16.8 "Company" means The Charles Schwab Corporation, a Delaware corporation. 16.9 "Disability" means the inability to engage in any substantial gainful activity considering the Participant's age, education and work experience by reason of any medically determined physical or mental impairment that has continued without interruption for a period of at least six months and that can be expected to be of long, continued and indefinite duration. All determinations as to whether a Participant has incurred a Disability shall be made by the Employee Benefits Administration Committee of the Company, the findings of which shall be final, binding and conclusive. 16.10 "ERISA" means the Employee Retirement Income Security Act of 1974, as amended. 16.11 "Exchange Act" means the Securities Exchange Act of 1934, as amended. 16.12 "Exercise Price" means the amount for which one Common Share may be purchased upon exercise of an Option, as specified by the Committee in the applicable Stock Option Agreement. 16.13 "Fair Market Value" means the market price of a Common Share, determined by the committee as follows: (a) If the Common Share was traded on a stock exchange on the date in question, then the Fair Market Value shall be equal to the closing price reported by the applicable composite-transactions report for such date; (b) If the Common Share was traded over-the-counter on the date in question and was classified as a national market issue, then the Fair Market Value shall be equal to the last transaction price quoted by the NASDAQ system for such date; (c) If the Common Share was traded over-the-counter on the date in question but was not classified as a national market issue, then the Fair Market Value shall be equal to the mean between the last reported representative bid and asked prices quoted by the NASDAQ system for such date; and (d) If none of the foregoing provisions is applicable, then the Fair Market Value shall be determined by the Committee in good faith on such basis as it deems appropriate. 16.14 "ISO" means an incentive stock option described in section 422(b) of the Code. 16.15 "Key Employee" means (1) a key common-law employee of the Company or any Subsidiary, as determined by the Committee, or (2) a non-employee director of any Subsidiary, as determined by the Committee. 16.16 "Named Executive Officer" means a Participant who, as of the date of vesting of an Award is one of a group of "covered employees," as defined in the Regulations promulgated under Code Section 162(m), or any successor statute. 16.17 "Non-Employee Director" means a member of the Board who is not a common-law employee. 16.18 "NQSO" means an employee stock option not described in sections 422 through 424 of the Code. 16.19 "Option" means an ISO or NQSO or, in the case of a Key Employee who is subject to the tax laws of a foreign jurisdiction, an option qualifying for favorable tax treatment under the laws of such jurisdiction, including a Replacement Option, granted under the Plan and entitling the holder to purchase one Common Share. 16.20 "Optionee" means an individual, or his or her estate, legatee or heirs at law that holds an Option. 16.21 "Participant" means a Non-Employee Director or Key Employee who has received an Award. 16.22 "Performance Share Award" means the conditional right to receive in the future one Common Share, awarded to a Participant under the Plan. 16.23 "Plan" means this 1992 Stock Incentive Plan of The Charles Schwab Corporation, as it may be amended from time to time. 16.24 "Replacement Option" means an Option that is granted when a Participant uses a Common Share held or to be acquired by the Participant to exercise an Option and/or to satisfy tax withholding requirements incident to the exercise of an Option. 16.25 "Restricted Share" means a Common Share awarded to a Participant under the Plan. 16.26 "Retirement" shall mean any termination of employment of an Optionee for any reason other than death at any time after the Optionee has attained Retirement Age. For this purpose, Retirement Age shall mean age fifty (50), but only if, at the time of such termination, the Participant has been credited with at least seven (7) Years of Service under the SchwabPlan Retirement Savings and Investment Plan; provided, however, that if at the time of grant of an Option an Optionee is a Participant in a qualified retirement plan maintained by a Subsidiary (other than the SchwabPlan Retirement Savings and Investment Plan), then Retirement Age shall have the same meaning as the Normal Retirement Date as defined in such plan. 16.27 "Stock Award Agreement" means the agreement between the Company and the recipient of a Restricted Share or Performance Share Award which contains the terms, conditions and restrictions pertaining to such Restricted Share or Performance Share Award. 16.28 "Stock Option Agreement" means the agreement between the Company and an Optionee which contains the terms, conditions and restrictions pertaining to his or her option. 16.29 "Subsidiary" means any corporation or other entity, if the Company and/or one or more other Subsidiaries own not less than 50 percent of the total combined voting power of all classes of outstanding stock of such corporation (or ownership interest of such other entity). A corporation or other entity that attains the status of a Subsidiary on a date after the adoption of the Plan shall be considered a Subsidiary commencing as of such date. ADDENDUM A The provisions of the Plan, as amended by the terms of this Addendum A, shall apply to the grant of Approved Options to Key U.K. Employees. 1. For purposes of this Addendum A, the following definitions shall apply in addition to those set out in section 16 of the Plan: Approved Option Means a stock option designed to qualify as an approved executive share option under the Taxes Act; Inland Revenue means the Board of the Inland Revenue in the United Kingdom. Key U.K. Employee means a designated employee of Sharelink Investment Services plc or any subsidiary (as that term is defined in the Companies Act 1985 of the United Kingdom, as amended) of which Sharelink Investment Services plc has control for the purposes of section 840 of the Taxes Act; Taxes Act means the Income and Corporation Taxes Act 1988 of the United Kingdom. 2. An Approved Option may only be granted to a Key U.K. Employee who: (i) is employed on a full-time basis; and (ii) does not fall within the provisions of paragraph 8 or Schedule 9 to the Taxes Act. For purposes of this section 2(i) of Addendum A, "full-time" shall mean an employee who is required to work 20 hours per week, excluding meal breaks. 3. No Approved Option may be granted to a Key U.K. Employee if it would cause the aggregate of the exercise price of all subsisting Approved Options granted to such employee under the Plan, or any other subsisting options granted to such employee under any other share option scheme approved under Schedule 9 of the Taxes Act and established by the Company or an associated company, to exceed the higher of (a) one hundred thousand pounds sterling and (b) four times such employee's relevant emoluments for the current or preceding year of assessment (whichever is greater); but where there were no relevant emoluments for the previous year of assessment, the limit shall be the higher of one hundred thousand pounds sterling or four times such employee's relevant emoluments for the period of twelve months beginning with the first day during the current year of assessment in respect of which there are relevant emoluments. For the purpose of this section 3 of Addendum A, "associated company" means an associated company within the meaning of section 416 of the Taxes Act; "relevant emoluments" has the meaning given by paragraph 28(4) of Schedule 9 to the Taxes Act and "year of assessment" means a year beginning on any April 6 and ending on the following April 5. 4. Common Shares issued pursuant to the exercise of Approved Options must satisfy the conditions specified in paragraphs 10 to 14 of Schedule 9 to the Taxes Act. 5. Notwithstanding the provisions of Section 5.4 of the Plan, the exercise price of an Approved Option shall not be less than 100 percent of the closing price of a Common Share as reported in the New York Stock Exchange Composite Index on the date of grant. 6. No Approved Option may be exercised at any time by a Key U.K. Employee when that Key U.K. Employee falls within the provisions of paragraph 8 of Schedule 9 to the Taxes Act. If at any time the shares under an Approved Option cease to comply with the conditions in paragraphs 10 to 14 of Schedule 9 to the Taxes Act, then all Approved Options then outstanding shall lapse and cease to be exercisable from the date of the shares ceasing so to comply, and no optionee shall have any cause of action against the Company, Sharelink Investment Services plc or any subsidiary of the Company or any other person in respect thereof. 7. An Approved Option may contain such other terms, provisions and conditions as may be determined by the Committee consistent with the Plan, provided that the approved option otherwise complies with the requirements for approved executive option schemes specified in Schedule 9 of the Taxes Act. 8. In relation to an Approved Option, notwithstanding the terms of section 10.1 of the Plan, no adjustment shall be made pursuant to section 10.1 of the Plan to any outstanding Approved Options without the prior approval of the Inland Revenue. 9. In relation to an Approved Option any Key U.K. Employee shall make arrangements satisfactory to the Company for the satisfaction of any tax withholding or deduction -- at -- source obligations that arise by reason of the grant to him or her of such option, or its subsequent exercise. 10. In relation to an Approved Option, in addition to the provisions set out in section 15.2 of the Plan, no amendment which affects any of the provisions of the Plan relating to Approved Options shall be effective until approved by the Inland Revenue, except for such amendment as are required to obtain and maintain the approval of Inland Revenue pursuant to Schedule 9 to the Taxes Act. EX-10.220 4 exh10_220.txt EXHIBIT 10.220 Exhibit 10.220 The Charles Schwab Corporation Annual Executive Individual Performance Plan (Amended and Restated, effective January 1, 2001) I. Purposes The purposes of this Annual Executive Individual Performance Plan (the "Plan") are: (a) to provide greater incentive for key executives to continually exert their best efforts on behalf of The Charles Schwab Corporation (the "Company") by rewarding them for services rendered with incentive compensation that is in addition to their regular salaries; (b) to attract and to retain in the employ of the Company persons of outstanding competence; and (c) to further align the interests of such employees with those of the Company's stockholders through a strong performance-based reward system. II. Form of Awards Incentive compensation awards under this Plan shall be generally granted in cash, less any applicable withholding taxes; provided that the Committee may determine, from time to time, that all or a portion of any award may be paid in the form of an equity based incentive, including without limitation stock options, restricted shares, or outright grants of Company stock. The number of shares and stock options granted in any year, when added to the number of shares and stock options granted for such year pursuant to the Company's Corporate Executive Bonus Plan, shall in no event exceed .5% of the outstanding shares of the Company. III. Determination of Awards 1. Incentive awards for participants shall be determined annually. The participants in the Plan shall be the executive officers who are selected by the Compensation Committee of the Board of Directors (the "Committee") to participate in the Charles Schwab Corporate Executive Bonus Plan (the "CEB Plan"), except that the President and Co-Chief Executive Officer shall not be eligible to participate in the Plan. Payouts under the CEB Plan are defined by reference to a target percentage of base salary determined, from time to time, by the Committee and pursuant to a payout matrix, adopted from time to time by the Committee, that uses net revenue growth and consolidated pretax profit margin as the financial performance criteria to determine awards. Each participant shall have a bonus target under the Plan equal to such Participant's bonus target under the CEB Plan, multiplied by 160%. Payouts described in this subsection shall be calculated and paid on an annual basis. 2. With respect to payments made pursuant to Section III.1, the amount of base salary included in the computation of incentive awards pursuant to the CEB Plan shall not exceed 250% of the base salary in effect for the officer holding the same or substantially similar position on March 31, 2000. In addition, (i) the maximum target incentive percentage pursuant to the CEB Plan shall be 100% of base salary and (ii) the maximum award pursuant to the CEB Plan shall be 400% of the participant's target award. 3. Notwithstanding anything to the contrary contained in this Plan, the Committee shall have the power, in its sole discretion, to reduce the amount payable to any Participant (or to determine that no amount shall be payable to such Participant) with respect to any award prior to the time the amount otherwise would have become payable hereunder. In the event of such a reduction, the amount of such reduction shall not increase the amounts payable to other participants under the Plan. IV. Administration 1. Except as otherwise specifically provided, the Plan shall be administered by the Committee. The Committee members shall be appointed pursuant to the Bylaws of the Company, and the members thereof shall be ineligible for awards under this Plan for services performed while serving on said Committee. 2. The decision of the Committee with respect to any questions arising as to interpretation of the Plan, including the severability of any and all of the provisions thereof, shall be, in its sole and absolute discretion, final, conclusive and binding. V. Eligibility for Awards 1. Awards under the Plan shall be granted by the Committee to those employees who are eligible to participate in the CEB Plan. This is intended to include the Vice Chairmen, Executive Vice Presidents, and other officers having comparable positions. No award may be granted to a member of the Company's Board of Directors except for services performed as an employee of the Company. 2. Except in the event of retirement, death, or disability, to be eligible for an award an employee must be employed by the Company as of the date awards are calculated and approved by the Committee under this Plan. 3. For purposes of this Plan, the term "employee" shall include an employee of a corporation or other business entity in which this Company shall directly or indirectly own 50% or more of the outstanding voting stock or other ownership interest. VI. Awards 1. The Committee shall determine each year the payments, if any, to be made under the Plan. Awards for any calendar year shall be granted not later than the end of the first quarter of the calendar year, and payments pursuant to the Plan shall be made as soon as practicable after the close of the calendar year. 2. Upon the granting of awards under this Plan, each participant shall be informed of his or her award by his or her direct manager and that such award is subject to the applicable provisions of this Plan. VII. Deferral of Awards 1. A participant in this Plan who is also eligible to participate in The Charles Schwab Corporation Deferred Compensation Plan may elect to defer payments pursuant to the terms of that plan. VIII. Recommendations and Granting of Awards 1. Recommendations for awards shall be made to the Committee by the Co-Chief Executive Officers. 2. Any award shall be made in the sole discretion of the Committee, which shall take final action on any such award. No person shall have a right to an award under this Plan until final action has been taken granting such award. IX. Amendments and Expiration Date While it is the present intention of the Company to grant awards annually, the Committee reserves the right to modify this Plan from time to time or to repeal the Plan entirely, or to direct the discontinuance of granting awards either temporarily or permanently; provided, however, that no modification of this plan shall operate to annul, without the consent of the beneficiary, an award already granted hereunder; provided, also, that no modification without approval of the stockholders shall increase the maximum amount which may be awarded as hereinabove provided. X. Miscellaneous All expenses and costs in connection with the operation of this Plan shall be borne by the Company and no part thereof shall be charged against the awards anticipated by the Plan. Nothing contained herein shall be construed as a guarantee of continued employment of any participant hereunder. This Plan shall be construed and governed in accordance with the laws of the State of California. EX-10.221 5 exh10_221.txt EXHIBIT 10.221 Exhibit 10.221 THE SCHWABPLAN RETIREMENT SAVINGS AND INVESTMENT PLAN Restated and Amended as of April 1, 2001 THE SCHWABPLAN RETIREMENT SAVINGS AND INVESTMENT PLAN Table of Contents Section Page Number 1 Introduction and Purpose............................. 1 2 Definitions.......................................... 2 3 Participation........................................ 14 3.1 Commencement of Participation. 3.2 Cessation of Participation 3.3 Readmission After Cessation of Participation 3.4 Waiver of Participation 4 Employer Contributions............................... 16 4.1 Elective Contributions 4.2 Employer Contributions 4.3 Allocation of Matching Contributions, Profit Sharing Contributions and ESOP Contributions 4.4 Timing of Employer Contributions. 4.5 Forfeitures 4.6 Contribution Percentage Test. 4.7 Distribution of Excess Aggregate Contributions 4.8 Aggregate Limit for Contribution Percentage and Actual Deferral Percentage. 4.9 Profit Sharing Contributions. 5 Salary Reduction Agreements and Rollover Contributions 23 5.1 Salary Reduction Agreements. 5.2 Change or Suspension of Salary Reduction Agreements 5.3 Actual Deferral Percentage Test. 5.4 Amendment or Revocation of Salary Reduction Agreement by Committee. 5.5 Distribution of Excess Contributions. 5.6 Rollover Contributions. 5.7 Trustee-to-Trustee Transfer of Assets 6 Allocation of Contributions.......................... 29 6.1 Establishment of Cash Contribution Account. 6.2 Establishment of Subaccounts 7 Special ESOP Provisions.............................. 30 7.1 Investment of ESOP Accounts 7.2 Allocation to ESOP Accounts. 7.3 Suspense Subfund for ESOP Accounts 7.4 Disposition of Shares Released from Suspense Subfund. 7.5 Limitations on Allocations to ESOP Accounts 7.6 Acquisition of Shares. 7.7 Effect of Change in Plan Sponsor's Capitalization. 7.8 Trustee and Committee Discretion to Engage in Transactions in Shares. 7.9 Valuation of ESOP Accounts. 7.10 Role of Purchasing Agent 8 Investment of Contributions, Valuations and Participants' Cash Contribution Accounts................................ 38 8.1 Delivery of Contributions to Trust Fund 8.2 Participants' Right to Select Investments 8.3 Participant Investment Election 8.4 Change in Investment Election for Future Contributions 8.5 Change in Investment Election for Prior Contributions 8.6 Valuation of Cash Contribution Accounts. 9 Retirement Dates..................................... 40 9.1 Normal Retirement Date 9.2 Deferred Retirement Date. 10 Eligibility for Payment of Accounts and Vested Interests 41 10.1 Participants' Right to Account Upon Termination Due to Retirement, Death or Disability. 10.2 Participants' Right to Account Upon Other Termination of Service 10.3 Vesting Schedule for Determining Vested Interests. 10.4 Breaks in Service. 10.5 Participant's Right to Restoration of Account Upon Return to Service. 10.6 Participant's Right to Account Upon Death After Termination of Service 10.7 Amendment of Vesting Schedule. 10.8 Distribution Following Attainment of Age 59-1/2 to Former Participants of The Hampton Pension Services, Inc. 401(k) Retirement Savings Plan 11 Method of Payment of Accounts and Withdrawals........ 45 11.1 Methods of Payment. 11.2 Commencement of Payment 11.3 Special Rules For Distribution of Shares. 11.4 Payments to Surviving Spouse or Beneficiary 11.5 Latest Date for Commencement of Benefits. 11.6 Redirection of Investment of ESOP Account. 11.7 Hardship Withdrawals. 11.8 Direct Rollovers to Another Qualified Plan or IRA. 11.9 Certain Securities Law Restrictions 11.10 Participant Loans. 12 Maximum Amount of Allocation......................... 58 12.1 Section 415 Limitations 12.2 Refund or Forfeiture of Amounts in Excess of Section 415 Limits. 13 Voting Rights........................................ 61 13.1 Voting and Tender or Exchange of Shares in General. 13.2 Voting of Allocated Shares. 13.3 Mechanics of Voting Allocated Shares 13.4 Voting of Unallocated Shares 13.5 Tender or Exchange of Allocated Shares 13.6 Tender or Exchange of Unallocated Shares. 13.7 Voting of Deceased Participant's Shares 14 Designation of Beneficiaries......................... 65 14.1 Designation of Beneficiary 14.2 Failure to Designate Beneficiary 15 Administration of the Plan........................... 66 15.1 The Committee. 15.2 The Trustee. 15.3 Committee's Responsibility for Entering into Exempt Loans and Valuation of Shares 15.4 Committee's Power to Engage Outside Experts. 15.5 Composition of Committee. 15.6 Actions of Committee. 15.7 Disbursement of Plan Funds. 15.8 Application for Benefits. 15.9 Denied Claims for Benefits 15.10 Indemnification. 15.11 Agent for Service of Process. 16 Expenses............................................. 71 16.1 Payment of Plan Expenses 16.2 Expenses Attributable to Investment of Plan Assets and Taxes. 17 Employer Participation............................... 72 17.1 Adoption of Plan by Affiliated Employer 17.2 Termination of Participation by Participating Employer 17.3 Effect of Termination of Participation by Participating Employer. 17.4 Limitations on Transfer of Plan Assets to Successor Plan 17.5 Shares Allocated to Suspense Fund Excluded from Transfer of Plan Assets to Successor Plan. 18 Amendment or Termination of the Plan................. 75 18.1 Amendment, Suspension or Termination of Plan 18.2 Power to Retroactively Amend, Suspend or Terminate Plan Provisions 18.3 Notice of Amendment, Suspension or Termination 18.4 Effect of Termination of Plan. 18.5 Partial Termination of Plan 18.6 Trust for Exclusive Benefit of Participant 19 Top-Heavy Plan Requirements.......................... 78 19.1 Top-Heavy Plan - In General 19.2 Effect of Top-Heavy Status 19.3 Top-Heavy Vesting Schedule. 19.4 Definitions. 19.5 Maintenance of Defined Benefit Plan in Addition to Plan. 20 General Limitations and Provisions................... 84 20.1 Exclusive Benefit of Participants and Beneficiaries 20.2 No Rights to Continued Employment 20.3 Trust Sole Source of Benefits. 20.3 Trust Sole Source of Benefits. 20.4 Risk of Decrease in Assets 20.5 Incapacity of Participant or Beneficiary. 20.6 Antialienation; Qualified Domestic Relations Orders 20.7 Inability to Locate Participant or Beneficiary. 20.8 Failure to Receive IRS Approval. 20.9 Contributions Conditioned on Deductibility. 20.10 Mistake of Fact 20.11 Communications with Committee. 20.12 Communications with Participants and Beneficiaries. 20.13 Prior Service Credit 20.14 Gender and Number 20.15 Headings 20.16 Governing Law. 20.17 Severability of Provisions 20.18 Heirs, Assigns and Personal Representatives 20.19 Reliance on Data and Consents. 20.20 Qualified Military Service. 21 Application to Puerto Rico Employees................. 93 21.1 Modifications Applicable to Puerto Rico. THE SCHWABPLAN RETIREMENT SAVINGS AND INVESTMENT PLAN as Amended through June 24, 1999 SECTION 1. INTRODUCTION AND PURPOSE 1.1 The Plan Sponsor established and maintains the Plan to enable each Participant to benefit, in accordance with the terms of the Plan, from contributions made by the Employer and from any increases in the value of the Plan assets through investment of such assets. The Plan is comprised of three parts: (i) a Section 401(k) plan, (ii) a profit sharing plan and (iii) an employee stock ownership plan. The purpose of the employee stock ownership plan portion of the Plan is to align Employees' interests with the interests of shareholders. It is anticipated that any Employer contributions to the employee stock ownership plan will be invested primarily or entirely in Shares of The Charles Schwab Corporation, that the employee stock ownership plan may acquire such Shares of The Charles Schwab Corporation from time to time with the proceeds of one or more Exempt Loans, the repayment of which may be secured in part by a pledge of the Shares of The Charles Schwab Corporation acquired with those loan proceeds, and that any Employer contributions to the employee stock ownership plan may be used in full or in substantial part to the payment of interest on, and retirement of principal of, such Exempt Loans. This Plan is a restatement of the SchwabPlan Retirement Savings and Investment Plan, which was initially effective as of October 1, 1983. The effective date of this restatement is January 1, 2001. The rights of any person who terminated employment or who retired on or before the effective date of this restated Plan or any provision hereof, including his or her eligibility for benefits and the time and form in which benefits, if any, will be paid, shall be determined solely under the terms of the Plan provisions as in effect on the date of his or her termination of employment or retirement, unless such person is thereafter reemployed and again becomes a Participant. The rights of any other person shall be determined solely under the terms of this restated Plan, except as may otherwise be required by law. The Plan and Trust are intended to qualify as a plan and trust which are qualified and exempt from taxation under Sections 401(a) and 501(a) of the Code. The Plan is intended to qualify in part as a profit sharing plan (as defined in Section 401(a)(27) of the Code) and in part as a stock bonus plan and an employee stock ownership plan (as defined by Section 4975(e)(7) of the Code and Section 407(d)(6) of the Act) designed to invest primarily in shares of stock of the Employer which meet the requirements for "qualifying employer securities" under Section 4975(e)(8) of the Code and Section 407(d)(5) of the Act. All provisions of the Plan and Trust shall be construed accordingly. All Trust Fund assets acquired under the Plan as a result of debt incurred to purchase Shares, Employer contributions, income and other additions to the Trust Fund shall be administered, distributed, forfeited and otherwise governed by the provisions of the Plan. It is intended that the Trust associated with the Plan be exempt from federal income taxation pursuant to the provisions of Section 501(a) of the Code. Subject to the provisions of Section 16 of the Plan, the assets of the Plan shall be applied exclusively for the purposes of providing benefits to Participants and Beneficiaries under the Plan and for defraying expenses incurred in the administration of the Plan and its corresponding Trust. SECTION 2. DEFINITIONS When used herein the following terms shall have the following meanings: 2.1 "Account" means the account or accounts established and maintained on behalf of a Participant pursuant to (i) Section 6.1 with respect to the Participant's Cash Contribution Account and (ii) Section 7.1 with respect to the Participant's ESOP Account. 