Edgar Filing: E TRADE GROUP INC

Quarterly Report for period ended 09/30/2002

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

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2002

Commission file number 1-11921

E*TRADE Group, Inc.

(Exact name of registrant as specified in its charter)

Delaware		94-2844166
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification Number)

4500 Bohannon Drive, Menlo Park, CA 94025

(Address of principal executive offices and zip code)

(650) 331-6000

(Registrant’s telephone number, including area code)

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 x No ¨

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:

As of October 31, 2002, there were 361,431,956 shares of common stock and 1,650,383 shares exchangeable into common stock outstanding. The Exchangeable Shares, which were issued by EGI Canada Corporation in connection with the acquisition of VERSUS Technologies, Inc. (renamed E*TRADE Technologies Corporation (“E*TRADE Technologies”) effective January 2, 2001), are exchangeable at any time into common stock on a one-for-one basis and entitle holders to dividend, voting and other rights equivalent to holders of the registrant’s common stock.

E*TRADE GROUP, INC.

FORM 10-Q QUARTERLY REPORT

For the Quarter Ended September 30, 2002

TABLE OF CONTENTS

		Page
Part I—Financial Information
Item 1.	Financial Statements	3
	Consolidated Balance Sheets	3
	Consolidated Statements of Operations	4
	Condensed Consolidated Statements of Cash Flows	5
	Notes to Unaudited Condensed Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	27
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	57
Item 4.	Evaluation of Disclosure Controls and Procedures	59

Part II—Other Information
Item 1.	Legal and Administrative Proceedings	60
Item 2.	Changes in Securities and Use of Proceeds	62
Item 3.	Defaults Upon Senior Securities	63
Item 4.	Submission of Matters to a Vote of Security Holders	63
Item 5.	Other Information	63
Item 6.	Exhibits and Reports on Form 8-K	64
Signatures		65
Certifications		66

The page numbers in this Table of Contents reflect actual page numbers, not EDGAR page tag numbers.

References to E*TRADE, Company, “we”, “us” and “our” in this Form 10-Q refer to E*TRADE Group, Inc. and its subsidiaries unless the context requires otherwise.

E*TRADE, the E*TRADE logo, etrade.com, E*TRADE Bank, ClearStation, Equity Edge, Equity Resource, OptionsLink, ShareData, Stateless Architecture, Power E*TRADE, Destination E*TRADE and TELE*MASTER are trademarks or registered trademarks of E*TRADE Group, Inc. or its subsidiaries in the United States. Some of these and other trademarks are registered outside the United States.

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

E*TRADE GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(in thousands, except share amounts)

(unaudited)

	September 30, 2002			December 31, 2001
A S S E T S

Cash and equivalents	$	1,757,188		$	836,201
Cash and investments required to be segregated under Federal or other regulations		924,276			764,729
Brokerage receivables, net		1,842,371			2,139,153
Mortgage-backed securities		3,638,346			3,556,619
Loans receivable, net of allowance for loan losses of $15,709 at September 30, 2002 and $19,874 at December 31, 2001		4,240,018			6,394,368
Loans held-for-sale, net		3,222,208			1,616,089
Investments		1,193,657			1,168,623
Property and equipment, net		389,256			331,724
Goodwill		339,096			559,918
Other intangible assets		146,559			129,927
Other assets		557,981			675,063

Total assets	$	18,250,956		$	18,172,414

L I A B I L I T I E S A N D S H A R E O W N E R S ’ E Q U I T Y

Liabilities:
Brokerage payables	$	2,692,211		$	2,699,984
Banking deposits		8,245,161			8,082,859
Borrowings by bank subsidiary		4,415,621			4,170,440
Convertible subordinated notes		695,330			760,250
Accounts payable, accrued and other liabilities		643,524			818,464

Total liabilities		16,691,847			16,531,997

Company-obligated mandatorily redeemable preferred capital securities of subsidiary trusts holding solely junior subordinated debentures of ETFC (redemption value $97,375)		93,859			69,503


Commitments and contingencies

Shareowners’ equity:
Preferred stock, shares authorized: 1,000,000; issued and outstanding: none at September 30, 2002 and December 31, 2001		—			—
Shares exchangeable into common stock, $.01 par value, shares authorized: 10,644,223; issued and outstanding: 1,650,383 at September 30, 2002 and 1,825,632 at December 31, 2001		17			18
Common stock, $.01 par value, shares authorized: 600,000,000; issued and outstanding: 361,381,726 at September 30, 2002 and 347,592,480 at December 31, 2001		3,614			3,476
Additional paid-in capital		2,210,182			2,072,701
Shareowners’ notes receivable		(30,402	)		(32,707	)
Deferred stock compensation		(21,060	)		(28,110	)
Accumulated deficit		(469,600	)		(247,087	)
Accumulated other comprehensive loss		(227,501	)		(197,377	)

Total shareowners’ equity		1,465,250			1,570,914

Total liabilities and shareowners’ equity	$	18,250,956		$	18,172,414

See accompanying notes to unaudited condensed consolidated financial statements.

E*TRADE GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share amounts)

(unaudited)

	Three Months Ended September 30,						Nine Months Ended September 30,
	2002			2001			2002			2001
Revenues:
Brokerage revenues:
Commissions	$	71,784		$	71,012		$	225,663		$	287,010
Principal transactions		52,438			33,721			159,845			96,334
Other brokerage-related		45,113			35,447			125,673			128,057
Interest income		42,742			71,020			146,768			252,483
Interest expense		(2,681	)		(16,616	)		(9,663	)		(82,016	)

Net brokerage revenues		209,396			194,584			648,286			681,868

Banking revenues:
Gain on sales of originated loans		30,749			28,146			78,037			62,201
Gain on sales of loans held-for-sale and securities, net		27,652			17,629			66,328			45,053
Other banking-related		10,853			10,455			33,314			27,946
Interest income		187,286			213,926			581,378			648,408
Interest expense		(132,155	)		(172,580	)		(418,858	)		(532,457	)
Provision for loan losses		(4,176	)		—			(11,941	)		(3,099	)

Net banking revenues		120,209			97,576			328,258			248,052

Total net revenues		329,605			292,160			976,544			929,920

Cost of services		145,521			140,519			420,068			433,412

Operating expenses:
Selling and marketing		39,986			50,268			157,964			199,365
Technology development		13,528			20,882			43,075			66,583
General and administrative		52,170			55,250			157,031			177,398
Amortization of goodwill and other intangibles		6,891			11,421			21,172			28,442
Acquisition-related expenses		1,429			5,387			10,095			5,904
Facility restructuring and other nonrecurring charges		2,693			197,039			4,098			197,039
Executive agreement and loan settlement		—			30,210			(23,485	)		30,210

Total operating expenses		116,697			370,457			369,950			704,941

Total cost of services and operating expenses		262,218			510,976			790,018			1,138,353

Operating income		67,387			(218,816	)		186,526			(208,433	)

Non-operating income (expense):
Corporate interest income		2,791			6,757			9,940			17,755
Corporate interest expense		(11,827	)		(15,297	)		(36,026	)		(39,284	)
Loss on investments		(9,722	)		(32,465	)		(14,819	)		(48,038	)
Equity in income (losses) of investments		1,517			(1,079	)		5,418			(6,231	)
Unrealized losses on venture funds		(4,398	)		(13,506	)		(9,462	)		(34,075	)
Fair value adjustments of financial derivatives		(6,501	)		(3,327	)		(6,723	)		(4,703	)
Other		(252	)		(422	)		(1,611	)		(830	)

Total non-operating expenses		(28,392	)		(59,339	)		(53,283	)		(115,406	)

Pre-tax income (loss)		38,995			(278,155	)		133,243			(323,839	)
Income tax expense (benefit)		17,543			(19,471	)		58,370			(45,368	)
Minority interest in subsidiaries		774			299			1,147			(16	)

Income (loss) before extraordinary items and cumulative effect of accounting change		20,678			(258,983	)		73,726			(278,455	)
Extraordinary gain on early extinguishment of debt, net of tax (See Note 7)		—			15,246			3,174			15,320
Cumulative effect of accounting change (See Note 8)		—			—			(299,413	)		—

Net income (loss)	$	20,678		$	(243,737	)	$	(222,513	)	$	(263,135	)

Income (loss) per share before extraordinary items and cumulative effect of accounting change:
Basic	$	0.06		$	(0.77	)	$	0.21		$	(0.86	)

Diluted	$	0.06		$	(0.77	)	$	0.20		$	(0.86	)

Net income (loss) per share:
Basic	$	0.06		$	(0.72	)	$	(0.63	)	$	(0.81	)

Diluted	$	0.06		$	(0.72	)	$	(0.63	)	$	(0.81	)

Shares used in computation of per share data (See Note 9):
Basic		359,640			336,469			354,535			323,833

Diluted		363,380			336,469			360,905			323,833

See accompanying notes to unaudited condensed consolidated financial statements.

E*TRADE GROUP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

	Nine Months Ended September 30,
	2002			2001
Net cash provided by operating activities	$	744,418		$	963,401

CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of mortgage-backed securities, available-for-sale securities and other investments		(9,304,551	)		(7,338,325	)
Proceeds from sales, maturities of and principal payments on mortgage-backed securities, available-for- sale securities and other investments		9,556,586			7,961,502
Net increase in loans receivable		(357,519	)		(1,482,688	)
Decrease in restricted deposits		71,888			249
Purchases of property and equipment, net of property and equipment received in business acquisitions		(98,892	)		(122,966	)
Investing derivative activity		(64,193	)		—
Other		(7,579	)		(135,598	)

Net cash used in investing activities		(204,260	)		(1,117,826	)

CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase in banking deposits		162,302			2,277,784
Advances from the Federal Home Loan Bank		1,104,055			1,175,300
Payments on advances from the Federal Home Loan Bank		(1,195,355	)		(1,765,794	)
Net increase (decrease) in securities sold under agreements to repurchase		175,987			(464,645	)
Net increase in other borrowed funds		160,472			—
Proceeds from issuance of trust preferred securities		24,329			24,216
Proceeds from issuance of common stock from associate stock transactions		12,148			24,189
Proceeds from bank loans and lines of credit, net of transaction costs		18,500			1,967
Payments on Company loans and lines of credit		(7,126	)		(32,867	)
Repayment of capital lease obligations		(13,348	)		(10,032	)
Purchase of treasury stock		(43,481	)		(67,730	)
(Issuances) repayments of shareowners’ notes receivable, net of loans repaid/issued		1,460			(12,500	)
(Issuances) repayments of loans to related parties and associates, net of loans repaid/issued		1,356			(4,109	)
Financing derivative activity		(20,509	)		—
Net proceeds from convertible subordinated notes		—			315,250
Repurchases of convertible subordinated notes, net of issuance costs		—			(15,283	)
Other		39			11,976

Net cash provided by financing activities		380,829			1,457,722

INCREASE IN CASH AND EQUIVALENTS		920,987			1,303,297
CASH AND EQUIVALENTS—Beginning of period		836,201			456,878

CASH AND EQUIVALENTS—End of period	$	1,757,188		$	1,760,175

SUPPLEMENTAL DISCLOSURES:
Selected adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation and amortization	$	105,343		$	109,284

Amortization of premium of investment securities	$	64,957		$	8,624

Non-cash investing and financing activities:
Tax benefit on exercise of stock options	$	2,805		$	9,002

Transfer from loans to other real estate owned and repossessed assets	$	29,774		$	2,702

Assets acquired under capital lease obligations	$	763		$	6,358

Reclassification of loans held-for-investment to loans held-for-sale	$	2,603,221		$	802,865

Exchange of 6% convertible subordinated notes for common stock	$	64,920		$	61,331

Purchase acquisitions, net of cash acquired:
Common stock issued and stock options assumed	$	83,073		$	113,376
Cash paid, less acquired (including acquisition costs)		—			2,052
Net deferred tax liability		9,512			—
Net liabilities assumed		14,885			6,910
Reduction in payable for purchase of international subsidiary		—			(20,894	)
Carrying value of joint-venture investment		—			1,258

Fair value of assets acquired (including goodwill of $77,370 and $47,913)	$	107,470		$	102,702

See accompanying notes to unaudited condensed consolidated financial statements.

E*TRADE GROUP, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1. ORGANIZATION AND BASIS OF PRESENTATION

The accompanying unaudited condensed consolidated financial statements include E*TRADE Group, Inc. (“the Parent”), a financial services holding company, and its subsidiaries, collectively (“the Company” or “E*TRADE”), including but not limited to E*TRADE Securities LLC, formerly E*TRADE Securities, Incorporated (“E*TRADE Securities”), a securities broker-dealer, E*TRADE Clearing LLC, formerly E*TRADE Institutional Securities, Inc. (“E*TRADE Clearing”), the clearing firm for E*TRADE Securities beginning September 3, 2002 (See Note 19), TIR (Holdings) Limited (“E*TRADE Institutional”), a provider of global securities brokerage and other related services to institutional clients, E*TRADE Advisory Services, Inc. (“E*TRADE Advisory Services”), Dempsey and Company, LLC (“Dempsey”), a specialist and market-making firm, Tradescape (See Note 2), E*TRADE Financial Corporation (“ETFC”), a provider of financial services whose primary business is conducted by E*TRADE Bank (“the Bank”) and E*TRADE Global Asset Management, Inc. (“ETGAM”), a funds manager and registered broker-dealer.

