SCHW 10-Q Quarterly Report Sept. 30, 2018 | Alphaminr
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SCHW 10-Q Quarter ended Sept. 30, 2018

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SCHWAB CHARLES CORP
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10-Q 1 schw-09302018x10q.htm 10-Q Document


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 September 30, 2018

Commission File Number: 1-9700

THE  CHARLES  SCHWAB  CORPORATION
(Exact name of registrant as specified in its charter)
Delaware
(State or other jurisdiction
of incorporation or organization)
94-3025021
(I.R.S. Employer Identification No.)

211 Main Street, San Francisco, CA  94105
(Address of principal executive offices and zip code)

Registrant’s telephone number, including area code:  (415) 667-7000

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 ☒  No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).
Yes ☒   No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ☒
Accelerated filer ☐
Non-accelerated filer ☐
Smaller reporting company ☐
Emerging growth company ☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the
Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes ☐ No ☒

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
1,350,452,801 shares of $.01 par value Common Stock Outstanding on October 31, 2018


THE CHARLES SCHWAB CORPORATION

Quarterly Report on Form 10-Q
For the Quarter Ended September 30, 2018



Index







Part I – FINANCIAL INFORMATION

THE CHARLES SCHWAB CORPORATION
Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Tabular Amounts in Millions, Except Ratios, or as Noted)



Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

INTRODUCTION

The Charles Schwab Corporation (CSC) is a savings and loan holding company engaged, through its subsidiaries, in wealth management, securities brokerage, banking, asset management, custody, and financial advisory services.

Significant business subsidiaries of CSC include the following:

•
Charles Schwab & Co., Inc. (CS&Co), a securities broker-dealer;
•
Charles Schwab Bank (CSB), a federal savings bank; and
•
Charles Schwab Investment Management, Inc. (CSIM), the investment advisor for Schwab’s proprietary mutual funds (Schwab Funds ® ) and Schwab’s exchange-traded funds (Schwab ETFs™).

Unless otherwise indicated, the terms “Schwab,” “the Company,” “we,” “us,” or “our” mean CSC together with its consolidated subsidiaries.

Schwab provides financial services to individuals and institutional clients through two segments – Investor Services and Advisor Services. The Investor Services segment provides retail brokerage and banking services to individual investors, and retirement plan services, as well as other corporate brokerage services, to businesses and their employees. The Advisor Services segment provides custodial, trading, banking, and support services, as well as retirement business services, to independent registered investment advisors (RIAs), independent retirement advisors, and recordkeepers.
Schwab was founded on the belief that all Americans deserve access to a better investing experience. Although much has changed in the intervening years, our purpose remains clear – to champion every client’s goals with passion and integrity. Guided by this purpose and the aspiration of creating the most trusted leader in investment services, management has adopted a strategy described as “Through Clients’ Eyes.”

This strategy emphasizes placing clients’ perspectives, needs, and desires at the forefront. Because investing plays a fundamental role in building financial security, we strive to deliver a better investing experience for our clients – individual investors and the people and institutions who serve them – by disrupting longstanding industry practices on their behalf and providing superior service. We also aim to offer a broad range of products and solutions to meet client needs with a focus on transparency, value, and trust. In addition, management works to couple Schwab’s scale and resources with ongoing expense discipline to keep costs low and ensure that products and solutions are affordable as well as responsive to client needs. In combination, these are the key elements of our “no trade-offs” approach to serving investors. We believe that following this strategy is the best way to maximize our market valuation and stockholder returns over time.

Management estimates that investable wealth in the United States (consisting of assets in defined contribution, retail wealth management and brokerage, and registered investment advisor channels, along with bank deposits) currently exceeds $45 trillion, which means the Company’s $3.56 trillion in client assets leaves substantial opportunity for growth. Our strategy is based on the principle that developing trusted relationships will translate into more assets from both new and existing clients, ultimately driving more revenue, and along with expense discipline, will generate earnings growth and build long-term stockholder value.

This Management’s Discussion and Analysis should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended December 31, 2017 ( 2017 Form 10-K).

On our website, www.aboutschwab.com , we post the following filings after they are electronically filed with or furnished to the Securities and Exchange Commission (SEC): annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and any amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934. The SEC maintains a website at www.sec.gov that contains reports, proxy, and other information that we file electronically with the SEC.

- 1 -


THE CHARLES SCHWAB CORPORATION
Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Tabular Amounts in Millions, Except Ratios, or as Noted)




FORWARD-LOOKING STATEMENTS
In addition to historical information, 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,” “anticipate,” “expect,” “intend,” “plan,” “will,” “may,” “estimate,” “appear,” “could,” “would,” 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 estimates based on the best judgment of Schwab’s senior management. These statements relate to, among other things:
•
Maximizing our market valuation and stockholder returns over time; our belief that developing trusted relationships will translate into more client assets which drives revenue and, along with expense discipline, generates earnings growth and builds stockholder value (see Introduction in Part I, Item 2);
•
Ongoing investments to drive growth and efficiency (see Overview);
•
Capital expenditures in 2018 (see Results of Operations);
•
Consolidated balance sheet assets remaining above $250 billion (see Risk Management and Capital Management);
•
The expected impact of new accounting standards not yet adopted (see New Accounting Standards in Part I, Item 1, Financial Information – Notes to Condensed Consolidated Financial Statements (Item 1) – Note 2);
•
The likelihood of indemnification and guarantee payment obligations (see Commitments and Contingencies in Item 1 – Note 9); and
•
The impact of legal proceedings and regulatory matters (see Commitments and Contingencies in Item 1 – Note 9 and Legal Proceedings in Part II, Item 1).

Achievement of the expressed beliefs, objectives, and expectations described in these statements is subject to certain risks and uncertainties that could cause actual results to differ materially from the expressed beliefs, objectives, and expectations. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this Quarterly Report on Form 10-Q or, in the case of documents incorporated by reference, as of the date of those documents.

Important factors that may cause actual results to differ include, but are not limited to:
•
General market conditions, including the level of interest rates, equity valuations, and trading activity;
•
Our ability to attract and retain clients, develop trusted relationships, and grow client assets;
•
Client use of our advice solutions and other products and services;
•
The level of client assets, including cash balances;
•
Competitive pressure on pricing, including deposit rates;
•
Client sensitivity to interest rates;
•
Regulatory guidance;
•
Timing and amount of transfers of certain balances from sweep money market funds into bank sweep deposits;
•
Capital and liquidity needs and management;
•
Our ability to manage expenses;
•
Our ability to develop and launch new products, services, and capabilities, as well as implement infrastructure, in a timely and successful manner;
•
The effect of adverse developments in litigation or regulatory matters and the extent of any related charges; and
•
Potential breaches of contractual terms for which we have indemnification and guarantee obligations.

Certain of these factors, as well as general risk factors affecting the Company, are discussed in greater detail in Part I – Item 1A – Risk Factors in the 2017 Form 10-K.



- 2 -


THE CHARLES SCHWAB CORPORATION
Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Tabular Amounts in Millions, Except Ratios, or as Noted)


OVERVIEW
Management focuses on several client activity and financial metrics in evaluating Schwab’s financial position and operating performance. Results for the third quarters and first nine months of 2018 and 2017 are:
Three Months Ended September 30,
Percent
Change
Nine Months Ended September 30,
Percent
Change
2018
2017
2018
2017
Client Metrics
Net new client assets (in billions) (1)
$
53.5

$
51.6

4
%
$
78.6

$
155.0

(49
)%
Core net new client assets (in billions)
$
53.5

$
51.6

4
%
$
172.5

$
136.7

26
%
Client assets (in billions, at quarter end)
$
3,563.7

$
3,181.2

12
%

Average client assets (in billions)
$
3,508.1

$
3,107.8

13
%
$
3,420.2

$
2,986.3

15
%
New brokerage accounts (in thousands)
369

336

10
%
1,196

1,055

13
%
Active brokerage accounts (in thousands, at quarter end)
11,423

10,565

8
%
Assets receiving ongoing advisory services (in billions, at quarter end)
$
1,851.9

$
1,613.6

15
%
Client cash as a percentage of client assets (at quarter end)
10.3
%
11.1
%


Company Financial Metrics



Total net revenues
$
2,579

$
2,165

19
%
$
7,463

$
6,376

17
%
Total expenses excluding interest
1,360

1,220

11
%
4,111

3,679

12
%
Income before taxes on income
1,219

945

29
%
3,352

2,697

24
%
Taxes on income
296

327

(9
)%
780

940

(17
)%
Net income
923

618

49
%
2,572

1,757

46
%
Preferred stock dividends and other
38

43

(12
)%
128

127

1
%
Net income available to common stockholders
$
885

$
575

54
%
$
2,444

$
1,630

50
%
Earnings per common share — diluted
$
.65

$
.42

55
%
$
1.79

$
1.21

48
%
Net revenue growth from prior year
19
%
13
%

17
%
16
%
Pre-tax profit margin
47.3
%
43.6
%

44.9
%
42.3
%
Return on average common stockholders’ equity
20
%
15
%

19
%
15
%
Expenses excluding interest as a percentage of average client
assets (annualized)
0.15
%
0.16
%
0.16
%
0.16
%
Consolidated Tier 1 Leverage Ratio (at quarter end)
7.5
%
7.7
%
(1) The first nine months of 2018 includes outflows of $93.9 billion from certain mutual fund clearing services clients. The first nine months of 2017 includes inflows of $18.3 billion from certain mutual fund clearing services clients.

Net income grew 49% and 46% for the third quarter and first nine months of 2018 , respectively, compared to the same periods in 2017 , driven primarily by business momentum, a generally favorable economic environment, and lower corporate income taxes. Total net revenues rose 19% and 17% in the third quarter and first nine months of 2018 , respectively, compared to the same periods in 2017 , primarily due to higher net interest revenue as a result of higher interest rates and larger client cash sweep balances. Total expenses excluding interest grew 11% and 12% during the third quarter and first nine months of 2018 , respectively, compared to the same periods in 2017 , reflecting hiring to support the Company’s expanding client base and ongoing investments for driving growth and efficiency. Pre-tax income increased 29% and 24% in the third quarter and first nine months of 2018 , respectively, compared to the same periods in 2017 , delivering a 44.9% pre-tax profit margin for the first nine months of 2018 .

Taxes on income decreased 9% and 17% for the third quarter and first nine months of 2018 , compared to the same periods in 2017, resulting in effective tax rates of 24.3% and 23.3% for the third quarter and first nine months of 2018 , respectively. The reduction in taxes on income was due to the Tax Act of 2017, which lowered the federal corporate income tax rate from 35% to 21% effective January 1, 2018.

During the third quarter of 2018 , clients opened 369,000 new brokerage accounts, helping to bring active brokerage accounts to 11.4 million at September 30, 2018 . Core net new assets gathered during the third quarter of 2018 were $53.5 billion , compared to $51.6 billion for the same period a year ago. Client engagement remained strong during the third quarter of 2018 , with daily average revenue trades rising 22% from the same period in 2017 .

- 3 -


THE CHARLES SCHWAB CORPORATION
Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Tabular Amounts in Millions, Except Ratios, or as Noted)


During the third quarter of 2018 , we effectively managed our balance sheet to support both growth and solid financial performance. The consolidated balance sheet reached $272 billion of assets at September 30, 2018 , a $10 billion quarterly increase, largely driven by bank sweep transfers and client activity. We transferred balances totaling $23 billion from sweep money market funds to bank sweep in the quarter, bringing our 2018 transfers to $68 billion and leaving $33 billion remaining in sweep money market funds at September 30, 2018 . In July 2018, the Board of Directors declared a 30% increase in the quarterly cash dividend to $.13 per common share. We finished the quarter with a Tier 1 Leverage Ratio of 7.5% , and we lifted our return on equity to 20% and 19% for the third quarter and first nine months of 2018 , respectively, compared to 15% for the same periods in 2017 .

Subsequent Events

On October 25, 2018, CSC’s Board of Directors terminated the existing two share repurchase authorizations and replaced them with a new authorization to repurchase up to a total of $1.0 billion of common stock.

On October 31, 2018, CSC issued $500 million aggregate principal amount of Senior Notes that mature in 2024 and $600 million aggregate principal amount of Senior Notes that mature in 2029 under its universal shelf registration statement on file with the SEC. The Senior Notes due 2024 have a fixed interest rate of 3.550% with interest payable semi-annually. The Senior Notes due 2029 have a fixed interest rate of 4.000% with interest payable semi-annually.
Current Regulatory Environment and Other Developments

On October 31, 2018, the Board of Governors of the Federal Reserve System (Federal Reserve) issued a notice of proposed rulemaking and the Federal Reserve, the Office of the Comptroller of Currency (OCC), and the Federal Deposit Insurance Corporation (FDIC) jointly issued another notice of proposed rulemaking. The two proposals would establish a revised framework for applying enhanced prudential standards to large U.S. banking organizations, including savings and loan holding companies such as CSC, with four categories of standards that reflect the risks of banking organizations in each group. CSC would be in Category III based on having $250 billion – $700 billion in total assets . The comment period for both proposed rules ends on January 22, 2019 and we are currently evaluating the impact of the proposed rules.


- 4 -


THE CHARLES SCHWAB CORPORATION
Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Tabular Amounts in Millions, Except Ratios, or as Noted)


RESULTS OF OPERATIONS

Total Net Revenues

The following tables present a comparison of revenue by category:
2018
2017
Three Months Ended September 30,
Percent
Change
Amount
% of
Total Net
Revenues
Amount
% of
Total Net
Revenues
Net interest revenue
Interest revenue
49
%
$
1,755

68
%
$
1,176

54
%
Interest expense
143
%
(228
)
(9
)%
(94
)
(4
)%
Net interest revenue
41
%
1,527

59
%
1,082

50
%
Asset management and administration fees
Mutual funds and ETF service fees
(16
)%
435

17
%
519

24
%
Advice solutions
11
%
294

11
%
265

12
%
Other
4
%
80

3
%
77

4
%
Asset management and administration fees
(6
)%
809

31
%
861

40
%
Trading revenue
Commissions
14
%
155

6
%
136

6
%
Principal transactions
40
%
21

1
%
15

1
%
Trading revenue
17
%
176

7
%
151

7
%
Other
(6
)%
67

3
%
71

3
%
Total net revenues
19
%
$
2,579

100
%
$
2,165

100
%
2018
2017
Nine Months Ended September 30,
Percent
Change
Amount
% of
Total Net
Revenues
Amount
% of
Total Net
Revenues
Net interest revenue
Interest revenue
42
%
$
4,766

64
%
$
3,358

52
%
Interest expense
155
%
(569
)
(8
)%
(223
)
(3
)%
Net interest revenue
34
%
4,197

56
%
3,135

49
%
Asset management and administration fees





Mutual funds and ETF service fees
(10
)%
1,386

19
%
1,538

24
%
Advice solutions
12
%
859

11
%
765

12
%
Other
1
%
229

3
%
226

4
%
Asset management and administration fees
(2
)%
2,474

33
%
2,529

40
%
Trading revenue
Commissions
10
%
501

7
%
456

7
%
Principal transactions
27
%
56

1
%
44

1
%
Trading revenue
11
%
557

8
%
500

8
%
Other
11
%
235

3
%
212

3
%
Total net revenues
17
%
$
7,463

100
%
$
6,376

100
%



- 5 -


THE CHARLES SCHWAB CORPORATION
Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Tabular Amounts in Millions, Except Ratios, or as Noted)


Net Interest Revenue

The following tables present net interest revenue information corresponding to interest-earning assets and funding sources on the condensed consolidated balance sheets:
2018
2017
Three Months Ended September 30,
Average Balance
Interest Revenue/ Expense
Average Yield/ Rate
Average Balance
Interest Revenue/ Expense
Average Yield/ Rate
Interest-earning assets
Cash and cash equivalents
$
18,623

$
94

1.98
%
$
10,498

$
33

1.25
%
Cash and investments segregated
10,253

51

1.94
%
17,355

44

1.01
%
Broker-related receivables
307

1

1.94
%
459

1

0.96
%
Receivables from brokerage clients
20,224

217

4.19
%
16,498

151

3.63
%
Available for sale securities (1)
55,283

328

2.34
%
45,906

187

1.62
%
Held to maturity securities
137,065

887

2.57
%
107,557

606

2.24
%
Bank loans
16,579

142

3.43
%
16,058

122

3.01
%
Total interest-earning assets
258,334

1,720

2.63
%
214,331

1,144

2.12
%
Other interest revenue
35

32

Total interest-earning assets
$
258,334

$
1,755

2.69
%
$
214,331

$
1,176

2.18
%
Funding sources
Bank deposits
$
208,666

$
158

0.30
%
$
163,039

$
49

0.12
%
Payables to brokerage clients
20,595

16

0.31
%
24,833

6

0.10
%
Short-term borrowings
—

—

—

1,695

6

1.40
%
Long-term debt
5,790

51

3.52
%
3,436

30

3.46
%
Total interest-bearing liabilities
235,051

225

0.38
%
193,003

91

0.19
%
Non-interest-bearing funding sources
23,283

21,328

Other interest expense
3

3

Total funding sources
$
258,334

$
228

0.36
%
$
214,331

$
94

0.18
%
Net interest revenue
$
1,527

2.33
%
$
1,082

2.00
%
2018
2017
Nine Months Ended September 30,
Average Balance
Interest Revenue/ Expense
Average Yield/ Rate
Average Balance
Interest Revenue/ Expense
Average Yield/ Rate
Interest-earning assets
Cash and cash equivalents
$
16,164

$
217

1.78
%
$
9,375

$
72

1.03
%
Cash and investments segregated
12,002

149

1.64
%
19,609

120

0.82
%
Broker-related receivables
324

4

1.62
%
428

2

0.74
%
Receivables from brokerage clients
19,629

600

4.03
%
15,861

415

3.50
%
Available for sale securities (1)
52,797

859

2.16
%
55,070

615

1.49
%
Held to maturity securities
129,490

2,420

2.48
%
99,523

1,691

2.27
%
Bank loans
16,522

410

3.31
%
15,764

347

2.94
%
Total interest-earning assets
246,928

4,659

2.50
%
215,630

3,262

2.02
%
Other interest revenue
107

96

Total interest-earning assets
$
246,928

$
4,766

2.56
%
$
215,630

$
3,358

2.08
%
Funding sources
Bank deposits
$
193,010

$
339

0.23
%
$
163,475

$
98

0.08
%
Payables to brokerage clients
21,591

37

0.23
%
26,198

11

0.06
%
Short-term borrowings
4,488

54

1.59
%
1,475

11

1.00
%
Long-term debt
5,053

131

3.46
%
3,349

89

3.55
%
Total interest-bearing liabilities
224,142

561

0.33
%
194,497

209

0.14
%
Non-interest-bearing funding sources
22,786

21,133

Other interest expense
8

14

Total funding sources
$
246,928

$
569

0.31
%
$
215,630

$
223

0.14
%
Net interest revenue
$
4,197

2.25
%
$
3,135

1.94
%
(1) Amounts have been calculated based on amortized cost.

