Note 1: Business Developments and Risks and Uncertainties

Summary

MBIA Inc., together with its consolidated subsidiaries, (collectively, “MBIA” or the “Company”) operates one of the largest financial guarantee insurance businesses in the industry and is a provider of asset management advisory services. These activities are managed through three business segments: United States (“U.S.”) public finance insurance; structured finance and international insurance; and advisory services. The Company’s U.S. public finance insurance business is primarily operated through National Public Finance Guarantee Corporation and its subsidiaries (“National”), its structured finance and international insurance business is primarily operated through MBIA Insurance Corporation and its subsidiaries (“MBIA Corp.”), and its asset management advisory services business is primarily operated through Cutwater Holdings, LLC and its subsidiaries (“Cutwater”). The holding company, MBIA, and certain of its subsidiaries also manage certain other business activities, the results of which are reported in its corporate, asset/liability products, and conduit segments. The corporate segment includes revenues and expenses that arise from general corporate activities. While the asset/liability products and conduit businesses represent separate business segments, they may be referred to collectively as “wind-down operations” as the funding programs managed through those businesses are in wind-down. Refer to “Note 12: Business Segments” for further information about the Company’s reporting segments.

Business Developments

As a result of insured losses and realized investment losses during the period from 2007 through December 31, 2012, the Company has seen ratings downgrades, a near cessation of new insurance business, and increasing liquidity pressure. The Company has been unable to write meaningful amounts of new insurance business since 2008 and does not expect to write significant new insurance business prior to an upgrade of the credit ratings of National. As of December 31, 2012, National was rated BBB with a developing outlook by Standard & Poor’s Financial Services LLC (“S&P”) and Baa2 with a negative outlook by Moody’s Investors Service, Inc. (“Moody’s”).

As of December 31, 2012, the liquidity position of MBIA, which consists of the liquidity positions of the Company’s corporate segment and asset/liability products segment, was $239 million compared with $386 million as of December 31, 2011. In the fourth quarter of 2012, the Company repurchased approximately $172 million of its unsecured senior debt on a reverse inquiry basis. Subsequent to December 31, 2012, $115 million was released from an escrow account under the MBIA group’s tax sharing agreement (the “Tax Escrow Account”), which is an increase to MBIA’s liquidity position. Management believes that MBIA can support its operating needs for the foreseeable future primarily from anticipated releases of assets from the Tax Escrow Account, which releases are subject to the risk of National incurring tax losses in the future and declines in the value of the assets held in the Tax Escrow Account.

During the fourth quarter of 2012, MBIA successfully completed a consent solicitation pursuant to which it received the consent of MBIA Inc. senior noteholders to amend the indentures pursuant to which its senior notes were issued. Refer to “Note 10: Debt” for information about these amendments. The purpose of the consent solicitation was to avoid the risk of a substantial value erosion of the Company in the event of the initiation of an MBIA Insurance Corporation rehabilitation or liquidation by the New York State Department of Financial Services (“NYSDFS”) (an “MBIA Corp. Proceeding”). There is pending litigation challenging the validity of the aforementioned amendments. Refer to “Note 20: Commitments and Contingencies” for a description of this litigation.

During the year ended December 31, 2012, MBIA Corp. continued to seek to reduce both the absolute amount and the volatility of its obligations and potential future claim payments through the execution of commutations of insurance policies. The combination of the failure of certain mortgage originators to honor contractual obligations to repurchase ineligible mortgage loans from securitizations the Company insured, commutation payments to reduce liabilities and claim payments has increased liquidity pressure on MBIA Corp. The failure of certain mortgage originators, primarily Bank of America/Countrywide, to repurchase ineligible mortgages from securitizations the Company insured represents significant breaches of their contractual obligations. As of December 31, 2012 and 2011, MBIA Corp.’s cash and liquid assets were $345 million and $534 million, respectively. The Company believes MBIA Corp.’s current liquidity position is adequate to make expected future claim payments assuming its insured commercial mortgage-backed securities (“CMBS”) exposures held by Bank of America/Merrill Lynch are commuted as part of a settlement of MBIA’s put-back claims against Bank of America. No assurance can be given as to whether such a settlement can be timely reached. In the absence of collecting a substantial amount of its put-back recoverables and in light of the potential for substantial claims in the near-term on its insured CMBS exposure, the related liquidity stress to MBIA Corp. could result in an MBIA Corp. Proceeding.

During the year ended December 31, 2012, MBIA Corp. made $1.2 billion in gross claim payments, and commuted $13.4 billion of gross insured exposure, primarily comprising structured CMBS pools, commercial real estate (“CRE”) collateralized debt obligations (“CDOs”), investment grade corporate CDOs, asset-backed securities (“ABS”) CDOs, and subprime residential mortgage-backed securities (“RMBS”) transactions.