The Bank is a federally chartered savings bank that provides deposit accounts insured by the Federal Deposit Insurance Corporation (“FDIC”) to customers nationwide. Additional Bank subsidiaries are E*TRADE Access, Inc. (“E*TRADE Access”), an independent network of centrally-managed automated teller machines (“ATMs”) in the United States and Canada and E*TRADE Mortgage Corporation (“E*TRADE Mortgage”), a direct to consumer mortgage loan originator.

In September 2000, the Company entered into a joint venture with Ernst & Young LLP (“E&Y”) to form Enlight Holdings LLC (“Enlight Holdings”), which in turn owns eAdvisor, to develop an online personalized financial advice and planning tool for individuals. As of December 31, 2001, the Company owned 49% of Enlight Holdings. Prior to consolidation, the income (loss) from the Company’s equity investment in eAdvisor was not material. In February 2002, the Company determined that as a result of additional contributions and changes in the number of board of director seats, the Company has the ability to control the operations of Enlight Holdings. Therefore the Company has consolidated the financial position and results of operations of Enlight Holdings into the Company’s consolidated financial statements.

Beginning in January 2002, the Company changed its presentation of revenue. No changes to accounting policies or methods were made in connection with this presentation change. Under the new presentation, net brokerage revenues consist of commissions, principal transactions, other brokerage-related revenues, interest income and interest expense. Commissions include domestic and international transaction revenues. Previously, international transaction revenues were included under the caption global and institutional. Beginning in June 2002, commissions also include onsite professional trading revenues. Principal transactions include revenues from institutional activities, previously included in global and institutional, and from market-making activities, previously included in other revenues. Other brokerage-related revenues include E*TRADE Business Solutions Group, Inc. (“Business Solutions Group”) revenue, advertising revenue, professional trading rebate revenue, mutual fund revenue and fees for brokerage-related services, including account maintenance fees and order handling fees. Other brokerage-related revenues also include payment for order flow which was previously included in transaction revenues. Net banking revenues consist of gain on sales of originated loans, gain on sales of loans held-for-sale and securities, net, other banking-related revenues, interest income, interest expense and provision for loan losses. Other banking-related revenues are primarily comprised of ATM revenues.

On July 30, 1999, the Company entered into a lease agreement for its 164,500 square foot technology operation center located near Atlanta, Georgia. To secure the lease, the Company posted cash collateral, which was $71.9 million at December 31, 2001. On March 27, 2002, the Company exercised its purchase option and used the cash collateral to fund the purchase on April 29, 2002.

These unaudited condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”), and, in the opinion of management, reflect adjustments consisting of normal recurring adjustments necessary to present fairly the financial position, results of operations and cash flows for the periods presented in conformity with accounting principles generally accepted in the United States of America. These unaudited condensed consolidated financial statements should be read in conjunction with the audited annual consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2001.

Certain prior period items in these unaudited condensed consolidated financial statements have been reclassified to conform to the current period presentation.

NOTE 2. BUSINESS ACQUISITIONS

On June 3, 2002, in order to expand its brokerage business in onsite professional trading, the Company acquired 100% of privately-held Tradescape Securities, LLC, a subsidiary of Tradescape Corp., a direct access brokerage firm for active online traders, together with Tradescape Technologies, LLC, a high-speed provider of direct access trading software, technology and network services, and Momentum Securities, LLC, an onsite brokerage firm for individual professional traders, collectively (“Tradescape”). The Company did not acquire any interest in, and exercises no management control over, Tradescape Corp. or Market XT, Inc. The Company acquired Tradescape for an aggregate purchase price of $96.2 million, comprised of approximately 11.8 million shares of the Company’s common stock valued at $83.1 million (based on the average of the closing prices of the Company’s common stock on the date the shares to be issued were determined and for the three days before and after), $8.2 million for the fair value of operating leases assumed by the Company and acquisition costs of approximately $4.9 million. Acquisition costs include costs to exit or dispose of duplicative property and equipment, legal costs and accounting costs.

In addition, the Company agreed to pay contingent stock consideration of up to $180 million if Tradescape’s operating results exceed certain targets and revenue goals for the remainder of fiscal 2002 and for all of fiscal 2003. The Company also incurred $5.5 million of non-capitalizable rebranding costs, which are included in acquisition-related expenses. The acquisition was recorded using the purchase method of accounting. The results of Tradescape’s operations are combined with those of the Company from the date of acquisition.

The allocation of purchase price was revised during the three months ended September 30, 2002 as the Company completed its review of assets acquired and the valuation of certain intangible assets. The revised allocation is as follows (in thousands):

Net tangible liabilities of Tradescape	$	(1,803	)
Proprietary agreements		16,800
Technology		7,000
Agency relationships		6,300
Net deferred tax liability		(9,512	)
Goodwill		77,370

Total Purchase Price	$	96,155

Acquired net tangible assets and liabilities of Tradescape are allocated in the accompanying unaudited condensed consolidated balance sheets as follows (in thousands):

Brokerage receivables, net	$	3,811
Investments		604
Property and equipment, net		7,906
Other assets		7,837
Accounts payable, accrued and other liabilities		(21,961	)

Net Tangible Liabilities Assumed	$	(1,803	)

The value allocated to proprietary agreements will be amortized over seven years, technology will be amortized over four years and agency relationships will be amortized over six years, all using a straight-line method. Goodwill (which is included in the Domestic Retail Brokerage Segment) will not be amortized. If contingent stock consideration is paid, the Company will increase the purchase price with a corresponding increase to goodwill. The Company engaged an independent valuation firm, other than its Independent Auditors, to assist in the allocation.

The proforma information below assumes that the acquisitions of Tradescape, Dempsey (acquired in October 2001), Web Street, Inc. (“Web Street”) (acquired in June 2001) and E*TRADE Mortgage (acquired in February 2001) occurred at the beginning of fiscal 2001 and includes the effect of amortization of intangibles acquired from that date (in thousands, except per share amounts):

	Nine Months Ended September 30,
	2002			2001
Net revenues	$	1,008,971		$	1,100,760
Income (loss) before extraordinary items and cumulative effect of accounting change	$	65,538		$	(283,565	)
Net loss	$	(230,701	)	$	(268,245	)
Basic and diluted income (loss) per share before extraordinary items and cumulative effect of accounting change	$	0.18		$	(0.76	)
Basic and diluted net loss per share	$	(0.64	)	$	(0.72	)

The proforma information is for information purposes only and is not necessarily indicative of the results of future operations nor results that would have been achieved had these acquisitions taken place at the beginning of fiscal 2001.

NOTE 3. FACILITY RESTRUCTURING CHARGES

On August 29, 2001, the Company announced a restructuring plan aimed at streamlining operations primarily by consolidating facilities in the United States and Europe. This restructuring resulted in a pre-tax charge of $202.8 million ($148.0 million after tax) in fiscal 2001. The restructuring was designed to consolidate certain facilities, to bring together key decision-makers and to streamline operations.

The Company recorded a pre-tax restructuring charge of $128.5 million related to its facilities consolidation, representing the undiscounted value of ongoing lease commitments offset by anticipated third party subleases. The charge also includes a pre-tax write-off of leasehold improvements and furniture and fixtures totaling $38.6 million. The charge did not include relocation costs to be incurred over the next 12 months and expensed as incurred. The cash outflow related to this action will be paid out over the length of committed lease terms of 7 to 11 years. For the nine months ended September 30, 2002, the Company adjusted its facilities charge by $1.5 million as management has determined that it will use more facility space and receive less from certain future subleases than originally estimated in the restructuring plan.

The Company also recorded a pre-tax restructuring charge of $52.5 million related to the write-off of capitalized software and hardware related to terminated technology projects and the write-off of other fixed assets. In calculating the charge related to its asset write-off, the Company calculated the amount of the write-offs as the net book value of assets less the amount of estimated proceeds upon disposition, including real estate properties owned. For the nine months ended September 30, 2002, a related party, though not obligated to, reimbursed the Company for the value of the impairment of one of these properties, which was recorded in the initial restructuring charge. The reimbursement of approximately $0.7 million was offset by an additional increase in the restructuring accrual resulting from the identification of additional excess equipment of approximately $0.8 million and an additional increase related to realized losses on other of the aforementioned real estate properties of $0.4 million not originally estimated in the restructuring plan.

The restructuring accrual also included other pre-tax charges of $21.8 million in 2001 for committed expenses, termination of consulting agreements, severance and cancellation penalties on various services that will no longer be required in the facilities the Company is vacating. The Company increased the restructuring charge, included in Other below, by $5.1 million in the nine months ended September 30, 2002 primarily for additional severance arrangements made with associates who were notified during the first, second and third quarters of fiscal 2002. Severance is recorded in the period in which affected associates are identified and communication is made to these individuals.

A summary of the facility restructuring charges is outlined as follows (in thousands):

	Facility Consolidation			Asset Write-Off			Other			Total
Facility restructuring charges recorded in fiscal 2001	$	128,469		$	52,532		$	21,764		$	202,765
Activity for fiscal 2001:
Cash payments		(7,534	)		(49	)		(8,846	)		(16,429	)
Non-cash charges		(38,570	)		(52,483	)		(5,740	)		(96,793	)

Restructuring liabilities at December 31, 2001		82,365			—			7,178			89,543
Activity for the nine months ended September 30, 2002:
Adjustments and additional charges		(1,480	)		463			5,115			4,098
Cash payments		(13,875	)		7			(9,525	)		(23,393	)
Non-cash charges		(1,496	)		(470	)		(110	)		(2,076	)

Restructuring liabilities at September 30, 2002	$	65,514		$	—		$	2,658		$	68,172

NOTE 4. EXECUTIVE AGREEMENT

In May 2002, the Company completed ongoing negotiations and executed a new two-year employment agreement (the “Employment Agreement”) with its Chairman of the Board and Chief Executive Officer (“CEO”). The Company previously disclosed the Employment Agreement on a Form 8-K filed on May 10, 2002. Among other terms (including, but not limited to, the reduction of the CEO’s salary to zero for at least the first year of the contract term beginning on May 10, 2002 and the limitations of any potential bonuses for achievement of performance targets in calendar year 2002 and paid in calendar year 2003 as is the ordinary operation of its bonus plan), the Employment Agreement and related arrangements with the CEO contain the following concessions by the CEO that resulted in an immediate benefit to the Company and which were recorded as a nonrecurring credit:

•

The CEO waived his right to receive vested benefits in the Supplemental Executive Retirement Plan (“SERP”) totaling $16.1 million, previously deposited into a trust on his behalf on January 1, 2001 and 2002; these amounts had been previously recorded as part of general and administrative expenses in fiscal 2001. Of this amount, $14.0 million was returned to the Company and $2.1 million was paid out as a one-time bonus to non-executive associates of the Company.

•

The CEO waived his right to have the Company defray payment for the tax effect of his restricted stock grants. An accrued liability for unpaid estimated taxes of $9.5 million for unvested shares as of March 31, 2002 was reversed and credited to executive agreement. Such amounts had been accrued in general and administrative expenses as follows: $7.3 million in fiscal 2001 and $2.2 million in the three months ended March 31, 2002.

As of September 30, 2002, the Company has reduced its SERP obligation to the CEO by $16.1 million for vested SERP contributions waived by the CEO. The $14.0 million in reduced SERP benefits that was retained by the Company combined with $9.5 million related to the foregone tax reimbursements on the restricted stock award, have been recorded as a nonrecurring credit totaling $23.5 million to operating expenses for the nine months ended September 30, 2002. The $2.1 million that was previously credited to the CEO’s SERP account and distributed to associates had no net effect on the results of operations.

NOTE 5. ASSET SECURITIZATION—COLLATERALIZED DEBT OBLIGATION

From time to time, management may engage in asset securitizations in order to manage its investment portfolio including collateralized debt obligations. Asset securitization involves the transfer of financial assets to another entity in exchange for cash and/or beneficial interests in the assets transferred. Asset transfers in which the Company surrenders control over the financial assets are accounted for as sales to the extent that consideration other than beneficial interests in the transferred assets is received in the exchange in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities. The carrying amount of the assets transferred, in transactions accounted for as sales, is allocated between assets sold and the retained beneficial interest based on relative fair values at the date of transfer. A gain or loss is included in Gain on sales of loans held-for-sale and securities, net for the difference between the allocated carrying amount of the asset sold and the net cash proceeds received. Fair value is determined based on quoted market prices, if available. Generally quoted market prices are not available for beneficial interests; therefore, the Company estimates fair value based on the present value of expected future cash flows. In determining the present value of expected future cash flows, management is required to make estimates and assumptions. The key estimates and assumptions include future default rates, credit losses, discount rates, prepayment speeds and collateral repayment rates.