- 6 -


THE CHARLES SCHWAB CORPORATION
Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Tabular Amounts in Millions, Except Ratios, or as Noted)


Net interest revenue increased $ 445 million , or 41% , and $1.1 billion , or 34% , in the third quarter and first nine months of 2018 , respectively, compared to the same periods in 2017 , primarily due to higher interest rates and growth in interest-earning assets.
Our net interest margin improved to 2.33% and 2.25% during the third quarter and first nine months of 2018 , respectively, up from 2.00% and 1.94% during the same periods in 2017 , primarily as a result of the Federal Reserve’s 2017 and March, June, and September 2018 interest rate increases, partially offset by higher interest rates paid on bank deposits and other interest-bearing liabilities.
During the third quarter and the first nine months of 2018 , average interest earning assets grew 21% and 15% , respectively, compared to the same periods in 2017 . These increases reflect higher bank deposits due to transfers from sweep money market funds to bank sweep balances, as well as other client-related deposit inflows and higher borrowings, partially offset by client purchases of other assets. During the first six months of 2018, Schwab issued senior notes and utilized Federal Home Loan Bank (FHLB) advances to provide temporary funding for additional investments ahead of deposit growth. There were no FHLB borrowings in the third quarter of 2018.



- 7 -


THE CHARLES SCHWAB CORPORATION
Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Tabular Amounts in Millions, Except Ratios, or as Noted)


Asset Management and Administration Fees

The following tables present asset management and administration fees, average client assets, and average fee yields:
Three Months Ended September 30,
2018
2017
Average
Client
Assets
Revenue
Average
Fee
Average
Client
Assets
Revenue
Average
Fee
Schwab money market funds before fee waivers
$
130,202

$
122

0.37
%
$
158,927

$
220

0.55
%
Fee waivers
—

(1
)
Schwab money market funds
130,202

122

0.37
%
158,927

219

0.55
%
Schwab equity and bond funds and ETFs
219,137

67

0.12
%
164,011

56

0.14
%
Mutual Fund OneSource ® and other non-transaction
fee funds
209,560

171

0.32
%
219,076

179

0.32
%
Other third-party mutual funds and ETFs (1)
342,316

75

0.09
%
291,307

65

0.09
%
Total mutual funds and ETFs (2)
$
901,215

435

0.19
%
$
833,321

519

0.25
%
Advice solutions (2)
Fee-based
$
234,338

294

0.50
%
$
206,854

265

0.51
%
Non-fee-based
65,146

—

—

50,758

—

—

Total advice solutions
$
299,484

294

0.39
%
$
257,612

265

0.41
%
Other balance-based fees (3)
400,048

63

0.06
%
424,280

67

0.06
%
Other (4)
17

10

Total asset management and administration fees
$
809

$
861

Nine Months Ended September 30,
2018
2017
Average
Client
Assets
Revenue
Average Fee
Average Client Assets
Revenue
Average Fee
Schwab money market funds before fee waivers
$
142,177

$
451

0.42
%
$
160,230

$
675

0.56
%
Fee waivers
—

(10
)
Schwab money market funds
142,177

451

0.42
%
160,230

665

0.55
%
Schwab equity and bond funds and ETFs
206,058

195

0.13
%
151,579

163

0.14
%
Mutual Fund OneSource ® and other non-transaction
fee funds
216,699

524

0.32
%
214,058

528

0.33
%
Other third-party mutual funds and ETFs (1)
329,033

216

0.09
%
278,479

182

0.09
%
Total mutual funds and ETFs (2)
$
893,967

1,386

0.21
%
$
804,346

1,538

0.26
%
Advice solutions (2)
Fee-based
$
228,326

859

0.50
%
$
199,500

765

0.51
%
Non-fee-based
62,377

—

—

46,785

—

—

Total advice solutions
$
290,703

859

0.40
%
$
246,285

765

0.42
%
Other balance-based fees (3)
404,596

191

0.06
%
406,442

192

0.06
%
Other (4)
38

34

Total asset management and administration fees
$
2,474

$
2,529

(1) Includes Schwab ETF OneSource™.
(2) Beginning in the fourth quarter of 2017, a change was made to add non-fee-based average assets from managed portfolios. Average client assets for advice solutions may also include the asset balances contained in the mutual fund and/or ETF categories listed above. Prior periods have been adjusted to accommodate this change.
(3) Includes various asset-related fees, such as trust fees, 401(k) recordkeeping fees, and mutual fund clearing fees and other service fees.
(4) Includes miscellaneous service and transaction fees relating to mutual funds and ETFs that are not balance-based.

Asset management and administration fees decreased by $52 million , or 6% , and $55 million , or 2% , in the third quarter and first nine months of 2018 , respectively, compared to the same periods in 2017 . The decreases were due to lower money market

- 8 -


THE CHARLES SCHWAB CORPORATION
Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Tabular Amounts in Millions, Except Ratios, or as Noted)


fund revenue as a result of transfers to bank sweep, client asset allocation choices, and our 2017 fee reductions. Part of the declines were offset by revenue from growing asset balances in advice solutions, equity and bond funds, and ETFs.

The following tables present a roll forward of client assets for the Schwab money market funds, Schwab equity and bond funds and exchange-traded funds (ETFs), and Mutual Fund OneSource ® and other non-transaction fee (NTF) funds. These funds generated 44% and 47% of the asset management and administration fees earned during the third quarter and first nine months of 2018 , respectively, compared to 53% and 54% for the same periods in 2017 :

Schwab Money
Market Funds
Schwab Equity and
Bond Funds and ETFs
Mutual Fund OneSource ®
and Other NTF funds
Three Months Ended September 30,
2018
2017
2018
2017
2018
2017
Balance at beginning of period
$
134,166

$
156,186

$
201,361

$
151,336

$
212,513

$
224,749

Net inflows (outflows)
(6,204
)
2,753

6,596

7,086

(7,126
)
(13,255
)
Net market gains (losses) and other
522

235

8,899

6,676

7,228

9,684

Balance at end of period
$
128,484

$
159,174

$
216,856

$
165,098

$
212,615

$
221,178

Schwab Money
Market Funds
Schwab Equity and
Bond Funds and ETFs
Mutual Fund OneSource ®
and Other NTF funds
Nine Months Ended September 30,
2018
2017
2018
2017
2018
2017
Balance at beginning of period
$
163,650

$
163,495

$
181,608

$
125,813

$
225,202

$
198,924

Net inflows (outflows)
(36,645
)
(4,832
)
24,867

22,347

(25,403
)
(23,494
)
Net market gains (losses) and other (1)
1,479

511

10,381

16,938

12,816

45,748

Balance at end of period
$
128,484

$
159,174

$
216,856

$
165,098

$
212,615

$
221,178

(1) Includes net inflows from other third-party mutual funds to Mutual Fund OneSource ® in the second quarter of 2017 .


Trading Revenue
The following table presents trading revenue and the related drivers:

Three Months Ended September 30,
Percent
Change
Nine Months Ended September 30,
Percent
Change

2018
2017
2018
2017
Daily average revenue trades (DARTs) (in thousands)
382

312

22
%
406

313

30
%
Clients’ daily average trades (in thousands)
683

633

8
%
732

602

22
%
Number of trading days
62.5

62.5

—

187.5

187.5

—

Daily average revenue per revenue trade
$
7.27

$
7.74

(6
)%
$
7.27

$
8.52

(15
)%
Trading revenue
$
176

$
151

17
%
$
557

$
500

11
%
DART volumes increased 22% and 30% in the third quarter and first nine months of 2018 , respectively, compared to the prior year. This led to an increase in trading revenue of $25 million , or 17% , and $57 million , or 11% , in the third quarter and first nine months of 2018 , respectively, compared to the same periods in 2017 , as the volume growth more than offset Schwab’s commission pricing reductions implemented in the first quarter of 2017. During that time, we announced two trading price reductions which lowered standard equity, ETF, and option trade commissions from $8.95 to $4.95 and lowered the per contract option fee from $.75 to $.65.

Other Revenue

Other revenue includes order flow revenue, other service fees, software fees from our portfolio management solutions, exchange processing fees, and non-recurring gains. Order flow revenue was $33 million and $29 million during the third quarters of 2018 and 2017 , respectively, and $104 million and $82 million during the first nine months of 2018 and 2017 , respectively. These increases were primarily due to higher rates on certain types of orders and higher volume of trades.



- 9 -


THE CHARLES SCHWAB CORPORATION
Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Tabular Amounts in Millions, Except Ratios, or as Noted)


Total Expenses Excluding Interest
The following table shows a comparison of expenses excluding interest:
Three Months Ended
September 30,
Percent
Change
Nine Months Ended
September 30,
Percent
Change
2018
2017
2018
2017
Compensation and benefits
Salaries and wages
$
423

$
372

14
%
$
1,253

$
1,110

13
%
Incentive compensation
193

187

3
%
615

580

6
%
Employee benefits and other
121

103

17
%
384

336

14
%
Total compensation and benefits
$
737

$
662

11
%
$
2,252

$
2,026

11
%
Professional services
164

152

8
%
476

429

11
%
Occupancy and equipment
124

111

12
%
368

323

14
%
Advertising and market development
70

63

11
%
220

205

7
%
Communications
59

56

5
%
179

171

5
%
Depreciation and amortization
78

69

13
%
226

200

13
%
Regulatory fees and assessments
57

43

33
%
158

133

19
%
Other
71

64

11
%
232

192

21
%
Total expenses excluding interest
$
1,360

$
1,220

11
%
$
4,111

$
3,679

12
%
Expenses as a percentage of total net revenues
Compensation and benefits
29
%
31
%
30
%
32
%
Advertising and market development
3
%
3
%
3
%
3
%
Full-time equivalent employees (in thousands)
At quarter end
19.1

17.3

10
%
Average
19.0

17.1

11
%
18.4

16.7

10
%
Total compensation and benefits increased in the third quarter and first nine months of 2018 compared to the same periods in 2017 , primarily due to an increase in employee headcount to support our expanding client base.

Professional services expense increased in the third quarter and first nine months of 2018 compared to the same periods in 2017 , primarily due to higher spending on technology projects, as well as an increase in asset management and administration-related expenses resulting from growth in the Schwab Funds ® and Schwab ETFs™.
Occupancy and equipment expense increased in the third quarter and first nine months of 2018 compared to the same periods in 2017 , primarily due to an increase in software maintenance expenses and additional licenses to support growth in the business.
Depreciation and amortization expenses grew in the third quarter and first nine months of 2018 compared to the same periods in 2017 , primarily due to higher amortization of internally developed software associated with continued investments in software and technology enhancements.
Regulatory fees and assessments increased in the third quarter and first nine months of 2018 compared to the same periods in 2017 , primarily due to an increase in FDIC insurance assessments, which rose as a result of higher average assets.

Other expenses increased in the first nine months of 2018 compared to the same period in 2017 , primarily due to a $15 million charge in the first quarter of 2018 associated with unsecured client margin losses in volatility-related products and other miscellaneous expense growth related to the expanding client base.

Capital expenditures were $156 million and $417 million in the third quarter and first nine months of 2018 , respectively, compared with $118 million and $271 million in the third quarter and first nine months of 2017 , respectively. The increases in the third quarter and year-to-date capital expenditures from the same periods in 2017 were due primarily to our office campus expansion in the U.S. and investments in technology projects. We anticipate capital expenditures for full-year 2018 will reach approximately 6-7% of total net revenues.

- 10 -


THE CHARLES SCHWAB CORPORATION
Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Tabular Amounts in Millions, Except Ratios, or as Noted)



Taxes on Income

Taxes on income were $296 million and $327 million for the third quarters of 2018 and 2017 , respectively, resulting in effective income tax rates on income before taxes of 24.3% and 34.6% , respectively. Taxes on income were $780 million and $940 million for the first nine months of 2018 and 2017 , respectively, resulting in effective income tax rates on income before taxes of 23.3% and 34.9% , respectively. The decrease in the effective tax rate was primarily due to the Tax Act which was signed into law on December 22, 2017. Among other things, the Tax Act lowered the federal corporate income tax rate from 35% to 21%, effective for tax years including or commencing January 1, 2018.

Segment Information

Financial information for our segments is presented in the following tables:
Investor Services
Advisor Services
Total
Three Months Ended September 30,
Percent Change
2018
2017
Percent Change
2018
2017
Percent Change
2018
2017
Net Revenues
Net interest revenue
39
%
$
1,138

$
818

47
%
$
389

$
264

41
%
$
1,527

$
1,082

Asset management and administration fees
(5
)%
565

595

(8
)%
244

266

(6
)%
809

861

Trading revenue
19
%
112

94

12
%
64

57

17
%
176

151

Other
(2
)%
53

54

(18
)%
14

17

(6
)%
67

71

Total net revenues
20
%
1,868

1,561

18
%
711

604

19
%
2,579

2,165

Expenses Excluding Interest
11
%
1,015

918

14
%
345

302

11
%
1,360

1,220

Income before taxes on income
33
%
$
853

$
643

21
%
$
366

$
302

29
%
$
1,219

$
945

Investor Services
Advisor Services
Total
Nine Months Ended September 30,
Percent Change
2018
2017
Percent Change
2018
2017
Percent Change
2018
2017
Net Revenues
Net interest revenue
33
%
$
3,158

$
2,366

35
%
$
1,039

$
769

34
%
$
4,197

$
3,135

Asset management and administration fees
(1
)%
1,727

1,743

(5
)%
747

786

(2
)%
2,474

2,529

Trading revenue
14
%
354

311

7
%
203

189

11
%
557

500

Other
14
%
182

159

—

53

53

11
%
235

212

Total net revenues
18
%
5,421

4,579

14
%
2,042

1,797

17
%
7,463

6,376

Expenses Excluding Interest
11
%
3,069

2,762

14
%
1,042

917

12
%
4,111

3,679

Income before taxes on income
29
%
$
2,352

$
1,817

14
%
$
1,000

$
880

24
%
$
3,352

$
2,697


Investor Services

Total net revenues rose by 20% and 18% in the third quarter and first nine months of 2018 , respectively, compared to the same periods in 2017 , primarily due to an increase in net interest revenue, partially offset by lower asset management and administration fees. Net interest revenue increased due to higher net interest margins and higher interest-earning assets. Asset management and administration fees decreased primarily due to lower money market fund revenue as a result of transfers to bank sweep, client asset allocation choices, and our 2017 fee reductions.

Expenses excluding interest increased by 11% in both the third quarter and first nine months of 2018 compared to the same periods in 2017 , primarily due to higher compensation and benefits, technology project spend, and asset management and administration-related expenses to support our expanding client base.