2.2 "Act" means the Employee Retirement Income Security Act of 1974, as now in effect or as hereafter amended. 2.3 "Actual Deferral Percentage" means the average of the ratios (calculated separately for each Employee) for each Plan Year of (a) the amount of Elective Contributions and Matching Contributions or Qualified Nonelective Contributions (if the Committee determines to take such Matching Contributions or such Qualified Nonelective Contributions into account when calculating Actual Deferral Percentage) on behalf of each Employee for the relevant Plan Year to (b) the Employee's compensation (as defined in Treasury Regulation 1.415-2(d)(10) or in such other manner as is prescribed under Section 414(s) of the Code) while a Participant for the relevant Plan Year. 2.4 "Affiliated Employer" means any corporation which is included in a controlled group of corporations (within the meaning of Section 414(b) of the Code) which includes the Plan Sponsor, any trade or business (whether or not incorporated) which is under common control with the Plan Sponsor (within the meaning of Section 414(c) of the Code), any organization included in the same affiliated service group (within the meaning of Section 414(m) of the Code) as the Plan Sponsor and any other entity required to be aggregated with the Plan Sponsor pursuant to the Regulations under Section 414(o) of the Code; except that for purposes of applying the provisions of Sections 12 and 19 with respect to the limitations on contributions, Section 415(h) of the Code shall apply. 2.5 "Beneficiary" means the beneficiary or beneficiaries designated by a Participant pursuant to Section 14 to receive the amount, if any, payable under the Plan upon the death of such Participant. 2.6 "Board of Directors" means the board of directors of Charles Schwab & Co., Inc. 2.7 "Break in Service" means a Plan Year (or for purposes of determining membership in the Plan pursuant to Section 3, the Computation Period) during which an individual has not completed more than 500 Hours of Service, as determined by the Committee in accordance with the Regulations. A Break in Service shall be deemed to have commenced on the first day of the Plan Year in which it occurs. Solely for purposes of determining whether a Break in Service has occurred, an individual shall be credited with the Hours of Service which such individual would have completed but for a maternity or paternity absence, as determined by the Committee in accordance with this Section 2.7 and the Code and Regulations; provided, however, that the total Hours of Service so credited shall not exceed 501 Hours of Service and that the individual shall timely provide the Committee with such information as it shall require. Hours of Service credited for a maternity or paternity absence shall be credited at eight Hours of Service per day and shall be credited entirely (i) in the Plan Year or Computation Period in which the absence began if such Hours of Service are necessary to prevent a Break in Service in such Plan Year, or (ii) in the following Plan Year or Computation Period. For purposes of this Section 2.7, maternity or paternity absence shall mean an absence from work by reason of the individual's pregnancy, the birth of the individual's child or the placement of a child with the individual in connection with adoption of the child by such individual, or for purposes of caring for a child for the period immediately following such birth or adoption. 2.8 "Cash Contribution Account" means the account or accounts established and maintained on behalf of a Participant pursuant to Section 6.1 with respect to the Participant's Elective Contributions, Matching Contributions, Profit Sharing Contributions, Qualified Nonelective Contributions or Rollover Contributions. 2.9 "Code" means the Internal Revenue Code of 1986, as now in effect or as hereafter amended. All citations to sections of the Code are to such sections as they may from time to time be amended or renumbered. 2.10 "Committee" means the Administrative Committee of the Employer provided for in Section 15. For purposes of the Act, the Employer shall be the "named fiduciary" (with respect to the matters for which it is hereby responsible under the Plan) of the Plan, and the Employer shall be the "plan administrator" of the Plan within the meaning of Section 3(16)(A) of the Act. 2.11 "Compensation" means a Participant's W-2 compensation related to services rendered to the Employer, excluding (i) living allowances, (ii) travel or commuting allowances, (iii) reimbursements for financial planning, (iv) amounts that are paid as a result of participation in the Employer's Long-Term Incentive Plan, (v) employee referral awards, (vi) special incentive awards (other than regular bonus programs), (vii) reimbursements for relocation expenses, (viii) commissions (other than "dual commissions", commissions based on trading results that are paid to traders who are also salaried and commissions where the Participant's only form of remuneration is commissions), (ix) income items attributable to the taxable portion of employee benefits and any cash payments made as a result of an Employee's election not to receive insured benefits pursuant to the Company's Pre-Tax Contribution Plan, (x) amounts paid as short term disability benefits, (xi) any income items reflecting grants in aid, (xii) amounts paid to a Participant pursuant to the Charles Schwab Severance Pay Plan (other than any amounts paid with respect to the Notice Period, as defined in Section 2(K) of such plan), and (xiii) compensation in excess of $150,000 (adjusted for cost of living to the extent permitted by Section 401(a)(17) of the Code and Regulations). For purposes of determining the whole percentage of Compensation for which a Participant may make a Salary Reduction Agreement, and not for any other purposes, subparagraph (ix) hereof shall be disregarded. Compensation shall be determined prior to reduction for (i) any contributions pursuant to such Participant's election under Section 5.1, (ii) any contributions made by an Employer on behalf of the Participant in the Plan Year pursuant to a Participant salary reduction election that are not includable in the Participant's income under Section 125 of the Code, and (iii) any contributions made by an Employer on behalf of the Participant in the Plan Year pursuant to a Participant salary reduction election that are not includable in the Participant's income under Section 132(a)(5) of the Code. 2.12 "Computation Period" means a 12 consecutive month period beginning on the day an individual first performs an Hour of Service or first performs an Hour of Service following a Break in Service. Thereafter, the Computation Period shall be the Plan Year, commencing with the Plan Year that includes the day immediately following the last day of the Computation Period determined pursuant to the first sentence hereof. 2.13 "Contribution Percentage" means the average of the ratios (calculated separately for each Participant for each Plan Year) of (a)(i) Matching Contributions, if any, made by the Employer on behalf of a Participant and (ii) Elective Contributions, (if the Committee elects to take into account Elective Contributions when calculating the Contribution Percentage) to (b) the Employee's compensation (as defined in Section 1.415-2(d)(10) of the Regulations or in such other manner as is prescribed under Section 414(s) of the Code) while a Participant for the relevant Plan Year. 2.14 "Deferred Retirement Date" shall have the meaning set forth in Section 9.2. 2.15 "Disability" means the inability to engage in any substantial gainful activity considering the Participant's age, education and work experience by reason of any medically determined physical or mental impairment that has continued without interruption for a period of at least six months and that can be expected to be of long, continued and indefinite duration. The determination of the Committee as to whether a Participant has a Disability shall be final, binding and conclusive. 2.16 "Effective Date" means October 1, 1983. 2.17 "Elective Contributions" means contributions made to the Trust Fund pursuant to a Participant's Salary Reduction Agreement entered into pursuant to Section 5.1, and which are considered tax deferred under Section 401(k) of the Code. 2.18 "Elective Contribution Subaccount" means the account established and maintained on behalf of a Participant pursuant to Section 6.2(a) with respect to his or her Elective Contributions and Qualified Nonelective Contributions. 2.19 "Employee" means any "regular employee" of the Employer who is paid through United States payroll and for whom the Employer is required to withhold United States Federal employment taxes excluding (i) any person covered by any other pension, profit sharing or retirement plan to which any Employer or Affiliated Employer is required to contribute either directly or indirectly, (ii) any nonresident alien individual who received no earned income (within the meaning of Section 911(d)(2)) from the Employer which constitutes income from sources within the United States, (iii) any employee who is included in a unit of employees covered by a negotiated collective bargaining agreement which does not provide for his or her membership in the Plan, (iv) any individual who provides services to the Employer pursuant to an independent contractor agreement, irrespective of whether such individual is subsequently retroactively reclassified as a common law employee for periods during which the Employer originally classified such individual as an independent contractor, and (v) any individual who provides services to the Employer pursuant to an agreement between the Employer and a temporary agency or other leasing organization. A director of the Employer is not eligible for membership in the Plan unless such director is also an Employee. A leased employee (within the meaning of Section 414(n) of the Code) is not eligible for membership in the Plan unless the Employer designates such individual as eligible for membership in the Plan. 2.20 "Employer" means Charles Schwab & Co., Inc. and any Participating Employer which adopts this Plan subject to the approval of the Board of Directors. 2.21 "ESOP Account" means the account established and maintained on behalf of a Participant pursuant to Section 7.1 with respect to his or her ESOP Contributions. 2.22 "ESOP Contributions" means the Employer contributions, if any, made to the Plan on behalf of a Participant pursuant to Section 4.2(c). 2.23 "Entry Date" means the first day of each calendar month. 2.24 "Exempt Loan" means any loan to the Plan or Trust not prohibited by Section 4975(c) of the Code and Section 406 of the Act because the loan meets the requirements set forth in Section 4975(d)(3) of the Code, Section 408(b)(3) of the Act and the Regulations promulgated thereunder, the proceeds of which loan are used within a reasonable time after receipt by the Trust Fund only for any or all of the following purposes: (a) to acquire Shares; (b) to repay the same Exempt Loan; or (c) to repay any previous Exempt Loan. 2.25 "Highly Compensated Participant" means any Participant who, during the relevant period, is treated as a highly compensated employee under Section 414(q) of the Code. For purposes of determining which Employee is a Highly Compensated Participant, the look-back determination shall be made on the basis of the calendar year. The Plan shall comply with the procedures of Treasury Regulation 1.401(k)-1(f) to the extent applicable. For purposes of determining which Employee is a Highly Compensated Participant: (a) Highly Compensated Participant means a Participant who performs Services during the determination year and is described in one or more of the following groups: (1) An Employee who is a five percent (5%) owner, as defined in Section 416(i)(1) of the Code, at any time during the determination year or the look-back year. (2) An Employee who: (a) had compensation from the Employer in excess of $80,000 (indexed as referenced in Section 414(q)(1) of the Code) during the look-back year and (b) if the Employer elects the application of this Subsection 2.25(A)(2) for such look-back year, such Employee was in the "top-paid group" for the look-back year. (b) For purposes of this Section: (1) The determination year is the Plan Year for which the determination of who is a Highly Compensated Participant is being made. (2) The look-back year is the calendar year ending with or within the determination year. (3) The "top-paid group" consists of the top twenty percent (20%) of Employees ranked on the basis of compensation received during the look-back year. For purposes of determining the number of Employees in the top-paid group, Employees described in Section 414(q)(5) of the Code and the Regulations promulgated thereunder are excluded. (4) For purposes of this Section 2.25, the term "compensation" means compensation as defined in Section 414(q)(4) of the Code. (5) Employers aggregated under Section 414(b), (c), (m), or (o) of the Code are treated as a single employer. (6) Highly Compensated Participants include a former Employee who had a separation year prior to the determination year and who was a Highly Compensated Participant for either (A) the determination year in which the Employee separated from Service or (B) any determination year ending on or after the Employee's 55th birthday. With respect to an Employee who separated from Service before January 1, 1987, an Employee will be included as a Highly Compensated Participant only if the Employee was a five percent (5%) owner or received Compensation in excess of $50,000 during (1) the determination year in which the Employee separated from Service (or the year preceding such separation year) or (2) any year ending on or after such Employee's 55th birthday (or the last year ending before such Employee's 55th birthday). 2.26 "Hours of Service" means hours during the applicable Computation Period in which an individual performs Service or is treated as performing Service and, except in the case of military service or as otherwise determined by the Committee, for which the Participant is directly or indirectly entitled to payment. Hours of Service shall be credited for the applicable period in which such Hours of Service accrue in accordance with Labor Department Regulation 29 CFR ss. 2530.200b-2(c), which regulation is incorporated herein by reference; provided that Hours of Service for reasons other than the performance of duties shall be credited in accordance with Labor Department Regulation 29 CFR ss. 2530.200b-2(b), which regulation is incorporated herein by reference. The term "Service" includes performance of duties (or periods which are treated as the performance of duties) for the Employer or for any Affiliated Employer (under rules determined by the Committee, uniformly applicable to all individuals similarly situated and in accordance with the Regulations) for which an individual is entitled to receive credit for "Service", including (i) vacation, (ii) holiday, (iii) absence authorized by the Employer for sickness or incapacity (including disability or leave of absence), (iv) layoff, (v) jury duty, (vi) if and to the extent required by the Military Selective Service Act, as amended or any other federal law, service in the Armed Forces of the United States and (vii) an approved leave of absence granted by the Employer to an individual on or after August 5, 1993 pursuant to the Family Medical Leave Act, but only if such individual returns to work for the Employer at the end of such approved leave. Service also includes periods of time for which back pay, irrespective of mitigation of damages, is awarded or agreed to by the Employer or any Affiliated Employer; provided that such award or agreement is not already credited as Service under either of the preceding two sentences. Service shall also include (i) Service with any entity formed under the laws of a foreign jurisdiction if such entity would have constituted an Affiliated Employer had such entity been formed under the laws of the United States, and (ii) any period of a Participant's prior employment with any other organization upon such terms and conditions as the Committee may approve and subject to any required IRS approval. Notwithstanding the foregoing, (i) Hours of Service credited with respect to an individual's service with BankAmerica Corporation or a related corporation between January 11, 1983 and March 31, 1987 shall be considered Service only if such individual was employed by the Employer prior to November 24, 1993, (ii) Hours of Service credited with respect to an individual's service with BankAmerica Corporation or a related corporation prior to January 11, 1983 shall be considered Service, but only if such individual was employed by the Employer prior to April 1, 1987, (iii) Hours of Service credited with respect to service with Mayer & Schweitzer, Inc. prior to July 1, 1991 shall be considered Service, and (iv) Service shall include service with The Rose Company prior to April 1, 1989, with Performance Technologies, Inc. prior to August 31, 1994, with TrustMark, Inc. prior to July 31, 1995, with Hampton Pension Services, Inc. prior to November 6, 1995, with CyBerCorp., Inc. prior to March 1, 2000, with U.S. Trust Corporation and its affiliates prior to May 31, 2000, with Chicago Investment Analytics, Inc. prior to November 14, 2000, and, in the case of any other companies that become affiliated with the Company, such service as may be determined by the Committee from time to time. 2.27 "IRS" means the United States Internal Revenue Service. 2.28 "Labor Department" means the United States Department of Labor. 2.29 "Matching Contribution" means any Employer contribution, if any, made to the Plan on behalf of a Participant pursuant to Section 4.2(a). 2.30 "Matching Contribution Subaccount" means the account established and maintained on behalf of a Participant pursuant to Section 6.2(b) with respect to the Participant's Matching Contributions. 2.31 "Non-Participating Affiliate" means an Affiliated Employer that is not a Participating Employer. 2.32 "Normal Retirement Date" shall have the meaning set forth in Section 9.1. 2.33 "Participant" means any Employee who has satisfied the eligibility requirements of Section 3 below. 2.34 "Participating Employer" means Charles Schwab & Co., Inc. or any other Affiliated Employer, the board of directors or equivalent governing body of which shall adopt the Plan and Trust Agreement by appropriate action with the written consent of the Board of Directors. By its adoption of this Plan, a Participating Employer shall be deemed to appoint Charles Schwab & Co., Inc., the Committee and the Trustee its exclusive agent to exercise on its behalf all of the power and authority conferred by this Plan upon the Employer. The authority of Charles Schwab & Co., Inc., the Committee and the Trustee to act as such agent shall continue until the Plan is terminated as to the Participating Employer and the relevant Trust Fund assets have been distributed by the Trustee as provided in Section 17 of this Plan. 2.35 "Plan" means this SchwabPlan Retirement Savings and Investment Plan as the same is stated herein and as it may be amended from time to time. 2.36 "Plan Sponsor" means The Charles Schwab Corporation. 2.37 "Plan Year" means the calendar year. 2.38 "Profit Sharing Contribution" means the Employer contribution, if any, made to the Plan on behalf of a Participant pursuant to Section 4.2(b)(ii). 2.39 " Profit Sharing Subaccount " means the account established and maintained on behalf of a Participant pursuant to Section 6.2(c) with respect to the Participant's Profit Sharing Contributions. 2.40 "Purchasing Agent" means the agent designated by the Trustee to enter into certain transactions with respect to Shares hereunder. 2.41 "Qualified Nonelective Contribution" means the Employer contribution, if any, made to the Plan on behalf of a Participant pursuant to Section 4.2(b) (i). 2.42 "Regulations" means the applicable regulations issued under the Code or the Act by the IRS, the Labor Department or any other governmental authority and any temporary rules or releases promulgated by such authorities pending the issuance of such regulations. 2.43 "Restated Effective Date" shall mean January 1, 2001. 2.44 " Retirement Date " means the Participant's Normal or Deferred Retirement Date which has become effective pursuant to Section 9 below. 2.45 "Rollover Subaccount" means the account established and maintained on behalf of a Participant pursuant to Section 6.2(d) with respect to the Participant's Rollover Contributions. 2.46 "Rollover Contribution" means any contribution made by an Employee pursuant to Section 5.6. 2.47 "Salary Reduction Agreement" means an agreement between a Participant and the Employer entered into pursuant to Section 5.1. 2.48 "Shares" means (i) with respect to Plan assets acquired with the proceeds of an Exempt Loan, the common stock issued by The Charles Schwab Corporation or any successor corporation thereto meeting the requirements of both Section 4975(e)(8) of the Code and Section 407(d)(5) of the Act for "qualifying employer securities," and (ii) with respect to Plan assets other than those acquired with the proceeds of an Exempt Loan, stock issued by The Charles Schwab Corporation or any successor corporation thereto, of any type, kind or class meeting the requirements of Section 407(d)(5) of the Act for "qualifying employer securities". All valuations of Shares, where such Shares are not readily tradable on an established securities market and where such valuations relate to activities carried on by the Plan, shall be made by one or more independent appraisers retained by the Committee, who meet the requirements, if any, of the Code and Regulations. To the extent and in the manner required by the Code and Regulations, all independent appraisers, if any, making appraisals pursuant to the foregoing sentence shall be registered with the IRS. 2.49 "Surviving Spouse" means the survivor of a Participant to whom such Participant was legally married on the date of the Participant's death. 2.50 "Suspense Subfund" means the subfund established under Section 7.3. 2.51 " Taxable Compensation " means the W-2 compensation paid to an individual for Service during any period under consideration. 2.52 "Taxable Year" means the calendar year. 2.53 "Total Break in Service" means a period of five or more consecutive Computation Periods in which a Participant incurs a Break in Service, with respect to a Participant who did not have a nonforfeitable right to any portion of his or her Profit Sharing Subaccount or ESOP Account prior to the beginning of the first such Computation Period. 2.54 "Trustee" means the Trustee selected by the Employer to hold the funds contributed by the Employer to provide benefits under the Plan or any successor or substitute. 2.55 " Trust Agreement " means the SchwabPlan Retirement Savings and Investment Plan Trust Agreement, as it may from time to time be amended, and such additional and successor trust agreements as may be executed. 2.56 "Trust Fund" means the funds held by the Trustee from which payments to the Trustee are made to provide benefits under the Plan. 2.57 "Valuation Date" means the last day of each Plan Year or such interim periods as the Committee may designate from time to time. 2.58 "Vested Interest" means the portion of a Participant's Account which has become nonforfeitable pursuant to Section 10.3 below. 2.59 "Year of Service " means a Computation Period during which an individual completed at least 1,000 Hours of Service or satisfied any alternative requirement, as determined by the Committee from time to time in accordance with the Regulations. SECTION 3. PARTICIPATION 3.1 Commencement of Participation. (a) An Employee who is a Participant as of the date immediately preceding the Restated Effective Date shall continue to be a Participant of the Plan as of the Restated Effective Date. (b) An Employee who is not a Participant on the Restated Effective Date and who (A) is in Service on the Restated Effective Date or (B) commences Service on or after the Restated Effective Date shall be eligible to become a Participant of the Plan on the first day of the fourth calendar month following his or her commencement of Service (or, in the case of an Employee whose service commences on the first day of a month, the first day of the third calendar month following his or her commencement of Service), provided that the Employee completes at least one Hour of Service in each such month. (c) An Employee who is eligible to become a Participant, but declines to participate in the Plan, may become a Participant at any time, as soon as administratively feasible following a request to participate. (d) An Employee who satisfies the requirements of Section 3.1(b)(ii) for participation but who terminates Service prior to becoming a Participant in the Plan and subsequently becomes an Employee again prior to incurring a Break in Service will become a Participant in the Plan for all purposes as of the first day on which such individual again becomes an Employee. 