Retained or purchased beneficial interests are accounted for in accordance with SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities, and Emerging Issues Task Force (“EITF”) Bulletin 99-20, Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interests in Securitized Financial Assets. Retained or purchased beneficial interests are classified as either available-for-sale or trading in accordance with SFAS 115. EITF 99-20 requires the prospective method for adjusting the yield used to recognize interest income when the estimates of future cash flows on a security either increase or decrease. In addition EITF 99-20 requires the Company to test these securities for impairment at each balance sheet date. If a security’s fair value is less than its amortized cost and if the current present value of estimated cash flows have decreased since the last periodic estimate, then an other-than-temporary impairment has occurred and the security is written down to fair value with the resulting charge recorded in the consolidated statement of operations as a decrease to Gain on sales of loans held-for-sale and securities, net. Asset transfers for which the Company does not surrender control over the financial assets are accounted for as secured borrowings.

On September 27, 2002, ETGAM transferred $50.2 million of asset-backed securities to E*TRADE ABS CDO I, Ltd (“CDO I”). In addition, a financial advisor purchased approximately $200 million of asset-backed securities on behalf of CDO I and subsequently transferred those assets to CDO I. On September 27, 2002, CDO I sold beneficial interests in the form of senior and subordinated notes and preference shares collateralized by CDO I’s assets to investors for cash of $251.7 million. Neither the investors in beneficial interests sold by CDO I nor CDO I have recourse to ETGAM or the Company. Under SFAS 140, CDO I is not required to be consolidated with the financial statements of the Company. The Company did not recognize any gain or loss from the initial sale of the asset-backed securities. ETGAM purchased, and therefore retained, $8.6 million of preference shares of CDO I. As of September 27, 2002, the preference shares were rated Baa3 by Moody’s and BBB- by Fitch. ETGAM’s retained interest is subordinate to the notes sold by CDO I and pari passu with the preference shares purchased by other preference share investors in CDO I.

ETGAM entered into a management agreement to provide certain collateral management services for CDO I. As compensation for its services ETGAM receives a management fee based on the quarterly asset amount (as defined). As the transaction closed on September 27, 2002, no collateral management fee was received for the three months ended September 30, 2002.

The original value of ETGAM’s preference shares of CDO I was determined based on discounted expected future cash flows, which included the following assumptions: expected credit losses, 0.35%; weighted-average life, 4.93 years; prepayment speed, 16%; and discount rate, 18%. The carrying value of ETGAM’s retained interest is subject to future volatility in credit, interest rate and prepayment risk.

The table below presents a sensitivity analysis for the $8.6 million of retained interests at September 30, 2002 and actual credit losses to date (dollars in thousands):

Fair value of preference shares	$	8,614
Weighted-average remaining life (years)		3.93
Weighted-average prepayment speed		16	%
Impact of 10% adverse change	$	(65	)
Impact of 20% adverse change	$	(137	)
Weighted-average discount rate		18	%
Impact of 10% adverse change	$	(407	)
Impact of 20% adverse change	$	(783	)
Weighted-average credit losses		0.35	%
Impact of 10% adverse change	$	(201	)
Impact of 20% adverse change	$	(400	)
Actual credit losses to date	$	—
Actual payments received through September 30, 2002	$	—

The sensitivities and estimates above are hypothetical and should be used with the understanding that actual future performance and results can vary significantly. As the amounts indicate, changes in the fair value based on a 10% variation in assumptions generally cannot be extrapolated because the relationship of the change in assumption to the change in fair value may not be linear. Also, in this table, the effect of a variation in a particular assumption on the fair value of the preference shares is calculated without changing any other assumption; in reality, changes in one factor may result in changes in another (for example, increases in market interest rates may result in lower prepayments and increased credit losses), which might magnify or counteract the sensitivities.

Managed assets, which include both securitized and on-balance sheet assets, at September 30, 2002 are presented in the following table (dollars in thousands):

Asset-backed securities held in the available-for-sale investment portfolio	$	238,889
Securitized asset-backed securities (CDO I)		251,650

Total managed asset-backed securities	$	490,539

As of September 30, 2002, there were no assets past due 90 days or more and no net losses.

NOTE 6. ACCOUNTING FOR DERIVATIVE FINANCIAL INSTRUMENTS AND HEDGING ACTIVITIES

The Company enters into derivative transactions principally to protect against the risk of market price or interest rate movements on the value of certain assets and future cash flows. The Company is also required to recognize certain contracts and commitments as derivatives when the characteristics of those contracts and commitments meet the definition of a derivative as promulgated by SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities.

Fair Value Hedges

The Company uses a combination of interest rate swaps, caps and floors to substantially offset the change in value of certain fixed rate assets. In calculating the effective portion of the fair value hedges under SFAS 133, the change in the fair value of the derivative is recognized currently in earnings, as is the change in value of the hedged item attributable to the risk being hedged. Accordingly, the net difference or hedge ineffectiveness, if any, is recognized currently in the consolidated statements of operations as fair value adjustments of financial

derivatives in other non-operating income (expense). Fair value hedge ineffectiveness resulted in a loss of $9.2 million for the three months ended September 30, 2002, income of $2.8 million for the three months ended September 30, 2001, loss of $14.8 million for the nine months ended September 30, 2002 and income of $1.0 million for the nine months ended September 30, 2001.

During the three and nine months ended September 30, 2002 and 2001, certain fair value hedges were derecognized and therefore hedge accounting was discontinued during the period. Changes in the fair value of these derivative instruments after the discontinuance of fair value hedge accounting are recorded in gain on sales of loans held-for-sale and securities, net, in the consolidated statements of operations, which totaled $4.8 million of losses for the three months ended September 30, 2002, $5.6 million of losses for the three months ended September 30, 2001, $0.8 million of gains for the nine months ended September 30, 2002 and $23.0 million of losses for the nine months ended September 30, 2001. In addition, the Company recognized $7.4 million for the three months ended September 30, 2002, $0.04 million for the three months ended September 30, 2001, $1.9 million for the nine months ended September 30, 2002 and $1.1 million for the nine months ended September 30, 2001, of hedge ineffectiveness expense in fair value adjustments of financial derivatives, related to these derecognized fair value hedges during the fair value hedge accounting period.

The following table summarizes information related to our financial derivatives in fair value hedge relationships as of September 30, 2002 (dollars in thousands):

Assets Hedged	Notional Amount		Fair Value of Derivative								Weighted Average Pay Rate		Weighted Average Receive Rate		Weighted Average Strike Rate		Weighted Average Remaining Life (years)
Assets Hedged	Notional Amount		Asset		Liability			Total			Weighted Average Pay Rate		Weighted Average Receive Rate		Weighted Average Strike Rate
Loans:
Pay fixed interest rate swaps	$	692,000	$	—	$	(27,341	)	$	(27,341	)	4.05	%	1.84	%	—	%	1.98
Purchased interest rate options—caps		135,000		2,006		—			2,006		—		—		6.17		4.02
Purchased interest rate options—floors		95,000		3,701		—			3,701		—		—		4.94		3.85
Purchased options on forward starting pay fixed interest rate swaps		45,000		235		—			235		—		—		8.00		1.23

Total Loans		967,000		5,942		(27,341	)		(21,399	)	4.05		1.84		6.04		2.42

Mortgage-Backed Securities:
Pay fixed interest rate swaps		548,500		—		(33,843	)		(33,843	)	4.52		1.81		—		3.52
Purchased interest rate options—caps		1,200,000		33,891		—			33,891		—		—		5.86		4.99
Purchased interest rate options—floors		1,077,750		27,502		—			27,502		—		—		4.59		4.55
Purchased options on forward starting pay fixed interest rate swaps		80,000		1,176		—			1,176		—		—		8.00		2.28

Total Mortgage-Backed Securities		2,906,250		62,569		(33,843	)		28,726		4.52		1.81		5.35		4.47

Investment Securities:
Pay fixed interest rate swaps		221,500		—		(18,852	)		(18,852	)	4.95		1.97		—		6.18

Total Fair Value Hedges	$	4,094,750	$	68,511	$	(80,036	)	$	(11,525	)	4.36	%	1.83	%	5.42	%	4.08

Cash Flow Hedges

The Company uses interest rate swaps to hedge the variability of future cash flows associated with existing variable rate liabilities and forecasted issuances of liabilities. These cash flow hedge relationships are treated as effective hedges as long as the future issuances of liabilities remain probable and the hedges continue to meet the requirements of SFAS 133.

Fair value changes in interest rate swap hedging instruments relating to cash flows associated with time deposits, repurchase agreements and Federal Home Loan Bank (“FHLB”) advances are reported in other comprehensive income (“OCI”) as unrealized gains or losses. The amounts are then included in interest expense as a yield adjustment in the same periods in which the related interest on time deposits, repurchase agreements

and FHLB advances affect earnings. During the next 12 months, the Company expects to include a pre-tax amount of approximately $121.1 million of net unrealized losses presently reflected in OCI in interest expense as a yield adjustment in the same periods in which the related interest on time deposits, repurchase agreements and FHLB advances affect earnings. The Company expects to hedge the forecasted issuance of liabilities over a maximum term of seven years.

The Company terminated interest rate swaps with notional amounts of $360.5 million for the three months ended September 30, 2002 and $3.5 billion for the nine months ended September 30, 2002. These terminated swaps were in cash flow hedge relationships. The fair market value of the derivatives terminated was a loss of $(28.1) million for the three months ended September 30, 2002 and a loss of $(213.7) million for the nine months ended September 30, 2002, as of their respective termination dates. The loss accumulated in OCI on the derivative instruments terminated will be included as interest expense over the periods the hedged forecasted issuance of liabilities will affect earnings, which range from 1.8 to 3.2 years. Interest expense included $28.0 million during the three months ended September 30, 2002 and $46.3 million during the nine months ended September 30, 2002, related to terminated derivative contracts.

The Company measures ineffectiveness for these cash flow hedges in accordance with SFAS 133 and reports this amount as fair value adjustments of financial derivatives in the non-operating income (expense) section of its consolidated statements of operations. The Company recognized $2.7 million of income for cash flow hedge ineffectiveness for the three months ended September 30, 2002 and $8.0 million for the nine months ended September 30, 2002. The ineffectiveness for the three and nine months ended September 30, 2001 did not have a material impact on earnings.

The following table summarizes information related to our financial derivatives in cash flow hedge relationships hedging variable rate liabilities and the forecasted issuances of liabilities, as of September 30, 2002 (dollars in thousands):

Liabilities Hedged	Notional Amount		Fair Value of Derivative Asset		Fair Value of Derivative Liability			Fair Value of Derivative Total			Weighted Average Pay Rate		Weighted Average Receive Rate		Weighted Average Remaining Life (years)
Time Deposits:
Pay fixed interest rate swaps	$	430,000	$	—	$	(45,479	)	$	(45,479	)	6.72	%	2.33	%	2.64
Repurchase Agreements:
Pay fixed interest rate swaps		878,500		—		(52,591	)		(52,591	)	4.59		1.84		3.11
Federal Home Loan Bank Advances:
Pay fixed interest rate swaps		335,000		—		(30,040	)		(30,040	)	5.72		1.27		2.68

Total Cash Flow Hedges	$	1,643,500	$	—	$	(128,110	)	$	(128,110	)	5.38	%	1.85	%	2.90

Mortgage Banking Activities

The Company enters into commitments to originate loans whereby the interest rate on the loan is determined prior to funding; these commitments are referred to as Interest Rate Lock Commitments (“IRLCs”). IRLCs on loans that are intended to be sold are considered to be derivatives and are therefore recorded at fair value with changes in fair value recorded in earnings. The net change in the IRLCs and the related hedging instruments resulted in a net losses of $3.9 million for the three months ended September 30, 2002, losses of $0.2 million for the three months ended September 30, 2001, gains of $8.1 million for the nine months ended September 30, 2002 and losses of $6.6 million for the nine months ended September 30, 2001.

NOTE 7. EXTRAORDINARY GAIN ON EARLY EXTINGUISHMENT OF DEBT

The Company did not extinguish any debt prior to maturity nor did it record any extraordinary gain or loss on the early extinguishment of debt during the three months ended September 30, 2002.

The Company recorded an extraordinary gain on early extinguishment of debt of $3.2 million (net of tax expense of $2.2 million) for the nine months ended September 30, 2002. For the nine months ended September 30, 2002 amounts included a $5.2 million gain (net of tax expense of $3.5 million) on exchanges in the aggregate of $64.9 million of the Company’s 6% convertible subordinated notes for 6.5 million shares of common stock, offset by a $2.0 million loss (net of tax benefit of $1.3 million) as a result of the early redemptions of $100 million of adjustable rate advances from the FHLB. The FHLB advances were entered into as a result of normal funding requirements of the Company’s banking operations. The losses consisted primarily of prepayment penalties and costs associated with these early redemptions.

The Company recorded an extraordinary gain on early extinguishment of debt of $15.2 million (net of tax expense of $10.2 million) for the three months ended September 30, 2001 and $15.3 million gain (net of tax expense of $10.8 million) for the nine months ended September 30, 2001. For the three months ended September 30, 2001, amounts recorded included $16.9 million gain (net of tax expense of $11.3 million) on exchanges in the aggregate of $60.0 million of the Company’s 6% convertible subordinated notes for 6.4 million shares of common stock and repurchases in the aggregate of $25.0 million of the Company’s 6% convertible subordinated notes for $15.3 million paid in cash, offset by a $1.7 million loss (net of tax benefit of $1.1 million) recorded as a result of the early redemptions of $227 million of adjustable and fixed rate advances from the FHLB. For the nine months ended September 30, 2001 amounts included a $22.0 million gain (net of tax expense of $14.7 million) on exchanges in the aggregate of $90.0 million of the Company’s 6% convertible subordinated notes for 9.2 million shares of common stock and repurchases in the aggregate of $25.0 million of the Company’s 6% convertible subordinated notes for $15.3 million paid in cash, offset by a $6.7 million loss (net of tax benefit of $3.9 million) recorded as a result of the early redemption of $827 million of adjustable and fixed rate advances from the FHLB. The FHLB advances were entered into as a result of normal funding requirements of the Company’s banking operations. The losses consisted primarily of prepayment penalties and costs associated with these early redemptions. See also Note 20. Recent Accounting Pronouncements, discussion of EITF 02-15.