- 11 -


THE CHARLES SCHWAB CORPORATION
Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Tabular Amounts in Millions, Except Ratios, or as Noted)


Advisor Services
Total net revenues rose by 18% and 14% in the third quarter and first nine months of 2018 , respectively, compared to the same periods in 2017 , primarily due to an increase in net interest revenue, partially offset by lower asset management and administration fees. Net interest revenue increased due to higher net interest margins and higher interest-earning assets. Asset management and administration fees decreased primarily due to lower money market fund revenue as a result of transfers to bank sweep, client asset allocation choices, and our 2017 fee reductions.

Expenses excluding interest increased by 14% in both the third quarter and first nine months of 2018 compared to the same periods in 2017 , primarily due to higher compensation and benefits, technology project spend, and asset management and administration-related expenses to support our expanding client base.

RISK MANAGEMENT

Schwab’s business activities expose us to a variety of risks, including operational, credit, market, liquidity, and compliance risk. The Company has a comprehensive risk management program to identify and manage these risks and their associated potential for financial and reputational impact. For a discussion of our risk management programs, see Item 7 – Risk Management in the 2017 Form 10-K.

Net Interest Revenue Simulation

For Schwab’s net interest revenue sensitivity analysis, we use net interest revenue simulation modeling techniques to evaluate and manage the effect of changing interest rates. The simulation includes all interest-sensitive assets and liabilities. Key variables in the simulation include the repricing of financial instruments, prepayment, reinvestment, and product pricing assumptions. The simulations involve assumptions that are inherently uncertain and, as a result, cannot precisely estimate the impact of changes in interest rates on net interest revenue. Actual results may differ from simulated results due to balance growth or decline and 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.

If our guidelines for net interest revenue sensitivity are breached, management must report the breach to the Financial Risk Oversight Committee and establish a plan to address the interest rate risk. There were no breaches of Schwab’s net interest revenue sensitivity risk limits during the nine months ended September 30, 2018 , or year ended December 31, 2017 .

As represented by the simulations presented below, our investment strategy is structured to produce an increase in net interest revenue when interest rates rise and, conversely, a decrease in net interest revenue when interest rates fall.

The simulations in the following table assume that the asset and liability structure of the consolidated balance sheets would not be changed as a result of the simulated changes in interest rates. As we actively manage the consolidated balance sheets and interest rate exposure, in all likelihood we would take steps to manage additional interest rate exposure that could result from changes in the interest rate environment. The following table shows the simulated net interest revenue change over the next 12 months beginning September 30, 2018 and December 31, 2017 of a gradual 100 basis point increase or decrease in market interest rates relative to prevailing market rates at the end of each reporting period:

September 30, 2018
December 31, 2017
Increase of 100 basis points
4.1
%
3.3
%
Decrease of 100 basis points
(4.7
)%
(6.2
)%
The change in net interest revenue sensitivities as of September 30, 2018 reflects the increase in interest rates across all maturities.


- 12 -


THE CHARLES SCHWAB CORPORATION
Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Tabular Amounts in Millions, Except Ratios, or as Noted)


Liquidity Risk

Schwab’s primary source of funds is cash generated by client activity: bank deposits and cash balances in client brokerage accounts. These funds are used to purchase investment securities and extend loans to clients.

Other sources of funds may include cash flows from operations, maturities and sales of investment securities, repayments on loans, securities lending of assets held in client brokerage accounts, and cash provided by external debt or equity financing.
To meet daily funding needs, we maintain liquidity in the form of overnight cash deposits and short-term investments. For unanticipated liquidity needs, a buffer of highly liquid investments, currently comprised of U.S. Treasury notes, is also maintained.

In addition to internal sources of liquidity, Schwab has access to external funding. The following table describes external debt facilities available at September 30, 2018 :
Description
Borrower
Outstanding
Available
Committed, unsecured credit facility with various external banks
CSC
$
—

$
750

Uncommitted, unsecured lines of credit with various external banks
CSC, CS&Co
—

1,432

Federal Reserve Bank discount window (1)
CSB
—

2,422

Federal Home Loan Bank secured credit facility (2)
Banking subsidiaries
—

30,002

Unsecured commercial paper (3)
CSC
—

750

(1) Amounts available are dependent on the fair value of certain investment securities that are pledged as collateral.
(2) Amounts available are dependent on the amount of first lien residential real estate mortgage loans (First Mortgages), home equity lines of credit (HELOCs), and the fair value of certain investment securities that are pledged as collateral.
(3) CSC has authorization from its Board of Directors to issue Commercial Paper Notes to not exceed $1.5 billion. Management has set a current limit not to exceed the amount of the committed, unsecured credit facility.

CSC’s ratings for Commercial Paper Notes are P1 by Moody’s Investor Service (Moody’s), A1 by Standard & Poor’s Rating Group (Standard & Poor’s), and F1 by Fitch Ratings, Ltd (Fitch).
Borrowings
The following are details of the Senior Notes and short-term borrowings:
September 30, 2018
Par
Outstanding
Maturity
Weighted Average
Interest Rate
Moody’s
Standard
& Poor’s
Fitch
Senior Notes
$
5,781

2020 - 2028
3.31%
A2
A
A
Short-term borrowings
$
—

N/A
N/A
N/A
N/A
N/A
N/A Not applicable.

New Debt Issuances

All debt issuances in 2018 were senior unsecured obligations with interest payable quarterly or semi-annually. Additional details are as follows:
Issuance Date
Issuance
Amount
Maturity
Date
Interest
Rate
Interest
Payable
May 22, 2018
$
600

5/21/2021
Three-month LIBOR + 0.32%
Quarterly
May 22, 2018
$
600

5/21/2021
3.25%
Semi-annually
May 22, 2018
$
750

5/21/2025
3.85%
Semi-annually

Schwab is subject to, and was in compliance with, the modified liquidity coverage ratio (LCR) rule at September 30, 2018 . Schwab expects consolidated balance sheet assets to remain above $250 billion in 2018, and as a result, would become subject to the full LCR rule in 2019.


- 13 -


THE CHARLES SCHWAB CORPORATION
Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Tabular Amounts in Millions, Except Ratios, or as Noted)


CAPITAL MANAGEMENT

Schwab seeks to manage capital to a level and composition sufficient to support execution of our business strategy, including anticipated balance sheet growth, providing financial support to our subsidiaries, and sustained access to the capital markets, while at the same time meeting our regulatory capital requirements, and serving as a source of financial strength to our banking subsidiaries. Schwab’s primary sources of capital are funds generated by the operations of subsidiaries and securities issuances by CSC in the capital markets. To ensure that Schwab has sufficient capital to absorb unanticipated losses or declines in asset values, we have adopted a policy to remain well capitalized even in stressed scenarios.

Regulatory Capital Requirements

CSC and CSB are subject to various capital requirements set by regulatory agencies as discussed in further detail in the 2017 Form 10-K and in Item 1 – Note 16. As of September 30, 2018 , CSC and CSB are considered well capitalized.

The following table details CSC’s consolidated and CSB’s capital ratios as of September 30, 2018 and December 31, 2017 :
September 30, 2018
December 31, 2017
CSC
CSB
CSC
CSB
Total stockholders’ equity
$
20,834

$
14,899

$
18,525

$
13,224

Less:
Preferred stock
2,793

—

2,793

—

Common Equity Tier 1 Capital before regulatory adjustments
$
18,041

$
14,899

$
15,732

$
13,224

Less:
Goodwill, net of associated deferred tax liabilities
$
1,191

$
13

$
1,191

$
13

Other intangible assets, net of associated deferred tax liabilities
127

—

61

—

Deferred tax assets, net of valuation allowances and deferred tax liabilities
2

—

2

—

AOCI adjustment (1)
(304
)
(278
)
(152
)
(144
)
Common Equity Tier 1 Capital
$
17,025

$
15,164

$
14,630

$
13,355

Tier 1 Capital
$
19,818

$
15,164

$
17,423

$
13,355

Total Capital
19,846

15,191

17,452

13,382

Risk-Weighted Assets
86,830

75,224

75,866

66,519

Common Equity Tier 1 Capital/Risk-Weighted Assets
19.6
%
20.2
%
19.3
%
20.1
%
Tier 1 Capital/Risk-Weighted Assets
22.8
%
20.2
%
23.0
%
20.1
%
Total Capital/Risk-Weighted Assets
22.9
%
20.2
%
23.0
%
20.1
%
Tier 1 Leverage Ratio
7.5
%
7.1
%
7.6
%
7.1
%
(1) CSC and CSB have elected to opt out of the requirement to include most components of accumulated other comprehensive income (AOCI) in Common Equity Tier 1 Capital. Schwab expects consolidated balance sheet assets to remain above $250 billion in 2018, and as a result, would no longer exclude AOCI from regulatory capital beginning in 2019.

CSB is also subject to regulatory requirements that restrict and govern the terms of affiliate transactions. In addition, CSB is required to provide notice to, and may be required to obtain approval from, the Office of the Comptroller of the Currency and the Federal Reserve to declare dividends to CSC.

Schwab’s primary broker-dealer subsidiary, CS&Co, is subject to regulatory requirements of the Uniform Net Capital Rule. At September 30, 2018 , CS&Co exceeded its net capital requirements.

In addition to the capital requirements above, Schwab’s subsidiaries are subject to other regulatory requirements intended to ensure financial soundness and liquidity. See Item 1 – Note 16 for additional information on the components of stockholders’ equity and information on the capital requirements of significant subsidiaries.


- 14 -


THE CHARLES SCHWAB CORPORATION
Management’s Discussion and Analysis of Financial Condition and Results of Operations
(Tabular Amounts in Millions, Except Ratios, or as Noted)


Dividends

On July 25, 2018, the Board of Directors of the Company declared a three cent, or 30%, increase in the quarterly cash dividend to $.13 per common share.

Cash dividends paid and per share amounts for the first nine months of 2018 and 2017 are as follows:
2018
2017
Nine Months Ended September 30,
Cash Paid
Per Share
Amount
Cash Paid
Per Share
Amount
Common Stock
$
448

$
.33

$
323

$
.24

Series A Preferred Stock (1)
28

70.00

28

70.00

Series B Preferred Stock (2,5)
N/A

N/A

22

45.00

Series C Preferred Stock (2)
27

45.00

27

45.00

Series D Preferred Stock (2)
33

44.64

33

44.64

Series E Preferred Stock (3)
28

4,625.00

23

3,867.01

Series F Preferred Stock (4)
15

2,930.56

N/A

N/A

(1) Dividends paid semi-annually until February 1, 2022 and quarterly thereafter.
(2) Dividends paid quarterly.
(3) Dividends paid semi-annually until March 1, 2022 and quarterly thereafter.
(4) Series F Preferred Stock was issued on October 31, 2017. Dividends paid semi-annually beginning on June 1, 2018 until December 1, 2027, and quarterly thereafter.
(5) Series B Preferred Stock was redeemed on December 1, 2017.
N/A Not applicable.


OTHER

Foreign Holdings
At September 30, 2018 , Schwab had exposure to non-sovereign financial and non-financial institutions in foreign countries, as well as agencies of foreign governments. At September 30, 2018 , the fair value of these holdings totaled $7.4 billion , with the top three exposures being to issuers and counterparties domiciled in France at $2.3 billion , Sweden at $1.8 billion , and Canada at $0.8 billion .
In addition to the direct holdings in foreign companies and securities issued by foreign government agencies, Schwab has indirect exposure to foreign countries through its investments in CSIM money market funds (collectively, the Funds) resulting from brokerage clearing activities. At September 30, 2018 , Schwab had $21 million in investments in these Funds. Certain of the Funds’ positions include certificates of deposit, time deposits, commercial paper, and corporate debt securities issued by counterparties in foreign countries. Additionally, at September 30, 2018 , Schwab had outstanding margin loans to foreign residents of $816 million .

Off-Balance Sheet Arrangements
Schwab enters into various off-balance sheet arrangements in the ordinary course of business, primarily to meet the needs of its clients. These arrangements include firm commitments to extend credit. Additionally, Schwab enters into guarantees and other similar arrangements in the ordinary course of business. For information on each of these arrangements, see Item 1 – Note 5, Note 6, Note 8, Note 9, and Note 10, and Item 8 – Note 13 in the 2017 Form 10-K.

CRITICAL ACCOUNTING ESTIMATES

Certain of our accounting policies that involve a higher degree of judgment and complexity are discussed in Part II – Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Estimates in the 2017 Form 10-K. There have been no changes to critical accounting estimates during the first nine months of 2018 .



- 15 -


THE CHARLES SCHWAB CORPORATION



Item 3. Quantitative and Qualitative Disclosures About Market Risk

For discussion of the quantitative and qualitative disclosures about market risk, see Risk Management in Item 2.



- 16 -

Part I - FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements

THE CHARLES SCHWAB CORPORATION
Condensed Consolidated Statements of Income
(In Millions, Except Per Share Amounts)
(Unaudited)

Three Months Ended September 30,
Nine Months Ended September 30,
2018
2017
2018
2017
Net Revenues
Interest revenue
$
1,755

$
1,176

$
4,766

$
3,358

Interest expense
(228
)
(94
)
(569
)
(223
)
Net interest revenue
1,527

1,082

4,197

3,135

Asset management and administration fees
809

861

2,474

2,529

Trading revenue
176

151

557

500

Other
67

71

235

212

Total net revenues
2,579

2,165

7,463

6,376

Expenses Excluding Interest
Compensation and benefits
737

662

2,252

2,026

Professional services
164

152

476

429

Occupancy and equipment
124

111

368

323

Advertising and market development
70

63

220

205

Communications
59

56

179

171

Depreciation and amortization
78

69

226

200

Regulatory fees and assessments
57

43

158

133

Other
71

64

232

192

Total expenses excluding interest
1,360

1,220

4,111

3,679

Income before taxes on income
1,219

945

3,352

2,697

Taxes on income
296

327

780

940

Net Income
923

618

2,572

1,757

Preferred stock dividends and other
38

43

128

127

Net Income Available to Common Stockholders
$
885

$
575

$
2,444

$
1,630

Weighted-Average Common Shares Outstanding:
Basic
1,351

1,339

1,349

1,338

Diluted
1,364

1,353

1,363

1,352

Earnings Per Common Shares Outstanding:
Basic
$
.66

$
.43

$
1.81

$
1.22

Diluted
$
.65

$
.42

$
1.79

$
1.21

Dividends Declared Per Common Share
$
.13

$
.08

$
.33

$
.24


See Notes to Condensed Consolidated Financial Statements.


- 17 -


THE CHARLES SCHWAB CORPORATION
Condensed Consolidated Statements of Comprehensive Income
(In Millions)
(Unaudited)


Three Months Ended September 30,
Nine Months Ended September 30,
2018
2017
2018
2017
Net income
$
923

$
618

$
2,572

$
1,757

Other comprehensive income (loss), before tax:




Change in net unrealized gain (loss) on available for sale securities:




Net unrealized gain (loss)
(43
)
—

(184
)
81

Reclassification of net unrealized loss transferred to held to maturity
—

—

—

227

Other reclassifications included in other revenue
—

—

—

(7
)
Change in net unrealized gain (loss) on held to maturity securities:
Reclassification of net unrealized loss transferred from available for sale
—

—

—

(227
)
Amortization of amounts previously recorded upon transfer from available for sale
8

10

26

21

Other
—

—

—

(3
)
Other comprehensive income (loss), before tax
(35
)
10

(158
)
92

Income tax effect
9

(4
)
39

(35
)
Other comprehensive income (loss), net of tax
(26
)
6

(119
)
57

Comprehensive Income
$
897

$
624

$
2,453

$
1,814


See Notes to Condensed Consolidated Financial Statements.


- 18 -


THE CHARLES SCHWAB CORPORATION
Condensed Consolidated Balance Sheets
(In Millions, Except Per Share and Share Amounts)
(Unaudited)


September 30, 2018
December 31, 2017
Assets
Cash and cash equivalents
$
21,830

$
14,217

Cash and investments segregated and on deposit for regulatory purposes (including resale
agreements of $4,424 at September 30, 2018 and $6,596 at December 31, 2017)
8,487

15,139

Receivables from brokers, dealers, and clearing organizations
798

649

Receivables from brokerage clients — net
22,411

20,576

Other securities owned — at fair value
500

539

Available for sale securities
57,558

49,995

Held to maturity securities
138,952

120,926

Bank loans — net
16,564

16,478

Equipment, office facilities, and property — net
1,683

1,471

Goodwill
1,227

1,227

Other assets
2,092

2,057

Total assets
$
272,102

$
243,274

Liabilities and Stockholders’ Equity

Bank deposits
$
213,408

$
169,656

Payables to brokers, dealers, and clearing organizations
1,522

1,287

Payables to brokerage clients
27,851

31,243

Accrued expenses and other liabilities
2,697

2,810

Short-term borrowings
—

15,000

Long-term debt
5,790

4,753

Total liabilities
251,268

224,749

Stockholders’ equity:

Preferred stock — $.01 par value per share; aggregate liquidation preference
of $2,850
2,793

2,793

Common stock — 3 billion shares authorized; $.01 par value per share; 1,487,543,446
shares issued
15

15

Additional paid-in capital
4,484

4,353

Retained earnings
16,615

14,408

Treasury stock, at cost — 135,806,047 shares at September 30, 2018 and 142,210,890
shares at December 31, 2017
(2,769
)
(2,892
)
Accumulated other comprehensive income (loss)
(304
)
(152
)
Total stockholders’ equity
20,834

18,525

Total liabilities and stockholders’ equity
$
272,102

$
243,274


See Notes to Condensed Consolidated Financial Statements.