3.2 Cessation of Participation. A Participant shall cease to be a Participant upon the earliest to occur of (i) the Participant's retirement on his or her Retirement Date, (ii) the Participant's death or Disability or (iii) the Participant's termination of Service prior to his or her Retirement Date followed by a Break in Service. A Participant who, without any Break in Service, ceases to be an Employee for any reason, shall not cease to be a Participant, provided that, notwithstanding any other provision of the Plan, and except as provided in Section 4.3, no contribution shall be made for the benefit of such Participant, no contributions under the Plan shall be allocated, added or otherwise credited to the Account of such Participant, and no contributions, forfeitures or Shares released from a Suspense Subfund shall be allocated, added or otherwise credited to the Account of such Participant on or after the date on which such Participant ceases to be an Employee and before the first day of the Plan Year coincident with or preceding the date, if any, on which such Participant again resumes Service as an Employee. 3.3 Readmission After Cessation of Participation. A Participant who has incurred a Total Break in Service and subsequently returns to Service shall be treated as a new Employee for all purposes of the Plan. In all other cases, a former Participant who returns to Service following a Break in Service shall again become a Participant as soon as administratively feasible following such former Participant's return to Service, except that if such former Participant is not then an Employee, such former Participant shall again become a Participant as soon as administratively feasible following the first day on which such former Participant again becomes an Employee. 3.4 Waiver of Participation. An individual who has satisfied the requirements for participation set forth in Section 3.1 may permanently waive participation in the Plan, but only if such individual is on temporary transfer of employment to a Participating Employer from a Non-Participating Affiliate. SECTION 4. EMPLOYER CONTRIBUTIONS 4.1 Elective Contributions. The Employer shall, subject to the limitations of Sections 5 and 12, contribute to the Trust Fund for each Plan Year on behalf of all Participants the total amount of Elective Contributions designated to be contributed pursuant to Salary Reduction Agreements under Section 5.1. Such contributions shall be paid in cash by the Employer to the Trustee as soon as practicable, but in no event later than 15 days from the date on which such amounts otherwise would have been payable to the Participant in cash. 4.2 Employer Contributions. (a) Subject to the limitations of Section 12, the Employer shall contribute Matching Contributions to the Trust Fund on behalf of all Participants for whom Elective Contributions have been made equal to a percentage of such Elective Contributions made for each such Participant. The percentage (and, if desired, a maximum dollar amount) of Matching Contributions shall be determined from time to time by the Board of Directors and communicated to the Participants. (b) Subject to the limitations of Section 12, for any Plan Year, the Board of Directors may designate (i) a percentage of the aggregate Compensation of all Participants or a fixed dollar amount to be contributed to the Plan as Qualified Nonelective Contributions on behalf of certain Participants who are not Highly Compensated Participants and may designate (ii) a percentage of the aggregate Compensation of all Participants or a fixed dollar amount to be contributed to the Plan as Profit Sharing Contributions on behalf of all Employees who are or would be Participants but for their election not to make Elective Contributions. (c) Subject to the limitations of Section 12, and the provisions of any applicable loan or contribution agreement, the Employer shall contribute to the Trust Fund for each Plan Year as ESOP Contributions such sum as the Board of Directors may, in its sole discretion, determine, which sum may be zero. All or any part of the contributions made under this Section 4.2(c) may be applied to repay any outstanding Exempt Loan. The Committee may, subject to any pledge or similar agreement, direct or determine the proportions of such contributions which are applied to repay each such Exempt Loan and, with respect to any particular Exempt Loan, the proportion of such contribution to be applied to repay principal and interest on such Exempt Loan. 4.3 Allocation of Matching Contributions, Profit Sharing Contributions and ESOP Contributions. Matching Contributions shall only be allocated to those Participants employed by the Employer on the last day of the Plan Year. Profit Sharing Contributions and ESOP Contributions shall only be allocated to Participants who are members of the Allocation Group for the Plan Year. For purposes of Sections 4 and 7, the term "Allocation Group" means the group consisting of (i) each Participant who is employed by the Employer as of the last day of the Plan Year, and (ii) each Participant whose employment with the Employer terminated during the Plan Year by reason of Disability, death or retirement on or after the Participant's Retirement Date. Profit Sharing Contributions and ESOP Contributions shall be allocated among the Accounts of Participants who are members of the Allocation Group for the Plan Year in the same proportion that a Participant's Compensation during the Plan Year bears to the total Compensation during the Plan Year of all Participants who are members of the Allocation Group for such Plan Year. For purposes of the preceding sentence, Compensation earned by a Participant prior to the Participant's entry into the Plan pursuant to Section 3.1(b)(ii) shall not be taken into account. For purposes of this Section, a Participant who transfers employment during a Plan Year from a Participating Employer to a Non-Participating Affiliate will be considered employed by the Employer as of the last day of the Plan Year, but such Participant's Compensation shall not include amounts paid by the Non-Participating Affiliate. For purposes of becoming entitled to share in Matching Contributions, Profit Sharing Contributions and/or ESOP Contributions pursuant to this Section 4.3, a Participant who becomes entitled to payments pursuant to the Charles Schwab Severance Pay Plan shall not be treated as employed by the Employer on the last day of a Plan Year unless the last day of the Participant's Notice Period (as defined in Section 2(K) of such plan) occurs on or after the last day of the Plan Year. Notwithstanding the foregoing, and subject to compliance with applicable law, including the regulations issued pursuant to Code Section 401(a)(4), at the election of the Board of Directors, a contribution may be made solely on behalf of the employees of one or more Employers, to be allocated in accordance with this section but solely among those Participants who are employees of such Employer[s]. 4.4 Timing of Employer Contributions. (a) Any Profit Sharing Contributions, Qualified Nonelective Contributions and ESOP Contributions shall be deemed made on account of a Taxable Year if (i) the Board of Directors determines the amount of such contribution by appropriate action, (ii) the Employer designates such amount in writing as payment on account of such Taxable Year or (iii) the Employer claims such amount as a deduction on its federal tax return for such Taxable Year. (b) Profit Sharing Contributions, Matching Contributions, and, subject to the provisions of any Exempt Loan, ESOP Contributions for any particular Taxable Year may be paid to the Trustee in installments, but in any event such contributions shall be paid no later than the due date for the Employer's federal income tax return for such Taxable Year. The Employer may, during any Taxable Year, make advance payments toward its contributions for such Taxable Year. Any income, earnings or appreciation earned by any amount contributed by the Employer prior to the end of the Plan Year shall be treated as part of the Profit Sharing Contributions, Matching Contributions, or ESOP Contributions, as the case may be, for such Plan Year. On or about the date of such payment the Committee shall be advised of the amount of such payment upon which its allocation pursuant to Section 4.3 is to be calculated. 4.5 Forfeitures. Forfeitures arising during the Plan Year pursuant to Section 10 shall be used to reduce the amount of Matching Contributions made for such Plan Year pursuant to Section 4.2(a). To the extent the amount of such forfeitures exceeds the amount of Matching Contributions to be made for such Plan Year, such excess shall be reallocated as Profit Sharing Contributions on the last day of the Plan Year in which such forfeiture occurs to all Participants entitled to receive Profit Sharing Contributions, in the same proportion as contributions are allocated pursuant to Section 4.3. Provided, in either case, that forfeitures shall first be used to fund adjustments to Participants' Accounts required to correct operational errors, to the extent directed by the Committee, or to fund any amounts to be recredited to a Participant's Account pursuant to Section 10.5. 4.6 Contribution Percentage Test. (a) Participant's Contribution Percentages must satisfy at least one of the following tests: (1) The Contribution Percentage for the Highly Compensated Participants shall not exceed the Contribution Percentage of all other Participants for the preceding Plan Year multiplied by 1.25; or (2) (A) The excess of the Contribution Percentage for the Highly Compensated Participants over the Contribution Percentage of all other Participants for the preceding Plan Year shall not be more than two percentage points and (B) the Contribution Percentage for Highly Compensated Participants shall not be more than the Contribution Percentage for all other Participants for the preceding Plan Year multiplied by 2. (b) The Employer may elect to apply the foregoing tests by using current Plan Year data rather than utilize data from the preceding Plan Year. If such an election is made, it may not be changed except as provided by Secretary of the Treasury. Notwithstanding the foregoing, for the 1997 Plan Year, the Employer may rely on the transitional relief set forth in Internal Revenue Service Notice 97-2 to use current Plan Year data to apply the foregoing tests. (c) All Matching Contributions and Elective Contributions that are made under two or more plans that are aggregated for purposes of Sections 401(a)(4) and 410(b) of the Code are to be treated as made under a single plan; and if two or more plans are permissively aggregated such plans shall satisfy Sections 401(a)(4) and 410(b) as though they were a single plan in accordance with Section 410(m) of the Code and Section 1.401(m)-1 of the Regulations. (d) For purposes of this Section 4.6, Matching Contributions are taken into account for a Plan Year only if (i) made on account of the Participant's Elective Contributions for the Plan Year, (ii) allocated to the Participant's Account during the Plan Year and (iii) paid to the Trust Fund prior to the end of the twelfth month following the close of the Plan Year. (e) In applying the tests set forth in this Section 4.6, the following rules shall apply: (1) In the case of an Employee who receives no Matching Contributions, the Matching Contributions that are to be included in determining the Participant's Contribution Percentage are zero; (2) The availability of Matching Contributions shall not discriminate in favor of Highly Compensated Participants. (3) The distribution of excess aggregate contributions will include the income allocable thereto and shall be made on the basis of the amount of Matching Contributions (and Elective Contributions, if the Regulations permit and the Committee elects to take into account Elective Contributions when calculating the Contribution Percentage) made on behalf of each such Highly Compensated Participant. The income allocable to the excess aggregate contributions includes income for the Plan Year for which the excess aggregate contributions were made in accordance with Section 1.401(m)-1(e)(3)(ii) of the Regulations. (4) A Participant shall include any Employee who is directly or indirectly eligible to receive an allocation of Matching Contributions and includes (i) an Employee who would be a Participant but for the failure to make required contributions and (ii) a Participant whose right to receive Matching Contributions has been suspended because of an election (other than certain one-time elections) not to participate. (f) For Plan Years commencing after December 31, 1998 for which the Employer uses Section 410(b)(4)(B) of the Code to test minimum coverage compliance, the Employer may exclude from consideration all Participants (other than Highly Compensated Participants) who have not met the minimum age and service requirements of Section 410(a)(1)(A) of the Code in determining whether the tests set forth in Subsection 4.6(a) are met. 4.7 Distribution of Excess Aggregate Contributions. (a) The Committee shall determine as of the end of the Plan Year, and at such other time or times in its discretion, whether one of the Contribution Percentages of Section 4.6 is satisfied for such Plan Year. If neither of the tests set forth in Section 4.6 is satisfied, the Committee shall distribute the excess aggregate contributions in the manner described in this Section 4.7. For purposes of this Section 4.7, "excess aggregate contributions" means, with respect to any Plan Year and with respect to any Participant, the excess of the aggregate amount of (i) Matching Contributions (and any earnings and losses allocable thereto prior to distribution) and (ii) the Elective Contributions (if the Regulations permit and the Committee elects to take into account Elective Contributions when calculating the Participant's Contribution Percentage) of Highly Compensated Participants for such Plan Year, over the maximum amount of such contributions that could be made on behalf of Participants without violating the requirements of Section 4.6. The amount of each Highly Compensated Participant's excess aggregate contributions shall be determined by reducing the Matching Contributions of all Highly Compensated Participants whose Contribution Percentage as adjusted by this Section 4.7 are at the highest percentage rate for the Plan Year on a pro rata basis by one hundredth of one percent (0.01%). The Committee shall continue to utilize this procedure until one of the tests of Section 4.6 is satisfied. (b) If the Committee is required to distribute excess aggregate contributions for any Highly Compensated Participant for a Plan Year in order to satisfy the requirements of Section 4.6, then the Committee shall distribute such excess aggregate contributions with respect to such Highly Compensated Participants to the extent practicable before April 15th of the Plan Year next following the Plan Year for which such excess aggregate contributions were made, but in no event later than the end of the Plan Year following such Plan Year. For each of such Participants, the amounts so distributed shall be made in the following order of priority: (i) by distributing Matching Contributions and earnings thereon, to the extent necessary; and (ii) by distributing Elective Contributions (to the extent such amounts are included in the Contribution Percentage), and earnings thereon. All such distributions shall be made to Highly Compensated Participants on the basis of the respective portions of such amounts attributable to each such Highly Compensated Participant. No spousal consent shall be required of any married Participant who receives a refund of excess aggregate contributions. 4.8 Aggregate Limit for Contribution Percentage and Actual Deferral Percentage. (a) The sum of the Contribution Percentage and the Actual Deferral Percentage for Highly Compensated Participants for the Plan Year shall not exceed the "aggregate limit" defined in this Section 4.8. (b) The term "aggregate limit" means the greater of (1) or (2) below: (1) The sum of (a) the greater of the Actual Deferral Percentage for all Participants other than the Highly Compensated Participants or the Contribution Percentage for all Participants other than the Highly Compensated Participants, for the Plan Year multiplied by 1.25 and (b) the lesser of such Actual Deferral Percentage or Contribution Percentage plus 2, but not greater than 2 multiplied by the lesser of such Actual Deferral Percentage or Contribution Percentage. (2) The sum of (a) the lesser of the Actual Deferral Percentage for all Participants other than the Highly Compensated Participants or the Contribution Percentage for all Participants other than the Highly Compensated Participants, for the Plan Year multiplied by 1.25 and (b) the greater of such Actual Deferral Percentage or Contribution percentage plus 2, but not greater than 2 multiplied by the greater of such Actual Deferral Percentage or Contribution Percentage. (c) If the aggregate limit is exceeded, the Committee shall determine whether to: (i) make Qualified Nonelective Contributions to permit the satisfaction of the test set forth in subsection (a) hereof; (ii) reduce the Contribution Percentage of the Highly Compensated Participants as set forth in Section 4.7; or (iii) reduce the Actual Deferral Percentage of the Highly Compensated Participants as set forth in Section 5.5. SECTION 5. SALARY REDUCTION AGREEMENTS AND ROLLOVER CONTRIBUTIONS 5.1 Salary Reduction Agreements. (a) A Participant may elect to make Elective Contributions in any Plan Year by entering into a Salary Reduction Agreement with the Employer. Each Salary Reduction Agreement shall provide that a portion of the Participant's Compensation shall be paid through payroll deduction to the Trust Fund as an Elective Contribution pursuant to Section 4.1 rather than paid currently to the Participant. The Salary Reduction Agreement shall provide for Elective Contributions equal to any whole percentage between one percent (1%) and fifteen percent (15%) of a Participant's Compensation in any payroll period, not to exceed the limitation set forth in Section 402(g) of the Code (adjusted automatically for increases in accordance with the Regulations). Notwithstanding the foregoing provisions of this Section 5.1, the Committee may, but need not, adopt a procedure to enable Participants to make lump sum Elective Contributions under the Plan through payroll deductions. No Salary Reduction Agreement shall be effective unless the Participant has made an investment direction pursuant to Section 8.3. (b) A Salary Reduction Agreement will be taken into account for any Plan Year only if it relates to Compensation that would have been received by the Participant in the Plan Year (but for the deferral election). (c) In the event that the aggregate amount of Elective Contributions by a Participant exceeds the limitation described in subsection (a) of this Section 5.1, the amount of such excess, increased by any income and decreased by any losses attributable thereto, shall be refunded to the Participant no later than the April 15th of the calendar year following the calendar year for which the Elective Contributions were made. If a Participant also participates, in any calendar year, in any other plans subject to the limitations set forth in Section 402(g) of the Code and has made excess deferrals under this Plan when combined with the other plans subject to such limits, to the extent the Participant designates, in writing submitted to the Committee no later than the March 1 of the calendar year next following the calendar year for which the Elective Contributions were made, any Elective Contributions under this Plan as excess deferrals, the amount of such designated excess, increased by any income and decreased by any losses attributable thereto, shall be refunded to the Participant no later than the April 15 of the calendar year next following the calendar year for which the Elective Contributions were made. 5.2 Change or Suspension of Salary Reduction Agreements. Subject to Section 5.1, a Participant may enter into or change his or her Salary Reduction Agreement at any time, effective as soon as practicable, in accordance with rules determined by the Committee. A Participant may also suspend his or her Salary Reduction Agreement at any time, in accordance with rules determined by the Committee. A Participant who suspends his or her Salary Reduction Agreement in accordance with this Section 5.2 may enter into a new Salary Reduction Agreement at any time, effective as soon as administratively feasible. A Participant's most recent Salary Reduction Agreement shall continue unchanged from year to year unless the Participant notifies the Committee in writing of a change in such Salary Reduction Agreement in accordance with the rules determined by the Committee. 5.3 Actual Deferral Percentage Test. (a) Participants' Elective Contributions must satisfy at least one of the following tests: (1) The Actual Deferral Percentage for the Highly Compensated Participants shall not exceed the Actual Deferral Percentage of all other Participants for the preceding Plan Year multiplied by 1.25; or (2) (A) The excess of the Actual Deferral Percentage for the Highly Compensated Participants over the Actual Deferral Percentage of all other Participants for the preceding Plan Year shall not be more than two percentage points, and (B) the Actual Deferral Percentage for the Highly Compensated Participants shall not be more than the Actual Deferral Percentage for all other Participants for the preceding Plan Year multiplied by 2. (b) The Employer may elect to apply the foregoing tests by using current Plan Year data rather than utilize data from the preceding Plan Year. If such an election is made, it may not be changed except as provided by Secretary of the Treasury. Notwithstanding the foregoing, for the 1997 Plan Year, the Employer may rely on the transitional relief set forth in Internal Revenue Service Notice 97-2 to use current Plan Year data to apply the foregoing tests. (c) All Elective Contributions that are made under two or more plans that are aggregated for purposes of Sections 401(a)(4) and 410(b) of the Code are to be treated as made under a single plan; and if two or more plans are permissively aggregated, such plans shall satisfy Sections 401(a)(4) and 410(b) as though they were a single plan in accordance with Section 410(k) of the Code and Section 1.401(k)-1 of the Regulations. For purposes of calculating the Actual Deferral Percentage of any Highly Compensated Participant all cash or deferred arrangements of the Employer or any Affiliated Employer in which such Highly Compensated Participant participates shall be treated as one cash or deferred arrangement. (d) In applying the tests set forth in this Section 5.3, the following rules shall apply: (1) In the case of a Participant who makes no Elective Contributions, the Elective Contributions that are to be included in determining the Participant's Actual Deferral Percentage are zero; (2) The distribution of excess contributions will include the income allocable thereto and shall be made on the basis of the amount of Elective Contributions on behalf of each such Highly Compensated Participant. The income allocable to the excess contributions includes income for the Plan Year for which the excess contributions were made in accordance with Section 1.401(k)-1(f)(4)(ii) of the Regulations. (e) For Plan Years commencing after December 31, 1998 for which the Employer uses Section 410(b)(4)(B) of the Code to test minimum coverage compliance, the Employer may exclude from consideration all Participants (other than Highly Compensated Participants) who have not met the minimum age and service requirements of Section 410(a)(1)(A) of the Code in determining whether the tests set forth in Subsection 5.3(a) are met. 5.4 Amendment or Revocation of Salary Reduction Agreement by Committee. The Committee shall determine as of the end of the Plan Year, and at such other time or times in its discretion, whether one of the Actual Deferral Percentage tests of Section 5.3 will be satisfied for such Plan Year. In the event that neither of such Actual Deferral Percentage Tests is satisfied, the Committee may amend or revoke the Salary Reduction Agreement of any Participant at any time if it determines that such an amendment or revocation is necessary to ensure that at least one of the Actual Deferral Percentage tests of Section 5.3 will be satisfied for any Plan Year. The determination of whether it is necessary to amend or revoke any Salary Reduction Agreement shall be made pursuant to Section 5.3 and the procedure for such amendment or revocation shall be determined pursuant to Section 5.5(a). 