OVERVIEW

Management of the Company focuses on several key financial and non-financial metrics in evaluating the Company's financial position and operating performance. All information contained in this Annual Report on Form 10-K is presented on a continuing operations basis unless otherwise noted. Results for the years ended December 31, 2008, 2007, and 2006 are shown in the following table:

                                          Growth Rate
                                            1-year
                                           2007-2008           2008             2007             2006
Client Activity Metrics:
Net new client assets (in billions)
(1, 2)                                            (29 %)    $     113.4      $     160.2      $      83.3
Client assets (in billions, at year
end)                                              (21 %)    $   1,137.0      $   1,445.5      $   1,239.2
Clients' daily average trades (in
thousands)                                         22 %           346.6            284.9            270.0

Company Financial Metrics:
Net revenues                                        3 %     $     5,150      $     4,994      $     4,309
Expenses excluding interest                        (1 %)          3,122            3,141            2,833

Income from continuing operations
before taxes on income                              9 %           2,028            1,853            1,476
Taxes on income                                     9 %            (798 )           (733 )           (585 )

Income from continuing operations                  10 %           1,230            1,120              891
(Loss) income from discontinued
operations, net of tax                            N/M               (18 )          1,287              336

Net income                                        N/M       $     1,212      $     2,407      $     1,227

Earnings per share from continuing
operations - diluted                               15 %     $      1.06      $       .92      $       .69
Earnings per share - diluted                      N/M       $      1.05      $      1.97      $       .95
Net revenue growth from prior year                                    3 %             16 %             19 %
Pre-tax profit margin from continuing
operations                                                         39.4 %           37.1 %           34.3 %
Return on stockholders' equity                                       31 %             55 %             26 %
Net revenue per average full-time
equivalent employee (in thousands)                 (1 %)    $       383      $       387      $       362

(1) Net new client assets in 2007 includes $23.0 billion related to the acquisition of The 401(k) Company and $3.3 billion related to a mutual fund clearing services client.

(2) Effective in 2007, amounts include the Company's mutual fund clearing services business' daily net settlements. All prior period amounts have been recast to reflect this change.

N/M Not meaningful.

• Net new client assets is defined as the total inflows of client cash and securities to the firm less client outflows. Management believes that this metric depicts how well the Company's products and services appeal to new and existing clients.

• Client assets is the market value of all client assets housed at the Company. Management considers client assets to be indicative of the Company's appeal in the marketplace. Additionally, fluctuations in certain components of client assets (e.g., Mutual Fund OneSource funds) directly impacts asset management and administration fee revenues.

• Clients' daily average trades is an indicator of client engagement with securities markets and the most prominent driver of trading revenues.

• Management believes that net revenue growth, pre-tax profit margin from continuing operations, and return on stockholders' equity provide broad indicators of the Company's overall financial health, operating efficiency, and ability to generate acceptable returns.

Management's Discussion and Analysis of Financial Condition and Results of Operations

• Net revenue per average full-time equivalent employee is considered by management to be the Company's broadest measure of productivity.

The Company's major sources of net revenues are asset management and administration fees, net interest revenue, and trading revenue. The Company generates asset management and administration fees through its proprietary and third-party mutual fund offerings, as well as fee-based investment management and advisory services. Net interest revenue is the difference between interest earned on interest-earning assets and interest paid on funding sources. Asset management and administration fees and net interest revenue are impacted by securities valuations, interest rates, the Company's ability to attract new clients, and client activity levels. The Company generates trading revenues through commissions earned for executing trades for clients and principal transaction revenues from trading activity in fixed income securities. Trading revenues are impacted by trading volumes, the volatility of equity prices in the securities markets and commission rates.