- 19 -


THE CHARLES SCHWAB CORPORATION
Condensed Consolidated Statements of Stockholders ’ Equity
(In Millions)
(Unaudited)


Accumulated Other Comprehensive Income (Loss)
Preferred Stock
Common stock
Additional Paid-in Capital
Retained Earnings
Treasury Stock,
at cost
Total
Shares
Amount
Balance at December 31, 2016
$
2,783

1,488

$
15

$
4,267

$
12,649

$
(3,130
)
$
(163
)
$
16,421

Net income
—

—

—

—

1,757

—

—

1,757

Other comprehensive income (loss), net of tax
—

—

—

—

—

—

57

57

Dividends declared on preferred stock
—

—

—

—

(120
)
—

—

(120
)
Dividends declared on common stock
—

—

—

—

(323
)
—

—

(323
)
Stock option exercises and other
—

—

—

(30
)
—

128

—

98

Share-based compensation and related tax
effects
—

—

—

105

—

—

—

105

Other
—

—

—

23

—

9

—

32

Balance at September 30, 2017
$
2,783

1,488

$
15

$
4,365

$
13,963

$
(2,993
)
$
(106
)
$
18,027

Balance at December 31, 2017
$
2,793

1,488

$
15

$
4,353

$
14,408

$
(2,892
)
$
(152
)
$
18,525

Adoption of accounting standards (Note 2)
—

—

—

—

200

—

(33
)
167

Net income
—

—

—

—

2,572

—

—

2,572

Other comprehensive income (loss), net of tax
—

—

—

—

—

—

(119
)
(119
)
Dividends declared on preferred stock
—

—

—

—

(117
)
—

—

(117
)
Dividends declared on common stock
—

—

—

—

(448
)
—

—

(448
)
Stock option exercises and other
—

—

—

(8
)
—

116

—

108

Share-based compensation and related tax
effects
—

—

—

106

—

—

—

106

Other
—

—

—

33

—

7

—

40

Balance at September 30, 2018
$
2,793

1,488

$
15

$
4,484

$
16,615

$
(2,769
)
$
(304
)
$
20,834


See Notes to Condensed Consolidated Financial Statements.


- 20 -


THE CHARLES SCHWAB CORPORATION
Condensed Consolidated Statements of Cash Flows
(in Millions)
(Unaudited)


Nine Months Ended
September 30,
2018
2017 (1)
Cash Flows from Operating Activities

Net income
$
2,572

$
1,757

Adjustments to reconcile net income to net cash (used for) provided by operating activities:

Share-based compensation
113

111

Depreciation and amortization
226

200

Premium amortization, net, on available for sale and held to maturity securities
276

240

Other
108

35

Net change in:


Investments segregated and on deposit for regulatory purposes
6,973

6,864

Receivables from brokers, dealers, and clearing organizations
(147
)
61

Receivables from brokerage clients
(1,858
)
(1,310
)
Other securities owned
39

22

Other assets
(143
)
(76
)
Payables to brokers, dealers, and clearing organizations
43

(957
)
Payables to brokerage clients
(3,392
)
(4,414
)
Accrued expenses and other liabilities
(155
)
(82
)
Net cash provided by operating activities
4,655

2,451

Cash Flows from Investing Activities
Purchases of available for sale securities
(19,781
)
(6,375
)
Proceeds from sales of available for sale securities
115

5,773

Principal payments on available for sale securities
12,091

6,532

Purchases of held to maturity securities
(30,639
)
(19,886
)
Principal payments on held to maturity securities
12,382

7,927

Net increase in bank loans
(86
)
(829
)
Purchases of equipment, office facilities, and property
(400
)
(267
)
Purchases of Federal Home Loan Bank stock
(156
)
(160
)
Proceeds from sales of Federal Home Loan Bank stock
528

106

Other investing activities
(74
)
(52
)
Net cash provided by (used for) investing activities
(26,020
)
(7,231
)
Cash Flows from Financing Activities
Net change in bank deposits
43,752

1,809

Net change in short-term borrowings
(15,000
)
5,000

Issuance of long-term debt
1,936

643

Repayment of long-term debt
(906
)
(256
)
Dividends paid
(579
)
(456
)
Proceeds from stock options exercised and other
108

98

Other financing activities
(12
)
(10
)
Net cash provided by (used for) financing activities
29,299

6,828

Increase (Decrease) in Cash and Cash Equivalents, including Amounts Restricted
7,934

2,048

Cash and Cash Equivalents including Amounts Restricted at Beginning of Year
19,160

17,873

Cash and Cash Equivalents, including Amounts Restricted at End of Period
$
27,094

$
19,921

(1) Adjusted for the retrospective adoption of ASU 2016-18. See Note 2.

Continued on following page



- 21 -


THE CHARLES SCHWAB CORPORATION
Condensed Consolidated Statements of Cash Flows
(in Millions)
(Unaudited)


Continued from previous page
Nine Months Ended
September 30,
2018
2017 (1)
Supplemental Cash Flow Information
Cash paid during the period for:
Interest
$
550

$
233

Income taxes
$
649

$
890

Non-cash investing activity:
Securities purchased during the period but settled after period end
$
221

$
3,977

September 30, 2018
September 30, 2017
Reconciliation of cash, cash equivalents and amounts reported within the balance sheet (2)
Cash and cash equivalents
$
21,830

$
12,253

Restricted cash and cash equivalents amounts included in cash and investments segregated
and on deposit for regulatory purposes
5,264

7,668

Total cash and cash equivalents, including amounts restricted shown in the
statement of cash flows
$
27,094

$
19,921

(1) Adjusted for the retrospective adoption of ASU 2016-18. See Note 2.
(2) For more information on the nature of restrictions on restricted cash and cash equivalents see Note 16.

See Notes to Condensed Consolidated Financial Statements.


- 22 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)


1.    Introduction and Basis of Presentation
The Charles Schwab Corporation (CSC) is a savings and loan holding company engaged, through its subsidiaries, in wealth management, securities brokerage, banking, asset management, custody, and financial advisory services.

Significant business subsidiaries of CSC include the following:

•
Charles Schwab & Co., Inc. (CS&Co), a securities broker-dealer;
•
Charles Schwab Bank (CSB), a federal savings bank; and
•
Charles Schwab Investment Management, Inc. (CSIM), the investment advisor for Schwab’s proprietary mutual funds (Schwab Funds ® ) and Schwab’s exchange-traded funds (Schwab ETFs™).

Unless otherwise indicated, the terms “Schwab,” “the Company,” “we,” “us,” or “our” mean CSC together with its consolidated subsidiaries.

These unaudited condensed consolidated financial statements have been prepared in conformity with generally accepted accounting principles in the U.S. (GAAP), which require management to make certain estimates and assumptions that affect the reported amounts in the accompanying financial statements, and in the related disclosures. These estimates are based on information available as of the date of the condensed consolidated financial statements. While management makes its best judgment, actual amounts or results could differ from these estimates. In the opinion of management, all normal, recurring adjustments have been included for a fair statement of this interim financial information.
These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto, included in Schwab’s 2017 Form 10-K.
The significant accounting policies are included in Note 2 in the 2017 Form 10-K. There have been no significant changes to these accounting policies during the first nine months of 2018 , except as described in Note 2 below.
Principles of Consolidation
Schwab evaluates all entities in which it has financial interests for consolidation, except for money market funds, which are specifically excluded from consolidation guidance. When an entity is evaluated for consolidation, Schwab determines whether its interest in the entity constitutes a controlling financial interest under either the variable interest entity (VIE) model or a voting interest entity (VOE) model. In evaluating whether Schwab’s interest in a VIE is a controlling financial interest, we consider whether our involvement, in the context of the design, purpose, and risks of the VIE, as well as any involvement of related parties, provides us with (i) the power to direct the most significant activities of the VIE, and (ii) the obligation to absorb losses or receive benefits that are significant to the VIE. If both of these conditions exist, then Schwab would be the primary beneficiary of that VIE, and consolidate it. Based upon the assessments for all of our interests in VIEs, there are no cases where Schwab is the primary beneficiary; therefore, we are not required to consolidate any VIEs. Schwab consolidates all VOEs in which it has majority-voting interests.
Investments in entities in which Schwab does not have a controlling financial interest are accounted for under the equity method of accounting when we have the ability to exercise significant influence over operating and financing decisions of the entity. Investments in entities for which Schwab does not have the ability to exercise significant influence are generally carried at cost and adjusted for impairment and observable price changes of the identical or similar investments of the same issuer (adjusted cost method), except for certain investments in qualified affordable housing projects which are accounted for under the proportional amortization method. All equity method, adjusted cost method, and proportional amortization method investments are included in other assets on the condensed consolidated balance sheets.




- 23 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

2.    New Accounting Standards

Adoption of New Accounting Standards

Standard
Description
Date of Adoption
Effects on the Financial Statements or Other Significant Matters
Accounting Standards Update (ASU) 2014-09, “Revenue from Contracts with Customers (Topic 606)” and related ASUs
Clarifies that revenue from contracts with clients should be recognized in a manner that depicts the timing of the related transfer of goods or performance of services at an amount that reflects the expected consideration.

Adoption allows either full or modified retrospective transition. Full retrospective transition required a cumulative effect adjustment to retained earnings as of the earliest comparative period presented. Modified retrospective transition required a cumulative effect adjustment to retained earnings as of the beginning of the reporting period in which the entity first applies the new guidance.
January 1, 2018
The guidance does not apply to revenue earned from the Company’s loans and securities. Accordingly, net interest revenue was not impacted. The primary impact for the Company was the capitalization on the consolidated balance sheets of sales commissions paid to employees for obtaining new contracts with clients. These capitalized costs resulted in an asset of $219 million and a related deferred tax liability of $52 million upon adoption. The asset is being amortized to expense over time as the related revenues are recognized.

The Company adopted the revenue recognition guidance using the modified retrospective method for all contracts that were not completed as of January 1, 2018. Further details of the impact of adoption are included below in this Note as well as in Note 3.
ASU 2016-01, “Financial Instruments – Overall (Subtopic 825-10)” and ASU 2018-03, “Technical Corrections and Improvements to Financial Instruments – Overall (Subtopic 825-10)”
Requires: (i) equity investments to be measured at fair value, with changes in fair value recognized in net income, unless the equity method is applied or the equity investments do not have readily determinable fair values in which case a practical alternative may be elected; (ii) use of an exit price when measuring the fair value of financial instruments for disclosures; (iii) separate presentation of financial assets and liabilities by measurement category and form of instrument on the balance sheet or in the accompanying notes.

Adoption requires a cumulative effect adjustment to the balance sheet as of the beginning of the year of initial application, except for certain changes that require prospective adoption.
January 1, 2018
The Company adopted this guidance on a prospective basis for its equity securities that do not have readily determinable fair values. No other significant changes resulted from adoption. Therefore, there was no material impact on the Company’s financial statements.

The Company elected to use the alternative to fair value measurement for its equity securities that do not have readily determinable fair values. These equity securities will be adjusted for impairment and observable price changes of the identical or similar investments of the same issuer, as applicable. Schwab refers to this approach as the adjusted cost method. This method was applied to an immaterial amount of Community Reinvestment Act (CRA) investments included in other assets on the consolidated balance sheets.
ASU 2016-18, “Statement of Cash Flows (Topic 230) – Restricted Cash a Consensus of the Emerging Issues Task Force”
Requires that the statement of cash flows explain the change during the period in the total cash and cash equivalents, including restricted cash and cash equivalents.

Adoption requires retrospective presentation of the statement of cash flows to include restricted cash and cash equivalents in the beginning and ending amounts.
January 1, 2018
The Company adopted this guidance on a retrospective basis. The Company has significant amounts of restricted cash and cash equivalents due to its business as a broker-dealer.

As a result of the adoption, changes in restricted cash and cash equivalents included within cash and investments segregated and on deposit for regulatory purposes in the consolidated balance sheets are now presented with changes in cash and cash equivalents throughout the consolidated statements of cash flows. The amount of restricted cash and cash equivalents is included in a separate table in the consolidated statements of cash flows.

- 24 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

Standard
Description
Date of Adoption
Effects on the Financial Statements or Other Significant Matters
ASU 2018-02, “Income Statement – Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income”
Permits reclassification of the impacts on certain tax affected items included in AOCI that were adjusted through income from continuing operations rather than AOCI upon the effective date of the Tax Act.

Adoption provides for retrospective adoption to all periods presented and impacted by the Tax Act or as of the beginning of the period of adoption.
January 1, 2018
The Company adopted this guidance as of January 1, 2018. The Company elected to reclassify the income tax effects of the Tax Act from items in AOCI into retained earnings as of the beginning of the period of adoption.

Adoption resulted in a reduction in AOCI and a corresponding increase in retained earnings of $33 million.

New Accounting Standards Not Yet Adopted

Standard
Description
Required Date of Adoption
Effects on the Financial Statements or Other Significant Matters
ASU 2016-02, “Leases (Topic 842)”
Amends the accounting for leases by lessees and lessors. The primary change from the new guidance is the recognition of right-of-use assets and lease liabilities by lessees for those leases classified as operating leases. Additional changes include accounting for lease origination and executory costs, required lessee reassessments during the lease term due to changes in circumstances, and expanded lease disclosures.

Adoption provides for modified retrospective transition as of the beginning of the earliest comparative period presented in the financial statements in which the entity first applies the new standard or prospectively with an adjustment as of the beginning of the period of adoption. Certain transition relief is permitted if elected by the entity.
January 1, 2019
The Company plans to adopt the new lease accounting guidance prospectively as of January 1, 2019 with a cumulative-effect adjustment to the opening balance of retained earnings (i.e., prior periods will not be adjusted). The Company does not expect this guidance will have a material impact on its earnings per common share (EPS). However, it will result in a gross up of the consolidated balance sheet due to recognition of right-of-use assets and lease liabilities primarily related to leases of office space and branches. These amounts will be based on the present value of our remaining operating lease payments (see Note 13 in the 2017 10-K for the undiscounted rental commitments for operating leases).

The Company is refining its methodology to estimate the right-of-use assets and lease liabilities. We are also testing system updates and refining internal controls for applying the lease accounting changes. Based upon our current population of leases, we expect the right-of-use asset and corresponding lease liability to be less than 0.5% of our total assets.

- 25 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

Standard
Description
Required Date of Adoption
Effects on the Financial Statements or Other Significant Matters
ASU 2016-13, “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments”
Provides guidance for recognizing impairment of most debt instruments measured at amortized cost, including loans and held to maturity (HTM) debt securities. Requires estimating current expected credit losses (CECL) over the remaining life of an instrument or a portfolio of instruments with similar risk characteristics based on relevant information about past events, current conditions, and reasonable forecasts. The initial estimate of, and the subsequent changes in, CECL will be recognized as credit loss expense through current earnings and will be reflected as an allowance for credit losses offsetting the carrying value of the financial instrument(s) on the balance sheet. Amends the OTTI model for available for sale (AFS) debt securities by requiring the use of an allowance, rather than directly reducing the carrying value of the security, and eliminating consideration of the length of time such security has been in an unrealized loss position as a factor in concluding whether a credit loss exists.

Adoption requires a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the entity applies the new guidance except that a prospective transition is required for AFS debt securities for which an OTTI has been recognized prior to the effective date.
January 1, 2020 (early adoption permitted)
The Company continues to evaluate the impact of this guidance on its financial statements, including EPS. The Company has finished the majority of its scoping work and assessment of the current state of data and systems. Work is transitioning to designing and building out approaches to address certain asset classes with a focus primarily on a subset of our securities, including corporate debt securities. The Company expects that a large portion of its securities will have zero expectation of credit losses based on industry and regulator views for U.S. treasury and certain government agency-backed securities. We are currently working on in-depth analysis for the other asset types that do not have zero expectation of credit losses to determine our methods and any needed changes to policies and procedures.
ASU 2017-08, “Receivables – Nonrefundable Fees and Other Costs (Subtopic 310-20): Premium Amortization on Purchased Callable Debt Securities”
Shortens the amortization period for the premium on certain callable debt securities to the earliest call date. The amendments are applicable to any purchased individual debt security with an explicit and noncontingent call feature with a fixed price on a preset date. ASU 2017-08 does not impact the accounting for callable debt securities held at a discount.