The reference herein to “ineligible” mortgage loans refers to those mortgage loans that the Company believes failed to comply with the representations and warranties made by the sellers/servicers of the securitizations to which those mortgage loans were sold (including mortgage loans that failed to comply with the related underwriting criteria), based on the Company’s assessment of such mortgage loans’ compliance with such representations and warranties, which included information provided by third-party review firms. The sellers/servicers have contractual obligations to cure, repurchase or replace such ineligible mortgage loans. These expected recoveries are generally referred to as “put-backs”, and are calculated based on the Company’s assessment of a range of possible collection outcomes. The Company’s assessment of the ineligibility of individual mortgage loans has been challenged by the sellers/servicers of the securitizations in litigation and there is no assurance that the Company’s determinations will prevail.

Risks and Uncertainties

The Company’s financial statements include estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. The outcome of certain significant risks and uncertainties could cause the Company to revise its estimates and assumptions or could cause actual results to differ from the Company’s estimates. While the Company believes it continues to have sufficient capital and liquidity to meet all of its expected obligations, if one or more possible adverse outcomes were to be realized, its statutory capital, financial position, results of operations and cash flows could be materially and adversely affected. Significant risks and uncertainties that could affect amounts reported in the Company’s financial statements in future periods include, but are not limited to, the following:

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Management’s expected liquidity and capital forecast for MBIA Corp. for 2013 reflects adequate resources to pay expected claims. However, there is a significant risk to this forecast as the Company’s forecast assumes a settlement with Bank of America including a commutation of insured CMBS exposure, as well as a collection of a substantial portion of MBIA’s put-back recoverable recorded against Bank of America/Countrywide. The Company believes that a timely settlement will occur because it believes a comprehensive settlement is in the best interests of MBIA Corp. and Bank of America. If, however, MBIA Corp. is not able to reach a comprehensive settlement with Bank of America and Bank of America’s subsidiary, Merrill Lynch, presents substantial claims on its policies covering CMBS pools, MBIA Corp. may have insufficient resources to cover Bank of America’s claims. While no claims have been made on these CMBS exposures to date, given the significant erosion of the deductible in some of the underlying insured credit default swaps (“CDS”), the Company expects that Bank of America /Merrill Lynch will have the ability to make a claim in the near term. In addition, Bank of America/Merrill Lynch is also one of two remaining plaintiffs in the litigation challenging the establishment of National (“Transformation Litigation”), and developments in this litigation may impact the amount MBIA ultimately collects in a comprehensive settlement. While management believes it is more likely than not that a settlement will be reached, which would alleviate its liquidity risk, there can be no assurance such a settlement will be reached timely on mutually acceptable terms. As a result of the risk that MBIA may not reach a settlement with Bank of America within a reasonable period of time, management has concluded that there is a significant risk of an MBIA Corp. Proceeding. In the event of an MBIA Corp. Proceeding, the Company may be subject to, among other things, the following:

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Medium-term notes (“MTNs”) issued by MBIA’s subsidiaries MBIA Global Funding, LLC (“GFL”) and Meridian Global Funding, LLC (“Meridian”), which are insured by MBIA Corp., would accelerate. To the extent GFL failed to pay the accelerated amounts under the GFL MTNs or the collateral securing the Meridian MTNs was deemed insufficient to pay the accelerated amounts under the Meridian MTNs, the MTN holders would have policy claims against MBIA Corp. for scheduled payments of interest and principal;

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An MBIA Corp. Proceeding may accelerate certain investment agreements issued by MBIA Inc., including, in some cases, with make-whole payments. While the investment agreements are fully collateralized with high quality collateral, the settlements of these amounts could reduce MBIA Inc.’s liquidity resources, and to the extent MBIA fails to pay the accelerated amounts under these investment agreements or the collateral securing these investment agreements is deemed insufficient to pay the accelerated amounts due, the holders of the investment agreements would have policy claims against MBIA Corp.;

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CDS counterparties may seek to terminate CDS contracts insured by MBIA Corp. and make market-based damage claims (irrespective of whether actual credit-related losses are expected under the underlying exposure), which claims could aggregate $7.0 billion or more. The Company believes that such an acceleration would likely eliminate any residual value in MBIA Corp.;

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The Company may be unable to carry out its tax planning strategies as a result of an MBIA Corp. Proceeding. This may cause the Company to record additional allowances against a portion or all of its deferred tax assets. Refer to “Note 11: Income Taxes” for information about the Company’s deferred tax assets. In addition, the Company currently files a consolidated tax return. An MBIA Corp. Proceeding could result in challenges to the tax sharing arrangement among the MBIA affiliates that might adversely affect the Company’s ability to manage taxes efficiently;

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The rehabilitator or liquidator would replace the Board of Directors of MBIA Corp. and take control of the operations and assets of MBIA Corp., which would result in MBIA Inc. losing control of MBIA Corp. and possible changes to MBIA Corp.’s strategies and management;

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An MBIA Corp. Proceeding would be an event of default under the secured loan from National to MBIA Corp. (“National Secured Loan”). While National has a perfected interest in the assets pledged to secure the loan and the Company expects that National will be repaid in full from the assets pledged to secure the loan, an MBIA Corp. Proceeding could result in challenges to National’s ability to collect amounts due under the loan and in a delay in National’s ability to realize on the collateral securing the loan. Impairment of the National Secured Loan could materially adversely affect National’s capital position and results of operations, its ratings, its plan to re-enter the municipal bond insurance business;

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An MBIA Corp. Proceeding may impose unplanned costs on MBIA Inc. In addition, MBIA Corp. would be subject to significant additional expenses arising from the appointment of a rehabilitator or liquidator, as receiver, and payment of the fees and expenses of the advisors to such rehabilitator or liquidator; and

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While MBIA Inc.’s senior note indentures were amended in November 2012 such that an MBIA Corp. Proceeding would not constitute an event of default, Bank of America has initiated pending litigation regarding the validity of those amendments, and there can be no assurance that the validity of those amendments would be upheld. If the amendments were to be overturned, MBIA Inc.’s senior debt may be accelerated if an MBIA Corp. Proceeding were to occur.