2008 Compared to 2007

2008 was marked by extraordinary market conditions, including continued downward pressure on home prices, tighter credit markets, liquidity concerns, significant volatility and sharp declines in the equity markets, and continued slowing of general economic activity. The Nasdaq Composite Index, Standard and Poor's 500 Index, and the Dow Jones Industrial Average decreased during the year by 41%, 38%, and 34%, respectively, with a significant portion of these decreases occurring in the fourth quarter. In addition, the federal funds rate decreased during the year by 4.25% to a range of zero to 0.25% at December 31, 2008.

Even with this unprecedented market environment, clients remained actively engaged with the Company in managing their investments and made heavy use of all of the Company's service channels - branch, phone, and internet. Net new client assets totaled $113.4 billion for the year, down 29% from a year ago, reflecting continued deterioration in the equity markets and lower asset valuations. Total client assets were $1.137 trillion at December 31, 2008, down 21% from December 31, 2007. Additionally, clients' daily average trades increased 22% to 346,600 in 2008 from 2007.

Net revenues grew by 3% in 2008 from the prior year primarily due to an increase in trading revenue partially offset by a decrease in other revenue. Trading revenue increased in 2008 primarily due to higher trading volume as a result of significant volatility in the equity markets during the year. The decrease in other revenue in 2008 related to losses of $75 million on investments in the Company's securities available for sale portfolio. Asset management and administration fees remained relatively flat in 2008 reflecting the Company's ability to attract and retain clients. Net interest revenue increased by 1% in 2008 due to higher levels of interest-earning assets offset by the impact of a decrease in the average net yield earned on these assets. Although expenses excluding interest remained relatively flat in 2008, compensation and benefits expense decreased reflecting lower incentive compensation, while other expense and occupancy and equipment expense increased. The loss from discontinued operations of $18 million in 2008 relates to the adjustment to finalize the income tax gain related to the sale of U.S. Trust. As a result of the Company's sustained expense discipline in 2008, the Company achieved a pre-tax profit margin from continuing operations of 39.4% and return on stockholders' equity of 31% in 2008. Return on stockholders' equity in 2007 included a $1.2 billion after-tax gain on the sale of U.S. Trust, as well as incremental interest revenue generated from temporarily investing the proceeds from the sale. Net revenue per average full-time equivalent employee was $383,000 in 2008, down 1% from 2007 as net revenue growth was lower than the increase in average full-time equivalent employees.

2007 Compared to 2006

Overall equity market returns for 2007 showed gains for the three major indices
- the Nasdaq Composite Index increased by 10%, the Dow Jones Industrial Average increased 6%, and the Standard and Poor's 500 Index increased 4%.

Net new client assets totaled $160.2 billion for 2007, up 92% from 2006, which included $23.0 billion related to the acquisition of The 401(k) Company in 2007. Total client assets were $1.446 trillion at December 31, 2007, up 17% from December 31, 2006. Clients' daily average trades increased 6% to 284,900 in 2007 from 2006.

Management's Discussion and Analysis of Financial Condition and Results of Operations

Net revenues grew by 16% in 2007 as compared to 2006 primarily due to an increase in asset management and administration fees driven by growth in client assets, as well as an increase in net interest revenue due to higher interest rate spreads. Expenses excluding interest increased in 2007 as compared to 2006 primarily due to higher compensation and benefits expense, advertising and market development expense, and professional services expense. The Company's pre-tax profit margin from continuing operations was 37.1% in 2007 as compared to 34.3% in 2006 due to revenue growth and disciplined expense management during the year. Return on stockholders' equity increased to 55% in 2007 as compared to 26% in 2006, reflecting the sale of U.S. Trust, earnings growth, and the Company's active management of its capital base. Net revenue per average full-time equivalent employee was $387,000 in 2007, up 7% from 2006 due to revenue growth partially offset by the increase in average full-time equivalent employees as a result of the acquisition of The 401(k) Company.

Certain reclassifications have been made to prior year amounts to conform to the current presentation. All references to EPS information in this Management's Discussion and Analysis of Financial Condition and Results of Operations reflect diluted earnings per share unless otherwise noted.