Adoption requires modified retrospective transition as of the beginning of the period of adoption through a cumulative-effect adjustment to retained earnings.
January 1, 2019 (early adoption permitted)
While still under evaluation, the Company does not expect this guidance will have a material impact on its financial statements, including EPS.

- 26 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

Standard
Description
Required Date of Adoption
Effects on the Financial Statements or Other Significant Matters
ASU 2018-15, “Intangibles–Goodwill and Other–Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract (a consensus of the FASB Emerging Issues Task Force)”

Aligns the criteria for capitalizing implementation costs for cloud computing arrangements (CCA) that are service contracts with internal-use software that is developed or purchased and CCAs that include an internal-use software license. This guidance requires that the capitalized implementation costs be recognized over the period of the CCA service contract, subject to impairment evaluation on an ongoing basis.

The guidance prescribes the balance sheet, income statement, and statement of cash flow classification of the capitalized implementation costs and related amortization expense, and requires additional quantitative and qualitative disclosures.

Adoption provides for retrospective or prospective application to all implementation costs incurred after the date of adoption.

January 1, 2020 (early adoption permitted)
Historically, Schwab has expensed implementation costs as they are incurred for CCAs that are service contracts. Therefore, adopting this guidance will change the Company’s accounting treatment for these types of implementation costs. The Company is evaluating the impacts of this guidance on its financial statements, including EPS.


The cumulative effect of the changes made to our consolidated January 1, 2018 balance sheet for the adoption of ASU 2014-09, “Revenue – Revenue from Contracts with Customers” and ASU 2018-02, “Other Comprehensive Income – Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income” were as follows:
Balance at
December 31, 2017
Adjustments Due to ASU 2014-09
Adjustments Due to ASU 2018-02
Balance at
January 1, 2018
Assets
Other assets (1)
$
2,057

$
167

$
—

$
2,224

Stockholders’ Equity
Retained earnings
14,408

167

33

14,608

Accumulated other comprehensive income
(152
)
—

(33
)
(185
)
(1) Adjustment is comprised of an increase in capitalized contract costs of $219 million , partially offset by an increase in deferred tax liabilities of $52 million .

In accordance with the new revenue standard requirements, the disclosure of the impact of adoption on our condensed consolidated statement of income and condensed consolidated balance sheet were as follows:
Three Months Ended September 30, 2018
Statement of Income
As Reported
Balances Without Adoption of ASU 2014-09
Effect of Change
Higher/(Lower)
Expenses Excluding Interest
Compensation and benefits
$
737

$
744

$
(7
)
Taxes on income
296

294

2

Net Income
923

918

5



- 27 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

Nine Months Ended September 30, 2018
Statement of Income
As Reported
Balances Without Adoption of ASU 2014-09
Effect of Change
Higher/(Lower)
Expenses Excluding Interest
Compensation and benefits
$
2,252

$
2,279

$
(27
)
Taxes on income
780

773

7

Net Income
2,572

2,552

20


As of September 30, 2018
Balance Sheet
As Reported
Balances Without Adoption of ASU 2014-09
Effect of Change
Higher/(Lower)
Assets
Other assets (1)
$
2,092

$
1,905

$
187

Stockholders’ Equity
Retained earnings
16,615

16,428

187

(1) Adjustment is comprised of an increase in capitalized contract costs of $246 million , partially offset by an increase in deferred tax liabilities of $59 million .


3.    Revenue Recognition
Disaggregated Revenue
Disaggregation of Schwab’s revenue by major source is as follows:
Three Months Ended September 30,
Nine Months Ended September 30,
2018
2017
2018
2017
Net interest revenue
Interest revenue
$
1,755

$
1,176

$
4,766

$
3,358

Interest expense
(228
)
(94
)
(569
)
(223
)
Net interest revenue
1,527

1,082

4,197

3,135

Asset management and administration fees


Mutual funds and ETF service fees
435

519

1,386

1,538

Advice solutions
294

265

859

765

Other
80

77

229

226

Asset management and administration fees
809

861

2,474

2,529

Trading revenue

Commissions
155

136

501

456

Principal transactions
21

15

56

44

Trading revenue
176

151

557

500

Other
67

71

235

212

Total net revenues
$
2,579

$
2,165

$
7,463

$
6,376

For a summary of revenue provided by our reportable segments, see Note 17. The recognition of revenue is not impacted by the operating segment in which revenue is generated.

- 28 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

Net interest revenue
Net interest revenue, which is generated from financial instruments covered by various other areas of GAAP, is not within the scope of Accounting Standards Codification (ASC) 606, Revenue From Contracts With Customers (ASC 606), and is included in the table above in order to reconcile to total net revenues per the condensed consolidated statement of income. Net interest revenue is the difference between interest generated on interest earning assets and interest paid on funding sources. Our primary interest earning assets include cash and cash equivalents; segregated cash and investments; margin loans, which constitute the majority of receivables from brokerage clients; investment securities; and bank loans. Revenue on interest earning assets is affected by various factors, such as the composition of assets, prevailing interest rates at the time of origination or purchase, changes in interest rates on floating rate securities, and changes in prepayment levels for mortgage related securities and loans. Fees earned on securities borrowing and lending activities, which are conducted by CS&Co on assets held in client brokerage accounts, are included in other interest revenue and expense.

Asset management and administration fees

The majority of asset management and administration fees are generated through our proprietary and third-party mutual fund and ETF offerings, as well as fee-based advisory solutions. Mutual fund and ETF service fees are charged for investment management, shareholder, and administration services provided to Schwab Funds ® and Schwab ETFs™, as well as recordkeeping, shareholder, and administration services provided to third-party funds. Advice solutions fees are charged for brokerage and asset management services provided to advice solutions clients. Both mutual fund and ETF service fees and advice solutions fees are earned and recognized over time. Fees are generally based on a percentage of the daily value of assets under management and are collected on a monthly or quarterly basis.

Trading revenue

Substantially all trading revenue is generated through commissions earned for executing trades for clients in individual equities, options, fixed income securities, and certain third-party mutual funds and ETFs. This revenue is earned and collected when the trades are executed.

Other revenue
Other revenue includes order flow revenue, other service fees, software fees from our portfolio management solutions, exchange processing fees, and nonrecurring gains. Generally, the most significant portion of other revenue is order flow revenue, which are payments received from execution venues to which CS&Co sends equity and option orders. Order flow revenue is recognized when the trades are executed.

Capitalized contract costs
Deferred contract costs relate to sales commissions paid to employees for obtaining contracts with clients and are included in other assets on the condensed consolidated balance sheets. These costs are amortized to expense on a straight-line basis over a period that is consistent with how the related revenue is recognized. At September 30, 2018 and January 1, 2018, we had $246 million and $219 million of deferred contract costs, respectively. Amortization expense related to deferred contract costs was $12 million and $34 million for the third quarter and first nine months of 2018 , respectively, which was recorded in compensation and benefits expense on the condensed consolidated statements of income.

Contract balances
Receivables from contracts with customers within the scope of ASC 606 were $353 million at January 1, 2018 and $359 million at September 30, 2018 and were recorded in other assets on the condensed consolidated balance sheets. Schwab does not have any other significant contract assets or contract liability balances as of September 30, 2018 and January 1, 2018.

Unsatisfied performance obligations
We do not have any unsatisfied performance obligations other than those that are subject to an elective practical expedient under ASC 606. The practical expedient applies to and is elected for contracts where we recognize revenue at the amount to which we have the right to invoice for services performed.

- 29 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

4.    Investment Securities

The amortized cost, gross unrealized gains and losses, and fair value of AFS and HTM securities are as follows:
September 30, 2018
Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Fair
Value
Available for sale securities
U.S. agency mortgage-backed securities
$
24,010

$
47

$
102

$
23,955

U.S. Treasury securities
12,412

—

169

12,243

Asset-backed securities (1)
9,378

19

10

9,387

Corporate debt securities (2)
6,921

10

9

6,922

Certificates of deposit
2,765

4

—

2,769

U.S. agency notes
1,688

—

6

1,682

Commercial paper (2,3)
518

—

—

518

Foreign government agency securities
50

—

2

48

Non-agency commercial mortgage-backed securities
34

—

—

34

Total available for sale securities
$
57,776

$
80

$
298

$
57,558

Held to maturity securities
U.S. agency mortgage-backed securities
$
113,453

$
26

$
3,483

$
109,996

Asset-backed securities (1)
17,964

122

12

18,074

Corporate debt securities (2)
4,578

8

55

4,531

U.S. state and municipal securities
1,330

6

7

1,329

Non-agency commercial mortgage-backed securities
1,149

1

25

1,125

U.S. Treasury securities
223

—

11

212

Certificates of deposit
200

1

—

201

Foreign government agency securities
50

—

2

48

Other
5

—

—

5

Total held to maturity securities
$
138,952

$
164

$
3,595

$
135,521

December 31, 2017
Available for sale securities
U.S. agency mortgage-backed securities
$
20,915

$
53

$
39

$
20,929

U.S. Treasury securities
9,583

—

83

9,500

Asset-backed securities (1)
9,019

34

6

9,047

Corporate debt securities (2)
6,154

16

1

6,169

Certificates of deposit
2,040

2

1

2,041

U.S. agency notes
1,914

—

8

1,906

Commercial paper (2)
313

—

—

313

Foreign government agency securities
51

—

1

50

Non-agency commercial mortgage-backed securities
40

—

—

40

Total available for sale securities
$
50,029

$
105

$
139

$
49,995

Held to maturity securities
U.S. agency mortgage-backed securities
$
101,197

$
290

$
1,034

$
100,453

Asset-backed securities (1)
12,937

127

2

13,062

Corporate debt securities (2)
4,078

13

5

4,086

U.S. state and municipal securities
1,247

57

—

1,304

Non-agency commercial mortgage-backed securities
994

10

5

999

U.S. Treasury securities
223

—

3

220

Certificates of deposit
200

—

—

200

Foreign government agency securities
50

—

1

49

Total held to maturity securities
$
120,926

$
497

$
1,050

$
120,373

(1) Approximately 37% and 42% of asset-backed securities held as of September 30, 2018 and December 31, 2017 , respectively, were Federal Family Education Loan Program Asset-Backed Securities. Asset-backed securities collateralized by credit card receivables represented approximately 43% and 40% of the asset-backed securities held as of September 30, 2018 and December 31, 2017 , respectively.
(2) As of September 30, 2018 and December 31, 2017 , approximately 31% and 41% , respectively, of the total AFS and HTM investments in corporate debt securities and commercial paper were issued by institutions in the financial services industry. Approximately 18% and 22% of the holdings of these securities were issued by institutions in the information technology industry as of September 30, 2018 and December 31, 2017 , respectively.
(3) Included in cash and cash equivalents on the condensed consolidated balance sheet, but excluded from this table is $2.0 billion of AFS commercial paper. These holdings have maturities of three months or less and an aggregate market value equal to amortized cost.


- 30 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

At September 30, 2018 , certain banking subsidiaries had pledged securities with a fair value of $21.5 billion as collateral to secure borrowing capacity on secured credit facilities with the FHLB (see Note 8). We also pledge certain investment securities as collateral to secure borrowing capacity at the Federal Reserve Bank discount window, and had pledged securities with a fair value of $2.4 billion as collateral for this facility at September 30, 2018 . CSB also pledges securities issued by federal agencies to secure certain trust deposits. The fair value of these pledged securities was $898 million at September 30, 2018 .


- 31 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

Securities with unrealized losses, aggregated by category and period of continuous unrealized loss, are as follows:

Less than
12 months

12 months
or longer
Total
September 30, 2018
Fair
Value
Unrealized
Losses
Fair
Value
Unrealized
Losses
Fair
Value
Unrealized
Losses
Available for sale securities
U.S. agency mortgage-backed securities
$
10,119

$
68

$
1,988

$
34

$
12,107

$
102

U.S. Treasury securities
7,770

72

4,374

97

12,144

169

Asset-backed securities
1,841

4

601

6

2,442

10

Corporate debt securities
3,030

8

229

1

3,259

9

U.S. agency notes
566

2

1,116

4

1,682

6

Foreign government agency securities
—

—

48

2

48

2

Total
$
23,326

$
154

$
8,356

$
144

$
31,682

$
298

Held to maturity securities






U.S. agency mortgage-backed securities
$
59,643

$
1,247

$
40,279

$
2,236

$
99,922

$
3,483

Asset-backed securities
2,115

12

39

—

2,154

12

Corporate debt securities
2,862

52

77

3

2,939

55

U.S. state and municipal securities
471

5

14

2

485

7

Non-agency commercial mortgage-backed securities
651

15

279

10

930

25

U.S. Treasury securities
—

—

212

11

212

11

Foreign government agency securities
—

—

48

2

48

2

Total
$
65,742

$
1,331

$
40,948

$
2,264

$
106,690

$
3,595

Total securities with unrealized losses (1)
$
89,068

$
1,485

$
49,304

$
2,408

$
138,372

$
3,893

December 31, 2017
Available for sale securities
U.S. agency mortgage-backed securities
$
5,696

$
21

$
2,548

$
18

$
8,244

$
39

U.S. Treasury securities
4,625

11

4,875

72

9,500

83

Asset-backed securities
904

3

424

3

1,328

6

Corporate debt securities
736

1

120

—

856

1

Certificates of deposit
799

1

—

—

799

1

U.S. agency notes
99

—

1,807

8

1,906

8

Foreign government agency securities
50

1

—

—

50

1

Total
$
12,909

$
38

$
9,774

$
101

$
22,683

$
139

Held to maturity securities






U.S. agency mortgage-backed securities
$
42,102

$
310

$
24,753

$
724

$
66,855

$
1,034

Asset-backed securities
1,124

2

72

—

1,196

2

Corporate debt securities
1,078

5

—

—

1,078

5

Non-agency commercial mortgage-backed securities
607

5

—

—

607

5

U.S. Treasury securities
220

3

—

—

220

3

Foreign government agency securities
49

1

—

—

49

1

Total
$
45,180

$
326

$
24,825

$
724

$
70,005

$
1,050

Total securities with unrealized losses (2)
$
58,089

$
364

$
34,599

$
825

$
92,688

$
1,189

(1) The number of investment positions with unrealized losses totaled 413 for AFS securities and 1,800 for HTM securities.
(2) The number of investment positions with unrealized losses totaled 251 for AFS securities and 938 for HTM securities.


- 32 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

At September 30, 2018 , substantially all securities in the investment portfolios were rated investment grade. U.S. agency mortgage-backed securities do not have explicit credit ratings; however, management considers these to be of the highest credit quality and rating given the guarantee of principal and interest by the U.S. government or U.S. government-sponsored enterprises.

Management evaluates whether investment securities are other-than-temporarily impaired (OTTI) on a quarterly basis as described in Note 2 in the 2017 Form 10-K. No amounts were recognized as OTTI in earnings or other comprehensive income in 2018 or 2017. As of September 30, 2018 and December 31, 2017 , Schwab did not hold any securities on which OTTI was previously recognized.

The maturities of AFS and HTM securities are as follows:
September 30, 2018
Within
1 year
After 1 year
through
5 years
After 5 years
through
10 years
After
10 years
Total
Available for sale securities
U.S. agency mortgage-backed securities (1)
$
169

$
3,669

$
10,571

$
9,546

$
23,955

U.S. Treasury securities
5,999

6,244

—

—

12,243

Asset-backed securities
250

6,968

1,750

419

9,387

Corporate debt securities
1,621

5,301

—

—

6,922

Certificates of deposit
866

1,903

—

—

2,769

U.S. agency notes
1,311

371

—

—

1,682

Commercial paper
518

—

—

—

518

Foreign government agency securities
—

48

—

—

48

Non-agency commercial mortgage-backed securities (1)
—

—

—

34

34

Total fair value
$
10,734

$
24,504

$
12,321

$
9,999

$
57,558

Total amortized cost
$
10,762

$
24,632

$
12,368

$
10,014

$
57,776

Held to maturity securities
U.S. agency mortgage-backed securities (1)
$
383

$
14,370

$
31,785

$
63,458

$
109,996

Asset-backed securities
5

1,611

9,373

7,085

18,074

Corporate debt securities
238

3,550

743

—

4,531

U.S. state and municipal securities
—

59

254

1,016

1,329

Non-agency commercial mortgage-backed securities (1)
—

353

—

772

1,125

U.S. Treasury securities
—

—

212

—

212

Certificates of deposit
—

201

—

—

201

Foreign government agency securities
—

48

—

—

48

Other
—

—

—

5

5

Total fair value
$
626

$
20,192

$
42,367

$
72,336

$
135,521

Total amortized cost
$
628

$
20,540

$
43,339

$
74,445

$
138,952

(1) Mortgage-backed securities have been allocated to maturity groupings based on final contractual maturities. Actual maturities will differ from final contractual maturities because borrowers on a certain portion of loans underlying these securities have the right to prepay their obligations.