NOTE 8. GOODWILL AND OTHER INTANGIBLE ASSETS

On January 1, 2002, the Company adopted SFAS No. 142, Goodwill and Other Intangible Assets, which requires all intangible assets with finite useful lives be amortized and that goodwill and intangible assets with indefinite lives not be amortized, but rather tested upon adoption and at least annually for impairment. In accordance with SFAS 142, the Company discontinued the amortization of its recorded goodwill as of that date, identified its reporting units based on its current segment reporting structure and allocated all recorded goodwill, as well as other assets and liabilities, to the reporting units. The Company determined the fair value of its reporting units utilizing discounted cash flow models and relative market multiples for comparable businesses. The Company compared the fair value of each of its reporting units to its carrying value. This evaluation indicated that goodwill associated with its reporting units in the Global and Institutional and its Wealth Management segments were impaired. This impairment is primarily attributable to the change in the evaluation criteria for goodwill from an undiscounted cash flow approach, which was previously utilized under the guidance in Accounting Principle Board Opinion No. 17, to the fair value approach, which is stipulated in SFAS 142. A non-cash charge totaling $299.4 million was recorded as a change in accounting principle effective January 1, 2002 to write-off goodwill of $292.6 million related to the Company’s international retail Brokerage business in the Global and Institutional segment and $6.8 million in the Wealth Management segment. The changes in carrying value of the remaining goodwill following this impairment write down, by segment, as of September 30, 2002 was (in thousands):

	Domestic Retail Brokerage and Other		Banking		Total
Balance as of January 1, 2002, after impairment write down	$	147,172	$	114,554	$	261,726
Adjusted Goodwill due to Tradescape acquisition		77,370		—		77,370

Balance as of September 30, 2002	$	224,542	$	114,554	$	339,096

Other intangible assets, which will continue to be amortized on a straight-line basis, consist of the following (in thousands):

	Weighted Average Useful Life(1) (years)	As of September 30, 2002						As of December 31, 2001
		Gross Amount		Accumulated Amortization		Net Amount		Gross Amount		Accumulated Amortization		Net Amount
Specialist books	30	$	59,800	$	1,993	$	57,807	$	59,800	$	506	$	59,294
Active accounts(2)	7		54,229		18,088		36,141		52,599		7,514		45,085
ATM contracts	5		30,714		12,834		17,880		30,714		8,455		22,259
Deposit intangibles(2)	3		14,634		3,651		10,983		3,165		549		2,616
Proprietary agreements	7		16,800		800		16,000		—		—		—
Other	6		8,524		776		7,748		824		151		673

Total		$	184,701	$	38,142	$	146,559	$	147,102	$	17,175	$	129,927

(1)

The Company evaluated the useful lives of its other intangible assets and determined that they should continue to be amortized based on the original useful lives assigned on a straight-line basis.

(2)

Amortized using an accelerated method.

Amortization expense of other intangible assets was $6.9 million for the three months ended September 30, 2002, $21.2 million for the nine months ended September 30, 2002, $4.2 million for the three months ended September 30, 2001 and $6.9 million for the nine months ended September 30, 2001. Assuming no future impairments of these assets or additions as the result of acquisitions, annual amortization expense will be $6.9 million for the remainder of fiscal 2002, $26.1 million in fiscal 2003, $22.5 million in fiscal 2004, $13.9 million in fiscal 2005, $11.5 million in fiscal 2006 and $65.7 million thereafter.

A reconciliation of previously reported net income and earnings per share to the amounts adjusted for the exclusion of goodwill amortization is provided below (in thousands, except per share amounts):

	Three Months Ended September 30,
	2002						2001
	Amount		Per Share				Amount			Per Share
	Amount		Basic		Diluted		Amount			Basic			Diluted
Reported income (loss) before extraordinary items	$	20,678	$	0.06	$	0.06	$	(258,983	)	$	(0.77	)	$	(0.77	)
Add: Goodwill amortization		—		—		—		7,185			0.02			0.02

Adjusted income (loss) before extraordinary items		20,678		0.06		0.06		(251,798	)		(0.75	)		(0.75	)
Extraordinary gain		—		—		—		15,246			0.05			0.05

Adjusted net income (loss)	$	20,678	$	0.06	$	0.06	$	(236,552	)	$	(0.70	)	$	(0.70	)

	Nine Months Ended September 30,
	2002						2001
	Amount		Per Share				Amount			Per Share
	Amount		Basic		Diluted		Amount			Basic			Diluted
Reported income (loss) before extraordinary items and cumulative effect of accounting change	$	73,726	$	0.21	$	0.20	$	(278,455	)	$	(0.86	)	$	(0.86	)
Add: Goodwill amortization		—		—		—		21,581			0.07			0.07

Adjusted income (loss) before extraordinary items		73,726		0.21		0.20		(256,874	)		(0.79	)		(0.79	)
Extraordinary gain		3,174		0.01		0.01		15,320			0.04			0.04

Adjusted net income (loss)	$	76,900	$	0.22	$	0.21	$	(241,554	)	$	(0.75	)	$	(0.75	)

NOTE 9. NET INCOME (LOSS) PER SHARE

The following table sets forth the computation of the numerator and denominator used in the computation of basic and diluted net income (loss) per share (in thousands):

	Three Months Ended September 30,							Nine Months Ended September 30,
	2002				2001			2002						2001
	Basic income per share		Diluted income per share		Basic and diluted loss per share			Basic income (loss) per share			Diluted income (loss) per share			Basic and diluted loss per share
Numerator:
Income (loss) before extraordinary items and cumulative effect of accounting change	$	20,678	$	20,678	$	(258,983	)	$	73,726		$	73,726		$	(278,455	)
Extraordinary gain (loss) on early extinguishment of debt, net of tax		—		—		15,246			3,174			3,174			15,320
Cumulative effect of accounting change		—		—		—			(299,413	)		(299,413	)		—

Net income (loss)	$	20,678	$	20,678	$	(243,737	)	$	(222,513	)	$	(222,513	)	$	(263,135	)

Denominator:
Weighted average shares outstanding		359,640		359,640		336,469			354,535			354,535			323,833
Dilutive effect of options issued to associates		—		1,194		—			—			5,006			—
Dilutive effect of warrants outstanding		—		2,546		—			—			1,364			—

		359,640		363,380		336,469			354,535			360,905			323,833

Because the Company reported a loss before cumulative effect of accounting change for the three and nine months ended September 30, 2001, the calculation of diluted loss per share does not include common stock equivalents as they are anti-dilutive and would result in a reduction of loss per share. If the Company had reported net income for the three months ended September 30, 2001, there would have been 3,166,000 additional shares for options outstanding and 198,000 additional shares for warrants outstanding. If the Company had reported net income for the nine months ended September 30, 2001, there would have been 6,752,000 additional shares for options outstanding and 198,000 additional shares for warrants outstanding. Shares of common stock issuable under convertible subordinated notes were excluded from the calculations of diluted loss per share as the effect of applying the treasury stock method on an as-if-converted basis would be anti-dilutive. Shares of common stock issuable under convertible subordinated notes excluded from the calculation approximates 45,440,000 for the three months ended September 30, 2002, 54,709,000 for the three months ended September 30, 2001, 46,185,000 for the nine months ended September 30, 2002 and 40,205,000 for the nine months ended September 30, 2001.

The following options to purchase shares of common stock have not been included in the computation of diluted net income (loss) per share because the options’ exercise price was greater than the average market price of the Company’s common stock for the periods presented, and therefore, the effect would be anti-dilutive (in thousands, except exercise price data):

	Three Months Ended September 30,				Nine Months Ended September 30,
	2002		2001		2002		2001
Options excluded from computation of diluted net loss per share		36,114		33,237		26,259		18,656
Exercise price ranges:
High	$	58.19	$	58.19	$	58.19	$	58.19
Low	$	4.40	$	6.00	$	6.96	$	8.20

NOTE 10. BROKERAGE RECEIVABLES, NET AND PAYABLES

Brokerage receivables, net and payables consist of the following (in thousands):

	September 30, 2002		December 31, 2001
Receivable from customers and non-customers (less allowance for doubtful accounts of $3,525 at September 30, 2002 and $3,608 at December 31, 2001)	$	1,378,213	$	1,631,845

Receivable from brokers, dealers and clearing organizations:
Net settlement and deposits with clearing organizations		125,469		113,527
Deposits paid for securities borrowed		328,429		371,682
Securities failed to deliver		1,038		776
Other		9,222		21,323

Total brokerage receivables, net	$	1,842,371	$	2,139,153

Payable to customers and non-customers	$	2,243,671	$	2,018,352

Payable to brokers, dealers and clearing organizations:
Deposits received for securities loaned		405,896		648,168
Securities failed to receive		2,680		1,491
Other		39,964		31,973

Total brokerage payables	$	2,692,211	$	2,699,984

Receivable from and payable to brokers, dealers and clearing organizations result from the Company’s brokerage activities. Receivable from customers and non-customers represents credit extended to customers and non-customers to finance their purchases of securities on margin. Credit extended to customers and non-customers with respect to margin accounts was $1,022 million at September 30, 2002 and $1,537 million at December 31, 2001. Securities owned by customers and non-customers are held as collateral for amounts due on margin balances, the value of which is not reflected in the accompanying consolidated balance sheets. As of September 30, 2002, the Company has received collateral primarily in connection with securities borrowed and customer margin loans with a market value of $1,633 million, which it can sell or repledge. Of this amount, $503 million has been pledged or sold as of September 30, 2002 in connection with securities loans, bank borrowings and deposits with clearing organizations. Included in deposits paid for securities borrowed and deposits received for securities loaned at September 30, 2002 are amounts from transactions involving MJK Clearing, Inc. and three other brokers. The parties in this transaction have a dispute over the amounts owed, as more fully described in Note 15 “Commitments, Contingencies and Other Regulatory Matters.” Payable to customers and non-customers represents free credit balances and other customer and non-customer funds pending completion of securities transactions. The Company pays interest on certain customer and non-customer credit balances.

NOTE 11. INVESTMENTS

Investments are comprised of trading and available-for-sale debt and equity securities, as defined under the provisions of SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities. Also included in investments are investments in entities in which the Company owns between 20% and 50%, or in which there are other indicators of significant influence. These investments are generally accounted for using the equity method; those investments in which there is a less than 20% ownership are generally carried at cost. Investments consist of the following (in thousands):

	September 30, 2002		December 31, 2001
Trading securities	$	338,323	$	87,392
Available-for-sale investment securities		741,972		998,487
Equity method and other investments:
Joint ventures		60,742		28,664
Venture capital funds		19,916		17,553
Other investments		32,704		36,527

Total investments	$	1,193,657	$	1,168,623

Available-for-sale securities

The Company recorded impairment write downs of $12.0 million (on an investment of $80.7 million) for the three months ended September 30, 2002 and $16.4 million (on an investment of $80.7 million) for the nine months ended September 30, 2002, associated with interest only securities included in the available-for-sale securities portfolio. Impairment charges are recorded in Gain on sales of loans held-for-sale and securities, net, in the accompanying unaudited condensed statement of operations.

Unrealized gains related to available-for-sale investments were $5.6 million at September 30, 2002 and $6.9 million at December 31, 2001. Unrealized losses related to available-for-sale investments were $26.2 million at September 30, 2002 and $19.9 million at December 31, 2001. Unrealized gains and losses on available-for-sale securities are recorded in OCI in accordance with SFAS 115.

Equity method and other investments

The Company recorded impairment write downs of $7.7 million for the three months ended September 30, 2002, $33.0 million for the three months ended September 30, 2001, $10.8 million for the nine months ended September 30, 2002 and $43.5 million for the nine months ended September 30, 2001 associated with privately held equity investments. These impairments write downs are recorded in Loss on investments in the accompanying unaudited condensed statement of operations.

The Company recorded its share of impairment write downs of approximately $1.0 million for the three months ended September 30, 2002 and $3.1 million for the nine months ended September 30, 2002 associated with its investment in E*TRADE eCommerce Fund, L.P., a related party. These impairment write downs are recorded in Unrealized losses on venture funds in the accompanying unaudited condensed statement of operations. During the nine months ended September 30, 2002, the Company contributed approximately $6.5 million to E*TRADE eCommerce Fund, L.P. and $4.8 million to the ArrowPath Fund II, L.P, also a related party.