5.5 Distribution of Excess Contributions. (a) If neither of the tests set forth in Section 5.3 are satisfied, the Committee shall in its discretion, to the extent permissible under the Code and the Regulations, refund the excess contributions in the manner described in Section 5.5(b). For purposes of this Section 5.5, "excess contributions" means, with respect to any Plan Year, the excess of the aggregate amount of Elective Contributions (and any earnings and losses allocable thereto prior to distribution) made by Highly Compensated Participants for such Plan Year, over the maximum amount of such Elective Contributions that could be made by such Highly Compensated Participants without violating the requirements of Section 5.3. (b) If required in order to comply with the provisions of Subsection 5.3 and the Code, the Committee shall refund excess contributions for a Plan Year. The distribution of such excess contributions shall be made to Highly Compensated Participants, to the extent practicable, before the March 15th of the Plan Year next following the Plan Year for which such excess contributions were made, but in no event later than the end of the Plan Year next following such Plan Year. Any such distribution shall be made to each Highly Compensated Participant whose Elective Contributions are the highest for the Plan Year, until one of the tests of Section 5.3 is satisfied. Matching Contributions attributable to Elective Contributions returned to a Highly Compensated Participant shall be distributed as provided in Section 4.6. 5.6 Rollover Contributions. (a) A Participant may make a Rollover Contribution to the Plan in accordance with rules established by the Committee uniformly applied consisting of an eligible rollover distribution, as defined in Section 11.8(b), from a plan qualified under Section 401(a) of the Code or an individual retirement account qualified under Section 408(a) of the Code (no part of which is attributable to any source other than an eligible rollover distribution from a qualified plan under Section 401(a) of the Code); provided such eligible rollover distribution is in cash and contributed to the Plan on or before the 60th day after the day in which such Participant received such eligible rollover distribution. If a Participant elects to make a Rollover Contribution, the Committee may require such evidence, assurances, opinions and certifications, including a statement from the previous plan that such plan was a qualified plan, that the Committee may deem necessary to establish to its satisfaction that the amounts to be contributed qualify as an eligible rollover distribution and will not affect the qualification of the Plan or the tax-exempt status of the Trust under Sections 401(a) and 501(a) of the Code, respectively. Except as otherwise permitted by Section 5.7, in no event shall any assets be transferred to this Plan from any profit sharing, pension or retirement plan that would cause this Plan to become a "transferee" plan (within the meaning set forth in Section 401(a)(11)(B) of the Code). (b) Any Rollover Contribution shall be allocated to the appropriate Participant's Rollover Contribution Subaccount which shall be established and separately accounted for. A Participant shall have at all times a nonforfeitable right in the amount credited to his or her Rollover Contribution Subaccount. (c) Each request by a Participant to make a Rollover Contribution shall be subject to review by the Committee which shall make a case by case determination that each Rollover Contribution meets the requirements set forth in Section 5.6(a), and such other requirements or conditions as the Committee may, from time to time and in its sole discretion, impose; provided, however, that any determination made by the Committee pursuant to this Section 5.6 shall not have the effect of discriminating in favor of Participants who are officers, shareholders or who are Highly Compensated Participants. 5.7 Trustee-to-Trustee Transfer of Assets. Notwithstanding anything in Section 5.6 to the contrary, in the event of an acquisition by the Employer or the Plan Sponsor of a company which maintains a plan and trust which are qualified under Sections 401(a) and 501(a) of the Code, respectively, the Board of Directors may (but shall not be required to) authorize a "trustee-to-trustee" transfer of assets from such qualified plan into the Plan and Trust Fund. The Trustee may require such evidence, assurances, opinions and certifications, including a statement from the acquired company's plan that such plan and trust are qualified under Sections 401(a) and 501(a) of the Code, which the Trustee may deem necessary to establish to its satisfaction that the amounts to be transferred will not affect the qualification of the Plan or the tax-exempt status of the Trust under Sections 401(a) and 501(a) of the Code, respectively. SECTION 6. ALLOCATION OF CONTRIBUTIONS 6.1 Establishment of Cash Contribution Account. The Committee shall establish and maintain or cause to be established and maintained with respect to each Participant a Cash Contribution Account showing his or her interest under the Plan and in the Trust Fund and all relevant data pertaining thereto. Each Participant shall be furnished with a written statement of his or her Cash Contribution Account at least once annually and upon any distribution to him or her. In maintaining the Cash Contribution Accounts under the Plan, the Committee can conclusively rely on the valuations of the Trust Fund in accordance with the Plan. The establishment and maintenance of, or allocations and credits to, the Cash Contribution Account of any Participant shall not vest in any Participant any right, title or interest in and to any Plan assets or benefits, except at the time or times and upon the terms and conditions and to the extent expressly set forth in the Plan and in accordance with the terms of the Trust Fund. 6.2 Establishment of Subaccounts. Each Participant's Cash Contribution Account shall contain each of the following applicable subaccounts therein: (a) All Elective Contributions on behalf of a Participant under Section 4.1 and Qualified Nonelective Contributions on behalf of a Participant under Section 4.2(b)(i) shall be credited to the Participant's Elective Contribution Subaccount. (b) All Matching Contributions on behalf of a Participant under Section 4.2(a) shall be allocated and credited to the Participant's Matching Contribution Subaccount. (c) All Profit Sharing Contributions on behalf of a Participant under Section 4.2(b)(ii) shall be allocated and credited to the Participant's Profit Sharing Subaccount. (d) All Rollover Contributions on behalf of a Participant under Section 5.6 shall be allocated and credited to the Participant's Rollover Contribution Subaccount. (e) Any amounts that are transferred from a Participant's ESOP Account pursuant to Section 7.11. SECTION 7. SPECIAL ESOP PROVISIONS 7.1 Investment of ESOP Accounts. The ESOP Accounts of all Participants shall be invested exclusively in Shares, except for cash or cash equivalent investments held (a) for the limited purpose of making Plan distributions to Participants and Beneficiaries, (b) pending the investment by the Purchasing Agent of contributions or other cash receipts in Shares, (c) pending use to repay an Exempt Loan, (d) for purposes of paying, under the terms described in the Plan or Trust Agreement, fees and expenses incurred with respect to the Plan or Trust and not paid for by the Participating Employers or (e) in the form of de minimis cash balances. Neither any Participating Employer nor the Purchasing Agent, the Committee or the Trustee shall have any responsibility or duty to time any transaction involving Shares in order to anticipate market conditions or changes in stock value, nor shall any such person have any responsibility or duty to sell Shares held in the ESOP Accounts (or otherwise to provide investment management for Shares held in the ESOP Accounts) in order to maximize return or minimize loss. Participating Employer contributions made in cash, and other cash received by the Trustee, may be used by the Purchasing Agent to acquire Shares from shareholders of the Employer or directly from the Employer. 7.2 Allocation to ESOP Accounts. (a) Subject to the provisions of Section 4, the ESOP Account maintained for each Participant will be credited as of the last day of each Plan Year with the Participant's allocable share of: (i) Shares purchased using cash contributed by or on behalf of the Participating Employer employing such Participant (and any earnings on any cash contributions made prior to the last day of the Plan Year), (ii) Shares contributed directly to the Trust Fund; (iii)Dividends paid to the Trust Fund during the Plan Year on any Shares that were purchased by the Purchasing Agent or contributed directly to the Trust Fund prior to the last day of the Plan Year; and (iv) Shares released from the Suspense Subfund pursuant to Section 7.3 and allocable to the contribution made by or on behalf of such Participating Employer pursuant to Section 7.4. (b) Shares attributable to ESOP Contributions shall be allocated among the Accounts of Participants who are members of the Allocation Group for the Plan Year in the same proportion that a Participant's Compensation during the Plan Year bears to the total Compensation during the Plan Year of all Participants who are members of the Allocation Group for such Plan Year. For purposes of the preceding sentence, Compensation earned by a Participant prior to the Participant's entry into the Plan pursuant to Section 3.1(b)(ii) shall not be taken into account. (c) Shares contributed directly to the Trust Fund for a Plan Year shall be allocated under Section 7.2(a)(i) in the same proportion as Shares purchased by the Trust Fund and allocated under Section 7.2(b). 7.3 Suspense Subfund for ESOP Accounts. Shares acquired by the Participants' ESOP Accounts through an Exempt Loan shall be added to and maintained in the Suspense Subfund and shall thereafter be released from the Suspense Subfund and allocated to Participants' ESOP Accounts as provided in Sections 7.3 and 7.4. Shares acquired for the Trust Fund with the proceeds of an Exempt Loan shall be released from the Suspense Subfund as the Exempt Loan is repaid, in accordance with the provisions of this Section 7.3. (a) For each Plan Year until the Exempt Loan is fully repaid, the number of Shares released from the Suspense Subfund shall equal the number of unreleased Shares immediately before such release for the current Plan Year multiplied by the "Release Fraction." As used herein, the term "Release Fraction" shall mean a fraction, the numerator of which is the amount of principal and interest paid on the Exempt Loan for such current Plan Year and the denominator of which is the sum of the numerator plus the principal and interest to be paid on such Exempt Loan for all future years during the term of such Exempt Loan (determined without reference to any possible extensions or renewals thereof). For purposes of computing the denominator of the Release Fraction, if the interest rate on the Exempt Loan is variable, the interest to be paid in subsequent Plan Years shall be calculated by assuming that the interest rate in effect as of the end of the applicable Plan Year will be the interest rate in effect for the remainder of the term of the Exempt Loan. Notwithstanding the foregoing, in the event such Exempt Loan shall be repaid with the proceeds of a subsequent Exempt Loan (the "Substitute Loan"), such repayment shall not operate to release all such Shares in the Suspense Subfund, but, rather, such release shall be effected pursuant to the foregoing provisions of this Section 7.3(a) on the basis of payments of principal and interest on such Substitute Loan. (b) If required by any pledge or similar agreement, or if permitted by such pledge or agreement and required by the Committee pursuant to a one-time, irrevocable designation (which shall be made, if at all, in connection with the making of an Exempt Loan) by the Committee, then, in lieu of applying the provisions of Section 7.3(a) hereof with respect to an Exempt Loan, Shares shall be released from the Suspense Subfund as the principal amount of such Exempt Loan is repaid (without regard to interest payments), provided the following three conditions are satisfied: (i) The Exempt Loan shall provide for annual payments of principal and interest at a cumulative rate that is not less rapid at any time than level annual payments of such amounts for ten years; (ii) The interest portion of any payment shall be disregarded only to the extent it would be treated as interest under standard loan amortization tables; and (iii)If the Exempt Loan is renewed, extended or refinanced, the sum of the expired duration of the Exempt Loan and the renewal, extension or new Exempt Loan period shall not exceed ten years. (c) If at any time there is more than one Exempt Loan outstanding, then separate accounts may be established under the Suspense Subfund for each such Exempt Loan. Each Exempt Loan for which a separate account is maintained may be treated separately for purposes of the provisions governing the release of Shares from the Suspense Subfund under this Section 7.3 (including for purposes of determining whether Section 7.3(a) or Section 7.3(b) governs the release of Shares from any particular Suspense Subfund) and for purposes of the provisions governing the application of Participating Employer contributions to repay an Exempt Loan under Section 4.2. (d) All Shares released from the Suspense Subfund during any Plan Year shall be allocated among Participants as prescribed by Section 7.4. 7.4 Disposition of Shares Released from Suspense Subfund. (a) Shares released from the Suspense Subfund for a Plan Year in accordance with Section 7.3 shall be held in the Trust Fund on an unallocated basis until allocated by the Committee as of last day of the Plan Year. Shares released from the Suspense Subfund on account of a payment for a Plan Year of principal or interest on an Exempt Loan, to the extent payment is made with contributions for such Plan Year, shall be allocated under Section 7.2(a)(ii) in the same proportion as Shares purchased with contributions under Section 7.2(b). (b) (i) Shares released from the Suspense Subfund on account of the payment for a Plan Year of principal or interest on an Exempt Loan to the extent such payment is made with dividends paid on Shares allocated to ESOP Accounts, shall be allocated in the same proportion as dividends used to pay principal or interest on such Exempt Loan would have been allocated under Section 7.9(b) had such dividends not been so used; and (ii) Subject to Section 4.2, Shares released from the Suspense Subfund on account of the payment of principal or interest on an Exempt Loan, to the extent such payment is made with dividends on Shares not allocated to Accounts, shall be allocated to those ESOP Accounts and in the same proportion as Shares released pursuant to Section 7.4(b)(i); provided that Shares so released shall be otherwise allocated if necessary to satisfy the requirements of the Code (other than Section 404(k)) and any Regulations thereunder. (c) All Shares in the Trust Fund, other than the Shares held in the Suspense Subfund as of the last day of any Plan Year, must be allocated to ESOP Accounts as of the last day of any Plan Year. 7.5 Limitations on Allocations to ESOP Accounts. Notwithstanding the foregoing provisions of this Section 7: (a) If more than one-third of all ESOP Contributions for a Plan Year which are deductible only under Section 404(a)(9) of the Code would be allocated, in the aggregate, to Participants described in Section 414(q) of the Code, then the Committee may reduce such allocations pro rata in an amount sufficient to ensure that such ESOP Contributions will be deductible with respect to such Plan Year; and (b) Any contributions which are prevented from being allocated due to the restriction contained in Section 7.5(a) shall be allocated as of the last day of the Plan Year pursuant to Sections 7.2 and 7.4 as though those Participants described in Section 414(q) of the Code did not participate in the Plan. 7.6 Acquisition of Shares. (a) Notwithstanding the foregoing provisions of this Section 7, in the event that Shares are acquired in a transaction to which Section 1042 of the Code applies, then, in accordance with the Regulations, such Shares shall not be allocated, directly or indirectly, to prohibited individuals as defined in Section 409(n)(1) of the Code for the duration of the nonallocation period (as defined in Section 409(n)(3)(C) of the Code). (b) If Shares are prevented from being allocated due to the prohibition contained in Section 7.6(a), the allocation of Shares attributable to ESOP Contributions (or ESOP Contributions) otherwise provided under Section 7.2 shall be adjusted to reflect such result. 7.7 Effect of Change in Plan Sponsor's Capitalization. Any Shares received by the Trustee as a result of a stock split, dividend, conversion, or as a result of a reorganization or other recapitalization of the Plan Sponsor shall be allocated as of the day on which the Shares are received by the Trustee in the same manner as the Shares to which they are attributable are then allocated. 7.8 Trustee and Committee Discretion to Engage in Transactions in Shares. Neither the Purchasing Agent, the Trustee nor the Committee shall be required to engage in any transaction, including, without limitation, directing the purchase or sale of Shares, which it determines in its sole discretion may subject itself, its Participants, the Plan, any Participating Employer, or any Participant to liability under federal or other state laws. 7.9 Valuation of ESOP Accounts. (a) Subject to the requirements of Section 7.9(b), the fair market value of the assets of the ESOP Accounts shall be determined as of each Valuation Date, in accordance with generally accepted valuation methods and practices including, but not limited to, in the case of Shares, the use of one or more independent appraisers. (b) The value of a Participant's ESOP Account as of any Valuation Date shall equal the sum of: (i) The aggregate value (as determined under Section 7.9(a)) of all Shares and dividends on Shares previously allocated to such Participant's ESOP Account as of such Valuation Date; and (ii) Subject to Section 7.9(c), the aggregate value ( as determined under Section 7.10(a)) of dividends, if any, received during the Plan Year on Shares allocated to such Participant's ESOP Account. (iii)Such Participant's allocable portion ( determined in accordance with the rules set forth in Section 7.4 for determining Participant's allocable portion of Shares released from the Suspense Subfund) of the earnings, if any, on all amounts contributed to the Trust Fund for purposes other than the repayment of an Exempt Loan. (c) Except as provided in Section 7.7, dividends payable, if any, with respect to Shares held by the Participant's ESOP Account will be, in the discretion of the Committee and in conformity with the terms of the Shares on which such dividends are paid, (i) used for the purpose of repaying one or more Exempt Loans, (ii) distributed from the Trust Fund to Participants or their Beneficiaries not later than 90 days after the close of the Plan Year in which they are paid to the Trust Fund, (iii) paid directly to such Participants or their Beneficiaries, (iv) retained in the Trust Fund and allocated pursuant to Section 7.9(b), or (v) paid or utilized in a combination of any or all of the foregoing four options. (d) The Committee shall establish accounting procedures for the purpose of making the allocations, valuations and adjustments to Participant's ESOP Accounts in accordance with the provisions of the Plan. From time to time, the Committee may modify its accounting procedures for the purpose of achieving equitable and nondiscriminatory allocations among the ESOP Accounts of Participants in accordance with the provisions of the Plan. 7.10 Role of Purchasing Agent. (a) All purchases of Shares made by the Trust Fund shall be made by the Purchasing Agent. The Trustee shall forward to the Purchasing Agent all amounts contributed to the employee stock ownership plan, and all amounts to be invested in Shares pursuant to participant investment directions given pursuant to Sections 8.3, 8.4 and 8.5. Amounts to be invested in Shares shall be invested in Shares in the amount, in the manner and at the price determined by the Purchasing Agent in its sole discretion, provided such price shall be the fair market value of such Shares at the time of purchase. The Purchasing Agent shall in its sole discretion select the broker-dealer through which the purchase of such Shares shall be executed. The Purchasing Agent shall also invest any cash dividends received on any Shares which are allocated to Participants' Accounts and held as part of the Plan as provided in Section 5.05(c) of the Trust Agreement. (b) The Purchasing Agent shall sell Shares only at the direction of the Trustee, which shall issue such instructions only at the direction of the Committee; provided that such Committee direction shall not be required for any of the following purposes: (i) any sales of Shares required pursuant to the participant investment directions given pursuant to Sections 8.3, 8.4 or 8.5; (ii) any sales of Shares required pursuant to the provisions of Section 13.5 or 13.6; (iii) any sales of Shares required to fund a participant loan or a distribution to a Participant; or (iv) any sales of Shares required to maintain the levels of investment of Shares and cash specified by the Committee for the Company Stock Fund. 7.11 ESOP Contributions. Notwithstanding anything to the contrary contained in the Plan, no ESOP contributions shall be made to the Plan for Plan Years beginning after December 31, 2000. Effective as of January 1, 2001, all Exempt Loans shall be fully paid off, and all Shares attributable to such Exempt Loans shall be allocated among Plan Participants in accordance with the provisions of this Section 7, and, effective as of April 1, 2001, all Participants' ESOP accounts shall be transferred to such Participants' Cash Contribution Accounts. The provisions of this Section 7 shall apply in the event any future Exempt Loans are approved by the Board of Directors. SECTION 8. INVESTMENT OF CONTRIBUTIONS, VALUATIONS AND PARTICIPANTS' CASH CONTRIBUTION ACCOUNTS 8.1 Delivery of Contributions to Trust Fund. All monies, securities or other property contributed to Participants' Cash Contribution Accounts shall be delivered to the Trustee under the Trust Fund, to be managed, invested, reinvested and distributed in accordance with the Plan and the Trust Fund. 8.2 Participants' Right to Select Investments. Each Participant shall have the right to invest his or her Cash Contribution Account among one or more investment funds selected by the Company, which may include a fund established for investment in Shares. 8.3 Participant Investment Election. As of any date permitted by the Committee, a Participant may, in accordance with the rules of the Committee uniformly applied, specify the percentage (in minimum multiples as may be determined from time to time by the Committee) of contributions which are made to the Participant's Cash Contribution Account that shall be invested in investment funds selected by the Committee. An investment election may be made separately with respect to (i) the aggregate of the Participant's Elective Contribution Subaccount, Matching Contribution Subaccount, and Rollover Contribution Subaccount and (ii) the Participant's Profit Sharing Subaccount. 8.4 Change in Investment Election for Future Contributions. Any investment direction specified by a Participant shall be deemed to be a continuing direction until changed. A Participant may change an investment direction as to future contributions made by such Participant or on his or her behalf to the subaccounts of his or her Cash Contribution Account as of any day permitted by the Committee in accordance with the rules of the Committee uniformly applied. 8.5 Change in Investment Election for Prior Contributions. As of any date permitted by the Committee, a Participant (or a former Participant whose Account has not been distributed from the Plan) may change the percentages (in minimum multiples as may be determined from time to time by the Committee) in which the investment of the portion of his or her Cash Contribution Account attributable to prior contributions shall be allocated among the funds maintained by the Trustee. 8.6 Valuation of Cash Contribution Accounts. (a) As of each Valuation Date, Participants' Cash Contribution Accounts shall be valued pursuant to the terms of the Plan. Such valuation shall be conclusive and binding upon all persons having an interest in the Trust Fund. (b) The Committee shall adjust the value of each Elective Contribution Subaccount, Matching Contribution Subaccount, Profit Sharing Subaccount, or Rollover Contribution Subaccount, as the case may be, maintained under Participants' Cash Contribution Accounts as of each Valuation Date to reflect the effect of income received and accrued, realized and unrealized profits and losses, and all other transactions of the preceding period. Such adjustments shall be made with respect to the period since the next preceding Valuation Date by (i) deducting from each such Subaccount the total of all payments made from such Subaccount during such period, (ii) adding to or deducting from, as the case may be, each such Subaccount such proportion of each item of income, profit or loss as the amount in such Subaccount as of the next preceding Valuation Date bears to the total of the amounts in all of such Participants' Elective Contribution Subaccount, Matching Contribution Subaccount, Profit Sharing Subaccount, or Rollover Contribution Subaccount, as the case may be, as of the preceding Valuation Date and (iii) adding contributions to each such Elective Contribution Subaccount, Matching Contribution Subaccount, Profit Sharing Subaccount, or Rollover Contribution Subaccount, as the case may be, pursuant to Sections 4 and 5 of the Plan. In making such allocations, the Committee can conclusively rely on the valuations of the Subaccounts by the Trustee in accordance with the Plan and the Trust. SECTION 9. RETIREMENT DATES 9.1 Normal Retirement Date. The Normal Retirement Date of a Participant shall be his or her 65th birthday or, if earlier, the date on which the Participant has attained age fifty (50) and completed seven (7) Years of Service. Upon attainment of his or her Normal Retirement Date, a Participant shall have a nonforfeitable right to 100% of his or her Account. 