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Management believes that MBIA Inc. has sufficient liquidity resources to meet all of its obligations for the foreseeable future. However, MBIA Inc. may not have sufficient liquidity to make all payments due on its liabilities and to meet other financial requirements, such as posting collateral, primarily as a result of invested asset performance and a potential inadequacy of dividends from its principal operating subsidiaries. In order to meet liquidity requirements, MBIA Inc. may finance unencumbered assets through intercompany or third-party facilities, in some cases with NYSDFS approval, or use free cash or other assets, although there can be no assurance that these strategies will be available or adequate. A failure by MBIA Inc. to settle liabilities that are also insured by MBIA Corp. could result in claims on MBIA Corp.

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Incurred losses from insured RMBS have declined from their peaks. However, due to the large percentage of ineligible mortgage loans included within the MBIA Corp. insured second-lien portfolio, performance remains difficult to predict and losses could ultimately be in excess of MBIA Corp.’s current estimated loss reserves. In addition, MBIA Corp.’s efforts to recover losses from second-lien RMBS originators, including but not limited to Bank of America, could be delayed, settled at amounts below its contractual claims or potentially settled at amounts below those recorded in its financial statements. Refer to “Note 6: Loss and Loss Adjustment Expense Reserves” for information about MBIA Corp.’s RMBS reserves and recoveries.

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Further economic stress might cause increases in MBIA Corp.’s loss estimates on its remaining exposure, particularly within its higher risk structured CMBS pool and ABS CDO exposures. As of December 31, 2012, MBIA Corp.’s CMBS pool gross par outstanding, including exposure held by Bank of America, and ABS CDO gross par outstanding was approximately $15.6 billion and $4.3 billion, respectively. The Company’s primary strategy for managing its CMBS pool and ABS CDO exposures has been commutations. Consistent with this strategy, in the fourth quarter of 2012, MBIA Corp. agreed with a CDS counterparty on a commutation of certain potentially volatile policies insuring ABS CDO, structured CMBS pools and CRE CDO transactions. The agreement was subject to the approval by the NYSDFS of a request to draw on the National Secured Loan in order to finance the commutation, as well as the receipt by MBIA Corp. of confirmation from the NYSDFS of its non-disapproval of the commutation. MBIA Corp. requested the NYSDFS to confirm its non-disapproval of the commutation and for approval of a loan under the National Secured Loan or for approval of an alternative financing structure to finance the commutation. Subsequent to December 31, 2012, those requests were denied. The Company’s ability to commute insured transactions is limited by available liquidity, including the availability of intercompany loans under the National Secured Loan and the use of other available financing structures and liquidity, all of which could be subject to regulatory approval by the NYSDFS. There can be no assurance that the Company will be able to fund further commutations by borrowing from National or otherwise. Refer to “Note 6: Loss and Loss Adjustment Expense Reserves” for information about the Company’s estimate of losses on its exposures.

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As of December 31, 2012, MBIA Corp. was not in compliance with a requirement under New York Insurance Law (“NYIL”) to hold qualifying assets in an amount at least equal to its insurance liabilities. In order to be in compliance, MBIA Corp. has requested approval from the NYSDFS to release a portion of its contingency reserves but, to date, has not received approval. In addition, as of September 30, 2012 and December 31, 2012, MBIA Corp. exceeded its aggregate risk limits under NYIL. MBIA Corp. has filed a formal notification with the NYSDFS regarding the overage and submitted a plan to achieve compliance with its limits. While the NYSDFS has not taken action against MBIA Corp., the NYSDFS may restrict MBIA Corp. from making commutation or other payments or may impose other remedial actions for failing to meet these requirements.

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Litigation over the NYSDFS approval of National’s creation or additional hurdles to achieving high stable ratings may continue to impede National’s ability to resume writing municipal bond insurance, reducing its long-term ability to generate capital and cash from operations. An adverse result in the litigation could result in a cessation of National’s ability to write new business and a material adverse effect on National and the Company.

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In the event the economy and the markets to which MBIA is exposed do not improve, or decline, the unrealized losses on insured credit derivatives could increase, causing additional stress in the Company’s reported financial results. In addition, volatility in the relationship between MBIA’s credit spreads and those on underlying collateral assets of insured credit derivatives can create significant unrealized gains and losses on the Company’s reported results of operations. Refer to “Note 7: Fair Value of Financial Instruments” for information about the Company’s valuation of insured credit derivatives.