In June 1998, the Company entered into a joint venture agreement with SOFTBANK Corporation, a related party, forming E*TRADE Japan K.K. to provide a variety of securities trading services. As part of its commitment to the joint venture, the Company was required to provide a continuing level of systems support to E*TRADE Japan K.K. In April 2002, the Company entered into a definitive agreement to terminate its systems support obligations and agreed to provide transition services through July 2003. The Company incurred system

support costs of $0.9 million for the three months ended September 30, 2002, $0.7 million for the three months ended September 30, 2001, $3.3 million for the nine months ended September 30, 2002 and $1.7 million for the nine months ended September 30, 2001.

In May 2002, the Company purchased 31,250 of newly issued shares in E*TRADE Japan K.K. in exchange for 3.4 million shares of the Company’s common stock in a private transaction, valued based on the fair market value of the Company’s common stock on that day at $30.7 million. Following the transaction, the Company’s ownership in E*TRADE Japan K.K. increased from 29% to 36%.

NOTE 12. RELATED PARTY TRANSACTION

During the nine months ended September 30, 2002, the Company had outstanding advances to a founder and director of the Company, which were fully repaid by the director as of August 12, 2002. These advances accrued interest at a rate of 3.75% annually (based on the applicable federal rate) and were collateralized by shares of the Company’s common stock currently held in the name of the director. See also Note 11 Investments.

NOTE 13. LINE OF CREDIT AND OTHER BORROWINGS

The Company had a $50 million cash secured line of credit under an agreement with a bank that expired in October 2002. The Company does not plan to renew the line of credit.

The Company has multiple term loans from financial institutions. These loans are collateralized by equipment. Borrowings under these term loans bear interest at 3.00% to 3.25% above LIBOR (4.82% to 5.07% at September 30, 2002). The Company had approximately $26.1 million of principal outstanding under these loans at September 30, 2002, which is included in accounts payable, accrued and other liabilities.

NOTE 14. COMPANY-OBLIGATED REDEEMABLE CAPITAL SECURITIES

In June 2002, ETFC formed ETFC Capital Trust V (“ETFCCT V”), a business trust formed solely for the purpose of issuing capital securities, which ETFCCT V sold at par, 15,000 shares of Floating Rate Cumulative Preferred Securities, with a liquidation amount of $1,000 per capital security, for a total of $15.0 million and invested the net proceeds in ETFC’s Floating Rate Junior Subordinated Debentures. These subordinated debentures mature in 2032 and have a variable annual dividend rate at 3.65% above the three-month LIBOR interest rate, payable quarterly, beginning in September 2002. The majority of the net proceeds, or 69%, were invested in the Bank and used for the Bank’s general corporate purposes. The remaining net proceeds, or 31%, were held at ETFC for debt service coverage.

In April 2002, ETFC formed ETFC Capital Trust IV (“ETFCCT IV”), a business trust formed solely for the purpose of issuing capital securities, which ETFCCT IV sold at par, 10,000 shares of Floating Rate MMCapS, with a liquidation amount of $1,000 per capital security, for a total of $10.0 million and invested the net proceeds in ETFC’s Floating Rate Junior Subordinated Debentures. These subordinated debentures mature in 2032 and have a variable annual dividend rate at 3.70% above the six-month LIBOR interest rate, payable semi-annually, beginning in October 2002. The net proceeds were invested in the Bank and used for the Bank’s general corporate purposes.

NOTE 15. COMMITMENTS, CONTINGENCIES AND OTHER REGULATORY MATTERS

Legal Matters

In the ordinary course of its business, E*TRADE Securities, Incorporated engaged in certain stock loan transactions with MJK Clearing, Inc., (“MJK”), involving the lending of Nasdaq-listed common stock of GenesisIntermedia, Inc. (“GENI”), and other securities from MJK to E*TRADE Securities, Incorporated. Subsequently, E*TRADE Securities, Incorporated redelivered the GENI and/or other securities received from

MJK to three other broker-dealers, Wedbush Morgan Securities, (“Wedbush”), Nomura Securities, Inc., (“Nomura”) and Fiserv Securities, Inc., (“Fiserv”). On September 25, 2001, Nasdaq halted trading in the stock of GENI, which had last traded at a price of $5.90 before the halt. As a result, MJK was unable to meet its collateral requirements on the GENI and other securities with certain counterparties to those transactions. Subsequently, MJK was ordered to cease operations by the SEC. These events have led to disputes between certain of the participants in the above described stock loan transactions as set forth below. These actions seek various forms of equitable relief and seek repayment of a total of approximately $60 million, plus interest, received by E*TRADE Securities, Incorporated in connection with the GENI and other stock loan transactions. Additional actions may be pursued in the future against additional third parties for recovery of some or all of the losses that may ultimately be suffered in these transactions.

By a complaint dated October 1, 2001, a lawsuit was filed in the Superior Court for the State of California, County of Los Angeles entitled, “Wedbush Morgan Securities Inc. v. E*TRADE Securities, Inc.”, asserting claims for injunctive relief, specific performance, declaratory relief and breach of written contract and seeking (in addition to equitable relief) approximately $8 million in damages from E*TRADE Securities. Subsequently, Wedbush and E*TRADE Securities agreed to binding arbitration, and E*TRADE Securities filed an arbitration claim with the NYSE in November of 2001 asserting a claim for declaratory relief and seeking approximately $15 million in damages from Wedbush. Thereafter, Wedbush answered and filed a counterclaim with the NYSE against E*TRADE Securities on December 12, 2001 reasserting the breach of contract claim it set forth in its original complaint. At this time, we are unable to predict the outcome of this dispute.

By a complaint dated October 4, 2001, a lawsuit was filed in the United States District Court for the Eastern District of Pennsylvania entitled, “Fiserv Securities Inc. v. E*TRADE Securities, Inc.” Fiserv filed an amended complaint dated July 2, 2002, seeking $27 million in damages plus interest, punitive damages, attorney fees and other relief from E*TRADE Securities, Inc. for breach of contract, conversion and unjust enrichment. On July 17, 2002, E*TRADE Securities filed an amended answer denying Fiserv’s claims and asserting affirmative defenses. This case is scheduled to be placed in the trial pool on January 31, 2003; however, a trial date has not been set. At this time, we are unable to predict the ultimate outcome of this dispute.

By a complaint dated October 22, 2001, a lawsuit was filed in the United States District Court for the Southern District of New York entitled, “Nomura Securities International, Inc., v. E*TRADE Securities, Inc.” Nomura filed an amended complaint dated October 29, 2001, seeking approximately $10 million in damages plus interest, unspecified punitive damages, attorney fees and injunctive and other relief from E*TRADE Securities, Inc. for conversion and breach of contract. On November 19, 2001, E*TRADE Securities filed an amended answer and interposing affirmative defenses and three counterclaims for conversion, money had and received, and unjust enrichment seeking to recover approximately $5 million in damages plus interest, punitive damages, attorneys fees and other relief from Nomura. At this time, we are unable to predict the ultimate outcome of this dispute.

The Company is a defendant in other civil actions arising in the normal course of business. These currently include, among other actions, putative class actions alleging various causes of action for “unfair or deceptive business practices” that were filed against the Company between November 21, 1997 and March 11, 1999, as a result of various systems interruptions that the Company previously experienced. To date, only one of these putative class actions has been certified, and that ruling currently is under appeal; another ruling in a separate matter denying class certification has also been appealed by the plaintiff in that matter. The Company believes that these actions are without merit and intends to defend against them vigorously. An unfavorable outcome in any of these matters for which the Company’s pending insurance claims are rejected could harm the Company’s business.

Regulatory Matters

The securities and banking industries are subject to extensive regulation under federal, state and applicable international laws. As a result, the Company is required to comply with many complex laws and rules and its

ability to so comply is dependent in large part upon the establishment and maintenance of a qualified compliance system. From time to time, the Company has been threatened with, or named as a defendant in, lawsuits, arbitrations and administrative claims involving securities, banking and other matters. The Company is also subject to periodic regulatory audits and inspections. Compliance and trading problems that are reported to regulators such as the SEC, the New York Stock Exchange (“NYSE”), the National Association of Securities Dealers, Inc. (“NASD”) or the Office of Thrift Supervision (“OTS”) by dissatisfied customers or others are investigated by such regulators, and may, if pursued, result in formal claims being filed against the Company by customers and/or disciplinary action being taken against the Company by regulators. Any such claims or disciplinary actions that are decided against the Company could harm the Company’s business.

Insurance Matters

The Company maintains insurance coverage in such amounts and with such coverages, deductibles and policy limits as management believes are reasonable and prudent and has recently renewed its coverage. The principal insurance coverage it maintains covers comprehensive general liability, commercial property damage, hardware/software damage, directors and officers, employment practices liability, certain criminal acts against the Company and errors and omissions. The Company believes that such insurance coverage is adequate for the purpose of its business. The Company’s ability to maintain this level of insurance coverage in the future, however, is subject to the availability of affordable insurance in the market place.

Commitments

As of September 30, 2002, the Bank had commitments to purchase $583.0 million in fixed rate and $479.2 million in variable rate loans, commitments to sell $380.2 million in fixed rate and $3.3 million in variable rate loans, commitments to originate $1.1 billion in fixed rate and $86.5 million in variable rate loans and commitments to purchase $839.4 million and sell $1.8 million in mortgage-backed securities and asset-backed securities. In addition, the Bank had certificates of deposit approximating $2.4 billion scheduled to mature in less than one year. In the normal course of business, the Bank makes various commitments to extend credit and incur contingent liabilities that are not reflected in the accompanying unaudited condensed consolidated balance sheets.

NOTE 16. SHAREOWNERS’ EQUITY

Deferred Stock Compensation

Amortization of deferred stock compensation was $1.7 million for the three months ended September 30, 2002, $2.6 million for the three months ended September 30, 2001, $7.1 million for the nine months ended September 30, 2002 and $6.6 million for the nine months ended September 30, 2001.

Stock Repurchases

The Company repurchased and retired approximately 7.5 million shares of common stock for an aggregate purchase price of $28.4 million for the three months ended September 30, 2002 and 10.2 million shares for an aggregate purchase price of approximately $43.5 million for the nine months ended September 30, 2002. During the three and nine months ended September 30, 2001, the Company repurchased and retired approximately 10.1 million shares of the common stock for an aggregate purchase price of $52.2 million. These shares were repurchased under a multi-year stock buyback program approved by the Company’s Board of Directors in September 2001 authorizing the Company to repurchase up to 50.0 million shares of common stock. Included in these purchases, the Company acquired approximately 3.4 million shares of its common stock from SOFTBANK Holdings, Inc. in a private transaction at a purchase price of $3.60 per share. Pursuant to the stock buyback program, the Company remains authorized to repurchase up to 9.3 million additional shares. In August 2001, the Company reacquired approximately 7.0 million shares of its common stock in a private transaction valued at approximately $38.0 million. The Company has retired these shares.

NOTE 17. COMPREHENSIVE LOSS

The reconciliation of net income (loss) to comprehensive loss, a component of shareowners’ equity, is as follows (in thousands):

	Three Months Ended September 30,						Nine Months Ended September 30,
	2002			2001			2002			2001
Net income (loss)	$	20,678		$	(243,737	)	$	(222,513	)	$	(263,135	)
Changes in other comprehensive income (loss):
Unrealized gain (loss) on available-for-sale securities, net of tax		(4,038	)		66,386			(26,040	)		51,176
Reclassification of realized (gains) losses on available-for-sale securities, net of tax		(488	)		(8,491	)		29,175			(41,216	)
Unrealized loss on derivative instruments, net of tax, and reclassification adjustments (see Note 6)		(7,275	)		(92,730	)		(10,986	)		(117,541	)
Amortization of de-designated and terminated hedges and transition adjustments, net of tax		(17,362	)		(2,342	)		(26,462	)		8,568
Cumulative translation adjustments		(1,332	)		816			4,189			(3,204	)

Total changes in other comprehensive loss		(30,495	)		(36,361	)		(30,124	)		(102,217	)

Total comprehensive loss	$	(9,817	)	$	(280,098	)	$	(252,637	)	$	(365,352	)

NOTE 18. SEGMENT INFORMATION

The Company has separated its financial services into four categories: Domestic Retail Brokerage; Banking; Global and Institutional; and Wealth Management and Other. There have been no changes to these categories from fiscal 2001. As the Wealth Management and Other operations business represents emerging activities which are not currently material to the consolidated results and has characteristics comparable to the offerings of other retail brokerage firms, management has aggregated Wealth Management and Other with Domestic Retail Brokerage to form one of three reportable segments. Corporate administration costs are included in Domestic Retail Brokerage and Other.