9.2 Deferred Retirement Date. A Participant who remains in Service after his or her Normal Retirement Date may retire on a Deferred Retirement Date which shall be the first day of the month coincident with or next following his or her termination of Service or as specified in a written application to the Committee. SECTION 10. ELIGIBILITY FOR PAYMENT OF ACCOUNTS AND VESTED INTERESTS 10.1 Participants' Right to Account Upon Termination Due to Retirement, Death or Disability. (a) A Participant shall have a nonforfeitable right to his or her Account upon the occurrence of any of the following events while employed by the Employer: (i) attainment of his or her Retirement Date; (ii) his or her death; or (iii)his or her Disability. (b) Upon the termination of Service of any Participant on or after his or her Retirement Date or by reason of his or her death or Disability ("Terminated Participant"), the Terminated Participant (or, in the event of the Participant's death, his or her Beneficiary) shall be entitled to an amount equal to the Terminated Participant's Account, including any subsequent contribution allocated to the Terminated Participant's Account pursuant to Sections 6 or 7 with respect to the Plan Year in which the Participant's Service is terminated. The Participant's Account shall be distributable, in accordance with the methods and rules of distribution described in Section 11, as soon as practicable following the Participant's termination of Service. The value of the Participant's Account shall be determined as of the Valuation Date coincident with or immediately preceding the date of distribution of the Participant's Account. 10.2 Participants' Right to Account Upon Other Termination of Service. Upon the termination of Service of any Participant prior to his or her Retirement Date for any reason other than death or Disability, the Terminated Participant shall be entitled to receive an amount equal to the sum of (i) 100% of the Participant's Elective Contribution Subaccount, Matching Contribution Subaccount, and Rollover Contribution Subaccount and (ii) the Participant's Vested Interest in his or her Profit Sharing Subaccount and ESOP Account, including the Participant's Vested Interest in any subsequent contribution allocated to the Participant's Account pursuant to Sections 6 or 7 with respect to the Plan Year in which the Participant's Service terminated. The Participant's Account shall be distributable, in accordance with the methods and rules of distribution described in Section 11, as soon as practicable following the Valuation Date immediately following the Participant's termination of Service. The value of the Participant's Account shall be determined as of the Valuation Date coincident with or immediately preceding the date of distribution of the Participant's Account. If such Terminated Participant's Vested Interest is less than 100 percent, the non-vested balance of such Participant's Profit Sharing Subaccount and ESOP Account shall be forfeited and reallocated pursuant to Section 4.5 as of the last day of the earlier of (i) the Plan Year in which the Participant's Account is distributed, or (ii) the Plan Year in which the Participant incurs a Total Break in Service. 10.3 Vesting Schedule for Determining Vested Interests. For all purposes of this Plan, a Participant's Vested Interest in his or her Profit Sharing Subaccount and ESOP Account shall consist of (i) the Participant's percentage of his or her Profit Sharing Subaccount and (ii) the percentage of the Participant's ESOP Account, both as determined from the following vesting schedule on the basis of the number of Years of Service which the Participant has completed as of the date of the Participant's termination of Service. VESTING SCHEDULE Years of Service Percentage Less than two years 0% Two years but less than three years 25% Three years but less than four years 50% Four years or more 100% 10.4 Breaks in Service. If a Participant's Service is terminated prior to his or her Retirement Date for any reason other than the Participant's death or Disability prior to completing three Years of Service, and such Participant incurs a Total Break in Service, such Participant shall not be entitled to any benefit attributable to amounts allocated to the Participant's Profit Sharing Subaccount or ESOP Account prior to such Total Break in Service. If a Participant returns to Service, Years of Service before such return shall be counted, in addition to Years of Service following such return, in determining the Participant's Vested Interest in the amount credited to the Participant's Profit Sharing Subaccount or ESOP Account subsequent to the Participant's return to Service. If such Participant does not complete one Year of Service following his or her return, then the Participant shall not be entitled to any further benefit under the Plan and the non-vested balance of any Profit Sharing Contribution or ESOP Contributions credited or recredited to such Participant's Profit Sharing Subaccount or ESOP Account subsequent to the Participant's return shall be forfeited and reallocated pursuant to Section 4.5 upon the Participant's termination of Service. All forfeitures shall occur in conformity with the ordering rules of Section 54.4975-11(d) of the Regulations. 10.5 Participant's Right to Restoration of Account Upon Return to Service. If a Terminated Participant who had a vested interest in such Participant's Profit Sharing Subaccount or ESOP Account returns to Service prior to incurring a Total Break in Service, the non-vested balance of the Terminated Participant's Account, if any, forfeited pursuant to Section 10.2 shall be recredited to such Participant's Account, provided that, not later than the fifth anniversary of the first date on which the Participant is subsequently employed, such Participant repays the full amount of any distribution made to the Participant upon his or her prior termination of Service. Any amount so repaid, together with any non-vested portion of such Participant's Account recredited pursuant to this Section 10.5, shall be invested in the Trust Fund. If such Participant fails to make a repayment of any distributed amounts pursuant to this Section 10.5, the non-vested portion of such Participant's Account, if any, shall not be recredited. 10.6 Participant's Right to Account Upon Death After Termination of Service. Subject to the provisions of Section 10, if a Terminated Participant dies before payment of the full value of his or her Account from the Trust Fund, an amount equal to the current value of the unpaid portion of the Participant's Vested Interest in his or her Account, including any subsequent contribution allocated to the Terminated Participant's Account pursuant to Sections 6 or 7 with respect to the Plan Year in which the Participant's Service is terminated, shall be distributable, in accordance with the methods and rules of distribution described in Section 11, as soon as practicable following the Participant's death. The value of the Participant's Account shall be determined as of the Valuation Date coincident with or immediately preceding the date of distribution of the Participant's Account. 10.7 Amendment of Vesting Schedule. If the vesting schedule contained in Section 10.3 is amended, each Participant who has completed at least three (3) Years of Service may elect, during the election period specified in this Section, to have his or her vested percentage determined without regard to such amendment. For purposes of this Section, the election period shall begin as of the date on which the amendment changing the vesting schedule is adopted, and shall end on the latest of the following dates: (i) the date occurring sixty (60) days after the Plan amendment is adopted; (ii) the date which is sixty (60) days after the day on which the Plan amendment becomes effective; (iii) the date which is sixty (60) days after the day the Participant is issued written notice of the Plan amendment by the Committee; or (iv) such later date as may be specified by the Committee. The election provided for in this Section shall be made in writing and shall be irrevocable when made. 10.8 Distribution Following Attainment of Age 59-1/2 to Former Participants of The Hampton Pension Services, Inc. 401(k) Retirement Savings Plan. A Participant who was employed by Hampton Pension Services, Inc. on November 6, 1995 shall be entitled to receive, at any time following the date such Participant attains age 59-1/2, a distribution of all or any portion of the Participant's Account, to the extent attributable to any amounts that were transferred to the Plan from such Participant's former account in The Hampton Pension Services, Inc. 401(k) Retirement Savings Plan. 10.9 Transfer to Non-Participating Affiliate. For purposes of applying the provisions of this Section 10, a Participant whose employment has transferred from the Employer to a Non-Participating Affiliate will not be treated as having terminated employment. SECTION 11. METHOD OF PAYMENT OF ACCOUNTS AND WITHDRAWALS 11.1 Methods of Payment. Any benefit payable under the Plan, except as otherwise provided in Section 11.2 shall be payable as soon as practicable following the last day of the calendar month in which falls a Participant's termination of Service (or other event requiring a distribution under the Plan), in one lump sum payment from the Trust Fund, provided that the Participant may elect to direct the Committee to directly transfer all or any portion of his or her "eligible rollover distribution" (as defined in Section 11.8 below) to another tax-qualified plan pursuant to Section 401(a)(31) of the Code. A Participant who has no Vested Interest in his or her Account upon his or her termination of Service will be deemed to have received a full distribution of his or her Account as of such date. A Participant who elects not to receive a distribution at the time set forth in the first sentence may receive a distribution at any time thereafter upon reasonable notice to the Plan. Subject to the provisions of Section 11.3 with respect to the distribution of Shares, any distribution hereunder shall be made in cash; provided, however, that pursuant to procedures adopted from time to time by the Committee, a Participant may elect to receive a distribution in the form of shares of the assets in which such Participant's Account was invested immediately prior to the distribution, but only if such distribution is made directly to a rollover IRA established with the Employer as custodian. 11.2 Commencement of Payment. Notwithstanding any other provision of the Plan to the contrary, (i) if a Participant has a Vested Interest in his or her Account with a value of $5,000 or less, it shall be distributed in one lump sum as soon as is administratively feasible following the last day of the calendar month in which such Participant's termination of employment occurs, and (ii) if a Participant has a Vested Interest in his or her Account with a value of more than $5,000, it shall not commence to be distributed without the consent of the Participant before the Participant's Normal Retirement Date. In the absence of receipt of such consent by the Committee, payment of the benefit to such Participant shall commence as soon as practicable after the Participant's attainment of his or her Normal Retirement Date, which benefit shall be in an amount equal to the value of the Participant's distributable Account as of the Valuation Date coincident with or immediately following the Participant's attainment of his or her Normal Retirement Date. In any case where distribution of any benefit amount from the Participant's Cash Contribution Account is to be deferred, the Committee shall either (i) establish or cause to be established a special account for the benefit of the former Participant, to be invested by the Trustee in a fixed investment account established by the Trustee or (ii) cause all amounts in the Participant's Cash Contribution Account deferred by the Participant to be invested at the Participant's election in the same manner as the normal Cash Contribution Accounts maintained for Participants under to the Plan. 11.3 Special Rules For Distribution of Shares. (a) A Participant may elect to receive a distribution of the Participant's Vested Interest from his or her account entirely in whole Shares, with the value of any fractional interest in Shares paid in cash. Any cash or other property in a Participant's Account for which a distribution in Shares is elected will be used by the Purchasing Agent to acquire Shares, valued as of the last day of the calendar month in which occurs (i) the Participant's election to receive a distribution of his or her Account pursuant to Section 11.1, (ii) the Participant's termination of Service, in the case of a distribution pursuant to Section 11.2(i), or (iii) the Participant's Normal Retirement Date (or the Participant's death, if earlier), in the case of a distribution pursuant to Section 11.2(ii) to a Participant who failed to consent to a distribution prior to his or her Normal Retirement Date (the "Share Conversion Date"). Notwithstanding the foregoing, if applicable corporate charter or bylaw provisions restrict ownership of substantially all outstanding Shares to Employees or to a plan or trust described in Section 401(a) of the Code, then any distribution of a Participant's Vested Interest in the Participant's ESOP Account shall be in cash. When a distribution consists in whole or in part of Shares, and if such Shares consists of more than one class of securities, the distribution of such Shares shall consist of substantially the same proportion of each such class of Shares as such classes of Shares represent proportions of the Participant's Account. If the record date for dividends payable with respect to Shares distributable to a Participant occurs following the Share Conversion Date, such dividends shall not be considered attributable to such Shares, but shall be considered as earnings of the Fund and allocated among Participants' Accounts pursuant to Section 8.6(b). (b) Notwithstanding anything in Section 11 to the contrary, in the discretion of the Committee, Section 11.1 may not apply to Shares held in a Participant's ESOP Account until the close of the Plan Year in which any Exempt Loan used to acquire such Shares is repaid in full. (c) If at the time of distribution, Shares distributed from the Trust Fund that were acquired with the proceeds of an Exempt Loan are not treated as "readily tradable on an established market" within the meaning of Section 409(h) of the Code and Regulations, such Shares shall be subject to a put option in the hands of a Qualified Holder by which such Qualified Holder may sell all or any part of such Shares to the Trust. Should the Trust decline to purchase all or any part of such Shares, the Employer shall purchase those Shares that the Trust declines to purchase. The put option shall be subject to the following conditions: (i) The term "Qualified Holder" shall mean the Participant or Beneficiary receiving the distribution of such Shares, any other party to whom the Shares are transferred by gift or reason of death, or any trustee of an individual retirement account (as defined under Code Section 408) to which all or any portion of the distributed Shares is transferred pursuant to a tax-free "rollover" transaction satisfying the requirements of Sections 402 and 408 of the Code. (ii) During the 60-day period following any distribution of such Shares, a Qualified Holder shall have the right to require the Trust or the Employer to purchase all or a portion of the distributed Shares held by the Qualified Holder. The purchase price to be paid for any such Shares shall be their fair market value determined as of the Valuation Date coinciding with or immediately preceding the exercise of the put option under this Section 11.3(c)(ii), provided that in the case of a transaction between the Plan and a "disqualified person" within the meaning of Section 4975(e)(2) of the Code, such fair market value shall be determined as of the date of the transaction. (iii) If a Qualified Holder shall fail to exercise such put option, the put option shall temporarily lapse upon the expiration of the 60-day period. As soon as practicable following the last day of the Plan Year in which the 60-day option period expires, the Employer shall notify the non-electing Qualified Holder (if he or she is then a shareholder of record) of the valuation of the Shares as of that date. During the 60-day period immediately following receipt of such valuation notice, the Qualified Holder shall again have the right to require the Employer to purchase all or any portion of the distributed Shares. The purchase price to be paid therefor shall be based on the valuation of the Shares as of the Valuation Date coinciding with or immediately preceding the exercise of the option under this Section 11.3(c)(iii), provided that in the case of a transaction between the Plan and a "disqualified person" within the meaning of Section 4975(e)(2) of the Code, such fair market value shall be determined as of the date of the transaction. (iv) The foregoing put options under Section 11.3(c)(ii) and (iii) hereof shall be effective solely against the Employer and shall not obligate the Plan or Trust in any manner. (v) Except as otherwise required or permitted by the Code, the put options under this Section 11.3(c) shall satisfy the requirements of Section 54.4975-7(b) of the Treasury Regulations to the extent, if any, that such requirements apply to such put options. If a Qualified Holder exercises a put option under this Section 11.3(c), payment for the Shares shall be made in substantially equal annual payments over a period beginning not later than 30 days after the exercise of the put option and not exceeding five years (provided that adequate security and reasonable interest are provided with respect to unpaid amounts). Except as provided in this Section 11.3(c) or in Section 11.2, no shares acquired with the proceeds of an Exempt Loan may be subject to a put, call or other option, or buy-sell or similar arrangement while held by or distributed from the Plan. The rights and protections set forth in this Section 11.3(c) shall be non-terminable. 11.4 Payments to Surviving Spouse or Beneficiary. If a Participant or former Participant dies before the commencement of his or her benefits under the Plan, such Participant's or former Participant's Vested Interest in his or her Account is payable in full to his or her Surviving Spouse. If such Participant has no Surviving Spouse, he or she may designate a Beneficiary pursuant to Section 14. A Participant may with the written consent of his or her spouse elect to designate a Beneficiary other than or in addition to his or her spouse. The written consent of the spouse must acknowledge the effect of such election and must be witnessed by a representative of the Plan or a notary public. Any such election may not be changed without spousal consent. Such an election or revocation must be made in accordance with the procedures developed by the Committee in accordance with the Code and Regulations. 11.5 Latest Date for Commencement of Benefits. (a) Payments will commence no later than 60 days following the latest of the close of the Plan Year in which: (i) the Participant attains his or her Normal Retirement Date, (ii) occurs the 10th anniversary of the year in which the Participant commenced participation in the Plan, or (iii)the Participant terminates his or her Service with the Employer. (b) Notwithstanding the provisions of the foregoing sentence, if the amount payable cannot be ascertained, or, subject to the provisions of Section 20.6, the Participant cannot be located after reasonable efforts, a payment retroactive to the date determined under the foregoing sentence may be made not later than 60 days after the earliest date on which the amount of such payment can be ascertained under the Plan or the date on which the Participant is located (whichever is applicable). (c) Notwithstanding any other provision of the Plan, benefits payable to a Participant who is a five percent (5%) owner, as defined in Section 416 of the Code with respect to the Plan Year ending in the calendar year in which the Participant attains age 70 1/2, shall commence no later than April 1st of the calendar year following the calendar year in which such Participant attains age 70 1/2. Commencing July 1, 1997, to the extent permitted by the Code and Regulations, Participants who are not five percent (5%) owners may elect to commence distribution of their benefits on April 1st of the calendar year following the later of the calendar year in which such Participant attains age 70 1/2 or the calendar year following the calendar year in which such Participant retires. (d) If a Participant dies before benefits have commenced, distributions to any Surviving Spouse or Beneficiary shall be made as soon as administratively feasible, but not later than five years after such Participant's death. In the event that payment is made to the Participant's Surviving Spouse, such distribution shall not commence later than the date on which such Participant would have had to commence distributions under Section 401(a)(9) of the Code (or, in either case, on any later date prescribed by Regulations). If the Participant's Surviving Spouse dies after such Participant's death but before distribution has been made to such Surviving Spouse, the Section 11.5(d) shall be applied to require payment of any benefits as if such Surviving Spouse were the Participant. (e) Pursuant to Regulations, any benefit paid to a child shall be treated as if paid to a Participant's Surviving Spouse if such amount would become payable to such Surviving Spouse on the child's attaining majority, or other designated event permitted by Regulations. 11.6 Redirection of Investment of ESOP Account. (a) Upon both attaining age 50 and completing five Years of Service, a Participant shall be permitted to direct the Plan to transfer all or any portion of the Vested Interest in the Participant's ESOP Account to the Participant's Cash Contribution Account. (b) In addition, effective as of May 1, 1999, upon completing the number of Years of Service indicated in the table below, a Participant shall be permitted to direct the Plan to transfer the percentage indicated below of the Vested Interest in the Participant's ESOP Account to the Participant's Cash Contribution Account. Years of Service Percentage 5 50 10 75 15 100 (c) Any directions pursuant to this Section 11.6 shall be made pursuant to rules prescribed by the Committee, and shall be effective as soon as administratively feasible, but not later than 30 days from the date on which such direction is given. Any directions given pursuant to subsection (b) hereof may be given not more than once per Plan Year. For purposes of this Section 11.6, the number of the Participant's Years of Service shall be determined without regard to Hours of Service, and shall be based on periods of continuous service from the date the Participant commenced employment with the Company. (d) In the event that the Participant's Account does not provide at least three investment options to the Participant other than investment in Shares, the Committee shall provide diversification options to any Participant required to be given such diversification options under Section 401(a)(28)(B) of the Code in a manner consistent with the Code. Notwithstanding the foregoing, the ability to make transfers may be restricted by the Committee to the extent necessary to comply with any applicable federal securities laws (including Rule 144); provided, however, that in no event shall a Participant be prevented from transferring any amount necessary in order to meet the diversification requirements set forth in Section 401(a)(28)(B) of the Code. (e) In addition, effective as of April 1, 2001, the ESOP Accounts of all Participants shall be transferred to the Participant's Cash Contribution Account. Thereafter, Participants may direct the investment of the prior ESOP Account balances in the same manner as the remainder of the Participant's Cash Contribution Account. 11.7 Hardship Withdrawals. (a) A Participant (other than a Terminated Participant) may elect to withdraw all or any portion of the Vested Interest in his or her Cash Contribution Account attributable to Elective Contributions (but excluding any earnings on Elective Contributions accruing after December 31, 1988), Rollover Contributions, Matching Contributions, and Profit Sharing Contributions (if, and only if, the withdrawal of Profit Sharing Contributions is occasioned by a life threatening illness to the Participant) by giving written notice thereof to the Committee specifying such date, which shall not be less than 30 days following the date such notice is given to the Committee. Such notice shall designate that the hardship withdrawal shall be withdrawn from the investment funds in which the Participant has directed investment of the Participant's Cash Contribution Account. (b) The Committee may authorize a hardship withdrawal only for: (i) medical expenses described in Section 213(d) of the Code incurred or immediately anticipated by the Participant, the Participant's spouse, or any dependents of the Participant (as defined in Section 152 of the Code); (ii) the purchase (excluding mortgage payments) of a principal residence of the Participant; (iii)the payment of tuition and related educational fees for the next 12 months of post-secondary education for the Participant or the Participant's spouse, children, or dependents; or (iv) the need to prevent the eviction of the Participant from the Participant's principal residence or foreclosure on the mortgage of the Participant's principal residence. (c) A hardship withdrawal may be authorized only to the extent necessary to satisfy the hardship. A distribution will be deemed to be necessary to satisfy the hardship only if the distribution is not in excess of the amount of the immediate and heavy financial need of the Participant and such Participant's tax obligations as a result of such distribution and the Employee certifies in writing that such a hardship exists (and the Committee has no knowledge to the contrary); provided that the Committee may set stricter standards for making such determination on a nondiscriminatory basis; and provided further that the Participant must obtain the written consent of his or her spouse to the extent required by law. The Committee's decision shall be final and binding on the Participant. (d) In the event that a Participant's Vested Interest is less than 100% at the time of making a withdrawal from his Profit Sharing Subaccount pursuant to Section 11.7(a), the Participant's Vested Interest in his or her Profit Sharing Subaccount at any relevant time thereafter shall be equal to an amount ("X") determined by the following formula: X = P [AB + (R x D)] - (R x D). For purposes of applying the formula: P is the Participant's Vested Interest at the relevant time, AB is the balance of the Participant's Profit Sharing Subaccount at the relevant time; D is the amount distributed to the Participant pursuant to Section 11.7(a); and R is the ratio of the Participant's Profit Sharing Subaccount balance at the relevant time to the Participant's Profit Sharing Subaccount balance immediately after the distribution pursuant to Section 11.7(a). 