CURRENT MARKET ENVIRONMENT

The adverse market conditions in 2008 discussed above continue to negatively impact the Company's revenues.

The Company earns mutual fund service fees and asset management fees based upon daily balances of certain client assets. Fluctuations in these client asset balances caused by changes in equity valuations directly impact the amount of fee revenue earned by the Company. Continued depressed equity valuations in 2009 will negatively impact asset management and administration fees on a year-over-year basis. Additionally, mutual fund service fees may be further reduced if the current interest rate environment persists. To the extent certain money market mutual funds replace maturing securities with lower yielding securities and the overall yield on such funds falls to a level at or below the management fees on those funds, the Company may waive a portion of its fee in order to continue providing some return to clients.

With the recent decline in interest rates, the Company's revenue from interest-earning assets such as securities held and loans to clients has been declining more than the rates that the Company pays on funding sources such as customer deposits. The Company's ability to reduce those rates has been limited as short term rates have approached zero. If the current interest rate environment persists through 2009, it will negatively impact net interest revenue on a year-over-year basis.

The level at which clients utilize margin loans will also impact net interest revenue. While the average balance of margin loans was $10.3 billion for all of 2008, by month-end December the balance had declined to $6.2 billion.

The Company recorded pre-tax losses of $75 million related to two corporate debt securities in its securities available for sale portfolio in 2008. Certain securities available for sale experienced deteriorating credit characteristics in 2008. Further deterioration in the performance of these securities, including non-agency mortgage-backed securities, could result in the recognition of future impairment charges.

RESULTS OF OPERATIONS

The following discussion presents an analysis of the Company's results of operations for the years ended December 31, 2008, 2007, and 2006.

Management's Discussion and Analysis of Financial Condition and Results of Operations

Net Revenues

The Company's major sources of net revenues are asset management and administration fees, net interest revenue, and trading revenue. Asset management and administration fees were relatively flat, while net interest revenue and trading revenue increased in 2008 as compared to 2007. Asset management and administration fees, net interest revenue, and trading revenue increased in 2007 as compared to 2006.

Year Ended December 31,                                            2008                             2007                             2006
                                                                           % of                             % of                             % of
                                      Growth Rate                        Total Net                        Total Net                        Total Net
                                       2007-2008          Amount         Revenues          Amount         Revenues          Amount         Revenues
Asset management and
administration fees
Mutual fund service fees: (1)
Proprietary funds (Schwab Funds®
and Laudus Funds ®)                             8 %     $     1,265             24 %     $     1,167             23 %     $       963             22 %
Mutual Fund OneSource®                        (12 %)            544             11 %             621             13 %             526             12 %
Clearing and other                              4 %             108              2 %             104              2 %              74              2 %
Investment management and trust
fees                                          (10 %)            340              7 %             378              8 %             310              7 %
Other                                          11 %              98              2 %              88              1 %              72              2 %

Asset management and
administration fees                             -             2,355             46 %           2,358             47 %           1,945             45 %


Net interest revenue
Interest revenue                              (16 %)          1,908             37 %           2,270             46 %           2,113             49 %
Interest expense                              (61 %)           (243 )           (5 %)           (623 )          (13 %)           (679 )          (16 %)

Net interest revenue                            1 %           1,665             32 %           1,647             33 %           1,434             33 %


Trading revenue
Commissions                                    21 %             915             18 %             755             15 %             703             16 %
Principal transactions                         57 %             165              3 %             105              2 %              82              2 %

Trading revenue                                26 %           1,080             21 %             860             17 %             785             18 %

Other                                         (61 %)             50              1 %             129              3 %             145              4 %

Total net revenues                              3 %     $     5,150            100 %     $     4,994            100 %     $     4,309            100 %

(1) Certain prior-year amounts have been reclassified to conform to the 2008 presentation.

