Charles Schwab 2008 Annual Report Download - page 21

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THE CHARLES SCHWAB CORPORATION
- 7 -
Developments in the business, economic, and geopolitical environment could negatively impact the Company’s
business.
The Company’s business can be adversely affected by the general environment – economic, corporate, securities market,
regulatory, and geopolitical developments all play a role in client asset valuations, trading activity, interest rates and overall
investor engagement, and are outside of the Company’s control. Deterioration in the housing and credit markets, reductions in
short-term interest rates, and decreases in securities valuations are negatively impacting the Company’s net interest revenue,
asset management and administration fees, and capital resources.
A significant decrease in the Company's liquidity could negatively affect the Company's business and financial
management as well as reduce client confidence in the Company.
Maintaining adequate liquidity is crucial to the business operations of the Company, including margin lending, mortgage
lending, and transaction settlement, among other liquidity needs. The Company meets its liquidity needs primarily through
cash generated by client activity and operating earnings, as well as cash provided by external financing. Fluctuations in client
cash or deposit balances, as well as changes in market conditions, may affect the Company’s ability to meet its liquidity
needs. A reduction in the Company’s liquidity position could reduce client confidence in the Company, which could result in
the loss of client accounts. In addition, if the Company’s broker-dealer or depository institution subsidiaries fail to meet
regulatory capital guidelines, regulators could limit the subsidiaries’ operations or their ability to upstream funds to CSC,
which could reduce CSC’s liquidity and adversely affect its ability to repay debt and pay cash dividends.
Factors which may adversely affect the Company’s liquidity position include a reduction in cash held in banking or brokerage
client accounts and/or a dramatic increase in the Company’s client lending activities (including margin and personal lending).
The Company also experiences liquidity demands as a result of brokerage client asset flows. In the ordinary course of
business, clients’ asset flows between cash balances and investment products and timing differences between when amounts
are segregated for regulatory purposes and when amounts are required to fund settlement of client transactions can create
significant daily changes in the Company’s cash position. The unpredictability of such timing differences and liquidity
demands has increased with recent market conditions as client asset flows have become more volatile.
When cash generated by client activity and operating earnings is not sufficient for the Company’s liquidity needs, the
Company must seek external financing. Due to significant disruptions in the credit and capital markets, potential sources of
external financing have been reduced for many firms, and borrowing costs have increased. Although CSC and Schwab
maintain uncommitted, unsecured bank credit lines and CSC has a commercial paper issuance program, as well as a universal
shelf registration statement filed with the SEC, financing may not be available on acceptable terms or at all due to market
conditions and disruptions in the credit markets. In addition, a significant downgrade in the Company’s credit ratings could
increase its borrowing costs and limit its access to the capital markets.
The Company may suffer significant losses from its credit exposures.
The Company’s businesses are subject to the risk that a client or counterparty will fail to perform its contractual obligations,
or that the value of collateral held to secure obligations will prove to be inadequate. While the Company has policies and
procedures designed to manage this risk, the policies and procedures may not be fully effective. The Company’s exposure
mainly results from margin lending activities, securities lending activities, mortgage lending activities, its role as a
counterparty in financial contracts and investing activities, and indirectly from the investing activities of certain of the
proprietary funds that the Company sponsors.
The Company has exposure to credit risk associated with its securities available for sale portfolio, which includes U.S. agency
and non-agency collateralized mortgage obligations and corporate debt securities among other investments. The Company’s
loans to banking clients primarily consist of first-lien mortgage loans and home equity lines of credit. Housing price declines,
increases in the unemployment rate, increases in delinquency and default rates, changes in the interest rate environment and
other economic factors can result in write-downs on such loans and the loss of value of securities available for sale and
securities held to maturity.