11.8 Direct Rollovers to Another Qualified Plan or IRA. (a) This Section 11.8 applies to distributions made on or after January 1, 1993. Notwithstanding any provision of the Plan to the contrary that would otherwise limit a distributee's election under this Section 11.8, a distributee may elect, at the time and in the manner prescribed by the Committee, to have any portion of an eligible rollover distribution paid directly to an eligible retirement plan specified by the distributee in a direct rollover. (b) An eligible rollover distribution is any distribution of all or any portion of the balance to the credit of the distributee, except that an eligible rollover distribution does not include: any distribution that is one of a series of substantially equal periodic payments (not less frequently than annually) made for the life (or life expectancy) of the distributee or the joint lives (or joint life expectancies) of the distributee and the distributee's designated Beneficiary, or for a specified period of ten years or more; any distribution to the extent such distribution is required under Section 401(a)(9) of the Code; and the portion of any distribution that is not includable in gross income (determined without regard to the exclusion for net unrealized appreciation with respect to employer securities). (c) An eligible retirement plan is an individual retirement account described in section 408(a) of the Code, an individual retirement annuity described in section 408(b) of the Code, an annuity plan described in section 403(a) of the Code or a qualified trust described in section 401(a) of the Code, that accepts the distributee's eligible rollover distribution. However, in the case of an eligible rollover distribution to the surviving spouse, an eligible retirement plan is an individual retirement account or individual retirement annuity. (d) A distributee includes a Participant or former Participant. In addition, the Participant's or former Participant's Surviving Spouse and the Participant's or former Participant's spouse or former spouse who is the alternate payee under a qualified domestic relations order, as defined in Section 414(p) of the Code, are distributees with regard to the interest of the Surviving Spouse, spouse or former spouse. (e) A direct rollover is a payment by the Plan to the eligible retirement plan specified by the distributee. (f) If a distribution is one to which Sections 401(a)(11) and 417 of the Code do not apply, such distribution may commence less than 30 days after the notice required under Section 1.411(a)-11(c) of the Regulations is given, provided that: (1) the Committee clearly informs the Participant that the Participant has a right to a period of at least 30 days after receiving the notice to consider the decision of whether or not to elect a distribution (and, if applicable, a particular distribution option), and (2) the Participant, after receiving the notice, affirmatively elects a distribution. 11.9 Certain Securities Law Restrictions. Any distribution of Shares pursuant to this Section 11 shall be subject to all applicable laws, rules and regulations and to such approvals by stock exchanges or governmental agencies as may be deemed necessary or appropriate by the Board of Directors. Each distributee may be required to give the Employer a written representation that such distributee will not be involved in a violation of state or federal securities laws, including the Securities Act of 1933, as amended; the form of such written representation will be prescribed by the Board of Directors. 11.10 Participant Loans. (a) Upon the written request of a Participant who is an Employee (or who is employed by a Non-Participating Affiliate), the Committee may direct the Trustee to make a loan to such Participant from such Participant's Account. Loans to Participants pursuant to this Section 11.10 shall be administered by the Committee and shall be subject to a Participant Loan Policy and such other procedures as may be adopted from time to time by the Committee. The Company shall not have the discretion to refuse a loan request, so long as the terms of the loan comply with the requirements of this Section 11.10 and the Participant Loan Policy. The terms of the loan shall be determined by the Committee, subject to the limits set forth in this Section, and shall be evidenced by the Participant's promissory note. Loans shall be held in a segregated Account of the Trust. An Employee who has made a Rollover Contribution shall be considered a Participant for purposes of this Section, even if such Employee has not yet become a Participant pursuant to Section 3. (b) The aggregate outstanding balance of all loans to a Participant from this Plan and all other qualified plans maintained by the Employer, when added to any principal repayments on any participant loans made within the twelve-month period preceding the date on which the loan is made, may not exceed the lesser of (i) $50,000 or (ii) 50% of the vested interest in the Participant's Account as of the day of making the loan. (c) Principal and interest shall be repaid in level, periodic installments by payroll deductions not less frequent than quarterly over a definite period of time not to exceed five (5) years, provided, however, that in the case of a loan the proceeds of which are used by the Participant to acquire a principal residence of the Participant, the loan may be repayable over a reasonable period of time in excess of five (5) years as determined by the Committee. (d) All loans shall be secured by a lien on the Participant's interest in the trust. The amount of the loan may not exceed fifty percent (50%) of the value of the Participant's vested Account balance at the time the loan is made. The Committee may determine that any distribution made pursuant to the Plan shall be reduced by an amount up to the outstanding principal and interest balance of the loan. (e) Any loan made pursuant to this Section 11.10 must not constitute a prohibited transaction as defined in Section 4975 of the Code. (f) Loan repayments will be suspended under the Plan as permitted under Section 414(u)(4) of the Code. 11.11 Other In-Service Withdrawals. A Participant (other than a Terminated Participant) who has completed five (5) Years of Service may elect at any time, but not more than once in each Plan Year, to withdraw all or any portion of the Vested Interest in such Participant's ESOP Account or such Participant's Cash Contribution Account attributable to Profit Sharing Contributions, ESOP Contributions or Rollover Contributions by giving written notice thereof to the Committee specifying such date, which shall not be less than 30 days following the date such notice is given to the Committee. Such notice shall designate that the withdrawal shall be withdrawn from the investment funds in which the Participant has directed investment of the Participant's Cash Contribution Account. SECTION 12. MAXIMUM AMOUNT OF ALLOCATION 12.1 Section 415 Limitations. Annual additions to a Participant's Account with respect to any Plan Year may not exceed the limitations set forth in Section 415 of the Code, which are incorporated herein by reference. For these purposes, (i) "annual additions" shall have the meaning set forth in Section 415(c)(2) of the Code, as modified elsewhere in the Code and the Regulations, (ii) the limitation year shall mean the Plan Year unless any other twelve consecutive month period is designated pursuant to a written resolution adopted by the Employer, (iii) "compensation" shall have the meaning elected by the Employer pursuant to Section 415(c)(3) of the Code, and (iv) "annual additions" shall include annual additions under all other defined contribution plans maintained by the Employer or any Affiliated Employer. Effective for Plan Years beginning on or after January 1, 1998, "compensation" shall be computed without reduction for a Participant's elective deferrals under Section 402(g)(3) of the Code or for contributions made by the Employer or the Participant under Section 125 of the Code. If the requirements of Section 7.5(a) are satisfied, the term "annual additions" shall not include any amounts credited to the Participant's Account (i) due to Participating Employer contributions relating to interest payments on an Exempt Loan deductible under Section 404(a)(9)(B) of the Code, or (ii) attributable to a forfeiture of Shares acquired with the proceeds of an Exempt Loan. Effective for limitation years commencing prior to January 1, 1999, if a Participant in the Plan also participates in any defined benefit plan (as defined in Sections 414(j) and 415(k) of the Code) maintained by the Employer or any Affiliated Employer, in the event that in any Plan Year the sum of the Participant's Defined Benefit Fraction (as defined in Section 415(e)(2) of the Code) and the Participant's Defined Contribution Fraction (as defined in Section 415(e)(3) of the Code) exceed 1.0, the benefit under such defined benefit plan or plans shall be reduced in accordance with the provisions of that plan or those plans, so that the sum of such fractions with respect to the Participant will not exceed 1.0. If this reduction does not ensure that the limitation set forth in Section 12.1 is not exceeded, then the annual addition to any defined contribution plan, other than the Plan, shall be reduced in accordance with the provisions of that plan but only to the extent necessary to ensure that such limitation is not exceeded. 12.2 Refund or Forfeiture of Amounts in Excess of Section 415 Limits. (a) In the event that amounts which would otherwise be allocated to a Participant's Account under the Plan must be reduced by reason of the limitations of Section 12.1, then such reduction shall be made in the following order or priority, but only to the extent necessary: (i) first the Participant's Profit Sharing Contributions shall be forfeited and reallocated pursuant to this Section 12.2; and then (ii) the Participant's Matching Contributions shall be forfeited and reallocated pursuant to this Section 12.2; and then (iii)the Participant's Elective Contributions shall be refunded to the Participant; and then (iv) Shares allocated to the Participant's Account attributable to ESOP Contributions shall be forfeited and reallocated pursuant to this Section 12.2. (b) Forfeitures arising under the Plan and allocable to such Participant in respect of such Plan Year shall be reallocated to the Accounts of other Participants as of the end of the Plan Year for which such reduction is made in the manner provided under Section 4.5 above. (c) If, with respect to any Plan Year, there is an excess contribution on account of the limitations contained in this Section 12.2, and such excess cannot be fully allocated in accordance with Section 12.2(b) because of the limitations prescribed in this Section 12, the amount of such excess which cannot be so allocated shall be held in suspense and allocated in the succeeding Plan Year prior to any other contributions by the Employer for such Plan Year. SECTION 13. VOTING AND TENDER OR EXCHANGE RIGHTS 13.1 Voting and Tender or Exchange of Shares in General. Except as otherwise required by the Act, the Code and the Regulations, all voting and tender or exchange rights of Shares held in Participants' Accounts shall be exercised by the Purchasing Agent only as directed by the Participants or their Beneficiaries or as otherwise provided in accordance with the provisions of this Section 13. 13.2 Voting of Allocated Shares. (a) If any Participating Employer has a registration-type class of securities (as defined in Section 409(e)(4) of the Code or any successor statute thereto), then, with respect to all corporate matters submitted to shareholders, all Shares (including fractional interests in Shares) allocated and credited to the Accounts of Participants shall be voted in accordance with the directions of such Participants as given to the Purchasing Agent; provided that (i) with regard to Shares allocated to ESOP Accounts, allocated Shares for which no directions are received by the Purchasing Agent shall be voted in the same proportion as allocated Shares for which directions are received are voted pursuant to this Section 13.2, and (ii) Shares allocated to Accounts other than ESOP Accounts for which no directions are received by the Purchasing Agent shall not be voted. (b) If no Participating Employer has a registration-type class of securities (as defined in Section 409(e)(4) of the Code or any successor statute thereto), then, only with respect to corporate matters relating to a corporate merger or consolidation, recapitalization, reclassification, liquidation, dissolution, sale of substantially all assets of a trade or business, or such other similar transaction that Regulations require, all Shares allocated and credited to the Accounts of Participants shall be voted in accordance with the directions of such Participants as given to the Purchasing Agent; provided that (i) with respect to Shares allocated to ESOP Accounts, allocated Shares for which no directions are received by the Purchasing Agent shall be voted in the same proportion as allocated Shares for which directions are received are voted pursuant to this Section 13.2, and (ii) Shares allocated to Accounts other than ESOP Accounts for which no directions are received by the Purchasing Agent shall not be voted. 13.3 Mechanics of Voting Allocated Shares. If Participants are entitled under Section 13.2 to direct the vote with respect to allocated Shares, then, at least 30 days before each annual or special shareholders' meeting of the Employer (or, if such schedule cannot be met, as early as practicable before such meeting), the Committee shall cause each Participant to be furnished with a copy of the proxy solicitation material sent generally to shareholders, together with a form requesting confidential instructions concerning the manner in which the Shares allocated to such Participant's Account are to be voted. Upon timely receipt of such instructions, the Purchasing Agent (after combining votes of fractional Shares to give effect to the greatest extent possible to Participants' instructions) shall vote the Shares as instructed. The instructions received by the Purchasing Agent from each Participant shall be held by the Purchasing Agent in strict confidence and shall not be divulged or released to any person, including, without limitation, any officers or Employees of any Participating Employer, or of any other Employer. The Trustee, the Employer, the Purchasing Agent and the Committee shall not make recommendations to Participants concerning whether to vote or how to vote. 13.4 Voting of Unallocated Shares. With respect to unallocated Shares held in the Trust Fund, absent specific instructions from the Trustee or other fiduciary pursuant to the Trust Agreement, the Purchasing Agent shall vote such Shares in the same proportion as Shares are voted pursuant to Section 13.2; provided that the Purchasing Agent shall follow any directions of the Trustee or any other fiduciary authorized to instruct the Trustee with respect to the voting of such unallocated Shares under the Trust Agreement. 13.5 Tender or Exchange of Allocated Shares. The Committee shall notify each Participant of each tender or exchange offer for the Shares and utilize its best efforts to distribute or cause to be distributed to each Participant in a timely manner all information distributed to shareholders of the Employer in connection with any such tender or exchange offer. Each Participant shall have the right from time to time with respect to the Shares allocated to the Participant's Account to instruct the Purchasing Agent in writing as to the manner in which to respond to any tender or exchange offer which shall be pending or which may be made in the future for all Shares or any portion thereof. A Participant's instructions shall remain in force until superseded by the Participant. The Purchasing Agent shall tender or exchange whole Shares only as and to the extent so instructed. If the Purchasing Agent does not receive instructions from a Participant regarding any tender or exchange offer for Shares, the Purchasing Agent shall have no discretion in such matter and shall not tender or exchange any such Shares in response thereto. For purposes of responding to such tender or exchange offers, each Participant shall be the "named fiduciary" with respect to such Shares allocated to his or her Account. Unless and until Shares are tendered or exchanged, the individual instructions received by the Purchasing Agent from Participants shall be held by the Purchasing Agent in strict confidence and shall not be divulged or released to any person, including, without limitation, any officers or Employees of any Participating Employer, or of any other Employer; provided, however, that the Purchasing Agent shall advise the Employer, at any time upon request, of the total number of Shares not subject to instructions to tender or exchange. 13.6 Tender or Exchange of Unallocated Shares. Absent specific instructions from the Trustee or other fiduciary pursuant to the Trust Agreement, the Purchasing Agent shall tender unallocated Shares held in the Trust Fund in proportion to the ratio that (A) the number of Shares with respect to which Participant instructions favor of the tender or exchange have been received bears to (b) the number of Shares with respect to which Participant instructions for or against the tender or exchange have been received; provided that the Purchasing Agent shall follow any directions of the Trustee or any other fiduciary authorized to instruct the Trustee with respect to the tender or exchange of unallocated Shares under the Trust Agreement. 13.7 Voting of Deceased Participant's Shares. If this Section 13 applies to Shares allocated to the Account of a deceased Participant, such Participant's Beneficiary shall be entitled to direct the manner in which to respond to any tender or exchange offer as if such Beneficiary were the Participant. SECTION 14. DESIGNATION OF BENEFICIARIES 14.1 Designation of Beneficiary. Each Participant shall file with the Committee a written designation of one or more persons as the Beneficiary who shall be entitled to receive the amount, if any, payable under the Plan upon his or her death. A Participant may from time to time revoke or change his or her Beneficiary designation without the consent of any prior Beneficiary by filing a new designation with the Committee. The last such designation received by the Committee shall be controlling; provided, however, that no designation, or change or revocation thereof, shall be effective unless received by the Committee prior to the Participant's death, and in no event shall it be effective as of a date prior to such receipt. A Participant's Beneficiary designation shall not be effective to the extent that payments to the Surviving Spouse are required pursuant to Section 11, and in no event shall it be effective as of a date prior to such receipt. 14.2 Failure to Designate Beneficiary. If no such Beneficiary designation is in effect at the time of a Participant's death, or if no designated Beneficiary survives the Participant, the payment of the amount, if any, payable under the Plan upon his or her death shall be made to the Participant's Surviving Spouse, if any; or if the Participant has no Surviving Spouse, then to the Participant's children, if any, in equal shares; or if the Participant has no children, to the Participant's parents, if any, in equal shares; or if the Participant has no parents, to the Participant's brothers and sisters, if any, in equal shares. If the Participant has no brothers or sisters, payment shall be made to the Participant's estate. If the Committee is in doubt as to the right of any person to receive such amount, the Committee may direct the Trustee to retain such amount, without liability for any interest thereon, until the rights thereto are determined, or the Committee may direct the Trustee to pay such amount into any court of appropriate jurisdiction and such payment shall be a complete discharge of the liability of the Plan and the Trust Fund therefor. SECTION 15. ADMINISTRATION OF THE PLAN 15.1 The Committee. The Committee shall have general responsibility for the administration, interpretation and construction of the Plan. The Committee shall be responsible for establishing and maintaining Plan records, including responsibility for compliance with the Actual Deferral Percentage and Actual Contribution Percentage tests described in Sections 4.6 and 5.3, and the Committee shall be responsible for complying with the reporting and disclosure requirements of the Act. The Committee shall report to the Board of Directors, or to a committee of the Board of Directors designated for that purpose, periodically as shall be specified by the Board of Directors or such designated committee, with regard to the matters for which it is responsible under the Plan. 15.2 The Trustee. Except as otherwise provided in the Trust Agreement or the Plan, the Trustee may act only as directed by the Committee, the Employer or any other party, as applicable. The Trustee shall have responsibility under the Plan for the management and control of the assets of the Plan. The Committee shall periodically review the performance and methods of the Trustee. The Employer or the Committee shall have the power to appoint, remove or change the Trustee and, to the extent that the Trust Fund is invested in assets other than Shares, shall have the power to appoint or remove one or more investment advisers and to delegate to such adviser authority and discretion to manage (including the power to acquire and dispose of) the assets of the Plan, provided that (i) such adviser with such authority and discretion shall be either a bank or a registered investment adviser under the Investment Advisers Act of 1940, and shall acknowledge in writing that it is a fiduciary with respect to the Plan and (ii) the Committee shall periodically review the investment performance and methods of each adviser(s) with such authority and discretion. The Committee shall establish investment standards and policies and communicate the same to the Trustee. If annuities are to be purchased under the Plan, the Committee shall determine what contracts should be made available to terminated Participants or purchased by the Trust Fund. 15.3 Committee's Responsibility for Entering into Exempt Loans and Valuation of Shares. The Committee shall have responsibility for directing the Trustee as to whether and under what terms it shall enter into an Exempt Loan and for directing the Purchasing Agent whether and under what terms it shall purchase or otherwise dispose of Shares. In the event that there is no generally recognized market for Shares, the Committee shall be the named fiduciary with responsibility for determining the fair market value of the Shares, provided, that any such determination shall be in accordance with applicable Regulations, if any, and the Committee shall, in making such determination, retain an independent appraiser to make such valuation on behalf of the Committee in accordance with Section 7.9. 15.4 Committee's Power to Engage Outside Experts. The Committee may arrange for the engagement of such legal counsel, who may be counsel for the Employer, and make use of such agents and clerical or other personnel as they each shall require or may deem advisable for purposes of the Plan. The Committee may rely upon the written opinion of such counsel and the accountants engaged by the Committee and may delegate to any such agent of said Committee its authority to perform any act hereunder, including without limitation, those matters involving the exercise of discretion, provided that such delegation shall be subject to revocation at any time at the discretion of said Committee. The Committee shall engage such certified public accountants, who may be accountants for the Employer, as it shall require or may deem advisable for purposes of the Plan. 15.5 Composition of Committee. The Committee shall consist of at least three members, each of whom shall be appointed by, shall remain in office at the will of, and may be removed, with or without cause, by the Board of Directors. Any member of said Committee may resign at any time. No member of said Committee shall be entitled to act on or decide any matter relating solely to himself or any of his or her rights or benefits under the Plan. The members of the Committee shall not receive any special compensation for serving in their capacities as members of such Committee but shall be reimbursed for any reasonable expenses incurred in connection therewith. Except as otherwise required by the Act, no bond or other security need be required of the Committee or any member thereof in any jurisdiction. Any member of the Committee, or any agent to whom said Committee delegates any authority, and any other person or group of persons, may serve in more than one fiduciary capacity (including service both as a Trustee and administrator) with respect to the Plan. 15.6 Actions of Committee. The Committee shall elect or designate its own chairman, establish its own procedures and the time and place for its meetings and provide for the keeping of minutes of all meetings. A majority of the members of the Committee shall constitute a quorum for the transaction of business at a meeting of the Committee. Any action of the Committee may be taken upon the affirmative vote of a majority of the members of the Committee at a meeting or, at the direction of its Chairman, without a meeting, by mail, telephone or facsimile, provided that all of the members of the Committee are informed by mail or telephone of their right to vote on the proposal and of the outcome of the vote thereon. 