Asset Management and Administration Fees

Asset management and administration fees include mutual fund service fees and fees for other asset-based financial services provided to individual and institutional clients. The Company earns mutual fund service fees for transfer agent services, shareholder services, administration, and investment management provided to its proprietary funds, and recordkeeping and shareholder services provided to third-party funds. These fees are based upon the daily balances of client assets invested in third-party funds and the Company's proprietary funds. The Company also earns asset management fees for advisory and managed account services, which are based on the daily balances of client assets subject to the specific fee for service. The fair values of client assets, which include proprietary and third-party mutual funds, are based on quoted market prices and other observable market data. Asset management and administration fees may vary with changes in the balances of client assets due to market fluctuations and levels of net new client assets. For discussion of the impact of current market conditions on asset management and administration fees, see "Current Market Environment".

Asset management and administration fees remained relatively flat in 2008 from 2007, primarily due to lower third-party mutual fund and advisory service fees, partially offset by higher proprietary fund fees. Mutual Fund OneSource service fees decreased by $77 million, or 12%, in 2008 from 2007 primarily due to a 39% decline in Schwab's Mutual Fund OneSource asset balances. The Company's proprietary mutual fund service fees increased $98 million, or 8%, in 2008 from 2007 primarily due to a 15% increase in money market mutual fund asset balances. Investment management and trust fees decreased by $38 million, or 10%, in 2008 from 2007 due to lower balances of client assets participating in advisory and managed account services programs.

Asset management and administration fees increased by $413 million, or 21%, in 2007 from 2006 primarily due to higher mutual fund, advisory, and managed account asset balances. Mutual fund service fees increased $329 million, or 21% in 2007

Management's Discussion and Analysis of Financial Condition and Results of Operations

from 2006 primarily due to a 26% rise in the Company's proprietary mutual fund asset balances and an 11% increase in asset balances in Schwab's Mutual Fund OneSource service. Investment management and trust fees increased by $68 million, or 22%, in 2007 from 2006 primarily due to higher balances of client assets participating in advisory and managed account services programs.

Net Interest Revenue

Net interest revenue is the difference between interest earned on interest-earning assets and interest paid on funding sources. Net interest revenue is affected by changes in the volume and mix of these assets and liabilities, as well as by fluctuations in interest rates and portfolio management strategies. The Company is positioned so that the consolidated balance sheet produces an increase in net interest revenue when interest rates rise and, conversely, a decrease in net interest revenue when interest rates fall (i.e., interest-earning assets generally reprice more quickly than interest-bearing liabilities). In the event of falling interest rates, the Company might attempt to mitigate some of this negative impact by extending the maturities of assets in investment portfolios to lock-in asset yields as well as by lowering rates paid to clients on interest-bearing liabilities. Since the Company establishes the rates paid on certain brokerage client cash balances and deposits from banking clients, as well as the rates charged on receivables from brokerage clients, and also controls the composition of its investment securities, it has some ability to manage its net interest spread. However, the spread is influenced by external factors such as the interest rate environment and competition. For discussion of the impact of current market conditions on net interest revenue, see "Current Market Environment".

In clearing its clients' trades, Schwab holds cash balances payable to clients. In most cases, Schwab pays its clients interest on cash balances awaiting investment, and may invest these funds and earn interest revenue. Receivables from brokerage clients consist primarily of margin loans to brokerage clients. Margin loans are loans made by Schwab to clients on a secured basis to purchase securities. Pursuant to SEC regulations, client cash balances that are not used for margin lending are generally segregated into investment accounts that are maintained for the exclusive benefit of clients.

When investing segregated client cash balances, Schwab must adhere to SEC regulations that restrict investments to securities guaranteed by the full faith and credit of the U.S. government, participation certificates, mortgage-backed securities guaranteed by the Government National Mortgage Association, certificates of deposit issued by U.S. banks and thrifts, and resale agreements collateralized by qualified securities. Additionally, Schwab has established policies for the minimum credit quality and maximum maturity of these investments. Schwab Bank also maintains investment portfolios for liquidity as well as to invest funding from deposits raised in excess of loans to banking clients. Schwab Bank's securities available for sale include mortgage-backed securities, corporate debt securities, certificates of deposit, asset-backed securities, and U.S. agency notes. Schwab Bank's securities held to maturity include asset-backed securities. Schwab Bank lends funds to banking clients primarily in the form of mortgage loans. These loans are largely funded by interest-bearing deposits from banking clients.