Proceeds and gross realized gains and losses from sales of AFS securities are as follows:
Three Months Ended
September 30,
Nine Months Ended
September 30,
2018
2017
2018
2017
Proceeds
$
—

$
288

$
115

$
5,773

Gross realized gains
—

—

—

7




- 33 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

5.    Bank Loans and Related Allowance for Loan Losses
The composition of bank loans and delinquency analysis by loan type is as follows:
September 30, 2018
Current
30-59 days
past due
60-89 days
past due
> 90 days past
due and other
nonaccrual loans (3)
Total past due
and other
nonaccrual loans
Total
loans
Allowance
for loan
losses
Total
bank
loans – net
First Mortgages (1,2)
$
10,217

$
24

$
2

$
13

$
39

$
10,256

$
17

$
10,239

HELOCs (1,2)
1,589

2

1

10

13

1,602

7

1,595

Pledged asset lines
4,552

3

1

—

4

4,556

—

4,556

Other
176

—

—

—

—

176

2

174

Total bank loans
$
16,534

$
29

$
4

$
23

$
56

$
16,590

$
26

$
16,564

December 31, 2017
First Mortgages (1,2)
$
9,983

$
14

$
2

$
17

$
33

$
10,016

$
16

$
10,000

HELOCs (1,2)
1,928

—

3

12

15

1,943

8

1,935

Pledged asset lines
4,361

4

4

—

8

4,369

—

4,369

Other
176

—

—

—

—

176

2

174

Total bank loans
$
16,448

$
18

$
9

$
29

$
56

$
16,504

$
26

$
16,478

(1) First Mortgages and HELOCs include unamortized premiums and discounts and direct origination costs of $73 million and $77 million at September 30, 2018 and December 31, 2017 , respectively.
(2) At September 30, 2018 and December 31, 2017 , 47% and 48% , respectively, of the First Mortgage and HELOC portfolios were concentrated in California. These loans have performed in a manner consistent with the portfolio as a whole.
(3) There were no loans accruing interest that were contractually 90 days or more past due at September 30, 2018 or December 31, 2017 .

At September 30, 2018 , CSB had pledged $11.1 billion of First Mortgages and HELOCs as collateral to secure borrowing capacity on a secured credit facility with the FHLB (see Note 8).

Substantially all of the bank loans were collectively evaluated for impairment at September 30, 2018 and December 31, 2017 .

Changes in the allowance for loan losses were as follows:
September 30, 2018
September 30, 2017
Three Months Ended
First Mortgages
HELOCs
Other
Total (1)
First Mortgages
HELOCs
Other
Total (1)
Balance at beginning of period
$
17

$
7

$
2

$
26

$
17

$
8

$
1

$
26

Charge-offs
—

—

—

—

(1
)
—

—

(1
)
Recoveries
—

1

—

1

—

—

1

1

Provision for loan losses
—

(1
)
—

(1
)
—

—

—

—

Balance at end of period
$
17

$
7

$
2

$
26

$
16

$
8

$
2

$
26

Nine Months Ended
Balance at beginning of period
$
16

$
8

$
2

$
26

$
17

$
8

$
1

$
26

Charge-offs
—

—

(1
)
(1
)
(2
)
(1
)
—

(3
)
Recoveries
—

2

—

2

1

1

1

3

Provision for loan losses
1

(3
)
1

(1
)
—

—

—

—

Balance at end of period
$
17

$
7

$
2

$
26

$
16

$
8

$
2

$
26

(1) All pledged asset lines (PALs) were fully collateralized by securities with fair values in excess of borrowings at September 30, 2018 and December 31, 2017 .

- 34 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

A summary of impaired bank loan-related assets is as follows:
September 30, 2018
December 31, 2017
Nonaccrual loans (1)
$
23

$
28

Other real estate owned (2)
3

3

Total nonperforming assets
26

31

Troubled debt restructurings
4

11

Total impaired assets
$
30

$
42

(1) Nonaccrual loans include nonaccrual troubled debt restructurings.
(2) Included in other assets on the condensed consolidated balance sheets.

Credit Quality
In addition to monitoring delinquency, Schwab monitors the credit quality of First Mortgages and HELOCs by stratifying the portfolios by the following:
•
Year of origination;
•
Borrower FICO scores at origination (Origination FICO);
•
Updated borrower FICO scores (Updated FICO);
•
Loan-to-value (LTV) ratios at origination (Origination LTV); and
•
Estimated current LTV ratios (Estimated Current LTV).
Borrowers’ FICO scores are provided by an independent third-party credit reporting service and updated quarterly. The Origination LTV and Estimated Current LTV for a HELOC include any first lien mortgage outstanding on the same property at the time of the HELOC’s origination. The Estimated Current LTV for each loan is updated on a monthly basis by reference to a home price appreciation index.


- 35 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

The credit quality indicators of the Company’s bank loan portfolio are detailed below:
September 30, 2018
Balance
Weighted Average
Updated FICO
Utilization
Rate (1)
Percent of
Loans that are on
Nonaccrual Status
First Mortgages
Estimated Current LTV
< 70%
$
9,383

777

N/A

0.05
%
>70% – < 90%
868

771

N/A

0.24
%
>90% – < 100%
4

713

N/A

8.70
%
>100%
1

742

N/A

—

Total
$
10,256

776

N/A

0.07
%
HELOCs
Estimated Current LTV (2)
< 70%
$
1,509

771

31
%
0.18
%
>70% – < 90%
84

752

47
%
0.90
%
>90% – < 100%
5

746

77
%
0.90
%
>100%
4

704

81
%
5.28
%
Total
$
1,602

770

31
%
0.24
%
Pledged asset lines


Weighted-Average LTV (2)


=70%
$
4,556

766

36
%
—

December 31, 2017
Balance
Weighted Average
Updated FICO
Utilization
Rate (1)
Percent of
Loans that are on
Nonaccrual Status
First Mortgages
Estimated Current LTV
< 70%
$
9,046

775

N/A

0.09
%
>70% – < 90%
961

769

N/A

0.46
%
>90% – < 100%
5

714

N/A

10.49
%
>100%
4

713

N/A

6.23
%
Total
$
10,016

775

N/A

0.14
%
HELOCs
Estimated Current LTV (2)
< 70%
$
1,773

772

32
%
0.18
%
>70% – < 90%
148

755

47
%
0.84
%
>90% – < 100%
14

742

64
%
2.85
%
>100%
8

718

72
%
4.91
%
Total
$
1,943

770

33
%
0.27
%
Pledged asset lines
Weighted-Average LTV (2)
=70%
$
4,369

765

41
%
—

(1) The Utilization Rate is calculated using the outstanding balance divided by the associated total line of credit.
(2) Represents the LTV for the full line of credit (drawn and undrawn).
N/A Not applicable.

- 36 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

September 30, 2018
First Mortgages
HELOCs
Year of origination

Pre-2014
$
2,144

$
1,156

2014
436

93

2015
1,087

110

2016
2,662

96

2017
2,420

101

2018
1,507

46

Total
$
10,256

$
1,602

Origination FICO


<620
$
5

—

620 – 679
83

8

680 – 739
1,595

305

> 740
8,573

1,289

Total
$
10,256

$
1,602

Origination LTV
< 70%
$
7,737

$
1,127

>70% – < 90%
2,514

468

>90% – < 100%
5

7

Total
$
10,256

$
1,602


December 31, 2017
First Mortgages
HELOCs
Year of origination

Pre-2014
$
2,804

$
1,496

2014
530

116

2015
1,218

128

2016
2,886

111

2017
2,578

92

Total
$
10,016

$
1,943

Origination FICO


<620
$
6

$
1

620 – 679
89

10

680 – 739
1,569

365

> 740
8,352

1,567

Total
$
10,016

$
1,943

Origination LTV


< 70%
$
7,569

$
1,360

>70% – < 90%
2,441

574

>90% – < 100%
6

9

Total
$
10,016

$
1,943

At September 30, 2018 , First Mortgage loans of $9.3 billion had adjustable interest rates. These mortgages have initial fixed interest rates for three to ten years and interest rates that adjust annually thereafter. Approximately 31% of the balance of these mortgages consisted of loans with interest-only payment terms. The interest rates on approximately 64% of the balance of these interest-only loans are not scheduled to reset for three or more years. Schwab’s mortgage loans do not include interest terms described as temporary introductory rates below current market rates.

- 37 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

The HELOC product has a 30 -year loan term with an initial draw period of ten years from the date of origination. After the initial draw period, the balance outstanding at such time is converted to a 20 -year amortizing loan. The interest rate during the initial draw period, and the 20 -year amortizing period, is a floating rate based on the prime rate plus a margin. HELOCs that convert to an amortizing loan may experience higher delinquencies, and higher loss rates, than those in the initial draw period. The allowance for loan loss methodology takes this increased inherent risk into consideration.
The following table presents when current outstanding HELOCs will convert to amortizing loans:
September 30, 2018
Balance
Converted to an amortizing loan by period end
$
640

Within 1 year
186

> 1 year – 3 years
133

> 3 years – 5 years
163

> 5 years
480

Total
$
1,602

At September 30, 2018 , $1.3 billion of the HELOC portfolio was secured by second liens on the associated properties. Second lien mortgage loans typically possess a higher degree of credit risk given the subordination to the first lien holder in the event of default. In addition to the credit monitoring activities described previously, Schwab also monitors credit risk by reviewing the delinquency status of the first lien loan on the associated property. At September 30, 2018 , the borrowers on approximately 54% of HELOC loan balances outstanding only paid the minimum amount due.


6.    Variable Interest Entities
As of September 30, 2018 and December 31, 2017 , all of Schwab’s involvement with variable interest entities (VIEs) is through CSB’s Community Reinvestment Act-related investments and most of those are related to Low-Income Housing Tax Credit (LIHTC) investments. As part of CSB’s community reinvestment initiatives, CSB generally invests with other institutional investors in funds that make equity investments in multifamily affordable housing properties. CSB receives tax credits and other tax benefits for these investments. CSB’s LIHTC investments are accounted for using the proportional amortization method, which amortizes the cost of the investment over the period in which the investor expects to receive tax credits and other tax benefits, and the resulting amortization is included in taxes on income on the consolidated statements of income.
Aggregate assets, liabilities, and maximum exposure to loss
The aggregate assets, liabilities, and maximum exposure to loss from those VIEs in which Schwab holds a variable interest, but is not the primary beneficiary, are summarized in the table below:
September 30, 2018
December 31, 2017
Aggregate
assets
Aggregate
liabilities
Maximum
exposure
to loss
Aggregate
assets
Aggregate
liabilities
Maximum
exposure
to loss
LIHTC investments (1)
$
347

$
204

$
347

$
304

$
203

$
304

Other CRA investments (2)
68

—

116

69

—

125

Total
$
415

$
204

$
463

$
373

$
203

$
429

(1) Aggregate assets and aggregate liabilities are included in other assets and accrued expenses and other liabilities, respectively, on the condensed consolidated balance sheets.
(2) Other CRA investments are recorded using either the adjusted cost method, equity method, or as HTM securities. Aggregate assets are included in HTM securities, bank loans – net, or other assets on the condensed consolidated balance sheets.

Schwab’s maximum exposure to loss would result from the loss of the investments, including any committed amounts. During the nine months ended September 30, 2018 and 2017 , Schwab did not provide or intend to provide financial or other support to the VIEs that it was not contractually required to provide. CSB’s funding of these remaining commitments is dependent upon the occurrence of certain conditions, and CSB expects to pay substantially all of these commitments between 2018 and 2021 .


- 38 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

7.    Bank Deposits

Bank deposits consist of interest-bearing and non-interest-bearing deposits as follows:

September 30, 2018
December 31, 2017
Interest-bearing deposits:
Deposits swept from brokerage accounts
$
194,337

$
148,212

Checking
12,230

13,388

Savings and other
6,153

7,264

Total interest-bearing deposits
212,720

168,864

Non-interest-bearing deposits
688

792

Total bank deposits
$
213,408

$
169,656



8.    Borrowings

CSC’s Senior Notes are unsecured obligations and rank equally with the other unsecured senior debt. CSC may redeem some or all of the Senior Notes of each series prior to their maturity, subject to certain restrictions, and the payment of an applicable make-whole premium in certain instances. Interest is payable semi-annually for the fixed-rate Senior Notes and quarterly for the floating-rate Senior Notes. The following table lists long-term debt by instrument outstanding as of September 30, 2018 and December 31, 2017 .
Date of
Principal Amount Outstanding

Issuance
September 30, 2018
December 31, 2017
Fixed-rate Senior Notes:
1.500% due March 10, 2018 (1)
03/10/15
$
—

$
625

2.200% due July 25, 2018 (2)
07/25/13
—

275

4.450% due July 22, 2020
07/22/10
700

700

3.250% due May 21, 2021
05/22/18
600

—

3.225% due September 1, 2022
08/29/12
256

256

2.650% due January 25, 2023
12/07/17
800

800

3.000% due March 10, 2025
03/10/15
375

375

3.850% due May 21, 2025
05/22/18
750

—

3.450% due February 13, 2026
11/13/15
350

350

3.200% due March 2, 2027
03/02/17
650

650

3.200% due January 25, 2028
12/07/17
700

700

Floating-rate Senior Notes:
Three-month LIBOR + 0.32% due May 21, 2021
05/22/18
600

—

Total Senior Notes
5,781

4,731

5.450% Finance lease obligation (3)
06/04/04
55

61

Unamortized discount — net
(13
)
(14
)
Debt issuance costs
(33
)
(25
)
Total long-term debt
$
5,790

$
4,753

(1) Redeemed on February 8, 2018.
(2) Redeemed on June 25, 2018.
(3) Schwab has a finance lease obligation related to an office building and land under a 20 -year lease. The remaining finance lease obligation is being reduced by a portion of the lease payments over the remaining lease term through June 30, 2024.


- 39 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

Annual maturities on long-term debt outstanding at September 30, 2018 are as follows:
Maturities
2018
$
2

2019
8

2020
709

2021
1,209

2022
266

Thereafter
3,642

Total maturities
5,836

Unamortized discount — net
(13
)
Debt issuance costs
(33
)
Total long-term debt
$
5,790

Short-term borrowings: Certain banking subsidiaries maintain secured credit facilities with the FHLB. Amounts available under these facilities are dependent on the value of our First Mortgages, HELOCs, and the fair value of certain of their investment securities that are pledged as collateral. As of September 30, 2018 , the collateral pledged provided a total borrowing capacity of $30.0 billion of which no amounts were outstanding. As of December 31, 2017 , the collateral pledged by CSB provided a total borrowing capacity of $32.3 billion , of which $15.0 billion was outstanding.
As a condition of the FHLB borrowings, we are required to hold FHLB stock, which was recorded in other assets on the condensed consolidated balance sheets. The investment in FHLB was $32 million at September 30, 2018 and $405 million at December 31, 2017 .


9.    Commitments and Contingencies

Loan Portfolio: CSB provides a co-branded loan origination program for CSB clients (the Program) with Quicken Loans, Inc. (Quicken Loans ® ). Pursuant to the Program, Quicken Loans originates and services First Mortgages and HELOCs for CSB clients. Under the Program, CSB purchases certain First Mortgages and HELOCs that are originated by Quicken Loans. CSB purchased First Mortgages of $491 million and $696 million during the third quarters of 2018 and 2017 , respectively, and $1.6 billion and $2.0 billion during the first nine months of 2018 and 2017 , respectively. Schwab purchased HELOCs with commitments of $104 million and $115 million during the third quarters of 2018 and 2017 , respectively, and $311 million and $344 million during the first nine months of 2018 and 2017 , respectively.
The Company’s commitments to extend credit on bank lines of credit and to purchase First Mortgages are as follows:
September 30, 2018
December 31, 2017

Commitments to extend credit related to unused HELOCs, PALs, and other lines of credit
$
11,028

$
10,060

Commitments to purchase First Mortgage loans
355

308

Total
$
11,383

$
10,368

Guarantees and indemnifications: Schwab has clients that sell (i.e., write) listed option contracts that are cleared by the Options Clearing Corporation – a clearing house that establishes margin requirements on these transactions. We partially satisfy the margin requirements by arranging unsecured standby letter of credit agreements (LOCs), in favor of the Options Clearing Corporation, which are issued by several banks. At September 30, 2018 , the aggregate face amount of these LOCs totaled $225 million . There were no funds drawn under any of these LOCs at September 30, 2018 . In connection with its securities lending activities, Schwab is required to provide collateral to certain brokerage clients. The Company satisfies the collateral requirements by providing cash as collateral.
Schwab also provides guarantees to securities clearing houses and exchanges under standard membership agreements, which require members to guarantee the performance of other members. Under the agreements, if another member becomes unable to satisfy its obligations to the clearing houses and exchanges, other members would be required to meet shortfalls. Schwab’s liability under these arrangements is not quantifiable and may exceed the cash and securities it has posted as collateral. The

- 40 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

potential requirement for the Company to make payments under these arrangements is remote. Accordingly, no liability has been recognized for these guarantees.
Legal contingencies: Schwab 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.