15.7 Disbursement of Plan Funds. The Committee shall cause to be kept full and accurate accounts of receipts and disbursements of the Plan, shall cause to be deposited all funds of the Plan to the name and credit of the Plan in such depositories as may be designated by the Committee, shall cause to be disbursed the monies and funds of the Plan when so authorized by the Committee and shall generally perform such other duties as may be assigned to them from time to time by the Committee. 15.8 Application for Benefits. Each Participant or Beneficiary believing himself eligible for benefits under the Plan shall apply for such benefits by completing and filing with the Committee an application for benefits on a form supplied by the Committee. Before the date on which benefit payments commence, each such application must be supported by such information and data as the Committee deems relevant and appropriate. Evidence of age, marital status (and, in the appropriate instances, health, death or disability) and location of residence shall be required of all applicants for benefits. All claims for benefits under the Plan shall, within a reasonable period of time, be decided by one or more persons designated in writing by the chairman of the Committee. 15.9 Denied Claims for Benefits. In the event that any claim for benefits is denied in whole or in part, the Participant or Beneficiary whose claim has been so denied shall be notified of such denial in writing by the Committee. The notice advising of the denial shall specify the reason or reasons for denial, make specific reference to pertinent Plan provisions, describe any additional material or information necessary for the claimant to perfect the claim (explaining why such material or information is needed) and shall advise the Participant or Beneficiary, as the case may be, of the procedure for the appeal of such denial. All appeals shall be made by the following procedure: (a) The Participant or Beneficiary whose claim has been denied shall file with the Committee a notice of desire to appeal the denial. Such notice shall be filed within sixty (60) days of notification by the Committee of claim denial, shall be made in writing and shall set forth all of the facts upon which the appeal is based. Appeals not timely filed shall be barred. (b) The Committee shall, within thirty (30) days of receipt of the Participant's or Beneficiary's notice of appeal, establish a hearing date on which the Participant or Beneficiary may make an oral presentation to the Committee in support of his or her appeal. The Participant or Beneficiary shall be given not less than ten (10) days' notice of the date set for the hearing. (c) The Committee shall consider the merits of the claimant's written and oral presentations, the merits of any facts or evidence in support of the denial of benefits and such other facts and circumstances as the Committee shall deem relevant. If the claimant elects not to make an oral presentation, such election shall not be deemed adverse to the claimant's interest, and the Committee shall proceed as set forth below as though an oral presentation of the contents of the claimant's written presentation had been made. (d) The Committee shall render a determination upon the appealed claim which determination shall be accompanied by a written statement as to the reasons therefor. The determination so rendered shall be binding on all parties. (e) For all purposes under the Plan, such decisions on claims (where no review is requested) and decisions on review (where review is requested) shall be final, binding and conclusive on all interested persons as to participation and benefit eligibility, the Employee's amount of Compensation and any other matter of fact or interpretation relating to the Plan. 15.10 Indemnification. To the maximum extent permitted by law, no member of the Committee shall be personally liable by reason of any contract or other instrument executed by such member of the Committee or on his or her behalf in the Committee member's capacity as a member of such Committee nor for any mistake of judgment made in good faith, and the Employer shall indemnify and hold harmless, directly from its own assets (including the proceeds of any insurance policy the premiums of which are paid from the Employer's own assets), each member of the Committee and each other officer, employee or director of the Employer to whom any duty or power relating to the administration or interpretation of the Plan or to the management and control of the assets of the Plan may be delegated or allocated, against any cost or expense (including counsel fees) or liability (including any sum paid in settlement of a claim with the approval of the Employer) arising out of any act or omission to act in connection with the Plan unless arising out of such person's own fraud or willful misconduct. The Employer shall advance funds for legal expenses to the extent permitted by the Act. 15.11 Agent for Service of Process. The Committee or such other person as may from time to time be designated by the Committee shall be the agent for service of process under the Plan. SECTION 16. EXPENSES 16.1 Payment of Plan Expenses. The expenses incurred in the management and administration of the Plan shall be paid from the Trust Fund, except to the extent the Employer, in its sole discretion, may choose to pay such expenses from time to time; provided that any Trustee expenses paid to The Charles Schwab Trust Company shall be payable solely by the Employer. Such expenses shall include (i) the fees and expenses of any employee and of the Trustee for the performance of their duties under the Plan and Trust Fund (including but not limited to obtaining investment advice, record keeping services and legal services), (ii) the expenses incurred by the members of the Committee in the performance of their duties under the Plan (including reasonable compensation for any legal counsel, certified public accountants, consultants and agents, and cost of services rendered with respect to the Plan) and (iii) all other proper charges and disbursements of the Trustee or the members of the Committee (including settlements of claims or legal actions approved by counsel to the Plan). 16.2 Expenses Attributable to Investment of Plan Assets and Taxes. Brokerage fees, transfer taxes and any other expenses incident to the purchase or sale of securities by the Trustee shall be deemed to be part of the cost of such securities, or deducted in computing the proceeds therefrom, as the case may be. Expenses attributable to investments of the Trust Fund shall be paid out of the Trust Fund, except to the extent the Employer, in its sole discretion, may choose to pay such expenses from time to time; provided that expense entirely attributable to any one investment or to any one investment fund shall be allocated pro rata in accordance with Account balances among Accounts invested in such investment or investment fund. Taxes, if any, of any and all kinds whatsoever which are levied or assessed on any assets held or income received by the Trustee shall be paid out of the Trust Fund. SECTION 17. EMPLOYER PARTICIPATION 17.1 Adoption of Plan by Affiliated Employer. Any Affiliated Employer may adopt the Plan and the Trust Fund by resolution of its board of directors or equivalent governing body provided that (i) the Board of Directors has not expressly disallowed participation by such Affiliated Employer in the Plan; (ii) the Affiliated Employer has not previously expressly declined to participate in the Plan; or (iii) the Affiliated Employer is not precluded from participating in the Plan by a legally binding written document that precludes such participation; and provided further that the Board of Directors consents to such adoption. Any Affiliated Employer which so adopts the Plan shall be deemed to appoint Charles Schwab & Co., Inc., the Committee and the Trustee its exclusive agents to exercise on its behalf all of the power and authority conferred under the Plan or the Trust Agreement. This authority shall continue until the Plan is terminated and the relevant Trust Fund assets have been distributed. 17.2 Termination of Participation by Participating Employer. A Participating Employer may terminate its participation in the Plan by giving the Committee prior written notice specifying a termination date which shall be the last day of a month at least 60 days subsequent to the date such notice is received by the Committee. The Board of Directors may terminate any Participating Employer's participation in the Plan, as of any termination date specified by the Committee, for the failure of the Participating Employer to make proper contributions or to comply with any other provision of the Plan. 17.3 Effect of Termination of Participation by Participating Employer. Upon termination of the Plan as to any Participating Employer, such Participating Employer shall not make any further contributions under the Plan and no amount shall thereafter be payable under the Plan to or with respect to any Participants then employed by such Participating Employer, except as provided in this Section 17. To the maximum extent permitted by the Act, any rights of Participants no longer employed by such Participating Employer and of former Participants and their Beneficiaries and Surviving Spouses and other eligible survivors under the Plan shall be unaffected by such termination and any transfer, distribution or other disposition of the assets of the Plan as provided in this Section 17 shall constitute a complete discharge of all liabilities under the Plan with respect to such Participating Employer's participation in the Plan and any Participant then employed by such Participating Employer. The interest of each such Participant who is in Service with such Participating Employer as of the termination date is the amount, if any, credited to his or her Account after payment of or provision for expenses and charges and appropriate adjustment of the Accounts of all such Participants for expenses and charges as described in Section 16, and all forfeitures shall be nonforfeitable as of the termination date, and upon receipt by the Committee of IRS approval of such termination, the full current value of such amount shall be paid from the Trust Fund in the manner described in Section 17.4 or transferred to a successor employee benefit plan which is qualified under Section 401(a) of the Code; provided, however, that in the event of any transfer of assets to a successor employee benefit plan the provisions of Section 17.4 will apply. No advances against such payments shall be made prior to such receipt of approval, but after such receipt the Committee, in its sole discretion, may direct the Trustee to make one or more advances in accordance with Section 11.1. All determinations, approvals and notifications referred to above shall be in form and substance and from a source satisfactory to the Committee. To the maximum extent permitted by the Act, the termination of the Plan as to any Participating Employer shall not in any way affect any other Participating Employer's participation in the Plan. 17.4 Limitations on Transfer of Plan Assets to Successor Plan. No transfer of the Plan's assets and liabilities to a successor employee benefit plan (whether by merger or consolidation with such successor plan or otherwise) shall be made unless each Participant would, if either the Plan or such successor plan then terminated, receive a benefit immediately after such transfer which (after taking account of any distributions or payments to such Participants as part of the same transaction) is equal to or greater than the benefit such Participant would have been entitled to receive immediately before such transfer if the Plan had then been terminated. The Committee may also request appropriate indemnification from the employer or employers maintaining such successor plan before making such a transfer. 17.5 Shares Allocated to Suspense Fund Excluded from Transfer of Plan Assets to Successor Plan. Notwithstanding any provision of this Section 17 to the contrary, any Shares allocated to a Suspense Subfund shall not be transferred to a successor employee benefit plan except as is required or permitted by the Committee in accordance with the terms of an Exempt Loan and the Regulations. SECTION 18. AMENDMENT OR TERMINATION OF THE PLAN 18.1 Amendment, Suspension or Termination of Plan. (a) Subject to the provisions of Section 18.1(b) and (c) hereof, the board of directors of the Plan Sponsor reserves the right at any time to suspend or terminate the Plan, any contributions thereunder, or any other agreement or arrangement forming a part of the Plan, in whole or in part and for any reason, and to adopt any amendment or modification thereto, all without the consent of any Participating Employer, Participant, Beneficiary, Surviving Spouse or other eligible survivor. Subject to the provisions of Section 18.1(b) and (c) hereof, the Board of Directors reserves the right at any time to amend or modify the Plan. Each Participating Employer by its adoption of the Plan shall be deemed to have delegated this authority to the Board of Directors. (b) The Board of Directors shall not make any amendment or modification which would (i) retroactively impair any rights to any benefit under the Plan which any Participant, Beneficiary, Surviving Spouse or other eligible survivor would otherwise have had at the date of such amendment by reason of the contributions theretofore made or (ii) make it possible for any part of the funds of the Plan (other than such part as is required to pay taxes, if any, and administration expenses as provided in Section 16) to be used for or diverted to any purposes other than for the exclusive benefit of Participants and their Beneficiaries and Surviving Spouses and other eligible survivors under the Plan prior to the satisfaction of all liabilities with respect thereto. 18.2 Power to Retroactively Amend, Suspend or Terminate Plan Provisions. Subject to the provisions of Section 18.1, any amendment, modification, suspension or termination of any provision of the Plan may be made retroactively if necessary or appropriate to qualify or maintain the Plan as a plan meeting the requirements of Sections 401(a) of the Code or any other applicable provision of law (including the Act) as now in effect or hereafter amended or adopted and the Regulations issued thereunder. 18.3 Notice of Amendment, Suspension or Termination. Notice of any amendment, modification, suspension or termination of the Plan shall be given by the Board of Directors or the board of directors of the Plan Sponsor, as the case may be, to the Trustee and all Participating Employers. 18.4 Effect of Termination of Plan. Upon termination of the Plan, no Participating Employer shall make any further contributions under the Plan and no amount shall thereafter be payable under the Plan to or with respect to any Participant except as provided in this Section 18, and to the maximum extent permitted by the Act, transfers or distributions of the assets of the Plan as provided in this Section 18 shall constitute a complete discharge of all liabilities under the Plan. The provisions of the Plan which are necessary for the operation of the Plan and the distribution or transfer of the assets of the Plan shall remain in force. Upon receipt by the Committee of IRS approval of such termination, the full current value of such adjusted amount, and the full value of each account described in Sections 6.2 and 7.1 above, shall be paid from the Trust Fund to each Participant and former Participant (or, in the event of the death of a Participant or former Participant, to the Surviving Spouse or Beneficiary thereof) in any manner of distribution specified in Section 11 above, including payments which are deferred until the Participant's termination of Service, as the Committee shall determine. Without limiting the foregoing, any such distribution may be made in cash or in property, or both, as the Committee in its sole discretion may direct. All determinations, approvals and notifications referred to above shall be in form and substance and from a source satisfactory to the Committee. 18.5 Partial Termination of Plan. In the event that any governmental authority, including without limitation the IRS, determines that a partial termination (within the meaning of the Act) of the Plan has occurred or if there is a complete discontinuance of Employer contributions then (i) the interest of each Participant affected thereby in his or her Account shall become nonforfeitable as of the date of such partial termination or complete discontinuance of contributions and (ii) the provisions of Sections 18.2, 18.3 and 18.4 above, which in the opinion of the Committee are necessary for the execution of the Plan and the allocation and distribution of the assets of the Plan, shall apply. 18.6 Trust for Exclusive Benefit of Participant. In no event shall any part of the Trust Fund (other than such part as is required to pay taxes, if any, and administration expenses as provided in Section 16 above) be used for or diverted to any purposes other than for the exclusive benefit of Participants and their Beneficiaries and Surviving Spouses under the Plan. SECTION 19. TOP-HEAVY PLAN REQUIREMENTS 19.1 Top-Heavy Plan - In General. For any Plan Year for which this Plan is a Top-Heavy Plan, the provisions of this Section 19 shall apply notwithstanding any other provisions of the Plan. 19.2 Effect of Top-Heavy Status. Each Participant who (i) is a Non-Key Employee and (ii) is employed on the last day of the Plan Year, shall be entitled to have contributions allocated to his or her Account of not less than three percent (3%) of the Participant's Compensation (the "Minimum Contribution Percentage") regardless of (i) whether such Non-Key Employee has completed a Year of Service, and (ii) the amount of such Non-Key Employee's Compensation; provided, however, that the minimum contribution percentage for any Plan Year shall not exceed the percentage at which contributions are made under the Plan for the Plan Year for the Key Employee for whom such percentage is the highest for such Plan Year. For this purpose, such percentage shall be determined by dividing the contributions made for such Key Employee by so much of his or her Compensation (which solely for this purpose includes Elective Contributions made by the Employer for the Key Employee) for the Plan Year as does not exceed $150,000 (adjusted automatically for increases in accordance with the Regulations). Contributions taken into account under this Section 19.2 shall include contributions under this Plan and under all other defined contribution plans (as defined in Section 414(i) of the Code) required to be included in an Aggregation Group; provided, however, that such contributions shall not include (i) contributions to any defined contribution plan in the required aggregation group if such contributions enable such a defined contribution plan to meet the requirements of Sections 401(a)(4) or 410 of the Code or (ii) contributions under the Social Security Act or any other federal or state law. 19.3 Top-Heavy Vesting Schedule. In the event that the Plan is a Top-Heavy Plan, all contributions shall be vested at a rate not slower than the following vesting schedule: Years of Service Percentage Less than two years 0% At least two years but less than three years 20% At least three years but less than four years 50% At least four years but less than five years 75% Five years or more 100% 19.4 Definitions. (a) "Top-Heavy Plan" means this Plan for any Plan Year if, as of the Determination Date, (i) the present value of the Accounts of all Participants who are Key Employees (excluding former Key Employees) exceeds 60 percent of the present value of all Participants' Accounts (excluding former Key Employees) or (ii) the Plan is required to be in an Aggregation Group which for such Plan Year is a Top-Heavy Group. In determining whether the Plan constitutes a Top-Heavy Plan, the Committee shall make the following adjustments: (i) When more than one plan is aggregated, the Committee shall determine separately for each plan as of any Determination Date, the present value of accrued benefits of all Participants and the value of Accounts of all Participants. (ii) Any such determination shall include the present value of distributions made to former Participants under the applicable plan (including a terminated plan) during the five-year period ending on the Determination Date, unless reflected in the value of the accrued benefits or the Accounts of such former Participants as of the Determination Date. (iii)Any such determination shall include any Rollover Contribution from any other plan as follows: (A) If the Rollover Contribution is initiated by the Employee and made to or from a plan maintained by a corporation which is not an Affiliated Employer, the plan providing the distribution shall include such distribution in the value of such accrued benefit or Account. (B) If the Rollover Contribution is not initiated by the Employee or made from a plan maintained by an Affiliated Employer, the plan accepting the distribution shall include such distribution in the value of such accrued benefit or Account. (b) "Determination Date" means for any Plan Year the last day of the next preceding Plan Year. (c) "Aggregation Group" means all plans maintained by the Employer or any Affiliated Employer which are required to be aggregated or permitted to be aggregated. For purposes of this Section 19.4(c), (i) The group of plans that are required to be aggregated (the "required aggregation group") includes each plan of the Employer or any Affiliated Employer in which a Key Employee is a Participant, and each other plan of the Employer or any Affiliated Employer which enables a plan in which a Key Employee is a Participant to meet the requirements of Sections 401(a)(4) or 410 of the Code; and (ii) The group of plans that are permitted to be aggregated (the "permissive aggregation group") includes the required aggregation group plus one or more plans of the Employer or any Affiliated Employer that is not part of the required aggregation group and that the Committee certifies as constituting a plan within the permissive aggregation group. Such plan or plans may be added to the permissive aggregation group only if the permissive aggregation group would continue to meet the requirements of Sections 401(a)(4) and 410 of the Code. (d) "Top Heavy Group" means the Aggregation Group, if as of any Determination Date, the sum of (i) the present value of the accrued benefits of all Participants who are Key Employees under all defined benefit plans (within the meaning of Section 414(j) of the Code) included in the Aggregation Group plus (ii) the aggregate value of the Accounts of all Participants who are Key Employees under all defined contribution plans (within the meaning of Section 414(i) of the Code) included in the Aggregation Group exceeds 60 percent of the sum of (i) the present value of the accrued benefits for all Participants (excluding former Key Employees), under all such defined benefit plans plus (ii) the aggregate value of the Accounts of all Participants (excluding former Key Employees) under all such defined contribution plans. If the Aggregation Group that is a Top-Heavy Group is a required aggregation group, each plan in the Aggregation Group will be a Top-Heavy Plan. If the Aggregation Group that is a Top-Heavy Group is a permissive aggregation group, only those plans that are part of the required aggregation group will be treated as a Top-Heavy Plan. If the Aggregation Group is not a Top-Heavy Group, no plan within such Aggregation Group will be a Top-Heavy Plan. For purposes of Section 19.4(a), the present value of accrued benefits under any defined benefit plan and the value of Accounts under any defined contribution plan shall be determined as of the Valuation Date that is coincident with the Determination Date in accordance with the Regulations. (e) "Key Employee" means any Employee or former Employee who, at any time during the Plan Year preceding the Determination Date or during any of the four preceding Plan Years, is or was one of the following: (i) An officer of the Employer or any Affiliated Employer having annual compensation (within the meaning of Section 414(q)(4)) greater than 50 percent of the amount in effect under Section 415(b)(1)(A) of the Code for any Plan Year (as adjusted for increases in the cost of living in accordance with the Regulations). For purposes of the preceding sentence there shall be treated as officers for any such Plan Year no more than the lesser of: (A) 50 Employees, or (B) the greater of three Employees or 10 percent of the Employees of the Employer or any Affiliated Employer; (ii) One of the ten Employees owning (or considered as owning within the meaning of Section 318 of the Code) more than a five percent (5%) interest and one of the largest interests in the Employer or any Affiliated Employer. An Employee will not be considered such an owner for any Plan Year if the Employee's compensation (within the meaning of Section 414(q)(4)) is less than $30,000 (as adjusted for increases in the cost of living in accordance with the Regulations); for purposes of determining ownership pursuant to Section 19.4(e)(ii) the aggregation rules of Section 414(b), (c) and (m) of the Code apply. (iii)Any person who owns (or considered as owning within the meaning of Section 318 of the Code) more than a five percent interest in the Employer; (iv) Any person having compensation (within the meaning of Section 414(q)(4)) of more than $150,000, and owning (or considered as owning within the meaning of Section 318 of the Code) more than a one percent interest in the Employer. For purposes of this Section 19.4(e), a Beneficiary of a Key Employee shall be treated as a Key Employee and the interests inherited by such Beneficiary shall be treated the same as if owned by the Key Employee. (f) "Non-Key Employee" means any "Non-Key Employee" as defined in Section 416(i)(2) of the Code and the Regulations promulgated thereunder. 