The Company's interest-earning assets are financed primarily by brokerage client cash balances and deposits from banking clients. Other funding sources include noninterest-bearing brokerage client cash balances and proceeds from stock-lending activities, as well as stockholders' equity.

The amount of excess cash held in certain Schwab brokerage client accounts that is swept into money market deposit accounts at Schwab Bank and (through May 2007) at U.S. Trust has increased significantly since the program's inception in 2003. Average interest-bearing banking deposits increased $7.2 billion, or 59%, to $19.2 billion in 2008 from 2007, and $2.9 billion, or 32%, to $12.0 billion in 2007 from 2006. As a result, the average securities available for sale balances increased $4.4 billion, or 60%, to $11.8 billion in 2008 from 2007, and $1.2 billion, or 20%, to $7.3 billion in 2007 from 2006, while the average balance of loans to banking clients increased $2.0 billion, or 73%, to $4.8 billion in 2008 from 2007, and $629 million, or 29%, to $2.8 billion in 2007 from 2006.

Management's Discussion and Analysis of Financial Condition and Results of Operations

The following table presents net interest revenue information corresponding to interest-earning assets and funding sources on the consolidated balance sheet:

Year Ended December 31,                                 2008                                       2007                                       2006
                                                       Interest      Average                      Interest      Average                      Interest      Average
                                         Average       Revenue/      Yield/         Average       Revenue/      Yield/         Average       Revenue/      Yield/
                                         Balance       Expense        Rate          Balance       Expense        Rate          Balance       Expense        Rate
Interest-earning assets:
Cash and cash equivalents               $    5,217    $      129         2.47 %    $    4,290    $      223         5.20 %    $    2,450    $      125         5.10 %
Cash and investments segregated             11,223           280         2.49 %         9,991           511         5.11 %        12,758           602         4.72 %
Broker-related receivables (1)                 428             8         1.87 %           595            27         4.54 %           533            25         4.69 %
Receivables from brokerage clients          10,278           612         5.95 %        10,736           859         8.00 %        10,252           837         8.16 %
Securities available for sale (2)           11,772           517         4.39 %         7,335           399         5.44 %         6,125           319         5.21 %
Securities held to maturity                     22             1         5.86 %             -             -            -               -             -            -
Loans to banking clients                     4,831           227         4.70 %         2,786           169         6.07 %         2,157           128         5.93 %

Total interest-earning assets               43,771         1,774         4.05 %        35,733         2,188         6.12 %        34,275         2,036         5.94 %

Other interest revenue                                       134                                         82                                         77

Total interest-earning assets           $   43,771    $    1,908         4.36 %    $   35,733    $    2,270         6.35 %    $   34,275    $    2,113         6.16 %


Funding sources:
Deposits from banking clients           $   19,203    $      104         0.54 %    $   12,046    $      238         1.98 %    $    9,135    $      200         2.19 %
Payables to brokerage clients               15,220            55         0.36 %        14,768           329         2.23 %        17,865           426         2.38 %
Short-term borrowings                           40             1         2.54 %             -             -            -               -             -            -
Long-term debt                                 890            59         6.63 %           531            38         7.16 %           419            29         6.92 %

Total interest-bearing liabilities          35,353           219         0.62 %        27,345           605         2.21 %        27,419           655         2.39 %

Non-interest bearing funding sources         8,418                                      8,388                                      6,856
Other interest expense                                        24                                         18                                         24

Total funding sources                   $   43,771    $      243         0.56 %    $   35,733    $      623         1.74 %    $   34,275    $      679         1.98 %
. . .