Financial information for the Company’s reportable segments is presented in the table below, and the totals are equal to the Company’s consolidated amounts as reported in the unaudited condensed consolidated financial statements (in thousands):

	Domestic Retail Brokerage & Other			Banking		Global and Institutional			Total
Three Months Ended September 30, 2002:
Interest income, net of interest expense	$	38,397		$	55,131	$	1,664		$	95,192
Non-interest revenue, net of provision for loan losses		129,607			65,078		39,728			234,413

Net revenues	$	168,004		$	120,209	$	41,392		$	329,605

Operating income (loss)	$	16,571		$	54,398	$	(3,582	)	$	67,387

Three Months Ended September 30, 2001:
Interest income, net of interest expense	$	52,270		$	41,346	$	2,134		$	95,750
Non-interest revenue, net of provision for loan losses		98,881			56,230		41,299			196,410

Net revenues	$	151,151		$	97,576	$	43,433		$	292,160

Facility restructuring and other nonrecurring charges	$	194,305		$	18,522	$	14,422		$	227,249
Operating income (loss)		(222,784	)		20,936		(16,968	)		(218,816	)

Nine Months Ended September 30, 2002:
Interest income, net of interest expense	$	131,120		$	162,520	$	5,985		$	299,625
Non-interest revenue, net of provision for loan losses		396,305			165,738		114,876			676,919

Net revenues	$	527,425		$	328,258	$	120,861		$	976,544

Operating income (loss)	$	49,091		$	149,736	$	(12,301	)	$	186,526
Cumulative effect of accounting change	$	(6,823	)	$	—	$	(292,590	)	$	(299,413	)

Nine Months Ended September 30, 2001:
Interest income, net of interest expense	$	163,837		$	115,951	$	6,630		$	286,418
Non-interest revenue, net of provision for loan losses		395,760			132,101		115,641			643,502

Net revenues	$	559,597		$	248,052	$	122,271		$	929,920

Facility restructuring and other nonrecurring charges	$	194,305		$	18,522	$	14,422		$	227,249
Operating income (loss)		(235,336	)		67,769		(40,866	)		(208,433	)

As of September 30, 2002:
Segment assets	$	3,539,773		$	13,893,139	$	818,044		$	18,250,956

As of December 31, 2001:
Segment assets	$	4,272,345		$	13,458,433	$	441,636		$	18,172,414

No single customer accounted for greater than 10% of total revenues in the three and nine months ended September 30, 2002 or 2001.

NOTE 19. REGULATORY REQUIREMENTS

Registered Broker-Dealers

On August 30, 2002, E*TRADE Securities, Incorporated was reorganized and was renamed E*TRADE Securities LLC (“E*TRADE Securities”). Also on September 3, 2002, E*TRADE Clearing LLC (“E*TRADE Clearing”) became the clearing firm for E*TRADE Securities. E*TRADE Clearing (formerly E*TRADE Institutional Securities, Inc.) is a wholly-owned indirect subsidiary of the Company. In connection with the above, all cash balances and security positions in customer accounts previously maintained by E*TRADE Securities and associated liabilities were transferred to E*TRADE Clearing on September 3, 2002, and E*TRADE Clearing began performing clearance and settlement services for cash and margin accounts of customers of E*TRADE Securities.

The clearing arrangement involves a sharing of responsibilities pursuant to a written contract between E*TRADE Clearing, as clearing broker, and E*TRADE Securities, as introducing broker. As introducing broker, E*TRADE Securities is responsible for contacts with customers, including opening customer accounts, responding to general customer inquiries and placing customer orders with E*TRADE Clearing. As clearing broker, E*TRADE Clearing provides back office functions, including centralized cashiering, settlement of securities transactions with clearing houses, preparing customer trade confirmations and statements, safeguarding funds and securities in customer accounts and extending credit to margin customers, and other services.

E*TRADE Clearing may provide clearing services to independent third-party brokers and other financial institutions. However, because many of our competitors have longer operating histories and greater name recognition as clearing brokers, there is no assurance that E*TRADE Clearing will be successful in attracting clearing business from independent third-party customers. In addition, E*TRADE Clearing as a clearing member of the NYSE is subject to the various rules and regulations of the NYSE, in addition to the rules and regulations of the SEC and NASD.

E*TRADE Securities and E*TRADE Clearing are subject to the Uniform Net Capital Rule (the “Rule”) under the Securities Exchange Act of 1934 administered by the SEC, NYSE and the NASD, which requires the maintenance of minimum net capital. E*TRADE Securities and E*TRADE Clearing have elected to use the alternative method permitted by the Rule, which requires that E*TRADE Securities and E*TRADE Clearing maintain minimum net capital equal to the greater of $250,000 or two percent of aggregate debit balances arising from customer transactions, as defined.

Under the alternative method, a broker-dealer may not repay subordinated borrowings, pay cash dividends or make any unsecured advances or loans to its parent or employees if such payment would result in net capital of less than 5% of aggregate debit balances or less than 120% of its minimum dollar amount requirement. In January 2002, E*TRADE Securities paid a dividend to E*TRADE Group in the amount of $50 million.

The table below summarizes the minimum capital requirements for the Company’s U.S. broker-dealer subsidiaries (in thousands):

	September 30, 2002
	Required Net Capital		Net Capital		Excess Net Capital
E*TRADE Securities	$	250	$	26,651	$	26,401
E*TRADE Clearing	$	23,514	$	93,243	$	69,729
E*TRADE Global Asset Management, Inc.	$	135	$	12,422	$	12,287
E*TRADE Canada Securities Corporation	$	100	$	262	$	162
GVR Company, LLC	$	1,000	$	3,999	$	2,999
Dempsey & Company, LLC	$	902	$	23,507	$	22,605
Tradescape Securities, LLC	$	100	$	186	$	86
Momentum Securities, LLC	$	291	$	835	$	544

In June 2002, the Company discovered that Momentum Securities, LLC (“Momentum”) was deficient on its net capital for the month ending May 31, 2002. This deficiency was prior to the Company’s acquisition of Momentum effective June 3, 2002. Since its acquisition of Momentum, the Company contributed a total of

approximately $11 million to Momentum so that it meets all operational and capital requirements. Pursuant to the terms of an agreement with Tradescape Corporation (the former parent company of Momentum), the Company expects to receive payment from Tradescape Corporation for some or all of this amount, in part through the release and disposition of certain shares of the Company’s common stock previously held in escrow under the terms of the acquisition agreement. The Company has not waived any rights it has or may have against Tradescape Corporation, its shareholders or its employees for recovery of amounts that may be owing.

In April 2002, the Company closed E*TRADE Marquette Securities, Inc. and Web Street and subsidiary broker-dealers and consolidated the activities into its other broker-dealer subsidiaries. The Company’s international broker-dealer subsidiaries, located in Canada, Europe and South East Asia, have various and differing capital requirements, all of which were met at September 30, 2002. At September 30, 2002, these companies had an aggregate net capital of $68.2 million, required net capital of $32.2 million and excess net capital of $36.0 million.

Banking

The Bank is also subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory—and possibly additional discretionary—actions by regulators that, if undertaken, could have a direct material effect on the Bank’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank’s assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.

Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios of Total and Tier I Capital to risk-weighted assets, Core Capital to adjusted tangible assets and Tangible Capital to tangible assets. Management believes that, as of September 30, 2002 the Bank has met all capital adequacy requirements to which it was subject. As of September 30, 2002 and December 31, 2001, the OTS categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the Bank must maintain minimum Total and Tier I Capital to risk-weighted assets and Core Capital to adjusted tangible assets as set forth in the following table. There are no conditions or events since that notification that management believes have changed the institution’s category. Events beyond management’s control, such as fluctuations in interest rates or a downturn in the economy in areas in which the Bank’s loans or securities are concentrated, could adversely affect future earnings and consequently, the Bank’s ability to meet its future capital requirements.

The Bank’s required and actual capital amounts and ratios are presented in the table below (dollars in thousands):

	Actual			Required Minimum for Capital Adequacy Purposes			Required Minimum to be Well Capitalized Under Prompt Corrective Action Provisions
	Amount		Ratio	Amount		Ratio	Amount		Ratio
As of September 30, 2002:
Total Capital to risk-weighted assets	$	938,694	13.44%	$	558,587	8.0%	$	698,233	10.0%
Tier I Capital to risk-weighted assets	$	923,114	13.22%		N/A	N/A	$	418,940	6.0%
Core Capital to adjusted tangible assets	$	923,144	6.70%	$	551,022	4.0%	$	688,778	5.0%
Tangible Capital to tangible assets	$	923,144	6.70%	$	206,633	1.5%		N/A	N/A
As of December 31, 2001:
Total Capital to risk-weighted assets	$	836,866	11.52%	$	580,986	8.0%	$	726,233	10.0%
Tier I Capital to risk-weighted assets	$	819,367	11.28%		N/A	N/A	$	435,740	6.0%
Core Capital to adjusted tangible assets	$	819,367	6.07%	$	539,671	4.0%	$	674,588	5.0%
Tangible Capital to tangible assets	$	819,367	6.07%	$	202,377	1.5%		N/A	N/A

NOTE 20. RECENT ACCOUNTING PRONOUNCEMENTS

In April 2002, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 145, Rescission of FASB Statement No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections. SFAS 145 requires that any gains or losses on extinguishment of debt that were classified as an extraordinary item in prior periods that are not unusual in nature and infrequent in occurrence be reclassified to other income (expense), beginning in fiscal 2003, with early adoption encouraged. The Company expects to adopt the requirements of SFAS 145 in the fourth quarter of fiscal 2002.

In June 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities, which addresses accounting for restructuring and similar costs. SFAS 146 supersedes previous accounting guidance, principally EITF Issue No. 94-3. SFAS 146 requires that the liability for costs associated with an exit or disposal activity be recognized when the liability is incurred. Under Issue 94-3, a liability for an exit cost was recognized at the date of the Company’s commitment to an exit plan rather than when the liability is incurred. SFAS 146 also establishes that the liability should initially be measured and recorded at fair value. Accordingly, SFAS 146 may affect the timing of recognizing future restructuring costs as well as the amounts recognized. The Company will adopt the provisions of SFAS 146 for any restructuring activities which may be initiated after December 31, 2002.

In October 2002, the FASB issued SFAS No. 147, Acquisitions of Certain Financial Institutions, which addresses the financial accounting and reporting for the acquisition of all or part of a financial institution. The Statement removes acquisitions of financial institutions from the scope of FASB Statement No. 72, Accounting for Certain Acquisitions of Banking or Thrift Institutions, and FASB Interpretation No. 9, Applying APB Opinions No. 16 and 17 When a Savings and Loan Association or Similar Institution Is Acquired in a Business Combination Accounted for by the Purchase Method. This Statement also amends SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets to include long-term customer relationship intangible assets such as depositor-and-borrower relationship assets. Accordingly, SFAS 147 may affect the accounting for future acquisitions of all or part of a financial institution. The Company does not expect the adoption of the provisions of SFAS 147 on October 1, 2002 to have a material impact on its financial condition or results of operations.

In September 2002, the EITF reached a consensus on Issue 02-15, Determining Whether Certain Conversions of Convertible Debt to Equity Securities Are within the Scope of FASB Statement No. 84, Induced Conversions of Convertible Debt. The Task Force reached a consensus that SFAS 84 applies to all conversions that occur pursuant to revised conversion privileges that are exercisable only for a limited period of time and result in the issuance of all of the equity securities issuable pursuant to the original conversion terms of the debt offering, regardless of the party that initiates the offer or whether the offer relates to all debt holders. The consensus should be applied prospectively to all applicable inducements that close after September 12, 2002. The Company has adopted EITF 02-15 effective September 12, 2002. During the three months ended September 30, 2002, no convertible debt was retired through a conversion to equity.

NOTE 21. SUBSEQUENT EVENT

In October 2002, ETFC formed ETFC Capital Trust VI (“ETFCCT VI”), a business trust formed solely for the purpose of issuing capital securities, which ETFCCT VI sold at par, 20,000 shares of Floating Rate Cumulative Preferred Securities, with a liquidation amount of $1,000 per capital security, for a total of $20.0 million and invested the net proceeds in ETFC’s Floating Rate Junior Subordinated Debentures. These subordinated debentures mature in 2032 and have a variable annual dividend rate at 3.45% above the three-month LIBOR interest rate, payable quarterly, beginning in February 2003. The majority of the net proceeds, or 77%, were invested in the Bank and used for the Bank’s general corporate purposes. The remaining net proceeds, or 23%, were held at ETFC for debt service coverage.

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

Forward-Looking Statements

Statements made in this document, other than statements of historical information, are forward-looking statements that are made pursuant to the safe harbor provisions of Section 21E of the Securities Exchange Act of 1934. These forward-looking statements may sometimes be identified by words such as “expect”, “may”, “looking forward”, “we plan”, “we believe”, “are planned”, “could be” and “currently anticipate”. Although we believe these statements, as well as other oral and written forward-looking statements made by us or on behalf of E*TRADE Group, Inc. from time to time, to be true and reasonable, we can give no assurance that these plans, intentions or expectations will be achieved. Actual results, performance or achievements could differ materially from those contemplated, expressed or implied by the forward-looking statements. Important factors that could cause actual results to differ materially from our forward-looking statements are set forth in our other filings with the SEC, and in this document under the heading “Risk Factors”, beginning in the section captioned “Management’s Discussion and Analysis of Financial Condition and Results of Operations”. We caution that the risks and factors discussed below and in such filings are not exclusive. We do not undertake to update any forward-looking statement that may be made from time to time by or on behalf of E*TRADE.

Critical Accounting Policies and Estimates

The preparation of our financial results of operations and financial position require us to make judgments and estimates that may have a significant impact upon the financial results of the Company. Our estimation of accrued restructuring costs, determination of the allowance for loan losses, the classification and valuation of certain investments, valuation and accounting for financial derivatives, the recognition of deferred tax assets and the valuation of goodwill are particularly subject to management’s judgments and estimates and are important to the portrayal of our financial position. These areas are more fully described in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the year ended December 31, 2001.