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. It may not be reasonably possible to estimate 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.

Schwab 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. Unless otherwise noted, the Company is unable to provide a reasonable estimate of any potential liability given the stage of proceedings in the matter. With respect to all other pending matters, based on current information and consultation with counsel, it does not appear reasonably possible that the outcome of any such matter would be material to the financial condition, operating results, or cash flows of the Company.

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 ™ . Plaintiff’s fourth amended complaint, filed on June 25, 2015, asserts state law breach of contract and fiduciary duty claims and names CSIM, Schwab Investments (registrant and issuer of the fund’s shares), and certain current and former fund trustees 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 fundholder vote. Plaintiff seeks unspecified compensatory and rescission damages, unspecified equitable and injunctive relief, costs, and attorneys’ fees on behalf of a putative class of investors who held shares as of August 31, 2007, and a putative class of investors who purchased the shares between September 1, 2017 and February 27, 2009. In decisions issued October 6, 2015 and February 23, 2016, the court dismissed all claims with prejudice, holding that federal securities law precluded plaintiff from pursuing such claims as a class action. Plaintiff appealed to the Ninth Circuit, and on September 14, 2018, a 3-judge panel upheld dismissal, with leave for plaintiff to pursue the claims in its individual capacity. Action by plaintiff, including further appeal, remains pending.

Crago Order Routing Litigation : On July 13, 2016, a securities class action lawsuit was filed in the U.S. District Court for the Northern District of California on behalf of a putative class of customers executing equity orders through CS&Co. The lawsuit names CS&Co and CSC as defendants and alleges that an agreement under which CS&Co routed orders to UBS Securities LLC between July 13, 2011 and December 31, 2014 violated CS&Co’s duty to seek best execution. Plaintiffs seek unspecified damages, interest, injunctive and equitable relief, and attorneys’ fees and costs. After a first amended complaint was dismissed with leave to amend, plaintiffs filed a second amended complaint on August 14, 2017. Defendants again moved to dismiss, and in a decision issued December 5, 2017, the court denied the motion. Defendants have answered the complaint to deny all allegations, and intend to vigorously contest the lawsuit.




- 41 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

10.     Financial Instruments Subject to Off-Balance Sheet Credit Risk

Resale agreements: Schwab enters into collateralized resale agreements principally with other broker-dealers, which could result in losses in the event the counterparty fails to purchase the securities held as collateral for the cash advanced and the fair value of the securities declines. To mitigate this risk, Schwab requires that the counterparty deliver securities to a custodian, to be held as collateral, with a fair value at or in excess of the resale price. Schwab also sets standards for the credit quality of the counterparty, monitors the fair value of the underlying securities as compared to the related receivable, including accrued interest, and requires additional collateral where deemed appropriate. The collateral provided under these resale agreements is utilized to meet obligations under broker-dealer client protection rules, which place limitations on our ability to access such segregated securities. For Schwab to repledge or sell this collateral, it would be required to deposit cash and/or securities of an equal amount into its segregated reserve bank accounts in order to meet its segregated cash and investment requirement. Schwab’s resale agreements are not subject to master netting arrangements.

Securities lending: Schwab loans brokerage client securities temporarily to other brokers and clearing houses in connection with its securities lending activities and receives cash as collateral for the securities loaned. Increases in security prices may cause the fair value of the securities loaned to exceed the amount of cash received as collateral. In the event the counterparty to these transactions does not return the loaned securities or provide additional cash collateral, we may be exposed to the risk of acquiring the securities at prevailing market prices in order to satisfy our client obligations. Schwab mitigates this risk by requiring credit approvals for counterparties, monitoring the fair value of securities loaned, and requiring additional cash as collateral when necessary. We also borrow securities from other broker-dealers to fulfill short sales by brokerage clients and deliver cash to the lender in exchange for the securities. The fair value of these borrowed securities was $338 million and $215 million at September 30, 2018 and December 31, 2017 , respectively. All of our securities lending transactions are through a program with a clearing organization, which guarantees the return of cash to us and is subject to enforceable master netting arrangements with other broker-dealers; however, we do not net securities lending transactions. Therefore, the securities loaned and securities borrowed are presented gross in the condensed consolidated balance sheets.

- 42 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

The following table presents information about our resale agreements and securities lending activity depicting the potential effect of rights of setoff between these recognized assets and recognized liabilities at September 30, 2018 and December 31, 2017 .

Gross Amounts Not Offset in the
Condensed Consolidated
Balance Sheets
Gross
Assets/
Liabilities
Gross Amounts
Offset in the
Condensed
Consolidated
Balance Sheets
Net Amounts
Presented in the
Condensed
Consolidated
Balance Sheets
Counterparty
Offsetting
Collateral
Net
Amount
September 30, 2018
Assets
Resale agreements (1)
$
4,424

$
—

$
4,424

$
—

$
(4,424
)
(2)
$
—

Securities borrowed (3)
346

—

346

(316
)
(30
)
—

Total
$
4,770

$
—

$
4,770

$
(316
)
$
(4,454
)
$
—

Liabilities
Securities loaned (4,5)
$
1,062

$
—

$
1,062

$
(316
)
$
(652
)
$
94

Total
$
1,062

$
—

$
1,062

$
(316
)
$
(652
)
$
94

December 31, 2017
Assets
Resale agreements (1)
$
6,596

$
—

$
6,596

$
—

$
(6,596
)
(2)
$
—

Securities borrowed (3)
222

—

222

(199
)
(22
)
1

Total
$
6,818

$
—

$
6,818

$
(199
)
$
(6,618
)
$
1

Liabilities
Securities loaned (4,5)
$
966

$
—

$
966

$
(199
)
$
(670
)
$
97

Total
$
966

$
—

$
966

$
(199
)
$
(670
)
$
97

(1) Included in cash and investments segregated and on deposit for regulatory purposes in the condensed consolidated balance sheets.
(2) Actual collateral was greater than or equal to 102% of the related assets. At September 30, 2018 and December 31, 2017 , the fair value of collateral received in connection with resale agreements that are available to be repledged or sold was $4.5 billion and $6.7 billion , respectively.
(3) Included in receivables from brokers, dealers, and clearing organizations in the condensed consolidated balance sheets.
(4) Included in payables to brokers, dealers, and clearing organizations in the condensed consolidated balance sheets. The cash collateral received from counterparties under securities lending transactions was equal to or greater than the market value of the securities loaned at September 30, 2018 and December 31, 2017 .
(5) Securities loaned are predominantly comprised of equity securities held in client brokerage accounts with overnight and continuous remaining contractual maturities.


- 43 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

Margin lending: Clients with margin loans have agreed to allow Schwab to pledge collateralized securities in their brokerage accounts in accordance with federal regulations. The following table summarizes the fair value of client securities that were available, under such regulations, that could have been used as collateral, and the amounts that we had pledged:
September 30, 2018
December 31, 2017
Fair value of client securities available to be pledged
$
28,806

$
25,905

Fair value of client securities pledged for:
Fulfillment of requirements with the Options Clearing Corporation (1)
3,036

2,280

Fulfillment of client short sales
1,923

2,011

Securities lending to other broker-dealers
872

784

Total collateral pledged
$
5,831

$
5,075

Note: Excludes amounts available and pledged for securities lending from fully-paid client securities. The fair value of fully-paid client securities available and pledged was $88 million as of September 30, 2018 and $78 million as of December 31, 2017 .
(1)
Client securities pledged to fulfill client margin requirements for open option contracts established with the Options Clearing Corporation.


11.    Fair Values of Assets and Liabilities

Assets and liabilities measured at fair value on a recurring basis

Schwab’s assets and liabilities measured at fair value on a recurring basis include certain cash equivalents, certain investments segregated and on deposit for regulatory purposes, other securities owned, and AFS securities. The Company uses the market approach to determine the fair value of assets and liabilities. When available, the Company uses quoted prices in active markets to measure the fair value of assets and liabilities. When utilizing market data and bid-ask spread, the Company uses the price within the bid-ask spread that best represents fair value. When quoted prices do not exist, the Company uses prices obtained from independent third-party pricing services to measure the fair value of investment assets. We generally obtain prices from at least three independent pricing sources for assets recorded at fair value.

Our primary independent pricing service provides prices based on observable trades and discounted cash flows that incorporate observable information such as yields for similar types of securities (a benchmark interest rate plus observable spreads) and weighted-average maturity for the same or similar “to-be-issued” securities. We compare the prices obtained from the primary independent pricing service to the prices obtained from the additional independent pricing sources to determine if the price obtained from the primary independent pricing service is reasonable. Schwab does not adjust the prices received from independent third-party pricing services unless such prices are inconsistent with the definition of fair value and result in a material difference in the recorded amounts.

For a description of the fair value hierarchy and Schwab’s fair value methodologies, including the use of independent third-party pricing services, see Note 2 in the 2017 Form 10-K. We did not transfer any assets or liabilities between Level 1, Level 2, or Level 3 during the nine months ended September 30, 2018 , or the year ended December 31, 2017 . In addition, the Company did not adjust prices received from the primary independent third-party pricing service at September 30, 2018 or December 31, 2017 .




- 44 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

Assets and Liabilities Measured at Fair Value on a Recurring Basis

The following tables present the fair value hierarchy for assets measured at fair value on a recurring basis. Liabilities recorded at fair value were not material, and therefore are not included in the following tables:
September 30, 2018
Level 1
Level 2
Level 3
Balance at
Fair Value
Cash equivalents:
Money market funds
$
552

$
—

$
—

$
552

Commercial paper
—

1,988

—

1,988

Total cash equivalents
552

1,988

—

2,540

Investments segregated and on deposit for regulatory purposes:



Certificates of deposit
—

1,950

—

1,950

Total investments segregated and on deposit for regulatory purposes
—

1,950

—

1,950

Other securities owned:



Equity and bond mutual funds
394

—

—

394

Schwab Funds ® money market funds
21

—

—

21

State and municipal debt obligations
—

44

—

44

Equity, U.S. Government and corporate debt, and other securities
3

38

—

41

Total other securities owned
418

82

—

500

Available for sale securities:



U.S. agency mortgage-backed securities
—

23,955

—

23,955

U.S. Treasury securities
—

12,243

—

12,243

Asset-backed securities
—

9,387

—

9,387

Corporate debt securities
—

6,922

—

6,922

Certificates of deposit
—

2,769

—

2,769

U.S. agency notes
—

1,682

—

1,682

Commercial paper
—

518

—

518

Foreign government agency securities
—

48

—

48

Non-agency commercial mortgage-backed securities
—

34

—

34

Total available for sale securities
—

57,558

—

57,558

Total
$
970

$
61,578

$
—

$
62,548


- 45 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

December 31, 2017
Level 1
Level 2
Level 3
Balance at
Fair Value
Cash equivalents:
Money market funds
$
2,727

$
—

$
—

$
2,727

Total cash equivalents
2,727

—

—

2,727

Investments segregated and on deposit for regulatory purposes:
Certificates of deposit
—

2,198

—

2,198

U.S. Government securities
—

3,658

—

3,658

Total investments segregated and on deposit for regulatory purposes
—

5,856

—

5,856

Other securities owned:

Equity and bond mutual funds
318

—

—

318

Schwab Funds ® money market funds
135

—

—

135

State and municipal debt obligations
—

52

—

52

Equity, U.S. Government and corporate debt, and other securities
2

32

—

34

Total other securities owned
455

84

—

539

Available for sale securities:
U.S. agency mortgage-backed securities
—

20,929

—

20,929

U.S. Treasury securities
—

9,500

—

9,500

Asset-backed securities
—

9,047

—

9,047

Corporate debt securities
—

6,169

—

6,169

Certificates of deposit
—

2,041

—

2,041

U.S. agency notes
—

1,906

—

1,906

Commercial paper
—

313

—

313

Foreign government agency securities
—

50

—

50

Non-agency commercial mortgage-backed securities
—

40

—

40

Total available for sale securities
—

49,995

—

49,995

Total
$
3,182

$
55,935

$
—

$
59,117


- 46 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

Fair Value of Other Financial Instruments
The following tables present the fair value hierarchy for other financial instruments:
September 30, 2018
Carrying
Amount
Level 1
Level 2
Level 3
Balance at
Fair Value
Assets
Cash and cash equivalents
$
19,290

$
—

$
19,290

$
—

$
19,290

Cash and investments segregated and on deposit for
regulatory purposes
6,526

—

6,526

—

6,526

Receivables from brokers, dealers, and clearing
organizations
798

—

798

—

798

Receivables from brokerage clients — net
22,402

—

22,402

—

22,402

Held to maturity securities:
U.S. agency mortgage-backed securities
113,453

—

109,996

—

109,996

Asset-backed securities
17,964

—

18,074

—

18,074

Corporate debt securities
4,578

—

4,531

—

4,531

U.S. state and municipal securities
1,330

—

1,329

—

1,329

Non-agency commercial mortgage-backed securities
1,149

—

1,125

—

1,125

U.S. Treasury securities
223

—

212

—

212

Certificates of deposit
200

—

201

—

201

Foreign government agency securities
50

—

48

—

48

Other
5

—

5

—

5

Total held to maturity securities
138,952

—

135,521

—

135,521

Bank loans — net:
First Mortgages
10,239

—

9,963

—

9,963

HELOCs
1,595

—

1,664

—

1,664

Pledged asset lines
4,556

—

4,556

—

4,556

Other
174

—

174

—

174

Total bank loans — net
16,564

—

16,357

—

16,357

Other assets
463

—

463

—

463

Total
$
204,995

$
—

$
201,357

$
—

$
201,357

Liabilities
Bank deposits
$
213,408

$
—

$
213,408

$
—

$
213,408

Payables to brokers, dealers, and clearing organizations
1,522

—

1,522

—

1,522

Payables to brokerage clients
27,851

—

27,851

—

27,851

Accrued expenses and other liabilities
1,177

—

1,177

—

1,177

Long-term debt
5,790

—

5,687

—

5,687

Total
$
249,748

$
—

$
249,645

$
—

$
249,645



- 47 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

December 31, 2017
Carrying
Amount
Level 1
Level 2
Level 3
Balance at
Fair Value
Assets
Cash and cash equivalents
$
11,490

$
—

$
11,490

$
—

$
11,490

Cash and investments segregated and on deposit for
regulatory purposes
9,277

—

9,277

—

9,277

Receivables from brokers, dealers, and clearing
organizations
649

—

649

—

649

Receivables from brokerage clients — net
20,568

—

20,568

—

20,568

Held to maturity securities:
U.S. agency mortgage-backed securities
101,197

—

100,453

—

100,453

Asset-backed securities
12,937

—

13,062

—

13,062

Corporate debt securities
4,078

—

4,086

—

4,086

U.S. state and municipal securities
1,247

—

1,304

—

1,304

Non-agency commercial mortgage-backed securities
994

—

999

—

999

U.S. Treasury securities
223

—

220

—

220

Certificates of deposit
200

—

200

—

200

Foreign government agency securities
50

—

49

—

49

Total held to maturity securities
120,926

—

120,373

—

120,373

Bank loans — net:
First Mortgages
10,000

—

9,917

—

9,917

HELOCs
1,935

—

2,025

—

2,025

Pledged asset lines
4,369

—

4,369

—

4,369

Other
174

—

174

—

174

Total bank loans — net
16,478

—

16,485

—

16,485

Other assets
781

—

781

—

781

Total
$
180,169

$
—

$
179,623

$
—

$
179,623

Liabilities
Bank deposits
$
169,656

$
—

$
169,656

$
—

$
169,656

Payables to brokers, dealers, and clearing organizations
1,287

—

1,287

—

1,287

Payables to brokerage clients
31,243

—

31,243

—

31,243

Accrued expenses and other liabilities
1,463

—

1,463

—

1,463

Short-term borrowings
15,000

—

15,000

—

15,000

Long-term debt
4,753

—

4,811

—

4,811

Total
$
223,402

$
—

$
223,460

$
—

$
223,460




- 48 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

12.    Stockholders’ Equity
The Company’s preferred stock issued and outstanding is as follows:

Liquidation Preference Per Share
Dividend Rate in Effect at September 30, 2018
Earliest Redemption Date
Date at Which Dividend Rate Becomes Floating
Floating Annual Rate of Three-Month LIBOR plus:
Shares Issued and Outstanding (In thousands) at
Carrying Value at
September 30, 2018 (1)
December 31, 2017 (1)
September 30, 2018
December 31, 2017
Issue Date
Fixed-rate:
Series C
600

600

$
1,000

$
585

$
585

08/03/15
6.000
%
12/01/20
N/A
N/A

Series D
750

750

1,000

728

728

03/07/16
5.950
%
06/01/21
N/A
N/A

Fixed-to-floating-rate:
Series A
400

400

1,000

397

397

01/26/12
7.000
%
02/01/22
02/01/22
4.820
%
Series E
6

6

100,000

591

591

10/31/16
4.625
%
03/01/22
03/01/22
3.315
%
Series F
5

5

100,000

492

492

10/31/17
5.000
%
12/01/27
12/01/27
2.575
%
Total preferred stock
1,761

1,761



$
2,793

$
2,793

(1) Represented by depositary shares, except for Series A.
N/A Not applicable.