19.5 Maintenance of Defined Benefit Plan in Addition to Plan. Effective for limitation years commencing prior to January 1, 2000, in the event that the Plan is a Top-Heavy Plan for any Plan Year and the Employer also maintains a defined benefit plan (within the meaning of Section 414 of the Code) which provides benefits on behalf of Participants, then one of the two following provisions shall apply: (1) If the Plan is a Top-Heavy Plan for any Plan Year but would not be a "Top-Heavy Plan" for the Plan Year if "90 percent" were substituted for "60 percent" in Section 19.4(a), then Section 19.2 shall be applied for such Plan Year by substituting "four percent" for "three percent." (2) If a Top-Heavy Plan would continue to be a "Top-Heavy Plan" for the Plan Year if "90 percent" were substituted for "60 percent", then the denominator of the defined contribution plan fraction shall be calculated for such Plan Year by substituting "1.0" for "1.25", except with respect to any Participant who is not entitled to an allocation of Employer contributions and does not receive any accruals under any defined benefit plan (within the meaning of Section 414(j) of the Code) maintained by the Employer. In the event that another defined contribution plan or a defined benefit plan maintained by the Employer provides contributions or benefits on behalf of Participants, the Committee shall take such other plan into account as a part of this Plan to the extent required by the Code and in accordance with the Regulations. SECTION 20. GENERAL LIMITATIONS AND PROVISIONS 20.1 Exclusive Benefit of Participants and Beneficiaries. In no event shall any part of the funds of the Plan be used for or diverted to any purposes other than for the exclusive benefit of Participants and their Beneficiaries under the Plan except as permitted under Section 403(c) of the Act. Upon the transfer by a Participating Employer of any money to the Trustee, all interest of the Participating Employer therein shall cease and terminate. 20.2 No Rights to Continued Employment. Nothing contained in the Plan shall give any employee the right to be retained in the employment of the Employer or any Affiliated Employer or affect the right of the Employer or any Affiliated Employer to dismiss any employee. The adoption and maintenance of the Plan shall not constitute a contract between the Employer and any employee or be consideration for, or an inducement to or condition of, the employment of any employee. 20.3 Trust Sole Source of Benefits. The Trust Fund shall be the sole source of benefits under the Plan and, except as otherwise required by the Act, the Employer and the Committee assume no liability or responsibility for payment for such benefits, and each Participant, Surviving Spouse, Beneficiary or other person who shall claim the right to any payment under the Plan shall be entitled to look only to the Trust Fund for such payment and shall not have any right, claim or demand therefor against the Employer, the Committee, or any Participant thereof, or any employee or director of the Employer. 20.4 Risk of Decrease in Assets. Each Participant, Beneficiary and Surviving Spouse shall assume all risk in connection with any decrease in the value of the assets of the Trust Fund and the Participants' Accounts or special accounts and neither the Employer nor the Committee shall be liable or responsible therefor. 20.5 Incapacity of Participant or Beneficiary. If the Committee shall find that any person to whom any amount is payable under the Plan is unable to care for his or her affairs because of illness or accident, or is a minor, or has died, then any payment due such person or his or her estate shall be made to his or her duly appointed legal representative. Any such payment shall be a complete discharge of the liability of the Plan and the Trust Fund therefor. 20.6 Antialienation; Qualified Domestic Relations Orders. (a) Except insofar as may otherwise be required by law or pursuant to the terms of a Qualified Domestic Relations Order, as set forth in this Section 20.5, no amount payable at any time under the Plan and the Trust Fund shall be subject in any manner to alienation by anticipation, sale, transfer, assignment, bankruptcy, pledge, attachment, charge or encumbrance of any kind nor in any manner be subject to the debts or liabilities of any person, and any attempt to so alienate or subject any such amount, whether presently or thereafter payable, shall be void. If any person shall attempt to, or shall, alienate, sell, transfer, assign, pledge, attach, charge or otherwise encumber any amount payable under the Plan and Trust Fund, or any part thereof, or if by reason of his or her bankruptcy or other event happening at any such time such amount would be made subject to his or her debts or liabilities or would otherwise not be enjoyed by such person, then the Committee, if it so elects, may direct that such amount be withheld and that the same or any part thereof be paid or applied to or for the benefit of such person. (b) Upon receipt of notification of any judgment, decree or order (including approval of a property settlement agreement) which relates to the provision of child support, alimony payments, or marital property rights of a spouse, former spouse, child, or other dependent of a Participant and which is made pursuant to a state domestic relations law (including a community property law) (herein referred to as a "domestic relations order"), the Committee shall (i) notify the Participant and any prospective Alternate Payee named in the order of the receipt and date of receipt of such domestic relations order and of the Plan's procedures for determining the status of the domestic relations order as a Qualified Domestic Relations Order, and (ii) within a reasonable period after receipt of such order, determine whether it constitutes a Qualified Domestic Relations Order. The Plan's procedures for the determination of whether a domestic relations order constitutes a Qualified Domestic Relations Order shall be set forth by the Committee in writing, shall provide for the notification of each person specified in that order as entitled to payment of benefits under the Plan (at the address included in the domestic relations order) of such procedures promptly upon receipt by the Committee of such domestic relations order, and shall permit the prospective Alternate Payee to designate a representative for receipt of copies of notices that are sent to the prospective Alternate Payee with respect to a domestic relations order. (c) During any period in which the issue of whether a domestic relations order is a Qualified Domestic Relations Order is being determined (by the Committee, by a court of competent jurisdiction, or otherwise), including the period beginning on the date of the Committee's receipt of the order, the Committee shall segregate in a separate account in the Plan or in an escrow account held by a Trustee the amounts, if any, which would have been payable to the Alternate Payee during such period if the order had been determined to constitute a Qualified Domestic Relations Order, provided that if no payments would otherwise be made under the Plan to the Alternate Payee or to the Participant or a Beneficiary of the Participant while the status of the order as a Qualified Domestic Relations Order is being determined, no segregation into a separate or escrow account shall be required. If a domestic relations order is determined to be a Qualified Domestic Relations Order within eighteen (18) months of the date of its receipt by the Committee (or from the beginning of any other period during which the issue of its being a Qualified Domestic Relations Order is being determined by the Committee) the Committee shall cause to be paid to the persons entitled thereto the amounts, if any, held in the separate or escrow account referred to above in one lump sum. If a domestic relations order is determined not be a Qualified Domestic Relations Order, or if the status of the domestic relations order as a Qualified Domestic Relations Order is not finally resolved within such eighteen month period, the Committee shall cause the separate account or escrow account balance to be returned, with interest thereon, to the Participant's Account or to be paid to the person or persons to whom such amount would have been paid if there had been no such domestic relations order, whichever shall apply. Any subsequent determination that such domestic relations order is a Qualified Domestic Relations Order shall be prospective in effect only. (d) (i) Benefits payable to an Alternate Payee shall be payable in one lump sum and in no event shall such benefits continue beyond the lifetime of the Alternate Payee. Such payment may be made at the time specified in the Qualified Domestic Relations Order irrespective of whether the Participant has attained the "earliest retirement age" (within the meaning of Section 414(p)(4)(B) of the Code). In particular, no Alternate Payee shall have the right with respect to any benefit payable by reason of a Qualified Domestic Relations Order to (A) designate a beneficiary with respect to amounts becoming payable under the Plan, (B) elect a method of benefit distribution providing for benefits continuing beyond the Alternate Payee's lifetime, (C) provide survivorship benefits to a spouse or dependent of such Alternate Payee or to any other person, spouse, dependent or other person, or (D) transfer rights under the Qualified Domestic Relations Order by will or by state law of intestacy. (ii) None of the payments, benefits or rights of any Alternate Payee shall be subject to any claim of any creditor, and, in particular, to the fullest extent permitted by law, all such payments, benefits and rights shall be free from attachment, garnishment, trustee's process, or any other legal or equitable process available to any creditor of such Alternate Payee. No Alternate Payee shall have the right to alienate, anticipate, commute, pledge, encumber or assign any of the benefits or payments which he or she may expect to receive, contingently or otherwise, under the Plan. (iii) Alternate Payees shall not have any right to (A) borrow money under any Participant loan provisions under the Plan, (B) exercise any Participant investment direction rights or privileges under the Plan, (C) exercise any other election, privilege, option or direction rights of the Participant under the Plan except as specifically provided in the Qualified Domestic Relations Order, or (D) receive communications with respect to the Plan except as specifically provided by law, regulation or the Qualified Domestic Relations Order. (iv) Each Alternate Payee shall advise the Committee in writing of each change of his or her name, address or marital status, and of each change in the provisions of the Qualified Domestic Relations Order or any circumstance set forth therein which may be material to the Alternate Payee's entitlement to benefits thereunder or the amount thereof. Until such written notice has been provided to the Committee, the Committee shall be (A) fully protected in not complying with, and in conducting the affairs of the Plan in a manner inconsistent with, the information set forth in the notice, and (B) required to act with respect to such notice prospectively only, and then only to the extent provided for in the Qualified Domestic Relations Order. The Committee shall not be required to modify or reverse any payment, transaction or application of funds occurring before the receipt of any notice that would have affected such payment, transaction or application of funds, nor shall the Committee or any other party be liable for any such payment, transaction or application of funds. (v) Except as specifically provided for in the Qualified Domestic Relations Order, an Alternate Payee shall have no right to interfere with the exercise by the Participant or by any Beneficiary of their respective rights, privileges and obligations under the Plan. (e) For purposes of this Plan, a Qualified Domestic Relations Order means any judgment, decree, or order (including approval of a property settlement agreement) which has been determined by the Committee in accordance with procedures established under the Plan, to constitute a qualified domestic relations order within the meaning of Section 414(p)(1) of the Code and Alternate Payee means any person entitled to current or future payment of benefits under the Plan pursuant to a Qualified Domestic Relations Order. 20.7 Inability to Locate Participant or Beneficiary. If the Committee cannot ascertain the whereabouts of any person to whom a payment is due under the Plan, and if, after five years from the date such payment is due, a notice of such payment due is mailed to the last known address of such person, as shown on the records of the Committee or the Employer, and within three months after such mailing such person has not made written claim therefor, the Committee, if it so elects, may direct that such payment and all remaining payments otherwise due to such person be canceled on the records of the Plan and the amount thereof applied to reduce the contributions of the Employer, and upon such cancellation, the Plan and the Trust Fund shall, to the maximum extent permitted by the Act, have no further liability therefor except that, in the event such person later notifies the Committee of his or her whereabouts and requests the payment or payments due to such person under the Plan, the amount so applied shall be paid to him or her as provided in Section 11. All elections, designations, requests, notices, instructions, and other communications from the Employer, a Participant, Beneficiary, Surviving Spouse or other person to the Committee required or permitted under the Plan shall be in such form as is prescribed from time to time by the Committee, shall be mailed or delivered to such location as shall be specified by the Committee, and shall be deemed to have been given and delivered only upon actual receipt thereof by the Committee at such location. 20.8 Failure to Receive IRS Approval. Notwithstanding any other provision herein, if this Plan shall not be approved by the IRS under the provisions of the Code and the Regulations for any reason (including failure to comply with any condition for such approval imposed by the IRS) contributions made after the restatement of this Plan and prior to such denial shall be returned, without any liability to any person, within one year after the date of denial of such approval. 20.9 Contributions Conditioned on Deductibility. Notwithstanding any other provision herein, all contributions to the Trust Fund are expressly conditioned upon their deductibility under Section 404 of the Code and the Regulations, and in the event of the final disallowance of the deduction for any contribution, in whole or in part, then such contribution (to the extent the deduction is disallowed) shall upon direction of the Committee, which shall be given in conformity with the provisions of the Act, be returned, without liability to any person, within one year after such final disallowance. 20.10 Mistake of Fact. Notwithstanding any other provisions herein, if any contribution is made by a mistake of fact, such contribution shall upon the direction of the Committee, which shall be given in conformity with the provisions of the Act, be returned, without liability to any person, within one year after the payment of such contribution. 20.11 Communications with Committee. All elections, designations, requests, notices, instructions, and other communications from the Employer, a Participant, Beneficiary, Surviving Spouse or other person to the Committee required or permitted under the Plan shall be in such form as is prescribed from time to time by such Committee, shall be mailed by first-class mail or delivered to such location as shall be specified by such Committee, and shall be deemed to have been given and delivered only upon actual receipt thereof by such Committee at such location. 20.12 Communications with Participants and Beneficiaries. All notices, statements, reports and other communications from the Employer or the Committee to any Employee, Participant, Surviving Spouse, Beneficiary or other person required or permitted under the Plan shall be deemed to have been duly given when delivered to, or when mailed by first-class mail, postage prepaid and addressed to, such Employee, Participant, Surviving Spouse, Beneficiary or other person at his or her address last appearing on the records of the Committee. 20.13 Prior Service Credit. Upon such terms and conditions as the Committee may approve, and subject to any required IRS approval, benefits may be provided under the Plan to a Participant with respect to any period of the Participant's prior employment by any organization, and such benefits (and any Service credited with respect to such period of employment under Section 2.25) may be provided for, in whole or in part, by funds transferred, directly or indirectly (including a rollover from an individual retirement account), to the Trust Fund from an employee benefit plan of such organization which qualified under Section 401(a) of the Code. 20.14 Gender and Number. Except where otherwise required by the context, whenever used in the Plan the masculine gender includes the feminine and the singular shall include the plural. 20.15 Headings. The captions preceding the Sections of the Plan have been inserted solely as a matter of convenience and in no way define or limit the scope or intent of any provisions of the Plan. 20.16 Governing Law. The Plan and all rights thereunder shall be governed by and construed in accordance with the Act and, to the extent not inconsistent therewith, the laws of the State of California. 20.17 Severability of Provisions. If any provision of the Plan shall be held invalid or unenforceable, such invalidity or unenforceability shall not affect any other provisions hereof, and the Plan shall be construed and enforced as if such provisions had not been included. 20.18 Heirs, Assigns and Personal Representatives. The Plan shall be binding upon the heirs, executors, administrators, successors and assigns of the parties, including each Participant and Beneficiary, present and future and all persons for whose benefit there exists any QDRO with respect to any Participant (except that no successor to the Plan Sponsor shall be considered a Plan Sponsor unless that successor adopts the Plan). 20.19 Reliance on Data and Consents. The Plan Sponsor, the Employer, each participating Employer, the Board of Directors, the Committee, the Trustee, all fiduciaries with respect to the Plan, and all other persons or entities associated with the operation of the Plan, the management of its assets, and the provision of benefits thereunder, may reasonably rely on the truth, accuracy and completeness of all data provided by any Participant, Surviving Spouse, Beneficiary, and Alternate Payee, including, without limitation, data with respect to age, health and marital status. Furthermore, the Plan Sponsor, the Employer, each participating Employer, the Board of Directors, the Committee, the Trustee, and all fiduciaries with respect to the Plan may reasonably rely on all consents, elections and designations filed with the Plan or those associated with the operation of the Plan and its corresponding Trust by any Participant, Surviving Spouse, Beneficiary, Alternate Payee, or any representative of any such person, without duty to inquire into the genuineness of any such consent, election or designation. None of the aforementioned persons or entities associated with the operation of the Plan, its assets and the benefits provided under the Plan shall have any duty to inquire into any such data, and all may rely on such data being current to the date of reference, it being the duty of the Participants, Surviving Spouses, Beneficiaries and Alternate Payees to advise the appropriate parties of any change in such data. 20.20 Qualified Military Service. Notwithstanding any provision of this Plan to the contrary, contributions, benefits and service credit with respect to qualified military service will be provided in accordance with Section 414(u) of the Code. SECTION 21. APPLICATION TO PUERTO RICO EMPLOYEES 21.1 Modifications Applicable to Puerto Rico. The provisions of this Section shall govern the application of the provisions of the Plan to Participants who are employed by the Company in and are residents of the Commonwealth of Puerto Rico ("Puerto Rico Participants"): (a) Notwithstanding Section 2.25, the definition of "Highly Compensated Participant" shall be a Puerto Rico Participant employed by the Company who receives Compensation that exceeds the Compensation paid to two thirds of the Puerto Rico Participants, as provided in Section 165(e) of the Puerto Rico Income Tax Act; (b) The following shall apply in lieu of the second sentence of Section 5.1(a) hereof: The Salary Reduction Agreement shall provide for Elective Contributions equal to any whole percentage between one percent (1%) and ten Percent (10%) of a Participant's Compensation in any payroll period, not to exceed $7,500 (reduced by any contributions made by the Participant to an IRA) in any calendar year; (c) The Actual Deferral Percentage Test set forth in Section 5.3 shall be applied separately with respect to Puerto Rico Participants. For purposes of applying the Actual Deferral Percentage Test to Puerto Rico Participants, the definition of Highly Compensated Employee contained in subparagraph (a) hereof shall be used; and (d) For purposes of applying subparagraphs (b) and (c) of this Section 21.1, the definition of Compensation contained in Section 2.11 shall be applied without regard to clause (xii) thereof. In all other respects, the terms of this Plan shall apply to Puerto Rico Participants. EX-12.1 6 exh12_1.txt EXHIBIT 12.1
EXHIBIT 12.1 THE CHARLES SCHWAB CORPORATION Computation of Ratio of Earnings to Fixed Charges (Dollar amounts in millions) (Unaudited) Three Months Ended Six Months Ended June 30, June 30, 2001 2000 2001 2000 - ------------------------------------------------------------------------------------------------------------------------------ Earnings (loss) before taxes on earnings (loss) and extraordinary gain $(26) $253 $138 $ 765 Fixed charges Interest expense: Brokerage client cash balances 195 263 460 504 Deposits from banking clients 34 38 74 73 Long-term debt 14 15 29 25 Stock-lending activities 5 11 14 24 Short-term borrowings 5 4 10 7 Other 4 2 3 - ------------------------------------------------------------------------------------------------------------------------------ Total 257 331 589 636 Interest portion of rental expense 23 18 46 34 - ------------------------------------------------------------------------------------------------------------------------------ Total fixed charges (A) 280 349 635 670 - ------------------------------------------------------------------------------------------------------------------------------ Earnings before taxes on earnings and extraordinary gain and fixed charges (B) $254 $602 $773 $1,435 ============================================================================================================================== (2) Ratio of earnings to fixed charges (B) / (A) (1) .9 1.7 1.2 2.1 Ratio of adjusted operating earnings (3) to fixed charges: Ratio of adjusted operating earnings to fixed charges 1.5 1.9 1.5 2.3 Ratio of adjusted operating earnings to fixed charges excluding brokerage client interest expense (4) 2.8 4.8 3.0 6.2 (1) The ratio of earnings to fixed charges is calculated in accordance with SEC requirements. For such purposes, "earnings" consist of earnings (loss) before taxes on earnings (loss) and extraordinary gain and fixed charges. "Fixed charges" consist of interest expense as listed above, including one-third of rental expense, which is estimated to be representative of the interest factor. (2) The amount of the deficiency in the ratio of earnings to fixed charges was $26 million for the three months ended June 30, 2001. (3) Adjusted operating earnings exclude: restructuring and other charges of $145 million for each of the three and six months ended June 30, 2001; merger- and acquisition-related charges of $30 million and $71 million for the three months ended June 30, 2001 and 2000, respectively, and $60 million and $95 million for the six months ended June 30, 2001 and 2000, respectively. (4) Because interest expense incurred in connection with payables to brokerage clients is completely offset by interest revenue on related investments and margin loans, the Company considers such interest to be an operating expense. Accordingly, the ratio of earnings to fixed charges excluding brokerage client interest expense reflects the elimination of such interest expense as a fixed charge.
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