Results of Operations

Key Performance Indicators

The following tables set forth several key performance indicators, including the operations of Tradescape (as that entity is defined in Note 2 to Unaudited Condensed Consolidated Financial Statements) since the date of acquisition on June 3, 2002, which management utilizes in measuring our performance and in explaining the results of our operations for the comparative three and nine months presented and as of September 30, 2002 and December 31, 2001 (dollars in thousands except cost per net new account and average commission per global brokerage transaction):

	September 30, 2002		December 31, 2001		Percentage Change
Active global brokerage accounts(1)(2)		3,659,628		3,511,941	4	%
Active banking accounts(3)		510,699		490,913	4	%

Total active accounts at period end		4,170,327		4,002,854	4	%

Total assets in global brokerage accounts(2)	$	32,982,171	$	44,764,197	(26	)%
Total deposits in banking accounts		8,245,161		8,082,859	2	%

Total assets/deposits in customer accounts at period end	$	41,227,332	$	52,847,056	(22	)%

	Three Months Ended September 30,				Percentage Change		Nine Months Ended September 30,				Percentage Change
	2002		2001		Percentage Change		2002		2001		Percentage Change
Net new global brokerage accounts(1)(2)		11,394		64,462	(82	)%		147,687		261,876	(44	)%
Net new banking accounts(3)		6,869		1,625	323	%		19,786		73,812	(73	)%

Total net new accounts		18,263		66,087	(72	)%		167,473		335,688	(50	)%

Cost per net new account	$	572	$	289	98	%	$	351	$	320	10	%

Total global brokerage transactions(2)(4)(5)		5,073,553		5,348,725	(5	)%		16,516,801		21,183,091	(22	)%

Daily average global brokerage transactions(2)(5)		79,274		90,656	(13	)%		87,855		115,125	(24	)%

Average commission per global brokerage transaction(2)(5)	$	12.49	$	13.28	(6	)%	$	13.05	$	13.55	(4	)%

(1)

Global brokerage accounts are considered active if the account has a positive asset balance, or if a trade has been made in the account in the past six months or if the account was opened in connection with a corporate employee stock benefit program. Customers may have separate or multiple accounts for each relationship they maintain with us, including separate or multiple brokerage and banking accounts.

(2)

Global brokerage account, transaction and asset data includes domestic and international information.

(3)

Bank deposit accounts are considered active if a customer account has been initially funded and the account is not considered abandoned or dormant under applicable Federal and State laws, and the account has not been closed. Bank loan accounts are considered active if the Company holds the underlying obligation or owns marketing rights to the account or customer.

(4)

For the three and nine months ended September 30, 2001, four fewer trading days are included as a result of the market closure following the events of September 11, 2001.

(5)

Excludes transactions and associated revenues from professional trading related to the acquisition of Tradescape, due to the lack of comparability of their commission structure.

The following table sets forth the increases and decreases in average customer margin balances, average customer money market fund balances, average stock borrow balances, average stock loan balances and average customer credit balances for the three and nine months indicated (dollars in millions):

	Three Months Ended September 30,				Percentage Change		Nine Months Ended September 30,				Percentage Change
	2002		2001		Percentage Change		2002		2001		Percentage Change
Average customer margin balances	$	1,089	$	1,938	(44	)%	$	1,363	$	2,301	(41	)%
Average customer money market fund balances	$	7,453	$	8,421	(11	)%	$	7,937	$	8,550	(7	)%
Average stock borrow balances	$	334	$	1,150	(71	)%	$	278	$	1,542	(82	)%
Average stock loan balances	$	397	$	1,599	(75	)%	$	433	$	2,168	(80	)%
Average customer credit balances	$	1,426	$	1,217	17	%	$	1,456	$	1,281	14	%

The following table sets forth the components of both gross and net revenues and percentage change information related to certain items on our consolidated statements of operations for the periods indicated (dollars in thousands):

	Three Months Ended September 30,						Percentage Change		Nine Months Ended September 30,						Percentage Change
	2002			2001			Percentage Change		2002			2001			Percentage Change
Brokerage revenues:
Commission	$	71,784		$	71,012		1	%	$	225,663		$	287,010		(21	)%
Principal transactions		52,438			33,721		56	%		159,845			96,334		66	%
Other brokerage-related		45,113			35,447		27	%		125,673			128,057		(2	)%
Interest income		42,742			71,020		(40	)%		146,768			252,483		(42	)%
Interest expense		(2,681	)		(16,616	)	(84	)%		(9,663	)		(82,016	)	(88	)%

Net brokerage revenues		209,396			194,584		8	%		648,286			681,868		(5	)%

Banking revenues:
Gain on sales of originated loans		30,749			28,146		9	%		78,037			62,201		25	%
Gain on sales of loans held-for-sale and securities, net		27,652			17,629		57	%		66,328			45,053		47	%
Other banking-related		10,853			10,455		4	%		33,314			27,946		19	%
Interest income		187,286			213,926		(12	)%		581,378			648,408		(10	)%
Interest expense		(132,155	)		(172,580	)	(23	)%		(418,858	)		(532,457	)	(21	)%
Provision for loan losses		(4,176	)		—		*			(11,941	)		(3,099	)	285	%

Net banking revenues		120,209			97,576		23	%		328,258			248,052		32	%

Total net revenues	$	329,605		$	292,160		13	%	$	976,544		$	929,920		5	%

Revenues

Beginning in January 2002, we changed our presentation of revenue, however, no changes to our accounting policies or methods were made in connection with this presentation change. Under the new presentation, net brokerage revenues consist of commissions, principal transactions, other brokerage-related revenues, interest income and interest expense. Commissions include domestic and international transaction revenues. Previously, international transaction revenues were included under the caption global and institutional. Beginning in June 2002, commissions also include onsite professional trading revenues. Principal transactions include revenues from institutional activities, previously included in global and institutional, and from market-making activities, previously included in other revenues. Other brokerage-related revenues include Business Solutions Group revenue, advertising revenue, professional trading rebate revenues, mutual fund revenue and fees for brokerage-related services, including account maintenance fees and order handling fees. Other brokerage-related revenues also include payment for order flow which was previously included in transaction revenues. Net banking revenues consist of gain on sales of originated loans, gain on sales of loans held-for-sale and securities, net, other banking-related revenues, interest income, interest expense and provision for loan losses. Other banking-related revenues are primarily comprised of automated teller machine (“ATM”) revenues.

Total net revenues increased 13% for the three months ended September 30, 2002 and 5% for the nine months ended September 30, 2002 from the comparable periods in 2001. Net brokerage revenues increased 8% for the three months September 30, 2002 and decreased 5% for the nine months ended September 30, 2002 from the comparable periods in 2001. The increase in brokerage revenues for the three months ended September 30, 2002 was mainly due to increases in principal transactions reflecting our acquisition of Dempsey in October 2001 and other brokerage-related revenues, offset by a decrease in net interest income. The decrease for the nine months ended September 30, 2002, was mainly due to decreases in commission revenues and net interest income, offset by an increase in principal transactions. Net banking revenues increased 23% for the three months ended

September 30, 2002 and 32% for the nine months ended September 30, 2002 from the comparable periods in 2001. This increase is due to continued widening of the net interest spread at the Bank. In addition, the continued decline in interest rates throughout the three months ending September 30, 2002 to 30-year lows favorably impacted our mortgage origination business and our correspondent business. This resulted in an increase in gain on sales of originated loans and an increase in gain on sales of loans held-for-sale and securities, net. The continued decline in interest rates through the three months ended September 30, 2002 to 30-year lows favorably impacted our mortgage origination business, resulting in an increase in gain on sales of originated loans. Further, banking revenues benefited from an increase in gain on sales of loans held-for-sale and securities, net.

Brokerage Revenues

Commission revenues, which are earned as customers execute securities transactions, increased 1% for the three months ended September 30, 2002 and decreased 21% for the nine months ended September 30, 2002 from the comparable periods in 2001. These revenues are primarily affected by global brokerage transaction volume, the average commission per global brokerage transaction, transaction mix and our professional trading business.

Total global brokerage transactions, excluding professional trading, decreased 5% for the three months ended September 30, 2002 and 22% for the nine months ended September 30, 2002 from comparable periods in 2001, largely reflective of a continuing market decline. Average commission per global brokerage transaction, excluding professional trading, decreased 6% from $13.28 for the three months ended September 30, 2001 to $12.49 for the three months ended September 30, 2002 and decreased 4% from $13.55 for the nine months ended September 30, 2001 to $13.05 for the nine months ended September 30, 2002. The decreases in average commission per global brokerage transaction can be partially attributed to the implementation of a simplified $9.99 flat commission rate program for the most active trader segment in June 2002. This new program, combined with a significant increase in the transactions generated by this customer segment for the three months ended September 30, 2002 compared to the same period in 2001, accounts for a majority of the decrease in the average commission per global brokerage transaction over the same period. The decrease for the nine months ended September 30, 2002, compared to the same period in 2001, was also impacted by transaction mix, with option transactions, which have higher commissions than equity transactions, representing a smaller percentage of total transactions for the nine months ended September 30, 2002, compared to the same period in 2001. Commissions from professional traders are based on share volumes as compared to transactions. The decrease in global brokerage transactions was offset by commission revenues from professional trading as a result of the acquisition of Tradescape in June 2002.

Principal transactions, which comprise institutional and market-making revenues increased 56% for the three months ended September 30, 2002 and 66% for the nine months ended September 30, 2002, from the comparable periods in 2001. These increases are primarily due to market-making revenues from the acquisition of Dempsey. There were no revenues from market-making activities prior to the acquisition of Dempsey in October 2001.

Other brokerage-related revenues, which are mainly comprised of payments for order flow, Business Solutions Group revenue, advertising revenue, professional trading rebate revenues, mutual fund revenues and fees for brokerage-related services, including account maintenance fees, electronic communication network (“ECN”) and order handling fees, increased 27% for the three months ended September 30, 2002 and decreased 2% for the nine months ended September 30, 2002, from the comparable periods in 2001. The increase for the three months ended September 30, 2002 is primarily due to additional order handling fees and ECN revenues from the acquisition of Tradescape. The decrease for the nine months ended September 30, 2002 is primarily due to a decrease in payment for order flow revenue partially offset by an increase in other brokerage-related fees. Following the acquisition of Dempsey in October 2001, revenues from order flow executed through Dempsey are eliminated in consolidated operating results. Further, the decrease in payment for order flow revenue is primarily due to competitive forces and the advent of decimalization in the major market exchanges beginning in January 2001 and implemented by Nasdaq in March 2001.

Interest income from brokerage-related activities is primarily comprised of interest earned by brokerage subsidiaries on credit extended to customers to finance purchases of securities on margin and fees on customer assets invested in money market accounts. Brokerage interest income decreased 40% for the three months ended September 30, 2002 and 42% for the nine months ended September 30, 2002, from the comparable periods in 2001. The decrease in brokerage interest income primarily reflects the decrease in average customer margin balances, which decreased 44% for the three months ended September 30, 2002 and 41% for the nine months ended September 30, 2002. The continued market decline over the past year and the economic recession has reduced borrowing on margin by customers as a means of leveraging their investments.

Interest expense from brokerage-related activities is primarily comprised of interest paid to customers on certain credit balances, interest paid to banks and interest paid to other broker-dealers through our brokerage subsidiary’s stock loan program. Brokerage interest expense decreased 84% for the three months ended September 30, 2002 and 88% for the nine months ended September 30, 2002, from the comparable periods in 2001. The decrease in brokerage interest expense primarily reflects an overall decrease in interest rates and average stock loan balances, which decreased 75% for the three months ended September 30, 2002 and 80% for the nine months ended September 30, 2002, from the comparable periods in 2001.

Banking Revenues

Gain on sales of originated loans increased 9% for the three months ended September 30, 2002 and 25% for the nine months ended September 30, 2002, from the comparable periods in 2001. The increase for the three and nine months ended September 30, 2002, is due to an increased level of volume of direct to customer originations driven by higher refinance and purchase volume as mortgage interest rates decreased to record lows through September 30, 2002.

Gain on sales of loans held-for-sale and securities, net consists primarily of gain on sales of Bank loans held-for-sale, available-for-sale mortgage-backed and investment securities, trading activity, impairment of Bank securities and gains and losses related to market value adjustments and sales of derivative financial instruments. Gain on sales of loans held-for-sale and securities, net increased 57% for the three months ended September 30, 2002 and 47% for the nine months ended September 30, 2002, from the comparable periods in 2001. We recognized impairment write downs associated with our interest only securities of $12.0 million for the three months ended September 30, 2002 and $16.4 million for the nine months ended September 30, 2002. Losses on derivative financial instrument sales decreased to $4.8 million for the three months ended September 30, 2002, from $5.6 million for the prior year quarter. For the nine months ended September 30, 2002, losses on derivative financial instruments were $0.8 million compared to losses of $22.9 million in the prior year nine-month period. Furthermore, gains on sales of Bank loans held-for-sale and available-for-sale mortgage-backed and investment securities increased 110% for the three months ended September 30, 2002 and increased 21% for the nine months ended September 30, 2002 from the comparable periods in 2001. As of September 30, 2002, we held $10 million of corporate bonds issued by the Qwest Corporation (“Qwest”), as part of our investment portfolio. As of September 30, 2002, the market value of the investment was $8.9 million. During the three months ended September 30, 2002, we decreased our exposure to Qwest from the level we held as of June 30, 2002 of $14.0 million to $8.9 million at September 30, 2002. We continue to monitor any developments related to Qwest’s ability to repay these bonds in accordance with their contractual repayment terms and do not believe any other than temporary impairment exists as of September 30, 2002.

