Discover 2010 Annual Report Download - page 38

relatively recent entry into the student loan market. We are relying heavily on the assistance of Citibank, N.A. (“Citi”) and
certain of its affiliates during a transition period for many services to help us transition and integrate the new business,
including services related to operations, technology, marketing and origination. We are also relying on key personnel
from Citi and SLC in the transition process. The ability to maintain operations at current levels would be adversely
impacted if we were to lose the support of Citi or key personnel. If we were to lose the support of Citi, we could
experience interruptions in operations that could negatively impact our ability to meet customer demand for student loan
originations and disbursements, damage our relationships with schools, customers and vendors, and reduce our market
share in the student loan market, all of which could adversely affect our student loan business and results of operations.
The long-term success of our student loan business depends upon our ability to manage the credit risk, pricing, funding and
expenses of a larger student loan portfolio. Our ability to maintain or increase market share is largely dependent upon our
ability to offer competitively priced, desirable loan products, as well as our ability to communicate effectively to prospective
borrowers and schools about these products. We plan to continue to offer competitively priced products by managing our
expenses through building economies of scale, which will reduce our origination and servicing costs. If we are unable to
integrate the new business well and at a reasonable cost, it may have a negative impact on our results of operations, affect
our competitive position in the marketplace and prevent us from sustaining and growing our student loan business.
Our framework for managing risks may not be effective in mitigating our risk of loss.
Our risk management framework seeks to mitigate risk and appropriately balance risk and return. We have
established processes and procedures intended to identify, measure, monitor and report the types of risk to which we are
subject, including credit risk, market risk, liquidity risk, operational risk, legal and compliance risk, and strategic risk. We
seek to monitor and control our risk exposure through a framework of policies, procedures and reporting requirements.
Management of our risks in some cases depends upon the use of analytical and/or forecasting models. If the models that
we use to mitigate these risks are inadequate, we may incur increased losses. In addition, there may be risks that exist, or
that develop in the future, that we have not appropriately anticipated, identified or mitigated. If our risk management
framework does not effectively identify or mitigate our risks, we could suffer unexpected losses and could be materially
adversely affected.
Our business depends on our ability to manage our credit risk, and failing to manage this risk successfully may result
in high charge-off rates, which would materially adversely affect our business, profitability and financial condition.
Our success depends on our ability to manage our credit risk while attracting new customers with profitable usage
patterns. We select our customers, manage their accounts and establish terms and credit limits using proprietary scoring
models and other analytical techniques that are designed to set terms and credit limits to appropriately compensate us for
the credit risk we accept, while encouraging customers to use their available credit. The models and approaches we use
may not accurately predict future charge-offs due to, among other things, inaccurate assumptions. While we continually
seek to improve our assumptions and models, we may make modifications that unintentionally cause them to be less
predictive or incorrectly interpret the data produced by these models in setting our credit policies.
Our ability to manage credit risk and avoid high charge-off rates may be adversely affected by economic conditions
that may be difficult to predict. The full-year net charge-off rate was 7.57% in 2010, down from the full-year net
charge-off rate of 7.77% in 2009, as adjusted. At November 30, 2010 and 2009 as adjusted, $1.2 billion, or 2.42%,
and $1.7 billion, or 3.26%, of our loan receivables were non-performing (defined as loans over 90 days delinquent and
accruing interest plus loans not accruing interest). Although credit performance improved in 2010, we remain subject to
conditions in the consumer credit environment. There can be no assurance that our underwriting and portfolio
management strategies will permit us to avoid high charge-off levels, or that our provision for loan losses will be sufficient
to cover actual losses.
A customer’s ability to repay us can be negatively impacted by increases in their payment obligations to other lenders
under mortgage, credit card and other consumer loans. Such changes can result from increases in base lending rates or
structured increases in payment obligations, and could reduce the ability of our customers to meet their payment
obligations to other lenders and to us. In addition, a customer’s ability to repay us can be negatively impacted by the
restricted availability of credit to consumers generally, including reduced and closed lines of credit. Customers with
insufficient cash flow to fund daily living expenses and lack of access to other sources of credit may be more likely to
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