13.    Accumulated Other Comprehensive Income
Accumulated other comprehensive income (AOCI) represents cumulative gains and losses that are not reflected in earnings. The components of other comprehensive income (loss) are as follows:
2018
2017
Three Months Ended September 30,
Before
Tax
Tax
Effect
Net of
Tax
Before
Tax
Tax
Effect
Net of
Tax
Change in net unrealized gain (loss) on available for sale securities:






Net unrealized gain (loss)
$
(43
)
$
11

$
(32
)
$
—

$
—

$
—

Change in net unrealized gain (loss) on held to maturity securities:
Amortization of amounts previously recorded upon transfer from available for sale
8

(2
)
6

10

(4
)
6

Other comprehensive income (loss)
$
(35
)
$
9

$
(26
)
$
10

$
(4
)
$
6


2018
2017
Nine Months Ended September 30,
Before
Tax
Tax
Effect
Net of
Tax
Before
Tax
Tax
Effect
Net of
Tax
Change in net unrealized gain (loss) on available for sale securities:





Net unrealized gain (loss)
$
(184
)
$
45

$
(139
)
$
81

$
(30
)
$
51

Reclassification of net unrealized loss on securities transferred to held to maturity (1)
—

—

—

227

(85
)
142

Other reclassifications included in other revenue
—

—

—

(7
)
3

(4
)
Change in net unrealized gain (loss) on held to maturity securities:
Reclassification of net unrealized loss on securities transferred from available for sale (1)
—

—

—

(227
)
85

(142
)
Amortization of amounts previously recorded upon transfer from available for sale
26

(6
)
20

21

(9
)
12

Other
—

—

—

(3
)
1

(2
)
Other comprehensive income (loss)
$
(158
)
$
39

$
(119
)
$
92

$
(35
)
$
57

(1) See Note 5 in the 2017 10-K for discussion of the transfer of securities from the AFS category to the HTM category during the first quarter of 2017.

- 49 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

AOCI balances are as follows:

Total Accumulated Other Comprehensive Income
Balance at December 31, 2016
$
(163
)
Available for sale securities:
Net unrealized gain (loss)
51

Reclassification of net unrealized loss on securities transferred to held to maturity
142

Other reclassifications included in other revenue
(4
)
Held to maturity securities:
Reclassification of net unrealized loss on securities transferred from available for sale
(142
)
Amortization of amounts previously recorded upon transfer to held to maturity from available for sale
12

Other
(2
)
Balance at September 30, 2017
$
(106
)
Balance at December 31, 2017
$
(152
)
Adoption of accounting standards (Note 2)
(33
)
Available for sale securities:
Net unrealized gain (loss)
(139
)
Held to maturity securities:
Amortization of amounts previously recorded upon transfer to held to maturity from available for sale
20

Balance at September 30, 2018
$
(304
)


14.    Taxes on Income
On December 22, 2017, the Tax Act was signed into law. Among other things, the Tax Act lowered the federal corporate income tax rate from 35% to 21%, effective for tax years including or commencing January 1, 2018. Schwab’s effective tax rate for the three and nine months ended September 30, 2018 was 24.3% and 23.3% , respectively, compared to 34.6% and 34.9% for the three and nine months ended September 30, 2017 , respectively, resulting from the impact of the Tax Act of 2017.

Also as a result of the Tax Act, Schwab recognized a $46 million one-time non-cash charge to taxes on income in the fourth quarter of 2017 associated with the remeasurement of net deferred tax assets and other tax adjustments related to the Tax Act. While we were able to make a reasonable estimate of the impact of the reduction in the corporate tax rate in the fourth quarter of 2017, our accounting for various elements of the Tax Act may be affected by clarifications of the Tax Act and other related analysis.

During the second quarter of 2018, Schwab concluded its analysis of the effect of bonus depreciation that allows for immediate expensing of qualified property related to the Tax Act. The impact of the true-up adjustment from this analysis was determined to be immaterial. We are continuing to gather additional information to complete the accounting for the remaining estimated items, including the state tax effect of adjustments made to federal temporary differences, and expect to complete the accounting within the prescribed measurement period. As such, the impact of the Tax Act is an estimate pending further information and the analysis noted.

As of January 1, 2018, Schwab adopted new accounting guidance that decreased AOCI and increased retained earnings by $33 million for the reclassification of certain impacts of the Tax Act as described in Note 2.



- 50 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

15.    Earnings Per Common Share

EPS under the basic and diluted computations is as follows:
Three Months Ended
September 30,
Nine Months Ended
September 30,
2018
2017
2018
2017
Net income
$
923

$
618

$
2,572

$
1,757

Preferred stock dividends and other (1)
(38
)
(43
)
(128
)
(127
)
Net income available to common stockholders
$
885

$
575

$
2,444

$
1,630

Weighted-average common shares outstanding — basic
1,351

1,339

1,349

1,338

Common stock equivalent shares related to stock incentive plans
13

14

14

14

Weighted-average common shares outstanding — diluted (2)
1,364

1,353

1,363

1,352

Basic EPS
$
.66

$
.43

$
1.81

$
1.22

Diluted EPS
$
.65

$
.42

$
1.79

$
1.21

(1) Includes preferred stock dividends and undistributed earnings and dividends allocated to non-vested restricted stock units.
(2) Antidilutive stock options and restricted stock units excluded from the calculation of diluted EPS totaled 11 million and 9 million shares for the third quarters of 2018 and 2017 , respectively, and 12 million and 10 million shares for the first nine months of 2018 and 2017 , respectively.



- 51 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

16.    Regulatory Requirements

At September 30, 2018 , Schwab and CSB met all of their respective capital requirements. The regulatory capital and ratios for CSC (consolidated) and CSB are as follows:

Actual
Minimum to be
Well Capitalized
Minimum Capital Requirement
September 30, 2018
Amount
Ratio
Amount
Ratio
Amount
Ratio
CSC
Common Equity Tier 1 Risk-Based Capital
$
17,025

19.6
%
N/A

$
3,907

4.5
%
Tier 1 Risk-Based Capital
19,818

22.8
%
N/A

5,210

6.0
%
Total Risk-Based Capital
19,846

22.9
%
N/A

6,946

8.0
%
Tier 1 Leverage
19,818

7.5
%
N/A

10,622

4.0
%
CSB
Common Equity Tier 1 Risk-Based Capital
$
15,164

20.2
%
$
4,890

6.5
%
$
3,385

4.5
%
Tier 1 Risk-Based Capital
15,164

20.2
%
6,018

8.0
%
4,513

6.0
%
Total Risk-Based Capital
15,191

20.2
%
7,522

10.0
%
6,018

8.0
%
Tier 1 Leverage
15,164

7.1
%
10,668

5.0
%
8,534

4.0
%
December 31, 2017
CSC
Common Equity Tier 1 Risk-Based Capital
$
14,630

19.3
%
N/A

$
3,414

4.5
%
Tier 1 Risk-Based Capital
17,423

23.0
%
N/A

4,552

6.0
%
Total Risk-Based Capital
17,452

23.0
%
N/A

6,069

8.0
%
Tier 1 Leverage
17,423

7.6
%
N/A

9,218

4.0
%
CSB
Common Equity Tier 1 Risk-Based Capital
$
13,355

20.1
%
$
4,324

6.5
%
$
2,993

4.5
%
Tier 1 Risk-Based Capital
13,355

20.1
%
5,321

8.0
%
3,991

6.0
%
Total Risk-Based Capital
13,382

20.1
%
6,652

10.0
%
5,321

8.0
%
Tier 1 Leverage
13,355

7.1
%
9,462

5.0
%
7,569

4.0
%
N/A Not applicable.

At September 30, 2018 , CSB is considered well capitalized (the highest category) under its regulatory capital rules. At September 30, 2018 , CSC’s and CSB’s capital levels exceeded the fully implemented capital conservation buffer requirement. Certain events, such as growth in bank deposits and regulatory discretion, could adversely affect our ability to meet future capital requirements.

In late 2017, Schwab acquired a federal savings bank charter and changed the name to Charles Schwab Signature Bank (CSSB). At September 30, 2018 , CSSB’s balance sheet consisted primarily of investment securities with total assets of $13.1 billion . CSSB is subject to similar regulatory guidelines and requirements, and seeks to maintain a Tier 1 Leverage Ratio similar to CSB.
Net capital and net capital requirements for CS&Co are as follows:
September 30, 2018
December 31, 2017
Net Capital
$
2,280

$
2,118

Minimum net capital required
0.250

0.250

2% of aggregate debit balances
476

435

Net Capital in excess of required net capital
$
1,804

$
1,683


- 52 -

CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

In accordance with the SEC Customer Protection Rule, CS&Co had portions of its cash and investments segregated for the exclusive benefit of clients at September 30, 2018 . The SEC Customer Protection Rule requires broker-dealers to segregate client fully paid securities and cash balances not collateralizing margin positions and not swept to money market funds or bank deposit accounts. Amounts included in cash and investments segregated and on deposit for regulatory purposes represent actual balances on deposit. Cash and cash equivalents included in cash and investments segregated and on deposit for regulatory purposes are presented as part of Schwab’s cash balances in the consolidated statements of cash flows.


17.    Segment Information
Schwab’s two reportable segments are Investor Services and Advisor Services. Schwab structures the operating segments according to its clients and the services provided to those clients. The Investor Services segment provides retail brokerage and banking services to individual investors and retirement plan services, as well as other corporate brokerage services, to businesses and their employees. The Advisor Services segment provides custodial, trading, banking, and support services, as well as retirement business services to independent RIAs, independent retirement advisors, and recordkeepers. Revenues and expenses are allocated to the two segments based on which segment services the client.
Management evaluates the performance of the segments on a pre-tax basis. Segment assets and liabilities are not used for evaluating segment performance or in deciding how to allocate resources to segments. There are no revenues from transactions between the segments.
Financial information for the segments is presented in the following tables:
Investor Services
Advisor Services
Total
Three Months Ended September 30,
2018
2017
2018
2017
2018
2017
Net Revenues
Net interest revenue
$
1,138

$
818

$
389

$
264

$
1,527

$
1,082

Asset management and administration fees
565

595

244

266

809

861

Trading revenue
112

94

64

57

176

151

Other
53

54

14

17

67

71

Total net revenues
1,868

1,561

711

604

2,579

2,165

Expenses Excluding Interest
1,015

918

345

302

1,360

1,220

Income before taxes on income
$
853

$
643

$
366

$
302

$
1,219

$
945

Investor Services
Advisor Services
Total
Nine Months Ended September 30,
2018
2017
2018
2017
2018
2017
Net Revenues
Net interest revenue
$
3,158

$
2,366

$
1,039

$
769

$
4,197

$
3,135

Asset management and administration fees
1,727

1,743

747

786

2,474

2,529

Trading revenue
354

311

203

189

557

500

Other
182

159

53

53

235

212

Total net revenues
5,421

4,579

2,042

1,797

7,463

6,376

Expenses Excluding Interest
3,069

2,762

1,042

917

4,111

3,679

Income before taxes on income
$
2,352

$
1,817

$
1,000

$
880

$
3,352

$
2,697




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CHARLES SCHWAB CORPORATION
Notes to Condensed Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Ratios, or as Noted)
(Unaudited)

18.    Subsequent Events
On October 25, 2018, CSC’s Board of Directors terminated the existing two share repurchase authorizations and replaced them with a new authorization to repurchase up to a total of $1.0 billion of common stock.

On October 31, 2018, CSC issued $500 million aggregate principal amount of Senior Notes that mature in 2024 and $600 million aggregate principal amount of Senior Notes that mature in 2029 under its universal shelf registration statement on file with the SEC. The Senior Notes due 2024 have a fixed interest rate of 3.550% with interest payable semi-annually. The Senior Notes due 2029 have a fixed interest rate of 4.000% with interest payable semi-annually.

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THE CHARLES SCHWAB CORPORATION



Item 4.     Controls and Procedures
Evaluation of disclosure controls and procedures: The management of the Company, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934) as of September 30, 2018 . Based on this evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that the Company’s disclosure controls and procedures were effective as of September 30, 2018 .
Changes in internal control over financial reporting: No change in the Company’s internal control over financial reporting (as defined in Rule 13a-15(f) under the Securities Exchange Act of 1934) was identified during the quarter ended September 30, 2018 , that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.


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THE CHARLES SCHWAB CORPORATION



PART  II  -  OTHER  INFORMATION


Item 1.     Legal Proceedings
For a discussion of legal proceedings, see Item 1 – Note 9.

Item 1A.     Risk Factors

During the first nine months of 2018 , there have been no material changes to the risk factors in Part I – Item 1A – Risk Factors in the 2017 Form 10-K.

Item 2.     Unregistered Sales of Equity Securities and Use of Proceeds
Issuer Purchases of Equity Securities
At September 30, 2018 , approximately $596 million of future share repurchases remained authorized under the Share Repurchase Program. There were two authorizations under this program by CSC’s Board of Directors, each covering up to $500 million of common stock, that were publicly announced by CSC on April 25, 2007 and March 13, 2008. There were no share repurchases during the third quarter of 2018 . On October 25, 2018, CSC publicly announced that its Board of Directors terminated the existing authorizations and replaced them with a new authorization to repurchase up to a total of $1.0 billion of common stock. The authorization does not have an expiration date.

The following table summarizes purchases made by or on behalf of CSC of its common stock for each calendar month in the third quarter of 2018 :
Month
Total number of shares purchased (in thousands)
Average price paid per shares
July:
Employee transactions (1)
3

$
51.24

August:
Employee transactions (1)
5

$
50.57

September:
Employee transactions (1)
5

$
50.99

Total:
Employee Transactions (1)
13

$
50.89

(1) Includes restricted shares withheld (under the terms of grants under employee stock incentive plans) to offset tax withholding obligations that occur upon vesting and release of restricted shares. The Company may receive shares delivered or attested to pay the exercise price and/or to satisfy tax withholding obligations by employees who exercise stock options granted under employee stock incentive plans, which are commonly referred to as stock swap exercises.


Item 3.     Defaults Upon Senior Securities

None.

Item 4.     Mine Safety Disclosures

Not applicable.

Item 5.     Other Information
None.

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THE CHARLES SCHWAB CORPORATION



Item 6.     Exhibits
The following exhibits are filed as part of this Quarterly Report on Form 10-Q:
Exhibit
Number
Exhibit
12.1
31.1
31.2
32.1
(1)
32.2
(1)
101.INS
XBRL Instance Document
(2)
101.SCH
XBRL Taxonomy Extension Schema
(2)
101.CAL
XBRL Taxonomy Extension Calculation
(2)
101.DEF
XBRL Extension Definition
(2)
101.LAB
XBRL Taxonomy Extension Label
(2)
101.PRE
XBRL Taxonomy Extension Presentation
(2)
(1
)
Furnished as an exhibit to this Quarterly Report on Form 10-Q.
(2
)
Attached as Exhibit 101 to this Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2018 are the following materials formatted in XBRL (Extensible Business Reporting Language) (i) the Condensed Consolidated Statements of Income, (ii) the Condensed Consolidated Statements of Comprehensive Income, (iii) the Condensed Consolidated Balance Sheets, (iv) the Condensed Consolidated Statements of Stockholders’ Equity, (v) the Condensed Consolidated Statements of Cash Flows, and (vi) Notes to Condensed Consolidated Financial Statements.



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THE CHARLES SCHWAB CORPORATION




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:
November 7, 2018
/s/ Peter Crawford
Peter Crawford
Executive Vice President and Chief Financial Officer


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