Other banking-related revenues are comprised of ATM fees and other fees imposed on deposit accounts. Other banking-related revenues increased 4% for the three months ended September 30, 2002 and 19% for the nine months ended September 30, 2002, from the comparable periods in 2001. These increases are due to higher ATM transaction surcharge volume.

Interest income from banking-related activities reflects interest earned on assets, consisting primarily of loans receivable and mortgage-backed securities. Banking interest income decreased 12% for the three months

ended September 30, 2002 and 10% for the nine months ended September 30, 2002, from the comparable periods in 2001. Decreases in banking interest income reflect decreases in average yield reflecting the decline in market interest rates, partially offset by increases in average interest-earning banking asset balances and increases in higher yielding interest-earning assets such as the increase in the automobile loan portfolio. Average interest-earning banking assets increased 10% for the three months ended September 30, 2002 and 11% for the nine months ended September 30, 2002, from the comparable periods in 2001. The average yield on interest-earning banking assets decreased to 5.50% for the three months ended September 30, 2002 from 6.88% for the three months ended September 30, 2001 and decreased to 5.77% for the nine months ended September 30, 2002 from 7.15% for the nine months ended September 30, 2001.

Interest expense from banking-related activities is incurred through interest-bearing banking liabilities that include customer deposits, advances from the FHLB and other borrowings. Banking interest expense decreased 23% for the three months ended September 30, 2002 and 21% for the nine months ended September 30, 2002, from the comparable periods in 2001. The decrease in banking interest expense reflects a decrease in the average cost of borrowings partially offset by an increase in average interest-bearing banking liability balances. Average interest-bearing banking liability balances increased 12% for the three and nine months ended September 30, 2002, from the comparable periods in 2001. The average cost of borrowings decreased to 3.98% for the three months ended September 30, 2002 from 5.83% for the three months ended September 30, 2001 and decreased to 4.35% for the nine months ended September 30, 2002 from 6.22% for the nine months ended September 30, 2001. Net interest spread increased from 1.05% for the three months ended September 30, 2001 to 1.52% for the three months ended September 30, 2002 and increased from 0.93% for the nine months ended September 30, 2001 to 1.42% for the nine months ended September 30, 2002. This increase is the result of several initiatives put in place to improve overall spreads, such as the Bank’s asset diversification strategy and the Bank’s lower cost of funding caused by a shift in the structure of our deposit base from time deposits to transactional accounts that carry a lower cost of funds than certificates of deposits. In addition, decreases in wholesale funding rates also contributed to the decrease in the Bank’s overall funding costs.

The following tables present average balance data and income and expense data for our banking operations and the related interest yields and rates for the three and nine months ended September 30, 2002 and 2001. The tables also present information with respect to net interest spread and net interest margin (dollars in thousands):

	Three Months Ended September 30, 2002						Three Months Ended September 30, 2001
	Average Balance		Interest Income/ Expense		Average Annualized Yield/Cost		Average Balance		Interest Income/ Expense		Average Annualized Yield/Cost
Interest-earning banking assets:
Loans receivable, net	$	7,711,039	$	119,318	6.19	%	$	6,670,748	$	121,376	7.28	%
Interest-bearing deposits		181,613		1,128	2.46	%		257,257		1,751	2.70	%
Mortgage-backed and related available-for-sale securities		4,624,427		54,499	4.71	%		4,066,334		67,570	6.65	%
Available-for-sale investment securities		706,034		8,272	4.75	%		1,316,166		21,963	6.71	%
Investment in FHLB stock		80,482		1,332	6.56	%		57,503		868	5.98	%
Trading securities		333,037		2,737	3.29	%		75,347		398	2.11	%

Total interest-earning banking assets		13,636,632	$	187,286	5.50	%		12,443,355	$	213,926	6.88	%

Non-interest-earning banking assets		645,607						578,519

Total banking assets	$	14,282,239					$	13,021,874

Interest-bearing banking liabilities:
Retail deposits	$	7,917,438	$	79,101	3.96	%	$	7,786,062	$	110,007	5.65	%
Brokered callable certificates of deposit		305,232		2,187	2.84	%		—		—	0	%
FHLB advances		853,607		13,830	6.34	%		1,007,648		16,119	6.26	%
Other borrowings		4,092,579		37,037	3.54	%		2,953,331		46,454	6.15	%

Total interest-bearing banking liabilities		13,168,856	$	132,155	3.98	%		11,747,041	$	172,580	5.83	%

Non-interest bearing banking liabilities		319,387						511,087

Total banking liabilities		13,488,243						12,258,128
Total banking shareowner’s equity		793,996						763,746

Total banking liabilities and shareowner’s equity	$	14,282,239					$	13,021,874

Excess of interest-earning banking assets over interest-bearing banking liabilities/net interest income	$	467,776	$	55,131			$	696,314	$	41,346

Net interest spread					1.52	%					1.05	%

Net interest margin (net yield on interest-earning banking assets)					1.62	%					1.33	%

Ratio of interest-earning banking assets to interest-bearing banking liabilities					103.55	%					105.93	%

Return on average total banking assets*					0.68	%					0.52	%

Return on average banking equity*					12.31	%					8.84	%

Average equity to average total banking assets					5.56	%					5.63	%

Ratios calculated by excluding our Employee Stock Ownership Plan, merger related and restructuring costs of $10.2 million (net of tax expense of $8.3 million) for the three months ended September 30, 2001.

	Nine Months Ended September 30, 2002						Nine Months Ended September 30, 2001
	Average Balance		Interest Income/ Expense		Average Annualized Yield/Cost		Average Balance		Interest Income/ Expense		Average Annualized Yield/Cost
Interest-earning banking assets:
Loans receivable, net	$	7,606,226	$	364,594	6.39	%	$	6,400,360	$	360,692	7.51	%
Interest-bearing deposits		207,772		3,812	2.45	%		120,068		3,133	3.49	%
Mortgage-backed and related available-for-sale securities		4,448,100		170,611	5.11	%		4,247,114		216,440	6.79	%
Available-for-sale investment securities		921,551		34,727	5.07	%		1,168,265		61,504	7.06	%
Investment in FHLB stock		73,240		3,174	5.79	%		68,584		3,407	6.64	%
Trading securities		182,859		4,460	3.25	%		91,195		3,232	4.73	%

Total interest-earning banking assets		13,439,748	$	581,378	5.77	%		12,095,586	$	648,408	7.15	%

Non-interest-earning banking assets		599,224						456,829

Total banking assets	$	14,038,972					$	12,552,415

Interest-bearing banking liabilities:
Retail deposits	$	8,335,551	$	260,088	4.17	%	$	6,974,785	$	317,515	6.09	%
Brokered callable certificates of deposit		137,475		2,945	2.86	%		39,088		1,810	6.19	%
FHLB advances		877,847		42,313	6.36	%		1,302,415		64,052	6.49	%
Other borrowings		3,512,364		113,512	4.26	%		3,123,946		149,080	6.29	%

Total interest-bearing banking liabilities		12,863,237	$	418,858	4.35	%		11,440,234	$	532,457	6.22	%

Non-interest bearing banking liabilities		415,808						399,274

Total banking liabilities		13,279,045						11,839,508
Total banking shareowner’s equity		759,927						712,907

Total banking liabilities and shareowner’s equity	$	14,038,972					$	12,552,415

Excess of interest-earning banking assets over interest-bearing banking liabilities/net interest income	$	576,511	$	162,520			$	655,352	$	115,951

Net interest spread					1.42	%					0.93	%

Net interest margin (net yield on interest-earning banking assets)					1.62	%					1.28	%

Ratio of interest-earning banking assets to interest-bearing banking liabilities					104.48	%					105.73	%

Return on average total banking assets*					0.75	%					0.43	%

Return on average banking equity*					13.79	%					7.65	%

Average equity to average total banking assets					5.41	%					5.63	%

Ratios calculated by excluding our Employee Stock Ownership Plan, merger related and restructuring costs of $10.2 million (net of tax expense of $8.3 million) for the nine months ended September 30, 2001.

Allowance and Provision for Loan Losses

Allowance for loan losses

The allowance for loan losses represents management’s estimate of credit losses inherent in our loan portfolio as of the balance sheet date. Management performs regular reviews in order to identify these inherent losses, and to assess the overall collection probability of its portfolio. The determination of the allowance for loan losses involves the monitoring of delinquency, default, and historical loss experience. It also involves management’s estimates and assumptions regarding existing but yet unidentified losses caused by current economic conditions. As a part of our quarterly assessment for the period ending September 30, 2002, the allowance for loan losses for consumer loans was increased to provide for a minimum 12 months of expected losses. As of September 30, 2002, the total loan loss allowance was $15.7 million or 75.1% of total non-

performing loans of $20.9 million. As of December 31, 2001, the total loan loss allowance was $19.9 million or 96.1% of total non-performing loans of $20.7 million.

Activity in the allowance for loan losses is summarized as follows (in thousands):

	Three Months Ended September 30,						Nine Months Ended September 30,
	2002			2001			2002			2001
Allowance for loan losses, beginning of the period	$	15,709		$	15,080		$	19,874		$	12,565
Provision for loan losses		4,176			—			11,941			3,099
Charge-offs, net		(4,176	)		(1,141	)		(16,106	)		(1,725	)

Allowance for loan losses, end of period	$	15,709		$	13,939		$	15,709		$	13,939

The following table allocates the allowance for loan losses by major loan category. This allocation does not necessarily restrict the use of the allowance from absorbing losses in any other categories (dollars in thousands):

	Consumer (1)				Real Estate and Home Equity (2)				Total
	Allowance		Allowance as % of consumer loans held-for- investment		Allowance		Allowance as % of real estate loans held-for- investment		Allowance		Allowance as % of total loans held-for- investment
September 30, 2002	$	11,165	0.61	%	$	4,544	0.20	%	$	15,709	0.37	%
June 30, 2002	$	6,114	0.29	%	$	9,595	0.19	%	$	15,709	0.22	%
March 31, 2002	$	8,022	0.52	%	$	8,677	0.19	%	$	16,699	0.27	%
December 31, 2001	$	11,001	0.66	%	$	8,873	0.19	%	$	19,874	0.31	%

(1)

Primarily includes automobiles, mobile homes and recreational vehicles.

(2)

Primarily includes one-to-four family mortgage and home equity loans.

At September 30, 2002, the total loan loss allowance is comprised of $4.5 million allocated to real estate loans or 0.20% of real estate loans held-for-investment and $11.2 million allocated to consumer loans or 0.61% of consumer loans held-for-investment. At December 31, 2001, the loan loss allowance was comprised of $8.9 million allocated to real estate loans or 0.19% of real estate loans held-for-investment and $11.0 million allocated to consumer loans or 0.66% of consumer loans held-for-investment.

Provision for loan losses

The provision for loan losses was $4.2 million for the three months ended September 30, 2002, none for the three months ended September 30, 2001, $11.9 million for the nine months ended September 30, 2002 and $3.1 million for the nine months ended September 30, 2001.

Charge-offs

Loans are charged-off when, in the estimation of management, principal and interest due on an impaired loan will not be fully collected.

Net charge-offs increased from $1.1 million to $4.2 million for the three months ended September 30, 2001 and 2002, respectively, and from $1.8 to $16.1 million for the nine months ended September 30, 2001 and 2002, respectively. The increase in net charge-offs primarily relates to the seasoning of the consumer loan portfolio, as well as an increase in the consumer loan balance. Net charge-offs were also higher during the nine months ended September 30, 2002 due to losses related to purchased consumer loans. These losses were charged against a related $4.7 million component of the allowance acquired with the purchase of certain delinquent consumer loans in the fourth quarter of 2001.

The following table presents information concerning our banking loan portfolio, by type of loan, as of September 30, 2002 and December 31, 2001 (dollars in thousands):

	September 30, 2002
	Held-for- Investment			Held-for- Sale(1)		Total Loans
Real estate loans:
One- to four-family	$	2,063,403		$	3,202,430	$	5,265,833
Multi-family		—			108		108
Commercial		13,425			—		13,425
Mixed-use		125			99		224

Consumer and other loans:
Automobiles, mobile homes and recreational vehicles		1,838,149			—		1,838,149
Home equity lines of credit and second mortgage loans		259,208			181		259,389
Other		3,288			—		3,288

Total loans		4,177,598			3,202,818		7,380,416
Unamortized premiums (discounts), net		78,129			19,390		97,519
Less allowance for loan losses		(15,709	)		—		(15,709	)

Total	$	4,240,018		$	3,222,208	$	7,462,226


	December 31, 2001
	Held-for- Investment			Held-for- Sale(1)		Total Loans
Real estate loans:
One- to four-family	$	4,696,681		$	1,621,783	$	6,318,464