Charles Schwab 2013 Annual Report Download - page 86

THE CHARLES SCHWAB CORPORATION
Notes to Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Option Price Amounts, Ratios, or as Noted)
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Legal contingencies: The Company is subject to claims and lawsuits in the ordinary course of business, including
arbitrations, class actions and other litigation, some of which include claims for substantial or unspecified damages. The
Company is also the subject of inquiries, investigations, and proceedings by regulatory and other governmental agencies.
The Company believes it has strong defenses in all significant matters currently pending and is contesting liability and any
damages claimed. Nevertheless, some of these matters may result in adverse judgments or awards, including penalties,
injunctions or other relief, and the Company may also determine to settle a matter because of the uncertainty and risks of
litigation. Described below are certain matters in which there is a reasonable possibility that a material loss could be incurred
or where the matter may otherwise be of significant interest to stockholders. With respect to all other pending matters, based
on current information and consultation with counsel, it does not appear that the outcome of any such matter could be
material to the financial condition, operating results or cash flows of the Company. However, predicting the outcome of a
litigation or regulatory matter is inherently difficult, requiring significant judgment and evaluation of various factors,
including the procedural status of the matter and any recent developments; prior experience and the experience of others in
similar cases; available defenses, including potential opportunities to dispose of a case on the merits or procedural grounds
before trial (e.g., motions to dismiss or for summary judgment); the progress of fact discovery; the opinions of counsel and
experts regarding potential damages; potential opportunities for settlement and the status of any settlement discussions; and
potential insurance coverage and indemnification. Often, as in the case of the Auction Rate Securities Regulatory Inquiries
and Total Bond Market Fund Litigation matters described below, it is not possible to reasonably estimate potential liability, if
any, or a range of potential liability until the matter is closer to resolution – pending, for example, further proceedings, the
outcome of key motions or appeals, or discussions among the parties. Numerous issues may have to be developed, such as
discovery of important factual matters and determination of threshold legal issues, which may include novel or unsettled
questions of law. Reserves are established or adjusted or further disclosure and estimates of potential loss are provided as the
matter progresses and more information becomes available.
Auction Rate Securities Regulatory Inquiries: Schwab has been responding to industry wide inquiries from federal and state
regulators regarding sales of auction rate securities to clients who were unable to sell their holdings when the normal auction
process for those securities froze unexpectedly in February 2008. On August 17, 2009, a civil complaint was filed against
Schwab in New York state court by the Attorney General of the State of New York (NYAG) alleging material
misrepresentations and omissions by Schwab regarding the risks of auction rate securities, and seeking restitution,
disgorgement, penalties and other relief, including repurchase of securities held in client accounts. As reflected in a statement
issued August 17, 2009, Schwab has responded that the allegations are without merit, and has been contesting all charges. By
order dated October 24, 2011, the court granted Schwab’s motion to dismiss the complaint with prejudice. The NYAG
appealed, and in a decision issued August 29, 2013, the Appellate Division reinstated two of the NYAG’s four causes of
action. On December 31, 2013, the Appellate Division denied a petition by the NYAG for reconsideration and reinstatement
of one of the other two causes of action.
Total Bond Market Fund Litigation: On August 28, 2008, a class action lawsuit was filed in the U.S. District Court for the
Northern District of California on behalf of investors in the Schwab Total Bond Market Fund™ (Northstar lawsuit). The
lawsuit, which alleges violations of state law and federal securities law in connection with the fund’s investment policy,
names Schwab Investments (registrant and issuer of the fund’s shares) and CSIM as defendants. Allegations include that the
fund improperly deviated from its stated investment objectives by investing in collateralized mortgage obligations (CMOs)
and investing more than 25% of fund assets in CMOs and mortgage-backed securities without obtaining a shareholder vote.
Plaintiffs seek unspecified compensatory and rescission damages, unspecified equitable and injunctive relief, costs and
attorneys’ fees. Plaintiffs’ federal securities law claim and certain of plaintiffs’ state law claims were dismissed in
proceedings before the court and following a successful petition by defendants to the Ninth Circuit Court of Appeals. On
August 8, 2011, the court dismissed plaintiffs’ remaining claims with prejudice. Plaintiffs have again appealed to the Ninth
Circuit, where the case is currently pending.
optionsXpress Regulatory Matters: optionsXpress entities and individual employees have been responding to certain pending
regulatory matters which predate the Company’s acquisition of optionsXpress. On April 16, 2012, optionsXpress, Inc. was
charged by the SEC in an administrative proceeding alleging violations of the firm’s close-out obligations under Regulation
SHO (short sale delivery rules) in connection with certain customer trading activity. Following trial, in a decision issued
June 7, 2013, the judge held that optionsXpress violated Regulation SHO and aided and abetted fraudulent trading activity by